SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
__________
FORM 8-K
__________
CURRENT REPORT
Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
December 15, 1994
(Date of earliest event reported)
ITT CORPORATION
(Exact name of registrant as specified in its charter)
Delaware
(State of other jurisdiction or 1-5627 13-5158950
incorporation or organization) (Commission File Number) (I.R.S. Employer
Identification Number)
1330 Avenue of the Americas, New York, New York 10019-5490
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code:
(212) 258-1000
ITEM 5. OTHER EVENTS.
Insurance Investment Operations
Insurance operations represent the Corporation's largest
business segment in terms of assets and revenues. At
September 30, 1994, policy liabilities and accruals totaled
$32.1 billion (net of ceded reinsurance) which are backed by
$40.1 billion in total assets (including insurance
investments of $31.5 billion). The insurance segment is
managed in two distinct groups; property and casualty
operations and life operations. The investment portfolios of
both the property and casualty and the life operations are
managed based on the underlying characteristics and nature
of their respective policy liabilities. Investment
management strategies differ significantly as do the nature
of these two businesses.
Property and Casualty Operations
Property and casualty policy liabilities totaled $13.9
billion (net of ceded reinsurance) at September 30, 1994
which are backed by $19.4 billion in total assets (including
insurance investments of $14.2 billion). Property and
Casualty investment strategies are developed based on a
variety of factors including business needs, duration,
regulatory requirements and tax considerations. The weighted
average duration of the property and casualty investments
approximates 4 and one half years while the weighted average
duration of the policy obligations approximates 3 years.
There are generally no guaranteed interest requirements
related to Property and Casualty policy liabilities.
Investments are comprised primarily of intermediate fixed
maturity bonds and notes, taxable and non-taxable and
corporate bonds. The characteristics of these investments
have generally not been altered through the use of
derivative financial instruments.
Life Operations--Policy Liability Characteristics
Policy liabilities in the life operations totaled $18.2
billion (net of ceded reinsurance) at September 30, 1994
which are backed by $20.7 billion in total assets (including
insurance investments of $17.3 billion). Matching of the
duration of Life investments with respective policyholder
obligations is an explicit objective of the Life management
strategy. Policy liabilities in the Life operations, along
with estimated duration periods can be summarized based on
investment needs in the following 5 categories at September
30, 1994 (in billions):
Estimated Duration (Years)
-------------------------
Balance at Less over
Description Sept.30, 1994 than 1 1-5 6-10 10
------------- ------------- ------ --- ---- ----
Fixed rate asset accumulation vehicles 3.1 .1 2.2 .3 .5
Indexed asset accumulation vehicles .9 - .9 - -
Interest credited asset accumulation
vehicles 11.3 .1 7.4 2.9 .9
Long-term payout liabilities 2.3 .1 .4 1.6 .2
Short-term payout liabilities .6 .6 - - -
---- ---- ---- ---- ----
Total $18.2 .9 10.9 4.8 1.6
==== ==== ==== ==== ====
Fixed Rate Asset Accumulation Vehicles -- Products in this
category require the Company to pay a fixed rate for certain
period of time. The cash flows are not interest sensitive
because the products are written with a market value
adjustment, and the liabilities have protection against the
early withdrawal of funds through surrender charges. The
primary risk associated with these products is that the
spread between investment return and credited rate is not
sufficient to earn the required return. Product examples
include fixed rate annuities with a market rate adjustment
and fixed rate guaranteed investment contracts. Contract
duration is reflected above and is dependent on the
policyholder's choice of guarantee period. The weighted
average credited policyholder rate for these policyholder
liabilities is 7.5 percent.
Indexed Asset Accumulation Vehicles -- Products in this
category are similar to the fixed rate asset accumulation
vehicles, but require the Company to pay a rate that is
determined by an external index. The amount and/or timing
of cash flows will therefore vary based on the level of the
particular index. The risks inherent in these products are
similar to the fixed rate asset accumulation vehicles, with
an additional risk of changes in the index adversely
affecting profitability. The weighted average credited rate
for these contracts is 5.8 percent. Product examples
include indexed guaranteed investment contracts with an
estimated duration of up to 2 years.
