Essay on revenue recognition

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8. Briefly explain when each of the following companies should recognize revenue for the sale of their products and/or services: (2 pts. each)

a. Wiley Coyote sells personally autographed pictures to his fans. He charges $25 cash and will write anything the fan wants. Because it is personalized, no returns or exchanges are allowed.

When Wiley has written what the fan wants, given the picture to the fan, and received the $25 from the fan, i.e., when the transaction is complete.

b. The Philadelphia Phillies are selling baseballs autographed by the entire team. They charge $75 per ball. Since many are purchased as gifts, the Phillies allow the balls to be returned up to two weeks after the World Series ends. It estimates that 10% of the balls will be returned.

Revenue can be recognized when the right of return period is over, i.e., two weeks after the World Series ends. An alternative is to set up an allowance for returns and recognize the revenue when the sale is made.

c. For $1,500 at the time of purchase, Global Motors, Inc., offers the customer a seven-year warranty that will cover replacement of almost all parts and labor. The purchased warranty expires at the end of seven years or when the customer sells the vehicle, whichever occurs first. Purchase of the warranty is optional.

The question is meant to focus on revenue recognition for the warranty. There are several ways. One is to recognize the $1,500 when the warranty is sold but setup an allowance for anticipated warranty claims. Then, when there is a warranty claim, it is charged to the allowance, not to expense. Another way to recognize the warranty revenue is to prorate it over the seven years. A final way to recognize the warranty revenue is to wait until the seven years have expired.

d. Family Farms, Inc., is a small company in the Midwest that grows corn and sells it to food processors. In May, it will sign a contract with
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