Question

Problem 2 Cowboys, Inc. made sales on account with a total selling price of $4,000,000 and a total cost of $1,800,000 during 2014. Cash collections on these sales were as follows: Year 2014 2015 2016 Cash Collections $1,500,000 2.000.000 500,000 Provide the amount of gross profit recognized each year using three alternative revenue recognition methods. Year Traditional Approach installment Sales Method Cost Recovery Method 2014 2015 2016 *Under the traditional approach revenue is recognized in the year it is earned, in this case, the year that the sale is made.

Answer 1

Traditional approach:
Revenue is recognized in the year it is earned.(In the year of sales)
for 2014:
Gross profit=Selling price-Cost of sales=4000000-1800000=$2200000
for 2015:
Gross profit=0
for 2016:
Gross profit=0
Installment sales method:
Gross profit %=Gross profit/Selling price=2200000/4000000=0.55=55%
Gross profit=Cash collected*Gross profit %
for 2014:
Gross profit=1500000*55%=$ 825000
for 2015:
Gross profit=2000000*55%=$ 1100000
for 2016:
Gross profit=500000*55%=$ 275000
Cost recovery method:
Gross profit is not recognized till the cost of sales is recovered completely
for 2014:
Cost recovered in 2014=$ 1500000
It is less than cost of sales of $ 1800000
Gross profit=0
for 2015:
Cost recovered in 2015=$ 2000000
Cumulative cost recovered=2000000+1500000=$ 3500000
It is more than cost of sales of $ 1800000
Gross profit=3500000-1800000=$ 1700000
for 2016:
Cost recovered in 2016=$ 500000
Gross profit=$ 500000
Summary:
Year	Traditional approach	Installment sales method	Cost recovery method
2014	2200000	825000	0
2015	0	1100000	1700000
2016	0	275000	500000