Derivative Financial Instruments
|6 Months Ended|
Jun. 30, 2020
|Derivative Instruments and Hedging Activities Disclosure [Abstract]|
|Derivative Financial Instruments||Derivative Financial Instruments
Cash Flow Hedges
Interest Rate Swap Agreements
We are exposed to interest rate risk on our variable rate debt. We have entered into interest rate swap agreements to effectively convert portions of our variable rate debt to a fixed-rate basis. The principal objective of these contracts is to eliminate or reduce the variability of the cash flows in interest payments associated with our variable rate debt, thus reducing the impact of interest rate changes on future interest payment cash flows. These derivative instruments are designated as cash flow hedges, as defined in ASC 815, and are assessed for effectiveness against the underlying exposure every reporting period.
On March 31, 2016, we entered into two interest rate swap agreements (collectively the “2016 Swap Agreements”). The 2016 Swap Agreements covered an aggregate notional amount of $75.0 million from March 2016 to September 2019 by replacing the obligation’s variable rate with a blended fixed rate of 0.89%. The 2016 Swap Agreements matured on September 30, 2019.
On December 24, 2018, we entered into two interest rate swap agreements (collectively the “2018 Swap Agreements”). The 2018 Swap Agreements covered an aggregate notional amount of $100.0 million from December 2018 to February 2022 by replacing the obligation’s variable rate with a blended fixed rate of 2.57%.
On February 10, 2020, we entered into an interest rate swap agreement (the “2020 Swap Agreement”) that covers an aggregate notional amount of $100.0 million from February 2020 to September 2024 by replacing the obligation’s variable rate with a fixed rate of 1.89%. In connection with this transaction, we terminated the 2018 Swap Agreements on a prospective basis and designated the 2020 Swap Agreement under a new cash flow hedge relationship. The fair value of the 2018 Swap Agreements immediately prior to termination was a liability of $2.5 million. The 2020 Swap Agreement contains a blend of the current interest rate environment and the unfavorable portion of the terminated 2018 Swap Agreements, which resulted in a significant financing element at inception of the new cash flow hedge due to off-market terms. Because the forecasted transactions that the 2018 Swap Agreements were designated to hedge are still probable to occur, the unrealized loss will be reclassified into earnings through September 2024.
The changes in the fair value of the swap agreements are initially recorded in accumulated other comprehensive income (loss) net of tax and are subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. Amounts reported in accumulated other comprehensive income (loss) related to the swap agreements will be reclassified to “Interest expense and other, net” in the accompanying Condensed Consolidated Statements of Operations as interest payments are made on our variable rate debt.
Foreign Exchange Currency Contracts
We are exposed to market risk that includes changes in foreign exchange rates. We have operations in certain foreign countries where the functional currency is the local currency. For international operations that are determined to be extensions of the parent company, the U.S. dollar is the functional currency. As of June 30, 2020, we have entered into a series of foreign exchange forward contracts with a total notional amount of $14.8 million to hedge the effect of adverse fluctuations in foreign currency exchange rates for the Indian rupee and Philippines peso. These contracts are designated as cash flow hedges, as defined by ASC 815, of forecasted transactions, are intended to offset the impact of movement of exchange rates on future operating costs and are scheduled to mature within twelve months.
The changes in the fair value of these contracts are initially recorded in accumulated other comprehensive income (loss) net of tax and are subsequently reclassified to “Cost of revenue” and “Operating expenses” in the accompanying Condensed Consolidated Statements of Operations in the same period that the hedged transactions affect earnings.
The table below presents the fair value of the derivative instruments designated as cash flow hedges as well as their classification in the Condensed Consolidated Balance Sheets as of June 30, 2020 and December 31, 2019:
As of June 30, 2020, we have not posted any collateral related to our derivative instruments. If we had breached any of the default provisions at June 30, 2020, we could have been required to settle our obligations under the agreements at their termination value of $7.2 million.
The tables below present the amount of gains and losses related to the derivative instruments and their location in the Condensed Consolidated Statements of Operations and the Condensed Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2020 and 2019, in thousands:
As of June 30, 2020, we estimate that $2.3 million of the net loss related to derivatives designated as cash flow hedges recorded in accumulated other comprehensive loss is expected to be reclassified into earnings within the next twelve months.
Gains and losses on our cash flow hedges are net of income tax benefit of $0.4 million for the three months ended June 30, 2019, and income tax benefit of $1.2 million and $0.6 million for the six months ended June 30, 2020 and 2019, respectively. The tax impact for the three months ended June 30, 2020 was nominal. Cash flows from these derivative instruments are included within the operating activities in the Condensed Consolidated Statements of Cash Flows, as our accounting policy is to present cash flows from hedging instruments in the same category as the item being hedged. The 2020 Swap Agreement contains an other-than-insignificant financing element and, accordingly, the associated cash flows are reported as financing activities in the Condensed Consolidated Statements of Cash Flows.
Balance Sheet HedgesWe also enter into foreign currency forward contracts to hedge fluctuations associated with foreign currency denominated monetary assets and liabilities primarily associated with our lease liabilities. These forward contracts are not designated for hedge accounting treatment, therefore, the change in fair value of these derivatives is recorded as a component of “General and administrative” in the accompanying Condensed Consolidated Statements of Operations and offsets the change in fair value of the foreign currency denominated assets and liabilities, which are also recorded in “General and administrative”. As of June 30, 2020, the notional amounts of outstanding foreign currency contracts entered into under our balance sheet hedge program was $2.4 million. The effect of derivatives not designated as hedge instruments for the period ended June 30, 2020 was de minimis.
The entire disclosure for derivative instruments and hedging activities including, but not limited to, risk management strategies, non-hedging derivative instruments, assets, liabilities, revenue and expenses, and methodologies and assumptions used in determining the amounts.
Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef