Johnson and Johnson 2005 Annual Report Download - page 38

Other Information
Critical Accounting Policies and Estimates
Management’s discussion and analysis of results of operations
and financial condition are based on the Company’s consoli-
dated financial statements that have been prepared in accor-
dance with accounting principles generally accepted in the U.S.
The preparation of these financial statements requires that
management make estimates and assumptions that affect the
amounts reported for revenues, expenses, assets, liabilities and
other related disclosures. Actual results may or may not differ
from these estimates. The Company believes that the under-
standing of certain key accounting policies and estimates are
essential in achieving more insight into the Company’s operat-
ing results and financial condition. These key accounting
policies include revenue recognition, income taxes, legal and
self insurance contingencies, valuation of long-lived assets
and assumptions used to determine the amounts recorded
for pensions and other employee benefit plans and accounting
for stock options.
Revenue Recognition: The Company recognizes revenue from
product sales when goods are shipped or delivered and title
and risk of loss pass to the customer. Provisions for certain
rebates, sales incentives, trade promotions, coupons, product
returns and discounts to customers are accounted for as reduc-
tions in sales in the same period the related sales are recorded.
Product discounts granted are based on the terms of
arrangements with direct, indirect and other market partici-
pants, as well as market conditions, including prices charged
by competitors. Rebates, the largest being the Medicaid rebate
provision, are estimated based on sales terms, historical
experience, trend analysis and projected market conditions in
the various markets served. The Company evaluates market
conditions for products or groups of products primarily
through the analysis of wholesaler and other third party
sell-through and market research data, as well as internally
generated information.
Sales returns are generally estimated and recorded based
on historical sales and returns information. Products that exhibit
unusual sales or return patterns due to dating, competition
or other marketing matters are specifically investigated and
analyzed as part of the accounting for sales return accruals.
The Company also earns service revenue for co-promotion
of certain products. For all years presented, service revenues
were less than 2% of total revenues and are included in
sales to customers.
Income Taxes: Income taxes are recorded based on amounts
refundable or payable for the current year and include the
results of any difference between U.S. GAAP accounting
and U.S. tax reporting that are recorded as deferred tax
assets or liabilities. The Company estimates deferred tax
assets and liabilities based on current tax regulations and
rates. Changes in tax laws and rates may affect recorded
deferred tax assets and liabilities in the future. Management
believes that changes in these estimates would not result in a
material effect on the Company’s results of operations, cash
flows or financial position.
In 2005, the Company repatriated the previously disclosed
$10.8 billion of undistributed international earnings in accor-
dance with the American Jobs Creation Act of 2004 (AJCA),
and recorded a tax charge of $789 million during the fiscal
fourth quarter of 2004. During the fiscal second quarter of
2005, the Company recorded a tax benefit of $225 million, due
to the reversal of the tax liability previously recorded during the
fiscal fourth quarter of 2004, associated with a technical cor-
rection made to the AJCA in May 2005. At January 1, 2006
and January 2, 2005, the cumulative amount of undistributed
international earnings were approximately $12.0billion and
$18.6 billion, respectively. The Company intends to continue to
reinvest its undistributed international earnings to expand its
international operations; therefore, no U.S. tax expense has
been recorded to cover the undistributed portion not intended
for repatriation.
Legal and Self Insurance Contingencies: The Company records
accruals for various contingencies including legal proceedings
and product liability cases as these arise in the normal course
of business. The accruals are based on management’s judg-
ment as to the probability of losses, opinions of legal counsel
and, where applicable, actuarially determined estimates.
Additionally, the Company records insurance receivable
amounts from third party insurers when recovery is probable.
As appropriate, reserves against these receivables are recorded
for estimated amounts that may not be collected from third
party insurers.
Long-Lived and Intangible Assets: The Company assesses
changes in economic conditions and makes assumptions
regarding estimated future cash flows in evaluating the value of
the Company’s property, plant and equipment, goodwill and
intangible assets. As these assumptions and estimates may
change over time, it may or may not be necessary for the Com-
pany to record impairment charges. In fiscal years 2005, 2004
and 2003, certain tangible and intangible assets were written
down to fair value with the resulting charge recorded in cost of
products sold, which was insignificant.
Employee Benefit Plans: The Company sponsors various retire-
ment and pension plans, including defined benefit, defined
contribution and termination indemnity plans, that cover most
employees worldwide. These plans are based on assumptions
for the discount rate, expected return on plan assets, expected
salary increases and health care cost trend rates. See Note 13
for further detail on these rates and the effect a rate change
would have on the Company’s results of operations.
PAGE 36 JOHNSON & JOHNSON 2005 ANNUAL REPORT