Derivative Financial Instruments

9 Months Ended

Sep. 30, 2015

Derivative Instruments And Hedging Activities Disclosure [Abstract]

Derivative Financial Instruments

Note 11. Derivative Financial Instruments

We enter into forward contracts to manage foreign exchange risk based on market conditions and to hedge certain forecasted transactions.  These forward contracts have been designated and qualify as cash flow hedges, and their change in fair value is recorded as a component of other comprehensive income and reclassified into earnings in the same period or periods in which the forecasted transaction occurs.  To qualify as a hedge, we need to formally document, designate and assess the effectiveness of the transactions that receive hedge accounting.  The notional dollar amount of the outstanding Euro forward contracts at September 30, 2015 was $29 million, with an average exchange rate of 1.16, generally with terms of less than one year.  We review the effectiveness of our hedging instruments on a quarterly basis and record any ineffectiveness into earnings.  We discontinue hedge accounting for any hedge that is no longer evaluated to be highly effective.  From time to time, we may choose to de-designate portions of hedges when changes in estimates of forecasted transactions occur.  For the three and nine months ended September 30, 2015, each of these hedges was highly effective in offsetting fluctuations in foreign currencies.  An insignificant amount of gain due to ineffectiveness was recorded in the consolidated statements of income during 2015.

We also enter into forward contracts to manage foreign exchange risk on intercompany loans that are not deemed long-term investment nature.  These forward contracts are not designated as hedges, and their change in fair value is recorded in our consolidated statements of income during each reporting period.  The notional dollar amount of these outstanding forward contracts at September 30, 2015 was $857 million, with terms of primarily less than one year.  These forward contracts provide an economic hedge, as they largely offset foreign currency exposures on intercompany loans.

We enter into net investment agreements to manage foreign exchange risk on non-U.S. operations.  Our objective is to manage the net investment against variability in the foreign currency risk associated with changes in the exchange rate.  These agreements have been designated and qualify as net investment hedges and their change in fair value is recorded as a component of other comprehensive income.  At September 30, 2015, we had one net investment hedge with a notional amount of $129 million.

We enter into interest rate swap agreements to manage interest expense.  The swaps qualify as fair value swaps and modify our interest rate exposure by effectively converting debt with a fixed rate to a floating rate.  Our objective is to manage the impact of interest rates on the results of operations, cash flows and the market value of our debt.  At September 30, 2015, we had five interest rate swap agreements with an aggregate notional amount of $250 million under which we pay floating rates and receive fixed rates of interest (Fair Value Swaps).  The Fair Value Swaps hedge the change in fair value of certain fixed rate debt related to fluctuations in interest rates and mature in 2018 and 2019.  These interest rate swaps have been designated and qualify as fair value hedges and have met the requirements to assume zero ineffectiveness.

The counterparties to our derivative financial instruments are major financial institutions.  We evaluate the credit ratings of the financial institutions and believe that credit risk is at an acceptable level.

The following tables summarize the fair value of our derivative instruments (in millions):

	September 30,			December 31,
	2015			2014
	Balance Sheet Location	Fair Value		Balance Sheet Location	Fair Value
Derivatives designated as hedging instruments
Asset Derivatives
Interest rate swaps	Other assets	$	7	Other assets	$	4
Forward contracts	Prepaidexpenses and other	$	1	Prepaid expenses and other	$	1
Net investment hedges	Prepaid expenses and other	$	1	Prepaid expenses and other	$	—

	September 30,			December 31,
	2015			2014
	Balance Sheet Location	Fair Value		Balance Sheet Location	Fair Value
Derivatives not designated as hedging instruments
Asset Derivatives
Forward contracts	Prepaidexpenses and other	$	2	Prepaidexpenses and other	$	9
Liability Derivatives
Forward contracts	Accruedexpenses	$	2	Accruedexpenses	$	20

The following table presents the effect of our derivatives on our consolidated statements of income (in millions):

Derivatives not designated as hedging instruments	Location of Gain Recognized in Income on Derivative	Amount of Gain Recognized in Income on Derivative
		Three Months Ended
		September 30,
		2015			2014
Foreign forward exchange contracts	Interest expense, net	$	6		$	5
Derivatives not designated as hedging instruments	Location of Gain (Loss) Recognized in Income on Derivative	Amount of Gain (Loss) Recognized in Income on Derivative
		Nine Months Ended
		September 30,
		2015			2014
Foreign forward exchange contracts	Interest expense, net	$	(18	)	$	7

The interest rate swaps, forward contracts and net investment hedges are financial assets and liabilities measured at fair value on a recurring basis.

The interest rate swaps are valued using an income approach.  Expected future cash flows are converted to a present value amount based on market expectations of the yield curve on floating interest rates, which are readily available on public markets, and as such, are classified as Level 2.

The forward contracts and net investment hedges are over-the-counter contracts that do not trade on a public exchange.  The fair values of these contracts are based on inputs such as foreign currency spot rates and forward points that are readily available on public markets, and as such, are classified as Level 2.  We consider both our credit risk, as well as our counterparties’ credit risk, in determining fair value, and we did not make an adjustment as it was deemed insignificant based on the short duration of the contracts and our rate of short-term debt.