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THE PROPER RECOGNITION OF REVENUE HAS BECOME A HOT ISSUE for many firms during recent months. Especially within the software industry. In 1997, a number of companies made business and economic headlines due to difficulties created by improper recognition of revenue and the reporting of such revenues in their quarterly and annual reports. The publicly traded firms involved suffered significant losses on the NASDAQ and NYSE when their corrected revenue results were published. In at least one instance, several individuals were dismissed as a result of improperly reporting revenues of a foreign division.
Whether they realize it or not, virtually every credit executive is touched by revenue recognition. One oversimplified example is a credit executive's responsibility for his or her firm's reserve for bad and doubtful accounts. This reserve is impacted by accounts that were considered as collectable when billed, but when they become seriously past due, must be reclassified as doubtful because collection is no longer predictable. Revenue recognition can be relatively simple, or simply complicated. It depends on the type of products a company sells.
The guidelines for properly recognizing revenues are set out by the FASB (Financial and Accounting Standards Board) and AICPA (American Institute of Certified Public Accounts' SOPs (Statement of Position). Almost everyone in the credit industry knows the acronyms GAAP (Generally Accepted Accounting Practices) and GAAS (Generally Accepted Accounting Standards). In simple layman's terms, SOPs are guidelines to proper accounting procedures under GAAP and GAAS.
As an accounting procedure, revenue recognition is the moment when the dollars generated by the sale of product(s) or service(s) are "recognized" as revenue. This is not to imply that recognition and recording of revenue means the same thing and/or occurs simultaneously. So, why has revenue recognition become such a concern? Most businesses, other than those in the software industry, recognize revenue at the time of shipment. Sounds simple doesn't it? Ship the product-whatever it is-and recognize the revenue.
Revenue recognition is important to the functions of reporting, budgeting, profitability and taxation (as outlined in figure 1).
Information from revenue recognition reporting provides management with the ability to manage investments and/or expenditures on a smooth, well-planned basis. Earnings become more predictable.
SOP 97-2 (American Institute of Certified Public Accounts Statement of Position) applies...