425 1 d886292d425.htm 425 425

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

 

 

FORM 8-K

 

 

CURRENT REPORT

PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

Date of report (Date of earliest event reported): May 29, 2020

 

 

UPJOHN INC.

(Exact Name of Registrant as Specified in Charter)

 

 

 

Delaware   000-56114   83-4364296

(State or Other Jurisdiction

of Incorporation)

 

(Commission

File Number)

 

(IRS Employer

Identification No.)

 

235 East 42nd Street

New York, New York

  10017
(Address of Principal Executive Offices)   (Zip Code)

Registrant’s telephone number, including area code: (212) 733-2323

 

 

Check the appropriate box below if the Form 8-K filing is intended to simultaneously satisfy the filing obligation of the registrant under any of the following provisions:

 

Written communications pursuant to Rule 425 under the Securities Act (17 CFR 230.425)

 

Soliciting material pursuant to Rule 14a-12 under the Exchange Act (17 CFR 240.14a-12)

 

Pre-commencement communications pursuant to Rule 14d-2(b) under the Exchange Act (17 CFR 240.14d-2(b))

 

Pre-commencement communication pursuant to Rule 13e-4(c) under the Exchange Act (17 CFR 240.13e-4(c))

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Trading

Symbol(s)

 

Name of each exchange

on which registered

N/A   N/A   N/A

Indicate by check mark whether the registrant is an emerging growth company as defined in Rule 405 of the Securities Act (17 CFR 230.405) or Rule 12b-2 of the Exchange Act (17 CFR 240.12b-2).

Emerging growth company  ☐

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.  ☐

 

 

 


Item 2.02.

Results of Operations and Financial Condition.

In connection with the planned combination (the “Combination”) of Pfizer’s global, primarily off-patent branded and generic established medicines business (the “Upjohn Business”) and Mylan N.V. (“Mylan”), Upjohn Inc. (the “Company”) is providing the following information: (i) the audited combined financial statements and related notes of the Upjohn Business as of December 31, 2019 and 2018 and for the years ended December 31, 2019, 2018 and 2017, which is furnished as Exhibit 99.1 to this Current Report and (ii) the related management’s discussion and analysis of financial condition and results of operations of the Upjohn Business, which is furnished as Exhibit 99.2 to this Current Report.

The information in this Item 2.02, including Exhibits 99.1 and 99.2, of this Current Report on Form 8-K (this “Current Report”) is being “furnished” and shall not be deemed to be “filed” by the Company for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), or otherwise subject to the liabilities of that Section, nor shall it be incorporated by reference into any filing under the Securities Act of 1933, as amended (the “Securities Act”), or the Exchange Act.

 

Item 8.01.

Other Information.

The only information contained in this Current Report being filed for the purposes of Rule 425 under the Securities Act is the information relating solely to the Combination contained in Item 2.02 of this Current Report, which information is incorporated by reference into this Item 8.01.

 

2


Item 9.01.

Financial Statements and Exhibits.

 

  (d)

Exhibits.

 

Exhibit
Number

  

Description

  99.1    Audited Combined Financial Statements and Related Notes of the Upjohn Business as of December 31, 2019 and 2018 and for the Years Ended December 31, 2019, 2018 and 2017
  99.2    Management’s Discussion and Analysis of Financial Condition and Results of Operations of the Upjohn Business
104    Cover Page Interactive Data File—the cover page XBRL tags are embedded within the Inline XBRL document

Forward-Looking Statements

This communication contains “forward-looking statements”. Such forward-looking statements may include, without limitation, statements about the Combination, the expected timetable for completing the Combination, the benefits and synergies of the Combination, future opportunities for the combined company and products and any other statements regarding Pfizer’s, Mylan’s, the Upjohn Business’s or the combined company’s future operations, financial or operating results, capital allocation, dividend policy, debt ratio, anticipated business levels, future earnings, planned activities, anticipated growth, market opportunities, strategies, competitions, and other expectations and targets for future periods. Forward-looking statements may often be identified by the use of words such as “will,” “may,” “could,” “should,” “would,” “project,” “believe,” “anticipate,” “expect”, “plan”, “estimate”, “forecast”, “potential”, “pipeline”, “intend”, “continue”, “target”, “seek” and variations of these words or comparable words. Because forward-looking statements inherently involve risks and uncertainties, actual future results may differ materially from those expressed or implied by such forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to: the parties’ ability to meet expectations regarding the timing, completion and accounting and tax treatments of the Combination; changes in relevant tax and other laws; the parties’ ability to consummate the Combination; the conditions to the completion of the Combination, including receipt of approval of Mylan’s shareholders, not being satisfied or waived on the anticipated timeframe or at all; the regulatory approvals required for the Combination not being obtained on the terms expected or on the anticipated schedule or at all; inherent uncertainties involved in the estimates and judgments used in the preparation of financial statements and the providing of estimates of financial measures, in accordance with accounting principles generally accepted in the United States of America and related standards or on an adjusted basis; the integration of Mylan and the Upjohn Business being more difficult, time consuming or costly than expected; Mylan’s, the Upjohn Business’s and the combined company’s failure to achieve expected or targeted future financial and operating performance and results; the possibility that the combined company may be unable to achieve expected benefits, synergies and operating efficiencies in connection with the Combination within the expected time frames or at all or to successfully integrate Mylan and the Upjohn Business; customer loss and business disruption being greater than expected following the Combination; the retention of key employees being more difficult following the Combination; Mylan’s, the Upjohn Business’s or the combined company’s liquidity, capital resources and ability to obtain financing; any regulatory, legal or other impediments to Mylan’s, the Upjohn Business’s or the combined company’s ability to bring new products to market, including but not limited to where Mylan, the Upjohn Business or the combined company uses its business judgment and decides to manufacture, market and/or sell products, directly or through third parties, notwithstanding the fact that allegations of patent infringement(s) have not been finally resolved by the courts (i.e., an “at-risk launch”); success of clinical trials and Mylan’s, the Upjohn Business’s or the combined company’s ability to execute on new product opportunities; any changes in or difficulties with Mylan’s, the Upjohn

 

3


Business’s or the combined company’s manufacturing facilities, including with respect to remediation and restructuring activities, supply chain or inventory or the ability to meet anticipated demand; the scope, timing and outcome of any ongoing legal proceedings, including government investigations, and the impact of any such proceedings on Mylan’s, the Upjohn Business’s or the combined company’s consolidated financial condition, results of operations and/or cash flows; Mylan’s, the Upjohn Business’s and the combined company’s ability to protect their respective intellectual property and preserve their respective intellectual property rights; the effect of any changes in customer and supplier relationships and customer purchasing patterns; the ability to attract and retain key personnel; changes in third-party relationships; actions and decisions of healthcare and pharmaceutical regulators; the impacts of competition; changes in the economic and financial conditions of the Upjohn Business or the business of Mylan or the combined company; the impact of outbreaks, epidemics or pandemics, such as the Covid-19 pandemic; uncertainties regarding future demand, pricing and reimbursement for Mylan’s, the Upjohn Business’s or the combined company’s products; and uncertainties and matters beyond the control of management and other factors described under “Risk Factors” in each of Pfizer’s, Mylan’s and the Company’s Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and other filings with the Securities and Exchange Commission (“SEC”). These risks, as well as other risks associated with Mylan, the Upjohn Business, the combined company and the Combination are also more fully discussed in the Registration Statement on Form S-4, as amended, which includes a proxy statement/prospectus (as amended, the “Form S-4”), which was initially filed by the Company with the SEC on October 25, 2019 and declared effective by the SEC on February 13, 2020, the Registration Statement on Form 10, as amended, which includes an information statement (as amended, the “Form 10”), which was filed by the Company with the SEC on January 21, 2020, amended on February 6, 2020 and subsequently withdrawn on March 11, 2020, and is expected to be refiled prior to its effectiveness, a definitive proxy statement, which was filed by Mylan with the SEC on February 13, 2020 (the “Proxy Statement”), and a prospectus, which was filed by the Company with the SEC on February 13, 2020 (the “Prospectus”). You can access Pfizer’s, Mylan’s and the Company’s filings with the SEC through the SEC website at www.sec.gov or through Pfizer’s or Mylan’s website, as applicable, and Pfizer and Mylan strongly encourage you to do so. Except as required by applicable law, Pfizer, Mylan and the Company undertake no obligation to update any statements herein for revisions or changes after this communication is made.

Additional Information and Where to Find It

This communication shall not constitute an offer to sell or the solicitation of an offer to sell or the solicitation of an offer to buy any securities, nor shall there be any sale of securities in any jurisdiction in which such offer, solicitation or sale would be unlawful prior to registration or qualification under the securities laws of any such jurisdiction. No offer of securities shall be made in connection with the Combination except by means of a prospectus meeting the requirements of Section 10 of the Securities Act of 1933, as amended. In connection with the Combination, the Company and Mylan have filed certain materials with the SEC, including, among other materials, the Form S-4, Form 10, and Prospectus filed by the Company and the Proxy Statement filed by Mylan. The Form S-4 was declared effective on February 13, 2020 and the Proxy Statement and the Prospectus were first sent to shareholders of Mylan on or about February 14, 2020 in connection with seeking approval of the Combination. The Form 10 has not yet become effective. After the Form 10 is effective, a definitive information statement will be made available to the Pfizer stockholders relating to the Combination. The Company and Mylan intend to file additional relevant materials with the SEC in connection with the Combination. INVESTORS AND SECURITY HOLDERS ARE URGED TO READ DOCUMENTS FILED WITH THE SEC CAREFULLY AND IN THEIR ENTIRETY BECAUSE THEY WILL CONTAIN IMPORTANT INFORMATION ABOUT MYLAN, THE COMPANY AND THE

 

4


COMBINATION. The documents relating to the Combination (when they are available) can be obtained free of charge from the SEC’s website at www.sec.gov. These documents (when they are available) can also be obtained free of charge from Mylan, upon written request to Mylan, at (724) 514-1813 or investor.relations@mylan.com or from Pfizer on Pfizer’s internet website at https://investors.Pfizer.com/financials/sec-filings/default.aspx or by contacting Pfizer’s Investor Relations Department at (212) 733-2323, as applicable.

Participants in the Solicitation

This communication is not a solicitation of a proxy from any investor or security holder. However, Pfizer, Mylan, the Company and certain of their respective directors and executive officers may be deemed to be participants in the solicitation of proxies in connection with the Combination under the rules of the SEC. Information about the directors and executive officers of the Company following the completion of the Combination may be found in the Form S-4, the Proxy Statement and the Prospectus, and Pfizer’s Current Report on Form 8-K filed with the SEC on February 28, 2020. Information about the directors and executive officers of Pfizer may be found in its Annual Report on Form 10-K filed with the SEC on February 27, 2020 and its definitive proxy statement relating to its 2020 Annual Meeting filed with the SEC on March 13, 2020, as supplemented by its supplement to proxy statement filed with the SEC on April 7, 2020. Information about the directors and executive officers of Mylan may be found in its amended Annual Report on Form 10-K filed with the SEC on February 28, 2020, as amended on April 29, 2020, and its preliminary proxy statement relating to its 2020 Annual Meeting filed with the SEC on May 28, 2020. Additional information regarding the interests of these participants can also be found in the Form S-4, the Proxy Statement and the Prospectus. These documents can be obtained free of charge from the sources indicated above.

 

5


SIGNATURE

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned hereunto duly authorized.

 

     UPJOHN INC.
May 29, 2020   By:   

/s/ Michael Goettler

  Name:    Michael Goettler
  Title:    President

 

6


Exhibit 99.1

Upjohn

(A Business Unit of Pfizer Inc.)

Combined Financial Statements as of December 31, 2019 and 2018

and for the Years Ended December 31, 2019, 2018 and 2017

and Report of Independent Registered Public Accounting Firm


Index to Financial Statements

 

     Page  

Report of Independent Registered Public Accounting Firm

     3  

Combined Statements of Income for the Years Ended December 31, 2019, 2018 and 2017

     4  

Combined Statements of Comprehensive Income for the Years Ended December 31, 2019, 2018 and 2017

     5  

Combined Balance Sheets as of December 31, 2019 and 2018

     6  

Combined Statements of Equity for the Years Ended December 31, 2019, 2018 and 2017

     7  

Combined Statements of Cash Flows for the Years Ended December 31, 2019, 2018 and 2017

     8  

Notes to Combined Financial Statements

     beginning on page 9  


LOGO

KPMG LLP

345 Park Avenue

New York, NY 10154-0102

Report of Independent Registered Public Accounting Firm

To the Board of Directors of Pfizer Inc.:

Opinion on the Combined Financial Statements

We have audited the accompanying combined balance sheets of Upjohn (a business unit of Pfizer Inc.) (the Company) as of December 31, 2019 and 2018, the related combined statements of income, comprehensive income, equity, and cash flows for each of the years in the three-year period ended December 31, 2019, and the related notes (collectively, the combined financial statements). In our opinion, the combined financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 2019, in conformity with U.S. generally accepted accounting principles.

Basis for Opinion

These combined financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these combined financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB and in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the combined financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the combined financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the combined financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the combined financial statements. We believe that our audits provide a reasonable basis for our opinion.

 

LOGO

We have served as the Company’s auditor since 2018.

New York, New York

March 20, 2020

KPMG LLP is a Delaware limited liability partnership and the U.S. member

firm of the KPMG network of independent member firms affiliated with

KPMG International Cooperative (“KPMG International”), a Swiss entity.


UPJOHN

(A Business Unit of Pfizer Inc.)

COMBINED STATEMENTS OF INCOME

 

     Year Ended December 31,  

(millions of dollars)

   2019      2018      2017  

Revenues

   $ 10,244      $ 12,431      $ 13,359  

Costs and expenses:

        

Cost of sales(a)

     1,713        2,003        2,036  

Selling, informational and administrative expenses(a)

     2,252        2,568        2,771  

Research and development expenses(a)

     279        308        343  

Amortization of intangible assets

     148        157        166  

Restructuring charges/(credits)

     159        39        (80

Other (income)/deductions—net

     362        300        288  
  

 

 

    

 

 

    

 

 

 

Income before provision/(benefit) for taxes on income

     5,331        7,056        7,835  

Provision/(benefit) for taxes on income

     409        925        (2,366
  

 

 

    

 

 

    

 

 

 

Net income before allocation to noncontrolling interests

     4,922        6,131        10,201  

Less: Net income attributable to noncontrolling interests

     5        3        3  
  

 

 

    

 

 

    

 

 

 

Net income attributable to Upjohn

   $ 4,917      $ 6,128      $ 10,199  
  

 

 

    

 

 

    

 

 

 

 

(a) 

Excludes amortization of intangible assets, except as disclosed in Note 3K. Significant Accounting Policies: Amortization of Intangible Assets, Depreciation and Certain Long-Lived Assets.

Amounts may not add due to rounding.

See Notes to Combined Financial Statements, which are an integral part of these statements.

 

- 4 -


UPJOHN

(A Business Unit of Pfizer Inc.)

COMBINED STATEMENTS OF COMPREHENSIVE INCOME

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Net income before allocation to noncontrolling interests

   $ 4,922     $ 6,131     $ 10,201  
  

 

 

   

 

 

   

 

 

 

Foreign currency translation adjustments

     (14     (166     214  
  

 

 

   

 

 

   

 

 

 

Benefit plans: actuarial gains/(losses), net

     (14     (30     74  

Reclassification adjustments related to amortization

     13       17       49  

Reclassification adjustments related to curtailments and settlements

     14       3       4  

Other

     (6     3       (2
  

 

 

   

 

 

   

 

 

 
     7       (6     125  
  

 

 

   

 

 

   

 

 

 

Benefit plans: prior service (costs)/credits and other, net

     (2     (5     —    

Reclassification adjustments related to amortization

     (22     (25     (25

Reclassification adjustments related to curtailments, net

     (19     (1     (1

Other

     1       —         —    
  

 

 

   

 

 

   

 

 

 
     (42     (31     (25
  

 

 

   

 

 

   

 

 

 

Other comprehensive income/(loss), before tax

     (49     (203     314  
  

 

 

   

 

 

   

 

 

 

Tax provision/(benefit) on other comprehensive income/(loss)(a)

     —         (11     27  
  

 

 

   

 

 

   

 

 

 

Other comprehensive income/(loss) before allocation to noncontrolling interests

     (49     (192     286  
  

 

 

   

 

 

   

 

 

 

Comprehensive income before allocation to noncontrolling interests

     4,873       5,939       10,488  

Less: Comprehensive income attributable to noncontrolling interests

     3       1       4  
  

 

 

   

 

 

   

 

 

 

Comprehensive income attributable to Upjohn

   $ 4,870     $ 5,937     $ 10,484  
  

 

 

   

 

 

   

 

 

 

 

(a) 

See Note 7E. Tax Matters: Tax Provision/(Benefit) on Other Comprehensive Income/(Loss).

Amounts may not add due to rounding.

See Notes to Combined Financial Statements, which are an integral part of these statements.

 

- 5 -


UPJOHN

(A Business Unit of Pfizer Inc.)

COMBINED BALANCE SHEETS

 

(millions of dollars)

   December 31,
2019
    December 31,
2018
 

Assets

    

Cash and cash equivalents

   $ 184     $ —    

Trade accounts receivable, less allowance for doubtful accounts: 2019—$40; 2018—$47

     1,946       2,353  

Inventories

     1,155       1,235  

Current tax assets

     628       971  

Other current assets

     261       256  
  

 

 

   

 

 

 

Total current assets

     4,173       4,815  

Property, plant and equipment, less accumulated depreciation

     999       952  

Identifiable intangible assets, less accumulated amortization

     1,434       1,583  

Goodwill

     8,709       8,735  

Noncurrent deferred tax assets and other noncurrent tax assets

     651       577  

Other noncurrent assets

     399       312  
  

 

 

   

 

 

 

Total assets

   $ 16,366     $ 16,975  
  

 

 

   

 

 

 

Liabilities and Equity

    

Trade accounts payable

   $ 426     $ 656  

Income taxes payable

     371       323  

Accrued compensation and related items

     335       332  

Other current liabilities

     2,125       2,460  
  

 

 

   

 

 

 

Total current liabilities

     3,257       3,771  

Pension benefit obligations, net

     306       248  

Postretirement benefit obligations, net

     198       251  

Noncurrent deferred tax liabilities

     38       56  

Other taxes payable

     4,623       5,249  

Other noncurrent liabilities

     426       407  
  

 

 

   

 

 

 

Total liabilities

     8,849       9,982  
  

 

 

   

 

 

 

Commitments and Contingencies

    

Business unit equity

     8,224       7,653  

Accumulated other comprehensive loss

     (707     (660
  

 

 

   

 

 

 

Total equity

     7,517       6,992  
  

 

 

   

 

 

 

Total liabilities and equity

   $ 16,366     $ 16,975  
  

 

 

   

 

 

 

 

Amounts may not add due to rounding.

See Notes to Combined Financial Statements, which are an integral part of these statements.

 

- 6 -


UPJOHN

(A Business Unit of Pfizer Inc.)

COMBINED STATEMENTS OF EQUITY

 

     Upjohn              

(millions of dollars)

   Business
Unit
Equity
    Accumulated
Other Comp.
Income/
(Loss)
    Total
Business
Unit Equity
    Equity
Attributable to
Noncontrolling
Interests
    Total
Equity
 

Balance, January 1, 2017

   $ 3,954     $ (755   $ 3,198     $ —       $ 3,198  

Net income

     10,199         10,199       3       10,201  

Other comprehensive income/(loss), net of tax

       286       286       1       286  

Share-based payment transactions

     103         103         103  

Net transfers between Pfizer and noncontrolling interests

           (4     (4

Net transfers—Pfizer(a)

     (7,259       (7,259       (7,259
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2017

     6,996       (470     6,526       —         6,526  

Net income

     6,128         6,128       3       6,131  

Other comprehensive income/(loss), net of tax

       (191     (191     (1     (192

Share-based payment transactions

     104         104         104  

Net transfers between Pfizer and noncontrolling interests

           (1     (1

Net transfers—Pfizer(a), (b)

     (5,576       (5,576       (5,576
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2018

     7,653       (660     6,992       —         6,992  

Net income

     4,917         4,917       5       4,922  

Other comprehensive income/(loss), net of tax

       (47     (47     (2     (49

Share-based payment transactions

     76         76         76  

Net transfers between Pfizer and noncontrolling interests

           (3     (3

Net transfers—Pfizer(a)

     (4,421       (4,421       (4,421
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2019

   $ 8,224     $ (707   $ 7,517     $ —       $ 7,517  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) 

See Note 19. Related Party Transactions for the major components of Net transfers—Pfizer.

