In accounting, revenue is the total amount of income generated from the sale of goods and services related to the primary operations of a business. Revenue represents the income earned by an entity from its business activities during a particular accounting period.
Commercial revenue may also be called sales or turnover. However, revenue is not limited only to the sale of goods and services. Some businesses may also earn revenue in the form of interest, royalties, fees, or other income.
The term revenue may refer to income in general or to the monetary amount earned during a specific period. For example, if a company earns $42 million during a financial year, the amount may be described as the company’s revenue for that year.
Revenue and Profit
Revenue is different from profit or net income. Revenue represents the income generated by a business, while profit is generally determined after deducting expenses from total revenue.
The basic relationship is:
Profit or Net Income = Total Revenue − Total Expenses
Therefore, a company may have a high amount of revenue but may not necessarily earn a high profit if its expenses are also high.
Revenue represents the income generated before considering total expenses, whereas net income represents the amount remaining after expenses have been deducted.
Revenue and Equity
In accounting, revenue is associated with the equity section of the accounting structure because revenue increases equity.
When a business earns revenue, the income generated contributes to the financial interest of the owners in the business.
Therefore, an increase in revenue generally contributes to an increase in equity, subject to the expenses and other items recognised during the accounting period.
Revenue as the Top Line
Revenue is commonly referred to as the “top line” because it appears at or near the top of the Income Statement.
The term top line is used to distinguish revenue from the “bottom line”, which generally refers to net income.
Revenue is shown before the deduction of business expenses. Net income is determined after deducting the relevant costs, expenses, taxes, and interest.
Therefore:
Top Line = Revenue
Bottom Line = Net Income
Sales Revenue
Sales revenue is the income received or earned from selling goods or services during a particular period of time.
For a business engaged in selling goods, revenue generally arises from the sale of its products. For a service business, revenue is earned by providing services to customers.
In general business usage, revenue represents the total income generated from the sale of goods or services connected with the company’s operations.
Different Forms of Revenue
The nature of revenue depends on the type of organisation.
Tax revenue is income received by a government from taxpayers.
Fundraising revenue is income received by a charitable organisation from donors or fundraising activities to support its social purposes.
A business may receive revenue from the sale of goods, rendering of services, interest, royalties, rent, or fees depending on the nature of its activities.
Therefore, the source of revenue differs according to the operations and objectives of the entity.
Measurement of Revenue
In formal accounting usage, revenue is calculated or estimated according to a particular accounting practice, financial reporting standard, or rules prescribed by a government or government agency.
The method of accounting used by an entity affects the process of measuring revenue.
The two common accounting methods are the Cash Basis of Accounting and Accrual Basis of Accounting. These methods do not use the same process for measuring revenue.
Under cash basis accounting, revenue recognition is linked with the receipt of cash. Under accrual accounting, revenue recognition is linked with the earning of revenue.
Therefore, the timing of revenue recognition may differ according to the accounting method used.
Revenue Reporting by Companies
Companies that offer their shares for sale to the public may be required by law to report revenue according to Generally Accepted Accounting Principles (GAAP) or International Financial Reporting Standards (IFRS).
These accounting frameworks provide rules and principles for the recognition and reporting of financial information.
Therefore, revenue reported in the financial statements of a company is determined according to the applicable accounting and financial reporting requirements.
Revenue Accounts under Double-Entry Bookkeeping
In a double-entry bookkeeping system, revenue accounts are General Ledger Accounts.
These accounts are periodically summarised under the heading Revenue or Revenues in the Income Statement.
The name of a revenue account generally describes the type or source of revenue earned by the business.
Examples include:
- Repair Service Revenue
- Rent Revenue Earned
- Interest Revenue
- Sales Revenue
Thus, separate revenue accounts may be maintained for different sources of income.
Debit and Credit Treatment of Revenue
In a journal entry or ledger, revenue is normally recorded as a credit.
When revenue is recognised, another account such as Cash, Accounts Receivable, or an account associated with deferred revenue may be debited according to the nature of the transaction.
For example, when cash revenue is earned:
Cash A/c Dr.
To Revenue A/c
When revenue is earned but the amount is receivable:
Accounts Receivable A/c Dr.
To Revenue A/c
Therefore, the revenue account is credited when revenue is recognised.
Revenue of Non-Profit Organisations
For non-profit organisations, revenue may be referred to by different terms such as gross receipts, support, or contributions.
Operating revenue of a non-profit organisation may include donations received from individuals and corporations, support from government agencies, income from activities connected with the organisation’s mission, fundraising income, and membership dues.
Revenue or income from investments may be classified as operating or non-operating. In many non-profit organisations, such revenue may also be classified according to the relevant fund.
Thus, revenue classification in a non-profit organisation may differ from that of a commercial business.
Association Dues and Non-Dues Revenue
Non-profit associations may receive substantial revenue from the dues paid by their voluntary members.
Revenue generated through sources other than association membership fees is known as non-dues revenue.
Non-dues revenue may arise from sponsorships, donations, or outsourcing the association’s digital media outlets.
Therefore, an association may earn revenue both from membership dues and from other revenue-generating activities.
Business Revenue
Business revenue is the monetary income earned from activities that are ordinary for a particular business organisation.
The main source of revenue depends on the nature of the business.
