Northrop Grumman 2010 Annual Report Download - page 80

Derivative Financial Instruments – Derivative financial instruments are recognized as assets or liabilities in the
financial statements and measured at fair value. Changes in the fair value of derivative financial instruments that
qualify and are designated as fair value hedges are required to be recorded in income from continuing operations,
while the effective portion of the changes in the fair value of derivative financial instruments that qualify and are
designated as cash flow hedges are recorded in other comprehensive income. The company may use derivative
financial instruments to manage its exposure to interest rate and foreign currency exchange risks and to balance
its fixed and variable rate long-term debt portfolio. The company does not use derivative financial instruments
for trading or speculative purposes, nor does it use leveraged financial instruments. Credit risk related to
derivative financial instruments is considered minimal and is managed by requiring high credit standards for
counterparties and through periodic settlements of positions.
For derivative financial instruments not designated as hedging instruments, gains or losses resulting from changes
in the fair value are reported in Other, net in the consolidated statements of operations.
Income Taxes – Provisions for federal, foreign, state, and local income taxes are calculated on reported financial
statement pre-tax income based on current tax law and include the cumulative effect of any changes in tax rates
from those used previously in determining deferred tax assets and liabilities. Such provisions differ from the
amounts currently payable because certain items of income and expense are recognized in different time periods
for financial reporting purposes than for income tax purposes. If a tax position does not meet the minimum
statutory threshold to avoid payment of penalties, the company recognizes an expense for the amount of the
penalty in the period the tax position is claimed in the tax return of the company. The company recognizes
interest accrued related to unrecognized tax benefits in income tax expense. Penalties, if probable and reasonably
estimable, are recognized as a component of income tax expense. State and local income and franchise tax
provisions are allocable to contracts in process and, accordingly, are included in general and administrative
expenses.
The company makes a comprehensive review of its portfolio of uncertain tax positions regularly. In this regard,
an uncertain tax position represents the company’s expected treatment of a tax position taken in a filed tax
return, or planned to be taken in a future tax return or claim, that has not been reflected in measuring income
tax expense for financial reporting purposes. Until these positions are sustained by the taxing authorities, the
company does not recognize the tax benefits resulting from such positions and reports the tax effects as a liability
for uncertain tax positions in its consolidated statements of financial position.
Cash and cash equivalents – For cash and cash equivalents, the carrying amounts approximate fair value due to the
short-term nature of these items. Cash and cash equivalents include short-term interest-earning debt instruments
that mature in three months or less from the date purchased.
Marketable Securities – At December 31, 2010, and 2009, substantially all of the company’s investments in
marketable securities were classified as available-for-sale or trading. For available-for-sale securities, any unrealized
gains and losses are reported as a separate component of shareholders’ equity. Unrealized gains and losses on
trading securities are included in Other, net in the consolidated statements of operations. Investments in
marketable securities are recorded at fair value.
Accounts Receivable – Accounts receivable include amounts billed and currently due from customers, amounts
currently due but unbilled (primarily related to contracts accounted for under the cost-to-cost measure of the
percentage-of-completion method of accounting), certain estimated contract change amounts, claims or requests
for equitable adjustment in negotiation that are probable of recovery, and amounts retained by the customer
pending contract completion.
Inventoried Costs – Inventoried costs primarily relate to work in process under fixed-price, units-of-delivery and
fixed-priced-incentive contracts using labor dollars as the basis of the percentage-of-completion calculation.
These costs represent accumulated contract costs less the portion of such costs allocated to delivered items.
Accumulated contract costs include direct production costs, factory and engineering overhead, production
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NORTHROP GRUMMAN CORPORATION