Nike 2011 Annual Report Download - page 27

27NIKE,INC.-Form10-K
PARTII
ITEM7Management’s Discussion and Analysis of Financial Condition and Results of Operations
Translational exposures
Substantially all of our foreign subsidiaries operate in functional currencies other
than the U.S. dollar. Fluctuations in currency exchange rates create volatility
in our reported results as we are required to translate the balance sheets and
operational results of these foreign currency denominated subsidiaries into
U.S. dollars for consolidated reporting. The translation of foreign subsidiaries
non-U.S. dollar balance sheets into U.S. dollars for consolidated reporting
results in a cumulative translation adjustment to OCI within shareholders’
equity. In preparing our consolidated statements of income, foreign exchange
rate fl uctuations impact our operating results as the revenues and expenses
of our foreign operations are translated into U.S.dollars. In translation, a
weaker U.S.dollar in relation to foreign functional currencies benefi ts our
consolidated earnings whereas a stronger U.S.dollar reduces our consolidated
earnings. The impact of foreign exchange rate fl uctuations on the translation
of our consolidated revenues and income before income taxes was a net
translation benefi t (detriment) of approximately ($28)million and ($16)million,
respectively, for theyear ended May31,2011 and approximately $147million
and $33million, respectively, for theyear ended May31,2010.
Managing translational exposures
To minimize the impact of translating foreign currency denominated revenues
and expenses into U.S. dollars for consolidated reporting, certain foreign
subsidiaries use excess cash to purchase U.S. dollar denominated available-for-
sale investments. The variable future cash fl ows associated with the purchase
and subsequent sale of these U.S. dollar denominated securities at non-U.S.
dollar functional currency subsidiaries creates a foreign currency exposure that
qualifi es for hedge accounting under the accounting standards for derivatives
and hedging. We utilize forward contracts and options to partially, or entirely,
hedge the variability of the forecasted future purchases and sales of these U.S.
dollar investments. This has the effect of partially offsetting theyear-over-year
foreign currency translation impact on net earnings in the period the investments
are sold. Hedges of available-for-sale investments are accounted for as cash
fl ow hedges. The fair value of instruments used in this manner at May31,2011
was $1million in assets and $21million in liabilities. At May31,2010, the fair
value was $78million in assets. The effective portion of the changes in fair
value of these instruments is reported in OCI and reclassifi ed into earnings in
other (income), net in the period during which the hedged available-for-sale
investment is sold and affects earnings. Any ineffective portion, which was
not material for any period presented, is immediately recognized in earnings
as a component of other (income), net.
We estimate that the combination of translation of foreign currency-denominated
profi ts from our international businesses and theyear-over-year change in foreign
currency related net gains included in other (income), net had net (detriment)
benefi t on our income before income taxes of approximately $(33)million and
$34million for theyears ended May31,2011 and 2010.
Refer to Note17— Risk Management and Derivatives in the accompanying
Notes to the Consolidated Financial Statements for additional quantitative detail.
Net investments in foreign subsidiaries
We are also exposed to the impact of foreign exchange fl uctuations on our
investments in wholly-owned foreign subsidiaries denominated in a currency
other than the U.S. dollar, which could adversely impact the U.S.dollar value
of these investments and therefore the value of future repatriated earnings.
We hedge certain net investment positions in Euro-functional currency foreign
subsidiaries to mitigate the effects of foreign exchange fl uctuations on net
investments with the effect of preserving the value of future repatriated earnings.
In accordance with the accounting standards for derivatives and hedging, the
effective portion of the change in fair value of the forward contracts designated
as net investment hedges is recorded in the cumulative translation adjustment
component of accumulated other comprehensive income. Any ineffective
portion, which was not material for any period presented, is immediately
recognized in earnings as a component of other (income), net. To minimize
credit risk, we have structured these net investment hedges to be generally
less than sixmonths in duration. Upon maturity, the hedges are settled
based on the current fair value of the forward contracts with the realized
gain or loss remaining in OCI; concurrent with settlement, we enter into new
forward contracts at the current market rate. The fair value of outstanding
net investment hedges at May31,2011 was $23million in liabilities. At
May31,2010, the fair value was $32million in assets. Cash fl ows from net
investment hedge settlements totaled ($23)million and $5million in theyears
ended May31,2011 and 2010, respectively.
Liquidity and Capital Resources
Cash Flow Activity
Cash provided by operations was $1.8billion for fi scal2011 compared to
$3.2billion for fi scal2010. Our primary source of operating cash fl ow for
fi scal2011 was net income of $2.1billion. Our working capital was a net cash
outfl ow of $708million for fi scal2011 as compared to a positive net cash infl ow
of $694million for fi scal2010. Our investments in working capital increased
primarily due to an increase in inventory and higher accounts receivable.
Inventory at the end of fi scal2011 increased 33% compared to fi scal2010,
primarily driven by a 15% increase in futures orders, growth in replenishment
programs for high-turnover styles, early purchases of key seasonal items with
longer production lead times as well as the growth of Direct to Consumer
operations. Changes in currency exchange rates and higher product costs
also contributed to the increase in dollar inventory. The increase in accounts
receivable was mainly attributable to the increase in revenues during fi scal2011.
Cash used by investing activities was $1.0billion during fi scal2011, compared
to $1.3billion for fi scal2010.Theyear-over-year decrease was primarily due
to lower net purchases of short-term investments. Net purchases of short-
term investments were $537million (net of sales and maturities) in fi scal2011
compared to $937million during fi scal2010.
Cash used by fi nancing activities was $2.0billion for fi scal2011 compared
to $1.1billion used in fi scal2010.The increase in cash used by fi nancing
activities was primarily due to an increase in share repurchases and dividends
paid, partially offset by an increase in notes payable.
In fi scal2011, we purchased 23.8million shares of NIKE’s class B common
stock for $1.9billion. These repurchases were made under the four-year,
$5billion program approved by our Board of Directors which commenced
in December2009 and as of the end of fi scal2011, we have repurchased
30.4million shares for $2.3billion under this program. We continue to expect
funding of share repurchases will come from operating cash fl ow, excess cash,
and/or debt. The timing and the amount of shares purchased will be dictated
by our capital needs and stock market conditions.
Off-Balance Sheet Arrangements
In connection with various contracts and agreements, we provide routine
indemnifi cations relating to the enforceability of intellectual property rights,
coverage for legal issues that arise and other items where we are acting as
the guarantor. Currently, we have several such agreements in place. However,
based on our historical experience and the estimated probability of future loss,
we have determined that the fair value of such indemnifi cations is not material
to our fi nancial position or results of operations.