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The Company reached a final resolution on discussions with the Securities and Exchange Commission on SAB No. 101 — “Revenue Recognition in Financial Statements” as it relates to prearranged sales activities. Although not required to implement SAB No. 101 until the fourth quarter of fiscal year 2001, the Company elected to implement the new accounting guidance in the first fiscal quarter of 2001. The accounting for the Company’s preneed sales activities was affected as follows:
For preneed sales of interment rights, the associated revenue and all costs to acquire the sale are recognized in accordance with SFAS No. 66, “Accounting for Sales of Real Estate.” Under SFAS No. 66, recognition of revenue and costs must be deferred until 10 percent of the property sale price has been collected. Previously, the revenue and costs were recognized at the time the contract was executed with the customer.
For preneed sales of cemetery merchandise, primarily vaults and markers, and preneed sales of cemetery service fees, primarily openings and closings of burial sites and installations of markers, the associated revenue and certain costs to acquire the sale are deferred until the merchandise is delivered or the service is performed. Previously, the revenue and costs were recognized at the time the contract was executed with the customer.
Cemetery merchandise trust earnings are deferred until the underlying merchandise is delivered. Previously, the earnings were recognized as earned in the trust.
Accounting for preneed funeral service sales and earnings on preneed funeral merchandise and services trust funds was not affected, as those revenues were recognized upon delivery of funeral merchandise and services under the Company’s historical accounting methods.
Preneed funeral merchandise sales, primarily caskets, and associated direct selling costs, primarily commissions and direct obtaining costs, are deferred until the merchandise is delivered, at which time they will be reflected in funeral revenue and funeral cost of sales, respectively. Previously, these sales and associated direct costs were recognized as funeral revenue and funeral cost of sales, respectively, when the contract was executed with the customer.
The method of accounting for perpetual care trusts was not affected. Earnings on those trusts continue to be recognized as they are earned in the trusts to offset the costs of maintaining the Company’s cemeteries.
The implementation of SAB No. 101 resulted in several changes to the Company’s balance sheet including the addition of two new categories: prearranged receivables and prearranged deferred revenue. Prearranged receivables are related to preneed sales of funeral and cemetery merchandise and services. Prearranged receivables represent the funds owed to the Company (1) from preneed funeral merchandise and services trusts and from preneed cemetery merchandise and services trusts, which represent amounts already paid by customers, and realized earnings on those amounts, (2) from customers and (3) from insurance companies. Prearranged deferred revenue represents the revenue the Company will recognize upon delivery of the preneed funeral and cemetery merchandise and services at the time of need. The net change in prearranged receivables and prearranged deferred revenue is recognized in the cash flow statement in the operating section as a change in prearranged activity.
Prior to the adoption of SAB No. 101, neither the funeral trust assets nor the receivables related to preneed funerals were included on the balance sheet. Receivables due from customers related to preneed cemetery merchandise and services were previously included with other receivables on the balance sheet. The preneed cemetery merchandise and services trust asset was previously reported as an asset on the balance sheet and the estimated cost to deliver cemetery services and merchandise was reported as a liability on the balance sheet.
All direct costs to acquire the sales of preneed funeral and cemetery merchandise and cemetery services are now included in deferred charges (asset). Previously, these costs were expensed as incurred. Also included in deferred charges are the costs to acquire preneed funeral service sales, which is consistent with the Company’s historical accounting methods. The cost to acquire all preneed merchandise and service sales are included in the operating section of the cash flow statement as prearranged acquisition costs.
The Company filed a Form 8-K dated March 14, 2001 which describes in detail the new accounting methods as compared to its previous accounting methods.
The cumulative effect of these changes on prior years resulted in a decrease in net earnings for the year ended October 31, 2001 of $250,004 (net of a $166,669 income tax benefit), or $2.33 per share. The effect of the change in accounting principles for the year ended October 31, 2001 was an increase in net earnings of $14,317, or $.13 per share.
Additionally, the Company corrected the application of purchase price allocations related to certain prior period acquisitions. These non-SAB No. 101 adjustments were immaterial to the Company’s financial position and current and prior period results.
The Company began deferring all of the earnings realized by irrevocable prearranged funeral trust funds and escrow accounts until the underlying funeral service is delivered. Previously, the Company recognized a portion of those earnings and deferred the remainder to offset the estimated future effects of inflation.
The cumulative effect of this change on prior years resulted in a decrease in net earnings for the year ended October 31, 1999 of $50,101 (net of a $28,798 income tax benefit), or $.47 per share. For the year ended October 31, 1999, the effect of the change in accounting principle in that year was a decrease in net earnings of $16,190, or $.15 per share.
Effective November 1, 2000, the Company adopted SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities.” SFAS No. 137, “Accounting for Derivative Instruments and Hedging Activities — Deferral of the Effective Date of FASB Statement No. 133,” and SFAS No. 138, “Accounting for Certain Derivative Instruments and Certain Hedging Activities,” are amendments to the accounting and reporting standards of SFAS No. 133 and were adopted by the Company concurrently with SFAS No. 133.
SFAS No. 133 requires the Company to recognize all derivatives on the balance sheet at fair value. The adoption of SFAS No. 133 on November 1, 2000 did not have an impact on results of operations and resulted in $4,693 being recognized in other comprehensive income for the cumulative effect of a change in accounting for a derivative financial instrument. The notional amounts of derivative financial instruments do not represent amounts exchanged between parties and, therefore, are not a measure of the Company’s exposure resulting from its use of derivatives. The amounts exchanged are calculated based upon the notional amounts as well as other terms of the instruments, such as interest rates, exchange rates or other indices.
