8.  Foreign currency forward contracts

 

The Company’s international operations and purchases of inventory products from foreign suppliers are subject to certain opportunities and risks, including foreign currency fluctuations. In the TCS segment, we utilize foreign currency forward contracts in Swedish krona to stabilize our retail gross margins and to protect our domestic operations from downward currency exposure by hedging purchases of inventory from our wholly owned subsidiary, Elfa. Forward contracts in the TCS segment are designated as cash flow hedges, as defined by ASC 815. In the Elfa segment, we utilize foreign currency forward contracts to hedge purchases, primarily of raw materials, that are transacted in currencies other than Swedish krona, which is the functional currency of Elfa. Forward contracts in the Elfa segment are economic hedges and are not designated as cash flow hedges as defined by ASC 815.

 

During the thirteen weeks ended May 30, 2015 and May 31, 2014, the TCS segment used forward contracts for 100% and zero of inventory purchases in Swedish krona each year, respectively. During the thirteen weeks ended May 30, 2015 and May 31, 2014, the Elfa segment used forward contracts to purchase U.S. dollars in the amount of $600 and $1,220, which represented 29% and 62% percent of the Elfa segment’s U.S. dollar purchases each year, respectively. Generally, the Company’s foreign currency forward contracts have terms from 1 to 12 months and require the Company to exchange currencies at agreed-upon rates at settlement.

 

The counterparties to the contracts consist of a limited number of major domestic and international financial institutions. The Company does not hold or enter into financial instruments for trading or speculative purposes. The Company records its foreign currency forward contracts on a gross basis and generally does not require collateral from these counterparties because it does not expect any losses from credit exposure.

 

The Company records all foreign currency forward contracts on its consolidated balance sheet at fair value. The Company accounts for its foreign currency hedging instruments in the TCS segment as cash flow hedges, as defined. Changes in the fair value of the foreign currency hedging instruments that are considered to be effective, as defined, are recorded in other comprehensive income (loss) until the hedged item (inventory) is sold to the customer, at which time the deferred gain or loss is recognized through cost of sales. Any portion of a change in the foreign currency hedge instrument’s fair value that is considered to be ineffective, as defined, or that the Company has elected to exclude from its measurement of effectiveness, is immediately recorded in earnings as cost of sales. The Company assessed the effectiveness of the foreign currency hedge instruments and determined the foreign currency hedge instruments were highly effective during the thirteen weeks ended May 30, 2015 and May 31, 2014. Forward contracts not designated as hedges in the Elfa segment are adjusted to fair value as selling, general, and administrative expenses on the consolidated statements of operations. During the thirteen weeks ended May 30, 2015, the Company recognized a net loss of $83 associated with the change in fair value of forward contracts not designated as hedging instruments.

 

The Company had $708 in accumulated other comprehensive loss related to foreign currency hedge instruments at May 30, 2015. Of the $708, $479 represents an unrealized loss for settled foreign currency hedge instruments related to inventory on hand as of May 30, 2015. The Company expects the unrealized loss of $479, net of taxes, to be reclassified into earnings over the next 12 months as the underlying inventory is sold to the end customer.

 

The change in fair value of the Company’s foreign currency hedge instruments that qualify as cash flow hedges and are included in accumulated other comprehensive income (loss), net of taxes, are presented in Note 7 of these financial statements.