Item 7. Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.
The following commentary should be read in conjunction with the consolidated financial statements and accompanying notes. The discussion and analysis of our financial condition as of December 31, 2020 and results of operations for the year ended December 31, 2020 compared to the year ended December 31, 2019, included in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations, can be found in our Current Report on Form 8-K filed with the SEC on April 29, 2021 (2020 Annual Report), which revised and superseded the Management's Discussion and Analysis of Financial Condition and Results of Operations section of the Annual Report on Form 10-K for the year ended December 31, 2020.
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EXECUTIVE OVERVIEW
Description of the Company and Business Segments
We manage our global operations based on four segments, consisting of the following geographic segments related to our legacy Baxter business: Americas, EMEA and APAC, and a new global segment for our recently acquired Hillrom business. The Americas, EMEA and APAC segments provide a broad portfolio of essential healthcare products, including acute and chronic dialysis therapies; sterile IV solutions; infusion systems and devices; parenteral nutrition therapies; inhaled anesthetics; generic injectable pharmaceuticals; and surgical hemostat and sealant products. These products are used by hospitals, kidney dialysis centers, nursing homes, rehabilitation centers, doctors’ offices and patients at home under physician supervision. The Hillrom segment provides digital and connected care solutions and collaboration tools, including smart bed systems, patient monitoring and diagnostic technologies, respiratory health devices and advanced equipment for the surgical space. Our global footprint and the critical nature of our products and services play a key role in expanding access to healthcare in emerging and developed countries. We expect to continue to evaluate our business structure as we integrate Hillrom and any changes as a result of that evaluation could impact the composition of our reportable segments in the future.
For financial information about our segments, see Note 17 in Item 8 of this Annual Report on Form 10-K.
Recent Business Combinations and Asset Acquisitions
Hillrom
On December 13, 2021, we completed the previously announced acquisition of all outstanding equity interests of Hillrom for a purchase price of $10.5 billion. Including the assumption of Hillrom's outstanding debt obligations, the enterprise value of the transaction was approximately $12.8 billion. Under the terms of the transaction agreement, Hillrom shareholders received $156.00 in cash per each outstanding Hillrom common share.
Prior to our acquisition of Hillrom, Hillrom was a global medical technology leader whose products and services help enable earlier diagnosis and treatment, optimize surgical efficiency, and accelerate patient recovery while simplifying clinical communication and shifting care closer to home. Hillrom made those outcomes possible through digital and connected care solutions and collaboration tools, including smart bed systems, patient monitoring and diagnostic technologies, respiratory health devices, advanced equipment for the surgical space and more, delivering actionable, real-time insights at the point of care. Refer to Note 2 and Note 5 in Item 8 of this Annual Report on Form 10-K for additional information on the Hillrom acquisition and related financing arrangements.
PerClot
On July 29, 2021, we acquired certain assets related to PerClot Polysaccharide Hemostatic System (PerClot), including distribution rights for the U.S. and specified territories outside of the U.S., from CryoLife, Inc. for an upfront purchase price of $25 million and the potential for additional cash consideration of up to $36 million, which had an acquisition-date fair value of $28 million, based upon regulatory and commercial milestones. PerClot is an absorbable powder hemostat indicated for use in surgical procedures, including cardiac, vascular, orthopedic, spinal, neurological, gynecological, ENT and trauma surgery as an adjunct hemostat when control of bleeding from capillary, venous, or arteriolar vessels by pressure, ligature, and other conventional means is either ineffective or impractical. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for additional information regarding the acquisition of PerClot.
Transderm Scop
On March 31, 2021, we acquired the rights to Transderm Scop (TDS) for the U.S. and specified territories outside of the U.S. from subsidiaries of GlaxoSmithKline for an upfront purchase price of $60 million including the cost of acquired inventory and the potential for additional cash consideration of $30 million, which had an acquisition-date fair value of $24 million, based upon regulatory approval of a new contract manufacturer by a specified date. We previously sold this product under a distribution license to the U.S. institutional market. TDS is indicated for post-operative nausea and vomiting in the U.S. and motion sickness in European markets. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for additional information regarding the acquisition of TDS.
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Caelyx and Doxil
On February 17, 2021, we acquired the rights to Caelyx and Doxil, the branded versions of liposomal doxorubicin, from a subsidiary of Johnson & Johnson for specified territories outside of the U.S for approximately $325 million in cash. We previously acquired the U.S. rights to this product in 2019. Liposomal doxorubicin is a chemotherapy medicine used to treat various types of cancer. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for additional information regarding the acquisition of Caelyx and Doxil.
Seprafilm Adhesion Barrier
In February 2020, we completed the acquisition of the product rights to Seprafilm Adhesion Barrier (Seprafilm) from Sanofi for approximately $342 million in cash. Seprafilm is indicated for use in patients undergoing abdominal or pelvic laparotomy as an adjunct intended to reduce the incidence, extent and severity of postoperative adhesions between the abdominal wall and the underlying viscera such as omentum, small bowel, bladder, and stomach, and between the uterus and surrounding structures such as tubes and ovaries, large bowel, and bladder. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for additional information regarding the acquisition of Seprafilm.
Financial Results
Our global net sales totaled $12.8 billion in 2021, an increase of 10% over 2020 on a reported and 7% on a constant currency basis. International sales totaled $7.6 billion in 2021, an increase of 12% compared to 2020 on a reported basis and 8% on a constant currency basis. Sales in the United States totaled $5.2 billion in 2021, an increase of 6% compared to 2020. Refer to the Net Sales discussion in the Results of Operations section below for more information related to changes in net sales on a constant currency basis.
Net income attributable to Baxter stockholders totaled $1.3 billion, or $2.53 per diluted share, in 2021. Net income in 2021 included special items which resulted in a net decrease to net income of $552 million, or $1.08 per diluted share. Our special items are discussed in the Results of Operations section below.
Our financial results included R&D expenses totaling $534 million in 2021, which reflects our focus on balancing investments to support our new product pipeline with efforts to optimize overall R&D spending.
Our financial position remains strong, with operating cash flows from continuing operations totaling $2.2 billion in 2021. We have continued to execute on our disciplined capital allocation framework, which is designed to optimize stockholder value creation through reinvestment in our businesses, dividends and share repurchases, as well as acquisitions and other business development initiatives as discussed in the Strategic Objectives section below.
Capital expenditures totaled $743 million in 2021 as we continue to invest across our businesses to support future growth, including additional investments in support of new and existing product capacity expansions. Our investments in capital expenditures in 2021 were focused on projects that improve production efficiency and enhance manufacturing capabilities to support our business growth.
We also continued to return value to our stockholders in the form of dividends. During 2021, we paid cash dividends to our stockholders totaling $530 million. Additionally, in 2021 we repurchased 7.3 million shares through cash repurchases pursuant to Rule 10b5-1 repurchase plans. For information on our share repurchase plans, see Note 8 in Item 8 of this Annual Report on Form 10-K.
Strategic Objectives
We continue to focus on several key objectives to successfully execute our long-term strategy to achieve sustainable growth and deliver enhanced stockholder value. Our diversified and broad portfolio of medical products that treat life-threatening acute or chronic conditions and our global presence are core components of our strategy to achieve these objectives. We are focused on three strategic factors as part of our pursuit of industry leading performance: optimizing our core portfolio globally; operational excellence focused on streamlining our cost structure and enhancing operational efficiency; and maintaining a disciplined and balanced approach to capital allocation.
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Optimizing the Core Portfolio Globally
Our global product portfolio optimization strategy identifies products that we believe to have characteristics of core growth, products that we expect to provide us with a core return on capital, products that we intend to maintain or manage differently and products that we consider to be strategic bets. For products with core growth characteristics, we look to invest for long-term, higher margin growth. For products that we expect to generate a core return on capital, we seek to optimize our return on investment and to maintain or enhance our market position. For products that we intend to maintain or manage differently, we look to sustain or reposition our underlying investment. Finally, we are evaluating our market position and investment strategy for products that we consider to be strategic bets.
As part of our portfolio management strategy, we seek to optimize our position in product areas where we have a stable, profitable business model and identify and alter investments in products that have reached the end of their life cycles or for which market positions have evolved unfavorably. In the course of doing so, we expect to continue to reallocate capital to more promising opportunities or business groupings, as described above. Additionally, to the extent we identify areas that do not align with our longer-term objectives, we will look to exit or divest these businesses while also continuing to identify new opportunities to enhance future performance.
As part of this strategy, we are shifting our investments to drive innovation in product areas where we have compelling opportunities to serve patients and healthcare professionals while advancing our business and we are accelerating the pace in which we bring these advances to market. We are in the midst of launching several new products, geographic expansions and line extensions including in such areas as chronic and acute renal care, smart pump technology, hospital pharmaceuticals and nutritionals, surgical sealants, and more. These comprise a mix of entirely new offerings, improvements on existing technologies, and the expansion of current products into new geographies. We are also evaluating product development opportunities that leverage the newly acquired Hillrom portfolio.
Operational Excellence
In recent years, we have undertaken a comprehensive review of all aspects of our operations and are actively implementing changes in line with our business goals. As part of our pursuit of improved margin performance, we are working to optimize our cost structure and we are critically assessing optimal support levels in light of our ongoing portfolio optimization efforts and the Hillrom integration. We intend to continue to actively manage our cost structure to help ensure that we are committing resources to the highest value uses. Such high value activities include supporting innovation, building out the portfolio, expanding patient access and accelerating growth for our stockholders.
Maintaining Disciplined and Balanced Capital Allocation
Subject to market conditions and our investment grade targets, our capital allocation strategies include the following:
•reinvest in the business by funding opportunities that are positioned to deliver sustainable growth, support our innovation efforts and improve margin performance;
•return capital to stockholders through dividends and share repurchases; and
•identify and pursue accretive merger and acquisition (M&A) opportunities.
Corporate Responsibility at Baxter
Driven by our mission to save and sustain lives, Baxter's corporate responsibility strategy focuses on tackling the environmental, social and governance (ESG) issues that affect our patients, customers, employees, communities and other stakeholders. Our corporate responsibility approach supports our business priorities to achieve top quartile results relative to industry peers and other comparators across four dimensions: patient safety and quality, growth through innovation, best place to work, and industry-leading performance. Advancing our corporate responsibility goals contributes to business, social and economic value, including through employee attraction and retention, enhanced operational efficiency, and implementation of enterprise risk management strategies, among others.
In 2021, we launched our 2030 CR Commitment featuring ten goals for focused action, anchored by three pillars - Empower Our Patients, Protect Our Planet and Champion Our People and Communities - on the foundation of
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principles of Ethics and Compliance, Human Rights, Inclusion and Diversity, and Privacy and Data Protection. The 2030 Commitment and Goals highlight Baxter's corporate responsibility focus and help to further advance our ESG performance. Our progress against these goals is published annually in our Corporate Responsibility Report which is available on our website under "Our Story-Corporate Responsibility". The Corporate Responsibility Report is not incorporated by reference into this Annual Report on Form 10-K or any other document filed with the SEC.
Risks and Uncertainties Related to COVID-19
Our global operations expose us to risks associated with public health crises and epidemics/pandemics, such as the COVID-19 pandemic. COVID-19 has had, and we expect will continue to have, an adverse impact on our operations, supply chains and distribution systems and has increased and we expect will continue to increase our expenses, including as a result of impacts associated with preventive and precautionary measures that we, other businesses and governments have taken and continue to take. Initial measures taken in 2020 led to unprecedented restrictions on, disruptions in, and other related impacts on business and personal activities, including a shift in healthcare priorities, which resulted in a significant decline in medical procedures in 2020. Some of these disruptions and impacts (including the suspension or postponement of elective medical procedures) in certain of our principal markets have continued into 2021. The pandemic has created significant volatility in the demand for our products. For further discussion, refer to the Product Category Net Sales Reporting section below. Significant uncertainty remains regarding the duration and overall impact of the COVID-19 pandemic. For example, concerns remain regarding the pace of economic recovery due to virus resurgence across the globe from the Delta and Omicron variants and other virus mutations as well as vaccine distribution and hesitancy. The U.S. and other governments may continue existing measures or implement new restrictions and other requirements in light of the continuing spread of the pandemic (including with respect to mandatory vaccinations for certain of our employees and moratoriums on elective procedures). Due to the uncertainty caused by the pandemic, our operating performance and financial results, particularly in the short term, may be subject to volatility. We have experienced significant challenges, including lengthy delays, shortages and interruptions, posed by the pandemic and other exogenous factors (including significant weather events and disruptions to certain ports of call around the world) to our global supply chain, including the cost and availability of raw materials and component parts (including resins and electromechanical devices) and higher transportation costs, and may experience these and other challenges in future periods. We expect that these challenges as well as evolving governmental restrictions and requirements, among other factors, may continue to have an adverse effect on our business. For further discussion, refer to Item 1A of this Annual Report on Form 10-K.
Risk Factors
Our ability to sustain long-term growth and successfully execute the strategies discussed above depends in part on our ability to manage within an increasingly competitive and regulated environment and to address the other risk factors described in Item 1A of this Annual Report on Form 10-K.
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RESULTS OF OPERATIONS
Special Items
The following table provides a summary of our special items and the related impact by line item on our results for 2021 and 2020.
