Paychex 2011 Annual Report Download - page 43

businesses. The increase in goodwill was due to the acquisition in fiscal 2011 of two software-as-a-service
companies, whose results are immaterial to our consolidated financial statements.
Goodwill is not amortized, but instead tested for impairment on an annual basis and between annual tests if an
event occurs or circumstances change in a way to indicate that there has been a potential decline in the fair value of
the reporting unit. Impairment is determined by comparing the estimated fair value of the reporting unit to its
carrying amount, including goodwill. Our business is largely homogeneous and, as a result, substantially all of the
goodwill is associated with one reporting unit. We perform our annual impairment testing in our fiscal fourth
quarter. Based on the results of our reviews, no impairment loss was recognized in the results of operations for fiscal
year 2011, 2010 or 2009. Subsequent to this review, there have been no events or circumstances that indicate any
potential impairment of our goodwill balance.
We also test intangible assets for potential impairment when events or changes in circumstances indicate that
the carrying value may not be recoverable.
Stock-based compensation costs: All stock-based awards to employees, including grants of stock options,
are recognized as compensation costs in our consolidated financial statements based on their fair values measured
as of the date of grant. We estimate the fair value of stock option grants using a Black-Scholes option pricing model.
This model requires various assumptions as inputs including expected volatility of the Paychex stock price and
expected option life. We estimate volatility based on a combination of historical volatility using weekly stock prices
over a period equal to the expected option life and implied market volatility. Expected option life is estimated based
on historical exercise behavior.
We are required to estimate forfeitures and only record compensation costs for those awards that are expected
to vest. Our assumptions for forfeitures were determined based on type of award and historical experience.
Forfeiture assumptions are adjusted at the point in time a significant change is identified with any adjustment
recorded in the period of change, and the final adjustment at the end of the requisite service period to equal actual
forfeitures.
The assumptions of volatility, expected option life, and forfeitures all require significant judgment and are
subject to change in the future due to factors such as employee exercise behavior, stock price trends, and changes to
type or provisions of stock-based awards. Any change in one or more of these assumptions could have a material
impact on the estimated fair value of an award and on stock-based compensation costs recognized in our results of
operations.
We have determined that the Black-Scholes option pricing model, as well as the underlying assumptions used
in its application, is appropriate in estimating the fair value of stock option grants. We periodically reassess our
assumptions as well as our choice of valuation model, and will reconsider use of this model if additional information
becomes available in the future indicating that another model would provide a more accurate estimate of fair value,
or if characteristics of future grants would warrant such a change.
Income taxes: We account for deferred taxes by recognition of deferred tax assets and liabilities for the
expected future tax consequences of events that have been included in the consolidated financial statements or tax
returns. Under this method, deferred tax assets and liabilities are determined based on the difference between the
financial statement and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse. We record a deferred tax asset related to the stock-based compensation costs
recognized for certain stock-based awards. At the time of exercise of non-qualified stock options or vesting of stock
awards, we account for the resulting tax deduction by reducing our accrued income tax liability with an offset to the
deferred tax asset and any excess tax benefit increasing additional paid-in capital. We currently have a sufficient
pool of excess tax benefits in additional paid-in capital to absorb any deficient tax benefits related to stock-based
awards.
We maintain a reserve for uncertain tax positions. We evaluate tax positions taken or expected to be taken in a
tax return for recognition in our consolidated financial statements. Prior to recording the related tax benefit in our
consolidated financial statements, we must conclude that tax positions must be more-likely-than-not to be
sustained, assuming those positions will be examined by taxing authorities with full knowledge of all relevant
information. The benefit recognized in our consolidated financial statements is the amount we expect to realize after
27