Financial Instruments, Derivatives and Hedging Activities

9 Months Ended

Sep. 30, 2019

Financial Instruments, Derivatives and Hedging Activities

Financial Instruments, Derivatives and Hedging Activities

6. Financial Instruments, Derivatives and Hedging Activities

The Company is exposed to market risk stemming from changes in commodity prices (primarily corn and natural gas), foreign currency exchange rates and interest rates. In the normal course of business, the Company actively manages its exposure to these market risks by entering into various hedging transactions, authorized under established policies that place controls on these activities. These transactions utilize exchange-traded derivatives or over-the-counter derivatives with investment-grade counterparties. Derivative financial instruments currently used by the Company consist of commodity-related futures, options and swap contracts, foreign currency-related forward contracts and interest rate swaps.

Commodity price hedging: The Company’s principal use of derivative financial instruments is to manage commodity price risk relating to anticipated purchases of corn and natural gas to be used in the manufacturing process, generally over the next 12 to 24 months. The Company maintains a commodity-price risk management strategy that uses derivative instruments to minimize significant, unanticipated earnings fluctuations caused by commodity-price volatility.

For example, the manufacturing of the Company’s products requires a significant volume of corn and natural gas. Price fluctuations in corn and natural gas cause the actual purchase price of corn and natural gas to differ from anticipated prices.

To manage price risk related to corn purchases, the Company uses corn futures and option contracts that trade on regulated commodity exchanges to lock-in corn costs associated with fixed-priced customer sales contracts. The Company uses over-the-counter natural gas swaps to hedge a portion of its natural gas usage. These derivative financial instruments limit the impact that volatility resulting from fluctuations in market prices will have on corn and natural gas purchases. The majority of corn derivatives have been designated as cash flow hedging instruments. The Company also enters into futures contracts to hedge price risk associated with fluctuations in the market price of ethanol and soybean oil. The Company’s natural gas, ethanol and soybean oil derivatives have been designated as cash flow hedging instruments.

The Company enters into certain corn derivative instruments that are not designated as hedging instruments as defined by ASC 815, Derivatives and Hedging. Therefore, the realized and unrealized gains and losses from these instruments are recognized in cost of sales during each accounting period. These derivative instruments also mitigate commodity price risk related to anticipated purchases of corn.

For commodity hedges designated as cash flow hedges, unrealized gains and losses associated with marking the commodity hedging contracts to market (fair value) are recorded as a component of other comprehensive income (“OCI”) and included in the equity section of the Condensed Consolidated Balance Sheets as part of accumulated other comprehensive income/loss (“AOCI”). These amounts are subsequently reclassified into earnings in the same line item affected by the hedged transaction and in the same period or periods during which the hedged transaction affects earnings, or in the month a hedge is determined to be ineffective. The Company assesses the effectiveness of a commodity hedge contract based on changes in the contract’s fair value. The changes in the market value of such contracts have historically been, and are expected to continue to be, highly effective at offsetting changes in the price of the hedged items. Gains and losses from cash flow hedging instruments reclassified from AOCI to earnings are reported as Cash provided by operating activities on the Condensed Consolidated Statements of Cash Flows.

As of September 30, 2019, AOCI included $17 million of net losses (net of income tax benefit of $6 million), pertaining to commodities-related derivative instruments designated as cash flow hedges. As of December 31, 2018, AOCI included $2 million of net losses (net of income tax benefit of $2 million), pertaining to commodities-related derivative instruments designated as cash flow hedges.

Interest rate hedging: The Company assesses its exposure to variability in interest rates by identifying and monitoring changes in interest rates that may adversely impact future cash flows and the fair value of existing debt instruments, and by evaluating hedging opportunities. The Company maintains risk management control systems to monitor interest rate risk attributable to both the Company’s outstanding and forecasted debt obligations as well as the Company’s offsetting hedge positions. The risk management control systems involve the use of analytical techniques, including sensitivity analysis, to estimate the expected impact of changes in interest rates on future cash flows and the fair value of the Company’s outstanding and forecasted debt instruments. Derivative financial instruments that have been used by the Company to manage its interest rate risk consist of interest rate swaps and Treasury lock agreements (“T-Locks”).

