Philips 2005 Annual Report Download - page 116

Philips Annual Report 2005116
obligations, such signifi cant judgments relate to the extent
and types of hazardous substances at a site, the various
technologies that may be used for remediation, the standards
of what constitutes acceptable remediation, the relative
risk of the environmental condition, the number and
fi nancial condition of other potentially responsible parties,
and the extent of the Company’s and/or its subsidiaries’
involvement.
The Company utilizes experts in the estimation process.
However, these judgments, by their nature, may result in
variances between actual losses and estimates. Accruals
for estimated losses from environmental remediation
obligations are recognized when information becomes
available that allows a reasonable estimate of the liability,
or a component (i.e. particular tasks) thereof. The accruals
are adjusted as further information becomes available.
Please refer to note 29 to the consolidated fi nancial
statements for a discussion of contingent liabilities.
Accounting for income taxes
As part of the process of preparing consolidated fi nancial
statements, the Company is required to estimate income
taxes in each of the jurisdictions in which it conducts
business. This process involves estimating actual current
tax expense and temporary differences between tax and
fi nancial reporting. Temporary differences result in
deferred tax assets and liabilities, which are included in
the consolidated balance sheet. The Company must assess
the likelihood that deferred tax assets will be recovered
from future taxable income. A valuation allowance is
recognized to reduce deferred tax assets if, and to the
extent that, it is more likely than not that all or some
portion of the deferred tax assets will not be realized.
The Company has recorded a valuation allowance of
EUR 935 million as of December 31, 2005, based on
estimates of taxable income by jurisdiction in which the
Company operates and the period over which deferred
tax assets are recoverable. In the event that actual results
differ from these estimates in future periods, and depending
on the tax strategies that the Company may be able to
implement, changes to the valuation allowance could be
required, which could impact the Company’s fi nancial
position and net income.
In 2005 there was a net increase in the valuation allowance
of EUR 40 million, following decreases of EUR 170 million
and EUR 184 million in 2004 and 2003 respectively.
Signifi cant tax assets are recognized in the US, realization
of which is contingent on continued profi tability in the US.
Impairment
Philips reviews long-lived assets for impairment when
events or circumstances indicate that carrying amounts
may not be recoverable. Assets subject to this review
include equity and security investments, intangible assets
and tangible fi xed assets. Impairment of equity and security
investments results in a charge to income when a loss in
the value of an investment is deemed to be other than
temporary.
Management regularly reviews each equity and security
investment for impairment based on the extent to which
cost exceeds market value, the duration of decline in
market value and the fi nancial condition of the issuer.
In determining impairments of intangible assets, tangible
fi xed assets and goodwill, management must make signifi cant
judgments and estimates to determine whether the cash
fl ows generated by those assets are less than their
carrying value. Determining cash fl ows requires the use
of judgments and estimates that have been included in the
Company’s strategic plans and long-range forecasts. The
data necessary for the execution of the impairment tests
are based on management estimates of future cash fl ows,
which require estimating revenue growth rates and
profi t margins.
Assets other than goodwill are written down to their
fair value when the undiscounted cash fl ows are less than
the carrying value of the assets. The fair value of impaired
assets is generally determined by taking into account these
estimated cash fl ows and using a present value technique
for discounting these cash fl ows based on the business-
specifi c Weighted Average Cost of Capital (WACC),
which ranged between 6.5% and 12.1% in 2005. Goodwill
is evaluated annually for impairment at business unit level,
and written down to its implied fair value, in the case of
impairment. The determination of such implied fair value
involves signifi cant judgment and estimates from management.
Changes in assumptions and estimates included within
the impairment reviews could result in signifi cantly
different results than those recorded in the consolidated
fi nancial statements.
Management discussion and analysis