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CPAhamster
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| Posted: 25 Nov 2009 at 23:22 | IP Logged
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Cobb company sells appliance service contracts agreeing to repair appliances for a two year period. Cobb's past experience is that, of the total dollars spent for repairs on service contracts, 40% is incurred evenly during the first contract year and 60% evenly during the second contract year. Receipts from service contract sales for 2 years ended Dec 31, 2008, are as follows
2007 $500 000
2008 $600 000
Receipts from contracts are credited to unearned service contract revenue. Assume that all contract sales are made evenly during the year. What amount should Cobb report as unearned service contract revenue at Dec 31, 2008?
The answer is $630 000
Can you explain how we end up with 630 000
I am struggling with this one
Thank you in advance
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Future CPA
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| Posted: 26 Nov 2009 at 00:18 | IP Logged
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Okay, let me try to give this one a shot. I'm not sure if my approach is correct, and not even sure if it makes any sense.
When the warranty, or the service contract, is originally sold, all the revenue goes to unearned service. As you perform service, the unearned gets debited, and revenue is credited. With this in mind, here's how it goes:
For the 2007 Service Contracts
In 2007:
Dr. Cash $500,000
Cr. Unearned revenue $500,000
Memo: Sold service contracts.
Dr. Unearned revenue $100,000
Cr. Service revenue $100,000
40% is performed in year 1 evenly through out 2007.
$500,000*.4/2= $100,000 (You divide this by 2 because it's the first half of 40%.)
In 2008:
Dr. Cash $600,000
Cr. Unearned revenue $600,000
Memo: Sold service contracts.
Dr. Dr. Unearned revenue $250,000
Cr. Service revenue $250,000
Memo 1: 40% is performed in year 1 evenly through out the 2007.
$500,000*.4/2= $100,000 (You divide this by 2 because it's the second half of 40%)
Memo 2: 60% is performed in year 2 evenly through out 2008.
$500,000*.6/2=$150,000 (You divide this by 2 because it's the first half of 60%.)
At the end of 2008, how much is your balance in unearned revenue? $500,000 - $100,000 - $250,000 = $150,000
For the 2008 Service Contracts
In 2008:
Dr. Cash $600,000
Cr. Unearned revenue $600,000
Memo: Sold service contracts.
Dr. Unearned revenue $120,000
Cr. Service revenue $120,000
40% is performed in year 1 evenly through out 2007.
$600,000*.4/2= $120,000 (You divide this by 2 because it's the first half of 40%.)
At the end of 2008, how much is your balance in unearned revenue? $600,000 - $120,000 = $480,000
So combine the two balances: $150,000 + $480,000 = $630,000
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CPAhamster
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| Posted: 26 Nov 2009 at 05:32 | IP Logged
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Very clear, thank you
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lovethepirk
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| Posted: 27 Nov 2009 at 00:06 | IP Logged
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I don't understand why if we sold 500,000 worth of service in 2007 and 40% of it is worked on in 2007 and then the other 60% is done in 2008 why there would be any unearned rev left from that 500,000 at end of 2008?
I would have assume it's all consumed by end of 2008 then since 40% of the 600,000 is consumed in 2008 that the only remaining unearned portion would be 60% of the 600,000 or 360,000?
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snehakhabiya
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| Posted: 27 Nov 2009 at 00:27 | IP Logged
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Why do we divide it by 2 when the call of the question is
"evenly throughout the year"? Can someonle please clarify?
TIA
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Topic: Unearned Revenue
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