10-Q 1 a3q10q10-01x17.htm 3Q 2017 10-Q Document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
 
 
 
þ
 
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
for the quarterly period ended October 1, 2017
or
 
 
 
o
 
Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
for the transition period from            to
Commission file number 1-3215
jnjlogoa03a01a01a01a01a08.jpg
(Exact name of registrant as specified in its charter)
NEW JERSEY
(State or other jurisdiction of
incorporation or organization)
 
22-1024240
(I.R.S. Employer
Identification No.)

One Johnson & Johnson Plaza
New Brunswick, New Jersey 08933
(Address of principal executive offices)
Registrant’s telephone number, including area code (732) 524-0400
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. þ Yes o No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). þ Yes o No
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer þ
 
Accelerated filer o
 
 
Non-accelerated filer o
 
(Do not check if a smaller reporting company)
 
 
Smaller reporting company o
 
Emerging growth company o
 

If an emerging growth company, indicated 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. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes þ No
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
On October 27, 2017, 2,686,520,050 shares of Common Stock, $1.00 par value, were outstanding.



JOHNSON & JOHNSON AND SUBSIDIARIES
TABLE OF CONTENTS
 
 
Page
 
 
No.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 EX-31.1
 EX-32.1
 EX-101 INSTANCE DOCUMENT
 EX-101 SCHEMA DOCUMENT
 EX-101 CALCULATION LINKBASE DOCUMENT
 EX-101 LABELS LINKBASE DOCUMENT
 EX-101 PRESENTATION LINKBASE DOCUMENT
 EX-101 DEFINITION LINKBASE DOCUMENT





CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q and Johnson & Johnson's other publicly available documents contain forward-looking statements within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Management and representatives of Johnson & Johnson and its subsidiaries (the Company) also may from time to time make forward-looking statements. Forward-looking statements do not relate strictly to historical or current facts and reflect management’s assumptions, views, plans, objectives and projections about the future. Forward-looking statements may be identified by the use of words such as “plans,” “expects,” “will,” “anticipates,” “estimates,” “intends,” and other words of similar meaning in conjunction with, among other things, discussions of: future operating results, financial performance and liquidity; impact of planned acquisitions and dispositions; impact and timing of restructuring initiatives including associated cost savings and other benefits; strategy for growth; product development activities including planned research and clinical trials; regulatory filings and approvals; market position; investment and expenditures; and impact of potential and actual changes in tax and other laws and public policy.
Because forward-looking statements are based on current beliefs, expectations and assumptions regarding future events, they are subject to uncertainties, risks and changes that are difficult to predict and many of which are outside of the Company's control. Investors should realize that if underlying assumptions prove inaccurate, or known or unknown risks or uncertainties materialize, the Company’s actual results and financial condition could vary materially from expectations and projections expressed or implied in its forward-looking statements. Investors are therefore cautioned not to rely on these forward-looking statements. Risks and uncertainties include, but are not limited to:
Risks Related to Product Development, Market Success and Competition
Challenges and uncertainties inherent in innovation and development of new and improved products and technologies on which the Company’s continued growth and success depend, including uncertainty of clinical outcomes, obtaining regulatory approvals, health plan coverage and customer access, and initial and continued commercial success;
Challenges to the Company’s ability to obtain and protect adequate patent and other intellectual property rights for new and existing products and technologies in the United States and other important markets;
The impact of patent expirations, typically followed by the introduction of competing biosimilars and generics and resulting revenue and market share losses;
Increasingly aggressive and frequent challenges to the Company’s patents by competitors and others seeking to launch competing generic, biosimilar or other products, potentially resulting in loss of market exclusivity and rapid decline in sales for the relevant product;
Competition in research and development of new and improved products, processes and technologies, which can result in product and process obsolescence;
Competition to reach agreement with third parties for collaboration, licensing, development and marketing agreements for products and technologies;
Competition on the basis of cost-effectiveness, product performance, technological advances and patents attained by competitors; and
Allegations that the Company’s products infringe the patents and other intellectual property rights of third parties, which could adversely affect the Company’s ability to sell the products in question and require the payment of money damages and future royalties.
Risks Related to Product Liability, Litigation and Regulatory Activity
Product efficacy or safety concerns, whether or not based on scientific evidence, potentially resulting in product withdrawals, recalls, regulatory action on the part of the United States Food and Drug Administration (or international counterparts), declining sales and reputational damage;
Impact of significant litigation or government action adverse to the Company, including product liability claims;
Increased scrutiny of the health care industry by government agencies and state attorneys general resulting in investigations and prosecutions, which carry the risk of significant civil and criminal penalties, including, but not limited to, debarment from government business;
Failure to meet compliance obligations in the McNEIL-PPC, Inc. Consent Decree or the Corporate Integrity Agreements of the Johnson & Johnson Pharmaceutical Affiliates, or any other compliance agreements with governments or government agencies, which could result in significant sanctions;



Potential changes to applicable laws and regulations affecting United States and international operations, including relating to: approval of new products; licensing and patent rights; sales and promotion of health care products; access to, and reimbursement and pricing for, health care products and services; environmental protection and sourcing of raw materials;
Changes in tax laws or regulations, increasing audit scrutiny by tax authorities around the world and exposures to additional tax liabilities potentially in excess of existing reserves or requiring new reserves; and
Issuance of new or revised accounting standards by the Financial Accounting Standards Board and the Securities and Exchange Commission.
Risks Related to the Company’s Strategic Initiatives and Health Care Market Trends
Pricing pressures resulting from trends toward health care cost containment, including the continued consolidation among health care providers, trends toward managed care and the shift toward governments increasingly becoming the primary payers of health care expenses;
Restricted spending patterns of individual, institutional and governmental purchasers of health care products and services due to economic hardship and budgetary constraints;
Challenges to the Company’s ability to realize its strategy for growth including through externally sourced innovations, such as development collaborations, strategic acquisitions, licensing and marketing agreements, and the potential heightened costs of any such external arrangements due to competitive pressures;
The potential that the expected strategic benefits and opportunities from any planned or completed acquisition or divestiture by the Company, including the acquisition of Actelion Ltd., may not be realized or may take longer to realize than expected; and
The potential that the expected benefits and opportunities related to the restructuring actions in the Medical Device segment may not be realized or may take longer to realize than expected, including due to any required consultation procedures relating to restructuring of workforce.
Risks Related to Economic Conditions, Financial Markets and Operating Internationally
Impact of inflation and fluctuations in interest rates and currency exchange rates and the potential effect of such fluctuations on revenues, expenses and resulting margins;
Potential changes in export/import and trade laws, regulations and policies of the United States, United Kingdom and other countries, including any increased trade restrictions and potential drug reimportation legislation;
The impact on international operations from financial instability in international economies, sovereign risk, possible imposition of governmental controls and restrictive economic policies, and unstable international governments and legal systems;
Global climate changes, extreme weather and natural disasters that could affect demand for the Company's products and services, cause disruptions in manufacturing and distribution networks, alter the availability of goods and services within the supply chain, and affect the overall design and integrity of the Company's products and operations; and
The impact of armed conflicts and terrorist attacks in the United States and other parts of the world including social and economic disruptions and instability of financial and other markets.
Risks Related to Supply Chain and Operations
Difficulties and delays in manufacturing, internally or within the supply chain, that may lead to voluntary or involuntary business interruptions or shutdowns, product shortages, withdrawals or suspensions of products from the market, and potential regulatory action;
Interruptions and breaches of the Company's information technology systems, and those of the Company's vendors, potentially resulting in reputational, competitive, operational or other business harm as well as financial costs and regulatory action; and
Reliance on global supply chains and production and distribution processes that are complex and subject to increasing regulatory requirements that may adversely affect supply, sourcing and pricing of materials used in the Company’s products.
Investors also should carefully read the Risk Factors described in Item 1A of the Company's Annual Report on Form 10-K for the fiscal year ended January 1, 2017, for a description of certain risks that could, among other things, cause the Company’s actual results to differ materially from those expressed in its forward-looking statements. Investors should understand that it is not possible to identify or predict all potential risks and uncertainties. The Company does not undertake to publicly update any



forward-looking statement that may be made from time to time, whether as a result of new information or future events or developments.




