Note 4: Financial Instruments

Fair Value

The Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. When determining the fair value measurements for assets and liabilities required or permitted to be recorded at fair value, the Company considers the principal or most advantageous market in which it would transact, and it considers assumptions that market participants would use when pricing the asset or liability.

A fair value hierarchy has been established that prioritizes the inputs to valuation techniques used to measure fair value. An asset or liability's level in the hierarchy is based on the lowest level of input that is significant to the fair value measurement. Assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:

Level 1: Valuations based on quoted prices in active markets for identical assets or liabilities with sufficient volume and frequency of transactions.

Level 2: Valuations based on observable inputs other than Level 1 prices such as quoted prices for similar assets or liabilities, quoted prices in markets that are not active, or model-derived valuations techniques for which all significant inputs are observable in the market or can be corroborated by, observable market data for substantially the full term of the assets or liabilities.

Level 3: Valuations based on unobservable inputs to the valuation methodology that are significant to the measurement of fair value of assets or liabilities and based on non-binding, broker-provided price quotes and may not have been corroborated by observable market data.

 

The following table sets forth the Company's financial assets and liabilities measured at fair value on a recurring basis as of June 26, 2011:

 

		Total				Fair Value Measurement at June 26, 2011
						Quoted Prices in Active  Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
						(In thousands)
Assets
Short-Term Investments
Money Market Funds		$	1,300,098			$	1,300,098			$	—			$	—
Municipal Notes and Bonds			321,339				—				321,339				—
US Treasury and Agencies			8,496				8,496				—				—
Government-Sponsored Enterprises			19,868				—				19,868				—
Foreign Government Bonds			1,005				—				1,005				—
Corporate Notes and Bonds			382,432				164,885				217,547				—
Mortgage Backed Securities — Residential			2,633				—				2,633				—
Mortgage Backed Securities — Commercial			60,729				—				60,729				—
Total Short-Term Investments		$	2,096,600			$	1,473,479			$	623,121			$	—
Equities			7,443				7,443				—				—
Mutual Funds			19,467				19,467				—				—
Derivatives Assets			1,994				—				1,994				—
Total		$	2,125,504			$	1,500,389			$	625,115			$	—
Liabilities
Derivative liabilities		$	1,924			$	—			$	1,924			$	—

The amounts in the table above are reported in the consolidated balance sheet as of June 26, 2011 as follows:

 

Reported As:		Total				(Level 1)				(Level 2)				(Level 3)
		(In thousands)
Cash Equivalents		$	1,301,600			$	1,300,098			$	1,502			$	—
Short-Term Investments			630,115				8,496				621,619				—
Restricted Cash and Investments			164,885				164,885				—				—
Prepaid Expenses and Other Current Assets			26,910				26,910				—				—
Other Assets			1,994				—				1,994				—
Total		$	2,125,504			$	1,500,389			$	625,115			$	—
Accrued Expenses and Other Current Liabilities		$	1,924			$	—			$	1,924			$	—

 

The following table sets forth the Company's financial assets and liabilities measured at fair value on a recurring basis as of June 27, 2010:

 

		Total				Fair Value Measurement at June 27, 2010
						Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)
						(In thousands)
Assets
Short-Term Investments
Money Market Funds		$	470,936			$	470,936			$	—			$	—
Municipal Notes and Bonds			103,903				—				103,903				—
US Treasury and Agencies			3,447				—				3,447				—
Government-Sponsored Enterprises			6,060				6,060				—				—
Foreign Government Bonds			1,008				—				1,008				—
Corporate Notes and Bonds			289,437				169,723				119,636				78
Mortgage Backed Securities — Residential			6,106				—				6,106				—
Mortgage Backed Securities — Commercial			42,964				—				42,964				—
Total Short-Term Investments		$	923,861			$	646,719			$	277,064			$	78
Equities			7,636				7,636				—				—
Mutual Funds			18,124				18,124				—				—
Derivatives Assets			2,063				—				2,063				—
Total		$	951,684			$	672,479			$	279,127			$	78
Liabilities
Derivative liabilities		$	470			$	—			$	470			$	—

The amounts in the table above are reported in the consolidated balance sheet as of June 27, 2010 as follows:

 

