CASE STUDY 3
SEC STAFF ACCOUNTING BULLETIN 104-REVENUE RECOGNITION
1. Access the SEC website, www.sec.gov, and open the Staff Accounting Bulletin (SAB) section to SAB104. Disregard the first 8 pages.
2. List the 4 criteria which the SEC decided was necessary to further clarify the basic revenue accounting concepts of “realized or realizable and earned”. • Persuasive evidence of an arrangement exists
• Delivery has occurred or services have been rendered • The seller’s price to the buyer is fixed or determinable • Collectability is reasonably assured
3. Why do you believe it was necessary for the SEC to provide this detailed guidance beyond basic concepts? I believe that it was necessary for the SEC to provide this guidance, as the phrase/words “realized and earned” are extremely broad and open to interpretation. Just stating those two words leaves a large amount of room for manipulation by companies since they may all choose to realize and earn revenue whatever way that makes their financials look best. By providing more detailed guidance, companies report on a more comparable basis or level playing field.
4. In your own words using the examples provided, describe, in summary form, what concepts the SEC were attempting to clarify with each of the 4 items in 2 above.
Persuasive Evidence of an Arrangement
• If an arrangement is subject to subsequent approval or execution of another agreement, revenue recognition shouldn’t occur until everything is completed • Written contracts, binding purchase orders from 3rd parties, or online authorizations that include terms of the sale and that are binding also provide persuasive evidence • Side Agreements
o Could include cancellations, termination or other provisions that indicate the original agreement wasn’t final and shouldn’t be recognized as revenue • Consignment Basis
o Products delivered aren’t sales because seller retains risk and rewards of ownership o Even if title has passed, these following characteristics mean revenue shouldn’t be recognized: ▪ Buyer has right to return the product and buyer does not pay or has no obligation to pay seller; the buyer has obligation only to pay when they resell the product or consume it; the obligation would change if there was theft or physical damage; there is no economic substance; or the seller has significant future performance to bring about resale of the product ▪ Seller is required to repurchase the product at specified prices that are not subject to change except for fluctuations due to finance and holding costs • This is represented by seller providing interest free (below market) financing to buyer below customary terms; seller paying interest costs on behalf of buyer; or seller has practice of refunding a portion of original sales price that represents interest expense ▪ The product is delivered for demonstration purposes o In order to accurately account for cosigned goods, they should be separated from regular inventory as “inventory cosigned to others” • Revenue recognition is allowed at delivery only if the rights that a seller retains are those enabling recovery of the goods in the event the customer defaults on payment (esp. with foreign transactions)
Delivery and Performance
• Bill & Hold Arrangements
o Delivery is not considered to have occurred unless the buyer takes title and assumes the risks/rewards of ownership specified in the agreement ▪ FOB Destination ( to the customer site
▪ FOB Shipping Point ( shipped to the customer ▪ If an intermediate site has been defined but payment isn’t made till final site, don’t recognize revenue until it reaches final destination o In order to qualify for bill and hold:
▪ Risks have to be passed to buyer
▪ Customer has to make fixed commitment to purchase the goods...
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