E-Z-GO 2011 Annual Report Download - page 77

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Note 9. Derivative Instruments and Fair Value Measurements
We measure fair value at the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. We prioritize the assumptions that market participants would use in pricing
the asset or liability into a three-tier fair value hierarchy. This fair value hierarchy gives the highest priority (Level 1) to quoted
prices in active markets for identical assets or liabilities and the lowest priority (Level 3) to unobservable inputs in which little or
no market data exist, requiring companies to develop their own assumptions. Observable inputs that do not meet the criteria of
Level 1, and include quoted prices for similar assets or liabilities in active markets or quoted prices for identical assets and
liabilities in markets that are not active are categorized as Level 2. Level 3 inputs are those that reflect our estimates about the
assumptions market participants would use in pricing the asset or liability based on the best information available in the
circumstances. Valuation techniques for assets and liabilities measured using Level 3 inputs may include methodologies such as
the market approach, the income approach or the cost approach and may use unobservable inputs such as projections, estimates
and management’s interpretation of current market data. These unobservable inputs are utilized only to the extent that observable
inputs are not available or cost-effective to obtain.
Assets and Liabilities Recorded at Fair Value on a Recurring Basis
The assets and liabilities that are recorded at fair value on a recurring basis consist primarily of our derivative financial
instruments, which are categorized as Level 2 in the fair value hierarchy. The fair value amounts of these instruments that are
designated as hedging instruments are provided below:
Asset (Liability)
(In millions)
Borrowing Group
Balance Sheet Location
December 31,
2011
January 1,
2011
Assets
Interest rate exchange contracts*
Finance
Other assets
$ 22
$ 34
Foreign currency exchange contracts
Manufacturing
Other current assets
9
39
Total
$ 31
$ 73
Liabilities
Interest rate exchange contracts*
Finance
Other liabilities
$ (7)
$ (6)
Foreign currency exchange contracts
Manufacturing
Accrued liabilities
(5)
(2)
Total
$ (12)
$ (8)
*Interest rate exchange contracts represent fair value hedges.
The Finance group’s interest rate exchange contracts are not exchange traded and are measured at fair value utilizing widely
accepted, third-party developed valuation models. The actual terms of each individual contract are entered into a valuation model,
along with interest rate and foreign exchange rate data, which is based on readily observable market data published by third-party
leading financial news and data providers. Credit risk is factored into the fair value of these assets and liabilities based on the
differential between both our credit default swap spread for liabilities and the counterparty’s credit default swap spread for assets
as compared with a standard AA-rated counterparty; however, this had no significant impact on the valuation at December 31,
2011. At December 31, 2011 and January 1, 2011, we had interest rate exchange contracts with notional amounts upon which the
contracts were based of $0.8 billion and $1.1 billion, respectively.
Foreign currency exchange contracts are measured at fair value using the market method valuation technique. The inputs to this
technique utilize current foreign currency exchange forward market rates published by third-party leading financial news and data
providers. These are observable data that represent the rates that the financial institution uses for contracts entered into at that
date; however, they are not based on actual transactions so they are classified as Level 2. At December 31, 2011 and January 1,
2011, we had foreign currency exchange contracts with notional amounts upon which the contracts were based of $645 million and
$635 million, respectively.
The Finance group also has investments in other marketable securities totaling $21 million and $51 million at December 31, 2011
and January 1, 2011, respectively, which are classified as available for sale. These investments are classified as Level 2 as the fair
value for these notes was determined based on observable market inputs for similar securitization interests in markets that are
relatively inactive compared with the market environment in which they were originally issued.
Fair Value Hedges
Our Finance group enters into interest rate exchange contracts 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 contracts, we are able to convert our fixed-rate cash flows
to floating-rate cash flows. The amount of ineffectiveness on our fair value hedges and the gain (loss) recorded in the
Consolidated Statements of Operations were both insignificant in 2011 and 2010.
66
66 Textron Inc. Annual Report • 2011