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Test Bank With Answers Intermediate Accounting 12e by Kieso Chapter 18 Test Bank With Answers Intermediate Accounting 12e by Kieso Chapter 18
Test Bank With Answers Intermediate Accounting 12e by Kieso Chapter 18 Test Bank With Answers Intermediate Accounting 12e by Kieso Chapter 18
CHAPTER 18
REVENUE RECOGNITION
TRUE-FALSE—Conceptual
Answer No. Description
F 1. Recognition of revenue.
T 2. Realization of revenue.
T 3. Delayed recognition of revenue.
F 4. Recognizing revenue when right of return exists.
T 5. Recognizing revenue prior to product completion.
F 6. Use of percentage-of-completion method.
T 7. Input measure for contract progress.
T 8. Reporting Construction in Process and Billings on Construction in Process.
F 9. Construction in Process account balance.
F 10. Recognition of revenue under completed-contract method.
T 11. Principal advantage of completed-contract method.
F 12. Recognizing loss on an unprofitable contract.
F 13. Recognizing current period loss on a profitable contract.
T 14. Recognizing revenue under completion-of-production basis.
F 15. Recording a loss on an unprofitable contract.
F 16. Deferring revenue under installment-sales method.
T 17. Deferring gross profit under installment-sales method.
T 18. Classification of deferred gross profit.
F 19. Recognizing revenue under cost-recovery method.
T 20. Recognizing profit under cost-recovery method.
MULTIPLE CHOICE—Conceptual
Answer No. Description
c 21. Revenue recognition principle.
b 22. Definition of "realized."
a 23. Definition of "earned."
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b 24. Revenue recognition representations.
P
d 25. Definition of recognition.
P
b 26. Revenue recognition principle.
d 27. Recognizing revenue at point of sale.
d 28. Recording sales when right of return exists.
c 29. Revenue recognition when right of return exists.
d 30. Revenue recognition when right of return exists.
b 31. Appropriate accounting method for long-term contracts.
c 32. Percentage-of-completion method.
b 33. Percentage-of-completion method.
c 34. Classification of progress billings and construction in process.
b 35. Calculation of gross profit using percentage-of-completion.
a 36. Disclosure of earned but unbilled revenues.
b 37. Disadvantage of using percentage-of-completion.
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d 38. Percentage-of-completion input measures.
MULTIPLE CHOICE—Computational
Answer No. Description
c 61. Percentage-of-completion method.
c 62. Percentage-of-completion method.
b 63. Determine cash collected on long-term construction contract.
d 64. Determine gross profit using percentage-of-completion.
c 65. Gross profit to be recognized using percentage-of-completion.
b 66. Gross profit to be recognized using percentage-of-completion.
c 67. Profit to be recognized using completed-contract method.
a 68. Gross profit to be recognized using percentage-of-completion.
b 69. Profit to be recognized using completed-contract method.
a 70. Gross profit to be recognized using percentage-of-completion.
c 71. Gross profit to be recognized using completed-contract method.
b 72. Computation of construction costs incurred.
c 73. Gross profit recognized under percentage-of-completion.
a 74. Computation of construction in process amount.
b 75. Loss recognized using completed-contract method.
c 76. Revenue recognition using completed-contract method.
c 77. Reporting a current liability with completed-contract-method.
a 78. Reporting inventory under completed-contract method.
Revenue Recognition 18 - 3
EXERCISES
Item Description
E18-106 Revenue recognition (essay).
E18-107 Revenue recognition (essay).
E18-108 Long-term contracts (essay).
E18-109 Journal entries—percentage-of-completion.
E18-110 Percentage-of-completion method.
E18-111 Percentage-of-completion method.
E18-112 Percentage-of-completion and completed-contract methods.
E18-113 Installment sales.
E18-114 Installment sales.
E18-115 Installment sales.
*E18-116 Franchises.
PROBLEMS
Item Description
P18-117 Long-term construction project accounting.
P18-118 Accounting for long-term construction contracts.
P18-119 Long-term contract accounting—completed-contract.
P18-120 Installment sales.
Revenue Recognition 18 - 5
Item Type Item Type Item Type Item Type Item Type Item Type Item Type
Learning Objective 1
S P
1. TF 3. TF 22. MC 24. MC 26. MC 106. E
P
2. TF 21. MC 23. MC 25. MC 95. MC 107. E
Learning Objective 2
4. TF 6. TF 28. MC 30. MC
5. TF 27. MC 29. MC 107. E
Learning Objective 3
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7. TF 33. MC 38. MC 65. MC 73. MC 109. E 118. P
8. TF 34. MC 61. MC 66. MC 74. MC 110. E
9. TF 35. MC 62. MC 68. MC 96. MC 111. E
31. MC 36. MC 63. MC 70. MC 97. MC 112. E
32. MC 37. MC 64. MC 72. MC 108. E 117. P
Learning Objective 4
10. TF 40. MC 71. MC 77. MC 108. E 119. P
11. TF 67. MC 75. MC 78. MC 112. E
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39. MC 69. MC 76. MC 98. MC 118. P
Learning Objective 5
S
12. TF 14. TF 41. MC 43. MC 45. MC 99. MC 118. P
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13. TF 15. TF 42. MC 44. MC 46. MC 117. P
Learning Objective 6
16. TF 48. MC 79. MC 83. MC 87. MC 102. MC 113. E
17. TF 49. MC 80. MC 84. MC 88. MC 103. MC 114. E
18. TF 50. MC 81. MC 85. MC 100. MC 104. MC 115. E
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47. MC 51. MC 82. MC 86. MC 101. MC 105. MC 120. P
Learning Objective 7
P
19. TF 20. TF 52. MC 53. MC 54. MC 55. MC 89. MC
Learning Objective 8*
56. MC 58. MC 60. MC 91. MC 93. MC 116. E
57. MC 59. MC 90. MC 92. MC 94. MC
Note: TF = True-False
MC = Multiple Choice
E = Exercise
P = Problem
TRUE-FALSE—Conceptual
1. Companies should recognize revenue when it is realized and when cash is received.
2. Revenues are realized when a company exchanges goods and services for cash or
claims to cash.
