Revenue Recognition

Medium Test

Medium Test

Click the “Check Your Answer” box below each question to reveal the correct answer and explanation.

1. Inventory sold “F.O.B. destination” is generally recognized as revenue when

a. the goods are shipped to the customer
b. the order is received from the customer
c. the goods are received by the customer
d. when the goods are made to order for the customer

C. F.O.B. destination means title transfers when the customer receives the goods. Revenue is generally recognized when title transfers and the customer obtains control of the goods.

2. A seller who provides an additional service at the option of the buyer when the buyer purchases a product will record:

a. revenue for the total sales price at the time the buyer obtains control of the product
b. unearned revenue for a portion of the sales price
c. revenue only when the seller provides the additional service
d. unearned revenue for the total sales price at the time of sale

B. The seller has two performance obligations, the goods and the service. The seller must allocate the total sales price to each performance obligation and defer the portion of the sales price associated the service. Service revenue is recognized when the service is provided.

3. Revenue related to license fees to access intellectual property is recorded when:

a. at the time access is granted
b. when the seller receives a patent on the intellectual property
c. after the customer pays for access
d. over the time the seller grants the purchaser access
D. Access to intellectual property is a service that is provided over a period of time. Therefore, revenue is recorded over time as the service is provided and the customer has access and the performance obligation is met.

4. Which of the following is not a requirement that must be met to record revenue under a bill and hold agreement.

a. The product is ready for shipment.
b. There is good reason for the hold arrangement.
c. The product is specifically identified as belonging to the customer
d. The customer has paid for the product

D. Payment is never a requirement that must be met to record revenue. Control must pass for the performance obligation to be met. The customer must request that the seller hold the goods for a period of time after the goods are ready for shipment.

5. Revenue earned for providing three different performance obligations for one total price is recorded:

a. as each of the separate performance obligations are met
b. when all of the performance obligations are met
c. when the first performance obligation is met
d. when cash is received from the customer
A. The promise to provide more than one performance obligation for one price is a bundle of goods and services. The total price must be allocated to each separate performance obligation and revenue is recorded as each performance obligation is met.

6. Revenue for software maintenance and updates is generally recorded

a. when the software is installed
b. when the fair market value of the software is used to allocate the price
c. upon acceptance of the installation of updates
d. over the time the maintenance and updates are provided

D. Software maintenance and updates is a service that the seller provides over time, typically 2 to 3 years. Revenue is recorded as time passes when the performance obligation is provided over time.

7. Initial franchise revenue is recorded when

a. all of the required services are provided
b. substantially all of the required service is provided
c. the franchisee is successfully in operation
d. cash is expected to be received from the franchise 

B. FASB requires that substantially all of the required service be provided before the initial franchise fee is recognized as revenue. Sometimes there is a small part of the service that is difficult to define when the service is provided and this does not prevent the franchise revenue from being recorded

8. A company records revenue for a contingent performance obligation

a. when cash is received and the contingency is met
b. if the company believes it is possible the contingency will be met
c. when the contingency is met and it is certain cash will be received
d. based on the probability that the contingency will be met


D. A company must consider the probability that the contingency will be met before recording potential revenue. A company that believes it is probable the contingency will be met may record the amount they believe they will be entitled to receive as revenue before the contingency is met.

9. An “Allowance for Sales Returns” is initially recorded

a. when the buyer returns the goods
b. when the customer notifies the company that they will return the item
c. in the period the sale occurs
d. when the buyer does not pay for the goods

C. The allowance for sales returns is recorded in the same period the revenue is recorded. The accountant must estimate the unknown amount.

10. An issue that makes it difficult to record the initial franchise fee revenue is

a. determining the period the cash exchange will occur
b. determining if a substantial portion of the service has been performed
c. determining if the franchisee will get full value out of the fee
d. determining the appraised value of the franchisees operations



B. Revenue is recorded when the seller meets the performance obligation, which may be difficult to determine.

11. Giggle, Inc. delivered software to assist with website design and agreed to provide one year of online advertising to YouHo, Inc. for a total price of $100,000 on March 1. Giggle, Inc. normally sells online advertising and the software for a stand-alone price of $60,000 and $72,000, respectively. YouHo, Inc. paid Giggle, Inc. $70,000 five days before the software was delivered and agreed to pay the balance owed at the end of one year.

Record the sales transaction for Giggle, Inc. for the first month of the agreement.


1st: Allocate the total revenue to each performance obligation:


Online Adv 60,000 = 45.5% x 100,000 = 45,500
Software 72,000 = 54.5% x 100,000 = 54,500
Total 132,000 100,000

Receive partial payment:

Cash                               $70,000
      Unearned Revenue        $70,000


Delivery of software:

Unearned Revenue          $54,500
               Software Revenue          $54,500


First month online advertising

Unearned Revenue          $3,792
            Advertising Revenue          $3,792

($45,500 / 12 months = $3,792 each month)


12. A fast food chain sells exclusive franchises for $50,000. Included in the fee is site selection, training, and construction assistance. The franchisee also pays $2,500 per month for ongoing consulting and accounting services at the end of each month. On June 4th of the current year, the fast food chain sold one franchise. The franchisor received 10% of the fee and the franchisee agreed to a note for the balance to be paid equally at the end of each year for five years. On November 30th, the franchisor met all the requirements for substantial performance for the initial fee. The monthly fee was received on the 20th of each month including the month of signing.

Record all required journal entries related to the franchise sold during the year.


Determine when the revenue is earned:

Initial Fee – $50,000 earned on November 30th, all substantial requirements met

Monthly Fee – each month beginning with June, $2,500 x 7 months = $17,500


Record the receipt of the initial fee and the notes receivable.
Nothing is earned yet on the date the franchise agreement is signed.


June 4th

Cash                           $ 5,000
Notes Receivable     $ 45,000

Unearned Franchise Revenue $50,000

Record the revenue when the initial service has been substantially provided:

November 30th

Unearned Franchise Revenue          $50,000

          Franchise Revenue                    $50,000


Record the monthly fee (for the entire year):

Cash                     $17,500

Franchise Revenue           $17,500


(This could also be recorded monthly at $2,500 each month for June to December)

13. TCE Inc., a chip manufacturer, will receive a bonus of $100,000 cash from PH Inc. if PH Inc. sells 1 million phones that contain TCE’s chips. TCE believes it is 75% probable that PH will meet the sales goal of 1 million phones with TCE’s chips.

A. Record revenue using the expected value method
B. Record revenue using the most likely amount method
C. Which alternative method does FASB require TCE to use?

A. Expected Value method

$100,000 x 75% = $75,000


Sales Bonus receivable             $75,000
          Sales Bonus Revenue           $75,000

TCE must reverse the revenue if TCE does not receive the bonus.


B. Most likely amount method

TCE expects it is probable they will earn to bonus revenue


Sales Bonus receivable            $100,000
          Sales Bonus Revenue          $100,000

TCE must reverse the revenue if TCE does not receive the bonus.


C. FASB generally requires a company to use the “most likely amount” method when the situation is all or none. Regardless of PH sales, TCE will not earn a $75,000 bonus. TCE expects to earn $100,000 and will record the expected amount when it is probable.