E-Z-GO 2006 Annual Report Download - page 75

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Notes to the Consolidated Financial Statements
Lending agreements limit our Finance group’s net assets available for dividends and other payments to the Manufacturing group to approximately
$304 million of the Finance group’s net assets of $1.1 billion at the end of 2006. These lending agreements also contain various restrictive provi-
sions regarding additional debt (not to exceed 800% of consolidated net worth and qualifying subordinated obligations), minimum net worth
($200 million), the creation of liens and the maintenance of a fixed charges coverage ratio (no less than 125%).
The following table shows required payments during the next five years on debt outstanding at the end of 2006. The payment schedule excludes
amounts that are payable under or supported by the primary revolving credit facilities or revolving lines of credit:
(In millions) 2007 2008 2009 2010 2011
Manufacturing group $ 80 $ 351 $ 3 $ 254 $ 19
Finance group 1,118 966 1,562 833 442
$ 1,198 $ 1,317 $ 1,565 $ 1,087 $ 461
Under a support agreement, our Manufacturing group has agreed to ensure that the Finance group maintains certain minimum levels of financial
performance. No payments have ever been required to meet these standards.
Note 9. Derivatives and Other Financial Instruments
Fair Value Interest Rate Hedges
We manage interest cost for our Manufacturing group using a mix of fixed- and variable-rate debt. To manage this mix in a cost efficient manner,
we enter into interest rate exchange agreements to swap, at specified intervals, the difference between fixed and variable interest amounts calcu-
lated by reference to an agreed-upon notional principal amount. These hedges are considered perfectly effective since the critical terms of the debt
and the interest rate exchange match and the other conditions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,”
are met. The mark-to-market values of both the fair value hedge instruments and underlying debt obligations are recorded as equal and offsetting
amounts in interest expense. Our Manufacturing group had interest rate exchange agreements with a fair value liability of $8 million at the end of
2006 and $10 million at the end of 2005.
Our Finance group enters into interest rate exchange agreements to mitigate exposure to changes in the fair value of its fixed-rate receivables and
debt due to fluctuations in interest rates. By using these agreements, we are able to convert our fixed-rate cash flows to floating-rate cash flows. At
December 30, 2006, the Finance group had interest rate exchange agreements with a fair value liability of $45 million designated as fair value
hedges, compared with a $43 million liability at December 31, 2005.
Our Finance group has a Canadian dollar functional currency subsidiary with $60 million in U.S. dollar-denominated fixed-rate debt. To hedge
our exposure to changes in both foreign currency exchange rates and Canadian Banker’s Acceptance rates, we utilize foreign currency interest rate
exchange agreements. At December 30, 2006 and December 31, 2005, these instruments had a fair value liability of $9 million. Our fair value
hedges are highly effective, resulting in an immaterial net impact to earnings due to hedge ineffectiveness.
Cash Flow Interest Rate Hedges
We experience variability in the cash flows we receive from our Finance group’s investments in interest-only securities due to fluctuations in inter-
est rates. To mitigate our exposure to this variability, our Finance group enters into interest rate exchange, cap and floor agreements. The combi-
nation of these instruments converts net residual floating-rate cash flows expected to be received by our Finance group to fixed-rate cash flows.
Changes in the fair value of these instruments are recorded net of the income tax effect in other comprehensive income (loss). At December 30,
2006, these instruments had a fair value liability of less than $1 million, compared with a $5 million liability at December 31, 2005. We do not
expect a significant amount of deferred gains, net of tax to be reclassified to earnings related to these hedge relationships in 2007.
For cash flow hedges, our Finance group recorded an after-tax gain of $1 million in 2006 and after-tax losses of $5 million and $7 million in 2005
and 2004, respectively, to accumulated other comprehensive loss with no impact to the statements of operations. We have not incurred a signifi-
cant net gain or loss in earnings as the result of the ineffectiveness, or the exclusion of any component from our assessment of hedge effective-
ness, in 2006 or 2005.
Our exposure to loss from nonperformance by the counterparties to our interest rate exchange agreements at the end of 2006 is minimal. We
do not anticipate nonperformance by counterparties in the periodic settlements of amounts due. We currently minimize this potential for risk
by entering into contracts exclusively with major, financially sound counterparties having no less than a long-term bond rating of “A,” by