Rosetta Stone 2014 Annual Report Download - page 66

Table of Contents
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Rosetta Stone Inc. and its subsidiaries ("Rosetta Stone," or the "Company") develop, market and support a suite of language-learning, literacy, and brain
fitness solutions consisting of perpetual software products, web-based software subscriptions, online and professional services, audio practice tools and
mobile applications. The Company's software products are sold on a direct basis and through select retailers. In January 2014, the Company acquired Vivity
Labs Inc. ("Vivity") and Tell Me More S.A. ("Tell Me More") (see Note 5, Business Combinations). The Company provides its solutions to customers through
the sale of packaged software and web-based software subscriptions, domestically and in certain international markets.
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The accompanying consolidated financial statements include the accounts of Rosetta Stone Inc. and its wholly owned subsidiaries. All intercompany
accounts and transactions have been eliminated in consolidation. Certain amounts in the prior period consolidated financial statements have been
reclassified to conform to the current period presentation which primarily relate to the discrete presentation of deferred sales commissions.
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The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires that
management make certain estimates and assumptions. Significant estimates and assumptions have been made regarding the allowance for doubtful accounts,
estimated sales returns, stock-based compensation, fair value of intangibles and goodwill, inventory reserve, disclosure of contingent assets and liabilities,
disclosure of contingent litigation, and allowance for valuation of deferred tax assets. Actual results may differ from these estimates.
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The Company's primary sources of revenue are web-based software subscriptions, online services, perpetual product software, and bundles of perpetual
product software and short-term online services. The Company also generates revenue from the sale of audio practice products, mobile applications, and
professional services. Revenue is recognized when all of the following criteria are met: there is persuasive evidence of an arrangement; the product has been
delivered or services have been rendered; the fee is fixed or determinable; and collectability is reasonably assured. Revenues are recorded net of discounts.
The Company identifies the units of accounting contained within sales arrangements in accordance with Accounting Standards Codification ("ASC")
605-25  (“ASC 605-25”). In doing so, the Company evaluates a variety of factors including whether
the undelivered element(s) have value to the customer on a stand-alone basis or if the undelivered element(s) could be sold by another vendor on a stand-
alone basis.
For multiple element arrangements that contain perpetual software products and related services, the Company allocates the total arrangement
consideration to its deliverables based on vendor-specific objective evidence of fair value, or vendor-specific objective evidence ("VSOE"), in accordance
with ASC subtopic 985-605-25  ("ASC 985-605-25"). The Company generates a substantial
portion of its consumer revenue from the CD and digital download formats of the Rosetta Stone language-learning product which is a multiple-element
arrangement that includes two deliverables: the perpetual software, delivered at the time of sale, and the short-term online service, which is considered a
software-related element. The online service includes short-term access to conversational coaching services. Because the Company only sells the perpetual
language-learning software on a stand-alone basis in its homeschool version, the Company does not have a sufficient concentration of stand-alone sales to
establish VSOE for this element. Accordingly, the Company allocates the arrangement consideration using the residual method based on the existence of
VSOE of the undelivered element, the short-term online service. The Company determines VSOE of the short-term online service by reference to the range of
stand-alone renewal sales of the three-month online service. The Company reviews these stand-alone sales on a quarterly basis. VSOE is established if at least
80% of the stand-alone sales are within a range of plus or minus 15% of a midpoint of the range of prices, consistent with generally accepted industry
practice.
For non-software multiple element arrangements the Company allocates revenue to all deliverables based on their relative selling prices. The
Company's non-software multiple element arrangements primarily occur as sales to its Global Enterprise & Education customers. These arrangements can
include web-based subscription services, audio practice materials and professional services or any combination thereof. The Company does not have a
sufficient concentration of stand-alone sales of the various deliverables noted above to its Global Enterprise & Education customers, and therefore cannot
establish VSOE for
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