Question

2. Too Nice Company (TNC) includes with the sale of its jumping bean machine, a 5-year warranty that covers all repairs and maintenance. The selling price for the jumping bean machine and the related warranty is $1,000. A competitor sells a similar machine without any warranty for $850. TNC does not sell the warranty separately nor is it aware of any company that does. TNC estimates it will cost $120 to perform warranty work on each jumping bean machine over the 5- year warranty period. TNC's average markup on sales is 40%. In 2019, TNC sells 1,200 jumping bean machines, and incurs $22,000 total warranty cost on the 1,200 machines. a. How many performance obligations are involved in the jumping bean machine sales in 2019? Justify your answer. b. What is the transaction price? C. Determine the transaction price allocated to each performance obligations. d. How much revenue will be recognized from the above transaction in 2019?

Answer 1

1. Types of Performance obligations

FASB ASC 606-10-25-14 through 25-22)

The revenue recognition standard defined a performance obligation (commonly referred to as deliverables) as a promise to transfer goods or services to a customer. A good or service is distinct when the customer can benefit from said good or service on its own or with resources the customer already has, and the good or service can be transferred to the customer independent of other performance obligations in the contract. Goods and services that are not distinct should be combined with other goods or services until the whole group is distinct.

The new standard now distinguishes two different types of warranties which are accounted for differently. An Assurance-Type Warranty only guarantees that the good/service functions as promised and is not a distinct performance obligation. A Service-Type Warranty provides benefits beyond what the Assurance Warranty offers and would create a distinct performance obligation.

In the given case, there are 2 performance obligations

a. Sale of jumping bean bag machines

b. Warranty that covers repairs and maintenance since it provides benefits beyond what the Assurance Warranty offers and would create a distinct performance obligation.

2. Determination of transaction price

ASC 606 says determining the transaction price for the contract, describes the promise a customer makes to pay for the performance obligations identified in the contract. ASU 606 defines transaction price as the amount of consideration the entity expects to be entitled to, in exchange for transferring promised goods or services to a customer, excluding amounts collected on behalf of third parties (eg. sales tax).

In the given case, the price that TNC expects to receive for a jumping beanbag machine is $1000. Hence the transaction price is $1000

3. Allocation of transaction price to performance obligations

Allocation of transaction price must be done proportionately based on the standalone selling price determined for each performance obligations within a Contract.

Per ASC 606-10-32-32, The standalone selling price is the price at which an entity would sell a promised good or service separately to a customer. The best evidence of a standalone selling price is the observable price of a good or service when the entity sells that good or service separately in similar circumstances and to similar customers.

The stand alone selling price for sale of jumping bean machine is determined by manual adjustment approach where we have considered price charged by competitors as stand alone selling price which is $850

The stand alone selling price for warranty is determined by cost plus approach where margin $48 (120*40%) is added to the cost of warranty $120 making it $168

Goods/Services	Stand alone selling price	Allocated transaction price
Sale of jumping bean machine	850	`=834.97(1000*850/1018)
Warranty	168	`=165.03(1000*168/1018)

4. Revenue recognized

Allocated transaction price	No. of machines	Revenue
834.97	1200	1001964.64
165.04	1200	198047.36