Revenue Recognition

Installment Sales
REVENUE
The gross inflow of economic benefits during the period arising in the course of the ordinary activities of an
entity when those inflows result in increases in equity, other than increases relating to contributions from equity
participants.
Recognition Criteria:
a A probable inflow of economic benefits will flow to the entity
b The inflow of benefits can be measured reliably (with sufficient degree of certainty)
Identification of transactions:
The criteria are normally applied on a per transaction basis except when two or more transactions are linked in
such a way that the commercial effect cannot be understood without reference to the series of transactions as
a whole.
Measurement: Revenue shall be measured at the fair value of the consideration received or receivable.
Revenue recognition criteria for sales of goods:
1 the entity has transferred to the buyer the significant risks and rewards of ownership of the goods;
2 the entity retains neither continuing managerial involvement to the degree usually associated with
ownership nor effective control over the goods sold;
3 the amount of revenue can be measured reliably;
4 it is probable that the economic benefits associated with the transaction will flow to the entity; and
5 the costs incurred or to be incurred in respect of the transaction can be measured reliably
Examples of retention of risk and rewards of ownership:
1 when the entity retains an obligation for unsatisfactory performance not covered by normal warranty
provisions;
2 when the receipt of the revenue from a particular sale is contingent on the derivation of revenue by the
buyer from its sale of the goods;
3 when the goods are shipped subject to installation and the installation is a significant part of the contract
which has not yet been completed by the entity; an
4 when the buyer has the right to rescind the purchase for a reason specified in the sales contract and the
entity is uncertain about the probability of return
Subsequent uncertainty about collectivity
When an uncertainty arises about the collectibility of an amount already included in revenue, the uncollectible
amount or the amount in respect of which recovery has ceased to be probable is recognized as an expense,
rather than as an adjustment of the amount of revenue originally recognized.
Alternative Accounting Methods to Installment Sales
1

Installment Method employed when

a the outflow of economic benefits arising from the transaction is NOT reasonably assured
b there is no means available to ascertain the degree of collectivity
- Under installment method, collections are regarded as both recovery of profits and costs.

Cost recovery method employed when

a Collectability of proceeds is very uncertain.
b The transaction is very speculative
c The final sales price is contingent on future events
- No gross profit is recognized until all cash collections equals the cost of the goods sold.

Deposit method
- Employed when expenses connected to the sale cannot be measured reliably or when transaction is
subject to conditions which would negate revenue recognition such as the existence of:
a Buy-back agreement
c. Guarantee
b Refund period
- All considerations received is credited to a liability account, the liability account is closed to income
upon closure of all activities connected to the transaction or when the condition lapsed.

Gross profit realization method

First collections are regarded as recoveries of profits. Subsequent collections are deemed recoveries of
cost.
Grossly violates GAAP due to total lack of conservatism. Not used in practice.

1.) LeBron company began operations on January 1, 2014, and appropriately uses the instalment method
of accounting. The following data are available for 2015 and 2016:
2015
Installment sales
Cash collections from

2016
P1,200,000

P1,500,000

400,000

500,000
600,000
40%

2015 sales
2016 sales
Gross profit

30%

The realized gross profit for 2016 is:

A. 240,000
B. 390,000
C. 440,000
D. 600,000
2.) The following table is available for James Company:
Installment Sales
Cost of instalment sales
Gross profit
Gross profit percentage
Cash collections:
2014 sales
2015 sales
2016 sales
Realized Gross Profit on
Installment Sales

2014
50,000
?
?
?

2015
80,000
?
?
25%

2016
?
91,800
28,200
?

?
?
?

25,000
20,000
?

