Avon 2004 Annual Report Download - page 36

Global Beauty 57
Notes to Consolidated
Financial Statements
Financial Instruments
The Company uses derivative financial instruments,
including interest rate swaps, forward foreign currency
contracts and options, to manage interest rate and
foreign currency exposures. Avon records all derivative
instruments at their fair values on the Consolidated
Balance Sheets as either assets or liabilities.
Research and Development
Research and development costs are expensed as
incurred and amounted to $63.8 in 2004 (2003 – $57.6;
2002 – $47.7). Research and development costs include
all costs related to the design and development of new
products such as salaries and benefits, supplies and
materials and facilities costs.
Advertising
Advertising costs are expensed as incurred and
amounted to $137.9 in 2004 (2003 – $111.6; 2002 –
$101.0). Direct response advertising costs, consisting pri-
marily of brochure preparation, are amortized over the
period during which the benefits are expected, which is
typically the campaign length. At December 31, 2004
and 2003, prepaid expenses and other included deferred
brochure costs of $38.3 and $34.4, respectively.
Deferred Income Taxes
Deferred income taxes have been provided on items
recognized for financial reporting purposes in different
periods than for income tax purposes using tax rates in
effect for the year in which the differences are expected
to reverse. A valuation allowance is provided for deferred
tax assets if it is more likely than not these items will
either expire before Avon is able to realize their benefit,
or that future deductibility is uncertain. U.S. income
taxes have not been provided on approximately $977.1
of undistributed income of subsidiaries that has been or
is intended to be permanently reinvested outside the
United States. Since the company has decided to per-
manently reinvest a greater portion of foreign earnings
offshore, the Company does not anticipate repatriating
dividends under Internal Revenue Code Sec. 965(a) as
enacted by the American Jobs Creation Act of 2004.
Avon establishes additional provisions for income taxes
when, despite the belief that their tax positions are
fully supportable, there remain certain positions that
are likely to be challenged and may or may not be sus-
tained on review by tax authorities. Avon adjusts these
additional accruals in light of changing facts and cir-
cumstances. Avon files income tax returns in many
jurisdictions. In 2005, a number of income tax returns
are scheduled to close by statute and it is possible that
a number of examinations may be completed. If Avon’s
filing positions are ultimately upheld, it is possible that
the 2005 provision for income taxes may reflect adjust-
ments. Depending on the number of filing positions
ultimately upheld, the impact of adjustments could be
significant to 2005 net income.
Shipping and Handling
Shipping and handling costs are expensed as incurred
and amounted to $680.0 in 2004 (2003 – $599.0;
2002 – $544.0). Shipping and handling costs are
included in marketing, distribution and administrative
expenses on the Consolidated Statements of Income.
Contingencies
In accordance with FAS No. 5, “Accounting for Contin-
gencies,”Avon determines whether to disclose and
accrue for loss contingencies based on an assessment of
whether the risk of loss is remote, reasonably possible
or probable. Avon records loss contingencies when it is
probable that a liability has been incurred and the
amount of loss is reasonably estimable.
Reclassifications
To conform to the 2004 presentation, certain reclas-
sifications were made to the prior years’ Consolidated
Financial Statements and the accompanying notes.
Earnings per Share
Basic earnings per share (“EPS”) are computed by
dividing net income by the weighted-average number
of shares outstanding during the year. Diluted EPS are
calculated to give effect to all potentially dilutive com-
mon shares that were outstanding during the year.
Research and development costs
amounted to $63.8 in 2004 and
include all costs related to the design
and development of new products.