XML 23 R12.htm IDEA: XBRL DOCUMENT v3.10.0.1
Derivatives, Hedging Programs and Other Financial Instruments
 9 Months Ended
Sep. 30, 2018
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Derivatives, Hedging Programs and Other Financial Instruments Derivatives, Hedging Programs and Other Financial Instruments
Overview
In conducting our business, we enter into derivative transactions, including forward contracts and options, to limit our exposure to: (i) metal price risk related to our sale of fabricated aluminum products and the purchase of metal used as raw material for our fabrication operations; (ii) energy price risk relating to fluctuating prices of natural gas and electricity used in our production processes; and (iii) foreign currency requirements with respect to our foreign subsidiaries and cash commitments for equipment purchases denominated in foreign currency.
Our derivative activities are overseen by a committee ("Hedging Committee"), which is composed of our chief executive officer, chief operating officer, chief financial officer, chief accounting officer, vice president of metal management, treasurer and other officers and employees selected by the chief executive officer. The Hedging Committee meets regularly to review commodity price exposure, derivative positions and strategy. Management reviews the scope of the Hedging Committee's activities with our Board of Directors.
We are exposed to counterparty credit risk on all of our derivative instruments, which we manage by monitoring the credit quality of our counterparties and allocating our hedging positions among multiple counterparties to limit exposure to any single entity. Our counterparties are major, investment grade financial institutions or trading companies. Hedging transactions are governed by negotiated reciprocal credit lines, which generally require collateral to be posted above specified credit thresholds. We believe the risk of loss is remote and contained due to counterparty credit quality, our diversification practice and collateral requirements.
In a majority of our hedging counterparty agreements, our counterparty offers us a credit line that adjusts up or down, depending on our liquidity. Below specified liquidity thresholds, we may have to post collateral if the fair value of our net liability with such counterparty exceeds our reduced credit line. We manage this risk by allocating hedging transactions among multiple counterparties, using options as part of our hedging activities, or both. The aggregate fair value of our derivative instruments that were in a net liability position was $3.1 million and $0.1 million at September 30, 2018 and December 31, 2017, respectively, and we had no collateral posted as of those dates.
Additionally, our firm-price customer sales commitments create incremental customer credit risk related to metal price movements. Under certain circumstances, we mitigate this risk by periodically requiring cash collateral from them, which we classify as deferred revenue and include as a component of Other accrued liabilities. At both September 30, 2018 and December 31, 2017, we had no cash collateral posted from any of our customers. For more information about concentration risks concerning customers and suppliers, see Note 14.
Aluminum Hedges. Our pricing of fabricated aluminum products is generally intended to lock in a conversion margin (representing the value added from the fabrication process(es)) and to pass through metal price fluctuations to our customers. For some of our higher value added products sold on a spot basis, the pass through of metal price movements can sometimes lag by as much as several months, with a favorable impact to us when metal prices decline and an adverse impact to us when metal prices increase. Additionally, in certain instances, we enter into firm-price arrangements with our customers for stipulated volumes to be delivered in the future. Because we generally purchase primary and secondary aluminum on a floating price basis, the lag in passing through metal price movements to customers on some of our higher value added products sold on a spot basis and the volume that we have committed to sell to our customers under a firm-price arrangement create metal price risk for us. We use third-party hedging instruments to limit exposure to metal price risk related to the metal pass through lag on some of our products and firm-price customer sales contracts.
Alloying Metals Hedges. We are exposed to risk of fluctuating prices for Alloying Metals used as raw materials in our fabrication operations. We, from time to time, in the ordinary course of business, use third-party hedging instruments to mitigate our risk from price fluctuations in Alloying Metals.
Energy Hedges. We are exposed to risk of fluctuating prices for natural gas and electricity. We, from time to time, in the ordinary course of business, enter into hedging transactions and/or physical delivery commitments with third parties to mitigate our risk from fluctuations in natural gas and electricity prices.
Notional Amount of Derivative Contracts
The following table summarizes our derivative positions at September 30, 2018:
Aluminum
Maturity Period
(month/year)
 
Notional Amount of Contracts (mmlbs)
Fixed price purchase contracts
10/18 through 12/21
 
138.3

Fixed price sales contracts
10/18 through 11/19
 
2.1

Midwest premium swap contracts1
10/18 through 12/21
 
105.9

Alloying Metals
Maturity Period
(month/year)
 
Notional Amount of Contracts (mmlbs)
Fixed price purchase contracts
10/18 through 12/19
 
9.9

Natural Gas2
Maturity Period
(month/year)
 
Notional Amount of Contracts (mmbtu)
Fixed price purchase contracts
10/18 through 12/21
 
4,130,000

Electricity3
Maturity Period
(month/year)
 
Notional Amount of Contracts (Mwh)
Fixed price purchase contracts
1/20 through 12/21
 
219,600

Euro4
Maturity Period
(month/year)
 
