The primary objective of any business entity is to sell its products and services to earn revenue against them. Any business or individual adopts certain activities to create a stream of money or funds to meet their needs and save the excess money for the future.
When the companies prepare the financial statements to report their income and financial results, revenue is the primary and most significant figure. Therefore, it is important to understand different types of revenues, their recognition, and their calculation for any business entity.
This article will be all about the revenues. We will discuss the types, examples, definitions, and calculations of revenues for a business entity operating in any industry. So let’s get started.
What Is Revenue?
Revenue, in the most simpler terms, is the sales proceeds of any business entity. Or it can also be defined as the amount credited to a business entity’s account for the services or products sold to the customers.
The revenues of any business entity are the net sales proceeds that are realized and recognized in the company’s accounts by selling a product or service to the customers. Revenues of a company are gross sales proceeds for a specific financial period.
Revenue is also synonymously used with the income of the company. However, there is a clear difference between the two that we will discuss later. The revenue of the company is recorded as the first line item in the income statement.
The revenues of a company might be cash revenues or credit revenues. The reason behind it is that not all sales made by a company are cash sales. Instead, some of the customers purchase goods or services on credit and pay for them in the future. The sale has been executed, but the revenue has yet to be collected. The customer becomes a debtor, and revenue is credited to the company’s accounts.
Criteria Of Revenue Recognition
A business entity can record and recognize the incoming proceeds as revenue when a certain criterion is met. The revenue recognition principle of accounting says that’s the business entity must recognize the revenue amount when it is earned and not when it is received. Besides, the following criteria must be met to record revenue:
- A critical event must have triggered the transaction process. The critical event refers to the exchange of value between the seller and buyer of the product or service.
- The sales proceeds or amount received against the product or service must be measurable. It implies that there should be a certain level of reliability and validity. The degree of reliability implies that the price paid for the product or service should represent the price tag or value of the product.
Difference Between Revenue And Income
Revenues and income are often interchangeably used in a common language. However, the accounting meaning, context, and background of both terms are completely different.
Revenues are the sales proceeds received by a business entity by selling goods or services. The operating, direct and indirect expenses, taxes, etc., have not been deducted from the revenues.
On the other hand, the income of the company is net of all expenses. The profit of the company is its income. It represents what has been left from the revenues. This amount is achieved after settling all the due and current expenses of the business entity.
The crux of the difference between these two items is:
- Income and revenue are distinct items of a business entity that cannot be substituted by each other. There exist a difference in meaning, context, and calculation.
- The revenues are net proceeds of sales, and income is the difference of sales & all the expenses, direct and indirect.
- Revenues are the top line item in the income statement. It is the first point in an income statement. On the other hand, the income is the result of the income statement. It is recorded as the bottom line item of the income statement.
Different Type Of Revenues
There are different types of revenues based on the operations, cash or credit, and based on recognition. We will explain each type of revenue that your business might be recording in accounting books.
Operating revenues are the gross sales proceeds that a company receives from undergoing activities mentioned in its memorandum of association. In other words, the operating revenues are those that the company earns by selling the main product or service to the customers. For instance, if a garments company is selling the apparel, the proceeds from sales will be the operating revenue.
All business entities do not just operate in their main business. Most of the companies go for other investments like financial securities, bonds, etc. The interest received on the bonds or dividend received on the stocks is not earned from the business’s day-to-day activities. Therefore, such amounts are revenue of the company but non-operating revenue. The non-operating revenues are recorded in the income statement after the operating revenues.
As mentioned earlier, not all the sales made by a company are cash sales. Some of the sales proceeds get pending as the sales are made on credit. The revenue of such sales becomes accrued revenue for the company. The product has been sold, or the service has been provided. However, the customer has yet to pay the price of the product or service.
Some customers pay the companies in advance for the product or service. This commonly happens in services businesses or insurance companies. The company receives the subscription amount of service at the beginning of the financial year. However, the revenue is earned throughout the period. The unearned revenue is recorded as the liability of the company. The company keeps on crediting the amount to sales and debiting the liabilities as the revenues are earned over time.
How Revenues Differ Across Industries?
Different industries record revenues based on their operations and the nature of the business. We can divide the revenues across various industries into four major groups:
Revenue for Manufacturing Companies
The main operations of a manufacturing company are to manufacture or produce the product and sell it to the customers(B2B or B2C). Large corporations have their own distribution channels. However, SMEs usually produce and sell the products to wholesalers or retailers. Therefore, the revenues of the manufacturing companies are calculated by taking the selling price of each unit. It is multiplied by the number of units that have been produced and sold during the financial period.
Revenue for retail companies
Retail companies are the reseller companies that sell the products to the end-users or consumers. The revenue of these companies is the selling price per unit multiplied by the number of units sold.
Revenue for service businesses
Services businesses earn revenue by providing services to customers. Most services businesses have monthly/annual fees or subscription charges. The revenue of such firms is calculated by multiplying the number of subscriptions by the price per subscription.
Revenue for financial institutions
The banks or financial institutions earn the revenue by accepting deposits or issuing funds to the customer. The revenue comprises the interest received on loans and service charges for other banking facilities.
There are other commission-based businesses as well. For instance, the revenue of a realtor will be a commission received on selling a property.
Different Types Of Revenue Accounts
Different revenue accounts are maintained in a company’s accounting books. The most common accounts are as follow:
- Rent Revenue
- Dividend Revenue
- Interest Revenue
- Contra Revenue for sales returns and sales discounts
- Unearned revenue
- Accrued revenue
- Services revenue
A business entity might record all or some of these revenue accounts based on the business’s operations, scale, and nature.
How To Calculate Revenues?
Now we will discuss a calculation of revenues for different types of business entities.
Revenues For Manufacturing and Retail Businesses
The revenues for manufacturing businesses are calculated by using the same methodology. The number of units sold is multiplied by the price per unit. However, there are some calculations required to find the number of units sold.
Gross Revenue = number of units sold X Price per unit
Net Revenue = Gross Revenue – Sales Discounts – Sales Returns
However, there is a difference in the calculation of the number of units sold.
Number of units sold for manufacturing business
Number of units sold = Opening Inventory + Units Manufactured – Closing Inventory
Number of units sold for retail business
Number of units sold = Opening Inventory + Units Purchased – Closing Inventory
Revenues For Service Businesses
For a services business, the revenues are calculated as follow:
Gross Revenue = number of subscriptions X Price per subscription
Net Revenue = Gross Revenue – Refunds and claims
The number of subscriptions for any financial period is calculated as follow:
Number of units sold = Existing Subscriptions+ New Subscriptions
We have discussed the revenues in very detail and compared them with the income of a business entity as well. By reading the blog, you will understand different types of revenues and revenue differentiation across industries and business nature.
Regardless of which industry or business entity, revenues are the most important figure for a company. Revenue is the basis for the continuity of a business entity and the realization of the going concern principle of accounting.