Financial Instruments and Derivatives

9 Months Ended

Oct. 02, 2016

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 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 2, 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 nine months ended October 2, 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 nine months ended October 2, 2016 were $0.7 million and $1.2 million, respectively. Realized losses recorded in the three and nine months ended October 2, 2016 were $0.1 million and $0.4 million, respectively. Realized gains recorded in the three and nine months ended October 4, 2015 were $0.4 million and $1.4 million, respectively. Realized losses recorded in the nine months ended October 4, 2015 were $0.2 million. 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 nine months ended October 2, 2016 and October 4, 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 October 2, 2016 and December 31, 2015.

	October 2, 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	$	241,687	$	—	$	—	$	241,687
Cash equivalents		55,576		674		—		56,250
Available-for-sale securities:
U.S. Treasury securities		—		676,310		—		676,310
Corporate debt securities		—		117,260		—		117,260
Certificates of deposit and time deposits		—		66,140		—		66,140
Commercial paper		—		52,324		—		52,324
U.S. government agency securities		—		25,802		—		25,802
Equity and debt mutual funds		17,666		—		—		17,666
Non-U.S. government securities		—		750		—		750
Total		314,929		939,260		—		1,254,189
Derivative assets		—		1		—		1
Total	$	314,929	$	939,261	$	—	$	1,254,190
Liabilities
Contingent consideration	$	—	$	—	$	32,887	$	32,887
Derivative liabilities		—		361		—		361
Total	$	—	$	361	$	32,887	$	33,248

Reported as follows:

	(Level 1)		(Level 2)		(Level 3)		Total
	(in thousands)
Assets
Cash and cash equivalents	$	297,263	$	674	$	—	$	297,937
Marketable securities		—		598,501		—		598,501
Long-term marketable securities		17,666		340,085		—		357,751
Prepayments		—		1		—		1
	$	314,929	$	939,261	$	—	$	1,254,190
Liabilities		.
Other current liabilities	$	—	$	361	$	—	$	361
Contingent consideration		—		—		1,050		1,050
Long-term contingent consideration		—		—		31,837		31,837
	$	—	$	361	$	32,887	$	33,248

	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 nine months ended October 2, 2016 and October 4, 2015 were as follows:

	For the Three Months Ended					For the Nine Months Ended
	October 2, 2016		October 4, 2015			October 2, 2016			October 4, 2015
	(in thousands)
Balance at beginning of period	$	24,914	$	35,595		$	37,436		$	3,350
Acquisition of Universal Robots		—		—			—			33,845
Payments (a)		—		—			(15,000	)		—
Fair value adjustment (b)(c)(d)(e)		7,973		(1,000	)		10,451			(2,600	)
Balance at end of period	$	32,887	$	34,595		$	32,887		$	34,595

(a) In the nine months ended October 2, 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 nine months ended October 2, 2016, the fair value of contingent consideration for the earn-out in connection with the acquisition of Universal Robots was increased by $8.0 million and $9.9 million, respectively, primarily due to an increase in forecasted revenue and a decrease in the discount rate.

(c) In the nine months ended October 2, 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 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.

(e) 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 2, 2016 Fair Value	Valuation Technique	Unobservable Inputs	Weighted Average
	(in thousands)
Contingent consideration (Universal Robots)	$19,824	Monte Carlo Simulation	Revenue volatility for the period July 1, 2015—December 31, 2017		10.7%
			Discount Rate		3.2%
	$12,013	Monte Carlo Simulation	Revenue volatility for the period July 1, 2015—December 31, 2018		10.7%
			Discount Rate		3.2%
Contingent consideration (AIT)	$1,050	Income approach- discounted cash flow	Revenue probability for calendar year 2016 Discount rate		100% 4.0%

As of October 2, 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 the 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 $1.05 million.

