American Eagle Outfitters 2004 Annual Report Download - page 55

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41
Part II
Income Taxes
The Company calculates income taxes in accordance with SFAS No. 109, Accounting for Income Taxes, which
requires the use of the asset and liability method. Under this method, deferred tax assets and liabilities are recognized
based on the difference between the consolidated financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using the tax rates in effect
in the years when those temporary differences are expected to reverse. A valuation allowance is established against
the deferred tax assets when it is more likely than not that some portion or all of the deferred taxes may not be
realized.
Stock Option Plan
The Company accounts for its stock-based compensation plans under Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees (“APB No. 25”). The pro forma information below is based on provisions
of SFAS No. 123, Accounting for Stock-Based Compensation, as amended by SFAS No. 148, Accounting for Stock-
Based Compensation-Transition and Disclosure (“SFAS No. 148”), issued in December 2002. SFAS No. 148
requires that the pro forma information regarding net income and earnings per share be determined as if the
Company had accounted for its employee stock options granted beginning in the fiscal year subsequent to December
31, 1994 under the fair value method of that Statement. The fair value for these options was estimated at the date of
grant using a Black-Scholes option pricing model with the following weighted-average assumptions:
For the Years Ended
January 29,
2005
January 31,
2004
February 1,
2003
Risk-free interest rates 2.9% 2.6% 4.6%
Dividend yield 0.48% None None
Volatility factors of the expected market price of the
Company’s common stock 31.4%
50.3%
62.9%
Weighted-average expected life 6 years 5 years 5 years
Expected forfeiture rate 13.6% 11.5% 10.2%
The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which
have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because the Company’s employee stock options
have characteristics significantly different from those of traded options, and because changes in the subjective input
assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its employee stock options.