Revenue Recognition

Course Instructor
Dr. Punita Rajpurohit
 Learning Objectives

 Identify issues involved in revenue recognition from sales of goods, provisions

of services and also long-term contracts.
 Apply accrual principle on revenue recognition.
 Analyze the impact of uncertainty on revenue recognition.
 Get familiarity with the key requirement of Ind AS
 Check your understanding

 Revenue
 Agency relationship (agent/broker)
 Revenue and indirect taxes
 Accrual concept
 Conservatism concept
 Realisation concept
 Matching concept
 Operating cycle
 Trade discount/quantity discount
 Cash discount (1/15 net 60)
 Test your understanding

 Quick Fox Trading Limited usually sells its goods at the invoice value. In case
of bulk orders (exceeding 1,000 units), it offers a quantity discount of 2% on
the invoice value. The customers are allowed 45 days credit period however,
if the payment is made within 15 days, an additional discount of 1% is given.
The company received an order for supply of 1,500 units at an invoice price
of`2,000 per unit. The customer paid on the 15th day and availed cash
discount. How will the transaction be recorded?
 Test your understanding

 Small Bull Brokers Limited is a stock broking firm. It bought shares on behalf
of one of his clients for `50 million charging 1% brokerage. It paid `50 million
to the stock exchange and collected `50.5 million (including brokerage) from
its client. What amount should be recorded as revenue?
 2 Basic Questions

 When – in which accounting period should revenue be recognised? (Timing)

 How much revenue should be recognised? (Amount)
 Basic Recognition Criteria

 Recognise when it is earned (GAAP) – substantially performed, reliably

measured, asset readily convertible to cash
 Transfer of ownership (IFRS)
 Degree of continued managerial involvement/ effective control over goods
sold
 Revenue can be measured reliably
 Economic benefits will flow to seller
 Costs incurred can be measured reliably
 Basic Recognition Criteria

 Persuasive evidence – purchase order, sale agreement, written or electronic

evidence – binding customer – terms of sale – with seller before revenue is
recognised
 Delivery
 Product is delivered to customer’s place of business
 Uncertainty exists about customer’s acceptance of a product or service
 Seller has substantially completed the terms specified in the agreement
 Licensing – license term begins
 Basic Recognition Criteria

 Performance
 Substantially complete terms of agreement (When the goods are shipped subject to
installation and the installation is a significant part of the contract which has not
yet been completed by the entity)
 After performance, if there is uncertainty about acceptance
 Collectability of the sales proceeds is reasonably assured
 When the expenses cannot be measured reliably, revenue cannot be
recognized. Therefore, when it is not possible to measure expenses reliably,
any consideration already received for the sale of the goods is recognized as a
liability.
 Specific Situations (timing)

 Installation and inspection: Revenue is normally recognized when the buyer

accepts delivery, and installation and inspection are complete.
 Consignment sales: Goods are sent by the consignor to the consignee and the
later undertakes to sell the goods on behalf of the consignor. Revenue will be
recognized only when goods are sold by the consignee to a third party.
 Cash on delivery Sales: Sale is deemed to be completed only upon receipt of
cash from the customer. As such revenue will be recognized only when cash is
received.
 Credit card sales
 Specific Situations (timing)

 Sale on approval basis: The seller gives the buyer an option to return the goods
within a specified period of time. Sale is considered to be complete when goods
are explicitly approved by the buyer or on lapse of the time allowed.
 Installment Sales: In case the sales consideration is payable in installments,
revenue is recognized on the date of sale by the normal selling price of the goods.
Interest component in installments is recognized separately.
 Delivery delayed at the request of the buyer: If the goods are identified and ready
for delivery but delivery is delayed at buyer’s request, revenue is recognized
immediately so long there is expectation that delivery will be made.
 Internal sale: Goods sold by one unit of the enterprise to another is not recognized
as revenue. As there is no transfer of ownership, no sale can be recorded.
 Asian Paints Limited

 Revenue is recognized when it is probable that economic benefits associated with

a transaction flows to the company in the ordinary course of its activities and the
amount of revenue can be measured reliably.
 Revenue is measured at the fair value of the consideration received or receivable,
net of returns, trade discounts and volume rebates allowed by the company.
 Revenue includes only the gross inflows of economic benefits, including excise
duty, received and receivable by the company, on its own account. Amounts
collected on behalf of third parties, such as sales tax and value added tax are
excluded from revenue.
 Revenue from sale of products is recognized when the company transfers all
significant risks and rewards of ownership to the buyer, while the company retains
neither continuing managerial involvement nor effective control over the products
sold.
 Revenue Earned in Foreign Currency

