Circuit City 2007 Annual Report Download - page 45

Accruals — Management makes estimates and assumptions that affect amounts reported in the consolidated financial statements and
accompanying notes. These estimates are based upon various factors such as the number of units sold, historical and anticipated results and
data received from third party vendors. Actual results could differ from these estimates. Our most significant estimates include those related
to the costs of vendor drop shipments, sales returns and allowances, cooperative advertising and customer rebate reserves, and other vendor
and employee related costs.
Product Warranties — Provisions for estimated future expenses relating to product warranties for the Company’s assembled PCs are
recorded as cost of sales when revenue is recognized. Liability estimates are determined based on management judgment considering such
factors as the number of units sold, historical and anticipated rates of warranty claims and the likely current cost of corrective action. The
changes in accrued product warranties were as follows (in thousands):
Income Taxes — Deferred tax assets and liabilities are recognized for the effect of temporary differences between the book and tax bases of
recorded assets and liabilities and for tax loss carry forwards. The realization of net deferred tax assets is dependent upon our ability to
generate sufficient future taxable income. Where it is more likely than not that some portion or of the deferred tax asset will not be realized,
we have provided a valuation allowance. If the realization of those deferred tax assets in the future is considered more likely than not, an
adjustment to the deferred tax assets would increase net income in the period such determination is made.
Revenue Recognition and Accounts Receivable — The Company recognizes sales of products, including shipping revenue, when persuasive
evidence of an order arrangement exists, delivery has occurred, the sales price is fixed or determinable and collectibility is reasonably
assured. Generally, these criteria are met at the time the product is received by the customers when title and risk of loss have transferred.
Allowances for estimated subsequent customer returns, rebates and sales incentives are provided when revenues are recorded. Costs
incurred for the shipping and handling of its products are recorded as cost of sales. Revenue from extended warranty and support contracts
on the Company’s assembled PCs is deferred and recognized over the contract period.
Accounts receivable are shown in the consolidated balance sheets net of allowances for doubtful collections and subsequent customer
returns.
Advertising Costs — Advertising costs, consisting primarily of catalog preparation, printing and postage expenditures, are amortized over
the period of catalog distribution during which the benefits are expected, generally one to six months. Expenditures relating to television
and local radio advertising are expensed in the period the advertising takes place.
Net advertising expenses were $47.2 million, $37.4 million and $39.4 million during 2007, 2006 and 2005 are included in the accompanying
Consolidated Statements of Operations. The Company utilizes advertising programs to support vendors, including catalogs, internet and
magazine advertising, and receives payments and credits from vendors, including consideration pursuant to volume incentive programs and
cooperative marketing programs. The Company accounts for consideration from vendors as a reduction of cost of sales unless certain
conditions are met showing that the funds are used for specific, incremental, identifiable costs, in which case the consideration is accounted
for as a reduction in the related expense category, such as advertising expense. The amount of vendor consideration recorded as a reduction
of selling, general and administrative expenses totaled $42.6 million, $39.6 million and $39.1 million during 2007, 2006 and 2005.
Prepaid expenses as of December 2007 and 2006 include deferred advertising costs of $3.9 million and $3.5 million which are reflected as
an expense during the periods benefited, typically the subsequent fiscal quarter.
Stock based compensation — Effective January 1, 2006, the Company adopted the provisions of SFAS 123(R), using the modified-
prospective-
transition method. Under that transition method, compensation cost recognized for the year ended December 31, 2006 includes:
(a) compensation cost for all share-based payments granted prior to, but not yet vested as of, January 1, 2006, based on the grant-date fair
value estimated in accordance with the original provisions of SFAS 123, and (b) compensation cost for the vested portion of share-based
payments granted subsequent to January 1, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS
123(R). Results for prior periods have not been restated.
The fair value of employee share options is recognized in expense over the vesting period of the options, using the graded attribution
method. The fair value of employee share options is determined on the date of grant using the Black-Scholes option pricing model. The
Company has used historical volatility in its estimate of expected volatility. The expected life represents the period of time (in years) for
which the options granted are expected to be outstanding. The Company used the simplified method for determining expected life as
permitted in SEC Staff Accounting Bulletin 107 for options qualifying for such treatment (“plain-vanilla”
options) due to the limited history
the Company currently has with option exercise activity. The risk-free interest rate is based on the U.S. Treasury yield curve.
43
Year ended December 31
2007
2006
2005
Balance, beginning of year
$
1,061
$
1,316
$
2,011
Charged to expense
1,400
1,556
21
Deductions
(1,547
)
(1,811
)
(716
)
Balance, end of year
$
914
$
1,061
$
1,316