3. Delayed recognition of revenue is appropriate if the sale does not represent substantial
completion of the earnings process.
4. If a company sells its product but gives the buyer the right to return it, the company should
not recognize revenue until the sale is collected.
5. Companies can recognize revenue prior to completion and delivery of the product under
certain circumstances.
7. The most popular input measure used to determine the progress toward completion is the
cost-to-cost basis.
8. If the difference between the Construction in Process and the Billings on Construction in
Process account balances is a debit, the difference is reported as a current asset.
9. The Construction in Process account includes only construction costs under the
percentage-of-completion method.
10. Under the completed-contract method, companies recognize revenue and costs only
when the contract is completed.
11. The principal advantage of the completed-contract method is that reported revenue
reflects final results rather than estimates.
12. Companies must recognize a loss on an unprofitable contract under the percentage-of-
completion method but not the completed-contract method.
13. A loss in the current period on a profitable contract must be recognized under both the
percentage-of-completion and completed-contract method.
14. Under the completion-of-production basis, companies recognize revenue when agricul-
tural crops are harvested since the sales price is reasonably assured and no significant
costs are involved in product distribution.
15. The provision for a loss on an unprofitable contract may be combined with the
Construction in Process account balance under percentage-of-completion but not
completed-contract.
16. Under the installment-sales method, companies defer revenue and income recognition
until the period of cash collection.
Revenue Recognition 18 - 7
17. The installment-sales method defers only the gross profit instead of both the sales price
and cost of goods sold.
18. Deferred gross profit is generally treated as an unearned revenue and classified as a
current liability.
19. Under the cost-recovery method, a company recognizes no revenue or profit until cash
payments by the buyer exceed the cost of the merchandise sold.
20. Companies recognize profit under the cost-recovery method only when cash collections
exceed the total cost of the goods sold.
True-False Answers—Conceptual
Item Ans. Item Ans. Item Ans. Item Ans.
1. F 6. F 11. T 16. F
2. T 7. T 12. F 17. T
3. T 8. T 13. F 18. T
4. F 9. F 14. T 19. F
5. T 10. F 15. F 20. T
MULTIPLE CHOICE—Conceptual
21. The revenue recognition principle provides that revenue is recognized when
a. it is realized.
b. it is realizable.
c. it is realized or realizable and it is earned.
d. none of these.
22. When goods or services are exchanged for cash or claims to cash (receivables), revenues
are
a. earned.
b. realized.
c. recognized.
d. all of these.
23. When the entity has substantially accomplished what it must do to be entitled to the
benefits represented by the revenues, revenues are
a. earned.
b. realized.
c. recognized.
d. all of these.
27. Which of the following is not a reason why revenue is recognized at time of sale?
a. Realization has occurred.
b. The sale is the critical event.
c. Title legally passes from seller to buyer.
d. All of these are reasons to recognize revenue at time of sale.
28. An alternative available when the seller is exposed to continued risks of ownership
through return of the product is
a. recording the sale, and accounting for returns as they occur in future periods.
b. not recording a sale until all return privileges have expired.
c. recording the sale, but reducing sales by an estimate of future returns.
d. all of these.
29. A sale should not be recognized as revenue by the seller at the time of sale if
a. payment was made by check.
b. the selling price is less than the normal selling price.
c. the buyer has a right to return the product and the amount of future returns cannot be
reasonably estimated.
d. none of these.
30. The FASB concluded that if a company sells its product but gives the buyer the right to
return the product, revenue from the sales transaction shall be recognized at the time of
sale only if all of six conditions have been met. Which of the following is not one of these
six conditions?
Revenue Recognition 18 - 9
31. In selecting an accounting method for a newly contracted long-term construction project,
the principal factor to be considered should be
a. the terms of payment in the contract.
b. the degree to which a reliable estimate of the costs to complete and extent of progress
toward completion is practicable.
c. the method commonly used by the contractor to account for other long-term construc-
tion contracts.
d. the inherent nature of the contractor's technical facilities used in construction.
32. The percentage-of-completion method must be used when certain conditions exist. Which
of the following is not one of those necessary conditions?
a. Estimates of progress toward completion, revenues, and costs are reasonably
dependable.
b. The contractor can be expected to perform the contractual obligation.
c. The buyer can be expected to satisfy some of the obligations under the contract.
d. The contract clearly specifies the enforceable rights of the parties, the consideration to
be exchanged, and the manner and terms of settlement.
33. When work to be done and costs to be incurred on a long-term contract can be estimated
dependably, which of the following methods of revenue recognition is preferable?
a. Installment-sales method
b. Percentage-of-completion method
c. Completed-contract method
d. None of these
34. How should the balances of progress billings and construction in process be shown at
reporting dates prior to the completion of a long-term contract?
a. Progress billings as deferred income, construction in progress as a deferred expense.
b. Progress billings as income, construction in process as inventory.
c. Net, as a current asset if debit balance, and current liability if credit balance.
d. Net, as income from construction if credit balance, and loss from construction if debit
balance.
36. How should earned but unbilled revenues at the balance sheet date on a long-term
construction contract be disclosed if the percentage-of-completion method of revenue
recognition is used?
41. Cost estimates on a long-term contract may indicate that a loss will result on completion of
the entire contract. In this case, the entire expected loss should be
a. recognized in the current period, regardless of whether the percentage-of-completion
or completed-contract method is employed.
b. recognized in the current period under the percentage-of-completion method, but the
completed-contract method should defer recognition of the loss to the time when the
contract is completed.
c. recognized in the current period under the completed-contract method, but the
percentage-of-completion method should defer the loss until the contract is completed.
d. deferred and recognized when the contract is completed, regardless of whether the
percentage-of-completion or completed-contract method is employed.
