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Cost recovery is a method of accounting that accounts for the amount of money a business gains back from the initial investment it makes. This can be applied to almost any expenditure a company makes, from the costs of launching a new project or product, to the cost of purchasing new equipment, and even to leasing a property. In most cases, a business will aim for at least break even with its expenditures, but in many instances, it will try to gain back more than this amount through the use of cost recovery.

A company that uses the cost recovery method will recognize all of the revenue and costs of sales it has incurred, but it will only count the profit it earns from the sale as income when this profit amounts to more than all of its expenses, including the original costs of the purchase or the cost of the work performed. This method of accounting is often used in commercial or housing leasing, and it can also be seen in some software applications for financial analysis.

There are four well-known types of revenue recognition: percentage of completion, completed contract, installment and cost recovery. Each of these methods has different advantages and disadvantages, but cost recovery is often employed in situations where there’s a high degree of uncertainty about repayment. Using this method, a company will record revenue and the cost of goods sold when it can justify doing so, but it will defer taxes until full recovery of all costs has been achieved.

For example, suppose Sam’s Company sells a piece of machinery for $10,000 to Gilbert Corporation, and the buyer agrees to make incremental payments over the course of five years. Although it’s possible that Gilbert will make all the payments, it’s equally likely that it won’t. Using the cost recovery method, Sam’s will record the sale and its related expenses as earnings but will defer the tax on that profit until the year it receives the final payment.

This method of recognizing revenue does not conform to generally accepted accounting principles or international financial reporting standards, which require companies to record income at the time they realize it. However, because of the level of risk involved in uncertain situations, many companies prefer to use cost recovery rather than overstate profit and be liable for paying tax on money that may never be received.

The ICSUAM’s policy on Cost Allocation/Reimbursement states that all costs associated with sponsored programs must be recovered, either directly or indirectly, in accordance with funding agency guidelines and CSU policies. To ensure consistency in the allocation and documentation of costs, each campus must develop a cost recovery plan that is approved annually by the CFO. This plan should include an overview of direct and indirect costs, and identify how these costs will be recovered, both internally (to departments) and externally (to auxiliary organizations). For more information, see ICSUAM Section 3.3.20 and Appendix B.


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