Gross Margin
Intangible asset amortization expense $ (287) $ (222)
Intangible asset impairment1 — (17)
Business optimization items2 (53) (53)
Product-related items3 — (29)
Acquisition and integration expenses4 (50) (11)
European medical devices regulation5 (42) (33)
Investigation and related costs6 — (3)
Total Special Items $ (432) $ (368)
Impact on Gross Margin Ratio (3.4 pts) (3.1 pts)
Selling, General and Administrative (SG&A) Expenses
Intangible asset amortization expense $ 11 $ —
Business optimization items2 60 78
Acquisition and integration expenses4 144 9
Investigation and related costs6 31 19
Litigation matter7 13 —
Total Special Items $ 259 $ 106
Impact on SG&A Expense Ratio 2.0 pts 1.0 pts
R&D Expenses
Business optimization items2 $ 1 $ 3
Acquisition and integration expenses4 4 22
Investigation and related costs6 — 1
Total Special Items $ 5 $ 26
Impact on R&D Expense Ratio 0.1 pts 0.3 pts
Other Operating Income, net
Business optimization items2 $ — $ (17)
Acquisition and integration expenses4 (6) (2)
Total Special Items $ (6) $ (19)
Interest Expense, Net
Acquisition and integration expenses4 $ 48 $ —
Total Special Items $ 48 $ —
Other Expense, Net
Pension settlements8 — 43
Loss on debt extinguishment9 5 110
Total Special Items $ 5 $ 153
Income Tax Expense
Tax matters10 $ (54) $ —
Tax effects of special items11 (137) (139)
Total Special Items $ (191) $ (139)
Impact on Effective Tax Rate (4.5 pts) (2.6 pts)
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Intangible asset amortization expense is identified as a special item to facilitate an evaluation of current and past operating performance and is consistent with how management and our Board of Directors internally assess performance. Additional special items are identified above because they are highly variable, difficult to predict and of a size that may substantially impact our results of operations for a period. Management believes that providing the separate impact of the above items on our results in accordance with U.S. GAAP may provide a more complete understanding of our operations and can facilitate a fuller analysis of our results of operations, particularly in evaluating performance from one period to another.
1In 2020, our results included a charge of $17 million for an asset impairment related to a developed-technology intangible asset. Refer to Note 4 in Item 8 of this Annual Report on Form 10-K for further information regarding this asset impairment.
2In 2021 and 2020, our results were impacted by costs associated with our execution of programs to optimize our organization and cost structure. These actions included streamlining our international operations, rationalizing our manufacturing and distribution facilities, reducing our general and administrative infrastructure, re-aligning certain R&D activities and canceling certain R&D programs. Our results in 2021 and 2020 included business optimization charges of $114 million and $134 million, respectively. Additionally, we recognized a gain of $17 million in 2020 for property we sold in conjunction with our business optimization initiatives. Refer to Note 11 in Item 8 of this Annual Report on Form 10-K for further information regarding these charges and related liabilities.
3Our results in 2020 included a charge of $29 million related to Sigma Spectrum infusion pump inspection and remediation activities.
4Our results in 2021 included acquisition, integration and related financing expenses of $240 million. This included acquisition, integration and related financing expenses for our acquisition of Hillrom and the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S. These expenses were partially offset by benefits from changes in the estimated fair value of contingent consideration liabilities. Our results in 2020 included $40 million of acquisition and integration expenses. This included acquisition and integration expenses related to our acquisitions of Cheetah Medical, Inc. (Cheetah), Seprafilm and in-process R&D assets, partially offset by a benefit related to the change in the estimated fair value of contingent consideration liabilities. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for further information regarding business development activities.
5Our results in 2021 and 2020 included costs of $42 million and $33 million, respectively, related to updating our quality systems and product labeling to comply with the new medical device reporting regulation and other requirements of the European Union’s regulations for medical devices that become effective in stages beginning in 2021.
6Our results in 2021 included charges of $31 million for investigation and related costs. Those costs related to matters associated with our previously announced investigation of foreign exchange gains and losses, including the settlement of shareholder litigation, a civil penalty from the SEC and related professional fees. Our results in 2020 included $23 million for investigation and related costs. Those costs primarily included professional fees for the investigation and related matters, as well as incremental stock compensation expense as we extended the terms of certain stock options that were scheduled to expire in the first quarter of 2020. Refer to Notes 7 and 8 in Item 8 of this Annual Report on Form 10-K for further information regarding the investigation and stock compensation expense.
7Our results in 2021 included legal charges of approximately $13 million associated with claimants alleging injuries as a result of proximity to one of our plants.
8Our results in 2020 included a charge of $43 million related to lump-sum settlement distributions made to certain former U.S. employees with vested pension benefits. Refer to Note 12 in Item 8 of this Annual Report on Form 10-K for further information regarding the lump-sum settlements.
9Our results in 2021 included a loss of $5 million on the early extinguishment of the $2.4 billion debt assumed as part of the Hillrom acquisition. Our results in 2020 included a loss of $110 million on the November 2020 early extinguishment of $750 million of 3.75% senior notes that were issued in March 2020. Refer to Note 5 in Item 8 of this Annual Report on Form 10-K for further information.
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10Our results in 2021 included a $58 million income tax benefit related to a tax-deductible foreign statutory loss on an investment in a foreign subsidiary and an $18 million income tax benefit related to a change in U.S. foreign tax credit regulations, partially offset by a $22 million income tax expense related to an unfavorable court ruling for an uncertain tax position.
11Reflected in this item is the income tax impact of the special items identified in this table. The tax effect of each special item is based on the jurisdiction in which the item was incurred and the tax laws in effect for each such jurisdiction.
Net Sales
Percent change
Net sales for the year ended December 31, 2021 increased 10% at actual and 7% at constant currency rates.
Foreign currency favorably impacted net sales by 3 percentage points during 2021 compared to the prior-year period principally due to the weakening of the U.S. Dollar relative to the Euro, Australian Dollar, British Pound, Chinese Renminbi and Canadian Dollar.
The comparisons presented at constant currency rates reflect current year local currency sales at the prior year’s foreign exchange rates. This measure provides information on the change in net sales assuming that foreign currency exchange rates had not changed between the prior and the current period. We believe that the non-GAAP measure of change in net sales at constant currency rates, when used in conjunction with the U.S. GAAP measure of change in net sales at actual currency rates, may provide a more complete understanding and facilitate a fuller analysis of our results of operations, particularly in evaluating performance from one period to another.
In 2021, the acquisition of Hillrom and the rights to Caleyx and Doxil for specified territories outside of the U.S. contributed $212 million and $108 million, respectively, in net sales.
As a result of the increase in COVID-19 cases in late 2021 and early 2022, we have experienced higher levels of absenteeism at our manufacturing facilities. In addition, a number of our suppliers are experiencing similar staffing challenges, which, together with other supply chain constraints in the current environment, has limited the availability of certain raw materials and component parts used in our products. These conditions have decreased our current production levels, which we expect to adversely impact our sales growth during the first quarter of 2022. We currently expect these conditions to improve and our production levels to normalize over the course of 2022.
Product Category Net Sales Reporting
Beginning in the first quarter of 2021, our product category net sales disclosures (previously referred to as global business units (GBUs)) separately present net sales from our BioPharma Solutions business, which was previously included within Other. Concurrent with that disaggregation of net sales from our BioPharma Solutions business, we have also allocated certain previously unallocated sales deductions from Other to various categories, primarily based on their respective net sales. Net sales for 2020 have been recast to conform to the current period presentation. Additionally, with the acquisition of Hillrom in December 2021, we have added three new product categories: Patient Support Systems, Front Line Care and Surgical Solutions.
Our product categories include the following:
•Renal Care includes sales of our peritoneal dialysis (PD), hemodialysis (HD) and additional dialysis therapies and services.
•Medication Delivery includes sales of our intravenous (IV) therapies, infusion pumps, administration sets and drug reconstitution devices.
•Pharmaceuticals includes sales of our premixed and oncology drug platforms, inhaled anesthesia and critical care products and pharmacy compounding services.
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•Clinical Nutrition includes sales of our parenteral nutrition (PN) therapies and related products.
•Advanced Surgery includes sales of our biological products and medical devices used in surgical procedures for hemostasis, tissue sealing and adhesion prevention.
•Acute Therapies includes sales of our continuous renal replacement therapies (CRRT) and other organ support therapies focused in the intensive care unit (ICU).
•BioPharma Solutions includes sales of contracted services we provide to various pharmaceutical and biopharmaceutical companies.
•Patient Support Systems includes sales of our connected care solutions: devices, software, communications and integration technologies.
•Front Line Care includes sales of our integrated patient monitoring and diagnostic technologies to help diagnose, treat and manage a wide variety of illness and diseases, including respiratory therapy, cardiology, vision screening and physical assessment.
•Surgical Solutions includes sales of our surgical video technologies, tables, lights, pendants, precision positioning devices and other accessories.
•Other includes sales of other miscellaneous product and service offerings.
The following is a summary of net sales by product category.
Percent change
Patient Support Systems 115 — n/a n/a
Front Line Care 70 — n/a n/a
Surgical Solutions 27 — n/a n/a
Renal Care net sales increased 4% in 2021, as compared to the prior-year period. The increase in 2021 was driven by a 2% positive impact from foreign exchange rate changes, as compared to the prior-year period, and global patient growth in PD, partially offset by lower in-center HD sales.
Medication Delivery net sales increased 7% in 2021, as compared to the prior-year period. The increase in 2021 was due to a favorable comparison to the comparable period of 2020 which was more severely impacted from lower demand for our infusion systems and related IV administration sets and solutions due to lower hospital admission rates and a reduction in elective surgeries resulting from the COVID-19 pandemic. Additionally, foreign exchange rates had a favorable impact on Medication Delivery net sales of 1% in 2021, as compared to the prior-year period.
Pharmaceuticals net sales increased 9% in 2021, as compared to the prior-year period. The increase in 2021 was driven by the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S., which contributed $108 million of net sales in 2021. Additionally, foreign exchange rates had a favorable impact on Pharmaceuticals net sales of 4% in 2021, as compared to the prior-year period. Partially offsetting this increase was a significant nonrecurring purchase from the U.S. government in the prior year.
Clinical Nutrition net sales increased 6% in 2021, as compared to the prior-year period. The increase in 2021 was driven by growth in the U.S. for our PN therapies and related products and a 2% positive impact from foreign exchange rate changes, as compared to the prior-year period. The increase was partially offset by lower international sales of vitamins resulting from supply constraints.
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Advanced Surgery net sales increased 10% in 2021, as compared to the prior-year period. The increase in 2021 was driven by a recovery in elective surgeries, as many had been previously postponed due to the COVID-19 pandemic, and a 1% positive impact from foreign exchange rate changes, as compared to the prior-year period. Additionally, the acquisition of Seprafilm in February of 2020 contributed $8 million of incremental sales in the first quarter of 2021.
Acute Therapies net sales increased 6% in 2021, as compared to the prior-year period. The increase in 2021 was driven by increased global demand for our CRRT systems during the COVID-19 pandemic and a 3% positive impact from foreign exchange rate changes, as compared to the prior-year period.
BioPharma Solutions net sales increased 38% in 2021, as compared to the prior-year period. The increase was driven by manufacturing services and supply packaging related to the production of COVID-19 vaccines on behalf of multiple pharmaceutical companies and a 3% positive impact from foreign exchange rate changes, as compared to the prior-year period.
Patient Support Systems net sales were $115 million in 2021 and resulted from the acquisition of Hillrom in December 2021.
Front Line Care net sales were $70 million in 2021 and resulted from the acquisition of Hillrom in December 2021.
Surgical Solutions net sales were $27 million in 2021 and resulted from the acquisition of Hillrom in December 2021.
Gross Margin and Expense Ratios
Gross Margin
The gross margin ratio was 39.9% and 39.3% in 2021 and 2020, respectively. The special items identified above had an unfavorable impact of 3.4 and 3.1 percentage points on the gross margin ratio in 2021 and 2020, respectively. Refer to the Special Items section above for additional detail.
Excluding the impact of the special items, the gross margin ratio increased 0.9 percentage points in 2021 compared to 2020 due to a favorable product mix that was partially offset by higher manufacturing and supply chain costs resulting from the COVID-19 pandemic.
SG&A
The SG&A expenses ratio was 22.4% and 21.2% in 2021 and 2020, respectively. The special items identified above had an unfavorable impact of 2.0 and 1.0 percentage points on the SG&A expenses ratio in 2021 and 2020, respectively. Refer to the Special Items section above for additional detail.
Excluding the impact of the special items, the SG&A expenses ratio increased 0.2 percentage points in 2021 primarily due to higher bonus accruals under our annual employee incentive compensation plans.
R&D
The R&D expenses ratio was 4.2% and 4.5% in 2021 and 2020, respectively. The special items identified above had an unfavorable impact of 0.1 and 0.3 percentage points on the R&D expenses ratio in 2021 and 2020, respectively. Refer to the Special Items section above for additional detail.
Excluding the impact of the special items, the R&D expenses ratio decreased 0.1 percentage points in 2021 as a result of decreased project-related expenditures that was partially offset by higher bonus accruals under our annual employee incentive compensation plans.