Interest Credited Asset Accumulation Vehicles -- Products
in this category credit interest to policyholders, subject
to market conditions and minimum guarantees. Policyholders
may surrender at book value, but are subject to surrender
charges for an initial period. The risks vary depending on
the degree of insurance element contained in the product.
Products examples include universal life contracts and fixed
account of variable annuity contracts. Liability duration
is short to intermediate term and is reflected in the table
above. The average credited rate for these liabilities is
5.75 percent.
Long Term Pay Out Liabilities -- Products in this
category are long term in nature and contain significant
actuarial (mortality, morbidity) pricing risks. The cash
flows are not interest sensitive, but do vary based on the
timing and amount of benefit payments. The risks associated
with these products are that the benefits will exceed
expected actuarial pricing and/or the investment return is
lower than assumed in pricing. Product examples include
structured settlement contracts, on-benefit annuities and
long-term disability contracts. Contract duration is
generally 6 to 10 years but, at times, exceeds 30 years.
Policy liabilities under these contracts are not interest
sensitive. Asset and liability durations are matched with
the cash flow characteristics of the claim.
Short Term Pay Out Liabilities -- These liabilities are
short-term in nature with a duration less than one year.
Substantially all risks associated with these products are
determined by the non-investment contingencies such as
mortality or morbidity. Liquidity is of greater concern
than for the long term liabilities. Products include
individual and group term contracts and short term
disability contracts.
Separate Account Variable Products -- Represent products for
which a separate investment and liability account is
maintained on behalf of the policyholder who bears the
investment risk. Investment strategy varies by fund choice,
as outlined in the prospectus or separate account plan of
operations. Products include variable annuities and
variable life contracts. Separate account assets and
liabilities totaled $20.7 billion at September 30, 1994.
Life Operations--Invested Asset Characteristics and
Derivative Strategies to Facilitate Asset-Liability
Management
Invested assets in the Life operations totaled $17.3 billion
at September 30, 1994 and are comprised of asset-backed
securities ($6.2 billion), government bonds and notes ($7.6
billion), inverse floating securities ($0.9 billion), and
other investments, primarily policy loans ($2.6 billion).
The estimated maturities of these fixed and variable rate
investments, along with the respective yields at September
30, 1994, are reflected below (in millions). Asset-backed
securities are distributed to maturity year based on the
Corporation's estimate of the rate of future prepayments of
principal over the remaining life of the securities.
Expected maturities differ from contractual maturities
reflecting borrower's rights to call or prepay their
obligations.
---------------Estimated Maturity----------------
1994-
1995 1996 1997 1998 1999 Thereafter Total
----- ---- ---- ---- ---- ---------- -----
ASSET BACKED SECURITIES
Variable Rate*
Amortized Cost 101 152 130 110 108 298 899
Market Value 91 160 136 116 112 306 921
Taxable Equivalent
Yield 5.93% 7.83% 7.88% 7.97% 7.45% 8.50% 7.62%
Fixed Rate
Amortized Cost 954 934 528 470 806 1,985 5,677
Market Value 950 922 519 449 758 1,658 5,256
Taxable Equivalent
Yield 7.38% 6.94% 7.33% 7.20% 6.84% 7.28% 7.17%
BONDS AND NOTES
Variable Rate*
Amortized Cost 64 115 45 26 66 209 525
Market Value 63 112 42 26 61 205 509
Taxable Equivalent
Yield 6.06% 5.81% 6.09% 5.49% 5.53% 5.59% 5.70%
Fixed Rate
Amortized Cost 801 1,234 1,077 758 754 2,782 7,406
Market Value 801 1,211 1,046 731 730 2,632 7,151
Taxable Equivalent
Yield 6.64% 6.31% 6.14% 6.28% 6.71% 7.21% 6.63%
INVERSE FLOATING
Amortized Cost 256 35 122 31 48 573 1,065
Market Value 255 33 113 27 42 390 860
Taxable Equivalent
Yield 8.57% 10.99% 7.47% 10.62% 9.35% 9.30% 9.07%
TOTAL FIXED MATURITIES
Amortized cost 2,176 2,470 1,902 1,395 1,782 5,847 15,572
Market Value 2,160 2,438 1,856 1,349 1,703 5,191 14,697
Taxable Equivalent
Yield 7.13% 6.69% 6.67% 6.80% 6.84% 7.42% 7.02%
In addition, other investments comprised primarily of policy
loans, totaled $2.6 billion at September 30, 1994. These
loans, which carry a current weighted average interest rate
of 10%, are secured by the cash value of the life policy.
