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Derivative Financial Instruments and Hedging
 9 Months Ended
Dec. 31, 2011
Derivative Financial Instruments and Hedging
16. Derivative Financial Instruments and Hedging

Risk management policy

The Company and its subsidiaries manage interest rate risk through asset and liability management systems. The Company and its subsidiaries use derivative financial instruments to hedge interest rate risk and avoid changes in interest rates having a significant adverse effect on the Company’s results of operations. As a result of interest rate changes, the fair value and/or cash flow of interest sensitive assets and liabilities will fluctuate. However, such fluctuation will generally be offset by using derivative financial instruments as hedging instruments. Derivative financial instruments that the Company and its subsidiaries use as part of the interest risk management include interest rate swaps.

The Company and its subsidiaries employ foreign currency borrowings, foreign exchange contracts, and foreign currency swap agreements to hedge risks that are associated with certain transactions and investments denominated in foreign currencies due to the potential for changes in exchange rates. Similarly, in general, overseas subsidiaries structure their liabilities to match the currency-denomination of assets in each region.

By using derivative instruments, the Company and its subsidiaries are exposed to credit risk in the event of nonperformance by counterparties. The Company and its subsidiaries attempt to manage the credit risk by carefully evaluating the content of transactions and the quality of counterparties in advance and regularly monitoring the amount of notional principal, fair value, type of transaction and other factors pertaining to each counterparty.

(a) Cash flow hedges

The Company and its subsidiaries designate interest rate swap agreements, foreign currency swap agreements and foreign exchange contracts as cash flow hedges for variability of cash flows originating from floating rate borrowings and forecasted transactions and for exchange fluctuations.

(b) Fair value hedges

The Company and its subsidiaries use financial instruments designated as fair value hedges to hedge their exposure to interest rate risk and foreign currency exchange risk. The Company and its subsidiaries designate foreign currency swap agreements and foreign exchange contracts to minimize foreign currency exposures on lease receivables, loan receivables and borrowings, denominated in foreign currency. The Company and its subsidiaries designate interest rate swap to hedge interest rate exposure of the fair values of loan receivables. The Company and certain overseas subsidiaries, which issued medium-term notes or bonds with fixed interest rates, use interest rate swap contracts to hedge interest rate exposure of the fair values of these medium-term notes or bonds. In cases where the medium-term notes were denominated in other than the subsidiaries’ local currencies, foreign currency swap agreements are used to hedge foreign exchange rate exposure. A certain overseas subsidiary uses foreign currency long-term-debt to hedge foreign exchange rate exposure from unrecognized firm commitments.

(c) Hedges of net investment in foreign operations

The Company uses foreign exchange contracts and borrowings and bonds denominated in the subsidiaries’ local currencies to hedge the foreign currency exposure of the net investment in overseas subsidiaries.

(d) Trading derivatives or derivatives not designated as hedging instruments

The Company and the subsidiaries engage in trading activities with various future contracts. Therefore, the Company and the subsidiaries are at various risks such as share price fluctuation risk, interest rate risk and foreign currency exchange risk. The Company and the subsidiaries check that these risks are below a certain level by using internal indicators and determine whether such contracts should be continued or not. The Company and the subsidiaries entered into interest rate swap agreements, foreign currency swap agreements and foreign exchange contracts for risk management purposes which are not qualified for hedge accounting under ASC 815 (“Derivatives and Hedging”).

ASC 815-10-50 (“Derivatives and Hedging—Disclosures) requires companies to disclose the fair value of derivative instruments and their gains (losses) in tabular format, as well as information about credit-risk-related contingent features in derivative agreements.

 

The effect of derivative instruments on the consolidated statement of income, pre-tax, for the nine months ended December 31, 2010 is as follows.

