(a)What is the authoritative literature addressing revenue recognition when right of return exists? If a transaction is within the scope of specific authoritative literature that provides revenue recognition guidance, that literature should be applied. However, in the absence of authoritative literature addressing a specific arrangement or a specific industry, the staff will consider the existing authoritative accounting standards as well as the broad revenue recognition criteria specified in the FASB’s conceptual framework that contain basic guidelines for revenue recognition.
Based on these guidelines, revenue should not be recognized until it is realized or realizable and earned. (FASB ASC 605-10-25-3; FASB ASC 605-10-25-5)Recognition and Measurement in Financial Statements of Business Enterprises, paragraph 83(b) states that “an entity’s revenue-earning activities involve delivering or producing goods, rendering services, or other activities that constitute its ongoing major or central operations, and revenues are considered to have been earned when the entity has substantially accomplished what it must do to be entitled to the benefits represented by the revenues”.
Paragraph 84(a) continues “the two conditions (being realized or realizable and being earned) are usually met by the time product or merchandise is delivered or services are rendered to customers, and revenues from manufacturing and selling activities and gains and losses from sales of other assets are commonly recognized at time of sale (usually meaning delivery)” In addition, paragraph 84(d) states that “If services are rendered or rights to use assets extend continuously over time (for example, interest or rent), reliable measures based on contractual prices established in advance are commonly available, and revenues may be recognized as earned as time passes. ” (b) What is meant by “right of return”?
Right of return(FASB ASC 605-15-05-3) option of purchaser to give goods back to the seller for full credit. The buyer’s right to return merchandise precludes revenue recognition by the seller at the time of sale unless all of the following conditions are met: (1) selling price is determinable; (2) buyer’s obligation to pay is not contingent on resale of the product; (3) buyer must pay for item if lost; (4) acquisition by buyer has economic substance; (5) future performance by seller is not required for resale by buyer; and (6) future returns may be reasonably estimated. If these conditions are not satisfied, revenue and related expenses must be deferred until the conditions are met or the right of return has expired.
c)When there is a right of return, what conditions must the company meet to recognize the revenue at the time of sale? Sales return and allowances In most industries are may not material ,so that companies typically record them at the time of the return or allowance. ( FASB ASC 605-15-25-1) In some industries, such as book publishing the right of return is common and the amounts may be material. In these case, credit ‘sales’ in one period may be followed by substantial returns in another. These factors create a revenue recognition issue for the selling company because sometimes it cannot make reliable estimates of ferred to the buyer. As a result, GAAP identifies criteria for recording sales revenue when the right of return exists.
For a seller to recognize revenue at the time of sale, each of the following criteria must be satisfied when the right of return exists. If they are not, then the seller must defer revenue recognition. (1) people need to know the price on which date they sell it. (2) the buyer has paid or will pay the seller, and the obligation is not contingent upon resale of the product. (3) the buyer’s obligation to the seller would not be changed by theft or damage to the product. (4) the buyer has an economic substance apart from the seller. (5) the seller does not have significant obligations to help the buyer sell the product. (6) the seller can reasonably estimate the amount of future returns.
If a company defers recognizing sales revenue and cost of goods sold because one or more of these conditions are not met, it records the sales revenue and cost of goods sold either when the return privilege expires or when the conditions are met, whichever occurs first. (d)What factors may impair the ability to make a reasonable estimate of future returns? Many factors will affect the ability to make a reasonable estimate of the amount of future returns (FASB 605-15-25-3 ) and every case may be has different circumstance. However, the following factors may impair the ability to make a reasonable estimate: a. The significant external factors of the products, such as technological obsolescence or changes in demand b. In a long periods, a particular product may be returned c.
Absence of historical experience with which products they had never sold, or they have less experience for sell it because of changing circumstances, for example, selling enterprise’s marketing policies or relationships with its customers has some changes. d. they are lack of a large number of relatively homogeneous transactions The existence of one or more of the above factors, in light of the significance of other factors, may not be sufficient to prevent making a reasonable estimate; likewise, other factors may preclude a reasonable estimate. (FASB ASC 605-15-25-4) When the right of return exists, company should recognize revenue at the time of sale on above circumstances. And some factors, such as changes in damages and long period, have the ability to reduce the possibility to do a reasonable estimate of future returns.
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What is the authoritative literature addressing revenue recognition when right of return exists?. (2016, Oct 02). Retrieved from https://graduateway.com/what-is-the-authoritative-literature-addressing-revenue-recognition-when-right-of-return-exists/