ACC 350 DePaul University Revenue From Contracts With Customers Worksheet Please review the current assignment attached. In addition, I have attached power

ACC 350 DePaul University Revenue From Contracts With Customers Worksheet Please review the current assignment attached. In addition, I have attached powerpoints to help learn how to complete the assignment. Lastly a case example to help with the actual assignment. Please let me know if you have any questions or dont understand anything. Acc 350
Revenue From Contracts With Customers Examples
Part I: For each of the scenarios determine if a contract exists by applying the 5
requirements for a contract to exist under ASC 606.
1. For each of the following independent situations determine if a contract exists as of
January 31st, 2018 by Anderson Corporation. Assume Anderson is a publicly traded
company with a calendar fiscal year.
a.
A regular customer of Anderson’s always places an order on the last day of the
month, but did not do so in January. Anderson is certain it will because the customer’s
purchasing agent was ill and that the order will be received when she returns. In fact,
the order is received by fax in early February, with an apology from the customer’s
purchasing manager and a note requesting that Anderson “expedite shipment of the
January order.”
No legally binding contract has been entered into as of the end of the year. Even
though the customer usually places an order by the end of the month and
referred to the order as its “January order,” the customer was under no legal
obligation to place the order. There is no contract until January when the order is
received by fax.
b. One of Anderson’s customers calls on January 29th and gives Anderson a list of goods
it intends to buy, but with the caveat that the order is subject to approval of the
purchasing manager, who will not be in for several days. The order is received by fax
on February 4th when the purchasing manager returns.
There is no contract until the order is received by fax. It is possible to have a
legally binding oral contract, as long as the two parties have in fact obligated
themselves to perform. However, in this situation, the customer explicitly stated
that while it intended to place the order, it was not obligating itself to anything
until the purchasing manager approved the order.
c. One of Anderson’s customers calls and gives Anderson an order. Anderson typically
receives orders by fax and asks the customer to confirm the order by fax, which it does
on Feb.2nd
There is a contract upon receipt of the order by phone. This situation creates an
oral contract, which is legally binding on the two parties. The fact that Anderson
has asked for written documentation to follow does not negate the oral contract.
Only if Anderson or the customer had stated that there was no binding contract
until the agreement was reduced to writing would there not be a valid oral
contract.
d. Anderson and one of its customers agree that Anderson will sell it certain goods, but
that the price will depend on the price of oil two weeks later. Anderson and the
customer have agreed on the formula that will determine the price of goods based on
the price of oil. Anderson makes this arrangement because oil is a key component of
the goods that Anderson sells.
There is a contract when Anderson and the customer agree. The price need not
be certain in order for there to be a contract subject to the revenue recognition
rules. In this case, the consideration is variable and Anderson will need to apply
the guidelines for variable consideration to determine the amount of revenue to
recognize.
2.
Latter Corporation received an order from Murray, Inc. for electronic components on
Feb. 27th. Because Murray is struggling financially, Latter called the company and said
it will get ready to fulfill the order, but it will not ship the order until payment is received
by cashier’s check. Does Latter have a contract as of February 28th?
There is no contract subject to the revenue recognition rules until Latter receives
payment for two reasons. First, Latter has specifically stated that it will not ship
the goods until a cashier’s check is received, indicating that Latter has not
obligated itself contractually. Second, even if Latter had obligated itself
contractually, Murray does not have “the ability and intention to pay the
consideration to which (Latter) will be entitled.”
Part II. Determine the number of performance obligations that exist in the following scenarios.
1. Tablet Tailors sells tablet PCs combined with Internet service which permits the tablet to
connect to the Internet anywhere and set up a Wi-Fi hotspot. It offers two bundles with
the following terms:
a. Tablet Bundle A sells a tablet with 3 years of Internet service. The price for the
tablet and a 3 year Internet connection service contract is $500. The standalone
selling price of the tablet is $250. Tablet Tailors sells the Internet access service
independently for an upfront payment of $300.
There are two performance obligations: Tablet and the internet service.
