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Fair value measurements

6 Months Ended

Jun. 30, 2020

Notes to Consolidated Financial Statements (Continued)

Note 17. Fair value measurements

Our financial assets and liabilities are summarized below as of June 30, 2020 and December 31, 2019, with fair values shown according to the fair value hierarchy (in millions). The carrying values of cash and cash equivalents, U.S. Treasury Bills, other receivables and accounts payable, accruals and other liabilities are considered to be reasonable estimates of their fair values.

	Carrying Value		Fair Value		Quoted Prices (Level 1)		Significant Other Observable Inputs (Level 2)		Significant Unobservable Inputs (Level 3)
June 30, 2020
Investments in fixed maturity securities:
U.S. Treasury, U.S. government corporations and agencies	$	3,517	$	3,517	$	3,470	$	47	$	—
Foreign governments		9,206		9,206		5,982		3,224		—
Corporate bonds		5,918		5,918		—		5,916		2
Other		569		569		—		569		—
Investments in equity securities		207,454		207,454		199,168		45		8,241
Investment in Kraft Heinz common stock		13,054		10,378		10,378		—		—
Loans and finance receivables		18,175		19,237		—		2,505		16,732
Derivative contract assets ⁽¹⁾		213		213		1		28		184
Derivative contract liabilities:
Railroad, utilities and energy ⁽¹⁾		171		171		7		102		62
Equity index put options		1,565		1,565		—		—		1,565
Notes payable and other borrowings:
Insurance and other		38,243		42,641		—		42,628		13
Railroad, utilities and energy		68,446		83,946		—		83,946		—
December 31, 2019
Investments in fixed maturity securities:
U.S. Treasury, U.S. government corporations and agencies	$	3,090	$	3,090	$	3,046	$	44	$	—
Foreign governments		8,638		8,638		5,437		3,201		—
Corporate bonds		6,352		6,352		—		6,350		2
Other		605		605		—		605		—
Investments in equity securities		248,027		248,027		237,271		46		10,710
Investment in Kraft Heinz common stock		13,757		10,456		10,456		—		—
Loans and finance receivables		17,527		17,861		—		1,809		16,052
Derivative contract assets ⁽¹⁾		145		145		—		23		122
Derivative contract liabilities:
Railroad, utilities and energy ⁽¹⁾		76		76		6		59		11
Equity index put options		968		968		—		—		968
Notes payable and other borrowings:
Insurance and other		37,590		40,589		—		40,569		20
Railroad, utilities and energy		65,778		76,237		—		76,237		—

⁽¹⁾	^{Assets are included in other assets and liabilities are included in accounts payable, accruals and other liabilities.}

Notes to Consolidated Financial Statements (Continued)

Note 17. Fair value measurements (Continued)

The fair values of substantially all of our financial instruments were measured using market or income approaches. The hierarchy for measuring fair value consists of Levels 1 through 3, which are described below.

Level 1 – Inputs represent unadjusted quoted prices for identical assets or liabilities exchanged in active markets.

Level 2 – Inputs include directly or indirectly observable inputs (other than Level 1 inputs) such as quoted prices for similar assets or liabilities exchanged in active or inactive markets; quoted prices for identical assets or liabilities exchanged in inactive markets; other inputs that may be considered in fair value determinations of the assets or liabilities, such as interest rates and yield curves, volatilities, prepayment speeds, loss severities, credit risks and default rates; and inputs that are derived principally from or corroborated by observable market data by correlation or other means. Pricing evaluations generally reflect discounted expected future cash flows, which incorporate yield curves for instruments with similar characteristics, such as credit ratings, estimated durations and yields for other instruments of the issuer or entities in the same industry sector.

Level 3 – Inputs include unobservable inputs used in the measurement of assets and liabilities. Management is required to use its own assumptions regarding unobservable inputs because there is little, if any, market activity in the assets or liabilities and it may be unable to corroborate the related observable inputs. Unobservable inputs require management to make certain projections and assumptions about the information that would be used by market participants in valuing assets or liabilities.

Reconciliations of assets and liabilities measured and carried at fair value on a recurring basis with the use of significant unobservable inputs (Level 3) for the six months ended June 30, 2020 and 2019 follow (in millions).

				Gains (losses) included in:
	Balance – beginning of year			Earnings			Other comprehensive income			Regulatory assets and liabilities			Acquisitions, dispositions and settlements			Balance – June 30
Investments in fixed maturity and equity securities:
2020	$	10,407		$	(2,469	)	$	—		$	—		$	—		$	7,938
2019		7			—			—			—			(2	)		5

Net derivative contract liabilities:
2020		(857	)		(265	)		—			(56	)		(265	)		(1,443	)
2019		(2,343	)		1,134			(1	)		(23	)		(128	)		(1,361	)

Quantitative information as of June 30, 2020 with respect to significant assets and liabilities measured and carried at fair value on a recurring basis with the use of significant unobservable inputs (Level 3) follows (dollars in millions).

