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M.B.A 2 All right are reserved with CU-IDOL FINANCIAL REPORTING AND ANALYSIS Course Code: MBA604 Semester: First SLM UNITS : 5 E-lesson: 3 www.cuidol.in Unit-5 (MBA604)

UNDERSTANDING THE INCOMING 33 STATEMENT OBJECTIVES INTRODUCTION Students will be able to : Describe the concept of revenue. In this unit we are going to learn about the nature of items within financial statement. Understand revenue recognition criteria Under this unit you will also understand the purpose for which financial statement are being prepared. This Unit will also make us understand the uses of financial statement. www.cuidol.in Unit-5 (MBA604) INASllTITriUgThEt aOrFeDreISsTeArNveCdE AwNitDh OCNUL-IIDNOE LLEARNING

TOPICS TO BE COVERED 4 > Introduction > Revenue - producing activities > Revenue - recognition criteria > Amount (measurement of Revenue recognized) www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

INTRODUCTION 5 All right are reserved with CU-IDOL REVENUE According to Institute of Chartered Accountant of India: “Revenue is the gross inflow of cash, receivables or other consideration arising in the ordinary activities of an enterprise from the sale of goods, from the rendering of services, and from the use by others of enterprise resources yielding interest, royalties and dividends. Revenue is measured by the charges made to customers or clients for goods supplied and services rendered to them and by the charges and rewards arising from the use of resources by them. In an agency relationship, the revenue is the amount of commission and not the gross inflow of cash, receivables or other consideration.” www.cuidol.in Unit-5 (MBA604)

ITEMS NOT INCLUDED WITHIN 6 THE DEFINITION OF REVENUE • Realised gains resulting from the disposal of, and unrealised gains resulting from the holding of, non-current assets, e.g,, fixed assets • Unrealised holding gains resulting from the change in value of current assets, and the natural increase in the herds and agricultural and forest products www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

ITEMS NOT INCLUDED WITHIN 7 THE DEFINITION OF REVENUE  Realised and unrealised gains resulting from changes in foreign exchange rates and adjustments arising on the translation of foreign currency financial statements  Realised gains resulting from the discharge of an obligation at less than its carrying amount  Unrealised gains resulting from the restatement of the carrying amount of an obligation www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

REVENUE – PRODUCING ACTIVITIES 8  As stated earlier, revenue arise only from those activities that are designated business operations  These activities are known as earning process or operating cycle of a business enterprise, especially in a manufacturing concern  These activities undertaken by the firm together make a profit and include a fairly long chain of events www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

 IN THE EARNING PROCESS OR OPERATING CYLE OF A MANUFACTURING CONCERN THE 9 FOLLOWING SIX ACTIVITIES ARE GENERALLY FOUND : 1. Acquisition of resources. 2. Receipt of customer orders. 3. Production 4. Delivery of good performance of services. 5. Collection of cash. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

The operating cycle or earning process of a typical manufacturing 10 concern. Acquisition of resources Collection of cash Receipts of customer orders Delivery of goods or Production Performance of services www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

REVENUE – RECOGNITION CRITERIA 11 1. REVENUE RECOGNISED AT THE POINT OF SALE With limited exceptions, revenue is recognized at point of sale. The enterprise’searning process should be substantially completed before revenue is recorded. Also, the revenue should be realized before its recorded. 2. REVENUE RECOGNITION IN SALE OF SERVICES In transaction involving sale or rendering of services, revenues are usually recognized as the services are performed. For eg, providing the service is an act of performance. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

REVENUE – RECOGNITION CRITERIA 3.REVENUE RECOGNITION IN CONSTRUCTION WORK 12 Some transactions may involve long term constructions and projects that may extend over several years. Examples are construction of roads, dams, large office buildings, bridges, ships, aircrafts, etc. In construction projects, revenues are recognized by the; (i) Percentage completion method (ii) Completed contract method 4. REVENUE RECCOGNITION IN INSTALMENT CREDIT SALES Many business and merchandising firms sell goods on installment basis wherein the customer pays a certain amount as installment on the dates of installment. In this sales revenue is not recognized at the point of sale. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

REVENUE – RECOGNITION CRITERIA 13 5. REVENUE RECOGNITION UNDER PRODUCTION METHOD In some cases, the amount of income that can be earned can be reliably measured as soon as the production is over. For instance, in case of certain grains and other crops, the government announces the price at which the farmers can sell their products. 6. REVENUE RECOGNITION WHEN A FIRM RECIEVES INTEREST, ROYALTIES, AND DIVIDENDS A firm may allow others to use its resources and thereby can receive; (i) interest are charges for the use of cash resources or amounts due to the enterprises (ii) royalties are charges for the use of such assets as trademarks, know-how, patents and copyrights (iii) dividends are rewards from the holding of investments in shares 7. MONEY RECEIVED OR AMOUNTS PAID IN ADVANCE Sometimes money is received or amounts are billed in advance of the delivery of goods or rendering of services. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

AMOUNT 14 (MEASURMENT OF REVENUE RECOGNIZED)  Revenue is measured in terms of value of the products or services exchanged and is the amount that customers are reasonably certain to play. In order to determine the amount likely to be paid by the customers and to be recognized as revenue, some adjustments shall be made in the gross sales value of the goods and services sold. The adjustments are as follows: DISCOUNTS:- Discounts may be of generally two types – (i) trade discount are used in determining the invoice prices, i.e,, actual selling price, say list price less 30%. Trade discounts and list prices do not appear in the accounting records of either the purchaser or seller are disregarded. (ii) cash discount also known as sales discounts, are the amounts offered to the customers for making prompt payments. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

