Apple 2002 Annual Report Download - page 43

debt and marketable equity securities at the time of purchase and reevaluates such designation as of each balance sheet date. The Company's
marketable debt and equity securities have been classified and accounted for as available-for-sale. These securities are carried at fair value,
with the unrealized gains and losses, net of taxes, reported as a component of shareholders' equity. The cost of securities sold is based upon the
specific identification method.
Derivative Financial Instruments
On October 1, 2000, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 133, Accounting for Derivative
Instruments and Hedging Activities
. SFAS No. 133 establishes accounting and reporting standards for derivative instruments, hedging
activities, and exposure definition. SFAS No. 133 requires that all derivatives be recognized as either assets or liabilities at fair value.
Derivatives that are not hedges must be adjusted to fair value through income. If the derivative is a hedge, depending on the nature of the
hedge, changes in fair value will either be offset against the change in fair value of the hedged assets, liabilities, or firm commitments through
earnings, or recognized in other comprehensive income until the hedged item is recognized in earnings. Net of the related income tax effect of
approximately $5 million, adoption of SFAS No. 133 resulted in a favorable cumulative-effect-type adjustment to net income of approximately
$12 million. Net of the related income tax effect of approximately $5 million, adoption of SFAS No. 133 resulted in a favorable cumulative-
effect-type adjustment to other comprehensive income of approximately $12 million, all of which was reclassified to earnings during 2001.
Management does not believe that ongoing application of SFAS No. 133 will significantly alter the Company's hedging strategies. However, its
application may increase the volatility of other income and expense and other comprehensive income.
For derivative instruments that hedge the exposure to variability in expected future cash flows that are attributable to a particular risk and that
are designated as cash flow hedges, the net gain or loss on the
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derivative instrument is reported as a component of other comprehensive income in stockholders' equity and reclassified into earnings in the
same period or periods during which the hedged transaction affects earnings. To receive hedge accounting treatment, cash flow hedges must be
highly effective in achieving offsetting changes to expected future cash flows on hedged transactions. For derivative instruments that hedge the
exposure to changes in the fair value of an asset or a liability or an identified portion thereof that are attributable to a particular risk and that are
designated as fair value hedges, the net gain or loss on the derivative instrument as well as the offsetting gain or loss on the hedged item
attributable to the hedged risk are recognized in earnings in the current period. The net gain or loss on the effective portion of a derivative
instrument that is designated as an economic hedge of the foreign currency translation exposure of the net investment in a foreign operation is
reported in the same manner as a foreign currency translation adjustment. For forward contracts designated as net investment hedges, the
Company excludes changes in fair value relating to changes in the forward carry component from its definition of effectiveness. Accordingly,
any gains or losses related to this component are recognized in current earnings. For derivative instruments not designated as hedging
instruments, changes in fair value are recognized in earnings in the current period.
For foreign currency forward contracts designated as cash flow hedges, hedge effectiveness is measured based on changes in the fair value of
the contract attributable to changes in the forward exchange rate. Changes in the expected future cash flows on the forecasted hedged
transaction and changes in the fair value of the forward hedge are both measured from the contract rate to the forward exchange rate associated
with the forward contract's maturity date. For currency option contracts designated as cash flow hedges, hedge effectiveness is measured based
on changes in total fair value of the option contract. Hedge effectiveness is assessed by comparing the present value of the cumulative change
in expected cash flows on the hedged transactions determined as the sum of the probability-weighted outcomes with respect to the option strike
rates with the total change in fair value of the option hedge. For interest rate swap agreements qualifying as fair value hedges, the Company
assumes no ineffectiveness because these swaps meet the criteria for accounting under the short-cut method defined in SFAS No. 133.
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market. If the cost of the inventories exceeds their market value, provisions are
made currently for the difference between the cost and the market value.
Property, Plant, and Equipment
Property, plant, and equipment are stated at cost. Depreciation is computed by use of the declining balance and straight-line methods over the
estimated useful lives of the assets, which are 30 years for buildings, from 2 to 5 years for equipment, and the shorter of lease terms or
estimated useful lives for leasehold improvements. The Company capitalizes eligible costs to acquire or develop internal-use software that are
incurred subsequent to the preliminary project stage. Capitalized costs related to internal-use software are amortized using the straight-line
method over the estimated useful lives of the assets, which range from 3 to 5 years.
Prior to the fourth quarter of 2001, the Company had classified capitalized costs related to internal-use software on the balance sheet in other
assets. Effective as of September 29, 2001, and for all other periods presented, the Company has reclassified internal-use software to property,
plant, and equipment and reclassified related cash flows for the purchase or development of internal-use software from cash flow from
operations to cash flow from investing activities.