Unilever 2006 Annual Report Download - page 79

76 Unilever Annual Report and Accounts 2006
Financial Statements (continued)
Notes to the consolidated accounts Unilever Group
1Accounting information and policies (continued)
Borrowings and other financial liabilities
Borrowings are recognised initially at fair value, net of transaction
costs incurred. Borrowings are subsequently stated at amortised cost
unless they are part of a fair value hedge accounting relationship;
any difference between the amount on initial recognition and the
redemption value is recognised in the income statement over the
period of the borrowings using the effective interest method. Those
borrowings that are part of a fair value hedge accounting relationship
are also recorded on an amortised cost basis, plus or minus the fair
value attributable to the risk being hedged with a corresponding entry
in the income statement.
Short-term financial liabilities are measured at original invoice
amount. Borrowing costs are not capitalised as part of property,
plant and equipment.
Derivative financial instruments
Derivatives are measured on the balance sheet at fair value. The
activities of the Group expose it primarily to the financial risks of
changes in foreign currency exchange rates and interest rates. The
Group uses foreign exchange forward contracts, interest rate swap
contracts and forward rate agreements to hedge these exposures.
The Group also uses commodity contracts to hedge future
requirements for certain raw materials, almost always for physical
delivery. Those contracts that can also be settled in cash are treated
as a financial instrument. The Group does not use derivative financial
instruments for speculative purposes. The use of leveraged
instruments is not permitted.
Changes in the fair value of derivative financial instruments that
are designated and effective as hedges of future cash flows are
recognised directly in equity, and any ineffective portion is recognised
immediately in the income statement. If the cash flow hedge of a firm
commitment or forecasted transaction subsequently results in the
recognition of a non-financial asset or a liability, then, at the time the
non-financial asset or liability is recognised, the associated gains or
losses on the derivative that had previously been recognised in equity
are included in the initial measurement of the non-financial asset or
liability. For hedged items that do not result in the recognition of a
non-financial asset or a liability, amounts deferred in equity are
recognised in the income statement in the same period in which
the hedged item affects net profit or loss.
Hedge accounting is discontinued when the hedging instrument no
longer qualifies for hedge accounting. At that time, any cumulative
gain or loss on the hedging instrument recognised in equity is
retained in equity until the forecasted transaction occurs. If a hedged
transaction is no longer expected to occur,the net cumulative gain
or loss recognised in equity is transferred to the income statement.
For an effective hedge of an exposureto changes in the fair value
of recognised assets and liabilities, the hedged item is adjusted for
changes in fair value attributable to the risk being hedged with
the corresponding entry in the income statement. Gains or losses
from re-measuring the derivative, or for non-derivatives the foreign
currency component of its carrying amount, are recognised in the
income statement.
Changes in fair value of net investment hedges in relation to foreign
subsidiaries are recognised directly in equity.Gains and losses
accumulated in equity areincluded in the income statement when
the foreign operation is partially disposed of or sold.
Changes in the fair value of derivative financial instruments that
do not qualify for hedge accounting are recognised in the income
statement as they arise.
Derivatives embedded in other financial instruments or other host
contracts aretreated as separate derivatives when their risks and
characteristics arenot closely related to those of host contracts and
the host contracts are carried at fair value with unrealised gains
or losses reported in the income statement.
Valuation principles
The fair values of quoted investments are based on current bid prices.
For unlisted and for listed securities where the market for a financial
asset is not active the Group establishes fair value using valuation
techniques. These include the use of recent arm’s length transactions,
reference to other instruments that are substantially the same and
discounted cash flow analysis.
Impairment of financial instruments
At each balance sheet date the Group assesses whether there is
objective evidence that a financial asset or a group of financial assets
is impaired. In the case of equity securities classified as available-for-
sale, a significant or prolonged decline in the fair value of the security
below its cost is considered in determining whether the securities are
impaired. If any such evidence exists for available-for-sale financial
assets, the cumulative loss – measured as the difference between the
acquisition cost and the current fair value, less any impairment loss on
that financial asset previously recognised in profit or loss – is removed
from equity and recognised in the income statement. Impairment
losses recognised in the income statement on equity instruments are
not subsequently reversed through the income statement.
Inventories
Inventories are valued at the lower of weighted average cost and net
realisable value. Cost comprises direct costs and, where appropriate,
aproportion of attributable production overheads.
Cash and cash equivalents
For the purpose of preparation of the cash flow statement, cash and
cash equivalents includes cash at bank and in hand, highly liquid
interest bearing securities with original maturities of three months
or less, and bank overdrafts.
Pensions and similar obligations
The operating and financing costs of defined benefit plans are
recognised separately in the income statement. Service costs are
systematically allocated over the service lives of employees, and
financing costs are recognised in the periods in which they arise. The
costs of individual events such as past service benefit enhancements,
settlements and curtailments are recognised immediately in the
income statement. Variations from expected costs, arising from the
experience of the plans or changes in actuarial assumptions, are
recognised immediately in the statement of recognised income
and expense. The assets and liabilities of defined benefitplans
are recognised at fair value in the balance sheet.
The charges to the income statement for defined contribution plans
arethe company contributions payable, and the assets and liabilities
of such plans arenot included in the balance sheet of the Group.
All defined benefitplans aresubject to regular actuarial review using
the projected unit method, either by external consultants or by
actuaries employed by Unilever.Group policy is that the most
important plans, representing approximately 80% of the defined
benefitliabilities, areformally valued every year; other principal plans,
accounting for approximately a further 15%of liabilities, have their
liabilities updated each year.Group policy for the remaining plans
requires a full actuarial valuation at least every three years. Asset
values for all plans areupdated every year.
Taxation
Income tax on the profitor loss for the year comprises current and
deferred tax. Income tax is recognised in the income statement except
to the extent that it relates to items recognised directly in equity.
Current tax is the expected tax payable on the taxable income for
the year,using tax rates enacted or substantively enacted at the
balance sheet date, and any adjustments to tax payable in respect
of previous years.