Chapter 5, Problem 5.8P

Requirement – 1

To determine

Performance obligation:

Performance obligation is the promise made by the seller to supply the goods and service to the customer on or before the contract.

Variable consideration:

Variable consideration refers to the uncertain transaction price that depends upon the outcome of future events.

Contract:

Contract is a written document that creates legal enforcement for buying and selling the property. It is committed by the parties to performing their obligation and enforcing their rights.

Deferred revenues:

Collection of cash in advance to render service or to deliver goods in future is known as unearned revenues. These unearned revenues are considered as liabilities until they are earned. For the portion of rendered services or delivered goods, revenues would be recognized by way of passing an adjusting entry. Unearned revenue is also known as deferred revenues, because at the receiving of payment in advance, revenues are not recognized but deferred until they are earned.

Rules of Debit and Credit:

Following rules are followed for debiting and crediting different accounts while they occur in business transactions:

• Debit, all increase in assets, expenses and dividends, all decrease in liabilities, revenues and stockholders’ equities.
• Credit, all increase in liabilities, revenues, and stockholders’ equities, all decrease in assets, expenses.

To prepare: The journal entry to record revenue for the first four months of the contract.

Answer to Problem 5.8P

Journal entry for revenue is as follows:

Date	Account Title and Explanation	Post Ref.	Debit	Credit
	Cash		$60,000
	Bonus receivable		$1,500
	Service revenue (Refer to equation (4))			$61,500
	(To record service performed)

Table (1)

Explanation of Solution

• Cash is an asset, and it increases the value of asset by $60,000, hence debit the cash for $60,000.
• Bonus receivable is an asset, and it increases the value of asset by $1,500, hence debit the bonus receivable for $1,500.
• Service revenue increases the value of stockholders’ equity by $61,500 hence credit the Service revenue for $61,500.

Working note:

1. Calculate the expected value:

Given,

Revenue is $60,000

Cost of saving is $20,000

Number of payments is 8

$\begin{array}{c}\text{Expected value=}\left(\begin{array}{l}\left(\text{Revenue}\times \text{Number of payments}\right)\\ \text{+Cost of saving}\end{array}\right)\\ \text{=}\left(\$60,000\times 8\right)+\$20,000\\ =\$480,000+\$20,000\\ =\$500,000\end{array}$ (1)

2. Calculate the expected value:

Given,

Revenue is $60,000,

Cost of saving is $20,000,

Number of payments is 8.

$\begin{array}{c}\text{Expected value=}\left(\begin{array}{l}\left(\text{Revenue}\times \text{Number of payments}\right)\\ -\text{ Cost of saving}\end{array}\right)\\ \text{=}\left(\$60,000\times 8\right)-\$20,000\\ =\$480,000-\$20,000\\ =\$460,000\end{array}$ (2)

3. Calculate the expected contract price:

Given,

Revenue is $60,000,

Cost of saving is $20,000,

Number of payments is 8.

Expected value	Probability	Expected consideration
$500,000 (Refer to equation (1))	80%	$400,000 $\left(\$\text{11}0,000\times \text{8}0\%\right)$
$460,000(Refer to equation (2))	20%	$92,000 $\left(\$\text{11}0,000\times 20\%\right)$
Expected contract price		$492,000

Table (2)

(3)

4. Calculate the value of service revenue:

Given,

Calculated expected contract price is $492,000 (3)

Number of payments is 8.

$\begin{array}{c}\text{Service revenue=}\left(\frac{\text{Expected contract price }}{\text{Number of payments}}\right)\\ \text{=}\frac{\$492,000}{8}\\ =\$61,500\end{array}$ (4)

Conclusion

Therefore, the journal entry for service revenue is recorded.

Requirement – 2

To determine

To prepare: The journal entry for recognized bonus of Company V.

