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Unformatted text preview: 18-118INCOME RECOGNITION AND MEASUREMENT OF NET ASSETS CHAPTER OBJECTIVESAfter careful study of this chapter, students will be able to: 1. Understand the revenue recognition alternatives. 2. Explain revenue recognition at the time of sale, during production, and at time of cash receipt. 3. Explain the conceptual issues regarding revenue recognition alternatives. 4. Describe the alternative revenue recognition methods. 5. Account for revenue recognition prior to the period of sale, including the percentage-of-completion and completed contract methods. 6. Account for revenue recognition after the period of sale, including the installment and cost recovery methods. 7. Account for revenue recognition delayed until a future event occurs. 8. Understand software revenue recognition, franchises, real estate sales, retail land sales, and consignment sales (Appendix). 18-2SYNOPSISRevenue Recognition Alternatives1. Recognitionis the process of formally recording and reporting an item in the financial statements. Realizationis the process of converting noncash resources into cash or rights to cash. A company usually recognizesrevenue in the period of sale, when (a) realization has taken place, and (b) the revenues have been earned. There are, however, three revenue recognition alternatives: (a) advanced recognition (e.g., during the period of production), (b) recognition at the time of sale, and (c) deferred recognition (e.g., upon receipt of cash). Advanced or deferred recognition is used to increase the usefulness of the financial statements. 2. The revenue recognition alternative used affects not only a company's income recognition on its income statement but its measurement of net assets (assets minus liabilities) on its balance sheet. Under all three revenue recognition alternatives, a company increases related assets from cost to selling price at the point at which it recognizes revenue and expenses. For example, in a manufacturing operation, when revenue recognition is at the time of sale, accounts receivable is increased by the selling price and inventory is reduced by the cost. When recognition is advanced, revenue and expense are recognized during production, and the inventory is increased from cost to selling price. When recognition is delayed, the sale is recorded in the accounts receivable at the selling price, but accounts receivable is reduced to cost by recording the expected gross profit in a Deferred Gross Profit account (a contra-account to accounts receivable). As payment is received, Deferred Gross Profit is debited and Gross Profit is credited, thus recognizing revenue, and increasing net assets by the selling price. 3. The recognition of expenses is matched against revenues and coincides with the revenue recognition alternative selected when there is a direct "association of cause and effect." For example, depreciation expense on machinery to produce a product is included in the cost of inventory and its recognition is consistent with the recognition of revenue. cost of inventory and its recognition is consistent with the recognition of revenue....
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This note was uploaded on 10/12/2011 for the course AC300 01 taught by Professor Smith during the Spring '11 term at Kaplan University.
- Spring '11