194 • The SEC has clarified and tightened the requirements for revenue recognition. To rec- ognize revenue there must be persuasive evidence of an arrangement, delivery has occurred or services have been rendered, the seller’s price to the buyer is fixed or determinable, and collectibility is reasonably assured. • While technically fulfilling the criteria for revenue recognition, channel stuffing, where deep discounts are offered to encourage orders that are uneconomic from the buyer’s perspective, results in the recognition of revenue that is not sustainable. • Side letters sometimes are used to surreptitiously negate the terms of a sale. Revenue should not be recognized in such cases. • Under specific criteria, revenue that is subject to a right of return can be recognized. It is important for the estimated amount of any return to be deducted from the revenue amount reported. • Related-party revenue, when a sale or service transaction is conducted with an entity over which the selling company has influence, must be clearly disclosed. Disclosure permits the reader to form an opinion as to the sustainability of the revenue recognized. • Very specific criteria must be met before revenue can be recognized in advance of shipment. These criteria guide the recognition of revenue in bill-and-hold transac- tions. Among the criteria is the stipulation that bill-and-hold transactions must be arranged at the request of the buyer. • Service fees cannot be recognized until the related services are provided. • Contract accounting is employed when an extended period is required for completion of a product or service. Under contract accounting, there are two methods of report- ing revenue. Under the percentage-of-completion method, revenue is recognized as progress is made toward completion. Under the completed-contract method, revenue is recognized at completion. • In detecting premature or fictitious revenue the following points are important: 1. The revenue recognition footnote contains important information on the timing of revenue recognition 2. A close relationship exists between revenue and accounts receivable 3. Other balance sheet accounts, including property, plant, and equipment and other assets, might be used to offset premature or fictitious revenue 4. A company may not have the physical capacity to generate the revenue being reported. GLOSSARY Accounts Receivable Days (A/R Days ) The number of days it would take to collect the end- ing balance in accounts receivable at the year’s average rate of revenue per day. Calculated as accounts receivable divided by revenue per day (revenue divided by 365). Bill and Hold A sales agreement where goods that have been sold are not shipped to a customer but, as an accommodation, simply are segregated outside of other inventory of the selling com- pany or shipped to a warehouse for storage, awaiting customer instructions. T HE F INANCIAL N UMBERS G AME 195 Channel Stuffing Shipments of product to distributors who are encouraged to overbuy under the short-term offer of deep discounts. Completed-Contract Method A contract accounting method that recognizes contract revenue only when the contract is completed. All contract costs are accumulated and reported as expense when the contract revenue is recognized. Contract Accounting Method of accounting for sales or service agreements where completion requires an extended period. Cost Plus Estimated Earnings in Excess of Billings Revenue recognized to date under the percentage-of-completion method in excess of amounts billed. Also known as unbilled accounts receivable. Earned Revenue When a company has substantially accomplished what it must do to be enti- tled to the benefit represented by a revenue transaction. Emerging Issues Task Force A separate committee within the Financial Accounting Standards Board composed of 13 members representing CPA firms and preparers of financial statements whose purpose is to reach a consensus on how to account for new and unusual financial transac- tions that have the potential for creating differing financial reporting practices. Fictitious Revenue Revenue recognized on a nonexistent sale or service transaction. Free-on-Board (FOB) Destination A shipping arrangement agreed to between buyer and seller where title to the goods sold passes when the goods in question reach their destination. When goods are shipped FOB destination, revenue is properly recognized when the goods reach their destination. Free-on-Board (FOB) Shipping Point A shipping arrangement agreed to between buyer and seller where title to the goods sold passes when the goods in question are delivered to a common carrier. When goods are shipped FOB shipping point, revenue is properly recognized when the goods are delivered to the common carrier. Gain-on-Sale Accounting Up-front gain recognized from the securitization and sale of a pool of loans. Profit is recorded for the excess of the sales price and the present value of the estimated interest income that is expected to be received on the loans above the amounts funded on the loans