Question

Inventory Case

JMI Industries (“JMI” or “the Company”), a publicly traded company, manufactures and sells coaxial and fiber optical cable. JMI is contemplating two separate transactions for which it is evaluating the appropriate inventory and revenue recognition.

Transaction 1: BigWire, a customer of JMI,has entered into a binding written agreement to purchase 1,000 feet of fiber optic cable for $3.00 per foot. Because BigWire is constructing a new warehouse, it is unable to take delivery of the cable and has requested in writing that JMI store the cable in its warehouse until construction of BigWire's warehouse is completed. BigWire's warehouse will be completed three months from the time of purchase, at which time BigWire is required to take delivery of the cable. JMI stores fiber optic cable in 10,000-foot spools (spools of cable are considered finished goods and ready for shipment). JMI will not physically segregate the cable that BigWire will purchase; rather, the Company will designate the quantity in its inventory tracking system as "sold," thereby preventing the use of the cable to fulfill other customer orders. In other words, JMI will "virtually" segregate the inventory.

JMI and its auditors have concluded the following with respect to the arrangement with BigWire:

• Risks of ownership of the cable have passed to BigWire.

• BigWire has a substantial business purpose for requesting JMI to hold the cable at its warehouse (waiting on completion of the warehouse).

• JMI does not have additional performance obligations with respect to the cable purchased by BigWire.

JMI has concluded that it is appropriate to recognize revenue for Transaction 1 before the date on which BigWire takes delivery of the 1,000 feet of 18 AWG coaxial cable.

Transaction 2: Grant Telecom, a customer of JMI, entered into a binding written agreement to purchase 1,500 feet of fiber optic cable for $2.95 per foot. Grant Telecom's shipping terms are freight on board (FOB) shipping point, and JMI collected payment before the order shipped. Title transfers upon delivery to the carrier, and Grant Telecom will insure the product while it is in transit. Instead of using a third-party shipper (e.g., FedEx, UPS), JMI has elected to use its own logistics subsidiary, JMI Transit, to deliver the cable to Grant Telecom (JMI Industries owns 100 percent of JMI Transit). JMI Transit provides an array of shipping services to third-party customers outside the cable industry. Only 2 percent of JMI Transit's shipping revenue is expected to be derived from transactions with JMI in the current year.

Required:

Transaction 1

• Is it appropriate for JMI to recognize revenue before the date on which BigWire takes delivery of the 1,000 feet of 18 AWG coaxial cable? ( take a look at ASC 606-10-55-83)

• If JMI and BigWire’s fiscal years end after the agreement is signed but before the cable is delivered, on whose balance sheet should the cable be shown?

Transaction 2

• Is it appropriate for JMI to recognize revenue upon transfer of the inventory to the carrier?

• Would your answer change if 80% of JMI Transit’s shipping revenue came from transactions with JMI?

You should use the GAAP Codification database to answer these questions (and no other sources should be needed). To access the GAAP codification database, go to aaahq.org/FASB-GASB, and use the following access credentials:

Username:         AAA52009

Password:           7S8FrRw

Cite the section number of any relevant sections of the codification in your answer. Treat this assignment as though it were a research request in a professional setting.

Answer 1

According to the given question:

Transaction 1

606 Revenue from Contracts with Customers. Revenue shall be recognised if

a. The parties to the contract have approved the contract (in writing, orally, or in accordance with other customary business practices) and are committed to perform their respective obligations.

b. The entity can identify each party's rights regarding the goods or services to be transferred.

c. The entity can identify the payment terms for the goods or services to be transferred.

d. The contract has commercial substance (that is, the risk, timing, or amount of the entity's future cash flows is expected to change as a result of the contract)

Thus it would be appropriate to recognise revenue before Big wire takes delivery of transferred transferred 1000ft of 18AWG coaxial cable .

Transaction 2:

Code 605- Revenue recognition lays out guidelines for revenue recognition. In the given case the title of the goods has transferred since goods have been delivered to the carrier. JMI Transit is ordinarily involved in providing an array of services and only 2% of its transactions are with JMI.

Thus it would be appropriate to recognise revenue upon transfer to the carrier.