filings.toolsItem 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Reference is made throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations to Notes to the Consolidated Financial Statements, which begin on page F-1 of this report. Management's discussion and analysis of financial condition and results of operations for 2018 is included in Item 7 of the company’s 2019 Annual Report on Form 10-K filed with the Securities and Exchange Commission.
Overview
The company develops, manufactures and sells a broad range of products that are sold worldwide. The company expands the product lines and services it offers by developing and commercializing its own technologies and by making strategic acquisitions of complementary businesses. The company’s operations fall into four segments (Note 4): Life Sciences Solutions, Analytical Instruments, Specialty Diagnostics and Laboratory Products and Services.
The company mobilized in early 2020 to support the COVID-19 pandemic response with products and services that help analyze, diagnose and protect from the virus. However, the company saw a significant reduction in customer activity in several businesses by late March 2020 that materially adversely affected primarily the 2020 results of the Analytical Instruments segment and, to a lesser extent, some businesses within the company’s other three segments. The extent and duration of the negative impacts continuing into 2021 are uncertain and dependent in part on the success of global efforts to control the pandemic and economic activity ramping up. The company believes the impacted businesses’ long-term prospects remain excellent given the company’s attractive markets served, its industry-leading position and proven growth strategy. Several of the company’s businesses have had a significant increase in revenues due to sales of product and services addressing diagnosis and treatment of COVID-19, including test kits and, to a lesser extent, products and services for therapy and vaccine development and manufacturing. While these positive impacts are expected to continue into 2021, the duration and extent of future revenues from such sales are uncertain and dependent primarily on customer testing demand.
Recent Acquisitions and Divestiture
The company’s strategy is to augment internal growth at existing businesses with complementary acquisitions. The company’s principal recent acquisitions and divestitures are described below.
On April 30, 2019, the company acquired, within the Laboratory Products and Services segment, Brammer Bio for approximately $1.67 billion in cash. Brammer Bio is a leading viral vector contract development and manufacturing organization for gene and cell therapies. The acquisition expanded the segment’s contract manufacturing capabilities. Brammer Bio reported revenues of approximately $140 million in 2018.
On June 28, 2019, the company sold its Anatomical Pathology business to PHC Holdings Corporation for $1.13 billion, net of cash divested. The business was part of the Specialty Diagnostics segment. Revenues in 2019, through the date of sale, and the full year 2018 of the business sold were approximately $115 million and $238 million, respectively, net of retained sales through the company's healthcare market and research and safety market channel businesses.
Overview of Results of Operations and Liquidity
| (Dollars in millions) | 2020 | 2019 | ||||||||||||||||||||||||
| Revenues | ||||||||||||||||||||||||||
| Life Sciences Solutions | $ | 12,168 | 37.8 | % | $ | 6,856 | 26.8 | % | ||||||||||||||||||
| Analytical Instruments | 5,124 | 15.9 | % | 5,522 | 21.6 | % | ||||||||||||||||||||
| Specialty Diagnostics | 5,343 | 16.6 | % | 3,718 | 14.6 | % | ||||||||||||||||||||
| Laboratory Products and Services | 12,245 | 38.0 | % | 10,599 | 41.5 | % | ||||||||||||||||||||
| Eliminations | (2,662) | (8.3) | % | (1,153) | (4.5) | % | ||||||||||||||||||||
| $ | 32,218 | 100 | % | $ | 25,542 | 100 | % |
Sales in 2020 were $32.22 billion, an increase of $6.68 billion from 2019. Sales increased $78 million due to acquisitions, net of a divestiture. The favorable effects of currency translation resulted in an increase in revenues of $133 million in 2020.
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview of Results of Operations and Liquidity (continued)
Aside from the effects of acquisitions/divestitures and currency translation, revenues increased $6.47 billion (25%) primarily due to increased demand. Sales of products that address COVID-19 testing and treatment totaled $6.63 billion in 2020, and were offset in part by lower revenues in the remainder of the business during the first half of 2020. Sales were particularly strong in diagnostic and healthcare markets, due to demand for products supporting customers diagnosing the COVID-19 virus, offset in part by lower sales of other products due to pandemic-related impacts on customer activity. Sales were also strong to customers in pharma and biotech markets where demand was strong for products and services and pandemic-related demand for therapies and vaccines also contributed to growth. Sales to customers in industrial markets decreased primarily due to lower demand from weakened economic conditions related to COVID-19. Sales to these customers returned to positive growth in the fourth quarter of 2020. Sales to academic and government customers decreased due primarily to closure of academic labs during the global pandemic. Sales to these customers returned to positive growth in the third quarter of 2020. Sales growth was particularly strong in North America and Europe and, to a lesser extent, in the Asia-Pacific region.
