MERCK & CO., INC., 10-Q filed on 8/5/2020
Quarterly Report
v3.20.2
Cover Page - shares
6 Months Ended
Jun. 30, 2020
Jul. 31, 2020
Entity Information [Line Items]    
Document Type 10-Q  
Document Quarterly Report true  
Document Period End Date Jun. 30, 2020  
Document Transition Report false  
Entity File Number 1-6571  
Entity Registrant Name Merck & Co., Inc.  
Entity Incorporation, State or Country Code NJ  
Entity Tax Identification Number 22-1918501  
Entity Address, Address Line One 2000 Galloping Hill Road  
Entity Address, City or Town Kenilworth  
Entity Address, State or Province NJ  
Entity Address, Postal Zip Code 07033  
City Area Code (908)  
Local Phone Number 740-4000  
Entity Current Reporting Status Yes  
Entity Interactive Data Current Yes  
Entity Filer Category Large Accelerated Filer  
Entity Small Business false  
Entity Emerging Growth Company false  
Entity Shell Company false  
Entity Common Stock, Shares Outstanding   2,529,241,070
Amendment Flag false  
Document Fiscal Year Focus 2020  
Document Fiscal Period Focus Q2  
Entity Central Index Key 0000310158  
Current Fiscal Year End Date --12-31  
Common Stock    
Entity Information [Line Items]    
Title of 12(b) Security Common Stock ($0.50 par value)  
Trading Symbol MRK  
Security Exchange Name NYSE  
1.125% Notes due 2021    
Entity Information [Line Items]    
Title of 12(b) Security 1.125% Notes due 2021  
Trading Symbol MRK/21  
Security Exchange Name NYSE  
0.500% Notes due 2024    
Entity Information [Line Items]    
Title of 12(b) Security 0.500% Notes due 2024  
Trading Symbol MRK 24  
Security Exchange Name NYSE  
1.875% Notes due 2026    
Entity Information [Line Items]    
Title of 12(b) Security 1.875% Notes due 2026  
Trading Symbol MRK/26  
Security Exchange Name NYSE  
2.500% Notes due 2034    
Entity Information [Line Items]    
Title of 12(b) Security 2.500% Notes due 2034  
Trading Symbol MRK/34  
Security Exchange Name NYSE  
1.375% Notes due 2036    
Entity Information [Line Items]    
Title of 12(b) Security 1.375% Notes due 2036  
Trading Symbol MRK 36A  
Security Exchange Name NYSE  
v3.20.2
CONDENSED CONSOLIDATED STATEMENT OF INCOME - USD ($)
$ in Millions
3 Months Ended 6 Months Ended
Jun. 30, 2020
Jun. 30, 2019
Jun. 30, 2020
Jun. 30, 2019
Income Statement [Abstract]        
Sales $ 10,872 $ 11,760 $ 22,929 $ 22,575
Costs, Expenses and Other        
Cost of sales 3,159 3,401 6,471 6,453
Selling, general and administrative 2,378 2,712 4,933 5,138
Research and development 2,123 2,189 4,331 4,119
Restructuring costs 83 59 155 212
Other (income) expense, net (390) 140 (318) 327
Total Costs, Expenses and Other 7,353 8,501 15,572 16,249
Income Before Taxes 3,519 3,259 7,357 6,326
Taxes on Income 509 615 1,128 820
Net Income 3,010 2,644 6,229 5,506
Less: Net Income (Loss) Attributable to Noncontrolling Interests 8 (26) 8 (79)
Net Income Attributable to Merck & Co., Inc. $ 3,002 $ 2,670 $ 6,221 $ 5,585
Basic Earnings per Common Share Attributable to Merck & Co., Inc. Common Shareholders (in dollars per share) $ 1.19 $ 1.04 $ 2.46 $ 2.17
Earnings per Common Share Assuming Dilution Attributable to Merck & Co., Inc. Common Shareholders (in dollars per share) $ 1.18 $ 1.03 $ 2.45 $ 2.15
v3.20.2
CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME - USD ($)
$ in Millions
3 Months Ended 6 Months Ended
Jun. 30, 2020
Jun. 30, 2019
Jun. 30, 2020
Jun. 30, 2019
Statement of Comprehensive Income [Abstract]        
Net Income Attributable to Merck & Co., Inc. $ 3,002 $ 2,670 $ 6,221 $ 5,585
Other Comprehensive (Loss) Income Net of Taxes:        
Net unrealized loss on derivatives, net of reclassifications (120) (52) (16) (100)
Net unrealized gain (loss) on investments, net of reclassifications 0 44 (18) 126
Benefit plan net gain and prior service credit, net of amortization 39 11 99 26
Cumulative translation adjustment 79 (19) (265) 131
Other comprehensive income (loss), net of taxes (2) (16) (200) 183
Comprehensive Income Attributable to Merck & Co., Inc. $ 3,000 $ 2,654 $ 6,021 $ 5,768
v3.20.2
CONDENSED CONSOLIDATED BALANCE SHEET - USD ($)
$ in Millions
Jun. 30, 2020
Dec. 31, 2019
Current Assets    
Cash and cash equivalents $ 11,103 $ 9,676
Short-term investments 0 774
Accounts receivable (net of allowance for doubtful accounts of $90 in 2020 and $86 in 2019) 7,577 6,778
Inventories (excludes inventories of $1,921 in 2020 and $1,480 in 2019 classified in Other assets - see Note 6) 6,056 5,978
Other current assets 4,607 4,277
Total current assets 29,343 27,483
Investments 1,251 1,469
Property, Plant and Equipment, at cost, net of accumulated depreciation of $18,182 in 2020 and $17,686 in 2019 15,789 15,053
Goodwill 20,067 19,425
Other Intangibles, Net 16,566 14,196
Other Assets 7,599 6,771
Total Assets 90,615 84,397
Current Liabilities    
Loans payable and current portion of long-term debt 4,718 3,610
Trade accounts payable 3,448 3,738
Accrued and other current liabilities 11,182 12,549
Income taxes payable 1,266 736
Dividends payable 1,564 1,587
Total current liabilities 22,178 22,220
Long-Term Debt 26,156 22,736
Deferred Income Taxes 2,091 1,470
Other Noncurrent Liabilities 12,446 11,970
Merck & Co., Inc. Stockholders’ Equity    
Common stock, $0.50 par value Authorized - 6,500,000,000 shares Issued - 3,577,103,522 shares in 2020 and 2019 1,788 1,788
Other paid-in capital 39,373 39,660
Retained earnings 49,724 46,602
Accumulated other comprehensive loss (6,393) (6,193)
Stockholders' equity before deduction for treasury stock 84,492 81,857
Less treasury stock, at cost: 1,047,935,095 shares in 2020 and 1,038,087,496 shares in 2019 56,850 55,950
Total Merck & Co., Inc. stockholders’ equity 27,642 25,907
Noncontrolling Interests 102 94
Total equity 27,744 26,001
Liabilities and Equity $ 90,615 $ 84,397
v3.20.2
CONDENSED CONSOLIDATED BALANCE SHEET (Parenthetical) - USD ($)
$ in Millions
Jun. 30, 2020
Dec. 31, 2019
Statement of Financial Position [Abstract]    
Allowance for doubtful accounts $ 90 $ 86
Inventories classified in Other assets 1,921 1,480
Accumulated depreciation $ 18,182 $ 17,686
Common stock, par value (in dollars per share) $ 0.50 $ 0.50
Common stock, shares authorized (shares) 6,500,000,000 6,500,000,000
Common stock, shares issued (in shares) 3,577,103,522 3,577,103,522
Treasury stock, shares (shares) 1,047,935,095 1,038,087,496
v3.20.2
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS - USD ($)
$ in Millions
6 Months Ended
Jun. 30, 2020
Jun. 30, 2019
Cash Flows from Operating Activities    
Net income $ 6,229 $ 5,506
Adjustments to reconcile net income to net cash provided by operating activities:    
Depreciation and amortization 1,869 1,871
Intangible asset impairment charges 20 252
Deferred income taxes 122 (149)
Share-based compensation 229 204
Other (202) 114
Net changes in assets and liabilities (4,193) (3,378)
Net Cash Provided by Operating Activities 4,074 4,420
Cash Flows from Investing Activities    
Capital expenditures (1,654) (1,377)
Purchases of securities and other investments (77) (1,810)
Proceeds from sales of securities and other investments 1,892 4,935
Acquisition of ArQule, Inc., net of cash acquired (2,545) 0
Acquisition of Antelliq Corporation, net of cash acquired 0 (3,620)
Other acquisitions, net of cash acquired (321) (270)
Other 195 85
Net Cash Used in Investing Activities (2,510) (2,057)
Cash Flows from Financing Activities    
Net change in short-term borrowings 1,967 (3,532)
Payments on debt (1,952) 0
Proceeds from issuance of debt 4,445 4,958
Purchases of treasury stock (1,281) (2,325)
Dividends paid to stockholders (3,128) (2,896)
Proceeds from exercise of stock options 40 304
Other (444) (207)
Net Cash Used in Financing Activities (353) (3,698)
Effect of Exchange Rate Changes on Cash, Cash Equivalents and Restricted Cash 2 28
Net Increase (Decrease) in Cash, Cash Equivalents and Restricted Cash 1,213 (1,307)
Cash, Cash Equivalents and Restricted Cash at Beginning of Year (includes restricted cash of $258 million at January 1, 2020 included in Other Assets) 9,934 7,967
Cash, Cash Equivalents and Restricted Cash at End of Period (includes restricted cash of $44 million at June 30, 2020 included in Other Assets) $ 11,147 $ 6,660
v3.20.2
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (Parenthetical) - USD ($)
$ in Millions
Jun. 30, 2020
Dec. 31, 2019
Statement of Cash Flows [Abstract]    
Restricted cash $ 44 $ 258
v3.20.2
Basis of Presentation
6 Months Ended
Jun. 30, 2020
Organization, Consolidation and Presentation of Financial Statements [Abstract]  
Basis of Presentation
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of Merck & Co., Inc. (Merck or the Company) have been prepared pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly, certain information and disclosures required by accounting principles generally accepted in the United States (GAAP) for complete consolidated financial statements are not included herein. These interim statements should be read in conjunction with the audited financial statements and notes thereto included in Merck’s Form 10-K filed on February 26, 2020.
The results of operations of any interim period are not necessarily indicative of the results of operations for the full year. In the Company’s opinion, all adjustments necessary for a fair statement of these interim statements have been included and are of a normal and recurring nature.
Planned Spin-Off of Women’s Health, Legacy Brands and Biosimilars into New Company
In February 2020, Merck announced its intention to spin-off products from its women’s health, legacy brands and biosimilars businesses into a new, independent, publicly traded company named Organon & Co. (Organon) through a distribution of Organon’s publicly traded stock to Company shareholders. The distribution is expected to qualify as tax-free to the Company and its shareholders for U.S. federal income tax purposes. The legacy brands included in the transaction consist of dermatology, non-opioid pain, respiratory, and select cardiovascular products including Zetia (ezetimibe) and Vytorin (ezetimibe and simvastatin), as well as the rest of Merck’s diversified brands franchise. Merck’s existing research pipeline programs will continue to be owned and developed within Merck as planned. Organon will have development capabilities initially focused on late-stage development and life-cycle management and is expected over time to develop research capabilities in selected therapeutic areas. The spin-off is expected to be completed in the first half of 2021, subject to market and certain other conditions. Subsequent to the spin-off, the historical results of the women’s health, legacy brands and biosimilars businesses will be reflected as discontinued operations in the Company’s consolidated financial statements.
