Financial Instruments, Derivatives and Fair Value Measures

9 Months Ended

Sep. 30, 2015

Financial Instruments, Derivatives and Fair Value Measures

Financial Instruments, Derivatives and Fair Value Measures

Note 9 — Financial Instruments, Derivatives and Fair Value Measures

Certain Abbott foreign subsidiaries enter into foreign currency forward exchange contracts to manage exposures to changes in foreign exchange rates for anticipated intercompany purchases by those subsidiaries whose functional currencies are not the U.S. dollar.  These contracts, with notional amounts totaling $2.5 billion at September 30, 2015 and $1.5 billion at December 31, 2014 are designated as cash flow hedges of the variability of the cash flows due to changes in foreign exchange rates and are recorded at fair value.   Accumulated gains and losses as of September 30, 2015 will be included in Cost of products sold at the time the products are sold, generally through the next twelve to eighteen months.  The amount of hedge ineffectiveness was not significant in 2015 and 2014.

Abbott enters into foreign currency forward exchange contracts to manage currency exposures for foreign currency denominated third-party trade payables and receivables, and for intercompany loans and trade accounts payable where the receivable or payable is denominated in a currency other than the functional currency of the entity.  For intercompany loans, the contracts require Abbott to sell or buy foreign currencies, primarily European currencies and Japanese yen, in exchange for primarily U.S. dollars and other European currencies.  For intercompany and trade payables and receivables, the currency exposures are primarily the U.S. dollar, European currencies and Japanese yen.  At September 30, 2015 and December 31, 2014, Abbott held $13.2 billion and $14.1 billion, respectively, of such foreign currency forward exchange contracts.

Abbott has designated foreign denominated short-term debt as a hedge of the net investment in a foreign subsidiary of approximately $442 million and approximately $445 million as of September 30, 2015 and December 31, 2014, respectively.  Accordingly, changes in the reported value of this debt due to changes in exchange rates are recorded in Accumulated other comprehensive income (loss), net of tax.

Abbott is a party to interest rate hedge contracts totaling approximately $4.0 billion at September 30, 2015 and $1.5 billion at December 31, 2014 to manage its exposure to changes in the fair value of fixed-rate debt.   These contracts are designated as fair value hedges of the variability of the fair value of fixed-rate debt due to changes in the long-term benchmark interest rates.  The effect of the hedge is to change a fixed-rate interest obligation to a variable rate for that portion of the debt.  Abbott records the contracts at fair value and adjusts the carrying amount of the fixed-rate debt by an offsetting amount.  No hedge ineffectiveness was recorded in income in 2015 or 2014 for these hedges.

The following table summarizes the amounts and location of certain derivative financial instruments as of September 30, 2015 and December 31, 2014:

	Fair Value - Assets					Fair Value - Liabilities
(in millions)	Sept. 30, 2015		Dec. 31, 2014		Balance Sheet Caption	Sept. 30, 2015		Dec. 31, 2014		Balance Sheet Caption
Interest rate swaps designated as fair value hedges	$	172	$	101	Deferred income taxes and other assets	$	—	$	—	Post-employment obligations, deferred income taxes and other long-term liabilities
Foreign currency forward exchange contracts:
Hedging instruments	100		107		Prepaid expenses, deferred income taxes, and other receivables	20		—		Other accrued liabilities
Others not designated as hedges	107		150		Prepaid expenses, deferred income taxes, and other receivables	105		130		Other accrued liabilities
Debt designated as a hedge of net investment in a foreign subsidiary	—		—		n/a	442		445		Short-term borrowings
	$	379	$	358		$	567	$	575

The following table summarizes the activity for foreign currency forward exchange contracts designated as cash flow hedges, debt designated as a hedge of net investment in a foreign subsidiary and certain other derivative financial instruments, as well as the amounts and location of income (expense) and gain (loss) reclassified into income for the three months and nine months ended September 30, 2015 and 2014.  The amount of hedge ineffectiveness was not significant in 2015 and 2014 for these hedges.

