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Bummer. Never hurts to ask. I'll cycle on this and get back to you with=
=20 follow up if any. Thanks for your help on this. DF=20 =20 =09 =09 =09From: Bob Chandler 01/27/2000 01:49 PM =09 To: Drew Fossum/ET&S/Enron@ENRON, Tim Kissner/ET&S/Enron@ENRON cc: George Fastuca/ET&S/Enron@Enron=20 Subject: Multi year service contract Per your request to ask AA where the chokepoint might be on renegotiating t= he=20 electricity contract at Cunningham to backload the payments and expense the= =20 payments as made; the response is attached below. First, it was difficult to point them in exactly the right direction withou= t=20 tipping them off as to exactly what you had in mind. However, they thought I might be talking about the TW compressor monetizati= on=20 project...and even though I denied it...that is what they were thinking whe= n=20 they did the research. To make a long story short, they indicate that=20 straight line amortization of the total contract payments is the way it=20 should be booked unless there are circumstances to the contrary that would= =20 indicate a different allocation over time. =20 I don't believe we'll be able to get any good feedback from them on the=20 chokepoint issue. It boils down to how blatantly you want to skew the=20 payments and whether they or FERC compliance auditors ever stumble across i= t=20 in an audit. If Accounting is not aware of such a contract with skewed=20 payments, then we would not be in a position to accrue expense on an=20 appropriate straight line basis over the life of the contract. =20 As to the issue of whether or not ENA should be a party to the transaction,= I=20 did not seek AA advice on this issue, but I do believe that use of ENA as t= he=20 counterparty would double the chances for having the issue brought up in an= =20 AA audit, since the issue could also surface in conjunction with AA's audit= =20 of ENA. ---------------------- Forwarded by Bob Chandler/ET&S/Enron on 01/27/2000= =20 01:22 PM --------------------------- Heather Mueck 01/25/2000 07:23 PM To: Bob Chandler/ET&S/Enron@ENRON cc: =20 Subject: Multi year service contract Bob - I left you a brief message on this, so I thought I'd send you a copy of the= =20 guidance I was referring to. In a nut shell, there is no pain threshold fo= r=20 front end or back end loading the payments under a contract. Generally, we= =20 believe you would need to straight line the expense but I can't say for=20 certain without the details. The below is from AA Interpretations and Examples "Accounting for Leases,= =20 Interpretations of FASB Statements 13, 27, 28, and 98" - I've bolded the=20 applicable section. Call me if you have any additional questions.=20 =20 AA Interpretations and Examples\05. Leases Accounting for Leases, Interpretations of FASB Statements 13, 27, 28= =20 and 98 1-12. Facility Management Arrangements In a typical facilities management arrangement, the vendor purchases from a= =20 company ("customer") its existing data processing equipment and hires all o= r=20 some of the customer's data processing personnel. The vendor is then engage= d=20 to provide information technology services to the customer for an extended= =20 period of time (typically 5 to 10 years). Company's Obligation Under the Service Contract Obligations under executory agreements that are contingent upon services to= =20 be rendered in the future are not liabilities and should not be recorded=20 except to the extent losses are inherent in such commitments. No liability= =20 should be recognized for a customer's future obligation under an informatio= n=20 technology services contract unless it becomes probable that the customer= =20 will incur a penalty or loss from termination of the contract. An issue arises as to whether the sale of existing data processing equipmen= t=20 or facilities to a vendor that uses the purchased property to provide=20 information technology services to the seller is, in substance, a sale and= =20 leaseback transaction that should be accounted for separately under SFAS No= s.=20 13, 28 and 98. An information technology services contract typically can be= =20 distinguished from a lease for the following reasons: The vendor is responsible for the financing and operation of the data=20 processing equipment and facilities. Data processing personnel are employees of the vendor. The vendor is not required to use the equipment purchased from the customer= =20 to provide service to that customer and may use the equipment to serve othe= r=20 customers. The vendor provides guarantees regarding performance and retains risks=20 related to the operating costs. The vendor is not entitled to payment unless the required services are=20 provided to the customer in accordance with specified standards. As a result, generally we believe the sale of data processing equipment or= =20 facilities pursuant to a facilities management arrangement should not be=20 unbundled and accounted for separately as a sale and leaseback transaction.= =20 However, because of the customer's continuing involvement with the equipmen= t=20 of facilities sold, we believe any gain or loss on the sale should be=20 recognized in a manner consistent with the guidance prescribed in paragraph= =20 33 of SFAS No. 13 for sale-leaseback transactions. Some outsourcing arrangements may involve dedicated equipment (so called,= =20 "exclusive use equipment") that is physically located on the company's=20 premises and cannot be used by the vendor to service other customers. For= =20 example, a significant amount of the equipment may consist of terminals or= =20 work-stations operated by the company's personnel, such as point-of-sale=20 registers in a department store or design terminals in an architectural fir= m,=20 and the vendor may have only limited ability to replace or remove that=20 dedicated equipment because of contractual provisions or practical=20 considerations. In these situations, the customer effectively contracts to= =20 use the terminals or workstations for a specified period =01* a lease. Such= =20 dedicated equipment should be unbundled from the information technology=20 services contract and accounted for separately as a sale and leaseback=20 transaction. In unbundling the equipment from the information technology=20 services contract, the portion of the fee paid to the vendor applicable to= =20 the equipment lease should be estimated using whatever means are appropriat= e=20 in the circumstances and the lease accounted for separately according to it= s=20 classification (capital or operating) If significant, the customer should consider disclosing its commitment unde= r=20 the outsourcing arrangement. The disclosures required for any portion