Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

	Page No.
Audited Consolidated Financial Statements:
Report of Independent Registered Public Accounting Firm	50
Consolidated Income Statements for the Years Ended December 31, 2015, 2014 and 2013	51
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 2015, 2014 and 2013	52
Consolidated Balance Sheets as of December 31, 2015 and 2014	53
Consolidated Statements of Cash Flows for the Years Ended December 31, 2015, 2014 and 2013	54
Consolidated Statements of Changes in Stockholders’ Equity for the Years Ended December 31, 2015, 2014 and 2013	55
Notes to Consolidated Financial Statements:
Note 1 Summary of Significant Accounting Policies	56
Note 2 Recently Issued Accounting Pronouncements	62
Note 3 Acquisitions and Divestitures	64
Note 4 Restructuring and Asset Impairment Charges	65
Note 5 Other Non-Operating Income, Net	67
Note 6 Income Taxes	67
Note 7 Earnings Per Share	70
Note 8 Inventories	70
Note 9 Property, Plant and Equipment	71
Note 10 Goodwill and Other Intangible Assets	71
Note 11 Derivative Financial Instruments	72
Note 12 Accrued and Other Current Liabilities	74
Note 13 Credit Facilities and Long-Term Debt	74
Note 14 Postretirement Benefit Plans	76
Note 15 Stock-Based Compensation Plans	83
Note 16 Capital Stock	85
Note 17 Accumulated Other Comprehensive Income (Loss)	87
Note 18 Commitment and Contingencies	88
Note 19 Related Party Transactions	91
Note 20 Segment and Geographic Data	92
Note 21 Valuation and Qualifying Accounts	94
Note 22 Quarterly Financial Data	94
Note 23 Subsequent Events	94

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Board of Directors and Stockholders of

Xylem Inc.

Rye Brook, New York

We have audited the accompanying consolidated balance sheets of Xylem Inc. and subsidiaries (the "Company") as of December 31, 2015 and 2014, and the related consolidated statements of income, comprehensive income, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 2015. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Xylem Inc. and subsidiaries as of December 31, 2015 and 2014, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2015, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the Company's internal control over financial reporting as of December 31, 2015, based on the criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated February 26, 2016 expressed an unqualified opinion on the Company's internal control over financial reporting.

/s/ Deloitte & Touche LLP

Stamford, Connecticut

February 26, 2016

XYLEM INC. AND SUBSIDIARIES

CONSOLIDATED INCOME STATEMENTS

(In Millions, except per share data)

Year Ended December 31,	2015				2014				2013
Revenue	$	3,653			$	3,916			$	3,837
Cost of revenue	2,249				2,403				2,338
Gross profit	1,404				1,513				1,499
Selling, general and administrative expenses	854				920				990
Research and development expenses	95				104				104
Restructuring and asset impairment charges	6				26				42
Operating income	449				463				363
Interest expense	55				54				55
Other non-operating income (expense), net	—				1				(10		)
Gain from sale of business	9				11				—
Income before taxes	403				421				298
Income tax expense	63				84				70
Net income	$	340			$	337			$	228
Earnings per share:
Basic	$	1.88			$	1.84			$	1.23
Diluted	$	1.87			$	1.83			$	1.22
Weighted average number of shares:
Basic	180.9				183.1				185.2
Diluted	181.7				184.2				186.0
Dividends declared per share	$	0.5632			$	0.5120			$	0.4656

See accompanying notes to consolidated financial statements.

XYLEM INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In Millions)

Year Ended December 31,	2015				2014				2013
Net income	$	340			$	337			$	228
Other comprehensive (loss) income, before tax:
Foreign currency translation adjustment	(180		)		(206		)		15
Foreign currency gain reclassified into net income	(8		)		—				—
Net change in derivative hedge agreements:
Unrealized (losses) gains	(22		)		(22		)		1
Amount of loss reclassified into net income	20				6				—
Net change in postretirement benefit plans:
Net gain (loss)	23				(110		)		34
Prior service credit	1				17				4
Amortization of prior service (credit) cost	(3		)		(1		)		1
Amortization of net actuarial loss into net income	18				11				17
Settlement	—				1				—
Foreign currency translation adjustment	21				20				2
Other comprehensive (loss) income, before tax	(130		)		(284		)		74
Income tax expense (benefits) related to other comprehensive (loss) income	9				(18		)		22
Other comprehensive (loss) income, net of tax	(139		)		(266		)		52
Comprehensive income	$	201			$	71			$	280

See accompanying notes to consolidated financial statements.

XYLEM INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In Millions, except per share amounts)

December 31,	2015				2014
ASSETS
Current assets:
Cash and cash equivalents	$	680			$	663
Receivables, less allowances for discounts, returns and doubtful accounts of $33 and $34 in 2015 and 2014, respectively	749				771
Inventories	433				486
Prepaid and other current assets	143				144
Total current assets	2,005				2,064
Property, plant and equipment, net	439				461
Goodwill	1,584				1,635
Other intangible assets, net	435				470
Other non-current assets	194				203
Total assets	$	4,657			$	4,833
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	338			$	338
Accrued and other current liabilities	407				476
Short-term borrowings and current maturities of long-term debt	78				89
Total current liabilities	823				903
Long-term debt	1,196				1,195
Accrued postretirement benefits	335				388
Deferred income tax liabilities	118				136
Other non-current accrued liabilities	101				84
Total liabilities	2,573				2,706
Commitment and Contingencies (Note 18)
Stockholders’ equity:
Common Stock — par value $0.01 per share:
Authorized 750.0 shares, issued 190.2 and 188.9 shares in 2015 and 2014, respectively	2				2
Capital in excess of par value	1,834				1,796
Retained earnings	885				648
Treasury stock – at cost 11.8 shares and 6.6 shares in 2015 and 2014, respectively	(399		)		(220		)
Accumulated other comprehensive loss	(238		)		(99		)
Total stockholders’ equity	2,084				2,127
Total liabilities and stockholders’ equity	$	4,657			$	4,833

See accompanying notes to consolidated financial statements.

XYLEM INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In Millions)

Year Ended December 31,	2015				2014				2013
Operating Activities
Net income	$	340			$	337			$	228
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation	88				95				99
Amortization	45				47				51
Deferred income taxes	(9		)		(29		)		(14		)
Share-based compensation	15				18				27
Restructuring and asset impairment charges, net	6				26				42
Gain from sale of businesses	(9		)		(11		)		—
Other, net	12				2				15
Payments for restructuring	(14		)		(26		)		(35		)
Contributions to postretirement benefit plans	(25		)		(35		)		(43		)
Changes in assets and liabilities (net of acquisitions):
Changes in receivables	(24		)		(37		)		(47		)
Changes in inventories	23				(49		)		(39		)
Changes in accounts payable	20				17				4
Changes in accrued liabilities	(11		)		3				18
Changes in accrued taxes	(3		)		25				20
Net changes in other assets and liabilities	10				33				(2		)
Net Cash — Operating activities	464				416				324
Investing Activities
Capital expenditures	(117		)		(119		)		(126		)
Proceeds from the sale of property, plant and equipment	—				2				6
Acquisitions of businesses and assets, net of cash acquired	(18		)		—				(81		)
Proceeds from sale of business	1				30				—
Other, net	2				1				2
Net Cash — Investing activities	(132		)		(86		)		(199		)
Financing Activities
(Repayment) issuance of short-term debt, net	(3		)		52				39
Principal payments of debt and capital lease obligations	—				—				(2		)
Repurchase of common stock	(179		)		(134		)		(73		)
Proceeds from exercise of employee stock options	21				26				22
Excess tax benefit from share based compensation	2				2				1
Dividends paid	(102		)		(94		)		(87		)
Other, net	(1		)		1				—
Net Cash — Financing activities	(262		)		(147		)		(100		)
Effect of exchange rate changes on cash	(53		)		(53		)		4
Net change in cash and cash equivalents	17				130				29
Cash and cash equivalents at beginning of year	663				533				504
Cash and cash equivalents at end of year	$	680			$	663			$	533
Supplemental disclosure of cash flow information:
Cash paid during the year for:
Interest	$	52			$	51			$	51
Income taxes (net of refunds received)	$	75			$	81			$	65

See accompanying notes to consolidated financial statements.

XYLEM INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

(In Millions, except per share amounts)

	Common Stock				Capital in Excess of Par Value				Retained Earnings				Accumulated Other Comprehensive Income (Loss)				Treasury Stock				Total
Balance at December 31, 2012	2				1,706				264				115				(13		)		2,074
Net income									228												228
Other comprehensive loss, net													52								52
Dividends declared ($0.4656 per share)									(87		)										(87		)
Stock incentive plan activity					47																47
Repurchase of common stock																	(73		)		(73		)
Balance at December 31, 2013	$	2			$	1,753			$	405			$	167			$	(86	)		$	2,241
Net income									337												337
Other comprehensive income, net													(266		)						(266		)
Dividends declared ($0.5120 per share)									(94		)										(94		)
Stock incentive plan activity					43																43
Repurchase of common stock																	(134		)		(134		)
Balance at December 31, 2014	$	2			$	1,796			$	648			$	(99	)		$	(220	)		$	2,127
Net income									340												340
Other comprehensive income, net													(139		)						(139		)
Dividends declared ($0.5632 per share)									(103		)										(103		)
Stock incentive plan activity					38																38
Repurchase of common stock																	(179		)		(179		)
Balance at December 31, 2015	$	2			$	1,834			$	885			$	(238	)		$	(399	)		$	2,084

See accompanying notes to consolidated financial statements.

XYLEM INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Summary of Significant Accounting Policies

Xylem Inc. (“Xylem” or the “Company”) is a leading equipment and service provider for water and wastewater applications with a broad portfolio of products and services addressing the full cycle of water, from collection, distribution and use to the return of water to the environment. Xylem operates in two segments, Water Infrastructure and Applied Water. The Water Infrastructure segment focuses on the transportation, treatment and testing of water, offering a range of products including water and wastewater pumps, treatment and testing equipment, and controls and systems. The Applied Water segment serves many of the primary uses of water and focuses on the residential, commercial, industrial and agricultural markets. The Applied Water segment’s major products include pumps, valves, heat exchangers, controls and dispensing equipment.

On October 31, 2011 (the "Distribution Date"), ITT Corporation (“ITT”) completed the Spin-off (the “Spin-off”) of Xylem, formerly ITT’s water equipment and services businesses. The Spin-off was completed pursuant to the Distribution Agreement, dated as of October 25, 2011 (the “Distribution Agreement”), among ITT, Exelis Inc., acquired by Harris Inc. on May 29, 2015, (“Exelis”) and Xylem. Xylem Inc. was incorporated in Indiana on May 4, 2011 in connection with the Spin-off.

Hereinafter, except as otherwise indicated or unless the context otherwise requires, “Xylem,” “we,” “us,” “our” and “the Company” refer to Xylem Inc. and its subsidiaries. References in the notes to the consolidated financial statements to “ITT” or “ former parent” refers to ITT Corporation and its consolidated subsidiaries (other than Xylem Inc.).

Basis of Presentation

The consolidated financial statements reflect our financial position and results of operations in conformity with accounting principles generally accepted in the United States of America (“GAAP”). All intercompany transactions between our businesses have been eliminated. Certain prior year amounts have been reclassified to conform to the current year presentation.

In 2014, we implemented an organizational redesign to integrate our commercial teams within geographical regions. While this organizational redesign did not change our reportable segments, it had implications on how we manage our business. These changes and the related measurement system were effective in the fourth quarter 2014 and as a result, we commenced reporting our financial performance at such time based on the new organizational design.

Use of Estimates

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Estimates are revised as additional information becomes available. Estimates and assumptions are used for, but not limited to, postretirement obligations and assets, revenue recognition, income tax contingency accruals and valuation allowances, goodwill and indefinite lived intangible impairment testing and contingent liabilities. Actual results could differ from these estimates.

Consolidation Principles

We consolidate companies in which we have a controlling financial interest or when Xylem is considered the primary beneficiary of a variable interest entity. We account for investments in companies over which we have the ability to exercise significant influence but do not hold a controlling financial interest under the equity method, and we record our proportionate share of income or losses in the Consolidated Income Statements. Equity method investments are reviewed for impairment when events or circumstances indicate the investment may be other than temporarily impaired. This requires significant judgment, including an assessment of the investee’s financial condition, the possibility of subsequent rounds of financing, and the investee’s historical and projected results of operations. If the actual results of operations for the investee are significantly different from projections, we may incur future charges for the impairment of these investments.

Foreign Currency Translation

The national currencies of our foreign companies are generally the functional currencies. Balance sheet accounts are translated at the exchange rate in effect at the end of each period; income statement accounts are translated at the average rates of exchange prevailing during the period. Gains and losses on foreign currency translations are reflected in the cumulative translation adjustments component of stockholders’ equity. Net gains or losses from foreign currency transactions are reported currently in selling, general and administrative expenses.

Revenue Recognition

Revenue is recognized when persuasive evidence of an arrangement exists, the price is fixed or determinable, collectability is reasonably assured and delivery has occurred or services have been rendered. For product sales, other than long-term construction-type contracts, we recognize revenue at the time title, and risks and rewards of ownership pass, which is generally when products are shipped. Certain contracts with customers require delivery, installation, testing, certification or other acceptance provisions to be satisfied before revenue is recognized. We recognize revenue on product sales to channel partners, including resellers, distributors or value-added solution providers at the time of sale when the channel partners have economic substance apart from Xylem and Xylem has completed its obligations related to the sale. Revenue from the rental of equipment is recognized over the rental period. Service revenue is recognized as services are performed.

For agreements that contain multiple deliverables, we recognize revenue based on the relative selling price if the deliverable has stand-alone value to the customer and, in arrangements that include a general right of return relative to the delivered element, performance of the undelivered element is considered probable and substantially in the Company’s control. The selling price for a deliverable is based on vendor-specific objective evidence of selling price (“VSOE”), if available, third-party evidence of selling price (“TPE”) if VSOE is not available, or best estimated selling price, if neither VSOE nor TPE is available.

The deliverables in our arrangements with multiple elements include various products and may include related services, such as installation and start-up services. We allocate arrangement consideration based on the relative selling prices of the separate units of accounting determined in accordance with the hierarchy described above. For deliverables that are sold separately, we establish VSOE based on the price when the deliverable is sold separately. We establish TPE, generally for services, based on prices similarly situated customers pay for similar services from third-party vendors. For those deliverables for which we are unable to establish VSOE or TPE, we estimate the selling price considering various factors including market and pricing trends, geography, product customization, and profit objectives. Revenue for multiple element arrangements is recognized when the appropriate revenue recognition criteria for the individual deliverable have been satisfied.

