Chapter 6 - Revenue Recognition

Question 1

What are the conditions required for revenue to be recognized under the Asset/Liability Approach

Answer 1

1) Determine the contract
2)Identify the performance obligations
3) Determine the transaction price
4) Allocate the transaction price
5) Determine whether the performance obligation has been fulfilled.

Question 2

What are the conditions required to recognize revenue under the Earnings Approach of ASPE

Answer 2

1) Risks and rewards of ownership have transferred to the customer
2) Vendor has no continuing involvement with the asset being sold
3) Measure the costs and revenues reliably
4) Collection is probable.

Question 3

What requirements highlight that a contract exists?

Answer 3

1) Parties agreed to it verbally or written
2) Payment type has been identified
3) Parties rights have been identified
4) Commercial substance
5) Probable that the entity will collect consideration

Question 4

What are the two conditions that change a contract from modified to new contract?

Answer 4

1) Goods or services are distinct
2) Consideration for the goods are standalone selling prices.

Question 5

What are the three scenarios when a company would recognize revenue?

Answer 5

1) Sale of a product on the sales date
2) Services provided on the service date
3) Use of an asset overtime.

Question 6

What is a material right?

Answer 6

A right that a customer would not normally receive.

Question 7

How do you determine whether there are multiple performance obligations?

Answer 7

You must ask whether the goods or services provided are distinct or not. To be classified as distinct they must:
1) Customer be able to benefit from the good or service on its own or with resources readily available
2) The promise to the good or service is separately identifiable from other promises in the contract.

Question 8

What must be considered when determining transaction price?

Answer 8

1) Variable considerations
2) Significant financing component
3) Non-cash considerations
4) Consideration paid to the customer.

Question 9

How do you allocate the transaction price to each performance obligation?

Answer 9

1) Determine the stand alone value of each performance obligation and use it to allocate the total price.
2) If the fair value is not known use the cost of each item and add an appropriate profit margin, then allocate the total price to the performance obligations.
3) If only one of the fair value items are not know, we use the steps in part 1 and the remainder will be distributed to the last item that is unknown.

Question 10

How do we know when the control of an asset has changed from the seller to the customer?

Answer 10

1) Company has the right to receive a payment
2) Title to the asset has transferred
3) Customer taken physical possession.
4) Customer assumes significant risks and rewards of the ownership
5) Customer has accepted the asset

Question 11

How do you recognize when a performance obligation has been satisfied overtime?

Answer 11

1) Customer simultaneously receives and consumes the benefits provided by the entity’s performance.
2) Entity’s performance creates or enhances an asset that the customer controls.
3) The performance does not create another asset with alternative use, and entity has the right to be paid.

Question 12

What do we do when there is measurement uncertainty?

Answer 12

1) Delay the recording of the sale
2) Record the sale and accrue a sale returns.

Question 13

Under a bill and hold agreement when should we recognize revenue?

Answer 13

1) The hold is a substantive reason
2) The good is ready for sale
3) It is separately identifiable
4) The asset will not be used by the firm or sold anywhere else.

Question 14

Describe the continuing management involvement situation

Answer 14

There are situations where the firm will continue to be involved in some form, and thus during this process the other parts of the revenue where they will no longer be involved can be collected, but where the firm is still involved, they will not recognize revenue until the involvement is complete.

Question 15

Describe transactions with customer acceptance provisions

Answer 15

The idea that if the customer believes they have a trail period, do not record the revenue until they accept the product with certainty.

If you ship the product but they have specific design specifications, the revenue should only be recognized when the item gets to the consumer because it is then when you are certain that they desire the good.

Question 16

Describe the layaway arrangement

Answer 16

The idea that a customer can pay overtime to buy a good, and when the seller receives these payments they will not sell it to any other customer.

Question 17

Describe the completion of production

Answer 17

This idea is rarely used as once the production point has been met it does not guarantee a customer will purchase the goods. Only in rare occasions if a value can be considered and a customer identified can this be classified as a sale.

Question 18

What is a slotting fee

Answer 18

A manufacturer pays the retail the right to put their goods on their shelves. This will be recorded as a reduction too COGS as it is not a separate performance obligation.

Question 19

What must be disclosed under IFRS

Answer 19

1) Different sources of revenue
2) Movement schedules
3) Remaining performance obligations
4) Costs to obtain or fulfill contracts
5) Judgements used to estimate revenue.

Question 20

What must be disclosed under ASPE?

Answer 20

1) Revenue recognition policies
2) Significant categories of revenue
3) Revenue arising from exchange of services.

Question 21

When do we use a contract asset?

Answer 21

Is used when there is a conditional relationship. This implies that until another performance obligation has been fulfilled, this performance obligation cannot be fulfilled.

Question 22

Describe the incremental situation of the contract asset

Answer 22

If a company incurs costs to receive a contract it must capitalize they’re costs as assets and they must be recoverable.

Question 23

What is a constructive obligation?

Answer 23

An implied obligation that the seller has to the buyer, creates through past practices or by singling the provision of benefit to other individuals. For example if a mining company leaves a town they have to clean up the site, but there is also a constructive obligation to build a park because that is what they have done in the past.

Question 24

What is a credit risk?

Answer 24

The risk of not receiving the payment from a customer.

Question 25

What is a price risk?

Answer 25

Risk arising from the change of the price of a product received.

Question 26

What are concessionary terms?

Answer 26

When one party to a sales has terms that provide them with an advantage, it is called concessionary terms.

Question 27

What are the normal selling terms of a sale?

Answer 27

1) Sale for cash or on credit with amount due in 30 - 60 days
2) Sale only to credit worthy customers
3) Shipping of goods when available for shipping.
4) Once shipped, legal title passes and there is no continuing involvement.

Question 28

What is a multiple deliverable / bundled sale?

Answer 28

When a company provides two or more goods or services within a single price, we are required to allocate the transaction price to the two separate components.

Question 29

What does commercial substance mean?

Answer 29

We expect that the risk, timing, or amount of the entity’s future cash flows is likely to change because of the contract.

Question 30

What are arms-length transactions?

Answer 30

A transaction that has been carried out between parties that are unrelated. (resulting in terms fairly bargained and that represent market terms).

Question 31

Describe the concept of variable consideration

Answer 31

When a contract provides revenue overtime rather than a single point in time, we may get additional revenue for completing it earlier thus a bonus resulting. This is a method to compute the transaction price that is to be recognized. Companies should only recognize it if they have experience with these types of transactions in the past.

Question 32

What are the two ways to recognize a variable consideration

Answer 32

1) Using the most likely amount
2) Calculating the expected value on a range of probabilities.

Question 33

Describe the non-cash considerations

Answer 33

There will be situations where the company receives a good, service, or some other non cash consideration in the financial transaction. You will recognize the value at its fair value, and use it when determining the transaction price.

Question 34

Describe the principal agent relationship through the ticket example in the notes.

Answer 34

Suppose that you purchased a ticket from a ticket seller at a cost of $500 rather than through the airline. Let us assume that the ticket seller got the ticket after you ordered it for a cost of $450, should the seller record the revenue of $500 and COGS of $450 (gross method) or the commission revenue of (50) the net method. The second option is correct.

Question 35

What three criteria should we look under the principal agent relationship?

Answer 35

1) Is the entity acting as the principal or agent?
2) Did the entity take title to the goods that it sold?
3) Did the entity have the risks and rewards of ownership of the goods that it sold.

Question 36

Ultimately how do we know if the entity is a principle or agent.

Answer 36

If they are the principle they would have bared the risks and rewards associated with the good that is sold. If they did not bear any of the risk than they are the agent.