ABC operates a catering service that specializes in business luncheons for large corporations. ABC requires customers to place their orders 2 weeks in advance of the scheduled events. ABC bills its customers on the 10th day of the month following the date of service and requires that payment be made within 30 days of the billing date. Conceptually, ABC should recognize revenue from its catering services at the date when a
Answer (B) is correct. Revenues should be recognized when (1) realized or realizable and (2) earned. The most common time at which these two conditions are met is when goods are delivered or services are rendered.
A company provides fertilization, insect control, and disease control services for a variety of trees, plants, and shrubs on a contract basis. For $50 per month, the company will visit the subscriber’s premises and apply appropriate mixtures. If the subscriber has any problems between the regularly scheduled application dates, the company’s personnel will promptly make additional service calls to correct the situation. Some subscribers elect to pay for an entire year because the company offers an annual price of $540 if paid in advance. For a subscriber who pays the annual fee in advance, the company should recognize the related revenue
Answer (B) is correct. Revenues should be recognized when (1) realized or realizable and (2) earned. The most common time at which these two conditions are met is when goods are delivered or services are rendered. In the situation presented, the performance of the service (monthly spraying) is so significant to creating a sufficient probability of a flow of future economic benefits that it should be the triggering event for revenue recognition.
On February 1, Year 1, a computer software firm agrees to program a software package. Twelve payments of $10,000 on the first of each month are to be made, with the first payment March 1, Year 1. The software is accepted by the client June 1, Year 2. How much Year 1 revenue should be recognized?
Answer (A) is correct. Revenues should be recognized when (1) realized or realizable and (2) earned. Because the software firm has not substantially fulfilled its obligation, the earning process has not been substantially completed in Year 1. Accordingly, a liability should be recognized because the entity has a current obligation arising from a past event that will require an outflow of economic benefits, that is, to deliver the software or to refund the customer’s money. Thus, a liability for $100,000 and revenue of $0 should be recognized for Year 1.
An airline should recognize revenue from airline tickets in the period when
Answer (D) is correct. Revenues should be recognized when (1) realized or realizable and (2) earned. Although the benefits of the service rendered are reliably measurable on the date the reservations are booked, the earning process is not substantially completed until the airline has fulfilled its obligation, that is, when the related flights occur.
A department store sells gift certificates that may be redeemed for merchandise. Each certificate expires 3 years after issuance. The revenue from the gift certificates should be recognized
Answer (D) is correct. Revenues should be recognized when (1) realized or realizable and (2) earned. These criteria are met when the certificates are redeemed or expire.
To comply with the matching principle, the cost of labor services of an employee who participates in the manufacturing of a product normally should be charged to the income statement in the period in which the
Answer (D) is correct. The matching principle states that expenses should be recognized in the same period as the revenues that those expenses helped produce. Revenues related to the employee’s labor are not recognized until the goods are sold.
Revenues of an entity are usually measured by the exchange values of the assets or liabilities involved. Recognition of revenue does not occur until
Answer (B) is correct. According to the FASB’s conceptual framework, revenues should be recognized when they are realized or realizable and earned. Revenues are realized when products, merchandise, or other assets are exchanged for cash or claims to cash. Revenues are realizable when related assets received or held are readily convertible to known amounts of cash or claims to cash. Revenues are earned when the entity has substantially accomplished what it must do to be entitled to the benefits represented by the revenues.
Robin Gavaskar, who recently founded a company that produces baseball bats and balls, wants to determine her company’s policy for revenue recognition. According to the revenue recognition principle, the mostappropriate time to recognize revenue would be when
Answer (A) is correct. Revenues are normally recognized when they are realized or realizable and earned. Revenues are realized (or realizable) when goods or services have been exchanged for cash or claims to cash (assets readily convertible to cash). Revenues are earned when the earning process is substantially complete, and the entity is entitled to the resulting benefits or revenues. The revenue recognition criteria are ordinarily met at the point of sale (time of delivery of goods or services).
It is proper to recognize revenue prior to the sale of merchandise when
I. The revenue will be reported as an installment sale.
II. The revenue will be reported under the cost-recovery method.
Answer (D) is correct. The installment method recognizes income on a sale as the related receivable is collected. Under the cost-recovery method, profit is recognized only after collections exceed the cost of the item sold.
The calculation of the income recognized in the third year of a 5-year construction contract accounted for using the percentage-of-completion method includes the ratio of
Answer (D) is correct. The percentage-of-completion method recognizes gross profit or revenue based on the ratio of costs to date to estimated total costs. (This relationship is the recommended but not the only basis for determining progress.)