and the present value of the interest agreed to be paid to the buyers of the loan-backed securities. Percentage-of-Completion Method A contract accounting method that recognizes contract revenue and contract expenses as progress toward completion is made. Premature Revenue Revenue recognized for a confirmed sale or service transaction in a period prior to that called for by generally accepted accounting principles. Price Protection A sales agreement provision where price concessions are offered to resellers to account for price reductions occurring while inventory is held by them awaiting resale. Realizable Revenue A revenue transaction where assets received in exchange for goods and services are readily convertible into known amounts of cash or claims to cash. Realized Revenue A revenue transaction where goods and services are exchanged for cash or claims to cash. Related Party An entity whose management or operating policies can be controlled or signif- icantly influenced by another party. Revenue Recognition The act of recording revenue in the financial statements. Revenue should be recognized when it is earned and realized or realizable. Right of Return A sales agreement provision that permits a buyer to return products purchased for an agreed-upon period of time. Recognizing Premature or Fictitious Revenue 196 Sales Revenue Revenue recognized from the sales of products as opposed to the provision of services. Sales-type Lease Lease accounting used by a manufacturer who is also a lessor. Up-front gross profit is recorded for the excess of the present value of the lease payments to be received across a lease term over the cost to manufacture the leased equipment. Interest income also is recognized on the lease receivable as it is earned over the lease term. Service Revenue Revenue recognized from the provision of services as opposed to the sale of products. Side Letter A separate agreement that is used to clarify or modify the terms of a sales agree- ment. Side letters become a problem for revenue recognition when they undermine a sales agree- ment by effectively negating some or all of an agreement’s underlying terms and are maintained outside of normal reporting channels. Trade Loading A term used for channel stuffing in the domestic tobacco industry. Unbilled Accounts Receivable Revenue recognized under the percentage-of-completion method in excess of amounts billed. Also known as cost plus estimated earnings in excess of billings. NOTES 1. The Wall Street Journal, December 22, 2000, p. B2. 2. Ibid., October 20, 1998, p. A3. 3. Accounting and Auditing Enforcement Release No. 1133, In the Matter of Insignia Solutions PLC, Respondent (Washington, DC: Securities and Exchange Commission, May 17, 1999), para. 6. 4. The Wall Street Journal, January 6, 2000, p. A1. 5. Ibid., February 25, 1999, p. B9. 6. Accounting and Auditing Enforcement Release No. 1247, In the Matter of Peritus Software Services, Inc., Respondent (Washington, DC: Securities and Exchange Commission, April 13, 2000). 7. Accounting and Auditing Enforcement Release No. 975, In the Matter of Pinnacle Micro, Inc., Scott A. Blum, and Lilia Craig, Respondents (Washington, DC: Securities and Exchange Commission, October 3, 1997). 8. Accounting and Auditing Enforcement Release No. 1243, In the Matter of Beth A. Morris and Steven H. Grant, Respondents (Washington, DC: Securities and Exchange Commission, March 29, 2000). 9. The Wall Street Journal, May 27, 1998, p. A10. 10. Ibid., December 23, 1998, p. C1. 11. Ibid., August 22, 2000, p. B11. 12. Ibid., January 6, 2000, A1. 13. Ibid., January 30, 1997, p. A3 and Accounting and Auditing Enforcement Release No. 1166, Securities and Exchange Commission v. Lawrence Borowiak (Washington, DC: Securities and Exchange Commission, September 28, 1999). 14. Accounting and Auditing Enforcement Release No. 852, Order Instituting Public Proceed- ing Pursuant to Section 21C of the Securities Exchange Act of 1934, Making Findings and T HE F INANCIAL N UMBERS G AME 197 Cease-and-Desist Order in the Matter of Troy Lee Wood (Washington, DC: Securities and Exchange Commission, October 31, 1996). 15. Accounting and Auditing Enforcement Release No. 843, In the Matter of Cambridge Biotech Corporation, Respondent (Washington, DC: Securities and Exchange Commission, October 17, 1996). 16. BMC Software, Inc., annual report, March 1991, p. 42. 17. American Software, Inc., annual report, April 1991, p. 39. 18. Autodesk, Inc., annual report, January 1992, p. 28. 19. Computer Associates International, Inc., annual report, March 1992, p. 20. 20. Statement of Position 97-2: Software Revenue Recognition (New York: Accounting Stan- dards Executive Committee, October 1997). 21. Microsoft Corp., annual report, June 2000. Information obtained from Disclosure, Inc., Compact D/SEC: Corporate Information on Public Companies Filing with the SEC (Bethesda, MD: Disclosure, Inc. December 2000). 22. Ibid. 23. Advent Software, Inc., annual report, December 1999. Information obtained from Disclo- sure, Inc., Compact D/SEC. 24. Accounting and Auditing Enforcement Release No. 903, In the Matter of Lynn K. Blattman, Respondent (Washington, DC: Securities and Exchange Commission, April 10, 1997). 