Revenue Recognition policy of Apple INC
Company: Apple INC
Business: Information Technology and Hardware
Reference to annual Report of: 2011
1. Introduction
Net sales consist primarily of revenue from the sale of hardware, software, digital content and applications, peripherals, and service and support contracts.
1.1 The Company recognizes revenue when
1.1.1 persuasive evidence of an arrangement exists,
1.1.2 delivery has occurred,
1.1.3 the sales price is fixed or determinable,
1.1.4 and collection is probable.
1.2 Product is considered delivered to the customer once it has been shipped and title and risk of loss have been transferred. (Refer Explanation 1)
For most of the Company’s product sales, these criteria are met at the time the product is shipped.
2. Cases when Risk is not transferred
For online sales to individuals, for some sales to education customers in the U.S., and for certain other sales, the Company defers recognition of revenue until the customer receives the product because the Company retains a portion of the risk of loss on these sales during transit. (Refer Explanation 1.1)
The Company recognizes revenue from the sale of hardware products, software bundled with hardware that is essential to the functionality of the hardware, and third-party digital content sold on the iTunes Store in accordance with general revenue recognition accounting guidance. The Company recognizes revenue in accordance with industry specific software accounting guidance for the following types of sales transactions: (Broad Categories of Sales transaction)
2.1.1 standalone sales of software products,
2.1.2 sales of software upgrades and
2.1.3 sales of software bundled with hardware not essential to the functionality of the hardware.
3. Multi-element arrangements in a single sales transaction:
3.1 Allocation of the total revenue to different elements
For multi-element arrangements that include hardware products containing software essential to the hardware product’s functionality, undelivered software elements that relate to the hardware product’s essential software, and undelivered non-software services, the Company allocates revenue to all deliverables based on their relative selling prices. (Refer Explanation 2)
3.2 Method of measuring revenue from various types of transactions after its bifurcation from main transaction:
In such circumstances, the Company uses a hierarchy to determine the selling price to be used for allocating revenue to deliverables: (i) vendor-specific objective evidence of fair value (“VSOE”), (ii) third-party evidence of selling price (“TPE”) and (iii) best estimate of the selling price (“ESP”). VSOE generally exists only when the Company sells the deliverable separately and is the price actually charged by the Company for that deliverable. ESPs reflect the Company’s best estimates of what the selling prices of elements would be if they were sold regularly on a stand-alone basis.
4. Change in Estimate
4.1 Accounting for the elements which cannot be deferred as they were not estimated earlier:
For sales of iPhone, iPad, Apple TV, for sales of iPod touch beginning in June 2010, and for sales of Mac beginning in June 2011, the Company has indicated it may from time-to-time provide future unspecified software upgrades and features free of charge to customers. In June 2011, the Company announced it would begin providing various non-software services to owners of qualifying versions of iOS devices and Mac. Because the Company has neither VSOE nor TPE for these unspecified software upgrade rights or the non-software services, revenue is allocated to these rights and services based on the Company’s ESPs.
4.2 Accounting for change in estimate:
Amounts allocated to the unspecified software upgrade rights and non-software services are deferred and recognized on a straight-line basis over the estimated lives of each of these devices, which range from 24 to 48 months. The Company’s process for determining ESPs involves management’s judgment.
Change in Estimated selling price (ESP) due to change in circumstances
The Company’s process considers multiple factors that may vary over time depending upon the unique facts and circumstances related to each deliverable. If the facts and circumstances underlying the factors considered change, including the estimated or actual costs incurred to provide non-software services or the estimated lives of the related devices, or should future facts and circumstances lead the Company to consider additional factors, the Company’s ESP for software upgrades and nonsoftware services related to future sales of these devices could change. If the estimated life of one or more of the devices should change, the future rate of amortization of the revenue allocated to the software upgrade rights would also change.
5. Transactions in which the company has to protect the price by reimbursing the extra costs to the vendors:
The Company records reductions to revenue for estimated commitments related to price protection and for customer incentive programs, including reseller and end-user rebates, and other sales programs and volume-based incentives. For transactions involving price protection, the Company recognizes revenue net of the estimated amount to be refunded, provided the refund amount can be reasonably and reliably estimated and the other conditions for revenue recognition have been met. (Refer Explanation 3)
5.1 Recognition of revenue in case of the aforesaid refunds cannot be measured:
The Company’s policy requires that, if refunds cannot be reliably estimated, revenue is not recognized until reliable estimates can be made or the price protection lapses. For customer incentive programs, the estimated cost of these programs is recognized at the later of the date at which the Company has sold the product or the date at which the program is offered. The Company also records reductions to revenue for expected future product returns based on the Company’s historical experience.
5.2 Change in estimates for refund in case of price protection
Future market conditions and product transitions may require the Company to increase customer incentive programs and incur incremental price protection obligations that could result in additional reductions to revenue at the time such programs are offered.
5.3 Accounting for incentives to be offered in future:
Additionally, certain customer incentive programs require management to estimate the number of customers who will actually redeem the incentive. Management’s estimates are based on historical experience and the specific terms and conditions of particular incentive programs. If a greater than estimated proportion of customers redeem such incentives, the Company would be required to record additional reductions to revenue, which would have a negative impact on the Company’s results of operations.
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Author’s Remarks:
Explanation 1
Para 14 of IAS 18 states:
“Revenue from the sale of goods shall be recognized when all the following conditions have been satisfied:
(a) the entity has transferred to the buyer the significant risks and rewards of ownership of the goods;
(b) the entity retains neither continuing managerial involvement to the degree usually associated with ownership nor effective control over the goods sold;
(c) the amount of revenue can be measured reliably;
(d) it is probable that the economic benefits associated with the transaction will flow to the entity;
and
(e) the costs incurred or to be incurred in respect of the transaction can be measured reliably.”
1.1 If any of the above condition is not satisfied revenue should not be recognized. Thus the company does recognize the revenue in case the risk and rewards of ownership has not been transferred to the customers in case of online sales.
Explanation 2
Para 13 of IAS 18 states that
“The recognition criteria in this Standard are usually applied separately to each transaction. However, in certain circumstances, it is necessary to apply the recognition criteria to the separately identifiable components of a single transaction in order to reflect the substance of the transaction. For example, when the selling price of a product includes an identifiable amount for subsequent servicing, that amount is deferred and recognized as revenue over the period during which the service is performed”.
2.1 The consolidated revenue of sale of services and hardware is bifurcated into its element as they separately reflect the substance of the transaction.
Explanation 3
Para 19 of IAS 18 states that
“Revenue and expenses that relate to the same transaction or other event are recognised simultaneously; this process is commonly referred to as the matching of revenues and expenses. Expenses, including warranties and other costs to be incurred after the shipment of the goods can normally be measured reliably when the other conditions for the recognition of revenue have been satisfied.”
3.1 When Company insists on price protection it is required to refund the excess amount of sales price to the reseller. Thus, the transaction of sales creates another obligation of payment of refund.
3.2 In that case in order to match the revenue with the expenses the refund has to be accounted for.
3.3 The net change in equity is to extent of sales price reduced by the amount refundable to the reseller. Hence the revenue has to be netted off.
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