Derivative Financial Instruments

9 Months Ended

Sep. 30, 2016

Derivative Financial Instruments

Derivative Financial Instruments

NOTE 19.  Derivative Financial Instruments

The following table summarizes the Company’s outstanding interest-rate and foreign currency swap contracts as of September 30, 2016 (dollars and British pound sterling (“GBP”) in thousands):

			Fixed
		Hedge	Rate/Buy			Floating/Exchange	Notional/
Date Entered	Maturity Date	Designation	Amount			Rate Index	Sell Amount		Fair Value(1)
Interest rate:
July 2005(2)	July 2020	Cash Flow		3.82	%	BMA Swap Index	$	44,700	$	(4,643)
November 2008(3)	October 2016	Cash Flow		5.95	%	1 Month LIBOR+1.50%	$	24,600	$	(35)
January 2015(4)	October 2017	Cash Flow		1.79	%	1 Month GBP LIBOR+0.975%	£	220,000	$	(1,880)
Foreign currency:
January 2015(5)	October 2017	Cash Flow	$	20,700		Buy USD/Sell GBP	£	13,700	$	2,901

(1) Derivative assets are recorded in other assets, net and derivative liabilities are recorded in accounts payable and accrued liabilities on the consolidated balance sheets.

(2) Represents three interest-rate swap contracts, which hedge fluctuations in interest payments on variable-rate secured debt due to overall changes in hedged cash flows.

(3) Represents an interest-rate swap contract, which hedges fluctuations in interest payments on variable-rate secured debt due to overall changes in hedged cash flows.

(4) Hedges fluctuations in interest payments on variable-rate unsecured debt due to fluctuations in the underlying benchmark interest rate.

(5) Currency swap contract (buy USD/sell GBP) hedges the foreign currency exchange risk related to the Company’s forecasted GBP denominated interest receipts on its HC-One Facility. Represents a currency swap to sell approximately £1.0 million monthly at a rate of 1.5149 through October 2017.

The Company uses derivative instruments to mitigate the effects of interest rate and foreign currency fluctuations on specific forecasted transactions as well as recognized financial obligations or assets. Utilizing derivative instruments allows the Company to manage the risk of fluctuations in interest and foreign currency rates related to the potential impact these changes could have on future earnings and forecasted cash flows. The Company does not use derivative instruments for speculative or trading purposes.

The primary risks associated with derivative instruments are market and credit risk. Market risk is defined as the potential for loss in value of a derivative instrument due to adverse changes in market prices. Credit risk is the risk that one of the parties to a derivative contract fails to perform or meet its financial obligation. The Company does not obtain collateral associated with its derivative contracts, but monitors the credit standing of its counterparties on a regular basis. Should a counterparty fail to perform, the Company would incur a financial loss to the extent that the associated derivative contract was in an asset position. At September 30, 2016, the Company does not anticipate non-performance by the counterparties to its outstanding derivative contracts.

As of September 30, 2016, the Company has £268 million of its GBP-denominated borrowings under the Facility and 2012 Term Loan designated as a hedge of a portion of the Company’s net investments in GBP-functional subsidiaries to mitigate its exposure to fluctuations in the GBP to USD exchange rate. For instruments that are designated and qualify as net investment hedges, the variability in the foreign currency to USD exchange rate of the instrument is recorded as part of the cumulative translation adjustment component of accumulated other comprehensive income (loss). Accordingly, the remeasurement value of the designated £268 million GBP-denominated borrowings due to fluctuations in the GBP to USD exchange rate are reported in accumulated other comprehensive income (loss) as the hedging relationship is considered to be effective. The cumulative balance of the remeasurement value will be reclassified to earnings when the hedged investment is sold or substantially liquidated.

During the three and nine months ended September 30, 2016, the Company determined a portion of a cash flow hedge was ineffective and reclassified $0.1 million and $0.4 million, respectively, of unrealized gains related to this interest-rate swap contract into other income (loss), net during each of the respective periods. The Company expects that the hedged forecasted transactions for each of the outstanding qualifying cash flow hedging relationships at September 30, 2016 remain probable of occurring and, as a result, no additional gains or losses recorded to accumulated other comprehensive loss are expected to be reclassified to earnings for any other outstanding hedges.

To illustrate the effect of movements in interest rates and foreign currency markets, the Company performed a market sensitivity analysis on its outstanding derivative financial instruments. The Company applied various basis point spreads to the underlying interest rate curves and foreign currency exchange rates of the derivative portfolio in order to determine the instruments’ change in fair value. The following table summarizes the results of the analysis performed (dollars in thousands):

		Effects of Change in Interest and Foreign Currency Rates
		+50 Basis		-50 Basis		+100 Basis		-100 Basis
Date Entered	Maturity Date	Points		Points		Points		Points
Interest rate:
July 2005	July 2020	$	884	$	(722)	$	1,686	$	(1,524)
November 2008	October 2016		2		(7)		7		(12)
January 2015	October 2017		1,566		(1,524)		3,110		(3,069)
Foreign currency:
January 2015	October 2017		(28)		149		(117)		238