Revenue Recognition 18 - 11
42. Cost estimates at the end of the second year indicate a loss will result on completion of
the entire contract. Which of the following statements is correct?
a. Under the completed-contract method, the loss is not recognized until the year the
construction is completed.
b. Under the percentage-of-completion method, the gross profit recognized in the first
year must not be changed.
c. Under the completed-contract method, when the billings exceed the accumulated
costs, the amount of the estimated loss is reported as a current liability.
d. Under the completed-contract method, when the Construction in Process balance
exceeds the billings, the estimated loss is added to the accumulated costs.
43. The criteria for recognition of revenue at the completion of production of precious metals
and farm products include
a. an established market with quoted prices.
b. low additional costs of completion and selling.
c. units are interchangeable.
d. all of these.
44. In certain cases, revenue is recognized at the completion of production even though no
sale has been made. Which of the following statements is not true?
a. Examples involve precious metals or farm equipment.
b. The products possess immediate marketability at quoted prices.
c. No significant costs are involved in selling the product.
d. All of these statements are true.
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45. For which of the following products is it appropriate to recognize revenue at the
completion of production even though no sale has been made?
a. Automobiles
b. Large appliances
c. Single family residential units
d. Precious metals
S
46. When there is a significant increase in the estimated total contract costs but the increase
does not eliminate all profit on the contract, which of the following is correct?
a. Under both the percentage-of-completion and the completed-contract methods, the
estimated cost increase requires a current period adjustment of excess gross profit
recognized on the project in prior periods.
b. Under the percentage-of-completion method only, the estimated cost increase
requires a current period adjustment of excess gross profit recognized on the project
in prior periods.
c. Under the completed-contract method only, the estimated cost increase requires a
current period adjustment of excess gross profit recognized on the project in prior
periods.
d. No current period adjustment is required.
48. The installment-sales method of recognizing profit for accounting purposes is acceptable if
a. collections in the year of sale do not exceed 30% of the total sales price.
b. an unrealized profit account is credited.
c. collection of the sales price is not reasonably assured.
d. the method is consistently used for all sales of similar merchandise.
49. The method most commonly used to report defaults and repossessions is
a. provide no basis for the repossessed asset thereby recognizing a loss.
b. record the repossessed merchandise at fair value, recording a gain or loss if appropriate.
c. record the repossessed merchandise at book value, recording no gain or loss.
d. none of these.
53. A seller is properly using the cost-recovery method for a sale. Interest will be earned on
the future payments. Which of the following statements is not correct?
a. After all costs have been recovered, any additional cash collections are included in
income.
b. Interest revenue may be recognized before all costs have been recovered.
c. The deferred gross profit is offset against the related receivable on the balance sheet.
d. Subsequent income statements report the gross profit as a separate item of revenue
when it is recognized as earned.
Revenue Recognition 18 - 13
55. Winser, Inc. is engaged in extensive exploration for water in Utah. If, upon discovery of
water, Winser does not recognize any revenue from water sales until the sales exceed the
costs of exploration, the basis of revenue recognition being employed is the
a. production basis.
b. cash (or collection) basis.
c. sales (or accrual) basis.
d. cost recovery basis.
*58. Occasionally a franchise agreement grants the franchisee the right to make future bargain
purchases of equipment or supplies. When recording the initial franchise fee, the
franchisor should
a. increase revenue recognized from the initial franchise fee by the amount of the
expected future purchases.
b. record a portion of the initial franchise fee as unearned revenue which will increase
the selling price when the franchisee subsequently makes the bargain purchases.
c. defer recognition of any revenue from the initial franchise fee until the bargain
purchases are made.
d. None of these.
*59. A franchise agreement grants the franchisor an option to purchase the franchisee's
business. It is probable that the option will be exercised. When recording the initial
franchise fee, the franchisor should
a. record the entire initial franchise fee as a deferred credit which will reduce the
franchisor's investment in the purchased outlet when the option is exercised.
b. record the entire initial franchise fee as unearned revenue which will reduce the
amount of cash paid when the option is exercised.
c. record the portion of the initial franchise fee which is attributable to the bargain
purchase option as a reduction of the future amounts receivable from the franchisee.
d. None of these.
MULTIPLE CHOICE—Computational
61. Reese Construction Corporation contracted to construct a building for $1,500,000.
Construction began in 2007 and was completed in 2008. Data relating to the contract are
summarized below:
Year ended
December 31,
2007 2008
Costs incurred $600,000 $450,000
Estimated costs to complete 400,000 —
Reese uses the percentage-of-completion method as the basis for income recognition.
For the years ended December 31, 2007, and 2008, respectively, Reese should report
gross profit of
a. $270,000 and $180,000.
b. $900,000 and $600,000.
c. $300,000 and $150,000.
d. $0 and $450,000.
Revenue Recognition 18 - 15
In 2007, Crane Corporation began construction work under a three-year contract. The contract
price is $2,400,000. Crane uses the percentage-of-completion method for financial accounting
purposes. The income to be recognized each year is based on the proportion of costs incurred to
total estimated costs for completing the contract. The financial statement presentations relating to
this contract at December 31, 2007, follow:
Balance Sheet
Accounts receivable—construction contract billings $100,000
Construction in progress $300,000
Less contract billings 240,000
Costs and recognized profit in excess of billings 60,000
Income Statement
Income (before tax) on the contract recognized in 2007 $60,000
64. What was the initial estimated total income before tax on this contract?
a. $300,000
b. $320,000
c. $400,000
d. $480,000
65. Eaton Construction Co. uses the percentage-of-completion method. In 2007, Eaton began
work on a contract for $3,300,000 and it was completed in 2008. Data on the costs are:
Year Ended December 31
2007 2008
Costs incurred $1,170,000 $840,000
Estimated costs to complete 780,000 —
For the years 2007 and 2008, Eaton should recognize gross profit of
2007 2008
a. $0 $1,290,000
b. $774,000 $516,000
c. $810,000 $480,000
d. $810,000 $1,290,000
Ramos, Inc. began work in 2007 on contract #3814, which provided for a contract price of
$7,200,000. Other details follow:
2007 2008
Costs incurred during the year $1,200,000 $3,675,000
Estimated costs to complete, as of December 31 3,600,000 0
Billings during the year 1,350,000 5,400,000
Collections during the year 900,000 5,850,000
66. Assume that Ramos uses the percentage-of-completion method of accounting. The
portion of the total gross profit to be recognized as income in 2007 is
a. $450,000.
b. $600,000.
c. $1,800,000.
d. $2,400,000.