The Company has an interest rate swap agreement that effectively converts the interest rates on $200 million of its $400 million of 4.625% senior notes due November 1, 2020, to variable rates. This swap agreement calls for the Company to receive interest at the fixed coupon rate of the respective notes and to pay interest at a variable rate based on the six-month U.S. dollar London Interbank Offered Rate (“LIBOR”) plus a spread. The Company has designated this interest rate swap agreement as a hedge of the changes in fair value of the underlying debt obligations attributable to changes in interest rates and accounts for it as a fair value hedging instrument. The change in fair value of an interest rate swap designated as a hedging instrument that effectively offsets the variability in the fair value of outstanding debt obligations is reported in earnings. This amount offsets the gain or loss (the change in fair value) of the hedged debt instrument that is attributable to changes in interest rates (the hedged risk), which is also recognized in earnings. The fair value of the interest rate swap agreement as of September 30, 2019 was a $2 million gain, and is reflected in the Condensed Consolidated Balance Sheets within Other assets, with an offsetting amount recorded in Long-term debt to adjust the carrying amount of the hedged debt obligations. As of December 31, 2018, the fair value of the interest rate swap agreement was a $1 million loss, and is reflected in the Condensed Consolidated Balance Sheets within Non-current liabilities, with an offsetting amount recorded in Long-term debt to adjust the carrying amount of hedged debt obligations.

The Company periodically enters into T-Locks to hedge its exposure to interest rate changes. The T-Locks are designated as hedges of the variability in cash flows associated with future interest payments caused by market fluctuations in the benchmark interest rate until the fixed interest rate is established, and are accounted for as cash flow hedges. Accordingly, changes in the fair value of the T-Locks are recorded to AOCI until the consummation of the underlying debt offering, at which time any realized gain (loss) is amortized to earnings over the life of the debt. The Company did not have any T-Locks outstanding as of September 30, 2019 or December 31, 2018. As of September 30, 2019, AOCI included $1 million of net losses (net of income tax benefit of $1 million) related to settled T-Locks. As of December 31, 2018, AOCI included $2 million of net losses (net of income tax benefit of $1 million) related to settled T-Locks. These deferred losses are being amortized to Financing costs, net over the terms of the senior notes with which they are associated.

Foreign currency hedging: Due to its global operations, including operations in many emerging markets, the Company is exposed to fluctuations in foreign currency exchange rates. As a result, the Company has exposure to translational foreign-exchange risk when the results of its foreign operations are translated to U.S. dollars and to transactional foreign-exchange risk when transactions not denominated in the functional currency are revalued. The Company primarily uses derivative financial instruments such as foreign currency forward contracts, swaps and options to manage its transactional foreign-exchange risk. The Company enters into foreign currency derivative instruments that are designated as both cash flow hedging instruments as well as instruments not designated as hedging instruments as defined by ASC 815, Derivatives and Hedging, in order to mitigate transactional foreign-exchange risk.

Gains and losses from derivative financial instruments not designated as hedging instruments are marked to market in earnings during each accounting period. The notional value of the Company’s foreign currency derivatives not designated as hedging instruments included forward sales contracts of $599 million and $621 million as well as forward purchase contracts with notional value of $182 million and $165 million as of September 30, 2019 and December 31, 2018, respectively.

The Company’s foreign currency derivatives designated as cash flow hedging instruments include $3 million of net gains (net of income tax expense of $1 million) in AOCI as of September 30, 2019. The amount included in AOCI related to these hedges at December 31, 2018 was not significant. The notional volume of the Company’s foreign currency cash flow hedging instruments included forward sales contracts of $426 million and $345 million as well as forward purchase contracts of $593 million and $275 million as of September 30, 2019 and December 31, 2018, respectively.