25. Accounting and Auditing Enforcement Release No. 1313, In the Matter of Cylink Corp., Respondent (Washington, DC: Securities and Exchange Commission, September 27, 2000). 26. The Wall Street Journal, December 22, 2000, p. B2. 27. Ibid., February 9, 2001, p. A3. 28. Accounting and Auditing Enforcement Release No. 1215, In the Matter of Informix Corp., Respondent (Washington, DC: Securities and Exchange Commission, January 11, 2000). 29. Business Week, September 16, 1996, p. 90. 30. Fortune, December 4, 1989, p. 89. 31. Accounting and Auditing Release No. 987, In the Matter of Bausch & Lomb Incorporated, Harold O. Johnson, Ermin Ianacone, and Kurt Matsumoto, Respondents (Washington, DC: Securities and Exchange Commission, November 17, 1997). 32. Accounting and Auditing Enforcement Release No. 1133. 33. Accounting and Auditing Enforcement Release No. 1215, In the Matter of Informix Corp., Respondent (Washington, DC: Securities and Exchange Commission, January 11, 2000). 34. Statement of Financial Accounting Standards No. 48, Revenue Recognition When Right of Return Exists (Norwalk, CT: Financial Accounting Standards Board, June 1981). 35. General Motors Corp., annual report, December 1999. Information obtained from Disclo- sure, Inc. Compact D/SEC. 36. Accounting and Auditing Enforcement Release No. 971, In the Matter of Laser Photonics, Inc., Respondent (Washington, DC: Securities and Exchange Commission, September 30, 1997). 37. Accounting and Auditing Enforcement Release No. 1272, In the Matter of Cendant Corp., Respondent (Washington, DC: Securities and Exchange Commission, June 14, 2000). 38. Statement of Financial Accounting Standards No. 57, Related-Party Disclosures (Norwalk, CT: Financial Accounting Standards Board, March 1982). Recognizing Premature or Fictitious Revenue 198 39. Accounting and Auditing Enforcement Release No. 1220, In the Matter of William L. Clancy, CPA, Respondent (Washington, DC: Securities and Exchange Commission, February 7, 2000). 40. Lernout & Hauspie Speech Products NV, annual report, December 1999. Information obtained from Disclosure, Inc. Compact D/SEC. 41. The Wall Street Journal, December 19, 2000, C1. 42. Hewlett-Packard Co., annual report, October 1999. Information obtained from Disclosure, Inc. Compact D/SEC. 43. Accounting and Auditing Enforcement Release No. 812, In the Matter of Advanced Medical Products, Inc., Clarence P. Groff and James H. Brown, Respondents (Washington, DC: Securities and Exchange Commission, September 5, 1996). 44. Accounting and Auditing Enforcement Release No. 971, In the Matter of Laser Photonics, Inc., Respondent (Washington, DC: Securities and Exchange Commission, September 30, 1997). 45. Accounting and Auditing Enforcement Release No. 1184, In the Matter of Peter Madsen and Mark Rafferty, Respondents (Washington, DC: Securities and Exchange Commission, Sep- tember 28, 1999). 46. Accounting and Auditing Enforcement Release No. 1044, In the Matter of Thomas D. Leaper, CPA, William T. Wall III, CPA, Fred S. Flax, CPA and Kellogg & Andelson LLC, Respondents (Washington, DC: Securities and Exchange Commission, June 17, 1998). 47. The Wall Street Journal, June 22, 1998, p. A4. 48. Accounting and Auditing Enforcement Release No. 1243. 49. The Wall Street Journal, December 30, 1998, p. B3. 50. Accounting and Auditing Enforcement Release No. 812. 51. Raytheon Co., annual report, December 1999. Information obtained from Disclosure, Inc., Compact D/SEC. 52. The Wall Street Journal, March 21, 2000, p. B1. 53. BJ’s Wholesale Club, Inc., annual report, January 2000. Information obtained from Disclo- sure, Inc., Compact D/SEC. 54. Costco Wholesale Corp., annual report, August 1998. Information obtained from Disclosure, Inc., Compact D/SEC. 55. The Wall Street Journal, January 28, 1998, p. A4. 56. Ibid., February 6, 2001, p. C1. 57. EBay, Inc., annual report, December 1999. Information obtained from Disclosure, Inc., Compact D/SEC. 58. Emerging Issues Task Force Issue No. 99-19, Reporting Revenue Gross as a Principal ver- sus Net as an Agent, (Norwalk, CT: Financial Accounting Standards Board, 1999). 59. The Wall Street Journal, February 28, 2000, C4. 60. For a more in-depth look at this subject, refer to E. Comiskey and C. Mulford, Guide to Financial Reporting and Analysis (New York: John Wiley & Sons, 2000), pp. 122–135. 61. SOP 81-1, Accounting for Performance of Construction-Type and Certain Production-Type Contracts (New York: Accounting Standards Executive Committee, American Institute of CPAs, July 1981). 62. Data obtained from Accounting Trends and Techniques: Annual Survey of Accounting Prac- tices Followed in 600 Stockholder’ Reports (New York: American Institute of CPAs, 1999). T HE F INANCIAL N UMBERS G AME 199 63. Accounting and Auditing Enforcement Release No. 879, In the Matter of William T. Manak, Respondent (Washington, DC: Securities and Exchange Commission, February 6, 1997.) 