Recently Adopted Accounting Standards
In June 2016, the Financial Accounting Standards Board (FASB) issued new guidance on the accounting for credit losses on financial instruments. The new guidance introduces an expected loss model for estimating credit losses, replacing the incurred loss model. The new guidance also changes the impairment model for available-for-sale debt securities, requiring the use of an allowance to record estimated credit losses (and subsequent recoveries). The Company adopted the new guidance effective January 1, 2020. There was no impact to the Company’s consolidated financial statements upon adoption.
In November 2018, the FASB issued new guidance for collaborative arrangements intended to reduce diversity in practice by clarifying whether certain transactions between collaborative arrangement participants should be accounted for under revenue recognition guidance (ASC 606). The Company adopted the new guidance effective January 1, 2020, which resulted in minor changes to the presentation of information related to the Company’s collaborative arrangements.
Recently Issued Accounting Standards Not Yet Adopted
In December 2019, the FASB issued amended guidance on the accounting and reporting of income taxes. The guidance is intended to simplify the accounting for income taxes by removing exceptions related to certain intraperiod tax allocations and deferred tax liabilities; clarifying guidance primarily related to evaluating the step-up tax basis for goodwill in a business combination; and reflecting enacted changes in tax laws or rates in the annual effective tax rate. The amended guidance is effective for interim and annual periods in 2021. Early adoption is permitted. The amendments in the new guidance are to be applied on a retrospective basis, on a modified retrospective basis through a cumulative-effect adjustment to retained earnings or prospectively, depending on the amendment. The Company is currently evaluating the impact of adoption on its consolidated financial statements.
In January 2020, the FASB issued new guidance intended to clarify certain interactions between accounting standards related to equity securities, equity method investments and certain derivatives. The guidance addresses accounting for the transition into and out of the equity method of accounting and measuring certain purchased options and forward contracts to acquire investments. The new guidance is effective for interim and annual periods in 2021 and is to be applied prospectively. Early adoption is permitted. The Company is currently evaluating the impact of adoption on its consolidated financial statements.
In March 2020, the FASB issued optional guidance to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting. The guidance provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform. The optional guidance is effective upon issuance and can be applied on a prospective basis at any time between January 1, 2020 through December 31, 2022. The Company is currently evaluating the impact of adoption on its consolidated financial statements.
v3.20.2
Acquisitions, Research Collaborations and License Agreements
6 Months Ended
Jun. 30, 2020
Business Combinations [Abstract]  
Acquisitions, Research Collaborations and License Agreements
Acquisitions, Research Collaborations and License Agreements
The Company continues to pursue acquisitions and the establishment of external alliances such as research collaborations and licensing agreements to complement its internal research capabilities. These arrangements often include upfront payments, as well as expense reimbursements or payments to the third party, and milestone, royalty or profit share arrangements, contingent upon the occurrence of certain future events linked to the success of the asset in development. The Company also reviews its marketed products and pipeline to examine candidates which may provide more value through out-licensing and, as part of its portfolio assessment process, may also divest certain assets. Pro forma financial information for acquired businesses is not presented if the historical financial results of the acquired entity are not significant when compared with the Company’s financial results.
In July 2020, Merck acquired the U.S. rights to Sentinel Flavor Tabs and Sentinel Spectrum Chews from Virbac Corporation for approximately $400 million. Sentinel products provide protection against common parasites in dogs. The transaction will be accounted for as an acquisition of an asset. There are no future contingent payments associated with the acquisition.
Also, in July 2020, Merck and Ridgeback Biotherapeutics LP (Ridgeback Bio), a closely held biotechnology company, closed a collaboration agreement to develop MK-4482 (formerly known as EIDD-2801), an orally available antiviral candidate currently in clinical development for the treatment of patients with COVID-19. Merck gained exclusive worldwide rights to develop and commercialize MK-4482 and related molecules. Under the terms of the agreement, Ridgeback Bio received an upfront payment and also is eligible to receive future contingent payments dependent upon the achievement of certain developmental and regulatory approval milestones, as well as a share of the net profits of MK-4482 and related molecules, if approved. Merck and Ridgeback are committed to ensure that any medicines developed for SARS-CoV-2 (the causative agent of COVID-19) will be accessible and affordable globally.
In June 2020, Merck acquired privately held Themis Bioscience GmbH (Themis), a company focused on vaccines and immune-modulation therapies for infectious diseases and cancer for $366 million in cash. Merck may make additional contingent payments of up to $740 million, including up to $80 million for development milestones, up to $260 million for regulatory approval milestones, and up to $400 million for commercial milestones. Themis has a broad pipeline of vaccine candidates and immune-modulatory therapies developed using its innovative measles virus vector platform based on a vector originally developed by scientists at the Institut Pasteur and licensed exclusively to Themis for select viral indications. The acquisition builds upon an ongoing collaboration between the two companies to develop vaccine candidates using the measles virus vector platform and is expected to accelerate the development of Themis’ COVID-19 vaccine candidate (V591). V591 is in preclinical development and clinical studies are planned to start in the third quarter of 2020. The transaction was accounted for as an acquisition of a business. The Company determined the fair value of the contingent consideration was $97 million at the acquisition date utilizing a probability-weighted estimated cash flow stream using an appropriate discount rate dependent on the nature and timing of the milestone payment. Merck recognized intangible assets for in-process research and development (IPR&D) of $136 million, cash of $62 million, deferred tax assets of $72 million and other net liabilities of $22 million. The excess of the consideration transferred over the fair value of net assets acquired of $215 million was recorded as goodwill that was allocated to the Pharmaceutical segment and is not deductible for tax purposes. The fair values of the identifiable intangible assets related to IPR&D were determined using an income approach. Actual cash flows are likely to be different than those assumed. In connection with the transaction, Merck has entered into a memorandum of understanding that reflects the parties’ commitments to address the COVID-19 pandemic by developing, manufacturing and distributing the vaccine on a global basis and with pricing that makes the vaccine both available around the world and accessible to those who need it.
In May 2020, Merck and the International AIDS Vaccine Initiative, Inc. (IAVI), a nonprofit scientific research organization dedicated to addressing urgent, unmet global health challenges, announced a new collaboration to develop V590, an investigational vaccine against SARS-CoV-2 being studied for the prevention of COVID-19. This vaccine candidate will use the recombinant vesicular stomatitis virus (rVSV) technology that is the basis for Merck’s approved Ebola Zaire virus vaccine, Ervebo (Ebola Zaire Vaccine, Live), which was the first rVSV vaccine approved for use in humans. Under the terms of the agreement, Merck made an upfront payment of $6.5 million and may make additional contingent payments of up to $100 million for sales-based milestones, as well as royalty payments. Merck has also signed an agreement with the Biomedical Advanced Research and Development Authority (BARDA), part of the office of the Assistant Secretary for Preparedness and Response within an agency of the United States Department of Health and Human Services, to provide initial funding support for this effort. Under the agreement, IAVI and Merck will work together to advance the development and global clinical evaluation of a SARS-CoV-2 vaccine candidate designed and engineered by IAVI scientists. The vaccine candidate is in preclinical development, and clinical studies are planned to start later in 2020. Merck will lead regulatory filings globally. Both organizations will work together to develop the vaccine and make it accessible and affordable globally, if approved.
In January 2020, Merck acquired ArQule, Inc. (ArQule), a publicly traded biopharmaceutical company focused on kinase inhibitor discovery and development for the treatment of patients with cancer and other diseases. Total consideration paid of $2.7 billion included $138 million of share-based compensation payments to settle equity awards attributable to precombination
service and cash paid for transaction costs on behalf of ArQule. The Company incurred $95 million of transaction costs directly related to the acquisition of ArQule, consisting almost entirely of share-based compensation payments to settle non-vested equity awards attributable to postcombination service. These costs were included in Selling, general and administrative expenses in the first six months of 2020. ArQule’s lead investigational candidate, MK-1026 (formerly ARQ 531), is a novel, oral Bruton’s tyrosine kinase (BTK) inhibitor currently being evaluated for the treatment of B-cell malignancies.
The estimated fair value of assets acquired and liabilities assumed from ArQule is as follows:
 
