Notes to consolidated financial statements
For the years ended December 31, 2011 and 2010 (as adjusted)
(In thousands of Mexican pesos ($) and thousands of U.S. dollars (US$))
3. Summary of significant accounting policies
The accompanying consolidated financial statements have been prepared in conformity with MFRS, which require that management make certain estimates and use certain assumptions that affect the amounts reported in the financial statements and their related disclosures; however, actual results may differ from such estimates. The Company's management, upon applying professional judgment, considers that estimates made and assumptions used were adequate under the circumstances. The significant accounting policies of the Company are as follows:
a. Accounting changes
Beginning January 1, 2011, the Company adopted the following new MFRS:
NIF B-5, Financial Information by Segments, establishes the managerial approach to disclose financial information by segments, requiring the separate disclosure of interest income, interest expense and liabilities; and information on products, services, geographical areas and main customers and suppliers, as opposed to Bulletin B-5, which required that information disclosed be classified by economic segments, geographical areas or homogeneous groups of customers.
NIF C-4, Inventories, eliminates the direct cost and last-in, first-out valuation methods. It establishes that any change in the purchase cost of inventories based on the lower of cost or market be made only based on net realizable value. It also requires additional disclosures of inventory reduction and impairment losses.
NIF C-5, Prepaid Expenses, establishes that their basic feature is that they do not transfer to the company the risks and rewards inherent in the goods and services to be acquired or received. It also requires that impairment be recognized when such payments lose their ability to generate such benefits and how they should be presented in the balance sheet, as current or long-term assets.
Below are the effects at December 31, 2010 in the main line items of the consolidated statement of financial position, as a result of adopting NIF C-4 and C-5:
| |
2010 |
Ajustes |
2010
(as adjusted) |
| Accounts and notes receivable |
13,942,177 |
(15,768) |
13,926,409 |
| Other accounts receivable |
2,206,455 |
432,536 |
2,638,991
|
| Inventories – Net |
14,241,968 |
1,692,911 |
15,934,879 |
| Prepaid expenses |
174,439 |
1,070,685 |
1,245,124
|
| Property, plant and equipment – Net |
20,257,735 |
(2,872,726) |
17,385,009 |
| Accrued expenses and taxes |
3,543,323 |
19,578 |
3,562,901 |
| Deferred income tax |
1,910,768 |
105,665 |
2,016,433 |
| Deferred statutory profit sharing |
48,933 |
10,249 |
59,182 |
| Retained earnings |
25,337,611 |
125,122 |
25,462,733 |
| Non-controlling interest |
7,028,647 |
47,024 |
7,075,671 |
NIF C-6, Property, Plant and Equipment, incorporates the treatment of exchange of assets pursuant to their commercial substance. It includes the basis for determining the residual value of a component, considering current amounts. It eliminates the rule of assigning a value based on an appraisal of property, plant and equipment acquired free of charge or at an inappropriate cost. It also sets the rule to continue to depreciate a component when it is not in use, except when depreciation methods are based on activity.
NIF C-18, Obligations Associated with the Retirement of Property, Plant and Equipment, lays down specific rules for the initial and subsequent recognition of provisions relating to the obligations associated with the retirement of components of property, plant and equipment.
Improvements to MFRS 2011.- The main improvements that generate accounting changes are as follows:
NIF B-1, Accounting Changes and Correction of Errors, requires that if an accounting change is made or an error is corrected, a retroactively adjusted balance sheet be presented as of the start of the earliest period for which comparative financial information is presented.
Bulletin C-3, Accounts Receivable, includes criteria for the recognition of interest income and does not allow recognition of interest income from difficult-recovery receivables.
Bulletin D-5, Leases, establishes that the discount rate to be used by the lessee to determine the asset's present value should be the interest rate implicit in the lease agreement, provided determination is practical; otherwise, the incremental borrowing rate should be used; the discount rate to be used by the lessor to determine the asset's present value should be the interest rate implicit in the capitalizable lease agreement. Both the lessor and the lessee should disclose complete information on their leasing transactions. It also requires that the gain or loss from the sale and leaseback of the asset under a capitalizable agreement be deferred and amortized over the term of the agreement and that the gain or loss from the sale and leaseback of the asset under an operating lease be recognized in current earnings at the time of sale, when the transaction is stated at fair value.
