American Home Shield 2005 Annual Report Download - page 37

P. 3 5 SERVICEMASTER 2005 ANNUAL REPORT
Revenue: Revenue from lawn care, pest control, liquid and
fumigation termite applications 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 arrangements. 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, are frequently 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 approximately 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. Franchised 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
10.5, 10.3 and 10.9 percent of consolidated operating
income (excluding the impairment charge in 2003) before
headquarter overhead in 2005, 2004 and 2003, respectively.
The Company had $433 million and $430 million of
deferred revenue at December 31, 2005 and 2004,
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 recognized 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 acquisi-
tion 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 (the
production season). 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. On an interim basis, TruGreen
ChemLawn defers these incremental selling expenses,
pre-season advertising costs and annual repairs and main-
tenance procedures that are performed in the first quarter.
These costs are deferred and recognized in proportion to
the revenue over the production 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 revenue
over the year. Certain other advertising costs are expensed
when the advertising occurs. The cost of direct-response
advertising at Terminix, consisting primarily of direct-mail
promotions, is capitalized and amortized over its expected
period of future benefits, which is the one-year 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 equipment 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 ($1.5 billion), trade names ($215 million)
and other intangible assets ($15 million).
Notes to the Consolidated Financial Statements