(1) Cash flow hedges

 

     Gains (losses)
recognized
in other
comprehensive
income on
derivative
(effective
portion)		    

Gains (losses) reclassified from accumulated other
comprehensive income (loss) into income
(effective portion)

    

Gains (losses) recognized in income on derivative
(ineffective portion and amount

excluded from effectiveness testing)

  
     Millions
of yen		    

                Consolidated statements                 

of income location

    Millions
of yen		    

                Consolidated statements                 
of income location

    Millions
of yen		  

Interest rate swap agreements

    ¥ 387      Interest on loans and investment securities/Interest expense    ¥ (300 )    —      ¥ —     

Foreign exchange contracts

      926      Foreign currency transaction loss      127      —        —     

Foreign currency swap agreements

      (1,577 )    Interest on loans and investment securities/Interest expense/Foreign currency transaction loss      253      —        —     
(2) Fair value hedges             
     Gains (losses) recognized in income on derivative and other    Gains (losses) recognized in income on hedged item  
     Millions
        of yen         		    

                Consolidated statements                 

of income location

    Millions
of yen		    

                Consolidated statements                 

of income location

  

Interest rate swap agreements

    ¥ 2,551      Interest on loans and investment securities/Interest expense    ¥ (2,735 )    Interest on loans and investment securities/Interest expense    

Foreign exchange contracts

      11,816      Foreign currency transaction loss      (11,816 )    Foreign currency transaction loss   

Foreign currency swap agreements

      5,531      Foreign currency transaction loss      (5,531 )    Foreign currency transaction loss   

Foreign currency long-term-debt

      932      Foreign currency transaction loss      (932 )    Foreign currency transaction loss   
(3) Hedges of net investment in foreign operations        
     Gains (losses)
recognized
in other
comprehensive
income on
derivative
and others
(effective
portion)		    

Gains (losses) reclassified from accumulated

other comprehensive income (loss) into income

(effective portion)

    

Gains (losses) recognized in income on derivative

and others (ineffective portion and amount

excluded from effectiveness testing)

  
     Millions
of yen		    

            Consolidated statements             

of income location

    Millions
of yen		    

                Consolidated statements                 
of income location

    Millions
of yen		  

Foreign exchange contracts

    ¥ 6,193      Gains (losses) on sales of subsidiaries and affiliates and liquidation losses, net    ¥   39      —      ¥ —     

Borrowings and bonds in local currency

      5,154      —      —        —        —     

 

(4) Trading derivatives or derivatives not designated as hedging instruments

 

      Gains (losses) recognized in income on derivative
      Millions
of yen		     Consolidated statements of income location

Interest rate swap agreements

    ¥ 30      Other operating revenues / expenses

Foreign currency swap agreements

      (40 )    Other operating revenues / expenses

Futures

      2,289      Brokerage commissions and net gains on investment securities

Foreign exchange contracts

      (4 )    Brokerage commissions and net gains on investment securities

Credit derivatives held/written

      (423 )    Other operating revenues / expenses

Options held/written, Caps held and other

      (51 )    Other operating revenues / expenses

The effect of derivative instruments on the consolidated statement of income, pre-tax, for the nine months ended December 31, 2011 is as follows.

(1) Cash flow hedges

 

      Gains (losses)
recognized
in other
comprehensive
income on
derivative
(effective
portion)		     Gains (losses) reclassified from accumulated
other comprehensive income (loss) into income
(effective portion)		     Gains (losses) recognized in income on derivative
(ineffective portion and amount
excluded from effectiveness testing)		  
      Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		  

Interest rate swap agreements

    ¥ (635 )    Interest on loans and investment
securities / Interest expense		    ¥ (43 )    —      ¥ —     

Foreign exchange contracts

      40      Foreign currency transaction loss      532      —        —     

Foreign currency swap agreements

      685      Interest on loans and investment
securities / Interest expense /
Foreign currency transaction loss		      (946 )    —        —     

(2) Fair value hedges

 

     Gains (losses) recognized in
income on derivative and  other		    Gains (losses) recognized in
income on hedged item
     Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		     Consolidated statements
of income location

Interest rate swap agreements

    ¥ 4,073      Interest on loans and investment
securities / Interest expense		    ¥ (4,324 )    Interest on loans and investment
securities / Interest expense

Foreign exchange contracts

      5,450      Foreign currency transaction
loss		      (5,450 )    Foreign currency transaction
loss

Foreign currency swap agreements

      1,440      Foreign currency transaction
loss		      (1,440 )    Foreign currency transaction
loss