Improvements generating accounting changes in Bulletin C-10, Derivative Financial Instruments and Hedging Transactions
Hedging with options
Due to their nature, options are used to hedge changes in the cash flows or fair value of a hedged item above or below its specific strike price, which means that the risk is located on one side, due to upward or downward changes, as applicable. It is clarified that the effective portion of these hedges, subject to recognition in comprehensive income (loss), is represented only by the intrinsic value of the option, maintaining the criterion to recognize in current earnings any fluctuation in valuation of the excluded portion of the hedging instrument at the time effectiveness is measured (time value of money or extrinsic value). Under this criterion, the practice of recording fluctuations in overall valuation in other comprehensive income (loss) (change with retroactive application) is unjustified.
Forecasted intragroup transactions
There is a limitation to hedging among entities belonging to the same group, since these transactions are eliminated in the consolidation of their financial statements. Hedge accounting may be applied in the separate financial statements of the entity hedging the risk. As an exception, in consolidated financial statements, the hedging of a transaction is allowed if it is carried out between related parties with different functional currencies and if the exchange rate risk has an impact on the consolidated financial statements.
Hedging the fair value of a portfolio portion
Bulletin C-10 states that for fair value hedges (where both the derivative and the hedged item are valued), the effect of valuing the primary position attributable to the hedged risk should be adjusted to the book value of such position.
It also states that if a portfolio of financial assets or liabilities is partially hedged, the effect of the valuation of the hedged interest rate risk should be presented in an auxiliary account of the primary position as a separate line item, making the effects of partial hedging more transparent.
Margin accounts
Improvements require that margin accounts be presented as a line item separate from that of derivative financial instruments in order to not affect the fair value included in the balance sheet. Previously, margin accounts were presented under derivative financial instruments.
Inability to establish a hedging relationship for a portion of the life of the hedging instrument
A portion of the overall amount of a hedging instrument may be designated in a hedging relationship. However, a hedging relationship may not be designated only for a portion of the period in which the instrument intended to be used as hedge is in effect.
Improvements not generating accounting changes in Bulletins C-2, Financial Instruments and C-10, Derivative Financial Instruments and Hedging Transactions
Bulletin C-2, Financial Instruments, eliminates net presentation of effects of derivatives and their hedged items.
Bulletin C-10, Derivative Financial Instruments and Hedging Transactions, explains that when only a portion of a position subject to risk is hedged, any effects of unhedged risks of the primary position should be recognized in accordance with the valuation method related to such primary position.
b. Recognition of the effects of inflation - Since the cumulative inflation for the three fiscal years prior to those ended December 31, 2011 and 2010 was 15.19% and 14.48%, respectively, the economic environment may be considered non-inflationary in both years and, consequently, no inflationary effects are recognized in the accompanying consolidated financial statements. Inflation rates for the years ended December 31, 2011 and 2010 were 3.82% and 4.40%, respectively.
c. Cash and cash equivalents - Consist mainly of bank deposits in checking accounts and short-term investments, highly liquid and easily convertible into cash, maturing within three months as of their acquisition date, which are subject to immaterial value change risks. Cash is stated at nominal value and cash equivalents are valued at fair value; any fluctuations in value are recognized in comprehensive financing result of the period. Cash equivalents are represented mainly by investments in Treasury Certificates, investment funds, development funds and money market funds.
d. Investments in securities - According to its intent, from the date of acquisition the Company classifies investments in debt and equity securities in one of the following categories: (1) trading, when the Company intends to trade debt and equity instruments in the short-term, prior to maturity, if any, and are stated at fair value. Any value fluctuations are recognized within current earnings; (2) heldto- maturity, when the Company intends to, and is financially capable of, holding such investments until maturity. These investments are recognized and maintained at amortized cost; and (3) available-for-sale, which include securities that are classified neither as trading nor as held-to-maturity, and which are stated at fair value with any unrealized gains or losses, net of income taxes and statutory employee profit sharing, recorded as a component of comprehensive income within stockholders' equity, and reclassified to current earnings upon their sale. Fair value is determined using prices quoted on recognized markets. If such securities are not traded, fair value is determined by applying technical valuation models recognized in the financial sector.
Investments in securities classified as held-to-maturity and available-for-sale are subject to impairment tests. If there is evidence that the reduction in fair value is other than temporary, the impairment is recognized in current earnings.
e. Inventories and cost of sales - Inventories are stated at the lower of cost or net realizable value (estimated selling price less all necessary costs to complete sale), as follows:
Given the diversity of the business activities and operating segments of the Company (industrial, construction and commercial), inventories are stated using the first-in, first-out method (FIFO) and/or average cost depending on the activity of each subsidiary; by considering the cost of materials, direct expenses and a portion of variable and fixed overhead, which are incurred in the transformation process of such inventories.
