Software revenue recognition.

Certain Financial Accounting Standards Board and American Institute of CPAs accounting pronouncements now have higher authority under generally accepted accounting principles. So, it's more important than ever for accountants to receive timely guidance on the issues that affect them most. We're responding to this need by replacing the Recent EITF Actions department with a new Financial Accounting department, which will provide, in alternating months, a FASB emerging issues task force update and an AICPA accounting standards executive committee update.

Here we summarize AICPA Statement of Position no. 91-1, Software Revenue Recognition.

SOP no. 91-1 is available as a separate pamphlet (product no. 014854) and also is included in the AICPA Technical Practice Aids loose-leaf service. To obtain either of these publications, contact the AICPA order department, P.O. Box 1003, New York, New York 10108-1003. Phone: [phone] [[phone] in New York State].

SOP NO. 91-1

SOP no. 91-1 provides guidance on the timing and amount of revenue recognition by all entities that license, sell, lease or otherwise market computer software. It is effective for financial statements issued after March 15, 1992, for fiscal years and interim periods beginning after December 15, 1991. Earlier application is encouraged.

SOP no. 91-1 culminates a process that began in April 1982, when a white paper on software accounting was issued by the Association of Data Processing Service Organizations, an industry association now known as the Information Technology Association of America. The white paper and strong encouragement from the Securities and Exchange Commission staff prompted the FASB's project on accounting for software costs, which resulted in the August 1985 publication of FASB Statement no. 86, Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed. The FASB asked the AICPA to pursue the revenue side of the project after the AICPA published an issues paper on software revenue recognition in April 1987.

The SOP's basic principle in software revenue should be recognized at the time the software is delivered; however, some exceptions are permitted. The SOP recommends the following:

a. Transactions requiring only software delivery. Licensing-fee revenue should be recognized when the vendor delivers the software, if the vendor has no remaining obligations (for example, installation, testing, data conversion and system integration) to the customer and collection is probable. However, if the vendor plans to enter into a written contract with the customer and has not done so when the software is delivered, revenue generally should not be recognized until the signed contract has been obtained.

b. Software lincenses with other vendor obligations. If a sales or licensing agreement provides for obligations in addition to the delivery of software, assessments of potential risks, estimates of related costs and the probability that the vendor will be able to fulfill those obligations within cost estimates should be considered in determining whether the agreement's obligations are significant or insignificant.

If the vendor has insignificant obligations (for example, routine installation) remaining after delivering the software, revenue from the licensing fee should be recognized on software delivery if collection is probable. They should be accounted for either by accruing the remaining costs or by deferring a pro rata portion of revenue and recognizing it ratably as the obligations are fulfilled or on completion of performance.

If, in addition to the obligation to deliver the software, the sales or licensing agreement includes other significant vendor obligations (for example, costly system integration), the agreement should be examined to determine whether contract accounting or service transactions accounting may apply. ]See (g) and (h) below for a description of these accounting methods.[ If neither of these methods applies, revenue should not be recognized until after delivery has occurred, other remaining vendor obligations are no longer significant and collection is probable.

c. Software transactions structured as leases. If a software lease includes property, plant or equipment, the revenue attributable to those fixed assets should be accounted for in conformity with FASB Statement no. 13, Accounting for Leases, and any revenue attributable to the software, including postcontract customer support (PCS), should be accounted for separately. However, if software contained in leased fixed assets is only incidental, it should not be accounted for separately.

d. Significant uncertainties about customer acceptance. If, after delivery, there is significant uncertainty about customer acceptance of the software, license revenue should not be recognized until the uncertainty becomes insignificant.

e. Absence of a reasonable basis for estimating the collectibility of receivables. Revenues for which there is no reasonable basis of estimating the degree of related receivables' collectibility should be accounted for using either the installment or the cost recovery method.

f. Contract accounting. If a contract to deliver software or a software system, either alone or together with other products, requires significant production, modification or customization, that contract should be accounted for in conformity with Accounting Research Bulletin no. 45, Long-Term Construction-Type Contracts, using the relevant guidance in SOP no. 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts. However, transactions normally accounted for as product sales should not be accounted for as long-term contracts merely to avoid the delivery requirements for revenue recognition of product sales.

g. Service transactions accounting. If the sales or licensing agreement includes obligations to perform services that are not essential to the functionality of any other element of the transaction and that are separately stated and priced so the total price of the agreement would be expected to vary if they were excluded, the services should be accounted for separately.

If collection is probable, revenue from software services generally should be recognized as the services are performed or, if no pattern of performance is discernible, ratably over the period during which they are performed. If significant uncertainty about customer acceptance of the services exists, revenue should not be recognized until the uncertainty becomes insignificant.

h. PCS (providing product enhancements and ongoing support services--generally called maintenance in the software industry). If collection is probable, revenue from PCS, including revenue bundled with an initial licensing fee, generally should be recognized ratably over the period of the PCS arrangement. Revenue attributable to PCS, however, may be recognized with the initial licensing fee on delivery of the software if certain strict conditions set forth in the SOP are met.

i. Disclosure of accounting policies. Software revenue recognition policies should be disclosed in the notes to the financial statements.