UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
ý | QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended January 23, 2015 |
Commission File Number 1-7707
MEDTRONIC, INC. | |
(Exact name of registrant as specified in its charter) | |
Minnesota | 41-0793183 |
(State of incorporation) | (I.R.S. Employer Identification No.) |
710 Medtronic Parkway
Minneapolis, Minnesota 55432
(Address of principal executive offices) (Zip Code)
(763) 514-4000
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes ý No o
Yes ý No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x | Accelerated filer o | |
Non-accelerated filer o | Smaller Reporting Company o | |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes o No ý
Shares of common stock, $.10 par value, outstanding on February 24, 2015: 100
TABLE OF CONTENTS
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6. | ||||
PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
MEDTRONIC, INC.
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited)
Three months ended | Nine months ended | ||||||||||||||
January 23, 2015 | January 24, 2014 | January 23, 2015 | January 24, 2014 | ||||||||||||
(in millions, except per share data) | |||||||||||||||
Net sales | $ | 4,318 | $ | 4,163 | $ | 12,957 | $ | 12,440 | |||||||
Costs and expenses: | |||||||||||||||
Cost of products sold | 1,128 | 1,050 | 3,375 | 3,162 | |||||||||||
Research and development expense | 373 | 360 | 1,112 | 1,092 | |||||||||||
Selling, general, and administrative expense | 1,487 | 1,454 | 4,500 | 4,308 | |||||||||||
Special (gains) charges | (138 | ) | — | (38 | ) | 40 | |||||||||
Restructuring (credits) charges, net | — | (15 | ) | 30 | 3 | ||||||||||
Certain litigation charges, net | — | — | — | 24 | |||||||||||
Acquisition-related items | 80 | 200 | 182 | 104 | |||||||||||
Amortization of intangible assets | 89 | 89 | 265 | 263 | |||||||||||
Other expense, net | 24 | 45 | 138 | 122 | |||||||||||
Interest expense, net | 81 | 25 | 94 | 98 | |||||||||||
Total costs and expenses | 3,124 | 3,208 | 9,658 | 9,216 | |||||||||||
Earnings before income taxes | 1,194 | 955 | 3,299 | 3,224 | |||||||||||
Provision for income taxes | 217 | 193 | 623 | 607 | |||||||||||
Net earnings | $ | 977 | $ | 762 | $ | 2,676 | $ | 2,617 | |||||||
Basic earnings per share | $ | 0.99 | $ | 0.76 | $ | 2.71 | $ | 2.61 | |||||||
Diluted earnings per share | $ | 0.98 | $ | 0.75 | $ | 2.68 | $ | 2.58 | |||||||
Basic weighted average shares outstanding | 983.8 | 998.3 | 986.6 | 1,002.7 | |||||||||||
Diluted weighted average shares outstanding | 995.8 | 1,010.0 | 998.5 | 1,014.0 | |||||||||||
Cash dividends declared per common share | $ | 0.305 | $ | 0.280 | $ | 0.915 | $ | 0.840 | |||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
1
MEDTRONIC, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)
Three months ended | Nine months ended | ||||||||||||||
January 23, 2015 | January 24, 2014 | January 23, 2015 | January 24, 2014 | ||||||||||||
(in millions) | |||||||||||||||
Net earnings | $ | 977 | $ | 762 | $ | 2,676 | $ | 2,617 | |||||||
Other comprehensive loss, net of tax: | |||||||||||||||
Unrealized loss on available-for-sale securities, net of tax benefit of $(20), $(34), $(7), and $(71), respectively | (37 | ) | (63 | ) | (17 | ) | (127 | ) | |||||||
Translation adjustment | (203 | ) | (50 | ) | (332 | ) | 1 | ||||||||
Net change in retirement obligations, net of tax expense of $6, $8, $18, and $25, respectively | 21 | 14 | 63 | 43 | |||||||||||
Unrealized gain (loss) on derivatives, net of tax expense (benefit) of $36, $27, $125, and $(25), respectively | 64 | 48 | 222 | (43 | ) | ||||||||||
Other comprehensive loss | (155 | ) | (51 | ) | (64 | ) | (126 | ) | |||||||
Comprehensive income | $ | 822 | $ | 711 | $ | 2,612 | $ | 2,491 | |||||||
The accompanying notes are an integral part of these condensed consolidated financial statements.
2
MEDTRONIC, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
January 23, 2015 | April 25, 2014 | ||||||
(in millions, except per share data) | |||||||
ASSETS | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 17,231 | $ | 1,403 | |||
Investments | 13,917 | 12,838 | |||||
Accounts receivable, less allowances of $108 and $115, respectively | 3,568 | 3,811 | |||||
Inventories | 1,875 | 1,725 | |||||
Tax assets | 618 | 736 | |||||
Prepaid expenses and other current assets | 952 | 697 | |||||
Total current assets | 38,161 | 21,210 | |||||
Property, plant, and equipment | 6,343 | 6,439 | |||||
Accumulated depreciation | (4,017 | ) | (4,047 | ) | |||
Property, plant, and equipment, net | 2,326 | 2,392 | |||||
Goodwill | 10,950 | 10,593 | |||||
Other intangible assets, net | 2,339 | 2,286 | |||||
Long-term tax assets | 207 | 300 | |||||
Other assets | 1,250 | 1,162 | |||||
Total assets | $ | 55,233 | $ | 37,943 | |||
LIABILITIES AND SHAREHOLDERS’ EQUITY | |||||||
Current liabilities: | |||||||
Short-term borrowings | $ | 2,185 | $ | 1,613 | |||
Accounts payable | 635 | 742 | |||||
Accrued compensation | 1,005 | 1,015 | |||||
Accrued income taxes | 173 | 164 | |||||
Deferred tax liabilities | 17 | 19 | |||||
Other accrued expenses | 1,598 | 2,006 | |||||
Total current liabilities | 5,613 | 5,559 | |||||
Long-term debt | 26,641 | 10,315 | |||||
Long-term accrued compensation and retirement benefits | 671 | 662 | |||||
Long-term accrued income taxes | 1,405 | 1,343 | |||||
Long-term deferred tax liabilities | 415 | 386 | |||||
Other long-term liabilities | 315 | 235 | |||||
Total liabilities | 35,060 | 18,500 | |||||
Commitments and contingencies (Notes 3 and 19) | |||||||
Shareholders’ equity: | |||||||
Preferred stock— par value $1.00 | — | — | |||||
Common stock— par value $0.10 | 99 | 100 | |||||
Retained earnings | 20,735 | 19,940 | |||||
Accumulated other comprehensive loss | (661 | ) | (597 | ) | |||
Total shareholders’ equity | 20,173 | 19,443 | |||||
Total liabilities and shareholders’ equity | $ | 55,233 | $ | 37,943 | |||
The accompanying notes are an integral part of these condensed consolidated financial statements.
3
MEDTRONIC, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) | |||||||
Nine months ended | |||||||
January 23, 2015 | January 24, 2014 | ||||||
(in millions) | |||||||
Operating Activities: | |||||||
Net earnings | $ | 2,676 | $ | 2,617 | |||
Adjustments to reconcile net earnings to net cash provided by operating activities: | |||||||
Depreciation and amortization | 629 | 635 | |||||
Amortization of debt issuance costs | 69 | 6 | |||||
Acquisition-related items | 2 | 99 | |||||
Provision for doubtful accounts | 25 | 34 | |||||
Deferred income taxes | (20 | ) | (61 | ) | |||
Stock-based compensation | 115 | 108 | |||||
Other, net | (96 | ) | (17 | ) | |||
Change in operating assets and liabilities, net of acquisitions: | |||||||
Accounts receivable, net | (60 | ) | 86 | ||||
Inventories | (245 | ) | (119 | ) | |||
Accounts payable and accrued liabilities | 702 | (301 | ) | ||||
Other operating assets and liabilities | (1 | ) | 523 | ||||
Certain litigation charges, net | — | 24 | |||||
Certain litigation payments | (806 | ) | (3 | ) | |||
Net cash provided by operating activities | 2,990 | 3,631 | |||||
Investing Activities: | |||||||
Acquisitions, net of cash acquired | (611 | ) | (369 | ) | |||
Additions to property, plant, and equipment | (316 | ) | (291 | ) | |||
Purchases of investments | (5,327 | ) | (7,992 | ) | |||
Sales and maturities of investments | 4,351 | 5,606 | |||||
Other investing activities, net | 60 | (23 | ) | ||||
Net cash used in investing activities | (1,843 | ) | (3,069 | ) | |||
Financing Activities: | |||||||
Acquisition-related contingent consideration | (5 | ) | (1 | ) | |||
Change in short-term borrowings, net | 7 | 935 | |||||
Repayment of short-term borrowings (maturities greater than 90 days) | (150 | ) | (385 | ) | |||
Proceeds from short-term borrowings (maturities greater than 90 days) | 150 | 1,176 | |||||
Issuance of long-term debt | 16,918 | — | |||||
Payments on long-term debt | (13 | ) | (10 | ) | |||
Dividends to shareholders | (902 | ) | (839 | ) | |||
Issuance of common stock | 477 | 1,056 | |||||
Repurchase of common stock | (1,620 | ) | (2,153 | ) | |||
Other financing activities | (64 | ) | 20 | ||||
Net cash provided by (used in) financing activities | 14,798 | (201 | ) | ||||
Effect of exchange rate changes on cash and cash equivalents | (117 | ) | 24 | ||||
Net change in cash and cash equivalents | 15,828 | 385 | |||||
Cash and cash equivalents at beginning of period | 1,403 | 919 | |||||
Cash and cash equivalents at end of period | $ | 17,231 | $ | 1,304 | |||
Supplemental Cash Flow Information | |||||||
Cash paid for: | |||||||
Income taxes | $ | 446 | $ | 382 | |||
Interest | 221 | 226 | |||||
4
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1 – Basis of Presentation
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S.) (U.S. GAAP) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information necessary for a fair presentation of results of operations, comprehensive income, financial condition, and cash flows in conformity with U.S. GAAP. In the opinion of management, the condensed consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the results of Medtronic, Inc. and its subsidiaries (Medtronic or the Company) for the periods presented. Operating results for interim periods are not necessarily indicative of results that may be expected for the fiscal year as a whole. The preparation of the financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and the related disclosures at the date of the financial statements and during the reporting period. Actual results could materially differ from these estimates. For further information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended April 25, 2014.
