Alcoa 2009 Annual Report Download - page 78

Discontinued Operations and Assets Held For Sale. The fair values of all businesses to be divested are estimated
using accepted valuation techniques such as a DCF model, valuations performed by third parties, earnings multiples, or
indicative bids, when available. A number of significant estimates and assumptions are involved in the application of
these techniques, including the forecasting of markets and market share, sales volumes and prices, costs and expenses,
and multiple other factors. Management considers historical experience and all available information at the time the
estimates are made; however, the fair values that are ultimately realized upon the sale of the businesses to be divested
may differ from the estimated fair values reflected in the Consolidated Financial Statements.
Pension Plans and Other Postretirement Benefits. Liabilities and expenses for pension plans and other
postretirement benefits are determined using actuarial methodologies and incorporate significant assumptions,
including the interest rate used to discount the future estimated liability, the long-term rate of return on plan assets, and
several assumptions relating to the employee workforce (salary increases, medical costs, retirement age, and mortality).
The interest rate used to discount future estimated liabilities is determined considering the interest rates available at
year-end on debt instruments that could be used to settle the obligations of the plan. The impact on the liabilities of a
change in the discount rate of 1/4 of 1% is approximately $340 and either a charge or credit of $16 to after-tax earnings
in the following year. The long-term rate of return on plan assets is estimated by considering expected returns on
current asset allocations, which is supported by historical actual returns, and is generally applied to a five-year average
market value of assets. A change in the assumption for the long-term rate of return on plan assets of 1/4 of 1% would
impact after-tax earnings by approximately $16 for 2010. In 2009, the expected long-term rate of return was reduced to
8.75% due to lower future expected market returns as a result of the global economic downturn. This was supported by
the fact that for the first time in 20 years in 2008, the 10-year moving average of actual performance fell below 9%,
even though the 20-year moving average continued to exceed 9%. In 2009, the 20-year moving average of actual
performance fell below 9% for the first time in more than 15 years, but has continued to exceed 8.75%. The expected
long-term rate of return on plan assets will be 8.75% in 2010.
In 2009, a net charge of $182 ($102 after-tax) was recorded in other comprehensive loss primarily due to a 25 basis
point decrease in the discount rate, which was somewhat offset by the favorable performance of the plan assets and the
recognition of actuarial losses and prior service costs. In 2008, a net charge of $2,181 ($1,374 after-tax) was recorded
in other comprehensive loss primarily due to the decrease in the fair value of plan assets, which was somewhat offset
by the decrease in the accumulated benefit obligation (as a result of a 20 basis-point increase in the discount rate) and
the recognition of actuarial losses and prior service costs. Additionally, in both 2009 and 2008, a charge of $8 was
recorded in accumulated other comprehensive loss due to the reclassification of deferred taxes related to the Medicare
Part D prescription drug subsidy.
Stock-based Compensation. Alcoa recognizes compensation expense for employee equity grants using the
non-substantive vesting period approach, in which the expense (net of estimated forfeitures) is recognized ratably over
the requisite service period based on the grant date fair value. The fair value of new stock options is estimated on the
date of grant using a lattice-pricing model. Determining the fair value of stock options at the grant date requires
judgment, including estimates for the average risk-free interest rate, dividend yield, volatility, annual forfeiture rate,
and exercise behavior. These assumptions may differ significantly between grant dates because of changes in the actual
results of these inputs that occur over time.
As part of Alcoa’s stock-based compensation plan design, individuals who are retirement-eligible have a six-month
requisite service period in the year of grant. Equity grants are issued in January each year. As a result, a larger portion
of expense will be recognized in the first and second quarters of each year for these retirement-eligible employees.
Compensation expense recorded in 2009, 2008, and 2007 was $87 ($58 after-tax), $94 ($63 after-tax), and $97 ($63
after-tax), respectively. Of this amount, $21, $19, and $19 in 2009, 2008, and 2007, respectively, pertains to the
acceleration of expense related to retirement-eligible employees.
On December 31, 2005, Alcoa accelerated the vesting of 11 million unvested stock options granted to employees in
2004 and on January 13, 2005. The 2004 and 2005 accelerated options had weighted average exercise prices of $35.60
and $29.54, respectively, and in the aggregate represented approximately 12% of Alcoa’s total outstanding options.
The decision to accelerate the vesting of the 2004 and 2005 options was made primarily to avoid recognizing the
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