Revenue and Expense Recognition
Andrew Ferris, a financial analyst at Southern Cross Capital LLC, was asked to evaluate salesforce.com’s accounting methods and recent financial performance in preparation for the portfolio manager’s decision as to whether the company’s common stock should be acquired for its Growth Service fund. Salesforce.com was a computer software company focused on providing customer relationship management applications (CRM) accessible by users on the “cloud,” rather than through software resident on a user’s own server. Salesforce.com maintained a direct sales force, which sold services to customers through phone contacts, and through a network of geographically disbursed sales representatives who made personal contacts with potential customers. The direct sales force was compensated primarily through sales commissions, which were paid in cash after a customer signed a noncancellable subscription contract. The portfolio manager specifically asked Ferris to pay close attention to understanding how salesforce.com accounted for its commission outlays, since several companies in recent years had experienced substantial declines in their stock price after financial press articles revealed that the companies had inflated their earnings by deferring expenses.
1. To understand how a company makes money, its strategy for achieving this, and the implications for the company’s financial performance,
2. To analyze a company’s growth, its ability to generate cash flows, and its financial performance,
3. To evaluate a company’s accounting methods and their impact on a company’s financial performance,
4. To develop a communication and disclosure strategy for dealing with critics of the company’s accounting policies.
5. To value the company’s common equity securities.