The fair value and balance sheet location of the Company’s derivative instruments, presented gross in the Condensed Consolidated Balance Sheets, are reflected below:

	Fair Value of Hedging Instruments as of September 30, 2019
	Designated Hedging Instruments (in millions)								Non-Designated Hedging Instruments (in millions)
Balance Sheet Location		Commodity Contracts		Foreign Currency Contracts		Interest Rate Contracts	Total			Commodity Contracts		Foreign Currency Contracts		Interest Rate Contracts	Total
Accounts receivable, net	$	8	$	6	$	—	$	14	$	2	$	10	$	—	$	12
Other assets		—		6		2		8		—		1		—		1
Assets		8		12		2		22		2		11		—		13
Accounts payable and accrued liabilities		17		3		—		20		1		3		—		4
Non-current liabilities		5		5		—		10		—		3		—		3
Liabilities		22		8		—		30		1		6		—		7
Net (Liabilities)/Assets	$	(14)	$	4	$	2	$	(8)	$	1	$	5	$	—	$	6

	Fair Value of Hedging Instruments as of December 31, 2018
	Designated Hedging Instruments (in millions)								Non-Designated Hedging Instruments (in millions)
Balance Sheet Location		Commodity Contracts		Foreign Currency Contracts		Interest Rate Contracts	Total			Commodity Contracts		Foreign Currency Contracts		Interest Rate Contracts	Total
Accounts receivable, net	$	5	$	1	$	—	$	6	$	—	$	16	$	—	$	16
Other assets		1		—		—		1		—		1		—		1
Assets		6		1		—		7		—		17		—		17
Accounts payable and accrued liabilities		6		—		—		6		3		9		—		12
Non-current liabilities		3		—		1		4		—		4		—		4
Liabilities		9		—		1		10		3		13		—		16
Net (Liabilities)/Assets	$	(3)	$	1	$	(1)	$	(3)	$	(3)	$	4	$	—	$	1

As of September 30, 2019, the Company had outstanding futures and option contracts that hedged the forecasted purchase of approximately 47 million bushels of corn. The Company is unable to directly hedge price risk related to coproduct sales; however, it occasionally enters into hedges of soybean oil (a competing product to corn oil) in order to mitigate the price risk of corn oil sales. As of September 30, 2019, the Company had no outstanding soybean oil futures contracts. The Company had outstanding swap and option contracts that hedged the forecasted purchase of approximately 30 million mmbtu’s of natural gas at September 30, 2019. Additionally, as of September 30, 2019 the Company had outstanding ethanol futures contracts hedging approximately 8 million gallons of ethanol.

Additional information pertaining to the Company’s fair value hedges is presented below:

Line item in the statement of financial position in which the hedged item is included (in millions)	Carrying Amount of the Hedged Assets/(Liabilities)				Cumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount of Hedged Assets/(Liabilities)
Balance sheet date as of	September 30, 2019		December 31, 2018		September 30, 2019		December 31, 2018
Interest Rate Contracts:
Long-Term Debt	$	(202)	$	(199)	$	(2)	$	1

Additional information relating to the Company’s derivative instruments is presented below:

					Location of Gains
	Amount of Gains (Losses)				(Losses)	Amount of Gains (Losses)
Derivatives in Cash-Flow	Recognized in OCI				Reclassified from	Reclassified from AOCI into Income
Hedging Relationships	Three Months Ended September 30,				AOCI	Three Months Ended September 30,
(in millions, pre-tax)	2019		2018		into Income	2019		2018
Commodity contracts	$	(20)	$	(5)	Cost of sales	$	2	$	(2)
Foreign currency contracts		3		3	Net sales/Cost of sales		1		—
Interest rate contracts		—		—	Financing costs, net		—		—
Total	$	(17)	$	(2)		$	3	$	(2)

					Location of Gains
	Amount of Gains (Losses)				(Losses)	Amount of Gains (Losses)
Derivatives in Cash-Flow	Recognized in OCI				Reclassified from	Reclassified from AOCI into Income
Hedging Relationships	Nine Months Ended September 30,				AOCI	Nine Months Ended September 30,
(in millions, pre-tax)	2019		2018		into Income	2019		2018
Commodity contracts	$	(20)	$	(2)	Cost of sales	$	(1)	$	(5)
Foreign currency contracts		4		1	Net sales/Cost of sales		(1)		1
Interest rate contracts		—		—	Financing costs, net		(1)		(1)
Total	$	(16)	$	(1)		$	(3)	$	(5)

