Lesson 1 of 8 · 13 min
Revenue recognition: core principle and the five-step model
Revenue is recognised when control of a promised good or service passes to the customer, in the amount the seller expects to be entitled to, which need not coincide with when cash arrives.
In short
- Under accrual accounting, revenue is reported when it is earned, not when cash is received. Selling on credit creates a receivable; cash received before delivery creates a liability (deferred or unearned revenue).
- IFRS and US GAAP have converged standards. The core principle: recognise revenue to depict the transfer of promised goods or services, in the amount of consideration the seller expects to be entitled to.
- Five steps: (1) identify the contract, (2) identify the distinct performance obligations, (3) determine the transaction price, (4) allocate the price to the obligations, (5) recognise revenue when (or as) each obligation is satisfied.
- A contract exists only if collection is probable: 'more likely than not' under IFRS, 'likely to occur' under US GAAP, so similar contracts can be treated differently.
- Revenue that is likely to reverse (e.g. expected returns) is not recognised; a refund liability and a right to returned goods asset are recorded instead. Payment received in advance is a contract liability; revenue earned but conditional on further performance is a contract asset.
Unlock this lesson free for 7 days
Create a free account to get 7 days of full access — every lesson, video, flashcard, mock and the question bank. No card needed.