Royalty account (notes)

DPA3013 - ROYALTY ACCOUNT

CHAPTER

2

ROYALTY ACCOUNTS

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LEARNING OBJECTIVES At the end of the lesson, students will be able to: 1. Identify the conditions that create royalties  

Define royalty Discuss a royalty agreement which normally contain minimum rent , royalty per unit of output, right to recoup shortworkings, right to sublet part or whole of tenancy agreement.

2. Construct the accounting records for royalty  

2.1

Prepare royalty accounts in payer’s book Prepare royalty accounts in receiver’s books

DEFINITION OF ROYALTY

Royalty is the remuneration payable to a person in respect of the use of an asset, whether hired or purchased from such person, calculated by reference to a variant with quantities produced or sold as a result of the use of such asset.

The main forms of royalty are: i) Mining royalty- based upon ore raised ii) Patent royalty- based upon product sold

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DPA3013 - ROYALTY ACCOUNT

iii) Copyright royalty-based upon books sold

2.2

IMPORTANT TERM

1.

Royalty per unit of output

2.

Minimum rent Guaranteed amount which the landlord/grantor/inventor/author is to receive whatever output may be.

3.

Shortworkings Arise when minimum rent EXCEED the actual royalty payable. It happens when the grantee/payer unable to produce more than the minimum amount required due to several reason such as lack of skilled labour or unable to market/sell the new product.

4.

SHORTWORKING RECOUP The landlord/grantor/inventor/author give the right to the grantee/payer to recoup/recover the amount of shortworkings when the amount produced/ actual royalty payable exceed the minimum rent.

However, the landlord/grantor/inventor/author will limit the recoupment period such as for 3 years, 2 years.(depend on the question)

5.

SHORTWORKING WRITTEN-OFF Arise when the recoupment period had expired, and there still shortworkings that unable to be recouped /recovered. All the amount should be transferred to the Income Statement.

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DPA3013 - ROYALTY ACCOUNT

Illustration 2.2 The lessee of a mine is to pay RM1 for each ton of ore extracted. The minimum rent is to be RM400 per annum. Any payments for short working are recoupable only in the two years following that in which they occured.

The output for the first 5 years are: 1st Year

310 tons

2nd Year

560 tons

3rd Year

280 tons

4th Year

440 tons

5th Year

450 tons

Answer: Calculations of royalties.

Year

Tons extracted (tons) 310 560 280 440 450

1 2 3 4 5

2.3

Actual Royalty (RM) 310 560 280 440 450

Minimum Payment (RM) 400 400 400 400 400

Royalty Payable (RM) 400 470 400 400 400

Short workings (RM) 90

S/workings Recouped (RM)

S/Working Written-off (RM)

90 120 40 50

30

RECORDING TRANSACTION- PAYER’S BOOK

Payer is the party who exercise the right. Other names that refer as a payer are: 

Grantee



Lessee



Buyer

The main accounts to be opened in the payer’s book are: 

Royalty payable Account

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DPA3013 - ROYALTY ACCOUNT

o 

an expense account

Receiver/Grantor/Lessor/landlord/Seller Account o A liability account in the name of the owner



Shortworking Recoverable Account o An asset account

Illustration 2.3 Using the same facts in Illustration 2.2 and the payment of royalty on 31st December every year, the calculation of shortworkings are as follows: Year

1 2 3 4 5

Tons

Actual

Minimum

Royalty

Short

S/workings

S/Working

extracted

Royalty

Payment

Payable

workings

Recouped

Written-off

(tons) 310 560 280 440 450

(RM) 310 560 280 440 450

(RM) 400 400 400 400 400

(RM) 400 470 400 400 400

(RM) 90

(RM)

(RM)

90 120 40 50

30

To record the transaction in the payer’s book: Y1 31/12 Y2 31/12 Y3 31/12 Y4 31/12 Y5 31/12

Y1 31/12

Landlord

Royalty Account RM Y1 310 31/12 Y2 560 31/12 Y3 280 31/12 Y4 440 31/12 Y5 450 31/12

Cash/ Bank

Landlord RM Y1 400 31/12

Landlord Landlord Landlord Landlord

400 Y2

RM IS: Operating Account

310

IS: Operating Account

560

IS: Operating Account

280

IS: Operating Account

440

IS: Operating Account

450

RM Royalty A/c Shortworking Recoverable A/c – (shortworking)

310 90 400

Y2

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DPA3013 - ROYALTY ACCOUNT

31/12

Y3 31/12

Shortworking Recoverable A/c – (recoup) Cash/ Bank Cash/ Bank

90

31/12

Royalty A/c

560

470 560 400

560 Y3 31/12

Royalty A/c Shortworking Recoverable A/c – (shortworking)

