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PROBLEM 18.12 (Continued)
(b)
1.
January 5, 2019
Cash..................................................
20,000
Notes Receivable .............................
100,000
2.
Unearned Franchise Revenue ........
20,000
Franchise Revenue .....................
20,000
December 31, 2019
Cash ($260,000 X 2%) ......................
5,200
Franchise Revenue ................
5,200
(To recognize ongoing fees for brand maintenance)
Cash………………………………………………. 20,000
PROBLEM 18.12 (Continued)
(c) In this situation, Amigos would recognize the entire franchise fee of
TIME AND PURPOSE OF CONCEPTS FOR ANALYSIS
CA 18.1 (Time 20–30 minutes)
Purpose—to provide the student an opportunity to describe the 5-step revenue recognition model and
CA 18.2 (Time 20–30 minutes)
Purpose—to provide the student an opportunity to describe the revenue recognition principle and the
importance of control.
CA 18.3 (Time 25–30 minutes)
Purpose—to provide the student with an understanding of the conceptual merits of recognizing revenue
CA 18.4 (Time 25–30 minutes)
Purpose—to provide the student with an understanding of the conceptual factors underlying the
CA 18.5 (Time 20–25 minutes)
Purpose— to provide the student with an understanding of the conceptual factors underlying the
recognition of revenue. The student is required to explain the factors that result in the constraint of or
CA 18.6 (Time 35–45 minutes)
CA 18.7 (Time 25–30 minutes)
Purpose—to provide the student with an understanding of the criteria and applications utilized in the
CA 18.8 (Time 20–25 minutes)
Purpose—to provide the student an ethical situation related to the recognition of revenue from
membership fees.
*CA 18.9 (Time 20–25 minutes)
Purpose—to provide the student an opportunity to discuss the theoretical justification for use of the
SOLUTIONS TO CONCEPTS FOR ANALYSIS
CA 18.1
(a) The 5-step model is as follows.
1. Identify the contract with customers.
A contract is an agreement that creates enforceable rights or obligations and (1) has
2. Identify the separate performance obligations in the contract.
A performance obligation is a promise in a contract to provide a product or service to a
customer. A performance obligation exists if the customer can benefit from the good or
3. Determine the transaction price.
4. Allocate the transaction price to separate performance obligations.
If there is more than one performance obligation, allocate the transaction price based on
5. Recognize revenue when each performance obligation is satisfied.
i. The customer receives and consumes the benefits as the seller performs.
CA 18.1 (Continued)
ii. The customer controls the asset as it is created or enhanced (e.g., a builder constructs a
building on a customer’s property).
(b) A contract is an agreement between two or more parties that creates enforceable rights or
obligations. Contracts can be written, oral, or implied from customary business practice. By
definition, revenue from a contract with a customer cannot be recognized until a contract exists.
(c) Companies often have to allocate the transaction price to more than one performance obligation in
a contract. If an allocation is needed, the transaction price allocated to the various performance
obligations is based on standalone selling prices. If this information is not available, companies
should use their best estimate of what the good or service might sell for as a standalone unit.
services promised in the contract. A selling price is highly variable when a company sells the same
good or service to different customers (at or near the same time) for a broad range of amounts. A
selling price is uncertain when a company has not yet established a price for a good or service and
the good or service has not previously been sold.
(d) Companies use an asset-liability model to recognize revenue. For example, when a company
delivers a product (satisfying its performance obligation), it has a right to consideration and
therefore has a contract asset. If, on the other hand, the customer performs first, by prepaying,
the seller has a contract liability. Companies must present these contract assets and contract
CA 18.2
(a) A company recognizes revenue in the accounting period when a performance obligation is
satisfied—the revenue recognition principle. A key element of the revenue recognition principle is
1. The customer receives and consumes the benefits as the seller performs.
2. The customer controls the asset as it is created or enhanced (e.g., a builder constructs a
building on a customer’s property).
3. The company does not have an alternative use for the asset created or enhanced (e.g., an
to be re-performed, or (b) the company has a right to payment and this right is enforceable.
The concept of change in control is the deciding factor in determining when a performance
obligation is satisfied. The customer controls the product or service when it has the ability to
direct the use of and obtain substantially all the remaining benefits from the asset or service.
Control also includes the customer’s ability to prevent other companies from directing the use of,
or receiving the benefit, from the asset or service. Indicators that the customer has obtained
control are as follows:
1. The company has a right to payment for the asset.
(b) Companies use an asset-liability model to recognize revenue. For example, when a company
delivers a product (satisfying its performance obligation), it has a right to consideration and
therefore has a contract asset. If, on the other hand, if the customer performs first, by prepaying,
CA 18.2 (Continued)
(c) Collectibility refers to a customer’s credit risk—that is, the risk that a customer will be unable to
pay the amount of consideration in accordance with the contract. Any time a company sells a
product or performs a service on account, a collectibility issue occurs. Will the customer pay the
promised consideration? Whether a company will get paid for satisfying a performance obligation
CA 18.3
(a) The point of sale is the most widely used basis for the timing of revenue recognition because in
most cases it provides the degree of objective evidence that control has transferred to the
customer. In other words, sales transactions with outsiders represent the point in the revenue-
generating process when most of the uncertainty about satisfying a performance obligation is
resolved.
