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WEN » Topics » Application of Critical Accounting Policies

This excerpt taken from the WEN 10-K filed Apr 3, 2006.

Application of Critical Accounting Policies

       The preparation of our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make estimates and assumptions in applying our critical accounting policies that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amount of revenues and expenses during the reporting period. Our estimates and assumptions concern, among other things, contingencies for legal, environmental and tax matters, the valuations of some of our investments and

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impairment of long-lived assets. We evaluate those estimates and assumptions on an ongoing basis based on historical experience and on various other factors which we believe are reasonable under the circumstances.

       We believe that the following represent our more critical estimates and assumptions used in the preparation of our consolidated financial statements:

• Reserves for the resolution of income tax contingencies which are subject to future examinations of our Federal and state income tax returns by the Internal Revenue Service or state taxing authorities, including remaining provisions included in “Current liabilities relating to discontinued operations” in our consolidated balance sheets:
 
  As previously discussed above, in 2004 the Internal Revenue Service finalized its examination of our Federal income tax returns for the years ended December 31, 2000 and December 30, 2001 without assessing any additional income tax liability to us. In this connection, in 2004 and, to a much lesser extent in 2005, our results of operations were materially impacted by the release of income tax reserves and related interest accruals that were no longer required. Our Federal income tax returns subsequent to December 30, 2001 are not currently under examination by the Internal Revenue Service although some of our state income tax returns are currently under examination. We believe that adequate provisions have been made in prior periods for any liabilities, including interest, that may result from the completion of these examinations. To the extent that any estimated amount required to liquidate the related liability as it pertains to the former beverage businesses that we sold in October 2000 is determined to be less than or in excess of the aggregate of amounts included in “Current liabilities relating to discontinued operations” in the accompanying consolidated balance sheets, any such difference will be recorded at that time as a component of gain or loss on disposal of discontinued operations. To the extent that any estimated amount required to liquidate the related liability as it pertains to our continuing operations is determined to be less than or in excess of the income tax contingency amounts included in “Other liabilities and deferred income,” any such difference will be recorded at that time as a component of results from continuing operations.
 
• Reserves which total $1.5 million at January 1, 2006 for the resolution of all of our legal and environmental matters as discussed immediately above under “Legal and Environmental Matters”:
 
  Should the actual cost of settling these matters, whether resulting from adverse judgments or otherwise, differ from the reserves we have accrued, that difference will be reflected in our results of operations in the fiscal quarter in which the matter is resolved or when our estimate of the cost changes.
 
• Valuations of some of our investments:
 
  Our investments in short-term available-for-sale and trading marketable securities are valued principally based on quoted market prices, broker/dealer prices or statements of account received from investment managers which are principally based on quoted market or broker/dealer prices. Accordingly, we do not anticipate any significant changes from the valuations of these investments. Our investments in other short-term investments accounted for under the cost method, which we refer to as Cost Investments, and the majority of our non-current investments are valued almost entirely based on statements of account received from the investment managers or the investees which are principally based on quoted market or broker/dealer prices. To the extent that some of these investments, including the underlying investments in investment limited partnerships, do not have available quoted market or broker/dealer prices, we rely on third-party appraisals or valuations performed by the investment managers or the investees in valuing those securities. These valuations are subjective and thus subject to estimates which could change significantly from period to period. Those changes in estimates in Cost Investments would impact our earnings only to the extent of losses which are deemed to be other than temporary. The total carrying value of these investments was approximately $10.0 million as of January 1, 2006. In addition, we have a $30.2 million Cost Investment in Jurlique, an Australian company not publicly traded, for which we currently believe the carrying amount is recoverable due to an analysis prepared by us using assumptions reflected in a recent independent appraisal of management equity interests in Jurlique, using the foreign currency exchange rate as of January 1, 2006. We also have $3.8 million of non-marketable Cost Investments in securities for which it is not practicable to estimate fair value because the investments are non-marketable and are in start-up enterprises for which we currently believe the carrying amount is recoverable.

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• Provisions for unrealized losses on certain investments deemed to be other than temporary:
 
