Air Canada 2014 Annual Report Download - page 128

128 2014 Annual Report
• Holding U.S. dollar cash reserves as an economic
hedge against changes in the value of the U.S.
dollar. U.S. dollar cash and short-term investment
balances as at December 31, 2014 amounted to
$717 (US$620) ($791 (US$743) as at December 31,
2013). In 2014, an unrealized gain of $58 (unrealized
gain of $44 in 2013) was recorded in Foreign
exchange gain (loss) reflecting the change in
Canadian equivalent market value of the U.S. dollar
cash and short-term investment balances held.
• Locking in the foreign exchange rate through the
use of a variety of foreign exchange derivatives
which have maturity dates corresponding to the
forecasted dates of U.S. dollar net outflows.
The level of foreign exchange derivatives entered
into and their related maturity dates are dependent
upon a number of factors, which include the amount
of foreign revenue conversion available, U.S. dollar
net cash flows, as well as the amount attributed to
aircraft and debt payments. Based on the notional
amount of currency derivatives outstanding at
December 31, 2014, as further described below,
approximately 69% of net US cash outflows are
hedged for 2015 and 13% for 2016, resulting in
derivative coverage of 52% over the next 18 months.
As at December 31, 2014, the Corporation had
outstanding foreign currency options and swap
agreements, settling in 2015 and 2016, to purchase
at maturity $2,658 (US$2,292) of U.S. dollars at
a weighted average rate of $1.0884 per US$1.00.
(2013 – $1,645 (US$1,547) with settlements in 2014
and 2015 at a weighted average rate of $1.0341 per
$1.00 U.S. dollar). The Corporation also has protection
in place to sell a portion of its excess Euros and
Sterling (EUR $35, GBP $27) which settle in 2015 at
weighted average rates of $1.2806 and $1.6217 per
$1.00 U.S. dollar respectively (2013 – EUR $34,
GBP $16 with settlement in 2014 at weighted
average rates of $1.3511 and $1.6130 respectively per
$1.00 U.S. dollar).
The hedging structures put in place have various
option pricing features, such as knock-out terms and
profit cap limitations, and based on the assumed
volatility used in the fair value calculation, the fair
value of these foreign currency contracts as at
December 31, 2014 was $30 in favour of the
Corporation (2013 – $13 in favour of the Corporation).
These derivative instruments have not been
designated as hedges for accounting purposes and are
recorded at fair value. During 2014, a gain of $75 was
recorded in Foreign exchange gain (loss) related to
these derivatives (2013 – $68 gain). In 2014, foreign
exchange derivative contracts cash settled with a net
fair value of $58 in favour of the Corporation ($56 in
2013 in favour of the Corporation).
Interest Rate Risk
Interest rate risk is the risk that the fair value or future
cash flows of a financial instrument will fluctuate
because of changes in market interest rates.
The Corporation enters into both fixed and floating
rate debt and also leases certain assets where the
rental amount fluctuates based on changes in short-
term interest rates. The Corporation manages interest
rate risk on a portfolio basis and seeks financing
terms in individual arrangements that are most
advantageous taking into account all relevant factors,
including credit margin, term and basis. The risk
management objective is to minimize the potential
for changes in interest rates to cause adverse changes
in cash flows to the Corporation. The cash and short-
term investment portfolio which earns a floating rate
of return is an economic hedge for a portion of the
floating rate debt.
The ratio of fixed to floating rate obligations
outstanding is designed to maintain flexibility in
the Corporation’s capital structure and is based
upon a long-term objective of 60% fixed and 40%
floating but allows flexibility in the short-term to
adjust to prevailing market conditions. The ratio at
December 31, 2014 is 75% fixed and 25% floating,
including the effects of interest rate swap positions
(74% and 26%, respectively as at December 31, 2013).
The following are the current derivatives employed
in interest rate risk management activities and the
adjustments recorded during 2014:
• As at December 31, 2014, the Corporation had
two interest rate swap agreements in place with
terms to July 2022 and January 2024 relating to
two Boeing 767 aircraft financing agreements
with an aggregate notional value of $60 (US$52)
(2013 – $62 (US$58)). These swaps convert the
lease payments on the two aircraft leases from
fixed to floating rates. The fair value of these
contracts as at December 31, 2014 was $8 in
favour of the Corporation (2013 – $10 in favour
of the Corporation). These derivative instruments
have not been designated as hedges for accounting
purposes and are recorded at fair value. During
2014, a gain of $2 was recorded in Fuel and other
derivatives related to these derivatives (2013 – $1
loss).
Interest income includes $35 (2013 – $29) related
to Cash and cash equivalents and Short-term
investments, which are classified as held for trading.
Interest expense reflected on the consolidated
statement of operations relates to financial liabilities
recorded at amortized cost.