The Company’s fiscal years 2015, 2014, and 2013 will end or ended on April 24, 2015, April 25, 2014, and April 26, 2013, respectively.
Note 2 – New Accounting Pronouncements
Recently Adopted
In July 2013, the FASB issued amended guidance on the financial statement presentation of an unrecognized tax benefit when a net operating loss carryforward, similar tax loss, or tax credit carryforward exists. The guidance requires an unrecognized tax benefit, or a portion of an unrecognized tax benefit, to be presented as a reduction of a deferred tax asset when a net operating loss carryforward, similar tax loss, or tax credit carryforward exists, with certain exceptions. The Company prospectively adopted this accounting guidance in the first quarter of fiscal year 2015 and its adoption did not have a material impact on the Company’s consolidated financial statements.
In March 2013, the FASB issued amended guidance on a parent company's accounting for the cumulative translation adjustment (CTA) recorded in accumulated other comprehensive income (AOCI) associated with a foreign entity. The amendment requires a parent to release into net income the CTA related to its investment in a foreign entity when it either sells a part or all of its investment, or no longer holds a controlling financial interest, in a subsidiary or group of assets within a foreign entity. This accounting guidance was effective prospectively for the Company in the first quarter of fiscal year 2015. This amended guidance has had no impact on the Company's financial position or results of operations as the Company has had no event or transaction described above.
Not Yet Adopted
In April 2014, the FASB issued amended guidance for reporting discontinued operations. The amended guidance changes the criteria for determining when the results of operations are to be reported as discontinued operations and expands the related disclosure requirements. The guidance defines a discontinued operation as a disposal of a component or group of components that is disposed of or classified as held for sale which is a strategic shift that has, or will have, a major effect on financial position and results of operations. This accounting guidance is effective prospectively for the Company beginning in the first quarter of fiscal year 2016. The adoption is not expected to have a material impact on the Company’s consolidated financial statements.
In May 2014, the FASB issued amended revenue recognition guidance to clarify the principles for recognizing revenue from contracts with customers. The guidance requires an entity to recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which an entity expects to be entitled in exchange for those goods or services. The guidance also requires expanded disclosures relating to the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers. Additionally, qualitative and quantitative disclosures are required about customer contracts, significant judgments and changes in judgments, and assets recognized from the costs to obtain or fulfill a contract. This accounting guidance is effective for the Company beginning in the first quarter of fiscal year 2018 using one of two prescribed retrospective methods. Early adoption is not permitted. The Company is evaluating the impact of the amended revenue recognition guidance on the Company’s consolidated financial statements.
5
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 3 – Acquisitions and Acquisition-Related Items
The Company had various acquisitions and other acquisition-related activity during the first three quarters of fiscal years 2015 and 2014. Certain acquisitions were accounted for as business combinations as noted below. In accordance with authoritative guidance on business combination accounting, the assets and liabilities of the company acquired were recorded as of the acquisition date, at their respective fair values, and consolidated. Unless otherwise disclosed, the pro forma impact of these acquisitions was not significant, either individually or in the aggregate, to the results of the Company for the three and nine months ended January 23, 2015 or January 24, 2014. The results of operations related to each company acquired have been included in the Company's condensed consolidated statements of earnings since the date each company was acquired.
Subsequent Acquisition of Covidien plc
On January 26, 2015, pursuant to the transaction agreement, dated as of June 15, 2014 (the Transaction Agreement), by and among Medtronic, Inc., Covidien public limited company, an Irish public limited company (Covidien), Medtronic plc (formerly known as Medtronic Limited, Medtronic Holdings Limited and Kalani I Limited) (New Medtronic), Makani II Limited, a private limited company organized under the laws of Ireland and a wholly-owned subsidiary of New Medtronic (IrSub), Aviation Acquisition Co., Inc., a Minnesota corporation (U.S. AcquisitionCo), and Aviation Merger Sub, LLC, a Minnesota limited liability company and a wholly-owned subsidiary of U.S. AcquisitionCo (MergerSub), (i) New Medtronic and IrSub acquired Covidien (the Acquisition) pursuant to the Irish Scheme of Arrangement under Section 201 (the Arrangement), and a capital reduction under Sections 72 and 74, of the Irish Companies Act of 1963 and (ii) MergerSub merged with and into Medtronic, with Medtronic as the surviving corporation in the merger (the Merger and, together with the Acquisition, the Transactions). Following the consummation of the Transactions on January 26, 2015, Medtronic and Covidien became subsidiaries of New Medtronic. In connection with the consummation of the Transactions, New Medtronic re-registered as a public limited company organized under the laws of Ireland. This Quarterly Report on Form 10-Q relates to Medtronic’s quarter ended January 23, 2015, which was prior to the consummation of the Transactions.
On January 26, 2015, (a) each Covidien ordinary share was converted into the right to receive $35.19 in cash and 0.956 of a newly issued New Medtronic share (the Arrangement Consideration) in exchange for each Covidien share held by such shareholders, and (b) each share of Medtronic common stock was converted into the right to receive one New Medtronic ordinary share. The total consideration of the Transactions is approximately $50 billion, consisting of $16 billion cash and $34 billion of non-cash consideration based on Medtronic's closing stock price of $76.95 per share on January 23, 2015. The fair value of the individual components of non-cash consideration is still being completed.
The Transactions will be accounted for as business combination using the acquisition method of accounting. The acquisition method of accounting requires, among other things, that assets acquired and liabilities assumed be recognized at their fair values as of the acquisition date and that the fair value of acquired in-process research and development be recorded on the balance sheet.
Due to the limited time since the acquisition date and the significant limitations on access to Covidien information prior to the acquisition date, the preliminary acquisition valuation for the business combination is incomplete at this time. As a result, the Company is unable to provide the amounts recognized as of the acquisition date for the major classes of assets acquired and liabilities assumed, including the information required for valuation of intangible assets and goodwill.
The unaudited pro forma net sales of the combined entity for the three and nine months ended January 23, 2015 are $7.004 billion and $21.065 billion, respectively. The unaudited pro forma net sales of the combined entity are based on the historical financial net sales of Medtronic and Covidien as if the acquisition had been completed as of the beginning of fiscal year 2015. The historical Covidien net sales information for the three months ended January 23, 2015 are based upon the period from September 27, 2014 to December 26, 2014 and the historical Covidien net sales information for the nine months ended January 23, 2015 was based upon the period from March 29, 2014 to December 26, 2014. The unaudited pro forma net sales is not indicative of the results that actually would have been obtained if the acquisitions had occurred as of the beginning of fiscal year 2015 or that may be obtained in the future. Because the initial accounting for the business combination is incomplete at this time, the Company is unable to provide the pro forma net earnings of the combined entity.
See Note 8 to the condensed consolidated financial statements for further information regarding the financing of the Transactions.
NGC Medical S.p.A.
On August 26, 2014, the Company acquired NGC Medical S.p.A. (NGC), a privately-held Italian company that offers a broad suite of hospital managed services. Total consideration for this transaction was approximately $340 million. Medtronic had previously invested in NGC and held a 30 percent ownership position in that company. Net of this ownership position, the
6
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
transaction value was approximately $238 million. Based upon a preliminary acquisition valuation, the Company acquired $177 million of customer-related intangible assets and tradenames with an estimated useful life of 20 years at the time of acquisition and $184 million of goodwill. The acquired goodwill is not deductible for tax purposes.
The fair values of the assets acquired and liabilities assumed are as follows:
(in millions) | |||
Current assets | $ | 55 | |
Property, plant, and equipment | 15 | ||
Intangible assets | 177 | ||
Goodwill | 184 | ||
Other assets | 2 | ||
Total assets acquired | 433 | ||
Current liabilities | 34 | ||
Long-term deferred tax liabilities, net | 55 | ||
Other long-term liabilities | 4 | ||
Total liabilities assumed | 93 | ||
Net assets acquired | $ | 340 | |
Sapiens Steering Brain Stimulation
On August 25, 2014, the Company acquired Sapiens Steering Brain Stimulation (Sapiens), a privately-held developer of deep brain stimulation technologies. Total consideration for the transaction was approximately $203 million. Based upon a preliminary acquisition valuation, the Company acquired $30 million of in-process research and development (IPR&D) and $170 million of goodwill. The acquired goodwill is not deductible for tax purposes.
