analyzing financial statements

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ConfirmingPagesLEARNINGOBJECTIVESAfterstudyingthischapter,youshouldbeableto:1.Explainhowacompany’sbusinessstrategyaffectsfinancialanalysis.p.6972.Discusshowanalystsusefinancialstatements.p.6983.Computeandinterpretcomponentpercentages.p.700LecturePresentationLP-14www.mhhe.com/libby7e4.Computeandinterpretprofitabilityratios.p.7025.Computeandinterpretliquidityratios.p.7076.Computeandinterpretsolvencyratios.p.7127.Computeandinterpretmarkettestratios.p.713lib11021_ch14_690-738.indd69008/07/101:57PM ConfirmingPagesCHAPTERFOURTEENANALYZINGFINANCIALSTATEMENTShehistoryofTheHomeDepotisanunusualsuccessstory.Foundedin1978inAtlanta,TheHomeDepothasgrowntobeAmerica’slargesthomeimprovementretailer,withTover2,200storesintheUnitedStates,Canada,China,andMexico.AccordingtoFortunemagazine,TheHomeDepotisoneofthenation’s30largestretailers.FinancialstatementsforTheHomeDepotarepresentedinExhibit 14.1.Asyoucansee,TheHomeDepot’srapidgrowthhasslowedinrecentyearsdueprimarilytoadifficulteconomicenvironment.SalesrevenuefortheyearendedFebruary1,2009,wasnearly10percentlowerthanin2007,andthecompany’snetearningsdecreasedbymorethan60percent.Withdisappointingfinancialresults,wouldyouwanttoinvestinTheHomeDepot?Anumberofprofessionalana-lyststhinkyoushould,includingthoseFOCUSCOMPANY:whoworkforEdwardJones,alargebrokeragefirm.InareportinwhichTheHomeDepottheyrecommendedbuyingstockinTheHomeDepot,theywrote:“Despiteshort-termpressuresonthecompanyFINANCIALANALYSIS:BRINGINGITduetoamorechallengingconsumerALLTOGETHERspendingenvironmentandaweakwww.homedepot.comhousingmarket,weviewHomeDepot’smarketdominance,long-termgrowthoutlook,andcompellingvaluationasreasonstorateitssharesaBuy.”Professionalanalystsconsideralargenumberoffactorsindevelopingthetypeofrecom-mendationcontainedintheEdwardJonesreport,includinginformationreportedinacom-pany’sfinancialstatements.Inthischapter,weuseaccountinginformationandavarietyofanalyticaltoolstostudyTheHomeDepotanditsmajorcompetitor,Lowe’s.UNDERSTANDINGTHEBUSINESSCompaniesspendbillionsofdollarseachyearpreparing,auditing,andpublishingtheirfinancialstatements.Thesestatementsarethenmailedtocurrentandprospectiveinvestors.Mostcompa-niesalsomakefinancialinformationavailabletoinvestorsontheInternet.TheHomeDepothasaparticularlyinterestinghomepage(http://www.homedepot.com)thatcontainscurrentfinan-cialstatements,recentnewsarticlesaboutthecompany,andavarietyofrelevantinformation.ThereasonthatTheHomeDepotandothercompaniesspendsomuchmoneytoprovideinfor-mationtoinvestorsissimple:Financialstatementshelppeoplemakebettereconomicdecisions.Infact,publishedfinancialstatementsaredesignedprimarilytomeettheneedsofexternaldecisionmakers,includingpresentandpotentialowners,investmentanalysts,andcreditors.lib11021_ch14_690-738.indd69108/07/101:58PM Rev.ConfirmingPages692CHAPTER14AnalyzingFinancialStatementsEXHIBIT14.1THEHOMEDEPOT,INC.,ANDSUBSIDIARIESConsolidatedStatementsofEarnings(amountsinmillions,exceptpersharedata)TheHomeDepotFinancialStatementsFiscalYearEndedFebruary1,February3,January28,200920082007NETSALES$71,288$77,349$79,022CostofSales47,29851,35252,476GrossProfit23,99025,99726,546OperatingExpenses:Selling,General,andAdministrative17,84617,05316,106DepreciationandAmortization1,7851,7021,574TotalOperatingExpenses19,63118,75517,680OperatingIncome4,3597,2428,866InterestandOther(Income)Expense:InterestandInvestmentIncome(18)(74)(27)InterestExpense624696391Other163——InterestandOther,net769622364EarningsfromContinuingOperationsbeforeProvisionforIncomeTaxes3,5906,6208,502ProvisionforIncomeTaxes1,2782,4103,236EarningsfromContinuingOperations2,3124,2105,266Earnings(Loss)fromDiscontinuedOperations,NetofTax(52)185495NetEarnings$2,260$4,395$5,761WeightedAverageCommonShares1,6821,8492,054BasicEarningsperSharefromContinuingOperations$1.37$2.28$2.56BasicEarnings(Loss)perSharefromDiscontinuedOperations$(0.03)$0.10$0.24BasicEarningsperShare$1.34$2.38$2.80DilutedWeightedAverageCommonShares1,6861,8562,062DilutedEarningsperSharefromContinuingOperations$1.37$2.27$2.55DilutedEarnings(Loss)perSharefromDiscontinuedOperations$(0.03)$0.10$0.24DilutedEarningsperShare$1.34$2.37$2.79lib11021_ch14_690-738.indd69225/07/1010:05AM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements693THEHOMEDEPOT,INC.,ANDSUBSIDIARIESEXHIBIT14.1ConsolidatedBalanceSheets(amountsinmillions,exceptshareandpersharedata)continuedFebruary1,February3,20092008ASSETSCurrentAssets:CashandCashEquivalents$519$445Short-TermInvestments612Receivables,net9721,259MerchandiseInventories10,67311,731OtherCurrentAssets1,1921,227TotalCurrentAssets13,36214,674PropertyandEquipment,atcost:Land8,3018,398Buildings16,96116,642Furniture,FixturesandEquipment8,7418,050LeaseholdImprovements1,3591,390ConstructioninProgress6251,435CapitalLeases49049736,47736,412LessAccumulatedDepreciationandAmortization10,2438,936NetPropertyandEquipment26,23427,476NotesReceivable36342Goodwill1,1341,209OtherAssets398623TotalAssets$41,164$44,324LIABILITIESANDSTOCKHOLDERS’EQUITYCurrentLiabilities:Short-TermDebt$—$1,747AccountsPayable4,8225,732AccruedSalariesandRelatedExpenses1,1291,094SalesTaxesPayable337445DeferredRevenue1,1651,474IncomeTaxesPayable28960CurrentInstallmentsofLong-TermDebt1,767300OtherAccruedExpenses1,6441,854TotalCurrentLiabilities11,15312,706Long-TermDebt,excludingcurrentinstallments9,66711,383OtherLong-TermLiabilities2,1981,833DeferredIncomeTaxes369688TotalLiabilities23,38726,610continuedlib11021_ch14_690-738.indd69308/07/101:58PM ConfirmingPages694CHAPTER14AnalyzingFinancialStatementsSTOCKHOLDERS’EQUITYEXHIBIT14.1CommonStock,parvalue$0.05;authorized:10billionshares;issued1.707billionsharesatFebruary1,2009,and1.698billioncontinuedsharesatFebruary3,2008;outstanding1.696billionsharesatFebruary1,2009,and1.690billionsharesatFebruary3,20088585Paid-InCapital6,0485,800RetainedEarnings12,09311,388AccumulatedOtherComprehensiveIncome(Loss)(77)755TreasuryStock,atcost,11millionsharesatFebruary1,2009,and8millionsharesatFebruary3,2008(372)(314)TotalStockholders’Equity17,77717,714TotalLiabilitiesandStockholders’Equity$41,164$44,324THEHOMEDEPOT,INC.,ANDSUBSIDIARIESConsolidatedStatementsofCashFlows(amountsinmillions)FiscalYearEndedFebruary1,February3,January28,200920082007CASHFLOWSFROMOPERATINGACTIVITIES:NetEarnings$2,260$4,395$5,761ReconciliationofNetEarningstoNetCashProvidedbyOperatingActivities:DepreciationandAmortization1,9021,9061,886ImpairmentRelatedtoRationalizationCharges580——ImpairmentofInvestment163——Stock-BasedCompensationExpense176207297ChangesinAssetsandLiabilities,netoftheeffectsofacquisitionsanddisposition:DecreaseinReceivables,net12111696Decrease(Increase)inMerchandiseInventories743(491)(563)(Increase)DecreaseinOtherCurrentAssets(7)109(225)(Decrease)IncreaseinAccountsPayableandAccruedLiabilities(646)(465)531DecreaseinDeferredRevenue(292)(159)(123)Increase(Decrease)inIncomeTaxesPayable262—(172)(Decrease)IncreaseinDeferredIncomeTaxes(282)(348)46Increase(Decrease)inOtherLong-TermLiabilities306186(51)Other242271178NetCashProvidedbyOperatingActivities5,5285,7277,661CASHFLOWSFROMINVESTINGACTIVITIES:CapitalExpenditures,netof$37,$19,and$49ofnon-cashcapitalexpendituresinfiscal2008,2007,and2006,respectively(1,847)(3,558)(3,542)ProceedsfromSaleofBusiness,net—8,337—PaymentsforBusinessesAcquired,net—(13)(4,268)ProceedsfromSalesofPropertyandEquipment147318138PurchasesofInvestments(168)(11,225)(5,409)ProceedsfromSalesandMaturitiesofInvestments13910,8995,434NetCash(Usedin)ProvidedbyInvestingActivities(1,729)4,758(7,647)continuedlib11021_ch14_690-738.indd69408/07/101:58PM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements695CASHFLOWSFROMFINANCINGACTIVITIES:EXHIBIT14.1(Repaymentsof)ProceedsfromShort-TermBorrowings,net(1,732)1,734(900)ProceedsfromLong-TermBorrowings,netofdiscount——8,935concludedRepaymentsofLong-TermDebt(313)(20)(509)RepurchasesofCommonStock(70)(10,815)(6,684)ProceedsfromSaleofCommonStock84276381CashDividendsPaidtoStockholders(1,521)(1,709)(1,395)OtherFinancingActivities(128)(105)(31)NetCashUsedinFinancingActivities(3,680)(10,639)(203)Increase(Decrease)inCashandCashEquivalents119(154)(189)EffectofExchangeRateChangesonCashandCashEquivalents(45)(1)(4)CashandCashEquivalentsatBeginningofYear445600793CashandCashEquivalentsatEndofYear$519$445$600SUPPLEMENTALDISCLOSUREOFCASHPAYMENTSMADEFOR:Interest,netofinterestcapitalized$622$672$270IncomeTaxes$1,265$2,524$3,963ORGANIZATIONoftheChapterInterpretingUnderstandingFinancialRatioandTheInvestmentRatiosandaCompany’sStatementPercentageDecisionOtherAnalyticalStrategyAnalysisAnalysisConsiderations■ComponentPercentages■TestsofLiquidity■TestsofSolvency■OtherFinancial■TestsofProfitability8.CashRatio13.TimesInterestInformation1.ReturnonEquity(ROE)9.CurrentRatioEarnedRatio■Informationinan2.ReturnonAssets(ROA)10.QuickRatio(Acid14.CashCoverageEfficientMarket3.FinancialLeverageTest)RatioPercentage11.Receivable15.Debt-to-Equity4.EarningsperShare(EPS)TurnoverRatioRatio5.QualityofIncome12.Inventory■MarketTests6.ProfitMarginTurnoverRatio16.Price/Earnings7.FixedAssetTurnover(PE)Ratio17.DividendYieldRatiolib11021_ch14_690-738.indd69525/07/1010:05AM ConfirmingPages696CHAPTER14AnalyzingFinancialStatementsTHEINVESTMENTDECISIONOfthepeoplewhousefinancialstatements,investorsareperhapsthesinglelargestgroup.Theyoftenrelyontheadviceofprofessionalanalysts,whodeveloprecommendationsonwidelyheldstockssuchasTheHomeDepot.Mostindividualinvestorsuseanalysts’reportsandtracktheirrecommendations.Asthisbookwasbeingwritten,professionalanalystsissuedthefollowinginvestmentrecommendationsforTheHomeDepot:ANALYSTOPINIONSRatingNumberofAnalystsBuy9Outperform1Hold8Underperform2Sell1Source:Quicken.com/investments/.Perhapsthemostimportantthingtonoticeaboutthissummaryofinvestmentrecommenda-tionsisthedegreeofdisagreement.Currently,nineanalystsrecommendbuyingmoreHomeDepotstock,whileeightothersrecommendholdingHomeDepotstockonlyifonealreadyownsit.Thislevelofdisagreementshowsthatfinancialanalysisispartartandpartscience.Inconsideringaninvestmentinstock,investorsshouldevaluatethecompany’sfutureincomeandgrowthpotentialonthebasisofthreefactors:Economy-widefactorsIndustryAfactorsIndustryBfactorsCompanyCompanyCompanyCompany1234factorsfactorsfactorsfactors1.Economy-widefactors.Oftentheoverallhealthoftheeconomyhasadirectimpactontheperformanceofanindividualbusiness.Investorsshouldconsiderdatasuchastheunemploy-mentrate,generalinflationrate,andchangesininterestrates.Forexample,inaresearchreportissuedbytheEdwardJonesbrokeragefirm,ananalystdetermined“risinginterestratescouldnegativelyimpactHomeDepot’ssales.”Thereasonforanegativeimpactonsales,accordingtotheanalyst,isthefactthatnearlyone-thirdofthedollarssavedonrefi-nancingmortgagesarespentonhomeimprovementprojects.2.Industryfactors.Certaineventscanhaveamajorimpactoneachcompanywithinanindustrybutonlyaminorimpactonothercompaniesoutsidetheindustry.Forexample,theEdwardJonesreportpredicted“home-improvementspendingcouldbenegativelyimpactedbyadeclineinhousingturnoveranddifficultcomparisonsfromtherecentperiodofunsus-tainablehighgrowth.”lib11021_ch14_690-738.indd69608/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements6973.Individualcompanyfactors.Toproperlyanalyzeacompany,goodanalystsdonotrelyonlyontheinformationcontainedinthefinancialstatements.Theyvisitthecompany,buyitsproducts,andreadaboutitinthebusinesspress.IfyouevaluateMcDonald’s,itisequallyimportanttoassessthequalityofitsbalancesheetandthequalityofitsBigMac.Anexampleofcompany-specificinformationiscontainedintheEdwardJonesreport:Newmanagershavebeenhiredbecausethemanagementskills“thatgrewHomeDepotto1,000stores[were]probablydifferentfromtheskillsetneededasthecompanygrowsbeyond2,000stores.”Besidesconsideringthesefactors,investorsshouldunderstandacompany’sbusinessstrat-egywhenevaluatingitsfinancialstatements.Beforediscussinganalyticaltechniques,wewillshowhowbusinessstrategyaffectsfinancialstatementanalysis.UNDERSTANDINGACOMPANY’SSTRATEGYLEARNINGOBJECTIVE1Financialstatementanalysisinvolvesmorethanjust“crunchingnumbers.”BeforeyoustartExplainhowacompany’slookingatnumbers,youshouldknowwhatyouarelookingfor.Whilefinancialstatementsbusinessstrategyaffectsreportontransactions,eachofthosetransactionsistheresultofacompany’soperatingdeci-financialanalysis.sionsasitimplementsitsbusinessstrategy.BusinessOperatingFinancialTransactionsStrategyDecisionsStatementsTheDuPontmodelhelpsusanalyzetheprofitabilityofabusinessanddemonstratesthatavarietyofstrategiescanresultinhighlevelsofprofitability.Themodelfollows:NetProfitAssetFinancialROEMarginTurnoverLeverageNetIncomeNetIncomeNetSalesAverageTotalAssets::AverageStockholders’NetSalesAverageTotalAverageStockholders’EquityAssetsEquityAkeyinsightprovidedbytheDuPontmodelisthatcompaniescanbeprofitablebyachiev-inghighprofitmarginsorarapidturnoverofassets(oracombinationofboth).Businessescanearnahighrateofreturnbyfollowingdifferentstrategies.Thesearetwofundamentalstrategies:1.Productdifferentiation.Underthisstrategy,companiesofferproductswithuniqueben-efits,suchashighqualityorunusualstyleorfeatures.Theseuniquebenefitsallowacom-panytochargehigherprices.Ingeneral,higherpricesyieldhigherprofitmargins,whichleadtohigherreturnsonequity(asshownintheDuPontmodel).2.Costdifferentiation.Underthisstrategy,companiesattempttooperatemoreefficientlythantheircompetitors,whichpermitsthemtoofferlowerpricestoattractcustomers.Theefficientuseofresourcesiscapturedintheassetturnoverratio,andastheDuPontmodelillustrates,ahigherassetturnoverratioleadstohigherreturnoninvestment.lib11021_ch14_690-738.indd69708/07/101:58PM ConfirmingPages698CHAPTER14AnalyzingFinancialStatementsYoucanprobablythinkofanumberofcompaniesthathavefollowedoneofthesetwobasicstrategies.Herearesomeexamples:DifferentiationonQualityDifferentiationonCostCars:Cars:CadillacFordFocusMercedesChevroletAveoBMWKiaRioRetailStores:RetailStores:NordstromKmartTiffanyWalmartSaksDollarGeneralThebestplacetostartfinancialanalysisiswithasolidunderstandingofacompany’sbusi-nessstrategy.Toevaluatehowwellacompanyisdoing,youmustknowwhatmanagersaretryingtodo.Youcanlearnagreatdealaboutacompany’sbusinessstrategybyreadingitsannualreport,especiallytheletterfromthepresident.Italsoisusefultoreadarticlesaboutthecompanyinthebusinesspress.TheHomeDepot’sbusinessstrategyisdescribedinits10-Kreportasfollows:OperatingStrategyTHEHOMEDespitethecontinuingdifficulteconomicenvironment,wecontinuedtofocusonourcoreDEPOTretailbusiness,investinginourstoresandimprovingourcustomerservice.Weshiftedourfocusfromnewsquarefootagegrowthtomaximizingtheproductivityofourexistingstorebase.Additionally,wemadeseveralstrategicdecisionswhichareintendedtooptimizeourREALWORLDEXCERPTcapitalallocationincludingourdecisionstoclose15stores,removeapproximately50stores10-KReportfromournewstorepipeline,andexitseveralbusinesses(EXPOandHDBathbusiness).ThisstrategyhasseveralimplicationsforouranalysisofTheHomeDepot:1.Costcontroliscritical.TheHomeDepotmustbeabletopurchasemerchandiseatlowpricesinordertobeatcompetitors.2.Tocoverthecostofoperatinglargestores,TheHomeDepotmustbeabletogenerateahighvolumeofbusiness.3.Toofferahighlevelofservice,TheHomeDepotmustincuremployeecompensationandtrainingcoststhatarehigherthancompetitors’costs.ThisputspressureonTheHomeDepottocontrolcostsinotherareas.Withtheseimplicationsinmind,wecanattachmoremeaningtotheinformationcontainedinTheHomeDepot’sfinancialstatements.FINANCIALSTATEMENTANALYSISLEARNINGOBJECTIVE2Analyzingfinancialdatawithoutabasisforcomparisonisimpossible.Forexample,wouldDiscusshowanalystsuseyoubeimpressedwithacompanythatearned$1millionlastyear?Youareprobablythinking,financialstatements.“Itdepends.”A$1millionprofitmightbeverygoodforacompanythatlostmoneytheyearbeforebutnotgoodforacompanythatmade$500milliontheprecedingyear.Itmightbegoodforasmallcompanybutnotforaverylargecompany.Anditmightbeconsideredgoodifalllib11021_ch14_690-738.indd69808/07/101:58PM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements699theothercompaniesintheindustrylostmoneythesameyearbutnotgoodiftheyallearnedmuchlargerprofits.Asyoucanseefromthissimpleexample,financialresultscannotbeevaluatediniso-lation.Toproperlyanalyzetheinformationreportedinfinancialstatements,youmustdevelopappropriatecomparisons.Thetaskoffindingappropriatebenchmarksrequiresjudgmentandisnotalwayseasy.Financialanalysisisasophisticatedskill,notamechani-calprocess.Therearetwomethodsformakingfinancialcomparisons,timesseriesanalysisandcom-parisonswithsimilarcompanies.1.Timeseriesanalysis.Inthistypeofanalysis,informationonasinglecompanyiscom-paredovertime.Forexample,akeymeasureofperformanceformostcompaniesisthechangeinsalesvolumeeachyear.ThetimeserieschartbelowshowsthatTheHomeDepot’ssaleshavedeclinedsignificantlyoverthepastfewyears.Analystswouldwanttoexaminethistrend.Thenotestothefinancialstatementshelpusunderstandthisproblem:TheslowdownintheglobaleconomyandweaknessintheU.S.residentialconstructionTHEHOMEandhomeimprovementmarketsnegativelyimpactedournetsales.OurcomparablestoreDEPOTsalesdeclined8.7%inthecurrentfiscalyeardrivenbya5.5%declineincomparablestorecustomertransactions,aswellasa3.3%declineinouraverageticket. . .REALWORLDEXCERPTInthecurrentenvironment,TheHomeDepotisexperiencingfewercustomersinitsstoresandthosecustomersarespendinglessmoneyontheiraveragepurchase.Noticethatourunder-standingofthereportednumbersisdirectlytiedtounderstandingTheHomeDepot’sbusinessstrategy.15105Percentchangeinsales02002200320042005200620072008–5–102.Comparisonwithsimilarcompanies.Wehaveseenthatfinancialresultsareoftenaffectedbyindustryandeconomy-widefactors.Bycomparingacompanywithanotheroneinthesamelineofbusiness,ananalystcangainbetterinsightintoitsperformance.ThecomparisonofvariousmeasuresforTheHomeDepotandLowe’s(inthefollowinggraph)showssimilarresults,suggestingthatbothcompaniesarebeingaffectedbyindustryfac-tors.ThedataforgrossprofitpercentageandincomeasapercentofsalesshowthatTheHomeDepotisoperatingalittlelessefficientlythanLowe’s.SalesforLowe’swereessen-tiallyunchangedcomparedtoan8percentdeclineforTheHomeDepot.ThecomparisonwithLowe’sindicatesthatTheHomeDepothasconsiderableworktodoinordertodealwiththeeconomicdownturn.lib11021_ch14_690-738.indd69925/07/1010:05AM ConfirmingPages700CHAPTER14AnalyzingFinancialStatements40353025HomeDepot2015Lowe’s105051015GrossprofitIncomeGrowthpercentageas%ofinsalessalesFindingcomparablecompaniesisoftenverydifficult.FortuneBrands,forexample,isawell-knowncompanythateachyearsellsmorethan$9billionworthofdistilledspirits,homeimprovementproducts,officeproducts,andgolfequipment.Noothercompanysellsexactlythatgroupofproducts.Caremustbeexercisedinselectingcomparablecompaniesfromthesamebasicindustry.DaysInn,LaQuinta,Hilton,FourSeasons,Marriott,andMirageResortsareallwell-knowncompaniesinthehotelindustry,butnotallcouldbeconsideredcomparablecompaniesforpurposesoffinancialanalysis.Thesehotelsofferdifferentlevelsofqualityandappealtodifferenttypesofcustomers.ThefederalgovernmenthasdevelopedtheNorthAmericanIndustryClassificationSystem(NAICS)foruseinreportingeconomicdata.Thesystemassignsaspecificindustrycodetoeachcorporationbasedonitsbusinessoperations.Analystsoftenusethesesix-digitcodestoidentifycompaniesthathavesimilarbusinessoperations.Inaddition,financialinformationservicessuchasRobertMorrisAssociatesprovideaveragesformanycommonaccountingratiosforvariousindustriesdefinedbytheindustrialclassificationcodes.Becauseofthediver-sityofcompaniesincludedineachindustryclassification,however,thesedatashouldbeusedwithgreatcare.Forthisreason,someanalystsprefertocomparetwocompaniesthatareverysimilarinsteadofusingindustry-widecomparisons.RATIOANDPERCENTAGEANALYSISRATIO(PERCENTAGE)Allfinancialanalystsuseratioanalysisorpercentageanalysiswhentheyreviewcom-ANALYSISisananalyticaltoolpanies.Aratioorpercentageexpressestheproportionaterelationshipbetweentwodif-thatmeasurestheproportionalferentamounts,allowingforeasycomparisons.Assessingacompany’sprofitabilityisrelationshipbetweentwodifficultifyouknowonlythatitearnedanetincomeof$500,000.Comparingincometofinancialstatementamounts.othernumbers,suchasstockholders’equity,providesadditionalinsights.Ifstockhold-ers’equityis$5million,forexample,thentherelationshipofearningstoinvestmentis$500,000 ÷ $5,000,000 = 10percent.Thismeasureindicatesadifferentlevelofperfor-LEARNINGOBJECTIVE3mancethanwouldbethecaseifstockholders’equitywere$250million.RatioanalysisComputeandinterprethelpsdecisionmakerstoidentifysignificantrelationshipsandmakemeaningfulcompari-componentpercentages.sonsbetweencompanies.Ratiosmaybecomputedusingamountsinonestatement,suchastheincomestatement,orintwodifferentstatements,suchastheincomestatementandthebalancesheet.Inaddition,amountsonasinglestatementmaybeexpressedasapercentageofabaseamount.ComponentPercentagesCOMPONENTAnalystsoftencomputecomponentpercentages,whichexpresseachitemonafinancialstate-PERCENTAGESexpresseachmentasapercentageofasinglebaseamount(theratio’sdenominator).Tocomputecompo-itemonaparticularfinancialnentpercentagesfortheincomestatement,thebaseamountisnetsalesrevenue.Eachexpensestatementasapercentageofaisexpressedasapercentageofnetsalesrevenue.Onthebalancesheet,thebaseamountistotalsinglebaseamount.assets;eachbalancesheetaccountisdividedbytotalassets.Exhibit 14.2showsacomponentpercentageanalysisforTheHomeDepot’sincomestate-ment(seetheconsolidatedstatementsofearningsinExhibit 14.1).Ifyousimplyreviewedlib11021_ch14_690-738.indd70008/07/101:58PM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements701COMPONENTPERCENTAGESEXHIBIT14.2IncomeStatement200920082007Netsales100.0%100.0%100.0%ComponentPercentagesforCostofsales66.466.466.4TheHomeDepotGrossprofit33.633.633.6OperatingexpensesSelling,general,andadministrative25.022.020.4Depreciationandamortization2.52.22.0Totaloperatingexpenses27.524.222.4Operatingincome6.19.411.2Interestandinvestmentincome0.00.00.0Interestexpenseandother1.10.90.4Interest,net1.10.80.4Earnings,beforetaxes5.08.610.8Incometaxes1.83.14.1Earningsfromdiscontinuedoperations0.00.20.6Netearnings3.25.77.3thedollaramountsontheincomestatement,youmightmissimportantinsights.Forexample,selling,general,andadministrativeexpenseincreasedbynearly$800millionbetween2008and2009.Thisincreasemightseemmodestuntilitiscomparedwiththedeclineinsalesproductivity.Acomponentpercentageanalysisprovidesanimportantinsight:Thisexpensecategoryincreasedfrom22percentofsalesto25percentduringthatperiod.Inotherwords,TheHomeDepothasnotdoneagoodjobofkeepingselling,general,andadministrativeexpenseinlinewiththereducedlevelofsalesactivity.Thecomponentanalysis(inExhibit 14.2)helpstohighlightseveraladditionalissuesforTheHomeDepot,suchasthese:ComponentPercentagesforTheHomeDepot,20091.Earningsdecreasedbetween2008and2009.Theprimarycauseforthedeclineinearningswasanincreaseinselling,general,andadministrativeexpenseasapercentageofsales.2.Someofthepercentagechangesmayseemsmall,buttheyinvolvesignificantamountsofmoney.Thethreepercentagepointincreaseintheratioofselling,general,andadministra-tiveexpenseasapercentageofsalesfrom2008to2009representsmorethan$2billion.3.Costofsalesasapercentageofsaleshasbeenconstantoverthepastthreeyears.Thisdegreeofstabilityisunusual.Aswementionedearlier,akeypartofTheHomeDepot’sstrategyCostofmerchandiseissellingmerchandiseatlowprices.CompaniesfollowingthisstrategymustcontroltheOperatingexpensemarginbetweenthecostofmerchandiseanditssellingprice.TheconstancyoftheratioofEarningscostofgoodssoldtosalesrevenueisanindicationofthedegreeofsuccessthecompanyisComponentPercentageshavingimplementingitsstrategy.forLowe's,2009Manyanalystsusegraphicssoftwareintheirstudyoffinancialresults.Graphicrepresentationisespeciallyusefulwhencommunicatingfindingsduringmeetingsorinprintedform.Thechartsinthemarginsummarizekey2009datafromExhibit 14.2,alongwithcomparabledatafromLowe’s,akeycompetitor.Inadditiontocomponentpercentages,analystsuseratiostocomparerelateditemsfromthefinancialstatements.Ofthemanyratiosthatcanbecomputedfromasinglesetoffinan-cialstatements,analystsuseonlythosethatcanbehelpfulinagivensituation.ComparingCostofmerchandisecostofgoodssoldtoproperty,plant,andequipmentisneverusefulbecausetheseitemsOperatingexpensehavenonaturalrelationship.Instead,ananalystwilloftencomputecertainwidelyusedEarningsratiosandthendecidewhichadditionalratioscouldberelevanttoaparticulardecision.lib11021_ch14_690-738.indd70125/07/1010:05AM ConfirmingPages702CHAPTER14AnalyzingFinancialStatementsResearchanddevelopmentcostsasapercentageofsalesisnotacommonlyusedratio,forexample,butitisusefulwhenanalyzingcompaniesthatdependonnewproducts,suchasdrugorcomputerfirms.Whenyoucomputeratios,rememberabasicfactaboutfinancialstatements:Balancesheetamountsrelatetoamomentintimewhileincomestatementamountsrelatetoanentireperiod.Incomparinganincomestatementamounttoabalancesheetamount,youshouldexpressthebalancesheetasanaverageofthebeginningandendingbalances.Inpractice,manyanalystssimplyusetheendingbalancesheetamount,anapproachthatisappropriateonlyifnosig-nificantchangeshaveoccurredinthebalancesheetamounts.Forconsistency,wealwaysuseaverageamounts.Financialstatementanalysisisajudgmentalprocess;notallratiosarehelpfulinagivensituation.Wewilldiscussseveralratiosthatareappropriatetomostsituations.TheycanbegroupedintothecategoriesshowninExhibit 14.3.TestsofProfitabilityLEARNINGOBJECTIVE4Profitabilityisaprimarymeasureoftheoverallsuccessofacompany.Indeed,itisnecessaryComputeandinterpretforacompany’ssurvival.Severaltestsofprofitabilityfocusonmeasuringtheadequacyofprofitabilityratios.incomebycomparingittootheritemsreportedonthefinancialstatements.Returnonequityisawidelyusedmeasureofprofitability.TESTSOFPROFITABILITYareratiosthatcompareincome1.ReturnonEquity(ROE)withoneormoreprimaryReturnonequityrelatesincomeearnedtotheinvestmentmadebytheowners.Thisratioactivities.reflectsthesimplefactthatinvestorsexpecttoearnmoremoneyiftheyinvestmoremoney.Twoinvestmentsthatofferareturnof$10,000arenotcomparableifonerequiresa$100,000investmentandtheotherrequiresa$250,000investment.Thereturnonequityratioiscom-putedasfollows:1________________________NetIncomeReturnonEquity=AverageStockholders’Equity_______$2,260HomeDepot2009==12.7%$17,746**($17,777 + $17,714) ÷ 2 = $17,746.TheHomeDepotearned12.7percentontheowners’investment.Wasthatreturngoodorbad?WecananswerthisquestionbycomparingTheHomeDepot’sreturnonequitywiththeratioforasimilarcompany.ReturnonequityforLowe’swas12.9percentin2009,notmuchdif-ferentcomparedtoTheHomeDepot.Clearly,TheHomeDepotdidnotproduceabetterreturnthanitsstrongestcompetitor.WecangainadditionalinsightbyexaminingTheHomeDepot’sROEovertime:200920082007ROE12.7%20.5%22.1%ThiscomparisonindicatesconsistentdeteriorationinTheHomeDepot’sperformanceasmea-suredbyitsROE.Asmentionedearlier,TheHomeDepot’sperformancewasaffectedbynega-tiveeconomicfactors.Thiscomparisonsuggeststhatthesefactorshavehadanimpactforaconsiderableamountoftime.1ThefiguresforTheHomeDepotusedthroughoutthefollowingexamplesaretakenfromthefinancialstatementsinExhibit 14.1.lib11021_ch14_690-738.indd70208/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements703RatioBasicComputationEXHIBIT14.3TestsofProfitability1.Returnonequity(ROE)________________________NetIncomeWidelyUsedAccountingAverageStockholders’EquityRatios2.Returnonassets(ROA)NetIncome+InterestExpense(netoftax)___________________________________AverageTotalAssets3.FinancialleveragepercentageReturnonEquity − ReturnonAssets4.Earningspershare(EPS)________________________NetIncomeAverageNumberofSharesofCommonStockOutstanding5.QualityofincomeCashFlowsfromOperatingActivities______________________________NetIncome6.Profitmargin________________NetIncomeNetSalesRevenue7.Fixedassetturnoverratio_____________________NetSalesRevenueAverageNetFixedAssetsTestsofLiquidity8.CashratioCash+CashEquivalents_____________________CurrentLiabilities9.Currentratio_______________CurrentAssetsCurrentLiabilities10.Quickratio_______________QuickAssetsCurrentLiabilities11.Receivableturnoverratio_____________________NetCreditSalesAverageNetReceivables12.Inventoryturnoverratio________________CostofGoodsSoldAverageInventoryTestsofSolvency13.Timesinterestearnedratio_______________________________________________NetIncome+InterestExpense+IncomeTaxExpenseInterestExpense14.CashcoverageratioCashFlowsfromOperatingActivities(beforeinterestandtaxespaid)______________________________InterestPaid15.Debt-to-equityratio_________________TotalLiabilitiesStockholders’EquityMarketTests16.Price/earnings(P/E)ratio__________________________CurrentMarketPriceperShareEarningsperShare17.Dividendyieldratio___________________DividendsperShareMarketPriceperSharelib11021_ch14_690-738.indd70308/07/101:58PM ConfirmingPages704CHAPTER14AnalyzingFinancialStatements2.ReturnonAssets(ROA)Anothertestofprofitabilitycomparesincometothetotalassets(i.e.,totalinvestment)usedtoearntheincome.Manyanalystsconsiderthereturnonassetsratiotobeabettermeasure(com-paredtoROE)ofmanagement’sabilitytoutilizeassetseffectivelybecauseitisnotaffectedbythewayinwhichtheassetshavebeenfinanced.Forexample,thereturnonequitycouldbeveryhighforacompanythathasborrowedalargeamountofdebtcomparedtoacompanythathasearnedthesamereturnonthesameamountofassetsbutborrowedlessmoney.Returnonassetsiscomputedasfollows:NetIncome+InterestExpense(netoftax)†ReturnonAssets=____________________________________AverageTotalAssets$2,260__________________+($624×66%)HomeDepot2009==6.3%$42,744‡†Thisillustrationassumesacorporatetaxrateof34percent.‡($41,164 + $44,324) ÷ 2 = $42,744.Notethatinterestexpensehasbeenaddedtonetincomeinthenumeratoroftheratio.Becausethedenominatoroftheratioincludesresourcesprovidedbybothownersandcredi-tors,thenumeratormustincludethereturnthatwasavailabletoeachgroup.Interestexpenseisaddedbackbecauseitwaspreviouslydeductedinthecomputationofnetincome.Note,too,thatinterestexpenseismeasurednetofincometax.Thisamountisusedbecauseitrepresentsthenetcosttothecorporationforthefundsprovidedbycreditors.ThereturnonassetsforLowe’swas7.8percent,higherthantheROAforTheHomeDepot.ThiscomparisonisanotherindicationthatLowe’shasrespondedbettertodifficultmarketcon-ditionsbyutilizingitsassetsmoreeffectivelythanTheHomeDepot.3.FinancialLeveragePercentageFinancialleveragepercentagemeasurestheadvantageordisadvantagethatoccurswhenacompany’sreturnonequitydiffersfromitsreturnonassets(i.e.,ROE − ROA).IntheDuPontmodeldiscussedearlierinthischapter,financialleveragewasdefinedasthepropor-tionofassetsacquiredwithfundssuppliedbyowners.Theratiofinancialleveragepercent-agemeasuresarelatedbutdifferentconcept.Thisratiodescribestherelationshipbetweenthereturnonequityandthereturnonassets.Leverageispositivewhentherateofreturnonacompany’sassetsexceedstheaverageafter-taxinterestrateonitsborrowedfunds.Basically,thecompanyborrowsatonerateandinvestsatahigherrateofreturn.Mostcompanieshavepositiveleverage.Financialleveragepercentagecanbemeasuredbycomparingthetworeturnratiosasfollows:FinancialLeveragePercentage=ReturnonEquity−ReturnonAssetsHomeDepot2009=12.7%−6.3%=6.4%(positiveleverage)Whenacompanyborrowsfundsatanafter-taxinterestrateandinveststhosefundstoearnahigherafter-taxrateofreturn,thedifferenceaccruestothebenefitoftheowners.ThenotestoTheHomeDepot’sannualreportindicatethatthecompanyborrowedmoneyatratesrangingfrom3.75percentto5.875percentandinvesteditinassetsearning6.3percent.Thedifferencebetweentheincomeearnedonthemoneyithasborrowedandtheinterestithaspaidtocredi-torsisavailablefortheownersofTheHomeDepot.Thisbenefitoffinancialleverageistheprimaryreasonmostcompaniesobtainasignificantamountoftheirresourcesfromcreditorsratherthanfromthesaleofcapitalstock.Notethatfinancialleveragecanbeenhancedeitherbyinvestingeffectively(i.e.,earningahighreturnoninvestment)orbyborrowingeffectively(i.e.,payingalowrateofinterest).Lowe’sfinancialleverageratio(5.1percent)islowerthanTheHomeDepot’s.Lowe’sratioislowerbecauseitutilizescomparativelylessdebtinitscapitalstructure.lib11021_ch14_690-738.indd70408/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements7054.EarningsperShare(EPS)Theearningspershareratioisameasureofreturnoninvestmentthatisbasedonthenumberofsharesoutstandinginsteadofthedollaramountsreportedonthebalancesheet.Insimplesitua-tions,2EPSiscomputedasfollows:________________________NetIncomeEarningsperShare=AverageNumberofSharesofCommonStockOutstanding______$2,260HomeDepot2009==$1.34pershare1,693**(1,696 + 1,690) ÷ 2 = 1,693.Earningspershareisprobablythesinglemostwidelywatchedratio.Itsimportanceisillus-tratedbyanewsstorypublishedbyReuters(June10,2009):THEHOMEDEPOTHomeDepotstockroseafterthecompanyupdatedits2009EPSestimate.Sharesrose35%intradingonWednesdayafterthecompanymadeitsannouncement.REALWORLDEXCERPTReuters5.QualityofIncomeMostfinancialanalystsareconcernedaboutthequalityofacompany’searningsbecausesomeaccountingprocedurescanbeusedtoreporthigherincome.Forexample,acompanythatusesLIFOandshortestimatedlivesfordepreciableassetswillreportlowerearningsthanasimilarcompanythatusesFIFOandlongerestimatedlives.Onemethodofevaluatingthequalityofacompany’searningsistocompareitsreportedearningstoitscashflowsfromoperatingactivi-ties,asfollows:CashFlowsfromOperatingActivitiesQualityofIncome=_______________________________NetIncome______$5,528HomeDepot2009==2.45$2,260Aqualityofincomeratiothatishigherthan1isconsideredtoindicatehigh-qualityearn-ings,becauseeachdollarofincomeissupportedbyonedollarormoreofcashflow.Aratiothatisbelow1representslower-qualityearnings.AresearchreportfromEdwardJonesdiscussestheissueofqualityofearningsforTheHomeDepot:THEHOMENetincomehistoricallygrewinlinewithcashflowsfromoperatingactivities.Butoverthepastthreeyears,HomeDepothasbecomemuchmoreefficientwithitsworkingcapital,DEPOTdrivingdownnetincomeasapercentageofcashflowsfromoperatingactivities.Also,thecompanyisusingmoreconservativeaccountingmethodology.REALWORLDEXCERPTEdwardJones2TheEPSnumberwecalculateinthissectionisthesameastheonereportedbyTheHomeDepotonitsincomestatementshowninExhibit 14.1.Normally,thatwillnotbethecase.Weestimatedtheaveragenumberofsharesoutstandingbyaveragingthenumberofsharesatthebeginningandendoftheyear.TheHomeDepotcomputestheaveragebasedontheactualnumberofdaysthatthestockwasoutstanding.lib11021_ch14_690-738.indd70508/07/101:58PM ConfirmingPages706CHAPTER14AnalyzingFinancialStatements6.ProfitMarginTheprofitmarginmeasuresthepercentageofeachsalesdollar,onaverage,thatrepresentsprofit.Itiscomputedasfollows:________________NetIncomeProfitMargin=NetSalesRevenue______$2,260HomeDepot2009==3.2%$71,288For2009,eachdollarofTheHomeDepot’ssalesgenerated3.2centsofprofit.Incompari-son,Lowe’searned4.6centsforeachdollarofsales.Thisisafairlysignificantdifferencefortwocompaniesinthesameindustry.ItrepresentsasignificantadvantageforLowe’s.Whileprofitmarginisagoodmeasureofoperatingefficiency,caremustbeusedinanalyz-ingitbecauseitdoesnotconsidertheresources(i.e.,totalinvestment)neededtoearnincome.Itisverydifficulttocompareprofitmarginsforcompaniesindifferentindustries.Forexam-ple,profitmarginsarelowinthefoodindustrywhileprofitmarginsinthejewelrybusinessarehigh.Bothtypesofbusinesscanbequiteprofitable,however,becauseahighsalesvolumecancompensateforalowprofitmargin.Grocerystoreshavelowprofitmargins,buttheygenerateahighsalesvolumefromtheirrelativelyinexpensivestoresandinventory.Althoughjewelrystoresearncomparativelymoreprofitfromeachsalesdollar,theyrequirealargeinvestmentinluxurystoresandveryexpensiveinventory.Thetrade-offbetweenprofitmarginandsalesvolumecanbestatedinsimpleterms:Wouldyouprefertohave5percentof$1,000,000or10percentof$100,000?Asyoucansee,alargerprofitmarginisnotalwaysbetter.7.FixedAssetTurnoverRatioAnothermeasureofoperatingefficiencyisthefixedassetturnoverratio,whichcomparessalesvolumewithacompany’sinvestmentinfixedassets.Thetermfixedassetsissynonymouswithproperty,plant,andequipment.Theratioiscomputedasfollows:_____________________NetSalesRevenueFixedAssetTurnoverRatio=AverageNetFixedAssets_______$71,288HomeDepot2009==2.65$26,855**($26,234 + $27,476) ÷ 2 = $26,855.In2009,TheHomeDepot’sfixedassetturnoverratiowasbetterthanLowe’s(2.2).Insimpleterms,thismeansthatTheHomeDepothadacompetitiveadvantageoverLowe’sintermsofitsabilitytoeffectivelyutilizeitsfixedassetstogeneraterevenue.ForeachdollarTheHomeDepotinvestedinproperty,plant,andequipment,thecompanywasabletoearn$2.65insalesrevenue,whileLowe’scouldearnonly$2.20.ThiscomparisonisextremelyimportantbecauseitindicatesthatthemanagementofTheHomeDepotwasabletooperatemoreefficientlythanitsmaincompetitor.Thefixedassetturnoverratioisusedwidelytoanalyzecapital-intensivecompaniessuchasairlinesandelectricutilities.Forcompaniesthatholdlargeamountsofinventoryandaccountsreceivable,analystsoftenprefertousetheassetturnoverratio,whichisbasedontotalassetsratherthanfixedassets:__________________NetSalesRevenueAssetTurnoverRatio=AverageTotalAssets_______$71,288HomeDepot2009==1.67$42,744**($41,164 + $44,324) ÷ 2 = $42,744.In2009,TheHomeDepotwasabletogenerate$1.67inrevenueforeachdollarinvestedinassets.Incomparison,Lowe’sassetturnoverratiowas1.54.Bothturnoverratiosshowthatlib11021_ch14_690-738.indd70608/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements707TheHomeDepotwasabletooperatemoreefficientlythanLowe’s.Thiscomparisonisimpor-tantbecauseoperatingefficiencyhasasignificantimpactonprofitability,asshownbytheDuPontmodel(presentedearlierinthischapter).PAUSEFOR FEEDBACKSELF-STUDYQUIZWehavediscussedseveralmeasuresofprofitability.Nextwewilldiscusstestsofliquidity.Beforeyoumoveon,completethefollowingquestionstotestyourunderstandingoftheseconcepts.Showhowtocomputethefollowingratios:1.Returnonequity=2.Returnonassets=3.Profitmargin=Afteryouhavecompletedyouranswers,checkthemwiththesolutionsatthebottomofthepage.TestsofLiquidityLiquidityreferstoacompany’sabilitytomeetitscurrentlymaturingdebts.TestsofliquidityLEARNINGOBJECTIVE5focusontherelationshipbetweencurrentassetsandcurrentliabilities.Theabilitytopaycur-Computeandinterpretliquidityrentliabilitiesisanimportantfactorinevaluatingacompany’sshort-termfinancialstrength.Aratios.companythatdoesnothavecashavailabletopayforpurchasesonatimelybasiswillloseitscashdiscountsandruntheriskofhavingitscreditdiscontinuedbyvendors.Inthissection,weTESTSOFLIQUIDITYarediscussfiveratiosthatareusedtomeasureliquidity:thecashratio,thecurrentratio,thequickratiosthatmeasureacompany’sratio,thereceivableturnoverratio,andtheinventoryturnoverratio.abilitytomeetitscurrentlymaturingobligations.8.CashRatioCashisthelifebloodofabusiness.Withoutcash,acompanycannotpayitsemployeesormeetitsobligationstocreditors.Evenaprofitablebusinesswillfailwithoutsufficientcash.Onemeasureoftheadequacyofavailablecash,calledthecashratio,iscomputedasfollows:Cash+CashEquivalentsCashRatio=_____________________CurrentLiabilities______$519HomeDepot2009==0.05to1$11,153In2009,Lowe’scashratiowas0.03,indicatingthatitscashreservewassomewhatlessthanthatindicatedbythecashratioforTheHomeDepot.TheHomeDepotratioof0.05meansthatthecompanyhasonhand5centsofcashforeach$1ofcurrentliabilities.Wouldanalystsbeconcernedaboutthisfairlylowmarginofsafety?Inthiscase,theanswerisnobecausethereareotherfactorstoconsider.Forexample,TheHomeDepot’sstatementofcashflowsshowsthatthecompanygeneratedalargeamountofcashfromitsoperatingactivities.Asaresult,itSolutionsto1._______________________NetIncomeSELF-STUDYQUIZAverageStockholders’Equity2.NetIncome+InterestExpense(netoftax)_________________________________AverageTotalAssets3._______________NetIncomeNetSalesRevenuelib11021_ch14_690-738.indd70708/07/101:58PM ConfirmingPages708CHAPTER14AnalyzingFinancialStatementsdidnotneedtokeepalargeamountofcashonhandtomeetunexpectedneeds.Indeed,mostanalystsbelievethecashratioshouldnotbetoohighbecauseholdingexcesscashisusuallyuneconomical.Itisfarbettertoinvestthecashinproductiveassetsorreducedebt.Someanalystsdonotusethecashratiobecausetheyseeitastoostringentatestofliquid-ityanditisverysensitivetosmallevents.Thecollectionofalargeaccountreceivable,forexample,couldhaveasignificantimpactonacompany’scashratio.Thecurrentratioandthequickratioaremuchlesssensitivetothetimingofsuchtransactions.9.CurrentRatioThecurrentratiomeasurestherelationshipbetweentotalcurrentassetsandtotalcurrentliabili-tiesonaspecificdate.Itiscomputedasfollows:_______________CurrentAssetsCurrentRatio=CurrentLiabilities______$13,362HomeDepot2009==1.20to1$11,153Thecurrentratiomeasuresthecushionofworkingcapitalthatcompaniesmaintaintoallowfortheinevitableunevennessintheflowoffundsthroughtheworkingcapitalaccounts.Attheendof2009,TheHomeDepothad$1.20incurrentassetsforeach$1incurrentliabilities.Mostanalystswouldjudgethatratiotobeverystrong,givenTheHomeDepot’sabilitytogeneratecash.Toproperlyusethecurrentratio,analystsmustunderstandthenatureofacompany’sbusiness.Manymanufacturingcompanieshavedevelopedsophisticatedsystemstominimizetheamountofinventorytheymusthold.Thesesystems,calledjust-in-timeinventory,aredesignedtohaveaninventoryitemarrivejustwhenitisneeded.Whilethesesystemsworkwellinmanufacturingpro-cesses,theydonotworkaswellinretailing.Customersexpecttofindmerchandiseinthestorewhentheywantit,andithasprovendifficulttopreciselyforecastconsumerbehavior.Asaresult,mostretailershavecomparativelyhighcurrentratiosbecausetheymustcarrylargeinventories.TheHomeDepot,forexample,maintainsaninventoryof50,000differentproductsineachstore.Analystsconsideracurrentratioof2tobefinanciallyconservative.Indeed,mostcompa-nieshavecurrentratiosthatarebelow2.Theoptimallevelofthecurrentratiodependsonthebusinessenvironmentinwhichacompanyoperates.Ifcashflowsarepredictableandstable(astheyareforautilitycompany),thecurrentratiocanbelow,evenlessthan1.Forexample,Procter&Gamble,astrongandfiscallyconservativecompany,hasacurrentratioof0.78.Whencashflowsarehighlyvariable,ahighercurrentratioisdesirable.Analystsbecomeconcernedifacompany’scurrentratioishighcomparedtothatofothercompaniesinitsindustry.Afirmisoperatinginefficientlywhenittiesuptoomuchmoneyininventoryoraccountsreceivable.Thereisnoreason,forinstance,foraHomeDepotstoretohold1,000hammersinstockifitsellsonly100hammersamonth.10.QuickRatio(AcidTest)Thequickratioisamorestringenttestofshort-termliquiditythanisthecurrentratio.Thequickratiocomparesquickassets,definedascashandnear-cashassets,tocurrentliabilities.Quickassetsincludecash,short-terminvestments,andaccountsreceivable(netoftheallow-ancefordoubtfulaccounts).Inventoryisomittedfromquickassetsbecauseoftheuncertaintyofthetimingofcashflowsfromitssale.Prepaidexpensesarealsoexcludedfromquickassets.Thequickratioiscomputedasfollows:_______________QuickAssetsQuickRatio=CurrentLiabilities______$1,497*HomeDepot2009==0.13to1$11,153*($519 + $6 + $972) = $1,497.lib11021_ch14_690-738.indd70808/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements709Thequickratioisameasureofthesafetymarginthatisavailabletomeetacompany’scurrentliabilities.TheHomeDepothas13centsincashandnear-cashassetsforevery$1incurrentliabilities.Thismarginofsafetyistypicaloftheretailindustryandwouldbecon-sideredagoodmargininlightofthelargeamountofcashTheHomeDepotgeneratesfromitsoperatingactivities.Incomparison,thequickratioforLowe’sislessthanHomeDepot(0.08to1).11.ReceivableTurnoverRatioAccountsreceivablearecloselyrelatedtobothshort-termliquidityandoperatingefficiency.Acompanythatcanquicklycollectcashfromitscustomershasgoodliquidityanddoesnotneedlesslytieupfundsinunproductiveassets.Thereceivableturnoverratioiscomputedasfollows:_____________________NetCreditSales*ReceivableTurnoverRatio=AverageNetReceivables______$71,288HomeDepot2009==63.9Times$1,116†*Whentheamountofcreditsalesisnotknown,totalsalesmaybeusedasaroughapproximation.†($972 + $1,259) ÷ 2 = $1,116.Ahighreceivableturnoverratiosuggeststhatacompanyiseffectiveinitscredit-grantingandcollectionactivities.Grantingcredittopoorcreditrisksandineffectivecollectioneffortswillproducealowreceivableturnoverratio.Whileaverylowratioisobviouslyaproblem,averyhighratioalsocanbetroublesomebecauseitsuggestsanoverlystringentcreditpolicythatcouldcauselostsalesandprofits.Thereceivableturnoverratioisoftenconvertedtoatimebasisknownastheaverageageofreceivables.Thecomputationisasfollows:______________________DaysinaYearAverageAgeofReceivables=ReceivableTurnoverRatio____365HomeDepot2009==5.7AverageDaystoCollect63.9Theeffectivenessofcreditandcollectionactivitiesissometimesjudgedbytheruleofthumbthattheaveragedaystocollectshouldnotexceed1.5timesthecreditterms.Forexample,ifthecredittermsrequirepaymentin30days,theaveragedaystocollectshouldnotexceed45days(i.e.,notmorethan15dayspastdue).Likeallrulesofthumb,thisonehasmanyexceptions.Althoughthereceivableturnoverrationormallyprovidesusefulinsights,theoneforTheHomeDepotisnotmeaningful.ItishighlyunlikelythatTheHomeDepotcollectscashfromitscreditcustomersinjust5.7days,onaverage.BecausewedidnotknowtheamountofTheHomeDepot’screditsales,weusedtotalsalesasanapproximation.Inthiscase,theapproximationisnotreasonable.Thinkaboutthelasttimeyouwatchedacustomerbuy-ingmerchandiseoncreditinaretailstore.MostcustomersuseabankcreditcardsuchasMasterCardorVisa.Fromtheseller’sperspective,asalestransactioninvolvingabankcreditcardisrecordedinvirtuallythesamemannerasacashsale.Inotherwords,themoneyacustomerowesonacreditcardsaleisowedtothecreditcardcompany,nottheseller(inthiscase,TheHomeDepot).Inpractice,themajorityofTheHomeDepot’screditsalesinvolvebankcreditcards.Asaresult,TheHomeDepot’sreceivableturnoverratioisnotmeaningful.Thissituationillustratesthatratioanalysisinvolvesmorethanthemerecomputationofnumbers.Analystsmustevaluatetheresultsbasedontheirunderstandingofthebusiness.lib11021_ch14_690-738.indd70908/07/101:58PM ConfirmingPages710CHAPTER14AnalyzingFinancialStatements12.InventoryTurnoverRatioLikethereceivableturnoverratio,theinventoryturnoverratioisameasureofbothliquid-ityandoperatingefficiency.Thisratioreflectstherelationshipofinventorytothevolumeofgoodssoldduringtheperiod.Itiscomputedasfollows:________________CostofGoodsSoldInventoryTurnoverRatio=AverageInventory_______$47,298HomeDepot2009==4.2Times$11,202**($10,673 + $11,731) ÷ 2 = $11,202.Becauseacompanynormallyrealizesprofiteachtimeinventoryissold,anincreaseinthisratioisusuallyfavorable.Iftheratioistoohigh,however,itmaybeanindicationthatsaleswerelostbecausedesireditemswerenotinstock.Thecostofalostsaleisoftenmuchhigherthanthelostprofit.Whenabusinessisoutofstockonanitemdesiredbyacustomer,theindi-vidualwilloftengotoacompetitortofindit.Thatvisitmayhelpthecompetitorestablishabusinessrelationshipwiththecustomer.Thus,thecostofbeingoutofstockmaybeallfutureprofitsonsalestoalostcustomer.Onaverage,TheHomeDepot’sinventorywasacquiredandsoldtocustomersfourtimesduringtheyear.TheinventoryturnoverratioiscriticalforTheHomeDepotbecauseofitsbusinessstrategy.Itwantstobeabletooffercustomerstherightproductwhentheyneeditatapricethatbeatsthecompetition.IfTheHomeDepotdoesnoteffectivelymanageitsinventorylevels,itwillincurextracoststhatmustbepassedontothecustomer.InventoryturnoverforLowe’swas4.0.Historically,TheHomeDepothasenjoyedasignifi-cantadvantageoverLowe’sintermsofinventorymanagement.TheHomeDepot’seffective-nessininventorymanagementmeansthatthecompanyisabletotieuplessmoneyincarryinginventorycomparedtoLowe’s.Turnoverratiosvarysignificantlyfromoneindustrytothenext.Companiesinthefoodindustry(grocerystoresandrestaurants)havehighinventoryturnoverratiosbecausetheirinventoryissubjecttorapiddeteriorationinquality.Companiesthatsellexpensivemerchandise(automobilesandhigh-fashionclothes)havemuchlowerratiosbecausealthoughsalesofthoseitemsareinfrequent,customerswanttohaveaselectiontochoosefromwhentheydobuy.Theinventoryturnoverratioisoftenconvertedtoatimebasiscalledtheaveragedays’sup-plyininventory.Thecomputationis:____________________DaysinYearAverageDays’SupplyinInventory=InventoryTurnoverRatio___365HomeDepot2009==86.9AverageDays’SupplyinInventory4.2UsingRatiostoAnalyzetheOperatingCycleInChapter3,weintroducedtheconceptoftheoperatingcycle,whichisthetimeittakesforacompanytopaycashtoitssuppliers,sellgoodstoitscustomers,andcollectcashfromitscustomers.Analystsareinterestedintheoperatingcyclebecauseithelpsthemevaluateacompany’scashneedsandisagoodindicatorofman-agementefficiency.Theoperatingcycleformostcompaniesinvolvesthreedistinctphases:theacquisitionofinventory,thesaleoftheinventory,andthecollectionofcashfromthecustomer.Wehavediscussedseveralratiosthatarehelpfulwhenevaluatingacompany’soperatingcycle:RatioOperatingActivityAccountspayableturnoverratio*PurchaseofinventoryInventoryturnoverratioSaleofinventoryReceivableturnoverratioCollectionofcashfromcustomers*DiscussedinChapter9.lib11021_ch14_690-738.indd71008/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements711Eachoftheratiosmeasuresthenumberofdaysittakes,onaverage,tocompleteanoperatingactivity.WehavealreadycomputedtwooftheneededratiosforTheHomeDepot,soifwecomputetheaccountspayableturnoverratio,wecananalyzetheoperatingcycle:______________________CostofGoodsSoldAccountsPayableTurnoverRatio=AverageAccountsPayable______$47,298HomeDepot2009==9Times$5,277**($4,822 + $5,732) ÷ 2 = $5,277.