Cardinal Health 2012 Annual Report Download - page 43

Cardinal Health, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
41
Fair Value of Financial Instruments
The carrying amounts of cash and equivalents, trade receivables,
accounts payable, other short-term borrowings, and other accrued
liabilities at June 30, 2012 and 2011 approximate fair value due to their
short-term maturities.
Cash balances are invested in accordance with our investment policy.
These investments are exposed to market risk from interest rate
fluctuations and credit risk from the underlying issuers, although this is
mitigated through diversification.
We have investments in fixed income corporate debt securities, which are
classified as held-to-maturity as we have the intent and ability to hold these
investments until maturity. These investments are held at amortized cost,
which approximates fair value. The fair value is estimated based on either
the quoted market prices for the same or similar issues or other inputs
derived from available market information, which represents a Level 2
measurement. The current portion of $72 million and $93 million at
June 30, 2012 and 2011, respectively, is included within prepaid expenses
and other in the consolidated balance sheets. The long-term portion of
$49 million at June 30, 2011 is included within other assets in the
consolidated balance sheets. The investments that we currently hold vary
in maturity date, ranging from one to six months, and pay interest semi-
annually.
The following table summarizes the estimated fair value of our long-term
obligations and other short-term borrowings compared to the respective
carrying amounts at June 30, 2012 and 2011:
(in millions) 2012 2011
Long-term obligations and other short-term borrowings $ 3,075 $ 2,619
Carrying amount 2,894 2,502
The fair value of our long-term obligations and other short-term borrowings
is estimated based on either the quoted market prices for the same or
similar issues or other inputs derived from available market information,
which represents a Level 2 measurement.
The following is a summary of the fair value gain/(loss) of our derivative
instruments, based upon the estimated amount that we would receive (or
pay) to terminate the contracts as of June 30, 2012 and 2011. The fair
values are based on quoted market prices for the same or similar
instruments. See Note 12 for further information regarding fair value
measurements.
June 30, 2012 June 30, 2011
(in millions) Notional
Amount
Fair Value
Gain/(Loss)
Notional
Amount
Fair Value
Gain/(Loss)
Interest rate swaps $ 773 $ 49 $ 1,256 $ 32
Foreign currency contracts 658 1 555 (2)
Commodity contracts 23 (1) 32 2
12. Fair Value Measurements
Fair value is defined as the price that would be received upon selling an
asset or the price paid to transfer a liability on the measurement date. It
focuses on the exit price in the principal or most advantageous market for
the asset or liability in an orderly transaction between willing market
participants. A three-tier fair value hierarchy is established as a basis for
considering such assumptions and for inputs used in the valuation
methodologies in measuring fair value. This hierarchy requires entities to
maximize the use of observable inputs and minimize the use of
unobservable inputs. The three levels of inputs used to measure fair values
are as follows:
Level 1 - Observable prices in active markets for identical assets and
liabilities.
Level 2 - Observable inputs other than quoted prices in active markets
for identical assets and liabilities.
Level 3 - Unobservable inputs that are supported by little or no market
activity and that are significant to the fair value of the assets
and liabilities.
Recurring Fair Value Measurements
The following table presents the fair values for those assets and (liabilities)
measured on a recurring basis at June 30, 2012:
Fair Value Measurements
(in millions) Level 1 Level 2 Level 3 Total
Cash Equivalents (1) $ 997 $ — $ — $ 997
Forward Contracts (2) —49—49
Other Investments (3) 78 — — 78
Contingent Consideration Obligation (4) ——(4)(4)
Total $ 1,075 $ 49 $ (4) $ 1,120
The following table presents the fair values for those assets and (liabilities)
measured on a recurring basis at June 30, 2011:
Fair Value Measurements
(in millions) Level 1 Level 2 Level 3 Total
Cash Equivalents (1) $ 1,066 $ — $ — $ 1,066
Forward Contracts (2) — 32 — 32
Other Investments (3) 80 — — 80
Contingent Consideration Obligation (4) — — (75) (75)
Total $ 1,146 $ 32 $ (75) $ 1,103
(1) Cash equivalents are comprised of highly liquid investments purchased with a maturity
of three months or less. The carrying value of these cash equivalents approximates
fair value due to their short-term maturities.
(2) The fair value of foreign currency contracts, commodity contracts and interest rate
swaps is determined based on the present value of expected future cash flows
considering the risks involved, including non-performance risk, and using discount
rates appropriate for the respective maturities. Observable Level 2 inputs are used to
determine the present value of expected future cash flows.
(3) The other investments balance includes investments in mutual funds, which are used
to offset fluctuations in deferred compensation liabilities. These mutual funds primarily
invest in the equity securities of companies with large market capitalization and high
quality fixed income debt securities. The fair value of these investments is determined
using quoted market prices.
(4) The contingent consideration obligation was incurred in connection with the acquisition
of P4 Healthcare. See Note 2 for additional information regarding the contingent
consideration obligation related to the P4 Healthcare acquisition including an
explanation of the reduction in the estimated fair value during fiscal 2012. The fair
value of the contingent consideration obligation was determined based on a
probability-weighted income approach derived from EBITDA estimates and probability
assessments with respect to the likelihood of achieving the various EBITDA targets.
The fair value measurement was based on significant inputs unobservable in the
market and thus represents a Level 3 measurement. At each reporting date, we
revalued the contingent consideration obligation to estimated fair value. Changes in
the fair value of the contingent consideration obligation resulted from changes in the
terms of the contingent payments, changes in discount periods and rates, changes in
the timing and amount of EBITDA estimates, and changes in probability assumptions
with respect to the timing and likelihood of achieving the EBITDA targets. As a result
of changes in our estimate of performance in future periods due in large part to the
loss of revenue from a significant customer of the P4 Healthcare legacy business in
fiscal 2012, we revised the timing and amount of EBITDA estimates and made changes
in probability assumptions with respect to the likelihood of achieving the EBITDA
targets.