Bill-and-Hold
Transactions in the
Oilfield Services Sector
By John C. Christopher, KPMG LLP
Determining and defining appropriate
revenue recognition has been a primary
focus of companies, regulators, standard setters, and auditors in recent
years. Improper revenue recognition has
been one of the leading causes of financial statement restatements. Perhaps no
area of revenue recognition has received
as much scrutiny as "bill-and-hold"
transactions. Also known as "ship-inplace" transactions, these transactions
generally refer to scenarios where revenue-is recognized after a seller has
substantially completed its obligations
under an arrangement, but prior to the
buyer, or a common carrier, taking physical possession of the goods.
Background
In a recent interview, former SEC
Chairman ~ r t h u ;Levitt referred to recog.
nizing revenue on bill-and-holdtransactions as "hocus pocus accounting." He
said, "Companies try to boost revenue
by manipulating the recognition of revbefore the product is delivered to the
GAAP violation, unfortunately it has lovq
wouldn't pop the cork on that bottle
customer, or at a time when the cus-
been associated with incidents of finar!
before it was ready, ~ " some
t
cornpa.
tamer still has options to terminate,
cia1 fraud. In its October 2002 Report o r
nies are do;ng this
void. or delay the sale." Although the bill-
Financial Statement Restatement, the
and-hold transaction in itself is not a
General Accounting Office (GAO) said
enue, ~
~about
; a bottle
~
kof
you
the;r revenue-
recognizing it before a sale is complete,
that revenue recognition is the largest
single issue involved in restatements,
more than half of financial reporting
frauds involve the overstatement of revenue, and restatements for revenue
recognitton have resulted in the largest
drops in market capitalization compared
with any other type of restatements.
There remains an intense scrutiny
around a company's revenue recognition
principles for these types of transactions, and management and auditors
should be unusually skeptical about the
appropriateness of recording revenue for
these transactions.
Bill-and-holdscenarios frequently arise
in the oilfield services sector. It is important to note that the form. of these transactions is neither illegal nor unethical. In
fact, most have very good business or
economic purposes. For example, there
is currently a trend in the oil and gas
industry towards developing fields in the
deep waters toward the Gulf of Mexico
or other more remote locations throughout the world. Development plans for
these large deepwater offshore fields.
as well as remote onshore fields
throughout the world, will commonly
have long timelines; therefore, the oilfield service companies have long lead
times for delivery of equipment and
products. As the development plan gets
under way, many of the original timelines and milestones will change along
companies manufacture and deliver are
criteria relate to the risks of ownership.
extremely capital intensive and will be
the commitment and request on the
manufactured and ready for their fixed
part of the buyer, the business purpose
delivery dates without regard to any
of the transaction, the delivery date, and
changes in the development plan. These
the performance obligations, among otP
products are generally very large built-to-
ers (these criteria are discussed in mork
suit equipment such as wellhead con-
detail in the next section). As an exam-
nection equipment and completion
ple, an oilfield services company may
products.
complete the manufacturing of the cus
the way as ~nformationabout the reser-
There are certain criteria that companies
voir becomes better. However, many of
must meet in order to recognize rev-
the products that the oilfield services
enue on bill-and-hold transactions. These
tomer's requested products, have them
shipped to a company-owned warehouse, determine a fixed deltvery sched
ule to the customer's well site, obtain a
enue may be recognized on the product
the functionality of the delivered prod-
legal acknowledgement from the cus-
element when the company has com-
ucts. In addition, remaining activities
tomer that the risk of loss has been
pleted the product only if it is a separate
would not be inconsequential or per-
transferred, and have no additional obli-
unit of accounting, or if there are any
functory if failure to complete the activi-
gations to perform such as installation of
services involved in the transaction (e.g.,
ties would result in the customer
the equipment. All of this may take
warehousing), and those services are
receiving a full or partial refund or reject-
place prior to the particular point in the
inconsequential or perfunctory to one
ing, or a right to a refund or to reject the
well development plan that calls for the
unit of accounting. The company may
products delivered. The SEC provided
installation of the product. In this exam-
need to consider whether the services
the following factors in SAB No. 104,
ple, the oilfield services company might
are a separate unit of accounting, if they
which are not all-inclusive, as indicators
(although only based on careful analysis
are inconsequential or perfunctory, and
that a remaining performance obligation
of the SEC and FASB guidance related
whether there are other performance
is substantive rather than inconsequen-
to bill-and-holdtransactions) be able to
obligations yet to be performed in deter-
tial or perfunctory:
recognize revenue immediately upon
mining the appropriate revenue recogni-
The seller does not have a demonstrat-
completing the manufacturing process
tion policy for the entire arrangement.
ed history of completing the remaining
and meeting all of the bill-and-holdrevenue recognition criteria.
