revenue recognition - better get on it

When you first start out all you really care about, from a revenue perspective, is invoicing customers and receiving the cash.  Most sales people call the invoicing “bookings” or just “sales” which is very different from “revenue”.  The term “revenue” implies (a) GAAP is at play, which you will have to switch to eventually, and (b) you have taken the time to recognize revenue properly.

What is involved to recognize revenue?

It seems simple.  Once you have invoiced the client, you have to meet four basic criteria before revenue can be recognized:

1. evidence of an arrangement must exist (e.g. a signed agreement, customer purchase order, or a signed order form between you and the customer);
2. delivery has occurred (e.g. the service has been provided, the fully functioning product has been delivered);
3. the fee is fixed or determinable (e.g. it is set in the written contract or a generally available price list is available);
4. the probability of collecting the fees is likely to occur (this can be assessed through credit checks or analysis of financial health of the customer).

Ah, but the devil is in the details.  As you can imagine sales people are creative and for all the many ways they can sell the product and services there is an equal number of interpretations on how to recognize the revenue.  Revenue recognition is not black and white and requires a lot of interpretation as to the timing of the revenue recognition and how much at each milestone.

There is a laundry list of US and CA GAAP pronouncements to cover the various nuances to be applied to recognizing revenue with respect to hardware, software, hosted solutions, professional services, training, OEM, royalty and other revenue arrangements.  The most popular ones are: SOP 97-2, SOP 98-9, SOP 81-1, EIC 141, EIC 142, EITF 00-21.  Those of us who have lived through the evolution of technology industry revenue recognition rules since 1997 are like war-torn veterans.

I don’t have time to read all these! And reading accounting pronouncements is like watching paint dry.  Is there a condensed version?

Fortunately, as mentioned, we’ve fought this war and have created a Business Ready policy, Revenue Recognition, that condenses the US and CA accounting pronouncements to be easily digestible, provides a template that is customizable for the high-tech offerings you sell, and meets the ‘big four’ audit standard.

What are the big four looking for when they audit?

a detailed revenue recognition policy and checklist; set the right tone at the top; train sales and contract personnel; use standard contracts, price lists and discounting guidelines; and have a point-person in charge of revenue recognition.

So, I suggest you get on this soon.  The folks who govern US GAAP (FASB - revenue thoughts) and IFRS (IASB - revenue thoughts) have another discussion paper out for general comment, EITF Issue 08-1 “Revenue Arrangements with Multiple Deliverables“, that could seriously change the rules again.  It’s good to have a solid base of understanding and practice to help build on - especially as the conversion to IFRS comes closer.

If you are really interested in this new Issue, E&Y is putting on a webcast, “Technology industry revenue recognition convergence and EITF update” on April 1st, 2009.  April fools!  Hah!