Many small businesses and recently incorporated ventures are naturally interested in securing as much revenue as possible in order to maintain a profitable outlook for the future. While this certainly makes sense, it is not always as easy as simply selling a product or service and collecting money. In many cases, a subject known as revenue recognition is a key consideration. For those who might not be familiar with what it means, here is a quick primer to cover all the important details.
What Does Revenue Recognition Even Mean?
Starting with a clear definition of the term, this is basically an aspect of the accounting process that helps businesses understand when they have a full claim on earned revenue. Simply selling a product and collecting payment is not enough. In order for revenue to be recognized under this principle, there must be a specific trigger that formally completes the transaction. For example, in the case of a company that sells a particular item, the revenue might be recognized when it arrives safely and satisfactorily in the hands of the purchaser.
What Determines When Revenue Is Recognized?
There are several key variables at play when attempting to parse the meaning of revenue recognition. In some cases, the type of business model can cause this standard to be calculated in a particular way. Furthermore, the manner by which sales are recorded and accounted for in the ledger is a deciding factor. Additional aspects of the process can include, but are not limited to, whether a company is publicly traded or privately held.
Why Is It Important?
While any company has a clear interest in understanding when and how they can consider revenue earned for the sake of its accounting methods, there is perhaps a bigger incentive when considering the trust of existing customers and prospective clients. After all, being able to back up all forms of revenue is a convincing way to show that a business is reputable and has the means of delivering on its promises. Since this is such a critical aspect of operating a business, it is vital to heed the advice and recommendations of a trusted accountant when calculating and recording a company’s revenue recognition.