NOTE 20 FAIR VALUE MEASUREMENTS

(a) Fair Value Hierarchy

Under ASC 820, Fair Value Measurements and Disclosures, fair value measurements are characterized in one of three levels based upon the input used to arrive at the measurement. The three levels of the fair value hierarchy are as follows:

Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access at the measurement date.

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.

Level 3 inputs are unobservable inputs for the asset or liability.

When appropriate, valuations are adjusted for various factors including credit considerations. Such adjustments are generally based on available market evidence. In the absence of such evidence, management’s best estimate is used.

(b) Fair Value of Financial Instruments

The carrying value of cash and cash equivalents, accounts receivable and other, accounts payable and accrued liabilities, accounts payable to affiliates, accrued interest and short-term debt are classified as Level 1 in fair value hierarchy. Accordingly, the carrying values approximate their fair values because of the short maturity or duration of these instruments, or because the instruments bear a variable rate of interest or a rate that approximates current rates. The fair value of the Partnership’s long‑term debt is estimated by discounting the future cash flows of each instrument at estimated current borrowing rates. The fair value of interest rate derivatives is calculated using the income approach which uses period‑end market rates and applies a discounted cash flow valuation model.

The Partnership has classified the fair value of natural gas imbalances as a Level 2 of the fair value hierarchy for fair value disclosure purposes, as the valuation approach includes quoted prices in the market index and observable volumes for the imbalance.

Long‑term debt is recorded at amortized cost and classified as a Level 2 of the fair value hierarchy for fair value disclosure purposes. Interest rate derivative assets and liabilities are classified as a Level 2 for all periods presented where the fair value is determined by using valuation techniques that refer to observable market data or estimated market prices. The estimated fair value of the Partnership's debt as at December 31, 2018 and December 31, 2017 was $2,101 million and $2,475 million, respectively.

Market risk is the risk that changes in market interest rates may result in fluctuations in the fair values or cash flows of financial instruments. The Partnership’s floating rate debt is subject to LIBOR benchmark interest rate risk. The Partnership uses interest rate derivatives to manage its exposure to interest rate risk. We regularly assess the impact of interest rate fluctuations on future cash flows and evaluate hedging opportunities to mitigate our interest rate risk.

The Partnership’s interest rate swaps are structured such that the cash flows of the derivative instruments match those of the variable rate of interest on the 2013 Term Loan Facility. From January 1 to June 30, 2018, the Partnership hedged interest payments on the variable-rate 2013 Term Loan Facility with interest rate swaps at a weighted average fixed interest rate of 2.31 percent. Beginning July 1, 2018 and until its October 2, 2022 maturity, the 2013 Term Loan Facility was hedged using forward starting interest rate swaps at an average rate of 3.26 percent.

At December 31, 2018, the fair value of the interest rate swaps accounted for as cash flow hedges was an asset of $8 million (on both gross and net basis). At December 31, 2017, the fair value of the interest rate swaps accounted for as cash flow hedges was an asset of $5 million (on both gross and net basis). The change in fair value of interest rate derivative instruments recognized in other comprehensive income was a loss of $2 million for the year ended December 31, 2018 (2017 – gain of $5 million and 2016 – gain of $3 million). During the year ended December 31, 2018, the amount reclassified from other comprehensive income to net income was a gain of $5 million (2017 – nil and 2016 – loss of $2 million). In 2018, the net realized gain related to the interest rate swaps was $2 million, and was included in financial charges and other (2017 – nil, 2016 – gain of $3 million). Refer to Note 13 -- Financial Charges and Other.

The Partnership has no master netting agreements; however, its contracts contain provisions with rights of offset. The Partnership has elected to present the fair value of derivative instruments with the right to offset on a gross basis in the balance sheet. Had the Partnership elected to present these instruments on a net basis, there would be no effect on the consolidated balance sheet as of December 31, 2018 and 2017.

In anticipation of a debt refinancing in 2003, PNGTS entered into forward interest rate swap agreements to hedge the interest rate on its 5.90 % Senior Secured Notes due in 2018. These interest rate swaps were used to manage the impact of interest rate fluctuations and qualified as derivative financial instruments in accordance with ASC 815, Derivatives and Hedging. PNGTS settled its position with a payment of $20.9 million to counterparties at the time of the refinancing and recorded the realized loss in AOCI as of the termination date. At December 31, 2018, and as a result of the repayment of the 5.90% Senior Secured Notes, the remaining balance of the $20.9 million realized loss in AOCI included in other comprehensive income at the termination date was fully amortized against earnings. For the years ended December 31, 2018, 2017 and 2016, our 61.71 percent proportionate share of the amortization of realized loss on derivative instruments was $1 million for each year.

Our maximum counterparty credit exposure with respect to financial instruments at the balance sheet date consists primarily of the carrying amount, which approximates fair value, of non‑derivative financial assets, such as cash and cash equivalents and receivables, as well as the fair value of derivative financial assets. We review our accounts receivable regularly and record allowances for doubtful accounts using the specific identification method. At December 31, 2018, we had not incurred any significant credit losses and had no significant amounts past due or impaired. At December 31, 2018, we had a credit risk concentration on one of our customers and the amount owed is approximately 10 percent of our trade accounts receivable and consolidated revenues (refer also to Note 17 for more details).

The estimated fair value measurements on Tuscarora’s goodwill, Bison’s long-lived assets and our equity investment in Great Lakes, are classified as Level 3. In the determination of fair value utilized in the recoverability assessments for the respective assets, we used internal forecasts on expected future cash flows and applied appropriate discount rates. The determination of expected future cash flows involved significant assumptions and estimates as discussed more fully in Notes 4 (Tuscarora), 5 (Great Lakes) and 7 (Bison).