Question

ACTG 4650

Assignment 7

Due April 16

Answer the questions associated with each of the following scenarios.  The companies in each scenario are publicly traded, have a calendar year and entered into the agreements in 2018.

1.         Company A entered into a two-year contract with a customer to maintain the    customer’s fleet of delivery vehicles.  Company A receives payments from the            customer at regularly scheduled intervals during the contract and provides             monthly maintenance services needed to keep the vehicles in working order.       How should Company A recognize revenue on this contract? What is the         justification for your answer?

2.         Company B enters into a contract to manufacture equipment for a customer.  The equipment is manufactured at Company B’s plant and is under Company B’s control while it is being built.  The customer makes a 20% deposit at the inception of the contract.  Periodic payments from the customer over the life of the contract equal an additional 30% of the contract price.  The remaining 50% of the contract price is due upon   delivery of the equipment. Company B expects the customer to make all required payments. If the customer terminates the contract, Company B is entitled to keep all amounts received but has no claim for further payments.   How should Company B recognize revenue on this contract? What is the justification for your answer?

3.         Company C enters into a contract to build a building for a customer.  The             contract price is $3,000,000 and contains incentive bonuses of $25,000 for    eachweek the building is completed prior to the target date for completion.  There      are also $25,000 penalties for each week work goes on beyond the target date.     The customer is a governmental entity which is required to get all new buildings            inspected prior to taking possession. The contract contains a $50,000 bonus if the             building passes the initial inspection.  Explain how Company C should determine     the transaction price associated with this contract.

4.         Company D enters into a contract with a customer to sell Products W, Z, Y, and Z             for a price of $150,000.  None of these products are sold together in smaller        bundles. Company D regularly sells product W for $40,000 and Product X for          $50,000.  Company D is aware that other companies sell Product Y for $20,000.         Product Z is a new product and there are no other companies selling this          product.  Company D knows that Product Z costs them $40,000 to produce and their normal markup on other similar products is 25% of cost.  How should           Company D allocate the transaction price to the performance obligations of this      contract? What is thejustification for your answer?

Answer 1

Answer to Part 1

On entering the contract the Company should recognize deferred revenue on the basis of contract entered and as when the Company completes the work pertaining to a month it shall debit the deferred revenue account to recognize revenue for the completed work. Then on receiving the payment on scheduled intervals the Company can debit the receivables & credit the cash account.

Answer to Part 2

At the inception of the contract, Company B should simply recognize 20% of the amount received as revenue and recognize the remaining 80% as deferred revenue. As & when the Company receives progressive payments from the customer the Company should transfer amount from deferred revenue account to revenue account on the condition that Company has fulfilled its performance obligations relating to the amount of payment received fro the customer. On Delivery of the equipment, the Company should recognize the revenue from the deferred revenue account. If the customer doesn't make payment of the remaining 50% amount then Company can forfeit the 50% amount received earlier & de-recognize the deferred revenue for the 50% amount not paid by the customer.

Answer to Part 3

Since construction of building generally takes number of years for completion, hence, Company C should recognize revenue on the basis of percentage of completion of the contract in a particular year. For example, if 25% of the work is completed during the 1st year, then the Company should recognize $7,50,000 as revenue for that year. (25% of $30,00,000 i.e. the contract price) With regard to the incentive bonuses & penalties the Company should recognize them as & when the particular condition is triggered.

Answer to Part 4

Company D has sold a bundle of goods for $1,50,000 but the total cost of all the products adds up to $1,60,000 (W=40,000 + X=50,000 + Y=20,000 + Z=50,000) W & X's cost has been considered on the basis that Company sells these products regularly. Y product is sold by other companies in market for $20,000 & product Z is worked out as follows ($40,000+25% Markup) Since the Company has sold the products under a bundle for $1,50,000 by giving discount of $10,000, the Company should allocate the transaction price to the performance obligations of contract proportionately on the basis of relative costs as follows:

W = 40,000/1,60,000*1,50,000 = $37,500

X = 50,000/1,60,000*1,50,000 = $46,875

Y = 20,000/1,60,000*1,50,000 = $18,750

Z = 50,000/1,60,000*1,50,000 = $46,875