64. Stirling Homex Corp., annual report, July 1971. 65. Staff Accounting Bulletin No. 101, Revenue Recognition in Financial Statements (Wash- ington, DC: Securities and Exchange Commission, December 3, 1999). 66. Accounting and Auditing Enforcement Release No. 773, Securities and Exchange Commis- sion v. Stephen R.B. Bingham, Susan McKenna Grant, and William McClintock, Respon- dents (Washington, DC: Securities and Exchange Commission, April 17, 1996). 67. The Wall Street Journal, November 4, 1998, p. S2. In 1999 the company changed its method of accounting, postponing revenue recognition until its client collects amounts due from the vendor. 68. Ibid., February 26, 1998, p. R1. 69. Profit Recovery International, Inc., Form 10-K annual report to the Securities and Exchange Commission, December 1998, p. 27. 70. The Wall Street Journal, November 4, 1998, p. S2. The Center for Financial Research and Analysis is a private research company specializing in identifying accounting and operational problems in public companies. 71. Revenue that has been collected in advance of being earned still can be recognized prema- turely. However, such cases are the exception. Given the fact that the revenue has been col- lected, they are less of a problem than revenue that has not been collected. 72. For companies using contract accounting, increases in unbilled accounts receivable will accompany premature or fictitious revenue. 73. Accounting and Auditing Enforcement Release No. 1313, In the Matter of Cylink Corpora- tion, Respondent (Washington, DC: Securities and Exchange Commission, September 27, 2000). 74. Refer to C. Mulford and E. Comiskey, Financial Warnings (New York: John Wiley & Sons, 1996), pp. 228–233. Also refer to Accounting and Auditing Enforcement Release No. 543, In the Matter of Comptronix Corp., Respondent (Washington, DC: Securities and Exchange Commission, March 29, 1994). 75. Refer also to C. Mulford and E. Comiskey, Financial Warnings (New York: John Wiley & Sons, 1996), pp. 224–225. Recognizing Premature or Fictitious Revenue TEAMFLY Team-Fly ® TEAMFLY Team-Fly ® 201 CHAPTER SEVEN Aggressive Capitalization and Extended Amortization Policies . . . if a company incorrectly calls an expense an asset for accounting purposes, it can provide a big boost to earnings, at least in the short term. And that is what critics say is happening at Pre-Paid Legal Services, Inc. 1 . . . because of “aggressive accounting,” expenses incurred in obtaining new food-service contracts were typically listed on the company’s [Fine Host Corp.’s] balance sheet as assets to be depreciated over time. Instead, they should have appeared as a current expense against revenue 2 Livent transferred preproduction costs for shows to fixed asset accounts such as the construction of theatres and inflated profits by fraudulently amortizing preproduction costs over a much longer period of time. 3 Unisys said it will take a $1.1 billion charge in its recently ended fourth quarter, much of it to write down goodwill still lingering on the books from the 1986 merger of Burroughs Corp. and Sperry Corp. that created Unisys. 4 The four examples identified in the opening quotes capture the essence of the potential for accounting problems associated with capitalization and amortization policies. Through aggressive capitalization policies, companies report current-period expenses and/or losses as assets. As a result, expense recognition is postponed, boosting current- period earnings. These “assets” or deferred expenses are then amortized to expense over future reporting periods, burdening those periods with expenses that should have been recorded earlier. 202 For example, critics of Pre-Paid Legal Services, Inc., maintain that the company’s policy of capitalizing the up-front commissions it pays its sales force, typically three years’ worth for each policy sold, is aggressive and results in an overstatement of assets and earnings. Fine Host Corp. is a similar case, where the costs of obtaining new food- service contracts were capitalized and depreciated or amortized to expense over time. When capitalized costs, even costs that have been properly capitalized, are amortized over extended periods, assets are carried beyond their useful lives. The net effect is to postpone expenses to future periods, boosting current-period earnings. Livent, Inc., is a case in point. The company was able to amortize its live-show preproduction costs, which include costs incurred in bringing a show to fruition, over extended periods by transferring those costs to fixed asset accounts. Fixed assets or property, plant, and equipment accounts typically carry much longer useful lives than preproduction costs, which include such soft expenditures as wages incurred and supplies purchased during preopening preparation and rehearsals. Some also would argue that Pre-Paid Legal Services employs an extended amortiza- tion period for the sales commissions it capitalizes. The company amortizes these capi- talized costs over a three-year period even though the life of an average policy is approximately two years. While not as blatant as the practices of Livent, Pre-Paid’s pol- icy could be viewed as postponing expense recognition. 