This excerpt taken from the ENER 10-K filed Sep 13, 2006.
Critical Accounting Estimates and Significant Accounting Policies
Our significant accounting policies are more fully described in Note A, Summary of Accounting Policies, to our Consolidated Financial Statements. Certain of our accounting policies require management to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. These estimates and assumptions are based on our historical experience, the terms of existing contracts, our evaluation of trends in the industry, information provided by our customers and suppliers and information available from other outside sources, as appropriate. However, they are subject to an inherent degree of uncertainty. As a result, actual results in these areas may differ significantly from our estimates.
We consider an accounting estimate to be critical if it requires us to make assumptions about matters that were uncertain at the time the estimate was made and changes in the estimate would have had a significant impact on our consolidated financial position or results of operations.
Effective July 1, 2005, ECD adopted SFAS No. 123(R), "Share-Based Payment" (SFAS No. 123(R)). This statement replaces SFAS No. 123, "Accounting for Stock-Based Compensation" (SFAS No. 123) and supersedes APB No. 25. SFAS No. 123(R) requires that all stock-based compensation be recognized as an expense in the financial statements and that such cost be measured at the fair value of the grant. This statement was adopted using the modified prospective method of application, which requires us to recognize compensation expense on a prospective basis. Therefore, prior period financial statements have not been restated. Under this method, in addition to reflecting compensation expense for new share-based grants, expense is also recognized to reflect the remaining service period of grants that had been included in pro-forma disclosures in prior periods.
ECD records the fair value of stock-based compensation grants as an expense. In order to determine the fair value of stock options on the date of grant, ECD applies the Black-Scholes option-pricing model. Inherent in this model are assumptions related to expected stock-price volatility, option life, risk-free interest rate and dividend yield. While the risk-free interest rate and dividend yield are less subjective assumptions, typically based on factual data derived from public sources, the expected stock-price volatility and option life assumptions require a greater level of judgment.
ECD uses an expected stock-price volatility assumption that is based on historical implied volatilities of the underlying stock which is obtained from public data sources.
With regard to the weighted-average option life assumption, ECD considers the exercise behavior of past grants and models the pattern of aggregate exercises. Patterns are determined on specific criteria of the aggregate pool of optionees. Forfeiture rates are based on the Companys historical data for stock option forfeitures.
Prior to the adoption of SFAS No. 123(R), ECD applied APB 25 to its stock-based compensation awards to employees. Had compensation costs for ECDs stock option plans been determined based upon the fair value at the grant date for awards under these plans consistent with the methodology prescribed under SFAS No.123(R), the Companys net income (loss) and net income (loss) per share for the years ended June 30, 2005 and 2004 would have changed as follows:
Total net stock-based compensation expense is attributable to the granting of and the remaining requisite service periods of stock options previously granted. Compensation expense attributable to net stock-based compensation in fiscal 2006 was $1,719,000, increasing both basic and diluted loss $.05 per share. As of June 30, 2006, the total unrecognized compensation cost related to nonvested stock grants was $1,895,334 and the related weighted-average period over which it is expected to be recognized is approximately 1.6 years.
Our accrued warranty liability increased to $1,835,136 at June 30, 2006 from $1,635,532 at June 30, 2005, due to increased product sales in our United Solar Ovonic segment. See Note E, Liabilities, to our Consolidated Financial Statements. We generally provide a 20-year product warranty on power output on all Uni-Solar products installed as part of pre-engineered solutions. Our accrued warranty liability also includes warranties previously provided on our machine-building and equipment products.
Allowance for Uncollectible Accounts
Our allowance for uncollectible accounts increased to $691,000 at June 30, 2006 from $412,000 at June 30, 2005, due principally to the increase in product sales in our United Solar Ovonic segment. See Note B, Accounts Receivable, to our Consolidated Financial Statements.
Government Contracts, Reserves and Liabilities
Our reserves and liabilities for government contracts decreased to $2,345,000 at June 30, 2006 from $2,638,000 at June 30, 2005, due principally to an aggregate $1,064,000 reduction in our estimated liability in 2006, which was partially offset by additional accrued costs for work performed in 2006 under government contracts. The 2006 reduction reflects partial resolution of an audit of certain government contracts by the Defense Contract Audit Agency and adjustment of a reserve to better reflect our residual royalty obligations under an advanced development agreement. See Note E, Liabilities, to our Consolidated Financial Statements.
See Note A, Summary of Accounting Policies Recent Pronouncements, for a description of recent accounting pronouncements and the impact on the Companys financial statements.