Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Refer to our Current Report on Form 8-K filed with the SEC on April 29, 2021 (2020 Annual Report), which revised and superseded the Management's Discussion and Analysis of Financial Condition and Results of Operations section of the Annual Report on Form 10-K for the year ended December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, for management’s discussion and analysis of our financial condition and results of operations. The following is management’s discussion and analysis of our financial condition and results of operations for the three and nine months ended September 30, 2021 and 2020.

PROPOSED ACQUISITION OF HILLROM

On September 2, 2021, we announced that we have entered into a definitive agreement to acquire all of the outstanding equity interests of Hill-Rom Holdings, Inc. (Hillrom) for total cash consideration of approximately $10.5 billion. Including the assumption of Hillrom's outstanding debt obligations, the enterprise value of the transaction will be approximately $12.4 billion. Hillrom brings a highly complementary product portfolio and innovation pipeline that should enable us to provide a broader array of medical products and services to patients and clinicians across the care continuum and around the world, facilitating the delivery of healthcare that is patient- and customer-centered and focused on improving clinical outcomes. The combination is also expected to accelerate our expansion into digital and connected care solutions that are increasingly enabling patients with access to hospital-level care at home or in other care settings. Refer to Note 2 and Note 5 to Item 1 of this Quarterly Report on Form 10-Q for additional information on the proposed acquisition and related financing arrangements.

RESULTS OF OPERATIONS

Net income attributable to Baxter stockholders for the three and nine months ended September 30, 2021 totaled $450 million, or $0.89 per diluted share, and $1,046 million, or $2.06 per diluted share, compared to $356 million, or $0.69 per diluted share, and $934 million, or $1.81 per diluted share, for the three and nine months ended September 30, 2020. Net income for the three and nine months ended September 30, 2021 included special items which decreased net income by $66 million and $265 million, respectively, or $0.13 and $0.52 per diluted share, respectively, as further discussed below. Net income for the three and nine months ended September 30, 2020 included special items which decreased net income by $75 million and $251 million, respectively, or $0.14 and $0.49 per diluted share, respectively, as further discussed below.

Special Items

The following table provides a summary of our special items and the related impact by line item on our results for the three and nine months ended September 30, 2021 and 2020.

			Three months ended September 30,									Nine months ended September 30,
(in millions)			2021			2020						2021			2020
Gross Margin
Intangible asset amortization expense			$	(68)		$	(57)					$	(199)		$	(165)
Intangible asset impairment1			—			—						—			(17)
Business optimization items2			(20)			(6)						(51)			(24)
Acquisition and integration expenses3			(1)			—						(1)			(11)
European medical devices regulation4			(11)			(8)						(30)			(22)
Investigation and related costs5			—			—						—			(3)
Total Special Items			$	(100)		$	(71)					$	(281)		$	(242)
Impact on Gross Margin Ratio			(3.1 pts)			(2.4 pts)						(3.0 pts)			(2.8 pts)
Selling, General and Administrative (SG&A) Expenses
Business optimization items2			$	16		$	25					$	30		$	53
Acquisition and integration expenses3			21			—						23			7
Investigation and related costs5			3			2						31			18
Total Special Items			$	40		$	27					$	84		$	78
Impact on SG&A Ratio			1.3 pts			0.9 pts						0.9 pts			0.9 pts
Research and Development (R&D) Expenses
Business optimization items2			$	—		$	1					$	—		$	—
Acquisition and integration expenses3			—			—						—			22
Investigation and related costs5			—			—						—			1
Total Special Items			$	—		$	1					$	—		$	23
Impact on R&D Ratio			0.0 pts			0.0 pts						0.0 pts			0.2 pts
Other Operating Expense (Income), net
Business optimization items2			$	—		$	—					$	—		$	(17)
Acquisition and integration expenses3			(1)			1						(6)			(2)
Total Special Items			$	(1)		$	1					$	(6)		$	(19)
Interest Expense, net
Acquisition and integration expenses3			$	18		$	—					$	18		$	—
Total Special Items			$	18		$	—					$	18		$	—
Income Tax (Benefit) Expense
Tax matters6			$	(58)		$	—					$	(36)		$	—
Tax effects of special items7			(33)			(25)						(76)			(73)
Total Special Items			$	(91)		$	(25)					$	(112)		$	(73)
Impact on Effective Tax Rate			(15.0 pts)			(2.2 pts)						(4.3 pts)			(2.2 pts)

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 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 reported results of operations for the period. Management believes that providing the separate impact of those items 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.

