Fair Value Measurements and Fair Value of Financial Instruments

12 Months Ended

Dec. 31, 2021

Fair Value Measurements and Fair Value of Financial Instruments [Text Block]

Note 14. Fair Value Measurements and Fair Value of Financial Instruments

Fair Value Measurements

The company uses the market approach technique to value its financial instruments and there were no changes in valuation techniques during 2021. The company’s financial assets and liabilities carried at fair value are primarily comprised of investments in publicly traded securities, insurance contracts, investments in derivative contracts, mutual funds holding publicly traded securities and other investments in unit trusts held as assets to satisfy outstanding deferred compensation and retirement liabilities; and acquisition-related contingent consideration.

Assets and liabilities carried at fair value are classified and disclosed in one of the following three categories:

Level 1: Quoted market prices in active markets for identical assets or liabilities that the company has the ability to access.

Level 2: Observable market based inputs or unobservable inputs that are corroborated by market data such as quoted prices, interest rates and yield curves.

Level 3: Inputs are unobservable data points that are not corroborated by market data.

The following tables present information about the company’s financial assets and liabilities measured at fair value on a recurring basis as of December 31, 2021 and December 31, 2020:


	December 31,		Quoted prices in active markets		Significant other observable inputs		Significant unobservable inputs
(In millions)	2021		(Level 1)		(Level 2)		(Level 3)
Assets
Cash equivalents	$	2,210	$	2,210	$	—	$	—
Investments	298		298		—		—
Warrants	15		—		15		—
Insurance contracts	181		—		181		—
Derivative contracts	36		—		36		—
Total assets	$	2,740	$	2,508	$	232	$	—

Liabilities
Derivative contracts	$	1	$	—	$	1	$	—
Contingent consideration	317		—		—		317
Total liabilities	$	318	$	—	$	1	$	317


	December 31,		Quoted prices in active markets		Significant other observable inputs		Significant unobservable inputs
(In millions)	2020		(Level 1)		(Level 2)		(Level 3)
Assets
Cash equivalents	$	8,971	$	8,971	$	—	$	—
Investments	21		21		—		—
Warrants	7		—		7		—
Insurance contracts	157		—		157		—
Derivative contracts	28		—		28		—
Total assets	$	9,184	$	8,992	$	192	$	—

Liabilities
Derivative contracts	$	132	$	—	$	132	$	—
Contingent consideration	70		—		—		70
Total liabilities	$	202	$	—	$	132	$	70

The company uses the Black-Scholes model to value its warrants. The company determines the fair value of its insurance contracts by obtaining the cash surrender value of the contracts from the issuer. The fair value of derivative contracts is the estimated amount that the company would receive/pay upon liquidation of the contracts, taking into account the change in interest rates and currency exchange rates. The company initially measures the fair value of acquisition-related contingent consideration based on amounts expected to be transferred (probability-weighted) discounted to present value. Changes to the fair value of contingent consideration are recorded in selling, general and administrative expense.

The following table provides a rollforward of the fair value, as determined by level 3 inputs (such as likelihood of achieving production or revenue milestones, as well as changes in the fair values of the investments underlying a

recapitalization investment portfolio), of the contingent consideration.


(In millions)	2021		2020
Contingent consideration
Beginning balance	$	70	$	55
Acquisitions (including assumed balances)	403		28
Payments	(109)		(4)
Changes in fair value included in earnings	(47)		(9)
Ending balance	$	317	$	70

Derivative Contracts

The following table provides the aggregate notional value of outstanding derivative contracts.


	December 31,		December 31,
(In millions)	2021		2020
Notional amount
Interest rate swaps - fair value hedges	$	—	$	1,000

Cross-currency interest rate swaps - designated as net investment hedges	900		900

Currency exchange contracts	2,149		5,206

While certain derivatives are subject to netting arrangements with counterparties, the company does not offset derivative assets and liabilities within the balance sheet. The following tables present the fair value of derivative instruments in the accompanying balance sheet and statement of income.