 
($ in millions)
January 16, 2020
Cash and cash equivalents
$
145

IPR&D MK-1026 (formerly ARQ 531) (1)
2,280

IPR&D MK-7075 (formerly ARQ 092) (1)
170

Licensing arrangement for ARQ 087
80

Deferred income tax liabilities
(434
)
Other assets and liabilities, net
35

Total identifiable net assets
2,276

Goodwill (2)
414

Consideration transferred
$
2,690

(1) 
The estimated fair values of the identifiable intangible assets related to in-process research and development (IPR&D) were determined using an income approach. The future net cash flows were discounted to present value utilizing a discount rate of 12.5%. Actual cash flows are likely to be different than those assumed.
(2) 
The goodwill was allocated to the Pharmaceutical segment and is not deductible for tax purposes.
On April 1, 2019, Merck acquired Antelliq Corporation (Antelliq), a leader in digital animal identification, traceability and monitoring solutions. These solutions help veterinarians, farmers and pet owners gather critical data to improve management, health and well-being of livestock and pets. Merck paid $2.3 billion to acquire all outstanding shares of Antelliq and spent $1.3 billion to repay Antelliq’s debt. The transaction was accounted for as an acquisition of a business.
The estimated fair value of assets acquired and liabilities assumed from Antelliq is as follows:
 
 
($ in millions)
April 1, 2019
Cash and cash equivalents
$
31

Accounts receivable
73

Inventories
93

Property, plant and equipment
60

Identifiable intangible assets (useful lives ranging from 18-24 years) (1)
2,689

Deferred income tax liabilities
(589
)
Other assets and liabilities, net
(82
)
Total identifiable net assets
2,275

Goodwill (2)
1,376

Consideration transferred
$
3,651


(1) 
The estimated fair values of identifiable intangible assets relate primarily to trade names and were determined using an income approach. The future net cash flows were discounted to present value utilizing a discount rate of 11.5%. Actual cash flows are likely to be different than those assumed.
(2) 
The goodwill recognized is largely attributable to anticipated synergies expected to arise after the acquisition and was allocated to the Animal Health segment. The goodwill is not deductible for tax purposes.