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Business Optimization Items
In recent years, we have undertaken actions to transform our cost structure and enhance our operational efficiency. These efforts have included restructuring the organization, optimizing our manufacturing footprint, R&D operations and supply chain network, employing disciplined cost management, and centralizing and streamlining certain support functions. From the commencement of our business optimization actions in the second half of 2015 through December 31, 2021, we have incurred cumulative pre-tax costs of $1.2 billion related to these actions. The costs consisted primarily of employee termination costs, implementation costs, contract termination costs, asset impairments, and accelerated depreciation. We currently expect to incur additional pre-tax costs of approximately $30 million through the completion of the initiatives that are currently underway, primarily related to implementation costs. We continue to pursue cost savings initiatives and, to the extent further cost savings opportunities are identified, we may incur additional restructuring charges and costs to implement business optimization programs in future periods. The reductions in our cost base from these actions in the aggregate are expected to provide cumulative annual pretax savings of more than $1.2 billion once the remaining actions are complete. The savings from these actions have reduced cost of sales, SG&A expenses, and R&D expenses. Approximately 99 percent of the expected annual pre-tax savings has been realized through December 31, 2021, with the remainder expected to be realized by the end of 2022. Refer to Note 11 in Item 8 of this Annual Report on Form 10-K for additional information regarding our business optimization programs.
Other Operating Income, Net
Other operating income, net was $6 million and $19 million in 2021 and 2020, respectively. In 2021 and 2020, we recognized benefits of $6 million and $2 million, respectively, related to the change in the estimated fair value of contingent consideration liabilities. Additionally, in 2020, we recognized a $17 million gain on the sale of property in conjunction with our business optimization initiatives.
In September 2013, we entered into an agreement with Celerity Pharmaceutical, LLC (Celerity) to develop certain acute care generic injectable premix and oncolytic products through regulatory approval. We transferred our rights in these products to Celerity and Celerity assumed ownership and responsibility for development of the products. We are obligated to purchase the individual product rights from Celerity if the products obtain regulatory approval. In December 2020, we entered into an agreement with a third party to divest one of the products that is currently being developed by Celerity if that product receives regulatory approval in the U.S. and/or European Union. If regulatory approval is obtained, we would incur a loss ranging from $30 million to $60 million for the difference between our purchase price and the divestiture proceeds in connection with that transaction. Refer to Note 2 in Item 8 of this Annual Report on Form 10-K for additional information regarding this agreement.
Interest Expense, Net
Interest expense, net was $192 million and $134 million in 2021 and 2020, respectively. The increase in 2021 was primarily driven by financing-related fees incurred in connection with the Hillrom acquisition, which totaled $59 million, and lower interest income due to lower interest rates. Refer to Note 5 in Item 8 of this Annual Report on Form 10-K for a summary of the components of interest expense, net for 2021 and 2020.
Other Expense, Net
Other expense, net was $41 million and $190 million in 2021 and 2020, respectively. The net expense in 2021 was primarily driven by foreign exchange net losses and pension and OPEB net expenses. The net expense in 2020 was primarily driven by a $110 million loss on the early extinguishment of debt related to our November 2020 redemption of $750 million of senior notes that were issued in March 2020, foreign exchange net losses of $49 million and $46 million of pension settlement charges, which included a $43 million charge related to lump-sum settlement distributions made to certain former U.S. employees with vested pension benefits.These expenses in 2020 were partially offset by net unrealized gains of $13 million related to marketable equity securities.
We expect expenses from pension and OPEB plans to decrease in 2022 primarily due to prior year actuarial gains that will reduce ongoing benefit costs. Refer to Note 12 in Item 8 of this Annual Report on Form 10-K for further information regarding pension and OPEB plan expenses.
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In the first quarter of 2021, we began to wind down our operations in Argentina. Upon substantial liquidation of those operations in the future, we expect to reclassify currency translation adjustments (CTA) from accumulated other comprehensive (loss) income to other expense, net and recognize a non-cash charge. As of December 31, 2021, the CTA for our Argentina operations was in excess of $60 million.
Income Taxes
The effective income tax rate was 12.3% in 2021 and 14.1% in 2020. The special items identified above had a favorable impact of 4.5 and 2.6 percentage points on the effective income tax rate in 2021 and 2020, respectively. Refer to the Special Items section above for additional detail. Our effective income tax rate can differ from the 21% U.S. federal statutory rate due to a number of factors, including foreign rate differences, tax incentives, increases or decreases in valuation allowances and liabilities for uncertain tax positions and excess tax benefits on stock compensation awards.
For the twelve months ended December 31, 2021, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to favorable geographic earnings mix, a $58 million tax benefit related to a tax-deductible foreign statutory loss on an investment in a foreign subsidiary, a tax benefit related to a change in U.S. foreign tax credit regulations and excess tax benefits on stock compensation awards, partially offset by an unfavorable court decision in a foreign jurisdiction related to an uncertain tax position.
For the twelve months ended December 31, 2020, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to favorable geographic earnings mix and excess tax benefits on stock compensation awards.
Our tax provisions for 2021 and 2020 do not include any tax charges related to either the Base Erosion and Anti-Abuse Tax (BEAT) or Global Intangible Low Taxed Income (GILTI) provisions, except for the inability to fully utilize foreign tax credits against such GILTI. Our accounting policy is to recognize any GILTI charge as a period cost.
We anticipate that our effective income tax rate, calculated in accordance with U.S. GAAP, will be approximately 17% in 2022. This rate may be further impacted by a number of factors including discrete items, such as tax windfalls or deficiencies attributable to stock compensation awards, additional audit developments, or the tax effects of any future special items.
Net Income and Earnings per Diluted Share
Net income was $1.3 billion in 2021 and $1.1 billion in 2020. Diluted earnings per share was $2.53 in 2021 and $2.13 in 2020. The significant factors and events causing the net changes from 2020 to 2021 are discussed above. Additionally, earnings per share was positively impacted by the repurchase of 7.3 million shares in 2021 and 6.3 million shares in 2020 through Rule 10b5-1 purchase plans. Refer to Note 8 in Item 8 of this Annual Report on Form 10-K for further information regarding our stock repurchases.
Segment results
We manage our global operations based on four segments, consisting of the following geographic segments related to our legacy Baxter business: Americas, EMEA and APAC, and a new global segment for our recently acquired Hillrom business. We use net sales and operating income on a segment basis to make resource allocation decisions and assess the ongoing performance of our segments. In the first quarter of 2021, the information provided to our Chief Executive Officer for purposes of allocating resources and assessing performance was updated to reallocate contracted services activities performed at a German manufacturing facility from our EMEA segment to our Americas segment. The contracted services performed at that facility are part of our BioPharma Solutions business, which is managed as part of the Americas segment. Accordingly, the reported financial results of the Americas segment now include the contracted services activities performed at that facility. Segment results for 2020 have been recast to conform to this presentation. Refer to Note 17 in Item 8 of this Annual Report on Form 10-K for additional details regarding our segments.
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The following is a summary of financial information for our reportable segments.
Net sales Operating income
Americas
Segment net sales and operating income in 2021 was $6.7 billion and $2.6 billion, respectively. Segment net sales and operating income in 2020 was $6.3 billion and $2.4 billion, respectively. The increase in operating profit in 2021 was primarily driven by favorable sales performance in our BioPharma Solutions, Medication Delivery and Advanced Surgery product categories, partially offset by unfavorable performance in Pharmaceuticals.
EMEA
Segment net sales and operating income in 2021 was $3.1 billion and $632 million, respectively. Segment net sales and operating income in 2020 was $2.9 billion and $523 million, respectively. The increase in operating profit in 2021 was due to the favorable impact of foreign exchange rates on results as compared to the prior-year period and the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S., which contributed $93 million of net sales and operating profit to the region, respectively.
APAC
Segment net sales and operating income in 2021 was $2.8 billion and $623 million, respectively. Segment net sales and operating income in 2020 was $2.5 billion and $591 million, respectively. The increase in operating profit in 2021 was due to the favorable impact of foreign exchange rates on results as compared to the prior-year period and the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S., which contributed $13 million of net sales and operating profit to the region, respectively.
Hillrom
Segment net sales and operating loss for 2021 was $212 million and $80 million, respectively. The increase in operating loss in 2021 was due to the acquisition of Hillrom in December 2021.
Corporate and other
Certain items are maintained at Corporate and are not allocated to a segment. They primarily include certain headquarter costs, certain R&D costs, certain product categories support costs, stock compensation expense, certain employee benefit plan costs, certain foreign currency hedging activities, and certain gains, losses, and other charges (such as business optimization, acquisition and integration costs, intangible asset amortization and asset impairments). The operating loss in 2021 was higher than 2020 primarily due to acquisition and integration expenses related to the Hillrom acquisition, higher intangible asset amortization expense and higher bonus accruals under our annual employee incentive compensation plans in the current year.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows from Operations — Continuing Operations
In 2021 and 2020, cash provided by operating activities was $2.2 billion and $1.9 billion, respectively. Operating cash flows increased in 2021 primarily due to a lower increase in inventories in 2021 compared to 2020, an increase in our net income in 2021, payments of $173 million to settle interest rate derivative contracts in 2020 and lower
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employee incentive compensation payments in 2021 compared to 2020, partially offset by cash outflows of approximately $47 million in 2021 related to Hillrom acquisition and integration costs.
Cash Flows from Investing Activities
In 2021, cash used for investing activities included payments for acquisitions and investments of $10.5 billion, primarily related to Hillrom, Caleyx and Doxil, Transderm Scop and PerClot, and capital expenditures of $743 million. In 2020, cash used for investing activities included payments for acquisitions and investments of $494 million, primarily related to Seprafilm and multiple product acquisitions, and capital expenditures of $709 million.
We expect that our capital expenditures will increase in 2022 as we make investments in our manufacturing capacity in response to proposed regulatory changes of the U.S. Department of Health and Human Services in kidney health policy and reimbursement, which may substantially change the U.S. end stage renal disease market and demand for our peritoneal dialysis products.
Cash Flows from Financing Activities
In 2021, cash generated from financing activities included $11.8 billion to fund the consideration for the Hillrom acquisition, repay certain indebtedness of Hillrom, and to pay fees and expenses related to the foregoing. In September 2021, we entered into a term loan credit agreement (the Term Loan Credit Agreement), pursuant to which a syndicate of financial institutions has committed to provide us with a senior unsecured term loan facility in an aggregate principal amount of $4.0 billion (the Term Loan Facility), consisting of a $2.0 billion three-year term loan and a $2.0 billion five-year term loan. In December 2021, we issued $800 million senior notes due in 2023, $1.4 billion senior notes due in 2024, $1.45 billion senior notes due in 2027, $1.25 billion senior notes due in 2028, $1.55 billion senior notes due in 2032, $750 million senior notes due in 2051, $300 million floating rate senior notes due in 2023 and $300 million floating rate senior notes due in 2024. We also had net proceeds from commercial paper borrowings of $300 million and repaid debt obligations of $2.8 billion, including $2.4 billion of debt that was assumed in the Hillrom acquisition. Financing activities in 2021 also included payments for treasury stock repurchases of $600 million, dividend payments of $530 million and receipts from stock issued under employee benefit plans of $187 million.
In 2020, cash generated from financing activities included $1.2 billion of net proceeds from the March 2020 issuance of $750 million of senior notes due in 2025 and $500 million of senior notes due in 2030. In November 2020, we issued $650 million of senior notes due in 2031 and used the proceeds, along with cash on hand, to redeem the $750 million senior notes due in 2025 that were issued in March 2020 for $854 million, which included a $104 million make-whole premium. We have used the net proceeds from those senior notes issuances and redemptions for general corporate purposes, including to strengthen our balance sheet as a precautionary measure in light of the COVID-19 pandemic. In 2020, we also repaid $322 million of variable rate notes that matured and the borrowings under our Euro-denominated credit facility of €200 million ($225 million). Financing activities in 2020 also included payments for stock repurchases of $500 million, dividend payments of $473 million and receipts from stock issued under employee benefit plans of $202 million.
As authorized by the Board of Directors, we repurchase our stock depending upon our cash flows, net debt levels and market conditions. In July 2012, the Board of Directors authorized the repurchase of up to $2.0 billion of our common stock. The Board of Directors increased this authority by an additional $1.5 billion in each of November 2016 and February 2018, by an additional $2.0 billion in November 2018 and by an additional $1.5 billion in October 2020. We paid $600 million in cash to repurchase approximately 7.3 million shares under this authority pursuant to Rule 10b5-1 plans in 2021 and had $1.3 billion remaining available under this authorization as of December 31, 2021.
Credit Facilities and Access to Capital and Credit Ratings
Credit Facilities
On September 30, 2021, we entered into a new U.S. dollar-denominated revolving credit facility (the USD Revolver) and on October 1, 2021, we amended our existing Euro-denominated revolving credit facility (as amended, the Euro Revolver). As of December 31, 2021, our USD Revolver had capacity of $2.5 billion and our Euro Revolver had a capacity of approximately €200 million. Each of the facilities matures in 2026. The facilities enable us to borrow funds on an unsecured basis at variable interest rates, and contain various covenants, including a maximum net
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leverage ratio. Fees under the credit facilities are 0.09% annually as of December 31, 2021 and are based on our credit ratings and the total capacity of the facility. Prior to entering into the USD Revolver and the Euro Revolver, our previous U.S. dollar-denominated revolving credit facility and Euro-denominated senior revolving credit facility had a maximum capacity of $2.0 billion and €200 million, respectively. Fees under these credit facilities were 0.09% annually as of December 31, 2020 and were based on our credit ratings and the total capacity of the facility. There were no borrowings under these credit facilities as of December 31, 2021 or December 31, 2020. As of December 31, 2021, we were in compliance with the financial covenants in these agreements. The non-performance of any financial institution supporting either of the credit facilities would reduce the maximum capacity of these facilities by the institution’s respective commitment.
