Derivative Financial Instruments and Hedging

As part of its risk management strategy, the Company, from time-to-time, utilizes derivative financial instruments to manage its exposure to changes in raw material prices, energy costs, foreign currencies, and interest rates. In accordance with applicable accounting standards, the Company accounts for most of these contracts as hedges. In general, hedge effectiveness is determined by examining the relationship between offsetting changes in fair value or cash flows attributable to the item being hedged, and the financial instrument being used for the hedge. Effectiveness is measured utilizing regression analysis and other techniques to determine whether the change in the fair market value or cash flows of the derivative exceeds the change in fair value or cash flow of the hedged item. Calculated ineffectiveness, if any, is immediately recognized on the statement of operations.

The Company sometimes uses futures and swap contracts to manage exposure to changes in prices for forecasted purchases of raw materials, such as nickel, and natural gas. Generally under these contracts, which are accounted for as cash flow hedges, the price of the item being hedged is fixed at the time that the contract is entered into and the Company is obligated to make or receive a payment equal to the net change between this fixed price and the market price at the date the contract matures.

The majority of ATI’s products are sold utilizing raw material surcharges and index mechanisms. However, as of December 31, 2015, the Company had entered into financial hedging arrangements primarily at the request of its customers, related to firm orders, for an aggregate notional amount of approximately 26 million pounds of nickel with hedge dates through 2020. The aggregate notional amount hedged is approximately 28% of a single year’s estimated nickel raw material purchase requirements.

At December 31, 2015, the outstanding financial derivatives used to hedge the Company’s exposure to energy cost volatility included natural gas hedges. In the fourth quarter 2015, due to changes in expected operating levels within Flat Rolled Products segment operations, the Company concluded that a portion of these natural gas cash hedges for 2016 were ineffective based on forecast changes in underlying natural gas usage. The Company recognized a $3.3 million pre-tax loss for the ineffective portion of these cash flow hedges, which is reported in selling and administrative expenses on the consolidated statement of operations for the year ended December 31, 2015. Approximately 55% of the Company’s annual forecasted domestic requirements for natural gas for 2017 and approximately 15% for 2018 are hedged.

While the majority of the Company’s direct export sales are transacted in U.S. dollars, foreign currency exchange contracts are used, from time-to-time, to limit transactional exposure to changes in currency exchange rates for those transactions denominated in a non-U.S. currency. The Company sometimes purchases foreign currency forward contracts that permit it to sell specified amounts of foreign currencies expected to be received from its export sales for pre-established U.S. dollar amounts at specified dates. The forward contracts are denominated in the same foreign currencies in which export sales are denominated. These contracts are designated as hedges of the variability in cash flows of a portion of the forecasted future export sales transactions which otherwise would expose the Company to foreign currency risk, primarily the euro. In addition, the Company may also designate cash balances held in foreign currencies as hedges of forecasted foreign currency transactions.

During the fiscal year ended December 31, 2015, the Company net settled 211.9 million euro notional value of foreign currency forward contracts designated as cash flow hedges with 2016 and 2017 maturity dates, receiving cash proceeds of $56.5 million which is reported in cash provided by operating activities on the consolidated cash flow statement. In the fourth quarter 2015, due to management actions in the Flat Rolled Products segment to de-emphasize commodity stainless steel sheet products in 2016, the Company concluded that a portion of these settled euro cash flow hedges for 2016 were ineffective based on forecast changes for euro-denominated sales. The Company recognized a $14.3 million pre-tax gain for the ineffective portion of these cash flow hedges, which is reported in selling and administrative expenses on the consolidated statement of operations for the year ended December 31, 2015. The portion of the deferred gains on these settled cash flow hedges determined to be effective is currently recognized in accumulated other comprehensive income and will be reclassified to earnings when the underlying transactions occur. In 2015, the Company entered into 244.7 million euro notional value of foreign currency forward contracts designated as fair value hedges with 2015, 2016 and 2017 maturity dates to replace a portion of the settled euro cash flow hedges, of which 139.2 million euro notional value was outstanding as of December 31, 2015. The Company recorded a $9.0 million benefit in costs of sales on the consolidated statement of operations in the fiscal year ended December 31, 2015, for maturities and mark-to-market changes on these fair value hedges.

The Company may enter into derivative interest rate contracts to maintain a reasonable balance between fixed- and floating-rate debt. There were no unsettled derivative financial instruments related to debt balances for the periods presented.

There are no credit risk-related contingent features in the Company’s derivative contracts, and the contracts contained no provisions under which the Company has posted, or would be required to post, collateral. The counterparties to the Company’s derivative contracts were substantial and creditworthy commercial banks that are recognized market makers. The Company controls its credit exposure by diversifying across multiple counterparties and by monitoring credit ratings and credit default swap spreads of its counterparties. The Company also enters into master netting agreements with counterparties when possible.

