Question

Grant Film Productions wishes to expand and has borrowed $100,000. As a condition for making this loan, the bank requires that the business maintain a current ratio of at least 1.50.

Business has been good but not great. Expansion costs have brought the current ratio down to 1.40 on December 15. Rita Grant, the owner of the business, is considering what might happen if she reports a current ratio of 1.40 to the bank. One course of action for Grant is to record in December $10,000 of revenue that the business will earn in January of next year. The contract for this job has been signed.

Requirements:

1. Journalize the revenue transaction, and indicate how recording this revenue in December would affect the current ratio.
2. Discuss whether it is ethical to record the revenue transaction in December. Identify the accounting principle relevant to this situation, and give the reasons underlying your conclusion.
3. Identify wheather the revenue recognition principle or the matching principle is relevant.

Answer 1

Answer to question :

1. Debit Cash Account $10000 and Credit Sales Account $10000. As the asset is increased the current ration will increase accordingly.

2. It is not ethical to record revenue transaction in December. As per the accounting principle, the sales which have not realized yet cannot be entered in the books of accounts. Sales revenue is not an accrual income because , the sale which is going to happen next month cannot be treated as current month's income , the income is not accrued yet.

3. The revenue recognition principle or the matching principle will not sustain if the revenue records in December. The revenue will be recognized in January and hence the entry also to be recorded in January only.