There following excerpts are from the financial statement note on Derivative Instruments and Hedging Activities in Molson Coors Brewing Company’s 2009 annual report:
Simultaneous with the September 22, 2005, U.S. private debt placement, we entered into a cross currency swap transaction for the entire USD $300 million issue amount and for the same maturity of September 2010. In this transaction we exchanged our USD $300 million for a CAD $355.5 million obligation with a third party. The swaps also call for an exchange of fixed CAD interest payments for fixed USD interest receipts. We have designated this transaction as a hedge of the variability of the cash flows associated with the payment of interest and principal on the USD securities. Changes in the value of the transaction due to foreign exchange are recorded in earnings and are offset by a revaluation of the associated debt instrument. Changes in the value of the transaction due to interest rates are recorded to OCI.
As of period end, we had financial commodity swap contracts in place to hedge certain future expected purchases of natural gas. Essentially, these contracts allow us to swap our floating exposure to natural gas prices for a fixed rate. These contracts have been designated as cash flow hedges of forecasted natural gas purchases. . . . These swaps [are used] to hedge forecasted purchases up to twenty-four months in advance. Miller Coor’s LLC, a wholly-owned subsidiary of Molson Coors Brewing Company, said this about its derivative instruments and hedging activities: The Company’s objective in managing its exposure to fluctuations in commodity prices is to reduce the volatility in its cash flows and earnings caused by unexpected adverse fluctuations in the commodity markets. To achieve this objective, the Company enters into futures contracts, swaps and purchased option collars. In general, maturity dates of the contracts coincide with market purchases of the commodity. As of December 31, 2009, the Company had financial commodity swap and futures contracts in place to hedge certain future expected purchases of aluminum can sheet, aluminum cans, natural gas, and electricity. The Company also hedges the diesel fuel surcharge exposure that it subsidizes for its distributors. These contracts are either marked-to-market, with changes in fair value recognized in cost of goods sold, or have been designated as cash flow hedges of forecasted purchases, and recognized in other comprehensive income (loss). Required:
1. What did Molson Coors accomplish by swapping its $300 million U.S. dollar-denominated debt for a $355.5 million Canadian-dollar obligation?
2. Why was the cross-currency swap designated as a cash flow hedge rather than a fair value hedge?
3. Why do some cross-currency swap’s fair value changes flow to earnings (through Cost of goods sold) while other fair value changes bypass earnings and flow to Other comprehensive income?
4. What did the company accomplish with its financial commodity swap contract for natural gas?
5. Why was the natural gas commodity swap designated as a cash flow hedge rather than a fair value hedge?
6. What did the company accomplish with its commodity swaps and futures contracts for aluminum, natural gas, electricity, and diesel fuel surcharges?
7. Why do some fair value changes associated with these commodity swaps and futures contracts flow to earnings (through Cost of goods sold) while other fair value changes bypass earnings and flow to Other comprehensive income?
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