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 1 of this Quarterly Report on Form 10-Q 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 cancelling certain R&D programs. Our results in 2021 included business optimization charges of $36 million in the third quarter and $81 million in the first nine months. Our results in 2020 included business optimization charges of $32 million in the third quarter and $77 million in the first nine months. Additionally, we recognized a gain of $17 million in the first nine months of 2020 for property we sold in conjunction with our business optimization initiatives. Refer to Note 10 in Item 1 of this Quarterly Report on Form 10-Q for further information regarding these charges and related liabilities.

3Our results in 2021 included acquisition, integration and related financing expenses of $39 million in the third quarter and $36 million in the first nine months. This included acquisition, integration and related financing expenses for our proposed 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 in the third quarter and first nine months from changes in the estimated fair value of contingent consideration liabilities. Our results in 2020 included $1 million in the third quarter and $38 million in the first nine months 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 in the first nine months. Additionally, the change in the estimated fair value of contingent consideration liabilities in 2020 was an expense in the third quarter and a benefit in the first nine months. Refer to Note 2 in Item 1 of this Quarterly Report on Form 10-Q for further information regarding business development activities.

4Our results in 2021 included $11 million in the third quarter and $30 million in the first nine months of costs 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. Our results in 2020 included $8 million in the third quarter and $22 million in the first nine months of costs related to these requirements.

5Our results in 2021 included costs of $3 million in the third quarter and $31 million in the first nine months for investigation and related costs. Those costs primarily included charges related to matters associated with our previously announced investigation of foreign exchange gains and losses. Our results in 2020 included $2 million in the third quarter and $22 million in the first nine months 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 6 and 7 in Item 1 of this Quarterly Report on Form 10-Q for further information regarding the investigation and related legal charges and stock compensation expense.

6Our results in the third quarter and first nine months of 2021 included a $58 million tax benefit related to a tax-deductible foreign statutory loss on an investment in a foreign subsidiary. Our results in the first nine months of 2021 also included a charge of $22 million related to an unfavorable court ruling for an uncertain tax position.

7Reflected 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

			Three Months Ended September 30,									Percent change
(in millions)			2021			2020						At actual currency rates			At constant currency rates
United States			$	1,319		$	1,244					6		%	6		%
International			$	1,907		1,728						10		%	8		%
Total net sales			$	3,226		$	2,972					9		%	7		%

			Nine Months Ended September 30,									Percent change
(in millions)			2021			2020						At actual currency rates			At constant currency rates
United States			$	3,697		$	3,588					3		%	3		%
International			$	5,573		4,904						14		%	8		%
Total net sales			$	9,270		$	8,492					9		%	6		%

Foreign currency favorably impacted net sales by 2 and 3 percentage points, respectively, during the third quarter and first nine months of 2021 compared to the prior-year periods 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 local currency sales at the prior period’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.

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. 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 variant 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). 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 (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. Risk Factors in our Annual Report on Form 10-K for the year ended December 31, 2020..

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 the third quarter and first nine months of 2020 have been recast to conform to the current period presentation.

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.

• 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.

• Other includes sales of other miscellaneous product and service offerings.

The following is a summary of net sales by product category:

			Three Months Ended September 30,									Percent change
(in millions)			2021			2020						At actual currency rates			At constant currency rates
Renal Care			$	981		$	955					3		%	1		%
Medication Delivery			747			665						12		%	11		%
Pharmaceuticals			589			539						9		%	7		%
Clinical Nutrition			244			234						4		%	3		%
Advanced Surgery			249			235						6		%	5		%
Acute Therapies			185			177						5		%	3		%
BioPharma Solutions			206			141						46		%	45		%
Other			25			26						(4)		%	(8)		%
Total Baxter			$	3,226		$	2,972					9		%	7		%

			Nine months ended September 30,									Percent change
(in millions)			2021			2020						At actual currency rates			At constant currency rates
Renal Care			$	2,867		$	2,744					4		%	1		%
Medication Delivery			2,096			1,948						8		%	5		%
Pharmaceuticals			1,687			1,536						10		%	4		%
Clinical Nutrition			715			667						7		%	3		%
Advanced Surgery			722			627						15		%	13		%
Acute Therapies			580			519						12		%	8		%
BioPharma Solutions			524			371						41		%	36		%
Other			79			80						(1)		%	(3)		%
Total Baxter			$	9,270		$	8,492					9		%	6		%

Renal Care net sales increased 3% in the third quarter and 4% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months of 2021 was driven by a 2% and 3%,

respectively, positive impact from foreign exchange rate changes, as compared to the prior-year periods. Additionally, Renal Care net sales increased due to global patient growth in PD, partially offset by lower in-center HD sales.

