Derivative instruments and hedging activities

9 Months Ended

Sep. 30, 2020

Derivative Instruments and Hedging Activities

NOTE 8 – Derivative instruments and hedging activities:

a. Foreign exchange risk management:

In the first nine months of 2020, approximately 48% of Teva’s revenues were denominated in currencies other than the U.S. dollar. As a result, Teva is subject to significant foreign currency risks.

The Company enters into forward exchange contracts, purchases and writes options in order to hedge the currency exposure on balance sheet items, revenues and expenses. In addition, the Company takes measures to reduce exposure by using natural hedging. The Company also acts to offset risks in opposite directions among the companies within Teva. The currency hedged items are usually denominated in the following main currencies: the Russian ruble, the euro, the Swiss franc, the Japanese yen, the British pound, the Canadian dollar, the Polish zloty, the Indian rupee and other European and Latin American currencies.

Depending on market conditions, foreign currency risk is also managed through the use of foreign currency debt.

In the past, the Company hedged against possible fluctuations in foreign subsidiaries’ net assets (“net investment hedge”) and from time to time enters into cross-currency swaps and forward contracts in order to hedge such an exposure.

Most of the counterparties to the derivatives are major banks and the Company is monitoring the associated inherent credit risks. The Company does not enter into derivative transactions for trading purposes.

b. Interest risk management:

The Company raises capital through various debt instruments, including straight notes that bear a fixed or variable interest rate, bank loans and convertible debentures. In some cases, the Company has swapped from a fixed to a floating interest rate (“fair value hedge”) and from a fixed to a fixed interest rate with an exchange from a currency other than the functional currency (“cash flow hedge”), thereby reducing overall interest expenses or hedging risks associated with interest rate fluctuations.

c. Derivative instruments notional amounts

The following table summarizes the notional amounts for hedged items, when transactions are designated as hedge accounting:


	September 30,		December 31,
	2020		2019
	(U.S. $ in millions)
Cross-currency swap — net investment hedge	$	—	$	1,000

d. Derivative instrument outstanding:

The following table summarizes the classification and fair values of derivative instruments:


	Fair value
	Designated as hedging instruments					Not designated as hedging instruments
	September 30, 2020		December 31, 2019			September 30, 2020			December 31, 2019
Reported under	(U.S. $ in millions)
Asset derivatives:
Other current assets:
Option and forward contracts	$	—	$	—		$	36		$	32
Liability derivatives:
Other current liabilities:
Cross-currency swaps—net investment hedge		—		(22	)		—			—
Option and forward contracts		—		—			(67	)		(41	)

The table below provides information regarding the location and amount of

pre-tax

(gains) losses from derivatives designated in fair value or cash flow hedging relationships:


	Financial expenses, net					Other comprehensive income (loss)
	Three months ended,					Three months ended,
	September 30, 2020		September 30, 2019			September 30, 2020		September 30, 2019
Reported under	(U.S. $ in millions)
Line items in which effects of hedges are recorded	$	117	$	211		$	79	$	(53	)
Cross-currency swaps—cash flow hedge (1)		—		(1	)		—		(33	)
Cross-currency swaps—net investment hedge (2)		—		(7	)		—		(39	)
Interest rate swaps—fair value hedge (3)		—		*			—		—

*	Represents an amount less than $0.5 million.


	Financial expenses, net						Other comprehensive income (loss)
	Nine months ended,						Nine months ended,
	September 30, 2020			September 30, 2019			September 30, 2020			September 30, 2019
Reported under	(U.S. $ in millions)
Line items in which effects of hedges are recorded	$	565		$	635		$	(302	)	$	117
Cross-currency swaps — cash flow hedge (1)		—			(2	)		—			(49	)
Cross-currency swaps — net investment hedge (2)		(2	)		(22	)		(21	)		(46	)
Interest rate swaps—fair value hedge (3)		—			2			—			—

The table below provides information regarding the location and amount of

pre-tax

(gains) losses from derivatives not designated as hedging instruments:


	Financial expenses, net					Net revenues
	Three months ended,					Three months ended,
	September 30, 2020		September 30, 2019			September 30, 2020			September 30, 2019
Reported under	(U.S. $ in millions)
Line items in which effects of hedges are recorded	$	117	$	211		$	(3,978	)	$	(4,093	)
Option and forward contracts (4)		40		(35	)		—			—
Option and forward contracts economic hedge (5)		—		—			3			(4	)


	Financial expenses, net					Net revenues
	Nine months ended,					Nine months ended,
	September 30, 2020		September 30, 2019			September 30, 2020			September 30, 2019
Reported under	(U.S. $ in millions)
Line items in which effects of hedges are recorded	$	565	$	635		$	(12,206	)	$	(12,420	)
Option and forward contracts (4)		78		(42	)		—			—
Option and forward contracts Economic hedge (5)		—		—			(37	)		—

(1)

With respect to cross-currency swap agreements, Teva recognized gains which mainly reflect the differences between the fixed interest rate and the floating interest rate. In the fourth quarter of 2019, Teva terminated $588 million in cross-currency swap agreements against its outstanding 3.65% senior notes maturing in November 2021. The settlement of these transactions resulted in cash proceeds of $95 million. The cash flow hedge accounting adjustments of these instruments, which are recorded under senior notes and loans, are amortized under financial expenses, net over the life of the debt as additional interest expense.

