2.	Accounting policies

Cash and Cash Equivalents

The Company considers cash and cash equivalents to include short-term, highly liquid investments with maturities of three months or less when purchased. At December 31, 2013 and 2012, a significant portion of the balance of cash and cash equivalents was held with three financial institutions. Management believes the likelihood of realizing material losses from the excess of cash balances over federally insured limits is remote.

Prior to June 30, 2013, the majority of the cash generated and used in the Company’s operations was held in bank accounts with one financial institution that were included in a sweep arrangement with MMC. Pursuant to a treasury management service agreement with that financial institution, the cash was swept daily into MMC’s money market account. The Company collected interest income from MMC at the same interest rate as MMC earned on the money market account. Historically, other than for a 2-week period around MMC’s March 31 fiscal year end, the Company had a receivable from MMC for the cash that was swept. When the sweep arrangement was not in effect, during the week before and the week after March 31, the Company’s cash balances remained in the Company’s bank accounts. As of June 30, 2013, the sweep arrangement with MMC was permanently terminated.

Commissions Receivable, Net

Commissions receivable consist primarily of commissions earned for which payment has not yet been received as well as current receivables from agents. The Company establishes an allowance for doubtful accounts based on the specific-identification of potentially uncollectible accounts.

Property and Equipment, Net

Property and equipment are stated at cost less accumulated depreciation and amortization. The Company uses the straight-line method for depreciation and amortization. Depreciation and amortization are provided over estimated useful lives ranging from three to seven years.

The Company leases certain equipment under capital lease arrangements. The assets and liabilities under capital leases are recorded at the lesser of the present value of aggregate future minimum lease payments, including estimated bargain purchase options, or the fair value of the asset under lease. Assets under capital leases are depreciated using the straight-line method over the lesser of the estimated useful life of the asset or the term of the lease. The Company evaluates its fixed assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The Company believes the carrying amount of property and equipment is recoverable and, therefore, no impairment loss has been recorded for the years ended December 31, 2013, 2012 or 2011.

Other Assets

Other assets consist primarily of security deposits, due from sales agents and commission notes receivable.

Security deposits relate to lease deposits made in connection with operating leases.

Due from sales agents includes notes receivable from agents and other receivables from agents. The notes receivable from agents, along with interest, are typically collected from future commissions and are generally due in one to five years. As of December 31, 2013 and 2012, the weighted average interest rate for notes receivable from agents was approximately 2% and 6%, respectively. Any cash receipts on notes are applied first to unpaid principal balance prior to any income being recognized.

In connection with real estate brokerage activities, the Company may accept a portion of its commission in the form of a commission note receivable.

The Company establishes an allowance for doubtful accounts based on the specific-identification of potentially uncollectible accounts or commissions notes receivable in accordance with ASC 310, Receivables. Additionally, accounts and commissions notes receivable that are not specifically identified as being impaired are reviewed for impairment in accordance with ASC 450, Contingencies based on consideration of historical experience.

Deferred Rent Obligation

Some of the Company’s operating leases contain periods of free or reduced rent or contain predetermined fixed increases in the minimum rent amount during the lease term. For these leases, the Company recognizes rent expense on a straight-line basis over the term of the lease, generally between five to ten years, including periods of free rent, and records the difference between the amount charged to rent expense and the rent paid as a deferred rent obligation. As of December 31, 2013 and 2012, deferred rent totaled $3.7 million and $3.2 million, respectively, and is included in other liabilities and accounts payable and accrued expenses in the accompanying consolidated balance sheets.

Revenue Recognition

The Company generates real estate brokerage commissions by acting as a broker for real estate owners or investors seeking to buy or sell commercial properties. Revenues from real estate brokerage commissions are recognized when there is persuasive evidence of an arrangement, all services have been provided, the price is fixed and determinable and collectability is reasonably assured. The Company generates financing fees from securing financing on purchase transactions as well as fees earned from refinancing its clients’ existing mortgage debt. Financing fee revenues are recognized at the time the loan closes and there are no remaining significant obligations for performance in connection with the transaction. Other revenues include fees generated from consulting and advisory services, as well as referral fees from other real estate brokers. Revenues from these services are recognized as they are performed and completed.

Advertising Costs

Advertising costs are expensed as incurred. Advertising expense for the years ended December 31, 2013, 2012 and 2011 was $1.0 million, $0.7 million and $0.5 million, respectively. Advertising costs are included in selling, general, and administrative expense in the accompanying consolidated statements of income.

Income Taxes

Prior to the IPO, the Company was part of a consolidated federal income tax return and various combined and consolidated state tax returns that were filed by MMC. The Company and MMC had a tax-sharing agreement whereby the Company provided for income taxes in its consolidated statements of income using an effective tax rate of 43.5%. In addition, all deferred tax assets and liabilities were recorded by MMC. As part of the spin-off, the Company’s tax sharing agreement with MMC was terminated effective October 31, 2013 and MMC transferred its allocable net deferred tax assets totaling $26.6 million to the Company, which resulted in a deemed capital contribution.