Medication Delivery net sales increased 12% in the third quarter and 8% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was due to a favorable comparison to the comparable periods of 2020 which were 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% and 3%, respectively, in the third quarter and first nine months of 2021, as compared to the prior-year periods.

Pharmaceuticals net sales increased 9% in the third quarter and 10% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was driven by the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S., which contributed $32 million and $73 million of net sales during the third quarter and first nine months of 2021, respectively. Additionally, foreign exchange rates had a favorable impact on Pharmaceuticals net sales of 2% and 6%, respectively, in the third quarter and first nine months of 2021, as compared to the prior-year periods. Partially offsetting the increases in the third quarter and first nine months of 2021 was a significant nonrecurring purchase from the U.S. government in the prior year.

Clinical Nutrition net sales increased 4% in the third quarter and 7% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was driven by a 1% and 4%, respectively, positive impact from foreign exchange rate changes, as compared to the prior-year periods. Additionally, Clinical Nutrition net sales increased due to growth in the U.S. for our PN therapies and related products, partially offset by lower international sales of vitamins resulting from supply constraints.

Advanced Surgery net sales increased 6% in the third quarter and 15% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was driven by a recovery in elective surgeries, as many had been previously postponed due to the COVID-19 pandemic, and a 1% and 2%, respectively, positive impact from foreign exchange rates, as compared to the prior-year periods. 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 5% in the third quarter and 12% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was driven by increased global demand for our CRRT systems during the COVID-19 pandemic and a 2% and 4%, respectively, positive impact from foreign exchange rate changes, as compared to the prior-year period.

BioPharma Solutions net sales increased 46% in the third quarter and 41% in the first nine months of 2021, as compared to the prior-year periods. The increase in the third quarter and first nine months was driven by manufacturing services and supply packaging related to the production of COVID-19 vaccines on behalf of multiple pharmaceutical companies and a 1% and 5%, respectively, positive impact from foreign exchange rate changes, as compared to the prior-year periods.

Gross Margin and Expense Ratios

			Three months ended September 30,
			2021			% of net sales			2020			% of net sales			$ change			% change
Gross margin			$	1,321		40.9		%	$	1,195		40.2		%	$	126		10.5		%
SG&A			$	680		21.1		%	$	601		20.2		%	$	79		13.1		%
R&D			$	129		4.0		%	$	123		4.1		%	$	6		4.9		%

			Nine months ended September 30,
			2021			% of net sales			2020			% of net sales			$ change			% change
Gross margin			$	3,699		39.9		%	$	3,396		40.0		%	$	303		8.9		%
SG&A			$	1,982		21.4		%	$	1,819		21.4		%	$	163		9.0		%
R&D			$	396		4.3		%	$	386		4.5		%	$	10		2.6		%

Gross Margin

The gross margin ratio was 40.9% and 39.9% in the third quarter and first nine months of 2021, respectively. The special items identified above had an unfavorable impact of approximately 3.1 and 3.0 percentage points on the gross margin ratio in the third quarter and first nine months of 2021, respectively. The gross margin ratio was 40.2% and 40.0% in the third quarter and first nine months of 2020, respectively. The special items identified above had an unfavorable impact of approximately 2.4 and 2.8 percentage points on the gross margin ratio in the third quarter and first nine months of 2020, respectively. Refer to the Special Items caption above for additional detail.

Excluding the impact of the special items, the gross margin ratio increased in the third quarter and first nine months of 2021 compared to the prior-year periods. The increase was 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 21.1% and 21.4% in the third quarter and first nine months of 2021, respectively. The special items identified above had an unfavorable impact of approximately 1.3 and 0.9 percentage points on the SG&A expenses ratio in the third quarter and first nine months of 2021, respectively. The SG&A expenses ratio was 20.2% and 21.4% in the third quarter and first nine months of 2020, respectively. The special items identified above had an unfavorable impact of approximately 0.9 percentage points on the SG&A expenses ratio in each of the third quarter and first nine months of 2020. Refer to the Special Items caption above for additional detail.

