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Revenue is money earned by an organization. Businesses get it by selling products. The government receives it through tax collection. That’s why I don’t use the word “product sales” because, in the case of the government, they don’t sell products.
Its meaning in accounting
The meaning is slightly different in accounting and financial reporting. Revenue is not the same money that comes in. Your company may have recorded it in the financial statements even though it hasn’t received the payment.
Accrual accounting allows your company to do it. Your company can recognize revenue, regardless of when the money will arrive.
An example is accounts receivable. Your company has sent goods to customers but has not received the money. Instead, in the financial statements, as long as they are not paid, your company recognizes accounts receivables on current assets.
After the money comes in, your company eliminates accounts receivables and records cash. In short, revenue represents the potential money coming into your company. Why potential? Sometimes, customers do not pay (uncollectible accounts).
Accrual accounting is in contrast to cash accounting. Under the cash method, there is no difference in revenue and money coming in. This method recognizes revenue only if your company has received the payment.
Hence, accountants define revenue as a flow of economic resources that enter the company.
How to calculate revenue
Calculating revenue is relatively easy for goods. That’s a little more difficult for services. Using the basic formula, you can calculate it by multiplying the number of units sold by the price of goods or services. The following is the formula:
Revenue = Units sold x Price per unit
For example, say your company sells 10 units of products for Rp150 per unit. Your revenue is equal to Rp1,500.
As a note for you, the formula above refers to gross revenue. Your company must adjust it to several items for financial reporting. These include purchase discounts, sales returns, sales allowances, and amounts that are not possible to collect.
What are the types of company’s revenue
In financial statements, revenue is different from income. The last is another term for profit. Operating income means operating profit, so do with net income (or net profit). Income is your company’s revenue after deducting expenses.
Income = Revenue – Expense
Meanwhile, total revenue is the sum of operating and non-operating revenues. That includes:
- Sales
- Gain
- Investment benefits
All three represent the flow of economic resources into the company. And in general, revenue recognition arises when there is an increase in assets or a decrease in liabilities caused by providing products to customers.
You can see the revenue figure in the first row of the income statement because it is also called the “top line.”
Difference between operating vs. non-operating revenue
We call inflows from main activities as operating revenue. For example, carmakers report revenue when selling auto vehicles, on cash, or on credit. Similarly, the interest is operating revenue for banks. Because coming from main activities, they are more predictable than from non-operational activities.
On the other side, inflows from outside the main activities are non-operating revenues. Take the example of a manufacturing company. Revenue from the exchange rate gain and interest income falls into this category. Likewise, the sale of the company’s fixed assets is not included in the operating category. They are often unpredictable and unlikely to recur in the coming period. Therefore, you need to be careful in analyzing financial statements, especially when there is a surge in profit due to an increase in non-operating revenue.
Please note. Operating and non-operating categories vary between companies. That depends on their primary activities. In the example above, interest income is non-operational for manufacturers because it is not their core business. They don’t make loans, so they don’t generate interest. Such interest income might come from the money they deposit in the bank.
But, for banks, interest income is operating revenue. Banks get money from the interest on loans they charge to customers. So when a customer pays interest, it is an operating inflow for the company.
Difference between gross revenue and net revenue
I will briefly discuss two related terms:
- Gross revenue
- Net revenue
You calculate gross revenue by multiplying each unit of product or service sold by the selling price of each unit.
Meanwhile, net revenue is gross revenue after adjusting it to items such as discounts, sales returns, and amounts that are not possible to collect.
Let’s take an example. Your company sells 40 units of products for Rp200 per unit. Say, to increase sales, your company offers a 10% discount. From this example, gross revenue is equivalent to: Rp200 x 40 = Rp800. Meanwhile, net revenue is the same as: Rp800 x (100% -10%) = Rp720.
How does the company report it?
Two accounting methods for reporting revenues: cash accounting and accrual accounting.
Cash accounting recognizes revenues as the company receives cash payments. As long as they haven’t received money from customers, the company unrecognizes it as revenue in the income statement. So, in this method, revenue equals money coming in for the company.
Accrual accounting recognizes revenue as the company provides goods and services, even if money does not change hands. Accrual accounting does not always coincide with cash receipts. This method raises two accounts related to revenue, namely unearned revenue (or deferred revenue) and accrued revenue (unbilled revenue ) accounts.
Unearned revenues
Unearned revenue arises when a company has received cash but has not yet provided goods or services. Therefore, companies have an obligation to deliver goods or provide services to customers later on. To keep the accounting equation balanced, the company recognizes it in the liability section, as a contrary account to cash.
Furthermore, when customers receive goods or services, the company recognizes revenue. At the same time, it also eliminates unearned revenue from liability accounts.
For example, a newspaper company has received subscription payments for the next year. When payments are received, cash (in the assets section) and unearned revenue (in the liabilities section) increase by the same amount. When a company sends the magazine, they recognize revenue on the income statement and eliminate their unearned revenue by the same amount.
Accrued revenues
In financial statements, you may find it more often with the term accounts receivable.
The company reports accrued revenue when it has provided goods or services but has not yet received payment from the customer. This account appears in the assets section because it represents the flow of potential resources to the company.
When reporting it on the financial statements, at the same time, the company will also recognize revenue on the income statement. Thus, the accounting equation remains balanced as assets, and shareholders’ equity increases by the same amount.
Furthermore, when the company has received payment, the company recognizes it on a cash and cash equivalent account. At the same time, the company also eliminates accounts receivables in the asset section.
How to use it
When your company’s revenue grows over time, it’s a good sign of your company’s growth. The next question is the expense. Did the expense go down or up? When expenses grow lower than revenue, it indicates you are making a profit.
You can measure profitability using ratios:
- Gross profit margin
- Operating profit margin
- Net profit margin
You calculate this ratio by dividing gross profit, operating profit, and net profit with your company’s revenue.
The next question you need to answer is, where does the revenue come from? Is it from operational or non-operational?
Operating revenue comes from your company’s primary business. If your company is a manufacture, it comes from product sales
Non-operating revenue comes from non-core activities. For example, income from interest on deposits.
Ideally, your company should get it from operations because it indicates that your business is successful in selling products.
Finally, you can also use revenue figures to calculate market share. It is useful to know your company’s competitive position. If your product’s price is relatively the same as competitors and you have a larger market share, it indicates that your company is competitive.