Part I — FINANCIAL INFORMATION

Item 1 — FINANCIAL STATEMENTS

JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited; Dollars in Millions Except Share and Per Share Data)

 
 
October 1, 2017
 
January 1, 2017
ASSETS
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
15,721

 
18,972

Marketable securities
 
510

 
22,935

Accounts receivable, trade, less allowances for doubtful accounts $332 (2016, $252)
 
13,155

 
11,699

Inventories (Note 2)
 
9,521

 
8,144

Prepaid expenses and other
 
2,922

 
3,282

Total current assets
 
41,829

 
65,032

Property, plant and equipment at cost
 
40,928

 
37,773

Less: accumulated depreciation
 
(24,300
)
 
(21,861
)
Property, plant and equipment, net
 
16,628

 
15,912

Intangible assets, net (Note 3)
 
54,569

 
26,876

Goodwill (Note 3)
 
31,308

 
22,805

Deferred taxes on income
 
6,303

 
6,148

Other assets
 
5,021

 
4,435

Total assets
 
$
155,658

 
141,208

LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
 
 
 
 
Loans and notes payable
 
$
8,491

 
4,684

Accounts payable
 
6,390

 
6,918

Accrued liabilities
 
5,897

 
5,635

Accrued rebates, returns and promotions
 
6,945

 
5,403

Accrued compensation and employee related obligations
 
2,900

 
2,676

Accrued taxes on income
 
1,183

 
971

Total current liabilities
 
31,806

 
26,287

Long-term debt (Note 4)
 
26,675

 
22,442

Deferred taxes on income
 
4,410

 
2,910

Employee related obligations
 
9,686

 
9,615

Other liabilities
 
9,102

 
9,536

Total liabilities
 
81,679

 
70,790

Shareholders’ equity:
 
 
 
 
Common stock — par value $1.00 per share (authorized 4,320,000,000 shares; issued 3,119,843,000 shares)
 
$
3,120

 
3,120

Accumulated other comprehensive income (loss) (Note 7)
 
(12,747
)
 
(14,901
)
Retained earnings
 
114,805

 
110,551

Less: common stock held in treasury, at cost (434,861,000 and 413,332,000 shares)
 
31,199

 
28,352

Total shareholders’ equity
 
73,979

 
70,418

Total liabilities and shareholders' equity
 
$
155,658

 
141,208

See Notes to Consolidated Financial Statements

1


JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited; Dollars & Shares in Millions Except Per Share Amounts)
 
 
Fiscal Third Quarters Ended
 
 
October 1,
2017
 
Percent
to Sales
 
October 2,
2016
 
Percent
to Sales
Sales to customers (Note 9)
 
$
19,650

 
100.0
 %
 
$
17,820

 
100.0
 %
Cost of products sold
 
6,902

 
35.1

 
5,486

 
30.8

Gross profit
 
12,748

 
64.9

 
12,334

 
69.2

Selling, marketing and administrative expenses
 
5,396

 
27.5

 
4,772

 
26.8

Research and development expense
 
2,574

 
13.1

 
2,178

 
12.2

Interest income
 
(74
)
 
(0.4
)
 
(97
)
 
(0.5
)
Interest expense, net of portion capitalized
 
229

 
1.2

 
192

 
1.0

Other (income) expense, net
 
(236
)
 
(1.2
)
 
(54
)
 
(0.2
)
Restructuring (Note 12)
 
69

 
0.3

 
62

 
0.3

Earnings before provision for taxes on income
 
4,790

 
24.4

 
5,281

 
29.6

Provision for taxes on income (Note 5)
 
1,026

 
5.2

 
1,009

 
5.6

NET EARNINGS
 
$
3,764

 
19.2
 %
 
$
4,272

 
24.0
 %
 
 
 
 
 
 
 
 
 
NET EARNINGS PER SHARE (Note 8)
 
 
 
 
 
 
 
 
Basic
 
$
1.40

 
 
 
$
1.56

 
 
Diluted
 
$
1.37

 
 
 
$
1.53

 
 
CASH DIVIDENDS PER SHARE
 
$
0.84

 
 
 
$
0.80

 
 
AVG. SHARES OUTSTANDING
 
 
 
 
 
 
 
 
Basic
 
2,684.6

 
 
 
2,731.6

 
 
Diluted
 
2,737.7

 
 
 
2,785.4

 
 
See Notes to Consolidated Financial Statements


2


JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(Unaudited; Dollars & Shares in Millions Except Per Share Amounts)

 
 
 
 
 
 
 
 
 
 
 
Fiscal Nine Months Ended
 
 
October 1,
2017
 
Percent
to Sales
 
October 2,
2016
 
Percent
to Sales
Sales to customers (Note 9)
 
$
56,255

 
100.0
 %
 
$
53,784

 
100.0
 %
Cost of products sold
 
18,111

 
32.2

 
16,151

 
30.0

Gross profit
 
38,144

 
67.8

 
37,633

 
70.0

Selling, marketing and administrative expenses
 
15,395

 
27.4

 
14,636

 
27.2

Research and development expense
 
6,919

 
12.3

 
6,455

 
12.0

In-process research and development
 

 

 
29

 
0.1

Interest income
 
(300
)
 
(0.5
)
 
(268
)
 
(0.5
)
Interest expense, net of portion capitalized
 
660

 
1.1

 
542

 
1.0

Other (income) expense, net
 
192

 
0.3

 
464

 
0.9

Restructuring expense (Note 12)
 
165

 
0.3

 
296

 
0.5

Earnings before provision for taxes on income
 
15,113

 
26.9

 
15,479

 
28.8

Provision for taxes on income (Note 5)
 
3,100

 
5.5

 
2,753

 
5.1

NET EARNINGS
 
$
12,013

 
21.4
 %
 
$
12,726

 
23.7
 %
 
 
 
 
 
 
 
 
 
NET EARNINGS PER SHARE (Note 8)
 
 
 
 
 
 
 
 
Basic
 
$
4.46

 
 
 
$
4.64

 
 
Diluted
 
$
4.37

 
 
 
$
4.55

 
 
CASH DIVIDENDS PER SHARE
 
$
2.48

 
 
 
$
2.35

 
 
AVG. SHARES OUTSTANDING
 
 
 
 
 
 
 
 
Basic
 
2,694.4

 
 
 
2,744.9

 
 
Diluted
 
2,746.4

 
 
 
2,796.6

 
 
 
 
 
 
 
 
 
 
 
See Notes to Consolidated Financial Statements


3


JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited; Dollars in Millions)

 
Fiscal Third Quarters Ended
 
Fiscal Nine Months Ended
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
 
 
 
 
 
 
 
 
Net earnings
$
3,764

 
4,272

 
12,013

 
12,726

 
 
 
 
 
 
 
 
Other comprehensive income (loss), net of tax
 
 
 
 
 
 
 
Foreign currency translation
359

 
(94
)
 
1,597

 
490

 
 
 
 
 
 
 
 
Securities:
 
 
 
 
 
 
 
  Unrealized holding gain (loss) arising during period
14

 
29

 
150

 
129

  Reclassifications to earnings
(99
)
 
(42
)
 
(292
)
 
(136
)
  Net change
(85
)
 
(13
)
 
(142
)
 
(7
)
 
 
 
 
 
 
 
 
Employee benefit plans:
 
 
 
 
 
 
 
  Prior service cost amortization during period
(4
)
 
(5
)
 
(13
)
 
(15
)
  Gain (loss) amortization during period
124

 
103

 
370

 
310

  Net change
120

 
98

 
357

 
295

 
 
 
 
 
 
 
 
Derivatives & hedges:
 
 
 
 
 
 
 
  Unrealized gain (loss) arising during period
62

 
4

 
(8
)
 
(437
)
  Reclassifications to earnings
31

 
(3
)
 
350

 
109

  Net change
93

 
1

 
342

 
(328
)
 
 
 
 
 
 
 
 
Other comprehensive income (loss)
487

 
(8
)
 
2,154

 
450

 
 
 
 
 
 
 
 
Comprehensive income
$
4,251

 
4,264

 
14,167

 
13,176

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
See Notes to Consolidated Financial Statements

The tax effects in other comprehensive income for the fiscal third quarters were as follows for 2017 and 2016, respectively: Securities: $45 million and $7 million; Employee Benefit Plans: $61 million and $51 million; Derivatives & Hedges: $50 million and less than $1 million.
 
