FINANCIAL INSTRUMENTS

The company’s financial instruments include cash and cash equivalents, short-term debt, long-term debt, and foreign exchange forward and options contracts. The company uses derivatives for hedging and non-trading purposes in order to manage its foreign exchange rate exposures.

Foreign Exchange Contracts

As a result of the company’s substantial international operations, it is exposed to foreign currency risks that arise from normal business operations, including in connection with transactions that are denominated in foreign currencies. In addition, the company translates sales and financial results denominated in foreign currencies into U.S. dollars for purposes of its consolidated financial statements. As a result, appreciation of the U.S. dollar against these foreign currencies generally will have a negative impact on reported revenues and operating income, while depreciation of the U.S. dollar against these foreign currencies will generally have a positive effect on reported revenues and operating income. For fiscal years 2015, 2014 and 2013, the company's reported financial results were adversely affected by appreciation of the U.S. dollar against foreign currencies relative to the prior years.

The company has a foreign currency cash flow hedging program to reduce the company’s exposure to changes in exchange rates on foreign currency purchases and sales. The company uses foreign currency forward contracts to manage the company’s exposures arising from foreign currency exchange risk. Gains and losses on the underlying foreign currency exposures are partially offset with gains and losses on the foreign currency forward contracts. Under this foreign currency cash flow hedging program, the company has designated the foreign exchange contracts (the “contracts”) as cash flow hedges of underlying forecasted foreign currency purchases and sales. The effective portion of changes in the fair value of the contracts is recorded in accumulated other comprehensive loss (AOCL) in the consolidated balance sheet and is recognized in operating income when the underlying forecasted transaction impacts earnings. The terms of the foreign exchange contracts generally require the company to place cash on deposit as collateral if the fair value of these contracts represents a liability for the company. The fair values of the foreign exchange derivative instruments and any related collateral cash deposits are presented on a net basis as the derivative contracts are subject to master netting arrangements.

At September 30, 2015, 2014 and 2013, the notional amount of the company's foreign exchange contracts outstanding under its foreign currency cash flow hedging program were $137 million, $47 million, and $75 million respectively. The company classifies the cash flows associated with the contracts in cash flows from operating activities in the consolidated statement of cash flows. This is consistent with the classification of the cash flows associated with the underlying hedged item.

From time to time the company hedges against foreign currency exposure related to translations to U.S. dollars of financial results denominated in foreign currencies. Changes in fair value associated with these contracts are recorded in other income, net, in the consolidated statement of operations. The company also uses option contracts to mitigate foreign currency exposure on expected future Indian rupee denominated purchases. Changes in fair value associated with these contracts are recorded in cost of sales in the consolidated statement of operations.

The following table summarizes the impact of the company’s derivatives instruments on comprehensive income for fiscal years ended September 30 (in millions):



	Location of Gain (Loss)	2015		2014		2013
Derivatives designated as hedging instruments:
Amount of gain recognized in AOCL (effective portion)	AOCL	$	3	$	3	$	—
Amount of gain (loss) reclassified from AOCL into income (effective portion)	Cost of Sales	6		1		1
Derivatives not designated as hedging instruments: Amount of gain recognized in income	Cost of Sales	2		—		—
Derivatives not designated as hedging instruments: Amount of gain recognized in income	Other Income (expense)	2		—		—

Fair Value

Fair values of financial instruments are summarized as follows (in millions):



	September 30, 2015				September 30, 2014
	Carrying Value		Fair Value		Carrying Value		Fair Value
Cash and cash equivalents	$	193	$	193	$	247	$	247
Short-term debt	15		15		7		7
Long-term debt⁽¹⁾	1,036		1,123		948		1,143
Foreign exchange forward contracts (asset)	1		1		2		2
Foreign exchange forward contracts (liability)	3		3		—		—
Short-term foreign currency option contracts (asset)	1		1		2		2
Long-term foreign currency option contracts (asset)	1		1		1		1


(1)	Prior year amounts have been recast to reflect the early adoption of ASU 2015-03, Interest — Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs.

