Revenue Recognition
Hard Practice Test
Financial Accounting
Revenue Recognition
Hard Test
Click the “Check Your Answer” box below each question to reveal the correct answer and explanation.
1. On January 1, 20×1, JJ Plumbing, LLC. won the bid and signed a contract with Reit, Inc., a company that builds and maintains apartment communities to provide all of the plumbing required to build one complex and then maintain the complex for 2 years after the build is complete. The winning bid was a price of $425,000.
To win the bid, JJ Plumbing had to discount their typical fees of $400,000 to build the complex and $100,000 to maintain the complex for two years.
Per the contract, Reit, Inc. paid JJ Plumbing $125,000 at the end of each quarter for 3 quarters (March 31, June 30, and Sept 30) in the first year. Reit, Inc. paid the final payment of $50,000 on July 1, 20×2. JJ Plumbing completed the work to build the complex on October 30, 20×1.
A. Record the entries for JJ Plumbing, LLC for 20×1 related to the contract with Reit, Inc. JJ Plumbing prepares annual financial statements.
B. Record the entries for JJ Plumbing, LLC for 20×2 related to the contract with Reit, Inc.
C. Determine the line items and amounts JJ Plumbing, LLC will report on the December 31, 20×1 balance sheet and income statement.
Answer
1st: Identify the performance obligations and allocate the purchase price
| FMV | Price | Allocated Price | ||
|---|---|---|---|---|
| Maintain | 100,000 | = | 20% x 425,000 = | 85,000 |
| Build | 400,000 | = | 80% x 425,000 = | 340,000 |
| Total | 500,000 | 425,000 |
A. Record the entries for JJ Plumbing, LLC for 20×1 related to the contract with Reit, Inc. (annual financial statements only)
March 31
Cash 125,000
Unearned Revenue 125,000
June 30
Cash 125,000
Unearned Revenue 125,000
Sept 30
Cash 125,000
Unearned Revenue 125,000
Oct 30
Unearned Revenue 340,000
Revenue 340,000
Dec 31
Unearned Revenue 7,084
Revenue 7,084
($85,000 / 24 months = $ 3,542 per month x 2 months = $7,084)
B. Record the entries for JJ Plumbing, LLC for 20×2 related to the contract with Reit, Inc.
July 1
Cash 50,000
Unearned Revenue 50,000
December 31
Unearned Revenue 42,504
Revenue 42,504
(3,542 x 12 months)
C. Determine the amount that JJ Plumbing, LLC will report on the December 31, 20×1 balance sheet and income statement
Unearned Revenue: $27,916
Cash received: $375,000
Revenue earned (340,000) for building
Revenue earned ( 7,084) for maintenance 20×1 and 20×2
Unearned: 27,916
Revenue: $347,084
($340,000 build + $7,084 for maintenance)
2. On February 8th, Solar City (SC) sold solar panels to the Gordon Independent School District (GISD) for $500,000. SC promised to give GISD a 30% discount if the school district did not save 50% of the cost of electricity during the first 12 months after installation. GISD agreed to pay SC for the solar panels 12 months after installation.
Solar City believes that there is a 70% chance that GISD will save 50% on the cost of their electricity. One year after installation, SC was notified that GISD saved 24% on the cost of electricity for 12 months and received $350,000 from GISD as full payment.
Record revenue for SC for years 1 and 2 after installing the solar panels for GISD using the:
A. Expected Value Method
B. Most Likely Amount Method
Answer
A. The Expected Value method:
$500,000 x 70% = $350,000
$350,000 x 30% = $105,000
Total $455,000
Yr. 1
Accounts Receivable $455,000
Sales Revenue $455,000
Yr. 2
Cash $350,000
Accounts Receivable $350,000
Sales Revenue $105,000
Accounts Receivable $105,000
B. The Most Likely Amount method:
$500,000 is the most likely amount
Yr. 1
Accounts Receivable $500,000
Sales Revenue $500,000
Yr. 2
Cash $350,000
Accounts Receivable $350,000
Sales Revenue $150,000
Accounts Receivable $150,000
3. At the beginning of the current year, a franchisor signed an agreement with a franchisee for a fee of $175,000. Of this amount, $25,000 was paid at the beginning of the year and the rest was financed over a period of 5 years (0% interest) with equal amounts payable at the end of each year. At the end of the first year, the franchisor determined that 60% of services related to the franchise fee had been provided. The remaining services were provided during the 2nd year. The agreement also provides for 5% of revenues earned by the franchisee during each year to be paid to the franchisor 30 days after the end of each year. Annual revenues of the franchisee were $500,000 and $680,000 for the first and second year, respectively. The franchise agreement is for 10 years.
Answer
1st year journal entries:
Cash 25,000
Unearned Franchise Revenue 25,000
(No exchange occurs at this time related to the note payable; no service has been provided)
Notes Receivable 80,000
Unearned Franchise Revenue 25,000
Franchise Revenue 105,000
(60% x 175,000 = 105,000)
Cash 25,000
Notes Receivable 25,000
(First end of year payment on the notes receivable)
Cash 25,000
Franchise Revenue 25,000
(Franchisee sales — 5% x 500,000)
2nd year journal entries:
Notes Receivable 70,000
Franchise Revenue 70,000
(40% x 175,000)
Cash 25,000
Notes Receivable 25,000
(Second end of year payment on the notes receivable)
Cash 34,000
Franchise Revenue 34,000
(5% x 680,000)