The cash discount can be recorded in two ways: 15 • if customers are making payment at the time of sales, cash discount can be deducted from gross sales and thus sales revenue will be recorded at the net amount of sales. • if customers are not making payments at the time of sales, but subsequently during the discount period, cash discount can be recorded as an expense. Sales Returns and allowances : - Sometimes, the purchasers return a part of good purchased to the seller if they are dissatisfied with the good. - In these cases, the amount of cash finally to be received can be expected to be less than the stated selling prices. The amount of sales returns and allowances are therefore, deducted from the gross sales and the remaining amount is recognized as the revenue. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

16 3. BAD DEBTS :- At times, some customers do not make payments and firms incurs a bad debt expense. Bad debt expense is classified as a selling expense on the profit and loss account, although some business enterprises include it with administrative expense. 4. REVENUE MEASURMENT IN NON CASH TRANSACTION :- If a sale involves a non cash transaction or non cash assets, such as the trade in of an old car for a new car, the amount of revenue to be recorded will be the cash equivalent of the goods received will be the cash equivalent of the goods received or given up, whichever is more clearly determinable. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

AS9 ON DISCLOSURE RELATING TO 17 REVENUE RECOGNITION  Revenue from sales or services transactions should be recognized when the requirements as to performance set out in points and below are satisfied, provided that at the time of performance it is not unreasonable to expect ultimate collection.  In a transaction involving the sale of goods, performance should be regarded as being achieved when the conditions have been fulfilled.  In a transaction involving the rendering of services, performance should be measured either under the completed service contract method or under the proportionate completion method, whichever relates the revenue to the work accomplished. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

NOTES TO ACCOUNTS 18  Notes to accounts shall represent all information about the basis of preparation of the financial statments  Shall present information about the specific accounting policies used  Disclose any information required by IFRS’s that is not presented elsewhere in the financial statement.  Each item on the face of balance sheet of profit and loss shall be crrosed-refrenced to any related information in the notes to accounts.  Notes are presented in a systematic manner and cross refrenced from the face of the financial statements to the relevant note, etc. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

SUMMARY  Definition of revenue : Revenue is the income generated from 19 normal business operations and includes discounts and All right are reserved with CU-IDOL deductions for returned merchandise. It is the top line or gross income figure from which costs are subtracted to determine net income. Sales Revenue formula. Revenue is also known as sales on the income statement.  Items not included inthe definition of revenue : Realised gains resulting from the disposal of, and unrealised gains resulting from the holding of, non-current assets, e.g,, fixed assets  Revenue producing activities : As stated earlier, revenue arise only from those activities that are designated business operations  These activities are known as earning process or operating cycle of a business enterprise, especially in a manufacturing concern  Activities which form part of the earning process or operating cycle of a manufacturing concern  Revenue recognition criteria Unit-5 (MBA604) www.cuidol.in

MULTIPLE CHOICE QUESTIONS Q1. Revenue is generally recognised when the earning process is virtually complete and an exchange has 20 taken place a) Consistency b) Matching c) Realisation d) Conservatism Q2. Rent revenue collected onemonth in advance should be accounted for as: a) Revenue in the month collected b) A current liability c) A separate item in stock holders equity d) An accrued liability Q3. Revenue recognition a) Takes place at the point of sale b) takes place when goods are received c) May take place after a goods order is received d) is an objectively determinable point in time requiring little or no judgement Q4. In what cases is it proper to recognise revenues prior to the sale of merchandise? a) when the revenue is to be reported as an b) when the concept of internal consistency instalment sale must be complied with c) when the ultimale sale of goods is at an assured d) when management has a long established policysales price to do so Ans: 1. (a) 2. (d) 3 (a) 4. (c) Unit-5 (MBA604) All right are reserved with CU-IDOL www.cuidol.in

FREQUENTLY ASKED QUESTIONS 21 Q1. What is revenue? Ans. According to Institute of Chartered Accountant of India: “Revenue is the gross inflow of cash, receivables or other consideration arising in the ordinary activities of an enterprise from the sale of goods, from the rendering of services, and from the use by others of enterprise resources yielding interest, royalties and dividends. Revenue is measured by the charges made to customers or clients for goods supplied and services rendered to them and by the charges and rewards arising from the use of resources by them. In an agency relationship, the revenue is the amount of commission and not the gross inflow of cash, receivables or other consideration.” For further Details Refer to SLM Q2. Which items are not included within the definition of revenue? Ans i) Realised gains resulting from the disposal of, and unrealised gains resulting from the holding of, non- current assets, e.g,, fixed assets ii) Unrealised holding gains resulting from the change in value of current assets, and the natural increase in the herds and agricultural and forest products For further Details Refer to SLM www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

REFERENCES 22  Accounting Principles Board, Statement No 4, Basic Concepts and Accounting Principles Underlying Financial Statements of Business Enterprises, NewYork: AICPA, 1970, p.50  Financial Accounting Standards Board, Concept No 6, Elements of Financial Statements, Stamford: FASB, December 1985, p 35  The Institute of Chartered Accountants of India, Guidance note on Terms Used in Financial Statements, New Delhi, ICAI September 1983, p. 19  Ahmed Belkaoi, Accounting Theory, Thomson Learning, 2000, p. 168  Eldon S Hendriksen, Accounting Theory, Irwin, 1984, p. 459  American Institute of Certified Public Accountants, Accounting Research Bulletin, No 43, AICPA, 1968. www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL

23 THANK YOU For queries Email: [email protected] www.cuidol.in Unit-5 (MBA604) All right are reserved with CU-IDOL