Canon 2006 Annual Report Download - page 41

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ratio are considered by Canon to be KPIs. Canon is focusing on
two areas for improvement. On one hand, Canon strives to
control and reduce its selling, general and administrative
expenses. On the other hand, Canon’s R&D policy is designed
to maintain a high level of spending in core technology in order
to sustain Canon’s leading position in its current fields of
business, and to explore possibilities in other markets. Canon
believes such investments will be the basis for future success
in its business and operations.
Cash Flow Management
Canon also places significant emphasis on cash flow
management. The following are the KPI relating to cash flow
management that management believes to be important.
Inventory turnover within days is a KPI because it is a mea-
sure of supply-chain management efficiency. Inventories have
inherent risks of becoming obsolete, deteriorating or other-
wise decreasing in value significantly, which may adversely
affect Canon’s operating results. To mitigate these risks,
management believes that it is important to continue reducing
inventories and shortening production lead times in order to
achieve early recovery of related product expenses by
strengthening supply-chain management.
Canon’s management seeks to meet its liquidity and
capital requirements primarily with cash flow from operations.
Management also seeks debt-free operations. For a manufac-
turing company such as Canon, the process for realizing profit
on any endeavor can be lengthy, involving as it does R&D,
manufacturing, and sales activities. Management, therefore,
believes that it is important to have sufficient financial strength
so that it does not have to rely on external funding. Canon has
continued to reduce its reliance on external funding for capital
investments in favor of generating the necessary funds from its
own operations.
Stockholders’ equity to total assets ratio (ratio of total
stockholder’s equity to total assets) is another KPI for Canon.
Canon believes that the stockholders’ equity to total asset ratio
measures its long-term viability. Canon believes that high or
increasing stockholders’ equity ratio usually indicates that
Canon has a good, or improving ability to fund debt obligations
and other unexpected expenses, which means in the long-term
that Canon is better able to maintain a high level of stable
investments for its future operations and development. As
Canon puts a strong emphasis on its research and development
activities, management believes that it is important to maintain
astable financial base and, accordingly, a high level of
stockholders’ equity to total assets ratio.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The consolidated financial statements are prepared in accor-
dance with U.S. generally accepted accounting principles, and
based on the selection and application of significant accounting
policies which require management to make significant estimates
and assumptions. Canon believes that the following are the
more critical judgment areas in the application of its accounting
policies that currently affect its financial condition and results
of operations.
Revenue Recognition
Canon generates revenue principally through the sale of
consumer products, equipment, supplies, and related services
under separate contractual arrangements. Canon recognizes
revenue when persuasive evidence of an arrangement exists,
delivery has occurred and title and risk of loss have been
transferred to the customer, the sales price is fixed or
determinable, and collectibility is probable.
For arrangements with multiple elements, which may
include any combination of equipment, installation and mainte-
nance, Canon allocates revenue to each element based on its
relative fair value if such element meets the criteria for treatment
as a separate unit of accounting as prescribed in the Emerging
Issues Task Force Issue 00-21 (“EITF 00-21”), “Revenue
Arrangements with Multiple Deliverables.” Otherwise, revenue
is deferred until the undelivered elements are fulfilled as a
single unit of accounting.
Revenue from sales of consumer products including
office imaging products, computer peripherals, business infor-
mation products and cameras is recognized upon shipment or
delivery, depending upon when title and risk of loss transfer to
the customer.
Revenue from sales of optical equipment such as steppers
and aligners sold with customer acceptance provisions related
to their functionality is recognized when the equipment is
installed at the customer site and the specific criteria of the
equipment functionality are successfully tested and demonstrated
KEY PERFORMANCE INDICATORS 2006 2005 2004 2003 2002
Net sales (Millions of yen) ¥4,156,759 3,754,191 3,467,853 3,198,072 2,940,128
Gross profit to net sales ratio 49.6% 48.5% 49.4% 50.3% 47.6%
R&D expense to net sales ratio 7.4% 7.6% 7.9% 8.1% 7.9%
Operating profit to net sales ratio 17.0% 15.5% 15.7% 14.2% 11.8%
Inventory turnover within days 45 days 47 days 49 days 49 days 51 days
Debt to total assets ratio 0.7% 0.8% 1.1% 3.1% 5.0%
Stockholders’ equity to total assets ratio 66.0% 64.4% 61.6% 58.6% 54.1%
Note: Inventory turnover within days; Inventory divided by net sales for the previous six months, multiplied by 182.5.