Manufacturing businesses and grocery businesses generally earn most of their revenue from the sale of goods.
Service businesses, such as law firms and barber shops, generally earn revenue by rendering services.
Lending businesses, including car rental businesses and banks, may earn most of their revenue from fees and interest generated by lending assets to individuals or other organisations.
Thus, the main source of business revenue is determined by the ordinary activities of the business.
Revenue from Primary Business Activities
Revenue earned from the primary activities of a business is generally reported as Sales, Sales Revenue, or Net Sales.
The calculation of net sales takes into account product returns, customer discounts, and allowances.
The formula is:
Net Sales = Gross Sales − Customer Discounts − Returns − Allowances
Net sales therefore represent sales revenue after adjusting gross sales for the specified deductions.
Sales tax collected by a business is not included in sales revenue.
Incidental Revenue
A business may also earn revenue that is incidental to its primary activities.
For example, a business may earn interest on deposits held in a demand account.
Such interest is included in revenue but is not included in net sales because it does not arise from the primary sale of goods or services.
Therefore, total business revenue may include both revenue from primary activities and incidental sources of income.
Other Revenue or Non-Operating Revenue
Other Revenue, also known as Non-Operating Revenue, is revenue earned from peripheral or non-core business activities.
For example, an automobile manufacturing company earns its regular revenue from selling automobiles.
If the same company rents a portion of one of its buildings, the rent received is not revenue from its main automobile business. Therefore, the rental income may be recorded as Other Revenue and separately disclosed in the Income Statement.
Separate disclosure helps financial statement users identify revenue generated from the core operations of the business and revenue generated from other activities.
Revenue Model
The combination of all the systems and activities through which a business generates revenue is known as its Revenue Model.
A business may have one or several sources of revenue. The revenue model represents the overall structure through which the business earns income.
For example, a business may generate revenue from sales, service fees, interest, rent, or other sources.
Important Accounting Relationships
Revenue is used in several important accounting calculations.
Net Sales = Gross Sales − Customer Discounts − Returns − Allowances
Gross Profit = Net Sales − Cost of Goods Sold
Operating Profit = Gross Profit − Total Operating Expenses
Net Profit = Operating Profit − Taxes − Interest
Net profit may also be calculated as:
Net Profit = Net Sales − Cost of Goods Sold − Operating Expenses − Taxes − Interest
These relationships show how revenue is gradually reduced by different costs and expenses to determine the final profit of the business.
EBIT and EBITDA
EBIT means Earnings Before Interest and Taxes.
The relationship is:
EBIT = Net Profit + Taxes + Interest
EBITDA means Earnings Before Interest, Taxes, Depreciation and Amortization.
The relationship is:
EBITDA = Net Profit + Taxes + Interest + Depreciation + Amortization
These measures use profit information and add back specified expenses to evaluate business performance.
Revenue in Financial Statement Analysis
Revenue is an important part of financial statement analysis.
The performance of a company may be examined by comparing its asset inflows in the form of revenue with its asset outflows in the form of expenses.
Net income is the result of the relationship between revenues and expenses. However, revenue also receives significant attention when analysing a company’s financial performance.
A company’s revenue growth may indicate the growth of its business activities.
Top-Line Growth
An increase in revenue is commonly described as top-line growth.
If a company reports strong revenue growth, analysts may consider the company’s performance positive even if growth in earnings or net income is limited.
However, high net income growth may be viewed less favourably if the company fails to generate significant revenue growth.
Consistent revenue growth, when accompanied by net income growth, may contribute to an increase in the value of an enterprise and its share price.
Revenue and Financial Ratios
Revenue is used in several important financial ratios and financial performance measures.
Gross Margin considers revenue after deducting the cost of goods sold. It helps determine how effectively sales cover direct variable costs related to the production of goods.
Profit Margin or Net Income to Sales is used to determine how efficiently a company converts revenue into profit.
The relationship may be expressed as:
Profit Margin = Net Income ÷ Sales
The Price-to-Sales Ratio may be used as an alternative to the Price-to-Earnings Ratio when a company has negative earnings and the P/E ratio is not meaningful.
A company may have negative earnings but generally continues to report positive revenue.
Government Revenue
Government revenue includes money received by a government entity from external sources, including taxes and fees.
Large governments may have a specific agency or department responsible for collecting revenue from companies and individuals.
Government revenue therefore represents the funds received by the government from various sources to support government activities and functions.
Exam Focus
Revenue is the total amount of income generated from the sale of goods and services related to the primary operations of a business. It may also include income from interest, royalties, fees, and other sources.
Revenue is also known as sales or turnover in commercial usage.
Revenue is called the top line because it appears at the top of the Income Statement, while net income is called the bottom line.
The basic relationship is:
Net Income = Total Revenue − Total Expenses
In double-entry bookkeeping, revenue is normally recorded as a credit.
Revenue from primary business activities is generally reported as Sales, Sales Revenue, or Net Sales, while revenue from peripheral or non-core activities is known as Other Revenue or Non-Operating Revenue.
The important formula is:
Net Sales = Gross Sales − Customer Discounts − Returns − Allowances
Revenue is an important measure in financial statement analysis. An increase in revenue is known as top-line growth, and revenue is used in calculating gross margin, profit margin, and other financial performance measures.