The tax effects in other comprehensive income for the fiscal nine months were as follows for 2017 and 2016, respectively: Securities: $76 million and $4 million; Employee Benefit Plans: $181 million and $155 million; Derivatives & Hedges:$184 million and $177 million.
 

4


JOHNSON & JOHNSON AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited; Dollars in Millions)
 
 
Fiscal Nine Months Ended
 
 
October 1,
2017
 
October 2,
2016
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
 
Net earnings
 
$
12,013

 
12,726

Adjustments to reconcile net earnings to cash flows from operating activities:
 
 
 
 
Depreciation and amortization of property and intangibles
 
3,773

 
2,699

Stock based compensation
 
758

 
704

Asset write-downs
 
309

 
187

Net gain on sale of assets/businesses
 
(527
)
 
(276
)
Deferred tax provision
 
(407
)
 
215

Accounts receivable allowances
 
59

 
(10
)
Changes in assets and liabilities, net of effects from acquisitions and divestitures:
 
 
 
 
Increase in accounts receivable
 
(300
)
 
(736
)
Increase in inventories
 
(193
)
 
(408
)
Increase (Decrease) in accounts payable and accrued liabilities
 
339

 
(1,220
)
Increase in other current and non-current assets
 
(555
)
 
(514
)
Decrease in other current and non-current liabilities
 
(318
)
 
(1,253
)
 
 
 
 
 
NET CASH FLOWS FROM OPERATING ACTIVITIES
 
14,951

 
12,114

 
 
 
 
 
CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
 
Additions to property, plant and equipment
 
(2,039
)
 
(2,133
)
Proceeds from the disposal of assets/businesses, net
 
726

 
873

Acquisitions, net of cash acquired
 
(34,646
)
 
(4,050
)
Purchases of investments
 
(5,798
)
 
(27,677
)
Sales of investments
 
27,511

 
30,437

Other
 
(117
)
 
(37
)
 
 
 
 
 
NET CASH USED BY INVESTING ACTIVITIES
 
(14,363
)
 
(2,587
)
 
 
 
 
 
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
 
Dividends to shareholders
 
(6,687
)
 
(6,451
)
Repurchase of common stock
 
(5,543
)
 
(6,954
)
Proceeds from short-term debt
 
4,760

 
149

Retirement of short-term debt
 
(936
)
 
(3,926
)
Proceeds from long-term debt, net of issuance costs
 
4,465

 
11,951

Retirement of long-term debt
 
(1,024
)
 
(953
)
Proceeds from the exercise of stock options/employee withholding tax on stock awards, net
 
854

 
1,112

Other
 
(25
)
 
(15
)
 
 
 
 
 
NET CASH USED BY FINANCING ACTIVITIES
 
(4,136
)
 
(5,087
)
 
 
 
 
 
Effect of exchange rate changes on cash and cash equivalents
 
297

 
33

(Decrease)/Increase in cash and cash equivalents
 
(3,251
)
 
4,473

Cash and Cash equivalents, beginning of period
 
18,972

 
13,732

CASH AND CASH EQUIVALENTS, END OF PERIOD
 
$
15,721

 
18,205

 
 
 
 
 
Acquisitions
 
 
 
 
Fair value of assets acquired
 
$
36,494

 
4,094

Fair value of liabilities assumed and noncontrolling interests
 
(1,848
)
 
(44
)
Net cash paid for acquisitions
 
$
34,646

 
4,050

Prior year amounts have been reclassified to conform to current year presentation
See Notes to Consolidated Financial Statements

5


NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1 — The accompanying unaudited interim consolidated financial statements and related notes should be read in conjunction with the audited Consolidated Financial Statements of Johnson & Johnson and its subsidiaries (the Company) and related notes as contained in the Company’s Annual Report on Form 10-K for the fiscal year ended January 1, 2017. The unaudited interim financial statements include all adjustments (consisting only of normal recurring adjustments) and accruals necessary in the judgment of management for a fair statement of the results for the periods presented.
New Accounting Standards
Adopted as of October 1, 2017

During the fiscal first quarter of 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update 2016-07 Investments - Equity Method and Joint Ventures: Simplifying the Transition to the Equity Method of Accounting. The amendments in the update eliminate the requirement that when an investment qualifies for the use of the equity method as a result of an increase in the level of ownership interest or degree of influence, an investor must adjust the investment, results of operations, and retained earnings retroactively on a step by step basis as if the equity method had been in effect during all previous periods that the investment had been held. The amendments in this update are effective for all entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2016. The amendments should be applied prospectively upon their effective date to increases in the level of ownership interest or degree of influence that result in the application of the equity method. The adoption of this standard did not have a material impact on the presentation of the Company's consolidated financial statements.

During the fiscal second quarter of 2015, the FASB issued Accounting Standards Update 2015-11: Simplifying the Measurement of Inventory. This update requires inventory to be measured at the lower of cost or net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. This update is effective for the Company for all annual and interim periods beginning after December 15, 2016. The amendments in this update should be applied prospectively. This update did not have any material impact on the Company’s consolidated financial statements.
Recently Issued Accounting Standards
Not Adopted as of October 1, 2017

During the fiscal third quarter of 2017, the FASB issued Accounting Standard Update 2017-12: Targeted Improvements to Accounting for Hedging Activities. This update makes more financial and nonfinancial hedging strategies eligible for hedge accounting. It also amends the presentation and disclosure requirements and changes how companies assess effectiveness. This update will be effective for the Company for fiscal years beginning after December 15, 2018, and interim periods within those fiscal years. Early adoption is permitted upon its issuance. The amendments in this update should be applied on a modified retrospective basis except for the presentation and disclosure guidance which is required prospectively. The Company is currently assessing the impact of the future adoption of this standard on its financial statements.

During the fiscal first quarter of 2017, the FASB issued Accounting Standards Update 2017-07: Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. This update requires that an employer disaggregate the service cost component from the other components of net periodic benefit cost (“NPBC”). In addition, only the service cost component will be eligible for capitalization. This update is effective for the Company for all annual and interim periods beginning after December 15, 2017. Early adoption is permitted as of the beginning of an annual period for which financial statements (interim or annual) have not been issued or made available for issuance. The Company will adopt this new standard in 2018. The amendments in this Update should be applied retrospectively for the presentation of the service cost component and the other components of NPBC in the income statement and prospectively, on and after the effective date, for the capitalization of the service cost component of NPBC in assets. The Company is assessing the retroactive restatement methodology and impact to the individual line items on Consolidated Statement of Earnings. The Company does not expect there to be a material impact to net earnings.

