Business owners need to understand the difference between matching and revenue recognition principle. Even a base understanding will go a long way in determining how much your company makes in the long-term. Get your financial reports in order by understanding the true value of your profitability.
What is Revenue Recognition?
The validity of income data depends on the guidelines and tools used to record your numbers. Whatever guidelines you follow should be hardcoded into your company long before you sign off on any big deals. This also pushes your company hard into whatever direction it chooses to recognize revenue, whether that is through a product or service. Revenue recognition does not require money to change hands before the sale is recorded as completed. That means that once a company completes a job, it is recorded as a sale even if the job isn’t paid for. This give and take relationship is still at the mercy of how you choose to validate your income data.
Matching Principle
Matching principle ties revenue to the period of time it is generated and whatever expenses were required to settle the process. With matching principle, you get a truly accurate way of calculating revenue. You also have the option of attaching matching principle procedures to projects of all sizes, including long term initiatives. Matching principle is more of a uniform approach to handling revenue, and will help identify out of control operating expenses. As a whole, you can use matching principle to get accurate financials on noncash and cash expenses. Any experienced financial manager that has years with depreciation or amortization procedures can get up to speed faster when matching principle is the main process.
How Are They Different?
Revenue recognition uses preset rules to help a company post income data. Both cost items and revenue are required to get correct financial data. On the surface, this is the ideal way for most companies to crunch large numbers in the fastest way possible. The downside to this is how often the numbers can change when you finally factor in unpaid contracts vs. paid.
With matching principle, the profitability equation changes slightly in favor of flexibility. You have less financial wiggle room ‘on paper’, but will no longer be at the mercy of old financial data. It is consistent, and ensures that your financial statements carry weight. This is of course a less attractive option if you want to show investors an inflated value of your company. With every little bit counting, matching principle shows an accurate depiction of your business, but revenue recognition props up the higher points of your success.
But no matter how you look at it, when you strip the vanity of financials, matching principle is the fit for long-term accuracy. As a company, it is up to you to decide which method benefits your bottom line.
Wrap Up
There is no such thing as an easy way to crunch numbers that are vital to your company’s financial health. If the task was simple, there would be industry wide balance with every company’s liquidity and profitability. Respect the complexity of matching and revenue recognition principle, and you’ll always be one step ahead.
