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 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 July 3, 2016, 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 six months ended July 3, 2016. 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; or

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 debt and equity securities are classified as Level 1 and Level 2. Acquisition-related contingent consideration is classified as Level 3. Teradyne’s contingent consideration is valued using a Monte Carlo simulation model or a probability weighted discounted cash flow model. The majority of Level 2 securities are fixed income securities 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 gains recorded in the three and six months ended July 3, 2016 were $0.3 million and $0.4 million, respectively. Realized losses recorded in the three and six months ended July 3, 2016 were $0.2 million and $0.3 million, respectively. Realized gains recorded in the three and six months ended July 5, 2015 were $0.4 million and $1.0 million, respectively. Realized losses recorded in the three and six months ended July 5, 2015 were $0.1 million and $0.1 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 three and six months ended July 3, 2016 and July 5, 2015, 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 July 3, 2016 and December 31, 2015.


	July 3, 2016
	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	$	196,155	$	—	$	—	$	196,155
Cash equivalents		125,314		59,626		—		184,940
Available-for-sale securities:
U.S. Treasury securities		—		475,631		—		475,631
Corporate debt securities		—		143,598		—		143,598
Commercial paper		—		32,978		—		32,978
Certificates of deposit and time deposits		—		27,974		—		27,974
U.S. government agency securities		—		27,218		—		27,218
Equity and debt mutual funds		16,674		—		—		16,674
Non-U.S. government securities		—		626		—		626

Total		338,143		767,651		—		1,105,794
Derivative assets		—		5		—		5

Total	$	338,143	$	767,656	$	—	$	1,105,799

Liabilities
Contingent consideration	$	—	$	—	$	24,914	$	24,914
Derivative liabilities		—		93		—		93

Total	$	—	$	93	$	24,914	$	25,007

Reported as follows:


	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	321,469	$	59,626	$	—	$	381,095
Marketable securities		—		442,154		—		442,154
Long-term marketable securities		16,674		265,871		—		282,545
Prepayments		—		5		—		5

	$	338,143	$	767,656	$	—	$	1,105,799

Liabilities		.
Other accrued liabilities	$	—	$	93	$	—	$	93
Contingent consideration		—		—		1,050		1,050
Long-term contingent consideration		—		—		23,864		23,864

	$	—	$	93	$	24,914	$	25,007


	December 31, 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	$	213,336	$	—	$	—	$	213,336
Cash equivalents		49,241		2,128		—		51,369
Available for sale securities:
U.S. Treasury securities		—		419,958		—		419,958
Corporate debt securities		—		161,634		—		161,634
U.S. government agency securities		—		83,952		—		83,952
Certificates of deposit and time deposits		—		43,394		—		43,394
Commercial paper		—		20,308		—		20,308
Equity and debt mutual funds		13,954		—		—		13,954
Non-U.S. government securities		—		424		—		424

Total	$	276,531	$	731,798	$	—	$	1,008,329
Derivative assets		—		109		—		109

Total	$	276,531	$	731,907	$	—	$	1,008,438

Liabilities
Contingent consideration	$	—	$	—	$	37,436	$	37,436
Derivative liabilities		—		146		—		146

Total	$	—	$	146	$	37,436	$	37,582

Reported as follows:


	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	262,577	$	2,128	$	—	$	264,705
Marketable securities		—		477,696		—		477,696
Long-term marketable securities		13,954		251,974		—		265,928
Prepayments		—		109		—		109

	$	276,531	$	731,907	$	—	$	1,008,438

Liabilities
Other accrued liabilities	$	—	$	146	$	—	$	146
Contingent consideration		—		—		15,500		15,500
Long-term contingent consideration		—		—		21,936		21,936

	$	—	$	146	$	37,436	$	37,582

Changes in the fair value of Level 3 contingent consideration for the three and six months ended July 3, 2016 and July 5, 2015 were as follows:


