2nd Year – English Section

Accounting department
2024
 Revenue Recognition

Revenue recognition principle indicates that companies should recognize

revenue when (1) it is realized or realizable, and (2) it is earned.

• Revenues are realized when a company exchanges goods and

services for cash or claims to receive cash (receivables).

• Revenues are realizable when assets a company receives in

exchange are readily convertible to cash.

• Revenues are earned when a company has substantially

accomplished what it must do to be entitled to the revenues—that
is, when the earnings process is complete.

The general rule of revenue recognition is to recognize the revenue

at the point of sale (delivery) of product or rendering a service.

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 but

In some cases, companies may In some cases, companies may

delay recognition of the revenue recognize the revenue earlier than
beyond the time of sale. (before) the time of sale.

Delayed recognition is Earlier recognition is appropriate

appropriate if there is a high if there is a high degree of
degree of uncertainty concerning certainty about the amount of
the amount of revenue earned. revenue earned.

Installment sales Long-term contracts

method is an example of earlier

is an example of delayed recognition

recognition Revenue recognition before

Revenue recognition after delivery

delivery

In this chapter, we will discuss the accounting treatment for the

following:

1. Installment sales method.

2. Long-term contracts (percentage of completion method).

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Installment sales generally include any type of sales for which payment is
required in periodic installments over an extended period.

Under the installment-sales method, companies defer income

recognition until the period of cash collection. They recognize both
revenues and costs of sales in the period of sale but defer the related
gross profit to those periods in which they collect the cash.

Instead of deferring the sale revenue, along with related

costs, to the future periods of collection, the company
defers only the recognition of gross profit. This approach is
equivalent to deferring both sales and cost.

How to record the installment sales transactions?????

Recording installment sales: (by selling price)

1 Accounts Dr. Cr.
Installment accounts receivable (A/R) ××
Installment sales ××

Recording cost of goods sold on installment:

2 Accounts Dr. Cr.

Cost of installment sales ××
Inventory ××

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Closing installment sales and cost of installment sales:

3 Accounts Dr. Cr.

Installment sales ××
Cost of installment sales ××
Deferred gross profit (complementary) ××

Recording cash collected from installment receivables:

4 Accounts Dr. Cr.
Cash ××
Installment accounts receivable ××

Recording realized gross profit:

5 Accounts Dr. Cr.
Deferred gross profit ××
Realized gross profit ××

Realized gross profit = gross profit ratio × cash collected

deferred gross profit

Gross profit ratio =
Installment sales

Closing realized gross profit:

Accounts Dr. Cr.
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Realized gross profit ××
Income summary ××

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Statement of financial position Income statement

Current assets:
Realized gross profit ××
Installment A/R ××

Current liabilities:
Deferred gross profit ××

Installment A/R balance:

Beginning balance ××
+ Installment sales during the year (entry 1) ××
– Cash receipts during the year (entry 4) (××)
××

Deferred gross profit balance:

Beginning balance ××
+ Recorded deferred gross profit (entry 3) ××
– Realized gross profit (entry 5) (××)
××

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Gross profit realized on installment sales is disclosed in the income
statement as follows:

Sales revenue (in cash) ××

- Cost of goods sold (in cash) (××)
Gross profit ××
Gross profit realized on installment sales ××
Total gross profit ××

Example 1:
Have the following data about installment sales during 2020, 2021, and
2022:

2020 2021 2022

Installment sales 200,000 250,000 300,000

Cost of installment sales 150,000 200,000 210,000
Cash receipts
▪ From 2020 sales 80,000 100,000 20,000
▪ From 2021 sales ----- 100,000 100,000
▪ From 2022 sales ----- ----- 150,000

Required:
1) Prepare journal entries to record the previous transactions.
2) Determine the effect of the previous transactions on the
statement of financial position and income statement at the end
of each year.

Solution

Firstly, calculate the gross profit ratio:

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 2020 2021 2022

Installment sales 200,000 250,000 300,000

÷ - Cost of installment sales (150,000) (200,000) (210,000)

Gross profit 50,000 50,000 90,000

Gross profit ratio 25% 20% 30%

Journal entries in 2020:

Recording installment sales:

1 Accounts Dr. Cr.

Installment A/R 200,000
Installment sales 200,000

Recording cost of goods sold on installment:

2 Accounts Dr. Cr.
Cost of installment sales 150,000
Inventory 150,000

Closing installment sales and cost of installment sales:

3 Accounts Dr. Cr.
Installment sales 200,000
Cost of installment sales 150,000
Deferred gross profit 50,000

Recording cash collected from installment receivables:

4 Accounts Dr. Cr.
Cash 80,000
Installment A/R 80,000

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Recording realized gross profit:
5 Accounts Dr. Cr.
Deferred gross profit 20,000
Realized gross profit 20,000

Realized gross profit = gross profit ratio × cash collected

From 2020 ➔ 25% × 80,000 = 20,000

Closing realized gross profit:

6 Accounts Dr. Cr.
Realized gross profit 20,000
Income summary 20,000

The effect on financial statements:

