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NOTE 8. FAIR VALUE OF FINANCIAL INSTRUMENTS
The majority of the assets and liabilities we carry at fair value are available-for-sale (AFS) securities and derivatives. AFS securities are derived from level 1 or level 2 inputs. Derivative assets and liabilities are derived from level 2 inputs. The predominance of market inputs are actively quoted and can be validated through external sources, including brokers, market transactions and third-party pricing services. When material, we adjust the values of our derivative contracts for counter-party or our credit risk. There were no transfers into or out of Levels 2 or 3 in the first nine months of 2011.
The following table summarizes our financial instruments recorded at fair value in our Condensed Consolidated Balance Sheets at September 25, 2011:
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Fair Value Measurements Using
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Quoted prices in
active markets for
identical assets
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Significant other
observable inputs
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Significant
unobservable inputs
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In millions
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(Level 1)
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(Level 2)
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(Level 3)
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Total
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Available-for-sale debt securities:
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Debt mutual funds
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$
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31
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$
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83
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$
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$
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114
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Bank debentures
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79
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79
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Certificates of deposit
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67
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67
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Government debt securities-non-U.S.
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|
|
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3
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3
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Corporate debt securities
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2
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|
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2
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Total available-for-sale debt securities
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31
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234
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|
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265
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|
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|
|
|
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Available-for-sale equity securities:
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|
|
|
|
|
|
|
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Financial services industry
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8
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|
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8
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Total available-for-sale equity securities
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8
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8
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|
|
|
|
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|
|
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Derivative assets:
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|
|
|
|
|
|
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Interest rate contracts
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81
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81
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Total derivative assets
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|
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81
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81
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|
|
|
|
|
|
|
|
|
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Derivative liabilities:
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|
|
|
|
|
|
|
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Commodity swap contracts
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|
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17
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17
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Foreign currency forward contracts
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11
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11
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Total derivative liabilities
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28
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28
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|
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Total
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$
|
39
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$
|
287
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$
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$
|
326
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The following table summarizes our financial instruments recorded at fair value in our Condensed Consolidated Balance Sheets at December 31, 2010:
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Fair Value Measurements Using
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Quoted prices in
active markets for
identical assets
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Significant other
observable inputs
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Significant
unobservable inputs
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In millions
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(Level 1)
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(Level 2)
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(Level 3)
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Total
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Available-for-sale debt securities:
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|
|
|
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Debt mutual funds
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$
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75
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$
|
105
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$
|
|
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$
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180
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Bank debentures
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|
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85
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|
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85
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|
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Certificates of deposit
|
|
|
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59
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|
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59
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Government debt securities-non-U.S.
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|
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3
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|
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3
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Corporate debt securities
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|
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2
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|
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2
|
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Total available-for-sale debt securities
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|
75
|
|
254
|
|
|
|
329
|
|
|
|
|
|
|
|
|
|
|
|
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Available-for-sale equity securities:
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|
|
|
|
|
|
|
|
|
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Financial services industry
|
|
10
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|
|
|
|
|
10
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|
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Total available-for-sale equity securities
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|
10
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|
|
|
|
|
10
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|
|
|
|
|
|
|
|
|
|
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Derivative assets:
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|
|
|
|
|
|
|
|
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Commodity swap contracts
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|
|
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21
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|
|
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21
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|
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Interest rate contracts
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|
|
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41
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|
|
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41
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|
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Total derivative assets
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|
|
|
62
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|
|
|
62
|
|
|
|
|
|
|
|
|
|
|
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Total
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$
|
85
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|
$
|
316
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$
|
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$
|
401
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Fair value of derivative assets for foreign currency forward contracts and total derivative liabilities at December 31, 2010, are not material to our Condensed Consolidated Balance Sheets.
The substantial majority of our assets were valued utilizing a market approach. A description of the valuation techniques and inputs used for our level 2 fair value measures are as follows:
Debt mutual funds Assets in level 2 consist of exchange traded mutual funds that lack sufficient trading volume to be classified at level 1. The fair value measure for these investments is the daily net asset value published on a regulated governmental website. Daily quoted prices are available from the issuing brokerage and are used on a test basis to corroborate this level 2 input.
Bank debentures and Certificates of deposit These investments provide us with a fixed rate of return and generally range in maturity from six months to three years. The counter-parties to these investments are reputable financial institutions with investment grade credit ratings. Since these instruments are not tradable and must be settled directly by Cummins with the respective financial institution, our fair value measure is the financial institutions month-end statement.
Government debt securities-non-U.S. and Corporate debt securities The fair value measure for these securities are broker quotes received from reputable firms. These securities are infrequently traded on a national stock exchange and these values are used on a test basis to corroborate our level 2 input measure.
Foreign currency forward contracts The fair value measure for these contracts are determined based on forward foreign exchange rates received from third-party pricing services. These rates are based upon market transactions and are periodically corroborated by comparing to third-party broker quotes.
Commodity swap contracts The fair value measure for these contracts are current spot market data adjusted for the appropriate current forward curves provided by external financial institutions. The current spot price is the most significant component of this valuation and is based upon market transactions. We use third-party pricing services for the spot price component of this valuation which is periodically corroborated by market data from broker quotes.
Interest rate contracts We currently have only one interest rate contract. We utilize the month-end statement from the issuing financial institution as our fair value measure for this investment. We corroborate this valuation through the use of a third-party pricing service for similar assets and liabilities.
Fair Value of Other Financial Instruments
Based on borrowing rates currently available to us for bank loans with similar terms and average maturities, considering our risk premium, the fair value and carrying value of total debt, including current maturities, at September 25, 2011 and December 31, 2010, are set forth in the table below. The carrying values of all other receivables and liabilities approximated fair values.
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September 25,
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December 31,
|
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In millions
|
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2011
|
|
2010
|
|
|
Fair value of total debt
|
|
$
|
897
|
|
$
|
886
|
|
|
Carrying value of total debt
|
|
801
|
|
843
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