___________________DaysinaYearAverageAgeofPayables=PayableTurnoverRatio___365HomeDepot2009==40.6AverageDaystoPaySuppliers9ThelengthofthecomponentpartsforTheHomeDepot’soperatingcycleare:RatioTimeAverageageofpayables40.6daysAveragedays’supplyofinventory86.9daysAverageageofreceivables5.7daysThecomponentpartsoftheoperatingcyclehelpusunderstandthecashneedsofthecompany.TheHomeDepot,onaverage,paysforitsinventory40.6daysafteritreceivesit.Ittakes,onaverage,92.6days(86.9 + 5.7)forittosellandforthecompanytocollectcashfromthecustomer.Therefore,TheHomeDepotmustinvestcashinitsoperatingactivitiesfornearly52daysbetweenthetimeitpaysitsvendorsandthetimeitcollectsfromitscustomers.Com-paniesprefertominimizethetimebetweenpayingvendorsandcollectingcashfromcustomersbecauseitfreesupcashforotherproductivepurposes.TheHomeDepotcouldreducethistimebyslowingpaymentstocreditorsorbyincreasingtheinventoryturnover.PAUSEFOR FEEDBACKSELF-STUDYQUIZWehavediscussedseveralmeasuresofliquidity.Nextwewilldiscusstestsofsolvency.Beforeyoumoveon,completethefollowingquestionstotestyourunderstandingoftheseconcepts.Showhowtocomputethefollowingratios:1.Currentratio=2.Quickratio=3.Cashratio=Afteryouhavecompletedyouranswers,checkthemwiththesolutionsatthebottomofthepage.Solutionsto1._______________CurrentAssetsSELF-STUDYQUIZCurrentLiabilities2._______________QuickAssetsCurrentLiabilities3.Cash+CashEquivalents____________________CurrentLiabilitieslib11021_ch14_690-738.indd71108/07/101:58PM ConfirmingPages712CHAPTER14AnalyzingFinancialStatementsTestsofSolvencyLEARNINGOBJECTIVE6Solvencyreferstoacompany’sabilitytomeetitslong-termobligations.Testsofsolvency,Computeandinterpretsolvencywhicharemeasuresofacompany’sabilitytomeettheseobligations,includethetimesinterestratios.earned,cashcoverage,anddebt-to-equityratios.13.TimesInterestEarnedRatioTESTSOFSOLVENCYareratiosthatmeasureacompany’sInterestpaymentsareafixedobligation.Ifacompanyfailstomakerequiredinterestpayments,abilitytomeetitslong-termcreditorsmayforceitintobankruptcy.Becauseoftheimportanceofmeetinginterestpay-obligations.ments,analystsoftencomputearatiocalledtimesinterestearned:NetIncome+InterestExpense+IncomeTaxExpenseTimesInterestEarned=____________________________InterestExpense___________________$2,260+$624+$1,278HomeDepot2009==6.7Times$624Thetimesinterestearnedratiocomparestheincomeacompanygeneratedinaperiodtoitsinterestobligationforthesameperiod.Itrepresentsamarginofprotectionforcreditors.In2009,TheHomeDepotgenerated$6.70inincomeforeach$1ofinterestexpense,ahighratiothatindicatesasecurepositionforcreditors.Someanalystsprefertocalculatethetimesinterestearnedratiobasedonallcontractu-allyrequiredpayments,includingprincipalandrentpayments.Othersbelievethattheratioisflawedbecauseinterestexpenseandotherobligationsarepaidincash,notwithnetincome.Theseanalystsprefertousethecashcoverageratio.14.CashCoverageRatioGiventheimportanceofcashflowsandrequiredinterestpayments,itiseasytounderstandwhymanyanalystsusethecashcoverageratio.Itiscomputedasfollows:CashFlowsfromOperatingActivities____________________________________beforeInterestandTaxesPaidCashCoverageRatio=InterestPaid(fromstatementofcashflows)___________________$5,528+$622+$1,265HomeDepot2009==11.9$622Thecashcoverageratiocomparesthecashgeneratedbyacompanytoitscashobliga-tionsfortheperiod.Rememberthatanalystsareconcernedaboutacompany’sabilitytomakerequiredinterestpayments.TheHomeDepot’scashcoverageratioshowsthatthecompanygenerated$11.90incashforevery$1ofinterestpaid,whichisstrongcoverage.Notethatthenumeratorandthedenominatorofthecashcoverageratiouseinterestpaidfromthestatementofcashflowsinsteadofinterestexpensefromtheincomestatement.Accruedinterestandinterestpaymentsarenormallysimilarinamountbutarenotalwaysthesame.15.Debt-to-EquityRatioThedebt-to-equityratioexpressesacompany’sdebtasaproportionofitsstockholders’equity.Itiscomputedasfollows:_________________TotalLiabilitiesDebt-to-EquityRatio=Stockholders’Equity______$23,387HomeDepot2009==1.32$17,777In2009,foreach$1ofstockholders’equity,TheHomeDepothad$1.32worthofliabilities.Bycomparison,Lowe’sdebt-to-equityratiowas0.81.Debtisriskyforacompanybecausespecificinterestpaymentsmustbemadeevenifthecompanyhasnotearnedsufficientincometopaythem.Incontrast,dividendsarealwaysatthelib11021_ch14_690-738.indd71208/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements713company’sdiscretionandarenotlegallyenforceableuntiltheyaredeclaredbytheboardofdirectors.Thus,equitycapitalisusuallyconsideredmuchlessriskythandebt.Despitetheriskassociatedwithdebt,however,mostcompaniesobtainsignificantamountsofresourcesfromcreditorsbecauseoftheadvantagesoffinancialleveragediscussedearlier.Inaddition,interestexpenseisadeductibleexpenseonthecorporateincometaxreturn.Inselect-ingacapitalstructure,acompanymustbalancethehigherreturnsavailablethroughleverageagainstthehigherriskassociatedwithdebt.Becauseoftheimportanceoftherisk-returnrela-tionship,mostanalystsconsiderthedebt-to-equityratioakeypartofanycompanyevaluation.MarketTestsSeveralratios,oftencalledmarkettests,relatethecurrentpricepershareofstocktothereturnLEARNINGOBJECTIVE7thataccruestoinvestors.Manyanalystsprefertheseratiosbecausetheyarebasedonthecur-Computeandinterpretmarketrentvalueofanowner’sinvestmentinacompany.testratios.16.Price/Earnings(P/E)RatioMARKETTESTSareratiosTheprice/earnings(P/E)ratiomeasurestherelationshipbetweenthecurrentmarketpriceofastockthattendtomeasurethemarketanditsearningspershare.Recently,whenthepriceofTheHomeDepotstockwas$26pershare,worthofashareofstock.EPSforTheHomeDepotwas$1.34.TheP/EratioforTheHomeDepotiscomputedasfollows:CurrentMarketPriceperSharePrice/EarningsRatio=__________________________EarningsperShare_____$26HomeDepot2009==19.4$1.34ThisP/EratioindicatesthatTheHomeDepot’sstockwassellingatapricethatwas19.4timesitsearningspershare.TheP/Eratioreflectsthestockmarket’sassessmentofacompany’sfutureperformance.Ahighratioindicatesthatearningsareexpectedtogrowrapidly.TheHomeDepot’sP/EratioishighercomparedtopreviousyearsandishigherthanLowe’s,whichreportedaP/Eratioof14.9.TheP/EratioforTheHomeDepotsuggeststhatthemarketbelievesthatTheHomeDepothasgoodpotentialtoincreaseitsincomefromcurrentlevels.Becausethecompanyhascutbackonexpansionplans,thisgrowthshouldcomefromimprovedoperatingefficiencies.Ineconomicterms,thevalueofastockisrelatedtothepresentvalueofthecompany’sfutureearnings.Thus,acompanythatexpectstoincreaseitsearningsinthefutureisworthmorethanonethatcannotgrowitsearnings(assumingotherfactorsarethesame).However,whileahighP/Eratioandgoodgrowthprospectsareconsideredfavorable,therearerisks.WhenacompanywithahighP/Eratiodoesnotmeetthelevelofearningsexpectedbythemarket,thenegativeimpactonitsstockcanbedramatic.17.DividendYieldRatioDividendYieldsforWheninvestorsbuystock,theyexpecttwokindsofreturn:dividendincomeandpriceappre-SelectedCompaniesciation.Thedividendyieldratiomeasurestherelationshipbetweenthedividendspersharepaidtostockholdersandthecurrentmarketpriceofthestock.TheHomeDepotpaiddividends0%2%4%6%of90centspersharewhenthemarketpriceofitsstockwas$26pershare.ItsdividendyieldOracleLucentratioiscomputedasfollows:KrogerDividendsperShareWalgreensDividendYieldRatio=____________________MarketPriceperShareExxonP&G_____$0.90PepsiCoHomeDepot2009==3.5%$26GeneralElectricTheLimitedInrecentyears,thedividendyieldforTheHomeDepotwaslessthan2percent.TheratioDukeEnergyincreasedin2009becauseofalowerstockpriceandanincreaseintheamountofthedividend.GeneralMotorsThedividendyieldformoststocksisnothighcomparedtoalternativeinvestments.Investorsarewillingtoacceptlowdividendyieldsiftheyexpectthatthepriceofastockwillincreasewhiletheyownit.Clearly,investorswhoboughtTheHomeDepotstockdidsowiththeexpectationlib11021_ch14_690-738.indd71308/07/101:58PM ConfirmingPages714CHAPTER14AnalyzingFinancialStatementsthatitspricewouldincrease.Incontrast,stockswithlowgrowthpotentialtendtooffermuchhigherdividendyieldsthandostockswithhighgrowthpotential.Thesestocksoftenappealtoretiredinvestorswhoneedcurrentincomeratherthanfuturegrowthpotential.ThedividendyieldforLowe’sisevenlowerthanthatforTheHomeDepot,1.5percentin2009.Thechartinthemarginonthepreviouspageshowsdividendyieldsforsomecompaniesinotherindustries.PAUSEFOR FEEDBACKSELF-STUDYQUIZWehavediscussedseveralmeasuresofsolvencyandtwomarkettests.Nextwewilldiscussimportantanalyticalconsiderations.Beforeyoumoveon,completethefollowingquestionstotestyourunder-standingoftheseconcepts.Showhowtocomputethefollowingratios:1.Currentratio=2.Inventoryturnoverratio=3.Price/earningsratio=Afteryouhavecompletedyouranswers,checkthemwiththesolutionsatthebottomofthepage.INTERPRETINGRATIOSANDOTHERANALYTICALCONSIDERATIONSExceptforearningspershare,thecomputationoffinancialratioshasnotbeenstandardizedbyeithertheaccountingprofessionorsecurityanalysts.Thus,usersoffinancialstatementsshouldcomputethevariousratiosinaccordancewiththeirdecisionobjectives.Beforeusingratioscomputedbyothers,theyshoulddeterminethecomputationalapproachthatwasused.Aswehaveseen,ratioscanbeinterpretedonlybycomparingthemtootherratiosortosomeoptimalvalue.Someratios,bytheirverynature,areunfavorableateitherveryhighorverylowvalues.Forexample,averylowcurrentratiomayindicateaninabilitytomeetmaturingdebts,whileaveryhighcurrentratiomayindicateanunprofitableuseoffunds.Furthermore,anoptimalratioforonecompanymaynotbeoptimalforanother.Comparisonsamongtheratiosfordifferentcompaniesareappropriateonlyifthecompaniesarecomparableintermsoftheirindustry,operations,size,andaccountingpolicies.Becauseratiosarebasedontheaggregationofinformation,theymayobscureunderlyingfactorsthatareofinteresttotheanalyst.Forexample,acurrentratiothatisconsideredoptimalcanobscureashort-termliquidityprobleminacompanywithalargeamountofinventorybutaminimalamountofcashwithwhichtopaydebtsastheymature.Carefulanalysiscanuncoverthistypeofproblem.Inothercases,analysiscannotuncoverobscuredproblems.Forexample,consolidatedstate-mentsincludefinancialinformationaboutaparentcompanyanditssubsidiaries.Theparentcompanycouldhaveahighcurrentratioandthesubsidiaryalowone,butwhentheirstate-mentsareconsolidated,theircurrentratiosareineffectaveragedandcanfallwithinanaccept-ablerange.Thefactthatthesubsidiarycouldhaveaseriousliquidityproblemisobscured.Solutionsto1._______________CurrentAssetsSELF-STUDYQUIZCurrentLiabilities2.________________CostofGoodsSoldAverageInventory3.________________________CurrentMarketPriceperShareEarningsperSharelib11021_ch14_690-738.indd71408/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements715YEARSBEFOREBANKRUPTCYEXHIBIT14.454321SelectedFinancialRatiosCurrentratio1.81.71.71.21.2forHechingerDebt-to-equityratio1.61.82.05.05.6Despitelimitations,ratioanalysisisausefulanalyticaltool.Forinstance,financialratiosareeffectiveforpredictingbankruptcy.Exhibit 14.4presentsthecurrentanddebt-to-equityratiosforHechinger,aformercompetitorofTheHomeDepot,forthefiveyearsbeforeitsrecentbankruptcy.Noticetheprogressivedeteriorationoftheseratios.AnalystswhostudiedtheseratiosprobablywerenotsurprisedwhenHechingerfiledforbankruptcy.Financialstatementsprovideinformationtoallinvestors,bothsophisticatedandunsophisti-cated.However,userswhounderstandbasicaccountingprinciplesandterminologyareabletomoreeffectivelyanalyzetheinformationcontainedinfinancialstatements.Forexample,someunsophisticateduserswhodonotunderstandthecostprinciplebelievethatassetsarereportedonthebalancesheetattheirfairmarketvalue.Interpretingaccountingnumberscorrectlywith-outanunderstandingoftheconceptsthatwereusedtodevelopthemisimpossible.Inanalyzingdifferentcompanies,youwillfindthattheyrarelyuseexactlythesameaccount-ingpolicies.Comparisonsamongcompaniesareappropriateonlyiftheanalystwhoismakingthemunderstandstheimpactofdifferentaccountingalternatives.Forexample,onecompanymayuseconservativeaccountingalternativessuchasaccelerateddepreciationandLIFOwhileanothermayuseincome-maximizingalternativessuchasstraight-linedepreciationandFIFO.Analystswhodonotunderstandthedifferenteffectsoftheseaccountingmethodscouldmisin-terpretfinancialresults.Perhapsthemostimportantfirststepinanalyzingfinancialstatementsisareviewofthecompany’saccountingpolicies,whicharedisclosedinanotetothestatements.OtherFinancialInformationTheratioswehavediscussedareusefulformostanalyticalpurposes.Becauseeachcompanyisdifferent,however,youmustexerciseprofessionaljudgmentwhenyouconductafinancialanalysis.Toillustrate,let’slookatsomespecialfactorsthatcouldaffectouranalysisofTheHomeDepot.1.Rapidgrowth.Growthintotalsalesvolumedoesnotalwaysindicatethatacompanyissuccessful.Salesvolumefromnewstoresmayobscurethefactthatexistingstoresarenotmeetingcustomerneedsandareexperiencingdeclinesinsales.ThefamilypizzachainChuck-E-Cheeseappearedtobeasuccesswhenitreportedrapidgrowthintotalsalesrev-enuebyopeningnewrestaurants.Unfortunately,thenoveltyofthenewChuck-E-Cheeserestaurantsprovedtobeshort-lived,andtheirsalesvolumefellquickly.Becauseitsolderrestaurantswereunprofitable,Chuck-E-Cheesewasforcedtoreorganize.Incontrast,TheHomeDepot’sannualreportshowsthatthecompany’sstorespostedsalesincreasesrangingfrom3percentto15percentineachoftheprevious10years.Clearly,TheHomeDepotcangeneratesalesincreasesfrombothnewandexistingstores.2.Uneconomicalexpansion.Somegrowth-orientedcompanieswillopenstoresinlessdesir-ablelocationsifgoodlocationscannotbefound.Thesepoorlocationscancauseacom-pany’saverageproductivitytodecline.Onemeasureofproductivityintheretailindustryissalesvolumepersquarefootofsellingspace.ForTheHomeDepot,productivityresultsareacauseforconcern:YearSalesperSquareFoot2009$2982008332200735720063752005371lib11021_ch14_690-738.indd71508/07/101:58PM ConfirmingPages716CHAPTER14AnalyzingFinancialStatementsSalespersquarefoothavebeeninasteadydeclineforthepastseveralyears,afterreachingapeakofover$400inthe1990s.Managementexplainstheslowdowningrowthisadirectresultofitsstrategy:THEHOMEDEPOTWestrategicallyopenstoresnearmarketareasservedbyexistingstores(“cannibalize”)togainincrementalsalesandincreasemarketpenetration.NewstorescannibalizedREALWORLDEXCERPTapproximately5%ofourexistingstoresandreducedsalesvolumebyapproximately1%.AnnualReportAsthenoteindicates,TheHomeDepotiswillingtoacceptlowerproductivityatcertainexistingstoresinordertoachievehighsaleslevelsinaregion.Despitetheexplanation,therapiddeclineinsalespersquarefootrepresentsasignificantoperatingchallengeforTheHomeDepot.3.Subjectivefactors.Rememberthatvitalinformationaboutacompanyisnotcontainedintheannualreport.ThebestwaytoevaluateTheHomeDepot’sstrategyofbeingapriceleader,forinstance,istovisititsstoresandthoseofcompetitors.AnanalystwhostudiedTheHomeDepotforSmithBarneydidexactlythat:THEHOMEOnJuly15,wesurveyedtheBocaRaton,Florida,market.TheHomeDepotstoreisaboutDEPOTtwoyearsoldandwasparticularlyimpressivewithrespecttoitsin-stockposition,customerservice,andtotalstorepresentation.WewereabletocompareHomeDepot’spricingon20REALWORLDEXCERPTsampleitems.OurpriceanalysisrevealedthatHomeDepotisthepriceleaderinthemarketbyanaverageof11percentbelowtheaveragetotalpriceofour20-itemmarketbasket.GivenSmithBarneyTheHomeDepot’slowcoststructure,webelievethatitwillremainthepriceleaderinthisResearchReportimportantmarket.Astheseexamplesillustrate,nosingleapproachcanbeusedtoanalyzeallcompanies.Fur-thermore,aneffectiveanalystwilllookbeyondtheinformationcontainedinanannualreport.AQUESTIONInsiderInformationOFETHICSFinancialstatementsareanimportantsourceofinformationforinvestors.Theannouncementofunexpectedinformationcancauseasubstantialmovementinthepriceofacompany’sstock.Acompany’saccountantsoftenareawareofimportantfinancialinformationbeforeitismadeavailabletothepublic.Thisiscalledinsiderinformation.Somepeoplemightbetemptedtobuyorsellstockbasedoninsiderinformation,buttodosoisaseriouscriminaloffense.TheSecuritiesandExchangeCommissionhasbroughtanumberofcasesagainstindividualswhotradedoninsiderinfor-mation.Theirconvictionsresultedinlargefinesandtimeservedinjail.Insomecases,determiningwhethersomethingisinsiderinformationisdifficult.Forexample,anindividualcouldoverhearacommentmadeinthecompanyelevatorbytwoexecutives.Awell-respectedWallStreetinvestmentbankeroffersgoodadviceondealingwithsuchsituations:“Ifyouarenotsureifsomethingisrightorwrong,applythenewspaperheadlinetest.Askyourselfhowyouwouldfeeltohaveyourfamilyandfriendsreadaboutwhatyouhaddoneinthenewspaper.”Inter-estingly,manypeoplewhohavespenttimeinjailandlostsmallfortunesinfinesbecauseofinsidertradingsaythatthemostdifficultpartoftheprocesswastellingtheirfamilies.Toupholdthehighestethicalstandard,manypublicaccountingfirmshaveadoptedrulesthatpre-venttheirstafffrominvestingincompaniesthatthefirmsaudit.Suchrulesaredesignedtoensurethatacompany’sauditorswillnotbetemptedtoengageininsidertrading.lib11021_ch14_690-738.indd71608/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements717InformationinanEfficientMarketConsiderableresearchhasbeenperformedonthewayinwhichstockmarketsreacttonewinformation.Muchofthisevidencesupportstheviewthatthemarketsreactveryquicklytonewinformationinanunbiasedmanner(thatis,themarketdoesnotsystematicallyoverreactorunderreacttonewinformation).Amarketthatreactstoinformationinthismanneriscalledanefficientmarket.Inanefficientmarket,thepriceofasecurityfullyreflectsallavailableEFFICIENTMARKETSareinformation.securitiesmarketsinwhichpricesItisnotsurprisingthatthestockmarketsreactquicklytonewinformation.Manyprofes-fullyreflectavailableinformation.sionalinvestorsmanagestockportfoliosvaluedinthehundredsofmillionsofdollars.Theseinvestorshaveafinancialincentivetodiscovernewinformationaboutacompanyandtotradequicklybasedonthatinformation.Theresearchonefficientmarketshasimportantimplicationsforfinancialanalysts.Itprob-ablyisnotbeneficialtostudyoldinformation(sayanannualreportthatwasreleasedsixmonthsearlier)inanefforttoidentifyanundervaluedstock.Inanefficientmarket,thepriceofastockreflectsallinformationcontainedintheannualreportshortlyafteritsrelease.Inanefficientmarket,moreover,acompanycannotmanipulatethepriceofitsstockbymanipulat-ingitsaccountingpolicy.Themarketshouldbeabletodifferentiatebetweenacompanywhoseearningsareincreasingduetoimprovedproductivityandonewhoseearningshaveincreasedsimplybecauseofchangesinaccountingpolicies.CHAPTER  TAKE-AWAYS1.Explainhowacompany’sbusinessstrategyaffectsfinancialanalysis.p.697Insimpleterms,abusinessstrategyestablishestheobjectivesabusinessistryingtoachieve.Per-formanceisbestevaluatedbycomparingthefinancialresultstotheobjectivesthatthebusinesswasworkingtoachieve.Inotherwords,anunderstandingofacompany’sstrategyprovidesthecontextforconductingfinancialstatementanalysis.2.Discusshowanalystsusefinancialstatements.p.698Analystsusefinancialstatementstounderstandpresentconditionsandpastperformanceaswellastopredictfutureperformance.Financialstatementsprovideimportantinformationtohelpusersunderstandandevaluatecorporatestrategy.Thedatareportedonstatementscanbeusedforeithertimeseriesanalysis(evaluatingasinglecompanyovertime)orincomparisonwithsimilarcompa-niesatasinglepointintime.Mostanalystscomputecomponentpercentagesandratioswhenusingstatements.3.Computeandinterpretcomponentpercentages.p.700Tocomputecomponentpercentagesfortheincomestatement,thebaseamountusedisnetsalesrev-enue.Eachexpenseisexpressedasapercentageofnetsalesrevenue.Onthebalancesheet,thebaseamountistotalassets;eachbalancesheetaccountisdividedbytotalassets.Componentpercentagesareevaluatedbycomparingthemovertimeforasinglecompanyorbycomparingthemwithpercent-agesforsimilarcompanies.4.Computeandinterpretprofitabilityratios.p.702Severaltestsofprofitabilityfocusonmeasuringtheadequacyofincomebycomparingittootheritemsreportedonthefinancialstatements.Exhibit 14.3liststheseratiosandshowshowtocomputethem.Profitabilityratiosareevaluatedbycomparingthemovertimeforasinglecompanyorbycom-paringthemwithratiosforsimilarcompanies.5.Computeandinterpretliquidityratios.p.707Testsofliquiditymeasureacompany’sabilitytomeetitscurrentlymaturingdebt.Exhibit 14.3liststheseratiosandshowshowtocomputethem.Liquidityratiosareevaluatedbycomparingthemovertimeforasinglecompanyorbycomparingthemwithratiosforsimilarcompanies.lib11021_ch14_690-738.indd71708/07/101:58PM ConfirmingPages718CHAPTER14AnalyzingFinancialStatements6.Computeandinterpretsolvencyratios.p.712Solvencyratiosmeasureacompany’sabilitytomeetitslong-termobligations.Exhibit 14.3liststheseratiosandshowshowtocomputethem.Solvencyratiosareevaluatedbycomparingthemovertimeforasinglecompanyorbycomparingthemwithratiosforsimilarcompanies.7.Computeandinterpretmarkettestratios.p.713Markettestratiosrelatethecurrentpriceofastocktothereturnthataccruestoinvestors.Exhibit 14.3liststheseratiosandshowshowtocomputethem.Markettestratiosareevaluatedbycomparingthemovertimeforasinglecompanyorbycomparingthemwithratiosforsimilarcompanies.FINDING FINANCIALINFORMATIONBalanceSheetIncomeStatementRatiosarenotreportedonthebalancesheet,Earningspershareistheonlyratiothatisbutanalystsusebalancesheetinformationtorequiredtobereportedonthefinancialstate-computemanyratios.Mostanalystsuseanments.Itisusuallyreportedatthebottomofaverageofthebeginningandendingamountstheincomestatement.forbalancesheetaccountswhencomparingtheaccounttoanincomestatementaccount.StatementofCashFlowsStatementofStockholders’EquityRatiosarenotreportedonthisstatement,butRatiosarenotreportedonthisstatement,butsomeanalystsuseamountsfromthisstatementanalystsuseamountsfromthisstatementtotocomputesomeratios.computesomeratios.NotesUnderSummaryofSignificantAccountingPoliciesThisnotehasnoinformationpertainingdirectlytoratios,butitisimportanttounderstandaccountingdifferencesifyouarecomparingtwocompanies.UnderaSeparateNoteMostcompaniesincludea10-yearfinancialsummaryasaseparatenote.Thesesummariesincludedataforsignificantaccounts,someaccountingratios,andnonaccountinginformation.KEY TERMSComponentPercentagep.700Ratio(Percentage)TestsofProfitabilityp.702EfficientMarketsp.717Analysisp.700TestsofSolvencyp.712MarketTestsp.713TestsofLiquidityp.707QUESTIONS1.Whataresomeoftheprimaryitemsonfinancialstatementsaboutwhichcreditorsusuallyareconcerned?2.Whyarethenotestothefinancialstatementsimportanttodecisionmakers?3.Whatistheprimarypurposeofcomparativefinancialstatements?lib11021_ch14_690-738.indd71808/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements7194.Whyarestatementusersinterestedinfinancialsummariescoveringseveralyears?Whatistheprimarylimitationoflong-termsummaries?5.Whatisratioanalysis?Whyisituseful?6.Whatarecomponentpercentages?Whyaretheyuseful?7.Explainthetwoconceptsofreturnoninvestment.8.Whatisfinancialleverage?Howisitmeasuredasapercentage?9.Isprofitmarginausefulmeasureofprofitability?Explain.10.Compareandcontrastthecurrentratioandthequickratio.11.Whatdoesthedebt-to-equityratioreflect?12.Whataremarkettests?13.Identifytwofactorsthatlimittheeffectivenessofratioanalysis.MULTIPLE-CHOICE QUESTIONS1.Acompanyhastotalassetsof$500,000andnoncurrentassetsof$400,000.Currentliabilitiesare$40,000.Whatisthecurrentratio?a.12.5b.10.0c.2.5d.Cannotbedeterminedwithoutadditionalinformation.2.Whichofthefollowingwouldnotchangethereceivablesturnoverratioforaretailcompany?a.Increasesintheretailpricesofinventory.b.Achangeincreditpolicy.c.Increasesinthecostincurredtopurchaseinventory.d.Noneoftheabove.3.Whichofthefollowingratiosisusedtoanalyzeliquidity?a.Earningspershare.c.Currentratio.b.Debt-to-equityratio.d.Both(a)and(c).4.Positivefinancialleverageindicatesa.Positivecashflowfromfinancingactivities.b.Adebt-to-equityratiohigherthan1.c.Arateofreturnonassetsexceedingtheinterestrateondebt.d.Aprofitmargininoneyearexceedingthepreviousyear’sprofitmargin.5.Ifapotentialinvestorisanalyzingthreecompaniesinthesameindustryandwishestoinvestinonlyone,whichratioisleastlikelytoaffecttheinvestor’sdecision?a.Quickratio.c.Pricetoearningsratio.b.Earningspershare.d.Dividendyieldratio.6.Acompanyhasquickassetsof$300,000andcurrentliabilitiesof$150,000.Thecompanypurchased$50,000ininventoryoncredit.Afterthepurchase,thequickratiowouldbea.2.0c.1.5b.2.3d.1.757.Theaveragedays’supplyininventoryforNaturalFoodsStoresis14.6days.Thecompanyreportedcostofgoodssoldintheamountof$1,500,000andtotalsalesof$2,500,000.WhatistheaverageamountofinventoryforNaturalFoods?a.$102,740c.$100,000b.$171,233d.$60,0008.Giventhefollowingratiosforfourcompanies,whichcompanyisleastlikelytoexperienceprob-lemspayingitscurrentliabilitiespromptly?QuickRatioReceivableTurnoverRatioa.1.258b.1.245c.1.055d..560lib11021_ch14_690-738.indd71908/07/101:58PM ConfirmingPages720CHAPTER14AnalyzingFinancialStatements9.Adecreaseinsellingandadministrativeexpenseswouldimpactwhatratio?a.Fixedassetturnoverratio.c.Debt-to-equityratio.b.Timesinterestearnedratio.d.Currentratio.10.Acreditorisleastlikelytousewhatratiowhenanalyzingacompanythathasborrowedfundsonalong-termbasis?a.Cashcoverageratio.c.Timesinterestearnedratio.b.Debt-to-equityratio.d.Profitmargin.Formorepracticewithmultiple-choicequestions,gotothetextwebsiteatwww.mhhe.com/libby7e.MINI-EXERCISESM14-1InferringFinancialInformationUsingComponentPercentagesLO3Alargeretailerreportedrevenueof$1,665,000.Thecompany’sgrossprofitpercentagewas44percent.Whatamountofcostofgoodssolddidthecompanyreport?M14-2InferringFinancialInformationUsingComponentPercentagesLO3Aconsumerproductscompanyreporteda5.4percentincreaseinsalesfrom2011to2012.Salesin2011were$29,600.In2012,thecompanyreportedcostofgoodssoldintheamountof$9,107.Whatwasthegrossprofitpercentagein2012?M14-3ComputingtheReturnonOwners’EquityRatioLO4Computethereturnonequityratiofor2012giventhefollowingdata:20122011Netincome$183,000$159,000Stockholders’equity1,100,0001,250,000Totalassets2,460,0002,630,000Interestexpense42,00032,000M14-4InferringFinancialInformationLO4Computethefinancialleveragepercentagefor2012giventhefollowingdata:20122011Returnonequity21%26%Returnonassets68Profitmargin1212M14-5AnalyzingtheInventoryTurnoverRatioLO5Amanufacturerreportedaninventoryturnoverratioof8.6during2011.During2012,managementintroducedanewinventorycontrolsystemthatwasexpectedtoreduceaverageinventorylevelsby25percentwithoutaffectingsalesvolume.Giventhesecircumstances,wouldyouexpecttheinventoryturnoverratiotoincreaseordecreaseduring2012?Explain.M14-6InferringFinancialInformationUsingaRatioLO5TianaCompanyreportedtotalassetsof$1,400,000andnoncurrentassetsof$480,000.Thecompanyalsoreportedacurrentratioof3.5.Whatamountofcurrentliabilitiesdidthecompanyreport?M14-7AnalyzingFinancialRelationshipsLO4,5RameshCompanyhasprepareddraftfinancialresultsnowbeingreviewedbytheaccountants.Younoticethatthefinancialleveragepercentageisnegative.Youalsonotethatthecurrentratiois2.4andthelib11021_ch14_690-738.indd72008/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements721quickratiois3.7.Yourecognizethatthesefinancialrelationshipsareunusual.Doeseitherimplythatamistakehasbeenmade?Explain.InferringFinancialInformationUsingaRatioM14-8LO7In2011,PringleCompanyreportedearningspershareof$9.50whenitsstockwassellingfor$228.In2012,itsearningsincreasedby13percent.Ifallotherrelationshipsremainconstant,whatisthepriceofthestock?InferringFinancialInformationUsingaRatioM14-9LO7AnInternetcompanyearned$6.50pershareandpaiddividendsof$3.50pershare.Thecompanyreportedadividendyieldof5percent.Whatwasthepriceofthestock?AnalyzingtheImpactofAccountingAlternativesM14-10LO3,4,5YoungstownCorporationisconsideringchangingitsinventorymethodfromFIFOtoLIFOandwantstodeterminetheimpactonselectedaccountingratios.Ingeneral,whatimpactwouldyouexpectonthefollowingratios:profitmargin,fixedassetturnoverratio,currentratio,andquickratio?EXERCISESUsingFinancialInformationtoIdentifyMysteryCompaniesE14-1LO1,2,3,5,6Thefollowingselectedfinancialdatapertaintofourunidentifiedcompanies:COMPANIES1234BalanceSheetData(componentpercentage)Cash3.54.78.211.7Accountsreceivable16.928.916.851.9Inventory46.835.657.34.8Propertyandequipment18.321.77.618.7IncomeStatementData(componentpercentage)Grossprofit22.022.544.8N/A*Profitbeforetaxes2.10.71.23.2SelectedRatiosCurrentratio1.31.51.61.2Inventoryturnoverratio3.69.81.5N/A*Debt-to-equityratio2.62.63.23.2*N/A = Notapplicable.Thisfinancialinformationpertainstothefollowingcompanies:a.Retailfurstoreb.Advertisingagencyc.Wholesalecandycompanyd.CarmanufacturerRequired:Matcheachcompanywithitsfinancialinformation.lib11021_ch14_690-738.indd72108/07/101:58PM ConfirmingPages722CHAPTER14AnalyzingFinancialStatementsE14-2UsingFinancialInformationtoIdentifyMysteryCompaniesLO1,2,3,5,6Thefollowingselectedfinancialdatapertaintofourunidentifiedcompanies:COMPANIES1234BalanceSheetData(componentpercentage)Cash7.321.66.111.3Accountsreceivable28.239.73.222.9Inventory21.60.61.827.5Propertyandequipment32.118.074.625.1IncomeStatementData(componentpercentage)Grossprofit15.3N/A*N/A*43.4Profitbeforetaxes1.73.22.46.9SelectedRatiosCurrentratio1.51.20.61.9Inventoryturnoverratio27.4N/A*N/A*3.3Debt-to-equityratio1.72.25.71.3*N/A = Notapplicable.Thisfinancialinformationpertainstothefollowingcompanies:a.Travelagencyb.Hotelc.Meatpackerd.DrugcompanyRequired:Matcheachcompanywithitsfinancialinformation.E14-3UsingFinancialInformationtoIdentifyMysteryCompaniesLO1,2,3,5,6Thefollowingselectedfinancialdatapertaintofourunidentifiedcompanies:COMPANIES1234BalanceSheetData(componentpercentage)Cash5.18.86.310.4Accountsreceivable13.141.513.84.9Inventory4.63.665.135.8Propertyandequipment53.123.08.835.7IncomeStatementData(componentpercentage)GrossprofitN/A*N/A*45.222.5Profitbeforetaxes0.316.03.91.5SelectedRatiosCurrentratio0.72.21.91.4InventoryturnoverratioN/A*N/A*1.415.5Debt-to-equityratio2.50.91.72.3*N/A = Notapplicable.Thisfinancialinformationpertainstothefollowingcompanies:a.CableTVcompanyb.Grocerystorec.Accountingfirmd.Retailjewelrystorelib11021_ch14_690-738.indd72208/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements723Required:Matcheachcompanywithitsfinancialinformation.UsingFinancialInformationtoIdentifyMysteryCompaniesE14-4Thefollowingselectedfinancialdatapertaintofourunidentifiedcompanies:LO1,2,3,5,6COMPANIES1234BalanceSheetData(componentpercentage)Cash11.66.65.47.1Accountsreceivable4.618.98.835.6Inventory7.045.865.726.0Propertyandequipment56.020.310.121.9IncomeStatementData(componentpercentage)Grossprofit56.736.414.115.8Profitbeforetaxes2.71.41.10.9SelectedRatiosCurrentratio0.72.11.21.3Inventoryturnoverratio30.03.55.616.7Debt-to-equityratio3.31.83.83.1Thisfinancialinformationpertainstothefollowingcompanies:a.Full-linedepartmentstoreb.Wholesalefishcompanyc.Automobiledealer(bothnewandusedcars)d.RestaurantRequired:Matcheachcompanywithitsfinancialinformation.MatchingEachRatiowithItsComputationalFormulaE14-5Matcheachratioorpercentagewithitscomputation.LO4,5,6,7RatiosorPercentagesDefinitions1.ProfitmarginA.NetIncome (beforeextraordinaryitems) ÷ NetSales2.InventoryturnoverratioB.DaysinYear ÷ ReceivableTurnoverRatio3.AveragecollectionperiodC.NetIncome ÷ AverageStockholders’Equity4.DividendyieldratioD.NetIncome ÷ AverageNumberofSharesofCommon5.ReturnonequityStockOutstanding6.CurrentratioE.ReturnonEquity − ReturnonAssets7.Debt-to-equityratioF.QuickAssets ÷ CurrentLiabilities8.Price/earningsratioG.CurrentAssets ÷ CurrentLiabilities9.FinancialleveragepercentageH.CostofGoodsSold ÷ AverageInventory10.ReceivableturnoverratioI.NetCreditSales ÷ AverageNetReceivables11.Averagedays’supplyofinventoryJ.DaysinYear ÷ InventoryTurnoverRatio12.EarningspershareK.TotalLiabilities ÷ Stockholders’Equity13.ReturnonassetsL.DividendsperShare ÷ MarketPriceperShare14.QuickratioM.CurrentMarketPriceperShare ÷ EarningsperShare15.TimesinterestearnedN.[NetIncome + InterestExpense (netoftax)] ÷ Average16.CashcoverageratioTotalAssets17.FixedassetturnoverratioO.CashfromOperatingActivities (beforeinterestandtaxes) ÷ InterestPaidP.NetSalesRevenue ÷ NetFixedAssetsQ.(NetIncome + InterestExpense + IncomeTaxExpense) ÷ InterestExpenselib11021_ch14_690-738.indd72308/07/101:58PM ConfirmingPages724CHAPTER14AnalyzingFinancialStatementsE14-6PreparingaScheduleUsingComponentPercentagesLO3Lowe’sisaleadingretailerinthehomeimprovementfield.CompletethecomponentpercentageanalysisLowe’sonthecompany’sincomestatementthatfollows.Discussanyinsightsprovidedbythisanalysis.ConsolidatedStatementsofEarnings(inmillions,exceptpershareandpercentagedata)FiscalYearsEndedonJanuary30,February1,February2,2009%Sales2008%Sales2007%SalesNetsales$48,230100.00%$48,283100.00%$46,927100.00%Costofsales31,72931,55630,729Grossmargin16,50116,72716,198Expenses:Selling,general,andadministrative11,07410,5159,738Storeopeningcosts102141146Depreciation1,5391,3661,162Interest(net)280194154Totalexpenses12,99512,21611,200Pre-taxearnings3,5064,5114,998Incometaxprovision1,3111,7021,893Netearnings$2,195$2,809$3,105E14-7AnalyzingtheImpactofSelectedTransactionsontheCurrentRatioLO5Currentassetstotaled$54,000andthecurrentratiowas1.5.Assumethatthefollowingtransactionswerecompleted:(1)purchasedmerchandisefor$7,000onshort-termcreditand(2)purchasedadeliverytruckfor$12,000,paid$3,000cash,andsignedatwo-yearinterest-bearingnoteforthebalance.Required:Computethecumulativecurrentratioaftereachtransaction.E14-8AnalyzingtheImpactofSelectedTransactionsontheCurrentRatioLO5TheBombayCompany,Inc.,marketsalineofproprietaryhomefurnishingsthatincludeslargefur-TheBombayCompanyniture,occasionalfurniture,walldecor,anddecorativeaccessoriesthataretimeless,classic,andtra-ditionalintheirstyling.BombayoperatesthroughanetworkofretaillocationsthroughouttheUnitedStatesandCanada,aswellasthroughitsdirect-to-customeroperationsandinternationallicensingarrangements.Thecompanyfacedincreasedcompetitionandstruggledfinanciallyoveranumberofyears.Itwasforcedtofileforbankruptcyandwasliquidatedin2008.Initslastfinancialstate-mentpriortobankruptcy,Bombayreportedcurrentassetsof$161,604,000andcurrentliabilitiesof$113,909,000.Required:DeterminetheimpactofthefollowingtransactionsonthecurrentratioforBombay:1.Soldlong-termassetsthatrepresentedexcesscapacity.2.Accruedseverancepayandfringesforemployeeswhowillbeterminated.3.Wrotedownthecarryingvalueofcertaininventoryitemsthatweredeemedtobeobsolete.4.Acquirednewinventory;supplierwasnotwillingtoprovidenormalcreditterms,soan18-monthinterest-bearingnotewassigned.E14-9AnalyzingtheImpactofSelectedTransactionsonReceivableandInventoryTurnoverLO5Procter&Gambleisamultinationalcorporationthatmanufacturesandmarketsmanyproductsthatareprobablyinyourhome.Lastyear,salesforthecompanywere$76,476(allamountsinmillions).Theannualreportdidnotdisclosetheamountofcreditsales,sowewillassumethat90percentofsaleswereoncredit.Theaveragegrossprofitratewas52percentonsales.Accountbalancesfollow:lib11021_ch14_690-738.indd72408/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements725BeginningEndingAccountsreceivable(net)$6,629$5,725Inventory6,8196,291Required:Computetheturnoverfortheaccountsreceivableandinventory,theaverageageofreceivables,andtheaveragedays’supplyofinventory.ComputingFinancialLeverageE14-10LO4TexasInstrumentsisagloballeaderinthesemiconductorbusiness,providingproductstotheworld’smostinnovativeelectronicscompanies.Itsfinancialstatementsreportedthefollowingatyear-end(inTexasInstrumentsmillions):Totalassets$13,930Totaldebt(average8%interest)2,570Netincome(averagetaxrate30%)4,341Required:Computethefinancialleveragepercentage.Wasitpositiveornegative?AnalyzingtheImpactofSelectedTransactionsontheCurrentRatioE14-11LO5Currentassetstotaled$100,000andthecurrentratiowas1.5.Assumethatthefollowingtransactionswerecompleted:(1)paid$6,000formerchandisepurchasedonshort-termcredit,(2)purchasedadeliv-erytruckfor$11,000cash,(3)wroteoffabadaccountreceivablefor$3,000,and(4)paidpreviouslydeclareddividendsintheamountof$28,000.Required:Computethecumulativecurrentratioaftereachtransaction.InferringFinancialInformationE14-12LO3,4,5DollarGeneralCorporationoperatesgeneralmerchandisestoresthatfeaturequalitymerchandiseatlowpricestomeettheneedsofmiddle-,low-,andfixed-incomefamilies.AllstoresarelocatedintheUnitedDollarGeneralCorporationStates,predominantlyinsmalltownsin24midwesternandsoutheasternstates.Inarecentyear,thecompanyreportedaverageinventoriesof$1,456,414,000andaninventoryturnoverratioof4.6.Averagetotalfixedassetswere$1,218,874,000,andthefixedassetturnoverratiowas7.5.DeterminethegrossprofitforDollarGeneral.ComputingSelectedRatiosE14-13LO5Salesfortheyearwere$1,000,000,halfofwhichwereoncredit.Theaveragegrossprofitratewas50percentonsales.Accountbalancesfollow:BeginningEndingAccountsreceivable(net)$45,000$60,000Inventory70,00025,000Required:Computetheturnoverfortheaccountsreceivableandinventory,theaverageageofreceivables,andtheaveragedays’supplyofinventory.AnalyzingtheImpactofSelectedTransactionsontheCurrentRatioE14-14LO5CurrentassetsforLondonCorporationtotaled$410,000andthecurrentratiowas2.0.Assumethatthefollowingtransactionswerecompleted:(1)sold$11,000inmerchandiseonshort-termcredit,(2)declaredbutdidnotpaydividendsof$50,000,(3)paidprepaidrentintheamountof$12,000,(4)paidpreviouslydeclareddividendsintheamountof$50,000,(5)collectedanaccountreceivableintheamountof$11,000,and(6)reclassified$30,000oflong-termdebtasashort-termliability.Required:Computethecumulativecurrentratioaftereachtransaction.lib11021_ch14_690-738.indd72508/07/101:58PM Rev.ConfirmingPages726CHAPTER14AnalyzingFinancialStatementsE14-15ComputingLiquidityRatiosLO5Cintasdesigns,manufactures,andimplementscorporateidentityuniformprogramsthatitrentsorsellsCintastocustomersthroughouttheUnitedStatesandCanada.Thecompany’sstockistradedontheNASDAQandhasprovidedinvestorswithsignificantreturnsoverthepastfewyears.Selectedinformationfromthecompany’sbalancesheetfollows.For2007,thecompanyreportedsalesrevenueof$3,706,900andcostofgoodssoldof$1,515,815.CINTASBalanceSheet(amountsinthousands)20072006Cash$35,360$38,914Marketablesecurities120,053202,539Accountsreceivable,net408,870389,905Inventories231,741198,000Prepaidexpense15,78111,163Accountspayable64,62271,635Accruedtaxes70,76395,363Accruedliabilities263,512239,061Long-termdebtduewithinoneyear4,14126,653Required:Computethecurrentratio,inventoryturnoverratio,andaccountsreceivableturnoverratio(assumingthat60percentofsaleswereoncredit).Formorepracticewithexercises,gotothetextwebsiteatwww.mhhe.com/libby7e.PROBLEMSP14-1AnalyzinganInvestmentbyComparingSelectedRatios(AP14-1)LO5,6,7Youhavetheopportunitytoinvest$10,000inoneoftwocompaniesfromasingleindustry.Theonlyinforma-tionyouhavefollows.Thewordhighreferstothetopthirdoftheindustry;averageisthemiddlethird;lowisthebottomthird.Whichcompanywouldyouselect?Writeabriefpaperjustifyingyourrecommendation.RatioCompanyACompanyBCurrentHighAverageQuickLowAverageDebt-to-equityHighAverageInventoryturnoverLowAveragePrice/earningsLowAverageDividendyieldHighAverageP14-2AnalyzinganInvestmentbyComparingSelectedRatios(AP14-2)LO5,6,7Youhavetheopportunitytoinvest$10,000inoneoftwocompaniesfromasingleindustry.Theonlyinformationyouhaveisshownhere.Thewordhighreferstothetopthirdoftheindustry;averageisthemiddlethird;lowisthebottomthird.Whichcompanywouldyouselect?Writeabriefpaperjustifyingyourrecommendation.RatioCompanyACompanyBCurrentLowAverageQuickAverageAverageDebt-to-equityLowAverageInventoryturnoverHighAveragePrice/earningsHighAverageDividendyieldLowAveragelib11021_ch14_690-738.indd72625/07/1010:05AM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements727IdentifyingCompaniesBasedonthePrice/EarningsRatioP14-3Theprice/earningsratioprovidesimportantinformationconcerningthestockmarket’sassessmentoftheLO7growthpotentialofabusiness.Thefollowingareprice/earningsratiosforselectedcompaniesasofthedatethisbookwaswritten.Matchthecompanywithitsratioandexplainhowyoumadeyourselections.Ifyouarenotfamiliarwithacompany,youshouldvisititswebsite.CompanyPrice/EarningsRatio1.CommerceBankA.332.DukeEnergyB.123.FordC.154.TheHomeDepotD.Notapplicable(noearnings)5.MotorolaE.206.StarbucksF.137.PepsiCoG.998.ContinentalAirlinesH.8AnalyzingRatios(AP14-3)P14-4LO1,2,3,4,5,6,7Sears,RoebuckandJCPenneyaretwogiantsoftheretailindustry.Bothofferfulllinesofmoder-atelypricedmerchandise.AnnualsalesforSearstotal$53billion.JCPenneyissmaller,with$20Sears,Roebuckbillioninrevenues.Comparethetwocompaniesasapotentialinvestmentbasedonthefollowingratios:RatioSearsJCPenneyP/E15.010.9Grossprofitmargin28.639.3Profitmargin2.85.7Currentratio1.51.9Debt-to-equity1.42.0Returnonequity12.027.8Returnonassets5.29.3Dividendyield0.01.4Earningspershare$9.17$5.20ComparingAlternativeInvestmentOpportunities(AP14-4)P14-5LO3,4,5,6,7The2012financialstatementsforthePriceandWaterhousecompaniesaresummarizedhere:PriceCompanyWaterhouseCompanywww.mhhe.com/libby7eBalanceSheetCash$41,000$21,000Accountsreceivable(net)38,00031,000Inventory99,00040,000Operationalassets(net)140,000401,000Otherassets84,000305,000Totalassets$402,000$798,000Currentliabilities$99,000$49,000Long-termdebt(10%)65,00060,000Capitalstock(par$10)148,000512,000Contributedcapitalinexcessofpar29,000106,000Retainedearnings61,00071,000Totalliabilitiesandstockholders’equity$402,000$798,000continuedlib11021_ch14_690-738.indd72725/07/1010:05AM Rev.ConfirmingPages728CHAPTER14AnalyzingFinancialStatementsPriceCompanyWaterhouseCompanyIncomeStatementSalesrevenue(1/3oncredit)$447,000$802,000Costofgoodssold(241,000)(398,000)Expenses(includinginterestandincometax)(161,000)(311,000)Netincome$45,000$93,000Selecteddatafromthe2011statementsAccountsreceivable(net)$18,000$38,000Inventory94,00044,000Long-termdebt60,00048,000OtherdataPersharepriceatendof2012(offeringprice)$17$15Averageincometaxrate30%30%Dividendsdeclaredandpaidin2012$33,000$148,000Thecompaniesareinthesamelineofbusinessandaredirectcompetitorsinalargemetropolitanarea.Bothhavebeeninbusinessapproximately10years,andeachhashadsteadygrowth.Themanagementofeachhasadifferentviewpointinmanyrespects.Waterhouseismoreconservative,andasitspresidenthassaid,“Weavoidwhatweconsidertobeunduerisk.”Neithercompanyispubliclyheld.PriceCom-panyhasanannualauditbyaCPAbutWaterhouseCompanydoesnot.Required:1.Completeaschedulethatreflectsaratioanalysisofeachcompany.Computetheratiosdiscussedinthechapter.2.Aclientofyourshastheopportunitytobuy10percentofthesharesinoneortheothercompanyatthepersharepricesgivenandhasdecidedtoinvestinoneofthecompanies.Basedonthedatagiven,prepareacomparativewrittenevaluationoftheratioanalyses(andanyotheravailableinformation)andgiveyourrecommendedchoicewiththesupportingexplanation.P14-6AnalyzingComparativeFinancialStatementsUsingPercentages(AP14-5)LO3ThecomparativefinancialstatementspreparedatDecember31,2012,forPrinceCompanyshowedthefollowingsummarizeddata:www.mhhe.com/libby7e20122011IncomeStatementSalesrevenue$190,000*$167,000Costofgoodssold112,000100,000Grossprofit78,00067,000Operatingexpensesandinterestexpense56,00053,000Pretaxincome22,00014,000Incometax8,0004,000Netincome$14,000$10,000BalanceSheetCash$4,000$7,000Accountsreceivable(net)14,00018,000Inventory40,00034,000Operationalassets(net)45,00038,000$103,000$97,000Currentliabilities(nointerest)$16,000$17,000Long-termliabilities(10%interest)45,00045,000Commonstock(par$5)30,00030,000Retainedearnings†12,0005,000$103,000$97,000*One-thirdwascreditsales.†During2012,cashdividendsamountingto$3,000weredeclaredandpaid.lib11021_ch14_690-738.indd72825/07/1010:05AM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements729Required:1.Completethefollowingcolumnsforeachitemintheprecedingcomparativefinancialstatements:INCREASE(DECREASE)2012OVER2011AmountPercent2.Bywhatamountdidworkingcapitalchange?AnalyzingComparativeFinancialStatementsUsingPercentagesandSelectedRatios(AP14-6)P14-7UsethedatagiveninP14-6forPrinceCompany.LO3,4,6Required:1.Presentcomponentpercentagesfor2012only.2.Respondtothefollowingfor2012:a.Whatwastheaveragepercentagemarkuponsales?b.Whatwastheaverageincometaxrate?c.Computetheprofitmargin.Wasitagoodorpoorindicatorofperformance?Explain.d.Whatpercentageoftotalresourceswasinvestedinoperationalassets?e.Computethedebt-to-equityratio.Doesitlookgoodorbad?Explain.f.Whatwasthereturnonequity?g.Whatwasthereturnonassets?h.Computethefinancialleveragepercentage.Wasitpositiveornegative?Explain.AnalyzingFinancialStatementsUsingRatiosP14-8Usethe2012datainP14-6forPrinceCompany.Assumeastockpriceof$28pershare.ComputetheLO3,4,5,6,7appropriateratios.AnalyzingtheImpactofAlternativeInventoryMethodsonSelectedRatiosP14-9CompanyAusestheFIFOmethodtocostinventory,andCompanyBusestheLIFOmethod.ThetwoLO4,5,6companiesareexactlyalikeexceptforthedifferenceininventorycostingmethods.Costsofinventoryitemsforbothcompanieshavebeenrisingsteadilyinrecentyears,andeachcompanyhasincreaseditsinventoryeachyear.Eachcompanyhaspaiditstaxliabilityinfullforthecurrentyear(andallpreviousyears),andeachcompanyusesthesameaccountingmethodsforbothfinancialreportingandincometaxreporting.Required:Identifywhichcompanywillreportthehigheramountforeachofthefollowingratios.Ifitisnotpos-sible,explainwhy.1.Currentratio.2.Quickratio.3.Debt-to-equityratio.4.Returnonequity.5.Earningspershare.AnalyzingFinancialStatementsUsingAppropriateRatios(AP14-7)P14-10Hershey’sisafamiliarnameinsnacks.There’sagoodchanceyouhaverecentlyenjoyedoneofitsLO3,4,5,6,7products.ThecompanymanufacturesconfectioneryproductsinavarietyofpackagedformsandmarketsHershey’sthemundermorethan50brands.AmongtheprincipalconfectioneryproductsintheUnitedStatesare:Hershey’schocolates,Hershey’sKisseschocolates,KitKat,andMr.Goodbarchocolatebars,Reese’speanutbuttercups,AlmondJoycandybars,Good&Plentycandy,Moundscandybars,Paydaycandybars,and5thAvenuecandybars.Thefollowinginformationwasreportedinarecentannualstatement.Fortheyear2008,computetheratiosdiscussedinthischapter.Ifthereisnotsufficientinformation,describewhatismissingandexplainwhatyouwoulddo.Assumeanincometaxrateof34%.lib11021_ch14_690-738.indd72908/07/101:58PM Rev.ConfirmingPages730CHAPTER14AnalyzingFinancialStatementsTHEHERSHEYCOMPANYConsolidatedStatementsofIncome(inthousandsofdollarsexceptpershareamounts)FortheYearsEndedDecember31,200820072006NetSales$5,132,768$4,946,716$4,944,230CostsandExpenses:Costofsales3,375,0503,315,1473,076,718Selling,marketing,andadministrative1,073,019895,874860,378Businessrealignmentandimpairmentcharges,net94,801276,86814,576Totalcostsandexpenses4,542,8704,487,8893,951,672IncomebeforeInterestandIncomeTaxes589,898458,827992,558Interestexpense,net97,876118,585116,056IncomebeforeIncomeTaxes492,022340,242876,502Provisionforincometaxes180,617126,088317,441NetIncome$311,405$214,154$559,061NetIncomePerShare—Basic—ClassBCommonStock$1.27$.87$2.19NetIncomePerShare—Diluted—ClassBCommonStock$1.27$.87$2.17NetIncomePerShare—Basic—CommonStock$1.41$.96$2.44NetIncomePerShare—Diluted—CommonStock$1.36$.93$2.34CashDividendsPaidperShare:CommonStock$1.1900$1.1350$1.030ClassBCommonStock1.07121.0206.925THEHERSHEYCOMPANYConsolidatedBalanceSheets(inthousandsofdollars)December31,20082007ASSETSCurrentAssets:Cashandcashequivalents$37,103$129,198Accountsreceivable—trade455,153487,285Inventories592,530600,185Deferredincometaxes70,90383,668Prepaidexpensesandother189,256126,238Totalcurrentassets1,344,9451,426,574Property,Plant,andEquipment,Net1,458,9491,539,715Goodwill554,677584,713OtherIntangibles110,772155,862DeferredIncomeTaxes13,815—OtherAssets151,561540,249Totalassets$3,634,719$4,247,113continuedlib11021_ch14_690-738.indd73004/08/1011:00AM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements731LIABILITIES,MINORITYINTEREST,ANDSTOCKHOLDERS’EQUITYCurrentLiabilities:Accountspayable$249,454$223,019Accruedliabilities504,065538,986Accruedincometaxes15,189373Short-termdebt483,120850,288Currentportionoflong-termdebt18,3846,104Totalcurrentliabilities1,270,2121,618,770Long-TermDebt1,505,9541,279,965OtherLong-TermLiabilities504,963544,016DeferredIncomeTaxes3,646180,842Totalliabilities3,284,7753,623,593CommitmentsandContingencies——MinorityInterest31,74530,598Stockholders’Equity:PreferredStock,sharesissued:nonein2008and2007——CommonStock,sharesissued:299,190,836in2008and299,095,417in2007299,190299,095ClassBCommonStock,sharesissued:60,710,908in2008and60,806,327in200760,71160,806Additionalpaid-incapital352,375335,256Retainedearnings3,975,7623,927,306Treasury—CommonStockshares,atcost:132,866,673in2008and132,851,893in2007(4,009,931)(4,001,562)Accumulatedothercomprehensiveloss(359,908)(27,979)Totalstockholders’equity318,199592,922Totalliabilities,minorityinterest,andstockholders’equity$3,634,719$4,247,113ALTERNATE PROBLEMSAnalyzinganInvestmentbyComparingSelectedRatios(P14-1)AP14-1LO4,5,6,7Youhavetheopportunitytoinvest$10,000inoneoftwocompaniesfromasingleindustry.Theonlyinformationyouhaveisshownhere.Thewordhighreferstothetopthirdoftheindustry;averageisthemiddlethird;lowisthebottomthird.Whichcompanywouldyouselect?Writeabriefpaperjustifyingyourrecommendation.RatioCompanyACompanyBEPSHighLowROALowHighDebt-to-equityHighAverageCurrentLowAveragePrice/earningsLowHighDividendyieldHighAverageAnalyzinganInvestmentbyComparingSelectedRatios(P14-2)AP14-2LO4,5,6,7Youhavetheopportunitytoinvest$10,000inoneoftwocompaniesfromasingleindustry.Theonlyinformationyouhaveisshownhere.Thewordhighreferstothetopthirdoftheindustry;averageisthemiddlethird;lowisthebottomthird.Whichcompanywouldyouselect?Writeabriefpaperjustifyingyourrecommendation.lib11021_ch14_690-738.indd73104/08/1011:00AM ConfirmingPages732CHAPTER14AnalyzingFinancialStatementsRatioCompanyACompanyBROAHighAverageProfitmarginHighLowFinancialleverageHighLowCurrentLowHighPrice/earningsHighAverageDebt-to-equityHighLowAP14-3AnalyzingRatios(P14-4)LO1,2,3,4,5,6,7CokeandPepsiarewell-knowninternationalbrands.Coca-Colasellsmorethan$13billionworthofCoca-ColabeverageseachyearwhileannualsalesofPepsiCoproductsexceed$22billion.Comparethetwocom-paniesasapotentialinvestmentbasedonthefollowingratios:RatioCoca-ColaPepsiCoP/E65.026.5Grossprofitmargin69.358.4Profitmargin12.28.8Quick0.40.7Current0.61.1Debt-to-equity0.70.4Returnonequity27.429.1Returnonassets28.016.6Dividendyield1.01.6Dividendpayout65.041.0AP14-4AnalyzingFinancialStatementsUsingRatios(P14-5)LO3,4,5,6,7WinterCorporationhasjustcompleteditscomparativestatementsfortheyearendedDecember31,2012.Atthispoint,certainanalyticalandinterpretiveproceduresaretobeundertaken.Thecompletedstatements(summarized)areasfollows:20122011IncomeStatementSalesrevenue$453,000*$447,000*Costofgoodssold250,000241,000Grossprofit203,000206,000Operatingexpenses(includinginterestonbonds)167,000168,000Pretaxincome36,00038,000Incometax10,80011,400Netincome$25,200$26,600BalanceSheetCash$6,800$3,900Accountsreceivable(net)42,00029,000Merchandiseinventory25,00018,000Prepaidexpenses200100Operationalassets(net)130,000120,000$204,000$171,000Accountspayable$17,000$18,000Incometaxespayable1,0001,000Bondspayable(10%interestrate)70,000**50,000Commonstock(par$5)100,000†100,000Retainedearnings16,000‡2,000$204,000$171,000*Creditsalestotaled40percent.**$20,000ofbondswereissuedon1/2/2012.Assumethetaxrateis30%.†Themarketpriceofthestockattheendof2012was$18pershare.