In 2020, total company operating income and operating income margin were $7.79 billion and 24.2%, respectively, compared with $4.59 billion and 18.0%, respectively, in 2019. The increase in operating income was primarily due to profit on higher sales and, to a lesser extent, sales mix, offset in part by a gain on the sale of the Anatomical Pathology business included in the 2019 period and strategic growth investments in 2020. The company’s references to strategic growth investments generally refer to targeted spending for enhancing commercial capabilities, including expansion of geographic sales reach and e-commerce platforms, marketing initiatives, expanded service and operational infrastructure, focused research and development projects and other expenditures to enhance the customer experience, as well as incentive compensation and recognition for employees. The company’s references throughout this discussion to productivity improvements generally refer to improved cost efficiencies from its Practical Process Improvement (PPI) business system, reduced costs resulting from global sourcing initiatives, a lower cost structure following restructuring actions, including headcount reductions and consolidation of facilities, and low cost region manufacturing. Productivity improvements are calculated net of inflationary cost increases.
The company recorded a provision for income taxes of $850 million in 2020 (effective tax rate of 11.8%). In 2020, the company implemented foreign tax credit planning in Sweden which resulted in $96 million of foreign tax credits, with no related incremental U.S. income tax expense and also recorded a net income tax benefit of $51 million from a domestication transaction involving the transfer of non-U.S. subsidiaries to the U.S.; a $47 million income tax benefit related to a foreign exchange loss for tax purposes on certain intercompany financing arrangements; and a $27 million tax benefit from tax audit settlements.
The company recorded a provision for income taxes of $374 million in 2019 (effective tax rate of 9.2%) including $191 million related to the gain on the sale of the Anatomical Pathology business. In 2019, the company recorded a $62 million income tax benefit related to a foreign exchange loss for tax purposes on certain intercompany financing arrangements; implemented foreign tax credit planning in Sweden which resulted in $75 million of foreign tax credits, with no related incremental U.S. income tax expense; and recorded a $79 million income tax benefit related to the deferred tax implications of intra-entity transactions which included a tax benefit to release a valuation allowance against net operating losses previously determined to be unrealizable.
The effective tax rate in both 2020 and 2019 was also affected by relatively significant earnings in lower tax jurisdictions. Due primarily to the non-deductibility of intangible asset amortization for tax purposes, the company’s cash payments for income taxes were higher than its income tax expense for financial reporting purposes and totaled $1.32 billion and $0.90 billion in 2020 and 2019, respectively.
The company expects its effective tax rate in 2021 will be between 11% and 13% based on currently forecasted rates of profitability in the countries in which the company conducts business and expected generation of foreign tax credits. The effective tax rate can vary significantly from period to period as a result of discrete income tax factors and events.
Net income increased to $6.38 billion in 2020, from $3.70 billion in 2019 principally due to the increase in operating income in 2020 (discussed above) offset in part by the increase in the income tax provision.
During 2020, the company’s cash flow from operations totaled $8.29 billion compared with $4.97 billion for 2019. The increase primarily resulted from higher cash provided by income and, to a lesser extent, lower investment in working capital in 2020.
As of December 31, 2020, the company’s short-term debt totaled $2.63 billion, substantially all of which was redeemed in January 2021. The company has a revolving credit facility with a bank group that provides up to $3.00 billion of unsecured multi-currency revolving credit (Note 10). If the company borrows under this facility, it intends to leave undrawn an amount
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview of Results of Operations and Liquidity (continued)
equivalent to outstanding commercial paper to provide a source of funds in the event that commercial paper markets are not available. As of December 31, 2020, no borrowings were outstanding under the company’s revolving credit facility, although available capacity was reduced by approximately $31 million as a result of outstanding letters of credit.
The company believes that its existing cash and cash equivalents of $10.33 billion as of December 31, 2020 and its future cash flow from operations together with available borrowing capacity under its revolving credit agreement will be sufficient to meet the cash requirements of its existing businesses for the foreseeable future, including at least the next 24 months.
