Canon 2005 Annual Report Download - page 40

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services are provided.
Revenue from the sale of equipment under sales-type
leases is recognized at the inception of the lease. Income on
sales-type leases and direct-financing leases is recognized over
the life of each respective lease using the interest method.
Leases not qualifying as sales-type leases or direct-financing
leases are accounted for as operating leases and related rev-
enue is recognized over the lease term.
Canon records estimated reductions to sales at the time of
sale for sales incentive programs including product discounts,
customer promotions and volume-based rebates. Estimated
reductions in sales are based upon historical trends and other
known factors at the time of sale. In addition, Canon provides
price protection to certain resellers of its products, and records
reductions to sales for the estimated impact of price protection
obligations when announced.
Estimated product warranty costs are recorded at the time
revenue is recognized and is included in selling, general and
administrative expenses. Estimates for accrued product war-
ranty costs are based on historical experience, and are affected
by ongoing product failure rates, specific product class failures
outside of the baseline experience, material usage and service
delivery costs incurred in correcting a product failure.
Allowance for Doubtful Receivables
Allowance for doubtful receivables is determined using a com-
bination of factors to ensure that Canon’s trade and financing
receivables are not overstated due to uncollectibility. Canon
maintains a bad debt reserve for all customers based on a vari-
ety of factors, including the length of time receivables are past
due, trends in overall weighted average risk rating of the total
portfolio, macroeconomic conditions, significant one-time
events and historical experience. Also, Canon records specific
reserves for individual accounts when Canon becomes aware
of a customer’s inability to meet its financial obligations to
Canon, such as in the case of bankruptcy filings or deteriora-
tion in the customer’s operating results or financial position. If
circumstances related to customers change, estimates of the
recoverability of receivables would be further adjusted.
Valuation of Inventories
Inventories are stated at the lower of cost or market value.
Cost is determined principally by the average method for
domestic inventories and the first-in, first-out method for over-
seas inventories. Market value is the estimated selling price in
the ordinary course of business less the estimated costs of com-
pletion and the estimated costs necessary to make a sale.
Canon routinely reviews its inventories for their salability and
for indications of obsolescence to determine if inventories
should be written-down to market value. Judgments and esti-
mates must be made and used in connection with establishing
such allowances in any accounting period. In estimating the
market value of its inventories, Canon considers the age of the
inventories and the likelihood of spoilage or changes in market
demand for its inventories.
Environmental Liabilities
Canon is subject to liability for the investigation and clean-up
of environmental contamination at each of the properties that
Canon owns or operates, as well as at certain properties Canon
formerly owned or operated. Canon employs extensive internal
environmental protection programs that focus on preventive
measures. Canon conducts environmental assessments for a
number of its locations and operating facilities. If Canon was to
be held responsible for damages in any future litigation or pro-
ceedings, such costs may not be covered by insurance and may
be material. The liability for environmental remediation and
other environmental costs is accrued when it is considered
probable and costs can be reasonably estimated.
Valuation of Deferred Tax Assets
Canon currently has significant deferred tax assets, which are
subject to periodic recoverability assessments. Realization of
Canon’s deferred tax assets is principally dependent upon its
achievement of projected future taxable income. Canon’s judg-
ments regarding future profitability may change due to future
market conditions, its ability to continue to successfully execute
its operating restructuring activities and other factors. Any
changes, in any of these factors may require possible recogni-
tion of significant valuation allowance to these deferred tax
asset balances. When Canon determines that certain deferred
tax assets may not be recoverable, the amounts which will not
be realized are charged to income tax expense and will
adversely affect net income.
Employee Retirement and Severance Benefit
Plans
Canon has significant employee retirement and severance ben-
efit obligations which are recognized based on actuarial valua-
tions. Inherent in these valuations are key assumptions,
including discount rates and expected return on plan assets.
Management must consider current market conditions, includ-
ing changes in interest rates, in selecting these assumptions.
Other assumptions include assumed rate of increase in com-
pensation levels, mortality rate and withdrawal rate. Changes
in these assumptions inherent in the valuation are reasonably
likely to occur from period to period. These changes in assump-
tions may lead to changes in related employee retirement and
severance benefit costs in the future.
Actual results that differ from the assumptions are accumu-
lated and amortized over future periods and, therefore, gener-
ally affect future pension expenses. While management
believes that the assumptions used are appropriate, the differ-
ences may affect employee retirement and severance benefit
costs in the future.
In preparing its financial statements for fiscal 2005, Canon
estimated a discount rate of 2.7% and an expected long-term
rate of return on plan assets of 4.6%. In estimating the dis-
count rate, Canon uses available information about rates of
return on high-quality fixed-income governmental and
corporate bonds currently available and expected to be