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2004

Accounting for real estate time-sharing transactions; Statement Accounting for real estate time-sharing transactions; Statement

of position 04-2; Statement of position 04-2 of position 04-2; Statement of position 04-2

American Institute of Certified Public Accountants. Accounting Standards Executive Committee

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Recommended Citation Recommended Citation American Institute of Certified Public Accountants. Accounting Standards Executive Committee, "Accounting for real estate time-sharing transactions; Statement of position 04-2; Statement of position 04-2" (2004). Statements of Position. 153. https://egrove.olemiss.edu/aicpa_sop/153

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STATEMENT OF POSITION 0 4 -2

December 9, 2004

Accounting for Real Estate Time-Sharing Transactions

Issued by theAccounting Standards Executive Committee

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STATEMENT OF POSITION 04-2

December 9, 2004

Accounting for Real Estate Time-Sharing Transactions

Issued by the Accounting Standards Executive Committee

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Copyright © 2004 by American Institute of Certified Public Accountants, Inc.New York, NY 10036-8775

All rights reserved. For information about the procedure for request-ing permission to make copies of any part of this work, please call theAICPA Permissions Hotline at (201) 938-3245. A Permissions RequestForm for e-mailing requests is available at www.aicpa.org by click-ing on the copyright notice on any page. Otherwise, requests shouldbe written and mailed to the Permissions Department, AICPA, Harbor-side Financial Center, 201 Plaza Three, Jersey City, NJ 07311-3881.

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TABLE OF CONTENTS

Summary. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . v

Foreword . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . ix

Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1

Scope. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3

Conclusions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4Profit Recognition Under FASB Statement No. 66 . . . . . . . . 4Seller Identification of Projects and Phases . . . . . . . . . . . . . 5Determination of Sales Value . . . . . . . . . . . . . . . . . . . . . . . . 5Application of Test of Buyer’s Commitment. . . . . . . . . . . . . 8Upgrade and Reload Transactions . . . . . . . . . . . . . . . . . . . 10Accounting for Uncollectibility . . . . . . . . . . . . . . . . . . . . . 10Accounting for Cost of Sales and Inventory. . . . . . . . . . . . 13Costs to Sell Time-Sharing Intervals . . . . . . . . . . . . . . . . . 15Operations During Holding Periods . . . . . . . . . . . . . . . . . . 16Sampler Programs and Mini-Vacations. . . . . . . . . . . . . . . . 17Special-Purpose Entities, Points Systems,

Vacation Clubs, and Similar Structures . . . . . . . . . . . . . 18Owners Associations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19Statement of Cash Flows . . . . . . . . . . . . . . . . . . . . . . . . . . 21Presentation and Disclosures . . . . . . . . . . . . . . . . . . . . . . . 21

Effective Date and Transition . . . . . . . . . . . . . . . . . . . . . . . . . . 22

APPENDIX A Basis for Conclusions . . . . . . . . . . . . . . . . . . . . . 23

APPENDIX B Illustration of Relative Sales Value Method Under Full Accrual and Percentage-of-CompletionAccounting . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 48

APPENDIX C Continuing Involvement . . . . . . . . . . . . . . . . . . 89

APPENDIX D Illustration of Use of Historical Data onUncollectibles, Including Related Disclosures . . . . . . . . . . . 96

APPENDIX E Illustration of Determination of Sales Value of Time-Share Interval. . . . . . . . . . . . . . . . . . . 104

GLOSSARY . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 113

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SUMMARY

This Statement of Position (SOP) provides guidance on aseller’s accounting for real estate time-sharing transac-tions.

• A time-share seller should recognize profit on time-sharing transactions as specified under the profit recog-nition guidance in the sections in Financial AccountingStandards Board (FASB) Statement of Financial Ac-counting Standards No. 66, Accounting for Sales ofReal Estate, that specify the accounting for other thanretail land sales. For purposes of recognizing profit,nonreversionary title should be transferred. If titletransfer is reversionary, the seller should account forthe transaction as if it were an operating lease.

• Certain sales incentives provided by a seller to a buyerto consummate a transaction should be recorded sep-arately by reducing the stated sales price of the time-share by the excess of the fair value of the incentiveover the amount the buyer pays. For purposes of test-ing for buyer’s commitment under FASB StatementNo. 66, the seller should reduce its measurement ofthe buyer’s initial and continuing investments by theexcess of the fair value of the incentive over the statedamount the buyer pays, except in certain situations inwhich, to receive the incentive, the buyer is requiredto make specific payments on its note.

• A reload transaction is considered to be a separate sale ofa second interval, and the second interval is accountedfor in accordance with the profit recognition guidance ofFASB Statement No. 66. For an upgrade transaction, thatguidance is applied to the sales value of the new (up-grade) interval, and the buyer’s initial and continuing in-vestments from the original interval are included in theprofit recognition tests related to the new interval.

• As used in this SOP, the term uncollectibles should beinterpreted broadly to include all situations in which, asa result of credit issues, a time-share seller collects lessthan 100 percent of the contractual cash payments of a

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note receivable, except for certain transfers of receiv-ables to independent third parties by the seller. An esti-mate of uncollectibility that, from a historical andstatistical perspective, is expected to occur should berecorded as a reduction of revenue at the time thatprofit is recognized on a time-sharing sale recordedunder the full accrual or percentage-of-completionmethod. Subsequent changes in estimated uncol-lectibles should be recorded as an adjustment to esti-mated uncollectibles and thereby as an adjustment torevenue. Under the relative sales value method, theseller effectively does not record revenue, cost of sales,or inventory relief for amounts not expected to be col-lected. There generally is no accounting effect on in-ventory when, as expected, a time-share is repossessedor otherwise reacquired.

• The seller should account for cost of sales and time-sharing inventory in accordance with the relativesales value method.

• All costs incurred to sell time-shares should becharged to expense as incurred except for certaincosts that are:

— Incurred for tangible assets used directly in sellingthe time-shares.

— Incurred for services performed to obtain regula-tory approval of sales.

— Direct and incremental costs of successful salesefforts under the percentage-of-completion, in-stallment, reduced profit, or deposit methods ofaccounting.

• Rental and other operations during holding periods,including sampler programs and mini-vacations,should be accounted for as incidental operations,which requires that any excess of revenue over costsbe recorded as a reduction of inventory costs.

• The accounting treatment for more complex time-sharing structures such as time-sharing special-purpose entities (SPEs), points systems, and vacationclubs should be determined using the same profit

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recognition guidance as for simpler structures, pro-vided that the time-sharing interest has been sold tothe end user. For balance-sheet presentation pur-poses, an SPE should be viewed as an entity lackingeconomic substance and established for the purposeof facilitating sales if the SPE structure is legally re-quired for purposes of selling intervals to a class ofnonresident customers, and the SPE has no assetsother than the time-sharing intervals and has nodebt. In those circumstances, the seller should pre-sent on its balance sheet as time-sharing inventorythe interests in the SPE not yet sold to end users.

• If the seller, seller’s affiliate, or related party operatesan exchange, points, affinity, or similar program, theprogram’s operations constitute continuing involve-ment by the seller, and the seller should determineits accounting based on an evaluation of whether itwill receive compensation at prevailing market ratesfor its program services.

• This SOP is effective for financial statements for fis-cal years beginning after June 15, 2005, with earlierapplication encouraged. Initial application should bereported as a cumulative effect of a change in ac-counting principle.

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FOREWORD

The accounting guidance contained in this document hasbeen cleared by the Financial Accounting Standards Board(FASB). The procedure for clearing accounting guidance indocuments issued by the Accounting Standards ExecutiveCommittee (AcSEC) involves the FASB reviewing and dis-cussing in public board meetings (1) a prospectus for a pro-ject to develop a document, (2) a proposed exposure draftthat has been approved by at least 10 of AcSEC’s 15 mem-bers, and (3) a final document that has been approved byat least 10 of AcSEC’s 15 members. The document iscleared if at least four of the seven FASB members do notobject to AcSEC undertaking the project,* issuing the pro-posed exposure draft, or, after considering the input re-ceived by AcSEC as a result of the issuance of the exposuredraft, issuing the final document.

The criteria applied by the FASB in its review of proposedprojects and proposed documents include the following:

1. The proposal does not conflict with current or pro-posed accounting requirements, unless it is a limitedcircumstance, usually in specialized industry ac-counting, and the proposal adequately justifies thedeparture.

2. The proposal will result in an improvement in prac-tice.

3. The AICPA demonstrates the need for the proposal.

4. The benefits of the proposal are expected to exceedthe costs of applying it.

In many situations, prior to clearance, the FASB will proposesuggestions, many of which are included in the documents.

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* At the time the Accounting Standards Executive Committee (AcSEC) undertook thisproject, at least five of the seven Financial Accounting Standards Board members wererequired to not object to AcSEC undertaking this project.

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1

Accounting for Real Estate Time-Sharing Transactions

BACKGROUND

1. The rreeaall eessttaattee ttiimmee--sshhaarriinngg1 industry has experienced signifi-cant growth since its inception, both in terms of sales volumesand in the variety of ttiimmee--sshhaarriinngg structures used by sellers.2

The accounting for real estate time-sharing transactions (alsoreferred to in this Statement of Position [SOP] as time-sharingtransactions) is based principally on Financial AccountingStandards Board (FASB) Statement of Financial AccountingStandards No. 66, Accounting for Sales of Real Estate. Time-sharing transactions are characterized by the following:

a. Volume-based, homogeneous sales

b. Seller financing

c. Relatively high selling and marketing costs

d. Upon default, recovery of the time-sharing iinntteerrvvaall bythe seller and some forfeiture of principal by the buyer

2. The FASB issued FASB Statement No. 66 in 1982. The FASBconcluded at that time that time-sharing transactions shouldbe accounted for in accordance with the provisions of thatStatement. However, the FASB noted that sales of ttiimmee--sshhaarriinnggiinntteerreessttss were not addressed in the specialized AICPA IndustryAccounting Guides and SOPs whose principles were extractedin that Statement and decided not to provide specific addi-tional guidance on time-sharing transactions as part of the ex-traction project leading to the issuance of that Statement.

3. The time-sharing industry has certain characteristics thataffect the evaluation of financial performance. Most sales oftime-sharing intervals are to retail consumers, who often

1. Terms defined in the Glossary are set in boldface type the first time they appear in thisStatement of Position (SOP).

2. The term developer is used interchangeably and synonymously with seller in this SOP.

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choose to use seller-provided financing. Although certainfinancial institutions will participate in the securitizationor hypothecation of portfolios of time-sharing receivables,financial institutions typically will not finance the pur-chase of individual time-sharing intervals. Therefore, a ma-jority of the sales price is often financed by the ttiimmee--sshhaarreeseller through a promissory note (generally, with a term offive to ten years) signed by the buyer. The promissory noteis typically a rreeccoouurrssee note secured by the time-sharing in-terval. Delinquency and default rates on promissory notesvary widely among individual time-sharing companies andtend to fluctuate in line with the general state of the econ-omy. Selling and marketing costs are significant in relationto sales revenue, and sales iinncceennttiivveess and iinndduucceemmeennttss arecommon.

4. The time-sharing industry has introduced a variety oftransaction structures to differentiate its products and en-hance sales volumes. For example, buyers often have theright to eexxcchhaannggee periodic use of their time-sharing inter-vals for use of other time-sharing intervals or for variousconsumer products, frequently through a third-party ex-change company. Time-sharing transactions include thesale of ffiixxeedd ttiimmee and ffllooaattiinngg ttiimmee, ppooiinnttss (which may beredeemed so that a buyer may occupy a specific property),vvaaccaattiioonn cclluubbss, and ffrraaccttiioonnaall iinntteerreessttss; the use of ttiimmee--sshhaarriinngg ssppeecciiaall--ppuurrppoossee eennttiittiieess ((SSPPEEss)) to hold title to realestate; and providing the right to use real estate for a spec-ified period.

5. In an effort to manage cash flows, many time-share sellerswill sell, hypothecate, securitize, or otherwise monetizetheir receivables through another party. In general, thosetransactions are completed with some recourse to thetime-share seller (that is, if receivables are uncollectible,the seller is liable for the bad debts up to stated limits).

6. All of the above factors illustrate the complexity of thetime-sharing industry and the need for accounting guid-ance. Limited specific guidance on accounting for time-sharing transactions, combined with the varied andnumerous structures that time-sharing arrangements haveassumed, have resulted in diversity in practice. Areas of di-

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versity addressed in this SOP include accounting for uunnccooll--lleeccttiibbiilliittyy, recovery or repossession of time-sharing inter-vals, selling and marketing costs, operations during hhoollddiinnggppeerriiooddss, developer subsidies to interval oowwnneerrss aassssoocciiaa--ttiioonnss, and uuppggrraaddee and rreellooaadd transactions.

7. AcSEC understands that the FASB will amend FASB State-ment No. 67, Accounting for Costs and Initial Rental Op-erations of Real Estate Projects, to accommodate thisSOP’s requirements. The FASB will indicate, in the sec-tions entitled “Incidental Operations” and “Costs Incurredto Sell Real Estate Projects” of FASB Statement No. 67, thatparagraphs 10 and 17 through 19 of that Statement do notapply to time-sharing transactions.

SCOPE

8. This SOP provides guidance on the accounting by a seller forall real estate time-sharing transactions.3 Those include:

a. Fee simple transactions in which nonreversionarytitle and ownership of the real estate pass to thebuyer or an SPE

b. Transactions in which title and ownership of all or aportion of the real estate remain with the seller

c. Transactions in which title and ownership of all or aportion of the real estate pass to the buyer and subse-quently revert to the seller or transfer to a third party

d. Transactions by a time-share reseller

9. Paragraphs 3 through 43, 53 through 69, 77 through 90,and portions of Appendixes E and F of FASB Statement No.66 provide guidance for recognition of profit on ootthheerr tthhaannrreettaaiill llaanndd ssaalleess ((OOTTRRLLSS)) of real estate, including real es-tate time-sharing transactions. This SOP provides guidanceto illustrate the application of the provisions of FASB State-

3

3. Financial Accounting Standards Board (FASB) Interpretation No. 43, Real Estate Sales(an interpretation of FASB Statement No. 66), provides guidance that is useful in de-termining what constitutes real estate for purposes of this SOP.

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ment No. 66 to the specific terms typically encountered intime-sharing transactions. This SOP also establishes stan-dards for accounting issues not addressed in FASB State-ment No. 66.

10. This SOP applies to both annual and interim reportingperiods.

CONCLUSIONS

Profit Recognition Under FASB Statement No. 6611. As noted in paragraph 9 of this SOP, a time-share seller

should recognize profit on time-sharing transactions asspecified under the profit recognition guidance in theOTRLS sections of FASB Statement No. 66. Paragraphs 25through 43 of that Statement provide guidance for scenar-ios under which a seller retains ccoonnttiinnuuiinngg iinnvvoollvveemmeennttwith real estate that has been transferred to a purchaser.Appendix C of this SOP lists those scenarios and providescomments as to whether they typically do or do not applyto time-sharing transactions.

12. Paragraph 37 of FASB Statement No. 66 prescribes theppeerrcceennttaaggee--ooff--ccoommpplleettiioonn method of profit recognitionfor time-sharing transactions provided that certain crite-ria are met. Costs to sell time-sharing intervals (also re-ferred to as sales and marketing costs) should beexcluded from the calculations of costs under thatmethod.

13. Paragraphs 22(c) and 22(g) of FASB Statement No. 98, Ac-counting for Leases: Sale-Leaseback Transactions In-volving Real Estate, Sales-Type Leases of Real Estate,Definition of the Lease Term, and Initial Direct Costs ofDirect Financing Leases, require that title must be trans-ferred in order to recognize a sale of real estate. For pur-poses of recognizing profit on time-sharing transactionsunder FASB Statement No. 66, such transfer should benonreversionary. A ccoonnttrraacctt--ffoorr--ddeeeedd arrangement meetsthis criterion. If the title transfer is reversionary, the sellershould account for the transaction as if it were an operat-ing lease.

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Seller Identification of Projects and Phases14. Throughout this SOP, reference is made to a pprroojjeecctt or to a

pphhaassee of a project. A project may consist of a single phase.A time-share seller should establish and delineate a projectand its phases at the outset of the project. Each phaseshould be accounted for separately.

15. A change in the delineation of a project or its phases thatresults from a significant change in facts and circum-stances related to the project’s development—for example,significant revisions in sales prices or discount programs,construction contract price or inflation changes, tempo-rary construction delays, design changes, or a decision bythe seller to increase significantly the proportion of luxuryversus standard uunniittss in a project—should be accountedfor as a change in accounting estimate on a retrospectivebasis using a current-period adjustment as discussed inparagraph 41 of this SOP. A change in the delineation of aproject or its phases without a significant change in factsand circumstances related to the project’s developmentshould be accounted for as a change in the method of ap-plying an accounting principle under Accounting Princi-ples Board (APB) Opinion No. 20, Accounting Changes,that is, by a cumulative effect of a change in accountingprinciple. An example of this latter change would be a deci-sion to divide the same development of a project into moreor fewer phases, which would be a change only in how theproject is accounted for rather than a change in the nature(that is, the facts and circumstances) of the project itself.

Determination of Sales Value16. The stated sales price in a time-sharing transaction should

be adjusted to determine the ssaalleess vvaalluuee of the time-sharinginterval. This section discusses some of the adjustments thatare common in time-sharing sale transactions. This sectionis not intended to be all-inclusive, and other adjustments tothe stated sales price may be necessary to reflect the salesvalue of a time-sharing interval. See Appendix E, “Illustra-tion of Determination of Sales Value of Time-Share Interval,”for illustrations of the determination of sales value.

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17. The stated sales price should be reduced by the excess ofthe fair value of products or services that the seller, as partof consummating the sale, has provided or is legally or other-wise committed to provide the buyer over the stated com-pensation for those products or services. This deemedcompensation to the seller for those products and services,plus the stated compensation, if any, should be accountedfor as a reduction in the stated sales price of the time-sharinginterval. Often those products or services represent salesincentives provided by the seller to the buyer in order toconsummate a time-sharing transaction.4 The sellershould follow the guidance in Emerging Issues Task Force(EITF) Issue No. 01-9, “Accounting for ConsiderationGiven by a Vendor to a Customer (Including a Reseller ofthe Vendor’s Products),” and therefore the accounting forthe amount by which the stated sales price was reducedfor an incentive depends on whether the incentive is non-cash or cash. For noncash incentives that amount shouldbe accounted for as a separate deliverable with an associ-ated cost of sales, whereas for cash incentives that amountshould be accounted for as a discount to the stated salesprice.

18. For purposes of this SOP, a cash incentive is either cash oran incentive provided to a buyer that the buyer would oth-erwise be required to pay, such as required first-year main-tenance fees to an owners association or required closingcosts on a time-sharing interval. A noncash incentive is anincentive provided to a buyer that the buyer could elect topurchase, such as a first-year membership in an optionalexchange program, amusement park tickets, or a voucherthat can be used to obtain airline tickets from an airline atno charge. If a seller provides, at no charge, a noncash in-centive, such as an airline voucher, to a buyer in order toconsummate a time-sharing transaction, the seller shouldreduce the stated sales price of the time-sharing interval bythe fair value of the voucher and record the fair value of thevoucher as a separate revenue item. Alternatively, if a

6

4. The reduction in sales value for the fair value of an incentive to be delivered at a laterdate should reflect the effects of the timing of the delivery. See Example 1 in AppendixE for an illustration.

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seller sells a time-sharing interval together with a member-ship in an exchange program and provides the first-yearmembership at no charge to the buyer, the fair value of theexchange program fees should be treated as a cash incen-tive because those fees would be required to be paid.Therefore, the stated sales price of the time-sharing inter-val should be reduced by the fair value of the fees and thatfair value should be treated as a reduction in the seller’scost of the fees (rather than as a separate revenue item).

19. If a seller obtains an incentive through an arm’s-length,cash-denominated transaction with an iinnddeeppeennddeenntt tthhiirrddppaarrttyy at or near the time that the incentive is delivered tothe buyer, that cash-denominated transaction would gener-ally be considered the best estimate of fair value.5 The de-termination of incentives excludes any products orservices that a buyer pays for, at market rates, through fu-ture maintenance charges or other separate fees.

20. If the seller provides an inducement, which is provided re-gardless of whether a sale is consummated (for example,providing amusement park tickets to a potential buyer asan inducement to attend a time-sharing sales presenta-tion), the seller should record the cost of the inducementas a selling cost in accordance with paragraphs 44 through48 of this SOP.

21. If the seller charges a buyer a fee that is unrelated to fi-nancing, such as a sales document preparation fee, the feeshould be added to the stated sales price in determiningsales value. An exception occurs if the seller charges abuyer a “pass-through” fee that the seller collects to pay toa third party, such as a municipality or taxing authority;the fee should not be added to the sales value or includedin the buyer’s initial and ccoonnttiinnuuiinngg iinnvveessttmmeennttss (see thenext section of this SOP). If the seller charges a buyer afee that is related to financing the time-share purchase,such as a loan origination fee, the fee should be recordedin accordance with FASB Statement No. 91, Accounting

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5. The FASB has issued an exposure draft of a proposed Statement of Financial Ac-counting Standards, Fair Value Measurements. Readers should be alert to any finalpronouncement.

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for Nonrefundable Fees and Costs Associated with Origi-nating or Acquiring Loans and Initial Direct Costs ofLeases, as an adjustment to the stated interest rate on thefinancing.

22. Sellers may have programs to accelerate collections of re-ceivables or contract provisions that encourage prepay-ment, with a reduction of payments as the majorinducement for prepayment. If a seller offers such pro-grams to buyers at the time of sale or has a consistent pastpractice of offering such programs during the term of thebuyers’ notes, the seller should incorporate estimated re-ductions of payments into the determination of sales value.

23. If a time-sharing transaction is partially or fully financedby the seller and the stated interest rate is less than theprevailing market rate for a purchaser of similar creditquality in a similar transaction, the sales value andrecorded amount of the note receivable should be reducedin accordance with APB Opinion No. 21, Interest on Re-ceivables and Payables.

Application of Test of Buyer’s Commitment24. In applying the tests for adequacy of buyer’s commitment

in paragraph 5(b) of FASB Statement No. 66, the sellershould reduce its measurement of the buyer’s initial andcontinuing investments by the excess described in para-graph 17 of this SOP, unless the incentive is conditionedon sufficient future performance (in the form of the buyermeeting his or her contractual obligations associated withthe purchase of the time-sharing interval) by the buyer.One example is the seller offering to pay the buyer’s sec-ond year of maintenance fees if the buyer remains currenton his or her contractual obligations for one year. Anotherexample is the seller offering the buyer an airline voucherif the buyer makes the first six monthly payments in atimely manner. If the incentive is conditioned on futureperformance by the buyer, the seller should determinewhether the future performance is sufficient to meet theinitial and continuing investments criterion for the buyer’scommitment.

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25. In order for future performance by the buyer to be suffi-cient, the contractual payments (principal and interest) re-quired from the buyer in order to receive the incentiveshould be at least equal to the fair value of the incentive.For example, upon the sale of a $10,000 time-sharing inter-val, the seller receives a $1,000 down payment and willprovide the buyer with a $500 incentive, conditioned onfuture performance of the buyer. The buyer’s contractualmonthly note payment is $175. If the buyer is directly orindirectly required to make at least three monthly pay-ments (totaling $525) before becoming entitled to the in-centive, the buyer’s initial and continuing investmentsunder paragraph 5(b) of FASB Statement No. 66 would notbe reduced for the incentive. The buyer’s required contrac-tual payments should cover both the value of the incentiveand interest on the unpaid portion of the incentive (that in-terest was ignored in this example for simplicity).

26. If future performance is not sufficient, the seller should re-duce the measurement of the buyer’s commitment by theexcess of the fair value of the incentive over the amountthe buyer paid for the incentive, in applying the criterionin paragraph 5(b) of FASB Statement No. 66. In the exam-ple in the preceding paragraph, assume instead that thebuyer was required to make only one monthly payment of$175 prior to receiving the incentive (the $175 is the firstpayment on the loan, not an incremental payment for theincentive). For purposes of applying the buyer’s initial andcontinuing investments criterion, the initial down paymentof $1,000 would be reduced by the $325 excess ($500 in-centive less $175 required future performance) to $675.The seller would therefore be considered to have received a$675 initial payment, and the sales value of the time-sharinginterval would be $9,500. If, for example, the required levelof commitment is 10 percent, to satisfy the initial and con-tinuing investments criterion, the seller would have to re-ceive an additional $275 in cash from the buyer ($675 plus$275 is $950, which is 10 percent of $9,500).

27. Any portion of the buyer’s down payment that is consid-ered to apply toward payment of an incentive—for exam-ple, the $325 in the illustration in paragraph 26—ratherthan toward payment on a time-sharing interval should not

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be included in determining the buyer’s initial or continuinginvestments.

Upgrade and Reload Transactions28. The profit recognition guidance in FASB Statement No. 66

should be applied to determine the appropriate accountingfor a reload interval or an upgrade interval. A reload trans-action is a sale of a new interval that should be treated as aseparate transaction for accounting purposes. Therefore,additional cash or other qualifying consideration is neces-sary to meet the buyer’s commitment criterion in para-graph 5(b) of FASB Statement No. 66. Because a reload isconsidered a second, separate transaction, the sellershould not include the buyer’s initial and continuing in-vestments from the original time-sharing interval towardthe measurement of the buyer’s commitment for the sec-ond interval.

29. An upgrade transaction is a modification and continuationof the original transaction. For an upgrade transaction, theseller should include the buyer’s initial and continuing in-vestments from the original (ceded) interval toward meet-ing the buyer’s commitment criterion. The profitrecognition guidance in FASB Statement No. 66, includingthe test for buyer’s commitment, is applied to the salesvalue of the new (upgrade) interval.

Accounting for Uncollectibility30. The collection of notes receivable is an important function

for sellers of time-sharing intervals. Time-share sellers ex-perience some level of uncollectibility in a notes receivableportfolio in the ordinary course of business. To maximizecollections, sellers use several kinds of collection pro-grams, including mmooddiiffiiccaattiioonnss, ddeeffeerrmmeennttss, aassssuummppttiioonnss,and ddoowwnnggrraaddeess. Sellers incur various costs in using thosecollection programs. This section provides guidance on ac-counting for various forms of uncollectibility and the asso-ciated costs.

31. Uncollectibility incorporates losses of both principal andinterest. Accrued interest income receivable that is deter-

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mined to be uncollectible should be charged against inter-est income at the time the receivable is determined to beuncollectible.