(b) 

Includes a net decrease of $3 million to Business unit equity for the cumulative effect of the adoption at the beginning of 2018 of new accounting standards for revenues and income tax accounting.

Amounts may not add due to rounding.

See Notes to Combined Financial Statements, which are an integral part of these statements.

 

- 7 -


UPJOHN

(A Business Unit of Pfizer Inc.)

COMBINED STATEMENTS OF CASH FLOWS

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Operating Activities

      

Net income before allocation to noncontrolling interests

   $ 4,922     $ 6,131     $ 10,201  

Adjustments to reconcile net income before allocation to noncontrolling interests to net cash provided by operating activities:

      

Depreciation and amortization

     311       353       375  

Asset write-offs and related charges

     17       3       5  

Tax Cuts and Jobs Act (TCJA) impact(a)

     (67     (49     (4,988

Deferred taxes

     (36     47       840  

Share-based compensation expense

     76       104       103  

Benefit plan contributions in excess of expense/income

     (91     (56     (17

Other adjustments, net

     (100     41       17  

Other changes in assets and liabilities:

      

Trade accounts receivable

     408       (158     241  

Inventories

     74       (310     232  

Other assets

     (53     63       (147

Trade accounts payable

     (241     38       (145

Other liabilities

     (273     (481     265  

Other tax accounts, net

     (227     (7     414  
  

 

 

   

 

 

   

 

 

 

Net cash provided by operating activities

     4,720       5,721       7,397  
  

 

 

   

 

 

   

 

 

 

Investing Activities

      

Purchases of property, plant and equipment

     (104     (57     (50

Acquisitions of intangible assets

     —         (2     —    

Other investing activities, net(b)

     6       —         —    
  

 

 

   

 

 

   

 

 

 

Net cash used in investing activities

     (98     (59     (50
  

 

 

   

 

 

   

 

 

 

Financing Activities

      

Net financing activities with Pfizer

     (4,438     (5,662     (7,350
  

 

 

   

 

 

   

 

 

 

Net cash used in financing activities

     (4,438     (5,662     (7,350
  

 

 

   

 

 

   

 

 

 

Effect of exchange-rate changes on cash and cash equivalents

     (1     —         —    
  

 

 

   

 

 

   

 

 

 

Net increase/(decrease) in cash and cash equivalents

     184       —         (2

Cash and cash equivalents, beginning

     —         —         2  
  

 

 

   

 

 

   

 

 

 

Cash and cash equivalents, end

   $ 184     $ —       $ —    
  

 

 

   

 

 

   

 

 

 

Supplemental Cash Flow Information

      

Cash paid during the period for:

      

Income taxes

   $ 1,076     $ 1,252     $ 1,216  

Interest

     —         —         —    

 

(a) 

As a result of the enactment of the Tax Cuts and Jobs Act (TCJA) in December 2017, Provision/(benefit) for taxes on income (i) for the year ended December 31, 2017, was favorably impacted by approximately $5.0 billion, primarily reflecting the remeasurement of U.S. deferred tax liabilities, which includes the repatriation tax on deemed repatriated accumulated post-1986 earnings of foreign subsidiaries; (ii) for the year ended December 31, 2018, was favorably impacted by approximately $49 million, primarily related to certain tax initiatives associated with the TCJA, as well as favorable adjustments to the provisional estimates of the legislation; and (iii) for the year ended December 31, 2019, was favorably impacted by approximately $67 million, primarily as a result of additional guidance issued by the U.S. Department of Treasury. See Note 7A. Tax Matters: Taxes on Income for additional information.

(b) 

Includes an allocation of insurance recoveries of $8.6 million for property damage related to Hurricane Maria. The remaining allocation of insurance recoveries of $22.0 million related to Hurricane Maria is included in cash provided by operating activities. See Note 6. Other (Income)/Deductions—Net for additional information.

Amounts may not add due to rounding.

See Notes to Combined Financial Statements, which are an integral part of these statements.

 

- 8 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 1. Business Description

Upjohn (collectively, Upjohn, the Upjohn Business, the business, the company, we, us and our) is a business unit of Pfizer Inc. (Pfizer). We are a China-based global pharmaceutical company with a portfolio of well-established, primarily off-patent branded and generic medicines, including Lyrica, Lipitor, Norvasc, Celebrex and Viagra, as well as a U.S.-based generics platform, Greenstone. Our pharmaceutical products are used to treat non-communicable diseases (NCDs). We commercialize, manufacture and develop pharmaceutical products across a broad range of therapeutic areas, including cardiovascular, pain and neurology, psychiatry, urology and ophthalmology. The accompanying combined financial statements include the accounts of all operations that comprise the Upjohn operations of Pfizer.

Our business and the pharmaceutical industry are characterized by meaningful differences in customer needs across different regions. As a result of these differences, among other things, we manage our commercial operations through three geographic regions: Developed Markets, Greater China and Emerging Markets. For additional information about this operating structure, see Note 18A.

Our revenues are derived from the sale of our pharmaceutical products in approximately 120 countries around the world. The majority of our revenue is generated in the U.S., China and Japan. We sell our products to physicians, patients, pharmacists and retail channels, insurers, government agencies and other healthcare providers.

Around the world, Upjohn manufacturing of active pharmaceutical ingredients and finished dosage forms is performed by a combination of internal and external manufacturing operations. We have eight manufacturing facilities located in Puerto Rico, Singapore, China, Ireland, Turkey, Egypt and Algeria. In 2019, we manufactured about 85% of the volume of active pharmaceutical ingredients for our pharmaceutical products, with the remainder of our active pharmaceutical ingredients manufactured by Pfizer or by third-party partners.

We have developed end-to-end experience across the total product life cycle, which includes global regulatory licensing, launch, growth and post-approval lifecycle management. Our research, development and medical platform seeks to maximize the impact of our existing product portfolio by examining whether there is an opportunity for new indications, label extensions, product formulations, and market registrations for our products. We also use our platform to determine whether there is an opportunity to integrate new products into our portfolio.

On July 29, 2019, Pfizer announced it had entered into a definitive agreement to combine Upjohn with Mylan N.V. (Mylan), creating a new global pharmaceutical company. The name of the new company to be formed by the planned combination of the Upjohn Business and Mylan will be “Viatris.” Under terms of the agreement, which is structured as an all-stock, Reverse Morris Trust transaction, Upjohn is expected to be spun-off or split-off to Pfizer’s shareholders and, immediately thereafter, combined with Mylan. Pfizer shareholders would own 57% of the combined new company, and former Mylan shareholders would own 43%. Upjohn will issue $12 billion of debt in connection with its separation from Pfizer, and the new company will make a cash payment to Pfizer equal to $12 billion as partial consideration for the contribution of the Upjohn Business from Pfizer to the new company. The transaction is generally expected to be tax free to Pfizer and Pfizer shareholders and is expected to close mid-2020, subject to Mylan shareholder approval and satisfaction of other customary closing conditions, including receipt of regulatory approvals.

Pfizer, the Upjohn Business and Mylan are in the process of negotiating the terms on which Pfizer would transfer its Meridian Medical Technologies business (Meridian), the manufacturer of EpiPen® and other auto-injector products, and/or certain Pfizer assets that currently form part of the Mylan-Japan collaboration for generic drugs in Japan (Mylan-Japan collaboration) to Viatris following the completion of the proposed combination of the Upjohn Business and Mylan. There can be no assurance that any agreement or transaction will result from these negotiations and if the parties are unsuccessful in their efforts to negotiate the terms of such potential transactions, Meridian and/or the Pfizer assets that currently form part of the Mylan-Japan collaboration will remain with Pfizer. The Upjohn Business’s results of operations, financial condition and cash flows presented in these combined financial statements and notes thereto do not include the results of operations, assets and liabilities or cash flows of Meridian and the Mylan-Japan collaboration.

Note 2. Basis of Presentation

The combined financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) and present the combined balance sheets of Upjohn as of December 31, 2019 and 2018 and the related combined statements of income, comprehensive income, equity and cash flows of Upjohn for each of the years in the three-year period ended December 31, 2019. For operations outside the U.S., the combined financial information is included as of and for the fiscal year ended November 30 for each year presented. All significant intercompany balances and transactions among the legal entities that comprise Upjohn have been eliminated. Balances due from or due to Pfizer that are expected to be cash-settled, if any, are included, depending on the nature of the balance, in Other current

 

- 9 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

assets, Other noncurrent assets, Other current liabilities and Other noncurrent liabilities on the combined balance sheets. All balances and transactions among Upjohn and Pfizer that are not cash-settled are shown as part of Business unit equity on the combined balance sheets and represent the net of amounts settled without payment (to)/from Pfizer. For additional information about balances and transactions among Upjohn and Pfizer, see Note 19.

Certain amounts in the combined financial statements and associated notes may not add due to rounding. All percentages have been calculated using unrounded amounts.

The combined financial statements have been derived from the consolidated financial statements and accounting records of Pfizer and include allocations for direct costs and indirect costs attributable to the operations of the Upjohn business of Pfizer. As part of a Pfizer reorganization beginning in 2019, Upjohn was positioned as a standalone division within Pfizer with distinct and dedicated manufacturing, marketing and other commercial activities, research, development, medical, regulatory and limited enabling functions. As a result, many of the costs for certain support functions that, prior to 2019, were provided to Upjohn on a centralized basis within Pfizer are now, beginning in 2019, incurred directly by Upjohn.

These combined financial statements do not purport to reflect what the results of operations, comprehensive income, financial position, equity or cash flows would have been had we operated as an independent standalone company during the periods presented.

 

 

The combined statements of income for 2018 and 2017 include allocations of certain non-product commercial costs managed by Pfizer’s commercial organization. These allocations are based on proportional allocation methods (e.g., using third-party sales) as well as certain cost metrics, depending on the nature of the costs, where not specifically identified. In 2019, there were no similar non-product commercial costs to be allocated in the Upjohn combined statement of income as these costs are, beginning in 2019, incurred directly by Upjohn.

 

 

The combined statements of income for 2018 and 2017 include allocations from certain support functions (Enabling Functions) that are provided on a centralized basis within Pfizer, such as expenses for business technology, facilities, legal, finance, human resources, insurance, public affairs and procurement, among others. Prior to 2019, Pfizer did not routinely allocate these costs to any of its business units. The combined statement of income for 2019 includes a combination of allocations to Upjohn and limited directly incurred costs for such Enabling Functions. Allocations are based on either a specific identification basis or, when specific identification is not practicable, proportional allocation methods (e.g., using third-party sales, headcount, etc.), depending on the nature of the services.

 

 

The combined statements of income for 2018 and 2017 include allocations of certain manufacturing and supply costs incurred by manufacturing plants that are shared with other Pfizer business units, Pfizer’s global external supply group and Pfizer’s global logistics and support group (collectively, PGS). These costs may include manufacturing variances and changes in the standard costs of inventory, among others. Prior to 2019, Pfizer did not routinely allocate these costs to any of its business units. The combined statement of income for 2019 includes such costs directly incurred by the Upjohn Global Supply network for manufacturing facilities, external supply, and logistics and support as well as allocations of costs incurred by manufacturing plants that are shared with other Pfizer business units and centralized PGS costs that Pfizer did not routinely allocate to its business units. Where used, allocations are based on either a specific identification basis or, when specific identification is not practicable, proportional allocation methods, such as Upjohn identified manufacturing costs, depending on the nature of the costs.

 

 

The combined statements of income include allocations of certain research, development and medical (RDM) expenses managed by Pfizer’s research and development (R&D) organization. Pfizer does not routinely allocate these costs to any of its business units. These allocations are based on either a specific identification basis or, when specific identification is not practicable, our estimates of the costs incurred in connection with the R&D activities associated with Upjohn.

 

 

The combined statements of income also include allocations from Enabling Functions and PGS for restructuring charges and additional depreciation associated with asset restructuring and implementation costs. Pfizer does not routinely allocate these costs to any of its business units. For additional information about allocations of restructuring charges and other costs associated with cost-reduction/productivity initiatives, see Note 5.

 

 

The combined statements of income include allocations of pension and postretirement service costs that have been deemed attributable to Upjohn operations. For information about allocations of pension and postretirement costs, see Note 15.

 

 

The combined statements of income include allocations of other corporate and commercial costs, which can include, but are not limited to, certain compensation items, such as share-based compensation expense and certain fringe benefit expenses maintained on a centralized basis within Pfizer, as well as Pfizer hedging activity on intercompany inventory. Pfizer does not routinely allocate these costs to any of its business units. For information about allocations of share-based payments, see Note 16. The combined statements of income for 2018 and 2017 also include allocations of other corporate and commercial costs for certain strategy, business development, portfolio management and valuation capabilities, which

 

- 10 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

  previously had been reported in various parts of the organization, as prior to 2019 Pfizer did not routinely allocate these costs to any of its business units. For these costs, the combined statement of income for 2019 includes a combination of allocations to Upjohn and directly incurred costs. Allocations are based on either a specific identification basis or, when specific identification is not practicable, proportional allocation methods (e.g., using third-party sales, headcount, etc.), depending on the nature of the services.

 

 

The combined statements of income include allocations of purchase accounting impacts resulting from business combinations. These impacts are primarily associated with the Upjohn related assets acquired as part of Pfizer’s acquisitions of Pharmacia in 2003 and Wyeth in 2009, and primarily include amortization related to the increase in fair value of the acquired finite-lived intangible assets. Upjohn did not enter into any business combinations during the periods covered by these combined financial statements.

 

 

The combined balance sheets reflect all of the assets and liabilities of Pfizer that are either specifically identifiable or are directly attributable to Upjohn and its operations. Cash from Upjohn operations in subsidiaries that are not completely Upjohn dedicated is not included in the combined balance sheets since this cash is swept into Pfizer’s centralized cash management system. We participate in Pfizer’s centralized cash management system and generally all excess cash is transferred to Pfizer on a daily basis. Cash disbursements for operations and/or investing activities are funded as needed by Pfizer. Accordingly, the Upjohn cash balance at December 31, 2019 and 2018 is not representative of an independent company and could be significantly different at another point in time.

 

 

For benefit plans, the combined balance sheets only include the assets and liabilities of benefit plans sponsored by Upjohn—see Note 15.

 

 

The combined financial statements do not include allocations of Pfizer corporate debt as none is specifically related to our operations. The combined statements of income include an allocation of Pfizer interest-related expenses, including the effect of hedging activities associated with the Pfizer corporate debt and an allocation for interest income associated with the Pfizer corporate investmentssee Note 6. We participate in Pfizer’s centralized hedging and offsetting programs. As such, in the combined statements of income, we include the impact of Pfizer’s derivative financial instruments used for offsetting changes in foreign currency rates net of the related exchange gains and losses for the portion that is deemed to be associated with Upjohn operations.

Management believes that the allocations are a reasonable reflection of the services received or the costs incurred on behalf of Upjohn and its operations and that the combined statements of income reflect all costs of the Upjohn Business of Pfizer.

The allocated expenses from Pfizer primarily include:

 

 

Commercial non-product costs—approximately $500 million in 2018 and $582 million in 2017 ($24 million deduction and $19 million deduction in Revenues; $5 million and $2 million in Cost of sales; $317 million and $415 million in Selling, informational and administrative expenses; $148 million and $148 million in Research and development expenses; $0.1 million and $0.2 million in Amortization of intangible assets; and $7 million and $2 million income in Other (income)/ deductions—net). The combined statement of income for 2019 includes all commercial costs identified with Upjohn.

 

 

Enabling functions operating expenses—approximately $620 million in 2019, $678 million in 2018 and $738 million in 2017 ($1 million income, $1 million income and $7 million income in Cost of sales; $617 million, $630 million and $695 million in Selling, informational and administrative expenses; and $3 million, $49 million and $50 million in Research and development expenses).

 

 

PGS manufacturing costs—approximately $96 million in 2019, $124 million in 2018 and $114 million in 2017 ($96 million, $122 million and $112 million in Cost of sales; $0.1 million income, $1 million and $3 million in Selling, informational and administrative expenses; and $0.2 million, $0.4 million and $0.1 million income in Research and development expenses).

 

 

Research, development and medical expenses—approximately $14 million in 2019, $56 million in 2018 and $63 million in 2017 ($9 million, $41 million and $42 million in Selling, informational and administrative expenses; and $5 million, $14 million and $21 million in Research and development expenses).

 

 

Restructuring charges—approximately $16 million in 2019, $56 million in 2018 and $1 million in 2017 (all included in Restructuring charges/(credits)).

 

 

Other costs associated with cost-reduction/productivity initiatives—additional depreciation associated with asset restructuring—approximately $1 million in 2019, $13 million in 2018 and $17 million in 2017 (all included in Cost of sales).

 

 

Other costs associated with cost-reduction/productivity initiatives—implementation costs—approximately $28 million in 2019, $35 million in 2018 and $41 million in 2017 ($14 million, $19 million and $25 million in Cost of sales; $11 million,

 

- 11 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

  $15 million and $16 million in Selling, informational and administrative expenses; and $2 million, $0.5 million and $0.6 million in Research and development expenses).

 

 

Fringe benefit expenses—approximately $2 million income in 2019, $14 million income in 2018 and $0.5 million income in 2017 (primarily $0.3 million income, $2 million income and $0.1 million income in Cost of sales; $1 million income, $12 million income and $0.4 million income in Selling, informational and administrative expenses; and negligible, $0.2 million income and negligible in Research and development expenses).

 

 

Share-based compensation expense—approximately $76 million in 2019, $104 million in 2018 and $103 million in 2017 ($7 million, $9 million and $9 million in Cost of sales; $56 million, $74 million and $75 million in Selling, informational and administrative expenses; and $12 million, $22 million and $20 million in Research and development expenses).

 

 

Other (income)/deductions-net—approximately $200 million in 2019, $279 million in 2018 and $163 million in 2017. Amounts primarily include an allocation of net interest expense of approximately $288 million in 2019, $252 million in 2018 and $259 million in 2017, reflecting an allocation for interest-related expenses, including the effect of hedging activities, associated with the Pfizer corporate debt and an allocation for interest income associated with the Pfizer corporate investments. In 2019, the amount also includes, among other things, an allocation of a gain associated with the disposal of a shared facility with Pfizer of $10 million, as well as an allocation of income from insurance recoveries of $31 million related to Hurricane Maria. In 2018, the amount also includes, among other things, an allocation of a gain associated with the disposal of a shared facility with Pfizer of $14 million. In 2017, the amount also includes, among other things, an allocation of benefits relating to certain initiatives in international jurisdictions of $84 million incomesee Note 6.

 

 

Other corporate and commercial costs—approximately $42 million in 2019, $69 million in 2018 and $131 million in 2017 ($35 million income, $3 million income and $95 million in Cost of sales; $62 million, $64 million and $36 million in Selling, informational and administrative expenses; and $15 million, $8 million and $0.4 million income in Research and development expenses).

The income tax provision/(benefit) in the combined statements of income has been calculated as if Upjohn filed a tax return separate from Pfizer in the various jurisdictions where it does business.

