Western Digital 2008 Annual Report Download - page 63

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Stock-Based Compensation
The Company accounts for all stock-based compensation in accordance with the fair value recognition provisions in
SFAS No. 123(R), “Share-Based Payment” (“SFAS 123(R)”). Under the fair value recognition provisions of SFAS 123(R),
stock-based compensation cost is measured at the grant date based on the value of the award and is recognized as expense
over the vesting period. The fair values of all stock options granted are estimated using a binomial model, and the fair
values of all Employee Stock Purchase Plan (“ESPP”) shares are estimated using the Black-Scholes-Merton option pricing
model. Both the binomial and the Black-Scholes-Merton models require the input of highly subjective assumptions.
Under SFAS 123(R), the Company is required to use judgment in estimating the amount of stock-based awards that are
expected to be forfeited. If actual forfeitures differ significantly from the original estimate, stock-based compensation
expense and the results of operations could be materially impacted.
Other Comprehensive Income (Loss)
Other comprehensive income (loss) refers to revenue, expenses, gains and losses that are recorded as an element of
shareholders’ equity but are excluded from net income. The Company’s other comprehensive income (loss) is comprised
of unrealized gains and losses on foreign currency contracts.
Foreign Exchange Contracts
Although the majority of the Company’s transactions are in U.S. dollars, some transactions are based in various
foreign currencies. The Company purchases short-term, forward exchange contracts to hedge the impact of foreign
currency fluctuations on certain underlying assets, liabilities and commitments for operating expenses and product costs
denominated in foreign currencies. The contracts have maturity dates that do not exceed 12 months. The Company does
not purchase short-term forward exchange contracts for trading purposes.
The Company applies the provisions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging
Activities” (“SFAS 133”), as amended, which establishes accounting and reporting standards for derivative instruments
embedded in other contracts and for hedging activities. The Company had outstanding forward exchange contracts with
commercial banks for Thai Baht, Malaysian Ringgit, British Pound Sterling and Euro with values of $1.3 billion and
$493 million at June 27, 2008 and June 29, 2007, respectively. Malaysian Ringgit contracts are designated as cash flow
hedges. Euro and British Pound Sterling contracts are designated as fair value hedges. Thai Baht contracts include both
cash flow and fair value hedges.
If the derivative is designated as a cash flow hedge, the effective portion of the change in fair value of the derivative is
initially deferred in other comprehensive income (loss), net of tax. These amounts are subsequently recognized into
earnings when the underlying cash flow being hedged is recognized into earnings. Recognized gains and losses on foreign
currency contracts entered into for manufacturing related activities are reported in cost of revenues. Hedge effectiveness is
measured by comparing the hedging instrument’s cumulative change in fair value from inception to maturity to the
underlying exposure’s terminal value. The Company has determined that all of its cash flow hedging instruments for all
years presented were effective as defined under SFAS 133.
Fair value hedges are not designated as hedging instruments, and therefore, the change in the instrument’s fair value
is recognized currently in earnings and is reported as a component of non-operating income. Changes in fair value on
these contracts were not material to the consolidated financial statements for all years presented.
Use of Estimates
Company management has made estimates and assumptions relating to the reporting of certain assets and liabilities
in conformity with U.S. GAAP. These estimates and assumptions have been applied using methodologies which are
consistent throughout the periods presented. However, actual results could differ from these estimates.
57
WESTERN DIGITAL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)