Question: CA18-2 (Satisfying Performance Obligations) Judy Schaeffer is getting up to speed on the new guidance on revenue recognition. She is trying to understand the revenue recognition principle as it relates to the five-step revenue recognition process.

Instructions

(a) Describe the revenue recognition principle.

(b) Briefly discuss how the revenue recognition principle relates to the definitions of assets and liabilities. What is the importance of control?

(c) Judy recalls that previous revenue recognition guidance required that revenue not be recognized unless the revenue was realized or realizable (also referred to as collectibility). Is collectibility a consideration in the recognition of revenue? Explain.

The accounting method of reporting all the financial transactions of the business entity without considering the cash receipt and payment is known as accrual accounting

One of the principles that provide information regarding the situations under which the revenue must be recognized is the revenue recognition principle. This principle is applied under the accrual accounting method and states that revenue must be recognized as the service or product is sold, or it must be recognized as it is earned.

Companies use assets and liabilities to recognize revenue in the following way:

1. When the company satisfies a performance obligation by providing goods or services to the customer, then the company is eligible to receive consideration. Therefore, the company will recognize the contract asset.
2. If the customer satisfies the performance obligation by prepaying the amount of consideration, then the company will recognize contract liability.
3. Both of them must be reported on the balance sheet of the company.

Collectibility refers to the risk attached to collecting payment from the customer to whom product or services are provided. The seller generally does not report revenue after adjusting the credit risk. Instead, it is reported on the gross amount, and then the provision is created for uncollectible accounts. This provision is reported as an expense in the income statement.

If there exists doubt regarding the collection of payment from a customer, then it can be said that parties to the contract are not committed toward their obligations, and the terms and conditions of the contract are not met.