Foot Locker 2011 Annual Report Download - page 76

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FOOT LOCKER, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
18. Financial Instruments and Risk Management
The Company operates internationally and utilizes certain derivative financial instruments to mitigate its
foreign currency exposures, primarily related to third party and intercompany forecasted transactions. As
a result of the use of derivative instruments, the Company is exposed to the risk that counterparties will
fail to meet their contractual obligations. To mitigate the counterparty credit risk, the Company has a
policy of entering into contracts only with major financial institutions selected based upon their credit
ratings and other financial factors. The Company monitors the creditworthiness of counterparties
throughout the duration of the derivative instrument. Additional information is contained within Note 19,
Fair Value Measurements.
Derivative Holdings Designated as Hedges
For a derivative to qualify as a hedge at inception and throughout the hedged period, the Company
formally documents the nature of the hedged items and the relationships between the hedging
instruments and the hedged items, as well as its risk-management objectives, strategies for undertaking
the various hedge transactions, and the methods of assessing hedge effectiveness and hedge
ineffectiveness. In addition, for hedges of forecasted transactions, the significant characteristics and
expected terms of the forecasted transaction must be specifically identified, and it must be probable that
each forecasted transaction will occur. If it were deemed probable that the forecasted transaction would
not occur, the gain or loss would be recognized in earnings immediately. No such gains or losses were
recognized in earnings for any of the periods presented. Derivative financial instruments qualifying for
hedge accounting must maintain a specified level of effectiveness between the hedging instrument and
the item being hedged, both at inception and throughout the hedged period, which management
evaluates periodically.
The primary currencies to which the Company is exposed are the euro, British pound, Canadian dollar, and
Australian dollar. For option and forward foreign exchange contracts designated as cash flow hedges of the
purchase of inventory, the effective portion of gains and losses is deferred as a component of Accumulated
Other Comprehensive Loss (‘‘AOCL’’) and is recognized as a component of cost of sales when the related
inventory is sold. The amount reclassified to cost of sales related to such contracts was not significant for
any of the periods presented. The ineffective portion of gains and losses related to cash flow hedges
recorded to earnings was also not significant for any of the periods presented. When using a forward
contract as a hedging instrument, the Company excludes the time value from the assessment of
effectiveness. The Company had not hedged forecasted transactions for more than the next twelve months,
and the Company expects all derivative-related amounts reported in AOCL to be reclassified to earnings
within twelve months. During 2011, the net changes in the fair value of the contracts resulted in a loss of
$2 million and therefore increased AOCL for the year ended January 28, 2012.
Derivative Holdings Designated as Non-Hedges
The Company mitigates the effect of fluctuating foreign exchange rates on the reporting of
foreign-currency denominated earnings by entering into currency option contracts. Changes in the fair
value of these foreign currency option contracts, which are designated as non-hedges, are recorded in
earnings immediately within other income. The realized gains, premiums paid and changes in the fair
market value recorded in the Condensed Consolidated Statements of Operations were not significant for
any of the periods presented.
The Company also enters into forward foreign exchange contracts to hedge foreign-currency denominated
merchandise purchases and intercompany transactions that are not designated as hedges. Net changes in
the fair value of foreign exchange derivative financial instruments designated as non-hedges were
substantially offset by the changes in value of the underlying transactions, which were recorded in
selling, general and administrative expenses. The amounts recorded for all the periods presented were
not significant.
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