The Company’s results for the second quarter of 2019 include two months of activity for Antelliq. The Company incurred $47 million of transaction costs directly related to the acquisition of Antelliq, consisting largely of advisory fees, which are reflected in Selling, general and administrative expenses in the first six months of 2019.
Also in April 2019, Merck acquired Immune Design, a late-stage immunotherapy company employing next-generation in vivo approaches to enable the body’s immune system to fight disease, for $301 million in cash. The transaction was accounted for as an acquisition of a business. Merck recognized intangible assets of $156 million, cash of $83 million and other net assets of $42 million. The excess of the consideration transferred over the fair value of net assets acquired of $20 million was recorded as goodwill that was allocated to the Pharmaceutical segment and is not deductible for tax purposes. The fair values of
the identifiable intangible assets related to IPR&D were determined using an income approach. Actual cash flows are likely to be different than those assumed.
v3.20.2
Collaborative Arrangements
6 Months Ended
Jun. 30, 2020
Collaborative Arrangements [Abstract]  
Collaborative Arrangements Collaborative Arrangements
Merck has entered into collaborative arrangements that provide the Company with varying rights to develop, produce and market products together with its collaborative partners. Both parties in these arrangements are active participants and exposed to significant risks and rewards dependent on the commercial success of the activities of the collaboration. Merck’s more significant collaborative arrangements are discussed below.
AstraZeneca
In July 2017, Merck and AstraZeneca PLC (AstraZeneca) entered into a global strategic oncology collaboration to co-develop and co-commercialize AstraZeneca’s Lynparza (olaparib) for multiple cancer types. Lynparza is an oral poly (ADP-ribose) polymerase (PARP) inhibitor currently approved for certain types of advanced ovarian, breast, pancreatic and prostate cancers. The companies are jointly developing and commercializing Lynparza, both as monotherapy and in combination trials with other potential medicines. Independently, Merck and AstraZeneca will develop and commercialize Lynparza in combinations with their respective PD-1 and PD-L1 medicines, Keytruda (pembrolizumab) and Imfinzi. The companies will also jointly develop and commercialize AstraZeneca’s Koselugo (selumetinib), an oral, selective inhibitor of MEK, part of the mitogen-activated protein kinase (MAPK) pathway, currently being developed for multiple indications. In April 2020, Koselugo was approved by the U.S. Food and Drug Administration (FDA) for the treatment of pediatric patients two years of age and older with neurofibromatosis type 1 who have symptomatic, inoperable plexiform neurofibromas. Under the terms of the agreement, AstraZeneca and Merck will share the development and commercialization costs for Lynparza and Koselugo monotherapy and non-PD-L1/PD-1 combination therapy opportunities.
Profits from Lynparza and Koselugo product sales generated through monotherapies or combination therapies are shared equally. Merck will fund all development and commercialization costs of Keytruda in combination with Lynparza or Koselugo. AstraZeneca will fund all development and commercialization costs of Imfinzi in combination with Lynparza or Koselugo. AstraZeneca is the principal on Lynparza and Koselugo sales transactions. Merck records its share of Lynparza and Koselugo product sales, net of cost of sales and commercialization costs, as alliance revenue and its share of development costs associated with the collaboration as part of Research and development expenses. Reimbursements received from AstraZeneca for research and development expenses are recognized as reductions to Research and development costs.
As part of the agreement, Merck made an upfront payment to AstraZeneca of $1.6 billion in 2017 and made payments of $750 million over a multi-year period for certain license options. In addition, the agreement provides for additional contingent payments from Merck to AstraZeneca related to the successful achievement of sales-based and regulatory milestones.
In the second quarter of 2020, Merck determined it was probable that sales of Lynparza in the future would trigger $400 million of sales-based milestone payments from Merck to AstraZeneca. Accordingly, Merck recorded a $400 million liability and a corresponding increase to the intangible asset related to Lynparza. Prior to 2020, Merck accrued sales-based milestone payments aggregating $1.0 billion related to Lynparza, of which $200 million and $250 million was paid to AstraZeneca in 2019 and 2018, respectively, and $250 million was paid in the first six months of 2020. Potential future sales-based milestone payments of $2.7 billion have not yet been accrued as they are not deemed by the Company to be probable at this time.
In the second quarter of 2020, Lynparza received regulatory approvals triggering capitalized milestone payments of $135 million from Merck to AstraZeneca. In 2019 and 2018, Lynparza received regulatory approvals triggering capitalized milestone payments of $60 million and $140 million, respectively, in the aggregate from Merck to AstraZeneca. Potential future regulatory milestone payments of $1.4 billion remain under the agreement.
The intangible asset balance related to Lynparza (which includes capitalized sales-based and regulatory milestone payments) was $1.3 billion at June 30, 2020 and is included in Other Intangibles, Net on the Consolidated Balance Sheet. The amount is being amortized over its estimated useful life through 2028 as supported by projected future cash flows, subject to impairment testing.
Summarized financial information related to this collaboration is as follows:
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
($ in millions)
2020
 
2019
 
2020
 
2019
Alliance revenue - Lynparza
$
178

 
$
111

 
$
323

 
$
190

 
 
 
 
 
 
 
 
Cost of sales (1)
137

 
73

 
164

 
92

Selling, general and administrative
39

 
33

 
72

 
59

Research and development
37

 
33

 
73

 
78

 
 
 
 
 
 
 
 
($ in millions)
 
 
 
 
June 30, 2020
 
December 31, 2019
Receivables from AstraZeneca included in Other current assets
 
 
 
 
$
168

 
$
128

Payables to AstraZeneca included in Accrued and other current liabilities (2)
 
 
 
 
324

 
577

Payables to AstraZeneca included in Other Noncurrent Liabilities (2)
 
 
 
 
400

 

