Sonic 2009 Annual Report Download - page 26

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Quantitative and Qualitative Disclosures About Market Risk
Sonic’s use of debt directly exposes the company to interest rate risk. Floating rate debt, where the interest rate fluctuates periodically,
exposes the company to short-term changes in market interest rates. Fixed rate debt, where the interest rate is fixed over the life of the
instrument, exposes the company to changes in market interest rates reflected in the fair value of the debt and to the risk that the company
may need to refinance maturing debt with new debt at a higher rate. Sonic is also exposed to market risk from changes in commodity
prices. Sonic does not utilize financial instruments for trading purposes. Sonic manages its debt portfolio to achieve an overall desired
position of fixed and floating rates and may employ interest rate swaps as a tool to achieve that goal in the future.
Interest Rate Risk.
Our exposure to interest rate risk at August 31, 2009 is primarily based on the fixed rate notes with an effective
rate of 5.7%, before amortization of debt-related costs. At August 31, 2009, the fair value of the fixed rate notes was estimated at
$473.3 million versus carrying value of $511.9 million (including accrued interest). The difference between fair value and carrying value
is attributable to interest rate decreases subsequent to when the debt was originally issued, more than offset by the increase in credit
spreads required by issuers of similar debt instruments in the current market. Should interest rates and/or credit spreads increase or
decrease by one percentage point, the estimated fair value of the fixed rate notes would decrease by approximately $11.8 million or
increase by approximately $11.4 million, respectively. The fair value estimate required significant assumptions by management as there
are few, if any, securitized loan transactions occurring in the current market. Management used market information available for public
debt transactions for companies with ratings that are close to or lower than ratings for the company (without consideration for the
third-party credit enhancement). Management believes this fair value is a reasonable estimate with the information that is available.
The difference between fair value and carrying value is attributable to interest rate decreases subsequent to when the debt was originally
issued which is more than offset by the increase in credit spreads required by issuers of similar debt instruments in the current market.
The variable funding notes outstanding at August 31, 2009 totaled $187.3 million, with a variable rate of 1.4%. The annual impact
on our results of operations of a one-point interest rate change for the balance outstanding at year-end would be approximately $1.9
million before tax. At August 31, 2009, the fair value of the variable funding notes was estimated at $159.3 million versus carrying
value of $187.3 million (including accrued interest). Should credit spreads increase or decrease by one percentage point, the estimated
fair value of the variable funding notes would decrease by approximately $5.2 million or increase by approximately $5.1 million,
respectively. The company used similar assumptions to value the variable funding notes as were used for the fixed rate notes. The
difference between fair value and carrying value is attributable to the increase in credit spreads required by issuers of similar debt
instruments in the current market.
We have made certain loans to our franchisees totaling $9.5 million as of August 31, 2009. The interest rates on these notes are
generally between 5.0% and 10.5%. We believe the carrying amount of these notes approximates their fair value.
Commodity Price Risk.
The company and its franchisees purchase certain commodities such as beef, potatoes, chicken and dairy
products. These commodities are generally purchased based upon market prices established with vendors.These purchase arrangements
may contain contractual features that limit the price paid by establishing price floors or caps; however, we have not made any long-term
commitments to purchase any minimum quantities under these arrangements.We do not use financial instruments to hedge commodity
prices because these purchase agreements help control the ultimate cost.
This market risk discussion contains forward-looking statements. Actual results may differ materially from this discussion based upon
general market conditions and changes in financial markets.
Management's Discussion and Analysis of Financial Condition and Results of Operations
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