The fair values of the assets acquired and liabilities assumed are as follows:
(in millions) | |||
Current assets | $ | 3 | |
Property, plant, and equipment | 1 | ||
IPR&D | 30 | ||
Goodwill | 170 | ||
Other assets | 3 | ||
Total assets acquired | 207 | ||
Current liabilities | 4 | ||
Total liabilities assumed | 4 | ||
Net assets acquired | $ | 203 | |
Visualase, Inc.
On July 25, 2014, the Company acquired Visualase, Inc. (Visualase), a privately-held developer of minimally invasive MRI guided laser ablation for surgical applications. Total consideration for the transaction was approximately $97 million. Based upon a preliminary acquisition valuation, the Company acquired $66 million of technology-based intangible assets with an estimated useful life of 10 years at the time of acquisition and $43 million of goodwill. The acquired goodwill is not deductible for tax purposes.
7
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Corventis, Inc.
On June 20, 2014, the Company acquired Corventis, Inc. (Corventis), a privately-held developer of wearable, wireless technologies for cardiac disease. Total consideration for the transaction was approximately $131 million, including settlement of outstanding debt to Medtronic of $50 million. Based upon a preliminary acquisition valuation, the Company acquired $80 million of technology-based intangible assets with an estimated useful life of 16 years at the time of acquisition and $48 million of goodwill. The acquired goodwill is not deductible for tax purposes.
TYRX, Inc.
On December 30, 2013, the Company acquired TYRX, Inc. (TYRX), a privately-held developer of antibiotic drug and implanted medical device combinations. TYRX's products include those designed to reduce surgical site infections associated with implantable pacemakers, defibrillators, and spinal cord neurostimulators. Under the terms of the agreement, the transaction included an initial up-front payment of $159 million, representing a purchase price amount that was net of acquired cash, including the assumption and settlement of existing TYRX debt and direct acquisition costs. Total consideration for the transaction was approximately $222 million, which included estimated fair values for product development-based and revenue-based contingent consideration of $25 million and $35 million, respectively. The product development-based contingent consideration includes a future potential payment of $40 million upon achieving certain milestones, and the revenue-based contingent consideration payments would be equal to TYRX's actual annual revenue growth for the Company's fiscal years 2015 and 2016. Based upon an acquisition valuation, the Company acquired $94 million of technology-based intangible assets with an estimated useful life of 14 years at the time of acquisition and $132 million of goodwill. The acquired goodwill is not deductible for tax purposes.
The fair values of the assets acquired and liabilities assumed are as follows:
(in millions) | |||
Current assets | $ | 6 | |
Property, plant, and equipment | 1 | ||
Intangible assets | 94 | ||
Goodwill | 132 | ||
Total assets acquired | 233 | ||
Current liabilities | 4 | ||
Long-term deferred tax liabilities, net | 7 | ||
Total liabilities assumed | 11 | ||
Net assets acquired | $ | 222 | |
The Company accounted for the acquisitions of NGC, Sapiens, Corventis, Visualase, and TYRX as business combinations using the acquisition method of accounting.
Other Acquisitions and Acquisition-Related Items
On December 19, 2014, the Company acquired a business in the Neuromodulation division. Total consideration for the transaction was approximately $39 million, which included an upfront payment of $33 million and the estimated fair value of revenue-based contingent consideration of $6 million. Based upon a preliminary acquisition valuation, the Company acquired $39 million of IPR&D. The Company accounted for the acquisition as a business combination using the acquisition method of accounting.
During the three and nine months ended January 23, 2015, the Company recorded acquisition-related items of $80 million and $182 million, respectively, primarily due to costs incurred in connection with the Covidien acquisition (bridge financing fees, legal fees, and other transaction-related costs).
During the three and nine months ended January 24, 2014, the Company's recorded acquisition-related items of $200 million and $104 million, respectively, primarily consisting of IPR&D and long-lived asset impairment charges of $236 million related to the Ardian, Inc. acquisition recorded in the third quarter of fiscal year 2014. The impairment charges were partially offset by income of $39 million and $135 million for the three and nine months ended January 24, 2014, respectively, related to the change in fair value of contingent consideration associated with acquisitions subsequent to April 29, 2009.
8
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Contingent Consideration
Certain of the Company’s business combinations and purchases of intellectual property involve the potential for the payment of future contingent consideration upon the achievement of certain product development milestones and/or various other favorable operating conditions. Payment of the additional consideration is generally contingent on the acquired company reaching certain performance milestones, including attaining specified revenue levels or achieving product development targets. For business combinations subsequent to April 24, 2009, a liability is recorded for the estimated fair value of the contingent consideration on the acquisition date. The fair value of the contingent consideration is remeasured at each reporting period and the change in fair value recognized as income or expense within acquisition-related items in the condensed consolidated statements of earnings. The Company measures the liability on a recurring basis using Level 3 inputs. See Note 7 to the condensed consolidated financial statements for further information regarding fair value measurements.
The fair value of contingent consideration is measured using projected payment dates, discount rates, probabilities of payment, and projected revenues (for revenue-based considerations). Projected contingent payment amounts are discounted back to the current period using a discounted cash flow model. Projected revenues are based on the Company’s most recent internal operational budgets and long-range strategic plans. Increases (decreases) in projected revenues, probabilities of payment, discount rates, or projected payment dates may result in a higher (lower) fair value measurement. Fluctuations in any of the inputs may result in a significantly lower (higher) fair value measurement.
The recurring Level 3 fair value measurements of contingent consideration include the following significant unobservable inputs:
Fair Value at | ||||||||
($ in millions) | January 23, 2015 | Valuation Technique | Unobservable Input | Range | ||||
Discount rate | 13.5% - 27.2% | |||||||
Revenue-based payments | $67 | Discounted cash flow | Probability of payment | 100% | ||||
Projected fiscal year of payment | 2015 - 2025 | |||||||
Discount rate | 5.5% | |||||||
Product development-based payments | $26 | Discounted cash flow | Probability of payment | 75% | ||||
Projected fiscal year of payment | 2018 | |||||||
At January 23, 2015, the estimated maximum amount of undiscounted future contingent consideration payments that the Company expected to make associated with all completed business combinations or purchases of intellectual property prior to April 24, 2009 was approximately $196 million. The Company estimates the milestones or other conditions associated with the contingent consideration will be reached in fiscal year 2015 and thereafter.
The fair value of contingent consideration associated with acquisitions subsequent to April 24, 2009, as of January 23, 2015 and April 25, 2014, was $93 million and $68 million, respectively. As of January 23, 2015, $81 million was reflected in other long-term liabilities and $12 million was reflected in other accrued expenses in the condensed consolidated balance sheets. As of April 25, 2014, $51 million was reflected in other long-term liabilities and $17 million was reflected in other accrued expenses in the condensed consolidated balance sheets. The portion of the contingent consideration paid related to the acquisition date fair value is reported as financing activities in the condensed consolidated statements of cash flows. Amounts paid in excess of the original acquisition date fair value are reported as operating activities in the condensed consolidated statements of cash flows. The following table provides a reconciliation of the beginning and ending balances of contingent consideration associated with acquisitions subsequent to April 24, 2009:
Three months ended | Nine months ended | ||||||||||||||
(in millions) | January 23, 2015 | January 24, 2014 | January 23, 2015 | January 24, 2014 | |||||||||||
Beginning Balance | $ | 91 | $ | 45 | $ | 68 | $ | 142 | |||||||
Purchase price contingent consideration | 6 | 60 | 29 | 60 | |||||||||||
Contingent consideration payments | — | — | (5 | ) | (1 | ) | |||||||||
Change in fair value of contingent consideration | (4 | ) | (39 | ) | 1 | (135 | ) | ||||||||
Ending Balance | $ | 93 | $ | 66 | $ | 93 | $ | 66 | |||||||
9
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 4 – Special (Gains) Charges and Certain Litigation Charges, Net
Special (Gains) Charges
During the three months ended January 23, 2015, the Company recognized a $138 million gain, which consisted of a $41 million gain on the sale of a product line in the Surgical Technologies division and a $97 million gain on the sale of an equity method investment. In addition, during the nine months ended January 23, 2015, continuing the Company's commitment to improving the health of people and communities throughout the world, the Company made a $100 million charitable cash contribution to meet the multi-year funding needs of the Medtronic Foundation, a related party non-profit organization.
During the three months ended January 24, 2014, there were no special (gains) charges. During the nine months ended January 24, 2014, the Company made a $40 million charitable contribution to the Medtronic Foundation.
Certain Litigation Charges, Net
The Company classifies material litigation reserves and gains recognized as certain litigation charges, net. During the three and nine months ended January 23, 2015, there were no certain litigation charges.
During the three months ended January 24, 2014, there were no certain litigation charges. During the nine months ended January 24, 2014, the Company recorded certain litigation charges, net of $24 million, which included $12 million related to patent litigation and $12 million related to Other Matters litigation.
