Fair value measurement

6 Months Ended

Jun. 30, 2011

Fair value measurement [Abstract]

Fair value measurement

10. Fair value measurement

We use various valuation approaches in determining the fair value of our financial assets and liabilities within a hierarchy that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the inputs that market participants would use in pricing the asset or liability and are developed based on the best information available in the circumstances. The fair value hierarchy is broken down into three levels based on the source of inputs as follows:

Level 1	—	Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access
Level 2	—	Valuations for which all significant inputs are observable, either directly or indirectly, other than level 1 inputs
Level 3	—	Valuations based on inputs that are unobservable and significant to the overall fair value measurement

The availability of observable inputs can vary among the various types of financial assets and liabilities. To the extent that the valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for financial statement disclosure purposes, the level in the fair value hierarchy within which the fair value measurement is categorized is based on the lowest level of input used that is significant to the overall fair value measurement.

The fair value of each major class of the Company’s financial assets and liabilities measured at fair value on a recurring basis was as follows (in millions):

	Quoted prices in		Significant		Significant
	active markets for		other observable		unobservable
Fair value measurement	identical assets		inputs		inputs
as of June 30, 2011 using:	(Level 1)		(Level 2)		(Level 3)		Total
Assets:
Available-for-sale securities:
U.S. Treasury securities	$	2,907	$	—	$	—	$	2,907
Other government related debt securities:
Obligations of U.S. government agencies and FDIC guaranteed bank debt		—		1,559		—		1,559
Foreign and other		—		812		—		812
Corporate debt securities:
Financial		—		2,944		—		2,944
Industrial		—		3,036		—		3,036
Other		—		354		—		354
Mortgage and asset backed securities		—		1,544		—		1,544
Money market mutual funds		5,677		—		—		5,677
Other short-term interest bearing securities		—		157		—		157
Equity securities		47		—		—		47
Derivatives:
Foreign currency contracts		—		50		—		50
Interest rate swap contracts		—		232		—		232
Total assets	$	8,631	$	10,688	$	—	$	19,319
Liabilities:
Derivatives:
Foreign currency contracts	$	—	$	170	$	—	$	170
Contingent consideration obligations in connection with a business combination		—		—		192		192
Total liabilities	$	—	$	170	$	192	$	362
	Quoted prices in		Significant		Significant
	active markets for		other observable		unobservable
Fair value measurement	identical assets		inputs		inputs
as of December 31, 2010 using:	(Level 1)		(Level 2)		(Level 3)		Total
Assets:
Available-for-sale securities:
U.S. Treasury securities	$	5,080	$	—	$	—	$	5,080
Other government related debt securities:
Obligations of U.S. government agencies and FDIC guaranteed bank debt		—		2,208		—		2,208
Foreign and other		—		852		—		852
Corporate debt securities:
Financial		—		2,296		—		2,296
Industrial		—		2,507		—		2,507
Other		—		316		—		316
Mortgage and asset backed securities		—		841		—		841
Money market mutual funds		3,030		—		—		3,030
Other short-term interest bearing securities		—		147		—		147
Equity securities		48		—		—		48
Derivatives:
Foreign currency contracts		—		154		—		154
Interest rate swap contracts		—		195		—		195
Total assets	$	8,158	$	9,516	$	—	$	17,674
Liabilities:
Derivatives:
Foreign currency contracts	$	—	$	103	$	—	$	103
Total liabilities	$	—	$	103	$	—	$	103

The fair value of our U.S. Treasury securities, money market mutual funds and equity securities are based on quoted market prices in active markets with no valuation adjustment.

Substantially all of our other government related and corporate debt securities are investment grade with maturity dates of five years or less. Our other government related debt securities portfolio is comprised of securities with a weighted average credit rating of “AAA” or equivalent by Standard and Poor’s (S&P), Moody’s Investors Services, Inc. (Moody’s) or Fitch, Inc. (Fitch), and our corporate debt securities portfolio has a weighted average credit rating of “A” or equivalent by S&P, Moody’s or Fitch. We estimate the fair value of these securities taking into consideration valuations obtained from third-party pricing services. The pricing services utilize industry standard valuation models, including both income and market based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades and broker/dealer quotes of the same or similar securities, issuer credit spreads, benchmark securities and other observable inputs.

