Question

On December 1, 2017, Cream Ale Ltd. receives $1,800 in advance for an agreement to brew beer during the months of December, January, and February. As of December 31, 2017, Cream Ale Ltd:

a) would have a $0 liability to its client under accrual accounting, and would have a $1,200 liability to its client under cash-basis accounting
b) would have recognized $600 revenue under accrual accounting, and would have recognized $1,800 revenue under cash-basis accounting
c) would have recognized $600 cash under accrual accounting, and would have recognized $1,800 cash under cash-basis accounting
d) would have a $1,200 liability to its client under accrual accounting, and would have a $1,800 liability to its client under cash-basis accounting

Answer 1

Cream Ale Ltd. would recognize $600 as revenue by year-end under accrual accounting, with a $1,200 liability for future services. Under cash-basis accounting, the full $1,800 received would be recorded as revenue, with no liability.

Step-by-step explanation:

On December 1, 2017, Cream Ale Ltd. received $1,800 in advance for a service to be provided over December, January, and February. By December 31, 2017, under accrual accounting, Cream Ale Ltd would recognize revenue for one month's worth of service, which is $600 ($1,800 divided by 3 months). Thus, they would have a remaining liability of $1,200, which is the unearned portion of the advance for the services not yet provided (January and February).

Under cash-basis accounting, the entire $1,800 received would be recognized as revenue when it was received, regardless of whether the service had been provided. Thus, as of December 31, 2017, Cream Ale Ltd. would have recognized $1,800 in revenue, and there would be no liability recorded for the cash received in advance.

Therefore, the correct answer is b) Cream Ale Ltd. would have recognized $600 revenue under accrual accounting, and would have recognized $1,800 revenue under cash-basis accounting.