filings.toolsItem 8. Financial Statements and Supplementary Data
220K characters. Original on sec.gov · Markdown
Item 8. Financial Statements and Supplementary Data
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Zimmer Biomet Holdings, Inc.
Index to Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm
To the Board of Directors and Stockholders of Zimmer Biomet Holdings, Inc.
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of Zimmer Biomet Holdings, Inc. and its subsidiaries (the “Company”) as of December 31, 2020 and 2019, and the related consolidated statements of earnings, comprehensive income (loss), stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, including the related notes and schedule of valuation and qualifying accounts for each of the three years in the period ended December 31, 2020 appearing under Item 15(a)(2), (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2020 and 2019**,** and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.
Basis for Opinions
The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management's Annual Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Critical Audit Matters
The critical audit matters communicated below are matters arising from the current period audit of the consolidated financial statements that were communicated or required to be communicated to the audit committee and that (i) relate to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.
Goodwill Impairment Assessment - EMEA, Dental and Americas CMFT Reporting Units
As described in Notes 2 and 11 to the consolidated financial statements, the Company’s consolidated goodwill balance was $9,261.8 million as of December 31, 2020, and the goodwill associated with the EMEA reporting unit, Dental reporting unit, and Americas CMFT reporting unit, was $325.9 million, $273.7 million and $271 million, respectively. Management conducts an impairment test in the fourth quarter of each year or whenever events or changes in circumstances indicate that the carrying value of the reporting unit’s assets may not be recoverable. Potential impairment of a reporting unit is identified by comparing the reporting unit’s estimated fair value to its carrying amount. The Company estimated the fair value of the EMEA, Dental and Americas CMFT reporting units based on income and market approaches. As disclosed by management, fair value under the income approach was determined by discounting to present value the estimated future cash flows of the reporting unit. Fair value under the market approach utilized the guideline public company methodology, which uses valuation indicators from other businesses that are similar to the EMEA, Dental and Americas CMFT reporting units. Significant assumptions are incorporated into the discounted cash flow analysis such as revenue growth rates and risk-adjusted discount rates.
The principal considerations for our determination that performing procedures relating to the goodwill impairment assessment of the EMEA, Dental and Americas CMFT reporting units is a critical audit matter are the significant judgment by management when developing the fair value measurement of the reporting units. This in turn led to a high degree of auditor judgment, subjectivity, and effort in performing procedures and in evaluating management’s discounted cash flow analysis and significant assumptions, related to revenue growth rates and risk-adjusted discount rates. In addition, the audit effort involved the use of professionals with specialized skill and knowledge.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to management’s goodwill impairment assessment, including controls over the valuation of the Company’s reporting units. These procedures also included, among others, (i) testing management’s process for developing the fair value estimate, (ii) evaluating the appropriateness of management’s fair value approaches, (iii) testing the completeness, accuracy and relevance of the underlying data used in the approaches, and (iv) evaluating significant assumptions used by management in the discounted cash flow analysis, including the revenue growth rates and the risk-adjusted discount rate. Evaluating management’s assumptions related to revenue growth rates involved evaluating whether the assumptions used by management were reasonable considering the past performance of the reporting units, the consistency with external data from other sources, and whether these assumptions were consistent with evidence obtained in other areas of the audit. Professionals with specialized skill and knowledge were used to assist in the evaluation of the Company’s discounted cash flow analysis and certain significant assumptions, including the risk-adjusted discount rate.
Tax Liabilities for Unrecognized Tax Benefits
As described in Notes 2 and 17 to the consolidated financial statements, the Company has recorded tax liabilities for unrecognized tax benefits of $619.4 million as of December 31, 2020. The calculation of the Company’s estimated tax liabilities involves dealing with uncertainties in the application of complex tax laws and regulations in a multitude of jurisdictions across the Company’s global operations. The Company’s income tax filings are regularly
under audit in multiple federal, state and foreign jurisdictions. Income tax audits may require an extended period of time to reach resolution and may result in significant income tax adjustments when interpretation of tax laws or allocation of company profits is disputed.
The principal considerations for our determination that performing procedures relating to tax liabilities for unrecognized tax benefits is a critical audit matter are the significant judgment by management when determining the tax liabilities, related to a high degree of estimation uncertainty relative to the numerous and complex tax laws and regulations, frequency of income tax audits, and potential for significant adjustments as a result of such audits. This in turn led to a high degree of auditor judgment, subjectivity, and effort in performing procedures to evaluate the timely identification and accurate measurement of tax liabilities for unrecognized tax benefits. Also, the evaluation of audit evidence available to support the estimates is complex and required significant auditor judgment as the nature of the evidence is often highly subjective, and the audit effort involved the use of professionals with specialized skill and knowledge.
Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to the identification, accurate measurement, and recognition of tax liabilities for unrecognized tax benefits, including controls addressing completeness of the tax liabilities. These procedures also included, among others, (i) testing certain information used in the calculation of tax liabilities for unrecognized tax benefits by jurisdiction on a sample basis, (ii) assessing the completeness of the Company’s identification of tax liabilities for unrecognized tax benefits and possible outcomes for each unrecognized tax benefit, and (iii) evaluating the status and results of income tax audits with the relevant tax authorities. Professionals with specialized skill and knowledge were used to assist in the evaluation of the Company’s interpretation and application of relevant tax laws and regulations in various jurisdictions and assessing the reasonableness of the Company’s tax positions.
/s/ PricewaterhouseCoopers LLP
Chicago, Illinois
February 22, 2021
We have served as the Company’s auditor since 2000.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EARNINGS
(in millions, except per share amounts)
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Net Sales | $ | 7,024.5 | $ | 7,982.2 | $ | 7,932.9 | ||||||
| Cost of products sold, excluding intangible asset amortization | 2,128.3 | 2,252.6 | 2,271.9 | |||||||||
| Intangible asset amortization | 597.6 | 584.3 | 595.9 | |||||||||
| Research and development | 372.0 | 449.3 | 391.7 | |||||||||
| Selling, general and administrative | 3,177.8 | 3,343.8 | 3,379.3 | |||||||||
| Goodwill and intangible asset impairment | 645.0 | 70.1 | 979.7 | |||||||||
| Restructuring and other cost reduction initiatives | 116.9 | 50.0 | 34.2 | |||||||||
| Quality remediation | 50.9 | 82.4 | 146.9 | |||||||||
| Acquisition, integration and related | 23.8 | 12.2 | 99.5 | |||||||||
| Operating expenses | 7,112.3 | 6,844.7 | 7,899.1 | |||||||||
| Operating (Loss) Profit | (87.8 | ) | 1,137.5 | 33.8 | ||||||||
| Other income (expense), net | 25.4 | (4.8 | ) | (15.6 | ) | |||||||
| Interest expense, net | (212.0 | ) | (226.9 | ) | (289.3 | ) | ||||||
| (Loss) Earnings before income taxes | (274.4 | ) | 905.8 | (271.1 | ) | |||||||
| (Benefit) provision for income taxes | (137.0 | ) | (225.7 | ) | 108.2 | |||||||
| Net (Loss) Earnings | (137.4 | ) | 1,131.5 | (379.3 | ) | |||||||
| Less: Net earnings (loss) attributable to noncontrolling interest | 1.5 | (0.1 | ) | (0.1 | ) | |||||||
| Net (Loss) Earnings of Zimmer Biomet Holdings, Inc. | $ | (138.9 | ) | $ | 1,131.6 | $ | (379.2 | ) | ||||
| (Loss) Earnings Per Common Share - Basic | $ | (0.67 | ) | $ | 5.52 | $ | (1.86 | ) | ||||
| (Loss) Earnings Per Common Share - Diluted | $ | (0.67 | ) | $ | 5.47 | $ | (1.86 | ) | ||||
| Weighted Average Common Shares Outstanding | ||||||||||||
| Basic | 207.0 | 205.1 | 203.5 | |||||||||
| Diluted | 207.0 | 206.7 | 203.5 |
The accompanying notes are an integral part of these consolidated financial statements.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in millions)
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Net (Loss) Earnings | $ | (137.4 | ) | $ | 1,131.5 | $ | (379.3 | ) | ||||
| Other Comprehensive Income (Loss): | ||||||||||||
| Foreign currency cumulative translation adjustments, net of tax | 25.6 | (1.5 | ) | (135.4 | ) | |||||||
| Unrealized cash flow hedge (losses)/gains, net of tax | (33.5 | ) | 30.6 | 68.2 | ||||||||
| Reclassification adjustments on cash flow hedges, net of tax | (38.5 | ) | (35.1 | ) | 23.6 | |||||||
| Adjustments to prior service cost and unrecognized actuarial assumptions, net of tax | (9.5 | ) | (48.5 | ) | (17.7 | ) | ||||||
| Total Other Comprehensive Loss | (55.9 | ) | (54.5 | ) | (61.3 | ) | ||||||
| Comprehensive (Loss) Income | (193.3 | ) | 1,077.0 | (440.6 | ) | |||||||
| Comprehensive Income (Loss) Attributable to Noncontrolling Interest | 1.5 | (0.1 | ) | (0.1 | ) | |||||||
| Comprehensive (Loss) Income Attributable to Zimmer Biomet Holdings, Inc. | $ | (194.8 | ) | $ | 1,077.1 | $ | (440.5 | ) |
The accompanying notes are an integral part of these consolidated financial statements.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in millions, except share amounts)
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| ASSETS | ||||||||
| Current Assets: | ||||||||
| Cash and cash equivalents | $ | 802.1 | $ | 617.9 | ||||
| Accounts receivable, less allowance for credit losses | 1,452.7 | 1,363.9 | ||||||
| Inventories | 2,450.7 | 2,385.0 | ||||||
| Prepaid expenses and other current assets | 377.8 | 357.1 | ||||||
| Total Current Assets | 5,083.3 | 4,723.9 | ||||||
| Property, plant and equipment, net | 2,047.7 | 2,077.4 | ||||||
| Goodwill | 9,261.8 | 9,599.7 | ||||||
| Intangible assets, net | 7,055.5 | 7,257.6 | ||||||
| Other assets | 969.4 | 980.1 | ||||||
| Total Assets | $ | 24,417.7 | $ | 24,638.7 | ||||
| LIABILITIES AND STOCKHOLDERS' EQUITY | ||||||||
| Current Liabilities: | ||||||||
| Accounts payable | $ | 330.0 | $ | 400.9 | ||||
| Income taxes payable | 59.5 | 126.7 | ||||||
| Other current liabilities | 1,667.4 | 1,413.9 | ||||||
| Current portion of long-term debt | 500.0 | 1,500.0 | ||||||
| Total Current Liabilities | 2,556.9 | 3,441.5 | ||||||
| Deferred income taxes, net | 790.4 | 840.1 | ||||||
| Long-term income tax payable | 588.1 | 685.1 | ||||||
| Other long-term liabilities | 656.4 | 557.8 | ||||||
| Long-term debt | 7,626.5 | 6,721.4 | ||||||
| Total Liabilities | 12,218.3 | 12,245.9 | ||||||
| Commitments and Contingencies (Note 21) | ||||||||
| Stockholders' Equity: | ||||||||
| Common stock, $0.01 par value, one billion shares authorized, 311.4 million (309.9 million in 2019) issued | 3.1 | 3.1 | ||||||
| Paid-in capital | 9,121.6 | 8,920.1 | ||||||
| Retained earnings | 10,086.9 | 10,427.3 | ||||||
| Accumulated other comprehensive loss | (297.8 | ) | (241.9 | ) | ||||
| Treasury stock, 103.8 million shares (103.9 million shares in 2019) | (6,719.6 | ) | (6,720.5 | ) | ||||
| Total Zimmer Biomet Holdings, Inc. stockholders' equity | 12,194.2 | 12,388.1 | ||||||
| Noncontrolling interest | 5.2 | 4.7 | ||||||
| Total Stockholders' Equity | 12,199.4 | 12,392.8 | ||||||
| Total Liabilities and Stockholders' Equity | $ | 24,417.7 | $ | 24,638.7 |
The accompanying notes are an integral part of these consolidated financial statements.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in millions)
| Zimmer Biomet Holdings, Inc. Stockholders | ||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Accumulated | ||||||||||||||||||||||||||||||||||||
| Other | Total | |||||||||||||||||||||||||||||||||||
| Common Shares | Paid-in | Retained | Comprehensive | Treasury Shares | Noncontrolling | Stockholders' | ||||||||||||||||||||||||||||||
| Number | Amount | Capital | Earnings | (Loss) Income | Number | Amount | Interest | Equity | ||||||||||||||||||||||||||||
| Balance January 1, 2018 | 306.5 | $ | 3.1 | $ | 8,514.9 | $ | 10,022.8 | $ | (83.2 | ) | (103.9 | ) | $ | (6,721.8 | ) | $ | (0.3 | ) | $ | 11,735.5 | ||||||||||||||||
| Net loss | - | - | - | (379.2 | ) | - | - | - | (0.1 | ) | (379.3 | ) | ||||||||||||||||||||||||
| Other comprehensive loss | - | - | - | - | (61.3 | ) | - | - | - | (61.3 | ) | |||||||||||||||||||||||||
| Cash dividends declared ($0.96 per share) | - | - | - | (195.5 | ) | - | - | - | - | (195.5 | ) | |||||||||||||||||||||||||
| Adoption of new accounting standard | - | - | - | 42.9 | (42.9 | ) | - | - | - | - | ||||||||||||||||||||||||||
| Sale of shares in a subsidiary without loss of control | - | - | - | - | - | - | - | 5.2 | 5.2 | |||||||||||||||||||||||||||
| Stock compensation plans | 1.4 | - | 171.2 | 0.2 | - | - | 0.1 | - | 171.5 | |||||||||||||||||||||||||||
| Balance December 31, 2018 | 307.9 | 3.1 | 8,686.1 | 9,491.2 | (187.4 | ) | (103.9 | ) | (6,721.7 | ) | 4.8 | 11,276.1 | ||||||||||||||||||||||||
| Net earnings | - | - | - | 1,131.6 | - | - | - | (0.1 | ) | 1,131.5 | ||||||||||||||||||||||||||
| Other comprehensive loss | - | - | - | - | (54.5 | ) | - | - | - | (54.5 | ) | |||||||||||||||||||||||||
| Cash dividends declared ($0.96 per share) | - | - | - | (197.2 | ) | - | - | - | - | (197.2 | ) | |||||||||||||||||||||||||
| Stock compensation plans | 2.0 | - | 234.0 | 1.7 | - | - | 1.2 | - | 236.9 | |||||||||||||||||||||||||||
| Balance December 31, 2019 | 309.9 | 3.1 | 8,920.1 | 10,427.3 | (241.9 | ) | (103.9 | ) | (6,720.5 | ) | 4.7 | 12,392.8 | ||||||||||||||||||||||||
| Net loss | - | - | - | (138.9 | ) | - | - | - | 1.5 | (137.4 | ) | |||||||||||||||||||||||||
| Other comprehensive loss | - | - | - | - | (55.9 | ) | - | - | - | (55.9 | ) | |||||||||||||||||||||||||
| Cash dividends declared ($0.96 per share) | - | - | - | (198.9 | ) | - | - | - | - | (198.9 | ) | |||||||||||||||||||||||||
| Adoption of new accounting standard | - | - | - | (3.1 | ) | - | - | - | - | (3.1 | ) | |||||||||||||||||||||||||
| Acquisition of noncontrolling interest | - | - | - | - | - | - | - | (1.0 | ) | (1.0 | ) | |||||||||||||||||||||||||
| Stock compensation plans | 1.5 | - | 201.5 | 0.5 | - | 0.1 | 0.9 | - | 202.9 | |||||||||||||||||||||||||||
| Balance December 31, 2020 | 311.4 | $ | 3.1 | $ | 9,121.6 | $ | 10,086.9 | $ | (297.8 | ) | (103.8 | ) | $ | (6,719.6 | ) | $ | 5.2 | $ | 12,199.4 |
The accompanying notes are an integral part of these consolidated financial statements.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in millions)
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Cash flows provided by (used in) operating activities: | ||||||||||||
| Net (loss) earnings | $ | (137.4 | ) | $ | 1,131.5 | $ | (379.3 | ) | ||||
| Adjustments to reconcile net (loss) earnings to net cash provided by operating activities: | ||||||||||||
| Depreciation and amortization | 1,032.7 | 1,006.1 | 1,040.5 | |||||||||
| Share-based compensation | 79.7 | 84.3 | 65.5 | |||||||||
| Goodwill and intangible asset impairment | 645.0 | 70.1 | 979.7 | |||||||||
| Deferred income tax benefit (provision) | 12.0 | (538.7 | ) | 13.4 | ||||||||
| Changes in operating assets and liabilities, net of | ||||||||||||
| acquired assets and liabilities | ||||||||||||
| Income taxes | (291.1 | ) | 111.4 | (150.8 | ) | |||||||
| Receivables | (70.0 | ) | (93.8 | ) | 213.6 | |||||||
| Inventories | (40.8 | ) | (125.2 | ) | (199.5 | ) | ||||||
| Accounts payable and accrued liabilities | (95.1 | ) | (42.0 | ) | 155.9 | |||||||
| Other assets and liabilities | 69.5 | (17.9 | ) | 8.4 | ||||||||
| Net cash provided by operating activities | 1,204.5 | 1,585.8 | 1,747.4 | |||||||||
| Cash flows provided by (used in) investing activities: | ||||||||||||
| Additions to instruments | (291.7 | ) | (315.9 | ) | (276.3 | ) | ||||||
| Additions to other property, plant and equipment | (117.5 | ) | (207.1 | ) | (162.7 | ) | ||||||
| Net investment hedge settlements | 53.5 | 48.1 | 69.2 | |||||||||
| Acquisition of intellectual property rights | (0.4 | ) | (197.6 | ) | - | |||||||
| Business combination investments, net of acquired cash | (235.5 | ) | (37.1 | ) | (15.3 | ) | ||||||
| Investments in other assets | (22.2 | ) | (19.7 | ) | (31.5 | ) | ||||||
| Net cash used in investing activities | (613.8 | ) | (729.3 | ) | (416.6 | ) | ||||||
| Cash flows provided by (used in) financing activities: | ||||||||||||
| Proceeds from senior notes | 1,497.1 | 549.2 | 749.5 | |||||||||
| Proceeds from multicurrency revolving facility | - | - | 400.0 | |||||||||
| Payments on multicurrency revolving facility | - | - | (400.0 | ) | ||||||||
| Redemption of senior notes | (1,750.0 | ) | (500.0 | ) | (1,150.0 | ) | ||||||
| Proceeds from term loans | - | 200.0 | 675.0 | |||||||||
| Payments on term loans | - | (960.0 | ) | (1,425.0 | ) | |||||||
| Net payments on other debt | - | (5.3 | ) | (3.9 | ) | |||||||
| Dividends paid to stockholders | (198.5 | ) | (196.7 | ) | (195.2 | ) | ||||||
| Proceeds from employee stock compensation plans | 129.8 | 158.2 | 107.9 | |||||||||
| Net cash flows from unremitted collections from factoring programs | (54.6 | ) | (12.2 | ) | (36.7 | ) | ||||||
| Business combination contingent consideration payments | (15.0 | ) | (2.9 | ) | (19.8 | ) | ||||||
| Debt issuance costs | (22.3 | ) | (3.5 | ) | (4.9 | ) | ||||||
| Other financing activities | (8.3 | ) | (6.7 | ) | 0.9 | |||||||
| Net cash used in financing activities | (421.8 | ) | (779.9 | ) | (1,302.2 | ) | ||||||
| Effect of exchange rates on cash and cash equivalents | 15.3 | (1.5 | ) | (10.2 | ) | |||||||
| Increase in cash and cash equivalents | 184.2 | 75.1 | 18.4 | |||||||||
| Cash and cash equivalents, beginning of year | 617.9 | 542.8 | 524.4 | |||||||||
| Cash and cash equivalents, end of period | $ | 802.1 | $ | 617.9 | $ | 542.8 |
The accompanying notes are an integral part of these consolidated financial statements.