In order to hedge a portion of the interest rate risk associated with its variable-rate debt, during the first quarter of 1999, the Company entered into a three-year interest rate swap agreement involving a notional amount of $200,000. This agreement, which became effective March 4, 1999, effectively converted $200,000 of variable-rate debt bearing interest based on three-month LIBOR to a fixed rate based on the swap rate of 4.915 percent.
In accordance with SFAS No. 133, the Company accounts for the interest rate swap as a cash flow hedge whereby the fair value of the interest rate swap is reflected as a liability in the accompanying consolidated balance sheet with the offset recorded to other comprehensive income. The estimated fair value of the interest rate swap as of October 31, 2001, based on quoted market prices, was an after-tax charge to comprehensive income of ($1,347). The timing of the swap is simultaneous with the timing of the variable interest payments. Therefore, interest expense in the accompanying financial statements includes amounts related to the underlying hedged debt and to the swap.
In 2000, the Financial Accounting Standards Board (“FASB” or the “Board”) issued SFAS No. 140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities — a replacement of FASB Statement No. 125.” SFAS No. 140 is effective for transfers occurring after March 31, 2001 and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. The implementation of SFAS No. 140 did not have an impact on the Company’s results of operations or financial condition for the year ended October 31, 2001.
On June 29, 2001, the FASB approved its proposed SFAS No. 141, “Business Combinations” and SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 141 supercedes Accounting Principles Board (“APB”) Opinion No. 16, “Business Combinations,” to prohibit use of the pooling-of-interest (pooling) method of accounting for business combinations initiated after the issuance date of the final statement. SFAS No. 142 supercedes APB Opinion No. 17, “Intangible Assets,” by stating that goodwill will no longer be amortized, but will be tested for impairment in a manner different from the way other assets are tested for impairment. SFAS No. 142 establishes a new method of testing goodwill for impairment by requiring that goodwill be separately tested for impairment using a fair value approach rather than an undiscounted cash flow approach. Goodwill will be tested for impairment at a level referred to as a reporting unit, generally a level lower than that of the total entity. SFAS No. 142 requires entities to perform the first goodwill impairment test by comparing the fair value with the book value of a reporting unit on all reporting units within six months of adopting the Statement. If the fair value of a reporting unit is less than its book value, an impairment loss will be recognized and treated as a change in accounting principle. That change in accounting principle must be recognized by fiscal year end. Impairment losses recognized as a result of an impairment test occurring subsequent to the first six months after adoption will be included in operating income. The unamortized balance of any existing negative goodwill will be written off upon adoption of SFAS No. 142 and treated as a change in accounting principle. Goodwill of a reporting unit must be tested for impairment after the initial adoption of the Statement on an annual basis, and must be tested between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.
The provisions of SFAS No. 141 and SFAS No. 142 will be effective for fiscal years beginning after December 15, 2001. However, early adoption of SFAS No. 142 will be permitted for companies with a fiscal year beginning after March 15, 2001, provided their first quarter financial statements have not been previously issued. In all cases, SFAS No. 142 must be adopted at the beginning of a fiscal year. Therefore, the Company can elect to early adopt the provisions of SFAS No. 142 in the first quarter of fiscal year 2002 or adopt the provisions in the first quarter of fiscal year 2003. The Company intends to adopt them in the first quarter of fiscal year 2002. Without clear guidance as to the constitution of a reporting unit, the Company’s initial understanding was that a reporting unit could range from an individual facility level to a regional level. Consequently, the Company preliminarily estimated that it would incur a pre-tax noncash impairment charge of between $100,000 to $300,000 for its domestic operations. Since the Company’s initial analysis, there has been clarification and guidance on the application of this pronouncement, including guidance related to the determination of a reporting unit. This clarification has resulted in the Company’s evaluation of goodwill at the funeral and cemetery segment level, which it believes constitutes the Company’s reporting unit. Accordingly, the Company believes that the adoption of SFAS No. 142 in the first quarter of 2002 will not result in a material impairment charge. The Company’s foreign operations will not be affected as they have been previously marked to fair value. The Company’s amortization of goodwill amounted to $19,291 ($14,428 related to domestic operations) in fiscal year 2001.
At the end of June 2001, the FASB issued SFAS No. 143, “Accounting for Asset Retirement Obligations.” SFAS No. 143 addresses the diversity in practice for recognizing asset retirement obligations (“ARO’s”). SFAS No. 143 requires that obligations associated with the retirement of a tangible long-lived asset be recorded as a liability when those obligations are incurred, with the amount of the liability initially measured at fair value. Upon initially recognizing a liability for ARO’s, an entity must capitalize the cost by recognizing an increase in the carrying amount of the related long-lived asset. Over time, the liability is accreted to its present value each period, and the capitalized cost is depreciated over the useful life of the related asset. Upon settlement of the liability, an entity either settles the obligation for its recorded amount or incurs a gain or loss upon settlement. SFAS No. 143 will be effective for financial statements for fiscal years beginning after June 15, 2002, although early application is encouraged. The Company believes that the adoption of SFAS No. 143 will not have any impact on its financial position or results of operations.
In August 2001, the FASB issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets. This statement supercedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of,” and the accounting and reporting provisions of APB Opinion No. 30, “Reporting the Results of Operations — Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions,” for the disposal of a segment of a business. Because SFAS No. 121 did not address the accounting for a segment of a business accounted for as a discontinued operation under APB Opinion No. 30, two accounting models existed for long-lived assets to be disposed. The FASB decided to establish a single accounting model, based on the framework established in SFAS No. 121, for long-lived assets to be disposed of by sale. The FASB also decided to resolve significant implementation issues related to SFAS No. 121. The provisions of the statement are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years, with early application encouraged. The provisions of this statement generally are to be applied prospectively. The Company believes that the adoption of SFAS No. 144 will not have any impact on its financial position or results of operations.
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