32. Uncollectibility occurs whenever a receivable either be-comes wholly uncollectible or is modified in some mannerthat results in less than 100-percent collection of the origi-nal note. The measurement of uncollectibility should bebased on actual receivables collection experience (andother considerations)—whether the seller or a third partyis the servicer of the receivables—rather than the amountsa seller receives as proceeds for receivables sales, securiti-zations, or hypothecations.

33. An estimate of uncollectibility that, from a historical andstatistical perspective, is expected to occur should berecorded as a reduction of sales revenue at the time thatprofit is recognized on a time-sharing sale recorded underthe ffuullll aaccccrruuaall or percentage-of-completion method. Thatestimate should incorporate all forms of uncollectibility(for example, note cancellations and collection programs).See Appendix D for an illustration of the determination ofthe reduction of revenue for estimated uncollectibles.Under the rreellaattiivvee ssaalleess vvaalluuee mmeetthhoodd (see paragraph 41), acorresponding adjustment is made to cost of sales and in-ventory, through the application of the cost-of-sales per-centage, to reflect the reduction of revenue for estimateduncollectibles. See Appendix B for illustrations of the rela-tive sales value method.

34. A note receivable modification, deferment, or downgraderepresents a troubled debt restructuring involving onlythe modification of the terms of a note receivable. There-fore, the creditor (time-share seller) should account forthose transactions in accordance with FASB StatementNo. 114, Accounting by Creditors for Impairment of aLoan. Any reductions in the recorded investment in a notereceivable resulting from the application of FASB State-ment No. 114 should be charged against the allowance foruncollectibles, because the estimated losses were recordedagainst revenue at the time the time-share sale was recog-nized or were recorded subsequently against revenue as achange in estimate. Incremental, direct costs associated

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with uncollectibility, such as costs of collection programs,should be charged to expense as incurred.

35. A note receivable assumption should be accounted for astwo separate activities with two different parties. Thefirst—the termination of the arrangement with the originalbuyer—results in an amount uncollectible to the sellerequal to the remaining investment in the original note re-ceivable. That amount should be charged to the allowancefor uncollectible receivables. The second activity—a time-sharing transaction with a new buyer—should be ac-counted for in accordance with the profit recognitioncriteria in FASB Statement No. 66.

36. Once an initial time-sharing sale transaction has beenrecorded (which includes a reduction of recognized re-venue for estimated uncollectibles), accounting for the al-lowance for uncollectibles follows similar valuationprinciples as any receivable, except that there is no “baddebt expense.” Each reporting period and at least quarterlya seller evaluates its receivables, estimates the amount itexpects to ultimately collect, and evaluates the adequacyof its allowance pursuant to FASB Statement No. 5, Ac-counting for Contingencies.6 The allowance is then ad-justed, with a corresponding adjustment to current-periodrevenue through the estimated uncollectibles account,which is a contra-revenue account. A corresponding ad-justment is also made to cost of sales and inventory.

37. The allowance for uncollectibles should be determinedbased on consideration of uncollectibles by year of sale, aswell as the aging of notes receivable and factors such as thelocation of the time-sharing units, contract terms, collec-tion experience, economic conditions, and other qualita-tive factors as appropriate in the circumstances. SeeAppendix D for an illustration of the determination of theallowance for uncollectibles.

38. If a time-share seller sells a portfolio of receivables withoutrecourse, any gain or loss should be recorded as an adjust-

12

6. In June 2003, AcSEC issued an exposure draft of a proposed SOP, Accounting forCredit Losses. Readers should be alert to any final pronouncement.

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ment of interest income if it is attributable to a change inmarket interest rates between the date the receivables aregenerated and the date they are sold, and as an adjustmentof revenue otherwise (for example, if the gain or loss is re-lated to a difference in perceived credit quality of the port-folio between the date the receivables are generated andthe date they are sold).

Accounting for Cost of Sales and Inventory39. This section applies to all time-sharing sale transactions ac-

counted for under the full accrual, percentage-of-completion,installment, cost recovery, or reduced profit methods ofrevenue recognition as discussed in paragraphs 3through 43, 53 through 64, 68, and 69 of FASB State-ment No. 66. If a time-sharing transaction is accountedfor under the ddeeppoossiitt mmeetthhoodd, as discussed in para-graphs 65 through 67 of FASB Statement No. 66, thissection does not apply.

40. Sellers of time-sharing intervals should account for cost ofsales and time-sharing inventory using the relative salesvalue method, which is illustrated in Appendix B of thisSOP. The relative sales value method should be applied toeach phase separately. CCoommmmoonn ccoossttss, including aammeennii--ttiieess, should be allocated to inventory among the phasesthat those costs will benefit.

41. The relative sales value method is similar to a “grossprofit” method and is used to allocate inventory cost anddetermine cost of sales in conjunction with a sale. Underthe relative sales value method, cost of sales is calculatedas a percentage of net sales using a cost-of-sales percent-age—the ratio of total estimated cost (including costs tocomplete, if any) to total estimated time-sharing revenue.At least quarterly, both estimates should be recalculated.7

The estimate of total revenue (actual to-date plus ex-pected future revenue) should incorporate factors such as

13

7. A time-sharing entity should adjust at least quarterly even if it does not issue quar-terly financial reports under Securities and Exchange Commission (SEC) reportingrequirements.

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incurred or estimated uncollectibles, changes in salesprices or sales mix, repossession of intervals that the sellermay or may not be able to resell, effects of upgrade pro-grams, and past or expected sales incentives to sell slow-moving inventory units. The cost-of-sales percentageshould be similarly recalculated each time estimated rev-enue or cost is adjusted, using the new estimate of totalrevenue and total cost (including costs to complete, ifany). The effects of changes in estimate should be ac-counted for in each period on a retrospective basis using acurrent-period adjustment, that is, the time-share sellershould account for a change in estimate in the period ofchange so that the balance sheet at the end of the periodof change and the accounting in subsequent periods are asthey would have been if the revised estimates had beenthe original estimates. The effects of changes in estimateshould be disclosed in accordance with paragraph 33 ofAPB Opinion No. 20. See Appendix B for illustrations ofthe relative sales value method; Examples 2 and 4 of thatappendix illustrate changes in estimate. The inventorybalance reported in the balance sheet, plus estimatedcosts to complete that inventory, if any, represents a poolof costs that will be charged against future revenue.

42. As discussed in paragraph 33 of this SOP, the recording of asales revenue adjustment for expected uncollectibles is ac-companied by a corresponding adjustment to cost of salesand inventory that is effected through the application ofthe cost-of-sales percentage. However, under the relativesales value method, there is no accounting effect on inven-tory if a time-sharing interval is repossessed or otherwisereacquired unless the repossession causes a change in ex-pected uncollectibles (and, thereby, estimated revenue) asdiscussed in the preceding paragraph. The seller should,however, perform impairment testing on its inventory inaccordance with paragraphs 34 through 37 of FASB State-ment No. 144, Accounting for the Impairment or Disposalof Long-Lived Assets.

43. Costs incurred by a seller that are related to financing,such as loan origination costs, should be accounted for inaccordance with FASB Statement No. 91.

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Costs to Sell Time-Sharing Intervals44. All costs incurred to sell time-sharing intervals should be

charged to expense as incurred unless they specificallyqualify for capitalization under paragraphs 45 through 48of this SOP.

45. Costs incurred to sell time-sharing intervals should be de-ferred until a sale transaction occurs if the costs are:

a. Reasonably expected to be recovered from the sale ofthe time-sharing intervals or from iinncciiddeennttaall ooppeerraa--ttiioonnss; and

b. Incurred for either of the following:

(1) Tangible assets8 that are used directly through-out the selling period to aid in the sales of thetime-sharing intervals

(2) Services that have been performed to obtain reg-ulatory approval of sales

Examples of costs incurred to sell time-sharing intervalsthat meet the condition of item b(1) include the costs ofmodel units and their furnishings, sales property andequipment, and semipermanent signs. An example of coststhat meet condition b(2) is the costs of preparation and fil-ing of prospectuses, including printing and legal fees. If atransaction occurs, the costs should be allocated propor-tionately to that transaction based on the relative fair valueof the intervals available for sale in the project or phase towhich the selling costs are applicable.

46. Other costs incurred to sell time-sharing intervals shouldbe deferred until a sale transaction occurs if the costs are(a) reasonably expected to be recovered from the sale ofthe time-sharing units, (b) directly associated with sales trans-actions that are being accounted for under the percentage-of-completion, installment, reduced profit, or deposit methodof accounting, and (c) incremental, that is, the costs wouldnot have been incurred by the seller had a particular saletransaction not occurred. Under the deposit method of

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8. This guidance on “tangible” assets is not intended to prohibit capitalization specificallyaddressed in other literature, such as internal use software under SOP 98-1, Account-ing for the Costs of Computer Software Developed or Obtained for Internal Use.

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accounting, deferred selling costs should be limited to thenonrefundable portion of the deposits received by the seller.Examples of directly associated, incremental costs includecommissions, and payroll and payroll benefit-related costsof sales personnel for time spent directly on successful salesefforts.

47. Deferred selling costs should be charged to expense in theperiod in which the related profit is recognized. If a salescontract is canceled (with or without refund) prior toprofit recognition, the related unrecoverable deferred sell-ing costs should be charged to expense in the period ofcancellation.

48. Examples of costs that do not meet any of the criteria inparagraph 45 or 46 for deferral, and that should thereforebe charged to expense as incurred, include all costs in-curred to induce potential buyers to take sales tours (forexample, the costs of telemarketing call centers); all costsincurred for unsuccessful sales transactions; and all salesoverhead such as on-site and off-site sales office rent, utili-ties, maintenance, and telephone expenses. Advertisingcosts should be accounted for in accordance with SOP 93-7,Reporting on Advertising Costs. Direct incremental costsof tour fulfillment, such as costs of airline tickets to bringcustomers to a tour location, should be charged to expenseat the time the tour takes place.

Operations During Holding Periods49. For time-sharing operations, the holding period (as that

term is used in the definition of incidental operations inFASB Statement No. 67) begins at the time that intervalsare held for and are available for sale—for example, whenunits in domestic locations are legally registered for sale astime-shares. If rental activities occur other than during theholding period, the corresponding units should be depreci-ated and those activities should be accounted for as rentaloperations in accordance with FASB Statement No. 13, Ac-counting for Leases, and related authoritative literature. Aseller should evaluate each period as to whether units pre-viously considered held for and available for sale shouldcontinue to be characterized as such.

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50. Revenue from and costs of rental and other operations dur-ing holding periods should be accounted for as incidentaloperations. Incremental revenue from incidental opera-tions in excess of incremental costs from incidental opera-tions should be accounted for as a reduction of inventorycosts—that is, the pool of inventory costs under the rela-tive sales value method as described in paragraph 41 of thisSOP. Estimates of future amounts of such excess shouldnot be factored into the calculations of the relative salesvalue method. Incremental costs in excess of incrementalrevenue should be charged to expense as incurred.

51. Holding period operations include ssaammpplleerr pprrooggrraammss andmmiinnii--vvaaccaattiioonnss (see paragraph 53). During holding periods,time-sharing intervals should be accounted for as inven-tory and should not be depreciated. Costs of operationsduring holding periods include (a) sseelllleerr ssuubbssiiddiieess and (b)maintenance and related costs on time-sharing intervalsheld for sale.

52. Costs incurred to rent units during holding periods shouldbe deferred if they are (a) directly associated with, andtheir recovery is reasonably expected from, transactionsinvolving the rental of units during holding periods and (b)incremental, that is, the costs would not have been in-curred by the seller had a particular holding period rentaltransaction not occurred. An example of a directly associ-ated, incremental cost is a commission. Deferred costs torent time-sharing units during holding periods should becharged to expense, or netted in the reduction of inventorycosts (as described in paragraph 50), in the period in whichthe rental takes place.

Sampler Programs and Mini-Vacations53. If a buyer pays for a sampler program or mini-vacation but

buys a unit without using the entire sampler program ormini-vacation, and the seller applies the unused paymentto the sales price, the payment should be treated as part ofthe buyer’s initial and continuing investments for purposesof determining the buyer’s commitment (see paragraph 24of this SOP). Conversely, an amount the seller receives fora sampler program or mini-vacation that a prospective

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buyer fully uses should not, upon subsequent sale of an in-terval to the prospective buyer, be included in the buyer’sinitial and continuing investments, even if the legal docu-ments state or suggest that the payment for the samplerprogram or mini-vacation is applied to the sales price.

54. See paragraphs 49 through 52 of this SOP for the account-ing for amounts received for sampler programs and mini-vacations.

Special-Purpose Entities, Points Systems, VacationClubs, and Similar Structures55. The accounting treatment for time-sharing structures such

as SPEs, points systems, vacation clubs, and variations andhybrids of those structures should be determined using theprofit recognition guidance in the OTRLS sections of FASBStatement No. 66. In applying that guidance, the transac-tions should be evaluated from the time-sharing seller’sperspective rather than from the buyer’s perspective, thatis, it is necessary to evaluate transactions based primarilyon what the seller has transferred and secondarily on whatthe buyer has received. There should be assessments ofwhether the seller has transferred nonreversionary title toa time-sharing interval (see paragraph 13 of this SOP),whether the seller has continuing involvement with thebuyer, and other matters with respect to meeting the otherprofit recognition criteria of FASB Statement No. 66. Theseller should recognize profit in the same manner and usethe same profit recognition guidance as for simple-structuretransactions (such as fixed time) provided that the time-sharing interval has been sold to the end user. If the sellerhas transferred title (for example, to an SPE) but no ulti-mate buyer has consummated a transaction for the time-sharing interval, no profit should be recognized.

56. For balance-sheet presentation purposes, an SPE should beviewed as an entity lacking economic substance and estab-lished solely for the purpose of facilitating sales if (a) theSPE structure is legally required by the applicable jurisdic-tion(s) to sell time-sharing intervals to the nonresidentcustomers that the developer-seller wishes to sell to (forexample, for purposes of being able to sell intervals to

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United States citizens in a country in which citizens ofother countries are not allowed to own real estate) and (b)the SPE has no assets, other than the time-sharing inter-vals, and the SPE has no debt. In those circumstances, theseller should show on its balance sheet as time-sharing in-ventory the interests in the SPE not yet sold to end users. Ifan SPE does not meet the conditions in both items a and babove, the accounting and presentation should be consis-tent with investments in other SPE structures (for exam-ple, the consolidation of controlled SPEs and SPEs inwhich no other entity has adequate capital at risk).9

57. If the seller, an affiliate of the seller, or other related party op-erates a points program, vacation club, exchange program,aaffffiinniittyy pprrooggrraamm, or similar program, the operation of the pro-gram constitutes continuing involvement by the seller.10 Theseller should evaluate whether it receives compensation atprevailing market rates for that service. If the seller providesthe service without compensation or at compensation lessthan prevailing market rates for the service required or onterms not usual for the service to be rendered, compensationshould be imputed when the sale is recorded (by reducing thesales value of the interval) and profit should be appropriatelyrecorded under the guidance on continuing involvement inFASB Statement No. 66 (see paragraph 31 of that Statement;also see Appendix C of this SOP).

Owners Associations11

58. Time-share projects typically incur significant operatingcosts, such as costs of property taxes, repairs and mainte-nance, and reservation systems. Time-share owners are re-sponsible for paying for the costs of owning their intervals.Because there are many time-share owners for a given pro-ject, a centralized mechanism generally is used to collect

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9. FASB Interpretation No. 46R, Consolidation of Variable Interest Entities, providesguidance on whether special-purpose entities (SPEs) that represent variable interestentities should be consolidated.

10. The terms affiliate and related party have the same meaning here as in FASB State-ment No. 57, Related Party Disclosures.

11. The AICPA Audit and Accounting Guide Common Interest Realty Associations pro-vides additional information on owners associations and similar entities.

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each owner’s share of those costs of ownership and to payfor operating costs. A time-share seller typically forms anowners association (OA) to manage the day-to-day opera-tions of a project. Time-share owners pay assessments tothe OA. The activities of an OA are governed by its bylawsand by a board of directors. Typically, an OA will hire amanager to handle the day-to-day operations. Often, an af-filiate of the original time-share seller is hired by an OA tomanage a project. Because the time-share seller owns amajority of units at the beginning of the sellout of a pro-ject, it typically will appoint members of the OA’s board ofdirectors.

59. During early stages of project sellout, there are typicallynot enough dues-paying time-sharing interval owners tosupport the financial obligations of the OA. Often a time-share seller, for a limited period of time, subsidizes the op-erations of the OA rather than paying the dues ormaintenance fees on the time-sharing intervals that it owns(that is, the unsold intervals in the project). Subsequent tothat period, the time-share seller pays dues or mainte-nance fees on the time-sharing intervals that it owns. Pay-ments by the seller of dues or maintenance fees, exceptwhen accounted for as incidental operations during hold-ing periods under paragraphs 49 through 52 of this SOP,should be charged to expense as incurred. Payments by theseller of additional amounts to subsidize losses should becharged to expense as incurred. If a seller is contractuallyentitled to recover from the OA all or a portion of its sub-sidy, the seller should record a receivable only if recoveryis probable and measurable with reasonable reliability.

60. A time-share seller hired as the manager of an OA typi-cally is entitled by agreement to a management fee. Theseller should recognize that fee as revenue only if it isearned and it is realized or realizable. If a seller is cur-rently subsidizing operations of an OA, to the extent theseller receives a management fee on intervals it owns,the seller should offset the management fee revenue andrelated subsidy expense.

61. The guidance in the preceding paragraph applies if thetime-share seller does not consolidate the OA. This SOP

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does not provide guidance as to when (or how) a time-share seller should consolidate an OA. Accounting Re-search Bulletin (ARB) No. 51, Consolidated FinancialStatements, as amended by FASB Statement No. 94, Con-solidation of All Majority-Owned Subsidiaries, and FASBStatement No. 144; FASB Interpretation No. 46R, Consoli-dation of Variable Interest Entities; and related EITF Is-sues provide the relevant guidance. AcSEC notes that FASBStatement No. 144 amended ARB No. 51 to remove theprior exception allowing for the nonconsolidation of an en-tity when control is likely to be temporary.

Statement of Cash Flows62. Changes in time-sharing notes receivable, including sales

of the notes, should be reported in the statement of cashflows as cash flows from operating activities.

Presentation and Disclosures63. A time-share seller’s balance sheet should include gross notes

receivable from time-sharing sales, a deduction from notes re-ceivable for the allowance for uncollectibles (see paragraphs36 and 37 of this SOP), and a deduction from notes receivablefor any profit deferred under FASB Statement No. 66.

64. As noted in paragraph 41 of this SOP, the effects of changesin estimate in the relative sales value method should bedisclosed in accordance with paragraph 33 of APB OpinionNo. 20. In addition to the information otherwise requiredby generally accepted accounting principles (GAAP), the fi-nancial statements of entities with time-sharing transac-tions should disclose the following:

a. Maturities of notes receivable for each of the fiveyears following the date of the financial statementsand in the aggregate for all years thereafter. The totalof the notes receivable balances displayed with thevarious maturity dates should be reconciled to thebalance-sheet amount of notes receivable.

b. The weighted average and range of stated interestrates of notes receivable.

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c. The estimated cost to complete improvements andpprroommiisseedd aammeenniittiieess.

d. The activity in the allowance for uncollectibles, in-cluding the balance in the allowance at the beginningand end of each period, additions associated withcurrent-period sales, direct writeoffs charged againstthe allowance, and changes in estimate associatedwith prior-period sales. If the developer sells receiv-ables with recourse, the seller should provide thesame disclosure of activity on receivables sold.

e. The seller’s policies with respect to meeting the cri-teria for buyer’s commitment and collectibility ofsales prices in paragraphs 5(b) and 37(d), respec-tively, of FASB Statement No. 66.

EFFECTIVE DATE AND TRANSITION

65. This SOP should be applied to financial statements for fis-cal years beginning after June 15, 2005. Earlier applicationis encouraged as of the beginning of fiscal years for whichfinancial statements or information have not been issued.

66. Initial application of this SOP should be reported as a cu-mulative effect of a change in accounting principle, as de-scribed in APB Opinion No. 20. When adopting this SOP, anentity is not required to report the pro forma effects ofretroactive application. An entity is required to disclosethe effect of adopting this SOP on income before extraordi-nary items and on net income (and on the related pershare amounts) of the period of the change. An entityshould not restate previously issued financial statements.

The provisions of this Statement need notbe applied to immaterial items.

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APPENDIX A Basis for Conclusions

Scope

A1. The scope of this Statement of Position (SOP) is restrictedto time-sharing transactions in real estate and excludestime-sharing transactions in other long-lived assets such ascruise ships, corporate jets, and other kinds of transporta-tion equipment. The Accounting Standards ExecutiveCommittee (AcSEC) concluded, accordingly, that the spe-cialized real estate guidance for time-sharing transactionsin Financial Accounting Standards Board (FASB) State-ment of Financial Accounting Standards No. 66, Account-ing for Sales of Real Estate, should be one of the principalfoundations for the conclusions in this SOP. Consequently,analogies of the guidance in this SOP to non-real estatetransactions may not be appropriate.

A2. AcSEC concluded that the SOP should apply to time-shareresellers as well as time-share developers because many ofthe same issues apply to both.

Profit Recognition Under FASB StatementNo. 66

A3. The exposure draft of this SOP incorporated a revenuerecognition model for time-sharing transactions that waslargely based on the fundamental principles of the retailland sales model of FASB Statement No. 66. At its initialmeeting to clear a final SOP, the FASB determined thatAcSEC should not include a fundamental change in rev-enue recognition guidance in the SOP. The Board consid-ered a number of factors in arriving at its conclusion,including (a) the Board’s comprehensive revenue recogni-tion project and the potential for requiring preparers to

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change their revenue recognition practices twice in a shorttime frame, (b) the “rules based” nature of the proposedrevenue recognition requirements, and (c) changes in rev-enue recognition practices that had occurred since AcSECoriginally added the project to its agenda. Accordingly, thisSOP does not modify the requirement of FASB StatementNo. 66 to account for time-sharing transactions under theother-than-retail-land-sales (OTRLS) model of that State-ment. Rather, this SOP provides limited guidance relatingto revenue recognition by illustrating the application ofthe revenue recognition provisions of the OTRLS model tothe specific terms typically encountered in time-sharingtransactions.

A4. Paragraph 37 of FASB Statement No. 66 prescribes the ap-plication of the percentage-of-completion method to time-sharing transactions provided certain criteria are met.FASB Statement No. 66 provides specific guidance on ap-plying the percentage-of-completion method to retail landsales but does not provide similar guidance for OTRLS.AcSEC believes that the guidance appropriate for time-sharing transactions (see paragraphs B3 through B6 inAppendix B of this SOP) consists of elements of both thatguidance in FASB Statement No. 66 and the percentage-of-completion method guidance in SOP 81-1, Accounting forPerformance of Construction-Type and Certain Production-Type Contracts, which applies to “contracts in the con-struction industry, such as those of general building, earthmoving, dredging, demolition, design-build contractors,and specialty contractors (for example, mechanical, elec-trical or paving).” Because AcSEC does not believe thatselling and marketing costs constitute “contract costs” orthat the selling and marketing effort constitutes “contractperformance,” as those terms are used in paragraphs 4 and22, respectively, of SOP 81-1, AcSEC concluded that sell-ing and marketing costs should not be included in thepercentage-of-completion calculations for time-sharingtransactions. AcSEC believes that a time-share developershould recognize profit under the percentage-of-completionmethod only for costs incurred that benefit the customerby bringing the time-share unit closer to completion and acertificate of occupancy.

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A5. Some respondents to the exposure draft disagreed with theprescribed use of the percentage-of-completion method inthe situation in which a developer sells time-sharing inter-vals prior to the completion of related amenities of a phasethat is fully constructed (see footnote 2 to paragraph B3 inAppendix B of this SOP). Those respondents commentedthat substantial risks and rewards of ownership transfer tothe purchaser even if amenities are not complete and, there-fore, the full accrual method should be permitted. AcSEC be-lieves, however, that until the applicable amenities arecompleted, a seller has not fulfilled all of its contractualobligations to the buyer and should therefore delay recogni-tion of a portion of profit until such obligation is fulfilled.

A6. AcSEC concluded in paragraph 13 of this SOP that transfer oftitle should be nonreversionary in order to satisfy the re-quirement under FASB Statement No. 98, Accounting forLeases: Sale-Leaseback Transactions Involving Real Estate,Sales-Type Leases of Real Estate, Definition of the LeaseTerm, and Initial Direct Costs of Direct Financing Leases,that title be transferred in order to recognize a sale of real es-tate. Paragraph 22(c) of FASB Statement No. 98 indicatesthat a lease involving real estate must meet the criterion inparagraph 7(a) of FASB Statement No. 13, Accounting forLeases, for the lessor to classify the lease as a sales-type lease.Under that criterion, ownership must be transferred by theend of the lease term. AcSEC believes that only a nonrever-sionary transfer of title satisfies that criterion.

Determination of Sales Value

A7. AcSEC’s conclusion in paragraph 17 of this SOP that theseller’s transfer of a time-sharing interval and other productsand services (including incentives) that may be “bundled”with the time-sharing interval should be recorded as separatetransactions was based on paragraphs 7(b) and 31 (applied,by analogy, to products as well as services) of FASB StatementNo. 66. Paragraph 7(b) of that Statement requires that netpresent value be used as the measure of the other productsand services but does not specify what discount rate to use.AcSEC believes, however, that for the typical other products

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and services associated with time-sharing transactions, fairvalue represents the intended objective of net present valueand may be more readily determinable than the appropriatediscount rate. Fair value is also consistent with more recentaccounting standards. Accordingly, AcSEC prescribed fairvalue rather than net present value.

A8. Some respondents commented that all incentives representand therefore should be accounted for as selling and mar-keting expenses, similar to commissions and other directselling costs, with any stated fees (for example, a nominal[below fair value] fee that a time-share purchaser pays foran airline voucher used as an incentive) being a reductionof those expenses. Those respondents suggested that thesales value of the interval not be adjusted for incentives.AcSEC considered the comment but did not believe an ac-counting treatment other than that prescribed in para-graphs 7(b) and 31 (applied, by analogy, to products as wellas services) of FASB Statement No. 66 could be justified.

