Red Lobster 2013 Annual Report Download - page 26

Management’s Discussion and Analysis
of Financial Condition and Results of Operations
Darden
22 Darden Restaurants, Inc. 2013 Annual Report
SEASONALITY
Our sales volumes fluctuate seasonally. During fiscal 2013, our average sales per
restaurant were highest in the spring and winter, followed by the summer, and
lowest in the fall. During fiscal 2012 and 2011, our average sales per restaurant
were highest in the winter and spring, followed by the summer, and lowest in the
fall. Holidays, changes in the economy, severe weather and similar conditions
may impact sales volumes seasonally in some operating regions. Because of the
seasonality of our business, results for any quarter are not necessarily indicative
of the results that may be achieved for the full fiscal year.
IMPACT OF INFLATION
We attempt to minimize the annual effects of inflation through appropriate planning,
operating practices and menu price increases. We do not believe inflation had a
significant overall effect on our annual results of operations during fiscal 2013
or fiscal 2011. However, we experienced higher than normal inflationary costs
during fiscal 2012 and were able to partially reduce the annual impact utilizing
these strategies.
CRITICAL ACCOUNTING POLICIES
We prepare our consolidated financial statements in conformity with U.S. generally
accepted accounting principles. The preparation of these financial statements
requires us to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities at the
date of the financial statements and the reported amounts of sales and expenses
during the reporting period. Actual results could differ from those estimates.
Our significant accounting policies are more fully described in Note 1 to the
consolidated financial statements. However, certain of our accounting policies
that are considered critical are those we believe are both most important to the
portrayal of our financial condition and operating results and require our most
difficult, subjective or complex judgments, often as a result of the need to make
estimates about the effect of matters that are inherently uncertain. Judgments and
uncertainties affecting the application of those policies may result in materially
different amounts being reported under different conditions or using different
assumptions. We consider the following policies to be most critical in understanding
the judgments that are involved in preparing our consolidated financial statements.
Land, Buildings and Equipment
Land, buildings and equipment are recorded at cost less accumulated depreciation.
Building components are depreciated over estimated useful lives ranging from
7 to 40 years using the straight-line method. Leasehold improvements, which are
reflected on our consolidated balance sheets as a component of buildings in land,
buildings and equipment, net, are amortized over the lesser of the expected lease
term, including cancelable option periods, or the estimated useful lives of the related
assets using the straight-line method. Equipment is depreciated over estimated
useful lives ranging from 2 to 10 years, also using the straight-line method.
Our accounting policies regarding land, buildings and equipment, including
leasehold improvements, include our judgments regarding the estimated useful
lives of these assets, the residual values to which the assets are depreciated or
amortized, the determination of what constitutes expected lease term and the
determination as to what constitutes enhancing the value of or increasing the
life of existing assets. These judgments and estimates may produce materially
different amounts of reported depreciation and amortization expense if differ-
ent assumptions were used. As discussed further below, these judgments may
also impact our need to recognize an impairment charge on the carrying amount
of these assets as the cash flows associated with the assets are realized, or as our
expectations of estimated future cash flows change.
Leases
We are obligated under various lease agreements for certain restaurants. For
operating leases, we recognize rent expense on a straight-line basis over the
expected lease term, including option periods as described below. Capital leases
are recorded as an asset and an obligation at an amount equal to the present
value of the minimum lease payments during the lease term.
Within the provisions of certain of our leases, there are rent holidays and
escalations in payments over the base lease term, as well as renewal periods. The
effects of the holidays and escalations have been reflected in rent expense on a
straight-line basis over the expected lease term, which includes cancelable option
periods we are reasonably assured to exercise because failure to exercise such
options would result in an economic penalty to the Company. The lease term
commences on the date when we have the right to control the use of the leased
property, which is typically before rent payments are due under the terms of the
lease. The leasehold improvements and property held under capital leases for each
restaurant facility are amortized on the straight-line method over the shorter of the
estimated life of the asset or the same expected lease term used for lease account-
ing purposes. Many of our leases have renewal periods totaling 5 to 20 years,
exercisable at our option, and require payment of property taxes, insurance and
maintenance costs in addition to the rent payments. The consolidated financial
statements reflect the same lease term for amortizing leasehold improvements as
we use to determine capital versus operating lease classifications and in calcu-
lating straight-line rent expense for each restaurant. Percentage rent expense is
generally based upon sales levels and is accrued when we determine that it is
probable that such sales levels will be achieved. Landlord allowances are recorded
based on contractual terms and are included in accounts receivable, net and as a
deferred rent liability and amortized as a reduction of rent expense on a straight-
line basis over the expected lease term.
Our judgments related to the probable term for each restaurant affect the
classification and accounting for leases as capital versus operating, the rent holidays
and escalation in payments that are included in the calculation of straight-line rent
and the term over which leasehold improvements for each restaurant facility
are amortized. These judgments may produce materially different amounts of
depreciation, amortization and rent expense than would be reported if different
assumed lease terms were used.
Impairment of Long-Lived Assets
Land, buildings and equipment and certain other assets, including definite-lived
intangible assets, are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be recover-
able. Recoverability of assets to be held and used is measured by a comparison
of the carrying amount of the assets to the future undiscounted net cash flows
expected to be generated by the assets. Identifiable cash flows are measured at
the lowest level for which they are largely independent of the cash flows of other
groups of assets and liabilities, generally at the restaurant level. If these assets are