D-40 Company
Notes to Consolidated Financial Statements
August 31, 2008, 2007 and 2006
Note 10. Income Taxes
The provision for income taxes consisted of the following for the fiscal years ended August 31, 2008, 2007 and 2006 (in thousands):
| Fiscal Year Ended August 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| 2008 | 2007 | 2006 | |||||||||
| Current Federal |
$ | 7,856 | $ | 9,681 | $ | 10,829 | |||||
| State | 1,243 | 1,432 | 953 | ||||||||
| Foreign | 3,646 | 2,062 | 2,393 | ||||||||
| Total current | 12,745 | 13,175 | 14,175 | ||||||||
| Deferred United States |
1,570 | 2,285 | 401 | ||||||||
| Foreign | 62 | 181 | 170 | ||||||||
| Total deferred | 1,632 | 2,466 | 571 | ||||||||
| $ | 14,377 | $ | 15,641 | $ | 14,746 | ||||||
Income before income taxes included approximately $12.3 million, $8.1 million and $6.4 million related to foreign operations for the fiscal years ended August 31, 2008, 2007 and 2006, respectively.
Deferred tax assets and deferred tax liabilities were comprised of the following (in thousands):
| As of August 31, | |||||||
|---|---|---|---|---|---|---|---|
| 2008 | 2007 | ||||||
| Deferred tax assets Accrued payroll and related expenses |
$ | 976 | $ | 690 | |||
| State income taxes paid | 594 | 287 | |||||
| Accounts receivable | 662 | 778 | |||||
| Accounts payable and accrued liabilities | 2,425 | 2,134 | |||||
| Deferred employee benefits and other long-term liabilities | 331 | 760 | |||||
| Stock-based compensation expense | 1,705 | 953 | |||||
| Net operating loss | 241 | 203 | |||||
| Other | 760 | 453 | |||||
Valuation allowance |
(201 | ) | (162 | ) | |||
| Total deferred tax assets | 7,493 | 6,096 | |||||
Deferred tax liabilities Property, plant and equipment, net |
(234 | ) | (154 | ) | |||
| Amortization of tax goodwill and intangible assets | (19,000 | ) | (16,529 | ) | |||
| Investment in low income housing partnerships | (784 | ) | (786 | ) | |||
| Investment in VML partnership | (292 | ) | (289 | ) | |||
| Other | (14 | ) | (198 | ) | |||
Total deferred tax liabilities |
(20,324 | ) | (17,956 | ) | |||
Net deferred tax liabilities |
$ | (12,831 | ) | $ | (11,860 | ) | |
As of August 31, 2008, the Company had foreign and state net operating loss (“NOL”) carryforwards of approximately $0.6 million and $0.3 million, respectively, which begin to expire in fiscal years 2013 and 2014. The foreign net operating loss created a deferred tax asset of approximately $0.2 million. Utilization of this deferred tax asset is dependent upon the generation of future taxable income in this jurisdiction. At this time, management has concluded that it is not “more likely than not” that this will occur, and accordingly, has recorded a valuation allowance against this deferred tax asset. In the current fiscal year, the Company used state NOL carryforwards of $0.5 million.
A reconciliation of the statutory federal income tax rate to the Company’s effective tax rate was as follows for the fiscal years ended August 31, 2008, 2007 and 2006 (in thousands):
| Fiscal Year Ended August 31, | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|
| 2008 | 2007 | 2006 | |||||||||
| Amount computed at U.S. statutory federal tax rate | $ | 14,700 | $ | 16,511 | $ | 15,000 | |||||
| State income taxes, net of federal tax benefits | 1,247 | 1,083 | 1,010 | ||||||||
| Effect of foreign operations | (833 | ) | (815 | ) | (362 | ) | |||||
| Benefit from qualified domestic production deduction | (502 | ) | (268 | ) | (218 | ) | |||||
| Benefit from municipal bond interest | (192 | ) | (435 | ) | (106 | ) | |||||
| Low income housing and research and experimentation credits | (28 | ) | (106 | ) | (177 | ) | |||||
| Benefit from extraterritorial income deductions | — | (54 | ) | (212 | ) | ||||||
| Other | (15 | ) | (275 | ) | (189 | ) | |||||
| $ | 14,377 | $ | 15,641 | $ | 14,746 | ||||||
U.S. federal income tax expense is provided on remittances of foreign earnings and on unremitted foreign earnings that are not indefinitely reinvested. As of August 31, 2008, the Company had not provided for U.S. income taxes and foreign withholding taxes on $37.6 million of undistributed earnings of certain foreign subsidiaries since these earnings are considered indefinitely reinvested outside of the U.S. The amount of unrecognized deferred U.S. income tax liability would substantially be offset by unrecognized foreign tax credits that would be available to reduce a large portion of the U.S. liability. Regarding certain foreign subsidiaries not indefinitely reinvested, the Company has provided for U.S. income taxes and foreign withholding taxes on the undistributed earnings.
In July 2006, the FASB issued FIN 48, which clarifies the accounting for uncertainty in income taxes recognized in an entity’s financial statements in accordance with FASB Statement No. 109, Accounting for Income Taxes, and prescribes a recognition threshold and measurement attributes for financial statement disclosure of tax positions taken or expected to be taken on a tax return. Under FIN 48, the impact of an uncertain income tax position must be recognized in the financial statements at the largest amount that is more likely than not to be sustained upon audit by the relevant taxing authority. An uncertain income tax position will not be recognized if it has less than a fifty percent likelihood of being sustained. Additionally, FIN 48 provides guidance on derecognition, classification, interest and penalties, accounting in interim periods, disclosure and transition.
The Company adopted the provisions of FIN 48 effective September 1, 2007. The cumulative effect of adopting FIN 48 resulted in a decrease of $0.6 million to the September 1, 2007 balance of retained earnings.
In accordance with FIN 48, the Company recognizes accrued interest and penalties related to uncertain tax positions as a component of income tax expense. As of August 31, 2008 and September 1, 2007, the total balance of accrued interest and penalties related to uncertain tax positions was $0.4 million and $0.3 million, respectively. For fiscal year 2008, income tax expense included $0.1 million of interest and penalties.
A reconciliation of the change in the Company’s gross unrecognized tax benefits for the fiscal year ended August 31, 2008 is as follows (in thousands):
| Unrecognized tax benefits at September 1, 2007 | $ | 2,196 | |
| Gross decreases – tax positions in prior periods | (368 | ) | |
| Gross increases – current period tax positions | 297 | ||
| Expirations of statute of limitations for assessment | (429 | ) | |
| Unrecognized tax benefits at August 31, 2008 | $ | 1,696 |
As of August 31, 2008 and September 1, 2007, the total amount of unrecognized tax benefits was $1.7 million and $2.2 million, respectively, of which $1.1 million and $1.3 million, respectively, would affect the effective tax rate, if recognized. The gross liability for income taxes related to unrecognized tax benefits is included in other long-term liabilities in the Company’s consolidated balance sheets.
The Company is subject to taxation in the U.S. and in various state and foreign jurisdictions. The Company currently has no years under examination by the U.S. Internal Revenue Service and is not subject to examination for years prior to fiscal year 2005. Generally, for the majority of state and foreign jurisdictions where the Company does business, periods prior to fiscal year 2004 are no longer subject to examination. The Company is currently under audit in various state and local jurisdictions for fiscal years 2004 through 2006. In the twelve month period following August 31, 2008, the Company estimates that up to $0.5 million of unrecognized tax benefits related to income tax positions may be affected by the resolution of tax examinations or expiring statutes of limitation. Audit outcomes and the timing of settlements are subject to significant uncertainty.