We also maintain other credit arrangements, as described in Note 5 in Item 8 of this Annual Report on Form 10-K.
Access to Capital and Credit Ratings
We intend to fund short-term and long-term obligations as they mature through cash on hand and future cash flows from operations or by issuing additional debt. We had $3.0 billion of cash and cash equivalents as of December 31, 2021, with adequate cash available to meet operating requirements in each jurisdiction in which we operate. We invest our excess cash in money market and other funds and diversify the concentration of cash among different financial institutions. As of December 31, 2021, we had approximately $17.7 billion of long-term debt and finance lease obligations, including current maturities, and short-term debt. Subject to market conditions and our investment grade targets, we regularly evaluate opportunities with respect to our capital structure.
Our ability to generate cash flows from operations, issue debt, including commercial paper, or enter into other financing arrangements on acceptable terms could be adversely affected if there is a material decline in the demand for our products or in the solvency of our customers or suppliers, deterioration in our key financial ratios or credit ratings or other significantly unfavorable changes in conditions. However, we believe we have sufficient financial flexibility to issue debt, enter into other financing arrangements and attract long-term capital on acceptable terms to support our growth objectives and reduce our post-acquisition debt levels.
Our credit ratings at December 31, 2021 were as follows:
Standard & Poor’s Fitch Moody’s
Ratings
Senior debt BBB BBB Baa2
Short-term debt A2 F2 P2
Outlook Stable Stable Stable
Our senior debt credit ratings were downgraded in 2021 as a result of the debt we issued to fund the Hillrom acquisition.
LIBOR Reform
In 2017, the United Kingdom’s Financial Conduct Authority announced that after 2021 it would no longer compel banks to submit the rates required to calculate the London Interbank Offered Rate (LIBOR) and other interbank offered rates, which have been widely used as reference rates for various securities and financial contracts, including loans, debt and derivatives. This announcement indicated that the continuation of LIBOR on the current basis was not guaranteed after 2021. Regulators in the U.S. and other jurisdictions have been working to replace these rates with alternative reference interest rates that are supported by transactions in liquid and observable markets, such as the Secured Overnight Financing Rate (SOFR). In 2020, it was announced that certain U.S. dollar LIBOR tenors would not cease until 2023. Currently, our $2.5 billion U.S. dollar-denominated revolving credit facility, our €200 million Euro-denominated revolving credit facility and our $4.0 billion Term Loan Credit Agreement reference LIBOR-based rates. The discontinuation of LIBOR will require these arrangements to be modified in order to replace LIBOR with an alternative reference interest rate, which could impact our cost of funds. Our credit facilities and term loan credit agreement include provisions related to the determination of a successor LIBOR rate.
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Contractual Obligations
As of December 31, 2021, we had contractual obligations, excluding accounts payable and accrued expenses and other current liabilities, payable or maturing in the following periods.
(in millions) Total Less thanone year More than one year
Other non-current liabilities2 590 — 590
1.Interest payments on debt and finance lease obligations are calculated for future periods using interest rates in effect at the end of 2021. Certain of these projected interest payments may differ in the future based on foreign currency fluctuations or other factors or events. The projected interest payments only pertain to obligations and agreements outstanding at December 31, 2021. Refer to Note 5 and Note 6, respectively, in Item 8 of this Annual Report on Form 10-K for further discussion regarding our debt instruments outstanding and finance lease obligations at December 31, 2021.
2.The primary components of other non-current liabilities in our consolidated balance sheet as of December 31, 2021 are pension and other postretirement benefits, deferred tax liabilities, long-term tax liabilities, and litigation and environmental reserves. We projected the timing of the related future cash payments based on contractual maturity dates (where applicable) and estimates of the timing of payments (for liabilities with no contractual maturity dates). The actual timing of payments could differ from our estimates.
We contributed $73 million and $74 million to our defined benefit pension plans in 2021 and 2020, respectively. The timing of funding in future periods is uncertain and is dependent on future movements in interest rates, investment returns, changes in laws and regulations, and other variables. Therefore, the table above excludes cash outflows related to our pension plans. The amount included within other non-current liabilities (and excluded from the table above) related to our pension plan liabilities was $858 million as of December 31, 2021. In 2022, we have no obligation to fund our principal plans in the United States and we expect to make contributions of at least $41 million to our foreign pension plans. Additionally, we have excluded long-term tax liabilities, which include liabilities for unrecognized tax positions, and deferred tax liabilities from the table above because we are unable to estimate the timing of the related cash outflows. The amounts of long-term tax liabilities and deferred tax liabilities included within other non-current liabilities (and excluded from the table above) were $80 million and $962 million, respectively, as of December 31, 2021.
3.Includes our significant contractual unconditional purchase obligations. For cancellable agreements, any penalty due upon cancellation is included. These commitments do not exceed our projected requirements and are in the normal course of business. Examples include firm commitments for raw material and component part purchases, utility agreements and service contracts.
Off-Balance Sheet Arrangements
We periodically enter into off-balance sheet arrangements. Certain contingencies arise in the normal course of business and are not recorded in the consolidated balance sheets in accordance with U.S. GAAP (such as contingent joint development and commercialization arrangement payments). Also, upon resolution of uncertainties, we may incur charges in excess of presently established liabilities for certain matters (such as contractual indemnifications). For a discussion of our significant off-balance sheet arrangements, refer to Note 15 in Item 8 of this Annual Report on Form 10-K for information regarding receivable transactions, and Note 2 and Note 7 in Item 8 of this Annual Report on Form 10-K for information regarding joint development and commercialization arrangements, indemnifications and legal contingencies.
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FINANCIAL INSTRUMENT MARKET RISK
We operate on a global basis and are exposed to the risk that our earnings, cash flows and equity could be adversely impacted by fluctuations in foreign exchange and interest rates. Our hedging policy attempts to manage these risks to an acceptable level based on our judgment of the appropriate trade-off between risk, opportunity and costs. Refer to Note 15 and Note 16 in Item 8 of this Annual Report on Form 10-K for further information regarding our financial instruments and hedging strategies.
Currency Risk
We are primarily exposed to foreign exchange risk with respect to revenues generated outside of the United States denominated in the Euro, British Pound, Chinese Renminbi, Korean Won, Australian Dollar, Canadian Dollar, Japanese Yen, Colombian Peso, Brazilian Real, Mexican Peso, Turkish Lira, Indian Rupee and Swedish Krona. We manage our foreign currency exposures on a consolidated basis, which allows us to net exposures and take advantage of any natural offsets. In addition, we use derivative and nonderivative financial instruments to further reduce the net exposure to foreign exchange, however these instruments may be unavailable or inefficient in emerging or volatile markets. Gains and losses on the hedging instruments offset losses and gains on the hedged transactions and reduce the earnings and stockholders’ equity volatility relating to foreign exchange. However, we don't hedge our entire foreign exchange exposure and are still subject to earnings and stockholders' equity volatility relating to foreign exchange risk. Financial market and currency volatility may limit our ability to cost-effectively hedge these exposures.
We use options and forwards to hedge the foreign exchange risk to earnings relating to forecasted transactions and recognized assets and liabilities denominated in foreign currencies. The maximum term over which we have cash flow hedge contracts in place related to foreign exchange risk on forecasted transactions as of December 31, 2021 is 12 months. We also enter into derivative instruments to hedge foreign exchange risk on certain intra-company and third-party receivables and payables and debt denominated in foreign currencies.
As part of our risk-management program, we perform sensitivity analyses to assess potential changes in the fair value of our foreign exchange instruments relating to hypothetical and reasonably possible near-term movements in foreign exchange rates.
A sensitivity analysis of changes in the fair value of foreign exchange contracts outstanding as of December 31, 2021, while not predictive in nature, indicated that if the U.S. Dollar uniformly weakened by 10% against all currencies, the net pre-tax asset balance of $3 million with respect to those contracts would change by $34 million. A similar analysis performed with respect to contracts outstanding as of December 31, 2020 indicated that, on a pre-tax basis, the net liability balance of $8 million would change by $32 million.
The sensitivity analysis model recalculates the fair value of the foreign exchange contracts outstanding as of December 31, 2021 by replacing the actual exchange rates as of December 31, 2021 with exchange rates that are 10% weaker compared to the actual exchange rates for each applicable currency. All other factors are held constant. These sensitivity analyses disregard the possibility that currency exchange rates can move in opposite directions and that gains from one currency may or may not be offset by losses from another currency. The analyses also disregard the offsetting change in value of the underlying hedged transactions and balances.
Our subsidiary in Argentina is reported using highly inflationary accounting effective July 1, 2018. Changes in the value of the Argentine peso applied to our peso-denominated net monetary asset positions are recorded in income at the time of the change. As of December 31, 2021, our net monetary assets denominated in Argentine pesos are not significant.
Interest Rate Risk
We are also exposed to the risk that our earnings and cash flows could be adversely impacted by fluctuations in interest rates. Our policy is to manage interest costs using the mix of fixed- and floating-rate debt that we believe is appropriate at that time. To manage this mix in a cost-efficient manner, we periodically enter into interest rate swaps in which we agree to exchange, at specified intervals, the difference between fixed and floating interest amounts calculated by reference to an agreed-upon notional amount. We also periodically use forward-starting interest rate swaps and treasury rate locks to hedge the risk to earnings associated with fluctuations in interest rates relating to anticipated issuances of term debt. As of December 31, 2021, there were no interest rate derivative contracts outstanding and we had approximately $4.9 billion of outstanding floating rate debt. A 100 basis point change in
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interest rates would impact out pre-tax earnings and cash flows by approximately $49 million over a one-year period.
CHANGES IN ACCOUNTING STANDARDS
Refer to Note 1 in Item 8 of this Annual Report on Form 10-K for information on changes in accounting standards.
RECENT ACCOUNTING PRONOUNCEMENTS
In July 2021, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2021-05, Leases (Topic 842), which requires a lessor to classify a lease with variable lease payments (that do not depend on an index or rate) as an operating lease if (1) the lease would have been classified as a sales-type or direct financing lease, and (2) the lessor would have recognized a selling loss at lease commencement. These changes are intended to avoid recognizing a day-one loss for a lease with variable payments even though the lessor expects the arrangement will be profitable overall. The standard is effective for our financial statements beginning in 2022. The impact of the adoption of this ASU is not expected to have a material effect on our consolidated financial statements.
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. A summary of our significant accounting policies is included in Note 1 in Item 8 of this Annual Report on Form 10-K. Certain of our accounting policies are considered critical, as these policies are the most important to the depiction of our financial statements and require significant, difficult or complex judgments by us, often employing the use of estimates about the effects of matters that are inherently uncertain. Actual results that differ from our estimates could have an unfavorable effect on our results of operations and financial position. The following is a summary of accounting policies that we consider critical to the consolidated financial statements.
Revenue Recognition and Related Provisions and Allowances
Revenues from product sales are recorded at the net sales price (transaction price), which includes estimates of variable consideration primarily related to rebates and wholesaler chargebacks. These reserves are based on estimates of the amounts earned or to be claimed on the related sales. Our estimates take into consideration historical experience, current contractual and statutory requirements, specific known market events and trends, industry data, and forecasted customer buying and payment patterns. Overall, these reserves reflect our best estimates of the amount of consideration to which we are entitled based on the terms of the contract. The amount of variable consideration included in the net sales price is limited to the amount that is probable not to result in a significant reversal in the amount of the cumulative revenue recognized in a future period. Additionally, our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately and determining the allocation of the transaction price may require significant judgment.
Pension and OPEB Plans
We provide pension and other postretirement benefits to certain of our employees. The service component of employee benefit expenses is reported in the same line items in the consolidated income statements as the applicable employee’s compensation expense. All other components of these employee benefit expenses are reported in other expense, net in our consolidated statements of income. The valuation of the funded status and net periodic benefit cost for the plans is calculated using actuarial assumptions. These assumptions are reviewed annually and revised if appropriate. The significant assumptions include the following:
•interest rates used to discount pension and OPEB plan liabilities;
•the long-term rate of return on pension plan assets;
•rates of increases in employee compensation (used in estimating liabilities);
•anticipated future healthcare trend rates (used in estimating the OPEB plan liability); and
•other assumptions involving demographic factors such as retirement, mortality and turnover (used in estimating liabilities).
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Selecting assumptions involves an analysis of both short-term and long-term historical trends and known economic and market conditions at the time of the valuation (also called the measurement date). The use of different assumptions would result in different measures of the funded status and net cost. Actual results in the future could differ from expected results.
Our key assumptions are listed in Note 12 in Item 8 of this Annual Report on Form 10-K. The most critical assumptions relate to the plans covering U.S. and Puerto Rico employees, because these plans are the most significant to our consolidated financial statements.
