week 5 revenue recognition and receivables. revenue recognition revenue recognition refers to the...

24
Week 5 Revenue Recognition and Receivables

Upload: derick-fleming

Post on 24-Dec-2015

244 views

Category:

Documents


0 download

TRANSCRIPT

Page 1: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Week 5

Revenue Recognition and Receivables

Page 2: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Revenue Recognition

Revenue recognition refers to the recording of revenue by a company

GAAP has two revenue recognition criteria that must be met for revenue to be recognized (and recorded on the income statement)—revenue must be:

1. Realized or realizable

2. Earned

Page 3: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Cisco’s Revenue Recognition Policy

Page 4: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

SEC Guidelines for Revenue Recognition SEC outlines its guidance for revenue

recognition in Staff Accounting Bulletin (SAB) 101, where it states that revenue is realized, or realizable, and earned when each of the following criteria are met:

1. There is persuasive evidence that a sales agreement exists,

2. Delivery has occurred or services have been rendered,

3. Seller’s price to the buyer is fixed or determinable, and

4. Collectibility is reasonably assured.

Page 5: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Revenue Recognition Challenges

Some serious revenue recognition challenges are: Revenue recognition upon delivery pending execution of sales

agreements. Gross vs. Net. Sales on consignment. Failure to take delivery. Nonrefundable fees. Channel stuffing. Mischaracterizing extraordinary or unusual transactions as

revenue. Mischaracterizing transactions as “arm’s-length.” Selling undervalued assets.

Page 6: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Percentage-of-Completion

For certain industries requiring long-term contacts, revenue is recognized using the percentage-of-completion method, which recognizes revenue by determining the costs incurred to date compared with the project’s total expected costs.

Percentage-of-completion method of revenue recognition requires an estimate of total anticipated costs.

Page 7: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Percentage-of-Completion Example

Page 8: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Cash The cash account is the first asset

listed in the current asset section of the balance sheet.

It consists of coin, checks, and bank drafts received by the company.

Page 9: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Helpful Tip

Transpositions occur when you switch the place of numbers (e.g., 79 becomes 97, 157 becomes 517, 6794 becomes 7649, 16945 becomes 61954)

A simple trick can identify this as the reason things do not reconcile

Page 10: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Proper Management of Cash Proper management requires that

enough cash be available to meet the needs of the company’s operations.

Too much cash is undesirable as it loses purchasing power in periods of inflation.

Page 11: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Accounts Receivable

Accounts receivable are reported on the balance sheet of the seller at net realizable value, which is the net amount the seller expects to collect. Gross amount less an allowance for uncollectable

accounts Sellers realize that they will not be able to collect on

all of the accounts that are owed to them and they must therefore match this bad debt expense with the sales revenue.

Is it optimal to have no bad debts?

Page 12: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Allowance for Uncollectible Accounts There are two widely accepted methods to

estimate the amount of accounts receivable that will not be collected:Aging schedulePercentage of sales

A third method, direct write-offs, is not allowable per GAAP

Page 13: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Percentage of Sales

Estimate of bad debt expense is computed as a percentage of credit sales.Example: If sales are $100,000 and we

expect 2% will not be collected, then our estimate of bad debt expense will be $2,000

The other side of this entry is to increase the allowance for bad debt account.

Page 14: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Aging Schedule

When aging the accounts, an analysis is prepared of the receivables as of the balance sheet date.

Each customer’s account balance is categorized by the number of days or months the underlying invoices have remained outstanding.

Based on prior experience or on other available statistics, bad debts percentages are applied to each of these categorized amounts, with larger percentages being applied to older accounts.

Page 15: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Aging Analysis Example

Page 16: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Write-off of Uncollectible Accounts

The write-off of an uncollecitble account does not affect income. The amount written-off is reflected as a reduction of the account receivable balance and the allowance for uncollectible accounts:

Page 17: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Reporting Accounts Receivable

Accounts receivable are reported on the balance sheet at net realizable value, that is, the gross amount owed to them less the allowance for uncollectible accounts.

Given our gross balance of $100,000 and estimated uncollectible accounts of $2,900, accounts receivable will be reported as follows:

Page 18: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Bad Debt Expense

Bad Debt Expense is equal to the increase in the allowance for uncollectible accounts.

In our previous example, if no previous balance existed in the allowance for uncollectible accounts, the company would record a bad debt expense of $2,900.

Page 19: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Analysis Implications: Adequacy of Allowance Account Companies are making two

representations by reporting the accounts receivable (net) in the current asset section of the balance sheet:

1. They expect to collect the total amount reported on the balance sheet.

2. They expect to collect this amount within the next year (because of the classification as a current asset).

Page 20: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Analysis Implications: Adequacy of Allowance Account The first issue, from an analysis viewpoint,

is whether the company has adequately provisioned for its uncollectible accounts. Compare with the percentage the company

reported in prior years.Compare with the percentage reported by

other companies in its industry. Could be used for shifting income

between years.

Page 21: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Receivables Turnover Rate and Days Sales in Receivables The accounts receivables turnover (ART) rate is

defined as

A companion ratio is the Average Collection Period:

Page 22: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Receivables management

When companies sell to other companies, they offer credit terms, which are called sales on credit (or credit sales or sales on account).

An example of a common credit term is 2/10, net 30.

Why offer a discount for early payment?

Page 23: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Receivables management (cont.)

Factoring Pledging Securitization

Page 24: Week 5 Revenue Recognition and Receivables. Revenue Recognition Revenue recognition refers to the recording of revenue by a company GAAP has two revenue

Earnings management

Revenue recognition Receivables