A9. AcSEC’s conclusion in paragraphs 17 and 18 of this SOPabout the seller’s income statement classification of cash andnoncash incentives to buyers was based on Emerging IssuesTask Force (EITF) Issue No. 01-9, “Accounting for Consider-ation Given by a Vendor to a Customer (Including a Resellerof the Vendor’s Products),” and FASB Statement No. 66. Acash incentive represents a discount or reduction of the sell-ing price of the time-sharing interval under (paragraphs 9 and17 of) EITF Issue No. 01-9, that is, with no recording of ex-pense for the cash consideration paid. AcSEC believes that anoncash incentive represents a separate deliverable thatshould be recorded consistent with paragraph 10 of EITFIssue No. 01-9 and paragraphs 7(b) and 31 (applied, by anal-ogy, to products as well as services) of FASB Statement No.66, that is, as a separate revenue item (with an associatedcost of sales). EITF Issue No. 00-21, “Revenue Arrangementswith Multiple Deliverables,” addresses “the accounting, by avendor, for contractual arrangements in which multiplerevenue-generating activities will be performed by the vendor.”However, paragraph 4 of that Issue states that the Issue doesnot apply to a specific situation if higher-level authoritative lit-erature, such as FASB Statement No. 66, provides guidance forthat situation.

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A10. AcSEC concluded in paragraph 18 of this SOP that a cash in-centive is either cash or an incentive provided to a buyer thatthe buyer would otherwise be required to pay. AcSEC believesthat the seller’s providing that incentive to the buyer is equiv-alent to the seller reimbursing the buyer for the cash thebuyer would otherwise have had to pay in any case, which isequivalent to a cash discount from the stated sales price. Sim-ilarly, AcSEC’s conclusion that a noncash incentive is an in-centive a buyer could elect to purchase was based on AcSEC’sbelief that in this case the seller is not reimbursing the buyerfor cash that the buyer would otherwise have had to pay.

A11. As an illustration of the recording of incentives, assume theseller gives the buyer of a $20,000 interval a voucher witha fair value of $250 that can be used to obtain airline tick-ets at no charge. The voucher would be considered a non-cash incentive. The seller would report revenue from thesale of the interval of $19,750, revenue from the sale of thevoucher of $250, and cost of sales for the voucher of $250.If, instead, the seller pays the buyer’s first year’s worth ofrequired owners association maintenance fees having a fairvalue of $250, the payment would be considered a cash in-centive. The seller would report revenue from the sale ofthe interval of $19,750 and no revenue or cost for the fees.

A12. AcSEC observed that time-share sellers frequently offer a va-riety of incentives, including both payment of assessments/fees and amusement park or airline tickets, at one time tothe same group of customers. The particular incentive givento a particular customer is based on which one the seller be-lieves will induce the customer to close a sale. AcSEC be-lieves that the time-sharing industry is different in thisrespect from the transactions that the EITF considered.AcSEC believes that the EITF contemplated transactions inwhich the seller provided one type of incentive to a class ofcustomers. In the time-share industry, the seller is essen-tially indifferent between offering a voucher for airline tick-ets with a fair value of $250 or offering to pay $250 ofmaintenance fees. AcSEC struggled with the fact that underthe EITF consensus, a time-share seller could report differ-ent revenue based on which of two incentives it provided tobuyers, even though the choice between incentives is soflexible and discretionary. Nonetheless, although it might be

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more understandable to report the same revenue and cost ofsales regardless of the form of the incentive given to buyers,AcSEC concluded that the benefit of consistency with theEITF consensus outweighed creating an exception to theconsensus for a single type of transaction (time-sharing).

Application of Test of Buyer’s Commitment

A13. Under paragraph 5(b) of FASB Statement No. 66, profit recog-nition is affected by the buyer’s initial and continuing invest-ments. Given AcSEC’s conclusions about how to computesales value (see paragraphs 16 through 23 of this SOP), it be-came necessary to provide guidance on how the seller shouldallocate cash received from the buyer between the intervaland the incentives or other “bundled” products or services.AcSEC initially concluded that the fair value of other productsor services should be subtracted from the buyer’s initial andcontinuing investments, based on the belief that, as a generalrule, any cash received by the seller should be applied first to-wards the sale of the other products or services and second to-wards the sale of the time-sharing interval. However, if thebuyer is directly or indirectly required to make payments onthe note to receive the other products or services, AcSEC con-cluded that it was too harsh to subtract the full fair value fromthe initial and continuing investments. AcSEC also consid-ered an alternative, favored by some respondents, of allocat-ing all cash received from the buyer pro rata between theinterval and the other products or services based on relativefair values. AcSEC rejected that alternative, because it impliedthat the seller extended the same credit terms to the intervaland the other products or services. AcSEC thought it was un-likely that a seller would allow a buyer to pay for incentives,such as airline tickets, amusement park tickets, or mainte-nance fees, over the typical five- to ten-year term of time-share notes. In the end, AcSEC endorsed a compromiseapproach that AcSEC believes is a reasonable way to allocatethe cash received. Under that compromise approach, any notepayments that the buyer is directly or indirectly required tomake to receive the other products or services should be sub-tracted from the fair value of those other products and ser-vices, and only the excess (if any) of that fair value over those

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payments should be subtracted from the buyer’s initial andcontinuing investments for the interval. AcSEC believes thatapproach is consistent with practice under FASB StatementNo. 66—in particular, with regard to how sellers account fortheir provision of management services at less than prevailingmarket rates.

A14. AcSEC believes it is reasonable to apply all buyer payments—including both principal and interest—before seller deliveryof the other products or services, and that those paymentsshould cover both the value of the other products or servicesand interest on the unpaid portion. For accounting purposes,the seller allocates cash received as if there were two separatenotes (with the same interest rate)—one for the purchase ofthe interval (with a term equal to the term of the note thebuyer signs) and one for the other products or services (witha term ending on the date the buyer can use them). AcSECbelieves that this approach represents a systematic and ratio-nal allocation of the cash received between the interval andother products or services. AcSEC observes that under thisapproach, the hypothetical note for the purchase of the inter-val may have a period of negative amortization, because thecash receipts allocated to that note might be less than the ac-crued interest. AcSEC concluded that it was not necessary toreduce the buyer’s initial or continuing investments for thatnegative amortization, because the buyer’s continuing perfor-mance on the legal note provides sufficient assurance of thebuyer’s commitment to fulfill its obligations and because thatlegal note has no negative amortization. Further, AcSEC be-lieves that products or services integral to the time-sharinginterval (for example, seller payment of buyer maintenanceor exchange fees) reinforce the buyer’s commitment to fulfillhis or her obligations.

A15. AcSEC considered providing guidance on distinguishing deminimis promotional items, the costs of which should beconsidered selling and marketing costs, from incentives.AcSEC elected not to provide such guidance because AcSECbelieves that time-share sellers will be able to adequately dis-tinguish between “thank you” gifts, which are inexpensiveitems such as champagne, flowers, candy, or photographsgiven to buyers at closing, that would not reasonably be ex-pected to influence the customer’s decision, and incentives,

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which are given only to interval purchasers and might reason-ably be expected to influence a customer to close a transactionthat day. AcSEC noted that the tests of initial and continuinginvestment under FASB Statement No. 66 are intended to bestringent, however, and the decision not to provide guidanceon distinguishing thank-you gifts from incentives was not in-tended to provide a means of avoiding the requirements ofthose tests by allowing the classification of the costs of incen-tives as selling and marketing costs. Accordingly, AcSEC be-lieves sellers should not exclude de minimis incentives fromthe calculations of the initial and continuing investment tests.

Upgrade and Reload Transactions

A16. AcSEC’s determination that a reload transaction requiresan additional cash payment in order to satisfy the initialand continuing investment tests was based on EITF IssueNo. 88-12, “Transfer of Ownership Interest as Part of DownPayment under FASB Statement No. 66.” The consensusreached in that Issue was that “purchased property orother assets pledged as security for a note should not be in-cluded as part of the buyer’s initial investment.” AcSECconsidered a reload to be the purchase of a second intervalunrelated to the equity accumulated in the first interval.

A17. In contrast, AcSEC believes an upgrade is, in substance, anexchange transaction in which the ultimate interval soldby the developer is the new (upgrade) interval. Because anupgrade transaction can be viewed as the developer buyingback the original time-share buyer’s equity in the originalinterval for cash and the buyer then applying that cash to-wards the purchase of the upgrade interval, AcSEC believesit is appropriate to include the equity in the original inter-val (measured as the buyer’s initial and continuing invest-ments on the ceded interval and excluding changes inmarket value of the interval) towards the tests of initial andcontinuing investments on the upgrade interval.

A18. Under the exposure draft, the sales value in an upgradetransaction was the difference between the sales value ofthe upgrade interval and the sales value of the original in-terval at the date of the original sale. The initial and con-

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tinuing investment tests were to be applied to that incre-mental sales value. AcSEC had looked to paragraph 9 ofFASB Statement No. 66 to conclude that a buyer’s equity inits original interval could not be applied toward the initialor continuing investment tests for the upgrade interval.

A19. Many respondents to the exposure draft commented that bothreloads and upgrades should be considered together with theoriginal sale for purposes of applying the initial and continuinginvestment tests. Comments included the following:

a. Reload transactions are typically undertaken by “ma-ture” time-share owners who have made cumulativepayments on their existing obligations that typicallytotal 25 to 35 percent of the combined purchaseprices of the original and reload intervals. In manycases, the purchase obligations are consolidated into asingle monthly payment, often involving a single note.Thus, a reload is viewed by both seller and buyer asmerely an expansion of the original obligation, withcash paid on the original interval crediting toward theremaining combined obligation on the two intervals.

b. The intent of the initial and continuing investmenttests is to demonstrate the buyer has made cash pay-ments that provide a reasonable likelihood of theseller collecting the receivable. Because reload trans-actions generally are entered into only with customerscurrent on their existing obligation, the resulting noteon the second interval is of high quality.

c. EITF Issue No. 88-12 addresses requirements relatedto an initial down payment, whereas FASB StatementNo. 66 and the SOP exposure draft incorporate bothinitial and continuing investment requirements ratherthan a down payment requirement. Because the intentof the initial and continuing investment tests is to en-sure a reasonable likelihood of collectibility, the testas applied to reloads and upgrades should take into ac-count the buyer’s performance and initial and contin-uing investments with respect to the original interval.

A20. AcSEC considered the comments and, although EITF IssueNo. 88-12 could be interpreted as not being relevant to a test

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of initial or continuing investment, AcSEC believes that theobjective of paragraphs 9 and 10 of FASB Statement No. 66is that payments on real estate transactions for distinct andseparate parcels of real estate should be treated separatelyfor purposes of sale or revenue recognition, even if the twotransactions are combined into a single note receivable orare cross-collateralized. Therefore, AcSEC concluded itshould not modify its original accounting for reload transac-tions from that in the exposure draft of this SOP. However, inreconsidering upgrade transactions and observing that theoriginal interval is ceded or, in essence, traded in in suchtransactions, AcSEC concluded that an upgrade transactionis a modification of the original purchase rather than a pur-chase of an additional distinct and separate interval, andthat it is reasonable to consider the initial and continuing in-vestments on an initial purchase as part of the initial andcontinuing investments on a modification of that purchase.

Accounting for Uncollectibility

A21. AcSEC considered the following three alternatives for theclassification and display of uncollectibles:

a. Adjust revenue and cost of sales (the approach inthis SOP).

b. Record bad debt expense.

c. Adjust revenue and cost of sales for the initial esti-mates of uncollectibles and record bad debt expensefor subsequent increases in estimated uncollectibles.

A22. The first alternative AcSEC considered was to adjust rev-enue and cost of sales. AcSEC selected that alternative forthis SOP primarily for the following reasons:

a. Some AcSEC members view time-share uncollectiblesas having some elements of a right of return as dis-cussed in FASB Statement No. 48, Revenue Recogni-tion When Right of Return Exists, because, typically, itis not cost-effective for a time-share seller to pursuebuyers for collection after a certain point. Once atime-share seller forecloses on a time-share interval,

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the seller typically stops pursuing the buyer for collec-tion of the unpaid note, even if the note balance ex-ceeds the fair value less costs to sell of the interval tothe seller. Another similarity with a right of return isthat a repossessed interval is essentially “good as new”and can be resold at substantially the same price as aninterval that never was sold. In contrast to the uncol-lectible that results from a trade receivable, the solditem (that is, the time-sharing interval) is repossessedin the time-sharing arrangement. As a result, the fore-closure is akin to a sales return that reduces revenue.

b. Time-sharing transactions are characterized by a num-ber of attributes that distinguish them from typicalOTRLS transactions. Primary among these attributesare high volume and seller financing. Other distinguish-ing attributes include relatively low down-payment re-quirements and marketing and selling efforts with a highcost relative to the price of time-sharing intervals. Para-graph 1 of FASB Statement No. 66 states, “The State-ment distinguishes between retail land sales and othersales of real estate because differences in terms of salesand selling procedures lead to different profit recogni-tion criteria and methods.” Under the description of re-tail land sales in paragraph 100 of FASB Statement No.66, and in view of similarities between their sales andselling procedures, retail land sales and time-sharingtransactions share many more of the same attributesthan do retail land sales and typical OTRLS transac-tions. Paragraph 70 of FASB Statement No. 66 providesthe following guidance for retail land sales: “Cost ofsales...are based on sales net of those sales expected tobe canceled in future periods.” Although FASB State-ment No. 66 provides no comparable guidance for costof sales in OTRLS transactions, AcSEC believes that theretail land sales concept of not recording transactionsexpected to be canceled in future periods is also appro-priate for time-share transactions.

c. If uncollectibles are recorded as bad debt expense,the seller records revenue (and cost of sales) formore than 100 percent of the intervals constructed,because foreclosed intervals are resold. In fact, the

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worse the collection experience, the more intervalsthat are repossessed are resold, leading to higher re-ported revenue (and cost of sales). AcSEC believesthat approach overstates revenue.

d. The time-share industry has, in practice, recorded re-possessed intervals at their original cost rather than atfair value on the date of foreclosure. However, FASBStatement No. 15, Accounting by Debtors and Credi-tors for Troubled Debt Restructurings (as amended byparagraph C24 of FASB Statement No. 144, Accountingfor the Impairment or Disposal of Long-Lived Assets),states that foreclosed assets should be recorded at fairvalue less cost to sell. AcSEC concluded that if fore-closed intervals were recorded at fair value less cost tosell, there would be significant issues over the properapproach to measuring fair value less cost to sell. Someargue for an approach that would essentially eliminateallowances for uncollectibles for many developers thathave the selling and marketing infrastructure to sell re-possessed intervals at a price close to the original salesprice. Others would reject that approach because it failsto reflect an allocated cost of maintaining that infra-structure. Some would make the measurement equal tothe net proceeds that an existing time-share ownerwould receive if the time-share were sold on the sec-ondary market. Some would measure fair value basedon reproduction cost. Finally, some would apply the de-finition of market in paragraph 8 (“Statement 6”) ofChapter 4 of Accounting Research Bulletin (ARB) No.43, Restatement and Revision of Accounting ResearchBulletins, which states that for purposes of pricing in-ventory, market is replacement cost, subject to a floorand a ceiling1:

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1. The Financial Accounting Standards Board (FASB) has issued an exposure draft of aproposed Statement of Financial Accounting Standards, Fair Value Measurements.Under paragraph C18 of that exposure draft, the Board “clarified that in ARB 43, Chap-ter 4 the ‘market value’ measurement resulting from the application of the lower of costor market measurement required for inventories is not fair value. It places upper andlower limits on the measurement that may not result in a fair value measurement.”Readers should be alert to any final pronouncement.

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As used in the phrase lower of cost or market[footnote omitted], the term market means cur-rent replacement cost (by purchase or by repro-duction, as the case may be) except that:

(1) Market should not exceed the net realizablevalue (i.e., estimated selling price in the ordi-nary course of business less reasonably pre-dictable costs of completion and disposal); and

(2) Market should not be less than net realizablevalue reduced by an allowance for an approx-imately normal profit margin.

AcSEC chose not to debate those approaches.AcSEC’s preferred solution (the alternative pre-sented in item a in paragraph A21 of this SOP),through the application of the relative sales valuemethod, does not require an assessment of fair value.

A23. AcSEC recognizes that its preferred solution has somedisadvantages:

a. It differs from general practice in other industries(other than the retail land sales industry).

b. It includes in inventory the cost of some intervals forwhich legal title has passed from seller to buyer.

c. It creates an issue of how to address changes in esti-mates of revenue and cost of sales.

On balance, however, AcSEC believes that the method cho-sen for this SOP is the best of the alternatives.

A24. The second alternative AcSEC considered was to recorduncollectibles as bad debt expense, measured as the excessof the expected uncollectible receivables over the histori-cal inventory cost of the intervals expected to be repos-sessed. The advantages of that alternative are the following:

a. This approach would be similar to existing practicein the time-share industry.

b. This approach would clearly display on the face ofthe income statement two important metrics fortime-share developers—namely, sale transactionsclosed in the current reporting period and the charge

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for credit losses net of inventory recoveries. UnderAcSEC’s approach, those amounts are not requiredto be displayed in the income statement.

c. Gross profit percentages calculated under this ap-proach may be easier to interpret than underAcSEC’s approach.

The disadvantages of the bad debt expense alternative gen-erally are discussed in paragraph A22 as advantages ofAcSEC’s approach. Many respondents to the exposure draftexpressed a preference for the bad debt expense alterna-tive, largely for the reasons noted in items a and b of para-graph A23. Respondents commented also that AcSEC’sapproach compromises the seller’s ability to separatelymeasure the performance of its selling and financingprocesses because the approach distorts the measurementof both the efficiency of the selling and marketing efforts toproduce sales revenue and the performance of the seller’sportfolio of notes receivable.

A25. Finally, AcSEC considered a hybrid approach under whichestimated uncollectibles for a short time after a sale (six totwelve months) would be classified as reductions of rev-enue, but increases in estimated uncollectibles after thattime would be classified as bad debt expense. The idea wasthat uncollectibility that occurs within a short time follow-ing the sale transaction is more akin to a return, as if thebuyer had a change of heart, whereas uncollectibility afterthe buyer has built some equity in the property is moreakin to “credit losses” in other industries. AcSEC believesstrongly, however, that all uncollectibles should be classi-fied in the same line in the income statement. In addition,AcSEC members were concerned that if there were a brightline, sellers could time their changes in estimate and theirforeclosure strategies to achieve the classification that theydesired. As a result, AcSEC did not pursue this approach.

A26. AcSEC concluded in paragraphs 30 through 32 of this SOPthat the term uncollectibles should be interpreted broadly.AcSEC based its conclusion upon certain guidance in FASBStatements No. 15 and No. 114, Accounting by Creditorsfor Impairment of a Loan. Although paragraph 6 of FASBStatement No. 114 states that the Statement does not

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apply to “large groups of smaller balance homogenousloans that are collectively evaluated for impairment”—characteristics of time-sharing receivables—paragraph 9 ofthat Statement states that a creditor shall apply the provi-sions of FASB Statement No. 114 to such smaller balancehomogeneous loans if they are restructured.

A27. A debt restructuring is “troubled” in accordance with para-graph 2 of FASB Statement No. 15 “if the creditor for eco-nomic or legal reasons related to the debtor’s financialdifficulties grants a concession to the debtor that it wouldnot otherwise consider.” A loan is impaired under para-graph 8 of FASB Statement No. 114 when “it is probablethat a creditor will be unable to collect all amounts due ac-cording to the contractual terms of the loan agreement.”AcSEC believes that many situations in which time-sharebuyers fail to make their original contractual payments fallwithin the scope of those Statements and that, therefore,any losses that occur as a result of applying those State-ments constitute, under this SOP, uncollectibility. Thosesituations include but are not limited to assumptions, mod-ifications of terms, foreclosures, and downgrades. An as-sumption, involving the substitution of another borrowerfor the buyer, would typically result in a loss (that is, un-collectibility) under paragraph 42 of FASB Statement No.15. An assumption of the kind described in EITF Issue No.87-19, “Substituted Debtors in a Troubled Debt Restructur-ing,” would result in the creditor recognizing a loss on thedisposition of the original loan and recording an asset forthe fair value of the payments to be received from the sub-stituted debtor (which is less than the creditor’s net invest-ment in the original loan). A modification of terms or apartial satisfaction of a receivable in combination with amodification of terms would typically result in a loss underparagraphs 28 and 33 of FASB Statement No. 15 (asamended by paragraph 22(c) of FASB Statement No. 114).A foreclosure or other repossession of a time-sharing inter-val would typically result in a loss under paragraph 34 ofFASB Statement No. 15, as modified by paragraph 22(d) ofFASB Statement No. 114.

A28. In concluding that a downgrade represents a kind of uncol-lectible, AcSEC considered charging directly against sales the

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difference between the sales prices of the new and old inter-vals. AcSEC believes, however, that a downgrade representsprimarily a modification in terms and that any associatedlosses under FASB Statement No. 114 should, just as with anyother kind of uncollectible, be taken into account in determin-ing expected and actual uncollectibles. In support of that belief,AcSEC observed that the new reduced loan under a downgrademay have different terms (term of note, interest rate, paymentschedule) than the original contractual financing.

A29. AcSEC concluded in paragraph 34 of this SOP that incre-mental, direct costs associated with uncollectibles shouldbe charged to expense as incurred. AcSEC analogized toparagraph 14 of FASB Statement No. 91, Accounting forNonrefundable Fees and Costs Associated with Originat-ing or Acquiring Loans and Initial Direct Costs of Leases,which indicates that costs related to a troubled debt re-structuring should be charged to expense as incurred.

Accounting for Cost of Sales andInventory

A30. AcSEC concluded in paragraph 40 of this SOP that the rel-ative sales value method is the appropriate method fortime-sharing transactions. As discussed in paragraphA22(b) of this SOP, AcSEC believes that paragraph 70 ofFASB Statement No. 66 is appropriate for time-sharingtransactions; specifically, paragraph 70(c) provides appro-priate guidance for recording cost of sales. AcSEC also be-lieves that treating inventory as a pool of costs is a morecost-effective approach than specific identification to ac-count for large pools of homogeneous inventory.

A31. AcSEC concluded in paragraph 41 of this SOP that changesin estimate under the relative sales value method should beaccounted for on a fully retrospective basis using a current-period adjustment. AcSEC also considered the followingtwo alternatives for accounting for changes in estimate:

a. Retrospectively, via a cumulative, current-period ad-justment from the beginning of the fiscal year ofchange

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b. Prospectively, beginning with the period of change(for example, a quarter)

In its deliberations, AcSEC noted that the fully retrospectivemethod prescribed in this SOP and alternative a have prece-dent in the accounting literature, and that alternative b is notunlike the method prescribed in FASB Statement No. 66 (para-graph 76) for the percentage-of-completion method of ac-counting for retail land sales. The fully retrospective method issimilar to the cumulative catch-up described in paragraph 83of SOP 81-1. The retrospective method in alternative a is con-sistent with paragraphs 36 and 107 through 109 of SOP 00-2,Accounting by Producers or Distributors of Films.

A32. AcSEC believes that the principal basis for the method pre-scribed in SOP 00-2 (that is, consistency with prior account-ing in the superseded FASB Statement No. 53, FinancialReporting by Producers and Distributors of Motion PictureFilms) is not adequate to justify that method’s application tochanges in estimate under the relative sales value method.AcSEC believes also that the prospective method discussedin the preceding paragraph, although appearing to representa reasonable means of reflecting changes in estimate, wouldintroduce a new model of accounting for changes in estimatethat would result in further diversity in how such changesare accounted for. AcSEC ultimately concluded that the fullyretrospective method was most appropriate because, underthat approach, the current carrying amounts of inventoryand net receivables in the period of change would reflect theseller’s best estimates at the end of the period.

A33. AcSEC concluded (see paragraph B4 of Appendix B of thisSOP) that changes in estimate under the percentage-of-completion method should be accounted for under the sameretrospective method as that used for all other changes in es-timate under the relative sales value method. This results inconsistency in the relative sales value method computations.AcSEC’s conclusions in paragraphs 41 and 64 of this SOP re-garding disclosure of changes in estimate are based on thefirst sentence of paragraph 33 of Accounting PrinciplesBoard (APB) Opinion No. 20, Accounting Changes.

A34. AcSEC’s conclusion in paragraph 42 of this SOP that aseller should perform impairment testing on time-sharing

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inventory in accordance with FASB Statement No. 144rather than ARB No. 43 is based on paragraphs B122through B124 of that Statement.

Costs to Sell Time-Sharing Intervals

A35. AcSEC’s conclusions in paragraphs 45 and 46 of this SOPwere based on paragraphs 17 through 19 of FASB StatementNo. 67, Accounting for Costs and Initial Rental Operationsof Real Estate Projects, but were modified to incorporatethe more recent “incremental costs” guidance in para-graphs 6 and 7 of FASB Statement No. 91. AcSEC’s conclu-sion in paragraph 48 of this SOP that tour generationcosts—that is, costs to induce potential buyers to take salestours—should be expensed as incurred is based on the guid-ance in paragraph 7 of FASB Statement No. 91 relating tothe accounting for costs of soliciting potential borrowers.

A36. Some respondents commented that time-share selling andmarketing costs should be deferred until the related rev-enue is recognized. Those respondents commented that tocharge those costs to expense as incurred while recogniz-ing the related revenue during later periods is likely to dis-tort reported results and fail to clearly and timely reflecttrends, such as a downward trend in time-share sales.AcSEC believes, however, that deferred selling and market-ing costs do not meet the definition of an asset and ob-served that similar conclusions have been drawn in otherliterature—for example, SOP 00-2 and FASB Statement No.2, Accounting for Research and Development Costs.

A37. Some respondents commented that tour generation costsshould be deferred until the tour occurs, based on analogy tothe guidance on direct response advertising in SOP 93-7, Re-porting on Advertising Costs. Those respondents argued thatsolicited potential buyers could be shown to have respondedspecifically to the tour generation activity by taking a tourand purchasing a time-share interval, and that the documen-tation requirements in paragraph 34 of SOP 93-7 are satisfiedby the fact that time-share entities can document the re-sponse—namely, the customer name and the tour that gener-ated the sale. AcSEC disagreed, however, based on the fact

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that there are significant additional sales activities (princi-pally, the tour) involved following the tour generation activ-ity, and that under paragraph 73 of SOP 93-7 the costs of thetour generation activity would therefore not be considered di-rect response advertising. AcSEC did agree to clarify that thecosts of the tour itself, for example, airline tickets, should becharged to expense in the period in which the tour occurs.

A38. In its deliberations, AcSEC observed that similar costs tosell may be treated differently for accounting purposes de-pending on who the recipients are. For example, the costsof amusement park tickets given to all customers, regard-less of whether or not those customers ultimately purchasea time-sharing interval, should be charged to expense as in-curred as promotional items. However, if those same itemsare given only to customers who ultimately purchase atime-sharing interval, those items are incentives andshould be accounted for as such under this SOP (see para-graphs 17 and 24 through 27).

