Revenue recognition is one of the most common issues that an auditor faces when working with companies. This is due to the differences in the products and services offered from companies to their customers. For example, revenue recognition for physical items is different than offered services where the company might be obligated to follow up on customer’s needs in a future date.
a- According to the US Securities and Exchange Commission (SEC), there are general criteria on revenue recognition that companies need to follow.
Auditors’ job is to confirm that companies are following the guidelines when they review the financial statements of companies across the nation.
The following criteria must be met with regard to revenue recognition: * Persuasive evidence of an arrangement exists. * Delivery has occurred or services have been rendered. * The seller’s price to the buyer is fixed or determinable * Collectability is reasonably assured. These are general statement and each case may need to be analyzed further as there are many guidelines to follow under these statements.
b- Revenue Recognition Scenarios : – With the AOL scenario, it is important to note that this is a bundled service which includes the contract and the internet service.
The internet service can not be operated without the contract and therefore according to SAB-101 “the delivery of an individual element is considered not to have occurred if there are undelivered elements that are essential to the functionality of the delivered element because the customer does not have the full use of the delivered element.
” Therefore, it is not allowed to recognize 30% of the contract immediately since no service have been rendered at the time.
There should also be additional information to note as for the return and cancelation of service policies to consider. Therefore, the company should only recognize the monthly $19. 95 after the service have been delivered.
2- With the Modis Manufacturing company, it is a situation where the customer is requiring the seller to hold the equipment after confirming the contract and the amount. Some of the key issues to note is the commission criteria to recognize revenue when delivery has not occurred which include the following.
a. Risk of ownership ust have passed to the buyer;
b. Customer must have made a fixed commitment to purchase the goods, preferably in written documentation;
c. The buyer, not the seller, must request that the transaction be on bill and hold basis.
d. There must be a fixed schedule for delivery of the goods.
e. Seller must not have retained any specific performance obligations such that the earning process is not complete;
f. Ordered goods must have been segregated from the seller’s inventory and not used for other orders;
g. Equipment must be complete and ready for shipment.
Based on the above, we can conclude that there needs to be additional information to make a final decision with regard to revenue recognition such as the risk of ownership, the delivery date being fixed and reasonable and if the equipment is segregated from inventory. If the above criteria are met, then it should be reasonable to recognize the revenue with respect to SAB 101 regulations.
3- Standish Stoneware: Based on the facts available and the regulations as seen in FAS-48, the amount of future returns can be reasonably estimated for revenue to be recognized when right of return exists.
Since the company does not have a history of returns for this new item, the company should refrain from recognizing revenue until it is able to reasonably estimate future returns.
4- Omer Technologies: The main issue in this problem is to find out what’s the discount on the special deal made by the company and the price of the product before and after the deal. Therefore, with only the available information, revenue should only be recognized after the warranty and the right to return period expires. –
Electric City: The company should not recognize any revenue after installation since the “pilot” period does not include any arrangement and collectability need to be reasonably assured which is not the case. 6- Jackson Products: With regard to SAB-101, the revenue should not be recognized yet since the risk of ownership has not yet passed to the buyer and that delivery have not occurred yet. Also, the equipment is not yet complete and ready for shipment. Therefore, it is not allowed to recognize these sales as revenue.
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