Discount Rate Assumption
Effective for the December 31, 2021 measurement date, we utilized discount rates of 3.01% and 2.76% to measure our benefit obligations for our most significant U.S. and Puerto Rico pension plans and OPEB plan, respectively. We used a broad population of approximately 200 Aa-rated corporate bonds as of December 31, 2021 to determine the discount rate assumption. All bonds were denominated in U.S. dollars, with a minimum amount outstanding of $50 million. This population of bonds was narrowed from a broader universe of approximately 700 Moody’s Aa rated, non-callable (or callable with make-whole provisions) bonds by eliminating the top 10th percentile and bottom 40th percentile to adjust for any pricing anomalies and to represent the bonds we would most likely select if we were to actually annuitize our pension and OPEB plan liabilities. This portfolio of bonds was used to generate a yield curve and associated spot rate curve to discount the projected benefit payments for the U.S. and Puerto Rico plans. The discount rate is the single level rate that produces the same result as the spot rate curve.
For plans in Canada, Japan, the United Kingdom and other European countries, we use a method essentially the same as that described for the U.S. and Puerto Rico plans. For our other international plans, the discount rate is generally determined by reviewing country- and region-specific government and corporate bond interest rates.
To understand the impact of changes in discount rates on pension and OPEB plan cost, we perform a sensitivity analysis. Holding all other assumptions constant, for each 50 basis point (i.e., one-half of one percent) increase in the discount rate, global pre-tax pension and OPEB plan cost would decrease by approximately $30 million, and for each 50 basis point decrease in the discount rate, global pre-tax pension and OPEB plan cost would increase by approximately $35 million.
Return on Plan Assets Assumption
In measuring the net periodic cost for 2021, we used a long-term expected rate of return of 5.5% for our most significant pension plans covering U.S. and Puerto Rico employees. This assumption will decrease to 5% in 2022. This assumption is not applicable to our OPEB plan because it is not funded.
We establish the long-term asset return assumption based on a review of historical compound average asset returns, both company-specific and relating to the broad market (based on our asset allocation), as well as an analysis of current market and economic information and future expectations. The current asset return assumption is supported by historical market experience for both our actual and targeted asset allocation. In calculating net pension cost, the expected return on assets is applied to a calculated value of plan assets, which recognizes changes in the fair value of plan assets in a systematic manner over five years. The difference between this expected return and the actual return on plan assets is a component of the total net unrecognized gain or loss and is subject to amortization in the future.
To understand the impact of changes in the expected asset return assumption on net cost, we perform a sensitivity analysis. Holding all other assumptions constant, for each 50 basis point increase (decrease) in the asset return assumption, global pre-tax pension plan cost would decrease (increase) by approximately $15 million.
Other Assumptions
For the U.S. and Puerto Rico plans, we used the Pri-2012 combined mortality table with improvements projected using the MP-2019 projection scale adjusted to a long-term improvement of 0.8% as of December 31, 2021. For all other pension plans, we utilized country- and region-specific mortality tables to calculate the plans’ benefit obligations. We periodically analyze and update our assumptions concerning demographic factors such as retirement, mortality and turnover, considering historical experience as well as anticipated future trends.
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The assumptions relating to employee compensation increases and future healthcare costs are based on historical experience, market trends, and anticipated future company actions.
Deferred Tax Asset Valuation Allowances and Reserves for Uncertain Tax Positions
We maintain valuation allowances unless it is more likely than not that all or a portion of the deferred tax asset will be realized. Changes in valuation allowances are included in our tax provision in the period of change. In determining whether a valuation allowance is warranted, we evaluate factors such as prior earnings history, expected future earnings, carryback and carryforward periods, and tax strategies that could potentially enhance the likelihood of realization of a deferred tax asset. The realizability assessments made at a given balance sheet date are subject to change in the future, particularly if earnings of a subsidiary are significantly higher or lower than expected, or if we take operational or tax planning actions that could impact the future taxable earnings of a subsidiary.
In the normal course of business, we are audited by federal, state and foreign tax authorities, and are periodically challenged regarding the amount of taxes due. These challenges relate to the timing and amount of deductions and the allocation of income among various tax jurisdictions. We believe our tax positions comply with applicable tax law and we intend to defend our positions. In evaluating the exposure associated with various tax filing positions, we record reserves for uncertain tax positions in accordance with U.S. GAAP based on the technical support for the positions, our past audit experience with similar situations, and potential interest and penalties related to the matters. Our results of operations and effective tax rate in a given period could be impacted if, upon final resolution with taxing authorities, we prevail in positions for which reserves have been established, or we are required to pay amounts in excess of established reserves.
Realization of the U.S. and foreign operating loss and tax credit carryforwards depends on generating sufficient future earnings. A valuation allowance of $401 million and $454 million was recognized as of December 31, 2021 and 2020, respectively, to reduce the deferred tax assets associated with net operating loss and tax credit carryforwards because we do not believe it is more likely than not that these assets will be fully realized prior to expiration. After evaluating relevant U.S. tax laws, any elections or other opportunities that may be available, and the future expiration of certain U.S. tax provisions that will impact the utilization of our U.S. foreign tax credit carryforwards, management expects to be able to realize some, but not all, of the U.S. foreign tax credit deferred tax assets up to its overall domestic loss (ODL) balance plus other recurring and non-recurring foreign inclusions. Therefore, a valuation allowance of $98 million and $157 million was recognized with respect to the foreign tax credit carryforwards as of December 31, 2021 and 2020, respectively. We will continue to evaluate the need for additional valuation allowances and, as circumstances change, the valuation allowance may change.
Valuation of Intangible Assets, Including IPR&D
As a result of our acquisition of Hillrom in December 2021, our intangible asset balance increased to $7.8 billion as of December 31, 2021 compared to $1.7 billion as of December 31, 2020. We record acquired intangible assets at fair value in business combinations and at cost in asset acquisitions. Valuations are generally completed for intangible assets acquired in business acquisitions using a discounted cash flow analysis (an income approach), incorporating the stage of completion and consideration of market participant assumptions. The most significant estimates and assumptions inherent in a discounted cash flow analysis (an income approach) include the amount and timing of projected future cash flows, the discount rate used to measure the risks inherent in the future cash flows, the assessment of the asset’s life cycle, royalty rates, terminal growth rate, contributory asset charges, and customer attrition rate. Each of these factors and assumptions can significantly affect the value of the intangible asset.
Acquired in-process R&D (IPR&D) is the value assigned to acquired technology or products under development which have not received regulatory approval and have no alternative future use. IPR&D acquired in a business combination is capitalized as an indefinite-lived intangible asset. Development costs incurred after the acquisition are expensed as incurred. Upon receipt of regulatory approval of the related technology or product, the indefinite-lived intangible asset is then accounted for as a finite-lived intangible asset and amortized on a straight-line basis over its estimated useful life. If the R&D project is abandoned, the indefinite-lived intangible asset is charged to expense.
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IPR&D acquired in transactions that are not business combinations is expensed immediately. For such transactions, payments made to third parties on or after regulatory approval are capitalized as intangible assets and amortized over the remaining useful life of the related asset.
Due to the inherent uncertainty associated with R&D projects, there is no assurance that actual results will not differ materially from the underlying assumptions used to prepare discounted cash flow analyses, nor that the R&D project will result in a successful commercial product.
Due to a change in the timing and amount of projected cash flows associated with $140 million of acquired in-process R&D intangible assets from a historical acquisition, we updated the estimated fair values of these assets in 2021. While no impairment has been recorded because the estimated fair values of those assets exceeded their carrying values, the estimated excess of fair value over carrying value of these assets further declined in 2021 and are at risk of future impairment should the estimated timing or amount of projected cash flows further deteriorate.
In 2021, we changed the measurement date of our annual indefinite-lived intangible asset impairment tests from December 31st to November 1st. This change better aligns the timing of the impairment tests with our long-term business planning process. The change was not material to our consolidated financial statements as it did not result in the delay, acceleration or avoidance of an impairment charge.
CERTAIN REGULATORY MATTERS
The U.S. Food and Drug Administration (FDA) commenced an inspection of Claris’ facilities in Ahmedabad, India in July 2017, immediately prior to the closing of the Claris acquisition. FDA completed the inspection and subsequently issued a Warning Letter based on observations identified in the 2017 inspection (Claris Warning Letter).1 Due to challenges with the ongoing COVID-19 pandemic, FDA has not yet re-inspected the facilities and management cannot speculate on when the Claris Warning Letter will be lifted. However, we are continuing to implement corrective and preventive actions to address FDA’s prior observations and other items we identified and management continues to pursue and implement other manufacturing locations, including contract manufacturing organizations, to support the production of new products for distribution in the U.S. As previously disclosed, we have secured alternative locations to produce a majority of the planned new products to be manufactured in Ahmedabad for distribution into the U.S. and are producing new products from those locations.
Refer to Item 1A of this Annual Report on Form 10-K for additional discussion of regulatory matters and how they may impact us.
1 Available online at https://www.fda.gov/ICECI/EnforcementActions/WarningLetters/ucm613538.htm
FORWARD-LOOKING INFORMATION
This annual report includes forward-looking statements. Use of the words “may,” “will,” “would,” “could,” “should,” “believes,” “estimates,” “projects,” “potential,” “expects,” “plans,” “seeks,” “intends,” “evaluates,” “pursues,” “anticipates,” “continues,” “designs,” “impacts,” “affects,” “forecasts,” “target,” “outlook,” “initiative,” “objective,” “designed,” “priorities,” “goal,” or the negative of those words or other similar expressions is intended to identify forward-looking statements that represent our current judgment about possible future events. These forward-looking statements may include statements with respect to accounting estimates and assumptions, impacts of the COVID-19 pandemic, litigation-related matters including outcomes, impacts of the internal investigation related to foreign exchange gains and losses, future regulatory filings and our R&D pipeline, strategic objectives, sales from new product offerings, credit exposure to foreign governments, potential developments with respect to credit ratings, investment of foreign earnings, estimates of liabilities including those related to uncertain tax positions, contingent payments, future pension plan contributions, costs, discount rates and rates of return, our exposure to financial market volatility and foreign currency and interest rate risks, the impact of competition, future sales growth, business development activities (including the acquisitions of Cheetah, Seprafilm, certain outside of the U.S. (OUS) rights to Caelyx and Doxil, full U.S. and specific OUS rights to Transderm Scop, PerClot and Hillrom), business optimization initiatives, cost saving initiatives, future capital and R&D expenditures, future debt issuances, manufacturing expansion, the adequacy of credit facilities, tax provisions and reserves, the effective tax rate and all other statements that do not relate to historical facts.
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These forward-looking statements are based on certain assumptions and analyses made in light of our experience and perception of historical trends, current conditions, and expected future developments as well as other factors that we believe are appropriate in the circumstances. While these statements represent our judgment on what the future may hold, and we believe these judgments are reasonable, these statements are not guarantees of any events or financial results. Whether actual future results and developments will conform to expectations and predictions is subject to a number of risks and uncertainties, including the following factors, many of which are beyond our control:
• failures with respect to our quality, compliance or ethics programs;
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• failure to achieve our short- and long-term financial improvement goals;
• fluctuations in foreign exchange and interest rates;
• actions by tax authorities in connection with ongoing tax audits;
Actual results may differ materially from those projected in the forward-looking statements. We do not undertake to update our forward-looking statements.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
Incorporated by reference to the section entitled “Financial Instrument Market Risk” in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7 of this Annual Report on Form 10-K.
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Item 8. Financial Statements and Supplementary Data.
CONSOLIDATED BALANCE SHEETS
as of December 31 (in millions, except share information) 2021 2020
Current assets:
Cash and cash equivalents $ 2,951 $ 3,730
Prepaid expenses and other current assets 839 758
Property, plant and equipment, net 5,178 4,722
Operating lease right-of-use assets 630 603
Current liabilities:
Short-term debt $ 301 $ —
Current maturities of long-term debt and finance lease obligations 210 406
Accrued expenses and other current liabilities 2,479 1,884
Long-term debt and finance lease obligations 17,149 5,786
Operating lease liabilities 522 501
Other non-current liabilities 2,493 1,673
Commitments and contingencies
Equity:
Additional contributed capital 6,197 6,043
Accumulated other comprehensive (loss) income (3,380) (3,314)
Total Baxter stockholders’ equity 9,077 8,689
Noncontrolling interests 44 37
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF INCOME
years ended December 31 (in millions, except per share data) 2021 2020 2019
Selling, general and administrative expenses 2,867 2,469 2,535
Other operating income, net (6) (19) (141)
Income tax expense (benefit) 182 182 (41)
Net income attributable to noncontrolling interests 11 8 10
Net income attributable to Baxter stockholders $ 1,284 $ 1,102 $ 1,001
Earnings per share
Weighted-average number of shares outstanding
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Other comprehensive (loss) income, net of tax:
Total other comprehensive (loss) income, net of tax (66) 396 274
Less: Comprehensive income attributable to noncontrolling interests 11 8 10
Comprehensive income attributable to Baxter stockholders $ 1,218 $ 1,498 $ 1,275
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
Baxter International Inc. stockholders' equity
Adoption of new accounting standard — — — — — 161 (161) $ — — $ —
Other comprehensive income (loss) — — — — — — 274 274 — 274
Dividends declared on common stock — — — — — (435) — (435) — (435)
Changes in noncontrolling interests — — — — — — — — (2) (2)
Adoption of new accounting standard — — — — — (4) — (4) — (4)
Other comprehensive income (loss) — — — — — — 396 396 — 396
Purchases of treasury stock — — 6 (500) — — — (500) — (500)
Stock issued under employee benefit plans and other — — (4) 213 88 — — 301 — 301
Dividends declared on common stock — — — — — (488) — (488) — (488)
Changes in noncontrolling interests — — — — — — — — (1) (1)
Other comprehensive income (loss) — — — — — — (66) (66) — (66)
Purchases of treasury stock — — 7 (600) — — — (600) — (600)
Dividends declared on common stock — — — — — (547) — (547) — (547)
Changes in noncontrolling interests — — — — — — — — (4) (4)
The accompanying notes are an integral part of these consolidated financial statements.
