Revenue Recognition - Essay Example

Memo After a careful analysis and review of our accounting methods, and comparing them with the upcoming requirements and implications of the emerging issues task force EITF 00-21: Revenue Arrangements with Multiple Deliverables I have decided that we should modify our accounting and revenue recognition practices to better conform to the pronouncements and procedures established by EITF 00-21. As you already know the early adoption of the recommended practices under the new proposal, will boaster the company’s image and reputation in the industry by demonstrating an enhanced level of seriousness and professionalism not necessarily established by our competition. Although it may initially seem counterintuitive to adopt the practices for revenue recognition stated in EITF 00-21,it is clearly the next step in establishing the company as a leader not only in the aircraft transport field but as a pioneer in the adoption of enhanced accounting guidelines is concerned. One must understand that although accounting revenues and profit will decrease, the company’s financial position is not affected. Although the recognized revenue for the current year and the subsequent restatement of the previous financial statements will result in a decrease of our stated revenues and profit, under the astute eye of the investment community it will clearly be perceived as an act that further solidifies the company as a leader in the industry. Additionally a lot of our current year revenue losses will be offset by additional revenue being recognized from contracts obtained during the previous four years of operations. Under our current accounting methods the fractional interest contracts are immediately recognized as revenue in its totality for the current accounting period. The monthly management revenue stream and the hourly usage incomes are both recognized as well as related expenses as they are incurred. In the industry, a lot of different revenue recognition practices are utilized. For example just like our current accounting practices, some companies record revenue on initial sale of fractional interest at the time of sale. There are other companies that account the revenue from programs similar to operating leases whereas other companies spread the income over the term of the agreement. As a result, the following three options were being analyzed by management: A) Revenue attributable to the initial sale of the fractional interest should be recognized at the time of sale. The other attributes of the program, namely the ongoing management of the aircraft, the customer right to resell the aircraft to the company at fair value, and the remarketing of the used aircraft, would be considered separate transactions. B) The fractional interest program should be accounted for as an operating lease or a service contract. C) The fractional interest program is a multiple-deliverable arrangement that should be accounted for in accordance with Securities and Exchange Commission Staff Accounting Bulletin No. 101’s guidance for accounting for multiple-element sale arrangements. In my opinion this last option is the one that most closely conforms to the economic reality of the event and furthermore its inline with the EITF 00-21 guidelines and procedures making it in my professional opinion the best choice for our company at this critical juncture in our company’s long-term strategic goals and current IPO development. Simply stated we are going to establish the following guidelines to record the fractional interest programs, maintenance and hourly rental revenues and related expenses in order to meet our established accounting and company development goals: 1) Revenue will be allocated among the revenue elements based on their fair market value 2) If an undelivered element is essential to the functionality of a delivered element, no revenue is allocated to the delivered element until the undelivered element is delivered. 3) The fractional interest contracts should be accounted for as a sale, but the profit on the sale should be deferred and allocated systematically over the 5 year management contract period. 4) As far as the maintenance fees and hourly usage rates revenues these will continue to be recognized at the time they occur under standard accounting procedures. 5) All expenses related to the operations of the company will be recorded as they are incurred. 6) The previous financial statements must be restated according to the new rules and procedures As you can clearly see the changes to our accounting methods are really not that complex, but the impact this all important changes brings to the company as a whole are an integral part of our strategy in order to bring the company to the level of competency needed to launch a successful IPO. Memo 2 I have analyzed the various options currently available to us in order to record our fractional interest contracts, managerial fees and hourly rate revenue stream. After careful consideration of the options, and comparing them with the upcoming requirements and implications of the emerging issues task force EITF 00-21: “Revenue Arrangements with Multiple Deliverables”, I have decided that we should modify our accounting and revenue recognition practices to better conform to the pronouncements and procedures established by EITF 00-21. In the industry, a lot of different revenue recognition practices are being utilized. Some companies record revenue on initial sale of fractional interest at the time of sale, while leaving the monthly revenue income stream to be treated as separate transactions just like we currently practice in Trans-Share Inc. On the other hand, other companies account the revenue from programs similar to operating leases, or spread the income stream over the term of the fractional contract agreement. Under our current accounting methods the fractional interest contracts are immediately recognized as revenue in its totality for the current accounting period regardless of true duration of the fractional contract. The monthly management revenue income and the hourly usage income are both recognized as income for the current month. The three options that management is considering to adopt for accounting for the company are: (A) Revenue attributable to the initial sale of the fractional interest should be recognized at the time of sale. The other attributes of the program, namely the ongoing management of the aircraft, the customer right to resell the aircraft to the company at fair value, and the remarketing of the used aircraft, would be considered separate transactions. (B) The fractional interest program should be accounted for as an operating lease or a service contract. (C) The fractional interest program is a multiple-deliverable arrangement that should be accounted for in accordance with Securities and Exchange Commission Staff Accounting Bulletin No. 101’s guidance for accounting for multiple-element sale arrangements Although it may initially seem counterintuitive the early adoption of EITF 00-21, it is clearly a mandatory the next step in establishing the company as a leader not only in the aircraft transport field but as a pioneer in the adoption of enhanced accounting guidelines is concerned. Although the financial revenue for the current year will decrease and the subsequent restatement of the previous financial statements will result in a decrease of our previously stated revenues and profit, the early adoption of the guidelines established by EITF 00-21, will allow our accounting department to efficiently and effectively handle the transition from our old accounting procedures to up-to-date accounting procedures, hardware, software and related training and conversion costs. In our case, the accounting treatment for related fixed expenses and variable expenses, such as crew salary expense, utilities, and aircraft maintenance expense and related fuel costs will stay the same. The biggest impact will become the restatement of the previous years financial statement income and the inclusion of unearned revenue accounts and aging procedures in order to correctly and accurately record the past and current economic events.. The following guidelines will be established in order to account for the fractional interest programs, maintenance and hourly rental revenues and related expenses in order to meet our established accounting and company development goals: 1) Revenue will be allocated among the revenue elements based on their fair market value 2) If an undelivered element is essential to the functionality of a delivered element, no revenue is allocated to the delivered element until the undelivered element is delivered. 3) The fractional interest contracts should be accounted for as a sale, but the profit on the sale should be deferred and allocated systematically over the 5 year management contract period. 4) As far as the maintenance fees and hourly usage rates revenues these will continue to be recognized at the time they occur under standard accounting procedures. 5) All expenses related to the operations of the company will be recorded as they are incurred. 6) The previous financial statements must be restated according to EITF 00-21 rules and procedures. Simply stated the option of adopting the guidelines of EITF 00-21, most closely conforms to the economic reality of the event making it in my professional opinion the best choice for our company at this critical juncture in our company’s long-term strategic goals and current IPO development I hope this memo answers your questions regarding the adoption of EITF 00-21 guidelines and procedures and how it will impact Trans-Share Inc. operations. Read More