8x8 2005 Annual Report Download - page 50

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The preparation of the consolidated financial statements, in conformity with accounting principles generally
accepted in the United States, requires management to make estimates and assumptions that affect the reported
amounts of assets, liabilities and equity and disclosure of contingent liabilities at the date of the financial statements
and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, the Company
evaluates its estimates, including, but not limited to, those related to bad debts, valuation of inventories, and
litigation and other contingencies. The Company bases its estimates on historical experience and on various other
assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources.
Actual results could differ from those estimates under different assumptions or conditions.
REVENUE RECOGNITION
VoIP service revenue
The Company defers revenue recognition of new subscriber revenue from its Packet8 service offerings until the
acceptance period has expired. New customers may terminate their service within thirty days of order placement
and receive a full refund of fees previously paid. As the Company has been providing its Packet8 service for a
limited period of time, it has not developed sufficient history to apply a return rate and reserve against new order
revenue. Accordingly, the Company defers new subscriber revenue for up to thirty days to ensure that the thirty day
trial period has expired.
Emerging Issues Task Force (EITF) consensus No. 00-21, “Accounting for Revenue Arrangements with Multiple
Deliverables” requires that revenue arrangements with multiple deliverables be divided into separate units of
accounting if the deliverables in the arrangement meet specific criteria. In addition, arrangement consideration must
be allocated among the separate units of accounting based on their relative fair values, with certain limitations. The
provisioning of the Packet8 service with the accompanying desktop terminal adapter constitutes a revenue
arrangement with multiple deliverables. In accordance with the guidance of EITF No. 00-21, the Company allocates
Packet8 revenues, including activation fees, among the desktop terminal adapter and subscriber services. Revenues
allocated to the desktop terminal adapter are recognized as product revenues at the end of thirty days after order
placement, provided the customer does not cancel their Packet8 service. All other revenues are recognized as
license and service revenues when the related services are provided.
Deferred cost of goods sold represents the cost of products sold for which the end customer or distributor has a right
of return. The cost of the products sold is recognized contemporaneously with the recognition of revenue, when the
subscriber has accepted the service.
Product revenue
The Company recognizes revenue from product sales for which there are no related services to be rendered upon
shipment to OEMs and end users provided that persuasive evidence of an arrangement exists, the price is fixed, title
has transferred, collection of resulting receivables is reasonably assured, there are no customer acceptance
requirements, and there are no remaining significant obligations. Gross outbound shipping and handling charges are
recorded as revenue, and the related costs are included in cost of goods sold. Reserves for returns and allowances
for OEM and end user sales are recorded at the time of shipment. The Company defers recognition of revenue on
sales to distributors and resellers where the right of return exists until products are resold to the end user and the trial
period has expired.
License and other revenue
The Company recognizes revenue from license contracts when a non-cancelable, non-contingent license agreement
has been signed, the software product has been delivered, no uncertainties exist surrounding product acceptance,
fees from the agreement are fixed and determinable, and collection is probable. The Company uses the residual
method to recognize revenue when a license agreement includes one or more elements to be delivered at a future
date if evidence of the fair value of all undelivered elements exists. If evidence of the fair value of the undelivered
elements does not exist, revenue is deferred and recognized when delivery occurs. When the Company enters into a
license agreement requiring that the Company provide significant customization of the software products, the license
and consulting revenue is recognized using contract accounting. Revenue from maintenance agreements is
recognized ratably over the term of the maintenance agreement, which in most instances is one year. The Company
recognizes royalties upon notification of sale by its licensees. Revenue from consulting, training, and development
services is recognized as the services are performed.