Essay on Informix Revenue Recognition

5781 Words 24 Pages
MEMORANDUM

Re:      Group 2 - Case 2.1 “Software Revenue Recognition: Informix Corporation”

Companies following GAAP can manage earnings by simply altering its accounting policy to select those accounting principles that benefit them the most. Entities have a host of reasons for selecting those principles that will paint the rosiest financial picture. Some would argue that the market demands it, as reflected by the stock price punishment for companies that differ by as little as one penny per share from prior estimates. External market pressures to “meet the numbers” conflicts with market pressure for transparency in financial reporting.
Most fraudulent financial reporting schemes involve “earnings
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The nonrefundable license fee contracts were recognized at contract signing thereby deviating from FASB’s inference and thus violating GAAP’s Conservatism Principal. The revenues recognized at the time of contract signing were neither realized nor earned, which led to an overestimate of Net Income in Informix’s financial statements.
The revenues from maintenance contracts were recognized over the term of the contract conforming to GAAP and finally the research and development costs were amortized on a straight-line basis over the life of the product, deviating from FASB statement no.86 Due to the fact that majority of the revenues for Informix were from contract licensing, one can imply that GAAP’s Matching Principle was violated due to the fact that the revenues were recognized much earlier than the effort in building the software or providing the service. Thus, the company failed to match the accomplishments with the expenses, which also resulted in the overstatement of accounts receivables.

Informix’s financial statements indicated a significant increase in net income (22.8% on 40.1% increase in revenues) and accounts receivables (28.4%) in 1989 from 1988. Informix’s Notes to Consolidated Financial Statements as of December 31, 1989 indicated existing high accounts receivable balance, pertaining to the remaining unbilled balance of the already recognized revenue, probably the result of bad debt. Allocating for proper bad debt expense would

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