Meritor Acquisition and 2022 Financial Results
Table of Contents
NOTE 22. DERIVATIVES
We are exposed to financial risk resulting from volatility in foreign exchange rates, interest rates and commodity prices. This risk is closely monitored and managed through the
use of physical forward contracts (which are not considered derivatives), and financial derivative instruments including foreign currency forward contracts, commodity swap
contracts and interest rate swaps and locks. Financial derivatives are used expressly for hedging purposes and under no circumstances are they used for speculative
purposes. When material, we adjust the estimated fair value of our derivative contracts for counterparty or our credit risk. None of our derivative instruments are subject to
collateral requirements. Substantially all of our derivative contracts are subject to master netting arrangements, which provide us with the option to settle certain contracts on a
net basis when they settle on the same day with the same currency. In addition, these arrangements provide for a net settlement of all contracts with a given counterparty in the
event that the arrangement is terminated due to the occurrence of default or a termination event.
Foreign Currency Exchange Rate Risk
We had foreign currency forward contracts with notional amounts of $3.6 billion and $2.7 billion at December 31, 2022 and 2021, respectively. The following currencies
comprise 88 percent and 87 percent of outstanding foreign currency forward contracts at December 31, 2022 and 2021, respectively: Chinese renminbi, British pound, Canadian
dollar, Australian dollar and Euro.
We are further exposed to foreign currency exchange risk as many of our subsidiaries are subject to fluctuations as the functional currencies of the underlying entities are not
our U.S. dollar reporting currency. To help minimize movements for certain investments, in 2022 we began entering into foreign exchange forwards designated as net
investment hedges for certain of our investments. Under the current terms of our foreign exchange forwards, we agreed with third parties to sell British pound in exchange for
U.S. dollar currency at a specified rate at the maturity of the contract. The notional amount of these hedges at December 31, 2022, was $705 million.
The following table summarizes the net investment hedge activity in AOCL:
Interest Rate Risk
Year ended December 31,
In millions
2022
Type of Derivative
Gain (Loss)
Recognized in AOCL
Gain (Loss) Reclassified
from AOCL into
Earnings
Foreign exchange forwards
$
(22)
$
In 2021 we entered into a series of interest rate swaps to effectively convert our $500 million senior notes, due in 2025, from a fixed rate of 0.75 percent to a floating rate equal
to the three-month LIBOR plus a spread. We also entered into a series of interest rate swaps to effectively convert $765 million of our $850 million senior notes, due in 2030,
from a fixed rate of 1.50 percent to a floating rate equal to the three-monthLIBOR plus a spread. The swaps were designated, and will be accounted for, as fair value hedges.
The gain or loss on these derivative instruments, as well as the offsetting gain or loss on the hedged item attributable to the hedged risk, are recognized in current income as
interest expense. The net swap settlements that accrue each period are also reported in the Consolidated Financial Statements as interest expense.
We had a series of interest rate swaps to effectively convert our September 2013, $500 million debt issue, due in 2023, from a fixed rate of3.65 percent to a floating rate equal
to the one-month LIBOR plus a spread. The debt is included in the Consolidated Balance Sheets as long-term debt. The terms of the swaps mirrored those of the debt, with
interest paid semi-annually. The swaps were designated, and were accounted for, as fair value hedges. The gain or loss on these derivative instruments, as well as the offsetting
gain or loss on the hedged item attributable to the hedged risk, were recognized in current income as interest expense. The net swap settlements that accrued each period were
also reported in the Consolidated Financial Statements as interest expense. A basis adjustment related to credit risk, excluded from the assessment of effectiveness, was being
amortized over the life of the hedge using a straight-line method and was considered de minimis.
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