l. Derivative financial instruments
Derivatives are recognised at fair value and remeasured at each balance sheet date. The fair value of derivatives is determined by using market data and the use of established estimation techniques such as discounted cash flow and option valuation models.
Changes in the fair value of derivatives are recognised immediately in finance income or costs. However, derivatives relating to borrowings and certain foreign exchange contracts are designated as part of a hedging transaction. The accounting treatment is summarised as follows:
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Typical reason for designation |
Reporting of gains and losses on effective portion of the hedge |
Reporting of gains and losses on disposal |
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Net investment hedge |
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| The derivative creates a foreign currency liability which is used to hedge changes in the value of a subsidiary which transacts in that currency. | Recognised in other comprehensive income. | On disposal, the accumulated value of gains and losses reported in other comprehensive income is transferred to the income statement. | ||
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Fair value hedges |
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| The derivative transforms the interest profile on debt from fixed rate to floating rate. Changes in the value of the debt as a result of changes in interest rates are offset by equal and opposite changes in the value of the derivative. When the Group’s debt is swapped to floating rates, the contracts used are designated as fair value hedges. | Gains and losses on the derivative are reported in finance income or finance costs. However, an equal and opposite change is made to the carrying value of the debt (a ‘fair value adjustment’) with the benefit/cost reported in finance income or finance costs. The net result should be a zero charge on a perfectly effective hedge. | If the debt and derivative are disposed of, the value of the derivative and the debt (including the fair value adjustment) are reset to zero. Any resultant gain or loss is recognised in finance income or finance costs. | ||
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Non-hedge accounted contracts |
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| These are not designated as hedging instruments. Typically these are short- term contracts to convert debt back to fixed rates or foreign exchange contracts where a natural offset exists. | No hedge accounting applies. | |||