What's the answers for Case #4? About revenue recognition.

DEPAUL UNIVERSITY ACC 640 INFORMATION FOR DECISION-MAKING Revenue Recognition Cases 1 through 5 General Instructions There are five cases included in this packet (Cases #1 through #5). You are responsible for reading all five cases. In addition, Groups 1 through 5 are each responsible for informally presenting the solution to one case on that date. The case assigned to each group is included in the table below. For the presentation of the case solution, the group is responsible for leading the class discussion on that case and teaching the relevant concepts illustrated by that case to the rest of the class. Keep in mind that everyone in the class is responsible for the content and solution to all cases, so your group's effectiveness at teaching the material is invaluable to your classmates. How you can best accomplish this task is up to you, but you should, at a minimum, include the following in your informal presentation: An overall summary of the case facts; Explanation of the key accounting issue(s); Identification and discussion of the relevant sections of the FASB Accounting Standards Codification; A demonstration to the class as to how the relevant sections in the Codification were identified, interpreted and used to address the facts in your case; A discussion of the accounting conclusions reached; and Sample journal entries. Given that your group is expected to teach the relevant concepts illustrated by your assigned case to the rest of the class, your group should prepare presentation materials. One representative of your group should send me (via email) the presentation materials by 10am per the date on the syllabus, so that I can print them out and duplicate them for the rest of the class. In addition to the presentation taking place in class per the date on the syllabus, your group is also responsible for preparing an accounting issue memorandum that documents your case's accounting issue, the relevant authoritative accounting literature, the conclusion(s) reached when applying that literature to the facts of your case, and sample journal entries. In effect, the memorandum should be written from the perspective of the company controller, who is responsible for determining the appropriate accounting for the facts and circumstances presented in the case. Keep in mind that this perspective is different from the perspective taken in the memo you completed for the Amphibians 'R Us accounting research and documentation assignment. The memorandum for your revenue recognition case should be emailed to the instructor prior to class per the date on the syllabus. For the cases in which your group is not responsible for the presentation, you are still expected to: Read the cases prior to the class in which the presentation will take place; Participate in class discussion (e.g., ask questions) related to the cases and take notes; and Understand the accounting issues, the relevant authoritative accounting literature, and the appropriate accounting for each case. The substance of one or more of these cases may be the basis for one or more questions on your midterm and (or) final exams. Case 1 2 3 4 5 CASE ASSIGNMENTS Group 1 2 4 3 5 REVENUE RECOGNITION CASES 1 THROUGH 5 CASE #1 Facts Company A is a public company with a calendar year end. In its current fiscal quarter ending September 30, 2009, it began selling a new piece of equipment (Equipment X) to its customer base. Installation is required for this piece of equipment to function properly. Company A usually sells and performs the installation services related to Equipment X. However, some customers have hired other qualified technicians (not related to Company A) to install Equipment X using the owner's manual that comes with Equipment X. When Company A sells just Equipment X to a customer (i.e., it does not also sell installation services to the customer), it charges the customer $10,000 for the equipment. There is sufficient evidence to support that $10,000 is the fair value of Equipment X. When Company A sells both Equipment X and the related installation services, it charges $10,000 for the equipment and $1,800 for the installation services. Company A does not offer customers that buy Equipment X (with or without installation services) the right to return the equipment. The inventory costs associated with Equipment X are $7,500. The costs Company A incurs to provide the installation services are $500. When a customer hires a qualified technician that is not related to Company A to perform the installation services (instead of hiring Company A to perform these services), the cost to the customer is $2,000. There is sufficient evidence to support that $2,000 is the fair value of the installation services. Customer B placed an order for Equipment X and the related installation