IBM 2010 Annual Report Download - page 76

Notes to Consolidated Financial Statements
International Business Machines Corporation and Subsidiary Companies74
Net periodic pension and nonpension postretirement benefit
cost/(income) is recorded in the Consolidated Statement of
Earnings and includes service cost, interest cost, expected return
on plan assets, amortization of prior service costs/(credits) and
(gains)/losses previously recognized as a component of other
comprehensive income/(loss) and amortization of the net transition
asset remaining in accumulated other comprehensive income/
(loss). Service cost represents the actuarial present value of
participant benefits earned in the current year. Interest cost
represents the time value of money cost associated with the
passage of time. Certain events, such as changes in employee
base, plan amendments and changes in actuarial assumptions,
result in a change in the benefit obligation and the corresponding
change in other comprehensive income/(loss). The result of these
events is amortized as a component of net periodic cost/(income)
over the service lives or life expectancy of the participants,
depending on the plan, provided such amounts exceed thresholds
which are based upon the benefit obligation or the value of plan
assets. Net periodic cost/(income) is recorded in cost, SG&A and
RD&E in the Consolidated Statement of Earnings based on the
employees’ respective function.
(Gains)/losses and prior service costs/(credits) not recognized
as a component of net periodic cost/(income) in the Consolidated
Statement of Earnings as they arise are recognized as a compo-
nent of accumulated other comprehensive income/(loss) in the
Consolidated Statement of Changes in Equity, net of tax. Those
(gains)/losses and prior service costs/(credits) are subsequently
recognized as a component of net periodic cost/(income) pursuant
to the recognition and amortization provisions of applicable
accounting guidance. (Gains)/losses arise as a result of differences
between actual experience and assumptions or as a result of
changes in actuarial assumptions. Prior service costs/(credits)
represent the cost of benefit improvements attributable to prior
service granted in plan amendments.
The measurement of benefit obligations and net periodic cost/
(income) is based on estimates and assumptions approved by the
company’s management. These valuations reflect the terms of the
plans and use participant-specific information such as compensa-
tion, age and years of service, as well as certain assumptions,
including estimates of discount rates, expected return on plan
assets, rate of compensation increases, interest crediting rates
and mortality rates.
Defined Contribution Plans
The company records expense for defined contribution plans for
the company’s contribution when the employee renders service
to the company, essentially coinciding with the cash contributions
to the plans. The expense is recorded in cost, SG&A and RD&E in
the Consolidated Statement of Earnings based on the employees’
respective function.
Stock-Based Compensation
Stock-based compensation represents the cost related to stock-
based awards granted to employees. The company measures stock-
based compensation cost at grant date, based on the estimated
fair value of the award and recognizes the cost on a straight-line
basis (net of estimated forfeitures) over the employee requisite
service period. The company estimates the fair value of stock
options using a Black-Scholes valuation model. The company also
grants its employees Restricted Stock Units (RSUs), including
Retention Restricted Stock Units (RRSUs), or Performance Share
Units (PSUs). RSUs are stock awards granted to employees that
entitle the holder to shares of common stock as the award vests,
typically over a one- to five-year period. The fair value of the awards
is determined and fixed on the grant date based on the company’s
stock price, adjusted for the exclusion of dividend equivalents. All
stock-based compensation cost is recorded in cost, SG&A, and
RD&E in the Consolidated Statement of Earnings based on the
employees’ respective function.
The company records deferred tax assets for awards that result
in deductions on the company’s income tax returns, based on the
amount of compensation cost recognized and the statutory tax
rate in the jurisdiction in which it will receive a deduction. Differences
between the deferred tax assets recognized for financial reporting
purposes and the actual tax deduction reported on the income
tax return are recorded in additional paid-in capital (if the tax deduc-
tion exceeds the deferred tax asset) or in the Consolidated Statement
of Earnings (if the deferred tax asset exceeds the tax deduction
and no additional paid-in capital exists from previous awards). See
note T, “Stock-Based Compensation,” on pages 109 to 112 for
additional information.
Income Taxes
Income tax expense is based on reported income before income
taxes. Deferred income taxes reflect the tax effect of temporary
differences between asset and liability amounts that are recognized
for financial reporting purposes and the amounts that are recog-
nized for income tax purposes. These deferred taxes are measured
by applying currently enacted tax laws. Valuation allowances
are recognized to reduce deferred tax assets to the amount that
will more likely than not be realized. In assessing the need for a
valuation allowance, management considers all available evidence
for each jurisdiction including past operating results, estimates of
future taxable income and the feasibility of ongoing tax planning
strategies. When the company changes its determination as to the
amount of deferred tax assets that can be realized, the valuation
allowance is adjusted with a corresponding impact to income tax
expense in the period in which such determination is made.