Intermediate III 17-18

Computation of Fair Value Adjustment—Available for-Sale Webb records the following at December 31, 2021.

pg 17-9 Dr. Fair Value Adjustment 4,537 Cr. Unrealized Holding Gain or Loss—Equity 4,537

Multiple performance obligations Ex 1

pg 18-16

Multiple performance obligations Ex 2

pg 18-16 to 18-17

Contract Asset example

pg 18-31

Contract liability example

pg 18-31 to 18-32

The Five-Step Process—Boeing Example

pgs 18-4 to 18-5

Extended Five-Step Example

pgs 18-5 to 18-8

If the market rate is less than the stated rate, the bond was issued at a __________________. If the market rate is equal to the stated rate, the bond was issued at __________________. If the market rate is more than the stated rate, the bond was issued at a __________________.

premium face value discount

Contract Modifications: Separate Performance Obligation

•Accounts for as a new contract if both of the following conditions are satisfied: 1) Promised goods or services are distinct (i.e., company sells them separately and they are not interdependent with other goods and services), and 2) The company has the right to receive an amount of consideration that reflects the standalone selling price of the promised goods or services

Contract

•Agreement between two or more parties that creates enforceable rights or obligations •Can be: -written -oral -implied from customary business practice

Transaction price

•Amount of consideration that a company expects to receive from a customer •In a contract it is often easily determined because customer agrees to pay a fixed amount •For other contracts, companies must consider: --Variable consideration --Time value of money --Noncash consideration --Consideration paid or payable to the customer

Allocating Transaction Price to Separate Performance Obligations

•Based on their relative fair values •Best measure of fair value is what the company could sell the good or service for on a standalone basis •If not available, companies should use their best estimate of what the good or service might sell for as a standalone unit

Contract Modifications

•Change in contract terms while it is ongoing •Companies determine: 1) whether a new contract (and performance obligations) results or 2) whether it is a modification of the existing contract

Bill-and-Hold Arrangements

•Contract under which an entity bills a customer for a product but the entity retains physical possession of the product until a point in time in the future •Result when buyer is not yet ready to take delivery but does take title and accepts billing *A customer has control when it has the ability to direct the use of, and obtain the remaining benefits from, the product, even if it does not have physical possession of the product

Disclosure Companies disclose qualitative and quantitative information about the following:

•Contracts with customers •Significant judgments •Assets recognized from costs incurred to fulfill a contract

Companies provide a range of disclosures:

•Disaggregation of revenue •Reconciliation of contract balances •Remaining performance obligations •Cost to obtain or fulfill contracts •Other qualitative disclosures --Significant judgments and changes in them --Minimum revenue not subject to variable consideration constraint

Accounting categories for debt securities

•Held-to-maturity •Trading •Available-for-sale

Contract Modifications: Prospective Modification

•If Crandall Co. determines additional products are not a separate performance obligation: -Account for effect of change in period of change as well as future periods if change affects both -Do not change previously reported results

If company sells bonds before maturity date:

•It must make entries to remove from the Debt Investments account the amortized cost of bonds sold •Any realized gain or loss on sale is reported in the "Other" section of the income statement

Consideration Paid or Payable to Customers

•May include discounts, volume rebates, coupons, free products, or services •In general, these elements reduce the consideration received and the revenue to be recognized

Accounting and Reporting for equity securities by Category table

17-12

A designer of jeans has a worldwide recognized brand. A global manufacturer of dolls contracts with the designer for the right to use its brand name on the dolls' clothes. The terms of the agreement provide the doll manufacturer with rights to use the brand name on the dolls' clothes for two years. The designer will receive $1 million upfront and 12% of all proceeds from the sales of the dolls that include branded jeans. The doll manufacturer will provide updated sales estimates on a quarterly basis and actual sales data on a monthly basis. When does the designer recognize revenue?

$1 million= fixed 12% = variable consideration Recognize $1 million upfront over the 2 years and the 12% monthly as sales info is provided

Charlie Co enters into a contract with a customer to sell Products A, B, and C in exchange for $100,000. Charlie Co regularly sells Product A separately at $50,000. The standalone selling price of Product B is estimated using the adjusted market assessment approach and Is determined to be $30,000. Charlie Co decides to use the residual approach to value Product C as it has confidence that Products A and B are valued correctly. What is the selling price determined to be for Product C and what is the total transaction price?

$20,000 bottom 18-15

New Revenue Recognition Standard: Revenue from Contracts with Customers adopts an asset-liability approach (change in net assets and change in liabilities). Companies:

-Account for revenue based on the asset or liability arising from contracts with customers -Are required to analyze contracts with customers --Contracts indicate terms and measurement of consideration --Contracts specify the promises that must be met by each party *Without contracts, companies cannot know whether promises will be met

Time Value of Money

-Accounted for when contract (sales transaction) involves a significant financing component -Companies are not required to reflect the time value of money if the time period for payment is less than a year •Interest accrued on consideration to be paid over time •Fair value determined by discounting the payment using an imputed interest rate •Company reports as interest expense or interest revenue

Principle-Agent Relationship

-Agent's performance obligation is to arrange for principal to provide goods or services to a customer Ex. -Preferred Travel Company (agent) facilitates booking of cruise for Regency Cruise Company (principal) -Priceline (agent) facilitates sale of various services such as car rentals at Hertz (principal) -Amounts collected on behalf of the principal are not revenue of the agent -Revenue for agent is amount of commission received

Repurchase Agreements

-Allows company to transfer an asset to a customer but have an unconditional (forward) obligation or unconditional right (call option) to repurchase the asset at a later date -If obligation or right to repurchase is for an amount greater than or equal to selling price, then transaction is a financing transaction

Holding Between 20% and 50% (Equity Method)

-An investment (direct or indirect) of 20 percent or more of the voting stock of an investee should lead to a presumption, that in the absence of evidence to the contrary, an investor has the ability to exercise significant influence over an investee -In instances of "significant influence," the investor must account for the investment using the equity method