ZIMMER BIOMET HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
| 1. | Business |
|---|
We design, manufacture and market orthopedic reconstructive products; sports medicine, biologics, extremities and trauma products; office based technologies; spine, craniomaxillofacial and thoracic products; dental implants; and related surgical products. We collaborate with healthcare professionals around the globe to advance the pace of innovation. Our products and solutions help treat patients suffering from disorders of, or injuries to, bones, joints or supporting soft tissues. Together with healthcare professionals, we help millions of people live better lives.
The words “Zimmer Biomet,” “we,” “us,” “our,” “the Company” and similar words refer to Zimmer Biomet Holdings, Inc. and its subsidiaries. “Zimmer Biomet Holdings” refers to the parent company only. In 2015, we completed our merger with LVB Acquisition, Inc., the parent company of Biomet, Inc. (“Biomet”).
Risks and Uncertainties - Our results have been and are expected to continue to be impacted by the COVID-19 global pandemic. The vast majority of our net sales are derived from products used in elective surgical procedures which are being deferred due to lockdowns, stay-at-home measures and other precautions in certain markets. The consequences of COVID-19 continue to be extremely fluid and there are many market dynamics that are difficult to predict. The COVID-19 pandemic may have a significant unfavorable effect on our financial position, results of operations and cash flows in the near term.
| 2. | Significant Accounting Policies |
|---|
Basis of Presentation - The consolidated financial statements include the accounts of Zimmer Biomet Holdings and its subsidiaries in which it holds a controlling financial interest. All significant intercompany accounts and transactions are eliminated.
Use of Estimates - The consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP”), which requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. We have made our best estimates, as appropriate under GAAP, in the recognition of our assets and liabilities. These estimates have considered the impact the COVID-19 pandemic may have on our financial position, results of operations and cash flows. Such estimates included, but were not limited to, variable consideration to our customers, our allowance for doubtful accounts for expected credit losses, the net realizable value of our inventory, the fair value of our goodwill and the recoverability of other long-lived assets. Actual results could differ materially from these estimates.
Foreign Currency Translation - The financial statements of our foreign subsidiaries are translated into U.S. Dollars using period-end exchange rates for assets and liabilities and average exchange rates for operating results. Unrealized translation gains and losses are included in accumulated other comprehensive loss in stockholders’ equity. When a transaction is denominated in a currency other than the subsidiary’s functional currency, we remeasure the transaction into the functional currency and recognize any transactional gains or losses in earnings.
Shipping and Handling - Amounts billed to customers for shipping and handling of products are reflected in net sales and are not significant. Expenses incurred related to shipping and handling of products are reflected in selling, general and administrative (“SG&A”) expenses and were $269.9 million, $292.7 million and $290.2 million for the years ended December 31, 2020, 2019 and 2018, respectively.
Research and Development - We expense all research and development (“R&D”) costs as incurred except when there is an alternative future use for the R&D. R&D costs include salaries, prototypes, depreciation of equipment used in R&D, consultant fees and service fees paid to collaborative partners. Where contingent milestone payments are due to third parties under R&D arrangements, we expense the milestone payment obligations when it is probable that the milestone results will be achieved.
Litigation - We record a liability for contingent losses, including future legal costs, settlements and judgments, when we consider it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated.
Quality remediation - We use the financial statement line item “Quality remediation” to recognize expenses related to addressing inspectional observations on Form 483 and a warning letter issued by the FDA following its inspections of our Warsaw North Campus facility, among other matters. See Note 21 for additional information about the Form 483 and warning letter. The majority of these expenses are related to consultants who are helping us to update previous documents and redesign certain processes.
Restructuring and other cost reduction initiatives - A restructuring is defined as a program that is planned and controlled by management, and materially changes either the scope of a business undertaken by an entity, or the manner in which that business is conducted. Restructuring charges include (i) employee termination benefits, (ii) contract termination costs and (iii) other related costs associated with exit or disposal activities.
In December 2019, our Board of Directors approved, and we initiated, a new global restructuring program with an objective of reducing costs to allow us to further invest in higher priority growth opportunities. Restructuring charges for the years ended December 31, 2020 and 2019 were primarily attributable to this program. Restructuring charges for the year ended December 31, 2018 were primarily attributable to project costs related to our supply chain optimization initiative.
Acquisition, integration and related – We use the financial statement line item, “Acquisition, integration and related” to recognize expenses resulting from the consummation of business mergers and acquisitions and the related integration of those businesses. Acquisition, integration and related gains and expenses are primarily composed of:
| • | Consulting and professional fees related to third-party integration consulting performed in a variety of areas, such as tax, compliance, logistics and human resources, and legal fees related to the consummation of mergers and acquisitions. |
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| • | Employee termination benefits related to terminating employees with overlapping responsibilities in various areas of our business. |
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| • | Dedicated project personnel expenses which include the salary, benefits, travel expenses and other costs directly associated with employees who are 100 percent dedicated to our integration of acquired businesses and employees who have been notified of termination, but are continuing to work on transferring their responsibilities. |
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| • | Contract termination expenses related to terminated contracts, primarily with sales agents and distribution agreements. |
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| • | Other various expenses to relocate facilities, integrate information technology, losses incurred on assets resulting from the applicable acquisition, and other various expenses. |
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Cash and Cash Equivalents - We consider all highly liquid investments with an original maturity of three months or less to be cash equivalents. The carrying amounts reported in the balance sheet for cash and cash equivalents are valued at cost, which approximates their fair value.
Accounts Receivable - Accounts receivable consists of trade and other miscellaneous receivables. We grant credit to customers in the normal course of business and maintain an allowance for expected credit losses. We determine the allowance for credit losses by geographic market and take into consideration historical credit experience, creditworthiness of the customer and other pertinent information. We make concerted efforts to collect all accounts receivable, but sometimes we have to write-off the account against the allowance when we determine the account is uncollectible. The allowance for credit losses was $75.8 million and $65.0 million as of December 31, 2020 and 2019, respectively.
We also have receivables purchase arrangements with unrelated third parties to transfer portions of our trade accounts receivable balance. We terminated our purchase arrangements in the U.S. and Japan during the year ended December 31, 2020, but continue to have arrangements in Europe. Funds received from the transfers are recorded as an increase to cash and a reduction to accounts receivable outstanding in our consolidated balance sheets. We report the cash flows attributable to the sale of receivables to third parties in cash flows from operating activities in our consolidated statements of cash flows. Net expenses resulting from the sales of receivables are recognized in SG&A expense. Net expenses include any resulting gains or losses from the sales of receivables, credit insurance and factoring fees. Under the previous arrangement in the U.S. and Japan, any collections that we made that were unremitted to the third parties were recognized on our consolidated balance sheets under other current liabilities and in our consolidated statements of cash flows in financing activities. In Europe, we have no continuing involvement with the factored receivable.
Inventories - Inventories are stated at the lower of cost and net realizable value, with cost determined on a first-in first-out basis.
Property, Plant and Equipment - Property, plant and equipment is carried at cost less accumulated depreciation. Depreciation is computed using the straight-line method based on estimated useful lives of ten to forty years for buildings and improvements and three to eight years for machinery and equipment. Maintenance and repairs are expensed as incurred. We review property, plant and equipment for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. An impairment loss would be recognized when estimated future undiscounted cash flows relating to the asset are less than its carrying amount. An impairment loss is measured as the amount by which the carrying amount of an asset exceeds its fair value.
Software Costs - We capitalize certain computer software and software development costs incurred in connection with developing or obtaining computer software for internal use when both the preliminary project stage is completed and it is probable that the software will be used as intended. Capitalized software costs generally include external direct costs of materials and services utilized in developing or obtaining computer software and compensation and related benefits for employees who are directly associated with the software project. Capitalized software costs are included in property, plant and equipment on our balance sheet and amortized on a straight-line or weighted average estimated user basis when the software is ready for its intended use over the estimated useful lives of the software, which approximate three to fifteen years.
For cloud computing arrangements that are considered a service contract, our capitalization of implementation costs is aligned with the internal use software requirements. However, on our consolidated balance sheet these implementation costs are recognized in other noncurrent assets. On our consolidated statement of cash flows, these implementations costs are recognized in operating cash flows. The implementation costs are recognized on a straight-line basis over the expected term of the related service contract.
Instruments - Instruments are hand-held devices used by surgeons during total joint replacement and other surgical procedures. Instruments are recognized as long-lived assets and are included in property, plant and equipment. Undeployed instruments are carried at cost or realizable value. Instruments that have been deployed to be used in surgeries are carried at cost less accumulated depreciation. Depreciation is computed using the straight-line method based on average estimated useful lives, determined principally in reference to associated product life cycles, primarily five years. We review instruments for impairment whenever events or changes in circumstances indicate that the carrying value of an instrument may not be recoverable. Depreciation of instruments is recognized as SG&A expense.
Goodwill - Goodwill is not amortized but is subject to annual impairment tests. Goodwill has been assigned to reporting units. We perform annual impairment tests by either comparing a reporting unit’s estimated fair value to its carrying amount or doing a qualitative assessment of a reporting unit’s fair value from the last quantitative assessment to determine if there is potential impairment. We may do a qualitative assessment when the results of the previous quantitative test indicated the reporting unit’s estimated fair value was significantly in excess of the carrying value of its net assets and we do not believe there have been significant changes in the reporting unit’s operations that would significantly decrease its estimated fair value or significantly increase its net assets. If a quantitative assessment is performed, the fair value of the reporting unit and the fair value of goodwill are determined based upon a discounted cash flow analysis and/or use of a market approach by looking at market values of comparable companies. Significant assumptions are incorporated into our discounted cash flow analyses such as estimated growth rates and risk-adjusted discount rates. We perform this test in the fourth quarter of the year or whenever events or changes in circumstances indicate that the carrying value of the reporting unit’s assets may not be recoverable. If the fair value of the reporting unit is less than its carrying value, an impairment loss is recorded in the amount that the carrying value of the business unit exceeds the fair value. See Note 11 for more information regarding goodwill.
Intangible Assets - Intangible assets are initially measured at their fair value. We have determined the fair value of our intangible assets either by the fair value of the consideration exchanged for the intangible asset or the estimated after-tax discounted cash flows expected to be generated from the intangible asset. Intangible assets with a finite life, including technology, certain trademarks and trade names, customer-related intangibles, intellectual property rights and patents and licenses are amortized on a straight-line basis over their estimated useful life or contractual life, which may range from less than one year to twenty years. Intangible assets with a finite life are tested for impairment whenever events or circumstances indicate that the carrying amount may not be recoverable.
Intangible assets with an indefinite life, including certain trademarks and trade names and in-process research and development (“IPR&D”) projects, are not amortized. Indefinite life intangible assets are assessed annually to determine whether events and circumstances continue to support an indefinite life. Intangible assets with an indefinite life are tested for impairment annually or whenever events or circumstances indicate that the carrying amount may not be recoverable. An impairment loss is recognized if the carrying amount exceeds the estimated fair value of the asset. The amount of the impairment loss to be recorded would be determined based upon the excess of the asset’s carrying value over its fair value. The fair values of indefinite lived intangible assets are determined based upon a discounted cash flow analysis using the relief from royalty method or a qualitative assessment may be performed for any changes to the asset’s fair value from the last quantitative assessment. The relief from royalty method estimates the cost savings associated with owning, rather than licensing, assets. Significant assumptions are incorporated into these discounted cash flow analyses such as estimated growth rates, royalty rates and risk-adjusted discount rates. We may do a qualitative assessment when the results of the previous quantitative test indicated that the asset’s fair value was significantly in excess of its carrying value.
In determining the useful lives of intangible assets, we consider the expected use of the assets and the effects of obsolescence, demand, competition, anticipated technological advances, changes in surgical techniques, market influences and other economic factors. For technology-based intangible assets, we consider the expected life cycles of products, absent unforeseen technological advances, which incorporate the corresponding technology. Trademarks and trade names that do not have a wasting characteristic (i.e., there are no legal, regulatory, contractual, competitive, economic or other factors which limit the useful life) are assigned an indefinite life. Trademarks and trade names that are related to products expected to be phased out are assigned lives consistent with the period in which the products bearing each brand are expected to be sold. For customer relationship intangible assets, we assign useful lives based upon historical levels of customer attrition. Intellectual property rights are assigned useful lives that approximate the contractual life of any related patent or the period for which we maintain exclusivity over the intellectual property.
Income Taxes - We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, deferred tax assets and liabilities are determined based on the differences between the financial statements and tax basis of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period the new tax rate is enacted.
We reduce our deferred tax assets by a valuation allowance if it is more likely than not that we will not realize some portion or all of the deferred tax assets. In making such determination, we consider all available positive and negative evidence, including future reversals of existing taxable temporary differences, projected future taxable income, tax planning strategies and recent financial operations. In the event we were to determine that we would be able to realize our deferred income tax assets in the future in excess of their net recorded amount, we would make an adjustment to the valuation allowance which would reduce the provision for income taxes.
We operate on a global basis and are subject to numerous and complex tax laws and regulations. Our income tax filings are regularly under audit in multiple federal, state and foreign jurisdictions. Income tax audits may require an extended period of time to reach resolution and may result in significant income tax adjustments when interpretation of tax laws or allocation of company profits is disputed. Because income tax adjustments in certain jurisdictions can be significant, we record accruals representing management's best estimate of the probable resolution of these matters. To the extent additional information becomes available, such accruals are adjusted to reflect the revised estimated probable outcome.
Derivative Financial Instruments - We measure all derivative instruments at fair value and report them on our consolidated balance sheet as assets or liabilities. We maintain written policies and procedures that permit, under appropriate circumstances and subject to proper authorization, the use of derivative financial instruments solely for risk management purposes. The use of derivative financial instruments for trading or speculative purposes is prohibited by our policy. See Note 15 for more information regarding our derivative and hedging activities.
Accumulated Other Comprehensive Income (Loss) – Accumulated other comprehensive income (loss) (“AOCI”) refers to gains and losses that under generally accepted accounting principles are included in comprehensive income but are excluded from net earnings as these amounts are recorded directly as an adjustment to stockholders’ equity. Our AOCI is comprised of foreign currency translation adjustments, including unrealized gains and losses on net investments hedges, unrealized gains and losses on cash flow hedges and amortization of prior service costs and unrecognized gains and losses in actuarial assumptions.
Treasury Stock - We account for repurchases of common stock under the cost method and present treasury stock as a reduction of stockholders’ equity. We reissue common stock held in treasury only for limited purposes.
Noncontrolling Interest - We have investments in other companies in which we have a controlling financial interest, but not 100 percent of the equity. Further information related to the noncontrolling interests of those investments have not been provided as it is not significant to our consolidated financial statements.
Accounting Pronouncements Recently Adopted
In June 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”) 2016-13, Financial Instruments – Credit Losses (Topic 326). The new guidance describes the current expected credit loss (“CECL”) model which requires an estimate of expected impairment on financial instruments over the lifetime of the assets at each reporting date. Financial instruments in scope of the guidance include financial assets measured at amortized cost. Previous accounting guidance required recognition of impairment when it was probable the loss has been incurred. Under the CECL model, lifetime expected credit losses are measured and recognized at each reporting date based on historical experience, current conditions and forecasted information. We adopted this standard as of January 1, 2020. Adoption of this standard required the modified retrospective transition method, which resulted in a cumulative-effect adjustment to retained earnings of $3.1 million. The adoption primarily impacted our trade receivables. Our concentrations of credit risks are limited due to the large number of customers and their dispersion across a number of geographic areas. Substantially all of our trade receivables are concentrated in the public and private hospital and healthcare industry in the U.S. and internationally or with distributors or dealers who operate in international markets. Our historical credit losses have not been significant due to this dispersion and the financial stability of our customers. We consider credit losses immaterial to our business and, therefore, have not provided all the disclosures otherwise required by the standard.
In August 2018, the FASB issued ASU 2018-15, Intangibles-Goodwill and Other-Internal-Use Software. ASU 2018-15 aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software. Our policy for capitalizing implementation costs in a hosting arrangement was already aligned with the new guidance. ASU 2018-15 also provides guidance on how these implementation costs are to be recorded in the statement of earnings, balance sheet and statement of cash flows. We adopted this standard on a prospective basis as of January 1, 2020. The adoption of this standard did not have a material impact on our financial position, results of operations or cash flows.
Accounting Pronouncements Not Yet Adopted
In December 2019, the FASB issued ASU 2019-12 Simplifying the Accounting for Income Taxes. ASU 2019-12 eliminates certain exceptions in the current rules regarding the approach for intraperiod tax allocations and the methodology for calculating income taxes in an interim period, and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill, among other things. The standard becomes effective for us in the first quarter of 2021. We are currently evaluating the impact the standard will have on our consolidated financial statements, but at this time we do not expect it to be significant.
There are no recently issued accounting pronouncements that we have not yet adopted that are expected to have a material effect on our financial position, results of operations or cash flows.
| 3. | Revenue Recognition |
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We recognize revenue when our performance obligations under the terms of a contract with our customer are satisfied. This happens when we transfer control of our products to the customer, which generally occurs upon implantation or when title passes upon shipment. Revenue is measured as the amount of consideration we expect to receive in exchange for transferring our product. Taxes collected from customers and remitted to governmental authorities are excluded from revenues.
We sell products through three principal channels: 1) direct to healthcare institutions, referred to as direct channel accounts; 2) through stocking distributors and healthcare dealers; and 3) directly to dental practices and dental laboratories. In direct channel accounts and with some healthcare dealers, inventory is generally consigned to sales agents or customers so that products are available when needed for surgical procedures. No revenue is recognized upon the placement of inventory into consignment, as we retain the ability to control the inventory. Upon implantation, we issue an invoice and revenue is recognized. Consignment sales represented approximately 80
percent of our net sales in 2020. Pricing for products is generally predetermined by contracts with customers, agents acting on behalf of customer groups or by government regulatory bodies, depending on the market. Price discounts under group purchasing contracts are generally linked to volume of implant purchases by customer healthcare institutions within a specified group. At negotiated thresholds within a contract buying period, price discounts may increase. Payment terms vary by customer, but are typically less than 90 days.
With sales to stocking distributors, some healthcare dealers and hospitals, dental practices and dental laboratories, revenue is generally recognized when control of our product passes to the customer, which is typically upon shipment of the product. We estimate sales recognized in this manner represented approximately 20 percent of our net sales in 2020. These customers may purchase items in large quantities if incentives are offered or if there are new product offerings in a market, which could cause period-to-period differences in sales. It is our accounting policy to account for shipping and handling activities as a fulfillment cost rather than as an additional promised service. We have contracts with these customers or orders may be placed from available price lists. Payment terms vary by customer, but are typically less than 90 days.