Subsequent to the Spin-Off, the Company files as a stand-alone tax entity and income taxes are accounted for under the asset and liability method in accordance with ASC 740, Accounting for Income Taxes (“ASC 740”). Deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and tax basis of assets and liabilities and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured by applying enacted tax rates and laws and are released in the years in which the temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in the tax rates is recognized in the income in the period that includes the enactment date. Valuation allowances are provided against deferred tax assets when it is more likely than not that some portion or all of the deferred tax asset will not be realized. The change to a stand-alone entity for tax purposes may result in material changes to the Company’s income tax provision in future years.

ASC 740 defines the threshold for recognizing the benefits of tax return positions in the financial statements as “more likely than not” to be sustained by the taxing authority and requires measurement of a tax position meeting the more-likely-than-not criterion, based on the largest benefit that is more than 50% likely to be realized. Management has analyzed the Company’s inventory of tax positions taken with respect to all applicable income tax issues for all open tax years (in each respective jurisdiction), and has concluded that no uncertain tax positions are required to be recognized in the Company’s consolidated financial statements.

 

Fair Value of Financial Instruments

ASC 820, Fair Value Measurement (“ASC 820”) establishes the accounting guidance for fair value measurements that applies to all financial assets and financial liabilities that are being measured and reported on a fair value basis. Under the accounting guidance, the Company makes fair value measurements that are classified and disclosed in one of the following three categories:

Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

Level 2: Quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability, or

Level 3: Inputs reflect management’s best estimate of what market participants would use in pricing the asset or liability at the measurement date. Consideration is given to the risk inherent in the valuation technique and the risk inherent in the inputs to the model.

Investments held in a rabbi trust account are carried at fair value and considered to be in the Level 1 classification.

Fair Value of Financial Instruments

The Company’s financial instruments, including such items in the consolidated financial statement captions as cash and cash equivalents, commissions receivable, net, accounts payable and accrued expenses and commissions payable, are carried at cost, which approximates fair value based on their immediate or short-term maturities and terms, which approximate current market rates and considered to be in the Level 1 classification.

As the Company’s obligations under notes payable to former stockholders and certain employee and agent notes receivable bear fixed interest rates that approximate the rates currently offered to the Company for similar debt instruments, the Company has determined that the carrying value on these instruments approximates fair value. As the Company’s obligations under SARs Liability (included in deferred compensation and commissions caption) bear variable interest rates, the Company has determined that the carrying value approximates the fair value. These are considered to be in the Level 1 classification.

Stock-Based Compensation

Prior to the IPO

MMREIS historically issued stock options and stock appreciation rights, or SARs, to key employees through a book value, stock-based compensation award program (the “Program”). The Program allowed for employees to exercise stock options in exchange for shares of unvested restricted common stock. The Program also allowed employees to exercise options through the issuance of notes receivable, which were recourse to the employee. The grant price and repurchase price of stock-based awards at the grant date and repurchase date were fixed as determined by a valuation formula using book value, as defined by the agreements between MMREIS and the employees. The stock awards generally vested over a three to five-year period. Under these plans, MMREIS retained the right to repurchase shares if certain events occurred, which included termination of employment. In these circumstances, the plan document provided for repurchase proceeds to be settled in the form of a note payable to (former) shareholders or cash, which was settled over a fixed period. While MMREIS had entered into the agreements to repurchase the stock and settle the SARs held by employees upon termination of their employment (subject to certain conditions as specified in the agreements), MMC had historically assumed the obligation to make payments to the former shareholders. While MMREIS recognized the compensation expense associated with these share-based payment arrangements, the liability had historically been assumed by MMC through a deemed contribution, which then has paid the former shareholders over time. The accounting for the stock options and SARs awards, including MMC’s assumption of MMREIS repurchase obligations, is discussed below.

Restricted Common Stock

Since stock options only allowed the grantee the right to acquire shares of unvested restricted common stock at book value, which was determined on an annual basis, MMREIS accounted for the stock options and the related unvested restricted stock, as a single instrument, with a single service period. The service period began on the option grant date, and extended through the exercise and subsequent vesting period of the restricted stock. The unvested restricted common stock was accounted for in accordance with ASC 718, Compensation – Stock Compensation (“ASC 718”). Increases or decreases in the formula settlement value of unvested restricted stock subsequent to the grant date, were recorded as increases or decreases, respectively, to compensation expense, with decreases limited to the book value of the stock on the date of grant. As MMC had assumed MMREIS’s obligation with respect to any appreciation in the value of the underlying vested awards in excess of the employees’ exercise price, MMC was deemed to make a capital contribution to MMREIS additional paid-in capital equal to the amount of compensation expense recorded, net of the applicable taxes. Based on the tax-sharing agreement between MMREIS and MMC, the tax deduction on the compensation expense recorded by MMREIS was allocated to MMC. MMC recorded the liability related to the appreciation in the value of the underlying stock in its consolidated financial statements. To the extent of any depreciation in the value of the underlying vested awards (limited to the amount of any appreciation previously recorded from the employees ‘original exercise price), compensation expense was reduced and MMC was deemed to receive a capital distribution.

