NOTE 5 - DERIVATIVE FINANCIAL INSTRUMENTS

Derivative Instruments and Hedging Activities

We use derivatives to partially offset our exposure to foreign currency, interest rates, aluminum and other commodity risk. We may enter into forward contracts, option contracts, swaps, collars or other derivative instruments to offset some of the risk on expected future cash flows and on certain existing assets and liabilities. However, we may choose not to hedge certain exposures for a variety of reasons including, but not limited to, accounting considerations and the prohibitive economic cost of hedging particular exposures. There can be no assurance the hedges will offset more than a portion of the financial impact resulting from movements in foreign currency exchange rates, interest rates, and aluminum as well as natural gas commodity prices.

To help protect gross margins from fluctuations in foreign currency exchange rates, certain of our subsidiaries, whose functional currency is the U.S. dollar or the Euro, hedge a portion of their forecasted foreign currency costs denominated in the Mexican Peso and Polish Zloty, respectively. We may hedge portions of our forecasted foreign currency exposure up to 48 months.

We record all derivatives in the consolidated balance sheets at fair value. Our accounting treatment for these instruments is based on the hedge designation. The cash flow hedges that are designated as hedging instruments are recorded in Accumulated Other Comprehensive Income (“AOCI”) until the hedged item is recognized in earnings, at which point accumulated gains or losses will be recognized in earnings and classified with the underlying hedged transaction. Derivatives that are not designated as hedging instruments are adjusted to fair value through earnings in the financial statement line item to which the derivative relates. The Company has derivatives that are designated as hedging instruments as well as derivatives that did not qualify for designation as hedging instruments.

Redeemable Preferred Stock Embedded Derivative

We have determined that the conversion option embedded in our redeemable preferred stock is required to be accounted for separately from the redeemable preferred stock as a derivative liability. Separation of the conversion option as a derivative liability is required because its economic characteristics are considered more akin to an equity instrument and therefore the conversion option is not considered to be clearly and closely related to the economic characteristics of the redeemable preferred stock. This is because the economic characteristics of the redeemable preferred stock are considered more akin to a debt instrument due to the fact that the shares are redeemable at the holder’s option, the redemption value is significantly greater than the face amount, the shares carry a fixed mandatory dividend and the stock price necessary to make conversion more attractive than redemption ($56.324) is significantly greater than the price at the date of issuance ($19.05), all of which lead to the conclusion that redemption is more likely than conversion.

We also have determined that the embedded early redemption option upon the occurrence of a redemption event (e.g. change of control, etc.) must also be bifurcated and accounted for separately from the redeemable preferred stock, because the debt host contract involves a substantial discount (face of $150.0 million as compared to the redemption value of $300.0 million) and exercise of the early redemption option would accelerate the holder’s option to redeem the shares.

Accordingly, we have recorded an embedded derivative liability representing the combined fair value of the right of holders to receive common stock upon conversion of redeemable preferred stock at any time (the “conversion option”) and the right of the holders to exercise their early redemption option upon the occurrence of a redemption event (the “early redemption option”). The embedded derivative liability is adjusted to reflect fair value at each period end with changes in fair value recorded in the “Change in fair value of redeemable preferred stock embedded derivative” financial statement line item of the Company’s consolidated income statements (see Note 12, “Redeemable Preferred Stock.”)

A binomial option pricing model is used to estimate the fair value of the conversion and early redemption options embedded in the redeemable preferred stock. The binomial model utilizes a “decision tree” whereby future movement in the Company’s common stock price is estimated based on a volatility factor. The binomial option pricing model requires the development and use of assumptions. These assumptions include estimated volatility of the value of our common stock, assumed possible conversion or early redemption dates, an appropriate risk-free interest rate, risky bond rate and dividend yield.

The expected volatility of the Company’s common stock is estimated based on historical volatility. The assumed base case term used in the valuation model is the period remaining until September 14, 2025 (the earliest date at which the holder may exercise its unconditional redemption option). A number of other scenarios incorporate earlier redemption dates to address the possibility of early redemption upon the occurrence of a redemption event. The risk-free interest rate is based on the yield on the U.S. Treasury zero coupon yield curve with a remaining term equal to the expected term of the conversion and early redemption options. The significant assumptions utilized in the Company’s valuation of the embedded derivative at December 31, 2018 are as follows: valuation scenario terms between 3.00 and 6.70 years, volatility of 58 percent, risk-free rate of 2.5 percent to 2.6 percent related to the respective assumed terms, a risky bond rate of 22 percent and a dividend yield of 7.5 percent.