Each of these is separate and distinct… this is know because the tablet can
function without the internet and the internet service is sold independently
(i.e. without the tablet)
b. Tablet Bundle B includes the tablet and Internet plus a service plan for the tablet
PC (for any repairs or upgrades to the tablet or the Internet connections) during
the 3 year period. The product bundle sells for $600. Tablet Tailors provides the
3 year service plan as a separate product with a standalone price of $150.
There are three performance obligations: tablet, internet service and the
service plan. Each of these is separate and distinct… this is know because
the tablet can function without the internet and the internet service is sold
independently (i.e. without the tablet). The service plan is a separate
performance obligation because it has a stand alone price so it can be sold
independently
2. Garths Windows manufactures and sells custom storm windows for three season porches.
Garths also provides installation service for the windows. The installation process does
not involve changes in the windows so this service can be performed by other vendors.
Garths enters into the following contract on July 1, 2018: The customer purchases
windows for a price of $2,400 and chooses Garths to do the installation.
There are two performance obligations: the windows and the installation. The
installation does not involve changes to the windows so the windows can stand alone.
The installation can be performed by other vendors which is also an indicator that it
is distinct.
Revenue From Contracts With Customers
ASC 606
Acc 350
Revenue From Contracts with Customers
5 Steps
Step 1:
Identify a Contract With a Customer
• ASC 606-10-25-2
– A contract is an agreement between two or more parties that creates
enforceable rights and obligations.
– Contracts can be written, oral, or implied by an entity’s customary business
practices.
5 Criteria For a Valid Contract
1. The parties to the contract have approved the contract … and are committed
to perform their respective obligations.
2. The entity can identify each party’s rights regarding the goods or services to
be transferred.
3. The entity can identify the payment terms for the goods or services to be
transferred.
4. The contract must have commercial substance
5. It is probable that the entity will collect … all of the consideration to which it
will be entitled in exchange for the goods or services that will be transferred to
the customer.
5 Criteria for a Valid Contract
•
•
Commercial substance means that the risk, timing, or amount of the entity’s future cash flows is expected to change as a
result of the contract
Under US GAAP, probable is defined as likely to occur (75% or greater) and under IFRS it is defined as more likely
than not (50% or greater) . Thus, the collectability threshold is slightly higher under US GAAP and could result in
some differences as to what is considered a contract)
Step 1: Special Issues
Enforceability & Termination Rights
• Contracts do not have to be written, but they do have to be
legally enforceable.
• Oral contracts or implied contracts, if they are enforceable, are
considered contracts.
• In addition, if neither party has yet performed under the
contract and both parties have the right to cancel the
contract without penalty, then for purposes of the revenue
recognition standard, no contract exists
Step 1: Special Issues
What if Criteria Not Met But Consideration Received
Recognize consideration received as a liability
Dr: Cash
Cr: Contract Liability
Until
1.The seller has no remaining obligations to transfer goods or services and substantially
all (or all) of the consideration has been received by the seller and is nonrefundable
2.The contract has been terminated and any consideration already received from the
customer is nonrefundable and the entity has no obligation to transfer future goods or
services.
Step 1: Special Issues
Collectibility vs. Price Concessions
If a firm believes it will not ultimately receive the full, stated contract price, judgment
may be necessary to determine if the shortfall is due to a collectibility problem or a
price concession.
Example:
• A hospital immediately treats an uninsured patient in the emergency room; later, the hospital
determines the patient is uninsured and does not expect to collect in full.
• Initially, the hospital cannot determine that the patient is committed to perform its obligation;
therefore, no revenue may yet be recognized.
• The hospital will reassess whether a contract can be identified as circumstances change
• Suppose subsequently the hospital determines that based on similar situations in the past, it
expects the patient to pay $1,000 to settle the bill of $10,000.
• A contract has been identified and the transaction price is $1,000, the amount the hospital
expects to be entitled to collect.
• The $9,000 is considered a discount or a price concession, not a failure to collect, because the
patient never agreed to pay $10,000.