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CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash flows from operations
Adjustments to reconcile net income to net cash from operating activities:
Pension settlement charges 2 46 755
Net periodic pension benefit and other postretirement costs 99 81 22
Loss on debt extinguishment 5 110 —
Intangible asset impairments — 17 31
Settlement of interest rate derivative contracts — (173) —
Changes in balance sheet items:
Accounts receivable, net (170) (119) (52)
Prepaid expenses and other current assets (41) (37) (31)
Accrued expenses and other current liabilities 108 86 (196)
Cash flows from operations – continuing operations 2,222 1,870 2,110
Cash flows from operations – discontinued operations — (2) (6)
Cash flows from investing activities
Acquisitions, net of cash acquired, and investments (10,502) (494) (418)
Other investing activities, net 45 24 14
Cash flows from financing activities
Cash dividends on common stock (530) (473) (423)
Proceeds from stock issued under employee benefit plans 187 202 356
Debt issuance costs (98) (5) (2)
Other financing activities, net (40) (47) (46)
Cash flows from financing activities 8,245 (345) 498
(1) We did not have restricted cash balances as of December 31, 2019. The following table provides a reconciliation of cash, cash equivalents and restricted cash amounts as shown in the consolidated statement of cash flows to the
amount reported in the consolidated balance sheet as of December 31, 2021 and 2020:
Cash and cash equivalents $ 2,951 $ 3,730
Restricted cash included in prepaid expenses and other current assets 5 6
Cash, cash equivalents and restricted cash $ 2,956 $ 3,736
The accompanying notes are an integral part of these consolidated financial statements.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
Baxter International Inc., through our subsidiaries (collectively, Baxter, we, our or us), provides a broad portfolio of essential healthcare products, including acute and chronic dialysis therapies; sterile intravenous (IV) solutions; infusion systems and devices; parenteral nutrition therapies; inhaled anesthetics; generic injectable pharmaceuticals; surgical hemostat and sealant products, advanced surgical equipment; smart bed systems; patient monitoring and diagnostic technologies; and respiratory health devices. These products are used by hospitals, kidney dialysis centers, nursing homes, rehabilitation centers, doctors’ offices and patients at home under physician supervision. Our global footprint and the critical nature of our products and services play a key role in expanding access to healthcare in emerging and developed countries. We operate in four segments: Americas, EMEA, APAC and Hillrom which are described in Note 17.
Risks and Uncertainties Related to COVID-19
Our global operations expose us to risks associated with public health crises and epidemics/pandemics, such as the novel strain of coronavirus (COVID-19). COVID-19 has had, and we expect will continue to have, an adverse impact on our operations, supply chains and distribution systems and has increased and we expect will continue to increase our expenses, including as a result of impacts associated with preventive and precautionary measures that we, other businesses and governments have taken and continue to take. Initial measures taken in 2020 led to unprecedented restrictions on, disruptions in, and other related impacts on business and personal activities, including a shift in healthcare priorities, which resulted in a significant decline in medical procedures in 2020. The pandemic has created significant volatility in the demand for our products. For further information about our revenues by product category, refer to Note 10. Significant uncertainty remains regarding the duration and overall impact of the COVID-19 pandemic. For example, concerns remain regarding the pace of economic recovery due to virus resurgence across the globe from the Omicron and Delta variants and other virus mutations as well as vaccine distribution and hesitancy. The U.S. and other governments may continue existing measures or implement new restrictions and other requirements in light of the continuing spread of the pandemic (including with respect to mandatory vaccinations for certain of our employees and moratoriums on elective procedures). Due to the uncertainty caused by the pandemic, our operating performance and financial results, particularly in the short term, may be subject to volatility. We have experienced significant challenges, including lengthy delays, shortages and interruptions, posed by the pandemic and other exogenous factors (including significant weather events and disruptions to certain ports of call around the world) to our global supply chain, including the cost and availability of raw materials and component parts (including resins and electromechanical devices) and higher transportation costs, and may experience these and other challenges in future periods. Many of our manufacturing plant and distribution center personnel are currently unvaccinated, and we may also experience employee resistance in complying with current and future government vaccine and testing mandates, which may cause labor shortages significantly impacting manufacturing production and distribution center productivity. We expect that these challenges as well as evolving governmental restrictions and requirements, among other factors, may continue to have an adverse effect on our business.
Use of Estimates
The preparation of financial statements in conformity with U.S. Generally Accepted Accounting Principles (U.S. GAAP) requires us to make estimates and assumptions that affect reported amounts and related disclosures. Actual results could differ from those estimates.
Basis of Presentation
The consolidated financial statements include the accounts of Baxter and our majority-owned subsidiaries that we control, after elimination of intra-company transactions. Certain reclassifications have been made to conform the prior period consolidated financial statements to the current period presentation.
On December 13, 2021, we completed the previously announced acquisition of all outstanding equity interests of Hill-Rom Holdings, Inc. (Hillrom) for a purchase price of $10.5 billion. Including the assumption of Hillrom's
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outstanding debt obligations, the enterprise value of the transaction was approximately $12.8 billion. Beginning December 13, 2021, our financial statements include the assets, liabilities and operating results of Hillrom. Refer to Note 2 for additional information.
On July 29, 2021, we acquired certain assets related to PerClot Polysaccharide Hemostatic System (PerClot), including distribution rights for the U.S. and specified territories outside of the U.S., from CryoLife, Inc. for an upfront purchase price of $25 million and the potential for additional cash consideration of up to $36 million, which had an acquisition-date fair value of $28 million, based upon regulatory and commercial milestones. Beginning July 29, 2021, our financial statements include the assets, liabilities and operating results of PerClot. Refer to Note 2 for additional information.
On March 31, 2021, we acquired the rights to Transderm Scop (TDS) for the U.S. and specified territories outside of the U.S. from subsidiaries of GlaxoSmithKline for an upfront purchase price of $60 million including the cost of acquired inventory and the potential for additional cash consideration of $30 million, which had an acquisition-date fair value of $24 million, based upon regulatory approval of a new contract manufacturer by a specified date. We previously sold this product under a distribution license to the U.S. institutional market. Beginning on March 31, 2021, our financial statements include the assets, liabilities and operating results of TDS. Refer to Note 2 for additional information.
On February 17, 2021, we acquired the rights to Caelyx and Doxil, the branded versions of liposomal doxorubicin, from a subsidiary of Johnson & Johnson for specified territories outside of the U.S for approximately $325 million in cash. Beginning February 17, 2021, our financial statements include the assets, liabilities and operating results of Caelyx and Doxil. Refer to Note 2 for additional information.
On February 14, 2020, we completed the acquisition of the product rights to Seprafilm Adhesion Barrier (Seprafilm) from Sanofi for approximately $342 million in cash. Beginning February 14, 2020, our financial statements include the assets, liabilities and operating results of Seprafilm. Refer to Note 2 for additional information.
On October 25, 2019, we acquired 100 percent of Cheetah Medical, Inc. (Cheetah) for total cash consideration of $188 million, net of cash acquired, with the potential for additional cash consideration, up to $40 million, based on clinical and commercial milestones for which the acquisition date fair value was $18 million. Beginning October 25, 2019, our financial statements include the assets, liabilities and operating results of Cheetah. Refer to Note 2 for additional information.
Revenue Recognition
Revenue is measured as the amount of consideration we expect to receive in exchange for transferring goods or providing services. A performance obligation is a promise in a contract to transfer a distinct good or service to the customer and is the unit of account in the contract. A contract’s transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. Some of our contracts have multiple performance obligations. For contracts with multiple performance obligations, we allocate the contract’s transaction price to each performance obligation using our best estimate of the standalone selling price of each distinct good or service in the contract. Our global payment terms are typically between 30-90 days.
The majority of our performance obligations are satisfied at a point in time. This includes sales of our broad portfolio of essential healthcare products across our geographic segments, including acute and chronic dialysis therapies; sterile IV solutions; infusion systems and devices; parenteral nutrition therapies; inhaled anesthetics; generic injectable pharmaceuticals; and surgical hemostat and sealant products. For a majority of these sales, our performance obligation is satisfied upon delivery to the customer. Shipping and handling activities are considered to be fulfillment activities and are not considered to be a separate performance obligation.
To a lesser extent, in all of our segments, we enter into other types of contracts, including contract manufacturing arrangements, equipment leases, and certain subscription software and licensing arrangements. We recognize revenue for these arrangements over time or at a point in time depending on our evaluation of when the customer obtains control of the promised goods or services. Revenue is recognized over time when we are creating or enhancing an asset that the customer controls as the asset is created or enhanced or when our performance does not create an asset with an alternative use and we have an enforceable right to payment for performance completed.
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As of December 31, 2021, we had $7.8 billion of transaction price allocated to remaining performance obligations related to executed contracts with an original duration of one year or more, which are primarily included in the Americas segment. Some contracts in the United States included in this amount contain index-dependent price increases, which are not known at this time. We expect to recognize approximately 35% of this amount as revenue in 2022, 30% in 2023, 15% in each of 2024 and 2025, and 5% in 2026.
Significant Judgments
Revenues from product sales are recorded at the net sales price (transaction price), which includes estimates of variable consideration primarily related to rebates and wholesaler chargebacks. These reserves are based on estimates of the amounts earned or to be claimed on the related sales and are included in accrued expenses and other current liabilities and accounts receivable, net on the consolidated balance sheets. Management's estimates take into consideration historical experience, current contractual and statutory requirements, specific known market events and trends, industry data, and forecasted customer buying and payment patterns. Overall, these reserves reflect our best estimates of the amount of consideration to which we are entitled based on the terms of the contract using the expected value method. The amount of variable consideration included in the net sales price is limited to the amount that is probable not to result in a significant reversal in the amount of the cumulative revenue recognized in a future period. Revenue recognized in the years ended December 31, 2021, 2020 and 2019 related to performance obligations satisfied in prior periods was not material. Additionally, our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately and determining the allocation of the transaction price may require significant judgment.
Practical Expedients
We apply a practical expedient to expense as incurred costs to obtain a contract with a customer when the amortization period would have been one year or less. We do not disclose the value of the transaction price that is allocated to unsatisfied performance obligations for contracts with an original expected length of less than one year. We have elected to use the practical expedient to not adjust the promised amount of consideration for the effects of a significant financing component if it is expected, at contract inception, that the period between when we transfer a promised good or service to a customer and when the customer pays for that good or service will be one year or less. Additionally, all taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction and collected from a customer are excluded from revenue.
Accounts Receivable and Allowance for Doubtful Accounts
In the normal course of business, we provide credit to our customers, perform credit evaluations of these customers and maintain reserves for potential credit losses. In determining the amount of the allowance for doubtful accounts, we consider, among other items, historical credit losses, the past-due status of receivables, payment histories, other customer-specific information, current economic conditions and reasonable and supportable future forecasts. Receivables are written off when we determine they are uncollectible.
The following table summarizes the allowance for doubtful accounts.
Balance at beginning of period $ 125 $ 112
Acquisition 13 —
Adoption of new accounting standard — 4
Charged to costs and expenses (2) 11
Write-offs (5) (4)
Currency translation adjustments (9) 2
Balance at end of period $ 122 $ 125
Shipping and Handling Costs
Shipping costs, which are costs incurred to physically move product from our premises to the customer’s premises, are classified as selling, general and administrative (SG&A) expenses. Handling costs, which are costs incurred to
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store, move and prepare products for shipment, are classified as cost of sales. Approximately $381 million in 2021, $325 million in 2020 and $324 million in 2019 of shipping costs were classified in SG&A expenses.
Cash, Cash Equivalents and Restricted Cash
Cash and cash equivalents include cash, certificates of deposit and money market and other short-term funds with original maturities of three months or less. Restricted cash represents cash balances restricted as to withdrawal or use and are included in prepaid expenses and other current assets on the consolidated balance sheets.
Inventories
Inventories are stated at the lower of cost or net realizable value determined by the first-in, first-out method. We review inventories on hand at least quarterly and record provisions for estimated excess, slow-moving and obsolete inventory, as well as inventory with a carrying value in excess of net realizable value.
Property, Plant and Equipment, Net
Property, plant and equipment are stated at cost. Depreciation expense is calculated using the straight-line method over the estimated useful lives of the related assets, which range from 20 to 50 years for buildings and improvements and from 3 to 15 years for machinery and equipment. Leasehold improvements are amortized over the life of the related facility lease (including any renewal periods, if appropriate) or the asset, whichever is shorter. We capitalize certain computer software and software development costs incurred in connection with developing or obtaining software for internal use. Capitalized software costs are included within machinery and equipment and are amortized on a straight-line basis over the estimated useful lives of the software, which generally range from three to five years.
Research and Development
Research and development (R&D) costs, including R&D acquired in transactions that are not business combinations, are expensed as incurred. Pre-regulatory approval contingent milestone obligations to counterparties in collaborative arrangements, which include acquired R&D, are expensed when the milestone is probable to be achieved. Contingent milestone payments made to such counterparties on or after regulatory approval are capitalized and amortized over the remaining useful life of the related product. Amounts capitalized for such payments are included in other intangible assets, net.
