In: Accounting
Thomas Consultants provided Bran Construction with assistance in
implementing various cost-savings initiatives. Thomas’s contract
specifies that it will receive a flat fee of $58,000 and an
additional $28,000 if Bran reaches a prespecified target amount of
cost savings. Thomas estimates that there is a 35% chance that Bran
will achieve the cost-savings target.
Required:
1. Assuming Thomas uses the expected value as its
estimate of variable consideration, calculate the transaction
price.
2. Assuming Thomas uses the most likely value as
its estimate of variable consideration, calculate the transaction
price.
3. Assume Thomas uses the expected value as its
estimate of variable consideration, but is very uncertain of that
estimate due to a lack of experience with similar consulting
arrangements. Calculate the transaction price.
Solution 1:
Computation of Transaction Price | ||
Possible Amount | Probability | Expected Amount |
$86,000.00 | 35% | $30,100.00 |
$58,000.00 | 65% | $37,700.00 |
Expected Transaction price | $67,800.00 |
Solution 2:
Transaction price using most likely approach = $58,000
In this case, the business uses the most likely value as its estimate of variable consideration. Most likely situation is considered in the case when the chances of occurring an event is more than 50%.
In the given problem, it is stated that there is 35% chance of achieving the cost savings targets. 35% does not quality as most likely situation, as this means that there are 65% chances that cost saving targets are not achieved. Therefore, additional fee is not considered.
Solution 3:
There is an uncertainty involved in the calculation of estimated value of variable consideration due to lack of experience. Thus, the inclusion of estimated variable consideration is not justified.
Therefore, the transaction price will be flat fee of $58,000.