Scenario and work to be done:

You are now a third year at a Big 4 accounting firm and have just landed on an engagement with your first software client called GradeTech, Inc.

GradeTech is a software company that specializes in intrusion detection for schools that believe there software systems may be vulnerable to hackers. The Company's slogan isNo Grade Changing Here.

You have been asked to bring together a comprehensive memothat will be used by the audit partner in discussing revenues with the client. Your memo should highlight the following results from your review and research activities:

1. The background issues surrounding revenue recognition in the software industry and specifically, as it relates to SOP 97-2 and other updated accounting guidelines and codification (where appropriate)

2. A tabulation of how the revenue for each of contract (identified below) would be recognized

3. Any issues or follow upquestionsthat would need to be raised with the client by the audit partner given the information given below

The Company has two products each of which have relatively unique functionalities.

The products are as follows:

GradeBuster

Product Description:

Logs changes that have been made to a student's grades during a semester.

Sale price is $10,000 per license (1^styear PCS included)

VSOE for PCS is 15%

Spyware Firewall

Product Description:

Prevent hackers from entering the School's servers and corrupting the environment through the placement of viruses or trojans.

Sale Price is $50,000 per license (1^styear PCS included)

VSOE for PCS is 25%

The task at hand it to review sales contracts (detailed below) and determine if revenue has been properly accounted for. Now unlike the assignments we have dealt with in the past, instead of reporting to the client, your job will to create a summary analysis of each agreement that will be provided to the firm's partner for review.

Below are four agreements that have been signed and executed and there is uncertainty as to how the associated revenue should be recognized

First Agreement:

GradeTech enters into an arrangement to deliver a perpetual license for 1,000 units of Gradebuster to the University of HighTech. The product will be delivered via email on December 31, 2014 and the delivery terms are FOB GradeTech Payment Terms will be net 91 days from date of delivery and the product will have a 90 warranty. In addition, GradeTech does have a software license agreement (SLA) with the University of HighTech, but you notice on the purchase order a statement which reads Attached Terms and Conditions Apply.

Second Agreement:

GradeTech enters into a site license arrangement whereby Golden Gate University may download as many copies of Spyware Firewall as they want for 3 years. The fee for this arrangement is $1,000,000 and includes PCS. The VSOE of PCS is per the contract stated renewal rate in year 4 which is 27%. The delivery terms are FOB GradeTech. Payment Terms will be net 180 days from date of delivery and the products will have no warranty. In addition, the Software License Agreement (SLA) was not signed by GradeTech when you received the package in February.

Third Agreement:

GradeTech enters into an arrangement to deliver a perpetual license for 15,000 units of GradeBuster to the University of Palo Alto. The product will be delivered on December 31, 2014 and the delivery terms are load and leave. Payment terms will be 50% due net 30 from the delivery date with the remaining balance due June 30, 2015. In addition, UPA will be given the opportunity to upgrade to GradeTech's new product family which should come out sometime next year.

Fourth Agreement:

GradeTech enters into a site license arrangement whereby North Beach State may download as many copies of Spyware Firewall as they want for 3 years. The fee for this arrangement is $2,000,000 and includes PCS. The VSOE of PCS is per the contract stated renewal rate in year 4 which is 11%.The delivery terms are FOB GradeTech and the product will be delivered via FTP on December 31 2014. Payment will be due on January 1 2015. The product will have a 90 day warranty. In addition, there is 30 day acceptance clause in the software license agreement (SLA) whereby the customer may receive a full right of refund if the acceptance letter is not signed. GradeTech received the acceptance letter on January 6^thbut, unfortunately the signature was not dated.