DERIVATIVE INSTRUMENTS AND FAIR VALUE MEASUREMENTS

The Company is exposed to certain market risks such as changes in interest rates, foreign currency exchange rates, and commodity prices, which exist as a part of its ongoing business operations. Management uses derivative financial and commodity instruments, including futures, options, and swaps, where appropriate, to manage these risks. Instruments used as hedges must be effective at reducing the risk associated with the exposure being hedged and must be designated as a hedge at the inception of the contract.

The Company designates derivatives as cash flow hedges, fair value hedges, net investment hedges, and uses other contracts to reduce volatility in interest rates, foreign currency and commodities. As a matter of policy, the Company does not engage in trading or speculative hedging transactions.

Total notional amounts of the Company’s derivative instruments as of January 2, 2016 and January 3, 2015 were as follows:



(millions)	2015		2014
Foreign currency exchange contracts	$	1,210	$	764
Interest rate contracts	—		2,958
Commodity contracts	470		492
Total	$	1,680	$	4,214

Following is a description of each category in the fair value hierarchy and the financial assets and liabilities of the Company that were included in each category at January 2, 2016 and January 3, 2015, measured on a recurring basis.

Level 1 — Financial assets and liabilities whose values are based on unadjusted quoted prices for identical assets or liabilities in an active market. For the Company, level 1 financial assets and liabilities consist primarily of commodity derivative contracts.

Level 2 — Financial assets and liabilities whose values are based on quoted prices in markets that are not active or model inputs that are observable either directly or indirectly for substantially the full term of the asset or liability. For the Company, level 2 financial assets and liabilities consist of interest rate swaps and over-the-counter commodity and currency contracts.

The Company’s calculation of the fair value of interest rate swaps is derived from a discounted cash flow analysis based on the terms of the contract and the interest rate curve. Over-the-counter commodity derivatives are valued using an income approach based on the commodity index prices less the contract rate multiplied by the notional amount. Foreign currency contracts are valued using an income approach based on forward rates less the contract rate multiplied by the notional amount. The Company’s calculation of the fair value of level 2 financial assets and liabilities takes into consideration the risk of nonperformance, including counterparty credit risk.

Level 3 — Financial assets and liabilities whose values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. These inputs reflect management’s own assumptions about the assumptions a market participant would use in pricing the asset or liability. The Company did not have any level 3 financial assets or liabilities as of January 2, 2016 or January 3, 2015.

The following table presents assets and liabilities that were measured at fair value in the Consolidated Balance Sheet on a recurring basis as of January 2, 2016 and January 3, 2015:

Derivatives designated as hedging instruments:



	2015								2014
(millions)	Level 1		Level 2			Total			Level 1		Level 2			Total
Assets:
Foreign currency exchange contracts:
Other current assets	$	—	$	11		$	11		$	—	$	29		$	29
Interest rate contracts (a):
Other assets	—		—			—			—		7			7
Total assets	$	—	$	11		$	11		$	—	$	36		$	36
Liabilities:
Foreign currency exchange contracts:
Other current liabilities	$	—	$	(10	)	$	(10	)	$	—	$	(6	)	$	(6	)
Interest rate contracts:
Other current liabilities	—		—			—			—		(3		)	(3		)
Other liabilities	—		—			—			—		(16		)	(16		)
Commodity contracts:
Other current liabilities	—		(14		)	(14		)	—		(12		)	(12		)
Other liabilities	—		—			—			—		(11		)	(11		)
Total liabilities	$	—	$	(24	)	$	(24	)	$	—	$	(48	)	$	(48	)


(a)	The fair value of the related hedged portion of the Company’s long-term debt, a level 2 liability, was $2.5 billion as of January 3, 2015.

