Accounting Rule Change May Affect Apple's Future Earnings Reports

Silicon Alley Insider reports that a change to accounting standards that received preliminary approval last week may alter the way Apple treats revenue from the iPhone and Apple TV. The issue relates to Apple's policy of recognizing revenue from the iPhone and Apple TV over a two-year period from the date of purchase, a policy developed to satisfy accounting regulations as Apple provides free feature additions and software updates to the devices beyond the initial purchase.

Consequently, Apple has instituted a policy of releasing two sets of earnings numbers each quarter, one official set using Generally Accepted Accounting Principles (GAAP) that parcels out iPhone and Apple TV revenue, and one set of non-GAAP numbers that includes all revenue as recorded on the date of purchase. For example, at its most recent quarterly earnings announcement, Apple reported official GAAP earnings of $1.23 billion on $8.34 billion in revenue, while the company's non-GAAP earnings came in at $1.94 billion on $9.74 billion in revenue.

The Emerging Issues Task Force of the Financial Accounting Standards Board has issued preliminary approval of a policy change that would allow Apple to officially recognize most of the revenue from iPhone and Apple TV sales at the time of purchase, setting aside only a small portion of the revenue deemed to be the value of future software upgrades for future recognition.

In a report last week, Credit Suisse describes an accounting rule change that may eventually allow Apple to book most iPhone revenue upfront. Doing so would not change the company's cash flow, so there would be no actual change in the theoretical value of the company or stock.

But the change would cause Wall Street analysts to jack up their earnings estimates, and it would significantly boost the company's reported earnings. This would make Apple's stock look much cheaper to unsophisticated investors. It might also, therefore, act as a catalyst for the stock.

The report notes that the rule change would affect only future sales, meaning that as Apple transitions to the new standard, its earnings would be somewhat inflated as the company recognized full revenue from new iPhone and Apple TV sales while still recording deferred revenue from sales in previous quarters made under the old standard.