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Derivative instruments | 9 Months Ended
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Sep. 30, 2018
Derivative Instruments and Hedging Activities Disclosure [Abstract] |
Derivative instruments | Derivative instruments The Company is exposed to foreign currency exchange rate and interest rate risks related to its business operations. To reduce our risks related to such exposures, we use or have used certain derivative instruments, including foreign currency forward, foreign currency option, cross-currency swap, forward interest rate and interest rate swap contracts. We do not use derivatives for speculative trading purposes. During the second quarter of 2018, we adopted early a new accounting standard that amends the accounting and reporting of hedging activities. Certain required disclosures have been made on a prospective basis in accordance with the guidance of the standard. See Note 1, Summary of significant accounting policies. Cash flow hedges We are exposed to possible changes in the values of certain anticipated foreign currency cash flows resulting from changes in foreign currency exchange rates associated primarily with our euro-denominated international product sales. Increases and decreases in the cash flows associated with our international product sales due to movements in foreign currency exchange rates are offset partially by corresponding increases and decreases in the cash flows from our international operating expenses resulting from these foreign currency exchange rate movements. To further reduce our exposure to foreign currency exchange rate fluctuations with regard to our international product sales, we enter into foreign currency forward and option contracts to hedge a portion of our projected international product sales primarily over a three-year time horizon, with, at any given point in time, a higher percentage of nearer-term projected product sales being hedged than in successive periods. As of September 30, 2018 and December 31, 2017, we had foreign currency forward contracts with notional amounts of $4.5 billion and $4.6 billion, respectively, and foreign currency option contracts with notional amounts of $21 million and $74 million, respectively. We have designated these foreign currency forward and foreign currency option contracts, which are primarily euro based, as cash flow hedges. Accordingly, we report the unrealized gains and losses on these contracts in AOCI in the Condensed Consolidated Balance Sheets, and we reclassify them to Product sales in the Condensed Consolidated Statements of Income in the same periods during which the hedged transactions affect earnings. To hedge our exposure to foreign currency exchange rate risk associated with certain of our long-term debt denominated in foreign currencies, we enter into cross-currency swap contracts. Under the terms of such contracts, we paid euros, pounds sterling and Swiss francs and received U.S. dollars for the notional amounts at the inception of the contracts; and based on these notional amounts, we exchange interest payments at fixed rates over the lives of the contracts by paying U.S. dollars and receiving euros, pounds sterling and Swiss francs. In addition, we will pay U.S. dollars to and receive euros, pounds sterling and Swiss francs from the counterparties at the maturities of the contracts for these same notional amounts. The terms of these contracts correspond to the related hedged debt, thereby effectively converting the interest payments and principal repayment on the debt from euros, pounds sterling and Swiss francs to U.S. dollars. We have designated these cross-currency swap contracts as cash flow hedges. Accordingly, the unrealized gains and losses on these contracts are reported in AOCI in the Condensed Consolidated Balance Sheets and reclassified to Interest and other income, net, in the Condensed Consolidated Statements of Income in the same periods during which the hedged debt affects earnings. The notional amounts and interest rates of our cross-currency swaps as of September 30, 2018, were as follows (notional amounts in millions):
|  | Foreign currency |  | U.S. dollars
