Eli Lilly 2004 Annual Report Download - page 35

FINANCIALS
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Note 2: Implementation of New Financial Accounting Pronouncements
In 2001, the Financial Accounting Standards Board (FASB) issued SFAS 143, Accounting for Asset Retirement Obli-
gations. SFAS 143 requires companies to record the fair value of a liability for an asset retirement obligation in the
period in which it is incurred, which is adjusted to its present value each subsequent period. In addition, companies
must capitalize a corresponding amount by increasing the carrying amount of the related long-lived asset, which
is depreciated over the useful life of the related long-lived asset. The adoption of SFAS 143 on January 1, 2003, had
no impact on our consolidated fi nancial position or results of operations.
In 2002, the FASB issued SFAS 146, Accounting for Costs Associated with Exit or Disposal Activities. SFAS
146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is
incurred. Severance pay under SFAS 146, in many cases, would be recognized over the remaining service period
rather than at the time the plan is communicated. The provisions of SFAS 146 are effective for exit or disposal
activities that are initiated after December 31, 2002. We adopted SFAS 146 for any actions initiated after January 1,
2003, and any future exit costs or disposal activities will be subject to this statement.
In 2002, the FASB issued FASB Interpretation (FIN) 45, Guarantor’s Accounting and Disclosure Requirements
for Guarantees, Including Indirect Guarantees of Indebtedness of Others. FIN 45 requires an issuer of a guarantee
to recognize an initial liability for the fair value of the obligations covered by the guarantee. FIN 45 also addresses
the disclosures required by a guarantor in interim and annual fi nancial statements regarding obligations under
guarantees. We have adopted the requirement for recognition of liabilities for the fair value of guaranteed obliga-
tions prospectively for guarantees entered into after January 1, 2003.
In 2003, the FASB issued FASB Interpretation (FIN) 46, Consolidation of Variable Interest Entities. FIN 46
defi nes a variable interest entity (VIE) as a corporation, partnership, trust, or any other legal structure that does
not have equity investors with a controlling fi nancial interest or has equity investors that do not provide suffi cient
fi nancial resources for the entity to support its activities. FIN 46 requires consolidation of a VIE by the primary ben-
efi ciary of the assets, liabilities, and results of activities. FIN 46 also requires certain disclosures by all holders of
a signifi cant variable interest in a VIE that are not the primary benefi ciary. We do not have any material investments
in variable interest entities; therefore, the adoption of this interpretation in the fi rst quarter of 2004 had no mate-
rial impact on our consolidated fi nancial position or results of operations.
In 2003, the FASB issued SFAS 150, Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity. SFAS 150 establishes standards for how an issuer classifi es and measures certain fi nancial
instruments with characteristics of both liabilities and equity. Financial instruments within the scope of SFAS 150
will now be required to be classifi ed as a liability. This statement also requires enhanced disclosures regarding
alternative methods of settling the instruments and the capital structure of entities. SFAS 150 is effective for all
fi nancial instruments entered into or modifi ed after May 31, 2003, and otherwise is effective at the beginning of the
fi rst interim period beginning after June 15, 2003. The adoption of this statement had no impact on our consoli-
dated fi nancial position or results of operations.
In 2004, the FASB issued FASB Staff Position (FSP) 106-2, which provides guidance regarding accounting for
the effects of the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (MMA). The FSP speci-
fi es that, for plans with benefi ts that are determined to be actuarially equivalent to the Medicare Part D benefi ts,
the plan sponsor will be entitled to a tax-free subsidy under the MMA. We have determined that our plan is actuari-
ally equivalent and, therefore, we are entitled to the subsidy. Following our adoption of the provisions of FSP 106-2
in the second quarter of 2004, we remeasured the accumulated postretirement benefi t obligation (APBO) to refl ect
the effects of the MMA as of the effective date of the MMA (December 8, 2003), and recognized the fi nancial state-
ment effect retroactively. This had no material impact on the APBO, our consolidated fi nancial position, or results
of operations.
In December 2004, the FASB revised and issued SFAS 123, Share-Based Payment (SFAS 123(R)). SFAS 123(R)
eliminates the alternative of using the APB 25 intrinsic value method of accounting for stock options. This revised
statement will require recognition of the cost of employee services received in exchange for awards of equity
instruments based on the fair value of the award at the grant date. This cost is required to be recognized over the
vesting period of the award. The stock-based compensation table in Note 1 illustrates the effect on net income and
earnings per share if we had applied the fair value recognition provisions of SFAS 123 to stock-based employee
compensation. SFAS 123(R) applies to all awards granted, modifi ed, repurchased, or cancelled after June 30, 2005.
We will early-adopt SFAS 123(R) effective January 1, 2005, using the modifi ed prospective method. As a result of
the adoption of this statement, our compensation expense for share-based payments is expected to be approxi-
mately $450 million in 2005 ($300 million net of related tax effects), assuming target levels are achieved for incen-
tive-based equity awards.