A software arrangement may stipulate that the term of the PCS arrangement commences at a date later than delivery of the software. For example, the PCS term may not begin until installation of the software is complete or until a general warranty period has expired. Upon commencement of the contractual PCS term, generally the customer is entitled to receive upgrades/enhancements that were released by the vendor, if any, during the period between delivery and commencement of the contractual PCS term. In those situations, 97-2 specifies that an implied PCS arrangement exists that commences upon product delivery.
If the criteria for recognition of PCS revenue upon delivery of the software contained in 97-2 are not met, the vendor would allocate a portion of the fee to the implied PCS arrangement (i.e., the period from delivery of the software to the commencement of the contractual PCS term) based on VSOE of fair value of the elements. VSOE of fair value for the implied PCS arrangement may be derived, on a pro rata bases, from the VSOE of fair value of the contractual PCS arrangement.
Example - ABC Corp. enters into an arrangement with Customer to deliver Product A and to provide PCS for a period of one year for a nonrefundable fee of $100,000. However, the one-year PCS term commences upon expiration of a general warranty period which ends six months after delivery of Product A. Upon commencement of the PCS arrangement, Customer is entitled to receive any upgrades/enhancements released by ABC during the general warranty period. The VSOE of fair value for annual PCS for Product A is $20,000. Because Product A is never sold without PCS, VSOE of fair value does not exist for Product A.
The arrangement fee would be allocated to the elements using the residual method as follows:
- VSOE of fair value for 12-month PCS - $20,000
Implied PCS Period - 6 months
VSOE of fair value for 18-months PCS ($20,000 x 18/12 months) - $30,000
| Total arrangement fee | $100,000 |
| PCS | $(30,000) |
| Residual, allocated to Product A | $70,000 |
Assuming that all the other revenue recognition criteria of 97-2 are met, the revenue allocated to Product A would be recognized upon delivery of the software. The revenue allocated to PCS would be recognized ratably over the 18-month PCS period (i.e., the 6-month implied PCS period plus the 12-month contractual PCS period).