10,000
50,000
45,000

1,100

10,500

Using the instalment method, compute for the realized gross profit in 2016.
A. 10,575
B. 12,500
C. 14,200
D. 25,275
3.) Curry Co., which began operations on January 1, 2014 appropriately uses the instalment sales method
of accounting. The following information pertains to Currys operations for the year 2014:
Installment sales
P1,200,000
Regular sales
480,000
Cost of instalment sales
720,000
Cost of regular sales
288,000
General and administrative expenses
96,000
Collections on instalment sales
288,000
The deferred gross profit account in Currys December 31, 2014 balance sheet should be:
A. 115,200
B. 192,000
C. 364,800
D. 480,000

4.) Love Corporation which began business on January 1, 2014 appropriately uses the instalment sales
method of accounting. The following data are available:
12/31/2014
Balance of deferred Gross profit

12/31/2015

on sales account
2014
2015

300,000

Gross profit on sales

120,000
440,000
40%

30%

The instalment accounts receivable balance at December 31, 2015 is:

A. 1,000,000
B. 1,100,000
C. 1,400,000
D. 1,500,000
Use the following information for questions 5 to 7.
During 2014, Irving Corporation sold merchandise costing P1,500,000 on an instalment basis for P2,000,000.
The cash receipts related to these sales were collected as follows: 2014, P800,000; 2015, P700,000; 2015,
P500,000
5.)
A.
B.
C.
D.

What is the rate of gross profit on the instalment sales made by Irving Corporation during 2014?
75%
60%
40%
25%

6.) If expenses other than the cost of the merchandise sold, related to the 2014 installment sales
amounted to P90,000, by what amount would Irvings net income for 2014 increase as a result of the
instalment sales?
A. 110,000
B. 117,500
C. 200,000
D. 710,000
7.) What amount would be shown in the December 31, 2015 financial statement for realized gross profit on
2014 installment sales, and deferred gross profit on 2014 installment sales respectively?
A. 175,000 and 375,000
B. 325,000 and 175,000
C. 375,000 and 125,000
D. 175,000 and 125,000
Use the following information for questions 8 and 9.
Following date pertain to Bosh Company which sells appliances on an instalment basis:
2014
Installment sales
Cost of sales

Installment accounts
receivable balances
January 1, 2016
December 31, 2016

2015
390,000
237,900

2016
420,000
243,600

From sales made in

2015

2014
24,000

300,000
60,000

Repossessions on defaulted accounts were made during 2016 as follows:

Account balance
Net resale value of
repossessed
merchandise

From sales made in

2015
10,000
4,500

2016
5,000
3,500

480,000
288,000

2016

320,000

8.)
A.
B.
C.
D.

The total realized gross profit in 2016 on the collections of 2014, 2015 and 2016 sales was:
9,360
62,000
96,600
167,960

9.)
A.
B.
C.
D.

The net gain (loss) on repossession on defaulted sales of 2015 and 2016 was:
500
(800)
800
(1,300)

10.) The Tigers sells new automobiles. A new automobile costing P2,500,000 was sold at the end of 2014
for P3,600,000; an old automobile was accepted as down payment and an allowance of P1,500,000 was
allowed on the trade-in. The company anticipates reconditioning costs of P150,000 on this automobile
and a resale price of P1,400,000. Its used car sales are expected to produce a 25% gross profit.
Determine the realized gross profit on this instalment sale:
A. 275,000
B. 250,000
C. 150,000
D. None