Certain businesses enter into long-term construction-type sales contracts for which revenue is recognized under the percentage-of-completion method based upon percentage of costs incurred to total estimated costs.

Shipping and Handling Costs

Shipping and handling costs are recorded as a component of cost of revenue.

Share-Based Compensation

Share-based awards issued to employees and members of the Board of Directors include non-qualified stock options, restricted stock awards and performance-based awards. Compensation costs resulting from share-based payment transactions are recognized primarily within selling, general and administrative expenses, at fair value over the requisite service period (typically three years) on a straight-line basis. The calculated compensation cost is adjusted based on an estimate of awards ultimately expected to vest. For performance-based awards, the calculated compensation cost is adjusted based on an estimate of awards ultimately expected to vest and our assessment of the probable outcome of the performance condition.The fair value of a non-qualified stock option is determined on the date of grant using a binomial lattice pricing model incorporating multiple and variable assumptions over time, including assumptions such as employee exercise patterns, stock price volatility and changes in dividends. The fair value of restricted stock awards is determined using the closing price of our common stock on date of grant. The fair value of performance-based share awards at 100% target is determined using the closing price of our common stock on date of grant.

Research and Development

We conduct research and development activities, which consist primarily of the development of new products, product applications, and manufacturing processes. These costs are charged to expense as incurred.

Exit and Disposal Costs

We periodically initiate management-approved restructuring activities to achieve cost savings through reduced operational redundancies and to position ourselves strategically in the market in response to prevailing economic conditions and associated customer demand. Costs associated with restructuring actions can include severance, infrastructure charges to vacate facilities or consolidate operations, contract termination costs and other related charges. For involuntary separation plans, a liability is recognized when it is probable and reasonably estimable. For voluntary separation plans, a liability is recognized when the employee irrevocably accepts the voluntary termination. For one-time termination benefits, such as additional severance pay or benefit payouts, and other exit costs, such as lease termination costs, the liability is measured and recognized initially at fair value in the period in which the liability is incurred, with subsequent changes to the liability recognized as adjustments in the period of change.

Deferred Financing Costs

Deferred financing costs represent costs incurred in conjunction with our debt financing activities and are capitalized in long-term debt and amortized over the life of the related financing arrangements. If the debt is retired early, the related unamortized deferred financing costs are written off in the period the debt is retired and are recorded in the results of operations under the caption “interest expense.”

Income Taxes

Income taxes are calculated using the asset and liability method. Deferred tax assets and liabilities are determined based on the estimated future tax effects of temporary differences between the financial statement carrying amounts and the tax bases of assets and liabilities, as measured by the current enacted tax rates.

We maintain valuation allowances when it is more likely than not that all or a portion of a deferred asset will not be realized. The valuation allowance is intended in part to provide for the uncertainty regarding the ultimate utilization of our U.S. capital loss carryforwards, U.S. foreign tax credit carryovers, and foreign net operating loss carryforwards. In determining whether a valuation allowance is warranted, we consider all positive and negative evidence and all sources of taxable income such as prior earnings history, expected future earnings, carryback and carryforward periods and tax strategies to estimate if sufficient future taxable income will be generated to realize the deferred tax asset. The assessment of the adequacy of our valuation allowance is based on our estimates of taxable income by jurisdiction in which we operate and the period over which our deferred tax assets will be recoverable. In the event that actual results differ from these estimates, or we adjust these estimates in future periods for current trends or expected changes in our estimating assumptions, we may need to modify the level of valuation allowance that could materially impact our business, financial condition and results of operations.

Our effective tax rate reflects the impact of certain undistributed foreign earnings for which we have not provided U.S. taxes because we plan to reinvest such earnings indefinitely outside the United States. We plan foreign earnings remittance amounts based on projected cash flow needs, as well as the working capital and long-term investment requirements of our foreign subsidiaries and our domestic operations. Based on these assumptions, we estimate the amount we will distribute to the United States and provide the U.S. federal taxes due on these amounts. Material changes in our estimates of cash, working capital and long-term investment requirements in the various jurisdictions in which we do business could impact our effective tax rate.

Tax benefits are recognized for an uncertain tax position when, in management’s judgment, it is more likely than not that the position will be sustained upon examination by a taxing authority. For a tax position that meets the more-likely-than-not recognition threshold, the tax benefit is measured as the largest amount that is judged to have a greater than 50% likelihood of being realized upon ultimate settlement with a taxing authority. The liability associated with unrecognized tax benefits is adjusted periodically due to changing circumstances and when new information becomes available. Such adjustments are recognized in the period in which they are identified. The effective tax rate includes the net impact of changes in the liability for unrecognized tax benefits and subsequent adjustments as considered appropriate by management. While it is often difficult to predict the final outcome or the timing of resolution of any particular tax matter, we believe our liability for unrecognized tax benefits is adequate. We classify interest relating to unrecognized tax benefits as a component of other non-operating (expense) income, net and tax penalties as a component of income tax expense in our Consolidated Income Statements.

Earnings Per Share

We present two calculations of earnings per share (“EPS”). “Basic” EPS equals net income divided by weighted average shares outstanding during the period. “Diluted” EPS equals net income divided by the sum of weighted average common shares outstanding during the period plus potentially dilutive shares. Potentially dilutive common shares that are anti-dilutive are excluded from diluted EPS.

Cash Equivalents

We consider all liquid investments purchased with an original maturity of three months or less to be cash equivalents.

Receivables and Allowance for Doubtful Accounts and Discounts

Receivables primarily comprise uncollected amounts owed to us from transactions with customers and are presented net of allowances for doubtful accounts and early payment discounts.

We determine our allowance for doubtful accounts using a combination of factors to reduce our trade receivable balances to their estimated net realizable amount. We maintain an allowance for doubtful accounts based on a variety of factors, including the length of time receivables are past due, macroeconomic trends and conditions, significant one-time events, historical experience and the financial condition of customers. In addition, we record a specific reserve for individual accounts when we become aware of specific customer circumstances, such as in the case of bankruptcy filings or deterioration in the customer’s operating results or financial position. The past due or delinquency status of a receivable is based on the contractual payment terms of the receivable. If circumstances related to the specific customer change, we adjust estimates of the recoverability of receivables as appropriate. We determine our allowance for early payment discounts primarily based on historical experience with customers.

Credit risk with respect to accounts receivable is generally diversified due to the large number of entities comprising our customer base and their dispersion across many different geographical regions. We perform ongoing credit evaluations of the financial condition of our third-party distributors, resellers and other customers and require collateral, such as letters of credit and bank guarantees, in certain circumstances. As of December 31, 2015 and 2014 we do not believe we have any significant concentrations of credit risk.

Inventories

Inventories, which include the costs of material, labor and overhead, are stated at the lower of cost or market using the first in, first out ("FIFO") method. Estimated losses from obsolete and slow-moving inventories are recorded to reduce inventory values to their estimated net realizable value. Our manufacturing operations recognize costs of sales using standard costs with full overhead absorption, which generally approximates actual cost.

Property, Plant and Equipment

These assets are recorded at historical cost and are depreciated using the straight-line method of depreciation over the estimated useful lives as follows:

	Estimated Life
Buildings and improvements	5 to 40 years
Machinery and equipment	2 to 10 years
Furniture and fixtures	3 to 7 years
Equipment held for lease or rental	2 to 10 years

Leasehold improvements are depreciated over the shorter of their estimated useful life or the term of the lease. Costs related to maintenance and repairs that do not prolong the assets' useful lives are expensed as incurred.

Goodwill and Intangible Assets

Goodwill represents purchase consideration paid in a business combination that exceeds the values assigned to the net assets of acquired businesses. Intangible assets include customer relationships, proprietary technology, brands and trademarks, patents, software and other intangible assets. Intangible assets with a finite life are amortized on a straight-line basis over an estimated economic useful life which ranges from 1 to 20 years and is included in selling, general and administrative expense. Certain of our intangible assets, namely certain brands and trademarks, have an indefinite life and are not amortized.

Long-Lived Asset Impairment

Long-lived assets, including intangible assets with finite lives, are amortized and tested for impairment whenever events or changes in circumstances indicate their carrying value may not be recoverable. We assess the recoverability of long-lived assets based on the undiscounted future cash flow the assets are expected to generate and recognize an impairment loss when estimated undiscounted future cash flows expected to result from the use of the asset plus net proceeds expected from disposition of the asset, if any, are less than the carrying value of the asset. When an impairment is identified, we reduce the carrying amount of the asset to its estimated fair value based on a discounted cash flow approach or, when available and appropriate, to comparable market values.

Goodwill and indefinite-lived intangible assets are not amortized, but rather are tested for impairment annually (or more frequently if impairment indicators arise, such as changes to the reporting unit structure, significant adverse changes in the business climate or an adverse action or assessment by a regulator). We conduct our annual impairment testing on the first day of our fourth quarter. For goodwill, the impairment test is a two-step test. In the first step, the estimated fair value of each reporting unit is compared to the carrying value of the net assets assigned to that reporting unit. If the estimated fair value of the reporting unit exceeds its carrying value, goodwill is not impaired and the second step of the impairment test is not performed. If the carrying value of the reporting unit exceeds its estimated fair value, then the second step of the impairment test is performed in order to measure the impairment loss to be recorded, if any. If the carrying value of a reporting unit’s goodwill exceeds its implied fair value, then we record an impairment loss equal to the difference. We estimate the fair value of our reporting units and indefinite-lived intangible assets using an income approach. Under the income approach, we estimate fair value based on the present value of estimated future cash flows.

Product Warranties

We accrue for the estimated cost of product warranties at the time revenue is recognized and record it as a component of cost of revenue. Our product warranty liability reflects our best estimate of probable liability under the terms and conditions of our product warranties offered to customers. We estimate the liability based on our standard warranty terms, the historical frequency of claims and the cost to replace or repair our products under warranty. Factors that impact our warranty liability include the number of units sold, the length of warranty term, historical and anticipated rates of warranty claims and cost per claim. We also record a warranty liability for specific matters. We assess the adequacy of our recorded warranty liabilities quarterly and adjust amounts as necessary.

Postretirement Benefit Plans

The determination of defined benefit pension and postretirement plan obligations and their associated costs requires the use of actuarial computations to estimate participant plan benefits to which the employees will be entitled. The significant assumptions primarily relate to discount rates, expected long-term rates of return on plan assets, rate of future compensation increases, mortality, years of service and other factors. We develop each assumption using relevant company experience in conjunction with market-related data for each individual country in which such plans exist. All actuarial assumptions are reviewed annually with third-party consultants and adjusted as necessary. For the recognition of net periodic postretirement cost, the calculation of the expected return on plan assets is generally derived by applying the expected long-term rate of return on the market-related value of plan assets. The market-related value of plan assets is based on average asset values at the measurement date over the last five years. Actual results that differ from our assumptions are accumulated and amortized on a straight-line basis only to the extent they exceed 10% of the higher of the market-related value or the projected benefit obligation, over the average remaining service period of active participants, or for plans with all or substantially all inactive participants, over the average remaining life expectancy. The fair value of plan assets is determined based on market prices or estimated fair value at the measurement date.

We consider changes to a plan’s benefit formula that eliminate the accrual for future service but continue to allow for future salary increases (i.e. “soft freeze”) a curtailment.

Business Combinations

We allocate the purchase price of acquisitions to the tangible and intangible assets acquired, liabilities assumed, and non-controlling interests in the acquiree based on their estimated fair value at the acquisition date. The excess of the acquisition price over those estimated fair values is recorded as goodwill. Changes to the acquisition date provisional fair values prior to the expiration of the measurement period, a period not to exceed 12 months from date of acquisition, are recorded as an adjustment to the associated goodwill. Changes to the acquisition date fair values after expiration of the measurement period are recorded in earnings. Acquisition-related expenses and restructuring costs, if any, are recognized separately from the business combination and are expensed as incurred.

Derivative Financial Instruments

We record all derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on whether we have elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivatives designated and qualifying as a hedge of the exposure to changes in the fair value of an asset, liability, or firm commitment attributable to a particular risk are considered fair value hedges. Derivatives designated and qualifying as a hedge of the exposure to variability in expected future cash flows, including forecasted transactions, are considered cash flow hedges. Derivatives may also be designated as hedges of the foreign currency exposure of a net investment in a foreign operation. Hedge accounting generally provides for the

matching of the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the hedged risk in a fair value hedge or the earnings effect of the hedged forecasted transactions in a cash flow hedge. We may enter into derivative contracts that are intended to hedge certain risks economically, even though hedge accounting does not apply or we elect not to apply hedge accounting.

The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges of foreign exchange risk is recorded in other comprehensive income ("OCI") and is subsequently reclassified into either revenue or cost of revenue (hedge of sales classified into revenue and hedge of purchases classified into cost of revenue) in the period that the hedged forecasted transaction affects earnings. Any ineffective portion of the change in fair value of the derivative is recognized directly in selling, general and administrative expenses. Our policy is to de-designate cash flow hedges at the time forecasted transactions are recognized as assets or liabilities on a business unit’s balance sheet and report subsequent changes in fair value through selling, general and administrative expenses where the gain or loss due to movements in currency rates on the underlying asset or liability is revalued. If it becomes probable that the originally forecasted transaction will not occur, the gain or loss related to the hedge recorded within accumulated other comprehensive income is immediately recognized into net income.

The effective portion of changes in the fair value of derivatives designated and that qualify as net investment hedges of foreign exchange risk is recorded in OCI. Amounts in OCI are reclassified into earnings at the time the hedged net investment is sold or substantially liquidated. Effectiveness of derivatives designated as net investment hedges is assessed using the forward method. Any ineffective portion of the change in fair value of the derivative is recognized directly in selling, general and administrative expenses.

Commitments and Contingencies

We record accruals for commitments and loss contingencies for those which are both probable and for which the amount can be reasonably estimated. In addition, legal fees are accrued for cases where a loss is probable and the related fees can be reasonably estimated. Significant judgment is required to determine both probability and the estimated amount of loss. We review these accruals quarterly and adjust the accruals to reflect the impact of negotiations, settlements, rulings, advice of legal counsel, and other current information.