(2)

In each of the first and second quarters of 2017, Teva entered into a cross currency swap agreement with a notional amount of $500 million maturing in 2020. These cross currency swaps were designated as a net investment hedge of Teva’s foreign subsidiaries euro denominated net assets, in order to reduce the risk of adverse exchange rate fluctuations. With respect to these cross currency swap agreements, Teva recognized gains which mainly reflect the differences between the

float-for-float

interest rates paid and received. In the first quarter of 2020, these cross-currency swap agreements expired. The settlement of these transactions resulted in cash proceeds of $3 million.

(3)

In the fourth quarter of 2016, Teva entered into an interest rate swap agreement designated as fair value hedge relating to its 2.8% senior notes due 2023 with respect to $500 million notional amount of outstanding debt. With respect to this interest rate swap agreement, Teva recognized a loss which mainly reflects the differences between the fixed interest rate and the floating

interest rate. In the third quarter of 2019, Teva terminated this interest rate swap agreement. The settlement of these transactions resulted in a gain position of $10 million. The fair value hedge accounting adjustments of these instruments, which are recorded under senior notes and loans, are amortized under financial expenses, net over the life of the debt as additional interest expense.

(4)

Teva uses foreign exchange contracts (mainly option and forward contracts) to hedge balance sheet items from currency exposure. These foreign exchange contracts are not designated as hedging instruments for accounting purposes. In connection with these foreign exchange contracts, Teva recognizes gains or losses that offset the revaluation of the balance sheet items also recorded under financial expenses, net.

(5)

Teva entered into option and forward contracts designed to limit the exposure of foreign exchange fluctuations on projected revenues and expenses recorded in euro, the British pound, the Russian ruble and some other currencies during the period for which such instruments are transacted. These derivative instruments do not meet the criteria for hedge accounting, however, they are accounted for as an economic hedge. These derivative instruments, which may include hedging transactions against future projected revenues and expenses, are recognized on the balance sheet at their fair value on a quarterly basis, while the foreign exchange impact on the underlying revenues and expenses may occur in subsequent quarters. Changes in the fair value of the derivative instruments are recognized in the same line item in the statements of income as the underlying exposure being hedged. In the first nine months of 2020, the positive impact from these derivatives recognized under revenues was $37 million, partially offset by a $3 million negative impact recognized under cost of sales. The cash flows associated with these derivatives are reflected as cash flows from operating activities in the consolidated statements of cash flows.

e. Amortizations due to terminated derivative instruments:

Forward starting interest rate swaps and treasury lock agreements

In 2015, Teva entered into forward starting interest rate swaps and treasury lock agreements to protect the Company from interest rate fluctuations in connection with a future debt issuance the Company was planning. These forward starting interest rate swaps and treasury lock agreements were terminated in July 2016 upon the debt issuance. The termination of these transactions resulted in a loss position of $493 million, which was recorded in other comprehensive income (loss) and is amortized under financial expenses, net over the life of the debt.

With respect to these forward starting interest rate swaps and treasury lock agreements, losses of $8 million and $7 million were recognized under financial expenses, net for the three months ended September 30, 2020 and 2019, respectively, and losses of $23 million and $22 million were recognized under financial expenses, net for the nine months ended September 30, 2020 and 2019, respectively.

Fair value hedge

In the third quarter of 2016, Teva terminated interest rate swap agreements designated as a fair value hedge relating to its 2.95% senior notes due 2022 with respect to $844 million notional amount and its 3.65% senior notes due 2021 with respect to $450 million notional amount. Settlement of these transactions resulted in a gain position of $41 million. The fair value hedge accounting adjustments of these instruments, which are recorded under senior notes and loans, are amortized under financial expenses, net over the life of the debt as additional interest expense.

In the third quarter of 2019, Teva terminated $500 million interest rate swap agreements designated as a fair value hedge relating to its 2.8% senior notes due 2023 with respect to $3,000 million notional amount. Settlement of these transactions resulted in cash proceeds of $10 million. The fair value hedge accounting adjustments of these instruments, which are recorded under senior notes and loans, are amortized under financial expenses, net over the life of the debt.

Cash flow hedge

In the fourth quarter of 2019, Teva terminated $588 million cross-currency swap agreements against its outstanding 3.65% senior notes maturing in November 2021. Settlement of these transactions resulted in cash proceeds of $95 million. The cash flow hedge accounting adjustments of these instruments, which are recorded under senior notes and loans, are amortized under financial expenses, net over the life of the debt.

With respect to the interest rate swap and cross-currency swap agreements, gains of $1 million and $3 million were recognized under financial expenses, net for the three months ended September 30, 2020 and 2019, respectively, and gains of $3 million and $6 million were recognized under financial expenses, net for the nine months ended September 30, 2020 and 2019, respectively.