Accrued Revenue

What is Accrued Revenue?

Definition: Accrued revenue consists of income that has been earned from customers but no payment has been received. In other words, a good or service has been provided to a customer, but the customer hasn’t paid for it by the end of the accounting period. Accrued revenues are recorded as receivables at the end of the year to reflect the amount of money the customers owe the business for the goods or services they purchased.

Accrued revenue is revenue that has been earned by providing a good or service, but for which no cash has been received. Accrued revenues are recorded as receivables on the balance sheet to reflect the amount of money that customers owe the business for the goods or services they purchased.

What Does Accrued Revenue Mean?

You can think of these revenues as the opposite side or the transaction from an accrued expense. When one company records an accrued expense during a period, the other company records revenues.

The most common form of accruals stems from monthly expenses like rent and utilities that are consumed throughout the month and paid on first of the following month. Rent is a good example. The renter benefits from the rent expense all month, but it doesn’t actually pay for it until the next month. According to the accrual basis of accounting, expenses must be recorded when they are incurred, not necessarily when they are paid. Thus, the renter should record an expense for its rental costs and the landlord should record revenue in the current month even though no payment has been made.

Accrued revenue is money your company has earned but hasn’t yet billed the customer for. It goes on the balance sheet as a current asset. In accrual-basis accounting, companies are allowed to record revenue on their income statement as soon as they have done everything required to earn it. If you do a $100 job for someone, you can “book” the revenue as soon as the job is done, before you even send a bill. Revenue flows from the income statement to the balance sheet, and in the case of unbilled revenue, it flows to accrued revenue.

Example

Tim’s Tackle Shop is seafood restaurant that rents out a storefront plaza for $2,500 a month on a local pier. Tim pays each month’s rent on the first of the following month. This means that Tim’s landlord, Blick Rental Co, doesn’t actually receive the rental payments until after the service has been provided.

At the end of the year, Blick’s income statement would show 11 rental payments from Tim since December’s rent wasn’t actually paid until January. Blick provided rental services in December, so he should show this earned income on the income statement. Blick records the accrual in an adjusting journal entry by debiting the accrued revenue receivable account and crediting the revenue account.

Why Accrued Revenue Matters

As you can see, accruing recognizes economic events in certain periods regardless of when actual cash transactions occur. Accruing revenue allows companies to reflect the fact that sales may have been made even if cash has not changed hands yet (as is often the case with sales made on credit and similar circumstances). This in turn produces financial statements that are comparable over time.

Although it is more complex, harder to implement, and harder to maintain than the cash method of accounting, most analysts agree that accrued revenue provides a more accurate picture of a company’s performance. That’s because in any given accounting period, revenues are associated with their corresponding expenses, which gives a truer picture of the operations in a given period.

However, one of the big drawbacks of accrued revenue is that it tends to obscure the nature of the company’s actual cash position (e.g., a company may show millions in sales but only have $10 in its cash account because its customers haven’t paid yet).

Accrued Revenue in Balance Sheet

It is shown as an asset on the balance sheet, but it’s not always as valuable an asset as liquid cash. This is because it takes effort related to billing and collection from the customer to convert accrued service revenue into cash. Having large amounts of accrued revenue in balance sheet can adversely impact the working capital cycle and can be a sign that a company isn’t efficient in getting its customers to pay for its services.

Recording Accrued Revenue

Accrued revenue is recorded in the financial statements through the use of an adjusting journal entry. The accountant debits an asset account for accrued revenue which is reversed when the exact amount of revenue is actually collected, crediting accrued revenue. Accrued revenue covers items that would not otherwise appear in the general ledger at the end of the period. When one company records accrued revenues, the other company will record the transaction as an accrued expense, which is a liability on the balance sheet.

When accrued revenue is first recorded, the amount is recognized on the income statement through a credit to revenue. An associated accrued revenue account on the company’s balance sheet is debited by the same amount, potentially in the form of accounts receivable. When a customer makes payment, an accountant for the company would record an adjustment to the asset account for accrued revenue, only affecting the balance sheet. The accountant would make a journal entry in which the amount of cash received by the customer would be debited to the cash account on the balance sheet, and the same amount would be credited to the accrued revenue account or accounts receivable account, reducing that account.

Which Companies Have Accrued Revenue?

Just about any business that supplies goods or services before receiving payment will have accounts receivable. Accrued revenue is common in companies that don’t send invoices on a constant basis, which includes many service businesses, as well as those that earn revenue in stages but don’t bill until a project is completed. Manufacturers, retailers and other businesses that send invoices with shipments tend not to have accrued revenue, since their revenue is billed as soon as it’s earned.

Summary

  • Accrued revenue is a product of the revenue recognition principle which requires that revenue be recorded in the period in which it is earned.
  • Accrued revenue is recorded with an adjusting journal entry which recognizes items that would otherwise not appear in the financial statements at the end of the period.
  • It is commonly used in the service industry, where contracts for services may extend across many accounting periods.

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