¶ … Accounting Concepts
Revenue Recognition: Its Relevance and Significance
In the words of Kimmel, Weygandt and Kieso (2008), "the revenue recognition principle requires that companies recognize revenue in the accounting period in which it is earned." Unlike is the case in the cash basis of accounting, revenue under the accrual accounting basis is recognized on the sale of a certain commodity or the performance of a given service. Under the cash basis of accounting, the recording of revenue according to Kimmel, Weygandt and Kieso (2008) takes place when cash is received. Further, the authors point out that in this case, the recording of expenses takes place after cash is paid out.
It should be noted that alongside other accounting rules and principles, revenue recognition remains one of GAAP's most important standards. In most cases, companies do not receive payment for goods sold at the exact time of sale. This is more so the case in large corporations where most sales are made on credit. The accuracy of financial data is in one way or the other enhanced by subjecting all business entities to uniform revenue recognition rules/standards.
It is however important to note that the revenue recognition principle has been abused in the past. As Kimmel, Weygandt and Kieso (2008) point out, some of the companies that have been accused of abusing this principle include Krispy Kreme. In this particular case, the company was accused boosting its quarterly results by doubling the number of doughnuts sent out to clients buying in bulk. Afterwards, these bulk buyers would seek a refund after shipping back the doughnuts that remained unsold.
Product and Period Expense: The Difference
The Matching Concept and How it Relates to Accounting for Inventory and Revenues
The matching concept, an important principle in accounting, is defined by Porter and Norton (2010) as "the association of revenue of a period with all of the costs necessary to generate that revenue." In basic terms, the matching principle dictates that entities embrace the accrual basis of accounting. A good example of the matching principle in application is the reporting of sales commission expense not in the period in which the commissions were paid but in that period in which the sales were made. Similarly, employee wages should be identified as an expense not in the month when the workers were paid but in the month in which the said workers worked. Matching of the cost of inventory with revenue can be done once the revenue from the sale of inventory is recognized. According to this principle, an accountant should ensure that all revenues and expenses having a cause and effect relationship are recorded at the same time, i.e. In the same accounting period. The matching concept plays a key role in the aversion of earnings misstatement.
Part 2
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