Acquired in-process R&D (IPR&D) is the value assigned to technology or products under development acquired in a business combination which have not received regulatory approval and have no alternative future use. Acquired IPR&D is capitalized as an indefinite-lived intangible asset. Development costs incurred after the acquisition are expensed as incurred. Upon receipt of regulatory approval of the related technology or product, the indefinite-lived intangible asset is accounted for as a finite-lived intangible asset and amortized on a straight-line basis over the estimated economic life of the related technology or product, subject to annual impairment reviews as discussed below. If the R&D project is abandoned, the indefinite-lived asset is charged to expense.
Collaborative Arrangements
We enter into collaborative arrangements in the normal course of business. These collaborative arrangements take a number of forms and structures and are designed to enhance and expedite long-term sales and profitability growth. These arrangements may provide for us to obtain commercialization rights to a product under development, and require us to make upfront payments, contingent milestone payments, profit-sharing, and/or royalty payments. We may be responsible for ongoing costs associated with the arrangements, including R&D cost reimbursements to the counterparty. See the R&D section of this note regarding the accounting treatment of upfront and contingent milestone payments. Any royalty and profit-sharing payments during the commercialization phase are expensed as cost of sales when they become due and payable.
Restructuring Charges
We record liabilities for costs associated with exit or disposal activities in the period in which the liability is incurred. Employee termination costs are primarily recorded when actions are probable and estimable. Costs for one-time
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termination benefits in which the employee is required to render service until termination in order to receive the benefits are recognized ratably over the future service period. Refer to the discussion below regarding the accounting for asset impairment charges.
Goodwill, Intangible Assets, and Other Long-Lived Assets
Goodwill is the excess of the purchase price over the fair value of acquired assets and liabilities in a business combination. Goodwill is not amortized but is subject to an impairment review annually and whenever indicators of impairment exist. We have the option to assess goodwill for impairment by initially performing a qualitative assessment to determine whether it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount. If we determine that it is not more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, then the quantitative goodwill impairment test is not required to be performed. If we determine that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, or if we do not elect the option to perform an initial qualitative assessment, we perform a quantitative goodwill impairment test. In the quantitative impairment test, we calculate the estimated fair value of the reporting unit. If the carrying amount of the reporting unit exceeds the estimated fair value, an impairment charge is recorded for the amount that its carrying amount, including goodwill, exceeds its fair value, limited to the total amount of goodwill allocated to that reporting unit. In 2021, we changed the measurement date of our annual goodwill impairment test from December 31st to November 1st. This change better aligns the timing of the goodwill impairment test with our long-term business planning process. The change was not material to our consolidated financial statements as it did not result in the delay, acceleration or avoidance of an impairment charge.
Indefinite-lived intangible assets, such as IPR&D acquired in business combinations and certain trademarks with indefinite lives, are subject to an impairment review annually and whenever indicators of impairment exist. We have the option to assess indefinite-lived intangible assets for impairment by first performing qualitative assessments to determine whether it is more-likely-than-not that the fair values of the indefinite-lived intangible assets are less than the carrying amounts. If we determine that it is more-likely-than-not that an indefinite-lived intangible asset is impaired, or if we elect not to perform an initial qualitative assessment, we then perform the quantitative impairment test by comparing the fair value of the indefinite-lived intangible asset with its carrying amount. If the carrying amount exceeds the fair value of the indefinite-lived intangible asset, we write the carrying amount down to the fair value. In 2021, we changed the measurement date of our annual indefinite-lived intangible asset impairment tests from December 31st to November 1st. This change better aligns the timing of the impairment tests with our long-term business planning process. The change was not material to our consolidated financial statements as it did not result in the delay, acceleration or avoidance of an impairment charge.
We review the carrying amounts of long-lived assets, other than goodwill and intangible assets not subject to amortization, for potential impairment when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. In evaluating recoverability, we group assets and liabilities at the lowest level such that the identifiable cash flows relating to the group are largely independent of the cash flows of other assets and liabilities. We then compare the carrying amounts of the assets or asset groups with the related estimated undiscounted future cash flows. In the event impairment exists, an impairment charge is recorded as the amount by which the carrying amount of the asset or asset group exceeds the fair value.
Investments in Equity Securities
Our investments in marketable equity securities are classified as other non-current assets and are measured at fair value with gains and losses recognized in other expense, net. We have elected to apply the measurement alternative to equity securities without readily determinable fair values. As such, our non-marketable equity securities are measured at cost, less any impairment, and are adjusted for changes in fair value resulting from observable transactions for identical or similar investments of the same issuer. Gains and losses on non-marketable equity securities are also recognized in other expense, net. Noncontrolling investments in common stock or in-substance common stock are accounted for under the equity method if we have the ability to exercise significant influence over the operating and financial policies of the investee.
Income Taxes
Deferred taxes are recognized for the future tax effects of temporary differences between financial and income tax reporting based on enacted tax laws and rates. We maintain valuation allowances unless it is more-likely-than-not that the deferred tax asset will be realized. With respect to uncertain tax positions, we determine whether the position is more-likely-than-not to be sustained upon examination based on the technical merits of the position. Any
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tax position that meets the more-likely-than-not recognition threshold is measured and recognized in the consolidated financial statements at the largest amount of benefit that is greater than 50% likely of being realized upon ultimate settlement. The liability relating to uncertain tax positions is classified as current in the consolidated balance sheets to the extent that we anticipate making a payment within one year. Interest and penalties associated with income taxes are classified in the income tax expense line in the consolidated statements of income.
Foreign Currency Translation
Currency translation adjustments (CTA) related to foreign operations are included in other comprehensive income (OCI). For foreign operations in highly inflationary economies, translation gains and losses are included in other expense, net, and were not material in 2021, 2020 and 2019.
Derivatives and Hedging Activities
All derivative instruments are recognized as either assets or liabilities at fair value in the consolidated balance sheets and are generally classified as short-term or long-term based on the scheduled maturity of the instrument. We designate certain of our derivatives and foreign-currency denominated debt as hedging instruments in cash flow, fair value or net investment hedges.
For each derivative instrument that is designated and effective as a cash flow hedge, the gain or loss on the derivative is recorded in accumulated other comprehensive income (AOCI) and then recognized in earnings consistent with the underlying hedged item. Option premiums or net premiums paid are initially recorded as assets and reclassified to OCI over the life of the option, and then recognized in earnings consistent with the underlying hedged item. Cash flow hedges are classified in cost of sales and interest expense, net, and are primarily related to forecasted intra-company sales denominated in foreign currencies and forecasted interest payments on anticipated issuances of debt, respectively.
For each derivative instrument that is designated and effective as a fair value hedge, the gain or loss on the derivative is recognized immediately to earnings, and offsets changes in fair value attributable to a particular risk, such as changes in interest rates, of the hedged item, which are also recognized in earnings. Changes in the fair value of hedge instruments designated as fair value hedges are classified in interest expense, net, as they hedge the interest rate risk associated with certain of our fixed-rate debt.
We have designated our Euro-denominated senior notes as hedges of our net investment in our European operations and, as a result, mark to spot rate adjustments on the outstanding debt balances are recorded as a component of AOCI.
For derivative instruments that are not designated as hedges, the change in fair value is recorded directly to other expense, net.
If it is determined that a derivative or nonderivative hedging instrument is no longer highly effective as a hedge, we discontinue hedge accounting prospectively. Gains or losses relating to terminations of effective cash flow hedges generally continue to be deferred and are recognized consistent with the loss or income recognition of the underlying hedged items. However, if it is probable that the hedged forecasted transactions will not occur, any gains or losses would be immediately reclassified from AOCI to earnings. If we terminate a fair value hedge, an amount equal to the cumulative fair value adjustment to the hedged item at the date of termination is amortized to earnings over the remaining term of the hedged item. If we remove a net investment hedge designation, any gains or losses recognized in AOCI are not reclassified to earnings until we sell, liquidate, or deconsolidate the foreign investments that were being hedged.
Cash flows related to the settlement of derivative instruments designated as net investment hedges of foreign operations are classified in the consolidated statements of cash flows within investing activities. Cash flows for all other derivatives, including those that are not designated as a hedge, are classified in the same line item as the cash flows of the related hedged item, which is generally within operating activities.
Refer to Note 15 for further information regarding our derivative and hedging activities.
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New Accounting Standards
Recently issued accounting standards not yet adopted
In July 2021, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2021-05, Leases (Topic 842), which requires a lessor to classify a lease with variable lease payments (that do not depend on an index or rate) as an operating lease if (1) the lease would have been classified as a sales-type or direct financing lease, and (2) the lessor would have recognized a selling loss at lease commencement. These changes are intended to avoid recognizing a day-one loss for a lease with variable payments even though the lessor expects the arrangement will be profitable overall. The standard is effective for our financial statements beginning in 2022. The impact of the adoption of this ASU is not expected to have a material effect on our consolidated financial statements.
Recently adopted accounting pronouncements
In the fourth quarter of 2021, we adopted ASU 2021-08, Business Combinations - Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. This ASU requires an entity to recognize and measure contract assets and contract liabilities acquired in a business combination in accordance with Topic 606 (Revenue from Contracts with Customers). This ASU is expected to reduce diversity in practice and increase comparability for both the recognition and measurement of acquired revenue contracts with customers at the date of and after a business combination. In accordance with this ASU we recognized contract liabilities of $142 million as part of the Hillrom acquisition in December 2021. We did not acquire contract assets or liabilities in connection with other acquisitions completed in 2021.
As of January 1, 2020, we adopted ASU No. 2016-13, Financial Instruments - Credit Losses, which requires the measurement of expected lifetime credit losses, rather than incurred losses, for financial instruments held at the reporting date based on historical experience, current conditions and reasonable forecasts. The main objective of this ASU is to provide financial statement users with more decision-useful information about the expected credit losses on financial instruments and other commitments to extend credit held by a reporting entity at each reporting date. We adopted this ASU using the modified retrospective approach. The impact of the adoption of this ASU was an increase to our allowance for doubtful accounts and a decrease to retained earnings of $4 million.
As of January 1, 2020, we adopted ASU No. 2018-15, Intangibles-Goodwill and Other-Internal-Use Software, which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. Our policies for capitalizing implementation costs incurred in a hosting arrangement were not impacted by this ASU. However, we have historically classified those capitalized costs within property, plant and equipment, net on our consolidated balance sheets and as capital expenditures on our consolidated statements of cash flows. Under the new ASU, those capitalized costs are presented as other non-current assets on our consolidated balance sheets and within operating cash flows on our consolidated statements of cash flows. We adopted this ASU on a prospective basis and capitalized $45 million and $44 million of implementation costs related to hosting arrangements that are service contracts during the years ended December 31, 2021 and 2020, respectively.
As of January 1, 2020, we adopted ASU No. 2017-04, Intangibles – Goodwill and Other, Simplifying the Test for Goodwill Impairment. This standard eliminates Step 2 of the goodwill impairment test and requires a goodwill impairment to be measured as the amount by which a reporting unit’s carrying amount exceeds its fair value, not to exceed the carrying amount of its goodwill. The adoption of this standard did not impact our consolidated financial statements.
As of January 1, 2020, we adopted ASU No. 2018-14, Compensation – Retirement Benefits – Defined Benefit Plans – General (Topic 715-20): Disclosure Framework – Changes to the Disclosure Requirements for Defined Benefit Plans. This ASU amends ASC 715 to remove certain disclosures, clarify certain existing disclosures and add additional disclosures. The adoption of this standard did not have a material impact on our consolidated financial statements.
As of January 1, 2019, we adopted ASU No. 2016-02, Leases (Topic 842). Under this guidance, lessees are required to recognize a right-of-use asset and a lease liability on the balance sheet for all operating leases, other than those that meet the definition of a short-term lease. We adopted Topic 842 using the modified retrospective method. We elected the following practical expedients when assessing the transition impact: i) not to reassess whether any expired or existing contracts as of the adoption date are or contain leases; ii) not to reassess the lease
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classification for any expired or existing leases as of the adoption date; and iii) not to reassess initial direct costs for any existing leases as of the adoption date. The impact to the consolidated statements of income was not material and there was no net impact to the consolidated statements of cash flows.
As of January 1, 2019, we adopted ASU No. 2018-02, Reclassification of Certain Tax Effects from AOCI. This guidance provides for a reclassification of certain tax effects from AOCI to retained earnings. The impact of the adoption of this standard was a $161 million increase to retained earnings.
NOTE 2
ACQUISITIONS AND OTHER ARRANGEMENTS
Results of operations of acquired companies are included in our results of operations as of the respective acquisition dates. The purchase price of each acquisition is allocated to the net assets acquired based on estimates of their fair values (or other measurement attribute required under U.S. GAAP) at the date of the acquisition. Any purchase price in excess of these net assets is recorded as goodwill. The allocation of purchase price in certain cases may be subject to revision based on the final determination of fair values during the measurement period, which may be up to one year from the acquisition date.
Contingent consideration related to business combinations is recognized at its estimated fair value on the acquisition date. Subsequent changes to the fair value of those contingent consideration arrangements are recognized in earnings. Contingent consideration related to acquisitions may consist of development, regulatory and commercial milestone payments, and sales or earnings-based payments, and are valued using discounted cash flow techniques. The fair value of development, regulatory and commercial milestone payments reflects management’s expectations of the probability of payment, and increases or decreases as the probability of payment or expectation of timing or amount of payments changes. The fair value of sales-based payments is based upon probability-weighted future revenue estimates and increases or decreases as revenue estimates or expectation of timing or amount of payments changes.
