UPS 2012 Annual Report Download - page 65

UNITED PARCEL SERVICE, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
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Allowance for Doubtful Accounts
Losses on accounts receivable are recognized when they are incurred, which requires us to make our best estimate of the
probable losses inherent in our customer receivables at each balance sheet date. These estimates require consideration of
historical loss experience adjusted for current conditions, trends in customer payment frequency, and judgments about the
probable effects of relevant observable data, including present economic conditions and the financial health of specific
customers and market sectors. Our risk management process includes standards and policies for reviewing major account
exposures and concentrations of risk. Deterioration in macroeconomic variables could result in our ultimate loss exposures on
our accounts receivable being significantly higher than what we have currently estimated and reserved for in our allowance for
doubtful accounts. Our total allowance for doubtful accounts as of December 31, 2012 and 2011 was $127 and $117 million,
respectively. Our total provision for doubtful accounts charged to expense during the years ended December 31, 2012, 2011 and
2010 was $155, $147 and $199 million, respectively.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
We are exposed to market risk from changes in certain commodity prices, foreign currency exchange rates, interest rates
and equity prices. All of these market risks arise in the normal course of business, as we do not engage in speculative trading
activities. In order to manage the risk arising from these exposures, we utilize a variety of commodity, foreign exchange and
interest rate forward contracts, options and swaps. A discussion of our accounting policies for derivative instruments and
further disclosures are provided in note 14 to the consolidated financial statements.
Commodity Price Risk
We are exposed to changes in the prices of refined fuels, principally jet-A, diesel and unleaded gasoline, as well as
changes in the price of natural gas. Currently, the fuel surcharges that we apply to our domestic and international package and
LTL services are the primary means of reducing the risk of adverse fuel price changes. Additionally, we periodically use a
combination of option contracts to provide partial protection from changing fuel and energy prices. As of December 31, 2012
and 2011, however, we had no commodity option contracts outstanding.
Foreign Currency Exchange Risk
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, Canadian Dollar, Chinese Renminbi and Hong Kong Dollar. We use a
combination of purchased and written options and forward contracts to hedge forecasted cash flow currency exposures. These
derivative instruments generally cover forecasted foreign currency exposures for periods of 12 to 24 months. Additionally, we
utilize cross-currency interest rate swaps to hedge the currency risk inherent in the interest and principal payments associated
with foreign currency denominated debt obligations. The terms of these swap agreements are commensurate with the
underlying debt obligations.
Interest Rate Risk
We have issued debt instruments, including debt associated with capital leases, that accrue expense at fixed and floating
rates of interest. We use a combination of 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. The notional amount, interest payment and maturity
dates of the swaps match the terms of the associated debt. We also utilize forward starting swaps and similar instruments to
lock in all or a portion of the borrowing cost of anticipated debt issuances. Our floating rate debt and interest rate swaps subject
us to risk resulting from changes in short-term (primarily LIBOR) interest rates.
We also are subject to interest rate risk with respect to our pension and postretirement benefit obligations, as changes in
interest rates will effectively increase or decrease our liabilities associated with these benefit plans, which also results in
changes to the amount of pension and postretirement benefit expense recognized in future periods.
We have investments in debt securities, as well as cash-equivalent instruments, some of which accrue income at variable
rates of interest. Additionally, we hold a portfolio of finance receivables that accrue income at fixed and floating rates of
interest.