A39. Practice has been diverse as to the determination of whichcosts should be deferred as discussed in paragraph 46. It hasbeen argued that direct commissions only, or incrementalcosts only, or costs fully loaded with overhead charges shouldbe deferred. AcSEC made the determination, based on consid-eration of the guidance in FASB Statements No. 67 and No. 91,to defer certain selling costs only if they are both incrementaland directly associated with successful sales transactions, andto expense as incurred nonincremental costs and costs associ-ated with unsuccessful sales transactions. At the same time,AcSEC acknowledged that selling costs as a percentage of rev-enue could vary more from period to period under the incre-mental approach than under the nonincremental, “directlyassociated” approach of FASB Statement No. 67.

A40. AcSEC concluded that all selling costs should be expensedunder the cost recovery method of accounting because ofuncertainties about the recoverability of deferred sellingcosts. AcSEC’s conclusion to limit the amount of deferredselling costs under the deposit method to the nonrefundableportion of the deposits received by the seller was intended toeliminate the risk of not recovering deferred selling costs inthe event of a buyer default.

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Operations During Holding Periods

A41. AcSEC clarified in paragraph 49 of this SOP the term hold-ing period to address scenarios such as a time-sharing en-tity’s purchase of a hotel and conversion of the units totime-shares over a multiple-year development period.Under that scenario, a particular occupancy unit would bedepreciated until it was clearly held and available for saleas a time-sharing interval.

A42. AcSEC concluded in paragraph 50 of this SOP that rentaloperations associated with time-sharing units duringholding periods should be accounted for as incidental oper-ations, as discussed in FASB Statement No. 67, ratherthan as rental revenue and expenses, because AcSEC be-lieves that those rental operations are incidental to thetime-sharing developer’s principal business of selling inter-vals. Revenue from rentals helps the seller defray thecosts associated with holding unsold intervals, such asthe maintenance fees to the owners association (OA). Inarriving at its conclusion, AcSEC considered and rejectedtwo alternative accounting treatments:

a. Account for all unsold inventory as fixed assets anddepreciate unsold time-sharing intervals.

b. Apply the SOP’s prescribed holding-periods account-ing to time-sharing intervals expected to be soldwithin one year, and apply the accounting in the al-ternative presented in item a to time-sharing inter-vals not expected to be sold within one year.

A43. AcSEC also concluded in paragraph 50 that in recording in-cremental revenue in excess of incremental costs as a re-duction of inventory costs, estimates of future amounts ofsuch excess should not be factored into the calculations ofthe relative sales value method. AcSEC believes that be-cause it may be impracticable to reliably estimate in ad-vance the net of incremental rental revenue overassociated incremental rental costs, such estimates shouldnot be anticipated in determining (reducing) inventory forpurposes of calculating (reducing) the cost-of-sales per-centage in the relative sales value method.

42

sop_04_02.qxp 11/30/2004 4:11 PM Page 42

A44. AcSEC observed that, in situations in which incrementalrental income exceeds incremental costs, its conclusionsmay be perceived as differing from those in InternationalAccounting Standard (IAS) 16, Property, Plant and Equip-ment. Under paragraph 21 of IAS 16, in such situations oc-curring during a property’s development period, the netrental income is recorded in earnings rather than as a re-duction of the property’s cost. Although AcSEC’s conclu-sion applies to the holding period rather than thedevelopment period, that conclusion differs from the con-clusion in IAS 16. AcSEC believes that its conclusion rep-resents preferable accounting in the specific facts andcircumstances of the real estate time-sharing industry.AcSEC also believes that its conclusion is more consistentwith U.S. generally accepted accounting principles—inparticular, FASB Statement No. 67.

Special-Purpose Entities, Points Systems,Vacation Clubs, and Similar Structures

A45. AcSEC concluded that the accounting for a time-sharingtransaction should follow the same profit recognition prin-ciples in the OTRLS sections of FASB Statement No. 66 forall forms of time-sharing transaction structures. AcSEC’sconclusion that, for special-purpose entity (SPE) struc-tures, profit should be recognizable only if the time-sharinginterval has been sold to the end user is based on guidancein FASB Statement No. 66 and APB Opinion No. 29, Ac-counting for Nonmonetary Transactions. The guidance inparagraphs 33 and 34 of FASB Statement No. 66 on ac-counting for “partial sales” discusses the situation in whichthe seller retains an equity interest in either the real estateor the buyer. If the seller has an equity interest in the buyer,the seller can recognize profits to the extent of the outsideinterests in the buyer. Paragraph 34 states, “If the sellercontrols the buyer, no profit on the sale shall be recognizeduntil it is realized from transactions with outside partiesthrough sale or operations of the property.” Paragraph 21of APB Opinion No. 29 states that “an exchange of a pro-ductive asset not held for sale in the ordinary course ofbusiness for a similar productive asset or an equivalent

43

sop_04_02.qxp 11/30/2004 4:11 PM Page 43

interest in the same or similar productive asset” is a non-monetary transaction that does not culminate an earningsprocess. Under that guidance, a seller’s initial transfer oftitle to time-sharing real estate to an SPE in exchange forstock, beneficial interests, or other similar instruments inthe real estate is considered a nonmonetary exchange,with no gain or loss to be recorded by the seller upon thatinitial transfer.

A46. AcSEC believes that its use of the partial sales guidance inFASB Statement No. 66 as a basis for a time-sharing trans-action involving an SPE structure is supported by EITFIssue No. 98-8, “Accounting for Transfers of InvestmentsThat Are in Substance Real Estate.” The consensus of thatIssue was that “the sale or transfer of an investment in theform of a financial asset that is in substance real estateshould be accounted for in accordance with Statement 66.”AcSEC believes that a seller’s interest in a time-sharingSPE having no economic substance (see paragraph A47 ofthis SOP) is in substance both real estate and a time-sharinginterval. AcSEC observed that the Issue also states, “Para-graph 4 of Statement 140 [FASB Statement No. 140,Accounting for Transfers and Servicing of Financial As-sets and Extinguishments of Liabilities] provides thattransfers of ownership interests that are in substance thesale of real estate are outside the scope of Statement 140.Therefore, these transfers should follow the guidance inStatement 66. As a result, this issue is affirmed by theissuance of Statement 140.”

A47. Upon sale of time-sharing real estate to an SPE in exchangefor interests in the SPE, the seller owns 100 percent of theinterests in the SPE. As the seller sells the intervals, theseller’s ownership percentage in the SPE decreases. Ordi-narily, a seller should consolidate an SPE in the situation ofcontrol or an SPE ownership percentage over 50 percent,apply the equity method of accounting in the situation ofsignificant influence or an SPE ownership percentage of20 percent to 50 percent, and apply the cost method in thesituation of no significant influence or an SPE ownershippercentage below 20 percent. However, AcSEC believes thatSPEs having no assets other than the time-sharing intervalsand having no debt, and that are established solely to com-

44

sop_04_02.qxp 11/30/2004 4:11 PM Page 44

ply with legal requirements relating to the residency of thebuyer, are simply a mechanism for selling intervals. Forsuch SPEs, for balance-sheet classification purposes, AcSECbelieves the seller should “look through” the SPE and clas-sify intervals held by the SPE as inventory. By contrast,some SPEs would have economic substance, because theyare legally required as a means of selling interests in multi-ple properties to a single buyer, rather than to comply withresidency restrictions in local law. SPEs not meeting thenarrow definition would be accounted for in accordancewith the relevant standards, including FASB InterpretationNo. 46R, Consolidation of Variable Interest Entities; ARBNo. 51, Consolidated Financial Statements, as amendedand interpreted; and APB Opinion No. 18, The EquityMethod of Accounting for Investments in Common Stock.

A48. AcSEC discussed time-sharing SPE structures in which thebuyer’s ownership period expires after a period of years. Ifthe residual interest reverts to the seller, that constitutes areversionary transfer of title; see paragraph 13 of this SOP.If, however, the transaction was structured in accordancewith paragraph 38 of FASB Statement No. 66, AcSEC be-lieves that the prescribed sale accounting of that paragraphof the Statement would apply to time-sharing transactions.Under that paragraph, sale accounting, rather than operat-ing lease accounting, is prescribed for a situation in whicha seller sells property improvements but leases the under-lying land, provided that the term of the land lease:

a. Covers substantially all of the economic life of theproperty improvements; and

b. Is for a substantial period, for example, 20 years.

If either of conditions a or b is not met, under FASB State-ment No. 66 the transaction is considered in substance tobe a lease of both land and improvements and should beaccounted for in the same manner as an operating lease.

A49. If the buyer’s ownership period expires after a period ofyears and the residual interest reverts to a substantivethird party independent of the seller, AcSEC believes thatthe seller has relinquished all aspects of ownership and

45

sop_04_02.qxp 11/30/2004 4:11 PM Page 45

should apply the profit recognition guidance of FASB State-ment No. 66 rather than operating lease accounting.

A50. AcSEC’s conclusions in paragraph 57 of this SOP relating tothe seller’s accounting for exchange, points, affinity, and sim-ilar programs are based on paragraph 31 of FASB StatementNo. 66. See “Seller-Provided Management Services” in Ap-pendix C of this SOP. With respect to the provision that aseller should evaluate whether it receives compensation atprevailing market rates for providing a program, some re-spondents to the exposure draft commented that becauseitems (rewards) to be provided by the seller in exchange fora purchaser’s interval may change over time, comparing thefair value of the exchanged items and the interval may be im-practicable. AcSEC modified Appendix C to clarify its intent.

Owners Associations

A51. AcSEC concluded in paragraph 59 of this SOP that sellersubsidies to an owners association (OA) should be chargedto expense as incurred. AcSEC considered the alternativeof capitalizing those subsidies as development costs oftime-share inventory but believes that subsidies representa cost of operations and should therefore be treated as pe-riod costs. AcSEC concluded also that all or a portion of asubsidy that is contractually recoverable from an OAshould be recorded as a receivable only if recovery is prob-able and measurable with reasonable reliability. Generally,AcSEC perceives that to record contractually recoverablesubsidy recoveries as receivables requires assumptionsthat may involve a significant amount of uncertainty about(a) future operations of the OA and (b) the ability of theOA to increase future assessments to time-share owners.

Statement of Cash Flows

A52. AcSEC’s conclusion that changes in time-sharing notes re-ceivable should be reported as cash flows from operating ac-tivities is based on paragraph 22(a) of FASB Statement No.95, Statement of Cash Flows. That paragraph provides as

46

sop_04_02.qxp 11/30/2004 4:11 PM Page 46

examples of cash flows from operating activities cash re-ceipts from collection or sale of both short- and long-termnotes receivable that arise from sales of products or services.

Presentation and Disclosures

A53. AcSEC believes that the disclosures required under para-graph 64 of this SOP, many of which are similar to those re-quired in the retail land sales model in paragraph 50 of FASBStatement No. 66, are necessary to provide users with ade-quate information related to the financial positions of enti-ties with time-sharing operations. AcSEC believes that,given the importance of the allowance for uncollectibles inthe financial position of such entities, requiring disclosure ofthe components related to the determination of the al-lowance provides users of financial statements with informa-tion that is helpful in assessing the risks facing such entities.

Effective Date and Transition

A54. AcSEC concluded that the effect of initially adopting this SOPshould be reported as a cumulative effect of a change in ac-counting principle (in accordance with the provisions of APBOpinion No. 20) and that restatement of prior financial state-ments should be prohibited. AcSEC recognizes the benefits ofcomparable financial statements but believes that the effortand costs likely to be incurred outweigh the benefits. Underretroactive restatement (but not under a cumulative effect ad-justment), for example, the seller would have to reconstructthe quarterly sales accounting for phases completely sold outas of the date of adoption. AcSEC further believes that toapply this SOP prospectively to new transactions only wouldresult in confusing financial statements that could, for severalyears, include transactions recorded under both pre-adoptionand post-adoption accounting guidance. Accordingly, AcSECconcluded that the effect of initial application of this SOPshould be reported as the cumulative effect of a change in ac-counting principle.

47

sop_04_02.qxp 11/30/2004 4:11 PM Page 47

APPENDIX B Illustration of Relative Sales ValueMethod Under Full Accrual andPercentage-of-Completion Accounting1

B1. The purpose of this appendix is to illustrate the relative salesvalue method and changes in estimate under that method. Ex-amples 1 through 4 illustrate the full accrual and percentage-of-completion methods of profit recognition under FinancialAccounting Standards Board (FASB) Statement of Financial Ac-counting Standards No. 66, Accounting for Sales of Real Estate.

Full Accrual Method

B2. Under the full accrual method as discussed in the other-than-retail-land-sales (OTRLS) sections of FASB StatementNo. 66, profit is recognized in full when a time-share is sold(or at a later date when the criteria for application of themethod are met). Examples 1 and 2 illustrate the applica-tion of the relative sales value method of this Statement ofPosition (SOP) under full accrual accounting. In Example 1,it is assumed that there are no year-to-year changes in thecost-of-sales percentage. In Example 2, it is assumed thatthe cost-of-sales percentage changes from year to year.

Percentage-of-Completion Method

B3. A seller may not have completed improvements on time-sharing units sold or may not have completed promisedamenities, ppllaannnneedd aammeenniittiieess, or other facilities (includingutilities and off-site improvements such as access roads) ap-plicable to units sold. Under the percentage-of-completion

48

1. For simplicity, certain change-in-estimate calculations in the examples are performedon an annual basis although paragraph 41 of this Statement of Position (SOP) requiresthat they be performed at least on a quarterly basis. Additionally, although percentages(cost-of-sales percentage and percentage of completion) are displayed to two decimalplaces, the exact percentages are used in the computations.

sop_04_02.qxp 11/30/2004 4:11 PM Page 48

method prescribed under paragraph 37 of FASB StatementNo. 66 for time-sharing transactions, the amount of revenuerecognized (based on the sales value) at the time a sale is rec-ognized is measured by the relationship of costs already in-curred to the total of costs already incurred and future costsexpected to be incurred. If performance2 is incomplete, theportion of revenue related to costs not yet incurred is recog-nized as the costs are incurred. As discussed in paragraph 12of this SOP, selling and marketing costs are excluded from thepercentage-of-completion calculations. The costs of amenitiesthat relate to more than one phase should be appropriately al-located to those phases for purposes of the calculations.

B4. Estimates of future improvement costs should be reviewed atleast quarterly. Changes in those estimates should be appliedon a retrospective basis. That is, if cost estimates are revised,the relationship of the costs incurred (from project inceptionto date) to the adjusted total estimated cost of the projectshould be recalculated for purposes of recognition of revenueand cost of sales for prior performance as well as for perfor-mance that takes place in future periods. If the adjusted totalestimated cost of the project exceeds the total expected rev-enue, the total anticipated loss should be charged to income ifit meets the criteria in paragraph 8 of Financial AccountingStandards Board (FASB) Statement of Financial AccountingStandards No. 5, Accounting for Contingencies. If anticipatedlosses on time-sharing intervals sold are recognized, the sellershould evaluate the unsold time-share intervals for impair-ment under FASB Statement No. 144, Accounting for the Im-pairment or Disposal of Long-Lived Assets.

B5. The effects of changes in estimate, as described in the pre-ceding paragraph, should be included in the disclosures re-quired under paragraph 41 of this SOP.

B6. Examples 3 and 4 illustrate the application of the relative salesvalue method of this SOP under the percentage-of-completionmethod. Example 4 illustrates changes in estimate.

49

2. Performance means completion of the improvements, amenities, or other facilities requiredunder the sales contract by either the seller or contractors retained by the seller. However,payments made to municipalities or other governmental organizations not under the director joint control of the seller constitute performance by the seller if those organizations arenot financed solely by liens on property in the project and they undertake to complete theimprovements without further risk or obligation of the seller.

sop_04_02.qxp 11/30/2004 4:11 PM Page 49

50

Tim

e-Sh

ari

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xam

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sop_04_02.qxp 11/30/2004 4:11 PM Page 50

51

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sop_04_02.qxp 11/30/2004 4:11 PM Page 51

52

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sop_04_02.qxp 11/30/2004 4:11 PM Page 52

53

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sop_04_02.qxp 11/30/2004 4:11 PM Page 53

54

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55

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g In

ven

tory

Cal

cula

tion

Sal

es

$1,8

30,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X3

& f

utu

re$2

,097

,550

Est

imat

ed u

nco

llect

ible

sal

es(1

64,7

00)

Net

sal

es -

20X

3(1

,665

,300

)N

et s

ales

1,

665,

300

Rem

ain

ing

expe

cted

rev

enu

e43

2,25

0C

OS

%

25.0

9%C

OS

%25

.09%

Cos

t of

sal

es$4

17,8

08In

ven

tory

bal

ance

$108

,447

12/3

1/20

X3

En

din

g in

ven

tory

$108

,447

(4)

# of

in

terv

als

defa

ult

ed35

(2)

# of

inte

rval

s de

faul

ted

that

are

rec

over

ed35

(2),

(3

)R

emai

nin

g in

terv

als

avai

labl

e fo

r sa

le35

= 1

90 –

190

+ 3

5

FO

OT

NO

TE

S(1

)F

or s

impl

icit

y pu

rpos

es o

nly

. It

is li

kely

th

at t

he

selle

r m

ay n

ot b

e ab

le t

o se

ll al

l rem

ain

ing

un

its,

as

som

e u

nit

s w

ill b

e u

nde

sira

ble

or t

he

sale

s ef

fort

wil

l not

be c

ost-

effe

ctiv

e.

(2)

Am

oun

t is

a g

iven

for

th

is e

xam

ple

and

is n

ot d

eriv

ed f

rom

an

y as

sum

ptio

ns.

Of

the

100

un

its

expe

cted

to

defa

ult

an

d be

rec

over

ed,

only

85

occu

r du

rin

g20

X1-

20X

3. T

he

rem

ain

ing

15 d

efau

lts

are

expe

cted

to

occu

r an

d be

com

e av

aila

ble

for

sale

aft

er 2

0X3.

(3)

For

sim

plic

ity

purp

oses

on

ly.

Nor

mal

ly,

not

all

inte

rval

sal

es t

hat

def

ault

wil

l re

sult

in

rec

over

y of

in

ven

tory

by

the

selle

r, a

s a

resu

lt o

f is

sues

su

ch a

s si

gnif

i-ca

nt

lega

l (f

orec

losu

re)

cost

s an

d m

arke

tabi

lity

of

part

icu

lar

un

its.

In

det

erm

inin

g es

tim

ated

fu

ture

rev

enu

e, t

he

selle

r sh

ould

tak

e in

to a

ccou

nt

the

effe

ct o

fth

ose

inte

rval

s th

at w

ould

not

be

reco

vere

d ve

rsu

s th

e ef

fect

of

thos

e th

at w

ould

. To

sim

plif

y th

e il

lust

rati

on, t

hat

eff

ect

has

not

bee

n r

efle

cted

.

(4)

As

part

of

its

proc

ess

of a

sses

smen

t of

ass

ets

for

impa

irm

ent,

th

e se

ller

shou

ld e

valu

ate

endi

ng

inve

nto

ry i

n v

iew

of

the

pote

nti

ally

pro

hib

itiv

e co

st o

f m

arke

t-in

g su

ch a

sm

all q

uan

tity

of

un

its.

Par

agra

ph 3

4 of

FA

SB

Sta

tem

ent

No.

144

, Acc

oun

tin

g fo

r th

e Im

pa

irm

ent

or D

isp

osa

l of

Lon

g-L

ived

Ass

ets,

wou

ld r

equ

ire

that

th

e in

ven

tory

be

mea

sure

d, f

or p

urp

oses

of

dete

rmin

ing

a po

ssib

le i

mpa

irm

ent,

at

the

low

er o

f ca

rryi

ng

amou

nt

or f

air

valu

e le

ss c

ost

to s

ell.

sop_04_02.qxp 11/30/2004 4:11 PM Page 55

56

Tim

e-Sh

ari

ng E

xam

ple

2Rel

ative

Sale

s V

alu

e M

ethod, Fu

ll A

ccru

al M

ethod, Ye

ar-

to-Y

ear

Changes

in C

ost

-of-

Sale

s Per

centa

ge

—Fu

lly R

etro

spec

tive

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

11::A

ll re

quir

emen

ts f

or f

ull

accr

ual

sal

e ac

cou

nti

ng

are

met

.

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

025

010

060

0$9

,500

$5,7

00,0

00Ty

pe Y

200

5050

300

$10,

000

3,00

0,00

0Ty

pe Z

5050

100

$13,

000

1,30

0,00

0

500

350

150

1,00

010

,000

,000

Sal

e of

rec

over

ed i

nte

rval

s10

4050

100

$9,5

0095

0,00

0 ((11

))

500

360

190

501,

100

10,9

50,0

00

Est

imat

ed s

ales

dis

cou

nts

in

20X

3—

Est

imat

ed u

nco

llect

ible

not

es(9

85,5

00)

Est

imat

ed f

utu

re r

even

ue

$9,9

64,5

00

Sal

es f

or 2

0X1

are

$5,0

25,0

00 (

the

500

un

its

from

abo

ve a

t th

e re

spec

tive

sal

es p

rice

s sh

own

abo

ve).

Inve

nto

ry i

s co

mpl

ete,

wit

h n

o es

tim

ated

cos

ts t

o co

mpl

ete.

Init

ial d

own

pay

men

t:10

% (

on a

ll sa

les;

no

cash

sal

es)

For

feit

ure

on

def

ault

ed n

otes

:10

0% o

f ca

sh p

aid

sop_04_02.qxp 11/30/2004 4:11 PM Page 56

57

Inve

nto

ry c

ost:

$2,5

00,0

00C

OS

per

cen

tage

:25

.09%

($2,

500,

000

/ $9,

964,

500)

Init

ial e

stim

ated

def

ault

rat

es:

10%

of

not

e pr

inci

pal

Ass

um

e 10

0% o

f in

terv

als

defa

ult

ing

on f

irst

-tim

e sa

les

are

reso

ld o

ver

the

life

of

the

proj

ect;

no

resa

les

in 2

0X1.

Ass

um

e n

one

of t

he

inte

rval

s de

fau

ltin

g on

sec

ond-

tim

e sa

les

are

reso

ld (

for

sim

plic

ity

of i

llust

rati

on).

Acc

ou

nti

ng

En

trie

s

20X

1N

otes

Rec

eiva

ble

4,52

2,50

0C

ash

50

2,50

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

452,

250

Sal

es5,

025,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e45

2,25

0

20X

1C

ost

of S

ales

1,14

7,26

0In

ven

tory

1,14

7,26

0

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$5,0

25,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X1

& f

utu

re$9

,964

,500

Est

imat

ed u

nco

llect

ible

sal

es(4

52,2

50)

Net

sal

es -

20X

1(4

,572

,750

)N

et s

ales

4,

572,

750

Rem

ain

ing

expe

cted

rev

enu

e5,

391,

750

CO

S %

25

.09%

CO

S%

25.0

9%C

ost

of s

ales

$1

,147

,260

Inve

nto

ry b

alan

ce$1

,352

,740

12/3

1/20

X1

En

din

g in

ven

tory

$1

,352

,740

# of

un

its

defa

ult

ed

20((22

))#

of u

nit

s de

fau

lted

th

at a

re r

ecov

ered

20((22

)),, ((

33))R

emai

nin

g u

nit

s av

aila

ble

for

sale

520

= 1

,000

– 5

00 +

20

sop_04_02.qxp 11/30/2004 4:11 PM Page 57

58

Du

rin

g th

e fi

rst

quar

ter

of 2

0X2,

an

d su

bseq

uen

t to

th

e is

suan

ce o

f th

e 20

X1

fin

anci

al s

tate

men

ts,

the

selle

r ch

ange

s it

s es

ti-

mat

e of

20X

3 sa

les

disc

oun

ts, o

rigi

nal

ly $

0, t

o $5

0,00

0. A

lso,

th

e se

ller

esti

mat

es t

hat

on

ly 3

5 in

terv

als,

ver

sus

the

orig

inal

es-

tim

ate

of 4

0, w

ill

be r

esol

d in

20X

3, d

ue

to e

con

omic

con

diti

ons.

Un

der

the

SO

P’s

ret

rosp

ecti

ve t

reat

men

t, a

cu

rren

t-pe

riod

adju

stm

ent

is r

ecor

ded

to r

efle

ct t

he

chan

ges

in e

stim

ate.

Red

o th

e 20

X1

CO

S %

, usi

ng

actu

al 2

0X1

data

:

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X1

20

X4

Tota

l N

o.

Exp

ecte

dA

ctu

al2

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

025

010

060

0$9

,500

$5,7

00,0

00Ty

pe Y

200

5050

300

$10,

000

3,00

0,00

0Ty

pe Z

5050

100

$13,

000

1,30

0,00

0

500

350

150

1,00

010

,000

,000

Sal

e of

rec

over

ed i

nte

rval

s10

3550

95$9

,500

902,

500

500

360

185

501,

095

10,9

02,5

00

Est

imat

ed s

ales

dis

cou

nts

in

20X

3(5

0,00

0)E

stim

ated

un

colle

ctib

le n

otes

(976

,725

)E

stim

ated

fu

ture

rev

enu

e$9

,875

,775

CO

S p

erce

nta

ge:

25.3

1%($

2,50

0,00

0 / $

9,87

5,77

5)

sop_04_02.qxp 11/30/2004 4:11 PM Page 58

59

20

X1

Ad

just

ed C

ost

of

Sal

es C

alcu

lati

on

12

/31

/20

X1

Ad

just

ed I

nve

nto

ry C

alcu

lati

on

Sal

es

$5,0

25,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X1

& f

utu

re$9

,875

,775

Est

imat

ed u

nco

llect

ible

sal

es(4

52,2

50)

Net

sal

es -

20X

1(4

,572

,750

)N

et s

ales

4,

572,

750

Rem

ain

ing

expe

cted

rev

enu

e5,

303,

025

CO

S %

25

.31%

CO

S%

25.3

1%C

ost

of s

ales

$1,1

57,5

67In

ven

tory

bal

ance

$1,3

42,4

33

En

try

to r

ecor

d co

st o

f sa

les

and

inve

nto

ry r

elie

f sh

ould

hav

e be

en r

ecor

ded

as:

20X

1C

ost

of S

ales

1,15

7,56

7In

ven

tory

1,15

7,56

7

12/3

1/20

X1

En

din

g in

ven

tory

$1,3

42,4

33#

of u

nit

s de

fau

lted

20((22

))#

of u

nit

s de

fau

lted

th

at a

re r

ecov

ered

20((22

)),, ((

33))R

emai

nin

g u

nit

s av

aila

ble

for

sale

520

= 1

,000

– 5

00 +

20

Cal

cula

tion

of

20X

1 ad

just

men

t to

be

reco

rded

in

20X

2 fi

nan

cial

sta

tem

ents

:

Cos

t of

sal

es1,

157,

567

As

orig

inal

ly r

ecor

ded

1,14

7,26

0A

dju

stm

ent

10,3

07A

n i

ncr

ease

in

CO

S w

ould

be

reco

rded

for

20X

1 in

20X

2.

