Earnings are the important measure of firm performance and used by
many users. For example, earnings are used by firms to assess management
performance and set up executive compensation plans. They are also used
by creditors to determine debt covenants, and by investors to make investing
decisions. Earnings are the bottom line items, which are the results of revenue
recognition and matching principles. International Accounting Standard (IAS)
No. 18, Revenue, identifies the revenue recognition principle, which requires
revenues to be recognized only when it is probable that the economic
benefits associated with the transaction will flow to the entity (IASB 2009b).
The matching principle requires expenses associated directly with revenues to
be recognized in the same period when revenue is recognized. The accrual
basis plays an important role in reducing the timing and matching problems
that may incur from using cash basis and enable earnings to closely reflect
firm performance.