Pizza Hut 2011 Annual Report Download - page 161

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recoverable, we write-down an impaired restaurant to its estimated fair value, which becomes its new cost basis. Fair value is an
estimate of the price a franchisee would pay for the restaurant and its related assets and is determined by discounting the estimated
future after-tax cash flows of the restaurant, which include a deduction for the royalty the franchisee would pay us. The after-tax
cash flows incorporate reasonable assumptions we believe a franchisee would make such as sales growth and margin
improvement. The discount rate used in the fair value calculation is our estimate of the required rate of return that a franchisee
would expect to receive when purchasing a similar restaurant and the related long-lived assets. The discount rate incorporates
rates of returns for historical refranchising market transactions and is commensurate with the risks and uncertainty inherent in the
forecasted cash flows.
In executing our refranchising initiatives, we most often offer groups of restaurants for sale. When we believe a restaurant or
groups of restaurants will be refranchised for a price less than their carrying value, but do not believe the restaurant(s) have met
the criteria to be classified as held for sale, we review the restaurants for impairment. We evaluate the recoverability of these
restaurant assets at the date it is considered more likely than not that they will be refranchised by comparing estimated sales
proceeds plus holding period cash flows, if any, to the carrying value of the restaurant or group of restaurants. For restaurant
assets that are not deemed to be recoverable, we recognize impairment for any excess of carrying value over the fair value of the
restaurants, which is based on the expected net sales proceeds. To the extent ongoing agreements to be entered into with the
franchisee simultaneous with the refranchising are expected to contain terms, such as royalty rates, not at prevailing market rates,
we consider the off-market terms in our impairment evaluation. We recognize any such impairment charges in Refranchising
(gain) loss. We classify restaurants as held for sale and suspend depreciation and amortization when (a) we make a decision to
refranchise; (b) the restaurants can be immediately removed from operations; (c) we have begun an active program to locate a
buyer; (d) the restaurant is being actively marketed at a reasonable market price; (e) significant changes to the plan of sale are not
likely; and (f) the sale is probable within one year. Restaurants classified as held for sale are recorded at the lower of their carrying
value or fair value less cost to sell. We recognize estimated losses on restaurants that are classified as held for sale in Refranchising
(gain) loss.
Refranchising (gain) loss includes the gains or losses from the sales of our restaurants to new and existing franchisees, including
impairment charges discussed above, and the related initial franchise fees. We recognize gains on restaurant refranchisings when
the sale transaction closes, the franchisee has a minimum amount of the purchase price in at-risk equity, and we are satisfied that
the franchisee can meet its financial obligations. If the criteria for gain recognition are not met, we defer the gain to the extent
we have a remaining financial exposure in connection with the sales transaction. Deferred gains are recognized when the gain
recognition criteria are met or as our financial exposure is reduced. When we make a decision to retain a store, or group of stores,
previously held for sale, we revalue the store at the lower of its (a) net book value at our original sale decision date less normal
depreciation and amortization that would have been recorded during the period held for sale or (b) its current fair value. This
value becomes the store’s new cost basis. We record any resulting difference between the store’s carrying amount and its new
cost basis to Closure and impairment (income) expense.
When we decide to close a restaurant, it is reviewed for impairment and depreciable lives are adjusted based on the expected
disposal date. Other costs incurred when closing a restaurant such as costs of disposing of the assets as well as other facility-
related expenses from previously closed stores are generally expensed as incurred. Additionally, at the date we cease using a
property under an operating lease, we record a liability for the net present value of any remaining lease obligations, net of estimated
sublease income, if any. Any costs recorded upon store closure as well as any subsequent adjustments to liabilities for remaining
lease obligations as a result of lease termination or changes in estimates of sublease income are recorded in Closures and impairment
(income) expenses. To the extent we sell assets, primarily land, associated with a closed store, any gain or loss upon that sale is
also recorded in Closures and impairment (income) expenses.
Considerable management judgment is necessary to estimate future cash flows, including cash flows from continuing use, terminal
value, sublease income and refranchising proceeds. Accordingly, actual results could vary significantly from our estimates.
Impairment of Investments in Unconsolidated Affiliates. We record impairment charges related to an investment in an
unconsolidated affiliate whenever events or circumstances indicate that a decrease in the fair value of an investment has occurred
which is other than temporary. In addition, we evaluate our investments in unconsolidated affiliates for impairment when they
have experienced two consecutive years of operating losses. We recorded no impairment associated with our investments in
unconsolidated affiliates during 2011, 2010 and 2009.
Guarantees. We recognize, at inception of a guarantee, a liability for the fair value of certain obligations undertaken. The majority
of our guarantees are issued as a result of assigning our interest in obligations under operating leases as a condition to the
refranchising of certain Company restaurants. We recognize a liability for the fair value of such lease guarantees upon refranchising
Form 10-K