Accounting rule change could boost Apple revenue
New accounting rules could see boost Apple's reported iPhone revenue.
(Credit: James Martin/CNET)Though not yet a done deal, a tentative change in accounting rules could have a dramatic effect on the earnings reports of tech companies, and in particular, Apple.
Apple stands to gain a lot from a new draft of rules that governs how companies recognize revenue from subscriptions, as Fortune noted. Though it still needs final approval from the Financial Accounting Standards Board, the change could mean that Apple will stop recognizing revenue for its highly successful iPhone over a two-year period, the length of a standard wireless contract, and instead recognize it as soon as a phone is sold.
As Apple showed for the first time in October last year, as successful as the company had been with sales of the iPhone, the current accounting practice was obscuring the true wealth the device is actually generating for the company. For the most recent quarter, adherence to GAAP (generally accepted accounting principles) meant that Apple reported $8.34 billion in iPhone and Apple TV revenue (assume the iPhone is a large chunk of that number). In reality the company recorded $9.74 billion in revenue.
Now, flash-forward to today, after a summer in which we saw the most successful iPhone launch of the three since 2007, and it's clear that if the revenue from each device were accounted for all at once, the company's overall earnings would be much higher. And, as Apple Vice President and Controller Betsy Rafael wrote while lobbying for the rule change, the company's stock price would likely see significant gains if investors were able to see how much money the company was actually bringing in every quarter.
In a letter to the FASB last month, Rafael wrote that the current practice "often results in accounting that does not reflect the underlying economics of transactions and can result in financial reporting that lacks the transparency necessary to fully inform users making investment decisions."
The reason Apple recognizes revenue from the iPhone over a two-year period stems from an uproar surrounding an upgrade to the MacBook Pro more than two years ago. Apple had secretly sold those laptops with an 802.11n chip but didn't activate it right away. Because the famously secretive Apple kept the existence of a new 802.11n chip under wraps, and because it recognized all of the revenue from the sale of those notebooks at the time they were sold, accounting experts said Apple had to charge a fee to satisfy accounting regulations that require companies to establish a value for product upgrades.
Apple only applies this practice to the iPhone and Apple TV, but not Macs or iPods, and it's the reason why iPod Touch owners have to pay a fee to upgrade to each new iPhone OS software update, whereas iPhone owners do not.
If the rule were to be approved by the FASB--the next meeting isn't until mid-November--it would mean a far less bewildering method of accounting for all tech companies that adhere to it, but especially Apple and investors who follow the company. And it also means we should be prepared for a bigger than usual jump in results whenever Apple does institute the practice.
Erica Ogg is a CNET News reporter who covers Apple, HP, Dell, and other PC makers, as well as the consumer electronics industry. She's also one of the hosts of CNET News' Daily Podcast. In her non-work life, she's a history geek, a loyal Dodgers fan, and a mac-and-cheese connoisseur. E-mail Erica. 
Your link tagging failed. Might want to correct it. :)
If the rule were to be approved by the FASB--the next meeting isn't until mid-November--it would mean a far less bewildering method of accounting for all tech companies that adhere to it, but especiaally Apple and investors that follow the company. And it also means we should be prepared for a bigger than usual jump in results whenever Apple does institute the practice.
Should be uh.. "especially"
Otherwise, great info. :)
It'd have been nice if the article provided quotes or references to these "accounting experts." All the articles I've read that quote actual accountants have said that Apple's line was just an excuse, and that no company legally required to charge for firmware updates.
I'd also like to learn of how the GAAP forced Apple to charge the $3, $20, $10, $5 for the Wireless-N and iPod Touch updates instead of, say, $.01.
If Apple had not charged for the firmware upgrade, they would have had to "reserve" part of the revenue on the MacBook Pro and not recognized it until the entire upgrade were made available. (that is if they knew that they were going to do the upgrade when they shipped the product) This is one of the adverse impacts of the post-Enron accounting rules that have really made doing business in certain markets very difficult.
If you really want to see strange behavior, you should look at accounting rules around the licensing of IP (both patents as well as things like designs) Talk about driving strange behavior!
as for the $0.01 charge, I'm pretty sure that hey had to make the charge high enough that the GAAP guys wouldn't essentially say that they were giving it away. I'm sure they had an accounting ruling before they set the Wireless-N ugprade price.
On iPod's, there's more to it. They could certainly sell the iPod upgrades for $2.00 like they did the Wireless-N, so there's more to it than accounting rules, probably revenue generation. But on the Wireless N, when you're talking about a $2 upgrade on a $2000 item (MacBook) you can be assured that it's entirely accounting rules that drove that decision.
"All the articles I've read that quote actual accountants have said that Apple's line was just an excuse, and that no company legally required to charge for firmware updates."-LVLLN
I agree with LVLLN's point, but then again I consider an upgrade from Leopard to Snow Leopard to also be only a update, similar to the familiar (and free for existing customers) Support Packs for Windows XP, Vista, and soon to be 7.
But when you do choose to go this route, the law actually require you to charge a substantial fee for the new feature.
Still Apple set the price comically low, and make no effort what so ever to prevent piracy (yes, $5-10 is absurdly low for Apple considering it is charging $20 for a DVI adapter)
So either you pay a small fee for the upgrade, or you get it anyway while persuading yourself that such behavior is just.
Talk about Service Packs, the Biggest Service Pack since the beginning of PC industry is coming October 22th.
--- "Win 7, just like Vista, only it sorta works."
Truth been told, Vista is ambitious with packs of new technologies both on the surface and under the hood. But it is executed poorly. It could be epic, but instead it's an epic fail.
Win7 really is what Vista should be performance wise and then some UI goodies and blings. Other than speed tweaks, there is not much going on underneath. It's nice to see MSFT finally pull something off that will not make me headbutting the keyboard, but seriously not too exciting.
Snow Leopard offers very little user experience changes, it is faster for sure, but not that much, for 10.5 is not slouch itself. A lot of benefits won't be seen until the apps catching up with the new technologies it introduced such as GCD and OpenCL.
Fortunate for us Mac users, Mac Developers (besides Adobe and MSFT of course) are very familiar with Apple's ruthless tech advance. So the software vacuum will be filled pretty soon. And IT IS EXCITING.
I'm sure the "usuals" should be jumping on this story soon . . . but if you can't see Apple's corporate business agenda and want to call it all a conspiracy, tinfoil hats are still cheap.
Seems like this is more of an XM story :/
1. Not to charge anything for the upgrade. This means this year, they have to eat the development cost and not recognizing the revenue they made from this new feature this year because this part of the revenue has been reported last year.
2. To charge $1.99 for the development cost in this year. This way, this year of earning report will look better because the development expense is covered by this fee.
3. Include the charge of $1.99 for this upgrade charge when they sold the computer. This means they have to record this the revenue in the liability section of balance sheet, which will certainly reveal that this function is included. They want to keep this as a secret, so not an option for them.
I think it is just how they do accounting, different from what Microsoft would do. Both approaches conform to GAAP. If I am a Mac customer, I would be happy to spend $1.99 for this new feature. What makes me unhappy is how Apple structured this message, it makes it sound like GAAP requires them to charge $1.99.
As an owner of both the Touch and the iPhone, I'm fully familiar with the position of an Apple product owner... that of bent over and asking Apple if I can have another.
- by pwb9 September 14, 2009 7:30 PM PDT
- This is all ridiculous. Accounting experts generally agree that the upgrade fees are unnecessary. And are investors really so stupid they can't distinguish between revenue earned now vs. the revenue earned over time?
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