Cisco 2008 Annual Report Download - page 71

76 Cisco Systems, Inc.
Notes to Consolidated Financial Statements
The determination of the fair value of share-based payment awards on the date of grant using an option-pricing model is impacted by the
Company’s stock price as well as assumptions regarding a number of highly complex and subjective variables. The weighted-average
assumptions were determined as follows:
• For employee stock options, the Company used the implied volatility for two-year traded options on the Company’s stock as the
expected volatility assumption required in the lattice-binomial model, consistent with SFAS 123(R) and SAB 107. For employee stock
purchase rights, the Company used the implied volatility for six-month traded options on the Company’s stock. The selection of the
implied volatility approach was based upon the availability of actively traded options on the Company’s stock and the Company’s
assessment that implied volatility is more representative of future stock price trends than historical volatility.
• The risk-free interest rate assumption is based upon observed interest rates appropriate for the term of the Company’s employee stock
options and employee stock purchase rights.
• The dividend yield assumption is based on the history and expectation of dividend payouts.
• The estimated kurtosis and skewness are technical measures of the distribution of stock price returns, which affect expected employee
exercise behaviors, and are based on the Company’s stock price return history as well as consideration of various academic analyses.
The expected life of employee stock options represents the weighted-average period the stock options are expected to remain
outstanding and is a derived output of the lattice-binomial model. The expected life of employee stock options is impacted by all of the
underlying assumptions and calibration of the Company’s model. The lattice-binomial model assumes that employees’ exercise behavior
is a function of the option’s remaining vested life and the extent to which the option is in-the-money. The lattice-binomial model estimates
the probability of exercise as a function of these two variables based on the entire history of exercises and cancellations on all past option
grants made by the Company.
Accuracy of Fair Value Estimates The Company uses third-party analyses to assist in developing the assumptions used in, as well as
calibrating, its lattice-binomial model. The Company is responsible for determining the assumptions used in estimating the fair value of its
share-based payment awards. The Company’s determination of the fair value of share-based payment awards is affected by assumptions
regarding a number of highly complex and subjective variables. These variables include, but are not limited to, the Company’s expected
stock price volatility over the term of the awards and actual and projected employee stock option exercise behaviors. Option-pricing models
were developed for use in estimating the value of traded options that have no vesting or hedging restrictions and are fully transferable.
Because the Company’s employee stock options have certain characteristics that are significantly different from traded options, and
because changes in the subjective assumptions can materially affect the estimated value, in management’s opinion, the existing valuation
models may not provide an accurate measure of the fair value of the Company’s employee stock options. Although the fair value of employee
stock options is determined in accordance with SFAS 123(R) and SAB 107 using an option-pricing model, that value may not be indicative
of the fair value observed in a willing buyer/willing seller market transaction.
(c) Employee 401(k) Plans
The Company sponsors the Cisco Systems, Inc. 401(k) Plan (the “Plan”) to provide retirement benefits for its employees. As allowed
under Section 401(k) of the Internal Revenue Code, the Plan provides for tax-deferred salary contributions for eligible employees. The
Plan allows employees to contribute from 1% to 25% of their annual compensation to the Plan on a pretax and after-tax basis. Employee
contributions are limited to a maximum annual amount as set periodically by the Internal Revenue Code. The Company matches pretax
employee contributions up to 100% of the first 4% of eligible earnings that are contributed by employees. Therefore, the maximum
matching contribution that the Company may allocate to each participant’s account will not exceed $9,200 for the 2008 calendar year due
to the $230,000 annual limit on eligible earnings imposed by the Internal Revenue Code. All matching contributions vest immediately. The
Company’s matching contributions to the Plan totaled $171 million, $131 million, and $96 million in fiscal 2008, 2007, and 2006, respectively.
The Plan allows employees who meet the age requirements and reach the Plan contribution limits to make a catch-up contribution not
to exceed the lesser of 50% of their eligible compensation or the limit set forth in the Internal Revenue Code. The catch-up contributions
are not eligible for matching contributions. In addition, the Plan provides for discretionary profit-sharing contributions as determined by the
Board of Directors. Such contributions to the Plan are allocated among eligible participants in the proportion of their salaries to the total
salaries of all participants. There were no discretionary profit-sharing contributions made in fiscal 2008, 2007, or 2006.
The Company also sponsors other 401(k) plans that arose from acquisitions of other companies. The Company’s contributions to
these plans were not material to the Company on either an individual or aggregate basis for any of the fiscal years presented.