Financial Instruments and Derivatives

9 Months Ended

Oct. 04, 2015

Financial Instruments and Derivatives

E. 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.

Marketable Securities

Teradyne accounts for its investments in debt and equity securities in accordance with the provisions of Accounting Standards Codification (“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 October 4, 2015, 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 and nine months ended October 4, 2015. 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 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.

Teradyne’s available-for-sale fixed income securities are classified as Level 2. Contingent consideration is classified as Level 3. The vast 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.

Realized losses recorded in the nine months ended October 4, 2015 were $0.2 million. There were no realized losses recorded in the three and nine months ended September 28, 2014. Realized gains recorded in the three and nine months ended October 4, 2015 were $0.4 million and $1.4 million, respectively. Realized gains recorded in the three and nine months ended September 28, 2014 were $1.0 million and $1.7 million, respectively. Realized gains are included in interest income and realized losses are included in interest expense. Unrealized gains and losses are included in accumulated other comprehensive income (loss). The cost of securities sold is based on the specific identification method.

During the nine months ended October 4, 2015 and September 28, 2014, 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 October 4, 2015 and December 31, 2014.

	October 4, 2015
	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	$	159,858	$	—	$	—	$	159,858
Cash equivalents		125,879		8,480		—		134,359
Available-for-sale securities:
U.S. Treasury securities		—		349,653		—		349,653
U.S. government agency securities		—		213,491		—		213,491
Corporate debt securities		—		114,807		—		114,807
Certificates of deposit and time deposits		—		45,677		—		45,677
Commercial paper		—		45,510		—		45,510
Equity and debt mutual funds		13,377		—		—		13,377
Non-U.S. government securities		—		426		—		426
Total	$	299,114	$	778,044	$	—	$	1,077,158
Derivative assets		—		109		—		109
Total	$	299,114	$	778,153	$	—	$	1,077,267
Liabilities
Contingent consideration	$	—	$	—	$	34,595	$	34,595
Derivative liabilities		—		97		—		97
Total	$	—	$	97	$	34,595	$	34,692

Reported as follows:

	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	285,737	$	8,480	$	—	$	294,217
Marketable securities		—		525,381		—		525,381
Long-term marketable securities		13,377		244,183		—		257,560
Prepayments		—		109		—		109
	$	299,114	$	778,153	$	—	$	1,077,267
Liabilities
Other current liabilities	$	—	$	97	$	—	$	97
Contingent consideration		—		—		14,447		14,447
Long-term contingent consideration		—		—		20,148		20,148
	$	—	$	97	$	34,595	$	34,692

	December 31, 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	$	111,471	$	—	$	—	$	111,471
Cash equivalents		160,218		22,567		—		182,785
Available-for-sale securities:
U.S. Treasury securities		—		402,154		—		402,154
U.S. government agency securities		—		258,502		—		258,502
Corporate debt securities		—		141,467		—		141,467
Commercial paper		—		140,638		—		140,638
Certificates of deposit and time deposits		—		49,036		—		49,036
Equity and debt mutual funds		12,333		—		—		12,333
Non-U.S. government securities		—		446		—		446
Total	$	284,022	$	1,014,810	$	—	$	1,298,832
Derivative assets		—		220		—		220
Total	$	284,022	$	1,015,030	$	—	$	1,299,052
Liabilities
Contingent consideration	$	—	$	—	$	3,350	$	3,350
Derivative liabilities		—		369		—		369
Total	$	—	$	369	$	3,350	$	3,719

Reported as follows:

	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	271,689	$	22,567	$	—	$	294,256
Marketable securities		—		533,787		—		533,787
Long-term marketable securities		12,333		458,456		—		470,789
Prepayments		—		220		—		220
	$	284,022	$	1,015,030	$	—	$	1,299,052
Liabilities
Other current liabilities	$	—	$	369	$	—		369
Contingent consideration		—		—		895		895
Long-term contingent consideration		—		—		2,455		2,455
	$	—	$	369	$	3,350	$	3,719

Changes in the fair value of Level 3 contingent consideration for the three and nine months ended October 4, 2015 and September 28, 2014 were as follows:

	For the Three Months Ended						For the Nine Months Ended
	October 4, 2015			September 28, 2014			October 4, 2015			September 28, 2014
	(in thousands)
Balance at beginning of period	$	35,595		$	2,230		$	3,350		$	2,230
Acquisition of Universal Robots		—			—			33,845			—
Fair value adjustment(a)(b)		(1,000	)		(630	)		(2,600	)		(630	)
Balance at end of period	$	34,595		$	1,600		$	34,595		$	1,600

(a) In the three and nine months ended October 4, 2015, the fair value of contingent consideration for the earn-out in connection with the acquisition of AIT was reduced by $1.0 million due to a decrease in the revenue probabilities in the periods of 2015 and 2016.

