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The Revenue-Recognition Rules Paradox

Technology-company CFOs see GAAP rules as more logical than those of IFRS — even if using the U.S. standards puts them at a competitive disadvantage.

CFOs at technology companies have a love-hate attitude toward revenue-recognition rules, which play a part in determining how financially healthy their companies appear. While they believe the rules for recording revenue under U.S. generally accepted accounting principles are superior to international financial reporting standards, at the same time they think GAAP puts them at a competitive disadvantage to foreign counterparts.

That’s the conclusion of a recent survey by BDO Seidman. Sixty percent of the 100 CFOs surveyed said GAAP has better revenue-recognition rules for tech companies than IFRS. “While they might view the [U.S.] standards as onerous, they understand them,” says Jay Howell, a partner in BDO’s technology practice.

At the same time, nearly half of the audit firm’s survey respondents believe the Securities and Exchange Commission created a lopsided advantage for their international competitors by allowing them to file financial statements prepared under IFRS without reconciling them to GAAP.

Under IFRS, a technology company can show revenue growth faster that it could when following GAAP rules. The international rules are generally considered more principles-based than GAAP — a debatable opinion overall, but one that proves true at least in the area of revenue recognition, where U.S. tech companies are governed by industry-specific rules and IFRS users are not.

For example, consider a software company that makes an extended license agreement with a customer over a five-year period and expects to collect $100,000 each of those years. Under IFRS, the company could record that revenue up-front, whereas a GAAP filer would have to account for the fact that the terms of the arrangement — and the expected payments — could change over time.

Indeed, IFRS enables companies to be more flexible about when they can record revenue and can usually do it sooner, according to Howell. That’s especially important for emerging tech companies, because their customers and investors use the revenue numbers as the main metric for valuing them.

The discrepancy between the accounting standards hit home for tech CFOs following the SEC’s December decision to no longer IFRS filings to be reconciled with GAAP. However, it could be resolved if the SEC follows up on a preliminary proposal issued last year to also give U.S. companies the option to submit IFRS-prepared filings with the commission. “Once you’ve allowed foreign companies to report without the GAAP reconciliation, I don’t see how you can continue to require U.S. companies to report under GAAP and allow the competitive differentials to exist,” Howell says.

On Friday, SEC chairman Christopher Cox said the regulator’s 2008 agenda includes devising a plan for transitioning U.S. companies to IFRS. However, only 38 percent of the CFOs surveyed by BDO said they would take up the SEC on such an offer.

Howell says the companies he works with have not yet given the option serious consideration, but that could change if they consider the competitive issue that the more widespread use of IFRS has created. “Over the next couple of years, the U.S. companies will be at a disadvantage,” he says.

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