Question 1

The Jolly Company makes sales on an installment basis. In 2016, it sells items with a cost of $120 million. The total sales price is $125 million. Ignoring interest payments, customers pay in five equal installments, of $25 million each, with one payment in each of 2016, 2017, 2018, 2019, and 2020. If the company uses the cost recovery method of accounting for this sale, the gross profit it will recognize in 2020, the year the last installment is received is
A) Zero
B) $1 million
C) $5 million
D) $25 million

Accepted Answer

Under the cost recovery method, profit is recognized only after the cost of the sold goods is fully recovered. The cost of goods sold is $120 million, and the total sales price is $125 million, resulting in a total gross profit of $5 million. By 2020, after all installments are paid, the company will have recovered its costs and will recognize the total gross profit of $5 million.

Question 2

The Jolly Company makes sales on an installment basis. In 2016, it sells items with a cost of $120 million. The total sales price is $125 million. Ignoring interest payments, customers pay in five equal installments, of $25 million each, with one payment in each of 2016, 2017, 2018, 2019, and 2020. If the company uses the cost recovery method of accounting for this sale, the gross profit it will recognize in 2016 is
A) Zero
B) $1 million
C) $5 million
D) $25 million

Accepted Answer

Under the cost recovery method, a company does not recognize any profit until the costs of the goods sold are fully recovered. In this case, the company's cost is $120 million, and since the payments are made in equal installments of $25 million each, the company will not recognize any profit in 2016 because the first payment of $25 million does not exceed the cost of the goods sold.

Question 3

The Jones Company makes sales on an installment basis. In 2016, it sells items with a cost of $20 million. The total sales price is $25 million. Ignoring interest payments, customers pay in five equal installments, of $5 million each, with one payment in each of 2016, 2017, 2018, 2019, and 2020. If the company uses the installment method of accounting for this sale, the gross profit it will recognize in 2020, the year the last installment payment is received, is
A) Zero
B) $1 million
C) $5 million
D) $25 million

Accepted Answer

Under the installment method, profit is recognized as cash is collected. The gross profit percentage is 20% ($5 million gross profit on $25 million sales). Each $5 million payment in 2020 would thus include $1 million of gross profit (20% of $5 million).

Question 4

The Jones Company makes sales on an installment basis. In 2016, it sells items with a cost of $20 million. The total sales price is $25 million. Ignoring interest payments, customers pay in five equal installments, of $5 million each, with one payment in each of 2016, 2017, 2018, 2019, and 2020. If the company uses the installment method of accounting for this sale, the gross profit it will recognize in 2016 is
A) Zero
B) $1 million
C) $5 million
D) $25 million

Accepted Answer

Under the installment method, profit is recognized as cash is collected. The gross profit percentage is calculated as total gross profit divided by total sales price, which is ($25 million - $20 million) / $25 million = 20%. In 2016, the company receives $5 million, so the gross profit recognized is 20% of $5 million = $1 million.

Question 5

Which of the following is not one of the revenue recognition methods used in the situation where a company makes a single sale, and has agreed to receive payments in installments over time?
A) Percentage of completion
B) Cost recovery
C) Installment
D) Immediate recognition

Accepted Answer

Percentage of completion is a revenue recognition method primarily used for long-term contracts, such as construction projects, rather than for sales that are paid in installments over time.

Question 6

On November 20, Routledge Publishing prints 4,000 copies of an accounting textbook. In December, Routledge Publishing ships 1,000 copies to various bookstores, who have the right to return the books if they can't sell them within three months. Historically, the bookstores typically return 4% of the books. Under GAAP, what is the correct accounting for these events?
A) Routledge should record revenues related to 4,000 books in November, when it prints them.
B) Routledge should record revenues in December for 1,000 books, and an allowance for sales returns of 4% of the sales.
C) Routledge should record revenues in December for 1,000 books, and wait until later to record any sales returns.
D) Routledge should wait until after the three-month return period before recording any revenues.

Accepted Answer

Under GAAP, revenue should be recognized when the product is shipped or delivered, which in this case is in December for the 1,000 copies sent to the bookstores. However, since the bookstores have the right to return unsold books, Routledge should also record an allowance for sales returns based on the historical return rate of 4%. This means that they should estimate that 4% of the 1,000 copies shipped to bookstores will be returned and adjust their revenue accordingly. Waiting to record sales returns until later would not follow the matching principle of GAAP, which requires that expenses and revenues be recognized in the same period. Waiting until after the three-month return period to record revenue would also not accurately reflect the company's financial position during the period in which the books were sold.

Question 7

Which of the following statements about the SEC's criteria for revenue recognition is incorrect?
A) Normally, collectability needs to be reasonably assured.
B) The seller's price must be fixed or determinable.
C) Delivery of goods or services must have occurred.
D) There must be a written, signed contract as evidence of an agreement between the buyer and seller.

Accepted Answer

Although a written, signed contract can be helpful in demonstrating an agreement between the buyer and seller, it is not always required for revenue recognition. The other three criteria (collectability, fixed/determinable price, and delivery) are generally considered more important in determining when revenue should be recognized.

Question 8

Under GAAP rules, a company would not be able to recognize revenue at the time it delivered a product to the customer if
A) It was unable to estimate the likelihood of the product being returned.
B) It had not yet been paid, but felt it could estimate the likelihood of bad debts.
C) It had an obligation to fix the product if it broke, and felt it could estimate the likelihood of having to pay warranty costs.
D) It was being paid in installments.

