3. Revenue Recognition

Prior to January 1, 2018

Product revenue was recognized in the period when persuasive evidence of an arrangement with a customer existed, the products were shipped and title was transferred to the customer, the price was fixed or determinable, and collection was considered probable.

The Company deferred revenue and the related cost of sales on shipments to stocking distributors until the distributors resold the products to their customers. The agreements with these stocking distributors allowed them to receive price adjustment credits or to return qualifying products for credit, as determined by the Company, in order to reduce the amounts of slow-moving, discontinued, or obsolete product from their inventory. These stocking distributors were also granted price adjustment credits in the event of a price decrease subsequent to the date the product was shipped and invoiced to the stocking distributor. Given the uncertainties associated with the levels of price adjustment credits to be granted to stocking distributors, the sales price to the stocking distributor was not fixed or determinable until the stocking distributor resold the products to its customers. Therefore, the Company deferred revenue and the related cost of sales on shipments to stocking distributors until the stocking distributors resold the products to their customers. Accordingly, the Company’s revenue fully reflected end-customer purchases and was not impacted by stocking distributor inventory levels. Agreements with stocking distributors limited returns of qualifying product to the Company to a certain percentage of the value of the Company’s shipments to that stocking distributor during the prior quarter. In addition, stocking distributors were allowed to return unsold products if the Company terminated the relationship with the stocking distributor. Title to the inventory transferred to the stocking distributor at the time of shipment or delivery to the stocking distributor. Payment from the stocking distributors were due in accordance with the Company’s standard payment terms. These payment terms were not contingent upon the stocking distributors’ sale of the products to their end-customers. Upon title transfer to stocking distributors, the Company reduced inventory for the cost of goods shipped, the margin (i.e., revenues less cost of revenues) was recorded as deferred revenue, and an account receivable was recorded. As of December 31, 2017, the Company had gross deferred revenue of approximately $4,659,000 and gross deferred cost of revenues of approximately $2,135,000 under agreements with stocking distributors.

The Company evaluated revenue arrangements with potential multi-element deliverables to determine if there were more than one unit of accounting. A deliverable constituted a separate unit of accounting when it had standalone value and there were no customer-negotiated refund or return rights for the undelivered elements. The Company entered into arrangements containing multiple elements that could include a combination of non-recurring engineering services (“NRE”), prototype units, and production units. The Company determined NRE and prototype units represented one unit of accounting and production units represented a separate unit of accounting, based on an assessment of the respective standalone value. The Company deferred revenue recognition for NRE and prototype units until completion of the final milestone under the NRE arrangement, which was generally the delivery of the prototype. Recognition generally took place within six to twelve months of the initiation of the arrangement. Revenue for the production units was recognized upon shipment, consistent with other product revenue summarized above.

License fees were recognized as earned. The Company recognized revenue on such arrangements only when the contract was signed, the license term had begun, all obligations had been delivered to the customer, and collection was probable.

Subsequent to January 1, 2018

Revenue is recognized when control of the promised goods or services is transferred to a customer, in an amount that reflects the consideration the Company expects to be entitled to in exchange for those goods or services. Sales, value add, and other taxes collected concurrent with revenue-producing activities are excluded from revenue. The expected costs associated with product warranties continue to be recognized at the time product revenue is recognized. Shipping and handling costs associated with outbound freight after control over a product has transferred to a customer are accounted for as a fulfillment cost and are included in cost of revenues.

The Company’s primary source of net revenue comes from the sale of products, which are modular power components and power systems for converting, regulating and controlling electric current. The principal customers for the Company’s power converters and systems are large original equipment manufacturers and the original design manufacturers and contract manufacturers serving them, and smaller, lower volume users, which are broadly distributed across several major market areas. The Company recognizes revenue for product sales at a point in time following the transfer of control of such products to the customer, which typically occurs upon shipment or delivery, depending on the terms of the underlying contract. As noted above, the Company previously deferred revenue and the related cost of revenues on shipments to stocking distributors until the distributors resold the products to their customers. The Company now records revenue for such transactions at the time of sale to the stocking distributor. The Company establishes sales allowances for estimated future product returns including distributor returns and price adjustment credits, primarily based upon historical and anticipated rates of product returns and allowances.

Certain contracts with customers contain multiple performance obligations, which typically may include a combination of NRE, prototype units, and production units. For these contracts, the individual performance obligations are accounted for separately if they are distinct. Generally, the Company has determined the NRE and prototype units represent one distinct performance obligation and the production units represent a separate distinct performance obligation. For such arrangements, revenue is allocated to each performance obligation based on its relative standalone selling price, based on prices charged to customers or using the expected cost plus a margin approach. The Company defers revenue recognition for NRE and prototype units until the point in time at which the final milestone under the NRE arrangement is completed and control is transferred to the customer, which is generally the delivery of the prototype. Revenue for production units is recognized upon shipment or delivery, consistent with product revenue summarized above.