These loans do not mature in a conventional sense but expire
in conjunction with the supporting actuarial assumptions and
developments.
*Variable rate securities are instruments for which the
coupon rates move directly with an index rate. Included in
the caption are the Company's holdings of residuals and interest-
only securities which represent less than 1% of the Life
operations investment assets. Residuals, for which cost
approximates market, have an average life of 5.1 years and earn
an average yield of 27.4%. Interest only securities,
for which cost approximates market, have an average life of 6.3 years
and earn an average yield of 12.3%.
Life investments are managed to conform with the various
liability-driven objectives discussed above. Derivatives
play an important role in facilitating the management of
interest rate risk, in creating opportunities to develop
asset packages which efficiently fund product obligations,
in hedging against indexation risks which affect the value
of certain liabilities, and in adjusting broad investment
risk characteristics when dictated by significant changes in
market risks. As an end user of derivatives, the
Corporation uses a variety of derivative financial
instruments, including swaps, caps, floors and exchange
traded financial futures and options as a means of prudently
hedging exposure to price, foreign currency and/or interest
rate risk on anticipated investment purchases or existing
assets and liabilities. The notional amounts of derivative
contracts represent the basis upon which pay and receive
amounts are calculated and are not reflective of credit
risk. Credit risk is limited to the amounts calculated to
be due to the Corporation on such contracts. Payment
obligations between the Corporation and its counterparties
are typically netted on a quarterly basis. The Corporation
has strict policies regarding the financial stability and
credit standing of its major counterparties and typically
requires credit enhancement requirements to further limit
its credit risk. Notional amounts pertaining to derivative
financial instruments totaled $13.0 billion at September 30,
1994 ($11.2 billion related to Life investments and $1.8
billion on the liabilities).
The following strategies are used to managed the
aforementioned risks associated with the Life obligations:
Anticipatory Hedging -- For certain liability types, the
company commits to the price of the product in advance of
the receipt of the associated premium or deposit. To hedge
the Company's expected cash flows against adverse changes in
market interest rates, the Company routinely executes
anticipatory hedges which immunize the Company against asset
price changes which would result from changes in market
interest rates. Typically, these hedges involve taking a
long position in an interest rate future or swap which has a
duration equivalent to the anticipated investments, which in
turn approximate the duration of the associated liabilities.
The notional amounts of derivatives used for anticipatory
hedges totaled $0.7 billion at September 30, 1994.
Liability Risk Adjustments -- Several products obligate the
Company to credit a return to the contractholder which is
indexed to a market rate. Derivatives, typically in the
form of swaps, are extensively used to convert the specific
liability indexation risk to a risk which is more common,
such as a fixed rate or a floating rate of LIBOR. By
swapping the liability risk into a more common asset risk, a
broader array of assets may be effectively matched against
these liabilities. This strategy permits the customization
of liability indexation to meet customer objectives without
the need to identify assets which directly match each index.
The notional amounts of derivatives used for liability risk
adjustment totaled $1.8 billion at September 30, 1994.
Asset Hedges/Synthetic Asset Investments -- The selection of
investment risk characteristics is driven by the liability-
specific needs of each obligation. Investment needs may
range from very short duration to very long duration, from
floating rate to fixed rate, from callable to non-callable.
