Question

On 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 $51,200 from Green at the end of each month. If total cost savings reach a specific target, Revis will receive an additional $25,600 from Green at the end of the contract, but if total cost savings fall short, Revis will refund $25,600 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. Required: Prepare the following journal entries for Revis:

1. to 3. Prepare the journal entry on January 31 to record the collection of cash and recognition of the first month’s revenue, assuming total cost savings exceed target, record the entry on June 30 for receipt of the bonus and assuming total cost savings fall short of target and record the entry on June 30 for payment of the penalty. (If no entry is required for a transaction/event, select "No journal entry required" in the first account field.)

Answer 1

Possible Price	Possibility	Expected Amount
($51,200*6) + $25,600 = $332,800	80%	$266,240
($51,200*6) - $25,600 = $281,600	20%	$56,320
Expected value		$322,560

1. Journal entry on January 31 to record the collection of cash and recognition of the first month’s revenue:

	Debit	Credit
Cash	51,200
Bonus receivable [bal figure]	2,560
Service revenue (322560 / 6)		53,760

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

	Debit	Credit
Cash	25,600
Bonus receivable[2560x6]		15,360
Service revenue [bal figure]		10,240

3. Assuming total cost savings fall short of target, the entry on June 30 for payment of the penalty:

	Debit	Credit
Service revenue	40,960
Bonus receivable		15,360
Cash		25,600