(1) Represents amortization of capitalized milestone payments.
(2) Includes accrued milestone payments.
Eisai
In March 2018, Merck and Eisai Co., Ltd. (Eisai) announced a strategic collaboration for the worldwide co-development and co-commercialization of Lenvima (lenvatinib), an orally available tyrosine kinase inhibitor discovered by Eisai. Lenvima is currently approved for the treatment of certain types of thyroid cancer, hepatocellular carcinoma, in combination with everolimus for certain patients with renal cell carcinoma, and in combination with Keytruda for the treatment of certain patients with endometrial carcinoma. Under the agreement, Merck and Eisai will develop and commercialize Lenvima jointly, both as monotherapy and in combination with Keytruda. Eisai records Lenvima product sales globally (Eisai is the principal on Lenvima sales transactions), and Merck and Eisai share profits equally. Merck records its share of Lenvima product sales, net of cost of sales and commercialization costs, as alliance revenue. Expenses incurred during co-development, including for studies evaluating Lenvima as monotherapy, are shared equally by the two companies and reflected in Research and development expenses.
Under the agreement, Merck made an upfront payment to Eisai of $750 million and agreed to make payments of up to $650 million for certain option rights through 2021 (of which $325 million was paid in March 2019, $200 million was paid in March 2020 and $125 million is expected to be paid in March 2021). In addition, the agreement provides for additional contingent payments from Merck to Eisai related to the successful achievement of sales-based and regulatory milestones.
In the second quarter of 2020, Merck determined it was probable that sales of Lenvima in the future would trigger sales-based milestone payments aggregating $370 million from Merck to Eisai. Accordingly, Merck recorded a $370 million liability and a corresponding increase to the intangible asset related to Lenvima. Prior to 2020, Merck accrued sales-based milestone payments aggregating $950 million. Of these amounts, $50 million was paid to Eisai in 2019 and an additional $500 million was paid in the first six months of 2020. Potential future sales-based milestone payments of $2.7 billion have not yet been accrued as they are not deemed by the Company to be probable at this time.
In 2018, Lenvima received regulatory approvals triggering capitalized milestone payments of $250 million in the aggregate from Merck to Eisai. Potential future regulatory milestone payments of $135 million remain under the agreement.
The intangible asset balance related to Lenvima (which includes capitalized sales-based and regulatory milestone payments) was $1.2 billion at June 30, 2020 and is included in Other Intangibles, Net on the Consolidated Balance Sheet. The amount is being amortized over its estimated useful life through 2026 as supported by projected future cash flows, subject to impairment testing.
Summarized financial information related to this collaboration is as follows:
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
($ in millions)
2020
 
2019
 
2020
 
2019
Alliance revenue - Lenvima
$
151

 
$
97

 
$
279

 
$
171

 
 
 
 
 
 
 
 
Cost of sales (1)
135

 
23

 
170

 
74

Selling, general and administrative
19

 
19

 
31

 
38

Research and development
56

 
62

 
120

 
109

 
 
 
 
 
 
 
 
($ in millions)
 
 
 
 
June 30, 2020
 
December 31, 2019
Receivables from Eisai included in Other current assets
 
 
 
 
$
173

 
$
150

Payables to Eisai included in Accrued and other current liabilities (2)
 
 
 
 
325

 
700

Payables to Eisai included in Other Noncurrent Liabilities (3)
 
 
 
 
570

 
525

(1) Represents amortization of capitalized milestone payments.
(2) Includes accrued milestone and future option payments.
(3) Includes accrued milestone payments.
Bayer AG
In 2014, the Company entered into a worldwide clinical development collaboration with Bayer AG (Bayer) to market and develop soluble guanylate cyclase (sGC) modulators including Bayer’s Adempas (riociguat), which is approved to treat pulmonary arterial hypertension and chronic thromboembolic pulmonary hypertension. The two companies have implemented a joint development and commercialization strategy. The collaboration also includes clinical development of Bayer’s vericiguat, which is in development for the potential treatment of worsening heart failure. Vericiguat is currently under review by the FDA. Under the agreement, Bayer leads commercialization of Adempas in the Americas, while Merck leads commercialization in the rest of the world. For vericiguat, if approved, Bayer will lead commercialization in the rest of world and Merck will lead in the Americas. Both companies share in development costs and profits on sales and have the right to co-promote in territories where they are not the lead. Merck records sales of Adempas in its marketing territories, as well as alliance revenue, which is Merck’s share of profits from the sale of Adempas in Bayer’s marketing territories. In addition, the agreement provides for additional contingent payments from Merck to Bayer related to the successful achievement of sales-based milestones.
Prior to 2020, Merck accrued $725 million of sales-based milestone payments for this collaboration, of which $350 million was paid to Bayer in 2018. There is an additional $400 million potential future sales-based milestone payment that has not yet been accrued as it is not deemed by the Company to be probable at this time.
The intangible asset balance related to this collaboration (which includes the acquired intangible asset balance, as well as capitalized sales-based milestone payments) was $832 million at June 30, 2020 and is included in Other Intangibles, Net on the Consolidated Balance Sheet. The amount is being amortized over its estimated useful life through 2027 as supported by projected future cash flows, subject to impairment testing.
Summarized financial information related to this collaboration is as follows:
 
Three Months Ended 
 June 30,
 
Six Months Ended 
 June 30,
($ in millions)
2020
 
2019
 
2020
 
2019
Alliance revenue - Adempas
$
79

 
$
51

 
$
133

 
$
94

Net sales of Adempas recorded by Merck
57

 
53

 
113

 
100

Total sales
$
136


$
104


$
246


$
194

 
 
 
 
 
 
 
 
Cost of sales (1)
28

 
29

 
57

 
58

Selling, general and administrative
17

 
11

 
28

 
20

Research and development
16

 
32

 
41

 
62

 
 
 
 
 
 
 
 
($ in millions)
 
 
 
 
June 30, 2020
 
December 31, 2019
Receivables from Bayer included in Other current assets
 
 
 
 
$
62

 
$
49

Payables to Bayer included in Other Noncurrent Liabilities (2)
 
 
 
 
375

 
375

(1) Includes amortization of intangible assets.
(2) Represents accrued milestone payment.
v3.20.2
Restructuring
6 Months Ended
Jun. 30, 2020
Restructuring and Related Activities [Abstract]  
Restructuring
Restructuring
In early 2019, Merck approved a new global restructuring program (Restructuring Program) as part of a worldwide initiative focused on further optimizing the Company’s manufacturing and supply network, as well as reducing its global real estate footprint. This program is a continuation of the Company’s plant rationalization, builds on prior restructuring programs and does not include any actions associated with the planned spin-off of Organon. As the Company continues to evaluate its global footprint and overall operating model, it subsequently identified additional actions under the Restructuring Program, and could identify further actions over time. The actions currently contemplated under the Restructuring Program are expected to be substantially completed by the end of 2023, with the cumulative pretax costs to be incurred by the Company to implement the program estimated to be approximately $2.5 billion. The Company estimates that approximately 60% of the cumulative pretax costs will result in cash outlays, primarily related to employee separation expense and facility shut-down costs. Approximately 40% of the cumulative pretax costs will be non-cash, relating primarily to the accelerated depreciation of facilities to be closed or divested. The Company expects to record charges of approximately $800 million in 2020 related to the Restructuring Program. Actions under previous global restructuring programs have been substantially completed.
The Company recorded total pretax costs of $150 million and $159 million in the second quarter of 2020 and 2019, respectively, and $318 million and $346 million for the first six months of 2020 and 2019, respectively, related to restructuring program activities. Since inception of the Restructuring Program through June 30, 2020, Merck has recorded total pretax accumulated costs of approximately $1.2 billion. For segment reporting, restructuring charges are unallocated expenses.
The following tables summarize the charges related to restructuring program activities by type of cost:
 
