Chapter 5 - Revenues, Receivables, and Operating Expenses

Question 1

Revenue

Answer 1

Revenue (or sales) is the “top line” on the IS.

Includes

• transactions b/t company and customers during the past year

Does not include

• Gains or losses on the sale of assets (e.g. PPE) or investments
• Interest and dividend income on investments
• Gains or losses on their (investments) sale

Question 2

Revenue Recognition Rules

Answer 2

Core RevRec Rules

• Recognize revenue when the company transfers a good or service to a customer; that is, when the customer obtains control of that good or service
• It is not necessary to receive cash to recognize revenue

Steps to determining revenue recognition

1. Identify the contract(s) with a customer
2. Identify the performance obligation(s) in the contract
3. Determine the transaction price
4. Allocate the transaction price to the performance obligation(s)
5. Recognize revenue wehn the performance obligation is satisfied

Question 3

Revenue Recognition Complications

Answer 3

1. Nonrefundable up-front fees
2. Bill-and-hold arrangements
3. Consignment sales
4. Licenses
5. Franchises
6. Variable consideration
7. Multiple-element-contracts. Compoonents are generally viewed as distinct if:
   
   • Customer can use the good or service on its own
   • Good or service is not highly interrelated wth other goods or services sold per the contract
8. Right of return
9. Gift cards

Question 4

Accounts Receivable (AR)

Answer 4

Essentially credit that is extended to customers

Risk: some customers will ultimately not be able to pay

GAAP requires companies to estimate this and report only the net collectibles on the BS

Question 5

AR | Aging Analysis of Receivalbes

Answer 5

Groups accounts receivable by number of days past due (commonly 30 or 60 days past due)

Determine the schedule, and multiply the AR balance by the percentage.

AR - (AR x %) = Net receivables

Question 6

AR | Accounting for Accounts Receivable

Answer 6

Allowance for uncollectible accounts reduces the gross amount of receivables that are reported on the BS

AKA Allowance for doubtful accounts

Question 7

AR | Analysis of - Magnitude

2 tools, Analysis

Answer 7

The relative magnitude of AR is usually measured with respect to sales volume in one of two ways:

1. Accounts receivable turnover (ARTO) = Sales / Average accounts receivable
2. Days sales outstanding (DSO) = 365 days / ARTO = (365 x Avg AR) / sales

DSO is the most intuitive of the two. It reveals the number of days, on average, that AR are outstanding before they are paid. It can be:

• Compared with the company’s established credit terms
• Computed over several years for the same company to investigate trends
• Compared with peer companies

A lower ARTO and a lengthening of DSO are signals that AR has grown more quickly than sales. There are typically two possible reasons for this:

1. The company is becoming more lenient in granting credit to its customers
2. Credit quality is deteriorating

Question 8

AR | Analysis of - Quality

Answer 8

Levi Strauss example (pg 5-23 in book - re-read this example, as it is helpful)

Things to look at:

• Amount held in Allowance account at EOY
• Amount charged to Account YOY
• Allowance marging = AR / accounts receivable gross (EOY and YOY)

2 Possible interpretations of Levi Strauss (allowance acct as % of gross AR has declined)

1. Credit quality has improved
2. Levi Strauss is underestimating the allowance account to increase profitability

Question 9

AR | 3 Entries & 5 Things

3 Entries that change the accounts receivable

5 components of an accounts receivables

Answer 9

3 entries that change the accounts receivable (a contra-asset)

1. Sales (goes up)
2. Allowance for bad debts (goes down)
3. Cash (goes down)

5 components (numbers) of an Accounts Receivable

1. Beginning Balance (BB)
2. Cash
3. Sales
4. Write-offs
5. Ending Balance (EB)

Question 10

Allowance Method | Percent of Sales