Acc

ou

nti

ng

En

try

20X

2C

ost

of S

ales

10,3

07In

ven

tory

10,3

07

sop_04_02.qxp 11/30/2004 4:11 PM Page 59

60

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

22::Sa

me

assu

mpt

ion

s as

20X

1, in

corp

orat

ing

the

chan

ges

in e

stim

ate,

exc

ept

expe

cted

futu

re r

even

ue e

stim

ate

excl

udes

20X

1.B

egin

nin

g In

ven

tory

Bal

ance

$1,3

42,4

33

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

010

035

0$9

,500

$3,3

25,0

00Ty

pe Y

5050

100

$10,

000

1,00

0,00

0Ty

pe Z

5050

$13,

000

650,

000

350

150

500

4,97

5,00

0

Sal

e of

rec

over

ed i

nte

rval

s10

3550

95$9

,500

902,

500

360

185

5059

55,

877,

500

Est

imat

ed s

ales

dis

cou

nts

in

20X

3(5

0,00

0)E

stim

ated

un

colle

ctib

le n

otes

(524

,475

)E

stim

ated

fu

ture

rev

enu

e$5

,303

,025

Sal

es f

or 2

0X2

are

$3,6

20,0

00 (

the

360

un

its

from

abo

ve a

t th

e re

spec

tive

sal

es p

rice

s sh

own

abo

ve).

CO

S p

erce

nta

ge:

25.3

1%($

1,34

2,43

3 / $

5,30

3,02

5)

Acc

ou

nti

ng

En

trie

s

20X

2N

otes

Rec

eiva

ble

3,25

8,00

0C

ash

36

2,00

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

325,

800

sop_04_02.qxp 11/30/2004 4:11 PM Page 60

61

Sal

es3,

620,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e32

5,80

0

20X

2C

ost

of S

ales

833,

909

Inve

nto

ry83

3,90

9

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$3,6

20,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X2

& f

utu

re$5

,303

,025

Est

imat

ed u

nco

llect

ible

sal

es(3

25,8

00)

Net

sal

es -

20X

2(3

,294

,200

)N

et s

ales

3,

294,

200

Rem

ain

ing

expe

cted

rev

enu

e2,

008,

825

CO

S %

25

.31%

CO

S%

25.3

1%C

ost

of s

ales

$833

,909

Inve

nto

ry b

alan

ce$5

08,5

24

Had

th

ere

not

bee

n a

ch

ange

in

est

imat

e fo

r 20

X2,

th

e C

OS

% w

ould

hav

e re

mai

ned

at

25.0

9% i

n 2

0X2,

an

d th

e 20

X2

cost

of

sale

s w

ould

hav

e be

en $

3,29

4,20

0 ×

25.

09%

, or

$826

,484

. Th

eref

ore,

th

ere

is a

n i

ncr

ease

of

$7,4

25 (

$833

,909

less

$82

6,48

4)in

20X

2 co

st o

f sal

es a

ttri

buta

ble

to t

he

chan

ge in

est

imat

e. I

n a

ccor

dan

ce w

ith

par

agra

ph 4

1 of

th

is S

OP,

th

e se

ller

wou

ld d

is-

clos

e th

at t

he

20X

2 re

sult

s in

clu

de a

$17

,732

dec

reas

e ($

10,3

07 f

or 2

0X1

plu

s $7

,425

for

20X

2) i

n i

nco

me

(ign

orin

g re

late

dta

x ef

fect

s, f

or s

impl

icit

y) r

esu

ltin

g fr

om c

han

ges

in e

stim

ate

in t

he

rela

tive

sal

es v

alu

e m

eth

od.

12/3

1/20

X2

En

din

g in

ven

tory

$5

08,5

24#

of u

nit

s de

fau

lted

35

((22))

# of

un

its

defa

ult

ed t

hat

are

rec

over

ed35

((22)),,

((33))

Rem

ain

ing

un

its

avai

labl

e fo

r sa

le19

5=

520

– 3

60 +

35

Dur

ing

the

first

qua

rter

of 2

0X3,

an

d su

bseq

uen

t to

th

e is

suan

ce o

f th

e 20

X2

finan

cial

sta

tem

ents

, th

e se

ller

chan

ges

its

esti

mat

e of

20X

3 sa

les

disc

oun

ts fr

om $

50,0

00 t

o $7

5,00

0. A

lso,

th

e se

ller

esti

mat

es t

hat

on

ly 3

0 in

terv

als,

ver

sus

the

prio

r es

tim

ate

of 3

5, w

illbe

res

old

in 2

0X3.

Th

e se

ller

also

est

imat

es t

hat

on

ly 4

0 in

terv

als,

ver

sus

the

orig

inal

est

imat

e of

50,

will

be

reso

ld a

fter

20X

3. U

nde

rth

e SO

P’s

retr

ospe

ctiv

e tr

eatm

ent,

a c

urre

nt-

peri

od a

djus

tmen

t is

rec

orde

d to

ref

lect

th

e ch

ange

s in

est

imat

e.

sop_04_02.qxp 11/30/2004 4:11 PM Page 61

62

Red

o th

e C

OS

% f

or20

X1-

20X

2 co

mbi

ned

, usi

ng

actu

al 2

0X1-

20X

2 da

ta:

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X1

20

X2

20

X4

Tota

l N

o.

Exp

ecte

dA

ctu

alA

ctu

al2

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

025

010

060

0$9

,500

$5,7

00,0

00Ty

pe Y

200

5050

300

$10,

000

3,00

0,00

0Ty

pe Z

5050

100

$13,

000

1,30

0,00

0

500

350

150

1,00

010

,000

,000

Sal

e of

rec

over

ed i

nte

rval

s10

3040

80$9

,500

760,

000

500

360

180

401,

080

10,7

60,0

00

Est

imat

ed s

ales

dis

cou

nts

in

20X

3(7

5,00

0)E

stim

ated

un

colle

ctib

le n

otes

(961

,650

)E

stim

ated

fu

ture

rev

enu

e$9

,723

,350

CO

S p

erce

nta

ge:

25.7

1%($

2,50

0,00

0 / $

9,72

3,35

0)

Cost

of

Sal

es C

alcu

lati

on

(2

0X

1-2

0X

2)

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$8,6

45,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X1

& f

utu

re$9

,723

,350

Est

imat

ed u

nco

llect

ible

sal

es(7

78,2

50)

Net

sal

es -

20X

1-20

X2

(7,8

66,9

50)

Net

sal

es

7,86

6,95

0R

emai

nin

g ex

pect

ed r

even

ue

1,85

6,40

0C

OS

%

25.7

1%C

OS

%25

.71%

Cos

t of

sal

es, 2

0X1-

20X

2 $2

,022

,695

Inve

nto

ry b

alan

ce, 1

2/31

/20X

2$4

77,3

05

sop_04_02.qxp 11/30/2004 4:11 PM Page 62

63

En

try

to r

ecor

d co

st o

f sa

les

and

inve

nto

ry r

elie

f fo

r 20

X1-

20X

2 sh

ould

hav

e be

en r

ecor

ded

in t

otal

as:

20X

1-20

X2

Cos

t of

Sal

es2,

022,

695

Inve

nto

ry2,

022,

695

12/3

1/20

X2

En

din

g in

ven

tory

$4

77,3

05#

of u

nit

s de

fau

lted

35

((22))

# of

inte

rval

s de

faul

ted

that

are

rec

over

ed35

((22)),,

((33))

Rem

ain

ing

un

its

avai

labl

e fo

r sa

le19

5=

1,0

00 –

500

+ 2

0 –

360

+ 3

5

Cal

cula

tion

of

20X

1-20

X2

adju

stm

ent

to b

e re

cord

ed i

n 2

0X3

fin

anci

al s

tate

men

ts:

Cos

t of

sal

es2,

022,

695

As

orig

inal

ly r

ecor

ded

1,99

1,47

6In

clu

des

20X

1 re

tro-

adju

sted

CO

SA

dju

stm

ent

31,2

19A

n i

ncr

ease

in

CO

S w

ould

be

reco

rded

for

20X

1-20

X2

in 2

0X3.

Acc

ou

nti

ng

En

try

20X

1C

ost

of S

ales

31,2

19In

ven

tory

31,2

19

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

33::S

ame

assu

mpt

ion

s as

20X

1-20

X2,

in

corp

orat

ing

the

chan

ges

in e

stim

ate,

exc

ept

expe

cted

fu

ture

rev

enu

e es

tim

ate

excl

ude

s20

X1

and

20X

2.B

egin

nin

g In

ven

tory

Bal

ance

$477

,305

sop_04_02.qxp 11/30/2004 4:11 PM Page 63

64

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X10

010

0$9

,500

$950

,000

Type

Y50

50$1

0,00

050

0,00

0Ty

pe Z

$13,

000

150

150

1,45

0,00

0S

ale

of r

ecov

ered

in

terv

als

3040

70$9

,500

665,

000

180

4022

02,

115,

000

Est

imat

ed s

ales

dis

cou

nts

in

20X

3(7

5,00

0)E

stim

ated

un

colle

ctib

le n

otes

(183

,600

)E

stim

ated

fu

ture

rev

enu

e$1

,856

,400

Sal

es f

or 2

0X3

are

$1,6

60,0

00 (

the

180

un

its

from

abo

ve a

t th

e re

spec

tive

sal

es p

rice

s, le

ss s

ales

dis

cou

nts

).

CO

S p

erce

nta

ge:

25.7

1%($

477,

305

/ $1,

856,

400)

Acc

ou

nti

ng

En

trie

s

20X

3N

otes

Rec

eiva

ble

1,49

4,00

0C

ash

16

6,00

0S

ales

Con

tra

(es

tim

ated

un

colle

ctib

le s

ales

)14

9,40

0S

ales

1,66

0,00

0A

llow

ance

for

Un

colle

ctib

le N

otes

Rec

eiva

ble

149,

400

20X

3C

ost

of S

ales

388,

395

Inve

nto

ry38

8,39

5

sop_04_02.qxp 11/30/2004 4:11 PM Page 64

65

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$1,6

60,0

00To

tal e

xpec

ted

reve

nu

e, 2

0X3

& f

utu

re$1

,856

,400

Est

imat

ed u

nco

llect

ible

sal

es(1

49,4

00)

Net

sal

es -

20X

3(1

,510

,600

)N

et s

ales

1,

510,

600

Rem

ain

ing

expe

cted

rev

enu

e34

5,80

0C

OS

%

25.7

1%C

OS

%25

.71%

Cos

t of

sal

es

$388

,395

Inve

nto

ry b

alan

ce$8

8,91

0

Had

th

ere

not

bee

n a

ch

ange

in

est

imat

e fo

r 20

X3,

th

e C

OS

% w

ould

hav

e re

mai

ned

at

25.3

1% i

n 2

0X3,

an

d th

e 20

X3

cost

of

sale

s w

ould

hav

e be

en $

1,51

0,60

0 ×

25.

31%

, or

$382

,400

. Th

eref

ore,

th

ere

is a

n i

ncr

ease

of

$5,9

95 (

$388

,395

less

$38

2,40

0)in

20X

3 co

st o

f sal

es a

ttri

buta

ble

to t

he

chan

ge in

est

imat

e. I

n a

ccor

dan

ce w

ith

par

agra

ph 4

1 of

th

is S

OP,

th

e se

ller

wou

ld d

is-

clos

e th

at t

he

20X

3 re

sult

s in

clu

de a

$37

,214

dec

reas

e ($

31,2

19 fo

r 20

X1-

20X

2 pl

us

$5,9

95 fo

r 20

X3)

in in

com

e (i

gnor

ing

re-

late

d ta

x ef

fect

s, f

or s

impl

icit

y) r

esu

ltin

g fr

om c

han

ges

in e

stim

ate

in t

he

rela

tive

sal

es v

alu

e m

eth

od.

12/3

1/20

X3

En

din

g in

ven

tory

$8

8,91

0((44

))#

of u

nit

s de

fau

lted

35

((22))

# of

un

its

defa

ult

ed t

hat

are

rec

over

ed35

((22)),,

((33))

Rem

ain

ing

un

its

avai

labl

e fo

r sa

le50

= 1

95 –

180

+ 3

5

FO

OT

NO

TE

S(1

)F

or s

impl

icit

y pu

rpos

es o

nly

. It

is li

kely

th

at t

he

selle

r m

ay n

ot b

e ab

le t

o se

ll al

l rem

ain

ing

un

its,

as

som

e u

nit

s w

ill b

e u

nde

sira

ble

or t

he

sale

s ef

fort

wil

l not

be c

ost-

effe

ctiv

e.

(2)

Am

oun

t is

a g

iven

for

th

is e

xam

ple

and

is n

ot d

eriv

ed f

rom

an

y as

sum

ptio

ns.

(3)

For

sim

plic

ity

purp

oses

on

ly.

Nor

mal

ly,

not

all

inte

rval

sal

es t

hat

def

ault

wil

l re

sult

in

rec

over

y of

in

ven

tory

by

the

selle

r, a

s a

resu

lt o

f is

sues

su

ch a

s si

gnif

i-ca

nt

lega

l (f

orec

losu

re)

cost

s an

d m

arke

tabi

lity

of

part

icu

lar

un

its.

In

det

erm

inin

g es

tim

ated

fu

ture

rev

enu

e, t

he

selle

r sh

ould

tak

e in

to a

ccou

nt

the

effe

ct o

fth

ose

inte

rval

s th

at w

ould

not

be

reco

vere

d ve

rsu

s th

e ef

fect

of

thos

e th

at w

ould

. To

sim

plif

y th

e il

lust

rati

on, t

hat

eff

ect

has

not

bee

n r

efle

cted

.

(4)

As

part

of

its

proc

ess

of a

sses

smen

t of

ass

ets

for

impa

irm

ent,

th

e se

ller

shou

ld e

valu

ate

endi

ng

inve

nto

ry i

n v

iew

of

the

pote

nti

ally

pro

hib

itiv

e co

st o

f m

arke

t-in

g su

ch a

sm

all q

uan

tity

of u

nit

s. P

arag

raph

34

of F

AS

B S

tate

men

t N

o. 1

44 w

ould

req

uir

e th

at t

he

inve

nto

ry b

e m

easu

red,

for

purp

oses

of d

eter

min

ing

a po

s-si

ble

impa

irm

ent,

at

the

low

er o

f ca

rryi

ng

amou

nt

or f

air

valu

e le

ss c

ost

to s

ell.

sop_04_02.qxp 11/30/2004 4:11 PM Page 65

66

Tim

e-Sh

ari

ng E

xam

ple

3Rel

ative

Sale

s V

alu

e M

ethod, Per

centa

ge-

of-

Com

ple

tion M

ethod

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

11::A

ll re

quir

emen

ts f

or f

ull

accr

ual

sal

e ac

cou

nti

ng

are

met

EX

CE

PT

in

ven

tory

is

not

com

plet

e. R

equ

irem

ents

for

per

cen

tage

-of

-com

plet

ion

acc

oun

tin

g ar

e m

et.

Inve

nto

ry c

osts

in

curr

ed:

$2,0

00,0

00E

stim

ated

cos

ts t

o co

mpl

ete

inve

nto

ry:

$500

,000

Sal

es a

nd

Cos

t of

Sal

es a

mou

nts

are

fro

m E

xam

ple

1.

Per

cen

t co

mpl

ete

calc

ula

tion

:In

ven

tory

cos

t$2

,000

,000

Cos

t to

com

plet

e50

0,00

0To

tal e

stim

ated

cos

t$2

,500

,000

Per

cen

t co

mpl

ete:

80.0

%($

2,00

0,00

0 / $

2,50

0,00

0)

Sal

es a

nd

mar

keti

ng

cost

s ar

e n

ot c

onsi

dere

d in

th

e pe

rcen

t co

mpl

ete

calc

ula

tion

.

Acc

ou

nti

ng

En

trie

s

20X

1In

ven

tory

2,00

0,00

0C

ash

2,00

0,00

0

20X

1N

otes

Rec

eiva

ble

4,52

2,50

0C

ash

50

2,50

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

452,

250

Sal

es5,

025,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e45

2,25

0

sop_04_02.qxp 11/30/2004 4:11 PM Page 66

Cos

t of

Sal

es1,

147,

260

Inve

nto

ry1,

147,

260

Per

cen

t co

mpl

ete

adju

stm

ents

:20

X1

Sal

es91

4,55

0D

elay

ed R

even

ue

(20%

of

net

sal

es)

914,

550

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

229,

452

Cos

t of

Sal

es22

9,45

2

Th

e fo

llow

ing

entr

ies

for

20X

2 an

d 20

X3

are

prov

ided

sol

ely

to i

llust

rate

th

e re

cord

ing

of c

ompl

etio

n o

f pr

ojec

t co

nst

ruct

ion

and

do n

ot i

ncl

ude

th

e re

leva

nt

sale

s an

d co

st o

f sa

les

entr

ies

for

un

its

sold

in

20X

2 or

20X

3.

Ass

um

pti

on

for

20

X2

: $

20

0,0

00

is

spen

t to

war

ds

com

ple

tion

of

inve

nto

ryA

ccou

nti

ng

En

trie

s

20X

2In

ven

tory

200,

000

Cas

h20

0,00

0

Per

cen

t co

mpl

ete

adju

stm

ents

:20

X2

Del

ayed

Rev

enu

e36

5,82

0S

ales

365,

820

Cos

t of

Sal

es91

,781

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

91,7

81To

rec

ord

adju

stm

ents

for

del

ayed

rev

enu

e an

d de

laye

d co

st o

f sa

les

for

inte

rval

s so

ld i

n 2

0X1.

67

sop_04_02.qxp 11/30/2004 4:11 PM Page 67

Ass

um

pti

on

for

20

X3

: $

30

0,0

00

is

spen

t to

com

ple

te t

he

inve

nto

ryA

ccou

nti

ng

En

trie

s

20X

3In

ven

tory

300,

000

Cas

h30

0,00

0

Per

cen

t co

mpl

ete

adju

stm

ents

:20

X3

Del

ayed

Rev

enu

e54

8,73

0S

ales

548,

730

Cos

t of

Sal

es13

7,67

1D

elay

ed C

ost

of S

ales

(In

ven

tory

acc

oun

t)13

7,67

1To

rec

ord

adju

stm

ents

for

del

ayed

rev

enu

e an

d de

laye

d co

st o

f sa

les

for

inte

rval

s so

ld i

n 2

0X1.

68

sop_04_02.qxp 11/30/2004 4:11 PM Page 68

69

Tim

e-Sh

ari

ng E

xam

ple

4Rel

ative

Sale

s V

alu

e M

ethod, Per

centa

ge-

of-

Com

ple

tion M

ethod, w

ith C

hanges

in E

stim

ate

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

11::A

ll re

quir

emen

ts fo

r fu

ll ac

crua

l sal

e ac

coun

tin

g ar

e m

et E

XC

EPT

inve

nto

ry is

not

com

plet

e. R

equi

rem

ents

for

perc

enta

ge-o

f-co

mpl

etio

n a

ccou

nti

ng

are

met

.E

st’d

cos

ts t

o co

mpl

ete

inve

nto

ry a

s of

12/

31/2

0X1:

$500

,000

(a

ssu

me

con

stan

t th

rou

ghou

t 20

X1)

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

025

010

060

0$9

,500

$5,7

00,0

00Ty

pe Y

200

5050

300

$10,

000

3,00

0,00

0Ty

pe Z

5050

100

$13,

000

1,30

0,00

0

500

350

150

1,00

010

,000

,000

Sal

e of

rec

over

ed i

nte

rval

s10

4050

100

$9,5

0095

0,00

0 ((11

))

500

360

190

501,

100

10,9

50,0

00

Est

imat

ed s

ales

dis

cou

nts

—E

stim

ated

un

colle

ctib

le n

otes

(985

,500

)E

stim

ated

fu

ture

rev

enu

e$9

,964

,500

Sal

es f

or 2

0X1

are

$5,0

25,0

00 (

the

500

inte

rval

s fr

om a

bove

at

the

resp

ecti

ve s

ales

pri

ces

show

n a

bove

), s

old

even

lyth

rou

ghou

t th

e 4

quar

ters

of

20X

1.

sop_04_02.qxp 11/30/2004 4:11 PM Page 69

70

Init

ial d

own

pay

men

t:10

% (

on a

ll sa

les;

no

cash

sal

es)

For

feit

ure

on

def

ault

ed n

otes

:10

0% o

f ca

sh p

aid

Inve

nto

ry c

ost,

in

clu

din

g $5

00,0

00

est’

d co

sts

to c

ompl

ete:

$2,5

00,0

00C

OS

per

cen

tage

:25

.09%

($2,

500,

000

/ $9,

964,

500)

Per

cen

t co

mpl

ete:

80%

($2,

000,

000

/ $2,

500,

000)

Init

ial e

stim

ated

def

ault

rat

es:

10%

of

not

e pr

inci

pal

Ass

um

e 10

0% o

f in

terv

als

defa

ult

ing

on f

irst

-tim

e sa

les

are

reso

ld o

ver

the

life

of

the

proj

ect;

no

resa

les

in 2

0X1.

Ass

um

e n

one

of t

he

inte

rval

s de

fau

ltin

g on

sec

ond-

tim

e sa

les

are

reso

ld (

for

sim

plic

ity

of i

llust

rati

on).

Ass

um

e 50

def

ault

s es

tim

ated

in

20X

1, 5

0 de

fau

lts

esti

mat

ed i

n 2

0X2,

non

e in

oth

er y

ears

.

Not

e:F

or t

he

year

20X

1, s

ales

are

sh

own

sep

arat

ely

for

the

firs

t th

ree

quar

ters

com

bin

ed a

nd

the

4th

qu

arte

r. T

his

is

to i

llus-

trat

e th

e ac

cou

nti

ng,

un

der

the

fully

ret

rosp

ecti

ve m

eth

od i

n t

he

SO

P, f

or a

ch

ange

in

est

imat

e th

at o

ccu

rs a

t th

e be

gin

nin

gof

th

e 4t

h q

uar

ter.

(U

nde

r th

e S

OP,

ch

ange

s in

est

imat

e ar

e re

flec

ted

at le

ast

quar

terl

y, b

ut

for

sim

plic

ity

the

oth

er e

xam

ples

in t

his

app

endi

x h

ave

all b

een

acc

oun

ted

for

on a

n a

nn

ual

rat

her

th

an a

qu

arte

rly

basi

s.)

Acc

ou

nti

ng

entr

ies

for

sale

s re

cord

ed t

hro

ugh

ou

t th

efi

rst

thre

eq

uar

ters

of

20

X1

20X

1N

otes

Rec

eiva

ble

3,39

0,30

0C

ash

37

6,70

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

339,

030

Sal

es3,

767,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e33

9,03

020

X1

Cos

t of

Sal

es86

0,04

6In

ven

tory

860,

046

Per

cen

tage

-of-

com

plet

ion

adj

ust

men

ts:

20X

1S

ales

753,

400

Sal

es C

ontr

a (e

stim

ated

un

colle

ctib

le s

ales

)67

,806

Del

ayed

Rev

enu

e (2

0% o

f n

et s

ales

)68

5,59

4

sop_04_02.qxp 12/2/2004 3:03 PM Page 70

71

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

172,

009

Cos

t of

Sal

es (

20%

of

860,

046)

172,

009

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$3,7

67,0

00In

ven

tory

per

boo

ks, 1

/1/2

0X1

$2,0

00,0

00E

stim

ated

un

colle

ctib

le s

ales

(339

,030

)In

ven

tory

sol

d in

cu

rren

t pe

riod

(860

,046

)N

et s

ales

3,

427,

970

PO

C a

dju

stm

ent

in c

urr

ent

peri

od17

2,00

9C

OS

%

25.0

9%In

ven

tory

per

boo

ks, 9

/30/

20X

11,

311,

963

Cos

t of

sal

es (

befo

re P

OC

adj

.)$8

60,0

46A

dd:E

stim

ated

cos

ts t

o co

mpl

ete

500,

000

Les

s: P

OC

adju

stm

ents

to

date

(172

,009

)In

ven

tory

for

nex

t pe

riod

C

OS

% c

alcu

lati

on p

urp

oses

$1,6

39,9

54

9/30

/20X

1E

ndi

ng

inve

nto

ry fo

r ca

lcul

atio

n o

f Q4

20X

1 C

OS

perc

enta

ge$1

,639

,954

# of

in

terv

als

defa

ult

ed i

n Q

1-Q

3 20

X1

45((22

))#

of i

nte

rval

s de

fau

lted

in

Q1-

Q3

20X

1 th

at a

re r

ecov

ered

45((22

)),, ((

33))R

emai

nin

g in

terv

als

avai

labl

e fo

r sa

le67

0=

1,0

00 –

375

+ 4

5

Th

e n

et e

ffec

t of

th

e en

trie

s fo

r th

e fi

rst

thre

e qu

arte

rs o

f 20

X1

is:

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$376

,700

Sal

es$3

,013

,600

Est

imat

ed U

nco

llect

ible

Sal

es(2

71,2

24)

Not

es R

ecei

vabl

e3,

390,

300

Net

Sal

es2,

742,

376

(col

lect

ion

s n

ot i

llust

rate

d)L

ess:

Allo

wan

ce(3

39,0

30)

Rec

eiva

bles

, Net

3,05

1,27

0

sop_04_02.qxp 11/30/2004 4:11 PM Page 71

72

Inve

nto

ry1,

311,

963

Cos

t of

Sal

es68

8,03

7(i

ncl

ude

s de

laye

d C

OS

of

172,

009)

Del

ayed

Rev

enu

e(6

85,5

94)

$4,0

54,3

39$2

,054

,339

(Not

e: D

iffe

ren

ce b

etw

een

$4,

054,

339

and

$2,0

54,3

39 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

Ass

um

e th

at d

uri

ng

the

4th

qu

arte

r of

20X

1 an

d su

bseq

uen

t to

th

e is

suan

ce o

f th

e 3r

d qu

arte

r 20

X1

fin

anci

al s

tate

men

ts,

esti

mat

ed d

efau

lts

are

re-e

stim

ated

at

15%

, ve

rsu

s th

e in

itia

l es

tim

ate

of 1

0%,

base

d on

an

ass

essm

ent

of 2

0X1

expe

rien

ceto

dat

e an

d an

eco

nom

ic d

own

turn

. U

nde

r th

e S

OP

’s f

ull

y re

tros

pect

ive

trea

tmen

t of

ch

ange

s in

est

imat

e u

nde

r th

e re

la-

tive

sal

es v

alu

e m

eth

od,

a cu

mu

lati

ve a

dju

stm

ent

for

Jan

uar

y-S

epte

mbe

r 20

X1

is r

ecor

ded

in t

he

4th

qu

arte

r of

20X

1.