Other Financial Reporting Issues: Fair Value Option

-Companies have the option to report most financial instruments at fair value, with all gains and losses related to changes in fair value reported in income -Applied on an instrument-by-instrument basis -Generally available only at time a company first purchases financial asset or incurs a financial liability -Company must measure instrument at fair value until the company no longer has ownership

Impairment of Value: Debt Investments: Available-for-Sale

-Companies that have debt investments that are classified as available-for-sale use a different impairment model -they may realize the value of these securities either (1) through collection of the cash flows or (2) by sale of the securities -Under this model, if the fair value is greater than amortized cost, no expected credit loss is recognized -Impairment losses on debt investments that are available-for-sale are limited to the amount that the fair value is less than amortized cost

Classify a debt security as held-to-maturity only if it has both:

1. the positive intent and 2. the ability to hold securities to maturity

Consignments

-Manufacturers (or wholesalers) deliver goods but retain title to the goods until they are sold -Consignor (manufacturer or wholesaler) ships merchandise to the consignee (dealer), who is to act as an agent for the consignor in selling the merchandise -Consignor makes a profit on the sale (carries merchandise as inventory) -Consignee makes a commission on the sale

Nonrefundable Upfront Fees

-Payments from customers before delivery of a product or performance of a service -Generally relate to initiation, activation, or setup of a good or service to be provided or performed in the future -Most cases, upfront payments are nonrefundable Ex. -Membership fee in a health club -Activation fees for phone, internet, or cable -No revenue should be recognized upon receipt of an upfront fee, even if it is nonrefundable, if the fee does not relate to the satisfaction for a performance obligation -Nonrefundable upfront fees are included in the transaction price and allocated to the separate performance obligations in the contract -Revenue is recognized as the performance obligations are satisfied

Expected value

-Probability-weighted amount in a range of possible consideration amounts -May be appropriate if a company has a large number of contracts with similar characteristics -Can be based on a limited number of discrete outcomes and probabilities

Fundamentals of Revenue Recognition

-Recently, the FASB and IASB issued a converged standard on revenue recognition entitled Revenue from Contracts with Customers -To address the inconsistencies and weaknesses of the previous approaches, a comprehensive revenue recognition standard now applies to a wide range of transactions and industries

Examples of separate performance obligations

-Sale of goods for example by a manufacturer or merchandiser -performing an agreed upon task or service -constructing, manufacturing, or developing an asset -granting a license of technology, franchises, patents, trademarks, and the like -service-type warranties -granting of customer options for additional goods or services: --sales incentive plans --customer loyalty programs --contract renewal options --discounts on future purchases --prospective volume discount plans

Impairment of Value: Receivables

-The rules for debt investments (debt securities and loans) reported at amortized cost follow the same approach as discussed in Chapter 7 (companies should use the current expected credit loss model to record the impairment of debt investments similar to receivables) Entry recognize impairment: Dr. Bad Debt Expense Cr. Allowance for Doubtful Accounts for the amount of impairment Entry to write-off: Dr. Allowance for Doubtful Accounts Cr. Accounts Receivable

Most likely amount

-The single most likely amount in a range of possible consideration outcomes -May be appropriate if the contract has only two possible outcomes

Multi-period

-When a company sells securities during the year, double-counting of the realized gains or losses in comprehensive income can occur -Double-counting results when a company reports unrealized gains or losses in other comprehensive income in a prior period and reports these gains or losses as part of net income in the current period -To ensure that gains and losses are not counted twice when a sale occurs, a reclassification adjustment is necessary

Performance obligation

-a promise to provide a distinct product or service to a customer -implicit, explicit, or based on customary business practice A product or service is distinct when a customer is able to: •benefit from a good or service on its own or •together with other readily available resources Determine whether the nature of a company's promise is to transfer individual goods and services to the customer or to transfer a combined item (or items) for which individual goods or services are inputs

Extended Payment Terms

-financing component -revenue component see 18-13 for example

Collectability

-refers to a customers credit risk (the risk that a customer will be unable to pay in accordance with the contract) -As long as a contract exists (it is probable that the customer will pay), whether a company will get paid is not a consideration in determining revenue recognition -Amount recognized as revenue is not adjusted for customer credit risk and the company then presents an allowance to due bad debts

Golden Corp develops website ads for customers. Contract terms and conditions are similar across various contracts. Contracts typically include fee plus variable consideration for a performance bonus earned when the website ads are delivered ahead of schedule. Based on Golden historical performance , the bonus amounts and associated probabilities for achieving each bonus on a new contract is: Bonus amount / Probability Outcome: $0 / 15% $5,000 / 40% $10,000 / 45% Golden has a large number of contracts that have characteristics that are similar to the new contract. What is the transaction price for the performance bonus based upon the expected value method?

0 * 15% = 0 5,000 * 40% = 2,000 10,000 * 45% = 4,500 Expected consideration= $6,500

A builder enters into an agreement with a customer to build an addition to the customer's home for $80,000, payable upon completion. The builder (also acting as contractor) is responsible for all aspects of the project including construction services, plumbing, electrical, carpentry, painting, design, preparation, and cleanup. How many performance obligations are included?

1

On Jan. 1, 2020, an investor purchased a 7% bond investment at an amount equal to its face value of $100,000. The bond matures in 5 years and pays interest annually on Dec. 31. Record: 1. Investor's JE on Jan. 1 2020, assuming the investor has classified the investment as HTM 2. Record the receipt of interest on Dec. 31, 2020

1. Dr. Investment in HTM 100,000 Cr. Cash 100,000 2. Dr. Cash 7,000 Cr. Interest revenue 7,000

Transaction Price Allocation What is the implementation for each allocation approach: 1. Adjusted market assessment approach 2. Expected cost plus a margin approach 3. Residual approach

1. Evaluate the market in which it sells goods or services and estimate the price that customers in that market are willing to pay for those goods or services. That approach also might include referring to prices from the company's competitors for similar goods or services and adjusting those prices as necessary to reflect the company's costs and margins. 2. Forecast expected costs of satisfying a performance obligation and then add an appropriate margin for that good or service. 3. If the standalone selling price of a good or service is highly variable or uncertain, then a company may estimate the standalone selling price by reference to the total transaction price less the sum of the observable standalone selling prices of other goods or services promised in the contract.

