Callaway 2010 Annual Report Download - page 62

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Item 7A. Quantitative and Qualitative Disclosures about Market Risk
The Company uses derivative financial instruments for hedging purposes to limit its exposure to changes in
foreign currency exchange rates. Transactions involving these financial instruments are with creditworthy banks,
including the banks that are parties to the Company’s Line of Credit (see Note 10 “Financing Arrangements” to
the Notes of the Consolidated Financial Statements). The use of these instruments exposes the Company to
market and credit risk which may at times be concentrated with certain counterparties, although counterparty
nonperformance is not anticipated. The Company is also exposed to interest rate risk from its Line of Credit.
Foreign Currency Fluctuations
In the normal course of business, the Company is exposed to gains and losses resulting from fluctuations in
foreign currency exchange rates relating to transactions of its international subsidiaries, including certain balance
sheet exposures (payables and receivables denominated in foreign currencies) (see Note 11 “Derivatives and
Hedging” to the Notes to Consolidated Financial Statements). In addition, the Company is exposed to gains and
losses resulting from the translation of the operating results of the Company’s international subsidiaries into U.S.
dollars for financial reporting purposes. As part of its strategy to manage the level of exposure to the risk of
fluctuations in foreign currency exchange rates, the Company uses derivative financial instruments in the form of
foreign currency forward contracts and put and call option contracts (“foreign currency exchange contracts”) to
hedge transactions that are denominated primarily in British Pounds, Euros, Japanese Yen, Canadian Dollars,
Australian Dollars and Korean Won. For most currencies, the Company is a net receiver of foreign currencies
and, therefore, benefits from a weaker U.S. dollar and is adversely affected by a stronger U.S. dollar relative to
those foreign currencies in which the Company transacts significant amounts of business.
Foreign currency exchange contracts are used only to meet the Company’s objectives of offsetting gains and
losses from foreign currency exchange exposures with gains and losses from the contracts used to hedge them in
order to reduce volatility of earnings. The extent to which the Company’s hedging activities mitigate the effects
of changes in foreign currency exchange rates varies based upon many factors, including the amount of
transactions being hedged. The Company generally only hedges a limited portion of its international transactions.
Foreign currency rates for financial reporting purposes had a significant positive impact upon the Company’s
consolidated reported financial results in 2010 compared to 2009 (see above, “Certain Factors Affecting
Callaway Golf Company” contained in Item 1A and “Results of Operations” contained in Item 7). The Company
does not enter into foreign currency exchange contracts for speculative purposes. Foreign currency exchange
contracts generally mature within twelve months from their inception.
The Company does not designate foreign currency exchange contracts as derivatives that qualify for hedge
accounting under ASC 815, “Derivatives and Hedging.” As such, changes in the fair value of the contracts are
recognized in earnings in the period of change. At December 31, 2010, 2009 and 2008, the notional amounts of
the Company’s foreign currency exchange contracts used to hedge the exposures discussed above were
approximately $314.2 million, $101.7 million and $23.7 million, respectively. At December 31, 2010 and 2009,
there were no outstanding foreign exchange contracts designated as cash flow hedges for anticipated sales
denominated in foreign currencies.
As part of the Company’s risk management procedure, a sensitivity analysis model is used to measure the
potential loss in future earnings of market-sensitive instruments resulting from one or more selected hypothetical
changes in interest rates or foreign currency values. The sensitivity analysis model quantifies the estimated
potential effect of unfavorable movements of 10% in foreign currencies to which the Company was exposed at
December 31, 2010 through its foreign currency exchange contracts.
The estimated maximum one-day loss from the Company’s foreign currency exchange contracts, calculated
using the sensitivity analysis model described above, is $33.6 million at December 31, 2010. The portion of the
estimated loss associated with foreign currency exchange contracts that offset the remeasurement gain and loss of
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