Crash Course in Accounting and Financial Statement Analysis, Second Edition

Revenue Manipulation

Revenue recognition cannot be performed completely accurately, and under U.S. GAAP, company management must therefore utilize conservative estimates and judgments. However, companies’ flexibility in revenue recognition creates the potential for manipulation in the form of increased revenue through the use of improper techniques.

Revenue recognition methods are almost always explained in the Notes to Consolidated Statements and must be read carefully!

In the Real World: TSAI in 1998 Software maker Transaction Systems Architect (TSAI) sold five-year license agreements for its software. In accordance with conservative revenue recognition rules, TSAI only recorded revenues from these agreements when the customers were billed through the course of the five-year agreement, that is, as these revenues were being earned by the company. When its sales slowed in 1998, the company changed its revenue recognition practices to record nearly five years’worth of revenues upfront, thereby artificially boosting sales that year. Since TSAI already recorded future revenues in 1998, the company’s revenue recognition practice caught up to TSAI a year later when investors compared 1999 results to 1998 results and saw a 20% decline in revenues.

3. Revenue

Exercise Q1: Which of the following income streams constitutes revenues? Sale of books by a bookstore Interest income earned by ...