Hedged notes |  | Notional amounts |  | Interest rates |  | Notional amounts |  | Interest rates
2.125% 2019 euro Notes |  | € | 675 |  |  | 2.125 | % |  | $ | 864 |  |  | 2.6 | %
1.25% 2022 euro Notes |  | € | 1,250 |  |  | 1.25 | % |  | $ | 1,388 |  |  | 3.2 | %
0.41% 2023 Swiss franc Bonds |  | CHF | 700 |  |  | 0.41 | % |  | $ | 704 |  |  | 3.4 | %
2.00% 2026 euro Notes |  | € | 750 |  |  | 2.00 | % |  | $ | 833 |  |  | 3.9 | %
5.50% 2026 pound sterling Notes |  | £ | 475 |  |  | 5.50 | % |  | $ | 747 |  |  | 6.0 | %
4.00% 2029 pound sterling Notes |  | £ | 700 |  |  | 4.00 | % |  | $ | 1,111 |  |  | 4.5 | %
In connection with the anticipated issuance of long-term fixed-rate debt, we occasionally enter into forward interest rate contracts in order to hedge the variability in cash flows due to changes in the applicable U.S. Treasury rate between the time we enter into these contracts and the time the related debt is issued. Gains and losses on forward interest rate contracts, which are designated as cash flow hedges, are recognized in AOCI i n the Condensed Consolidated Balance Sheets and are amortized into Interest expense, net, in the Condensed Consolidated Statements of Income over the lives of the associated debt issuances. Amounts recognized in connection with forward interest rate swaps during the nine months ended September 30, 2018, and amounts expected to be recognized during the subsequent 12 months are not material. The unrealized gains and losses recognized in AOCI for our derivative instruments designated as cash flow hedges were as follows (in millions):
|  | Three months ended September 30, |  | Nine months ended September 30,
Derivatives in cash flow hedging relationships |  | 2018 |  | 2017 |  | 2018 |  | 2017
Foreign currency contracts |  | $ | 41 |  |  | $ | (110 | ) |  | $ | 233 |  |  | $ | (360 | )
Cross-currency swap contracts |  | (22 | ) |  | 165 |  |  | (99 | ) |  | 446 |
Forward interest rate contracts |  | — |  |  | 10 |  |  | — |  |  | 13 |
Total unrealized gains |  | $ | 19 |  |  | $ | 65 |  |  | $ | 134 |  |  | $ | 99 |
The locations in the Condensed Consolidated Statements of Income and the gains and losses reclassified out of AOCI and into earnings for our derivative instruments designated as cash flow hedges were as follows (in millions):
|  |  |  | Three months ended September 30, |  | Nine months ended September 30,
Derivatives in cash flow hedging relationships |  | Condensed Consolidated Statements of Income locations |  | 2018 |  | 2017 |  | 2018 |  | 2017
Foreign currency contracts |  | Product sales |  | $ | 3 |  |  | $ | (2 | ) |  | $ | (51 | ) |  | $ | 88 |
Cross-currency swap contracts |  | Interest and other income, net |  | (36 | ) |  | 143 |  |  | (170 | ) |  | 514 |
Forward interest rate contracts |  | Interest expense, net |  | — |  |  | (1 | ) |  | — |  |  | (1 | )
Total realized (losses) gains |  |  |  | $ | (33 | ) |  | $ | 140 |  |  | $ | (221 | ) |  | $ | 601 |
No portions of our cash flow hedge contracts are excluded from the assessment of hedge effectiveness. As of September 30, 2018, the amount expected to be reclassified out of AOCI and into earnings during the next 12 months is $124 million of net losses on our foreign currency and cross-currency swap contracts. Fair value hedges To achieve a desired mix of fixed-rate and floating-rate debt, we entered into interest rate swap contracts that qualified for and were designated as fair value hedges. The terms of these interest rate swap contracts correspond to the related hedged debt and effectively converted fixed-rate coupons to floating-rate LIBOR-based coupons over the lives of the respective notes. As of September 30, 2018 and December 31, 2017, we had interest rate swap contracts with an aggregate notional amount of $9.45 billion that hedge certain of our long-term debt issuances. The contracts have rates that range from three-month LIBOR plus 0.3% to three-month LIBOR plus 2.0%. For interest rate swap contracts that qualify for and are designated as fair value hedges, we recognize in Interest expense, net, in the Condensed Consolidated Statements of Income the unrealized gain or loss on the derivative resulting from the change in fair value during the period, as well as the offsetting unrealized loss or gain of the hedged item resulting from the change in fair value during the period attributable to the hedged risk. If a hedging relationship involving an interest rate swap contract is terminated, the gain or loss realized on contract termination is recorded as an adjustment to the carrying value of the debt and amortized into Interest expense, net, over the remaining life of the previously hedged debt. Net unrealized gains and losses on our outstanding interest rate swap contracts were as follows (in millions):