Answer to Problem 5.8P

Journal entry for recognized bonus is as follows:

Date	Account Title and Explanation	Post Ref.	Debit	Credit
	Service revenue		$4,000
	Bonus receivable (Refer to equation (6))			$4,000
	(To record offsetting adjustment in revenue)

Table (3)

Explanation of Solution

• Service revenue increases the value of stockholders’ equity by $28,000 hence credit the Service revenue for $28,000.
• Bonus receivable is an asset, and it increases the value of asset by $20,000, hence debit the bonus receivable for $20,000.

Working note:

1. Calculate the expected contract price:

Given,

Revenue is $60,000,

Cost of saving is $20,000,

Number of payments is 8.

Expected value	Probability	Expected consideration
$500,000  (1)	60%	$300,000 $\left(\$\text{11}0,000\times \text{8}0\%\right)$
$460,000 (2)	40%	$184,000 $\left(\$\text{11}0,000\times 20\%\right)$
Expected contract price		$484,000

Table (4)

(5)

2. Calculate the value of bonus receivable:

Given,

Calculated expected contract price is $484,000 (5)

Number of payments is 8.

Revenue is $60,000

$\begin{array}{c}\text{Bonus receivable =}\left(\begin{array}{l}\text{Expected contract price}\\ -\left(\text{Revenue}\times \text{Number of payments}\right)\end{array}\right)\\ \text{=}\$\text{484},000-\left(\$\text{6}0,000\times \text{8}\right)\\ =\$484,000-\$480,000\\ =\$4,000\end{array}$ (6)

Conclusion

Therefore, the journal entry for recognized bonus of Company V is recorded.

Requirement – 3

To determine

To prepare: The journal entry to record the revenue each month for the second four months of the contract.

Answer to Problem 5.8P

Journal entry for recognized revenue is as follows:

Date	Account Title and Explanation	Post Ref.	Debit	Credit
	Accounts receivable		$60,000
	Bonus receivable		$500
	Service revenue (Refer to equation (7))			$60,500
	(To record offsetting adjustment in revenue)

Table (5)

Explanation of Solution

• Accounts receivable is an asset, and it increases the value of asset by $60,000, hence debit the accounts receivable for $60,000.
• Bonus receivable is an asset, and it increases the value of asset by $500, hence debit the bonus receivable for $500.
• Service revenue increases the value of stockholders’ equity by $60,500 hence credit the Service revenue for $60,500.

Working note:

Calculate the value of service revenue:

Given,

Calculated expected contract price is $484,000 (5)

Number of payments is 8.

$\begin{array}{c}\text{Service revenue=}\left(\frac{\text{Service revenue}}{\text{Number of payments}}\right)\\ \text{=}\frac{\$484,000}{8}\\ =\$60,500\end{array}$ (7)

Conclusion

Therefore, the journal entry for revenue recognized by Company V is recorded.

Requirement – 4

To determine

To prepare: The journal entry to record the bonus cash received.

Answer to Problem 5.8P

Journal entry for bonus as follows:

Date	Account Title and Explanation	Post Ref.	Debit	Credit
	Cash		$20,000
	Bonus receivable			$4,000
	Service revenue (Refer to equation (8))			$16,000
	(To record service performed)

Table (6)

Explanation of Solution

• Cash is an asset, and it increases the value of asset by $20,000, hence debit the cash for $20,000.
• Bonus receivable is an asset, and it decreases the value of asset by $4,000, hence credit the bonus receivable for $4,000.
• Service revenue increases the value of stockholders’ equity by $16,000 hence credit the Service revenue for $16,000.

Working notes:

Calculate the value of service revenue:

Given,

Bonus accumulated is $4,000 $\left(\$500\times 8\right)$

Expected bonus is $20,000

$\begin{array}{c}\text{Service revenue =}\left(\begin{array}{l}\text{Expected bonus}\\ -\text{Bonus accumulated}\end{array}\right)\\ \text{=}\$\text{2}0,000-\$\text{4},000\\ =\$16,000\end{array}$ (8)

Conclusion

Therefore, the journal entry for bonus cash received is recorded.