Financial Instruments and Derivatives

3 Months Ended

Mar. 30, 2014

Financial Instruments and Derivatives

D. Financial Instruments and Derivatives

Cash Equivalents

Teradyne considers all highly liquid investments with maturities of three months or less at the date of acquisition to be cash equivalents.

Financial Instruments

Teradyne accounts for its investments in debt and equity securities in accordance with the provisions of ASC 320-10, “Investments—Debt and Equity Securities.” ASC 320-10 requires that certain debt and equity securities be classified into one of three categories; trading, available-for-sale or held-to-maturity securities. As of March 30, 2014, Teradyne’s investments in debt and equity securities were classified as available-for-sale and recorded at their fair market value.

On a quarterly basis, Teradyne reviews its investments to identify and evaluate those that have an indication of a potential other-than-temporary impairment. Factors considered in determining whether a loss is other-than-temporary include:

• The length of time and the extent to which the market value has been less than cost;

• The financial condition and near-term prospects of the issuer; and

• The intent and ability to retain the investment in the issuer for a period of time sufficient to allow for any anticipated recovery in market value.

Teradyne uses the market and income approach techniques to value its financial instruments and there were no changes in valuation techniques during the three months ended March 30, 2014. As defined in ASC 820-10 “Fair Value Measurements and Disclosures”, fair value is the price that would be received from the sale of an asset or paid to transfer a liability in an orderly transaction between market participants. ASC 820-10 requires that assets and liabilities carried at fair value be classified and disclosed in one of the following three categories:

Level 1: Quoted prices in active markets for identical assets as of the reporting date.

Level 2: Inputs other than Level 1, that are observable either directly or indirectly as of the reporting date. For example, a common approach for valuing fixed income securities is the use of matrix pricing. Matrix pricing is a mathematical technique used to value securities by relying on the securities’ relationship to other benchmark quoted prices, and therefore is considered a Level 2 input.

Level 3: Unobservable inputs that are not supported by market data. Unobservable inputs are developed based on the best information available, which might include Teradyne’s own data.

Most of Teradyne’s fixed income securities are classified as Level 2, with the exception of U.S. Treasury securities and investments in equity and debt mutual funds, which are classified as Level 1, and contingent consideration, which is classified as Level 3. The majority of Level 2 securities are priced by third party pricing vendors. These pricing vendors utilize the most recent observable market information in pricing these securities or, if specific prices are not available, use other observable inputs like market transactions involving identical or comparable securities.

There were no realized losses recorded in the three months ended March 30, 2014 and March 31, 2013. Realized gains recorded in the three months ended March 30, 2014 and March 31, 2013, were $0.3 million and $0.3 million, respectively. Realized gains are included in interest income.

During the three months ended March 30, 2014 and March 31, 2013, there were no transfers in or out of Level 1, Level 2 or Level 3 financial instruments.

The following table sets forth by fair value hierarchy Teradyne’s financial assets and liabilities that were measured at fair value on a recurring basis as of March 30, 2014 and December 31, 2013.

	March 30, 2014
	Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
	(in thousands)
Assets
Cash	$	131,722	$	—	$	—	$	131,722
Cash equivalents		87,894		13,010		—		100,904
Available-for-sale securities:
U.S. Treasury securities		321,296		—		—		321,296
U.S. government agency securities		—		191,863		—		191,863
Commercial paper		—		116,767		—		116,767
Corporate debt securities		—		82,787		—		82,787
Equity and debt mutual funds		14,171		—		—		14,171
Certificates of deposit and time deposits		—		7,257		—		7,257
Non-U.S. government securities		—		77		—		77
Total		555,083		411,761		—		966,844
Derivatives		—		209		—		209
Total	$	555,083	$	411,970	$	—	$	967,053
Liabilities
Contingent consideration	$	—	$	—	$	2,230	$	2,230
Total	$	—	$	—	$	2,230	$	2,230

Reported as follows:

	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	219,616	$	13,010	$	—	$	232,626
Marketable securities		214,230		247,920		—		462,150
Long-term marketable securities		121,237		150,831		—		272,068
Other current assets		—		209		—		209
	$	555,083	$	411,970	$	—	$	967,053
Liabilities
Long-term other accrued liabilities	$	—	$	—	$	2,230	$	2,230
	$	—	$	—	$	2,230	$	2,230