Red

o th

e 20

X1

CO

S %

, usi

ng

actu

al d

ata

for

the

firs

t th

ree

quar

ters

of 2

0X1

and

esti

mat

es fo

r th

e 4t

h q

uart

er o

f 20X

1.(N

ote:

Sal

es o

f re

cove

red

inte

rval

s ar

e as

sum

ed t

o in

crea

se a

s a

resu

lt o

f th

e in

crea

se i

n e

stim

ated

def

ault

s.)

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

025

010

060

0$9

,500

$5,7

00,0

00Ty

pe Y

200

5050

300

$10,

000

3,00

0,00

0Ty

pe Z

5050

100

$13,

000

1,30

0,00

0

500

350

150

1,00

010

,000

,000

Sal

e of

rec

over

ed i

nte

rval

s15

6075

150

$9,5

001,

425,

000

500

365

210

751,

150

11,4

25,0

00

sop_04_02.qxp 11/30/2004 4:11 PM Page 72

73

Est

imat

ed s

ales

dis

cou

nts

—E

stim

ated

un

colle

ctib

le n

otes

(1,5

42,3

75)

Est

imat

ed f

utu

re r

even

ue

$9,8

82,6

25

CO

S p

erce

nta

ge:

25.3

0%($

2,50

0,00

0 / $

9,88

2,62

5)

Acc

ou

nti

ng

entr

ies

for

sale

s re

cord

ed t

hro

ugh

ou

t th

e fi

rst

thre

e q

uar

ters

of

20

X1

sh

ou

ld h

ave

bee

n r

ecord

ed a

s

20X

1N

otes

Rec

eiva

ble

3,39

0,30

0C

ash

37

6,70

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

508,

545

Sal

es3,

767,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e50

8,54

5

20X

1C

ost

of S

ales

824,

289

Inve

nto

ry82

4,28

9P

erce

nta

ge-o

f-co

mpl

etio

n a

dju

stm

ents

:20

X1

Sal

es75

3,40

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

101,

709

Del

ayed

Rev

enu

e (2

0% o

f n

et s

ales

)65

1,69

1

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

164,

858

Cos

t of

Sal

es (

20%

of

824,

289)

164,

858

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$3,7

67,0

00In

ven

tory

per

boo

ks, 1

/1/2

0X1

$2,0

00,0

00E

stim

ated

un

colle

ctib

le s

ales

(508

,545

)In

ven

tory

sol

d in

cu

rren

t pe

riod

(824

,289

)N

et s

ales

3,

258,

455

PO

C a

dju

stm

ent

in c

urr

ent

peri

od16

4,85

8C

OS

%

25.3

0%In

ven

tory

per

boo

ks, 9

/30/

20X

11,

340,

569

Cos

t of

sal

es (

befo

re P

OC

adj

.)$8

24,2

89

sop_04_02.qxp 11/30/2004 4:11 PM Page 73

74

Add

:Est

imat

ed c

osts

to

com

plet

e50

0,00

0L

ess:

PO

Cad

just

men

ts t

o da

te(1

64,8

58)

Inve

nto

ry f

or n

ext

peri

od

CO

S %

cal

cula

tion

pu

rpos

es$1

,675

,711

9/30

/20X

1E

ndi

ng

inve

nto

ry fo

r ca

lcul

atio

n o

f Q4

20X

1 C

OS

perc

enta

ge$1

,675

,711

# of

in

terv

als

defa

ult

ed i

n Q

1-Q

3 20

X1

45((22

))#

of i

nte

rval

s de

fau

lted

in

Q1-

Q3

20X

1 th

at a

re r

ecov

ered

45((22

)),, ((

33))R

emai

nin

g in

terv

als

avai

labl

e fo

r sa

le67

0=

1,0

00 –

375

+ 4

5

Cal

cula

tion

of

curr

ent-

peri

od c

um

ula

tive

adj

ust

men

ts f

or t

he

firs

t th

ree

quar

ters

of

20X

1, t

o be

rec

orde

d in

20X

1 4t

h q

uar

-te

r fi

nan

cial

sta

tem

ents

:S

ales

Cost

Del

ayed

D

elay

edS

ales

Con

tra

Allow

ance

of

Sal

esR

even

ue

Inve

nto

ryC

OS

As

rede

term

ined

3,01

3,60

040

6,83

650

8,54

565

9,43

165

1,69

11,

175,

711

164,

858

As

orig

. rec

orde

d3,

013,

600

271,

224

339,

030

688,

037

685,

594

1,13

9,95

417

2,00

9R

etro

adj

ust

men

t0

135,

612

169,

515

(28,

606)

(33,

903)

35,7

57(7

,151

)

Acc

ou

nti

ng

En

trie

s

20X

1S

ales

Con

tra

135,

612

Del

ayed

Rev

enu

e33

,903

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e16

9,51

520

X1

Inve

nto

ry35

,757

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

7,15

1C

ost

of S

ales

28,6

06

Th

e n

et e

ffec

t of

th

e en

trie

s, i

ncl

udi

ng

adju

stm

ent

entr

ies,

for

th

e fi

rst

thre

e qu

arte

rs o

f 20

X1

is:

sop_04_02.qxp 11/30/2004 4:11 PM Page 74

75

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$376

,700

Sal

es$3

,013

,600

Est

imat

ed U

nco

llect

ible

Sal

es(4

06,8

36)

Not

es R

ecei

vabl

e3,

390,

300

(col

lect

ion

s n

ot il

lust

rate

d)N

et S

ales

2,60

6,76

4L

ess:

Allo

wan

ce(5

08,5

45)

Rec

eiva

bles

, Net

2,88

1,75

5

Inve

nto

ry1,

340,

569

Cos

t of

Sal

es65

9,43

1(i

ncl

ude

s de

laye

d C

OS

of

164,

858)

Del

ayed

Rev

enu

e(6

51,6

91)

$3,9

47,3

33$1

,947

,333

(Not

e: D

iffe

ren

ce b

etw

een

$3,

947,

333

and

$1,9

47,3

33 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

AAssss

uumm

ppttiioo

nnss

ffoorr

44tthh

qquu

aarrttee

rr ooff

2200XX

11::S

ame

as i

nit

ial 2

0X1

assu

mpt

ion

s ex

cept

exp

ecte

d fu

ture

rev

enu

e es

tim

ate

is u

pdat

ed b

ased

on

th

e in

crea

sed

esti

mat

ed d

e-fa

ult

rat

e of

15%

.B

egin

nin

g In

ven

tory

Bal

ance

$1,6

75,7

11

incl

udi

ng

esti

mat

ed c

osts

to

com

plet

e; e

xclu

des

PO

C a

dju

stm

ents

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

Q4

of

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X62

250

100

412

$9,5

00$3

,914

,000

Type

Y50

5050

150

$10,

000

1,50

0,00

0Ty

pe Z

1350

63$1

3,00

081

9,00

0

125

350

150

625

6,23

3,00

0

sop_04_02.qxp 11/30/2004 4:11 PM Page 75

76

Sal

e of

rec

over

ed i

nte

rval

s15

6075

150

$9,5

001,

425,

000

125

365

210

7577

57,

658,

000

Est

imat

ed s

ales

dis

cou

nts

—E

stim

ated

un

colle

ctib

le n

otes

(1,0

33,8

30)

Est

imat

ed f

utu

re r

even

ue

$6,6

24,1

70

Sal

es f

or t

he

4th

qu

arte

r of

20X

1 ar

e $1

,258

,000

(th

e 12

5 in

terv

als

from

abo

ve a

t th

e re

spec

tive

sal

es p

rice

s sh

own

abo

ve).

CO

S p

erce

nta

ge:

25.3

0%($

1,67

5,71

1 / $

6,62

4,17

0)

Acc

ou

nti

ng

entr

ies

for

sale

s re

cord

ed t

hro

ugh

ou

t Q

4 o

f 2

0X

1

20X

1N

otes

Rec

eiva

ble

1,13

2,20

0C

ash

12

5,80

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

169,

830

Sal

es1,

258,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e16

9,83

0

20X

1C

ost

of S

ales

275,

274

Inve

nto

ry27

5,27

4P

erce

nta

ge-o

f-co

mpl

etio

n a

dju

stm

ents

:20

X1

Sal

es25

1,60

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

33,9

66D

elay

ed R

even

ue

(20%

of

net

sal

es)

217,

634

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

55,0

55C

ost

of S

ales

(20

% o

f 27

5,27

4)55

,055

sop_04_02.qxp 11/30/2004 4:11 PM Page 76

77

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$1,2

58,0

00In

ven

tory

per

boo

ks, 9

/30/

20X

1$1

,340

,569

Est

imat

ed u

nco

llect

ible

sal

es(1

69,8

30)

Inve

nto

ry s

old

in c

urr

ent

peri

od(2

75,2

74)

Net

sal

es

1,08

8,17

0P

OC

adj

ust

men

t in

cu

rren

t pe

riod

55,0

55C

OS

%

25.3

0%In

ven

tory

per

boo

ks, 1

2/31

/20X

11,

120,

350

Cos

t of

sal

es (

befo

re P

OC

adj

.)$2

75,2

74A

dd:E

stim

ated

cos

ts t

o co

mpl

ete

500,

000

Les

s: P

OC

adju

stm

ents

to

date

(219

,913

)In

ven

tory

for

nex

t pe

riod

C

OS

% c

alcu

lati

on p

urp

oses

$1,4

00,4

37

9/30

/20X

1E

ndi

ng

inve

nto

ry f

or c

alcu

lati

on o

f 20

X2

CO

S p

erce

nta

ge$1

,400

,437

# of

in

terv

als

defa

ult

ed i

n Q

4 20

X1

15((22

))#

of i

nte

rval

s de

fau

lted

th

at a

re r

ecov

ered

in

Q4

20X

115

((22)),,

((33))

Rem

ain

ing

inte

rval

s av

aila

ble

for

sale

560

= 6

70 –

125

+ 1

5

Th

e n

et e

ffec

t of

th

e en

trie

s fo

r th

e fu

ll ye

ar 2

0X1

is:

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$502

,500

Sal

es$4

,020

,000

Not

es R

ecei

vabl

e4,

522,

500

Est

imat

ed U

nco

llect

ible

Sal

es(5

42,7

00)

(col

lect

ion

s n

ot i

llust

rate

d)N

et S

ales

3,47

7,30

0L

ess:

Allo

wan

ce(6

78,3

75)

Rec

eiva

bles

, Net

3,84

4,12

5C

ost

of S

ales

879,

650

Inve

nto

ry1,

120,

350

(in

clu

des

dela

yed

CO

S o

f 21

9,91

3)D

elay

ed R

even

ue

(869

,325

)$4

,597

,650

$2,5

97,6

50

sop_04_02.qxp 12/2/2004 3:49 PM Page 77

78

(Not

e: D

iffe

ren

ce b

etw

een

$4,

597,

650

and

$2,5

97,6

50 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

Had

th

e ch

ange

in e

stim

ated

def

ault

s n

ot o

ccur

red,

in 2

0X1

the

selle

r w

ould

hav

e re

cord

ed in

com

e of

$2,

740,

392

(see

“A

s If

”co

lum

n b

elow

). A

ctu

al 2

0X1

inco

me

was

$2,

597,

650

(see

“A

ctu

al”

colu

mn

bel

ow),

wh

ich

is

$142

,742

low

er t

han

th

e “A

s If

”in

com

e. I

n a

ccor

dan

ce w

ith

par

agra

ph 4

1 of

th

is S

OP,

th

e se

ller

wou

ld d

iscl

ose

that

th

e 20

X1

4th

qu

arte

r re

sult

s in

clu

de a

$142

,742

dec

reas

e in

in

com

e in

qu

arte

rs 1

to

3 re

sult

ing

from

th

e ch

ange

in

est

imat

ed d

efau

lts

in t

he

rela

tive

sal

es v

alu

em

eth

od. F

or s

impl

icit

y, a

ny

rela

ted

tax

effe

cts

are

ign

ored

.

Th

e am

oun

t to

be

disc

lose

d is

det

erm

ined

as

follo

ws:

20

X1

- A

s If

20

X1

- A

ctu

alD

iffe

ren

ce

Sal

es b

efor

e P

OC

adj

ust

men

t$5

,025

,000

$5,0

25,0

00S

ales

Con

tra

(452

,250

)(6

78,3

75)

Net

Sal

es b

efor

e P

OC

adj

ust

men

t4,

572,

750

4,34

6,62

5P

OC

adj

ust

men

t (2

0%)

914,

550

869,

325

Net

Sal

es a

fter

PO

C a

dju

stm

ent

3,65

8,20

03,

477,

300

Cos

t of

Sal

es91

7,80

887

9,65

0In

com

e$2

,740

,392

$2,5

97,6

50($

142,

742)

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

22::S

ame

assu

mpt

ion

s as

Q4

of 2

0X1,

ref

lect

ing

the

incr

ease

d es

tim

ated

def

ault

rat

e of

15%

.B

egin

nin

g In

ven

tory

Bal

ance

$1,4

00,4

37

incl

udi

ng

esti

mat

ed c

osts

to

com

plet

e; e

xclu

des

PO

C a

dju

stm

ents

sop_04_02.qxp 11/30/2004 4:11 PM Page 78

79

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X25

010

035

0$9

,500

$3,3

25,0

00Ty

pe Y

5050

100

$10,

000

1,00

0,00

0Ty

pe Z

5050

$13,

000

650,

000

350

150

500

4,97

5,00

0

Sal

e of

rec

over

ed i

nte

rval

s15

6075

150

$9,5

001,

425,

000

365

210

7565

06,

400,

000

Est

imat

ed s

ales

dis

cou

nts

—E

stim

ated

un

colle

ctib

le n

otes

(864

,000

)E

stim

ated

fu

ture

rev

enu

e$5

,536

,000

Sal

es f

or 2

0X2

are

$3,6

67,5

00 (

the

365

inte

rval

s fr

om a

bove

at

the

resp

ecti

ve s

ales

pri

ces

show

n a

bove

).

CO

S p

erce

nta

ge:

25.3

0%($

1,40

0,43

7 / $

5,53

6,00

0)

Acc

ou

nti

ng

entr

ies

for

sale

s re

cord

ed t

hro

ugh

ou

t 2

0X

2

20X

2N

otes

Rec

eiva

ble

3,30

0,75

0C

ash

36

6,75

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

495,

113

Sal

es3,

667,

500

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e49

5,11

3

20X

2C

ost

of S

ales

802,

516

Inve

nto

ry80

2,51

6

sop_04_02.qxp 11/30/2004 4:11 PM Page 79

80

Cost

of

Sal

es C

alcu

lati

on

Sal

es

$3,6

67,5

00E

stim

ated

un

colle

ctib

le s

ales

(495

,113

)N

et s

ales

3,

172,

387

CO

S %

25

.30%

Cos

t of

sal

es (

befo

re P

OC

adj

.)$8

02,5

16

Th

e n

et e

ffec

t of

th

e en

trie

s fo

r th

e fu

ll ye

ars

20X

1 an

d 20

X2,

bef

ore

any

20X

2 P

OC

adj

ust

men

ts, i

s:

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$869

,250

Sal

es$7

,687

,500

Est

imat

ed U

nco

llect

ible

Sal

es(1

,037

,813

)N

otes

Rec

eiva

ble

7,82

3,25

0N

et S

ales

6,64

9,68

7(c

olle

ctio

ns

not

illu

stra

ted)

Les

s: A

llow

ance

(1,1

73,4

88)

Rec

eiva

bles

, Net

6,64

9,76

2

Inve

nto

ry31

7,83

4 C

ost

of S

ales

1,68

2,16

6(i

ncl

ude

s de

laye

d C

OS

of

219,

913)

Del

ayed

Rev

enu

e(8

69,3

25)

$6,9

67,5

21$4

,967

,521

(Not

e: D

iffe

ren

ce b

etw

een

$6,

967,

521

and

$4,9

67,5

21 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

Ass

um

e th

at d

uri

ng

20X

2, t

he

selle

r in

curs

$40

0,00

0 to

war

ds c

ompl

etio

n o

f th

e pr

ojec

t bu

t th

en e

stim

ates

at

12/3

1/20

X2

that

$30

0,00

0 ad

diti

onal

is

nee

ded

to c

ompl

ete.

Bec

ause

th

e se

ller

has

bee

n r

ecor

din

g sa

les

thro

ugh

out

20X

2, p

erce

nta

ge-o

f-co

mpl

etio

n a

dju

stm

ents

wou

ld h

ave

been

rec

orde

d ba

sed

on t

he

orig

inal

est

imat

ed t

otal

cos

ts o

f $2

,500

,000

an

d P

OC

of

96%

($2,

400,

000

/ $2,

500,

000)

at

12/3

1/20

X2.

For

sim

plic

ity

in i

llust

rati

ng

the

effe

ct o

f th

e ch

ange

in

est

imat

e, t

his

exa

mpl

e

sop_04_02.qxp 12/1/2004 1:25 PM Page 80

81

assu

mes

th

at t

he

$200

,000

in

crea

se i

n e

stim

ated

cos

ts t

o co

mpl

ete

occu

rs a

t th

e en

d of

20X

2, a

t w

hic

h t

ime

the

selle

r re

cal-

cula

tes

the

PO

C a

s 88

.89%

($2

,400

,000

/ $2

,700

,000

). T

he

selle

r th

en r

ecor

ds a

cu

rren

t-pe

riod

adj

ust

men

t to

sal

es a

nd

cost

of s

ales

for

th

e di

ffer

ence

bet

wee

n t

otal

sal

es a

nd

cost

of

sale

s th

at w

ould

hav

e be

en r

ecog

niz

ed f

or t

he

curr

ent

and

all p

rior

year

s to

dat

e ba

sed

on a

per

cen

t co

mpl

ete

of 8

8.89

%, a

nd

tota

l sal

es a

nd

cost

of

sale

s ac

tual

ly r

ecog

niz

ed t

o da

te.

Rec

ordi

ng

of $

400,

000

cost

s in

curr

ed i

n 2

0X2

tow

ard

com

plet

ion

of

the

proj

ect:

20X

2In

ven

tory

400,

000

Cas

h40

0,00

0

Rec

ordi

ng

of P

OC

adj

ust

men

ts f

or 2

0X2,

bas

ed o

n t

he

orig

inal

est

imat

ed c

osts

to

com

plet

e of

$2,

500,

000:

Per

cen

t co

mpl

ete:

96.0

0%($

2,40

0,00

0 / $

2,50

0,00

0)

20X

2S

ales

146,

700

Sal

es C

ontr

a (e

stim

ated

un

colle

ctib

le s

ales

)19

,805

Del

ayed

Rev

enu

e (4

% o

f n

et s

ales

)12

6,89

5

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

32,1

01C

ost

of S

ales

(4%

of

802,

516)

32,1

01To

adj

ust

20X

2 re

sult

s fo

r pe

rcen

t co

mpl

ete

of 9

6%.

20X

2S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

108,

540

Del

ayed

Rev

enu

e 69

5,46

0S

ales

804,

000

Cos

t of

Sal

es

175,

930

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

175,

930

To a

dju

st 2

0X1

resu

lts

for

incr

ease

in

per

cen

t co

mpl

ete

from

80%

to

96%

.

Th

e n

et e

ffec

t of

th

e ab

ove

entr

ies,

bef

ore

reco

rdin

g th

e ef

fect

of

the

chan

ge i

n e

stim

ated

tot

al c

osts

to

com

plet

e, i

s:

sop_04_02.qxp 11/30/2004 4:11 PM Page 81

82

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$469

,250

Sal

es$8

,344

,800

Est

imat

ed U

nco

llect

ible

Sal

es(1

,126

,548

)N

otes

Rec

eiva

ble

7,82

3,25

0 N

et S

ales

7,21

8,25

2(c

olle

ctio

ns

not

illu

stra

ted)

Les

s: A

llow

ance

(1,1

73,4

88)

Rec

eiva

bles

, Net

6,64

9,76

2

Inve

nto

ry57

4,00

4 C

ost

of S

ales

1,82

5,99

6(i

ncl

ude

s de

laye

d C

OS

of

76,0

84)

Del

ayed

Rev

enu

e(3

00,7

60)

$7,3

92,2

56$5

,392

,256

(Not

e: D

iffe

ren

ce b

etw

een

$7,

392,

256

and

$5,3

92,2

56 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

Rec

ordi

ng

of c

urr

ent-

peri

od a

dju

stm

ents

for

in

crea

se t

o $2

,700

,000

of

tota

l est

imat

ed c

osts

to

com

plet

e:

CO

S p

erce

nta

ge:

27.3

2%($

2,70

0,00

0 / $

9,88

2,62

5)(T

he

den

omin

ator

in

th

is p

erce

nta

ge i

s ba

sed

on a

ctu

al r

even

ue

to d

ate

plu

s es

tim

ated

fu

ture

rev

enu

e, e

xclu

din

g P

OC

ad

just

men

ts.)

Cost

of

Sal

es C

alcu

lati

on

20

X1

-20

X2

(ex

clu

din

g P

OC

ad

just

men

ts)

Sal

es

$8,6

92,5

00E

stim

ated

un

colle

ctib

le s

ales

(1,1

73,4

88)

Net

sal

es

7,51

9,01

2C

OS

%

27.3

2%C

ost

of s

ales

$2

,054

,245

Per

cen

t co

mpl

ete

- re

vise

d:88

.89%

($2,

400,

000

/ $2,

700,

000)

sop_04_02.qxp 11/30/2004 4:11 PM Page 82

83

As-

if e

ntr

ies

for

20

X1

-20

X2

com

bin

ed, b

ased

on

$2

,70

0,0

00

est

imat

ed t

ota

l co

st

Not

es R

ecei

vabl

e 7,

823,

250

Cas

h

469,

250

Sal

es C

ontr

a (e

stim

ated

un

colle

ctib

le s

ales

)1,

173,

488

Sal

es8,

692,

500

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e1,

173,

488

Cos

t of

Sal

es2,

054,

245

Inve

nto

ry1,

654,

245

Per

cen

tage

-of-

com

plet

ion

adj

ust

men

ts:

Sal

es96

5,83

3S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

130,

387

Del

ayed

Rev

enu

e (1

1.11

% o

f n

et s

ales

)83

5,44

6

Del

ayed

Cos

t of

Sal

es (

Inve

nto

ry a

ccou

nt)

228,

249

Cos

t of

Sal

es (

11.1

1% o

f 2,

054,

245)

228,

249

Cu

mu

lati

ve a

dju

stm

ents

for

20X

1-20

X2

to r

efle

ct c

han

ge i

n e

stim

ated

cos

ts f

rom

$2,

500,

000

to $

2,70

0,00

0 to

be

reco

rded

in

20X

2 fi

nan

cial

sta

tem

ents

:S

ales

Cost

Del

ayed

D

elay

edS

ales

Con

tra

Cas

hof

Sal

esR

even

ue

Inve

nto

ryC

OS

As

rede

term

ined

7,72

6,66

71,

043,

101

469,

250

1,82

5,99

683

5,44

634

5,75

522

8,24

9A

s or

ig. r

ecor

ded

8,34

4,80

01,

126,

548

469,

250

1,82

5,99

630

0,76

049

7,92

076

,084

Ret

ro a

dju

stm

ent

(618

,133

)(8

3,44

7)0

053

4,68

6(1

52,1

65)

152,

165

sop_04_02.qxp 11/30/2004 4:11 PM Page 83

84

Acc

ou

nti

ng

En

trie

s

20X

2S

ales

61

8,13

3D

elay

ed C

ost

of S

ales

(In

ven

tory

acc

oun

t)15

2,16

5In

ven

tory

152,

165

Del

ayed

Rev

enu

e53

4,68

6S

ales

Con

tra

83,4

47T

he

net

eff

ect

of a

ll th

e en

trie

s to

dat

e (1

2/31

/20X

2), i

ncl

udi

ng

PO

C a

dju

stm

ents

an

d ef

fect

s of

ch

ange

s in

est

imat

e, i

s:

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$469

,250

Sal

es$7

,726

,667

Est

imat

ed U

nco

llect

ible

Sal

es(1

,043

,101

)N

otes

Rec

eiva

ble

7,82

3,25

0 N

et S

ales

6,68

3,56

6(c

olle

ctio

ns

not

illu

stra

ted)

Les

s: A

llow

ance

(1,1

73,4

88)

Rec

eiva

bles

, Net

6,64

9,76

2

Inve

nto

ry57

4,00

4 C

ost

of S

ales

1,82

5,99

6(i

ncl

ude

d de

laye

d C

OS

of

228,

249)

Del

ayed

Rev

enu

e(8

35,4

46)

(= 9

65,8

33 d

elay

ed S

ales

less

13

0,38

7 de

laye

d S

ales

Con

tra)

$6,8

57,5

70$4

,857

,570

(Not

e: D

iffe

ren

ce b

etw

een

$6,

857,

570

and

$4,8

57,5

70 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

In a

ccor

dan

ce w

ith

par

agra

ph 4

1 of

th

is S

OP,

th

e se

ller

wou

ld d

iscl

ose

that

th

e 20

X2

resu

lts

incl

ude

a $5

34,6

86 d

ecre

ase

in in

-co

me

as a

res

ult

of t

he

chan

ge in

th

e pr

ojec

t’s e

stim

ated

per

cen

tage

of c

ompl

etio

n d

ue t

o th

e re

vise

d es

tim

ated

tot

al c

osts

to

com

plet

e. (

$534

,686

= $

618,

133

decr

ease

in S

ales

less

$83

,447

dec

reas

e in

Sal

es C

ontr

a.)

For

sim

plic

ity,

an

y re

late

d ta

x ef

fect

sar

e ig

nor

ed.

sop_04_02.qxp 11/30/2004 4:11 PM Page 84

85

En

din

g In

ven

tory

Cal

cula

tion

Inve

nto

ry p

er b

ooks

, 1/1

/20X

1$2

,000

,000

Inve

nto

ry c

osts

in

curr

ed i

n 2

0X2

400,

000

Inve

nto

ry s

old

in 2

0X1-

20X

2(2

,054

,245

)P

OC

adj

ust

men

t, 2

0X1-

20X

222

8,24

9In

ven

tory

per

boo

ks, 1

2/31

/20X

257

4,00

4

Add

: Est

imat

ed c

osts

to

com

plet

e30

0,00

0L

ess:

PO

Cad

just

men

ts t

o da

te(2

28,2

49)

Inve

nto

ry f

or n

ext

peri

od C

OS

% c

alcu

lati

on p

urp

oses

$645

,755

En

din

g in

ven

tory

for

cal

cula

tion

of

20X

3 C

OS

perc

enta

ge$6

45,7

55#

of i

nte

rval

s de

fau

lted

90((22

))#

of i

nte

rval

s de

fau

lted

th

at a

re r

ecov

ered

90((22

)),, ((

33))R

emai

nin

g in

terv

als

avai

labl

e fo

r sa

le28

5=

560

– 3

65 +

90

AAssss

uumm

ppttiioo

nnss

ffoorr

2200XX

33::N

o ch

ange

in

ass

um

ptio

ns

exce

pt e

xpec

ted

futu

re r

even

ue

esti

mat

e an

d pe

rcen

t co

mpl

ete

are

upd

ated

.In

Jan

uar

y 20

X3,

th

e se

ller

spen

ds t

he

esti

mat

ed $

300,

000

to c

ompl

ete,

an

d th

ereb

y co

mpl

etes

th

e pr

ojec

t co

nst

ruct

ion

.

