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CHAPTER 5 Revenue Recognition and Profitability Analysis 241 the hardware component should be recognized on January 1, 2016, because transfer of control of the hardware occurs when the hardware is delivered to the customer. Revenue for the subscription should be recognized over the next twelve months as the customer receives the benefit of having access to TV channels. 2. For the single Basic Package sold on January 1, 2016, allocate the $600 transaction price to the performance obligations in the contract, and prepare a journal entry to record the sale (ignoring any entry to record the reduction in inventory and the corresponding cost of goods sold). Because the stand-alone price of the hardware component ($180) represents 25% of the total of all the stand-alone selling prices ($180 4 $180 1 540), and the stand-alone price of the twelve-month subscription comprises 75% of the total ($540 4 $180 1 540), we allocate 25% of the transaction price to the hardware component and 75% of the transaction price to the twelve-month subscription. The transaction price of $600 would be allocated as follows: Hardware Component: $600 3 25% 5 $150. Twelve-Month Subscription: $600 3 75% 5 $450. The journal entry recorded on January 1, 2016, would be: Cash ..................................................................................................... 600 Sales revenue (for delivery of hardware) .......................................... 150 Deferred revenue (for subscription) ................................................. 450 3. Prepare any journal entry necessary to record revenue for the same contract on January 31, 2016. Deferred revenue ($450 4 12) ............................................................. 37.50 Service revenue .............................................................................. 37.50 Special Topics in Revenue Recognition Now that we’ve covered the basics, let’s consider some important issues that occur in practice with respect to each of the five steps. We’ll cover each step in turn. Special Issues for Step 1: Identify the Contract A contract is an agreement that creates legally enforceable rights and obligations. We normally think of a contract as being specified in a written document, but contracts can be oral rather than written. Contracts also can be implicit based on the typical business practices that a company follows. Remember from our example in Part A, just buying a skirt from Macy’s implies a contract for purposes of recognizing revenue. The key is that all parties to the contract are committed to performing their obligations and enforcing their rights. 14 A contract o nly exists for purposes of revenue recognition if the seller believes it’s probable that it will collect the amount it’s entitled to receive under the contract. This collectibility threshold makes sure that revenue really reflects an inflow of net assets from the customer. 15 PART B ● LO5–5 A contract is an agreement that creates legally enforceable rights and obligations. 14 Specifically, ASU No. 2014–09 indicates that a contract exists for purposes of revenue recognition only if it (a) has commercial substance, affecting the risk, timing or amount of the seller’s future cash flows, (b) has been approved by both the seller and the customer, indicating commitment to fulfilling their obligations, (c) specifies the seller’s and customer’s rights regarding the goods or services to be transferred, (d) specifies payment terms, and (e) is probable that the seller will collect the amount it is entitled to receive. These criteria are very similar to requirements previously indicated by the SEC in the Staff Accounting Bulletins No. 101 and No. 104 mentioned earlier in this chapter. A seller must believe collectibility is probable for a contract to exist for purposes of revenue recognition. 15 ASU No. 2014–09 defines “probable” as “likely to occur.” Similarly, SFAC No. 6 defines “probable” to mean an amount can “reasonably be expected or believed on the basis of available evidence or logic but is neither certain nor proved,” which implies a relatively high likelihood of occurrence. IFRS defines “probable” as a likelihood that is greater than 50%, which is lower than the definition in U.S. GAAP. Therefore, some contracts might not meet this threshold under U.S. GAAP that do meet it under IFRS.


Spiceland_Inter_Accounting8e_Ch05
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