Chapter 6: Revenue and Expense Recognition

Assignment 6-2

a)Interest revenue is recognized as time passes according to amount earned.

b)Interest revenue is recognized as time passes according to amount earned.

c)Revenue would be recognized on a cost recovery basis, where payments received would be considered repayment of principal until all the principal is recovered, with any additional payments received being recognized as interest revenue.

d)Revenue recognition would be deferred until the service of transporting the passenger is completed.

e)Revenue would be recognized as soon as the transporting of the freight is completed (delivery).

f)The change in the fair value of the maturing trees can be recognized as a gain or loss each year until harvest and sale, at which point the final gain/loss will be recognized (biological assets).

g)Revenue will be recognized as the completed houses are sold and delivered to a customer. Completed houses are included in inventory at cost.

h)Revenue could and likely would be recognized on a percentage-of-completion basis, without regard to when payment is received or when the completed houses are delivered to the purchaser.

i)Either the instalment sales method or the cost recovery method would be used to recognize revenue. In this case the more usual treatment is the instalment sales method unless collectibility is in doubt.

j)Revenue would be recognized as it is earned, which in this case will be with the passage of time, i.e., straight-line over 24 months. The large initial payment will be accounted for as a deferred revenue.

k)Because it is not possible to reliably determine the costs for completion and the potential gain or loss on this project, revenue should be recognized only to the extent of costs incurred and expensed.

l)It would be permissible to recognize revenue at fair market value as the silver is produced. Subsequent increases and decreases in market value would be recognized as gains and losses. However, this is permitted under IFRS only if this practice is widely accepted in the industry. If this method is not generally accepted in the industry, revenue would be recognized only when the silver is sold.

Assignment6-7 (WEB)

Requirement 1

(b) Revenue Recognition on

Date(a) DeliveryCash Receipt(c) Preparation

18 July / Inventory / 456,000 / Inventory / 456,000 / Inventory / 456,000
Cash / 456,000 / Cash / 456,000 / Cash / 456,000
24 August / Inventory / 60,000 / Inventory / 60,000 / Inventory / 60,000
Cash / 60,000 / Cash / 60,000 / Cash
Inventory
COS
Sales / 196,000
516,000 / 60,000
712,000
10 September / Accts Rec / 712,000 / Accts Rec / 712,000 / Accts Rec / 712,000
Sales / 712,000 / Inventory
Deferred
gross
margin / 516,000
196,000 / Inventory / 712,000
COS
Inventory / 516,000 / 516,000
22 November / Cash / 712,000 / Cash / 712,000 / Cash / 712,000
Accts Rec / 712,000 / Accts Rec
COS
Deferred gross
margin
Sales / 516,000
196,000 / 712,000
712,000 / Accts Rec / 712,000

Solutions Manual to accompany Intermediate Accounting, Volume 1, 5th edtion 6-1

Requirement 2

Delivery is the normal revenue recognition point, based on the presumption that the risks and rewards of ownership pass on this date and that the sales amount is realizable. Revenue recognition on cash receipt is appropriate when the account receivable is considered so doubtful that it fails the realizability test; in these circumstances, revenue cannot be recognized prior to collection. Revenue recognition on production is appropriate only for commodities with stable sales prices and markets where the sales effort and costs are trivial but is not permitted under IFRS except for biological assets and agricultural produce.