67. Assume that Ramos uses the completed-contract method of accounting. The portion of
the total gross profit to be recognized as income in 2008 is
a. $900,000.
b. $1,350,000.
c. $2,325,000.
d. $7,200,000.
Miley, Inc. began work in 2007 on a contract for $8,400,000. Other data are as follows:
2007 2008
Costs incurred to date $3,600,000 $5,600,000
Estimated costs to complete 2,400,000 —
Billings to date 2,800,000 8,400,000
Collections to date 2,000,000 7,200,000
68. If Miley uses the percentage-of-completion method, the gross profit to be recognized in
2007 is
a. $1,440,000.
b. $1,600,000.
c. $2,160,000.
d. $2,400,000.
69. If Miley uses the completed-contract method, the gross profit to be recognized in 2008 is
a. $1,360,000.
b. $2,800,000.
c. $1,400,000.
d. $5,600,000.
70. Parker Construction Co. uses the percentage-of-completion method. In 2007, Parker
began work on a contract for $5,500,000; it was completed in 2008. The following cost
data pertain to this contract:
Year Ended December 31
2007 2008
Cost incurred during the year $1,950,000 $1,400,000
Estimated costs to complete at the end of year 1,300,000 —
The amount of gross profit to be recognized on the income statement for the year ended
December 31, 2008 is
a. $800,000.
b. $860,000.
c. $900,000.
d. $2,150,000.
Revenue Recognition 18 - 17
71. If the completed-contract method of accounting was used, the amount of gross profit to be
recognized for years 2007 and 2008 would be
2007 2008
a. $2,250,000. $0.
b. $2,150,000. $(100,000).
c. $0. $2,150,000.
d. $0. $2,250,000.
Carter Construction Company had a contract starting April 2008, to construct a $15,000,000
building that is expected to be completed in September 2009, at an estimated cost of
$13,750,000. At the end of 2008, the costs to date were $6,325,000 and the estimated total costs
to complete had not changed. The progress billings during 2008 were $3,000,000 and the cash
collected during 2008 was $2,000,000. Carter uses the percentage-of-completion method.
73. For the year ended December 31, 2008, Carter would recognize gross profit on the
building of
a. $0.
b. $527,083.
c. $575,000.
d. $675,000.
74. At December 31, 2008, Carter would report Construction in Process in the amount of
a. $6,900,000.
b. $6,325,000.
c. $5,900,000.
d. $575,000.
75. Kirby Builders, Inc. is using the completed-contract method for a $5,600,000 contract that
will take two years to complete. Data at December 31, 2007, the end of the first year, are
as follows:
Costs incurred to date $2,560,000
Estimated costs to complete 3,280,000
Billings to date 2,400,000
Collections to date 2,000,000
The gross profit or loss that should be recognized for 2007 is
a. $0.
b. a $240,000 loss.
c. a $120,000 loss.
d. a $105,600 loss.
76. Which of the following should be shown on the income statement for 2007 related to
Contract 1?
a. Gross profit, $450,000
b. Gross profit, $1,000,000
c. Gross profit, $1,050,000
d. Gross profit, $600,000
77. Which of the following should be shown on the balance sheet at December 31, 2007
related to Contract 2?
a. Inventory, $680,000
b. Inventory, $820,000
c. Current liability, $680,000
d. Current liability, $1,500,000
78. Which of the following should be shown on the balance sheet at December 31, 2007
related to Contract 3?
a. Inventory, $200,000
b. Inventory, $350,000
c. Inventory, $2,100,000
d. Inventory, $2,250,000
79. Harber Co. uses the installment-sales method. When an account had a balance of $8,400,
no further collections could be made and the dining room set was repossessed. At that
time, it was estimated that the dining room set could be sold for $2,400 as repossessed,
or for $3,000 if the company spent $300 reconditioning it. The gross profit rate on this sale
was 70%. The gain or loss on repossession was a
a. $5,880 loss.
b. $6,000 loss.
c. $600 gain.
d. $180 gain.
80. Yarbow Corporation has a normal gross profit on installment sales of 30%. A 2006 sale
resulted in a default early in 2008. At the date of default, the balance of the installment
receivable was $24,000, and the repossessed merchandise had a fair value of $13,500.
Assuming the repossessed merchandise is to be recorded at fair value, the gain or loss on
repossession should be
Revenue Recognition 18 - 19
a. $0.
b. a $3,300 loss.
c. a $3,300 gain.
d. a $7,500 loss.
81. Seeman Furniture uses the installment-sales method. No further collections could be
made on an account with a balance of $18,000. It was estimated that the repossessed
furniture could be sold as is for $5,400, or for $6,300 if $300 were spent reconditioning it.
The gross profit rate on the original sale was 40%. The loss on repossession was
a. $4,800.
b. $4,500.
c. $12,000.
d. $12,600.
82. Wagner Company sold some machinery to Granger Company on January 1, 2007. The
cash selling price would have been $568,620. Granger entered into an installment sales
contract which required annual payments of $150,000, including interest at 10%, over five
years. The first payment was due on December 31, 2007. What amount of interest income
should be included in Wagner's 2008 income statement (the second year of the contract)?
a. $15,000
b. $47,548
c. $30,000
d. $41,862
83. Lamberson Company has used the installment method of accounting since it began
operations at the beginning of 2008. The following information pertains to its operations
for 2008:
Installment sales $ 1,400,000
Cost of installment sales 980,000
Collections of installment sales 560,000
General and administrative expenses 140,000
The amount to be reported on the December 31, 2008 balance sheet as Deferred Gross
Profit should be
a. $168,000.
b. $252,000.
c. $336,000.
d. $840,000.
