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Revenue Recognition, How It’s Changing and Why It Matters

September 12, 2017 by Kenzie Earle

On the surface, revenue recognition is a fairly simple concept: when it comes to presenting the true value of your business to investors, it is important to accurately report your revenue. That means reporting the actual cash earned in the course of your business. In essence, there are standards related to revenue recognition to protect potential investors from fraudulent business practices, which could allow businesses to overstate their value. If discovered, failures to properly document and report actual revenue can be severe and could damage the long-term value of your company. That's why automated accounting is becoming increasingly necessary and even expected in order to protect businesses, their shareholders, and their customers.

Preventing Fraud, and/or Bad Accounting Practices

When companies report revenue, fraud can be difficult, even sometimes impossible to prove. However, ignorance of the rules related to revenue recognition may not even count as a good excuse and is often a reason companies report inaccurate financials. For example, a common revenue recognition error can happen in a scenario most of us have encountered: a business offers in-house, no-interest financing and makes many sales as a result - without actually receiving any money. Falsely reporting the sales as actual income in hand would lead to an over-evaluation of a business. Trying to then sell shares in this business based on such false data would be unethical at the very least.

 When it comes to B2B transactions, this process gets even more complex. For example, even if your business has received payment, that payment still may not count as revenue because of ongoing contractual obligations, including the right to return defective or unwanted goods. Money received in payment which still may need to be returned if obligations are not met still may not count dollar-for-dollar as revenue for the purposes of valuing your business. That is why any reasonable investor will want to see accurate financial records showing actual profits made over time including the rate of returns. Thankfully, there are rules companies need to abide by when reporting and keeping financial records.

Revenue Recognition, the SEC, and GAAP

Every country handles how companies report revenue differently. In the United States, the Security Exchange Commission (SEC) requires businesses to follow General Acceptable Accounting Principles (GAAP) as guidelines for how to conduct business ethically and legally. These principles ensure that any person or company can easily understand the state of a company’s finances, including the revenue they report.  In 2014, the GAAP (regulated by the national FASB orFinancial Accounting Standards Board) received a major overhaul in keeping with the many ongoing changes in the world of finance. These standards will become effective for most businesses as of December 2018, although public businesses need to comply by December 2017.

Changes to Revenue Recognition

Of course, revenue recognition is not always so clear-cut, especially in the evolving world of the modern marketplace. That is why the FASB chose to update their guidelines. Here are a few of the ways that revenue recognition has changed:

  • The global marketplace: In an increasingly diverse, globalized marketplace, rules related to revenue recognition can vary greatly. After all, not every economy works the same. In general, the new rules endeavor to reconcile these differences, to make U.S. accounting practices work with guidelines enforced throughout the world, across different industries.
  • Standardized, transparent revenue disclosures: The new guidelines mandate exactly what data businesses need to record and share regarding their customers and individual performance obligations. That means it will no longer be enough to share financial statements showing revenue and sources of revenue. Going forward, revenue recognition also includes the specific goods and services provided and how much each of these items is worth - so that can potential investors can better judge how reliable those data streams are likely to be going forward.
  • Variable consideration: Discounts, breaches of contract, returned merchandise, and other fluctuations can alter the value of a business considerably. In recognition of this fact and the ongoing evolution of the marketplace, the FASB has decided to put down stricter rules related to how businesses record and report this data, especially if estimates greatly alter the actual value of individual transactions.

Keeping Pace with PayStand

If this sounds complicated, that's because it can be, especially if your finances and accounting processes are lengthy and manual processes. In order to comply with new and future revenue recognition requirements and be able to accurately collect and report revenue, businesses should seriously consider adopting an automated accounting receivable platform such as PayStand. With such a system, companies can pay lower credit card processing rates and accept payment from ACH and eCheck as well, allowing customers to pay with the payment rail they prefer. With customers able to pay however they want, companies can get access to real revenue faster and handle more complicated transactions, such as recurring/scheduled payments with ease. In addition, PayStand features enterprise blockchain technology, which makes financial transactions immutable and secure for payment verification. 

Don't wait for problems to arise due to improper revenue recognition. Contact us today and see what PayStand can do for you.