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Hi tutor,
Got some confusions on deferred revenue calculation. The statement is :
On 1 October 2011, Quincy sold one of its products for $10 million (included in revenue in the trial balance). As part of the sale agreement, Quincy is committed to the ongoing servicing of this product until 30 September 2014 (i.e. three years from the date of sale). The value of this service has been included in the selling price of $10 million. The estimated cost to Quincy of the servicing is $600,000 per annum and Quincy’s normal gross profit margin on this type of servicing is 25%. The service performance obligation will be satisfied over time. Ignore discounting.
we have to compute for Sept 2012.
A. I just wonder why does the amount of 1.6M ( 600 x 2 years / 75%) is deducted from revenue? My computation is deduct the whole 10M.
B. Why only revenue account was adjusted and not adjust also the cost of sales?
Your response will be of great help. Thanks in advance,
Sir, I already understand my concern # 1. It is only 1,600 which is deducted because the whole 10m includes revenue from the normal operation and that only 600 as annual cost of servicing which is an ongoing obligation hence not yet earned as revenue. This is why 800 was recorded as current deferred revenue and another 800 as noncurrent deferred revenue.
Just help me understand better why does the 600 x 2 years not deducted from cost of sales? Can we assume in the problem that only revenue account is affected since there was no note under cost of sales in the trial balance?
Hi,
Glad you figured out the first issue. The second one requires no adjustment as we aren’t told that they’ve done anything incorrect. Unless we are told they have done something incorrectly then the assumption is that it has been done correctly. Therefore the cost of the service for the current year must already have been recognised within cost of sales already.
Sorry for the delayed response, it’s been a busy few weeks.
Thanks
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