Note 3. Significant Accounting Policies

A. Adoption of New Accounting Standard

Leases—On January 1, 2019, we adopted a new accounting standard for leases and changed our lease policies accordingly. Under the new standard, the most significant change is the requirement of balance sheet recognition of right of use (ROU) assets and lease liabilities by lessees for those leases classified as operating leases. We adopted the new accounting standard utilizing the modified retrospective method using a simplified transition approach, and, therefore, no adjustments were made to our prior period financial statements. We have elected the package of practical expedients for transition which are permitted in the new standard. Accordingly, we did not reassess whether (i) any expired or existing contracts are or contain leases under the new standard, (ii) classification of leases as operating leases or capital leases would be different under the new standard, or (iii) any initial direct costs would have met the definition of initial direct costs under the new standard. Additionally, we did not elect to use hindsight in determining the lease term for existing leases as of January 1, 2019. We recorded noncurrent ROU assets of $21 million and current and noncurrent operating lease liabilities of $21 million as of January 1, 2019.

Adopting the standard related to leases impacted our prior period combined balance sheet as follows:

 

(millions of dollars)

   As Previously Reported
Balance at
December 31, 2018
     Effect of Change
Higher/(Lower)
     Balance at
January 1, 2019
 

Other noncurrent assets

   $ 312      $ 21      $ 333  

Other current liabilities

     2,460        5        2,464  

Other noncurrent liabilities

     407        17        424  

Adoption of the standard related to leases did not have a material impact on our combined statement of income or combined statement of cash flows for the year ended December 31, 2019. For additional information, see Note 3S.

 

- 12 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

B. Estimates and Assumptions

In preparing the combined financial statements, we use certain estimates and assumptions that affect reported amounts and disclosures, including amounts recorded in connection with acquisitions. These estimates and underlying assumptions can impact all elements of our combined financial statements. For example, in the combined statements of income, in addition to estimates used in determining the allocations of costs and expenses from Pfizer, estimates are used when accounting for deductions from revenues (such as rebates, sales allowances and sales returns), determining the cost of inventory that is sold, allocating cost in the form of depreciation and amortization and estimating restructuring charges and the impact of contingencies. On the combined balance sheets, estimates are used in determining the valuation and recoverability of assets, such as accounts receivables, inventories, deferred tax assets, fixed assets, goodwill and other identifiable intangible assets and estimates are used in determining the reported amounts of liabilities, such as taxes payable, benefit obligations, accruals for contingencies, rebates, sales allowances and sales returns, and restructuring reserves, all of which also impact the combined statements of income.

Our estimates are often based on complex judgments and assumptions that we believe to be reasonable but that can be inherently uncertain and unpredictable. If our estimates and assumptions are not representative of actual outcomes, our results could be materially impacted.

As future events and their effects cannot be determined with precision, our estimates and assumptions may prove to be incomplete or inaccurate, or unanticipated events and circumstances may occur that might cause us to change those estimates and assumptions. We are subject to risks and uncertainties that may cause actual results to differ materially from estimated amounts, such as changes in demand for our products, competition, litigation, legislation and regulations. We regularly evaluate our estimates and assumptions using historical experience and expectations about the future. We adjust our estimates and assumptions when facts and circumstances indicate the need for change. Those changes generally will be reflected in our combined financial statements on a prospective basis unless they are required to be treated retrospectively under relevant accounting standards. It is possible that others, applying reasonable judgment to the same facts and circumstances, could develop and support a range of alternative estimated amounts.

For information on estimates and assumptions in connection with legislation commonly referred to as TCJA, see Note 7A.

C. Acquisitions

Our combined financial statements include the operations of acquired businesses after completion of the acquisitions. We account for acquired businesses using the acquisition method of accounting, which requires, among other things, that most assets acquired and liabilities assumed be recognized at their estimated fair values as of the acquisition date and that the fair value of acquired in-process research and development (IPR&D) be recorded on the balance sheet. Transaction costs are expensed as incurred. Any excess of the consideration transferred over the assigned values of the net assets acquired is recorded as goodwill. When we acquire net assets that do not constitute a business, as defined in U.S. GAAP, no goodwill is recognized and any acquired IPR&D is expensed. We did not complete any acquisitions during the periods covered by these combined financial statements.

Amounts recorded in connection with an acquisition can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

D. Fair Value

Certain assets and liabilities are required to be measured at fair value, either upon initial recognition or for subsequent accounting or reporting. For example, we use fair value extensively in the initial recognition of net assets acquired in a business combination, when measuring certain impairment losses and when accounting for and reporting of certain financial instruments. Fair value is estimated using an exit price approach, which requires, among other things, that we determine the price that would be received to sell an asset or paid to transfer a liability in an orderly market. The determination of an exit price is considered from the perspective of market participants, considering the highest and best use of non-financial assets and, for liabilities, assuming that the risk of non-performance will be the same before and after the transfer.

When estimating fair value, depending on the nature and complexity of the asset or liability, we may use one or all of the following techniques:

 

   

Income approach, which is based on the present value of a future stream of net cash flows.

 

- 13 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

   

Market approach, which is based on market prices and other information from market transactions involving identical or comparable assets or liabilities.

 

   

Cost approach, which is based on the cost to acquire or construct comparable assets, less an allowance for functional and/or economic obsolescence.

These fair value methodologies depend on the following types of inputs:

 

   

Quoted prices for identical assets or liabilities in active markets (Level 1 inputs).

 

   

Quoted prices for similar assets or liabilities in active markets or quoted prices for identical or similar assets or liabilities in markets that are not active or inputs other than quoted prices that are directly or indirectly observable, or inputs that are derived principally from, or corroborated by, observable market data by correlation or other means (Level 2 inputs).

 

   

Unobservable inputs that reflect estimates and assumptions (Level 3 inputs).

A single estimate of fair value can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

E. Foreign Currency Translation

For most of our international operations, local currencies have been determined to be the functional currencies. We translate functional currency assets and liabilities to their U.S. dollar equivalents at exchange rates in effect at the balance sheet date and we translate functional currency income and expense amounts to their U.S. dollar equivalents at average exchange rates for the period. The U.S. dollar effects that arise from changing translation rates are recorded in Other comprehensive income/ (loss). The effects of converting non-functional currency assets and liabilities into the functional currency are recorded in Other (income)/deductions—net. For operations in highly inflationary economies, we translate monetary items at rates in effect as of the balance sheet date, with translation adjustments recorded in Other (income)/deductions—net, and we translate non-monetary items at historical rates.

F. Revenues and Trade Accounts Receivable

We recorded direct product sales of more than $1 billion for each of two products in 2019 and three products in 2018 and 2017. In the aggregate, these direct product sales represent 52% of our revenues in 2019, 65% of our revenues in 2018 and 61% of our revenues in 2017. These direct product sales are primarily in the Developed Markets and Greater China operating segments. For additional information, see Note 18C. The loss or expiration of intellectual property rights can have a significant adverse effect on our revenues as our contracts with customers will generally be at lower selling prices due to added competition and we generally provide for higher sales returns during the period in which individual markets begin to near the loss or expiration of intellectual property rights. We sell pharmaceutical products after patent expiration and, in limited cases, under patent worldwide.

Revenue Recognition—We record revenues from product sales when there is a transfer of control of the product from us to the customer. We determine transfer of control based on when the product is shipped or delivered and title passes to the customer.

 

   

Customers—Our products are sold principally to physicians, patients, pharmacists and retail channels, insurers, government agencies and other healthcare providers.

Our products that our patients ultimately use are generally covered under governmental programs, managed care programs and insurance programs, including those managed through pharmacy benefit managers, and are subject to sales allowances and/or rebates payable directly to those programs. Those sales allowances and rebates are generally negotiated, but government programs may have legislated amounts by type of product (e.g., patented or unpatented).

 

   

Our Sales Contracts—Sales on credit are typically under short-term contracts. Collections are based on market payment cycles common in various markets, with shorter cycles in the U.S. Sales are adjusted for sales allowances, chargebacks, rebates, sales returns and cash discounts. Sales returns occur due to product recalls or a changing competitive environment.

 

   

Deductions from Revenues—Our gross product revenues are subject to a variety of deductions, which generally are estimated and recorded in the same period that the revenues are recognized. Such variable consideration represents sales allowances, chargebacks, rebates, and sales returns. These deductions represent estimates of the related obligations and, as such, knowledge and judgment are required when estimating the impact of these revenue deductions on gross sales for a reporting period.

 

- 14 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Specifically:

 

   

In the U.S., we sell our products to distributors and hospitals under our sales contracts. However, we also have contracts with managed care or pharmacy benefit managers and legislatively mandated contracts with the federal and state governments under which we provide rebates to them based on medicines utilized by the customers they cover. We record provisions for Medicare, Medicaid, and performance-based contract pharmaceutical rebates based upon our experience ratio of rebates paid and actual prescriptions written during prior quarters. We apply the experience ratio to the respective period’s sales to determine the rebate accrual and related expense. This experience ratio is evaluated regularly to ensure that the historical trends are as current as practicable. We estimate discounts on branded prescription drug sales to Medicare Part D participants in the Medicare “coverage gap” based on the historical experience of beneficiary prescriptions and consideration of the utilization that is expected to result from the discount in the coverage gap. We evaluate this estimate regularly to ensure that the historical trends and future expectations are as current as practicable. For performance-based contract rebates, we also consider current contract terms, such as changes in formulary status and rebate rates.

 

   

Outside the U.S., the majority of our pharmaceutical sales allowances are contractual or legislatively mandated and our estimates are based on actual invoiced sales within each period, which reduces the risk of variations in the estimation process. In certain European countries, rebates are calculated on the government’s total unbudgeted pharmaceutical spending or on specific product sales thresholds and we apply an estimated allocation factor against our actual invoiced sales to project the expected level of reimbursement. We obtain third-party information that helps us monitor the adequacy of these accruals.

 

   

Provisions for pharmaceutical chargebacks (primarily reimbursements to U.S. wholesalers for honoring contracted prices to third parties) closely approximate actual amounts incurred, as we settle these deductions generally within two to five weeks of incurring the liability.

 

   

Provisions for sales returns are based on a calculation for each market that incorporates the following, as appropriate: local returns policies and practices; historical returns as a percentage of sales; an understanding of the reasons for past returns; estimated shelf life by product; an estimate of the amount of time between shipment and return or lag time; and any other factors that could impact the estimate of future returns, such as product recalls or a changing competitive environment. Generally, returned products are destroyed, and customers are refunded the sales price in the form of a credit.

 

   

We record sales incentives as a reduction of revenues at the time the related revenues are recorded or when the incentive is offered, whichever is later. We estimate the cost of our sales incentives based on our historical experience with similar incentives programs to predict customer behavior.

Our accruals for Medicare rebates, Medicaid and related state program rebates, performance-based contract rebates, chargebacks, sales allowances and sales returns and cash discounts totaled $1.6 billion as of December 31, 2019 and $2.2 billion as of December 31, 2018.

The following table provides information about the balance sheet classification of these accruals:

 

(millions of dollars)

   December 31,
2019
     December 31,
2018
 

Reserve against Trade accounts receivable, less allowance for doubtful accounts

   $ 435      $ 594  

Other current liabilities:

     

  Rebate accruals(a)

     737        1,309  

  Other accruals

     224        172  

Other noncurrent liabilities

     217        159  
  

 

 

    

 

 

 

Total accrued rebates and other accruals

   $ 1,614      $ 2,234  
  

 

 

    

 

 

 

 

(a) 

The decrease in rebate accruals reflects the loss of exclusivity of Lyrica in the United States, with multi-source generic competition beginning in July 2019.

Amounts recorded for revenue deductions can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

Taxes collected from customers relating to product sales and remitted to governmental authorities are excluded from Revenues.

Trade Accounts Receivable—Trade accounts receivable are stated at their net realizable value. The allowance against gross trade accounts receivable reflects the best estimate of probable losses inherent in the receivables portfolio determined on the basis of historical experience, specific allowances for known troubled accounts and other current information. Trade accounts receivable are written off after all reasonable means to collect the full amount (including litigation, where appropriate) have been exhausted.

 

- 15 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

G. Collaboration Arrangements

Payments to and from our collaboration partners are presented in our combined statements of income based on the nature of the arrangement (including its contractual terms), the nature of the payments and applicable accounting guidance. In collaborative arrangements where we manufacture a product for our collaboration partners, we record revenues when we transfer control of the product to our collaboration partners. In collaboration arrangements where we are the principal in the transaction, we record amounts paid to collaboration partners for their share of net sales or profits earned, and all royalty payments to collaboration partners as Cost of sales. Royalty payments received from collaboration partners are included in Other (income)/deductions—net.

H. Cost of Sales and Inventories

We carry inventories at the lower of cost or net realizable value. The cost of finished goods, work-in-process and raw materials is determined using average actual cost. We regularly review our inventories for impairment and reserves are established when necessary.

I. Selling, Informational and Administrative Expenses

Selling, informational and administrative costs are expensed as incurred. Among other things, these expenses include the internal and external costs of marketing, advertising, shipping and handling, information technology and legal defense.

Advertising expenses relating to production costs are expensed as incurred, and the costs of space in publications are expensed when the related advertising occurs. Advertising and promotion expenses totaled approximately $283 million in 2019, $428 million in 2018 and $501 million in 2017.

Shipping and handling costs, including warehousing expenses, totaled approximately $68 million in 2019, $88 million in 2018 and $61 million in 2017.

J. Research and Development Expenses

Research and development (R&D) costs are expensed as incurred.

K. Amortization of Intangible Assets, Depreciation and Certain Long-Lived Assets

Long-lived assets include:

 

   

Property, plant and equipment, less accumulated depreciation—These assets are recorded at cost and are increased by the cost of any significant improvements after purchase. Property, plant and equipment assets, other than land and construction-in-progress, are depreciated on a straight-line basis over the estimated useful life of the individual assets. Depreciation begins when the asset is ready for its intended use. For tax purposes, accelerated depreciation methods are used as allowed by tax laws.

 

   

Identifiable intangible assets, less accumulated amortization—These acquired assets are recorded at fair value. Intangible assets with finite lives are amortized on a straight-line basis over their estimated useful lives. Intangible assets with indefinite lives that are associated with marketed products are not amortized until a useful life can be determined.

 

   

Goodwill—Goodwill represents the excess of the consideration transferred for an acquired business over the assigned values of its net assets. Goodwill is not amortized. The goodwill included in our combined balance sheets reflects Upjohn’s portion of acquisition-specific goodwill generated from Pfizer’s historical acquisitions based on the relative fair value of the acquired Upjohn products.

Amortization expense related to finite-lived acquired intangible assets that contribute to our ability to sell, manufacture, research, market and distribute products, compounds and intellectual property is included in Amortization of intangible assets as these intangible assets benefit multiple business functions. Amortization expense related to intangible assets that are associated with a single function and depreciation of property, plant and equipment are included in Cost of sales, Selling, informational and administrative expenses and/or Research and development expenses, as appropriate.

We review all of our long-lived assets for impairment indicators throughout the year. We perform impairment testing for indefinite-lived intangible assets and goodwill at least annually and for all other long-lived assets whenever impairment indicators are present. When necessary, we record charges for impairments of long-lived assets for the amount by which the fair value is less than the carrying value of these assets.

 

- 16 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Specifically:

 

   

For finite-lived intangible assets, such as developed technology rights, and for other long-lived assets, such as property, plant and equipment, whenever impairment indicators are present, we calculate the undiscounted value of the projected cash flows associated with the asset, or asset group, and compare this estimated amount to the carrying amount. If the carrying amount is found to be greater, we record an impairment loss for the excess of book value over fair value. In addition, in all cases of an impairment review, we re-evaluate the remaining useful lives of the assets and modify them, as appropriate.

 

   

For indefinite-lived intangible assets, such as brands, when necessary, we determine the fair value of the asset and record an impairment loss, if any, for the excess of book value over fair value. In addition, in all cases of an impairment review, we re-evaluate whether continuing to characterize the asset as indefinite-lived is appropriate.

 

   

For goodwill, when necessary, we determine the fair value of each reporting unit and compare that value to its book value. If the carrying amount is found to be greater, we then determine the implied fair value of goodwill by subtracting the fair value of all the identifiable net assets other than goodwill from the fair value of the reporting unit and record an impairment loss, if any, for the excess of the book value of goodwill over the implied fair value.

Impairment reviews can involve a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

L. Restructuring Charges/(Credits) and Certain Acquisition-Related Costs

We may incur restructuring charges in connection with cost-reduction and productivity initiatives as well as in connection with acquisitions when we implement plans to restructure and integrate the acquired operations. If the restructuring action results in a change in the estimated useful life of an asset, that incremental impact is classified in Cost of sales, Selling, informational and administrative expenses and/or Research and development expenses, as appropriate. Termination costs are generally recorded when the actions are probable and estimable. Transaction costs, such as banking, legal, accounting and other costs incurred in connection with a business acquisition are expensed as incurred. For additional information, see Note 5. We did not complete any acquisitions during the periods covered by these combined financial statements.

Amounts recorded for restructuring charges and other associated costs can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

M. Cash Equivalents

Cash equivalents include items almost as liquid as cash, such as certificates of deposit and time deposits with maturity periods of three months or less when purchased. If items meeting this definition are part of a larger investment pool, we classify them as short-term investments. We did not have cash equivalents as of December 31, 2018.

N. Tax Assets and Liabilities and Income Tax Contingencies

Tax Assets and Liabilities

Current tax assets primarily include (i) tax effects associated with intercompany transfers of inventory within our combined group, which are recognized in the combined statements of income when the inventory is sold to a third party, as well as (ii) income tax receivables that are expected to be recovered either as refunds from taxing authorities or as a reduction to future tax obligations.

Deferred tax assets and liabilities are recognized for the expected future tax consequences of differences between the financial reporting and tax bases of assets and liabilities using enacted tax rates and laws, including the TCJA enacted in December 2017. We provide a valuation allowance when we believe that our deferred tax assets are not recoverable based on an assessment of estimated future taxable income that incorporates ongoing, prudent and feasible tax-planning strategies that would be implemented, if necessary, to realize the deferred tax assets. All deferred tax assets and liabilities within the same tax jurisdiction are presented as a net amount in the noncurrent section of our combined balance sheet. Amounts recorded for valuation allowances can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

Other non-current tax assets primarily represent our estimate of the potential tax benefits in one tax jurisdiction that could result from the payment of income taxes in another tax jurisdiction. These potential benefits generally result from cooperative efforts among taxing authorities, as required by tax treaties to minimize double taxation, commonly referred to as the

 

- 17 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

competent authority process. The recoverability of these assets, which we believe to be more likely than not, is dependent upon the actual payment of taxes in one tax jurisdiction and, in some cases, the successful petition for recovery in another tax jurisdiction.

Other taxes payable in our combined balance sheets as of December 31, 2019 and December 31, 2018 includes liabilities for uncertain tax positions and the noncurrent portion of the repatriation tax liability on the deemed repatriated accumulated post-1986 foreign earnings recorded in connection with the TCJA for which we elected, with the filing of our 2018 U.S. Federal Consolidated Income Tax Return, payment over eight years through 2026. For additional information, see Note 7A.

Income Tax Contingencies

We account for income tax contingencies using a benefit recognition model. If we consider that a tax position is more likely than not to be sustained upon audit, based solely on the technical merits of the position, we recognize the benefit. We measure the benefit by determining the amount that is greater than 50% likely of being realized upon settlement, presuming that the tax position is examined by the appropriate taxing authority that has full knowledge of all relevant information.

Under the benefit recognition model, if our initial assessment fails to result in the recognition of a tax benefit, we regularly monitor our position and subsequently recognize the tax benefit: (i) if there are changes in tax law, analogous case law or there is new information that sufficiently raise the likelihood of prevailing on the technical merits of the position to “more likely than not”; (ii) if the statute of limitations expires; or (iii) if there is a completion of an audit resulting in a favorable settlement of that tax year with the appropriate agency. We regularly re-evaluate our tax positions based on the results of audits of federal, state and local and foreign income tax filings, statute of limitations expirations, changes and clarification in tax law or receipt of new information that would either increase or decrease the technical merits of a position relative to the more-likely-than-not standard. Liabilities associated with uncertain tax positions are classified as current only when we expect to pay cash within the next 12 months. Interest and penalties, if any, are recorded in Provision/(benefit) for taxes on income and are classified in our combined balance sheet with the related tax liability.

Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but our estimates of unrecognized tax benefits and potential tax benefits may not be representative of actual outcomes, and variation from such estimates could materially affect our financial statements in the period of settlement or when the statutes of limitations expire, as we treat these events as discrete items in the period of resolution. Finalizing audits with the relevant taxing authorities can include formal administrative and legal proceedings, and, as a result, it is difficult to estimate the timing and range of possible changes related to our uncertain tax positions, and such changes could be significant. For information about the risks associated with estimates and assumptions, see Note 3B.

O. Benefit Plans

Generally, most of our employees are eligible to participate in benefit plans. The combined statements of income include benefit plan expenses attributable to Upjohn, including expenses associated with pension plans, postretirement plans and defined contribution plans. The expenses include allocations of direct expenses as well as expenses deemed attributable to the Upjohn operations. The combined balance sheets include the benefit plan assets and liabilities of only those plans that are sponsored by Upjohn. For additional information, see Note 15.

For Upjohn sponsored plans, we recognize the overfunded or underfunded status of defined benefit plans as an asset or liability in the combined balance sheets. The obligations generally are measured at the actuarial present value of all benefits attributable to employee service rendered, as provided by the applicable benefit formula. Pension obligations may include assumptions such as expected employee turnover, participant mortality, and future compensation levels. Plan assets are measured at fair value. Net periodic pension and postretirement costs other than service costs are recognized, as required, in Other (income)/deductions––net. Net periodic pension and postretirement service costs are recognized, as required, into Cost of sales, Selling, informational and administrative expenses and Research and development expenses, as appropriate.

For Pfizer sponsored plans, the combined balance sheets do not include benefit plan assets and liabilities associated with Upjohn employees participating in plans that are sponsored by Pfizer. The combined statements of income include estimated service cost associated with direct Upjohn employees and an allocation of estimated service cost deemed attributable to Upjohn operations. Service costs are recognized, as required, into Cost of sales, Selling, informational and administrative expenses and Research and development expenses, as appropriate.

Amounts recorded for benefit plans can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

 

- 18 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

P. Legal and Environmental Contingencies

We are subject to numerous contingencies arising in the ordinary course of business, such as patent litigation, product liability and other product-related litigation, commercial litigation, environmental claims and proceedings, government investigations and guarantees and indemnifications. We record accruals for these contingencies to the extent that we conclude that a loss is both probable and reasonably estimable. If some amount within a range of loss appears to be a better estimate than any other amount within the range, we accrue that amount. Alternatively, when no amount within a range of loss appears to be a better estimate than any other amount, we accrue the lowest amount in the range. We record anticipated recoveries under existing insurance contracts when recovery is reasonably assured.

We record accruals for the legal obligations associated with the retirement of tangible long-lived assets, including obligations under the doctrine of promissory estoppel and those that are conditioned upon the occurrence of future events. These obligations generally result from the acquisition, construction, development and/or normal operation of long-lived assets. We recognize the fair value of these obligations in the period in which they are incurred by increasing the carrying amount of the related asset. Over time, we recognize expense for the accretion of the liability and for the amortization of the asset.

Accruals for direct asset retirement obligations included in Other current liabilities are approximately $3 million as of December 31, 2019 and December 31, 2018 and included in Other noncurrent liabilities are approximately $47 million as of December 31, 2019 and $46 million as of December 31, 2018.

Amounts recorded for contingencies can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

Q. Share-Based Payments

Our compensation programs can include grants under Pfizer’s share-based payment plans. Generally, grants are accounted for at fair value and these fair values are generally amortized on a straight-line basis over the vesting terms into Cost of sales, Selling, informational and administrative expenses and/or Research and development expenses, as appropriate.

Amounts recorded for share-based compensation can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Note 3B.

R. Business Unit Equity

Total business unit equity represents Pfizer’s equity investment in Upjohn. Recorded amounts may reflect capital contributions and/or dividends or return of capital as well as the results of operations and other comprehensive income/(loss).

S. Leases

On January 1, 2019, we adopted a new accounting standard for leases. For further information, see Note 3A.

We lease real estate, fleet, and equipment for use in our operations. Our leases generally have lease terms of 1 to 10 years, some of which include options to terminate or extend leases for up to 5 years or on a month-to-month basis. We include options that are reasonably certain to be exercised as part of the determination of lease terms. We may negotiate termination clauses in anticipation of any changes in market conditions, but generally these termination options are not exercised. Residual value guarantees are generally not included within our operating leases with the exception of some fleet leases. In addition to base rent payments, the leases may require us to pay directly for taxes and other non-lease components, such as insurance, maintenance and other operating expenses, which may be dependent on usage or vary month-to-month. Variable lease payments amounted to $1 million for the year ended December 31, 2019. We have elected the practical expedient in the new standard to not separate non-lease components from lease components in calculating the amounts of ROU assets and lease liabilities for all underlying asset classes.

We determine if an arrangement is a lease at inception of the contract in accordance with guidance detailed in the new standard and we perform the lease classification test as of the lease commencement date. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we use our estimated incremental borrowing rate based on the information available at commencement date in determining the present value of future payments.

 

- 19 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

For operating leases, the ROU assets and liabilities are presented in our combined balance sheet as follows:

 

(millions of dollars)

   Balance Sheet
Classification
     December 31,
2019
 

ROU assets(a)

     Other noncurrent assets      $ 24  

Lease liabilities (short-term)(b)

     Other current liabilities        8  

Lease liabilities (long-term)(c)

     Other noncurrent liabilities        17  

 

(a) 

See Note 13B.

(b) 

See Note 14A.

(c) 

See Note 14B.

Our total lease costs are as follows:

 

(millions of dollars)

   Direct      Allocated      Year Ended
December 31,
2019
 

Operating lease cost

   $ 8      $ 22      $ 30  

Variable lease cost

     1        1        2  
  

 

 

    

 

 

    

 

 

 

Total lease cost

   $ 9      $ 23      $ 32  
  

 

 

    

 

 

    

 

 

 

Other supplemental information includes the following:

 

(millions of dollars)

   Weighted-Average
Remaining
Contractual Lease
Term (Years) as of
December 31,
2019
     Weighted-Average
Discount Rate as
of December 31,
2019
    Year Ended
December 31,
2019
 

Operating leases

     5.2        5.5  

Cash paid for amounts included in the measurement of lease liabilities:

       

Operating cash flows from operating leases

        $ 6  

ROU assets obtained in exchange for new operating lease liabilities

          8  

The table below reconciles the undiscounted cash flows for the first five years and total of the remaining years to the operating lease liabilities recorded in the combined balance sheet as of December 31, 2019:

 

(millions of dollars)

      

Period

   Operating Lease Liabilities  

Next one year(a)

   $ 8  

1-2 years

     8  

2-3 years

     4  

3-4 years

     2  

4-5 years

     1  

Thereafter

     5  
  

 

 

 

Total undiscounted lease payments

     28  

Less: imputed interest

     4  
  

 

 

 

Present value of minimum lease payments

     25  

Less: current portion

     8  
  

 

 

 

Noncurrent portion

   $ 17  
  

 

 

 

 

(a) 

Reflects lease payments due within 12 months subsequent to the December 31, 2019 balance sheet date.

Prior to our adoption of the new lease standard, rental expense, net of sublease income, was approximately $26 million in 2018 and $30 million in 2017, which includes allocated rent expense of $25 million in 2018 and $29 million in 2017.

As of December 31, 2018, the future minimum rental commitments under non-cancelable operating leases follow:

 

(millions of dollars)

   2019      2020      2021      2022      2023      After 2023      Total  

Lease commitments

   $ 7      $ 7      $ 6      $ 4      $ 1      $ 6      $ 31  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

See Note 19 for information about related party operating leases with Pfizer where we are the lessor.

 

- 20 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 4. Collaborative Arrangements

In the normal course of business, we enter into collaborative arrangements with respect to in-line medicines as well as medicines in development that require completion of research and regulatory approval. Collaborative arrangements are contractual agreements with third-parties that involve a joint operating activity, typically a research and/or commercialization effort, where both we and our partner are active participants in the activity and are exposed to the significant risks and rewards of the activity. Our rights and obligations under our collaborative arrangements vary. For example, we have agreements to co-promote pharmaceutical products discovered by us and we have agreements where we partner to co-develop and/or participate together in commercializing, marketing, promoting, manufacturing and/or distributing a drug product.

On December 20, 2019, our U.S.-based generics platform, Greenstone, entered into a collaboration agreement with Genzum Life Sciences LLC (Genzum) for an exclusive, royalty-free license to develop, manufacture and commercialize in the United States three complex generic sterile ophthalmic ointment products under development. Under the terms of the agreement, Genzum has sole responsibility to develop and obtain regulatory approval for the three products and we are responsible for all commercialization activities for the three products. In connection with this agreement, we made an upfront payment of $8.5 million to Genzum, which includes a nonrefundable portion of $4.5 million, which was recorded in Research and development expenses for the year ended December 31, 2019 and a $4 million refundable payment, which was recorded in Other noncurrent assets as of December 31, 2019. Should Genzum fail to achieve regulatory approval on a product-by-product basis on or before December 31, 2021, we are entitled to receive $4 million of the original upfront payment.

In addition to the new collaboration agreement with Genzum for three medicines in development, we have collaboration arrangements with two Japanese pharmaceutical companies that are associated with Lipitor, Celebrex and Lyrica.

The following table provides the amounts and classification of payments (income/(expense)) between us and our collaboration partners:

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Revenues(a)

   $ 360     $ 302     $ 318  
  

 

 

   

 

 

   

 

 

 

Cost of sales(b)

     (299     (262     (265

Selling, informational and administrative expenses(c)

     3       3       3  

Research and development expenses(d)

     (5     —         —    

Other income/(deductions)—net

     —         —         1  

 

(a) 

Represents sales to our partners of products manufactured by us.

(b) 

Primarily relates to amounts paid to collaboration partners for their share of net sales or profits earned in collaboration arrangements where we are the principal in the transaction, and cost of sales associated with inventory purchased from our partners.

(c) 

Represents net reimbursements from our partners for selling, informational and administrative expenses incurred.

(d) 

Represents payment to our partner in 2019 related to our collaboration agreement with Genzum, as described above.

Note 5. Restructuring Charges/(Credits) and Other Costs Associated with Cost-Reduction/Productivity Initiatives

The combined statements of income include costs associated with Pfizer’s cost-reduction/productivity initiatives. The expenses include direct costs and charges as well as an allocation of indirect costs and charges that have been deemed attributable to Upjohn. The combined balance sheets reflect the accrued restructuring charges directly attributable to the Upjohn operations. In connection with our cost-reduction/productivity initiatives, we typically incur costs and charges associated with site closings and other facility rationalization actions, workforce reductions and the expansion of shared services, including the development of global systems. All operating functions may be impacted by these actions, including sales and marketing, manufacturing and research and development, as well as groups such as worldwide technology, shared services and corporate operations. From 2017 through December 31, 2019, we incurred direct costs of $43 million related to Pfizer’s global cost-reduction/productivity initiatives across the enterprise, which in large part relate to employee termination costs.

2017-2019 Initiatives and Organizing for Growth

During 2018, Pfizer reviewed its business operations and determined that, at the start of its 2019 fiscal year, Pfizer would begin operating under a new commercial structure, which reorganized Pfizer operations into three businesses – Biopharma, a science-based innovative medicines business; Upjohn; and, through July 31, 2019, a Consumer Healthcare business. As part of a Pfizer reorganization beginning in 2019, Upjohn was positioned as a standalone division within Pfizer with distinct and dedicated manufacturing, marketing and other commercial activities, research, development, medical, regulatory and limited

 

- 21 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

enabling functions, which better enables us to optimize our growth potential. Beginning in the fourth quarter of 2018, Pfizer reviewed previously planned initiatives and new initiatives to form one cohesive plan. Initiatives for the combined program include activities related to the optimization of the Pfizer manufacturing plant network, the centralization of Pfizer corporate and platform functions, and the simplification and optimization of the operating business structure and functions that support them.

In 2019, we incurred direct restructuring and implementation charges of $140 million. In 2020, we expect to incur approximately $16 million of direct restructuring charges primarily related to employee termination costs to complete restructuring activities associated with the 2017-2019 cost-reduction initiatives. The 2020 restructuring charges are expected to be mostly cash charges and related to the Greater China segment ($14 million) and the Developed Markets segment ($2 million).

Current-Period Key Activities

The components of costs incurred in connection with the Pfizer cost-reduction/productivity initiatives described above follow:

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Restructuring Charges/(Credits):

      

Total Restructuring charges/(credits)—direct(a)

      

Employee termination costs/(credits)

   $ 131     $ (16   $ (81

Asset impairment charges

     11       —         —    

Exit costs

     1       —         —    
  

 

 

   

 

 

   

 

 

 

Total restructuring charges/(credits)—direct

     143       (16     (81
  

 

 

   

 

 

   

 

 

 

Restructuring charges/(credits)—allocated:(a)

      

Employee termination costs/(credits)

     8       52       (5

Asset impairment charges

     6       2       5  

Exit costs

     3       2       1  
  

 

 

   

 

 

   

 

 

 

Total restructuring charges/(credits)—allocated

     16       56       1  
  

 

 

   

 

 

   

 

 

 

Total restructuring charges/(credits)

     159       39       (80
  

 

 

   

 

 

   

 

 

 

Other Costs/(Credits) Associated with Cost-Reduction/Productivity Initiatives:

      

Additional depreciation associated with asset restructuringallocated(b)

     1       13       17  

Implementation costs/(credits)direct(c)

     (2     1       —    

Implementation costsallocated(c)

     28       35       41  
  

 

 

   

 

 

   

 

 

 

Total costs associated with cost-reduction/productivity initiatives

   $ 185     $ 89     $ (21
  

 

 

   

 

 

   

 

 

 

 

(a) 

In 2019, restructuring charges were primarily related to employee termination costs associated with cost-reduction and productivity initiatives. Direct asset impairment charges in 2019 were associated with a plant network initiative at Upjohn’s Little Island, Ireland manufacturing site. In 2018 and 2017, restructuring credits were primarily related to the reversal of previously recorded accruals for employee termination costs resulting from revisions of our severance benefit estimates. Employee termination costs are generally recorded when the actions are probable and estimable and include accrued severance benefits, pension and postretirement benefits, many of which may be paid out during periods after termination. In 2019, direct restructuring charges are related to the Developed Markets segment ($67 million), the Greater China segment ($59 million), the Emerging Markets segment ($4 million) and Other ($13 million). In 2018 and 2017, direct restructuring credits are all associated with the Developed Markets segment.

(b) 

Additional depreciation associated with asset restructuring represents the impact of changes in the estimated lives of assets involved in restructuring actions. In all years, the additional depreciation is primarily included in Cost of sales.

(c) 

Implementation costs represent external, incremental costs directly related to implementing cost-reduction/productivity initiatives, and primarily include expenditures related to system and process standardization and the expansion of shared services. Direct implementation credits in 2019 are included in Cost of sales ($3 million income), Selling, informational and administrative expenses ($0.4 million) and Research and development expenses ($0.1 million). Direct implementation costs in 2018 are included in Selling, informational and administrative expenses. In 2019, allocated implementation costs are included in Cost of sales ($14 million), Selling, informational and administrative expenses ($11 million) and Research and development expenses ($2 million). In 2018, allocated implementation costs are included in Cost of sales ($19 million), Selling, informational and administrative expenses ($15 million) and Research and development expenses ($0.5 million). In 2017, allocated implementation costs are included in Cost of sales ($25 million), Selling, informational and administrative expenses ($16 million) and Research and development expenses ($0.6 million).

 

- 22 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The components and activity of our direct restructuring charges identified with Upjohn follow:

 

(millions of dollars)

   Employee
Termination
Costs
    Asset
Impairments
    Exit
Costs
     Accrual  

Balance, January 1, 2018

   $ 144     $ —       $ —        $ 144  

Credit

     (16     —         —          (16

Utilization and other(a)

     (9     —         —          (9
  

 

 

   

 

 

   

 

 

    

 

 

 

Balance, December 31, 2018(b)

     118       —         —          118  

Provision

     131       11       1        143  

Utilization and other(a)

     (47     (11     —          (59
  

 

 

   

 

 

   

 

 

    

 

 

 

Balance, December 31, 2019(c)

   $ 202     $ —       $ 1      $ 202  
  

 

 

   

 

 

   

 

 

    

 

 

 

 

(a) 

Includes adjustments for foreign currency translation.

(b) 

Included in Other current liabilities ($40 million) and Other noncurrent liabilities ($79 million).

(c) 

Included in Other current liabilities ($153 million) and Other noncurrent liabilities ($49 million).

Note 6. Other (Income)/Deductions—Net

The following table provides components of Other (income)/deductions—net:

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Certain legal matters, net(a)

   $ 262     $ 73     $ 128  

Royalty-related income(b)

     (2     (9     (3

Net (gains)/losses on asset disposals(c)

     —         (14     —    

Net periodic benefit costs/(credits) other than service costs(d)

     (51     (36     4  

Other, net(e)

     (47     7       (5
  

 

 

   

 

 

   

 

 

 

Other (income)/deductionsnetdirect

     162       21       125  
  

 

 

   

 

 

   

 

 

 

Net interest expenseallocated(f)

     288       252       259  

Other, netallocated(g)

     (88     27       (96
  

 

 

   

 

 

   

 

 

 

Other (income)/deductionsnetallocated

     200       279       163  
  

 

 

   

 

 

   

 

 

 

Other (income)/deductions—net

   $ 362     $ 300     $ 288  
  

 

 

   

 

 

   

 

 

 

 

(a) 

In 2019 and 2018, primarily includes legal reserves for certain pending matters, partially offset by the reversal of legal accruals where a loss was no longer deemed probable. In 2017, primarily includes a charge to resolve a class action lawsuit filed by direct purchasers relating to Celebrex, which was approved by the court in April 2018. For additional information, see Note 17A.

(b) 

Royalty-related income decreased in 2019 as compared to 2018 primarily due to the discontinuance in 2018 of a royalty arrangement for sildenafil citrate and venlafaxine hydrochloride in the U.S.

(c) 

In 2018, primarily relates to a realized gain on the divestiture of certain products.

(d) 

Represents the net periodic benefit costs/(credits), excluding service costs, as a result of the adoption of a new accounting standard in the first quarter of 2018. In 2019, includes, among other things, a curtailment gain within our postretirement plan in Puerto Rico related to the elimination of coverage for certain non-Upjohn plan participants. Effective December 31, 2017, the Puerto Rico pension plans were frozen to future benefit accruals. In 2018, this resulted in the recognition of lower net periodic benefit costs due to the extension of the amortization period for the actuarial losses. For additional information, see Note 15.

(e) 

In 2019, includes, among other items, $24 million of rental income associated with related party leasing arrangements in Singapore entered into with Pfizer on May 27, 2019. For additional information, see Note 19.

(f) 

Reflects an allocation of interest expense associated with the Pfizer corporate debt and an allocation of interest income associated with the Pfizer corporate investments. Allocated capitalized interest expense totaled $19 million in each of 2019, 2018 and 2017.

(g) 

Represents allocation of miscellaneous other income and deductions. In 2019, among other things, includes an allocation of a gain associated with the disposal of a shared facility with Pfizer of $10 million, as well as an allocation of income from insurance recoveries of $31 million related to Hurricane Maria. Additionally, 2019 reflects a higher allocation of net gains associated with Pfizer’s investments and net currency exchange gains, as well as a lower allocation of net losses associated with Pfizer’s hedging activities, as compared to 2018. In 2018, among other things, includes an allocation of a gain associated with a manufacturing facility shared with Pfizer of $14 million. In 2017, among other things, includes an allocation of benefits relating to certain initiatives in international jurisdictions of $84 million.

Pfizer incurred a net loss of approximately $138 million in 2019 and $999 million in 2017 due to the early retirements of corporate debt, inclusive of the related termination of cross currency swaps. The combined statements of income for those years do not include an allocation of the net losses incurred by Pfizer on the early retirements of corporate debt. Pfizer does not routinely allocate these costs to any of its business units.