Construction Contracts
Construction contract a contract specifically negotiated for the construction of an asset or a combination of
assets that are closely interrelated or interdependent in terms of their design, technology and function or their
ultimate purpose or use
Types:
1. Fixed price contract a construction contract in which the contractor agrees to a fixed contract price, or a fixed
rate per unit of output, which in some cases is subject to cost escalation clauses
2. Cost plus contract a construction contract in which the contractor is reimbursed for allowable or otherwise
defined costs, plus a percentage of these costs or a fixed fee
Combining and Segmenting Construction Contracts
Construction accounting is generally applied on a per-construction contract basis but construction contracts may be
combined or segmented under certain conditions.
Segmenting of construction contracts
When a contract covers a number of assets, the construction of each asset shall be treated as a separate
construction contract when:
1. separate proposals have been submitted for each asset;
2. each asset has been subject to separate negotiation and the contractor and customer have been able to accept
or reject that part of the contract relating to each asset; and
3. the costs and revenues of each asset are identifiable
Combination of construction contracts
A group of contracts, whether with a single customer or with several customers, shall be treated as a single
construction contract when:
1. the group of contracts is negotiated as a single package;
2. the contracts are so closely interrelated that they are, in effect, part of a single project with an overall profit
margin; and
3. the contracts are performed concurrently or in a continuous sequence
A contract may provide for the construction of an additional asset at the option of the customer or may be amended
to include the construction of an additional asset. The construction of the additional asset shall be treated as a
separate construction contract when:
1. the asset differs significantly in design, technology or function from the asset or assets covered by the original
contract; or
2. the price of the asset is negotiated without regard to the original contract price
Construction Terminologies:
1. Progress billings amounts billed by the contractor as charges for construction activities done
2. Retention Fee portion of the progress billing that is withheld by the customer pending satisfaction of an
agreed condition
3. Mobilization fee an advance given by the customer to the contractor
4. Contract work in progress contract costs that relate to future activity

5. Variation an instruction from the customer for a change in the scope of the work to be performed under the
contract
6. Claim an amount the contractor seeks to collect from the customer or another party as reimbursements for
cost not included in the contract price
7. Incentive payments additional amounts paid by the contractor if specified performance standards are met or
exceeded
8. Penalties - reduction in revenue for failing to meet client specifications
The primary issue in accounting for construction contracts is the allocation of contract revenue and
contract costs to the accounting periods in which construction work is performed.
CONTRACT REVENUE comprises of:
1. the initial amount of revenue agreed in the contract and
2. variations in the contract work, claims and incentive payments
a. to the extent that it is probable that they will result in revenue
b. they are capable of being reliably measured
CONTRACT COSTS comprise of:
1. costs that relate directly to the specific contract
a. site labor cost and supervision e. moving cost of PPE and materials to/from site
b. cost of materials used
f. estimated cost of rectification and guarantee work
c. depreciation of PPE
g. cost of design and technical assistance
d. cost of hiring PPE
h. claim from third parties
2. costs that are attributable to contract activity in general and can be allocated to the contract
a. insurance
b. cost of design and technical assistance not directly related to specific contract
c. construction overheads
3. such other costs as are specifically chargeable to the customer under the terms of the contract
Costs not included in contract costs:
1. Contract work in progress
2. Advanced payments to subcontractors
3. Others like:
a. General administration costs c. Non-reimbursable R&D expenses
b. Selling costs
d. Depreciation of idle PPE not used on a particular contract
I.

METHODS OF ACCOUNTING:
Percentage of Completion Method used when the outcome of construction activity can be reliably measured:
A. Fixed price contract outcome of construction activity can be reliably measured if:
1. total revenue can be measured reliably
2. probable economic benefits will flow to the entity
3. contract cost to complete and stage of contract completion, determinable
4. contract cost to the contract can be identified and measured reliably
B. Cost plus contract outcome of construction activity can be reliably measured if:
1. it is probable economic benefits will flow to the entity
2. contract cost to the contract can be identified and measured reliably
Under Percentage of Completion Method
a. revenue is recognized based on the extent of completion
b. contract costs incurred during the period is expensed
Stage of completion may be determined using:
1. cost-to-cost method
2. survey of work done
3. completion of physical proportion of the work done
Progress payments and advances received do not often reflect the work performed.

II. Completed Contract Method also known as zero-profit method, is used when the outcome of a construction
activity cannot be reliably measured
Under completed contract method
a. revenue is recognized up to the extent of contract cost incurred and recoverable
b. contract costs are expensed in the period in which they are incurred
EXPECTED CONSTRUCTION LOSS
Regardless of the accounting method used, expected losses are recognized as an expense immediately
irrespective of:
1. work has not yet commenced on the contract
2. stage of completion or activity or
3. the amount of profits expected on other contracts which are not treated as a single contract

1.) Monroe Construction Company uses the percentage of completion method of accounting. In 2014,
Monroe began work on a contract if had received which provided for a contract price of P15,000,000.
Other details follow:
2014
Costs incurred during the year
Estimated costs to complete as of December 31
Billings during the year
Collections during the year

7,200,000
4,800,000
6,600,000
3,900,000

What should be the gross profit recognized in 2014?

