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Cost of hedging The forward elements of foreign exchange forwards and swaps are excluded from designation as the hedging instrument and the foreign currency basis component of cross-currency interest rate swaps are separately accounted for and recognised in other comprehensive income as cost of hedging. Derivatives that do not qualify for hedge accounting Where a derivative financial instrument does not qualify for hedge accounting, or where hedge accounting has not been elected, any gain or loss is recognised directly in earnings. Risks and mitigation Currency transaction risk arises from committed or highly probable trade and capital expenditure transactions that are denominated in currencies other than the operation's functional currency. The objective in managing this risk is to reduce the variability from changes in currency exchange rates on the operation's income and cash flow to acceptable parameters. It is Group policy that no currency exchange risk may be entered into or allowed to remain outstanding should it arise on committed transactions. When exposures are incurred by operations in currencies other than their functional currency, foreign exchange forwards and swaps are entered into to eliminate the exposure. The majority of these transactions have maturities of less than one year from the reporting date. Cash flow hedge accounting is applied to forecast transactions. The Group designates the spot element of foreign exchange forwards and swaps to hedge its currency risk and applies a hedge ratio of 1:1. The forward elements of foreign exchange forwards and swaps are excluded from designation as the hedging instrument and are separately accounted for as a cost of hedging. The Group's policy is for the critical terms of the foreign exchange forwards and swaps to align with the hedged item. The main currencies hedged are the Australian dollar, the United States dollar, the Japanese yen, the Euro and the British pound. The gross value of these foreign exchange derivatives at 30 June 2018 was $379 million (June 2017: $434 million). (ii) Currency translation risk Currency translation risk arises from net investments in foreign operations. It is the Group's policy to hedge this foreign currency translation risk by borrowing in the currency of the asset in proportion to the Group's long-term debt to debt plus equity ratio. This reduces the variability in the debt to debt plus equity ratio due to currency translation. Where the underlying debt in any currency does not equate to the required proportion of total debt, debt derivatives, such as foreign exchange forwards, swaps and cross currency interest rate swaps are entered into for up to 11 years. Net investment, cash flow and fair value hedge accounting is applied to these instruments. The Group’s exposure to foreign currency risk on foreign currency borrowings including hedging is summarised as follows: (a) Foreign currency risk (i) Currency transaction risk
June 2018 NZ$M
June 2017 NZ$M
Fletcher Building Group
668
Australian dollar
729
89 42
Euro
68 36
British pound
238
United States dollar
221
6
Indian rupee
11 16 13
21 14
Canadian dollar
Fijian dollar
Currency translation risk – Foreign currency borrowings
1,078
1,094 1,036 2,130
799
New Zealand dollar
1,877
Borrowings denominated in foreign currency The Group’s policy is to maintain its net exposure to a foreign currency within predefined limits.
To manage the net exposure to foreign currency borrowings, the Group enters into cross currency interest rate swaps (CCIRS). CCIRS are used to manage the combined foreign exchange risk and interest rate risk as they swap fixed rate foreign currency borrowings and interest payments into equivalent New Zealand dollar-denominated or Australian dollar-denominated amounts of principal with floating interest rates. The Group applies hedge accounting to foreign currency denominated borrowings that are managed by CCIRS. The hedge ratio applied is 1:1. The hedge relationship may be designated into separate cash flow hedges and fair value hedges to manage the different components of foreign currency and interest rate risk: • fair value hedge relationship where CCIRS are used to manage the interest rate and foreign currency risk in relation to foreign currency denominated borrowings with fixed interest rates.
79 Fletcher Building Limited Annual Report 2018
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