Foreign currency long-term-debt

      (351 )    Foreign currency transaction
loss		      351      Foreign currency transaction
loss

 

(3) Hedges of net investment in foreign operations

 

     Gains (losses)
recognized
in other
comprehensive
income on
derivative
and others
(effective
portion)		      Gains (losses) reclassified from accumulated
  other  comprehensive income (loss) into income  
(effective portion)		      Gains (losses) recognized in income on derivative
and others (ineffective portion and amount
excluded from effectiveness testing)		  
     Millions
of yen		      Consolidated statements
of income location		    Millions
of yen		      Consolidated statements
of income location		    Millions
of yen		  

Foreign exchange contracts

    ¥ 4,770       —      ¥ —         —      ¥ —     

Borrowings and bonds in local currency

      4,087       —        —         —        —     

(4) Trading derivatives or derivatives not designated as hedging instruments

 

     Gains (losses) recognized in income on derivative
     Millions
of yen		     Consolidated statements of income location

Interest rate swap agreements

    ¥ 18      Other operating revenues / expenses

Foreign currency swap agreements

      9      Other operating revenues / expenses

Futures

      (1,076 )    Brokerage commissions and net gains on investment securities

Foreign exchange contracts

      672      Brokerage commissions and net gains on investment securities

Credit derivatives held/written

      17      Other operating revenues / expenses

Options held/written, caps held and other

      65      Other operating revenues / expenses

 

The effect of derivative instruments on the consolidated statement of income, pre-tax, for the three months ended December 31, 2010 is as follows.

(1) Cash flow hedges

 

    Gains (losses)
recognized
in other
comprehensive
income on
derivative
(effective
portion)		     Gains (losses) reclassified from accumulated
other comprehensive income (loss) into income
(effective portion)		     Gains (losses) recognized in income on derivative
(ineffective  portion and amount
excluded from effectiveness testing)		  
    Millions
of yen		     Consolidated statements
of income  location		   Millions
of yen		     Consolidated statements
of income location		   Millions
of yen		  

Interest rate swap agreements

   ¥ 258      Interest on loans and investment
securities/Interest expense		   ¥ (15 )    —     ¥ —     

Foreign exchange contracts

     100      Foreign currency transaction loss     52      —       —     

Foreign currency swap agreements

     (1,468 )    Interest on loans and investment
securities/Interest expense/
Foreign currency transaction loss		     183      —       —     

(2) Fair value hedges

 

     Gains (losses) recognized in income on derivative and  other    Gains (losses) recognized in income on hedged item
     Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		     Consolidated statements
of income location

Interest rate swap agreements

    ¥ (1,642 )    Interest on loans and investment
securities / Interest expense		    ¥ 1,613      Interest on loans and investment
securities / Interest expense

Foreign exchange contracts

      2,952      Foreign currency transaction loss      (2,952 )    Foreign currency transaction loss

Foreign currency swap agreements

      601      Foreign currency transaction loss      (601 )    Foreign currency transaction loss

Foreign currency long-term debt

      932      Foreign currency transaction loss      (932 )    Foreign currency transaction loss

(3) Hedges of net investment in foreign operations

 

     Gains (losses)
recognized
in other
comprehensive
income on
derivative
and others
(effective
portion)		      Gains (losses) reclassified from accumulated
  other  comprehensive income (loss) into income  
(effective portion)		      Gains (losses) recognized in income on derivative
and others (ineffective portion and amount
excluded from effectiveness testing)		  
     Millions
of yen		      Consolidated statements
of income location		    Millions
of yen		      Consolidated statements
of income location		    Millions
of yen		  

Foreign exchange contracts

    ¥ 1,381       —      ¥ —         —      ¥ —     

Borrowings and bonds in local currency

      1,483       —        —         —        —     

 

(4) Trading derivatives or derivatives not designated as hedging instruments

 

     Gains (losses) recognized in income on derivative
      Millions
of yen		     Consolidated statements of income location

Interest rate swap agreements

    ¥ (32 )    Other operating revenues / expenses

Foreign currency swap agreements

      (31 )    Other operating revenues / expenses

Futures

      1,646      Brokerage commissions and net gains on investment securities

Foreign exchange contracts

      (164 )    Brokerage commissions and net gains on investment securities

Credit derivatives held/written

      (507 )    Other operating revenues / expenses

Options held/written, Caps held and other

      52      Other operating revenues / expenses

The effect of derivative instruments on the consolidated statement of income, pre-tax, for the three months ended December 31, 2011 is as follows.