Three Months Ended June 30, 2020
 
Six Months Ended June 30, 2020
($ in millions)
Separation
Costs
 
Accelerated
Depreciation
 
Other
 
Total
 
Separation
Costs
 
Accelerated
Depreciation
 
Other
 
Total
Cost of sales
$

 
$
31

 
$
(6
)
 
$
25

 
$

 
$
56

 
$
37

 
$
93

Selling, general and administrative

 
11

 

 
11

 

 
22

 

 
22

Research and development

 
31

 

 
31

 

 
48

 

 
48

Restructuring costs
35

 

 
48

 
83

 
82

 

 
73

 
155

 
$
35

 
$
73

 
$
42

 
$
150

 
$
82

 
$
126

 
$
110

 
$
318

 
Three Months Ended June 30, 2019
 
Six Months Ended June 30, 2019
($ in millions)
Separation
Costs
 
Accelerated
Depreciation
 
Other
 
Total
 
Separation
Costs
 
Accelerated
Depreciation
 
Other
 
Total
Cost of sales
$

 
$
64

 
$
1

 
$
65

 
$

 
$
98

 
$
1

 
$
99

Selling, general and administrative

 
32

 

 
32

 

 
32

 

 
32

Research and development

 
2

 
1

 
3

 

 
2

 
1

 
3

Restructuring costs
25

 

 
34

 
59

 
153

 

 
59

 
212

 
$
25

 
$
98

 
$
36

 
$
159

 
$
153

 
$
132

 
$
61

 
$
346


Separation costs are associated with actual headcount reductions, as well as those headcount reductions which were probable and could be reasonably estimated.
Accelerated depreciation costs primarily relate to manufacturing, research and administrative facilities and equipment to be sold or closed as part of the programs. Accelerated depreciation costs represent the difference between the depreciation expense to be recognized over the revised useful life of the asset, based upon the anticipated date the site will be closed or divested or the equipment disposed of, and depreciation expense as determined utilizing the useful life prior to the restructuring actions. All the sites have and will continue to operate up through the respective closure dates and, since future undiscounted cash flows are sufficient to recover the respective book values, Merck is recording accelerated depreciation over the revised useful life of the site assets. Anticipated site closure dates, particularly related to manufacturing locations, have been and may continue to be adjusted to reflect changes resulting from regulatory or other factors.
Other activity in 2020 and 2019 includes asset abandonment, facility shut-down and other related costs, as well as pretax gains and losses resulting from the sales of facilities and related assets. Additionally, other activity includes certain employee-related costs associated with pension and other postretirement benefit plans (see Note 11) and share-based compensation.
The following table summarizes the charges and spending relating to restructuring program activities for the six months ended June 30, 2020:
($ in millions)
Separation
Costs
 
Accelerated
Depreciation
 
Other
 
Total
Restructuring reserves January 1, 2020
$
690

 
$

 
$
69

 
$
759

Expense
82

 
126

 
110

 
318

(Payments) receipts, net
(328
)
 

 
(163
)
 
(491
)
Non-cash activity

 
(126
)
 
34

 
(92
)
Restructuring reserves June 30, 2020 (1)
$
444

 
$

 
$
50

 
$
494

(1) 
The remaining cash outlays are expected to be substantially completed by the end of 2023.
v3.20.2
Financial Instruments
6 Months Ended
Jun. 30, 2020
Derivative Instruments and Hedging Activities Disclosure [Abstract]  
Financial Instruments
Financial Instruments
Derivative Instruments and Hedging Activities
The Company manages the impact of foreign exchange rate movements and interest rate movements on its earnings, cash flows and fair values of assets and liabilities through operational means and through the use of various financial instruments, including derivative instruments.
A significant portion of the Company’s revenues and earnings in foreign affiliates is exposed to changes in foreign exchange rates. The objectives and accounting related to the Company’s foreign currency risk management program, as well as its interest rate risk management activities are discussed below.
Foreign Currency Risk Management
The Company has established revenue hedging, balance sheet risk management and net investment hedging programs to protect against volatility of future foreign currency cash flows and changes in fair value caused by changes in foreign exchange rates.
The objective of the revenue hedging program is to reduce the variability caused by changes in foreign exchange rates that would affect the U.S. dollar value of future cash flows derived from foreign currency denominated sales, primarily the euro, Japanese yen and Chinese renminbi. To achieve this objective, the Company will hedge a portion of its forecasted foreign currency denominated third-party and intercompany distributor entity sales (forecasted sales) that are expected to occur over its planning cycle, typically no more than two years into the future. The Company will layer in hedges over time, increasing the portion of forecasted sales hedged as it gets closer to the expected date of the forecasted sales. The portion of forecasted sales hedged is based on assessments of cost-benefit profiles that consider natural offsetting exposures, revenue and exchange rate volatilities and correlations, and the cost of hedging instruments. The Company manages its anticipated transaction exposure principally with purchased local currency put options, forward contracts and purchased collar options.
The fair values of these derivative contracts are recorded as either assets (gain positions) or liabilities (loss positions) in the Condensed Consolidated Balance Sheet. Changes in the fair value of derivative contracts are recorded each period in either current earnings or Other comprehensive income (OCI), depending on whether the derivative is designated as part of a hedge transaction and, if so, the type of hedge transaction. For derivatives that are designated as cash flow hedges, the unrealized gains or losses on these contracts are recorded in Accumulated other comprehensive income (AOCI) and reclassified into Sales when the hedged anticipated revenue is recognized. For those derivatives which are not designated as cash flow hedges, but serve as economic hedges of forecasted sales, unrealized gains or losses are recorded in Sales each period. The cash flows from both
designated and non-designated contracts are reported as operating activities in the Condensed Consolidated Statement of Cash Flows. The Company does not enter into derivatives for trading or speculative purposes.
The Company manages operating activities and net asset positions at each local subsidiary in order to mitigate the effects of exchange on monetary assets and liabilities. The Company also uses a balance sheet risk management program to mitigate the exposure of net monetary assets that are denominated in a currency other than a subsidiary’s functional currency from the effects of volatility in foreign exchange. In these instances, Merck principally utilizes forward exchange contracts to offset the effects of exchange on exposures denominated in developed country currencies, primarily the euro and Japanese yen. For exposures in developing country currencies, the Company will enter into forward contracts to partially offset the effects of exchange on exposures when it is deemed economical to do so based on a cost-benefit analysis that considers the magnitude of the exposure, the volatility of the exchange rate and the cost of the hedging instrument. The cash flows from these contracts are reported as operating activities in the Condensed Consolidated Statement of Cash Flows.
Monetary assets and liabilities denominated in a currency other than the functional currency of a given subsidiary are remeasured at spot rates in effect on the balance sheet date with the effects of changes in spot rates reported in Other (income) expense, net. The forward contracts are not designated as hedges and are marked to market through Other (income) expense, net. Accordingly, fair value changes in the forward contracts help mitigate the changes in the value of the remeasured assets and liabilities attributable to changes in foreign currency exchange rates, except to the extent of the spot-forward differences. These differences are not significant due to the short-term nature of the contracts, which typically have average maturities at inception of less than one year.
The Company also uses forward exchange contracts to hedge a portion of its net investment in foreign operations against movements in exchange rates. The forward contracts are designated as hedges of the net investment in a foreign operation. The unrealized gains or losses on these contracts are recorded in foreign currency translation adjustment within OCI and remain in AOCI until either the sale or complete or substantially complete liquidation of the subsidiary. The Company excludes certain portions of the change in fair value of its derivative instruments from the assessment of hedge effectiveness (excluded components). Changes in fair value of the excluded components are recognized in OCI. The Company recognizes in earnings the initial value of the excluded components on a straight-line basis over the life of the derivative instrument, rather than using the mark-to-market approach. The cash flows from these contracts are reported as investing activities in the Condensed Consolidated Statement of Cash Flows.
Foreign exchange risk is also managed through the use of foreign currency debt. The Company’s senior unsecured euro-denominated notes have been designated as, and are effective as, economic hedges of the net investment in a foreign operation. Accordingly, foreign currency transaction gains or losses due to spot rate fluctuations on the euro-denominated debt instruments are included in foreign currency translation adjustment within OCI.
The effects of the Company’s net investment hedges on OCI and the Consolidated Statement of Income are shown below:
 