Beg

inn

ing

Inve

nto

ry B

alan

ce$6

45,7

55

incl

udi

ng

esti

mat

ed c

osts

to

com

plet

e; e

xclu

des

PO

C a

dju

stm

ents

sop_04_02.qxp 11/30/2004 4:11 PM Page 85

86

Est

imat

ed S

ales

Pri

ces

and

Dis

trib

uti

on

20

X4

Tota

l N

o.

Exp

ecte

d2

0X

12

0X

22

0X

3&

Fu

ture

of

Inte

rval

sS

ales

Pri

ceF

utu

re R

even

ue

Type

X10

010

0$9

,500

$950

,000

Type

Y50

50$1

0,00

050

0,00

0Ty

pe Z

$13,

000

150

150

1,45

0,00

0

Sal

e of

rec

over

ed i

nte

rval

s60

7513

5$9

,500

1,28

2,50

0

210

7528

52,

732,

500

Est

imat

ed s

ales

dis

cou

nts

—E

stim

ated

un

colle

ctib

le n

otes

(368

,888

)E

stim

ated

fu

ture

rev

enu

e$2

,363

,612

Sal

es f

or 2

0X3

are

$2,0

20,0

00 (

the

210

inte

rval

s fr

om a

bove

at

the

resp

ecti

ve s

ales

pri

ces

show

n a

bove

).

CO

S p

erce

nta

ge:

27.3

2%($

645,

755

/ $2,

363,

612)

Acc

ou

nti

ng

entr

ies

for

sale

s re

cord

ed t

hro

ugh

ou

t 2

0X

3

20X

3N

otes

Rec

eiva

ble

1,81

8,00

0C

ash

20

2,00

0S

ales

Con

tra

(est

imat

ed u

nco

llect

ible

sal

es)

272,

700

Sal

es2,

020,

000

Allo

wan

ce f

or U

nco

llect

ible

Not

es R

ecei

vabl

e27

2,70

0

20X

3C

ost

of S

ales

477,

374

Inve

nto

ry47

7,37

4

sop_04_02.qxp 11/30/2004 4:11 PM Page 86

87

Cost

of

Sal

es C

alcu

lati

on

En

din

g In

ven

tory

Cal

cula

tion

Sal

es

$2,0

20,0

00In

ven

tory

per

boo

ks, 1

/1/2

0X3

$574

,004

Est

imat

ed u

nco

llect

ible

sal

es(2

72,7

00)

Inve

nto

ry c

osts

in

curr

ed i

n 2

0X3

300,

000

Net

sal

es

1,74

7,30

0In

ven

tory

sol

d in

cu

rren

t pe

riod

(477

,374

)C

OS

%

27.3

2%P

OC

adj

ust

men

t in

cu

rren

t pe

riod

—C

ost

of s

ales

$477

,374

Inve

nto

ry p

er b

ooks

, 12/

31/2

0X3

396,

630

Add

:Est

imat

ed c

osts

to

com

plet

e—

Les

s: P

OC

adju

stm

ents

to

date

(228

,249

)In

ven

tory

for

nex

t pe

riod

C

OS

% c

alcu

lati

on p

urp

oses

$168

,381

12/3

1/20

X1

En

din

g in

ven

tory

for

cal

cula

tion

of

CO

S p

erce

nta

ge$1

68,3

81((44

))#

of i

nte

rval

s de

fau

lted

—

((22))

# of

in

terv

als

defa

ult

ed t

hat

are

rec

over

ed—

((22)),,

((33))

Rem

ain

ing

inte

rval

s av

aila

ble

for

sale

in

20X

4 an

d fu

ture

75=

285

– 2

10

Bec

ause

th

e pr

ojec

t co

nst

ruct

ion

is c

ompl

ete

as o

f 12/

31/2

0X3,

th

e se

ller

now

rec

ogn

izes

an

y re

mai

nin

g D

elay

ed R

even

ue

and

Del

ayed

Cos

t of

Sal

es t

hat

wer

e de

laye

d u

nde

r th

e pe

rcen

tage

-of-

com

plet

ion

met

hod

:

Acc

ou

nti

ng

En

trie

s

20X

3D

elay

ed R

even

ue

835,

446

Sal

es C

ontr

a13

0,38

7S

ales

965,

833

Cos

t of

Sal

es22

8,24

9D

elay

ed C

ost

of S

ales

(In

ven

tory

acc

oun

t)22

8,24

9

sop_04_02.qxp 11/30/2004 4:11 PM Page 87

88

Th

e n

et e

ffec

t of

all

of t

he

entr

ies

to d

ate

(12/

31/2

0X3)

is:

Sel

ecte

d B

alan

ce S

hee

t A

ccou

nts

Sel

ecte

d I

nco

me

Sta

tem

ent

Acc

ou

nts

Cas

h

$371

,250

S

ales

$10,

712,

500

(ass

um

es c

ash

pai

d fo

r E

stim

ated

Un

colle

ctib

le S

ales

(1,4

46,1

88)

$700

,000

con

stru

ctio

n)

Net

Sal

es9,

266,

312

Not

es R

ecei

vabl

e9,

641,

250

(col

lect

ion

s n

ot i

llust

rate

d)L

ess:

Allo

wan

ce(1

,446

,188

)R

ecei

vabl

es, N

et8,

195,

062

Inve

nto

ry16

8,38

1 C

ost

of S

ales

2,53

1,61

9

Del

ayed

Rev

enu

e0

$8,7

34,6

93$6

,734

,693

(Not

e: D

iffe

ren

ce b

etw

een

$8,

734,

693

and

$6,7

34,6

93 c

orre

ctly

equ

als

the

orig

inal

$2,

000,

000

in I

nve

nto

ry a

t 1/

1/20

X1.

)

FO

OT

NO

TE

S(1

)F

or s

impl

icit

y pu

rpos

es o

nly

. It

is li

kely

th

at t

he

selle

r m

ay n

ot b

e ab

le t

o se

ll al

l rem

ain

ing

un

its,

as

som

e u

nit

s w

ill b

e u

nde

sira

ble

or t

he

sale

s ef

fort

wil

l not

be c

ost-

effe

ctiv

e.

(2)

Am

oun

t is

a g

iven

for

th

is e

xam

ple

and

is n

ot d

eriv

ed f

rom

an

y as

sum

ptio

ns.

(3)

For

sim

plic

ity

purp

oses

on

ly.

Nor

mal

ly,

not

all

inte

rval

sal

es t

hat

def

ault

res

ult

in r

ecov

ery

of i

nve

nto

ry b

y th

e se

ller,

as

a re

sult

of

issu

es s

uch

as

sign

ifica

nt

lega

l(f

orec

losu

re)

cost

s an

d m

arke

tabi

lity

of p

arti

cula

r un

its.

In

det

erm

inin

g es

tim

ated

fu

ture

rev

enu

e, t

he

selle

r sh

ould

tak

e in

to a

ccou

nt

the

effe

ct o

f th

ose

inte

r-va

ls t

hat

wou

ld n

ot b

e re

cove

red

vers

us

the

effe

ct o

f th

ose

that

wou

ld. T

o si

mpl

ify

the

illu

stra

tion

, th

at e

ffec

t h

as n

ot b

een

ref

lect

ed.

(4)

As

part

of

its

proc

ess

of a

sses

smen

t of

ass

ets

for

impa

irm

ent,

th

e se

ller

shou

ld e

valu

ate

endi

ng

inve

nto

ry i

n v

iew

of

the

pote

nti

ally

pro

hib

itiv

e co

st o

f m

arke

tin

gsu

ch a

sm

all q

uan

tity

of u

nit

s. P

arag

raph

34

of F

ASB

Sta

tem

ent

No.

144

wou

ld r

equi

re t

hat

th

e in

ven

tory

be

mea

sure

d, fo

r pu

rpos

es o

f det

erm

inin

g a

poss

ible

im-

pair

men

t, a

t th

e lo

wer

of c

arry

ing

amou

nt

or fa

ir v

alue

less

cos

t to

sel

l.

sop_04_02.qxp 12/2/2004 3:03 PM Page 88

APPENDIX C Continuing Involvement

Below are scenarios related to a seller’s continuing involve-ment discussed in paragraphs 25 through 43 of Financial Ac-counting Standards Board (FASB) Statement of FinancialAccounting Standards No. 66, Accounting for Sales of RealEstate, and comments with respect to whether those scenar-ios typically apply or do not apply to a time-share seller.

RReeppuurrcchhaassee OOppttiioonn oorr OObblliiggaattiioonn (FASB Statement No.66, paragraph 26)The seller has an obligation to repurchase the property,or the terms of the transaction allow the buyer to compelthe seller or give an option1 to the seller to repurchasethe property.1. A right of first refusal based on a bona fide offer by a third party or-

dinarily is not an obligation or an option to repurchase.

Comments: Time-share contracts typically do not con-tain repurchase obligations or options for repurchase.Buyer upgrade programs should not be considered as op-tions for repurchase because both buyer and seller mustagree to an upgrade transaction. Neither has a unilateralright to compel the other.

LLiimmiitteedd PPaarrttnneerrsshhiipp AArrrraannggeemmeenntt (FASB Statement No.66, paragraph 27)The seller is a general partner in a limited partnershipthat acquires an interest in the property sold (or has anextended, noncancelable management contract requir-ing similar obligations) and holds a receivable from thebuyer for a significant2 part of the sales price.2. For this purpose, a significant receivable is a receivable in excess of

15 percent of the maximum first-lien financing that could be ob-tained from an independent established lending institution for theproperty. It includes:a. A construction loan made or to be made by the seller to the extent

that it exceeds the minimum funding commitment for permanentfinancing from a third party that the seller will not be liable for

b. An all-inclusive or wraparound receivable held by the seller to theextent that it exceeds prior-lien financing for which the seller hasno personal liability

c. Other funds provided or to be provided directly or indirectly bythe seller to the buyer

d. The present value of a land lease when the seller is the lessor

89

sop_04_02.qxp 11/30/2004 4:11 PM Page 89

Comments: A time-share developer typically does notpartner on either a general or limited basis with thetime-share interval purchaser. In many cases, the devel-oper or an entity related to the developer provides man-agement services to the third-party condominium/owners association (OA) for a fee. Time-share manage-ment contracts generally extend for three to ten yearswith renewals at the option of the OA. The managementcontracts generally contain various cancellation clausesthat allow either the manager or the OA to cancel thecontract under prescribed conditions. Under those con-tracts, the continuing involvement typically would notpreclude profit recognition under FASB Statement No.66.

GGuuaarraanntteeeedd RReettuurrnn oonn IInnvveessttmmeenntt (FASB Statement No.66, paragraph 28)The seller guarantees3 the return of the buyer’s invest-ment or a return on that investment for a limited or ex-tended period. For example, the seller guarantees cashflows, subsidies, or net tax benefits.

3. Guarantees by the seller may be limited to a specified period of time.

Comments: Time-share intervals typically are not soldwith any stated or implied investment return and, ac-cordingly, developers do not provide any such invest-ment return guaranty for any period of time.

SSeelllleerr SSuuppppoorrtt ooff OOppeerraattiioonnss (FASB Statement No. 66,paragraphs 29 and 30)The seller is required to initiate or support operations orcontinue to operate the property at its own risk, or maybe presumed to have such a risk, for an extended period,for a specified limited period, or until a specified level ofoperations has been obtained, for example, until rentalsof a property are sufficient to cover operating expensesand debt service.

Comments: Time-share developers typically subsidizethe operations of a phase during the development or dur-ing the initial period of operations. During the salesprocess, the quoted maintenance fee, which contractu-ally may remain level or increase with inflation, repre-sents the maintenance fee at completion. Typically,during the early stages of a phase, the phase operates at

90

sop_04_02.qxp 11/30/2004 4:11 PM Page 90

a deficit given the normal operational costs and the factthat the number of units registered with the OA may notyet have reached the break-even level. Therefore, the de-veloper subsidy represents two items:

1. Developer’s payment of maintenance fees for inter-vals committed to (that is, enrolled in) the time-share plan, for which the developer retains title. Seeparagraphs 49 through 52 of this SOP.

2. Developer subsidy paid to the OA during the start-up period of operations. In many cases, time-sharedevelopers will begin phase operations with a mini-mal number of units committed to the time-shareplan; therefore, the developer has to subsidize the op-erations until a sufficient number of units has beencommitted.

Typically, the duration of both kinds of payments laststhrough the sellout of the time-share phase. Developerpayments typically diminish as intervals are sold.

However, if the subsidies extend past the sellout periodor do not diminish as intervals are sold, this is an indica-tion that the seller has not transferred substantially allthe risks and rewards of ownership of real estate and thattransactions occurring during the subsidy period are insubstance rriigghhtt--ttoo--uussee arrangements.

SSeelllleerr--PPrroovviiddeedd MMaannaaggeemmeenntt SSeerrvviicceess (FASB StatementNo. 66, paragraph 31)

...the sales contract requires the seller to provide man-agement services relating to the property after the salewithout compensation or at compensation less than pre-vailing market rates for the service required...or onterms not usual for the services to be rendered...

Comments: Management services typically are not re-quired under time-sharing sales contracts. Developersoften provide management services to OAs on a cost-plus-management-fee basis that is billed and collectedseparately from the sale of the time-share interval. As anindication of a reasonable fee, independent (nondevel-oper) time-share management companies charge be-tween 5 percent and 15 percent management fees (thatis, between 5 percent and 15 percent of the underlyingoperating and other costs of management).

91

sop_04_02.qxp 11/30/2004 4:11 PM Page 91

Sometimes a developer offers to pay an interval pur-chaser’s OA maintenance fee for a fixed period of time asa sales incentive. Sometimes a developer operates an in-ternal exchange program whereby a time-share buyercan exchange his or her interval for a given year for an-other unit or week (or both) in the developer’s networkof time-sharing properties. Under paragraph 31 of FASBStatement No. 66, if the seller provides the exchange ser-vice at less than prevailing market rates for the service,compensation should be imputed when the sale is recog-nized and recognized as revenue as the exchange servicesare performed. The fees of independent time-sharing ex-change companies should be considered in determiningprevailing market rates, but it should be recognized thatthe services of an independent exchange company maybe more complex than the services of an internal ex-change program.

A developer may operate a vacation club or affinity pro-gram under which a time-share buyer can exchange hisor her interval (for example, one week) for a given yearfor such items as cruises, hotel stays, airline tickets, orcar rentals. Pursuant to the exchange, the developer getsback the unit-week and any associated income fromrental of the unit for that week. The developer frequentlyhas to purchase from independent third parties thoseitems the buyer receives in exchange. Often, a seller re-serves the right to change the rewards at any time, allow-ing the seller to match the rewards at a given time to thenet rental income that can be generated from a particularinterval. Thus, if a particular interval becomes less popu-lar over time, for example, the seller can reduce the re-wards that the purchaser of such interval could obtain inexchange for the interval. If the seller retains such flexi-bility, the seller is likely to assure that the value of theservices the buyer receives does not exceed the rental in-come that can be generated from the interval. Con-versely, if the seller does not have that flexibility, theseller likely will be unable to estimate the relationship be-tween the value of the services the buyer receives and therental income that can be generated from the interval.

OOppttiioonn ttoo PPuurrcchhaassee (FASB Statement No. 66, paragraph 32)

The transaction is merely an option to purchase theproperty. [Next sentence paraphrased.] For example, an

92

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interval may be sold under terms that call for a verysmall initial investment by the buyer and postponementof additional payments until contingencies specified inthe sales agreement are satisfactorily resolved.

Comments: Once the rreesscciissssiioonn period has expired, con-tracts for the sales of time-share intervals are bindingpurchase contracts and not options.

PPaarrttiiaall SSaalleess (FASB Statement No. 66, paragraphs 33and 34)

The seller has made a partial sale. A sale is a partial saleif the seller retains an equity interest in the property orhas an equity interest in the buyer. [Next sentence para-phrased.] Additionally, the buyer may not be indepen-dent of the seller—for example, if the seller holds oracquires an equity interest in the buyer—or the sellermay control the buyer.

Comments: Sales of time-sharing intervals are not partialsales, as the developer cannot record profit without atransfer of title (see paragraph 13 of this SOP). In thecase in which the developer transfers title to a special-purpose entity (SPE) or trust in exchange for shares orbeneficial interests, the developer should not recognizeprofit until the share or beneficial interest is sold to theend user (see paragraph 55 of this SOP).

CCoolllleeccttiioonn NNoott RReeaassoonnaabbllyy AAssssuurreedd (FASB Statement No.66, paragraph 35)

...collection of the sales price is not reasonably assured.

Comments: Paragraph 35 of FASB Statement No. 66 pre-scribes the cost recovery or installment method of recog-nizing profit if collection of the sales price is notreasonably assured.

SSeelllleerr SSuuppppoorrtt ooff OOppeerraattiioonnss AAfftteerr tthhee SSaallee (FASB State-ment No. 66, paragraph 36)

...the seller is required to support the operations of theproperty after the sale... For example, the seller may re-tain an interest in the property sold and the buyer mayreceive preferences as to profits, cash flows, return oninvestment, and so forth.

93

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Comments: Time-share developers typically are not ob-ligated to support the time-share resorts after the saleexcept in the circumstances described above under thescenarios entitled “Seller Support of Operations” and“Seller-Provided Management Services.”

SSaallee ooff IImmpprroovveemmeennttss,, LLeeaassee ooff LLaanndd (FASB StatementNo. 66, paragraphs 38 and 39)

The seller sells property improvements and leases theunderlying land to the buyer of the improvements.

Comments: See paragraph A48 of this SOP.

CCoonnttrraaccttuuaall FFuuttuurree RReeqquuiirreemmeennttss ooff tthhee SSeelllleerr (FASBStatement No. 66, paragraphs 41 and 42)

The sales contract or an accompanying agreement re-quires the seller to develop the property in the future, toconstruct facilities on the land, or to provide off-site im-provements or amenities. The seller is involved with fu-ture development or construction work if the buyer isunable [or not required] to pay amounts due for thatwork or has the right under the terms of the arrangementto defer payment until the work is done.

Comments: In situations in which developers sell inter-vals prior to the completion of the facilities, improve-ments, or amenities, the sales do not qualify for the fullaccrual method of profit recognition under FASB State-ment No. 66.

SSeelllleerr PPaarrttiicciippaattiioonn iinn FFuuttuurree RReessaallee PPrrooffiittss (FASB State-ment No. 66, paragraph 43)

The seller will participate in future profit from the prop-erty without risk of loss (such as participation in operat-ing profits or residual values without further obligation).

Comments: Developers typically do not participate in fu-ture profits from the resale of time-share intervals.

All of the preceding in this appendix discusses the time-sharing seller’s continuing involvement arising from legalobligations. The seller also may have indicated a commit-ment, based on considerations such as business reputa-tion, intercompany relationships, or credit standing, toprovide financial support or other services to a time-share

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project beyond the seller’s legal obligations. Such a com-mitment might be indicated by previous support providedby the seller to the same or other time-sharing projects orstatements to third parties by the seller of its intention toprovide support. If such a commitment exists, the sellershould determine which kind(s) of continuing involvementit represents under the above scenarios, and record trans-actions based on the relevant paragraphs in FASB State-ment No. 66. Often, such a commitment representsadditional support to an OA that would fall under the sce-nario entitled “Seller Support of Operations” above.

95

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APPENDIX D Illustration of Use of Historical Dataon Uncollectibles, Including RelatedDisclosures

This illustration shows how a time-share entity may orga-nize its historical data about uncollectibles in order to de-termine the charge to revenue for estimated uncollectibleson current-year (2006) sales, and to assess the adequacy ofthe allowance for uncollectibles as of the end of 2006. Re-lated illustrative disclosures are included.

Historical DataTable D1. Sales, Net of Down Payments, by Year

(For projects with characteristics similar to the entity’s current project)1996 $28,000 2002 $60,0001997 $26,000 2003 $70,0001998 $30,000 2004 $76,0001999 $33,000 2005 $80,0002000 $34,000 2006 $90,0002001 $50,000

Table D2 summarizes the uncollectibles experience for years1996 through 2006 for projects similar to the entity’s currenttime-share project. The uncollectibles are organized intocolumns based on the year of sale. Thus, the column “2001Sales” shows that of the $50,000 of sales recorded in 2001,$1,100 in receivables were deemed uncollectible in 2001,$2,000 in 2002, $900 in 2003, and so on.1 However, Table D2also can be analyzed to show receivables deemed uncol-lectible in each fiscal year. For example, in 2006, as shown bythe figures inside rectangles, there were $7,670 in total un-

96

1. That is, $1,100 of individually identified notes receivable were past due and there wasno expectation of subsequent collectibility.

sop_04_02.qxp 11/30/2004 4:11 PM Page 96

collectible receivables, specifically, $2,070 from 2006 sales,$2,600 from 2005 sales, $1,400 from 2004 sales, $800 from2003 sales, $500 from 2002 sales, $200 from 2001 sales, and$100 from 2000 sales. The “Combined Experience” columnis computed two ways—one using only those sales from 1996through 2000, “1996-2000,” for which the notes have beencollected in full, and the other, “All Years,” using the uncol-lectibility experience for all years. The combined experienceis calculated as a simple average here for illustration pur-poses. A weighted average also would be appropriate.

Assessment of Historical Data

Fluctuations in collection experience from year to year canbe explained by economic conditions; the economy wasstronger in 2003 through 2006 than in prior years,2 anduncollectibility rates declined modestly. As the year 2006ends, the economy is softening. As a result, the entity con-cludes that the percentages from the “Combined Experi-ence,” “All Years” column in Table D2, which blends thestrong economic conditions of recent years and the weakerconditions of earlier years, should be applied to computethe charge to revenue for estimated uncollectibles on cur-rent year (2006) sales and to assess the adequacy of the al-lowance for uncollectibles at the end of 2006.

Computation of Charge to Revenue for EstimatedUncollectibles on Current Year (2006) Sales, andBalance of Allowance at End of 2006

Tables D3 and D4 illustrate the computation of the chargeto revenue for estimated uncollectibles on current-year(2006) sales and the computation of the required balancein the allowance for uncollectibles at the end of 2006. Forsimplicity, this illustration assumes that there is no evi-dence that the existing receivables are different from thereceivables covered by the historical data above. As dis-cussed in paragraph 37 of this Statement of Position (SOP),

97

2. Economic conditions discussed in this appendix are hypothetical and for illustrativepurposes only. They are not intended to reflect actual economic conditions existingduring the indicated years.

sop_04_02.qxp 11/30/2004 4:11 PM Page 97

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the allowance should consider such factors as the aging ofthe receivables, economic conditions, and recent collec-tion history. This illustration uses the historical data for allyears, rather than just the data for 1996 to 2000 sales, onthe assumption that the more recent experience is relevantto the collectibility of existing receivables.

Table D3. Estimated Uncollectible by Year of Sale

YearUncollectible 2001 2002 2003 2004 2005 2006

2007 0.3% 0.5% 0.9% 1.5% 2.0% 3.7%2008 0.3% 0.5% 0.9% 1.5% 2.0%2009 0.3% 0.5% 0.9% 1.5%2010 0.3% 0.5% 0.9%2011 0.3% 0.5%2012 0.3%

______ ______ ______ ______ ______ ______Total expected

future uncol-

lectible (%) 0.3% 0.8% 1.7% 3.2% 5.2% 8.9%

Sales, net of

down payments $50,000 $60,000 $70,000 $76,000 $80,000 $90,000

Total expected

future

uncollectible ($) $150 $480 $1,190 $2,432 $4,160 $8,010

Total allowance needed at December 31, 2006 $16,422

Table D4. Charge to Revenue for Current Year Sales

Sales, net of down payments, 2006 $90,000Uncollectible–estimated and actual (%) 11.2%Total charge for 2006 sales 10,080Less: Chargeoffs during 2006 2,070Charge for estimated uncollectible sales* $8,010

* Year-end 2006 charge to revenue for estimated uncollectibles on 2006 sales.

Assume the following in addition to the above:

1. Seller finances substantially all sales with notes witha seven-year term and interest rates of 12 percent to15 percent. The weighted-average interest rates were

100

_______ _______ _______ _______ _______ _______

_______ _______ _______ _______ _______ ______________ _______ _______ _______ _______ _______

sop_04_02.qxp 11/30/2004 4:11 PM Page 100

13.5 percent at December 31, 2006, and 13.6 per-cent at December 31, 2005, respectively.

2. The receivables balances were $300,800 at Decem-ber 31, 2006, and $267,700 at December 31, 2005,with weighted-average remaining lives of 3.2 years atboth dates.

Illustrative Financial Statement Disclosures3

The entity in this illustration (the Company) financessubstantially all sales of time-sharing intervals withseven-year mortgage notes. Buyers are required to make adown payment of at least 10 percent of the sales price,with the balance payable in level monthly installments in-cluding interest at 12 percent to 15 percent per year. Allsales are recorded using the full accrual method of ac-counting, under which revenue, net of expected uncol-lectibles, and cost of sales are recorded at the date of thesale to the buyer. The maturities of the receivables are asfollows:

101

12/31/2006 12/31/2005

Due in 1 year $ 61,400 $ 54,600Due in 2 years 60,300 53,700Due in 3 years 56,100 49,900Due in 4 years 48,900 43,500Due in 5 years 38,700 34,400Due beyond 5 years 35,400 31,600

Total receivables $300,800 $267,700Total receivables per balance sheet $300,800 $267,700Weighted average interest rates 13.5% 13.6%

The activity in the allowance for uncollectibles was as follows:

Balance, beginning of year $ 14,012 $ 13,552Allowance for uncollectibles on current year sales 10,080 8,960

Write-offs of uncollectible receivables (7,670) (8,500)Changes in estimate for prior years’ sales 0 0

Balance, end of year $ 16,422 $ 14,012

3. If the company had sold receivables with recourse, it would also disclose the activity onreceivables sold in the allowance for uncollectible receivables.

