Accounting standards and policies

Application of IFRS

The Group's financial statements for 2009 and the comparative year have been drawn up in accordance with the International Financial Reporting Standards (IFRS) adopted by the European Union, which are in force at the date of preparing this report.

No new material IFRSs or amendments thereto have come into effect from 2009 that are applicable to the Group. In detail:

-IAS 1 – Presentation of Financial Statements: the revised standard requires all changes arising from transactions with shareholders to be presented in a statement of changes in shareholders' equity. All changes resulting from transactions with non-shareholders must be reported in a single statement of comprehensive income or in two statements (a separate statement of income and a statement of comprehensive income); the statement of comprehensive income includes income and expenses, including all reclassification adjustments, which have not been recognized in net income for the year under other IFRSs. The Group has applied the standard retrospectively, reporting the changes resulting from transactions with non-shareholders in two statements denoted "Consolidated statement of income" and "Statement of comprehensive income" respectively. The Group has consequently revised the presentation of the statement of changes in shareholders' equity.

-IFRS 8 – Operating Segments: this standard requires the information contained in segment reporting to be based on factors used by management for taking operating decisions, meaning that operating segments must be identified on the basis of internal reports that are regularly reviewed by the entity's management for the purposes of allocating resources to the different segments and assessing their performance. The Group considers that the disclosures provided are sufficient to satisfy the standard's requirements.

-IAS 23 – Borrowing Costs: this standard removes the option of immediately recognizing as an expense in the statement of income any financial expenses incurred for assets which normally take a substantial period of time to get ready for their intended use or sale. The Group has applied this standard prospectively from January 1, 2009 without any material impact on the financial statements for the year.

-Amendment to IFRS 7 – Financial Instruments: Disclosures: the amendment, which is applicable from January 1, 2009, has been issued to improve the disclosure requirements about fair value measurements and reinforce existing principles for disclosures about the liquidity risk associated with financial instruments. In particular, the amendment introduces a three-level hierarchy for fair value measurement disclosures. The adoption of these amendments has not had any impact on the measurement and recognition of items reported in the financial statements, but only on the type of disclosures presented in the explanatory notes.

The Group carries out activities that as a whole do not involve significant seasonal or cyclical variations in total sales during the year.

New accounting standards

-On January 10, 2008 the IASB issued a revised version of IFRS 3 – Business combinations, and amended IAS 27 – Consolidated and separate financial statements. The main changes to IFRS 3 involve eliminating the requirement, in the case of acquiring a subsidiary by steps, to measure its individual assets and liabilities at fair value for each successive acquisition. In this case, goodwill will be determined immediately before acquiring control as the difference between the value of the investments, the transaction consideration and the value of the net assets acquired. In addition, if the company does not acquire 100% of the shares in the subsidiary, the percentage of net assets pertaining to minority interests can be measured either at fair value or using the method already permitted by IFRS 3. The revised standard also requires all costs associated with the business combination to be expensed to the statement of income, and liabilities for any contingent consideration to be recognized at the date of acquisition. In the amendment to IAS 27, the IASB has established that any partial disposals of interests that do not involve a loss of control must be accounted for through shareholders' equity. The amendment to IAS 27 also requires that all losses attributable to the minority are allocated to minority interests in equity, even when they exceed the minority interest in the subsidiary's equity. This amendment is applicable prospectively from January 1, 2010.

-IFRS 5 – Non-current assets held for sale and discontinued operations: the amendment, which must be applied prospectively from January 1, 2010, establishes that if an entity is engaged in a disposal program involving the loss of control of a subsidiary, all the assets and liabilities of that subsidiary must be reclassified as assets held for sale, even if the entity continues to hold a minority interest in the subsidiary after the disposal.

Valuation criteria

The financial statements have been prepared on a historical cost basis, with the exception of the valuation of certain financial instruments. The more important accounting policies adopted by the Group for valuing the contents of its financial statements are detailed below:

Revenues

Revenues arise from ordinary company operations and include sales revenues and service revenues.

Revenues from product sales, net of any discounts and returns, are recognized when the company transfers the main risks and rewards associated with ownership of the goods and when collection of the relevant receivables is reasonably certain. Revenues from sales by directly operated stores are recognized when the customer pays. The Group's policy regarding returns by customers is quite restrictive, allowing these only in very specific circumstances (eg. defective goods, late shipment). At the end of each year the Group considers past trends to estimate the overall amount of returns expected in the following year relating to sales in the year just ended. This amount is then deducted from revenues reported in that year.

