Wiley GAAP 2008

Revenue Recognition — General Principle

The principles guiding recognition of revenues for financial reporting purposes are central to GAAP and in most instances are unambiguous and straightforward. In fact, the underlying principles have not changed in decades, although FASB is deliberating fundamental changes, thereto, grounded in an assets‐and‐liabilities approach. However, while the basic principles are uncomplicated, it is nonetheless true that a large fraction of financial reporting frauds over the period beginning about 1995 were the result of misapplications, often deliberate, of revenue recognition practices prescribed under GAAP. Apart from outright fraud (e.g., recording nonexistent transactions), there were several factors contributing to this unfortunate state of affairs.

First, business practices have continued to grow increasingly complex, involving, among other things, a marked shift from manufacturing to a services‐based economy, where the proper timing for revenue recognition is often more difficult to ascertain. Second, there has been an undeniable increase in the willingness of managers, whose compensation packages are often directly linked to the company's stock price and reported earnings, to “stretch” accounting rules to facilitate earnings management. This has particularly been the case where GAAP requirements have been vague, complex or abstruse. And third, it has been well documented that, too often, independent auditors have been willing to accommodate ...