	December 31, 2013
	Quoted Prices in Active Markets for Identical Instruments (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)		Total
	(in thousands)
Assets
Cash	$	117,242	$	—	$	—	$	117,242
Cash equivalents		165,865		58,531		—		224,396
Available-for-sale securities:
U.S. Treasury securities		467,895		—		—		467,895
U.S. government agency securities		—		202,588		—		202,588
Commercial paper		—		105,598		—		105,598
Corporate debt securities		—		65,387		—		65,387
Equity and debt mutual funds		13,156		—		—		13,156
Certificates of deposit and time deposits		—		3,258		—		3,258
Non-U.S. government securities		—		78		—		78
Total		764,158		435,440		—		1,199,598
Derivatives		—		153		—		153
Total	$	764,158	$	435,593	$	—	$	1,199,751
Liabilities
Contingent consideration	$	—	$	—	$	2,230	$	2,230
Total	$	—	$	—	$	2,230	$	2,230

Reported as follows:

	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	283,107	$	58,531	$	—	$	341,638
Marketable securities		371,101		215,781		—		586,882
Long-term marketable securities		109,950		161,128		—		271,078
Other current assets		—		153		—		153
	$	764,158	$	435,593	$	—	$	1,199,751
Liabilities
Long-term other accrued liabilities	$	—	$	—	$	2,230	$	2,230
	$	—	$	—	$	2,230	$	2,230

Contingent consideration relates to Teradyne’s acquisition of ZTEC on October 25, 2013. The total purchase price included $2.2 million in fair value of contingent consideration payable upon achievement of certain customer order and revenue targets through 2015. The maximum amount of contingent consideration that could be paid is $5.0 million. Based on the projected results for the acquisition, no value was assigned to the revenue component of the contingent consideration.

The valuation of the customer order component of the contingent consideration utilized the following assumptions: (1) probability of meeting each benchmark; (2) expected timing of meeting each benchmark; and (3) discount rate reflecting the risk associated with the expected payments. The probabilities and timing for each benchmark were estimated based on a review of the historical and projected results. A discount rate of 5.2 percent was selected based on the cost of debt for the business, as a significant portion of the risk in achieving the customer order contingent consideration was captured in the probabilities assigned to meeting each benchmark. There were no changes to the fair value of the contingent consideration during the three months ended March 30, 2014.

Changes in the fair value of Level 3 contingent consideration for the three months ended March 30, 2014 and March 31, 2013 were as follows:

	For the Three Months Ended March 30, 2014
	(in thousands)
Balance at December 31, 2013	$	2,230
Contingent consideration payments		—
Balance at March 30, 2014	$	2,230

	For the Three Months Ended March 31, 2013
	(in thousands)
Balance at December 31, 2012	$	388
Contingent consideration payments		(313	)
Balance at March 31, 2013	$	75

The carrying amounts and fair values of Teradyne’s financial instruments at March 30, 2014 and December 31, 2013 were as follows:

	March 30, 2014				December 31, 2013
	Carrying Value		Fair Value		Carrying Value		Fair Value
	(in thousands)
Cash and cash equivalents	$	232,626	$	232,626	$	341,638	$	341,638
Marketable securities		734,218		734,218		857,960		857,960
Convertible debt(1)		—		—		185,708		611,433
Japan loan		—		—		955		955

(1) The carrying value represents the bifurcated debt component only, while the fair value is based on quoted market prices for the convertible note which includes the equity conversion feature.

The fair values of cash and cash equivalents, accounts receivable, net and accounts payable approximate the carrying amount due to the short-term nature of these instruments.

The following tables summarize the composition of available-for-sale marketable securities at March 30, 2014 and December 31, 2013:

	March 30, 2014
	Available-for-Sale									Fair Market Value of Investment with  Unrealized Losses
	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value
	(in thousands)
U.S. Treasury securities	$	321,184	$	236	$	(124	)	$	321,296	$	23,205
U.S. government agency securities		191,856		92		(85	)		191,863		91,951
Commercial paper		116,758		13		(4	)		116,767		38,906
Corporate debt securities		81,913		1,337		(463	)		82,787		49,413
Equity and debt mutual funds		11,483		2,725		(37	)		14,171		810
Certificates of deposit and time deposits		7,257		—		—			7,257		—
Non-U.S. government securities		77		—		—			77		—
	$	730,528	$	4,403	$	(713	)	$	734,218	$	204,285

Reported as follows:

	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	462,031	$	146	$	(27	)	$	462,150	$	99,303
Long-term marketable securities		268,497		4,257		(686	)		272,068		104,982
	$	730,528	$	4,403	$	(713	)	$	734,218	$	204,285