,
Inconsequential or Perfunctory
Element
= The cost or time to perform the
According to SAB No. 104, Revenue
Recog'nition and Bilt-and-Hold
remaining obligations for similar con-
Recognition, i f the-undelivered element
Arrangements
tracts historically has varied significant-
is both inconsequential or perfunctory
CITf- lssue 00.21: Multiple Elements in a
and not essential to the functionality of
BIII-arid.HolclArrangement
the delivered element, it would be
complete the remaining activity are
appropriate to recognize revenue on the
specialized or are not readily available
tion model described in ElTF lssue 002 1, Revenue Arrangements with
Multiple ~eliverables,to determine the
number of units of accounting in the billand-hold arrangement. Bill-and-hold
arrangements in this industry can
include both the sale of products and
the performance of certain services,
such as warehousing for the product if it
is shipped to a company-owned warehouse. If the SEC staff's revenue recog'
estimating their costs.
SEC and FASB Guidance on Revenue
Companies must first apply the separa-
.
tasks in a timely manner and reliably
nition criteria (discussed in the next
section) are met for the product element
in the bill-and-holdarrangement, rev-
ly from one instance to another.
= The skills or equipment required to
arrangement at the time of delivery and
in the marketplace.
accrue the cost of providing the services
The cost of completing the obligation.
related to the undelivered element.
or the fair value of that obligation, is
However, if the undelivered element is
more than insignificant in relation to
neither inconsequential nor perfunctory
such items as the contract fee, gross
or is essential to the functionality of the
profit, and operating income allocable
delivered element, the revenue for the
to the unit of accounting.
delivered element should be deferred
The period before the remaining obliga-
and recognized based on the accounting
tion will be extinguished is lengthy.
requirements of the undelivered ele-
T h e timing of payment of a portion of
ment. The SEC's guidance on the deter-
the sales price is coincident with com-
mination of whether an element is
pleting performance of the remaining
inconsequential or perfunctory is related
activity.
to whether that element is essential to
The buyer must have a commitment to
purchase, preferably in written documentation.
The buyer, not the seller, must originate the request that the transaction
be on a bill-and-hold basis.
The buyer must have a substantial
business purpose for ordering the
goods or equipment on a,bill-and-hold
basis.
Delivery must be for a fixed date and
on a schedule that is reasonable and
consistent with the buyer's purpose
(this requirement will generally be difficult for an oilfield services company to
meet due to the variable nature of the
movement of timelines and milestones
for oilfield development).
The seller must not retain any sign~fi.
customer ~ c c e ~ t a n c e
tomer acceptance provisions exist, the
.
cant specific performance obligations
SEC generally believes that the seller
under the agreement such that the
ments in SAB No. 104 related to cus-
should not recognize revenue until cus-
earnings process is not complete.
tomer acceptance. After delivery of a
tomer acceptance occurs or the accept-
The goods or equipment must be segregated from the seller's inventory and
The SEC has also established require-
product, if uncertainty exists about cus-
ance provisions lapse. Since customer
tomer acceptance, revenue should not
acceptance provisions may preclude rev-
may not be subject to being used to fill
be recognized until acceptance occurs.
enue recognition, companies should
other orders.
Customer acceptance provisions may be
review their arrangements for these
included in a contract, among other rea-
types of provisions prior to their analysis
sons, to enforce a customer's rights to
of the SEC's bill-and-holdrevenue recog-
test the delivered product, require the
nition criteria in SAB No. 104.
seller to perform additional services subsequent to delivery of an initial product,
SEC Bill-and-Hold Criteria
rn
The goods or equipment must be complete and ready for shipment.
The SEC emphasized that that the above
criteria are not a simple checklist. A
transaction might meet all of the criteria
and still fail the revenue recognition
or identify other work necessary before
The SEC has established specific criteria
accepting the product. The SEC pre-
codified in SAB No. 104 that a seller of
sumes that such contractual customer
goods or equipment must meet to rec-
acceptance provisions are substantive,
ognize revenue for a bill-and-holdtrans-
The date the seller expects actual pay-
barga~ned-forterms of an arrangement.
action, including:
ment from the buyer and whether the
Accordingly, when such contractual cus-
T h e risks of ownership must have
passed to the buyer.
