VERIFONE SYSTEMS, INC. - 10-Q filing on 2016-06-07

Financial Instruments

6 Months Ended

Apr. 30, 2016

Notes to Financial Statements [Abstract]

Financial Instruments

Fair Value Measurements

Assets and Liabilities Measured and Recorded at Fair Value on a Recurring Basis

Our financial assets and liabilities consist principally of cash, accounts receivable, accounts payable, debt, foreign exchange forward contracts, interest rate swaps, and contingent consideration payable. We measure and record certain of our financial assets and liabilities at fair value on a recurring basis. The estimated fair value of cash, accounts receivable, and accounts payable approximates their carrying value. The estimated fair value of our debt approximates the carrying value because the interest rate on such debt adjusts to market rates on a periodic basis. Contingent consideration payable, interest rate swaps, and foreign exchange forward contracts are recorded at estimated fair value.

The following tables present our significant assets and liabilities that are measured at fair value on a recurring basis and their classification within the fair value hierarchy (in thousands). There were no transfers between levels of fair value hierarchy in the six months ended April 30, 2016 and the fiscal year ended October 31, 2015.



	April 30, 2016								October 31, 2015
	Carrying Value		Level 1		Level 2		Level 3		Carrying Value		Level 1		Level 2		Level 3
Assets
Other current and long-term assets:
Derivative financial instruments	$	23	$	—	$	23	$	—	$	53	$	—	$	53	$	—
Total assets measured and recorded at fair value	$	23	$	—	$	23	$	—	$	53	$	—	$	53	$	—

Liabilities
Other current and long-term liabilities:
Contingent consideration payable	$	14,657	$	—	$	—	$	14,657	$	12,786	$	—	$	—	$	12,786
Derivative financial instruments	4,477		—		4,477		—		4,784		—		4,784		—
Total liabilities measured and recorded at fair value	$	19,134	$	—	$	4,477	$	14,657	$	17,570	$	—	$	4,784	$	12,786

Fair Value of Contingent Consideration Payable

The following table presents changes in our contingent consideration payable which is categorized in Level 3 of the fair value hierarchy for the six months ended April 30, 2016 (in thousands):



Balance at beginning of period	$	12,786
Additions	1,389
Payments	(207		)
Changes in estimates, included in Other income (expense), net	(317		)
Interest expense, net	1,006
Balance at end of period	$	14,657

Contingent consideration payable is comprised substantially of amounts payable for acquired media contracts. The contingent consideration payable is classified as Level 3 because we use significant unobservable inputs to determine the expected payments and an appropriate discount rate to calculate the fair value. The significant unobservable inputs we use include our estimate of the future net revenues we expect to generate from the acquired media contracts, the probability of achieving those revenues, and the revenue share rate for a media contract. The discount rate used to determine the fair value of the contingent consideration payable is 18.5%. The maximum liability on contingent consideration payable is indeterminate because it is based on future revenues generated from the acquired business. We evaluate changes in the assumptions used to calculate the fair value of contingent consideration payable at the end of each period.

Derivative Financial Instruments

Interest Rate Swap Agreements Designated as Cash Flow Hedges

We use interest rate swap agreements to hedge the variability in cash flows related to interest payments. As of April 30, 2016, we had outstanding interest rate swap agreements to effectively convert $500.0 million of the term A loan from a floating rate plus applicable margin to a 1.20% fixed rate plus applicable margin. The principal amount under the term A loan covered by the new interest rate swap agreements will decrease to $450.0 million from April 1, 2017 through September 30, 2017, and $400.0 million from October 1, 2017 through March 30, 2018. The swap agreements expire March 30, 2018.

The interest rate swaps qualify for hedge accounting treatment as cash flow hedges. The notional amounts of interest rate swap agreements outstanding as of April 30, 2016 and October 31, 2015 were each $500.0 million.

Gains and losses arising from the effective portion of interest rate swap agreements are recorded in Accumulated other comprehensive loss, and are subsequently reclassified into earnings in the period or periods during which the underlying transactions affect earnings. As of April 30, 2016, the estimated net derivative loss related to our cash flow hedges included in Accumulated other comprehensive loss that will be reclassified into earnings in the next 12 months is $3.0 million.

Foreign Exchange Forward Contracts Not Designated as Hedging Instruments

We arrange and maintain foreign exchange forward contracts so as to yield gains or losses to offset changes in foreign currency denominated assets or liabilities due to changes in foreign exchange rates, with the objective to mitigate the volatility associated with foreign currency transaction gains or losses. Our foreign currency exposures are predominantly inter-company receivables and payables arising from product sales and loans from one of our entities to another. Our foreign exchange forward contracts generally mature within 90 days. The notional amounts of such contracts outstanding as of April 30, 2016 and October 31, 2015 were $184.1 million and $219.6 million, respectively.

We recognized the following gains (losses) on foreign exchange forward contracts not designated as cash flow hedges (in thousands):



	Three Months Ended April 30,						Six Months Ended April 30,
	2016			2015			2016		2015
Gains (losses) recognized in Other income (expense), net in our Condensed Consolidated Statements of Operations	$	(2,689	)	$	(631	)	$	1,621	$	10,903