Net realizable value represents the estimated sales price in the ordinary course of business minus the estimated costs necessary to conclude the transformation process and the costs required to complete the sale.
Inventories of materials and spare parts are stated using FIFO and/or average cost, depending on the activity of each subsidiary and the sector, minus the allowance for slow-moving and obsolete inventories.
When an impairment indicator suggests that the carrying amounts of inventories might not be recoverable, the Company reviews such carrying amounts, estimates the net realizable value, based on the most reliable evidence available at that time. Impairment is recorded if the net realizable value is less than the book value. Impairment indicators considered for these purposes are, among others, obsolescence, a decrease in market prices, damage, and a firm commitment to sell. During the year ended December 31, 2011 and 2010, the Company did not recognize in current earnings any allowance for impairment of inventories.
Cash advances to suppliers are recognized as part of inventories only if the suppliers have transferred the risks and rewards of the items acquired by the Company.
f. Real estate inventories - Real estate inventories are valued at the acquisition costs of land, licenses, materials, labor and overhead incurred in the construction activity of the Company. The Company classifies as long-term inventories, real estate for which the construction phase exceeds one year.
During the period of development of real estate inventories, comprehensive financing cost (RIF) derived from debt obtained to finance the construction process is capitalized. The Company capitalized RIF of $172,165 and $160,944 in 2011 and 2010, respectively.
g. Property, plant and equipment - Are recorded at acquisition cost. Balances from domestic acquisitions made through December 31, 2007 were restated for the effects of inflation by applying factors derived from the National Consumer Price Index (NCPI) through that date. In the case of fixed assets of foreign origin, their acquisition cost was restated for the effects of inflation through December 31, 2007 based on the inflation rate of the country of origin and considering the exchange fluctuations of the Mexican peso against the currency of the country of origin. Depreciation is calculated using the straight-line method based on the remaining useful lives of the related assets, considering a percentage of the estimated salvage value.
Comprehensive financing cost incurred during the period of construction and installation of qualifying property, plant and equipment is capitalized and was restated for inflation through December 31, 2007 using the NCPI.
h. Impairment of long-lived assets in use - The Company reviews the carrying amounts of long-lived assets in use when an impairment indicator suggests that such amounts might not be recoverable, considering the greater of the present value of future net cash flows or the net sales price upon disposal. Impairment is recorded when the carrying amounts exceed the greater of the aforementioned amounts. Impairment indicators considered for these purposes are, among others, the operating losses or negative cash flows in the period if they are combined with a history or projection of losses, depreciation and amortization charged to results, which in percentage terms in relation to revenues are substantially higher than that of previous years, obsolescence, reduction in the demand for the products manufactured, competition and other legal and economic factors.
i. Investment in shares of associated companies and other - Permanent investments in entities where significant influence exists are initially recognized based on the net fair value of the entities' identifiable assets and liabilities as of the date of acquisition. Such value is subsequently adjusted for the portion related both to comprehensive income (loss) of the associated company and the distribution of earnings or capital reimbursements thereof. When the fair value of the consideration paid is greater than the value of the investment in the associated company, the difference represents goodwill, which is presented as part of the same investment. Otherwise, the value of the investment is adjusted to the fair value of the consideration paid. If impairment indicators are present, investment in shares of associated companies is subject to impairment testing. Permanent investments made by the Company in entities where it has neither control, nor joint control, nor significant influence, are initially recorded at acquisition cost and any dividends received are recognized in current earnings, except when they are taken from earnings of periods prior to the acquisition, in which case, they are deducted from the permanent investment.
j. Other assets - Intangible assets are recognized in the accompanying balance sheets only if they can be identified, provide future economic benefits and control exists over such assets. Intangible assets with an indefinite useful life are not amortized and the carrying value of these assets is subject to annual impairment testing, and intangible assets with a defined useful life are amortized systematically based on the best estimate of their useful life, determined in accordance with the expected future economic benefits. The value of these assets is subject to annual impairment assessment.
Intangible assets recognized by the Company mainly relate to costs incurred during the evaluation phase, which are capitalized as other assets during the exploration and evaluation of the Project, and are amortized on the straight-line basis over the useful life of the concession or of the Project, whichever is lower.
Plans and projects for environmental control are presented within other assets. The expenses that are made for this concept are applied to the provision for environmental remediation and the subsequent increase to such provision is debited to the income statement, only if it corresponds to present obligations or to other future obligations, in the year that they are determined.