Notional Amount of Contracts (euro)
Fixed price purchase contracts
11/18
 
33,064

____________________
1 
Regional premiums represent the premium over the London Metal Exchange price for primary aluminum which is incurred on our purchases of primary aluminum.
2 
As of September 30, 2018, we had derivative and/or physical delivery commitments with energy companies for approximately 70% of the expected natural gas purchases for the remainder of 2018, 68% of the expected natural gas purchases for 2019, 67% of the expected natural gas purchases for 2020 and 63% of the expected natural gas purchases for 2021.
3 
As of September 30, 2018, we had derivative and/or physical delivery commitments with energy companies for approximately 53% of our expected electricity purchases for the remainder of 2018, 54% of our expected electricity purchases for both 2019 and 2020 and 9% of our expected electricity purchases for 2021.
4 
We use non-designated foreign currency forward contracts designed to line up with the timing and amounts of scheduled payments to foreign equipment manufacturers to mitigate our exposure to currency exchange rate fluctuations on these purchases.
Adoption of ASU 2017-12
Prior to our adoption of ASU 2017-12 on January 1, 2018, changes in the fair value of non-designated hedges (aluminum and energy) were recorded within Unrealized (gain) loss on derivative instruments in the Statements of Consolidated Income. Upon settlement, realized gain or loss was recorded within Cost of products sold, excluding depreciation and amortization and other items, with an offsetting reversal of previously recognized unrealized amounts recorded within Unrealized (gain) loss on derivative instruments.
Beginning with our adoption of ASU 2017-12 (see Note 1), aluminum and energy hedges that were non-designated prior to 2018 are now designated as cash flow hedges. As these previously non-designated hedges are settled, unrealized gains and losses recognized subsequent to December 31, 2017 are reclassified from Accumulated other comprehensive loss to Cost of products sold, excluding depreciation and amortization.
(Gain) Loss
See Note 8 for the total amount of gain or loss on derivative instruments designated and qualifying as cash flow hedging instruments that was reported in Accumulated other comprehensive income (loss) ("AOCI"), as well as the related reclassifications into earnings and tax effects. Cumulative gains and losses related to cash flow hedges are reclassified out of AOCI when the associated hedged commodity purchases impact earnings.
The location and amount of (gain) loss included on the Statements of Consolidated Income associated with all derivative contracts consisted of the following for each period presented (in millions of dollars):
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
 
Cost of products sold, excluding depreciation and amortization and other items1
 
Cost of products sold, excluding depreciation and amortization and other items1
 
Unrealized gain on derivative instruments
 
Cost of products sold, excluding depreciation and amortization and other items1
 
Cost of products sold, excluding depreciation and amortization and other items1
 
Unrealized (gain) loss on derivative instruments
Total amounts of income and expense line items presented in the statements of consolidated income in which the effects of hedges are recorded
$
323.3

 
$
267.2

 
$
(10.8
)
 
$
983.4

 
$
822.7

 
$
(14.0
)
 
 
 
 
 
 
 
 
 
 
 
 
Loss (gain) recognized in income related to cash flow hedges:
 
 
 
 
 
 
 
 
 
 
 
Aluminum
$
2.1

 
$
—

 
$
—

 
$
(1.2
)
 
$
—

 
$
—

Alloying Metals
1.0

 
(0.3
)
 
—

 
0.4

 
(0.2
)
 
—

Natural gas
—

 
—

 
—

 
(0.1
)
 
—

 
—

Total loss (gain) recognized in income
$
3.1

 
$
(0.3
)
 
$
—

 
$
(0.9
)
 
$
(0.2
)
 
$
—

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(Gain) loss recognized in income related to non-designated hedges:
 
 
 
 
 
 
 
 
 
 
 
Aluminum
$
—

 
$
(4.0
)
 
$
(10.6
)
 
$
—

 
$
(13.8
)
 
$
(15.3
)
Natural gas
—

 
0.2

 
(0.2
)
 
—

 
0.3

 
1.3

Foreign exchange
—

 
(0.1
)
 
—

 
—

 
(0.1
)
 
—

Total gain recognized in income
$
—

 
$
(3.9
)
 
$
(10.8
)
 
$
—

 
$
(13.6
)
 
$
(14.0
)

____________________
1 
Beginning with our adoption of ASU 2017-12 effective January 1, 2018, we no longer have Unrealized (gain) loss on derivative instruments on the Statements of Consolidated Income as all of our commodity hedges are designated as cash flow hedges. As such, all Unrealized (gain) loss on derivative instruments is reported in AOCI. For the quarter and nine months ended September 30, 2017, Unrealized (gain) loss on derivative instruments was reclassified to Cost of products sold, excluding depreciation and amortization and other items in the Statements of Consolidated Income to conform to the current period's presentation, for a combined total of $256.4 million and $808.7 million, respectively. The amounts comprising both line items are presented separately here for comparative purposes.
Fair Values of Derivative Contracts
The fair values of our derivative contracts are based upon trades in liquid markets. Valuation model inputs can be verified, and valuation techniques do not involve significant judgment. The fair values of such financial instruments are classified within Level 2 of the fair value hierarchy.
All of our derivative contracts with counterparties are subject to enforceable master netting arrangements. We reflect the fair value of our derivative contracts on a gross basis on the Consolidated Balance Sheets. The following table presents the fair value of our derivative financial instruments as of the periods presented (in millions of dollars):
 