Derivatives not designated as hedging instruments:



	2015									2014
(millions)	Level 1			Level 2			Total			Level 1			Level 2		Total
Assets:
Foreign currency exchange contracts:
Other current assets	$	—		$	18		$	18		$	—		$	—	$	—
Commodity contracts:
Other current assets	4			—			4			7			—		7
Total assets	$	4		$	18		$	22		$	7		$	—	$	7
Liabilities:
Foreign currency exchange contracts:
Other current liabilities	$	—		(6		)	$	(6	)	$	—		$	—	$	—
Commodity contracts:
Other current liabilities	(33		)	—			(33		)	(36		)	—		(36		)
Other liabilities	—			—			—			(4		)	—		(4		)
Total liabilities	$	(33	)	$	(6	)	$	(39	)	$	(40	)	$	—	$	(40	)

The Company has designated a portion of its outstanding foreign currency denominated long-term debt as a net investment hedge of a portion of the Company’s investment in its subsidiaries foreign currency denominated net assets. The carrying value of this debt was $1.2 billion and $600 million as of January 2, 2016 and January 3, 2015, respectively.

The Company has elected to not offset the fair values of derivative assets and liabilities executed with the same counterparty that are generally subject to enforceable netting agreements. However, if the Company were to offset and record the asset and liability balances of derivatives on a net basis, the amounts presented in the Consolidated Balance Sheet as of January 2, 2016 and January 3, 2015 would be adjusted as detailed in the following table:



As of January 2, 2016:
				Gross Amounts Not Offset in the Consolidated Balance Sheet
	Amounts Presented in the Consolidated Balance Sheet			Financial Instruments			Cash Collateral Received/ Posted		Net Amount
Total asset derivatives	$	33		$	(12	)	$	—	$	21
Total liability derivatives	$	(63	)	$	12		$	51	$	—



As of January 3, 2015:
				Gross Amounts Not Offset in the Consolidated Balance Sheet
	Amounts Presented in the Consolidated Balance Sheet			Financial Instruments			Cash Collateral Received/ Posted		Net Amount
Total asset derivatives	$	43		$	(29	)	$	—	$	14
Total liability derivatives	$	(88	)	$	29		$	50	$	(9	)

The effect of derivative instruments on the Consolidated Statement of Income for the years ended January 2, 2016 and January 3, 2015 were as follows:

Derivatives in fair value hedging relationships



(millions)	Location of gain (loss) recognized in income	Gain (loss) recognized in income (a)
		2015			2014
Foreign currency exchange contracts	OIE	$	(4	)	$	3
Interest rate contracts	Interest expense	20			17
Total		$	16		$	20


(a)	Includes the ineffective portion and amount excluded from effectiveness testing.

Derivatives in cash flow hedging relationships



(millions)	Gain (loss) recognized in AOCI						Location of gain (loss) reclassified from AOCI	Gain (Loss) reclassified from AOCI into income						Location of gain (loss) recognized in income (a)	Gain (loss) recognized in income (a)
	2015			2014				2015			2014				2015			2014
Foreign currency exchange contracts	$	26		$	34		COGS	$	40		$	5		OIE	$	(3	)	$	(4	)
Foreign currency exchange contracts	(6		)	4			SGA expense	(2		)	3			OIE	—			—
Interest rate contracts	(9		)	(69		)	Interest expense	(3		)	9			N/A	—			—
Commodity contracts	(3		)	(4		)	COGS	(12		)	(7		)	OIE	—			—
Total	$	8		$	(35	)		$	23		$	10			$	(3	)	$	(4	)


(a)	Includes the ineffective portion and amount excluded from effectiveness testing.

Derivatives and non-derivatives in net investment hedging relationships



(millions)	Gain (loss) recognized in AOCI
	2015		2014
Foreign currency denominated long-term debt	$	70	$	86
Total	$	70	$	86



Derivatives not designated as hedging instruments
(millions)	Location of gain (loss) recognized in income	Gain (loss) recognized in income
		2015			2014
Foreign currency exchange contracts	COGS	$	16		$	—
Foreign currency exchange contracts	OIE	8			1
Interest rate contracts	Interest expense	—			(4		)
Commodity contracts	COGS	(63		)	(73		)
Commodity contracts	SGA	(5		)	(5		)
Total		$	(44	)	$	(81	)

During the next 12 months, the Company expects $14 million of net deferred losses reported in accumulated other comprehensive income (AOCI) at January 2, 2016 to be reclassified to income, assuming market rates remain constant through contract maturities.