The following table reflects the offsetting of derivative assets and liabilities (in millions):



	September 30, 2015			September 30, 2014
	Gross Amounts Recognized	Gross Amounts Offset	Net Amounts Reported	Gross Amounts Recognized	Gross Amounts Offset	Net Amounts Reported
Derivative Asset
Foreign exchange forward contract	1	—	1	2	—	2
Derivative Liabilities
Foreign exchange forward contract	3	—	3	—	—	—

Fair Value

The current FASB guidance provides a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical instruments (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are described below:


•	Level 1 inputs use quoted prices in active markets for identical instruments.


•	Level 2 inputs use other inputs that are observable, either directly or indirectly. These Level 2 inputs include quoted prices for similar instruments in active markets and other inputs such as interest rates and yield curves that are observable at commonly quoted intervals.


•	Level 3 inputs are unobservable inputs, including inputs that are available in situations where there is little, if any, market activity for the related instrument.

In instances where inputs used to measure fair value fall into different levels in the above fair value hierarchy, fair value measurements in their entirety are categorized based on the lowest priority level input that is significant to the valuation. The company's assessment of the significance of particular inputs to these fair value measurements requires judgment and considers factors specific to each asset or liability.

Fair value of financial instruments by the valuation hierarchy at September 30, 2015 is as follows (in millions):



	Level 1		Level 2		Level 3
Cash and cash equivalents	$	193	$	—	$	—
Short-term debt	—		—		15
Long-term debt	—		1,102		21
Foreign exchange forward contracts (asset)	—		1		—
Foreign exchange forward contracts (liability)	—		3		—
Short-term foreign currency option contracts (asset)	—		—		1
Long-term foreign currency option contracts (asset)	—		—		1

Fair value of financial instruments by the valuation hierarchy at September 30, 2014 is as follows (in millions):



	Level 1		Level 2		Level 3
Cash and cash equivalents	$	247	$	—	$	—
Short-term debt	—		—		7
Long-term debt	—		1,093		50
Foreign exchange forward contracts (asset)	—		2		—
Short Term foreign currency option contracts (asset)	—		—		2
Long Term foreign currency option contracts (asset)	—		—		1

The tables below provide a reconciliation of changes in fair value of the Level 3 financial assets and liabilities measured at fair value in the consolidated balance sheet for the twelve months ended September 30, 2015 and September 30, 2014, respectively. No transfers of assets between any of the Levels occurred during these periods.



Twelve months ended September 30, 2015 (in millions)	Short-term foreign currency option contracts (asset)			Long-term foreign currency option contracts (asset)			Total
Fair Value as of September 30, 2014	$	2		$	1		$	3
Total unrealized gains (losses):
Included in other income, net	(1		)	—			(1		)
Included in cost of sales	(1		)	—			(1		)
Total realized gains (losses):
Included in other income, net	2			—			2
Included in cost of sales	3			—			3
Purchases, issuances, sales and settlements:
Purchases	6			—			6
Settlements	(10		)	(1		)	(11		)
Transfer in and / or out of Level 3 ⁽¹⁾	—			—			—
Reclass between short-term and long-term	—			1			1
Fair Value as of September 30, 2015	$	1		$	1		$	2



Twelve months ended September 30, 2014 (in millions)	Short-term foreign currency option contracts (asset)			Long-term foreign currency option contracts (asset)		Total
Fair Value as of September 30, 2013	$	—		$	—	$	—
Total unrealized gains (losses):
Included in other income, net	—			—		—
Included in cost of sales	—			—		—
Total realized gains (losses):
Included in other income, net	—			—		—
Included in cost of sales	—			—		—
Purchases, issuances, sales and settlements:
Purchases	3			—		3
Settlements	—			—		—
Transfer in and / or out of Level 3 ⁽¹⁾	—			—		—
Reclass between short-term and long-term	(1		)	1		—
Fair Value as of September 30, 2014	$	2		$	1	$	3

⁽¹⁾Transfers as of the last day of the reporting period

Cash and cash equivalents — All highly liquid investments purchased with an original maturity of three months or less are considered to be cash equivalents. The carrying value approximates fair value because of the short maturity of these instruments. The company did not have any cash equivalents at September 30, 2015 or September 30, 2014.

