Worldcom: the Revenue Recognition Principle

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Case 1.2 – WorldCom: The Revenue Recognition Principle 1. Revenue recognition principle under GAAP determines the specific conditions under which income becomes realized as revenue. Generally, revenue is recognized only when a specific critical event has occurred and the amount of revenue is measurable. According to FASB codification 605-10-25, revenue must (1) be realized or realizable and (2) earned, in order to be recognized.Users of financial statements often use revenue to evaluate a company’s performance and prospects and to guide financial decisions. For public company, performance of financial statement can have significant impact on stock price. Thus, it is essential for the users of financial statements to know that the real revenues are recorded and disclosed and not fraudulent revenues. GAAP give the guidance and restriction for the practice. It stops a company from overstating or understating revenues. 2. WorldCom violated the revenue recognition principle by creating an account that did not come from the operating activities of the company's sales channel. Considerable revenues were manipulated by accounting adjustment and journal entries without detailed support. To boost the financial performance, WorldCom’s accounting group booked revenue entries to Corporate Unallocated revenue account in quarter-ending month, in which transactions didn’t exist or shouldn’t belong to this period, and, of course had no supporting source documents such as invoices, customer purchase orders or cash receipts.Those revenue recorded on WorldCom’s financial statement neither realized or realizable nor earned. 3. We don’t think WorldCom had established an effective system of internal control over financial reporting related to the revenue recorded in its financial statement. According to AU 319, internal control should be designed to provide reasonable assurance

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