‡During2012,thecompanydeclaredandpaidacashdividendof$9,000.lib11021_ch14_690-738.indd73208/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements733Required:1.Computeappropriateratiosfor2012andexplainthemeaningofeach.2.Respondtothefollowingfor2012:a.Evaluatethefinancialleverage.Explainitsmeaningusingthecomputedamount(s).b.Evaluatetheprofitmarginamountandexplainhowastockholdermightuseit.c.Explaintoastockholderwhythecurrentratioandthequickratioaredifferent.Doyouobserveanyliquidityproblems?Explain.d.Assumingthatcredittermsare1/10,n/30,doyouperceiveanunfavorablesituationforthecom-panyrelatedtocreditsales?Explain.AnalyzingFinancialStatementsUsingRatiosandPercentageChanges(P14-6)AP14-5RichardCompanyhasjustpreparedthefollowingcomparativeannualfinancialstatementsfor2012:LO3,4,5,6,7RICHARDCOMPANYComparativeIncomeStatementFortheYearsEndedDecember31,2012,and201120122011Salesrevenue(one-halfoncredit)$110,000$99,000Costofgoodssold52,00048,000Grossprofit$58,000$51,000Expenses(including$4,000interestexpenseeachyear)40,00037,000Pretaxincome$18,000$14,000Incometaxonoperations(30%)5,4004,200Incomebeforeextraordinaryitems$12,600$9,800Extraordinaryloss$2,000Lessincometaxsaved6001,400Extraordinarygain$3,000Applicableincometax9002,100Netincome$11,200$11,900RICHARDCOMPANYComparativeBalanceSheetAtDecember31,2012,and201120122011AssetsCash$49,500$18,000Accountsreceivable(net;terms1/10,n/30)37,00032,000Inventory25,00038,000Operationalassets(net)95,000105,000Totalassets$206,500$193,000LiabilitiesAccountspayable$42,000$35,000Incometaxespayable1,000500Notepayable,long-term40,00040,000Stockholders’equityCapitalstock(par$10)90,00090,000Retainedearnings33,50027,500Totalliabilitiesandstockholders’equity$206,500$193,000lib11021_ch14_690-738.indd73308/07/101:58PM ConfirmingPages734CHAPTER14AnalyzingFinancialStatementsRequired(roundpercentagesandratiostotwodecimalplaces):1.For2012,computethetestsof(a)profitability,(b)liquidity,(c)solvency,and(d)market.Assumethatthequotedpriceofthestockwas$23for2012.Dividendsdeclaredandpaidduring2012were$6,750.2.Respondtothefollowingfor2012:a.Computethepercentagechangesinsales,incomebeforeextraordinaryitems,netincome,cash,inventory,anddebt.b.Whatappearstobethepretaxinterestrateonthenotepayable?3.Identifyatleasttwoproblemsfacingthecompanythataresuggestedbyyourresponsestorequire-ments(1)and(2).AP14-6UsingRatiostoAnalyzeSeveralYearsofFinancialData(P14-7)LO3,4,5ThefollowinginformationwascontainedintheannualfinancialstatementsofConeCompany,whichstartedbusinessJanuary1,2011(assumeaccountbalancesonlyinCashandCapitalStockonthisdate;allamountsareinthousandsofdollars).2011201220132014Accountsreceivable(net;termsn/30)$11$12$18$24Merchandiseinventory12142030Netsales(3/4oncredit)446680100Costofgoodssold28405562Netincome(loss)(8)51211Required(showcomputations):1.CompletethefollowingtabulationItems2011201220132014a.Profitmarginpercentageb.Grossprofitratioc.Expensesaspercentageofsales,excludingcostofgoodssoldd.Inventoryturnoverratioe.Days’supplyininventoryf.Receivableturnoverratiog.Averagedaystocollect2.Evaluatetheresultsoftherelatedratiosa,b,andctoidentifythefavorableorunfavorablefactors.Giveyourrecommendationstoimprovethecompany’soperations.3.Evaluatetheresultsofthelastfourratios(d,e,f,andg)andidentifyanyfavorableorunfavorablefactors.Giveyourrecommendationstoimprovethecompany’soperations.AP14-7AnalyzingaFinancialStatementUsingAppropriateRatios(P14-10)LO4,5,6,7DellComputersengagesinthedesign,development,manufacture,marketing,sale,andsupportofvariouscomputersystemsandservicestocustomersworldwide.Itoffersdesktopcomputersystemsandworksta-tions;mobilityproducts,suchasnotebookcomputers,mobileworkstations,MP3players,andhandhelds;softwareandperipherals,projectors,softwaretitles,notebookaccessories,networkingandwirelessprod-ucts,digitalcameras,poweradapters,scanners,serversandnetworkingproducts;andstoragedevices.Forthecurrentyear,computeeachoftheratiosdiscussedinthischapter.Ifthereisnotsufficientinformation,statewhatisneeded.Ifaratioisnotmeaningfulforthistypeofcompany,explainwhy.DELLINC.ConsolidatedStatementsofFinancialPosition(inmillions)February2,February3,20072006ASSETSCurrentassets:Cashandcashequivalents$9,546$7,054continuedlib11021_ch14_690-738.indd73408/07/101:58PM ConfirmingPagesCHAPTER14AnalyzingFinancialStatements735Short-terminvestments7522,016Accountsreceivable,net4,6224,082Financingreceivables,net1,5301,366Inventories660588Other2,8292,688Totalcurrentassets19,93917,794Property,plant,andequipment,net2,4091,993Investments2,1472,686Long-termfinancingreceivables,net323325Othernoncurrentassets817454Totalassets$25,635$23,252LIABILITIESANDSTOCKHOLDERS’EQUITYCurrentliabilities:Short-termborrowings$188$65Accountspayable10,4309,868Accruedandother7,1736,240Totalcurrentliabilities17,79116,173Long-termdebt569625Othernoncurrentliabilities2,8362,407Totalliabilities21,19619,205Commitmentsandcontingencies(Note9)Redeemablecommonstockandcapitalinexcessof$.01parvalue;5sharesissuedandoutstanding(Note5)111—Stockholders’equity:Preferredstockandcapitalinexcessof$.01parvalue;sharesissuedandoutstanding:none——Commonstockandcapitalinexcessof$.01parvalue;sharesauthorized:7,000;sharesissued:3,307and2,818,respectively;sharesoutstanding:2,226and2,330,respectively10,1079,503Treasurystockatcost:606and488shares,respectively(21,033)(18,007)Retainedearnings15,28212,699Accumulatedothercomprehensiveloss(28)(101)Other—(47)Totalstockholders’equity4,3284,047Totalliabilitiesandequity$25,635$23,252ConsolidatedStatementsofIncome(inmillions)FiscalYearEndedFebruary2,February3,January28,200720062005Netrevenue$57,420$55,788$49,121Costofnetrevenue47,90445,89740,103Grossprofit9,5169,8919,018Operatingexpenses:Selling,general,andadministrative5,9485,0514,352Research,development,andengineering498458460Totaloperatingexpenses6,4465,5094,812continuedlib11021_ch14_690-738.indd73508/07/101:58PM ConfirmingPages736CHAPTER14AnalyzingFinancialStatementsOperatingincome3,0704,3824,206Investmentandotherincome,net275226197Incomebeforeincometaxes3,3454,6084,403Incometaxprovision7621,0061,385Netincome$2,583$3,602$3,018CASES ANDPROJECTSAnnualReportCasesCP14-1AnalyzingFinancialStatementsLO4,5,6,7RefertothefinancialstatementsofAmericanEagleOutfittersgiveninAppendixBattheendofthisbook.Computethefollowingratiosforthemostrecentreportingyearforwhichyouhaveavailableinformation:returnonequity,earningspershare,profitmargin,currentratio,inventoryturnover,debt/equityratio,price/earningsratio,anddividendyield.Assumethestockpriceis$15.CP14-2AnalyzingFinancialStatementsLO4,5,6,7RefertothefinancialstatementsofUrbanOutfittersgiveninAppendixCattheendofthisbook.Computethefollowingratiosforthemostrecentreportingyearforwhichyouhaveavailableinfor-mation:returnonequity,earningspershare,profitmargin,currentratio,inventoryturnover,debt/equityratio,price/earningsratio,anddividendyield.Assumethestockpriceis$28.CP14-3ComparingCompanieswithinanIndustryLO4,5,6,7,,,RefertothefinancialstatementsofAmericanEagle(AppendixB)andUrbanOutfitters(AppendixC)andtheIndustryRatioReport(AppendixD)attheendofthisbook.Computethefollowingratiosforthemostrecentreportingyearforwhichyouhaveavailableinformation:returnonequity,earn-ingspershare,profitmargin,currentratio,inventoryturnover,debt/equityratio,price/earningsratio,anddividendyield.Assumethestockpriceis$28forUrbanOutfittersand$15forAmericanEagle.Comparetheratiosforeachcompanytotheindustryaverageratios.www.mhhe.com/libby7eFinancialReportingandAnalysisCasesCP14-4InferringInformationfromtheROEModelLO1Inthischapter,wediscussedtheROEprofitdriver(orDuPontmodel).Usingthatframework,findthemissingamountineachcasethatfollows:Case1:ROEis10percent;netincomeis$200,000;assetturnoverratiois5;andnetsalesare$1,000,000.Whatistheamountofaveragestockholders’equity?Case2:Netincomeis$1,500,000;netsalesare$8,000,000;averagestockholders’equityis$12,000,000;ROEis22percent;andassetturnoverratiois8.Whatistheamountofaveragetotalassets?Case3:ROEis15percent;netprofitmarginis10percent;assetturnoverratiois5;andaveragetotalassetsare$1,000,000.Whatistheamountofaveragestockholders’equity?Case4:Netincomeis$500,000;ROEis15percent;assetturnoverratiois5;netsalesare$1,000,000;andfinancialleverageis2.Whatistheamountofaveragetotalassets?lib11021_ch14_690-738.indd73608/07/101:58PM Rev.ConfirmingPagesCHAPTER14AnalyzingFinancialStatements737InterpretingFinancialResultsBasedonCorporateStrategyCP14-5Inthischapter,wediscussedtheimportanceofanalyzingfinancialresultsbasedonanunderstand-LO1ingofthecompany’sbusinessstrategy.UsingtheROEmodel,weillustratedhowdifferentstrate-giescouldearnhighreturnsforinvestors.Assumethattwocompaniesinthesameindustryadoptfundamentallydifferentstrategies.Onemanufactureshigh-qualityconsumerelectronics.Itsproductsemploystate-of-the-arttechnology,andthecompanyoffersahighlevelofcustomerservicebothbeforeandafterthesale.Theothercompanyemphasizeslowcostwithgoodperformance.Itsprod-uctsutilizewell-establishedtechnologybutareneverinnovative.Customersbuytheseproductsatlarge,self-servicewarehousesandareexpectedtoinstalltheproductsusinginformationcontainedinprintedbrochures.Whichoftheratiosdiscussedinthischapterwouldyouexpecttodifferforthesecompaniesasaresultoftheirdifferentbusinessstrategies?CriticalThinkingCaseEvaluatinganEthicalDilemmaCP14-6BartonCompanyrequestedasizableloanfromFirstFederalBanktoacquirealargetractoflandforLO5futureexpansion.Bartonreportedcurrentassetsof$1,900,000($430,000incash)andcurrentliabili-tiesof$1,075,000.FirstFederaldeniedtheloanrequestforanumberofreasons,includingthefactthatthecurrentratiowasbelow2:1.WhenBartonwasinformedoftheloandenial,thecomptrollerofthecompanyimmediatelypaid$420,000thatwasowedtoseveraltradecreditors.ThecomptrollerthenaskedFirstFederaltoreconsidertheloanapplication.Basedontheseabbreviatedfacts,wouldyourecommendthatFirstFederalapprovetheloanrequest?Why?Arethecomptroller’sactionsethical?FinancialReportingandAnalysisTeamProjectTeamProject:ExamininganAnnualReportCP14-7Asateam,selectanindustrytoanalyze.ReutersprovideslistsofindustriesandtheirmakeupatLO3,4,5,6,7www.reuters.com.Eachteammembershouldacquiretheannualreportor10-Kforonepubliclytradedcompanyintheindustry,witheachmemberselectingadifferentcompany.(Libraryfiles,theSECEDGARserviceatwww.sec.gov,CompustatCD,orthecompanyitselfaregoodsources.)Required:Onanindividualbasis,eachteammembershouldwriteashortreportprovidingthefollowinginfor-mationabouttheselectedcompany.Discussanypatternsacrossthecompaniesthatyouasateamobserve.Then,asateam,writeashortreportcomparingandcontrastingyourcompanies.Computeandinterpreteachoftheratiosdiscussedinthischapter.Themostfrequentlyusedsec-tionswillbethefinancialstatements.Also,youmaywanttoreviewthefootnotes,thesummaryoffinancialinformation(usuallyforthepastfiveyearsorlonger),andmanagement’sdiscussionandanalysis.lib11021_ch14_690-738.indd73725/07/1010:05AM 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ConfirmingPagesAPPENDIXATABLEA.1PresentValueof$1Periods2%3%3.75%4%4.25%5%6%7%8%10.98040.97090.96390.96150.95920.95240.94340.93460.925920.96120.94260.92900.92460.92010.90700.89000.87340.857330.94230.91510.89540.88900.88260.86380.83960.81630.793840.92380.88850.86310.85480.84660.82270.79210.76290.735050.90570.86260.83190.82190.81210.78350.74730.71300.680660.88800.83750.80180.79030.77900.74620.70500.66630.630270.87060.81310.77280.75990.74730.71070.66510.62270.583580.85350.78940.74490.73070.71680.67680.62740.58200.540390.83680.76640.71800.70260.68760.64460.59190.54390.5002100.82030.74410.69200.67560.65950.61390.55840.50830.4632200.67300.55370.47890.45640.43500.37690.31180.25840.2145Periods9%10%11%12%13%14%15%20%25%10.91740.90910.90090.89290.88500.87720.86960.83330.800020.84170.82640.81160.79720.78310.76950.75610.69440.640030.77220.75130.73120.71180.69310.67500.65750.57870.512040.70840.68300.65870.63550.61330.59210.57180.48230.409650.64990.62090.59350.56740.54280.51940.49720.40190.327760.59630.56450.53460.50660.48030.45560.43230.33490.262170.54700.51320.48170.45230.42510.39960.37590.27910.209780.50190.46650.43390.40390.37620.35060.32690.23260.167890.46040.42410.39090.36060.33290.30750.28430.19380.1342100.42240.38550.35220.32200.29460.26970.24720.16150.1074200.17840.14860.12400.10370.08680.07280.06110.02610.0115TABLEA.2PresentValueofAnnuityof$1Periods*2%3%3.75%4%4.25%5%6%7%8%10.98040.97090.96390.96150.95920.95240.94340.93460.925921.94161.91351.89291.88611.87941.85941.83341.80801.783332.88392.82862.78832.77512.76202.72322.67302.62432.577143.80773.71713.65143.62993.60863.54603.46513.38723.312154.71354.57974.48334.45184.42074.32954.21244.10023.992765.60145.41725.28515.24215.19975.07574.91734.76654.622976.47206.23036.05796.00215.94705.78645.58245.38935.206487.32557.01976.80286.73276.66386.46326.20985.97135.746698.16227.78617.52087.43537.35137.10786.80176.51526.2469108.98268.53028.21288.11098.01097.72177.36017.02366.71012016.351414.877513.896213.590313.294412.462211.469910.59409.8181*Thereisonepaymenteachperiod.A–1lib11021_appA_A1-A3.inddA–125/07/1012:13PM ConfirmingPagesA–2APPENDIXATABLEA.2(continued)PresentValueofAnnuityof$1Periods*9%10%11%12%13%14%15%20%25%10.91740.90910.90090.89290.85500.87720.86960.83330.800021.75911.73551.71251.69011.66811.64671.62571.52781.440032.53132.48692.44372.40182.36122.32162.28322.10651.952043.23973.16993.10243.03732.97452.91372.85502.58872.361653.88973.79083.69593.60483.51723.43313.35222.99062.689364.48594.35534.23054.11143.99753.88873.78453.32552.951475.03304.86844.71224.56384.42264.28834.16043.60463.161185.53485.33495.14614.96764.79884.63894.48733.83723.328995.99525.75905.53705.32825.13174.94644.77164.03103.4631106.41776.14465.88925.65025.42625.21615.01884.19253.5705209.12858.51367.96337.46947.02486.62316.25934.86963.9539*Thereisonepaymenteachperiod.TABLEA.3FutureValueof$1Periods2%3%3.75%4%4.25%5%6%7%8%01.1.1.1.1.1.1.1.1.11.021.031.03751.041.04251.051.061.071.0821.04041.06091.07641.08161.08681.10251.12361.14491.166431.06121.09271.11681.12491.13301.15761.19101.22501.259741.08241.12551.15871.16991.18111.21551.26251.31081.360551.10411.15931.20211.21671.23131.27631.33821.40261.469361.12621.19411.24721.26531.28371.34011.41851.50071.586971.14871.22991.29391.31591.33821.40711.50361.60581.713881.17171.26681.34251.36861.39511.47751.59381.71821.850991.19511.30481.39281.42331.45441.55131.68951.83851.9990101.21901.34391.44501.48021.51621.62891.79081.96722.1589201.48591.80612.08822.19112.29892.65333.20713.86974.6610Periods9%10%11%12%13%14%15%20%25%01.1.1.1.1.1.1.1.1.11.091.101.111.121.131.141.151.201.2521.18811.21001.23211.25441.27691.29961.32251.44001.562531.29501.33101.36761.40491.44291.48151.52091.72801.953141.41161.46411.51811.57351.63051.68901.74902.07362.441451.53861.61051.68511.76231.84241.92542.01142.48833.051861.67711.77161.87041.97382.08202.19502.31312.98603.814771.82801.94872.07622.21072.35262.50232.66003.58324.768481.99262.14362.30452.47602.65842.85263.05904.29985.960592.17192.35792.55802.77313.00403.25193.51795.15987.4506102.36742.59372.83943.10583.39463.70724.04566.19179.3132205.60446.72758.06239.646311.523113.743516.366538.337686.7362lib11021_appA_A1-A3.inddA–225/07/1012:13PM ConfirmingPagesAPPENDIXAA–3TABLEA.4FutureValueofAnnuityof$1Periods*2%3%3.75%4%4.25%5%6%7%8%11.1.1.1.1.1.1.1.1.22.022.032.03752.042.04252.052.062.072.0833.06043.09093.11393.12163.12933.15253.18363.21493.246444.12164.18364.23074.24654.26234.31014.37464.43994.506155.20405.30915.38935.41635.44345.52565.63715.75075.866666.30816.46846.59146.63306.67486.80196.97537.15337.335977.43437.66257.83867.89837.95858.14208.39388.65408.922888.58308.89239.13269.21429.29679.54919.897510.259810.636699.754610.159110.475010.582810.691811.026611.491311.978012.48761010.949711.463911.867812.006112.146212.577913.180813.816414.48662024.297426.870429.017429.778130.562533.066036.785640.995545.7620Periods*9%10%11%12%13%14%15%20%25%11.1.1.1.1.1.1.1.1.22.092.102.112.122.132.142.152.202.2533.27813.31003.34213.37443.40693.43963.47253.64003.812544.57314.64104.70974.77934.84984.92114.99345.36805.765655.98476.10516.22786.35286.48036.61016.74247.44168.207067.52337.71567.91298.11528.32278.53558.75379.929911.258879.20049.48729.783310.089010.404710.730511.066812.915915.0735811.028511.435911.859412.299712.757313.232813.726816.499119.8419913.021013.597514.164014.775715.415716.085316.785820.798925.80231015.192915.937416.722017.548718.419719.337320.303725.958733.25292051.160157.275064.202872.052480.946891.0249102.4436186.6880342.9447*Thereisonepaymenteachperiod.lib11021_appA_A1-A3.inddA–325/07/1012:13PM ConfirmingPagesAPPENDIXBUNITEDSTATESSECURITIESANDEXCHANGECOMMISSIONWashington,D.C.20549Form10-K¥ANNUALREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIESEXCHANGEACTOF1934FortheFiscalYearEndedJanuary31,2009ORnTRANSITIONREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIESEXCHANGEACTOF1934CommissionFileNumber:1-33338AmericanEagleOutfitters,Inc.(Exactnameofregistrantasspecifiedinitscharter)DelawareNo.13-2721761(Stateorotherjurisdictionof(I.R.S.Employerincorporationororganization)IdentificationNo.)77HotMetalStreet,Pittsburgh,PA15203-2329(Addressofprincipalexecutiveoffices)(ZipCode)Registrant’stelephonenumber,includingareacode:(412)432-3300SecuritiesregisteredpursuanttoSection12(b)oftheAct:CommonShares,$0.01parvalueNewYorkStockExchange(Titleofclass)(Nameofeachexchangeonwhichregistered)SecuritiesregisteredpursuanttoSection12(g)oftheAct:NoneIndicatebycheckmarkiftheregistrantisawell-knownseasonedissuer,asdefinedinRule405oftheSecuritiesAct.YES¥NOnIndicatebycheckmarkiftheregistrantisnotrequiredtofilereportspursuanttoSection13orSections15(d)oftheAct.YESnNO¥Indicatebycheckmarkwhethertheregistrant(1)hasfiledallreportsrequiredtobefiledbySection13or15(d)oftheSecuritiesExchangeActof1934duringthepreceding12months,and(2)hasbeensubjecttothefilingrequirementsforatthepast90days.YES¥NOnIndicatebycheckmarkifdisclosureofdelinquentfilerspursuanttoItem405ofRegulationS-Kisnotcontainedherein,andwillnotbecontained,tothebestofregistrant’sknowledge,indefinitiveproxyorinformationstatementsincorporatedbyreferenceinPartIIIofthisForm10-KoranyamendmenttothisForm10-K.nIndicatebycheckmarkwhethertheregistrantisalargeacceleratedfiler,anacceleratedfiler,anon-acceleratedfiler,orasmallerreportingcompany.Seethedefinitionsof“largeacceleratedfiler,”“acceleratedfiler”and“smallerreportingcompany”inRule12b-2oftheExchangeAct.(Checkone):Largeacceleratedfiler¥AcceleratedfilernNon-acceleratedfilernSmallerreportingcompanyn(Donotcheckifasmallerreportingcompany)Indicatebycheckmarkwhethertheregistrantisashellcompany(asdefinedinRule12b-2oftheAct).YESnNO¥Theaggregatemarketvalueofvotingandnon-votingcommonequityheldbynon-affiliatesoftheregistrantasofAugust2,2008was$2,443,983,683.Indicatethenumberofsharesoutstandingofeachoftheregistrant’sclassesofcommonstock,asofthelatestpracticabledate:206,380,486CommonShareswereoutstandingatMarch13,2009.DOCUMENTSINCORPORATEDBYREFERENCEPartIII—ProxyStatementfor2009AnnualMeetingofStockholders,inpart,asindicated.B–0lib11021_appB_B0-B42.inddB–225/07/1012:13PM Rev.ConfirmingPagesAPPENDIXBB–1AMERICANEAGLEOUTFITTERS,INC.TABLEOFCONTENTSPARTIItem1.BusinessItem1A.RiskFactorsItem1B.UnresolvedStaffCommentsItem2.PropertiesItem3.LegalProceedingsItem4.SubmissionofMatterstoaVoteofSecurityHoldersPARTIIItem5.MarketfortheRegistrant’sCommonEquity,RelatedStockholderMattersandIssuerPurchasesofEquitySecuritiesItem6.SelectedConsolidatedFinancialDataItem7.Management’sDiscussionandAnalysisofFinancialConditionandResultsofOperationsItem7A.QuantitativeandQualitativeDisclosuresAboutMarketRiskItem8.FinancialStatementsandSupplementaryDataItem9.ChangesinandDisagreementswithAccountantsonAccountingandFinancialDisclosureItem9A.ControlsandProceduresItem9B.OtherInformationPARTIIIItem10.Directors,ExecutiveOfficersandCorporateGovernanceItem11.ExecutiveCompensationItem12.SecurityOwnershipofCertainBeneficialOwnersandManagementandRelatedStockholderMattersItem13.CertainRelationshipsandRelatedTransactions,andDirectorIndependenceItem14.PrincipalAccountingFeesandServicesPARTIVItem15.Exhibits,FinancialStatementScheduleslib11021_appB_B0-B42.inddB–128/07/1011:08AM ConfirmingPagesB–2APPENDIXBPARTIITEM1.BUSINESS.GeneralAmericanEagleOutfitters,Inc.,aDelawarecorporation,isaleadingretailerthatoperatesundertheAmericanEagleOutfitters»,aerie»byAmericanEagle,77kidsTMbyamericaneagleandMARTIN+OSA»brands.AmericanEagleOutfittersdesigns,marketsandsellsitsownbrandofhighquality,on-trendclothing,accessoriesandpersonalcareproductsataffordablepriceswhiletargeting15to25year-oldcustomers.WeopenedourfirstAmericanEagleOutfittersstoreintheUnitedStatesin1977andexpandedthebrandintoCanadain2001.AmericanEagleOutfittersalsooperatesae.com»,whichoffersadditionalsizes,colorsandstylesoffavoriteAE»merchandiseandshipsto62countriesaroundtheworld.TheAmericanEagleOutfittersoriginalcollectionincludesstandardslikejeansandgraphicTs,aswellasessentialslikeaccessories,outerwear,footwear,basicsandswimwearunderourAmericanEagleOutfitters,AmericanEagle»andAEbrandnames.DuringFiscal2006,AmericanEagleOutfitterslauncheditsnewintimatesbrand,aeriebyAmericanEagle(“aerie”).Theaeriecollectionisavailableinaeriestores,predominantlyallAmericanEaglestoresandataerie.com.ThecollectionoffersDormwear»andintimatescollectionsfortheAE»girl.Designedtobesubtlysexy,comfortableandcozy,theaeriebrandoffersAEcustomersanewwaytoexpresstheirpersonalstyleeveryday,fromthedormroomtothecoffeeshoptotheclassroom.WealsointroducedMARTIN+OSA»(“M+O”)duringFiscal2006,aconcepttargeting28to40year-oldwomenandmen,whichoffersRefinedCasualTMclothingandaccessories,designedtobevaluable,irresistible,inspiring,authenticandadventurous.InFiscal2008,MARTIN+OSAbeganofferingmerchandiseonlineatmartinandosa.com.InOctober2008,welaunchedanewchildren’sapparelbrand,77kidsTMbyamericaneagle(“77kids”).The77kidsbrandoffers“kidcool,”durableclothingandaccessoriesforkidsagestwoto10.Thebranddebutedworldwideonlineat77kids.comduringFiscal2008,withfutureplansforstoresintheU.S.Asusedinthisreport,allreferencesto“we,”“our,”andthe“Company”refertoAmericanEagleOutfitters,Inc.anditswholly-ownedsubsidiaries.“AmericanEagleOutfitters,”“AmericanEagle,”“AE,”andthe“AEBrand”refertoourU.S.andCanadianAmericanEagleOutfittersstores.“AEODirect”referstooure-commerceoperations,ae.com,aerie.com,martinandosa.comand77kids.com.“NLS”referstoNationalLogisticsServiceswhichweoperatedinCanadapriortoitsdispositionduringFiscal2006.“Bluenotes”referstotheBluenotes/ThriftysspecialtyapparelchainwhichweoperatedinCanadapriortoitsdispositionduringFiscal2004.AsofJanuary31,2009,weoperated954AmericanEagleOutfittersstoresintheUnitedStatesandCanada,116aeriestand-alonestoresand28MARTIN+OSAstores.Ourfinancialyearisa52/53weekyearthatendsontheSaturdaynearesttoJanuary31.Asusedherein,“Fiscal2010”and“Fiscal2009”refertothe52weekperiodsendingJanuary29,2011andJanuary30,2010,respectively.“Fiscal2008”and“Fiscal2007”refertothe52weekperiodsendedJanuary31,2009andFebruary2,2008,respectively.“Fiscal2006”referstothe53weekperiodendedFebruary3,2007.“Fiscal2005”and“Fiscal2004”refertothe52weekperiodsendedJanuary28,2006andJanuary29,2005,respectively.InformationconcerningoursegmentsandcertaingeographicinformationiscontainedinNote2oftheConsolidatedFinancialStatementsincludedinthisForm10-Kandisincorporatedhereinbyreference.GrowthStrategyDuringFiscal2008,wecontinuedtomakesignificantprogressonourkeygrowthinitiatives.AsweenterFiscal2009,wearetakingamorecautiousstanceonrealestategrowthinlightofaslow-downintheeconomy.However,weremainfocusedonseveralwell-definedstrategiesthatwehaveinplacetogrowourbusinessandlib11021_appB_B0-B42.inddB–225/07/1012:13PM ConfirmingPagesAPPENDIXBB–3strengthenourfinancialperformance.Ourprimarygrowthstrategiesarefocusedonthefollowingkeyareasofopportunity:RealEstateWearecontinuingtheexpansionofourbrandsthroughouttheUnitedStates.AttheendofFiscal2008,weoperatedinall50states,theDistrictofColumbia,PuertoRicoandCanada.DuringFiscal2008,weopened122newstores,consistingof33U.S.AEstores,twoCanadianAEstores,77aeriestores(includingeightCanadianaeriestores)and10MARTIN+OSAstores.Thesestoreopenings,offsetby11storeclosings,increasedourtotalstorebasebyapproximately11%to1,098stores.Additionally,ourgrosssquarefootageincreasedbyapproximately11%duringFiscal2008,withapprox-imately89%attributabletonewstoreopeningsandtheremaining11%attributabletotheincrementalsquarefootagefrom30AEstoreremodels.InFiscal2009,wewillcontinuetoopenAEandaeriebyAmericanEaglestores.Weplantoopen17aeriestores,withanaveragesizeof4,200grosssquarefeet.Additionally,weplantoopen11newAEstoresincludingaflagshiplocationintheTimesSquareareaofNewYork,NewYork.Wealsoplantoremodelapproximately25to35existingAEstores.Oursquarefootagegrowthisexpectedtobeapproximately3%.WebelievethatthereareattractiveretaillocationswherewecancontinuetoopenAmericanEaglestoresandourotherbrandsinenclosedregionalmalls,urbanareasandlifestylecenters.ThetablesbelowshowcertaininformationrelatingtoourhistoricalstoregrowthintheU.S.andCanada:FiscalFiscalFiscalFiscalFiscal20082007200620052004Consolidatedstoresatbeginningofperiod.............987911869846805Consolidatedstoresopenedduringtheperiod..........12280503650Consolidatedstoresclosedduringtheperiod...........(11)(4)(8)(13)(9)Totalconsolidatedstoresatendofperiod............1,098987911869846FiscalFiscalFiscalFiscalFiscal20082007200620052004AEBrandstoresatbeginningofperiod...............929903869846805AEBrandstoresopenedduringtheperiod.............3530423650AEBrandstoresclosedduringtheperiod..............(10)(4)(8)(13)(9)TotalAEBrandstoresatendofperiod..............954929903869846FiscalFiscalFiscalFiscalFiscal20082007200620052004aeriestoresatbeginningofperiod...................393———aeriestoresopenedduringtheperiod.................77363——aeriestoresclosedduringtheperiod..................—————Totalaeriestoresatendofperiod..................116393——FiscalFiscalFiscalFiscalFiscal20082007200620052004M+Ostoresatbeginningofperiod...................195———M+Ostoresopenedduringtheperiod.................10145——M+Ostoresclosedduringtheperiod.................(1)————TotalM+Ostoresatendofperiod.................28195——lib11021_appB_B0-B42.inddB–325/07/1012:13PM ConfirmingPagesB–4APPENDIXBRemodelingofourAEstoresintoourcurrentstoreformatisimportanttoenhanceourcustomer’sshoppingexperience.Inordertomaintainabalancedpresentationandtoaccommodateadditionalproductcategories,weselectivelyenlargeourstoresduringtheremodelingprocesstoanaverage7,000grosssquarefeet,eitherwithintheirexistinglocationorbyupgradingthestorelocationwithinthemall.Webelievethelargerformatcanbetteraccommodateourexpansionofmerchandisecategories.Weselectstoresforexpansionorrelocationbasedonmarketdemographicsandstorevolumeforecasts.DuringFiscal2008,weremodeled30AEU.S.stores.Ofthe30remodeledstores,18storeswereremodeledandexpandedwithintheirexistinglocations,10storeswererelocatedtoalargerspacewithinthemallandtwostoreswereremodeledwithintheirexistinglocations.Additionally,threestoreswererefurbishedasdiscussedbelow.Wemaintainacosteffectivestorerefurbishmentprogramtargetedtowardsourlowervolumestores,typicallylocatedinsmallermarkets.Storesselectedaspartofthisprogrammaintaintheircurrentlocationandsizebutareupdatedtoincludecertainaspectsofourcurrentstoreformat,includingpaintandcertainnewfixtures.AEBrandAmericanEagleisanestablishedandleadingbrandfor15-25yearolds,withalongheritageofqualitymerchandiseofferedatagreatvalue.WebelievethatwecanleveragethesuccesswehavehadinmakingAmericanEagleadestinationbrandandincreasemarket-shareinbrand-definingkeycategories.InFiscal2009,weexpecttostrengthencategoriessuchasknittops,jeans,sweaters,dresses,shorts,fleeceandaccessoriesbyofferingAEclassicscombinedwithrelevantfashion.WehavereinforcedourcustomerconnectionandincreasedourfocusonidentifyingemergingfashiontrendsthatareembracedbytheAEcustomer.WewillhighlightAEvalueofferingsbystrengtheningoureverydayvaluepricing,aswellaswithpromotionaleventsplannedthroughouttheyear.Ourcustomerloyaltyprogram,theAEAll-AccessPass˛servesasacriticalone-on-oneconnectionpointwithourbestcustomersandrewardsbrandloyalty.aeriebyAmericanEagleInthefallof2006,welaunchedournewintimatesbrand,aeriebyAmericanEagle,whichtargetsourcoreAEcustomers.TheaeriecollectionoffersDormwear»andintimatescollectionsfortheAE»girl.Itisintendedtodrivestoreproductivitybyexpandingtheproductcategoriesandbuildinguponourexperience.Theaeriecollectionisofferedin116stand-alonestores,predominantlyallAmericanEaglestoresandonaerie.com.aeriealsooffersitscustomersaloyaltyprogram,theaeriea-list˛.aerierewardsitsa-listmemberswithafreespecialgiftonanyThursdayoftheirchoosing,onceamonth.Basedonthepositivecustomerresponsetoaerie,inFiscal2008,weacceleratedourrealestatestrategyforthisbrand.Ouracceleratedstrategyincludedopening77storesduringFiscal2008.TheaeriebrandremainsafocusinFiscal2009,withplannedopeningsofapproximately17stores.AEODirectWesellmerchandiseviaoure-commerceoperations,ae.comandaerie.com,whichareextensionsofthelifestylethatweconveyinourstores.InFiscal2008,weexpandedAEODirectthroughtheadditionofe-commerceoperationsformartinandosa.comand77kids.com.DuringFiscal2008,weadded21countriestoourshippingdestinationsandcurrentlyshipto62countries.Inadditiontopurchasingitemsonline,customerscanexperienceAEODirectin-store.TheCompanyhasimplementedanewprogramcalledStore-to-Door,whichenablesstoreassociatestosellanyitemavailableonlinetoanin-storecustomerinasingletransaction,withoutplacingaphonecall.CustomersaretakingadvantageofStoretoDoorbypurchasingextendedsizesthatarenotavailablein-store,aswellasfindingacertainsizeorcolorthathappenstobesoldoutatthetimeoftheirvisit.Theordereditemsareshippedtothecustomer’shomefreeofcharge.DuringFiscal2008,webeganacceptingPayPalasameansofpaymentfromourae.com,aerie.comand77kids.comcustomers.WearecontinuingtofocusonthegrowthofAEODirectthroughvariousinitiatives,includingimprovedsiteefficiencyandfastercheck-out,expansionofsizesandstyles,uniqueonlinecontentandtargetedmarketingstrategies.lib11021_appB_B0-B42.inddB–425/07/1012:13PM ConfirmingPagesAPPENDIXBB–5MARTIN+OSAInthefallof2006,welaunchedMARTIN+OSA,aconcepttargeting28to40year-oldwomenandmen.MARTIN+OSAoffersRefinedCasualTMclothingandaccessoriesdesignedtobevaluable,irresistible,inspiring,authenticandadventurous.DuringFiscal2008,weopened10MARTIN+OSAstores.Additionally,inFiscal2008,MARTIN+OSAbeganofferingmerchandiseonlineatmartinandosa.com.Atthistime,our2009capitalexpendituresprojectiondoesnotincludenewM+Ostores.Wewillcontinuetostrengthenouroperatingmodelwiththe28existingstoresandlookforongoingprogressinmerchandisingandbuildingconsumerawareness.77kidsbyamericaneagleInOctober2008,welaunchedanewchildren’sapparelbrand,77kids.The77kidsbrandoffers“kidcool,”durableclothingandaccessoriesforkidsagestwoto10.Thebranddebutedworldwideonlineat77kids.comduringFiscal2008,withfutureplansforstoresintheU.S.ConsolidatedStoreLocationsOurstoresaverageapproximately5,800grosssquarefeetandapproximately4,600onasellingsquarefootbasis.AsofJanuary31,2009,weoperated1,098storesintheUnitedStatesandCanadaundertheAmericanEagleOutfitters,aerieandMARTIN+OSAbrandsasshownbelow:UnitedStates,includingtheDistrictofColumbiaandtheCommonwealthofPuertoRico—1,012storesAlabama19Illinois36Montana2PuertoRico2Alaska5Indiana21Nebraska8RhodeIsland4Arizona17Iowa12Nevada7SouthCarolina15Arkansas8Kansas10NewHampshire8SouthDakota3California92Kentucky13NewJersey28Tennessee24Colorado16Louisiana15NewMexico3Texas71Connecticut18Maine4NewYork58Utah12Delaware4Maryland21NorthCarolina30Vermont3DistrictofColumbia1Massachusetts34NorthDakota4Virginia30Florida52Michigan35Ohio41Washington20Georgia33Minnesota20Oklahoma12WestVirginia9Hawaii4Mississippi8Oregon11Wisconsin18Idaho4Missouri18Pennsylvania67Wyoming2Canada—86storesAlberta10NewBrunswick4Ontario43BritishColumbia12Newfoundland2Quebec9Manitoba2NovaScotia2Saskatchewan2PurchasingWepurchasemerchandisefromsupplierswhoeithermanufacturetheirownmerchandise,supplymerchandisemanufacturedbyothers,orboth.DuringFiscal2008,wepurchasedamajorityofourmerchandisefromnon-NorthAmericansuppliers.Allofourmerchandisesuppliersreceiveavendorcompliancemanualthatdescribesourqualitystandardsandshippinginstructions.Wemaintainaqualitycontroldepartmentatourdistributioncenterstoinspectincomingmerchandiseshipmentsforuniformityofsizesandcolorsandforoverallqualityofmanufacturing.Periodicinspectionsarealsomadebyouremployeesandagentsatmanufacturingfacilitiestoidentifyqualityproblemspriortoshipmentofmerchandise.lib11021_appB_B0-B42.inddB–525/07/1012:13PM ConfirmingPagesB–6APPENDIXBCorporateSocialResponsibilityWearefirmlycommittedtothegoalofusinghighlyregardedandefficientsuppliersthroughouttheworld.Werequireoursupplierstoprovideaworkplaceenvironmentthatnotonlymeetsbasichumanrightsstandards,butalsoonethatcomplieswithlocallegalrequirementsandtreatsworkerswithdignityandrespect.Formanyyears,wehavehadapolicytoinspectfactoriesthroughouttheworldwheregoodsareproducedtoourorder.Thisinspectionprocessisanimportantcomponentofourcomprehensivevendorcomplianceprogramthatwasdevelopedwiththeassistanceofaninternationallyrecognizedconsultingfirm.Thisprogramcontractuallyrequiresallsupplierstomeetourglobalworkplacestandards,includinghumanrightsstandards,assetforthinourVendorCodeofConduct.TheVendorCodeofConductisrequiredtobepostedinallfactoriesinthelocallanguage.TheprogramutilizesthirdpartyinspectorstoauditcompliancebyvendorfactorieswithourworkplacestandardsandVendorCodeofConduct.AcopyoftheVendorCodeofConductisalsopostedonourwebsiteatwww.ae.com.InFiscal2007,weopenedacomplianceofficeinHongKong.ThekeyfunctionsperformedbytheAEteamtherearetovalidatetheinspectionreportingofourthird-partyauditors,andtoworkwithnewandexistingfactoriesonremediationofissues.AlsoinFiscal2007,weinstitutedaprocessofpre-inspectionforfacilitiesbeingconsideredforAEproductionandexpandedourannualre-auditprogramtostrivetoincludeallprimaryexistingfacilities.SecurityComplianceDuringrecentyears,therehasbeenanincreasingfocuswithintheinternationaltradecommunityonconcernsrelatedtoglobalterroristactivity.VarioussecurityissuesandotherterroristthreatshavebroughtincreaseddemandsfromtheBureauofCustomsandBorderProtection(“CBP”)andotheragencieswithintheDepartmentofHomelandSecuritythatimporterstakeresponsibleactiontosecuretheirsupplychains.Inresponse,webecameacertifiedmemberoftheCustoms—TradePartnershipAgainstTerrorismprogram(“C-TPAT”)during2004.C-TPATisavoluntaryprogramofferedbyCBPinwhichanimporteragreestoworkwithCBPtostrengthenoverallsupplychainsecurity.OurinternalsecurityprocedureswerereviewedbyCBPduringFebruary2005andavalidationofprocesseswithrespecttoourexternalpartnerswascompletedinJune2005andthenre-evaluatedinJune2008.WereceivedformalwrittenvalidationsofoursecurityproceduresfromCBPduringthefirstquarterofFiscal2006andthesecondquarterofFiscal2008,eachindicatingthehighestlevelofbenefitsaffordedtoC-TPATmembers.Additionally,wetooksignificantstepstoexpandthescopeofoursecurityproceduresduring2004,including,butnotlimitedto:asignificantincreaseinthenumberoffactoryauditsperformed;arevisionofthefactoryauditformattoincludeareviewofallcriticalsecurityissuesasdefinedbyCBP;areviewofsecurityproceduresofourotherinternationaltradingpartners,includingforwarders,consolidators,shippersandbrokers;andarequirementthatallofourinternationaltradingpartnersbemembersofC-TPAT.InFiscal2007,wefurtherincreasedthescopeofourinspectionprogramtostrivetoincludepre-inspectionsofallpotentialproductionfacilitiesandre-auditsofallprimaryexistingfacilities.TradeComplianceWeactastheimporterofrecordforsubstantiallyallofthemerchandisewepurchaseoverseasfromforeignsuppliers.Accordingly,wehaveanaffirmativeobligationtocomplywiththerulesandregulationsestablishedforimportersbytheCBPregardingissuessuchasmerchandiseclassification,valuationandcountryoforigin.WehavedevelopedandimplementedacomprehensiveseriesoftradecomplianceprocedurestoassurethatweadheretoallCBPrequirements.Initsmostrecentreviewandauditofourimportoperationsandprocedures,CBPfoundnounacceptablerisksofnon-compliance.MerchandiseInventory,ReplenishmentandDistributionPurchaseordersareenteredintothemerchandisesystematthetimeoforder.MerchandiseisnormallyshippeddirectlyfromvendorsandroutedtoourtwoUSdistributioncenters,oneinWarrendale,PennsylvaniaandtheotherinOttawa,Kansas,ortoourCanadiandistributioncenterinMississauga,Ontario.lib11021_appB_B0-B42.inddB–625/07/1012:13PM ConfirmingPagesAPPENDIXBB–7Uponreceipt,merchandiseisenteredintothemerchandisesystem,thenprocessedandpreparedforshipmenttothestoresorforwardedtoawarehouseholdingareatobeusedasstorereplenishmentgoods.Theallocationofmerchandiseamongstoresvariesbaseduponanumberoffactors,includinggeographiclocation,customerdemographicsandstoresize.Merchandiseisshippedtoourstorestwotofivetimesperweekdependingupontheseasonandstorerequirements.TheexpansionofourKansasdistributioncenterinFiscal2007enabledustobringfulfillmentservicesforAEODirectin-house.ThesecondphaseofthisexpansionwascompletedinFiscal2008toenhanceoperatingefficiencyandsupportourfuturegrowth.CustomerCreditandReturnsInApril2008,weintroducedanewco-brandedcreditcard(the“AEVisaCard”)andre-launchedourprivatelabelcreditcard(the“AECreditCard”).Bothofthesecreditcardsareissuedbyathird-partybank(the“Bank”),andwehavenoliabilitytotheBankforbaddebtexpense,providedthatpurchasesaremadeinaccordancewiththeBank’sprocedures.OnceacustomerisapprovedtoreceivetheAEVisaCardandthecardisactivated,thecustomeriseligibletoparticipateinourcreditcardrewardsprogram.Undertherewardsprogram,pointsareearnedonpurchasesmadewiththeAEVisaCardatAEandaerie,andatotherretailerswherethecardisaccepted.PointsearnedunderthecreditcardsrewardprogramresultintheissuanceofanAEgiftcardwhenacertainpointthresholdisreached.TheAEgiftcarddoesnotexpire,howeverpointsearnedthathavenotbeenusedtowardstheissuanceofanAEgiftcardexpireafter36monthsofnopurchaseactivity.AECreditCardholdersreceivespecialpromotionaloffersandadvancenoticeofallAmericanEaglein-storesalesevents.TheAEVisaCardisacceptedinallofourstoresandAEODirectsites,whiletheAECreditCardisacceptedatAmericanEagle,aerie,ae.com,aerie.comand77kids.com,only.OurcustomersintheU.S.andCanadastoresmayalsopayfortheirpurchaseswithAmericanExpress»,Discover»,MasterCard»,Visa»,bankdebitcards,cashorcheck.OurAEODirectcustomersmaypayfortheirpurchasesusingAmericanExpress»,Discover»,MasterCard»andVisa».Inaddition,ourae.com,aerie.com,and77kids.comcustomersmaypayfortheirpurchasesusingPayPal».Customersmayalsousegiftcardstopayfortheirpurchases.AEandaeriegiftcardscanbepurchasedinourAmericanEagleandaeriestores,respectively,andcanbeusedbothin-storeandonline.Inaddition,AE,aerieand77kidsgiftcardsareavailablethroughae.com,aerie.comor77kids.com.MARTIN+OSAgiftcardscanbeusedbothin-storeandonlineandareavailableforpurchaseinourMARTIN+OSAstoresandatmartinandosa.com.Whentherecipientusesthegiftcard,thevalueofthepurchaseiselectronicallydeductedfromthecardandanyremainingvaluecanbeusedforfuturepurchases.Ourgiftcardsdonotexpireandwedonotchargeaservicefeeoninactivegiftcards.Weofferourretailcustomersahassle-freereturnpolicy.Webelievethatcertainofourcompetitorsoffersimilarcreditcardandcustomerservicepolicies.CompetitionTheretailapparelindustry,includingretailstoresande-commerce,ishighlycompetitive.Wecompetewithvariousindividualandchainspecialtystores,aswellasthecasualapparelandfootweardepartmentsofdepartmentstoresanddiscountretailers,primarilyonthebasisofquality,fashion,service,selectionandprice.TrademarksandServiceMarksWehaveregisteredAMERICANEAGLEOUTFITTERS»,AMERICANEAGLE»,AE»andAEO»withtheUnitedStatesPatentandTrademarkOffice.Wehavealsoregisteredorhaveappliedtoregisterthesetrademarkswiththeregistriesofmanyoftheforeigncountriesinwhichourmanufacturersarelocatedand/orwhereourproductisshipped.WehaveregisteredAMERICANEAGLEOUTFITTERS»andhaveappliedtoregisterAMERICANEAGLETMwiththeCanadianIntellectualPropertyOffice.Inaddition,weareexclusivelylicensedinCanadatouseAETMandAEO»inconnectionwiththesaleofawiderangeofclothingproducts.lib11021_appB_B0-B42.inddB–725/07/1012:13PM ConfirmingPagesB–8APPENDIXBIntheUnitedStatesandaroundtheworld,wehavealsoregistered,orhaveappliedtoregister,anumberofothermarksusedinourbusiness,includingaerie»,MARTIN+OSA»and77kidsbyamericaneagleTM.Thesetrademarksarerenewableindefinitely,aslongastheyarestillinuseandtheirregistrationsareproperlymaintained.Webelievethattherecognitionassociatedwiththesetrademarksmakesthemextremelyvaluableand,therefore,weintendtouseandrenewourtrademarksinaccordancewithourbusinessplans.EmployeesAsofJanuary31,2009,wehadapproximately37,500employeesintheUnitedStatesandCanada,ofwhomapproximately31,000werepart-timeandseasonalhourlyemployees.Weconsiderourrelationshipwithouremployeestobegood.SeasonalityHistorically,ouroperationshavebeenseasonal,withalargeportionofnetsalesandoperatingincomeoccurringinthethirdandfourthfiscalquarter,reflectingincreaseddemandduringtheback-to-schoolandyear-endholidaysellingseasons,respectively.Asaresultofthisseasonality,anyfactorsnegativelyaffectingusduringthethirdandfourthfiscalquartersofanyyear,includingadverseweatherorunfavorableeconomicconditions,couldhaveamaterialadverseeffectonourfinancialconditionandresultsofoperationsfortheentireyear.Ourquarterlyresultsofoperationsalsomayfluctuatebaseduponsuchfactorsasthetimingofcertainholidayseasons,thenumberandtimingofnewstoreopenings,theacceptabilityofseasonalmerchandiseofferings,thetimingandlevelofmarkdowns,storeclosingsandremodels,competitivefactors,weatherandgeneraleconomicconditions.AvailableInformationOurAnnualReportsonForm10-K,QuarterlyReportsonForm10-Q,CurrentReportsonForm8-Kandamendmentstothosereportsareavailable,freeofcharge,underthe“AboutAE”sectionofourwebsiteatwww.ae.com.ThesereportsareavailableassoonasreasonablypracticableaftersuchmaterialiselectronicallyfiledwiththeSecuritiesandExchangeCommission(the“SEC”).Ourcorporategovernancematerials,includingourcorporategovernanceguidelines,thechartersofouraudit,compensation,andnominatingandcorporategovernancecommittees,andourcodeofethicsmayalsobefoundunderthe“AboutAEO,Inc.”sectionofourwebsiteatwww.ae.com.Anyamendmentsorwaiverstoourcodeofethicswillalsobeavailableonourwebsite.Acopyofthecorporategovernancematerialsisalsoavailableuponwrittenrequest.Additionally,ourinvestorpresentationsareavailableunderthe“AboutAEO,Inc.”sectionofourwebsiteatwww.ae.com.Thesepresentationsareavailableassoonasreasonablypracticableaftertheyarepresentedatinvestorconferences.CertificationsAsrequiredbyNewYorkStockExchange(“NYSE”)CorporateGovernanceStandardsSection303A.12(a),onJuly9,2008ourChiefExecutiveOfficersubmittedtotheNYSEacertificationthathewasnotawareofanyviolationbytheCompanyofNYSEcorporategovernancelistingstandards.Additionally,wefiledwiththisForm10-K,thePrincipalExecutiveOfficerandPrincipalFinancialOfficercertificationsrequiredunderSections302and906oftheSarbanes-OxleyActof2002.lib11021_appB_B0-B42.inddB–825/07/1012:13PM ConfirmingPagesAPPENDIXBB–9ITEM6.SELECTEDCONSOLIDATEDFINANCIALDATA.ThefollowingSelectedConsolidatedFinancialDatashouldbereadinconjunctionwith“Management’sDiscussionandAnalysisofFinancialConditionandResultsofOperations,”includedunderItem7belowandtheConsolidatedFinancialStatementsandNotesthereto,includedinItem8below.MostoftheselecteddatapresentedbelowisderivedfromourConsolidatedFinancialStatements,whicharefiledinresponsetoItem8below.TheselectedConsolidatedStatementofOperationsdatafortheyearsendedJanuary28,2006andJanuary29,2005andtheselectedConsolidatedBalanceSheetdataasofFebruary3,2007,January28,2006andJanuary29,2005arederivedfromauditedConsolidatedFinancialStatementsnotincludedherein.FortheYearsEnded(1)January31,February2,February3,January28,January29,20092008200720062005(Inthousands,exceptpershareamounts,ratiosandotherfinancialinformation)SummaryofOperations(2)Netsales(3).......................$2,988,866$3,055,419$2,794,409$2,321,962$1,889,647Comparablestoresales(decrease)increase(4)......................(10)%1%12%16%21%Grossprofit.......................$1,174,101$1,423,138$1,340,429$1,077,749$881,188Grossprofitasapercentageofnetsales..39.3%46.6%48.0%46.4%46.6%Operatingincome(5)................$302,140$598,755$586,790$458,689$360,968Operatingincomeasapercentageofnetsales..........................10.1%19.6%21.0%19.8%19.1%Incomefromcontinuingoperations(2)...$179,061$400,019$387,359$293,711$224,232Incomefromcontinuingoperationsasapercentageofnetsales(2)...........6.0%13.1%13.9%12.7%11.9%PerShareResults(6)Incomefromcontinuingoperationspercommonshare-basic(2)............$0.87$1.85$1.74$1.29$1.03Incomefromcontinuingoperationspercommonshare-diluted(2)...........$0.86$1.82$1.70$1.26$1.00Weightedaveragecommonsharesoutstanding—basic...............205,169216,119222,662227,406217,725Weightedaveragecommonsharesoutstanding—diluted.............207,582220,280228,384233,031225,366Cashdividendspercommonshare(7)....$0.40$0.38$0.28$0.18$0.04BalanceSheetInformationTotalcashandshort-terminvestments....$483,853$619,939$813,813$751,518$589,607Long-terminvestments...............$251,007$165,810$264,944$145,744$84,416Totalassets(8).....................$1,963,676$1,867,680$1,979,558$1,605,649$1,328,926Short-termdebt....................$75,000$—$—$—$—Long-termdebt....................$—$—$—$—$—Stockholders’equity................$1,409,031$1,340,464$1,417,312$1,155,552$963,486Workingcapital(8)..................$523,596$644,656$724,490$725,294$582,739Currentratio(8)....................2.302.712.563.063.06Averagereturnonstockholders’equity...13.0%29.0%30.1%27.8%26.7%lib11021_appB_B0-B42.inddB–925/07/1012:13PM ConfirmingPagesB–10APPENDIXBFortheYearsEnded(1)January31,February2,February3,January28,January29,20092008200720062005(Inthousands,exceptpershareamounts,ratiosandotherfinancialinformation)OtherFinancialInformation(9)Totalstoresatyear-end..............1,098987911869846Capitalexpenditures................$265,335$250,407$225,939$81,545$97,288Netsalesperaveragesellingsquarefoot(10)........................$521$638$642$577$504Totalsellingsquarefeetatendofperiod.........................5,072,6124,595,6494,220,9293,896,4413,709,012Netsalesperaveragegrosssquarefoot(10)........................$446$517$524$471$412Totalgrosssquarefeetatendofperiod..6,328,1675,709,9325,173,0654,772,4874,540,095Numberofemployeesatendofperiod...37,50038,70027,60023,00020,600(1)ExceptforthefiscalyearendedFebruary3,2007,whichincludes53weeks,allfiscalyearspresentedinclude52weeks.(2)AllamountspresentedarefromcontinuingoperationsandexcludeBluenotes’resultsofoperationsforallperiods.(3)AmountforthefiscalyearsendedJanuary31,2009,February2,2008andFebruary3,2007includeproceedsfrommerchandisesell-offs.RefertoNote2totheaccompanyingConsolidatedFinancialStatementsforadditionalinformationregardingthecomponentsofnetsales.(4)ThecomparablestoresalesincreasefortheperiodendedFebruary2,2008iscomparedtothecorresponding52weekperiodinFiscal2006.ThecomparablestoresalesincreasefortheperiodendedFebruary3,2007iscomparedtothecorresponding53weekperiodinFiscal2005.(5)Allamountspresentedexcludegiftcardservicefeeincome,whichwasreclassifiedtootherincome,netduringFiscal2006.RefertoNote2totheaccompanyingConsolidatedFinancialStatementsforadditionalinfor-mationregardinggiftcards.(6)Pershareresultsforallperiodspresentedreflectthethree-for-twostocksplitdistributedonDecember18,2006.RefertoNote2totheaccompanyingConsolidatedFinancialStatementsforadditionalinformationregardingthestocksplit.(7)AmountforthefiscalyearendedJanuary29,2005representscashdividendspaidfortwoquartersonly.NotethattheCompanyinitiatedquarterlydividendpaymentsduringthethirdquarterofFiscal2004.(8)AmountsfortheyearsendedJanuary28,2006andJanuary29,2005reflectcertainassetsofNLSasheld-for-sale.(9)AllamountsexcludeBluenotesforallperiodspresented.(10)Netsalesperaveragesquarefootiscalculatedusingretailstoresalesfortheyeardividedbythestraightaverageofthebeginningandendingsquarefootagefortheyear.lib11021_appB_B0-B42.inddB–1025/07/1012:13PM ConfirmingPagesAPPENDIXBB–11ReportofIndependentRegisteredPublicAccountingFirmTotheBoardofDirectorsandStockholdersofAmericanEagleOutfitters,Inc.WehaveauditedtheaccompanyingconsolidatedbalancesheetsofAmericanEagleOutfitters,Inc.(theCompany)asofJanuary31,2009andFebruary2,2008,andtherelatedconsolidatedstatementsofoperations,comprehensiveincome,stockholders’equity,andcashflowsforeachofthethreeyearsintheperiodendedJanuary31,2009.ThesefinancialstatementsaretheresponsibilityoftheCompany’smanagement.Ourrespon-sibilityistoexpressanopiniononthesefinancialstatementsbasedonouraudits.WeconductedourauditsinaccordancewiththestandardsofthePublicCompanyAccountingOversightBoard(UnitedStates).Thosestandardsrequirethatweplanandperformtheaudittoobtainreasonableassuranceaboutwhetherthefinancialstatementsarefreeofmaterialmisstatement.Anauditincludesexamining,onatestbasis,evidencesupportingtheamountsanddisclosuresinthefinancialstatements.Anauditalsoincludesassessingtheaccountingprinciplesusedandsignificantestimatesmadebymanagement,aswellasevaluatingtheoverallfinancialstatementpresentation.Webelievethatourauditsprovideareasonablebasisforouropinion.Inouropinion,thefinancialstatementsreferredtoabovepresentfairly,inallmaterialrespects,theconsolidatedfinancialpositionofAmericanEagleOutfitters,Inc.atJanuary31,2009andFebruary2,2008,andtheconsolidatedresultsofitsoperationsanditscashflowsforeachofthethreeyearsintheperiodendedJanuary31,2009,inconformitywithU.S.generallyacceptedaccountingprinciples.AsdiscussedinNote12totheconsolidatedfinancialstatements,theCompanyadoptedFASBInterpretationNo.48,“AccountingforUncertaintyinIncomeTaxes,aninterpretationofFASBStatementNo.109,”effectiveFebruary4,2007.Wehavealsoaudited,inaccordancewiththestandardsofthePublicCompanyAccountingOversightBoard(UnitedStates),AmericanEagleOutfitters,Inc.’sinternalcontroloverfinancialreportingasofJanuary31,2009,basedoncriteriaestablishedinInternalControl—IntegratedFrameworkissuedbytheCommitteeofSponsoringOrganizationsoftheTreadwayCommissionandourreportdatedMarch25,2009expressedanunqualifiedopinionthereon./s/Ernst&YoungLLPPittsburgh,PennsylvaniaMarch25,2009lib11021_appB_B0-B42.inddB–1125/07/1012:13PM ConfirmingPagesB–12APPENDIXBAMERICANEAGLEOUTFITTERS,INC.CONSOLIDATEDBALANCESHEETSJanuary31,February2,20092008(Inthousands,exceptpershareamounts)ASSETSCurrentassets:Cashandcashequivalents.........................................$473,342$116,061Short-terminvestments............................................10,511503,878Merchandiseinventory............................................294,928286,485Accountsandnotereceivable.......................................41,47131,920Prepaidexpensesandother........................................59,66035,486Deferredincometaxes............................................45,44747,004Totalcurrentassets................................................925,3591,020,834Propertyandequipment,atcost,netofaccumulateddepreciationandamortization...................................................740,240625,568Goodwill........................................................10,70611,479Long-terminvestments..............................................251,007165,810Non-currentdeferredincometaxes.....................................15,00124,238Otherassets,net..................................................21,36319,751Totalassets......................................................$1,963,676$1,867,680LIABILITIESANDSTOCKHOLDERS’EQUITYCurrentliabilities:Accountspayable................................................$152,068$157,928NotesPayable..................................................75,000—Accruedcompensationandpayrolltaxes...............................29,41749,494Accruedrent...................................................64,69562,161Accruedincomeandothertaxes.....................................6,25922,803Unredeemedstoredvaluecardsandgiftcertificates.......................42,29954,554Currentportionofdeferredleasecredits...............................13,72612,953Otherliabilitiesandaccruedexpenses.................................18,29916,285Totalcurrentliabilities..............................................401,763376,178Non-currentliabilities:Deferredleasecredits.............................................88,31470,355Non-currentaccruedincometaxes...................................39,89844,837Othernon-currentliabilities........................................24,67035,846Totalnon-currentliabilities..........................................152,882151,038Commitmentsandcontingencies......................................——Stockholders’equity:Preferredstock,$0.01parvalue;5,000sharesauthorized;noneissuedandoutstanding..................................................——Commonstock,$0.01parvalue;600,000sharesauthorized;249,328and248,763sharesissued;205,281and204,480sharesoutstanding,respectively..2,4852,481Contributedcapital...............................................513,574493,395Accumulatedothercomprehensive(loss)income.........................(14,389)35,485Retainedearnings...............................................1,694,1611,601,784Treasurystock,43,248and43,596shares,respectively,atcost...............(786,800)(792,681)Totalstockholders’equity...........................................1,409,0311,340,464Totalliabilitiesandstockholders’equity.................................$1,963,676$1,867,680RefertoNotestoConsolidatedFinancialStatementslib11021_appB_B0-B42.inddB–1225/07/1012:13PM ConfirmingPagesAPPENDIXBB–13AMERICANEAGLEOUTFITTERS,INC.CONSOLIDATEDSTATEMENTSOFOPERATIONSFortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands,exceptpershareamounts)Netsales............................................$2,988,866$3,055,419$2,794,409Costofsales,includingcertainbuying,occupancyandwarehousingexpenses...........................................1,814,7651,632,2811,453,980Grossprofit..........................................1,174,1011,423,1381,340,429Selling,generalandadministrativeexpenses..................740,742715,180665,606Depreciationandamortizationexpense......................131,219109,20388,033Operatingincome......................................302,140598,755586,790Otherincome,net......................................17,79037,62642,277Other-than-temporaryimpairmentcharge.....................22,889——Incomebeforeincometaxes..............................297,041636,381629,067Provisionforincometaxes...............................117,980236,362241,708Netincome..........................................