During the fiscal first quarter of 2017, the FASB issued Accounting Standard Update 2017-05: Other Income-Gains and Losses from the Derecognition of Nonfinancial Assets. This update clarifies the scope of asset derecognition guidance, adds guidance for partial sales of nonfinancial assets and clarifies recognizing gains and losses from the transfer of nonfinancial assets in contracts with noncustomers. This update will be effective for the Company for its annual and interim reporting periods beginning after December 15, 2017, the same time as the amendments in Update 2014-09 Revenue from Contracts with

6


Customers. This update allows the Company to choose either a full retrospective method or modified retrospective method upon adoption.  The Company does not expect this standard to have a material impact on the Company's consolidated financial statements.

During the fiscal first quarter of 2017, the FASB issued Accounting Standard Update 2017-04: Simplifying the Test for Goodwill Impairment. This update simplifies how an entity is required to test goodwill for impairment. A goodwill impairment will now be measured by the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. This update will be effective for the Company for its annual or any interim goodwill impairment tests in fiscal years beginning after December 15, 2019. Early adoption is permitted. This update should be applied prospectively. The Company does not expect this standard to have a material impact on the Company's consolidated financial statements.

During the fiscal first quarter of 2017, the FASB issued Accounting Standard Update 2017-01: Clarifying the Definition of a Business. This update narrows the definition of a business by providing a screen to determine when an integrated set of assets and activities is not a business. The screen specifies that an integrated set of assets and activities is not a business if substantially all of the fair value of the gross assets acquired or disposed of is concentrated in a single or a group of similar identifiable assets. This update will be effective for the Company for annual periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted. This update should be applied prospectively. The Company does not expect this standard to have a material impact on the Company's consolidated financial statements.

During the fiscal fourth quarter of 2016, the FASB issued Accounting Standards Update 2016-16 Income Taxes: Intra-Entity Transfers of Assets Other Than Inventory. This update removes the current exception in US GAAP prohibiting entities from recognizing current and deferred income tax expenses or benefits related to transfer of assets, other than inventory, within the consolidated entity. The current exception to defer the recognition of any tax impact on the transfer of inventory within the consolidated entity until it is sold to a third party remains unaffected. The amendments in this update are effective for public entities for annual reporting periods beginning after December 15, 2017.  The Company continues to assess the impact of the future adoption of this standard for fiscal 2018. The results from a preliminary assessment indicate that the adoption of the standard will not have a significant impact on the Company’s financial results.  Upon adoption, and based on current tax and foreign exchange rates, the Company expects to record additional deferred tax assets in the range of $2.2 billion to $2.5 billion and an increase to retained earnings between $1.2 billion and $1.5 billion at the beginning of 2018.

During the fiscal third quarter of 2016, the FASB issued Accounting Standards Update 2016-15 Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments. This update addresses whether to present certain specific cash flow items as operating, investing or financing activities. The amendments in this update are effective for public entities for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. Early adoption is permitted, including adoption in an interim period. The Company does not expect this standard to have a material impact on its consolidated Statements of Cash Flows.

During the fiscal first quarter of 2016, the FASB issued Accounting Standards Update 2016-02 Leases. This update requires the recognition of lease assets and lease liabilities on the balance sheet for all lease obligations and disclosing key information about leasing arrangements. This update requires the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under current generally accepted accounting principles. This update will be effective for the Company for all annual and interim periods beginning after December 15, 2018, including interim periods within those fiscal years. Early application is permitted. The update is required to be adopted using a modified retrospective approach. The Company anticipates that most of its operating leases will result in the recognition of additional assets and the corresponding liabilities on its Consolidated Balance Sheets, however does not expect to have a material impact on the financial position. The actual impact will depend on the Company's lease portfolio at the time of adoption. The Company continues to assess all implications of the standard and related financial disclosures.

During the fiscal first quarter of 2016, the FASB issued Accounting Standards Update 2016-01 Financial Instruments: Recognition and Measurement of Financial Assets and Financial Liabilities. The amendments in this update supersede the guidance to classify equity securities with readily determinable fair values into different categories (that is, trading or available-for-sale) and require equity securities to be measured at fair value with changes in the fair value recognized through net income. The standard amends financial reporting by providing relevant information about an entity’s equity investments and reducing the number of items that are recognized in other comprehensive income. This update will be effective for the Company for annual periods beginning after December 15, 2017, and interim periods within those annual periods. The

7


Company is unable to estimate the impact of the future adoption of this standard on its financial statements as it will depend on the equity investments as of the adoption date.

During the fiscal second quarter of 2014, the FASB issued Accounting Standards Update 2014-09: Revenue from Contracts with Customers, which, along with amendments issued in 2015 and 2016, will replace substantially all current U.S. GAAP guidance on this topic and eliminate industry-specific guidance. Early adoption of this standard is permitted but not before the original effective date for all annual periods and interim reporting periods beginning after December 15, 2017. The guidance permits two methods of adoption: full retrospective method (retrospective application to each prior reporting period presented) or modified retrospective method (retrospective application with the cumulative effect of initially applying the guidance recognized at the date of initial application and providing certain additional disclosures). The Company plans to adopt the standard using the modified retrospective method. While the Company continues to evaluate the effect of the standard, preliminarily, it does not anticipate a material impact on its financial statements including the potential impact of additional disclosure requirements. To complete the assessment of the impact of the standard, the Company continues to assess all implications of the standard on its financial statements and disclosures. Additionally, the Company continues to monitor modifications, clarifications and interpretations issued by the FASB that may affect current conclusions.


NOTE 2 — INVENTORIES

(Dollars in Millions)
 
October 1, 2017
 
January 1, 2017
Raw materials and supplies
 
$
1,141

 
952

Goods in process
 
2,388

 
2,185

Finished goods
 
5,992

 
5,007

Total inventories
 
$
9,521

 
8,144


Inventory of $63 million was classified as held for sale, and reported in prepaid expenses and other on the Consolidated Balance Sheet, related to the divestiture of the Codman Neurosurgery business which was pending as of October 1, 2017.
See Note 10 to the Consolidated Financial Statements for additional details on inventory related to the Actelion acquisition.

NOTE 3 — INTANGIBLE ASSETS AND GOODWILL

Intangible assets that have finite useful lives are amortized over their estimated useful lives. The latest annual impairment assessment of goodwill and indefinite lived intangible assets was completed in the fiscal fourth quarter of 2016. Future impairment tests for goodwill and indefinite lived intangible assets will be performed annually in the fiscal fourth quarter, or sooner, if warranted.
(Dollars in Millions)
 
October 1, 2017
 
January 1, 2017
Intangible assets with definite lives:
 
 
 
 
Patents and trademarks — gross
 
$
36,342

 
10,521

Less accumulated amortization
 
6,395

 
5,076

Patents and trademarks — net
 
29,947

 
5,445

Customer relationships and other intangibles — gross
 
20,241

 
17,615

Less accumulated amortization
 
7,297

 
6,515

Customer relationships and other intangibles — net
 
12,944

 
11,100

Intangible assets with indefinite lives:
 
 
 
 
Trademarks
 
7,093

 
6,888

Purchased in-process research and development
 
4,585

 
3,443

Total intangible assets with indefinite lives
 
11,678

 
10,331

Total intangible assets — net
 
$
54,569

 
26,876





8


Goodwill as of October 1, 2017 was allocated by segment of business as follows:
(Dollars in Millions)
 
Consumer
 
Pharm
 
Med Devices
 
Total
Goodwill, net at January 1, 2017
 
$
8,263

 
2,840

 
11,702

 
22,805

Goodwill, related to acquisitions*
 
102

 
5,757

 
2,140

 
7,999

Goodwill, related to divestitures
 
(74
)
 

 

 
(74
)
Currency translation/Other
 
557

 
89

 
(68
)
(1)
578

Goodwill, net at October 1, 2017
 
$
8,848

 
8,686

 
13,774

 
31,308

(1) Net of $106 million classified as held for sale, reported in other assets on the Consolidated Balance Sheet, related to the divestiture of the Codman Neurosurgery business which was pending as of October 1, 2017.
* Includes measurement period adjustments

The weighted average amortization periods for patents and trademarks and customer relationships and other intangible assets are 12 years and 23 years, respectively. The amortization expense of amortizable intangible assets included in cost of products sold was $1,886 million and $895 million for the fiscal nine months ended October 1, 2017 and October 2, 2016, respectively. The estimated amortization expense for the five succeeding years approximates $4.3 billion, before tax, per year. Intangible asset write-downs are included in Other (income) expense, net.

