FAR

2 Review Notes 1. Revenue recognition requirements US GAAP (same criteria, no matter what category it belongs to, all 4 must be met) Realized/realizable and earned! Persuasive evidence of an arrangement exists (signed contract) Delivery has occurred or services have been rendered (risk & rewards transfer) The price is fixed and determinable (no price contingencies) Collection is reasonably assured (standard collection terms) 2. Revenue recognition IFRS (divided into 4 categories) measured reliably and economic benefits flow a) Sale of goods pretty much the same as GAAP b) Service percentage of completion method criteria is the same as GAAP c) Interest, royalty and dividend revenue effective interest method, accrual basis for royalty d) Construction contracts percentage of completion (expected loss recognized immediately) 3. Special accounting treatment Installment sales revenue is recognized as collections are made Cost recovery method no profit is recognized on sale until all costs have been recovered Nonmonetary method depends! Involuntary conversion Page 41 for example 4. Classic example for royalties received in advance The company receives royalties on its patents in two ways. In some cases, advance royalties are collected, and in other cases, royalties are remitted within 60 days after year-end. Year 1 Year 2 Difference Royalties receivable $100,000 $95,000 ($5,000) Unearned royalties 70,000 45,000 25,000 During Year 2, the company collected royalty remittances of $180,000. In its income statement for the year ended December 31, Year 2, what should the company royalty income be? Solution: net method: Royalty collections $180,000 Plus: Reduction in unearned royalties 25,000 Less: Reduction in royalties receivable (5,000) Year 2 royalty income $200,000 5. Revenue recognition when the right of return exists The revenue recognized at the time of sale only when all the following conditions are met:

 6. Franchisor Accounting Initial Franchise Fee revenue when substantially performed Continuing Franchise Fee revenue when earned Example: Initial franchise fee $75,000 with $25,000 down payment and balance due of 5 equal annual payment of $10,000. The present value of the 5 payments is $37,908. The journal entry would be: Dr. Cash $25,000 Dr. Notes receivable 50,000 Cr. Discount on notes receivable ($50,000-37,908) $12,092 Cr. Unearned franchise fee revenue 62,908 7. Franchisee Accounting Initial Franchise Fee Intangible capitalized asset and amortize over the benefit period Continuing Franchise Fee Expense as incurred Note: exam trick highly possible the agreement between franchisor and franchisee was signed in the middle of the year, thus the amortization was not a full year in Year 1! 8. Intangible Assets Common intangible assets tested in CPA exam: patent, copyrights, franchises, trademarks, and goodwill. Purchased intangible assets record at cost (i.e. legal and registration fees incurred to obtain the asset should also be capitalized) Internally developed intangible assets expense when incurred (i.e. trademarks, goodwill, cost of developing, maintaining or restoring good will) Exception: Capitalized following: 1) Legal fees and other costs related to a successful defense of the assets 2) Registration or consulting fees 3) Design costs of trademark 4) Other direct costs to secure the asset 9. Goodwill is not amortized because it has infinite life. Goodwill is subject to impairment test on at least annual basis. Note: on tax purposes only, goodwill is amortized over 15 years of life. 10. Patent is amortized over the shorter of its estimated life (useful life) or remaining legal life. 11. IFRS revaluation model:

The sale price is fixed Buyer assumes all risks of loss Buyer paid consideration Product sold is complete Future return can be reasonably estimated

a) Revaluation losses are reported on income statement, however, revaluation losses that are reversing previously recognized revaluation gain is recognized in OCI and reduces the revaluation surplus in AOCI. b) Revaluation gains are reported in OCI and AOCI in equity as revaluation surplus, unless the revaluation gain reverses a previously recognized revaluation loss. e.g. Year 1, revaluation loss of $500,000 recorded in income statement, Year 2, revaluation gain of $900,000. $500,000 will be reported in income statement as a reversal of the $500,000 loss recorded in Year 1, the remaining $400,000 will be reported in OCI as revaluation surplus. 12. Start-up costs, including organizational costs, should be expensed when incurred. 13. R&D General rule: expense immediately, except: a) Materials, PPE, facilities that have alternative future uses capitalize and depreciate over useful life, not the R&D project life. b) R&D undertaken on behalf of others under a contract 14. Items that are not considered R&D costs Routine periodic design changes Marketing research Quality control testing Reformulation of a chemical compound 15. IFRS rule about R&D: Research expense immediately Development may capitalize if criteria met 16. Computer software development costs Definition: Technological Feasibility Technological feasibility is established upon the completion of (1) A detailed program, or (2) Completion of a working model IDEA --------------> Technological Feasibility Established --------------> Product for sale | | program design, purchasing product masters, planning, coding, additional coding, testing testing (expense!) (capitalize!!) Amortization of the capitalized software costs is the greater of: a) % of revenue = $ Total capitalized X (current gross revenue for the period/total projected gross revenue for the product) b) straight-line = $ Total capitalized X (1/estimated economic life)

Capitalized software costs are reported at the LCM, where market is equal to NRV. Costs incurred for internally developed project are accounted pretty much the same as costs incurred for projects for sale. (expense for preliminary stage, capitalize after preliminary stage for direct costs of materials, services, employees and interest costs incurred for project) Note: capitalized costs should be amortized over straight-line method because there is no revenue expected.

