Revenue recognition is the set of accounting rules, codified in the U.S. under ASC 606, governing exactly when and how much revenue a company can record for a sale, based on when it actually delivers value to the customer rather than when cash is collected.
For a simple one-time sale, recognition is straightforward: revenue is recorded when the product or service is delivered. It gets more complex for subscriptions, bundled products, or long-term contracts, where ASC 606 requires breaking the contract into distinct performance obligations and recognizing revenue as each one is actually satisfied.
Getting revenue recognition wrong is one of the more common accounting mistakes at a growing company, especially one selling multi-year contracts or bundled packages, and it's exactly the kind of thing that gets restated during diligence if it wasn't handled correctly the first time. Worth setting up properly with an accountant early, rather than fixing it retroactively across multiple years of contracts.
Every revenue decision under ASC 606 runs through the same five steps:
Revenue is the number investors and acquirers price you on, so it's the number diligence checks hardest. If revenue was recognized too early, a quality-of-earnings review restates it, and the restated figure is the one the deal uses. Setting up contracts, invoicing, and deferred revenue correctly as you sign customers costs far less than unwinding years of it later.
Illustrative. Whether a service is distinct, and how to allocate the price, depends on the contract's terms.
Identify the contract, identify the performance obligations, determine the transaction price, allocate the price to the obligations, and recognize revenue when or as each obligation is satisfied.
Ratably over the subscription period, as the service is delivered. An annual prepayment is recorded as deferred revenue and recognized month by month.
Any company that reports under GAAP does, private companies included. Even before an audit, investors and acquirers expect revenue to follow it and will restate it if it doesn't.
Yes. It's cash collected for work you still owe the customer, so it sits on the balance sheet as a liability until the revenue is earned.
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