The primary driver of the increase to intangible assets and goodwill is related to the Actelion acquisition in the fiscal second quarter of 2017, which resulted in the recording of $25.0 billion to intangible assets and approximately $5.8 billion to goodwill. Additionally, the Abbott Medical Optics (AMO) acquisition in the fiscal first quarter of 2017, resulted in the recording of $2.3 billion to intangible assets and $1.8 billion to goodwill. The intangible assets and goodwill amounts related to the Actelion and AMO acquisitions are based on the preliminary purchase price allocation. See Note 10 to the Consolidated Financial Statements for additional details related to acquisitions and divestitures.

NOTE 4 — FAIR VALUE MEASUREMENTS

The Company uses forward foreign exchange contracts to manage its exposure to the variability of cash flows, primarily related to the foreign exchange rate changes of future intercompany products and third-party purchases of materials denominated in a foreign currency. The Company uses cross currency interest rate swaps to manage currency risk primarily related to borrowings.
The Company also uses equity collar contracts to manage exposure to market risk associated with certain equity investments.
All three types of derivatives are designated as cash flow hedges.

Additionally, the Company uses interest rate swaps as an instrument to manage interest rate risk related to fixed rate borrowings. These derivatives are designated as fair value hedges. The Company uses forward foreign exchange contracts designated as net investment hedges. Additionally, the Company uses forward foreign exchange contracts to offset its exposure to certain foreign currency assets and liabilities. These forward foreign exchange contracts are not designated as hedges, and therefore, changes in the fair values of these derivatives are recognized in earnings, thereby offsetting the current earnings effect of the related foreign currency assets and liabilities.

The Company does not enter into derivative financial instruments for trading or speculative purposes, or that contain credit risk related contingent features. During the fiscal second quarter of 2017, the Company entered into credit support agreements (CSA) with our derivative counterparties establishing collateral thresholds based on respective credit ratings and netting agreements. As of October 1, 2017 the total amount of collateral received under the credit support agreements (CSA) amounted to $43 million. For equity collar contracts, the Company pledged the underlying hedged marketable equity securities to the counter-party as collateral. On an ongoing basis, the Company monitors counter-party credit ratings. The Company considers credit non-performance risk to be low, because the Company primarily enters into agreements with commercial institutions that have at least an investment grade credit rating. Refer to the table on significant financial assets and liabilities measured at fair value contained in this footnote for receivables and payables with these commercial institutions. As of October 1, 2017, the Company had notional amounts outstanding for forward foreign exchange contracts, cross currency interest rate swaps, interest rate swaps and equity collar contracts of $34.7 billion, $2.3 billion, $1.8 billion, and less than $0.1 billion respectively. As of January 1, 2017, the Company had notional amounts outstanding for forward foreign exchange contracts, cross currency interest rate swaps, interest rate swaps and equity collar contracts of $36.0 billion, $2.3 billion, $1.8 billion, and $0.3 billion respectively.

All derivative instruments are recorded on the balance sheet at fair value. Changes in the fair value of derivatives are recorded each period in current earnings or other comprehensive income, depending on whether the derivative is designated as part of a hedge transaction, and if so, the type of hedge transaction.

9



The designation as a cash flow hedge is made at the entrance date of the derivative contract. At inception, all derivatives are expected to be highly effective. Changes in the fair value of a derivative that is designated as a cash flow hedge and is highly effective are recorded in accumulated other comprehensive income until the underlying transaction affects earnings, and are then reclassified to earnings in the same account as the hedged transaction. Gains and losses associated with interest rate swaps and changes in fair value of hedged debt attributable to changes in interest rates are recorded to interest expense in the period in which they occur. Gains and losses on net investment hedges are accounted for through the currency translation account. On an ongoing basis, the Company assesses whether each derivative continues to be highly effective in offsetting changes of hedged items. If and when a derivative is no longer expected to be highly effective, hedge accounting is discontinued. Hedge ineffectiveness, if any, is included in current period earnings in Other (income) expense, net for forward foreign exchange contracts, cross currency interest rate swaps, net investment hedges and equity collar contracts. For interest rate swaps designated as fair value hedges, hedge ineffectiveness, if any, is included in current period earnings within interest expense. For the current reporting period, hedge ineffectiveness associated with interest rate swaps was not material.

During the fiscal second quarter of 2016, the Company designated its Euro denominated notes issued in May 2016 with due dates ranging from 2022 to 2035 as a net investment hedge of the Company's investments in certain of its international subsidiaries that use the Euro as their functional currency in order to reduce the volatility caused by changes in exchange rates.
The change in the carrying value due to remeasurement of these Euro notes resulted in a $151 million and $529 million unrealized pretax loss for the fiscal third quarter and fiscal nine months ended October 1, 2017, respectively, reflected in foreign currency translation adjustment, within the Consolidated Statements of Comprehensive Income. The change in the carrying value due to remeasurement of these Euro notes resulted in a cumulative $155 million unrealized pretax loss from hedge inception through the fiscal nine months of 2017, reflected in foreign currency translation adjustment, within the Consolidated Statements of Comprehensive Income.

As of October 1, 2017, the balance of deferred net gains on derivatives included in accumulated other comprehensive income was $57 million after-tax. For additional information, see the Consolidated Statements of Comprehensive Income and Note 7. The Company expects that substantially all of the amounts related to forward foreign exchange contracts will be reclassified into earnings over the next 12 months as a result of transactions that are expected to occur over that period. The maximum length of time over which the Company is hedging transaction exposure is 18 months, excluding interest rate contracts, net investment hedges and equity collar contracts. The amount ultimately realized in earnings may differ as foreign exchange rates change. Realized gains and losses are ultimately determined by actual exchange rates at maturity of the derivative.

10



The following table is a summary of the activity related to derivatives designated as cash flow hedges for the fiscal third quarters in 2017 and 2016:
 
 
Gain/(Loss)
Recognized In
Accumulated
OCI(1)
 
Gain/(Loss) Reclassified From
Accumulated OCI
Into Income(1)
 
Gain/(Loss)
Recognized In
Other
Income/Expense(2)
(Dollars in Millions)
 
Fiscal Third Quarters Ended
Cash Flow Hedges By Income Statement Caption
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
Sales to customers(3)
 
$
18

 
(12
)
 
5

 
(8
)
 

 
(1
)
Cost of products sold(3)
 
(16
)
 
(4
)
 
(63
)
 
13

 
5

 
(4
)
Research and development expense(3)
 
(39
)
 
(5
)
 
(30
)
 
(2
)
 
(1
)
 
1

Interest (income)/Interest expense, net(4)
 
114

 
29

 
106

 
12

 

 

Other (income) expense, net(3) (5)
 
(15
)
 
(4
)
 
(49
)
 
(12
)
 

 

Total
 
$
62

 
4

 
(31
)
 
3

 
4

 
(4
)
 
 
 
 
 
 
 
 
 
 
 
 
 

The following table is a summary of the activity related to derivatives designated as cash flow hedges for the fiscal nine months in 2017 and 2016:

 
 
Gain/(Loss)
Recognized In
Accumulated
OCI(1)
 
Gain/(Loss) Reclassified From
Accumulated OCI
Into Income(1)
 
Gain/(Loss)
Recognized In
Other
Income/Expense(2)
(Dollars in Millions)
 
