National Oilwell Varco 2010 Annual Report Download - page 45

Critical Accounting Estimates
In preparing the financial statements, we make assumptions, estimates and judgments that affect the amounts reported. We periodically evaluate
our estimates and judgments that are most critical in nature which are related to revenue recognition under long-term construction contracts;
allowance for doubtful accounts; inventory reserves; impairments of long-lived assets (excluding goodwill and other indefinite-lived intangible
assets); goodwill and other indefinite-lived intangible assets; service and product warranties and income taxes. Our estimates are based on
historical experience and on our future expectations that we believe are reasonable. The combination of these factors forms the basis for making
judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results are likely to differ
from our current estimates and those differences may be material.
Revenue Recognition under Long-term Construction Contracts
The Company uses the percentage-of-completion method to account for certain long-term construction contracts in the Rig Technology segment.
These long-term construction contracts include the following characteristics:
the contracts include custom designs for customer specific applications;
the structural design is unique and requires significant engineering efforts; and
construction projects often have progress payments.
This method requires the Company to make estimates regarding the total costs of the project, progress against the project schedule and the
estimated completion date, all of which impact the amount of revenue and gross margin the Company recognizes in each reporting period. The
Company prepares detailed cost to complete estimates at the beginning of each project, taking into account all factors considered likely to affect
gross margin. Significant projects and their related costs and profit margins are updated and reviewed at least quarterly by senior management.
Factors that may affect future project costs and margins include shipyard access, weather, production efficiencies, availability and costs of labor,
materials and subcomponents and other factors as mentioned in Risk Factors. These factors can significantly impact the accuracy of the
Companys estimates and materially impact the Companys future reported earnings.
Historically, the Companys estimates have been reasonably dependable regarding the recognition of revenues and gross profits on
percentage-of-completion contracts. Based upon an analysis of percentage-of-completion contracts for all open contracts outstanding at
December 31, 2009 and 2008, adjustments (representing the differences between the estimated and actual results) to all outstanding contracts
resulted in net changes to gross profit margins of 1.4% ($119 million on $8.6 billion of outstanding contracts) and 1.0% ($53 million on
$5.4 billion of outstanding contracts) for the years ended December 31, 2010 and 2009, respectively. While the Company believes that its
estimates on outstanding contracts at December 31, 2010 and in future periods will continue to be reasonably dependable under
percentage-of-completion accounting, the factors identified in the preceding paragraph could result in significant adjustments in future periods.
The Company has recorded revenue on outstanding contracts (on a contract-to-date basis) of $9.3 billion at December 31, 2010.
Allowance for Doubtful Accounts
The determination of the collectability of amounts due from customer accounts requires the Company to make judgments regarding future events
and trends. Allowances for doubtful accounts are determined based on a continuous process of assessing the Companys portfolio on an
individual customer basis taking into account current market conditions and trends. This process consists of a thorough review of historical
collection experience, current aging status of the customer accounts, and financial condition of the Companys customers. Based on a review of
these factors, the Company will establish or adjust allowances for specific customers. A substantial portion of the Companys revenues come
from international oil companies, international shipyards, international oilfield service companies, and government-owned or
government-controlled oil companies. Therefore, the Company has significant receivables in many foreign jurisdictions. If worldwide oil and gas
drilling activity or changes in economic conditions in foreign jurisdictions deteriorate, the creditworthiness of the Companys customers could
also deteriorate and they may be unable to pay these receivables, and additional allowances could be required. At December 31, 2010 and 2009,
allowance for bad debts totaled $107 million and $95 million, or 4.2% and 4.3% of gross accounts receivable, respectively.
Historically, the Companys charge-offs and provisions for the allowance for doubtful accounts have been immaterial to the Companys
consolidated financial statements. However, because of the risk factors mentioned above, changes in our estimates could become material in
future periods. 45