|  | Three months ended September 30, |  | Nine months ended September 30,
Derivatives in fair value hedging relationships |  | 2018 |  | 2017 |  | 2018 |  | 2017
Net unrealized (losses) gains recognized for interest rate swap contracts |  | $ | (44 | ) |  | $ | (17 | ) |  | $ | (259 | ) |  | $ | 1 |
Net unrealized gains (losses) recognized for related hedged debt |  | $ | 44 |  |  | $ | 17 |  |  | $ | 259 |  |  | $ | (1 | )
The hedged liabilities and related cumulative-basis adjustments for fair value hedges of those liabilities were recorded in the Condensed Consolidated Balance Sheets as follows (in millions):
|  | Carrying amounts of hedged liabilities(1) |  | Cumulative amounts of fair value hedging adjustments related to the carrying amounts of the hedged liabilities(2)
Condensed Consolidated Balance Sheet locations |  | September 30, 2018 |  | December 31, 2017 |  | September 30, 2018 |  | December 31, 2017
Current portion of long-term debt |  | $ | 2,397 |  |  | $ | 500 |  |  | $ | (2 | ) |  | $ | 23 |
Long-term debt |  | $ | 7,859 |  |  | $ | 10,516 |  |  | $ | (264 | ) |  | $ | (11 | )
____________
(1) | Current portion of long-term debt includes $1.0 billion and $500 million of carrying value with discontinued hedging relationships as of September 30, 2018 and December 31, 2017, respectively. Long-term debt includes $137 million and $1.1 billion of carrying value with discontinued hedging relationships as of September 30, 2018 and December 31, 2017, respectively.
(2) | Current portion of long-term debt includes $7 million and $23 million of hedging adjustments on discontinued hedging relationships as of September 30, 2018 and December 31, 2017, respectively. Long-term debt includes $37 million and $40 million of hedging adjustments on discontinued hedging relationships as of September 30, 2018 and December 31, 2017, respectively.
The following table summarizes the amounts recorded in income and expense line items and the effects thereon from fair value and cash flow hedging, including discontinued hedging relationships (in millions):
|  | Three months ended September 30, 2018 |  | Nine months ended September 30, 2018
|  | Product sales |  | Interest and other income, net |  | Interest (expense), net |  | Product sales |  | Interest and other income, net |  | Interest (expense), net
Total amounts recorded in income and (expense) line items presented in the Condensed Consolidated Statements of Income |  | $ | 5,510 |  |  | $ | 126 |  |  | $ | (355 | ) |  | $ | 16,532 |  |  | $ | 519 |  |  | $ | (1,040 | )
The effects of cash flow and fair value hedging: |  |  |  |  |  |  |  |  |  |  |  |
Gains (losses) on cash flow hedging relationships reclassified out of AOCI: |  |  |  |  |  |  |  |  |  |  |  |
Foreign currency contracts |  | $ | 3 |  |  | $ | — |  |  | $ | — |  |  | $ | (51 | ) |  | $ | — |  |  | $ | — |
Cross-currency swap contracts |  | $ | — |  |  | $ | (36 | ) |  | $ | — |  |  | $ | — |  |  | $ | (170 | ) |  | $ | — |
Gains (losses) on fair value hedging relationships—interest rate swap agreements: |  |  |  |  |  |  |  |  |  |  |  |
Hedged items(1) |  | $ | — |  |  | $ | — |  |  | $ | 48 |  |  | $ | — |  |  | $ | — |  |  | $ | 278 |
Derivatives designated as hedging instruments |  | $ | — |  |  | $ | — |  |  | $ | (44 | ) |  | $ | — |  |  | $ | — |  |  | $ | (259 | )
__________
(1) | The amounts include benefits of $4 million and $19 million related to the amortization of the cumulative amount of fair value hedging adjustments included in the carrying amount of the hedged debt for discontinued hedging relationships for the three and nine months ended September 30, 2018, respectively.