Note 5 – Restructuring (Credits) Charges, Net
Fiscal Year 2014 Initiative
The fiscal year 2014 initiative primarily related to the Company's renal denervation business, certain manufacturing shut-downs, and a reduction of back-office support functions in Europe. In the fourth quarter of fiscal year 2014, the Company recorded a $116 million restructuring charge, which consisted of employee termination costs of $65 million, asset write-downs of $26 million, contract termination costs of $3 million, and other related costs of $22 million. Of the $26 million of asset write-downs, $10 million related to inventory write-offs of discontinued product lines and production-related asset impairments, and therefore, was recorded within cost of products sold in the condensed consolidated statements of earnings. In the first quarter of fiscal year 2015, the Company recorded a $38 million restructuring charge, which was the final charge related to the fiscal year 2014 initiative and consisted primarily of contract termination and other related costs of $28 million. The fiscal year 2014 initiative is scheduled to be substantially complete by the end of the fourth quarter of fiscal year 2015.
As a result of certain employees identified for elimination finding other positions within the Company and revisions to particular strategies, the Company recorded a $6 million reversal of excess restructuring reserves in the first quarter of fiscal year 2015.
A summary of the activity related to the fiscal year 2014 initiative is presented below:
(in millions) | Employee Termination Costs | Asset Write-downs | Other Costs | Total | |||||||||||
Balance as of April 25, 2014 | $ | 64 | $ | — | $ | 11 | $ | 75 | |||||||
Restructuring charges | 1 | 9 | 28 | 38 | |||||||||||
Payments/write-downs | (17 | ) | (9 | ) | (19 | ) | (45 | ) | |||||||
Reversal of excess accrual | (6 | ) | — | — | (6 | ) | |||||||||
Balance as of July 25, 2014 | $ | 42 | $ | — | $ | 20 | $ | 62 | |||||||
Payments | (15 | ) | — | (7 | ) | (22 | ) | ||||||||
Balance as of October 24, 2014 | $ | 27 | $ | — | $ | 13 | $ | 40 | |||||||
Payments | (4 | ) | — | (6 | ) | (10 | ) | ||||||||
Balance as of January 23, 2015 | $ | 23 | $ | — | $ | 7 | $ | 30 | |||||||
Fiscal Year 2013 Initiative
The fiscal year 2013 initiative was designed to scale back the Company's infrastructure in slower growing areas of the business, while continuing to invest in geographies, businesses, and products where faster growth is anticipated. A number of factors have contributed to ongoing challenging market dynamics, including increased pricing pressure, various governmental austerity
10
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
measures, and the U.S. medical device excise tax. In the fourth quarter of fiscal year 2013, the Company recorded a $192 million restructuring charge, which consisted of employee termination costs of $150 million, asset write-downs of $13 million, contract termination costs of $18 million, and other related costs of $11 million. Of the $13 million of asset write-downs, $10 million related to inventory write-offs of discontinued product lines and production-related asset impairments, and therefore, was recorded within cost of products sold in the condensed consolidated statements of earnings. In the first quarter of fiscal year 2014, the Company recorded an $18 million restructuring charge, which was the final charge related to the fiscal year 2013 initiative and consisted primarily of contract termination costs of $14 million and other related costs of $4 million.
In the first quarter of fiscal year 2015, the Company recorded a $2 million reversal of excess restructuring reserves as a result of certain employees identified for elimination finding other positions within the Company and revisions to particular strategies.
As a result of certain legal requirements outside the U.S., the fiscal year 2013 initiative is scheduled to be substantially complete by the end of the third quarter of fiscal year 2016.
A summary of the activity related to the fiscal year 2013 initiative is presented below:
(in millions) | Employee Termination Costs | Other Costs | Total | ||||||||
Balance as of April 25, 2014 | $ | 23 | $ | 1 | $ | 24 | |||||
Payments | (5 | ) | (1 | ) | (6 | ) | |||||
Reversal of excess accrual | (2 | ) | — | (2 | ) | ||||||
Balance as of July 25, 2014 | $ | 16 | $ | — | $ | 16 | |||||
Payments | (3 | ) | — | (3 | ) | ||||||
Balance as of October 24, 2014 | $ | 13 | $ | — | $ | 13 | |||||
Payments | (2 | ) | — | (2 | ) | ||||||
Balance as of January 23, 2015 | $ | 11 | $ | — | $ | 11 | |||||
11
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 6 – Investments
The Company holds investments consisting primarily of marketable debt and equity securities.
Information regarding the Company’s investments at January 23, 2015 is as follows:
(in millions) | Cost | Unrealized Gains | Unrealized Losses | Fair Value | |||||||||||
Available-for-sale securities: | |||||||||||||||
Corporate debt securities | $ | 5,880 | $ | 88 | $ | (20 | ) | $ | 5,948 | ||||||
Auction rate securities | 109 | — | (10 | ) | 99 | ||||||||||
Mortgage-backed securities | 1,360 | 20 | (5 | ) | 1,375 | ||||||||||
U.S. government and agency securities | 3,077 | 22 | (7 | ) | 3,092 | ||||||||||
Foreign government and agency securities | 79 | — | — | 79 | |||||||||||
Certificates of deposit | 42 | — | — | 42 | |||||||||||
Other asset-backed securities | 497 | 2 | — | 499 | |||||||||||
Debt funds | 2,954 | 6 | (144 | ) | 2,816 | ||||||||||
Marketable equity securities | 40 | 24 | (14 | ) | 50 | ||||||||||
Trading securities: | |||||||||||||||
Exchange-traded funds | 58 | 16 | — | 74 | |||||||||||
Cost method, equity method, and other investments | 458 | — | — | NA | |||||||||||
Total | $ | 14,554 | $ | 178 | $ | (200 | ) | $ | 14,074 | ||||||
Information regarding the Company’s investments at April 25, 2014 is as follows:
(in millions) | Cost | Unrealized Gains | Unrealized Losses | Fair Value | |||||||||||
Available-for-sale securities: | |||||||||||||||
Corporate debt securities | $ | 5,504 | $ | 55 | $ | (17 | ) | $ | 5,542 | ||||||
Auction rate securities | 109 | — | (12 | ) | 97 | ||||||||||
Mortgage-backed securities | 1,337 | 7 | (8 | ) | 1,336 | ||||||||||
U.S. government and agency securities | 3,138 | 7 | (29 | ) | 3,116 | ||||||||||
Foreign government and agency securities | 67 | — | — | 67 | |||||||||||
Certificates of deposit | 54 | — | — | 54 | |||||||||||
Other asset-backed securities | 540 | 2 | — | 542 | |||||||||||
Debt funds | 2,143 | 9 | (29 | ) | 2,123 | ||||||||||
Marketable equity securities | 47 | 15 | (13 | ) | 49 | ||||||||||
Trading securities: | |||||||||||||||
Exchange-traded funds | 54 | 13 | — | 67 | |||||||||||
Cost method, equity method, and other investments | 666 | — | — | NA | |||||||||||
Total | $ | 13,659 | $ | 108 | $ | (108 | ) | $ | 12,993 | ||||||
Information regarding the Company’s condensed consolidated balance sheets presentation at January 23, 2015 and April 25, 2014 is as follows:
January 23, 2015 | April 25, 2014 | ||||||||||||||
(in millions) | Investments | Other Assets | Investments | Other Assets | |||||||||||
Available-for-sale securities | $ | 13,843 | $ | 157 | $ | 12,771 | $ | 155 | |||||||
Trading securities | 74 | — | 67 | — | |||||||||||
Cost method, equity method, and other investments | — | 458 | — | 666 | |||||||||||
Total | $ | 13,917 | $ | 615 | $ | 12,838 | $ | 821 | |||||||
12
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following tables show the gross unrealized losses and fair values of the Company’s available-for-sale securities that have been in a continuous unrealized loss position deemed to be temporary, aggregated by investment category as of January 23, 2015 and April 25, 2014:
January 23, 2015 | |||||||||||||||
Less than 12 months | More than 12 months | ||||||||||||||
(in millions) | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||
Corporate debt securities | $ | 2,026 | $ | (18 | ) | $ | 34 | $ | (2 | ) | |||||
Auction rate securities | — | — | 99 | (10 | ) | ||||||||||
Mortgage-backed securities | 308 | (2 | ) | 234 | (3 | ) | |||||||||
U.S. government and agency securities | 381 | (2 | ) | 486 | (5 | ) | |||||||||
Debt funds | 2,816 | (144 | ) | — | — | ||||||||||
Marketable equity securities | 9 | (14 | ) | — | — | ||||||||||
Total | $ | 5,540 | $ | (180 | ) | $ | 853 | $ | (20 | ) | |||||
April 25, 2014 | |||||||||||||||
Less than 12 months | More than 12 months | ||||||||||||||
(in millions) | Fair Value | Unrealized Losses | Fair Value | Unrealized Losses | |||||||||||
Corporate debt securities | $ | 1,601 | $ | (14 | ) | $ | 50 | $ | (3 | ) | |||||
Auction rate securities | — | — | 97 | (12 | ) | ||||||||||
Mortgage-backed securities | 682 | (7 | ) | 28 | (1 | ) | |||||||||
U.S. government and agency securities | 1,500 | (27 | ) | 46 | (2 | ) | |||||||||
Debt funds | 1,224 | (29 | ) | — | — | ||||||||||
Marketable equity securities | 25 | (13 | ) | — | — | ||||||||||
Total | $ | 5,032 | $ | (90 | ) | $ | 221 | $ | (18 | ) | |||||
Activity related to the Company’s investment portfolio is as follows:
(a) Includes available-for-sale debt securities.
