LO6-1

LO6-1 Flashcards — Revenue Recognition

Main Idea

Term: Revenue recognition
Definition: The rules for deciding when and how much revenue a company records.

Term: Core revenue-recognition principle
Definition: Record revenue when goods or services are transferred to the customer for the amount the company expects to receive.

Question: What do the five revenue-recognition steps belong to?
Answer: They are the process used to apply the core revenue-recognition principle.

The Five Steps

Question: What is Step 1 of revenue recognition?
Answer: Identify the contract with the customer.

Question: What is Step 2 of revenue recognition?
Answer: Identify the performance obligations in the contract.

Question: What is Step 3 of revenue recognition?
Answer: Determine the transaction price.

Question: What is Step 4 of revenue recognition?
Answer: Allocate the transaction price to the performance obligations.

Question: What is Step 5 of revenue recognition?
Answer: Recognize revenue when or as each performance obligation is satisfied.

Question: What is the five-step order?
Answer:

  1. Contract

  2. Performance obligations

  3. Transaction price

  4. Allocate

  5. Recognize revenue

Memory trick: C-P-T-A-R
Contract → Promises → Total price → Allocate → Revenue

Important Definitions

Term: Revenue
Definition: Income earned from a company’s normal business activities, such as selling products or providing services.

Term: Contract
Definition: An agreement between a seller and customer that creates rights and responsibilities.

Term: Customer
Definition: A person or business that receives goods or services in exchange for payment.

Term: Performance obligation
Definition: A promise to provide a good or service to a customer.

Simple meaning: Something the seller still owes the customer.

Term: Transaction price
Definition: The amount the seller expects to receive from the customer under the contract.

Term: Allocate
Definition: To divide or assign the transaction price among the different performance obligations.

Term: Recognize revenue
Definition: Officially record earned revenue in the accounting records.

Term: Satisfied performance obligation
Definition: A promise is satisfied when the promised good or service has been transferred to the customer.

Term: Transfer
Definition: Giving control of a good or service to the customer.

Term: Control
Definition: The customer can use the good or service and receive its benefits.

Term: Entitled
Definition: Having the legal right to receive something, such as payment.

Term: Goods
Definition: Physical products sold to customers, such as shoes, computers, or coffee.

Term: Services
Definition: Work performed for a customer, such as cleaning, repairs, or a subscription.

“When” Versus “As”

Question: What does recognizing revenue when an obligation is satisfied mean?
Answer: Record revenue at one specific point in time, such as when a customer receives a laptop.

Question: What does recognizing revenue as an obligation is satisfied mean?
Answer: Record revenue gradually over time, such as providing a one-year subscription.

Quick Example

Question: Macy’s sells Sofia a jacket for $75. Apply the five steps.
Answer:

  1. Contract: Agreement to purchase the jacket

  2. Performance obligation: Deliver the jacket

  3. Transaction price: $75

  4. Allocate: All $75 goes to the jacket

  5. Recognize revenue: Record $75 when Sofia receives control of the jacket