	Gain (loss) Recognized in Other Comprehensive Income (loss)									Income (expense) and Gain (loss) Reclassified into Income
	Three Months Ended Sept. 30					Nine Months Ended Sept. 30				Three Months Ended Sept. 30					Nine Months Ended Sept. 30					Income Statement
(in millions)	2015			2014		2015		2014		2015		2014			2015			2014		Caption
Foreign currency forward exchange contracts designated as cash flow hedges	$	41		$	58	$	89	$	56	$	33	$	2		$	80		$	7	Cost of products sold
Debt designated as a hedge of net investment in a foreign subsidiary	(11		)	38		3		20		n/a		n/a			n/a			n/a		n/a
Interest rate swaps designated as fair value hedges	n/a			n/a		n/a		n/a		85		(6		)	71			13		Interest expense
Foreign currency forward exchange contracts not designated as hedges	n/a			n/a		n/a		n/a		9		76			(92		)	50		Net foreign exchange loss (gain)

The interest rate swaps are designated as fair value hedges of the variability of the fair value of fixed-rate debt due to changes in the long-term benchmark interest rates.  The hedged debt is marked to market, offsetting the effect of marking the interest rate swaps to market.

The carrying values and fair values of certain financial instruments as of September 30, 2015 and December 31, 2014 are shown in the following table. The carrying values of all other financial instruments approximate their estimated fair values.  The counterparties to financial instruments consist of select major international financial institutions.  Abbott does not expect any losses from nonperformance by these counterparties.

	September 30, 2015						December 31, 2014
(in millions)	Carrying Value			Fair Value			Carrying Value			Fair Value
Investment Securities:
Equity securities	$	3,038		$	3,038		$	212		$	212
Other	17			17			17			17
Total Long-term Debt	(5,985		)	(6,493		)	(3,463		)	(4,113		)
Foreign Currency Forward Exchange Contracts:
Receivable position	207			207			263			263
(Payable) position	(125		)	(125		)	(135		)	(135		)
Interest Rate Hedge Contracts:
Receivable position	172			172			101			101

The fair value of the debt was determined based on significant other observable inputs, including current interest rates.

The following table summarizes the bases used to measure certain assets and liabilities at fair value on a recurring basis in the   balance sheet:

			Basis of Fair Value Measurement
(in millions)	Outstanding Balances		Quoted Prices in Active Markets		Significant Other Observable Inputs		Significant Unobservable Inputs
September 30, 2015:
Equity securities	$	2,817	$	2,817	$	—	$	—
Interest rate swap derivative financial instruments	172		—		172		—
Foreign currency forward exchange contracts	207		—		207		—
Total Assets	$	3,196	$	2,817	$	379	$	—
Fair value of hedged long-term debt	$	4,196	$	—	$	4,196	$	—
Foreign currency forward exchange contracts	125		—		125		—
Contingent consideration related to business combinations	180		—		—		180
Total Liabilities	$	4,501	$	—	$	4,321	$	180
December 31, 2014:
Equity securities	$	9	$	9	$	—	$	—
Interest rate swap derivative financial instruments	101		—		101		—
Foreign currency forward exchange contracts	263		—		263		—
Total Assets	$	373	$	9	$	364	$	—
Fair value of hedged long-term debt	$	1,637	$	—	$	1,637	$	—
Foreign currency forward exchange contracts	135		—		135		—
Contingent consideration related to business combinations	243		—		—		243
Total Liabilities	$	2,015	$	—	$	1,772	$	243

Equity securities are principally comprised of Mylan N.V. ordinary shares.  The fair value of the Mylan N.V. equity securities was determined based on the value of the publicly-traded ordinary shares. The fair value of debt was determined based on the face value of the debt adjusted for the fair value of the interest rate swaps, which is based on a discounted cash flow analysis. The fair value of foreign currency forward exchange contracts is determined using a market approach, which utilizes values for comparable derivative instruments.  The fair value of the contingent consideration was determined based on an independent appraisal adjusted for the time value of money and other changes in fair value primarily resulting from changes in regulatory timelines.

The following table summarizes the available-for-sale equity securities in an unrealized loss position:

(in millions)	September 30, 2015		December 31, 2014
Fair value of securities in an unrealized loss position	$	2,812	$	6
Unrealized gross losses	797		—

Available-for-sale securities are periodically assessed for other-than-temporary impairment losses.  Almost all of the unrealized losses relate to the holding of Mylan N.V. ordinary shares, which have been in an unrealized loss position for less than three months at September 30, 2015.  Factors considered in assessing other-than-temporary impairment losses include the length of time and the extent to which the fair value has been less than cost, the financial condition and near term prospects of the issuer, Abbott’s intent and ability to retain the securities for a period of time sufficient to allow for recovery in fair value, overall market conditions, and industry and company specific factors.  Based on that evaluation and Abbott’s ability and intent to hold these investments for a reasonable period of time sufficient for a forecasted recovery of fair value, Abbott does not consider these securities to be other-than-temporarily impaired at September 30, 2015.