Three months ended | |||||||||||||||
January 23, 2015 | January 24, 2014 | ||||||||||||||
(in millions) | Debt (a) | Equity (b) | Debt (a) | Equity (b) | |||||||||||
Proceeds from sales | $ | 1,478 | $ | 208 | $ | 1,280 | $ | 35 | |||||||
Gross realized gains | 10 | 99 | — | 26 | |||||||||||
Gross realized losses | (4 | ) | — | (3 | ) | — | |||||||||
Impairment losses recognized | — | (1 | ) | — | — | ||||||||||
Nine months ended | |||||||||||||||
January 23, 2015 | January 24, 2014 | ||||||||||||||
(in millions) | Debt (a) | Equity (b) | Debt (a) | Equity (b) | |||||||||||
Proceeds from sales | $ | 4,114 | $ | 237 | $ | 5,515 | $ | 91 | |||||||
Gross realized gains | 26 | 157 | 6 | 59 | |||||||||||
Gross realized losses | (9 | ) | — | (9 | ) | — | |||||||||
Impairment losses recognized | — | (22 | ) | — | — | ||||||||||
(b) Includes marketable equity securities, cost method, equity method, exchange-traded funds, and other investments.
Credit losses represent the difference between the present value of cash flows expected to be collected on certain mortgage-backed securities and auction rate securities and the amortized cost of these securities. Based on the Company’s assessment of the credit quality of the underlying collateral and credit support available to each of the remaining securities in which invested, the Company believes it has recorded all necessary other-than-temporary impairments as the Company does not have the intent to sell, nor is it more likely than not that the Company will be required to sell, before recovery of the amortized cost.
13
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
As of January 23, 2015 and April 25, 2014, the credit loss portion of other-than-temporary impairments on debt securities was $4 million. The total reductions for available-for-sale debt securities sold during the three and nine months ended January 23, 2015 and January 24, 2014 were not significant. The total other-than-temporary impairment losses on available-for-sale debt securities for the three and nine months ended January 23, 2015 and January 24, 2014 were not significant.
The January 23, 2015 balance of available-for-sale debt securities, excluding debt funds which have no single maturity date, by contractual maturity is shown in the following table. Within the table, maturities of mortgage-backed securities have been allocated based upon timing of estimated cash flows, assuming no change in the current interest rate environment. Actual maturities may differ from contractual maturities because the issuers of the securities may have the right to prepay obligations without prepayment penalties.
(in millions) | January 23, 2015 | ||
Due in one year or less | $ | 1,631 | |
Due after one year through five years | 6,487 | ||
Due after five years through ten years | 2,847 | ||
Due after ten years | 169 | ||
Total | $ | 11,134 | |
The Company holds investments in marketable equity securities which are classified as investments in the condensed consolidated balance sheets. The aggregate carrying amount of these investments was $50 million and $49 million as of January 23, 2015 and April 25, 2014, respectively. During the three months ended January 23, 2015, the Company did not record any significant impairment charges related to marketable equity securities. During the nine months ended January 23, 2015, the Company determined that the fair value of certain marketable equity securities were below their carrying values and that the carrying values of these investments were not expected to be recoverable within a reasonable period of time. As a result, the Company recognized $7 million in impairment charges for the nine months ended January 23, 2015, which were recorded in other expense, net in the condensed consolidated statements of earnings. The Company did not record any significant impairment charges related to marketable equity securities during the three and nine months ended January 24, 2014.
As of January 23, 2015 and April 25, 2014, the aggregate carrying amount of equity and other securities without a quoted market price and accounted for using the cost or equity method was $458 million and $666 million, respectively. The total carrying value of these investments is reviewed quarterly for changes in circumstance or the occurrence of events that suggest the Company’s investment may not be recoverable. The value of cost or equity method investments is not adjusted if there are no identified events or changes in circumstances that may have a material adverse effect on the fair value of the investment.
Gains and losses realized on trading securities and available-for-sale debt securities are recorded in interest expense, net in the condensed consolidated statements of earnings. Gains and losses realized on marketable equity securities, cost method, equity method, and other investments are recorded in other expense, net in the condensed consolidated statements of earnings. In addition, unrealized gains and losses on available-for-sale debt securities are recorded in other comprehensive income (loss) in the condensed consolidated statements of comprehensive income and unrealized gains and losses on trading securities are recorded in interest expense, net in the condensed consolidated statements of earnings. Gains and losses from the sale of investments are calculated based on the specific identification method.
14
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 7 – Fair Value Measurements
The Company follows the authoritative guidance on fair value measurements and disclosures with respect to assets and liabilities that are measured at fair value on both a recurring and nonrecurring basis. Under this guidance, fair value is defined as the exit price, or the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants as of the measurement date. The authoritative guidance also establishes a hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available. Observable inputs are inputs market participants would use in valuing the asset or liability, based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the factors market participants would use in valuing the asset or liability developed based upon the best information available in the circumstances. The categorization of financial assets and financial liabilities within the valuation hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The hierarchy is broken down into three levels. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement). Descriptions of the three levels of the fair value hierarchy are discussed in Note 6 to the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended April 25, 2014.
See the section below titled Valuation Techniques for further discussion of how the Company determines fair value for investments.
Assets and Liabilities That Are Measured at Fair Value on a Recurring Basis
The authoritative guidance is principally applied to financial assets and liabilities such as marketable equity securities and debt and equity securities that are classified and accounted for as trading, available-for-sale, derivative instruments, and contingent consideration associated with acquisitions subsequent to April 24, 2009. Derivatives include cash flow hedges, freestanding derivative forward contracts, and fair value hedges. These items are marked-to-market at each reporting period.
The following tables provide information by level for assets and liabilities that are measured at fair value on a recurring basis:
Fair Value as of January 23, 2015 | Fair Value Measurements Using Inputs Considered as | ||||||||||||||
(in millions) | Level 1 | Level 2 | Level 3 | ||||||||||||
Assets: | |||||||||||||||
Corporate debt securities | $ | 5,948 | $ | — | $ | 5,939 | $ | 9 | |||||||
Auction rate securities | 99 | — | — | 99 | |||||||||||
Mortgage-backed securities | 1,375 | — | 1,375 | — | |||||||||||
U.S. government and agency securities | 3,092 | 1,419 | 1,673 | — | |||||||||||
Foreign government and agency securities | 79 | — | 79 | — | |||||||||||
Certificates of deposit | 42 | — | 42 | — | |||||||||||
Other asset-backed securities | 499 | — | 499 | — | |||||||||||
Debt funds | 2,816 | — | 2,816 | — | |||||||||||
Marketable equity securities | 50 | 50 | — | — | |||||||||||
Exchange-traded funds | 74 | 74 | — | — | |||||||||||
Derivative assets | 578 | 482 | 96 | — | |||||||||||
Total assets | $ | 14,652 | $ | 2,025 | $ | 12,519 | $ | 108 | |||||||
Liabilities: | |||||||||||||||
Derivative liabilities | $ | 105 | $ | 32 | $ | 73 | $ | — | |||||||
Contingent consideration associated with acquisitions subsequent to April 24, 2009 | 93 | — | — | 93 | |||||||||||
Total liabilities | $ | 198 | $ | 32 | $ | 73 | $ | 93 | |||||||
15
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Fair Value as of April 25, 2014 | Fair Value Measurements Using Inputs Considered as | ||||||||||||||
(in millions) | Level 1 | Level 2 | Level 3 | ||||||||||||
Assets: | |||||||||||||||
Corporate debt securities | $ | 5,542 | $ | — | $ | 5,533 | $ | 9 | |||||||
Auction rate securities | 97 | — | — | 97 | |||||||||||
Mortgage-backed securities | 1,336 | — | 1,336 | — | |||||||||||
U.S. government and agency securities | 3,116 | 1,251 | 1,865 | — | |||||||||||
Foreign government and agency securities | 67 | — | 67 | — | |||||||||||
Certificates of deposit | 54 | — | 54 | — | |||||||||||
Other asset-backed securities | 542 | — | 542 | — | |||||||||||
Debt funds | 2,123 | — | 2,123 | — | |||||||||||
Marketable equity securities | 49 | 49 | — | — | |||||||||||
Exchange-traded funds | 67 | 67 | — | — | |||||||||||
Derivative assets | 175 | 89 | 86 | — | |||||||||||
Total assets | $ | 13,168 | $ | 1,456 | $ | 11,606 | $ | 106 | |||||||
Liabilities: | |||||||||||||||
Derivative liabilities | $ | 127 | $ | 116 | $ | 11 | $ | — | |||||||
Contingent consideration associated with acquisitions subsequent to April 24, 2009 | 68 | — | — | 68 | |||||||||||
Total liabilities | $ | 195 | $ | 116 | $ | 11 | $ | 68 | |||||||
Valuation Techniques
Financial assets that are classified as Level 1 securities include highly liquid government bonds within U.S. government and agency securities, marketable equity securities, and exchange-traded funds for which quoted market prices are available. In addition, the Company has determined that foreign currency forward contracts will be included in Level 1 as these are valued using quoted market prices in active markets which have identical assets or liabilities.