Solutions Manual to accompany Intermediate Accounting, Volume 1, 5th edtion 6-1

Intermediate Accounting, Volume 1, 5thedition 1

Assignment 6-8

Requirement 1

Date / 30 September / 15 October / 25 October
30 August / Inventory / 4,300 / Inventory / 4,300 / Inventory / 4,300
Cash, etc. / 4,300 / Cash, etc. / 4,300 / Cash, etc. / 4,300
30 September / Inventory / 640 / Inventory / 640 / Inventory / 640
Cash / 640 / Cash / 640 / Cash / 640
Inventory / 8,560
COGS / 4,940
Sales / 13,500
Bad debt exp. / 155
Sales returns / 675
Allowance* / 830
15 October / Accts rec / 13,500 / Accts rec / 13,500 / Accts rec / 13,500
Inventory / 13,500 / Sales / 13,500 / Def’d gross margin / 8,560
Inventory / 4,940
COGS / 4,940
Inventory / 4,940
Bad debt exp. / 155
Sales returns / 675
Allowance / 830
25 October / Allowance / 675 / Allowance / 675 / Sales returns** / 675
Accts rec / 675 / Accts rec / 675 / Accts rec / 675
COGS / 4,940
Def’d gross margin / 8,560
Sales / 13,500
Bad debt expense / 155
Allowance / 155
30 November / Cash / 12,670 / Cash / 12,670 / Cash / 12,670
Allowance / 155 / Allowance / 155 / Allowance / 155
Accts Rec / 12,825 / Accts Rec / 12,825 / Accts Rec / 12,825

* Allowance would be shown as a contra account to inventory until accounts receivable are recognized.

** Or sales—this entry may be netted with the next. However, it seems more appropriate to capture the sales returns since they were problematic.

Intermediate Accounting, Volume 1, 5thedition 1

Requirement 2

At each critical event, net assets (equity) is affected by the sales and expense accounts. Prior to that point, and after that point, entries affect the distribution within net assets but not the total net amount.

Requirement 3

Recognition at production is appropriate for a commodity with an organized market, where sale is trivial, the producer cannot affect price, and also if all costs are known and can be accrued. This point is acceptable under IFRS, but only for biological assets and agricultural produce, and for minerals and mineral products, but then only if this valuation basis is widely used within the industry. Canadian ASPE accepts this revenue recognition point only for biological assets and agricultural produce.
Delivery is an appropriate critical event most of the time, as risks and rewards pass to the customer. However, sales amounts have to be realizable and all costs estimable and accrued on this date.
Revenue recognition after the right of return has passed is appropriate if returns cannot be predicted.

Assignment 6-10

Requirement 1

Cash...... 532,000

Deferred gross margin...... 244,000

Inventory (48,000 × $6)...... 288,000

Requirement 2

Inventory (4,500 × $6)...... 27,000

Deferred gross margin*...... 20,000

Cash...... 47,000

*(3,500 × $4) + (1,000 × $6)

Solutions Manual to accompany Intermediate Accounting, Volume 1, 5th edition6-1

Requirement 3

Month
of Sale / Units
Sold / Sales
Price / Monthly
Sales / Gross Units
ROR Expired * / Total Units
Returned / Net Units
ROR Expired † / ROR Expired
Sales Amount §
September / 10,000 / $10 / $100,000 / 4,000 / 2,500 / 1,500 / $15,000
October / 12,000 / 10 / 120,000 / 3,600 / 1,000 / 2,600 / 26,000
November / 15,000 / 12 / 180,000 / 3,000 / 1,000 / 2,000 / 24,000
December / 11,000 / 12 / 132,000 / 1,100 / 0 / 1,100 / 13,200
Totals / 48,000 / $532,000 / 11,700 / 4,500 / 7,200 / $78,200

*Gross number of units sold this month, times 10% times number of months since sale. For example, at 31 December, 20x5, four months have passed since the September sales, thus 4 × 10%, or 40% of the right of return (ROR) has expired; (40% × 10,000 units = 4,000 units).

†Equal to gross units for which ROR expired, less units returned.

§Equal to Net units for which ROR has expired times sale price per unit for this month sales.

Realized gross margin in 20x5 = $78,200 – (7,200 units × $6) = $78,200 – $43,200 = $35,000

To record realized gross margin on expired and unused right of return units

shipped:

Cost of Goods Sold (7,200 × $6)...... 43,200

Deferred gross margin...... 35,000

Sales...... 78,200

Solutions Manual to accompany Intermediate Accounting, Volume 1, 5th edition 6-1

Requirement 4

Month
of Sale / Units Available
for Return or Sale** / Units
Returned / Units Sold
in 20x6 †† / Unit Sale
Price / Sales
Amount
September / 6,000 / 1,000 / 5,000 / $10 / $ 50,000
October / 8,400 / 2,000 / 6,400 / 10 / 64,000
November / 12,000 / 2,500 / 9,500 / 12 / 114,000
December / 9,900 / 4,000 / 5,900 / 12 / 70,800
9,500 / 26,800 / $298,800
× $6 / × $6
Cost of returns / $57,000
Costs of units sold / $160,800

** Equal to total sold for this month, less those returned or recorded as sold in 20x5 (see Requirement 3).

†† Equal to Units available (column 2) less units returned.