	For the Three Months Ended September 30, 2019						For the Three Months Ended September 30, 2018
Location and Amount of Gains (Losses) Recognized in Income on Fair Value and Cash Flow Hedging Relationships (in millions, pre-tax)	Net sales before shipping and handling costs			Cost of Sales		Financing costs, net	Net sales before shipping and handling costs			Cost of Sales		Financing costs, net
Income (expense) reported in earnings	$	1,574	$	(1,113)	$	(24)	$	1,563	$	(1,116)	$	(24)
Fair value hedging relationships:
Interest Rate Contracts:
Hedged Items	$	—	$	—	$	—	$	—	$	—	$	1
Derivatives designated as hedging instruments		—		—		—		—		—		(1)
Cash flow hedging relationships:
Commodity Contracts:
Gains (losses) reclassified from other comprehensive income into earnings	$	—	$	2	$	—	$	—	$	(2)	$	—
Foreign Exchange Contracts:
Gains reclassified from other comprehensive income into earnings		1		—		—		—		—		—
Interest Rate Contracts:
Gains (losses) reclassified from other comprehensive income into earnings		—		—		—		—		—		—

	For the Nine Months Ended September 30, 2019						For the Nine Months Ended September 30, 2018
Location and Amount of Gains (Losses) Recognized in Income on Fair Value and Cash Flow Hedging Relationships (in millions, pre-tax)	Net sales before shipping and handling costs			Cost of Sales		Financing costs, net	Net sales before shipping and handling costs			Cost of Sales		Financing costs, net
Income (expense) reported in earnings	$	4,660	$	(3,322)	$	(62)	$	4,752	$	(3,367)	$	(65)
Fair value hedging relationships:
Interest Rate Contracts:
Hedged Items	$	—	$	—	$	(3)	$	—	$	—	$	4
Derivatives designated as hedging instruments		—		—		3		—		—		(4)
Cash flow hedging relationships:
Commodity Contracts:
Losses reclassified from other comprehensive income into earnings	$	—	$	(1)	$	—	$	—	$	(5)	$	—
Foreign Exchange Contracts:
(Losses) gains reclassified from other comprehensive income into earnings		(2)		1		—		2		(1)		—
Interest Rate Contracts:
Losses reclassified from other comprehensive income into earnings		—		—		(1)		—		—		(1)

As of September 30, 2019, AOCI included $14 million of net losses (net of $5 million of income tax benefit) on commodities-related derivative instruments designated as cash-flow hedges that are expected to be reclassified into earnings during the next 12 months. Transactions and events expected to occur over the next 12 months that will necessitate reclassifying these derivative losses to earnings include the sale of finished goods inventory, which includes previously hedged purchases of corn and natural gas. The Company expects the losses to be offset by changes in the underlying commodities costs. Additionally, as of September 30, 2019, AOCI included $1 million of net losses (net of an insignificant amount of income tax benefit) on settled T-Locks and $3 million of net gains (net of $1 million of income tax expense) related to foreign currency hedges which are expected to be reclassified into earnings during the next 12 months.

Presented below are the fair values of the Company’s financial instruments and derivatives for the periods presented:

	As of September 30, 2019								As of December 31, 2018
(in millions)	Total		Level 1 (a)		Level 2 (b)		Level 3 (c)		Total		Level 1 (a)		Level 2 (b)		Level 3 (c)
Available for sale securities	$	13	$	13	$	—	$	—	$	11	$	11	$	—	$	—
Derivative assets		35		9		26		—		24		4		20		—
Derivative liabilities		37		10		27		—		26		6		20		—
Long-term debt		1,986		—		1,986		—		1,954		—		1,954		—

(a) Level 1 inputs consist of quoted prices (unadjusted) in active markets for identical assets or liabilities.

(b) Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument. Level 2 inputs are based on quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability or can be derived principally from or corroborated by observable market data.  

(c) Level 3 inputs are unobservable inputs for the asset or liability. Unobservable inputs shall be used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at the measurement date.

The carrying values of cash equivalents, short-term investments, accounts receivable, accounts payable and short-term borrowings approximate fair values. Commodity futures, options and swap contracts are recognized at fair value. Foreign currency forward contracts, swaps and options are also recognized at fair value. The fair value of the Company’s Long-term debt is estimated based on quotations of major securities dealers who are market makers in the securities. As of September 30, 2019, the carrying value and fair value of the Company’s Long-term debt was $2.0 billion.