To meet the obligations of Life policyholders, investment
managers consider a range of available investment
alternatives. In order to provide greater risk
diversification, the Company often invests in securities for
which most, but not all, of the desired investment
characteristics are met. The Company may choose to create a
synthetic asset by combining two or more instruments to
achieve the desired investment characteristics. Many times,
the unwanted risks can be effectively managed through the
use of derivatives. As an example, currency-linked notes or
inverse floating rate characteristics can be converted to
alternative fixed or floating rate notes with any currency
or unwanted interest risk eliminated or reduced. The choice
of derivative instrument for hedging depends upon the
investment risk to be offset, the cost efficiency and
liquidity of the derivative instrument, as well as the
ongoing need to review the overall balance of asset and
liability characteristics in the Life operations. The
notional amounts of derivatives used for hedges of physical
or synthetic assets totaled $10.2 billion at September 30, 1994.
Duration Hedges -- The term "duration" refers to the
degree of change in the value or return of an asset (or
group of assets) which results from an external market
change, such as a change in level of current interest rates.
As market conditions change, these duration characteristics
sometimes require adjustments in order to preserve the
appropriate asset-liability balance. As an example, a
precipitous drop in interest rates may accelerate mortgage
prepayments and shorten the expected maturity of a portfolio
of mortgage securities. Duration hedges compensate for this
risk by adjusting average asset duration parameters. The
notional amounts of derivatives used for duration hedges
totaled $0.3 billion as of September 30, 1994.
A summary of insurance investments, including assets at both
the Life and Property and Casualty operations, segregated by
major category along with the types of derivatives and their
respective notional amounts, are as follows as of September
30, 1994 (in millions):
Amount Hedged
(Notional Amounts)
------------------
Purchased
Issued Caps, Total
Carrying Caps, Floors Futures Swaps Notional
Investments Value Floors(b) Collars (c) (d) (e) Amount
----------- ----- --------- ----------- --- --- -----
Asset Backed Securities
(ex. Inverse Floaters) 8,591 1,510 2,796 1,419 1,522 7,247
Inverse Floaters (a) 946 354 80 19 364 817
Other Bonds and Notes 16,431 - 1,185 187 1,011 2,383
Short-Term Investments 1,216 - - - - -
Other Investments 4,365 - - - -
Anticipatory - - - 65 685 750
----- ------ ------ ------ ------ ------
Total Insurance
Investments 31,549 1,864 4,061 1,690 3,582 11,197
====== ====== ====== ====== ====== ======
(a) Life operations own inverse floaters, which are variations
of CMO's for which the coupon rates move
inversely with an index rate (i.e., LIBOR). The risk to
principal is considered negligible as the underlying
collateral for the securities is guaranteed or sponsored by
government agencies. To address the volatility risk created
by the coupon variability, the Company uses a variety of
derivative instruments, primarily interest rate swaps and
issued floors.
(b) Comprised primarily of caps ($1,739 million) with a
weighted average strike rate of 7.9% (ranging from 6.8% to
10.3%). Over 85% mature in 1997 and 1998. Issued floors
total $125 million with a weighted average strike rate of
8.3% and mature in 2004.
(c) Comprised of purchased floors ($2,371 million),
purchased options and collars ($1,300 million) and purchased
caps ($390 million). The floors have a weighted average
strike price of 5.9% (ranging from 4.8% to 6.8%) and over
85% mature in 1997 and 1998. The options and collars
generally mature in 1995 and 1999. The caps have a weighted
average strike price of 7.2% (ranging from 4.5% to 9.0%) and
over 67% mature in 1997 through 1999.
(d) Over 95% of futures contracts expire before December
31, 1994.