Amount of Pretax (Gain) Loss Recognized in Other Comprehensive Income (1)
 
Amount of Pretax (Gain) Loss Recognized in Other (income) expense, net for Amounts Excluded from Effectiveness Testing
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
Three Months Ended June 30,
 
Six Months Ended June 30,
($ in millions)
2020
 
2019
 
2020
 
2019
 
2020
 
2019
 
2020
 
2019
Net Investment Hedging Relationships
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange contracts
$
8

 
$
17

 
$
5

 
$
7

 
$
(4
)
 
$
(8
)
 
$
(11
)
 
$
(15
)
Euro-denominated notes
72

 
28

 
21

 
(2
)
 

 

 

 

(1) No amounts were reclassified from AOCI into income related to the sale of a subsidiary.
Interest Rate Risk Management
The Company may use interest rate swap contracts on certain investing and borrowing transactions to manage its net exposure to interest rate changes and to reduce its overall cost of borrowing. The Company does not use leveraged swaps and, in general, does not leverage any of its investment activities that would put principal capital at risk.
In February 2020, five interest rate swaps with notional amounts of $250 million each matured. These swaps effectively converted the Company’s $1.25 billion1.85% fixed-rate notes due 2020 to variable rate debt. At June 30, 2020, the Company was a party to 14 pay-floating, receive-fixed interest rate swap contracts designated as fair value hedges of fixed-rate notes in which the notional amounts match the amount of the hedged fixed-rate notes as detailed in the table below.
 
June 30, 2020
($ in millions)
Par Value of Debt
 
Number of Interest Rate Swaps Held
 
Total Swap Notional Amount
3.875% notes due 2021
$
1,150

 
5

 
$
1,150

2.40% notes due 2022
1,000

 
4

 
1,000

2.35% notes due 2022
1,250

 
5

 
1,250

The interest rate swap contracts are designated hedges of the fair value changes in the notes attributable to changes in the benchmark London Interbank Offered Rate (LIBOR) swap rate. The fair value changes in the notes attributable to changes in the LIBOR swap rate are recorded in interest expense along with the offsetting fair value changes in the swap contracts. The cash flows from these contracts are reported as operating activities in the Condensed Consolidated Statement of Cash Flows.
The table below presents the location of amounts recorded on the Consolidated Balance Sheet related to cumulative basis adjustments for fair value hedges:
 
Carrying Amount of Hedged Liabilities
 
Cumulative Amount of Fair Value Hedging Adjustment Increase (Decrease) Included in the Carrying Amount
($ in millions)
June 30, 2020
 
December 31, 2019
 
June 30, 2020
 
December 31, 2019
Balance Sheet Line Item in which Hedged Item is Included
 
 
 
 
 
 
 
Loans payable and current portion of long-term debt
$
1,160

 
$
1,249

 
$
10

 
$
(1
)
Long-Term Debt
2,318

 
3,409

 
71

 
14

Presented in the table below is the fair value of derivatives on a gross basis segregated between those derivatives that are designated as hedging instruments and those that are not designated as hedging instruments:
 
 
June 30, 2020
 
December 31, 2019
 
 
Fair Value of Derivative
 
U.S. Dollar
Notional
 
Fair Value of Derivative
 
U.S. Dollar
Notional
($ in millions)
Balance Sheet Caption
Asset
 
Liability
 
Asset
 
Liability
 
Derivatives Designated as Hedging Instruments
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swap contracts
Other current assets
$
10

 
$

 
$
1,150

 
$

 
$

 
$

Interest rate swap contracts
Other Assets
72

 

 
2,250

 
15

 

 
3,400

Interest rate swap contracts
Accrued and other current liabilities

 

 

 

 
1

 
1,250

Foreign exchange contracts
Other current assets
83

 

 
4,959

 
152

 

 
6,117

Foreign exchange contracts
Other Assets
70

 

 
1,993

 
55

 

 
2,160

Foreign exchange contracts
Accrued and other current liabilities

 
27

 
1,884

 

 
22

 
1,748

Foreign exchange contracts
Other Noncurrent Liabilities

 
1

 
11

 

 
1

 
53

 
 
$
235


$
28


$
12,247


$
222


$
24


$
14,728

Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange contracts
Other current assets
$
93

 
$

 
$
5,324

 
$
66

 
$

 
$
7,245

Foreign exchange contracts
Accrued and other current liabilities

 
103

 
5,865

 

 
73

 
8,693

 
 
$
93

 
$
103

 
$
11,189

 
$
66

 
$
73

 
$
15,938

 
 
$
328


$
131


$
23,436


$
288


$
97


$
30,666


As noted above, the Company records its derivatives on a gross basis in the Condensed Consolidated Balance Sheet. The Company has master netting agreements with several of its financial institution counterparties (see Concentrations of Credit Risk below). The following table provides information on the Company’s derivative positions subject to these master netting arrangements as if they were presented on a net basis, allowing for the right of offset by counterparty and cash collateral exchanged per the master agreements and related credit support annexes:
 
June 30, 2020
 
December 31, 2019
($ in millions)
Asset
 
Liability
 
Asset
 
Liability
Gross amounts recognized in the condensed consolidated balance sheet
$
328

 
$
131

 
$
288

 
$
97

Gross amounts subject to offset in master netting arrangements not offset in the condensed consolidated balance sheet
(115
)
 
(115
)
 
(84
)
 
(84
)
Cash collateral received
(38
)
 

 
(34
)
 

Net amounts
$
175

 
$
16

 
$
170

 
$
13


The table below provides information regarding the location and amount of pretax (gains) losses of derivatives designated in fair value or cash flow hedging relationships:
 
