Derivative Financial Instruments

6 Months Ended

Jun. 30, 2011

Derivative Financial Instruments

Derivative Financial Instruments

10. Derivative Financial Instruments

The Company has a mortgage loan, which has a variable rate based on LIBOR (see Note 4 – Borrowing arrangements).  The Company entered into an interest rate swap agreement to manage the interest rate risk associated with this loan.  The critical terms of the swap agreement match the critical terms of the mortgage loan.  Therefore, the Company designated the interest rate swap as a cash flow hedge of the variable rate borrowings.  The Company does not engage in speculative transactions, nor does it hold or issue financial instruments for trading purposes.  The counterparty to the Company's swap agreement is a financial institution with investment grade credit ratings.

Cash Flow Hedging Strategy

For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income (“OCI”) and reclassified into earnings in the same line item associated with the forecasted transaction and in the same period or periods during which the hedged transaction affects earnings (e.g., in “interest expense” when the hedged transactions are interest cash flows associated with variable rate debt).  The remaining gain or loss on the derivative instrument in excess of the cumulative change in the present value of future cash flows of the hedged item, or ineffectiveness, if any, is recognized in the statement of operations during the current period.

The interest rate swap agreement the Company entered into manages the interest rate risk on its mortgage loan described in note 4.  The forward-starting interest rate swap with a notional amount of $32,000,000 converts the variable rate of LIBOR plus 3.35% on the $32,000,000 principal amount of the loan to a fixed rate of 6.4% for the five-year term of the loan.

As the terms of the swap match the terms of the underlying hedged mortgage loan, there should be no gain or loss from the ineffectiveness recognized in income unless there is a termination of the swap or a modification to the mortgage loan terms.  If the loan terms remain unchanged, and all payments are being made when scheduled, there will be no future impact on the Company's results from operations.  Based upon quotes, the fair value of the interest rate swap was a liability of $1,911,000 and $1,691,000 as of June 30, 2011 and December 31, 2010, respectively.

The fair value of the Company's derivative instruments based upon quotes at June 30, 2011 and December 31, 2010 is as follows:

	(in thousands)
	Liability Derivatives
	June 30, 2011		December 31, 2010
Derivatives designated as hedging instruments:
Interest rate swap – cash flow hedge	$	1,911	$	1,691
Total derivatives designated as hedging instruments	$	1,911	$	1,691
Derivatives not designated as hedging instruments:	$	--	$	--
Total derivatives	$	1,911	$	1,691

The effect of derivative instruments on the statement of operations for the six-month periods ended June 30, 2011 and 2010 is as follows (in thousands):

Derivatives in Cash Flow Hedging	Pre-tax Loss Recognized in OCI on Derivative (Effective Portion)						Location of Amount Reclassified	Amount Reclassified from Accumulated OCI into Income
Relationships	2011			2010			from Accumulated OCI into Income	2011		2010
Interest rate swap	$	(220	)	$	(1,688	)	Interest expense	$	--	$	--
Total	$	(220	)	$	(1,688	)	Total	$	--	$	--