Validity of a Contract
In each of the following separate contract scenarios
indicate which specific condition of a valid contract
listed is addressed.
A contract between a seller and a customer is approved
verbally although the seller’s agreements are typically in
writing.
9
Validity of a Contract Examples
A seller enters a contract fully confident that it will not
collect 100% of the amount due from the customer.
A seller is still negotiating a sales agreement with a new customer even
though the customer took control of the product sold under the open
contract.
10
Validity of a Contract Examples
A seller and customer agree to a contract that includes sufficient
information to allow the parties to estimate the transaction price, but
the price was not included in the contract.
A seller and a customer transfer the same good back and forth
multiple times.
11
Example 1
1. JC Enterprises manufactures designer cases for tablets and is
attempting to enter a new market with its product. To implement this
strategy, JC sells 5,000 units to a retailer for a contract price of $75 each.
JC is aware that this retailer is struggling financially but is willing to enter
into the contract because of its desire to penetrate a new market. Due to
the financial instability of its customer, JC believes that it will need to
provide a 20% price concession. Does this agreement meet the fifth
criterion to determine the existence of a contract?
Example 2
SBA Inc., a retail developer, sells a building to Margots Corporation
on September 30, 2019. The contract price is $5 million. Margots pays
SBA 10% of the contract price on September 30. The remaining 90%
will be paid over the following five years, with $225,000 due each
quarter. The first payment is due on December 31, 2019. The
payments are nonrefundable.
If Margots defaults, then SBA keeps the payments that it has received
up to that point, but is not entitled to further compensation. In
addition, ownership of the building will revert back to SBA.
Example 2 (continued)
• Margots intends to open a restaurant in the building. However, the building is not
located in an attractive area. SBA is aware that Margots will have adequate
resources to make the required payments only if the restaurant is profitable.
Accordingly, on September 30, SBA concludes that it is not probable that it will
collect the transaction price.
• Margots remits the $500,000 deposit and the first two required quarterly payments
of $225,000 each to SBA on December 31, 2019, and March 31, 2020, respectively.
On June 30, 2020, Margots does not make the required payment and terminates the
contract.
Example 3
You decide to take a break from studying and decide to go to the
drive thru to get a coffee from Starbucks. You place the order
and pay $6.00. After payment, the Starbucks employee hands
you the coffee. Did a contract exist?
Example 4
• Professor Smith registered her daughter for drivers education.
The drivers education class will include 30 hours of class time
which is offered online plus 8 hours of “behind the wheel”
training. Professor Smith completed all of the forms online and
made the payment via credit card.
• Does a contract exist between Professor Smith and the drivers
education facility?
• Next
Step 2: Identify the performance obligations.
Revenue From Contracts With Customers
ASC 606
Acc 350
Revenue From Contracts with Customers
5 Steps
Step 2: Identify the Separate Performance
Obligations in the Contract
• A performance obligation is …a contractual promise with a
customer to transfer a service or good to the customer.
• A performance obligation is either:
• A promise to transfer a good or service, or a bundle of goods or
services, that is distinct, or
• A promise to transfer a series of distinct goods or services that are
substantially the same and have the same pattern of transfer to the
customer.
Performance Obligations
A performance obligation is defined as a contractual
promise with a customer to transfer a service or good to the
customer.
• Each separate performance obligation must be identified by the
entity by evaluating the goods or services promised in the contract
and determining which of these (or which bundles of goods and
services) is distinct.
• If goods or services are not distinct, then they should be bundled
together and considered as one performance obligation.
Distinct: Yes or No?
▪ To be distinct, a good or service must meet two conditions:
1. The customer can benefit from the good or service on its own or in conjunction
with other readily available resources to the customer, and
2. The promise of the seller to deliver that good or service is separately
identifiable from other promises in the contract.
How to Determine How Many Performance
Obligations
Factors that indicate goods/services are not distinct include the
following:
– The goods or services are highly interrelated and the entity must provide a
significant service to integrate the goods or services into the combined
item(s) for the customer
– The goods or services are significantly modified or customized in order to
fulfill the contract.