(b) In the nine months ended October 4, 2015, the fair value measurement of the contingent consideration for the earn-out in connection with the acquisition of ZTEC Instruments, Inc. was reduced by $1.6 million, to $0, because Teradyne and the Securityholder Representative, on behalf of the ZTEC securityholders, agreed to terminate the earn-out prior to the end of the December 31, 2015 earn-out period, with no payout in connection with the resolution of indemnity claims asserted by both Teradyne and the Securityholder Representative.

The following table provides quantitative information associated with the fair value measurement of Teradyne’s Level 3 financial instruments:

Liability	October 4, 2015 Fair Value	Valuation Technique	Unobservable Inputs	Weighted Average
	(in thousands)
Contingent consideration (Universal Robots)	$33,845	Income approach- discounted cash flow	EBITDA earn-out for calendar year 2015 probability		99	%
			Discount rate		6.0	%
			Revenue earn-out for period July 1, 2015—December 31, 2017 probability		72	%
			Discount rate		8.0	%
			Revenue earn-out for period July 1, 2015—December 31, 2018 probability		29	%
			Discount rate		10.0	%
Contingent consideration (AIT)	$750	Income approach- discounted cash flow	Revenue earn-out for calendar years 2015 and 2016 probability		36	%
			Discount rate		4.7	%

The significant unobservable inputs used in the Universal Robots fair value measurement of contingent consideration are the probabilities of successful achievement of revenue thresholds and targets in the periods July 1, 2015—December 31, 2017 and July 1, 2015—December 31, 2018 and EBITDA threshold and target for calendar year 2015, and respective discount rates. Increases or decreases in the revenue and EBITDA probabilities and the period in which results will be achieved would result in a higher or lower fair value measurement. The maximum amount of contingent consideration in connection with the acquisition of Universal Robots that could be paid is $65 million. The earn-out periods in connection with the Universal Robots acquisition end on December 31, 2015, December 31, 2017 and December 31, 2018.

The significant unobservable inputs used in the AIT fair value measurement of contingent consideration are the probabilities of successful achievement of calendar year 2015 and 2016 revenue thresholds and targets, and a discount rate. Increases or decreases in the revenue probabilities and the period in which results will be achieved would result in a higher or lower fair value measurement. The maximum amount of contingent consideration in connection with the acquisition of AIT that could be paid is $2.1 million. The earn-out periods in connection with the AIT acquisition end on December 31, 2015 and December 31, 2016.

In the three and nine months ended October 4, 2015, the fair value of contingent consideration for the earn-out in connection with the acquisition of AIT was reduced by $1.0 million due to a decrease in the revenue probabilities in the periods of 2015 and 2016.

The carrying amounts and fair values of Teradyne’s financial instruments at October 4, 2015 and December 31, 2014 were as follows:

	October 4, 2015				December 31, 2014
	Carrying Value		Fair Value		Carrying Value		Fair Value
	(in thousands)
Assets
Cash and cash equivalents	$	294,217	$	294,217	$	294,256	$	294,256
Marketable securities		782,941		782,941		1,004,576		1,004,576
Derivative assets		109		109		220		220
Liabilities
Contingent consideration		34,595		34,595		3,350		3,350
Derivative liabilities		97		97		369		369

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

The following tables summarize the composition of available-for-sale marketable securities at October 4, 2015 and December 31, 2014:

	October 4, 2015
	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	$	349,464	$	385	$	(196	)	$	349,653	$	19,260
U.S. government agency securities		213,149		342		—			213,491		—
Corporate debt securities		115,130		1,305		(1,628	)		114,807		48,369
Certificates of deposit and time deposits		45,652		25		—			45,677		3,505
Commercial paper		45,498		12		—			45,510		—
Equity and debt mutual funds		12,291		1,183		(97	)		13,377		1,900
Non-U.S. government securities		426		—		—			426		—
	$	781,610	$	3,252	$	(1,921	)	$	782,941	$	73,034

Reported as follows:

