Multiple Element Revenue Arrangements
General:
Lexmark enters into agreements with customers that contain multiple elements, such as the provisions of hardware, supplies, customized services such as installation, maintenance, and enhanced warranty services, and separately priced maintenance services. These bundled arrangements generally involve capital or operating leases, or upfront purchases of hardware products with services and supplies provided per contract terms or as needed. Lexmark also enters into agreements with customers that contain software deliverables which are discussed separately in the section to follow.
If a deliverable in a multiple element arrangement is subject to other authoritative guidance, such as leased equipment, software or separately priced maintenance services, that deliverable is separated from the arrangement based on its relative selling price and accounted for in accordance with such specific guidance. The remaining deliverables are accounted for under the guidance on multiple-deliverable revenue arrangements. Revenue for these arrangements is allocated to each deliverable based on its relative selling price and is recognized when the revenue recognition criteria for each deliverable has been met.
A multiple deliverable arrangement is separated into more than one unit of accounting if both of the following criteria are met:
- The delivered item(s) has value to the customer on a stand-alone basis; and
- If the arrangement includes a general right of return relative to the delivered item(s), delivery or performance of the undelivered item(s) is considered probable and substantially within the Company's control.
If these criteria are not met, the arrangement is accounted for as one unit of accounting and the recognition of revenue is deferred until delivery is complete or is recognized ratably over the contract period as appropriate.
If these criteria are met, consideration is allocated at inception of the arrangement to all deliverables on the basis of the relative selling price. The Company has generally met these criteria in that all of the deliverables in its multiple deliverable arrangements have stand-alone value in that either the customer can resell that item or another vendor sells that item separately. In cases of deliverables with variable quantities, the Company's practice is to consider these a separate deliverable in the original arrangement when the customer does not have the option but to purchase future quantities from the Company. The Company typically does not offer a general right of return in regards to its multiple deliverable arrangements.
The selling price of each deliverable is determined by establishing vendor specific objective evidence (“VSOE”), third party evidence (“TPE”) or best estimate of selling price (“BESP”) for each delivered item. If VSOE or TPE is not determinable, the Company utilizes its BESP in order to allocate consideration for those deliverables.
The Company uses its BESP when allocating the transaction price for most of its non-software deliverables due to variability in pricing or lack of stand-alone sales as well as the unique and customized nature of certain deliverables. BESP for the Company's product deliverables is determined by utilizing a weighted average price approach. BESP for the Company's service deliverables is determined by utilizing a cost plus margin approach. These approaches are described further in the paragraphs below.
The Company's method for determining management's BESP for products starts with a review of historical stand-alone sales data. Prior sales are grouped by product and key data points utilized such as the average unit price and the weighted average price in order to incorporate the frequency of each product sold at any given price. Due to the large number of product offerings, products are then grouped into common product categories (families) incorporating similarities in function and use and a BESP discount is determined by common product category. This discount is then applied to product list price to arrive at a product BESP. This method is performed and applied at a geography level in order to incorporate variances in product pricing across worldwide boundaries.
The Company does not typically sell its services on a stand-alone basis, thus a BESP for services is determined using a cost plus margin approach. The Company typically uses third party suppliers to provide the services component of its multiple element arrangements, thus the cost of services is generally that which is invoiced to the Company, but may also include cost estimates based on parts, labor, overhead and estimates of the number of service actions to be performed. A margin is applied to the cost of services in order to determine a BESP, and is primarily based on consideration of internal factors such as margin objectives and pricing practices as well as competitor pricing strategies.
Software:
For software deliverables, relative selling price is determined using VSOE which is based on company specific stand-alone sales data or renewal rates. For those arrangements, the Company often uses the residual method to allocate arrangement consideration to delivered software licenses as permitted under the software revenue recognition guidance when VSOE does not exist for all arrangement deliverables. VSOE for professional services is generally based on hourly rates charged and is determined using a bell curve approach on stand-alone sales data, while VSOE for maintenance agreements is determined using a renewal rate approach, which is based on the contractual price for renewal in the original arrangement as substantiated by actual renewal experience. Maintenance revenue is deferred and recognized ratably over the term of the support period which is generally twelve months. Software components that function together with the non-software components to provide the equipment's essential functionality are accounted for as part of the sale of the equipment. Software components that do not function together with the non-software components to deliver the equipment's essential functionality are accounted for under the software revenue recognition guidance.
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