Canadian law firms typically use a partnership structure. The Income Tax Act allows law firms the reporting of revenue when invoices are remitted to clients, as opposed to when the work is performed and the revenue is earned. This provision in the Act allows for a delay in the recognition of revenue. Consequently, the law firms opt to use a modified accrual method of revenue recognition as an accounting policy for financial reporting. Work-in-process records account for the hours worked at the hourly rate of the professional who has done the work on the matter. At the time of billing, careful scrutiny is applied to ensure reasonableness of the amount of time spent for the work product delivered to the client. Work in process is often written down at the time of billing. By adopting this modified accrual method for revenue recognition, there is no need to adjust the value of work in process at its realizable value at year end. Under this method, no work in process is reported on the statement of financial position, as allowed in the Act. This method is particularly a time saver when dealing with multi-year litigation matters or personal injury cases. Because GAAP is not being followed for revenue recognition, the auditor's opinion must be modified to a qualified opinion for non-adherence to GAAP with respect to revenue recognition.
Instructions
(a) How would creditors react to the qualified opinion expressed in the auditor's report?
(b) Can financial results for revenue be comparable from year to year? Why or why not? How can management assess revenue trends when using this modified accrual method?