Final answer:
The cost-recovery method requires deferring profit recognition until the seller has received cash payments that cover all the costs associated with the goods sold. It is used when collectibility is uncertain and prevents the overstatement of profits.
Step-by-step explanation:
The cost-recovery method, as outlined in the student's question, requires that profit recognition is deferred until all costs have been recovered through cash payments received from the buyer. This method is often used when the collectibility of proceeds from a sale is highly uncertain, hence when there's no reasonable basis for estimating collectibility. It prevents overstating profits and ensures that the reported profits are not based on uncertain revenue. Under the cost-recovery method, the seller does not recognize any profit until the cash received from the sale exceeds the costs of the goods sold. Only after recovering costs does the seller recognize profit.
It is important to differentiate this from accounting profit, which is the total revenue minus explicit costs and serves as the basis for income tax. On the other hand, economic profit considers both explicit and implicit costs. Total cost includes all expenses associated with production and selling products—and impacts long-term economic sustainability.