Hillrom
On December 13, 2021, we completed the previously announced acquisition of all outstanding equity interests of Hillrom for a purchase price of $10.5 billion. Including the assumption of Hillrom's outstanding debt obligations, the enterprise value of the transaction was approximately $12.8 billion. Under the terms of the transaction agreement, Hillrom shareholders received $156.00 in cash per each outstanding Hillrom common share.
Prior to our acquisition of Hillrom, Hillrom was a global medical technology leader whose products and services help enable earlier diagnosis and treatment, optimize surgical efficiency, and accelerate patient recovery while simplifying clinical communication and shifting care closer to home. Hillrom made those outcomes possible through digital and connected care solutions and collaboration tools, including smart bed systems, patient monitoring and diagnostic technologies, respiratory health devices, advanced equipment for the surgical space and more, delivering actionable, real-time insights at the point of care.
The following table summarizes the fair value of the total consideration paid:
(in millions)
Cash consideration paid to Hillrom shareholders(a) $ 10,474
Fair value of equity awards issued to Hillrom equity award holders(b) 2
Total Consideration $ 10,476
(a) Represents cash consideration transferred of $156.00 per outstanding Hillrom common share to existing shareholders and holders of equity awards that vested at closing pursuant to their original terms.
(b) Represents the pre-acquisition service portion of the fair value of 668 thousand replacement restricted stock units issued to Hillrom equity award holders at closing.
The valuation of assets acquired and liabilities assumed has not yet been finalized as of December 31, 2021. As a result, we recorded preliminary estimates for the fair value of assets acquired and liabilities assumed as of the acquisition date. Finalization of the valuation during the measurement period could result in a change in the
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amounts recorded for the acquisition date fair value of intangible assets, goodwill and income taxes among other items. The completion of the valuation will occur no later than one year from the acquisition date. The following table summarizes the preliminary fair values of the assets acquired and liabilities assumed as of the acquisition date:
(in millions)
Assets acquired and liabilities assumed
Cash and cash equivalents $ 399
Accounts receivable 591
Prepaid expenses and other current assets 49
Property, plant and equipment 503
Other intangible assets 6,022
Operating lease right-of-use assets 74
Other non-current assets 128
Short-term debt (250)
Accounts payable (140)
Accrued expenses and other current liabilities (552)
Long-term debt and finance lease obligations (2,118)
Operating lease liabilities (57)
Other non-current liabilities (1,518)
Total assets acquired and liabilities assumed $ 10,476
We allocated $804 million of the total consideration to developed technology with a weighted-average useful life of 5 years, $1.9 billion to trade names with an indefinite useful life, $62 million to trade names with a weighted-average useful life of 7 years, $3.2 billion to customer relationships with a weighted-average useful life of 15 years and $30 million to IPR&D that is considered an indefinite lived intangible asset. The fair values of the intangible assets were determined using the income approach. We used a discount rate of 8.5% to value the developed technology, trade names and customer relationships and 9.0% to value the IPR&D. We consider the fair value of the intangible assets to be Level 3 measurements due to the significant estimates and assumptions used by management in establishing the estimated fair value. We also recognized $1.3 billion of deferred income tax liabilities in connection with the acquisition, which are included in other non-current liabilities in the accompanying consolidated balance sheet as of December 31, 2021.
The goodwill, which is not deductible for tax purposes, includes the value of an assembled workforce as well as the overall strategic benefits provided to our product portfolio and is included in the Hillrom segment.
The results of operations of the acquired business have been included in our consolidated statement of income since the date the business was acquired. The Hillrom acquisition contributed $212 million of net sales and a $96 million of pretax loss, including integration costs and interest expense on acquisition financing, for the year ended December 31, 2021.
Costs directly resulting from the Hillrom acquisition, included acquisition and integration costs of $139 million and the incremental cost of sales relating to inventory fair value step-ups of $42 million in 2021.
The following table presents the unaudited pro forma combined results of Baxter and Hillrom for the years ended December 31, 2021 and 2020 as if the acquisition of Hillrom had occurred on January 1, 2020:
Net income attributable to Baxter stockholders 962 635
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The acquisition has been accounted for in the unaudited pro forma combined financial information using the acquisition method of accounting with Baxter as the acquirer. In order to reflect the occurrence of the acquisition as if it occurred on January 1, 2020 as required, the unaudited pro forma combined financial information includes adjustments to reflect incremental depreciation and amortization expense based on the current preliminary fair values of the identifiable tangible and intangible assets acquired, additional interest expense associated with the issuance of debt to finance the acquisition, nonrecurring costs directly attributable to the acquisition and the income tax effects of the pro forma adjustments. Those nonrecurring costs, which consist of $201 million of costs from inventory fair value step-ups and $314 million of acquisition-related costs for both Baxter and Hillrom, are reflected in the unaudited pro forma combined financial information for the year ended December 31, 2020. The unaudited pro forma combined financial information is not necessarily indicative of what the consolidated results of operations would have been had the acquisition been completed on January 1, 2020. In addition, the unaudited pro forma combined financial information is not a projection of future results of operations of the combined company nor does it reflect the expected realization of any potential synergies or cost savings associated with the acquisition.
PerClot
On July 29, 2021, we acquired certain assets related to PerClot, including distribution rights for the U.S. and specified territories outside of the U.S., from CryoLife, Inc. for an upfront purchase price of $25 million and the potential for additional cash consideration of up to $36 million, which had an acquisition-date fair value of $28 million, based upon regulatory and commercial milestones. PerClot is an absorbable powder hemostat indicated for use in surgical procedures, including cardiac, vascular, orthopedic, spinal, neurological, gynecological, ENT and trauma surgery as an adjunct hemostat when control of bleeding from capillary, venous, or arteriolar vessels by pressure, ligature, and other conventional means is either ineffective or impractical. PerClot is approved for distribution in the European Union and other markets and was submitted for Pre-Market Approval (PMA) for distribution in the U.S. in the fourth quarter of 2021. We concluded that the acquired assets met the definition of a business and accounted for the transaction as a business combination using the acquisition method of accounting. The fair values of the potential contingent consideration payments were estimated by applying probability-weighted expected payment models and are Level 3 fair value measurements due to the significant estimates and assumptions used by management in establishing the estimated fair values.
The following table summarizes the fair value of the consideration transferred:
(in millions)
Contingent Consideration 28
Total Consideration $ 53
The following table summarizes the fair value of the assets acquired as of the acquisition date:
(in millions)
Assets acquired
Goodwill $ 4
Other intangible assets 49
Total assets acquired $ 53
The valuation of the assets acquired are preliminary and measurement period adjustments may be recorded in the future as we finalize our fair value estimates. The results of operations of the acquired business have been included in our consolidated statement of income since the date the business was acquired and were not material for the year ended December 31, 2021.
We allocated $39 million of the total consideration to an in-process research and development (IPR&D) asset with an indefinite useful life, $9 million to the approved PerClot developed product rights with an estimated useful life of 10 years and $1 million to customer relationships with an estimated useful life of 10 years. The fair values of the intangible assets were determined using the income approach. The discount rates used to measure the intangible assets were 18.7% for IPR&D, 16.0% for developed product rights and 15.0% for customer relationships. We consider the fair values of the intangible assets to be Level 3 measurements due to the significant estimates and assumptions used by management in establishing the estimated fair values.
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The goodwill, which is deductible for tax purposes, includes the value of overall strategic benefits provided to our surgical portfolio of hemostats and sealants and is included in the Americas and EMEA segments.
Transderm Scop
On March 31, 2021, we acquired the rights to TDS for the U.S. and specified territories outside of the U.S. from subsidiaries of GlaxoSmithKline for an upfront purchase price of $60 million including the cost of acquired inventory and the potential for additional cash consideration of $30 million, which had an acquisition-date fair value of $24 million, based upon regulatory approval of a new contract manufacturer by a specified date. We previously sold this product under a distribution license to the U.S. institutional market. TDS is indicated for post-operative nausea and vomiting in the U.S. and motion sickness in European markets. We concluded that the acquired assets met the definition of a business and accounted for the transaction as a business combination using the acquisition method of accounting. The fair value of the potential contingent consideration payment was estimated by applying a probability-weighted expected payment model and is a Level 3 fair value measurement due to the significant estimates and assumptions used by management in establishing the estimated fair value.
The following table summarizes the fair value of the consideration transferred:
(in millions)
Contingent Consideration 24
Total Consideration $ 84
The following table summarizes the fair value of the assets acquired as of the acquisition date:
(in millions)
Assets acquired
Inventory $ 16
Goodwill 1
Other intangible assets 67
Total assets acquired $ 84
The results of operations of the acquired business have been included in our consolidated statement of income since the date the business was acquired and were not material for the year ended December 31, 2021.
We allocated $64 million of the total consideration to the TDS developed product rights with an estimated useful life of 9 years and $3 million to customer relationships with an estimated useful life of 7 years. The fair values of the intangible assets were determined using the income approach. The discount rates used to measure the intangible assets were 22.5% for developed product rights and 15.5% for customer relationships. We consider the fair values of the intangible assets to be Level 3 measurements due to the significant estimates and assumptions used by management in establishing the estimated fair values.
The goodwill, which is deductible for tax purposes, includes the value of overall strategic benefits provided to our pharmaceutical portfolio and is included in the Americas segment.
Seprafilm Adhesion Barrier
On February 14, 2020, we completed the acquisition of the product rights to Seprafilm Adhesion Barrier (Seprafilm) from Sanofi for approximately $342 million in cash. Seprafilm is indicated for use in patients undergoing abdominal or pelvic laparotomy as an adjunct intended to reduce the incidence, extent and severity of postoperative adhesions between the abdominal wall and the underlying viscera such as omentum, small bowel, bladder, and stomach, and between the uterus and surrounding structures such as tubes and ovaries, large bowel, and bladder. We concluded that the acquired assets met the definition of a business and accounted for the transaction as a business combination using the acquisition method of accounting.
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The following table summarizes the fair values of the assets acquired as of the acquisition date:
(in millions)
Assets acquired
Inventories $ 18
Goodwill 28
Other intangible assets 296
Total assets acquired $ 342
The results of operations of the acquired business have been included in our consolidated statement of income since the date the business was acquired. The acquisition contributed $94 million of net sales and $18 million of pretax income for the year ended December 31, 2020. Acquisition and integration costs, primarily incremental cost of sales relating to inventory fair value step-ups, associated with the acquisition were $15 million for the year ended December 31, 2020.
We allocated $286 million and $10 million of the total consideration to the Seprafilm developed product rights and customer relationships with useful lives of 10 and 7 years, respectively. The fair values of the intangible assets were determined using the income approach. The discount rates used to measure the developed product rights and customer relationship intangible assets were 14.8% and 11.0%, respectively. We consider the fair values of the intangible assets to be Level 3 measurements due to the significant estimates and assumptions we used in establishing the estimated fair values.
The goodwill, which is deductible for tax purposes, includes the value of the overall strategic benefits provided to our product portfolio of hemostats and sealants and is included in the Americas and APAC segments.
Cheetah Medical, Inc.
On October 25, 2019, we acquired 100 percent of Cheetah Medical, Inc. (Cheetah), a leading provider of hemodynamic monitoring technologies, for total upfront cash consideration of $195 million, net of cash acquired, with the potential for additional cash consideration, up to $40 million, based on clinical and commercial milestones for which the acquisition date fair value was $18 million. In 2020, we received $7 million from the sellers as a result of an acquisition price adjustment in accordance with the acquisition agreement. The fair value of the potential contingent consideration payments was estimated by applying a probability-weighted expected payment model for the clinical milestone and a Monte Carlo simulation model for the commercial milestone, which were then discounted to present value. The fair value measurements were based on Level 3 inputs.
The following table summarizes the fair value of consideration transferred:
(in millions)
Cash consideration transferred $ 190
Contingent consideration 18
Total consideration $ 208
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The following table summarizes the fair values of the assets acquired and liabilities assumed as of the acquisition date:
(in millions)
Assets acquired and liabilities assumed
Cash $ 2
Accounts receivable, net 3
Inventories 1
Prepaid expenses and other current assets 1
Property, plant and equipment 1
Goodwill 84
Other intangible assets 131
Operating lease right-of-use assets 1
Accounts payable and accrued liabilities (4)
Other non-current liabilities (12)
Total assets acquired and liabilities assumed $ 208
The results of operations of the acquired business have been included in our consolidated statement of income since the date the business was acquired and were not significant. Acquisition and integration costs associated with the acquisition were $5 million and $3 million in 2020 and 2019, respectively.
We allocated $123 million of the total consideration to the developed product rights with a weighted-average useful life of 15 years and $8 million to customer relationships with a useful life of 13 years. The fair values of the intangible assets were determined using the income approach. The discount rates used to measure the intangible assets were 11.0% for developed product rights and 10.0% for customer relationships. We consider the fair value of the intangible assets to be Level 3 measurements due to the significant estimates and assumptions used by management in establishing the estimated fair values.
The goodwill, which is not deductible for tax purposes, includes the value of potential future technologies as well as the overall strategic benefits provided to our product portfolio and is included primarily in the Americas segment.
Other Business Combinations