3M 2005 Annual Report Download - page 83

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57
Net Investment Hedging: As circumstances warrant, the Company uses foreign currency debt and forwards to hedge
portions of the Company’s net investments in foreign operations. For hedges that meet the effectiveness
requirements, the net gains or losses are recorded in cumulative translation within other comprehensive income, with
any ineffectiveness recorded in cost of sales. The unrealized gain recorded in cumulative translation at December 31,
2005 was $47 million and the unrealized gain at December 31, 2004 was $5 million. At December 31, 2003, this
amount was not material. Hedge ineffectiveness was not material in 2005, 2004 and 2003.
Commodity Price Management: The Company manages commodity price risks through negotiated supply contracts,
price protection agreements and forward physical contracts. The Company uses commodity price swaps as cash flow
hedges of forecasted transactions to manage price volatility. The related mark-to-market gain or loss on qualifying
hedges is included in other comprehensive income to the extent effective (typically 100% effective), and reclassified
into cost of sales in the period during which the hedged transaction affects earnings. 3M has hedged its exposure to
the variability of future cash flows for certain forecasted transactions through 2008. No significant commodity cash
flow hedges were discontinued during the years 2005, 2004 and 2003.
Currency Effects: 3M estimates that year-on-year currency effects, including hedging impacts, increased net
income by $115 million in 2005, $181 million in 2004, and $73 million in 2003. This estimate includes the effect of
translating profits from local currencies into U.S. dollars; the impact of currency fluctuations on the transfer of
goods between 3M operations in the United States and abroad; and transaction gains and losses, including
derivative instruments designed to reduce foreign currency exchange rate risks. 3M estimates that year-on-year
derivative and other transaction gains and losses increased net income by $50 million in 2005 and $48 million in
2004. 3M estimates that year-on-year derivative and other transaction gains and losses decreased net income by
$73 million in 2003.
Credit risk: The Company is exposed to credit loss in the event of nonperformance by counterparties in interest rate
swaps, currency swaps, and option and foreign exchange contracts. However, the Company’s risk is limited to the fair
value of the instruments. The Company actively monitors its exposure to credit risk through the use of credit approvals
and credit limits, and by selecting major international banks and financial institutions as counterparties. The Company
does not anticipate nonperformance by any of these counterparties.
Fair value of financial instruments: At December 31, 2005 and 2004, the Company’s financial instruments included
cash and cash equivalents, accounts receivable, investments, accounts payable, borrowings, and derivative
contracts. The fair values of cash and cash equivalents, accounts receivable, accounts payable, and short-term
borrowings and current portion of long-term debt (except the $350 million dealer remarketable security) approximated
carrying values because of the short-term nature of these instruments. Available-for-sale investments and derivative
contracts are reported at fair values. Fair values for investments held at cost are not readily available, but are
estimated to approximate fair value. The carrying amounts and estimated fair values of other financial instruments
based on third-party quotes as of December 31 follow:
Financial Instruments’ Carrying Amounts and Estimated Fair Values
2005 2004
Carrying Fair Carrying Fair
(Millions) Amount Value Amount Value
Dealer remarketable securities $350 $352 $350 $374
Convertible note 539 549 556 577
Long-term debt (excluding Convertible note in 2005) 770 816 727 768
NOTE 10. Pension and Postretirement Benefit Plans
3M has various company-sponsored retirement plans covering substantially all U.S. employees and many
employees outside the United States. Pension benefits associated with these plans generally are based on each
participant’s years of service, compensation, and age at retirement or termination. In addition to providing pension
benefits, the Company provides certain postretirement health care and life insurance benefits for substantially all
of its U.S. employees who reach retirement age while employed by the Company. Most international employees
and retirees are covered by government health care programs. The cost of company-provided postretirement
health care plans for international employees is not material and is combined with U.S. amounts.
The Company’s pension funding policy is to deposit with independent trustees amounts allowable by law. Trust
funds and deposits with insurance companies are maintained to provide pension benefits to plan participants and