It's the biggest item in a financial statement, and the most frequent cause of restatements. Elements of its generally accepted accounting principles appear in over 200 pronouncements from half a dozen standard-setters. It causes confusion. It shakes the market. It tempts fraud.It's the perpetual and dizzying headache called revenue recognition - and even the Conceptual Framework of the Financial Accounting Standards Board can't agree with itself on the nature of the beast.

For all of these reasons, and others, FASB is grappling with this huge issue, and though progress has been slow, it is still moving forward.

"The board is concerned that we produce something that is operational and not just a bag of rules, something that really reflects what's going on," said FASB senior technical advisor Todd Johnson. "There's all sorts of guidance out there in all sorts of places, so one thing the board really wants to do is come down to one model that is generally applicable to all kinds of revenue situations."

Current GAAP is derived from pronouncements issued not only by FASB, but by its predecessor, the Accounting Principles Board. Other standards have been promulgated by the Accounting Standards Executive Committee of the American Institute of CPAs, FASB's Emerging Issues Task Force, and the Securities and Exchange Commission.

These disparate sources of principles present the preparers of financial statements with the daunting task of not only finding the rules that apply to their situation and their industry, but also resolving inconsistencies between conflicting standards. Many pronouncements were written for specific industries or specific types of transactions, so their standards often do not transfer clearly to other industries or transactions.

It's no surprise, therefore, that problems with revenue recognition are the leading cause of restatements. Most, of course, are born of innocent confusion, but the lack of clarity also opens the door to financial subterfuge.

The core problem within the revenue recognition conundrum is an inconsistency in FASB's Conceptual Framework. The framework's Concepts Statement 5 presents a notion of realization and the completion of an earnings process, while Concepts Statement 6 presents an incompatible definition of revenues. The conflict can result in the recognition of deferred debts and credits that does not meet the definition of assets and liabilities.

In that the earnings process and realization have yet to be defined precisely and in a manner that can be applied across a range of industries and transactions, the board has tentatively decided to pursue an approach based on changes in assets and liabilities, following the guidelines of the definition in Concepts Statement 6.

An earlier attempt to break down transactions and contracts into components and measure them at fair value became too complicated and inaccurate, so the board has, for all purposes, dropped the idea.

"They've run into a lot of difficulties and concerns about the ability to measure many assets and liabilities at fair value that you would have in a revenue contract," Johnson said. "The concern is that prices might not be available in an observable market where you see transactions taking place. That would require having to estimate the numbers, and given the sensitivity of revenue numbers, they were a little queasy about that."

The board has been quelling its queasiness by analyzing an approach that would use the amount of customer consideration that is promised in a contract and then allocating it in some fashion.

That allocation - the breaking up of a contract into components or stages or some other division that allows revenue to be recognized as value that is transferred to a customer - is one of the thornier problems the board has yet to work out.

High-technology contracts involving complex combinations of hardware, software, installation, upgrades, instruction, support and maintenance stretch concepts in revenue recognition. The transfer of value may extend over the course of years, with some components offered "free" and others with fair values that would be difficult to accurately ascertain. Despite the many elements of such a complex, long-term transaction, the sale may be bundled under a unitary price.

Reworking the framework

Even as FASB works on revenue recognition, it's also working on an overhaul of its Conceptual Framework. The latter project, in fact, was begun after the former was underway. The board will probably revise the related parts of Concepts Statements 5 and 6 as part of the revenue recognition project.

"It has always been contemplated that the revenue recognition project would deal with some conceptual issues, focusing on, for example, how you would define revenue and what the concept would be for recognizing revenue," Johnson said. "I don't know where they'll end up being handled, in revenue recognition, as originally planned, or under the umbrella of the Conceptual Framework project, but it doesn't make too much difference, because it's the same board members voting on the same issues."

He added that the eventual standard will not change revenue recognition in any sweeping way. Rather, it will establish principles that will apply across industries and business models, overriding the hodgepodge currently in effect.

Both projects are being deliberated in conjunction with the International Accounting Standards Board, with the goal of producing nearly identical standards. FASB expects its first pronouncement to be a preliminary views document issued in the second quarter of 2007.

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