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Deferred Revenue

Forums › Ask ACCA Tutor Forums › Ask the Tutor ACCA FR Exams › Deferred Revenue

  • This topic has 2 replies, 2 voices, and was last updated 8 years ago by MikeLittle.
Viewing 3 posts - 1 through 3 (of 3 total)
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  • April 17, 2017 at 5:51 pm #382204
    syfar42
    Member
    • Topics: 61
    • Replies: 22
    • ☆☆

    Is deferred revenue an actual liability? Like, what I mean is that I know it is income received in advance and we have not yet delivered the services.
    But we don’t have to pay any amount to the customer or supplier right?

    Because lets suppose, we take an overdraft from a bank
    There is interest charge on it and we haven’t paid it…so we will record that as liability since there will be cash outflow

    but in Deferred revenue, there is no actual cash outflow to the other party..
    so…is it really a liability?

    Why I ask this is because, in quick ratio, if a major portion of current liabilities is made up of deferred revenue, then quick ratio would be very low but infact, the company could still pay off its current liabilities

    April 17, 2017 at 5:56 pm #382208
    syfar42
    Member
    • Topics: 61
    • Replies: 22
    • ☆☆

    I have one more similar question relating to above..

    In what circumstances will a current ratio below 2:1 and a quick ratio below 1:1 would be acceptable?

    April 18, 2017 at 7:18 am #382285
    MikeLittle
    Keymaster
    • Topics: 27
    • Replies: 23315
    • ☆☆☆☆☆

    Just because revenue is deferred does not necessarily mean that cash has been received

    Consider this:

    we invoice for $10,000 of which $8,000 is deferred

    Step 1, record the invoice:

    Dr Receivables 10,000
    Cr Revenue 2,000
    Cr Deferred revenue 8,000

    There’s no money changed hands in this situation

    Yes, it’s a liability to perform services in the future and, when we do, an appropriate part of that deferred revenue will be recognised:

    Dr Deferred revenue 1,500
    Cr Revenue 1,500

    And, possibly, still no money has changed hands

    The settlement of the debt by our receivable is by:

    Dr Cash 4,250
    Cr Receivables 4,250

    So the recognition of revenue and the treatment of deferred revenue are separate and distinct from the receipt and recording of cash

    OK?

    NB all figures above are made up and don’t relate to any question in the OT material

    You ask “In what circumstances will a current ratio below 2:1 and a quick ratio below 1:1 would be acceptable?”

    When I used to run my own training firm I held very little inventory at the year end and very few debts were outstanding because al my clients were accountancy firms or companies of good repute and they all paid very promptly

    Just before the year end I bought a car on credit and couldn’t pay for it until 4 months later when the money held in a bank deposit would be released

    I had few current assets and a greater value of current liabilities so I had a current ratio of less than 2:1 in fact, it was less than 1:1!

    The answer to your question depends upon what is ‘normal’ in that business, what is the board’s strategy, what is the nature of the business

    Where you are a market trader buying fruit and vegetables from the wholesaler on 6 weeks’ credit and selling those purchases every day for cash, you have the interest free use of 6 weeks’ worth of sales revenue to spend as and where you wish

    On day 43 (6 weeks and 1 day) you use the sale proceeds to pay the debt from day 1 and so on

    So you have 6 weeks current liabilities, a tiny amount of inventory and receivables and you’ve spent your cash buying a new car. Your quick ratio is negative (say .7:1)

    OK?

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