Revenue recognition when right of return exists. Summary of Statement No. 48 2022-12-10
Revenue recognition when right of return exists Rating:
Revenue recognition is a critical concept in accounting that refers to the process of recognizing revenue on the income statement when it is earned, regardless of when it is received. This is important because it helps to accurately depict the financial performance of a company and provide stakeholders with a clear picture of its financial health. However, there are certain circumstances where the right of return exists, which can complicate the process of revenue recognition.
The right of return refers to the ability of a customer to return a product for a full or partial refund. This is often included in sales contracts as a way to protect the customer and ensure that they are satisfied with their purchase. While the right of return can be beneficial for customers, it can also create challenges for companies when it comes to revenue recognition.
One of the main challenges with revenue recognition when the right of return exists is determining the amount of revenue that should be recognized. This is because the company may not know for certain how many products will be returned, and therefore cannot accurately determine the amount of revenue that will ultimately be earned. To address this issue, companies often use estimates to determine the expected level of returns and adjust their revenue recognition accordingly.
For example, let's say a company sells a product for $100 with a 10% right of return. The company may recognize $90 of revenue at the time of sale, with the remaining $10 being recognized as a liability. If the company expects that 10% of products will be returned, it would recognize $9 of revenue and $1 of liability at the time of sale. If fewer products are returned than expected, the company can adjust its revenue recognition accordingly.
Another challenge with revenue recognition when the right of return exists is timing. If a customer returns a product after the revenue has already been recognized, the company will need to reverse the recognition and recognize the returned amount as a reduction in revenue. This can create fluctuations in revenue and make it more difficult to accurately depict the financial performance of the company.
In conclusion, revenue recognition when the right of return exists can be challenging, as it requires companies to make estimates and adjustments to their revenue recognition in order to accurately depict the financial performance of the company. It is important for companies to carefully consider the right of return and its impact on revenue recognition in order to provide stakeholders with accurate financial information.
Revenue recognition when right of return exists. (1981 edition)
While the revenue standard requires contract assets and contract liabilities arising from the same contract to be offset and presented as a single asset or liability, it does not provide presentation guidance for refund liabilities. Implied rights can arise from statements or promises made to customers during the sales process, statutory requirements, or a reporting entity's customary business practice. The refund liability is remeasured at each reporting date to reflect changes in the estimate of returns, with a corresponding adjustment to revenue. In some instances, the asset could be immediately impaired if the reporting entity expects that the returned goods will have diminished or no value at the time of return. Examples: - Some firms act as intermediaries and earn fees on deals they facilitate but record full amount of transactions as revenues.
Revenue Recognition When Right of Return Exists Perspective and Issues
FAS 48, Revenue Recognition When Right of Return Exists, reduced the diversity in the accounting for revenue recognition when such rights exist. Understanding the rights and obligations of both parties in an arrangement when return rights exist is critical to determining the accounting. Buybacks: has transferred title legally, but seller retains risks of ownership, so no sale should be recorded. An accounting issue arises when the recognition of revenue occurs in one period while substantial returns occur in later periods. The estimate should reflect the amount that the reporting entity expects to repay or credit customers, using either the expected value method or the most-likely amount method, whichever management determines will better predict the amount of consideration to which it will be entitled. In such a case, the seller can recognize profit and remove merchandise from its inventory. As a result, the restocking fee should be included in the transaction price and recognized when control of the goods transfers to the customer.
Completed: recognized upon completion. For example, if at inception of the contract Producer estimates that including 70% of its sales in the transaction price will not result in a significant reversal of cumulative revenue, Producer would record revenue for that 70%. In fact, certain industries have found it necessary to defer revenue recognition until the return privilege has substantially expired. However, for companies that experience a high ratio of returned merchandise to sales, the recognition of the original sale as revenue is questionable. Used when amount to be collected can't be estimated. Common sources of revenue and point at which recognition occurs: - Sales of products: recg. Producer has no further obligations with respect to the products and distributors have no further return rights after the 120-day period.
How to recognize revenue when rights of return are present
The company issued a three-month return policy to its distributors. Producer needs to assess, based on its historical information and other relevant evidence, if there is a minimum level of sales for which it is probable there will be no significant reversal of cumulative revenue, as revenue needs to be recorded for those sales. Revenue Recognition When Right of Return Exists Perspective and Issues In some industries it is common practice for customers to have the right to return a product to the seller for a credit or refund. Sometimes the return privilege expires soon after the sale, as in the newspaper and perishable food industries. Guarantees for return of unsold merchandise to increase overall sales should report sales less an allowance for estimated returns IF: - Sale price is fixed or determinable. Uses Work in Process account to record in-progress activity. These costs can include shipping fees, quality control re-inspection costs, and repackaging costs.
Each member firm is a separate legal entity. Many reporting entities offer their customers a right to return products they purchase. Game Co has no further obligations after transferring control of the video games. Revenue should be recorded over time, not at inception of contract. Costs of Construction: Same Progress Billings: Same Collections: Same Gross Profit 1. Restocking fees may also be charged to discourage returns or to compensate a reporting entity for the reduced selling price that a reporting entity will charge other customers for a returned product. Game Co estimates, based on the expected value method, that 6% of sales of the video games will be returned and it is probable that returns will not be higher than 6%.
Gains or losses on disposition of noninventory assets: as of the date of sale. Therefore, refund liabilities do not meet the definition of a contract liability. If those conditions are not met, revenue recognition is postponed; if they are met, sales revenue and cost of sales reported in the income statement shall be reduced to reflect estimated returns and expected costs or losses shall be accrued. For goods that are expected to be returned, the amount the reporting entity expects to repay its customers that is, the estimated refund liability is the consideration paid for the goods less the restocking fee. In other cases, the return privilege may last over an extended period of time, as in magazine and textbook publishing and equipment manufacturing. In June 20X2, the company developed a new product called GreenAndroMow.
The rate of return normally is directly related to the length of the return privilege. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Recognizes profit as cash is collected not at point of sale. GP rate computed based on year's installment sales. Sales of products: as of date of sale or delivery to customers.