We offer standard warranties to our customers that our products are not defective. These standard warranties are not considered separate performance obligations. In limited circumstances, we offer extended warranties that are separate performance obligations. We have very few contracts that have multiple performance obligations. Since we do not have significant multiple element arrangements and essentially all of our sales are recognized upon implantation of a product or when title passes, very little judgment is required to allocate the transaction price of a contract or determine when control has passed to a customer. Our costs to obtain contracts consist primarily of sales commissions to employees or third party agents that are earned when control of our product passes to the customer. Therefore, sales commissions are expensed as part of SG&A expenses at the same time revenue is recognized. Accordingly, we do not have significant contract assets, liabilities or future performance obligations.
We offer volume-based discounts, rebates, prompt pay discounts, right of return and other various incentives which we account for under the variable consideration model. If sales incentives may be earned by a customer for purchasing a specified amount of our product, we estimate whether such incentives will be achieved and recognize these incentives as a reduction in revenue in the same period the underlying revenue transaction is recognized. We primarily use the expected value method to estimate incentives. Under the expected value method, we consider the historical experience of similar programs as well as review sales trends on a customer-by-customer basis to estimate what levels of incentives will be earned. Occasionally, products are returned and, accordingly, we maintain an estimated refund liability based upon the expected value method that is recorded as a reduction in revenue.
We analyze sales by three geographies, the Americas; Europe, Middle East and Africa (“EMEA”); and Asia Pacific; and by the following product categories: Knees; Hips; Sports Medicine, Biologics, Foot and Ankle, Extremities and Trauma (“S.E.T.”); Dental, Spine & Craniomaxillofacial and Thoracic (“CMFT”); and Other. As discussed in Note 19, we have three operating segments which are Americas and Global Businesses, EMEA and Asia Pacific. The net sales by geography includes sales of all product categories including Dental which is included as a global business in the Americas and Global Businesses operating segment.
Our sales analysis differs from our reporting operating segments because the underlying market trends in any particular geography tend to be similar across product categories and because we primarily sell the same products in all geographies.
Net sales by geography are as follows (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Americas | $ | 4,335.4 | $ | 4,875.8 | $ | 4,837.2 | ||||||
| EMEA | 1,391.3 | 1,746.9 | 1,801.9 | |||||||||
| Asia Pacific | 1,297.8 | 1,359.5 | 1,293.8 | |||||||||
| Total | $ | 7,024.5 | $ | 7,982.2 | $ | 7,932.9 |
Net sales by product category are as follows (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Knees | $ | 2,389.8 | $ | 2,810.1 | $ | 2,773.7 | ||||||
| Hips | 1,750.5 | 1,931.5 | 1,918.9 | |||||||||
| S.E.T | 1,322.0 | 1,444.1 | 1,401.2 | |||||||||
| Dental, Spine & CMFT | 1,043.7 | 1,161.3 | 1,175.1 | |||||||||
| Other | 518.5 | 635.2 | 664.0 | |||||||||
| Total | $ | 7,024.5 | $ | 7,982.2 | $ | 7,932.9 |
In the first quarter of 2020, we updated our product category revenue reporting format to further align with our announced reorganization. Product category sales include the following changes:
| • | Surgical products, previously reported in the S.E.T. (Sports Medicine, Extremities and Trauma) product category, are included in the Other product category; |
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| • | Dental products are combined with Spine and CMF (Craniomaxillofacial) products into one product category; |
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| • | The CMF product category name has been changed to CMFT (Craniomaxillofacial and Thoracic), to reflect the Thoracic business, which is included in that category; and |
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| • | Other immaterial adjustments related to brand alignment within product categories in the Asia Pacific region have been made |
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Prior period product category sales have been reclassified to conform to the current presentation.
| 4. | Restructuring |
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In December 2019, our Board of Directors approved, and we initiated, a new global restructuring program (the “2019 Restructuring Plan”) with an objective of reducing costs to allow us to further invest in higher priority growth opportunities. The 2019 Restructuring Plan is expected to result in total pre-tax restructuring charges of approximately $350 million to $400 million and reduce gross annual pre-tax operating expenses by approximately $200 million to $300 million by the end of 2023 as program benefits are realized. The pre-tax restructuring charges consist of employee termination benefits; contract terminations for facilities and sales agents; and other charges, such as consulting fees, project management and relocation costs. The restructuring charges incurred in the year ended December 31, 2020 primarily related to employee termination benefits, distributor contract terminations, consulting and project management. The restructuring charges incurred in the year ended December 31, 2019, primarily related to employee termination benefits, consulting and project management. The following table summarizes the liabilities recognized related to the 2019 Restructuring Plan (in millions):
| Employee | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Termination | Contract | |||||||||||||||
| Benefits | Terminations | Other | Total | |||||||||||||
| Balance, December 31, 2018 | $ | - | $ | - | $ | - | $ | - | ||||||||
| Additions | 23.2 | - | 13.1 | 36.3 | ||||||||||||
| Cash payments | - | - | (9.0 | ) | (9.0 | ) | ||||||||||
| Balance, December 31, 2019 | 23.2 | - | 4.1 | 27.3 | ||||||||||||
| Additions | 55.3 | 15.8 | 37.1 | 108.2 | ||||||||||||
| Cash payments | (41.2 | ) | (4.9 | ) | (26.1 | ) | (72.2 | ) | ||||||||
| Foreign currency exchange rate changes | 1.4 | - | - | 1.4 | ||||||||||||
| Balance, December 31, 2020 | $ | 38.7 | $ | 10.9 | $ | 15.1 | $ | 64.7 | ||||||||
| Expense incurred since the start of the 2019 Restructuring Plan | $ | 78.5 | $ | 15.8 | $ | 50.2 | $ | 144.5 | ||||||||
| Expense estimated to be recognized for the 2019 Restructuring Plan | $ | 200.0 | $ | 25.0 | $ | 150.0 | $ | 375.0 |
For the expense estimated to be recognized for the 2019 Restructuring Plan, we have disclosed the midpoint in our estimated range of expenses. We do not include restructuring charges in the operating profit of our reportable segments.
In our consolidated statement of earnings, we report restructuring charges in our “Restructuring and other cost reduction initiatives” financial statement line item. We report the expenses for other cost reduction initiatives with restructuring expenses because these activities also have the goal of reducing costs across the organization. However, since the cost reduction initiative expenses are not considered restructuring, they have been excluded from the amounts presented in this note.
| 5. | Share-Based Compensation |
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Our share-based payments primarily consist of stock options and restricted stock units (“RSUs”). Share-based compensation expense was as follows (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Total expense, pre-tax | $ | 79.7 | $ | 84.3 | $ | 65.5 | ||||||
| Tax benefit related to awards | 16.9 | 21.8 | 14.6 | |||||||||
| Total expense, net of tax | $ | 62.8 | $ | 62.5 | $ | 50.9 |
We had two equity compensation plans in effect at December 31, 2020: the 2009 Stock Incentive Plan (“2009 Plan”) and the Stock Plan for Non-Employee Directors. We have reserved the maximum number of shares of common stock available for awards under the terms of each of these plans. We have registered 44.1 million shares of common stock under these plans. The 2009 Plan provides for the grant of nonqualified stock options and incentive stock options, long-term performance awards in the form of performance shares or units, restricted stock, RSUs and stock appreciation rights. The Compensation and Management Development Committee of the Board of Directors determines the grant date for annual grants under our equity compensation plans. The date for annual grants under the 2009 Plan to our executive officers is expected to occur in the first quarter of each year following the earnings announcements for the previous quarter and full year. The Stock Plan for Non-Employee Directors provides for awards of stock options, restricted stock and RSUs to non-employee directors. It has been our practice to issue shares of common stock upon exercise of stock options from previously unissued shares, except in limited circumstances where they are issued from treasury stock. The total number of awards which may be granted in a given year and/or over the life of the plan under each of our equity compensation plans is limited. At December 31, 2020, an aggregate of 6.1 million shares were available for future grants and awards under these plans.
Stock Options
Stock options granted to date under our plans generally vest over four years and have a maximum contractual life of 10 years. As established under our equity compensation plans, vesting may accelerate upon retirement after the first anniversary date of the award if certain criteria are met. We recognize expense related to stock options on a straight-line basis over the requisite service period, less awards expected to be forfeited using estimated forfeiture rates. Due to the accelerated retirement provisions, the requisite service period of our stock options range from one to four years. Stock options are granted with an exercise price equal to the market price of our common stock on the date of grant, except in limited circumstances where local law may dictate otherwise.
A summary of stock option activity for the year ended December 31, 2020 is as follows (options in thousands):
| Stock Options | Weighted Average Exercise Price | Weighted Average Remaining Contractual Life | Intrinsic Value (in millions) | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Outstanding at January 1, 2020 | 7,285 | $ | 107.53 | |||||||||||||
| Options granted | 1,370 | 155.68 | ||||||||||||||
| Options exercised | (1,028 | ) | 100.69 | |||||||||||||
| Options forfeited | (175 | ) | 135.54 | |||||||||||||
| Options expired | (29 | ) | 113.53 | |||||||||||||
| Outstanding at December 31, 2020 | 7,423 | $ | 116.67 | 6.3 | $ | 282.0 | ||||||||||
| Vested or expected to vest as of December 31, 2020 | 7,205 | $ | 115.92 | 6.2 | $ | 278.8 | ||||||||||
| Exercisable at December 31, 2020 | 4,581 | $ | 104.20 | 5.0 | $ | 228.5 |
We use a Black-Scholes option-pricing model to determine the fair value of our stock options. Expected volatility was derived from a combination of historical volatility and implied volatility because the options that were actively traded around the grant date of our stock options did not have maturities of over one year. The expected term of the stock options has been derived from historical employee exercise behavior. The risk-free interest rate was determined using the implied yield currently available for zero-coupon U.S. government issues with a remaining term approximating the expected life of the options. The dividend yield was determined by using an estimated annual dividend and dividing it by the market price of our stock on the grant date.
The following table presents information regarding the weighted average fair value of stock options granted, the assumptions used to determine fair value, the intrinsic value of options exercised and the tax benefit of options exercised in the indicated year:
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Dividend yield | 0.6 | % | 0.8 | % | 0.8 | % | ||||||
| Volatility | 22.3 | % | 22.1 | % | 22.1 | % | ||||||
| Risk-free interest rate | 1.3 | % | 2.4 | % | 2.7 | % | ||||||
| Expected life (years) | 5.0 | 5.5 | 5.2 | |||||||||
| Weighted average fair value of options granted | $ | 31.65 | $ | 28.68 | $ | 26.66 | ||||||
| Intrinsic value of options exercised (in millions) | $ | 50.1 | $ | 76.8 | $ | 46.6 | ||||||
| Tax benefit of options exercised (in millions) | $ | 9.6 | $ | 15.8 | $ | 6.8 |
As of December 31, 2020, there was $49.9 million of unrecognized share-based payment expense related to nonvested stock options granted under our plans. That expense is expected to be recognized over a weighted average period of 2.4 years.
RSUs
We have awarded RSUs to certain of our employees. The terms of the awards are generally three or four years. Some of the awards have only service conditions while some have performance and market conditions in addition to service conditions. Future service conditions may be waived if an employee retires after the first anniversary date of the award, but performance and market conditions continue to apply. Accordingly, the requisite service period used for share-based payment expense on our RSUs range from one year to four years.
A summary of nonvested RSU activity for the year ended December 31, 2020 is as follows (RSUs in thousands):
| Weighted Average | ||||||||
|---|---|---|---|---|---|---|---|---|
| Grant Date | ||||||||
| RSUs | Fair Value | |||||||
| Outstanding at January 1, 2020 | 1,228 | $ | 118.11 | |||||
| Granted | 446 | 148.10 | ||||||
| Vested | (281 | ) | 114.35 | |||||
| Forfeited | (323 | ) | 132.42 | |||||
| Outstanding at December 31, 2020 | 1,070 | 129.65 |
For the RSUs with service conditions only, the fair value of the awards was determined based upon the fair market value of our common stock on the date of grant. For the RSUs with market conditions, a Monte Carlo valuation technique was used to simulate the market conditions of the awards. The outcome of the simulation was used to determine the fair value of the awards.
We are required to estimate the number of RSUs that will vest and recognize share-based payment expense on a straight-line basis over the requisite service period. As of December 31, 2020, we estimate that approximately 646,553 outstanding RSUs will vest. If our estimate were to change in the future, the cumulative effect of the change in estimate will be recorded in that period. Based upon the number of RSUs that we expect to vest, the unrecognized share-based payment expense as of December 31, 2020 was $44.8 million and is expected to be recognized over a weighted-average period of 2.1 years. The fair value of RSUs that vested during the years ended December 31, 2020, 2019 and 2018 based upon our stock price on the date of vesting was $33.2 million, $26.3 million, and $18.7 million, respectively.
| 6. | Inventories |
|---|
Inventories consisted of the following (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| Finished goods | $ | 1,954.6 | $ | 1,875.4 | ||||
| Work in progress | 223.7 | 231.0 | ||||||
| Raw materials | 272.4 | 278.6 | ||||||
| Inventories | $ | 2,450.7 | $ | 2,385.0 |
Amounts charged to the consolidated statements of earnings for excess and obsolete inventory, including certain product lines we intend to discontinue, in the years ended December 31, 2020, 2019 and 2018 were $250.0 million, $221.4 million and $226.1 million, respectively.
| 7. | Property, Plant and Equipment |
|---|
Property, plant and equipment consisted of the following (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| Land | $ | 27.7 | $ | 27.6 | ||||
| Building and equipment | 2,197.8 | 2,007.0 | ||||||
| Capitalized software costs | 455.8 | 482.4 | ||||||
| Instruments | 3,518.3 | 3,250.5 | ||||||
| Construction in progress | 125.3 | 149.3 | ||||||
| 6,324.9 | 5,916.8 | |||||||
| Accumulated depreciation | (4,277.2 | ) | (3,839.4 | ) | ||||
| Property, plant and equipment, net | $ | 2,047.7 | $ | 2,077.4 |
Depreciation expense was $435.1 million, $421.8 million and $442.6 million for the years ended December 31, 2020, 2019 and 2018, respectively.
We had $24.4 million and $39.8 million of property, plant and equipment included in accounts payable as of December 31, 2020 and 2019, respectively.
| 8**.** | Transfers of Financial Assets |
|---|
We have receivables purchase arrangements with unrelated third parties to liquidate portions of our trade accounts receivable balance. The receivables relate to products sold to customers and are short-term in nature. The factorings were treated as sales of our accounts receivable. Proceeds from the transfers reflect either the face value of the accounts receivable or the face value less factoring fees.
We terminated our programs in the U.S. and Japan in the fourth quarter of 2020. Our programs were executed on a revolving basis with a maximum funding limit of $450 million combined before termination. We acted as the collection agent on behalf of the third party, but had no significant retained interests or servicing liabilities related to the accounts receivable sold. As of December 31, 2020, we had collected and remitted or repurchased all factored receivables at the time of the termination of those programs in 2020.
In Europe, we sell to a third party and have no continuing involvement or significant risk with the factored accounts receivable.
Funds received from the transfers are recorded as an increase to cash and a reduction of accounts receivable outstanding in the consolidated balance sheets. We report the cash flows attributable to the sale of the receivables to third parties in cash flows from operating activities in our consolidated statements of cash flows. Net expenses resulting from the sales of receivables are recognized in SG&A expense. Net expenses included any resulting gains or losses from the sales of receivables, credit insurance and factoring fees.
For the years ended December 31, 2020, 2019 and 2018, we sold receivables having an aggregate face value of $1,323.0 million, $3,116.2 million and $2,706.4 million to third parties in exchange for cash proceeds of $1,321.3 million, $3,113.9 million and $2,704.9 million, respectively. Expenses recognized on these sales during the years ended December 31, 2020, 2019 and 2018 were not significant. For the years ended December 31, 2020, 2019 and 2018 under the U.S. and Japan programs, we collected $1,308.3 million, $2,857.4 million and $2,273.5 million, respectively, from our customers and remitted that amount to the third party, and we effectively repurchased $146.5 million, $184.6 million and $208.9 million, respectively, of previously sold accounts receivable from the third party due to the programs’ revolving nature. At December 31, 2019, we had collected $54.6 million that were unremitted to the third party, which are reflected in our consolidated balance sheets under other current liabilities. We had no unremitted amounts at December 31, 2020. The initial collection of cash from customers and its remittance to the third party is reflected in net cash provided by/(used in) financing activities in our consolidated statements of cash flows.
At December 31, 2019, the outstanding principal amount of receivables that had been derecognized under the U.S. and Japan revolving arrangements combined amounted to $270.2 million. There were no outstanding receivables derecognized at December 31, 2020 due to the termination of those arrangements in 2020.
| 9**.** | Fair Value Measurements of Assets and Liabilities |
|---|
The following financial assets and liabilities are recorded at fair value on a recurring basis (in millions):
| As of December 31, 2020 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Description | Recorded Balance | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Assets | ||||||||||||||||
| Derivatives designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | $ | 0.5 | $ | - | $ | 0.5 | $ | - | ||||||||
| Derivatives not designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | 0.9 | - | 0.9 | - | ||||||||||||
| Total Assets | $ | 1.4 | $ | - | $ | 1.4 | $ | - | ||||||||
| Liabilities | ||||||||||||||||
| Derivatives designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | $ | 48.5 | $ | - | $ | 48.5 | $ | - | ||||||||
| Interest rate swaps | 83.3 | - | 83.3 | - | ||||||||||||
| Derivatives not designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | 3.2 | - | 3.2 | - | ||||||||||||
| Contingent payments related to acquisitions | 48.2 | - | - | 48.2 | ||||||||||||
| Total Liabilities | $ | 183.2 | $ | - | $ | 135.0 | $ | 48.2 |
| As of December 31, 2019 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Description | Recorded Balance | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Assets | ||||||||||||||||
| Derivatives designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | $ | 39.1 | $ | - | $ | 39.1 | $ | - | ||||||||
| Interest rate swaps | 60.5 | - | 60.5 | - | ||||||||||||
| Total Assets | $ | 99.6 | $ | - | $ | 99.6 | $ | - | ||||||||
| Liabilities | ||||||||||||||||
| Derivatives designated as hedges, current and long-term | ||||||||||||||||
| Foreign currency forward contracts | $ | 0.6 | $ | - | $ | 0.6 | $ | - | ||||||||
| Contingent payments related to acquisitions | 28.8 | - | - | 28.8 | ||||||||||||
| Total Liabilities | $ | 29.4 | $ | - | $ | 0.6 | $ | 28.8 |
We value our foreign currency forward contracts using a market approach based on foreign currency exchange rates obtained from active markets, and we perform ongoing assessments of counterparty credit risk.
We value our interest rate swaps using a market approach based on publicly available market yield curves, foreign currency exchange rates and the terms of our swaps, and we perform ongoing assessments of counterparty credit risk.
Contingent payments related to acquisitions consist of sales-based payments, and are valued using discounted cash flow techniques. The fair value of sales-based payments is based upon probability-weighted future revenue estimates, and increases as revenue estimates increase. See Note 10 for additional information regarding contingent payments related to acquisitions.