Revenues from services are recorded with reference to the stage of completion of the transaction as of the balance sheet date. Revenues are recorded in the period in which the service is provided, based on the percentage of completion method. If revenues from the services cannot be estimated reliably, they are only recognized to the extent that the relative costs are recoverable. Recognizing revenues using this method makes it possible to provide suitable information about the service provided and the economic results achieved during the financial period. Royalties are recognized on an accruals basis in accordance with the substance of the contractual agreements.

Financial income

Interest income is recorded on a time-proportion basis, taking account of the effective yield of the asset to which it relates.

Dividends

Dividends from third parties are recorded when the shareholders’ right to receive payment becomes exercisable, following a resolution of the shareholders of the company in which the shares are held.

Expense recognition

Expenses are recorded on an accruals basis.

Income and costs relating to lease contracts

Income and costs from operating lease contracts are recognized on a straight-line basis over the duration of the contract to which they refer.

Income taxes

Current income taxes are calculated on the basis of taxable income, in accordance with applicable local regulations in each individual country.

The Group's Italian companies have elected to file for tax on a group basis for the three-year period 2007-2009, as allowed by articles 117 et seq. of the Tax Consolidation Act DPR 917 dated 22 December 1986, with Edizione S.r.l. acting as the head of the tax group.

The relationships arising from participation in the above tax group are governed by specific rules, approved and signed by all participating companies.

This participation enables the companies to record, and then transfer current taxes even when the taxable result is negative, recognizing a corresponding receivable due from Edizione S.r.l.; conversely, if the taxable result is positive, the current taxes transferred are recorded as a payable to Edizione S.r.l. by such companies.

The relationship between the parties, governed by contract, provides for the transfer of the full amount of tax calculated on the taxable losses or income at current IRES (corporation tax) rates.

Deferred tax assets are recorded for all temporary differences to the extent it is probable that taxable income will be available against which the deductible temporary difference can be utilized. The same principle is applied to the recognition of deferred tax assets on the carryforward of unused tax losses.

The carrying value of deferred tax assets is reviewed at every balance sheet date and, if necessary, reduced to the extent that it is no longer probable that sufficient taxable income will be available to recover all or part of the asset. The general rule provides that, with specific exceptions, deferred tax liabilities are always recognized.

Deferred tax assets and liabilities are calculated using tax rates which are expected to apply in the period when the asset is realized or the liability settled, using the tax rates and tax regulations which are in force at the balance sheet date.

Tax assets and liabilities for current taxes are only offset if there is a legally enforceable right to set off the recognized amounts and if it is intended to settle or pay on a net basis or to realize the asset and settle the liability simultaneously. It is possible to offset deferred tax assets and liabilities only if it is possible to offset the current tax balances and if the deferred tax balances refer to income taxes levied by the same tax authority.

Earnings per share

Basic earnings per share are calculated by dividing income attributable to Parent Company shareholders by the weighted average number of ordinary shares outstanding during the period. Diluted earnings per share are calculated by dividing the income or loss attributable to Parent Company shareholders by the weighted average number of outstanding shares, taking account of all potential ordinary shares with a dilutive effect (for example employee stock option plans).

Property, plant and equipment

These are recorded at purchase or production cost, including the price paid to buy the asset (net of discounts and rebates) and any costs directly attributable to the purchase and commissioning of the asset. The cost of a commercial property purchased is the purchase price or equivalent of the price in cash including all other directly attributable expenses such as legal costs, registration taxes and other transaction costs. Investments that enhance the value of capitalized assets are allocated to the assets to which they refer and depreciated over the remaining useful economic lives of those assets. Borrowing costs attributable to assets that require a substantial period of time to get ready for their intended use or sale are capitalized in the year incurred and cease to be capitalized when the asset is ready for its intended use of sale. The cost of internally produced assets is the cost at the date of completion of work. Property, plant and equipment are shown at cost less accumulated depreciation and impairment losses, plus any recovery of asset value. Plant and machinery may have components with different useful lives. Depreciation is calculated on the useful life of each individual component. In the event of replacement, new components are capitalized to the extent that they satisfy the criteria for recognition as an asset, and the carrying value of the replaced component is eliminated from the balance sheet. The residual value and useful life of an asset is reviewed at least at every financial year-end and if, regardless of depreciation already recorded, an impairment loss occurs determined under the criteria contained in IAS 36, the asset is correspondingly written down in value; if, in future years, the reasons for the write-down no longer apply, its value is restored. Ordinary maintenance costs are expensed in full to the statement of income as incurred.

