Question

Niwot Co. sells products and service plans both separately and bundled together. Willy Loman, a Niwot Co. salesman, sold a Widgetron in year 5 for $1,000, its normal price, and told the customer he’d "throw in the 3-year service plan for free," which the company normally sells for an additional $150. The product shipped, the customer paid, and $1,000 in revenue was recognized in year 5. Is this correct? Why or why not?

Multiple Choice

• This is correct because the understanding between the seller and customer was that the product price was $1,000 and the service plan was free, which is in accordance with the principle of faithful representation.

• This is incorrect because the service revenue must be treated as a separate performance obligation, allocated a portion of the $1,000 sales price, and have revenue for it recognized over the three years of the service plan.

• This is incorrect because services must be rendered before any revenue can be recognized.

• This is correct because the product shipped and the customer paid.

Answer 1

Answer : Option B , This is correct because the service revenue must be treated as a separate performance obligation allocated a portion of the $1,000 sales price and have revenue for it Reciganised over the three year of the service plan .

Explanation;

When two more performance obligation are included in the same contract, the total revenue allocated to them in proportion to their separate sales price. Here weidgetron is allocated $1,000/$1,150 ×$1,000 in revenue and the service plan will be allocated 150/$1;159 ×$1,000 in revenue. The performance obligation was satisfied by the widgetron. The revenue allocated to the service plan will be allocated over the 3 year of service plan.