Question

1.42 pointsItem 4Item 4 1.42 pointsOn January 1, Revis Consulting entered into a contract to complete a cost reduction program for Green Financial over a six-month period. Revis will receive $20,000 from Green at the end of each month. If total cost savings reach a specific target, Revis will receive an additional $10,000 from Green at the end of the contract, but if total cost savings fall short, Revis will refund $10,000 to Green. Revis estimates an 80% chance that cost savings will reach the target and calculates the contract price based on the expected value of future payments to be received.

Answer 1

Question Continuation

Prepare the following journal entries for Revis:

1. The journal entry on January 31 to record the first month of revenue under the contract.

2. Assuming total cost savings exceed target, the journal entry on June 30 to record receipt of the bonus.

3. Assuming total cost savings fall short of target, the journal entry on June 30 to record payment of the penalty.

Answer:

1. The journal entry on January 31 to record the first month of revenue under the contract.

Possible Price -------------------------------Possibility------------Expected Amount

$130,000 ($20,000*6+$10,000) ------80% ------- --------------$104,000 (80% * $130,000)

$110,000 ($20,000*6-$10,000) --------20% -----------------------$22,000 (20% * $110,000)

Expected value--------------------------------------------------------------$126,000 ($104,000 + $22,000)

Accounts ------------------------Debit------------Credit

Cash -------------------------------$20,000 (Debit)

Bonus receivable----------------$1,000 (Debit)

Service revenue --------------------------------- $21,000 ($126,000/6)(Credit)

2. If total cost savings exceed target, record the entry on June 30 for receipt of the bonus

Accounts --------------Debit--------------------------Credit

Cash --------------------- $10,000 (Debit)

Bonus receivable-------------------------------------$6,000 (Credit) ($1000 * 6)

Service revenue ------------------------------------- $4,000 (Credit)

3. If total cost savings fall short of target and record the entry on June 30 for payment of the penalty.

Accounts --------------Debit--------------------------Credit

Service Revenue ---------------- $16,000 (Debit)

Bonus receivable-------------------------------------$6,000 (Credit) ($126,000 / 6)

Cash ------------------------------------- $4,000 (Credit)