6.	Fair Value Measurements

 

Recurring Fair Value Measurements

The following table presents the balances of assets and liabilities measured at fair value on a recurring basis at June 30, 2017:

 

(dollars in millions)				Level 1(1)				Level 2(2)				Level 3(3)				Total
Assets:
Other assets:
Equity securities				$	77			$	-			$	-			$	77
Fixed income securities					-				349				-				349
Interest rate swaps					-				169				-				169
Cross currency swaps					-				192				-				192
Interest rate cap					-				4				-				4
Total				$	77			$	714			$	-			$	791
Liabilities:
Other liabilities:
Interest rate swaps				$	-			$	181			$	-			$	181
Cross currency swaps					-				1,400				-				1,400
Total				$	-			$	1,581			$	-			$	1,581
The following table presents the balances of assets and liabilities measured at fair value on a recurring basis at December 31, 2016:
(dollars in millions)				Level 1(1)				Level 2(2)				Level 3(3)				Total
Assets:
Other assets:
Equity securities				$	123			$	-			$	-			$	123
Fixed income securities					10				566				-				576
Interest rate swaps					-				71				-				71
Cross currency swaps					-				45				-				45
Interest rate caps					-				10				-				10
Total				$	133			$	692			$	-			$	825
Liabilities:
Other liabilities:
Interest rate swaps				$	-			$	236			$	-			$	236
Cross currency swaps					-				1,803				-				1,803
Total				$	-			$	2,039			$	-			$	2,039

 

(1)	quoted prices in active markets for identical assets or liabilities

(2)	observable inputs other than quoted prices in active markets for identical assets and liabilities

(3)	no observable pricing inputs in the market

Equity securities consist of investments in common stock of domestic and international corporations measured using quoted prices in active markets.

 

Fixed income securities consist primarily of investments in municipal bonds as well as U.S. Treasury securities. We use quoted prices in active markets for our U.S. Treasury securities, therefore these securities are classified as Level 1. For all other fixed income securities that do not have quoted prices in active markets, we use alternative matrix pricing resulting in these debt securities being classified as Level 2.

Derivative contracts are valued using models based on readily observable market parameters for all substantial terms of our derivative contracts and thus are classified within Level 2. We use mid-market pricing for fair value measurements of our derivative instruments. Our derivative instruments are recorded on a gross basis.

We recognize transfers between levels of the fair value hierarchy as of the end of the reporting period. There were no transfers between Level 1 and Level 2 during the six months ended June 30, 2017 and 2016, respectively.

Fair Value of Short-term and Long-term Debt

The fair value of our debt is determined using various methods, including quoted prices for identical terms and maturities, which is a Level 1 measurement, as well as quoted prices for similar terms and maturities in inactive markets and future cash flows discounted at current rates, which are Level 2 measurements. The fair value of our short-term and long-term debt, excluding capital leases, was as follows:

 

		At June 30, 2017								At December 31, 2016
(dollars in millions)		Carrying Amount				Fair Value				Carrying Amount				Fair Value
Short- and long-term debt, excluding capital leases		$	116,537			$	127,281			$	107,128			$	117,584

Derivative Instruments

The following table sets forth the notional amounts of our outstanding derivative instruments:

 

		At June 30, 2017				At December 31, 2016
(dollars in millions)		Notional Amount				Notional Amount
Interest rate swaps		$	16,635			$	13,099
Cross currency swaps			13,911				12,890
Interest rate caps			2,840				2,540

Interest Rate Swaps

We enter into interest rate swaps to achieve a targeted mix of fixed and variable rate debt. We principally receive fixed rates and pay variable rates based on LIBOR, resulting in a net increase or decrease to Interest expense. These swaps are designated as fair value hedges and hedge against interest rate risk exposure of designated debt issuances. We record the interest rate swaps at fair value on our condensed consolidated balance sheets as assets and liabilities. Changes in the fair value of the interest rate swaps are recorded to Interest expense, which are offset by changes in the fair value of the hedged debt due to changes in interest rates.

During the first quarter of 2017, we entered into interest rate swaps with a total notional value of $3.5 billion.

The ineffective portion of our interest rate swaps was insignificant for the three and six months ended June 30, 2017 and 2016, respectively.

Forward Interest Rate Swaps

In order to manage our exposure to future interest rate changes, we periodically enter into forward interest rate swaps. We designate these contracts as cash flow hedges. During the three and six months ended June 30, 2016, pre-tax losses of $0.1 billion and $0.2 billion, respectively, were recognized in Other comprehensive income (loss).

 

Cross Currency Swaps

We have entered into cross currency swaps designated as cash flow hedges to exchange our British Pound Sterling, Euro and Swiss Franc-denominated debt into U.S. dollars and to fix our future interest and principal payments in U.S. dollars, as well as to mitigate the impact of foreign currency transaction gains or losses.

During the second quarter of 2017, we entered into cross currency swaps with a total notional value of $1.0 billion.

During the three and six months ended June 30, 2017, pre-tax gains of $0.4 billion and $0.5 billion, respectively, were recognized in Other comprehensive income (loss). During the three and six months ended June 30, 2016, pre-tax losses of $0.4 billion and $0.2 billion, respectively, were recognized in Other comprehensive income (loss). A portion of the gains and losses recognized in Other comprehensive income (loss) was reclassified to Other expense, net to offset the related pre-tax foreign currency transaction gain or loss on the underlying debt obligations.

Net Investment Hedges

We have designated certain foreign currency instruments as net investment hedges to mitigate foreign exchange exposure related to non-U.S. dollar net investments in certain foreign subsidiaries against changes in foreign exchange rates. In 2016, we designated $0.8 billion total notional value of Euro-denominated debt as a net investment hedge. The notional amount of the Euro-denominated debt as a net investment hedge was $0.8 billion at June 30, 2017 and December 31, 2016, respectively.

Undesignated Derivatives

We also have the following derivative contracts which we use as an economic hedge but for which we have elected not to apply hedge accounting.

Interest Rate Caps

We enter into interest rate caps to mitigate our interest exposure to interest rate increases on our ABS Financing Facility. During the second quarter of 2017, we entered into interest rate caps with a total notional value of $0.3 billion. During the three and six months ended June 30, 2017, we recognized an insignificant increase in Interest expense, respectively.

Concentrations of Credit Risk

Financial instruments that subject us to concentrations of credit risk consist primarily of temporary cash investments, short-term and long-term investments, trade receivables, including device payment plan agreement receivables, certain notes receivable, including lease receivables, and derivative contracts. Our policy is to deposit our temporary cash investments with major financial institutions.

Counterparties to our derivative contracts are also major financial institutions with whom we have negotiated derivatives agreements (ISDA master agreements) and credit support annex agreements (CSA) which provide rules for collateral exchange. Our CSAs generally require collateralized arrangements with our counterparties in connection with uncleared derivatives, but as of June 30, 2017, we have entered into amendments to our CSA agreements with substantially all of our counterparties that suspend the requirement for cash collateral posting for a specified period of time by both counterparties. While we may be exposed to credit losses due to the nonperformance of our counterparties, we consider the risk remote and do not expect that any such nonperformance would result in a significant effect on our results of operations or financial condition. During the first and second quarter of 2017, we paid an insignificant amount of cash to extend certain of such amendments to certain collateral exchange arrangements. As a result of the amendments to the CSA agreements, we did not post any collateral at June 30, 2017. At December 31, 2016, we posted collateral of approximately $0.2 billion related to derivative contracts under collateral exchange arrangements, which were recorded as Prepaid expenses and other in our condensed consolidated balance sheet.