The value of an asset is systematically depreciated over its useful life, on a straight-line basis, indicatively as shown below:

Land is not depreciated.

The commercial properties are depreciated over 50 years.

Leasehold improvement costs are depreciated over the shorter of the period during which the improvement may be used and the residual duration of the lease contract.

Assets acquired under finance leases are recognized in the consolidated financial statements at their fair value at the commencement of the lease term, with the financial payable due to the leasing companies recognized as a liability; these assets are depreciated at the normal depreciation rate used for similar assets. In the case of sale and leaseback transactions resulting in a finance lease, any gain resulting from the sale and leaseback is deferred and released to income over the lease term. Leases for which the lessor effectively maintains all risks and rewards incidental to asset ownership are classified as operating leases. Costs pertaining to operating leases are expensed to income on a straight-line basis over the length of the related agreement.

Acquisitions of companies, carried out solely for the purpose of obtaining the ownership of properties, are not treated like business combinations.

Intangible assets

Intangible assets are measured initially at cost, normally defined as their purchase price, inclusive of any non-refundable purchase taxes and less any trade discounts and rebates; also included is any directly attributable expenditure on preparing the asset for its intended use, up until the asset is capable of operating. The cost of an internally generated intangible asset includes only those expenses which can be directly attributed or allocated to it as from the date on which it satisfies the criteria for recognition as an asset. After initial recognition, intangible assets are carried at cost, less accumulated amortization and any accumulated impairment losses calculated in accordance with IAS 36.

Goodwill is recognized initially by capitalizing, in intangible assets, the excess of the purchase cost over the fair value of the net assets of the newly acquired. As required by IAS 38, at the time of recognition, any intangible assets that have been generated internally by the acquired entity are eliminated from goodwill.

Goodwill is not amortized, but is submitted to an impairment test annually to identify any reductions in value, or more often whenever there is any evidence of impairment loss (see impairment of non-financial assets).

Research costs are charged to the statement of income in the period in which they are incurred.

Items which meet the definition of "assets acquired as part of a business combination" are only recognized separately if their fair value can be measured reliably.

Intangible assets are amortized unless they have indefinite useful lives.

Amortization is applied systematically over the intangible asset's useful life, which reflects the period it is expected to benefit. The residual value at the end of the useful life is assumed to be zero, unless there is a commitment by third parties to buy the asset at the end of its useful life or there is an active market for the asset. Management reviews the estimated useful lives of intangible assets at every financial year end.

Normally, the amortization period for main brands ranges from 15 to 25 years; patent rights are amortized over the duration of their rights of use, while deferred and commercial expenses are amortized over the remaining term of the lease contracts, with the exception of "fonds de commerce" of French companies, which are amortized over 20 years.

Impairment losses of non-financial assets

The Group's activities are divided into two segments which, apart from being the basis for making strategic decisions, provide representative, accurate and significant information about its business performance. The two segments identified are as follows:

-apparel;

-textile.

The Benetton Group has identified assets and CGU’s within each segment (for example: stores operated directly and by third parties, and textile segment factories) to be submitted to impairment testing as well as its method of implementation: for real estate and some categories of asset (for example: "fonds de commerce") fair value is used, while value in use is adopted for most of the other assets. The carrying amounts of the Benetton Group's property, plant and equipment and intangible assets are submitted to impairment testing whenever there are obvious internal or external signs indicating that the asset or group of assets (defined as Cash-Generating Units or CGUs) may be impaired.

In the case of goodwill, other intangible assets with indefinite lives and intangible assets not in use, the impairment test must be carried out at least annually and, anyway, whenever there is evidence of possible impairment.

The impairment test is carried out by comparing the carrying amount of the asset or CGU with the recoverable value of the same, defined as the higher of fair value (net of any costs to sell) and its value in use. Value in use is determined by calculating the present value of future net cash flows expected to be generated by the asset or CGU. If the carrying amount is higher than the recoverable amount, the asset or CGU is written down by the difference.

The conditions and methods applied by the Group for reversing impairment losses, excluding in any case those relating to goodwill that may not be reversed, are as set out in IAS 36.

Financial assets

All financial assets are measured initially at cost, which corresponds to the consideration paid including transaction costs (such as advisory fees, stamp duties and payment of amounts required by regulatory authorities).

Classification of financial assets determines their subsequent valuation, which is as follows:

-held-to-maturity investments, loans receivable and other financial receivables: these are recorded at amortized cost, less any write-downs carried out to reflect impairment losses. Gains and losses associated with this type of asset are recognized in the statement of income when the investment is removed from the balance sheet on maturity or if it becomes impaired;

-available for sale financial assets: these are recorded at fair value, and gains and losses deriving from subsequent measurement are recognized in shareholders’ equity. If the fair value of these assets cannot be determined reliably, they are measured at cost, as adjusted for any impairment.

Each type of financial asset referred to above, outstanding at the reporting date, is specifically reported in the balance sheet or in the explanatory notes.

If it is no longer appropriate to classify an investment as "held-to-maturity" following a change of intent or ability to hold it until maturity, it must be reclassified as "available for sale" and remeasured to fair value. The difference between its carrying amount and fair value remains in shareholders’ equity until the financial asset is sold or otherwise transferred, in which case it is booked to the statement of income.

Investments in subsidiaries that are not consolidated on a line-by-line basis, because they are not yet operative or are in liquidation as of the balance sheet date, are measured at fair value, unless this cannot be determined, in which case they are carried at cost. Investments in associated companies are valued using the equity method. Investments in other companies, in which the interest held is less than 20%, are measured at fair value. The original value of these investments is reinstated in future accounting periods should the reasons for such write-downs no longer apply.

All financial assets are recognized on the date of negotiation, i.e. the date on which the Group undertakes to buy or sell the asset. A financial asset is removed from the balance sheet only if all risks and rewards associated with the asset are effectively transferred together with it or, should the transfer of risks and rewards not occur, if the Group no longer has control over the asset.

Inventories

Inventories are valued at the lower of purchase or manufacturing cost, generally determined on a weighted average cost basis, and their market or net realizable value.

Manufacturing cost includes raw materials and all attributable direct and indirect production-related expenses.

The calculation of estimated realizable value includes any manufacturing costs still to be incurred and direct selling expenses. Obsolete and slow-moving inventories are written down in relation to their possibility of employment in the production process or to realizable value.

Trade receivables

These are stated at fair value, which reflects their estimated realizable value. The value initially recognized is subsequently adjusted to take account of any write-downs reflecting estimated losses on receivables; additions to the provision for doubtful accounts are recorded in "Other operating expenses and income" in the statement of income. Any medium/long-term receivables that include an implicit interest component are discounted to present value using an appropriate market rate.

Receivables discounted without recourse, for which all risks and rewards are substantially transferred to the assignee, are derecognized from the financial statements at their nominal value. Commissions paid to factoring companies for their services are included in service costs.

Accruals and deferrals

These are recorded to match costs and revenues within the accounting periods to which they relate.

Cash and banks

These include cash equivalents held to meet short-term cash commitments and which are highly liquid and readily convertible to known amounts of cash.

Retirement benefit obligations

The provision for employee termination indemnities (TFR) and other retirement benefit obligations, included in this item, fall within the scope of IAS 19 (Employee benefits) being equivalent to defined benefit plans. The amount recorded in the balance sheet is valued on an actuarial basis using the projected unit credit method. The process of discounting to present value uses a rate of interest which reflects the market yield on securities issued with a similar maturity to that expected for this liability. The calculation relates to TFR matured for employment services already performed and includes assumptions concerning future increases in wages and salaries for foreign subsidiaries and Italian subsidiaries with less than 50 employees. Under the new TFR rules introduced by Italian Law no. 296 of December 27, 2006, Italian subsidiaries with more than 50 employees may no longer include future salary increases in their actuarial assumptions. Net cumulative actuarial gains and losses which exceed 10% of the Group's defined benefit obligation are recorded in the statement of income over the expected average remaining working life of the employees participating in the plan (under the "corridor approach"). There are currently no post-employment benefit plans.

