Sanjeev enters into a contract offering variable consideration. The contract pays him $1,000/month for six months of continuous consulting services. In addition, there is a 60% chance the contract will pay an additional $2,000 and a 40% chance the contract will pay an additional $3,000, depending on the outcome of the consulting contract. Sanjeev concludes that this contract qualifies for revenue recognition over time.
- Assume that Sanjeev estimates variable consideration as the most likely amount. After Sanjeev has recognized revenue for two months of the contract, he changes his assessment of the chance the contract will pay him $3,000 to 70%. What adjustment to revenue should Sanjeev recognize to account for that change in estimate?
A) Debit of $1,000
B) Debit of $334
C) Credit of $1,000
D) Credit of $334

Question

Quizplus · Accepted Answer

In the first two months of the contract, the most likely outcome is that Sanjeev receives a $2,000 bonus (likelihood = 60%), in which case Sanjeev would be paid a total of ($1,000 × 6 months) + $2,000, or $8,000. Therefore, Sanjeev would recognize $8,000 ÷ 6 = $1,333 each month, and after two months would have recognized $2,666. Then Sanjeev concludes that the most likely outcome is that Sanjeev receives a $3,000 bonus (likelihood = 70%), in which case Sanjeev would be paid a total of ($1,000 × 6 months) + $3,000, or $9,000. Therefore, Sanjeev should have recognized $9,000 ÷ 6 = $1,500 each month, and after two months should have recognized $3,000. The amount of adjustment Sanjeev should record is a credit of $334, calculated as $3,000 - $2,666.

Sanjeev Enters into a Contract Offering Variable Consideration