MKTX » Topics » Critical Accounting Policies

These excerpts taken from the MKTX 10-K filed Mar 3, 2008.
Critical Accounting Policies
 
This Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States, also referred to as U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of income and expenses during the reporting periods. We base our estimates and judgments on historical experience and on various other factors that we believe are reasonable under the circumstances. Actual results may differ from these estimates under varying assumptions or conditions. Note 2 of the Notes to our Consolidated Financial Statements includes a summary of the significant accounting policies and methods used in the preparation of our Consolidated Financial Statements.
 
Use of Estimates
 
On an ongoing basis, management evaluates its estimates and judgments, particularly as they relate to accounting policies that management believes are critical. That is, these accounting policies are most important to the portrayal of our financial condition and results of operations and they require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
 
Allowance for Doubtful Accounts
 
We continually monitor collections and payments from our customers and maintain an allowance for doubtful accounts. The allowance for doubtful accounts is based upon the historical collection experience and specific collection issues that have been identified.
 
Software Development Costs
 
We capitalize certain costs associated with the development of internal use software at the point at which the conceptual formulation, design and testing of possible software project alternatives have been completed. We


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capitalize employee compensation and related benefits and third party consulting costs incurred during the preliminary software project stage. Once the product is ready for its intended use, such costs are amortized on a straight-line basis over three years. We review the amounts capitalized for impairment whenever events or changes in circumstances indicate that the carrying amounts of the assets may not be recoverable.
 
Revenue Recognition
 
The majority of our revenues are derived from monthly distribution fees and commissions for trades executed on our platform that are billed to our broker-dealer clients on a monthly basis. We also derive revenues from information and user access fees, license fees, investment income and other services. Other income includes revenues from technology licenses, maintenance and consulting services. Commissions are generally calculated as a percentage of the notional dollar volume of bonds traded on the platform and vary based on the type and maturity of the bond traded. Under our transaction fee plans, bonds that are more actively traded or that have shorter maturities are generally charged lower commissions, while bonds that are less actively traded or that have longer maturities generally command higher commissions.
 
We enter into agreements with our broker-dealer clients pursuant to which we provide access to our platform through a non-exclusive and non-transferable license. Broker-dealer clients generally pay an initial license fee, which is typically due and payable upon execution of the broker-dealer agreement. The initial license fee varies by agreement and at a minimum is intended to cover the initial set-up costs incurred to enable a broker-dealer to begin using our electronic trading platform. Revenue is recognized in the first three months of the agreement in the estimated amount of the set-up costs incurred (50% in the first month, 40% in the second month and 10% in the third month), and the remaining amount is deferred and recognized ratably over the initial term of the agreement, which is generally three years. We anticipate that license fees will be an insignificant source of revenues on a going-forward basis.
 
Revenues from contracts for technology integration consulting services are recognized on the percentage-of-completion method in accordance with Statement of Position 81-1, “Accounting for Performance of Construction-Type and Certain Production-Type Contracts.” Percentage-of-completion accounting involves calculating the percentage of services provided during the reporting period compared to the total estimated services to be provided over the duration of the contract. If estimates indicate that a contract loss will occur, a loss provision is recorded in the period in which the loss first becomes probable and reasonably estimable. Contract losses are determined to be the amount by which the estimated direct and indirect costs of the contract exceed the estimated total revenues that will be generated by the contract. There were no contract loss provisions recorded as of December 31, 2007. Revenues recognized in excess of billings are recorded as unbilled services. Billings in excess of revenues recognized are recorded as deferred revenues until revenue recognition criteria are met.
 
Stock-Based Compensation
 
We measure and recognize compensation expense for all share-based payment awards in accordance with SFAS 123R. This statement requires that compensation expense for all share-based awards be recognized based on their estimated fair values measured as of the grant date. These costs are recognized as an expense in the Consolidated Statements of Operations over the requisite service period, which is typically the vesting period, with an offsetting increase to additional paid-in capital. We adopted SFAS 123R using the modified prospective transition method effective January 1, 2006.
 