September 30, 2018
 
December 31, 2017
 
Derivative Assets
 
Derivative Liabilities
 
Net Amount
 
Derivative Assets
 
Derivative Liabilities
 
Net Amount
Cash Flow Hedges:
 
 
 
 
 
 
 
 
 
 
 
Aluminum –
 
 
 
 
 
 
 
 
 
 
 
Fixed price purchase contracts
$
3.0

 
$
(4.8
)
 
$
(1.8
)
 
$
—

 
$
—

 
$
—

Fixed price sales contracts
—

 
(0.1
)
 
(0.1
)
 
—

 
—

 
—

Midwest premium swap contracts
5.9

 
(0.1
)
 
5.8

 
—

 
—

 
—

Alloying Metals – Fixed price purchase contracts
0.1

 
(1.4
)
 
(1.3
)
 
0.9

 
—

 
0.9

Natural gas – Fixed price purchase contracts
0.2

 
(0.6
)
 
(0.4
)
 
—

 
—

 
—

Electricity – Fixed price purchase contracts
—

 
(0.1
)
 
(0.1
)
 
—

 
—

 
—

 
 
 
 
 
 
 
 
 
 
 
 
Non-Designated Hedges:
 
 
 
 
 
 
 
 
 
 
 
Aluminum –
 
 
 
 
 
 
 
 
 
 
 
Fixed price purchase contracts
—

 
—

 
—

 
22.5

 
—

 
22.5

Fixed price sales contracts
—

 
—

 
—

 
—

 
(0.1
)
 
(0.1
)
Midwest premium swap contracts
—

 
—

 
—

 
1.7

 
(0.1
)
 
1.6

Natural gas – Fixed price purchase contracts
—

 
—

 
—

 
0.2

 
(0.5
)
 
(0.3
)
Electricity – Fixed price purchase contracts
—

 
—

 
—

 
—

 
(0.1
)
 
(0.1
)
 
 
 
 
 
 
 
 
 
 
 
 
Total
$
9.2

 
$
(7.1
)
 
$
2.1

 
$
25.3

 
$
(0.8
)
 
$
24.5


The following table presents the balance sheet location of derivative assets and liabilities as of the periods presented (in millions of dollars):
 
September 30, 2018
 
December 31, 2017
Assets:
 
 
 
Prepaid expenses and other current assets
$
8.1

 
$
18.9

Other assets
1.1

 
6.4

Total assets
$
9.2

 
$
25.3

 
 
 
 
Liabilities:
 
 
 
Other accrued liabilities
$
(4.6
)
 
$
(0.3
)
Long-term liabilities
(2.5
)
 
(0.5
)
Total Liabilities
$
(7.1
)
 
$
(0.8
)
Fair Value of Other Financial Instruments
Cash and Cash Equivalents. See Note 2 for components of cash and cash equivalents.
Available for Sale Securities. We hold debt investment securities that are accounted for as available for sale securities and are presented as cash equivalents and short-term investments on our Consolidated Balance Sheets. The fair value of the debt investment securities, which consist of commercial paper, is determined based on valuation models that use observable market data. At September 30, 2018, all of our short-term investments had maturity dates within 12 months. We review our debt investment portfolio for other-than-temporary impairment at least quarterly or when there are changes in credit risk or other potential valuation concerns. At September 30, 2018 and December 31, 2017, the total unrealized loss, net of tax, included in AOCI was immaterial and was not other-than-temporarily impaired. We believe that it is probable that the principal and interest will be collected in accordance with the contractual terms, and that the unrealized loss on these securities was due to normal market fluctuations, and not due to increased credit risk or other valuation concerns. The fair value input of our available for sale securities, which are classified within Level 2 of the fair value hierarchy, is calculated based on broker quotes. The amortized cost for available for sale securities approximates their fair value.
The following table presents our other financial assets, classified under the appropriate level of the fair value hierarchy, as of September 30, 2018 (in millions of dollars):
 
Level 1
 
Level 2
 
Level 3
 
Total
Cash and cash equivalents
$
23.2

 
$
71.1

 
$
—

 
$
94.3

Short-term investments
—

 
88.4

 
—

 
88.4

Total
$
23.2

 
$
159.5

 
$
—

 
$
182.7

The following table presents our other financial assets, classified under the appropriate level of the fair value hierarchy, as of December 31, 2017 (in millions of dollars):
 
Level 1
 
Level 2
 
Level 3
 
Total
Cash and cash equivalents
$
23.5

 
$
27.6

 
$
—

 
$
51.1

Short-term investments
—

 
183.7

 
—

 
183.7

Total
$
23.5

 
$
211.3

 
$
—

 
$
234.8


All Other Financial Assets and Liabilities. We believe that the fair values of our accounts receivable, contract assets, accounts payable and accrued liabilities approximate their respective carrying values due to their short maturities and nominal credit risk.