Financial Education

In a document titled “Report Pursuant to Section 704 of the Sarbanes-Oxley Act of 2002,” the U.S. Securities and Exchange Commission noted that:

Improper accounting for bill-and-hold transactions usually involves the recording of revenue from a sale, even though the customer has not taken title of the product and assumed the risks and rewards of ownership of the products specified in the customer’s purchase order or sales agreement. In a typical bill-and-hold transaction, the seller does not ship the product or ships it to a delivery site other than the customer’s site. These transactions may be recognized legitimately under GAAP when special criteria are met, including being done pursuant to the buyer’s request.

By booking revenue before the customer has accepted delivery of the goods or services in question, a company recognizes revenue earlier than it otherwise would. To the extent that investors expect the company to earn a certain level of revenue in a period, or to the extent that salespeople are compensated based on target sales levels, this accounting practice is considered aggressive.

Ways to identify potentially aggressive revenue recognition include monitoring the relationships between sales and accounts receivable, and sales and deferred revenue or income. Significant variations in these ratios may be a signal that the company’s revenue recognition practices may be changing over time.

For more information, see all articles on: Accounting, Adjusting Reported Financial Statements, Analyzing Press Releases, Fundamental Analysis, Investing in Stocks, Ratio Analysis

See also:

The Cash Cycle

Gross Profit Defined

Shares Authorized, Issued and Outstanding

Accounts Receivable Turnover and Days Sales Outstanding

The 3-Stage DuPont Model