VMware 2012 Annual Report Download - page 63

Table of Contents
Foreign Exchange Risk
We operate in foreign countries, which expose us to market risk associated with foreign currency exchange rate fluctuations between the
U.S. Dollar and various foreign currencies, the most significant of which is the Euro.
International revenues as a percentage of total revenues were 51.6% , 51.6% and 49.2% in 2012 , 2011 and 2010 , respectively. We invoice
and collect in the Euro, the British Pound, the Japanese Yen and the Australian Dollar in their respective regions. Additionally, a portion of our
operating expenses, primarily the cost of personnel to deliver technical support on our products and professional services, sales and sales support
and research and development, are denominated in foreign currencies, primarily those currencies in which we also invoice and collect. Revenues
resulting from selling in local currencies and costs incurred in local currencies are exposed to foreign exchange rate fluctuations which can affect
our operating income. As exchange rates vary, operating margins may differ materially from expectations. We calculate the foreign currency
impact on our revenues and operating expenses as the difference between amounts translated at current exchange rates and the same amounts
translated at prior-period exchange rates.
License revenues were negatively impacted by $27.6 million in 2012 and benefited by $24.7 million in 2011 due to fluctuations in the
exchange rates between the U.S. Dollar and foreign currencies as compared with the same periods in the prior year. Given that we began to
invoice and collect in currencies other than the U.S. Dollar during the second quarter of 2009, we are not able to calculate a full year-over-year
impact of foreign currency fluctuations on our revenues for 2010. Additionally, core operating expenses benefited by $53.6 million in 2012 and
were negatively impacted by $48.2 million and $4.1 million in 2011 and 2010 , respectively, due to fluctuations in the exchange rates.
To manage the risk associated with fluctuations in foreign currency exchange rates, we utilize derivative financial instruments, principally
foreign currency forward contracts, as described below.
Cash Flow Hedging Activities. To mitigate our exposure to foreign currency fluctuations resulting from operating expenses denominated in
certain foreign currencies, we entered into foreign currency forward contracts starting in the fourth quarter of 2011. We typically enter into cash
flow hedges semi-annually with maturities of six months or less. As of December 31, 2012 and 2011
, we had foreign currency forward contracts
to purchase approximately $9.3 million and $47.1 million , respectively, in foreign currency. The fair value of these forward contracts was
immaterial as of December 31, 2012 and 2011 .
Balance Sheet Hedging Activities. We enter into foreign currency forward contracts to hedge a portion of our net outstanding monetary
assets and liabilities against movements in certain foreign exchange rates. Our foreign currency forward contracts are traded on a monthly basis
with a typical contractual term of one month. As of December 31, 2012 and 2011 , we had outstanding forward contracts with a total notional
value of $439.8 million and $324.1 million , respectively. The fair value of these forward contracts was immaterial as of December 31, 2012 and
2011 .
Sensitivity Analysis.
There can be no assurance that our hedging activities will adequately protect us against the risks associated with foreign
currency fluctuations. A hypothetical adverse foreign currency exchange rate movement of 10% would have resulted in a potential loss of $40.8
million in fair value of our foreign currency forward contracts used in both the cash flow hedging and balance sheet hedging activities as of
December 31, 2012 . This sensitivity analysis disregards any potentially offsetting gain that may be associated with the underlying foreign-
currency denominated assets and liabilities that we hedge.
This analysis also assumes a parallel adverse shift of all foreign currency exchange rates against the U.S. Dollar; however, foreign currency
exchange rates do not always move in such a manner and actual results may differ materially. We do not enter into speculative foreign exchange
contracts for trading purposes. See Note F to the consolidated financial statements for further information.
Interest Rate Risk
Fixed Income Securities
Our fixed income investment portfolio is denominated in U.S. Dollars and consists of various holdings, types, and maturities.
Our primary objective for holding fixed income securities is to achieve an appropriate investment return consistent with preserving principal
and managing risk. At any time, a sharp rise in interest rates or credit spreads could have a material adverse impact on the fair value of our fixed
income investment portfolio. Hypothetical changes in interest rates of 50 basis points and 100 basis points would have changed the fair value of
our fixed income investment portfolio as of December 31, 2012 by $21.5 million and $42.9 million , respectively. This sensitivity analysis
assumes a parallel shift of all interest rates; however, interest rates do not always move in such a manner and actual results may differ materially.
We monitor our interest rate and credit risk, including our credit exposures to specific rating categories and to individual issuers. There were no
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ITEM 7A.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK