What it means
Under accrual accounting, revenue is recognised when it is earned, not when the invoice goes out or the cash arrives. Many businesses do work continuously but bill at intervals.
A consultancy delivers three weeks of work in a month it will invoice next month. A utility supplies electricity from the last meter reading to the year end without yet billing it.
A lender earns interest daily but receives it quarterly. In each case, at the period end the business has earned something it has not yet recorded through its normal billing process.
Accrued revenue is the adjusting entry that captures it. The entry is a debit to accrued revenue (sometimes called accrued income, unbilled receivables or contract assets) and a credit to revenue.
When the invoice is eventually raised, the accrued revenue is reversed and replaced by a normal accounts receivable. Cash collection then clears the receivable.
Nothing about the total revenue changes; only its timing is corrected. The concept is central to long-term contracts.
A software implementation or construction project may run for a year with milestone billing that does not align with the work performed. Revenue recognition standards require the company to recognise revenue as it satisfies its obligations, which usually means a percentage-of-completion measure, and the gap between revenue recognised and amounts invoiced is accrued revenue (a contract asset) or deferred revenue (a contract liability).
Because accrued revenue rests on judgement about how much has been earned, it is also an area where profits can be overstated. Auditors test that accrued amounts are supported by evidence of delivery, are billable under the contract and are collectible.
Accrued revenue that keeps growing faster than sales, or that never converts into invoices, is a warning sign.
In practice
Real-world examples.
Example
A law firm records accrued revenue for hours worked on client matters in the final week of the quarter that will appear on next month's bills.
Example
A bank records accrued interest income on a loan whose quarterly interest payment falls two weeks after the period end.
Example
A landlord whose tenant pays rent quarterly in arrears accrues two months of rent at a year end that falls one month before the rent is due.
Think of it
“Accrued revenue is like completing a job for a neighbor and waiting for them to pay you. You've earned the money; you just haven't received it yet.
Formula
Calculation
Accrued Revenue = Value of work performed to date minus Amounts already invoiced
For time-based services: Accrued Revenue = Rate x Units of service delivered but unbilled
Worked example 1. A marketing agency's 31 December year end falls in the middle of a project. The agency has delivered 120 hours of work in December at $150 an hour, which will be invoiced in January.
- Accrued revenue at 31 December = 120 x $150 = $18,000
- Entry: debit accrued revenue $18,000, credit revenue $18,000
- In January, when the invoice is raised: debit accounts receivable $18,000, credit accrued revenue $18,000
Worked example 2. A contractor has a $600,000 fixed-price contract and measures progress by costs incurred. Total expected costs are $450,000; costs to date are $270,000. Invoices raised so far total $330,000.
- Percentage complete = $270,000 / $450,000 = 60%
- Revenue earned to date = 60% x $600,000 = $360,000
- Accrued revenue (contract asset) = $360,000 minus $330,000 = $30,000
The contractor has done $30,000 more work than it has billed; that amount is an asset.Case study
Seen in the real world.
A systems integrator recognised revenue on projects only when milestones were invoiced. Its results were wildly uneven: a quarter with three milestone invoices looked spectacular, the next looked disastrous, and staff bonuses swung with them even though the team's output was steady. The board asked the finance director to move to percentage-of-completion accounting with accrued revenue for unbilled work.
The transition required project managers to estimate total costs and progress for every open project each month, which they had never done. Once in place, reported revenue tracked the work actually delivered, quarterly swings shrank to a few percent, and the accrued revenue schedule became the board's early warning system: a project whose accrued balance grew for three months without an invoice was almost always a project in dispute with its client.
Watch out
Common mistakes.
- Accruing revenue for work that has been quoted or contracted but not yet performed. Only delivered work counts.
- Forgetting to reverse the accrual when the invoice is raised, which counts the revenue twice.
- Accruing revenue that is unlikely to be collected. If the client disputes the work, the asset may not exist.
Questions
People also ask.
What is the difference between accrued revenue and accounts receivable?
Accounts receivable is invoiced and unpaid. Accrued revenue is earned but not yet invoiced. Once invoiced, accrued revenue becomes a receivable.
What is the difference between accrued revenue and deferred revenue?
Accrued revenue is work done before billing (an asset). Deferred revenue is cash received before work is done (a liability).
Is accrued revenue a current asset?
Usually yes, because it is expected to be invoiced and collected within a year.
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