The issue of revenue recognition may seem, at first thought, trivial relative to the other areas of financial accounting. However, the way in which a company chooses to recognize its revenue can have a significant impact on the company's financial statements and may lead to an overstatement or understatement of revenues. With the increasing popularity of the Internet, the issue of revenue recognition is becoming even more important as hundreds of small companies are now issuing stock and attracting small investors who might not have participated in the stock market previously. In addition, there is increased competition for funds among publicly held companies, and being able to show higher revenues, rather than lower, can help a company both maintain a higher stock price and attract new investors. This research examines one Internet company, eBay, and its approach to revenue recognition.
The most basic explanation of eBay is that it provides an on line auction service. Sellers (who must register with the site) list items for sale and, optionally, a minimum price (as well as a reserve price below which they will not sell the item). Buyers have a predefined period of time during which they may bid on items after which eBay validates if a bid exceeded the minimum price and the reserve price (if a reserve price has been set). If the sale was successful according to these criteria, eBay notifies the buyer and seller through e-mail and they consummate the sale (arranging for shipment and payment) between them. At the time of the e-mail notification, eBay's involvement in the transaction is concluded. The site is not responsible for either payment or shipping (1999 Annual Report, 2000, p. 6).
The bulk of eBay's revenues are derived from its on-line auction fees. Revenues are also generated from sponsorship fees paid by companies and from advertising revenue. However, sponsorship fees are considered insignificant and advertisi...