Derivatives not designated as hedges To reduce our exposure to foreign currency fluctuations of certain assets and liabilities denominated in foreign currencies, we enter into foreign currency forward contracts that are not designated as hedging transactions. These exposures are hedged on a month-to-month basis. As of September 30, 2018 and December 31, 2017, the total notional amounts of these foreign currency forward contracts were $243 million and $757 million, respectively. The fair values of these derivatives as of September 30, 2018 and December 31, 2017, were not material. The location in the Condensed Consolidated Statements of Income and the amounts of gains (losses) recognized in earnings for our derivative instruments not designated as hedging instruments were as follows (in millions):
|  |  |  | Three months ended September 30, |  | Nine months ended September 30,
Derivatives not designated as hedging instruments |  | Condensed Consolidated Statements of Income location |  | 2018 |  | 2017 |  | 2018 |  | 2017
Foreign currency contracts |  | Interest and other income, net |  | $ | 11 |  |  | $ | (2 | ) |  | $ | 44 |  |  | $ | 12 |
The fair values of derivatives included in the Condensed Consolidated Balance Sheets were as follows (in millions):
|  | Derivative assets |  | Derivative liabilities
September 30, 2018 |  | Condensed Consolidated Balance Sheet locations |  | Fair values |  | Condensed Consolidated Balance Sheet locations |  | Fair values
Derivatives designated as hedging instruments: |  |  |  |  |  |  |  |
Foreign currency contracts |  | Other current assets/ Other assets |  | $ | 121 |  |  | Accrued liabilities/ Other noncurrent liabilities |  | $ | 49 |
Cross-currency swap contracts |  | Other current assets/ Other assets |  | 261 |  |  | Accrued liabilities/ Other noncurrent liabilities |  | 306 |
Interest rate swap contracts |  | Other current assets/ Other assets |  | — |  |  | Accrued liabilities/ Other noncurrent liabilities |  | 310 |
Total derivatives designated as hedging instruments |  |  |  | $ | 382 |  |  |  |  | $ | 665 |
|  | Derivative assets |  | Derivative liabilities
December 31, 2017 |  | Condensed Consolidated Balance Sheet locations |  | Fair values |  | Condensed Consolidated Balance Sheet locations |  | Fair values
Derivatives designated as hedging instruments: |  |  |  |  |  |  |  |
Foreign currency contracts |  | Other current assets/ Other assets |  | $ | 6 |  |  | Accrued liabilities/ Other noncurrent liabilities |  | $ | 204 |
Cross-currency swap contracts |  | Other current assets/ Other assets |  | 270 |  |  | Accrued liabilities/ Other noncurrent liabilities |  | 220 |
Interest rate swap contracts |  | Other current assets/ Other assets |  | 10 |  |  | Accrued liabilities/ Other noncurrent liabilities |  | 61 |
Total derivatives designated as hedging instruments |  |  |  | $ | 286 |  |  |  |  | $ | 485 |
Our derivative contracts that were in liability positions as of September 30, 2018, contain certain credit-risk-related contingent provisions that would be triggered if (i) we were to undergo a change in control and (ii) our, or the surviving entity’s, creditworthiness deteriorates, which is generally defined as having either a credit rating that is below investment grade or a materially weaker creditworthiness after the change in control. If these events were to occur, the counterparties would have the right, but not the obligation, to close the contracts under early-termination provisions. In such circumstances, the counterparties could request immediate settlement of these contracts for amounts that approximate the then current fair values of the contracts. In addition, our derivative contracts are not subject to any type of master netting arrangement, and amounts due either to or from a counterparty under the contracts may be offset against other amounts due either to or from the same counterparty only if an event of default or termination, as defined, were to occur. The cash flow effects of our derivative contracts are included within Net cash provided by operating activities in the Condensed Consolidated Statements of Cash Flows.

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- Definition The entire disclosure for derivative instruments and hedging activities including, but not limited to, risk management strategies, non-hedging derivative instruments, assets, liabilities, revenue and expenses, and methodologies and assumptions used in determining the amounts. + References Reference 1: http://fasb.org/us-gaap/role/ref/legacyRef -Publisher FASB -Name Accounting Standards Codification -Topic 815 -URI http://asc.fasb.org/topic&trid=2229140 + Details
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