Avon 2001 Annual Report Download - page 31

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business credits to the years ended December 31, 1982,
1983, 1985 and 1986. The Company recognized $40.1
million as an income tax benefit in 2000 resulting from
the impact of the tax refund offset by taxes due on interest
received and other related tax obligations.
Financial Instruments and Risk Management
Avon operates globally, with manufacturing and distribu-
tion facilities in various locations around the world. Avon
may reduce its exposure to fluctuations in earnings and
cash flows associated with changes in interest rates and
foreign exchange rates by creating offsetting positions
through the use of derivative financial instruments. Since
Avon uses foreign currency-rate sensitive and interest-rate
sensitive instruments to hedge a certain portion of its
existing and forecasted transactions, Avon expects that any
loss in value for the hedge instruments generally would be
offset by increases in the value of the underlying transac-
tions. Avon also enters into foreign currency forward con-
tracts and options to protect against the adverse effects
that exchange rate fluctuations may have on the earnings
of its foreign subsidiaries. Avon does not enter into deriva-
tive financial instruments for trading purposes, nor is
Avon a party to leveraged derivatives.
Accounting Policies > Derivatives are recognized on the bal-
ance sheet at their fair values. The accounting for changes
in fair value (gains or losses) of a derivative instrument
depends on whether it has been designated by Avon and
qualifies as part of a hedging relationship and further, on
the type of hedging relationship. Changes in the fair value
of a derivative that is designated as a fair value hedge,
along with the loss or gain on the hedged asset or liability
that is attributable to the hedged risk, are recorded in
earnings. Changes in the fair value of a derivative that is
designated as a cash flow hedge are recorded in other com-
prehensive income (“OCI”) to the extent effective and
reclassified into earnings in the same period or periods
during which the hedged transaction affects earnings.
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Changes in the fair value of a derivative that is designated
as a hedge of a net investment in a foreign operation are
recorded in foreign currency translation adjustments
within OCI to the extent effective as a hedge. “Effectiveness”
is the extent to which changes in fair value of a derivative
offsets changes in fair value of the hedged item. Changes
in the fair value of a derivative not designated as a hedging
instrument are recognized in earnings in Other (income)
expense, net on the Consolidated Statements of Income.
Changes in the fair value of a derivative are reported on the
Consolidated Statements of Cash Flows consistent with
the underlying hedged item.
Avon assesses, both at the hedge’s inception and on
an ongoing basis, whether the derivatives that are used
in hedging transactions are highly effective in offsetting
changes in fair values or cash flows of hedged items.
Highly effective means that cumulative changes in the fair
value of the derivative are between 80%–125% of the
cumulative changes in the fair value of the hedged item.
The ineffective portion of the derivative’s gain or loss, if
any, is recorded in earnings in Other (income) expense, net
on the Consolidated Statements of Income. Prior to June
1, 2001, Avon excluded the change in the time value of
option contracts from its assessment of hedge effectiveness.
Effective June 1, 2001, Avon includes the change in the
time value of options in its assessment of hedge effective-
ness. When Avon determines that a derivative is not
highly effective as a hedge, hedge accounting is discontin-
ued prospectively. When hedge accounting is discontinued
because it is probable that a forecasted transaction will not
occur, Avon discontinues hedge accounting for the affected
portion of the forecasted transaction, and reclassifies gains
and losses that were accumulated in OCI to earnings in
Other (income) expense, net on the Consolidated
Statements of Income.
Interest Rate Risk > Avon uses interest rate swaps to hedge
interest rate risk on its fixed-rate debt. In addition, Avon
may periodically employ interest rate caps and forward
interest rate agreements to reduce exposure, if any, to
increases in variable interest rates.
At December 31, 2002 and 2001, Avon held interest rate swap agreements that effectively convert $600.0 and
$550.0, respectively, of its fixed-rate debt to a variable interest rate based on LIBOR, as follows:
Notional Amount
2002 2001 Maturity Date Related Outstanding Debt
$ — $ 50.0 May 2003 $100.0, 6.25% Bonds, due 2018
100.0 100.0 November 2004 200.0, 6.90% Notes, due 2004
100.0 100.0 November 2004 200.0, 6.90% Notes, due 2004
100.0 — August 2007 100.0, 6.55% Notes, due 2007
150.0 150.0 November 2009 300.0, 7.15% Notes, due 2009
150.0 150.0 November 2009* 300.0, 7.15% Notes, due 2009
* This interest rate swap agreement requires Avon to post collateral in certain circumstances if Avon’s
credit rating drops below BBB.