  We review all of our investments that have unrealized losses for any that we might deem other than temporary. The losses we have recognized were deemed to be other than temporary due to declines in the market value of or liquidity problems associated with specific securities. This includes the underlying investments of any of our investment limited partnerships and similar investment entities in which we have an overall unrealized loss. This process is subjective and subject to estimation. In determining whether an investment has suffered an other than temporary loss, we consider such factors as the length of time the carrying value of the investment was below its market value, the severity of the decline, the investee's financial condition and the prospect for future recovery in the market value of the investment. The use of different judgments and estimates could affect the determination of which securities suffered an other than temporary loss and the amount of that loss. We have aggregate unrealized holding losses on our available-for-sale marketable securities of $0.8 million as of January 1, 2006 which, if not recovered, may result in the recognition of future losses. Also, should any of our Cost Investments totaling approximately $75.9 million, including $17.2 million held in the Deferred Compensation Trusts as of January 1, 2006, experience declines in value due to conditions that we deem to be other than temporary, we may recognize additional other than temporary losses. However, any market value declines on the investments in the Deferred Compensation Trusts would also result in a reduction of the corresponding deferred compensation payable and related deferred compensation expense. We have permanently reduced the cost basis component of the investments for which we have recognized other than temporary losses of $0.4 million, $6.9 million and $1.5 million during 2003, 2004, and 2005, respectively. As such, recoveries in the value of these investments, if any, will not be recognized in income until the investments are sold.
 
• Provisions for impairment of goodwill and long-lived assets:
 
  As of January 1, 2006, $464.2 million of our goodwill relates to our restaurant segment, of which $445.4 million is associated with the Company-owned restaurant operating unit, and $54.1 million relates to our asset management segment. We test the goodwill of each of our restaurant business reporting units and our asset management segment for impairment annually. We recognize a goodwill impairment charge, if any, for any excess of the net carrying amount of the respective goodwill over the implied fair value of the goodwill. The implied fair value of the goodwill is determined in the same manner as the existing goodwill was determined substituting the fair value for the cost of the reporting unit. The fair value of the reporting unit has been estimated to be the present value of the anticipated cash flows associated with the reporting unit. We did not incur any goodwill impairment in 2004 and 2005. However, as explained more fully in the comparison of 2004 with 2003 in “Goodwill Impairment” under “Results of Operations” above, we recognized a $22.0 million goodwill impairment charge in 2003 with respect to the Company-owned restaurants we had purchased in the Sybra Acquisition. The amount of the impairment in 2003, and the recoverability of the goodwill in 2004 and 2005, was based on estimates we made regarding the present value of the anticipated cash flows associated with the Company-owned restaurant reporting unit. Those estimates are subject to change as a result of many factors including, among others, any changes in our business plans, changing economic conditions and the competitive environment. Should actual cash flows and our future estimates vary adversely from those estimates we used, we may be required to recognize additional goodwill impairment charges in future years. Further, fair value of the reporting unit can be determined under several different methods, of which discounted cash flows is one alternative. Had we utilized an alternative method, the amount of the goodwill impairment charge, if any, might have differed significantly from the amounts reported.
 
  We review our long-lived assets, which exclude goodwill, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If that review indicates an asset may not be recoverable based upon forecasted, undiscounted cash flows, an impairment loss is recognized for the excess of the carrying amount over the fair value of the asset. The fair value is estimated to be the present value of the associated cash flows. Our critical estimates in this review process include (1) anticipated future cash flows of each of our Company-owned restaurants used in assessing the recoverability of their respective long-lived assets and (2) anticipated future cash flows of one of our product lines to which a trademark relates. We recognized related impairment losses of $0.4 million, $3.4 million and $1.9 million in 2003, 2004 and 2005, respectively. The entire impairment loss in 2003 and $1.8 million of the loss in 2004 and $0.9 million of the loss in 2005 related to long-lived assets of certain restaurants which were determined to not be fully recoverable in order to reduce the carrying value of those assets to their estimated fair value. The remaining $1.6 million impairment loss in 2004 and $0.5 million of the loss in 2005 related to the trademark referred to above. The remaining $0.5 million of the loss in 2005 related to a reduction in the value of an asset management contract for a collateralized debt obligation. The fair values of the impaired assets were estimated to be the present value of the anticipated cash flows associated with each affected Company-owned restaurant, the trademark and the asset management contract. Those estimates are subject to change as a result of many factors including, among others, any changes in our business plans, changing economic conditions and the competitive environment. Should actual cash flows and our future estimates vary adversely from those estimates we used, we may be required to recognize additional impairment charges in future years. Further, fair value of the long-lived assets can be determined under several different methods, of which discounted cash flows is one alternative. Had we utilized an alternative method, the amounts of the respective impairment charges might have differed significantly from the charges reported. As of January 1, 2006, the remaining net carrying value of that trademark, the Company-owned restaurant long-lived assets and asset management contracts were $1.1 million, $61.3 million and $26.7 million, respectively. In addition, we have Company-owned restaurant long-lived assets of RTM with a net book value of $378.1 million as of January 1, 2006 that could require testing for impairment should future events or changes in circumstances indicate they may not be recoverable.

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       Our estimates of each of these items historically have been adequate. Due to uncertainties inherent in the estimation process, it is reasonably possible that the actual resolution of any of these items could vary significantly from the estimate and, accordingly, there can be no assurance that the estimates may not materially change in the near term.

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