For each asset measurement basis for equity investments, give the impairment model: 1. Loans, receivables, and debt securities measured at amortized cost 2. Debt securities measured at fair value with gains and losses recorded in other comprehensive income (available-for-sale) 3. Debt and equity securities measured at fair value with gains and losses recorded in net income (trading)

1. Expected losses recognized in net income 2. No expected credit losses recognized if fair value is greater than or equal to amortized cost. If fair value is less than amortized cost, the expected credit loss is recognized in net income. Credit losses are limited to the difference between fair value and amortized cost 3) Impairment measured as the difference between the lower of amortized cost or fair value (debt securities) or lower of cost or fair value (equity securities)

Classification of Equity Investments

1. Holdings of less than 20%= fair value method (investor has passive interest) Fair value means it's AFS or TS 2. Holdings between 20% and 50%= equity method (investor has significant influence) 3. Holding of more than 50%= consolidated statements (investor has controlling interest)

Two types of warranties to customers:

1. Product meets agreed-upon specifications in contract at time product is sold •Warranty is included in sales price (assurance-type warranty) •not a separate performance obligation 2. Provide additional service, not included in the sales price of product (service-type warranty) •Recorded as a separate performance obligation •is a separate performance obligation

Costs to Fulfill a Contract: Companies divide fulfillment costs (contract acquisition costs) into two categories:

1. Those that give rise to an asset 2. Those that are expensed as incurred

Companies may display the components of other comprehensive income in one of two ways:

1. in a combined statement of income and comprehensive income 2. in a separate statement of comprehensive income that begins with net income

Republic's available-for-sale equity security portfolio on December 31, 2020: Prepare the entry Republic would make on December 31, 2020, to record the net unrealized gains and losses.

17-13 Dr. Unrealized Holding Gain or Loss - Income 35,550 Cr. Fair Value Adjustment 35,550

Fair value method vs. equity method journal entries

17-15

Impairment analysis, available-for-sale investments

17-19

Accounting for transfers table

17-25

Summary of Reporting Treatment of Debt Securities

17-25

Computation of Gain on Sale of Bonds

17-6

Available-for-Sale Debt Securities: Financial Statement Presentation

17-9

Revenue constraint example

18-12

Volume discount example

18-14

Summary of the 5-step revenue recognition process

18-19

Venden's income statement and balance sheet

18-21

Repurchase agreement example

18-23

Consignments example

18-26

Summary-Other Revenue Recognition Issues

18-30

Recognition-Contract costs

18-34

Revenue disclosures table

18-35

Surfit Inc sponsors a customer loyalty point program where customers earn one loyalty point for every $5 spent on clothing and accessories at any of its stores. Loyalty program members often exchange accumulated loyalty points for free products at Surfit. And individual customer makes a purchase of t-shirt on June 1, 2021 for $60 and earns 12 loyalty points. How many performance obligations are includes in the transaction? When can Surfit recognize revenue?

2 obligations: -shirt -loyalty points Shirt sale recorded at time of sale, and loyalty points recorded as redeemed or expired

Holding of Less Than 20%

Accounting Subsequent to Acquisition With Readily Determinable Fair Value: -Value and report the investment using the fair value method Without Readily Determinable Fair Value: -Value and report the investment using a practicability exception Entities report equity investments at cost, less impairment. Entities recognize dividends when received and generally recognize gains or losses when selling the securities.

Webb Corporation sold the Watson bonds on July 1, 2021, for $90,000, at which time it had an amortized cost of $94,214. What is the entry on the date of sale?

Amortized cost (Watson bonds) $94,214 Less: Selling price of bonds 90,000 Equals: Loss on sale of bonds $ 4,214 Dr. Cash 90,000 Dr. Loss on Sale of Investments 4,214 Cr. Debt Investments 94,214

Validity of a contract practice #2: A customer purchased clothing online without signing an agreement.

An approval does not need to be in writing for a valid contract if it is customary business practices for approval through an online acceptance process.

ABC makes the following entry to record the receipt of cash on August 31, 2020.

August 31, 2020 Dr. Cash 5,000 Cr. Accounts Receivable 5,000

Validity of a contract practice #4: A seller enters into a contract with a customer to sell an asset at a specific price. The customer agrees to sell the asset back to the seller at the same price.

Because the economic conditions of the seller and customer have not changed, the contract lacks commercial substance. Contract is not valid.

Golden Corp develops website ads for customers. Contract terms and conditions are similar across various contracts. Contracts typically include fee plus variable consideration for a performance bonus related to the timing to complete the website ads. If the ads are finished by the deadline, a bonus of $5,000 is to be received. If it is not completed by deadline, no bonus is earned. Based on experience, Golden believes the amount of consideration is $5,000. What is the transaction price for the performance bonus based upon the most likely amount method?

Bonus amount / most likely outcome 0 / NA 5,000 / $5,000

Cellular is offering a promotion for new customers signing: purchase a new device, a one-year service agreement, and headset for $710. The transaction price as stated to the customer is $150 for the device, $480 for the one-year service, and $80 for the headset. Allocate the $710 under the following cases: A. The three items are sold separately with standalone prices of $150, $480, and $80 respectively. B. The three items are sold separately with standalone prices of $200, $480, and $80 respectively. C. Service and device are sold separately. The device sells for $200, and a one-year agreement for $480. They have not sold headphones prior to this promotion. Therefore, the price is determined the average selling price of similar headsets in the market at $100.