84. Maris, Inc. appropriately used the installment method of accounting to recognize income
in its financial statement. Some pertinent data relating to this method of accounting
include:
2007 2008
Installment sales $750,000 $900,000
Cost of sales 450,000 630,000
Gross profit $300,000 $270,000
Collections during year:
On 2007 sales 250,000 250,000
On 2008 sales 300,000
What amount to be realized gross profit should be reported on Maris’s income statement
for 2008?
a. $165,000
b. $190,000
c. $220,000
d. $270,000
85. Singer Company sells plasma-screen televisions on an installment basis and appropri-
ately uses the installment-sales method of accounting. A customer with an account
balance of $5,600 refuses to make any more payments and the merchandise is
repossessed. The gross profit rate on the original sale is 40%. Singer estimates that the
television can be sold as is for $1,750, or for $2,100 if $140 is spent to refurbish it. The
loss on repossession is
a. $3,850.
b. $2,240.
c. $1,610.
d. $1,400.
During 2008, Steele Corporation sold merchandise costing $1,500,000 on an installment basis for
$2,000,000. The cash receipts related to these sales were collected as follows: 2008, $800,000;
2009, $700,000; 2010, $500,000.
86. What is the rate of gross profit on the installment sales made by Steele Corporation during
2008?
a. 75%
b. 60%
c. 40%
d. 25%
87. If expenses, other than the cost of the merchandise sold, related to the 2008 installment
sales amounted to $90,000, by what amount would Steele’s net income for 2008 increase
as a result of installment sales?
a. $110,000
b. $177,500
c. $200,000
d. $710,000
88. What amount would be shown in the December 31, 2009 financial statement for realized
gross profit on 2008 installment sales, and deferred gross profit on 2008 installment sales,
respectively?
a. $175,000 and $375,000
b. $325,000 and $175,000
c. $375,000 and $125,000
d. $175,000 and 125,000
89. On January 1, 2007, Dole Co. sold land that cost $210,000 for $280,000, receiving a note
bearing interest at 10%. The note will be paid in three annual installments of $112,595
starting on December 31, 2007. Because collection of the note is very uncertain, Dole will
use the cost-recovery method. How much revenue from this sale should Dole recognize in
2007?
Revenue Recognition 18 - 21
a. $0
b. $21,000
c. $28,000
d. $70,000
*90. On April 1, 2007 Reagan, Inc. entered into a franchise agreement with a local business-
man. The franchisee paid $240,000 and gave a $160,000, 8%, 3-year note payable with
interest due annually on March 31. Reagan recorded the $400,000 initial franchise fee as
revenue on April 1, 2007. On December 30, 2007, the franchisee decided not to open an
outlet under Reagan's name. Reagan canceled the franchisee's note and refunded
$128,000, less accrued interest on the note, of the $240,000 paid on April 1. What entry
should Reagan make on December 30, 2007?
a. Loss on Repossessed Franchise ......................................... 128,000
Cash ......................................................................... 128,000
b. Loss on Repossessed Franchise ......................................... 118,400
Cash ......................................................................... 118,400
c. Loss on Repossessed Franchise ......................................... 278,400
Cash ......................................................................... 118,400
Note Receivable ....................................................... 160,000
d. Revenue from Franchise Fees ............................................. 400,000
Interest Income ......................................................... 9,600
Cash ......................................................................... 118,400
Note Receivable ....................................................... 160,000
Revenue from Repossessed Franchise ................... 112,000
*91. On January 1, 2007 Tasty Delight, Inc. entered into a franchise agreement with a
company allowing the company to do business under Tasty Delight's name. Tasty Delight
had performed substantially all required services by January 1, 2007, and the franchisee
paid the initial franchise fee of $560,000 in full on that date. The franchise agreement
specifies that the franchisee must pay a continuing franchise fee of $48,000 annually, of
which 20% must be spent on advertising by Tasty Delight. What entry should Tasty
Delight make on January 1, 2007 to record receipt of the initial franchise fee and the
continuing franchise fee for 2007?
a. Cash ..................................................................................... 608,000
Franchise Fee Revenue ........................................... 560,000
Revenue from Continuing Franchise Fees ............... 48,000
b. Cash ..................................................................................... 608,000
Unearned Franchise Fees ........................................ 608,000
c. Cash ..................................................................................... 608,000
Franchise Fee Revenue ........................................... 560,000
Revenue from Continuing Franchise Fees ............... 38,400
Unearned Franchise Fees ........................................ 9,600
d. Prepaid Advertising .............................................................. 9,600
Cash ..................................................................................... 608,000
Franchise Fee Revenue ........................................... 560,000
Revenue from Continuing Franchise Fees ............... 48,000
Unearned Franchise Fees ........................................ 9,600
*92. Yount Inc. charges an initial franchise fee of $920,000, with $200,000 paid when the
agreement is signed and the balance in five annual payments. The present value of the
future payments, discounted at 10%, is $545,872. The franchisee has the option to
purchase $120,000 of equipment for $96,000. Yount has substantially provided all initial
services required and collectibility of the payments is reasonably assured. The amount of
revenue from franchise fees is
a. $200,000.
b. $721,872.
c. $745,872.
d. $920,000.
*93. The total sales price of the TVs sold by AL's TV was
a. $15,375.
b. $16,125.
c. $16,388.
d. $17,625.
*94. The inventory of TVs will be reported on whose balance sheet and at what amount?
