Revenue Reporting for E-Commerce Companies; Gross vs. Net Revenue
The FASB Accounting Standards Codification ™ (ASC 605-45, Revenue Recognition: Principal Agent Considerations) states that there are two acceptable methods in presenting revenues on the face of the financials, gross and net. When referring to the gross amount that should be reported in the financial statements, it is the amount that is “billed to a customer because it has earned revenue (as a principal) from the sale of the goods or services.” While the net amount presented is the amount “retained (that is, the amount billed to the customer less the amount paid to a supplier) because it has earned a commission or fee as an agent.”
The difficulty in making the determination of gross versus net reporting is that many companies that operate in the e-commerce space do not (a) assume all the risks and rewards of ownership/title of the products they sell before entering into the sales transaction, or (b) bear all of the responsibility to provide the goods or services they sell. Through contracts or by operation of the business, some or all of these risks and responsibilities remain with the supplier of the goods or services.
ASC 605-45 lists several indicators to help companies perform gross versus net reporting analysis for each revenue stream. When choosing a method of reporting revenue, one should be evaluating each indicator on a qualitative basis. These indicators include:
Indicators of gross reporting:
|The entity is the primary obligator in the arrangement;|
|The entity has general inventory risk;|
|The entity has latitude in setting the price charged to the customer;|
|The entity changes the product or performs part of the service;|
|The entity has discretion in supplier selection;|
|The entity is involved in determining the product or service specifications;|
|The entity has physical loss inventory risk; and|
|The entity has credit risk.|
Indicators of net reporting:
|The entity’s supplier is the primary obligor in the arrangement;||The amount the entity earns is fixed; and||The supplier has the credit risk.|
None of the above indicators are determinative or presumptive, but certain factors should be assessed as carrying more weight in this evaluation. For example, if the entity is responsible for providing the product or service (“primary obligor”), this is a strong indicator that the entity is a principal in the transaction and should record revenue on a gross basis. Another strong indicator that the entity is the principal in the transaction is if the entity has assumed unmitigated inventory risk. Weak indicators of gross reporting are physical inventory loss and credit risk. On the other hand, if the supplier, not the entity, is responsible for fulfillment, it is likely that the entity’s role in the transaction is that of an agent, and revenue should be recorded on a net basis.
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