Dollar General 2009 Annual Report Download - page 99

DOLLAR GENERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
8. Derivative financial instruments (Continued)
duration of its debt funding and the use of derivative financial instruments. Specifically, the Company
enters into derivative financial instruments to manage exposures that arise from business activities that
result in the receipt or payment of future known and uncertain cash amounts, the value of which are
determined primarily by interest rates. The Company’s derivative financial instruments are used to
manage differences in the amount, timing, and duration of the Company’s known or expected cash
receipts and its known or expected cash payments principally related to the Company’s borrowings.
In addition, the Company is exposed to certain risks arising from uncertainties of future market
values caused by the fluctuation in the prices of commodities. From time to time the Company has
entered into derivative financial instruments to protect against future price changes related to
transportation costs associated with forecasted distribution of inventory.
Cash flow hedges of interest rate risk
The Company’s objectives in using interest rate derivatives are to add stability to interest expense
and to manage its exposure to interest rate changes. To accomplish this objective, the Company
primarily uses interest rate swaps as part of its interest rate risk management strategy. Interest rate
swaps designated as cash flow hedges involve the receipt of variable-rate amounts from a counterparty
in exchange for the Company making fixed-rate payments over the life of the agreements without
exchange of the underlying notional amount.
The effective portion of changes in the fair value of derivatives designated and that qualify as cash
flow hedges is recorded in Accumulated other comprehensive income (loss) (also referred to as ‘‘OCI’’)
and is subsequently reclassified into earnings in the period that the hedged forecasted transaction
affects earnings. Subsequent to the Merger, these transactions represent the only amounts reflected in
Accumulated other comprehensive income (loss) in the consolidated statements of shareholders’ equity.
During the year ended January 29, 2010, such derivatives were used to hedge the variable cash flows
associated with existing variable-rate debt. The ineffective portion of the change in fair value of the
derivatives is recognized directly in earnings.
As of January 29, 2010, the Company had four interest rate swaps with a combined notional value
of $1.42 billion that were designated as cash flow hedges of interest rate risk. Amounts reported in
Accumulated other comprehensive loss related to derivatives will be reclassified to interest expense as
interest payments are made on the Company’s variable-rate debt. The Company terminated an interest
rate swap in October 2008 due to the bankruptcy declaration of the counterparty bank. The Company
continues to report the net gain or loss related to the discontinued cash flow hedge in OCI and such
net gain or loss is being reclassified into earnings during the original contractual terms of the swap
agreement as the hedged interest payments are expected to occur as forecasted. During the next
52-week period, the Company estimates that an additional $41.5 million will be reclassified as an
increase to interest expense for all of its interest rate swaps.
Non-designated hedges of commodity risk
Derivatives not designated as hedges are not speculative and are used to manage the Company’s
exposure to commodity price risk but do not meet strict hedge accounting requirements. In February
2009, the Company entered into a commodity hedge related to diesel fuel to limit its exposure to
variability in diesel fuel prices and their effect on transportation costs. Changes in the fair value of
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