$179,061$400,019$387,359Basicincomepercommonshare...........................$0.87$1.85$1.74Dilutedincomepercommonshare.........................$0.86$1.82$1.70Weightedaveragecommonsharesoutstanding—basic..........205,169216,119222,662Weightedaveragecommonsharesoutstanding—diluted.........207,582220,280228,384RefertoNotestoConsolidatedFinancialStatementslib11021_appB_B0-B42.inddB–1325/07/1012:13PM ConfirmingPagesB–14APPENDIXBAMERICANEAGLEOUTFITTERS,INC.CONSOLIDATEDSTATEMENTSOFCOMPREHENSIVEINCOMEFortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Netincome.............................................$179,061$400,019$387,359Othercomprehensive(loss)income:Temporaryimpairmentrelatedtoinvestmentsecurities,netoftax.....(22,795)——ReclassificationadjustmentforOTTIchargesrealizedinnetincomerelatedtoARS........................................751Reclassificationadjustmentforlossesrealizedinnetincomeduetothesaleofavailable-for-salesecurities,netoftax..................197242356Unrealized(loss)gainoninvestments,netoftax.................(378)947(191)Reclassificationadjustmentforgainrealizedinnetincomerelatedtothetransferofinvestmentsecuritiesfromavailable-for-saleclassificationtotradingclassification,netoftax................——(177)Foreigncurrencytranslationadjustment........................(27,649)12,582(1,180)ReclassificationadjustmentforforeigncurrencylossrealizedinnetincomerelatedtothedispositionofNationalLogisticsServices....——878Othercomprehensive(loss)income...........................(49,874)13,771(314)Comprehensiveincome....................................$129,187$413,790$387,045RefertoNotestoConsolidatedFinancialStatementslib11021_appB_B0-B42.inddB–1425/07/1012:13PM ConfirmingPagesAPPENDIXBB–15AMERICANEAGLEOUTFITTERS,INC.CONSOLIDATEDSTATEMENTSOFSTOCKHOLDERS’EQUITYAccumulatedOtherSharesDeferredComprehensiveOutstandingCommonContributedRetainedTreasuryCompensationIncomeStockholders’(1)StockCapitalEarningsStock(2)Expense(Loss)Equity(Inthousands,exceptpershareamounts)BalanceatJanuary28,2006......221,8972,416369,807978,855(216,513)(1,041)22,0281,155,552Stockawards.................4,5564583,615——1,041—84,701Repurchaseofcommonstockaspartofpubliclyannouncedprograms...(5,250)———(146,485)——(146,485)Repurchaseofcommonstockfromemployees.................(443)———(7,635)——(7,635)Cashpaidforfractionalsharesinthree-for-twostocksplit.........(4)—(113)————(113)Reissuanceoftreasurystock.......528—109(2,348)8,007——5,768Netincome..................———387,359———387,359Othercomprehensiveloss,netoftax..—————(314)(314)Cashdividends($0.28pershare)....———(61,521)———(61,521)BalanceatFebruary3,2007......221,2842,461453,4181,302,345(362,626)—21,7141,417,312AdoptionofFIN48.............———(13,304)(13,304)BalanceatFebruary4,2007......221,2842,461453,4181,289,041(362,626)—21,7141,404,008Stockawards.................1,0922039,977————39,997Repurchaseofcommonstockaspartofpubliclyannouncedprograms...(18,750)———(438,291)——(438,291)Repurchaseofcommonstockfromemployees.................(415)———(12,310)——(12,310)Reissuanceoftreasurystock.......1,269——(6,480)20,546——14,066Netincome..................———400,019—400,019Othercomprehensiveincome,netoftax......................——————13,77113,771Cashdividends($0.38pershare)....———(80,796)———(80,796)BalanceatFebruary2,2008......204,480$2,481$493,395$1,601,784$(792,681)$—$35,485$1,340,464Stockawards.................453420,179420———20,603Repurchaseofcommonstockfromemployees.................(164)———(3,432)——(3,432)Reissuanceoftreasurystock.......512——(4,710)9,313——4,603Netincome..................———179,061———179,061Othercomprehensiveloss,netoftax..——————(49,874)(49,874)Cashdividends($0.40pershare)....———(82,394)———(82,394)BalanceatJanuary31,2009......205,281$2,485$513,574$1,694,161$(786,800)$—$(14,389)$1,409,031AllamountspresentedreflecttheDecember18,2006three-for-twostocksplit.(1)600,000authorized,249,328issuedand205,281outstanding(excluding799sharesofnon-vestedrestrictedstock),$0.01parvaluecommonstockatJanuary31,2009;600,000authorized,248,763issuedand204,480outstanding(excluding687sharesofnon-vestedrestrictedstock),$0.01parvaluecommonstockatFebruary2,2008;and250,000authorized,248,155issuedand221,284outstanding(excluding1,172sharesofnon-vestedrestrictedstock),atFebruary3,2007;TheCompanyhas5,000authorized,withnoneissuedoroutstanding,$0.01parvaluepreferredstockatJanuary31,2009,February2,2008andFebruary3,2007.(2)43,248shares43,596shares,and25,699sharesatJanuary31,2009,February2,2008,andFebruary3,2007,respectively.DuringFiscal2008andFiscal2007,512sharesand1,269shares,respectively,werereissuedfromtreasurystockfortheissuanceofshare-basedpayments.RefertoNotestoConsolidatedFinancialStatementslib11021_appB_B0-B42.inddB–1525/07/1012:13PM ConfirmingPagesB–16APPENDIXBAMERICANEAGLEOUTFITTERS,INC.CONSOLIDATEDSTATEMENTSOFCASHFLOWSFortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Operatingactivities:Netincome.................................................$179,061$400,019$387,359AdjustmentstoreconcilenetincometonetcashprovidedbyoperatingactivitiesDepreciationandamortization..................................133,141110,75389,698Stock-basedcompensation.....................................20,29633,67036,556Provisionfordeferredincometaxes...............................24,469(8,147)(27,572)Taxbenefitfromshare-basedpayments............................1,1217,26025,465Excesstaxbenefitfromshare-basedpayments.......................(693)(6,156)(19,541)Foreigncurrencytransaction(gain)loss............................(1,141)1,221687Lossonimpairmentofassets...................................6,713592—Other-than-temporaryimpairmentcharge...........................22,889——Proceedsfromsaleoftradingsecurities..............................——183,968Changesinassetsandliabilities:Merchandiseinventory........................................(13,735)(19,074)(53,527)Accountsreceivable..........................................(10,094)(5,660)7,448Prepaidexpensesandother.....................................(24,781)(1,334)(4,204)Otherassets,net............................................390(3,242)(5,357)Accountspayable...........................................(3,053)(15,559)32,345Unredeemedgiftcardsandgiftcertificates..........................(11,392)(699)11,623Deferredleasecredits........................................18,8874,6407,791Accruedincomeandothertaxes.................................(20,697)(31,416)43,482Accruedliabilities...........................................(19,188)(2,598)33,047Totaladjustments.............................................123,13264,251361,909Netcashprovidedbyoperatingactivities...........................302,193464,270749,268Investingactivities:Capitalexpenditures.........................................(265,335)(250,407)(225,939)Proceedsfromsaleofassets....................................——12,345Purchaseofavailable-for-salesecurities............................(48,655)(1,772,653)(1,353,339)Saleofavailable-for-salesecurities...............................393,5592,126,891915,952Otherinvestingactivities......................................(1,180)(1,170)(140)Netcashprovidedby(usedfor)investingactivities....................78,389102,661(651,121)Financingactivities:Paymentsonnotepayableandcapitalleases........................(2,177)(1,912)(3,020)Proceedsfromissuanceofnotepayable............................75,000—2,025Repurchaseofcommonstockaspartofpubliclyannouncedprograms......—(438,291)(146,485)Repurchaseofcommonstockfromemployees.......................(3,432)(12,310)(7,635)Cashpaidforfractionalsharesinconnectionwiththree-for-twostocksplit...——(113)Netproceedsfromstockoptionsexercised..........................3,79913,18328,447Excesstaxbenefitfromshare-basedpayments.......................6936,15619,541Cashdividendspaid.........................................(82,394)(80,796)(61,521)Netcashusedforfinancingactivities..............................(8,511)(513,970)(168,761)Effectofexchangeratesoncash..................................(14,790)3,363(178)Netincrease(decrease)incashandcashequivalents...................357,28156,324(70,792)Cashandcashequivalents—beginningofperiod.......................116,06159,737130,529Cashandcashequivalents—endofperiod...........................$473,342$116,061$59,737RefertoNotestoConsolidatedFinancialStatementslib11021_appB_B0-B42.inddB–1625/07/1012:13PM ConfirmingPagesAPPENDIXBB–17AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTSFORTHEYEARENDEDJANUARY31,20091.BusinessOperationsAmericanEagleOutfitters,Inc.,aDelawarecorporation,isaleadingretailerthatoperatesundertheAmericanEagleOutfitters»,aerie»byAmericanEagle,77kidsTMbyamericaneagleandMARTIN+OSA»brands.AmericanEagleOutfittersdesigns,marketsandsellsitsownbrandofhighquality,on-trendclothing,accessoriesandpersonalcareproductsataffordablepriceswhiletargeting15to25year-oldcustomers.TheCompanyopeneditsfirstAmericanEagleOutfittersstoreintheUnitedStatesin1977andexpandedthebrandintoCanadain2001.AmericanEagleOutfittersalsooperatesae.com˛,whichoffersadditionalsizes,colorsandstylesoffavoriteAE»merchandiseandshipsto62countriesaroundtheworld.AE’soriginalcollectionincludesstandardslikejeansandgraphicTs,aswellasessentialslikeaccessories,outerwear,footwear,basicsandswimwearunderourAmericanEagleOutfitters,AmericanEagle˛andAEbrandnames.DuringFiscal2006,AmericanEagleOutfitterslauncheditsnewintimatesbrand,aeriebyAmericanEagle(“aerie”).Theaeriecollectionisavailableinaeriestores,predominantlyallAmericanEaglestoresandataerie.com.ThecollectionoffersDormwear»andintimatescollectionsfortheAE»girl.Designedtobesubtlysexy,comfortableandcozy,theaeriebrandoffersAEcustomersanewwaytoexpresstheirpersonalstyleeveryday,fromthedormroomtothecoffeeshoptotheclassroom.TheCompanyalsointroducedMARTIN+OSA»(“M+O”)duringFiscal2006,aconcepttargeting28to40year-oldwomenandmen,whichoffersRefinedCasualTMclothingandaccessories,designedtobevaluable,irresistible,inspiring,authenticandadventurous.InFiscal2008,MARTIN+OSAbeganofferingmerchandiseonlineatmartinandosa.com.InOctober2008,theCompanylaunchedanewchildren’sapparelbrand,77kidsTMbyamericaneagle(“77kids”).The77kidsbrandoffers“kidcool,”durableclothingandaccessoriesforkidsagestwoto10.Thebranddebutedworldwideonlineat77kids.comduringFiscal2008,withfutureplansforstoresintheU.S.Thefollowingtablesetsforththeapproximateconsolidatedpercentageofnetsalesattributabletoeachmerchandisegroupforeachoftheperiodsindicated:FortheYearsEndedJanuary31,February2,February3,200920082007Men’sapparelandaccessories........................42%38%37%Women’sapparel,accessoriesandintimates.............58%62%63%Total........................................100%100%100%2.SummaryofSignificantAccountingPoliciesPrinciplesofConsolidationTheConsolidatedFinancialStatementsincludetheaccountsoftheCompanyanditswholly-ownedsubsid-iaries.Allintercompanytransactionsandbalanceshavebeeneliminatedinconsolidation.AtJanuary31,2009,theCompanyoperatedinonereportablesegment.FiscalYearTheCompany’sfinancialyearisa52/53weekyearthatendsontheSaturdaynearesttoJanuary31.Asusedherein,“Fiscal2010”and“Fiscal2009”refertothe52weekperiodsendingJanuary29,2011andJanuary30,2010,respectively.“Fiscal2008”and“Fiscal2007”refertothe52weekperiodsendedJanuary31,2009andFebruary2,2008,respectively.“Fiscal2006”referstothe53weekperiodendedFebruary3,2007.“Fiscal2005”and“Fiscal2004”refertothe52weekperiodsendedJanuary28,2006andJanuary29,2005,respectively.lib11021_appB_B0-B42.inddB–1725/07/1012:13PM ConfirmingPagesB–18APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)EstimatesThepreparationoffinancialstatementsinconformitywithaccountingprinciplesgenerallyacceptedintheUnitedStatesofAmericarequiresourmanagementtomakeestimatesandassumptionsthataffectthereportedamountsofassetsandliabilitiesanddisclosureofcontingentassetsandliabilitiesatthedateofthefinancialstatementsandthereportedamountsofrevenuesandexpensesduringthereportingperiod.Actualresultscoulddifferfromthoseestimates.Onanongoingbasis,ourmanagementreviewsitsestimatesbasedoncurrentlyavailableinformation.Changesinfactsandcircumstancesmayresultinrevisedestimates.RecentAccountingPronouncementsInFebruary2008,theFASBissuedStaffPosition(“FSP”)No.FAS157-2,EffectiveDateofFASBStatementNo.157(“FSPNo.FAS157-2”)whichdelaystheeffectivedateofSFASNo.157fornonfinancialassetsandnonfinancialliabilities,exceptforitemsthatarerecognizedordisclosedatfairvalueonarecurringbasis(atleastannually).Foritemswithinitsscope,FSPNo.FAS157-2deferstheeffectivedatetofiscalyearsbeginningafterNovember15,2008.TheCompanywilladoptSFASNo.157-2foritsfinancialassetsandfinancialliabilitiesbeginninginthefirstquarterofFiscal2009.TheadoptionofSFASNo.157fornonfinancialassetsandnonfinancialliabilitieswillnothaveamaterialimpactontheCompany’sConsolidatedFinancialStatements.InJune2008,theFASBissuedFSPEmergingIssuesTaskForce(“EITF”)No.03-6-1,DeterminingWhetherInstrumentsGrantedinShare-BasedPaymentTransactionsAreParticipatingSecurities(“FSPEITFNo.03-6-1”).FSPEITFNo.03-6-1addresseswhetherawardsgrantedinunvestedshare-basedpaymenttransactionsthatcontainnon-forfeitablerightstodividendsordividendequivalents(whetherpaidorunpaid)areparticipatingsecuritiesandthereforeneedtobeincludedincomputingearningspershareunderthetwo-classmethod,asdescribedinSFASNo.128,EarningsPerShare(“SFASNo.128”).ThisFSPwillbeeffectivefortheCompanybeginninginthefirstquarterofFiscal2009andwillbeappliedretrospectivelyinaccordancewiththeFSP.TheadoptionofFSPEITFNo.03-6-1willnothaveamaterialimpactontheCompany’sConsolidatedFinancialStatements.InOctober2008,theFASBissuedFSPFAS157-3,DeterminingtheFairValueofaFinancialAssetinaMarketThatisNotActive(“FSPFAS157-3”).FSPFAS157-3clarifiestheapplicationofSFASNo.157,whenthemarketforafinancialassetisnotactive,specificallyregardingconsiderationofmanagement’sinternalassumptionsinmeasuringfairvaluewhenobservabledataarenotpresent,howobservablemarketinformationfromaninactivemarketshouldbetakenintoaccount,andtheuseofbrokerquotesorpricingservicesinassessingtherelevanceofobservableandunobservabledata.ThisFSPwaseffectiveimmediately.TheCompanyinitiallyconsideredtheguidanceprovidedbyFSPFAS157-3initsdeterminationofestimatedfairvaluesofitsinvestmentportfolioasofNovember1,2008.RefertoNote4totheConsolidatedFinancialStatementsforadditionalinformationregardingthefairvaluemeasurementofourinvestmentportfolio.ForeignCurrencyTranslationTheCanadiandollaristhefunctionalcurrencyfortheCanadianbusiness.InaccordancewithSFASNo.52,ForeignCurrencyTranslation(“SFASNo.52”),assetsandliabilitiesdenominatedinforeigncurrenciesweretranslatedintoU.S.dollars(thereportingcurrency)attheexchangerateprevailingatthebalancesheetdate.RevenuesandexpensesdenominatedinforeigncurrenciesweretranslatedintoU.S.dollarsatthemonthlyaverageexchangeratefortheperiod.Gainsorlossesresultingfromforeigncurrencytransactionsareincludedintheresultsofoperations,whereas,relatedtranslationadjustmentsarereportedasanelementofothercomprehensiveincome(loss)inaccordancewithSFASNo.130,ReportingComprehensiveIncome(RefertoNote9totheConsolidatedFinancialStatements).lib11021_appB_B0-B42.inddB–1825/07/1012:13PM ConfirmingPagesAPPENDIXBB–19AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)FairValueofFinancialInstrumentsSFASNo.107,DisclosuresaboutFairValueofFinancialInstruments(“SFASNo.107”),requiresmanage-menttodisclosetheestimatedfairvalueofcertainassetsandliabilitiesdefinedbySFASNo.107asfinancialinstruments.AtJanuary31,2009,managementbelievesthatthecarryingamountsofcashandcashequivalents,receivablesandpayablesapproximatefairvaluebecauseoftheshortmaturityofthesefinancialinstruments.SFASNo.157,FairValueMeasurements(“SFASNo.157”),definesfairvalue,establishesaframeworkformeasuringfairvalueinaccordancewithaccountingprinciplesgenerallyacceptedintheUnitedStates,andexpandsdisclosuresaboutfairvaluemeasurements.FairvalueisdefinedunderSFASNo.157astheexitpriceassociatedwiththesaleofanassetortransferofaliabilityinanorderlytransactionbetweenmarketparticipantsatthemeasurementdate.TheCompanyhasadoptedtheprovisionsofSFASNo.157asofFebruary3,2008,foritsfinancialinstruments,includingitsinvestmentsecurities.SFASNo.107,whichrequiresdisclosuresaboutthefairvaluesoffinancialinstrumentsforwhichitispracticabletoestimatefairvalue,wasamendedtoincorporatetheSFASNo.157definitionoffairvalue.SFASNo.107disclosurerequirementsapplytofinancialinstrumentsthataremeasuredatfairvalueonarecurringornon-recurringbasisand,therefore,aresubjecttothedisclosurerequirementsofSFASNo.157,andotherfinancialinstrumentsthatarenotsubjecttothosedisclosurerequirements.CashandCashEquivalents,Short-termInvestmentsandLong-termInvestmentsCashincludescashequivalents.TheCompanyconsidersallhighlyliquidinvestmentspurchasedwithamaturityofthreemonthsorlesstobecashequivalents.AsofJanuary31,2009,short-terminvestmentsincludedthepreferredstockequityinvestmentsthattheCompanyreceivedasaresultoftheLehmanbankruptcy,whichtriggeredthedissolutionoftheARPSfromtheirtrusts.Additionally,short-terminvestmentsincludedARPSwhichwillbeliquidatedduringthefirstquarterof2009asaresultoftheLehmanbankruptcy.AsofJanuary31,2009,long-terminvestmentsincludedinvestmentswithremainingmaturitiesofgreaterthan12monthsandconsistedofauctionratesecuritiesclassifiedasavailable-for-salethathaveexperiencedfailedauctionsorhavelong-termauctionresets.Inaddition,long-terminvestmentsincludedARSandARPSthattheCompanycurrentlyintendstoholdforgreaterthanoneyear.TheremainingcontractualmaturitiesofourARSclassifiedaslong-terminvestmentsistwoto39years.Theweightedaveragecontractualmaturityforourlong-terminvestmentsisapproximately25years.UnrealizedgainsandlossesontheCompany’savailable-for-salesecuritiesareexcludedfromearningsandarereportedasaseparatecomponentofstockholders’equity,withinaccumulatedothercomprehensiveincome(loss),untilrealized.Whenavailable-for-salesecuritiesaresold,thecostofthesecuritiesisspecificallyidentifiedandisusedtodetermineanyrealizedgainorloss.TheCompanyevaluatesitsinvestmentsforimpairmentinaccordancewithFSPFAS115-1,TheMeaningofOther-Than-TemporaryImpairmentandItsApplicationtoCertainInvestments(“FSPFAS115-1”).FSPFAS115-1providesguidancefordeterminingwhenaninvestmentisconsideredimpaired,whetherimpairmentisoth-er-than-temporary,andmeasurementofanimpairmentloss.If,afterconsiderationofallavailableevidencetoevaluatetherealizablevalueofitsinvestment,impairmentisdeterminedtobeother-than-temporary,thenanimpairmentlossisrecognizedintheConsolidatedStatementofOperationsequaltothedifferencebetweentheinvestment’scostvalueanditsfairvalue.RefertoNote3totheConsolidatedFinancialStatementsforinformationregardingcashandcashequivalents,short-terminvestmentsandlong-terminvestments.lib11021_appB_B0-B42.inddB–1925/07/1012:13PM ConfirmingPagesB–20APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)MerchandiseInventoryMerchandiseinventoryisvaluedatthelowerofaveragecostormarket,utilizingtheretailmethod.Averagecostincludesmerchandisedesignandsourcingcostsandrelatedexpenses.TheCompanyrecordsmerchandisereceiptsatthetimemerchandiseisdeliveredtotheforeignshippingportbythemanufacturer(FOBport).ThisisthepointatwhichtitleandriskoflosstransfertotheCompany.TheCompanyreviewsitsinventorylevelstoidentifyslow-movingmerchandiseandgenerallyusesmark-downstoclearmerchandise.Additionally,theCompanyestimatesamarkdownreserveforfutureplannedpermanentmarkdownsrelatedtocurrentinventory.Markdownsmayoccurwheninventoryexceedscustomerdemandforreasonsofstyle,seasonaladaptation,changesincustomerpreference,lackofconsumeracceptanceoffashionitems,competition,orifitisdeterminedthattheinventoryinstockwillnotsellatitscurrentlyticketedprice.Suchmarkdownsmayhaveamaterialadverseimpactonearnings,dependingontheextentandamountofinventoryaffected.TheCompanyalsoestimatesashrinkagereservefortheperiodbetweenthelastphysicalcountandthebalancesheetdate.Theestimatefortheshrinkagereservecanbeaffectedbychangesinmerchandisemixandchangesinactualshrinkagetrends.TheCompanysellsend-of-season,overstockandirregularmerchandisetoathirdpartyvendor.Belowisasummaryofmerchandisesell-offspresentedonagrossbasisforFiscal2008,Fiscal2007andFiscal2006.RefertotheRevenueRecognitiondisclosurebelowforadditionalinformationregardingmerchandisesell-offs.FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Proceedsfromsell-offs.............................$38,240$23,775$16,061Marked-downcostofmerchandisedisposedofviasell-offs..$38,012$25,805$22,656PropertyandEquipmentPropertyandequipmentisrecordedonthebasisofcostwithdepreciationcomputedutilizingthestraight-linemethodovertheassets’estimatedusefullives.Theusefullivesofourmajorclassesofassetsareasfollows:Buildings..............................25yearsLeaseholdimprovements..................Lesserof5to10yearsorthetermoftheleaseFixturesandequipment...................3to5yearsInaccordancewithSFASNo.144,AccountingfortheImpairmentorDisposalofLongLivedAssets(“SFASNo.144”),ourmanagementevaluatestheongoingvalueofleaseholdimprovementsandstorefixturesassociatedwithretailstores,whichhavebeenopenlongerthanoneyear.TheCompanyevaluateslong-livedassetsforimpairmentattheindividualstorelevel,whichisthelowestlevelatwhichindividualcashflowscanbeidentified.Impairmentlossesarerecordedonlong-livedassetsusedinoperationswheneventsandcircumstancesindicatethattheassetsmightbeimpairedandtheundiscountedcashflowsestimatedtobegeneratedbythoseassetsarelessthanthecarryingamountsoftheassets.Wheneventssuchastheseoccur,theimpairedassetsareadjustedtotheirestimatedfairvalueandanimpairmentlossisrecordedinselling,generalandadministrativeexpenses.DuringFiscal2008,theCompanyrecordedanassetimpairmentchargeof$6.7millionrelatedprimarilytotheimpairmentoffiveM+Ostores.BasedontheCompany’sreviewoftheoperatingperformanceandprojectionsoffutureperformanceofthesestores,theCompanydeterminedthatthesestoreswouldnotbeabletogeneratesufficientcashflowoverthelifeoftherelatedleasestorecovertheCompany’sinitialinvestmentinthem.DuringFiscal2007,theCompanyrecognizedimpairmentlossesof$0.6million.TheCompanydidnotrecognizeanyimpairmentlossesduringFiscal2006.lib11021_appB_B0-B42.inddB–2025/07/1012:13PM ConfirmingPagesAPPENDIXBB–21AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)WhentheCompanycloses,remodelsorrelocatesastorepriortotheendofitsleaseterm,theremainingnetbookvalueoftheassetsrelatedtothestoreisrecordedasawrite-offofassets.DuringFiscal2008,Fiscal2007andFiscal2006,theCompanyrecorded$4.9million,$6.7millionand$6.1millionrelatedtoassetwrite-offswithindepreciationandamortizationexpense.GoodwillAsofJanuary31,2009,theCompanyhadapproximately$10.7millionofgoodwillcomparedto$11.5millionasofFebruary2,2008.TheCompany’sgoodwillisprimarilyrelatedtotheacquisitionofourimportingoperationsonJanuary31,2000,aswellastheacquisitionofitsCanadianbusinessonNovember29,2000.ThereductioningoodwillisduetothefluctuationintheforeignexchangespotrateatwhichtheCanadiangoodwillistranslated.InaccordancewithSFASNo.142,GoodwillandOtherIntangibleAssets,managementevaluatesgoodwillforpossibleimpairmentonatleastanannualbasis.OtherAssets,NetOtherassets,netconsistprimarilyofassetsrelatedtoourdeferredcompensationplansandtrademarkcosts,netofaccumulatedamortization.Trademarkcostsareamortizedoverfiveto15years.DeferredLeaseCreditsDeferredleasecreditsrepresenttheunamortizedportionofconstructionallowancesreceivedfromlandlordsrelatedtotheCompany’sretailstores.ConstructionallowancesaregenerallycomprisedofcashamountsreceivedbytheCompanyfromitslandlordsaspartofthenegotiatedleaseterms.TheCompanyrecordsareceivableandadeferredleasecreditliabilityattheleasecommencementdate(dateofinitialpossessionofthestore).Thedeferredleasecreditisamortizedonastraight-linebasisasareductionofrentexpenseoverthetermofthelease(includingthepre-openingbuild-outperiod)andthereceivableisreducedasamountsarereceivedfromthelandlord.Self-InsuranceLiabilityTheCompanyisself-insuredforcertainlossesrelatedtoemployeemedicalbenefitsandworker’scompen-sation.Costsforself-insuranceclaimsfiledandclaimsincurredbutnotreportedareaccruedbasedonknownclaimsandhistoricalexperience.Managementbelievesthatithasadequatelyreservedforitsself-insuranceliability,whichiscappedthroughtheuseofstoplosscontractswithinsurancecompanies.However,anysignificantvariationoffutureclaimsfromhistoricaltrendscouldcauseactualresultstodifferfromtheaccruedliability.Co-brandedCreditCardandCustomerLoyaltyProgramInApril2008,theCompanyintroducedanewco-brandedcreditcard(the“AEVisaCard”)andre-launcheditsprivatelabelcreditcard(the“AECreditCard”).Bothofthesecreditcardsareissuedbyathird-partybank(the“Bank”),andtheCompanyhasnoliabilitytotheBankforbaddebtexpense,providedthatpurchasesaremadeinaccordancewiththeBank’sprocedures.TheBankpaysfeestotheCompany,whicharerecordedasrevenue,basedonthenumberofcreditcardaccountsactivatedandoncardusagevolume.OnceacustomerisapprovedtoreceivetheAEVisaCardandthecardisactivated,thecustomeriseligibletoparticipateintheCompany’screditcardrewardsprogram.Undertherewardsprogram,pointsareearnedonpurchasesmadewiththeAEVisaCardatAEandaerie,andatotherretailerswherethecardisaccepted.PointsearnedunderthecreditcardsrewardprogramresultintheissuanceofanAEgiftcardwhenacertainpointthresholdisreached.TheAEgiftcarddoesnotexpire,howeverpointsearnedthathavenotbeenusedtowardstheissuanceofanAEgiftcardexpireafter36monthsofnopurchaseactivity.PointsearnedunderthecreditcardrewardsprogramonpurchasesatAEandaerieareaccountedforinaccordancewithEITFIssueNo.00-21,RevenueArrangementswithMultipleDeliverables(“EITF00-21”).Accordingly,theportionofthesalesrevenueattributedtotheawardpointsisdeferredandrecognizedwhentheawardgiftcardisredeemedorlib11021_appB_B0-B42.inddB–2125/07/1012:13PM ConfirmingPagesB–22APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)whenthepointsexpire.Additionally,creditcardrewardpointsearnedonnon-AEoraeriepurchasesareaccountedforinaccordancewithEITFIssueNo.01-09,AccountingforConsiderationGivenbyaVendortoaCustomer(IncludingaReselleroftheVendor’sProducts)(“EITF01-09”).Asthepointsareearned,acurrentliabilityisrecordedfortheestimatedcostoftheawardgiftcard,andtheimpactofadjustmentsisrecordedincostofsales.TheCompanyalsooffersitscustomerstheAEAll-AccessPass˛(the“Pass”),acustomerloyaltyprogram.UsingthePass,customersaccumulatepointsbasedonpurchaseactivityandearnrewardsbyreachingcertainpointthresholdsduringthree-monthearningperiods.Rewardsearnedduringtheseperiodsarevalidthroughthestatedexpirationdate,whichisapproximatelyonemonthfromthemailingdate.Theserewardscanberedeemedforadiscountonapurchaseofmerchandise.Rewardsnotredeemedduringtheone-monthredemptionperiodareforfeited.TheCompanyhashistoricallyaccountedforthecreditsearnedusingthePassinaccordancewithEITF01-09.However,inconnectionwiththelaunchofthecreditcardrewardsprogram,theCompanydeterminedthatthesecreditsshouldbeaccountedforconsistentlyinaccordancewithEITF00-21.TheeffectofapplyingEITF00-21didnothaveamaterialimpactontheCompany’sConsolidatedFinancialStatements.Accordingly,beginninginFiscal2008,theportionofthesalesrevenueattributedtotheawardcreditsisdeferredandrecognizedwhentheawardcreditsareredeemedorexpire.StockRepurchasesDuringFiscal2007,theCompany’sBoardauthorizedatotalof60.0millionsharesofitscommonstockforrepurchaseunderitssharerepurchaseprogramwithexpirationdatesextendingintoFiscal2010.DuringFiscal2007,theCompanyrepurchased18.7millionsharesaspartofitspubliclyannouncedrepurchaseprogramsforapproximately$438.3million,ataweightedaveragepriceof$23.38pershare.TheCompanydidnotrepurchaseanycommonstockaspartofitspubliclyannouncedrepurchaseprogramduringFiscal2008.AsofMarch25,2009,theCompanyhad41.3millionsharesremainingauthorizedforrepurchase.TheseshareswillberepurchasedattheCompany’sdiscretion.Ofthe41.3millionsharesthatmayyetbepurchasedundertheprogram,theauthorizationrelatingto11.3millionsharesexpiresattheendofFiscal2009andtheauthorizationrelatingto30.0millionsharesexpiresattheendofFiscal2010.DuringFiscal2008andFiscal2007,theCompanyrepurchased0.2millionand0.4millionshares,respectivelyfromcertainemployeesatmarketpricestotaling$3.4millionand$12.3million,respectively.Theseshareswererepurchasedforthepaymentoftaxesinconnectionwiththevestingofshare-basedpayments,aspermittedunderthe2005Plan.Theaforementionedsharerepurchaseshavebeenrecordedastreasurystock.StockSplitOnNovember13,2006,theCompany’sBoardapprovedathree-for-twostocksplit.ThisstocksplitwasdistributedonDecember18,2006,tostockholdersofrecordonNovember24,2006.Allshareamountsandpersharedatapresentedhereinreflectthisstocksplit.IncomeTaxesEffectiveFebruary4,2007,theCompanyadoptedFIN48.FIN48prescribesacomprehensivemodelforrecognizing,measuring,presentinganddisclosinginthefinancialstatementstaxpositionstakenorexpectedtobetakenonataxreturn,includingadecisionwhethertofileornottofileinaparticularjurisdiction.UnderFIN48,ataxbenefitfromanuncertainpositionmayberecognizedonlyifitis“morelikelythannot”thatthepositionissustainablebasedonitstechnicalmerits.RefertoNote12totheConsolidatedFinancialStatementsforfurtherdiscussionoftheadoptionofFIN48.TheCompanycalculatesincometaxesinaccordancewithSFASNo.109,whichrequirestheuseoftheassetandliabilitymethod.Underthismethod,deferredtaxassetsandliabilitiesarerecognizedbasedonthedifferencebetweentheConsolidatedFinancialStatementcarryingamountsofexistingassetsandliabilitiesandtheirrespectivetaxbasesascomputedpursuanttoFIN48.Deferredtaxassetsandliabilitiesaremeasuredusingthelib11021_appB_B0-B42.inddB–2225/07/1012:13PM ConfirmingPagesAPPENDIXBB–23AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)taxrates,basedoncertainjudgmentsregardingenactedtaxlawsandpublishedguidance,ineffectintheyearswhenthosetemporarydifferencesareexpectedtoreverse.Avaluationallowanceisestablishedagainstthedeferredtaxassetswhenitismorelikelythannotthatsomeportionorallofthedeferredtaxesmaynotberealized.Changesinourlevelandcompositionofearnings,taxlawsorthedeferredtaxvaluationallowance,aswellastheresultsoftaxauditsmaymateriallyimpactoureffectivetaxrate.Thecalculationofthedeferredtaxassetsandliabilities,aswellasthedecisiontorecognizeataxbenefitfromanuncertainpositionandtoestablishavaluationallowancerequiremanagementtomakeestimatesandassump-tions.Webelievethatourassumptionsandestimatesarereasonable,althoughactualresultsmayhaveapositiveornegativematerialimpactonthebalancesofdeferredtaxassetsandliabilities,valuationallowances,ornetincome.RevenueRecognitionRevenueisrecordedforstoresalesuponthepurchaseofmerchandisebycustomers.TheCompany’se-commerceoperationrecordsrevenueupontheestimatedcustomerreceiptdateofthemerchandise.Shippingandhandlingrevenuesareincludedinnetsales.SalestaxcollectedfromcustomersisexcludedfromrevenueandisincludedaspartofaccruedincomeandothertaxesontheCompany’sConsolidatedBalanceSheets.Revenueisrecordednetofestimatedandactualsalesreturnsanddeductionsforcouponredemptionsandotherpromotions.TheCompanyrecordstheimpactofadjustmentstoitssalesreturnreservequarterlywithinnetsalesandcostofsales.Thesalesreturnreservereflectsanestimateofsalesreturnsbasedonprojectedmerchandisereturnsdeterminedthroughtheuseofhistoricalaveragereturnpercentages.Asummaryofactivityinthesalesreturnreserveaccountfollows:FortheYearsEndedJanuary31,February2,20092008(Inthousands)Beginningbalance..........................................$4,683$5,998Returns...................................................(81,704)(83,082)Provisions.................................................81,11381,767Endingbalance.............................................$4,092$4,683Revenueisnotrecordedonthepurchaseofgiftcards.Acurrentliabilityisrecordeduponpurchase,andrevenueisrecognizedwhenthegiftcardisredeemedformerchandise.Additionally,theCompanyrecognizesrevenueonunredeemedgiftcardsbasedonanestimateoftheamountsthatwillnotberedeemed(“giftcardbreakage”),determinedthroughhistoricalredemptiontrends.Giftcardbreakagerevenueisrecognizedinpro-portiontoactualgiftcardredemptionsasacomponentofnetsales.ForfurtherinformationonachangeintheCompany’sgiftcardprogram,refertotheGiftCardscaptionbelow.TheCompanysellsend-of-season,overstockandirregularmerchandisetoathirdpartyvendor.ForFiscal2008,theCompanyrecorded$38.2millionofproceedsand$38.0millionofcostofsell-offswithinnetsalesandcostofsales,respectively.ForFiscal2007,theCompanyrecorded$23.8millionofproceedsand$25.8millionofcostofsell-offswithinnetsalesandcostofsales,respectively.ForFiscal2006,theCompanyrecorded$5.3millionofproceedsand$6.5millionofcostofsell-offswithinnetsalesandcostofsales,respectively.DuringthethreemonthsendedOctober28,2006,theCompanybeganclassifyingsell-offsonagrossbasis,withproceedsandcostofsell-offsrecordedinnetsalesandcostofsales,respectively.Priortothistime,theCompanyhadpresentedtheproceedsandcostofsell-offsonanetbasiswithincostofsales.AmountsforthesixmonthsendedJuly29,2006werenotadjustedtoreflectthischangeastheamountsweredeterminedtobeimmaterial.Shippingandhandlingamountsbilledtocustomersarerecordedasrevenue.DuringFiscal2008,Fiscal2007andFiscal2006,theCompanyrecordedshippingandhandlingrevenueof$16.9million,$16.1millionand$17.7million,respectively,innetsales.lib11021_appB_B0-B42.inddB–2325/07/1012:13PM ConfirmingPagesB–24APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)CostofSales,IncludingCertainBuying,OccupancyandWarehousingExpensesCostofsalesconsistsofmerchandisecosts,includingdesign,sourcing,importingandinboundfreightcosts,aswellasmarkdowns,shrinkageandcertainpromotionalcosts.Buying,occupancyandwarehousingcostsconsistof:compensation,employeebenefitexpensesandtravelforourbuyersandcertainseniormerchandisingexecutives;rentandutilitiesrelatedtoourstores,corporateheadquarters,distributioncentersandotherofficespace;freightfromourdistributioncenterstothestores;compensationandsuppliesforourdistributioncenters,includingpurchasing,receivingandinspectioncosts;andshippingandhandlingcostsrelatedtooure-commerceoperation.Selling,GeneralandAdministrativeExpensesSelling,generalandadministrativeexpensesconsistofcompensationandemployeebenefitexpenses,includingsalaries,incentivesandrelatedbenefitsassociatedwithourstoresandcorporateheadquarters.Selling,generalandadministrativeexpensesalsoincludeadvertisingcosts,suppliesforourstoresandhomeoffice,communicationcosts,travelandentertainment,leasingcostsandprofessionalservices.Selling,generalandadministrativeexpensesdonotincludecompensation,employeebenefitexpensesandtravelforourdesign,sourcingandimportingteams,ourbuyersandourdistributioncentersastheseamountsarerecordedincostofsales.AdvertisingCostsCertainadvertisingcosts,includingdirectmail,in-storephotographsandotherpromotionalcostsareexpensedwhenthemarketingcampaigncommences.AsofJanuary31,2009andFebruary2,2008,theCompanyhadprepaidadvertisingexpenseof$2.9millionand$4.5million,respectively.Allotheradvertisingcostsareexpensedasincurred.TheCompanyrecognized$79.7million,$74.9millionand$64.3millioninadvertisingexpenseduringFiscal2008,Fiscal2007andFiscal2006,respectively.DesignCostsTheCompanyhascertaindesigncosts,includingcompensation,rent,depreciation,travel,suppliesandsamples,whichareincludedincostofsalesastherespectiveinventoryissold.StorePre-OpeningCostsStorepre-openingcostsconsistprimarilyofrent,advertising,suppliesandpayrollexpenses.Thesecostsareexpensedasincurred.OtherIncome,NetOtherincome,netconsistsprimarilyofinterestincomeaswellasforeigncurrencytransactiongain/lossandinterestexpense.Other-than-TemporaryImpairmentTheCompanyevaluatesitsinvestmentsforimpairmentinaccordancewithFSPFAS115-1.FSPFAS115-1providesguidancefordeterminingwhenaninvestmentisconsideredimpaired,whetherimpairmentisother-than-temporary,andmeasurementofanimpairmentloss.Aninvestmentisconsideredimpairedifthefairvalueoftheinvestmentislessthanitscarryingvalue.If,afterconsiderationofallavailableevidencetoevaluatetherealizablevalueofitsinvestment,impairmentisdeterminedtobeother-than-temporary,thenanimpairmentlossisrecognizedintheConsolidatedStatementofOperationsequaltothedifferencebetweentheinvestment’scarryingvalueanditsfairvalue.ForFiscal2008,theCompanyrecordedOTTIchargesrelatedtoitsinvestmentsecuritiesof$22.9million.RefertoNotes3and4totheConsolidatedFinancialStatementsforadditionalinformationregardingourOTTIcharges.GiftCardsThevalueofagiftcardisrecordedasacurrentliabilityuponpurchaseandrevenueisrecognizedwhenthegiftcardisredeemedformerchandise.PriortoJuly8,2007,ifagiftcardremainedinactiveforgreaterthan24months,thelib11021_appB_B0-B42.inddB–2425/07/1012:13PM ConfirmingPagesAPPENDIXBB–25AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Companyassessedtherecipientaone-dollarpermonthservicefee,whereallowedbylaw,whichwasautomaticallydeductedfromtheremainingvalueofthecard.Forthosejurisdictionswhereassessingaservicefeewasnotallowablebylaw,theestimatedbreakagewasrecordedinamannerconsistentwiththatdescribedabove,startingafter24monthsofinactivity.Bothgiftcardservicefeesandbreakageestimateswererecordedwithinotherincome,net.OnJuly8,2007,theCompanydiscontinuedassessingaservicefeeonactivegiftcards.Asaresult,theCompanyestimatesgiftcardbreakageandrecognizesrevenueinproportiontoactualgiftcardredemptionsasacomponentofnetsales.TheCompanydeterminesanestimatedgiftcardbreakageratebycontinuouslyevaluatinghistoricalredemptiondataandthetimewhenthereisaremotelikelihoodthatagiftcardwillberedeemed.TheCompanyrecorded$12.2millionofrevenuerelatedtogiftcardbreakageduringFiscal2008.TheCompanyrecorded$13.1millionofrevenuerelatedtogiftcardbreakageduringFiscal2007,whichincludedcumulativebreakagerevenuerelatedtogiftcardsissuedsincetheCompanyintroduceditsgiftcardprogram.PriortoJuly8,2007,theCompanyrecordedgiftcardservicefeeincomeinotherincome,net.TheCompanyrecordedgiftcardservicefeeincomeof$0.8millionand$2.3millioninFiscal2007andFiscal2006,respectively.LegalProceedingsandClaimsTheCompanyissubjecttocertainlegalproceedingsandclaimsarisingoutoftheconductofitsbusiness.InaccordancewithSFASNo.5,AccountingforContingencies,managementrecordsareserveforestimatedlosseswhenthelossisprobableandtheamountcanbereasonablyestimated.Ifarangeofpossiblelossexistsandnoanticipatedlosswithintherangeismorelikelythananyotheranticipatedloss,theCompanyrecordstheaccrualatthelowendoftherange,inaccordancewithFASBInterpretationNo.14,ReasonableEstimationoftheAmountofaLoss—aninterpretationofFASBStatementNo.5.AstheCompanybelievesthatithasprovidedadequatereserves,itanticipatesthattheultimateoutcomeofanymattercurrentlypendingagainsttheCompanywillnotmateriallyaffectthefinancialpositionorresultsofoperationsoftheCompany.SupplementalDisclosuresofCashFlowInformationThetablebelowshowssupplementalcashflowinformationforcashamountspaidduringtherespectiveperiods:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Cashpaidduringtheperiodsfor:Incometaxes....................................$132,234$260,615$204,179Interest.........................................$1,947$—$19Supplementaldisclosureofnon-cashtransactions:Transferofinvestmentsecuritiesfromavailable-for-saletotradingclassification.............................$—$—$180,787lib11021_appB_B0-B42.inddB–2525/07/1012:13PM ConfirmingPagesB–26APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)EarningsPerShareThefollowingtableshowstheamountsusedincomputingearningspershareandtheeffectonnetincomeandtheweightedaveragenumberofsharesofpotentialdilutivecommonstock(stockoptionsandrestrictedstock).FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Netincome.......................................$179,061$400,019$387,359Weightedaveragecommonsharesoutstanding:Basicshares.....................................205,169216,119222,662Dilutiveeffectofstockoptionsandnon-vestedrestrictedstock........................................2,4134,1615,722Dilutedshares...................................207,582220,280228,384Equityawardstopurchase7.6million,2.5millionand1.1millionsharesofcommonstockduringFiscal2008,Fiscal2007andFiscal2006,respectively,wereoutstanding,butwerenotincludedinthecomputationofweightedaveragedilutedcommonshareamountsastheeffectofdoingsowouldhavebeenanti-dilutive.Additionally,forFiscal2008,approximately0.8millionsharesofperformance-basedrestrictedstockwerenotincludedinthecomputationofweightedaveragedilutedcommonshareamounts.ThiswasduetotheCompanynotattainingtheoperatingperformancerequiredforthesharestovestascomparedtothepre-establishedannualperformancegoals.SegmentInformationInaccordancewithSFASNo.131,DisclosuresaboutSegmentsofanEnterpriseandRelatedInformation(“SFASNo.131”),theCompanyhasidentifiedfouroperatingsegments(AmericanEagleBrandU.S.andCanadianretailstores,aeriebyAmericanEagleretailstores,MARTIN+OSAretailstoresandAEODirect)thatreflectthebasisusedinternallytoreviewperformanceandallocateresources.Alloftheoperatingsegmentshavebeenaggregatedandarepresentedasonereportablesegment,aspermittedbySFASNo.131.Thefollowingtablespresentsummarizedgeographicalinformation:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Netsales:UnitedStates................................$2,707,261$2,770,119$2,562,831Foreign(1)..................................281,605285,300231,578Totalnetsales.................................$2,988,866$3,055,419$2,794,409(1)AmountsrepresentsalesfromAmericanEagleandaerieCanadianretailstores,aswellasAEODirectsales,thatarebilledtoand/orshippedtoforeigncountries.January31,February2,20092008(Inthousands)Long-livedassets,net:UnitedStates............................................$708,180$596,715Foreign.................................................42,76640,332Totallong-livedassets,net....................................$750,946$637,047lib11021_appB_B0-B42.inddB–2625/07/1012:13PM ConfirmingPagesAPPENDIXBB–27AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)ReclassificationCertainreclassificationshavebeenmadetotheConsolidatedFinancialStatementsforpriorperiodsinordertoconformtotheFiscal2007presentation,includingunauditedquarterlyfinancialinformation.RefertoNote13totheConsolidatedFinancialStatements.3.CashandCashEquivalents,Short-termInvestmentsandLong-termInvestmentsThefollowingtablesummarizesthefairmarketvalueofourcashandmarketablesecurities,whicharerecordedascashandcashequivalentsontheConsolidatedBalanceSheets,ourshort-terminvestmentsandourlong-terminvestments:January31,2009UnrealizedUnrealizedBalanceHoldingGainsHoldingLosses(Inthousands)Cashandcashequivalents:Cash.....................................$61,355$—$—Money-market..............................411,987——Totalcashandcashequivalents...................$473,342$—$—Short-terminvestments:Preferredstock..............................$6,219$—$—Auctionratepreferredsecurities.................4,292——Totalshort-terminvestments......................$10,511$—$—Long-terminvestments:Student-loanbackedARS......................$169,254$—$(31,446)StateandlocalgovernmentARS.................69,970—(630)Auctionratepreferredsecurities.................11,783—(3,217)Totallong-terminvestments......................$251,007$—$(35,293)Total.......................................$734,860$—$(35,293)February2,2008UnrealizedUnrealizedBalanceHoldingGainsHoldingLosses(Inthousands)Cashandcashequivalents:Cash.....................................$45,422$—$—Money-market..............................70,639——Totalcashandcashequivalents...................$116,061$—$—Short-terminvestments:Student-loanbackedARS......................$248,800$—$—TreasuryandagencyARS......................20,172107—StateandlocalgovernmentARS.................136,16152—Auctionratepreferredsecurities.................98,745—(27)Totalshort-terminvestments......................$503,878$159$(27)Long-terminvestments:TreasuryandagencyARS......................$122,811$526$(61)StateandlocalgovernmentARS.................6,419——Auctionratepreferredsecurities.................36,58065(48)Totallong-terminvestments......................$165,810$591$(109)Total.......................................$785,749$750$(136)lib11021_appB_B0-B42.inddB–2725/07/1012:13PM ConfirmingPagesB–28APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Proceedsfromthesaleofavailable-for-salesecuritieswere$393.6million,$2.127billionand$916.0millionforFiscal2008,Fiscal2007andFiscal2006,respectively.Theseproceedsareoffsetagainstpurchasesof$48.7million,$1.773billionand$1.353billionforFiscal2008,Fiscal2007andFiscal2006,respectively.InadditiontotheOTTIchargediscussedbelowforFiscal2008,theCompanyrecordednetrealizedlossesrelatedtothesaleofavailable-for-salesecuritiesof$1.1million,$0.4millionand$0.6millionforFiscal2008,Fiscal2007andFiscal2006,respectively,inotherincome,net.DuringFiscal2006,theCompanytransferredcertaininvestmentsecuritiesfromavailable-for-saleclassifi-cationtotradingclassification(the“tradingsecurities”).Asaresultofthistransfer,duringFiscal2006areclassificationadjustmentof$(0.3)millionwasrecordedinothercomprehensiveincomerelatedtothegainrealizedinnetincomeatthetimeoftransfer.Asaresultoftradingclassification,theCompanyrealized$3.5millionofcapitalgains,whichwererecordedinotherincome,netduringFiscal2006.ThetradingsecuritiesweresoldduringFiscal2006,atwhichtimetheCompanyreceivedproceedsof$184.0million.AsofJanuary31,2009,theCompanyhadnoinvestmentsclassifiedastradingsecurities.Thefollowingtablespresentthelengthoftimeavailable-for-salesecuritieswereincontinuousunrealizedlosspositionsbutwerenotdeemedtobeother-than-temporarilyimpaired:GreaterthanLessthanorEqual12Monthsto12MonthsGrossUnrealizedGrossUnrealizedHoldingLossesFairValueHoldingLossesFairValue(Inthousands)January31,2009Student-loanbackedARS.................$(31,446)$169,254$—$—StateandlocalgovernmentARS...........(630)69,970——Auctionratepreferredsecurities............(3,217)11,783——Total..................................$(35,293)$251,007$—$—February2,2008Auctionratepreferredsecurities(“ARPS”)....$(75)$19,136$—$—Treasuryandagencysecurities.............(61)18,377——Total..................................$(136)$37,513$—$—AsofJanuary31,2009,wehadatotalof$734.9millionincashandcashequivalents,short-termandlong-terminvestments,whichincluded$255.3millionofinvestmentsinARSand$6.2millionofpreferredsecurities,netof$35.3million($21.8millionnetoftax)oftemporaryimpairmentand$22.9millioninOTTI.Ourshort-termandlong-terminvestmentsconsistofthefollowing:No.ofTemporaryCarryingValueasIssuesParValueImpairmentOTTIofJanuary31,2009(Inthousands,exceptno.ofissuesamount)Auction-ratesecurities(“ARS”):Closed-endmunicipalfundARS...5$41,750$(263)$—$41,487MunicipalBondARS...........528,850(367)—28,483Auctionratepreferredsecurities....529,400(3,217)(10,108)16,075Federally-insuredstudentloanARS......................17166,700(17,283)—149,417Private-insuredstudentloanARS...434,000(14,163)—19,837TotalAuction-ratesecurities........36300,700(35,293)(10,108)255,299PreferredStock..................419,000—(12,781)6,219Total..........................40$319,700$(35,293)$(22,889)$261,518lib11021_appB_B0-B42.inddB–2825/07/1012:13PM ConfirmingPagesAPPENDIXBB–29AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Auctionratepreferredsecurities(“ARPS”)areatypeofARSthathaveanunderlyingassetofperpetualpreferredstock.IntheeventofdefaultorliquidationofthecollateralbytheARSissuerortrustee,theCompanyisentitledtoreceivenon-convertiblepreferredsharesintheARSissuer.LehmanBrothersHoldings,Inc.(“Lehman”)(whichfiledforChapter11bankruptcyprotectionduringSeptember2008)actedasthebrokerandauctionagentforalloftheARPSheldbytheCompany.TheLehmanbankruptcyresultedinthedissolutionoftheinvestmenttrustsformostoftheCompany’sARPS.Asaresult,duringFiscal2008,theCompanyreceivedatotalof760,000preferredsharesoffourcompanies.ForFiscal2008,theCompanyrecordedanOTTIchargeof$12.8millionbasedontheclosingmarketpriceofthepreferredsharesonJanuary30,2009.Furthermore,asaresultoftheLehmanbankruptcy,itisprobablethatthetrustsforthreeadditionalARPSwilldissolveinthefirstquarterof2009.Sinceitisunlikelythattheseinvestmentswillrecoverinvalueinthenearterm,forFiscal2008theCompanyrecordedanOTTIchargerelatedtotheseARPSof$10.1millionbasedontheclosingmarketpricefortheunderlyingpreferredsharesonJanuary30,2009.InadditiontotheOTTIrecorded,asaresultofthecurrentmarketconditions,theCompanyrecordedanettemporaryimpairmentchargeof$35.3millioninconnectionwiththevaluationoftheremainderofitsARSportfolioatJanuary31,2009.Forinstrumentsdeemedtobetemporarilyimpaired,webelievethattheseARSinvestmentscanbeliquidatedthroughsuccessfulauctionsorredemptionsatparorparplusaccruedinterest.Wemaintainourabilityandintenttoholdtheseinvestmentsuntilrecoveryofmarketvalueandbelievethatthecurrentilliquidityandimpairmentoftheseinvestmentsistemporary.Inaddition,webelievethatthecurrentlackofliquidityrelatingtoARSinvestmentswillhavenoimpactonourabilitytofundourongoingoperationsandgrowthinitiatives.WecontinuetomonitorthemarketforARSandconsidertheimpact,ifany,onthefairvalueofitsinvestments.Ifcurrentmarketconditionsdeterioratefurther,ortheanticipatedrecoveryinmarketvaluesdoesnotoccur,wemayberequiredtorecordadditionalOTTIand/ortemporaryimpairment.RefertoNote14totheConsolidatedFinancialStatementsforadditionalinformationregardingasubsequenteventrelatingtoourinvestmentsecurities.4.FairValueMeasurementsSFASNo.157definesfairvalue,establishesaframeworkformeasuringfairvalueinaccordancewithaccountingprinciplesgenerallyacceptedintheUnitedStates,andexpandsdisclosuresaboutfairvaluemeasure-ments.FairvalueisdefinedunderSFASNo.157astheexitpriceassociatedwiththesaleofanassetortransferofaliabilityinanorderlytransactionbetweenmarketparticipantsatthemeasurementdate.TheCompanyhasadoptedtheprovisionsofSFASNo.157asofFebruary3,2008,foritsfinancialinstruments,includingitsinvestmentsecurities.ValuationtechniquesusedtomeasurefairvalueunderSFASNo.157mustmaximizetheuseofobservableinputsandminimizetheuseofunobservableinputs.Inaddition,SFASNo.157establishesathree-tierfairvaluehierarchy,whichprioritizestheinputsusedinmeasuringfairvalue.Thesetiersinclude:•Level1—Quotedpricesinactivemarketsforidenticalassetsorliabilities.Ourshort-terminvestmentswithactivemarkets,whichrepresentourpreferredstockinvestments,aswellascashandcashequivalentsarereportedatfairvalueutilizingLevel1inputs.Fortheseitems,quotedcurrentmarketpricesarereadilyavailable.•Level2—InputsotherthanLevel1thatareobservable,eitherdirectlyorindirectly,suchasquotedpricesforsimilarassetsorliabilities;quotedpricesinmarketsthatarenotactive;orotherinputsthatareobservableorcanbecorroboratedbyobservablemarketdataforsubstantiallythefulltermoftheassetsorliabilities.TheCompanyhasconcludedthattheARPSwithunderlyingsofpubliclytradedpreferredstockthatithaslib11021_appB_B0-B42.inddB–2925/07/1012:13PM ConfirmingPagesB–30APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)classifiedasshorttermrepresentaLevel2valuationandhavebeenvaluedusingthepubliclyavailabletradingpricesoftheunderlyingpreferredsharesasthebasisforitsvaluation.