Sales
 
Other (income) expense, net (1)
 
Other comprehensive income (loss)
 
Sales
 
Other (income) expense, net (1)
 
Other comprehensive income (loss)
 
Three Months Ended June 30,
 
Three Months Ended June 30,
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
Six Months Ended June 30,
 
Six Months Ended June 30,
($ in millions)
2020
 
2019
 
2020
 
2019
 
2020
 
2019
 
2020
 
2019
 
2020
 
2019
 
2020
 
2019
Financial Statement Line Items in which Effects of Fair Value or Cash Flow Hedges are Recorded
$
10,872

 
$
11,760

 
$
(390
)
 
$
140

 
$
(2
)
 
$
(16
)
 
$
22,929

 
$
22,575

 
$
(318
)
 
$
327

 
$
(200
)
 
$
183

(Gain) loss on fair value hedging relationships
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Interest rate swap contracts
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Hedged items

 

 
1

 
55

 

 

 

 

 
68

 
88

 

 

Derivatives designated as hedging instruments

 

 
(8
)
 
(45
)
 

 

 

 

 
(76
)
 
(68
)
 

 

Impact of cash flow hedging relationships
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Foreign exchange contracts
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amount of (loss) gain recognized in OCI on derivatives

 

 

 

 
(109
)
 
10

 

 

 

 

 
69

 
(2
)
Increase (decrease) in Sales as a result of AOCI reclassifications
42

 
75

 

 

 
(42
)
 
(75
)
 
88

 
119

 

 

 
(88
)
 
(119
)
Interest rate contracts
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Amount of gain recognized in Other (income) expense, net on derivatives

 

 
(1
)
 
(1
)
 

 

 

 

 
(2
)
 
(2
)
 

 

Amount of loss recognized in OCI on derivatives

 

 

 

 
(1
)
 
(1
)
 

 

 

 

 
(2
)
 
(5
)
(1) Interest expense is a component of Other (income) expense, net.
The table below provides information regarding the income statement effects of derivatives not designated as hedging instruments:
 
 
 
Amount of Derivative Pretax (Gain) Loss Recognized in Income
 
 
 
Three Months Ended June 30,
 
Six Months Ended June 30,
($ in millions)
Income Statement Caption
 
2020
 
2019
 
2020
 
2019
Derivatives Not Designated as Hedging Instruments
 
 
 
 
 
 
 
 
 
Foreign exchange contracts (1)
Other (income) expense, net
 
$
49

 
$
2

 
$
(131
)
 
$
120

Foreign exchange contracts (2)
Sales
 
4

 
(6
)
 
(3
)
 
4

Interest rate contracts (3)
Other (income) expense, net
 
9

 

 
9

 

(1) These derivative contracts mitigate changes in the value of remeasured foreign currency denominated monetary assets and liabilities attributable to changes in foreign currency exchange rates.
(2) These derivative contracts serve as economic hedges of forecasted transactions.
(3) These derivatives serve as economic hedges against rising treasury rates.
At June 30, 2020, the Company estimates $9 million of pretax net unrealized gains on derivatives maturing within the next 12 months that hedge foreign currency denominated sales over that same period will be reclassified from AOCI to Sales. The amount ultimately reclassified to Sales may differ as foreign exchange rates change. Realized gains and losses are ultimately determined by actual exchange rates at maturity.

Investments in Debt and Equity Securities
Information on investments in debt and equity securities is as follows:
 
June 30, 2020
 
December 31, 2019
 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
 
Amortized
Cost
 
Gross Unrealized
 
Fair
Value
($ in millions)
Gains
 
Losses
 
Gains
 
Losses
 
U.S. government and agency securities
$
74

 
$

 
$

 
$
74

 
$
266

 
$
3

 
$

 
$
269

Foreign government bonds
2

 

 

 
2

 

 

 

 

Commercial paper

 

 

 

 
668

 

 

 
668

Corporate notes and bonds

 

 

 

 
608

 
13

 

 
621

Asset-backed securities

 

 

 

 
226

 
1

 

 
227

Total debt securities
$
76


$


$


$
76


$
1,768


$
17


$


$
1,785

Publicly traded equity securities (1)
 
 
 
 
 
 
1,307

 


 


 


 
838

Total debt and publicly traded equity securities








 
$
1,383

 








 
$
2,623


(1) Unrealized net (gains) losses recognized in Other (income) expense, net on equity securities still held at June 30, 2020 were $(464) million and $(469) million in the second quarter and first six months of 2020, respectively. Unrealized net losses (gains) recognized in Other (income) expense, net on equity securities still held at June 30, 2019 were $39 million and $(75) million in the second quarter and first six months of 2019, respectively.
At June 30, 2020 and June 30, 2019, the Company also had $487 million and $465 million, respectively, of equity investments without readily determinable fair values included in Other Assets. The Company recognizes unrealized gains on these equity investments based on favorable observable price changes from transactions involving similar investments of the same investee and recognizes unrealized losses based on unfavorable observable price changes. During the first six months of 2020, the Company recognized unrealized gains of $18 million and unrealized losses of $3 million in Other (income) expense, net related to these equity investments held at June 30, 2020. During the first six months of 2019, the Company recognized unrealized gains of $4 million and unrealized losses of $10 million in Other (income) expense, net related to these investments held at June 30, 2019. Cumulative unrealized gains and cumulative unrealized losses based on observable prices changes for investments in equity investments without readily determinable fair values still held at June 30, 2020 were $127 million and $24 million, respectively.
Fair Value Measurements
Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The Company uses a fair value hierarchy which maximizes the use of observable inputs and minimizes the use of unobservable inputs when measuring fair value. There are three levels of inputs used to measure fair value with Level 1 having the highest priority and Level 3 having the lowest: Level 1 - Quoted prices (unadjusted) in active markets for identical assets or liabilities; Level 2 - Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities, or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities; Level 3 - Unobservable inputs that are supported by little or no market activity. Level 3 assets or liabilities are those whose values are determined using pricing models, discounted cash flow methodologies, or similar techniques with significant unobservable inputs, as well as assets or liabilities for which the determination of fair value requires significant judgment or estimation. If the inputs used to measure the financial assets and liabilities fall within more than one level described above, the categorization is based on the lowest level input that is significant to the fair value measurement of the instrument.
Financial Assets and Liabilities Measured at Fair Value on a Recurring Basis
Financial assets and liabilities measured at fair value on a recurring basis are summarized below:
 
Fair Value Measurements Using
 
Fair Value Measurements Using
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Level 1
 
Level 2
 
Level 3
 
Total
($ in millions)
June 30, 2020
 
December 31, 2019
Assets
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Investments
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Foreign government bonds
$

 
$
2

 
$

 
$
2

 
$

 
$

 
$

 
$

Commercial paper

 

 

 

 

 
668

 

 
668

Corporate notes and bonds

 

 

 

 

 
621

 

 
621

Asset-backed securities (1)

 

 

 

 

 
227

 

 
227

U.S. government and agency securities