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Chapter 18: Q18-1E (page 1034)

Presented below are five different situations. Provide an answer to each of these questions.

1. The Kawaski Jeep dealership sells both new and used Jeeps. Some of the Jeeps are used for demonstration purposes; after 6 months, these Jeeps are then sold as used vehicles. Should Kawaski Jeep record these sales of used Jeeps as revenue or as a gain?

2. One of the main indicators of whether control has passed to the customer is whether revenue has been earned. Is this statement correct?

3. One of the five steps in determining whether revenue should be recognized is whether the sale has been realized. Do you agree?

4. One of the criteria that contracts must meet to apply the revenue standard is that collectibility of the sales price must be reasonably possible. Is this correct?

5. Many believe the distinction between revenue and gains is important in the financial statements. Given that both revenues and gains increase net income, why is the distinction important?

Short Answer

Expert verified

Answer

According to the given cases, the revenues should be recognized in the books of the companyaccording to applicable principles stated by the respective authorities.

Step by step solution

01

Step-by-Step SolutionStep 1: Meaning of Financial Statements

Financial statements refer to the annual reports that contain one year鈥檚 financial transactions of a business concern. Such reports are drafted to ascertain the business'sfinancial health and economic positionand determine its growth.

02

Treatment of sales of used jeeps

Kawaski Jeep should record the amount received from the sale of old jeeps asrevenue because the company deals in both new and old jeeps. In addition, jeeps are the inventory for the company, notassets. Hence, it should be treated as revenue.

03

Passing of control to the customers

The given statement is correct. Revenues are considered to be earned when a seller of goods or services transfers thephysical possession or ownership in favor of a buyer irrespective of the receipt of payment. When sales take place, revenues are recognized, not when the amount is received.

04

Realization of sales

The given statement is correct. Under thefive-step approach to revenue recognition, one of the stages is the realization of sales, which is a must to recognize the revenues in the books of accounts. In other terms, sales must be made to record the revenues in the books of a business concern.

05

Collectability of the sales price

The given statement is correct because it is a must before revenues are recognized in the books; the sales price should be fixed, and collectability of the same must be reasonably assured. It facilitates the seller and buyer to determine their assets and liabilities.

06

Importance of distinction between revenues and gains

The distinction between revenues and gains is an important factor because it enables users and other stakeholders to identify revenue generation fromoperational and non-operational activitiesof the business concern.

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Most popular questions from this chapter

What is the proper accounting for volume discounts on sales of products?

Frozen Delight, Inc. charges an initial franchise fee of \(75,000 for the right to operate as a franchisee of Frozen Delight. Of this amount, \)25,000 is collected immediately. The remainder is collected in four equal annual installments of \(12,500 each. These installments have a present value of \)41,402. As part of the total franchise fee, Frozen Delight also provides training (with a fair value of $2,000) to help franchisees get the store ready to open. The franchise agreement is signed on April 1, 2017, training is completed, and the store opens on July 1, 2017. Prepare the journal entries required by Frozen Delight in 2017.

P18-6 (LO3) (Warranty, Customer Loyalty Program) Hale Hardware takes pride as the 鈥渟hop around the corner鈥� that can compete with the big-box home improvement stores by providing good service from knowledgeable sales associates (many of whom are retired, local handymen). Hale has developed the following two revenue arrangements to enhance its relationships with customers and increase its bottom line.

1. Hale sells a specialty portable winch that is popular with many of the local customers for use at their lake homes (putting docks in and out, launching boats, etc.). The Hale winch is a standard manufactured winch that Hale modifies so the winch can be used for a variety of tasks. Hale sold 70 of these winches in 2017 at a total price of \(21,000, with a warranty guarantee that the product was free of any defects. The cost of winches sold is \)16,000. The assurance warranties extend for a 3-year period with an estimated cost of \(2,100. In addition, Hale sold extended warranties related to 20 Hale winches for 2 years beyond the 3-year period for \)400 each.

2. To bolster its already strong customer base, Hale implemented a customer loyalty program that rewards a customer with 1 loyalty point for every \(10 of purchases on a select group of Hale products. Each point is redeemable for a \)1 discount on any purchases of Hale merchandise in the following 2 years. During 2017, customers purchased select group products for \(100,000 (all products are sold to provide a 45% gross profit) and earned 10,000 points redeemable for future purchases. The standalone selling price of the purchased products is \)100,000. Based on prior experience with incentives programs Problems 1045 like this, Hale expects 9,500 points to be redeemed related to these sales (Hale appropriately uses this experience to estimate the value of future consideration related to bonus points).

Instructions

(b) Prepare the journal entries for Hale related to the sales of Hale winches with warranties.

(Recognition of Revenue on Long-Term Contract and Entries) Hamilton Construction Company uses the percentage-of-completion method of accounting. In 2017, Hamilton began work under contract #E2-D2, which provided for a contract price of \(2,200,000. Other details follow:

2017 2018

Costs incurred during the year \)640,000 $1,425,000

Estimated costs to complete, as of December 31 960,000 鈥�0鈥�

Billings during the year 420,000 1,680,000

Collections during the year 350,000 1,500,000

Instructions

(a) What portion of the total contract price would be recognized as revenue in 2017? In 2018?

(b) Assuming the same facts as those above except that Hamilton uses the completed-contract method of accounting, what portion of the total contract price would be recognized as revenue in 2018?

(c) Prepare a complete set of journal entries for 2017 (using the percentage-of-completion method).

Question: P18-11 (LO5,6,7) EXCEL (Long-Term Contract with an Overall Loss) On July 1, 2017, Torvill Construction Company Inc. contracted to build an office building for Gumbel Corp. for a total contract price of \(1,900,000. On July 1, Torvill estimated that it would take between 2 and 3 years to complete the building. On December 31, 2019, the building was deemed substantially completed. Following are accumulated contract costs incurred, estimated costs to complete the contract, and accumulated billings to Gumbel for 2017, 2018, and 2019.

At 12/31/17

At 12/31/18

At 12/31/19

Contract cost incurred to date

\)300,000

\(1,200,000

\)2,100,000

Estimated cost to complete contract

1,200,000

800,000

0

Billings to Gumbel

300,000

1,100,000

1,850,000

Instructions

Using the percentage-of-completion method, prepare schedules to compute the profit or loss to be recognized as a result of this contract for the years ended December 31, 2017, 2018, and 2019. (Ignore income taxes.)
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