	Fair value – assets				Fair value – liabilities
	December 31,		December 31,		December 31,		December 31,
(In millions)	2021		2020		2021		2020
Derivatives designated as hedging instruments
Interest rate swaps (a)	$	—	$	25	$	—	$	—
Cross-currency interest rate swaps (a)	25		—		—		46
Derivatives not designated as hedging instruments
Currency exchange contracts (b)	11		3		1		86

Total derivatives	$	36	$	28	$	1	$	132

(a)The fair values of the interest rate swaps and cross-currency interest rate swaps are included in the accompanying balance sheet under the caption other assets or other long-term liabilities.

(b)The fair value of the currency exchange contracts is included in the accompanying balance sheet under the captions other current assets or other accrued expenses.

The following amounts related to cumulative basis adjustments for fair value hedges were included in the accompanying balance sheet under the caption long-term obligations:


	Carrying amount of the hedged liability				Cumulative amount of fair value hedging adjustment - increase (decrease) included in carrying amount of liability
	December 31,		December 31,		December 31,		December 31,
(In millions)	2021		2020		2021		2020
Long-term obligations	$	—	$	1,020	$	—	$	25


	Gain (loss) recognized
(In millions)	2021		2020
Fair value hedging relationships
Interest rate swaps
Hedged long-term obligations - included in other income/(expense)	$	25	$	(38)
Derivatives designated as hedging instruments - included in other income/(expense)	(3)		38
Derivatives designated as cash flow hedges
Interest rate swaps
Included in unrealized losses on hedging instruments within other comprehensive items	—		(85)
Amount reclassified from accumulated other comprehensive items to other income/(expense)	(73)		(59)
Financial instruments designated as net investment hedges
Foreign currency-denominated debt
Included in currency translation adjustment within other comprehensive items	922		(873)
Cross-currency interest rate swaps
Included in currency translation adjustment within other comprehensive items	71		(79)
Included in other income/(expense)	8		11
Derivatives not designated as hedging instruments
Currency exchange contracts
Included in cost of product revenues	12		(17)
Included in other income/(expense)	162		(81)
Cross-currency interest rate swaps
Included in other income/(expense)	—		(9)

Gains and losses recognized on currency exchange contracts and the interest rate swaps designated as fair value hedges are included in the accompanying statement of income together with the corresponding, offsetting losses and gains on the underlying hedged transactions.

The company uses foreign currency-denominated debt and cross-currency interest rate swaps to partially hedge its net investments in foreign operations against adverse movements in exchange rates. A portion of the company’s euro-denominated senior notes and its cross-currency interest rate swaps have been designated as, and are effective as, economic hedges of part of the net investment in a foreign operation. Accordingly, foreign currency transaction gains or losses due to spot rate fluctuations on the euro-denominated debt instruments and contract fair value changes on the cross-currency interest rate swaps, excluding interest accruals, are included in currency translation adjustment within other comprehensive items and shareholders’ equity.

See Note 1 and Note 10 for additional information on the company's risk management objectives and strategies.

Cash Flow Hedge Arrangements

In 2020 and 2019, the company entered into interest rate swap arrangements to mitigate the risk of interest rates rising prior to completion of debt offerings. Based on the company's conclusion that the debt offerings were probable, the swaps hedged the cash flow risk for each of the interest payments on the planned fixed-rate debt issues. The aggregate fair value of the terminated hedges, net of tax, has been classified as a reduction to accumulated other comprehensive items and will be amortized to interest expense over the term of the related debt issuances. The company had cash outlays aggregating $85 million and $50 million in 2020 and 2019, respectively, associated with termination of the arrangements, included in other financing activities, net, in the accompanying statement of cash flows.

In late 2020, the company determined that the previously anticipated debt offerings were probable of not occurring and reclassified $42 million from accumulated other comprehensive items to other income/(expense). During 2021, in connection with the extinguishment of debt (Note 10), the company reclassified $65 million from accumulated other comprehensive items to other income/(expense).

Fair Value of Other Financial Instruments

The carrying value and fair value of the company’s debt instruments are as follows:


	December 31, 2021				December 31, 2020
	Carrying		Fair		Carrying		Fair
(In millions)	value		value		value		value
Senior notes	$	32,072	$	33,449	$	21,723	$	24,653

Commercial paper	2,522		2,522		—		—
Other	76		76		5		5
	$	34,670	$	36,047	$	21,728	$	24,658

The fair value of debt instruments was determined based on quoted market prices and on borrowing rates available to the company at the respective period ends which represent level 2 measurements.