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Deferred Delivery of Product Accounting

Hello and thank you in advance for your responses. Our company delivers our main product to customers, and invoices upon shipping. We offer a professional service that we defer recognizing PS revenue until the service has been completed. We have an add'l hardware component (i.e., attachable computer camera) that is often not shipped until someone from our professional service team is going to the customer site (to prevent being misplaced or damaged prior to PS person coming on site). So far, about 80% of the time, we do not charge for this component but we are starting to charge for it more regularly. Our main product can be used without the component; the component adds additional functionality. We invoice for all items (main product, HW component, and PS) at the same time (upon shipping).

The problem we're experiencing is that when we sell the add'l HW component, the creation of the invoice lowers our inventory asset. In most cases, our PS team goes to the customer site months later. Therefore, at month-end, our physical inventories don't match our accounting system records. What would be the JEs we need to make to address the deferred delivery of the HW component? We would like to use industry standard naming conventions to identify assets that have been sold but are going to be shipped later.

Thank you very much!

Answers

Romin Nabiey, CPA
Title: Corporate Controller
Company: GoodRx
(Corporate Controller, GoodRx) |

The key question is, when does title and risk of loss transfer? Upon sale, or shipping? This will likely dictate whether you should be recording the liability or not. If risk transfers upon sale, then you should record to an Other Liability account ("Accrued Inventory Costs") that is relieved upon actual shipping of the product.

Anonymous
(VP, Finance & HR) |

Technically the sale and shipping happen at the same time. What would this JE look like?

Romin Nabiey, CPA
Title: Corporate Controller
Company: GoodRx
(Corporate Controller, GoodRx) |

Creation of invoice:
Dr AR
Cr. Accrued Inv Cost

Shipping of product:
Dr. Accrued Inv Cost
Cr. Inventory

Think of this Accrued Inventory Costs account as a form of a "suspense account" that considers the unshipped inventory a liability until it is transferred to the customer, at which point you are relieved of the liability.

Anonymous
(VP, Finance & HR) |

Thanks so much!

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

I am not too "sold" on this....

On the surface (I have gnot gone deeper)..

1. Entries does not take into account " margins" . (Unless of course you are selling at cost). The DR to AR and CR to Accrued Inv Cost will get things out of whack.
2. If and when the customer pays the invoice before the service personnel goes, company needs to recognize the liability. They have paid for something they have not received.

The problem lies in the process (inventory/warehousing/delivery) NOT the entries. Correcting it with entries is just a bandaid. Not sure about your process but usually, the Deliver Receipt takes out the unit from inventory...not the invoice.

Len Green
Title: Performance Improvement Consultant and E..
Company: Haygarth Consulting LLC
LinkedIn Profile
(Performance Improvement Consultant and ERP Strategist, Haygarth Consulting LLC) |

Here's my take on this:
Assumptions:
1. For product, title+risk pass at time of shipping
2. You already defer PS revenue until completion of service obligation-no need to discuss further.
3. If you bundle the component with another product and/or the service, I believe you need to break out the bundled price. E.g. if component =$100, and the other product is $800, but you sell both for $800, then your real split is 100x (100/900) for the component = $88.89 and 800x(800/900) for the other product=$711.11
4. Assume component has a landed cost of $50.00

So, when you ship the component:
AR Invoice:
1. Dr AR Cr Deferred Rev 88.89
2. Dr Deferred COGS* Cr Inventory $50.00 (cost of component)-this is the entry that relieves FG inventory but does not hit COGS yet.
You now have both deferred Rev and COGS for the component. You also have your inventory and GL in sync.
* you used Accrued Inv Cost above, I think it's a COGS deferral, not an accrual.

When the revenue recognition event occurs
1. Dr Deferred Rev Cr Revenue 88.89
2. Dr COGS Cr Deferred COGS $50.00 (cost of component)
Your P/L now reflects the earned margin on the component.

Thoughts anyone?

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

Len.

Per poster - "The problem we're experiencing is that when we sell the add'l HW component, the creation of the invoice lowers our inventory asset."

I agree with your 3 assumptions (and corresponding recommended entries),,,,,but it does NOT solve the problem. Their problem is actually taking the units out of inventory at invoice date. The invoice should just be a "tag" (don't have the right word right now) on the inventory numbers and actual taking out from inventory are DRs.

Or maybe I am missing something?

Len Green
Title: Performance Improvement Consultant and E..
Company: Haygarth Consulting LLC
LinkedIn Profile
(Performance Improvement Consultant and ERP Strategist, Haygarth Consulting LLC) |

The problem stated is actually not a problem:) - at least that's what I see.

If you "lose ownership" at shipping then you must reduce inventory. What my accounting entries do is move both the invoiced revenue and COGS to deferred accounts until the component is installed, then you move both to the P/L. No problem, as they say.

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

Yeah...but they have not shipped.

"...that is often not shipped until someone from our professional service team is going to the customer site (to prevent being misplaced or damaged prior to PS person coming on site). "

Whether they defer or not, and as I said in my initial response, it is procedural/system problem....not an accounting one. Reasons for adjustments to inventory are limited (ie obsolescence, normal shrinkage,etc) and most through a loss account.

Len Green
Title: Performance Improvement Consultant and E..
Company: Haygarth Consulting LLC
LinkedIn Profile
(Performance Improvement Consultant and ERP Strategist, Haygarth Consulting LLC) |

Hi Emerson
Logistically, I would pick the item from its bin location in my warehouse (because it has been allocated to the sales order/invoice) and place it in a separate bin, say call it "Customer orders awaiting onsite tech". So when the tech calls for it to be sent to the client site, we simply deliver it from that bin. If the item is serialized I would imagine we want to make sure we separate the items.
Would that work?

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

Len,

Solutions can be system centered or physical (as you suggested). In my initial response, I mentioned the system earmarking the items (so it cannot be sold) at point of invoice and only taken out of inventory (numbers via the DR). Physical segregation will work as well.

I still have problems about the time lag between invoicing and delivery as it may create other problems aside from inventory numbers.

Topic Expert
Wayne Spivak
Title: President & CFO
Company: SBAConsulting.com
LinkedIn Profile
(President & CFO, SBAConsulting.com) |

Emerson -

How about (unless you use Len's type of suggestion) a Net Income which is higher than it should be, and then lower than it should be based on timing between invoicing and recording the CGS.

I find that very problematic, from both a management perspective and tax/creditor pov.

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

Needs to be emphasized that there is a difference between inventory ($$ asset in the books) and actual units you can account (reconcile) for. I believe rhat in this case, reconciliation is the missing part. The latter may include what Len has suggested (segregation) and along with recognizing the liability to the customer (if not deferred).

Whatever the company decides on the treatment of the advance sale, the foundational concepts of inventory and ownership should still apply.

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