Sears 2009 Annual Report Download - page 69

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SEARS HOLDINGS CORPORATION
Notes to Consolidated Financial Statements—(Continued)
Wholly owned Insurance Subsidiary and Inter-company Notes
As noted in Note 1, we have numerous types of insurable risks, including workers’ compensation, product
and general liability, automobile, warranty, and asbestos and environmental claims. Also, as discussed in Note 1,
we sell extended service contracts to our customers. The associated risks are managed through our wholly owned
insurance subsidiary. In accordance with applicable insurance regulations, the insurance subsidiary holds
investment grade securities to support the insurance coverage it provides.
We have transferred certain domestic real estate and intellectual property (i.e. trademarks) into separate
wholly owned, bankruptcy remote subsidiaries. These bankruptcy remote subsidiaries lease the real estate
property to Sears and license the use of the trademarks to Sears and Kmart. Further, the bankruptcy remote
subsidiaries have issued asset-backed notes that are collateralized by the aforementioned real estate rental
streams and intellectual property licensing fee streams. Cash flows received from rental streams and licensing fee
streams paid by Sears, Kmart and, potentially in the future, other affiliates or third parties, will be used for the
payment of fees, interest and principal on the asset-backed notes issued. Since the inception of these subsidiaries,
the debt securities have been entirely held by our wholly owned consolidated subsidiaries in support of our
insurance activities. At January 30, 2010 and January 31, 2009, the net book value of the securitized intellectual
property assets was approximately $1.0 billion. The net book value of the securitized real estate assets was
approximately $0.9 billion at January 30, 2010 and January 31, 2009.
NOTE 4—DERIVATIVE FINANCIAL INSTRUMENTS AND FINANCIAL GUARANTEES
Sears Canada Hedges of Merchandise Purchases
Sears Canada had entered into foreign currency option contracts with a total notional value of $299 million
and $457 million as of January 30, 2010 and January 31, 2009, respectively. As discussed previously, these
option contracts are used to hedge Sears Canada’s purchase of inventory under U.S. dollar denominated
contracts. We record mark-to-market adjustments based on the total notional value of these outstanding option
contracts at the end of each period. We recorded mark-to-market assets related to the foreign currency option
contracts of $9 million at January 30, 2010 and $74 million at January 31, 2009.
We record the earnings impact of mark-to-market and settlement adjustments for foreign currency option
contracts in other income (loss) at the end of each period. We recorded mark-to-market and settlement losses on
these contracts of $77 million and mark-to-market gains of $87 million in other income (loss) for fiscal years
ended January 30, 2010 and January 31, 2009, respectively.
Sears Canada’s above noted foreign currency options contracts were entered into as a hedge of merchandise
purchase contracts denominated in U.S. currency. We also record mark-to-market adjustments for the value of
the merchandise purchase contracts (considered to be embedded derivatives under relevant accounting rules) at
the end of each period. These embedded derivates had a zero fair value as of January 30, 2010. We recorded a
liability of $6 million at January 31, 2009 related to the fair value of these embedded derivatives.
We record the earnings impact of mark-to-market and settlement adjustments related to the embedded
derivative in the merchandise purchase contracts in other income (loss) at the end of each period. We recorded
mark-to-market and settlement gains of $10 million for the fiscal year ended January 30, 2010 and
mark-to-market losses of $6 million for the fiscal year ended January 31, 2009.
At January 30, 2010, we had total derivative mark-to-market assets related to the option contracts and
embedded derivatives of $9 million. We recorded total mark-to-market losses and settlements of $67 million in
69