Critical Accounting Policies and Estimates
The company’s discussion and analysis of its financial condition and results of operations is based upon its financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosure of contingent liabilities. On an on-going basis, management evaluates its estimates, including those related to intangible assets and goodwill, income taxes and contingencies and litigation. Management believes the most complex and sensitive judgments, because of their significance to the consolidated financial statements, result primarily from the need to make estimates about the effects of matters that are inherently uncertain. Management bases its estimates on historical experience, current market and economic conditions and other assumptions that management believes are reasonable. The results of these estimates form the basis for judgments about the carrying value of assets and liabilities where the values are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
The company believes the following represent its critical accounting policies and estimates used in the preparation of its financial statements:
(a)Intangible Assets and Goodwill
The company uses assumptions and estimates in determining the fair value of assets acquired and liabilities assumed in a business combination. The determination of the fair value of intangible assets, which represent a significant portion of the purchase price in many of the company’s acquisitions, requires the use of significant judgment with regard to (i) the fair value; and (ii) whether such intangibles are amortizable or non-amortizable and, if the former, the period and the method by which the intangible asset will be amortized. The company estimates the fair value of acquisition-related intangible assets principally based on projections of cash flows that will arise from identifiable intangible assets of acquired businesses. The projected cash flows are discounted to determine the present value of the assets at the dates of acquisition. Definite-lived intangible assets totaled $11.45 billion at December 31, 2020. The company reviews definite-lived intangible assets for impairment when indication of potential impairment exists, such as a significant reduction in cash flows associated with the assets. Actual cash flows arising from a particular intangible asset could vary from projected cash flows which could imply different carrying values from those established at the dates of acquisition and which could result in impairment of such asset.
The company evaluates goodwill and indefinite-lived intangible assets for impairment annually and when events occur or circumstances change that would more likely than not reduce the fair value of the asset below its carrying amount. Events or circumstances that might require an interim evaluation include unexpected adverse business conditions, economic factors, unanticipated technological changes or competitive activities, loss of key personnel and acts by governments and courts. Goodwill and indefinite-lived intangible assets totaled $26.04 billion and $1.24 billion, respectively, at December 31, 2020. Estimates of discounted future cash flows require assumptions related to revenue and operating income growth rates, discount rates and other factors. For the goodwill impairment tests, the company considers (i) peer revenues and earnings trading multiples from companies that have operational and financial characteristics that are similar to the respective reporting units and (ii) estimated weighted average costs of capital. Different assumptions from those made in the company’s analysis could materially affect projected cash flows and the company’s evaluation of goodwill and indefinite-lived intangible assets for impairment.
The company performed the quantitative goodwill impairment test for all of its reporting units and indefinite-lived intangible assets. Indications of fair value based on projections of profitability and on peer revenues and earnings trading multiples were sufficient to conclude that no impairment of goodwill or indefinite-lived intangible assets existed at the end of the tenth fiscal month of 2020, the date of the company’s annual impairment testing. There can be no assurance, however, that an economic downturn will not materially adversely affect peer trading multiples and the
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Critical Accounting Policies and Estimates (continued)
company’s businesses such that they do not achieve their forecasted profitability and these assets become impaired. Should the fair value of the company’s goodwill or indefinite-lived intangible assets decline because of reduced operating performance, market declines, or other indicators of impairment, or as a result of changes in the discount rate, charges for impairment may be necessary.
*(b)*Income Taxes
In the ordinary course of business there is inherent uncertainty in quantifying the company’s income tax positions. The company assesses income tax positions and records tax benefits for all years subject to examination based upon management’s evaluation of the facts, circumstances and information available at the reporting date. For those tax positions where it is more likely than not that a tax benefit will be sustained, the company has recorded the largest amount of tax benefit with a greater than 50 percent likelihood of being realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information. For those income tax positions where it is not more likely than not that a tax benefit will be sustained, no tax benefit has been recognized in the financial statements. Should tax return positions that the company expects are sustainable not be sustained upon audit, the company could be required to record an incremental tax provision for such taxes. The company’s liability for these unrecognized tax benefits totaled $1.09 billion at December 31, 2020.