(b) 1. Though it is recognized that revenue is earned throughout the entire production process,
generally it is not feasible to measure revenue on the basis of operating activity. It is not
feasible because of the absence of suitable criteria for consistently and objectively arriving
2. To criticize the sales basis as not being sufficiently conservative because accounts receiv-
able do not represent disposable funds, it is necessary to assume that the collection of
receivables is the decisive step in satisfying a performance obligation and that periodic
CA 18.3 (Continued)
The fact that some revenue adjustments (e.g., sales returns) and some expenses (e.g., bad
debts and collection costs) may occur in a period subsequent to the sale does not detract
(c) Over time. This basis of recognizing revenue is frequently used by firms whose major source of
revenue is long-term construction projects. For these firms, the point of sale is far less significant
to satisfying a performance obligation than is production activity because the sale is assured
under the contract (except of course where performance is not substantially in accordance with
the contract terms).
CA 18.4
(a) Recognizing revenue at point of sale is appropriate for many revenue arrangements, because
this is the time at which control of the asset transfers to the customer. That is, the concept of
change in control is the deciding factor in determining when a performance obligation is satisfied.
from the asset or service. Change in control indicators are as follows:
1. The company has a right to payment for the asset.
2. The company transferred legal title to the asset.
CA 18.4 (Continued)
(b) Companies recognize revenue over a period of time if one of the following three criteria is met.
1. The customer receives and consumes the benefits as the seller performs.
3. The company does not have an alternative use for the asset created or enhanced (e.g., an
aircraft manufacturer builds specialty jets to a customer’s specifications) and either (a) the
customer receives benefits as the company performs and therefore the task would not need
to be re-performed, or (b) the company has a right to payment and this right is enforceable.
A company recognizes revenue from a performance obligation over time by measuring the
progress toward completion. The method selected for measuring progress should depict the
Both input and output measures have certain disadvantages. The input measure is based on an
established relationship between a unit of input and productivity. If inefficiencies cause the
productivity relationship to change, inaccurate measurements result.
CA 18.5
(a) Fahey will likely report €2,000,000 at the date of sale, if using the gross method. Under the net
method Fahey will report €1,700,000 (€2,000,000 − €300,000).
1. Revenue for the transferred products in the amount of consideration to which the seller is
reasonably assured to be entitled (considering the products expected to be returned).
of the accounting period.
(c) Collectibility refers to a customer’s credit risk—that is, the risk that a customer will be unable to
pay the amount of consideration in accordance with the contract. Any time a company sells a
product or performs a service on account, a collectibility issue occurs. The amount recognized is
CA 18.6
(a) Receipts based on subscriptions should be credited to Unearned Sales Revenue. As each
monthly issue is distributed, Unearned Sales Revenue is reduced (Dr.) and Sales Revenue is
recognized (Cr.). A problem results because of the unqualified guarantee for a full refund. Certain
CA 18.6 (Continued)
(b) To account for the sale of products with a right of return (and for some services that are provided
subject to a refund), the seller should recognize all of the following.
1. Revenue for the transferred products in the amount of consideration to which the seller is
reasonably assured to be entitled (considering the products expected to be returned).
end of the accounting period.
(c) Since the atlas premium may be accepted whenever requested, it is necessary for Cutting Edge
to record a liability (a performance obligation) for estimated premium claims outstanding.
According to IFRS, the estimated premium claims outstanding is a liability which should be
Premium Liability................................................................................ XXX
Upon request for the atlas and payment of £2 by the new subscriber, Cutting Edge should record:
Cash .......................................................................................................... XXX
Premium Liability ....................................................................................... XXX
Inventory of Premiums ....................................................................... XXX
(d) The current ratio (Current Assets Current Liabilities) will change, but not in the direction Embry
thinks. As subscriptions are obtained, current assets (cash or accounts receivable) will increase
CA 18.7
(a) A company recognizes revenue in the accounting period when a performance obligation is
satisfied—the revenue recognition principle. A key element of the revenue recognition principle is
that a company recognizes revenue to depict the transfer of goods or services to customers in an
CA 18.7 (Continued)
3. The company transferred physical possession of the asset.
4. The customer has significant risks and rewards of ownership.
5. The customer has accepted the asset.
1. The customer receives and consumes the benefits as the seller performs.
(b) Griseta & Dubel Inc., in effect, collects cash for merchandise credits far in advance of when
merchants furnish the goods. Thus, this is an example of upfront payments. In addition, since the
data indicate that about 5 percent of the credits sold will never be redeemed, it also has revenue
(c) Griseta & Dubel’s major asset (in terms of data given in the question) would be its inventory of
premiums. The major account with a credit balance would be performance obligation to deliver
CA 18.8
(a) Honesty and integrity of financial reporting versus higher corporate profits are the ethical issues.
Nies’s position represents IFRS. The financial statements should be presented fairly and that will