Balance Sheet of Amount of Inventory
a. TV Inc. $13,875
b. TV Inc. $13,500
c. Al's TV $13,875
d. Al's TV $13,500
Revenue Recognition 18 - 23
96. Flynn Construction Co. has consistently used the percentage-of-completion method of
recognizing revenue. During 2007, Flynn entered into a fixed-price contract to construct
an office building for $12,000,000. Information relating to the contract is as follows:
At December 31
2007 2008
Percentage of completion 15% 45%
Estimated total cost at completion $9,000,000 $9,600,000
Gross profit recognized (cumulative) 600,000 1,440,000
Contract costs incurred during 2008 were
a. $2,880,000.
b. $2,970,000.
c. $3,150,000.
d. $4,320,000.
97. Noland Constructors, Inc. has consistently used the percentage-of-completion method of
recognizing income. In 2007, Noland started work on a $35,000,000 construction contract
that was completed in 2008. The following information was taken from Noland's 2007
accounting records:
Progress billings $11,000,000
Costs incurred 10,500,000
Collections 7,000,000
Estimated costs to complete 21,000,000
What amount of gross profit should Noland have recognized in 2007 on this contract?
a. $3,500,000
b. $2,333,334
c. $1,750,000
d. $1,166,667
98. During 2007, Eaton Corp. started a construction job with a total contract price of
$3,500,000. The job was completed on December 15, 2008. Additional data are as follows:
2007 2008
Actual costs incurred $1,350,000 $1,525,000
Estimated remaining costs 1,350,000 —
Billed to customer 1,200,000 2,300,000
Received from customer 1,000,000 2,400,000
Under the completed-contract method, what amount should Eaton recognize as gross
profit for 2008?
a. $225,000
b. $312,500
c. $475,000
d. $625,000
99. Penny Farms produced 800,000 pounds of cotton during the 2007 season. Penny sells all
of its cotton to Bye Co., which has agreed to purchase Penny's entire production at the
prevailing market price. Recent legislation assures that the market price will not fall below
$.70 per pound during the next two years. Penny's costs of selling and distributing the
cotton are immaterial and can be reasonably estimated. Penny reports its inventory at
expected exit value. During 2007, Penny sold and delivered to Bye 600,000 pounds at the
market price of $.70. Penny sold the remaining 200,000 pounds during 2008 at the market
price of $.72. What amount of revenue should Penny recognize in 2007?
a. $420,000
b. $432,000
c. $560,000
d. $576,000
100. Klugg, Inc. appropriately uses the installment-sales method of accounting to recognize
income in its financial statements. Some pertinent data relating to this method of
accounting include:
2007 2008
Installment sales $750,000 $720,000
Cost of installment sales 570,000 504,000
Gross profit $180,000 $216,000
101. Neber Co., which began operations on January 1, 2007, appropriately uses the
installment-sales method of accounting. The following information pertains to Neber's
operations for the year 2007:
Installment sales $1,200,000
Regular sales 480,000
Cost of installment sales 720,000
Cost of regular sales 288,000
General and administrative expenses 96,000
Collections on installment sales 288,000
The deferred gross profit account in Neber's December 31, 2007 balance sheet should be
a. $115,200.
b. $192,000.
c. $364,800.
d. $480,000.
Revenue Recognition 18 - 25
102. On January 1, 2007, Stein Co. sold a used machine to Mays, Inc. for $350,000. On this
date, the machine had a depreciated cost of $245,000. Mays paid $50,000 cash on
January 1, 2007 and signed a $300,000 note bearing interest at 10%. The note was
payable in three annual installments of $100,000 beginning January 1, 2008. Stein
appropriately accounted for the sale under the installment method. Mays made a timely
payment of the first installment on January 1, 2008 of $130,000, which included interest of
$30,000 to date of payment. At December 31, 2008, Stein has deferred gross profit of
a. $70,000.
b. $66,000.
c. $60,000.
d. $51,000.
103. Grant Co. began operations on January 1, 2007 and appropriately uses the installment
method of accounting. The following information pertains to Grant's operations for 2007:
Installment sales 1,800,000
Cost of installment sales 1,080,000
General and administrative expenses 180,000
Collections on installment sales 825,000
The balance in the deferred gross profit account at December 31, 2007 should be
a. $330,000.
b. $495,000.
c. $390,000.
d. $720,000.
104. Lott Co. records all sales using the installment method of accounting. Installment sales
contracts call for 36 equal monthly cash payments. According to the FASB's conceptual
framework, the amount of deferred gross profit relating to collections 12 months beyond
the balance sheet date should be reported in the
a. current liabilities section as a deferred revenue.
b. noncurrent liabilities section as a deferred revenue.
c. current assets section as a contra account.
d. noncurrent assets section as a contra account.
105. Alton, Inc. is a retailer of home appliances and offers a service contract on each appliance
sold. Alton sells appliances on installment contracts, but all service contracts must be paid
in full at the time of sale. Collections received for service contracts should be recorded as
an increase in a
a. deferred revenue account.
b. sales contracts receivable valuation account.
c. stockholders' valuation account.
d. service revenue account.
DERIVATIONS — Computational
No. Answer Derivation
61. c $600,000
—————————— × ($1,500,000 – $1,000,000) = $300,000
$600,000 + $400,000
62. c $7,200,000
——————————— × ($15,000,000 – $12,000,000) = $1,800,000.
$7,200,000 + $4,800,000
$240,000
————————— × ($2,400,000 – Total estimated cost) = $60,000
Total estimated cost
65. c $1,170,000
—————- × ($3,300,000 – $1,950,000) = $810,000
$1,950,000
66. b $1,200,000
————— × ($7,200,000 – $4,800,000) = $600,000.
$4,800,000
68. a $3,600,000
————— × ($8,400,000 – $6,000,000) = $1,440,000.
$6,000,000
Revenue Recognition 18 - 27
89. a $0.
$10,500,000
97. d —————— × ($35,000,000 – $31,500,000) = $1,166,667.
$31,500,000
101. c $1,200,000 – $720,000 = $480,000 gross profit (40% gross profit rate)
$480,000 – ($288,000 × .4) = $364,800.
104. c Conceptual.
105. a Conceptual.
EXERCISES
Ex. 18-106— Revenue recognition (essay).