Our mortgage and asset backed securities portfolio is comprised entirely of senior tranches, with a credit rating of “AAA” or equivalent by S&P, Moody’s or Fitch. We estimate the fair value of these securities taking into consideration valuations obtained from third-party pricing services. The pricing services utilize industry standard valuation models, including both income and market based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades and broker/dealer quotes of the same or similar securities, issuer credit spreads, benchmark securities, prepayment/default projections based on historical data and other observable inputs.

We value our other short-term interest bearing securities at amortized cost which approximates fair value given their near term maturity dates.

Substantially all of our foreign currency forward and option derivatives contracts have maturities of three years or less and all are entered into with counterparties that have a minimum credit rating of “A-” or equivalent by S&P, Moody’s or Fitch. We estimate the fair value of these contracts taking into consideration valuations obtained from a third-party valuation service that utilizes an income-based industry standard valuation model for which all significant inputs are observable, either directly or indirectly. These inputs include quoted foreign currency spot rates, forward points, London Interbank Offered Rate (LIBOR) and swap curves and obligor credit default swap rates. In addition, inputs for our foreign currency option contracts also include implied volatility measures. These inputs, where applicable, are at commonly quoted intervals. As of June 30, 2011 and December 31, 2010, we had open foreign currency forward contracts with notional amounts of $3.7 billion and $3.2 billion, respectively, and open foreign currency option contracts with notional amounts of $232 million and $398 million, respectively, that were primarily euro based and were designated as cash flow hedges. In addition, as of June 30, 2011 and December 31, 2010, we had $972 million and $670 million, respectively, of open foreign currency forward contracts to reduce exposure to fluctuations in value of certain assets and liabilities denominated in foreign currencies that were primarily euro based and that were not designated as hedges. (See Note 11, Derivative instruments.)

Our interest rate swap contracts are entered into with counterparties that have a minimum credit rating of “A-” or equivalent by S&P, Moody’s or Fitch. We estimate the fair value of these contracts using an income-based industry standard valuation model for which all significant inputs are observable either directly or indirectly. These inputs include LIBOR and swap curves and obligor credit default swap rates. We had interest rate swap agreements with an aggregate notional amount of $3.6 billion as of June 30, 2011 and December 31, 2010 that were designated as fair value hedges. (See Note 11, Derivative instruments.)

Contingent consideration obligations in connection with a business combination were incurred as a result of our acquisition of BioVex in March 2011. The fair value measurements of these obligations are based on significant unobservable inputs, and accordingly, such amounts are considered Level 3 measurements. The fair values of these obligations from the acquisition date through June 30, 2011 increased by $2 million, and the resulting expense was recorded in Other operating expenses in the Condensed Consolidated Statements of Income. For a description of the valuation methodology and related assumptions used to estimate the fair values of these obligations, see Note 2, Acquisitions.

There have been no transfers of assets or liabilities between the fair value measurement levels and there were no material remeasurements to fair value during the six months ended June 30, 2011 and 2010 of assets and liabilities that are not measured at fair value on a recurring basis.

Summary of the fair value of other financial instruments

Short-term assets and liabilities

The estimated fair values of cash equivalents, accounts receivable and accounts payable approximate their carrying values due to the short-term nature of these financial instruments.

Borrowings

We estimate the fair value of our convertible notes using an income-based industry standard valuation model for which all significant inputs are observable either directly or indirectly, including benchmark yields adjusted for our credit risk (Level 2). The fair value of our convertible notes exclude their equity components and represent only the liability components of these instruments as their equity components are included in Common stock and additional paid-in capital in the Condensed Consolidated Balance Sheets. We estimate the fair value of our other long-term notes taking into consideration indicative prices obtained from a third party financial institution that utilizes industry standard valuation models, including both income and market based approaches, for which all significant inputs are observable, either directly or indirectly. These inputs include reported trades and broker/dealer quotes of the same or similar securities, credit spreads, benchmark yields and other observable inputs (Level 2). As of June 30, 2011 and December 31, 2010, the aggregate fair value of our debt was $15.2 billion and $14.5 billion, respectively, and the carrying value was $13.9 billion and $13.4 billion, respectively.