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Acct 351 Research Case-Spring 2019
Student's Name
Institutional Affiliation
Revenue recognition model
According to the Financial Accounting Standard Board’s conceptual framework, revenue refers to all inflows or other enhancements of assets and properties of an entity which are generated from the production of goods and services. On the other hand, revenue recognition model refers to the generally accepted accounting principles that precisely pinpoint the essential conditions how revenues of an entity should be managed and recognized (Financial Accounting Standard Board, 2017). Typically, many organizations recognize their revenues when certain transactions are performed, and the amount of cash used for exchange is measurable. Besides, revenue recognition starts when there is a legal contract between two people or groups agree to exchange for some services as well as payments are to be paid for the services.
In most cases, contracts between two parties usually contain one or more performance obligations in which both parties are entering into an agreement promise to abide by the binding set rules and guidelines (Alford. et al. 2011). Also, the party receiving the services has to promise to pay for the services as required by the set rules and guidelines. Typically, there are different types of contracts such as the sale of goods and services and associations contracts among others. In the case of Hawaii Fitness club, there is a legal agreement between the club and its members.
Identification of the contract
Hawaii Fitness Club has a legal deal with its members where the club provides fitness services to its members and members pay for these services. In this case, there is a written agreement which both parties follow when entering into a mutual contract (Financial Accounting Standard Board, 2017). In the case of Hawaii Fitness club, a legal agreement is signed by both parties to prove adherence to binding rules and regulations of the contract. For example, before willing members join the club, the management takes them through all requirements which members must fulfil. If a member feels comfortable with conditions, he or she must sign a legal form agreement stating his or her willingness to cooperate with the asserted rules and guidelines of the club.
Also, the contract specifies all rights and obligations of the club and its members. It states the responsibilities of the club towards offering standard services to its members as well as how members should respond by making their contribution as required (Financial Accounting Standard Board, 2017). Concerning, members of the club must pay the subscription fee as stated in the agreement. In Hawaii Fitness club, customers pay for membership fee the rights granted to shop and buy products of the club at discounted prices. The club has two-tiered membership plans for their customers. According to the company's method of revenue recognition, all revenues are recognized when customers commit to making payment by signing a binding written contract (American Institute of Certified Public Accountants, 2011). The agreement between Hawaii and its members does not have fixed duration because there are annual subscriptions where are mandated to pay their yearly contribution to the services provided by the entity. For instance, a new customer of the club is required to pay registration fees amounting to $ 150 for the first two years of joining the club. But members who have stayed in the club for more than two years pay annual registration fees of $ 50. The club does this to encourage their customers to wait for long as members of the club. Additionally, the club offers another package with members who have stayed for than ten years in the club not to pay any subscription as a means of encouraging them to remain members.
On the other hand, in the agreement between Hawaii and its members, there are consequences for parties who fail to meet their obligation as stated in the contract. As such, members of the club are required to make their payments at the right time as required by the law (American Institute of Certified Public Accountants, 2011). Similarly, the club should attempt to supply customers with all services stated in the contract within the possible time. As such if any of the parties fail to meet their obligations, then there is a price to pay to the other party. For instance, if members of the club fail to make their annual payments, they can either be deregistered or pay penalties for not meeting their obligations as required by the binding contract.
Also, the other important area that exists in the contract of the Hawaii Club and its members is that there is a combination of contracts. The latter implies that there are multiple contracts between the club and its members where members are mandated to make their annual contributions and also are entitled to refund if they are not impressed with services of the club (American Institute of Certified Public Accountants, 2011). This is the core element of identification of the contract that exists between the company and its members. Contract modification also subsists in the agreement between Hawaii Club and its members because the scope and guiding principles of the clubs vary with time and economic condition. For example, the club reduces membership annual subscription fees depending on a period of membership of their customers.
Identifying the performance obligations in the contract
Performance obligation refers to the state where one party in a contract promises to transfer specific quality services or quality of products which sustainably has the same arrangement of the transfer that the other party offer in the agreement. According to Accounting Standard Codification, this method is used to assess whether an entity is capable of meeting the obligations due to its members by providing to them the required services as stated in the contract (Sargent, 2013). The identification of performance process mainly pays more attention to the quality of services that business entities promise to provide to their customers. Correspondingly, Hawaii Club also applies the use of most appropriate methods of measuring performance obligation to ensure that they offer quality services that meet the needs of their customers as identified in the binding contract.
Moreover, the Hawaii club also has other unique features that make the contract with its customers more difficult. The principal versus elements between the club and its members creates performance obligation (Sargent, 2013). In this case, members of the club are the principal where they make annual contributions to the club (agent) to offer to provide them with services on return. Upon paying of yearly supplements, principals (members of the club) give the club (agent) the mandate to manage their financial resources to provide for the quality services and products that meet their needs.
