First Data 2009 Annual Report Download - page 84

FIRST DATA CORPORATION
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (Continued)
The Company will not be able to readily access liquidity for the SLARS until the auction market
successfully resumes, a secondary market is established for long-term investors, or issuers redeem the securities.
Due to the lack of observable market activity for the SLARS held by the Company as of December 31, 2009, the
Company, with the assistance of a third party valuation firm upon which the Company in part relied, made
certain assumptions, primarily relating to estimating both the weighted average life for the securities held by the
Company and the impact of the current lack of liquidity on the fair value. All key assumptions and valuations
were determined by and are the responsibility of management. At December 31, 2009, the securities were valued
based on a probability weighted discounted cash flow analysis. The Company considered each security’s key
terms including date of issuance, date of maturity, auction intervals, scheduled auction dates, maximum auction
rate, as well as underlying collateral, ratings, and guarantees or insurance. Substantially all SLARS held by the
Company have collateral backed by FFELP. The probabilities of auction failure, a successful auction at par or
repurchase at par for each future period were then forecasted. The Company assumed that the issuers will
continue to pay maximum interest rates on the securities until the event of a successful auction or repurchase, at
which point the Company would sell the SLARS at par through the auction. To determine the fair value of each
security, the weighted average cash flows for each period were discounted back to present value at the
determined discount rate for each security. As of December 31, 2009, cumulative probabilities of principal to be
returned for “AAA” and “Aaa” rated SLARS were estimated at approximately 48% over a two year period and
89% over a five year period. The probabilities were lower for lower rated securities. The discount rates used in
the valuation were a combination of the liquidity risk premium assigned to the security (which ranged from 4%
to 5%) plus the treasury strip yield (zero coupon treasury bond) for the individual period for which a cash flow
was being discounted. The liquidity risk premium on the SLARS has decreased by 100 basis points from
December 31, 2008 due to falling spreads on asset backed securities as well as indications of improved market
liquidity. A 100 basis point change in liquidity risk premium, as well as other factors including default
probability and default recovery rate assumptions, would impact the value of the SLARS by approximately $19
million.
As of December 31, 2009, the Company also held certain investments in primarily short-term debt
securities, including discounted commercial paper, money market funds and fixed rate corporate bonds. Many of
these securities are considered cash equivalents. Prices for these securities are not quoted on active exchanges but
are priced through an independent third party pricing service based on quotations from market-makers in the
specific instruments or, where appropriate, other market inputs including interest rates, benchmark yields,
reported trades, issuer spreads, two sided markets, benchmark securities, bids, offers, and reference data. In
certain instances, amortized cost is considered an appropriate approximation of market value. Other investments
are valued based upon either quoted prices from active exchanges or available third-party broker quotes.
Changes in fair value of investment securities are recorded through the “Other comprehensive income”
(“OCI”) component of equity with the exception of investment partnerships which are recorded through
“Investment income” in the Consolidated Statements of Operations. Regardless of investment type, declines in
the fair value of the investments are reviewed to determine whether they are other than temporary in nature.
Absent any other indications of a decline in value being temporary in nature, the Company’s policy is to treat a
decline in an equity investment’s quoted market price that has lasted for more than six months as an other-than-
temporary decline in value. For equity securities declines in value that are judged to be other than temporary in
nature are recognized in the Consolidated Statements of Operations. For public company equity securities, the
Company’s policy is to treat a decline in the investment’s quoted market value that has lasted for more than six
months as an other than temporary decline in value. For debt securities when the Company intends to sell an
impaired debt security or it is more likely than not it will be required to sell prior to recovery of its amortized
cost basis, an other-than-temporary-impairment (“OTTI”) has occurred. The impairment is recognized in
earnings equal to the entire difference between the debt security’s amortized cost basis and its fair value. When
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