280 120

400 Y4 31/12

Y5 31/12

Shortworking Recoverable A/c – (recoup) Cash/ Bank

Shortworking Recoverable A/c – (recoup) Cash/ Bank

40

400 Y4 31/12

Royalty A/c

400 440 50

440 Y5 31/12

Royalty A/c

Y5

450

RM

Landlord (shortworking)

90

31/12

Bal c/f

90

Bal b/f

90

31/12

Landlord (recoup)

90

Landlord (shortworking)

120

31/12

Bal c/f

120

Bal b/f

120

31/12

Landlord (recoup) Bal c/f

Bal b/f

120 80

31/12

Landlord (recoup) IS (write-off)

40 80 120 50 30 80

80

Y1 Y2 Y3 Y4 Y5

450

400 450

Shortworking Recoverable Account RM Y1 31/12 Y2 01/01 Y3 31/12 Y4 01/01

440

Royalty Royalty Royalty Royalty Royalty

Operating Account for the Year ended 31st December .....

RM 310 560 280 440 450

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DPA3013 - ROYALTY ACCOUNT

Income Statement for the Year ended 31st December .....

RM Y1 Operating Account-royalty Y2 Operating Account-royalty Y1 Operating Account-royalty Y1 Operating Account-royalty Y1 Operating Account-royalty Shortworking Written-off

310 560 280 440 450 30

Balance sheets as at 31 December .......

RM Current Assets Short workings Short workings Short workings Short workings Short workings

Y1 Y2 Y3 Y4 Y5

2.4

90 120 80 -

RECORDING TRANSACTION- RECEIVER’S BOOK

Receiver is the party who own the right. Other names that refer as a receiver are:  Grantor  Lessor  Seller  Landlord The main accounts to be opened in the receiver’s book are:  Royalty receivable Account o A revenue account  Payer/Lessee/Grantee/Buyer Account o An asset account in the name of the payer  Shortworking Allowable Account o A liability account

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DPA3013 - ROYALTY ACCOUNT

Illustration 2.4 Using the same facts in Illustration 2.2 and the payment of royalty on 31st December every year, the calculation of shortworkings are as follows Year 1 2 3 4 5

Tons extracted (tons) 310 560 280 440 450

Actual Royalty (RM) 310 560 280 440 450

Minimum Payment (RM) 400 400 400 400 400

Royalty Payable (RM) 400 470 400 400 400

Short workings (RM) 90

S/workings Recouped (RM)

S/Working Written-off (RM)

90 120 40 50

30

To record the transaction in the receiver’s book: Y1 31/12 Y2 31/12 Y3 31/12 Y4 31/12 Y5 31/12

Y1 31/12

Income Statement Income Statement Income Statement Income Statement Income Statement

Royalty Receivable A/c Shortworking Allowable A/c – (shortworking)

Royalty Receivable Account RM Y1 310 31/12 Lessee A/C Y2 560 31/12 Lessee A/C Y3 280 31/12 Lessee A/C Y4 440 31/12 Lessee A/C Y5 450 31/12 Lessee A/C Lessee A/C RM Y1 310 31/12 90

Royalty Receivable A/c

560

Cash/Bank

Royalty Receivable A/c Shortworking Allowable A/c – (shortworking)

280 120

Shortworking Allowable A/c – (recoup) Cash/ Bank

Y3 31/12

Cash/Bank

400 Y4 31/12

Royalty Receivable A/c

440 440

280 440 450

310 400

Y2 31/12

560 Y3 31/12

560

RM

400 Y2 31/12

RM 310

90 470 560 400 400

Y4 31/12

Shortworking Allowable A/c – (recoup) Cash/Bank

40 400 440

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DPA3013 - ROYALTY ACCOUNT

Y5 31/12

Royalty Receivable A/c

450

Y5 31/12

Shortworking Allowable A/c – (recoup) Cash/Bank

50 400 450

450

Shortworking Allowable Account RM Y1 31/12 Y2 31/12 Y3 31/12 Y4 31/12 Y5 31/12

RM

Bal c/f

90

Lessee A/C (recoup)

90

Bal c/f

120

Lessee A/C (recoup) Bal c/f

40 80 120 50 30 80

Lessee A/C (recoup) Income Statement

Y1 31/12 Y2 1/1 Y3 31/12 Y4 1/1 Y5 1/1

Lessee A/C

90

Bal b/f

90

Lessee A/C

120

Bal b/f

120

Bal b/f

120 80 80

Income Statement for the Year ended 31st December .....