Accruals for environmental matters are recorded on a site-by-site basis when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated, based on current law and existing technologies. Our estimated liability is reduced to reflect the anticipated participation of other potentially responsible parties in those instances where it is probable that such parties are legally responsible and financially capable of paying their respective shares of the relevant costs. These accruals are reviewed quarterly and are adjusted as assessment and remediation efforts progress or as additional technical or legal information becomes available. Actual costs to be incurred at identified sites in future periods may vary from the estimates, given inherent uncertainties in evaluating environmental exposures. Accruals for environmental liabilities are primarily included in other non-current liabilities at undiscounted amounts and exclude claims for recoveries from insurance companies or other third parties.

Concentrations of Credit Risk

Financial instruments that potentially subject us to significant concentrations of credit risk consist principally of cash and cash equivalents, and accounts receivable from trade customers. We maintain cash and cash equivalents and derivative contracts with various financial institutions. These financial institutions are located in many different geographical regions, and our policy is designed to limit exposure with any one institution. As part of our cash and risk management processes, we perform periodic evaluations of the relative credit standing of the financial institutions. We have not sustained any material credit losses during the previous three years from instruments held at financial institutions. We may utilize forward contracts to protect against the effects of foreign currency fluctuations. Such contracts involve the risk of non-performance by the counterparty. Credit risk with respect to accounts receivable is generally diversified due to the large number of entities comprising our customer base and their dispersion across many different industries and geographic regions. We perform ongoing credit evaluations of the financial condition of our third-party distributors, resellers and other customers and require collateral, such as letters of credit and bank guarantees, in certain circumstances.

Substantially all of the cash and cash equivalents, including foreign cash balances, at December 31, 2015 and 2014 were uninsured. Foreign cash balances at December 31, 2015 and 2014 were $656 million and $537 million, respectively.

Fair Value Measurements

We determine fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. We use a hierarchical structure to prioritize the inputs to valuation techniques used to measure fair value into three broad levels defined as follows:

•	Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities.

•

Level 2 inputs are other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices (in non-active markets or in active markets for similar assets or liabilities), inputs other than quoted prices that are observable, and inputs that are derived principally from or corroborated by observable market data by correlation or other means.

•	Level 3 inputs are unobservable inputs for the assets or liabilities.

The fair value hierarchy is based on maximizing the use of observable inputs and minimizing the use of unobservable inputs when measuring fair value. Classification within the fair value hierarchy is based on the lowest level input that is significant to the fair value measurement.

NAV Practical Expedient is the measurement of fair value using the net asset value ("NAV") per share (or its equivalent) practical expedient as an alternative to the fair value hierarchy as discussed above.

Note 2. Recently Issued Accounting Pronouncements

Pronouncements Not Yet Adopted

In February 2016, the Financial Accounting Standards Board (“FASB”) issued guidance amending the accounting for leases. Specifically, the amended guidance requires all lessees to record a lease liability at lease inception, with a corresponding right of use asset, except for short-term leases. Lessor accounting is not fundamentally changed. This amended guidance is effective for interim and annual periods beginning after December 15, 2018 using a modified retrospective approach. Early adoption is permitted. We are evaluating the impact of the guidance on our financial condition and results of operations.

In January 2016, the FASB issued guidance amending the classification and measurement of financial instruments. Specifically, the amended guidance (1) requires equity securities with readily determinable fair values to be measured at fair value with changes in fair value recognized through net income (2) simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative impairment assessment at each reporting period and requiring any impaired investment be measured at fair value (3) requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset on the balance sheet or accompanying notes to the financial statements and (4) eliminates the requirement to disclose the methods and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at cost on the balance sheet. This amended guidance is effective for interim and annual periods beginning after December 15, 2017 by means of a cumulative-effect adjustment to the balance sheet as of the beginning of the year of adoption. Early adoption is permitted for fiscal years or interim periods for which the applicable financial statements have not been issued. We are evaluating the impact of the guidance on our financial condition and results of operations.

In July 2015, the FASB issued guidance regarding simplifying the measurement of inventory. Under prior guidance, inventory is measured at the lower of cost or market, where market is defined as replacement cost, with a ceiling of net realizable value and a floor of net realizable value less a normal profit margin. The amended guidance requires the measurement of inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This guidance is effective prospectively for interim and annual periods beginning after December 15, 2016 and early application is permitted. We are evaluating the impact of the guidance on our financial condition and results of operations.

In May 2014, the FASB issued guidance on recognizing revenue from contracts with customers. The guidance outlines a single comprehensive model to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The core principle of the model is that an entity recognizes revenue to portray the transfer of goods and services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The standard also expands disclosure requirements regarding revenue recognition. This guidance is effective for interim and annual reporting periods beginning after December 15, 2017 and may be applied retrospectively to each prior period presented or with the cumulative effect recognized as of the date of initial

application. Early adoption is permitted for interim and annual reporting periods beginning after December 15, 2016. We are evaluating the impact of the guidance on our financial condition and results of operations.

Recently Adopted Pronouncements

In November 2015, the FASB issued guidance that changes the presentation of deferred income taxes. Under prior accounting guidance deferred income tax liabilities and assets are separated into current and noncurrent amounts in an entity’s balance sheet. The guidance requires that deferred income tax liabilities and assets be classified as noncurrent in an entity’s balance sheet. This guidance may be applied prospectively or retrospectively to all deferred income tax balances. We elected to early adopt this guidance effective the fourth quarter of 2015 on a retrospective basis. Accordingly, $71 million and $118 million are reflected in noncurrent deferred tax assets and noncurrent deferred tax liabilities, respectively as of December 31, 2015. Additionally, $38 million of current deferred tax assets and $5 million of current deferred tax liabilities were reclassified to noncurrent deferred tax assets and liabilities as of December 31, 2014 resulting in total noncurrent deferred tax assets and noncurrent deferred tax liabilities of $90 million and $136 million, respectively.

In September 2015, the FASB issued guidance regarding simplifying the accounting for measurement-period adjustments attributable to an acquisition. Under prior guidance, adjustments to provisional amounts during the measurement period that arise due to new information regarding acquisition date circumstances must be made retrospectively with a corresponding adjustment to goodwill. The amended guidance requires an acquirer to record adjustments to provisional amounts made during the measurement period in the period that the adjustment is determined. The adjustments should reflect the impact on earnings of changes in depreciation, amortization, or other income effects, if any, as if the accounting had been completed as of the acquisition date. Additionally, amounts recorded in the current period that would have been reflected in prior reporting periods if the adjustments had been recognized as of the acquisition date must be disclosed either on the face of the income statement or in the notes to financial statements. This guidance is effective prospectively for interim and annual periods beginning after December 15, 2015. We elected to early adopt this guidance effective the fourth quarter of 2015. Our adoption of this guidance did not have any impact on our financial condition or results of operations.

In May 2015, the FASB issued guidance regarding the disclosure of investments which are valued at fair value using the net asset value ("NAV") per share practical expedient. Investments measured at NAV per share using the practical expedient will be presented as a reconciling item between the fair value hierarchy disclosure and the balance sheet. The amended guidance removes the requirement to categorize such investments within the fair value hierarchy. The amendment also removes the requirement to make certain disclosures for all investments that are eligible to be measured at fair value using the NAV per share practical expedient, instead limiting such disclosures to those investments measured at fair value using the NAV practical expedient. This guidance is effective for interim and annual periods beginning after December 15, 2015. The guidance must be applied retrospectively and early adoption is permitted. We elected to early adopt this guidance effective the fourth quarter of 2015. Adoption of this guidance did not have an impact on our financial condition and results of operations.

In April 2015, the FASB issued guidance which changes the presentation of debt issuance costs in the balance sheet. Under prior guidance, debt issuance costs are reflected on the balance sheet as an asset. This amendment requires such costs to be reflected as a direct deduction to the related debt liability, with retrospective application upon adoption. Subsequently, in August 2015, the FASB issued additional guidance indicating that debt issuance costs associated with line-of-credit arrangements may be presented as an asset and amortized over the term of the line-of-credit arrangement. We elected to early adopt these standards effective the first and third quarter of 2015, respectively. Accordingly, $4 million of debt issuance costs were reflected within long-term debt as of December 31, 2015 and December 31, 2014. These costs were previously recorded within other non-current assets.

In April 2015, the FASB issued guidance regarding whether a cloud computing arrangement includes a software license. If a cloud computing arrangement includes a software license then the software license element of the arrangement should be accounted for in a manner that is consistent with accounting for the acquisition of other software licenses. If a cloud computing arrangement does not include a software license then the arrangement should be accounted for as a service contract. This guidance is effective for interim and annual periods beginning after December 15, 2015. The guidance may be applied (1) retrospectively or (2) prospectively to arrangements entered into, or materially modified after the effective date. Early adoption is permitted. We elected to early adopt this standard effective in the second quarter of 2015 with retrospective application. Our adoption of this guidance did not have any impact on our financial condition or results of operations.

In February 2015, the FASB issued guidance which amends the requirements to determine whether a company needs to consolidate certain legal entities into its reported financial statements. Specifically, the amendment: (1) modifies the evaluation of whether limited partnerships and similar legal entities are variable interest entities

(“VIEs”) or voting interest entities, (2) eliminates the presumption that a general partner should consolidate a limited partnership and (3) affects the consolidation analysis of reporting entities that are involved with VIEs. This guidance is effective for interim and annual reporting periods beginning after December 15, 2015 and may be applied retrospectively to each prior period presented or with the cumulative effect recognized as of the date of initial application. We elected to early adopt this standard effective in the second quarter of 2015 with retrospective application. Our adoption of this guidance did not have any impact on our financial condition or results of operations.

In January 2015, the FASB issued guidance which eliminates from GAAP the concept of an extraordinary item. Under prior guidance, an event or transaction must be unusual in nature and must occur infrequently to be considered an extraordinary item. Additionally, under prior guidance extraordinary items are separately presented in a company’s income statement and disclosed in the footnotes to the company’s financial statements. As a result of the new guidance regarding extraordinary items, a company will no longer (1) segregate an extraordinary item from the results of ordinary operations, (2) separately present an extraordinary item on its income statement, and (3) disclose income taxes and earnings-per-share data applicable to an extraordinary item. We elected to early adopt this standard effective in the first quarter of 2015 with retrospective application. Our adoption of this guidance did not have any impact on our financial condition or results of operations.

In June 2014, as a result of inconsistency in practice, the FASB issued guidance related to the recognition of compensation on employee share-based payments in which the terms of the award provide that a performance target that affects vesting could be achieved after the requisite service period. The standard states that the performance target should not be reflected in estimating the grant date fair value of the award. Compensation cost should be recognized in the period in which it becomes probable that the performance target will be achieved and should represent the compensation cost attributable to the periods for which the service has already been rendered. If the performance target becomes probable of being achieved before the end of the requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. We elected to early adopt this guidance effective in the first quarter of 2015 with retrospective application. Our adoption of this guidance did not have any impact on our financial condition or results of operations as we were using the accounting prescribed in the new guidance.

In April 2014, the FASB issued guidance related to the reporting of discontinued operations. The guidance states that the disposal of a business or operation is required to be reported as discontinued operations if the disposal represents a strategic shift that will have a major effect on an entity’s operations and financial results. The guidance also expands disclosures about discontinued operations and the disposal of significant businesses that did not qualify for discontinued operations presentation. This standard is effective prospectively, for disposals (or businesses that qualify as “held for sale”) that occur within annual periods beginning on or after December 15, 2014 and interim periods within those years. Our adoption of this guidance effective in the first quarter of 2015 did not have any impact on our financial condition or results of operations.

In January 2014, the FASB issued guidance related to service concession arrangements. A service concession arrangement is an arrangement between a public-sector entity grantor and an operating entity under which the operating entity operates the grantor's infrastructure (for example, airports, roads and bridges). The guidance states that service concession arrangements should not be accounted for under the guidance of Accounting Standards Codification Topic 840, Leases, but rather other guidance as deemed appropriate. This guidance is effective for interim and reporting periods beginning on or after December 15, 2014. The guidance requires opening retained earnings in the year of adoption to reflect the cumulative historical impact of any arrangements existing at the date of adoption, and the new guidance to be applied to the financial statements on a prospective basis. Our adoption of this guidance effective in the first quarter of 2015 did not have any impact on our financial condition or results of operations.

Note 3. Acquisitions and Divestitures

2015 Acquisition and Divestitures

Hypack

On October 22, 2015, we acquired substantially all of the assets of Hypack, Inc. ("Hypack"), a leading provider of hydrographic software worldwide, for approximately $18 million. Hypack, a privately-owned company headquartered in Middletown, Connecticut, has approximately 30 employees and annual revenue of approximately $8 million. Our consolidated financial statements include Hypack's results of operations prospectively from October 22, 2015 within the Water Infrastructure segment.

During 2015, we divested two businesses within our Water Infrastructure segment for $1 million, which were not material, individually or in the aggregate, to our results of operations or financial position. The sales resulted in a gain of $9 million, reflected in gain from sale of businesses in our Consolidated Income Statement.

2014 Divestiture

On July 2, 2014, we divested our Wolverhampton, U.K.-based pneumatic and hydraulic valves business for approximately $30 million. The sale resulted in a gain of $11 million, reflected in gain from sale of business in our Consolidated Income Statement. The business, which was part of our Applied Water segment, provided a wide range of products, primarily to industrial original equipment manufacturer customers in the oil and gas sector. The business reported 2013 annual revenue of approximately $25 million.

2013 Acquisitions

During 2013, we spent $84 million ($81 million, net of cash acquired) on acquisitions. As the acquisitions were not material, individually or in the aggregate, to results of operations, pro forma results of operations reflecting results prior to the acquisitions and certain other disclosure items have not been presented.

MultiTrode

On March 1, 2013 we acquired MultiTrode Pty Ltd ("MultiTrode"), a water and wastewater technology and services company based in Australia, for approximately $26 million. MultiTrode offers advanced monitoring and control technologies to municipal and private water and waste water authorities as well as industrial clients. The company had approximately 60 employees and generated revenue of approximately $13 million in its fiscal year ended June 30, 2012. Our consolidated financial statements include MultiTrode's results of operations prospectively from March 1, 2013 within the Water Infrastructure segment.

PIMS

On February 5, 2013 we acquired PIMS Group ("PIMS"), a wastewater services company based in the United Kingdom, for approximately $57 million, including a cash payment of $55 million and the assumption of certain liabilities. PIMS is a supplier of wastewater installation and maintenance services for the private sector, municipal and industrial markets. The company had approximately 220 employees and generated revenue of approximately $38 million for its fiscal year ended April 30, 2012. Our consolidated financial statements include PIMS' results of operations prospectively from February 5, 2013 within the Water Infrastructure segment.

