American Eagle Outfitters 2005 Annual Report Download - page 59

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AMERICAN EAGLE OUTFITTERS
PAGE 35
SFAS No. 123 (revised 2004), Share-Based Payment
In December 2004, the FASB issued Statement of Financial Accounting Standards No. 123 (revised 2004), Share-
Based Payment (“SFAS No. 123(R)”), a revision of SFAS No. 123. SFAS No. 123(R) requires that companies
recognize all share-based payments to employees, including grants of employee stock options, in the financial
statements. The recognized cost will be based on the fair value of the equity or liability instruments issued. Pro forma
disclosure of this cost will no longer be an alternative under SFAS No. 123(R).
In April 2005, the SEC adopted a rule that amended the effective dates of SFAS No. 123(R). Under this guidance,
SFAS No. 123(R) is effective for public companies at the beginning of the first fiscal year that begins after June 15,
2005. Transition methods available to public companies include either the modified prospective or modified
retrospective adoption. The modified prospective transition method requires that compensation cost be recognized
beginning on the effective date, or date of adoption if earlier, for all share-based payments granted after the date of
adoption and for all unvested awards existing on the date of adoption. The modified retrospective transition method,
which includes the requirements of the modified prospective transition method, additionally requires the restatement of
prior period financial information based on amounts previously recognized under SFAS No. 123 for purposes of pro
forma disclosures. The Company will adopt the new standard in the first quarter of Fiscal 2006 using the modified
prospective transition method.
The Company currently accounts for its stock-based compensation plans under Accounting Principles Board Opinion
No. 25, Accounting for Stock Issued to Employees, using the intrinsic value method. As a result of using this method,
the Company generally recognizes no compensation cost for employee stock options. The adoption of SFAS No.
123(R) and the use of the fair value method will have an impact on our results of operations. SFAS No. 123(R) also
requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash
flow, rather than as an operating cash flow as required under current standards. This requirement will reduce net
operating cash flows and increase net financing cash flows in the periods after adoption. We cannot estimate what those
amounts will be in the future because they are dependent on, among other things, when employees exercise stock options.
Historically, for pro forma reporting purposes the Company has followed the nominal vesting period approach for
stock-based compensation awards with retirement eligibility provisions. Under this approach, the Company recognizes
compensation expense over the vesting period of the award. If an employee retires before the end of the vesting period,
any remaining unrecognized compensation cost is recognized at the date of retirement. SFAS No. 123(R) requires
recognition of compensation cost under a non-substantive vesting period approach. This approach requires recognition
of compensation expense over the period from the grant date to the date retirement eligibility is achieved, if that is
expected to occur during the nominal vesting period. Additionally, for awards granted to retirement eligible employees,
the full compensation cost of an award must be recognized immediately upon grant. Refer to the Stock Option Plan
disclosure on pages 40 and 41 of this Annual Report on Form 10-K for additional discussion of the non-substantive
vesting period approach.
Based on its current analysis and information, the Company has determined that the impact of adopting SFAS No.
123(R) will result in a reduction of net income and expects diluted earnings per share to be reduced by approximately
$0.04 to $0.05 on a full year basis for Fiscal 2006.
Staff Accounting Bulletin No. 107, Share-Based Payment
In March 2005, the SEC issued Staff Accounting Bulletin No. 107, Share-Based Payment (“SAB No. 107”). SAB No.
107 provides guidance regarding the interaction between SFAS No. 123(R) and certain SEC rules and regulations,
including guidance related to valuation methods; the classification of compensation expense; non-GAAP financial
measures; the accounting for income tax effects of share-based payment arrangements; disclosures in Management's
Discussion and Analysis subsequent to adoption of SFAS No. 123(R); and modifications of options prior to the
adoption of SFAS No. 123(R). The Company will implement the guidance in SAB No. 107 in connection with its
adoption of SFAS No. 123(R) in the first quarter of 2006.