American Eagle Outfitters 2008 Annual Report Download - page 22

During Fiscal 2007, we discontinued assessing a service fee on inactive gift cards. As a result, we estimate gift
card breakage and recognize revenue in proportion to actual gift card redemptions as a component of net sales. We
determine an estimated gift card breakage rate by continuously evaluating historical redemption data and the time
when there is a remote likelihood that a gift card will be redeemed.
Merchandise Inventory. Merchandise inventory is valued at the lower of average cost or market, utilizing the
retail method. Average cost includes merchandise design and sourcing costs and related expenses.
We review our inventory in order to identify slow-moving merchandise and generally use markdowns to clear
merchandise. Additionally, we estimate a markdown reserve for future planned markdowns related to current
inventory. If inventory exceeds customer demand for reasons of style, seasonal adaptation, changes in customer
preference, lack of consumer acceptance of fashion items, competition, or if it is determined that the inventory in
stock will not sell at its currently ticketed price, additional markdowns may be necessary. These markdowns may
have a material adverse impact on earnings, depending on the extent and amount of inventory affected.
We estimate an inventory shrinkage reserve for anticipated losses for the period between the last physical count
and the balance sheet date. The estimate for the shrinkage reserve is calculated based on historical percentages and
can be affected by changes in merchandise mix and changes in actual shrinkage trends. We do not believe there is a
reasonable likelihood that there will be a material change in the future estimates or assumptions we use to calculate
our inventory shrinkage reserve. However, if actual physical inventory losses differ significantly from our estimate,
our operating results could be adversely affected.
Asset Impairment. In accordance with Statement of Financial Accounting Standards (“SFAS”) No. 144,
Accounting for the Impairment or Disposal of Long-Lived Assets (“SFAS No. 144”), we evaluate long-lived assets
for impairment whenever events or changes in circumstances indicate that the carrying value of an asset might not
be recoverable. Assets are evaluated for impairment by comparing the projected undiscounted future cash flows of
the asset, over its remaining useful life, to the carrying value. If the future cash flows are projected to be less than the
carrying value of the asset, we adjust the asset value to its estimated fair value and an impairment loss is recorded in
selling, general and administrative expenses.
Our impairment loss calculations require management to make assumptions and to apply judgment to estimate
future cash flows and asset fair values, including forecasting useful lives of the assets and selecting the discount rate
that reflects the risk inherent in future cash flows. We do not believe there is a reasonable likelihood that there will
be a material change in the estimates or assumptions we use to calculate long-lived asset impairment losses.
However, if actual results are not consistent with our estimates and assumptions, our operating results could be
adversely affected.
Investment Securities. In accordance with SFAS No. 157 Fair Value Measurements (“SFAS No. 157”), we
measure our investment securities using Level 1, Level 2 and Level 3 inputs. Level 1 and Level 2 inputs are valued
using quoted market prices while we use a discounted cash flow (“DCF”) model to determine the fair value of our
Level 3 investments. The assumptions in our model include different recovery periods depending on the type of
security and varying discount factors for yield and illiquidity. These assumptions are subjective. They are based on
our current judgment and our view of current market conditions. The use of different assumptions would result in a
different valuation and related charge. Future adverse changes in market conditions, continued poor operating
results of underlying investments or other factors could result in further losses that may not be reflected in an
investment’s current carrying value, possibly requiring an additional impairment charge in the future. Any OTTI
charge could materially affect our results of operations.
We evaluate our investments for impairment in accordance with FSP FAS 115-1, The Meaning of Other-Than-
Temporary Impairment and Its Application to Certain Investments (“FSP FAS 115-1”). FSP FAS 115-1 provides
guidance for determining when an investment is considered impaired, whether impairment is other-than-temporary,
and measurement of an impairment loss. We record an other-than-temporary investment impairment charge at the
point we believe an investment has experienced a decline in value that is other-than-temporary. In determining
whether an other-than-temporary impairment has occurred, we review information about the underlying investment
that is publicly available, analyst reports, applicable industry data and other pertinent information, and assess our
ability and intent to hold the securities for the foreseeable future. The investment is written down to its current fair
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