18 Revenue Recognition

Question 1

List the five steps of revenue recognition.

Answer 1

Step 1—Identify the contract with a customer.
Step 2—Identify the performance obligation(s) in the contract.
Step 3—Determine the transaction price.
Step 4—Allocate the transaction price to the performance obligation(s) in the contract.
Step 5—Recognize revenue when the entity satisfies the performance obligation(s).

Question 2

When are costs to fulfill a contract recorded as an asset and amortized over the contract period (i.e., the period that benefits from those costs)?

Answer 2

Costs to fulfill a contract are recorded as an asset that is amortized over the contract period when the costs are directly traceable to the contract and are incremental (i.e., the costs would not have been incurred if the contract had not occurred).

Question 3

When a contract modification does not result in a new contract, describe how an entity should calculate the price to recognize as revenue for the remaining goods to be transferred to the customer.

Answer 3

An entity may use a blended price approach. To calculate the blended price per product, the entity should multiply the remaining quantity of products from the original contract by the price from the original contract. Then the entity should multiply the additional quantity by the new price. The two resulting amounts are added together to calculate the total revenue left from the original contract and the contract modification. The total is divided by the total remaining quantity of product to be transferred.

Question 4

For a contract modification to result in a new separate contract, two criteria must be met. Describe the two criteria.

Answer 4

1. The goods or services covered in the modification must be distinct from the original goods or services.
2. The consideration for the additional goods or services must reflect stand-alone pricing.

Question 5

The total standalone selling price for three separate performance obligations in a contract is $100,000. The first performance obligation has a standalone selling price of $45,000. What proportion of the total contract transaction price should be allocated to the first performance obligation?

Answer 5

Performance obligation 1 = 45,000/100,000 = .45 or 45%

Question 6

Describe how a single total transaction price is allocated to multiple separate performance obligations.

Answer 6

The total transaction price is allocated based on the proportion of the total standalone selling price represented by each performance obligation. The proportion is found by dividing the standalone price for the performance obligation by the total of the standalone prices for the performance obligations. The proportion for each performance obligation is then multiplied by the total transaction price to determine the amount of the total transaction price that will be allocated to each performance obligation.

Question 7

How is a transaction price allocated across multiple performance obligations?

Answer 7

The transaction price should be allocated to the separate performance obligations proportionately based on the stand-alone pricing of the goods or services identified as separate performance obligations.

Question 8

Describe the criteria used to identify separate performance obligations.

Answer 8

A contract may include more than one performance obligation. For a performance obligation to be separate, the good or service must be distinct from other goods or services in the contract. A good or service is distinct if a customer can benefit from the good or service on its own.

Question 9

How is the transaction price allocated for a contract with performance obligations that are not distinct from each other?

Answer 9

If a contract contains promises that are not distinct from each other, then the goods or service promised in the contract represent a single performance obligation. The total contract price is allocated to the single performance obligation.

Question 10

What are the two methods of determining transaction price when a contract includes variable consideration?

Answer 10

1. Expected value approach
2. Most likely amount approach

Question 11

What is the percentage of completion of a project when an overall loss on the contract is expected?

Answer 11

Same as usual; total cost to date divided by total estimated project cost

Question 12

When is the balance in construction in progress the same for the percentage-of-completion method and the completed contract method?

Answer 12

When an overall loss is expected on the contract

Question 13

What is the amount of loss recognized in a period under the percentage-of-completion method when the estimated total project cost exceeds the contract price and gross profit was recognized in previous years?

Answer 13

Total project cost less contract price, plus gross profit recognized in previous years

Question 14

Describe the revenue recognized under the percentage-of-completion method for the second year of a contract.

Answer 14

Total revenue through year 2 based on the percentage of completion through year 2, less revenue recognized for year 1

Question 15

Describe revenue recognition for the percentage-of-completion method.

Answer 15

Recognize profit in proportion to the degree of completion. This method is required if estimates of the degree of completion at interim points can be made and reasonable estimates of the total project cost can be made.

Question 16

Describe revenue recognition under the completed contract method.

Answer 16

No revenue is recognized until the contract is completed.

Question 17

What is the amount of loss recognized in a period under the completed contract method when estimated total project cost exceeds the contract price?

Answer 17

Overall loss, which is the total project cost less the contract price

Question 18

Provide an example of a constraint on estimating revenue based on variable consideration.

Answer 18

If earning the variable consideration is based on an uncertainty that is out of the company’s control, such as weather or the volatility of the stock market, then variable consideration is constrained.

Also, if it is probable that a significant reversal of revenue would occur, then variable consideration is constrained.

Question 19

If the standalone selling prices for performance obligations are not directly observable, what steps should a company take?

Answer 19

When the standalone selling prices are not directly observable, then a company should estimate the standalone selling prices.

Question 20

List the two criteria required for a performance obligation to be considered distinct.

Answer 20

1. The customer must be able to benefit from the good or service on its own or with resources readily available.
2. The good or service must be able to be separately identified from other promises in the contract.

Question 21

What methods may be used to recognize revenue when the performance obligation is satisfied over time?

Answer 21

Input method
Output method

Question 22

When a consignee sells goods on consignment from a consignor, what type of revenue will the consignee most likely record?

Answer 22

Commission revenue

Question 23

List the criteria that must be met for an arrangement to qualify as a bill-and-hold arrangement.

Answer 23

A bill-and-hold arrangement must meet the following criteria:
Substantive reason for the arrangement (e.g., customer’s facility is not ready to receive the goods).
Seller separates the goods from other inventory and identifies them as belonging to the customer.
Goods are currently ready for transfer.
Goods cannot be used by or directed to another customer.

Question 24

Describe the journal entry to record a customer’s purchase of a service-type warranty at its inception and the journal entry to record warranty revenue.

Answer 24

The journal entry at the inception of a service-type warranty typically includes a debit to cash or accounts receivable and a credit to unearned warranty revenue (a liability account). As the time covered by the service-type warranty passes, the entity recognizes warranty revenue by debiting the unearned warranty revenue account (this decreases the liability account) and crediting warranty revenue.