Raytheon 2004 Annual Report Download - page 54

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performed, the impact of change orders, availability of materials, the impact of delayed performance, availability
and timing of funding from the customer, award fee estimations, and the recoverability of claims. In 2004, 2003,
and 2002, operating income as a percent of net sales for the defense businesses did not vary by more than 1.6
percent. If operating income as a percent of net sales for the defense businesses had been higher or lower by 1.6
percent in 2004, the Company’s operating income would have changed by approximately $300 million.
The Company uses lot accounting for new commercial aircraft introductions at Raytheon Aircraft. Lot
accounting involves selecting an initial lot size at the time a new aircraft begins to be delivered and measuring an
average cost over the entire lot for each aircraft sold. The costs attributed to aircraft delivered are based on the
estimated average cost of all aircraft in the lot and are determined under the learning curve concept which
anticipates a predictable decrease in unit costs from cost reduction initiatives and as tasks and production
techniques become more efficient through repetition. Once the initial lot has been completed, the use of lot
accounting is discontinued. The selection of lot size is a critical judgment. The Company determines lot size based
on several factors, including the size of firm backlog, market and competitive conditions, the expected annual
production for the aircraft, and experience on similar new aircraft. The size of the initial lot for the Beechcraft
Premier I is 200 units. The size of the initial lot for the Hawker Horizon is 75 units. A five percent increase in the
remaining estimated costs to produce the initial lots of these two aircraft would reduce the Company’s operating
income by approximately $75 million in the aggregate.
The valuation of used aircraft in inventories, which are stated at cost, but not in excess of realizable value,
requires significant judgment. As part of the assessment of realizable value, the Company must evaluate many
factors including current market conditions, future market conditions, the age and condition of the aircraft, and
availability levels for the aircraft in the market. A five percent decrease in the aggregate realizable value of used
aircraft in inventory at December 31, 2004, would result in an impairment charge of approximately $15 million.
The valuation of aircraft materials and parts that support the worldwide fleet of aircraft, which are stated at cost,
but not in excess of realizable value, also requires significant judgment. As part of the assessment of realizable value,
the Company must evaluate many factors including the expected useful life of the aircraft, some of which have
remained in service for up to 50 years. A five percent decrease in the aggregate realizable value of aircraft materials
and parts at December 31, 2004, would result in an impairment charge of approximately $10 million.
The Company evaluates the recoverability of long-lived assets upon indication of possible impairment by
measuring the carrying amount of the assets against the related estimated undiscounted cash flows. When an
evaluation indicates that the future undiscounted cash flows are not sufficient to recover the carrying value of the
assets, the assets are adjusted to their estimated fair value. The determination of what constitutes an indication of
possible impairment, the estimation of future cash flows, and the determination of estimated fair value are all
significant judgments. In addition, the Company performs an annual goodwill impairment test in the fourth
quarter of each year. The Company estimates the fair value of reporting units using a discounted cash flow model
based on the Company’s most recent five-year plan and compares the estimated fair value to the net book value of
the reporting unit, including goodwill. Preparation of forecasts for use in the five-year plan involve significant
judgments. Changes in these forecasts could affect the estimated fair value of certain of the Company’s reporting
units and could result in a goodwill impairment charge in a future period, however, a 10 percent decrease in the
current fair value of each of the Company’s reporting units would not result in a goodwill impairment charge.
The Company has pension plans covering the majority of its employees, including certain employees in foreign
countries. The selection of the assumptions used to determine pension expense or income involves significant
judgment. The Company’s long-term return on asset (ROA) and discount rate assumptions are considered the key
variables in determining pension expense or income. To develop the long-term ROA assumption, the Company
considered the current level of expected returns on risk-free investments, the historical level of the risk premium
associated with the other asset classes in which the Company has invested pension plan assets, and the expectations