5 The fate befalling Unisys Corp. is common for companies that have boosted earnings with aggressive capitalization or extended amortization policies. Write-downs often ensue. In the case of Unisys, it was a write-down of goodwill that had become value- impaired. The company had chosen an amortization period that seemed appropriate at the time of the merger of Burroughs Corp. and Sperry Corp. In hindsight, however, that period was clearly too long, as it became apparent that the recorded asset had a shorter useful life than had been originally expected. It is hard to say whether the company could have anticipated this problem in an earlier period or not. There were undoubtedly signs that the previous merger had not created value whose life extended as long as had been originally anticipated. Certainly its stagnant sales and frequent losses in the years lead- ing up to the write-down attested to the presence of potential problems. 6 Had these signs been heeded, the asset’s useful life would have been reduced, resulting in higher recur- ring charges and a reduced need for a special one-time charge. COST CAPITALIZATION In 1996, America Online (AOL), Inc. announced that it was taking a special pretax charge of $385 million to write down subscriber acquisition costs that had been capital- ized previously. 7 Those subscriber acquisition costs, which included the costs of manu- facturing and distributing to prospective members millions of computer disks containing company software, had been capitalized on the premise that they would be recovered from new membership revenue. In effect, the company postponed expensing the costs in order to match them with that future revenue. The Securities and Exchange Commission disagreed with the company’s accounting treatment, likening the subscriber acquisition costs to advertising costs, which are gener- T HE F INANCIAL N UMBERS G AME 203 ally expensed as incurred. The only exception to the expensing option, which would per- mit capitalization, was when persuasive historical evidence could be provided that would permit a reliable estimate of the future revenue that could be obtained from incremental advertising expenditures. According to the SEC, because AOL operated in a new, evolv- ing, and unstable industry, it could not provide that kind of persuasive historical evidence. Expensing the subscriber acquisition costs was the only appropriate option. 8 In 1996, AOL earned $62.3 million before income taxes on revenue of $1.1 billion. However, that year alone, the company capitalized subscriber acquisition costs of $363 million. Amortization that year of such costs capitalized in prior years totaled $126 mil- lion. Thus, the net effect of the company’s capitalization policy was to boost pretax earn- ings in 1996 by a significant $237 million ($363 million minus $126 million). 9 Clearly the company would have lost money in 1996 if its policy had been to expense subscriber acquisition costs as incurred. When Should Costs Be Capitalized? The AOL example helps to showcase the judgment involved in, and potentially signifi- cant effects of, management decisions aimed at determining whether costs incurred should be capitalized or expensed. The principle guiding these decisions, known generally as the matching principle, is simple enough. The principle ties expense recognition to rev- enue recognition, dictating that efforts, as represented by expenses, be matched with accomplishments (i.e., revenue), whenever it is reasonable and practicable to do so. For example, inventory costs are not charged to cost of goods sold when the inventory is purchased. Rather, those costs are charged to expense when the inventory is sold. That way the cost of the inventory and the revenue generated by its sale are reported on the income statement in the same time period. Similarly, a bonus paid a salesperson for com- pleting a sale or the estimated cost of providing warranty repairs over an agreed-upon warranty period are expensed in the same time period that the related revenue is recog- nized. In this way, expenses incurred are matched with the recognized revenue. Allocating Costs in a Rational and Systematic Manner Most costs do not have such a clear association with revenue as can exist for inventory costs or a sales bonus or the estimated costs of a warranty repair. As a result, a system- atic and rational allocation policy is used to approximate the matching principle. Thus, because a long-lived asset contributes toward the generation of revenue over several periods, the asset’s cost must be allocated over those periods. This reporting technique seems straightforward and works reasonably well for most expenditures. It is from this systematic and rational allocation approach that we get our current method of accounting for depreciation expense. Companies record assets pur- chased at their cost and then allocate that cost over the future periods that benefit. Con- sider the following example taken from the annual report of American Greetings Corp.: Property, plant and equipment are carried at cost. Depreciation and amortization of build- ings, equipment and fixtures is computed principally by the straight-line method over the useful lives of the various assets. 