RM Revenue Y1 Royalty receivable Y2 Royalty receivable Y3 Royalty receivable Y4 Royalty receivable Y5 Royalty receivable Shortworking Written-off

310 560 280 440 450 30

Balance sheets as at 31 December .......

RM Y1 Y2 Y3 Y4 Y5

Current Liabilities Short workings Short workings Short workings Short workings Short workings

90 120 80 -

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DPA3013 - ROYALTY ACCOUNT

TUTORIAL EXERCISES PAYER’S BOOK 1. ABC Berhad grants a right to remove gravel deposits from land owned by Mr Almond. The particular of the agreement are as follows:  Payment of royalty = RM0.50 per tonne  Minimum Rental = RM1500 per year  Recoupment of shortworking can only be made starting on the 3rd Year onward 

The output for the first 4 years are:

1st Year 2nd Year 3rd Year 4th Year You are required to prepare: a) b) c) d)

2,000 2,600 4,000 4,800

tonne tonne tonne tonne

Table to calculate royalty and shortworking Royalty Payable Account Mr. Almond Account Shortworking Recoverable Account

2. Smoker who had patented a tobacco filter, granted to Piper & Co. a licence for seven years to manufacture and sell the filter on the following terms : (i)

Piper & Co. to pay a royalty of RM1.00 for every 100 filters sold with a minimum payment of RM1,000 per annum. Calculations to be made annually as on 31 December

(ii)

If for any year the royalties calculated on filters sold amount to less than RM1,000, Piper & Co. may set off the deficiency against royalties payable in excess of that sum only in the two years following.

The numbers of filters sold were: YEARS QUANTITY (filters) 2001 60,000 2002 80,000 2003 120,000 2004 140,000

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DPA3013 - ROYALTY ACCOUNT

You are required to prepare: a) Table to calculate royalty and shortworking b) Royalty Payable Account c) Smoker Account d) Shortworking Recoverable Account 3. AH HA Ltd acquired the rights to remove gravel deposits from the land owned by Mr. Kerry. The agreement provided for : (a) the payment of a royalty of RM0.40 per ton of gravel sold. (b) A minimum payment of RM2,000 per annum. (c) Recoup right (for short workings) to be extinguished at the end of 2 nd year.

During the first four years of the contract the following quantities of gravel were removed: Year 1st 2nd 3rd 4th

Gravel removed 4,000 tons 4,800 tons 5,400 tons 5,600 tons

Closing stock 200 tons 100 tons 50 tons 120 tons

You are required to prepare: a) Table to calculate royalty and shortworking b) Royalty Payable Account c) Mr. Kerry Account d) Shortworking Recoverable Account

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DPA3013 - ROYALTY ACCOUNT

RECEIVER’S BOOK 4. GUNGYU Co. owned the patent rights for a bottle opener. On 1 April 2000 he granted ABBA Co. Ltd a license for ten years to manufacture and sell the bottle opener on the following terms: (i)

ABBA was to pay GUNGYU a royalty of RM0.50 for each opener sold.

(ii)

The minimum royalty for each of the first three years covered by the license was to be RM500

(iii)

If royalties on openers sold amounted to less than RM500, ABBA were entitled to deduct the deficiency from royalties in excess of that sum payable in respect of each of the first three years of the agreement.

(iv)

After the first three years royalties were to be payable on the actual number of bottle openers sold each year.

(v)

Accounts were to be settled to 31 March in each year.

The numbers of bottle openers sold in the first four years were as follows: Year ended 31 March 2001 860 2002 980 2003 1,090 2004 1,050 You are required to prepare: a) Table to calculate royalty and shortworking b) Royalty Receivable Account c) ABBA. Co Account d) Shortworking Allowable Account

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DPA3013 - ROYALTY ACCOUNT

5. Permata Ltd acquired the rights to remove gravel deposits from the land owned

by Miss Nina. The agreement provided for: (a) The payment of a royalty of RM0.50 per ton of gravel sold. (b) A minimum payment of RM2, 100 per annum. (c) Recoupment right expired two years after short workings During the first four years of the contract the following quantities of gravel were removed: Year 2002 2003 2004 2005

Gravel removed 4,000 tons 4,800 tons 5,400 tons 5,600 tons

Closing stock 250 tons 100 tons 50 tons 120 tons

You are required to prepare: a) Table to calculate royalty and shortworking b) Royalty Receivable Account c) Permata Ltd. Account d) Shortworking Allowable Account

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