IBM 2011 Annual Report Download - page 80

Notes to Consolidated Financial Statements
International Business Machines Corporation and Subsidiary Companies78
Hardware
The company’s hardware offerings include the sale or lease of system
servers, storage solutions, retail store systems and the sale of
semiconductors. The company also offers installation services for
its more complex products.
Revenue from hardware sales and sales-type leases is recognized
when risk of loss has transferred to the client and there are no unfulfilled
company obligations that affect the client’s final acceptance of the
arrangement. Any cost of standard warranties and remaining obligations
that are inconsequential or perfunctory are accrued when the
corresponding revenue is recognized. Revenue from rentals and
operating leases is recognized on a straight-line basis over the term
of the rental or lease.
Software
Revenue from perpetual (one-time charge) license software is
recognized at the inception of the license term if all revenue recognition
criteria have been met. Revenue from term (recurring license charge)
license software is recognized on a subscription basis over the
period that the client is entitled to use the license. Revenue from
subscription and support, which includes unspecified upgrades on
a when-and-if-available basis, is recognized on a straight-line basis
over the period such items are delivered. In multiple-deliverable
arrangements that include software that is more than incidental to
the products or services as a whole (software multiple-deliverable
arrangements), software and software-related elements are
accounted for in accordance with software revenue recognition
guidance. Software-related elements include software products
and services for which a software deliverable is essential to its
functionality. Tangible products containing software components
and non-software components that function together to deliver the
tangible product’s essential functionality are not within the scope of
software revenue recognition guidance and are accounted for based
on other applicable revenue recognition guidance.
A software multiple-deliverable arrangement is separated into
more than one unit of accounting if all of the following criteria are met:
• The functionality of the delivered element(s) is not dependent
on the undelivered element(s);
• There is vendor-specific objective evidence (VSOE) of fair
value of the undelivered element(s). VSOE of fair value is
based on the price charged when the deliverable is sold
separately by the company on a regular basis and not
as part of the multiple-deliverable arrangement; and
• Delivery of the delivered element(s) represents the culmination
of the earnings process for that element(s).
If any one of these criteria are not met, the arrangement is accounted
for as one unit of accounting which would result in revenue being
recognized ratably over the contract term or being deferred until the
earlier of when such criteria are met or when the last undelivered
element is delivered. If these criteria are met for each element
and there is VSOE of fair value for all units of accounting in an
arrangement, the arrangement consideration is allocated to the
separate units of accounting based on each unit’s relative VSOE of
fair value. There may be cases, however, in which there is VSOE of
fair value of the undelivered item(s) but no such evidence for the
delivered item(s). In these cases, the residual method is used to
allocate the arrangement consideration. Under the residual method,
the amount of consideration allocated to the delivered item(s) equals
the total arrangement consideration less the aggregate VSOE of fair
value of the undelivered elements.
The company’s multiple-deliverable arrangements may have a
stand-alone software deliverable that is subject to the existing
software revenue recognition guidance. The revenue for these
multiple-deliverable arrangements is allocated to the software
deliverable and the non-software deliverables based on the relative
selling prices of all of the deliverables in the arrangement using
the hierarchy: VSOE, third-party evidence (TPE) or best estimate of
selling price (BESP). In the limited circumstances where the company
cannot determine VSOE or TPE of the selling price for all of the
deliverables in the arrangement, including the software deliverable,
BESP is used for the purpose of performing this allocation.
Financing
Financing income attributable to sales-type leases, direct financing
leases and loans is recognized on the accrual basis using the
effective interest method. Operating lease income is recognized on
a straight-line basis over the term of the lease.
Best Estimate of Selling Price
In certain limited instances, the company is not able to establish
VSOE for all elements in a multiple-deliverable arrangement. When
VSOE cannot be established, the company attempts to establish
the selling price of each element based on TPE. TPE is determined
based on competitor prices for similar deliverables when sold separately.
When the company is unable to establish selling price using
VSOE or TPE, the company uses BESP in its allocation of arrangement
consideration. The objective of BESP is to determine the price at
which the company would transact a sale if the product or service
were sold on a stand-alone basis. Due to the fact that the company
sells its products and services on a stand-alone basis, and therefore
has established VSOE for its products and services offerings, the
company uses BESP to determine the relative selling price for a
product or service in a multiple-deliverable arrangement on an
infrequent basis. An example of when BESP would be used is when
the company sells a new product, for which VSOE and TPE does
not yet exist, in a multiple-deliverable arrangement prior to selling
the new product on a stand-alone basis.