The Company applies INIF 17, Service concession arrangements, to record and measure its concession contracts. This interpretation provides accounting guidelines to private sector operators involved in providing assets and services of infrastructure to the public sector, classifying the related assets as financial, intangible or a combination of both.
The financial asset originates when an operator builds or makes improvements to the infrastructure in which the operator has an unconditional right to receive a specific amount of cash or other financial asset throughput the term of the contract. An intangible asset originates when an operator builds or makes improvements and is allowed to operate the infrastructure for a fixed period of time after finishing the construction stage, and the future cash flows of the operator are not specified since they could fluctuate according to the use of the asset and by which reason are considered contingent; or a combination of both, a financial asset and an intangible asset when the gain or profit to the operator is to be obtained partially from a financial asset and partially from an intangible asset. The revenue and costs associated with the construction or improvements of the infrastructure are recognized in the results during the construction phase for both, the financial asset and the intangible asset.
The financial asset is recorded at its nominal value and it is subsequently measured at the financial statements date according to the expected financial performance for each one of the concession contracts. The investments that are considered an intangible asset are recorded at acquisition cost without exceeding the estimated recoverable amount. At December 31, 2011 and 2010 the investment in concessions is $269,151 and $286,435, respectively.
k. Goodwill - Represents the excess of cost over the fair value of the subsidiary shares, as of the date of acquisition. Through December 31, 2007, goodwill was restated for the effects of inflation using the NCPI. Goodwill is not amortized and is subject to impairment tests, at least once a year.
l. Derivative financial instruments - Derivative financial instruments for trading or to hedge the risk of adverse movements in: a) interest rates, b) exchange rates for long-term debts, c) prices of shares, d) prices of metals, and e) the price of natural gas, are recognized as assets and liabilities at their fair value.
When derivatives are contracted to hedge risks and fulfill all of the hedging requirements, their designation is documented at the start of the hedge transaction, describing the objective, characteristics, accounting recognition and how the effectiveness will be measured, in relation to this transaction.
Changes in the fair value of derivatives designated as hedges are recognized as follows: (1) when they are fair value hedges, the fluctuations in both the derivative and the item hedged are valued at fair value and are recognized in results; (2) when they are cash flow hedges, the effective portion is recognized temporarily in other comprehensive income and is applied to results when the hedged item affects them; the ineffective portion is recognized immediately in results; (3) when the hedge is an investment in a foreign subsidiary, the effective portion is recognized in other comprehensive income as part of the translation effects of foreign subsidiaries; the gain or loss on the ineffective portion of the hedge instrument is recognized in results of the period if it is a derivative financial instrument and, if it is not, it is recognized in other comprehensive income until the investment is sold or transferred.
Although they are contracted for hedging purposes from an economic standpoint, some derivative financial instruments have not been designated as hedging operations for accounting purposes. The fluctuation in the fair value of these derivatives is recognized in results in the comprehensive result of financing.
The Company suspends the accounting for hedges when the derivative has matured, has been sold, is canceled or exercised, when the derivative does not reach sufficiently high effectiveness to offset the changes in the fair value or cash flows from the item hedged, or when the entity decides to cancel the hedge designation.
When the accounting for hedges is suspended in the case of cash flow hedges, any amounts recorded in stockholders' equity as part of other comprehensive income, remain within capital until the effects of the forecast transaction or firm commitment affect results. If it is no longer probable that the firm commitment or forecast transaction will take place, any gains or losses that were accumulated in other comprehensive income are recognized immediately in results. When the hedge of a forecasted transaction was first considered satisfactory and subsequently does not comply with the effectiveness test, the effects accumulated in other comprehensive income within stockholders' equity are carried proportionally to results to the extent that the forecasted asset or liability affects results.
The Company has executed certain contracts with effects yet to be recognized, and which due to their nature include an embedded derivative. These are valued at fair value and the effect is recorded in the statement of income at the close of the period in which they are valued.
m. Direct employee benefits - Direct employee benefits are calculated based on the services rendered by employees, considering their most recent salaries. The liability is recognized as it accrues. These benefits include mainly statutory employee profit sharing (PTU) payable, compensated absences, such as vacation and vacation premiums, and incentives.