Statement of financial position on Income statement for year

31/12/2020 ended on 31/12/2020

Current assets:
Realized gross 20,000
Installment A/R 120,000
profit

Current liabilities:
Deferred gross profit 30,000

Installment A/R balance:

Beginning balance ----
+ Installment sales during 2020 (entry 1) 200,000
– Cash receipts during 2020 (entry 4) (80,000)
120,000

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Deferred gross profit balance:
Beginning balance ----
+ Deferred gross profit (entry 3) 50,000
– Realized gross profit (entry 5) (20,000)
30,000

Journal entries in 2021:

Recording installment sales:

1 Accounts Dr. Cr.

Installment A/R 250,000
Installment sales 250,000

Recording cost of goods sold on installment:

2 Accounts Dr. Cr.
Cost of installment sales 200,000
Inventory 200,000

Closing installment sales and cost of installment sales:

3 Accounts Dr. Cr.
Installment sales 250,000
Cost of installment sales 200,000
Deferred gross profit 50,000

Recording cash collected from installment receivables:

4 Accounts Dr. Cr.
Cash 200,000
Installment A/R 200,000

100,000 (from 2020 sales) + 100,000 (from 2021 sales)

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Recording realized gross profit:
5 Accounts Dr. Cr.
Deferred gross profit 45,000
Realized gross profit 45,000

Realized gross profit = gross profit ratio × cash collected

From 2020 sales ➔ 25% × 100,000 = 25,000
From 2021 sales ➔ 20% × 100,000 = 20,000
-----------
45,000

Closing realized gross profit:

6 Accounts Dr. Cr.
Realized gross profit 45,000
Income summary 45,000

The effect on financial statements:

Statement of financial position on Income statement for year

31/12/2021 ended on 31/12/2021

Current assets:
Realized gross 45,000
Installment A/R 170,000
profit

Current liabilities:
Deferred gross profit 35,000

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Installment A/R balance:
Beginning balance (2020 ending balance) 120,000
+ Installment sales during 2021 (entry 1) 250,000
– Cash receipts during 2021 (entry 4) (200,000)
170,000

Deferred gross profit balance:

Beginning balance (2020 ending balance) 30,000
+ Deferred gross profit (entry 3) 50,000
– Realized gross profit (entry 5) (45,000)
35,000

Journal entries in 2022:

Recording installment sales:

1 Accounts Dr. Cr.

Installment A/R 300,000
Installment sales 300,000

Recording cost of goods sold on installment:

2 Accounts Dr. Cr.
Cost of installment sales 210,000
Inventory 210,000

Closing installment sales and cost of installment sales:

3 Accounts Dr. Cr.
Installment sales 300,000
Cost of installment sales 210,000
Deferred gross profit 90,000

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Recording cash collected from installment receivables:
4 Accounts Dr. Cr.
Cash 270,000
Installment A/R 270,000

20,000 (2020) + 100,000 (2021) + 150,000 (2022)

Recording realized gross profit:

5 Accounts Dr. Cr.
Deferred gross profit 70,000
Realized gross profit 70,000

Realized gross profit = gross profit ratio × cash collected

From 2020 sales ➔ 25% × 20,000 = 5,000
From 2021 sales ➔ 20% × 100,000 = 20,000
From 2022 sales ➔ 30% × 150,000 = 45,000
-----------
70,000

Closing realized gross profit:

6 Accounts Dr. Cr.
Realized gross profit 70,000
Income summary 70,000

The effect on financial statements:

Statement of financial position on Income statement for year

31/12/2022 ended on 31/12/2022

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 Current assets:
Realized gross 70,000
Installment A/R 200,000
profit

Current liabilities:
Deferred gross profit 55,000

Installment A/R balance:

Beginning balance (2021 ending balance) 170,000
+ Installment sales during 2022 (entry 1) 300,000
– Cash receipts during 2022 (entry 4) (270,000)
200,000

Deferred gross profit balance:

Beginning balance (2021 ending balance) 35,000
+ Deferred gross profit (entry 3) 90,000
– Realized gross profit (entry 5) (70,000)
55,000

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Example 2:
Given the following balances as presented in the statement of financial
position at the end of 2022:

• Installment A/R: 500,000.

• Deferred gross profit: 100,000.
• Gross profit ratio: 20%

During 2023 the company sold goods on installment basis for 800,000
knowing that the cost of installment sales was 600,000. In addition, the
cash collections during 2023 were 300,000 from installment sales of
2022 and 400,000 from installment sales of 2023.

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 Required: Prepare necessary journal entries and determine the effect
of the previous transactions on the statement of financial position at
the end of 2023 and income statement for year ended on 31/12/2023.