services on September 20, 2009. Company A shipped Equipment X on September 25, 2009, and Customer B received the equipment on September 29, 2009. Company A performed the installation services on October 5, 2009. The total amount invoiced to Customer B is $11,800. Of that amount, $10,000 is invoiced to Customer B upon its receipt of the equipment on September 29, 2009, and $1,800 is invoiced to Customer B upon completion of the installation on October 5, 2009. Questions 1. Company A is preparing its quarterly financial statements for the quarter ending September 30, 2009. It is not sure whether the multiple deliverables in the sale to Customer B (i.e., Equipment X and the installation services) should be treated as: (a) separate units of account for revenue recognition purposes or (b) one unit of account for revenue recognition purposes. Which paragraph(s) of the FASB Accounting Standards Codification should Company A refer to for guidance? If your answer to the preceding question is the section of the Codification that includes SAB Topic 13, also indicate the specific section of SAB Topic 13 that Company A should refer to for guidance. For purposes of identifying the relevant paragraphs of the Codification, ignore pending or new content resulting from ASU 2009-13. 2. Should Company A treat Equipment X and the installation services separately for revenue recognition purposes or bundle them together as one unit of account for revenue recognition purposes? Explain the literature that enters into this assessment, the key facts considered in this assessment, and the basis for your conclusion. 3. If there were no other issues related to the timing or amount of revenue to be recognized, how much revenue related to the sale to Customer B should be recognized by Company A in: (a) the quarter ending September 30, 2009 and (or) (b) the quarter ending December 31, 2009? Be prepared to illustrate to the class the journal entry(ies) that would be recorded by Company A in both of these periods. ACC 640 2 REVENUE RECOGNITION CASES 1 THROUGH 5 CASE #2 Facts Company C is a public company with a calendar year end. In its current fiscal quarter ending September 30, 2009, it sold two pieces of equipment (Equipment Y and Equipment Z) to Customer D. Equipment Y was shipped on September 15 th and was received by Customer D on September 19th. Equipment Z was shipped on October 5th and was received by Customer D on October 9th. The shipment of Equipment Z took place after shipment of Equipment Y because Company C did not have Equipment Z on-hand at quarter end. Equipment Y and Equipment Z do not function independent of each other (i.e., one is needed for the other to function properly). Company C does not sell Equipment Y or Equipment Z separately (i.e., they are always sold together). There is not a resale market for either Equipment Y or Equipment Z. Other companies' equipment of a similar nature is not compatible with Company C's equipment. The prices of Equipment Y and Equipment Z as quoted and invoiced to Customer D on September 19, 2009, and October 9, 2009, were $20,000 and $10,000, respectively. Company C does not offer its customers a general right of return on purchases of Equipment Y and Equipment Z. The inventory costs associated with Equipment Y and Equipment Z are $7,500 and $8,000, respectively. Questions 1. Company C is preparing its quarterly financial statements for the quarter ending September 30, 2009. It is not sure whether the multiple deliverables in the sale to Customer D (i.e., Equipment Y and Equipment Z) should be treated as: (a) separate units of account for revenue recognition purposes or (b) one unit of account for revenue recognition purposes. Which paragraphs(s) of the FASB Accounting Standards Codification should Company C refer to for guidance? If your answer to the preceding question is the section of the Codification that includes SAB Topic 13, also indicate the specific section of SAB Topic 13 that Company C should refer to for guidance. For purposes of identifying the relevant paragraphs of the Codification, ignore pending or new content resulting from ASU 2009-13. 2. Should Company C treat Equipment Y and Equipment Z separately for revenue recognition purposes or bundle them together as one unit of account for revenue recognition purposes? Explain the literature that enters into this assessment, the key facts considered in this assessment, and the basis for your conclusion. 