Accounting - The substance behind the sale.

(From Financial Director)

Byline: Peter Williams, chartered accountant and freelance journalist.

The general principle of revenue recognition under UK GAAP is that the buyer assumes from the seller the significant risk and rewards of ownership of the assets sold, and that the revenue must be reliably measurable and certain. In other words, you can't recognise revenue unless you have an asset as a result of a transaction or, at least, a smaller liability to show for it.

Much of the recent focus on revenue recognition is a reaction to various accounting incidents, where companies were exaggerating turnover. The classic example is the dotcom sector, where bartered advertising between two websites would be treated by both as turnover. Under the Urgent Issues Taskforce Ruling, such a transaction couldn't be recognised as increasing a company's sales unless it could have been made for cash.

While the ASB was itching to lay down the law on this, it was hamstrung by the fact that the IASB and the US FASB have a major project on the go. Having said that, it is establishing principles which UK businesses need to follow in deciding how to recognise revenue. It has done this in the form of an exposure draft (ED), recognising the substance of transactions.

Revenue recognition will enter UK accounting standards as an amendment to Financial Reporting Standard 5. And while we can shake our heads at the dotcom barter approach to revenue recognition, it shows the complexity of business activity that has given rise to different types of revenue-earning transaction.

The ASB has laid out basic principles. The key one states: "At the time of performance of its contractual obligations, a seller typically recognises a new asset, its right to be paid. The gross amount of this asset is simultaneously reported as revenue."