n. Provisions - Provisions are recognized for current obligations that arise from a past event, that will probable to result in the future use of economic resources, and that can be reasonably estimated. The reconciliation of opening to closing balances in the main provisions (included as part of accrued expenses and taxes other than income taxes), which involve a high level of judgment from management and that are subject to certain degree of uncertainty, are as follows:
| |
Opening balance |
Additions |
Provision applied |
Reversals |
Closing balance |
| Contractor costs |
1,140,960 |
7,125,051 |
(7,026,162) |
(3,924) |
1,235,925 |
| Extraordinary project costs and other |
396,089 |
1,545,276 |
(1,267,654) |
(7,068) |
666,643 |
o. Provision for environmental remediation - The Company has adopted environmental protection policies within the framework of applicable laws and regulations. However, due to their activities, the industrial subsidiaries, and more specifically, the mining subsidiaries, sometimes perform activities that adversely affect the environment. Consequently, the Company implements remediation plans (which are generally approved by the competent authorities) that involve estimating the expenses incurred for this purpose.
The estimated costs to be incurred could be modified due to changes in the physical condition of the affected work zone, the activity performed, laws and regulations, variations affecting the prices of materials and services (especially for work to be performed in the near future), as well as the modification of criteria used to determine work to be performed in the affected area, etc. The balance of the provision for environmental remediation, included as part of accrued expenses and taxes other than income taxes, at December 31, 2011 and 2010, and at January 1, 2010 is $84,353, due to the fact that there were no applications, increases or cancelations to such provision during such years.
p. Employee benefits from termination, retirement and other - Liabilities from seniority premiums, pension plans for non-union employees and payments that are similar to pensions and severance payments are recognized as they accrue and are calculated by independent actuaries using nominal interest rates. Therefore, the liability is being recognized that is considered sufficient to cover the present value of the obligation for these benefits to the estimated dates of retirement of all employees working in the Company. As of December 31, 2011 and 2010, some subsidiaries have created investment funds to cover such contingency and others have not, reason why they continue accruing the liability through a reserve for retirement employee benefits.
q. Statutory employee profit sharing - PTU is recorded in the results of the year in which it is incurred and presented under other income and expenses in the accompanying consolidated statements of income. Deferred PTU is derived from temporary differences that result from comparing the accounting and tax bases of assets and liabilities and is recognized only when it can be reasonably assumed that such difference will change in such a way that the liabilities will not be paid or benefits will not be realized.
r. Income taxes - Income tax (ISR) and the Business Flat Tax (IETU) are recorded in the results of the year they are incurred. To recognize deferred income taxes, based on its financial projections, the Company determines whether it expects to incur ISR or IETU and recognizes deferred taxes based on the tax it expects to pay. Deferred taxes are calculated by applying the corresponding tax rate to temporary differences resulting from comparing the accounting and tax bases of assets and liabilities and including, if any, future benefits from tax loss carry-forwards and certain tax credits. Deferred tax assets are recorded only when there is a high probability of recovery.
s. Foreign currency transactions - Foreign currency transactions are recorded at the applicable exchange rate in effect at the transaction date. Monetary assets and liabilities denominated in foreign currency are translated into Mexican pesos at the applicable exchange rate in effect at the balance sheet date. Exchange fluctuations are recorded as a component of net comprehensive financing result in the consolidated statements of income.
t. Revenue recognition - Revenues are recognized as follows:
- Revenues from product sales - These are recognized in the period in which the risks and rewards of ownership of the inventories are transferred to those who acquire them, which generally coincides with when the inventories are delivered or shipped to the customer and the customer assumes responsibility for them.
- Revenues from services - These are recognized as the service is rendered.
- Interest income - It is recorded as it accrues and is generated from the credit card transactions of certain subsidiaries within the commercial sector.
- Revenues from long-term construction contracts - These are recognized based on the percentage-of-completion method, which identifies the revenue in proportion to the costs incurred to reach the progress required to terminate the project. If the final estimated costs determined exceed the revenues contracted, the respective provision is recorded with a charge to results for the year.
- Revenues from change orders - These are recognized when their amount can be reliably quantified and there is reasonable evidence of their approval by the customer. The revenues from claims are recognized when they can be reliably quantified and when, depending on the progress made in the negotiation, there is reasonable evidence that the customer will agree to their payment.
- Revenues from real estate developments - These are recognized at the signing date of the respective contract of purchase and sale, in which the rights and obligations of the real estate property are transferred to the buyer, and at least 20% of the price agreed has been received. If there is uncertainty about future collections, the revenue is recorded as it is received. In those cases where there are indicators of difficulty in recovery, additional allowances for doubtful accounts are created, with a charge against results of the year in which they are determined.
u. Earnings per share - Basic earnings per common share are calculated by dividing net income of majority stockholders by the weighted average number of shares outstanding during the year.