Reported As:		Total				(Level 1)				(Level 2)				(Level 3)
		(In thousands)
Cash Equivalents		$	478,286			$	477,279			$	1,007			$	—
Short-Term Investments			280,690				4,555				276,057				78
Restricted Cash and Investments			164,885				164,885				—				—
Prepaid Expenses and Other Current Assets			2,063				—				2,063				—
Other Assets			25,760				25,760				—				—
Total		$	951,684			$	672,479			$	279,127			$	78
Accrued Expenses and Other Current Liabilities		$	470			$	—			$	470			$	—

The Company's primary financial instruments include its cash, cash equivalents, short-term investments, restricted cash and investments, long-term investments, accounts receivable, accounts payable, long-term debt and capital leases, and foreign currency related derivatives. The estimated fair value of cash, accounts receivable and accounts payable approximates their carrying value due to the short period of time to their maturities. The estimated fair values of long-term debt, excluding convertible notes, and capital lease obligations approximate their carrying value as the substantial majority of these obligations have interest rates that adjust to market rates on a periodic basis. The estimated fair value of convertible notes approximates their carrying value as interest rates on comparable debt have not changed significantly since issuance of the notes. The fair value of cash equivalents, short-term investments, restricted cash and investments, long-term investments, and foreign currency related derivatives are based on quotes from brokers using market prices for similar instruments.

 

Investments

The following tables summarize the Company's investments (in thousands):

 

		June 26, 2011																June 27, 2010
		Cost				Unrealized Gain				Unrealized (Loss)				Fair Value				Cost				Unrealized Gain				Unrealized (Loss)				Fair Value
Cash		$	190,903			$	—			$	—			$	190,903			$	67,830			$	—			$	—			$	67,830
Fixed Income Money Market Funds			1,300,098				—				—				1,300,098				470,936				—				—				470,936
Municipal Notes and Bonds			319,913				1,510				(84	)			321,339				102,130				1,784				(11	)			103,903
US Treasury and Agencies			8,462				34				—				8,496				3,437				10				—				3,447
Government-Sponsored Enterprises			19,864				6				(2	)			19,868				5,976				84				—				6,060
Foreign Government Bonds			1,004				1				—				1,005				1,007				1				—				1,008
Corporate Notes and Bonds			380,992				1,498				(58	)			382,432				287,922				1,608				(93	)			289,437
Mortgage Backed Securities — Residential			2,521				144				(32	)			2,633				5,825				323				(42	)			6,106
Mortgage Backed Securities — Commercial			60,639				277				(187	)			60,729				42,765				275				(76	)			42,964
Total Cash and Short-Term Investments		$	2,284,396			$	3,470			$	(363	)		$	2,287,503			$	987,828			$	4,085			$	(222	)		$	991,691
Publicly Traded Equity Securities		$	9,320			$	—			$	(1,877	)		$	7,443			$	9,471			$	—			$	(1,835	)		$	7,636
Mutual Funds			17,975				1,492				—				19,467				19,043				—				(919	)			18,124
Total Financial Instruments		$	2,311,691			$	4,962			$	(2,240	)		$	2,314,413			$	1,016,342			$	4,085			$	(2,976	)		$	1,017,451
As Reported
Cash and Cash Equivalents		$	1,492,132			$	—			$	—			$	1,492,132			$	545,766			$	1			$	—			$	545,767
Short-Term Investments			627,008				3,470				(363	)			630,115				276,828				4,084				(222	)			280,690
Restricted Cash and Investments			165,256				—				—				165,256				165,234				—				—				165,234
Prepaid Expenses Other Assets			27,295				1,492				(1,877	)			26,910				28,514				—				(2,754	)			25,760
Total		$	2,311,691			$	4,962			$	(2,240	)		$	2,314,413			$	1,016,342			$	4,085			$	(2,976	)		$	1,017,451

The Company accounts for its investment portfolio at fair value. Realized gains (losses) for investments sold are specifically identified. Management assesses the fair value of investments in debt securities that are not actively traded through consideration of interest rates and their impact on the present value of the cash flows to be received from the investments. The Company also considers whether changes in the credit ratings of the issuer could impact the assessment of fair value. Net realized gains (losses) on investments included other-than-temporary impairment charges of $0 million, $0.9 million and $0.3 million in fiscal years 2011, 2010 and 2009, respectively. Additionally, realized gains/(losses) from sales of investments were approximately $0.7 million and $(0.3) million in fiscal year 2011, $0.8 million and $(0.2) million in fiscal year 2010, $2.2 million and $(1.9) million in fiscal year 2009, respectively.

