Nike 2014 Annual Report Download - page 69

PART II
Embedded Derivatives
As part of the foreign currency adjustment program described above, an
embedded derivative contract is created upon the factory’s acceptance of
NIKE’s purchase order for currencies within the factory currency exposure
indices that are neither the U.S. Dollar nor the local or functional currency of
the factory. Embedded derivative contracts are treated as foreign currency
forward contracts that are bifurcated from the related purchase order and
recorded at fair value as a derivative asset or liability on the Consolidated
Balance Sheets with their corresponding change in fair value recognized in
Other expense (income), net from the date a purchase order is accepted by a
factory through the date the purchase price is no longer subject to foreign
currency fluctuations. At May 31, 2014, the notional amount of embedded
derivatives was approximately $100 million.
Undesignated Derivative Instruments
The Company may elect to enter into foreign exchange forwards to mitigate
the change in fair value of specific assets and liabilities on the Consolidated
Balance Sheets and/or the embedded derivative contracts explained above.
These forwards are not designated as hedging instruments under the
accounting standards for derivatives and hedging. Accordingly, these
undesignated instruments are recorded at fair value as a derivative asset or
liability on the Consolidated Balance Sheets with their corresponding change
in fair value recognized in Other expense (income), net, together with the re-
measurement gain or loss from the hedged balance sheet position or
embedded derivative contract. The Company classifies the cash flows at
settlement from undesignated instruments in the same category as the cash
flows from the related hedged items, generally within the Cash provided by
operations component of the Consolidated Statement of Cash Flows.
Credit Risk
The Company is exposed to credit-related losses in the event of non-
performance by counterparties to hedging instruments. The counterparties to
all derivative transactions are major financial institutions with investment grade
credit ratings. However, this does not eliminate the Company’s exposure to
credit risk with these institutions. This credit risk is limited to the unrealized
gains in such contracts should any of these counterparties fail to perform as
contracted. To manage this risk, the Company has established strict
counterparty credit guidelines that are continually monitored.
The Company’s derivative contracts contain credit risk related contingent
features designed to protect against significant deterioration in counterparties’
creditworthiness and their ultimate ability to settle outstanding derivative
contracts in the normal course of business. The Company’s bilateral credit
related contingent features generally require the owing entity, either the
Company or the derivative counterparty, to post collateral for the portion of
the fair value in excess of $50 million should the fair value of outstanding
derivatives to either counterparty be greater than $50 million. Additionally, a
certain level of decline in credit rating of either the Company or the
counterparty could also trigger collateral requirements. As of May 31, 2014,
the Company was in compliance with all credit risk related contingent features
and the fair value of its derivative instruments with credit risk related
contingent features in a net liability position was $22 million. Accordingly, the
Company was not required to post any collateral as a result of these
contingent features. Further, as of May 31, 2014 those counterparties which
were required to post collateral complied with such requirements. Given the
considerations described above, the Company considers the impact of the
risk of counterparty default to be immaterial.
NOTE 18 — Operating Segments and Related Information
The Company’s operating segments are evidence of the structure of the
Company’s internal organization. The Company’s operating segments have
changed beginning in the first quarter of fiscal 2014 to mirror the changes in
the structure of the Company’s internal organization that were effective during
the first quarter of fiscal 2014. The NIKE Brand segments continue to be
defined by geographic regions for operations participating in NIKE Brand
sales activity and also include the results of NIKE Golf and Hurley, which are
now managed within the geographies. Previously, NIKE Golf and Hurley were
combined with Converse and reported as “Other Businesses.”
Each NIKE Brand geographic segment operates predominantly in one
industry: the design, development, marketing and selling of athletic footwear,
apparel, and equipment. The Company’s reportable operating segments for
the NIKE Brand are: North America, Western Europe, Central & Eastern
Europe, Greater China, Japan, and Emerging Markets. The Company’s NIKE
Brand Direct to Consumer operations are managed within each geographic
operating segment. Converse is also a reportable segment for NIKE, Inc., and
operates in one industry: the design, marketing, licensing, and selling of
casual sneakers, apparel, and accessories. Prior period segment information
has been restated to reflect these changes.
Global Brand Divisions is included within the NIKE Brand for presentation
purposes to align with the way management views the Company. Global
Brand Divisions primarily represent NIKE Brand licensing businesses that are
not part of a geographic operating segment, Demand creation expense and
Operating overhead expense that are centrally managed for the NIKE Brand,
and costs associated with product development and supply chain
operations.
Corporate consists largely of unallocated general and administrative
expenses, including expenses associated with centrally managed
departments, depreciation and amortization related to the Company’s
headquarters, unallocated insurance and benefit programs, including stock-
based compensation, certain foreign currency gains and losses, including
certain hedge gains and losses, certain corporate eliminations and other
items.
The primary financial measure used by the Company to evaluate performance
of individual operating segments is earnings before interest and taxes
(commonly referred to as “EBIT”), which represents Net income before
Interest expense (income), net and Income tax expense in the Consolidated
Statements of Income. Reconciling items for EBIT represent corporate
expense items that are not allocated to the operating segments for
management reporting.
As part of the Company’s centrally managed foreign exchange risk
management program, standard foreign currency rates are assigned twice
per year to each NIKE Brand entity in the Company’s geographic operating
segments and to Converse. These rates are set approximately nine months in
advance of the future selling season based on average market spot rates in
the calendar month preceding the date they are established. Inventories and
Cost of sales for geographic operating segments and Converse reflect use of
these standard rates to record non-functional currency product purchases in
the entity’s functional currency. Differences between assigned standard
foreign currency rates and actual market rates are included in Corporate,
together with foreign currency hedge gains and losses generated from the
Company’s centrally managed foreign exchange risk management program
and other conversion gains and losses.
Accounts receivable, Inventories and Property, plant and equipment for
operating segments are regularly reviewed by management and are therefore
provided below. Additions to long-lived assets as presented in the following
table represent capital expenditures.
Certain prior year amounts have been reclassified to conform to fiscal 2014
presentation.
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