•Level3—Unobservableinputs(i.e.projections,estimates,interpretations,etc.)thataresupportedbylittleornomarketactivityandthataresignificanttothefairvalueoftheassetsorliabilities.TheCompanyhasconcludedthattheARSthatithasclassifiedaslong-termduetofailedauctionsorthathavelong-termauctionresets,aswellasARPSwithunderlyingsofnon-publiclytradedpreferredstock,representaLevel3valuationandshouldbevaluedusingadiscountedcashflowanalysis.Theassumptionsusedinpreparingthediscountedcashflowmodelincludeestimatesforinterestrates,timingandamountofcashflowsandexpectedrecoveryperiodsoftheARS.AsofJanuary31,2009,theCompanyheldcertainassetsthatarerequiredtobemeasuredatfairvalueonarecurringbasis.Theseincludecashequivalentsandshortandlong-terminvestments.InaccordancewithSFASNo.157,thefollowingtablerepresentstheCompany’sfairvaluehierarchyforitsfinancialassets(cashequivalentsandinvestments)measuredatfairvalueonarecurringbasisasofJanuary31,2009:FairValueMeasurementsatJanuary31,2009QuotedMarketCarryingPricesinActiveSignificantAmountasMarketsforSignificantOtherUnobservableofJanuary31,IdenticalAssetsObservableInputsInputs2009(Level1)(Level2)(Level3)(Inthousands)CashandCashEquivalentsCash.....................$61,355$61,355$—$—Money-market..............411,987411,987——Totalcashandcashequivalents...$473,342$473,342$—$—Short-termInvestmentsPreferredstock.............$6,219$6,219$—$—Auctionratepreferredsecurities................4,292—4,292—TotalShort-termInvestments.....$10,511$6,219$4,292$—Long-termInvestmentsStudent-loanbackedARS.....$169,254$—$—$169,254StateandlocalgovernmentARS...................69,970——69,970Auctionratepreferredsecurities................11,783——11,783TotalLong-termInvestments.....$251,007$—$—$251,007Total.......................$734,860$479,561$4,292$251,007Percenttototal...............100.0%65.3%0.6%34.1%TheCompanyusedadiscountedcashflow(“DCF”)modeltovalueitsLevel3investments.TheassumptionsintheCompany’smodelincludeddifferentrecoveryperiodsdependingonthetypeofsecurityandvaryingdiscountfactorsforyieldandilliquidity.Theseassumptionsaresubjective.TheyarebasedontheCompany’scurrentjudgmentanditsviewofcurrentmarketconditions.Theuseofdifferentassumptionswouldresultinadifferentvaluationandrelatedcharge.lib11021_appB_B0-B42.inddB–3025/07/1012:13PM ConfirmingPagesAPPENDIXBB–31AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)AsaresultofthefairvalueanalysisforFiscal2008,theCompanyrecordedanettemporaryimpairmentof$35.3million($21.8million,netoftax).Thisamountwasrecordedinothercomprehensiveincome(“OCI”).TheCompanyalsorecordedOTTIof$22.9millionduringFiscal2008.Thereconciliationofourassetsmeasuredatfairvalueonarecurringbasisusingunobservableinputs(Level3)isasfollows:Level3(UnobservableInputs)StudentLoan-Auction-BackedRateAuction-Auction-RateMunicipalRatePreferredTotalSecuritiesSecuritiesSecurities(Inthousands)CarryingValueatFebruary2,2008...........$—$—$—$—AdditionstoLevel3uponadoptionofSFASNo.157(1)......................340,47584,575212,00043,900Settlements.............................(29,875)(18,575)(11,300)—AdditionstoLevel3(2)....................4,6004,600——TransferoutofLevel3(3)..................(28,900)——(28,900)Gainsandlosses:Reportedinearnings....................————ReportedinOCI.......................(35,293)(630)(31,446)(3,217)BalanceatJanuary31,2009................$251,007$69,970$169,254$11,783(1)RepresentsamountstransferredupontheadoptionofSFASNo.157duringthefirstquarterofFiscal2008.(2)AdditionstoLevel3includesecuritiespreviouslyclassifiedasLevel2,whichweresecuritiesthathadexperiencedpartialcallspriortothefourthquarterof2008andwerepreviouslyvaluedatpar.(3)TransfersoutofLevel3includepreferredsecurities(intoLevel1)andARPS(intoLevel2).ThetransferstoLevel1occurredduetotheCompanyacquiringexchangetradedpreferredsharesasaresultoftheARPStrustsliquidating.ThetransferstoLevel2occurredasaresultofthecompanydeterminingthatitwasmoreappropriatetovaluetheseinvestmentsusingobservablemarketpricesoftheunderlyingsecurities.RefertoNote3totheConsolidatedFinancialStatements.TheOTTIchargeof$22.9millionthatwasreportedinearningswastakenonLevel1andLevel2securitiestransferredfromLevel3.5.AccountsandNoteReceivableAccountsandnotereceivablearecomprisedofthefollowing:January31,February2,20092008(Inthousands)Constructionallowances......................................$11,139$12,284Merchandisesell-offs........................................17,05711,101Interestincome.............................................1,3554,803Marketingcostreimbursements.................................2,363917Creditcardreceivable........................................5,175—Merchandisevendorreceivables................................2,899626Other....................................................1,4832,189Total....................................................$41,471$31,920lib11021_appB_B0-B42.inddB–3125/07/1012:13PM ConfirmingPagesB–32APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)6.PropertyandEquipmentPropertyandequipmentconsistsofthefollowing:January31,February2,20092008(Inthousands)Land...................................................$6,364$6,869Buildings................................................122,414106,632Leaseholdimprovements....................................605,299528,188Fixturesandequipment.....................................536,009427,827Constructioninprogress.....................................28,54321,794$1,298,629$1,091,310Less:Accumulateddepreciationandamortization..................(558,389)(465,742)Netpropertyandequipment..................................$740,240$625,568Depreciationexpenseissummarizedasfollows:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Depreciationexpense..............................$130,802$108,919$87,8697.NotePayableandOtherCreditArrangementsTheCompanyhasborrowingagreementswithtwoseparatefinancialinstitutionsunderwhichitmayborrowanaggregateof$350.0million.Ofthisamount,$150.0millioncanbeusedfordemandletterofcreditfacilitiesand$100.0millioncanbeusedfordemandlineborrowings.Theremaining$100.0millioncanbeusedforeitherlettersofcreditordemandlineborrowingsattheCompany’sdiscretion.AsofJanuary31,2009,theCompanyhadoutstandingdemandlettersofcreditof$57.3millionanddemandlineborrowingsof$75.0million.Theoutstandingamountsonthesefacilitiescanbedemandedforrepaymentbythefinancialinstitutionsatanytime.Additionally,theavailabilityofanyremainingborrowingsissubjecttoacceptancebytherespectivefinancialinstitution.TheaverageborrowingrateonthedemandlinesforFiscal2008was2.9%andtheCompanyhasincorporatedthedemandlineproceedsintoworkingcapital.Thedemandlinefacilitiescomprisingthe$100.0millionborrowingcapacityexpireonApril22,2009.TheCompanyiscurrentlyworkingwithitslenderstorenewthesefacilitiesortoobtaincommittedcreditlinesofacomparableamount.Ifunabletorenewbothofitsdemandlinefacilities,theCompanywouldberequiredtorepayimmediatelythe$75millionthatithasdrawnonthosefacilities.TheCompanybelievesthatthiswouldhavenomaterialimpactonitsabilitytofundoperations.8.LeasesTheCompanyleasesallstorepremises,someofitsofficespaceandcertaininformationtechnologyandofficeequipment.Thestoreleasesgenerallyhaveinitialtermsoftenyears.Mostofthesestoreleasesprovideforbaserentalsandthepaymentofapercentageofsalesasadditionalcontingentrentwhensalesexceedspecifiedlevels.Additionally,mostleasescontainconstructionallowancesand/orrentholidays.Inrecognizinglandlordincentivesandminimumrentexpense,theCompanyamortizesthechargesonastraight-linebasisovertheleaseterm(includingthepre-openingbuild-outperiod).Theseleasesareclassifiedasoperatingleases.lib11021_appB_B0-B42.inddB–3225/07/1012:13PM ConfirmingPagesAPPENDIXBB–33AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Asummaryoffixedminimumandcontingentrentexpenseforalloperatingleasesfollows:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Storerent:Fixedminimum................................$197,820$167,051$145,519Contingent....................................11,76717,62619,138Totalstorerent,excludingcommonareamaintenancecharges,realestatetaxesandcertainotherexpenses......209,587184,677164,657Offices,distributionfacilities,equipmentandother........18,26017,25012,540Totalrentexpense................................$227,847$201,927$177,197Inaddition,theCompanyistypicallyresponsibleunderitsstore,officeanddistributioncenterleasesfortenantoccupancycosts,includingmaintenancecosts,commonareacharges,realestatetaxesandcertainotherexpenses.Thetablebelowsummarizesfutureminimumleaseobligations,consistingoffixedminimumrent,underoperatingleasesineffectatJanuary31,2009:FutureMinimumFiscalyears:LeaseObligations(Inthousands)2009...........................................................$234,0952010...........................................................229,7022011...........................................................212,9012012...........................................................195,2832013...........................................................178,133Thereafter.......................................................720,253Total...........................................................$1,770,367lib11021_appB_B0-B42.inddB–3325/07/1012:13PM ConfirmingPagesB–34APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)9.OtherComprehensiveIncomeTheaccumulatedbalancesofothercomprehensiveincomeincludedaspartoftheConsolidatedStatementsofStockholders’Equityfollow:BeforeTaxAccumulatedOtherTax(Expense)ComprehensiveIncomeAmountBenefit(Loss)(Inthousands)BalanceatJanuary28,2006...................$21,488$540$22,028Unrealizedlossoninvestments..................(276)85(191)Reclassificationadjustmentfornetlossesrealizedinnetincomerelatedtosaleofavailable-for-salesecurities................................578(222)356Reclassificationadjustmentforgainrealizedinnetincomerelatedtothetransferofinvestmentsecuritiesfromavailable-for-saleclassificationtotradingclassification........................(287)110(177)Foreigncurrencytranslationadjustment...........(1,180)—(1,180)ReclassificationadjustmentforlossrealizedinnetincomerelatedtothedispositionofNationalLogisticsServices..........................878—878BalanceatFebruary3,2007...................21,20151321,714Unrealizedgainoninvestments..................1,538(591)947Reclassificationadjustmentfornetlossesrealizedinnetincomerelatedtosaleofavailable-for-salesecurities................................393(151)242Foreigncurrencytranslationadjustment...........12,582—12,582BalanceatFebruary2,2008...................$35,714$(229)$35,485TemporaryimpairmentrelatedtoARS............(36,825)14,030(22,795)ReclassificationadjustmentforlossesrealizedinnetincomerelatedtosaleofARS.................318(121)197ReclassificationadjustmentforOTTIchargesrealizedinnetincomerelatedtoARS.................1,214(463)751Unrealizedlossoninvestments..................(607)229(378)Foreigncurrencytranslationadjustment...........(27,649)—(27,649)BalanceatJanuary31,2009...................$(27,835)$13,446$(14,389)Thecomponentsofaccumulatedothercomprehensiveincomewereasfollows:FortheYearsEndedJanuary31,February2,20092008(Inthousands)Netunrealized(loss)gainonavailable-for-salesecurities,netoftax(1)....$(21,847)$378Foreigncurrencytranslationadjustment...........................7,45835,107Accumulatedothercomprehensive(loss)income....................$(14,389)$35,485(1)Amountsareshownnetoftaxof$13.4millionand$(0.2)millionforFiscal2008andFiscal2007,respectively.lib11021_appB_B0-B42.inddB–3425/07/1012:13PM ConfirmingPagesAPPENDIXBB–35AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)10.Share-BasedPaymentsAtJanuary31,2009,theCompanyhadawardsoutstandingunderthreeshare-basedcompensationplans,whicharedescribedbelow.AtthebeginningofFiscal2006,theCompanyadoptedthefairvaluerecognitionprovisionsofSFASNo.123(R),usingthemodifiedprospectivetransitionmethod.Underthistransitionmethod,share-basedcompensationcostrecognizedincludes:(a)compensationcostforallshare-basedpaymentsgrantedpriorto,butnotyetvestedasofJanuary29,2006,basedonthegrantdatefairvalueestimatedinaccordancewiththeoriginalprovisionsofSFASNo.123and(b)compensationcostforallshare-basedpaymentsgrantedsubsequenttoJanuary29,2006,basedonthegrantdatefairvalueestimatedusingtheBlack-Scholesoptionpricingmodel.TheCompanyrecognizescompensationexpenseforstockoptionawardsandtime-basedrestrictedstockawardsonastraight-linebasisovertherequisiteserviceperiodoftheaward(ortoanemployee’seligibleretirementdate,ifearlier).Performance-basedrestrictedstockawardsarerecognizedascompensationexpensebasedonthefairvalueoftheCompany’scommonstockonthedateofgrant,thenumberofsharesultimatelyexpectedtovestandthevestingperiod.Totalshare-basedcompensationexpenseincludedintheConsolidatedStatementsofOperationsforFiscal2008,Fiscal2007andFiscal2006was$20.3million($12.5million,netoftax),$33.7million($20.7million,netoftax)and$36.6million($22.6million,netoftax),respectively.SFASNo.123(R)requiresrecognitionofcompensationcostunderanon-substantivevestingperiodapproach.Accordingly,theCompanyrecognizescompensationexpenseovertheperiodfromthegrantdatetothedateretirementeligibilityisachieved,ifthatisexpectedtooccurduringthenominalvestingperiod.Additionally,forawardsgrantedtoretirementeligibleemployees,thefullcompensationcostofanawardmustberecognizedimmediatelyupongrant.Share-basedcompensationplans1994StockOptionPlanOnFebruary10,1994,theCompany’sBoardadoptedtheAmericanEagleOutfitters,Inc.1994StockOptionPlan(the“1994Plan”).The1994Planprovidedforthegrantof12.2millionincentiveornon-qualifiedoptionstopurchasecommonstock.The1994Planwassubsequentlyamendedtoincreasethesharesavailableforgrantto24.3millionshares.Additionally,theamendmentprovidedthatthemaximumnumberofoptionsthatmaybegrantedtoanyindividualmaynotexceed8.1millionshares.Theoptionsgrantedunderthe1994PlanwereapprovedbytheCompensationCommitteeoftheBoard,primarilyvestoverfiveyears,andexpiretenyearsfromthedateofgrant.The1994PlanterminatedonJanuary2,2004withallrightsoftheoptioneesandallunexpiredoptionscontinuinginforceandoperationafterthetermination.1999StockIncentivePlanThe1999StockOptionPlan(the“1999Plan”)wasapprovedbythestockholdersonJune8,1999.The1999Planauthorized18.0millionsharesforissuanceintheformofstockoptions,stockappreciationrights,restrictedstockawards,performanceunitsorperformanceshares.The1999Planwassubsequentlyamendedtoincreasethesharesavailableforgrantto33.0million.Additionally,the1999Planprovidedthatthemaximumnumberofsharesawardedtoanyindividualmaynotexceed9.0millionshares.The1999PlanallowedtheCompensationCommitteetodeterminewhichemployeesandconsultantsreceivedawardsandthetermsandconditionsoftheseawards.The1999Planprovidedforagrantof1,875stockoptionsquarterly(nottobeadjustedforstocksplits)toeachdirectorwhoisnotanofficeroremployeeoftheCompanystartinginAugust2003.TheCompanyceasedmakingthesequarterlystockoptiongrantsinJune2005.Underthisplan,33.2millionnon-qualifiedstockoptionsand6.7millionsharesofrestrictedstockweregrantedtoemployeesandcertainnon-employees(withoutconsideringcancellationstodateofawardsfor7.9millionshares).Approximately33%oftheoptionsgrantedweretovestovereightyearsafterthedateofgrantbutwereacceleratedastheCompanymetannualperformancegoals.Approximately34%oflib11021_appB_B0-B42.inddB–3525/07/1012:13PM ConfirmingPagesB–36APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)theoptionsgrantedunderthe1999Planvestoverthreeyears,23%vestoverfiveyearsandtheremaininggrantsvestoveroneyear.Alloptionsexpireaftertenyears.Performance-basedrestrictedstockwasearnediftheCompanymetestablishedperformancegoals.The1999PlanterminatedonJune15,2005withallrightsoftheawardeesandallunexpiredawardscontinuinginforceandoperationafterthetermination.2005StockAwardandIncentivePlanThe2005StockAwardandIncentivePlan(the“2005Plan”)wasapprovedbythestockholdersonJune15,2005.The2005Planauthorized18.4millionsharesforissuance,ofwhich6.4millionsharesareavailableforfullvalueawardsintheformofrestrictedstockawards,restrictedstockunitsorotherfullvaluestockawardsand12.0millionsharesareavailableforstockoptions,stockappreciationrights,dividendequivalents,performanceawardsorothernon-fullvaluestockawards.The2005Planprovidesthatthemaximumnumberofsharesawardedtoanyindividualmaynotexceed6.0millionsharesperyearplustheamountoftheunusedannuallimitofthepreviousyear.The2005PlanallowstheCompensationCommitteetodeterminewhichemployeesreceiveawardsandthetermsandconditionsoftheseawards.The2005PlanprovidesforgrantstodirectorswhoarenotofficersoremployeesoftheCompany,whicharenottoexceed20,000sharesperyear(nottobeadjustedforstocksplits).ThroughJanuary31,2009,9.1millionnon-qualifiedstockoptions,2.9millionsharesofrestrictedstockand0.2millionsharesofcommonstockhadbeengrantedunderthe2005Plantoemployeesanddirectors(withoutconsideringcancellationstodateofawardsfor2.9millionshares).Approximately99%oftheoptionsgrantedunderthe2005Planvestoverthreeyearsand1%vestoverfiveyears.Optionsweregrantedfortenandseven-yearterms.Approximately97%oftherestrictedstockawardsareperformance-basedandareearnediftheCompanymeetsestablishedperformancegoals.Theremaining3%oftherestrictedstockawardsaretime-basedandvestoverthreeyears.StockOptionGrantsAsummaryoftheCompany’sstockoptionactivityunderallplansforFiscal2008follows:FortheYearEndedJanuary31,2009(1)Weighted-Weighted-AverageAverageRemainingAggregateExerciseContractualIntrinsicOptionsPriceLifeValue(Inyears)(Inthousands)Outstanding—February2,2008..........12,915,576$14.41Granted.............................3,514,653$20.95Exercised(2).........................451,644$8.44Cancelled...........................1,481,851$23.51Outstanding—January31,2009..........14,496,734$15.254.1$14,219Vestedandexpectedtovest—January31,2009.............................14,160,412$15.104.1$14,217Exercisable—January31,2009..........6,261,165$6.742.6$14,208(1)AsofJanuary31,2009,theCompanyhad5.5millionsharesavailableforstockoptiongrants.(2)OptionsexercisedduringFiscal2008rangedinpricefrom$1.98to$19.74.Theweighted-averagegrantdatefairvalueofstockoptionsgrantedduringFiscal2008,Fiscal2007andFiscal2006was$7.16,$10.64,and$7.59,respectively.TheaggregateintrinsicvalueofoptionsexercisedduringFiscal2008,Fiscal2007andFiscal2006was$3.9million,$22.5million,and$73.4million,respectively.Cashreceivedfromtheexerciseofstockoptionsandtheactualtaxbenefitrealizedfromstockoptionexerciseswere$3.8millionlib11021_appB_B0-B42.inddB–3625/07/1012:13PM ConfirmingPagesAPPENDIXBB–37AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)and$1.1million,respectively,forFiscal2008.Cashreceivedfromtheexerciseofstockoptionsandtheactualtaxbenefitrealizedfromstockoptionexerciseswere$13.2millionand$7.3million,respectively,forFiscal2007.ForFiscal2006,cashreceivedfromtheexerciseofstockoptionsandtheactualtaxbenefitrealizedfromstockoptionexerciseswere$28.4millionand$25.5million,respectively.ThefairvalueofstockoptionswasestimatedatthedateofgrantusingaBlack-Scholesoptionpricingmodelwiththefollowingweighted-averageassumptions:FortheYearsEndedJanuary31,February2,February3,Black-ScholesOptionValuationAssumptions200920082007Risk-freeinterestrates(1)...........................2.5%4.5%4.9%Dividendyield...................................1.7%0.9%1.0%VolatilityfactorsoftheexpectedmarketpriceoftheCompany’scommonstock(2)......................44.4%39.2%41.3%Weighted-averageexpectedterm(3)....................4.3years4.4years4.4years(1)BasedontheU.S.Treasuryyieldcurveineffectatthetimeofgrantwithatermconsistentwiththeexpectedlifeofourstockoptions.(2)BasedonacombinationofhistoricalvolatilityoftheCompany’scommonstockandimpliedvolatility.(3)Representstheperiodoftimeoptionsareexpectedtobeoutstanding.TheweightedaverageexpectedoptiontermfortheyearendedJanuary31,2009wasdeterminedbasedonhistoricalexperience.TheweightedaverageexpectedoptiontermsfortheyearsendedFebruary2,2008andFebruary3,2007weredeterminedusingacombinationofthe“simplifiedmethod”forplainvanillaoptionsasallowedbyStaffAccountingBulletinNo.107,Share-BasedPayments(“SABNo.107”),andpastbehavior.The“simplifiedmethod”calculatestheexpectedtermastheaverageofthevestingtermandoriginalcontractualtermoftheoptions.AsofJanuary31,2009,therewas$20.6millionofunrecognizedcompensationexpenserelatedtononvestedstockoptionawardsthatisexpectedtoberecognizedoveraweightedaverageperiodof1.8years.RestrictedStockGrantsUnderthe2005Plan,thefairvalueofrestrictedstockawardsisbasedontheclosingmarketpriceoftheCompany’scommonstockonthedateofgrant.AsummaryoftheactivityoftheCompany’srestrictedstockispresentedinthefollowingtables.FortheYearEndedJanuary31,2009Weighted-AverageGrantTime-BasedRestrictedStockSharesDateFairValueNonvested—February2,2008................................74,500$19.97Granted..................................................——Vested...................................................(18,500)20.25Cancelled................................................(15,000)19.60Nonvested—January31,2009................................41,000$19.97lib11021_appB_B0-B42.inddB–3725/07/1012:13PM ConfirmingPagesB–38APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)FortheYearEndedJanuary31,2009Weighted-AverageGrantPerformance-BasedRestrictedStockSharesDateFairValueNonvested—February2,2008...............................612,575$29.73Granted.................................................878,41521.24Vested..................................................(433,983)29.72Cancelled...............................................(299,195)26.33Nonvested—January31,2009...............................757,812$21.26AsofJanuary31,2009,therewas$0.2millionofunrecognizedcompensationexpenserelatedtononvestedrestrictedstockawardsthatisexpectedtoberecognizedoveraweightedaverageperiodoffourmonths.ThetotalfairvalueofrestrictedstockawardsvestedduringFiscal2008,Fiscal2007andFiscal2006was$9.6million,$32.6millionand$18.9million,respectively.AsofJanuary31,2009,theCompanyhad4.1millionsharesavailableforrestrictedstockawards,restrictedstockunitsorotherfullvaluestockawards.11.RetirementPlanandEmployeeStockPurchasePlanTheCompanymaintainsaprofitsharingand401(k)plan(the“RetirementPlan”).UndertheprovisionsoftheRetirementPlan,full-timeemployeesandpart-timeemployeesareautomaticallyenrolledtocontribute3%oftheir1salaryiftheyhaveattained202yearsofageandhavecompleted60daysofservice.Individualscandeclineenrollmentorcancontributeupto30%oftheirsalarytothe401(k)planonapretaxbasis,subjecttoIRSlimitations.Afteroneyearofservice,theCompanywillmatch100%ofthefirst3%ofpayplusanadditional50%ofthenext3%ofpaythatiscontributedtotheplan.Contributionstotheprofitsharingplan,asdeterminedbytheBoard,arediscretionary.TheCompanyrecognized$6.3million,$6.1millionand$6.9millioninexpenseduringFiscal2008,Fiscal2007andFiscal2006,respectively,inconnectionwiththeRetirementPlan.TheEmployeeStockPurchasePlanisanon-qualifiedplanthatcoversallfull-timeemployeesandpart-timeemployeeswhoareatleast18yearsoldandhavecompleted60daysofservice.Contributionsaredeterminedbytheemployee,withtheCompanymatching15%oftheinvestmentuptoamaximuminvestmentof$100perpayperiod.ThesecontributionsareusedtopurchasesharesofCompanystockintheopenmarket.12.IncomeTaxesThecomponentsofincomebeforeincometaxeswere:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)U.S...........................................$244,629$568,519$561,178Foreign........................................52,41267,86267,889Total..........................................$297,041$636,381$629,067lib11021_appB_B0-B42.inddB–3825/07/1012:13PM ConfirmingPagesAPPENDIXBB–39AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)ThesignificantcomponentsoftheCompany’sdeferredtaxassetsandliabilitieswereasfollows:January31,February2,20092008(Inthousands)Deferredtaxassets:Rent...................................................$22,207$19,307Deferredcompensation.....................................21,49227,448Inventories..............................................14,8289,750Temporaryimpairmentofinvestmentsecurities...................13,446—Foreignandstateincometaxes...............................12,98413,417Other-than-temporaryimpairmentofinvestmentsecurities...........8,721—Taxcredits..............................................4,2172,450Employeecompensationandbenefits...........................3,6779,935Other..................................................10,1589,040Grossdeferredtaxassets......................................111,73091,347Valuationallowance.......................................(12,933)(2,450)Totaldeferredtaxassets......................................$98,797$88,897Deferredtaxliabilities:Propertyandequipment.....................................$(36,641)$(17,655)Prepaidexpenses..........................................(1,708)—Deferredtaxliabilities.......................................$(38,349)$(17,655)Totaldeferredtaxassets,net...................................$60,448$71,242ClassificationintheConsolidatedBalanceSheetCurrentdeferredtaxassets..................................$45,447$47,004Noncurrentdeferredtaxassets................................15,00124,238Totalnetdeferredtaxassets...................................$60,448$71,242ThenetdecreaseindeferredtaxassetsandliabilitieswasprimarilyduetoanincreaseinthedeferredtaxliabilityforpropertyandequipmentrelatedtobonusdepreciationpartiallyoffsetbytheincreaseinthedeferredtaxassetrelatedtothetemporaryimpairmentofcertaininvestmentsecuritiesreflectedinOtherComprehensiveIncome.Significantcomponentsoftheprovisionforincometaxeswereasfollows:FortheYearsEndedJanuary31,February2,February3,200920082007(Inthousands)Current:Federal.......................................$69,592$172,604$213,001Foreigntaxes..................................16,34124,03022,665State.........................................7,57827,98733,614Totalcurrent.....................................93,511224,621269,280Deferred:Federal.......................................21,92710,306(26,141)Foreigntaxes..................................(340)(2,077)2,694State.........................................2,8823,512(4,125)Totaldeferred....................................24,46911,741(27,572)Provisionforincometaxes..........................$117,980$236,362$241,708lib11021_appB_B0-B42.inddB–3925/07/1012:13PM ConfirmingPagesB–40APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Asaresultofadditionaltaxdeductionsrelatedtoshare-basedpayments,taxbenefitshavebeenrecognizedascontributedcapitalforFiscal2008,Fiscal2007,andFiscal2006intheamountsof$1.1million,$7.2millionand$25.5million,respectively.InDecember2004,theFASBissuedStaffPositionNo.FAS109-2,AccountingandDisclosureGuidancefortheForeignEarningsRepatriationProvisionwithintheAmericanJobsCreationActof2004(“FSPNo.109-2”).FSPNo.109-2providesguidancetocompaniestodeterminehowtheAmericanJobsCreationActof2004(the“Act”)affectsacompany’saccountingforthedeferredtaxliabilitiesonun-remittedforeignearnings.TheActprovidesforaspecialone-timedeductionof85%ofcertainforeignearningsthatarerepatriatedandthatmeetcertainrequirements.DuringFiscal2006,theCompanyrepatriated$83.4millionasextraordinarydividendsfromitsCanadiansubsidiaries.Asaresultoftherepatriation,theCompanyrecognizedtotalincometaxexpenseof$4.4million,ofwhich$0.6millionwasrecordedduringFiscal2006and$3.8millionwasrecordedduringFiscal2005.AsofJanuary31,2009,theCompanyhadundistributedearningsfromitsCanadiansubsidiaries.TheCompanydoesnotanticipateanydeferredtaxliabilityassociatedwiththerepatriationoftheseearningsasthetaxontherepatriatedearningswouldbeoffsetbyU.S.foreignincometaxcredits.EffectiveFebruary4,2007,theCompanyadoptedFIN48,whichprescribesacomprehensivemodelforrecognizing,measuring,presentinganddisclosinginthefinancialstatementstaxpositionstakenorexpectedtobetakenonataxreturn,includingadecisionwhethertofileornottofileinaparticularjurisdiction.UnderFIN48,ataxbenefitfromanuncertainpositionmayberecognizedonlyifitis“morelikelythannot”thatthepositionissustainablebasedonitstechnicalmerits.AsaresultofadoptingFIN48,theCompanyrecordedanetliabilityofapproximately$13.3millionforunrecognizedtaxbenefits,whichwasaccountedforasareductiontothebeginningbalanceofretainedearningsasofFebruary4,2007.AsofJanuary31,2009,thegrossamountofunrecognizedtaxbenefitswas$41.1million,ofwhich$23.1millionwouldaffecttheeffectivetaxrateifrecognized.ThegrossamountofunrecognizedtaxbenefitsasofFebruary2,2008was$43.0million,ofwhich$25.2millionwouldaffecttheeffectivetaxrateifrecognized.Thefollowingtablesummarizestheactivityrelatedtoourunrecognizedtaxbenefits:FortheFortheYearEndedYearEndedJanuary31,February2,20092008(Inthousands)Unrecognizedtaxbenefits,beginningofyearbalance................$42,953$39,311Increasesintaxpositionsofpriorperiods.........................2052,562Decreasesintaxpositionsofpriorperiods.........................(1,705)(5,026)Increasesincurrentperiodtaxpositions..........................4,2218,057Settlements................................................(4,529)(1,764)Lapseofstatuteoflimitations..................................(30)(187)Translationadjustment.......................................(35)—Unrecognizedtaxbenefits,endoftheyearbalance..................$41,080$42,953OverthenexttwelvemonthstheCompanybelievesthatitisreasonablypossiblethatunrecognizedtaxbenefitsmaydecreasebyapproximately$18millionduetosettlements,expirationofthestatuteoflimitationsorotherchangesinunrecognizedtaxbenefits.TheCompanyanditssubsidiariesfileincometaxreturnsintheU.S.federaljurisdictionandvariousstateandforeignjurisdictions.TheexaminationoftheCompany’sU.S.federalincometaxreturnsfortaxyearsendedJuly2003toJuly2005weresubstantiallycompletedinJanuary2008.TheInternalRevenueService(“IRS”)examinationhaslib11021_appB_B0-B42.inddB–4025/07/1012:13PM ConfirmingPagesAPPENDIXBB–41AMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)beenresolvedexceptforoneunagreeditem,whichiscurrentlyunderreviewwithIRSAppeals.TheCompanybelievesitsreservesareadequatetocovertheultimateresolutionofthisunagreeditem.AnexaminationoftheJuly2006and2007federaltaxreturnsstartedinthefirstquarterofFiscal2008andremainsinprocess.TheCompanydoesnotanticipatethatanyadjustmentswillresultinamaterialchangetoitsfinancialpositionorresultsofoperations.AllyearspriortoJuly2003arenolongersubjecttoU.S.federalincometaxexaminationsbytaxauthorities.WithrespecttostateandlocaljurisdictionsandcountriesoutsideoftheUnitedStates,withlimitedexceptions,generally,theCompanyanditssubsidiariesarenolongersubjecttoincometaxauditsfortaxyearsbefore2002.Althoughtheoutcomeoftaxauditsisalwaysuncertain,theCompanybelievesthatadequateamountsoftax,interestandpenaltieshavebeenprovidedforanyadjustmentsthatareexpectedtoresultfromtheseyears.TheCompanyhasbeencertifiedtoqualifyfornonrefundableincentivetaxcreditsinKansasforadditionalexpendituresrelatedtotheOttawa,Kansasdistributioncenter.Asaresult,theCompanyhasadeferredtaxassetrelatedtoKansastaxcreditcarryforwardsof$4.2million(netoffederalincometaxes).ThesetaxcreditscanbeutilizedtooffsetfutureKansasincometaxesandwillexpirein10years.TheuseofthesetaxcreditsisdependentuponthelevelofincometaxpaidtoKansasandourmeetingcertainrequirementsinfutureperiods.Duetothecontingenciesrelatedtothefutureuseofthesetaxcredits,webelieveitismorelikelythannotthatthefullbenefitofthisassetwillnotberealizedwithinthecarryforwardperiod.Thus,avaluationallowanceof$3.8million(netoffederalincometaxes)hasbeenrecordedasofJanuary31,2009,ofwhich$1.3millionwasrecordedinFiscal2008and$2.5millionwasrecordedinFiscal2007.TheCompanymayearnadditionaltaxcreditsorchangeitsassessmentofthevaluationallowanceifcertainemploymentandtrainingrequirementsaremet.DuringFiscal2008,theCompanyrecordedavaluationallowanceagainstdeferredtaxassetsarisingfromtheotherthantemporaryimpairmentofcertaininvestmentsecurities.AsofJanuary31,2009,thevaluationallowancerelatedtotheotherthantemporaryimpairmentofcertaininvestmentsecuritiestotaled$8.7million.TheCompanyhasnotrecordedavaluationallowanceonthetemporaryimpairmentoftheinvestmentsecuritiesrecordedinOtherComprehensiveIncome.TheCompanybelievesthistreatmentisconsistentwiththeCompany’sintentandabilitytoholdthedebtsecuritiestorecovery.TheCompanyrecordsaccruedinterestandpenaltiesrelatedtounrecognizedtaxbenefitsinincometaxexpense.AccruedinterestandpenaltiesrelatedtounrecognizedtaxbenefitsincludedintheConsolidatedBalanceSheetwere$11.4millionand$11.2millionasofJanuary31,2009andFebruary2,2008,respectively.DuringFiscal2008and2007,theCompanyrecognizedanimmaterialamountofinterestandpenaltiesintheprovisionforincometaxes.Areconciliationbetweenthestatutoryfederalincometaxrateandtheeffectivetaxratefromcontinuingoperationsfollows:FortheYearsEndedJanuary31,February2,February3,200920082007Federalincometaxrate............................35%35%35%Stateincometaxes,netoffederalincometaxeffect........334Valuationallowanceoninvestmentsecurityimpairment.....3——Taximpactoftaxadvantagedincome..................(1)(1)(1)40%37%38%13.QuarterlyFinancialInformation—UnauditedThesumofthequarterlyEPSamountsmaynotequalthefullyearamountasthecomputationsoftheweightedaveragesharesoutstandingforeachquarterandthefullyeararecalculatedindependently.lib11021_appB_B0-B42.inddB–4125/07/1012:13PM ConfirmingPagesB–42APPENDIXBAMERICANEAGLEOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Fiscal2008QuartersEndedMay3,August2,November1,January31,2008200820082009(Inthousands,exceptpershareamounts)Netsales..............................$640,302$688,815$754,036$905,713Grossprofit............................263,667289,384309,412311,638Netincome............................43,89559,83142,60432,731Incomepercommonshare—basic..........0.210.290.210.16Incomepercommonshare—diluted.........0.210.290.210.16Fiscal2007QuartersEndedMay5,August4,November3,February2,2007200720072008(Inthousands,exceptpershareamounts)Netsales..............................$612,386$703,189$744,443$995,401Grossprofit............................298,459316,447352,917455,315Netincome............................78,77081,34499,426140,479Incomepercommonshare—basic..........0.360.370.460.67Incomepercommonshare—diluted.........0.350.370.450.6614.SubsequentEvent—UnauditedSubsequenttoFiscal2008,theCompanyreceivedanadditional0.6millionpreferredsharesfromthedissolutionofthetruststhatheldtheARPS.SincetheendofFiscal2008,theCompanyliquidatedapproximately1.1millionsharesofitspreferredstockinvestmentsforapproximately$5.8million.Asaresultofthisliquidation,asofMarch25,2009,theCompanyrecordedanincrementallossof$1.9millionduringthefirstquarterofFiscal2009.AsofMarch25,2009,theCompanyheld0.2millionpreferredshares.RefertoNotes3and4totheConsolidatedFinancialStatementsforadditionalinformationonourinvestmentsecurities,includingadescriptionofthesecuritiesandadiscussionoftheuncertaintiesrelatingtotheirliquidity.lib11021_appB_B0-B42.inddB–4225/07/1012:13PM ConfirmingPagesAPPENDIXCUNITEDSTATESSECURITIESANDEXCHANGECOMMISSIONWashington,DC20549FORM10-KFORANNUALANDTRANSITIONREPORTSPURSUANTTOSECTIONS13OR15(d)OFTHESECURITIESEXCHANGEACTOF1934ÈANNUALREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIESEXCHANGEACTOF1934ForthefiscalyearendedJanuary31,2009‘TRANSITIONREPORTPURSUANTTOSECTION13OR15(d)OFTHESECURITIESEXCHANGEACTOF1934ForthetransitionperiodfromtoCommissionFileNo.000-22754URBANOUTFITTERS,INC.(ExactNameofRegistrantasSpecifiedinItsCharter)Pennsylvania23-2003332(StateorOtherJurisdictionof(I.R.S.EmployerIncorporationorOrganization)IdentificationNo.)5000SouthBroadStreet,Philadelphia,PA19112-1495(AddressofPrincipalExecutiveOffices)(ZipCode)Registrant’stelephonenumber,includingareacode:(215)454-5500SecuritiesregisteredpursuanttoSection12(b)oftheAct:TitleofEachClassNameofExchangeonWhichRegisteredCommonShares,$.0001parvalueTheNASDAQGlobalSelectMarketLLCSecuritiesregisteredpursuanttoSection12(g)oftheAct:NoneIndicatebycheckmarkiftheregistrantisawell-knownseasonedissuer,asdefinedinRule405oftheSecuritiesAct.YesÈNo‘IndicatebycheckmarkiftheregistrantisnotrequiredtofilereportspursuanttoSection13orSection15(d)oftheAct.Yes‘NoÈIndicatebycheckmarkwhethertheregistrant(1)hasfiledallreportsrequiredtobefiledbySection13or15(d)oftheSecuritiesExchangeActof1934duringthepreceding12months(orforsuchshorterperiodthattheregistrantwasrequiredtofilesuchreports),and(2)hasbeensubjecttosuchfilingrequirementsforthepast90days.YesÈNo‘IndicatebycheckmarkifdisclosureofdelinquentfilerspursuanttoItem405ofRegulationS-Kisnotcontainedherein,andwillnotbecontained,tothebestofRegistrant’sknowledge,indefinitiveproxyorinformationstatementsincorporatedbyreferenceinPartIIIofthisForm10-KoranyamendmenttothisForm10-K.‘Indicatebycheckmarkwhethertheregistrantisalargeacceleratedfiler,anacceleratedfiler,anon-acceleratedfiler,orasmallerreportingcompany.Seethedefinitionsof“largeacceleratedfiler,”“acceleratedfiler”and“smallerreportingcompany”inRule12b-2oftheExchangeAct.LargeacceleratedfilerÈAcceleratedfiler‘Non-acceleratedfiler‘(Donotcheckifasmallerreportingcompany)Smallerreportingcompany‘Indicatebyacheckmarkwhethertheregistrantisashellcompany(asdefinedinRule12b-2oftheAct).Yes‘NoÈTheaggregatemarketvalueofthevotingandnon-votingcommonequityheldbynon-affiliatescomputedbyreferencetothepriceatwhichthecommonequitywaslastsold,ortheaveragebidandaskedpriceofsuchcommonequity,asofthelastbusinessdayoftheregistrant’smostrecentlycompletedsecondfiscalquarter,was$4,219,837,641.Thenumberofsharesoutstandingoftheregistrant’scommonstockonMarch26,2009was167,729,688.DOCUMENTSINCORPORATEDBYREFERENCECertaininformationrequiredbyItems10,11,12,13and14isincorporatedbyreferenceintoPartIIIhereoffromportionsoftheProxyStatementfortheregistrant’s2009AnnualMeetingofShareholders.C–1lib11021_appC_C1-C31.inddC–125/07/1012:41PM ConfirmingPagesC–2APPENDIXCREPORTOFINDEPENDENTREGISTEREDPUBLICACCOUNTINGFIRMTotheBoardofDirectorsandShareholdersofUrbanOutfitters,Inc.Philadelphia,PennsylvaniaWehaveauditedtheaccompanyingconsolidatedbalancesheetsofUrbanOutfitters,Inc.andsubsidiaries(the“Company”)asofJanuary31,2009and2008,andtherelatedconsolidatedstatementsofincome,shareholders’equity,andcashflowsforeachofthethreeyearsintheperiodendedJanuary31,2009.ThesefinancialstatementsaretheresponsibilityoftheCompany’smanagement.Ourresponsibilityistoexpressanopiniononthesefinancialstatementsbasedonouraudits.WeconductedourauditsinaccordancewiththestandardsofthePublicCompanyAccountingOversightBoard(UnitedStates).Thosestandardsrequirethatweplanandperformtheaudittoobtainreasonableassuranceaboutwhetherthefinancialstatementsarefreeofmaterialmisstatement.Anauditincludesexamining,onatestbasis,evidencesupportingtheamountsanddisclosuresinthefinancialstatements.Anauditalsoincludesassessingtheaccountingprinciplesusedandsignificantestimatesmadebymanagement,aswellasevaluatingtheoverallfinancialstatementpresentation.Webelievethatourauditsprovideareasonablebasisforouropinion.Inouropinion,suchconsolidatedfinancialstatementspresentfairly,inallmaterialrespects,thefinancialpositionofUrbanOutfitters,Inc.andsubsidiariesasofJanuary31,2009and2008,andtheresultsoftheiroperationsandtheircashflowsforeachofthethreeyearsintheperiodendedJanuary31,2009,inconformitywithaccountingprinciplesgenerallyacceptedintheUnitedStatesofAmerica.Wehavealsoaudited,inaccordancewiththestandardsofthePublicCompanyAccountingOversightBoard(UnitedStates),theCompany’sinternalcontroloverfinancialreportingasofJanuary31,2009,basedonthecriteriaestablishedinInternalControl—IntegratedFrameworkissuedbytheCommitteeofSponsoringOrganizationsoftheTreadwayCommissionandourreportdatedMarch31,2009expressedanunqualifiedopinionontheCompany’sinternalcontroloverfinancialreporting./s/DELOITTE&TOUCHELLPPhiladelphia,PennsylvaniaMarch31,2009lib11021_appC_C1-C31.inddC–225/07/1012:41PM ConfirmingPagesAPPENDIXCC–3URBANOUTFITTERS,INC.ConsolidatedBalanceSheets(inthousands,exceptshareandpersharedata)January31,20092008ASSETSCurrentassets:Cashandcashequivalents...................................$316,035$105,271Marketablesecurities.......................................49,94880,127Accountsreceivable,netofallowancefordoubtfulaccountsof$1,229and$966,respectively....................................36,39026,365Inventories...............................................169,698171,925Prepaidexpensesandothercurrentassets.......................46,41246,238Deferredtaxes.............................................5,9193,684Totalcurrentassets.....................................624,402433,610Propertyandequipment,net......................................505,407488,889Marketablesecurities...........................................155,226188,252Deferredincometaxesandotherassets.............................43,97432,040TotalAssets..................................................$1,329,009$1,142,791LIABILITIESANDSHAREHOLDERS’EQUITYCurrentliabilities:Accountspayable..........................................$62,955$74,020Accruedcompensation......................................11,97510,128Accruedexpensesandothercurrentliabilities....................66,22083,230Totalcurrentliabilities..................................141,150167,378Deferredrentandotherliabilities..................................134,084121,982TotalLiabilities.......................................275,234289,360Commitmentsandcontingencies(seeNote11)Shareholders’equity:Preferredshares;$.0001parvalue,10,000,000sharesauthorized,noneissued.................................................——Commonshares;$.0001parvalue,200,000,000sharesauthorized,167,712,088and166,104,615issuedandoutstanding,respectively.............................................1717Additionalpaid-incapital....................................170,166144,204Retainedearnings..........................................901,339701,975Accumulatedothercomprehensive(loss)income.................(17,747)7,235TotalShareholders’Equity...............................1,053,775853,431TotalLiabilitiesandShareholders’Equity...................$1,329,009$1,142,791Theaccompanyingnotesareanintegralpartoftheseconsolidatedfinancialstatements.lib11021_appC_C1-C31.inddC–325/07/1012:41PM ConfirmingPagesC–4APPENDIXCURBANOUTFITTERS,INC.ConsolidatedStatementsofIncome(inthousands,exceptshareandpersharedata)FiscalYearEndedJanuary31,200920082007Netsales....................................$1,834,618$1,507,724$1,224,717Costofsales,includingcertainbuying,distributionandoccupancycosts.........................1,121,140930,952772,796Grossprofit..............................713,478576,772451,921Selling,generalandadministrativeexpenses........414,043351,827287,932Incomefromoperations....................299,435224,945163,989Interestincome...............................11,5049,3906,531Otherincome................................694575353Otherexpenses...............................(2,143)(515)(715)Incomebeforeincometaxes.................309,490234,395170,158Incometaxexpense...........................110,12674,16453,952Netincome..............................$199,364$160,231$116,206Netincomepercommonshare:Basic...................................$1.20$0.97$0.71Diluted.................................$1.17$0.94$0.69Weightedaveragecommonsharesoutstanding:Basic...................................166,793,062165,305,207164,679,786Diluted.................................170,860,605169,640,585168,652,005Theaccompanyingnotesareanintegralpartoftheseconsolidatedfinancialstatements.lib11021_appC_C1-C31.inddC–425/07/1012:41PM ConfirmingPagesAPPENDIXCC–5URBANOUTFITTERS,INC.ConsolidatedStatementsofShareholders’Equity(inthousands,exceptsharedata)AccumulatedOtherCompre-CommonSharesCompre-AdditionalUnearnedhensivehensiveNumberofParPaid-inCompen-RetainedIncomeIncomeSharesValueCapitalsationEarnings(Loss)TotalBalancesasofFebruary1,2006....................164,831,477$16$138,050$(3,905)$426,190$528$560,880Netincome................$116,206————116,206—116,206Foreigncurrencytranslation...3,614—————3,6143,614Unrealizedgainsonmarketablesecurities,netoftax........142—————142142Comprehensiveincome.......$119,962Share-basedcompensation....——3,497———3,497Unearnedcompensationreclass..................——(3,905)3,905———Exerciseofstockoptions......1,375,98616,350———6,351Taxeffectofshareexercises...——5,394———5,394ShareRepurchase...........(1,220,000)—(20,801)———(20,801)BalancesasofJanuary31,2007....................164,987,46317128,586—542,3964,284675,283Netincome................$160,231————160,231—160,231Foreigncurrencytranslation...703—————703703FIN48adjustment...........—————(652)—(652)Unrealizedgainsonmarketablesecurities,netoftax........2,248—————2,2482,248Comprehensiveincome.......$163,182Share-basedcompensation....——3,277———3,277Exerciseofstockoptions......1,117,152—5,000———5,000Taxeffectofshareexercises...——7,341———7,341BalancesasofJanuary31,2008....................166,104,61517144,204—701,9757,235853,431Netincome................$199,364————199,364—199,364Foreigncurrencytranslation...(19,866)—————(19,866)(19,866)Unrealizedlossesonmarketablesecurities,netoftax........(5,116)—————(5,116)(5,116)Comprehensiveincome.......$174,382Share-basedcompensation....——3,637———3,637Exerciseofstockoptions......1,607,473—8,891———8,891Taxeffectofshareexercises...——13,434———13,434BalancesasofJanuary31,2009....................167,712,088$17$170,166$—$901,339$(17,747)$1,053,775Theaccompanyingnotesareanintegralpartoftheseconsolidatedfinancialstatements.lib11021_appC_C1-C31.inddC–525/07/1012:41PM ConfirmingPagesC–6APPENDIXCURBANOUTFITTERS,INC.ConsolidatedStatementsofCashFlows(inthousands)FiscalYearEndedJanuary31,200920082007Cashflowsfromoperatingactivities:Netincome.......................................$199,364$160,231$116,206Adjustmentstoreconcilenetincometonetcashprovidedbyoperatingactivities:Depreciationandamortization...................81,94970,01755,713Provisionfordeferredincometaxes...............(9,351)(2,782)(4,959)Excesstaxbenefitofshare–basedcompensation.....(13,434)(7,341)(5,394)Share-basedcompensationexpense...............3,6373,2773,497Lossondispositionofpropertyandequipment,net...613171,393Changesinassetsandliabilities:Receivables..............................(10,726)(5,462)(6,371)Inventories...............................(272)(17,430)(13,416)Prepaidexpensesandotherassets.............9,210(22,441)6,848Accountspayable,accruedexpensesandotherliabilities..............................(8,868)75,96733,600Netcashprovidedbyoperatingactivities...............251,570254,353187,117Cashflowsfrominvestingactivities:Cashpaidforpropertyandequipment.................(112,553)(115,370)(212,029)Cashpaidformarketablesecurities....................(809,039)(293,633)(182,653)Salesandmaturitiesofmarketablesecurities............864,685220,101193,274Netcashusedininvestingactivities...................(56,907)(188,902)(201,408)Cashflowsfromfinancingactivities:Exerciseofstockoptions............................8,8915,0006,351Excesstaxbenefitofstockoptionexercises.............13,4347,3415,394Sharerepurchases.................................——(20,801)Netcashprovidedby(usedin)financingactivities.......22,32512,341(9,056)Effectofexchangeratechangesoncashandcashequivalents...(6,224)212702Increase(decrease)incashandcashequivalents.............210,76478,004(22,645)Cashandcashequivalentsatbeginningofperiod............105,27127,26749,912Cashandcashequivalentsatendofperiod..................$316,035$105,271$27,267Supplementalcashflowinformation:Cashpaidduringtheyearfor:Incometaxes.....................................$115,040$70,765$52,535Non-cashinvestingactivities—Accruedcapitalexpenditures....................................$6,561$6,645$14,618Theaccompanyingnotesareanintegralpartoftheseconsolidatedfinancialstatements.lib11021_appC_C1-C31.inddC–625/07/1012:41PM ConfirmingPagesAPPENDIXCC–7URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS(inthousands,exceptshareandpersharedata)1.NatureofBusinessUrbanOutfitters,Inc.(the“Company”or“UrbanOutfitters”),whichwasfoundedin1970andoriginallyoperatedbyapredecessorpartnership,wasincorporatedintheCommonwealthofPennsylvaniain1976.TheprincipalbusinessactivityoftheCompanyistheoperationofageneralconsumerproductretailandwholesalebusinesssellingtocustomersthroughvariouschannelsincludingretailstores,threecatalogsandfourwebsites.AsofJanuary31,2009and2008,theCompanyoperated294and245stores,respectively.StoreslocatedintheUnitedStatestotaled270asofJanuary31,2009and229asofJanuary31,2008.OperationsinEuropeandCanadaincluded17storesand7storesasofJanuary31,2009,respectivelyand12storesand4storesasofJanuary31,2008,respectively.Inaddition,theCompany’swholesalesegmentsoldanddistributedappareltoapproximately1,800betterspecialtyretailersworldwide.2.SummaryofSignificantAccountingPoliciesFiscalYear-EndTheCompanyoperatesonafiscalyearendingJanuary31ofeachyear.AllreferencestofiscalyearsoftheCompanyrefertothefiscalyearsendedonJanuary31inthoseyears.Forexample,theCompany’sfiscal2009endedonJanuary31,2009.PrinciplesofConsolidationTheconsolidatedfinancialstatementsincludetheaccountsofUrbanOutfitters,Inc.anditswhollyownedsubsidiaries.Allinter-companytransactionsandaccountshavebeeneliminatedinconsolidation.UseofEstimatesThepreparationoffinancialstatementsinconformitywithaccountingprinciplesgenerallyacceptedintheUnitedStatesrequiresmanagementtomakeestimatesandassumptionsthataffectthereportedamountsofassetsandliabilitiesanddisclosureofcontingentassetsandliabilitiesatthedateofthefinancialstatementsandthereportedamountsofnetsalesandexpensesduringthereportingperiod.Actualresultscoulddifferfromthoseestimates.CashandCashEquivalentsCashandcashequivalentsaredefinedascashandhighlyliquidinvestmentswithmaturitiesoflessthanthreemonthsatthetimeofpurchase.AsofJanuary31,2009and2008,cashandcashequivalentsincludedcashonhand,cashinbanksandmoneymarketaccounts.AsignificantportionoftheCompany’scashheldinmoneymarketaccountsisinsuredundertheFederalGovernment’sTroubledAssetsReliefProgram(“TARP”).lib11021_appC_C1-C31.inddC–725/07/1012:41PM ConfirmingPagesC–8APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)MarketableSecuritiesTheCompany’smarketablesecuritiesmaybeclassifiedaseitherheld-to-maturityoravailable-for-sale.Held-to-maturitysecuritiesrepresentthosesecuritiesthattheCompanyhasboththeintentandabilitytoholdtomaturityandarecarriedatamortizedcost.Interestonthesesecurities,aswellasamortizationofdiscountsandpremiums,isincludedininterestincome.Available-for-salesecuritiesrepresentdebtsecuritiesthatdonotmeettheclassificationofheld-to-maturity,arenotactivelytradedandarecarriedatfairvalue,whichapproximatesamortizedcost.Unrealizedgainsandlossesonthesesecuritiesareexcludedfromearningsandarereportedasaseparatecomponentofshareholders’equityuntilrealized.Whenavailable-for-salesecuritiesaresold,thecostofthesecuritiesisspecificallyidentifiedandisusedtodeterminetherealizedgainorloss.Securitiesclassifiedascurrenthavematuritydatesoflessthanoneyearfromthebalancesheetdate.Securitiesclassifiedaslong-termhavematuritydatesgreaterthanoneyearfromthebalancesheetdate.AvailableforsalesecuritiessuchasARSthatfailatauctionanddonotliquidateundernormalcourseareclassifiedaslongtermassets,anysuccessfulauctionswouldbeclassifiedascurrentassets.MarketablesecuritiesasofJanuary31,2009and2008wereclassifiedasavailable-for-sale.Approximately7%oftheCompany’scash,cashequivalentsandmarketablesecuritiesareinvestedin“A”orbetterratedAuctionRateSecurities(“ARS”)thatrepresentinterestsinmunicipalandstudentloanrelatedcollateralizeddebtobligations,allofwhichareguaranteedbyeithergovernmentagenciesand/orinsuredbyprivateinsuranceagenciesat97%orgreaterofparvalue.TheCompany’sARShadafairvalueof$38.7millionasofJanuary31,2009and$95.2millionasofJanuary31,2008.Asofandsubsequenttotheendofthecurrentfiscalyear,alloftheARSheldbytheCompanyfailedtoliquidateatauctionduetoalackofmarketdemand.LiquidityfortheseARSistypicallyprovidedbyanauctionprocessthatresetstheapplicableinterestrateatpre-determinedintervals,usually7,28,35or90days.Theprincipalassociatedwiththesefailedauctionswillnotbeavailableuntilasuccessfulauctionoccurs,thebondiscalledbytheissuer,abuyerisfoundfromoutsidetheauctionprocess,orthedebtobligationreachesitsmaturity.Basedonreviewofcreditquality,collateralization,finalstatedmaturity,estimatesoftheprobabilityofbeingcalledorbecomingilliquidpriortofinalmaturity,redemptionsofsimilarARS,previousmarketactivityforsameinvestmentsecurity,impactduetoextendedperiodsofmaximumauctionratesandvaluationmodels,theCompanyhasrecorded$5.3millionoftemporaryimpairmentonitsARSasofJanuary31,2009.TodatetheCompanyhascollectedallinterestreceivableonoutstandingARSwhendueandhavenotbeeninformedbytheissuersthataccruedinterestpaymentsarecurrentlyatrisk.TheCompanyhastheabilitytoholdtheinvestmentsuntiltheirmaturity.Asaresultofthecurrentilliquidity,theCompanyhasclassifiedallARSaslongtermassetsundermarketablesecurities.TheCompanycontinuestomonitorthemarketforARSandconsidertheimpact,ifany,onthefairvalueofitsinvestments.TheCompanyalsoincludesdisclosureaboutitsinvestmentsthatareinanunrealizedlosspositionforwhichother-than-temporaryimpairmentshavenotbeenrecognizedinaccordancewiththeEmergingIssuesTaskForce(“EITF”)IssueNo.03-01,“TheMeaningofOther-Than-TemporaryImpairmentanditsApplicationstoCertainInvestments”.lib11021_appC_C1-C31.inddC–825/07/1012:41PM ConfirmingPagesAPPENDIXCC–9URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)AccountsReceivableAccountsreceivableprimarilyconsistsofamountsduefromourwholesalecustomersaswellascreditcardreceivables.TheactivityoftheallowancefordoubtfulaccountsfortheyearsendedJanuary31,2009,2008and2007isasfollows:BalanceatBalanceatbeginningofendofyearAdditionsDeductionsyearYearendedJanuary31,2009.....................