ADT 2007 Annual Report Download - page 223

TYCO INTERNATIONAL LTD.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. Guarantees (Continued)
O-ring seal sprinkler heads which were originally manufactured by Central Sprinkler prior to Tyco’s
acquisition. Under this program, the sprinkler heads are being replaced free of charge to property
owners. In the third quarter of 2006, the Company completed a comprehensive review of reported
claims, recent claim rates and cost trends and further assessed the future of the program. The
Company determined that an additional liability was necessary in order to satisfy the Company’s
obligation under the VRP. As a result, the Company recorded a $100 million charge which was
reflected in cost of sales. On May 1, 2007, the Consumer Products Safety Commission and the
Company announced an August 31, 2007 deadline for filing claims to participate in the VRP. The
Company will fulfill all valid claims for replacement of qualifying sprinklers received up to August 31,
2007. During the fourth quarter of 2007, the Company further assessed the expected cost to complete
the program in light of the most current claims data and determined that an additional accrual of
$10 million was necessary to satisfy the estimated remaining obligation. The ultimate cost to complete
the program will be impacted by a number of factors such as changes in material and labor costs, and
the actual number of sprinkler heads replaced. Actual results could differ from this estimate.
Settlements during 2007 include cash expenditures of $38 million related to the VRP.
15. Financial Instruments
The Company’s financial instruments consist primarily of cash and cash equivalents, accounts
receivable, investments, accounts payable, debt and derivative financial instruments. The fair value of
cash and cash equivalents, accounts receivable, investments and accounts payable approximated book
value at September 28, 2007 and September 29, 2006. See Note 13 for the fair value estimates of debt.
All derivative financial instruments are reported on the Consolidated Balance Sheets at fair value,
and changes in a derivative’s fair value are recognized currently in earnings unless specific hedge
criteria are met. Fair value estimates are based on relevant market information, including current
market rates and prices, assuming adequate market liquidity. Fair value estimates for interest rate and
cross-currency swaps were calculated by the Company or with the assistance of high-quality, third-party
financial institutions known to be high volume participants in this market.
The Company uses derivative financial instruments to manage exposures to foreign currency and
interest rate risks. The Company’s objective for utilizing derivatives is to manage these risks using the
most effective methods to eliminate or reduce the impacts of these exposures. For those transactions
that are designated as hedges, the Company documents relationships between hedging instruments and
hedged items, and links derivatives designated as fair value, cash flow or foreign currency hedges to
specific assets and liabilities on the Consolidated Balance Sheets or to specific firm commitments or
forecasted transactions. For transactions designated as hedges, the Company also assesses and
documents, both at the hedge’s inception and on an ongoing basis, whether the derivatives that are
used in hedging transactions are effective in offsetting changes in fair values or cash flows associated
with the hedged items.
As part of managing the exposure to changes in market interest rates, the Company has
historically entered into various interest rate swap transactions with financial institutions acting as
principal counterparties. To ensure both appropriate use as a hedge and hedge accounting treatment,
all derivatives entered into were designated according to a hedge objective against specified forecasted
interest payments on specifically underwritten debt issuances. The Company’s primary hedge objectives
include the conversion of fixed-rate liabilities to variable rates. The derivative financial instruments
associated with these objectives are designated and accounted for as fair value hedges.
2007 Financials 131