The valuation for most fixed maturity securities are classified as Level 2. Financial assets that are classified as Level 2 include corporate debt securities, U.S. government and agency securities, foreign government and agency securities, certificates of deposit, other asset-backed securities, debt funds, and certain mortgage-backed securities whose value is determined using inputs that are observable in the market or can be derived principally from, or corroborated by, observable market data such as pricing for similar securities, recently executed transactions, cash flow models with yield curves, and benchmark securities. In addition, interest rate swaps are included in Level 2 as the Company uses inputs other than quoted prices that are observable for the asset. The Level 2 derivative instruments are primarily valued using standard calculations and models that use readily observable market data as their basis.
Financial assets are considered Level 3 when their fair values are determined using pricing models, discounted cash flow methodologies, or similar techniques, and at least one significant model assumption or input is unobservable. Level 3 financial assets also include certain investment securities for which there is limited market activity such that the determination of fair value requires significant judgment or estimation. Level 3 investment securities include certain corporate debt securities, auction rate securities, and certain mortgage-backed securities. With the exception of auction rate securities, these securities were valued using third-party pricing sources that incorporate transaction details such as contractual terms, maturity, timing, and amount of expected future cash flows, as well as assumptions about liquidity and credit valuation adjustments by market participants. The fair value of auction rate securities is estimated by the Company using a discounted cash flow model, which incorporates significant unobservable inputs. The significant unobservable inputs used in the fair value measurement of the Company’s auction rate securities are years to principal recovery and the illiquidity premium that is incorporated into the discount rate. Significant increases (decreases) in any of those inputs in isolation would result in a significantly lower (higher) fair value of the securities. Additionally, the Company uses Level 3 inputs in the measurement of contingent consideration and related liabilities for all acquisitions subsequent to April 24, 2009. See Note 3 to the condensed consolidated financial statements for further information regarding contingent consideration.
16
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The following table represents the range of the unobservable inputs utilized in the fair value measurement of the auction rate securities classified as Level 3 as of January 23, 2015:
Valuation Technique | Unobservable Input | Range (Weighted Average) | |
Auction rate securities | Discounted cash flow | Years to principal recovery | 2 yrs. - 12 yrs. (3 yrs.) |
Illiquidity premium | 6% | ||
The Company reviews the fair value hierarchy classification on a quarterly basis. Changes in the ability to observe valuation inputs may result in a reclassification of levels for certain securities within the fair value hierarchy. The Company’s policy is to recognize transfers into and out of levels within the fair value hierarchy at the end of the fiscal quarter in which the actual event or change in circumstances that caused the transfer occurs. There were no transfers between Level 1, Level 2, or Level 3 during the three and nine months ended January 23, 2015 or January 24, 2014. When a determination is made to classify an asset or liability within Level 3, the determination is based upon the significance of the unobservable inputs to the overall fair value measurement.
The following tables provide a reconciliation of the beginning and ending balances of items measured at fair value on a recurring basis that used significant unobservable inputs (Level 3) for the three and nine months ended January 23, 2015 and January 24, 2014:
Three months ended January 23, 2015 | |||||||||||||||
(in millions) | Total Level 3 Investments | Corporate debt securities | Auction rate securities | Mortgage- backed securities | |||||||||||
Balance as of October 24, 2014 | $ | 108 | $ | 9 | $ | 99 | $ | — | |||||||
Total unrealized gains included in other comprehensive income | — | — | — | — | |||||||||||
Balance as of January 23, 2015 | $ | 108 | $ | 9 | $ | 99 | $ | — | |||||||
Three months ended January 24, 2014 | |||||||||||||||
(in millions) | Total Level 3 Investments | Corporate debt securities | Auction rate securities | Mortgage- backed securities | |||||||||||
Balance as of October 25, 2013 | $ | 118 | $ | 9 | $ | 105 | $ | 4 | |||||||
Total realized losses and other-than-temporary impairment losses included in earnings | (3 | ) | — | (3 | ) | — | |||||||||
Total unrealized gains included in other comprehensive income | (3 | ) | — | (3 | ) | — | |||||||||
Settlements | (7 | ) | — | (3 | ) | (4 | ) | ||||||||
Balance as of January 24, 2014 | $ | 105 | $ | 9 | $ | 96 | $ | — | |||||||
Nine months ended January 23, 2015 | |||||||||||||||
(in millions) | Total Level 3 Investments | Corporate debt securities | Auction rate securities | Mortgage- backed securities | |||||||||||
Balance as of April 25, 2014 | $ | 106 | $ | 9 | $ | 97 | $ | — | |||||||
Total unrealized gains included in other comprehensive income | 2 | — | 2 | — | |||||||||||
Balance as of January 23, 2015 | $ | 108 | $ | 9 | $ | 99 | $ | — | |||||||
Nine months ended January 24, 2014 | |||||||||||||||
(in millions) | Total Level 3 Investments | Corporate debt securities | Auction rate securities | Mortgage- backed securities | |||||||||||
Balance as of April 26, 2013 | $ | 127 | $ | 10 | $ | 103 | $ | 14 | |||||||
Total realized losses and other-than-temporary impairment losses included in earnings | (5 | ) | — | (5 | ) | — | |||||||||
Total unrealized gains included in other comprehensive income | 3 | — | 2 | 1 | |||||||||||
Settlements | (20 | ) | (1 | ) | (4 | ) | (15 | ) | |||||||
Balance as of January 24, 2014 | $ | 105 | $ | 9 | $ | 96 | $ | — | |||||||
17
MEDTRONIC, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Assets and Liabilities That Are Measured at Fair Value on a Nonrecurring Basis
Non-financial assets such as equity and other securities that are accounted for using the cost or equity method, goodwill and IPR&D, intangible assets, and property, plant, and equipment are measured at fair value when there is an indicator of impairment and recorded at fair value only when impairment is recognized.
The Company holds investments in equity and other securities that are accounted for using the cost or equity method, which are classified as other assets in the condensed consolidated balance sheets. The aggregate carrying amount of these investments was $458 million as of January 23, 2015 and $666 million as of April 25, 2014. These cost or equity method investments are measured at fair value on a nonrecurring basis. The fair value of the Company’s cost or equity method investments is not estimated if there are no identified events or changes in circumstance that may have a significant adverse effect on the fair value of these investments. During the three and nine months ended January 23, 2015, the Company determined that the fair values of certain cost method investments were below their carrying values and that the carrying values of these investments were not expected to be recoverable within a reasonable period of time. As a result, the Company recognized $1 million and $14 million in impairment charges during the three and nine months ended January 23, 2015, respectively, which were recorded in other expense, net in the condensed consolidated statements of earnings. The Company did not record any significant impairment charges related to cost method investments during the three and nine months ended January 24, 2014. These investments fall within Level 3 of the fair value hierarchy, due to the use of significant unobservable inputs to determine fair value, as the investments are privately-held entities without quoted market prices. To determine the fair value of these investments, the Company used all pertinent financial information available related to the entities, including financial statements and market participant valuations from recent and proposed equity offerings.
The Company assesses the impairment of goodwill annually in the third quarter and whenever an event occurs or circumstances change that would indicate that the carrying amount may be impaired. The aggregate carrying amount of goodwill was $10.950 billion and $10.593 billion as of January 23, 2015 and April 25, 2014, respectively.
Impairment testing for goodwill is performed at the reporting unit level. During fiscal year 2015, the Company reassessed the level for which it has aggregated its reporting units in connection with the annual assessment performed in the third quarter. Based on the determination of the similar economic characteristics, the components of the Cardiac and Vascular Group were aggregated into one reporting unit for the annual impairment assessment. Similarly, the components of the Restorative Therapies Group were aggregated into one reporting unit for the annual impairment assessment. No other changes were made to reporting units during fiscal 2015. The test for impairment of goodwill requires the Company to make several estimates about fair value, most of which are based on projected future cash flows. The Company calculates the excess of each reporting unit's fair value over its carrying amount, including goodwill, utilizing a discounted cash flow analysis. The Company did not record any goodwill impairment during the three and nine months ended January 23, 2015 or January 24, 2014.
The Company assesses the impairment of IPR&D annually in the third quarter and whenever an event occurs or circumstances change that would indicate that the carrying amount may be impaired. The aggregate carrying amount of IPR&D was $164 million and $119 million as of January 23, 2015 and April 25, 2014, respectively. The majority of IPR&D at January 23, 2015 is related to IN.PACT family of drug coated balloons which became an amortizable intangible asset early in the fourth quarter of fiscal year 2015 upon completion of all regulatory approvals. Similar to the goodwill impairment test, the IPR&D impairment test requires the Company to make several estimates about fair value, most of which are based on projected future cash flows. The Company calculates the excess of IPR&D asset fair values over their carrying values utilizing a discounted future cash flow analysis. During the three and nine months ended January 23, 2015, the Company did not record any material IPR&D impairments. During the three and nine months ended January 24, 2014, the fair value of certain IPR&D assets were deemed to be less than their carrying value, and as a result, the Company incurred a pre-tax impairment loss of $194 million, primarily related to the Ardian acquisition, that was recorded in acquisition-related items in the condensed consolidated statement of earnings. The annual goodwill impairment test performed in the third quarter of fiscal year 2014 included the projected future cash flows of Ardian, which resides in the Coronary reporting unit. See discussion below for additional information on impairments recorded on the Ardian long-lived asset group. Due to the nature of IPR&D projects, the Company may experience future delays or failures to obtain regulatory approvals to conduct clinical trials, failures of such clinical trials, delays or failures to obtain required market clearances or other failures to achieve a commercially viable product, and as a result, may record impairment losses in the future. The Company did not record any additional significant impairment of IPR&D during the three or nine months ended January 24, 2014.
