Notes to Consolidated Financial Statements 37 The Procter & Gamble Company and Subsidiaries At inception, the Company formally designates and documents the financial instrument as a hedge of a specific underlying exposure. The  Company formally assesses, both at inception and at least quarterly on  an ongoing basis, whether the financial instruments used in hedging  transactions are effective at offsetting changes in either the fair value or  cash flows of the related underlying exposure. Fluctuations in the derivative value are generally offset by changes in the fair value or cash  flows of the exposures being hedged. This offset is driven by the high  degree of effectiveness between the exposure being hedged and the  hedging instrument. Any ineffective portion of an instrument’s change  in fair value is immediately recognized in earnings. The Company has established strict counterparty credit guidelines and  enters into transactions only with financial institutions of investment  grade or better. Counterparty exposures are monitored daily and downgrades in credit rating are reviewed immediately. Credit risk arising from the inability of a counterparty to meet the terms of the  Company’s financial instrument contracts is generally limited to the  amounts, if any, by which the counterparty’s obligations exceed the obligations of the Company. It is the Company’s policy to enter into financial contracts with a diverse group of creditworthy counterparties.  Therefore, the Company does not expect to incur material credit losses  on its risk management or other financial instruments. The Company’s policy is to manage interest cost using a mix of fixed- and variable-rate debt. To manage this risk in a cost efficient  manner, the Company enters into interest rate swaps in which the  Company agrees to exchange, at specified intervals, the difference between fixed and variable interest amounts calculated by reference to  an agreed-upon notional principal amount.  Interest rate swaps that meet specific conditions under SFAS No. 133 are accounted for as fair value hedges. Accordingly, the changes in the  fair value of these agreements are immediately recorded in earnings.  The mark-to-market values of both the fair value hedging instruments  and the underlying debt obligations are recorded as equal and offsetting gains and losses in the interest expense component of the income statement. The fair value of the Company’s interest rate swap  agreements was approximately $231 at June 30, 2002 and $125 at  June 30, 2001. All existing fair value hedges are 100% effective. As a  result, there is no impact to earnings due to hedge ineffectiveness.  The Company manufactures and sells its products in a number of countries throughout the world and, as a result, is exposed to movements in foreign currency exchange rates. The purpose of the  Raw materials used by the Company are subject to price volatility  caused by weather, supply conditions, political and economic variables  and other unpredictable factors. To manage the volatility related to The Company hedges its net investment position in major currencies and  generates foreign currency interest payments that offset other transac- tional exposures in these currencies. To accomplish this, the Company  borrows directly in foreign currency and designates a portion of foreign  currency debt as a hedge of net investments. In addition, certain foreign  currency interest rate swaps are designated as hedges of the Company’s  related foreign net investments. Under SFAS No. 133, changes in the fair  value of these instruments are immediately recognized in OCI, to offset  the change in the value of the net investment being hedged. Currency  effects of these hedges reflected in OCI were a $397 after-tax loss in  2002 and a $460 after-tax gain in 2001. Accumulated net balances  were $180 and $577 in 2002 and 2001, respectively. The Company also utilizes the same instruments for purposes that do  not meet the requirements for hedge accounting treatment. In these  cases, the change in value offsets the foreign currency impact of inter- company financing transactions and income from international opera- tions. The fair value of these instruments at June 30, 2002 and 2001  was $93 in 2002 and $126 in 2001 in assets and $25 in 2002 and $6  in 2001 in liabilities, respectively. The gain or loss on these instruments  is immediately recognized in earnings. The net impact included in marketing, research, administrative and other expense was a $31 and  $24 after-tax gain in 2002 and 2001, respectively. Company‘s foreign currency hedging program is to reduce the risk  caused by short-term changes in exchange rates.  The Company primarily utilizes forward exchange contracts and purchased options with maturities of less than 18 months and currency  swaps with maturities up to five years. These instruments are intended  to offset the effect of exchange rate fluctuations on forecasted sales, inventory purchases, intercompany royalties and intercompany loans denominated in foreign currencies. The fair value of these instruments at  June 30, 2002 and 2001 were $60 and $94 in assets and $29 and $101  in liabilities, respectively. The effective portions of the changes in fair value for these contracts, which have been designated as cash flow  hedges, are reported in Other Comprehensive Income (OCI) and reclassified in earnings in the same financial statement line item and in  the same period or periods during which the hedged transactions affect  earnings. The ineffective portion, which is not material for any year presented, is immediately recognized in earnings. Qualifying cash flow  hedges currently recorded in OCI are not considered material.  Net Investment Hedging Commodity Price Management Millions of dollars except per share amounts Foreign Currency Management Interest Rate Management Credit Risk