The revenue recognition principle provides that revenue is recognized when (1) it is realized or
realizable and (2) it is earned.
Instructions
Explain when revenues are (a) realized, (b) realizable, and (c) earned.
Revenue Recognition 18 - 29
Solution 18-106
(a) Revenues are realized when goods or services are exchanged for cash or claims to cash
(receivables).
(b) Revenues are realizable when assets received in exchange are readily convertible to known
amounts of cash or claims to cash.
(c) Revenues are earned when the earnings process is complete or virtually complete.
Instructions
At what times, other than at time of sale, may it be appropriate to recognize revenue? Explain
and justify each of these times.
Solution 18-107
Revenue is also recognized (1) during production, (2) at completion, and (3) at collection.
(1) During production. The most common situation is the use of the percentage-of-completion
method for long-term construction contracts. The point of sale is much less significant than
production activity. If the contractor can expect to perform the contractual obligation, the
revenue is assured by the contract. To defer recognition until completion of the entire
contract misrepresents the efforts (costs) and accomplishments (revenues) of the interim
periods. If progress toward completion can be estimated with reasonable accuracy, the
percentage-of-completion method should be used.
(2) At completion. Examples of revenue recognition at completion of production involve precious
metals and agricultural products with quoted prices. These sales prices are reasonably
assured, there are low additional costs of distribution, and unit costs cannot be determined
because of joint costs.
(3) At collection. When collection is highly uncertain and there is no reasonably objective basis
for estimating the degree of collectibility, revenue should not be recognized until cash is
received. In addition, if collection costs and bad debts are expected to be high and their
amount cannot be reasonably estimated, revenue recognition should be deferred.
Instructions
(a) Discuss how earnings on long-term construction contracts are recognized and computed
under these two methods.
(b) Under what circumstances should one method be used over the other?
(c) How are job costs and interim billings reflected on the balance sheet under the percentage-
of-completion method and the completed-contract method?
Solution 18-108
(a) The revenue recognized on a long-term construction contract under the percentage-of-
completion method is determined by applying a percentage representing the degree of
completion to the total contract price at the end of the accounting period. The percentage
may be derived by dividing the costs incurred to date by the total estimated costs of the
entire contract based on the most recent information. The revenue so derived is then
reduced by the direct contract costs to determine the gross profit recognized in the initial
period.
In subsequent periods, since the percentage-of-completion method described produces
cumulative results, revenue and gross profit recognized in prior periods must be subtracted
to obtain current revenue and gross profit to be recognized.
Under the completed-contract method, no earnings are recognized until the contract is
substantially completed. For the period in which completion occurs, gross revenues include
the total contract price. Total job costs incurred are deducted from gross revenues, resulting
in recognition of the entire amount of gross profit in the completion period. If it is expected
that a loss will occur on the contract, a provision for loss should be recognized immediately
under both the completed-contract method and the percentage-of-completion method.
(b) The percentage-of-completion method should be used when estimates of the bases upon
which progress is measured are reasonably dependable and all the following conditions
exist:
1. The contract clearly specifies the enforceable rights regarding goods or services to be
provided and received by the parties, the consideration to be exchanged, and the
manner and terms of settlement.
2. The buyer can be expected to satisfy all obligations under the contract.
3. The contractor can be expected to perform the contractual obligation.
The completed-contract method should be used when inherent hazards or lack of depend-
able estimates cause the forecasts to be of doubtful value.
Revenue Recognition 18 - 31
Instructions
(a) Make the entry to record construction costs of $3,600,000, on construction in process to
date.
(b) Make the entry to record progress billings of $2,000,000.
(c) Make the entry to recognize the profit that can be recognized to date, on a percentage-of-
completion basis.
Solution 18-109
(a) Construction in Process ................................................................ 3,600,000
Materials, Cash, Payables, Etc. ........................................ 3,600,000
Instructions
(a) How much revenue should be reported for 2007? Show your computation.
(b) Make the entry to record progress billings of $1,650,000 during 2007.
(c) Make the entry to record the revenue and gross profit for 2007.
(d) How much gross profit should be reported for 2008? Show your computation.
Solution 18-110
(a) $1,650,000
————— × $5,000,000 = $2,750,000
$3,000,000
Solution 18-111
(a) $1,800,000
————— × $5,000,000 = $1,000,000
$9,000,000
(b) $5,200,000
—————— × $4,000,000 = $2,080,000
$10,000,000
Less 2007 gross profit 1,000,000
Gross profit in 2008 $1,080,000
Revenue Recognition 18 - 33
Solution 18-112
Percentage-of-Completion Completed-Contract
Gross Profit Gross Profit
a
2007 $750,000 2007 —
b
2008 $210,000 2008 —
c d
2009 $440,000 2009 $1,400,000
a
$1,500,000
————— × $2,000,000 = $750,000
$4,000,000
b
$2,640,000
————— × $1,600,000 = $960,000
$4,400,000
Instructions
(a) Calculate the rate of gross profit on 2007 installment sales.
(b) Make the entry to record the repossession.
Solution 18-113
(a) $300,000 ÷ $1,000,000 = 30%
Instructions
Using the installment-sales method, make summary entries to record:
(a) the installment sales and cash collections;
(b) the cost of installment sales;
(c) the unrealized gross profit;
(d) the realized gross profit.
Solution 18-114
(a) Installment Accounts Receivable.................................................. 800,000
Installment Sales .............................................................. 800,000
Cash ............................................................................................. 300,000
Installment Accounts Receivable ...................................... 300,000
Revenue Recognition 18 - 35
Solution 18-115
(Note: For financial accounting purposes, the installment-sales method is not used, and the full
gross profit is recognized in the year of sale, because collection of the receivable is reasonably
assured.)