(1) Cash flow hedges

 

      Gains (losses)
recognized
in other
comprehensive
income on
derivative
(effective
portion)		     Gains (losses) reclassified from accumulated
other comprehensive income (loss) into income
(effective portion)		     Gains (losses) recognized in income on derivative
(ineffective portion and amount
excluded from effectiveness testing)		  
      Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		  

Interest rate swap agreements

    ¥ (80 )    Interest on loans and investment
securities / Interest expense		    ¥ (12 )    —      ¥ —     

Foreign exchange contracts

      (71 )    Foreign currency transaction loss      90      —        —     

Foreign currency swap agreements

      (829 )    Interest on loans and investment
securities / Interest expense /
Foreign currency transaction loss		      (173 )    —        —     

(2) Fair value hedges

 

     Gains (losses) recognized  in
income on derivative and other		    Gains (losses) recognized  in
income on hedged item
     Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		     Consolidated statements
of income location

Interest rate swap agreements

    ¥ 399      Interest on loans and investment
securities / Interest expense		    ¥ (458 )    Interest on loans and investment
securities / Interest expense

Foreign exchange contracts

      (1,683 )    Foreign currency transaction
loss		      1,683      Foreign currency transaction
loss

Foreign currency swap agreements

      (1,903 )    Foreign currency transaction
loss		      1,903      Foreign currency transaction
loss

Foreign currency long-term debt

      596      Foreign currency transaction
loss		      (596 )    Foreign currency transaction
loss

 

(3) Hedges of net investment in foreign operations

 

     Gains (losses)
recognized
in other
comprehensive
income on
derivative
and others
(effective
portion)		     Gains (losses) reclassified from accumulated
  other  comprehensive income (loss) into income  
(effective portion)		      Gains (losses) recognized in income on derivative
and others (ineffective portion and amount
excluded from effectiveness testing)		  
     Millions
of yen		     Consolidated statements
of income location		    Millions
of yen		      Consolidated statements
of income location		    Millions
of yen		  

Foreign exchange
contracts

    ¥ (900 )    —      ¥ —         —      ¥ —     

Borrowings and
bonds in local
currency

      (1,014 )    —        —         —        —     

(4) Trading derivatives or derivatives not designated as hedging instruments

 

     Gains (losses) recognized in income on derivative
     Millions
of yen		     Consolidated statements of income location

Interest rate swap agreements

    ¥ 6      Other operating revenues / expenses

Foreign currency swap agreements

      15      Other operating revenues / expenses

Futures

      (707 )    Brokerage commissions and net gains on investment securities

Foreign exchange contracts

      (90 )    Brokerage commissions and net gains on investment securities

Credit derivatives held/written

      20      Other operating revenues / expenses

Options held/written, caps held and other

      119      Other operating revenues / expenses

Notional amounts of derivative instruments and other, fair values of derivative instruments in consolidated balance sheets at March 31, 2011 and December 31, 2011 are as follows.

March 31, 2011

 

            Asset derivatives    Liability derivatives
     Notional
amount		      Fair value     

Consolidated balance sheets
location

    Fair value     

Consolidated balance sheets
location
     Millions
of yen		      Millions
of yen		           Millions
of yen		       

Derivatives and other designated as hedging instruments

  

   

Interest rate swap agreements

    ¥ 276,132       ¥ 2,070       Other receivables    ¥ 1,273       Trade notes, accounts payable and other liabilities

Futures, foreign exchange contracts

      163,342         1,075       Other receivables      3,509       Trade notes, accounts payable and other liabilities

Foreign currency swap agreements

      179,429         13,072       Other receivables      31,830       Trade notes, accounts payable and other liabilities