(e)The following table summarizes the maturities of interest rate swaps
outstanding at September 30, 1994 and the related weighted average interest
pay rate or receive rate assuming current market conditions (in millions):
2000 and
1994 1995 1996 1997 1998 1999 thereafter Total
---- ---- ---- ---- ---- ---- ---------- -----
Pay Fixed/Receive Variable
Notional Value - - 33 - - 71 268 372
Weighted Avg. Pay Rate - - 7.7% - - 7.5% 7.8% 7.7%
Weighted Avg. Receive Rate - - 6.2% - - 5.2% 6.0% 5.9%
Pay Variable/Receive Fixed
Notional Value 55 534 195 329 633 575 372 2,693
Weighted Avg. Pay Rate 4.5% 4.6% 5.4% 4.8% 5.1% 4.9% 5.0% 4.9%
Weighted Avg. Receive Rate 8.8% 8.0% 6.4% 6.1% 5.4% 5.5% 6.5% 6.3%
Pay Variable/Receive Different
Variable
Notional Value - 105 50 18 15 100 229 517
Weighted Avg. Pay Rate - 4.1% 5.1% 7.6% 6.3% 5.8% 5.8% 5.4%
Weighted Avg. Receive Rate - 10.2% 4.8% 9.5% 5.0% 5.9% 5.9% 7.0%
Total Interest Rate Swaps 55 639 278 347 648 746 869 3,582
Total Weighted Avg. Pay Rate 4.5% 4.6% 5.7% 5.0% 5.2% 5.2% 6.2% 5.3%
Total Weighted Avg. Rec. Rate8.8% 8.4% 6.1% 6.3% 5.4% 5.5% 6.1% 6.3%
In addition to risk management through derivative financial
instruments pertaining to the investment portfolio, interest
rate sensitivity related to certain Life liabilities and
variable rate debt was altered primarily through interest
rate swap agreements. The notional amount of these
agreements in which the Company generally pays one variable
rate in exchange for another, was $1.8 billion at September
30, 1994. The weighted average pay rate is 5.5% the
weighted average receive rate is 6.0%, and these agreements
mature at various times through 2002. An additional $200
million notional amount of interest rate swaps have been
entered into related to the insurance operations' variable
rate debt.
The Corporation is committed to maintaining an effective
risk management discipline. Approved derivatives usage must
support at least one of the following objectives: to manage
the risk to the operation arising from price, interest rate
and foreign currency volatility, to manage liquidity, and
control transaction costs. All investment activity in the
Insurance operations is subject to regular review and
approval by the Insurance operation's Finance Committee.
Credit limits, diversification standards and review
procedures for all credit risk whether borrower, issuer, or
counterparty have been established. The Life operations
analyze the aggregate interest rate risk through the use of
a proprietary, multi-scenario cash flow projection model
which encompasses all liabilities and their associated
investments, including derivatives.
Other Derivative Activity
While risk management through derivative financial
instruments is used extensively in the life insurance
operations, derivatives are used to a lesser degree in
several other segments of the Corporation. Interest rate
risk relative to the Corporation's debt portfolios are also
managed through interest rate swap agreements, primarily in
the Finance segment. Foreign currency risk relative
Corporation's net investment in a foreign country, foreign
denominated debt or a specific foreign denominated
transaction are also managed through currency swaps and
forward exchange contracts.
Derivative Activity in the Finance Segment
In the Corporation's Finance business segment (which has
been reflected as a "Discontinued Operation" as of
September 30, 1994), interest rate swaps and other
derivative instruments are generally used in conjunction
with debt obligations to hedge the Corporation's exposure to
interest rate changes. In all cases, counterparties under
these agreements are major financial institutions with the
risk of non-performance considered remote. Total debt of
the Finance segment was $11.2 billion at September 30, 1994.
