Wendy's 2011 Annual Report Download - page 60

We did not initially assess our goodwill for impairment using the qualitative factors in the fourth quarter
of 2011 and, therefore, we performed our test for impairment using a two-step quantitative process. Under
the first step, the fair value of the reporting unit is compared with its carrying value (including goodwill). If
the fair value of the reporting unit is less than its carrying value, an indication of goodwill impairment
exists for the reporting unit and we must perform step two of the impairment test (measurement). Step
two of the impairment test, if necessary, requires the estimation of the fair value for the assets and liabilities
of a reporting unit in order to calculate the implied fair value of the reporting unit’s goodwill. Under step
two, an impairment loss is recognized to the extent the carrying amount of the reporting unit’s goodwill
exceeds the implied fair value of goodwill. The fair value of the reporting unit is determined by
management and is based on the results of (1) estimates we made regarding the present value of the
anticipated cash flows associated with each reporting unit (the “income approach”) and (2) the indicated
value of the reporting units based on a comparison and correlation of the Companies and other similar
companies (the “market approach”).
The income approach, which considers factors unique to each of our reporting units and related long range
plans that may not be comparable to other companies and that are not yet publicly available, is dependent
on several critical management assumptions. These assumptions include estimates of future sales growth,
gross margins, operating costs, income tax rates, terminal value growth rates, capital expenditures and the
weighted average cost of capital (discount rate). Anticipated cash flows used under the income approach
are developed every fourth quarter in conjunction with our annual budgeting process and also incorporate
amounts and timing of future cash flows based on our long range plan.
The discount rates used in the income approach are an estimate of the rate of return that a market
participant would expect of each reporting unit. To select an appropriate rate for discounting the future
earnings stream, a review was made of short-term interest rate yields of long-term corporate and
government bonds, as well as the typical capital structure of companies in the industry. The discount rates
used for each reporting unit may vary depending on the risk inherent in the cash flow projections, as well
as the risk level that would be perceived by a market participant. A terminal value is included at the end of
the projection period used in our discounted cash flow analyses to reflect the remaining value that each
reporting unit is expected to generate. The terminal value represents the present value in the last year of the
projection period of all subsequent cash flows into perpetuity. The terminal value growth rate is a key
assumption used in determining the terminal value as it represents the annual growth of all subsequent
cash flows into perpetuity.
Under the market approach, we apply the guideline company method in estimating fair value. The
guideline company method makes use of market price data of corporations whose stock is actively traded
in a public market. The corporations we selected as guideline companies are engaged in a similar line of
business or are subject to similar financial and business risks, including the opportunity for growth. The
guideline company method of the market approach provides an indication of value by relating the equity
or invested capital (debt plus equity) of guideline companies to various measures of their earnings and cash
flow, then applying such multiples to the business being valued. The result of applying the guideline
company approach is adjusted based on the incremental value associated with a controlling interest in the
business. This “control premium” represents the amount a new controlling shareholder would pay for the
benefits resulting from synergies and other potential benefits derived from controlling the enterprise.
We performed our annual goodwill impairment test in the fourth quarter of 2011. Our assessment of
goodwill of the Wendy’s North America restaurants indicated that there had been no impairment and that
the fair value of this reporting unit of $3,179 million was approximately 10% in excess of its carrying
value.
The estimated fair value of our reporting units are subject to change as a result of many factors including,
among others, any changes in our business plans, changing economic conditions and the competitive
environment. Should actual cash flows and our future estimates vary adversely from those estimates we use,
we may be required to recognize goodwill impairment charges in future years.
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