Question

SEC Accounting and Auditing Enforcement Release (AAER) No. 108 specifies certain conditions or criteria that a bill and hold transaction of a public company should meet in order to qualify for revenue recognition. The AAER also specifies certain factors that should be considered in evaluating whether a bill and hold transaction meets the requirements for revenue recognition. AAER No. 108 states that a “bill and hold” transaction should meet the following conditions:

The risks of ownership must have passed to the buyer.

The customer must have made a fixed commitment to purchase the goods, preferably reflected in written documentation.

The buyer, not the seller, must request that the transaction be on a bill and hold basis. The buyer must have a substantial business purpose for ordering the goods on a bill and hold basis.

There must be a fixed schedule for delivery of the goods. The date for delivery must be reasonable and must be consistent with the buyer's business purpose (e.g., storage periods are customary in the industry).

The seller must not have retained any specific performance obligations such that the earning process is not complete.

The ordered goods must have been segregated from the seller's inventory and not be subject to being used to fill other orders.

The equipment must be complete and ready for shipment.

Required:

Identify and discuss the reliability of the types of evidence an auditor would need to determine whether each condition cited above was met for a bill and hold transaction.

Answer 1

Theabove listed conditions are the important conceptual criteria that should beused in evaluating any purported bill and hold sale. This listing is notintended as a checklist. In some circumstances, a transaction may meet all factors listed above but not meet the requirements for revenue recognition. TheCommission also has noted that in applying the above criteria to a purportedbill and hold sale, e individuals responsible for the preparation and filingof financial statements also should consider the following factors:

1. The date by which the seller expects payment, andwhether the seller has modified its normal billing and credit terms for thisbuyer;

2. The seller\'s past experiences with and pattern ofbill and hold transactions;

3. Whether the buyer has the expected risk of loss inthe event of a decline in the market value of goods;

4. Whether the seller\'s custodial risks are insurableand insured;

5. Whether extended procedures are necessary in orderto assure that there are no exceptions to the buyer\'s commitment to accept andpay for the goods sold (, that the business reasons for the bill andhold have not introduced a contingency to the buyer\'s commitment).

Deliverygenerally is not considered to have occurred unless the product has beendelivered to the customer\'s place of business or another site specified by thecustomer. If the customer specifies an intermediate site but a substantialportion of the sales price is not payable until delivery is made to a finalsite, then revenue should not be recognized until final delivery has occurred.