Excluding the impact of the special items, the SG&A expenses ratio increased in the third quarter and was flat in the first nine months of 2021 compared to the prior-year periods. The increase in the third quarter was primarily due to higher bonus accruals under our annual employee incentive compensation plans. The SG&A expenses ratio in the first nine months of 2021 was flat as actions we took to restructure our cost position and focus on expense management, reduced travel and related expenses due to the COVID-19 pandemic and the impact of favorable foreign exchange rates as compared to the prior-year periods were offset by higher bonus accruals under our annual employee incentive compensation plans.

R&D

The R&D expenses ratio was 4.0% and 4.3% in the third quarter and first nine months of 2021, respectively. The special items identified above had no impact on the R&D expenses ratio in the third quarter and first nine months of 2021. The R&D expenses ratio was 4.1% and 4.5% in the third quarter and first nine months of 2020, respectively. The special items identified above had no impact and an unfavorable impact of approximately 0.2 percentage points on the R&D expenses ratio in the third quarter and first nine months of 2020, respectively. Refer to the Special Items caption above for additional detail.

Excluding the impact of the special items, the R&D expenses ratio decreased in the third quarter and was flat in the first nine months of 2021 compared to the prior-year periods as a result of decreased project-related expenditures that were offset by higher bonus accruals under our annual employee incentive compensation plans.

Business Optimization Items

In recent years, we have undertaken actions to transform our cost structure and enhance operational efficiency. These efforts include 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 September 30, 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 $35 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 pre-tax 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 are expected to be realized by the end of 2021, with the remainder by the end of 2023.

Other Operating Expense (Income), Net

Other operating expense (income), net was income of $1 million and $6 million in the third quarter and first nine months of 2021, respectively, as a result of changes in the estimated fair value of contingent consideration liabilities. Other operating expense (income), net was an expense of $1 million and income of $19 million in the third quarter and first nine months of 2020, respectively. In the third quarter and first nine months of 2020, we recognized an expense of $1 million and a benefit of $2 million, respectively, as a result of changes in the estimated fair value of contingent consideration liabilities. Additionally, in the first nine months of 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.

Interest Expense, Net

Interest expense, net was $50 million and $118 million in the third quarter and first nine months of 2021, respectively, and $39 million and $96 million in the third quarter and first nine months of 2020. The increase in the third quarter was primarily driven by financing-related fees incurred in connection with the proposed Hillrom acquisition, which totaled $18 million, partially offset by lower interest expense as a result of refinancing $750 million of 3.75% senior notes with $650 million of 1.73% senior notes and cash on hand in the fourth quarter of 2020 and the repayment of $400 million of senior notes in July 2021. The increase in the first nine months of 2021 was primarily driven by financing-related fees incurred in connection with the proposed Hillrom acquisition, which totaled $18 million, and lower interest income due to lower interest rates.

Other Expense, Net

Other expense, net was $12 million and $15 million in the third quarter and first nine months of 2021, respectively, and $16 million and $32 million in the third quarter and first nine months of 2020, respectively. Results in the third quarter of 2021 were primarily driven by an unrealized loss on a marketable equity security. Results in the first nine months of 2021 were primarily driven by pension and OPEB net expenses. Results in the third quarter and first nine months of 2020 were driven by foreign exchange net losses, partially offset by an unrealized gain on a marketable equity security.

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 September 30, 2021, the CTA for our Argentina operations was in excess of $60 million.

Income Taxes

Our effective income tax rate was (0.2)% and 13.5% in the third quarter and 11.8% and 13.2% in the first nine months of 2021 and 2020, respectively. 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 three months ended September 30, 2021, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to a $58 million tax benefit related to a tax-deductible foreign statutory loss on an investment in a foreign subsidiary, as well as changes related to our ability to realize tax credit carryforwards based on a favorable tax ruling in a foreign jurisdiction.

For the nine months ended September 30, 2021, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to a $58 million tax benefit related to a tax-deductible foreign statutory loss on an investment in a foreign subsidiary, as well as a favorable geographic earnings mix and changes related to our ability to realize tax credit carryforwards based on a favorable tax ruling in a foreign jurisdiction.

For the three months ended September 30, 2020, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to a favorable geographic earnings mix and changes related to our ability to realize foreign tax credits.

For the nine months ended September 30, 2020, the difference between our effective income tax rate and the U.S. federal statutory rate was primarily attributable to a favorable geographic earnings mix and excess tax benefits on stock compensation awards.