Short- and Long-term debt — Fair values are based on transaction prices at public exchange for publicly traded debt. For debt instruments that are not publicly traded, fair values are based on interest rates that would be currently available to the company for issuance of similar types of debt instruments with similar terms and remaining maturities.

Foreign exchange forward contracts — The company uses foreign exchange forward purchase and sale contracts with terms of one year or less to hedge its exposure to changes in foreign currency exchange rates. The fair value of foreign exchange forward contracts is based on a model which incorporates observable inputs including quoted spot rates, forward exchange rates and discounted future expected cash flows utilizing market interest rates with similar quality and maturity characteristics. For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of changes in the fair value of the contracts is recorded in Accumulated Other Comprehensive Loss (AOCL) in the statement of shareowners’ equity and is recognized in operating income when the underlying forecasted transaction impacts earnings.

Foreign currency option contracts — The company uses option contracts to mitigate foreign currency exposure on expected future Indian Rupee denominated purchases. The contracts were entered into during the third quarter of fiscal year 2014 with effective dates from the start of fiscal year 2015 through the end of fiscal year 2017. In the second quarter of fiscal year 2015, the company monetized its outstanding foreign currency option contracts and entered into a new series of foreign currency option contracts with effective dates from the start of the third quarter of fiscal year 2015 through the end of fiscal year 2017. In fiscal year 2015, the company recognized a net gain of $2 million associated with the settlement and repurchase of these foreign currency option contracts. The fair value of the foreign currency option contracts is based on a third-party proprietary model, which incorporates inputs at varying unobservable weights of quoted spot rates, market volatility, forward rates, and time utilizing market instruments with similar quality and maturity characteristics. The company did not elect hedge accounting for these derivatives. Changes in fair value associated with these contracts are recorded in cost of sales in the consolidated statement of operations.

From time to time the company will hedge against its foreign currency exposure related to translations to U.S. dollars of financial results denominated in foreign currencies. In fiscal year 2015, the company entered into a series of foreign currency option contracts with a total notional amount of $48 million to reduce volatility in the translation of Brazilian real earnings to U.S. dollars. These foreign currency option contracts did not qualify for a hedge accounting election but were expected to mitigate foreign currency translation exposure of Brazilian real earnings to U.S. dollars. The company settled and repurchased additional contracts during the year. As of the end of fiscal year 2015, there are no Brazilian real foreign currency option contracts outstanding. In fiscal year 2015, the company recognized a net gain of $2 million associated with the settlement and repurchase of these Brazilian real foreign currency option contracts. The fair value of the foreign currency option contracts is based on a third-party proprietary model, which incorporates inputs at varying unobservable weights of quoted spot rates, market volatility, forward rates, and time utilizing market instruments with similar quality and maturity characteristics. Changes in fair value associated with these contracts are recorded in other income, net, in the consolidated statement of operations.

Also in fiscal year 2015, the company entered into a series of foreign currency contracts with total notional amounts of $30 million and $27 million to mitigate the risk of volatility in the translation of Swedish krona and euro earnings to U.S. dollars, respectively. These foreign currency option contracts do not qualify for a hedge accounting election but are expected to mitigate foreign currency translation exposure of Swedish krona and euro earnings to U.S. dollars. In fiscal year 2015, the company did not recognize a net gain or loss associated with the change in fair value of these foreign currency option contracts. The fair value of the foreign currency option contracts is based on a third-party proprietary model, which incorporates inputs at varying unobservable weights of quoted spot rates, market volatility, forward rates, and time utilizing market instruments with similar quality and maturity characteristics. Changes in fair value associated with these contracts are recorded in other income, net, in the consolidated statement of operations.