Derivatives and Fair Value of Financial Instruments

9 Months Ended

Sep. 29, 2012

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 September 29, 2012 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 2012.  The trading securities classified as other current assets below are assets held for Seaboard’s deferred compensation plans.

	Balance
	September 29,
(Thousands of dollars)	2012		Level 1		Level 2		Level 3
Assets:
Available-for-sale securities - short-term investments:
Corporate bonds	$	135,567	$	-	$	135,567	$	-
Money market funds	84,178		84,178		-		-
Collateralized mortgage obligations	24,816		-		24,816		-
Asset backed debt securities	22,131		-		22,131		-
U.S. Government agency securities	21,094		-		21,094		-
U.S. Treasury securities	21,036		-		21,036		-
Fixed rate municipal notes and bonds	20,631		-		20,631		-
Emerging markets debt mutual fund	18,109		18,109		-		-
Other	683		-		683		-
Trading securities - short-term investments:
High yield debt securities	22,620		-		22,620		-
Emerging markets trading debt mutual fund	3,087		3,087		-		-
Emerging markets trading debt securities	2,483		-		2,483		-
Other debt securities	772		-		772		-
Trading securities - other current assets:
Domestic equity securities	17,783		17,783		-		-
Foreign equity securities	6,453		3,902		2,551		-
Fixed income mutual funds	5,453		5,453		-		-
Money market funds	3,613		3,613		-		-
U.S. Government agency securities	2,301		-		2,301		-
U.S. Treasury securities	1,061		-		1,061		-
Corporate bonds	61		-		61		-
Other	232		186		46		-
Derivatives:
Commodities(1)	11,735		11,735		-		-
Foreign currencies	526		-		526		-
Total Assets	$	426,425	$	148,046	$	278,379	$	-
Liabilities:
Derivatives:
Commodities(1)	$	14,536	$	14,536	$	-	$	-
Interest rate swaps	10,340		-		10,340		-
Foreign currencies	1,414		-		1,414		-
Total Liabilities	$	26,290	$	14,536	$	11,754	$	-

(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 September 29, 2012, the commodity derivatives had a margin account balance of $16,432,000 resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $13,631,000.

The following table shows assets and liabilities measured at fair value on a recurring basis as of December 31, 2011 and also the level within the fair value hierarchy used to measure each category of assets.

	Balance
	December 31,
(Thousands of dollars)	2011			Level 1		Level 2		Level 3
Assets:
Available-for-sale securities - short-term investments:
Money market funds		$	139,420	$	139,420	$	-	$	-
Corporate bonds		89,146		-		89,146		-
Fixed rate municipal notes and bonds		17,788		-		17,788		-
Emerging markets debt mutual fund		16,399		16,399		-		-
Collateralized mortgage obligations		15,011		-		15,011		-
U.S. Government agency securities		9,757		-		9,757		-
U.S. Treasury securities		4,905		-		4,905		-
Asset backed debt securities		3,533		-		3,533		-
Other		1,484		-		1,484		-
Trading securities - short term investments:
High yield debt securities		20,750		-		20,750		-
Emerging markets trading debt mutual fund		2,487		2,487		-		-
Emerging markets trading debt securities		2,355		-		2,355		-
Other debt securities		221		-		221		-
Trading securities - other current assets:
Domestic equity securities		13,563		13,563		-		-
Foreign equity securities		7,490		3,991		3,499		-
Money market funds		4,521		4,521		-		-
Fixed income mutual funds		4,483		4,483		-		-
U.S. Government agency securities		2,085		-		2,085		-
U.S. Treasury securities		1,474		-		1,474		-
Corporate bonds		72		-		72		-
Other		236		159		77		-
Derivatives:
Commodities(1)		5,144		5,144		-		-
Foreign currencies		2,247		-		2,247		-
Total Assets		$	364,571	$	190,167	$	174,404	$	-
Liabilities:
Derivatives:
Commodities(1)		$	5,529	$	5,529	$	-	$	-
Interest rate swaps		11,268		-		11,268		-
Foreign currencies		3,380		-		3,380		-
Total Liabilities		$	20,177	$	5,529	$	14,648	$	-

(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, 2011, the commodity derivatives had a margin account balance of $8,619,000 resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $8,234,000.

