19 Jun Scenario 1: “Crown Construction Company entered into a contract with Star Hotel for building a highly

Scenario 1: “Crown Construction Company entered into a contract with Star Hotel for building a highly sophisticated, customized conference room to be completed for a fixed price of $400,000. Nonrefundable progress payments are made on a monthly basis for work completed during the month. Legal title to the conference room equipment is held by Crown until the end of the construction project, but if the contract is terminated before the conference room is finished, Star retains the partially completed job and must pay for any work completed to date” (Spiceland et al., p. 333).

            To begin the assessment of this scenario, I will refer to the five steps to achieve the core principle. “ Identify the contract with a customer, identify the performance obligations (promises) in the contract, determine the transaction price, allocate the transaction price to the performance obligations in the contract, and recognize revenue when (or as) the reporting organization satisfies a performance obligation” (Revenue Recognition, n.d.). The contract portion is easily recognized as it is stated in the beginning of the scenario.

The performance obligation is a custom conference room that adheres to Star Hotel’s specifications. The transaction price is clearly stated as $400,000. Though this seems to be a case of revenue recognition at completion and transfer of title, there is more at play here. “The seller’s performance creates an asset with no alternative use, and the seller has an enforceable right to payment for performance completed to date” (Sanchez, 2020). Due to this scenario meeting this condition, revenue should be recognized over time.

Scenario 2: “Regent Company entered into a contract with Star Hotel for constructing and installing a standard designed gym for a fixed price of $400,000. Nonrefundable progress payments are made on a monthly basis for work completed during the month. Legal title to the gym passes to Star upon completion of the building process. If Star cancels the contract before the gym construction is completed, Regent removes all the installed equipment and Star must compensate Regent for any loss of profit on sale of the gym to another customer” (Spiceland et al., p. 333).

            Unlike the previous scenario, the wording on this is much different. The gym is not a customized product. A contract is clearly stated, as well as a fixed price for this project. Legal title does not pass to the customer until the gym is completed. It is also specified that the equipment will be removed if there is a change in the contract. Regent is able to resell this product to another customer, with the stipulation that any loss would be covered by Star. This scenario does not meet any of the three criterion of performance obligations satisfied over time. Revenue should be recognized upon completion and transfer of title to this customer.

Scenario 3: “On January 1, the CostDriver Company, a consulting firm, entered into a three-month contract with Coco Seafood Restaurant to analyze its cost structure in order to find a way to reduce operating costs and increase profits. CostDriver promises to share findings with the restaurant every two weeks and to provide the restaurant with a final analytical report at the end of the contract. This service is customized to Coco, and CostDriver would need to start from scratch if provided a similar service to another client. Coco promises to pay $5,000 per month. If Coco chooses to terminate the contract, it is entitled to receive a report detailing analysis to that stage” (Spiceland et al., p. 333).

            CostDriver has established a contract with Coco, as well as setting a price of $5,000 per month for three months. The product in this scenario is information, which is analyzed and disseminated every two weeks. The final product is a report, one could assume a summary of sorts, of the financial information. Should Coco choose to stop this agreement they are entitled to keep the information completed up to that date. The information is customized to the restaurant and would not be useful to another client.

The product is dispensed to the customer during the life of the contract. Coco enjoys the benefits of the product during the process of the contract. “The customer simultaneously receives and consumes the economic benefits of the provided asset as the entity performs” (Sanchez, 2020). For this reason, revenue should be recognized over time because the performance obligations are satisfied over time.

Scenario 4: “Assume International Tower (Phase II) is developing luxury residential real estate and begins to market individual apartments during their construction. The Tower entered into a contract with Edwards for the sale of a specific apartment. Edwards pays a deposit that is refundable only if the Tower fails to deliver the completed apartment in accordance with the contract. The remainder of the purchase price is paid on completion of the contract when Edwards obtains possession of the apartment” (Spiceland et al., p. 333).

            There is a contract established for the sale of a specific apartment. Specific in this sense does not mean customized, rather it was selected from the apartments for sale. Although there is a deposit placed for this apartment, it is refundable if International Tower does not provide the apartment stated in the contract. Ownership is not transferred to the customer until completion of the project. This scenario does not meet any criteria for revenue recognition over time. The product could be sold to another customer, and there is no consumption or benefit of the product until completion and full payment.

References

“Revenue Recognition” (n.d.). Retrieved from: https://www.fasb.org/jsp/FASB/Page/ImageBridgePage&cid=1176169257359#section_2

Sanchez, M. (2020, March 9th). “The New Revenue Recognition Model – Step 5: Recognizing Revenue When (or as) Performance Obligations are Satisfied”. Retrieved from: https://warrenaverett.com/insights/revenue-recognition-step-5-recognizing-revenue-performance-obligations-satisfied/

Spiceland, J. D., Nelson, M. W., & Thomas, W. B. (2019). Intermediate Accounting (10th ed.). McGraw Hill Education. New York, New York.