Ch 18 Slides 68, 70, 72

Noncash Consideration

Companies may receive: •Contributions (e.g., donations and gifts) •Contributions of goods or services from customers, such as equipment or labor, as consideration for goods provided or services performed *Companies generally recognize revenue on the basis of the fair value of what is received

Recognizing Revenue When (or as) Each Performance Obligation Is Satisfied

Company satisfies its performance obligation when the customer obtains control of the good or service Change in Control Indicators: 1. Company has a right to payment for the asset 2. Company has transferred legal title to the asset 3. Company has transferred physical possession of the asset 4. Customer has significant risks and rewards of ownership 5. Customer has accepted the asset

Recognizing Revenue Over Time If one criteria is met, the seller must recognize revenue over time, proportionately with the rate of satisfaction of the performance obligation: 1. The customer simultaneously receives and consumes the benefits provided by the seller as the seller performs. 2. The sellers performance creates or enhances an asset that the customer controls as the work is completed. 3. The sellers performance does not create an asset with an alternative use to the seller- and the seller has an enforceable right to payment for performance completed to date.

Contract Examples: 1. 6-month security monitoring at a retail store 2. Contract to build customizable equipment for a customer where the customer owns the work in process 3. Contract to build customizable equipment for a customer where the customer does not take physical possession of the equipment until fully built- the customer is obligated to pay costs incurred plus agreed upon profit if a cancellation occurs

Holding of More Than 50% (Consolidation)

Controlling Interest - One corporation (parent) acquires a voting interest of more than 50 percent in another corporation (subsidiary): •Investor corporation is referred to as the parent •Investee corporation is referred to as the subsidiary •Investment in the subsidiary is reported on the parent's balance sheet as a long-term investment •Parent generally prepares consolidated financial statements (which treat the parent and subsidiary as a single economic entity)

Situation B: Alexander recognizes an impairment loss of $40,000 ($1,000,000 − $960,000) even though the expected credit loss is $110,000. In other words, Alexander's impairment loss is limited to the amount that fair value is less than amortized cost. Alexander makes the following entry to record this loss.

Dr. Bad Debt Expense 40,000 Cr. Allowance for Doubtful Accounts 40,000

Robinson records the sale of the bonds as:

Dr. Cash 102,417(.9975*100,000+2,667) Cr. Interest Revenue (4/6 × $4,000) 2,667 Cr. Debt Investments 99,683 Cr. Gain on Sale of Investments 67

Butler makes the following entry to record the bill-and-hold sales and related COGS

Dr. AR 450,000 Cr. Sales Rev 450,000 Dr. COGS 280,000 Cr. Inventory 280,000

Credit Sales with Returns and Allowances Illustration: On January 12, 2020, Venden Company sells 100 cameras for $100 each on account to Amaya Inc. Venden allows Amaya to return any unused cameras within 45 days of purchase. The cost of each product is $60. Venden estimates that: 1. Three products will be returned 2. The costs of recovering the products will be immaterial 3. The returned products are expected to be resold at a profit On January 24, Amaya returns two of the cameras because they were the wrong color. On January 31, Venden prepares financial statements and determines that it is likely that only one more camera will be returned. Venden makes the following entries related to these transactions. Venden makes the following entries to record the sale of the cameras and related cost of goods sold on January 12, 2020.

Dr. Accounts Receivable 10,000 Cr. Sales Revenue (100 × $100) 10,000 Dr. Cost of Goods Sold 6,000 Cr. Inventory (100 × $60) 6,000

Impairment of Value: Debt Investments: Held-to-Maturity Illustration: Strickler Company holds held-to-maturity bond securities with a par value and amortized cost of $1 million. The fair value of these securities is $800,000. In evaluating the securities, Strickler now determines that it is probable that it will not collect all amounts due. In this case, it records a debit to Allowance for Doubtful Accounts of $200,000. Strickler includes this amount in income and records the impairment as follows.

Dr. Allowance for Doubtful Accounts 200,000 Cr. Debt Investments 200,000 *The new cost basis of the investment in debt securities is $800,000 and will not change unless additional impairment occurs

Situation C: Alexander recognizes an impairment loss of $110,000 and an unrealized holding loss through other comprehensive income of $30,000. In other words, Alexander separates the total loss of $140,000 ($1,000,000 − $860,000) into the following two components: 1. The credit loss or the amount representing the decrease in cash flows expected to be collected of $110,000 2. The noncredit-related factors, such as changes in interest rates, market volatility, and liquidity concerns, of $30,000

Dr. Bad Debt Expense 110,000 Dr. Unrealized Holding Gain or Loss—Equity 30,000 Cr. Allowance for Doubtful Accounts 110,000 Cr. Fair Value Adjustment 30,000

On December 6, 2020, Republic receives a cash dividend of $4,200 from Campbell Soup Co.

Dr. Cash 4,200 Cr. Dividend Revenue 4,200

Example: Single Security Graff Corporation purchases $100,000, 10 percent, five-year bonds on January 1, 2019, with interest payable on July 1 and January 1. The bonds sell for $108,111, which results in a bond premium of $8,111 and an effective interest rate of 8 percent. Graff records the purchase of the bonds on January 1, 2019, as follows.

Dr. Debt Investments 108,111 Cr. Cash 108,111

Available-for-Sale Debt Securities (presently reported at FV, with any unrealized gains or losses recorded as part of other comprehensive income) Illustration: Hardy Company purchases bonds in Fielder Company during 2020 that it classifies as available-for-sale. At December 31, 2020, the cost of this security is $100,000; its fair value at December 31, 2020, is $125,000. If Hardy chooses the fair value option to account for the Fielder Company stock, it makes the following entry at December 31, 2020.

Dr. Debt Investments 25,000 Cr. Unrealized Holding Gain or Loss—Income 25,000

Illustration Debt Securities: Hendricks Corporation purchased trading investment bonds for $50,000 at par. At December 31, Hendricks received annual interest of $2,000, and the fair value of the bonds was $47,400. a. Prepare the journal entry for the purchase of the investment b. Prepare the journal entry for the interest received c. Prepare the journal entry for the fair value adjustment

Dr. Debt Investments 50,000 Cr. Cash 50,000 Dr. Cash 2,000 Cr. Interest Revenue 2,000 Dr. Unrealized Holding Loss - Income (50,000-47,400) 2,600 Cr. Fair Value Adjustment 2,600

Sometimes a company sells a held-to-maturity debt security so close to its maturity date that a change in the market interest rate would not significantly affect the security's fair value (may be considered a sale at maturity): Robinson Company sells its investment in Evermaster bonds on November 1, 2023, at 99¾ plus accrued interest. The discount amortization from July 1, 2023, to November 1, 2023, is $635 (4/6 × $952). Robinson records this discount amortization as follows.

