Approximately 40% of quoted UK software companies have revenue-recognition policies rated as poor by accountant Ernst & Young.
While the proportion of companies rated between good and excellent has increased from 38% in 2001 and 60% in 2002, a study of 40 companies showed that 20% still follow a poor policy, and a further 20% were judged to be very poor. The accountant made these critical judgements where it felt that the companies’ policies lack the transparency for stakeholders to understand when, and how, revenue is recognized.
Ernest & Young said that software companies should adopt the principles in Statement of Position (SOP) 97-2 under US GAAP. This comprises four basic principles that persuasive evidence of an arrangement with the customer exists, that delivery and acceptance has occurred, that the seller’s fee is fixed or determinable, and that collectability of the money is probable.
Ernst & Young said that of the four criteria, the two omitted most often are the need for proof that the fee is fixed or determinable, and collectability is probable. It said that many companies do not explicitly require a signed contract or purchase orders before recognizing revenue.
While adopting the principles might be revenue-reducing in the short-term, Ernst & Young said it would bring greater stability, reliability and certainty in revenue flows. It also creates a lower risk of having to restate revenue and creates greater confidence among investors.