The Harry Potter advance booking frenzy that has taken hold of bookstores on either side of the Atlantic may say much about the reading preferences of today's children. But it has also raised questions about revenue recognition.
A new Accountancy Standards Board revenue recognition exposure draft to be released next week, is designed to clamp down on companies that book revenue ‘beyond the edge of acceptable behaviour’.
Four months before the publication date of Harry Potter’s fifth adventure, all large bookshop chains have started to take advance bookings in a bid to cash in on JK Rowling’s success.
The Order of the Phoenix will be published on 21 June.
It is the first sequel to be published since the release of the two blockbuster Harry Potter films and comes complete with expectations that it will top all previous books sales records.
A pre-launch frenzy unprecedented in the book publishing industry has gripped the sector with bookstores shelling out on marketing campaigns and promotions to attract a maximum of potential buyers.
The problem is this. If a company books revenues based on till receipts, every pound in the till reflects a sale. But money received for a deposit should generally reflect a liability, not a sale, because the goods have yet to be delivered.
In the Harry Potter case, some bookshops have avoided the revenue recognition issue by postponing all money exchange until the book can actually be dispatched.
Internet bookshop Amazon – for instance – is taking early bookings at a 50% discount on the £16.99 list price of the book.
However, it will ‘not charge pre-bookings to customers’ bank accounts until the books are being delivered,’ a company spokeswoman explained.
But in high street bookstores the Harry Potter pre-booking transaction is less straightforward.
Waterstone’s, Borders and WH Smith require customers to pay a deposit of a couple of pounds.
And, of course, any transaction – be it a deposit, sale, refund, or exchange – needs to be accounted for. When there is money exchanged, there needs to be an entry into the books.
But none of the three big high street booksellers would say this week how the deposit revenue was being recorded in their books – as revenue or as a liability.
Retail organisations typically record revenue through automatically generated journal entries based on the recording of cash going into cash registers.
However, today’s advanced systems no longer assign every pound received in the till to a sales account.
They are capable of distinguishing different sales groups, and can accurately recognise deposits for booking correctly as a liability instead of revenue.
But in these systems deposits can only be booked correctly, provided that staff are trained to hit the ‘deposit’ button whenever they make a pre-sale, and the till system assigns this to a balance sheet account in the ledger account.
Neither Waterstone’s, Borders nor WH Smith would say whether their staff had been trained to handle Harry Potter pre-sales in this way.
An infamous example of flawed revenue recognition relating to deposit transactions, involves troubled travel company MyTravel.
Last year it had to patch up a #71m hole in its accounts when it found it had used deposits to prematurely book revenue on insurance policies.
This is one of the incidents that has prompted the ASB to take action on revenue recognition.
‘MyTravel is a good example to mention in relation to revenue recognition. As soon as customers walked in with a deposit, it booked revenue, even though customers hadn’t been on holiday,’ says Mary Keegan, chairman of the ASB.
Keegan, has little doubt about the Harry Potter deposits: ‘If a bookstore takes a deposit, it has got a liability until it has delivered the book.’
Work by the ASB on revenue recognition comes after it became convinced that companies in the UK were booking sales too early.
Such is the worry with revenues that the ASB is pushing ahead to develop an interim standard and reversing its original position of waiting for the introduction of international standards in 2005.
‘The new ASB guidance on revenue recognition will make it clear that companies cannot report turnover until they have performed in accordance with the contractual arrangement with their customer,’ says Keegan.
Business has clearly gone through trends in revenue recognition and senior industry players have noticed how caution in this area can vary enormously.
In the mid-eighties people were noted for being cautious about revenue recognition, probably because it was a booming economy.
In the mid-nineties – when the economy was less buoyant – people became less cautious and now, following last year’s scandals in the US, people are becoming more cautious once again.
Some believe revenue recognition is mostly down to having ‘good judgement’ in line with the tradition of particular trades or industry.
In addition, there must be clarity about the accounting methods that have been used. If there is clarity, then people reading the accounts must be able to see what judgements have been made.
Peter Holgate, senior technical partner at PricewaterhouseCoopers, points out that if bookstores are following the revenue recognition principles, they are likely to incur losses on their Harry Potter promotions until the book comes out in June.
He explains that although the bookstores cannot book the revenue, they will ‘certainly have to write off marketing costs off as and when they are incurred’.
Holgate adds that revenue recognition in the case of the Harry Potter pre-sales was simple compared with sales in other industries.
‘It’s a physical delivery – you book revenue on delivery of the goods. Revenue recognition is less clear in, for instance, media or software sales,’ he warns.