Accounting

Some companies might have some contentions on the current Generally Accepted Accounting Principles (GAAP) that affects their financial revenue recognition. The main purpose of this document is to present the significant effects of the current GAAP practices and to explain some points that might be an acceptable way of recognizing revenue to be effected on Financial Statements.

BODY
The Discussion paper gives some instances where a company might have different views on revenue recognition (depending on their industry type) which might not in accordance with the current GAAP or present practice.

The current practice recognizes revenue at the time of sale when the goods or services are being delivered or rendered. In other words, transfer of ownership from the vendor to vendee has been made. On this current practice, we must consider the collectibility of the revenue. The fact is already given, the transfer of risk and ownership has been made from the seller to the buyer, but what if collectibility is not assured on this transaction On this dilemma, some standards have been formed to recognize revenue on the basis of increase in cash, meaning, the transactions collectibility. Those standards clearly indicate revenue recognition when the transaction has been settled, where the buyer has paid to the seller the goods or services delivered or rendered.

The current practice also states that whenever there is an increase in the value of inventory, revenue must be recognized, even though there is no existing contract with a customer. This is true in some biological, agricultural, and extractive products. However, some entity recognizes revenue on the inventory-increase only if there is an existing contract with a customer. But still, some standards have contentions on this. Lets take for example a construction-type contract. First contention, if the activities continuously transfer the assets to the customer, meaning performance obligation has been satisfied and the control or ownership has been given to the customer, then the usual practice of revenue recognition must be considered. The second is the reverse of the first one, that is, if the activities do not transfer assets to the customer, performance obligation was not satisfied and no control has been given to the customer, then, the usual practice might change.

The presented Discussion Paper also states some issues regarding performance obligation. There are three categories here post delivery services, sales incentives and segmentation of a construction contract.

In the first category, lets take standard warranty as a common sample. The usual practice recognizes revenue at the time the product is sold where no warranty services has been provided yet.  However, the proposed standard on the Discussion Paper states that revenue must be recognized when the warranty has been rendered or provided, which is a clear indication of transfer of assets to the customer.

In the category of Sales Incentives, the usual practice recognizes the expense incurred as Marketing Expense rather than revenue. Lets take for example the free products or services given to the customer upon the sale of an item. The present practice treats it as Marketing Expense while the proposed standard based on this Discussion Paper clearly explains that the transfer of items (products or services given) to the customer is a revenue that must be recognized.

In the last category of Construction Contract Segmentation, separation of performance in contract components is allowed as long as it was pre-communicated with the customer. However, the Discussion Paper wants to directly point that each asset in a contract has separate performance obligations.

Uses of estimates play also an important role in the Discussion Paper. The usual practice does not recognize revenue until such time the selling price has been established. But here in the proposed model, estimating reliable selling price is significant to recognize revenue to be effected.

Lastly is the capitalization of cost. Since cost is important to recognize revenue (Selling Price vs. Cost Incurred), it must also be analyzed. The present practice capitalizes cost that is necessary to acquire a contract. But the Discussion Paper only recognizes it if they qualify for capitalization based on other standards (example, inventory cost and software development cost). If not, that cost will be expensed as incurred.  

CONCLUSION
The world of Finance and Accounting revolves around its standards. The common is the Generally Accepted Accounting Principles (GAAP) that must be followed to make the Financial Statement accurate and useful to the users. But still, some has their different views about the usual practice. It is really important not just to follow a rule, but also the followers MUST also understand what they are following, or if some contentions arise, it is really important to ask and research.

The Discussion Paper presented is really useful to make other followers (company or entity) of the usual practice think. Those discussions depend on their industry, what will be useful to them or whats not.

This is the general rule of the revenue recognition if there is a transfer of asset to the customer, its risk and ownership, then, revenue must be recognized.

This Discussion Paper is written not to confuse us, but to help us think whats useful to us or not. It also gives a review on revenue shown on our Financial Statements if they are accurate or not, close to reality or completely misstated.