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.

The fair value of long-term debt is estimated by comparing interest rates for debt with similar terms and maturities. If Seaboard’s debt was measured at fair value on its Condensed Consolidated Balance Sheets, it would have been classified as level 2 in the fair value hierarchy. The amortized cost and estimated fair values of investments and long-term debt at September 29, 2012 and December 31, 2011 are presented below.

	2012		2011
(Thousands of dollars)	Amortized Cost	Fair Value	Amortized Cost	Fair Value
Short-term investments, available-for-sale	$    344,550	$  348,245	$     297,916	$ 297,443
Short-term investments, trading debt securities	27,161	28,962	25,437	25,813
Long-term debt	183,868	187,930	157,252	161,636

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.  Seaboard also enters 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, 2011.

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 September 29, 2012, Seaboard had open net derivative contracts to purchase 17,652,000 pounds of sugar, 9,929,000 bushels of grain and 220,000 pounds of whey powder and open net derivative contracts to sell 13,400,000 pounds of hogs, 2,310,000 gallons of heating oil and 82,000 tons of soybean meal.  At December 31, 2011, Seaboard had open net derivative contracts to purchase 23,300 tons of soybean meal, 2,580,000 pounds of soybean oil and 2,280,000 pounds of hogs and open net derivative contracts to sell 10,599,000 bushels of grain and 1,176,000 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 Comprehensive Income.

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 Comprehensive Income.  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 Comprehensive Income.

At September 29, 2012 and December 31, 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 $218,127,000 and $158,266,000, respectively, 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.  In September 2012, Seaboard terminated one interest rate exchange agreement with a notional value of $25,000,000. Seaboard made a payment in the amount of $3,861,000 to unwind this agreement. 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 Statements of Comprehensive Income. At September 29, 2012, Seaboard had three interest rate exchange agreements outstanding with a total notional value of $75,000,000 compared to four interest rate exchange agreements outstanding with a total notional value of $100,000,000 at December 31, 2011.

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.  As of September 29, 2012, Seaboard’s foreign currency exchange agreements have a maximum amount of loss due to credit risk in the amount of $526,000 with four 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 Statements of Comprehensive Income for the three and nine months ended September 29, 2012 and October 1, 2011.

(Thousands of dollars)
		Three Months Ended		Nine Months Ended
		September 29, 2012	October 1, 2011	September 29, 2012	October 1, 2011
		Amount of	Amount of	Amount of	Amount of
	Location of	Gain or	Gain or	Gain or	Gain or
	Gain or (Loss)	(Loss)	(Loss)	(Loss)	(Loss)
	Recognized	Recognized	Recognized	Recognized	Recognized
	in Income	in Income	in Income	in Income	in Income
Commodities	Cost of sales	$       1,660	$   (10,162)	$     (6,454)	$    10,493
Foreign currencies	Cost of sales	4,302	14,574	4,003	25,317
Foreign currencies	Foreign currency	(327)	1,027	(3,939)	790
Interest rate	Miscellaneous, net	(1,372)	(10,394)	(5,124)	(12,996)

The following table provides the fair value of each type of derivative held as of September 29, 2012 and December 31, 2011 and where each derivative is included on the Condensed Consolidated Balance Sheets.

(Thousands of dollars)	Asset Derivatives			Liability Derivatives
	Balance	Fair Value			Balance	Fair Value
	Sheet	September 29,	December 31,		Sheet	September 29,	December 31,
	Location	2012	2011		Location	2012	2011
Commodities	Other current assets	$11,735(1)	$    5,144		Other current assets	$ 14,536(1)	$    5,529
Foreign currencies	Other current assets	526	2,247		Other current liabilities	1,414	3,380
Interest rate	Other current assets	-	-		Other current liabilities	10,340	11,268

(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 September 29, 2012 and December 31, 2011, the commodity derivatives had a margin account balance of $16,432,000 and $8,619,000, respectively, resulting in a net other current asset on the Condensed Consolidated Balance Sheets of $13,631,000 and $8,234,000, respectively.