Amazon.com 2013 Annual Report Download - page 30

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Inventories
Inventories, consisting of products available for sale, are primarily accounted for using the first-in first-out (“FIFO”)
method, and are valued at the lower of cost or market value. This valuation requires us to make judgments, based on currently-
available information, about the likely method of disposition, such as through sales to individual customers, returns to product
vendors, or liquidations, and expected recoverable values of each disposition category. These assumptions about future
disposition of inventory are inherently uncertain and changes in our estimates and assumptions may cause us to realize material
write-downs in the future. As a measure of sensitivity, for every 1% of additional inventory valuation allowance as of
December 31, 2013, we would have recorded an additional cost of sales of approximately $79 million.
Goodwill
We evaluate goodwill for impairment annually or more frequently when an event occurs or circumstances change that
indicate that the carrying value may not be recoverable. Our annual testing date is October 1. We test goodwill for impairment
by first comparing the book value of net assets to the fair value of the reporting units. If the fair value is determined to be less
than the book value or qualitative factors indicate that it is more likely than not that goodwill is impaired, a second step is
performed to compute the amount of impairment as the difference between the estimated fair value of goodwill and the
carrying value. We estimate the fair value of the reporting units using discounted cash flows. Forecasts of future cash flows are
based on our best estimate of future net sales and operating expenses, based primarily on expected category expansion, pricing,
market segment share, and general economic conditions. Certain estimates of discounted cash flows involve businesses and
geographies with limited financial history and developing revenue models. Changes in these forecasts could significantly
change the amount of impairment recorded, if any.
During the year, management monitored the actual performance of the business relative to the fair value assumptions
used during our annual goodwill impairment test. For the periods presented, no triggering events were identified that required
an update to our annual impairment test. As a measure of sensitivity, a 10% decrease in the fair value of any of our reporting
units as of December 31, 2013 would have had no impact on the carrying value of our goodwill.
Financial and credit market volatility directly impacts our fair value measurement through our weighted average cost of
capital that we use to determine our discount rate and through our stock price that we use to determine our market
capitalization. During times of volatility, significant judgment must be applied to determine whether credit or stock price
changes are a short-term swing or a longer-term trend. We have not made any significant changes to the accounting
methodology used to evaluate goodwill impairment. Changes in our estimated future cash flows and asset fair values may cause
us to realize material impairment charges in the future. As a measure of sensitivity, a prolonged 20% decrease from our
December 31, 2013 closing stock price would not be an indicator of possible impairment.
Stock-Based Compensation
We measure compensation cost for stock awards at fair value and recognize it as compensation expense over the service
period for awards expected to vest. The fair value of restricted stock units is determined based on the number of shares granted
and the quoted price of our common stock. The estimation of stock awards that will ultimately vest requires judgment for the
amount that will be forfeited, and to the extent actual results or updated estimates differ from our current estimates, such
amounts will be recorded as a cumulative adjustment in the period estimates are revised. We consider many factors when
estimating expected forfeitures, including employee class, economic environment, and historical experience. We update our
estimated forfeiture rate quarterly. We have not made any significant changes to the accounting methodology used to evaluate
stock-based compensation. Changes in our estimates and assumptions may cause us to realize material changes in stock-based
compensation expense in the future. As a measure of sensitivity, a 1% change to our estimated forfeiture rate would have had
an approximately $32 million impact on our 2013 operating income. Our estimated forfeiture rate as of December 31, 2013 and
2012 was 27%.
We utilize the accelerated method, rather than the straight-line method, for recognizing compensation expense. For
example, over 50% of the compensation cost related to an award vesting ratably over four years is expensed in the first year. If
forfeited early in the life of an award, the compensation expense adjustment is much greater under an accelerated method than
under a straight-line method.