The notional amount of dollar denominated interest rate
swaps that are hedging various categories of debt
liabilities is detailed in the following table ($ in
millions):
Convert
Variable
Pay Index to
Variable Pay Fixed Different Total
Carrying Receive Receive Variable Notional Latest
Value Fixed Variable Index Amount Maturity
----- ----- --------- ----- ------ --------
Commercial Paper 3,565 - 260 205 465 1998
Bank Loans and Short-Term Debt 943 42 - 100 142 1999
Long-Term Debt 6,661 1,205 - 290 1,495 2011
----- ----- ----- ----- -----
Total Finance Debt 11,169 1,247 260 595 2,102
====== ===== ===== ===== =====
The following table summarizes the maturities of interest rate swaps
outstanding at September 30, 1994 and the related weighted average interest
pay rate or receive rate.
The rates in the following table represent spot rates (floating rates are
primarily 90-day LIBOR):
2000-
1994 1995 1996 1997 1998 1999 2001 Total
---- ---- ---- ---- ---- ---- ---- -----
Pay fixed/receive variable
Notional value - - 260 - - - - 260
Weighted average receive rate - - 5.02% - - - - 5.02%
Weighted average pay rate - - 6.08% - - - - 6.08%
Pay variable/receive fixed:
Notional value - 225 75 67 20 255 605 1,247
Weighted average receive rate - 6.96% 4.56% 6.18% 6.89% 6.92% 7.57% 7.07%
Weighted average pay rate - 4.96% 4.06% 5.17% 4.99% 4.94% 4.96% 4.91%
Pay a floating rate/receive
a different floating rate:
Notional value 20 170 25 320 60 - - 595
Weighted average receive rate5.91% 3.66% 3.65% 5.11% 4.98% - - 4.48%
Weighted average pay rate 5.35% 5.11% 4.50% 4.87% 4.51% - - 4.95%
Total Notional Value 20 395 360 387 80 255 605 2,102
Total weighted average
Receive Rate 5.91% 5.54% 4.83% 5.17% 5.46% 6.77%7.57% 6.08%
Pay Rate 5.35% 5.03% 5.59% 4.88% 4.63% 4.95%4.96% 5.05%
In addition, purchased interest rate caps with a notional
principal amount of $1.3 billion were in effect as of
September 30, 1994. The caps are used to mitigate the risk
of rising interest rates on the Corporation's variable rate
obligations.
Derivative Activity at Headquarters and Other Business
Segments
A portion of the Corporation's operations and invested
assets are based outside the United States (primarily
Western Europe).
Foreign currency swaps were in effect at September 30, 1994
with a notional amount totaling $158 million. These
agreements are used to mitigate the risk of fluctuating
foreign exchange rates associated with foreign currency
denominated debt.
Forward exchange contracts with a notional amount of $797
million (the Corporation is the seller under $286 million
and the buyer under $511 million) were in effect at
September 30, 1994. These agreements are generally used to
mitigate the foreign exchange risk associated with specific
transactions and the Corporation's investment in foreign
countries.
Of the total notional amount, $200 million hedges dollars
with French Francs while the majority of the balance hedges
dollars with Deutsche Marks, Swiss Francs, Dutch Guilders
and other European currencies. In all cases, counterparties
under these agreements are major financial institutions with
the risk of nonperformance considered remote. There are no
significant unrealized gains or losses on these contracts.
Accounting Policies
During the 1994 first quarter, ITT adopted SFAS No. 115,
"Accounting for Certain Investments in Debt and Equity
Securities". The new standard requires, among other
things, that securities be classified as "held-to-
maturity", "available for sale" or "trading" based on
the company's intentions with respect to the ultimate
disposition of the security and its ability to effect those
intentions. The classification determines the appropriate
accounting carrying value (cost basis or fair value) and, in
the case of fair value, whether the adjustment impacts
Stockholders Equity directly or is reflected in the
Statement of Income. Investments in equity securities had
previously been recorded at fair value with the
corresponding impact included in Stockholders Equity. Under
SFAS No. 115, the Corporation's portfolios are generally
classified as "available for sale" and accordingly,
investments are reflected at fair value with the
corresponding impact included as a component of Stockholders
Equity designated "Unrealized gain/(loss) on securities
net of tax". As with the underlying investment security,
unrealized gains and losses on derivative financial
instruments are considered in determining the fair value of
the portfolios. This treatment is consistent with the
Corporation's use of derivatives as risk management tools
which are an integral part of the insurance investments.
