By Sarah Dryden, CPA, Senior Audit Manager
When you go to buy a car, yeah, you’re buying a massive computer system these days, but when it all boils down, you went to purchase a car, that’s why you went to the car lot not to Fry’s. The accounting rules for revenue recognition for sales involving multiple element arrangements, like buying a car with a computer, have recently become a whole lot easier. Many public companies like Apple early adopted these new accounting rules because they allow the company to accelerate the period of recognizing revenues. In Apple’s case, sales of the iPhone and Apple TV, for example, under the new accounting principles resulted in the recognition of almost all of the revenue and product cost for these products when delivered to customers, as opposed to using subscription accounting under historical accounting principles, which required recognition over the estimated products’ life, resulting in deferral of revenue and related cost of sales over longer time periods.
I heard on the radio the other day that one of the professions with 0% unemployment is actuarial science. It’s no wonder that many of our accounting rules keep the actuaries fully employed because the science of the old rules does not mirror the economic effect of the transaction. It is my opinion that the new multiple deliverable rules more accurately reflect the substance of the transaction instead of a conjured up, complicated accounting rule – when I recently purchased my new iPhone, I didn’t think of myself as purchasing unspecified software upgrades and free software upgrade that previously threw Apple into complicated and unnecessary software accounting rules practically requiring the use of an actuary!
Here’s a summary of the new rules under ASU 2009-13, Multiple Deliverable Revenue Arrangements and ASU 2009-14, Certain Arrangements that include software elements, which provide for a more economic approach to accounting for arrangements with multiple deliverables and tangible products containing software components:
- Allocation of arrangement based on relative selling price and hierarchy of evidence for selling price based on the following:
- Vendor-specific objective evidence (“VSOE”)
- Third party evidence (“TPE”)
- Vendor’s best estimate of selling price (“BESP”)
- Vendors determine a deliverable’s estimated selling price
- Relative selling price method used is required in all cases to allocate the arrangement consideration; the residual method is no longer acceptable
- Additional disclosures are required
- Modified scope of software revenue recognition accounting such that:
- More revenue arrangements fall within the scope of the revenue new standards.
- Tangible products containing software elements and non-software elements that function together to deliver the tangible product’s essential functionality is now excluded from the software revenue recognition rules.
This literature was effective for new or materially modified contracts entered into after June 15, 2010, with an option to early adopt as of the beginning of any fiscal year prior to that for which annual financial statements have not been issued. Both pieces of literature must be adopted simultaneously and may be applied either prospectively or retrospectively.