13.Hedging Activities

Corning is exposed to interest rate and foreign currency risks due to the movement of these rates.

The areas in which exchange rate fluctuations affect us include:

Financial instruments and transactions denominated in foreign currencies, which impact earnings; and

The translation of net assets in foreign subsidiaries for which the functional currency is not the U.S. dollar, which impacts our net equity.

Our most significant foreign currency exposures relate to the Japanese yen, South Korean won, New Taiwan dollar, Chinese yuan, the euro and British pound. We seek to mitigate the impact of exchange rate movements in our income statement by using over-the-counter (OTC) derivative instruments including foreign exchange forward and option contracts. In general, these hedge expirations coincide with the timing of the underlying foreign currency commitments and transactions.

We are exposed to potential losses in the event of non-performance by our counterparties to these derivative contracts. However, we minimize this risk by maintaining our portfolio with a diverse group of highly-rated major financial institutions. We do not expect to record any losses as a result of such counterparty default. Neither we nor our counterparties are required to post collateral for these financial instruments. The Company qualified for and elected the end-user exception to the mandatory swap clearing requirement of the Dodd-Frank Act.

13.Hedging Activities (continued)

Cash Flow Hedges

Our cash flow hedging activities utilize OTC foreign exchange forward contracts and options to reduce the risk that movements in exchange rates will adversely affect the net cash flows resulting from the sale of products to customers and purchases from suppliers. Our cash flow hedging activity also uses interest rate derivatives including Treasury rate lock agreements to reduce the risk of increases in benchmark interest rates on the probable issuance of debt. In the second quarter of 2018, the Company entered into Treasury rate lock agreements to hedge against the variability in cash flows due to changes in the benchmark interest rate related to an anticipated debt issuance. The instruments were designated as cash flow hedges, and were settled on October 31, 2018 concurrent with the debt issuance. The settlement amount of $16 million received will be released from other comprehensive income into earnings when the corresponding interest expense occurs each period.

Corning uses a regression analysis to monitor the effectiveness of its cash flow hedges both prospectively and retrospectively. Through December 31, 2018, the hedge ineffectiveness related to these instruments was not material. Corning defers net gains and losses related to the effective portion of cash flow hedges into accumulated other comprehensive loss on the consolidated balance sheet until the hedged item impacts earnings. At December 31, 2018, the amount expected to be reclassified into earnings within the next 12 months is a pre-tax net gain of $2 million.

Fair Value Hedges

In October of 2012, we entered into two interest rate swaps that are designated as fair value hedges and economically exchange a notional amount of $550 million of previously issued fixed rate long-term debt to floating rate debt. Under the terms of the swap agreements, we pay the counterparty a floating rate that is indexed to the one-month LIBOR rate. In the fourth quarter of 2018, Corning unwound the two interest rate swaps and discontinued the fair value hedge relationship accordingly. The net losses recorded in current period earnings were not material in the Consolidated Statements of Income (Loss).

Corning utilizes the long haul method for effectiveness analysis, both retrospectively and prospectively. The analysis excludes the impact of credit risk from the assessment of hedge effectiveness. The amount recorded in current period earnings is in other expense, net, relative to ineffectiveness, and is not material for the year ended December 31, 2018.

Net gains and losses from fair value hedges and the effects of the corresponding hedged item are recorded on the same line item in the Consolidated Statements of Income (Loss).

Undesignated Hedges

Corning also uses OTC foreign exchange forward and option contracts that are not designated as hedging instruments for accounting purposes. The undesignated hedges limit exposures to foreign functional currency fluctuations related to certain subsidiaries’ monetary assets, monetary liabilities and net earnings in foreign currencies.

A significant portion of the Company’s non-U.S. revenues and expenses are denominated in Japanese yen, South Korean won, New Taiwan dollar, Chinese yuan and euro. When these revenues and expenses are translated back to U.S. dollars, the Company is exposed to foreign exchange rate movements. To protect translated earnings against movements in these currencies, the Company has entered into a series of average rate forwards and other derivative instruments.

