DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

We use financial and commodities derivatives to manage interest rate, equity-based compensation and commodities pricing and foreign currency exchange rate risks inherent in our business operations. By using these instruments, we expose ourselves, from time to time, to credit risk and market risk. Credit risk is the failure of the counterparty to perform under the terms of the derivative contract. When the fair value of a derivative contract is positive, the counterparty owes us, which creates credit risk for us. We minimize this credit risk by entering into transactions with high-quality counterparties. We currently do not have any provisions in our agreements with counterparties that would require either party to hold or post collateral in the event that the market value of the related derivative instrument exceeds a certain limit. As such, the maximum amount of loss due to counterparty credit risk we would incur at May 25, 2014, if counterparties to the derivative instruments failed completely to perform, would approximate the values of derivative instruments currently recognized as assets on our consolidated balance sheet. Market risk is the adverse effect on the value of a financial instrument that results from a change in interest rates, commodity prices, or the market price of our common stock. We minimize this market risk by establishing and monitoring parameters that limit the types and degree of market risk that may be undertaken.

The notional values of our derivative contracts are as follows:



(in millions)	May 25, 2014		May 26, 2013
Derivative contracts designated as hedging instruments:
Commodities	$	0.9	$	18.2
Foreign currency	0.3		20.3
Interest rate swaps	200.0		100.0
Equity forwards	20.6		24.9
Derivative contracts not designated as hedging instruments:
Equity forwards	$	47.4	$	49.1
Commodities	—		0.6

We periodically enter into commodity futures, swaps and option contracts (collectively, commodity contracts) to reduce the risk of variability in cash flows associated with fluctuations in the price we pay for natural gas, diesel fuel and butter. For certain of our commodity purchases, changes in the price we pay for these commodities are highly correlated with changes in the market price of these commodities. For these commodity purchases, we designate commodity contracts as cash flow hedging instruments. For the remaining commodity purchases, changes in the price we pay for these commodities are not highly correlated with changes in the market price, generally due to the timing of when changes in the market prices are reflected in the price we pay. For these commodity purchases, we utilize commodity contracts as economic hedges. Our commodity contracts extended through May 2014.

We periodically enter into foreign currency forward contracts to reduce the risk of fluctuations in exchange rates specifically related to forecasted transactions or payments made in a foreign currency either for commodities and items used directly in our restaurants or for forecasted payments of services. Our foreign currency forward contracts extended through May 2014.

We are currently party to interest-rate swap agreements with $200.0 million of notional value to limit the risk of changes in fair value of a portion of the $400.0 million 4.500 percent senior notes due October 2021 and a portion of the $500.0 million 6.200 percent senior notes due October 2017. The swap agreements effectively swap the fixed-rate obligations for floating-rate obligations, thereby mitigating changes in fair value of the related debt prior to maturity. The swap agreements were designated as fair value hedges of the related debt and met the requirements to be accounted for under the short-cut method, resulting in no ineffectiveness in the hedging relationship. During fiscal 2014, 2013 and 2012, $2.9 million, $3.0 million and $3.3 million, respectively, was recorded as a reduction to interest expense related to net swap settlements.

We enter into equity forward contracts to hedge the risk of changes in future cash flows associated with the unvested, unrecognized Darden stock units. The equity forward contracts will be settled at the end of the vesting periods of their underlying Darden stock units, which range between four and five years. The contracts were initially designated as cash flow hedges to the extent the Darden stock units are unvested and, therefore, unrecognized as a liability in our financial statements. As of May 25, 2014, we were party to equity forward contracts that were indexed to 1.2 million shares of our common stock, at varying forward rates between $31.19 per share and $52.66 per share, extending through August 2018. The forward contracts can only be net settled in cash. As the Darden stock units vest, we will de-designate that portion of the equity forward contract that no longer qualifies for hedge accounting and changes in fair value associated with that portion of the equity forward contract will be recognized in current earnings. We periodically incur interest on the notional value of the contracts and receive dividends on the underlying shares. These amounts are recognized currently in earnings as they are incurred or received.

We entered into equity forward contracts to hedge the risk of changes in future cash flows associated with recognized, cash-settled performance stock units and employee-directed investments in Darden stock within the non-qualified deferred compensation plan. The equity forward contracts are indexed to 0.3 million shares of our common stock at forward rates between $46.17 and $51.95 per share, can only be net settled in cash and expire between fiscal 2015 and 2019. We did not elect hedge accounting with the expectation that changes in the fair value of the equity forward contracts would offset changes in the fair value of the performance stock units and Darden stock investments in the non-qualified deferred compensation plan within selling, general and administrative expenses in our consolidated statements of earnings.

