Derivatives and Fair Value of Financial Instruments

9 Months Ended

Oct. 01, 2011

Derivatives and Fair Value of Financial Instruments

Derivatives and Fair Value of Financial Instruments

Note 5 –Derivatives and Fair Value of Financial Instruments

U.S. GAAP discusses valuation techniques, such as the market approach (prices and other relevant information generated by market conditions involving identical or comparable assets or liabilities), the income approach (techniques to convert future amounts to single present amounts based on market expectations including present value techniques and option-pricing), and the cost approach (amount that would be required to replace the service capacity of an asset which is often referred to as replacement cost).  U.S. GAAP utilizes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels.  The following is a brief description of those three levels:

Level 1:   Observable inputs such as unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.

Level 2:   Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.  These include quoted prices for similar assets or liabilities in active markets and quoted prices for identical or similar assets or liabilities in markets that are not active.

Level 3:   Unobservable inputs that reflect the reporting entity’s own assumptions.

The following table shows assets and liabilities measured at fair value on a recurring basis as of October 1, 2011 and also the level within the fair value hierarchy used to measure each category of assets.  Seaboard uses the end of the reporting period to determine if there were any transfers between levels.  There were no transfers between levels that occurred in the first nine months of 2011.  The trading securities classified as other current assets below are assets held for Seaboard’s deferred compensation plans.

	Balance
	October 1,
(Thousands of dollars)	2011		Level 1		Level 2		Level 3
Assets:
Available-for-sale securities - short-term investments:
Corporate bonds	$	92,167	$	—	$	92,167	$	—
Enhanced cash mutual fund	60,630		60,630		—		—
Money market funds	58,003		58,003		—		—
Emerging markets debt	16,410		16,410		—		—
Fixed rate municipal notes and bonds	15,981		—		15,981		—
Collateralized mortgage obligations	14,590		—		14,590		—
U.S. Treasury securities	6,443		—		6,443		—
U.S. Government agency securities	6,375		—		6,375		—
Asset backed debt securities	3,823		—		3,823		—
Other	1,484		—		1,484		—
Trading securities – short-term investments:
High yield debt securities	20,483		—		20,483		—
Other debt securities	3,814		—		3,814		—
Trading securities – other current assets:
Domestic equity securities	11,803		11,803		—		—
Foreign equity securities	7,107		3,718		3,389		—
Money market funds	3,857		3,857		—		—
Fixed income mutual funds	2,809		2,809		—		—
U.S. Government agency securities	2,174		—		2,174		—
U.S. Treasury securities	1,926		—		1,926		—
Other	1,943		1,883		60		—
Derivatives:
Commodities(1)	8,475		8,475		—		—
Interest rate swaps	—		—		—		—
Foreign currencies	13,884		—		13,884		—
Total Assets	$	354,181	$	167,588	$	186,593	$	—
Liabilities:
Derivatives:
Commodities(1)	$	32,092	$	32,092	$	—	$	—
Interest rate swaps	10,533		—		10,533		—
Foreign currencies	938		—		938		—
Total Liabilities	$	43,563	$	32,092	$	11,471	$	—

(1) Seaboard’s commodities derivative assets and liabilities are presented in the Condensed Consolidated Balance Sheets on a net basis, including netting the derivatives with the related margin accounts.  As of October 1, 2011, the commodity derivatives had a margin account balance of $29,169,000 resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $5,552,000.

The following table shows assets and liabilities measured at fair value on a recurring basis as of December 31, 2010 and also the level within the fair value hierarchy used to measure each category of assets.

