Deferred revenue, which is also referred to as unearned revenue, is listed as a liability on the balance sheet, because under accrual accounting, the revenue recognition process has not been completed, and the company’s product or service is still due to the buyer. When a company uses the accrual accounting method, revenue is only recognized as earned when money is received from a buyer and the goods or services are delivered to the buyer. When a company accrues deferred revenue, it is because a buyer or customer paid in advance for a good or service that is to be delivered at some future date.
Cash received in this manner is considered a liability because there is still a chance the good or service will not be delivered, or the buyer may cancel his order. If either case occurs, a company has to repay the customer, unless other payment terms were explicitly stated in a signed contract.
An example of deferred revenue is when a magazine company accepts payments in the form of yearly subscription services, which are paid annually. If the magazine company delivers a monthly magazine, only one-twelfth of the collected money can be recognized per month, because the full 12 magazines have not yet been delivered.
If a customer decides to cancel his subscription, or the magazine company decides to discontinue the subscribed magazine, the company is obligated to return the unearned money to the customer unless previously stated otherwise. This is exactly why it is considered a liability until earned.