Segment Results

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 the third quarter and first nine months of 2020 have been recast to conform to the current period presentation. The following is a summary of financial information for our reportable segments:

			Net sales																		Operating income (loss)
			Three months ended September 30,									Nine months ended September 30,									Three months ended September 30,									Nine months ended September 30,
(in millions)			2021			2020						2021			2020						2021			2020						2021			2020
Americas			$	1,727		$	1,606					$	4,911		$	4,640					$	676		$	611					$	1,907		$	1,726
EMEA			779			720						2,300			2,077						167			126						461			364
APAC			720			646						2,059			1,775						166			161						456			432
Total segments			3,226			2,972						9,270			8,492						1,009			898						2,824			2,522
Corporate and other			—			—						—			—						(496)			(428)						(1,497)			(1,312)
Total			$	3,226		$	2,972					$	9,270		$	8,492					$	513		$	470					$	1,327		$	1,210

Americas

Segment net sales and operating income were $1.7 billion and $676 million, respectively, in the third quarter and $4.9 billion and $1.9 billion, respectively, in the first nine months of 2021. Segment net sales and operating income were $1.6 billion and $611 million, respectively, in the third quarter and $4.6 billion and $1.7 billion, respectively, in the first nine months of 2020. The increase in operating profit in the third quarter and first nine months of 2021 was due to favorable sales performance in our BioPharma Solutions and Medication Delivery product categories, partially offset by unfavorable performance in Pharmaceuticals.

EMEA

Segment net sales and operating income were $779 million and $167 million, respectively, in the third quarter and $2.3 billion and $461 million, respectively, in the first nine months of 2021. Segment net sales and operating income were $720 million and $126 million, respectively, in the third quarter and $2.1 billion and $364 million, respectively, in the first nine months of 2020. The increase in operating profit in the third quarter and first nine months of 2021 was due to the favorable impact of foreign exchange rates on results as compared to the prior-year periods and the acquisition of the rights to Caelyx and Doxil for specified territories outside of the U.S., which contributed $26 million and $60 million of net sales and operating profit to the region during the third quarter and first nine months of 2021, respectively.

APAC

Segment net sales and operating income were $720 million and $166 million, respectively, in the third quarter and $2.1 billion and $456 million, respectively, in the first nine months of 2021. Segment net sales and operating income were $646 million and $161 million, respectively, in the third quarter and $1.8 billion and $432 million, respectively, in the first nine months of 2020. The increase in operating profit in the third quarter and first nine months of 2021 was due to the favorable impact of foreign exchange rates on results as compared to 2020 and the acquisition of the rights

to Caelyx and Doxil for specified territories outside of the U.S., which contributed $5 million and $11 million of net sales and operating profit to the region during the third quarter and first nine months of 2021, respectively.

Corporate and Other

Certain items are maintained at Corporate and are not allocated to a segment. They primarily include corporate headquarters costs, certain R&D costs, certain product category 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 the third quarter was higher than the prior-year period primarily due to higher acquisition and integration costs, intangible asset amortization expense and bonus accruals under our annual employee incentive compensation plans in the current year. The operating loss in the first nine months was higher than the prior-year period primarily due to higher intangible asset amortization expense, business optimization charges, investigation-related costs and bonus accruals under our annual employee incentive compensation plans in the current year, partially offset by an intangible asset impairment that was recognized in the prior year.

LIQUIDITY AND CAPITAL RESOURCES

The following table is a summary of the statement of cash flows for the nine-month periods ended September 30, 2021 and 2020.

			Nine months ended September 30,
(in millions)			2021						2020
Cash flows from operations - continuing operations			$	1,529					$	1,158
Cash flows from investing activities			(933)						(915)
Cash flows from financing activities			(1,031)						798

Cash Flows from Operations — Continuing Operations

In the first nine months of 2021, cash provided by operating activities was $1.5 billion, as compared to cash provided by operating activities of $1.2 billion in the first nine months of 2020, an increase of $371 million. The increase was primarily due to a lower increase in inventories in 2021 compared to 2020, an increase in our net income in 2021 and lower employee incentive compensation payments in 2021 compared to 2020.

Cash Flows from Investing Activities

In the first nine months of 2021, cash used for investing activities included payments for acquisitions and investments of $463 million, primarily related to Caelyx and Doxil, Transderm Scop and PerClot Polysaccharide Hemostatic System (PerClot), and capital expenditures of $508 million. In the first nine months of 2020, cash used for investing activities included payments for acquisitions and investments of $466 million, primarily related to Seprafilm and rights to multiple products we acquired, and capital expenditures of $472 million.