Income Taxes
 
Income taxes are accounted for using the asset and liability method in accordance with SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”). Deferred income taxes reflect the net tax effects of temporary differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when such differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recognized against deferred tax assets if it is more likely than not that such assets will not be realized in future years.


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In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes — an Interpretation of FASB Statement No. 109” (“FIN 48”), which applies to all tax positions accounted for under SFAS 109. A “tax position” includes current or future reductions in taxable income reported or expected to be reported on a tax return. FIN 48 supplements SFAS 109 by defining the confidence level that a tax position must meet in order to be recognized in the financial statements. The interpretation requires that the tax effects of a position be recognized only if it is “more-likely-than-not” (i.e., greater than 50% likelihood) to be sustained based solely on its technical merits as of the reporting date. In making this assessment, a company must assume that the taxing authorities will examine the position. As a result of the implementation of FIN 48 effective January 1, 2007, we recognized an increase in deferred tax assets of $3.0 million related to previously unrecognized tax benefits, which was accounted for as an increase to additional paid-in capital of $0.3 million and an increase in accrued expenses of $2.7 million. Unrecognized tax benefits as of January 1, 2007 and December 31, 2007 were $2.7 million. If recognized, this entire amount would impact the effective tax rate. In accordance with FIN 48, certain deferred tax assets aggregating $14.1 million were no longer recognized and the related valuation allowance was reversed.
 
Business Combinations, Goodwill and Intangibles Assets
 
We account for business acquisitions under the purchase method of accounting in accordance with SFAS No. 141, “Business Combinations.” The total cost of an acquisition is allocated to the underlying net assets based on their respective estimated fair values. The excess of the purchase price over the estimated fair values of the net assets acquired is recorded as goodwill. Determining the fair value of certain assets acquired and liabilities assumed is judgmental in nature and often involves the use of significant estimates and assumptions, including assumptions with respect to future cash flows, discount rates, growth rates and asset lives.
 
In accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” we no longer amortize goodwill and other intangibles with indefinite lives. We perform an impairment review of goodwill on an annual basis and more frequently if circumstances change. Intangible assets with definite lives, including purchased technology and other intangible assets, are amortized on a straight-line basis over their estimated useful lives of five years. Intangible assets are assessed for impairment when events or circumstances indicate a possible impairment pursuant to the provisions of SFAS No. 144, “Accounting for Long Lived Assets and for Long Lived Assets to be Disposed Of.”
 
Segment Results
 
As an electronic, multi-dealer platform for trading fixed-income securities, our operations constitute a single business segment pursuant to SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information.” Because of the highly integrated nature of the financial markets in which we compete and the integration of our worldwide business activities, we believe that results by geographic region, products or types of clients are not necessarily meaningful in understanding our business.


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Table of Contents

Critical
Accounting Policies



 



This Management’s Discussion and Analysis of Financial
Condition and Results of Operations discusses our Consolidated
Financial Statements, which have been prepared in accordance
with accounting principles generally accepted in the United
States, also referred to as U.S. GAAP. The preparation of
these financial statements requires management to make estimates
and assumptions that affect the reported amounts of assets and
liabilities and the reported amounts of income and expenses
during the reporting periods. We base our estimates and
judgments on historical experience and on various other factors
that we believe are reasonable under the circumstances. Actual
results may differ from these estimates under varying
assumptions or conditions. Note 2 of the Notes to our
Consolidated Financial Statements includes a summary of the
significant accounting policies and methods used in the
preparation of our Consolidated Financial Statements.


 




Use of
Estimates



 



On an ongoing basis, management evaluates its estimates and
judgments, particularly as they relate to accounting policies
that management believes are critical. That is, these accounting
policies are most important to the portrayal of our financial
condition and results of operations and they require
management’s most difficult, subjective or complex
judgments, often as a result of the need to make estimates about
the effect of matters that are inherently uncertain.