The carrying amounts and fair values of Teradyne’s financial instruments at October 2, 2016 and December 31, 2015 were as follows:

	October 2, 2016				December 31, 2015
	Carrying Value		Fair Value		Carrying Value		Fair Value
	(in thousands)
Assets
Cash and cash equivalents	$	297,937	$	297,937	$	264,705	$	264,705
Marketable securities		956,252		956,252		743,624		743,624
Derivative assets		1		1		109		109
Liabilities
Contingent consideration		32,887		32,887		37,436		37,436
Derivative liabilities		361		361		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 October 2, 2016 and December 31, 2015:

	October 2, 2016
	Available-for-Sale									Fair Market Value of Investments with Unrealized Losses
	Cost		Unrealized Gains		Unrealized (Losses)			Fair Market Value
	(in thousands)
U.S. Treasury securities	$	675,745	$	906	$	(341	)	$	676,310	$	371,188
Corporate debt securities		114,752		2,755		(247	)		117,260		43,552
Certificates of deposit and time deposits		66,115		30		(5	)		66,140		14,402
Commercial paper		52,323		15		(14	)		52,324		25,317
U.S. government agency securities		25,738		64		—			25,802		3,830
Equity and debt mutual funds		15,801		1,870		(5	)		17,666		348
Non-U.S. government securities		756		17		(23	)		750		137
	$	951,230	$	5,657	$	(635	)	$	956,252	$	458,774

Reported as follows:

	Cost		Unrealized Gains		Unrealized (Losses)			Fair Market Value		Fair Market Value of Investments with Unrealized Losses
	(in thousands)
Marketable securities	$	598,416	$	218	$	(133	)	$	598,501	$	273,604
Long-term marketable securities		352,814		5,439		(502	)		357,751		185,170
	$	951,230	$	5,657	$	(635	)	$	956,252	$	458,774

	December 31, 2015
	Available-for-Sale									Fair Market Value of Investments with Unrealized Losses
	Cost		Unrealized Gains		Unrealized (Losses)			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 Gains		Unrealized (Losses)			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 October 2, 2016, the fair market value of investments with unrealized losses totaled $458.8 million. Of this value, $3.1 million had unrealized losses of $0.2 million for greater than one year and $455.7 million had unrealized losses of $0.4 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 October 2, 2016 and December 31, 2015, were temporary.

The contractual maturities of investments held at October 2, 2016 were as follows:

	October 2, 2016
	Cost		Fair Market Value
	(in thousands)
Due within one year	$	598,416	$	598,501
Due after 1 year through 5 years		288,344		288,370
Due after 5 years through 10 years		12,787		13,026
Due after 10 years		35,882		38,689
Total	$	935,429	$	938,586

Contractual maturities of investments held at October 2, 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 at October 2, 2016 and December 31, 2015 was $76.5 million and $114.1 million, respectively. The fair value of the outstanding contracts was a loss of $0.4 million and $0.0 million at October 2, 2016 and December 31, 2015, respectively.

For the three and nine months ended October 2, 2016, Teradyne recorded net realized losses of $0.7 million and $10.8 million, respectively, related to foreign currency forward contracts hedging net monetary positions.

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

The following table summarizes the fair value of derivative instruments at October 2, 2016 and December 31, 2015:

	Balance Sheet Location		October 2, 2016			December 31, 2015
			(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts assets		Prepayments	$	1		$	109
Foreign exchange contracts liabilities		Other current liabilities		(361	)		(146	)
Total derivatives			$	(360	)	$	(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 nine months ended October 2, 2016 and October 4, 2015.

	Location of (Gains) Losses Recognized in Statement of Operations		For the Three Months Ended				For the Nine Months Ended
			October 2, 2016		October 4, 2015		October 2, 2016		October 4, 2015
			(in thousands)
Derivatives not designated as hedging instruments:
Foreign exchange contracts		Other (income) expense, net	$	941	$	677	$	11,140	$	2,555
Total Derivatives			$	941	$	677	$	11,140	$	2,555

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 nine months ended October 2, 2016, net gains from the remeasurement of monetary assets and liabilities denominated in foreign currencies were $1.9 million and $12.2 million, respectively. 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.