Dr. Debt Investments 635 Cr. Interest Revenue 635

On November 3, 2020, Republic Corporation purchased common stock of three companies, each investment representing less than a 20 percent interest. Northwest Industries, Inc. $259,700 Campbell Soup Co. 317,500 St. Regis Pulp Co. 141,350 Total cost $718,550 Republic records these investments as follows:

Dr. Equity investments 718,550 Cr. Cash 718,550

Situation A: Alexander does not recognize an impairment loss because the fair value of $1,100,000 is higher than the amortized cost of $1,000,000. The entry Alexander makes is to record an unrealized holding gain of $100,000 ($1,100,000 − $1,000,000) in other comprehensive income.

Dr. Fair Value Adjustment 100,000 Cr. Unrealized Holding Gain or Loss—Equity 100,000

On December 31, 2020, Western Publishing Corporation determined its trading securities portfolio to be as follows: see pg 17-10 At December 31, Western Publishing makes an adjusting entry:

Dr. Fair Value Adjustment 3,750 Cr. Unrealized Holding Gain or Loss—Income 3,750

In addition, assume that on February 10, 2021, Republic purchased 20,000 shares of Continental Trucking at a price of $12.75 per share plus brokerage commissions of $1,850 (total cost, $256,850). See pg 17-14 for Equity security portfolio Prepare the entry that Republic would make at December 31, 2021, to adjust its portfolio to fair value.

Dr. Fair Value Adjustment 99,800 Cr. Unrealized Holding Gain or Loss—Income 99,800

On January 31, 2020, Venden prepares financial statements. As indicated earlier, Venden originally estimated that the most likely outcome was that three cameras would be returned. Venden believes the original estimate is correct and makes the following adjusting entries to account for expected returns at January 31, 2020.

Dr. Sales Returns and Allowances 100 Cr. Allowance for Sales Returns and Allowances (1 × $100) 100 Dr. Estimated Inventory Returns 60 Cr. Cost of Goods Sold (1 × $60) 60

Venden makes the following entries to record the return of the two cameras on January 24, 2020.

Dr. Sales Returns and Allowances 200 Cr. Accounts Receivable (2 × $100) 200 Cr. Returned Inventory 120 Cr. Cost of Goods Sold (2 × $60) 120

if financial statements are prepared on December 31, 2022, Maverick makes the following entry to recognize revenue:

Dr. Unearned Warranty Revenue 1,500 Cr. Warranty Revenue [(18,000/36)*3] 1,500

To apply the fair value method to these debt securities, assume that at December 31, 2019 the fair value of the bonds is $105,000 and the carrying amount of the investments is $106,732. Graff makes the following entry.

Dr. Unrealized Holding Gain or Loss—Equity 1,732 Cr. AFS Securities (Fair Value Adjustment) 1,732

Example: Portfolio of Securities Webb Corporation has two debt securities classified as available-for-sale. The following illustration (17-8) identifies the amortized cost, fair value, and the amount of the unrealized gain or loss. Prepare the adjusting entry Webb would make on December 31, 2020 to record the loss.

Dr. Unrealized Holding Gain or Loss—Equity 9,537 Cr. Fair Value Adjustment 9,537

Equity Method Investments Illustration: Durham Company holds a 28 percent stake in Suppan Inc. Durham purchased the investment in 2020 for $930,000. At December 31, 2020, the fair value of the investment is $900,000. Durham elects to report the investment in Suppan using the fair value option. The entry to record this investment is as follows.

Dr. Unrealized Holding Gain or Loss—Income 30,000 Cr. Equity Investments 30,000

Hinges did not purchase or sell any other securities during 2020. It received $3,000 in interest during the year. At December 31, 2020, the remaining portfolio is as shown as follows.

Fair value of portfolio $34,000 Less: Cost of portfolio 30,000 Unrealized gain $4,000

Reporting Issues Single-Period Example: Assume that on January 1, 2020, Hinges Co. had cash and common stock of $50,000. At that date, the company had no other asset, liability, or equity balance. On January 2, Hinges purchased for cash $50,000 of debt securities classified as available-for-sale. On June 30, Hinges sold part of the available-for-sale security debt portfolio, realizing a gain as shown in the following illustration. Compute the realized gain

Fair value of securities sold $22,000 Less: Cost of securities sold 20,000 Realized gain $2,000

Butler Company sells $450,000 (cost $280,000) of fireplaces on March 1, 2020, to a local coffee shop, Baristo, which is planning to expand its locations around the city. Under the agreement, Baristo asks Butler to retain these fireplaces in its warehouses until the new coffee shops that will house the fireplaces are ready. Title passes to Baristo at the time the agreement is signed. Question: When should Butler recognize the revenue from this bill-and-hold arrangement? Butler determines when it has satisfied its performance obligation to transfer a product by evaluating when Baristo obtains control of that product.

For Baristo to have obtained control of a product in a bill-and-hold arrangement, it must meet all of the conditions for change in control plus all of the following criteria: (a) The reason for the bill-and-hold arrangement must be substantive (b) The product must be identified separately as belonging to Baristo (c) The product currently must be ready for physical transfer to Baristo (d) Butler cannot have the ability to use the product or to direct it to another customer. In this case, it appears that the above criteria were met, and therefore revenue recognition should be permitted at the time the contract is signed.

Separate Performance Obligations General Motors Illustration Assume that General Motors sells an automobile to Marquart Auto Dealers at a price that includes six months of telematics services such as navigation and remote diagnostics. These telematics services are regularly sold on a standalone basis by General Motors for a monthly fee. After the six-month period, the consumer can renew these services on a fee basis with General Motors. The question is whether General Motors sold one or two products.

If we look at General Motors' objective, it appears that it is to sell two goods, the automobile and the telematic services. Both are distinct (they can be sold separately) and are not interdependent.