10 Aggressive Capitalization and Extended Amortization Policies [...]... equity 1999 $ 160 ,453 41,332 $ 1 96, 240 59,927 21,224 60 ,66 1 ———— 81,885 101,304 32, 760 87,828 ———— 120,588 114, 464 Source: Pre-Paid Legal Services, Inc., Form 10-K annual report to the Securities and Exchange Commission (December 1999) cies on the company’s financial statements In that light, the company’s accounting practices appear to be aggressive There are numerous examples of other companies whose... capital for $400,2 46, 458 the difference between the market value of its stock and the $0.01 exercise price of the warrants issued to its partners At the same time, the company netted deferred acquisition costs for the same amount against the increase in paid-in capital Thus, the net effect of the issuance of the warrants was no change in paid-in capital However, in future periods, the $400,2 46, 458, adjusted... stock on the date the warrants are issued and the exercise price of the warrants of $0.01 The amount of deferred customer acquisi- 215 THE FINANCIAL NUMBERS GAME tion costs will be adjusted in future reporting periods based on changes in the fair value of the warrants until such date as the warrants are fully vested Deferred customer acquisition costs will be amortized to operating expense over the term... Instead of following 213 THE FINANCIAL NUMBERS GAME these practices, however, Chambers backed into the amount of landfill costs capitalized That is, the company determined what it wanted its expenses to be using a predetermined percent of revenue Any expenses incurred above these amounts were then capitalized No real effort was made even to relate the costs capitalized to the actual landfill development... accordance with the agreements with the organizers of the New Banks and subject to the New Banks being opened, the Company has agreed to include organizational and preopening costs in the initial capitalization of the New Banks The total of the organizational and preopening costs is expected to range from $60 0,000 to $900,000 and will be amortized over a five-year period on a straight-line basis.20 At the time,... will still seek to capitalize such costs, possibly labeling them as something other than what they are 207 THE FINANCIAL NUMBERS GAME Another item for which there is clarity in terms of capitalization policies is capitalized interest Nonetheless, as seen below, capitalization still can lead to earnings difficulties Capitalized Interest Costs In the United States, interest incurred on monies invested in... fact, between 1993 and 1995 these items were the largest “assets” on the company’s balance sheet.37 211 THE FINANCIAL NUMBERS GAME As a final example consider Pinnacle Micro, Inc During 1995 the company was developing a new optical disk drive Certain of the nonrecurring engineering expenditures incurred during this development period were capitalized in the expectation that the costs would be matched... Memberships.45 Whether the company’s practice is within generally accepted accounting principles or not, one must question the asset value of these commission advances Certainly the company would have more trouble selling them than a piece of capital equipment or a patent Moreover, unlike other receivables, a lender would be very unlikely to buy them in a factoring transaction The fact that the company has... from others can be reported as assets at the purchase price Whether arising from the capitalization of internal costs incurred or through purchases from others, patents and licenses are amortized over the shorter of their legal or economic useful lives One company that greatly abused accounting practices for patents and licenses was Comparator Systems Corp In 19 96, about a month after seeing the company’s... 1993, the company continued to incur costs However, rather than expense these costs, the company capitalized them, reporting them as assets.48 They should have been expensed as incurred During 1988 and 1989 Kahler Corp., a company that owned and managed hotels, carried one of its hotels as an asset held for sale This accounting practice permitted the company to capitalize the operating losses from the . lingering on the books from the 19 86 merger of Burroughs Corp. and Sperry Corp. that created Unisys. 4 The four examples identified in the opening quotes capture the essence of the potential for accounting. that is expected to be received on the loans above the amounts funded on the loans and the present value of the interest agreed to be paid to the buyers of the loan-backed securities. Percentage-of-Completion. the company postponed expensing the costs in order to match them with that future revenue. The Securities and Exchange Commission disagreed with the company’s accounting treatment, likening the