A. 600,000
B. 1,800,000
C. 3,000,000
D. 7,000,000
2.) Billups Company recognizes construction revenue and expenses using the percentage of completion
method. During 2014, a single long-term project was begun which continued through 2015. Information
on the project were as follows:
2014
Accounts
receivable
construction contract
Construction expenses
Construction in progress
Partial billings on contract

from

2015
200,000

600,000

210,000
244,000
200,000

384,000
728,000
840,000

The profit recognized from the long-term construction contract should amount to:
2014
A.
B.
C.
D.

2015

44,000
44,000
34,000
34,000

456,000
200,000
256,000
100,000

Use the following information for questions 3 and 4.

Hamilton Inc. began work in 2014 on a contract for P8,400,000. Other data are as follows:
2014
Costs incurred to date
Estimated costs to complete
Billings during the year
Collections to year

2015
3,600,000
2,400,000
2,800,000
2,000,000

5,600,000
8,400,000
7,200,000

3.)
A.
B.
C.
D.

If Hamilton uses the percentage of completion method, the gross profit to be recognized in 2014 is
1,440,000
1,600,000
2,160,000
2,400,000

4.)
A.
B.
C.
D.

If Hamilton uses the cost-recovery method, the gross profit to be recognized in 2015 is
1,360,000
2,800,000
1,400,000
5,600,000

5.) Wallace Construction Company has consistently used the percentage of completion method of
recognizing income. During 2014, Wallace entered into a fixed-price contract to construct an office
building for P10,000,000. Information relating to the contract is as follows:
2014
Percentage of completion
Estimated total cost at completion

2015
20%
7,500,000

60%
8,000,000

Income recognized (cumulative)

500,000

1,200,000

Contract costs incurred during 2015 were:

A. 3,200,000
B. 3,300,000
C. 3,500,000
D. 4,800,000
6.) Bryant Construction Company uses the percentage of completion method for long-term construction
contracts. The company has a project with a contract price of P7,000 on which P600 of gross profit has
been recognized in prior years. Information for the current year is as follows:
Total cost incurred through current year
Estimated costs remaining at end of current year

5,000
2,800

What is the loss that Bryant should recognize in the current year?
A.
B.
C.
D.

600
800
1,400
No loss should be recognized

Use the following information for questions 7 and 8

Raptors Builders, Inc. employs the cost-to-cost method in determining the percentage of completion for
revenue recognition. The companys record show the following information on a recently completed project for
a contract price of P5,000,000.
2014
Costs incurred to date
Gross profit (loss)

2015
900,000
100,000

2016
2,550,000
350,000

7.)
A.
B.
C.
D.

The estimated costs to complete the project at December 31, 2015 is

850,000
1,700,000
2,300,000
2,550,000

8.)
A.
B.
C.
D.

The actual costs incurred during 2016 amounted to

2,550,000
2,300,000
2,200,000
2,050,000

?
(50,000)

Franchise
Initial franchise fee contractual consideration for the franchise and initial services to be rendered by the
franchisor
Continuing franchise fee a charged for continuing services rendered to the franchisee; recognized as
revenue when continuing services are rendered.
Initial direct cost necessary cost to transfer the franchise and the know-how embodied in it. Deferred and
expensed in the period the relevant franchise fee is recognized
Indirect cost cost that cannot be traced to a particular franchise contact; expensed in the period incurred
ACCOUNTING METHODS:
A. Initial services is substantially completed
1. Accrual Method revenue is recognized upon completion of substantial performance; used when
realization of the revenue is reasonably assured.
2. Installment Method revenue is recognized based on collection; used when realization of the revenue
is not reasonably assured
3. Cost Recovery Method collection is deemed recoveries of cost; excess collection over cost is
deemed profit; used when realization of the revenue is uncertain
B. Deposit Method initial services not yet substantially completed

