12. Derivative Instruments and Hedging Activities

We are exposed to certain market risks relating to our ongoing business operations, including foreign currency exchange rate risk, commodity price risk, interest rate risk and credit risk. We manage our exposure to these and other market risks through regular operating and financing activities. Currently, the only risks that we manage through the use of derivative instruments are interest rate risk and foreign currency exchange rate risk.

Interest Rate Risk

Derivatives Designated as Fair Value Hedges

We use interest rate derivative instruments to manage our exposure to interest rate movements by converting fixed-rate debt into variable-rate debt. Under these agreements, we agree to exchange, at specified intervals, the difference between fixed and variable interest amounts calculated by reference to an agreed-upon notional principal amount. The objective of the instruments is to more closely align interest expense with interest income received on cash and cash equivalents. These derivative instruments are designated as fair value hedges under GAAP. Changes in the fair value of the derivative instrument are recorded in current earnings and are offset by gains or losses on the underlying debt instrument.

We have multiple fixed-to-variable interest rate swap agreements that we have designated as fair value hedges of the fixed interest rate obligations on our 4.625% Senior Notes due 2019 and 3.375% Senior Notes due 2021. The total notional amounts are $250 million and $300 million for the 4.625% Senior Notes due 2019 and 3.375% Senior Notes due 2021, respectively. On the interest rate swap agreements for the 4.625% Senior Notes due 2019, we receive a fixed interest rate of 4.625 percent and pay variable interest equal to the three-month LIBOR plus an average of 133 basis points. On the interest rate swap agreements for the 3.375% Senior Notes due 2021, we receive a fixed interest rate of 3.375 percent and pay variable interest equal to the three-month LIBOR plus an average of 99 basis points.

Derivatives Designated as Cash Flow Hedges

In 2014, we entered into forward starting interest rate swaps that were designated as cash flow hedges of the thirty year tranche of senior notes we expected to issue in 2015. The forward starting interest rate swaps mitigated the risk of changes in interest rates prior to the completion of the Merger Notes offering. The total notional amounts of the forward starting interest rate swaps were $1 billion and settled in March 2015 at a loss of $97.6 million. The loss will be recognized using the effective interest rate method over the maturity period of the 4.450% Senior Notes due 2045.

Foreign Currency Exchange Rate Risk

We operate on a global basis and are exposed to the risk that our financial condition, results of operations and cash flows could be adversely affected by changes in foreign currency exchange rates. To reduce the potential effects of foreign currency exchange rate movements on net earnings, we enter into derivative financial instruments in the form of foreign currency exchange forward contracts and options with major financial institutions. We are primarily exposed to foreign currency exchange rate risk with respect to transactions and net assets denominated in Euros, Swiss Francs, Japanese Yen, British Pounds, Canadian Dollars, Australian Dollars, Korean Won, Swedish Krona, Czech Koruna, Thai Baht, Taiwan Dollars, South African Rand, Russian Rubles and Indian Rupees. We do not use derivative financial instruments for trading or speculative purposes.

Derivatives Designated as Cash Flow Hedges

Our revenues are generated in various currencies throughout the world. However, a significant amount of our inventory is produced in U.S. Dollars. Therefore, movements in foreign currency exchange rates may have different proportional effects on our revenues compared to our cost of products sold. To minimize the effects of foreign currency exchange rate movements on cash flows, we hedge intercompany sales of inventory expected to occur within the next 30 months with foreign currency exchange forward contracts and options. We designate these derivative instruments as cash flow hedges.

We perform quarterly assessments of hedge effectiveness by verifying and documenting the critical terms of the hedge instrument and that forecasted transactions have not changed significantly. We also assess on a quarterly basis whether there have been adverse developments regarding the risk of a counterparty default. For derivatives which qualify as hedges of future cash flows, the effective portion of changes in fair value is temporarily recorded in other comprehensive income and then recognized in cost of products sold when the hedged item affects net earnings. The ineffective portion of a derivative’s change in fair value, if any, is immediately reported in cost of products sold. On our condensed consolidated statement of cash flows, the settlements of these cash flow hedges are recognized in operating cash flows.

For foreign currency exchange forward contracts and options outstanding at September 30, 2015, we had obligations to purchase U.S. Dollars and sell Euros, Japanese Yen, British Pounds, Canadian Dollars, Australian Dollars, Korean Won, Swedish Krona, Czech Koruna, Thai Baht, Taiwan Dollars, South African Rand, Russian Rubles and Indian Rupees and obligations to purchase Swiss Francs and sell U.S. Dollars. These derivatives mature at dates ranging from October 2015 through March 2018. As of September 30, 2015, the notional amounts of outstanding forward contracts and options entered into with third parties to purchase U.S. Dollars were $1,415.5 million. As of September 30, 2015, the notional amounts of outstanding forward contracts and options entered into with third parties to purchase Swiss Francs were $312.1 million.

Derivatives Not Designated as Hedging Instruments

We enter into foreign currency forward exchange contracts with terms of one month to manage currency exposures for monetary assets and liabilities denominated in a currency other than an entity’s functional currency. As a result, any foreign currency re-measurement gains/losses recognized in earnings are generally offset with gains/losses on the foreign currency forward exchange contracts in the same reporting period. Starting in 2015, the net amount of these offsetting gains/losses is recorded in other expense. In 2014 and prior periods, the net amount was recorded in cost of products sold and was not material. The 2014 presentation has been reclassified to conform to the 2015 presentation. These contracts are settled on the last day of each reporting period. Therefore, there is no outstanding balance related to these contracts recorded on the balance sheet as of the end of the reporting period. The notional amounts of these contracts are typically in a range of $1.2 billion to $1.7 billion per quarter.