$966$4,375$(4,112)$1,229YearendedJanuary31,2008.....................$849$2,628$(2,511)$966YearendedJanuary31,2007.....................$445$2,192$(1,788)$849InventoriesInventories,whichconsistprimarilyofgeneralconsumermerchandiseheldforsale,arevaluedatthelowerofcostormarket.Costisdeterminedonthefirst-in,first-outmethodandincludesthecostofmerchandiseandimportrelatedcosts,includingfreight,importtaxesandagentcommissions.Aperiodicreviewofinventoryquantitiesonhandisperformedinordertodetermineifinventoryisproperlystatedatthelowerofcostormarket.Factorsrelatedtocurrentinventoriessuchasfutureconsumerdemandandfashiontrends,currentaging,currentandanticipatedretailmarkdownsorwholesalediscounts,andclassortypeofinventoryareanalyzedtodetermineestimatednetrealizablevalue.CriteriautilizedbytheCompanytoquantifyagingtrendsincludefactorssuchasaveragesellingcycleandseasonalityofmerchandise,thehistoricalrateatwhichmerchandisehassoldbelowcostduringtheaveragesellingcycle,andthevalueandnatureofmerchandisecurrentlypricedbeloworiginalcost.Aprovisionisrecordedtoreducethecostofinventoriestotheestimatednetrealizablevalues,ifappropriate.ThemajorityofinventoryatJanuary31,2009and2008consistedoffinishedgoods.Unfinishedgoodsandwork-in-processwerenotmaterialtotheoverallnetinventoryvalue.PropertyandEquipmentPropertyandequipmentarestatedatcostandprimarilyconsistofstorerelatedleaseholdimprovements,buildingsandfurnitureandfixtures.Depreciationistypicallycomputedusingthestraight-linemethodoverfiveyearsforfurnitureandfixtures,thelesseroftheleasetermorusefullifeforleaseholdimprovements,threetotenyearsforotheroperatingequipmentand39yearsforbuildings.Majorrenovationsorimprovementsthatextendtheservicelivesofourassetsarecapitalizedovertheextensionperiodorlifeoftheimprovement,whicheverisless.TheCompanyreviewslong-livedassetsforpossibleimpairmentwhenevereventsorchangesincircumstancesindicatethecarryingamountmaynotberecoverable.Thisdeterminationincludesevaluationoffactorssuchasfutureassetutilizationandfuturenetundiscountedcashflowsexpectedtoresultfromtheuseoftheassets.ManagementbelievestherehasbeennoimpairmentoftheCompany’slong-livedassetsasofJanuary31,2009.lib11021_appC_C1-C31.inddC–925/07/1012:41PM ConfirmingPagesC–10APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)DeferredRentRentexpensefromleasesisrecordedonastraight-linebasisovertheleaseperiod.Thenetexcessofrentexpenseovertheactualcashpaidisrecordedasdeferredrent.Inaddition,certainstoreleasesprovideforcontingentrentalswhensalesexceedspecifiedbreak-pointlevelsthatareweightedbaseduponhistoricalcyclicality.Forleaseswhereachievementoftheselevelsisconsideredprobablebasedoncumulativeleaseyearrevenueversustheestablishedbreakpointatanygivenpointintime,contingentrentisaccrued.Thisisexpensedinadditiontominimumrentwhichisrecordedonastraight-linebasisovertheleaseperiod.OperatingLeasesTheCompanyleasesitsretailstoresunderoperatingleases.Manyoftheleaseagreementscontainrentholidays,rentescalationclausesandcontingentrentprovisionsorsomecombinationoftheseitems.TheCompanyrecognizesrentexpenseonastraight-linebasisovertheaccountingleaseterm.TheCompanyrecordsrentexpenseonastraight-linebasisovertheleaseperiodcommencingonthedatethatthepremiseisavailablefromthelandlord.TheleaseperiodincludestheconstructionperiodtomaketheleasedspacesuitableforoperatingduringwhichtimetheCompanyisnotpermittedtooccupythespace.Forpurposesofcalculatingstraight-linerentexpense,thecommencementdateoftheleasetermreflectsthedatetheCompanytakespossessionofthebuildingforinitialconstructionandsetup.TheCompanyclassifiestenantimprovementallowancesonitsconsolidatedfinancialstatementswithindeferredrentthatwillbeamortizedasareductionofrentexpenseoverthestraight-lineperiod.Tenantimprovementallowanceactivityispresentedaspartofcashflowsfromoperatingactivitiesintheaccompanyingconsolidatedstatementsofcashflows.RevenueRecognitionRevenueisrecognizedatthepoint-of-saleforretailstoresalesorwhenmerchandiseisshippedtocustomersforwholesaleanddirect-to-consumersales,netofestimatedcustomerreturns.Revenueisrecognizedatthecompletionofajoborserviceforlandscapesales.Revenueispresentedonanetbasisanddoesnotincludeanytaxassessedbyagovernmentalormunicipalauthority.PaymentformerchandiseatstoresandthroughtheCompany’sdirect-to-consumerbusinessistenderedbycash,check,creditcard,debitcardorgiftcard.Therefore,theCompany’sneedtocollectoutstandingaccountsreceivableforitsretailanddirect-to-consumerbusinessisnegligibleandmainlyresultsfromreturnedchecksorunauthorizedcreditcardtransactions.TheCompanymaintainsanallowancefordoubtfulaccountsforitswholesaleandlandscapeserviceaccountsreceivable,whichmanagementreviewsonaregularbasisandbelievesissufficienttocoverpotentialcreditlossesandbillingadjustments.Depositsforcustomordersarerecordedasaliabilityandrecognizedasasaleupondeliveryofthemerchandisetothecustomer.Thesecustomorders,typicallyforupholsteredfurniture,arenotmaterial.Depositsforlandscapeservicesarerecordedasaliabilityandrecognizedasasaleuponcompletionofservice.Landscapeservicesandrelateddepositsarenotmaterial.lib11021_appC_C1-C31.inddC–1025/07/1012:41PM ConfirmingPagesAPPENDIXCC–11URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)TheCompanyaccountsforagiftcardtransactionbyrecordingaliabilityatthetimethegiftcardisissuedtothecustomerinexchangeforconsiderationfromthecustomer.AliabilityisestablishedandremainsontheCompany’sbooksuntilthecardisredeemedbythecustomer,atwhichtimetheCompanyrecordstheredemptionofthecardformerchandiseasasaleorwhenitisdeterminedthelikelihoodofredemptionisremote.TheCompanydeterminestheprobabilityofthegiftcardsbeingredeemedtoberemotebasedonhistoricalredemptionpatterns.Revenuesattributabletogiftcardliabilitiesrelievedafterthelikelihoodofredemptionbecomesremoteareincludedinsalesandarenotmaterial.TheCompany’sgiftcardsdonotexpire.SalesReturnReserveTheCompanyrecordsareserveforestimatedproductreturnswherethesalehasoccurredduringtheperiodreported,butthereturnislikelytooccursubsequenttotheperiodreportedandmayotherwisebeconsideredin-transit.Thereserveforestimatedin-transitproductreturnsisbasedontheCompany’smostrecenthistoricalreturntrends.IftheactualreturnrateorexperienceismateriallyhigherthantheCompany’sestimate,additionalsalesreturnswouldberecordedinthefuture.TheactivityofthesalesreturnsreservefortheyearsendedJanuary31,2009,2008and2007isasfollows:BalanceatBalanceatbeginningofendofyearAdditionsDeductionsyearYearendedJanuary31,2009.....................$6,776$28,408$(27,637)$7,547YearendedJanuary31,2008.....................$8,916$35,952$(38,092)$6,776YearendedJanuary31,2007.....................$6,390$29,376$(26,850)$8,916CostofSales,IncludingCertainBuying,DistributionandOccupancyCostsCostofsales,includingcertainbuying,distributionandoccupancycostsincludesthefollowing:thecostofmerchandise;merchandisemarkdowns;obsolescenceandshrink;storeoccupancycostsincludingrentanddepreciation;customershippingexpensefordirect-to-consumerorders;in-boundandoutboundfreight;U.S.Customsrelatedtaxesandduties;inventoryacquisitionandpurchasingcosts;warehousingandhandlingcostsandotherinventoryacquisitionrelatedcosts.Selling,GeneralandAdministrativeExpensesSelling,generalandadministrativeexpensesincludesexpensessuchas(i)directsellingandsellingsupervisoryexpenses;(ii)variouscorporateexpensessuchasinformationsystems,finance,lossprevention,talentacquisition,andexecutivemanagementexpenses;and(iii)otherassociatedgeneralexpenses.ShippingandHandlingFeesandCostsTheCompanyincludesshippingandhandlingrevenuesinnetsalesandshippingandhandlingcostsincostofsales.TheCompany’sshippingandhandlingrevenuesconsistofamountsbilledtocustomersforshippingandhandlingmerchandise.Shippingandhandlingcostsincludeshippingsupplies,relatedlaborcostsandthird-partyshippingcosts.lib11021_appC_C1-C31.inddC–1125/07/1012:41PM ConfirmingPagesC–12APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)AdvertisingTheCompanyexpensesthecostsofadvertisingwhentheadvertisingoccurs,exceptfordirect-to-consumeradvertising,whichiscapitalizedandamortizedoveritsexpectedperiodoffuturebenefit.Advertisingcostsprimarilyrelatetoourdirect-to-consumermarketingexpenseswhicharecomposedofcatalogprinting,paper,postageandothercostsrelatedtoproductionofphotographicimagesusedinourcatalogsandonourwebsites.Thesecostsareamortizedovertheperiodinwhichthecustomerrespondstothemarketingmaterialdeterminedbasedonhistoricalcustomerresponsetrendstoasimilarseason’sadvertisement.Amortizationratesarereviewedonaregularbasisduringthefiscalyearandmaybeadjustedifthepredictedcustomerresponseappearsmateriallydifferentthanthehistoricalresponserate.TheCompanyhastheabilitytomeasuretheresponseratetodirectmarketingearlyinthecourseoftheadvertisementbasedonitscustomers’referencetoaspecificcatalogorbyproductplacedandsold.Theaverageamortizationperiodforacatalogorwebpromotionistypicallythreemonths.Ifthereisnoexpectedfuturebenefit,thecostofadvertisingisexpensedwhenincurred.Advertisingcostsreportedasprepaidexpenseswere$2,585and$2,496asofJanuary31,2009and2008,respectively.Advertisingexpenseswere$45,561,$40,828and$35,882forfiscal2009,2008and2007,respectively.Start-upCostsTheCompanyexpensesallstart-upandorganizationcostsasincurred,includingtravel,training,recruiting,salariesandotheroperatingcosts.WebSiteDevelopmentCostsTheCompanycapitalizesapplicablecostsincurredduringtheapplicationandinfrastructuredevelopmentstageandexpensescostsincurredduringtheplanningandoperatingstage.Duringfiscal2009,2008and2007,theCompanydidnotcapitalizeanyinternal-usesoftwaredevelopmentcostsbecausesubstantiallyallcostswereincurredduringtheplanningstage,andcostsincurredduringtheapplicationandinfrastructuredevelopmentstagewerenotmaterial.IncomeTaxesTheCompanyappliesStatementofFinancialAccountingStandards(“SFAS”)No.109,“AccountingforIncomeTaxes,”whichprincipallyutilizesabalancesheetapproachtoprovideforincometaxes.Underthismethod,deferredtaxassetsandliabilitiesarerecognizedfortheexpectedfuturetaxconsequencesofnetoperatinglosscarryforwardsandtemporarydifferencesbetweenthecarryingamountsandthetaxbasesofassetsandliabilities.TheCompanyfilesaconsolidatedUnitedStatesfederalincometaxreturn(seeNote8).TheCompanyadoptedtheprovisionsofFIN48,“AccountingforUncertaintyinIncomeTaxes–anInterpretationofFASBStatementNo.109”onFebruary1,2007.FIN48prescribestherecognitionthresholdandmeasurementattributeforthefinancialstatementrecognitionandmeasurementofuncertaintaxpositionstakenorexpectedtobetakeninataxreturn(seeNote8).lib11021_appC_C1-C31.inddC–1225/07/1012:41PM ConfirmingPagesAPPENDIXCC–13URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)NetIncomePerCommonShareBasicnetincomepercommonshareiscomputedbydividingnetincomeavailabletocommonshareholdersbytheweightedaveragenumberofcommonsharesoutstanding.Dilutednetincomepercommonshareiscomputedbydividingnetincomeavailabletocommonshareholdersbytheweightedaveragenumberofcommonsharesoutstanding,aftergivingeffecttothepotentialdilutionfromtheexerciseofsecurities,suchasstockoptionsandnon-vestedshares,intosharesofcommonstockasifthosesecuritieswereexercised(seeNote10).AccountingforStock-BasedCompensationEffectiveFebruary1,2006,theCompanyadoptedSFASNo.123R,“ShareBasedPayment”,(“SFAS123R”),usingthemodifiedprospectiveapproach.Underthemodifiedprospectiveapproach,theamountofcompensationcostrecognizedincludes:(i)compensationcostforallshare-basedpaymentsgrantedbeforebutnotyetvestedasofJanuary31,2006,basedonthegrantdatefairvalueestimatedinaccordancewiththeprovisionsofSFASNo.123,and(ii)compensationcostforallshare-basedpaymentsgrantedormodifiedsubsequenttoJanuary31,2006,basedontheestimatedfairvalueatthedateofgrantorsubsequentmodificationdateinaccordancewiththeprovisionsofSFAS123R.SFAS123RalsorequiredtheCompanytochangetheclassificationinourconsolidatedstatementofcashflows,ofanyincometaxbenefitsrealizedupontheexerciseofstockoptionsorissuanceofrestrictedshareunitawardsinexcessofthatwhichisassociatedwiththeexpenserecognizedforfinancialreportingpurposes.Theseamountsarepresentedasfinancinginflowsinourconsolidatedstatementofcashflows.PriortoFebruary1,2006theCompanyaccountedforourshare-basedcompensationplansinaccordancewiththeprovisionsofAccountingPrinciplesBoardOpinionNo.25,“AccountingforStockIssuedtoEmployees”,aspermittedbySFAS123,andaccordinglydidnotrecognizecompensationexpenseforstockoptionswithanexercisepriceequaltoorgreaterthanthemarketpriceoftheunderlyingstockatthedateofthegrant(seeNote9).AccumulatedOtherComprehensiveIncomeComprehensiveincomeiscomprisedoftwosubsets—netincomeandothercomprehensiveincome.Amountsinaccumulatedothercomprehensiveincomerelatetoforeigncurrencytranslationadjustmentsandunrealizedgainsorlossesonmarketablesecurities.Theforeigncurrencytranslationadjustmentsarenotadjustedforincometaxesbecausetheseadjustmentsrelatetoindefiniteinvestmentsinnon-U.S.subsidiaries.AsofJanuary31,2009,accumulatedothercomprehensiveincomeconsistedofaforeigncurrencytranslationlossof$14,496.AsofJanuary31,2008,accumulatedothercomprehensiveincomeconsistedofaforeigncurrencytranslationgainof$5,370.AsofJanuary31,2009,othercomprehensiveincomeincludedanunrealizedloss,netoftax,onmarketablesecuritiesof$3,251andasofJanuary31,2008,anunrealizedgainof$1,865,netoftax,onmarketablesecurities.GrossrealizedgainsareincludedinotherincomeandwerenotmaterialtotheCompany’sfinancialstatementsforallthreeyearspresented.lib11021_appC_C1-C31.inddC–1325/07/1012:41PM ConfirmingPagesC–14APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)ForeignCurrencyTranslationThefinancialstatementsoftheCompany’sforeignoperationsaretranslatedintoU.S.dollars.Assetsandliabilitiesaretranslatedatcurrentexchangerateswhileincomeandexpenseaccountsaretranslatedattheaverageratesineffectduringtheyear.Translationadjustmentsarenotincludedindeterminingnetincome,butareincludedinaccumulatedothercomprehensiveincomewithinshareholders’equity.AsofJanuary31,2009,2008and2007,foreigncurrencytranslationadjustmentsresultedinalossof$14,496,andgainsof$5,370and$4,667,respectively.FairValueofFinancialInstrumentsEffectiveFebruary1,2008,theCompanyadoptedtheprovisionsofSFASNo.157,“FairValueMeasurements”(“SFASNo.157”)thatrelatetoitsfinancialassetsandfinancialliabilitiesasdiscussedinNote4.SFASNo.157establishesahierarchythatprioritizesfairvaluemeasurementsbasedonthetypesofinputsusedforthevariousvaluationtechniques(marketapproach,incomeapproachandcostapproach).Management’sassessmentofthesignificanceofaparticularinputtothefairvaluemeasurementrequiresjudgmentandmayaffectthevaluationoffinancialassetsandliabilitiesandtheirplacementwithinthefairvaluehierarchy.ConcentrationofCreditRiskFinancialinstrumentsthatpotentiallysubjecttheCompanytoconcentrationsofcreditriskconsistprincipallyofcash,cashequivalents,marketablesecuritiesandaccountsreceivable.TheCompanymanagesthecreditriskassociatedwithcash,cashequivalentsandmarketablesecuritiesbyinvestinghigh-qualitysecuritiesheldwithreputabletrusteesand,bypolicy,limitingtheamountofcreditexposuretoanyoneissue.TheCompany’sinvestmentpolicyrequiresthatthemajorityofitscash,cashequivalentsandmarketablesecuritiesareinvestedinfederallyinsuredorguaranteedinvestmentvehiclessuchas;moneymarketaccountsuptoapplicableTARPlimits,FDICinsuredcorporatebonds,federalgovernmentagenciesandirrevocablepre-refundedmunicipalbonds.Receivablesfromthird-partycreditcardsareprocessedbyfinancialinstitutions,whicharemonitoredforfinancialstability.TheCompanyperiodicallyevaluatesthefinancialconditionofitswholesalesegmentcustomers.TheCompany’sallowancefordoubtfulaccountsreflectscurrentmarketconditionsandmanagement’sassessmentregardingthelikelihoodofcollectingitsaccountsreceivable.TheCompanymaintainscashaccountsthat,attimes,mayexceedfederallyinsuredlimits.TheCompanyhasnotexperiencedanylossesfrommaintainingcashaccountsinexcessofsuchlimits.Managementbelievesthatitisnotexposedtoanysignificantrisksrelatedtoitscashaccounts.lib11021_appC_C1-C31.inddC–1425/07/1012:41PM ConfirmingPagesAPPENDIXCC–15URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)RecentlyIssuedAccountingPronouncementsInNovember2007,theFinancialAccountingStandardsBoard(“FASB”)issuedSFASNo.141R“BusinessCombinations”(“SFASNo141R”),whichrequiresthatallbusinesscombinationsbeaccountedforbyapplyingtheacquisitionmethod.Undertheacquisitionmethod,theacquirerrecognizesandmeasurestheidentifiableassetsacquired,theliabilitiesassumed,andanycontingentconsiderationandcontractualcontingencies,asawholeattheirfairvalueasoftheacquisitiondate.UnderSFASNo.141R,alltransactioncostsareexpensedasincurred.SFASNo.141RrescindsEITF93-7.UnderEITF93-7,theeffectofanysubsequentadjustmentstouncertaintaxpositionsweregenerallyappliedtogoodwill,exceptforpost-acquisitioninterestonuncertaintaxpositions,whichwasrecognizedasanadjustmenttoincometaxexpense.UnderSFASNo.141R,allsubsequentadjustmentstotheseuncertaintaxpositionsthatotherwisewouldhaveimpactedgoodwillwillberecognizedintheincomestatement.TheguidanceinSFASNo.141RwillbeappliedprospectivelytobusinesscombinationsforwhichtheacquisitiondateisonorafterthebeginningofthefirstannualreportingperiodbeginningafterDecember15,2008.TheCompanydoesnotexpecttheapplicationofSFASNo.141Rtohaveamaterialimpactonourconsolidatedfinancialstatements.InFebruary2007,theFASBissuedSFASNo.159,“TheFairValueOptionforFinancialAssetsandFinancialLiabilities:IncludinganAmendmentofFASBStatementNo.115”(“SFASNo.159”).SFASNo.159providescompanieswithanoptiontoreportselectedfinancialassetsandliabilitiesatfairvalueandrequiresentitiestodisplaythefairvalueofthoseassetsandliabilitiesforwhichtheCompanyhaschosentousefairvalueonthefaceofthebalancesheet.SFASNo.159iseffectiveforfinancialstatementsissuedforfiscalyearsbeginningafterNovember15,2007.EffectiveFebruary1,2008,theCompanyadoptedSFASNo.159andhaselectednottoapplytheprovisionsofSFASNo.159toreportcertainofitsassetsandliabilitiesatfairvalue.InSeptember2006,theFASBissuedSFASNo.157,“FairValueMeasurements.”SFASNo.157definesfairvalue,establishesaframeworkformeasuringfairvalueinU.S.GenerallyAcceptedAccountingPrinciples,andexpandsdisclosuresaboutfairvaluemeasurements.SFASNo.157iseffectiveforfinancialassetsandfinancialliabilitiesinfiscalyearsbeginningafterNovember15,2007andforcertainnonfinancialassetsandcertainnonfinancialliabilitiesinfiscalyearsbeginningafterNovember15,2008.EffectiveFebruary1,2008,wehaveadoptedtheprovisionsofSFASNo.157thatrelatetoourfinancialassetsandfinancialliabilities(seeNote4).WearecurrentlyevaluatingtheimpactoftheprovisionsofSFASNo.157thatrelatetoournonfinancialassetsandnonfinancialliabilities,whichareeffectiveforusasofFebruary1,2009.lib11021_appC_C1-C31.inddC–1525/07/1012:41PM ConfirmingPagesC–16APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)3.MarketableSecuritiesDuringallperiodsshown,marketablesecuritiesareclassifiedasavailable-for-sale.Theamortizedcost,grossunrealizedgains(losses)andfairvaluesofavailable-for-salesecuritiesbymajorsecuritytypeandclassofsecurityasofJanuary31,2009and2008areasfollows:AmortizedUnrealizedUnrealizedFairCostGains(Losses)ValueAsofJanuary31,2009Short-termInvestments:Municipalbonds...........................$15,814$123$—$15,937Mutualfunds..............................5,046——5,046Federalgovernmentagencies.................24,975——24,975Demandnotesandequities...................4,8402(852)3,99050,675125(852)49,948Long-termInvestments:Municipalbonds...........................76,5171,239(10)77,746Auctionrateinstruments(1)..................44,025—(5,283)38,742Federalgovernmentagencies.................25,640—(141)25,499FDICinsuredcorporatebonds................13,318—(79)13,239159,5001,239(5,513)155,226$210,175$1,364$(6,365)$205,174AsofJanuary31,2008Short-termInvestments:Municipalbonds...........................$24,675$142$—$24,817Auctionrateinstruments.....................33,825——33,825Demandnotes.............................21,485——21,48579,985142—80,127Long-termInvestments:Municipalbonds...........................124,1482,729—126,877Auctionrateinstruments(1)..................61,375——61,375185,5232,729—188,252$265,508$2,871—$268,379(1)ARShavebeenclassifiedaslong-termassetsinmarketablesecuritiesintheCompany’sConsolidatedBalanceSheetasofJanuary31,2009and2008duetoARSfailures.Proceedsfromthesaleandmaturitiesofavailable-for-salesecuritieswere$864,685,$220,101and$193,274infiscal2009,2008and2007,respectively.TheCompanyincludedinotherincome,anetrealizedlossof$896duringfiscal2009,anetrealizedgainof$1duringfiscal2008andanetrealizedlossof$8duringfiscal2007.Amortizationofdiscountsandpremiums,net,resultedinchargesof$2,444,$1,734and$1,818forfiscalyears2009,2008,and2007,respectively.lib11021_appC_C1-C31.inddC–1625/07/1012:41PM ConfirmingPagesAPPENDIXCC–17URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)AsofJanuary31,2009,therewereatotalof50issuedsecuritieswithunrealizedlosspositionswithintheCompany’sportfoliowithatotalunrealizedlosspositionof$6,365.Thetotalunrealizedlosspositionduetowrite-downsofARSheldbytheCompanythathaveexperiencedauctionfailureswas$5,283.TheCompanydeemedallofthesesecuritiesastemporarilyimpaired.TheunrealizedlosspositionswereprimarilyduetoauctionfailuresoftheARSheldandfluctuationsinthemarketinterestratesforremainingsecurities.TheCompanybelievesithastheabilitytorealizethefullvalueofalloftheseinvestmentsuponmaturityorredemption.AtJanuary31,2008,therewerenoissuedsecuritieswithanunrealizedlosspositionwithintheCompany’sportfolio.AsofJanuary31,2009,theparvalueofourARSwas$44,025andtheestimatedfairvaluewas$38,742.OurARSportfolioconsistsof“A”orbetterratedARSthatrepresentinterestsinmunicipalandstudentloanrelatedcollateralizeddebtobligations,allofwhichareguaranteedbyeithergovernmentagenciesand/orinsuredbyprivateinsuranceagenciesat97%orgreaterofparvalue.Todate,wehavecollectedallinterestpayableonoutstandingARSwhendueandhavenotbeeninformedbytheissuersthataccruedinterestpaymentsarecurrentlyatrisk.Wehavetheabilitytoholdtheunderlyingsecuritiesuntiltheirmaturity.4.FairValueofFinancialAssetsandFinancialLiabilitiesEffectiveFebruary1,2008,theCompanyadoptedtheprovisionsofSFASNo.157thatrelatetoitsfinancialassetsandfinancialliabilities.SFASNo.157establishesahierarchythatprioritizesfairvaluemeasurementsbasedonthetypesofinputsusedforthevariousvaluationtechniques(marketapproach,incomeapproachandcostapproach).Thelevelsofthehierarchyaredescribedasfollows:•Level1:Observableinputssuchasquotedpricesinactivemarketsforidenticalassetsorliabilities.•Level2:Inputsotherthanquotedpricesthatareobservablefortheassetorliability,eitherdirectlyorindirectly;theseincludequotedpricesforsimilarassetsorliabilitiesinactivemarketsandquotedpricesforidenticalorsimilarassetsorliabilitiesinmarketsthatarenotactive.•Level3:Unobservableinputsthatreflectthereportingentity’sownassumptions.lib11021_appC_C1-C31.inddC–1725/07/1012:41PM ConfirmingPagesC–18APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Management’sassessmentofthesignificanceofaparticularinputtothefairvaluemeasurementrequiresjudgmentandmayaffectthevaluationoffinancialassetsandliabilitiesandtheirplacementwithinthefairvaluehierarchy.TheCompany’sfinancialassetsthatareaccountedforatfairvalueonarecurringbasisarepresentedinthetablebelow:MarketableSecuritiesFairValueasofJanuary31,2009Level1Level2Level3TotalAssets:Municipalbonds..............................$—$93,683$—$93,683Mutualfunds.................................5,046——5,046Auctionratesecurities.........................——38,74238,742Federalgovernmentagencies....................50,474——50,474FDICinsuredcorporatebonds...................13,239——13,239Demandnotesandequities......................9883,002—3,990$69,747$96,685$38,742$205,174Level1assetsconsistoffinancialinstrumentswhosevaluehasbeenbasedonquotedmarketpricesforidenticalfinancialinstrumentsinanactivemarket.Level2assetsconsistoffinancialinstrumentswhosevaluehasbeenbasedonquotedpricesforsimilarassetsandliabilitiesinactivemarketsaswellasquotedpricesforidenticalorsimilarassetsorliabilitiesinmarketsthatarenotactive.Level3consistsoffinancialinstrumentswheretherewasnoactivemarketasofJanuary31,2009.AsofJanuary31,2009alloftheCompany’slevel3financialinstrumentsconsistedoffailedARSofwhichtherewasinsufficientobservablemarketinformationtodeterminefairvalue.TheCompanyestimatedthefairvaluesforthesesecuritiesbyincorporatingassumptionsthatmarketparticipantswoulduseintheirestimatesoffairvalue.Someoftheseassumptionsincludedcreditquality,collateralization,finalstatedmaturity,estimatesoftheprobabilityofbeingcalledorbecomingliquidpriortofinalmaturity,redemptionsofsimilarARS,previousmarketactivityforthesameinvestmentsecurity,impactduetoextendedperiodsofmaximumauctionratesandvaluationmodels.Asaresultofthisreview,theCompanydetermineditsARStohaveatemporaryimpairmentof$5,283asofJanuary31,2009.Theestimatedfairvaluescouldchangesignificantlybasedonfuturemarketconditions.TheCompanywillcontinuetoassessthefairvalueofitsARSforsubstantivechangesinrelevantmarketconditions,changesinitsfinancialconditionorotherchangesthatmayalteritsestimatesdescribedabove.FailedARSrepresentapproximately7.4%oftheCompany’stotalcash,cashequivalentsandmarketablesecurities.lib11021_appC_C1-C31.inddC–1825/07/1012:41PM ConfirmingPagesAPPENDIXCC–19URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)BelowisareconciliationofthebeginningandendingARSsecuritiesbalancesthattheCompanyvaluedusingaLevel3valuationforthefiscalyearendedJanuary31,2009.FiscalYearEndedJanuary31,2009Balanceatbeginningofperiod..................................$61,375Total(losses)realized/unrealized:Includedinearnings..................................(2,880)Includedinothercomprehensiveincome..................(5,283)Purchases,issuancesandsettlements.........................(17,350)Transfersinand/oroutofLevel3............................2,880EndingBalanceasofJanuary31,2009...........................$38,742Total(losses)fortheperiodincludedinothercomprehensiveincomeattributabletothechangeinunrealized(losses)relatedtoassetsstillheldatreportingdate........................................$(5,283)5.PropertyandEquipmentPropertyandequipmentissummarizedasfollows:January31,20092008Land................................................$543$543Buildings............................................96,20594,547Furnitureandfixtures..................................214,178184,910Leaseholdimprovements................................486,959432,831Otheroperatingequipment..............................48,02138,433Construction-in-progress................................15,45819,796861,364771,060Accumulateddepreciation...............................(355,957)(282,171)Total............................................$505,407$488,889Depreciationexpenseforpropertyandequipmentforfiscalyearsended2009,2008and2007was$79,505,$68,282and$53,895,respectively.lib11021_appC_C1-C31.inddC–1925/07/1012:41PM ConfirmingPagesC–20APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)6.AccruedExpensesandOtherCurrentLiabilitiesAccruedexpensesandothercurrentliabilitiesconsistofthefollowing:January31,20092008Accruedrentsandestimatedpropertytaxes.....................$10,074$8,707Giftcertificatesandmerchandisecredits.......................22,30719,518Accruedconstruction......................................6,2616,629Accruedincometaxes......................................30120,569Accruedsalestaxes........................................5,1744,024Salesreturnreserve.......................................7,5476,018Othercurrentliabilities.....................................14,55617,765Total...............................................$66,220$83,2307.LineofCreditFacilityOnDecember11,2007,theCompanyrenewedandamendeditslineofcreditfacilitywithWachoviaBank,NationalAssociation(the“Line”).TheLineisathree-yearrevolvingcreditfacilitywithanaccordionfeatureallowinganincreaseinavailablecreditupto$100millionattheCompany’sdiscretion,subjecttoasevendayrequestperiod.AsofJanuary31,2009,thecreditlimitundertheLinewas$60million.TheLinecontainsasub-limitforborrowingsbytheCompany’sEuropeansubsidiariesthatareguaranteedbytheCompany.CashadvancesbearinterestatLIBORplus0.50%to1.60%basedontheCompany’sachievementofprescribedadjusteddebtratios.TheLinesubjectstheCompanytovariousrestrictivecovenants,includingmaintenanceofcertainfinancialratiosandcovenantssuchasfixedchargecoverageandadjusteddebt.ThecovenantsalsoincludelimitationsontheCompany’scapitalexpenditures,abilitytorepurchasesharesandthepaymentofcashdividends.AsofJanuary31,2009,therewerenoborrowingsundertheLine.Outstandinglettersofcreditandstand-bylettersofcreditundertheLinetotaledapproximately$35,139asofJanuary31,2009.Theavailablecredit,includingtheaccordionfeatureundertheLinewas$64,861asofJanuary31,2009.TheCompanybelievestherenewedLinewillsatisfyitsletterofcreditneedsthroughfiscal2011.WachoviaBank,NationalAssociationwasacquiredbyWellsFargo,effectiveJanuary1,2009.TheWellsFargoacquisitiondoesnotaffecttheoriginallineagreement.lib11021_appC_C1-C31.inddC–2025/07/1012:41PM ConfirmingPagesAPPENDIXCC–21URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)8.IncomeTaxesThecomponentsofincomebeforeincometaxesareasfollows:FiscalYearEndedJanuary31,200920082007Domestic..............................................$297,747$229,600$161,985Foreign................................................11,7434,7958,173$309,490$234,395$170,158Thecomponentsoftheprovisionforincometaxexpenseareasfollows:FiscalYearEndedJanuary31,200920082007Current:Federal..............................................$103,907$66,000$48,893State................................................15,0379,9368,442Foreign..............................................5331,0101,576119,47776,94658,911Deferred:Federal..............................................(7,917)(2,189)6State................................................(462)(2,499)(2,333)Foreign..............................................(1,128)891284(9,507)(3,797)(2,043)Changeinvaluationallowances..............................1561,015(2,916)$110,126$74,164$53,952TheCompany’seffectivetaxratewasdifferentthanthestatutoryU.S.federalincometaxrateforthefollowingreasons:FiscalYearEndedJanuary31,200920082007ExpectedprovisionatstatutoryU.S.federaltaxrate..............35.0%35.0%35.0%Stateandlocalincometaxes,netoffederaltaxbenefit............2.62.12.3Foreigntaxes.............................................(1.5)0.5(2.3)Federalrehabilitationtaxcredits..............................0(5.0)(2.8)Other...................................................(0.5)(1.0)(0.5)Effectivetaxrate..........................................35.6%31.6%31.7%lib11021_appC_C1-C31.inddC–2125/07/1012:41PM ConfirmingPagesC–22APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)ThesignificantcomponentsofdeferredtaxassetsandliabilitiesasofJanuary31,2009and2008areasfollows:January31,20092008Deferredtaxliabilities:Prepaidexpenses..............................................$(1,407)$(1,977)Depreciation..................................................(17,762)(17,399)Grossdeferredtaxliabilities.........................................(19,169)(19,376)Deferredtaxassets:Deferredrent.................................................47,94542,620Inventories...................................................5,5824,176Accountsreceivable............................................626563Netoperatinglosscarryforwards..................................2,7601,666FIN48......................................................4,3684,090Accruedsalariesandbenefits,andother............................5,5862,553Grossdeferredtaxassets,beforevaluationallowances.....................66,86755,668Valuationallowances...............................................(1,402)(1,246)Netdeferredtaxassets..............................................$46,296$35,046NetdeferredtaxassetsareattributedtothejurisdictionsinwhichtheCompanyoperates.AsofJanuary31,2009and2008,respectively,$32,923and$23,187wereattributabletoU.S.federal,$11,392and$10,815wereattributedtostatejurisdictionsand$1,981and$1,044wereattributedtoforeignjurisdictions.AsofJanuary31,2009,certainnon-U.S.subsidiariesoftheCompanyhadnetoperatinglosscarryforwardsfortaxpurposesofapproximately$7,942thatdonotexpireandcertainU.S.subsidiariesoftheCompanyhadstatenetoperatinglosscarryforwardsfortaxpurposesofapproximately$5,462thatexpirefrom2014through2029.AtJanuary31,2009,TheCompanyhadafullvaluationallowanceforcertainforeignnetoperatinglosscarryforwardswhereitwasuncertainthecarryforwardswouldbeutilized.TheCompanyhadnovaluationallowanceforcertainotherforeignnetoperatinglosscarryforwardswheremanagementbelievesitismorelikelythannotthetaxbenefitofthesecarryforwardswillberealized.AsofJanuary31,2009and2008,thenon-currentportionofnetdeferredtaxassetsaggregated$40,378and$31,362,respectively.ThecumulativeamountoftheCompany’sshareofundistributedearningsofnon-U.S.subsidiariesforwhichnodeferredtaxeshavebeenprovidedwas$53,553asofJanuary31,2009.Theseearningsaredeemedtobepermanentlyre-investedtofinancegrowthprograms.lib11021_appC_C1-C31.inddC–2225/07/1012:41PM ConfirmingPagesAPPENDIXCC–23URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Areconciliationofthebeginningandendingbalancesofthetotalamountsofgrossunrecognizedtaxbenefitsisasfollows:January31,20092008Balanceatthebeginningoftheperiod..........................$7,805$8,717Increasesintaxpositionsforprioryears........................24227Decreasesintaxpositionsforprioryears........................(380)(1,414)Increasesintaxpositionsforcurrentyear.......................838917Settlements...............................................(554)(345)Lapseinstatuteoflimitations.................................(224)(297)Balanceattheendoftheperiod...............................$7,509$7,805Thetotalamountofnetunrecognizedtaxbenefitsthat,ifrecognized,wouldimpacttheCompany’seffectivetaxratewere$6,389and$6,036atJanuary31,2009and2008respectively.TheCompanyaccruesinterestandpenaltiesrelatedtounrecognizedtaxbenefitsinincometaxexpenseintheConsolidatedStatementsofIncome,whichisconsistentwiththerecognitionoftheseitemsinpriorreportingperiods.DuringtheyearsendedJanuary31,2009and2008,theCompanyrecognized$985and$465ininterestandpenalties.TheCompanyhad$3,609and$2,625forthepaymentofinterestandpenaltyaccruedatJanuary31,2009and2008,respectively.TheCompanyfilesincometaxreturnsintheU.S.federaljurisdictionandvariousstateandforeignjurisdictions.TheCompanyiscurrentlyunderexaminationofitsfederalincometaxreturnfortheperiodendedJanuary31,2005.TheCompanyisnotsubjecttoU.S.federaltaxexaminationsforyearsbeforefiscal2004.Statejurisdictionsthatremainsubjecttoexaminationrangefromfiscal2001to2008,withfewexceptions.Itispossiblethattheseexaminationsmayberesolvedwithintwelvemonths.DuetothepotentialforresolutionofFederalandstateexaminations,andtheexpirationofvariousstatutesoflimitation,itisreasonablypossiblethattheCompany’sgrossunrecognizedtaxbenefitsbalancemaychangewithinthenexttwelvemonthsbyarangeofzeroto$2,096.9.Share-BasedCompensationTheCompany’s2008,2004and2000StockIncentivePlanseachauthorizeupto10,000,000commonshares,whichcanbegrantedasrestrictedshares,unrestrictedshares,incentivestockoptions,nonqualifiedstockoptions,performancesharesorasstockappreciationrights.Grantsundertheseplansgenerallyexpiresevenortenyearsfromthedateofgrant,thirtydaysaftertermination,orsixmonthsafterthedateofdeathorterminationduetodisability.Stockoptionsgenerallyvestoveraperiodofthreeorfiveyears,withoptionsbecomingexercisableininstallmentsdeterminedbytheadministratoroverthevestingperiod.However,optionsgrantedtonon-employeedirectorsgenerallyvestoveraperiodofoneyear.TheCompany’s1997StockOptionPlan(the“1997Plan”),whichreplacedtheprevious1987,1992and1993StockOptionPlans(the“SupersededPlans”),expiredduringtheyearendedJanuary31,2004.Individualgrantsoutstandingunderthe1997PlanandcertainoftheSupersededPlanshaveexpirationdates,whichextendintotheyear2010.Grantsunderthe1997lib11021_appC_C1-C31.inddC–2325/07/1012:41PM ConfirmingPagesC–24APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)PlanandtheSupersededPlansgenerallyexpiretenyearsfromthedateofgrant,thirtydaysaftertermination,orsixmonthsafterthedateofdeathorterminationduetodisability.Stockoptionsgenerallyvestoverafiveyearperiod,withoptionsbecomingexercisableinequalinstallmentsoftwentypercentperyear.AsofJanuary31,2009therewere10,000,000,1,194,700and24,450commonsharesavailableforgrantunderthe2008,2004and2000StockIncentivePlans,respectively.UndertheprovisionsofSFASNo.123R,theCompanyrecorded$2,481,$2,124and$2,344ofstockcompensationrelatedtostockoptionawardsaswellasrelatedtaxbenefitsof$851,$644and$499intheCompany’sConsolidatedStatementsofIncomeforthefiscalyearsendedJanuary31,2009,2008and2007,respectivelyorlessthan$0.01forbothbasicanddilutedearningspershare.Duringfiscal2009,theCompanygranted1,235,800stockoptions.TheestimatedfairvalueofthegrantswascalculatedusingaLatticeBinomialoptionpricingmodelfortheoptionsgrantedduringthefiscalyearendedJanuary31,2009.ForstockoptionsgrantedduringthefiscalyearendedJanuary31,2008,thefairvalueofthesegrantswascalculatedusingtheBlackScholesoptionpricingmodel.BoththeLatticeBinomialandBlackScholesoptionpricingmodelsincorporatecertaineconomicassumptionstovaluethesestock-basedawards.TheprevailingdifferencebetweenthetwomodelsistheLatticeBinomialmodel’sabilitytoenhancethesimpleassumptionsthatunderlietheBlackScholesmodel.TheLatticeBinomialmodelallowsforassumptionssuchastherisk-freerateofinterest,volatilityandexerciseratetovaryovertimereflectingamorerealisticpatternofeconomicandbehavioraloccurrences.TheCompanyuseshistoricaldataonexercisetimingtodeterminetheexpectedlifeassumption.Thedecreaseintheexpectedlifeinfiscalyear2009isduetothefactthatthemajorityofthegrantsissuedinfiscal2009expireinsevenyears.Therisk-freerateofinterestforperiodswithinthecontractuallifeoftheoptionisbasedonU.S.GovernmentSecuritiesTreasuryConstantMaturitiesovertheexpectedtermoftheequityinstrument.Inthecurrentfiscalyear,utilizingtheLatticeBinomialoptionpricingmodel,theexpectedvolatilityisbasedonaweightedaverageoftheimpliedvolatilityandtheCompany’smostrecenthistoricalvolatility.InpreviousfiscalyearsundertheBlackScholesoptionpricingmodel,theexpectedvolatilitywasbasedonthehistoricalvolatilityoftheCompany’sstock.Thetablebelowoutlinestheweightedaverageassumptionsforthesegrants:FiscalFiscalFiscal200920082007Expectedlife,inyears..............................................4.36.26.8Risk-freeinterestrate...............................................2.5%4.5%4.8%Volatility.........................................................41.4%49.8%54.4%Dividendrate.....................................................———BasedontheCompany’shistoricalexperience,theCompanyhasassumedanannualizedforfeiturerateof2%foritsunvestedoptions.Underthetrue-upprovisionsofSFASNo.123R,theCompanywillrecordadditionalexpenseiftheactualforfeiturerateislowerthanitestimated,andwillrecordarecoveryofpriorexpenseiftheactualforfeitureishigherthanestimated.Totalcompensationcostofstockoptionsgrantedbutnotyetvested,asofJanuary31,2009,was$11,627,whichisexpectedtoberecognizedovertheweightedaverageperiodof2.71years.lib11021_appC_C1-C31.inddC–2425/07/1012:41PM ConfirmingPagesAPPENDIXCC–25URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)Thefollowingtablessummarizeactivityunderallstockoptionplansfortherespectiveperiods:FiscalYearEndedJanuary31,200920082007(Inthousands,exceptpersharedata)Weighted-averagefairvalueofoptionsgrantedpershare.....$10.56$12.76$11.62Intrinsicvalueofoptionsexercised.......................$41,622$23,610$20,822Cashreceivedfromoptionexercises......................$8,891$5,000$6,351Actualtaxbenefitrealizedfortaxdeductionsfromoptionexercises..........................................$13,434$7,341$5,394Informationregardingoptionsundertheseplansisasfollows:FiscalYearEndedJanuary31,2009WeightedAverageWeightedRemainingAggregateAverageContractualIntrinsicExerciseTermValueSharesPrice(years)(1)Optionsoutstandingatbeginningofyear.........11,568,723$16.04Optionsgranted.............................1,235,80036.12Optionsexercised...........................(1,607,473)5.53Optionsforfeited............................(62,300)24.48Optionsexpired.............................(80,500)29.78Optionsoutstandingatendofyear..............11,054,25019.645.5$217,119Optionsoutstandingexpectedtovest............10,833,16519.645.5$212,777Optionsexercisableatendofyear..............9,698,95017.535.3$170,010Weightedaveragefairvalueofoptionsgrantedpershare...................................$10.56lib11021_appC_C1-C31.inddC–2525/07/1012:41PM ConfirmingPagesC–26APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)ThefollowingtablesummarizesinformationconcerningcurrentlyoutstandingandexercisableoptionsasofJanuary31,2009:OptionsOutstandingOptionsExercisableWtd.Avg.Wtd.Wtd.RemainingAvg.Avg.AmountContractualExerciseAmountExerciseRangeofExercisePricesOutstandingLifePriceExercisablePrice$0.00-$3.75......................1,280,4502.2$1.761,280,450$1.76$3.76-$7.50......................1,513,0504.24.461,513,0504.46$7.51-$11.25......................208,0002.99.21208,0009.21$11.26-$15.00......................2,548,7005.414.262,536,70014.27$15.01-$18.76......................195,0005.715.60160,00015.38$18.77-$22.51......................146,5007.720.2280,00019.77$22.52-$26.26......................371,0006.724.20320,00024.19$22.27-$30.01......................308,0006.528.15298,00028.11$30.02-$33.76(1)...................3,394,2506.931.093,302,75031.11$33.77-$37.51......................1,089,3006.637.33——11,054,2505.519.649,698,95017.53(1)OptionsincludedinthisrangecontaincertainrestrictionsonthesaleofthestockwhichexpireinNovember2010.Non-vestedSharesTheCompanymaymakenon-vestedshareawardstoemployees,non-employeedirectorsandconsultants.Anon-vestedshareawardisanawardofcommonsharesthatissubjecttocertainrestrictionsduringaspecifiedperiod,suchasanemployee’scontinuedemploymentcombinedwiththeCompanyachievingcertainfinancialgoals.TheCompanyholdsthecommonsharesduringtherestrictionperiod,andthegranteecannottransferthesharesbeforetheterminationofthatperiod.Thegranteeis,however,generallyentitledtovotethecommonsharesandreceiveanydividendsdeclaredandpaidontheCompany’scommonsharesduringtherestrictionperiod.RestrictedSharesDuringthefiscalyearendedJanuary31,2005,theCompanygranted400,000sharesofrestrictedcommonstockwithagrantdatefairvalueof$5,766or$14.42pershare.Share-basedcompensationexpenseof$1,156,$1,153and$1,153isincludedintheaccompanyingConsolidatedStatementsofIncomeforeachfiscalyearendedJanuary31,2009,2008and2007,respectively.Totalunrecognizedcompensationexpenseofnon-vested,non-performancesharesgranted,asofJanuary31,2009was$442,whichisexpectedtoberecognizedovertheperiodof0.4years.AsofJanuary31,2009thiswastheonlygrantofnon-vested,non-performanceshares.lib11021_appC_C1-C31.inddC–2625/07/1012:41PM ConfirmingPagesAPPENDIXCC–27URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)PerformanceSharesOnApril28,2008,theCompanygrantedtwoawardsof30,184PerformanceStockUnits(“PSU’s”).ThesePSU’saresubjecttoavestingperiodoftwoyearsforthefirstgrant(“GrantA”),andthreeyearsforthesecondgrant(“GrantB”).EachPSUgrantissubjecttovariousperformancecriteria.Ifanyofthesecriteriaarenotmet,thegrantsareforfeited.EachPSUisequaltooneshareofcommonstockwithatotalawardvaluenottoexceed30%appreciation.GrantAhadagrantdatefairvalueof$21.55pershareandGrantBhadagrantdatefairvalueof$19.47pershare,withbothgrantshavingatotalgrantdatefairvalueof$1,238.ThegrantdatefairvaluewascalculatedusingaLatticeBinomialModel.InaccordancewithFAS123R,therewasnocompensationexpenserecognizedintheCompany’sConsolidatedStatementsofIncomeduringtheyearendedJanuary31,2009becausevestingwasdeemedhighlyimprobableduetotheunlikelyachievementoftheperformancecriteriagoverningthegrant.Theperformancecriteriaachievementisre-measuredateachreportingperiod,andifitisdeemedlikelythattheperformancetargetswillbeachieved,anyunrecognizedcompensationexpensewillberecognizedprospectivelyasoftheendofthethencurrentreporting.10.NetIncomePerCommonShareThefollowingisareconciliationoftheweightedaveragesharesoutstandingusedforthecomputationofbasicanddilutednetincomepercommonshare:FiscalYearEndedJanuary31,200920082007Basicweightedaveragesharesoutstanding............166,793,062165,305,207164,679,786Effectofdilutiveoptionsandrestrictedstock..........4,067,5434,335,3783,972,219Dilutedweightedaveragesharesoutstanding..........170,860,605169,640,585168,652,005ForthefiscalyearsendedJanuary31,2009,2008and2007,optionstopurchase3,351,338sharesranginginpricefrom$16.58to$37.51,optionstopurchase4,063,875sharesranginginpricefrom$22.11to$31.11andoptionstopurchase4,763,375sharesranginginpricefrom$15.48to$31.11,wereexcludedfromthecalculationofdilutednetincomepercommonsharefortherespectivefiscalyearsbecausetheeffectwasanti-dilutive.lib11021_appC_C1-C31.inddC–2725/07/1012:41PM ConfirmingPagesC–28APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)11.CommitmentsandContingenciesLeasesTheCompanyleasesitsstoresundernon-cancelableoperatingleases.Thefollowingisaschedulebyyearofthefutureminimumleasepaymentsforoperatingleaseswithoriginaltermsinexcessofoneyear:FiscalYear2010..................................................$132,4972011..................................................133,5272012..................................................132,0212013..................................................127,0002014..................................................121,079Thereafter..............................................440,062Totalminimumleasepayments.............................$1,086,186Amountsnotedaboveincludecommitmentsfor34executedleasesforstoresnotopenedasofJanuary31,2009.Themajorityofourleasesallowforrenewaloptionsbetweenfiveandtenyearsuponexpirationoftheinitialleaseterm.Thestoreleasesgenerallyprovideforpaymentofdirectoperatingcostsincludingrealestatetaxes.Certainstoreleasesprovideforcontingentrentalswhensalesexceedspecifiedlevels.Additionally,theCompanyhasenteredintostoreleasesthatrequireapercentageoftotalsalestobepaidtolandlordsinlieuofminimumrent.Rentexpenseconsistedofthefollowing:FiscalYearEndedJanuary31,200920082007Minimumandpercentagerentals.................$112,907$100,020$73,058Contingentrentals.............................1,9933,2821,991Total....................................$114,900$103,302$75,049TheCompanyalsohascommitmentsforun-fulfilledpurchaseordersformerchandiseorderedfromourvendorsinthenormalcourseofbusiness,whichareliquidatedwithin12months,of$302,961.ThemajorityoftheCompany’smerchandisecommitmentsarecancellablewithnoorlimitedrecourseavailabletothevendoruntilmerchandiseshippingdate.TheCompanyalsohascommitmentsrelatedtocontractswithstoreconstructioncontractors,fullyliquidateduponthecompletionofconstruction,whichistypicallywithin12months,of$1,684.lib11021_appC_C1-C31.inddC–2825/07/1012:41PM ConfirmingPagesAPPENDIXCC–29URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)BenefitPlanFullandpart-timeU.S.basedemployeeswhoareatleast18yearsofageareeligibleaftersixmonthsofemploymenttoparticipateintheUrbanOutfitters401(k)SavingsPlan(the“Plan”).UnderthePlan,employeescandefer1%to25%ofcompensationasdefined.TheCompanymakesmatchingcontributionsincashof$0.25peremployeecontributiondollaronthefirst6%oftheemployeecontribution.Theemployees’contributionis100%vestedwhiletheCompany’smatchingcontributionvestsat20%peryearofemployeeservice.TheCompany’scontributionswere$1,090,$969and$812forfiscalyears2009,2008and2007,respectively.ContingenciesTheCompanyispartytovariouslegalproceedingsarisingfromnormalbusinessactivities.ManagementbelievesthattheultimateresolutionofthesematterswillnothaveamaterialadverseeffectontheCompany’sfinancialposition,resultsofoperationsorcashflows.12.RelatedPartyTransactionsHarryS.Cherken,Jr.,adirectoroftheCompany,isapartnerinthelawfirmofDrinkerBiddle&ReathLLP(“DBR”),whichprovidesgenerallegalservicestotheCompany.FeespaidtoDBRduringfiscal2009,2008and2007were$2,670,$3,662and$1,493,respectively.FeesduetoDBRasofJanuary31,2009andJanuary31,2008forservicesrenderedwereapproximately$442and$556,respectively.TheMcDevittCompany,arealestatecompany,actedasabrokerinsubstantiallyalloftheCompany’snewrealestatetransactionsduringfiscal2009,2008and2007.TheCompanyhasnotpaidanycompensationtoTheMcDevittCompany,buttheCompanyhasbeenadvisedthatTheMcDevittCompanyhasreceivedcommissionsfromotherpartiestosuchtransactions.WadeL.McDevittisthepresidentandthesoleshareholderofTheMcDevittCompanyandbrother-in-lawofScottBelair,oneoftheCompany’sdirectors.TherewerenoamountsduetoTheMcDevittCompanyasofJanuary31,2009andJanuary31,2008.TheAddisGroup(“Addis”),aninsurancebrokeragecompany,actedastheCompany’scommercialinsurancebrokerfortheyearsendedJanuary31,2009,2008and2007.TheCompanyhasnotpaidanycompensationtoAddisforsuchservices,buthasbeenadvisedthatAddishasreceivedcommissionsfromotherpartiestosuchtransactions,toserveasriskmanagerunderonelineofcoverage.ScottAddisisthePresidentofTheAddisGroupandthebrother-in-lawofRichardA.Hayne,ChairmanoftheBoardoftheCompany.TherewerenoamountsduetoorfromAddisasofJanuary31,2009andJanuary31,2008.lib11021_appC_C1-C31.inddC–2925/07/1012:41PM ConfirmingPagesC–30APPENDIXCURBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)13.SegmentReportingTheCompanyisanationalretaileroflifestyle-orientedgeneralmerchandisewithtworeportingsegments—“Retail”and“Wholesale”.TheCompany’sRetailsegmentconsistsoftheaggregationofitsfourbrandsoperatingthrough294storesundertheretailnames“UrbanOutfitters,”“Anthropologie,”“FreePeople”and“Terrain”andincludestheirdirectmarketingcampaignswhichconsistofthreecatalogsandfourwebsitesasofJanuary31,2009.OurRetailstoresandtheirdirectmarketingcampaignsareconsideredoperatingsegments.NetsalesfromtheRetailsegmentaccountedformorethan93%oftotalconsolidatednetsalesfortheyearsendedJanuary31,2009,2008and2007.TheremainderisderivedfromtheCompany’sWholesalesegmentthatmanufacturesanddistributesappareltotheretailsegmentandtoapproximately1,800betterspecialtyretailersworldwide.TheCompanyhasaggregateditsretailstoresandassociateddirectmarketingcampaignsintoaRetailsegmentbasedupontheiruniquemanagement,customerbaseandeconomiccharacteristics.Reportinginthisformatprovidesmanagementwiththefinancialinformationnecessarytoevaluatethesuccessofthesegmentsandtheoverallbusiness.TheCompanyevaluatestheperformanceofthesegmentsbasedonthenetsalesandpre-taxincomefromoperations(excludinginter-companycharges)ofthesegment.Corporateexpensesincludeexpensesincurredanddirectedbythecorporateofficethatarenotallocatedtosegments.Theprincipalidentifiableassetsforeachoperatingsegmentareinventoriesandpropertyandequipment.Otherassetsarecomprisedprimarilyofgeneralcorporateassets,whichprincipallyconsistofcashandcashequivalents,marketablesecurities,andotherassets,andwhicharetypicallynotallocatedtotheCompany’ssegments.TheCompanyaccountsforinter-segmentsalesandtransfersasifthesalesandtransfersweremadetothirdpartiesmakingsimilarvolumepurchases.lib11021_appC_C1-C31.inddC–3025/07/1012:41PM ConfirmingPagesAPPENDIXCC–31URBANOUTFITTERS,INC.NOTESTOCONSOLIDATEDFINANCIALSTATEMENTS—(Continued)TheaccountingpoliciesoftheoperatingsegmentsarethesameasthepoliciesdescribedinNote2,“SummaryofSignificantAccountingPolicies.”Boththeretailandwholesalesegmentsarehighlydiversified.Nocustomercomprisesmorethan10%ofsales.AsummaryoftheinformationabouttheCompany’soperationsbysegmentisasfollows:FiscalYear200920082007NetsalesRetailoperations.......................................................