The following tables display the fair value of derivatives by balance sheet line item at December 31, 2018 and December 31, 2017:


	December 31, 2018
	Other Current Assets		Other Non-current Assets		Accrued Liabilities		Other Non-current Liabilities
(Dollars in thousands)
Foreign exchange forward contracts designated as hedging instruments	$	2,599		1,011		659		6,202
Foreign exchange forward contracts not designated as hedging instruments		333		—		207		—
Aluminum forward contracts designated as hedging instruments		—		—		927		—
Cross currency swap not designated as hedging instrument		—		—		227		—
Natural gas forward contracts designated as hedging instruments		275		—		355		—
Interest rate swap contracts designated as hedging instruments		—		—		131		128
Embedded derivative liability		—		—		—		3,134

Total derivative financial instruments	$	3,207		1,011		2,506		9,464


	December 31, 2017
	Other Current Assets		Other Non-current Assets		Accrued Liabilities		Other Non-current Liabilities
(Dollars in thousands)
Foreign exchange forward contracts and collars designated as hedging instruments	$	3,065		723		4,922		8,405
Foreign exchange forward contracts not designated as hedging instruments		721		—		206		—
Aluminum forward contracts not designated as hedging instruments		1,833		—		—		—
Cross currency swap not designated as hedging instrument		—		—		1,467		1,106
Embedded derivative liability		—		—		—		4,685

Total derivative financial instruments	$	5,619		723		6,595		14,196

The following table summarizes the notional amount and estimated fair value of our derivative financial instruments:


	December 31, 2018					December 31, 2017
	Notional U.S. Dollar Amount		Fair Value			Notional U.S. Dollar Amount		Fair Value
(Dollars in thousands)
Foreign currency forward contracts and collars designated as hedging instruments	$	467,253	$	(3,251	)	$	397,744	$	(9,539	)
Foreign exchange forward contracts not designated as hedging instruments		45,905		126			23,305		515
Aluminum forward contracts not designated as hedges		10,810		(927	)		15,564		1,833
Cross currency swap not designated as hedging instrument		12,151		(227	)		36,454		(2,573	)
Natural gas forward contracts designated as hedging instrument		2,165		(80	)		—		—
Interest rate swap contracts designated as hedging instrument		90,000		(259	)		—		—

Total derivative financial instruments	$	628,284	$	(4,618	)	$	473,067	$	(9,764	)

Notional amounts are presented on a gross basis. The notional amounts of the derivative financial instruments do not represent amounts exchanged by the parties and, therefore, are not a direct measure of our exposure to the financial risks described above. The amounts exchanged are calculated by reference to the notional amounts and by other terms of the derivatives, such as interest rates, foreign currency exchange rates or commodity volumes and prices.

The following tables summarize the gain or loss recognized in accumulated other comprehensive income (loss) (“AOCI”) as of December 31, 2018, 2017 and 2016 the amounts reclassified from AOCI into earnings and the amounts recognized directly into earnings for the years ended December 31, 2018, 2017 and 2016:


Year ended December 31, 2018	Amount of Gain or (Loss) Recognized in AOCI on Derivatives			Amount of Pre-tax Gain or (Loss) Reclassified from AOCI into Income			Amount of Pre-tax Gain or (Loss) Recognized in Income on Derivatives
(Dollars in thousands)
Derivative Contracts	$	5,293		$	728		$	(406	)

Total	$	5,293		$	728		$	(406	)


Year ended December 31, 2017	Amount of Gain or (Loss) Recognized in AOCI on Derivatives (Effective Portion)			Amount of Pre-tax Gain or (Loss) Reclassified from AOCI into Income (Effective Portion)			Amount of Pre-tax Gain or (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)
(Dollars in thousands)
Derivative Contracts	$	7,603		$	(4,539	)	$	(538	)

Total	$	7,603		$	(4,539	)	$	(538	)


Year ended December 31, 2016	Amount of Gain or (Loss) Recognized in AOCI on Derivatives (Effective Portion)			Amount of Pre-tax Gain or (Loss) Reclassified from AOCI into Income (Effective Portion)			Amount of Pre-tax Gain or (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing)
(Dollars in thousands)
Derivative Contracts	$	(6,812	)	$	(13,597	)	$	(156	)

Total	$	(6,812	)	$	(13,597	)	$	(156	)