 

The following is an analysis of the Company's fixed income securities in unrealized loss positions as of June 26, 2011 (in thousands):

 

		June 26, 2011
		UNREALIZED LOSSES LESS THAN 12 MONTHS								UNREALIZED LOSSES 12 MONTHS OR GREATER								TOTAL
		Fair Value				Unrealized				Fair Value				Unrealized				Fair Value				Unrealized
Fixed Income Securities
Municipal Notes and Bonds		$	60,311			$	(84	)		$	—			$	—			$	60,311			$	(84	)
Government-Sponsored Enterprises			9,995				(2	)			—				—				9,995				(2	)
Corporate Notes and Bonds			43,383				(58	)			—				—				43,383				(58	)
Mortgage Backed Securities — Residential			—				—				273				(32	)			273				(32	)
Mortgage Backed Securities — Commercial			32,539				(187	)			—				—				32,539				(187	)
Total Fixed Income		$	146,228			$	(331	)		$	273			$	(32	)		$	146,501			$	(363	)

The amortized cost and fair value of cash equivalents and short-term investments and restricted cash and investments with contractual maturities are as follows:

 

		June 26, 2011								June 27, 2010
		Cost				Estimated Fair Value				Cost				Estimated Fair Value
		(in thousands)
Due in less than one year		$	1,606,390			$	1,606,925			$	723,143			$	723,707
Due in more than one year			487,103				489,675				196,855				200,154
		$	2,093,493			$	2,096,600			$	919,998			$	923,861

Management has the ability, if necessary, to liquidate any of its investments in order to meet the Company's liquidity needs in the next 12 months. Accordingly, those investments with contractual maturities greater than one year from the date of purchase nonetheless are classified as short-term on the accompanying consolidated balance sheets.

Derivative Instruments and Hedging

The Company carries derivative financial instruments ("derivatives") on its consolidated balance sheets at their fair values. The Company enters into foreign exchange forward contracts with financial institutions with the primary objective of reducing volatility of earnings and cash flows related to foreign currency exchange rate fluctuations. The counterparties to these foreign exchange forward contracts are creditworthy multinational financial institutions; therefore, we do not consider the risk of counterparty nonperformance to be material.

Cash Flow Hedges

The Company's policy is to attempt to minimize short-term business exposure to foreign currency exchange rate fluctuations using an effective and efficient method to eliminate or reduce such exposures. In the normal course of business, the Company's financial position is routinely subjected to market risk associated with foreign currency exchange rate fluctuations. To protect against a reduction in value of Japanese yen-denominated revenues and Euro-denominated expenses, the Company has instituted a foreign currency cash flow hedging program. The Company enters into foreign exchange forward contracts that generally expire within 12 months and no later than 24 months. These foreign exchange forward contracts are designated as cash flow hedges and are carried on the Company's balance sheet at fair value with the effective portion of the contracts' gains or losses included in accumulated other comprehensive income (loss) and subsequently recognized in revenue in the same period the hedged revenue is recognized.

At inception and at each quarter end, hedges are tested prospectively and retrospectively for effectiveness using regression analysis. Changes in the fair value of foreign exchange forward contracts due to changes in time value are excluded from the assessment of effectiveness and are recognized in revenue in the current period. The change in time value related to these contracts was not material for all reported periods. To qualify for hedge accounting, the hedge relationship must meet criteria relating both to the derivative instrument and the hedged item. These criteria include identification of the hedging instrument, the hedged item, the nature of the risk being hedged and how the hedging instrument's effectiveness in offsetting the exposure to changes in the hedged item's fair value or cash flows will be measured. There were no gains or losses during the twelve months ended June 26, 2011 or June 27, 2010 associated with ineffectiveness or forecasted transactions that failed to occur. There were $4.0 million of deferred net losses associated with ineffectiveness related to forecasted transactions that were no longer considered probable of occurring and were recognized in "Other income (expense), net" in the Company's consolidated statements of operations during twelve months ended June 28, 2009.

To receive hedge accounting treatment, all hedging relationships are formally documented at the inception of the hedge and the hedges must be tested to demonstrate an expectation of providing highly effective offsetting changes to future cash flows on hedged transactions. When derivative instruments are designated and qualify as effective cash flow hedges, the Company is able to defer effective changes in the fair value of the hedging instrument within accumulated other comprehensive income (loss) until the hedged exposure is realized. Consequently, with the exception of excluded time value and hedge ineffectiveness recognized, the Company's results of operations are not subject to fluctuation as a result of changes in the fair value of the derivative instruments. If hedges are not highly effective or if the Company does not believe that the underlying hedged forecasted transactions will occur, the Company may not be able to account for its derivative instruments as cash flow hedges. If this were to occur, future changes in the fair values of the Company's derivative instruments would be recognized in earnings. Additionally, related amounts previously recorded in "Other comprehensive income" would be reclassified to income immediately. At June 26, 2011, the Company had gains of $0.6 million accumulated in Other Comprehensive Income, which it expects to reclassify from Other Comprehensive Income into earnings over the next 12 months.

