Let's talk about the revenue piece of the income statement. Again revenues are increases in owners' equity from selling products or services to customers. When can a company record revenue? Very important question that we need to answer. Simply speaking, there are two criteria. The first one is that the revenue has been earned. In other words, the delivery of a product has occurred or the services that the company provides, have been rendered. So the company has earned the right to record the revenue. And the second criteria is that it is realizable. Or in other words, a cash payment or something that can be converted into cash has been received. I like to also say that this means that the collectability is reasonably assured. You're reasonably sure you're going to eventually get the cash. In recording revenues, it's important for us to remember the implications of accrual accounting. Remember with accrual accounting, we record transactions when they occur irrespective of when the cash changes hands. We're doing our accounting under accrual accounting, in accordance with US GAAP here. So there are times when we might record revenue, even if we haven't received the cash from the customer. Because we've earned the revenue and we're pretty sure we're going to collect the cash. Or there are times where we might collect cash from a customer, but haven't yet delivered the products or the services. So we can't record revenue because we haven't yet earned it. So important to remember these implications of accrual accounting. Let's illustrate with some examples. How much revenue should be recorded by the company in the year ending December 31st? First example. In November, LL Wholesale delivers products priced at $5,000 to a customer who pays $5,000 of cash upon receiving the products. I love this one. It's so simple, right? Has it been earned? Yes, the company delivered the products. Is collectibility reasonably assured? Absolutely, because the customer's already paid cash. So yes, we can record revenue here. Very, very simple. We're pretty sure about that one. Let's go to example two. In November, the same company delivers products priced at a total of $5,000, to a customer who will pay for them in February. This is a little bit different. We're still delivering the products, they're still priced to the total of $5,000, it's still happening in November, but the company is not going to pay for them until February. The customer is not going to pay for them until February. Well, has the revenue been earned? Yes, LL Wholesale has delivered the products. Is collectibility reasonably assured? Well, assuming this is a regular customer who typically pays on time and things of that nature, yes. The customer's promised to pay for them in February, so the company can go ahead and record the revenue. But Rather than recording that it received cash, it will just record that it has an asset called accounts receivable. Example three. In November, a customer pays LL Wholesale $5,000 in cash for products that will be delivered next February. Wow, this company has a lot going on in November, doesn't it? I wonder what it does the rest of the year. But in any event, the customer pays $5000 in cash. So LL Wholesale has received cash so collectibility is assured. They've collected the cash. What about the second criteria? Has LL Wholesale earned the revenue? No, it has not. It hasn't delivered the products. It will do so in February. So we may not record revenue in November for this particular transaction. It would just record an increase in cash. But then of course, it now has an obligation to provide products and services, so it will have to record a liability as well. Example four, still working in November. LL wholesale receives $5,000 in cash from a customer, for products that were delivered a year ago, in the prior accounting year. Wow. Well my guess is they recorded the revenue in the prior accounting year, because they delivered the products that last December. And probably recorded in accounts receivable because they were pretty sure they were going to collect from the customer. So LL Wholesale will not record revenue again this period, it will just record a decrease in its account receivable asset. And an increase in its cash account. So no revenue will be recorded in Example four, in the current accounting year.