FRANCHISE REVENUE RECOGNITION METHODS

Point of substantial Performance
Before Substantial Performance

General Rule:

Deposit Method

After Substantial Performance

Accrual Method

Installment Method or
Cost Recovery Method

Exception Rule:

Limited Accrual
(Non-refundable DP)

Deposit Method
(With revenue recognition precluding issues)

Exception before substantial performance:

The franchisor may recognize part of the initial franchisee fee when:
1. non-refundable downpayment was received and
2. the downpayment commensurate to the extent of services already incurred
Exception after substantial performance:
1. The franchise contract provides for a conditional buy-back agreement.
2. The grant is subject to refund which is still outstanding
3. The franchise may be cancelled subject to a contingency which has not yet prescribed.
1.) On March 1, 2011, Baliwags Lechon, a franchisor, entered into a franchise agreement with Mr,
Gordobe. The initial franchise fee is P500,000 of which P100,000 is payable in cash upon signing of the
franchise agreement and the balance evidenced by a 12% promissory note. As of December 31, 2011
the franchisor fails to render substantial services and none thus far had been rendered to the
franchisee. When Baliwags Lechon prepares its financial statements on Decemver 31, 2011, the
revenue from franchise fee to be reported is:
A. 500,000
B. 0
C. 100,000
D. 400,000
2.) On August 1, 2011, KFC sells a franchise that requires an initial franchise fee of P5,000,000. On
September 15, 2011 the contract was signed and the franchisee paid the initial franchise fee in full. On
November 2, the franchisee commenced operations after substantial services have rendered by the
franchisor at a cost P50,000. What is the net income from franchise fee of the franchisor in its
December 31 statement of comprehensive income?
A. 5,000,000
B. 0
C. 4,950,000
D. 50,000
3.) On July 1, 2011, Mr. Roxas signed an agreement to operate as a franchisee of HotDog Inc for an initial
franchise fee of P1,200,000. On the same date, Mr. Roxas paid P400,000 and agree to pay the balance
in four annual payments of P200,000 beginning July 1, 2012. Mr. Roxas can borrow at 14% for a loan
of this type. Present and future value factors are as follows:
Present value of 1 at 14% for 4 periods
0.59
Future amount of 1 at 14% for 4 periods
1.69
Present value of an ordinary annuity of 1 at 14%
2.91
for 4 periods
On July 1, 2011, when the initial franchise fee is received, what is the unearned interest income recorded by
HotDog?
A. 200,000

B. 218,000
C. 0
D. 380,000
4.) Using the data in the preceding number, what is the deferred revenue from franchise fee to be recorded
on July 1, 2011 by HotDog?
A. 800,000
B. 582,000
C. 400,000
D. 982,000
5.) On June 30, 2011, Mr. Tuazon entered into a franchise agreement with TM Company to sell their
products. The agreement provides for an initial franchise fee of P1,250,000, payable as follows:
P350,000 cash to be paid upon signing of the contract, and the balance in five equal annual payments
every December 31, starting December 31, 2011. Mr. Tuazon signs a 15% interest bearing note for the
balance. The agreement further provides that the franchisee must pay a continuing franchise fee equal
to 5% of its monthly gross sales. On October 30, the franchisor completed the initial services required
in the contract at a cost of P787,500 and incurred indirect costs of P42,900. The franchisee
commenced business operations on November 2, 2011. The gross sales reported to the franchisor are:
November sales, P121,000 and December sales, P147,500. The first instalment payment was made in
due date.
Assuming the collectability of the note is not reasonably assured, in the statement of comprehensive
income for the year ended December 31, 2011, how much is the net income of TM Company?
A.
B.
C.
D.

234,125
301,625
220,700
200,825