Cisco 2012 Annual Report Download - page 95

The Company assesses the allowance for credit loss related to financing receivables on either an individual or a
collective basis. The Company considers various factors in evaluating lease and loan receivables and the earned
portion of financed service contracts for possible impairment on an individual basis. These factors include the
Company’s historical experience, credit quality and age of the receivable balances, and economic conditions that
may affect a customer’s ability to pay. When the evaluation indicates that it is probable that all amounts due
pursuant to the contractual terms of the financing agreement, including scheduled interest payments, are unable
to be collected, the financing receivable is considered impaired. All such outstanding amounts, including any
accrued interest, will be assessed and fully reserved at the customer level. Typically, the Company also considers
receivables with a risk rating of 8 or higher to be impaired and will include them in the individual assessment for
allowance. The Company evaluates the remainder of its financing receivables portfolio for impairment on a
collective basis and records an allowance for credit loss at the portfolio segment level. Effective at the beginning
of the second quarter of fiscal 2012, the Company refined its methodology for determining the portion of its
allowance for credit loss that is evaluated on a collective basis. The refinement consists of more systematically
giving effect to economic conditions, concentration of risk, and correlation. The Company also began to use
expected default frequency rates published by a major third-party credit-rating agency as well as its own
historical loss rate in the event of default. Previously the Company used only historical loss rates published by
the same third-party credit-rating agency. These refinements are intended to better identify changes in
macroeconomic conditions and credit risk. There was not a material change to the Company’s total allowance for
credit loss related to financing receivables as a result of these methodology refinements.
Expected default frequency rates are published quarterly by a major third-party credit-rating agency, and the
internal credit risk rating is derived by taking into consideration various customer-specific factors and
macroeconomic conditions. These factors, which include the strength of the customer’s business and financial
performance, the quality of the customer’s banking relationships, the Company’s specific historical experience
with the customer, the performance and outlook of the customer’s industry, the customer’s legal and regulatory
environment, the potential sovereign risk of the geographic locations in which the customer is operating, and
independent third-party evaluations, are updated regularly or when facts and circumstances indicate that an
update is deemed necessary. The Company’s internal credit risk ratings are categorized as 1 through 10, with the
lowest credit risk rating representing the highest quality financing receivables.
Financing receivables are written off at the point when they are considered uncollectible and all outstanding
balances, including any previously earned but uncollected interest income, will be reversed and charged against
earnings. The Company does not typically have any partially written-off financing receivables.
Outstanding financing receivables that are aged 31 days or more from the contractual payment date are
considered past due. The Company does not accrue interest on financing receivables that are considered impaired
or more than 90 days past due unless either the receivable has not been collected due to administrative reasons or
the receivable is well secured. Financing receivables may be placed on nonaccrual status earlier if, in
management’s opinion, a timely collection of the full principal and interest becomes uncertain. After a financing
receivable has been categorized as nonaccrual, interest will be recognized when cash is received. A financing
receivable may be returned to accrual status after all of the customer’s delinquent balances of principal and
interest have been settled and the customer remains current for an appropriate period.
The Company facilitates third-party financing arrangements for channel partners, consisting of revolving short-
term financing, generally with payment terms ranging from 60 to 90 days. In certain instances, these financing
arrangements result in a transfer of the Company’s receivables to the third party. The receivables are
derecognized upon transfer, as these transfers qualify as true sales, and the Company receives a payment for the
receivables from the third party based on the Company’s standard payment terms. These financing arrangements
facilitate the working capital requirements of the channel partners, and, in some cases, the Company guarantees a
portion of these arrangements. The Company also provides financing guarantees for third-party financing
arrangements extended to end-user customers related to leases and loans, which typically have terms of up to
three years. The Company could be called upon to make payments under these guarantees in the event of
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