Another unique feature in the contract between the Hawaii club and its members is the existence of promises in an agreement with customers (Sargent, 2013). Typically, guarantees in contracts with customers, the contract stipulates the services or products that an entity promises to provide to their customers. However, the services provided to their customers are not limited to what is stated in the written contract. As such the minimum services to be provided must be met by the company to satisfy the condition specified in the contract. In doing so, the business entity shall have finished its promise in the deal with customers. For example, in the Hawaii Club case, the club provides to its member all mandatory products and services that meet their needs as indicated in the written agreement.
Another important factor considered under-identification of the performance of a contract is distinct goods or services. Under this, the customer can enjoy all the products or services alone or with other resources available resources availed to them (Flood, 2017). In such a case, the distinct goods or services will help to meet all the needs of an entity's customers. Similarly, in the issue of Hawaii club, the identification of performance of the contract is clearly defined, and members of the club are allowed to enjoy all rights due to them as stipulated in the contract. Members of the club also have rights to enjoy additional services provided by the club to loyal customers. Some of the benefits the club offer to its members include low subscription fees for members who have been in the club for more than two years.
The entity that enters into a contract with customers must also promise to transfer the good and services that will be able to satisfy the needs of their customers (Flood, 2017). However, the services provided to customers should be separately identifiable from the promises in the written agreement.
Determining transaction price
According to the latest Financial Accounting Standards regulations, transaction price refers to the amount of consideration that an entity expects to receive compensation for goods and services provided (Sedki, Smith & Strickland, 2014). Further, the regulation stipulates that in the determination of transaction price, the management of the entity must take into consideration some essential factors. Some of these factors include variable consideration, non-cash consideration, time, the consideration payable to client and value of money. Usually, this step pays more attention to the computation of prices to charge on services offered to clients of the entity. According to the International Accounting Principles, contract charge refers to the total amount of consideration that a business entity is entitled to and anticipating to receive from the services offered to their clients (Financial Accounting Standard Board, 2017).
Likewise, Hawaii club also practices the determination of contract prices. The club has a specific amount of costs that their clients have to pay for services offered to them. In this case, the consideration price for the contract is annual subscriptions that members of the club pay to enjoy privileges and rights provided to them by the club. Concerning this case, the club's consideration of the contract varies because the management set annual subscription fees for their client. For example, $ 150 is charged for new clients, and $ 50 yearly subscription fees are charged for members how have stayed in the club for more than two years while members who have spent more than ten years in the club pay no subscription fees.
Variable consideration
The International Financial Reporting Standards stipulates that variable accounts arise in situations where there is rights of return or a valid expectation of one party (Sedki, Smith & Strickland, 2014). It also stipulates that it is always important to consider this element of revenue when an entity is setting the number of prices to charge for their services. In the case of Hawaii club, members expect the quality of services and products as a return of their contributions to the club. On the other hand, the club also anticipates annual subscriptions from members of the club who seek for their services and products. Usually, variable consideration is determined using two methods that are the expected value method which mainly based on the probability-weighted amounts. In this method, an entity makes a projection on the amount of money to anticipate based on the number of registered members of the group.
Allocation of prices to the performance obligations
In this step, the client of the business entity must receive the products or services provided to them at the transaction price stated in the contract. Nevertheless, there must be an appropriate method used like the contract (Savage, Cerf & Barra, 2013). Some of the commonly used methods are the adjusted market assessment approach, the residual approach and the expected cost plus margin measure approach. The management of the Hawaii club also considers all the aspects to ensure that the club meets all its roles and obligations as stipulated in the contract. The senior staff of the club provide quality services to their members as required by a written agreement.
Adjusted market assessment approach
In this approach, the service provider or the seller of the products must make a genuine consideration about the quality of services that are provided to their customers (Savage, Cerf & Barra, 2013). In doing so, they have to consider the number of prices charged by their competitors in the market they operate. Some of the main factors that must be regarded as are like market trends and quality of services of their competitors. Upon understanding the market trends, an entity may choose to use various strategies that enable it to achieve its goals.
In the case of Hawaii club, the management of the club has been during what they can to ensure that their client obtains quality services than those provided by their competitors. Also, the club offers specialized services to their members to reduce the number of members leaving the club. For instance, the club has as low as $ 150 registration fees for new members and $ 50 subscription fees for members who have stayed in the club for more than two years. The club does this to encourage new clients as well as to keep registered members of the club.