The fair values of the Company’s derivative financial instruments are presented below, representing the gross amounts recognized which are not offset by counterpart or by type of item hedged. All fair values for these derivatives were measured using Level 2 information as defined by the accounting standard hierarchy, which includes quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs derived principally from or corroborated by observable market data.



(In millions)		December 31, 2015		December 31, 2014
Asset derivatives	Balance sheet location	December 31, 2015		December 31, 2014
Derivatives designated as hedging instruments:
Foreign exchange contracts	Prepaid expenses and other current assets	$	1.6	$	23.6
Nickel and other raw material contracts	Prepaid expenses and other current assets	—		1.1
Foreign exchange contracts	Other assets	0.4		28.3
Nickel and other raw material contracts	Other assets	—		0.5
Total derivatives designated as hedging instruments:		$	2.0	$	53.5
Derivatives not designated as hedging instruments:
Foreign exchange contracts	Prepaid expenses and other current assets	0.4		6.4
Total derivatives not designated as hedging instruments:		0.4		6.4
Total asset derivatives		$	2.4	$	59.9

Liability derivatives	Balance sheet location
Derivatives designated as hedging instruments:
Natural gas contracts	Accrued liabilities	$	17.3	$	10.2
Foreign exchange contracts	Accrued liabilities	0.1		—
Nickel and other raw material contracts	Accrued liabilities	22.2		5.8
Electricity contracts	Accrued liabilities	—		0.1
Foreign exchange contracts	Other long-term liabilities	0.1		—
Natural gas contracts	Other long-term liabilities	8.5		7.9
Nickel and other raw material contracts	Other long-term liabilities	23.0		3.0
Total liability derivatives		$	71.2	$	27.0
Derivatives not designated as hedging instruments:
Foreign exchange contracts	Accrued liabilities	0.1		—
Total derivatives not designated as hedging instruments:		0.1		—
Total liability derivatives		$	71.3	$	27.0

For derivative financial instruments that are designated as cash flow hedges, the effective portion of the gain or loss on the derivative is reported as a component of other comprehensive income (OCI) and reclassified into earnings in the same period or periods during which the hedged item affects earnings. Gains and losses on the derivative representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness are recognized in current period results. For derivative financial instruments that are designated as fair value hedges, changes in the fair value of these derivatives are recognized in current period results. The Company did not use net investment hedges for the periods presented. The effects of derivative instruments in the tables below are presented net of related income taxes.

Assuming market prices remain constant with those at December 31, 2015, a loss of $23.6 million, net of tax, is expected to be recognized over the next 12 months.

Activity with regard to derivatives designated as cash flow hedges for the year ended December 31, 2015 were as follows (in millions):



Derivatives in Cash Flow Hedging Relationships	Amount of Gain (Loss) Recognized in OCI on Derivatives (Effective Portion)						Amount of Gain (Loss) Reclassified from Accumulated OCI into Income (Effective Portion) (a)						Amount of Gain (Loss) Recognized in Income on Derivatives (Ineffective Portion and Amount Excluded from Effectiveness Testing) (b)
Derivatives in Cash Flow Hedging Relationships	2015			2014			2015			2014			2015			2014
Nickel and other raw material contracts	$	(34.2	)	$	(1.6	)	$	(10.5	)	$	(0.6	)	$	—		$	—
Natural gas contracts	(14.1		)	(10.9		)	(9.2		)	2.1			(2.1		)	—
Electricity contracts	—			0.5			(0.1		)	0.4			—			—
Foreign exchange contracts	27.6			40.1			24.3			0.3			8.9			—
Total	$	(20.7	)	$	28.1		$	4.5		$	2.2		$	6.8		$	—


(a)	The gains (losses) reclassified from accumulated OCI into income related to the effective portion of the derivatives are presented in cost of sales in the same period or periods in which the hedged item affects earnings.


(b)	The gains (losses) recognized in income on derivatives related to the ineffective portion and the amount excluded from effectiveness testing are presented in selling and administrative expenses.

The disclosures of gains or losses presented above for nickel and other raw material contracts and foreign currency contracts do not take into account the anticipated underlying transactions. Since these derivative contracts represent hedges, the net effect of any gain or loss on results of operations may be fully or partially offset.

The Company has 25 million euro notional value outstanding as of December 31, 2015 of foreign currency forward contracts not designated as hedges, with maturity dates into the third quarter of 2016. These derivatives that are not designated as hedging instruments were as follows:



(In millions)	Amount of Gain (Loss) Recognized in Income on Derivatives
Derivatives Not Designated as Hedging Instruments	2015		2014
Foreign exchange contracts	$	3.9	$	5.2

Changes in the fair value of foreign exchange contract derivatives not designated as hedging instruments are recorded in cost of sales.