Note 4. Restructuring and Asset Impairment Charges

From time to time, the Company will incur costs related to restructuring actions in order to optimize our cost base and more strategically position ourselves based on the economic environment and customer demand. During 2015, 2014 and 2013, the costs incurred primarily relate to the reduction in structural costs, including the elimination of headcount and consolidation of facilities primarily within our Water Infrastructure and Applied Water segments. The components of restructuring and asset impairment charges incurred during each of the previous three years ended are presented below.

		Year Ended December 31,
(in millions)		2015				2014				2013
By component:
Severance and other charges		$	7			$	26			$	38
Lease related charges		—				1				2
Reversal of restructuring accruals		(1		)		(1		)		—
Total restructuring charges		6				26				40
Asset impairment		—				—				2
Total restructuring and asset impairment charges		$	6			$	26			$	42
By segment:
Water Infrastructure		$	5			$	19			$	33
Applied Water		1				6				9
Corporate and other		—				1				—

Restructuring

The following table displays a rollforward of the restructuring accruals, presented on our Consolidated Balance Sheet within accrued and other current liabilities, for the years ended December 31, 2015 and 2014.

(in millions)		2015				2014
Restructuring accruals - January 1		$	12			$	13
Restructuring charges		6				26
Cash payments		(14		)		(26		)
Foreign currency and other		(1		)		(1		)
Restructuring accruals - December 31		$	3			$	12
By segment:
Water Infrastructure		$	1			$	5
Applied Water		1				3
Regional selling locations (a)		1				3
Corporate and other		—				1

(a)	Regional selling locations consist primarily of selling and marketing organizations that incurred restructuring expense which was allocated to the segments. The liabilities associated with restructuring expense were not allocated to the segments.

The following is a rollforward of employee position eliminations associated with restructuring activities for the years ended December 31, 2015 and 2014.

		2015			2014
Planned reductions - January 1		133			51
Additional planned reductions		87			320
Actual reductions		(138	)		(238	)
Planned reductions - December 31		82			133

Total expected costs associated with actions for Water Infrastructure that commenced during 2015 are approximately $5 million. These costs primarily consist of severance charges. Approximately $4 million of the expected cost was incurred in 2015. We currently expect activity related to these actions to continue through the second quarter of 2016. Total expected costs associated with actions for Applied Water that commenced during 2015 are approximately $1 million. These costs primarily consist of severance charges. Substantially all of the costs associated with these actions have been incurred in 2015.

Total expected costs associated with actions for Water Infrastructure that commenced during 2014 are approximately $19 million. The actions are substantially complete with approximately $18 million of the expected cost was incurred in 2014 and $1 million was incurred during 2015. Total expected costs associated with actions for Applied Water that commenced during 2014 are approximately $6 million. Substantially all of the costs associated with these actions have been incurred in 2014.

Total expected costs associated with actions for Water Infrastructure that commenced during 2013 are approximately $32 million. The actions are substantially complete with approximately $31 million of the expected cost was incurred in 2013 and $1 million was incurred during 2014. Total expected costs associated with actions for Applied Water that commenced during 2013 are approximately $8 million. Substantially all of the costs associated with these actions have been incurred in 2013.

Asset Impairment Charges

During the fourth quarter of 2013 we performed our annual impairment test of our indefinite-lived intangibles assets, which resulted in an impairment charge of $2 million related to trade names within our Water Infrastructure segment. The charge was calculated using an income approach, which is considered a Level 3 input for fair value measurement, and is reflected in “Restructuring and asset impairment charges” in our Consolidated Income Statement.

Note 5. Other Non-Operating Income (Expense), Net

The components of other non-operating income (expense), net are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Interest income	$	2			$	2			$	3
Income from joint ventures	3				2				2
Other expense – net (a)	(5		)		(3		)		(15		)
Total other non-operating income (expense), net	$	—			$	1			$	(10	)

(a) 2013 includes $10 million of expense incurred under the Tax Matters Agreement with ITT. Refer to Note 6 "Income Taxes" for additional information regarding the Tax Matters Agreement.

Note 6. Income Taxes

The source of pre-tax income and the components of income tax expense are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Income components:
Domestic	$	116			$	118			$	49
Foreign	287				303				249
Total pre-tax income	$	403			$	421			$	298
Income tax expense components:
Current:
Domestic – federal	$	32			$	44			$	37
Domestic – state and local	6				7				1
Foreign	34				62				46
Total Current	72				113				84
Deferred:
Domestic – federal	$	1			$	(14	)		$	(6	)
Domestic – state and local	1				—				—
Foreign	(11		)		(15		)		(8		)
Total Deferred	(9		)		(29		)		(14		)
Total income tax provision	$	63			$	84			$	70
Effective income tax rate	15.6		%		19.8		%		23.5		%

Reconciliations between taxes at the U.S. federal income tax rate and taxes at our effective income tax rate on earnings before income taxes are as follows:

	Year Ended December 31,
	2015			2014			2013
Tax provision at U.S. statutory rate	35.0	%		35.0	%		35.0	%
Increase (decrease) in tax rate resulting from:
State income taxes	1.0			1.0			0.7
Settlements of tax examinations	0.5			0.4			—
Valuation allowance	8.6			22.9			39.4
Tax exempt interest	(13.1	)		(26.3	)		(43.0	)
Foreign tax rate differential	(7.2	)		(4.2	)		(4.1	)
Repatriation of foreign earnings, net of foreign tax credits	0.2			(1.7	)		5.1
Tax incentives	(7.8	)		(6.2	)		(8.1	)
Other – net	(1.6	)		(1.1	)		(1.5	)
Effective income tax rate	15.6	%		19.8	%		23.5	%

We operate under tax incentives, which are effective January 2013 through December 2023 and may be extended if certain additional requirements are satisfied. The tax incentives are conditional upon our meeting and maintaining certain employment thresholds. The inability to meet the thresholds would have a prospective impact and at this time we continue to believe we will meet the requirements.

Deferred tax assets and liabilities are determined based on temporary differences between the financial reporting and tax bases of assets and liabilities, applying enacted tax rates in effect for the year in which we expect the differences will reverse.

The following is a summary of the components of the net deferred tax assets and liabilities recognized in the Consolidated Balance Sheets:

	December 31,
(in millions)	2015				2014
Deferred tax assets:
Employee benefits	$	106			$	124
Accrued expenses	24				25
Loss and other tax credit carryforwards	285				456
Inventory	7				6
Other	3				3
	425				614
Valuation allowance	(248		)		(427		)
Net deferred tax asset	$	177			$	187
Deferred tax liabilities:
Intangibles	$	168			$	173
Investment in foreign subsidiaries	4				8
Property, plant, and equipment	17				22
Other	35				30
Total deferred tax liabilities	$	224			$	233

Management assesses the available positive and negative evidence to estimate if sufficient future taxable income will be generated to realize existing deferred tax assets. On the basis of this evaluation, as of December 31, 2015, a valuation allowance of $248 million has been established to reduce the deferred income tax asset related to certain U.S. and foreign net operating losses, and U.S. and foreign capital loss carryforwards.

A reconciliation of our valuation allowance on deferred tax assets is as follows:

(in millions)	2015				2014				2013
Valuation allowance — January 1	$	427			$	349			$	229
Change in assessment	(5		)		(4		)		—
Current year operations	39				100				118
Foreign currency and other (a)	(213		)		(18		)		2
Valuation allowance — December 31	$	248			$	427			$	349

(a) Included in foreign currency and other in 2015 is the reduction of a net operating loss that was subject to a valuation allowance of $176 million.

Deferred taxes are classified net of unrecognized tax benefits in the Consolidated Balance Sheets as follow

	December 31,
(in millions)	2015				2014
Non-current assets	$	71			$	90
Non-current liabilities	(118		)		(136		)
Total net deferred tax liabilities	$	(47	)		$	(46	)

Tax attributes available to reduce future taxable income begin to expire as follows:

(in millions)	December 31, 2015				First Year of Expiration
U.S. net operating loss	$	8			December 31, 2024
State net operating loss	53				December 31, 2016
U.S. tax credits	43				December 31, 2020
Foreign net operating loss	897				December 31, 2018

The foreign tax credit for financial statement purposes differs from the amount for tax return purposes due to unrecognized tax benefits.

As of December 31, 2015, we have provided a deferred tax liability of $4 million on the excess of $41 million of financial reporting over the tax basis of investments in certain foreign subsidiaries that has not been indefinitely reinvested. However, we have not provided for deferred taxes on the excess of financial reporting over the tax basis of investments in certain foreign subsidiaries in the amount of $1.9 billion because we plan to reinvest such amounts indefinitely outside the U.S. The determination of the amount of federal and state income taxes is not practicable because of complexities of the hypothetical calculation.

Unrecognized Tax Benefits

We recognize tax benefits from uncertain tax positions only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the consolidated financial statements from such positions are measured based on the largest benefit that has a greater than 50% likelihood of being realized upon ultimate settlement. A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows:

(in millions)	2015				2014				2013
Unrecognized tax benefits — January 1	$	44			$	30			$	8
Additions for:
Current year tax positions	4				9				23
Prior year tax positions	1				7				—
Reductions for:
Settlements	(2		)		(2		)		(1		)
Unrecognized tax benefits — December 31	$	47			$	44			$	30

The amount of unrecognized tax benefits at December 31, 2015 was $47 million which, if ultimately recognized, will reduce our annual effective tax rate. We believe that it is reasonably possible that the unrecognized tax benefits will be reduced by $22 million within the next twelve months.

In many cases, unrecognized tax benefits are related to tax years that remain subject to examination by the relevant taxing authorities. By virtue of previously filed separate company tax returns including tax returns filed by ITT, we are routinely under audit by federal, state, local and foreign taxing authorities. These audits include questioning the timing and the amount of deductions and the allocation of income among various tax jurisdictions. Income taxes payable include amounts considered sufficient to pay assessments that may result from examination of prior year returns; however, the amount paid upon resolution of issues raised may differ from the amount provided. Differences between the reserves for tax contingencies and the amounts owed by the company are recorded in the period they become known. Under the Tax Matters Agreement, as discussed below, ITT assumes all consolidated tax liabilities and related interest and penalties for the pre-spin period.

The following table summarizes our earliest open tax years by major jurisdiction:

Jurisdiction		Earliest Open Year
Germany		2009
Italy		2010
Luxembourg		2011
Sweden		2010
Switzerland		2011
United Kingdom		2011
United States		2012

We classify interest relating to unrecognized tax benefits as a component of other non-operating (expense) income, net and tax penalties as a component of income tax expense in our Consolidated Income Statements. The amount of accrued interest relating to unrecognized tax benefits as of December 31, 2015 and 2014 was $1 million.

Tax Matters Agreement

In connection with the Spin-off, Xylem, ITT and Exelis entered into a Tax Matters Agreement. Under the agreement, we may be obligated to make payments to ITT and Exelis under certain conditions. These conditions include a payment to ITT in the event audit settlement payments exceed amounts specified in the agreement.

During 2015, ITT effectively settled the Federal income tax audit for the period including the year of the Spin-Off which resulted in a closing of the Federal Tax Audit portion of the Tax Matters Agreement. In connection with that, Xylem has accrued a liability of $9 million. While the U.S. State Income Tax Audit and Non U.S. Audit portion of the Tax Matters Agreement remain operational, we have not accrued a liability.

Note 7. Earnings Per Share

The following is a reconciliation of the shares used in calculating basic and diluted net earnings per share.

	Year Ended December 31,
	2015				2014				2013
Net Income (in millions)	$	340			$	337			$	228
Shares (in thousands):
Weighted average common shares outstanding	180,854				183,030				185,082
Add: Participating securities (a)	39				47				134
Weighted average common shares outstanding — Basic	180,893				183,077				185,216
Plus incremental shares from assumed conversions: (b)
Dilutive effect of stock options	465				643				264
Dilutive effect of restricted stock	379				529				558
Weighted average common shares outstanding — Diluted	181,737				184,249				186,038
Basic earnings per share	$	1.88			$	1.84			$	1.23
Diluted earnings per share	$	1.87			$	1.83			$	1.22

(a)	Restricted stock awards containing rights to non-forfeitable dividends that participate in undistributed earnings with common shareholders are considered participating securities for purposes of computing earnings per share.

(b)Incremental shares from stock options, restricted stock and performance share units are computed by the treasury stock method. The weighted average shares listed below were not included in the computation of diluted earnings per share because to do so would have been anti-dilutive for the periods presented or were otherwise excluded under the treasury stock method. The treasury stock method calculates dilution assuming the exercise of all in-the-money options and vesting of restricted stock and performance share awards, reduced by the repurchase of shares with the proceeds from the assumed exercises, unrecognized compensation expense for outstanding awards and the estimated tax benefit of the assumed exercises. Performance share units will be included in the treasury stock calculation of diluted earnings per share upon achievement of underlying performance conditions. See Note 15, "Stock-Based Compensation Plans" for further detail on the performance share units.

	Year Ended December 31,
(in thousands)	2015			2014			2013
Stock options	2,616			2,720			4,126
Restricted shares	723			525			703
Performance shares	181			119			80

Note 8. Inventories

The components of total inventories are summarized as follows:

	December 31,
(in millions)	2015				2014
Finished goods	$	213			$	194
Work in process	32				42
Raw materials	188				250
Total inventories	$	433			$	486

Note 9. Property, Plant and Equipment

The components of total property, plant and equipment, net are as follows:

	December 31,
(in millions)	2015				2014
Land, buildings and improvements	$	240			$	252
Machinery and equipment	650				655
Equipment held for lease or rental	205				207
Furniture and fixtures	79				87
Construction work in progress	46				41
Other	19				23
Total property, plant and equipment, gross	1,239				1,265
Less accumulated depreciation	800				804
Total property, plant and equipment, net	$	439			$	461

Depreciation expense was $88 million, $95 million, and $99 million for 2015, 2014, and 2013, respectively.

Note 10. Goodwill and Other Intangible Assets

Changes in the carrying value of goodwill by operating segment during the years ended December 31, 2015 and 2014 are as follows:

(in millions)	Water Infrastructure				Applied Water				Total
Balance as of December 31, 2013	$	1,149			$	569			$	1,718
Activity in 2014
Divestiture (a)	—				(6		)		(6		)
Foreign currency and other	(51		)		(26		)		(77		)
Balance as of December 31, 2014	$	1,098			$	537			$	1,635
Activity in 2015
Acquired (a)	10				—				10
Foreign currency and other	(42		)		(19		)		(61		)
Balance as of December 31, 2015	$	1,066			$	518			$	1,584

(a)	On July 2, 2014, we divested our Wolverhampton, U.K.-based pneumatic and hydraulic valves business which had $6 million of goodwill associated with the business. On October 22, 2015, we acquired substantially all of the assets of Hypack, Inc. and recorded $10 million of goodwill. Refer to Note 3, "Acquisitions and Divestitures" for additional information.

