American Airlines 1999 Annual Report Download - page 49

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6. FINANCIAL INSTRUMENTS AND RISK
MANAGEMENT
As part of the Company’s risk management program, AM R uses
a variety of financial instruments, including interest rate swaps,
fuel swap and option contracts and currency exchange agreements.
The Company does not hold or issue derivative financial instru-
ments for trading purposes.
Notional Amounts and Credit Exposures of Derivatives The
notional amounts of derivative financial instruments summarized
in the tables which follow do not represent amounts exchanged
between the parties and, therefore, are not a measure of the
Company’s exposure resulting from its use of derivatives. The
amounts exchanged are calculated based on the notional amounts
and other terms of the instruments, which relate to interest rates,
exchange rates or other indices.
The Company is exposed to credit losses in the event of non-
performance by counterparties to these financial instruments, but
it does not expect any of the counterparties to fail to meet its
obligations. The credit exposure related to these financial instru-
ments is represented by the fair value of contracts with a positive
fair value at the reporting date, reduced by the effects of master
netting agreements. To manage credit risks, the Company selects
counterparties based on credit ratings, limits its exposure to a
single counterparty under defined guidelines, and monitors the
market position of the program and its relative market position
with each counterparty. The Company also maintains industry-
standard security agreements with the majority of its counter-
parties which may require the Company or the counterparty
to post collateral if the value of these instruments falls below
certain mark-to-market thresholds. As of December 31, 1999,
no collateral was required under these agreements, and the
Company does not expect to post collateral in the near future.
Interest Rate Risk Management American enters into interest
rate swap contracts to effectively convert a portion of its fixed-
rate obligations to floating-rate obligations. These agreements
involve the exchange of amounts based on a floating interest rate
for amounts based on fixed interest rates over the life of the
agreement without an exchange of the notional amount upon
which the payments are based. The differential to be paid or
received as interest rates change is accrued and recognized as an
adjustment of interest expense related to the obligation. The
related amount payable to or receivable from counterparties is
included in current liabilities or assets. The fair values of the swap
agreements are not recognized in the financial statements. Gains
and losses on terminations of interest rate swap agreements are
deferred as an adjustment to the carrying amount of the out-
standing obligation and amortized as an adjustment to interest
expense related to the obligation over the remaining term of the
original contract life of the terminated swap agreement. In the
event of the early extinguishment of a designated obligation, any
realized or unrealized gain or loss from the swap would be
recognized in income coincident with the extinguishment.
The following table indicates the notional amounts and fair
values of the Company’s interest rate swap agreements (in
millions):
December 31,
1999 1998
Notional Fair Notional Fair
Amount Value Amount Value
Interest rate swap agreements $696 $(9) $1,054 $38
The fair values represent the amount the Company would pay
or receive if the agreements were terminated at December 31,
1999 and 1998, respectively.