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ACC 414 Chapter Notes - Chapter 6: Credit Risk, The Seller, No Entry

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School
Ryerson University
Department
Accounting
Course
ACC 414
Professor
Nicholas Bordignon

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Document Summary

Consideration is what the entity receives in return for the provision of goods and services. Credit risk is the risk that the customer won"t pay. Price risk is the risk that the price of an asset will change. The entity agrees to a more lenient return or payment policy (paying in instalments over extended term or consignment sales) The entity transfers legal title but allows the customer to take delivery at a later date (bill & hold) The goods are shipped subject to customer acceptance conditions. (extended trial periods) The entity agrees to provide ongoing or additional services beyond the main goods/services agreed. Legal title passes at one of the following point when shipping goods: Fob shipping point legal title passes at shipping point. Fob destination legal title passes when the asset reaches the customer. Constructive obligation is an obligation that is created through past practice or by signalling something to potential customers.

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Related Questions

In class we discussed a number of situations where a sellercould recognize revenue before it has fully completed everyobligation under a contract. Which of the following items does NOTrepresent one of these situations?

Sale without a fixed price
Substantial completion of a contract (i.e., onlyinconsequential obligations remain)
A multiple-element arrangement
Percentage-of-completion accounting for a long-termcontract
Bill-and-hold sale
Sale with a return policy (provided certain conditions aremet)

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Question 21 pts

In class we discussed a couple situations where a seller wouldnot be able to recognize revenue even though it had shipped an itemto a customer. Which of the following items does NOT represent oneof these situations? (i.e., in which of these cases can revenue berecognized?)

Goods shipped but still in transit, with FOB shipping pointterms
Goods shipped but still in transit, with FOB destinationterms
Goods delivered on consignment
Goods delivered to a customer, where customer acceptance hasn’tyet occurred

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Question 31 pts

Seller’s sales contract specifies that legal title transfers tocustomers upon shipment from its facility. However, in the eventthat a product is lost or damaged in shipment, Seller has a pastpractice of supplying a replacement product at no charge to thecustomer. When should Seller recognize revenue?

When the product arrives at the customer’s facility
When the product is shipped from Seller’s facility
When Seller receives payment from the customer

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Question 41 pts

For which type of customer acceptance are revenues recognizednet (instead of gross)?

Acceptance based on subjective criteria
Acceptance based on customer-specified objective criteria
Acceptance based on seller-specified objective criteria

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Question 51 pts

In 2015, Constructor Corp. began a three-year, long-termconstruction project that qualified for percentage-of-completionaccounting. Constructor’s customer agreed to pay $300,000. By theend of 2015, Constructor had incurred costs of $60,000 and expectedto spend an additional $180,000 over the next two years. How muchrevenue will Constructor report on the project in its 2015 incomestatement?

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Question 61 pts

On December 12, 2014, Customer purchased two pieces of equipmentfor $105. Seller delivered Item A on December 13 but doesn’t expectto deliver Item B until the following February. Seller doesn’t selleither items separately (only as a pair), but Seller estimates theindividual selling prices to be $40 for item A and $80 for item B.Assuming this contract meets the criteria for separation as amultiple-element arrangement, how much revenue can Seller recognizein the fiscal year ending December 31, 2014?

The Company assists clients by designing and implementingsolutions that reduce the overall costs of its customers’ supplychains. The Company provides Just-In-Time (JIT) inventorymanagement of spare parts used in its customers’ manufacturingprocesses to reduce cycle times and lower inventory-related costs.The Company entered into a supply management contract (the“Agreement”) with the Customer, an unrelated third party, toprovide spare parts ,
management services,(including sourcing, procurement, repair,transport and delivery), and warehouse management.
?The key terms of the agreement between the company andcustomer are as follows:
I. Purchase Process•
A Customer provides the Company with a plan at the beginningof the year with a forecast of spare parts that it needs as part ofits manufacturing process. On the basis of this plan, the Companypurchases spare parts from third-party vendors and ships the spareparts directly to the Customer’s location. The Agreement statesthat the Customer determines the product and service specificationsand that no changes or modifications can occur without theCustomer’s consent. The Company purchases spare parts directly fromvendors. Note that although the Company purchased the spare partsaccording to the plan, the Customer is not obligated or committedto purchase these spare parts. •
The Company directly purchases from third-party vendors; theCustomer, is not involved in the purchasing process. Vendors namethe Company in their invoices; the Customer is not named in theinvoice. The Company is responsible for all payments to its vendorsin purchasing the spare parts. •
When spare parts are purchased by the Company , the vendorships the spare parts directly to the Customer’s warehouse;however, the Customer does not purchase and obtain title to thespare parts in its warehouse until it issues a purchase order(P.O.) to the Company. At this point, the title of the inventoryfor which a P.O. has been authorized transfers from the Company tothe Customer
.
The Company is responsible for the quality of the product soldto the Customer, who has the right to return any defective productto the Company.
•Purchase of spare parts by the Company is generally made inadvance of receiving a P.O. from the Customer,and the Company isobligated to pay the vendors within the agreed-upon payment termsirrespective of whether the spare parts are sold to the Customer orpayment is collected from the Customer •
The Company has latitude in vendor selection and negotiatespricing with its vendors. The Company sets the price it charges theCustomer on the basis of the Company’s cost plus a predeterminedmark-up. If the Company is able to achieve certain cost savings forthe Customer (on the basis of its ability to negotiate pricing withits vendors), it is entitled to bonus payments that are based on apercentage of such savings. Therefore, the better the Company doesin negotiating savings for the Customer, the greater the margin itearns on each sale.
Spare parts inventory, that is not purchased by the Customeras part of the P.O. process ( because parts are obsolete orrequirements have changed) remain the property of the Company Ifthe Company is not able to sell the inventory to other parties, theCustomer will reimburse the Company for 50 percent of the cost ofthe unsold parts
.
II. Warehouse Operations
•
The spare parts are held in the Customer’s (Tara) warehouse,allowing immediate access to the spare parts, which avoids the costof storage for the Company.• Although inventory is held in theCustomer’s warehouse, risk of loss or damage remains with theCompany, and insurance is paid for by the Company. The Company hasdedicated employees stationed at each Customer’s warehouse. Theseemployees handle the day-to-day issues with spare parts receivedinto the warehouse.• The Company’s and Customer’s inventory systemsare interfaced, allowing the Company to monitor stock levels.
III. Shipping Terms
As noted above, the spare parts are shipped directly from thevendors to the
Customer’s warehouse. The Company retains title and risk ofloss during shipping and at the Customer’s warehouse until a P.O.is issued by the Customer to purchase the spare parts. After theCustomer issues the P.O., the title transfers, and the Companyrecognizes revenue
.
IIII. Company Fee•
The Company receives 5.5percent as a “consumption fee” forspare parts that are consumed (i.e., purchased) by the Customerfrom the warehouse. In addition, as noted above, the Company earnsother fees according to its ability to negotiate favorable pricingon the spare parts.
Required
:
•
a. How should the Company report revenue related to thisarrangement?
b. When should it be reported by the Company?
c. When is the Revenue Earned by The company for Reportingpurposes? For Tax Purposes?

