How to Recognize Revenue
In the United States, ASC 606 requires Generally Accepted Accounting Principles (GAAP)-compliant companies to record revenue adhering to a five-step process. Revenue can be recognized by following each of the steps below:
1. Identify the contract or contracts with the customer.
2. Identify the contract's specific performance obligations.
3. Determine the transaction price.
4. Allocate the transaction price to performance obligations.
5. Recognize revenue when you've fulfilled each performance obligation.
Why Revenue Recognition Might Be Difficult
Selling physical goods can make revenue recognition tricky. Revenue is recognized when the company has fulfilled each performance obligation. In the case of ecommerce, we often run into customers facing challenges with the following issues:
- Split Shipments: A customer orders multiple items that are fulfilled at different times. This means that revenue needs to be recognized on a unit level versus an order level.
- Pre-Orders: The company pre-sells units that are not shipped until a much later date. Depending on the order system this data will often show up in sales figures but should not be included in recognized revenue.
- Cancellations: A customer may place an order that is later canceled by the customer or the company for various reasons.
- Gift Cards: Similar to pre-orders and depending on the order system this data may show up in sales figures. However, gift cards represent a liability and a form of future payment that is unrelated to revenue recognition when the gift card is sold.
- Timing of Payment VS. Fulfillment: Depending on the company’s systems limitations we often see companies charge a customer’s credit card at the time of order instead of at the time of fulfillment. This can create complications in an accounting team’s process where traditionally a company fulfills an order, which then creates a receivable that is eventually paid and closed.
How Blue Onion Helps
Performance obligations are considered met when goods are shipped (not delivered) by default in Blue Onion.
- In the case of split shipments, Blue Onion recognizes revenue when each unit is shipped. Shipping revenue is recognized at the time of the order’s first unit shipment.
- For pre-orders, Blue Onion has a deferred revenue waterfall that allows customers to see what was ordered when, and how items were fulfilled (or are still unfulfilled) as of various dates. The application can provide backup to a deferred revenue amount on the balance sheet since balances can be traced to unit-level transactions.
- Cancellations are easily identified in Blue Onion and you can see when orders were placed and the timing of the cancellation, which can impact deferred revenue balances.
- Gift card movements including sales, refunds, and redemptions are tracked within Blue Onion
- Blue Onion separates out the reconciliation process from order through payment and order to fulfillment to provide users with the detailed data they need to close their books.
Each company is different and there are some differences in the revenue recognition criteria of ASC 606 and IFRS 15. We encourage all users to review their revenue recognition with certified accountants in their jurisdiction.