The Company assesses intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an intangible asset (asset group) may not be recoverable. The aggregate carrying amount of intangible assets, excluding IPR&D, was $2.175 billion as of January 23, 2015 and $2.167 billion as of April 25, 2014. When events or changes in circumstances indicate that the carrying amount of an intangible asset may not be recoverable, the Company calculates the
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
excess of an intangible asset's carrying value over its undiscounted future cash flows. If the carrying value is not recoverable, an impairment loss is recorded based on the amount by which the carrying value exceeds the fair value. The inputs used in the fair value analysis fall within Level 3 of the fair value hierarchy due to the use of significant unobservable inputs to determine fair value. The Company did not record any significant intangible asset impairments during the three or nine months ended January 23, 2015. During the three months ended January 24, 2014, the Company determined that a change in events and circumstances indicated that the carrying amount of certain intangible assets, representing less than five percent of the total aggregate carrying amount of intangible assets, may not be fully recoverable. During the three months ended January 24, 2014, the carrying amount of Ardian intangible assets was less than the undiscounted future cash flows; therefore the Company assessed the fair value of the assets and recorded an impairment of $41 million that was included in acquisition-related items in the condensed consolidated statement of earnings. The Company did not record any additional significant impairment of intangible assets during the three or nine months ended January 24, 2014.
The Company assesses the impairment of property, plant, and equipment whenever events or changes in circumstances indicate that the carrying amount of property, plant, and equipment assets may not be recoverable. The Company did not record any significant impairments of property, plant, and equipment during the three months ended January 23, 2015. As part of the Company’s restructuring initiatives, the Company recorded property, plant, and equipment impairments of $9 million during the nine months ended January 23, 2015 in restructuring charges, net in the condensed consolidated statements of earnings. For further discussion of the restructuring initiatives refer to Note 5 to the condensed consolidated financial statements. During the three and nine months ended January 24, 2014, the Company determined that a change in events and circumstances indicated that the carrying amount of Ardian property, plant, and equipment may not be fully recoverable and recorded an impairment of $3 million that was recorded in acquisition-related items in the condensed consolidated statement of earnings. The Company did not record any additional significant impairment of property, plant, and equipment during the three or nine months ended January 23, 2015 or January 24, 2014.
Financial Instruments Not Measured at Fair Value
The estimated fair value of the Company’s long-term debt, including the short-term portion, as of January 23, 2015 was $30.320 billion compared to a principal value of $28.375 billion, and as of April 25, 2014 was $11.856 billion compared to a principal value of $11.375 billion. Fair value was estimated using quoted market prices for the publicly registered senior notes, classified as Level 1 within the fair value hierarchy. The fair values and principal values consider the terms of the related debt and exclude the impacts of debt discounts and derivative/hedging activity.
Note 8 – Financing Arrangements
Commercial Paper
As of January 23, 2015, the Company maintained a commercial paper program that allowed the Company to have a maximum of $2.250 billion in commercial paper outstanding, with maturities up to 364 days from the date of issuance. No commercial paper amounts were outstanding as of January 23, 2015 and April 25, 2014. During the three and nine months ended January 23, 2015, the weighted average original maturity of the commercial paper outstanding was approximately 67 days and 49 days, respectively, and the weighted average interest rate was 0.16 percent and 0.12 percent, respectively. The issuance of commercial paper reduced the amount of credit available under the Company’s existing Credit Facility, as defined below.
On January 26, 2015, Medtronic Global Holdings S.C.A., an entity organized under the laws of Luxembourg (Medtronic Luxco) entered into various agreements pursuant to which Medtronic Luxco may issue unsecured commercial paper notes (the 2015 Commercial Paper Program) on a private placement basis up to a maximum aggregate amount outstanding at any time of $3.500 billion. New Medtronic and the Company have guaranteed the obligations of Medtronic Luxco under the 2015 Commercial Paper Program. In connection with entry into the 2015 Commercial Paper Program, the Company and Covidien terminated their respective existing commercial paper programs.
Line of Credit
As of January 23, 2015, the Company had a $2.250 billion syndicated credit facility which was scheduled to expire on December 17, 2017 (Credit Facility) pursuant to a senior unsecured revolving credit agreement dated as of December 17, 2012, among Medtronic, the lenders from time to time party thereto, and Bank of America N.A., as administrative agent and issuing bank. The Credit Facility provided backup funding for the commercial paper program. As of January 23, 2015 and April 25, 2014, no amounts were outstanding on the committed Credit Facility.
Interest rates were determined by a pricing matrix, based on the Company’s long-term debt ratings, assigned by Standard & Poor’s Ratings Services and Moody’s Investors Service. Facility fees were payable on the Credit Facility and were determined
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(Unaudited)
in the same manner as the interest rates. The agreement also contains customary covenants, all of which the Company remained in compliance with as of January 23, 2015.
On January 26, 2015, the Company amended and restated its existing Credit Facility and entered into the Amended and Restated Credit Agreement ($3.500 billion Five Year Revolving Credit Facility) (the Amended and Restated Revolving Credit Agreement), by and among Medtronic, New Medtronic, Medtronic Luxco, the lenders from time to time party thereto and Bank of America, N.A., as administrative agent and issuing bank. Under the Amended and Restated Revolving Credit Agreement, the lenders party thereto will provide the Company and Medtronic Luxco with unsecured revolving credit commitments in an aggregate principal amount of up to $3.500 billion. The Company, Medtronic Luxco, and New Medtronic guarantee the obligations under the Amended and Restated Revolving Credit Agreement.
Other Credit Agreements
Term Loan Credit Agreement
On November 7, 2014, the Company entered into the three-year senior unsecured term loan credit agreement (the Term Loan Credit Agreement), among Medtronic, New Medtronic, Medtronic Luxco, the lenders from time to time party thereto and Bank of America, N.A., as administrative agent. Under the Term Loan Credit Agreement, the lenders party thereto have committed to provide the Company with unsecured term loan financing in an aggregate principal amount of up to $5.000 billion. On January 26, 2015, the Company borrowed $3.000 billion for a term of three years under the Term Loan Credit Agreement to finance, in part, the cash component of the Arrangement Consideration and certain transaction expenses. New Medtronic and Medtronic Luxco have guaranteed the obligations of the Company under the Term Loan Credit Agreement.
Termination of Existing Bridge Credit Agreement
In connection with its issuance of $17.000 billion of 2015 Senior Notes, as defined below, on December 10, 2014, the Company terminated the unsecured bridge commitments previously provided to it in an aggregate principal amount of $11.300 billion under the 364-day senior unsecured bridge credit agreement dated as of November 7, 2014.
Bank Borrowings
Bank borrowings consist primarily of borrowings at interest rates considered favorable by management and where natural hedges can be gained for foreign exchange purposes.
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Long-Term Debt
Long-term debt consisted of the following:
(in millions, except interest rates) | Maturity by Fiscal Year | Payable as of January 23, 2015 | Payable as of April 25, 2014 | |||||||
4.750 percent ten-year 2005 senior notes | 2016 | $ | — | $ | 600 | |||||
2.625 percent five-year 2011 senior notes | 2016 | 500 | 500 | |||||||
Floating rate three-year 2014 senior notes | 2017 | 250 | 250 | |||||||
0.875 percent three-year 2014 senior notes | 2017 | 250 | 250 | |||||||
1.500 percent three-year 2015 senior notes | 2018 | 1,000 | — | |||||||
1.375 percent five-year 2013 senior notes | 2018 | 1,000 | 1,000 | |||||||
5.600 percent ten-year 2009 senior notes | 2019 | 400 | 400 | |||||||
4.450 percent ten-year 2010 senior notes | 2020 | 1,250 | 1,250 | |||||||
2.500 percent five-year 2015 senior notes | 2020 | 2,500 | — | |||||||
Floating rate five-year 2015 senior notes | 2020 | 500 | — | |||||||
4.125 percent ten-year 2011 senior notes | 2021 | 500 | 500 | |||||||
3.125 percent ten-year 2012 senior notes | 2022 | 675 | 675 | |||||||
3.150 percent seven-year 2015 senior notes | 2022 | 2,500 | — | |||||||
2.750 percent ten-year 2013 senior notes | 2023 | 1,250 | 1,250 | |||||||
3.625 percent ten-year 2014 senior notes | 2024 | 850 | 850 | |||||||
3.500 percent ten-year 2015 senior notes | 2025 | 4,000 | — | |||||||
4.375 percent twenty-year 2015 senior notes | 2035 | 2,500 | — | |||||||
6.500 percent thirty-year 2009 senior notes | 2039 | 300 | 300 | |||||||
5.550 percent thirty-year 2010 senior notes | 2040 | 500 | 500 | |||||||
4.500 percent thirty-year 2012 senior notes | 2042 | 400 | 400 | |||||||
4.000 percent thirty-year 2013 senior notes | 2043 | 750 | 750 | |||||||
4.625 percent thirty-year 2014 senior notes | 2044 | 650 | 650 | |||||||
4.625 percent thirty-year 2015 senior notes | 2045 | 4,000 | — | |||||||
Interest rate swaps (Note 9) | 2016 - 2022 | 84 | 56 | |||||||
Deferred gains from interest rate swap terminations | - | 6 | 20 | |||||||
Capital lease obligations | 2016 - 2025 | 130 | 139 | |||||||
Discount | 2017 - 2045 | (104 | ) | (25 | ) | |||||
Total Long-Term Debt | $ | 26,641 | $ | 10,315 | ||||||
Senior Notes
The Company has outstanding unsecured senior obligations including those indicated as "senior notes" in the long-term debt table above (collectively, the Senior Notes). The Senior Notes rank equally with all other unsecured and unsubordinated indebtedness of the Company. The indentures under which the Senior Notes were issued contain customary covenants, all of which the Company remains in compliance with as of January 23, 2015. The Company used the net proceeds from the sale of the Senior Notes primarily for working capital and general corporate uses, which includes the repayment of other indebtedness of the Company. For additional information regarding the terms of these agreements, refer to Note 8 to the consolidated financial statements included in the Company’s Annual Report on Form 10-K for the year ended April 25, 2014.
