Alcoa 2003 Annual Report Download - page 49

dates in accordance with SFAS Nos. 123 and 148, ‘‘Accounting for
Stock-Based Compensation.’’
2003 2002 2001
Net income, as reported $ 938 $420 $ 908
Less: compensation cost determined
under the fair value method,
net of tax 30 113 178
Pro forma net income $ 908 $307 $ 730
Basic earningspershare:
As reported $1.09 $ .49 $1.06
Pro forma 1.06 .36 .85
Diluted earnings per share:
As reported 1.08 .49 1.05
Pro forma 1.06 .36 .84
The fair value of each option is estimated on the date of grant
or subsequent reload usingthe Black-Scholes pricing model with the
following assumptions:
2003 2002 2001
Average risk-free interest rate 2.2% 3.5% 3.8%
Expected dividend yield 2.5 2.1 1.6
Expected volatility 38 42 43
Expected life (years):
New option grants 3.0 3.0 2.5
Reload option grants 2.5 2.5 2.0
The weighted average fair value per option granted was $5.75 in
2003, $9.96 in 2002, and $9.54 in 2001. See Note Q for additional
information.
Derivatives and Hedging. Effective January 1, 2001, Alcoa
adopted
SFAS No. 133, ‘‘Accounting for Derivative Instruments and
Hedging Activities,’’ as amended. The fair values of all outstanding
derivative instruments are recorded on the Consolidated Balance
Sheetinother current and noncurrent assets and liabilities. The
transition adjustment on January 1, 2001 resulted in a net charge
of $4 (after tax and minority interests), which was recorded in
other comprehensive income.
Derivatives are held as part of a formally documented risk
management (hedging) program. All derivatives are straightforward
and are held for purposes other than trading. Alcoa measures hedge
effectiveness by formally assessing, at least quarterly, the historical
and probable future high correlation of changes in the fair value
or expected future cash flows of the hedged item. The ineffective
portions are recorded in other income or expense in the current
period. If the hedging relationship ceases to be highly effective or
it becomes probable that an expected transaction will no longer
occur, gains or losses on the derivative are recorded in otherincome
or expense.
Changes in the fair value of derivatives are recorded in current
earnings along with the change in the fair value of the underlying
hedged item if the derivative is designated as a fair value hedge or in
other comprehensive income if the derivative is designated as a cash
flow hedge. If no hedging relationship is designated, the derivative
is marked to market through earnings.
Cash flows from financial instruments are recognized in the
Statement of Consolidated Cash Flows in a manner consistent
with the underlying transactions. See Notes K and W for additional
information.
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Foreign Currency. The local currency is the functional currency
for Alcoa’s significant operations outside the U.S., except in Canada,
where the U.S. dollar is used as the functional currency. The deter-
mination of the functional currency for Alcoa’s operations is made
basedonthe appropriate economic and management indicators.
Acquisitions. Alcoa’s acquisitions are accounted for using the
purchase method.Thepurchaseprice is allocated to the assets
acquired and liabilities assumed based on their estimated fair market
values. Any excess purchase price over the fair market value of
the net assets acquired is recorded as goodwill. For all acquisitions,
operatingresultsare included in the Statement of Consolidated
Income since the dates of the acquisitions. See Note F for additional
information.
Discontinued Operations and Assets Held For Sale. Alcoa
adopted
SFAS No. 144, ‘‘Accounting for the Impairment or Disposal
of Long-Lived Assets,’’effectiveJanuary1,2002.This standard
establishes accounting and reporting requirements for the impair-
ment or disposal of long-lived assets. For those businesses where
management has committed toaplantodivest,eachbusinessis
valued at the lower of its carrying amount or estimated fair value
less cost to sell. If the carrying amount of the business exceeds
its estimated fair value, a loss is recognized. The fair values are
estimated using accepted valuation techniques such as a
DCF model,
earnings multiples, or indicative bids, when available. A number of
significant estimates and assumptions are involved in the application
of these techniques, including the forecasting of markets and market
share, sales volumes and prices, costs and expenses, and multiple
other factors. Management considers historical experience and all
available information at the timetheestimates are made;however,
the fair values that are ultimately realized upon the sale of the
businesses to be divested may differ from the estimated fair values
reflected in the financial statements.
Businesses to be divested are classified in the Consolidated
Financial Statements as either discontinued operations or assets held
for sale. For businesses classified as discontinued operations, the
balance sheet amounts and income statement results are reclassified
from their historical presentation to assets and liabilities of operations
held for sale on the Consolidated Balance Sheet and to discontinued
operations in the Statement of Consolidated Income for all periods
presented. Additionally, segment information does not include
the results of businesses classified as discontinued operations.
Management does not expect any continuing involvement with
these businesses following the sales.
For businesses classified as assets heldforsale,thebalance sheet
amounts are reclassified from their historical presentation to assets
andliabilities of operations held for sale. The income statement
results continue to be reported in the historical income statement
categories as income from continuing operations. The segment
results include the results of businesses classified as assets held for
sale for all periods presented. Management expects that Alcoa will
have continuing involvement with these businesses following the
sale,primarily in the form of ongoing aluminum or other significant
supply contracts.