Certain of the Company’s derivative instruments contain provisions requiring the Company to post collateral on those derivative instruments that are in a liability position if the Company’s credit rating falls below BB+ (S&P), or Baa1 (Moody’s). The fair value of all derivative instruments with credit-risk-related contingent features in a liability position on January 2, 2016 was $14 million. If the credit-risk-related contingent features were triggered as of January 2, 2016, the Company would be required to post collateral of $14 million. In addition, certain derivative instruments contain provisions that would be triggered in the event the Company defaults on its debt agreements. There were no collateral posting requirements as of January 2, 2016 triggered by credit-risk-related contingent features.

Other fair value measurements

2015 Fair Value Measurements on a Nonrecurring Basis

As part of Project K the Company will be consolidating the usage of and disposing certain long-lived assets, including manufacturing facilities and Corporate owned assets over the term of the program. See Note 4 for more information regarding Project K.

During 2015, long-lived assets of $31 million related to a manufacturing facility in the Company's North America Other reportable segment, were written down to an estimated fair value of $13 million due to Project K activities. The Company's calculation of the fair value of these long-lived assets is based on level 3 inputs, including market comparables, market trends and the condition of the assets.

Additionally during 2015, the Company moved from the CENCOEX foreign currency official exchange rate to the SIMADI foreign currency exchange rate for purposes of remeasuring the financial statements of its Venezuelan subsidiary. In connection with this change in foreign currency exchange rates, the Company also evaluated the carrying value of the long lived assets related to its Venezuelan subsidiary. See Note 15 for more information regarding Venezuela. During 2015, long-lived assets with a carrying value of $51 million were written down to an estimated fair value of $2 million. The Company's calculation of the fair value of these long-lived assets is based on level 3 inputs, including market comparables, market trends and the condition of the assets.

2014 Fair Value Measurements on a Nonrecurring Basis

During 2014, long-lived assets of $24 million, related to a manufacturing facility in the Company’s U.S. Snacks segment, were written down to an estimated fair value of $3 million due to Project K activities. The Company’s calculation of the fair value of long-lived assets is based on Level 3 inputs, including market comparables, market trends and the condition of the assets.

Financial instruments

The carrying values of the Company’s short-term items, including cash, cash equivalents, accounts receivable, accounts payable and notes payable approximate fair value. The fair value of the Company’s long-term debt, which are level 2 liabilities, is calculated based on broker quotes and was as follows at January 2, 2016:



(millions)	Fair Value		Carrying Value
Current maturities of long-term debt	$	1,266	$	1,266
Long-term debt	5,635		5,289
Total	$	6,901	$	6,555

Counterparty credit risk concentration

The Company is exposed to credit loss in the event of nonperformance by counterparties on derivative financial and commodity contracts. Management believes a concentration of credit risk with respect to derivative counterparties is limited due to the credit ratings and use of master netting and reciprocal collateralization agreements with the counterparties and the use of exchange-traded commodity contracts.

Master netting agreements apply in situations where the Company executes multiple contracts with the same counterparty. If these counterparties fail to perform according to the terms of derivative contracts, this could result in a loss to the Company. As of January 2, 2016, there were no counterparties that represented a significant concentration of credit risk to the Company.

For certain derivative contracts, reciprocal collateralization agreements with counterparties call for the posting of collateral in the form of cash, treasury securities or letters of credit if a fair value loss position to the Company or its counterparties exceeds a certain amount. As of January 2, 2016, the Company had no collateral posting requirements related to reciprocal collateralization agreements. As of January 2, 2016, the Company posted $51 million in margin deposits for exchange-traded commodity derivative instruments, which was reflected as an increase in accounts receivable, net.

Management believes concentrations of credit risk with respect to accounts receivable is limited due to

the generally high credit quality of the Company’s major customers, as well as the large number and geographic dispersion of smaller customers. However, the Company conducts a disproportionate amount of business with a small number of large multinational grocery retailers, with the five largest accounts encompassing approximately 29% of consolidated trade receivables at January 2, 2016.

Refer to Note 1 for disclosures regarding the Company’s accounting policies for derivative instruments.