Estee Lauder 2014 Annual Report Download - page 79

THE EST{E LAUDER COMPANIES INC. 77
terminal value, and discounting such cash flows at a rate
of return that reflects the relative risk of the cash flows.
Under the market approach, the Company utilizes infor-
mation from comparable publicly traded companies with
similar operating and investment characteristics as the
reporting units, which creates valuation multiples that are
applied to the operating performance of the reporting
unit being tested, to value the reporting unit. The key esti-
mates and factors used in these two approaches include,
but are not limited to, revenue growth rates and profit
margins based on internal forecasts, terminal value, the
weighted-average cost of capital used to discount future
cash flows and comparable market multiples.
To determine fair value of other indefinite-lived intangi-
ble assets, the Company uses an income approach, the
relief-from-royalty method. This method assumes that, in
lieu of ownership, a third party would be willing to pay a
royalty in order to obtain the rights to use the comparable
asset. Other indefinite-lived intangible assets’ fair values
require significant judgments in determining both the
assets’ estimated cash flows as well as the appropriate dis-
count and royalty rates applied to those cash flows to
determine fair value. Changes in such estimates or the
application of alternative assumptions could produce
significantly different results.
Long-Lived Assets
The Company reviews long-lived assets for impairment
whenever events or changes in circumstances indicate
that the carrying amount may not be recoverable. When
such events or changes in circumstances occur, a recover-
ability test is performed comparing projected undis-
counted cash flows from the use and eventual disposition
of an asset or asset group to its carrying value. If the pro-
jected undiscounted cash flows are less than the carrying
value, then an impairment charge would be recorded for
the excess of the carrying value over the fair value, which
is determined by discounting future cash flows.
Concentration of Credit Risk
The Company is a worldwide manufacturer, marketer and
distributor of skin care, makeup, fragrance and hair care
products. Domestic and international sales are made
primarily to department stores, perfumeries, specialty
multi-brand retailers and retailers in its travel retail busi-
ness. The Company grants credit to all qualified custom-
ers and does not believe it is exposed significantly to any
undue concentration of credit risk.
The Company’s largest customer sells products
primarily within the United States and accounted for
$1,142.7 million, or 10%, $1,078.8 million, or 11%, and
$1,048.1 million, or 11%, of the Company’s consolidated
net assets. Other indefinite-lived intangible assets
principally consist of trademarks. Goodwill and other
indefinite-lived intangible assets are not amortized.
The Company assesses goodwill and other indefi-
nite-lived intangible assets at least annually for impairment
as of the beginning of the fiscal fourth quarter, or more
frequently if certain events or circumstances exist. The
Company tests goodwill for impairment at the reporting
unit level, which is one level below the Company’s oper-
ating segments. The Company identifies its reporting units
by assessing whether the components of its operating
segments constitute businesses for which discrete finan-
cial information is available and management of each
reporting unit regularly reviews the operating results of
those components. The Company makes certain judg-
ments and assumptions in allocating assets and liabilities
to determine carrying values for its reporting units. Impair-
ment testing is performed in two steps: (i) the Company
determines impairment by comparing the fair value of a
reporting unit with its carrying value, and (ii) if there is
an impairment, the Company measures the amount
of impairment loss by comparing the implied fair value of
goodwill with the carrying amount of that goodwill. The
impairment test for indefinite-lived intangible assets
encompasses calculating a fair value of an indefinite-lived
intangible asset and comparing the fair value to its carry-
ing value. If the carrying value exceeds the fair value, an
impairment charge is recorded.
Testing goodwill for impairment requires the Company
to estimate fair values of reporting units using significant
estimates and assumptions. The assumptions made will
impact the outcome and ultimate results of the testing.
The Company uses industry accepted valuation models
and set criteria that are reviewed and approved by various
levels of management and, in certain instances, the
Company engages third-party valuation specialists for
advice. To determine fair value of the reporting units,
the Company generally uses an equal weighting of the
income and market approaches. In certain circumstances,
equal weighting will not be applied if one of these meth-
ods may be less applicable (e.g., only the income
approach would be used for reporting units with existing
negative margins). The Company believes both
approaches are equally relevant and the most reliable
indications of fair value because the fair value of product
or service companies is more dependent on the ability to
generate earnings than on the value of the assets used in
the production process.
Under the income approach, the Company determines
fair value using a discounted cash flow method, project-
ing future cash flows of each reporting unit, as well as a