On December 10, 2014, the Company issued seven tranches of Senior Notes (collectively the 2015 Senior Notes) with an aggregate face value of $17.000 billion, resulting in cash proceeds of approximately $16.8 billion, net of discounts and issuance costs. The first tranche consisted of $1.000 billion of 1.500 percent Senior Notes due 2018. The second tranche consisted of $2.500 billion of 2.500 percent Senior Notes due 2020. The third tranche consisted of $500 million of floating rate Senior Notes due 2020 (the 2020 floating rate notes). The 2020 floating rate notes bear interest at the three-month London InterBank Offered Rate (LIBOR) plus 80 basis points. The fourth tranche consisted of $2.500 billion of 3.150 percent Senior Notes due 2022. The fifth tranche consisted of $4.000 billion of 3.500 percent Senior Notes due 2025. The sixth tranche consisted of $2.500 billion
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
of 4.375 percent Senior Notes due 2035. The seventh tranche consisted of $4.000 billion of 4.625 percent Senior Notes due 2045. Interest on the 2020 floating rate notes is payable quarterly and interest on each series of the fixed rate notes is payable semi-annually. The Company used the combined proceeds from the 2015 Senior Notes and the $3.000 billion borrowed for a term of three years under the Term Loan Credit Agreement to fund the approximately $16 billion cash consideration portion of the January 26, 2015 estimated $50 billion acquisition of Covidien, to pay certain transaction and financing expenses, and for working capital and general corporate purposes, which may include repayment of indebtedness.
For further information regarding the subsequent acquisition of Covidien, see Note 3 to the condensed consolidated financial statements.
Note 9 – Derivatives and Foreign Exchange Risk Management
The Company uses operational and economic hedges, as well as currency exchange rate derivative contracts and interest rate derivative instruments to manage the impact of currency exchange and interest rate changes on earnings and cash flows. In order to minimize earnings and cash flow volatility resulting from currency exchange rate changes, the Company enters into derivative instruments, principally forward currency exchange rate contracts. These contracts are designed to hedge anticipated foreign currency transactions and changes in the value of specific assets and liabilities. At inception of the forward contract, the derivative is designated as either a freestanding derivative or a cash flow hedge. The primary currencies of the derivative instruments are the Euro and Japanese Yen. The Company does not enter into currency exchange rate derivative contracts for speculative purposes. The gross notional amount of all currency exchange rate derivative instruments outstanding at January 23, 2015 and April 25, 2014 was $6.121 billion and $8.051 billion, respectively. The aggregate currency exchange rate gains for the three and nine months ended January 23, 2015 were $27 million and $29 million, respectively. The aggregate currency exchange rate gains for the three months ended January 24, 2014 were not significant and for the nine months ended January 24, 2014 were $3 million. These gains represent the net impact to the condensed consolidated statements of earnings for the exchange rate derivative instruments presented below, as well as the remeasurement gains on foreign currency denominated assets and liabilities.
The information that follows explains the various types of derivatives and financial instruments used by the Company, how and why the Company uses such instruments, how such instruments are accounted for, and how such instruments impact the Company’s condensed consolidated balance sheets, statements of earnings, and statements of cash flows.
Freestanding Derivative Forward Contracts
Freestanding derivative forward contracts are used to offset the Company’s exposure to the change in value of specific foreign currency denominated assets and liabilities. These derivatives are not designated as hedges, and therefore, changes in the value of these forward contracts are recognized in earnings, thereby offsetting the current earnings effect of the related change in value of foreign currency denominated assets and liabilities. The cash flows from these contracts are reported as operating activities in the condensed consolidated statements of cash flows. The gross notional amount of these contracts, not designated as hedging instruments, outstanding at January 23, 2015 and April 25, 2014, was $1.714 billion and $2.202 billion, respectively.
The amount and location of the gains (losses) in the condensed consolidated statements of earnings related to derivative instruments, not designated as hedging instruments, for the three and nine months ended January 23, 2015 and January 24, 2014 are as follows:
(in millions) | Three months ended | |||||||||
Derivatives Not Designated as Hedging Instruments | Location | January 23, 2015 | January 24, 2014 | |||||||
Foreign currency exchange rate contracts | Other expense, net | $ | 153 | $ | 75 | |||||
(in millions) | Nine months ended | |||||||||
Derivatives Not Designated as Hedging Instruments | Location | January 23, 2015 | January 24, 2014 | |||||||
Foreign currency exchange rate contracts | Other expense, net | $ | 202 | $ | 58 | |||||
Cash Flow Hedges
Foreign Currency Exchange Rate Risk
Forward contracts designated as cash flow hedges are designed to hedge the variability of cash flows associated with forecasted transactions denominated in a foreign currency that will take place in the future. For derivative instruments that are designated and qualify as a cash flow hedge, the effective portion of the gain or loss on the derivative is reported as a component of accumulated other comprehensive loss and reclassified into earnings in the same period or periods during which the hedged
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
transaction affects earnings. No gains or losses relating to ineffectiveness of cash flow hedges were recognized in earnings during the three or nine months ended January 23, 2015 or January 24, 2014. No components of the hedge contracts were excluded in the measurement of hedge ineffectiveness and no hedges were derecognized or discontinued during the three or nine months ended January 23, 2015 or January 24, 2014. The cash flows from these contracts are reported as operating activities in the condensed consolidated statements of cash flows. The gross notional amount of these contracts, designated as cash flow hedges, outstanding at January 23, 2015 and April 25, 2014, was $4.407 billion and $5.849 billion, respectively, and will mature within the subsequent two and three-year period, respectively.
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The amount of gains (losses) and location of the gains (losses) in the condensed consolidated statements of earnings and other comprehensive income (OCI) related to foreign currency exchange rate contract derivative instruments designated as cash flow hedges for the three and nine months ended January 23, 2015 and January 24, 2014 are as follows:
Three months ended January 23, 2015 | ||||||||||
Gross Gains (Losses) Recognized in OCI on Effective Portion of Derivative | Effective Portion of Gains (Losses) on Derivative Reclassified from AOCI into Income | |||||||||
(in millions) | ||||||||||
Derivatives in Cash Flow Hedging Relationships | Amount | Location | Amount | |||||||
Foreign currency exchange rate contracts | $ | 265 | Other expense, net | $ | 65 | |||||
Cost of products sold | (27 | ) | ||||||||
Total | $ | 265 | $ | 38 | ||||||
Three months ended January 24, 2014 | ||||||||||
Gross Gains (Losses) Recognized in OCI on Effective Portion of Derivative | Effective Portion of Gains (Losses) on Derivative Reclassified from AOCI into Income | |||||||||
(in millions) | ||||||||||
Derivatives in Cash Flow Hedging Relationships | Amount | Location | Amount | |||||||
Foreign currency exchange rate contracts | $ | 80 | Other expense, net | $ | 16 | |||||
Cost of products sold | (4 | ) | ||||||||
Total | $ | 80 | $ | 12 | ||||||
Nine months ended January 23, 2015 | ||||||||||
Gross Gains (Losses) Recognized in OCI on Effective Portion of Derivative | Effective Portion of Gains (Losses) on Derivative Reclassified from AOCI into Income | |||||||||
(in millions) | ||||||||||
Derivatives in Cash Flow Hedging Relationships | Amount | Location | Amount | |||||||
Foreign currency exchange rate contracts | $ | 556 | Other expense, net | $ | 86 | |||||
Cost of products sold | (28 | ) | ||||||||
Total | $ | 556 | $ | 58 | ||||||
Nine months ended January 24, 2014 | ||||||||||
Gross Gains (Losses) Recognized in OCI on Effective Portion of Derivative | Effective Portion of Gains (Losses) on Derivative Reclassified from AOCI into Income | |||||||||
(in millions) | ||||||||||
Derivatives in Cash Flow Hedging Relationships | Amount | Location | Amount | |||||||
Foreign currency exchange rate contracts | $ | (74 | ) | Other expense, net | $ | 71 | ||||
Cost of products sold | (33 | ) | ||||||||
Total | $ | |||||||||