Estee Lauder 2002 Annual Report Download - page 52

THEEST{E LAUDER COMPANIES INC.
remote and in any event would not be material to the con-
solidated financial results. The contracts have varying
maturities through the end of July 2003. Costs associated
with entering into such contracts have not been material
to our consolidated financial results. We do not utilize
derivative financial instruments for trading or speculative
purposes. At June 30, 2002, we had foreign currency con-
tracts in the form of forward exchange contracts in the
amount of $227.2 million. The foreign currencies included
in these contracts (notional value stated in U.S. dollars)
are principally the Japanese yen ($70.7 million), Euro
($31.7 million), British pound ($26.2 million), Australian
dollar ($16.0 million), Swiss franc ($11.8 million), Danish
krone ($11.6 million) and Canadian dollar ($10.5 million).
Interest Rate Risk Management
In February 2002, we paid off our outstanding term loan,
which had a floating interest rate, with the proceeds from
our January 2002 public debt offering of 6% Senior
Notes. As a result, we terminated the interest rate swaps
and options that were previously outstanding to mitigate
interest rate volatility. No material gain or loss resulted
from the termination of those contracts.
Market Risk
We use a value-at-risk model to assess the market risk of
our derivative financial instruments. Value-at-risk repre-
sents the potential losses for an instrument or portfolio
from adverse changes in market factors for a specified
time period and confidence level. We estimate value-at-
risk across all of our derivative financial instruments using
a model with historical volatilities and correlations calcu-
lated over the past 250 day period. The measured value-
at-risk, calculated as an average, for the twelve months
ended June 30, 2002, related to our foreign exchange
contracts, using a variance/co-variance model with a 95
percent confidence level and assuming normal market
conditions, was $10.0 million.
Our calculated value-at-risk exposure represents an
estimate of reasonably possible net losses that would be
recognized on our portfolio of derivative financial instru-
ments assuming hypothetical movements in future mar-
ket rates and is not necessarily indicative of actual results,
which may or may not occur. It does not represent the
maximum possible loss nor any expected loss that may
occur, since actual future gains and losses will differ from
those estimated, based upon actual fluctuations in mar-
ket rates, operating exposures, and the timing thereof, and
changes in the portfolio of derivative financial instruments
during the year.
We believe, however, that any loss incurred would be
offset by the effects of market rate movements on the
respective underlying transactions for which the hedge
is intended.
ACCOUNTING STANDARDS
Effective July 1, 2001, we adopted SFAS No. 141,
“Business Combinations” and SFAS No. 142, “Goodwill
and Other Intangible Assets”. These statements estab-
lished financial accounting and reporting standards for
acquired goodwill and other intangible assets. Specifically,
the standards address how acquired intangible assets
should be accounted for both at the time of acquisition
and after they have been recognized in the financial
statements. The provisions of SFAS No. 141 apply to all
business combinations initiated after June 30, 2001.
In accordance with SFAS No. 142, intangible assets,
including purchased goodwill, must be evaluated for
impairment. Those intangible assets that will continue to
be classified as goodwill or as other intangibles with
indefinite lives are no longer amortized.
In accordance with SFAS No. 142, we completed our
transitional impairment testing of intangible assets during
the first quarter of fiscal 2002. That effort, and preliminary
assessments of our identifiable intangible assets, indicated
that little or no adjustment would be required upon adop-
tion of this pronouncement. The impairment testing is per-
formed in two steps: (i) we determine impairment by
comparing the fair value of a reporting unit with its carry-
ing value, and (ii) if there is an impairment, we measure
the amount of impairment loss by comparing the implied
fair value of goodwill with the carrying amount of that
goodwill. Subsequent to the first quarter of fiscal 2002,
with the assistance of a third-party valuation firm, we
finalized the testing of goodwill. Using conservative, but
realistic assumptions to model our jane business, we
determined that the carrying value of this unit was slightly
greater than the derived fair value, indicating an impair-
ment in the recorded goodwill. To determine fair value,
we relied on three valuation models: guideline public
companies, acquisition analysis and discounted cash flow.
For goodwill valuation purposes only, the revised fair
value of this unit was allocated to the assets and liabilities
of the business unit to arrive at an implied fair value of
goodwill, based upon known facts and circumstances, as
if the acquisition occurred currently. This allocation
resulted in a write-down of recorded goodwill in the
amount of $20.6 million, which has been reported as the
cumulative effect of a change in accounting principle,
as of July 1, 2001, in the accompanying consolidated
statements of earnings. On a product category basis,
this write-down would have primarily impacted our
makeup category.
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