SolvGen Case

Colleen Mansfield

Corporate Financial Reporting

September 19, 2013

Background

SolvGen Inc. is a pharmaceutical development company that Direct Drugs, Inc. plans to acquire.

SolvGen has entered into two contracts in the last year and Direct Drugs must now decide how to

recognize the revenue from those contracts.

Deliverables

There is only one deliverable in the contracts between SolvGen and Careway. Without the contract

to license and distribute the proprietary instruments, the research and development agreement is

worth nothing to Careway because they are not entitled to the intellectual rights or findings.

Revenue Recognition

The two payments made in advance are simply up-front payments from Careway to SolvGen, not

payments for deliverables. The up-front payments should be deferred until the commercial launch of

the product, not recognized immediately. This is because prior to the commercial launch, Careway

receives absolutely no benefit from their agreements with SolvGen. Beginning with the commercial

launch, Careway can recognize benefits under the agreements, enabling SolvGen to recognize

revenue for deliverables being transferred to Careway. As of March 31, 2006, the three milestone

payments (for exclusive negotiation, contract signing, and first instrument system launch) should be

recognized over the time remaining in the contract. This is best done on a percentage basis, as long

as the company is able to reliably estimate sales of the instrument systems.

International Financial Reporting Standards

Under the rules of IFRS, there would be no change in how the milestone payments are received by

SolvGen. This is partially due to the way the milestone payments are recognized by percentage

completion over time and partially due to the fact that the two contracts were begun at the same

time with the knowledge that the two would best work together.