American Home Shield 2004 Annual Report Download - page 43

2004 annual report ServiceMaster 41
Revenue: Revenue from lawn care, pest control, liquid and
fumigation termite applications, as well as heating/air condi-
tioning and plumbing services are recognized as the services are
provided. Revenue from landscaping services are recognized
as they are earned based upon monthly contract arrangements
or when services are performed for non-contractual arrange-
ments. Revenue from the Company’s commercial installation
contracts, primarily relating to HVAC and electrical installations
are recognized using the percentage of completion method in
the ratio that total incurred costs bear to total estimated costs.
The Company eradicates termites through the use of baiting
stations, as well as through non-baiting methods (e.g., fumigation
or liquid treatments). Termite services using baiting stations as
well as home warranty services frequently are sold through
annual contracts for a one-time, upfront payment. Direct costs
of these contracts (service costs for termite contracts and claim
costs for warranty contracts) are expensed as incurred. The
Company recognizes revenue over the life of these contracts in
proportion to the expected direct costs. Revenue from trade
name licensing arrangements is recognized when earned.
Franchised revenue (which in the aggregate represents less
than three percent of consolidated revenue) consists principally
of continuing monthly fees based upon the franchisee’s
customer level revenue. Monthly fee revenue is recognized
when the related customer level revenue is reported by the
franchisee and collectibility is assured. Franchise revenue also
includes initial fees resulting from the sale of a franchise.
These fees are fixed and are recognized as revenue when
collectibility is assured and all material services or conditions
relating to the sale have been substantially performed. Total
franchise fee profits (excluding trade name licensing) comprised
10.1, 10.5 and 9.4 percent of consolidated operating income
(without the impairment charge in 2003) before headquarter
overheads in 2004, 2003 and 2002, respectively.
The Company had $443 million and $420 million of deferred
revenue at December 31, 2004 and 2003, respectively, which
consist primarily of payments received for annual contracts
relating to home warranty, termite baiting, pest control and
lawn care services. The revenue related to these services is rec-
ognized over the contractual period as the direct costs emerge,
such as when the services are performed or claims are incurred.
Deferred Customer Acquisition Costs: Customer acquisition
costs, which are incremental and direct costs of obtaining a
customer, are deferred and amortized over the life of the related
contract in proportion to revenue recognized. These costs
include sales commissions and direct selling costs which can
be shown to have resulted in a successful sale.
Interim Reporting: TruGreen ChemLawn has significant
seasonality in its business. In the winter and early spring, this
business sells a series of lawn applications to customers which
are rendered primarily in March through October. This
business incurs incremental selling expenses at the beginning
of the year that directly relate to successful sales for which the
revenues are recognized in later quarters. TruGreen ChemLawn
also defers, on an interim basis, pre-season advertising costs
and annual repairs and maintenance procedures that are
performed in the first quarter. These costs are deferred and
recognized in proportion to the contract revenue over the pro-
duction season, and are not deferred beyond the calendar
year-end. Other business segments of the Company also defer,
on an interim basis, advertising costs incurred early in the
year. These costs are deferred and recognized approximately
in proportion to revenue over the balance of the year, and are
not deferred beyond the calendar year-end.
Advertising: As discussed in the “Interim Reporting” note
above, certain pre-season advertising costs are deferred and
recognized approximately in proportion to the contract revenue
over the year. Certain other advertising costs are expensed
when the advertising occurs. The cost of direct-response
advertising at Terminix is capitalized and amortized over
its expected period of future benefits. This direct-response
advertising consists primarily of direct-mail promotions, for
which the cost is capitalized and amortized over the one-year
customer contract life.
Inventory Valuation: Inventories are valued at the lower of
cost (primarily on a weighted average cost basis) or market.
The inventory primarily represents finished goods to be used
on the customers’ premises or sold to franchisees.
Property and Equipment, Intangible Assets and Goodwill:
Buildings and equipment used in the business are stated at cost
and depreciated over their estimated useful lives using the
straight-line method for financial reporting purposes. The
estimated useful lives for building and improvements range
from 10 to 40 years, while the estimated useful lives for equip-
ment range from three to 10 years. Leasehold improvements
relating to leased facilities are depreciated over the remaining
life of the lease. Technology equipment as well as software and
development have an estimated useful life of three to seven
years. Intangible assets consist primarily of goodwill ($1.6
billion), trade names ($205 million) and other intangible assets
($16 million).