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Chapter 18: Q18-2E (page 1034)

Respond to the questions related to the following statements.

1. A wholly unperformed contract is one in which the company has neither transferred the promised goods or services to the customer nor received, or become entitled to receive, any consideration. Why are these contracts not recorded in the accounts?

2. Performance obligations are the unit of account for purposes of applying the revenue recognition standard and therefore determine when and how revenue is recognized. Is this statement correct?

3. Elaina Company contracts with a customer and provides the customer with an option to purchase additional goods for free or at a discount. Should Elaina Company account for this option?

4. The transaction price is generally not adjusted to reflect the customer鈥檚 credit risk, meaning the risk that the customer will not pay the amount to which the entity is entitled to under the contract. Comment on this statement.

Short Answer

Expert verified

Answer

According to the given scenarios, the transactions and events should be reported in the books of accounts according to the statedrules, standards, and associated principles.

Step by step solution

01

Step-by-Step SolutionStep 1: Meaning of Contract  

In business terms, a contract refers to an agreementenforceable by the law of a country.Further, an agreement must contain an offer, and another party should duly accept the same as a contract involvesat least two parties.

02

Treatment of wholly unperformed contract

When both parties do not perform their part associated with a specific transaction, it is termed as awholly unperformed contract. In the given scenario, there is no exchange of goods, services, and money; therefore, it is not recorded as revenue in the books of the company.

03

Comment on performance obligations

The given statement is correct because revenues are recognized in the books of accounts when performance obligations are fully satisfied by business entities. Also, onStep 4: Recording of transaction by Elaina Company revenues can be calculated and recognized.

04

Recording of transaction by Elaina Company

According to the given scenario, Elaina Company cannot record such transactions in the books of accounts because the company has offered an option to its customer. In addition, the same should not be recorded in the books until thecustomer avails such an offer.

05

Comment on credit risk

The given statement is incorrect because it does not consider the credit risk when a business entity determines the transaction price. In other terms, thecalculations of credit risks do not affect the transaction price.

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Most popular questions from this chapter

On October 2, 2017, Laplante Company sold \(6,000 of its elite camping gear (with a cost of \)3,600) to Lynch Outfitters. As part of the sales agreement, Laplante includes a provision that if Lynch is dissatisfied with the product, Laplante will grant an allowance on the sales price or agree to take the product back (although returns are rare, given the long-term relationship between Laplante and Lynch). Lynch expects total allowances to Lynch to be \(800. On October 16, 2017, Laplante grants an allowance of \)400 to Lynch because the color for some of the items delivered was a bit different than what appeared in the catalog.

Instructions

  1. Prepare journal entries for Laplante to record (1) the sale on October 2, 2017, (2) the granting of the allowance on October 16, 2017, and,
  2. Any adjusting required on October 31, 2017 (when Laplante prepares financial statements). Laplante now estimates additional allowances of $250 will be granted to Lynch in the future.
  3. Indicate the income statement and balance sheet reporting by Laplante at October 31, 2017, of the information related to the Lynch transaction.

Uddin Publishing Co. publishes college textbooks that are sold to bookstores on the following terms. Each title has a fixed wholesale price, terms f.o.b. shipping point, and payment is due 60 days after shipment. The retailer may return a maximum of 30% of an order at the retailer鈥檚 expense. Sales are made only to retailers who have good credit ratings. Past experience indicates that the normal return rate is 12%. The costs of recovery are expected to be immaterial, and the textbooks are expected to be resold at a profit.

Instructions

(a) Identify the revenue recognition criteria that Uddin could employ concerning textbook sales.

(b) Briefly discuss the reasoning for your answers in (a) above.

(c) On July 1, 2017, Uddin shipped books invoiced at \(15,000,000 (cost \)12,000,000). Prepare the journal entry to record this transaction.

(d) On October 3, 2017, \(1.5 million of the invoiced July sales were returned according to the return policy, and the remaining \)13.5 million was paid. Prepare the journal entries for the return and payment.

(e) Assume Uddin prepares financial statements on October 31, 2017, the close of the fiscal year. No other returns are anticipated. Indicate the amounts reported on the income statement and balance related to the above transactions.

Leno Computers manufactures tablet computers for sale to retailers such as Fallon Electronics. Recently, Leno sold and delivered 200 tablet computers to Fallon for $20,000 on January 5, 2017. Fallon has agreed to pay for the 200 tablet computers within 30 days. Fallon has a good credit rating and should have no difficulty in making payment to Leno. (a) Explain whether a valid contract exists between Leno Computers and Fallon Electronics. (b) Assuming that Leno Computers has not yet delivered the tablet computers to Fallon Electronics, what might cause a valid contract not to exist between Leno and Fallon?

(Franchise Fee, Initial Down Payment) On January 1, 2017, Lesley Benjamin signed an agreement, covering 5 years, to operate as a franchisee of Campbell Inc. for an initial franchise fee of \(50,000. The amount of \)10,000 was paid when the agreement was signed, and the balance is payable in five annual payments of $8,000 each, beginning January 1, 2018. The agreement provides that the down payment is nonrefundable and that no future services are required of the franchisor once the franchise commences operations on April 1, 2017. Lesley Benjamin鈥檚 credit rating indicates that she can borrow money at 11% for a loan of this type.

Instructions

(c) Repeat the requirements for part (a), assuming that Campbell must provide services to Benjamin throughout the franchise period to maintain the franchise value.

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.

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