On September 2, 2021, we announced that we entered into a definitive transaction agreement under which we will acquire Hillrom in a cash transaction for an equity value of approximately $10.5 billion. The transaction is expected to close in early 2022, subject to the approval of Hillrom shareholders and the satisfaction of customary closing conditions, including regulatory approvals. Refer to Note 2 to the condensed consolidated financial statements for additional information on the proposed acquisition.

Cash Flows from Financing Activities

In the first nine months of 2021, cash used in financing activities included payments for treasury stock repurchases of $600 million, debt repayments of $407 million and dividend payments of $390 million, partially offset by stock issued under employee benefit plans of $135 million and the net proceeds from commercial paper borrowings of $300 million. In the first nine months of 2020, cash generated from financing activities included $1.2 billion of net proceeds from the issuance of senior notes. Cash flows from financing activities in the nine months ended September 30, 2020 also included receipts from stock issued under employee benefit plans of $180 million, repayments of borrowings under our Euro-denominated credit facility of €200 million ($225 million) and dividend payments of $348 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 the first nine months of 2021. We had $1.3 billion remaining available under this authorization as of September 30, 2021.

Credit Facilities and Access to Capital and Credit Ratings

Hillrom Acquisition Financing

In connection with the proposed acquisition of Hillrom, we entered into a 364-day bridge facility commitment letter and a term loan credit agreement that provide for total debt commitments of $11.4 billion for the purpose of funding the consideration for the Hillrom acquisition, refinancing certain indebtedness of Hillrom, and paying fees and expenses related to the foregoing. Refer to Note 2 to the condensed consolidated financial statements for additional information.

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). Our USD Revolver has a capacity of $2.5 billion and our Euro Revolver has a capacity of €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 leverage ratio. Fees under the credit facilities are 0.09% annually as of September 30, 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 outstanding under these credit facilities as of September 30, 2021 or December 31, 2020.

As of September 30, 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.

Access to Capital and Credit Ratings

We intend to fund short-term and long-term obligations as they mature through cash on hand, future cash flows from operations or by issuing additional debt. We had $3.3 billion of cash and cash equivalents as of September 30, 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 September 30, 2021, we had approximately $6.0 billion of long-term debt and finance lease obligations, including current maturities, and short-term debt. Subject to market conditions, we regularly evaluate opportunities with respect to our capital structure.

Our ability to generate cash flows from operations, issue debt 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. There have been no changes to our investment grade credit ratings that we disclosed in our 2020 Annual Report. Based on communications issued by the ratings agencies, it is expected that our credit ratings will be downgraded as a result of the debt we expect to issue to fund the Hillrom acquisition.

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 indicates 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 credit facilities 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 the term loan credit agreement include provisions related to the determination of a successor LIBOR rate.

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 to our consolidated financial statements in our 2020 Annual Report. 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, often employing the use of estimates about the effects of matters that are inherently uncertain. Such policies are summarized in the Management’s Discussion and Analysis of Financial Condition and Results of Operations section in our 2020 Annual Report. There have been no significant changes in the application of our critical accounting policies during the first nine months of 2021.

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 condensed consolidated financial statements.

LEGAL CONTINGENCIES

Refer to Note 6 within Item 1 for a discussion of our legal contingencies. Upon resolution of any of these uncertainties, we may incur charges in excess of presently established liabilities. While our liability in connection with certain claims cannot be estimated with any certainty, and although the resolution in any reporting period of one or more of these matters could have a significant impact on our results of operations and cash flows for that period, the outcome of these legal proceedings is not expected to have a material adverse effect on our consolidated financial position. While we believe that we have valid defenses in these matters, litigation is inherently uncertain, excessive verdicts do occur, and we may in the future incur material judgments or enter into material settlements of claims.

CERTAIN REGULATORY MATTERS

Immediately prior to the closing of our acquisition of Claris Injectables Limited (Claris), the U.S. Food and Drug Administration (FDA) commenced an inspection of Claris’ facilities in Ahmedabad, India in July 2017. FDA completed the inspection and subsequently issued a Warning Letter based on observations identified in the 2017 inspection (Claris Warning Letter).1 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 of December 31, 2020, 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.