Fair

Value

Principal Valuation

Techniques

Unobservable

Inputs

Weighted

Average

Investments in equity securities:

Preferred stock

7,878

Discounted cash flow

Expected duration

9 years

Discount for transferability

restrictions and subordination

375 basis points

Common stock warrants

Warrant pricing model

Expected duration

9 years

Volatility

28%

Derivative contract liabilities

1,565

Option pricing model

Volatility

21%

As described in Note 4, our investments in Occidental Cumulative Perpetual Preferred Stock (“Occidental Preferred”) and Occidental common stock warrants were acquired at an aggregate cost of $10 billion. Investments in equity securities in the preceding table include our investments in Occidental Preferred and Occidental common stock warrants. These investments are subject to contractual restrictions on transferability and may contain provisions that prevent us from economically hedging our investments. In applying discounted cash flow techniques in valuing the Occidental Preferred, we made assumptions regarding the expected duration of the investment and the effects of subordination in liquidation. The Occidental Preferred is redeemable at Occidental’s option beginning in 2029. In valuing the Occidental common stock warrants, we used a warrant valuation model. While most of the inputs to the model are observable, we made assumptions regarding the expected duration and volatility of the warrants. The Occidental common stock warrants expire on the one-year anniversary on which no Occidental Preferred remains outstanding.

Notes to Consolidated Financial Statements (Continued)

Note 17. Fair value measurements (Continued)

Our equity index put option derivative contracts are illiquid and contain contract terms that are not standard in derivatives markets. For example, we are not required to post collateral under most of our contracts. We determine the fair value of the equity index put option contract liabilities based on the Black-Scholes option valuation model.

As described in Note 12, we recorded goodwill and indefinite-lived intangible asset impairment charges in the second quarter of 2020. These charges reflected our estimates of fair values of the related reporting units for goodwill and of the indefinite-lived intangible assets, and the related measurements are considered level three measurements.

In estimating fair values of reporting units and indefinite-lived intangible assets, we consider the available facts and circumstances concerning the reporting unit and the industries in which it operates. The key assumptions and inputs we generally use in such determinations include forecasting revenues and expenses, cash flows and capital expenditures, as well as the selection of a discount rate and other inputs. These inputs also include our qualitative assessment of risks and uncertainties. We utilized discounted cash flow/earnings methods to develop our estimates of the fair values and we also considered other publicly available information.

Estimates of the fair value of reporting units can be significantly affected by expectations of the severity, duration or long-term effects of the COVID-19 pandemic on the reporting unit’s business, which we cannot reliably predict at this time. Consequently, fair value estimates in such instances may be subject to wide variations. We concluded it was appropriate to reflect the increased risks and uncertainties precipitated by the pandemic through a combination of increases in discount rates and reductions to operating and long-term growth assumptions. We also incorporated forecasted operating results that were reduced from what was used in estimating fair value in connection with the 2019 annual impairment test conducted during the fourth quarter.

- Definition

The entire disclosure for the fair value of financial instruments (as defined), including financial assets and financial liabilities (collectively, as defined), and the measurements of those instruments as well as disclosures related to the fair value of non-financial assets and liabilities. Such disclosures about the financial instruments, assets, and liabilities would include: (1) the fair value of the required items together with their carrying amounts (as appropriate); (2) for items for which it is not practicable to estimate fair value, disclosure would include: (a) information pertinent to estimating fair value (including, carrying amount, effective interest rate, and maturity, and (b) the reasons why it is not practicable to estimate fair value; (3) significant concentrations of credit risk including: (a) information about the activity, region, or economic characteristics identifying a concentration, (b) the maximum amount of loss the entity is exposed to based on the gross fair value of the related item, (c) policy for requiring collateral or other security and information as to accessing such collateral or security, and (d) the nature and brief description of such collateral or security; (4) quantitative information about market risks and how such risks are managed; (5) for items measured on both a recurring and nonrecurring basis information regarding the inputs used to develop the fair value measurement; and (6) for items presented in the financial statement for which fair value measurement is elected: (a) information necessary to understand the reasons for the election, (b) discussion of the effect of fair value changes on earnings, (c) a description of [similar groups] items for which the election is made and the relation thereof to the balance sheet, the aggregate carrying value of items included in the balance sheet that are not eligible for the election; (7) all other required (as defined) and desired information.

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