This document analyzes how Apple accounts for revenue from iPhone sales under GAAP and non-GAAP methods. Under GAAP, Apple uses a subscription method to defer most revenue over 24 months. This matches Apple's obligations to buyers but understates earnings. Apple's non-GAAP method fully recognizes upfront revenue, better reflecting its business model but not following GAAP. While this benefits Apple, changing the rules for one company could set a precedent and give it an unfair advantage over competitors. On balance, GAAP subscription accounting currently provides the most reliable numbers for investors, though non-GAAP better represents Apple's economic reality.

1. Case 4
Accounting for the Iphone at
Apple Inc.
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2. Table of Contents
Table of Contents...............................................................................................................2
Introduction.......................................................................................................................3
Case Analysis......................................................................................................................4
Conclusion..........................................................................................................................6
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3. Introduction
The pace of innovation and technology is not only changing the way people live , the way
business is conducted , but it certainly changes the way stakeholders , regulators react to
these changes for the benefit of the greater good or society as a whole. For any student
familiar with GAAP and more precisely the revenue recognition principle , this case may
seem simple , straight to the point. In this case, nothing could be further from the truth.
When evaluating the top line of a multi billion dollars business like Apple, it is anything but
simple. How should a company like Apple recognize its revenue? Should the rules be
changed to reflect this new business model ? Is the recommendation of the AICP when it
comes to the reporting of "bundled components" enough ? The statement of position
number 92-2 is pretty clear about software revenue recognition which should be based on
subscription method of accounting. Although , Apple reports its official financial
information according the GAAP , but the company go out of its way to publish a side by
side GAAP and NON-GAAP revenues numbers ? What is behind this intent and what would
be the impact on Apple 's financial statements ?
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4. Case Analysis
It is quite clear what GAAP rules require of Apple and the other technology companies to
follow . Generally , GAAP would ask for Apple to recognize its revenue when is realizable or
realized and earned. But , based on their business model, company like Apple is allowed to
report their revenue based on the subscription accounting principle . This method would
allow the Apple to recognize a portion of its deferred revenue each quarter whether or not
they receive cash for the iphones or future services or upgrades. Similarly the way a
newspaper company or magazines would recognize their revenues.
Under such method, Apple 's balance sheet will have a high cash and cash equivalents which
derived from the sale of the phones. Inventories would decrease and deferred revenue
would increase as well. As far the income statement is concerned, Apple will report a
quarterly revenue based on the iphones shipped or delivered during that period and will
incur the costs associated with these transactions . Apple will only recognize 12.5%
(62.5/500) of its revenue, and the rest , which is 87.5% will stay deferred and will be
amortized on straight line basis over 24 months. The statement of cash flows will reflect the
changes in operating activities which will show a high net cash inflow from the sale
proceeds.
The Non-GAAP method used by Apple will recognize the full revenue from the sales without
taking into account the delivery of the phones, services or upgrades. Under such method,
the balance sheet along with the Income statement will change drastically to show a higher
Retained earnings as well as a higher revenue for the same period. Looking at the Table A in
the case of GAAP and Non-GAAP fourth quarter 2008 total sales and income, it is not
surprising that the Non-GAAP sales and income are exponentially greater than the GAAP
numbers. With a percentage increase of total sale of 48 percent , total income of 115
percent and Iphone sales 475 percent , it makes a lot of sense why Apple decided to publish
these numbers side by side with the GAAP official reporting numbers. One thing is certain,
the productivity ratios will be greatly affected by the choice of method used by the company
. Analysts and investors alike will be faced with two set of numbers and will be asking which
method best reflect Apple 's economic reality .
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5. Many would argue that Apple 's subscription method under GAAP does not fully reflect the
company 's current business due to the fact it undermines Apple 's earnings. The fact of the
matter is that Apple Non-GAAP may very well reflects the company 's business model, but
by recognizing the full revenue of iphones sales it may boost Apple quarterly revenue and
stock prices as well . The company would very much prefer to report under a Non-GAAP
method because it is a more accurate and relevant way to showcase or forecast the
company's performance , but it does not abide by GAAP rules under any circumstances . To
make matters bad to worse , the non disclosures of certain information such as the
agreement between Apple and AT&T throw everyone into a tailspin . It makes it more
difficult to assess the impact of this bookkeeping on Apple 's bottom line.
It goes without saying that a change to the subscription accounting rule would benefit Apple
greatly. Of course , Apple and all the other technology companies should lobby their Non-
GAAP numbers to be sanctioned, approved by the FASB. Why the hell not ? But would it be
fair to the average investor and other companies in different sectors ? maybe not so much.
Why would the FASB change the accounting rules to benefit one company or one industry ?
Such change would not only boost Apple quarterly revenue and stock prices , but it would
also failed to report the company 's deferred subscription revenue portion every quarter.
The Non-GAAP method would do a lot of good for Apple, but if adopted it may potentially
create a precedence for the FASB when it comes to deal with similar or new cases in the
future. If the FASB sees fit to give approval to Apple Non-GAAP numbers, how could it refuse
others when facing with other bookkeeping oddities in the future .
From an accounting standpoint, under the current rules, Apple 's revenue is accounted for
by " p" percentage every quarter. By deferring its revenues, Apple not only showcase
accountability , but also it accentuates the company 's obligations to buyers. How can one
dissociate the device, service and software all together . Looking at Apple's agreement with
AT&T , the iphone provided under the two -year contract to the customer or buyer mimic
more a lease agreement than a definitive sale of an inventory. In that case, this transaction
is by definition a subscription and the change may subsequently remove Apple 's obligation
that is in effect in the current subscription accounting under GAAP.
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6. The FASB should consider a more general view of the matter in terms of the effects of such
change on Apple 's financial statements compared to its global competitors such as
Samsung. From a Global economic perspectives, will this change be aligned to Apple 's
competitors around the globe under IFRS rules ? GAAP and IFRS are not usually far from
each other when it comes to obey accounting standards and principles. Is adopting the
Non-GAAP give a comparative advantage to Apple in terms of their profitability numbers
compared to Samsung ? Should a governing body such as the FASB take part in such
endeavor ? All these questions are pertinent when it comes to the treatment of the revenue
recognition inside a company like Apple.
Conclusion
Apple 's business model, their size and their industry are without a doubt very significant
and contribute a lot to the United States ' PIB, but is it fair to bend the rules for one
company or one industry ? It would be a tremendously help to Apple if the FASB allows
them to report their Non-GAAP numbers , but it seems that certain aspects of the business
cycle may be unaccounted for such as the company 's obligations to the buyers. It is evident
that this method reflects best Apple economic reality , but it may not be relevant enough to
be sanctioned by the FASB to benefit one company. Based on their business model, these
technology companies such as Apple would see a boost in their bottom line as well as in
their shares prices, but would they be reliable numbers for the analysts and the average
investor ?
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