During the fourth quarter of 2015, we performed our annual impairment assessment and determined that the estimated fair values of our goodwill reporting units were in excess of each of their carrying values. However, future goodwill impairment tests could result in a charge to earnings. We will continue to evaluate goodwill on an annual basis as of the beginning of our fourth quarter and whenever events and changes in circumstances indicate there may be a potential impairment.

Other Intangible Assets

Information regarding our other intangible assets is as follows:

(in millions)	December 31, 2015												December 31, 2014
	Carrying Amount				Accumulated Amortization				Net Intangibles				Carrying Amount				Accumulated Amortization				Net Intangibles
Customer and distributor relationships	$	320			$	(140	)		$	180			$	331			$	(122	)		$	209
Proprietary technology and patents	116				(54		)		62				116				(49		)		67
Trademarks	35				(19		)		16				36				(17		)		19
Software (a)	155				(110		)		45				145				(106		)		39
Other	8				(8		)		—				9				(9		)		—
Indefinite-lived intangibles	132				—				132				136				—				136
Other intangibles	$	766			$	(331	)		$	435			$	773			$	(303	)		$	470

(a)	The December 31, 2014 carrying amount of software was previously included within other non-current assets on the Consolidated Balance Sheets and is now being reflected within other intangible assets to conform to a current period change in balance sheet presentation.

We determined that no impairment of the indefinite-lived intangibles existed as of the measurement date of our annual impairment assessment in 2015 or 2014. Future impairment tests could result in a charge to earnings. We will continue to evaluate the indefinite-lived intangible assets on an annual basis as of the beginning of our fourth quarter and whenever events and changes in circumstances indicate there may be a potential impairment.

Customer and distributor relationships, proprietary technology and patents, trademarks, software and other are amortized over weighted average lives of approximately 13 years, 19 years, 16 years, 5 years and 6 years, respectively.

Total amortization expense for intangible assets was $45 million, $47 million, and $51 million for 2015, 2014 and 2013, respectively.

Estimated amortization expense for each of the five succeeding years is as follows:

(in millions)
2016	$	44
2017	43
2018	40
2019	36
2020	34

Note 11. Derivative Financial Instruments

Risk Management Objective of Using Derivatives

We are exposed to certain risks arising from both our business operations and economic conditions, and principally manage our exposures to these risks through management of our core business activities. Certain of our foreign operations expose us to fluctuations of foreign interest rates and exchange rates that may impact revenue, expenses, cash receipts, cash payments, and the value of our stockholders' equity. We enter into derivative financial instruments to protect the value or fix the amount of certain cash flows in terms of the functional currency of the business unit with that exposure and reduce the volatility in stockholders' equity.

Cash Flow Hedges of Foreign Exchange Risk

We are exposed to fluctuations in various foreign currencies against our functional currencies. We use foreign currency derivatives, including currency forward agreements, to manage our exposure to fluctuations in the various exchange rates. Currency forward agreements involve fixing the foreign currency exchange rate for delivery of a specified amount of foreign currency on a specified date.

Certain business units with exposure to foreign currency exchange risks have designated certain currency forward agreements as cash flow hedges of forecasted intercompany inventory purchases and sales. Our principal currency exposures relate to the Euro, Swedish Krona, British Pound, Canadian Dollar, Polish Zloty, Australian Dollar and Hungarian Forint. We held forward foreign exchange contracts with purchase notional amounts totaling $94 million and $355 million as of December 31, 2015 and 2014, respectively. As of December 31, 2015, our most significant foreign currency derivatives include contracts to purchase Swedish Krona and sell Euro, sell U.S. Dollar and purchase Euro, and to sell British Pound and purchase Euro. The purchased notional amounts associated with these currency derivatives are $51 million, $24 million and $12 million, respectively. As of December 31, 2014, our most significant foreign currency derivatives include contracts to purchase Swedish Krona and sell Euro, sell U.S. Dollar and purchase Euro, and to sell British Pound and purchase Euro. The purchase notional amounts associated with these currency derivatives were $140 million, $85 million and $51 million, respectively.

Hedges of Net Investments in Foreign Operations

We are exposed to changes in foreign currencies impacting our net investments held in foreign subsidiaries. Beginning in 2015, we entered into cross currency swaps to manage our exposure to fluctuations in the Euro-U.S. Dollar exchange rate. The total notional amount of derivative instruments designated as net investment hedges was $411 million as of December 31, 2015.

The table below presents the effect of our derivative financial instruments on the Consolidated Income Statements and Statements of Comprehensive Income.

		Year Ended December 31,
(in millions)		2015				2014				2013
Derivatives in Cash Flow Hedges
Foreign Exchange Contracts
Amount of (loss) gain recognized in OCI (a)		$	(5	)		$	(22	)		$	1
Amount of loss (gain) reclassified from OCI into revenue (a)		19				5				(2		)
Amount of loss reclassified from OCI into cost of revenue (a)		1				1				2
Derivatives in Net Investment Hedges
Amount of (loss) recognized in OCI (a)		$	(17	)		$	—			$	—

(a)	Effective portion

As of December 31, 2015, $1 million of the net gains on cash flow hedges is expected to be reclassified into earnings in the next 12 months. The ineffective portion of the change in fair value of a cash flow hedge is excluded from effectiveness testing and is recognized immediately in selling, general and administrative expenses in the Consolidated Income Statements and was not material for 2015, 2014, and 2013.

As of December 31, 2015, no gains or losses on the net investment hedges are expected to be reclassified into earnings over the next 12 months. The net investment hedges did not experience any ineffectiveness for 2015.

The fair values of our derivative assets and liabilities are measured on a recurring basis using Level 2 inputs and are determined through the use of models that consider various assumptions including yield curves, time value and other measurements.

The fair values of our derivative contracts currently included in our hedging program were as follows:

	December 31,
(in millions)	2015				2014
Derivatives designated as hedging instruments
Assets
Cash Flow Hedges
Other current assets	$	2			$	1
Liabilities
Cash Flow Hedges
Other current liabilities	—				(13		)
Net Investment Hedges
Other non-current liabilities	(18		)		—

Note 12. Accrued and Other Current Liabilities

	December 31,
(in millions)	2015				2014
Compensation and other employee-benefits	$	156			$	186
Customer-related liabilities	64				66
Accrued warranty costs	33				31
Accrued taxes	64				77
Other accrued liabilities	90				116
Total accrued and other current liabilities	$	407			$	476

Note 13. Credit Facilities and Long-Term Debt

Total debt outstanding is summarized as follows:

	December 31,
(in millions)	2015				2014
3.550% Senior Notes due 2016 (a)	$	600			$	600
4.875% Senior Notes due 2021 (a)	600				600
Research and Development Facility Agreement	76				84
Other	2				5
Debt issuance costs and unamortized discount (b)	(4		)		(5		)
Total debt	1,274				1,284
Less: short-term borrowings and current maturities of long-term debt	78				89
Total long-term debt	$	1,196			$	1,195

(a)

The fair value of our Senior Notes (as defined below) was determined using quoted prices in active markets for identical securities, which are considered Level 1 inputs. The fair value of our Senior Notes due 2016 (as defined below) was $607 million and $621 million as of December 31, 2015 and 2014, respectively. The fair value of our Senior Notes due 2021 (as defined below) was $640 million and $653 million as of December 31, 2015 and 2014, respectively.

(b)	The debt issuance costs and unamortized discount is recognized as a reduction in the carrying value of the Senior Notes in the Consolidated Balance Sheets and is being amortized to interest expense in our Consolidated Income Statements over the expected remaining terms of the Senior Notes.

Senior Notes

On September 20, 2011, we issued 3.550% Senior Notes of $600 million aggregate principal amount due September 2016 (the "Senior Notes due 2016") and 4.875% Senior Notes of $600 million aggregate principal amount due October 2021 (the "Senior Notes due 2021" and together with the Senior Notes due 2016, the “Senior Notes”).

The Senior Notes include covenants which restrict our ability, subject to exceptions, to incur debt secured by liens and engage in sale and leaseback transactions, as well as provide for customary events of default (subject, in certain cases, to receipt of notice of default and/or customary grace and cure periods). We may redeem the Senior Notes, as applicable, in whole or in part, at any time at a redemption price equal to the principal amount of the Senior Notes to be redeemed, plus a make-whole premium. If a change of control triggering event (as defined in the Senior Notes indenture) occurs, we will be required to make an offer to purchase the Senior Notes at a price equal to 101% of their principal amount plus accrued and unpaid interest to the date of repurchase. As of December 31, 2015, we were in compliance with all covenants.

Interest on the Senior Notes due 2016 is payable on March 20 and September 20 of each year. Interest on the Senior Notes due 2021 is payable on April 1 and October 1 of each year.

As of December 31, 2015, we have classified $600 million of our Senior Notes due 2016 as long-term based on our current ability and intent to refinance the outstanding borrowings on a long-term basis.

Five-Year Revolving Credit Facility

Effective March 27, 2015, Xylem entered into a Five-Year Revolving Credit Facility (the "Credit Facility") with Citibank, N.A., as administrative agent, and a syndicate of lenders. The Credit Facility provides for an aggregate principal amount of up to $600 million of: (i) revolving extensions of credit (the "revolving loans") outstanding at any time and (ii) the issuance of letters of credit in a face amount not in excess of $100 million outstanding at any time. The Credit Facility provides for increases of up to $200 million for a possible maximum total of $800 million in aggregate principal amount at our request and with the consent of the institutions providing such increased commitments.

At our election, the interest rate per annum applicable to the revolving loans will be based on either (i) a Eurodollar rate determined by reference to LIBOR, adjusted for statutory reserve requirements, plus an applicable margin or (ii) a fluctuating rate of interest determined by reference to the greatest of: (a) the prime rate of Citibank, N.A., (b) the U.S. Federal funds effective rate plus 0.5% or (c) the Eurodollar rate determined by reference to LIBOR, adjusted for statutory reserve requirements, in each case, plus an applicable margin.

In accordance with the terms, we may not exceed a maximum leverage ratio of 3.50 to 1.00 (based on a ratio of total debt to earnings before interest, taxes, depreciation and amortization) throughout the term. The Credit Facility also contains limitations on, among other things, incurring secured debt, granting liens, entering into sale and leaseback transactions, mergers, consolidations, liquidations, dissolutions and sales of assets. In addition, the Credit Facility contains other terms and conditions such as customary representations and warranties, additional covenants and customary events of default. As of December 31, 2015, we were in compliance with all covenants.

As of December 31, 2015, the Credit Facility was undrawn.

Research and Development Facility Agreement

On December 3, 2015, the Company amended and restated its Risk Sharing Finance Facility Agreement (the "R&D Facility Agreement") with The European Investment Bank (the "EIB") to amend the maturity date. The facility provides an aggregate principal amount of up to €120 million (approximately $132 million) to finance research projects and infrastructure development in the European Union. The Company's wholly owned subsidiaries in Luxembourg, Xylem Holdings S.á r.l. and Xylem International S.á r.l., are the borrowers under the R&D Facility Agreement. The obligations of the borrowers under the R&D Facility Agreement are guaranteed by the Company under an Amended and Restated Deed of Guarantee, dated as of December 4, 2013, in favor of the EIB. The funds are available during the period from 2013 through 2016 at the Company's facilities in Sweden, Germany, Italy, the United Kingdom, Austria, Norway and Hungary.

Under the R&D Facility Agreement, the borrower can draw loans on or before March 31, 2016 with a maturity of no longer than 12 years. The R&D Facility Agreement provides for Fixed Rate loans and Floating Rate loans. The interest rate per annum applicable to Fixed Rate loans is at a fixed percentage rate per annum specified by the EIB which includes the applicable margin. The interest rate per annum applicable to Floating Rate loans is at the rate determined by reference to EURIBOR for loans drawn in Euros and LIBOR for loans drawn in Pounds Sterling or U.S. Dollars, plus an applicable spread specified by the EIB which includes the applicable margin. The applicable margin for both Fixed Rate loans and Floating Rate loans is determined by reference to the credit rating of the Company.

In accordance with the terms of the R&D Facility Agreement, we may not exceed a maximum leverage ratio of 3.50 to 1.00 (based on a ratio of total debt to earnings before interest, taxes, depreciation and amortization) throughout the term. The R&D Facility Agreement also contains limitations on, among other things, incurring debt, granting liens, and entering into sale and leaseback transactions. In addition, the R&D Facility Agreement contains other terms and conditions, such as customary representations and warranties, additional covenants and customary events of default. As of December 31, 2015, we were in compliance with all covenants.

As of December 31, 2015 and 2014, $76 million and $84 million was outstanding, respectively, under the R&D Facility Agreement. Although the borrowing term for this arrangement is up to five years, we have classified it as short-term debt on our Consolidated Balance Sheet since we intend to repay this obligation in less than a year.

Note 14. Postretirement Benefit Plans

Defined contribution plans – Xylem and certain of our subsidiaries maintain various defined contribution savings plans, which allow employees to contribute a portion of their pre-tax and/or after-tax income in accordance with specified guidelines. Several of the plans require us to match a percentage of the employee contributions up to certain limits, generally between 3.0% – 7.0% of employee base pay. Xylem’s U.S. plan also provides for transition credits for eligible U.S. employees for the first five years after the Spin-off to supplement retirement benefits in the absence of a defined benefit plan. Age plus years of eligible service greater than or equal to 60, entitles an employee to transition credits. The liability for transition credits was approximately $2 million and $2 million at December 31, 2015 and 2014, respectively. Matching obligations, the majority of which were funded in cash in connection with the plans, along with transition credits and other company contributions are as follows:

(in millions)	Defined Contribution
2015	$	32
2014	36
2013	35

The Xylem Stock Fund, an investment option under the defined contribution plan in which Company employees participate is considered an Employee Stock Ownership Plan. As a result, participants in the Xylem Stock Fund may receive dividends in cash or may reinvest such dividends into the Xylem Stock Fund. Company employees held approximately 414 thousand and 415 thousand shares of Xylem Inc. common stock in the Xylem Stock Fund at December 31, 2015 and 2014, respectively.