Share-based payments (stock options)

The Group stock option plan provides for the physical delivery of the shares on the date of exercise. Share-based payments are measured at fair value on the grant date. This value is booked to the statement of income on a straight-line basis over the period during which the options vest and it is offset by an entry to a reserve in shareholders’ equity; the amount booked is based on an estimate of the stock options which will effectively vest for staff so entitled, taking into account the attached conditions not based on the market value of the shares.

Provisions for contingent liabilities

The Group makes provisions only when a present obligation exists for a future outflow of economic resources as a result of a past event, and when it is probable that this outflow will be required to settle the obligation and a reliable estimate can be made of the same. The amount recognized as provision is the best estimate of the expenditure required to settle the present obligation completely, discounted to present value using a suitable pre-tax rate.

Any provisions for restructuring costs are recognized when the Group has drawn up a detailed restructuring plan and has announced it to the parties concerned.

In the case of onerous contracts where the unavoidable costs of meeting the contractual obligations exceed the economic benefits expected to be received under the contract, the present obligation is recognized and measured as a provision.

Trade payables

These are stated at face value. The implicit interest component included in medium/long-term payables is recorded separately using an appropriate market rate.

Financial liabilities

Financial liabilities are divided into two categories:

-liabilities acquired with the intention of making a profit from short-term price fluctuations or which form part of a portfolio which has the objective of short-term profit-taking. These are recorded at fair value, with the related gains and losses booked to the statement of income;

-other liabilities, which are recorded on the basis of amortized cost.

Each type of financial liability referred to above, outstanding at the reporting date, is specifically reported in the balance sheet or in the explanatory notes.

Net investments in foreign operations

Exchange differences arising on a monetary item forming part of a net investment in a foreign operation are initially recognized as a separate component of equity. When the net investment is sold, the exchange differences recognized in the statement of comprehensive income and accumulated in shareholders' equity, are reclassified to the statement of income to form part of net income for the year.

Foreign currency transactions and derivative financial instruments

Transactions in foreign currencies are recorded using the exchange rates on the transaction dates. Exchange gains or losses realized during the period are booked to the statement of income.

At the balance sheet date, the Group companies have adjusted receivables and payables in foreign currency using exchange rates ruling at period-end, booking all resulting gains and losses to the statement of income.

The Group uses derivative financial instruments only with the intent of managing and hedging its exposure to the risk of fluctuations in exchange rates of currencies other than the Euro and in interest rates. As established by IAS, derivative financial instruments qualify as hedging instruments only when at the inception of the hedge there is formal designation and documentation of the hedging relationship and the entity's risk management objective and strategy for undertaking the hedge. In addition, the Group checks at the inception of the hedge and throughout its duration that the hedging instrument used in the hedging relationship is highly effective in offsetting changes in the fair value of cash flows attributable to the hedged risk.

After initial recognition, derivative financial instruments are reported at their fair value. The method of accounting for gains and losses relating to such instruments depends on the type and sustainability of the hedge. The objective of hedging transactions is to offset the effect on the statement of income of exposures relating to hedged items.

Fair value hedges for specific assets and liabilities are recorded in assets and liabilities; the hedging instrument and the underlying item are measured at fair value and the respective changes in value (which generally offset each other) are recognized in the statement of income.

The valuation of financial instruments designated as hedges of the exposure to variability in cash flows or of a highly probable forecast transaction (cash flow hedges) is recorded in assets (or liabilities); this valuation is made at fair value and the effective portion of changes in value is recognized directly in an equity reserve, which is released to the statement of income in the financial periods in which the related cash flows of the underlying item occur; the ineffective portion of the changes in value is recognized in the statement of income. If a hedged transaction is no longer thought probable, the unrealized gains or losses, deferred in equity, are immediately recognized in the statement of income.

The shareholders' equity of foreign subsidiaries is the subject of currency hedges in order to protect investments in foreign companies from fluctuations in exchange rates (translation exchange risk). Exchange differences arising from such capital hedges are debited or credited directly to shareholders' equity as an adjustment to the currency translation reserve. When the foreign subsidiary is sold, the exchange differences recognized in the statement of comprehensive income and accumulated in shareholders' equity, are reclassified to the statement of income to form part of net income for the year.

