Graco 2009 Annual Report Download - page 33

Newell Rubbermaid Inc. 2009 Annual Report
31
Inventory Reserves
The Company reduces its inventory value for estimated obsolete and slow-moving inventory in an amount equal to the difference between the cost of
inventory and the net realizable value based upon assumptions about future demand and market conditions. Provisions for excess and obsolete inventories,
including shrink reserves, totaled $57.0 million, $79.0 million and $41.8 million in 2009, 2008 and 2007, respectively, and are included in cost of products
sold. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required.
Goodwill and Other Indefinite-Lived Intangible Assets
The Company performs its impairment testing of goodwill at a reporting unit level, and all of the Company’s goodwill is assigned to the Company’s reporting
units. Reporting units are one level below the operating segment level. In connection with the Company’s realignment of its businesses under a Global
Business Unit (“GBU”) structure, the Company redefined its reporting units, where necessary, to align with the GBU structure effective January 1, 2009.
Reporting units in the Office Products segment and certain reporting units in the Tools, Hardware & Commercial Products segment that were geographically
aligned were impacted by the realignment. The goodwill of these geographically aligned reporting units was reallocated to reporting units defined under the
GBU structure on a relative fair value basis. The Company has not had any other material changes to the reporting units identified and used to test goodwill
for impairment since January 1, 2006 due to restructuring activities or otherwise. Acquired businesses, including goodwill arising from such transactions,
are integrated into the Company’s existing reporting units.
After the realignment of the reporting units and the reallocation of goodwill, the Company had 13 reporting units with total goodwill of $2.7 billion as of
January 1, 2009. Five of the Company’s 13 reporting units accounted for approximately 70% of the Company’s total goodwill. These five reporting units were
as follows: Baby & Parenting Essentials; Rubbermaid Commercial Products; Industrial Products & Services; Markers, Highlighters, Art & Office Organization;
and Office Technology.
The Company conducts its annual test of impairment of goodwill as of the first day of the third quarter because it generally coincides with its annual
strategic planning process. The Company also tests for impairment if events and circumstances indicate that it is more likely than not that the fair value of
a reporting unit is below its carrying amount. For example, if macroeconomic factors, such as consumer demand and consumer confidence, deteriorate
materially such that the Company’s reporting units’ projected sales and operating income decline significantly relative to previous estimates, the Company
will perform an interim test to assess whether goodwill is impaired. The Company determined that no interim tests of impairment were necessary during
2009, due to declining macroeconomic conditions, significant reductions in reporting units’ expected sales and profitability, or otherwise.
In the Company’s goodwill impairment testing, if the carrying amount of a reporting unit is greater than its fair value, impairment may be present. Estimates
made by management in performing its impairment testing can impact whether or not an impairment charge is necessary and the magnitude of the impairment
charge to the extent one is recorded. The Company uses multiple valuation approaches in its impairment testing, each of which requires estimates to arrive
at an estimate of fair value. For the Company’s reporting units that are stable businesses and have a history and track record of generating positive operating
income and cash flows, the Company relies on a multiple of earnings approach to assess their fair value. The material assumptions used to value a reporting
unit using this approach are the reporting units’ estimated financial performance for the remainder of the year and the applicable multiple to apply to earnings
before interest, taxes, depreciation and amortization (“EBITDA”). The estimated financial performance for the remainder of the year is based on the Company’s
internal forecasting process. To determine the EBITDA multiple, the Company obtains information from third parties on EBITDA multiples observed for recent
acquisitions and other transactions in the marketplace for comparable businesses. The Company evaluates the EBITDA multiples used for the reporting units
relative to the Company’s market capitalization plus an equity control premium. The equity control premium is defined as the sum of the individual reporting
units’ estimated market values compared to the Company’s market value, with the sum of the individual values typically being larger than the market value of
the Company. The Company considers premiums paid by acquirers of comparable businesses to determine the reasonableness of the implied control premium.
The EBITDA multiple observed in the marketplace for recent transactions ranged from 9 to 11 for the annual impairment test as of July 1, 2009. For the
July 1, 2009 impairment test, the Company adjusted the EBITDA multiples from the observed multiples, generally to multiples ranging from 6 to 12 so that
the aggregate value of all reporting units relative to the Company’s total market value resulted in a reasonable implied equity control premium. The Company
considers several factors in estimating the EBITDA multiple applicable to each reporting unit, including the reporting unit’s market position, brand awareness,
gross and operating margins, and prospects for growth, among other factors. After adjusting the EBITDA multiples for the reporting units, no potential
goodwill impairment was indicated for reporting units for which this approach was used. Furthermore, the Company’s equity market value at July 1, 2009
of approximately $3.0 billion was significantly in excess of its book value of stockholders’ equity of approximately $1.8 billion. For the impairment test as of
July 1, 2009, if each reporting unit’s EBITDA multiple were reduced by 0.5 from the 6 to 12 multiple used for each reporting unit, all reporting units where
the EBITDA multiple approach was used to value the reporting unit would have passed step one of the goodwill impairment test.
The Company relies on a discounted cash flow approach to value reporting units in certain circumstances, such as when the reporting unit is growing
at a significantly slower rate than planned, is declining at a significantly faster rate than the overall market, has experienced significant losses, is in a
stage of hyper-growth, is executing significant restructuring efforts, or is in a stage of development where it has not yet fully realized the benefits of scale
and operating efficiencies. The Company used the discounted cash flow approach to value three of its reporting units for the annual impairment test as of
July 1, 2009, Industrial Products & Services, Everyday Writing and Fine Writing, because these reporting units are executing significant restructuring
projects or the reporting unit’s financial results are significantly impacted by economic cycles. The material assumptions used to value a reporting unit
using the discounted cash flow approach are the future financial performance and cash flows of the reporting unit, the discount rate, and the working
capital investment required. Estimates of future financial performance include estimates of future sales growth rates, raw material costs, currency
fluctuations, and operating efficiencies to be realized. The Company determines a discount rate based on an estimate of a reasonable risk-adjusted return
an investor would expect to realize on an investment in the reporting unit. In using the discounted cash flow approach to value reporting units in 2009, the
Company generally used average compound long-term sales growth rates ranging from 2% to 3%, average operating margins ranging from 13% to 26%,