 

- 23 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 7. Tax Matters

A. Taxes on Income

During the periods presented in the combined financial statements, Upjohn did not generally file separate tax returns, as Upjohn was generally included in the tax grouping of other Pfizer entities within the respective entity’s tax jurisdiction. The income tax provision/(benefit) included in these combined financial statements has been calculated using the separate return basis, as if Upjohn filed a separate tax return.

The components of Income before provision/(benefit) for taxes on income follow:

 

     Year Ended December 31,  

(millions of dollars)

   2019      2018      2017  

United States

   $ 582      $ 1,307      $ 575  

International

     4,749        5,749        7,260  
  

 

 

    

 

 

    

 

 

 

Income before provision/(benefit) for taxes on income(a), (b)

   $ 5,331      $ 7,056      $ 7,835  
  

 

 

    

 

 

    

 

 

 

 

(a) 

2019 vs. 2018The decrease in the domestic income was primarily due to reduced Lyrica revenues in the U.S., increased costs related to certain legal matters (see Note 6) and an increase in restructuring charges. The decrease in the international income was primarily related to reduced international revenues and an increase in restructuring charges.

(b) 

2018 vs. 2017The increase in the domestic income was primarily due to lower interest expense paid to certain foreign subsidiaries, partially offset by lower Viagra revenue. The decrease in the international income was primarily related to lower interest income received primarily from intercompany borrowings from Pfizer and the non-recurrence of benefits relating to certain initiatives in international jurisdictions (see Note 6).

The components of Provision/(benefit) for taxes on income based on the location of the taxing authorities, follow:

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  
United States:       

Current income taxes:

      

Federal

   $ (100   $ 222     $ 874  

State and local

     4       15       25  

Deferred income taxes:

      

Federal

     30       53       822  

State and local

     9       —         (6
  

 

 

   

 

 

   

 

 

 

Total U.S. tax provision/(benefit)

     (57     290       1,715  
  

 

 

   

 

 

   

 

 

 

TCJA:

      

Current income taxes

     (39     (49     3,729  

Deferred income taxes

     (28     1       (8,717
  

 

 

   

 

 

   

 

 

 

Total TCJA tax benefit

     (67     (49     (4,988
  

 

 

   

 

 

   

 

 

 

International:

      

Current income taxes

     608       690       882  

Deferred income taxes

     (75     (6     24  
  

 

 

   

 

 

   

 

 

 

Total international tax provision

     533       684       906  
  

 

 

   

 

 

   

 

 

 

Provision/(benefit) for taxes on income

   $ 409     $ 925     $ (2,366
  

 

 

   

 

 

   

 

 

 

In the fourth quarter of 2017, we recorded an estimate of certain tax effects of the TCJA, including (i) the impact on deferred tax assets and liabilities from the reduction in the U.S. Federal corporate tax rate from 35% to 21%, (ii) the impact of state income tax considerations, (iii) the $4.3 billion repatriation tax liability on accumulated post-1986 foreign earnings for which we elected, with the filing of our 2018 U.S. Federal Consolidated Income Tax Return, payment over eight years through 2026 and (iv) deferred taxes on basis differences expected to give rise to future taxes on global intangible low-taxed income. In addition, we had provided deferred tax liabilities in the past on foreign earnings that were not indefinitely reinvested. As a result of the TCJA, in the fourth quarter of 2017, we reversed an estimate of the deferred taxes that is no longer expected to be needed due to the change to the territorial tax system.

In 2018, we finalized our provisional accounting for the tax effects of the TCJA, based on our best estimates of available information and data, and have reported and disclosed the impacts within the applicable measurement period, in accordance with guidance issued by the U.S. Securities and Exchange Commission (SEC), and recorded a favorable adjustment of approximately $26 million to Provision/(benefit) for taxes on income. We believe that there may be additional interpretations, clarifications and guidance from the U.S. Department of Treasury. Any change to our calculations resulting from such additional interpretations, clarifications and guidance will be reflected in the period of issuance. In addition, our obligations may vary as a result of changes in our uncertain tax positions and/or availability of attributes such as foreign tax and other credit carryforwards.

 

- 24 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

With respect to the aforementioned repatriation tax liability, our estimate is still approximately $4.3 billion, which is reported in current Income taxes payable (approximately $320 million) and the remaining liability is reported in noncurrent Other taxes payable in our combined balance sheet as of December 31, 2019. The first installment of $320 million was paid in April 2019.

The TCJA subjects a U.S. shareholder to current tax on global intangible low-taxed income earned by certain foreign subsidiaries. The Financial Accounting Standards Board (FASB) Staff Q&A, Topic 740, No. 5, Accounting for Global Intangible Low-Taxed Income, states that we are permitted to make an accounting policy election to either recognize deferred taxes for temporary basis differences expected to reverse as global intangible low-taxed income in future years or provide for the tax expense related to such income in the year the tax is incurred. We have elected to recognize deferred taxes for temporary differences expected to reverse as global intangible low-taxed income in future years. In 2017, we provided a provisional deferred tax liability of approximately $90 million based on the evaluation of certain temporary differences inside each of our foreign subsidiaries that are expected to reverse as global intangible low-taxed income. In 2018, this estimate was finalized and we have provided for an increase in the deferred tax liability of approximately $22 million, resulting in a deferred tax liability of approximately $112 million.

In 2019, the Provision/(benefit) for taxes on income was impacted by the following:

 

   

tax benefits of approximately $335 million, representing tax and interest resulting from the resolution of certain tax positions pertaining to prior years primarily resulting from a favorable settlement with the Internal Revenue Service (IRS) (see Note 7D below), and the expiration of certain statutes of limitations; and

 

   

tax benefits of approximately $67 million as a result of additional guidance issued by the U.S. Department of Treasury related to the enactment of the TCJA.

In 2018, the Provision/(benefit) for taxes on income was impacted by the following:

 

   

estimated U.S. net tax benefits of $49 million associated with the enactment of the TCJA (see discussion above), primarily reflecting:

 

   

approximately $22 million of tax benefits associated primarily with certain current year tax initiatives;

 

   

approximately $26 million of tax benefits associated with adjustments to our provisional accounting for the tax effects of the TCJA, reported and disclosed within the applicable measurement period, in accordance with guidance issued by the SEC, primarily consisting of:

 

   

$48 million of tax benefits related to the repatriation tax on deemed repatriated accumulated earnings of foreign subsidiaries; and

 

   

$22 million of tax expense related to future taxes on global intangible low-taxed income; and

 

   

tax benefits of approximately $29 million representing tax and interest resulting from the resolution of certain tax positions pertaining to prior years primarily with various foreign tax authorities, and the expiration of certain statutes of limitations.

In 2017, the Provision/(benefit) for taxes on income was impacted by the following:

 

   

estimated U.S. net tax benefits of $5.0 billion associated with the enactment of the TCJA (see discussion above), primarily reflecting:

 

   

$9.0 billion tax benefit related to remeasurement of U.S. deferred tax liabilities on unremitted earnings of foreign subsidiaries (see Note 7D);

 

   

$222 million tax expense associated with the remeasurement of other U.S. deferred tax assets, primarily associated with prepaid and deferred items (see Note 7D);

 

   

$3.7 billion tax expense related to the repatriation tax on deemed repatriated accumulated pre-2017 post-1986 earnings of foreign subsidiaries;

 

   

$90 million tax expense related to future taxes on global intangible low-taxed income (see Note 7D); and

 

   

approximately $24 million tax benefit primarily associated with certain tax initiatives;

 

   

U.S. tax expense of approximately $367 million related to the repatriation tax on deemed repatriated current year earnings of foreign subsidiaries;

 

   

tax benefits of approximately $16 million representing tax and interest resulting from the resolution of certain tax positions pertaining to prior years primarily with various foreign tax authorities, and the expiration of certain statutes of limitations; and

 

   

the non-deductibility of a $92 million fee payable to the federal government as a result of the U.S. Healthcare Legislation.

 

- 25 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

B. Tax Rate Reconciliation

The reconciliation of the U.S. statutory income tax rate to our effective tax rate for income/(loss) follows:

 

     Year Ended December 31,  
     2019     2018     2017  

U.S. statutory income tax rate

     21.0     21.0     35.0

TCJA impact(a)

     (1.3     (0.7     (63.7

Taxation of non-U.S. operations(b), (c)

     (5.5     (7.0     (1.9

Tax settlements and resolution of certain tax positions(d)

     (6.3     (0.4     (0.2

U.S. Healthcare Legislation(d), (e)

     —         —         0.4  

Certain legal settlements and charges

     (0.1     0.1       —    

All other––net(f)

     (0.3     0.2       0.1  
  

 

 

   

 

 

   

 

 

 

Effective tax rate for income/(loss)

     7.7     13.1     (30.2 )% 
  

 

 

   

 

 

   

 

 

 

 

(a) 

For a discussion about enactment of the TCJA, see Note 7A.

(b) 

For taxation of non-U.S. operations, this rate impact reflects the income tax rates and relative earnings in the locations where we do business outside the U.S., together with the cost of repatriation decisions, which, for 2017, includes the repatriation tax on deemed repatriated 2017 earnings of foreign subsidiaries discussed in Note 7A, changes in uncertain tax positions not included in the reconciling item called “Tax settlements and resolution of certain tax positions,” as well as changes in valuation allowances. Specifically: (i) the jurisdictional location of earnings is a significant component of our effective tax rate each year, and the rate impact of this component is influenced by the specific location of non-U.S. earnings and the level of such earnings as compared to our total earnings; (ii) the cost of repatriation decisions, and other U.S. tax implications of our foreign operations, is a significant component of our effective tax rate each year and generally offsets some of the reduction to our effective tax rate each year resulting from the jurisdictional location of earnings; and (iii) the impact of changes in uncertain tax positions not included in the reconciling item called “Tax settlements and resolution of certain tax positions” is a component of our effective tax rate each year that can result in either an increase or decrease to our effective tax rate. The jurisdictional mix of earnings, which includes the impact of the location of earnings as well as repatriation costs, can vary as a result of the repatriation decisions, as a result of operating fluctuations in the normal course of business and as a result of the extent and location of other income and expense items, such as restructuring charges and initiatives, asset impairments and gains and losses on strategic business decisions. See Note 7A for the components of pre-tax income and Provision/(benefit) for taxes on income, which are based on the location of the taxing authorities, and for information about settlements and other items impacting Provision/(benefit) for taxes on income.

(c) 

In all periods presented, the reduction in our effective tax rate resulting from the jurisdictional location of earnings is largely due to lower tax rates in certain jurisdictions, as well as manufacturing and other incentives associated with our subsidiaries in Puerto Rico and Singapore. We benefit from a Puerto Rican incentive grant that expires in 2029. Under the grant, we are partially exempt from income, property and municipal taxes. In Singapore, we benefit from incentive tax rates effective through mid-2030 on income from manufacturing and other operations.

(d) 

For a discussion about tax settlements and resolution of certain tax positions and the impact of U.S. Healthcare Legislation, see Note 7A.

(e) 

In 2019, there is a negligible unfavorable rate impact. The lack of rate impact in 2018 is a result of the updated 2017 invoice received from the federal government, which reflected a lower expense than what was previously estimated for invoiced periods, as well as certain tax initiatives.

(f) 

All othernet includes tax costs incurred in the normal course of business and tax benefits associated with certain tax initiatives in the normal course of business, including tax benefits associated with the U.S. research and development tax credit and manufacturing initiatives.

C. Deferred Taxes

Deferred taxes arise as a result of basis differentials between financial statement accounting and tax amounts.

The components of our deferred tax assets and liabilities, shown before jurisdictional netting, follow:

 

     2019 Deferred Tax*     2018 Deferred Tax*  

(millions of dollars)

   Assets     (Liabilities)     Assets     (Liabilities)  

Prepaid/deferred items

   $ 346     $ —       $ 405     $ —    

Inventories

     106       (3     79       (2

Intangible assets(a)

     24       (318     10       (352

Property, plant and equipment

     3       (22     —         (40

Employee benefits

     145       (48     133       (39

Restructuring and other charges

     18       —         25       —    

Legal and product liability reserves

     87       —         60       —    

Net operating loss/tax credit carryforwards(b), (c)

     153       —         146       —    

Unremitted earnings

     —         (36     —         (42

State and local tax adjustments

     17       —         25       —    

All other

     14       (1     6       (5
  

 

 

   

 

 

   

 

 

   

 

 

 
     913       (429     889       (480

Valuation allowances

     (124     —         (135     —    
  

 

 

   

 

 

   

 

 

   

 

 

 

Total deferred taxes

   $ 789     $ (429   $ 755     $ (480
  

 

 

   

 

 

   

 

 

   

 

 

 

Net deferred tax asset(d)

   $ 360       $ 274    

 

  

 

 

     

 

 

   

 

- 26 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

*    

For 2019 and 2018, the deferred tax assets and liabilities associated with global intangible low-taxed income are included in the relevant categories above. See Note 7A.

(a) 

The decrease in 2019 is primarily a result of amortization of intangible assets.

(b) 

The increase in 2019 is primarily a result of losses generated in certain foreign jurisdictions.

(c) 

The amounts in 2019 and 2018 are reduced for unrecognized tax benefits of $21 million and $16 million, respectively, where we have net operating loss carryforwards, similar tax losses, and/or tax credit carryforwards that are available, under the tax law of the applicable jurisdiction, to settle any additional income taxes that would result from the disallowance of a tax position.

(d) 

In 2019, included in Noncurrent deferred tax assets and other noncurrent tax assets of $398 million and Noncurrent deferred tax liabilities of $38 million. In 2018, included in Noncurrent deferred tax assets and other noncurrent tax assets of $331 million and Noncurrent deferred tax liabilities of $56 million.

We have carryforwards, primarily related to net operating losses, which are available to reduce future international income taxes payable with either an indefinite life or expiring at various times from 2020-2034.

Valuation allowances are provided when we believe that our deferred tax assets are not recoverable based on an assessment of estimated future taxable income that incorporates ongoing, prudent and feasible tax planning strategies, that would be implemented, if necessary, to realize the deferred tax assets.

As of December 31, 2019, we have not made a U.S. tax provision on approximately $8 billion of unremitted earnings of our international subsidiaries. As these earnings are intended to be indefinitely reinvested overseas, the determination of a hypothetical unrecognized deferred tax liability as of December 31, 2019 is not practicable.

D. Tax Contingencies

We are subject to income tax in many jurisdictions, and a certain degree of estimation is required in recording the assets and liabilities related to income taxes. All our tax positions are subject to audit by the local taxing authorities in each tax jurisdiction. These tax audits can involve complex issues, interpretations and judgments and the resolution of matters may span multiple years, particularly if subject to negotiation or litigation. Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but our estimates of unrecognized tax benefits and potential tax benefits may not be representative of actual outcomes, and variation from such estimates could materially affect our financial statements in the period of settlement or when the statutes of limitations expire, as we treat these events as discrete items in the period of resolution.

For a description of our accounting policies associated with accounting for income tax contingencies, see Note 3N. For a description of the risks associated with estimates and assumptions, see Note 3B.

Uncertain Tax Positions

As tax law is complex and often subject to varied interpretations, it is uncertain whether some of our tax positions will be sustained upon audit. As of December 31, 2019, we had approximately $908 million in net unrecognized tax benefits, excluding associated interest and, as of December 31, 2018, we had approximately $1.1 billion in net unrecognized tax benefits, excluding associated interest.

 

   

Tax assets associated with uncertain tax positions primarily represent our estimate of the potential tax benefits in one tax jurisdiction that could result from the payment of income taxes in another tax jurisdiction. These potential benefits generally result from cooperative efforts among taxing authorities, as required by tax treaties to minimize double taxation, commonly referred to as the competent authority process. The recoverability of these assets, which we believe to be more likely than not, is dependent upon the actual payment of taxes in one tax jurisdiction and, in some cases, the successful petition for recovery in another tax jurisdiction. As of December 31, 2019, we had approximately $242 million in assets associated with uncertain tax positions and as of December 31, 2018, we had approximately $237 million in assets associated with uncertain tax positions. These amounts were included in Noncurrent deferred tax assets and other noncurrent tax assets.

 

   

Tax liabilities associated with uncertain tax positions represent unrecognized tax benefits, which arise when the estimated benefit recorded in our financial statements differs from the amounts taken or expected to be taken in a tax return because of the uncertainties described above. These unrecognized tax benefits relate primarily to issues common among multinational corporations. Substantially all of these unrecognized tax benefits, if recognized, would impact our effective income tax rate.

 

- 27 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The reconciliation of the beginning and ending amounts of gross unrecognized tax benefits follows:

 

(millions of dollars)

   2019     2018     2017  

Balance, beginning

   $ (1,305   $ (1,372   $ (1,193

Increases based on tax positions taken during a prior period(a)

     (9     (13     (5

Decreases based on tax positions taken during a prior period(a), (b)

     210       107       3  

Decreases based on settlements for a prior period(c)

     4       11       7  

Increases based on tax positions taken during the current period(a)

     (80     (71     (180

Impact of foreign exchange

     3       11       (21

Other, net(a), (d)

     27       21       17  
  

 

 

   

 

 

   

 

 

 

Balance, ending(e)

   $ (1,150   $ (1,305   $ (1,372
  

 

 

   

 

 

   

 

 

 

 

(a) 

Primarily included in Provision/(benefit) for taxes on income.

(b) 

Primarily related to effectively settling certain issues with the U.S. and foreign tax authorities. See Note 7A.

(c) 

Primarily related to cash payments and reductions of tax attributes.

(d) 

Primarily related to decreases as a result of a lapse of applicable statutes of limitations.

(e) 

In 2019, these amounts were included in Income taxes payable ($20 million) and Other taxes payable ($1.1 billion). In 2018, these amounts were included in Income taxes payable ($1.9 million) and Other taxes payable ($1.3 billion).

 

   

Interest related to our unrecognized tax benefits is recorded in accordance with the laws of each jurisdiction and is recorded primarily in Provision/(benefit) for taxes on income in our combined statements of income. In 2019, we recorded a net decrease in interest of $109 million, resulting primarily from a settlement with the IRS; in 2018, we recorded a net increase in interest of $32 million; and in 2017, we recorded a net increase in interest of $47 million. Gross accrued interest totaled $111 million as of December 31, 2019 (reflecting a decrease of approximately $1 million as a result of cash payments). Gross accrued interest totaled $221 million as of December 31, 2018 (reflecting a decrease of approximately $2 million as a result of cash payments). In 2019, this amount was included in Income taxes payable ($4 million) and Other taxes payable ($107 million). In 2018, this amount was included in Income taxes payable ($1 million) and Other taxes payable ($220 million). Accrued penalties are not significant. See Note 7A.

Status of Tax Audits and Potential Impact on Accruals for Uncertain Tax Positions

The U.S. is one of our major tax jurisdictions, and we are regularly audited by the IRS:

 

   

In 2019, Pfizer reached a settlement of disputed issues at the IRS Office of Appeals, thereby settling all issues related to tax returns of Pfizer for the years 2009-2010. As a result of settling these years, in 2019, we recorded a tax benefit of approximately $290 million, representing tax and interest.

 

   

Tax years 2011-2015 are currently under audit. Tax years 2016-2019 are open, but not under audit. All other tax years are closed.

In addition to the open audit years in the U.S., we have open audit years in other major tax jurisdictions, such as Asia (2009-2019, primarily reflecting Japan, China and Singapore), Canada (2013-2019), Europe (2011-2019, primarily reflecting Ireland, the United Kingdom, France, Italy, Spain and Germany), Latin America (1998-2019, primarily reflecting Brazil) and Puerto Rico (2015-2019).

Any settlements or statutes of limitations expirations could result in a significant decrease in our uncertain tax positions. We estimate that it is reasonably possible that within the next 12 months, our gross unrecognized tax benefits, exclusive of interest, could decrease by as much as $29 million, as a result of settlements with taxing authorities or the expiration of the statutes of limitations. Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but our estimates of unrecognized tax benefits and potential tax benefits may not be representative of actual outcomes, and variation from such estimates could materially affect our financial statements in the period of settlement or when the statutes of limitations expire, as we treat these events as discrete items in the period of resolution. Finalizing audits with the relevant taxing authorities can include formal administrative and legal proceedings, and, as a result, it is difficult to estimate the timing and range of possible changes related to our uncertain tax positions, and such changes could be significant.