The following table provides a reconciliation of the beginning and ending balances of items measured at fair value on a recurring basis in the tables above that used significant unobservable inputs (Level 3) (in millions):
| Level 3 - Liabilities | ||||
|---|---|---|---|---|
| Contingent payments related to acquisitions | ||||
| Beginning balance December 31, 2019 | $ | 28.8 | ||
| New contingent payments related to the 2020 acquisitions | 31.3 | |||
| Changes in estimates | 2.8 | |||
| Settlements | (15.0 | ) | ||
| Foreign currency impact | 0.3 | |||
| Ending balance December 31, 2020 | $ | 48.2 |
Changes in estimates for contingent payments related to acquisitions are recognized in Acquisition, integration and related expenses on our consolidated statements of earnings.
10.Acquisitions
In the fourth quarter of 2020, we completed the acquisitions of A&E Medical Corporation (“A&E Medical”), a sternal closure company, and Relign Corp. (“Relign”), an arthroscopy equipment company (collectively referred to as the “2020 acquisitions”). The 2020 acquisitions were completed primarily to expand our product offerings in the CMFT and sports medicine markets. The total aggregate cash consideration paid in 2020 related to the 2020 acquisitions was $244.9 million, with an additional $145.0 million of guaranteed deferred payments to be made in 2021. The Company has assigned a fair value of $31.3 million for potential additional payments related to these acquisitions that are contingent on the respective acquired companies’ future product sales. The estimated fair value of the aggregate contingent payment liabilities was calculated based on the probability of achieving the specified sales growth and discounting to present value the estimated payments.
The goodwill related to the 2020 acquisitions represents the excess of the consideration transferred over the fair value of the net assets acquired. The goodwill related to the 2020 acquisitions is generated from the operational synergies and cross-selling opportunities we expect to achieve from the technologies acquired. None of the goodwill related to these acquisitions is expected to be deductible for tax purposes.
The purchase price allocations as of December 31, 2020 are preliminary. We need additional time to analyze historical purchasing patterns of the acquired customer bases, which may affect the value of the customer relationships intangible asset. Additionally, as we finalize the acquired companies’ tax returns and evaluate their tax attributes, the recognized tax assets and liabilities may change. There may be differences between the preliminary estimates of fair value and the final acquisition accounting. The final estimates of fair value are expected to be completed as soon as possible, but no later than one year after the respective acquisition dates.
The following table summarizes the aggregate preliminary estimates of fair value of the assets acquired and liabilities assumed related to the 2020 acquisitions (in millions):
| Current assets | $ | 33.6 | ||
|---|---|---|---|---|
| Intangible assets subject to amortization: | ||||
| Technology | 154.6 | |||
| Trademarks and trade names | 1.5 | |||
| Customer relationships | 135.7 | |||
| Other | 4.9 | |||
| Goodwill | 162.2 | |||
| Other assets | 5.2 | |||
| Total assets acquired | 497.7 | |||
| Current liabilities | 4.7 | |||
| Deferred income taxes | 70.1 | |||
| Other long-term liabilities | 1.7 | |||
| Total liabilities assumed | 76.5 | |||
| Net assets acquired | $ | 421.2 |
The weighted average amortization period selected for technology, trademarks and trade names, customer relationships and other intangible assets were 13 years, 12 years, 15 years and 5 years, respectively.
We have not included pro forma information and certain other information under GAAP for the 2020 acquisitions because they did not have a material impact on our financial position or results of operations.
| 11. | Goodwill and Other Intangible Assets |
|---|
The following table summarizes the changes in the carrying amount of goodwill (in millions):
| Americas and Global Businesses | EMEA | Asia Pacific | Immaterial Product Category Operating Segments | Total | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Balance at January 1, 2019 | ||||||||||||||||||||
| Goodwill | $ | 7,712.4 | $ | 1,322.2 | $ | 507.2 | $ | 1,706.2 | $ | 11,248.0 | ||||||||||
| Accumulated impairment losses | - | (567.0 | ) | - | (1,086.6 | ) | (1,653.6 | ) | ||||||||||||
| 7,712.4 | 755.2 | 507.2 | 619.6 | 9,594.4 | ||||||||||||||||
| Other acquisitions | - | - | - | 25.0 | 25.0 | |||||||||||||||
| Currency translation | (12.6 | ) | (5.4 | ) | 0.2 | (1.9 | ) | (19.7 | ) | |||||||||||
| Balance at December 31, 2019 | ||||||||||||||||||||
| Goodwill | 7,699.8 | 1,316.8 | 507.4 | 1,729.3 | 11,253.3 | |||||||||||||||
| Accumulated impairment losses | - | (567.0 | ) | - | (1,086.6 | ) | (1,653.6 | ) | ||||||||||||
| 7,699.8 | 749.8 | 507.4 | 642.7 | 9,599.7 | ||||||||||||||||
| Goodwill reportable segment change | 1,661.3 | 17.0 | 51.0 | (1,729.3 | ) | - | ||||||||||||||
| Accumulated impairment losses reportable segment change | (1,086.6 | ) | - | - | 1,086.6 | - | ||||||||||||||
| Other acquisitions | 142.4 | 10.9 | 8.9 | - | 162.2 | |||||||||||||||
| Currency translation | 80.2 | 18.2 | 13.5 | - | 111.9 | |||||||||||||||
| Impairment | (142.0 | ) | (470.0 | ) | - | - | (612.0 | ) | ||||||||||||
| Balance at December 31, 2020 | ||||||||||||||||||||
| Goodwill | 9,583.7 | 1,362.9 | 580.8 | - | 11,527.4 | |||||||||||||||
| Accumulated impairment losses | (1,228.6 | ) | (1,037.0 | ) | - | - | (2,265.6 | ) | ||||||||||||
| $ | 8,355.1 | $ | 325.9 | $ | 580.8 | $ | - | $ | 9,261.8 |
As discussed further in Note 19, in connection with the 2019 Restructuring Plan, our operating segments and reportable segments have changed. Goodwill has been reallocated from our previous reportable segments to reflect the new structure. We now have five reporting units with goodwill assigned to them.
As discussed further in Note 10, we purchased A&E Medical, Relign and other immaterial companies, resulting in additional goodwill.
As of March 31, 2020, we tested three of our reporting units for impairment due to: i) the significant adverse effect the COVID-19 pandemic was expected to have on our operating results, and ii) the change in reportable segments, which changed the cash flows and asset compositions of certain reporting units. This resulted in goodwill impairment charges of $470.0 million and $142.0 million recognized for our EMEA reporting unit and Dental reporting unit, respectively. The remaining two reporting units with goodwill assigned to them were not tested for impairment as we concluded it is more likely than not the fair value of these reporting units exceeded their carrying value.
The impairment charge of $470.0 million in our EMEA reporting unit was primarily due to the COVID-19 pandemic and reportable segment change. The COVID-19 pandemic has had a significant adverse effect on both the operational and non-operational assumptions used to estimate the fair value of our EMEA reporting unit. The significant decline in our share price and that of most other publicly-traded companies resulted in us utilizing a higher risk-adjusted discount rate compared to the rate used in our previous annual goodwill impairment test to discount our future estimated cash flows to present value. On an operational basis, due to the deferral of elective surgical procedures, at the time of March 31, 2020 impairment test, we estimated that our cash flows in 2020 would be significantly lower than previously estimated in our prior annual goodwill impairment test. The change in reportable segments resulted in additional impairment due to additional assets being allocated to the EMEA reporting unit. As of December 31, 2020, $325.9 million of goodwill remained in the EMEA reporting unit.
The impairment charge of $142.0 million in our Dental reporting unit was primarily driven by the COVID-19 pandemic. Similar to our EMEA reporting unit, changes in the market caused an increase to the risk-adjusted discount rates utilized to discount our future estimated cash flows to present value, and we expected that the deferral of elective dental procedures would have an adverse effect on our cash flows. We estimated the cash flows from our Dental reporting unit might recover more slowly than our other reporting units because many dental procedures are not covered by insurance. Therefore, we estimated that economic uncertainty would likely result in patients deferring dental procedures for a longer period of time than procedures involving our other products. As of December 31, 2020, $273.7 million of goodwill remained in the Dental reporting unit.
The third reporting unit we tested for impairment, Americas CMFT, had an estimated fair value that exceeded its carrying value by less than 5 percent. The Americas CMFT reporting unit’s estimated fair value was also adversely impacted by the COVID-19 pandemic similar to our EMEA and Dental reporting units.
We estimated the fair value of the EMEA, Dental and Americas CMFT reporting units based on income and market approaches. Fair value under the income approach was determined by discounting to present value the estimated future cash flows of the reporting unit. Fair value under the market approach utilized the guideline public company methodology, which uses valuation indicators from publicly-traded companies that are similar to our EMEA, Dental and Americas CMFT reporting units and considers differences between our reporting unit and the comparable companies.
In estimating the future cash flows of the reporting units, we utilized a combination of market and company-specific inputs that a market participant would use in assessing the fair value of the reporting units. The primary market input was revenue growth rates. These rates were based upon historical trends and estimated future growth drivers such as an aging global population, obesity and more active lifestyles. In the near term, the COVID-19 pandemic was expected to result in a decline to our revenue when compared to the same prior year periods. Significant company specific inputs included assumptions regarding how the reporting units could leverage operating expenses as revenue grows and the impact any of our differentiated products or new products will have on revenues.
Under the guideline public company methodology, we took into consideration specific risk differences between our reporting unit and the comparable companies, such as recent financial performance, size risks and product portfolios, among other considerations.
We perform our annual test of goodwill impairment in the fourth quarter of every year. In connection with the 2020 annual goodwill impairment test in the fourth quarter of 2020, we performed a qualitative test on our Asia Pacific reporting unit and concluded it was more likely than not the fair value of this reporting unit exceeded its carrying value. We estimated the fair value of our Americas Orthopedics, Americas CMFT, EMEA and Dental reporting units using the income and market approaches. The estimated fair values of our reporting units increased in the fourth quarter impairment test compared to the March 31, 2020 test due to the negative effects on discounted cash
flows from the COVID-19 pandemic forecasted for second and third quarters of 2020 no longer being in the future cash flow estimates. As a result, the estimated fair value of each reporting unit exceeded its carrying value by more than 10 percent.
We will continue to monitor the fair value of our reporting units in our interim and annual reporting periods. If our estimated cash flows decrease, we may have to record further impairment charges in the future. Factors that could result in our cash flows being lower than our current estimates include: 1) the COVID-19 pandemic causes elective surgical procedures to be deferred longer than our estimates, or additional recurrence of the virus causes additional deferrals of elective surgical procedures, 2) decreased revenues caused by unforeseen changes in the healthcare market, or our inability to generate new product revenue from our research and development activities, and 3) our inability to achieve the estimated operating margins in our forecasts due to unforeseen factors. Additionally, changes in the broader economic environment could cause changes to our estimated discount rates and comparable company valuation indicators, which may impact our estimated fair values.
During the year ended December 31, 2018, we recorded goodwill impairment charges related to our Spine reporting unit, our EMEA reporting unit and an insignificant reporting unit of $401.2 million, $567.0 million and $7.7 million, respectively. After the impairment in our Spine reporting unit, no goodwill balance remained.
The Spine reporting unit included goodwill from significant mergers for that reporting unit in 2015 and 2016, as well as goodwill that existed prior to those mergers. The forecasts used to recognize the goodwill related to the 2015 and 2016 mergers assumed cross sale opportunities of the combined businesses would enable the reporting unit to grow faster than the overall spine market. The primary drivers of impairment were lower than expected sales due to sales force integration issues and additional complexities of combining the spine product supply chains of the combined companies. As a result, in our forecasts we estimated it would take longer than originally anticipated to realize the benefits of the mergers. We estimated our Spine sales were currently growing below overall market growth. Consequently, we lowered our expectations of future sales growth.
The impairment charge of $567.0 million in our EMEA reporting unit in 2018 was driven by a combination of operational and non-operational factors. Sales growth in the EMEA knees and hips overall market had softened in the past two years to low single digits. Accordingly, we tempered our sales growth estimates for this reporting unit. Also, higher interest rates as well as increased volatility in our stock price compared to the overall market resulted in us utilizing a higher risk-adjusted discount rate compared to prior year tests to discount our future estimated cash flows to present value. In addition, our anticipated costs to comply with the EU MDR was expected to be higher than previously anticipated. Lastly, the weakening of European foreign currencies against the U.S. Dollar and other factors contributed to the impairment charge.
The fair values for the 2018 impairment charges were estimated using income and market approaches similar to the 2020 tests.
The components of identifiable intangible assets were as follows (in millions):
| Technology | Intellectual Property Rights | Trademarks and Trade Names | Customer Relationships | IPR&D | Other | Total | ||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| As of December 31, 2020: | ||||||||||||||||||||||||||||
| Intangible assets subject to amortization: | ||||||||||||||||||||||||||||
| Gross carrying amount | $ | 3,902.0 | $ | 383.3 | $ | 677.0 | $ | 5,589.7 | $ | - | $ | 152.4 | $ | 10,704.4 | ||||||||||||||
| Accumulated amortization | (1,746.2 | ) | (211.6 | ) | (251.5 | ) | (1,820.9 | ) | - | (110.9 | ) | (4,141.1 | ) | |||||||||||||||
| Intangible assets not subject to amortization: | ||||||||||||||||||||||||||||
| Gross carrying amount | - | - | 462.7 | - | 29.5 | - | 492.2 | |||||||||||||||||||||
| Total identifiable intangible assets | $ | 2,155.8 | $ | 171.7 | $ | 888.2 | $ | 3,768.8 | $ | 29.5 | $ | 41.5 | $ | 7,055.5 | ||||||||||||||
| As of December 31, 2019: | ||||||||||||||||||||||||||||
| Intangible assets subject to amortization: | ||||||||||||||||||||||||||||
| Gross carrying amount | $ | 3,634.0 | $ | 378.3 | $ | 659.9 | $ | 5,375.0 | $ | - | $ | 165.4 | $ | 10,212.6 | ||||||||||||||
| Accumulated amortization | (1,487.6 | ) | (191.9 | ) | (207.6 | ) | (1,489.4 | ) | - | (95.3 | ) | (3,471.8 | ) | |||||||||||||||
| Intangible assets not subject to amortization: | ||||||||||||||||||||||||||||
| Gross carrying amount | - | - | 454.9 | - | 61.9 | - | 516.8 | |||||||||||||||||||||
| Total identifiable intangible assets | $ | 2,146.4 | $ | 186.4 | $ | 907.2 | $ | 3,885.6 | $ | 61.9 | $ | 70.1 | $ | 7,257.6 |
As discussed further in Note 10, the Company purchased A&E Medical, Relign and 3DIEMME in 2020, resulting in additional intangible assets.
In 2019, we entered into an agreement and paid $192.5 million to buy out certain licensing arrangements from an unrelated third party. This new agreement and the related payment replaced the variable royalty payments that otherwise would have been due under the terms of previous licensing arrangements through 2029. Under the new agreement, we maintain the rights to the counterparty’s intellectual property provided under the previous licensing arrangements. The $192.5 million payment was recognized as an intangible asset and will be amortized through 2029, which represents the useful life of the intellectual property.
We recognized IPR&D intangible asset impairment charges of $33.0 million, $70.1 million and $3.8 million in the years ended December 31, 2020, 2019 and 2018, respectively, in “Goodwill and intangible asset impairment” on our consolidated statements of earnings. The $33.0 million charge in 2020 included a $19.0 million impairment related to a project that requires additional research and development costs to complete, which delays the cash inflows and results in a decreased estimated fair value. The remaining $14.0 million impairment charge in 2020, the $70.1 million charge from 2019 and the $3.8 million charge from 2018 are related to terminated IPR&D projects. The termination of these projects was the result of prioritizing our internal research and development portfolio as a result of COVID-19 and to focus our engineering resources on the opportunities that most closely link to our mission. Since these projects were not a priority, their terminations are not expected to have a significant impact on our future cash flows.
Estimated annual amortization expense based upon intangible assets recognized as of December 31, 2020 for the years ending December 31, 2021 through 2025 is (in millions):
| For the Years Ending December 31, | ||||
|---|---|---|---|---|
| 2021 | $ | 609.6 | ||
| 2022 | 604.6 | |||
| 2023 | 597.9 | |||
| 2024 | 587.8 | |||
| 2025 | 581.2 |
| 12. | Other Current Liabilities |
|---|
Other current liabilities consisted of the following (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| Other current liabilities: | ||||||||
| License and service agreements | $ | 189.7 | $ | 179.3 | ||||
| Salaries, wages and benefits | 319.5 | 314.1 | ||||||
| Litigation and product liability | 123.2 | 142.4 | ||||||
| Deferred business combination payments | 145.0 | - | ||||||
| Accrued liabilities | 890.0 | 778.1 | ||||||
| Total other current liabilities | $ | 1,667.4 | $ | 1,413.9 |
| 13. | Debt |
|---|
Our debt consisted of the following (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| Current portion of long-term debt | ||||||||
| 2.700% Senior Notes due 2020 | $ | - | $ | 1,500.0 | ||||
| Floating Rate Notes due 2021 | 200.0 | - | ||||||
| 3.375% Senior Notes due 2021 | 300.0 | - | ||||||
| Total short-term debt | $ | 500.0 | $ | 1,500.0 | ||||
| Long-term debt | ||||||||
| Floating Rate Notes due 2021 | $ | - | $ | 450.0 | ||||
| 3.375% Senior Notes due 2021 | - | 300.0 | ||||||
| 3.150% Senior Notes due 2022 | 750.0 | 750.0 | ||||||
| 3.700% Senior Notes due 2023 | 300.0 | 300.0 | ||||||
| 3.550% Senior Notes due 2025 | 2,000.0 | 2,000.0 | ||||||
| 3.050% Senior Notes due 2026 | 600.0 | - | ||||||
| 3.550% Senior Notes due 2030 | 900.0 | - | ||||||
| 4.250% Senior Notes due 2035 | 253.4 | 253.4 | ||||||
| 5.750% Senior Notes due 2039 | 317.8 | 317.8 | ||||||
| 4.450% Senior Notes due 2045 | 395.4 | 395.4 | ||||||
| 1.414% Euro Notes due 2022 | 611.8 | 561.3 | ||||||
| 2.425% Euro Notes due 2026 | 611.8 | 561.3 | ||||||
| 1.164% Euro Notes due 2027 | 611.8 | 561.3 | ||||||
| Japan Term Loan A | 113.3 | 106.9 | ||||||
| Japan Term Loan B | 206.3 | 194.7 | ||||||
| Debt discount and issuance costs | (48.2 | ) | (37.1 | ) | ||||
| Adjustment related to interest rate swaps | 3.1 | 6.4 | ||||||
| Total long-term debt | $ | 7,626.5 | $ | 6,721.4 |
At December 31, 2020, our total current and non-current debt of $8.1 billion consisted of $7.8 billion aggregate principal amount of senior notes, which included 1.5 billion of Euro-denominated senior notes (“Euro notes”), an 11.7 billion Japanese Yen term loan agreement (“Japan Term Loan A”) and a 21.3 billion Japanese Yen term loan agreement (“Japan Term Loan B”) that each will mature on September 27, 2022, and other debt and fair value adjustments totaling $3.1 million, partially offset by debt discount and issuance costs of $48.2 million.
