Crucial 2012 Annual Report Download - page 73

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Derivative Financial Instruments
We are exposed to currency exchange rate risk for monetary assets and liabilities held or denominated in foreign
currencies, primarily the euro, shekel, Singapore dollar and yen. We are also exposed to currency exchange rate risk for capital
expenditures and operating cash flows, primarily denominated in the euro and yen. In connection with the Elpida Sponsor
Agreement and Rexchip share purchase agreement entered into in July 2012, we are exposed to significant currency exchange
rate risk for the yen and New Taiwan dollar. We use derivative instruments to manage our exposures to changes in currency
exchange rates. For exposures associated with our monetary assets and liabilities, our primary objective in entering into
currency derivatives is to reduce the volatility that changes in currency exchange rates have on our earnings. For exposures
associated with our capital expenditures and operating cash flows, our primary objective in entering into currency derivatives is
to reduce the volatility that changes in currency exchange rates have on future cash flows. For exposures associated with our
yen or New Taiwan dollar denominated payment obligations under the Elpida sponsor agreement and Rexchip share purchase
agreement, our primary objective for entering into currency derivatives is to mitigate risks if those currencies strengthen
relative to the U.S. dollar, while preserving some ability for us to benefit if those currencies weaken.
Our derivatives consist primarily of currency forward contracts and currency options. The derivatives expose us to credit
risk to the extent the counterparties may be unable to meet the terms of the derivative instrument. As of August 30, 2012, our
maximum exposure to loss due to credit risk if counterparties fail completely to perform according to the terms of the contracts,
was equal to the fair value of our assets for these contracts as listed in the tables below. We seek to mitigate such risk by
limiting our counterparties to major financial institutions and by spreading risk across multiple major financial institutions. In
addition, we monitor the potential risk of loss with any one counterparty resulting from this type of credit risk on an ongoing
basis. We have the following currency risk management programs:
Currency Derivatives without Hedge Accounting Designation
We utilize a rolling hedge strategy with currency forward contracts that generally mature within 35 days to hedge our
exposure to changes in currency exchange rates from our monetary assets and liabilities. At the end of each reporting period,
monetary assets and liabilities held or denominated in currencies other than the U.S. dollar are remeasured in U.S. dollars and
the associated outstanding forward contracts are marked-to-market. Currency forward contracts are valued at fair values based
on the middle of bid and ask prices of dealers or exchange quotations (referred to as Level 2). Realized and unrealized gains
and losses on derivative instruments and the underlying monetary assets and liabilities are included in other operating (income)
expense.
In connection with the currency exchange rate risk with the Elpida Sponsor Agreement and Rexchip share purchase
agreement, we utilized currency options that expire on April 3, 2013 and April 2, 2013, respectively. Currency options are
valued at their fair value using a modified Black-Scholes option valuation model using inputs of the current spot rate, strike
price, risk-free interest rate, time to maturity, volatility and credit-risk spread (referred to as Level 2). These options are
marked-to-market at the end of each reporting period and realized and unrealized gains and losses are included in other
operating (income) expense.