17. Intangible assets impairment test Step 1: compare undiscounted future cash flow (also called net future cash flow) with carrying value [NOTE: Only intangible assets with finite life needs step 1, if infinite life, go to step 2 directly] If undiscounted future cash flow > carrying value, no impairment If undiscounted future cash flow < carrying value, go to step 2 Step 2: compare discounted future cash flow (also called fair value) with carrying value. In addition, consider 2 situations: a) assets held for use impairment loss reported in NI b) assets held for disposal include cost of disposal, impairment loss reported in discontinued operations 18. Long-term construction contracts 1) Completed contract method (US GAAP only, not allow under IFRS) Only recognize income upon substantially completion of the contract. The method is acceptable only when it is difficult to estimate the cost in progress, and projects are short duration, and collections are not assured. Applicable overhead and direct costs should be charged to CIP as an asset Billings/cash received should be credited to advances on CIP as a liability Loss should be recognized in full in the year they are discovered Advantage: accurate based on final results rather than estimate Disadvantage: did not reflect matching principle 2) % of completion method (Both GAAP & IFRS) The method is used when collection is assured and profitability is reasonably estimated Revenue recognition is pure accrual basis earned based on costs incurred to date Loss is recognized when discovered Advantage: reflect matching principle Disadvantage: relying on estimation of the ultimate results Calculation of the gross profit earned in current year: Step 1: compute gross profit of the entire contract Step 2: compute % of completion Step 3: compute gross profit earned to date

Step 4: compute gross profit earned in current year 3) NOTE: Change in method of accounting for long-term construction contracts is a change in accounting principle, reported retrospectively; does not require disclosure unless extraordinary. 19. Installment sales Based on cash collected because lack of reasonable basis for collectability 1) Installment method e.g. $400,000 installment sales, COGS $300,000, on year end balance sheet, A/R is $150,000. Step 1: gross profit % = (400,000 300,000)/400,000 = 25% Step 2: gross profit earned = (400,000 150,000) x 25% = 62,500 Step 3: deferred gross profit = 150,000 x 25% = 37,500 NOTE: deferred gross profit is a contra-receivable account on B/S 2) Cost recovery method no profit is recognized on sale until all costs have been recovered. 20. Non-monetary exchange two groups: have commercial substance and lack commercial substance 1) has commercial substance future cash flows or economic position of two parties change as a result of the transaction Pass key: FV of the assets given up = FV of the assets received, including any cash given or received. Formula: Recognized gains/losses = FV NBV NOTE: Cash given up in the commercial substance exchange does not enter into the calculation of gain or loss, but will impact the basis of acquired asset. NOTE 2: Under IFRS, exchange of similar assets has no gain/loss recognized; exchange of dissimilar asset would be the same as GAAP. 2) lack commercial substance no change in cash flows or FV cant be determined No boot (cash) is received, no gain. Boot is paid = no gain Loss is always recognized Boot is received = recognize gain - All gain is recognized if boot received > 25% of the total consideration - Partial gain recognized if boot received < 25% of the total consideration 21. Involuntary conversions - entire gain/loss is recognized. 22. Changing price Appreciation Historical cost (HC) & current cost (CC) Inflation Nominal dollars (ND) & Constant dollars (CD) Measurement methods & current cost determination:

1) HCND required by GAAP. Neither adjust for appreciation, nor for inflation. 2) HCCD adjust for inflation 3) CCND adjust for appreciation 4) CCCD adjust for both appreciation and inflation 23. Monetary & Non-monetary items: Holding monetary assets during period of inflation will result in a loss of purchasing power, and holding monetary asset will result in a gain of purchasing power. Non-monetary assets and liabilities fluctuate in value with inflation and deflation. A contra-account is classified as monetary or non-monetary based upon the classification of the related account. 24. Foreign currency accounting FC transaction vs FC translation Functional currency currency of the primary economic environment in which the entity operates (usually the local currency or US dollar) Reporting currency = US dollar $$ FC translation restatement of F/S denominated in the functional currency to the reporting currency using appropriate rates of exchange FC remeasurement restatement of foreign F/S from the foreign currency to the entitys functional currency Steps in restating foreign F/S - Prepare in accordance with GAAP/IFRS - Determine functional currency (functional currency can be the entitys local currency, currency of the reporting entity, or the currency of another country) Remeasurement method (temporal method) = dysfunctional B/S first: monetary item current rate; non-monetary item historical rate I/S second: non-B/S related item WA rate; B/S related item historical rate Third, calculate remeasurement gain/loss into income statement (IDEA). Translation method (current rate method) = functional I/S first: all items = WA rate B/S second: Assets & Liabilities = current rate Third, calculate translation adjustment to OCI (PUFER).