guidelines. The following factors also
must be considered:
seller has modified its normal billing
and credit terms for the buyer
-The seller's past experiences with billand-hold transactions
= Whether the buyer has the expected
rlsk of loss in the goods' or equip-
Some of the more common pitfalls in
proper revenbe recognition for bill-and-
companies should pay particular atten-
hold arrangements are:
tion to their evaluation of the services
Fixed delivery schedule-the
fixed
that they will perform for the customer
ment's market value during the bill-
delivery date and the corresponding
related to the products in order to con-
and-hold phase
amount of time that the products may
clude on whether multiple elements of
Whether the seller's custodial risks are
be in storage should be consistent
accounting exist.
insurable and insured.
with the company's history for those
The expectations from regulators and the
Once all of these criteria have been con-
products, competitors' products, and
public toward audit committees, manage-
sidered and documented for an individual
the industry in general. Oilfield service
ment, and the independent auditors have
arrangement, a company's senior man-
companies should pay particular atten-
increased significantly over the last sever-
agement and audit committee should be
tion to this criterion since it is often
al years. Consequently, more time is
made fully aware of the facts and circum-
difficult to designate a fixed date for
being spent at the top levels of manage-
stances. This should allow for a sound
future delivery of a product to the well
ment and in audit committee meetings
and proper conclusion on the accounting
site when there are so many variables
discussing and scrutinizing company
for the bill-and-holdarrangement.
in the development timeline. This
accounting policies and practices.
would indicate that meeting this criteriAudit Committee, Managment, and
1ndependent.Auditor Involvement .
on for an oilfield services company
.might be rare.
The audit committee, management, and
Customer request-the customer, not
the independent auditors should monitor
the seller, must request that the trans-
the accounting for all bill-and-holdagree-
action be on a bill-and-holdbasis (in our
ments. Specifically, management should
example, that the products be held in
be aware of and review in detail all sig-
the warehouse), preferably in writing.
nificant bill-and-holdcustomer contracts
.
Multiple elements-oilfield service
Risk of loss-the
customer must
and their related sales orders, invoices,
accept the risk of loss for the products
bills of lading, shipping documents, and
while in warehouse. Careful scrutiny of
credit terms to ensure they are being
the relevant legal documents is neces-
accounted for appropriately.
sary to make this assessment. With
Management should inform the audit
committee of any significant bill-and-hold
arrangements and discuss the key areas
of judgment involved in accounting for
these transactions.
regard to the oilfield services sector, in
some cases title of the products will
transfer to the customer, although the
risk of loss still remains with the seller
while the seller is warehousing the
products.
Since bill-and-holdarrangements in the
oilfield services sector generally involve
very large and complex products and.
equipment that carry significant
amounts of economic value, and given
the level of regulatory scrutiny over
these arrangements, it is expected that
are obtained prior to (revenue) recogni-
audit committee and senior manage-
tion, and whether the company has
ment involvement in the assessment of
modified its normal billing and credit
these arrangements will increase. Senior
terms for bill-and-holdinventory."
management should meet regularly with
the operational management of the
Action Points
company to gain a better understanding
As evidenced in this article, document-
of these transactions and to develop or
ing and concluding on the accounting for
refine the company's processes for iden-
bill-and-holdarrangements involves read-
tifying transactions subject to this
ing a lot of literature and having to make
unique area of accounting. They should
several judgmental decisions, making
understand the key judgments and esti-
revenue recognition for bill-and-hold
mates used in the revenue recognition
arrangements generally a lengthy and
principles and whether there are any dif-
complex activity. Therefore, in order to
ficulties that exist in the process for
facilitate this process as much as possi-
accounting for these transactions.
ble, the following are some significant
Within-the context of the SarbanesOxley Act of 2002, audit committees
and senior management should also
consider the internal controls surrounding their bill-and-holdtransactions and
any necessary disclosures and presentation in the company's SEC filings. In a
speech at the AICPA National Conference on Current SEC Developments,
Michael Schoenfeld, the SEC's Assistant
Chief Accountant, mentioned that "the
staff encourages a discussion of the
risks and uncertainties surrounding billand-hold arrangements and their potential impact on the financial statements.
Such disclosure might include the company's relationship with distributors, that
fixed commitments to purchase goods
action points to consider for bill-and-hold
arrangements (not all-inclusive):
Senior management and the audit
committee should become fully
engaged in the process of understanding and documenting proposed billand-hold arrangements and conclude
on the appropriate accounting prior to
entering into such arrangements.
Companies should consult with their
independent auditors about the facts
and circumstances of the arrangements and their understanding of the
applicable accounting literature.
Public companies with bill-and-hold
arrangements in place should consldef
pre-clearing proposed revenue r;ecogr.
tion models for bill-and-hold arrangements with the SEC.
.
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