Question

1) What is performance obligation and how is it related to revenue recognition?

2) What does cash conversion cycle measure?

Answer 1

Answer :-

Performance obligation is a second step in five step model to recognize revenue.

Performance obligation:- = it is a promise to deliver a good or provide service to a customer.

Revenue Recognition :- Recording sale proceeds or proceeds out of providing service in the income statement.

Revenue recognition is crucial because any error in revenue recognition leads to incorrect reporting thereby attraction legal actions and penalities etc.

How performance obligations are related to revenue recognition ?

Ans:- Revenue can be recognized in the books of accounts if the performance obligations are satisfied.

When the performance obligations are said to be said to be satisfied ?

Ans:- Performance obligations are satisfied when control of goods or services have been transferred to the buyer.

Depending on the satisfaction of performance obligation, revenue can be recognized at a point or over a period of time.

Where do we find performance obligations ?

These can be found in the contract of sale or service. They may be express or implicit.

Ex:- An educational institution promised to refund whole fee if student fails. Maximum time is there years from the date of joining. I.e after 3 years fee won't be refunded irrespective of success of student. In this case such educational institution can recognize fee collected from the student if he/she passed else completion of 3 years which ever is earlier.

Cash conversion :-

We know that cash is highly liquid asset and used as a medium of exchange especially in the business to purchase inventory , assets etc.

This cash undergoes various forms cash --> inventory --> debtor --> cash .

Cash convetiskc cycle :- It is a scale to measure the time needed to a company to convert investments in inventory and other resources into cash.

It expresses for how long cash is locked in inventory, account receivables etc.