Balance Sheet Hedges

The Company also enters into foreign exchange forward contracts to hedge the effects of foreign currency fluctuations associated with foreign currency denominated monetary assets and liabilities, primarily intercompany receivables and payables. These foreign exchange forward contracts are not designated for hedge accounting treatment. Therefore, the change in fair value of these derivatives is recorded as a component of other income (expense) and offsets the change in fair value of the foreign currency denominated assets and liabilities, recorded in other income (expense).

 

As of June 26, 2011, the Company had the following outstanding foreign currency forward contracts that were entered into to hedge forecasted revenues and purchases:

 

		Derivatives Designated as Hedging Instruments:				Derivatives Not Designated as Hedging Instruments:
		(in thousands)
Foreign Currency Forward Contracts
Sell JPY		$	107,912			$	62,012
Buy CHF			—				257,588
Buy EUR			103,590				41,802
Buy TWD			—				83,368
		$	211,502			$	444,770

The fair value of derivatives instruments in the Company's consolidated balance sheet as of June 26, 2011 was as follows:

 

		Fair Value of Derivative Instruments
		Asset Derivatives						Liability Derivatives
		Balance Sheet Location		Fair Value				Balance Sheet Location		Fair Value
		(in thousands)
Derivatives designated as hedging instruments:
Foreign exchange forward contracts		Prepaid expense and other assets		$	1,881			Accrued liabilities		$	(1,142	)
Derivatives not designated as hedging instruments:
Foreign exchange forward contracts		Prepaid expense and other assets			113			Accrued liabilities			(782	)
Total derivatives				$	1,994					$	(1,924	)

The fair value of derivatives instruments in the Company's consolidated balance sheet as of June 27, 2010 was as follows:

 

		Fair Value of Derivative Instruments
		Asset Derivatives						Liability Derivatives
		Balance Sheet Location		Fair Value				Balance Sheet Location		Fair Value
		(in thousands)
Derivatives designated as hedging instruments:
Foreign exchange forward contracts		Prepaid expense and other assets		$	30			Accrued liabilities		$	(52	)
Derivatives not designated as hedging instruments:
Foreign exchange forward contracts		Prepaid expense and other assets			2,033			Accrued liabilities			(418	)
Total derivatives				$	2,063					$	(470	)

 

The effect of derivative instruments designated as cash flow hedges on the Company's consolidated statements of operations for the twelve months ended June 26, 2011 and June 27, 2010 was as follows:

 

The effect of derivative instruments not designated as cash flow hedges on the Company's consolidated statement of operations for the twelve months ended June 26, 2011 and June 27, 2010 was as follows:

 

 

Concentrations of Credit Risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash equivalents, short term investments, restricted cash and investments, trade accounts receivable, and derivative financial instruments used in hedging activities. Cash is placed on deposit in major financial institutions in various countries throughout the world. Such deposits may be in excess of insured limits. Management believes that the financial institutions that hold the Company's cash are financially sound and, accordingly, minimal credit risk exists with respect to these balances.

The Company's available-for-sale securities must have a minimum rating of A2 / A at the time of original purchase, as rated by two of the following three rating agencies: Moody's, Standard & Poor's (S&P), or Fitch. The Company's policy limits the amount of credit exposure with any one financial institution or commercial issuer.

The Company is exposed to credit losses in the event of nonperformance by counterparties on the foreign currency forward contracts that are used to mitigate the effect of exchange rate changes and on contracts related to structured share repurchase agreements. These counterparties are large international financial institutions and to date, no such counterparty has failed to meet its financial obligations to the Company.

As of June 26, 2011, three customers accounted for approximately 17%, 14%, and 10% of accounts receivable. As of June 27, 2010, two customers accounted for approximately 24% and 22 % of accounts receivable.

Credit risk evaluations, including trade references, bank references and Dun & Bradstreet ratings, are performed on all new customers and the Company monitors its customers' financial statements and payment performance. In general, the Company does not require collateral on sales.