Fiscal Nine Months Ended
Cash Flow Hedges By Income Statement Caption
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
Sales to customers(3)
 
$
40

 
(39
)
 
(34
)
 
(29
)
 
(1
)
 
(1
)
Cost of products sold(3)
 
105

 
(226
)
 
(162
)
 
5

 
(11
)
 
(10
)
Research and development expense(3)
 
(167
)
 
(100
)
 
(131
)
 
(98
)
 
5

 

Interest (income)/Interest expense, net(4)
 
73

 
38

 
63

 
27

 

 

Other (income) expense, net(3) (5)
 
(59
)
 
(110
)
 
(86
)
 
(14
)
 

 
(3
)
Total
 
$
(8
)
 
(437
)
 
(350
)
 
(109
)
 
(7
)
 
(14
)
 
 
 
 
 
 
 
 
 
 
 
 
 
All amounts shown in the table above are net of tax.
(1) Effective portion
(2) Ineffective portion
(3) Forward foreign exchange contracts
(4) Cross currency interest rate swaps
(5) Includes equity collar contracts

For the fiscal third quarters ended October 1, 2017 and October 2, 2016, a loss of $12 million and gain $35 million, respectively, was recognized in Other (income) expense, net, relating to forward foreign exchange contracts not designated as hedging instruments.

For the fiscal nine months ended October 1, 2017 and October 2, 2016, a gain of $22 million and a loss of $6 million, respectively, was recognized in Other (income) expense, net, relating to forward foreign exchange contracts not designated as hedging instruments.

Fair value is the exit price that would be received to sell an asset or paid to transfer a liability. Fair value is a market-based measurement determined using assumptions that market participants would use in pricing an asset or liability. The authoritative literature establishes a three-level hierarchy to prioritize the inputs used in measuring fair value. The levels within the hierarchy are described below with Level 1 having the highest priority and Level 3 having the lowest.


11


The fair value of a derivative financial instrument (i.e. forward foreign exchange contracts, interest rate contracts) is the aggregation by currency of all future cash flows discounted to its present value at the prevailing market interest rates and subsequently converted to the U.S. Dollar at the current spot foreign exchange rate. The Company does not believe that fair values of these derivative instruments materially differ from the amounts that could be realized upon settlement or maturity, or that the changes in fair value will have a material effect on the Company’s results of operations, cash flows or financial position. The Company also holds equity investments which are classified as Level 1 and debt securities which are classified as Level 2. The Company did not have any other significant financial assets or liabilities which would require revised valuations under this standard that are recognized at fair value.

The following three levels of inputs are used to measure fair value:

Level 1 — Quoted prices in active markets for identical assets and liabilities.
Level 2 — Significant other observable inputs.
Level 3 — Significant unobservable inputs.

The Company’s significant financial assets and liabilities measured at fair value as of October 1, 2017 and January 1, 2017 were as follows:
 
 
October 1, 2017
 
 
 
January 1, 2017
(Dollars in Millions)
 
Level 1
 
Level 2
 
Level 3
 
Total
 
Total(1)
Derivatives designated as hedging instruments:
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
Forward foreign exchange contracts(7)
 
$

 
556

 

 
556

 
747

Interest rate contracts (2)(4)(7)
 

 
16

 

 
16

 
31

Total
 

 
572

 

 
572

 
778

Liabilities:
 
 
 
 
 
 
 
 
 
 
Forward foreign exchange contracts(8)
 

 
292

 

 
292

 
723

Interest rate contracts (3)(4)(8)
 

 
210

 

 
210

 
382

Equity collar contracts (8)
 

 
6

 

 
6

 
57

Total
 

 
508

 

 
508

 
1,162

Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
 
 
 
Assets:
 
 
 
 
 
 
 
 
 
 
Forward foreign exchange contracts(7)
 

 
38

 

 
38

 
34

Liabilities:
 
 
 
 
 
 
 
 
 
 
Forward foreign exchange contracts(8)
 

 
72

 

 
72

 
57

Available For Sale Other Investments:
 
 
 
 
 
 
 
 
 
 
Equity investments(5)
 
920

 

 

 
920

 
1,209

Debt securities(6)
 
$

 
3,044

 

 
3,044

 
12,087


(1)
2016 assets and liabilities are all classified as Level 2 with the exception of equity investments of $1,209 million, which are classified as Level 1.
(2)
Includes $10 million and $23 million of non-current other assets for October 1, 2017 and January 1, 2017, respectively.
(3)
Includes $210 million and $382 million of non-current other liabilities for October 1, 2017 and January 1, 2017, respectively.
(4)
Includes cross currency interest rate swaps and interest rate swaps.
(5)
Classified as non-current other assets with the exception of $46 million of current assets for October 1, 2017. The original cost of the equity investments were $506 million and $520 million as of October 1, 2017 and January 1, 2017, respectively. The unrealized gains were $414 million and $757 million as of October 1, 2017 and January 1, 2017, respectively. The unrealized losses were less than $1 million and $68 million as of October 1, 2017 and January 1, 2017, respectively.
(6)
Classified as cash equivalents and current marketable securities.
(7)
Classified as other current assets, including the net effect of the CSA
(8)
Classified as accounts payable, including the net effect of the CSA.



12


The Company's cash, cash equivalents and current marketable securities as of October 1, 2017 comprised:
 
October 1, 2017
(Dollars in Millions)
Carrying Amount
 
Unrecognized Gain
 
Unrecognized Loss
 
Estimated Fair Value
 
Cash & Cash Equivalents
 
Current Marketable Securities
Cash
$
2,813

 

 

 
2,813

 
2,813

 
 
U.S. Gov't Securities(1)

 

 

 

 


 


Other Sovereign Securities(1)
1,109

 

 

 
1,109

 
799

 
310

U.S. Reverse repurchase agreements
4,602

 

 

 
4,602

 
4,602

 

Other Reverse repurchase agreements
491

 

 

 
491

 
491

 
 
Corporate debt securities(1)
1,957

 

 

 
1,957

 
1,952

 
5

Money market funds
1,078

 

 

 
1,078

 
1,078

 
 
Time deposits(1)
1,091

 

 

 
1,091

 
1,091

 
 
     Subtotal
13,141

 

 

 
13,141

 
12,826

 
315

 
 
 
Unrealized Gain
 
Unrealized Loss
 
 
 
 
 
 
Gov't securities
2,906

 

 

 
2,906

 
2,876

 
30

Other Sovereign Securities
9

 

 

 
9

 

 
9

Corporate debt securities
129

 

 

 
129

 
19

 
110

Equity investments
6

 
40

 


 
46

 

 
46

     Subtotal Available for Sale(2)
$
3,050

 
40

 

 
3,090

 
2,895

 
195

Total cash, cash equivalents and current marketable securities


 


 


 


 
15,721

 
510


(1) Held to maturity investments are reported at amortized cost and gains or losses are reported in earnings.
(2) Available for sale securities are reported at fair value with unrealized gains and losses reported net of taxes in other comprehensive income.

Fair value of government securities and obligations and corporate debt securities was estimated using quoted broker prices and significant other observable inputs.

The Company classifies all highly liquid investments with stated maturities of three months or less from date of purchase as cash equivalents and all highly liquid investments with stated maturities of greater than three months from the date of purchase as current marketable securities. Available for sale securities with stated maturities of greater than one year from the date of purchase are available for current operations and are classified as cash equivalents and current marketable securities.

The excess of the estimated fair value over the carrying value of cash equivalents and current marketable securities was $0.2 billion at January 1, 2017.