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In June 2003, the Accounting Standards Executive Commit-tee (AcSEC) issued an exposure draft of a proposed SOP, Al-lowance for Credit Losses. The disclosures that follow do notinclude those that may be required under that proposedSOP. Readers should be alert to any final pronouncement.

The Company assesses uncollectibles based on pools of receiv-ables, because it holds large numbers of homogenous notes re-ceivable. The Company estimates uncollectibles based onhistorical uncollectibles for similar time-share notes receivableover the past 10 years. The Company uses a technique referredto as static pool analysis, which tracks uncollectibles for eachyear’s sales over the entire life of those notes. The Companyconsiders whether the historical economic conditions arecomparable to current economic conditions, with particularreference to unemployment rates. If current unemploymentrates differ from the rates in effect when the historical experi-ence was generated, the Company adjusts the allowance foruncollectibles to reflect the expected effects of current unem-ployment rates on uncollectibility. The Company currentlygroups all receivables in three pools for analytical purposes—Florida, California, and Hawaii. Although the Company’s creditpolicies are identical in all locations, the customer demograph-ics and historical uncollectibility have varied by state. Withinstates, customer demographics and historical uncollectibilityfor projects have been substantially the same.

The Company’s accounting policy is to stop accruing inter-est income on individual notes when they become 60 dayspast due, and to charge off notes to the allowance for un-collectibles when they become 120 days past due and theCompany has pursued most of its collection remedies.

Illustrative Relevant Sections of Financial StatementsBalance Sheet as of December 31, 2006

Gross notes receivable $300,800Allowance for uncollectiblenotes receivable (16,422)Net notes receivable $284,378

102

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Income Statement for the Year Ended December 31, 2006

Gross sales transactions* $100,000Estimated and actual uncollectible receivables (10,080)Revenue 89,920Cost of sales (22,000)Gross profit $ 67,920

* Includes down payments, or portions thereof, recognized as sales.

103

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APPENDIX E Illustration of Determination of SalesValue of Time-Share Interval

Example 1Assumptions

Stated sales price $10,000Buyer’s down payment $ 1,000Face amount of note $ 9,000Stated interest rate on note 10%Effective interest rate on note after loanorigination fee 10.54%Market interest rate on note 12%

Terms of note 84 equal monthly installments of $149.41

Fees payable by buyer to seller at closing:Loan origination fee (charged only to buyers who receive seller financing) $150Document preparation fee (charged to all buyers) $125

Incentives from seller to buyer at no additional cost to buyer:(Buyer must make six monthly payments to receive incentives)First year’s fee to independent exchange company $110First year’s owners association assessments $300

Present-Value ComputationsPresent value of 84 monthly installments of $149.41 at market discount rate of 12% $8,464

Fair value of incentives at date of sale:1

First year’s fee to independent exchange company $104First year’s owners association assessments $283

Note that if the market interest rate was lower than the statedinterest rate on the note, the note would not be increased toan amount in excess of its carrying amount of $8,850.

104

1. The estimated fair value of an incentive at the date of sale equals the present value ofthe nominal amount discounted at the market interest rate on the note.

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Computation of Sales ValueStated sales price $10,000

Subtractions:Discount to state receivable at present value (386)Fair value of incentives in excess of amount paid by buyer:

Exchange company fee (104)Owners association assessments (283)

Additions:Document preparation fee 125

Sales value $ 9,352

Computation of Buyer’s Initial InvestmentDown payment $1,000Loan origination fee 150Document preparation fee 125

Buyer’s initial investment $1,275

Proof of buyer’s initial investment:Sales value $9,352Plus: incentives

Exchange company fee 104Owners association assessments 283

Less: seller’s net investment in note receivable (8,464)Buyer’s initial investment $1,275

Adequacy of Buyer’s Initial InvestmentThe seller first considers whether the buyer’s initial invest-ment needs to be allocated between the interval and the in-centives. In this case, the initial investment does not needto be allocated, because the buyer must make six monthlypayments to receive the incentives. The six monthly pay-ments total $896, which is more than enough to pay for thefair value of the incentives ($387) plus interest (see para-graph 25 of this SOP). Accordingly, the entire initial invest-ment of $1,275 is allocated to the interval.

If the buyer did not need to make any monthly paymentsto receive the incentives, then the initial investment would

105

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be allocated first to the incentives ($387) and the remain-der ($888) to the interval.

The adequacy of the buyer’s initial investment would thenbe determined in accordance with paragraph 5(b) of Finan-cial Accounting Standards Board (FASB) Statement of Fi-nancial Accounting Standards No. 66, Accounting for Salesof Real Estate.

Note that, consistent with FASB Statement No. 91, Accountingfor Nonrefundable Fees and Costs Associated with Originat-ing or Acquiring Loans and Initial Direct Costs of Leases, thecomputation of sales value and buyer’s initial investment is ex-actly the same as if the buyer provided the seller a note with aface amount of $8,850, requiring 84 monthly payments of$149.41 with an effective interest rate of 10.54 percent, a re-quired down payment of $1,150, and no loan origination fee.

Illustrative Journal EntriesAt date of sale:

Dr. Cash $1,275Note receivable 8,464

Cr. Revenue from sale of interval $9,352Liability for incentives 387

To record sale of interval and liability to provide incentivesat end of six months.

Month 1:

Dr. Cash $149Cr. Note receivable $64

Interest income 85Dr. Interest expense 4

Cr. Liability for incentives 4

To record accrual of interest income on note receivable, in-terest expense on liability for incentive, and collection onnote receivable.

Months 2 through 6:

Dr. Cash $ 747Cr. Note receivable $ 334

Interest income 413

106

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Dr. Interest expense 19Cr. Liability for incentives 19

To record accruals of interest income on note receivable,interest expense on liability for incentive, and collectionson note receivable.

End of Month 6:

Dr. Liability for incentives $ 410Cr. Cash $ 410

To record seller’s payment of exchange company fee andowners association assessments.

Example 2

AssumptionsSame as Example 1 except that market interest rate onnote is 9 percent.

Present-Value ComputationPresent value of 84 monthly installments of $149.41 at market discount rate of 9% $ 9,286

Because the market interest rate is lower than the effectiveinterest rate on the note, the note is not increased to anamount in excess of the seller’s carrying amount of $8,850.

Computation of Sales ValueStated sales price $ 10,000

Subtractions:Fair value of incentives in excess of amount paid by buyer:2

Exchange company fee (105)Owners association assessments (287)

Additions:Document preparation fee 125

Sales value $9,733

107

2. The estimated fair value of an incentive at the date of sale equals the present value ofthe nominal amount discounted at the market interest rate on the note.

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Computation of Buyer’s Initial Investment

Down payment $1,000Loan origination fee 150Document preparation fee 125

Buyer’s initial investment $1,275

Proof of buyer’s initial investment:Sales value $9,733Plus: incentives

Exchange company fee 105Owners association assessments 287

Less: carrying amount of seller’s note receivable (8,850)Buyer’s initial investment $1,275

Adequacy of Buyer’s Initial Investment

The seller first considers whether the buyer’s initial invest-ment needs to be allocated between the interval and the in-centives. In this case, the initial investment does not needto be allocated, because the buyer must make six monthlypayments to receive the incentives. The six monthly pay-ments total $896, which is more than enough to pay for thefair value of the incentives ($392) plus interest (see para-graph 25 of this SOP). Accordingly, the entire initial invest-ment of $1,275 is allocated to the interval.

If the buyer did not need to make any monthly paymentsto receive the incentives, then the initial investment wouldbe allocated first to the incentives ($392) and the remain-der ($883) to the interval.

The adequacy of the buyer’s initial investment would thenbe determined in accordance with paragraph 5(b) of FASBStatement No. 66.

Note that, consistent with FASB Statement No. 91, thecomputation of sales value and buyer’s initial investment isexactly the same as if the buyer provided the seller a notewith a face amount of $8,850, requiring 84 monthly pay-ments of $149.41 with an effective interest rate of 10.54percent, a required down payment of $1,150, and no loanorigination fee.

108

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Example 3

AssumptionsSame as Example 2 except that seller does not charge adocument preparation fee.

Present-Value ComputationPresent value of 84 monthly installments of market discount rate of 9% $ 149.41 at $9,286

Because the market interest rate is lower than the effectiveinterest rate on the note, the note is not increased to anamount in excess of the seller’s carrying amount of $8,850.

Computation of Sales ValueStated sales price $ 10,000

Subtractions:Fair value of incentives in excess of amountpaid by buyer:3

Exchange company fee (105)Owners association assessments (287)

Sales value $ 9,608

Computation of Buyer’s Initial InvestmentDown payment $1,000Loan origination fee 150

Buyer’s initial investment $1,150

Proof of buyer’s initial investment:Sales value $9,608Plus: incentives

Exchange company fee 105Owners association assessments 287

Less: carrying amount of seller’s note receivable (8,850)Buyer’s initial investment $1,150

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3. The estimated fair value of an incentive at the date of sale equals the present value ofthe nominal amount discounted at the market interest rate on the note.

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Adequacy of Buyer’s Initial InvestmentThe seller first considers whether the buyer’s initial invest-ment needs to be allocated between the interval and the in-centives. In this case, the initial investment does not needto be allocated, because the buyer must make six monthlypayments to receive the incentives. The six monthly pay-ments total $896, which is more than enough to pay for thefair value of the incentives ($392) plus interest (see para-graph 25 of this SOP). Accordingly, the entire initial invest-ment of $1,150 is allocated to the interval.

If the buyer did not need to make any monthly paymentsto receive the incentives, then the initial investment wouldbe allocated first to the incentives ($392) and the remain-der ($758) to the interval.

The adequacy of the buyer’s initial investment would thenbe determined in accordance with paragraph 5(b) of FASBStatement No. 66.

Note that, consistent with FASB Statement No. 91, thecomputation of sales value and buyer’s initial investment isexactly the same as if the buyer provided the seller a notewith a face amount of $8,850, requiring 84 monthly pay-ments of $149.41 with an effective interest rate of 10.54percent, a required down payment of $1,150, and no loanorigination fee.

Example 4

AssumptionsSame as Example 2 except that seller charges no loan orig-ination fee. Therefore, effective interest rate on note equalsthe stated rate of 10 percent.

Present-Value ComputationPresent value of 84 monthly installments of $149.41 atmarket discount rate of 9% $ 9,286

Because the market interest rate is lower than the effectiveinterest rate on the note, the note is not increased to anamount in excess of the seller’s carrying amount of $9,000.

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Computation of Sales ValueStated sales price $ 10,000

Subtractions:Fair value of incentives in excess of amount paid by buyer:4

Exchange company fee (105)Owners association assessments (287)

Additions:Document preparation fee 125

Sales value $ 9,733

Computation of Buyer’s Initial InvestmentDown payment $1,000Document preparation fee 125

Buyer’s initial investment $1,125

Proof of buyer’s initial investment:Sales value $9,733Plus: incentives

Exchange company fee 105Owners association assessments 287

Less: carrying amount of seller’s note receivable (9,000)Buyer’s initial investment $1,125

Adequacy of Buyer’s Initial InvestmentThe seller first considers whether the buyer’s initial invest-ment needs to be allocated between the interval and the in-centives. In this case, the initial investment does not needto be allocated, because the buyer must make six monthlypayments to receive the incentives. The six monthly pay-ments total $896, which is more than enough to pay for thefair value of the incentives ($392) plus interest (see para-graph 25 of this SOP). Accordingly, the entire initial invest-ment of $1,125 is allocated to the interval.

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4. The estimated fair value of an incentive at the date of sale equals the present value ofthe nominal amount discounted at the market interest rate on the note.

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If the buyer did not need to make any monthly paymentsto receive the incentives, then the initial investment wouldbe allocated first to the incentives ($392) and the remain-der ($733) to the interval.

The adequacy of the buyer’s initial investment would thenbe determined in accordance with paragraph 5(b) of FASBStatement No. 66.

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GLOSSARY

aaffffiinniittyy pprrooggrraamm.. See vacation club.

aammeenniittiieess.. Features that enhance the attractiveness or perceived valueof a time-sharing interval. Examples of amenities include golf courses,clubhouses, swimming pools, tennis courts, indoor recreational facili-ties, and parking facilities. See also planned amenities and promisedamenities.

aassssuummppttiioonn.. The substitution of one debtor for another, whereby thesecond debtor agrees to assume the debt obligation of the originaldebtor.

ccoommmmoonn ccoossttss.. Costs that relate to two or more phases within a time-sharing project.

ccoonnttiinnuuiinngg iinnvveessttmmeennttss.. The sum of the buyer’s payments to date(down payment, fees retained by the seller, and principal payments sub-sequent to the down payment) towards the purchase of a time-sharinginterval. Payments of interest are excluded.

ccoonnttiinnuuiinngg iinnvvoollvveemmeenntt.. A situation in which the seller has not trans-ferred substantially all of the benefits and risks incident to the owner-ship of real estate. Benefits include but are not limited to the right tooccupy the property, the transferability of the time-sharing intervalwithout restrictions from the seller, the right to insurance proceeds andcondemnation awards, the right to participate in making decisions re-garding management of the property, the control over rental of thetime-sharing interval, and the right to any increase in the value of thetime-sharing interval. Risks include but are not limited to the responsi-bility for payment of applicable taxes, repairs, utilities, maintenance,insurance, and improvements; the responsibility for management of theproperty; legal liabilities; setting aside of replacement reserves; casualtylosses; and exposure to any decrease in the value of the time-sharing in-terval. In time-sharing transactions, it is common for certain of the ben-efits and risks to be transferred to an owners association or similarentity that acts on behalf of the owners of time-sharing intervals. SeeAppendix C, “Continuing Involvement,” of this Statement of Position.

ccoonnttrraacctt--ffoorr--ddeeeedd.. A purchase contract by which the seller agrees at somefuture point, when the purchaser has paid a specified portion of the priceof the time-sharing interval, to convey title to the purchaser. The transferof title may not be dependent on other factors or contingencies.

ddeeffeerrmmeenntt.. The postponement of some or all of a debtor’s paymentobligations.

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ddeeppoossiitt mmeetthhoodd.. A method of accounting for time-sharing transactionsunder which cash received from the buyer is reported as a deposit andshown as a liability in the seller’s balance sheet.

ddoowwnnggrraaddee.. A transaction under which, as a result of credit concerns,the holder of a time-sharing interval returns the interval to the seller inexchange for a lower-valued interval (and a corresponding reduction incontractual payment obligation). The determination of whether thevalue is lower is based on a comparison of the sales value of the new in-terval with the original sales value of the original interval.

eexxcchhaannggee.. The trading, by a purchaser of a time-sharing interval, of thattime-sharing interval for a given year for another time interval, anotherlocation, or another kind of privilege of ownership. Such trading is ofteneffected through the buyer’s membership in an exchange company.Many developers also offer an internal exchange program. Buyers typi-cally pay a fee for exchange privileges.

ffiixxeedd ttiimmee.. A time-sharing arrangement in which ownership is passedthrough a deed and the buyer purchases a specific period (generally, aspecific week) during the year.

ffllooaattiinngg ttiimmee.. A time-sharing arrangement in which ownership is passedthrough a deed but the buyer is not limited to a specific period (gener-ally, a specific week) during the year.

ffrraaccttiioonnaall iinntteerreesstt.. A partial ownership interest in real estate that typi-cally includes larger blocks of time on an annual basis (for example,three weeks or more).

ffuullll aaccccrruuaall mmeetthhoodd.. A method of recognizing profit for time-sharingtransactions under which profit is recognized in full provided the ap-plicable criteria in Financial Accounting Standards Board (FASB) State-ment of Financial Accounting Standards No. 66, Accounting for Sales ofReal Estate, are met. Those conditions may be met at the time a time-share is sold or at some later date.

hhoollddiinngg ppeerriioodd.. The period during which a time-sharing interval is heldfor sale. Sellers may offer time-sharing units for rent during such hold-ing periods.

iinncceennttiivvee.. A product or service that the seller of a time-sharing intervalprovides to the buyer for stated compensation (often, for no compensa-tion) that is less than the fair value of that product or service. See alsoinducement.

iinncciiddeennttaall ooppeerraattiioonnss.. Revenue-producing activities, such as rentals,engaged in during the holding or development period to reduce the costof holding or developing the property for use as time-sharing units, as

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distinguished from activities designed to generate a profit or returnfrom the use of the property.

iinnddeeppeennddeenntt tthhiirrdd ppaarrttyy.. A party unrelated to the seller of a time-sharing interval.

iinndduucceemmeenntt.. A product or service that a time-share seller provides to apotential buyer for stated compensation (often, no compensation) thatis less than the fair value of that product or service. A typical example ofan inducement is a complementary stay at a time-share resort in ex-change for the potential buyer’s agreement to take a guided tour of theresort. The difference between an inducement and an incentive is theconditions for receipt and the timing of the offer. An inducement is of-fered to potential buyers regardless of whether a consummated sale oc-curs, whereas an incentive is typically offered at the point of sale and isprovided only to buyers of time-sharing intervals.

iinntteerrvvaall.. The specific period (generally, a specific week) during the yearthat a time-sharing unit is specified by agreement to be available for oc-cupancy by a particular customer. Also denoted time-sharing interestor time-share.

mmiinnii--vvaaccaattiioonn.. A marketing program under which a time-share developeroffers, for a fee, a short (typically, two to three days) visit to a destinationwhere the developer operates a project. The developer typically subsi-dizes the fee to the customer for the mini-vacation in exchange for thecustomer attending a sales presentation at the project. The mini-vacationmay include room accommodations, entertainment tickets, and similaritems of value. The customer typically accepts the offer of the fee sub-sidy in exchange for his or her attending the sales presentation.

mmooddiiffiiccaattiioonn.. A change in the terms of the financing agreement be-tween buyer and seller, typically to accommodate a situation in whichthe buyer is unable to meet his or her original contractual paymentobligations.

ootthheerr tthhaann rreettaaiill llaanndd ssaalleess ((OOTTRRLLSS)).. Refers to other-than-retail-land-sales transactions as discussed in FASB Statement No. 66.

oowwnneerrss aassssoocciiaattiioonn ((OOAA)).. A body of owners formed to administer therules and regulations of a time-sharing project. Also denoted homeownersassociation (HOA), interval owners association (IOA), property ownersassociation (POA), or vacation owners association (VOA).

ppeerrcceennttaaggee--ooff--ccoommpplleettiioonn mmeetthhoodd.. A method of recognizing profit fortime-sharing transactions under which the amount of revenue recog-nized (based on the sales value) at the time a sale is recognized is mea-sured by the relationship of costs already incurred to the total of costsalready incurred and future costs expected to be incurred.

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pphhaassee.. A contractually or physically distinguishable portion of a time-sharing project. That portion is distinguishable from other portionsbased on shared characteristics such as (1) units a developer has de-clared or legally registered to be for sale, (2) units linked to an ownersassociation, (3) units to be constructed during a particular time period,or (4) how a developer plans to build the time-sharing project.

ppllaannnneedd aammeenniittiieess.. Amenities that a developer is planning to constructbut is not obligated to construct under the terms of time-sharing con-tracts with purchasers. See also amenities and promised amenities.

ppooiinnttss.. Purchased vacation credits that a buyer may redeem for occu-pancy at various sites. The number of points redeemed depends on suchfactors as unit type and size, site location, and season.

pprroojjeecctt.. A time-sharing development; some projects may be completedin a single phase, such as a single, one-story building containing severaltime-sharing units. Other projects may be completed in several phases,for example (1) a hotel that is being converted to time-sharing units onefloor at a time while the unconverted units continue to be rented or (2)a number of buildings, each containing several time-sharing units, beingbuilt on a piece of property over an extended period of time.

pprroommiisseedd aammeenniittiieess.. Amenities that a developer is obligated to con-struct under the terms of time-sharing contracts with purchasers. Seealso amenities and planned amenities.

rreeaall eessttaattee ttiimmee--sshhaarriinngg.. See time-sharing.

rreeccoouurrssee.. The right of a transferee of receivables to receive paymentfrom the transferor of those receivables for (1) failure of debtors to paywhen due, (2) the effects of prepayments, or (3) adjustments resultingfrom defects in the eligibility of the transferred receivables.

rreellaattiivvee ssaalleess vvaalluuee mmeetthhoodd.. A method of allocating inventory cost anddetermining cost of sales in conjunction with a time-sharing sale. Cost ofsales is calculated as a percentage of net sales by applying a cost-of-salespercentage, determined as the ratio of total estimated inventory cost (in-cluding costs to complete, if any) to total estimated time-sharing revenueto be collected from sales of the inventory. The inventory balance re-ported in the balance sheet is considered to be a pool of costs that will becharged against future revenue.

rreellooaadd.. A time-sharing transaction whereby a customer obtains a sec-ond time-sharing interval from the same seller but does not relinquishthe right to the first—for example, obtaining an additional unit, an ad-ditional interval, or additional points (see vacation club).

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rreesscciissssiioonn.. Statutory right of the buyer to cancel a sales contract withina certain defined time period and obtain a return of all considerationpaid to the seller.

rriigghhtt--ttoo--uussee ((RRTTUU)).. A time-sharing arrangement in which the ownershipof the real estate remains with the seller.

ssaalleess vvaalluuee.. A calculated amount that approximates the amount atwhich a time-sharing interval would be sold in an all-cash sale, withoutfinancing or incentives. Sales value is determined by adjusting thestated sales price to add or subtract the following amounts:

1. Subtracting from the stated sales price a discount to reduce the re-ceivable to its present value using an appropriate interest rate notless than the rate stated in the note. The objective is to value thenote at an amount not greater than the amount at which it could besold without recourse by the seller at the date of the sales contract.

2. Adding to the stated sales price any fees paid by the buyer to theseller that are unrelated to financing—for example, sales docu-ment preparation fees—to consummate a sales transaction.

3. Subtracting from the stated sales price the excess of the fair valueof incentives provided to the buyer over the stated amount thebuyer pays for the incentives.

4. Subtracting from the stated sales price the excess of the fair valueof services provided by the seller over the stated amount the buyerpays for the services. If similar services are provided by entitiesother than the seller, the fair value of the services should be deter-mined as the prevailing market rates for such services.

ssaammpplleerr pprrooggrraamm.. A marketing program under which a time-share de-veloper offers a customer, who has previously toured one of the devel-oper’s projects, a stay at one of the projects at a reduced rate. Inexchange, the customer agrees to take another, subsequent tour of theproject selected under the sampler program during the customer’s stayat that project. If the subsequent tour results in a sale, the developermay allow the customer to apply some or all of the amount paid for thesampler toward the purchase of a time-share, as a part of the down pay-ment. Also referred to as exit program.

sseelllleerr ssuubbssiiddyy.. An amount that a seller pays to an owners association tocover net losses that may be incurred by the association.

ssppeecciiaall--ppuurrppoossee eennttiittyy.. See time-sharing special-purpose entity.

tteennaannccyy--ffoorr--yyeeaarrss.. A time-sharing arrangement in which a customer hasa qualified right to possession and use of a time-sharing interval for acertain number of years, after which it reverts to the seller or a thirdparty. Also known as estate-for-years or term-for-years.

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ttiimmee--sshhaarree.. See interval.

ttiimmee--sshhaarriinngg.. An arrangement in which a seller sells or conveys theright to occupy a dwelling unit for specified periods in the future. Formsof time-sharing arrangements covered by this SOP include but are notlimited to fixed and floating time, interval ownership, uunnddiivviiddeedd iinntteerr--eessttss, points programs, vacation clubs, right-to-use arrangements such astteennaannccyy--ffoorr--yyeeaarrss arrangements, and arrangements involving special-purpose entities.

ttiimmee--sshhaarriinngg iinntteerreesstt.. See interval.

ttiimmee--sshhaarriinngg ssppeecciiaall--ppuurrppoossee eennttiittyy ((SSPPEE)).. An entity, typically a cor-poration or a trust, to which a seller transfers time-sharing real estatein exchange for the entity’s stock, membership interests, or beneficialinterests.

uunnccoolllleeccttiibbiilliittyy.. A situation in which, as a result of credit issues, (1) thetime-share seller is unable to collect all amounts due (both principaland interest) according to the contractual terms of a note receivablefrom a buyer, or (2) a time-share receivable has not been written off butfacts and circumstances indicate that it is probable1 that the seller willnot collect all contractual payments. Any sale that, as a result of creditissues, is canceled or modified subsequent to being recorded as a sale isconsidered uncollectible.

uunnddiivviiddeedd iinntteerreesstt ((UUDDII)).. A time-sharing arrangement that involves atenant-in-common interest in a condominium unit or entire improvedproperty, and in which the interest holder is assigned a specific period(generally, a specific week). The interest holder is also assigned a spe-cific unit if the undivided interest is in the entire improved property.

uunniitt.. The physical space in a time-sharing project that a customer isspecified by agreement to occupy for a specific time interval (generally,a specific week) during the year.

uuppggrraaddee.. A time-sharing transaction whereby a customer relinquishesthe right to a currently held time-sharing interval and obtains a higher-priced time-sharing interval from the same seller.

vvaaccaattiioonn cclluubb.. A time-sharing arrangement whereby a buyer receivesthe right to use accommodations at all resorts belonging to the club.Membership may include a priority reservation right to the member’shome resort. Other typical attributes include finite term of member-ship; use of points to obtain accommodations or other benefits; the priv-

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1. Probable is defined in Financial Accounting Standards Board (FASB) Statement of Fi-nancial Accounting Standards No. 5, Accounting for Contingencies, as “likely to occur”and is used in the same sense in this definition.

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ilege of being able to use different kinds of lodging, such as time-sharingunits, condominiums, hotels, and campgrounds; the privilege of beingable to exchange one’s yearly interval for cruises, hotel stays, airlinetickets, or car rentals; and benefits other than lodging, such as travelservices, hotel discounts, golf packages, or health club memberships.May also be termed affinity program.

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Accounting Standards Executive Committee(2002–2003)

Mark V. Sever, Chair Andrew M. MintzerMark M. Bielstein Richard H. MoseleyVal R. Bitton Benjamin S. NeuhausenLawrence N. Dodyk Coleman D. RossKarin A. French Ashwinpaul C. SondhiJames A. Koepke Mary S. StoneRobert J. Laux Brent A. WoodfordFrancis T. McGettigan

AICPA Staff

Daniel J. Noll Marc T. SimonDirector Technical ManagerAccounting Standards Accounting Standards

Time-Sharing Task Force

Benjamin S. Neuhausen, Chair Leon F. MayshakR. Jeffrey Davis Paula Morabito Thomas M. Herzog

The Time-Sharing Task Force and staff gratefully acknowledgethe contributions made to the development of this Statement ofPosition by Paul Andrews, Matthew E. Avril, James H. Brant, CarlW. Daugherty, Maria K. Davis, Nancy L. Hennessey, and Jack A.Kramer.

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