 

- 28 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

E. Tax Provision/(Benefit) on Other Comprehensive Income/(Loss)

The following table provides the components of the Tax provision/(benefit) on other comprehensive income/(loss):

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

Benefit plans: actuarial gains/(losses), net

   $ 4     $ (13   $ 21  

Reclassification adjustments related to amortization

     2       3       5  

Reclassification adjustments related to curtailments and settlements

     —         —         —    

Other

     (5     1       3  
  

 

 

   

 

 

   

 

 

 
     2       (9     29  
  

 

 

   

 

 

   

 

 

 

Benefit plans: prior service (costs)/credits and other, net

     —         —         —    

Reclassification adjustments related to amortization

     (2     (2     (2

Reclassification adjustments related to curtailments, net

     —         —         —    

Other

     —         —         (1
  

 

 

   

 

 

   

 

 

 
     (2     (2     (2
  

 

 

   

 

 

   

 

 

 

Tax provision/(benefit) on other comprehensive income/(loss)

   $ —       $ (11   $ 27  
  

 

 

   

 

 

   

 

 

 

Note 8. Accumulated Other Comprehensive Income/(Loss)

The following table provides the changes, net of tax, in Accumulated other comprehensive loss:

 

     Net Unrealized
Gains/(Losses)
    Benefit Plans        

(millions of dollars)

   Currency
Translation
Adjustment
    Actuarial
Gains/(Losses)
    Prior Service
(Costs)/Credits
and Other
    Accumulated
Other
Comprehensive
Income/(Loss)
 

Balance, January 1, 2017

   $ (378   $ (528   $ 151     $ (755

Other comprehensive income/(loss)(a)

     213       95       (23     286  
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2017

     (165     (433     128       (470

Other comprehensive income/(loss)(a)

     (165     3       (29     (191
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2018

     (330     (429     99       (660

Other comprehensive income/(loss)(a)

     (12     5       (40     (47
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2019

   $ (341   $ (424   $ 59     $ (707
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) 

Amounts do not include foreign currency translation adjustments attributable to noncontrolling interests of $1.9 million loss in 2019, $1.4 million loss in 2018 and $0.9 million income in 2017.

As of December 31, 2019, we estimate that we will reclassify into 2020 income a pre-tax amount currently held in Accumulated other comprehensive loss of $15 million consisting of actuarial losses related to benefit plan obligations and plan assets and other benefit plan items, and $18 million of prior service credits, primarily related to benefit plan amendmentssee Note 15.

Note 9. Financial Instruments

The combined balance sheets include the financial assets and liabilities that are directly attributable to Upjohn—see Note 2.

Financial Assets and Liabilities

As of December 31, 2019 and December 31, 2018, financial assets and liabilities consist primarily of cash and cash equivalents (as of December 31, 2019 only), accounts receivable and accounts payable.

The recorded amounts for cash and cash equivalents, accounts receivable and accounts payable approximate fair value because of the short-term nature of these instruments.

 

- 29 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 10. Inventories

The combined balance sheets include all of the inventory directly attributable to Upjohn.

The following table provides the components of Inventories:

 

     As of December 31,  

(millions of dollars)

   2019      2018  

Finished goods

   $ 441      $ 301  

Work-in-process

     593        870  

Raw materials and supplies

     121        65  
  

 

 

    

 

 

 

Inventories

   $ 1,155      $ 1,235  
  

 

 

    

 

 

 

Noncurrent inventories not included above(a)

   $ 76      $ 55  
  

 

 

    

 

 

 

 

(a) 

Included in Other noncurrent assets—see Note 13B. There are no recoverability issues associated with these amounts.

Note 11. Property, Plant and Equipment

The combined balance sheets include the property, plant and equipment specifically identifiable with Upjohn. The combined statements of income include all the depreciation charges deemed attributable to the Upjohn operations.

The following table provides the components of Property, plant and equipment:

 

            As of December 31,  

(millions of dollars)

   Useful Lives
(Years)
     2019     2018  

Assets held and used:

       

Land

     —        $ 21     $ 21  

Buildings

     33-50        659       850  

Machinery and equipment

     8-20        1,222       1,586  

Furniture, fixtures and other

     3-12 1/2        71       69  

Construction-in-progress

     —          152       153  
     

 

 

   

 

 

 
        2,127       2,679  

Less: Accumulated depreciation

        (1,436     (1,726
     

 

 

   

 

 

 

Property, plant and equipment held and used(a)

        691       952  
     

 

 

   

 

 

 

Assets held for lease:

       

Buildings

     33-50        227       —    

Machinery and equipment

     8-20        409       —    

Furniture, fixtures and other

     3-12 1/2        14       —    

Construction-in-progress

     —          18       —    
     

 

 

   

 

 

 
        668       —    

Less: Accumulated depreciation

        (360     —    
     

 

 

   

 

 

 

Property, plant and equipment held for lease(a)

        308       —    
     

 

 

   

 

 

 

Property, plant and equipment, less accumulated depreciation(b)

      $ 999     $ 952  
     

 

 

   

 

 

 

 

(a) 

A lease agreement between Pfizer and Upjohn was executed as of May 27, 2019, regarding the Tuas, Singapore manufacturing plant assets. These assets were included in Assets held and used in 2018. No assets were held for lease as of December 31, 2018. For additional information, see Note 19.

(b) 

The increase in total Property, plant and equipment, less accumulated depreciation at December 31, 2019 is primarily due to capital additions substantially driven by building projects at our manufacturing site in Dalian, China as well as machinery and equipment additions at our manufacturing sites in Dalian, China and Little Island, Ireland, partially offset by depreciation and the impact of foreign exchange.

Note 12. Identifiable Intangible Assets and Goodwill

The combined balance sheets include all of the goodwill and identifiable intangible assets directly attributable to Upjohn. The combined statements of income include all of the amortization expense associated with finite-lived identifiable intangible assets.

 

- 30 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

A. Identifiable Intangible Assets

Balance Sheet Information

The following table provides the components of Identifiable intangible assets:

 

     December 31, 2019  

(millions of dollars)

   Gross
Carrying
Amount
     Accumulated
Amortization
    Identifiable
Intangible
Assets, less
Accumulated
Amortization
 

Finite-lived intangible assets:

       

Developed technology rights

   $ 16,282      $ (16,014   $ 268  

Licensing agreements and other

     79        (79     —    

Trademarks

     6        (3     3  
  

 

 

    

 

 

   

 

 

 

Total finite-lived intangible assets

     16,367        (16,096     270  

Indefinite-lived intangible assets-Brands

     1,164        —         1,164  
  

 

 

    

 

 

   

 

 

 

Identifiable intangible assets(a)

   $ 17,530      $ (16,096   $ 1,434  
  

 

 

    

 

 

   

 

 

 

 

(a) 

The decrease in Identifiable intangible assets, less accumulated amortization from December 31, 2018 is primarily due to amortization as well as the impact of foreign exchange.

The following table provides the components of Identifiable intangible assets:

 

     December 31, 2018  

(millions of dollars)

   Gross
Carrying
Amount
     Accumulated
Amortization
    Identifiable
Intangible
Assets, less
Accumulated
Amortization
 

Finite-lived intangible assets

       

Developed technology rights

   $ 16,359      $ (15,943   $ 416  

Licensing agreements and other

     79        (79     —    

Trademarks

     6        (3     3  
  

 

 

    

 

 

   

 

 

 

Total finite-lived intangible assets

     16,444        (16,025     419  

Indefinite-lived intangible assets-Brands

     1,164        —         1,164  
  

 

 

    

 

 

   

 

 

 

Identifiable intangible assets

   $ 17,608      $ (16,025   $ 1,583  
  

 

 

    

 

 

   

 

 

 

Brands

Brands represent the cost associated with tradenames and know-how, as the products themselves do not receive patent protection. Xanax is the only indefinite-lived brand in our business.

Developed Technology Rights

Developed technology rights represent the amortized cost associated with developed technology, which has been acquired from third parties and which can include the right to develop, use, market, sell and/or offer for sale the product, compounds and intellectual property that we have acquired with respect to products, compounds and/or processes that have been completed. The developed technology rights are primarily associated with Effexor and Celebrex.

Trademarks

Trademarks represent the amortized cost associated with legal trademarks. The finite-lived trademarks are substantially all related to Lipitor.

Amortization

The weighted-average remaining life for our total finite-lived intangible assets is approximately 2 years. The weighted-average remaining life for the largest components of finite-lived intangible assets is approximately 2 years for developed technology rights.

Total amortization expense for finite-lived intangible assets was $148 million in 2019, $157 million in 2018 and $167 million in 2017.

 

- 31 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The annual amortization expense expected for the years 2020 through 2024 is as follows:

 

(millions of dollars)

   2020      2021      2022      2023      2024  

Amortization expense

   $ 145      $ 122      $ 1      $ 1      $ 1  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

B. Goodwill

The following table provides the components of and changes in the carrying amount of Goodwill:

 

(millions of dollars)

   Developed
Markets
    Greater
China
    Emerging
Markets
    Total  

Balance, January 1, 2018

   $ 5,978     $ 1,950     $ 904     $ 8,832  

Other(a)

     (57     (5     (35     (97
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2018

     5,921       1,945       869       8,735  

Other(a)

     (39     (1     14       (26
  

 

 

   

 

 

   

 

 

   

 

 

 

Balance, December 31, 2019

   $ 5,883     $ 1,944     $ 883     $ 8,709  
  

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) 

Reflects the impact of foreign exchange.

Note 13. Other Current and Noncurrent Assets

A. Other Current Assets

The following table provides the components of Other current assets:

 

    

As of December 31,

 

(millions of dollars)

   2019      2018  

VAT receivables

   $ 148      $ 126  

Prepaid expenses

     53        86  

Other accounts receivable

     49        36  

Related party receivable(a)

     4        —    

Other

     8        9  
  

 

 

    

 

 

 

Other current assets

   $ 261      $ 256  
  

 

 

    

 

 

 

 

(a) 

See Note 19.

B. Other Noncurrent Assets

The following table provides the components of Other noncurrent assets:

 

    

As of December 31,

 

(millions of dollars)

   2019      2018  

Pension plan assets, net(a)

   $ 165      $ 139  

Noncurrent inventory(b)

     76        55  

Spare parts inventory

     55        52  

Deferred charges

     32        14  

ROU assets(c)

     24        —    

Deposits and advances

     20        19  

VAT receivables

     10        18  

Other

     18        15  
  

 

 

    

 

 

 

Other noncurrent assets

   $ 399      $ 312  
  

 

 

    

 

 

 

 

(a) 

See Note 15.

(b) 

See Note 10.

(c) 

See Note 3S.

 

- 32 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 14. Other Current and Noncurrent Liabilities

A. Other Current Liabilities

The following table provides the components of Other current liabilities:

 

     As of December 31,  

(millions of dollars)

   2019      2018  

Rebate accruals(a)

   $ 737      $ 1,309  

Legal contingencies(b)

     431        204  

Accrued sales returns(a)

     200        130  

Restructuring accruals(c)

     153        40  

VAT payable

     82        96  

Co-marketing expense accruals

     73        68  

Inventory related accruals

     57        67  

Service accruals

     53        50  

U.S. Healthcare fee accruals

     48        77  

Profit share liabilities

     28        31  

Utility accruals

     25        20  

Trade discount accruals

     21        36  

Property and other tax accruals

     16        24  

Research and development accruals

     14        16  

Royalty accruals(a)

     13        107  

Advertising and promotional accruals

     13        23  

Lease liabilities(d)

     8        —    

Deferred revenue

     7        6  

Chargeback accruals

     3        6  

Asset retirement obligations

     3        3  

Other

     139        145  
  

 

 

    

 

 

 

Other current liabilities

   $ 2,125      $ 2,460  
  

 

 

    

 

 

 

 

(a) 

The decrease in rebate accruals and royalty accruals and the increase in accrued sales returns reflect the loss of exclusivity of Lyrica in the United States, with multi-source generic competition beginning in July 2019.

(b) 

See Note 17A.

(c) 

See Note 5.

(d) 

See Note 3S.

B. Other Noncurrent Liabilities

The following table provides the components of Other noncurrent liabilities:

 

     As of December 31,  

(millions of dollars)

   2019      2018  

Accrued sales returns(a)

   $ 217      $ 159  

Legal contingencies(b)

     72        83  

Restructuring accruals(c)

     49        79  

Asset retirement obligations

     47        46  

Lease liabilities(d)

     17        —    

Insurance reserves

     7        18  

Related party payable(e)

     1        —    

Other

     16        22  
  

 

 

    

 

 

 

Other noncurrent liabilities

   $ 426      $ 407  
  

 

 

    

 

 

 

 

(a) 

The increase in accrued sales returns reflects the loss of exclusivity of Lyrica in the United States, with multi-source generic competition beginning in July 2019.

(b) 

See Note 17A.

(c) 

See Note 5.

(d) 

See Note 3S.

(e) 

See Note 19.

 

- 33 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Note 15. Benefit Plans

The combined statements of income include benefit plan expenses attributable to Upjohn, including expenses associated with defined benefit and defined contribution plans, as well as other postretirement plans, consisting primarily of retiree medical benefits. The expenses include allocations of direct expenses as well as expenses that have been deemed attributable to the Upjohn operations.

The combined statements of income include the net periodic pension and postretirement costs associated with plans sponsored by Upjohn (service cost component is for the Upjohn participants only). Net periodic pension and postretirement costs other than service costs are recognized, as required, in Other (income)/deductions—net. Net periodic pension and postretirement service costs for the Upjohn participants only are recognized, as required, into Cost of sales, Selling, informational and administrative expenses and Research and development expenses, as appropriate.

The combined balance sheets include the pension and postretirement benefit plan assets and liabilities of only those plans or arrangements sponsored by Upjohn. As of December 31, 2019, Upjohn is the sponsor of 18 pension plans, primarily in Puerto Rico, Japan, Korea, Taiwan, United Arab Emirates, Italy, the Philippines, Greece, Thailand, China, Germany, France and Kuwait, among other countries. As of December 31, 2018, Upjohn was the sponsor of four pension plans: two in Puerto Rico, one in Japan and one in China. In 2019, the two pension plans in Puerto Rico were merged, resulting in one Upjohn sponsored pension plan in Puerto Rico as of December 31, 2019. The 15 additional pension plans sponsored by Upjohn in 2019, which represent newly formed Upjohn plans for participants who previously participated in plans sponsored by Pfizer, are unfunded plans, except for the pension plans in Korea, the Philippines and Taiwan, and have aggregate net pension liabilities of approximately $30 million included in Pension benefit obligations, net ($29 million) and Accrued compensation and related items ($1 million) in the combined balance sheet at December 31, 2019. Effective December 31, 2017, the two Puerto Rico pension plans at the time were frozen to future benefit accruals. In 2018, this resulted in the recognition of lower net periodic benefit costs due to the elimination of service cost and extension of the amortization period for the actuarial losses. Upjohn is the sponsor of one postretirement plan in Puerto Rico. Included in certain of the Upjohn sponsored plans are both Upjohn and non-Upjohn Pfizer participants. The combined balance sheets at December 31, 2019 and December 31, 2018 reflect the pension plan assets and pension and postretirement plan obligations associated with the non-Upjohn Pfizer active plan participants and inactive members as follows:

 

   

The pension benefit obligations associated with non-Upjohn Pfizer active plan participants included in the combined balance sheets are approximately $667 million at December 31, 2019 and approximately $655 million at December 31, 2018. The pension benefit obligations associated with inactive members in the Japan pension plan included in the combined balance sheets are approximately $489 million at December 31, 2019 and approximately $474 million at December 31, 2018. The pension benefit obligations associated with inactive members in the Puerto Rico pension plan included in the combined balance sheets are approximately $654 million at December 31, 2019 and approximately $597 million at December 31, 2018.

 

   

The pension benefit plan assets associated with non-Upjohn Pfizer active plan participants included in the combined balance sheets are approximately $701 million at December 31, 2019 and approximately $663 million at December 31, 2018. The pension benefit plan assets associated with inactive members in the Japan pension plan included in the combined balance sheets are approximately $560 million at December 31, 2019 and approximately $536 million at December 31, 2018. The pension benefit plan assets associated with inactive members in the Puerto Rico pension plan included in the combined balance sheets are approximately $468 million at December 31, 2019 and approximately $429 million at December 31, 2018.

 

   

The postretirement benefit obligations associated with non-Upjohn Pfizer active plan participants included in the combined balance sheets are approximately $11 million at December 31, 2019 and approximately $44 million at December 31, 2018. The postretirement benefit obligations associated with inactive members included in the combined balance sheets are approximately $156 million at December 31, 2019 and approximately $201 million at December 31, 2018.

Many of our employees participate in benefit plans sponsored by Pfizer. The combined statements of income include the service cost associated with direct Upjohn employees participating in plans sponsored by Pfizer as well as an allocation of service cost that has been deemed attributable to Upjohn operations. The combined balance sheets do not include benefit plan assets and liabilities associated with Upjohn employees participating in plans that are not sponsored by Upjohn. Service costs are recognized, as required, into Cost of sales, Selling, informational and administrative expenses and Research and development expenses, as appropriate. The projected benefit obligation associated with direct Upjohn employees participating in plans sponsored by Pfizer that is not included in the combined balance sheets but may be required by law in certain jurisdictions to transfer upon a separation of Upjohn from Pfizer was approximately $115 million at December 31, 2019. There are approximately $66 million of assets associated with these obligations at December 31, 2019.

 

- 34 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

A. Pension and Postretirement Plans

Pension expense/(income) associated with the U.S. and international locations is included in the combined statements of income as follows:

 

 

2019—approximately $0.2 million expense, reflecting approximately $8.5 million of net periodic pension income (service cost component is for the Upjohn participants only) associated with plans sponsored by Upjohn and approximately $8.7 million of service cost associated with direct Upjohn employees participating in plans sponsored by Pfizer as well as an allocation of service cost that has been deemed attributable to Upjohn operations.

 

 

2018—approximately $7 million income, reflecting approximately $19 million of net periodic pension income (service cost component is for the Upjohn participants only) associated with plans sponsored by Upjohn and approximately $12 million of service cost associated with direct Upjohn employees participating in plans sponsored by Pfizer as well as an allocation of service cost that has been deemed attributable to Upjohn operations.

 

 

2017approximately $31 million expense, reflecting approximately $15 million of net periodic pension cost (service cost component is for the Upjohn participants only) associated with plans sponsored by Upjohn and approximately $16 million of service cost associated with direct Upjohn employees participating in plans sponsored by Pfizer as well as an allocation of service cost that has been deemed attributable to Upjohn operations.

Postretirement expense/(income) associated with the U.S. and international locations is included in the combined statements of income as follows:

 

 

2019approximately $30 million of net periodic postretirement income (service cost component is for the Upjohn participants only) primarily associated with plans sponsored by Upjohn. Included in net periodic postretirement income for 2019 are curtailment and settlement gains of approximately $25 million related to the elimination of coverage for certain non-Upjohn plan participants.

 

 

2018approximately $8 million of net periodic postretirement income (service cost component is for the Upjohn participants only) primarily associated with plans sponsored by Upjohn.

 

 

2017approximately $3 million of net periodic postretirement cost (service cost component is for the Upjohn participants only) primarily associated with plans sponsored by Upjohn.

In the tables below, we have provided additional information about the expenses/(income), assets and liabilities of the pension and postretirement plans sponsored by Upjohn.

