Ford 2010 Annual Report Download - page 72

Quantitative and Qualitative Disclosures About Market Risk
70 Ford Motor Company | 2010 Annual Report
Funding sources consist primarily of securitizations and short- and long-term unsecured debt. In the case of
unsecured term debt, and in an effort to have funds available throughout business cycles, Ford Credit may borrow at
terms longer than the terms of their assets, in most instances with up to ten year maturities. These debt instruments are
principally fixed-rate and require fixed and equal interest payments over the life of the instrument and a single principal
payment at maturity.
Ford Credit is exposed to interest rate risk to the extent that a difference exists between the re-pricing profile of its
assets and its debt. Specifically, without derivatives, in the aggregate Ford Credit's assets would re-price more quickly
than its debt.
Ford Credit's interest rate risk management objective is to maximize its economic value while limiting the impact of
changes in interest rates. Ford Credit achieves this objective by setting an established risk tolerance and staying within
the tolerance through the following risk management process.
Ford Credit determines the sensitivity of its economic value to hypothetical changes in interest rates. Ford Credit then
enters into interest rate swaps, when available, to economically convert portions of its floating-rate debt to fixed or fixed-
rate debt to floating to ensure that the sensitivity of its economic value falls within an established tolerance. As part of its
process, Ford Credit also monitors the sensitivity of its pre-tax cash flow using simulation techniques. To measure this
sensitivity, Ford Credit calculates the change in expected cash flows to changes in interest rates over a twelve-month
horizon. This calculation determines the sensitivity of changes in cash flows associated with the re-pricing characteristics
of its interest-rate-sensitive assets, liabilities, and derivative financial instruments under various hypothetical interest rate
scenarios including both parallel and non-parallel shifts in the yield curve. This sensitivity calculation does not take into
account any future actions Ford Credit may take to reduce the risk profile that arises from a change in interest rates.
These quantifications of interest rate risk are reported to the Treasurer regularly (either monthly or quarterly depending on
the market).
The process described above is used to measure and manage the interest rate risk of Ford Credit's operations in the
United States, Canada, and the United Kingdom, which together represented approximately 82% of its total on-balance
sheet finance receivables at December 31, 2010. For its other international affiliates, Ford Credit uses a technique,
commonly referred to as "gap analysis," to measure re-pricing mismatch. This process uses re-pricing schedules that
group assets, debt, and swaps into discrete time-bands based on their re-pricing characteristics. Ford Credit then enters
into interest rate swaps, when available, which effectively change the re-pricing profile of its debt, to ensure that any re-
pricing mismatch (between assets and liabilities) existing in a particular time-band falls within an established tolerance.
As of December 31, 2010, in the aggregate Ford Credit's debt combined with the derivative instruments economically
hedging the debt re-price faster than its assets over the next twelve months. Other things being equal, this means that
during a period of rising interest rates, the interest rates paid on its debt will increase more rapidly than the interest rates
earned on its assets, thereby initially decreasing Ford Credit's pre-tax cash flow. Correspondingly, during a period of
falling interest rates, Ford Credit would expect its pre-tax cash flow to initially increase.
To provide a quantitative measure of the sensitivity of its pre-tax cash flow to changes in interest rates, Ford Credit
uses interest rate scenarios that assume a hypothetical, instantaneous increase or decrease in interest rates of one
percentage point across all maturities (a "parallel shift"), as well as a base case that assumes that interest rates remain
constant at existing levels. In reality, interest rate changes are rarely instantaneous or parallel and rates could move more
or less than the one percentage point assumed in Ford Credit's analysis. As a result, the actual impact to pre-tax cash
flow could be higher or lower than the results detailed in the table below. These interest rate scenarios are purely
hypothetical and do not represent Ford Credit's view of future interest rate movements.
Pre-tax cash flow sensitivity as of year-end 2010 and 2009 was as follows (in millions):
Pre
PrePre
Pre-
---Tax Cash Flow Sensitivity (given a one Tax Cash Flow Sensitivity (given a one Tax Cash Flow Sensitivity (given a one
Tax Cash Flow Sensitivity (given a one
percentage point instantaneous
percentage point instantaneous percentage point instantaneous
percentage point instantaneous
increase
increaseincrease
increase in
in in
in
interest rates)
interest rates)interest rates)
interest rates)
Pre
PrePre
Pre-
---Tax Cash Flow Sensitivity (given a one Tax Cash Flow Sensitivity (given a one Tax Cash Flow Sensitivity (given a one
Tax Cash Flow Sensitivity (given a one
percentage point instantaneous
percentage point instantaneous percentage point instantaneous
percentage point instantaneous
decrease
decreasedecrease
decrease i
i i
in
n n
n
interest rates)
interest rates)interest rates)
interest rates) *
* *
*
December 31, 2010 ................................
................................
$ (22) $ 22
December 31, 2009 ................................
................................
$ 27 $ (27)
_____
* Pre-tax cash flow sensitivity given a one percentage point decrease in interest rates requires an assumption of negative interest rates in markets
where existing interest rates are below one percent.