On December 30, 2020, we repaid $250.0 million of the $450.0 million aggregate principal amount of our floating rate senior notes due March 19, 2021, with cash on hand. In January and February 2021, we made $100.0 million payments in each month with cash on hand to repay the remainder of the principal balance.
On March 20, 2020, we completed the offering of $600.0 million aggregate principal amount of our 3.050% senior notes due on January 15, 2026 and $900.0 million aggregate principal amount of our 3.550% senior notes due on
March 20, 2030. Interest payable on the 3.050% senior notes is payable semi-annually, commencing on July 15, 2020 until maturity. Interest payable on the 3.550% senior notes is payable semi-annually, commencing on September 20, 2020 until maturity. The proceeds from the offering, together with cash on hand, were used to repay at maturity the $1.5 billion principal amount of 2.700% senior notes due on April 1, 2020.
On November 15, 2019, we completed the offering of €500 million aggregate principal amount of our 1.164% Euro notes due November 15, 2027. Interest is payable on the 1.164% Euro notes on November 15 of each year until maturity. We received net proceeds of approximately $549.2 million from this offering, which were primarily used to repay the $500 million principal amount 4.625% Senior Notes due 2019 at maturity, and the remainder of which were used to repay a portion of a U.S. term loan (“U.S. Term Loan C”).
On November 1, 2019, we entered into a revolving credit agreement (the “2019 Credit Agreement”), which contains a five-year unsecured multicurrency revolving facility of $1.5 billion (the “2019 Multicurrency Revolving Facility”), which replaced the previous $1.5 billion multicurrency revolving credit facility (the “2016 Multicurrency Revolving Facility”) and a U.S. term loan (“U.S. Term Loan B”) under our credit agreement executed in September 2016 (as amended, the “2016 Credit Agreement”). U.S. Term Loan B was paid in full during the year ended December 31, 2019. The 2019 Credit Agreement will mature on November 1, 2024, with two one-year extensions exercisable at our discretion and subject to required lender consent. As of December 31, 2020, there were no outstanding borrowings under the 2019 Multicurrency Revolving Facility.
Borrowings under the 2019 Credit Agreement generally bear interest at floating rates. We pay a facility fee on the aggregate amount of the 2019 Multicurrency Revolving Facility. The 2019 Credit Agreement contains customary affirmative and negative covenants and events of default for unsecured financing arrangements, including, among other things, limitations on consolidations, mergers, and sales of assets. On April 23, 2020, we entered into an amendment to the 2019 Credit Agreement to temporarily increase the maximum permitted consolidated indebtedness to consolidated EBITDA ratio (“Consolidated Leverage Ratio”), temporarily increase the interest rate margin applicable to revolving loans and the facility fee, and make other administrative changes. Pursuant to the amendment, the maximum permitted Consolidated Leverage Ratio as of the last day of any period of four consecutive fiscal quarters under the 2019 Credit Agreement is (i) 5.75 to 1.00 for periods ending between April 1, 2020 and including December 31, 2020, (ii) 5.00 to 1.00 for the period ending March 31, 2021, and (iii) 4.50 to 1.00 for periods ending after April 1, 2021 (with such maximum permitted Consolidated Leverage Ratio subject to increase to 5.00 to 1.00 for a period of time in connection with a qualified material acquisition on or after July 1, 2021). We were in compliance with all covenants under the 2019 Credit Agreement as of December 31, 2020. The amendment also increased the interest rate margin applicable to revolving loans and the facility fee, each of which are determined by reference to our senior unsecured long-term debt credit rating, through March 31, 2021.
On April 23, 2020, we entered into a revolving credit agreement which was an unsecured revolving credit facility of $1.0 billion (the “April 2020 Revolving Facility”). In conjunction with a new revolving credit agreement (the “September 2020 Credit Agreement”) entered into on September 18, 2020, the April 2020 Revolving Facility was terminated. We never borrowed against the April 2020 Revolving Facility. The September 2020 Credit Agreement is a $1.0 billion 364-day unsecured revolving credit facility (the “September 2020 Revolving Facility”). The September 2020 Revolving Facility will be used for general corporate purposes. The September 2020 Credit Agreement matures on September 17, 2021. Borrowings under the September 2020 Credit Agreement generally bear interest at floating rates. We pay a facility fee on the aggregate amount of the September 2020 Revolving Facility. The September 2020 Credit Agreement contains customary affirmative and negative covenants and events of default for an unsecured financing arrangement including, among other things, limitations on consolidations, mergers, and sales of assets. The September 2020 Credit Agreement requires us to maintain a Consolidated Leverage Ratio as of the last day of any period of four consecutive fiscal quarters of no greater than (i) 5.75 to 1.00 for periods ending during the period from September 18, 2020 to and including December 31, 2020, (ii) 5.00 to 1.00 for the period ending March 31, 2021, and (iii) 4.50 to 1.00 for periods ending after April 1, 2021 (with such permitted Consolidated Leverage Ratio subject to increase to 5.00 to 1.00 for a period of time in connection with a qualified material acquisition on or after July 1, 2021). We were in compliance with all covenants under the September 2020 Credit Agreement, as of December 31, 2020. As of December 31, 2020, there were no outstanding borrowings under the September 2020 Credit Agreement.
On December 14, 2018, we entered into a credit agreement (the “2018 Credit Agreement”) that provided for U.S. Term Loan C, which was a two-year unsecured multi-draw term loan facility for the Company in the principal amount of $900.0 million, with a maturity date of December 14, 2020, and borrowed $675.0 million under that
facility. In January 2019, we borrowed an additional $200.0 million under U.S. Term Loan C and used those proceeds, along with cash on hand, to repay the remaining $225.0 million outstanding under U.S. Term Loan B issued under the 2016 Credit Agreement. We repaid $735.0 million and $140.0 million in principal under U.S. Term Loan C during the years ended December 31, 2019 and 2018, respectively, primarily with cash from operations, which terminated the 2018 Credit Agreement and U.S Term Loan C.
On March 19, 2018, we completed the offering of $450.0 million aggregate principal amount of our floating rate senior notes due March 19, 2021 and $300.0 million aggregate principal amount of our 3.700% senior notes due March 19, 2023. Interest on the floating rate senior notes is equal to three-month LIBOR plus 0.750% and is payable quarterly, commencing on June 19, 2018, until maturity. Interest is payable on the 3.700% senior notes semi-annually, commencing on September 19, 2018, until maturity. We received net proceeds of $749.5 million from this offering.
We may, at our option, redeem our senior notes, in whole or in part, at any time upon payment of the principal, any applicable make-whole premium, and accrued and unpaid interest to the date of redemption. In addition, we may redeem, at our option, the 3.375% Senior Notes due 2021, the 3.150% Senior Notes due 2022, the 1.414% Euro notes due 2022, the 3.700% Senior Notes due 2023, the 3.550% Senior Notes due 2025, the 3.050% Senior Notes due 2026, the 2.425% Euro notes due 2026, the 1.164% Euro notes due 2027, the 3.550% Senior Notes due 2030, the 4.250% Senior Notes due 2035 and the 4.450% Senior Notes due 2045 without any make-whole premium at specified dates ranging from one month to six months in advance of the scheduled maturity date.
The estimated fair value of our senior notes as of December 31, 2020, based on quoted prices for the specific securities from transactions in over-the-counter markets (Level 2), was $8,619.0 million. The estimated fair value of Japan Term Loan A and Japan Term Loan B, in the aggregate, as of December 31, 2020, based upon publicly available market yield curves and the terms of the debt (Level 2), was $318.3 million.
We entered into interest rate swap agreements which we designated as fair value hedges of underlying fixed-rate obligations on our senior notes due 2019 and 2021. These fair value hedges were settled in 2016. In 2016, we entered into various variable-to-fixed interest rate swap agreements that were accounted for as cash flow hedges of U.S. Term Loan B. These interest rate swaps were terminated concurrently with the repayment of the remaining balance of U.S. Term Loan B in 2019. In 2018 and 2019, we entered into cross-currency interest rate swaps that we designated as net investment hedges. The excluded component of these net investment hedges is recorded in interest expense, net. See Note 15 for additional information regarding our interest rate swap agreements.
At December 31, 2020 and 2019, the weighted average interest rate for our borrowings was 3.0 percent and 2.9 percent, respectively. We paid $193.1 million, $226.9 million, and $282.8 million in interest during 2020, 2019, and 2018, respectively.
| 14. | Accumulated Other Comprehensive Income |
|---|
AOCI refers to certain gains and losses that under GAAP are included in comprehensive income but are excluded from net earnings as these amounts are initially recorded as an adjustment to stockholders’ equity. Amounts in AOCI may be reclassified to net earnings upon the occurrence of certain events.
Our AOCI is comprised of foreign currency translation adjustments, unrealized gains and losses on cash flow hedges, and amortization of prior service costs and unrecognized gains and losses in actuarial assumptions on our defined benefit plans. Foreign currency translation adjustments are reclassified to net earnings upon sale or upon a complete or substantially complete liquidation of an investment in a foreign entity. Unrealized gains and losses on cash flow hedges are reclassified to net earnings when the hedged item affects net earnings. Amounts related to defined benefit plans that are in AOCI are reclassified over the service periods of employees in the plan. See Note 16 for more information on our defined benefit plans.
The following table shows the changes in the components of AOCI, net of tax (in millions):
| Foreign | Cash | Defined | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Currency | Flow | Benefit | Total | |||||||||||||
| Translation | Hedges | Plan Items | AOCI | |||||||||||||
| Balance December 31, 2019 | $ | (32.8 | ) | $ | 16.4 | $ | (225.5 | ) | $ | (241.9 | ) | |||||
| AOCI before reclassifications | 25.6 | (33.5 | ) | (12.4 | ) | (20.3 | ) | |||||||||
| Reclassifications to statements of earnings | - | (38.5 | ) | 2.9 | (35.6 | ) | ||||||||||
| Balance December 31, 2020 | $ | (7.2 | ) | $ | (55.6 | ) | $ | (235.0 | ) | $ | (297.8 | ) |
The following table shows the reclassification adjustments from AOCI (in millions):
| Amount of Gain / (Loss) | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Reclassified from AOCI | ||||||||||||||
| For the Years Ended December 31, | Location on | |||||||||||||
| Component of AOCI | 2020 | 2019 | 2018 | Statements of Earnings | ||||||||||
| Cash flow hedges | ||||||||||||||
| Foreign exchange forward contracts | $ | 45.4 | $ | 38.4 | $ | (26.2 | ) | Cost of products sold | ||||||
| Interest rate swaps | - | 2.8 | - | Interest expense, net | ||||||||||
| Forward starting interest rate swaps | (0.6 | ) | (0.6 | ) | (0.6 | ) | Interest expense, net | |||||||
| 44.8 | 40.6 | (26.8 | ) | Total before tax | ||||||||||
| 6.3 | 5.5 | (3.2 | ) | (Benefit) provision for income taxes | ||||||||||
| $ | 38.5 | $ | 35.1 | $ | (23.6 | ) | Net of tax | |||||||
| Defined benefit plans | ||||||||||||||
| Prior service cost | $ | 3.9 | $ | 7.3 | $ | 9.9 | Other income (expense), net | |||||||
| Curtailment gain | - | 7.2 | - | Other income (expense), net | ||||||||||
| Unrecognized actuarial loss | (8.5 | ) | (21.8 | ) | (26.2 | ) | Other income (expense), net | |||||||
| (4.6 | ) | (7.3 | ) | (16.3 | ) | Total before tax | ||||||||
| (1.7 | ) | (2.3 | ) | (4.3 | ) | (Benefit) provision for income taxes | ||||||||
| $ | (2.9 | ) | $ | (5.0 | ) | $ | (12.0 | ) | Net of tax | |||||
| Total reclassifications | $ | 35.6 | $ | 30.1 | $ | (35.6 | ) | Net of tax |
The following table shows the tax effects on each component of AOCI recognized in our consolidated statements of comprehensive income (loss) (in millions):
| For the Years Ended December 31, | ||||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Before Tax | Tax | Net of Tax | ||||||||||||||||||||||||||||||||||
| 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | ||||||||||||||||||||||||||||
| Foreign currency cumulative translation adjustments | $ | (43.4 | ) | $ | 12.1 | $ | (148.7 | ) | $ | (69.0 | ) | $ | 13.6 | $ | (13.3 | ) | $ | 25.6 | $ | (1.5 | ) | $ | (135.4 | ) | ||||||||||||
| Unrealized cash flow hedge (losses) gains | (42.7 | ) | 34.6 | 81.1 | (9.2 | ) | 4.0 | 12.9 | (33.5 | ) | 30.6 | 68.2 | ||||||||||||||||||||||||
| Reclassification adjustments on cash flow hedges | (44.8 | ) | (40.6 | ) | 26.8 | (6.3 | ) | (5.5 | ) | 3.2 | (38.5 | ) | (35.1 | ) | 23.6 | |||||||||||||||||||||
| Adjustments to prior service cost and unrecognized actuarial assumptions | (20.9 | ) | (56.4 | ) | (22.7 | ) | (11.4 | ) | (7.9 | ) | (5.0 | ) | (9.5 | ) | (48.5 | ) | (17.7 | ) | ||||||||||||||||||
| Total Other Comprehensive (Loss) Income | $ | (151.8 | ) | $ | (50.3 | ) | $ | (63.5 | ) | $ | (95.9 | ) | $ | 4.2 | $ | (2.2 | ) | $ | (55.9 | ) | $ | (54.5 | ) | $ | (61.3 | ) |
| 15. | Derivative Instruments and Hedging Activities |
|---|
We are exposed to certain market risks relating to our ongoing business operations, including foreign currency exchange rate risk, commodity price risk, interest rate risk and credit risk. We manage our exposure to these and other market risks through regular operating and financing activities. Currently, the only risks that we manage through the use of derivative instruments are interest rate risk and foreign currency exchange rate risk.
Interest Rate Risk
Derivatives Designated as Fair Value Hedges
In prior years, we entered into various fixed-to-variable interest rate swap agreements that were accounted for as fair value hedges of a portion of our 4.625% Senior Notes due in 2019 and all of our 3.375% Senior Notes due 2021. In August 2016, we received cash for these interest rate swap assets by terminating the hedging instruments with the counterparties. The 4.625% Senior Notes were repaid at maturity in 2019. The remaining unamortized balance related to the 3.375% Senior Notes as of December 31, 2020 was $3.1 million, which will be recognized using the effective interest rate method over the remaining maturity period of the 3.375% Senior Notes. As of December 31, 2020 and 2019, the following amounts were recorded on our consolidated balance sheets related to cumulative basis adjustments for fair value hedges (in millions):
| Carrying Amount of the Hedged Liabilities | Cumulative Amount of Fair Value Hedging Adjustment Included in the Carrying Amount of the Hedged Liabilities | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Balance Sheet Line Item | December 31, 2020 | December 31, 2019 | December 31, 2020 | December 31, 2019 | |||||||||||||
| Long-term debt | $ | 303.0 | $ | 306.2 | $ | 3.1 | $ | 6.4 |
Derivatives Designated as Cash Flow Hedges
In 2014, we entered into forward starting interest rate swaps that were designated as cash flow hedges of our thirty-year tranche of senior notes (the 4.450% Senior Notes due 2045) we expected to issue in 2015. The forward starting interest rate swaps mitigated the risk of changes in interest rates prior to the completion of the notes offering. The interest rate swaps were settled, and the remaining loss to be recognized at December 31, 2020 was $25.9 million, which will be recognized using the effective interest rate method over the remaining maturity period of the hedged notes.
In September 2016, we entered into various variable-to-fixed interest rate swap agreements with a notional amount of $375 million that were accounted for as cash flow hedges of U.S. Term Loan B. The interest rate swaps minimized the exposure to changes in the LIBOR interest rates while the variable-rate debt was outstanding. In the first quarter of 2019, we terminated these interest rate swaps concurrently with the repayment of the remaining balance of U.S. Term Loan B, and we recognized proceeds and interest income of $2.8 million related to the termination.
Foreign Currency Exchange Rate Risk
We operate on a global basis and are exposed to the risk that our financial condition, results of operations and cash flows could be adversely affected by changes in foreign currency exchange rates. To reduce the potential effects of foreign currency exchange rate movements on net earnings, we enter into derivative financial instruments in the form of foreign currency exchange forward contracts with major financial institutions. We also designated our Euro notes and other foreign currency exchange forward contracts as net investment hedges of investments in foreign subsidiaries. We are primarily exposed to foreign currency exchange rate risk with respect to transactions and net assets denominated in Euros, Swiss Francs, Japanese Yen, British Pounds, Canadian Dollars, Australian Dollars, Korean Won, Swedish Krona, Czech Koruna, Thai Baht, Taiwan Dollars, South African Rand, Russian Rubles, Indian Rupees, Turkish Lira, Polish Zloty, Danish Krone, and Norwegian Krone. We do not use derivative financial instruments for trading or speculative purposes.
Derivatives Designated as Net Investment Hedges
We are exposed to the impact of foreign exchange rate fluctuations in the investments in our wholly-owned foreign subsidiaries that are denominated in currencies other than the U.S. Dollar. In order to mitigate the volatility in foreign exchange rates, we issued Euro Notes in December 2016 and November 2019, as discussed in Note 13, and
designated 100 percent of the Euro Notes to hedge our net investment in certain wholly-owned foreign subsidiaries that have a functional currency of Euro. All changes in the fair value of the hedging instrument designated as a net investment hedge are recorded as a component of AOCI in our consolidated balance sheets.
At December 31, 2020, we had receive-fixed-rate, pay-fixed-rate cross-currency interest rate swaps with notional amounts outstanding of Euro 1,450 million, Japanese Yen 7 billion and Swiss Franc 50 million. These transactions further hedge our net investment in certain wholly-owned foreign subsidiaries that have a functional currency of Euro, Japanese Yen and Swiss Franc. All changes in the fair value of a derivative instrument designated as a net investment hedge are recorded as a component of AOCI in the consolidated balance sheets. The portion of this change related to the excluded component will be amortized into earnings over the life of the derivative while the remainder will be recorded in AOCI until the hedged net investment is sold or substantially eliminated. We recognize the excluded component in interest expense, net on our consolidated statements of earnings. The net cash received related to the receive-fixed-rate, pay-fixed-rate component of the cross-currency interest rate swaps is reflected in investing cash flows in our consolidated statements of cash flows.
Derivatives Designated as Cash Flow Hedges
Our revenues are generated in various currencies throughout the world. However, a significant amount of our inventory is produced in U.S. Dollars. Therefore, movements in foreign currency exchange rates may have different proportional effects on our revenues compared to our cost of products sold. To minimize the effects of foreign currency exchange rate movements on cash flows, we hedge intercompany sales of inventory expected to occur within the next 30 months with foreign currency exchange forward contracts. We designate these derivative instruments as cash flow hedges.
We perform quarterly assessments of hedge effectiveness by verifying and documenting the critical terms of the hedge instrument and confirming that forecasted transactions have not changed significantly. We also assess on a quarterly basis whether there have been adverse developments regarding the risk of a counterparty default. For derivatives which qualify as hedges of future cash flows, the gains and losses are temporarily recorded in AOCI and then recognized in cost of products sold when the hedged item affects net earnings. On our consolidated statements of cash flows, the settlements of these cash flow hedges are recognized in operating cash flows.