The following illustration shows the company's income statement for 2020.

Interest revenue $3,000 Realized gains on investment in securities 2,000 Net income $5,000

Held-to-Maturity Securities (Amortized Cost) Illustration: Robinson Company purchased $100,000 of 8 percent bonds of Evermaster Corporation on January 1, 2019, at a discount, paying $92,278. The bonds mature January 1, 2024 and yield 10%; interest is payable each July 1 and January 1. Robinson records the investment as follows:

January 1, 2019 Dr. Debt Investments 92,278 Cr. Cash 92,278 Note: -No discount recorded- this is an investment -Who records the discount? The issuer

On March 1, 2020, ABC Company enters into a contract to transfer a product to Sunny on July 31, 2020. The contract is structured such that Sunny is required to pay the full contract price of $5,000 on August 31, 2020.The cost of the goods transferred is $3,000. Either party can unilaterally terminate the contract without compensation. ABC delivers the product to Sunny on July 31, 2020. The journal entry to record the sale and related cost of goods sold is as follows:

July 31, 2020 Dr. Accounts Receivable 5,000 Cr. Sales Revenue 5,000 Dr. Cost of Goods Sold 3,000 Cr. Inventory 3,000

Key Concepts of Revenue Recognition

Key Objective: -Recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration that the company receives, or expects to receive, in exchange for these goods or services Five-Step Process for Revenue Recognition: 1. Identify the contract with customers 2. Identify the separate performance obligations in the contract 3. Determine the transaction price 4. Allocate the transaction price to the separate performance obligations 5. Recognize revenue when each performance obligation is satisfied Revenue Recognition Principle: -Recognize revenue in the accounting period when the performance obligation is satisfied

If the type of security is debt, what are the management intent and valuation approach?

Management intent: -No plans to sell -Plan to sell Valuation approach: -Amortized cost -Fair value

If the type of security is equity, what are the management intent and valuation approach?

Management intent: -Plan to sell -Exercise some control Valuation approach: -Fair value -Equity method

The company reports its changes in the unrealized holding gain in a statement of comprehensive income as shown

Net income (includes realized gain of $2,000) $5,000 Other comprehensive income: Unrealized holding gain 4,000 Comprehensive income $9,000

Computation of Gain on Sale of Stock: On January 23, 2021, Republic sold all of its Northwest Industries, Inc. common stock ($259,700) receiving net proceeds of $287,220. Prepare the entry to record the sale.

Net proceeds from sale $287,220 Cost of Northwest shares 259,700 Gain on sale of stock $27,520 Dr. Cash 287,220 Cr. Equity Investments 259,700 Cr. Gain on Sale of Investments 27,520

Separate Performance Obligation Example: Crandall Co. has a contract to sell 100 products to a customer for $10,000 ($100 per product) at various points in time over a six-month period. After 60 products have been delivered, Crandall modifies the contract by promising to deliver 20 more products for an additional $1,900, or $95 per product (which is the standalone selling price of the products at the time of the contract modification). Crandall regularly sells the products separately. Given a new contract, Crandall recognizes an additional:

Original contract [(100 units − 60 units) × $100] =$4,000 New product (20 units × $95) = 1,900 Total revenue $5,900

Validity of a contract practice #3: A contract between two parties includes a promise for payment to include cash and stock.

Payment terms in a valid contract may include noncash consideration.

Menu items: Pizza $2.50 Fries $2.00 Coke $1.50 Or a combo (all 3 items) can be purchased for $5.00 How do you allocate the combo purchase?

Pizza: 2.50/6 = 42% $5.00x 42% = $2.10 Fries: 2.00/6 = 33% $5.00 x 33% = $1.65 Coke: 1.50/6 = 25% $5.00 x 25% = 1.25

Variable Consideration using either of the following methods:

Price dependent on future events: •Might include discounts, rebates, credits, performance bonuses, or royalties Companies estimate amount of revenue to recognize: •Expected value •Most likely amount

Peabody Construction Company enters into a contract with a customer to build a warehouse for $100,000, with a performance bonus of $50,000 that will be paid based on the timing of completion. The amount of the performance bonus decreases by 10% per week for every week beyond the agreed-upon completion date. The contract requirements are similar to contracts that Peabody has performed previously, and management believes that such experience is predictive for this contract. Management estimates that there is a 60% probability that the contract will be completed by the agreed-upon completion date, a 30% probability that it will be completed 1 week late, and only a 10% probability that it will be completed 2 weeks late. Question: How should Peabody account for this revenue arrangement under the probability-weighted method? Most likely outcome, if management believes they will meet the deadline and receive the $50,000 bonus, the total transaction price would be? Assume 60% / 40%

Probability-weighted method is the most predictive approach: 60% chance of $150,000 = $ 90,000 30% chance of $145,000 = 43,500 10% chance of $140,000 = 14,000 $147,500 or Most likely: $150,000 (the outcome with 60% probability)

What if points were redeemable at $0.50 per point and 80% of points are expected to be redeemed? Allocate transaction price.

Product = $60 Points = 12*0.50 = $6 x 80% = $4.80 Product= 60/64.80 = 92.6% * 60 = $55.56 Points= 4.80/64.80 = 7.4% * 60 = $4.44

For Crandall, the amount recognized as revenue for each of the remaining products would be a blended price of $98.33, computed as shown:

Products not delivered under original contract ($100 × 40) =$4,000 Products to be delivered under contract modification ($95 × 20) = 1,900 Total remaining revenue $5,900 Revenue per remaining unit ($5,900 ÷ 60) = $98.33

Contracts with customers

These disclosures include: -the disaggregation of revenue -presentation of opening and closing balances in contract assets and contract liabilities -significant information related to their performance obligations

Performance Obligation Satisfied

Recognize revenue from a performance obligation over time by measuring progress toward completion •Method for measuring progress should depict transfer of control from company to customer (at a point in time or over time) •Objective of methods is to measure extent of progress in terms of costs, units, or value added

Equity method

Record the investment at cost and subsequently adjust the amount each period for: •the investor's proportionate share of the earnings (losses) and •dividends received by the investor If investor's share of investee's losses exceeds the carrying amount of the investment, the investor ordinarily should discontinue applying the equity method and not recognize additional losses.

