Sears 2010 Annual Report Download - page 45

reporting unit by deriving market multiples for reporting units based on assumptions potential market participants
would use in establishing a bid price for the unit. This approach therefore assumes strategic initiatives will result
in improvements in operational performance in the event of purchase, and includes the application of a discount
rate based on market participant assumptions with respect to capital structure and access to capital markets. The
income approach uses a reporting unit’s projection of estimated operating results and cash flows that is
discounted using a weighted-average cost of capital that reflects current market conditions. The projection uses
management’s best estimates of economic and market conditions over the projected period, including growth
rates in sales, costs, estimates of future expected changes in operating margins and cash expenditures. Other
significant estimates and assumptions include terminal value growth rates, future estimates of capital
expenditures and changes in future working capital requirements. Our final estimate of fair value of reporting
units is developed by equally weighting the fair values determined through both the market participant and
income approaches.
If the carrying value of the reporting unit is higher than its fair value, there is an indication that impairment
may exist and the second step must be performed to measure the amount of impairment loss. The amount of
impairment is determined by comparing the implied fair value of reporting unit goodwill to the carrying value of
the goodwill in the same manner as if the reporting unit was being acquired in a business combination.
Specifically, we would allocate the fair value to all of the assets and liabilities of the reporting unit, including any
unrecognized intangible assets, in a hypothetical analysis that would calculate the implied fair value of goodwill.
If the implied fair value of goodwill is less than the recorded goodwill, we would record an impairment charge
for the difference. We did not record any goodwill impairment charges in 2010 or 2009. See Notes 13 and 14 to
the Consolidated Financial Statements for further information regarding goodwill and related impairment charges
recorded during 2008.
The use of different assumptions, estimates or judgments in either step of the goodwill impairment testing
process, such as the estimated future cash flows of our reporting units, the discount rate used to discount such
cash flows, or the estimated fair value of the reporting units’ tangible and intangible assets and liabilities, could
significantly increase or decrease the estimated fair value of a reporting unit or its net assets, and therefore,
impact the related impairment charge. At the 2010 annual impairment test date, the above-noted conclusion that
no indication of goodwill impairment existed at the test date would not have changed had the test been conducted
assuming: 1) a 100 basis point increase in the discount rate used to discount the aggregate estimated cash flows
of our reporting units to their net present value in determining their estimated fair values (without any change in
the aggregate estimated cash flows of our reporting units), or 2) a 100 basis point decrease in the estimated sales
growth rate or terminal period growth rate without a change in the discount rate of each reporting unit.
Based on our sensitivity analysis, we do not believe that the recorded goodwill balance is at risk of
impairment at any reporting unit at the end of the year because the fair value is substantially in excess of the
carrying value and not at risk of failing step one. However, goodwill impairment charges may be recognized in
future periods in one or more of the reporting units to the extent changes in factors or circumstances occur,
including deterioration in the macroeconomic environment, retail industry or in the equity markets, which
includes the market value of our common shares, deterioration in our performance or our future projections, or
changes in our plans for one or more reporting units.
Intangible Asset Impairment Assessments
We review definite and indefinite-lived intangible assets for impairment by comparing the carrying amount
of each asset to the sum of undiscounted cash flows expected to be generated by the asset. We consider both the
market approach and income approach when testing intangible assets with indefinite lives for impairment on an
annual basis. We determined that the income approach, specifically the Relief from Royalty Method, was most
appropriate for analyzing our indefinite-lived assets. This method is based on the assumption that, in lieu of
ownership, a firm would be willing to pay a royalty in order to exploit the related benefits of this asset class. The
Relief from Royalty Method involves two steps: (i) estimation of reasonable royalty rates for the assets and
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