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7/29/2019 ABA201 -Chapter 8
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Chapter 8 – Revenue Recognition
Scope
This Standard shall be applied in accounting for revenue arising from the following transactions and
events:
(a) the sale of goods;
(b) the rendering of services; and
(c) the use by others of entity assets yielding interest, royalties and dividends.
Measurement of revenue
Revenue shall be measured at the fair value of the consideration received or receivable.
It is measured at the fair value of the consideration received or receivable
taking into account the amount of any trade discounts and volume rebates allowed by the entity.
Sale of goods
Revenue from the sale of goods shall be recognised when all the following conditions have been
satisfied:
(a) the entity has transferred to the buyer the significant risks and rewards of ownership of the goods;
(b) the entity retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
(c) the amount of revenue can be measured reliably;
(d) it is probable that the economic benefits associated with the transaction will flow to the entity; and
(e) the costs incurred or to be incurred in respect of the transaction can be measured reliably.
Rendering of services
When the outcome of a transaction involving the rendering of services can be estimated reliably, revenue
associated with the transaction shall be recognised by reference to the stage of completion of the
transaction at the end of the reporting period. The outcome of a transaction can be estimated reliably
when all the following conditions are satisfied:
(a) the amount of revenue can be measured reliably;
(b) it is probable that the economic benefits associated with the transaction will flow to the entity;
(c) the stage of completion of the transaction at the end of the reporting period can be measured
reliably; and
(d) the costs incurred for the transaction and the costs to complete the transaction can be measured
reliably.*
Interest, royalties and dividends
Revenue arising from the use by others of entity assets yielding interest, royalties and dividends shall
be recognised on the bases set out in paragraph 30 when:
(a) it is probable that the economic benefits associated with the transaction will flow to the entity; and
(b) the amount of the revenue can be measured reliably.
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Table 1 - Revenue Recognition Time Line and Criteria
Before the Point of
Sale
EXPECTION:
Revenue can be
recognized prior to
the point of sale it.
NORMAL:
Revenue is
generallyrecognized at this
point in time
After the Point of
Sales
EXCEPTION:
The recognition of
revenue must be
deffered it.
Criterion 1: Realized Customer provides
a valid promise of
payment AND
Criterion 1 is
typically satisfied
at this point.
Customer does not
provide a valid
promise at time of
receipt of product
or service OR
Criterion 2: Sunstantially complete Conditions existthat contractually
guarantee
subsequent sale
Criterion 2 istypically satisfied
at this point.
Significant effortremains on contract.
*Realized* can be interpreted as having cash or other assets received at some future time.
Revenue Recognition
AICPA Statement of Position 97-2 gives companies more guidance through a checklist of four factors
that amplify the two criteria:
1) Persuasive evidence of an arrangement exists.
2) Delivery has occurred.
3) The vendor’s fee is fixed or determinable.
4) Collectibility is probable.
Proportional Revenue Recognition
Most service contracts involve three different types of costs:
1. Initial direct costs related to obtaining and performing initial services on the contract
2. Direct costs related to performing the various service acts
3. Indirect costs related to maintaining the organization to service the contract
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Example
Sales of goods
Accounting for a Layaway Sale
Seller Company receives $100 cash from a customer. The $100 payment is a partial payment for goods
costing $1,000 with a total retail price of $1,500. The following entry shows the receipt of $100 cash as
initial layaway payment.
Cash 100
Deposit Received from Customers 100
Recording the receipt of the final $1,400 cash payment and the delivery of goods to customers requires
two entries. One to record the sale and the second to remove the item from inventory and to record its
cost.
Cash 1,400Deposit Received from Customer 100
Sales 1,500
Cost of Goods Sold 1,000
Inventory 1,000
Rendering of services
Appropriate Accounting for a Service Provided Over an Extended PeriodSeller Company receives $1,000 cash from a customer as the initial sign-up fee for a service. In addition
to the sign-up fee, the customer is required to pay $50 per month for the service. The expected economic
life of this service agreement is 100 months. An entry is required to show receipt of cash.
Cash 1,000
Unearned Initial Sign-up Fees 1,000
A second entry is required to record receipt of the monthly payment.
Cash 50
Monthly Service Revenue 50
Another entry is necessary to record partial recognition of the initial sign-up fee as revenue ($1,000/100
months).
Unearned Initial Sign-up Fees 10
Initial Sign-up Fee Revenue 10
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Rendering of service: Appropriate Accounting for a Contingent Rental
On January 1, the company signed a 1-year rental for a total of $120,000, with monthly payments of
$10,000 due at the end of each month. In addition, the renter must pay contingent rent of 10% of all
annual sales in excess of $3,000,000 each month. The contingent payment is paid in one payment on
December 31.
Rendering of service: Appropriate Accounting for a Contingent Rental
On January 31, sales for the renter had reached $700,000. On July 31, the renter had reached a sales
level of $3,150,000. On December 31, the renter had reached a sales level of $5,000,000.
Sale of Goods and Rendering of service: Asset-and-Liability Approach
A Contract Approach to Revenue Recognition
Wilks Company sells a plasma TV and 2-year warranty to a customer for the joint price of $2,000. Wilks
Company has generated the following information regarding the sale of the plasma TV.
• Cost of plasma TV, $1,500
• Sales price of plasma TV sold separately is unknown. Other consumer electronic products have
profit margins that range between 16% and 22% of cost.
• Sales price of warranty if sold separately, unknown. A 2-year warranty for a refrigerator/freezer
with the same wholesale cost sells for $300. Wilks estimates that repair costs for the plasma TV
would be 5% higher ($300 + ($300 x .05) = $315).
TV delivery obligation: $1,700 = $2,000 x [$1,785/($1,785 + $315)]
Warranty service obligation: $300 = $2,000 x [$315/$1,785 + $315)]
Rendering of service: Accounting for Long-Term Service Contracts
- A school enters into 100 contracts with students for a course.
- Each contract is $500, payable in advance.
- The total initial direct casts is $5,000.
- Actual direct costs for the first period are $12,000.
- The sales value of the lessons completed is $24,000 (if sold separately, $60,000)
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Accounting for Consignments
Seller Company ships goods costing $1,000 on consignment to Consignee Company. The retail price of
the goods is $1,500.
-No sale should be recorded. However, there may be a journal entry made to reclassify the
inventory.-
Inventory on Consignment 1,000 Inventory 1,000