 




Allowance
for Doubtful Accounts



 



We continually monitor collections and payments from our
customers and maintain an allowance for doubtful accounts. The
allowance for doubtful accounts is based upon the historical
collection experience and specific collection issues that have
been identified.


 




Software
Development Costs



 



We capitalize certain costs associated with the development of
internal use software at the point at which the conceptual
formulation, design and testing of possible software project
alternatives have been completed. We





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Table of Contents






capitalize employee compensation and related benefits and third
party consulting costs incurred during the preliminary software
project stage. Once the product is ready for its intended use,
such costs are amortized on a straight-line basis over three
years. We review the amounts capitalized for impairment whenever
events or changes in circumstances indicate that the carrying
amounts of the assets may not be recoverable.


 




Revenue
Recognition



 



The majority of our revenues are derived from monthly
distribution fees and commissions for trades executed on our
platform that are billed to our broker-dealer clients on a
monthly basis. We also derive revenues from information and user
access fees, license fees, investment income and other services.
Other income includes revenues from technology licenses,
maintenance and consulting services. Commissions are generally
calculated as a percentage of the notional dollar volume of
bonds traded on the platform and vary based on the type and
maturity of the bond traded. Under our transaction fee plans,
bonds that are more actively traded or that have shorter
maturities are generally charged lower commissions, while bonds
that are less actively traded or that have longer maturities
generally command higher commissions.


 



We enter into agreements with our broker-dealer clients pursuant
to which we provide access to our platform through a
non-exclusive and non-transferable license. Broker-dealer
clients generally pay an initial license fee, which is typically
due and payable upon execution of the broker-dealer agreement.
The initial license fee varies by agreement and at a minimum is
intended to cover the initial
set-up costs
incurred to enable a broker-dealer to begin using our electronic
trading platform. Revenue is recognized in the first three
months of the agreement in the estimated amount of the
set-up costs
incurred (50% in the first month, 40% in the second month and
10% in the third month), and the remaining amount is deferred
and recognized ratably over the initial term of the agreement,
which is generally three years. We anticipate that license fees
will be an insignificant source of revenues on a going-forward
basis.


 



Revenues from contracts for technology integration consulting
services are recognized on the percentage-of-completion method
in accordance with Statement of Position
81-1,
“Accounting for Performance of Construction-Type and
Certain Production-Type Contracts.”
Percentage-of-completion accounting involves calculating the
percentage of services provided during the reporting period
compared to the total estimated services to be provided over the
duration of the contract. If estimates indicate that a contract
loss will occur, a loss provision is recorded in the period in
which the loss first becomes probable and reasonably estimable.
Contract losses are determined to be the amount by which the
estimated direct and indirect costs of the contract exceed the
estimated total revenues that will be generated by the contract.
There were no contract loss provisions recorded as of
December 31, 2007. Revenues recognized in excess of
billings are recorded as unbilled services. Billings in excess
of revenues recognized are recorded as deferred revenues until
revenue recognition criteria are met.


 




Stock-Based
Compensation



 



We measure and recognize compensation expense for all
share-based payment awards in accordance with SFAS 123R.
This statement requires that compensation expense for all
share-based awards be recognized based on their estimated fair
values measured as of the grant date. These costs are recognized
as an expense in the Consolidated Statements of Operations over
the requisite service period, which is typically the vesting
period, with an offsetting increase to additional paid-in
capital. We adopted SFAS 123R using the modified
prospective transition method effective January 1, 2006.


 




Income
Taxes



 



Income taxes are accounted for using the asset and liability
method in accordance with SFAS No. 109,
“Accounting for Income Taxes”
(“SFAS 109”). Deferred income taxes reflect the
net tax effects of temporary differences between the financial
reporting and tax bases of assets and liabilities and are
measured using the enacted tax rates and laws that will be in
effect when such differences are expected to reverse. The effect
on deferred tax assets and liabilities of a change in tax rates
is recognized in income in the period that includes the
enactment date. A valuation allowance is recognized against
deferred tax assets if it is more likely than not that such
assets will not be realized in future years.





