Module IA Chapter 02 - Premium Liability PDF

Preview

Summary

Premium Liability Chapter 1 of Intermediate Accounting...

Description

PREMIUM LIABILIT LIABILITY Y

PREMIUMS are articles of value such as toys, dishes, silverware and other goods given to customers as a result of past sales or sales promotion activities Accordingly, when the merchandise is sold, an accounting liability for the future distribution of the premium arises and should be given accounting recognition. Accounting procedures: 1. When the premiums are purchased: Premiums

xx

Cash

xx

2. When the premiums are distributed to customers: Premium expense

xx

Premiums

xx

3. At the end of the year, if premiums are still outstanding: Premium expense

xx

Estimated premium liability

xx

Illustratio Illustration n1 Jala Co. launched a sales promotion in 2019. For every ten empty packs returned to Jala plus P50, customers will receive a set of kitchen knives. Jala estimates that 40% of the packs sold will be redeemed. Information during the year is as follows:

Sales Sets of kitchen knives purchased(P200 per set) Number of packs redeemed

Units 500,000

Amount 750,000,000

300,000

60,000,000

45,000

Compute for the premium expense and estimated premium liability in 2019. Solution: Sales in units Estimate of packs to be redeemed Estimated packs to be presented for redemption Required number of packs for redemption Estimated number of premiums to be distributed

500,000 x 40% 200,000 /10 20,000

Net cost of premium (P200 purchase cost less P50 cash requirement from customer) Premium expense

x 150 3,000,000

Page 1|8

Entries in 2019:

To record sales: Cash

750,000,000 Sales

750,000,000

To record the purchase of premiums: Premiums – kitchen knives

60,000,000

Cash

60,000,000

To record redemption of 45,000 packs Cash (45,000/10 x50)

225,000

Premium Expense (45,000/10 x150)

675,000

Premiums – kitchen knives

900,000

To record the liability for the premiums at the end of the first year Premium Expense

2,325,000

Estimated premium liability

2,325,000

Solution: Estimated packs to be presented for redemption (500k x 40%)

200,000

Numbers of packs redeem

(45,000)

Total packs outstanding

155,000

Required number of packs for redemption

/10

Estimated number of premiums outstanding

15,500

Net cost of premium

x

Estimated premium liability liability,, 2019

150

2,325,000

Illustratio Illustration n2 Jala Co. launched a sales promotion in 2019. For every five bottles returned to Jala, customers will receive a T-shirt. The unit cost of T-shirt is P100. Jala estimates that 80% of sales will be redeemed. Additional information is as follows:

Sales in 2019

Units 500,000

Sales in 2020

900,000

T-shirts to be distributed in 2019

60,000

T-shirts to be distributed in 2020

147,600

Page 2|8

How much is the liability for premiums as of December 31, 2020? Solution: Estimated premiums to be distributed, 2019 (500,000 x80%/5) Numbers of t-shirts distributed, 2019

80,000 (60,000)

Premiums outstanding, 2019

20,000

Premiums to be redeemed in 2020 (900,000x80%/5)

144,000

Total premiums to be redeemed

164,000

Number of t-shirts to be distributed in 2020

(147,600)

Premiums outstanding, 2020

16,400

Estimated premium liability (16,400 x P100)

1,640,000

CASH REBA REBATE TE PROGRAM Cash register receipts, bar codes, rebate coupons and other proof of purchase often can be mailed to the manufacturer for cash rebate. Accordingly, the estimated amount of cash rebate should be recognized both as an expense and an estimated liability in the period of sale. Illustratio Illustration n3 Energy Company offered a cash rebate of P20 on each P150 package of batteries sold during the current year. Historically, 10% of customers mail in the rebate form. During the year, 600,000 packages of batteries are sold, and 25,000 P20 rebates are mailed to customers 1. Compute for rebate expense for the current year Rebate exp expense ense (600,000 packages x 10% x P20)

1,200,000

To recognize the cash rebate program: Rebate expense

1,200,000

Estimated rebate liability

1,200,000

2. Compute for rebate liability at year end Rebate coupons issued (600,000 x 10%)

60,000

Rebate coupons redeemed

(25,000)

Rebates outstanding

35,000

Rebate lia liability bility (35,000 x P20)

700,000

To record the payment to customers: Estimated rebate liability (25,000 x 20) 500,000 Cash

500,000

Page 3|8

CASH DISCOUNT COUPON The cash discount coupon program is a popular marketing tool for the purpose of stimulating sales. Like a premium offer and cash rebate program, an expense and an estimated liability for the expected cash discount should be recognized in the period of sale. Illustratio Illustration n4 Case Cereal Company distributed coupons to promote new products. On October 1, 2019, the entity mailed 100,000 coupons for P45 off each box of cereal purchased. The entity expected 12,000 of these coupons to be redeemed before the December 31, 2019 expiration date. It takes 30 days from the redemption date for the entity to receive the coupons from the retailers. The entity reimbursed the retailers an additional P5 for each coupon redeemed. On December 31, 2019, the entity had paid retailers P250,000 related to these coupons and had 5,000 coupons on hand that had not been processed for payment. Compute for liability for coupons on December 31, 2019. Solution: Coupons expected to be redeemed

12,000

Payment for each coupon (45+5)

x 50

Total coupon liability

600,000

Payments on December 31, 2019

(250,000)

Liability for coupo coupons, ns, December 31,2019 350,000 Entries: 1. To recognize the cash discount coupon offer: Cash discount coupon expense (12,000 x 50)

600,000

Estimated coupon liability

600,000

2. To record payments to retailers: Estimated coupon liability Cash

250,000 250,000

CUSTOMER LLOY OY OYAL AL ALT TY PROGRAM The customer loyalty program is generally designed to reward customers for past purchases and to provide them with incentives to make further purchases. These are awards credits often described as “points”. RECOGNITION AND MEASUREMENT The consideration allocated to the award credits is initially recognized as deferred revenue and subsequently recognized as revenue when the award credits are redeemed.

