1. Chapter 19: Revenue Recognition
Intermediate Accounting, 10th Edition
Kieso, Weygandt, and Warfield
Chapter 19: Revenue Recognition
Prepared by
Krishnan Ranganathan, Angelo State University,
San Angelo, Texas

2. Guidelines for Revenue Recognition
The revenue recognition principle provides that revenue is recognized:
when it is earned, and
when it is realized or realizable
Revenue is earned when the earnings process is substantially complete
Revenue is realized when goods and services are exchanged for cash or claims to cash
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

3. Four Types of Revenue Transactions
Revenue from selling products is recognized at the date of sale (date of delivery)
Revenue from services is recognized when services are performed and are billable
Revenue from the use of enterprise’s assets by others is recognized as time passes or as the assets are used up
Revenue from disposal of assets is recognized at the point of sale
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

4. Revenue Recognition at Point of Sale
Revenues from manufacturing and selling are commonly recognized at point of sale.
Revenues from sales with buyback agreements are not recognized (not sales)
Revenues from sales where rights of return exist are not generally recognized
Certain trade practices such as trade loading and channel stuffing do not result in recognizable sales revenues.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

5. Revenue Recognition before Delivery
Revenue may be recognized before delivery under certain circumstances
Long term construction contracts (percentage completion method) are a notable example.
The percentage method permits periodic billing at various points in the project.
The completed contract method is used only when the percentage method is inapplicable.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

6. Percentage of Completion
Contract Accounting
Long-Term Construction
Accounting Methods
Percentage of Completion
Method
Completed Contract
Method
1) Terms of contract must
be certain, enforceable.
2) Certainty of performance
by both parties
1) To be used only when
the percentage method is
inapplicable [uncertain]
2) For short-term contracts
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

7. Percentage Completion: Concept
Percentage completion method permits periodic billing
The amount of gross profit recognized depends upon the percent of work done
See the specific steps for determining gross profit (next slide)
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

8. Percentage Completion: Steps
Costs incurred to date = Percent complete
Most recent estimated total costs 1
Estimated total revenue * Percent complete
= Revenue to be recognized to date 2
Total revenue to be recognized to date less Revenue
recognized in PRIOR periods = Current period revenue 3
Current Period Revenue less current costs = Gross Profit 4
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

9. Percentage Completion: Example
Data: Contract price: $4,500,000 Estimated cost: $4,000,000
Start date: July, Finish: October, 2003
Balance sheet date: Dec 31.
Given:
Costs to date $1,000,000 $2,916,000 $4,050,000
Estimated costs to complete $3,000,000 $1,134,000 $
Progress Billings during year $ 900,000 $2,400,000 $1,200,000
Cash collected during year $ 750,000 $1,750,000 $2,000,000
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

10. Percentage Completion: ex-contd
1,000,000 = 25% 2,916,000= 72% %
4,000, ,050,000
% complete
to-date
4,500,000 * 25% 4,500,000 * 72% 4,500,000
= 1,125, less 1,125, less 3,240,000
= 2,115, = 1,260,000
Revenue
recognized
1,125,000 less 2,115,000 less ,260,000
1,000, ,916, less 1,134,000
= 125, = 199, = 126,000
Gross Profit
recognized
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

11. Recognizing Current & Overall Losses on Long Term Contracts
A long term contract may produce:
either an interim loss and an overall profit,
or an overall loss for the project
Under the percentage completion method, losses in any case are immediately recognized.
Under the completed contract method, losses are recognized immediately only when overall losses result.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

12. Recognizing Current & Overall Losses on Long Term Contracts
Percentage Method:
Recognize loss currently.
Current Loss on
an otherwise
overall profitable
contract
Completed method:
No adjustment needed
Loss on an
overall Unprofitable
contract
Loss
Percentage Method:
Recognize entire loss now.
Completed method:
Recognize loss currently.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

13. Percentage Method: Interim Loss on Profitable Contract - Example
Data: Contract price: $3,000
Contract start date: February
Contract finish date: December 2001
As of : Costs to date: $2,000
Estimated costs to complete:$ 500
As of : Costs to date: $2,300
Estimated to complete: $ 330
Compute the gross profit or loss to be recognized for 2000 and 2001.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

14. Percentage Method: Interim Loss on Profitable Contract - Example
Note:
The contract shows an overall profit for 2000 and 2001 together:
Estimated total revenue: $3,000
Estimated total costs: $2,630
Estimated total gross profit: $ 370
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

15. Percentage Method: Interim Loss on Profitable Contract - Example
Gross Profit (2000)
80% * $3,000 = $2,400
Profit = $2,400 - $2,000 = $400
Gross Profit (2001)
Percent complete:
[$2,300] / [$ ]: 88%
Current revenue:
[0.88 * $3,000] =$2,624 less $2,400
= $224
Loss:
Revenue, $224 - Cost, $300
= $ 76 loss
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

16. Percentage Method: Interim Loss on Profitable Contract - Example
Record loss for 2001:
Construction Expense $300
Construction Revenue $224
Construction in Process $ 76
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

