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DERIVATIVE FINANCIAL INSTRUMENTS
 3 Months Ended
May 03, 2015
DERIVATIVE FINANCIAL INSTRUMENTS

NOTE G. DERIVATIVE FINANCIAL INSTRUMENTS

We have retail and e-commerce businesses in Canada, Australia and the United Kingdom, and operations throughout Asia and Europe, which expose us to market risk associated with foreign currency exchange rate fluctuations. Substantially all of our purchases and sales are denominated in U.S. dollars, which limits our exposure to this risk. While the impact of foreign currency exchange rate fluctuations was not significant to us in the first quarter of fiscal 2015, we continue to see volatility in the exchange rates in the countries in which we do business. As we continue to expand globally, the foreign currency exchange risk related to the transactions of our foreign subsidiaries may increase. To mitigate this risk, we hedge a portion of our foreign currency exposure with foreign currency forward contracts in accordance with our risk management policies. We do not enter into such contracts for speculative purposes.

The assets or liabilities associated with the derivative instruments are measured at fair value and recorded in either other current assets or other current liabilities. As discussed below, the accounting for gains and losses resulting from changes in fair value depends on whether the derivative instrument is designated as a hedge and qualifies for hedge accounting in accordance with the Financial Accounting Standards Board Accounting Standards Codification (“ASC”) 815, Derivatives and Hedging.

Cash Flow Hedges

We enter into foreign currency forward contracts designated as cash flow hedges for forecasted inventory purchases in U.S. dollars by our foreign subsidiaries. These hedges generally have terms of up to 12 months. All hedging relationships are formally documented, and the forward contracts are designed to mitigate foreign currency exchange risk on hedged transactions. We record the effective portion of changes in the fair value of our cash flow hedges in other comprehensive income (“OCI”) until the earlier of when the hedged forecasted inventory purchase occurs or the respective contract reaches maturity. Subsequently, as the inventory is sold to the customer, we reclassify amounts previously recorded in OCI to cost of goods sold. Changes in the fair value of the forward contract related to interest charges or “forward points” are excluded from the assessment and measurement of hedge effectiveness and are recorded immediately in other income (expense), net. Based on the rates in effect as of May 3, 2015, we expect to reclassify a net gain of approximately $540,000 from OCI to cost of goods sold over the next 12 months.

We also enter into non-designated foreign currency forward contracts to reduce the exchange risk associated with our assets and liabilities denominated in a foreign currency. Any foreign exchange gains (losses) related to these contracts are recognized in other income (expense), net.

 

As of May 3, 2015, and May 4, 2014, we had foreign currency forward contracts outstanding (in U.S. dollars) as follows:

 

In thousands May 3, 2015   May 4, 2014  

Contracts to sell Canadian dollars and buy U.S. dollars

Contracts designated as cash flow hedges

 $ 20,400    $ 23,000   

Contracts not designated as cash flow hedges 1

 $ 0    $ 1,500   

Contracts to sell Australian dollars and buy U.S. dollars

Contracts not designated as cash flow hedges

 $ 26,000    $ 10,000   
                   
1  These contracts are no longer designated as cash flow hedges as the related inventory purchases have occurred.

Hedge effectiveness is evaluated prospectively at inception, on an ongoing basis, as well as retrospectively using regression analysis. Any measureable ineffectiveness of the hedge is recorded in other income (expense), net. No gain or loss was recognized for cash flow hedges due to hedge ineffectiveness and all hedges were deemed effective for assessment purposes for the thirteen weeks ended May 3, 2015 and May 4, 2014.

The effect of derivative instruments in our Condensed Consolidated Financial Statements, pre-tax, was as follows:

 

In thousands Thirteen
Weeks Ended
May 3, 2015		  

Thirteen

Weeks Ended

May 4, 2014

  

Net loss recognized in OCI

 $ (513 )  $ (224 ) 

Net gain reclassified from OCI into cost of goods sold

 $ 268    $ 233   

Net foreign exchange gain (loss) recognized in other income (expense):

Instruments designated as cash flow hedges1

 $ (16 )  $ (34 ) 

Instruments not designated or de-designated2

 $ 382    $ 584   
                  
1  Changes in fair value of the forward contract related to interest charges or “forward points.”
2  Changes in fair value subsequent to de-designation for instruments no longer designated as cash flow hedges, and changes in fair value related to instruments not designated as cash flow hedges.

The fair values of our derivative financial instruments are presented below. All fair values for these derivatives were measured using Level 2 inputs as defined by the fair value hierarchy described in Note H.

 

In thousands Balance sheet location May 3, 2015   May 4, 2014  

Derivatives designated as hedging instruments:

Cash flow hedge foreign currency forward contracts

 Other current assets $ 283    $ 112   

Cash flow hedge foreign currency forward contracts

 Other current liabilities   (426 )    (147 ) 
                       

Total, net

 $ (143 )  $ (35 ) 
                       

Derivatives not designated as hedging instruments:

Foreign currency forward contracts

 Other current assets $ 262    $ 72   
                       

Total, net

 $ 262    $ 72   
                       

 

We record all derivative assets and liabilities on a gross basis. They do not meet the balance sheet netting criteria as discussed in ASC 210, Balance Sheet, because we do not have master netting agreements established with our derivative counterparties that would allow for net settlement.

Amounts recorded within accumulated other comprehensive income (“AOCI”) associated with our derivative instruments, pre-tax, were as follows:

 

In thousands

Thirteen

Weeks Ended
May 3, 2015

  

Thirteen

Weeks Ended
May 4, 2014

  

AOCI beginning balance amount of gain (loss)

 $ 1,321    $ 741   

Amounts recognized in OCI before reclassifications

   (513 )    (224 ) 

Amounts reclassified from OCI to cost of goods sold

   (268 )    (233 ) 
                  

AOCI ending balance amount of gain (loss)

 $ 540    $ 284