The company operates in numerous countries under many legal forms and, as a result, is subject to the jurisdiction of numerous domestic and non-U.S. tax authorities, as well as to tax agreements and treaties among these governments. Determination of taxable income in any jurisdiction requires the company to interpret the related tax laws and regulations and the use of estimates and assumptions regarding significant future events, such as the amount, timing and character of deductions, permissible revenue recognition methods under the tax law and the sources and character of income and tax credits. Changes in tax laws, regulations, agreements and treaties, currency exchange restrictions or the company’s level of operations or profitability in each taxing jurisdiction could have an impact upon the amount of current and deferred tax balances and hence the company’s net income.
The company estimates the degree to which tax assets will result in a benefit, after consideration of all positive and negative evidence, and provides a valuation allowance for tax assets that it believes will more likely than not go unused. In situations in which the company has been able to determine that its deferred tax assets will be realized, that determination generally relies on future reversals of taxable temporary differences and expected future taxable income. If it becomes more likely than not that a tax asset will be used, the company reverses the related valuation allowance. Any such reversals are recorded as a reduction of the company’s tax provision. The company’s tax valuation allowance totaled $933 million at December 31, 2020. Should the company’s actual future taxable income by tax jurisdiction vary from estimates, additional allowances or reversals thereof may be necessary.
The company has not provided U.S. state income taxes or additional non-U.S. taxes on certain of its non-U.S. subsidiaries’ undistributed earnings, as such amounts are intended to be reinvested outside the United States indefinitely in the respective jurisdictions based on specific business plans and tax strategies. These business plans and tax strategies consider: short-term and long-term forecasts and budgets of the U.S. parent and non-U.S. subsidiaries; working capital and other needs in locations where earnings are generated; the company’s past practices regarding non-U.S. subsidiary dividends; sources of financing by the U.S. parent, such as issuing debt or equity; and uses of cash by the U.S. parent that are more discretionary in nature, such as business combinations and share repurchase programs. However, should the company change its business plans and tax strategies in the future and decide to repatriate a portion of these earnings to one of its U.S. subsidiaries, including cash maintained by these non-U.S. subsidiaries, the company would recognize additional tax liabilities. It is not practicable to estimate the amount of additional U.S. state income tax and non-U.S. tax liabilities that the company would incur. The company’s intent is to only make distributions from non-U.S. subsidiaries in the future when they can be made at no net tax costs.
*(c)*Contingencies and Litigation
The company records accruals for various contingencies, including legal proceedings, environmental, workers’ compensation, product, general and auto liabilities, and other claims that arise in the normal course of business. The accruals are based on management’s judgment, historical claims experience, the probability of losses and, where applicable, the consideration of opinions of internal and/or external legal counsel and actuarial estimates. Accruals of acquired businesses, including product liability and environmental accruals, are initially recorded at fair value and discounted to their net present value. Additionally, the company records receivables from third-party insurers when recovery has been determined to be probable.
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations
2020 Compared With 2019
| (In millions) | 2020 | 2019 | Total Change | Currency Translation | Acquisitions/Divestitures | Operations | ||||||||||||||||||||||||||||||||
| Revenues | ||||||||||||||||||||||||||||||||||||||
| Life Sciences Solutions | $ | 12,168 | $ | 6,856 | $ | 5,312 | $ | 29 | $ | — | $ | 5,283 | ||||||||||||||||||||||||||
| Analytical Instruments | 5,124 | 5,522 | (398) | 39 | — | (437) | ||||||||||||||||||||||||||||||||
| Specialty Diagnostics | 5,343 | 3,718 | 1,625 | 14 | (121) | 1,732 | ||||||||||||||||||||||||||||||||
| Laboratory Products and Services | 12,245 | 10,599 | 1,646 | 52 | 184 | 1,410 | ||||||||||||||||||||||||||||||||
| Eliminations | (2,662) | (1,153) | (1,509) | (1) | 15 | (1,523) | ||||||||||||||||||||||||||||||||
| Consolidated Revenues | $ | 32,218 | $ | 25,542 | $ | 6,676 | $ | 133 | $ | 78 | $ | 6,465 |
Sales in 2020 were $32.22 billion, an increase of $6.68 billion from 2019. Sales increased $78 million due to acquisitions, net of a divestiture. The favorable effects of currency translation resulted in an increase in revenues of $133 million in 2020. Aside from the effects of acquisitions and currency translation, revenues increased $6.47 billion (25%) primarily due to increased demand. Sales of products that address COVID-19 testing and treatment totaled $6.63 billion in 2020, and were offset in part by lower revenues in the remainder of the business during the first half of 2020. Sales were particularly strong in diagnostic and healthcare markets, due to demand for products supporting customers diagnosing the COVID-19 virus, offset in part by lower sales of other products due to pandemic-related impacts on customer activity. Sales were also strong to customers in pharma and biotech markets where demand was strong for products and services and pandemic-related demand for therapies and vaccines also contributed to growth. Sales to customers in industrial markets decreased primarily due to lower demand from weakened economic conditions related to COVID-19. Sales to these customers returned to positive growth in the fourth quarter of 2020. Sales to academic and government customers decreased due primarily to closure of academic labs during the global pandemic. Sales to these customers returned to positive growth in the third quarter of 2020. Sales growth was particularly strong in North America and Europe and, to a lesser extent, in the Asia-Pacific region.