17. Percentage Method: Overall Unprofitable Contract - Example
Data: Contract price: $3,000
Contract start date: February
Contract finish date: December 2001
As of : Costs to date: $2,000
Estimated costs to complete:$ 500
As of : Costs to date: $2,600
Estimated to complete: $ 530
Compute the gross profit or loss to be recognized for 2000 and 2001.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

18. Percentage Method: Overall Unprofitable Contract - Example
Note:
The contract shows an overall profit for 2000 and 2001 together:
Estimated total revenue: $3,000
Estimated total costs: $3,130
Estimated total loss: $ 130
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

19. Percentage Method: Overall Unprofitable Contract - Example
Gross Profit (2000)
80% * $3,000 = $2,400
Profit = $2,400 - $2,000 = $400
Gross Profit (2001)
Percent complete:
[$2,600] / [$2, ]: 83%
Current revenue:
[0.83 * $3,000] =$2,492 less $2,400
= $92
Loss:
Revenue, $92 - Cost, $ 622
= $ 530 loss
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

20. Percentage Method: Overall Unprofitable Contract - Example
Record loss for 2001:
Construction Expense $622
Construction Revenue $ 92
Construction in Process $ 530
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

21. Percentage Method: Overall Unprofitable Contract - Example
Continuing the prev. slide:
We complete the contract in 2002 [costs, $530 for 2002]
Revenue [2002] = $3,000 total less [ $2,400 in 00 & $92 in 2001] = $508
Construction Expense [2002] = Construction costs [2002] = $530 [no change]
But, the loss of $22 [i.e. $530 - $508] has already been recognized in 2001.
So: Construction Expense Construction Revenue
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

22. Revenue Recognition after Delivery
Revenue recognition is deferred when collection of sales price is not reasonably assured
The two methods that are used are:
the installment sales method
the cost recovery method
If cash is received prior to delivery, the method used is the deposit method.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

23. The Installment Sales Method
This method emphasizes income recognition in periods of collection rather than at point of sale
Title does not pass to the buyer until all cash payments have been made to the seller
Both sales and cost of sales are deferred to the periods of collection.
Other expenses, selling and administrative, are not deferred.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

24. The Installment Sales Method: Special Accounts
Installment sales must be kept separate
Gross profit on installment sales must be determinable
The amount of cash collected from installment accounts must be known
The cash collected from current year’s and prior years’ accounts must be known
Provision must be made for the carry forward of each year’s (deferred) gross profit
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

25. The Installment Sales Method: Steps
For installment sales in any year
For installment sales made in prior years (realized gross profit)
Determine rate of gross profit on installment sales
Apply this rate to cash collections of current year’s installment sales to yield realized gross profit
The gross profit not realized is deferred
Apply the relevant rate to cash collections of prior year’s installment sales
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

26. The Installment Sales Method: Example
Given:
Installment sales $200,000 $250,000 $240,000
Cost of sales $150,000 $190,000 $168,000
Gross Profit $ 50,000 $ 60,000 $ 72,000
Cash received in:
from 2001 sales $ 60,000 $ 100,000 $ 40,000
from 2002 sales $ $ 100,000 $ 125,000
from 2003 sales $ $ $ 80,000
Determine the realized and deferred gross profit.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

27. The Installment Sales Method: Example
Given:
Installment sales $200,000 $250,000 $240,000
Gross Profit $ 50,000 $ 60,000 $ 72,000
Gross profit rate 25% 24% 30%
See next slide for realized and deferred gross profit
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

28. The Installment Sales Method: Example
Gross profit rate 25% % %
Realized Gross Profit:
From 2001 sales:
Realized in $ 15,000 $ 25,000 $ 10,000
From 2002 sales:
Realized in: $ $ 24,000 $ 30,000
From 2003 sales:
Realized in: $ $ $ 24,000
Gross profit deferred
deferred
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

29. Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)
The Installment Sales Method: Partial Journal Entries (2001) for Gross Profit
Installment Sales ,000 Cost of Sales ,000 Deferred Gross Profit, ,000 (To close 2001 accounts)
Deferred Gross Profit, ,000 Realized Gross Profit ,000 (Realized: $60,000 * 25%)
Realized Gross Profit ,000 Income Summary ,000 (To close to Income Summary)
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

30. The Cost Recovery Method
Seller recognizes no profit until: cash payments by buyer exceed seller’s cost of merchandise.
After recovering all costs, seller includes additional cash collections in income.
This method is to be used where there is no reasonable basis for estimating collectibility as in franchises and real estate.
The income statement reports the amount of gross profit recognized and the amount, deferred.
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

31. Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)
The Deposit Method
Seller receives cash from buyer before transfer of goods or performance.
The seller has no claim against the purchaser
There is insufficient transfer of risks to buyer to warrant recording a sale by seller
In the case of such incomplete transactions, the deposit method is used
The deposit method thus defers sale recognition until a sale has occurred for accounting purposes
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Intermediate Accounting, 10th edition, Chapter 19 (Kieso et al.)

32. COPYRIGHT
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