13.Hedging Activities (continued)

The Company continued its foreign exchange hedge program in 2018 and entered into a series of average rate forwards, and purchased put or call options. These will hedge a significant portion of its projected yen exposure for the period of 2019-2022. As of December 31, 2018, the U.S. dollar gross notional value of the yen average rate forwards program is $9.1 billion and $2.6 billion for zero-cost collars and purchased put or call options. The average rate forward program was also expanded to partially hedge the impact of the South Korean won, Chinese yuan, euro and British pound translation on the Company’s projected net income. As of December 31, 2018, these average rate forwards have a total notional value of $2.0 billion. The entire average rate forward program will settle net without obligation to deliver Japanese yen, Korean won, Chinese yuan, euro and British pound. With respect to the zero-cost collars, the gross notional amount includes the value of both put and call options. However, due to the nature of the zero-cost collars, only the put or the call option can be exercised at maturity.

The fair values of these derivative contracts are recorded as either assets (gain position) or liabilities (loss position) on the Consolidated Balance Sheets. Changes in the fair value of the derivative contracts are recorded currently in earnings in the Translated earnings contract loss, net line of the Consolidated Statement of Income (Loss).

The following table summarizes the notional amounts and respective fair values of Corning’s derivative financial instruments on a gross basis for December 31, 2018 and December 31, 2017 (in millions):



					Asset derivatives					Liability derivatives
	Notional amount					Fair value					Fair value
	2018		2017		Balance sheet location	2018		2017		Balance sheet location	2018		2017
Derivatives designated as hedging instruments
Foreign exchange contracts (1)	$	391	$	294	Other current assets	$	4	$	20	Other accrued liabilities	$	(2)
					Other assets		2		1

Interest rate contracts				550						Other liabilities			$	(8)
Derivatives not designated as hedging instruments

Foreign exchange contracts, other		900		599	Other current assets		5		2	Other accrued liabilities		(7)		(7)
Translated earnings contracts		13,620		14,275	Other current assets		94		176	Other accrued liabilities		(47)		(34)
					Other assets		43		66	Other liabilities		(386)		(325)

Total derivatives	$	14,911	$	15,718		$	148	$	265		$	(442)	$	(374)

(1)

Cash flow hedges with a typical duration of 24 months or less.

13.Hedging Activities (continued)

The following tables summarize the effect on the consolidated financial statements relating to Corning’s derivative financial instruments (in millions):



	Effect of derivative instruments on the consolidated financial statements for the years ended December 31
Derivatives in hedging	(Loss)/gain recognized in other comprehensive income (OCI)						Location of gain/(loss) reclassified from accumulated OCI into income	Gain/(loss) reclassified from accumulated OCI into income ineffective/effective (1)
relationships	2018		2017		2016		effective/ineffective	2018		2017		2016

Cash flow hedges
							Net sales			$	1	$	4
Interest rate hedge	$	16					Cost of sales	$	13		(12)		(36)
Foreign exchange contracts		(5)	$	38	$	(33)	Other (expense) income, net		(1)		(2)		(2)

Total cash flow hedges	$	11	$	38	$	(33)		$	12	$	(13)	$	(34)



		Gain (loss) recognized in income
Undesignated derivatives	Location of gain/(loss) recognized in income	2018		2017		2016
Foreign exchange contracts – balance sheet	Translated earnings contract gain (loss), net	$	27	$	(11)	$	4
Foreign exchange contracts – loans	Translated earnings contract (loss) gain, net		(5)		(5)		(31)
Translated earnings contracts	Translated earnings contract (loss) gain, net		(93)		(121)		(448)

Total undesignated		$	(71)	$	(137)	$	(475)

(1)

There were no material amounts of ineffectiveness for 2018, 2017 and 2016.