In 2020, total company operating income and operating income margin were $7.79 billion and 24.2%, respectively, compared with $4.59 billion and 18.0%, respectively, in 2019. The increase in operating income was primarily due to profit on higher sales and, to a lesser extent, sales mix, offset in part by a gain on the sale of the Anatomical Pathology business included in the 2019 period and strategic growth investments in 2020.
In 2020, the company recorded restructuring and other costs, net, of $95 million (Note 16). In 2019, the company recorded restructuring and other income, net, of $334 million, including $482 million of net gains on the sale of businesses, principally the Anatomical Pathology business (Note 2). The restructuring projects for which charges were incurred in 2020 are expected to result in annual cost savings of approximately $55 million beginning in part in 2020 and, to a greater extent, in 2021. The restructuring actions for which charges were incurred in 2019 resulted in annual cost savings of approximately $60 million beginning in part in 2019 and to a greater extent in 2020.
Segment Results
The company’s management evaluates segment operating performance using operating income before certain charges/credits to cost of revenues and selling, general and administrative expenses, principally associated with acquisition-related activities; restructuring and other costs/income including costs arising from facility consolidations such as severance and abandoned lease expense and gains and losses from the sale of real estate and product lines; and amortization of acquisition-related intangible assets. The company uses this measure because it helps management understand and evaluate the segments’ core operating results and facilitate comparison of performance for determining compensation (Note 4). Accordingly, the following segment data is reported on this basis.
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations (continued)
| (Dollars in millions) | 2020 | 2019 | Change | |||||||||||||||||
| Revenues | ||||||||||||||||||||
| Life Sciences Solutions | $ | 12,168 | $ | 6,856 | 77 | % | ||||||||||||||
| Analytical Instruments | 5,124 | 5,522 | (7) | % | ||||||||||||||||
| Specialty Diagnostics | 5,343 | 3,718 | 44 | % | ||||||||||||||||
| Laboratory Products and Services | 12,245 | 10,599 | 16 | % | ||||||||||||||||
| Eliminations | (2,662) | (1,153) | 131 | % | ||||||||||||||||
| Consolidated Revenues | $ | 32,218 | $ | 25,542 | 26 | % | ||||||||||||||
| Segment Income | ||||||||||||||||||||
| Life Sciences Solutions | $ | 6,109 | $ | 2,446 | 150 | % | ||||||||||||||
| Analytical Instruments | 808 | 1,273 | (37) | % | ||||||||||||||||
| Specialty Diagnostics | 1,368 | 930 | 47 | % | ||||||||||||||||
| Laboratory Products and Services | 1,271 | 1,324 | (4) | % | ||||||||||||||||
| Subtotal Reportable Segments | 9,556 | 5,973 | 60 | % | ||||||||||||||||
| Cost of Revenues Charges | (6) | (17) | ||||||||||||||||||
| Selling, General and Administrative Charges, Net | 10 | (62) | ||||||||||||||||||
| Restructuring and Other (Costs) Income, Net | (99) | 413 | ||||||||||||||||||
| Amortization of Acquisition-related Intangible Assets | (1,667) | (1,713) | ||||||||||||||||||
| Consolidated Operating Income | $ | 7,794 | $ | 4,594 | 70 | % | ||||||||||||||
| Reportable Segments Income Margin | 29.7 | % | 23.4 | % | ||||||||||||||||
| Consolidated Operating Income Margin | 24.2 | % | 18.0 | % |
Income from the company’s reportable segments increased 60% to $9.56 billion in 2020 due primarily to profit on higher sales and, to a lesser extent, sales mix, offset in part by strategic growth investments.