Page 4|8

An entity shall account for the award credits as a separately component of the initial sale transaction. In other words, the granting of award credits is effectively accounted for as a future delivery of goods and services. Accounting procedures: - initial sale Cash

xx Sales Unearned revenue- points

xx xx

- when redeemed (first year) Unearned revenue- points Sales

xx xx

---> (points redeemed/ estimated points x fair

value of points) - succeeding years Unearned revenue- points Sales

xx

---> xx

Points redeemed- 1st year Points redeemed-2nd year Total

xx xx xx

Cumulative revenue (total/ estimated points x fair value of points) Revenue recognized – 1st year Revenue to be recognized – 2nd year

xx

Illustratio Illustration n5 Arriane Company, a grocery retailer, operates a customer loyalty program. The entity grants program members loyalty points when they spend a specified amount on groceries. Program members can redeem the points for further groceries. The points have no expiry date. During 2019, the sales amounted to P7,000,000 based on stand-alone selling price. During the year, the entity granted 10,000 points. But management expected that only 80% or 8,000 points will be redeemed. The stand-alone selling price of each loyalty point is P100. On December 31, 2019, 4,800 points have been redeemed. In 2020, management revised its expectations and now expected that 90% or 9,000 points will be redeemed altogether. During 2020, the entity redeemed 2,400 points. 1. Compute for sales revenue including the revenue earned from points for 2019. Product sales 7,000,000 Points granted during the year (10,000 x 100) 1,000,000 Total 8,000,000

Page 5|8

(xx) xx

Product sales (7,000,000/8,000,000 x 7,000,000) 6,125,000 Points (1,000,000/8,000,000 x 7,000,000) 875,000 Total Transaction Price 7,000,000 Product sales 6,125,000 Revenue from points redeemed in 2019 (4800/8,000x875,000 525,000 Total revenue in 2 2019 019 6,650,000 2. Compute for revenue earned from loyalty points Points redeemed in 2019 Points redeemed in 2020 Total points redeemed to December 31, 2020

for 2020. 4,800 2,400 7,200

Cumulative revenue on December 31, 2020 (7,200/9,000 x 875,000) 700,000 Revenue from points recognized in 2019 (525,000) Rev Revenue enue from points earned in 2020 175,000

Third party oper operates ates loyalty program Illustratio Illustration n6 Jamaica Company, a retailer of electrical goods, participates in a customer loyalty program operated by an airline. The entity grants program members one air travel point for every P1,000 spent on electrical goods. Program members can redeem the points for travel with the airline subject to availability. The entity pays the airline P60 for each point. During the current year, the entity sold electrical goods for consideration totaling P4,500,000 based on stand-alone selling price and granted 5,000 points with stand-alone selling price of P100 per point. 1. Compute for product sales revenue. Ans: 4,050,000 2. Compute for net revenue from points. Ans: 150,000

Product sales Points (5,000 x 100)

Selling Price 4,500,00 0 500,0 00 5,000,00 0

Fraction 45/50 5/50

Allocation 4,050,00 0 450,0 00 4,500,00 0

Revenue from points 450,000 Payment to airline (5,000 x 60) (300,000) Net revenue from points 150,000 The entity has fulfilled its obligation by granting the points. Therefore, revenue from points is recognized when the electrical goods are sold.

Entries:

Page 6|8

1. To record the initial sale Cash Sales Revenue from points 2. To record payment to airline Loyalty program expense Cash

4,500,000 4,050,000 450,000 300,000 300,000

Suggested R Readings eadings Intermediate Accounting Vol. 2 2020 Edition by Conrado T. Valix Resourc Resource e and Additional Resources Intermediate Accounting Vol. 2 2020 Edition by Conrado T. Valix Intermediate Accounting Vol. 2 2020 Edition by Zeus Millan

ASSES ASSESSMENT SMENT SMENT:: 1. Merill Company offers a cash rebate of P50 on each P200 package of biscuits sold during the year. Historically 30% of the customers mail in the rebate form. During the year, 7,700 packages of biscuits are sold, and 1,470 P50 rebates are mailed to customers. What amount of rebate liability should be recognized at year-end? 2.

City Company included one coupon in each package sold. A towel is offered as a premium to customers who send in 10 coupons. 2019 500,000 30,000 20,000 5,000

2020 800,000 45,000 50,000 10,000

Packages sold Number of towels acquired at P40 per towel Number of towels distributed as premium Number of towels to be distributed as premium next period What amount be reported as premium expense in 2020? 3. During 2019, Dee Company sold 500,000 boxes of cake mix under a new sales promotional program. Each box contained one coupon which entitled the customer to a baking pan upon remittance of P40. The entity paid P50 per pan and P5 for handling and shipping. The entity estimated that 40% of the coupons will be redeemed even though only 150,000 coupons had been processed during 2019. What amount should be reported as premium expense for the year ended December 31, 2019? 4. Baker Company sold consumer products that are packaged in boxes. The entity offered an unbreakable glass in exchange for two box tops and P50 as a promotion during the current year. The cost of the glass was P200. The entity estimated at the end of the year that it would be probable that 50% of the box tops will be redeemed. The entity sold 100,000 boxes of the product during the current year and 40,000 box tops were redeemed during the year. What amount should be reported as premium expense for the current year? 5. Using the same information in no. 4, what amount should be reported as estimated premium liability at year-end?

Page 7|8

Page 8|8...