Reliable Enterprises sells distressed merchandise on extended credit terms. Coll

Question

Reliable Enterprises sells distressed merchandise on extended credit terms. Collections on these sales are not reasonably assured and bad debt losses cannot be reasonably predicted. It is unlikely that repossessed merchandise will be in salable condition. Therefore, Reliable uses the cost recovery method. Merchandise costing $30,000 was sold for $55,000 in 2010. Collections on this sale were $20,000 in 2010, $15,000 in 2011, and $20,000 in 2012.
In 2010, Reliable would recognize gross profit of:

$25,000.

$8,333.

$8,090.

$0.
In its 2010 year-end balance sheet, Reliable would report installment receivables (net) of:

$35,000.

$25,909.

$10,000.

$20,000.

Explanation / Answer

(1) Reliable Enterprises uses the cost recovery method:-

Under cost recovery method revenue is recognized only to the extent of receipts.

In 2010 :- There is receipt of $ 20000. Hence revenue recognize = 20000

Gross Profit recognized in 2010 = Revenue – Cost

                                       = 20000 – 30000 = $ 0

Last option is correct

(2) At year end, there is need to report installment receivables (net) i.e the portion of cost which is still pending to received

Hence in 2010, Receipt = 20000

Cost = 30000

At year end Reliable would report installment receivables (net) of= 30000 – 20000 = $10000

Third option is correct

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