Avid 2004 Annual Report Download - page 33

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important that could trigger an impairment review include significant negative industry or economic trends, unanticipated
competition, loss of key personnel, a more-likely than not expectation that a reporting unit or component thereof will be sold
or otherwise disposed of, significant underperformance relative to the historical or projected future operating results,
significant changes in the manner of use of the acquired assets or the strategy for our overall business, a significant decline
in our stock price for a sustained period, a reduction of our market capitalization relative to our net book value and other
such circumstances.
In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets”, we no longer amortize goodwill and
certain intangible assets. The goodwill impairment test prescribed by SFAS No. 142 requires us to identify reporting units
and to determine estimates of the fair values of our reporting units as of the date we test for impairment. We have two
reporting units that are currently the same as our operating segments, Video and Audio, as described in Note N of "Notes to
Consolidated Financial Statements." Both of our reporting units include goodwill.
In the goodwill impairment analysis, the fair value of each reporting unit is compared to its carrying value,
including goodwill. If the reporting unit’s carrying value exceeds its fair value, we would record an impairment loss equal
to the difference between the carrying value of the goodwill and its implied fair value. In determining the fair values of our
reporting units, we first estimate the fair value of the total company by reference to the quoted market price of our stock and
then allocate this fair value among our reporting units using a discounted cash flow valuation model. This model focuses
primarily on estimates of future revenues and profits for each reporting unit. We estimate these amounts by evaluating
historical trends, current budgets, operating plans and industry data. We completed our annual impairment tests as of the
end of the fourth quarter of each year and concluded that no impairment charge was required. If future events cause the
reporting units’ fair value to decline below its carrying value, an impairment charge may be required.
In the identifiable intangibles impairment analysis, the fair value of each asset is compared to its carrying value. If
the asset’s carrying value is not recoverable and exceeds its fair value, we would record an impairment loss equal to the
difference between the carrying value of the asset and its fair value. The carrying value of an asset is not recoverable if it
exceeds the sum of the undiscounted cash flows expected to result from the use and eventual disposition of the asset. We
analyzed certain of our identifiable intangible assets for impairment as of the end of the fourth quarter of 2004 and found
some of them to be impaired as described in Footnote F to our Consolidated Financial Statements in Item 8.
Income Tax Assets
We record deferred tax assets and liabilities based on the net tax effects of tax credits, operating loss carryforwards
and temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the
amounts used for income tax purposes.
We regularly review deferred tax assets for recoverability taking into consideration such factors as historical losses
after deductions for stock compensation, projected future taxable income and the expected timing of the reversals of existing
temporary differences. SFAS No. 109, “Accounting for Income Taxes”, requires us to record a valuation allowance when it
is more likely than not that some portion or all of the deferred tax assets will not be realized. Based on the level of deferred
tax assets as of December 31, 2004, the level of historical U.S. losses after deductions for stock compensation, and the level
of outstanding stock options, which we anticipate will generate significant U.S. tax deductions in the future, we have
determined that the uncertainty regarding the realization of these assets is sufficient to warrant the continued establishment
of a full valuation allowance against the U.S. net deferred tax assets. In the year ended December 31, 2004, we removed the
valuation allowance related to deferred tax assets in our Irish manufacturing operations. This resulted in a non–cash $2.1
million tax benefit recorded through our 2004 provision for income taxes. The decision to remove the valuation allowance
was based on the conclusion that it was more likely than not that the deferred tax asset in Ireland would be realized.
Our assessment of the valuation allowance on the U.S. deferred tax assets could change in the future based upon
our levels of pre-tax income and other tax related adjustments. Removal of the valuation allowance in whole or in part
would result in a non-cash reduction in the provision for income taxes during the period of removal. In addition, because a
portion of the valuation allowance as of December 31, 2004 was established to reserve certain deferred tax assets resulting
from the exercise of employee stock options, in accordance with SFAS No. 109, removal of the valuation allowance related
to these assets would result in a credit to additional paid-in capital within stockholders’ equity rather than the provision for
income taxes. If the valuation allowance of $140.8 million as of December 31, 2004 were to be removed in its entirety, an
$84.9 million non-cash reduction in income tax expense and a $55.9 million credit to paid-in capital would be recorded in
the period of removal. To the extent no valuation allowance is established for our deferred tax assets in future periods,
future financial statements would reflect a non-cash increase in our provision for income taxes.