Investments in Equity Securities

Represent ownership of capital stock Cost includes: •price of the security, plus •broker's commissions and fees related to purchase

On June 1, 2020 Earth Manuf sells for cash, 500, 3-year maintenance contracts to its customers for $1,000,000. The customers will benefit from the maintenance contracts over the 3-year protection period. The standalone price of each maintenance contract is $2,000. Prepare Earth's JE to: 1)Record the sale of maintenance contracts 2)Record the adjusting entry on June 30, 2020 (ignore cost entries)

Revenue is recognized over time because the customer will benefit from the service over the 3-year period To record deferred service revenue: Dr. Cash $1,000,000 Cr. Deferred Service Revenue $1,000,000 To recognize revenue for one month: Dr. Deferred Service Revenue $27,778 Cr. Service Revenue $27,778(1,000,000 / 36 months)

Beta Inc. sells $100,000 of inventory during 2020 to customers for $130,000. Beta accepts returns up to 6 months after the date of purchase. Based on historical trends, 5% of inventory that Beta sells is returned. What is the transaction price?

Sales price $130,000 Less: Sales returns 6,500 Transaction price= $123,500

Robinson's balance sheet and income statement

See 17-5

On 1/1/2020 Giles Inc enters into a contract with a customer for a combined discounted selling price of $940 (stated to the customer as $700 for equipment payable at the date of sale, and 4240 for one year of service, payable at $20 per month). Standalone selling price of the equip is $960 and service is $240. How is the selling price allocated? How is the transaction recorded at the date of sale and first monthly payment?

See ch 18 slides 80-84

Accounting for securities review table

See pic on phone

The entry to record interest revenue on July 1, 2019, is as follows.

See table 17-7 Dr. Cash 5,000 Cr. Debt Investments 676 Cr. Interest Revenue 4,324

The entry to record interest revenue on December 31, 2019, is as follows.

See table 17-7 Dr. Interest Receivable 5,000 Cr. Debt Investments 703 Cr. Interest Revenue 4,297

Robinson Company records the receipt of the first semiannual interest payment on July 1, 2019, as follows:

See table on 17-5 Dr. Cash 4,000 Dr. Debt Investments 614 Cr. Interest Revenue 4,614

Robinson is on a calendar-year basis, it accrues interest and amortizes the discount at December 31, 2019, as follows:

See table on 17-5 Dr. Interest Receivable 4,000 Dr. Debt Investments 645 Cr. Interest Revenue 4,645 *Adjusting entry--don't get paid until 1/1

Nonrefundable upfront fees example: FitCo operates health clubs. FitCo enters into contracts with customers for one year of access to any of its health clubs. The reporting entity charges an annual membership fee of $60 as well as a $150 nonrefundable joining fee. The joining fee is to compensate, in part, for the initial activities of registering the customer. Customers can renew the contract each year and are charged the annual membership fee of $60 without paying the joining fee again. If customers allow their membership to lapse, they are required to pay a new joining fee. How should FitCo account for the nonrefundable joining fees?

The customer does not have to pay the joining fee if the contract is renewed and has therefore received a material right. That right is the ability to renew the annual membership at a lower price than the range of prices typically charged to newly joining customers. The joining fee is included in the transaction price and allocated to the separate performance obligations in the arrangement, which are providing access to health clubs and the option to renew the contract, based on their standalone selling prices. FitCo's activity of registering the customer is not a service to the customer and therefore does not represent satisfaction of a performance obligation. The amount allocated to the right to access the health club is recognized over the first year, and the amount allocated to the renewal right is recognized when that right is exercised or expires.

Separate Performance Obligations SoftTech Inc. Illustration SoftTech Inc. licenses customer-relationship software to Lopez Company. In addition to providing the software itself, SoftTech promises to provide consulting services by extensively customizing the software to Lopez's information technology environment, for a total consideration of $600,000. In this case, SoftTech is providing a significant service by integrating the goods and services (the license and the consulting service) into one combined item for which Lopez has contracted. In addition, the software is significantly customized by SoftTech in accordance with specifications negotiated by Lopez. Do these facts describe a single or separate performance obligation?

The license and the consulting services are distinct but interdependent, and therefore should be accounted for as one performance obligation.

Kallogg, Inc. a cereal manufacturer, sells its cereal line to a large grocery store chain. Kallog also pays the grocery chain a slotting fee which is a payment for desired shelf position. The slotting fee is negotiated as part of the sales contract. For the month of June 2020, cash sales to a grocery store were $10,000, cost of inventory was $4,000, and the slotting fee was $500. Kallog did not receive a distinct good or service in exchange for the $500. What is the transaction price?

The slotting fee is consideration payable because it is paid by the seller in connection with the contract and is not paid for a distinct good or service. The transaction price (revenue) is measured as: Selling price $10,000 Less: Consideration payable 500 Transaction price recorded as sales revenue $9,500 Instead of recoding the consideration paid as advertising expense, it is reported as a reduction to the transaction price because it was negotiated as part of the contract. Dr. Cash 10,000 Cr. Sales Revenue 9,500 Cr. Consideration payable 500 Dr. COGS 4,000 Cr. Inventory 4,000

Validity of a contract practice #1: A 5-year contract entered into and approved by 2 parties includes a termination clause allowing each party to cancel at any time without additional compensation.

The termination clause does not allow for enforceable rights by either party, thus making the contract invalid.

On Jan.1, 2020 Alpha enters into a contract with Green Mfg. to build equipment. Alpha pays Green $2 million and agrees to provide necessary materials with a fair value of $250,000 to be used in the manufacturing process. Alpha will deliver the materials to Green approx. 3 months after development of the equipment commences. Green obtains control of the materials upon delivery and could elect to use the materials for other projects. What is the transaction price?