	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	525,052	$	335	$	(6	)	$	525,381	$	27,172
Long-term marketable securities		256,558		2,917		(1,915	)		257,560		45,862
	$	781,610	$	3,252	$	(1,921	)	$	782,941	$	73,034

	December 31, 2014
	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	$	402,197	$	362	$	(405	)	$	402,154	$	317,771
U.S. government agency securities		258,452		135		(85	)		258,502		104,642
Corporate debt securities		139,374		2,414		(321	)		141,467		96,998
Commercial paper		140,616		26		(4	)		140,638		41,747
Certificates of deposit and time deposits		49,048		11		(23	)		49,036		20,684
Equity and debt mutual funds		10,492		1,870		(29	)		12,333		1,234
Non-U.S. government securities		446		—		—			446		—
	$	1,000,625	$	4,818	$	(867	)	$	1,004,576	$	583,076

Reported as follows:

	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	533,833	$	99	$	(145	)	$	533,787	$	240,234
Long-term marketable securities		466,792		4,719		(722	)		470,789		342,842
	$	1,000,625	$	4,818	$	(867	)	$	1,004,576	$	583,076

As of October 4, 2015, unrealized losses on marketable securities were $1.9 million and the fair market value of investments with unrealized losses was $73.0 million. Of this value, $0.3 million had unrealized losses greater than one year and $72.7 million had unrealized losses less than one year. As of December 31, 2014, unrealized losses on marketable securities were $0.9 million and the fair market value of investments with unrealized losses was $583.1 million. Of this value, $2.3 million had unrealized losses greater than one year and $580.8 million had unrealized losses less than one year.

Teradyne reviews its investments to identify and evaluate investments that have an indication of possible impairment. Based on this review, Teradyne determined that the unrealized losses related to these investments, at October 4, 2015 and December 31, 2014, were temporary.

The contractual maturities of investments held at October 4, 2015 were as follows:

	October 4, 2015
	Cost		Fair Market Value
	(in thousands)
Due within one year	$	525,052	$	525,381
Due after 1 year through 5 years		199,957		200,305
Due after 5 years through 10 years		6,075		6,191
Due after 10 years		38,235		37,687
Total	$	769,319	$	769,564

Contractual maturities of investments held at October 4, 2015 exclude equity and debt mutual funds as they do not have contractual maturity dates.

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 monetary assets and liabilities denominated in foreign currencies.

The notional amount of foreign currency forward contracts was $91.5 million and $73.0 million at October 4, 2015 and December 31, 2014, respectively. The fair value of the outstanding contracts was $0.0 million and a loss of $0.1 million at October 4, 2015 and December 31, 2014, respectively.

In the three and nine months ended October 4, 2015, Teradyne recorded a net realized loss of $0.8 million and $2.7 million, respectively, related to foreign currency forward contracts hedging net monetary positions.

In the three months ended September 28, 2014, Teradyne recorded a net realized gain of $0.2 million related to foreign currency forward contracts hedging net monetary positions. In the nine months ended September 28, 2014, Teradyne recorded a net realized loss of $1.6 million 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 other (income) expense, net.

The following table summarizes the fair value of derivative instruments at October 4, 2015 and December 31, 2014:

	Balance Sheet Location	October 4, 2015			December 31, 2014
		(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts assets	Prepayments	$	109		$	220
Foreign exchange contracts liabilities	Other current liabilities		(97	)		(369	)
Total derivatives		$	12		$	(149	)

Teradyne’s foreign exchange contracts are subject to master netting agreements.

The following table summarizes the effect of derivative instruments recognized in the statement of operations during the three and nine months ended October 4, 2015 and September 28, 2014. The table does not reflect the corresponding gains and losses from the remeasurement of monetary assets and liabilities denominated in foreign currencies. For the three and nine months ended October 4, 2015, net gains from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $0.1 million and $2.3 million, respectively. For the three months ended September 28, 2014, net losses from the remeasurement of monetary

assets and liabilities denominated in foreign currencies were $0.4 million. For the nine months ended September 28, 2014, net gains from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $0.9 million.

	Location of (Gains) Losses Recognized in Statement of Operations	For the Three Months Ended				For the Nine Months Ended
		October 4, 2015		September 28, 2014		October 4, 2015		September 28, 2014
		(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts	Other (income) expense, net	$	677	$	237	$	2,555	$	(1,632	)
Total Derivatives		$	677	$	237	$	2,555	$	(1,632	)

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