	December 31, 2013
	Available-for-Sale									Fair Market Value of Investments with  Unrealized Losses
	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value
	(in thousands)
U.S. Treasury securities	$	468,084	$	94	$	(283	)	$	467,895	$	108,212
U.S. government agency securities		202,573		75		(60	)		202,588		84,498
Commercial paper		105,583		16		(1	)		105,598		7,993
Corporate debt securities		65,747		762		(1,122	)		65,387		40,355
Equity and debt mutual funds		10,463		2,742		(49	)		13,156		702
Certificates of deposit and time deposits		3,258		—		—			3,258		—
Non-U.S. government securities		78		—		—			78		—
	$	855,786	$	3,689	$	(1,515	)	$	857,960	$	241,760

Reported as follows:

	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	586,818	$	85	$	(21	)	$	586,882	$	137,670
Long-term marketable securities		268,968		3,604		(1,494	)		271,078		104,090
	$	855,786	$	3,689	$	(1,515	)	$	857,960	$	241,760

As of March 30, 2014, the fair market value of investments with unrealized losses was $204.3 million. Of this value, $0.9 million had unrealized losses greater than one year and $203.4 million had unrealized losses less than one year. As of December 31, 2013, the fair market value of investments with unrealized losses was $241.8 million. Of this value, $0.9 million had unrealized losses greater than one year and $240.9 million had unrealized losses less than one year.

The contractual maturities of investments held at March 30, 2014 were as follows:

	March 30, 2014
	Cost		Fair Market Value
	(in thousands)
Due within one year	$	462,031	$	462,150
Due after 1 year through 5 years		226,558		226,607
Due after 5 years through 10 years		5,854		5,954
Due after 10 years		24,602		25,336
Total	$	719,045	$	720,047

Contractual maturities of investments held at March 30, 2014 exclude equity and debt mutual funds as they do not have a contractual maturity date.

Derivatives

Teradyne conducts business in a number of foreign countries, with certain transactions denominated in local currencies. The purpose of Teradyne’s foreign currency management is to minimize the effect of exchange rate fluctuations on certain foreign currency denominated monetary assets and liabilities. Teradyne does not use derivative financial instruments for trading or speculative purposes.

To minimize the effect of exchange rate fluctuations associated with the remeasurement of monetary assets and liabilities denominated in foreign currencies, Teradyne enters into foreign currency forward contracts. The change in fair value of these derivatives is recorded directly in earnings, and is used to offset the change in value of the monetary assets and liabilities denominated in foreign currencies.

The notional amount of foreign currency forward contracts was $66.8 million and $74.8 million at March 30, 2014 and December 31, 2013, respectively.

The fair value of the outstanding contracts was a gain of $0.2 million and $0.2 million at March 30, 2014 and December 31, 2013, respectively. The following table summarizes the fair value of derivative instruments at March 30, 2014 and December 31, 2013:

	Balance Sheet Location		March 30, 2014		December 31, 2013
			(in thousands)
Derivatives not designated as hedging instruments:
Foreign currency forward contracts		Other current assets	$	209	$	153
			$	209	$	153

Teradyne had no offsetting foreign exchange contracts at March 30, 2014 and December 31, 2013.

In the three months ended March 30, 2014 and March 31, 2013, Teradyne recorded net realized losses of $0.7 million and net realized gains of $2.2 million, respectively, related to foreign currency forward contracts hedging net monetary positions. Gains and losses on foreign currency forward contracts and foreign currency remeasurement gains and losses on monetary assets and liabilities are included in interest expense and other.

The following table summarizes the effect of derivative instruments recognized in the statement of operations during the three months ended March 30, 2014 and March 31, 2013. The table does not reflect the corresponding gains (losses) from the remeasurement of the monetary assets and liabilities denominated in foreign currencies. For the three months ended March 30, 2014 and March 31, 2013, gains (losses) from the remeasurement of the monetary assets and liabilities denominated in foreign currencies were $0.6 million and $(2.8) million, respectively.

	Location of (Losses) Gains Recognized in Statement of Operations	For the Three Months Ended
		March 30, 2014			March 31, 2013
		(in thousands)
Derivatives not designated as hedging instruments:
Foreign currency forward contracts	Interest expense and other	$	(747	)	$	2,248
		$	(747	)	$	2,248

See Note E: “Debt” regarding derivatives related to convertible senior notes.