Annual report pursuant to Section 13 and 15(d)

Derivative Financial Instruments

v3.6.0.2
Derivative Financial Instruments
12 Months Ended
Dec. 31, 2016
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Derivative Instruments and Hedging Activities Disclosure
Derivative Financial Instruments
We selectively utilize crude oil and refined product commodity derivative contracts to reduce the risk associated with potential price changes on committed obligations as well as to reduce earnings volatility. We also utilize interest rate swaps to manage our exposure to interest rate risk. We do not speculate using derivative instruments. Credit risk on our derivative instruments is mitigated by transacting with counterparties meeting established collateral and credit criteria.
Mark to Market
We have certain contracts that serve as economic hedges, which are derivatives used for risk management but not designated as hedges for financial accounting purposes. All economic hedge transactions are recorded at fair value and any changes in fair value between reporting periods are recognized in earnings.
We have contracts that are used to fix prices on forecasted purchases of inventory, which we refer to as futures and forwards. Futures represent trades executed on the New York Mercantile Exchange which have not been closed or settled at the end of the reporting period. Forwards represent physical trades for which pricing and quantities have been set, but the physical product delivery has not occurred by the end of the reporting period.
During the years ended December 31, 2016, 2015 and 2014, we had economic hedges in the form of swap contracts that fixed price differentials between different types of crude oil and refined products that we use or produce at our refineries. As of December 31, 2016, we did not have any outstanding commodity swap contracts accounted for as economic hedges.
Fair Value Hedges
Fair value hedges are used to hedge price volatility of certain refining inventories and firm commitments to purchase inventories. The gain or loss on a derivative instrument designated and qualifying as a fair value hedge, as well as the offsetting gain or loss on the hedged item attributable to the hedged risk, is recognized in earnings in the same period.
We have certain commodity contracts associated with the Supply and Offtake Agreements discussed in Note 10 that have been accounted for as fair value hedges, which had purchase volumes of 425 thousand barrels of crude oil as of December 31, 2016.
Cash Flow Hedges
To designate a derivative as a cash flow hedge, we document at the inception of the hedge the assessment that the derivative will be highly effective in offsetting expected changes in cash flows from the hedged item. This assessment, which is updated at least quarterly, is generally based on the most recent relevant historical correlation between the derivative and the hedged item. If, during the term of the derivative, the hedge is determined to be no longer highly effective, hedge accounting is prospectively discontinued and any remaining unrealized gains or losses, based on the effective portion of the derivative at that date, are reclassified to earnings when the underlying transactions occur.
Commodity Derivatives. As of December 31, 2016, we did not have any commodity swap contracts accounted for as cash flow hedges. During the first quarter of 2015, we elected to de-designate certain commodity swap contracts that were previously designated as cash flow hedges. During the year ended December 31, 2015, we reclassified gains of $41,948 from other comprehensive income (“OCI”) into cost of sales related to these de-designated cash flow hedges that settled in 2015. During the year ended December 31, 2014, we reclassified losses of $15,572 from OCI into cost of sales related to previously de-designated cash flow hedges that settled in 2014.
Related to commodity swap cash flow hedges in OCI, we recognized unrealized gains (losses) of $0, $(35,878) and $65,860 for the years ended December 31, 2016, 2015 and 2014, respectively.
Interest Rate Derivatives. We have interest rate swap agreements, maturing March 2019, that effectively fix the variable LIBOR interest component of the term loans within the Alon Retail Credit Agreement, as defined in Note 16. These interest rate swaps have been accounted for as cash flow hedges. The aggregate notional amount under these agreements covers approximately 75% of the outstanding principal of these term loans throughout the duration of the interest rate swaps. As of December 31, 2016, the outstanding principal of these term loans was $97,900. The interest rate swaps lock in an average fixed interest rate of 2.22% in 2017; 2.89% in 2018 and 3.06% in 2019.
Related to these interest rate swap cash flow hedges in OCI, we recognized unrealized gains (losses) of $220, $(938) and $(1,238) for the years ended December 31, 2016, 2015 and 2014, respectively.
For the years ended December 31, 2016, 2015 and 2014, there was no cash flow hedge ineffectiveness recognized in income. For the years ended December 31, 2016, 2015 and 2014, no component of our cash flow hedges’ gains or losses was excluded from the assessment of hedge effectiveness.
As of December 31, 2016, we have net unrealized losses of $1,956 classified in OCI related to cash flow hedges. Assuming interest rates remain unchanged, unrealized losses of $907 will be reclassified from OCI into earnings over the next twelve-month period as the underlying transactions occur.
The following tables present the effect of derivative instruments on the consolidated balance sheets:
 