– Is the entity the only vendor who can provide that service/product? Or can
it be provided by another vendor? (even if customer does not select
another vendor). If they are not the only vendor then that indicates it is a
separate performance obligation.
Examples of Performance Obligations
▪ Sale of goods, for example, by a manufacturer or a merchandiser
▪ Performing an agreed-upon task or service
▪ Constructing, manufacturing, or developing an asset
▪ Granting a license of technology, franchises, patents,
trademarks, and similar items
▪ Sales Type Warranties (Extended Warranties customers pay an
additional fee)
▪ Granting of customer options for additional goods or services
Examples: incentive, loyalty, discount programs
(whether they can purchase at the same time or in the future)
Not Separate Performance Obligations
• Prepayments (part of the transaction price)
• Quality-assurance warranties (part of the performance
obligation to deliver goods and services that are free of
defects)
• Right of return (part of the performance obligation to deliver
acceptable goods and services)
Example 1
An entity licenses customer relationship management software to a customer. In
addition, the entity promises to provide consulting services to significantly
customize the software to the customer’s information technology environment for
total consideration of $600,000.
Are the software and consulting services one performance obligation or two?
Why?
Example 2
• A software developer agrees to license software to a customer, install the software,
and provide updates & technical support. Other companies provide installation
services and the customer could have chosen to use another provider for this
purpose. The software would continue to function without the updates or technical
support.
How many performance obligations?
Example 3
Gapp Inc. sponsors a customer loyalty point program
where customers earn one loyalty point for every $5 spent
on clothing and accessories at any Gapp Inc. store.
Loyalty program members often exchange accumulated
loyalty points for free product at Gapp. An individual
customer makes a purchase of denim jeans at Gapp on
June 1, 2020, for $60 and earns 12 loyalty points.
12
Example 4:
A builder enters into an agreement with a customer to
build an addition to the customer’s home for $80,000,
payable when completed. The builder (also acting as
contractor) is responsible for all aspects of the project
including construction services, plumbing, electrical,
carpentry, painting, design, preparation, and cleanup.
• Next: Step 3 Determining the Transaction Price
Revenue From Contracts With Customers
ASC 606
Acc 350
Revenue From Contracts with Customers
5 Steps
Step 3: Determine the Transaction Price
• The transaction price is the amount that the entity expects to
be entitled to as a result of transferring goods or services to
the customer
• In determining the transaction price there are several things to
consider in addition to the price stated in the contract:
Variable
Consideration
Financing
Component
Non Cash
Consideration
Consideration
Payable to a
Customer
Determining the Transaction Price
Transaction Price
• Transaction price may include the base price as well as other
considerations
Base Price (typically stated in contract)
+/- Variable Component
+/- Financing Component
+ Noncash Consideration
– Consideration Payable to a Customer
Total Price
Option 1:
• Transaction price is fixed and easily determinable in the
contract
• Transaction price is not contingent on other events
Option 2: Variable Consideration
• Variable consideration is when the payment received for
providing a good or service is not a fixed amount.
• The amount of consideration may vary from a fixed amount
due to price concessions, performance bonuses or penalties,
discounts, refunds, rebates, and incentives.
• Include variable consideration in the transaction price only if it
is probably that a significant revenue reversal will not occur
(i.e. it is not constrained)
Variable Consideration
► The
entity may use one of two estimation methods as described
below based on the guidance in ASC 606-10-32-8. The chosen
method should be applied consistently throughout the contract.
►
►
The expected value method: the estimate is measured as “the sum of the
probability-weighted amounts in a range of possible consideration
amounts.” This method may be most appropriate when there are a large
number of similar contracts.
The most likely amount method: the estimate is measured as “the single
most likely amount in a range of possible consideration amounts.” This
method may be most appropriate when there are only two possible
outcomes (e.g., either a bonus is received or not received)
Variable Consideration: Expected Value Approach
• To compute the expected transaction amount under the
expected-value approach, the entity sums the probabilityweighted amounts in a range of possible consideration
amounts
Variable Consideration…
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