Exelon 2015 Annual Report Download - page 121

Table of Contents
markets, such as generic forwards, swaps and options, the model inputs are generally observable. Such instruments are categorized in Level 2.
For derivatives that trade in less liquid markets with limited pricing information, the model inputs generally would include both observable and
unobservable inputs. In instances where observable data is unavailable, consideration is given to the assumptions that market participants would
use in valuing the asset or liability. This includes assumptions about market risks such as liquidity, volatility and contract duration. Such
instruments are categorized in Level 3 as the model inputs generally are not observable. The Registrants consider nonperformance risk, including
credit risk in the valuation of derivative contracts categorized in Level 1, 2 and 3, including both historical and current market data in its
assessment of nonperformance risk, including credit risk. The impacts of credit and nonperformance risk to date have generally not been material
to the financial statements.
Interest Rate and Foreign Exchange Derivative Instruments. The Registrants may utilize fixed-to-floating interest rate swaps, which are
typically designated as fair value hedges, as a means to achieve the targeted level of variable-rate debt as a percent of total debt. Additionally, the
Registrants may use forward-starting interest rate swaps and treasury rate locks to lock in interest-rate levels in anticipation of future financings
and floating to fixed swaps for project financing. In addition, Generation enters into interest rate derivative contracts to economically hedge risk
associated with the interest rate component of commodity positions. The characterization of the interest rate derivative contracts between the
economic hedge and proprietary trading activity is driven by the corresponding characterization of the underlying commodity position that gives
rise to the interest rate exposure. Generation does not utilize interest rate derivatives with the objective of benefiting from shifts or change in
market interest rates. To manage foreign exchange rate exposure associated with international energy purchases in currencies other than U.S.
dollars, Generation utilizes foreign currency derivatives, which are typically designated as economic hedges. The fair value of the agreements is
calculated by discounting the future net cash flows to the present value based on the terms and conditions of the agreements and the forward
interest rate and foreign exchange curves. As these inputs are based on observable data and valuations of similar instruments, the interest rate
and foreign exchange derivatives are primarily categorized in Level 2 in the fair value hierarchy. Certain exchange based interest rate derivatives
that are valued using unadjusted quoted prices in active markets are categorized in Level 1 in the fair value hierarchy.
See ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK and Note 12—Fair Value of Financial Assets
and Liabilities and Note 13—Derivative Financial Instruments of the Combined Notes to Consolidated Financial Statements for additional
information regarding the Registrants’ derivative instruments.
Taxation (Exelon, Generation, ComEd, PECO and BGE)
Significant management judgment is required in determining the Registrants’ provisions for income taxes, primarily due to the uncertainty
related to tax positions taken, as well as deferred tax assets and liabilities and valuation allowances. In accordance with applicable authoritative
guidance, the Registrants account for uncertain income tax positions using a benefit recognition model with a two-step approach including a more-
likely-than-not recognition threshold and a measurement approach based on the largest amount of tax benefit that is greater than 50% likely of
being realized upon ultimate settlement. If it is not more-likely-than-not that the benefit of the tax position will be sustained on its technical merits,
no benefit is recorded. Uncertain tax positions that relate only to timing of when an item is included on a tax return are considered to have met the
recognition threshold. Management evaluates each position based solely on the technical merits and facts and circumstances of the position,
assuming the position will be examined by a taxing authority having full knowledge of all relevant information. Significant judgment is required to
determine whether the recognition threshold has been met and, if so, the appropriate amount of unrecognized tax benefits to be recorded in the
Registrants’ consolidated financial statements.
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Source: BALTIMORE GAS & ELECTRIC CO, 10-K, February 10, 2016 Powered by Morningstar® Document Research℠
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