Accepted Answer

Revenue recognition under GAAP requires that the seller is reasonably sure they will be paid for the goods or services provided. If a company cannot estimate the likelihood of product returns, it introduces significant uncertainty about the realizable revenue, thus preventing revenue recognition at the time of delivery.

Question 9

Under GAAP, tax expense is always computed on a cash basis.

Accepted Answer

Under GAAP, tax expense is calculated using the tax laws and regulations, which may not necessarily be on a cash basis. The tax laws may permit certain deductions and allowances that are not recognized on a cash basis. Therefore, tax expense may be calculated on an accrual basis or a modified cash basis, depending on the specific tax laws and regulations being applied.

Question 10

If a company owns a machine for its entire expected useful life, it will have the same total depreciation expense over the asset's life if it uses the double declining balance method and if it uses the straight-line method.

Accepted Answer

Regardless of the depreciation method used (straight-line or double declining balance), the total depreciation expense over the asset's life will be the same because both methods will allocate the asset's cost minus its salvage value over its useful life. The difference lies in the timing and pattern of expense recognition, not the total amount depreciated.

Question 11

If a company owns a truck for five years, it will have higher depreciation expense every year it owns the truck if it uses the double declining balance method than if it uses the straight-line method.

Accepted Answer

The double declining balance method results in higher depreciation expense in the initial years, but the expense decreases each year, whereas the straight-line method spreads the cost evenly over the asset's useful life, resulting in a constant annual expense.

Question 12

The formula for computing annual depreciation expense using the double declining balance method includes the cost of the asset, its salvage value, and the expected useful life of the asset.

Accepted Answer

The double declining balance method does not directly use the salvage value in the calculation of the annual depreciation expense; it primarily uses the book value at the beginning of the period multiplied by a double rate of the straight-line method. The salvage value is considered indirectly, as depreciation is not calculated once the book value reaches the salvage value.

Question 13

The formula for computing annual depreciation expense using the double declining balance method includes the cost of the asset and the expected useful life of the asset, but not the salvage value.

Accepted Answer

The double declining balance method of depreciation does not consider salvage value in calculating annual depreciation expense.

Question 14

The formula for computing annual depreciation expense using the straight-line method includes only the cost of the asset and its expected useful life.

Accepted Answer

The formula for computing annual depreciation expense using the straight-line method includes the cost of the asset, its expected useful life, and its salvage value.

Question 15

The formula for computing annual depreciation expense using the straight-line method includes the cost of the asset, its salvage value, and its expected useful life.

Accepted Answer

This statement is true. The formula for annual depreciation expense using the straight-line method is (Cost of asset - Salvage value) / Expected useful life.

Question 16

According to the FASB, at any time, the cost minus the accumulated depreciation of a company's machinery will usually equal its net realizable value.

Accepted Answer

The FASB does not have a specific rule stating that the cost minus accumulated depreciation of machinery will usually equal its net realizable value. These values may be related, but they are not necessarily equal.

Question 17

Most companies compute depletion on natural resources (such as oil wells) using the units of production method.

Accepted Answer

The units of production method is the most commonly used method for computing depletion, which is the allocation of the cost of natural resources over the period of their extraction or use. This method calculates depletion by dividing the total cost of the resource by its estimated total recoverable units (such as barrels of oil) and then multiplying that unit depletion rate by the actual units extracted or used during each period.

Question 18

Most companies compute depletion on natural resources (such as oil wells) using the double declining balance method.

Accepted Answer

Most companies compute depletion on natural resources using the units-of-production method, where the depletion rate is based on the amount of resource extracted each period. The double declining balance method is a method of depreciation, not depletion.

Question 19

The method of depreciation that most companies use for tax purposes results in lower income in the early years of an asset's life than would be computed if the company used straight-line depreciation.

Accepted Answer

This is true because the method of depreciation that most companies use for tax purposes is called Accelerated Depreciation, which allows for larger depreciation expenses in the earlier years of an asset's life and smaller ones in the later years. This results in lower taxable income in the early years, which helps to reduce a company's tax liability. Straight-line depreciation, on the other hand, spreads the depreciation expense evenly over the useful life of the asset, resulting in a higher taxable income in the early years.

Question 20

If a company has been operating for many years, it is sometimes true that it would report higher income in a year if it used the double declining balance depreciation method than if it used the straight-line method.

Accepted Answer

The double declining balance method front-loads depreciation expenses in the earlier years of an asset's useful life, which can result in a higher amount of depreciation being taken in the first years of an asset's life. This can lead to lower taxable income and higher reported profits. The straight-line method, on the other hand, spreads depreciation expenses equally over the useful life of the asset, resulting in lower depreciation expenses and potentially higher taxable income. However, this may not always be the case and depends on various factors such as the asset's useful life, salvage value, and tax laws.

Quiz 9: Setting up New Team Members

Which of the following is not one of the revenue recognition methods used in the situation where a company makes a single sale, and has agreed to receive payments in installments over time?

Which of the following statements about the SEC's criteria for revenue recognition is incorrect?

Under GAAP rules, a company would not be able to recognize revenue at the time it delivered a product to the customer if