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Some investors are wondering if



resorted to an accounting tactic to meet second-quarter earnings and sales targets.

Palm Pressing
Stock down after early highs

Palm, under tremendous pressure to produce big sales gains and sustain its heady valuation, issued a second-quarter earnings report in December that beat Wall Street's expectations. But at least one analyst says the company succeeded in doing so only because of the method it used to account for a rebate on its


model. By booking the reduction in revenue from the rebate in the current quarter rather than when the product was shipped, Palm effectively delayed the rebate's revenue hit to a seasonally slower, less closely watched quarter, he says.

Palm says its accounting is perfectly acceptable, conforming to generally accepted accounting principles, and adds that it is accounting for the rebate the only way it can.

"A rebate is a normal part of doing business," says Chief Financial Officer Judy Bruner. "It's surprising that it's the topic of a story."

But if the company adopted the accounting method to keep Wall Street happy, it raises the possibility that Palm is having trouble keeping up with investors' expectations.


The $50 rebate was good for purchases made between Dec. 3, 2000, and Jan. 19, 2001, and is to be redeemed by Feb. 19. Palm, like many companies, books revenue on a unit once it's shipped to distributors, not when it's purchased by the end user. Therefore, revenue for all units shipped during the second quarter, which lasted from Sept. 1 to Dec. 1, were booked in the second quarter, including units that were actually purchased by consumers in the fiscal third quarter during the holiday shopping season.

Danny Lam, an analyst with

Communications & Computing Report

, a publication of independent research firm


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, says the accounting approach ensured that Palm "met

second-quarter expectations but in a disingenuous way. It's a signal that the company did worse than it did." (He doesn't rate stocks, and his firm doesn't participate in underwriting.)

The reaction to the company's second-quarter

earnings report attests to the pressure on Palm. When the company reported a seemingly stellar second-quarter revenue increase of 102%, investors pushed the stock down 15% because the numbers failed to surpass the high end of Palm's guidance. Palm was recently up 62 cents at $23.62, giving the company a market capitalization north of $13 billion.


Palm didn't announce the rebate until the fiscal third quarter, and that's why it says the rebate must be accounted for in that period. GAAP guidelines say the reduction must occur in the quarter in which the rebate is offered to end users, or consumers, says Bruner.

However, Jim Kroeker, a fellow at the

Financial Accounting Standards Board

, says this is a gray area of accounting. Some people believe that "if an agreement was made with distributors in the second quarter to plan a rebate in the third quarter, then

the cost of the rebate program should be recognized in the second quarter." FASB is the private sector organization that establishes standards of financial accounting and reporting.

To recognize the cost of the program in the third quarter essentially means that Palm was recognizing revenue in the second quarter that it didn't fully expect to collect, says an accountant who spoke on the condition of anonymity.

The accountant who spoke on the condition of anonymity adds that it's not even a question of when the agreement was made with distributors, but rather when Palm decided to go ahead with the rebate. Palm should have recognized the cost of the program in the quarter it decided to proceed with the rebate, this accountant says.

Bruner acknowledges that Palm began to plan for the rebate and have discussions about it in the second quarter. She maintains that Palm's accounting is "consistent" with other guidance from the

Securities and Exchange Commission

, FASB and the Emerging Issues Task Force, which works with FASB.


Palm handhelds were big sellers during the holiday season, with the IIIxe enjoying considerable favor, retailing at $249 before the rebate. Palm wouldn't disclose the number of IIIxes shipped in the fiscal second quarter or the number eligible for the rebate, but the IIIxe has consistently been a top-selling electronics product at the


Web site. Given that popularity, if Palm had accounted for the rebates in the second quarter, its revenue could very well have been reduced to the point that it would have missed second-quarter expectations.

(Though the rebate period is now over, the IIIxe continues to be marked down to $199, the same price as with the rebate. Bruner notes that this is typical for consumer electronics products, saying, "A rebate is a transition to a more permanent price decrease.")

Now the rebates will come out of fiscal third-quarter revenue, which is traditionally a slower period. So it's possible that the pressure on Palm isn't as intense now.

On the conference call, Palm said that the revenue expectation for the third quarter is $465 million to $490 million, down from the second quarter's total of $522.2 million, "consistent with our previous guidance and traditional Palm seasonality."