$1,724,558$1,413,251$1,150,511Wholesaleoperations....................................................120,364102,47979,687Intersegmentelimination.................................................(10,304)(8,006)(5,481)Totalnetsales.....................................................$1,834,618$1,507,724$1,224,717IncomefromoperationsRetailoperations.......................................................$297,572$219,248$159,338Wholesaleoperations....................................................28,17021,43818,319Intersegmentelimination.................................................(11,209)(1,325)(1,504)Totalsegmentoperatingincome...........................................314,533239,361176,153Generalcorporateexpenses...............................................(15,098)(14,416)(12,164)Totalincomefromoperations.........................................$299,435$224,945$163,989DepreciationexpenseforpropertyandequipmentRetailoperations.......................................................$78,892$68,123$53,458Wholesaleoperations....................................................613615437Totaldepreciationexpenseforpropertyandequipment.....................$79,505$68,738$53,895InventoriesRetailoperations.......................................................$157,030$159,015Wholesaleoperations....................................................12,66812,910Totalinventories...................................................$169,698$171,925Propertyandequipment,netRetailoperations.......................................................$500,650$486,031Wholesaleoperations....................................................4,7572,858Totalpropertyandequipment,net......................................$505,407$488,889CashpaidforpropertyandequipmentRetailoperations.......................................................$111,658$113,914$211,533Wholesaleoperations....................................................8951,456496Totalcashpaidforpropertyandequipment..............................$112,533$115,370$212,029TheCompanyhasforeignoperationsinEuropeandCanada.Revenuesandlong-livedassets,baseduponourdomesticandforeignoperations,areasfollows:FiscalYear200920082007NetsalesDomesticoperations.....................................................$1,663,616$1,373,162$1,132,053Foreignoperations......................................................171,002134,56292,664Totalnetsales.....................................................$1,834,618$1,507,724$1,224,717Propertyandequipment,netDomesticoperations.....................................................$460,551$434,776Foreignoperations......................................................44,85654,113Totalpropertyandequipment,net......................................$505,407$488,889lib11021_appC_C1-C31.inddC–3125/07/1012:41PM ConfirmingPagesAPPENDIXDINDUSTRYRATIOREPORTRetailFamilyClothingStoresLiquidityCOMPANIESUSEDININDUSTRYANALYSISCurrentRatio2.55CompanyNameTickerSymbolQuickRatio1.38Abercrombie&FitchANFAeropostaleInc.AROActivityAmericanEagleOutfittersAEOInventoryTurnover5.92AnnTaylorStoresANNDaystoSellInventory70.897daysbebestoresInc.BEBEReceivablesTurnover54.24Chico’sFASInc.CHSAverageCollectionPeriod15.07daysCollectiveBrandsInc.PSSFixedAssetTurnover5.76DressBarnInc.DBRNTotalAssetTurnover1.90FootLockerInc.FLAccountsPayableTurnover6.43GapInc.GPSGuess?Inc.GESProfitabilityJ.CrewGroupInc.JCGLimitedBrandsInc.LTDGrossProfitMargin38.99%NordstromInc.JWNOperatingProfitMargin6.24%PacificSunwearofCaliforniaInc.PSUNNetProfitMargin3.77%ReturnonEquity13.11%RossStoresInc.ROSTReturnonAssets7.17%TheBuckleInc.BKEQualityofIncome0.72TheMen’sWearhouseInc.MWUrbanOutfittersInc.URBNWetSealInc.WTSLALeverageTimesInterestEarned16.33InterestCoverageRatio16.39TotalDebt/TotalEquity1.08TotalAssets/TotalEquity1.92DividendsDividendPayout19.61%DividendYield2.22%OtherAdvertising-to-Sales2.39%SalesGrowth2.39%CapitalAcquisitionsRatio1.93Price/Earnings6.81D–0lib11021_appD_D0.inddD–225/07/1012:14PM Rev.ConfirmingPagesGLOSSARYAAgingofAccountsReceivableMethodcleared,otherdebitsandcredits,andaEstimatesuncollectibleaccountsbasedonrunningbankbalance.(297)AccountAstandardizedformatthatorganizationsusetoaccumulatethedollartheageofeachaccountreceivable.(291)BasicAccountingEquation(BalanceeffectoftransactionsoneachfinancialAllowanceforDoubtfulAccountsSheetEquation)Assets=Liabilities+statementitem.(51)(AllowanceforBadDebts,AllowanceStockholders’Equity.(8)AccountingAsystemthatcollectsandforUncollectibleAccounts)Contra-BoardofDirectorsElectedbytheprocesses(analyzes,measures,andrecords)assetaccountcontainingtheestimatedshareholderstorepresenttheirinterests;isfinancialinformationaboutanorganizationuncollectibleaccountsreceivable.(287)responsibleformaintainingtheintegrityofandreportsthatinformationtodecisionAllowanceMethodBasesbaddebtexpenseonthecompany’sfinancialreports.(233)makers.(4)anestimateofuncollectibleaccounts.(287)BondCertificateThebonddocumentthatAccountingCycleTheprocessusedbyAmortizationSystematicandrationaleachbondholderreceives.(509)entitiestoanalyzeandrecordtransactions,allocationoftheacquisitioncostofanBondDiscountThedifferencebetweentheadjusttherecordsattheendoftheperiod,intangibleassetoveritsusefullife.(411)sellingpriceandparwhenabondissoldforpreparefinancialstatements,andpreparetheAmortizedCostMethodReportsinvestmentslessthanpar.(510)recordsforthenextcycle.(165)indebtsecuritiesheldtomaturityatcostBondPremiumThedifferencebetweentheAccountingEntityTheorganizationforminusanypremiumorplusanydiscount.(600)sellingpriceandparwhenabondissoldforwhichfinancialdataaretobecollected.(7)AnnuityAseriesofperiodiccashreceiptsmorethanpar.(510)AccountingPeriodThetimeperiodcoveredorpaymentsthatareequalinamounteachBondPrincipalTheamount(a)payableatbythefinancialstatements.(10)interestperiod.(473)thematurityofthebondand(b)onwhichAccountsReceivable(TradeReceivables,AssetsProbablefutureeconomicbenefitstheperiodiccashinterestpaymentsareReceivables)Openaccountsowedtotheownedbytheentityasaresultofpastcomputed.(507)businessbytradecustomers.(286)transactions.(46)AccrualBasisAccountingRecordsrevenuesAuditAnexaminationofthefinancialCwhenearnedandexpenseswhenincurred,reportstoensurethattheyrepresentwhatCallableBondsBondsthatmaybecalledregardlessofthetimingofcashreceiptsortheyclaimandconformwithgenerallyforearlyretirementattheoptionofthepayments.(108)acceptedaccountingprinciples.(20)issuer.(508)AccruedExpensesPreviouslyunrecordedAuthorizedNumberofSharesThemaximumCapitalExpendituresExpendituresthatexpensesthatneedtobeadjustedatthenumberofsharesofacorporation’scapitalincreasetheproductivelife,operatingendoftheaccountingperiodtoreflectthestockthatcanbeissuedasspecifiedintheefficiency,orcapacityofanassetandareamountincurredanditsrelatedpayablecharter.(554)recordedasincreasesinassetaccounts,notaccount.(173)AverageCostMethodUsestheweightedasexpenses.(394)AccruedLiabilitiesExpensesthathavebeenaverageunitcostofthegoodsavailableforCapitalLeaseMeetsatleastoneoftheincurredbuthavenotbeenpaidattheendsaleforbothcostofgoodssoldandendingfourcriteriaestablishedbyGAAPandoftheaccountingperiod.(460)inventory.(341)resultsintherecordingofanassetandAccruedRevenuesPreviouslyunrecordedliability.(471)revenuesthatneedtobeadjustedattheBCapitalizedInterestInterestexpendituresendoftheaccountingperiodtoreflecttheBadDebtExpense(DoubtfulAccountsincludedinthecostofaself-constructedamountearnedanditsrelatedreceivableExpense,UncollectibleAccountsasset.(392)account.(170)Expense,ProvisionforUncollectibleCashMoneyoranyinstrumentthatbanksAcquisitionCostThenetcashequivalentAccounts)Expenseassociatedwithestimatedwillacceptfordepositandimmediatecreditamountpaidortobepaidforanasset.(391)uncollectibleaccountsreceivable.(287)toacompany’saccount,suchasacheck,AdditionalPaid-InCapital(Paid-InCapital,BalanceSheet(StatementofFinancialmoneyorder,orbankdraft.(295)ContributedCapitalinExcessofPar)ThePosition)ReportstheamountofCashBasisAccountingRecordsrevenuesamountofcontributedcapitallesstheparassets,liabilities,andstockholders’equitywhencashisreceivedandexpenseswhenvalueofthestock.(242)ofanaccountingentityatapointincashispaid.(108)AdditionsandImprovementsInfrequenttime.(7)CashEquivalentsShort-terminvestmentsexpendituresthatincreaseanasset’sBankReconciliationProcessofverifyingthewithoriginalmaturitiesofthreemonthsoreconomicusefulnessinthefuture.(394)accuracyofboththebankstatementandthelessthatarereadilyconvertibletocashandAdjustingEntriesEntriesnecessaryatthecashaccountsofabusiness.(297)whosevalueisunlikelytochange.(295,639)endoftheaccountingperiodtomeasureallBankStatementAmonthlyreportfromaCashFlowsfromFinancingActivitiesCashrevenuesandexpensesofthatperiod.(167)bankthatshowsdepositsrecorded,checksinflowsandoutflowsrelatedtoexternalG–1lib11021_glo_G1-G6.inddG–129/07/1011:10AM Rev.ConfirmingPagesG–2GLOSSARYsourcesoffinancing(ownersandcreditors)Cost-BenefitConstraintSuggeststhattheDeferredTaxItemsTimingdifferencesfortheenterprise.(641)benefitsofaccountingforandreportingcausedbyreportingrevenuesandexpensesCashFlowsfromInvestingActivitiesCashofinformationshouldoutweightheaccordingtoGAAPonacompany’sincomeinflowsandoutflowsrelatedtothecosts.(236)statementandaccordingtotheInternalacquisitionorsaleofproductivefacilitiesCostofGoodsSoldEquationRevenueCodeonthetaxreturn.(480)andinvestmentsinthesecuritiesofotherBI + P − EI = CGS.(336)DepletionSystematicandrationalallocationcompanies.(641)CostPrincipleSeehistoricalcostprinciple.ofthecostofanaturalresourceovertheCashFlowsfromOperatingActivities(Cashperiodofitsexploitation.(410)CouponRateThestatedrateofinterestonFlowsfromOperations)Cashinflowsandbonds.(509)DepreciationTheprocessofallocatingtheoutflowsdirectlyrelatedtoearningsfromcostofbuildingsandequipmentovertheirCreditTherightsideofanaccount.(58)normaloperations.(639)productivelivesusingasystematicandCreditCardDiscountFeechargedbytherationalallocationofthecostofproperty,ClosingEntriesMadeattheendofthecreditcardcompanyforitsservices.(282)plant,andequipment(butnotland)overaccountingperiodtotransferbalancesintemporaryaccountstoRetainedEarningsandCumulativeDividendPreferenceThetheirusefullives.(396)toestablishazerobalanceineachofthepreferredstockfeaturethatrequiresDirectLaborTheearningsofemployeestemporaryaccounts.(183)specifiedcurrentdividendsnotpaidinfullwhoworkdirectlyontheproductsbeingtoaccumulateforeveryyearinwhichtheymanufactured.(335)CommonStockThebasicvotingstockissuedarenotpaid.Thesecumulativepreferredbyacorporation.(557)DirectMethodAmethodofpresentingthedividendsmustbepaidbeforeanycommonComparableInformationInformationthatoperatingactivitiessectionofthestatementdividendscanbepaid.(566)canbecomparedacrossbusinessesbecauseofcashflowsthatreportscomponentsofCurrentAssetsAssetsthatwillbeusedorcashflowsfromoperatingactivitiesasgrosssimilaraccountingmethodshavebeenturnedintocashwithinoneyear.Inventoryreceiptsandgrosspayments.(640)applied.(236)isalwaysconsideredacurrentassetComponentPercentageExpresseseachDiscontinuedOperationsFinancialresultsregardlessofthetimeneededtoproduceanditemonaparticularfinancialstatementfromthedisposalofamajorcomponentofsellit.(47)asapercentageofasinglebasethebusiness,reportednetofincometaxCurrentDividendPreferenceThefeatureofeffects.(255)amount.(700)preferredstockthatgrantspriorityonpreferredConservatismSuggeststhatcareshouldDividendsinArrearsDividendsondividendsovercommondividends.(565)betakennottooverstateassetsandcumulativepreferredstockthathavenotCurrentLiabilitiesShort-termobligationsbeenpaidinprioryears.(566)revenuesorunderstateliabilitiesandthatwillbepaidincash(orothercurrentexpenses.(50,237)assets)withinthecurrentoperatingcycleorConsistentInformationInformationthatoneyear,whicheverislonger.(48,457)EcanbecomparedovertimebecauseEarningsForecastsPredictionsofearningssimilaraccountingmethodshavebeenDforfutureaccountingperiods.(233)applied.(236)Effective-InterestAmortizationAmortizesDebentureAnunsecuredbond;noassetsareContingentLiabilityApotentialliabilityspecificallypledgedtoguaranteerepayment.abonddiscountorpremiumonthebasisthathasarisenastheresultofapastevent;(508)oftheeffective-interestrate;itistheitisnotaneffectiveliabilityuntilsometheoreticallypreferredmethod.(516)DebitTheleftsideofanaccount.(58)futureeventoccurs.(466)Effective-InterestRate(Yield)ThecurrentDeclarationDateThedateonwhichtheContinuity(Going-Concern)Assumptionrateofinterestonadebtwhenincurred;alsoboardofdirectorsofficiallyapprovesaStatesthatbusinessesareassumedtocalledthemarketinterestrate.(510)dividend.(561)continuetooperateintotheforeseeableEfficientMarketsSecuritiesmarketsfuture.(46)Declining-BalanceDepreciationMethodinwhichpricesfullyreflectavailablethatallocatesthecostofanassetoveritsContra-AccountAnaccountthatisanoffsetinformation.(717)usefullifebasedonamultipleof(oftentwoto,orreductionof,theprimaryaccount.(172)EquityMethodUsedwhenaninvestorcantimes)thestraight-linerate.(401)ContributedCapitalCash(andsometimesexertsignificantinfluenceoveranaffiliate;DeferredExpensesPreviouslyacquiredotherassets)providedfromtheownerstothemethodpermitsrecordingtheinvestor’sassetsthatneedtobeadjustedattheendofthebusiness.(49)shareoftheaffiliate’sincome.(610)theaccountingperiodtoreflecttheamountConvertibleBondsBondsthatmaybeofexpenseincurredinusingtheassettoEstimatedUsefulLifeTheexpectedserviceconvertedtoothersecuritiesoftheissuergeneraterevenue.(171)lifeofanassettothepresentowner.(398)(usuallycommonstock).(508)Deferred(Unearned)RevenuesPreviouslyExpensesDecreasesinassetsorincreasesinCopyrightExclusiverighttopublish,use,andrecordedliabilitiesthatneedtobeadjustedliabilitiesfromongoingoperationsincurredsellaliterary,musical,orartisticwork.(413)attheendoftheaccountingperiodtoreflecttogeneraterevenuesduringtheperiod.(106)CorporateGovernanceTheprocedurestheamountofrevenueearned;onthebalanceExtraordinaryItemsGainsandlossesthatdesignedtoensurethatthecompanysheet,revenuesthathavebeencollectedarebothunusualinnatureandinfrequentinismanagedintheinterestsofthebutnotearned;liabilitiesuntilthegoodsoroccurrence;theyarereportednetoftaxonshareholders.(230)serviceshavebeenprovided.(169,465)theincomestatement.(255)lib11021_glo_G1-G6.inddG–229/07/1011:10AM Rev.ConfirmingPagesGLOSSARYG–3Foverthefairvalueoftheacquiredbusiness’sJassetsandliabilities.(412,614)FaceAmountAnothernameforbondprincipalJournalEntryAnaccountingmethodfororthematurityamountofabond.(507)GrossProfit(GrossMargin)Netsaleslessexpressingtheeffectsofatransactiononcostofgoodssold.(243)accountsinadebits-equal-creditsformat.FactoryOverheadManufacturingcoststhatarenotrawmaterialordirectlabor(59)costs.(336)HFairValueMethodReportssecuritiesatHeld-to-MaturityInvestmentsInvestmentsLtheircurrentmarketvalue(theamountthatindebtsecuritiesthatmanagementhastheLast-In,First-Out(LIFO)MethodAnwouldbereceivedinanorderlysale).(601)abilityandintenttoholduntilmaturity.(600)inventorycostingmethodthatassumesthatFinancialAccountingStandardsBoardHistoricalCostPrincipleRequiresassetstothemostrecentlypurchasedunits(thelast(FASB)Theprivatesectorbodygivenberecordedatthehistoricalcash-equivalentin)aresoldfirst.(340)theprimaryresponsibilitytoworkoutcost,whichonthedateofthetransactionLegalCapitalThepermanentamountofthedetailedrulesthatbecomegenerallyiscashpaidplusthecurrentdollarvalueofcapitaldefinedbystatelawthatmustremainacceptedaccountingprinciples.(19)allnoncashconsiderationsalsogivenintheinvestedinthebusiness;servesasacushionexchange.(46)FinishedGoodsInventoryManufacturedforcreditors.(557)goodsthatarecompleteandreadyforLenders(Creditors)SuppliersandfinancialIsale.(334)institutionsthatlendmoneytocompanies.First-In,First-Out(FIFO)MethodAnIncomebeforeIncomeTaxes(Pretax(236)Earnings)RevenuesminusallexpensesinventorycostingmethodthatassumesthatLiabilitiesProbabledebtsorobligationsoftheexceptincometaxexpense.(243)thefirstgoodspurchased(thefirstin)areentitythatresultfrompasttransactions,whichthefirstgoodssold.(339)IncomefromOperations(Operatingwillbepaidwithassetsorservices.(47,457)Income)NetsaleslesscostofgoodssoldForm8-KThereportusedbypubliclytradedLicensesandOperatingRightsObtainedandotheroperatingexpenses.(243)companiestodiscloseanymaterialeventthroughagreementswithgovernmentalunitsnotpreviouslyreportedthatisimportanttoIncomeStatement(StatementofIncome,oragencies;permitownerstousepublicinvestors.(240)StatementofEarnings,Statementofpropertyinperformingtheirservices.(413)Operations)ReportstherevenueslesstheForm10-KTheannualreportthatpubliclyLIFOLiquidationAsaleofalower-costexpensesoftheaccountingperiod.(10)tradedcompaniesmustfilewiththeSEC.inventoryitemfrombeginningLIFO(240)IndentureAbondcontractthatspecifiestheinventory.(357)legalprovisionsofabondissue.(508)Form10-QThequarterlyreportthatpubliclyLIFOReserveAcontra-assetfortheexcesstradedcompaniesmustfilewiththeSEC.IndirectMethodAmethodofpresentingtheofFIFOoverLIFOinventory.(351)(240)operatingactivitiessectionofthestatementofLiquidityTheabilitytopaycurrentcashflowsthatadjustsnetincometocomputeFranchiseAcontractualrighttosellcertainobligations.(458)cashflowsfromoperatingactivities.(640)productsorservices,usecertaintrademarks,Long-LivedAssetsTangibleandintangibleorperformactivitiesinageographicalInstitutionalInvestorsManagersofpension,resourcesownedbyabusinessandusedinregion.(413)mutual,endowment,andotherfundsthatitsoperationsoverseveralyears.(389)investonthebehalfofothers.(236)FreeCashFlowCashFlowsfromOperatingLong-TermLiabilitiesAlloftheentity’sActivitieslessDividendslessCapitalIntangibleAssetsAssetsthathavespecialobligationsthatarenotclassifiedascurrentExpenditures.(654)rightsbutnotphysicalsubstance.(389)liabilities.(469)FutureValueThesumtowhichanamountInternalControlsProcessesbywhichaLossesDecreasesinassetsorincreasesinwillincreaseastheresultofcompoundcompanyprovidesreasonableassuranceliabilitiesfromperipheraltransactions.(106)interest.(481)regardingthereliabilityofthecompany’sfinancialreporting,theeffectivenessLowerofCostorMarket(LCM)Valuationandefficiencyofitsoperations,anditsmethoddepartingfromthecostprinciple;itGcompliancewithapplicablelawsandservestorecognizealosswhenreplacementGainsIncreasesinassetsordecreasesinregulations.(296)costornetrealizablevaluedropsbelowcost.(346)liabilitiesfromperipheraltransactions.(106)InventoryTangiblepropertyheldforsaleGenerallyAcceptedAccountingPrinciplesinthenormalcourseofbusinessorusedin(GAAP)Themeasurementrulesusedproducinggoodsorservicesforsale.(333)MtodeveloptheinformationinfinancialInvestmentsinAffiliates(orAssociatedMarketInterestRateThecurrentrateofstatements.(18)Companies)Investmentsinstockheldforinterestonadebtwhenincurred;alsocalledGoodsAvailableforSaleThesumofthepurposeofinfluencingtheoperatingandyieldoreffective-interestrate.(510)beginninginventoryandpurchases(ortransfersfinancingstrategiesoftheentityforthelongMarketTestsRatiosthattendtomeasuretofinishedgoods)fortheperiod.(336)term.(610)themarketworthofashareofstock.(713)Goodwill(CostinExcessofNetAssetsIssuedSharesThetotalnumberofsharesMatchingPrincipleRequiresthatexpensesAcquired)Foraccountingpurposes,theofstockthathavebeensold;sharesberecordedwhenincurredinearningexcessofthepurchasepriceofabusinessoutstandingplustreasurysharesheld.(554)revenue.(111)lib11021_glo_G1-G6.inddG–32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Rev.ConfirmingPagesG–4GLOSSARYMaterialAmountsAmountsthatarelargePgiventheprimaryresponsibilitytoworkoutenoughtoinfluenceauser’sdecision.(237)detailedauditingstandards.(20)Paid-InCapital(AdditionalPaid-inCapital,MaterialityExceptionsuggeststhatsmallContributedCapitalinExcessofPar)ThePurchaseDiscountCashdiscountreceivedamountsthatarenotlikelytoinfluenceaamountofcontributedcapitallesstheparforpromptpaymentofanaccount.(359)user’sdecisioncanbeaccountedforinthevalueofthestock.(242)PurchaseMethodRecordsassetsandmostcost-beneficialmanner.(50)ParValue(1)ThenominalvaluepershareliabilitiesacquiredinamergeroracquisitionMerchandiseInventoryGoodsheldforresaleofcapitalstockestablishedbytheboardattheirfairvalueonthetransactiondate.intheordinarycourseofbusiness.(333)ofdirectors;servesasthebasisforlegal(614)MergerOccurswhenonecompanypurchasescapital;itestablishestheminimumamountPurchaseReturnsandAllowancesAallofthenetassetsofanotherandtheastockholdermustcontributeandhasnoreductioninthecostofpurchasesassociatedacquiredcompanygoesoutofexistence.(614)relationshiptothemarketpriceofthestock.withunsatisfactorygoods.(358)(2)Also,anothernameforbondprincipal,orNthematurityamountofabond.(242,507,R557)NaturalResourcesAssetsoccurringinRatio(Percentage)AnalysisAnanalyticalnature,suchasmineraldeposits,timberPatentGrantedbythefederalgovernmenttoolthatmeasurestheproportionaltracts,oil,andgas.(409)foraninvention;givestheownertherelationshipbetweentwofinancialstatementexclusiverighttouse,manufacture,andsellamounts.(700)NetBookValue(BookValue,Carryingthesubjectofthepatent.(413)Value)TheacquisitioncostofanassetlessRawMaterialsInventoryItemsacquiredaccumulateddepreciation,depletion,orPaymentDateThedateonwhichacashforthepurposeofprocessingintofinishedamortization.(173,397)dividendispaidtothestockholdersofgoods.(334)record.(561)NetRealizableValueTheexpectedsalesRecordDateThedateonwhichthepricelesssellingcosts(e.g.,repairandPercentageofCreditSalesMethodBasescorporationpreparesthelistofcurrentdisposalcosts).(346)baddebtexpenseonthehistoricalpercentagestockholdersasshownonitsrecords;ofcreditsalesthatresultinbaddebts.(290)dividendscanbepaidonlytothestockholdersNoncashInvestingandFinancingPeriodicInventorySystemAninventorywhoownstockonthatdate.(561)ActivitiesTransactionsthatdonothavedirectcashfloweffects;reportedasasysteminwhichendinginventoryandcostRelevantInformationInformationthatcansupplementtothestatementofcashflowsofgoodssoldaredeterminedattheendofinfluenceadecision;itistimelyandhasinnarrativeorscheduleform.(658)theaccountingperiodbasedonaphysicalpredictiveand/orfeedbackvalue.(45,236)inventorycount.(353)No-ParValueStockCapitalstockthatReliableInformationInformationthatishasnoparvaluespecifiedinthecorporatePermanent(Real)AccountsThebalanceaccurate,unbiased,andverifiable.(45,236)sheetaccountsthatcarrytheirendingbalancescharter.(557)ReplacementCostThecurrentpurchaseintothenextaccountingperiod.(183)Notes(Footnotes)Providesupplementalpriceforidenticalgoods.(346)PerpetualInventorySystemAninventoryinformationaboutthefinancialconditionResidual(orSalvage)ValueTheestimatedsysteminwhichadetailedinventoryrecordofacompany,withoutwhichthefinancialamounttoberecoveredbythecompany,ismaintained,recordingeachpurchaseandstatementscannotbefullyunderstood.(16)lessdisposalcosts,attheendofanasset’ssaleduringtheaccountingperiod.(353)NotesReceivableWrittenpromisesthatestimatedusefullife.(398)Post-ClosingTrialBalancePreparedastherequireanotherpartytopaythebusinessRetainedEarningsCumulativeearningsofalaststepintheaccountingcycletocheckunderspecifiedconditions(amount,time,companythatarenotdistributedtotheownersthatdebitsequalcreditsandalltemporaryinterest).(286)andarereinvestedinthebusiness.(49)accountshavebeenclosed.(186)RevenueExpendituresExpendituresthatOPreferredStockStockthathasspecifiedmaintaintheproductivecapacityofanassetrightsovercommonstock.(565)OperatingCycle(Cash-to-CashCycle)TheduringthecurrentaccountingperiodonlytimeittakesforacompanytopaycashPresentValueThecurrentvalueofanamountandarerecordedasexpenses.(394)tosuppliers,sellgoodsandservicestotobereceivedinthefuture;afutureamountRevenuePrincipleRevenuesarerecognizedcustomers,andcollectcashfromdiscountedforcompoundinterest.(471)when(1)goodsorservicesaredelivered,customers.(103)PressReleaseAwrittenpublicnews(2)thereisevidenceofanarrangementOperatingLeaseDoesnotmeetanyoftheannouncementnormallydistributedtoforcustomerpayment,(3)thepriceisfourcriteriaestablishedbyGAAPanddoesmajornewsservices.(238)fixedordeterminable,and(4)collectionisnotcausetherecordingofanassetandPrimaryObjectiveofExternalFinancialreasonablyassured.(108)liability.(470)ReportingToprovideusefuleconomicRevenuesIncreasesinassetsorsettlementsOrdinaryRepairsandMaintenanceinformationaboutabusinesstohelpexternalofliabilitiesfromongoingoperations.(104)Expendituresforthenormaloperatingupkeeppartiesmakesoundfinancialdecisions.(45)oflong-livedassets.(394)PrivateInvestorsIndividualswhopurchaseSOutstandingSharesThetotalnumbersharesincompanies.(236)Sales(orCash)DiscountCashdiscountofsharesofstockthatareownedbyPublicCompanyAccountingOversightofferedtoencouragepromptpaymentofanstockholdersonanyparticulardate.(554)Board(PCAOB)Theprivatesectorbodyaccountreceivable.(282)lib11021_glo_G1-G6.inddG–429/07/1011:10AM Rev.ConfirmingPagesGLOSSARYG–5SalesReturnsandAllowancesAreductionTeconomiceffectonthebusinessintermsofofsalesrevenuesforreturnoforallowancestheaccountingequation.(52)T-accountAtoolforsummarizingforunsatisfactorygoods.(283)transactioneffectsforeachaccount,TreasuryStockAcorporation’sownstockSecuritiesandExchangeCommission(SEC)determiningbalances,anddrawinginferencesthathasbeenissuedbutsubsequentlyTheU.S.governmentagencythatdeterminesaboutacompany’sactivities.(60)reacquiredandisstillbeingheldbythatthefinancialstatementsthatpubliccorporation.(558)TangibleAssets(orfixedassets)Assetsthatcompaniesmustprovidetostockholdersandhavephysicalsubstance.(389)TrialBalanceAlistofallaccountswiththeirthemeasurementrulesthattheymustuseinbalancestoprovideacheckontheequalityproducingthosestatements.(19)TechnologyIncludescostsforcomputerofthedebitsandcredits.(165)softwareandWebdevelopment.(413)SecuritiesAvailableforSaleAllpassiveTrusteeAnindependentpartyappointedtoinvestmentsotherthantradingsecuritiesandTemporary(Nominal)AccountsIncomerepresentthebondholders.(509)debtheldtomaturity(classifiedaseitherstatement(andsometimesdividendsshorttermorlongterm).(602)declared)accountsthatareclosedtoURetainedEarningsattheendoftheSeparate-EntityAssumptionStatesthataccountingperiod.(183)Unearned(Deferred)RevenuesPreviouslybusinesstransactionsareseparatefromtherecordedliabilitiesthatneedtobeadjustedtransactionsoftheowners.(45)TemporaryDifferencesTimingdifferencesattheendoftheaccountingperiodtoreflectthatcausedeferredincometaxesandwillSpecificIdentificationMethodAntheamountofrevenueearned.(169,465)reverse,orturnaround,inthefuture.(480)inventorycostingmethodthatidentifiestheUnit-of-MeasureAssumptionStatesthatcostofthespecificitemthatwassold.(339)TestsofLiquidityRatiosthatmeasureaccountinginformationshouldbemeasuredacompany’sabilitytomeetitscurrentlyStatedRateTherateofcashinterestperandreportedinthenationalmonetaryunit.maturingobligations.(707)periodspecifiedinthebondcontract.(507)(46)TestsofProfitabilityRatiosthatcompareStatementofCashFlows(CashFlowUnits-of-ProductionDepreciationMethodincomewithoneormoreprimaryactivities.Statement)Reportsinflowsandoutflowsthatallocatesthecostofanassetover(702)ofcashduringtheaccountingperiodinitsusefullifebasedontherelationofitsthecategoriesofoperating,investing,andTestsofSolvencyRatiosthatmeasureaperiodicoutputtoitstotalestimatedoutput.financing.(14)company’sabilitytomeetitslong-term(400)obligations.(712)StatementofRetainedEarningsReportstheUnqualified(Clean)AuditOpinionwaythatnetincomeandthedistributionofTimePeriodAssumptionThelonglifeofAuditor’sstatementthatthefinancialdividendsaffectedthefinancialpositionoftheacompanycanbereportedinshortertimestatementsarefairpresentationsinallcompanyduringtheaccountingperiod.(12)periods.(104)materialrespectsinconformitywithGAAP.StockDividendAdistributionofadditionalTimeValueofMoneyInterestthatis(233)sharesofacorporation’sownstock.(563)associatedwiththeuseofmoneyoverUnrealizedHoldingGainsorLossesStockSplitAnincreaseinthetotalnumbertime.(463)Amountsassociatedwithpricechangesofofauthorizedsharesbyaspecifiedratio;itTrademarkAnexclusivelegalrighttouseasecuritiesthatarecurrentlyheld.(602)doesnotdecreaseretainedearnings.(564)specialname,image,orslogan.(412)WStockholders’Equity(Owners’EquityTradingSecuritiesAllinvestmentsinorShareholders’Equity)ThefinancingstocksorbondsthatareheldprimarilyforWorkinProcessInventoryGoodsintheprovidedbytheownersandtheoperationsthepurposeofactivetrading(buyingandprocessofbeingmanufactured.(334)ofthebusiness.(49)selling)inthenearfuture(classifiedasshortWorkingCapitalThedollardifferenceStraight-LineAmortizationAsimplifiedterm).(602)betweentotalcurrentassetsandtotalmethodofamortizingabonddiscountorTransaction(1)Anexchangebetweenacurrentliabilities.(467)premiumthatallocatesanequaldollarbusinessandoneormoreexternalpartiestoamounttoeachinterestperiod.(515)abusinessor(2)ameasurableinternaleventYStraight-LineDepreciationMethodthatsuchastheuseofassetsinoperations.(50)Yield(Effective-InterestRate)ThecurrentallocatesthecostofanassetinequalTransactionAnalysisTheprocessofrateofinterestonadebtwhenincurred;alsoperiodicamountsoveritsusefullife.(399)studyingatransactiontodetermineitscalledthemarketinterestrate.(510)lib11021_glo_G1-G6.inddG–529/07/1011:10AM Thispageintentionallyleftblank ConfirmingPagesCREDITSChapter1Exxon logoisregisteredtrademarkofDeckers logoisatrademarkofDecker’sOpener: ©MarkRichards/PhotoEdit.ExxonMobilCorporationandareusedwithOutdoorCorporationandareusedwithPage9: APPhoto/MatthiasRietschel.permission.permission.Page12: ©ReedKaestner/Corbis.CedarFair logoisatrademarkofCedarFair,Siemens logoisatrademarkofSiemensAGP&G logocourtesyofProctor&GambleL.P.andareusedwithpermission.andareusedwithpermission.Corporation.Wendy’s logoregisteredtrademarkofTootsieRoll logocourtesyofTootsieRollChapter4Wendy’sInternational,Inc.andareusedwithIndustries.permission.Opener: ©KurtBrady/Alamy.Walgreens logocourtesyofWalgreens.Dell logoisatrademarkofDellInc.andarePapaJohn’s logocourtesyofPapaJohn’sUrbanOutfitters logocourtesyofUrbanusedwithpermission.Pizza.Outfitters,Inc.WallStreetJournal excerpt“Ex-officialatDell logoisatrademarkofDellInc.andareSymbolpleadsguilty”KaraScannel,TheWallusedwithpermission.StreetJournal,March26,2003.CopyrightChapter2©2003DowJones&Co.Inc.UsedwithOpener: ©EzioPeterson/UPIPhoto/Chapter5permission.NewsCom.Opener: ©HunterMartin/Getty.PapaJohn’s logocourtesyofPapaJohn’sPage241: ©KimKulish/Corbis.Chapter7Pizza.CallawayGolf logoisaregisteredtrademarkOpener APPhoto/PatrickLux.Wendy’s logoregisteredtrademarkofofCallawayGolfCompanyandareusedwithPage335: ©StevenRubin/TheImageWorks.Wendy’sInternational,Inc.andareusedwithpermission.Page353: ©Creatas/DigitalVision.permission.Yahoo!Finance screenshotisreproducedCaterpillar logoisaregisteredtrademarkofLance ®andtheLANCE®logoareregisteredwithpermissionofYahoo!Inc.©2010CaterpillarIncandareusedwithpermission.trademarksofLanceInc.andareusedwithYahoo!Inc. YAHOO!andtheYAHOO!logoDell logoisatrademarkofDellInc.andarepermission.are registeredtrademarksofYahoo!Inc.usedwithpermission.Yum! logocourtesyofYum!Brands,Inc.CFOMagazine, “HowGreenismyCompany?”JCPenney logoisatrademarkofJCPenneyNike logoregisteredtrademarkofNike,Inc.RussBanham,October2004pp.97-100.CompanyInc.andareusedwithpermission.andareusedwithpermission.Copyright©2004.Reprintedbypermission.Ford logoisatrademarkofFordMotorBMW logoregisteredtrademarkofBayerischeAnalyst’sAccountingObserver ExcerptUsedCompanyandareusedwithpermission.MotorenWerkeAGandareusedwithwithpermission.Gibson logoTrademarkisownedbyAGC,permission.CampbellSoup isaregisteredtrademarkofInc.Reproducedbypermission.AmericanSheraton, FourPoints,W,Aloft,TheLuxuryCampbellSoupCompanyandareusedwithGreetingsCorporation.©AGC,Inc.Collection,LeMéridien,ElementWestin,St.permission.GM logoisatrademarkofGeneralMotorsRegisandtheirrespectivelogosaretheKroger logoisaregisteredtrademarkofCompanyandareusedwithpermission.trademarksofStarwoodHotels&ResortsTheKrogerCo.ofMichiganandisusedwithGE logoisatrademarkofGeneralElectricWorldwide,Incoritsaffiliatesandareusedpermission.Companyandareusedwithpermission.withpermission.Lance ®andtheLANCE®logoareregisteredDana logoiscourtesyofDanaHoldingExxon logoisregisteredtrademarkoftrademarksofLanceInc.andareusedwithCorporation.ExxonMobilCorporationandareusedwithpermission.permission.TiffanyandCo. logoisaregisteredChapter8Dell logoisatrademarkofDellInc.andaretrademarkofTiffanyLLCandareusedwithusedwithpermission.permission.Opener ©CNSPhotocourtesyofMattel isatrademarkofMatell,Inc.andareAeropostale logoisatrademarkofPRNewsFoto/NewsCom.usedwithpermission.Aeropostaleandareusedwithpermission.Page394: ©APPhoto/TedS.Warren.EthanAllen logocourtesyofEthanAllenRubbermaidlogo isaregisteredtrademarkPage408: ©JuanSilva/Iconica/GettyImages.InteriorsInc.ofNewellRubbermaidandareusedwithPage412: ©MartinSasse/Laif/Aurora.permission.Southwest logoisatrademarkofSouthwestAhold logoisatrademarkofRoyalAholdandAirlinesCo.andareusedwithpermission.Chapter3areusedwithpermission.Exxon logoisregisteredtrademarkofOpener: ©MichaelNewman/PhotoEdit.ExxonMobilCorporationandareusedwithPapaJohn’s logocourtesyofPapaJohn’spermission.Chapter6Pizza.Macy’s logoisatrademarkofMacy’sInc.andMattel isatrademarkofMattel,Inc.andareOpener: ©ZumaSports/NewsCom.areusedwithpermission.usedwithpermission.Page281: ©TRBfoto/GettyImages.Ford logoisatrademarkofFordMotorWendy’s logoregisteredtrademarkofPage299: ©JeffGreenberg/TheImageCompanyandareusedwithpermission.Wendy’sInternational,Inc.andareusedwithWorks.GM logoisatrademarkofGeneralMotorspermission.Page303: ©SpencerGrant/PhotoEdit.Companyandareusedwithpermission.CR–1lib11021_cre_C1-C2.inddCR–131/07/108:56AM ConfirmingPagesCR–2CREDITSFM(Freeport) logoisatrademarkofPhelpsDodge logoisatrademarkofRedhookAleBrewery logoisaregisteredFreeport-McMoRanCopper&GoldInc.andFreeport-McMoRanCopper&GoldInc.andtrademarkofCraftBrewersAlliance,Inc.areusedwithpermission.areusedwithpermission.(CBAI)andareusedwithpermission.SingaporeAirlines logoisatrademarkofFord logoisatrademarkofFordMotorMillerCoors logocourtesyofMillerCoors.SingaporeAirlinesLimitedandareusedwithCompanyandareusedwithpermission.SamuelAdams isaregisteredtrademarkofpermission.BostonBeerCoandareusedwithpermission.StanleyFurniture logocourtesyofStanleyChapter11Chapter9FurnitureCompany.Opener: APPhoto/AlBehrman,file.TimeWarner logoisaregisteredtrademarkOpener: ©JonathanFickies.Page557: ©DavidYoung-Wolff/PhotoEdit.ofTimeWarnerInc.andareusedwithPage462: APPhotos/KevinP.Casey.Page562: ©MonikaGraff/TheImageWorks.permission.Page465: ©MarkRichards/PhotoEdit.Page563: ©JoelGordon.Pepsi logo—thismaterialcontainsvaluableGeneralMills LogoisaregisteredtrademarkRadioShack logoisaregisteredtrademarktrademarksownedandusedbyPepsiCo,ofGeneralMills,Inc.andisusedwithofRadioShackCorporationandareusedwithInc.anditssubsidiariesandaffiliatespermission.permission.todistinguishproductsandservicesofPepsi logo—thismaterialcontainsvaluableDillard’s logocourtesyofDillard’s.outstandingquality.Usedwithpermission.trademarksownedandusedbyPepsiCo,DukeEnergy logoisaregisteredtrademarkGibraltarIndustries logocourtesyofInc.anditssubsidiariesandaffiliatesofDukeEnergyCorporationandareusedwithGibraltarIndustries,Inc.todistinguishproductsandservicesofpermission.RockyMountainChocolateFactory logoisoutstandingquality.Usedwithpermission.HaynesInternational isatrademarkofaregisteredtrademarkofRockyMountainDell logoisatrademarkofDellInc.andareHaynesInternationalCorp.andareusedwithChocolateFactoryandareusedwithusedwithpermission.permission.permission.Ford logoisatrademarkofFordMotorCompanyandareusedwithpermission.Chapter12Exxon logoisregisteredtrademarkofChapter14ExxonMobilCorporationandareusedwithOpener: APPhoto/GeraldHerbert.permission.Page602: ©TimSloan/AFP/Getty.Opener: ©EPA/JoshuaGatesWeisberg/Page614: ©Studio101/Alamy.Corbis.Macy’s logoisatrademarkofMacy’sInc.andPage702: ©JimMcIsaac/Getty.Chapter10areusedwithpermission.Page709: ©MichaelNewman/PhotoEdit.Opener: ©JonathanAlcorn/Bloomberg/P&G logocourtesyofProctor&GambleGetty.Corporation.Page509: ©Artville/Getty.Chapter13Cintas logoisaregisteredtrademarkPage518: ©JohnGress/Reuters/Corbis.Opener: CourtesyofNationalBeverageCorp.ofCintasCorporationandareusedwithGeneralMills LogoisaregisteredtrademarkPage650: ©mauritiusimagesGmbH/Alamy.permission.ofGeneralMills,Inc.andisusedwithNationalBeverage logoisaregisteredJCPenney logoisatrademarkofJCPenneypermission.trademarkofNationalBeverageCorporationCompanyInc.andareusedwithpermission.JCPenney logoisatrademarkofJCPenneyandareusedwithpermission.Pepsi logo—thismaterialcontainsvaluableCompanyInc.andareusedwithpermission.Snapple logoisaregisteredtrademarkoftrademarksownedandusedbyPepsiCo,Kroger logoisaregisteredtrademarkofDr.PepperSnappleGroupandareusedwithInc.anditssubsidiariesandaffiliatesTheKrogerCo.ofMichiganandisusedwithpermission.todistinguishproductsandservicesofpermission.LionNathan logoisatrademarkofLionoutstandingquality.Usedwithpermission.P&G logocourtesyofProctor&GambleNathanNationalFoodsandareusedwithDell logoisatrademarkofDellInc.andareCorporation.permission.usedwithpermission.lib11021_cre_C1-C2.inddCR–231/07/108:56AM ConfirmingPagesCOMPANY INDEXPagenumbersfollowedbynindicateBombayCompany,Inc.,The,724CFOMagazine,249notes.BostonBeerCompany,347CharlesSchwab,236Bristol-MyersSquibb,249Chili’s,43BrunswickCorporation,496,500ChoiceHotels,47nABuckle,The,607Chuck-E-Cheese,715AbbottLaboratories,414BurlingtonNorthernSantaFeCintas,726AbercrombieandFitch,367bondsissuedatdiscount,514–519,CiscoSystems,412Adelphia,22527–530Coach,Inc.,262Aeropostale,Inc.,268bondsissuedatpar,511–513Coca-ColaCompany,47,637,651,654,AIG,23bondsissuedatpremium,519–522,732Alcan,249530–531Colgate-PalmoliveCompany,The,626,675Alcoa,249bondspayable,507–531Compustat,234–235,737AMCEntertainment,547businessdescription,505–506ComputerAssociates,23,113AMERCO,440–441businesspress,509ConocoPhillips,372AmericanAirlines,388,491,539debt-to-equityratio,522–523ContinentalAirlines,397,398,658AmericanEagleOutfitters,39,94–95,earlyretirementofdebt,523–525Coors,670–671156–157,219–220,273–274,326,incomestatement,513Cramer,Rosenthal,McGlynn,LLC,236346,381,446,501–502,548,notestofinancialstatements,506,508CreativeTechnology,269–270592–593,633–634,686,736statementofcashflows,524–525annualreport,B-1–B-42timesinterestearned,513–514Dbalancesheet,B-12zerocouponbonds,518–519,530businessdescription,B-2–B-8DanaCorporation,381–382Form10-Kreport,B-1–B-42DaysInn,700Cincomestatement,B-13,B-14DeckersOutdoorCorporation,233notestofinancialstatements,B-17–B-42CableOne,597baddebtestimation,290–292statementofcashflows,B-16CallawayGolfbalancesheet,289statementofstockholders’equity,B-15annualreports,239–240businessdescription,279–280AmericanExpress,281auditors,233capitalacquisitionsratio,654Applebee’s,43balancesheet,240–242cashandcashequivalentaccounting,AppleInc.,4,11,14,23–24,252n,boardofdirectors,233295–301426,675businessdescription,229–230currentratio,69ArchonCorporation,585capitalacquisitionsratio,654fixedassetturnover,390Arco,47ncashflowsfromoperatingactivities,245grossprofitpercentage,284–285ArthurAndersen,22disclosureprocess,238–240incomestatement,280Athlete’sFoot,281financialanalysts,233–235notestofinancialstatements,281,284,AT&T,537fixedassetturnover,390292AuroraFoods,23incomestatement,242–244qualityofincomeratio,651AvonProducts,Inc.,272–273investorcommunications,236–240receivablesaccounting,286–294A&W,69,183ninvestors,236receivablesturnover,290–292AXAFinancial,Inc.,236managers,232returnonassets(ROA),250notestothefinancialstatements,salesrevenueaccounting,246–248280–285,304Bregulators,231–232statementofcashflows,293–294,295BallyTotalFitnessHoldingCorporation,returnonassets(ROA),249–252Deere&Company,205,352499–500statementofcashflows,245–246Dell,Inc.,4,8,11,14,51,91–92,96–97,BarringtonResearch,234statementofstockholders’equity,245209,316,346,347,370,495–496,BaxterInternational,249stockmarketreactionsto588–589,734–736BeazerHomes,23announcements,238balancesheet,734–735BestBuy,4voluntarydisclosures,249incomestatement,735–736BHPBilliton,672CampbellSoupCo.,262DeloitteIASPlus,19BigDogHoldings,Inc.,154CardinalHealth,22Deloitte&Touche,25,233Bi-Lo,98CaribouCoffee,458DeltaAirLines,388,390Black&Decker,409CarlyleGolf,Inc.,688Diageo,634Blockbuster,Inc.,413CaterpillarInc.,352,382Dillard’s,578–579BMWGroup,107,331CedarFair,L.P.,152DirectTV,545I–1lib11021_cidx_I1-I4.inddI–129/07/109:49AM ConfirmingPagesI–2COMPANYINDEXDisney,412,496,539,624Hnetprofitmargin,182DollarGeneralCorporation,725operatingcycle,710–711Halliburton,23,496,593Domino’sPizza,Inc.,43,182,183otherfinancialinformation,715–716Harley-Davidson,389currentratio,68–69price/earnings(p/e)ratio,713balancesheet,332totalassetturnoverratio,127profitmargin,706businessdescription,331–333DrPepperSnappleGroup,444–445,642,qualityofincomeratio,705controlofinventory,353–354,359–360650,657quickratio(acidtest),708–709costofgoodssold,336–337DukeEnergy,583,713ratioandpercentageanalysis,700–717currentratio,69Dynegy,23receivableturnoverratio,709grossprofitpercentage,284returnonassets(ROA),704incomestatement,332Ereturnonequity(ROE),702inventory,333–336statementofcashflows,694–695EasternMountainSports,281inventorycostingmethods,338–344timesinterestearned,712EastmanKodak,448inventorymanagement,347–349totalassetturnoverratio,127EdwardJones,691,705inventorymethodsandfinancialHomestore.com,23ElectroluxCorporation,544statementanalysis,350–352HondaMotorCo.,31,331,342,347Enron,22,230,232,688–689inventoryturnover,348Ernst&YoungLLP,25,164,233inventoryvaluation,346–347IEthanAllenInteriors,Inc.,94LIFOliquidations,357–358ExxonMobilCorporation,89,155–156,netprofitmargin,182IBMCorporation,413401,500,713notestofinancialstatements,334,347,Intel,346351InternationalPaper,410FperpetualversusperiodicinventoryInvestorsChronicle,652systems,353–354,359–360Facebook,102purchasediscounts,359JFannieMae,23purchasereturnsandallowances,358JCPenneyCompany,Inc.,365,548,727FedEx,151–152,315,429,430,434returnonassets(ROA),250JetBlueAirways,388,397FedExKinko’s,249,409statementofcashflows,349FidelityInvestments,234totalassetturnoverratio,127KFirstTeamSports,Inc.,371Hasbro,Inc.,264,426FontanaShoes,286Kaplan,Inc.,597HaynesInternational,586–587FootLocker,Inc.,88KFC,69,127,183n,413HealthSouth,23FordMotorCompany,342,371,409,585KPMG,25,233Hechinger,715FourSeasons,700KrogerCo.,262–263,713HersheyCompanyFreddieMac,23balancesheet,552balancesheet,730–731Freeport-McMoRanCopper&GoldInc.,431businessdescription,551–552,553incomestatement,730FusionTechnology,230cashdividends,560–562,565–567Hertz,406cashflowsfromfinancingactivities,567HessCorporation,448–449Gcommonstocktransactions,556–559Hewlett-PackardCompany,199–200,dividendyield,560GameStop,584252,673earningspershare(EPS),556TheGap,Inc.,441–442Hilton,700noticeofannualmeeting,554GeneralElectric,22,47,378,713HolidayInn,409preferredstock,565–567GeneralElectricPensionFund,229HomeDepot,409,524,567statementofcashflows,567GeneralMills,500,524,594balancesheet,693–694stockdividends,563–564grossprofitpercentage,284businessdescription,691–695stockownership,553–556inventoryturnover,347businessstrategyof,697–698stocksplits,564qualityofincomeratio,651cashcoverageratio,712refinanceddebt,464–465cashratio,707–708Lzerocouponbonds,519,530componentpercentages,700–702GeneralMotorsCorporation,249,342,currentratio,708Lance,Inc.,262377–378,429,713debt-to-equityratio,712–713LaQuinta,700GerberScientific,23dividendyield,713–714Limited,The,713GiantFoodStores,98earningspershare(EPS),705LionNathan,671GibraltarIndustries,678financialleveragepercentage,704LittleCaesar’s,43GibsonGreetingCards,354,372financialstatementanalysis,698–700LoneStarIndustries,566–567GilfordSecurities,234fixedassetturnover,706–707LongJohnSilver’s,69,183nGlaxoSmithKline,107incomestatement,692Lowe’s,567,691,699,701,704,707,709,Goldman,Sachs&Co.,247inventoryturnover,347,710–711724GolfUSA,47ninvestmentdecisionsfor,696–697Lucent,713lib11021_cidx_I1-I4.inddI–229/07/109:49AM ConfirmingPagesCOMPANYINDEXI–3MPReebok,672Reuters,41,69,99,160,226,277,328,Macy’s,Inc.,407,624PapaJohn’sInternational,233,240,243,383,447,549,635,705,737MadoffInvestmentSecurities,113265,389Reuters.com,99,160,235MarbleSlabCreamery,47naccountingcycle,165Rite-AidCorporation,23,113MarriottInternational,Inc.,406,430–431,accrualaccounting,108–113RobertMorrisAssociates,700451,700adjustingentries,167–175,177RockyMountainChocolateFactory,Inc.,MasterCard,281,709balancesheet,47–49,66–69,124,687–688Mattel,Inc.,92–93,126180–181RoyalAhold,276–277McDermottInternational,546businessdescription,43–44,101–102,Ruth’sChrisSteakhouse,579McDonald’sCorporation,11,393,490,163–164697cashflowsfromoperatingactivities,McKesson,23125–126SMerrillLynch,229,234,688–689cashflowsfromoperations,181–182Safeway,509,556,560MicrosoftCorporation,253–254,314changesinfinancialstatementamounts,Satyam,22MiniScribe,22,35450–52Saucony,Inc.,323MirageResorts,700closingentries,163–164,183–184Sears,RoebuckandCompany,409,509,Moody’s,509currentratio,68–69583,727MorganJoseph&Co.,234endofaccountingcycle,163–164,SenecaFoods,382–383MSNBC,597183–184SiemensAG,313–314estimatingrevenuesandexpensesatyearSingaporeAirlines,398,404,436–437Nend,163–164Skechers,284financialstatementpreparation,177–183Slate,597NationalBeverageCorp.,389financialstatementpreparationandSonicCorp.,631balancesheet,642–643,644analysis,122–126SonyCorporation,275,403businessdescription,637–638fixedassetturnover,390SouthwestAirlinescapitalacquisitionsratio,654grossprofitpercentage,284acquisitioncost,389–393cashflowsfromfinancingactivities,641,incomestatement,103–123,123,assetimpairment,406–407655–657179–180balancesheet,390cashflowsfrominvestingactivities,641,inventoryturnover,347businessdescription,387–388652–655,664–665netprofitmargin,182–183depreciation,396–406,414–415,cashflowsfromoperatingactivities,notestofinancialstatements,125418–419639–640,645–652,660–663,operatingactivities,125–126disposalofplantandequipment,665–667qualityofincomeratio,651408–409incomestatement,642,644returnonassets(ROA),250fixedassetturnover,390–391netincrease(decrease)incash,statementofcashflows,70–71,intangibleassets,409–415641–642181–182plantandequipment,389–403noncashactivities,658statementofstockholders’equity,123–repairsandmaintenance,394–395qualityofincomeratio,651124,180statementofcashflows,414–415statementofcashflowsclassifications,totalassetturnoverratio,127totalassetturnoverratio,127638–642transactionanalysis,52–65,116–119Standard&Poor’s,509statementofcashflowspreparationwithtrialbalance,165–166,178,183–184,186StanleyFurniture,672spreadsheet,665–667Parmalat,22,107StanleyWorks,23statementofcashflowsrelationshipstoPeet’sCoffee&Tea,319,458StarbucksCorporation,212–213,233,432,otherfinancialstatements,642–645PepsiCo,Inc.,406,489–490,497,637,491–492,567,626–627statementofcashflowsstructure,651,654,676–677,713,732accountspayableturnover,460657–658PhelpsDodgeCorporation,581balancesheet,456NBC,597PhilipMorris,577businessdescription,455–456NewellRubbermaidInc.,270PizzaHut,Inc.,43,69,101,127,183ncurrentliabilities,457–469Newsweekmagazine,597PizzaInn,Inc.,68–69currentratio,69NewYorkStateLotteryCommission,503Polaris,347deferredtaxes,480–481NewYorkTimesCompany,The,148PricewaterhouseCoopers,25,229,233long-termliabilities,464–465,469–471NFJInvestmentGroupLLC,236Procter&Gamble,30–31,583–584,589,notestofinancialstatements,467Nike,Inc.,84713,724–725presentvalueconcepts,471–477Nortel,22quickratio(acidtest),458statementofcashflows,467–468ORworkingcapitalmanagement,467–468Oracle,713RadioShackCorporation,588StarwoodHotels&ResortsWorldwide,OutbackSteakhouse,524RedhookAleBrewery,659–66088–89lib11021_cidx_I1-I4.inddI–329/07/109:49AM ConfirmingPagesI–4COMPANYINDEXStrideRite,316UrbanOutfitters,Inc.,39,156–157,capitalacquisitionsratio,654Subway,47n219–220,274,326,381,446,502,consolidatedfinancialstatements,598Supercuts,47n548,593,634,686,736debtheldtomaturity,600–601SymbolTechnologiesInc.,327annualreport,C-2–C-30investmentinstockforcontrol,600,SyscoCorporation,143–144,447balancesheet,C-3614–616Form10-Kreport,C-2–C-30investmentinstockforsignificantTincomestatement,C-4influence,599,609–613notestofinancialstatements,C-7–C-31mergersandacquisitions,600,TacoBell,69,127,183nstatementofcashflows,C-6614–616Target,314statementofshareholders’equity,C-5netprofitmargin,182TELPRI(TelecommunicacionesdePuertoUSAirways,393,398notestofinancialstatements,615Rico,Inc.),255passiveinvestments,599,601–607,TexasInstruments,725V613–614ThomsonResearch,234–235WedbushMorgan,234Tiffany&Co.,265VailResorts,Inc.,144Wendy’sInternational,Inc.,150Timberland,284ValueLine,234WholeFoodsMarket,556,560,591TimeWarnerInc.,675VerizonCommunications,Inc.,83,255,WolverineWorldWide,Inc.,143,311TimHortons,587395,451,631WorldCom,22,113,230,232,395,451TootsieRoll,31Visa,281,709WynnResorts,537ToyotaMotorCorporation,470ToysRUs,103,185WYTwitter,102W.T.Grant,652Tyco,23Yamaha,331WachoviaCapitalMarkets,234YouTube,102WalgreenCo.,32,713UYum!Brands,Inc.,69,127,182,183,Wal-MartStores,11183n,413Unilever,107WaltDisneyCompany,412,496,539,624UnitedAirlines,388,390WashingtonPostCompanyZUnitedParcelServiceInc.,430balancesheet,598U.S.FoodserviceInc.,98businessdescription,597–598ZZZZBest,113lib11021_cidx_I1-I4.inddI–429/07/109:49AM