Defined benefit pension plans and other postretirement plans – We historically have maintained qualified and nonqualified defined benefit retirement plans covering certain current and former employees, including hourly and union plans as well as salaried plans, which generally require up to 5 years of service to be vested and for which the benefits are determined based on years of credited service and either specified rates, final pay, or final average pay. The other postretirement benefit plans are all unfunded plans in the U.S. and Canada.

During 2015, we made several amendments to plans that had no material impact to the Company's financial statements.

During the third quarter 2014, we amended one of our international pension plans as well as one of our domestic other postretirement plans. The pension plan amendment froze the accrual of benefits and closed the plan to new entrants. The other postretirement plan amendment modified the accrual of benefits and closed the plan to new entrants. The overall impact of these changes was a $10 million increase to funded status. This included a net loss of $3 million ($1 million net of tax) and a prior service credit of $13 million ($8 million net of tax) recognized in other comprehensive income.

Effective October 1, 2013, the Xylem Canada Company Pension Plan for Salaried Employees was amended to close the plan to new entrants and implemented a soft freeze, where benefits earned to date are based on frozen service but the future average earnings will continue to be recognized. The impact of the curtailment on the Company’s financial statements was immaterial. However, the participants are now considered inactive and actuarial gains and losses will be amortized over 25 years which represents the expected weighted-average remaining lives of the plan participants.

Effective October 14, 2013, an amendment to one of the Company's U.S. business unit's pension plans for its hourly workers modified the benefit formula. Pension benefits for future service will be based only on years of service. The remeasurement at year end resulted in a $4 million prior service credit, which will be amortized into net periodic pension cost over approximately 11 years.

Amounts recognized in the Consolidated Balance Sheets for pension and other employee-related benefit plans (collectively, postretirement plans) reflect the funded status of the postretirement benefit plans. The following table provides a summary of the funded status of our postretirement plans, the presentation of such balances and a summary of amounts recorded within accumulated other comprehensive income.

(in millions)	December 31, 2015												December 31, 2014
	Pension				Other				Total				Pension				Other				Total
Fair value of plan assets	$	559			$	—			$	559			$	584			$	—			$	584
Projected benefit obligation	(779		)		(61		)		(840		)		(872		)		(58		)		(930		)
Funded status	$	(220	)		$	(61	)		$	(281	)		$	(288	)		$	(58	)		$	(346	)
Amounts recognized in the balance sheet
Other non-current assets	$	68			$	—			$	68			$	55			$	—			$	55
Accrued and other current liabilities	(10		)		(4		)		(14		)		(10		)		(3		)		(13		)
Accrued postretirement benefits	(278		)		(57		)		(335		)		(333		)		(55		)		(388		)
Net amount recognized	$	(220	)		$	(61	)		$	(281	)		$	(288	)		$	(58	)		$	(346	)
Accumulated other comprehensive income (loss):
Net actuarial losses	$	(234	)		$	(31	)		$	(265	)		$	(297	)		$	(30	)		$	(327	)
Prior service credit	—				15				15				—				17				17
Total	$	(234	)		$	(16	)		$	(250	)		$	(297	)		$	(13	)		$	(310	)

The unrecognized amounts recorded in accumulated other comprehensive income will be subsequently recognized as expense on a straight-line basis only to the extent they exceed 10% of the higher of the market-related value or the projected benefit obligation, over the average remaining service period of active participants, or for plans with all or substantially all inactive participants, over the average remaining life expectancy. Actuarial gains and losses incurred in future periods and not recognized as expense in those periods will be recognized as increases or decreases in other comprehensive income, net of tax.

The net actuarial loss included in accumulated other comprehensive income at the end of 2015 and expected to be recognized in net periodic benefit cost during 2016 is $14 million ($10 million, net of tax). The prior service credit included in accumulated other comprehensive income to be recognized in 2016 is $3 million ($2 million, net of tax).

The benefit obligation, fair value of plan assets, funded status, and amounts recognized in the consolidated financial statements for our defined benefit domestic and international pension plans were:

	Domestic Plans								International Plans
	December 31,								December 31,
(in millions)	2015				2014				2015				2014
Change in benefit obligation:
Benefit obligation at beginning of year	$	88			$	74			$	784			$	703
Service cost	3				2				12				12
Interest cost	4				3				22				27
Benefits paid	(4		)		(3		)		(29		)		(30		)
Actuarial (gain) loss	(5		)		13				(39		)		144
Plan amendments, settlements and curtailments	1				—				(1		)		(2		)
Foreign currency translation/other	(1		)		(1		)		(56		)		(70		)
Benefit obligation at end of year	$	86			$	88			$	693			$	784
Change in plan assets:
Fair value of plan assets at beginning of year	$	60			58				$	524			$	466
Employer contributions	3				4				19				28
Actual return on plan assets	(2		)		3				22				92
Benefits paid	(4		)		(3		)		(29		)		(30		)
Plan amendments, settlements and curtailments	—				—				—				(2		)
Foreign currency translation/other	—				(2		)		(34		)		(30		)
Fair value of plan assets at end of year	$	57			$	60			$	502			$	524
Unfunded status of the plans	$	(29	)		$	(28	)		$	(191	)		$	(260	)

The following table provides a rollforward of the projected benefit obligation for the other postretirement employee benefit plans:

(in millions)	2015				2014
Change in benefit obligation:
Benefit obligation at beginning of year	$	58			$	63
Service cost	1				1
Interest cost	2				3
Benefits paid	(3		)		(3		)
Actuarial loss	4				12
Plan amendment	(1		)		(18		)
Benefit obligation at the end of year	$	61			$	58

The accumulated benefit obligation (“ABO”) for all the defined benefit pension plans was $746 million and $830 million at December 31, 2015 and 2014, respectively. For defined benefit pension plans in which the ABO was in excess of the fair value of the plans’ assets, the projected benefit obligation, ABO and fair value of the plans’ assets were as follows:

	December 31,
(in millions)	2015				2014
Projected benefit obligation	$	392			$	453
Accumulated benefit obligation	365				419
Fair value of plan assets	106				110

The components of net periodic benefit cost for our defined benefit pension plans are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Domestic defined benefit pension plans:
Service cost	$	3			$	2			$	3
Interest cost	4				3				3
Expected return on plan assets	(5		)		(4		)		(4		)
Amortization of prior service cost	—				—				1
Amortization of net actuarial loss	2				2				2
Net periodic benefit cost	$	4			$	3			$	5
International defined benefit pension plans:
Service cost	$	12			$	12			$	14
Interest cost	22				27				28
Expected return on plan assets	(32		)		(32		)		(31		)
Amortization of net actuarial loss	13				7				13
Settlement	—				1				—
Net periodic benefit cost	$	15			$	15			$	24
Total net periodic benefit cost	$	19			$	18			$	29

Other changes in assets and benefit obligations recognized in other comprehensive (loss) income, as they pertain to our defined benefit pension plans are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Domestic defined benefit pension plans:
Net loss (gain)	$	2			$	14			$	(11	)
Prior service cost (credit)	—				1				(4		)
Amortization of prior service cost	—				—				(1		)
Amortization of net actuarial loss	(2		)		(2		)		(2		)
Losses (gains) recognized in other comprehensive (loss) income	$	—			$	13			$	(18	)
International defined benefit pension plans:
Net (gain) loss	$	(29	)		$	84			$	(21	)
Amortization of net actuarial loss	(13		)		(7		)		(13		)
Settlement	—				(1		)		—
Foreign currency translation/other	(21		)		(20		)		(2		)
(Gains) losses recognized in other comprehensive (loss) income	$	(63	)		$	56			$	(36	)
Total (gains) losses recognized in other comprehensive (loss) income	$	(63	)		$	69			$	(54	)
Total (gains) losses recognized in comprehensive income	$	(44	)		$	87			$	(25	)

The components of net periodic benefit cost for other postretirement employee benefit plans are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Service cost	$	1			$	1			$	1
Interest cost	2				3				3
Amortization of prior service credit	(3		)		(1		)		—
Amortization of net actuarial loss	3				2				2
Net periodic benefit cost	$	3			$	5			$	6

Other changes in benefit obligations recognized in other comprehensive (loss) income, as they pertain to other postretirement employee benefit plans are as follows:

	Year Ended December 31,
(in millions)	2015				2014				2013
Net loss (gain)	$	4			$	12			$	(2	)
Prior service credit	(1		)		(18		)		—
Amortization of prior service credit	3				1				—
Amortization of net actuarial loss	(3		)		(2		)		(2		)
Losses (gains) recognized in other comprehensive (loss) income	$	3			$	(7	)		$	(4	)
Total losses (gains) recognized in comprehensive income	$	6			$	(2	)		$	2

Assumptions

The following table provides the weighted-average assumptions used to determine projected benefit obligations and net periodic benefit cost, as they pertain to our pension plans.

	2015						2014						2013
	U.S.			Int’l			U.S.			Int’l			U.S.			Int’l
Benefit Obligation Assumptions
Discount rate	4.27	%		3.44	%		4.01	%		3.14	%		4.79	%		4.23	%
Rate of future compensation increase	NM			3.29	%		NM			3.34	%		NM			3.48	%
Net Periodic Benefit Cost Assumptions
Discount rate	4.01	%		3.14	%		4.79	%		4.23	%		4.13	%		4.04	%
Expected long-term return on plan assets	8.00	%		7.31	%		8.00	%		7.30	%		8.00	%		7.33	%
Rate of future compensation increase	NM			3.34	%		NM			3.48	%		4.50	%		3.50	%

NM	Not meaningful. The pension benefits for future service for all the U.S. pension plans are based on years of service and not impacted by future compensation increases.

Management develops each assumption using relevant company experience in conjunction with market-related data for each individual country in which plans exist. Assumptions are reviewed annually and adjusted as necessary.

The expected long-term rate of return on assets reflects the expected returns for each major asset class in which the plans hold investments, the weight of each asset class in the target mix, the correlations among asset classes and their expected volatilities. The assets of the pension plans are held by a number of independent trustees, managed by several investment institutions and are accounted for separately in the Company’s pension funds.

Our expected return on plan assets is estimated by evaluating both historical returns and estimates of future returns. Specifically, we analyze the plans’ actual historical annual return on assets, net of fees, over the past 15, 20 and 25 years; estimate future returns based on independent estimates of asset class returns; and evaluate historical broad market returns over long-term timeframes based on our asset allocation range. For the U.S. Master Trust which has only existed since 2011, historical returns were estimated using a constructed portfolio that reflects the Company’s strategic asset allocation and the historical compound geometric returns of each asset class for the longest time period available. Based on this approach, the weighted average expected long-term rate of return for all of our plan assets to be used in determining net periodic benefit costs for 2016 is estimated at 7.32%.

The table below provides the weighted average actual rate of return generated on all of our plan assets during each of the years presented as compared to the weighted average expected long-term rates of return utilized in calculating the net periodic benefit costs.

	2015			2014			2013
Expected long-term rate of return on plan assets	7.38	%		7.38	%		7.40	%
Actual rate of return on plan assets	3.51	%		18.13	%		10.17	%

The assumed rate of future increases in the per capita cost of health care (the health care trend rate) is 7.00% for 2016, decreasing ratably to 4.50% in 2027. An increase or decrease in the health care trend rates by one percent per year would impact the aggregate annual service and interest components by less than $1 million, and impact the benefit obligation by approximately $4 million.

Investment Policy

The investment strategy for managing worldwide postretirement benefit plan assets is to seek an optimal rate of return relative to an appropriate level of risk for each plan. Investment strategies vary by plan, depending on the specific characteristics of the plan, such as plan size and design, funded status, liability profile and legal requirements. In general, the plans are managed closely to their strategic allocations.

The following table provides the actual asset allocations of plan assets as of December 31, 2015 and 2014, and the related asset target allocation ranges by asset category.

	2015			2014			Target Allocation Ranges
Equity securities	22.5	%		28.8	%		20-40%
Fixed income	31.5	%		37.3	%		20-60%
Hedge funds	34.0	%		25.0	%		20-60%
Private equity	3.1	%		3.2	%		0-15%
Insurance contracts and other	8.9	%		5.7	%		0-30%

Fair Value of Plan Assets

In measuring plan assets at fair value, the fair value hierarchy is applied which categorizes and prioritizes the inputs used to estimate fair value into three levels. See Note 1 "Summary of Significant Accounting Policies" for further detail on fair value hierarchy.

In certain instances, fair value is estimated using quoted market prices obtained from external pricing services. In obtaining such data from the pricing service, we have evaluated the methodologies used to develop the estimate of fair value in order to assess whether such valuations are representative of fair value, including net asset value ("NAV"). Additionally, in certain circumstances, the NAV reported by an asset manager may be adjusted when sufficient evidence indicates NAV is not representative of fair value.

The following is a description of the valuation methodologies and inputs used to measure fair value for major categories of investments.

•

Equity securities — Equities (including common and preferred shares, domestic listed and foreign listed, closed end mutual funds and exchange traded funds) are generally valued at the closing price reported on the major market on which the individual securities are traded at the measurement date. Equity securities held by the Company that are publicly traded in active markets are classified within Level 1 of the fair value hierarchy. Those equities that are held in proprietary funds pooled with other investor accounts measured at fair value using the NAV per share practical expedient are not classified in the fair value hierarchy.

•

Fixed income — United States government securities are generally valued using quoted prices of securities with similar characteristics. Corporate bonds and notes are generally valued by using pricing models (e.g. discounted cash flows), quoted prices of securities with similar characteristics or broker quotes. Fixed income securities listed on active markets are classified in Level 1. Fixed income held in proprietary funds pooled with other investor accounts measured at fair value using the NAV per share practical expedient are not classified in the fair value hierarchy.

•

Hedge funds — Hedge funds are pooled funds that employ a range of investment strategies including equity and fixed income, credit driven, macro and multi oriented strategies. The valuation of limited partnership interests in hedge funds may require significant management judgment. Generally, hedge funds are valued using the NAV reported by the asset manager, and are adjusted when it is determined that NAV is not representative of fair value. In making such an assessment, a variety of factors is reviewed, including, but not limited to, the timeliness of NAV as reported by the asset manager and changes in general economic and market conditions subsequent to the last NAV reported by the asset manager. $158 million (83%) of the hedge funds have no lockup or gate, and a redemption period of 90 days or less. Hedge funds have unfunded commitments of $6 million at both December 31, 2015 and 2014.

