CHAPTER 5 Revenue Recognition and Profitability Analysis 253 Ethical Dilemma The Precision Parts Corporation manufactures automobile parts. The company has reported a profit every year since the company’s inception in 1980. Management prides itself on this accomplishment and believes one important contributing factor is the company’s incentive plan that rewards top management a bonus equal to a percentage of operating income if the operating income goal for the year is achieved. However, 2016 has been a tough year, and prospects for attaining the income goal for the year are bleak. Tony Smith, the company’s chief financial officer, has determined a way to increase December sales by an amount sufficient to boost operating income over the goal for the year and secure bonuses for all top management. A reputable customer ordered $120,000 of normally stocked parts to be shipped on January 15, 2017. Tony told the rest of top management “I know we can get that order ready by December 31. We can then just leave the order on the loading dock until shipment. I see nothing wrong with recognizing the sale in 2016, since the parts will have been manufactured and we do have a firm order from a reputable customer.” The company’s normal procedure is to ship goods f.o.b. destination and to recognize sales revenue when the customer receives the parts. CONSIGNMENT ARRANGEMENTS. Sometimes a company arranges for another company to sell its product under consignment . In these arrangements, the “consignor” physically transfers the goods to the other company (the consignee), but the consignor retains legal title. If a buyer is found, the consignee remits the selling price (less commission and approved expenses) to the consignor. If the consignee can’t find a buyer within an agreed-upon time, the consignee returns the goods to the consignor. When does control transfer from the consignor, allowing the consignor to recognize revenue? Referring to the indicators listed in Illustration 5–3 , the consignor still has title and retains many of the risks and rewards of ownership for goods it has placed on consignment. Therefore, it’s likely that the consignor would be judged to retain control after transfer to the consignee and would postpone recognizing revenue until sale to an end customer occurs. Illustration 5–21 provides an example of a consignment arrangement by Boston Scientific Corporation from a recent annual report. Revenue recognition occurs upon sale to an end customer in a consignment arrangement. Illustration 5–21 Disclosure of Revenue Recognition Policy for Consignment Arrangements—Boston Scientific Corporation Note 1: Business and Summary of Significant Accounting Policies: Revenue Recognition (in part) We generally meet these criteria at the time of shipment, unless a consignment arrangement exists or we are required to provide additional services. We recognize revenue from consignment arrangements based on product usage, or implant, which indicates that the sale is complete. Real World Financials Consistent with SEC guidance, sellers can recognize revenue prior to delivery only if (a) they conclude that the customer controls the product, (b) there is a good reason for the billand hold arrangement, and (c) the product is specifically identified as belonging to the customer and is ready for shipment.21 21 FASB ASC 605–10–S99: Revenue Recognition–Overall–SEC Materials (originally “Revenue Recognition in Financial Statements,” Staff Accounting Bulletin No. 101 (Washington, D.C.: SEC, 1999) and Staff Accounting Bulletin No. 104 (Washington, D.C.: SEC, 2003)).
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