(Thousands of dollars)	Balance December 31, 2010		Level 1		Level 2		Level 3
Assets:
Available-for-sale securities — short-term investments:
Money market funds	$	110,164	$	110,164	$	—	$	—
Corporate bonds	82,351		—		82,351		—
Enhanced cash mutual fund	60,302		60,302		—		—
Fixed rate municipal notes and bonds	20,648		—		20,648		—
Collateralized mortgage obligations	12,380		—		12,380		—
U.S. Government agency securities	10,184		—		10,184		—
U.S. Treasury securities	7,148		—		7,148		—
Asset backed debt securities	2,848		—		2,848		—
Other	2,355		—		2,355		—
Trading securities- short term investments:
High yield debt securities	20,783		—		20,783		—
Other debt securities	3,042		—		3,042		—
Trading securities — other current assets:
Domestic equity securities	13,332		13,332		—		—
Foreign equity securities	8,157		4,131		4,026		—
Fixed income mutual funds	3,758		3,758		—		—
Money market funds	3,208		3,208		—		—
U.S. Treasury securities	2,732		—		2,732		—
U.S. Government agency securities	1,371		—		1,371		—
Other	183		157		26		—
Derivatives:
Commodities(1)	15,966		15,958		8		—
Interest rate swaps	1,410		—		1,410		—
Foreign currencies	120		—		120		—
Total Assets	$	382,442	$	211,010	$	171,432	$	—
Liabilities:
Derivatives:
Commodities(1)	$	9,170	$	9,170	$	—	$	—
Interest rate swaps	1,161		—		1,161		—
Foreign currencies	11,652		—		11,652		—
Total Liabilities	$	21,983	$	9,170	$	12,813	$	—

(1) Seaboard’s commodities derivative assets and liabilities are presented in the Condensed Consolidated Balance Sheets on a net basis, including netting the derivatives with the related margin accounts.  As of December 31, 2010, the commodity derivatives had a margin account balance of $2,178,000 resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $8,974,000.

Financial instruments consisting of cash and cash equivalents, net receivables, notes payable, and accounts payable are carried at cost, which approximates fair value, as a result of the short-term nature of the instruments.

As of October 1, 2011, Seaboard measured certain assets at estimated fair value on a nonrecurring basis related to the asset impairment of the ham-boning and processing plant in Mexico incurred during the third quarter of 2011 as discussed in Note 9.  These assets with a total estimated fair value of $3,900,000 as of October 1, 2011, were measured at the level 3 fair value hierarchy using an internal estimate combining market and income approaches.

The fair value of long-term debt is estimated by comparing interest rates for debt with similar terms and maturities. The amortized cost and estimated fair values of investments and long-term debt at October 1, 2011 and December 31, 2010 are presented below.

	2011				2010
(Thousands of dollars)	Amortized Cost		Fair Value		Amortized Cost		Fair Value
Short-term investments, available-for-sale	$	276,141	$	275,906	$	307,015	$	308,380
Short-term investments, trading debt securities	24,801		24,297		22,254		23,825
Long-term debt	155,102		159,409		93,104		96,438

While management believes its derivatives are primarily economic hedges of its firm purchase and sales contracts or anticipated sales contracts, Seaboard does not perform the extensive record-keeping required to account for these types of transactions as hedges for accounting purposes.  Since these derivatives and interest rate exchange agreements discussed below, are not accounted for as hedges, fluctuations in the related commodity prices, currency exchange rates and interest rates could have a material impact on earnings in any given period.  From time to time, Seaboard may enter into speculative derivative transactions not directly related to its raw material requirements.  The nature of Seaboard’s market risk exposure has not changed materially since December 31, 2010.

Commodity Instruments

Seaboard uses various grain, meal, hog, and energy resource related futures and options to manage its risk to price fluctuations for raw materials and other inventories, finished product sales and firm sales commitments.  At October 1, 2011, Seaboard had open net derivative contracts to purchase 3,360,000 pounds of soybean oil and 57,000 tons of soybean meal and open net derivative contracts to sell 3,738,000 gallons of heating oil, 3,038,000 bushels of grain and 6,880,000 pounds of hogs.  At December 31, 2010, Seaboard had open net derivative contracts to purchase 5,880,000 bushels of grain, 2,900 tons of soybean meal and 43,240,000 pounds of hogs and open net derivative contracts to sell 1,806,000 gallons of heating oil.  Commodity derivatives are recorded at fair value with any changes in fair value being marked to market as a component of cost of sales on the Condensed Consolidated Statements of Earnings.