The fair value of our derivative contracts designated as hedging instruments and derivative contracts that are not designated as hedging instruments are as follows:



(in millions)	Balance Sheet Location		Derivative Assets				Derivative Liabilities
			May 25, 2014		May 26, 2013		May 25, 2014			May 26, 2013
Derivative contracts designated as hedging instruments
Commodity contracts	(1	)	$	—	$	0.1	$	—		$	(0.3	)
Equity forwards	(1	)	—		—		(0.5		)	(0.6		)
Interest rate related	(1	)	1.6		1.9		—			—
Foreign currency forwards	(1	)	0.1		0.6		—			—
			$	1.7	$	2.6	$	(0.5	)	$	(0.9	)
Derivative contracts not designated as hedging instruments
Commodity contracts	(1	)	$	—	$	—	$	—		$	—
Equity forwards	(1	)	—		—		(1.2		)	(1.3		)
			$	—	$	—	$	(1.2	)	$	(1.3	)
Total derivative contracts			$	1.7	$	2.6	$	(1.7	)	$	(2.2	)


(1)	Derivative assets and liabilities are included in receivables, net, prepaid expenses and other current assets, and other current liabilities, as applicable, on our consolidated balance sheets.

The effects of derivative instruments in cash flow hedging relationships in the consolidated statements of earnings are as follows:



(in millions)	Amount of Gain (Loss) Recognized in AOCI (Effective Portion)									Location of Gain (Loss) Reclassified from AOCI to Earnings	Amount of Gain (Loss) Reclassified from AOCI to Earnings (Effective Portion)									Location of Gain (Loss) Recognized in Earnings (Ineffective Portion)	(1) Amount of Gain (Loss) Recognized in Earnings (Ineffective Portion)
	Fiscal Year										Fiscal Year										Fiscal Year
	2014			2013			2012				2014			2013			2012				2014		2013		2012
Commodity	$	0.6		$	0.7		$	(2.2	)	(2)	$	0.4		$	0.4		$	(1.7	)	(2)	$	—	$	—	$	—
Equity	(3.5		)	(2.8		)	(0.7		)	(3)	(0.8		)	0.2			—			(3)	1.4		1.1		0.6
Interest rate	—			(10.1		)	(75.2		)	Interest, net	(10.3		)	(8.3		)	(2.9		)	Interest, net	—		—		(0.7		)
Foreign currency	0.5			(0.5		)	0.9			(4)	1.0			—			0.8			(4)	—		—		—
	$	(2.4	)	$	(12.7	)	$	(77.2	)		$	(9.7	)	$	(7.7	)	$	(3.8	)		$	1.4	$	1.1	$	(0.1	)


(1)	Generally, all of our derivative instruments designated as cash flow hedges have some level of ineffectiveness, which is recognized currently in earnings. However, as these amounts are generally nominal and our consolidated financial statements are presented “in millions,” these amounts may appear as zero in this tabular presentation.


(2)	Location of the gain (loss) reclassified from AOCI to earnings as well as the gain (loss) recognized in earnings for the ineffective portion of the hedge is food and beverage costs and restaurant expenses, which are components of cost of sales.


(3)	Location of the gain (loss) reclassified from AOCI to earnings as well as the gain (loss) recognized in earnings for the ineffective portion of the hedge is restaurant labor expenses, which is a component of cost of sales, and selling, general and administrative expenses.


(4)	Location of the gain (loss) reclassified from AOCI to earnings as well as the gain (loss) recognized in earnings for the ineffective portion of the hedge is food and beverage costs, which is a component of cost of sales, and selling, general and administrative expenses.

The effects of derivative instruments in fair value hedging relationships in the consolidated statements of earnings are as follows:



(in millions)	Amount of Gain (Loss) Recognized in Earnings on Derivatives									Location of Gain (Loss) Recognized in Earnings on Derivatives	Hedged Item in Fair Value Hedge Relationship	Amount of Gain (Loss) Recognized in Earnings on Related Hedged Item						Location of Gain (Loss) Recognized in Earnings on Related Hedged Item
	Fiscal Year											Fiscal Year
	2014			2013			2012					2014		2013		2012
Interest rate	$	(0.3	)	$	(1.3	)	$	(0.4	)	Interest, net	Debt	$	0.3	$	1.3	$	0.4	Interest, net

The effects of derivatives not designated as hedging instruments in the consolidated statements of earnings are as follows:



	Location of Gain (Loss) Recognized in Earnings	Amount of Gain (Loss) Recognized in Earnings
		Fiscal Year
(in millions)		2014			2013			2012
Commodity contracts	Cost of sales (1)	$	—		$	(0.1	)	$	(7.9	)
Equity forwards	Cost of sales (2)	(0.5		)	1.6			2.3
Equity forwards	Selling, general and administrative	(1.3		)	1.4			6.0
		$	(1.8	)	$	2.9		$	0.4


(1)	Location of the gain (loss) recognized in earnings is food and beverage costs and restaurant expenses, which are components of cost of sales.


(2)	Location of the gain (loss) recognized in earnings is restaurant labor expenses, which is a component of cost of sales.

Based on the fair value of our derivative instruments designated as cash flow hedges as of May 25, 2014, we expect to reclassify $10.1 million of net losses on derivative instruments from accumulated other comprehensive income (loss) to earnings during the next 12 months based on the timing of our forecasted commodity purchases, the maturity of equity forwards and the amortization of losses on interest rate related instruments. However, the amounts ultimately realized in earnings will be dependent on the fair value of the contracts on the settlement dates. Additionally, based on the results of our tender offer in the first quarter of fiscal 2015 (see Note 9 – Long-Term Debt for further information), which is contingent upon the closing of the Red Lobster sale, additional amortization of losses on interest-rate related instruments may be recognized.