ConfirmingPagesSUBJECTINDEXPagenumbersfollowedbynindicateAccountsreceivablesecuritiesavailableforsale,606notes.accruedrevenues,170–171typesof,167–168agingof,291unearnedrevenues,167,169–170,176,baddebtsand,286–294465Aonthebalancesheet,280Affiliates,investmentsin,597–598,Accelerateddepreciation,401–403cashflowsand,293–294,295609–612Account(s)changein,647,650Agingmethod,forbaddebtexpense,294chartof,51–52controlover,292–294Agingofaccountsreceivable,291defined,51defined,286Allowancefordoubtfulaccounts,287,288,inforeignfinancialstatements,107receivablesturnover,292–293,703,709291,295impactoftransactionson,52–56reporting,288–289Allowancemethod,287natureof,51–52Accrualaccounting,108–113Alternativeaccountingmethods,247Accountingaccruedrevenues,167,170–171,176AmericanInstituteofCertifiedPublicaccrualbasis,108–113incometaxes,174–175,461Accountants(AICPA),22,25assumptionsof,45–46AccruedexpensesAmericanStockExchange(AMEX),558careersin,25–26changein,648–649Amortizationcashbasis,107–108defined,167,173ofbondsissuedatadiscount,510,defined,4typesof,173–175514–519,521natureofbusinesstransactions,50Accruedliabilities,460–463ofbondsissuedatapremium,519–522Accountingcommunication,18–22,accruedcompensationandrelatedcosts,defined,411229–255461–462effective-interestmethods,516–518,auditingin,20–21accruedtaxespayable,461521–522,528–529,531disclosureprocess,238–240deferredtaxes,480–481ofintangibleassets,411–415ethicsand,21–22payrolltaxes,462–463straight-linemethods,515–516,519–522financialstatementsin,236–237.Accruedrevenues,108–109Amortizedcostmethod,forheld-to-SeealsoFinancialstatement(s)defined,167,170maturityinvestments,600–601generallyacceptedaccountingtypesof,170–171,176Announcements,stockmarketreactionsprinciples(GAAP),18–19,49,231,Accumulateddepreciation,172,397to,238247,405,649Acidtest,458,703,708–709Annualreports,6,239–240legalliabilityand,21–22Acquisitioncost,389–393Annuityplayersin,231–237forcash,391defined,473reputationand,22byconstruction,392–393futurevalueof,482–483,A-3(table)returnonassets(ROA)analysis,249–252,fordebt,392presentvalueof,473–474,476–477,703,704defined,391479–480,A-1–A-2(table)Accountingcycleforequity,392Asset(s).Seealsospecificassetsdefined,165ofintangibleassets,409–415adjustingentriesfor,167during-periodstepsin,57,165ofnaturalresources,409–410onbalancesheet,8–9,46–47end-of-periodstepsin,57,163–169,Additionalpaid-incapital(paid-incapital),defined,46183–184,287242depreciationof.SeeDepreciationAccountingentity,7–8Additions,toproperty,plant,anddisposalof,408–409Accountingequation,8,53–55,122,equipment,394–395historicalcostprincipleand,642–643Adjustingentries,16446–47,411Accountingperiod,10accruedexpenses,167,168–169,173–175impairmentof,406–407Accountingstaff,232accruedrevenues,167,170–171,176intangible,242,389,409–415Accountingstandards.SeealsoGenerallyadjustmentprocess,168–175interpreting,9acceptedaccountingprinciples(GAAP)forbaddebtexpenseestimates,287recording,167FinancialAccountingStandards(FAS),19deferredexpenses,167,171–173tangible,389InternationalFinancialReportingdeferredrevenues,167totalassetturnoverratio,68,127Standards(IFRS),19,67,107,237,defined,167typicalaccounttitles,51405,414,466,565,649endoftheaccountingperiod,57,167,unrecorded,47Accountspayable,459–460183–184,287Assetturnover,68,127,251,252changein,648forexpenses,165–175Associatedcompanies,investmentsin,defined,459purposeof,167597–598,609–612Accountspayableturnover,460forrevenues,165–175Assuranceservices,25I–5lib11021_sidx_I5-I20.inddI–529/07/105:57PM ConfirmingPagesI–6SUBJECTINDEXAudit(s)Bankruptcy,bondspayableand,507Cdefined,20Bankservicecharges,299,300,301nCallablebonds,508natureof,20–21BankstatementsCallaway,Ely,229Auditcommittee,233contentsof,297Capital,contributed,49,242,552,656Auditingdefined,297Capitalacquisitionsratio,654auditorassuranceservices,25exampleof,298Capitalexpenditures,defined,394managementresponsibilityfor,20–21reconciliationof,297–301Capitalgains,49Auditors,233Basicaccountingequation,8,53–55,122,Capitalization,389,395,410Auditreports,20642–643Capitalizedinterest,392–393Authorizednumberofshares,554,555Beginninginventory(BI),incostofgoodsCapitalleases,471Averagecollectionperiod,293sold,336–337Capitalstructure,505–506Averagecostinventorymethod,341Beginning-of-the-yearretainedearnings,Caporella,Nick,637Averagedays’salesinreceivables,29313CareersAveragedays’supplyininventory,710Boardofdirectors,233,553accounting,25–26Bond(s),469–470,505–531.Seealsojobsearches,235BBondspayableCarryingvalue,173,397.Seealsocashflowsfromfinancingactivities,655,Baddebt(s),286–294Netbookvalue656accountingprocessfor,287Carter,William,277defined,505–506allowancemethod,287Cash,295–301held-to-maturity,600–601estimating,287,290–292acquisitioncostbasedon,391asinvestments,600–601recording,287notestofinancialstatements,506onthebalancesheet,280reporting,288–289typesof,507–508bankreconciliations,297–301summaryofaccountingprocess,288zerocoupon,518–519,530forcashdividends,561writingoffspecificuncollectibleBondcertificate,509cashmanagement,296accounts,287,292Bonddiscounts,510,514–519,521,convertingoperatingexpensestoBaddebtexpense,287,294527–530outflowof,662–663Balancesheet,6,7–9.SeealsoFinancialBondpremium,510,519–522,530–531convertingrevenuesto,660–661statement(s)Bondprincipal,507,509,601defined,295accountbalanceson,57–59Bondspayable,469–470.SeealsoBond(s)internalcontrolof,296–297accountsreceivableon,280bankruptcyriskand,507matchingprincipleand,111–112basicaccountingequationand,8,53–55,cashflowsand,507,524,525netincrease(decrease)in,641–642122,642–643characteristicsof,507–509revenueprincipleand,108–109chartofaccounts,51–52debt-to-equityratio,522–523,703,Cashbasisaccounting,107–108classified,66–67,124–125,240–242712–713,715Cashcoverageratio,703,712consolidated,598,644earlyretirementof,523–525Cashdiscounts(salesdiscounts),convertingtoFIFOinventorymethod,issuedatadiscount,510,514–519,521,282–283,304351–352527–530,600Cashdividendsdefined,7issuedatapremium,510,519–522,oncommonstock,553,560–562elementsof,8–9,18,46–49530–531,600impactonstockprice,562estimatedliabilitiesreportedon,465issuedatpar,511–514onpreferredstock,565–566formulafor,8,53–55,122,642–643parvalueof,507,509Cashequivalentprice,391passiveinvestmentson,601–602,605reportingtransactionsin,509–522Cashequivalents,295–301permanent(real)accounts,177,183timesinterestearned,513–514,bankreconciliations,297–301preparing,66–69,124–125,177,703,712incashmanagement,296180–181typesof,507–508defined,296,639purposeof,7,18Bonuses,17,175internalcontrolof,296–297relationshipswithotherfinancialBookvalueonstatementofcashflows,638–639statements,16,642–645asapproximationofremaininglife,397Cashequivalentsalesprice,281structureof,7–9,18defined,173Cashflows.SeealsoStatementofcashtemporary(nominal)accounts,fairvalueversus,406flows177,183net,173,180,288,397accountsreceivableand,293–294,295transactionanalysis,52–56,119Buildings,defined,389bondspayableand,507,524,525Balancesheetequation,642–643Bush,George,229depreciationofproductiveassets,balancing,53–54Businessentities414–415described,8,122accountingforowners’equity,569–572fromfinancingactivities.SeeCashflowsBankreconciliation,297–301salesdiscountsto,282–283fromfinancingactivitiesdefined,297salesto,281impactofdividendpaymentson,567illustrationof,299–301typesof,24–25inventorymanagementand,needfor,297–299Businessstrategy,251–252,697–698348–349lib11021_sidx_I5-I20.inddI–629/07/105:57PM ConfirmingPagesSUBJECTINDEXI–7frominvestingactivities.SeeCashflowsauthorizedshares,554,555Contra-accounts,172,180,287,frominvestingactivitiescashdividendson,553,560–562351,558fromoperatingactivities.SeeCashflowscashflowsfromfinancingContra-assetaccounts,180,287,351fromoperatingactivitiesactivities,655Contractrateofinterest,509workingcapitaland,467–468,650characteristicsofownership,553–554Contra-equityaccounts,558Cashflowsfromfinancingactivities,controllinginterestsin,600,614–616Contributedcapital,49,242,552,65670–71,245,567,655–657defined,557Contributedcapitalinexcessofpar,242defined,15,641dividendspayable,560–562,563–564Controllinginterests,614–616interpreting,656–657earningspershare(EPS),107,180,244,consolidatedfinancialstatementsfor,reporting,655–657556,703–705598,615–616Cashflowsfrominvestingactivities,initialsaleof,557,558defined,60070–71,245,603,606,611issuedforemployeenatureof,600adjustmentsforgainsandlossesonsalecompensation,558Convertiblebonds,508oflong-termassets,664–665issuedshares,554,555Copyrightsdefined,15,641outstandingshares,554–556amortizationof,413interpreting,653–655passiveinvestmentin,599,601–607defined,413investmentsforsignificantinfluence,repurchaseof,558–559Corporategovernance,230,553613–614saleinsecondarymarkets,557–558Corporations,24–25reporting,652–653securitiesavailableforsale,602–603ownershipof,553–556,565–566.Cashflowsfromoperatingactivities,stockdividendson,563–564SeealsoStockholders’equity639–640stocksplitson,564Costallocation,indepreciation,396adjustmentsforgainsandlossesonsaletradingsecurities,602,606–607Cost-benefitconstraint,236oflong-termassets,664–665Communication.SeeAccountingCost-differentiationstrategy,697conversionofnetincometo,645–649communicationCostinexcessofnetassetsacquired,defined,14–15,639Companystrategy,251–252,697–698614–616directmethod,125–126,245,640,655,Comparableinformation,inaccountingCostofgoodssold660–663communicationprocess,236convertingtocashpaidtosuppliers,fraudand,652Comparativebalancesheets,642661–662indirectmethod,125–126,245,Comparisonwithsimilarcompanies,equationfor,336–337645–649,659699–700inventoryin,336–337,339,340interpreting,650Compensationnatureof,331,336–337qualityofearningsand,181–182accruedcompensationandrelatedcosts,Costofgoodssoldequation,336–337reporting,639–640,645–649Cashmanagement,296461–462Costofsales,106Cashratio,703,707–708bonusesin,17,175Costprinciple,389,410Cash-to-cash(operating)cycle,103–104,payrolltaxes,462–463Couponrate,509710–711salariesexpensein,106Covenants,bond,508Certifiedinternalauditors(CIAs),25,26stockissuedfor,558Creditbalances,115,605Certifiedmanagementaccountants(CMAs),Completeincomestatement,642Creditcarddiscounts,282,30425,26Componentpercentages,700–702Creditcardsales,281–282,304Certifiedpublicaccountants(CPAs),20,Compoundentries,60Creditmanagers,1725–26,231Compounding,powerof,483Creditors,4ChairmanandchiefexecutiveofficerComprehensiveincome,604inaccountingcommunicationprocess,(CEO),232Conservatismprinciple,50,237,346236Chapman,James,652nConsistentinformation,inaccountingCredits,inTaccounts,58–59,62Chartofaccounts,51–52communicationprocess,236CreditsalesChieffinancialofficer(CFO),232Consolidatedfinancialstatementsbaddebts,286–294Ciesielski,Jack,230balancesheet,598,644business,282–283Classifiedbalancesheet,66–67,124–125,foracontrollinginterest,598,615–616consumer,281–282240–242incomestatement,644termsfor,282–283Classifiedincomestatement,123,natureof,616Creditterms,282–283242–244Construction,acquisitioncostbasedon,Cross-sectionalanalysis,252Cleanauditopinions,233392–393Cumulativedividendpreference,566Clinton,Bill,229ConsumersCurrentassetsClosingentries,183–184creditcardsalesto,281–282defined,47Closingthebooks,164salesto,281natureof,47,67Cohen,AbbyJoseph,247,247nContingentliabilities,465–467tradingsecuritiesas,602,606–607Common-sizedincomestatements,183Continuingoperations,incomestatementworkingcapitalmanagement,467–468,Commonstock,553–564.SeealsoStockand,242–243650marketContinuityassumption,46,242–243Currentdividendpreference,565–566lib11021_sidx_I5-I20.inddI–729/07/105:57PM ConfirmingPagesI–8SUBJECTINDEXCurrentliabilities,459–469Depreciablecost,399preferredstock,565–567accountspayable,459–460,648Depreciation,396–403restrictionsonpaymentof,566–567accruedliabilities,460–463,480–481accumulated,172,397onstatementofretainedearnings,13onthebalancesheet,465alternativemethods,398–403stock,563–564currentportionoflong-termdebt,calculating,398Dividendyield,560,703,713–714464–465changesinestimates,418–419Double-declining-balancerate,402–403deferredrevenues,167,169–170,176,conceptsconcerning,396–398Doubtfulaccounts,allowancefor,287,465declining-balancemethod,401–403288,291,295defined,48,457defined,396DuPontanalysis,251,697–698natureof,67effectonstatementofcashflows,During-periodsteps,inaccountingcycle,inthenotes,465–467414–41557,167notespayable,463–464,469–470,655,estimating,173656managerchoiceofmethod,404–406Erefinanceddebt,464–465straight-linemethod,399–400,403,Earningsworkingcapitalmanagement,467–468418–419qualityof,181–182Currentmarketvalue,397summaryofmethods,403unexpected,238Currentportionoflong-termdebt,intaxreporting,405–406,415Earningsforecasts,233–234464–465units-of-productionmethod,400–401,Currentratio,68–69,703,708403Earningspershare(EPS),107,180,244,Currentreceivables,286Depreciationexpense,397556,703–705Customers,4Depreciationschedule,399–400Ebbers,Bernie,113Cut-offerrors,163–164Directlaborcost,335–336Economiclife,398Directmaterials.SeeRawmaterialsEconomicreturnfrominvesting,609inventoryEconomy-widefactors,ininvestmentDDirectmethoddecision,696Debentures,508forcashflowsfromoperatingactivities,Effective-interestrate,510,512Debitbalances,115,605125–126,245,640,655,660–663amortizationofbondsissuedataDebits,inTaccounts,58–59,62forstatementofcashflows,640discount,516–518,528–529Debt.SeealsoBaddebt(s);Bond(s);BondsDisclosure,238–240.SeealsoFinancialamortizationofbondsissuedatapayable;Notespayablestatement(s)premium,521–522,531acquisitioncostbasedon,392annualreportsin,6,239–240Efficientmarkets,717incapitalstructure,505–506disclosuresaboutmarketrisks,240Electronicfundstransfer(EFT),297cashflowsfromfinancingactivities,655full-disclosureprinciple,236Elementscurrentportionoflong-term,464–465pressreleasesin,238–239ofbalancesheet,8–9,18,46–49heldtomaturity,600–601quarterlyreportsin,6,240defined,5notesreceivable,286–292SECreportsin,240ofincomestatement,11,18,104–107passiveinvestmentsin,599stockmarketreactionstoearningsofstatementofcashflows,14–15,18,refinanced,464–465announcements,238245Debtcovenants,restrictive,566–567voluntary,249ofstatementofretainedearnings,Debt-to-equityratio,522–523,703,712–Discontinuedoperations,25513–14,18713,715Discount(s)Employeebonuses,17,175Decisionmakers,45amortizationofbondsissuedat,510,Employeecompensation.SeeCompensationDeclarationdate,ofdividends,561514–519,521EmployeeFICAtaxes,462Declining-balancedepreciationmethod,bond,510,514–519,521,527–530,600Employeeincometaxes,462401–403cash,282–284,304Employees’union,17Decompositionanalysis,251creditcard,281–282,304EndinginventoryDecreasingcostinventories,344decidingtotake,283incostofgoodssold,336–337,339,340Defaultrisk,509purchase,359errorsinmeasuring,354Deferredexpenses,171–173recording,304incomebeforeincometaxes,354defined,167,171sales,282–283,304Endoftheaccountingperiodtypesof,171–173,176trade,282nadjustingentries,57,167,183–184,Deferred(unearned)revenuesDisposalofassets,408–409287defined,169,465Dividendincomeinventoryin,336–337,339,340,354examplesof,169–170,176underequitymethod,611stepsinaccountingcycle,57,163–169,Deferredtaxitems,480–481onsecuritiesavailableforsale,603,606183–184,287Definitelife,ofintangibleassets,411Dividendsinarrears,566End-of-the-yearretainedearnings,13DepletionDividendspayable,4Equipment.SeealsoProperty,plant,anddefined,410cash,553,560–562equipmentofnaturalresources,409–410commonstock,560–562,563–564cashflowsfrominvestingactivities,653Depositsintransit,299,300impactoncashflows,567defined,389lib11021_sidx_I5-I20.inddI–829/07/105:57PM ConfirmingPagesSUBJECTINDEXI–9Equity.SeeCommonstock;Preferredstock;primaryobjectiveofexternalfinancialinaccountingcommunicationprocess,Stockholders’equityreportingand,45236–237EquitymethodExternalevents,50accountson,51–52defined,610Extraordinaryitems,255analysisof.SeeFinancialstatementforinvestmentsofsignificantinfluence,analysis599,609–614Fbusinessactivitiescausingchangesin,recordinginvestmentsunder,611–61250–52Faceamount,bond,507,509reportinginvestmentsunder,612consolidated,598,614–616,644Factoryoverhead,335–336Errorstodeterminevalueofcompany,21Fairvalue,bookvalueversus,406inbankreconciliationprocess,299,foreign,107.SeealsoInternationalFairvaluemethod,601–607300–301perspectiveclassifyingpassiveinvestments,602cut-off,163–164formatsof,240–249defined,601inmeasuringendinginventory,354fraudand,20,22–23,113,230forpassiveinvestments,599,600,601–607Estimatedliabilitiesinventorycostingmethodsand,342–344,FederalCommunicationsonthebalancesheet,465350–352,357–358Commission(FCC),26inthenotes,465–467managementuseof,17Federalincometaxwithheld(FITW),462Estimatedusefullife,398notesto.SeeNotestofinancialFederalUnemploymentTaxAct(FUTA),462EstimatesstatementsFellows,George,229,253baddebtexpense,287,290–292overviewof,6–18FICAtaxes,462–463changein,418–419preparationandanalysisof,122–126Financialaccountingdepreciation,173relationshipsamong,16externaldecisionmakersand,45ofexpensesatyear-end,163–164summaryof,18natureof,4,5Ethicsvoluntarydisclosures,249separaterecordsfortaxaccountingand,accountingcommunicationand,21–22Financialstatementanalysis,44,691–717.405–406accountingmethodsforminoritySeealsoBalancesheet;IncomeFinancialAccountingStandards(FAS),19investments,613statement;Ratio(percentage)FinancialAccountingStandardsBoardadjustmentsandincentives,175analysis;Statementofcashflows;(FASB),19,45,46,231,244,640fraudandcashflowfromoperations,652StatementofretainedearningsFinancialanalysts,inaccounting“greeningofGAAP”and,49alternativeaccountingmethodsand,247communicationprocess,233–234insiderinformation,716bondinformationfrombusinesspress,Financialleverage,defined,704internalcontrolofcash,297Financialleveragepercentage,703,704509inventorycostingmethodsand,344Financialposition,8bookvalueasapproximationofmanagementincentivestoviolateFinancialratios.SeeRatio(percentage)remaininglife,397accountingrules,113analysisbusinessstrategyand,697–698separaterecordsfortaxandfinancialFinancialreporting.SeealsoFinancialcapitalizationand,395reporting,405statement(s)companystrategyand,697–698sustainabledevelopmentand,249accountsreceivable,288–289comparisonwithsimilarcompanies,truthinadvertising,474–475annualreports,6,239–240699–700Expenditures,expensesversus,106baddebts,288–289componentpercentagesin,700–702Expensesbondspayable,509–522depreciationin,414–415accrued,167,173–175,648–649cashflowsfromfinancingactivities,differencesinestimatedliveswithinadjustingentriesfor,165–175655–657singleindustry,398baddebt,287,290–292cashflowsfrominvestingactivities,ofdiscounts,283convertingoperatingexpensestocash652–653efficientmarketsand,717outflow,662–663cashflowsfromoperatingactivities,fairvalueofinvestments,607deferred,167,171–173,176639–640,645–649financialstatementstodeterminevalue,defined,11,106fairvalueofinvestments,60721depreciation,397interimreports,104nfreecashflow,654–655estimatingatyearend,163–164managerchoiceofdepreciationmethod,impactofalternativedepreciationincometax,107404–405methods,403interest.SeeInterestexpenseprimaryobjectiveofexternal,45impactofchangeonaccountingoperating,106,662–663quarterlyreports,6,240adjustments,404prepaid,648separaterecordsfortaxreportingand,impactofdividendsonstockprice,562recording,167405–406insiderinformationand,716repairandmaintenance,394–395Financialstatement(s).SeealsoBalanceintangibleassets,242typicalaccounttitles,51sheet;Generallyacceptedaccountinginterpretingassets,liabilities,andExternaldecisionmakers,4,5principles(GAAP);Incomestatement;stockholders’equity,8–9generallyacceptedaccountingprinciplesStatementofcashflows;Statementofinterpretingcashflowstatement,15and,18–19retainedearningsinterpretingretainedearnings,13lib11021_sidx_I5-I20.inddI–929/07/105:57PM ConfirmingPagesI–10SUBJECTINDEXFinancialstatementanalysis—Cont.managementincentivestoviolateHorizontalgrowth,614inventorymethodsand,342–344,accountingrules,113Humanresourcemanagers,17350–352,357–358roleofaccountinginpreventing,230investmentdecisionsin,696–697Freecashflow,654–655Ijobsearchesand,235Full-disclosureprinciple,inaccountingLIFOandinventoryturnoverratio,communicationprocess,236Immaterialamounts,inaccounting347–348,352Fundamentalaccountingmodel,52communicationprocess,237LIFOliquidationsandinventoryFuturevalueconceptsImpairmentmanagement,357–358futurevalue,defined,481defined,406markettests,713–714futurevalueofannuity,482–483,measuring,406–407natureof,698–700A-3(table)Improvements,toproperty,plant,andnotestofinancialstatements,125futurevalueofsingleamount,481–482,equipment,394–395qualityofearnings,181–182A-2(table)Incomebeforeincometaxes,107,243,354ratioandpercentageanalysisin,700–717powerofcompounding,483Incomefromoperations,243refinanceddebt,464–465Incomestatement,6,10–12,103–126restrictiononpaymentofdividends,accrualaccounting,108–113G566–567analyzing,12stockmarketreactionstoaccountingGAAP.SeeGenerallyacceptedaccountingclassified,123,242–244announcements,238principles(GAAP)common-sized,183T-accountsin,62Gainscomplete,642testsofliquidity,703,707–711defined,107consolidated,644testsofprofitability,702–707onsaleofassets,106,664–665continuingoperations,242–243testsofsolvency,703,712–714unrealizedholding,602convertingtoFIFOinventorymethod,time-seriesanalysisin,252,699Generaljournal,57,59–60350–351zerocouponbonds,518–519,530Generalledger,57,60defined,10FinancingactivitiesGenerallyacceptedaccountingprincipleseffectofbusinessactivitieson,103–107cashflowsfrom.SeeCashflowsfrom(GAAP)elementsof,11,18,104–107financingactivitiesalternativeaccountingmethodsand,247formulafor,122eventsin,70applicationtocompany’sstatements,247interestexpensereportedon,513natureof,4,44depreciationmethodand,405operatingcycle,103–104,710–711Finishedgoodsinventory,334determinationof,18–19preparing,123,177,179–180First-in,first-out(FIFO)inventorymethod“greeningofGAAP”and,49purposeof,18convertingbalancesheetto,351–352importancetomanagersandexternalrecognizingandmeasuringoperatingconvertingincomestatementto,350–351users,18–19activities,107–113described,339,340internationalperspectiveoninterest,649relationshipswithotherfinancialfinancialstatementeffectsof,342–344GlobalReportingInitiative(GRI),249statements,16,642–645Fixedassets.SeeProperty,plant,andGoing-concernassumption,46structureof,10,18equipmentGoodwilltransactionanalysis,113–119Fixedassetturnover,390–391,703,amortizationof,412Incomesummary,183n706–707defined,412,614Incometaxes.SeealsoTaxreportingFixtures,defined,389.SeealsoProperty,inmergersandacquisitions,614–616deferredtaxitems,480–481plant,andequipmentGovernmentAccountabilityOffice(GAO),incomebefore,107,243,354FOB(freeonboard)destination,28126incometaxespayable.SeeIncometaxesFOB(freeonboard)shippingpoint,281Grass,Martin,113payableForecasts,earnings,233–234Grossmethod,359IncometaxespayableForeigncurrencyGrossprofit(grossmargin),243,279–280,accrued,174–175,461borrowingin,470284employee,462–463onfinancialstatements,107Grossprofitpercentage,284–285Incometaxexpense,107receivablesin,286GrowthIncreasingcostinventories,343–344Form8-K,240horizontal,614Indefinitelife,ofintangibleassets,411Form10-K,240rapid,715Indenture,bond,508Form10-Q,240sustainable,249Independentaccountants,20Franchises,44n,47n,105IndependentCPAs,20amortizationof,413IndirectmethodHdefined,413forcashflowsfromoperatingactivities,unearnedfranchisefees,169Halsey,R.,182n125–126,245,645–649,659FraudHeld-to-maturityinvestments,600–601forstatementofcashflows,245,640,andcashflowfromoperations,652High-valuestrategy,251–252658,664–667financialstatementsand,20,22–23,Historicalcostprinciple,46–47,411Individualcompanyfactors,ininvestment113,230Holiday,BradleyJ.,229decision,697lib11021_sidx_I5-I20.inddI–1029/07/105:57PM ConfirmingPagesSUBJECTINDEXI–11Industryfactors,ininvestmentdecision,incomestatementdifferences,107Investmentdecision,696–697696interestclassificationoncashfloweconomy-widefactorsin,696Informationservices,inaccountingstatement,649factorsin,696–697communicationprocess,234–235InternationalFinancialReportingindividualcompanyfactorsin,697Initialpublicoffering(IPO),557,558Standards(IFRS),67,107,237,405,industryfactorsin,696Insiderinformation,716414,466,565,649Investmentincome,106InstituteofManagementAccountantsLIFOandinternationalcomparisons,342Investments,597–616(IMA),25measurementbasisforproperty,plant,inaffiliatesorassociatedcompanies,Institutionalinvestors,inaccountingandequipment,405597–598,609–612communicationprocess,236notesconcerningmultinationals,125cashflowsfrom.SeeCashflowsfromInsurance,asprepaidexpense,171reconsideringconceptualframework,46investingactivitiesIntangibleassets,242,409–415onresearchanddevelopmentexpense,forcontrol,600,614–616amortizationof,411–415414held-to-maturity,600–601defined,389understandingforeignfinancialpassive,599,600,601–607typesof,411–414statements,67returnonassets(ROA),249,252,703,Interest,defined,170Inventory704Interestearned,601beginning,336–337forsignificantinfluence,599,609–614Interestexpense,106,286,507changein,647–648,650Investors.SeealsoStockholdersonbondsissuedatparvalue,512–513costsincludedinpurchases,334–335(shareholders)onbondsissuedatpremium,531defined,334inaccountingcommunicationprocess,capitalized,392–393ending,336–337,339,340,354236effective-interestamortizationof,516–financialstatementanalysisand,342–asexternaldecisionmakers,4–5,18–19,518,521–522,528–529,531344,350–352,357–35845internationalperspectiveon,649itemsincludedin,333–334Involuntarydisposalofassets,408–409straight-lineamortizationof,515–516,merchandise,333–334,337Issuedshares,554,555519–522natureof,331timesinterestearned,513–514,703,712typesof,333–334,337JInterestincomeInventorycontrolJournalentriesonbankstatements,299errorsinmeasuringendinginventory,defined,59internationalperspectiveon,649354natureof,59–60Interestpaid,712periodicinventorysystem,353–354,intransactionanalysis,62–65Interestpayable,bond,509–510359–360Just-in-timeinventory,708Interestperiods,incalculatingpresentperpetualinventorysystem,353,354,value,474359–360InterestratesInventorycostingmethods,338–344Kincalculatingpresentvalue,474averagecostmethod,341Kaiser,Mark,276effective,510,512,516–518,521–522,consistencyinuseof,344Kerley,Carol,229528–529,531costflowassumptionsin,339–342Kumar,Sanjay,113market,510financialstatementeffectsof,342–344,stated,507,509350–352,357–358LInterestreceivable,170–171,286first-in,first-out(FIFO)method,339,Interimreports,104n340,342–344,350–352Land,defined,389Internalcontrollast-in,first-out(LIFO)method,340–341Last-in,first-out(LIFO)inventorymethod,ofcash,296–297managers’choiceof,343,344340–341defined,296specificidentification,339defined,340ofinventory,353–354Inventorymanagement,347–349financialstatementeffectsof,342–344Internaldecisionmakers,4,5cashflowsand,348–349inventoryturnoverratioand,347–348,Internalevents,50LIFOliquidationsand,357–358352InternationalAccountingStandardsBoardmeasuringefficiencyin,347LIFOliquidations,357–358(IASB),19,46,237,244,640statementofcashflowsand,348–349managers’choiceof,343,344InternationalFinancialReportingInventoryturnover,347–348,352,703,Leasecommitments,248Standards(IFRS),19,67,107,237,710–711Leaseliabilities,470–471,477405,414,466,565,649Inventoryvaluation,346–347Least–latestrule,343,405InternationalperspectiveInvesteeearnings,underequitymethod,Lee,Timothy,277assessmentoffutureprobabilities,466610Legalcapital,557borrowinginforeigncurrencies,470InvestingactivitiesLegalliability,21–22differencesinaccountingmethods,237cashflowsfrom.SeeCashflowsfromLenders,inaccountingcommunicationdifferencesinaccountingstandards,19investingactivitiesprocess,236foreigncurrencyreceivables,286eventsin,70Leverage,financialleveragepercentage,impactofname,565natureof,4,44252,703,704lib11021_sidx_I5-I20.inddI–1129/07/105:57PM ConfirmingPagesI–12SUBJECTINDEXLiabilities,455–484unrealizedholding,602Mergersandacquisitions,600,614–616accrued,460–463,480–481Low-coststrategy,251–252consolidatedfinancialstatementsfor,adjustingentriesfor,167Lowerofcostormarket(LCM)inventory598,615–616onbalancesheet,9,47–48,465valuation,346–347mergers,defined,614contingent,465–467recording,614–616current.SeeCurrentliabilitiesreporting,615–616Mdefined,9,47,457typesof,614interpreting,9Madoff,Bernie,113Mickelson,Phil,229presentvaluesincalculating,475–476Maintenanceexpenses,394–395Minkow,Barry,113recording,167Managementaccounting,natureof,4,5ModifiedAcceleratedCostRecoverySystemshort-term,656Managementcertification,20–21(MACRS),406typicalaccounttitles,51Managementconsultingservices,25Moran,MichaelA.,247,247nLiabilityManagement’sdiscussionandMultinationals,125ethicsand,22analysis,240limited,25Managerialaccounting,natureof,4,5Nunlimited,24Managers.SeealsoEthicsLicensesandoperatingrightsinaccountingcommunicationprocess,n/30,282,283amortizationof,413232Napolitano,Gabrielle,247,247ndefined,413choiceofdepreciationmethod,404–406NASDAQmarket,558LIFOconformityrule,343choiceofinventorycostingmethod,343,NaturalresourcesLIFOliquidations,357–358344acquisitionof,409–410defined,357generallyacceptedaccountingprinciplesdefined,389,410financialstatementeffectsof,357–358and,18–19depletionof,409–410inventorymanagementand,357–358incentivestoviolateaccountingrules,Netbookvalue,173,180,288,397pretaxeffectsof,358113NetincomeLIFOreserve,351asinternaldecisionmakers,4,5conversiontonetcashflowfromLimitedliability,25owner-managers,3–4,113operatingactivities,645–649Limitedliabilitypartnerships(LLPs),25responsibilityforauditing,20–21defined,11Liquiditystockissuedforcompensation,558onstatementofretainedearnings,13ofbonds,506stockoptions,558Netincrease(decrease)incash,641–642defined,458,707typesof,17Netprofitmargin,68,182–183,Liquidityorder,ofassets,47useoffinancialstatements,17251,252Liquiditytests,707–711ManufacturersNetrealizablevalue,346cashratio,703,707–708costofgoodssold,336–337Netsalesrevenue,280currentratio,68–69,703,708directlaborcost,335–336computing,280–281inventoryturnoverratio,347–348,352,factoryoverhead,335–336reporting,283–284703,710–711flowofinventorycosts,335–336Newissues,557,558quickratio,458,703,708–709inventorytypes,332NewYorkBondExchange,505–506receivablesturnoverratio,292–293,703,Marketablesecurities.SeeSecuritiesNewYorkStockExchange,231,558709availableforsale“Nigerianbarge”transactions,688–689Long-livedassets.SeealsoProperty,plant,Marketefficiency,234Noncashinvestingandfinancingactivities,andequipmentMarketingmanagers,17658classifying,389Marketinterestrate,510Noncurrentassets,67defined,389MarkettestsNoncurrentliabilities,67fixedassetturnover,390–391,703,dividendyieldratio,560,703,713–714Noncurrentreceivables,286706–707price/earnings(P/E)ratio,21,703,713Nonoperating(other)items,243Long-termliabilities,469–471Matchingprinciple,111–112,167,396,Nonrecurringitems,243–244bondspayable,469–470410discontinuedoperations,255borrowinginforeigncurrencies,470Materialityextraordinaryitems,255cashflowsfromfinancingactivities,655,inaccountingcommunicationprocess,Nontradereceivables,286656237Nonvotingstock,565currentportionoflong-termdebt,applyingmaterialityconstraintinNo-parvaluestock,557464–465practice,335NorthAmericanClassificationSystemdefined,469defined,50(NAICS),700leaseliabilities,470–471,477MaturityorderNorthAmericanIndustryClassificationnotespayable,469–470ofassets,48,67System(NAICS),700refinanceddebt,464–465ofliabilities,48,67NotespayableLossesMeasurability,ofpassiveinvestments,602cashflowsfromfinancingactivities,655,defined,107Measurementrules,18656onsaleofassets,106,664–665Merchandiseinventory,333–334,337defined,463lib11021_sidx_I5-I20.inddI–1229/07/105:57PM ConfirmingPagesSUBJECTINDEXI–13long-term,469–470Ppresentvalue,defined,471timevalueofmoney,463presentvalueofanannuity,473–474,Pacioli,Luca,18–19Notesreceivable476–477,479–480,A-1–A-2(table)Paid-InCapital,242baddebtsand,286–294presentvalueofasingleamount,Partnershipsdefined,286472–473,475–476,478–479,accountingforowners’equity,569–571Notestofinancialstatements,125,A-1(table)defined,24246–248spreadsheetcomputations,478–480,Parvalueaccountingrulesappliedtocompany’s526bond,507,509statements,247,284Pressreleases,238–239bondpurchasesand,600additionaldetailsupportingreportedPretaxearnings,243bondsissuedat,511–514numbers,248Price/earnings(P/E)ratio,21,703,713commonstock,557debtand,506Primaryobjectiveofexternalfinancialcontributedcapitalinexcessofpar,242defined,16–17reporting,45defined,242,507,557estimatedliabilitiesreportedon,Principalpercentageof,600n465–467bond,507,509,601Passiveinvestmentsformatting,17defined,170,286onthebalancesheet,601–602,605profitsfromaccountingatmaturity,forheld-to-maturitydefined,599adjustment,404investments,601fairvalueoption,599,600,601–607relevantfinancialinformationnotPrivateinvestors,inaccountingsecuritiesavailableforsale,602–603disclosedonstatements,248communicationprocess,236tradingsecurities,602,606–607typesof,17Privateplacements,469PatentsNot-forprofitsector,26Product-differentiationstrategy,697amortizationof,413NSF(notsufficientfunds)checks,297,Profitabilitytests,702–707defined,413299,301ndefined,702Paymentdate,ofdividends,561earningspershare(EPS),107,180,244,Payrolltaxes,462–463556,703–705OPercentageanalysis.SeeRatiofinancialleveragepercentage,703,704Ongoingoperations,104–105(percentage)analysisfixedassetturnover,390–391,703,OperatingactivitiesPercentageofcreditsalesmethod,290706–707accrualaccounting,108–113Percentageofpar,600nnetprofitmargin,68,182–183,251,252cashbasisaccounting,107–108Percentageofsalesmethod,forbaddebtprofitmargin,703,706cashflowsfrom.SeeCashflowsfromexpense,294qualityofincome,651,703,705operatingactivitiesPeriodicinventorysystem,353–354returnonassets(ROA),249–252,703,eventsin,70comparedwithperpetualinventory704matchingprinciple,111–112system,359–360returnonequity(ROE),702,703natureof,4defined,353Profitdriversrecognitionandmeasurementof,Permanent(real)accounts,177,183businessstrategyand,251–252107–113Perpetualinventorysystemnatureof,251–252revenueprinciple,108–109comparedwithperiodicinventorysystem,Profitlevers,251–252Operating(cash-to-cash)cycle,103–104,359–360Profitmargin,703,706710–711costflowassumptionsin,354net,68,182–183,251,252Operatingexpenses,106,662–663defined,353Property,plant,andequipment,387–420.Operatingincome,104–105,106,243Plantandequipment.SeeProperty,plant,SeealsoEquipmentOperatingleases,470–471andequipmentacquisitioncost,389–393Operatingrevenues,104–105Post-closingtrialbalance,186additions,394–395Ordinaryrepairsandmaintenance,394Preferredstockadjustmentforgainsandlossesonsale,Organizationalstructure,555characteristicsofownership,565664–665Originalmaturity,639ndefined,565assetimpairment,406–407Othercomprehensiveincome,604dividendson,565–567onbalancesheet,51–52Outstandingchecks,298–299,300Premiumcashflowsfrominvestingactivities,653Outstandingshares,554–556amortizationofbondsissuedat,519–classifyinglong-livedassets,389Owner-managers,3–4,113522,531asdeferredexpense,172–173Owners’equity.SeealsoStockholders’bond,510,519–522,530–531depreciation,396–403equitybondspurchasedat,600disposalof,408–409acquisitioncostbasedon,392Prepaidexpenses,changein,648fixedassetturnover,390–391,703,incapitalstructure,505Presentvalueconcepts,471–477706–707last-in,first-out(LIFO)inventorycostingaccountingapplicationsofpresentvalue,maintenance,394–395methodand,344475–477measurementbasis,405forpartnerships,569–571bondpaymentsand,511–512,518–519repairs,394–395forsoleproprietorships,569,570bonds,526Publicaccounting,employmentin,25–26lib11021_sidx_I5-I20.inddI–1329/07/105:57PM ConfirmingPagesI–14SUBJECTINDEXPublicAccountingReformandInvestortimesinterestearned,513–514,703,712typicalaccounttitles,51ProtectionAct(Sarbanes-OxleyAct),totalassetturnover,68,127unearned,167,169–170,176175n,230Rawmaterialsinventory,334Revenueexpenditures,394PublicCompanyAccountingOversightReadyforshipmentinventory,334Revenueprinciple,108–109,167,280Board(PCAOB),20,22,231,233Readyforuseinventory,334Revenuerecognition,109Purchasediscounts,359Receivables,286–294RiskPurchasemethod,614–616accountsreceivable.SeeAccountsofbondspayable,507,509Purchaseofstockreceivablefinancialleveragepercentageand,704underequitymethod,610–611baddebt,286–294financialleverageratioand,703underfairvaluemethod,603classifying,286ofpreferredversuscommonstockPurchasereturnsandallowances,358foreigncurrency,286investments,565Purchasesnontrade,286ROEprofitdriveranalysis,251–252incostofgoodssold,336–337notesreceivable,286–292ininventorycontrol,353,359trade,286Smeasuring,359Receivablesturnover,292–293,703,709Salariesexpense,106Purchasingmanagers,17Recorddate,ofdividends,561Salesdiscounts,282–283,304Refinanceddebt,464–465Salesreturnsandallowances,283,304QRelevantfinancialinformation,45,236,Salesrevenues,280–285601Qualityofearnings,181–182creditsales,281–283,286–292Reliablefinancialinformation,45,236Qualityofincomeratio,651,703,705grossprofitpercentage,284–285Rent,asprepaidexpense,171Quarterlyreports,6,240reportingnetsales,283–284Repairexpenses,394–395Quickratio,458,703,708–709salesdiscountstobusinesses,282–283,Replacementcost,346304Reportofmanagement,20–21salesreturnsandallowances,283,304RRepurchase,ofcommonstock,558–559Salvage(residual)value,398Rapidgrowth,715ResearchanddevelopmentexpensesSarbanes-OxleyAct,175n,230Ratio(percentage)analysis,700–717amortizationof,414Schnatter,John,43,49,101accountspayableturnover,460internationalperspectiveon,414Seasonednewissues,557assetturnover,68,127,251,252Residualclaim,553SEC.SeeSecuritiesandExchangecapitalacquisitionsratio,654Residual(salvage)value,398Commission(SEC)cashcoverageratio,703,712Resnick,Michael,276Secondarymarkets,commonstock,cashratio,703,707–708Restrictivecovenants,566–567557–558componentpercentages,700–702RetailersSecureddebt,469–470currentratio,68–69,703,708flowofinventorycosts,335SecuritiesActof1933,19debt-to-equity,522–523,703,712–713,inventorytypes,333SecuritiesandExchangeCommission(SEC),715Retainedearnings,552.SeealsoStatement19,26,104ndefined,700ofretainedearningsEDGARdatabase,234dividendyield,560,703,713–714beginning-of-the-year,13enforcementactions,175earningspershare(EPS),107,180,244,forcashdividends,561–562incentivestoviolateaccountingrules,556,703–705cashflowsfromfinancingactivities,655,113economicreturnfrominvesting,609656insiderinformationand,716financialleveragepercentage,703,704defined,49mission,231fixedassetturnover,390–391,703,end-of-the-year,13regulationofnewissues,558706–707interpreting,13regulationofsecondaryissues,558grossprofitpercentage,284–285forstockdividends,563reportsto,232,240interpretingratios,714–717Returnonassets(ROA),249–252,703,704Securitiesavailableforsale,602–603inventoryturnover,347–348,352,703,Returnonequity(ROE),702,703comparedwithtradingsecurities,710–711Revenue(s)605–607netprofitmargin,68,182–183,251,252accrued,108–109,167,170–171,176defined,602price/earnings(P/E),21,703,713adjustingentriesfor,165–175dividendsearned,603,606profitmargin,252,703,706convertingtocashinflows,660–661portfolioof,605–607qualityofincomeratio,651,703,705deferred,167,465purchaseofstock,603,606quickratio,458,703,708–709defined,11,104saleofstock,605receivablesturnover,292–293,703,709estimatingatyearend,163–164year-endvaluation,604–605returnonassets(ROA),249–252,703,franchisefee,105SecuritiesExchangeActof1934,19704operating,104–105Segmentinformation,248returnonequity(ROE),702,703recording,167Separate-entityassumption,45–46testsofprofitability,702–707sales,280–285Separationofduties,296–297lib11021_sidx_I5-I20.inddI–1429/07/105:57PM ConfirmingPagesSUBJECTINDEXI–15Shareholders.SeeStockholderssupplementalcashflowinformation,659Subramanyan,K.,182n(shareholders)workingcapitaland,467–468,650Subsidiaryaccounts,286Shareholders’equity.SeeStockholders’Statementofcomprehensiveincome,244Suppliers,4equityStatementofearnings.SeeIncomestatementconvertingcostofgoodssoldtocashShort-termliabilities,656Statementoffinancialposition.Seepaidto,661–662Significantaccountingpolicies,247,284,BalancesheetSupplies292,401Statementofincome.SeeIncomestatementonbalancesheet,51–52SignificantinfluenceStatementofoperations.SeeIncomeasdeferredexpenses,171–172defined,599statementSustainabledevelopment,249equitymethodforinvestments,599,Statementofretainedearnings,6.SeealsoSynergy,614609–614Financialstatement(s)Singleamountdefined,12Tfuturevalueof,481–482,A-2(table)elementsof,13–14,18presentvalueof,472–473,475–476,interpreting,15T-accounts478–479,A-1(table)purposeof,12,18creditsin,58–59,62Single-stepincomestatement,104nrelationshipswithotherfinancialdebitsin,58–59,62Soleproprietorshipsdefined,60statements,16accountingforowners’equity,569,570inferringbusinessactivitiesfrom,62structureof,12–13,18defined,24structureof,60–62Statementofstockholders’equity,177,245Solvencytests,712–714intransactionanalysis,60–62,113–119formulafor,122cashcoverageratio,703,712Tangibleassets,389preparing,123–124,177,180debt-to-equityratio,522–523,703,Taxreporting.SeealsoIncometaxes;StateUnemploymentTaxActs(SUTA),462712–713,715IncometaxespayableStock.SeeCommonstock;Preferredstocktimesinterestearned,513–514,703,712accruedtaxespayable,461Stockdividends,563–564Specificidentificationmethod,339deferredtaxes,480–481Stockholders(shareholders),8n,24–25Standards.SeeAccountingstandards;depreciationin,405–406,415Stockholders’equity,551–567.Generallyacceptedaccountingpayrolltaxes,462–463SeealsoOwners’equity;Statementofprinciples(GAAP)separaterecordsforfinancialreportingstockholders’equityStatedrateofinterest,507,509and,405–406acquisitioncost,392Statementofcashflows,6,14–16,Taxservices,25–26authorized,issued,andoutstanding70–71,637–667.SeealsoFinancialTechnologyshares,554–556statement(s)amortizationof,413onbalancesheet,9accountsreceivableand,293–294,295defined,413bondspayableand,524,525benefitsofstockownership,553–556,Temporary(nominal)accounts,177,183cashflowsfromfinancingactivities.See565–566Temporarydifferences,indeferredtaxes,Cashflowsfromfinancingactivitiescashdividends,553,560–562,565–566480–481cashflowsfrominvestingactivities.Seecommonstocktransactions,556–564Timeperiodassumption,104Cashflowsfrominvestingactivitiesdefined,9,49Time-seriesanalysis,252,699cashflowsfromoperatingactivities.Seedividendyield,560,703,713–714Timesinterestearned,513–514,703,712Cashflowsfromoperatingactivitiesearningspershare(EPS),107,180,244,Timevalueofmoney,463.SeealsoFutureclassificationsof,638–645556,703–705valueconcepts;Presentvalueconceptsdefined,14financingactivitiesand,567Totalassetturnoverratio,68,127directmethod,640interpreting,9Totalcashflowofthefirm,654neffectofdepreciationon,414–415preferredstocktransactions,565–566Tradeaccountspayable,459.Seealsoelementsof,14–15,18,245stockdividends,563–564Accountspayableformulafor,122stocksplits,564Tradediscounts,282nimpactofdividendpaymentson,567typicalaccounttitles,51Trademarksindirectmethod,245,640,658,664–667Stockmarket.SeealsoCommonstockamortizationof,412interpreting,15financialanalystsincommunicationdefined,412inventoryimpacton,348–349process,233–235Tradereceivables,286netincrease(decrease)incash,641–642reactionstoannouncements,238TradingsecuritiesnoncashinvestingandfinancingStockoptions,558comparedwithsecuritiesavailableforactivities,658Stocksplits,564sale,605–607preparing,665–667Straight-lineamortizationdefined,602purposeof,14,18ofbondsissuedatapremium,519–522portfolioof,606–607relationshipswithotherfinancialofbondsissuedatdiscount,515–516Transaction(s)statements,16,642–645Straight-linedepreciationmethod,defined,50spreadsheetapproachtopreparing,665–667399–400,403,418–419impactonaccounts,52–56structureof,14,18,657–658,665–667Subjectivefactors,716natureof,50lib11021_sidx_I5-I20.inddI–1529/07/105:57PM ConfirmingPagesI–16SUBJECTINDEXTransactionanalysisUVoluntarydisclosures,249accountbalancesand,57–59Voluntarydisposalofassets,408–409Unadjustedtrialbalance,165–166analyticaltoolsfor,59–64Votingrights,554,565Unauditedreports,240balancesheet,52–56,119Uncollectibleaccounts,writingoff,287,defined,52292Wdirectionoftransactioneffects,58–59Unearned(deferred)revenuesdualeffectsof,52–53Wastingassets,409–410defined,167,465illustrationof,62–65Wholesalersexamplesof,169–170,176incomestatement,113–119flowofinventorycosts,335Uneconomicalexpansion,715–716journalentries,59–60inventorytypes,332–333Unemploymenttaxes,462principlesof,52–56Wild,J.,182,182nUnexpectedearnings,238rulesof,113–115WorkingcapitalUniformPartnershipAct,569–571T-accountsin,60–62,113–119cashflowsand,467–468,650U.S.SecuritiesandExchangeCommissionTreasurystock,554–556,558–559defined,467(SEC).SeeSecuritiesandExchangeTrialbalanceWorkinprocessinventory,334Commission(SEC)defined,165WorldBusinessCouncilforSustainableUnit-of-measureassumption,46post-closing,186Development,249Units-of-productiondepreciationmethod,unadjusted,165–166400–401,403Trustees,509Unlimitedliability,24YTruthinadvertising,474–475Unqualified(clean)auditopinions,233TurnoverYear-endvaluation,ofsecuritiesavailableUnrealizedholdinggainsandaccountspayable,460forsale,604–605losses,602fixedasset,390–391,703,706–707Yield,dividend,560,703,713–714inventory,347–348,352,703,710–711Vreceivables,292–293,703,709Ztotalasset,68,127Variableexpenses,4012/10,n/30,283Verticalintegration,614Zerocouponbonds,518–519,530lib11021_sidx_I5-I20.inddI–1629/07/105:57PM 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ChapterTitleFocusCompanyManagerialFocusContrastCompaniesKeyRatiosChapterTitleFocusCompanyManagerialFocusContrastCompaniesKeyRatios1FinancialStatementsMaxidriveCorporationValuinganacquisitionApple,Inc.9ReportingandCapitalstructurePeet’sCoffeeQuickRatioSTARBUCKSandBusinessManufacturerofInterpretingCaribouCoffeeAccountsPayableDecisionscomputerdisksLiabilitiesRetailerandroasterKrispyKremeTurnoverofspecialtycoffeeGeneralMillsToyotaMotor2InvestingandFinancingInvestingandfinancingDomino’sPizzaCurrentRatioFordMotorCo.DecisionsandthedecisionsYum!BrandsHarley-Davidson,Inc.BalanceSheetPizzarestaurantchainPizzaInnInc.(foodservice)Wendy’sInternationalLance,Inc.10ReportingandLong-termdebtCSXRailDebt-to-EquityBNSFInterpretingBondsfinancingUnionPacificTimesInterestEarnedRailroadHomeDepot3OperatingDecisionsOperatingdecisionsGlaxoSmithKlineTotalAssetTurnoverOutbackSteakhouseandtheIncomeUnileverGeneralMillsStatementPizzarestaurantchainBMWGroupDomino’sPizzaMattel11ReportingandCorporateownershipWholeFoodsDividendYieldYum!BrandsInterpretingLoneStarInd.EarningsperShareOwners’EquitySupermarketchainLowe’sStarbucks4Adjustments,FinancialYear-endWholeFoods,Inc.NetProfitMarginHomeDepotStatements,andaccountingDomino’sPizzatheQualityofEarningsPizzarestaurantchainactivitiesYum!BrandsToysRUs12ReportingandTHEWASHINGTONStrategicinvestmentTheBuckleEconomicReturnPOSTCOMPANYInterpretinginothercompaniesfromInvestingInvestmentsPublishing,broadcasting,inOtherandeducationcompany5CommunicatingCorporateAdamsGolfReturnonAssetsCorporationsandInterpretingcommunicationApple,Inc.AccountingMicrosoftCorporationInformationManufacturerofgolfclubsHewlett-Packard13StatementofManagementofcashCocaColaQualityofIncomeVerizonCashFlowsPepsiCapitalAcquisitionsDr.PepperSnapple6ReportingandMarketingstrategySkechersU.S.A.GrossProfitContinentalAirlinesInterpretingTimberlandCo.PercentageRedhookAleSalesRevenue,ShoemanufacturerandReceivablesTurnoverBeveragecompanyReceivables,andCashclothingmerchandiser7Reportingand14AnalyzingFinancialTHEHOMEFinancialstatementHechinger.comRatioSummaryHARLEY-DAVIDSON,InventoryAppleInc.InventoryTurnoverDEPOTInterpretingINC.managementDellComputerStatementsanalysisLowe’sCostofMotorcyclemanufacturerandDeere&CompanyHomeimprovementretailerGoodsSoldclothingmerchandiserCaterpillarandInventoryPolarisHondaMotor8ReportingandPlanningproductiveUSAirwaysFixedAssetInterpretingcapacityUnitedAirlinesTurnoverProperty,Plant,SingaporeAirlinesandEquipment;InternationalPaperNaturalResources;MajorExxonMobilCorporationandIntangiblesaircarrierSonyCiscoIBMCorporationMHID:0078111021BackendsheetsAuthor:RobertLibbyColor:4/cTitle:FinancialAccounting,7/ePages:2,3 ChapterTitleFocusCompanyManagerialFocusContrastCompaniesKeyRatiosChapterTitleFocusCompanyManagerialFocusContrastCompaniesKeyRatios1FinancialStatementsMaxidriveCorporationValuinganacquisitionApple,Inc.9ReportingandCapitalstructurePeet’sCoffeeQuickRatioSTARBUCKSandBusinessManufacturerofInterpretingCaribouCoffeeAccountsPayableDecisionscomputerdisksLiabilitiesRetailerandroasterKrispyKremeTurnoverofspecialtycoffeeGeneralMillsToyotaMotor2InvestingandFinancingInvestingandfinancingDomino’sPizzaCurrentRatioFordMotorCo.DecisionsandthedecisionsYum!BrandsHarley-Davidson,Inc.BalanceSheetPizzarestaurantchainPizzaInnInc.(foodservice)Wendy’sInternationalLance,Inc.10ReportingandLong-termdebtCSXRailDebt-to-EquityBNSFInterpretingBondsfinancingUnionPacificTimesInterestEarnedRailroadHomeDepot3OperatingDecisionsOperatingdecisionsGlaxoSmithKlineTotalAssetTurnoverOutbackSteakhouseandtheIncomeUnileverGeneralMillsStatementPizzarestaurantchainBMWGroupDomino’sPizzaMattel11ReportingandCorporateownershipWholeFoodsDividendYieldYum!BrandsInterpretingLoneStarInd.EarningsperShareOwners’EquitySupermarketchainLowe’sStarbucks4Adjustments,FinancialYear-endWholeFoods,Inc.NetProfitMarginHomeDepotStatements,andaccountingDomino’sPizzatheQualityofEarningsPizzarestaurantchainactivitiesYum!BrandsToysRUs12ReportingandTHEWASHINGTONStrategicinvestmentTheBuckleEconomicReturnPOSTCOMPANYInterpretinginothercompaniesfromInvestingInvestmentsPublishing,broadcasting,inOtherandeducationcompany5CommunicatingCorporateAdamsGolfReturnonAssetsCorporationsandInterpretingcommunicationApple,Inc.AccountingMicrosoftCorporationInformationManufacturerofgolfclubsHewlett-Packard13StatementofManagementofcashCocaColaQualityofIncomeVerizonCashFlowsPepsiCapitalAcquisitionsDr.PepperSnapple6ReportingandMarketingstrategySkechersU.S.A.GrossProfitContinentalAirlinesInterpretingTimberlandCo.PercentageRedhookAleSalesRevenue,ShoemanufacturerandReceivablesTurnoverBeveragecompanyReceivables,andCashclothingmerchandiser7Reportingand14AnalyzingFinancialTHEHOMEFinancialstatementHechinger.comRatioSummaryHARLEY-DAVIDSON,InventoryAppleInc.InventoryTurnoverDEPOTInterpretingINC.managementDellComputerStatementsanalysisLowe’sCostofMotorcyclemanufacturerandDeere&CompanyHomeimprovementretailerGoodsSoldclothingmerchandiserCaterpillarandInventoryPolarisHondaMotor8ReportingandPlanningproductiveUSAirwaysFixedAssetInterpretingcapacityUnitedAirlinesTurnoverProperty,Plant,SingaporeAirlinesandEquipment;InternationalPaperNaturalResources;MajorExxonMobilCorporationandIntangiblesaircarrierSonyCiscoIBMCorporationMHID:0078111021BackendsheetsAuthor:RobertLibbyColor:4/cTitle:FinancialAccounting,7/ePages:2,3 RatiosUsedforFinancialAnalysesRatioBasicComputationChapterCurrentAssetsCurrentRatio=2CurrentLiabilitiesSales(orOperating)RevenuesTotalAssetTurnover=3AverageTotalAssetsNetIncomeNetProfitMargin=4NetSalesNetIncomeReturnonAssets(ROA)*=5AverageTotalAssetsGrossProfitGrossProfitPercentage=6NetSalesNetSalesReceivablesTurnover=6AverageNetTradeAccountsReceivableCostofGoodsSoldInventoryTurnover=7AverageInventoryNetSalesFixedAssetTurnover=8AverageNetFixedAssetsQuickRatio=QuickAssets9CurrentLiabilitiesCostofGoodsSoldAccountsPayableTurnover=9AverageAccountsPayableTotalLiabilitiesDebt-to-Equity=10Stockholders’EquityNetIncome+InterestExpense+IncomeTaxExpenseTimesInterestEarned=10InterestExpenseNetIncome**EarningsperShare=11AverageNumberofSharesofCommonStockOutstandingDuringthePeriodDividendperShareDividendYield=11MarketPriceperShareDividendsandInterestReceived+ChangeinFairValue***EconomicReturnfromInvesting=12FairValueofInvestments(beginningofperiod)CashFlowfromOperatingActivitiesQualityofIncome=13NetIncomeCashFlowfromOperatingActivitiesCapitalAcquisitions=13CashPaidforProperty,Plant,andEquipment*AsshowninChapter14,inmostcomplexanalyticalsituations,interestexpensenetoftaxisaddedbacktonetincomeinthenumeratoroftheratio.**Iftherearepreferreddividends,theamountissubtractedfromtheNetIncomeinthenumerator.***BeginningBalanceofInvestments—EndingBalanceofInvestmentsMHID:0078111021BackendsheetsAuthor:RobertLibbyColor:4/cTitle:FinancialAccounting,7/ePages:0,5