Financial Derivative Instruments and Risk Management | 9 Months Ended |
Sep. 30, 2013 |
Derivative Instruments and Hedging Activities Disclosure [Abstract] | ' |
Financial Derivative Instruments and Risk Management | ' |
FINANCIAL DERIVATIVE INSTRUMENTS AND RISK MANAGEMENT |
As part of our risk management techniques, we periodically purchase over the counter energy derivative instruments and enter into fixed forward price agreements, or FFPs, to manage our exposure to the effect of changes in the price of aircraft fuel. Prices for the underlying commodities have historically been highly correlated to aircraft fuel, making derivatives of them effective at providing short-term protection against sharp increases in average fuel prices. We also periodically enter into jet fuel basis swaps for the differential between heating oil and jet fuel, to further limit the variability in fuel prices at various locations. |
To manage the variability of the cash flows associated with our variable rate debt, we have also entered into interest rate swaps. We do not hold or issue any derivative financial instruments for trading purposes. |
Aircraft fuel derivatives: We attempt to obtain cash flow hedge accounting treatment for each aircraft fuel derivative that we enter into. This treatment is provided for under the Derivatives and Hedging topic of the Codification which allows for gains and losses on the effective portion of qualifying hedges to be deferred until the underlying planned jet fuel consumption occurs, rather than recognizing the gains and losses on these instruments into earnings during each period they are outstanding. The effective portion of realized aircraft fuel hedging derivative gains and losses is recognized in aircraft fuel expense in the period the underlying fuel is consumed. |
Ineffectiveness results, in certain circumstances, when the change in the total fair value of the derivative instrument differs from the change in the value of our expected future cash outlays for the purchase of aircraft fuel and is recognized immediately in interest income and other. Likewise, if a hedge does not qualify for hedge accounting, the periodic changes in its fair value are recognized in the period of the change in interest income and other. When aircraft fuel is consumed and the related derivative contract settles, any gain or loss previously recorded in other comprehensive income is recognized in aircraft fuel expense. All cash flows related to our fuel hedging derivatives are classified as operating cash flows. |
Our current approach to fuel hedging is to enter into hedges on a discretionary basis without a specific target of hedge percentage needs. We view our hedge portfolio as a form of insurance to help mitigate the impact of price volatility and protect us against severe spikes in oil prices, when possible. |
The following table illustrates the approximate hedged percentages of our projected fuel usage by quarter as of September 30, 2013 related to our outstanding fuel hedging contracts that were designated as cash flow hedges for accounting purposes. |
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| Jet fuel swap | | Jet fuel cap | | Total | | | | | | | | | | | |
agreements | agreements | | | | | | | | | | | |
Fourth Quarter 2013 | 19 | % | | 8 | % | | 27 | % | | | | | | | | | | | |
First Quarter 2014 | 7 | % | | 8 | % | | 15 | % | | | | | | | | | | | |
Second Quarter 2014 | 7 | % | | 8 | % | | 15 | % | | | | | | | | | | | |
Third Quarter 2014 | 2 | % | | — | | | 2 | % | | | | | | | | | | | |
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Fourth Quarter 2014 | 2 | % | | — | | | 2 | % | | | | | | | | | | | |
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During 2013, we also entered into additional basis swap transactions to be settled later in 2013, which are not designated as cash flow hedges for accounting purposes and as a result are marked to market in earnings each period. As of September 30, 2013, the fair value recorded for these contracts was a net liability of approximately $1 million. Additionally, we enter into FFPs which allow us to lock in the price of fuel for specified quantities and at specified locations in future periods. Of our remaining projected 2013 fuel requirements, 12% were managed with FFPs at September 30, 2013. |
During 2013 we determined certain of our derivatives no longer qualified for hedge accounting. As such, we prospectively discontinued the application of hedge accounting for the remaining portion of our outstanding Brent crude oil agreements. Any incremental increase or decrease in the value of these contracts will be recognized in interest income and other in each period during 2013 until the contracts settle. |
Interest rate swaps: The interest rate hedges we had outstanding as of September 30, 2013 effectively swap floating rate for fixed rate, taking advantage of lower borrowing rates in existence at the time of the hedge transaction as compared to the date our original debt instruments were executed. As of September 30, 2013, we had $68 million in notional debt outstanding related to these swaps, which cover certain interest payments through August 2016. The notional amount decreases over time to match scheduled repayments of the related debt. |
