HR Block 2012 Annual Report Download - page 39

historically higher delinquency rates. Therefore, we assign higher frequency rate assumptions to SCC-originated
loans compared with loans originated by other third-party banks as we consider estimates of future losses. At
April 30, 2012 our weighted-average frequency assumption was 11% for SCC-originated loans compared to 2%
for remaining loans in the portfolio.
We consider loans 60 days past due impaired and review them individually. We record loss estimates typically
based on the value of the underlying collateral. For loans over 60 days past due but less than 180 days past due
or otherwise impaired, we record a loan loss allowance. Our loan loss allowance for these impaired loans
reflected an average loss severity of 36% at April 30, 2012. The aggregate principal balance of these impaired
loans totaled $108.6 million at April 30, 2012, and the portion of our allowance for loan losses allocated to these
loans totaled $9.6 million. For loans 180 days or more past due, we charge-off the loans to the value of the
collateral less costs to sell. Loans more than 180 days past due were partially charged-off at a severity rate of
46%.
Modified loans that meet the definition of a troubled debt restructuring (TDR) are also considered impaired and
are reviewed individually. We record impairment equal to the difference between the principal balance of the loan
and the present value of expected future cash flows discounted at the loan’s effective interest rate. However, if we
assess that foreclosure of a modified loan is probable, we record impairment based on the estimated fair value of
the underlying collateral. The aggregate principal balance of TDR loans totaled $71.9 million at April 30, 2012, and
the portion of our allowance for loan losses allocated to these loans totaled $7.8 million.
Charge-offs increased during the current year primarily due to a change whereby we now charge-off loans 180
days past due, rather than record a specific loan loss allowance for those loans. This change had no income
statement impact, but reduced the principal amount of loans outstanding and reduced the related allowance.
This was a result of our change in regulators from the OTS to the OCC.
The residential mortgage industry has experienced significant adverse trends for an extended period. If
adverse trends continue for a sustained period or at rates worse than modeled by us, we may be required to
record additional loan loss provisions, and those losses may be significant.
Determining the allowance for loan losses for loans held for investment requires us to make estimates of
losses that are highly uncertain and requires a high degree of judgment. If our underlying assumptions prove to
be inaccurate, the allowance for loan losses could be insufficient to cover actual losses. Our mortgage loan
portfolio is a static pool, as we are no longer originating or purchasing new mortgage loans, and we believe that
factor, over time, will limit variability in our loss estimates.
VALUATION OF GOODWILL – The evaluation of goodwill for impairment is a critical accounting estimate
due both to the magnitude of our goodwill balances and the judgment involved in determining the fair value of
our reporting units. Goodwill balances totaled $427.6 million as of April 30, 2012 and $434.2 million as of
April 30, 2011.
We test goodwill for impairment annually or more frequently if events occur or circumstances change which
would, more likely than not, reduce the fair value of a reporting unit below its carrying value. Our goodwill
impairment analysis is based on a discounted cash flow (DCF) approach and market comparables.
DCF analyses are based on the current revenue and expense forecasts and estimated long-term growth
estimates for each reporting unit. Future cash flows are discounted based on a market comparable weighted
average cost of capital rate for each reporting unit, adjusted for market and other risks where appropriate. In
addition, we analyze any difference between the sum of the fair values of the reporting units and our total
market capitalization for reasonableness.
If the estimated fair value of a reporting unit exceeds its carrying value, goodwill of the reporting unit is
considered not impaired. If the estimated fair value of the reporting unit is less than the carrying value, a second
step is performed in which the implied fair value of the reporting unit’s goodwill is compared to the carrying
value of the goodwill. The implied fair value of the goodwill is determined based on the difference between the
estimated fair value of the reporting unit and the net fair value of the identifiable assets and liabilities of the
reporting unit. If the implied fair value of the goodwill is less than the carrying value, the difference is
recognized as an impairment charge.
Based on our assessment performed during the fourth quarter of fiscal year 2012, the fair value of the
goodwill within our reporting units substantially exceeded its carrying value. Changes to our estimates and
assumptions associated with the reporting units could materially affect the determination of fair value and
could result in an impairment charge, which could be material to our financial position and results of
operations.
H&R BLOCK 2012 Form 10K 25