Philips 2005 Annual Report Download - page 166

Philips Annual Report 2005166
Assets received in lieu of cash in 2003 consist of EUR 26 million
representing a convertible debenture of Scansoft Inc. received in
connection with the sale of Speech Processing Telephony and Voice
Control businesses.
34
Related-party transactions
In the normal course of business, Philips purchases and sells goods and
services to various related parties in which Philips holds a 50% or less
equity interest. These transactions are generally conducted on an arm’s
length basis with terms comparable to transactions with third parties.
2003 2004 2005
Purchases of goods and services 1,342 1,844 1,803
Sales of goods and services 263 444 358
Receivables from related parties 42 35 53
Payables to related parties 237 286 298
For acquisitions and divestments see note 2.
For remuneration details of the members of the Board of Management
and the Supervisory Board see note 36.
35
Share-based compensation
The Company has granted stock options on its common shares and
rights to receive common shares in the future (restricted share rights)
to members of the Board of Management and other members of the
Group Management Committee, Philips Executives and certain non-
executives. The purpose of the share-based compensation plans is to
align the interests of management with those of shareholders by providing
additional incentives to improve the Company’s performance on a long-
term basis, thereby increasing shareholder value. Under the Company’s
plans, options are granted at fair market value on the date of grant.
As from 2003 onwards, the Company issued restricted share rights that
vest in equal annual installments over a three-year period. Restricted
shares are Philips shares that the grantee will receive in three successive
years, provided the grantee is still with the Company on the respective
delivery dates. If the grantee still holds the shares after three years from
the delivery date, Philips will grant 20% additional (premium) shares,
provided the grantee is still with Philips.
Asfrom2002,theCompanygrantedxedstockoptionsthatexpire
after 10 years. Generally, the options vest after 3 years; however, a
limited number of options granted to certain employees of acquired
businessescontainacceleratedvesting.Inprioryears,xedandvariable
(performance) options were issued with terms of ten years, vesting one
to three years after grant.
In contrast to the year 2001 and certain prior years, when variable
(performance) stock options were issued, the share-based compensation
grants as from 2002 consider the performance of the Company versus
a peer group of multinationals.
USD-denominated stock options and restricted share rights are granted
to employees in the United States only.
Under the terms of employee stock purchase plans established by
the Company in various countries, substantially all employees in those
countries are eligible to purchase a limited number of shares of Philips
stock at discounted prices through payroll withholdings, of which the
maximum ranges from 8.5% to 10% of total salary. Generally, the
discount provided to the employees is between the range of 10% to
20%. In 2004, 2003 and certain prior years, the purchase price in the
United States equaled the lower of 85% of the closing price at the
beginning or end of quarterly purchase periods. A total of 1,248,113
shares were sold in 2005 under the plan at an average price of
EUR 21.78 (2004: 1,224,655 shares at EUR 20.54, 2003: 1,889,964 shares
at a price of EUR 18.46).
In the Netherlands, Philips issues personnel debentures with a 5-year
right of conversion into common shares of Royal Philips Electronics.
The conversion price is equal to the current share price at the date of
issuance. The fair value of the conversion option (EUR 5.85 in 2005,
EUR 6.05 in 2004 and EUR 6.89 in 2003) is recorded as compensation
expense over the period of vesting. In 2005, 61 shares were issued in
conjunction with conversions at an average price of EUR 32.64 (2004:
333,742 shares at an average price of EUR 21.56, 2003: 907,988 shares
at an average price of EUR 15.41).
In November 2005, the Company acquired a controlling interest in
Lumileds (refer to note 2). Lumileds has an existing stock option plan
that provides for the granting of options to purchase depository receipts,
representingbenecialeconomicandvotinginterestsinalikenumber
of shares to its employees and certain consultants.
Options under the plan may be granted for periods up to 10 years
at prices no less than 85% of the estimated fair value of the shares
on the date of grant. Options granted generally vest over 4 years at
a rate of 12.5% on the date 6 months from the grant date and then
monthly thereafter.
The plan also includes a fair value put and call feature, whereby employees
can require Lumileds to purchase depository receipts obtained via the
exercise of options, or Lumileds may elect to purchase such depository
receipts at fair value at the time of purchase.
Effective January 1, 2003, the Company adopted the fair value recognition
provisions of SFAS No. 123, ‘Accounting for Stock-Based Compensation’,
prospectivelyforallemployerawardsgranted,modied,orsettledafter
January 1, 2003.
An expense of EUR 95 million was recorded in 2005 for share-based
compensation (2004: EUR 79 million; 2003: EUR 41 million).
Prior to 2003, the Company accounted for share-based compensation
using the intrinsic value method, and the recognition and measurement
provisions of APB Opinion No. 25, ‘Accounting for Stock Issued to
Employees’, and related interpretations.
Since awards issued under the Company’s plans prior to 2003 generally
vested over three years, the cost related to share-based compensation
included in the determination of net income for 2005, 2004 and 2003 is
less than that which would have been recognized if the fair value method
had been applied to all outstanding awards.
Pro forma net income and basic earnings per share, calculated as if the
Company had applied the fair value recognition provisions for all
outstandingandunvestedawardsineachperiod,amountedtoaprot
ofEUR2,856millionandEUR2.28respectivelyfor2005,aprotof
EUR2,773millionandEUR2.17for2004,andaprotofEUR588million
and EUR 0.46 for 2003. Please refer to stock-based compensation under
accounting policies for a reconciliation of reported and pro forma
income of earnings per share.
Pro forma net income may not be representative of that to be expected
in future years.
In accordance with SFAS No. 123, the fair value of stock options granted
is required to be based upon a statistical option valuation model. Since
the Company’s stock options are not traded on any exchange, employees
canreceivenovaluenorderiveanybenetfromholdingthesestock
options without an increase in the market price of Philips’ stock. Such
anincreaseinstockpricewouldbenetallshareholderscommensurately.
Groupnancialstatements