Adobe 2001 Annual Report Download - page 45

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Legal Actions
We are engaged in certain legal actions arising in the ordinary course of business. We believe that we
have adequate legal defenses and that the ultimate outcome of these actions will not have a material
adverse effect on our financial position and results of operations.
Derivatives and Financial Instruments
(Item 7a. Quantitative and Qualitative Disclosures About Market Risk)
Foreign Currency Hedging Instruments
We transact business in various foreign currencies, primarily in certain European countries and Japan.
Accordingly, we are subject to exposure from movements in foreign currency exchange rates. This
exposure is primarily related to yen denominated licenses in Japan, and beginning in fiscal 2001, euro
denominated licenses in certain European countries.
Our Japanese operating expenses are in yen, and our European operating expenses are in euro, which
mitigates a portion of the exposure related to yen and euro denominated licenses. In addition, we hedge
firmly committed transactions using forward contracts. We also hedge a percentage of forecasted
international revenue with forward and purchased option contracts. At November 30, 2001, total
outstanding contracts included $98.3 million in foreign currency forward exchange contracts and purchased
put option contracts with a notional value of $82.3 million. All contracts expire at various times through
May 2002. Our hedging policy is designed to reduce the impact of foreign currency exchange rate
movements, and we expect any gain or loss in the hedging portfolio to be offset by a corresponding gain or
loss in the underlying exposure being hedged. These contracts do subject us to risk of accounting gains and
losses; however, the gains and losses on these contracts offset gains and losses on the assets, liabilities, and
transactions being hedged. The bank counterparties in these contracts expose us to credit-related losses in
the event of their nonperformance. However, to mitigate that risk we only contract with high quality
counterparties with specific minimum rating requirements. In addition, our hedging policy establishes
maximum limits for each counterparty.
Economic Hedging—Hedges of Forecasted Transactions
We use option and forward foreign exchange contracts to hedge certain operational (‘‘cash flow’’)
exposures resulting from changes in foreign currency exchange rates. These foreign exchange contracts,
carried at fair value, have a duration between three to twelve months. Such cash flow exposures result from
portions of our forecasted revenues denominated in currencies other than the U.S. dollar (‘‘USD’’),
primarily the Japanese yen and the euro. We enter into these foreign exchange contracts to hedge
forecasted product licensing revenue in the normal course of business, and accordingly, they are not
speculative in nature.
We record changes in the fair value of these cash flow hedges in accumulated other comprehensive
income (loss), until the forecasted transaction occurs. When the forecasted transaction occurs, we
reclassify the related gain or loss on the cash flow hedge to revenue. In the event the underlying forecasted
transaction does not occur, or it becomes probable that it will not occur, we reclassify the gain or loss on
the related cash flow hedge from accumulated other comprehensive income (loss) to interest and other
income (loss) on the consolidated statement of income at that time. For the fiscal year ended
November 30, 2001, there were no such net gains or losses recognized in other income relating to hedges of
forecasted transactions that did not occur.
The critical terms of the cash flow hedging instruments are the same as the underlying forecasted
transactions. The changes in fair value of the derivatives are intended to offset changes in the expected
cash flows from the forecasted transactions. We record any ineffective portion of the hedging instruments
45