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“Phantasy, Inc. is a research and development company that primarily develops an

“Phantasy, Inc. is a research and development company that primarily develops and patents products. Phantasy, Inc. then licenses other companies to produce and sell the products. In return, Phantasy, Inc. receives royalties from these companies.In 2009, Phantasy, Inc. developed and patented a product and then licensed Thurber Company to produce and sell it. Thurber Company will pay royalties to Phantasy, Inc. based upon the amount of sales.Phantasy, Inc. and Sumi, Inc., another independent company, have agreed to the following:Sumi, Inc. will pay Phantasy, Inc. $5,000,000 in 2009. This payment is non-refundable.In return, Phantasy, Inc. will give Sumi, Inc. 17% of the royalties Phantasy, Inc. receives during the years 2010-2015 from Thurber Company for the above product.In the case that the total amount paid by Phantasy, Inc. to Sumi, Inc. exceeds $7,500,000, the percentage of royalties paid by Phantasy, Inc. will drop from 17% to 5% on future royalties.Phantasy, Inc. does not guarantee any payments to Sumi, Inc.Sumi, Inc. estimates its expected rate of return to be approximately 35%.Phantasy, Inc. will assume all responsibility and costs of protecting the patent against patent infringement and against all law suits asserting patent infringement. Phantasy, Inc. expects these costs to be minimal.This is a case of the “sale of future revenues” and there are three possible ways for Phantasy to account for the $5,000,000 in 2009:1. Full and immediate recognition as revenue in 2009.2. Accounted for as “unearned revenue.”3. Accounted for as debt.REQUIRED:1. State whether the $5,000,000 should be recognized as revenue in 2009. Explain your answer.2. Assuming that immediate recognition is NOT appropriate, find, quote and cite the criteria used to determine whether it should be recognized as unearned revenue or debt.3. Based upon the criteria, should the $5,000,000 be recognized as unearned revenue or debt? Explain your answer.

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