Telstra 2014 Annual Report Download - page 89

NOTES TO THE
FINANCIAL STATEMENTS
(Continued)
Financial Report
Telstra Corporation Limited and controlled entities
Telstra Annual Report 87
2.22 Derivative financial instruments (continued)
(b) Cash flow hedges
We use cash flow hedges to mitigate the risk of variability of future
cash flows attributable to foreign currency fluctuations over the
hedging period associated with our foreign currency borrowings
and our ongoing business activities, predominantly where we have
highly probable purchase or settlement commitments in foreign
currencies. We also use cash flow hedges to hedge variability in
cash flows due to interest rate movements associated with some
of our domestic borrowings.
Where a cash flow hedge qualifies for hedge accounting, the
effective portion of gains or losses on remeasuring the fair value of
the hedging instrument is recognised directly in other
comprehensive income in the cash flow hedging reserve until such
time as the hedged item affects profit or loss, and then the gains
or losses are transferred to the income statement. However, in our
hedges of forecast transactions, when the forecast transaction
that is hedged results in the recognition of a non-financial asset
(for example, property, plant and equipment), the gains and losses
previously deferred in other comprehensive income are
transferred from other comprehensive income and included in the
measurement of the initial cost or carrying amount of the asset.
Gains or losses on any portion of the hedge determined to be
ineffective are recognised immediately in the income statement.
The application of hedge accounting will create volatility in equity
reserve balances.
When a hedging instrument expires or is sold or terminated, or
when a hedge no longer meets the criteria for hedge accounting,
any cumulative gains or losses existing in other comprehensive
income at that time remain in other comprehensive income and
are recognised when the hedged item is ultimately recognised in
the income statement.
If a forecast hedged transaction is no longer expected to occur, the
cumulative gains or losses on the hedging instrument that were
reported in other comprehensive income are transferred
immediately to the income statement.
(c) Hedges of a net investment in a foreign operation
Our investments in foreign operations are exposed to foreign
currency risk, which arises when we translate the net assets of our
foreign investments from their functional currency to Australian
dollars. We hedge our net investments to mitigate exposure to this
risk by using forward foreign currency contracts, cross currency
swaps and/or borrowings in the relevant currency of the
investment.
Gains and losses on remeasurement of our derivative instruments
designated as hedges of foreign investments are recognised in the
foreign currency translation reserve in equity to the extent that
they are considered to be effective.
The cumulative amount of the recognised gains or losses included
in equity is transferred to the income statement when the foreign
operation is sold.
(d) Derivatives and borrowings that are de-designated from
fair value hedge relationships or not in a designated
hedging relationship
Derivatives associated with borrowings de-designated from fair
value hedge relationships or not in a designated hedge
relationship for hedge accounting purposes are classified as “held
for trading”.
For borrowings de-designated from fair value hedge relationships,
from the date of de-designation the derivatives continue to be
recognised at fair value and the borrowings are accounted for on
an amortised cost basis consistent with a revised effective
interest rate as at the de-designation date. The gains or losses on
both the borrowings and derivatives are included within finance
costs on the basis that the net result primarily reflects the impact
of movements in interest rates and the discounting impact of
future cash flows on the derivatives. The cumulative gains or
losses previously recognised from the remeasurement of these
borrowings as at the date of de-designation are unwound and
amortised to the income statement over the remaining life of the
borrowing. This amortisation expense is also included within
finance costs.
For borrowings not in designated hedge relationships for hedge
accounting purposes, the derivatives are recognised at fair value
and the borrowings are accounted for on an amortised cost basis.
The gains or losses on both the borrowings and derivatives are
included within finance costs on the basis that the net result
primarily reflects the impact of movements in interest rates and
the discounting impact of future cash flows on the derivatives.
Any gains or losses on remeasuring to fair value forward exchange
contracts that are not in a designated hedging relationship are
recognised directly in the income statement in the period in which
they occur within other expenses or other income.
(e) Embedded derivatives
Derivatives embedded in other financial instruments or other host
contracts are treated as separate derivatives when their risks and
characteristics are not closely related to those of the host
contracts and the host contracts are not measured at fair value
through profit or loss.
2.23 Contingent liabilities
A contingent liability is a liability of sufficient uncertainty that it
does not qualify for recognition as a liability, or a liability whose
existence will be confirmed only by the occurrence or non-
occurrence of one or more uncertain future events not wholly
within the control of Telstra. In addition, the term contingent
liability is used for liabilities that do not meet the recognition
criteria.
We first determine whether an obligation should be recorded as a
liability or a contingent liability. This requires management to
assess the probability that Telstra will be required to make
payment as well as an estimate of that payment.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES, ESTIMATES, ASSUMPTIONS AND JUDGEMENTS
(CONTINUED)