236 SECTION 1 The Role of Accounting as an Information System Cash ($60 3 1,000) ................................................. 60,000 Deferred revenue ............................................... 60,000 If a performance obligation doesn’t meet any of the three criteria for recognizing revenue over time, we recognize revenue at the point in time when the performance obligation has been completely satisfied, which usually occurs at the end of the long-term contract. Many services are so short term in nature that companies don’t bother with recognizing revenue over time even if they qualify for doing so. For example, FedEx picks up a package and delivers it to its destination within a few days. The company’s summary of significant accounting policies disclosure note indicates that “Revenue is recognized upon delivery of shipments.” In other words, FedEx recognizes revenue at the end of the service period rather than over time. This departure from GAAP is immaterial given the short duration of FedEx’s services and the lack of additional useful information that would be provided by more precise timing of revenue recognition. Determining Progress toward Completion Because progress toward completion is the basis for recognizing revenue over time, the seller needs to estimate that progress in a way that reflects when the control of goods or services is transferred to the customer. Sellers sometimes use an output-based estimate of progress toward completion, measured as the proportion of the goods or services transferred to date. For our Tri-Net example in Illustration 5–6 , output is measured by the passage of time, because the performance obligation being satisfied is to provide access to the Tri-Net gaming platform. Other times sellers use an input-based estimate of progress toward completion, measured as the proportion of effort expended thus far relative to the total effort expected to satisfy the performance obligation. For example, sellers often use the ratio of costs incurred to date compared to total costs estimated to complete the job.9 In Part C of this chapter, we continue our discussion of output- and input-based measures of progress toward completion, and also consider how to deal with changes in estimates of progress toward completion. Input or output methods can be used to estimate progress toward completion when performance obligations are satisfied over time. 9If for some reason the seller can’t make a reasonable estimate of progress to completion using either input or output methods, the seller must wait to recognize revenue until the performance obligation has been completely satisfied. However, if the seller expects to be able to at least recover its costs from the customer, the seller can recognize an amount of revenue equal to the costs incurred until it can make a reasonable estimate of progress toward completion. Illustration 5–6 Recognizing Revenue over a Period of Time TrueTech Industries sells one-year subscriptions to the Tri-Net multiuser platform of Internet-based games. TrueTech sells 1,000 subscriptions for $60 each on January 1, 2016. TrueTech has a single performance obligation—to provide a service to subscribers by allowing them access to the gaming platform for one year. Because Tri-Net users consume the benefits of access to that service over time, under the first criterion in Illustration 5–5 TrueTech recognizes revenue from the subscriptions over the one-year time period. On January 1, 2016, TrueTech records the following journal entry: TrueTech recognizes no revenue on January 1. Rather, TrueTech recognizes a deferred revenue liability for $60,000 associated with receiving cash prior to satisfying its performance obligation to provide customers with access to the Tri-Net games for a year. Tri-Net subscribers receive benefits each day they have access to the Tri-Net network, so TrueTech uses “proportion of time” as its measure of progress toward completion. At the end of each of the 12 months following the sale, TrueTech would record the following entry to recognize Tri-Net subscription revenue: Deferred revenue ($60,000 4 12) ........................... 5,000 Service revenue .................................................. 5,000 After 12 months TrueTech will have recognized the entire $60,000 of Tri-Net subscription revenue, and the deferred revenue liability will be reduced to zero. Deferred Revenue 1/1 60,000 1/31 5,000 2/28 5,000 . . . . . . 12/31 5,000 12/31 -0- Service Revenue 1/1 -0- 1/31 5,000 2/28 5,000 . . . . . . 12/31 5,000 12/31 60,000
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