3. If there were no other issues related to the timing or amount of revenue to be recognized, how much revenue related to the sale to Customer D should be recognized by Company C in: (a) the quarter ending September 30, 2009 and (or) (b) the quarter ending December 31, 2009? Be prepared to illustrate to the class the journal entry(ies) that would be recorded by Company C in both of these periods. ACC 640 3 REVENUE RECOGNITION CASES 1 THROUGH 5 CASE #3 Facts Company E is a public company with a calendar year end. Company E received a rush order from Customer F on September 27, 2009 for $10,000 worth of product. Given the nature of the product, it can only be shipped via ground transport. Company E arranged for a trucking company to pick up the product from its loading dock on September 28, 2009. The product was shipped free-on-board (FOB) shipping point. The product was received by Customer F at its loading dock on October 1, 2009. Company E sent an invoice to Customer F on October 1, 2009, in the amount of $10,000. The inventory cost of the product shipped to Customer F was $8,000. Questions 1. Company E is preparing its quarterly financial statements for the quarter ending September 30, 2009. It is not sure what affect the shipping terms have on when it should recognize the revenue for the rush order from Customer F. Which paragraph(s) of the FASB Accounting Standards Codification should Company E refer to for guidance? If your answer to the preceding question is the section of the Codification that includes SAB Topic 13, also indicate the specific section of SAB Topic 13 that Company E should refer to for guidance. 2. How do the shipping terms affect when Company E should recognize revenue from the sale to Customer F? Explain the literature that enters into this assessment, the key facts considered in this assessment, and the basis for your conclusion. 3. If there were no other issues related to the timing or amount of revenue to be recognized, how much revenue related to the sale to Customer F should be recognized by Company E in: (a) the quarter ending September 30, 2009 and (or) (b) the quarter ending December 31, 2009? Be prepared to illustrate to the class the journal entry(ies) that would be recorded by Company E in both of these periods. ACC 640 4 REVENUE RECOGNITION CASES 1 THROUGH 5 CASE #4 Facts Chemicals Incorporated (ChemInc) is a public company (i.e., an SEC registrant) with a calendar year end. Its headquarters and manufacturing facilities are located in Chicago, Illinois. ChemInc specializes in manufacturing medical compounds. Given the nature of these medical compounds, many require special storage until they are used in formulating drugs and (or) medications by a pharmaceutical company. The special storage requirements include strict regulation of the temperature, air pressure, and humidity. ChemInc stores the medical compounds it manufactures in the appropriate storage facilities until they are purchased by and shipped to a customer. Qualified shipping specialists are used to ship the medical compounds to the customer. On December 15, 2009, ChemInc enters into a bill-and-hold transaction with Bond Pharmaceutical (Bond). On that date, ChemInc received a written order from Bond for $1,000,000 of Medical Compound A (MCA). The inventory costs associated with the MCA being purchased by Bond is $150,000. MCA is one of the medical compounds that require special storage. Bond is in the process of building a storage chamber within its manufacturing facility that will comply with the special storage requirements applicable to MCA. However, the construction of the storage chamber will not be complete until sometime in the latter half of the first quarter of 2010. As such, Bond has requested in its order that ChemInc store the MCA purchased by Bond until Bond can take delivery into its special storage chamber. Bond is placing the order for MCA prior to completion of its special storage chamber because Bond is aware that ChemInc: (a) schedules production runs for MCA only once or twice a year, (b) completed a production run of MCA in November 2009, (c) keeps a limited amount of MCA on hand to satisfy unplanned customer orders, and (d) charges a significant premium to schedule a special production run of MCA. In addition, Bond needs the MCA to use in a production run for one of its new and greatly anticipated medications. Bond has scheduled the production run for this new medication for the beginning of the second quarter of 2010. ChemInc agrees to sell $1,000,000 of MCA to Bond on December 20, 2009, and store the product until Bond can take delivery into its newly constructed storage chamber. The sales agreement between ChemInc and Bond provides for the following: ChemInc must segregate the MCA purchased by Bond from the rest of ChemInc's inventory and may not use the segregated MCA purchased by Bond to fill orders placed by any other customers. ChemInc and Bond agree that legal title to the MCA purchased by Bond passes to Bond on December 20, 2009. Bond explicitly accepts all risks and rewards of owning the purchased MCA as of December 20, 2009. Bond agrees to buy insurance that is effective on December 20, 2009, that would protect Bond against risk of physical loss on the purchased MCA