Expected cost plus margin approach
Under this approach, the service providers make their estimates on cost that will satisfy the performance obligation after adding an appropriate profit margin. In this case, the services providers or sellers only consider the only price charged by their competitors and market trends. If their competitor charges low prices for their services, the entity will also, charge relatively low rates (Ernst & Young, 2015). However, the cost must be able to generate to the business entity a reasonable profit that would enable it to run all its business activities more efficiently. Hawaii club also considers this approach because its relatively low prices on its services to its customers to ensure that the entity retains its current members. However, the amount charged is always able to satisfy the performance obligations of their client and also an appropriate profit margin.
Residual approach
According to the international accounting standards, in this approach, the sellers estimate highly uncertain stand-alone prices to charge on their products and services by subtracting the total amount of the known independent selling prices of other products or services in the agreement for the sum amount of transaction price of the initial contract. Usually, the residual approach is permitted in such conditions when the stand-alone charges are highly uncertain not just because services provider has not previously provided the services (McNellis, 2017). The approach is mainly designed to ensure that services providers make reasonable profits that can enable then run their business activities as stated in the contract.
Hawaii club also uses this approach when providing its services to its clients. The club usually sets its prices based on the ability to meet all requirements and performance obligations stated in the initial signed contract. Under such condition, the club also came with a strategy to retain their clients by setting low annual subscription fees for existing members of the club to encourage them to stay for an undefined period as members of the club (McNellis, 2017). For example, the club charges a low subscription price of $ 50 for existing members who have stayed in the club for a period between two and five years as members of the club. Also, the club charges no subscription fees to members of who have stayed in the club for more than five years. Nevertheless, even if the club charges such low costs, it has to ensure that the prices charged are reasonable to enable it to run its activities to meet performance obligations as required by the contract.
Recognize revenue when each performance obligations is satisfied
The approach mainly concentrates on revenue recognition. According to this approach, business entities should always account for profits and loss they realized during their activities only after meeting all performance obligations as stated in the contract (Gross, McCarthy & Shelmon, 2010). Also, there are some essential regulatory conditions that those entities must adhere to ensure that their operation is legally permitted. In most cases, business entities fulfil the needs of this requirement to prevent any penalties that may arise due to failure to meet statutory requirements of the regulatory bodies (Gross, McCarthy & Shelmon, 2010). For instance, in Hawaii club, the management of the club has to meet statutory obligations such as licensing to ensure that the regulatory bodies do not terminate their operation that may result into the breach of the contract signed with their members. Also, the company provides quality services that meets performance obligations and expectations of its members to ensure that the club has a going concern.
Conclusively, revenue recognition involves various essential steps that should be considered by all business entities as required by the Financial Accounting Standard Board. The board provides a framework on how bodies should recognize their revenues (Gross, McCarthy & Shelmon, 2010). In doing so, business entities must ensure that their reporting styles and methods conform to the regulations set by the Accounting Standard Board. Identification of the contract is the first step where a legal binding contract must be signed to define the nature of the relationship between the parties agreeing. Secondly, identification of the performance obligation in the deal is another step which concerns with the fulfilment of the elements of the contract.
Additionally, is determining transaction prices which is the focal point of the contract. It consists of variable consideration which ensures that services provide meet performance obligations of the agreement. Lastly, the allocation of prices to the performance obligations and recognizing revenue when each performance obligations are satisfied are also essential features in revenue recognition.
References
Alford, R. M., DiMattia, T. M., Hill, N. T., & Stevens, K. T. (2011). A series of revenue recognition research cases using the codification. Issues in Accounting Education Teaching Notes, 26(3), 64-76.
American Institute of Certified Public Accountants, (2011). General accounting and auditing developments.
Ernst & Young. (2015). International GAAP: Generally accepted accounting practice under international financial reporting standards. London: LexisNexis.
Financial Accounting Standard Board, (2017) Revenue from Contracts with Customers Retrieved from https://asc.fasb.org/section&trid=49130394
Flood, J. M. (2017). Wiley Revenue Recognition Plus Website: Understanding and Implementing the New Standard.
Gross, M. J., McCarthy, J. H., & Shelmon, N. E. (2010). Financial and accounting guide for not-for-profit organizations. Hoboken, N.J: Wiley.
McNellis, C. J. (2017). Dynamic divestitures: A codification exercise on the reporting of discontinued operations. Issues in Accounting Education, 33(1), 53-63.
Sargent, C. S. (2013). Find it, fix it, and thrive The impact of insisting on proficiency in prerequisite knowledge in intermediate accounting. Issues in Accounting Education, 28(3), 581-597.
Savage, A., Cerf, D. C., & Barra, R. A. (2013). Accounting for the public interest: A revenue recognition dilemma. Issues in Accounting Education, 28(3), 691-703.
Sedki, S. S., Smith, A., & Strickland, A. (2014). Differences and similarities between IFRS and GAAP on inventory, revenue recognition and consolidated financial statements. Journal of Accounting and Finance, 14(2), 120.
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