of th= e=20 arrangement determined by the customer to be a lease are set forth in=20 paragraph 16 of SFAS No. 13. Gain or Loss on Sale of Equipment or Facilities Because of the interdependence of terms, there is no practicable and=20 objective way to separate the sale of data processing equipment, software,= =20 facilities or "know how" from the service contract. For that reason, we=20 believe any gain or loss from the sale of data processing equipment,=20 software, facilities or "know how" pursuant to a facilities management=20 arrangement should be recognized similar to a sale and operating leaseback= =20 transaction as prescribed in paragraph 33 of SFAS No. 13. That is, gain fr= om=20 the sale should be recognized currently only to the extent such gain exceed= s=20 the present value of the minimum payments due over the term of the service= =20 contract, discounted using the seller's incremental borrowing rate. Any gai= n=20 not recognized at the inception of the contract should be deferred and=20 amortized ratably over the term of the service contract as an adjustment to= =20 the minimum annual fees expensed in each period. Further, if the fair value= =20 of the property at the time of the transaction is less than its undepreciat= ed=20 cost, a loss should be recognized immediately for the difference between th= e=20 undepreciated cost and fair value, regardless of the amount actually receiv= ed=20 from the vendor for the property transferred. Expense Recognition Payment terms may include fixed annual fees that increase or decrease over= =20 the term of the service contract. These payment terms may be structured in = a=20 high-to-low pattern (that is, to recognize the favorable price/performance= =20 curve of data processing equipment/capabilities) or a low-to-high pattern= =20 (that is, to recognize the estimated effects of inflation on future costs).= =20 Further, there may be payment escalation provisions in the service contract= =20 indexed to inflation and/or the volume of transactions processed by the=20 vendor. We believe total minimum fees to be paid pursuant to an information= =20 technology services contract should be charged to expense on a straight-lin= e=20 basis over the term of the contract unless the level of service performed b= y=20 the vendor is not uniform over the term of the contract. If the level of=20 service is not uniform over the term of the contract, the amount of fees=20 attributable to the additional services to be rendered by the vendor should= =20 be expensed ratably over the time periods the additional services are=20 provided by the vendor. The amount of fees attributable to the additional= =20 services should be based on their relative fair value, as determined at the= =20 inception of the contract, to the fair value of all services to be provided= =20 by the vendor over the term of the contract. The "term" of the information technology services contract includes the fix= ed=20 non-cancelable term of the contract plus all periods, if any, for which=20 failure to renew the contract imposes a "penalty" on the customer in such a= n=20 amount that a renewal appears, at the inception of the contract, to be=20 reasonably assured. The expression "penalty" should be interpreted broadly = to=20 include requirements that can be imposed on the customer (a) by the vendor= =20 (for example, a monetary penalty for not renewing the contract) or (b) by= =20 factors outside the contract to disburse cash, forego an economic benefit o= r=20 suffer an economic detriment. Factors to consider in determining if an=20 economic detriment may be incurred include the uniqueness of the equipment = or=20 software, the "know how" of the vendor, the availability of comparable=20 replacement systems and data processing personnel or vendors, the disruptio= n=20 to the company's business or service to its customers if the contract were= =20 not renewed and the willingness of the customer to bear the cost associated= =20 with replacing the vendor (either by bringing the functions in-house or by= =20 engaging another vendor). The term of the contract should also include all= =20 periods, if any, (a) covered by bargain renewal options, (b) preceding the= =20 date at which the customer can exercise a bargain purchase option to=20 reacquire the equipment, software, facilities or data processing personnel= =20 (see Interpretation 5(d)-3, "Bargain Purchase Option 'as Encumbered' by Fix= ed=20 Price Renewals "), and © during which a loan from the customer to the=20 vendor or a guarantee of the vendor's debt, directly or indirectly related = to=20 the leased property, is expected to be outstanding or in effect. Future fee increases that depend upon a factor that exists at the inception= =20 of the agreement, such as the consumer price index or the volume of=20 transactions processed by the vendor, should be included in the computation= =20 of fixed fees to be recognized on a straight-line basis over the term of th= e=20 contract based on the factor at the inception of the agreement. Increases o= r=20 decreases in fees that result from changes occurring subsequent to the=20 inception of the agreement should be included in the determination of incom= e=20 as they accrue. Incentives Offered by the Vendor A facilities management arrangement may include incentives for the customer= =20 to sign the service contract. For example, an incentive implicit in a=20 facility management arrangement may be the vendor's assumption of the=20 severance liability for existing data processing personnel not retained by= =20 the vendor. Other types of incentives include up-front cash payments by the= =20 vendor, below market financing, excessive rental paid to lease space from t= he=20 customer, equity transactions (purchase or sales/grants) with the customer = at=20 off-market terms, and so forth. The fact that the vendor "assumes" a loss or cost does not negate the=20 customer's need to immediately recognize the loss or expense. The amount of= =20 the loss or cost assumed by the vendor should be estimated by the customer= =20 using whatever means makes sense in the particular facts and circumstances.= =20 The customer should recognize the loss immediately by a charge to income an= d=20 the offsetting deferred credit (incentive) should be recognized ratably ove= r=20 the term of the service contract in proportion to the fixed contractual fee= s=20 expensed in each period. Similarly, incentives that result in the recogniti= on=20 of an asset or a deferred charge should be reported on the balance sheet at= =20 the amount received or fair value, and the offsetting credit (incentive)=20 recognized ratably over the term of the service contract.
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