Using the Residual Method of Revenue Recognition

When a transaction includes an item with a vendor-specific objective evidence (VSOE) price that differs from its sales amount, VSOE prices are allocated to all items in the bundle. The allocation process uses the total sales amount of the transaction to assign a VSOE price to the bundle. The VSOE price allocated is the amount that is eventually recognized based on VSOE rules.

When VSOE prices are not known for one or more items in a bundle, the VSOE allocation may be determined if the bundle qualifies for the Residual Method of revenue recognition using SOP 98-9. SOP 98-9 amends part of SOP 97-2 and requires the recognition of revenue using the residual method in some circumstances.

The Residual Method can be used to determine the VSOE allocation for items if a bundle meets these conditions:

• All undelivered items have a VSOE price.

• One or more delivered items do not have a VSOE price.

• The total VSOE amount for undelivered bundle items is less than the total sales amount of the bundle.

For more information about using the residual method, see:

• Residual Method Calculation

• Discounts and the Residual Method

• Residual Method Examples

Residual Method Calculation

Using the residual method, the vendor-specific objective evidence (VSOE) allocation is calculated based on the fact that the total sales price of an item group must always equal the total VSOE allocation.

The formula used to calculate VSOE Allocation using the Residual Method is:

(total invoice amount of bundle - VSOE prices of undelivered items)

= amount to apply to delivered items lacking a VSOE Price in proportion to their invoice prices

When the total VSOE amount of a sale is known, NetSuite can calculate the VSOE value for qualifying individual items.

For example, you sell the following VSOE bundle:

Bundle Members	Invoice price	VSOE price	VSOE Allocation	Delivered
Software Product 099	$10,000	unknown	unknown	Yes
Professional Services (100 hours)	8,000	$10,000	unknown	No
Maintenance, 1 year	2,000	2000	unknown	No
Total	$20,000	unknown	$20,000

The total sales amount of this transaction equals $20,000. Therefore, using the residual method, the VSOE allocation must equal $20,000 also.

When you apply the formula above, VSOE is calculated as follows:

total invoice amount of bundle ($20,000) - VSOE prices of undelivered items ($12,000)

= amount to apply ($8000)

Undelivered items have the same VSOE allocation as their VSOE price and the remaining amount of $8,000 becomes the VSOE allocation for the delivered software product, as follows:

Bundle Members	Invoice price	VSOE price	VSOE Allocation	Delivered
Software Product 099	$10,000	unknown	$8000	Yes
Professional Services (100 hours)	8,000	$10,000	10,000	No
Maintenance, 1 year	2,000	2000	2,000	No
Total	$20,000	unknown	$20,000

If the bundle contains multiple items marked Delivered, the remainder is allocated proportionately to those items based on their sales prices.

Discounts and the Residual Method

When a discount is applied to a bundle, the discount may only be allocated to the delivered items in that bundle. Each delivered item must have an invoice price in order determine the allocation of the discount.

The Never flag can be used to prevent the allocation of discount to delivered items in the case of a specified upgrade. If the Permit Discount field on an item record is set to Never, then discounts are not applied to the item. For more information, read Setting Up VSOE on an Item Record.

Note:

If a bundle includes both undelivered and delivered items and all delivered items have a Permit Discount setting of Never, the auto-calculation of VSOE allocation is not performed.

Residual Method Examples

The following examples illustrate the use of the residual method of revenue recognition to determine the vendor-specific objective evidence (VSOE) allocation.

In the example below, the VSOE allocation is deferred for all items until the specified item is delivered. The items that are undelivered have a VSOE allocation equal to their VSOE price. The residual amount of $2000 becomes the VSOE allocation for the delivered product.

Item	Invoice price	VSOE Price	VSOE Allocation	Delivered	Deferral
Installation Service 202	$1500	$1000	$1000	No	Defer Bundle Until Delivered
Software Product 101	1500	2000	2000	Yes	Defer Until Item Delivered
Software Product 103	2500	not assigned	2500	Yes	Defer Until Item Delivered
Total	$5500		$5500

NetSuite does not allocate the VSOE price any items, pending the delivery of the Installation Service 202 item, which is marked Defer Bundle Until Delivered. When Installation Service 202 is delivered, VSOE prices are allocated based on residual method calculations.

In the next example, a residual amount is allocated between more than one delivered item:

Item	Invoice price	VSOE Price	VSOE Allocation	Calculation	Delivered	Deferral
Installation Service 202	$1500	$1000	$1000.00	VSOE price =VSOE allocation	Yes	Defer Until Item Delivered
Software Product 101	1500	not assigned	1687.50	4500 x (1500/4000) = 1687.50	Yes	Defer Until Item Delivered
Software Product 103	2500	not assigned	2812.50	4500 x (2500/4000) = 2812.50	Yes	Defer Until Item Delivered
Total	$5500		$5500			Defer Until Item Delivered

In the next example, the residual amount is allocated between multiple delivered items for a bundle discounted 10%. None of the discount is applied to the undelivered item.

Item	Invoice price	VSOE Price	VSOE Allocation	Calculation	Delivered	Deferral
Installation Service 202	$1500	$1000	$1000.00	VSOE price =VSOE allocation	No	Defer Until Item Delivered
Software Product 101	1500	not assigned	1481.25	=1500/(1500+2500) x (4950-1000)	Yes	Defer Until Item Delivered
Software Product 103	2500	not assigned	2468.75	=2500/(1500+2500) x (4950-1000)	Yes	Defer Until Item Delivered
Subtotal	$5500
10% Discount	(550)
Total	$4950		$4950

In the next example, the residual amount is allocated between multiple delivered items. The bundle includes a 10% discount and one of the delivered items has a Permit Discount setting of Never.

Item	Invoice price	VSOE Price	VSOE Allocation	Calculation	Del.	Permit Discount	Deferral
Installation Service 202	$1500	$1000	$1000.00	VSOE price =VSOE allocation	No	As Allowed	Defer Until Item Delivered
Software Product 101	1500	not assigned	1137.50	1500 / (1500 + 2500) x 4500 – 550	Yes	As Allowed	Defer Until Item Delivered
Software Product 103	2500	not assigned	2812.50	2500 / (1500+ 2500) x 4500	Yes	Never	Defer Until Item Delivered
Subtotal	$5500
10% Discount	(550)
Total	$4950		$4950

Related Topics

Using the VSOE Feature

Recognizing Revenue for VSOE Bundles

Allocating VSOE Revenue for a Bundle

Updating VSOE Allocations and Delivery Status on a Transaction

Using VSOE on Sales Orders and Invoices

Updating the VSOE Delivery Status on Items

Billing a VSOE Transaction

Using VSOE with Discount Items

Using VSOE with Markup Items

Resolving Undetermined VSOE Allocation

Posting VSOE Revenue to the General Ledger

VSOE Revenue Recognition Examples

General Notices