•

Private equity — Private equity includes a diversified range of strategies, including buyout funds, distressed funds, venture and growth equity funds and mezzanine funds with long-term commitments, and redemptions beginning no earlier than 2018. The valuation of limited partnership interests in private equity funds may require significant management judgment. Generally, private equity is valued using the NAV reported by the asset manager, and is adjusted when it is determined that NAV is not representative of fair value. In making such an assessment, a variety of factors is reviewed, including, but not limited to, the timeliness of NAV as reported by the asset manager and changes in general economic and market conditions subsequent to the last NAV reported by the asset manager. Private equity is not liquid and has unfunded commitments of $4 million and $5 million at December 31, 2015 and 2014, respectively.

•

Insurance contracts and other — Primarily comprised of insurance contracts and cash. Insurance contracts are valued at book value, which approximates fair value, and is calculated using the prior year balance adjusted for investment returns and cash flows and are generally classified as Level 3. Insurance contracts are held by certain foreign pension plans. Cash and cash equivalents are held in accounts with brokers or custodians for liquidity and investment collateral and are classified as Level 1.

The following table provides the fair value of plan assets held by our pension benefit plans by asset class.

	2015																2014
(in millions)	Level 1			Level 2			Level 3			NAV Practical Expedient			Total				Level 1			Level 2			Level 3			NAV Practical Expedient			Total
Equity securities
Global stock funds/securities	$	79		$	—		$	—		$	4		$	83			$	112		$	—		$	—		$	11		$	123
Index funds	6			—			—			34			40				4			—			—			38			42
Emerging market funds	3			—			—			—			3				3			—			—			—			3
Fixed income
Corporate bonds	34			4			—			11			49				53			4			—			22			79
Government bonds	99			18			—			10			127				87			42			—			10			139
Hedge funds	9			—			—			181			190				11			—			—			135			146
Private equity	—			—			—			17			17				—			—			—			19			19
Insurance contracts and other	25			—			25			—			50				16			—			17			—			33
Total plan assets subject to leveling	$	255		$	22		$	25		$	257		$	559			$	286		$	46		$	17		$	235		$	584

The following table presents a reconciliation of the beginning and ending balances of fair value measurement within our pension plans using significant unobservable inputs (Level 3).

(in millions)		Insurance Contracts and Other
Balance, December 31, 2014 (a)		$	17
Purchases, sales, settlements		2
Net transfers		7
Currency impact		(1		)
Balance, December 31, 2015		$	25

(a) There were no material changes to Level 3 assets during 2014.

Contributions and Estimated Future Benefit Payments

Funding requirements under governmental regulations are a major consideration in making contributions to our postretirement plans. We made contributions of $25 million and $35 million to our pension and postretirement defined benefit plans during 2015 and 2014, respectively. We currently anticipate making contributions to our pension and postretirement defined benefit plans in the range of $26 million to $36 million during 2016, of which approximately $8 million is expected to be made in the first quarter.

The following benefit payments, which reflect expected future service, as appropriate, are expected to be paid as follows:

(in millions)	Pension				Other Benefits
2016	$	32			$	4
2017	33				4
2018	33				4
2019	34				4
2020	35				4
Years 2021 - 2025	187				22

Note 15. Stock-Based Compensation Plans

Our stock-based compensation program is a broad-based program designed to attract and retain employees while also aligning employees’ interests with the interests of our shareholders. In addition, members of our Board of Directors participate in our stock-based compensation program in connection with their service on our board. Share-based awards issued to employees include non-qualified stock options, restricted stock awards and performance-based awards. Under the 2011 Omnibus Incentive Plan, the number of shares initially available for awards was 18 million. As of December 31, 2015, there were approximately 9 million shares of common stock available for future grants.

Total share-based compensation costs recognized for 2015, 2014 and 2013 were $15 million, $18 million, and $27 million, respectively. The unamortized compensation expense at December 31, 2015 related to our stock options, restricted shares and performance-based shares was $5 million, $19 million and $3 million, respectively, and is expected to be recognized over a weighted average period of 1.8, 1.9 and 1.9 years, respectively.

The amount of cash received from the exercise of stock options was $21 million for 2015 with a tax benefit of $8 million realized associated with stock option exercises and vesting of restricted stock. We classify as a financing activity the cash flows attributable to excess tax benefits arising from stock option exercises and restricted stock vestings.

Stock Option Grants

Options are awarded with a contractual term of ten years and generally vest over or at the conclusion of a three-year period and are exercisable in seven to ten-year periods, except in certain instances of death, retirement or disability. The exercise price per share is the fair market value of the underlying common stock on the date each option is granted. At December 31, 2015, there were options to purchase an aggregate of 2.6 million shares of common stock. The following is a summary of the changes in outstanding stock options for 2015:

(shares in thousands)	Shares			Weighted Average Exercise Price / Share				Weighted Average Remaining Contractual Term (Years)
Outstanding at January 1, 2015	2,989			$	28.60			6.5
Granted	708			$	35.88			9.2
Exercised	(840	)		$	24.86			4.5
Forfeited and expired	(296	)		$	34.76			8.6
Outstanding at December 31, 2015	2,561			$	31.16			6.8
Options exercisable at December 31, 2015	1,608			$	28.49			5.7
Vested and non-vested expected to vest as of December 31, 2015	2,480			$	31.00			6.7

The amount of non-vested options outstanding was 1.0 million, 1.0 million and 1.5 million at a weighted average grant date fair value of $35.65, $32.45 and $26.90 as of December 31, 2015, 2014 and 2013, respectively. The aggregate intrinsic value of the outstanding, exercisable, and vested and non-vested stock options expected to vest at December 31, 2015 was $15 million, $13 million and $15 million respectively. The total intrinsic value of options exercised (which is the amount by which the stock price exceeded the exercise price of the options on the date of exercise) during 2015, 2014 and 2013 was $9 million, $10 million and $7 million, respectively.

The fair value of each option grant was estimated on the date of grant using the binomial lattice pricing model which incorporates multiple and variable assumptions over time, including assumptions such as employee exercise patterns, stock price volatility and changes in dividends. The following are weighted-average assumptions used for 2015, 2014, and 2013:

	2015				2014				2013
Dividend yield	1.57		%		1.34		%		1.69		%
Volatility	27.77		%		28.49		%		31.10		%
Risk-free interest rate	1.64		%		1.82		%		1.28		%
Expected term (in years)	5.58				5.60				6.62
Weighted-average fair value per share	$	8.49			$	9.71			$	7.58

Expected volatility is calculated based on a weighted analysis of historic and implied volatility measures for a set of peer companies and Xylem. We use historical data to estimate option exercise and employee termination behavior within the valuation model. Employee groups and option characteristics are considered separately for valuation purposes. The expected term represents an estimate of the period of time options are expected to remain outstanding. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of option grant.

Restricted Stock Grants

Restricted shares granted to employees generally become fully vested upon the third anniversary of the date of grant. Prior to the time a restricted share becomes fully vested, the awardees cannot transfer, pledge, hypothecate or encumber such shares. Prior to the time a restricted share is fully vested, the awardees do not have certain rights of a stockholder, such as the right to vote and receive dividends; however, dividends accrue during the vesting period and are paid upon vesting. If an employee leaves prior to vesting, whether through resignation or termination for cause, the restricted stock and related accrued dividends are forfeited. If an employee retires, a pro rata portion of the restricted stock may vest in accordance with the terms of the grant agreements. Restricted shares granted to Board members become fully vested upon the day prior to the next annual meeting. Our restricted stock activity was as follows for 2015:

(shares in thousands)	Shares			Weighted Average Grant Date Fair Value / Share
Outstanding at January 1, 2015	1,171			$	31.80
Granted	426			$	35.87
Vested	(426	)		$	28.85
Forfeited	(158	)		$	32.75
Outstanding at December 31, 2015	1,013			$	34.52

Performance-Based Share Grants

As part of the annual grants under the long-term incentive plan, performance-based shares were granted to all executive officers of the Company. The performance-based shares vest based upon performance by the Company over a three-year period against targets approved by the compensation committee of the Company's Board of Directors prior to the grant date. For the performance periods, the performance-based shares were granted at a target of 100% with actual payout contingent upon the achievement of a pre-set, three-year adjusted Return on Invested Capital and cumulative adjusted net income performance target. The calculated compensation cost is adjusted based on an estimate of awards ultimately expected to vest and our assessment of the probable outcome of the performance condition. The fair value of performance-based share awards at 100% target is determined using the closing price of our common stock on date of grant. Our performance-based share activity was as follows for 2015:

(shares in thousands)	Shares			Weighted Average Grant Date Fair Value / Share
Outstanding at January 1, 2015	124			$	33.95
Granted	103			$	35.91
Forfeited	(67	)		$	33.21
Outstanding at December 31, 2015	160			$	35.48

Note 16. Capital Stock

The Company has the authority to issue an aggregate of 750 million shares of common stock having a par value of $0.01 per share. The stockholders of Xylem common stock are entitled to receive dividends as declared by the Xylem Board of Directors. Dividends declared were $0.5632, $0.5120 and $0.4656 during 2015, 2014 and 2013, respectively.

The changes in common stock outstanding for the three years ended December 31 are as follows:

(in thousands of shares)	2015			2014			2013
Beginning Balance, January 1	182,300			184,557			185,658
Stock incentive plan net activity	1,280			1,226			1,203
Repurchase of common stock	(5,203	)		(3,483	)		(2,304	)
Ending Balance, December 31	178,377			182,300			184,557

On August 24, 2015, our Board of Directors authorized the repurchase of up to $500 million in shares with no expiration date. The program's objective is to deploy our capital in a manner that benefits our shareholders and maintains our focus on growth. During 2015, we repurchased 2.3 million shares for $80 million under this program. There are up to $420 million in shares that may still be purchased under this plan as of December 31, 2015.

On August 20, 2013, our Board of Directors authorized the repurchase of up to $250 million in shares with no expiration date. The program's objective was to deploy our capital in a manner that benefited our shareholders and maintain our focus on growth. During 2015 and 2014, we repurchased 2.0 million shares and 3.4 million shares for $70 million and $130 million, respectively, under this program. As of December 31, 2015, we have exhausted the authorized amount to repurchase shares under this plan.

On August 18, 2012, the Board of Directors authorized the repurchase of up to 2.0 million shares of common stock with no expiration date. The program's objective is to offset dilution associated with various Xylem employee stock plans by acquiring shares in the open market from time to time. During 2015 we repurchased 0.8 million shares for $25 million. There are up to 0.3 million shares (approximately $9 million in value) that may still be purchased under this plan as of December 31, 2015. There were no shares repurchased under this plan during 2014.

Aside from the aforementioned repurchase programs, we repurchased 0.1 million and 0.2 million shares for $4 million and $4 million during 2015 and 2014, respectively in relation to settlement of employee tax withholding obligations due as a result of the vesting of restricted stock. These repurchases are included in the stock incentive plan net activity in the above table.

Note 17. Accumulated Other Comprehensive Income (Loss)

The following table provides the components of accumulated other comprehensive income (loss) for 2015, 2014 and 2013:

(in millions)	Foreign Currency Translation				Postretirement Benefit Plans				Derivative Instruments				Total
Balance at January 1, 2013	$	336			$	(222	)		$	1			$	115
Foreign currency translation adjustment	15												15
Changes in postretirement benefit plans					40								40
Income tax expense on changes in postretirement benefit plans					(17		)						(17		)
Amortization of prior service cost and net actuarial loss on postretirement benefit plans into:
Cost of revenue					7								7
Selling, general and administrative expenses					7								7
Research and development expenses					1								1
Other non-operating (expense) income, net					3								3
Income tax impact on amortization of postretirement benefit plan items					(5		)						(5		)
Unrealized gain on derivative hedge agreements									1				1
Reclassification of unrealized gain on derivative hedge agreements into revenue									(2		)		(2		)
Reclassification of unrealized loss on derivative hedge agreements into cost of revenue									2				2
Balance at December 31, 2013	$	351			$	(186	)		$	2			$	167
Foreign currency translation adjustment	(206		)										(206		)
Changes in postretirement benefit plans					(92		)						(92		)
Income tax expense on changes in postretirement benefit plans					20								20
Foreign currency translation adjustment for postretirement benefit plans					20								20
Amortization of prior service cost and net actuarial loss on postretirement benefit plans into:
Cost of revenue					4								4
Selling, general and administrative expenses					5								5
Other non-operating (expense) income, net					1								1
Income tax impact on amortization of postretirement benefit plan items					(3		)						(3		)
Unrealized loss on derivative hedge agreements									(22		)		(22		)
Income tax benefit on unrealized loss on derivative hedge agreements									1				1
Reclassification of unrealized loss on derivative hedge agreements into revenue									5				5
Reclassification of unrealized loss on derivative hedge agreements into cost of revenue									1				1
Balance at December 31, 2014	$	145			$	(231	)		$	(13	)		$	(99	)

(in millions)	Foreign Currency Translation				Postretirement Benefit Plans				Derivative Instruments				Total
Balance at January 1, 2015	$	145			$	(231	)		$	(13	)		$	(99	)
Foreign currency translation adjustment	(180		)										(180		)
Foreign currency gain reclassified into gain on sale of businesses	(8		)										(8		)
Changes in postretirement benefit plans					24								24
Income tax expense on changes in postretirement benefit plans					(10		)						(10		)
Foreign currency translation adjustment for postretirement benefit plans					21								21
Amortization of prior service cost and net actuarial loss on postretirement benefit plans into:
Cost of revenue					4								4
Selling, general and administrative expenses					9								9
Research and development expenses					1								1
Other non-operating income (expense), net					1								1
Income tax impact on amortization of postretirement benefit plan items					(4		)						(4		)
Unrealized loss on derivative hedge agreements									(22		)		(22		)
Income tax benefit on unrealized loss on derivative hedge agreements									6				6
Reclassification of unrealized loss on derivative hedge agreements into revenue									19				19
Reclassification of unrealized loss on derivative hedge agreements into cost of revenue									1				1
Income tax benefit on reclassification of unrealized loss on derivative hedge agreements									(1		)		(1		)
Balance at December 31, 2015	$	(43	)		$	(185	)		$	(10	)		$	(238	)

Note 18. Commitments and Contingencies

Legal Proceedings

From time to time, we are involved in legal proceedings that are incidental to the operation of our businesses, including acquisitions and divestitures, intellectual property matters, product liability and personal injury claims, employment and pension matters, government and commercial contract disputes.