Life Sciences Solutions
| (Dollars in millions) | 2020 | 2019 | Change | |||||||||||||||||
| Revenues | $ | 12,168 | $ | 6,856 | 77 | % | ||||||||||||||
| Operating Income Margin | 50.2 | % | 35.7 | % | 14.5 pt |
Sales in the Life Sciences Solutions segment increased $5.31 billion to $12.17 billion in 2020. Sales increased $5.28 billion (77%) due to higher revenues at existing businesses. The favorable effects of currency translation resulted in an increase in revenues of $29 million. The increase in revenues at existing businesses was primarily driven by demand for testing to diagnose COVID-19 with higher sales of genetic sciences products and, to a lesser extent, bioscience products. Sales also grew due to higher demand for bioproduction products.
Operating income margin was 50.2% in 2020 compared to 35.7% in 2019. The increase resulted primarily from profit on higher sales and, to a lesser extent, sales mix, offset in part by strategic growth investments.
Analytical Instruments
| (Dollars in millions) | 2020 | 2019 | Change | |||||||||||||||||
| Revenues | $ | 5,124 | $ | 5,522 | (7) | % | ||||||||||||||
| Operating Income Margin | 15.8 | % | 23.1 | % | -7.3 pt |
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations (continued)
Sales in the Analytical Instruments segment decreased $398 million to $5.12 billion in 2020. Sales decreased $437 million (-8%) due to lower revenues at existing businesses. The favorable effects of currency translation resulted in an increase in revenues of $39 million. The decrease in revenues at existing businesses was primarily the result of reduced demand from industrial customers following business slowing and closures due to COVID-19 and lower sales to academic customers due to pandemic-related closures. The segment returned to positive growth in the fourth quarter of 2020.
Operating income margin was 15.8% in 2020 compared to 23.1% in 2019. The decrease was primarily due to sales mix, the decrease in sales, a $108 million charge related to a long-term supply contract (discussed in Note 12), and, to a lesser extent, strategic growth investments, offset in part by productivity improvements.
Specialty Diagnostics
| (Dollars in millions) | 2020 | 2019 | Change | |||||||||||||||||
| Revenues | $ | 5,343 | $ | 3,718 | 44 | % | ||||||||||||||
| Operating Income Margin | 25.6 | % | 25.0 | % | 0.6 pt |
Sales in the Specialty Diagnostics segment increased $1.63 billion to $5.34 billion in 2020. Sales increased $1.73 billion (48%) due to higher revenues at existing businesses. The favorable effects of currency translation resulted in an increase in revenues of $14 million and the divestiture of the Anatomical Pathology business in June 2019 decreased revenues by $121 million. The increase in revenues at existing businesses was due to higher demand primarily driven by products addressing treatment of COVID-19, with particular strength in sales of products sold through the segment's healthcare market channel business, and to a lesser extent, microbiology and clinical diagnostics products. These increases were offset in part by lower sales in some of the segment’s businesses due to pandemic-related reductions in demand.
Operating income margin was 25.6% in 2020 and 25.0% in 2019. The increase was primarily due to profit on higher sales, offset in part by sales mix and, to a lesser extent, strategic growth investments.
Laboratory Products and Services
| (Dollars in millions) | 2020 | 2019 | Change | |||||||||||||||||
| Revenues | $ | 12,245 | $ | 10,599 | 16 | % | ||||||||||||||
| Operating Income Margin | 10.4 | % | 12.5 | % | -2.1 pt |
Sales in the Laboratory Products and Services segment increased $1.65 billion to $12.25 billion in 2020. Sales increased $1.41 billion (13%) due to higher revenues at existing businesses and $184 million due to acquisitions. The favorable effects of currency translation resulted in an increase in revenues of $52 million. The increase in revenues at existing businesses was primarily due to increased demand for products sold through its research and safety market channel business and, to a lesser extent, service offerings of the segment's pharma services business. The increase in demand was driven by pandemic response as well as the segment’s other products and services.
