Chapter 6

Revenue Recognition

Experience teaches that it can be dangerous to accept reported revenues at face value, even if they have been audited. Many corporations employ highly aggressive recognition practices that comply with gaap yet distort the underlying economic reality. Sometimes, executives hell-bent on making their numbers will cross the line into fraudulent revenue recognition. Often, outward signs of exceptional success indicate, in reality, a high probability of downward revisions of previously reported revenues. Under intense pressure to maintain their stock prices, companies characterized by extremely rapid sales growth seem particularly prone to take liberties.

CHANNEL-STUFFING IN THE DRUG BUSINESS

On April 3, 2002, Bristol-Myers Squibb shares plummeted by as much as 14 percent in after-hours trading after the company said first-quarter earnings from operations would be $0.44 to $0.47 a share. Analysts surveyed by Thomson Financial/First Call had been expecting $0.56. For the full year, said the pharmaceutical producer, earnings would drop by at least 25 percent from 2001's $2.41 a share.

In the wake of the negative surprise, Chief Executive Officer Peter Dolan assumed direct responsibility for the worldwide medicines business. The previous head of the unit left the company. Two weeks later, the company announced that its chief financial officer would step down as well.

The explanation for the sudden drop in projected earnings was that in 2001 Bristol-Myers gave ...

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