The Company licenses its intellectual property under right to use licenses, in which royalties due to the Company are based upon a percentage of the licensee’s sales. The Company utilizes the exception under the revenue recognition guidance for the recognition of sales- or usage-based royalties, in which the royalties are not recognized until the later of when 1) the customer’s subsequent sales or usages occur, or 2) the performance obligation to which some or all of the sales- or usage-based royalty has been allocated is satisfied or partially satisfied.

Accounts receivable includes amounts billed and currently due from customers. The amounts due are stated at their estimated realizable value. The Company’s payment terms vary by the type and location of its customers and the products or services offered, although terms generally include a requirement of payment within 30 to 60 days. The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of its customers to make required payments, based on assessments of customers’ credit-risk profiles and payment histories. If the financial condition of the Company’s customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required. The Company does not require collateral from its customers, although there have been circumstances when the Company has required cash in advance (i.e., a partial down-payment) to facilitate orders in excess of a customer’s established credit limit. To date, such amounts have not been material.

The Company records deferred revenue, which represents a contract liability, when cash payments are received or due in advance of performance under a contract with a customer. During the three and six months ended June 30, 2018, under Topic 606, the Company recognized revenue of approximately $340,000 and $385,000, respectively, that was included in deferred revenue at the beginning of each respective period.

The Company applies the practical expedient allowed under the new guidance for the incremental costs of obtaining a contract for sales commissions, which are expensed when incurred because the amortization period is generally less than one year. These costs are included in selling, general and administrative expenses.

The Company also applies another practical expedient allowed under the new guidance and does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less.

The following tables present the Company’s net revenues disaggregated by geography based on the location of the customer, by reportable segment, for the three and six months ended June 30, 2018 (in thousands):


	Three Months Ended
	BBU		VI Chip		Picor		Total
United States	$	18,295	$	7,771	$	353	$	26,419
Europe		4,877		1,169		106		6,152
Asia Pacific		23,876		10,905		5,482		40,263
All other		1,301		45		16		1,362

	$	48,349	$	19,890	$	5,957	$	74,196


	Six Months Ended
	BBU		VI Chip		Picor		Total
United States	$	35,286	$	15,770	$	986	$	52,042
Europe		9,602		1,742		181		11,525
Asia Pacific		42,087		22,292		9,240		73,619
All other		2,011		225		43		2,279

	$	88,986	$	40,029	$	10,450	$	139,465

The following tables present the Company’s net revenues disaggregated by the category of revenue, by reportable segment, for the three and six months ended June 30, 2018 (in thousands):


	Three Months Ended
	BBU		VI Chip		Picor		Total
Direct customers, contract manufacturers and non-stocking distributors	$	43,404	$	17,628	$	5,502	$	66,534
Stocking distributors, net of sales allowances		4,735		1,865		343		6,943
Non-recurring engineering		197		375		90		662
Royalties		13		13		13		39
Other		—		9		9		18

	$	48,349	$	19,890	$	5,957	$	74,196


	Six Months Ended
	BBU		VI Chip		Picor		Total
Direct customers, contract manufacturers and non-stocking distributors	$	78,878	$	34,934	$	9,482	$	123,294
Stocking distributors, net of sales allowances		9,698		4,419		732		14,849
Non-recurring engineering		372		620		180		1,172
Royalties		38		38		38		114
Other		—		18		18		36

	$	88,986	$	40,029	$	10,450	$	139,465

The following table presents the changes in certain contract assets and (liabilities) (in thousands):


	June 30, 2018			December 31, 2017			Increase (decrease)
Accounts receivable	$	45,056		$	34,487		$	10,569
Deferred revenue		(2,652	)		(5,015	)		2,363
Deferred expenses		776			377			399
Customer prepayments		(1,958	)		(776	)		(1,182	)
Sales allowances		(550	)		—			(550	)

The increase in accounts receivable was primarily due to an increase in net revenues of approximately $15,425,000 in the second quarter of 2018 compared to the fourth quarter of 2017. The decrease in deferred revenue was primarily due to the adoption of the new revenue recognition guidance, as the balances related to stocking distributors were reversed as part of the transition adjustment recorded as of January 1, 2018 (see Note 2 to the Condensed Consolidated Financial Statements). The increase in deferred expenses is primarily due to additional work incurred on certain NRE projects during the second quarter of 2018 for which the associated revenue is being deferred. The increase in sales allowances was due to the establishment of new allowances, in connection with the new revenue recognition guidance, for potential returns and price adjustment credits on sales to stocking distributors.

Deferred expenses are included in Other current assets, and customer prepayments are included in Deferred revenue, in the accompanying Condensed Consolidated Balance Sheets, respectively.