What is revenue recognition? How important is it for your car wash business’ profitability?
Wikipedia defines revenue recognition principle as “a cornerstone of accrual accounting together with matching principle”.
For easier understanding, let’s define the terms mentioned above:
Accrual accounting – is the recognition of economic transactions regardless of when cash transactions occur.
Matching principle – directs reporting of the expense on the income statement in the same accounting period as its revenues.
This revenue recognition principle thus, can help business owners like car wash owners determine the accounting period in which expenses and earnings should fall. It states that revenues can be realized without effect to the time that cash is received. This is important for owners of service businesses who should recognize their earnings when the service is performed regardless of when the payment is made. This is differentiated from that of cash accounting principle, where revenues are recognized on the time of payment and not when goods and services are sold.
When a car wash business does not use a consistent principle in accounting, it can result to unbalanced sheets or business loss and can thus affect the overall success of the business. Revenue recognition should include unearned revenue. Brighthub.com, in one of its finance articles stated that this type of accounting includes advance payments for labor, unearned subscriptions, security deposits, etc.
To illustrate this, once an advance payment is made, a liability account should be created on the books of record, (example : date/security deposit received/amount). This doesn’t end here, upon performance of the service, another entry should be made on record tagged as a revenue or income this time, (example: (date/service performed/amount).
In simpler terms, this principle helps to make accounting processes more objective in terms of reporting revenues and expenses. It gives importance to the amount recognized as revenue as the amount that will ultimately be realized in reference to a certain accounting period.
Revenue Recognition can be your business guide
This principle can serve as a guide to help business owners record their transaction entries methodically, thus leading to a more consistent business operation. It will yield a more realistic appraisal of the expenditures and earnings in a given accounting period. When this happens, the business owner can have more control over the business. Thus, he can make wise decisions if a certain marketing strategy or promotional concept is working or not. Looking at more reliable financial records can also be a good gauge to expand the business or postpone plans for expansion.
It can help you recognize revenues
The revenue recognition principle teaches business owners how to recognize revenue by looking at records. To illustrate this, we look at John’s Car Rental ordering 1 box of Ultra Car Wax from Car Wash X on January 1, 2016. Car Wash X delivers this order on January 10, 2016, and John’s Car Rental subsequently receives the order on the same day. However, the payment made my John’s Car Rental was not made until February 1, 2016. The records of Car Wash X should show that the revenue was made on January 10, 2016 because this was the date that the revenue has been recognized. In effect, it can help business owners to assess if they are meeting their targets or not. If one does not have an accurate and balanced sheet, it will be difficult to determine if one has achieved or even surpassed goals.
A reflection of the true state of your business
Lastly, it allows you to see the true extent of revenue earned during a specific period of time. This is as evidenced by the business activities and not just a focus on the cash in flow statement or cash transactions. Cash inflow statements, as many can attest may prove to be not an accurate measure of business status as this can be quite volatile over various accounting periods.
There is still a lot to learn about how revenue recognition can boost your car wash profitability. The best way for you to learn about these accounting concepts and principles is to team up with the experts in the car wash industry. With the right people and the right company, your car wash business is ready to dominate the market.
Consult with DetailXperts today. Send us your questions and we will be glad to offer assistance from start up to actual management issues even accounting and marketing strategies. Realize your car wash success story, now!
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