As of December 31, 2016
 
Asset Derivatives
 
Liability Derivatives
 
Balance Sheet
 
 
 
Balance Sheet
 
 
 
Location
 
Fair Value
 
Location
 
Fair Value
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
Accounts receivable
 
$
3,602

 
Accrued liabilities
 
$
5,163

Total derivatives not designated as hedging instruments
 
 
3,602

 
 
 
5,163

 
 
 
 
 
 
 
 
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate swaps
 
 
$

 
Other non-current liabilities
 
$
1,956

Fair value hedges of consigned inventory
Other assets
 
14,777

 
 
 

Total derivatives designated as hedging instruments
 
 
14,777

 
 
 
1,956

Total derivatives
 
 
$
18,379

 
 
 
$
7,119

 
As of December 31, 2015
 
Asset Derivatives
 
Liability Derivatives
 
Balance Sheet
 
 
 
Balance Sheet
 
 
 
Location
 
Fair Value
 
Location
 
Fair Value
Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
Accounts receivable
 
$
292

 
Accrued liabilities
 
$
884

Commodity contracts (swaps)
Accounts receivable
 
14,799

 
 
 

Total derivatives not designated as hedging instruments
 
 
15,091

 
 
 
884

 
 
 
 
 
 
 
 
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
Interest rate swaps
 
 
$

 
Other non-current liabilities
 
$
2,176

Fair value hedges of consigned inventory
Other assets
 
33,797

 
 
 

Total derivatives designated as hedging instruments
 
 
33,797

 
 
 
2,176

Total derivatives
 
 
$
48,888

 
 
 
$
3,060


The following tables present the effect of derivative instruments on the consolidated statements of operations and accumulated other comprehensive loss:
Derivatives designated as hedging instruments:
Cash Flow Hedging Relationships
 
Gain (Loss) Recognized
in OCI
 
Gain (Loss) Reclassified from Accumulated OCI into Income (Effective Portion)
 
Gain (Loss) Reclassified
from Accumulated OCI into
Income (Ineffective
Portion and Amount
Excluded from
Effectiveness Testing)
 
 
 
 
Location
 
Amount
 
Location
 
Amount
For the Year Ended December 31, 2016
 
 
 
 
 
 
 
 
Interest rate swaps
 
$
220

 
Interest expense
 
$
(753
)
 
 
 
$

Total derivatives
 
$
220

 
 
 
$
(753
)
 
 
 
$

 
 
 
 
 
 
 
 
 
 
 
For the Year Ended December 31, 2015
 
 
 
 
 
 
 
 
Commodity contracts (swaps)
 
$
(35,878
)
 
Cost of sales
 
$
41,948

 
 
 
$

Interest rate swaps
 
(938
)
 
Interest expense
 
(338
)
 
 
 

Total derivatives
 
$
(36,816
)
 
 
 
$
41,610

 
 
 
$

 
 
 
 
 
 
 
 
 
 
 
For the Year Ended December 31, 2014
 
 
 
 
 
 
 
 
Commodity contracts (swaps)
 
$
65,860

 
Cost of sales
 
$
(15,572
)
 
 
 
$

Interest rate swaps
 
(1,238
)
 
Interest expense
 
(54
)
 
 
 

Total derivatives
 
$
64,622

 
 
 
$
(15,626
)
 
 
 
$


Derivatives in fair value hedging relationships:
 
 
 
Gain (Loss) Recognized in Income
 
 
 
Year Ended December 31,
 
Location
 
2016
 
2015
 
2014
Fair value hedges of consigned inventory (1)
Interest expense
 
$
(19,020
)
 
$
8,894

 
$
28,242

Total derivatives
 
 
$
(19,020
)
 