For foreign currency exchange forward contracts outstanding at December 31, 2020, we had obligations to purchase U.S. Dollars and sell Euros, Japanese Yen, British Pounds, Canadian Dollars, Australian Dollars, Korean Won, Swedish Krona, Czech Koruna, Thai Baht, Taiwan Dollars, South African Rand, Russian Rubles, Indian Rupees, Polish Zloty, Danish Krone, and Norwegian Krone and obligations to purchase Swiss Francs and sell U.S. Dollars. These derivatives mature at dates ranging from January 2021 through June 2023. As of December 31, 2020, the notional amounts of outstanding forward contracts entered into with third parties to purchase U.S. Dollars were $1,605.9 million. As of December 31, 2020, the notional amounts of outstanding forward contracts entered into with third parties to purchase Swiss Francs were $283.8 million.
Derivatives Not Designated as Hedging Instruments
We enter into foreign currency forward exchange contracts with terms of one to two months to manage currency exposures for monetary assets and liabilities denominated in a currency other than an entity’s functional currency. Any foreign currency re-measurement gains/losses recognized in earnings are generally offset with gains/losses on the foreign currency forward exchange contracts in the same reporting period. The amount of these gains/losses is recorded in other income (expense), net. Outstanding contracts are recorded on the balance sheet at fair value as of the end of the reporting period. The notional amounts of these contracts are typically in a range of $1.5 billion to $2.0 billion per quarter.
Income Statement Presentation
Derivatives Designated as Cash Flow Hedges
Derivative instruments designated as cash flow hedges had the following effects, before taxes, on AOCI and net earnings on our consolidated statements of earnings, consolidated statements of comprehensive income (loss) and consolidated balance sheets (in millions):
| Amount of Gain / (Loss) | Amount of Gain / (Loss) | |||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Recognized in AOCI | Location on | Reclassified from AOCI | ||||||||||||||||||||||||
| Years Ended December 31, | Statement of | Years Ended December 31, | ||||||||||||||||||||||||
| Derivative Instrument | 2020 | 2019 | 2018 | Earnings | 2020 | 2019 | 2018 | |||||||||||||||||||
| Foreign exchange forward contracts | $ | (42.7 | ) | $ | 34.6 | $ | 82.8 | Cost of products sold | $ | 45.4 | $ | 38.4 | $ | (26.2 | ) | |||||||||||
| Interest rate swaps | - | - | (1.7 | ) | Interest expense, net | - | 2.8 | - | ||||||||||||||||||
| Forward starting interest rate swaps | - | - | - | Interest expense, net | (0.6 | ) | (0.6 | ) | (0.6 | ) | ||||||||||||||||
| $ | (42.7 | ) | $ | 34.6 | $ | 81.1 | $ | 44.8 | $ | 40.6 | $ | (26.8 | ) |
The fair value of outstanding derivative instruments designated as cash flow hedges and recorded on the consolidated balance sheet at December 31, 2020, together with settled derivatives where the hedged item has not yet affected earnings, was a net unrealized loss of $70.1 million, or $55.6 million after taxes, which is deferred in AOCI. A loss of $18.2 million, or $16.1 million after taxes, is expected to be reclassified to earnings in cost of products sold and a loss of $0.6 million, or $0.5 million after taxes, is expected to be reclassified to earnings in interest expense, net over the next twelve months.
The following table presents the effects of fair value, cash flow and net investment hedge accounting on our consolidated statements of earnings (in millions):
| Location and Amount of Gain/(Loss) Recognized in Income on Fair Value, Cash Flow and Net Investment Hedging Relationships | ||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Years Ended December 31, | ||||||||||||||||||||||||||
| 2020 | 2019 | 2018 | ||||||||||||||||||||||||
| Cost of | Interest | Cost of | Interest | Cost of | Interest | |||||||||||||||||||||
| Products | Expense, | Products | Expense, | Products | Expense, | |||||||||||||||||||||
| Sold | Net | Sold | Net | Sold | Net | |||||||||||||||||||||
| Total amounts of income and expense line items presented in the statements of earnings in which the effects of fair value, cash flow and net investment hedges are recorded | $ | 2,128.3 | $ | (212.0 | ) | $ | 2,252.6 | $ | (226.9 | ) | $ | 2,271.9 | $ | (289.3 | ) | |||||||||||
| The effects of fair value, cash flow and net investment hedging: | ||||||||||||||||||||||||||
| Gain on fair value hedging relationships | ||||||||||||||||||||||||||
| Discontinued interest rate swaps | - | 3.3 | - | 8.2 | - | 8.5 | ||||||||||||||||||||
| Gain (loss) on cash flow hedging relationships | ||||||||||||||||||||||||||
| Foreign exchange forward contracts | 45.4 | - | 38.4 | - | (26.2 | ) | - | |||||||||||||||||||
| Interest rate swaps | - | - | - | 2.8 | - | - | ||||||||||||||||||||
| Forward starting interest rate swaps | - | (0.6 | ) | - | (0.6 | ) | - | (0.6 | ) | |||||||||||||||||
| Gain on net investment hedging relationships | ||||||||||||||||||||||||||
| Cross-currency interest rate swaps | - | 53.5 | - | 52.2 | - | 25.5 |
Derivatives Not Designated as Hedging Instruments
The following gains/(losses) from these derivative instruments were recognized on our consolidated statements of earnings (in millions):
| Location on | Years Ended December 31, | |||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Derivative Instrument | Statements of Earnings | 2020 | 2019 | 2018 | ||||||||||
| Foreign exchange forward contracts | Other income (expense), net | $ | 10.6 | $ | (11.0 | ) | $ | 24.7 |
These gains/(losses) do not reflect losses of $22.8 million, $3.4 million and $41.2 million in 2020, 2019 and 2018, respectively, recognized in other income (expense), net as a result of foreign currency re-measurement of monetary assets and liabilities denominated in a currency other than an entity’s functional currency.
Balance Sheet Presentation
As of December 31, 2020 and 2019, all derivative instruments are recorded at fair value on our consolidated balance sheets. On our consolidated balance sheets, we recognize individual forward contracts with the same counterparty on a net asset/liability basis if we have a master netting agreement with the counterparty. Under these master netting agreements, we are able to settle derivative instrument assets and liabilities with the same counterparty in a single transaction, instead of settling each derivative instrument separately. We have master netting agreements with all of our counterparties.
The fair value of derivative instruments on a gross basis is as follows (in millions):
| As of December 31, 2020 | As of December 31, 2019 | |||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Balance Sheet | Fair | Balance Sheet | Fair | |||||||||
| Location | Value | Location | Value | |||||||||
| Asset Derivatives Designated as Hedges | ||||||||||||
| Foreign exchange forward contracts | Other current assets | $ | 12.2 | Other current assets | $ | 41.8 | ||||||
| Foreign exchange forward contracts | Other assets | 3.7 | Other assets | 9.8 | ||||||||
| Cross-currency interest rate swaps | Other assets | - | Other assets | 60.5 | ||||||||
| Total asset derivatives designated as hedges | $ | 15.9 | $ | 112.1 | ||||||||
| Asset Derivatives Not Designated as Hedges | ||||||||||||
| Foreign exchange forward contracts | Other current assets | $ | 1.5 | Other current assets | $ | - | ||||||
| Total asset derivatives not designated as hedges | $ | 1.5 | $ | - | ||||||||
| Liability Derivatives Designated as Hedges | ||||||||||||
| Foreign exchange forward contracts | Other current liabilities | $ | 37.4 | Other current liabilities | $ | 7.9 | ||||||
| Cross-currency interest rate swaps | Other current liabilities | 55.0 | Other current liabilities | - | ||||||||
| Foreign exchange forward contracts | Other long-term liabilities | 26.5 | Other long-term liabilities | 5.2 | ||||||||
| Cross-currency interest rate swaps | Other long-term liabilities | 28.3 | Other long-term liabilities | - | ||||||||
| Total liability derivatives designated as hedges | $ | 147.2 | $ | 13.1 | ||||||||
| Liability Derivatives Not Designated as Hedges | ||||||||||||
| Foreign exchange forward contracts | Other current liabilities | $ | 3.8 | Other current liabilities | $ | - | ||||||
| Total liability derivatives not designated as hedges | $ | 3.8 | $ | - |
The table below presents the effects of our master netting agreements on our consolidated balance sheets (in millions):
| As of December 31, 2020 | As of December 31, 2019 | |||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Description | Location | Gross Amount | Offset | Net Amount in Balance Sheet | Gross Amount | Offset | Net Amount in Balance Sheet | |||||||||||||||||||
| Asset Derivatives | ||||||||||||||||||||||||||
| Cash flow hedges | Other current assets | $ | 12.2 | $ | 11.7 | $ | 0.5 | $ | 41.8 | $ | 7.9 | $ | 33.9 | |||||||||||||
| Cash flow hedges | Other assets | 3.7 | 3.7 | - | 9.8 | 4.6 | 5.2 | |||||||||||||||||||
| Derivatives not designated as hedges | Other current assets | 1.5 | 0.6 | 0.9 | - | - | - | |||||||||||||||||||
| Liability Derivatives | ||||||||||||||||||||||||||
| Cash flow hedges | Other current liabilities | 37.4 | 11.7 | 25.7 | 7.9 | 7.9 | - | |||||||||||||||||||
| Cash flow hedges | Other long-term liabilities | 26.5 | 3.7 | 22.8 | 5.2 | 4.6 | 0.6 | |||||||||||||||||||
| Derivatives not designated as hedges | Other current liabilities | 3.8 | 0.6 | 3.2 | - | - | - |
The following net investment hedge gains (losses) were recognized on our consolidated statements of comprehensive income (loss) (in millions):
| Amount of Gain / (Loss) | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Recognized in AOCI | ||||||||||||
| Years Ended December 31, | ||||||||||||
| Derivative Instrument | 2020 | 2019 | 2018 | |||||||||
| Euro Notes | $ | (151.5 | ) | $ | 10.7 | $ | 57.6 | |||||
| Cross-currency interest rate swaps | (143.8 | ) | 47.9 | 62.8 | ||||||||
| $ | (295.3 | ) | $ | 58.6 | $ | 120.4 |
| 16. | Retirement Benefit Plans |
|---|
We have defined benefit pension plans covering certain U.S. and Puerto Rico employees. Plan benefits are primarily based on years of credited service and the participant’s average eligible compensation. The U.S. and Puerto Rico plans are frozen; meaning there are no new participants that can join the plan and participants in the plan do not accrue additional years of service or compensation. In addition to the U.S. and Puerto Rico defined benefit pension plans, we sponsor various foreign pension arrangements, including retirement and termination benefit plans required by local law or coordinated with government sponsored plans.
We use a December 31 measurement date for our benefit plans.
Defined Benefit Plans
The components of net pension expense for our defined benefit retirement plans were as follows (in millions):
| For the Years Ended December 31, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||||||||||
| 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | |||||||||||||||||||
| Service cost | $ | 0.7 | $ | 7.1 | $ | 8.0 | $ | 24.7 | $ | 19.0 | $ | 20.0 | ||||||||||||
| Interest cost | 13.9 | 16.2 | 14.2 | 5.4 | 9.0 | 8.1 | ||||||||||||||||||
| Expected return on plan assets | (32.9 | ) | (32.4 | ) | (32.9 | ) | (13.3 | ) | (13.4 | ) | (14.0 | ) | ||||||||||||
| Curtailment gain | - | (7.2 | ) | - | - | - | - | |||||||||||||||||
| Settlements | 0.5 | 0.8 | 1.2 | (0.5 | ) | - | 0.2 | |||||||||||||||||
| Amortization of prior service cost | 0.3 | (3.4 | ) | (5.7 | ) | (4.2 | ) | (3.9 | ) | (4.2 | ) | |||||||||||||
| Amortization of unrecognized actuarial loss | 7.2 | 19.3 | 23.7 | 1.3 | 2.5 | 2.5 | ||||||||||||||||||
| Net periodic benefit (income) expense | $ | (10.3 | ) | $ | 0.4 | $ | 8.5 | $ | 13.4 | $ | 13.2 | $ | 12.6 |
In our consolidated statements of earnings, service cost is reported in the same location as other compensation costs arising from services rendered by the pertinent employees while the other components of net pension expense are reported in other income (expense), net.
The weighted average actuarial assumptions used to determine net pension expense for our defined benefit retirement plans were as follows:
| For the Years Ended December 31, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||||||||||
| 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | |||||||||||||||||||
| Discount rate | 3.40 | % | 4.38 | % | 3.79 | % | 0.73 | % | 1.44 | % | 1.18 | % | ||||||||||||
| Rate of compensation increase | - | 3.29 | % | 3.29 | % | 2.28 | % | 2.50 | % | 2.09 | % | |||||||||||||
| Expected long-term rate of return on plan assets | 7.75 | % | 7.75 | % | 7.75 | % | 2.17 | % | 2.14 | % | 2.19 | % |
The expected long-term rate of return on plan assets is based on the historical and estimated future rates of return on the different asset classes held in the plans. The expected long-term rate of return is the weighted average of the target asset allocation of each individual asset class. We believe that historical asset results approximate expected market returns applicable to the funding of a long-term benefit obligation.
Discount rates were determined for each of our defined benefit retirement plans at their measurement date to reflect the yield of a portfolio of high quality bonds matched against the timing and amounts of projected future benefit payments.
Changes in projected benefit obligations and plan assets were (in millions):
| For the Years Ended December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||
| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Projected benefit obligation - beginning of year | $ | 472.0 | $ | 396.0 | $ | 740.4 | $ | 631.1 | ||||||||
| Service cost | 0.7 | 7.1 | 24.7 | 19.0 | ||||||||||||
| Interest cost | 13.9 | 16.2 | 5.4 | 9.0 | ||||||||||||
| Plan amendments | - | 3.6 | 0.2 | - | ||||||||||||
| Employee contributions | - | - | 22.1 | 20.6 | ||||||||||||
| Benefits paid | (24.0 | ) | (16.9 | ) | (39.8 | ) | (36.5 | ) | ||||||||
| Actuarial loss | 55.6 | 68.2 | 12.5 | 77.8 | ||||||||||||
| Expenses paid | - | - | (0.3 | ) | (0.3 | ) | ||||||||||
| Settlement | (1.3 | ) | (2.2 | ) | (4.5 | ) | - | |||||||||
| Translation loss | - | - | 58.6 | 19.7 | ||||||||||||
| Projected benefit obligation - end of year | $ | 516.9 | $ | 472.0 | $ | 819.3 | $ | 740.4 |
| For the Years Ended December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||
| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Plan assets at fair market value - beginning of year | $ | 444.9 | $ | 388.5 | $ | 665.2 | $ | 585.8 | ||||||||
| Actual return on plan assets | 51.4 | 73.5 | 40.0 | 57.8 | ||||||||||||
| Employer contributions | 3.1 | 2.0 | 21.2 | 20.1 | ||||||||||||
| Employee contributions | - | - | 22.1 | 20.6 | ||||||||||||
| Settlements | (1.3 | ) | (2.2 | ) | (4.5 | ) | - | |||||||||
| Benefits paid | (24.0 | ) | (16.9 | ) | (39.8 | ) | (36.5 | ) | ||||||||
| Expenses paid | - | - | (0.3 | ) | (0.3 | ) | ||||||||||
| Translation gain | - | - | 52.8 | 17.7 | ||||||||||||
| Plan assets at fair market value - end of year | $ | 474.1 | $ | 444.9 | $ | 756.7 | $ | 665.2 | ||||||||
| Funded status | $ | (42.8 | ) | $ | (27.1 | ) | $ | (62.6 | ) | $ | (75.2 | ) |
| For the Years Ended December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||
| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Amounts recognized in consolidated balance sheet: | ||||||||||||||||
| Prepaid pension | $ | - | $ | - | $ | 20.4 | $ | 17.6 | ||||||||
| Short-term accrued benefit liability | (0.1 | ) | (0.2 | ) | (1.3 | ) | (1.1 | ) | ||||||||
| Long-term accrued benefit liability | (42.7 | ) | (26.9 | ) | (81.7 | ) | (91.7 | ) | ||||||||
| Net amount recognized | $ | (42.8 | ) | $ | (27.1 | ) | $ | (62.6 | ) | $ | (75.2 | ) |
The weighted average actuarial assumptions used to determine the projected benefit obligation for our defined benefit retirement plans were as follows:
| For the Years Ended December 31, | ||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||||||||||
| 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | |||||||||||||||||||
| Discount rate | 2.70 | % | 3.40 | % | 4.38 | % | 0.61 | % | 0.74 | % | 1.41 | % | ||||||||||||
| Rate of compensation increase | - | 3.29 | % | 3.29 | % | 2.36 | % | 2.45 | % | 2.13 | % |
Plans with projected benefit obligations in excess of plan assets were as follows (in millions):
| As of December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||
| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Projected benefit obligation | $ | 516.9 | $ | 472.0 | $ | 778.4 | $ | 698.2 | ||||||||
| Plan assets at fair market value | 474.1 | 444.9 | 709.5 | 619.1 |
Total accumulated benefit obligations and plans with accumulated benefit obligations in excess of plan assets were as follows (in millions):
| As of December 31, | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| U.S. and Puerto Rico | Foreign | |||||||||||||||
| 2020 | 2019 | 2020 | 2019 | |||||||||||||
| Total accumulated benefit obligations | $ | 516.9 | $ | 472.0 | $ | 801.3 | $ | 721.5 | ||||||||
| Plans with accumulated benefit obligations in excess of plan assets: | ||||||||||||||||
| Accumulated benefit obligation | 516.9 | 472.0 | 560.9 | 674.0 | ||||||||||||
| Plan assets at fair market value | 474.1 | 444.9 | 508.6 | 612.9 |
The benefits expected to be paid out in each of the next five years and for the five years combined thereafter are as follows (in millions):
| For the Years Ending December 31, | U.S. and Puerto Rico | Foreign | ||||||
|---|---|---|---|---|---|---|---|---|
| 2021 | $ | 22.2 | $ | 32.6 | ||||
| 2022 | 23.1 | 32.9 | ||||||
| 2023 | 24.1 | 32.9 | ||||||
| 2024 | 24.4 | 32.9 | ||||||
| 2025 | 25.4 | 34.8 | ||||||
| 2026-2030 | 130.5 | 174.5 |
The U.S. and Puerto Rico defined benefit retirement plans’ overall investment strategy is to balance total returns by emphasizing long-term growth of capital while mitigating risk. We have established target ranges of assets held by the plans of 30 to 65 percent for equity securities, 30 to 50 percent for debt securities and 0 to 15 percent in non-traditional investments. The plans strive to have sufficiently diversified assets so that adverse or unexpected results from one asset class will not have an unduly detrimental impact on the entire portfolio. We regularly review the investments in the plans and we may rebalance them from time-to-time based upon the target asset allocation of the plans.
For the U.S. and Puerto Rico plans, we maintain an investment policy statement that guides the investment allocation in the plans. The investment policy statement describes the target asset allocation positions described above. Our benefits committee, along with our investment advisor, monitor compliance with and administer the investment policy statement and the plans’ assets and oversee the general investment strategy and objectives of the plans. Our benefits committee generally meets quarterly to review performance.
