UPS 2007 Annual Report Download - page 105

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS—(Continued)
flow hedges, and to the extent the hedges remain effective, the resulting gains and losses from these hedges are
recognized in the income statement when the underlying fuel or energy product being hedged is consumed.
In the second quarter of 2006, we terminated several energy derivatives and received $229 million in cash,
which is reported in other investing activities in the statement of cash flows. These derivatives were designated
as hedges of forecasted cash outflows for purchases of fuel products. As these derivatives maintained their
effectiveness and qualified for hedge accounting, the gains associated with these hedges were recognized in
income over the original term of the hedges through the end of 2007.
Foreign Currency Exchange Risk Management
We have foreign currency risks related to our revenue, operating expenses, and financing transactions in
currencies other than the local currencies in which we operate. We are exposed to currency risk from the
potential changes in functional currency values of our foreign currency denominated assets, liabilities, and cash
flows. Our most significant foreign currency exposures relate to the Euro, the British Pound Sterling, and the
Canadian Dollar. We use a combination of purchased and written options and forward contracts to hedge
currency cash flow exposures. As of December 31, 2007 and 2006, the net fair value of the hedging instruments
described above was an asset (liability) of $(42) and $30, respectively. We have designated and account for these
contracts as cash flow hedges of anticipated foreign currency denominated revenue and, therefore, the resulting
gains and losses from these hedges are recognized as a component of international package revenue when the
underlying sales occur.
Interest Rate Risk Management
Our indebtedness under our various financing arrangements creates interest rate risk. We use a combination
of derivative instruments, including interest rate swaps and cross-currency interest rate swaps, as part of our
program to manage the fixed and floating interest rate mix of our total debt portfolio and related overall cost of
borrowing. These swaps are entered into concurrently with the issuance of the debt that they are intended to
modify, and the notional amount, interest payment, and maturity dates of the swaps match the terms of the
associated debt. Interest rate swaps allow us to maintain a target range of floating rate debt.
We have designated and account for these contracts as either hedges of the fair value of the associated debt
instruments, or as hedges of the variability in expected future interest payments. Any periodic settlement
payments are accrued monthly, as either a charge or credit to interest expense, and are not material to net income.
The net fair value of our interest rate swaps at December 31, 2007 and 2006 was a liability of $94 and $79
million, respectively.
Credit Risk Management
The forward contracts, swaps, and options previously discussed contain an element of risk that the
counterparties may be unable to meet the terms of the agreements. However, we minimize such risk exposures
for these instruments by limiting the counterparties to large banks and financial institutions that meet established
credit guidelines. We do not expect to incur any losses as a result of counterparty default.
Derivatives Not Designated As Hedges
Derivatives not designated as hedges primarily consist of a small portfolio of stock warrants in public and
private companies that are held for investment purposes. These warrants are recorded at fair value, and the
impact of these warrants on our results was immaterial for 2007, 2006 and 2005.
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