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Table of Contents






In June 2006, the FASB issued FASB Interpretation No. 48,
“Accounting for Uncertainty in Income Taxes — an
Interpretation of FASB Statement No. 109”
(“FIN 48”), which applies to all tax positions
accounted for under SFAS 109. A “tax position”
includes current or future reductions in taxable income reported
or expected to be reported on a tax return. FIN 48
supplements SFAS 109 by defining the confidence level that
a tax position must meet in order to be recognized in the
financial statements. The interpretation requires that the tax
effects of a position be recognized only if it is
“more-likely-than-not” (i.e., greater than 50%
likelihood) to be sustained based solely on its technical merits
as of the reporting date. In making this assessment, a company
must assume that the taxing authorities will examine the
position. As a result of the implementation of FIN 48
effective January 1, 2007, we recognized an increase in
deferred tax assets of $3.0 million related to previously
unrecognized tax benefits, which was accounted for as an
increase to additional paid-in capital of $0.3 million and
an increase in accrued expenses of $2.7 million.
Unrecognized tax benefits as of January 1, 2007 and
December 31, 2007 were $2.7 million. If recognized,
this entire amount would impact the effective tax rate. In
accordance with FIN 48, certain deferred tax assets
aggregating $14.1 million were no longer recognized and the
related valuation allowance was reversed.


 




Business
Combinations, Goodwill and Intangibles Assets



 



We account for business acquisitions under the purchase method
of accounting in accordance with SFAS No. 141,
“Business Combinations.” The total cost of an
acquisition is allocated to the underlying net assets based on
their respective estimated fair values. The excess of the
purchase price over the estimated fair values of the net assets
acquired is recorded as goodwill. Determining the fair value of
certain assets acquired and liabilities assumed is judgmental in
nature and often involves the use of significant estimates and
assumptions, including assumptions with respect to future cash
flows, discount rates, growth rates and asset lives.


 



In accordance with SFAS No. 142, “Goodwill and
Other Intangible Assets,” we no longer amortize goodwill
and other intangibles with indefinite lives. We perform an
impairment review of goodwill on an annual basis and more
frequently if circumstances change. Intangible assets with
definite lives, including purchased technology and other
intangible assets, are amortized on a straight-line basis over
their estimated useful lives of five years. Intangible assets
are assessed for impairment when events or circumstances
indicate a possible impairment pursuant to the provisions of
SFAS No. 144, “Accounting for Long Lived Assets
and for Long Lived Assets to be Disposed Of.”


 




Segment
Results



 



As an electronic, multi-dealer platform for trading fixed-income
securities, our operations constitute a single business segment
pursuant to SFAS No. 131, “Disclosures about
Segments of an Enterprise and Related Information.” Because
of the highly integrated nature of the financial markets in
which we compete and the integration of our worldwide business
activities, we believe that results by geographic region,
products or types of clients are not necessarily meaningful in
understanding our business.





49





Table of Contents







This excerpt taken from the MKTX 10-K filed Mar 14, 2007.
Critical Accounting Policies
 
This Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our Consolidated Financial Statements, which have been prepared in accordance with accounting principles generally accepted in the United States, also referred to as U.S. GAAP. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the reported amounts of income and expenses during the reporting periods. We base our estimates and judgments on historical experience and on various other factors that we believe are reasonable under the circumstances. Actual results may differ from these estimates under varying assumptions or conditions. Note 2 of the Notes to our Consolidated Financial Statements includes a summary of the significant accounting policies and methods used in the preparation of our Consolidated Financial Statements.
 
Use of Estimates
 
On an ongoing basis, management evaluates its estimates and judgments, particularly as they relate to accounting policies that management believes are critical. That is, these accounting policies are most important to


53


Table of Contents

the portrayal of our financial condition and results of operations and they require management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain.
 
