'Deprival value' vs 'fair value' measurement for contract liabilities in resolving the 'revenue recognition' conundrum: towards a general solution

Revenue recognition and measurement can conflict with liability recognition and measurement. We explore here under different market conditions when the two measurement approaches coincide and when they conflict. We demonstrate that the conflict most generally arises over deciding how to treat situations where enterprises expect to earn ‘super-profits’, i.e. profits that cannot be regarded as ‘factor costs’ in the way that 'interest' and 'reward for risk bearing' may. Moreover, in cases where companies may have invested in building up the necessary intangibles that enable them to achieve these apparent ‘super-profits’ thereafter, current GAAP accounting for those intangibles fails properly to match investment and return. We show that the conceptual conflict is exacerbated by the adoption of ‘fair value’ as the measurement basis for assets and liabilities rather than the theoretically sounder basis of ‘deprival value’ that better reflects the impact of, and rational management response to, varying market conditions. However, while the ‘balance sheet’ liability and the revenue recognition problems (and the problems of income statement presentation) can be resolved by the application of ‘deprival value’ reasoning (subject to accounting for the effects of price changes), this is not sufficient to resolve issues of the appropriate timing of profit recognition. Performance measurement issues still need to be addressed directly. The standard setters’ current ‘revenue recognition’ project will therefore need to consider the whole issue of accounting for intangibles, and more generally the adequacy of a model that identifies ‘comprehensive income’ solely in terms of changes in recognized assets and liabilities.