Foreign currency long-term debt

      116,695         —         —      —         —

Trading derivatives or derivatives not designated as hedging instruments

  

   

 

 

            Asset derivatives    Liability derivatives
     Notional
amount		      Fair value     

Consolidated balance sheets
location

    Fair value     

Consolidated balance sheets
location
     Millions
of yen		      Millions
of yen		           Millions
of yen		       

Interest rate swap agreements

    ¥ 3,129       ¥ —        —    ¥ 47       Trade notes, accounts payable
and other liabilities

Options held/written, Caps held and other

      124,034         3,467       Other receivables      2,071       Trade notes, accounts payable
and other liabilities

Futures, foreign exchange contracts

      227,640         1,558       Other receivables      1,459       Trade notes, accounts payable
and other liabilities

Foreign currency swap agreements

      10,073         1,694       Other receivables      1,651       Trade notes, accounts payable
and other liabilities

Credit derivatives held/written

      36,027         49       Other receivables      236       Trade notes, accounts payable
and other liabilities

December 31, 2011

 

            Asset derivatives    Liability derivatives
     Notional
amount		      Fair value     

Consolidated balance sheets
location

    Fair value     

Consolidated balance sheets
location
     Millions
of yen		      Millions
of yen		           Millions
of yen		       

Derivatives and other designated as hedging instruments

   

         

Interest rate swap agreements

    ¥ 235,398       ¥ 4,625       Other receivables    ¥ 1,404       Trade notes, accounts payable and other liabilities

Futures, foreign exchange contracts

      144,864         1,509       Other receivables      1,180       Trade notes, accounts payable and other liabilities

Foreign currency swap agreements

      90,323         8,671       Other receivables      3,687       Trade notes, accounts payable and other liabilities

Foreign currency long-term-debt

      96,221         —         —        —         —  

Trading derivatives or derivatives not designated as hedging instruments

  

   

Interest rate swap agreements

    ¥ 1,338       ¥ —         —      ¥ 29       Trade notes, accounts payable and other liabilities

Options held/written, Caps held and other

      113,160         4,101       Other receivables      2,678       Trade notes, accounts payable and other liabilities

Futures, foreign exchange contracts

      206,075         598       Other receivables      613       Trade notes, accounts payable and other liabilities

Credit derivatives held

      5,829         162       Other receivables      4       Trade notes, accounts payable and other liabilities

Certain of the Company’s derivative instruments contain provisions that require the Company to maintain an investment grade credit rating from each of the major credit rating agencies.

If the Company’s credit rating were to fall below investment grade, it would be in violation of these provisions, and the counterparties to the derivative instruments could request immediate payment on derivative instruments that are in net liability positions.

There are no derivative instruments with credit-risk-related contingent features that are in a liability position as of December 31, 2011.

 

ASC 815-10-50 (“Derivatives and Hedging—Disclosures”) requires sellers of credit derivatives to disclose additional information about credit-risk-related potential payment risk.

The Company and its subsidiaries have contracted credit derivatives for the purpose of trading. Details of credit derivatives written are as follows as of March 31, 2011. There are no credit derivatives written as of December 31, 2011.

March 31, 2011

 

Types of derivatives

   

The events or

circumstances that

would require the seller

to perform under

the credit derivative

    Maximum potential
amount of future
payment under
the credit derivative		      Approximate remaining term
of the credit derivative		    Fair value of
the credit derivative		  
          Millions of yen           Millions of yen  

Credit default swap

   

In case of credit event

(bankruptcy, failure to pay,

restructuring) occurring in

underlying reference

company *1

    ¥ 7,000       Less than one year    ¥ 48   

Total return swap

   

In case of underlying
reference CMBS price
falling beyond certain

extent *2

      28,606       Less than one year      (236 ) 

 

*1 Underlying reference company’s credit ratings are BBB+ or better rated by rating agencies as of March 31, 2011.
*2 Underlying reference CMBS is highest grade tranche and its credit rating is BBB or better rated by rating agencies as of March 31, 2011. Unless such highest grade tranche of CMBS incurs a loss, the Company and its subsidiaries will not suffer a loss.