2005 Annual Report - Investor Relations - Sherwin-Williams

MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Purchase Accounting
In accordance with FAS No. 141, “Business Combinations,”
the Company used the purchase method of
accounting to allocate costs of acquired businesses to
the assets acquired and liabilities assumed based on their
estimated fair values at the dates of acquisition. The
excess costs of acquired businesses over the fair values
of the assets acquired and liabilities assumed were recognized
as goodwill. The valuations of the acquired
assets and liabilities will impact the determination of
future operating results. In addition to using management
estimates and negotiated amounts, the Company
used a variety of information sources to determine the
estimated values of acquired assets and liabilities including:
third-party appraisals for the estimated value and
lives of identifiable intangible assets and property, plant
and equipment; third-party actuaries for the estimated
obligations of defined benefit pension plans; and legal
counsel or other experts to assess the obligations associated
with legal, environmental and other contingent
liabilities.
Income Taxes
The Company estimated income taxes in each jurisdiction
that it operated. This involved estimating taxable
earnings, specific taxable and deductible items, the
likelihood of generating sufficient future taxable income
to utilize deferred tax assets and possible exposures
related to future tax audits. To the extent these estimates
change, adjustments to deferred and accrued income
taxes will be made in the period in which the changes
occur.
Other Investments and Liabilities
The Company was invested in the United States
affordable housing and historic renovation real estate
markets. These investments have been identified as variable
interest entities. However, the Company is not the
primary beneficiary and did not consolidate the operations
of the investments. The carrying amounts of these
non-traded investments, which approximate market
value, were determined based on cost less related
income tax credits determined by the effective yield
method. See Note 1, on page 46 of this report, for more
information on non-traded investments. The Company’s
risk of loss from the partnership interests is limited to
the amount of its investment. The Company has no
ongoing capital commitments, loan requirements or
guarantees with the general partners that would require
any future cash contributions other than the contractually
committed capital contributions that are disclosed
in the contractual obligations table on page 28 of
this report.
The Company is self-insured for certain liabilities,
primarily worker’s compensation claims, employee medical
and disability benefits, and automobile, property
and general liability claims. Estimated amounts for selfinsured
liabilities are accrued for claims filed but unsettled
and estimated claims incurred but not reported
based upon management’s estimated aggregate liability
for claims incurred using historical experience and actuarial
assumptions followed in the insurance industry.
Certain estimated general liability claims filed but unsettled
and estimated claims incurred but not reported
were accrued based on third-party actuarial calculations
of potential liability using industry experience and actuarial
assumptions developed for similar types of claims.
Accounting for Stock-Based Compensation
At December 31, 2005, the Company had two stockbased
compensation plans accounted for under the
recognition and measurement principles of Accounting
Principles Board Opinion No. 25, “Accounting for Stock
Issued to Employees,” and related interpretations. Effective
January 1, 2006, FAS No. 123R, “Share-Based Payments”
must be adopted by the Company. The Company
expects to utilize the “modified prospective” method as
described in FAS No. 123R. In the “modified prospective”
method, compensation cost is recognized for all
share-based payments granted after the effective date and
for all unvested awards granted prior to the effective
date. The adoption of FAS No. 123R will have an impact
on the Company’s results of operations and financial
condition although it will have no impact on the Company’s
cash flow. The impact on the results of operations of
adoption of FAS No. 123R cannot be predicted with certainty
at this time because it will depend on levels of
share-based payments granted in the future. However,
had the Company adopted FAS No. 123R in prior periods,
the impact would have approximated the effect of
FAS No. 123 reflected in the disclosure of pro-forma net
income and net income per common share in the Stockbased
compensation section of Note 1 on page 49 of
this report.
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