	For the Three Months Ended					For the Six Months Ended
	July 3, 2016		July 5, 2015			July 3, 2016			July 5, 2015
	(in thousands)
Balance at beginning of period	$	23,609	$	3,350		$	37,436		$	3,350
Acquisition of Universal Robots		—		33,845			—			33,845
Payments (a)		—		—			(15,000	)		—
Fair value adjustment (b)(c)(d)		1,305		(1,600	)		2,478			(1,600	)

Balance at end of period	$	24,914	$	35,595		$	24,914		$	35,595

(a)	In the six months ended July 3, 2016, based on Universal Robots’ calendar year 2015 EBITDA results, Teradyne paid $15 million or 100% of the eligible EBITDA contingent consideration amount.

(b)	In the three and six months ended July 3, 2016, the fair value of contingent consideration for the earn-out in connection with the acquisition of Universal Robots was increased by $0.8 million and $1.9 million, respectively, primarily due to a decrease in the discount rate.

(c)	In the three and six months ended July 3, 2016, the fair value of contingent consideration for the earn-out in connection with the acquisition of Avionics Interface Technology, LLC (“AIT”) was increased by $0.6 million due to an increase in forecasted revenue.

(d)

In the three and six months ended July 5, 2015, the fair value measurement of the contingent consideration for the earn-out in connection with the acquisition of ZTEC Instruments, Inc. (“ZTEC”) was reduced 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

July 3,
2016
Fair Value

Valuation
Technique

Unobservable Inputs

Weighted
Average

(in thousands)

Contingent consideration (Universal Robots)

$16,922

Monte Carlo

Simulation

Revenue for the period July 1, 2015—December 31, 2017 volatility

15.6%

Discount Rate

4.0%

$6,942

Monte Carlo
Simulation

Revenue for the period July 1, 2015—December 31, 2018 volatility

15.6%

Discount Rate

4.0%

Contingent consideration

(AIT)

$1,050

Income approach-

discounted cash

flow

Revenue for calendar year 2016 probability

Discount Rate

100%

4.0%

As of July 3, 2016, the significant unobservable inputs used in the Monte Carlo simulation to fair value the Universal Robots contingent consideration include forecasted revenue, revenue volatility and discount rate. Increases or decreases in the inputs would result in a higher or lower fair value measurement. The maximum payment for each of the two Universal Robots revenue earn-outs is $25.0 million.

The significant unobservable inputs used in the AIT fair value measurement of contingent consideration are the probabilities of successful achievement of calendar year 2016 revenue threshold and target, and a discount rate. Increases or decreases in the revenue probabilities would result in a higher or lower fair value measurement. The maximum payment for the AIT earn-out is $1.1 million.

The carrying amounts and fair values of Teradyne’s financial instruments at July 3, 2016 and December 31, 2015 were as follows:


	July 3, 2016				December 31, 2015
	Carrying Value		Fair Value		Carrying Value		Fair Value
	(in thousands)
Assets
Cash and cash equivalents	$	381,095	$	381,095	$	264,705	$	264,705
Marketable securities		724,699		724,699		743,624		743,624
Derivative assets		5		5		109		109
Liabilities
Contingent consideration		24,914		24,914		37,436		37,436
Derivative liabilities		93		93		146		146

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 July 3, 2016 and December 31, 2015:


	July 3, 2016
	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	$	473,958	$	1,684	$	(11	)	$	475,631	$	118,777
Corporate debt securities		140,995		3,060		(457	)		143,598		40,862
Commercial paper		32,959		19		—			32,978		—
Certificates of deposit and time deposits		27,958		16		—			27,974		—
U.S. government agency securities		27,151		67		—			27,218		2,421
Equity and debt mutual funds		15,278		1,424		(28	)		16,674		937
Non-U.S. government securities		610		16		—			626		—

	$	718,909	$	6,286	$	(496	)	$	724,699	$	162,997

Reported as follows:


	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	441,840	$	336	$	(22	)	$	442,154	$	89,416
Long-term marketable securities		277,069		5,950		(474	)		282,545		73,581