On December 17, 2014, the Korea Fair Trade Commission (“KFTC”) issued a written decision regarding an investigation into bid-rigging allegations against Xylem Water Solutions South Korea Co., Ltd. (“Xylem South Korea”), a subsidiary of Xylem Inc. The KFTC found that certain employees of Xylem South Korea had participated in activities that violated Korea’s antitrust laws. Xylem South Korea was assessed a fine of approximately $1.6 million, and following criminal prosecution a minimal criminal penalty was imposed. In January 2015, Xylem South Korea paid the fine and filed an appeal of the KFTC’s decision with the Seoul High Court.

In connection with the KFTC matter, the Company commenced an internal investigation relating to the allegations against Xylem South Korea. In late 2014, the Company broadened this internal investigation to assess related allegations made by certain employees of Xylem South Korea during the investigation into the KFTC matter. The broadened investigation includes a review of compliance by Xylem South Korea and its employees with the requirements of the Foreign Corrupt Practices Act. The Company engaged independent outside counsel to assist with its investigation and an independent professional services firm to provide forensic accounting assistance. In late January 2015, the Company voluntarily contacted the SEC and the Department of Justice ("DOJ") to advise both agencies of this internal investigation. The SEC has informed the Company that it will not bring an enforcement action against the Company in connection with the events at Xylem South Korea and the DOJ has informed the Company that it has declined to prosecute the Company in connection with the events at Xylem South

Korea. Xylem South Korea’s revenue is less than one percent of the Company’s total revenue. Although the Company currently cannot reasonably estimate the potential liability, if any, related to the investigation, we currently believe that these matters will not have a material adverse effect on the Company’s business, financial condition or results of operations.

On October 1, 2014, there was a court approved settlement agreement with respect to a purchase price dispute with the minority shareholders arising from one of our historical acquisitions. All outstanding claims have been settled and court proceedings have been terminated. The outstanding balance of the settlement is reflected in the 2015 Consolidated Balance Sheet.

On or about February 17, 2009, following a statement submitted to the Spanish Competition Authority (Comision Nacional de la Competencia, "CNC") by Grupo Industrial Ercole Marelli, S.A. regarding an anti-competitive agreement in which it said it had been participating, the CNC conducted an investigation at ITT Water & Wastewater España S.A. (now named Xylem Water Solutions España S.A.), at the Spanish Association of Fluid Pump Manufacturers (the "Association"), and at the offices of other members of the Association. On September 16, 2009, the Directorate of Investigation of the CNC commenced formal proceedings for alleged restrictive practices, such as several exchanges of information and a recommendation on general terms and conditions of sale, allegedly prohibited under applicable law. Following the conclusion of the formal proceedings, the CNC Council imposed fines on the Association and nineteen Spanish manufacturers and distributors of fluid pumps, including a fine of Euro 2,373,675 applied to ITT Water & Wastewater España S.A. and ITT Corporation. In March 2012, the Company appealed the CNC's decision to the Audiencia Nacional (the "High Court") and in March 2013, the High Court upheld the determination of the CNC and the fine previously assessed. In June 2013, the Company appealed the decision to the Tribunal Supremo, the Supreme Court of Spain, and in November 2015 the Tribunal Supremo upheld the determination and the fine previously assessed. The outstanding balance of the fine is reflected in the 2015 Consolidated Balance Sheet. The Company petitioned the Spanish Constitutional Court and the Council of the CNC in December 2015 and January 2016, respectively, for review of certain aspects relevant to the fine determination, and is awaiting decisions.

From time to time claims may be asserted against Xylem alleging injury caused by any our products resulting from asbestos exposure. We believe there are numerous legal defenses available for such claims and would defend ourselves vigorously. Pursuant to the Distribution Agreement among ITT, Exelis and Xylem, ITT has an obligation to indemnify, defend and hold Xylem harmless for asbestos product liability matters, including settlements, judgments, and legal defense costs associated with all pending and future claims that may arise from past sales of ITT’s legacy products. We believe ITT remains a substantial entity with sufficient financial resources to honor its obligations to us.

Although the ultimate outcome of any legal matter cannot be predicted with certainty, based on present information, including our assessment of the merits of the particular claims, we do not expect that any asserted or unasserted legal claims or proceedings, individually or in aggregate, will have a material adverse effect on our results of operations, or financial condition. We have estimated and accrued $6 million and $9 million as of December 31, 2015 and 2014, respectively for these general legal matters.

Indemnifications

As part of our 2011 spin-off from our former parent, ITT, Exelis Inc. and Xylem will indemnify, defend and hold harmless each of the other parties with respect to such parties’ assumed or retained liabilities under the Distribution Agreement and breaches of the Distribution Agreement or related spin agreements. The former parent’s indemnification obligations include asserted and unasserted asbestos and silica liability claims that relate to the presence or alleged presence of asbestos or silica in products manufactured, repaired or sold prior to October 31, 2011, the Distribution Date, subject to limited exceptions with respect to certain employee claims, or in the structure or material of any building or facility, subject to exceptions with respect to employee claims relating to Xylem buildings or facilities. The indemnification associated with pending and future asbestos claims does not expire. Xylem has not recorded a liability for material matters for which we expect to be indemnified by the former parent or Exelis Inc. through the Distribution Agreement and we are not aware of any claims or other circumstances that would give rise to material payments from us under such indemnifications. On May 29, 2015, Harris Inc. acquired Exelis. As the parent of Exelis, Harris Inc. is responsible for Exelis’s indemnification obligations under the Distribution Agreement.

Guarantees

We obtain certain stand-by letters of credit, bank guarantees and surety bonds from third-party financial institutions

in the ordinary course of business when required under contracts or to satisfy insurance related requirements. As of December 31, 2015, the amount of stand-by letters of credit, bank guarantees and surety bonds was $161 million.

Environmental

In the ordinary course of business, we are subject to federal, state, local, and foreign environmental laws and regulations. We are responsible, or are alleged to be responsible, for ongoing environmental investigation and remediation of sites in various countries. These sites are in various stages of investigation and/or remediation and in many of these proceedings our liability is considered de minimis. We have received notification from the U.S. Environmental Protection Agency, and from similar state and foreign environmental agencies, that a number of sites formerly or currently owned and/or operated by Xylem or for which we are responsible under the Distribution Agreement, and other properties or water supplies that may be or have been impacted from those operations, contain disposed or recycled materials or wastes and require environmental investigation and/or remediation. These sites include instances where we have been identified as a potentially responsible party under federal and state environmental laws and regulations.

Accruals for environmental matters are recorded on a site-by-site basis when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated, based on current law and existing technologies. Our accrued liabilities for these environmental matters represent the best estimates related to the investigation and remediation of environmental media such as water, soil, soil vapor, air and structures, as well as related legal fees. These estimates, and related accruals, are reviewed quarterly and updated for progress of investigation and remediation efforts and changes in facts and legal circumstances. Liabilities for these environmental expenditures are recorded on an undiscounted basis. We have estimated and accrued $4 million and $5 million as of December 31, 2015 and 2014, respectively, for environmental matters.

It is difficult to estimate the final costs of investigation and remediation due to various factors, including incomplete information regarding particular sites and other potentially responsible parties, uncertainty regarding the extent of investigation or remediation and our share, if any, of liability for such conditions, the selection of alternative remedial approaches, and changes in environmental standards and regulatory requirements. We believe the total amount accrued is reasonable based on existing facts and circumstances.

Operating Leases

We lease certain offices, manufacturing buildings, machinery, computers and other equipment. Such leases expire at various dates through 2047 and may include renewal and payment escalation clauses. We often pay maintenance, insurance and tax expense related to leased assets. Total rent expense for the three years ended December 31, 2015 was as follows:

(in millions)	Total
2015	$	59
2014	73
2013	77

At December 31, 2015, we are obligated to make minimum rental payments under operating leases which are as follows:

(in millions)	2016				2017				2018				2019				2020				Thereafter
Minimum rental payments	$	55			$	43			$	33			$	23			$	17			$	19

Warranties

We warrant numerous products, the terms of which vary widely. In general, we warrant products against defect and specific non-performance. Warranty expense was $32 million, $27 million, and $34 million for 2015, 2014 and 2013, respectively. The table below provides changes in the product warranty accrual over each period.

(in millions)	2015				2014
Warranty accrual – January 1	$	31			$	37
Net charges for product warranties in the period	32				27
Settlement of warranty claims	(29		)		(31		)
Foreign currency and other	(1		)		(2		)
Warranty accrual – December 31	$	33			$	31

Note 19. Related Party Transactions

Sales to and purchases from unconsolidated joint ventures for 2015, 2014 and 2013 are as follows:

(in millions)		2015				2014				2013
Sales to unconsolidated affiliates		$	11			$	16			$	15
Purchases from unconsolidated affiliates		19				18				20

Note 20. Segment and Geographic Data

Our business has two reportable segments: Water Infrastructure and Applied Water. The Water Infrastructure segment, focuses on the transportation, treatment and testing of water, offering a range of products including water and wastewater pumps, treatment and testing equipment, and controls and systems. The Applied Water segment, encompasses the uses of water and focuses on the residential, commercial, industrial and agricultural markets offering a wide range of products, including pumps, valves and heat exchangers. Our Regional selling locations consist primarily of selling and marketing organizations and related support that offer products and services across both of our reportable segments. Corporate and other consists of corporate office expenses including compensation, benefits, occupancy, depreciation, and other administrative costs, as well as charges related to certain matters, such as environmental matters that are managed at a corporate level and are not included in the business segments in evaluating performance or allocating resources.

The accounting policies of each segment are the same as those described in the summary of significant accounting policies (see Note 1). The following tables contain financial information for each reportable segment:

	Year Ended December 31,
(in millions)	2015				2014				2013
Revenue:
Water Infrastructure	$	2,231			$	2,442			$	2,384
Applied Water	1,422				1,474				1,453
Total	$	3,653			$	3,916			$	3,837
Operating income:
Water Infrastructure	$	303			$	321			$	263
Applied Water	190				193				175
Corporate and other	(44		)		(51		)		(75		)
Total operating income	449				463				363
Interest expense	55				54				55
Other non-operating income (expense)	—				1				(10		)
Gain from sale of businesses	9				11				—
Income before taxes	$	403			$	421			$	298
Depreciation and amortization:
Water Infrastructure	$	88			$	100			$	104
Applied Water	26				25				26
Regional selling locations (a)	12				12				13
Corporate and other	7				5				7
Total	$	133			$	142			$	150
Capital expenditures:
Water Infrastructure	$	67			$	73			$	67
Applied Water	22				28				31
Regional selling locations (b)	23				10				12
Corporate and other	5				8				16
Total	$	117			$	119			$	126

(a)	Depreciation and amortization expense incurred by the Regional selling locations was included in an overall allocation of Regional selling location costs to the segments; however, a certain portion of that expense was not specifically identified to a segment. That is the expense captured in this Regional selling location line.

(b)	Represents capital expenditures incurred by the Regional selling locations not allocated to the segments.

The following table illustrates revenue by product category, net of intercompany revenue.

	Year Ended December 31,
(in millions)	2015				2014				2013
Pumps, accessories, parts and service	$	2,917			$	3,094			$	3,076
Other (a)	736				822				761
Total	$	3,653			$	3,916			$	3,837

(a)	Other includes treatment equipment, analytical instrumentation, heat exchangers, valves and controls.

The following table contains the total assets for each reportable segment as of December 31, 2015, 2014 and 2013.

	Total Assets
(in millions)	2015				2014				2013 (c)
Water Infrastructure	$	2,024			$	2,128			$	2,224
Applied Water	1,054				1,114				1,122
Regional selling locations (a)	905				961				983
Corporate and other (b)	674				630				528
Total	$	4,657			$	4,833			$	4,857

(a)	The Regional selling locations have assets that consist primarily of cash, accounts receivable and inventory which are not allocated to the segments.

(b)	Corporate and other consists of items pertaining to our corporate headquarters function, which principally consist of cash, deferred tax assets, pension assets and certain, plant and equipment.

(c)	In 2013, debt issuance costs of $6 million were reclassified to long-term debt from other non-current assets and deferred tax assets of $33 million were reclassified to deferred tax liabilities within the Consolidated Balance Sheet. See Note 2, “Recently Issued Accounting Pronouncements,” of the consolidated financial statements.

Geographical Information

Revenue is attributed to countries based upon the location of the customer. Property, Plant & Equipment is attributed to countries based upon the location of the assets.

	Revenue
	Year Ended December 31,
(in millions)	2015				2014				2013
United States	$	1,490			$	1,477			$	1,434
Europe	1,179				1,379				1,387
Asia Pacific	482				478				467
Other	502				582				549
Total	$	3,653			$	3,916			$	3,837

	Property, Plant & Equipment
	December 31,
(in millions)	2015				2014				2013
United States	$	168			$	180			$	186
Europe	189				206				225
Asia Pacific	56				53				45
Other	26				22				32
Total	$	439			$	461			$	488

Note 21. Valuation and Qualifying Accounts

The table below provides changes in the allowance for doubtful accounts over each period.

(in millions)	2015				2014				2013
Balance at beginning of year	$	24			$	22			$	25
Additions charged to expense	4				9				8
Deductions/other	(6		)		(7		)		(11		)
Balance at end of year	$	22			$	24			$	22

Note 22. Quarterly Financial Data (Unaudited)

Our quarterly financial periods end on the Saturday closest to the last day of the calendar quarter, except

for the fourth quarter which ends on December 31.

		2015 Quarter Ended
(in millions, except per share amounts)		Dec. 31				Sept. 30				June 30				Mar. 31
Revenue		$	994			$	902			$	920			$	837
Gross profit		390				351				348				315
Operating income		142				120				104				83
Net income		$	114			$	88			$	74			$	64
Earnings per share:
Basic		$	0.64			$	0.48			$	0.41			$	0.35
Diluted		$	0.63			$	0.48			$	0.41			$	0.35

		2014 Quarter Ended
(in millions, except per share amounts)		Dec. 31				Sept. 30				June 30				Mar. 31
Revenue		$	1,042			$	963			$	1,005			$	906
Gross profit		407				376				388				342
Operating income		141				130				116				76
Net income		$	96			$	106			$	86			$	49
Earnings per share:
Basic		$	0.53			$	0.58			$	0.47			$	0.27
Diluted		$	0.52			$	0.58			$	0.47			$	0.27

Note 23. Subsequent Events

On February 1, 2016, we acquired Tideland Signal Corporation (“Tideland”), a leading producer of analytics solutions in the coastal and ocean management sectors, for approximately $69 million. Tideland, a privately-owned company headquartered in Texas, has approximately 160 employees and annual revenue of approximately $48 million.