CHAPTER 5 Revenue Recognition and Profitability Analysis 249 THE TIME VALUE OF MONEY. It’s common for contracts to specify that payment occurs either before or after delivery. We recognize an account receivable when payment occurs after delivery, and we recognize deferred revenue when payment occurs before delivery. We can think of these arrangements in part as financing transactions. In the case of an account receivable, the seller is making a loan to the customer between delivery and payment. In the case of a payment prior to delivery, the customer is making a loan to the seller by paying in advance. As with any other loan, there is an interest charge (a “time value of money”) implicit in these arrangements. If delivery and payment occur relatively near each other, the time value of money is not significant and can be ignored. As a practical matter, a seller can assume the time value of money is not significant if the period between delivery and payment is less than a year. However, if the time value of money is significant, the seller views the transaction price as consisting of (a) the cash price of the good or service and (b) a “financing component” representing the interest for the time between the sale and the cash payment. The seller then adjusts the transaction price to remove the financing component. That way, the seller recognizes the same amount of revenue for goods and services that it would recognize if the customer paid cash at the time the seller delivers those goods and services. The seller separately accounts for the financing component of the contract by recognizing interest revenue (in the case of an account receivable) or interest expense (in the case of a customer prepayment) over time. We discuss the time value of money in detail in Chapter 6. We discuss how sellers make adjustments for the time value of money for accounts receivable in Chapter 7 and for prepayments in Chapter 13. PA Y MENTS BY THE SELLER TO THE CUSTOMER. Usually it’s the customer who pays the seller for goods or services. Occasionally, though, a seller also makes payments to a customer. For example, Samsung sells TVs, smartphones, tablets, and other products to BestBuy. However, Samsung also might pay BestBuy for dedicated space in BestBuy stores or to conduct special Samsung-focused advertising programs. The question is whether a payment by Samsung is a purchase of goods or services from BestBuy, or really just a refund of some of the price paid by BestBuy to purchase Samsung products. Sellers must account for the financing component of transactions when it is significant. Mike buys a Tri-Box module from an online retailer for $290. Let’s consider accounting for that sale by two retailers: PrinCo and AgenCo: • PrinCo purchases Tri-Box modules directly from TrueTech for $240, has the modules shipped to its distribution center in Kansas, and then ships individual modules to buyers when a sale is made. PrinCo offers occasional price discounts according to its marketing strategy. Because PrinCo is responsible for fulfilling the contract, bears the risk of holding inventory, and has latitude in setting sales prices, the evidence suggests that PrinCo is a principal in this transaction. • AgenCo serves as a web portal by which multiple game module manufacturers like TrueTech can offer their products for sale. The manufacturers ship directly to buyers when a sale is made. AgenCo receives a $50 commission on each sale that occurs via its web portal. Given that AgenCo is not primarily responsible for fulfilling the contract, bears no inventory risk, has no latitude in setting sales prices, and is paid on commission, the evidence suggests AgenCo is an agent in this transaction. The first part of the income statement for each retailer is shown below. Notice that the same amount of gross profit, $50, is recognized by the principal and the agent. What differ are the amounts of revenue and expense that are recognized and reported. A Principal Records Gross Revenue (PrinCo) An Agent Records Net Revenue (AgenCo) Revenue $290 Revenue $50 Less: Cost of goods sold 240 Less: Cost of goods sold 0 Gross profit $ 50 Gross profit $50 Illustration 5–18 Comparison of Revenue Recognition by Principals and Agents
Spiceland_Inter_Accounting8e_Ch05
To see the actual publication please follow the link above