Income Statement Presentation

Derivatives Designated as Fair Value Hedges

Derivative instruments designated as fair value hedges had the following effects on our condensed consolidated statements of earnings (in millions):


Derivative Instrument	Location on Statement of Earnings		Gain (Loss) on Instrument									Gain (Loss) on Hedged Item
			Three Months Ended September 30,					Nine Months Ended September 30,				Three Months Ended September 30,					Nine Months Ended September 30,
			2015		2014			2015		2014		2015			2014		2015			2014
Interest rate swaps		Interest expense	$	10.8	$	(4.9	)	$	10.0	$	7.0	$	(10.8	)	$	4.9	$	(10.0	)	$	(7.0	)

We had no ineffective fair value hedging instruments during the three or nine month periods ended September 30, 2015 and 2014.

Derivatives Designated as Cash Flow Hedges

Derivative instruments designated as cash flow hedges had the following effects, before taxes, on OCI and net earnings on our condensed consolidated statements of earnings, condensed consolidated statements of comprehensive income and condensed consolidated balance sheets (in millions):


Derivative Instrument	Amount of Gain / (Loss) Recognized in OCI									Location on Statement of Earnings	Amount of Gain / (Loss) Reclassified from OCI
	Three Months Ended September 30,				Nine Months Ended September 30,						Three Months Ended September 30,						Nine Months Ended September 30,
	2015		2014		2015			2014			2015			2014			2015			2014
Foreign exchange forward contracts	$	7.3	$	62.6	$	86.3		$	47.3	Cost of products sold	$	30.5		$	8.7		$	91.7		$	20.4
Foreign exchange options		—		0.2		—			—	Cost of products sold		—			(0.1	)		—			(0.3	)
Forward starting interest rate swaps		—		—		(38.3	)		—	Interest expense		(0.4	)		—			(0.9	)		—

	$	7.3	$	62.8	$	48.0		$	47.3		$	30.1		$	8.6		$	90.8		$	20.1

The net amounts recognized in earnings during the three and nine month periods ended September 30, 2015 and 2014 due to ineffectiveness and amounts excluded from the assessment of hedge effectiveness were not significant.

The fair value of outstanding derivative instruments designated as cash flow hedges and recorded on the balance sheet at September 30, 2015, together with settled derivatives where the hedged item has not yet affected earnings, was a net unrealized gain of $45.1 million, or $43.8 million after taxes, which is deferred in OCI. Of the net unrealized gain, $105.4 million, or $79.9 million after taxes, is expected to be reclassified to earnings over the next twelve months. The disproportionate amount of net unrealized gain deferred in OCI and the expected reclassification over the next twelve months is due to the significant loss from the forward starting interest rate swaps deferred in OCI which will be reclassified to earnings over the maturity period of the 4.450% Senior Notes due 2045.

Derivatives Not Designated as Hedging Instruments

The following gains from these derivative instruments were recognized on our condensed consolidated statements of earnings (in millions):


Derivative Instrument	Location on Statement of Earnings	Three Months Ended September 30,				Nine Months Ended September 30,
Derivative Instrument	Location on Statement of Earnings	2015		2014		2015		2014
Foreign exchange forward contracts	Other income (expense), net	$	8.4	$	9.7	$	22.0	$	5.4

This impact does not include any offsetting gains/losses recognized in earnings as a result of foreign currency re-measurement of monetary assets and liabilities denominated in a currency other than an entity’s functional currency.

Balance Sheet Presentation

As of September 30, 2015 and December 31, 2014, all derivative instruments designated as fair value hedges and cash flow hedges were recorded at fair value on the balance sheet. On our condensed consolidated balance sheets, we recognize individual forward contracts and options with the same counterparty on a net asset/liability basis if we have a master netting agreement with the counterparty. Under these master netting agreements, we are able to settle derivative instrument assets and liabilities with the same counterparty in a single transaction, instead of settling each derivative instrument separately. We have master netting agreements with all of our counterparties. The fair value of derivative instruments on a gross basis is as follows (in millions):


	September 30, 2015			December 31, 2014
	Balance Sheet Location	Fair Value		Balance Sheet Location	Fair Value
*Asset Derivatives*
Foreign exchange forward contracts	Other current assets	$	109.6	Other current assets	$	98.7
Foreign exchange forward contracts	Other assets		29.3	Other assets		53.1
Interest rate swaps	Other assets		34.0	Other assets		24.0

Total asset derivatives		$	172.9		$	175.8


*Liability Derivatives*
Foreign exchange forward contracts	Other current liabilities	$	15.6	Other current liabilities	$	16.4
Forward starting interest rate swaps	Other current liabilities		—	Other current liabilities		59.3
Foreign exchange forward contracts	Other long-term liabilities		10.4	Other long-term liabilities		11.6

Total liability derivatives		$	26.0		$	87.3

The table below presents the effects of our master netting agreements on our condensed consolidated balance sheets (in millions):


	Location	As of September 30, 2015						As of December 31, 2014
Description	Location	Gross Amount		Offset		Net Amount in Balance Sheet		Gross Amount		Offset		Net Amount in Balance Sheet
*Asset Derivatives*
Cash flow hedges	Other current assets	$	109.6		14.8	$	94.8	$	98.7	$	15.9	$	82.8
Cash flow hedges	Other assets		29.3		9.4		19.9		53.1		10.4		42.7

*Liability Derivatives*
Cash flow hedges	Other current liabilities		15.6		14.8		0.8		16.4		15.9		0.5
Cash flow hedges	Other long-term liabilities		10.4		9.4		1.0		11.6		10.4		1.2