Net Periodic Benefit Costs and Changes in Other Comprehensive Income/(Loss)––Upjohn Sponsored Plans

The following table provides the annual (credit)/cost and changes in Other comprehensive income/(loss) for the Upjohn sponsored pension and postretirement plans:

 

 

     Year Ended December 31,  
     Pension Plans     Postretirement Plan  

(millions of dollars)

   2019     2018     2017     2019     2018     2017  

Service cost

   $ 9     $ 7     $ 11     $ 3     $ 2     $ 2  

Interest cost

     43       39       41       10       11       14  

Expected return on plan assets

     (68     (80     (77     —         —         —    

Amortization of:

            

Actuarial losses

     13       16       41       —         1       8  

Prior service credits

     (4     (4     (4     (18     (21     (21

Curtailments

     (1     —         —         (19     (1     —    

Settlements

     —         3       3       (6     —         —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net periodic benefit (credit)/cost reported in Income(a)

     (9     (19     15       (31     (8     2  

(Credit)/cost reported in Other comprehensive income/(loss)(b)

     43       42       (67     (8     (4     (33
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

(Credit)/cost recognized in Comprehensive income

   $ 35     $ 24     $ (52   $ (39   $ (12   $ (30
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(a) 

We adopted a new accounting standard on January 1, 2018 that requires the net periodic pension and postretirement benefit costs other than service costs to be presented in Other (income)/deductions––net on the combined statements of income. For additional information, see Note 6.

(b) 

In 2019, 2018 and 2017, the changes to Other comprehensive income/(loss) for the international plans were impacted by foreign currency movements. For details of the changes in Other comprehensive income/(loss), see the benefit plan activity in the combined statements of comprehensive income.

 

- 35 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The following table provides the amounts in Accumulated other comprehensive loss expected to be amortized into 2020 net periodic benefit costs:

 

(millions of dollars)

   Pension
Plans
    Postretirement
Plan
 

Actuarial gains/(losses)

   $ (16   $ 1  

Prior service credits

     4       14  
  

 

 

   

 

 

 

Total

   $ (12   $ 15  
  

 

 

   

 

 

 

Actuarial Assumptions—Upjohn Sponsored Plans

The following table provides the weighted-average actuarial assumptions for the Upjohn sponsored benefit plans:

 

     Pension Plans      Postretirement Plan  

(percentages)

   2019      2018      2017      2019      2018      2017  

Weighted-average assumptions used to determine benefit obligations:

                 

Discount rate

     1.8      2.4      2.1      3.2      4.3      3.7

Rate of compensation increase

     1.2      1.1      2.3      —        —        —  

Weighted-average assumptions used to determine net periodic benefit cost:

 

Discount rate—interest on benefit obligations

     2.2      2.0      2.2      4.3      3.7      4.2

Discount rate—service cost

     0.8      0.8      1.6      4.3      3.7      4.2

Expected return on plan assets

     3.8      4.2      4.5      —        —        —  

Rate of compensation increase

     1.1      2.3      2.6      —        —        —  

The assumptions above are used to develop the benefit obligations at fiscal year-end and to develop the net periodic benefit cost for the subsequent fiscal year. Therefore, the assumptions used to determine net periodic benefit cost for each year are established at the end of each previous fiscal year, while the assumptions used to determine benefit obligations are established at each fiscal year-end.

The net periodic benefit cost and the benefit obligations are based on actuarial assumptions that are reviewed on at least an annual basis. We revise these assumptions based on an annual evaluation of long-term trends, as well as market conditions that may have an impact on the cost of providing retirement benefits.

The weighted-average discount rate for our Puerto Rico defined benefit plan is determined annually and evaluated and modified to reflect at year-end the prevailing market rate of a portfolio of high-quality fixed income investments, rated AA/Aa or better that reflect the rates at which the pension benefits could be effectively settled. For our international plans, the discount rates are set by benchmarking against investment grade corporate bonds rated AA/Aa or better, including, when there is sufficient data, a yield curve approach. These rate determinations are made consistent with local requirements. Overall, the yield curves used to measure the benefit obligations at year-end 2019 resulted in lower discount rates as compared to the prior year.

The following table provides the healthcare cost trend rate assumptions for our Puerto Rico postretirement benefit plan:

 

(percentages)

   2019     2018  

Healthcare cost trend rate assumed for next year (up to age 65)

     5.6     5.8

Healthcare cost trend rate assumed for next year (age 65 and older)

     6.0     6.5

Rate to which the cost trend rate is assumed to decline

     4.5     4.5

Year that the rate reaches the ultimate trend rate

     2037       2037  

The following table provides the effects as of December 31, 2019 of a one-percentage-point increase or decrease in the healthcare cost trend rate assumed for postretirement benefits:

 

(millions of dollars)

   Increase     Decrease  

Effect on total service and interest cost components

   $ (1   $ 1  

Effect on postretirement benefit obligation

     (15     16  

Actuarial and other assumptions for pension and postretirement plans can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For a description of the risks associated with estimates and assumptions, see Note 3B.

 

- 36 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Obligations and Funded Status—Upjohn Sponsored Plans

The following table provides an analysis of the changes in the benefit obligations, plan assets and funded status of the Upjohn sponsored benefit plans:

 

     As of and for the Year Ended December 31,  
     Pension Plans      Postretirement Plan(e)  

(millions of dollars)

   2019      2018      2019      2018  

Change in benefit obligation(a):

           

Benefit obligation, beginning

   $ 1,942      $ 2,044      $ 272      $ 296  

Service cost attributable to Upjohn employees

     9        7        3        2  

Service cost attributable to non-Upjohn employees(b)

     29        30        1        3  

Interest cost

     43        39        10        11  

Employee contributions

     —          —          3        3  

Plan amendments

     —          5        —          —    

Changes in actuarial assumptions and other

     180        (77      (35      (25

Foreign exchange impact

     37        (12      —          —    

Transfers from Pfizer sponsored plans(c)

     58        —          —          —    

Curtailments

     (4      —          (10      —    

Settlements

     —          (10      (7      —    

Benefits paid

     (125      (85      (22      (18
  

 

 

    

 

 

    

 

 

    

 

 

 

Benefit obligation, ending

     2,169        1,942        216        272  
  

 

 

    

 

 

    

 

 

    

 

 

 

Change in plan assets:

           

Fair value of plan assets, beginning

     1,833        1,965        —          —    

Actual gain/(loss) on plan assets

     208        (51      —          —    

Company contributions

     42        27        19        15  

Employee contributions

     —          —          3        3  

Foreign exchange impact

     42        (13      —          —    

Transfers from Pfizer sponsored plans(c)

     26        —          —          —    

Settlements

     —          (10      —          —    

Benefits paid

     (125      (85      (22      (18
  

 

 

    

 

 

    

 

 

    

 

 

 

Fair value of plan assets, ending

     2,027        1,833        —          —    
  

 

 

    

 

 

    

 

 

    

 

 

 

Funded status—Plan assets less than benefit obligation(d)

   $ (142    $ (109    $ (216    $ (272
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

For the pension plans, the benefit obligation is the projected benefit obligation (PBO). For the postretirement plan, the benefit obligation is the accumulated postretirement benefit obligation (ABO). The accumulated benefit obligation for the dedicated pension plans was $2.1 billion in 2019 and $1.9 billion in 2018.

(b) 

Service cost attributable to non-Upjohn Pfizer employees is not included in the combined statements of income.

(c) 

Represents pension liabilities and pension assets in Upjohn plans formed in 2019 for Upjohn participants who previously participated in plans sponsored by Pfizer.

(d) 

The unfavorable change in the pension plans’ funded status was primarily due to the addition in 2019 of net pension obligations of Upjohn participants from Pfizer sponsored plans.

(e) 

Upjohn does not fund the postretirement plan but contributes to the plan as benefits are paid.

The following table provides information as to how the funded status is recognized in the combined balance sheets:

 

     As of December 31,  
     Pension Plans      Postretirement Plan  

(millions of dollars)

   2019      2018      2019      2018  

Noncurrent assets(a)

   $ 165      $ 139      $ —        $ —    

Current liabilities(b)

     (1      —          (18      (21

Noncurrent liabilities(c)

     (306      (248      (198      (251
  

 

 

    

 

 

    

 

 

    

 

 

 

Funded status

   $ (142    $ (109    $ (216    $ (272
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

Included in Other noncurrent assets—see Note 13B.

(b) 

Included in Accrued compensation and related items.

(c) 

Included in Pension benefit obligations, net and Postretirement benefit obligations, net, as appropriate.

 

- 37 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The following table provides the pre-tax components of cumulative amounts recognized in Accumulated other comprehensive loss:

 

     As of December 31,  
     Pension Plans      Postretirement Plan  

(millions of dollars)

   2019      2018      2019      2018  

Actuarial gains/(losses)(a)

   $ (513    $ (474    $ 31      $ (15

Prior service credits

     30        34        40        78  
  

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ (483    $ (440    $ 71      $ 63  
  

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

The accumulated actuarial losses primarily represent the impact of changes in discount rates and other assumptions that result in cumulative changes in our projected benefit obligations, as well as the cumulative difference between the expected return and actual return on plan assets. These accumulated actuarial losses are recognized in Accumulated other comprehensive loss and are amortized into net periodic benefit costs primarily over the average remaining service period for active participants for plans that are not frozen or the expected future lifetime of plan participants for frozen plans, using the corridor approach.

Information related to the funded status of the Upjohn sponsored pension plans follows:

 

     As of December 31,  

(millions of dollars)

   2019      2018  

Pension plans with an accumulated benefit obligation in excess of plan assets:

     

Fair value of plan assets

   $ 693      $ 627  

Accumulated benefit obligation

     990        875  

Pension plans with a projected benefit obligation in excess of plan assets:

     

Fair value of plan assets

     724        627  

Projected benefit obligation

     1,031        876  

Plan Assets—Upjohn Sponsored Plans

The only funded Upjohn sponsored plans are the pension plans in Japan, Puerto Rico, Korea, the Philippines and Taiwan. The Japan pension plan has a PBO of $1.1 billion at December 31, 2019 and 2018 and plan assets of $1.3 billion and $1.2 billion at December 31, 2019 and December 31, 2018, respectively. The Puerto Rico pension plan has a PBO of $969 million and $875 million at December 31, 2019 and December 31, 2018, respectively, and plan assets of $692 million and $627 million at December 31, 2019 and December 31, 2018, respectively. The Upjohn sponsored pension plans formed in 2019 in Korea, the Philippines and Taiwan have a PBO of $30.5 million, $3.3 million and $9.8 million, respectively, at December 31, 2019 and plan assets of $28.7 million, $2.6 million and $0.1 million, respectively, at December 31, 2019.

 

- 38 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The following table provides the components of plan assets:    

 

            Fair Value (a)                    Fair Value (a)         

(millions of dollars)

   As of
December 31,
2019
     Level 1      Level 2      Level 3      Assets
Measured
at NAV(b)
     As of
December 31,
2018
     Level 1      Level 2      Level 3      Assets
Measured
at NAV(b)
 

International pension plans

                             

Cash and cash equivalents

   $ 11      $ —        $ 11      $ —        $ —        $ 17      $ —        $ 17      $ —        $ —    

Equity securities:

                             

Global equity securities

     —          —          —          —          —          —          —          —          —          —    

Equity commingled funds

     322        —          322        —          —          287        —          287        —          —    

Fixed income securities:

                             

Corporate debt securities

     102        —          102        —          —          107        —          107        —          —    

Government and agency obligations

     52        —          52        —          —          61        —          61        —          —    

Fixed income commingled funds

     508        —          181        —          327        448        —          88        —          360  

Other investments:

                             

Partnership investments(c)

     61        —          —          —          61        51        —          —          —          51  

Insurance contracts(d)

     118        —          29        89        —          85        —          —          85        —    

Other commingled funds(e)

     161        —          —          —          161        151        —          —          —          151  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total(f)

   $ 1,334      $ —        $ 696      $ 89      $ 549      $ 1,206      $ —        $ 560      $ 85      $ 561  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Puerto Rico pension plan

                             

Cash and cash equivalents

   $ 17      $ 4      $ 13      $ —        $ —        $ 22      $ 2      $ 19      $ —        $ 1  

Equity securities:

                             

Global equity securities

     165        162        3        —          —          152        150        2        —          —    

Equity commingled funds

     56        —          39        —          17        45        —          30        —          15  

Fixed income securities:

                             

Corporate debt securities

     251        —          251        —          —          224        —          224        —          —    

Government and agency obligations

     85        —          85        —          —          66        —          66        —          —    

Fixed income commingled funds

     —          —          —          —          —          4        —          —          —          4  

Other investments:

                             

Partnership investments(c)

     58        —          —          —          58        56        —          —          —          56  

Insurance contracts

     9        —          9        —          —          9        —          9        —          —    

Other(e)

     51        —          —          —          51        49        —          —          —          49  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 692      $ 166      $ 400      $ —        $ 126      $ 627      $ 152      $ 350      $ —        $ 125  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

(a) 

Fair values are determined based on valuation inputs categorized as Level 1, 2 or 3see Note 3D.

(b) 

Certain investments that are measured at net asset value (NAV) per share (or its equivalent) have not been classified in the fair value hierarchy. The NAV amounts presented in this table are intended to permit reconciliation of the fair value hierarchy to the amounts presented for the total pension benefits plan assets.

(c) 

Primarily includes investments in private equity, private debt, public equity limited partnerships, and, to a lesser extent, real estate and venture capital.

(d) 

See below for a tabular analysis of the changes in Level 3 investments valued using significant unobservable inputs.

(e) 

Can include investments in hedge funds and real estate.

(f) 

International pension plan assets are substantially all in the Japan pension plan and to a much lesser extent in the Korea, the Philippines and Taiwan pension plans.

The following table provides an analysis of the changes in our investments valued using significant unobservable inputs:

 

     Pension Plans Insurance Contracts  
     Year Ended December 31,  

(millions of dollars)

   2019      2018  

Fair value, beginning

   $ 85      $ 85  

Actual return on plan assets:

     

Assets held, ending

     1        1  

Assets sold during the period

     —          —    

Purchases, sales and settlements, net

     —          —    

Transfer into/(out of) Level 3

     —          —    

Exchange rate changes

     3        (1
  

 

 

    

 

 

 

Fair value, ending

   $ 89      $ 85  
  

 

 

    

 

 

 

 

- 39 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

A single estimate of fair value can result from a complex series of judgments about future events and uncertainties and can rely heavily on estimates and assumptions. For a description of our general accounting policies associated with developing fair value estimates, see Note 3D. For a description of the risks associated with estimates and assumptions, see Note 3B.

Equity securities, Fixed income securities and Other investments may each be combined into commingled funds. Most commingled funds are valued to reflect the interest in the fund based on the reported year-end NAV. Partnership and Other investments are valued based on year-end reported NAV (or its equivalent), with adjustments as appropriate for lagged reporting of up to three months.

The following methods and assumptions were used to estimate the fair value of our pension plans’ assets:

 

   

Cash and cash equivalents: Level 1 investments may include cash, cash equivalents and foreign currency valued using exchange rates. Level 2 investments may include short-term investment funds which are commingled funds priced at a stable NAV by the administrator of the funds.

 

   

Equity securities: Level 1 investments may include individual securities that are valued at the closing price or last trade reported on the major market on which they are traded. Level 1 and Level 2 investments may include commingled funds that have a readily determinable fair value based on quoted prices on an exchange or a published NAV derived from the quoted prices in active markets of the underlying securities.

 

   

Fixed income securities: Level 2 investments may include commingled funds that have a readily determinable fair value based on observable prices of the underlying securities. Level 2 investments may include corporate bonds, government and government agency obligations and other fixed income securities valued using bid evaluation pricing models or quoted prices of securities with similar characteristics.

 

   

Other investments: Level 2 investments may include insurance contracts, which invest in interest-bearing cash, U.S. government securities and corporate debt instruments. Level 3 insurance contract investments are valued using information from third party investments managers, which reflects the nature of the guarantees underlying the contracts.

Certain investments are authorized to include derivatives, such as equity or bond futures, swaps, options and currency futures or forwards for managing risks and exposures.

The following table provides the long-term target asset allocations ranges and the percentage of the fair value of plan assets for benefit plans:

 

     As of December 31,  
     Target
Allocation
Percentage
    Percentage of Plan Assets  

(percentages)

   2019     2019     2018  

International pension plans

      

Cash and cash equivalents

     0-10     1     1

Equity securities

     20-30     24     24

Fixed income securities

     50-60     50     51

Other investments

     20-30     25     24
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

Puerto Rico pension plan

      

Cash and cash equivalents

     0-10     2     4

Equity securities

     35-55     32     31

Fixed income securities

     28-53     49     47

Other investments

     5-20     17     18
  

 

 

   

 

 

   

 

 

 

Total

     100     100     100
  

 

 

   

 

 

   

 

 

 

Global plan assets are managed with the objective of generating returns that will enable the plans to meet their future obligations, while seeking to manage net periodic benefit costs and cash contributions over the long-term. We utilize long-term asset allocation ranges in the management of our plans’ invested assets. Our long-term return expectations are developed based on a diversified, global investment strategy that takes into account historical experience, as well as the impact of portfolio diversification, active portfolio management, and our view of current and future economic and financial market conditions. As market conditions and other factors change, we may adjust our targets accordingly and our asset allocations may vary from the target allocations.

 

- 40 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

Our long-term asset allocation ranges reflect our asset class return expectations and tolerance for investment risk within the context of the respective plans’ long-term benefit obligations. These ranges are supported by analysis that incorporates historical and expected returns by asset class, as well as volatilities and correlations across asset classes and our liability profile.

Each pension plan is overseen by a local committee or board that is responsible for the overall investment of the pension plan assets. In determining investment policies and associated target allocations, each committee or board considers a wide variety of factors. As such, the target asset allocation for each of our funded international pension plans is set on a standalone basis by the relevant board or committee. The target asset allocation ranges shown for the international pension plans seek to reflect the combined target allocations across all such plans, while also showing the range within which the target allocations for each plan typically falls.

The investment managers of certain separately managed accounts, commingled funds and private equity funds may be permitted to use repurchase agreements and derivative securities, including U.S. Treasury and equity futures contracts as described in each respective investment management, subscription, partnership or other governing agreement.

Cash Flows––Upjohn Sponsored Plans

It is our practice to fund amounts for our qualified pension plans that are at least sufficient to meet the minimum requirements set forth in applicable employee benefit laws and local tax laws.

The following table provides the expected future cash flow information related to the Upjohn sponsored benefit plans:

 

(millions of dollars)

   Pension
Plans
     Postretirement
Plan
 

Expected employer contributions:

     

2020

   $ 54      $ 18  
  

 

 

    

 

 

 

Expected benefit payments:

     

2020

   $ 137      $ 18  

2021

     107        18  

2022

     107        18  

2023

     107        18  

2024

     107        18  

2025-2029

     524        85  

The above table reflects the plan benefits projected to be paid from the plans or from the general assets of the sponsoring Upjohn entities under the current actuarial assumptions used for the calculation of the projected benefit obligation and, therefore, actual benefit payments may differ from projected benefit payments.

B. Defined Contribution Plans

Our employees are eligible to participate in Pfizer’s defined contribution plans, whereby employees contribute a portion of their compensation, which is partially matched, in cash, by Pfizer. Beginning on January 1, 2011, for newly hired non-union employees, rehires and transfers to the U.S. or Puerto Rico, Pfizer no longer offers a defined benefit pension plan and, instead, offers a Retirement Savings Contribution (RSC) in the defined contribution plan. The RSC is an annual non-contributory employer contribution (that is not dependent upon the participant making a contribution) determined based on each employee’s eligible compensation, age and years of service. Beginning on January 1, 2018, all non-union employees in Pfizer’s U.S. and Puerto Rico defined benefit plans transitioned to the RSC in the defined contribution plans.

Contribution expense for direct Upjohn employees, associated with non-dedicated defined contribution plans, totaled approximately $38 million in 2019, $31 million in 2018 and $23 million in 2017.

Note 16. Share-Based Payments

Our compensation programs can include grants under Pfizer’s share-based payment programs. The combined statements of income include all of the share-based payment expenses attributable to Upjohn.