All of our outstanding interest rate swap contracts qualify as cash flow hedges in accordance with the Derivatives and Hedging topic of the Codification. Since all of the critical terms of our swap agreements match the debt to which they pertain, there was no ineffectiveness relating to these interest rate swaps in 2013 or 2012, and all related unrealized losses were deferred in accumulated other comprehensive loss. We recognized approximately $8 million in additional interest expense as the related interest payments were made in each of the nine months ended September 30, 2013 and 2012. |
The table below reflects quantitative information related to our derivative instruments and where these amounts are recorded in our financial statements (dollar amounts in millions): |
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| As of | | | | | | | | | | | | |
| September 30, | | December 31, | | | | | | | | | | | | |
2013 | 2012 | | | | | | | | | | | | |
Fuel derivatives | | | | | | | | | | | | | | | |
Liability fair value recorded in other accrued liabilities (1) | $ | — | | | $ | 1 | | | | | | | | | | | | | |
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Longest remaining term (months) | 15 | | | 9 | | | | | | | | | | | | | |
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Hedged volume (barrels, in thousands) | 2,307 | | | 675 | | | | | | | | | | | | | |
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Estimated amount of existing losses expected to be reclassified into earnings in the next 12 months | $ | (5 | ) | | $ | (1 | ) | | | | | | | | | | | | |
Interest rate derivatives | | | | | | | | | | | | | | | |
Liability fair value recorded in other long term liabilities (2) | 4 | | | 12 | | | | | | | | | | | | | |
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Estimated amount of existing losses expected to be reclassified into earnings in the next 12 months | (2 | ) | | (9 | ) | | | | | | | | | | | | |
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| Three Months Ended September 30, | | Nine Months Ended September 30, | | | | |
| 2013 | | 2012 | | 2013 | | 2012 | | | | |
Fuel derivatives | | | | | | | | | | | |
Hedge effectiveness gains (losses) recognized in aircraft fuel expense | $ | (3 | ) | | $ | 2 | | | $ | (7 | ) | | $ | 10 | | | | | |
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Gains (losses) on derivatives not qualifying for hedge accounting recognized in other expense | 1 | | | — | | | (1 | ) | | (3 | ) | | | | |
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Hedge gains (losses) on derivatives recognized in comprehensive income | 11 | | | 23 | | | (10 | ) | | 17 | | | | | |
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Percentage of actual consumption economically hedged | 29 | % | | 27 | % | | 21 | % | | 31 | % | | | | |
Interest rate derivatives | | | | | | | | | | | |
Hedge gains (losses) on derivatives recognized in comprehensive income | $ | 1 | | | $ | (1 | ) | | $ | 1 | | | $ | (3 | ) | | | | |
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Hedge losses on derivatives recognized in interest expense | (3 | ) | | (3 | ) | | (8 | ) | | (8 | ) | | | | |
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-1 | Gross asset or liability of each contract prior to consideration of offsetting positions with each counterparty. | | | | | | | | | | | | | | | | | | |
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-2 | Gross liability, prior to impact of collateral posted. | | | | | | | | | | | | | | | | | | |
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Any outstanding derivative instrument exposes us to credit loss in connection with our fuel contracts in the event of nonperformance by the counterparties to the agreements, but we do not expect that any of our seven counterparties will fail to meet their obligations. The amount of such credit exposure is generally the fair value of our outstanding contracts for which we are in a receivable position. To manage credit risks, we select counterparties based on credit assessments, limit our overall exposure to any single counterparty and monitor the market position with each counterparty. Some of our agreements require cash deposits from either counterparty if market risk exposure exceeds a specified threshold amount. |
We have master netting arrangements with our counterparties allowing us the right of offset to mitigate credit risk in derivative transactions. The financial derivative instrument agreements we have with our counterparties may require us to fund all, or a portion of, outstanding loss positions related to these contracts prior to their scheduled maturities. The amount of collateral posted, if any, is periodically adjusted based on the fair value of the hedge contracts. Our policy is to offset the liabilities represented by these contracts with any cash collateral paid to the counterparties. The impact of offsetting derivative instruments is depicted below (dollar amounts in millions): |
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| Gross Amount of | | Gross Amount of | | Net Amount Presented |
Recognized | Cash Collateral | in Balance Sheet |
| Assets | | Liabilities | | Offset | | Assets | | Liabilities |
As of September 30, 2013 | | | | | | | | | |
Fuel derivatives | $ | — | | | $ | — | | | $ | — | | | $ | — | | | $ | — | |
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Interest rate derivatives | — | | | 4 | | | 4 | | | — | | | — | |
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As of December 31, 2012 | | | | | | | | | |
Fuel derivatives | $ | — | | | $ | 1 | | | $ | — | | | $ | — | | | $ | 1 | |
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Interest rate derivatives | — | | | 12 | | | 12 | | | — | | | — | |
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