Operating income margin was 10.4% in 2020 and 12.5% in 2019. The decrease was primarily due to sales mix and strategic growth investments, offset in part by profit on higher sales and, to a lesser extent, productivity improvements.
Other Expense, Net
In 2020, the company recorded $81 million of financing costs for a terminated acquisition, primarily for amortization of loan commitment fees and entering into currency hedging contracts. In 2019, the company recorded $184 million of losses on the early extinguishment of debt, offset in part by $44 million of net gains on investments. The investment gains include a $28 million gain on the sale of a joint venture for net proceeds of $42 million. In the first quarter of 2021, the company recorded approximately $197 million of losses on the early extinguishment of debt (Note 10).
Provision for Income Taxes
The company recorded a provision for income taxes of $850 million in 2020 (effective tax rate of 11.8%). In 2020, the company implemented foreign tax credit planning in Sweden which resulted in $96 million of foreign tax credits, with no related incremental U.S. income tax expense and also recorded a net income tax benefit of $51 million from a domestication
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Results of Operations (continued)
transaction involving the transfer of non-U.S. subsidiaries to the U.S.; a $47 million income tax benefit related to a foreign exchange loss for tax purposes on certain intercompany financing arrangements; and a $27 million tax benefit from tax audit settlements.
The company recorded a provision for income taxes of $374 million in 2019 (effective tax rate of 9.2%) including $191 million related to the gain on the sale of the Anatomical Pathology business. In 2019, the company recorded a $62 million income tax benefit related to a foreign exchange loss for tax purposes on certain intercompany financing arrangements; implemented foreign tax credit planning in Sweden which resulted in $75 million of foreign tax credits, with no related incremental U.S. income tax expense; and recorded a $79 million income tax benefit related to the deferred tax implications of intra-entity transactions which included a tax benefit to release a valuation allowance against net operating losses previously determined to be unrealizable.
The effective tax rate in both 2020 and 2019 was also affected by relatively significant earnings in lower tax jurisdictions. Due primarily to the non-deductibility of intangible asset amortization for tax purposes, the company’s cash payments for income taxes were higher than its income tax expense for financial reporting purposes and totaled $1.32 billion and $0.90 billion in 2020 and 2019, respectively.
The company expects its effective tax rate in 2021 will be between 11% and 13% based on currently forecasted rates of profitability in the countries in which the company conducts business and expected generation of foreign tax credits. The effective tax rate can vary significantly from period to period as a result of discrete income tax factors and events.
The company has operations and a taxable presence in approximately 50 countries outside the U.S. Some of these countries have lower tax rates than the U.S. The company’s ability to obtain a benefit from lower tax rates outside the U.S. is dependent on its relative levels of income in countries outside the U.S. and on the statutory tax rates in those countries. Based on the dispersion of the company’s non-U.S. income tax provision among many countries, the company believes that a change in the statutory tax rate in any individual country is not likely to materially affect the company’s income tax provision or net income, aside from any resulting one-time adjustment to the company’s deferred tax balances to reflect a new rate.
Recent Accounting Pronouncements
A description of recently issued accounting standards is included under the heading “Recent Accounting Pronouncements” in Note 1.
Contingent Liabilities
The company is contingently liable with respect to certain legal proceedings and related matters. An unfavorable outcome that differs materially from current accrual estimates, if any, for one or more of the matters described under the heading “Product Liability, Workers Compensation and Other Personal Injury Matters,” in Note 12 could have a material adverse effect on the company’s financial position as well as its results of operations and cash flows.
Liquidity and Capital Resources
Consolidated working capital (current assets less current liabilities) was $11.65 billion at December 31, 2020, compared with $5.70 billion at December 31, 2019. Included in working capital were cash and cash equivalents of $10.33 billion at December 31, 2020 and $2.40 billion at December 31, 2019. The increase in cash was primarily due to the issuance of long-term senior notes in March and April 2020 and higher cash flow from operations in 2020.
2020
Cash provided by operating activities was $8.29 billion during 2020. Cash provided by income was offset in part by investments in working capital. Increases in accounts receivable and inventories used cash of $1.30 billion and $508 million, respectively, primarily to support growth in sales. Changes in other assets and liabilities provided cash of $1.45 billion primarily due to the timing of incentive compensation payments and, to a lesser extent, customer billings. Cash payments for income taxes increased to $1.32 billion during 2020, compared with $0.90 billion in 2019.