Entry to record returns in 20x6:

Inventory (9,500 units × $6)...... 57,000

Deferred gross margin...... 51,000

Cash...... 108,000*

*Refund amount on returned units:

(1,000 units × $10) + (2,000 units x $10) + ($2,500 units × $12) + (4,000 units × $12) = $108,000

Entry to record realized gross margin in 20x6 related to 20x5 sales:

Cost of goods sold...... 160,800

Deferred gross margin...... 138,000

Sales...... 298,800

Reconciliation:

Total units sold in period September–December...... 48,000

Total dollar sales amount for period September–December...$532,000

Cost of units sold in period September–December...... 288,000

Total gross margin...... $244,000

Units:20x520x6Total

Returned...... 4,5009,50014,000

Not returned (sold)...... 7,200 26,800 34,000

Totals...... 11,700 36,300 48,000

Gross Sales:

Returned...... $ 47,000$108,000$155,000

Not returned...... 78,200 298,800 377,000

Totals...... $125,200$406,800$532,000

Cost of sales:

Returned...... $ 27,000$ 57,000$ 84,000

Not returned (sold)...... 43,200 160,800 204,000

Totals...... $ 70,200$217,800$288,000

Gross margin:

Returned (not realized)...... $ 20,000$ 51,000$ 71,000

Not returned (sold)...... 35,000 138,000 173,000

Totals...... $ 55,000$189,000$244,000

Assignment 6-27

a. There is no commercial substance to this transaction, and therefore the new truck is recorded at the net book value of the old truck plus the cash paid:

Truck (new)………………………………………………. / 60,000
Accumulated amortization (old)………………………….. / 60,000
Truck (old)……………………………………. / 100,000
Cash……………………………………………. / 20,000

b. This transaction has commercial substance since it enables a new type of operation for Rochester Shipping Company and thereby can be expected to significantly affect the future cash flows of the company. It seems likely that the fair value of the land and building given up is more readily determinable than the fair value of the boat, since it remained unsold for two years and also requires substantial work before it can return to service. Therefore, the boat should be recorded based on the fair value of the land and building.

Ferry …………………………………………………….. / 1,150,000
Accumulated amortization – building……………………. / 210,000
Building………………………………………... / 700,000
Land……………………………………………. / 300,000
Gain on capital asset disposal……………… / 360,000

The additional cost for necessary upgrading and maintenance is added to the cost of the boat when the work is done:

Ferry…………………………………………………….. / 350,000
Cash, accounts payable, etc………………….. / 350,000

This brings the recorded ferry value to $1,500,000, which may exceed fair value. Alternatively, the $1,500,000 may be appropriate; it depends on whether the expenditures improve the ferry, or just get it into serviceable shape.

The value now assigned to the ferry should be reviewed. It should be reduced if it is more than fair value. If it is reduced, it seems logical that the gain on capital asset disposal should be reduced rather than a loss recorded.

Assignment 6-28

Requirement 1

Entry #Effect on net assets

1No change

2No change

3Increase

4Decrease

5Decrease

6No change

7No change

8Decrease

9No change

10No change

When sales are recognized, inventory is increased. Therefore, the revenue recognition point is production, or inventory acquisition.

Requirement 2

AssetExplanation

InventoryFuture cash from sale; measured at sales amount

Prepaid insuranceFuture benefits obtained through coverage

Accounts receivableFuture cash on collection

CashCash !

Requirement 3

ExpenseI or DExplanation

Cost of goods soldDAll expenses are related to normal business

Warranty expenseDactivities, cause net assets to decline, and

Commission expenseDhave no future benefit past the revenue

Insurance expenseIrecognition point.

Intermediate Accounting, Volume 1, 5thedition 1