Chapter 3 - Chapter3: Determination 1 When can revenue be...

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Chapter 3: Additional Topics in Income  Determination 1. When can revenue be recognized before or after the point of sale? 2. Revenue recognition for long-term construction contracts, agricultural commodities, and installment sales. 3. Revenue principles for franchise sales, sales with right of return, and “bundled” software sales with multiple deliverables.. 3-1 1
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Chapter 3: Additional Topics in Income  Determination 4. How GAAP income determination invites “earnings management”. 5. The various techniques used to manage earnings. 6. The SEC guidance intended to curtail earnings management. 7. Key differences between IFRS and U.S. GAAP rules for revenue recognition. 3-2 2
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The criteria for revenue recognition Condition 1: The critical event in the process of earning the revenue has taken place. (Earned) Condition 2: The amount of revenue that will be collected is reasonably assured and is measurable with a reasonable degree of reliability. (Measurability) Time of sale is used in most industries 3
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Timing of Revenue Recognition 1. Time of sale 2. During production a) Percentage of completion Method b) Completed contract Method 3. On completion of production ( Prior to the sale) 4. After sale 4
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Learning Objective : Time of sale 5
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1. Revenue Recognition:  Time of sale   Time of sale is the dominant practice in most industries. Revenue is recognized at the time of sale (June 1) because that’s when the two critical conditions are met. Example: Howard’s TV and Appliance Store May 1 June 1 July 1 Buy 3 TV sets ($160 each) Sells and delivers 2 sets ($200 each) One customer pays cash The other customer pays 6
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Example: Accounting for Howard’s TV  and Appliance Store May 1 Inventory ($160*3) 480 Cash 480 June 1 ( Time of Sale) Cash 200 Account Receivable 200 Sales 400 July 1 Cash 200 Account Receivable 200 7
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Learning Objective : During the production phase 8
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  Revenue Recognition:  during production Criteria for recognizing revenue during production : A customer must be identified and an exchange price agrees upon (i.e., a contract signed). A significant portion of the agreed services has been performed ,and the expected costs of future services can be reliably estimated. Future payments from customers are expected (i.e., reasonably assured). 9
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Revenue Recognition:  during  production (contd.) In addition: The contract clearly specifies the enforceable rights regarding goods or services by the parties, the consideration to be exchanged, and the manner and terms of settlement. The buyer can be expected to satisfy all obligations . The contractor can be expected to perform under the contract. 10
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Revenues recognize  during production phase  Case Study:   Long-term  Construction   Projects  Two Methods: 1. Percentage-of-completion method 2. Completed contract method ( Not allowed for IFRS) If all the criteria listed above are met, the Percentage-of-completion method must be applied; otherwise the Completed contract method would be used.
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