SFAS 80, "Accounting for Futures Contracts", establishes
the standards of accounting for exchange traded futures
contracts which are used to hedge the risks associated with
both anticipated transactions and existing assets and
liabilities. The Corporation's minimum threshold for hedge
designation is 80% correlation at inception of the asset-
liability management strategy. While the Corporation's
policy had been to allow variations from the 80% correlation
for short periods of time, it has revised the policy, in the
fourth quarter of 1994, to require that the 80% correlation
threshold be maintained. If correlation, which is
reassessed monthly and measured based on a rolling three month
average, falls below 80%, hedge accounting will be terminated.
Gains or losses on futures purchased in anticipation of the future
receipt of product cash flows are deferred and, at the time
of the ultimate purchase, reflected as a basis adjustment to
the purchased asset. Gains or losses on futures used in
invested asset risk management are deferred and adjusted
into the basis of the hedged asset when the contract is
closed. The basis adjustments are amortized into investment
income over the remaining asset life.
Open forward commitment contracts are marked to market through
stockholders equity. Such contracts are
recording the purchase of the specified securities at the
previously committed price. Gains or losses resulting from
the termination of the forward commitment contracts before
the delivery of the securities are recognized immediately in
the income statement as a component of investment income.
The Corporation's accounting for interest rate swaps and
purchased or written caps, floors and options used to manage
risk is in accordance with the concepts established in
SFAS 80, "Accounting for Futures Contracts", the American
Institute of Certified Public Accountants Statement of
Position 86-2, "Accounting for Options" and various EITF
pronouncements, except for written options which are written
in all cases in conjunction with other assets and derivatives
as part of an overall risk management strategy. Such synthetic
instruments are accounted for as hedges. Derivatives, used as
part of a risk management strategy, must be designated at inception
as a hedge, measured for effectiveness both at inception and
on an ongoing basis. Derivatives used to create a synthetic
asset must meet synthetic accounting criteria including
designation at inception and consistency of terms between
the synthetic and the instrument being replicated. Synthetic
instrument accounting, consistent with the industry practice,
provides that the synthetic asset is accounted for like the financial
instrument it is intended to replicate. Interest rate swaps
and purchased or written caps, floors and options which fail
to meet risk management criteria are accounted for at fair value
with the impact reflected in the Statement of Income.
Interest rate swaps involve the periodic exchange
of payments without the exchange of underlying principal
or notional amounts. Net payments are recognized
as an adjustment to income. Should the swap be
terminated, the gains or losses are
adjusted into the basis of the asset or liability and
amortized over the remaining life. The basis of the
underlying asset or liability is adjusted to reflect
changing market conditions such as prepayment experience.
Should the asset be sold or liability terminated, the gains
or losses on the terminated position are immediately
recognized in earnings. Interest rate swaps purchased in
anticipation of an asset purchase ("anticipatory
transaction") are recognized consistent with the underlying
asset components. That is, the settlement component is
recognized in the Statement of Income while the change in
market value is recognized as an unrealized gain or loss.
Premiums paid on purchased floor or cap agreements and the
premium received on issued cap or floor agreements (used for
risk management), as well as the net payments, are adjusted
into the basis of the applicable asset and amortized over
the asset life. Gains or losses on termination of such
positions are adjusted into the basis of the asset or
liability and amortized over the remaining asset life.
Forward exchange contracts and foreign currency swaps are
accounted for in accordance with SFAS 52. Changes in the
spot rate of instruments designated as hedges of the net
investment in a foreign subsidiary are reflected in the
cumulative translation adjustment component of stockholders
equity.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be
signed on its behalf by the undersigned thereunto duly
authorized.
ITT CORPORATION
By /s/Jon F. Danski
Jon F. Danski
Senior Vice President and
Controller
Dated: December 15, 1994