During 2020, the company’s investing activities used $1.51 billion of cash, principally for the purchase of property, plant and equipment. In January and February 2021, the company completed acquisitions for approximately $950 million in cash plus contingent consideration and entered an agreement to acquire another business for $450 million in cash plus contingent consideration (Note 17).
THERMO FISHER SCIENTIFIC INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Liquidity and Capital Resources (continued)
The company’s financing activities provided $959 million of cash during 2020. Issuance of senior notes provided cash of $3.46 billion. Repayment of senior notes used cash of $713 million. The company’s financing activities also included the repurchase of $1.50 billion of the company's common stock and the payment of $337 million in cash dividends, offset in part by $196 million of net proceeds from employee stock option exercises. On November 8, 2019, the Board of Directors authorized the repurchase of up to $2.50 billion of the company’s common stock. On November 5, 2020, the Board of Directors replaced the existing authorization to repurchase the company’s common stock, of which $1.00 billion was remaining, with a new authorization to repurchase up to $2.50 billion of the company’s common stock. Early in the first quarter of 2021, the company repurchased $1.50 billion of the company's common stock. At February 24, 2021, authorization remained for $1.00 billion of future repurchases of the company’s common stock.
As of December 31, 2020, the company’s short-term debt totaled $2.63 billion, substantially all of which was redeemed in January 2021. The company has a revolving credit facility with a bank group that provides up to $3.00 billion of unsecured multi-currency revolving credit (Note 10). If the company borrows under this facility, it intends to leave undrawn an amount equivalent to outstanding commercial paper to provide a source of funds in the event that commercial paper markets are not available. As of December 31, 2020, no borrowings were outstanding under the company’s revolving credit facility, although available capacity was reduced by approximately $31 million as a result of outstanding letters of credit.
Approximately half of the company’s cash balances and cash flows from operations are from outside the U.S. The company uses its non-U.S. cash for needs outside of the U.S. including acquisitions and repayment of acquisition-related intercompany debt to the U.S. In addition, the company also transfers cash to the U.S. using non-taxable returns of capital as well as dividends where the related U.S. dividend received deduction or foreign tax credit equals any tax cost arising from the dividends. As a result of using such means of transferring cash to the U.S., the company does not expect any material adverse liquidity effects from its significant non-U.S. cash balances for the foreseeable future.
The company believes that its existing cash and cash equivalents of $10.33 billion as of December 31, 2020 and its future cash flow from operations together with available borrowing capacity under its revolving credit agreement will be sufficient to meet the cash requirements of its existing businesses for the foreseeable future, including at least the next 24 months.
The company expects that for 2021, expenditures for property, plant and equipment, net of disposals, will be between $2.2 and $2.4 billion.
In addition to the obligations on the balance sheet at December 31, 2020, which include debt (Note 10), unrecognized tax benefits (Note 8), operating leases (Note 11) and pension obligations (Note 7), the company has entered into unconditional purchase obligations, in the ordinary course of business, that include agreements to purchase goods, services or fixed assets and to pay royalties (Note 12).
2019
Cash provided by operating activities was $4.97 billion during 2019. Cash provided by income was offset in part by increased investments in working capital. Increases in accounts receivable and inventories used cash of $225 million and $458 million, respectively, primarily to support growth in sales. Changes in other assets and liabilities used cash of $198 million primarily due to the timing of customer billings and tax refunds, offset in part by advanced payments from customers. Cash payments for income taxes increased to $896 million during 2019, compared with $591 million in 2018.
During 2019, the company’s investing activities used $1.49 billion of cash. Acquisitions used cash of $1.84 billion. Proceeds from the sale of the Anatomical Pathology business provided $1.13 billion. The company’s investing activities also included the purchase of $926 million of property, plant and equipment.
The company’s financing activities used $3.12 billion of cash during 2019. Repayment of senior notes used cash of $6.36 billion. New long-term borrowings provided cash of $5.64 billion. A net decrease in commercial paper obligations used cash of $683 million. The company’s financing activities also included the repurchase of $1.50 billion of the company’s common stock and the payment of $297 million in cash dividends, offset in part by $153 million of net proceeds from employee stock option exercises.
THERMO FISHER SCIENTIFIC INC.
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