Pizza Hut 2010 Annual Report Download - page 153

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The discounted value of the future cash flows expected to be generated by the restaurant and retained by the franchisee is
reduced by future royalties the franchisee will pay the Company. The Company thus considers the fair value of future
royalties to be received under the franchise agreement as fair value retained in its determination of the goodwill to be
written off when refranchising. Others may consider the fair value of these future royalties as fair value disposed of and
thus would conclude that a larger percentage of a reporting unit’s fair value is disposed of in a refranchising transaction.
During 2010, the Company’s reporting units with the most significant refranchising activity and recorded goodwill were
our Taiwan business unit and our Pizza Hut-U.S. operating segment. Within our Taiwan business unit, 124 restaurants
were refranchised (representing 100% of beginning of year company units) and $7 million in goodwill was written off
(representing 19% of beginning of year goodwill). Within our Pizza Hut-U.S. operating segment, 278 restaurants were
refranchised (representing 43% of beginning of year company units) and $3 million in goodwill was written off
(representing 4% of beginning of year goodwill).
See Note 2 for a further discussion of our policies regarding goodwill.
Allowances for Franchise and License Receivables/Guarantees
Franchise and license receivable balances include royalties, initial fees as well as other ancillary receivables such as rent
and fees for support services. Our reserve for franchisee or licensee receivable balances is based upon pre-defined aging
criteria or upon the occurrence of other events that indicate that we may not collect the balance due. This methodology
results in an immaterial amount of unreserved past due receivable balances at December 25, 2010. As such, we believe
our allowance for franchise and license receivables is adequate to cover potential exposure from uncollectible receivable
balances at December 25, 2010.
We have historically issued certain guarantees on behalf of franchisees primarily as a result of 1) assigning our interest in
obligations under operating leases, primarily as a condition to the refranchising of certain Company restaurants, 2)
facilitating franchisee development and 3) equipment financing arrangements to facilitate the launch of new sales layers
by franchisees. We recognize a liability for the fair value of such guarantees upon inception of the guarantee and upon
any subsequent modification, such as renewals, when we remain contingently liable. The fair value of a guarantee is the
estimated amount at which the liability could be settled in a current transaction between willing unrelated parties.
The potential total exposure for lease assignments is significant when aggregated, with approximately $450 million
representing the present value, discounted at our pre-tax cost of debt, of the minimum payments of the assigned leases at
December 25, 2010. Current franchisees are the primary lessees under the vast majority of these leases. Additionally, we
have guaranteed approximately $23 million of franchisee loans for various equipment programs. We generally have
cross-default provisions with these franchisees that would put them in default of their franchise agreement in the event of
non-payment under assigned leases and certain of the equipment loan programs. We believe these cross-default
provisions significantly reduce the risk that we will be required to make payments under these guarantees and,
historically, we have not been required to make significant payments for guarantees. If payment on these guarantees
becomes probable and estimable, we record a liability for our exposure under these guarantees. At December 25, 2010,
we have recorded an immaterial liability for our exposure under these guarantees which we consider to be probable and
estimable. If we begin to be required to perform under these guarantees to a greater extent, our results of operations could
be negatively impacted.
See Note 2 for a further discussion of our policies regarding franchise and license operations.
See Note 19 for a further discussion of our guarantees.
Form 10-K