SARs

SARs to employees were accounted for in accordance with ASC 718. Similar to the vested stock, compensation expense related to the SARs was recorded in each period and was equal to the appreciation in the formula-settlement value of vested SARs at the end of each reporting period-end from the prior reporting period-end. As MMC had assumed MMREIS’s obligation with respect to any appreciation in the value of the vested SARs, MMC was deemed to make a capital contribution to MMREIS’s additional paid-in capital equal to the amount of compensation expense recorded, net of the applicable taxes. Based on the tax-sharing agreement entered between MMREIS and MMC, the tax deduction on the compensation expense recorded by MMREIS was allocated to MMC. MMC recorded the liability related to the appreciation in the value of the underlying stock in its consolidated financial statements. To the extent of any depreciation in the value of the vested SARs (limited to the amount of any appreciation previously recorded), compensation expense was reduced and MMC was deemed to have received a capital distribution.

Subsequent to the IPO

The Company follows the provisions of ASC 718, which requires the measurement and recognition of compensation expense for all share-based payment awards made to employees, independent contractors (i.e. agents) and directors.

The Company values its restricted stock units and restricted stock awards based on the grant date closing price of the Company’s common stock when the award is based on shares or based on the grant date cash value when the award is based on a predetermined dollar value. For awards with periodic vesting, the Company recognizes the related expense on a straight-line basis over the requisite service period for the entire award, subject to periodic adjustments to ensure that the cumulative amount of expense recognized through the end of any reporting period is at least equal to the portion of the grant date value of the award that has vested through that date.

 

ASC 718 also requires forfeitures to be estimated at the time of grant in order to calculate the amount of share-based payment awards ultimately expected to vest. Forfeitures are required to be revised, if necessary, in subsequent periods if estimated and actual forfeitures differ from these initial estimates. The Company evaluates the assumptions used to value share-based awards on a periodic basis. If there are any modifications or cancellations of the underlying unvested share-based awards, the Company may be required to accelerate, increase or cancel any remaining unrecognized stock-based compensation expense. Share-based payments are included in general and administrative expense in the accompanying consolidated statements of income. The Company calculates a separate forfeiture rate for its employees and non-employees awards (discussed below).

The Company accounts for share-based payment awards made to independent contractors, which are typically to agents, under the provisions of ASC 505-50, Equity-Based Payments to Non-Employees (“ASC 505-50”). ASC 505-50 addresses (a) the measurement date for the transaction in which equity instruments are issued to non-employees (b) manner in which to recognize such transactions. The measurement of equity instruments will be measured at the earlier of: (1) the performance commitment date, or (2) the date the services required under the arrangement have been completed. Under ASC 505-50-30-6 if the fair value of goods or services received in a share-based payment transaction with non-employees is more reliably measureable than the fair value of the equity instrument issued, the fair value of the goods or services received shall be used to measure the transaction. In contrast, if the fair value of the equity instrument issued in a share-based payment transaction with non-employees is more reliably measureable than the fair value of the consideration received, the transaction shall be measured based on the fair value of the equity instrument issued. The Company measures the fair value based on the equity instrument issued. The measurement date for non-employee awards is the date the services are completed, resulting in periodic adjustments to stock-based compensation during the vesting period for changes in the fair value of the awards. Stock-based compensation costs for non-employees are recognized as expense over the vesting period on a straight-line basis.

Earnings Per Share

The Company computes earnings per share in accordance with ASC 260, Earnings Per Share (ASC 260). ASC 260 provides that unvested share-based payment awards that contain non-forfeitable rights to dividends are participating securities and should be included in the computation of earnings per share pursuant to the two-class method. The two-class method of computing earnings per share is an earnings allocation formula that determines earnings per share for common stock and any participating securities according to dividends declared (whether paid or unpaid) and participation rights in undistributed earnings. Certain of the Company’s restricted stock awards are considered participating securities because they contain non-forfeitable rights to dividends irrespective of whether the awards ultimately vest.

Earnings per share information has not been presented for periods prior to the IPO, as the holders of MMREIS Series A Redeemable Preferred Stock were entitled to receive discretionary dividends, payable in preference and priority to any distribution on MMREIS common stock. Since MMREIS typically distributed its earnings to the Series A Preferred stockholders on a quarter-in-arrears basis, earnings per share information for MMREIS common stock was not meaningful.

Earnings per share is calculated using net income attributable to Marcus and Millichap, Inc. subsequent to initial public offering on October 31, 2013.