due to theft, fire, or natural disaster. Bond explicitly acknowledges that ChemInc has no further performance obligations related to the purchased MCA once ChemInc has segregated the purchased MCA from the rest of ChemInc's inventory. ChemInc attests to the fact that the MCA purchased by Bond is complete and ready for shipment upon its segregation by ChemInc. ACC 640 5 REVENUE RECOGNITION CASES 1 THROUGH 5 ChemInc requires payment from Bond under its normal payment terms, which requires Bond to pay ChemInc for the purchased MCA by December 30, 2009. Bond agrees that its purchase commitment is noncancelable. ChemInc segregates the MCA purchased by Bond on December 20, 2009 and sends an invoice to Bond for $1,000,000 on that date. ChemInc receives payment of $1,000,000 from Bond on December 30, 2009. The agreement between ChemInc and Bond has been appropriately executed and approved by all relevant parties as of December 20, 2009. The price of the MCA sold to Bond is fixed and is not subject to any contingencies. Bond is in good financial health and has always honored the payment terms related to past purchases of other medical compounds from ChemInc. Questions 1. ChemInc is preparing its annual financial statements for the year ending December 31, 2009. It is not sure what affect the fact that it has not shipped the MCA to Bond at yearend has on the amount of revenue recorded for that transaction in 2009. In other words, it is not sure how to account for the bill-and-hold transaction it entered into with Bond. Which paragraph(s) of the FASB Accounting Standards Codification should ChemInc refer to for guidance? If your answer to the preceding question is the section of the Codification that includes SAB Topic 13, also indicate the specific section of SAB Topic 13 that ChemInc should refer to for guidance. 2. How does the fact that ChemInc has not shipped the MCA to Bond by the end of the year affect the recognition of revenue by ChemInc in 2009? Explain the literature that enters into this assessment, the key facts considered in this assessment, and the basis for your conclusion. 3. If there were no other issues related to the timing or amount of revenue to be recognized, how much revenue related to the sale to Bond should be recognized by ChemInc in its year ended December 31, 2009? Be prepared to illustrate to the class the journal entry(ies) that would be recorded by ChemInc in its year ending December 31, 2009 and its quarter ending March 31, 2010. ACC 640 6 REVENUE RECOGNITION CASES 1 THROUGH 5 CASE #5 Facts Company H is a public company with a calendar year end. Company H provides telecommunications services to endusers. Up until December 1, 2009, all of Company H's billings to end-users were usage based. For strategic reasons, Company H has decided to: (a) charge customers an upfront, nonrefundable fee upon activation of their telecommunications service and (b) reduce the usage rates charged customers. Company H does not activate a customer's telecommunications service unless the customer signs a two-year contract. The two-year contract has substantive cancellation penalties, which Company H has historically enforced. If a customer renews or continues its service after two years, Company H does not charge an additional activation fee. On average, customers remain with Company H for three years after signing the initial contract and activating their service. The upfront, nonrefundable fee charged at activation is $100. Company H estimates the costs associated with activation to be approximately $90. By December 31, 2009, Company H had activated telecommunications service for 1,000 customers. Questions 1. Company H is preparing its annual financial statements for the year ending December 31, 2009. It is not sure how to recognize the upfront, nonrefundable fee it began charging customers in December 2009 upon activation of their telecommunications service. Which paragraph(s) of the FASB Accounting Standards Codification should Company H refer to for guidance? If your answer to the preceding question is the section of the Codification that includes SAB Topic 13, also indicate the specific section of SAB Topic 13 that Company H should refer to for guidance. 2. How should Company H account for the upfront, nonrefundable fees that relate to customer activations that occurred prior to its 2009 year end? Explain the literature that enters into this assessment, the key facts considered in this assessment, and the basis for your conclusion. 3. If there were no other issues related to the timing or amount of revenue to be recognized, how much revenue related to the 2009 upfront, nonrefundable fees should be recognized by Company H in its year ending December 31, 2009? Be prepared to illustrate to the class the journal entry(ies) that would be recorded by Company H to record this revenue. ACC 640 7