 Revenue earned by an enterprise in foreign currency is converted into the

reporting currency by applying the appropriate exchange rate between the
foreign currency and the reporting currency on the date of the transaction.
 Once revenue has been recorded, any subsequent change in foreign exchange
rate will not alter the amount of revenue recognized, but will be recorded
either as a gain or loss on account of foreign exchange difference.
 Revenue from Service

 Revenue from rendering of services is recognized when the agreed services have
been rendered
 Single act – performance of act
 Series of act – stage of completion
 Percentage completion method
 The amount of revenue can be measured reliably.
 It is probable that the economic benefits associated with the transaction will flow
to the entity.
 The stage of completion of the transaction at the end of the reporting period can
be measured reliably.
 The costs incurred for the transaction and the costs to complete the transaction can
be measured reliably.
 Infosys Ltd

 The company uses the percentage-of-completion method in accounting for its

fixed-price contracts.
 The use of the percentage-of-completion methods require the company to
estimate the efforts or costs expensed to date as a proportion of the total
efforts or costs to be expended. Efforts or costs expended have been used to
measure progress towards completion as there is a direct relationship
between input and productivity.
 Provisions for estimated losses, if any, on uncompleted contracts are recorded
in the period in which such losses become probable based upon the expected
contract estimates at the reporting date.
 Income from Construction Contracts

 construction activity may commence in one accounting period and is

completed in another accounting period
 recognized in a systematic manner over the period of time taken for
execution
 Revenue and expenses associated with the contract are recognized with
reference to the stage of completion of the contract accounting period.
 no revenue is recognized unless some reasonable progress has been made in
the contract.
 Fixed price contract
 Cost plus contract
 Punj Lloyd Limited

 Contract revenue associated with long-term construction contracts is

recognized as revenue by reference to the stage of completion of the contract
at the balance sheet date.
 The stage of completion of project is determined by the proportion that
contracts costs incurred for the work performed up to the balance sheet date
bear to the estimated total contract costs.
 However, profit is not recognized unless there is reasonable progress on the
contract. If total cost of a contract, based on technical and other estimates,
is estimated to exceed the total contract revenue, the foreseeable loss is
provided for
 Other Income/s

 Income from use of entity’s assets by others – probable economic benefits;

reliable measurement
 Interest – effective interest rate
 Royalty – accrue in accordance with terms of agreement
 Dividend – right to receive dividend is established
 Uncertainty Prevailing at the Time of
Raising Claim
 Reasonably certain amount
 In such a case, recognition of revenue is postponed till the uncertainty is
removed and the enterprise is reasonably certain that the collection will be
made.
 For example, extra billing to the customer due to escalation clause may be
recorded only when confirmed by the customer rather than at the time of
raising the invoice.
 Likewise, if income earned from foreign countries is subject to permission
from authorities under foreign exchange regulations which makes remittance
uncertain, revenue recognition may be postponed. Thus, the revenue may get
recognized in the period when the uncertainty is removed.
 Uncertainty Arising Subsequently

 In such a case, the revenue recognized earlier is not altered but the impact of
uncertainty is accounted for separately by making a provision for doubtful
recoveries.
 As a result, the revenue may get recorded in one accounting period but the
loss due to non-recovery may be recognized in a subsequent period.
 Disclosures

 The accounting policies adopted for the recognition of revenue including the
methods adopted to determine the stage of completion of transactions involving the
rendering of services.
 The amount of each significant category of revenue recognized during the period,
including revenue arising from:
(a) The sale of goods
(b) The rendering of services
(c) Interest
(d) Royalties
(e) Dividends
 The amount of revenue arising from exchanges of goods or services included in each
significant category of revenue.
 Accounting for Receivables

 Credit sales
 Trade receivables (current assets)
 Bad debts
 Provision for doubtful debts
 Credit card sales
 Warranty costs
 Revenue Recognition-Fraud

 Recording of fictitious revenue

 Recognising inappropriate amount of revenue from barter arrangements
 Recognition of revenue from sales transactions billed but not shipped
 Recognition of revenue where there are contingencies associated with the
transaction has not been resolved
 Recognition of revenue when products or services are not delivered, delivery
is incomplete or delivered without customer acceptance
 Channel stuffing