Accounting Business Reporting for Decision Making

232 Accounting: Business Reporting for Decision Making

• Measurement uncertainty. If measurement of an asset or a liability can be obtained, but the level

of measurement uncertainty is high, impacting the relevance of the information. For example, the

economic benefits are derived from modelling diverse scenarios with numerous assumptions and esti-

mations so that the reasonableness of the estimation is questionable.

If the uncertainty surrounding existence is high, the probability of inflows or outflows of economic

benefits is low or measurement uncertainty is high, then it is less likely that the asset or liability, and

hence income or expense, will be recognised.

Income (revenue) recognition

The determination of when an increase in assets or reduction in liabilities has arisen, and hence when

income can be recognised, can be difficult and demands consideration of relevance assessed with refer-

ence to uncertainty, probability and measurement. Consider the following transactions: (1) a customer

made a 50 per cent non-cancellable deposit for goods worth $5000; and (2) a customer made a $10 can-

cellable deposit for goods worth $5000. The inflow of economic benefits associated with collecting the

remaining cash for the $5000 of goods sold are less likely to have arisen in the scenario of the customer

paying a $10 deposit. For income recognition purposes, the first transaction would result in income of

$5000 being recognised in the statement of profit or loss for the reporting period, but the probability

factor would be unlikely to be satisfied in the second transaction.

It is difficult to be prescriptive as to the appropriate point in time when income should be recognised.

In fact, accounting standard setters have been grappling with producing a standard on revenue recognition.

Instances of earnings management where income has been recognised in earlier rather than later reporting

periods (to increase earnings) have focused regulators’ attention on the income recognition policies used by

entities. To determine whether income should be recognised, consideration should be given to the following.

• Does an agreement for the provision of goods and services exist between the entity and a party

external to the entity?

• Has cash been received, or does the entity have a claim against an external party that is for a specified

consideration and is unavoidable without penalty?

• Have all acts of performance necessary to establish a valid claim against the external party been completed?


• Is it possible to reliably estimate the collectability of debts?

A positive response to all of these questions would result in income being recognised in the statement

of profit or loss. However, it is not necessary for all the suggested tests to be satisfied for income to be

recognised — it depends on the circumstances of the situation.

Reporting entities generally disclose their income recognition policies in the notes to the accounts

that summarise their accounting policies. JB Hi-Fi Ltd discloses its revenue recognition policies

in note 1(u). These notes are reproduced in the appendix to this text. Examining JB Hi-Fi Ltd’s

accounting policy, note 1(u) reveals that the company measures revenue at the fair value of the con-

sideration received or receivable, with amounts disclosed as revenue being net of returns, trade allow-

ances, rebates and amounts collected on behalf of third parties. Figure 6.3 identifies the specific

recognition criteria that must be met before revenue associated with the sale of goods, interest and

dividends is recognised.

(i) Sale of goods — retail

Revenue from the sale of goods is recognised when the Group has transferred to the buyer the significant

risks and rewards of ownership of the goods. Risks and rewards are considered passed to the buyer at the

point of sale if the goods are taken by the customer at that time, or on delivery of the goods to the customer.

(ii) Subscriptions

Revenue from the sale of subscription services is recognised on a straight-line basis over the period of

the subscription, from the date of activation until expiry, reflecting the period over which the services

are supplied.