The investment strategies of foreign based plans vary according to the plan provisions and local laws. The majority of the assets in foreign based plans are located in Switzerland-based plans. These assets are held in trusts and are commingled with the assets of other Swiss companies with representatives of all the companies making the investment decisions. The overall strategy is to maximize total returns while avoiding risk. The trustees of the assets have established target ranges of assets held by the plans of 30 to 50 percent in debt securities, 20 to 37 percent in equity securities, 15 to 24 percent in real estate, 3 to 15 percent in cash funds and 0 to 12 percent in other funds.
The fair value of our U.S. and Puerto Rico pension plan assets by asset category was as follows (in millions):
| As of December 31, 2020 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Asset Category | Total | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Cash and cash equivalents | $ | 7.3 | $ | 7.3 | $ | - | $ | - | ||||||||
| Equity securities | 304.1 | - | 304.1 | - | ||||||||||||
| Intermediate fixed income securities | 162.7 | - | 162.7 | - | ||||||||||||
| Total | $ | 474.1 | $ | 7.3 | $ | 466.8 | $ | - |
| As of December 31, 2019 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Asset Category | Total | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Cash and cash equivalents | $ | 4.7 | $ | 4.7 | $ | - | $ | - | ||||||||
| Equity securities | 282.5 | - | 282.5 | - | ||||||||||||
| Intermediate fixed income securities | 157.7 | - | 157.7 | - | ||||||||||||
| Total | $ | 444.9 | $ | 4.7 | $ | 440.2 | $ | - |
The fair value of our foreign pension plan assets was as follows (in millions):
| As of December 31, 2020 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Asset Category | Total | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Cash and cash equivalents | $ | 42.7 | $ | 42.7 | $ | - | $ | - | ||||||||
| Equity securities | 163.9 | 126.8 | 37.1 | - | ||||||||||||
| Fixed income securities | 262.5 | - | 262.5 | - | ||||||||||||
| Other types of investments | 142.3 | - | 142.3 | - | ||||||||||||
| Real estate | 145.3 | - | - | 145.3 | ||||||||||||
| Total | $ | 756.7 | $ | 169.5 | $ | 441.9 | $ | 145.3 |
| As of December 31, 2019 | ||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Fair Value Measurements at Reporting Date Using: | ||||||||||||||||
| Asset Category | Total | Quoted Prices in Active Markets for Identical Assets (Level 1) | Significant Other Observable Inputs (Level 2) | Significant Unobservable Inputs (Level 3) | ||||||||||||
| Cash and cash equivalents | $ | 31.8 | $ | 31.8 | $ | - | $ | - | ||||||||
| Equity securities | 140.9 | 116.0 | 24.9 | - | ||||||||||||
| Fixed income securities | 245.2 | - | 245.2 | - | ||||||||||||
| Other types of investments | 123.6 | - | 123.6 | - | ||||||||||||
| Real estate | 123.7 | - | - | 123.7 | ||||||||||||
| Total | $ | 665.2 | $ | 147.8 | $ | 393.7 | $ | 123.7 |
As of December 31, 2020 and 2019, our defined benefit pension plans’ assets did not hold any direct investment in Zimmer Biomet Holdings common stock.
Equity securities are valued using a market approach, based on quoted prices for the specific security from transactions in active exchange markets (Level 1), or in some cases where we are invested in mutual or collective funds, based upon the net asset value per unit of the fund which is determined from quoted market prices of the underlying securities in the fund’s portfolio (Level 2). Fixed income securities are valued using a market approach, based upon quoted prices for the specific security or from institutional bid evaluations. Real estate is valued by discounting to present value the cash flows expected to be generated by the specific properties.
The following table provides a reconciliation of the beginning and ending balances of our foreign pension plan assets measured at fair value that used significant unobservable inputs (Level 3) (in millions):
| December 31, 2020 | ||||
|---|---|---|---|---|
| Beginning Balance | $ | 123.7 | ||
| Gain on assets sold | 0.3 | |||
| Change in fair value of assets | 0.7 | |||
| Net purchases and sales | 8.2 | |||
| Translation gain | 12.4 | |||
| Ending Balance | $ | 145.3 |
We expect that we will have minimal legally required funding requirements in 2021 for the qualified U.S. and Puerto Rico defined benefit retirement plans, and we do not expect to voluntarily contribute to these plans during 2021. Contributions to foreign defined benefit plans are estimated to be $21.0 million in 2021. We do not expect the assets in any of our plans to be returned to us in the next year.
Defined Contribution Plans
We also sponsor defined contribution plans for substantially all of the U.S. and Puerto Rico employees and certain employees in other countries.
The benefits offered under these plans are reflective of local customs and practices in the countries concerned. We expensed $49.6 million, $52.6 million and $48.9 million related to these plans for the years ended December 31, 2020, 2019 and 2018, respectively.
17.Income Taxes
A public referendum held in Switzerland passed the Federal Act on Tax Reform and AHV Financing (“TRAF”), effective January 1, 2020, and includes the abolishment of various favorable federal and cantonal tax regimes. The TRAF provides transitional relief measures for companies that are losing the tax benefit of a ruling, including a "step-up" for amortizable goodwill, equal to the amount of future tax benefit they would have received under their
existing ruling, subject to certain limitations. Certain provisions of TRAF were enacted in the third quarter of 2019, resulting in us recognizing a provisional net tax benefit of $263.8 million. In the fourth quarter of 2019 and third quarter of 2020, we recognized an additional $51.2 million and $6.5 million tax benefit, respectively, related to TRAF as well as the tax impact of certain restructuring transactions in Switzerland. We received notification from the Swiss authorities in October 2020 regarding our TRAF ruling and recorded a net tax benefit of $36.5 million in the fourth quarter of 2020 based on this notification, for an overall benefit of $358.0 million.
The components of earnings (loss) before income taxes consisted of the following (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| United States operations | $ | (592.9 | ) | $ | (125.9 | ) | $ | (382.8 | ) | |||
| Foreign operations | 318.5 | 1,031.7 | 111.7 | |||||||||
| Total | $ | (274.4 | ) | $ | 905.8 | $ | (271.1 | ) |
The (benefit)/provision for income taxes and the income taxes paid consisted of the following (in millions):
| Current: | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Federal | $ | (96.1 | ) | $ | 65.5 | $ | (46.2 | ) | ||||
| State | 4.6 | 9.8 | 24.4 | |||||||||
| Foreign | (57.5 | ) | 237.7 | 116.6 | ||||||||
| (149.0 | ) | 313.0 | 94.8 | |||||||||
| Deferred: | ||||||||||||
| Federal | (24.2 | ) | (90.2 | ) | 37.9 | |||||||
| State | (11.5 | ) | (4.2 | ) | (8.8 | ) | ||||||
| Foreign | 47.7 | (444.3 | ) | (15.7 | ) | |||||||
| 12.0 | (538.7 | ) | 13.4 | |||||||||
| (Benefit) provision for income taxes | $ | (137.0 | ) | $ | (225.7 | ) | $ | 108.2 | ||||
| Net income taxes paid | $ | 147.4 | $ | 192.5 | $ | 237.1 |
A reconciliation of the U.S. statutory income tax rate to our effective tax rate is as follows:
| For the Years Ended December 31, | |||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | |||||||||||||
| U.S. statutory income tax rate | 21.0 | % | 21.0 | % | 21.0 | % | |||||||||
| State taxes, net of federal deduction | 2.4 | 0.8 | (2.5 | ) | |||||||||||
| Tax impact of foreign operations, including U.S. taxes on international income and foreign tax credits | 14.9 | (10.2 | ) | 54.3 | |||||||||||
| Change in valuation allowance | 1.5 | 1.5 | (4.9 | ) | |||||||||||
| Non-deductible expenses | (2.0 | ) | 0.4 | 1.7 | |||||||||||
| Goodwill impairment | (46.1 | ) | - | (75.2 | ) | ||||||||||
| Tax rate change | 3.8 | 0.6 | (12.2 | ) | |||||||||||
| Tax benefit relating to foreign derived intangible income and U.S. manufacturer’s deduction | 5.8 | (4.5 | ) | (0.2 | ) | ||||||||||
| R&D tax credit | 2.1 | (1.2 | ) | 6.0 | |||||||||||
| Share-based compensation | 0.1 | (0.4 | ) | 0.1 | |||||||||||
| Net uncertain tax positions, including interest and penalties | 31.4 | 1.9 | (25.5 | ) | |||||||||||
| U.S. tax reform | - | 0.1 | (3.1 | ) | |||||||||||
| Switzerland tax reform and certain restructuring transactions | 15.7 | (34.8 | ) | - | |||||||||||
| Other | (0.7 | ) | (0.1 | ) | 0.6 | ||||||||||
| Effective income tax rate | 49.9 | % | (24.9 | ) | % | (39.9 | ) | % |
Our operations in Puerto Rico benefit from various tax incentive grants. These grants expire between fiscal years 2026 and 2029.
Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Valuation allowances are recorded to reduce deferred income tax assets when it is more likely than not that an income tax benefit will not be realized. We reclassified certain prior period amounts to conform to the current period presentation.
The components of deferred taxes consisted of the following (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| Deferred tax assets: | ||||||||
| Inventory | $ | 297.2 | $ | 295.6 | ||||
| Net operating loss carryover | 511.2 | 514.4 | ||||||
| Tax credit carryover | 55.1 | 33.8 | ||||||
| Capital loss carryover | 9.0 | 8.3 | ||||||
| Product liability and litigation | 53.9 | 40.4 | ||||||
| Accrued liabilities | 86.1 | 101.6 | ||||||
| Share-based compensation | 30.4 | 28.6 | ||||||
| Accounts receivable | 19.0 | 24.6 | ||||||
| Foreign currency hedges | 69.0 | - | ||||||
| Other | 19.2 | 16.8 | ||||||
| Total deferred tax assets | 1,150.1 | 1,064.1 | ||||||
| Less: Valuation allowances | (542.1 | ) | (546.1 | ) | ||||
| Total deferred tax assets after valuation allowances | 608.0 | 518.0 | ||||||
| Deferred tax liabilities: | ||||||||
| Fixed assets | $ | 119.2 | $ | 77.6 | ||||
| Intangible assets | 787.6 | 772.3 | ||||||
| Foreign currency hedges | - | 13.8 | ||||||
| Other | 39.8 | 23.0 | ||||||
| Total deferred tax liabilities | 946.6 | 886.7 | ||||||
| Total net deferred income taxes | $ | (338.6 | ) | $ | (368.7 | ) |
Net operating loss carryovers are available to reduce future federal, state and foreign taxable earnings. At December 31, 2020, $388.2 million of these net operating loss carryovers expire within a period of 1 to 20 years and $123.0 million of these net operating loss carryovers have an indefinite life. Valuation allowances for net operating loss carryovers have been established in the amount of $479.2 million and $493.4 million at December 31, 2020 and 2019, respectively.
Deferred tax assets related to tax credit carryovers are available to offset future federal and state tax liabilities. At December 31, 2020, $55.1 million of these tax credit carryovers expire within a period of 1 to 15 years. Valuation allowances for certain tax credit carryovers have been established in the amount of $42.6 million and $32.3 million at December 31, 2020 and 2019, respectively.
Deferred tax assets related to capital loss carryovers are also available to reduce future federal and foreign capital gains. At December 31, 2020, $2.2 million of these capital loss carryovers expire within a period of 1 year to 4 years and $6.8 million of these capital loss carryovers have an indefinite life. Valuation allowances for certain capital loss carryovers have been established in the amount of $9.0 million and $8.3 million at December 31, 2020 and 2019, respectively. The remaining valuation allowances booked against deferred tax assets of $11.3 million and $12.1 million at December 31, 2020 and 2019, respectively, relate primarily to accrued liabilities and intangible assets that management believes, more likely than not, will not be realized.
We intend to repatriate at least $5.5 billion of unremitted earnings, of which the additional tax related to remitting earnings is deemed immaterial as a portion of these earnings has already been taxed as toll tax or GILTI and is not subject to further U.S. federal tax. Portions of the additional tax would also be offset by allowable foreign tax
credits. Of the $5.5 billion amount, we have an estimated $4.5 billion of cash and intercompany notes available to repatriate and the remainder is invested in the operations of our foreign entities. The remaining amounts earned overseas are expected to be permanently reinvested outside of the United States. If the Company decides at a later date to repatriate these earnings to the U.S., the Company would be required to provide for the net tax effects on these amounts. The Company estimates that the total tax effect of this repatriation would not be significant under current enacted tax laws and regulations and at current currency exchange rates.
The following is a tabular reconciliation of the total amounts of unrecognized tax benefits (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Balance at January 1 | $ | 741.8 | $ | 685.5 | $ | 626.8 | ||||||
| Increases related to business combinations | - | - | 4.5 | |||||||||
| Increases related to prior periods | 75.3 | 24.7 | 34.6 | |||||||||
| Decreases related to prior periods | (158.3 | ) | (35.6 | ) | (14.4 | ) | ||||||
| Increases related to current period | 3.4 | 133.2 | 41.9 | |||||||||
| Decreases related to settlements with taxing authorities | (14.6 | ) | (60.2 | ) | (3.8 | ) | ||||||
| Decreases related to lapse of statute of limitations | (28.2 | ) | (5.8 | ) | (4.1 | ) | ||||||
| Balance at December 31 | $ | 619.4 | $ | 741.8 | $ | 685.5 | ||||||
| Amounts impacting effective tax rate, if recognized balance at December 31 | $ | 473.9 | $ | 599.2 | $ | 549.1 |
We recognize accrued interest and penalties related to unrecognized tax benefits as income tax expense. During 2020, we released interest and penalties of $1.7 million, and as of December 31, 2020, had a recognized liability for interest and penalties of $107.5 million, which does not include any increase related to business combinations.
During 2019, we accrued interest and penalties of $15.0 million, and as of December 31, 2019, had a recognized liability for interest and penalties of $109.2 million, which does not include any increase related to business combinations. During 2018, we accrued interest and penalties of $18.5 million, and as of December 31, 2018, had a recognized liability for interest and penalties of $94.2 million, which does not include any increase related to business combinations.
We operate on a global basis and are subject to numerous and complex tax laws and regulations. Additionally, tax laws have and continue to undergo rapid changes in both application and interpretation by various countries, including state aid interpretations and the Organization for Economic Cooperation and Development led initiatives. Our income tax filings are subject to examinations by taxing authorities throughout the world. Income tax audits may require an extended period of time to reach resolution and may result in significant income tax adjustments when interpretation of tax laws or allocation of company profits is disputed. Although ultimate timing is uncertain, the net amount of tax liability for unrecognized tax benefits may change within the next twelve months due to changes in audit status, expiration of statutes of limitations, settlements of tax assessments and other events. Management’s best estimate of such change is within the range of a $260 million decrease to a $20 million increase.
We are under continuous audit by the Internal Revenue Service (“IRS”) and other taxing authorities. During the course of these audits, we receive proposed adjustments from taxing authorities that may be material. Therefore, there is a possibility that an adverse outcome in these audits could have a material effect on our results of operations and financial condition. Our U.S. Federal income tax returns have been audited through 2012 and are currently under audit for years 2013-2015 and 2016-2019. The IRS started a routine examination of our 2016-2019 U.S. Federal income tax returns in November 2020.
In October 2020, we reached agreement with the IRS for tax years 2006-2012 related to the reallocation of profits between the U.S. and Puerto Rico as well as other miscellaneous adjustments.
The IRS has proposed adjustments for tax years 2010-2012, primarily related to reallocating profits between certain of our U.S. and foreign subsidiaries, which remain unsettled. We have disputed these adjustments and intend to continue to vigorously defend our positions as we pursue resolution through the administrative process with the IRS Independent Office of Appeals.
In December 2020, we received a revised Notice of Proposed Adjustment (“NOPA”) from the IRS for 2013-2015 relating to transfer pricing involving our cost sharing agreement between the U.S. and Switzerland affiliated companies and reallocating profits between certain of our U.S. and foreign subsidiaries. The revised NOPA related to the cost sharing agreement proposes an increase to our U.S. Federal taxable income, which would result in additional tax expense related to 2013 of approximately $370 million, subject to interest and penalties. We strongly believe that the position of the IRS, with regard to this matter, is inconsistent with the applicable U.S. Treasury regulations governing our cost sharing agreement. We do not expect changes to our reserves relative to these matters within the next twelve months. We intend to vigorously contest the revised NOPA, and we will pursue all available administrative and, if necessary, judicial remedies. If we pursue judicial remedies in the U.S. Tax Court for years 2013-2015, a number of years will likely elapse before such matters are finally resolved. No payment of any amount related to the revised NOPA is required to be made, if at all, until all applicable proceedings have been completed. We believe the tax liability we have accrued is correct given the revised NOPA received.
State income tax returns are generally subject to examination for a period of 3 to 5 years after filing of the respective return. The state impact of any federal changes generally remains subject to examination by various states for a period of up to one year after formal notification to the states. We have various state income tax return positions in the process of examination, administrative appeals or litigation.
In other major jurisdictions, open years are generally 2012 or later.
| 18. | Capital Stock and Earnings per Share |
|---|
We are authorized to issue 250.0 million shares of preferred stock, none of which were issued or outstanding as of December 31, 2020.
The numerator for both basic and diluted earnings per share is net earnings available to common stockholders. The denominator for basic earnings per share is the weighted average number of common shares outstanding during the period. The denominator for diluted earnings per share is weighted average shares outstanding adjusted for the effect of dilutive stock options and other equity awards. The following is a reconciliation of weighted average shares for the basic and diluted share computations (in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Weighted average shares outstanding for basic net earnings per share | 207.0 | 205.1 | 203.5 | |||||||||
| Effect of dilutive stock options and other equity awards | - | 1.6 | - | |||||||||
| Weighted average shares outstanding for diluted net earnings per share | 207.0 | 206.7 | 203.5 |
Since we incurred a net loss in the years ended December 31, 2020 and 2018, no dilutive stock options or other equity awards were included as diluted shares. For the year ended December 31, 2019, an average of 0.9 million options to purchase shares of common stock were not included in the computation of diluted earnings per share as the exercise prices of these options were greater than the average market price of the common stock.
19.Segment Data
We design, manufacture and market orthopedic reconstructive products; sports medicine, biologics, extremities and trauma products; spine, craniomaxillofacial and thoracic products (“CMFT”); office based technologies; dental implants; and related surgical products. Due to the 2019 Restructuring Plan that was initiated in late 2019, our operating segments have changed beginning in the first quarter of 2020. Our chief operating decision maker (“CODM”) now allocates resources to achieve our operating profit goals through three operating segments. These operating segments, which also constitute our reportable segments, are Americas and Global Businesses; EMEA; and Asia Pacific. Previously, we had seven operating segments, which resulted in three reportable segments and four individually insignificant operating segments that were aggregated together and not considered a reportable segment.
Our CODM evaluates performance based upon segment operating profit exclusive of operating expenses pertaining to certain inventory and manufacturing-related charges, intangible asset amortization, goodwill and intangible asset impairment, restructuring and other cost reduction initiatives, quality remediation, acquisition, integration and related, litigation, litigation settlement gain, certain European Union Medical Device Regulation expenses, other charges and corporate functions. Corporate functions include corporate legal, finance, information technology, human resources and other corporate departments as well as stock-based compensation. Intercompany transactions have been eliminated from segment operating profit.
