1.14 Query
System of accounting in an advertising company
1. An advertising company is booking space on behalf of different clients with different newspapers all over India and abroad. The advertising company is getting the commission at a certain percentage from the newspapers. The commission is deducted at the face of the bill submitted by the newspaper. The advertising company is also making contracts with the newspapers on behalf of clients for which the rates charged by the newspapers are cheaper than the normal rates. The newspapers are also charging different rates for different pages in the same newspapers. The advertising company in turn raises bills to its clients, sometimes at the higher rate than that charged by the newspapers and sometimes charging the usual rate from the clients whereas paying the contract rate to the newspaper. Similarly, the advertising company is also charging the rate of specific page, whereas the advertisement has appeared in the normal course on that specific page and the newspapers have billed to them at the normal rates and not at specific page rate.
2. Some of the clients while making the payment deduct the amount of excess charges and some of the clients make the full payment against bills raised to them. The deductions so made by the clients are sometimes disputed by the advertising agency and a final stage is reached where the balance is either not paid by the client or a lesser amount is paid against that difference. This results into recording of income which ultimately may or may not be realised.
3.The querist has sought the opinion of the Expert Advisory Committee on the following issues arising from the above:
(i) The advertising company wants to record the income on receipt basis and expenses on payment basis. Can the company adopt the cash system of accounting? Will such system give a true and fair view of the state of affairs of the company and of its profit or loss for that period? Should the auditor give any qualificatory or clarificatory remarks in his report on the accounts.
(ii) Is it possible for the company to have the receipts recorded on cash basis and the expenses on accrual basis? Whether such a system of accounting can give a true and fair view of the state of affairs or of profit/loss, of the company? Should the auditor give any qualificatory or clarificatory remarks in his report?
(iii) If the company has been following mercantile system of accounting for the last six years and wants to switch over to the cash system of accounting as per queries at (i) and (ii) above, what should be the duty of the auditor under such circumstances?
Opinion June 8, 1987
1.The Committee notes that Accounting Standard 1 (AS-1) on ‘Disclosure of Accounting Policies’, issued by the Institute of Chartered Accountants of India, states in para 10 as below: “The following have been generally accepted as fundamental accounting assumptions. …………… …………… C. Accrual
Revenue and costs are accrued, that is, recognised as they are earned or incurred (and not as money is received or paid) and recorded in the financial statements of the periods to which they relate……….”
2.The Committee also notes that in the Appendix to Accounting Standard 9 (AS-9) on Revenue Recognition, issued by the Institute of Chartered Accountants of India, it has been stated at B.2 as below:
“Advertising and insurance agency commissions”
3.The Committee further notes that paras 10 and 12 of the aforesaid AS-9 recommend as below:
“10. Revenue from sales or service transactions should be recognised when the requirements as to performance set out in paragraphs 11 and 12 are satisfied, provided at the time of performance it is not unreasonable to expect ultimate collection. If at the time of raising any claim it is unreasonable to expect ultimate collection, revenue recognition should be postponed.
12. In a transaction involving rendering of services …….. performance should be regarded as being achieved when no significant uncertainty exists regarding the amount of the consideration that will be derived from rendering of services.”
4. On the basis of the above, the opinion of the Committee on the issues raised by the querist in para 3 of the query, is as below:
(i),(ii),(iii). In case the advertising company adopts cash system of accounting, either for both revenue and expenses or only in respect of revenue items, the profit and loss account and the balance sheet of the company will not give a true and fair view of its operating results and its state of affairs respectively. The auditor should therefore give his opinion accordingly. The Committee is further of the opinion that even where a company is following mercantile system of accounting, in appropriate circumstances, revenue recognition by the company can be postponed if at the time of raising of any claim it is unreasonable to expect ultimate collection and significant uncertainty exists regarding the amount of the consideration that will be derived from the clients. __________________________ |