Derivative instruments for managing interest and exchange rate risks, taken out on the basis of the Group's financial policy but which nonetheless do not meet the formal requirements to qualify for IFRS hedge accounting, are recorded under financial assets/liabilities with changes in value reported through the statement of income.

Government capital and operating grants

Government capital grants are reported in the balance sheet by recording the grant as an adjustment to the carrying value of the related asset, while government operating grants are recognized in the statement of income. Both are recognized when there is reasonable assurance that the conditions attaching to them will be met and that the grants will be received.

Identification of segments

IFRS 8 requires segment disclosures to provide management with an effective basis for administration and decision-making, and to supply financial investors with representative and meaningful information about company performance. The Group's activities have been divided into two segments on the basis of the internal reports that are regularly reviewed by management for the purposes of allocating resources to the different segments and assessing their performance:

The operating segments are as follows:

-apparel, represented by the brands of United Colors of Benetton Adult and Children, Undercolors, Sisley, Sisley Young, Playlife and Killer Loop. This segment also includes the results of the Group’s real estate companies;

-textile, consisting of production and sales activities for raw materials (fabrics, yarns and labels), semi-finished products and industrial services.

Inter-segment transactions are carried out under arm's length terms and conditions.

The Group has also reported information by geographical area for revenues, total assets and gross operating investments. The geographical areas, identified using materiality criteria, are as follows:

-Italy;

-Rest of Europe;

-Asia;

-The Americas;

-Rest of the world.

Statement of cash flows

In compliance with IAS 7, the statement of cash flows, prepared using the indirect method, reports the Group’s ability to generate cash and cash equivalents. Cash equivalents comprise short-term highly liquid financial investments that are readily convertible to a known amount of cash and are subject to an insignificant risk of changes in value. Therefore, an investment normally qualifies as a cash equivalent only when it has a short maturity of, say, three months or less from the date of acquisition. Bank overdrafts are also part of the financing activity, unless they are payable on demand and form an integral part of an enterprise’s cash and cash equivalents management, in which case they are classified as a component of cash and cash equivalents. Cash and cash equivalents included in the statement of cash flows comprise the balance sheet amounts for this item at the reporting date. Cash flows in foreign currencies are translated at the average exchange rate for the period. Income and expenses relating to interest, dividends received and income taxes are included in cash flow from operating activities.

The layout adopted by the Group reports separately:

-operating cash flow: operating cash flows are mainly linked to revenue-generation activities and are presented by the Group using the indirect method; this method adjusts net profit or loss for the effects of items which did not result in cash outflows or generate liquidity (i.e. non-cash transactions);

-investing cash flow: investing activities are reported separately because, amongst other things, they are indicative of investments/divestments aimed at the future generation of revenues and positive cash flows;

-financing cash flow: financing activities consist of the cash flows which determine a change in the size and composition of shareholders’ equity and loans granted.

Use of estimates

Preparation of the report and related notes under IFRS has required management to make estimates and assumptions regarding assets and liabilities reported in the balance sheet and the disclosure of contingent assets and liabilities at the reporting date. The final results could be different from the estimates.

The Group has used estimates for valuing assets subject to impairment testing as previously described, for valuing share-based payments, provisions for doubtful accounts, depreciation and amortization, employee benefits, deferred taxes, other provisions and liabilities for put options held by minority shareholders in Group subsidiaries. The estimates and assumptions are reviewed periodically and the effects of any changes are immediately reflected in the statement of income.

Accounting treatment of companies operating in hyperinflationary economies

The Group has not consolidated any subsidiaries in 2009 which operate in hyperinflationary economies.

Business combinations

The Group accounts for all business combinations by applying the purchase method. The cost of each combination is determined as the aggregate of the fair values, at the date of exchange, of assets given, liabilities incurred or assumed, and equity instruments issued by the acquirer, in exchange for control of the acquiree. Any costs directly attributable to a business combination also form part of its overall cost.

Minority shareholders

Transactions between the Group and minority shareholders are regulated in the same way as transactions with parties external to the Group. The sale of shareholding interests to minority shareholders by the Group generates gains or losses that are recognized in the statement of income. The purchase of interests by minority shareholders is translated into goodwill, calculated as the excess of the amount paid over the share of the carrying value of the subsidiary’s net assets.