The contractual maturities of the available for sale securities at October 1, 2017 are as follows:
(Dollars in Millions)
 
Cost Basis
 
Fair Value
Due within one year
 
$
2,974

 
2,974

Due after one year through five years
 
70

 
70

Due after five years through ten years
 

 

Total debt securities
 
$
3,044

 
3,044








13



Financial Instruments not measured at Fair Value:
The following financial liabilities are held at carrying amount on the consolidated balance sheet as of October 1, 2017:
(Dollars in Millions)
 
Carrying Amount
 
Estimated Fair Value
 
 
 
 
 
Financial Liabilities
 
 
 
 
 
 
 
 
 
Current Debt
 
$
8,491

 
8,491

 
 
 
 
 
Non-Current Debt
 
 
 
 
1.65% Notes due 2018
 
601

 
602

4.75% Notes due 2019 (1B Euro 1.1777)
 
1,175

 
1,299

1.875% Notes due 2019
 
501

 
506

0.89% Notes due 2019
 
300

 
301

1.125% Notes due 2019
 
699

 
696

3% Zero Coupon Convertible Subordinated Debentures due in 2020
 
68

 
121

2.95% Debentures due 2020
 
547

 
567

3.55% Notes due 2021
 
448

 
480

2.45% Notes due 2021
 
349

 
358

1.65% Notes due 2021
 
998

 
991

0.250% Notes due 2022 (1B Euro 1.1777)
 
1,174

 
1,183

2.25% Notes due 2022
 
995

 
1,005

6.73% Debentures due 2023
 
250

 
310

3.375% Notes due 2023
 
806

 
853

2.05% Notes due 2023
 
497

 
494

0.650% Notes due 2024 (750MM Euro 1.1777)
 
879

 
887

5.50% Notes due 2024 (500 MM GBP 1.3415)
 
665

 
842

2.45% Notes due 2026
 
1,990

 
1,958

2.95% Notes due 2027
 
995

 
1,010

1.150% Notes due 2028 (750MM Euro 1.1777)
 
874

 
888

6.95% Notes due 2029
 
296

 
409

4.95% Debentures due 2033
 
498

 
601

4.375% Notes due 2033
 
856

 
976

1.650% Notes due 2035 (1.5B Euro 1.1777)
 
1,748

 
1,798

3.55% Notes due 2036
 
987

 
1,024

5.95% Notes due 2037
 
991

 
1,348

3.625% Notes due 2037
 
1,485

 
1,558

5.85% Debentures due 2038
 
696

 
934

4.50% Debentures due 2040
 
537

 
634

4.85% Notes due 2041
 
296

 
357

4.50% Notes due 2043
 
495

 
570

3.70% Notes due 2046
 
1,971

 
2,058

3.75% Notes due 2047
 
990

 
1,038

Other
 
18

 
19

Total Non-Current Debt
 
$
26,675

 
28,675


The weighted average effective interest rate on non-current debt is 3.20%.


14


The excess of the estimated fair value over the carrying value of debt was $1.6 billion at January 1, 2017.

Fair value of the non-current debt was estimated using market prices, which were corroborated by quoted broker prices and significant other observable inputs.


NOTE 5 — INCOME TAXES

The worldwide effective income tax rates for the fiscal nine months of 2017 and 2016 were 20.5% and 17.8%, respectively. The Company completed its acquisition of AMO in the first fiscal quarter of 2017, and incurred incremental tax costs that were discretely recorded in the first quarter, which has increased the effective tax rate by 1.4% for the first nine months of 2017 compared to the same period in 2016.  Additionally, the Company had more income in higher tax jurisdictions relative to lower tax jurisdictions as compared to 2016. These increases to the effective tax rate were partially offset by additional tax benefits received from stock-based compensation that either vested or were exercised during the fiscal nine months of 2017 and 2016, which reduced the effective tax rate by 2.1% and 2.2%, respectively.

As of October 1, 2017, the Company had approximately $3.3 billion of liabilities from unrecognized tax benefits. The Company believes it is possible that audits may be completed by tax authorities in some jurisdictions over the next twelve months. The Company is not able to provide a reasonably reliable estimate of the timing of any future tax payments relating to uncertain tax positions.

NOTE 6 — PENSIONS AND OTHER POSTRETIREMENT BENEFITS

Components of Net Periodic Benefit Cost

Net periodic benefit cost for the Company’s defined benefit retirement plans and other benefit plans for the fiscal third quarters of 2017 and 2016 include the following components:
 
 
Fiscal Third Quarters Ended
 
 
Retirement Plans
 
Other Benefit Plans
(Dollars in Millions)
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
Service cost
 
$
266

 
224

 
62

 
56

Interest cost
 
232

 
232

 
40

 
39

Expected return on plan assets
 
(514
)
 
(490
)
 
(2
)
 
(1
)
Amortization of prior service cost/(credit)
 
1

 
2

 
(8
)
 
(9
)
Recognized actuarial losses
 
154

 
123

 
34

 
33

Curtailments and settlements
 
2

 
6

 

 

Net periodic benefit cost
 
$
141

 
97

 
126

 
118



15


Net periodic benefit cost for the Company’s defined benefit retirement plans and other benefit plans for the fiscal nine months of 2017 and 2016 include the following components:

 
 
Fiscal Nine Months Ended
 
 
Retirement Plans
 
Other Benefit Plans
(Dollars in Millions)
 
October 1, 2017
 
October 2, 2016
 
October 1, 2017
 
October 2, 2016
Service cost
 
$
772

 
676

 
185

 
166

Interest cost
 
693

 
698

 
119

 
118

Expected return on plan assets
 
(1,528
)
 
(1,475
)
 
(5
)
 
(4
)
Amortization of prior service cost/(credit)
 
2

 
2

 
(23
)
 
(25
)
Recognized actuarial losses
 
456

 
371

 
103

 
101

Curtailments and settlements
 
1

 
11

 

 

Net periodic benefit cost
 
$
396

 
283

 
379

 
356

 
 
 
 
 
 
 
 
 

Company Contributions
For the fiscal nine months ended October 1, 2017, the Company contributed $51 million and $30 million to its U.S. and international retirement plans, respectively. The Company plans to continue to fund its U.S. defined benefit plans to comply with the Pension Protection Act of 2006. International plans are funded in accordance with local regulations.


NOTE 7 — ACCUMULATED OTHER COMPREHENSIVE INCOME

Components of other comprehensive income (loss) consist of the following:
 
 
 
 
 
 
 
 
 
 
 
 
 
Foreign
 
Gain/(Loss)
 
Employee
 
Gain/(Loss)
 
Total Accumulated
 
 
Currency
 
On
 
Benefit
 
On Derivatives
 
Other Comprehensive
(Dollars in Millions)
 
Translation
 
Securities
 
Plans
 
& Hedges
 
Income (Loss)
January 1, 2017
 
$
(9,047
)
 
411

 
(5,980
)
 
(285
)
 
(14,901
)
Net change
 
1,597

 
(142
)
 
357

 
342

 
2,154

October 1, 2017
 
$
(7,450
)
 
269

 
(5,623
)
 
57

 
(12,747
)

Amounts in accumulated other comprehensive income are presented net of the related tax impact. Foreign currency translation is not adjusted for income taxes where it relates to permanent investments in international subsidiaries. For additional details on comprehensive income see the Consolidated Statements of Comprehensive Income.

Details on reclassifications out of Accumulated Other Comprehensive Income:
Gain/(Loss) On Securities - reclassifications released to Other (income) expense, net.
Employee Benefit Plans - reclassifications are included in net periodic benefit cost. See Note 6 for additional details.
Gain/(Loss) On Derivatives & Hedges - reclassifications to earnings are recorded in the same account as the underlying transaction. See Note 4 for additional details.