	$	718,909	$	6,286	$	(496	)	$	724,699	$	162,997


	December 31, 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	$	421,060	$	65	$	(1,167	)	$	419,958	$	379,434
Corporate debt securities		163,297		902		(2,565	)		161,634		145,373
U.S. government agency securities		84,032		42		(122	)		83,952		55,120
Certificates of deposit and time deposits		43,391		6		(3	)		43,394		10,527
Commercial paper		20,298		11		(1	)		20,308		8,646
Equity and debt mutual funds		12,996		1,119		(161	)		13,954		2,560
Non-U.S. government securities		424		—		—			424		—

	$	745,498	$	2,145	$	(4,019	)	$	743,624	$	601,660

Reported as follows:


	Cost		Unrealized Gain		Unrealized (Loss)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	478,306	$	38	$	(648	)	$	477,696	$	374,785
Long-term marketable securities		267,192		2,107		(3,371	)		265,928		226,875

	$	745,498	$	2,145	$	(4,019	)	$	743,624	$	601,660

As of July 3, 2016, the fair market value of investments with unrealized losses totaled $163.0 million. Of this value, $4.0 million had unrealized losses of $0.4 million for greater than one year and $159.0 million had unrealized losses of $0.1 million for less than one year.

As of December 31, 2015, the fair market value of investments with unrealized losses totaled $601.7 million. Of this value, $0.9 million had unrealized losses of $0.5 million for greater than one year and $600.8 million had unrealized losses of $3.6 million for 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 July 3, 2016 and December 31, 2015, were temporary.

The contractual maturities of investments held at July 3, 2016 were as follows:


	July 3, 2016
	Cost		Fair Market Value
	(in thousands)
Due within one year	$	441,840	$	442,154
Due after 1 year through 5 years		218,350		218,769
Due after 5 years through 10 years		4,699		4,962
Due after 10 years		38,742		42,140

Total	$	703,631	$	708,025

Contractual maturities of investments held at July 3, 2016 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 $117.7 million and $114.1 million at July 3, 2016 and December 31, 2015, respectively. The fair value of the outstanding contracts was a loss of $0.1 million and $0.0 million at July 3, 2016 and December 31, 2015, respectively.

For the three and six months ended July 3, 2016, Teradyne recorded net realized losses of $6.9 million and $10.2 million, respectively, related to foreign currency forward contracts hedging net monetary positions.

For the three months ended July 5, 2015, Teradyne recorded a net realized gain of $1.6 million related to foreign currency forward contracts hedging net monetary positions. For the six months ended July 5, 2015, Teradyne recorded a net realized loss of $1.9 million related to foreign currency forward contracts hedging net monetary positions.

The following table summarizes the fair value of derivative instruments at July 3, 2016 and December 31, 2015:


	Balance Sheet Location		July 3, 2016			December 31, 2015
			(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts assets		Prepayments	$	5		$	109
Foreign exchange contracts liabilities		Other current liabilities		(93	)		(146	)

Total derivatives			$	(88	)	$	(37	)

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 six months ended July 3, 2016 and July 5, 2015.


	Location of (Gains) Losses Recognized in Statement of Operations		For the Three Months Ended					For the Six Months Ended
			July 3, 2016		July 5, 2015			July 3, 2016		July 5, 2015
			(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts		Other (income) expense, net	$	6,901	$	(1,547	)	$	10,199	$	1,878

Total Derivatives			$	6,901	$	(1,547	)	$	10,199	$	1,878

The table above does not reflect the corresponding gains and losses from the remeasurement of monetary assets and liabilities denominated in foreign currencies recorded in other (income) expense, net. For the three and six months ended July 3, 2016, net gains from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $6.9 million and $10.4 million, respectively. For the three months ended July 5, 2015, net losses from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $2.1 million. For the six months ended July 5, 2015, net gains from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $2.2 million.