Avon 2007 Annual Report Download - page 43

credit facility (“Euro credit facility”) with the Bank of Tokyo-
Mitsubishi UFJ, Ltd. Borrowings under the Euro credit facility
bear interest at the Euro LIBOR rate plus an applicable margin.
The Euro credit facility is available for general corporate pur-
poses. The Euro credit facility is designated as a hedge of our
investments in our Euro-denominated functional currency sub-
sidiaries. At December 31, 2007, there was $32.8 (Euro 22.5
million) outstanding under the Euro credit facility.
In August 2006, we entered into a one-year Japanese yen 11.0
billion ($96.3 at the exchange rate on December 31, 2007)
uncommitted credit facility (“yen credit facility”) with the Bank
of Tokyo-Mitsubishi UFJ, Ltd. Borrowings under the yen credit
facility bear interest at the yen LIBOR rate plus an applicable
margin. The yen credit facility is available for general corporate
purposes, including working capital and the repayment of out-
standing indebtedness. The yen credit facility was used to repay
the Japanese yen 9.0 billion note which came due in September
2006, as well as for other general corporate purposes. The yen
credit facility is designated as a hedge of our net investment in
our Japanese subsidiary. In August 2007, we entered into an
amendment of our one-year Japanese yen 11.0 billion ($96.3 at
the exchange rate on December 31, 2007) uncommitted credit
facility with the Bank of Tokyo-Mitsubishi UFJ, Ltd. The amend-
ment provides for the extension of the yen credit facility until
August 2008. At December 31, 2007, $96.3 (Japanese yen 11.0
billion) was outstanding under the yen credit facility.
At December 31, 2007, we were in compliance with all cove-
nants in our indentures (see Note 4, Debt and Other Financing).
Such indentures do not contain any rating downgrade triggers
that would accelerate the maturity of our debt.
ITEM 7A. QUANTITATIVE AND
QUALITATIVE DISCLOSURES ABOUT
MARKET RISK
The overall objective of our financial risk management program
is to reduce the potential negative effects from changes in for-
eign exchange and interest rates arising from our business activ-
ities. We may reduce our exposure to fluctuations in cash flows
associated with changes in interest rates and foreign exchange
rates by creating offsetting positions through the use of
derivative financial instruments and through operational means.
Since we use foreign currency rate-sensitive and interest rate-
sensitive instruments to hedge a certain portion of our existing
and forecasted transactions, we expect that any loss in value for
the hedge instruments generally would be offset by increases in
the value of the underlying transactions.
We do not enter into derivative financial instruments for trading
or speculative purposes, nor are we a party to leveraged
derivatives. The master agreements governing our derivative
contracts generally contain standard provisions that could trigger
early termination of the contracts in certain circumstances,
including if we were to merge with another entity and the cred-
itworthiness of the surviving entity were to be “materially weak-
er” than that of Avon prior to the merger.
Interest Rate Risk
Our long-term, fixed-rate borrowings are subject to interest rate
risk. We use interest rate swaps, which effectively convert the
fixed rate on the debt to a floating interest rate, to manage our
interest rate exposure. At December 31, 2007 and 2006, we
held interest rate swap agreements that effectively converted
approximately 30% of our outstanding long-term, fixed-rate
borrowings to a variable interest rate based on LIBOR. Avon’s
total exposure to floating interest rates at December 31, 2007
and December 31, 2006 was approximately 60% and 50%,
respectively.
Our long-term borrowings and interest rate swaps were analyzed
at year-end to determine their sensitivity to interest rate changes.
Based on the outstanding balance of all these financial instruments
at December 31, 2007, a hypothetical 50-basis-point change
(either an increase or a decrease) in interest rates prevailing at that
date, sustained for one year, would not represent a material
potential change in fair value, earnings or cash flows. This potential
change was calculated based on discounted cash flow analyses
using interest rates comparable to our current cost of debt.
In August 2007, we entered into locks with notional amounts total-
ing $500.0 that expired on January 31, 2008. The locks have been
designated as cash flow hedges and are being used to hedge
exposure to a possible rise in interest rates, as we expect to incur
long-term debt to refinance our commercial paper. At
December 31, 2007, we recorded unrealized losses of $25.3 in
accumulated other comprehensive loss related to the locks. On
January 31, 2008, we extended the maturity date of the locks to
July 31, 2008, as we expect to incur long-term debt by this date.
Changes in interest rates will affect the fair value of these locks. At
December 31, 2007, a hypothetical 50- basis-point increase in
interest rates would result in an approximately $17 decrease in
unrealized losses and a 50- basis-point decrease in interest rates
would result in an approximately $18 increase in unrealized losses.
Foreign Currency Risk
We operate globally, with operations in various locations around
the world. Over the past three years, approximately 75% to
80% of our consolidated revenue was derived from operations
of subsidiaries outside of the U.S. The functional currency for
most of our foreign operations is the local currency. We are
exposed to changes in financial market conditions in the normal
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