Southwest Airlines 2009 Annual Report Download - page 80

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
December 31, 2009
The fair value of the derivative instruments, depending on the type of instrument, was determined by the use
of present value methods or standard option value models with assumptions about commodity prices based on
those observed in underlying markets. Included in the Company’s total net unrealized losses from fuel hedges as
of December 31, 2009, are approximately $235 million in unrealized losses, net of taxes, that are expected to be
realized in earnings during 2010. In addition, as of December 31, 2009, the Company had already recognized
cumulative net gains due to ineffectiveness and derivatives that do not qualify for hedge accounting totaling $26
million, net of taxes. These net gains were recognized in 2009 and prior periods, and are reflected in “Retained
earnings” as of December 31, 2009, but the underlying derivative instruments will not expire/settle until 2010 or
future periods.
Interest rate swaps
Prior to 2009, the Company had entered into interest rate swap agreements related to its $385 million 6.5%
senior unsecured notes due 2012, its $350 million 5.25% senior unsecured notes due 2014, its $300 million
5.125% senior unsecured notes due 2017, and its $100 million 7.375% senior unsecured debentures due 2027.
During fourth quarter 2009, the Company also entered into interest rate swap agreements related to its $400
million of 10.5% secured notes due 2011 and its $300 million 5.75% senior unsecured Notes due 2016. The
primary objective for the Company’s use of these interest rate hedges was to reduce the volatility of net interest
income by better matching the repricing of its assets and liabilities. Under each of these interest rate swap
agreements, the Company pays the London InterBank Offered Rate (LIBOR) plus a margin every six months on
the notional amount of the debt, and receives payments based on the fixed stated rate of the notes every six
months until the date the notes become due. These interest rate swap agreements qualify as fair value hedges, as
defined in “Accounting for Derivative Instruments and Hedging Activities.” In addition, these interest rate swap
agreements qualify for the “shortcut” method of accounting for hedges. Under the “shortcut” method, the hedges
are assumed to be perfectly effective, and, thus, there is no ineffectiveness to be recorded in earnings. The
following table contains the floating rates paid during 2009, based on actual and forward rates at December 31,
2009, under these agreements:
Debt instrument
Fixed rate associated
with debt instrument
Average floating
rate paid in 2009
$385 million Notes due 2012 ........................... 6.5% 3.18%
$350 million Notes due 2014 ........................... 5.25% 2.72%
$400 million Secured notes due 2011 ..................... 10.5% 9.59%
$300 million Notes due 2016 ........................... 5.75% 3.16%
$300 million Notes due 2017 ........................... 5.125% 0.39%
$100 million Debentures due 2027 ....................... 7.375% 2.48%
During 2008, the Company entered into an interest rate swap agreement concurrent with its entry into a
twelve-year, $600 million floating-rate Term Loan Agreement. Under this swap agreement, which is accounted
for as a cash flow hedge, the interest rate on the term loan is effectively fixed for its entire term at 5.223 percent
and ineffectiveness is required to be measured each reporting period. Also, during 2009, concurrent with its entry
into a $332 million term loan agreement, the Company entered into an interest rate swap agreement that
effectively fixes the interest rate on the term loan for its entire term at 6.64 percent. The ineffectiveness
associated with these hedges for 2008 and 2009 was not material.
The fair values of the interest rate swap agreements, which are adjusted regularly, have been aggregated by
counterparty for classification in the Consolidated Balance Sheet. Agreements totaling an asset of $47 million are
classified as a component of “Other assets” with a corresponding adjustment to the carrying value of the long-
term debt. Agreements totaling a net liability of $10 million are classified as a component of “Other deferred
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