Question

Companies recognize profit under the cost-recovery method only when cash collections exceed the total cost of the goods sold.

True
False

Answer 1

The statement is true; profit is only recognized using the cost-recovery method when cash collections exceed the costs of goods sold. Accounting profit is concerned with explicit costs, while economic profit also considers implicit costs.

Step-by-step explanation:

The statement that companies recognize profit under the cost-recovery method only when cash collections exceed the total cost of the goods sold is true. The cost-recovery method is a conservative accounting approach where a business does not recognize any profit until the cash received from a sale exceeds the costs of the goods sold. This method contrasts with other revenue recognition methods where profit can be recorded before cash is actually received, based on the accrual accounting principles.

Understanding the difference between accounting profit and economic profit is essential. Accounting profit is the measure of performance that shows the difference between total revenue minus explicit costs, which is the focus of the cost-recovery method. On the other hand, economic profit goes further and includes both explicit and implicit costs in its calculation.

Answer 2

Companies recognize profit under the cost-recovery method only when cash collections exceed the total cost of the goods sold is false.

Step-by-step explanation:

Under the cost-recovery method, recognizing profit isn't solely contingent upon cash collections exceeding the total cost of goods sold. This method doesn't link profit realization exclusively to cash inflows surpassing costs. Instead, it involves recognizing revenue only after the total revenue from sales surpasses the overall cost of goods sold. This means that profit isn't recognized based on cash collections alone but relies on the relationship between total revenue and total cost.

Cost-recovery accounting necessitates careful tracking of revenues and expenses. It acknowledges profit only once all costs associated with producing goods are covered by revenue from sales. Even if cash collections exceed the cost of goods sold, profit isn't recognized until total revenue surpasses the overall production cost. This approach ensures a clearer reflection of profit based on the matching principle, where revenues are matched against the costs incurred to generate them.

Hence, under the cost-recovery method, profit recognition isn't solely tied to cash collections surpassing the cost of goods sold; it's determined by the relationship between total revenue and the total cost of goods sold. This method aims to accurately match revenues with the expenses incurred in generating those revenues, ensuring a more accurate representation of the company's profitability.