Edmond Company
Computation of Income Before Income Taxes
On Installment Sale Contract
For the Year Ended December 31, 2008
Sales $4,584,000
Cost of Sales 3,825,000
Gross Profit 759,000
Interest Revenue (Schedule I) 328,320
Income before Income Taxes $1,087,320
Schedule I
Computation of Interest Revenue on
Installment Sale Contract
Cash selling price (sales) $4,584,000
Payment made on January 1, 2008 936,000
Balance outstanding at 12/31/08 3,648,000
Interest rate 9%
Interest Revenue $ 328,320
*Ex. 18-116—Franchises.
Pasta Inn charges an initial fee of $800,000 for a franchise, with $160,000 paid when the
agreement is signed and the balance in four annual payments. The present value of the annual
payments, discounted at 10%, is $507,200. The franchisee has the right to purchase $60,000 of
kitchen equipment and supplies for $50,000. An additional part of the initial fee is for advertising
to be provided by Pasta Inn during the next five years. The value of the advertising is $1,000 a
month. Collectibility of the payments is reasonably assured and Pasta Inn has performed all the
initial services required by the contract.
Instructions
Prepare the entry to record the initial franchise fee. Show supporting computations in good form.
*Solution 18-116
Total fee $800,000
Discount $ 640,000
(507,200) (132,800)
Bargain purchase (10,000)
Advertising ($1,000 × 60) (60,000)
$597,200
PROBLEMS
Pr. 18-117—Long-term construction project accounting.
Benson Construction specializes in the construction of commercial and industrial buildings. The
contractor is experienced in bidding long-term construction projects of this type, with the typical
project lasting fifteen to twenty-four months. The contractor uses the percentage-of-completion
method of revenue recognition since, given the characteristics of the contractor's business and
contracts, it is the most appropriate method. Progress toward completion is measured on a cost
to cost basis. Benson began work on a lump-sum contract at the beginning of 2008. As bid, the
statistics were as follows:
Lump-sum price (contract price) $4,000,000
Estimated costs
Labor $ 850,000
Materials and subcontractor 1,750,000
Indirect costs 400,000 3,000,000
$1,000,000
Revenue Recognition 18 - 37
It should be noted that included in the above costs incurred to date were standard electrical and
mechanical materials stored on the job site, but not yet installed, costing $105,000. These costs
should not be considered in the costs incurred to date.
Instructions
(a) Compute the percentage of completion on the contract at the end of 2008.
(b) Indicate the amount of gross profit that would be reported on this contract at the end of
2008.
(c) Make the journal entry to record the income (loss) for 2008 on Benson's books.
(d) Indicate the account(s) and the amount(s) that would be shown on the balance sheet of
Benson Construction at the end of 2008 related to its construction accounts. Also indicate
where these items would be classified on the balance sheet. Billings collected during the
year amounted to $1,980,000.
(e) Assume the latest forecast on total costs at the end of 2008 was $4,050,000. How much
income (loss) would Benson report for the year 2008?
Solution 18-117
(a) Costs to date $1,755,000
Less materials on job site (105,000)
$1,650,000
$1,650,000
————— = 55%
$3,000,000
Instructions
(a) Prepare a schedule by project, computing the amount of income (or loss) before selling,
general, and administrative expenses for the year ended December 31, 2008, which would
be reported under:
(1) The completed-contract method.
(2) The percentage-of-completion method (based on estimated costs).
Revenue Recognition 18 - 39
(c) Indicate the balances that would appear in the balance sheet at December 31, 2008 for the
following accounts for Project D (fourth project), assuming that the percentage-of-completion
method is used.
Accounts Receivable
Billings on Construction in Process
Construction in Process
(d) How would the balances in the accounts discussed in part (c) change (if at all) for Project D
(fourth project), if the completed-contract method is used?
Solution 18-118
(a) (1) and (2)
Projects A B C D E
Contract price $515,000 $690,000 $475,000 $200,000 $480,000
Contract costs incurred 424,000 195,000 350,000 123,000 320,000
Additional costs
to complete 101,000 455,000 -0- 97,000 80,000
Total cost 525,000 650,000 350,000 220,000 400,000
Total gross profit
or (loss) $ (10,000) $ 40,000 $125,000 $ (20,000) $ 80,000
The amount reported as income (loss) under the completed-contract method for 2008 is:
Project A $(10,000)
B -0-
C 125,000
D (20,000)
E -0-
$ 95,000
The amount reported as income (loss) under the percentage-of-completion method for 2008 is:
Project A $(10,000)
B 12,000 $40,000 × ($195,000 ÷ $650,000)
C 125,000
D (20,000)
E 64,000 $80,000 × ($320,000 ÷ $400,000)
$171,000
Each of the above contracts is with a different customer, and any work remaining at December
31, 2008 is expected to be completed in 2009.
Instructions
Prepare a partial income statement and a partial balance sheet to indicate how the above
contract information would be reported. Ponce uses the completed-contract method.
Solution 18-119
Ponce Construction, Inc.
Income Statement
For the Year 2008
Revenue from long-term contracts (contract Z) $233,000
Cost of construction (contract Z) 158,000
Gross profit $ 75,000
Provision for loss (contract Y)* 17,000
*Contract costs through 12/31/08 $100,000
Estimated costs to complete 247,000
Total estimated costs 347,000
Total contract price 330,000
Loss recognized in 2008 $ 17,000
Revenue Recognition 18 - 41
Cash $45,000
Installment accounts receivable—2007 20,000
Installment accounts receivable—2008 50,000
Installment accounts receivable—2009 90,000
Inventory 27,400
Repossessed merchandise 4,600
Accounts payable $ 37,600
Deferred gross profit—2007 12,000
Deferred gross profit—2008 26,400
Common stock 125,000
Retained earnings 10,000
Installment sales 120,000
Cost of installment sales 78,000
Loss on repossessions 3,000
Operating expenses 13,000
$331,000 $331,000
Additional information:
2007 gross profit rate: 25%
Total cash receipts during 2009: $118,000
Merchandise sold in 2008 was repossessed in 2009 and the following entry was prepared:
Solution 18-120
(a) Determined from the repossession entry:
Deferred gross profit $2,400
———— = 24%
Installment accounts receivable $10,000