16


NOTE 8 — EARNINGS PER SHARE

The following is a reconciliation of basic net earnings per share to diluted net earnings per share for the fiscal third quarters ended October 1, 2017 and October 2, 2016:
 
 
Fiscal Third Quarters Ended
(Shares in Millions)
 
October 1, 2017
 
October 2, 2016
Basic net earnings per share
 
$
1.40

 
1.56

Average shares outstanding — basic
 
2,684.6

 
2,731.6

Potential shares exercisable under stock option plans
 
139.3

 
140.8

Less: shares which could be repurchased under treasury stock method
 
(87.2
)
 
(88.4
)
Convertible debt shares
 
1.0

 
1.4

Average shares outstanding — diluted
 
2,737.7

 
2,785.4

Diluted net earnings per share
 
$
1.37

 
1.53


The diluted net earnings per share calculation for both the fiscal third quarters ended October 1, 2017 and October 2, 2016 included the dilutive effect of convertible debt that was offset by the related reduction in interest expense.

The diluted net earnings per share calculation for both the fiscal third quarters ended October 1, 2017 and October 2, 2016 included all shares related to stock options, as there were no options or other instruments which were anti-dilutive.

The following is a reconciliation of basic net earnings per share to diluted net earnings per share for the fiscal nine months ended October 1, 2017 and October 2, 2016:

 
 
Fiscal Nine Months Ended
(Shares in Millions)
 
October 1, 2017
 
October 2, 2016
Basic net earnings per share
 
$
4.46

 
4.64

Average shares outstanding — basic
 
2,694.4

 
2,744.9

Potential shares exercisable under stock option plans
 
141.2

 
144.0

Less: shares which could be repurchased under treasury stock method
 
(90.2
)
 
(93.7
)
Convertible debt shares
 
1.0

 
1.4

Average shares outstanding — diluted
 
2,746.4

 
2,796.6

Diluted net earnings per share
 
$
4.37

 
4.55

 
 
 
 
 
The diluted net earnings per share calculation for both the fiscal nine months ended October 1, 2017 and October 2, 2016 included the dilutive effect of convertible debt that was offset by the related reduction in interest expense.

The diluted net earnings per share calculation for both the fiscal nine months ended October 1, 2017 and October 2, 2016 included all shares related to stock options, as there were no options or other instruments which were anti-dilutive.


17


NOTE 9 — SEGMENTS OF BUSINESS AND GEOGRAPHIC AREAS

SALES BY SEGMENT OF BUSINESS
 
 
Fiscal Third Quarters Ended
(Dollars in Millions)
 
October 1,
2017
 
October 2,
2016
 
Percent
Change
 
 
 
 
 
 
 
Consumer
 
 
 
 
 
 
United States
 
$
1,285

 
1,291

 
(0.5
)%
International
 
2,071

 
1,970

 
5.1

Total
 
3,356

 
3,261

 
2.9

Pharmaceutical
 
 
 
 
 
 
United States
 
5,816

 
5,042

 
15.4

International
 
3,879

 
3,358

 
15.5

Total
 
9,695

 
8,400

 
15.4

Medical Devices
 
 
 
 
 
 
United States
 
3,189

 
3,048

 
4.6

International
 
3,410

 
3,111

 
9.6

Total
 
6,599

 
6,159

 
7.1

Worldwide
 
 
 
 
 
 
United States
 
10,290

 
9,381

 
9.7

International
 
9,360

 
8,439

 
10.9

Total
 
$
19,650

 
17,820

 
10.3
 %
 
 
 
 
 
 
 
 
 
Fiscal Nine Months Ended
(Dollars in Millions)
 
October 1,
2017
 
October 2,
2016
 
Percent
Change
 
 
 
 
 
 
 
Consumer
 
 
 
 
 
 
United States
 
$
4,186

 
4,033

 
3.8
%
International
 
5,876

 
5,842

 
0.6

Total
 
10,062

 
9,875

 
1.9

Pharmaceutical
 
 
 
 
 
 
United States
 
15,698

 
15,123

 
3.8

International
 
10,877

 
10,109

 
7.6

Total
 
26,575

 
25,232

 
5.3

Medical Devices
 
 
 
 
 
 
United States
 
9,510

 
9,118

 
4.3

International
 
10,108

 
9,559

 
5.7

Total
 
19,618

 
18,677

 
5.0

Worldwide
 
 
 
 
 
 
United States
 
29,394

 
28,274

 
4.0

International
 
26,861

 
25,510

 
5.3

Total
 
$
56,255

 
53,784

 
4.6
%

18


INCOME BEFORE TAX BY SEGMENT
 
 
Fiscal Third Quarters Ended
(Dollars in Millions)
 
October 1,
2017
 
October 2,
2016
 
Percent
Change
Consumer(1)
 
$
878

 
679

 
29.3
 %
Pharmaceutical(2)
 
2,857

 
3,309

 
(13.7
)
Medical Devices(3)
 
1,383

 
1,526

 
(9.4
)
Segments operating profit
 
5,118

 
5,514

 
(7.2
)
Less: Expense not allocated to segments (4)
 
328

 
233

 
 
Worldwide income before tax
 
$
4,790

 
5,281

 
(9.3
)%
 
 
 
 
 
 
 
 
 
Fiscal Nine Months Ended
(Dollars in Millions)
 
October 1, 2017
 
October 2, 2016
 
Percent
Change
Consumer(1)
 
$
2,132

 
1,816

 
17.4
 %
Pharmaceutical(2)
 
9,934

 
10,340

 
(3.9
)
Medical Devices(3)
 
3,938

 
4,041

 
(2.5
)
Segments operating profit
 
16,004

 
16,197

 
(1.2
)
Less: Expense not allocated to segments (4)
 
891

 
718

 
 
Worldwide income before taxes
 
$
15,113

 
15,479

 
(2.4
)%
(1) Includes a gain of $0.4 billion from the divestiture of COMPEED® 
(2) Includes a positive adjustment of $0.5 billion to previous reserve estimates in the fiscal nine months of 2016. Includes acquisition costs related to the Actelion acquisition of $0.4 billion and $0.6 billion in the fiscal third quarter and fiscal nine months of 2017, respectively. Includes a gain of $0.2 billion related to monetization of future royalty receivables in the fiscal nine months of 2017. Includes a gain of $0.3 billion and $0.2 billion in the fiscal nine months of 2017 and 2016, respectively, related to the sale of certain investments in equity securities held by Johnson & Johnson Innovation - JJDC, Inc.
(3) Includes a restructuring related charge of $0.2 billion and $0.1 billion in the fiscal third quarters of 2017 and 2016, respectively. Includes a restructuring related charge of $0.5 billion and $0.4 billion in the fiscal nine months of 2017 and 2016, respectively. Includes litigation expense of $0.1 billion and $0.1 billion in the fiscal third quarter of 2017 and 2016, respectively. Includes litigation expense of $0.5 billion and $0.7 billion in the fiscal nine months of 2017 and 2016, respectively. Includes an asset impairment of $0.2 billion primarily related to the insulin pump business in the fiscal nine months of 2017.
(4) Amounts not allocated to segments include interest income/expense and general corporate income/expense.




















19



SALES BY GEOGRAPHIC AREA
 
 
Fiscal Third Quarters Ended
(Dollars in Millions)
 
October 1, 2017
 
October 2, 2016
 
Percent
Change
United States
 
$
10,290

 
9,381

 
9.7
%
Europe
 
4,308

 
3,832

 
12.4

Western Hemisphere, excluding U.S.
 
1,569

 
1,396

 
12.4

Asia-Pacific, Africa
 
3,483

 
3,211

 
8.5

Total
 
$
19,650

 
17,820

 
10.3
%
 
 
 
 
 
 
 
 
 
Fiscal Nine Months Ended
(Dollars in Millions)
 
October 1, 2017
 
October 2, 2016
 
Percent
Change
United States
 
$
29,394

 
28,274

 
4.0
%
Europe
 
12,398

 
11,769

 
5.3

Western Hemisphere, excluding U.S.
 
4,522

 
4,269

 
5.9

Asia-Pacific, Africa
 
9,941