The transaction price includes the contract price of $2,000,000 to build equipment plus the $250,000 of materials (noncash consideration) for a total of $2,250,000.

Significant judgements

These disclosures include: -judgments and changes in these judgments that affect the determination of the transaction price -the allocation of the transaction price -the determination of the timing of revenue

Assets recognized from costs incurred to fulfill a contract

These disclosures include: -the closing balances of assets recognized to obtain or fulfill a contract -the amount of amortization recognized -the method used for amortization

Warranties Illustration Maverick Company sold 1,000 Rollomatics on October 1, 2020, at total price of $6,000,000, with a warranty guarantee that the product was free of defects. The cost of the Rollomatics is $4,000,000. The term of this assurance warranty is 2 years, with an estimated cost of $80,000. In addition, Maverick sold extended warranties related to 400 Rollomatics for 3 years beyond the 2-year period for $18,000. On November 22, 2020, Maverick incurred labor costs of $3,000 and part costs of $25,000 related to the assurance warranties. Maverick prepares financial statements on December 31, 2020. It estimates that its future assurance warranty costs will total $44,000 at December 31, 2020. Question: What are the journal entries that Maverick Company should make in 2020 related to the sale and the related warranties?

To record the sale of the Rollomatics and the related extended warranties on October 1, 2020: Dr. Cash ($6,000,000 + $18,000) 6,018,000 Cr. Sales Revenue 6,000,000 Cr. Unearned Warranty Revenue 18,000 To reduce inventory and recognize cost of goods sold: Dr. Cost of Goods Sold 4,000,000 Cr. Inventory 4,000,000 To record the warranty costs incurred on November 22, 2020: Dr. Warranty Expense 28,000 Cr. Salaries and Wages Payable 3,000 Cr. Inventory (parts) 25,000 To record the adjusting entry related to its assurance warranty at the end of the year, December 31, 2020: Dr. Warranty Expense 44,000 Cr. Warranty Liability 44,000

For held-to-maturity securities, what are the valuation approach, treatment of unrealized holding gains or losses, and other income effects?

Valuation: -Amortized cost Unrealized holding gains or losses: -not recognized Other income effects: -Interest when earned -gains and losses from sale

For available-for-sale securities, what are the valuation approach, treatment of unrealized holding gains or losses, and other income effects?

Valuation: -Fair value Unrealized holding gains or losses: -Recognized in net income Other income effects: -Interest when earned -gains and losses from sale

For trading securities, what are the valuation approach, treatment of unrealized holding gains or losses, and other income effects?

Valuation: -Fair value Unrealized holding gains or losses: -Recognized in net income Other income effects: -Interest when earned -gains and losses from sale

Contract liability

a company's obligation to transfer goods or services to a customer for which the company has received consideration from the customer

Contract asset

an entity's right to payment for goods and services already transferred to a customer if that right to payment is conditional on something other than the passage of time. ASC 606's revenue model notes that reclassification from a contract asset to a receivable is contingent on fulfilling performance obligations---not on invoicing a client. Entities are not required to use the terms "contract asset" and "contract liability" for presentation purposes.

Incremental costs

costs that a company would not incur if the contract had not been obtained (e.g. selling commissions)

Debt securities represent a ______________ relationship.

creditor

Trading

debt securities bought and held primarily for sale in the near term to generate income on short-term price differences

Available-for-sale

debt securities not classified as held-to-maturity or trading securities

Held-to-maturity

debt securities that a company has the positive intent and ability to hold to maturity

Companies only capitalize costs that are:

direct, incremental, and recoverable (assuming that the contract period is more than one year)

When working with held-to-maturity securities amortize premium or discount using the ________________________ method unless _______________________.

effective-interest the straight-line method yields a similar result

Whether a modification is treated as a separate performance obligation or prospectively, the _____ amount of revenue is recognized _________________ the modification. However, under the ___________ approach, a __________________ is used for sales in the periods after the modification.

same before and after prospective blended price

Amortized cost

the acquisition cost adjusted for the amortization of discount or premium, if appropriate

What determines the accounting treatment for the investment subsequent to acquisition?

the degree to which one corporation (investor) acquires an interest in the common stock of another corporation (investee)

Imputed interest rate

the more clearly determinable of either: 1) the prevailing rate for a similar instrument of an issuer with a similar credit rating 2) a rate of interest that discounts the nominal amount of the instrument to the current sales price of the goods or services

A holding gain or loss is

the net change in fair value of a security from one period to another, exclusive of dividend or interest revenue recognized but not received

Fair value

the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date

Estimating

•Only allocate variable consideration if it is reasonably assured that it will be entitled to the amount •Companies only recognizes variable consideration if: 1. they have experience with similar contracts and are able to estimate the cumulative amount of revenue, and 2. based on experience, they do not expect a significant reversal of revenue previously recognized If these criteria are not met, revenue recognition is constrained.

Sales Returns and Allowances

•Right of return is granted for product for various reasons (e.g., dissatisfaction with product) •Company returning the product receives any combination of the following: 1. Full or partial refund of any consideration paid 2. Credit that can be applied against amounts owed, or that will be owed, to the seller 3. Another product in exchange

Accounting for Revenue Recognition Issues

•Sales returns and allowances •Repurchase agreements •Bill and hold •Principal-agent relationships •Consignments •Warranties •Nonrefundable upfront fees

Different motivations for investing debt securities:

•To earn a high rate of return •To secure certain operating or financing arrangements with another company

Types of debt securities

•U.S. government securities •Municipal securities •Corporate bonds •Convertible debt •Commercial paper

How is revenue recognized over time?

•With some service contracts, revenue is earned evenly over time - straight-line basis •With long-term contracts, revenue is earned based on the extent of progress toward satisfaction of performance obligations.

Companies report trading securities at:

•fair value, with •unrealized holding gains and losses reported as part of net income Any discount or premium is amortized

Companies report available-for-sale securities at

•fair value, with •unrealized holding gains and losses reported in current period earnings Any discount or premium is amortized.

Companies account for investments based on:

•the type of security (debt (think bonds) or equity (think stocks)) and •their intent with respect to the investment