BP 2008 Annual Report Download - page 154

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Financial statements
BP Annual Report and Accounts 2008
Notes on financial statements
34. Derivative financial instruments continued
Embedded derivatives
Prior to the development of an active gas trading market, UK gas contracts were priced using a basket of available price indices, primarily relating to oil
products, power and inflation. After the development of an active UK gas market, certain contracts were entered into or renegotiated using pricing
formulae not directly related to gas prices, for example, oil product and power prices. In these circumstances, pricing formulae have been determined
to be derivatives, embedded within the overall contractual arrangements that are not clearly and closely related to the underlying commodity. The
resulting fair value relating to these contracts is recognized on the balance sheet with gains or losses recognized in the income statement.
All the embedded derivatives are valued using inputs that include price curves for each of the different products that are built up from active
market pricing data. Where necessary, these are extrapolated to the expiry of the contracts (the last of which is in 2018) using all available external
pricing information. Additionally, where limited data exists for certain products, prices are interpolated using historic and long-term pricing relationships.
The following table shows the changes during the year in the net fair value of embedded derivatives.
$ million
2008 2007
Commodity Interest Commodity Interest
price rate Total price rate Total
Fair value of contracts at 1 January (2,085) (33) (2,118) (2,064) (26) (2,090)
Contracts realized or settled in the year 294 38 332 449 – 449
Changes in valuation techniques or key assumptions –––130 – 130
Changes in fair values relating to price (928) (5) (933) (567) (7) (574)
Exchange adjustments 852 – 852 (33) – (33)
Fair value of contracts at 31 December (1,867) – (1,867) (2,085) (33) (2,118)
Embedded derivative assets have the following fair values and maturities.
$ million
2008
Less than Over
1 year 1-2 years 2-3 years 3-4 years 4-5 years 5 years Total
Commodity price embedded derivatives 50 116 75 45 36 75 397
$ million
2007
Less than Over
1 year 1-2 years 2-3 years 3-4 years 4-5 years 5 years Total
Commodity price embedded derivatives 193 18 15 7 10 12 255
Embedded derivative liabilities have the following fair values and maturities.
$ million
2008
Less than Over
1 year 1-2 years 2-3 years 3-4 years 4-5 years 5 years Total
Commodity price embedded derivatives (404) (322) (365) (303) (271) (599) (2,264)
$ million
2007
Less than Over
1 year 1-2 years 2-3 years 3-4 years 4-5 years 5 years Total
Commodity price embedded derivatives (554) (437) (299) (244) (219) (587) (2,340)
Interest rate embedded derivatives (33) – – – – – (33)
(587) (437) (299) (244) (219) (587) (2,373)
153