Avid 2004 Annual Report Download - page 70

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Deferred tax assets reflect the net tax effects of the 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. The ultimate realization of the net deferred tax assets is dependent upon the generation of sufficient future
taxable income in the applicable tax jurisdictions.
For U.S. Federal income tax purposes at December 31, 2004, the Company has tax credit carryforwards of approximately
$28.1 million, which will expire between 2005 and 2024, and net operating loss carryforwards of approximately $143.7
million, which will expire between 2018 and 2024. Based on the level of the deferred tax assets as of December 31, 2004,
the level of historical U.S. taxable losses after deductions for stock compensation, and the future tax deductions anticipated
related to outstanding stock options, management has determined that the uncertainty regarding the realization of these
assets warrants a full valuation allowance at December 31, 2004.
The Company’s assessment of the valuation allowance on the U.S. deferred tax assets could change in the future based upon
its 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 income tax expense during the period of removal. In addition, because a portion of the
valuation allowance as of December 31, 2004 was established to reserve against 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 additional paid-in capital would be
recorded in the period of removal.
For foreign income tax purposes at December 31, 2004, the Company has net operating loss carryforwards relating to the
Irish manufacturing branch of approximately $18.9 million, which can be carried forward indefinitely. In the past, due to
the uncertainty regarding the realization of this asset, the Company had established a valuation allowance related to the
entire carryforwards amount. Since the Irish operations have generated sufficient profits in recent years and future
profitability is anticipated, as of December 31, 2004, the Company believes it is more likely than not that it will realize the
benefit related to the $18.9 million net operating loss carryforward; therefore, the Company has removed the $2.1 million
valuation allowance against this deferred tax asset. The net deferred tax assets of $3.3 million and $1.0 million at December
31, 2004 and 2003 are related to foreign deferred tax assets deemed realizable in certain jurisdictions.
A reconciliation of the Company's income tax provision (benefit) to the statutory federal tax rate follows:
2004
2003
2002
Statutory rate
35%
35%
35%
Tax credits
(3)
(3)
(69)
Foreign operations
(6)
(8)
65
State taxes, net of federal benefit
2
2
12
Effective tax rate before valuation allowance
28
26
43
Tax provision increase (decrease) in valuation
allowance
(30)
(25)
(7)
Effective tax rate
(2)%
1%
36%
H. LONG-TERM DEBT AND OTHER LIABILITIES
Subordinated Note
In connection with the acquisition of Softimage from Microsoft Corporation (“Microsoft”) in 1998, Avid issued a $5.0
million subordinated note (the “Note”) to Microsoft. The principal amount of the Note, including any adjustments relative