Solution

Recording installment sales:

1 Accounts Dr. Cr.

Installment A/R 800,000
Installment sales 800,000

Recording cost of goods sold on installment:

2 Accounts Dr. Cr.
Cost of installment sales 600,000
Inventory 600,000

Closing installment sales and cost of installment sales:

3 Accounts Dr. Cr.
Installment sales 800,000
Cost of installment sales 600,000 ÷
Deferred gross profit 200,000

Gross profit ratio (2023) = gross profit ÷ sales

= 200,000 ÷ 800,000 = 25%

Recording cash collected from installment receivables:

4 Accounts Dr. Cr.
Cash 700,000
Installment A/R 700,000

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Recording realized gross profit:
5 Accounts Dr. Cr.
Deferred gross profit 160,000
Realized gross profit 160,000

Realized gross profit = gross profit ratio × cash collected

From 2022 sales ➔ 20% × 300,000 = 60,000
From 2023 sales ➔ 25% × 400,000 = 100,000
-----------
160,000

Closing realized gross profit:

6 Accounts Dr. Cr.
Realized gross profit 160,000
Income summary 160,000

The effect on financial statements:

Statement of financial position on Income statement for year

31/12/2023 ended on 31/12/2023

Current assets:
Realized gross 160,000
Installment A/R 600,000
profit

Current liabilities:
Deferred gross profit 140,000

Installment A/R balance:

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 Beginning balance (2022 ending balance) 500,000
+ Installment sales during 2023 (entry 1) 800,000
– Cash receipts during 2023 (entry 4) (700,000)
600,000

Deferred gross profit balance:

Beginning balance (2022 ending balance) 100,000
+ Deferred gross profit (entry 3) 200,000
– Realized gross profit (entry 5) (160,000)
140,000

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Exercise 1:
During 2023 Khaled’s company sold goods on installment basis for 400,000
with cost of 240,000. It also collected 250,000 of installment sales
amount in cash.

If you know that:

 The balance of installment A/R at the beginning of 2023 is 150,000.
 The balance of deferred gross profit at the beginning of 2023 is
35,000.

Required:

1. Prepare journal entries of recording the previous transactions.

2. Determine the effect of the previous transactions on the statement
of financial position at the end of 2023 and income statement for
year ended on 31/12/2023.

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Exercise 2:
Sony Corporation began selling goods on the installment basis on January
1, 2023. During 2023, Sony had installment sales of $150,000; cash
collections of $54,000; cost of installment sales of $102,000.

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Required: Prepare the company’s entries to record installment sales, cost
of installment sales, cash collected, deferral of gross profit, and gross
profit recognized, using the installment-sales method.

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Exercise 3:
Have the following data about installment sales during 2022 and 2023:

2022 2023

Installment sales 900,000 1,000,000

Gross profit ratio 25% 30%
Cash receipts
▪ From 2022 sales 200,000 300,000
▪ From 2023 sales ----- 400,000

1. The journal entry of recording installment sales in 2022 will be ………

A Installment sales 900,000 (Dr)

Installment A/R 900,000 (Cr)
B Installment sales 900,000 (Dr)
Cash 900,000 (Cr)
C Cash 900,000 (Dr)
Installment sales 900,000 (Cr)
D Installment A/R 900,000 (Dr)
Installment sales 900,000 (Cr)

2. In the journal entry of recording the cost of installment sales in

2022, cost of installment sales is to be recorded by ………

A 225,000 (Dr) B 225,000 (Cr)

C 675,000 (Dr) D 675,000 (Cr)

3. In the journal entry of closing installment sales and its cost in 2022,
the deferred gross profit is to be recorded by ………

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 A 225,000 (Dr) B 225,000 (Cr)
C 675,000 (Dr) D 675,000 (Cr)

4. The gross profit realized on installment sales that should be

recorded in the income statement for year ended on 31/12/2022 =
………

A 225,000 B 56,250
C 50,000 D another answer

5. The balance of installment accounts receivables that should be

recorded in the statement of financial position on 31/12/2022 = ………

A Zero B 900,000
C 700,000 D another answer

6. The balance of deferred gross profit on installment sales that should

be recorded in the statement of financial position on 31/12/2022 =
………

A 225,000 B 168,750
C 175,000 D another answer

7. In the journal entry of recording the cost of installment sales in

2023, cost of installment sales is to be recorded by ………

A 300,000 (Dr) B 300,000 (Cr)

C 700,000 (Dr) D 700,000 (Cr)

8. The journal entry of closing installment sales and its cost in 2023,
will be ………

A Installment sales 1,000,000 (Dr)

Cost of installment sales 300,000 (Cr)
Deferred gross profit 700,000 (Cr)
B Cost of installment sales 700,000 (Dr)
Deferred gross profit 300,000 (Dr)
Installment sales 1,000,000 (Cr)

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 C Installment sales 1,000,000 (Dr)
Cost of installment sales 700,000 (Cr)
Deferred gross profit 300,000 (Cr)
D Installment sales 1,000,000 (Dr)
Cost of installment sales 700,000 (Cr)
Realized gross profit 300,000 (Cr)

9. The gross profit realized on installment sales in 2022 = ………

A 300,000 B 210,000
C 195,000 D another answer

10. The balance of installment accounts receivables that should be

recorded in the statement of financial position on 31/12/2023 = ………

A 1,000,000 B 900,000
C 300,000 D another answer

11. The balance of deferred gross profit on installment sales that should
be recorded in the statement of financial position on 31/12/2023 =
………

A 680,000 B 475,000
C 300,000 D another answer

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Exercise 4:

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