Stanley & Sons Inc. (the “Company”) assists clients by designing and implementing solutions that reduce the overall costs of its customers’ supply chains. The Company provides Just-In-Time (JIT) inventory management of spare parts used in its customers’ manufacturing processes to reduce cycle times and lower inventory-related costs. The Company entered into a supply management contract (the “Agreement”) with Tadduni Partners (the “Customer”), an unrelated third party, to provide spare parts management services, including sourcing, procurement, repair, transport and delivery, and warehouse management. The key terms of the agreement are as follows: Purchase Process • A Customer provides the Company with a plan at the beginning of the year with a forecast of spare parts that it needs as part of its manufacturing process. On the basis of this plan, the Company purchases spare parts from third-party vendors and ships the spare parts directly to the Customer’s location. The Agreement states that the Customer determines the product and service specifications and that no changes or modifications can occur without the Customer’s consent. The Company purchases spare parts directly from vendors. Note that although the Company purchased the spare parts according to the plan, the Customer is not obligated or committed to purchase these spare parts. • The Company directly purchases from third-party vendors; the Customer is not involved in the purchasing process. Vendors name the Company in their invoices; the Customer is not named in the invoice. The Company is responsible for all payments to its vendors in purchasing the spare parts. • When space parts are purchased by the Company, the vendor ships the spare parts directly to the Customer’s warehouse; however, the Customer does not purchase and obtain title to the spare parts in its warehouse until it issues a purchase order (P.O.) to the Company. At this point, the title of the inventory for which a P.O. has been authorized transfers from the Company to the Customer. • The Company is responsible for the quality of the product sold to the Customer, who has the right to return any defective product to the Company. • Purchase of spare parts by the Company is generally made in advance of receiving a P.O. from the Customer, and the Company is obligated to pay the vendors within the agreed-upon payment terms irrespective of whether the spare parts are sold to the Customer or payment is collected from the Customer. • The Company has latitude in vendor selection and negotiates pricing with its vendors. The Company sets the price it charges the Customer on the basis of the Case 17-5c: Stanley & Sons Page 2 Copyright 2015 Deloitte Foundation All Rights Reserved. Company’s cost plus a predetermined mark-up. If the Company is able to achieve certain cost savings for the Customer (on the basis of its ability to negotiate pricing with its vendors), it is entitled to bonus payments that are based on a percentage of such savings. Therefore, the better the Company does in negotiating savings for the Customer, the greater the margin it earns on each sale. • Spare parts inventory that is not purchased by the Customer as part of the P.O. process (because parts are obsolete or requirements have changed) remain the property of the Company. If the Company is not able to sell the inventory to other parties, the Customer will reimburse the Company for 50 percent of the cost of the unsold parts. Warehouse Operations • The spare parts are held in the Customer’s warehouse, allowing immediate access to the spare parts, which avoids the cost of storage for the Company. • Although inventory is held in the Customer’s warehouse, risk of loss or damage remains with the Company, and insurance is paid for by the Company. • The Company has dedicated employees stationed at each Customer’s warehouse. These employees handle the day-to-day issues with spare parts received into the warehouse. • The Company’s and Customer’s inventory systems are interfaced, allowing the Company to monitor stock levels. Shipping Terms • As noted above, the spare parts are shipped directly from the vendors to the Customer’s warehouse. The Company retains title and risk of loss during shipping and at the Customer’s warehouse until a P.O. is issued by the Customer to purchase the spare parts. After the Customer issues the P.O., the title transfers, and the Company recognizes revenue. Company Fee • The Company receives 5.5 percent as a “consumption fee” for spare parts that are consumed (i.e., purchased) by the Customer from the warehouse. In addition, as noted above, the Company earns other fees according to its ability to negotiate favorable pricing on the spare parts. Required: • How should the Company report revenue related to this arrangement?