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And welcome to this session in which we will keep working with the new revenue revenue recognition principle and the prior session. We looked at contract so if you are got to this session. And you did not cover the contract please go back click on the prior lecture and look at contract.
So step. Two is separate performance obligation now just so we dont lose track of what we are doing we are going through the five step process. The five step process for revenue recognition.
So were done with the contract. Now. Were going to be working with identifying separate performance obligation in the contract now in the real world.
This is the most challenging in the real work. This is the most challenging is determining what do we have one obligation or more than one are they separate are they combined. Were gonna look at the rules.
But this is usually thats the most thats the most challenging so identifying the separate performance obligation. Because this is gonna affect how were gonna allocate the dollar amount of we have several obligation to determine how we allocate the dollar amount. And this is gonna determine in step.
Five. Which obligation we perform to recognize the revenue for it okay. So lets go ahead.
And just kind of read a little bit about the performance obligation. So. What is a performance obligation.
A performance obligation is a promise is a promise to provide a product or service to a customer this promise may be explicit implicit or possibly based on customary business. So its basically. Its very similar to the contract as we talked about the contract.
The contract could be written oral or based on customary business. The performance also be kind of an understanding between the two parties. Okay so heres the key to determine whether a performance obligation.
Exists. The company must provide a distinct product or service to the customer. So were going to be focusing on this word.
This thing is the product this scent and what does if a brother is distinct or not a product or service is distinct. When the customer is able to benefit from the good or the service on its own or together with other readily available. Resources.
So. This is the definition of a vesa product is distinct this situation typically occurred when the companies sell goods or service on a standalone basis. So can this product be sold separately if the product can be sold separately well then its a distinct product.
Then the customer can enjoy it separately okay. For example bean. Which is a company that sells coffee provided.
A good. Which is a large cup of coffee on a standalone basis to tyler. So tyler bought the coffee that tyler can enjoy the coffee benefit from the coffee.
Its its a distinct product to determine whether a company has to account for multiple performance obligation. The companys the companys promise to sell goods or services. Must be separately identifiable from other promises within the contract.
So to determine if the company has a multiple performance obligation. Other words. If they have more than one obligation to perform well we need to know if the company can separately identify those product to determine whether a company has to account for multiple performance obligation.
The company promised to sell the goods or service or customers sell the good or service for the customer must be separately identifiable from other promises within the contract. So they can be can they be other can they be other promises that is the goods or service. Must be distinct within the contract.
So you have two items and each item is independent from the other item in other words. The objective. The objective is to determine whether the nature of the companys promises to transfer individual goods and services of the customer or to transfer a combined item for which individual goods and services are the input.
Okay and lets take a look at an example to determine this okay. So lets go back to the bean example. Which basically its a coffee shop.
So when being sold a large ship coffe large cup of coffee and two bagels. They so they sold a larger. So they sold the cup of thats one product and two vehicle thats another distinct product to performance obligation.
Occur. In that case. The large cup of coffee has a standalone selling price.
So. This one has its own separate price. And the tube.
A gold had standalone separate price. So this one. This one has its own price.
And this item has its own price. And they can be sold separately even though the two promises may be part of the same contract. So you dont have to have a contract for each item.
Okay those are two items in one contract. But they can be sold separately. So we have two obligations simply put within the same contract.
So a contract could have one obligation and another obligation to separate obligation. But its the same umbrella. The same contract conversely assume that being sold a large latte.
So now lets assume they sold a large latte change. The scene here a little bit and the latte composed of coffee and milk to pilar so they sold them a large latte in this case being sold two distinct product. Which is coffee and milk.
But guess what can you separate them can you can you separate them. And can tyler enjoy them separately well not really okay these two goods are not distinct. So this is the keyword in this situation.
We can send consider them theyre not this thing between the conflict because the latte is what you are selling you are not selling the coffee in the milk separately youre selling the latte that is the coffee in the milk. What we call them we call them they are interdependent highly interdependent and interrelated within the contract. So you cannot sell them separately youre selling one product.
And thats latte okay. Although its two two items two different product that youre selling one product. Only within the contract.
Okay as a result. The product are combined and reported as one obligation so when they sell a latte. Theyre not selling milk and coffee.
Theyre selling a latte. One item within that contract not like the coffee and the vehicle and the two vehicles those are two separate items when we had the latte. The contract its only one product.
Its the latte. Although its composed of milk and coffee. But you cannot separate them so hopefully we are starting to get you know to get a little bit familiar with this concept.
Once again this is this is not an easy concept and reward to determine. Which is wish so lets take a look at maybe another example assume that gm general motors sells an automobile to this auto dealer at a price that include so the price includes a six month of telematics services. Such as navigation and remote diagnostics.
These. Fellow medic services are regularly sold on a standalone basis by gm for a monthly fee so they they sold the car and they gave them six month for three the service. But gm can sell this product separately after the six month period.
The customer can renew these services on a fee basis with gm. The question is whether gm sold one or two product. Well.
What do you think they saw that they sell one or two product well they sold two products here they sold the car. If we look at the gm if if we look at the g gms objective. It appears that it sells two goods.
The automobile and the service. The telematics service both are distinct they can be sold separately and theyre not interdependent you can sell the car. Without the service or you can sell the service separately from selling the car.
So they are independent therefore we sold two product lets look at another example soft tack inc licenses customer relation software to lopes company in addition to providing the software itself soft pack promises to provide consulting services with extensively customizing the software to lopez it environment so they sold on the software. But thats not only what they sold them they sold them a customization of the software to lopez companies for a total consideration of six hundred thousand in this case soft pack is providing a significant service by integrating the goods and the service. So they are selling the software plus the service.
But this software by itself. Its not really any good for lopez company. Because it needs to be customized to its it environment.
Okay in addition the software is significantly customized. So the software is so its the software itself. Its no use to lopez okay and accordant with the specification negotiated by lopez.
So lopez wanted big customization do these describe a single or a separate performance well. Think about it lopez has no use for the software on its own. Okay.
So for the software to work as expected for them to enjoy it the both services has to be combined. Therefore you have one obligation here. The license and the consulting service are this thing.
But into the interdependent yes. They are this thing each one is separate. But they dont they dont stand alone for theyre not they cannot be standalone product for lopez because lopez will need to customize it okay now they could be two separate two separate product and an independent of each other for another client.
But for this example for lopez. The way its it sounds it sound. They are interdependent therefore they should be counted as one performance obligation one performance obligation okay.
So this is basically step two and step three. Were going to be determining the transaction price and a transaction price with some of the stuff is common sense or you are familiar with as an intermediate accounting student. But this is step two if you have any questions by all means email.
Me or see me end .
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