$
8,894

 
$
28,242


_________________
(1)
Changes in the fair value hedges are substantially offset in earnings by changes in the hedged items.
Derivatives not designated as hedging instruments:
 
 
 
Gain (Loss) Recognized in Income
 
 
 
Year Ended December 31,
 
Location
 
2016
 
2015
 
2014
Commodity contracts (futures and forwards)
Cost of sales
 
$
5,451

 
$
(6,302
)
 
$
(18,950
)
Commodity contracts (swaps)
Cost of sales
 
367

 
17,267

 
20,232

Total derivatives
 
 
$
5,818

 
$
10,965

 
$
1,282


Offsetting Assets and Liabilities
Our derivative instruments are subject to master netting arrangements to manage counterparty credit risk associated with derivatives, and we offset the fair value amounts recorded for derivative instruments to the extent possible under these agreements on our consolidated balance sheets.
The following table presents offsetting information regarding our derivatives by type of transaction as of December 31, 2016 and 2015:
 
Gross Amounts of Recognized Assets/ Liabilities
 
Gross Amounts offset in the Statement of Financial Position
 
Net Amounts Presented in the Statement of Financial Position
 
Gross Amounts Not offset in the Statement of Financial Position
 
Net Amount
 
 
 
Financial Instruments
 
Cash Collateral Pledged
 
As of December 31, 2016
 
 
 
 
 
 
 
 
 
 
Derivative Assets:
 
 
 
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
$
5,169

 
$
(1,567
)
 
$
3,602

 
$
(3,602
)
 
$

 
$

Interest rate swaps
29

 
(29
)
 

 

 

 

Fair value hedges of consigned inventory
14,777

 

 
14,777

 

 

 
14,777

Derivative Liabilities:
 
 
 
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
$
6,730

 
$
(1,567
)
 
$
5,163

 
$
(3,602
)
 
$

 
$
1,561

Interest rate swaps
1,985

 
(29
)
 
1,956

 

 

 
1,956

 
 
 
 
 
 
 
 
 
 
 
 
As of December 31, 2015
 
 
 
 
 
 
 
 
 
 
Derivative Assets:
 
 
 
 
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
$
1,112

 
$
(820
)
 
$
292

 
$
(292
)
 
$

 
$

Commodity contracts (swaps)
39,739

 
(24,940
)
 
14,799

 

 

 
14,799

Interest rate swaps
30

 
(30
)
 

 

 

 

Fair value hedges of consigned inventory
33,797

 

 
33,797

 

 

 
33,797

Derivative Liabilities:
 
 
 
 
 
 
 
 
 
 
Commodity contracts (futures and forwards)
$
1,704

 
$
(820
)
 
$
884

 
$
(292
)
 
$

 
$
592

Commodity contracts (swaps)
24,940

 
(24,940
)
 

 

 

 

Interest rate swaps
2,206

 
(30
)
 
2,176

 

 

 
2,176


Compliance Program Market Risk
We are obligated by government regulations to blend a certain percentage of biofuels into the products that we produce and are consumed in the U.S. We purchase biofuels from third parties and blend those biofuels into our products, and each gallon of biofuel purchased includes a renewable identification number, or RIN. To the degree we are unable to blend biofuels at the required percentage, a RINs deficit is generated and we must acquire that number of RINs by the annual reporting deadline in order to remain in compliance with applicable regulations. Alternatively, if we have a RINs surplus, some of those RINs could be sold. Any such sales would be subject to our normal credit evaluation process.
We are exposed to market risk related to the volatility in the price of credits needed to comply with these governmental and regulatory programs. We manage this risk by purchasing RINs when prices are deemed favorable utilizing fixed price purchase contracts. We may also sell RINs with an agreement to repurchase in the future. Some of these contracts are derivative instruments; however, we elect the normal purchase and sale exception and do not record these contracts at their fair values.
The cost of meeting our obligations under these compliance programs (exclusive of benefit generated from our California renewable fuels facility operations) was $51,048, $35,062 and $27,110 for the years ended December 31, 2016, 2015 and 2014, respectively. These amounts are reflected in cost of sales in the consolidated statements of operations.