Allowance for Doubtful Accounts
 
We continually monitor collections and payments from our customers and maintain an allowance for doubtful accounts. The allowance for doubtful accounts is based upon the historical collection experience and specific collection issues that have been identified. Additions to the allowance for doubtful accounts are charged to Bad debt expense, which is included in General and administrative expense in our Consolidated Statements of Operations.
 
Software Development Costs
 
In accordance with Statement of Position No. 98-1, “Accounting for the Costs of Computer Software Developed or Obtained for Internal Use,” we capitalize certain costs associated with the development of internal use software at the point at which the conceptual formulation, design and testing of possible software project alternatives have been completed. We capitalize employee compensation and related benefits and third party consulting costs incurred during the preliminary software project stage. Once the product is ready for its intended use, such costs are amortized on a straight-line basis over three years. We review the amounts capitalized for impairment whenever events or changes in circumstances indicate that the carrying amounts of the assets may not be recoverable.
 
Revenue Recognition
 
The majority of our revenues are derived from commissions for trades executed on its platform that are billed to our broker-dealer clients on a monthly basis. Commissions are generally calculated as a percentage of the notional dollar volume of bonds traded on the platform and vary based on the type and maturity of the bond traded. Under the our transaction fee plans, bonds that are more actively traded or that have shorter maturities are generally charged lower commissions, while bonds that are less actively traded or that have longer maturities generally command higher commissions.
 
We also derive revenues from information and user access fees, license fees, investment income and other income.
 
We enter into agreements with our broker-dealer clients pursuant to which we provide access to our platform through a non-exclusive and non-transferable license. Broker-dealer clients, other than those that previously made equity investments in us, generally pay an initial license fee, which is typically due and payable upon execution of the broker-dealer agreement. The initial license fee varies by agreement and at a minimum is intended to cover the initial set-up costs incurred to enable a broker-dealer to begin using our electronic trading platform. Revenue is recognized in the first three months of the agreement in the estimated amount of the set-up costs incurred (50% in the first month, 40% in the second month and 10% in the third month), and the remaining amount is deferred and recognized ratably over the initial term of the agreement, which is generally three years. We anticipate that license fees will be a less material source of revenues on a going-forward basis.
 
Stock-Based Employee Compensation
 
Prior to January 1, 2006 we have accounted for stock-based employee compensation plans in accordance with Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), as permitted by SFAS No. 123. In accordance with APB 25, compensation expense is recognized for stock awards that have intrinsic value on the date of grant. Unearned compensation is amortized and charged to income over the vesting schedule. Our employee option grants usually vest over a three-year period from the date of issuance.
 
Effective January 1, 2006, we adopted SFAS 123R, which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees based on estimated fair values. In accordance with SFAS 123R, non-employee members of the Board of Directors are treated as employees.


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SFAS 123R supersedes our previous accounting under APB 25 for periods beginning in fiscal 2006. In March 2005, the SEC issued Staff Accounting Bulletin No. 107 (“SAB 107”) relating to SFAS 123R. We have applied the provisions of SAB 107 in our adoption of SFAS 123R.
 
We adopted SFAS 123R using the modified prospective transition method, which requires the application of the accounting standard as of January 1, 2006. In accordance with the modified prospective transition method, our Consolidated Financial Statements for prior periods have not been restated to reflect, and do not include, the impact of SFAS 123R.
 
Income Taxes
 
Income taxes are accounted for using the asset and liability method in accordance with SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”). Deferred income taxes reflect the net tax effects of temporary differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when such differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. A valuation allowance is recognized against deferred tax assets if it is more likely than not that such assets will not be realized in future years.
 
Segment Results
 
As an electronic, multi-dealer to client platform for trading fixed-income securities, our operations constitute a single business segment pursuant to SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information.” Because of the highly integrated nature of the financial markets in which we compete and the integration of our worldwide business activities, we believe that results by geographic region, products or types of clients are not necessarily meaningful in understanding our business.
 

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