Compensation programs at Upjohn can include share-based payments under various Pfizer employee stock and incentive plans. The award value is determined by reference to the fair value of share-based awards to similar employees in competitive survey data or industry peer groups used for compensation purposes and is allocated between different long term incentive vehicles, in the form of Restricted Stock Units (RSUs), Stock Options, Total Shareholder Return Units (TSRUs), Portfolio Performance Shares (PPSs), Performance Share Awards (PSAs) and Profit Units (PTUs), as determined by the Pfizer Compensation Committee. Many of our employees currently participate in certain Pfizer equity award plans. Upon any

 

- 41 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

separation from Pfizer, the distribution or settlement of such awards is expected to be in full or on a pro rata basis at separation or original payment dates based on retirement eligibility status in accordance with the original terms and conditions of the grants.

The primary share-based compensation awards and their general terms and conditions are as follows:

 

   

RSUs, which when vested, entitle the holder to receive a specified number of shares of Pfizer common stock, including shares resulting from dividend equivalents paid on such RSUs. For RSUs granted during the periods presented, in virtually all instances, the units vest after three years of continuous service from the grant date.

 

   

Stock options, which when vested, entitle the holder to purchase a specified number of shares of Pfizer common stock at a price per share equal to the closing market price of Pfizer common stock on the date of grant.

 

   

TSRUs, which when vested, entitle the holder to receive a number of shares of Pfizer common stock with a value equal to the difference between the defined settlement price and the grant price, plus the dividends accumulated during the five-year or seven-year term, if and to the extent the total value is positive. The settlement price is the average closing price of Pfizer common stock during the 20 trading days ending on the fifth or seventh anniversary of the grant, as applicable; the grant price is the closing price of Pfizer common stock on the date of the grant. The TSRUs are automatically settled on the fifth or seventh anniversary of the grant but vest on the third anniversary of the grant, after which time there is no longer a substantial risk of forfeiture.

 

   

PPSs, which when vested, entitle the holder to receive, at the end of the performance period, a number of shares within a possible range of shares of Pfizer common stock, including shares resulting from dividend equivalents paid on such shares. For PPSs granted during the period presented, the awards vest after three years of continuous service from the grant date and the number of shares paid, if any, depends on the achievement of predetermined goals related to Pfizer’s long-term product portfolio during a five-year performance period from the year of the grant date. The number of shares that may be earned over the performance period ranges from 0% to 200% of the initial award.

 

   

PSAs, which when vested, entitle the holder to receive a number of shares of Pfizer common stock. The number of shares paid, if any, including shares resulting from dividend equivalents, for awards granted in 2015 and later, depends upon the achievement of predetermined goals related to two measures: (i) adjusted operating income (for performance years through 2018) or adjusted net income (for 2019 and later years, except for the 2017 PSAs) over three one-year periods; and (ii) Total Shareholder Return (TSR) as compared to the NYSE ARCA Pharmaceutical Index (DRG Index) over the three-year performance period. The number of shares that are earned over the performance period ranges from 0% to 200% of the initial award.

A. Impact on Net Income

The following table provides the components of share-based compensation expense and the associated tax benefit:

 

     Year Ended December 31,  

(millions of dollars)

   2019     2018     2017  

RSU expense

   $ 15     $ 12     $ 11  

TSRU expense

     14       11       7  

PSA/PPS expense

     2       3       2  

Stock option expense

     —         —         2  
  

 

 

   

 

 

   

 

 

 

Share-based compensation expense-direct(a)

     30       27       23  

Share-based compensation expense-indirect(b)

     45       77       80  
  

 

 

   

 

 

   

 

 

 

Share-based compensation expense-total

     76       104       103  

Tax benefit for share-based compensation expense(c)

     (13     (19     (19
  

 

 

   

 

 

   

 

 

 

Share-based compensation expense, net of tax

   $ 63     $ 85     $ 84  
  

 

 

   

 

 

   

 

 

 

 

(a) 

Reflects share-based compensation expense associated with direct Upjohn employees.

(b) 

Reflects a portion of share-based compensation expense associated with non-Upjohn Pfizer employees deemed attributable to the Upjohn business.

(c) 

2017 includes the impact of the TCJA on income taxes.

B. Restricted Stock Units (RSUs)

The value of RSU grants is measured as of the grant date using the closing price of Pfizer common stock. In virtually all instances, the units vest after three years of continuous service from the grant date and the values determined using the fair-value-based method are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, informational and administrative expenses, and Research and development expenses, as appropriate.

 

- 42 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

The RSU activity for direct Upjohn employees under Pfizer plans follows:

 

     Shares
(thousands)
    Weighted-Average
Grant Date Fair Value
Per Share
 

Nonvested, January 1, 2017

     1,176     $ 32.47  

Granted

     391       34.08  

Vested(a)

     (546     32.91  

Reinvested dividend equivalents

     46       33.43  

Forfeited

     (1     33.48  
  

 

 

   

Nonvested, December 31, 2017

     1,066       32.87  

Granted

     471       35.86  

Vested(b)

     (260     34.32  

Reinvested dividend equivalents

     46       38.96  

Forfeited

     (1     34.48  
  

 

 

   

Nonvested, December 31, 2018

     1,322       33.86  

Transferred(c)

     5       34.36  

Granted

     428       43.09  

Vested(d)

     (438     31.24  

Reinvested dividend equivalents

     49       39.64  

Forfeited

     (6     41.20  
  

 

 

   

Nonvested, December 31, 2019

     1,360     $ 37.76  
  

 

 

   

 

(a) 

Includes the modification of 171,000 RSUs to 154 direct Upjohn employees, for the 176,000 RSUs scheduled for near-term vesting. There was no material impact to compensation expense due to the modification.

(b) 

Includes the modification of 1,345 RSUs to one direct Upjohn employee in connection with Pfizer’s reorganization initiativesee Note 5. The terms were modified to permit vesting upon termination. The impact to compensation expense was immaterial.

(c) 

Represents change in nonvested RSUs outstanding at December 31, 2018 for certain employees transferred from/(to) Pfizer.

(d) 

Includes the modification of 839 RSUs to two direct Upjohn employees in connection with Pfizer’s reorganization initiativesee Note 5. The impact to compensation expense was immaterial.

The following table provides data related to RSU activity for direct Upjohn employees under Pfizer plans:

 

     Year Ended December 31,  

(millions of dollars)

   2019      2018      2017  

Total fair value of shares vested(a)

   $ 19      $ 10      $ 19  

Total compensation cost related to nonvested RSU awards not yet recognized, pre-tax

   $ 15      $ 14      $ 11  

Weighted-average period over which RSU cost is expected to be recognized (years)

     1.7        1.7        1.7  

 

(a) 

2019 includes the modification of 839 RSUs to two direct Upjohn employees in connection with Pfizer’s reorganization initiativesee Note 5. 2018 includes the modification of 1,345 RSUs to one direct Upjohn employee in connection with Pfizer’s reorganization initiativesee Note 5. The terms were modified to permit vesting upon termination. The impact to compensation expense in 2019 and 2018 was immaterial. 2017 includes the modification for a commitment to pay approximately 171,000 RSUs to 154 direct Upjohn employees for 176,000 RSUs. These shares were paid in the first quarter of 2018.

C. Total Shareholder Return Units (TSRUs)

TSRUs are awarded to senior and other key management, and, beginning in 2016, to certain other employees. TSRUs entitle the holder to receive a number of shares of Pfizer common stock with a value equal to the difference between the defined settlement price and the grant price, plus the dividends accumulated during the five-year or seven-year term, if and to the extent the total value is positive. The settlement price is the average closing price of Pfizer common stock during the 20 trading days ending on the fifth or seventh anniversary of the grant, as applicable; the grant price is the closing price of Pfizer common stock on the date of the grant. The TSRUs are automatically settled on the fifth or seventh anniversary of the grant but vest on the third anniversary of the grant, after which time there is no longer a substantial risk of forfeiture.

On October 26, 2016, Pfizer’s Compensation Committee approved the modification of current outstanding grants of TSRU awards, effective November 1, 2016, to permit a holder who is “retiree eligible” (at least age 55 with at least 10 years of service), to elect to exercise and convert his/her TSRUs when vested, into PTUs. The value received upon the election and conversion is calculated by taking the change in stock price (20 trading day average ending on the exercise date (Election Price) less the grant price) plus accumulated dividends from the grant date, times the number of TSRUs exercised. This value is divided by the Election Price to determine the number of PTUs. The PTUs will be entitled to earn Dividend Equivalent Units (DEUs), and the PTUs and DEUs will be settled in Pfizer common stock on the TSRUs original settlement date (i.e., the fifth or seventh anniversary of grant), and will be subject to all of the terms and conditions of the original

 

- 43 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

grant including forfeiture provisions. Beginning in 2017, TSRUs were granted with the right for retirement-eligible employees to elect to exercise and convert their TSRUs, when vested, into PTUs.

The value of TSRU grants is measured as of the grant date using a Monte Carlo simulation model. The values determined through this fair value methodology generally are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, informational and administrative expenses, and/or Research and development expenses, as appropriate.

The following table provides the weighted-average assumptions used in the valuation of TSRUs:

 

     Year Ended December 31,  
     2019     2018     2017  

Expected dividend yield(a)

     3.27     3.73     3.69

Risk-free interest rate(b)

     2.55     2.60     1.97

Expected stock price volatility(c)

     18.34     20.00     18.39

Contractual term (years)

     5.15       5.09       5.07  

 

(a) 

Determined using a constant dividend yield during the expected term of the Pfizer TSRU.

(b) 

Determined using the interpolated yield on U.S. Treasury zero-coupon issues.

(c) 

Determined using implied volatility, after consideration of historical volatility for Pfizer stock.

The TSRU activity for direct Upjohn employees under Pfizer plans follows:

 

     Shares
(thousands)
    Weighted-
Average
Grant Date
Fair Value
Per TSRU
     Weighted-
Average
Grant Price
Per TSRU
 

Nonvested, January 1, 2017

     2,304     $ 5.91      $ 30.99  

Granted

     2,124       6.20        34.06  

Vested

     (172     6.45        32.23  

Forfeited

     (3     6.04        33.01  
  

 

 

      

Nonvested, December 31, 2017

     4,253       6.04        32.47  

Granted

     2,079       7.40        35.75  

Vested(a)

     (162     6.60        34.60  

Forfeited

     (5     6.74        34.36  
  

 

 

      

Nonvested, December 31, 2018

     6,165       6.48        33.52  

Transferred(b)

     (49     6.82        35.08  

Granted

     2,192       8.53        43.35  

Vested(c)

     (1,992     5.82        30.64  

Forfeited

     (19     8.16        41.70  
  

 

 

      

Nonvested, December 31, 2019

     6,297     $ 7.40      $ 37.81  
  

 

 

      

 

(a) 

Includes the modification of approximately 6,800 TSRUs to one direct Upjohn employee in connection with Pfizer’s reorganization initiativesee Note 5. The terms were modified to permit the vesting upon termination. The impact to compensation expense was immaterial.

(b) 

Represents change in nonvested TSRUs outstanding at December 31, 2018 for certain employees transferred from/(to) Pfizer.

(c) 

Includes the modification of approximately 18,000 TSRUs to two direct Upjohn employees in connection with Pfizer’s reorganization initiativesee Note 5. The terms were modified to permit the vesting upon termination. The impact to compensation expense was immaterial.

The following table summarizes TSRU and PTU activity for direct Upjohn employees under Pfizer plans as of December 31, 2019(a):

 

     TSRUs
(thousands)
     PTUs
(thousands)
     Weighted-
Average
Grant Price
per TSRU
     Weighted-
Average
Remaining
Contractual Term
(years)
     Aggregate
Intrinsic
Value
(millions)
 

TSRUs outstanding

     8,492        —        $ 36.01        2.7      $ 60  

TSRUs vested(b)

     2,195        —          30.84        1.2        30  

TSRUs expected to vest(c)

     6,047        —          37.71        3.2        30  

TSRUs exercised and converted to PTUs(d)

     —          28      $ —          —        $ 1  

 

(a) 

In 2019, we settled 223,702 TSRUs with a weighted-average grant price of $28.37 per unit.

 

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NOTES TO COMBINED FINANCIAL STATEMENTS

 

(b) 

Includes the modification of approximately 6,800 TSRUs to one direct Upjohn employee for 2018 and 18,000 TSRUs to two direct Upjohn employees for 2019 in connection with Pfizer’s reorganization initiative––see Note 5. The terms were modified to permit the vesting upon termination. The impact to compensation expense was immaterial.

(c) 

The number of TSRUs expected to vest takes into account an estimate for expected forfeitures.

(d) 

In 2019, 71,110 TSRUs with a weighted-average grant price of $30.78 per unit were converted into 27,514 PTUs.

The following table provides data related to TSRU activity for direct Upjohn employees under Pfizer plans:

 

     Year Ended December 31,  

(millions of dollars, except per TSRU amounts)

   2019      2018      2017  

Weighted-average grant-date fair value per TSRU

   $ 8.53      $ 7.40      $ 6.20  

Total compensation cost related to nonvested TSRU grants not yet recognized, pre-tax

   $ 15      $ 12      $ 10  

Weighted-average period over which TSRU cost is expected to be recognized (years)

     1.7        1.7        1.7  

D. Portfolio Performance Shares (PPS)

The value of PPS grants is measured as of the grant date using the intrinsic value method, for which the closing price of Pfizer’s common stock is used. The values are amortized on a straight-line basis over the probable vesting term into Cost of sales, Selling, informational and administrative expenses and/or Research and development expenses, as appropriate, and adjusted each reporting period, as necessary, to reflect changes in the price of Pfizer’s common stock, changes in the number of shares that are probable of being earned and changes in Pfizer management’s assessment of the probability that the specified performance criteria will be achieved and/or changes in Pfizer management’s assessment of the probable vesting term for PPSs.

The PPS activity for direct Upjohn employees under Pfizer plans follows:

 

     Shares
(thousands)
    Weighted-Average
Intrinsic Value
Per Share
 

Nonvested, January 1, 2017

     171     $ 32.48  

Granted

     17       34.06  

Vested

     (61     34.28  

Forfeited

     —         —    
  

 

 

   

Nonvested, December 31, 2017

     127       36.22  

Granted

     16       35.84  

Vested

     (57     37.09  

Forfeited

     —         —    
  

 

 

   

Nonvested, December 31, 2018

     86       43.65  

Transferred(a)

     5       43.65  

Granted

     12       43.35  

Vested

     (48     43.08  

Forfeited

     —         —    
  

 

 

   

Nonvested, December 31, 2019(b)

     55     $ 39.18  
  

 

 

   

 

(a) 

Represents change in nonvested PPSs outstanding at December 31, 2018 for certain employees transferred from/(to) Pfizer.

(b) 

Vested and non-vested shares outstanding, but not paid as of December 31, 2019 were 157,000.

The following table provides data related to PPS activity for direct Upjohn employees under Pfizer plans:

 

     Year Ended December 31,  

(millions of dollars)

   2019      2018      2017  

Total fair value of shares vested

   $ 1      $ 1      $ 1  

Total compensation cost related to nonvested PPS awards not yet recognized, pre-tax

   $ —        $ —        $ 1  

Weighted-average period over which PPS cost is expected to be recognized (years)

     1.6        1.6        1.4  

E. Performance Share Awards (PSA)

The values of PSA grants are measured as of the grant date using the intrinsic value method, for which the closing price of Pfizer’s common stock is used. The values are amortized on a straight-line basis over the probable vesting term into Cost of sales, Selling, informational and administrative expenses and/or Research and development expenses, as appropriate, and adjusted each reporting period, as necessary, to reflect changes in the price of Pfizer’s common stock, changes in the number

 

- 45 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

of shares that are probable of being earned and changes in management’s assessment of the probability that the specified performance criteria will be achieved, and of the probable vesting term for PSAs.

The PSA activity for direct Upjohn employees under Pfizer plans follows:

 

     Shares
(thousands)
    Weighted-Average
Intrinsic Value
Per Share
 

Nonvested, January 1, 2017

     101     $ 32.48  

Granted

     31       34.06  

Vested(a)

     (39     35.42  

Forfeited

     (26     34.96  
  

 

 

   

Nonvested, December 31, 2017

     67       36.22  

Granted

     44       35.74  

Vested

           37.09  
  

 

 

   

Nonvested, December 31, 2018

     111       43.65  

Transferred(b)

     (16     43.65  

Granted

     105       43.35  

Vested

     (24     42.93  

Forfeited

     (8     42.93  
  

 

 

   

Nonvested, December 31, 2019

     169     $ 39.18  
  

 

 

   

 

(a) 

Includes the modification for a commitment to pay 22,000 PSAs to six direct Upjohn employees for the 22,000 PSAs scheduled for near-term vesting. There was no material impact to compensation expense due to the modification.

(b) 

Represents change in nonvested PSAs outstanding at December 31, 2018 for certain employees transferred from/(to) Pfizer.

The following table provides data related to PSA activity for direct Upjohn employees under Pfizer plans:

 

     Year Ended December 31,  

(millions of dollars)

   2019      2018      2017  

Total fair value of shares vested(a)

   $ 1      $ —        $ 1  

Total compensation cost related to nonvested PSA awards not yet recognized, pre-tax

   $ 1      $ 1      $ 1  

Weighted-average period over which PSA cost is expected to be recognized (years)

     2.0        1.8        1.8  

 

(a) 

In 2017, includes the modification for a commitment to pay approximately 22,000 PSAs to six direct Upjohn employees for 22,000 PSAs. These shares were paid in the first quarter of 2018.

F. Stock Options

Stock options are accounted for using a fair-value-based method at the date of grant in the combined statements of income.

Beginning in 2016, only a limited set of overseas employees received stock option grants. No stock options were awarded to senior and other key management in any period presented; however, stock options were awarded to certain other employees. In virtually all instances, stock options granted since 2005 vest after three years of continuous service from the grant date and have a contractual term of ten years. In most cases, stock options must be held for at least one year from the grant date before any vesting may occur. In the event of a sale of business or plant closing or restructuring, options held by employees are immediately vested and are exercisable for a period from three months to their remaining term, depending on various conditions.

The value of stock option grants is measured as of the grant date using the Black-Scholes-Merton option-pricing model. The values determined through this fair value methodology generally are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, informational and administrative expenses, and/or Research and development expenses, as appropriate.

The following table provides the weighted-average assumptions used in the valuation of stock options:

 

     Year Ended December 31,  
     2019     2018     2017  

Expected dividend yield(a)

     3.27     3.73     3.69

Risk-free interest rate(b)

     2.66     2.85     2.23

Expected stock price volatility(c)

     18.34     20.02     18.39

Expected term (years)(d)

     6.75       6.75       6.75  

 

(a) 

Determined using a constant dividend yield during the expected term of the Pfizer stock option.

(b) 

Determined using the interpolated yield on U.S. Treasury zero-coupon issues.

 

- 46 -


NOTES TO COMBINED FINANCIAL STATEMENTS

 

(c) 

Determined using implied volatility, after consideration of historical volatility for Pfizer stock.

(d) 

Determined using historical exercise and post-vesting termination patterns.

The Pfizer stock option activity for direct Upjohn employees under Pfizer plans follows:

 

     Shares
(thousands)
    Weighted-
Average
Exercise
Price
Per Share
     Weighted
Average
Remaining
Contractual Term
(years)
     Aggregate
Intrinsic Value(a)
(millions)
 

Outstanding, January 1, 2017

     6,326     $ 27.99        

Granted

     55       34.06        

Exercised

     (1,024     25.66        

Forfeited

     (1     34.59        

Expired

     (6     25.68        
  

 

 

         

Outstanding, December 31, 2017

     5,350       28.49        

Granted

     66       35.74        

Exercised

     (1,814     28.04        

Forfeited

     —         —          

Expired

     (7     23.04        
  

 

 

         

Outstanding, December 31, 2018

     3,595       28.87        

Transferred(b)

     347       20.19        

Granted

     112       43.35        

Exercised

     (542     24.84        

Forfeited

     —         —          

Expired

     (4     12.70        
  

 

 

         

Outstanding, December 31, 2019

     3,508       30.14        4.2      $ 32  

Vested and expected to vest, December 31, 2019(c)

     3,492       30.10        4.2      $ 32  

Exercisable, December 31, 2019

     3,187     $ 29.36        3.8      $ 31  

 

(a) 

Market price of underlying Pfizer common stock less exercise price.

(b)