1 Available online at https://www.fda.gov/ICECI/EnforcementActions/WarningLetters/ucm613538.htm

FORWARD-LOOKING INFORMATION

This quarterly report on Form 10-Q 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, potential tax liabilities associated with the separation of our biopharmaceuticals business from our medical products businesses, 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 the proposed acquisition of 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.

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:

			•			demand for and market acceptance risks for and competitive pressures related to new and existing products (including challenges with our ability to accurately predict these pressures and the resulting impact on customer inventory levels and the impact of reduced hospital admission rates and elective surgery volumes), and the impact of those products on quality and patient safety concerns;

			•			product development risks, including satisfactory clinical performance, the ability to manufacture at appropriate scale, and the general unpredictability associated with the product development cycle;

			•			our ability to finance and develop new products or enhancements on commercially acceptable terms or at all;

			•			our ability to identify business development and growth opportunities and to successfully execute on business development strategies (including the proposed acquisition of Hillrom);

			•			product quality or patient safety issues, leading to product recalls, withdrawals, launch delays, warning letters, import bans, sanctions, seizures, litigation, or declining sales;
			•			the impact of global economic conditions (including potential trade wars) and continuing public health crises, pandemics and epidemics, such as the COVID-19 pandemic, including related resurgences, on us and our employees, customers and suppliers, including foreign governments in countries in which we operate;

			•			the continuity, availability and pricing of acceptable raw materials and component supply, and the related continuity of our manufacturing and distribution (including impacts from COVID-19);

			•			inability to create additional production capacity in a timely manner or the occurrence of other manufacturing, sterilization or supply difficulties (including as a result of natural disaster, public health crises and epidemics/pandemics, regulatory actions or otherwise);

			•			breaches or failures of our information technology systems or products, including by cyber-attack, data leakage, unauthorized access or theft (as a result of increased remote working arrangements or otherwise);

			•			future actions of (or failures to act or delays in acting by) FDA, the European Medicines Agency or any other regulatory body or government authority (including the SEC, DOJ or the Attorney General of any State) that could delay, limit or suspend product development, manufacturing or sale or result in seizures, recalls, injunctions, monetary sanctions or criminal or civil liabilities, including the SEC's investigation of the misstatements in previously reported non-operating income related to foreign exchange gains and losses or the continued delay in lifting the warning letter at our Ahmedabad facility;

			•			failures with respect to our quality, compliance or ethics programs;

			•			future actions of third parties, including third-party payers, the impact of healthcare reform and its implementation, suspension, repeal, replacement, amendment, modification and other similar actions undertaken by the United States or foreign governments, including with respect to pricing, reimbursement, taxation and rebate policies; legislation, regulation and other governmental pressures in the United States or globally, including the cost of compliance and potential penalties for purported noncompliance thereof, all of which may affect pricing, reimbursement, taxation and rebate policies of government agencies and private payers or other elements of our business, including new or amended laws, rules and regulations (such as the California Consumer Privacy Act of 2018, the European Union’s General Data Protection Regulation and 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, necessitating significant multi-year capital expenditures, which are difficult to estimate in advance);

			•			the outcome of pending or future litigation, including the opioid litigation and current or future ethylene oxide litigation;
			•			failure to achieve our long-term financial improvement goals;

			•			the impact of competitive products and pricing, including generic competition, drug reimportation and disruptive technologies;

			•			global regulatory, trade and tax policies;

			•			the ability to protect or enforce our owned or in-licensed patent or other proprietary rights (including trademarks, copyrights, trade secrets and know-how) or patents of third parties preventing or restricting our manufacture, sale or use of affected products or technology;

			•			the impact of any goodwill or other intangible asset impairments on our operating results;

			•			any failure by Baxalta or Shire to satisfy their obligations under the separation agreements, including the tax matters agreement, or that certain letter agreement entered into with Shire and Baxalta;

			•			fluctuations in foreign exchange and interest rates;

			•			any changes in law concerning the taxation of income (whether with respect to current or future tax reform), including income earned outside the United States and potential taxes associated with the Base Erosion and Anti-Abuse Tax;

			•			actions by tax authorities in connection with ongoing tax audits;

			•			loss of key employees or inability to identify and recruit new employees;

			•			other factors identified elsewhere in this report and other filings with the SEC, including those factors described in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2020, all of which are available on our website.

Actual results may differ materially from those projected in the forward-looking statements. We do not undertake to update our forward-looking statements.