Foreign Currency Exchange Agreements

Seaboard enters into foreign currency exchange agreements to manage the foreign currency exchange rate risk with respect to certain transactions denominated in foreign currencies.  Foreign exchange agreements that were primarily related to an underlying commodity transaction were recorded at fair value with changes in value marked to market as a component of cost of sales on the Condensed Consolidated Statements of Earnings.  Foreign exchange agreements that were not related to an underlying commodity transaction were recorded at fair value with changes in value marked to market as a component of foreign currency gain (loss) on the Condensed Consolidated Statements of Earnings.

At October 1, 2011, Seaboard had trading foreign exchange contracts to cover its firm sales and purchase commitments and related trade receivables and payables with net notional amounts of $115,396,000 primarily related to the South African Rand.

At December 31, 2010, Seaboard had trading foreign exchange contracts to cover its firm sales and purchase commitments and related trade receivables and payables with net notional amounts of $183,042,000 primarily related to the South African Rand.

Interest Rate Exchange Agreements

In May 2010, Seaboard entered into three ten-year interest rate exchange agreements which involve the exchange of fixed-rate and variable-rate interest payments over the life of the agreements without the exchange of the underlying notional amounts to mitigate the effects of fluctuations in interest rates on variable rate debt.  Seaboard pays a fixed rate and receives a variable rate of interest on three notional amounts of $25,000,000 each.  In August 2010, Seaboard entered into another ten-year interest rate exchange agreement with a notional amount of $25,000,000 that has terms similar to those for the other three interest rate exchange agreements referred to above.  While Seaboard has certain variable rate debt, these interest rate exchange agreements do not qualify as hedges for accounting purposes.  Accordingly, the changes in fair value of these agreements are recorded in Miscellaneous, net in the Condensed Consolidated Statement of Earnings.

Counterparty Credit Risk

Seaboard is subject to counterparty credit risk related to its foreign currency exchange agreements and interest rate swaps, should the counterparties fail to perform according to the terms of the contracts.  Seaboard’s foreign currency exchange agreements have a maximum amount of loss due to credit risk in the amount of $13,884,000 with six counterparties.  Seaboard does not hold any collateral related to these agreements.

The following table provides the amount of gain or (loss) recognized for each type of derivative and where it was recognized in the Condensed Consolidated Statement of Earnings for the three and nine months ended October 1, 2011 and October 2, 2010.

		Three Months Ended						Nine Months Ended
(Thousands of dollars)	Location of Gain or (Loss) Recognized in Income	October 1, 2011 Amount of Gain or (Loss) Recognized in Income			October 2, 2010 Amount of Gain or (Loss) Recognized in Income			October 1, 2011 Amount of Gain or (Loss) Recognized in Income			October 2, 2010 Amount of Gain or (Loss) Recognized in Income
Commodities	Cost of sales	$	(10,162	)	$	(29,417	)	$	10,493		$	(6,290	)
Foreign currencies	Cost of sales	14,574			(17,267		)	25,317			(8,191		)
Foreign currencies	Foreign currency	1,027			257			790			(914		)
Interest rate	Miscellaneous, net	(10,394		)	(4,072		)	(12,996		)	(7,197		)

The following table provides the fair value of each type of derivative held as of October 1, 2011 and December 31, 2010 and where each derivative is included on the Condensed Consolidated Balance Sheets.

	Asset Derivatives					Liability Derivatives
	Balance	Fair Value				Balance	Fair Value
(Thousands of dollars)	Sheet Location	October 1, 2011		December 31, 2010		Sheet Location	October 1, 2011		December 31, 2010
Commodities(1)	Other current assets	$	8,475	$	15,966	Other current assets	$	32,092	$	9,170
Foreign currencies	Other current assets	13,884		120		Other current liabilities	938		11,652
Interest rate	Other current assets	—		1,410		Other current liabilities	10,533		1,161

(1) Seaboard’s commodities derivative assets and liabilities are presented in the Condensed Consolidated Balance Sheets on a net basis, including netting the derivatives with the related margin accounts.  As of October 1, 2011 and December 31, 2010, the commodity derivatives had a margin account balance of $29,169,000 and $2,178,000, respectively, resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $5,552,000 and $8,974,000, respectively.