Our Americas and Global Businesses operating segment is comprised principally of the U.S. and includes other North, Central and South American markets for all of our product categories as well as the global results for our Dental products division. This segment also includes our global manufacturing operations for all product categories and research, development engineering, medical education, and brand management for our global product category headquarter locations. Our EMEA operating segment is comprised principally of Europe and includes the Middle East and African markets for all product categories except Dental. Our Asia Pacific operating segment is comprised principally of Japan, China and Australia and includes other Asian and Pacific markets for all product categories except Dental. The EMEA and Asia Pacific operating segments include the commercial operations as well as regional headquarter expenses to operate in those markets.
Since the Americas and Global Businesses includes additional costs related to global manufacturing operations and other centralized global product category headquarter expenses, profitability metrics in this operating segment are not comparable to the EMEA and Asia Pacific operating segments.
Our CODM does not review asset information by operating segment. Instead, our CODM reviews cash flow and other financial ratios by operating segment.
Prior period reportable segment financial information has been reclassified to conform to our new reportable segments.
Net sales and other information by segment is as follows (in millions):
| Net Sales | Operating (Loss) Profit | Depreciation and Amortization | |||||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Year Ended December 31, | Year Ended December 31, | Year Ended December 31, | |||||||||||||||||||||||||||||||||||
| 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | 2020 | 2019 | 2018 | |||||||||||||||||||||||||||||
| Americas and Global Businesses | $ | 4,479.0 | $ | 5,035.3 | $ | 5,000.4 | $ | 1,316.9 | $ | 1,689.7 | $ | 1,706.9 | $ | 168.1 | $ | 162.0 | $ | 175.0 | |||||||||||||||||||
| EMEA | 1,288.6 | 1,623.1 | 1,669.5 | 308.9 | 484.0 | 480.7 | 77.5 | 77.0 | 75.5 | ||||||||||||||||||||||||||||
| Asia Pacific | 1,256.9 | 1,323.8 | 1,263.0 | 420.5 | 472.7 | 431.9 | 71.3 | 65.3 | 66.8 | ||||||||||||||||||||||||||||
| Total | $ | 7,024.5 | $ | 7,982.2 | $ | 7,932.9 | |||||||||||||||||||||||||||||||
| Corporate Functions | (437.2 | ) | (457.9 | ) | (409.2 | ) | 118.2 | 117.5 | 127.3 | ||||||||||||||||||||||||||||
| Inventory and manufacturing-related charges | (54.2 | ) | (53.9 | ) | (32.5 | ) | - | - | - | ||||||||||||||||||||||||||||
| Intangible asset amortization | (597.6 | ) | (584.3 | ) | (595.9 | ) | 597.6 | 584.3 | 595.9 | ||||||||||||||||||||||||||||
| Goodwill and intangible asset impairment | (645.0 | ) | (70.1 | ) | (979.7 | ) | - | - | - | ||||||||||||||||||||||||||||
| Restructuring and other cost reduction initiatives | (116.9 | ) | (50.0 | ) | (34.2 | ) | - | - | - | ||||||||||||||||||||||||||||
| Quality remediation | (49.8 | ) | (87.6 | ) | (165.4 | ) | - | - | - | ||||||||||||||||||||||||||||
| Acquisition, integration and related | (23.8 | ) | (12.2 | ) | (99.5 | ) | - | - | - | ||||||||||||||||||||||||||||
| Litigation | (159.8 | ) | (65.0 | ) | (186.0 | ) | - | - | - | ||||||||||||||||||||||||||||
| Litigation settlement gain | - | 23.5 | - | - | - | - | |||||||||||||||||||||||||||||||
| European Union Medical Device Regulation | (25.3 | ) | (30.9 | ) | (3.7 | ) | - | - | - | ||||||||||||||||||||||||||||
| Other charges | (24.5 | ) | (120.5 | ) | (79.6 | ) | - | - | - | ||||||||||||||||||||||||||||
| Total | $ | (87.8 | ) | $ | 1,137.5 | $ | 33.8 | $ | 1,032.7 | $ | 1,006.1 | $ | 1,040.5 |
We conduct business in the following countries that hold 10 percent or more of our total consolidated Property, plant and equipment, net (in millions):
| As of December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||
| United States | $ | 1,252.6 | $ | 1,295.0 | ||||
| Other countries | 795.1 | 782.4 | ||||||
| Property, plant and equipment, net | $ | 2,047.7 | $ | 2,077.4 |
U.S. sales were $4,123.5 million, $4,592.1 million, and $4,560.0 million for the years ended December 31, 2020, 2019 and 2018, respectively. Sales within any other individual country were less than 10 percent of our consolidated sales in each of those years. Sales are attributable to a country based upon the customer's country of domicile.
| 20**.** | Leases |
|---|
We own most of our manufacturing facilities, but lease various office space, vehicles and other less significant assets throughout the world. Our contracts contain a lease if they convey a right to control the use of an identified asset, either explicitly or implicitly, in exchange for consideration. As allowed by GAAP, we have elected not to recognize a right-of-use asset nor a lease liability for leases with an initial term of twelve months or less. Additionally, we have elected not to separate non-lease components from the leased components in the valuation of our right-of-use asset and lease liability for all asset classes. Our lease contracts are a necessary part of our business, but we do not believe they are significant to our overall operations. We do not have any significant finance leases. Additionally, we do not have significant leases: where we are considered a lessor; where we sublease our assets; with an initial term of twelve months or less; with related parties; with residual value guarantees; that impose restrictions or covenants on us; or that have not yet commenced, but create significant rights and obligations against us.
Our real estate leases generally have terms of between 5 to 10 years and contain lease extension options that can vary from month-to-month extensions to up to 5 year extensions. We include extension options in our lease term if we are reasonably certain to exercise that option. In determining whether an extension is reasonably certain, we consider the uniqueness of the property for our needs, the availability of similar properties, whether the extension period payments remain the same or may change due to market rates or fixed price increases in the contract, and other economic factors. Our vehicle leases generally have terms of between 3 to 5 years and contain lease extension options on a month-to-month basis. Our vehicle leases are generally not reasonably certain to be extended.
Under GAAP, we are required to discount our lease liabilities to present value using the rate implicit in the lease, or our incremental borrowing rate for a similar term as the lease term if the implicit rate is not readily available. We generally do not have adequate information to know the implicit rate in a lease and therefore use our incremental borrowing rate. Under GAAP, the incremental borrowing rate must be on a collateralized basis, but our debt arrangements are unsecured. We have determined our incremental borrowing rate by using our credit rating to estimate our unsecured borrowing rate and applying reasonable assumptions to reduce the unsecured rate for a risk adjustment effect from collateral.
We adopted ASU 2016-02 – Leases (Topic 842) effective January 1, 2019. Since we adopted the new standard using the period of adoption transition method, we are not required to present 2018 comparative disclosures under the new standard. However, we are required to present the required annual disclosures under the previous GAAP lease accounting standard.
Information on our leases is as follows ($ in millions):
| For the Years Ended December 31, | ||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | 2018 | ||||||||||
| Lease cost | $ | 83.7 | $ | 76.0 | $ | 72.2 | ||||||
| Cash paid for leases recognized in operating cash flows | $ | 81.4 | $ | 73.6 | ||||||||
| Right-of-use assets obtained in exchange for new lease liabilities | $ | 83.5 | $ | 55.0 |
| As of December 31, | ||||||||||
|---|---|---|---|---|---|---|---|---|---|---|
| 2020 | 2019 | |||||||||
| Right-of-use assets recognized in Other assets | $ | 274.5 | $ | 266.7 | ||||||
| Lease liabilities recognized in Other current liabilities | $ | 75.0 | $ | 64.2 | ||||||
| Lease liabilities recognized in Other long-term liabilities | $ | 217.8 | $ | 215.5 | ||||||
| Weighted-average remaining lease term | 5.8 years | 6.3 years | ||||||||
| Weighted-average discount rate | 2.3 | % | 2.7 | % |
Our variable lease costs are not significant.
Our future minimum lease payments as of December 31, 2020 were (in millions):
| For the Years Ending December 31, | ||||||||
|---|---|---|---|---|---|---|---|---|
| 2021 | $ | 80.2 | ||||||
| 2022 | 59.1 | |||||||
| 2023 | 45.9 | |||||||
| 2024 | 37.0 | |||||||
| 2025 | 28.0 | |||||||
| Thereafter | 63.7 | |||||||
| Total | 313.9 | |||||||
| Less imputed interest | 21.1 | |||||||
| Total | $ | 292.8 |
| 21. | Commitments and Contingencies |
|---|
On a quarterly and annual basis, we review relevant information with respect to loss contingencies and update our accruals, disclosures and estimates of reasonably possible losses or ranges of loss based on such reviews. We establish liabilities for loss contingencies when it is probable that a loss has been incurred and the amount of the loss can be reasonably estimated. For matters where a loss is believed to be reasonably possible, but not probable, no accrual has been made.
Litigation
Durom Cup-related claims: On July 22, 2008, we temporarily suspended marketing and distribution of the Durom Cup in the U.S. Subsequently, a number of product liability lawsuits were filed against us in various U.S. and foreign jurisdictions. The plaintiffs seek damages for personal injury, and they generally allege that the Durom Cup contains defects that result in complications and premature revision of the device. We have settled the majority of these claims and others are still pending. The majority of the pending U.S. lawsuits are currently in a federal Multidistrict Litigation (“MDL”) in the District of New Jersey (In Re: Zimmer Durom Hip Cup Products Liability Litigation). Litigation activity in the MDL is stayed pending finalization of the U.S. Durom Cup Settlement Program, an extrajudicial program created to resolve actions and claims of eligible U.S. plaintiffs and claimants. Other lawsuits are pending in various domestic and foreign jurisdictions, and additional claims may be asserted in the future. The majority of claims outside the U.S. are pending in Germany, Netherlands and Italy.
Our estimate as of December 31, 2020 of the remaining liability for all Durom Cup-related claims, including estimated legal fees, is $51.2 million. We expect to pay the majority of the Durom Cup-related claims within the next few years.
Our understanding of clinical outcomes with the Durom Cup and other large diameter hip cups continues to evolve. We rely on significant estimates in determining the provisions for Durom Cup-related claims, including our estimate of the number of claims that we will receive and the average amount we will pay per claim. The actual number of claims and the actual amount we pay per claim may differ from our estimates. Among other factors, since our understanding of the clinical outcomes is still evolving, we cannot reasonably estimate the possible loss or range of loss that may result from Durom Cup-related claims in excess of the losses we have accrued. Although we are vigorously defending these lawsuits, their ultimate resolution is uncertain.
Zimmer M/L Taper, M/L Taper with Kinectiv Technology, and Versys Femoral Head-related claims (“Metal Reaction” claims): We are a defendant in a number of product liability lawsuits relating to our M/L Taper and M/L Taper with Kinectiv Technology hip stems, and Versys Femoral Head implants. The plaintiffs seek damages for personal injury, alleging that defects in the products lead to corrosion at the head/stem junction resulting in, among other things, pain, inflammation and revision surgery.
The majority of the cases are consolidated in an MDL that was created on October 3, 2018 in the U.S. District Court for the Southern District of New York (In Re: Zimmer M/L Taper Hip Prosthesis or M/L Taper Hip Prosthesis with Kinectiv Technology and Versys Femoral Head Products Liability Litigation). Other related cases are pending in various state and federal courts. Additional lawsuits are likely to be filed. Following higher than expected filings and an extension of the MDL schedule given the COVID-19 pandemic, we increased our estimate of the number of Metal Reaction-related claims that we expect to litigate in the future, resulting in additional litigation-related expense in the year ended December 31, 2020. Our estimate as of December 31, 2020 of the remaining liability for all Metal Reaction-related claims, including our estimated legal fees, is $55.7 million. Although we are vigorously defending these lawsuits, their ultimate resolution is uncertain.
Biomet metal-on-metal hip implant claims: Biomet is a defendant in a number of product liability lawsuits relating to metal-on-metal hip implants, most of which involve the M2a-Magnum hip system. Cases are currently consolidated in an MDL in the U.S. District Court for the Northern District of Indiana (In Re: Biomet M2a Magnum Hip Implant Product Liability Litigation) and in various state, federal and foreign courts, with the majority of domestic state court cases pending in Indiana and Florida.
On February 3, 2014, Biomet announced the settlement of the MDL. Lawsuits filed in the MDL by April 15, 2014 were eligible to participate in the settlement. Those claims that did not settle via the MDL settlement program have re-commenced litigation in the MDL under a new case management plan, or have been or are in the process of being remanded to their originating jurisdictions. The settlement does not affect certain other claims relating to Biomet’s metal-on-metal hip products that are pending in various state and foreign courts, or other claims that may be filed in the future. Trials have commenced, and other trials are currently scheduled to occur in the future. Although each trial will be tried on its particular facts, a verdict and subsequent final judgment for the plaintiff in one or more of these cases could have a substantial impact on our potential liability. We continue to refine our estimates of the potential liability to resolve the remaining claims and lawsuits and recognized additional litigation-related expense in the year ended December 31, 2020. Our estimate as of December 31, 2020 of the remaining liability for all Biomet metal-on-metal hip implant claims, including estimated legal fees, is $99.0 million. Although we are vigorously defending these lawsuits, their ultimate resolution is uncertain.
Heraeus trade secret misappropriation lawsuits: In December 2008, Heraeus Kulzer GmbH (together with its affiliates, “Heraeus”) initiated legal proceedings in Germany against Biomet, Inc., Biomet Europe BV (now Zimmer Biomet Nederland BV), certain other entities and certain employees alleging that the defendants misappropriated Heraeus trade secrets when developing Biomet Europe’s Refobacin and Biomet Bone Cement line of cements (“European Cements”). The lawsuit sought to preclude the defendants from producing, marketing and offering for sale their then-current line of European Cements and to compensate Heraeus for any damages incurred.
Germany: On June 5, 2014, the German appeals court in Frankfurt (i) enjoined Biomet, Inc., Biomet Europe BV and Biomet Deutschland GmbH from manufacturing, selling or offering the European Cements to the extent they contain certain raw materials in particular specifications; (ii) held the defendants jointly and severally liable to Heraeus for any damages from the sale of European Cements since 2005; and (iii) ruled that no further review may be sought (the “Frankfurt Decision”). The Heraeus and Biomet parties both sought appeal against the Frankfurt Decision. In a decision dated June 16, 2016, the German Supreme Court dismissed the parties’ appeals without reaching the merits, rendering that decision final
In December 2016, Heraeus filed papers to restart proceedings against Biomet Orthopaedics Switzerland GmbH (now Zimmer GmbH), seeking to require that entity to relinquish its CE certificates for the European Cements. In January 2017, Heraeus notified Biomet it had filed a claim for damages in the amount of €121.9 million for sales in Germany, which it first increased to €125.9 million and with a filing in June 2019 further increased to €146.7 million plus statutory interest. In a court filing, Heraeus indicated that it might further increase its claims in the course of the proceedings. As of December 31, 2020, these two proceedings remained pending in front of the Darmstadt court. In September 2017, Heraeus filed an enforcement action in the Darmstadt court against Biomet Europe, requesting that a fine be imposed against Biomet Europe for failure to disclose the amount of the European Cements which Biomet Orthopaedics Switzerland had ordered to be manufactured in Germany (e.g., for the Chinese market). In June 2018, the Darmstadt court dismissed Heraeus’ request. Heraeus appealed the decision. Also in September 2017, Heraeus filed suit against Zimmer Biomet Deutschland in the court of first instance in Freiburg
concerning the sale of the European Cements with certain changed raw materials. Heraeus sought an injunction on the basis that the continued use of the product names for the European Cements was misleading for customers and thus an act of unfair competition. On June 29, 2018, the court in Freiburg, Germany dismissed Heraeus’ request for an injunction prohibiting the marketing of the European Cements under their current names on the grounds that the same request had already been decided upon by the Frankfurt Decision which became final and binding. Heraeus appealed this decision to the Court of Appeals in Karlsruhe, Germany. The appeals hearing occurred in December 2019 and on June 19, 2020, the court dismissed the appeal on different grounds, namely that the appeals court did not find any unfair competition in the continued use of the product names. Although the appeals court did not grant leave to appeal, Heraeus had initially filed a request for appeal with the German Supreme Court, but it withdrew that request in November 2020.
United States: On September 8, 2014, Heraeus filed a complaint against a Biomet supplier, Esschem, Inc. (“Esschem”), in the U.S. District Court for the Eastern District of Pennsylvania. The lawsuit contained allegations that focused on two copolymer compounds that Esschem sold to Biomet, which Biomet incorporated into certain bone cement products that compete with Heraeus’ bone cement products. The complaint alleged that Biomet helped Esschem to develop these copolymers, using Heraeus trade secrets that Biomet allegedly misappropriated. The complaint asserted a claim under the Pennsylvania Uniform Trade Secrets Act, as well as other various common law tort claims, all based upon the same trade secret misappropriation theory. Heraeus sought to enjoin Esschem from supplying the copolymers to any third party and actual damages. The complaint also sought punitive damages, costs and attorneys’ fees. Although Biomet was not a party to this lawsuit, Biomet agreed, at Esschem’s request and subject to certain limitations, to indemnify Esschem for any liability, damages and legal costs related to this matter. On November 3, 2014, the court entered an order denying Heraeus’ motion for a temporary restraining order. On June 30, 2016, the court entered an order denying Heraeus’ request to give preclusive effect to the factual findings in the Frankfurt Decision. On June 6, 2017, the court entered an order denying Heraeus’ motion to add Biomet as a party to the lawsuit. On January 26, 2018, the court entered an order granting Esschem’s motion for summary judgment and dismissed all of Heraeus’ claims with prejudice. On February 21, 2018, Heraeus filed a notice of appeal to the U.S. Court of Appeals for the Third Circuit, which heard oral argument on the appeal on October 23, 2018. On June 21, 2019, the Third Circuit partially reversed the decision of the U.S. District Court for the Eastern District of Pennsylvania granting Esschem summary judgment and remanded the case back to the lower court. On July 5, 2019, Esschem filed a petition in the Third Circuit for rehearing en banc and a motion in the alternative to certify a question of state law to the Supreme Court of Pennsylvania, which was denied on August 1, 2019. On January 8, 2021, the court entered a scheduling order for the completion of fact and expert discovery and filing of dispositive motions but did not set a trial date.
On December 7, 2017, Heraeus filed a complaint against Zimmer Biomet Holdings, Inc. and Biomet, Inc. in the U.S. District Court for the Eastern District of Pennsylvania alleging a single claim of trade secret misappropriation under the Pennsylvania Uniform Trade Secrets Act based on the same factual allegations as the Esschem litigation. On March 5, 2018, Heraeus filed an amended complaint adding a second claim of trade secret misappropriation under Pennsylvania common law. Heraeus seeks to enjoin the Zimmer Biomet parties from future use of the allegedly misappropriated trade secrets and recovery of unspecified damages for alleged past use. On April 18, 2018, the Zimmer Biomet parties filed a motion to dismiss both claims. On March 8, 2019, the court stayed the case pending the Third Circuit’s decision in the Esschem case described above. In September 2019, the Zimmer Biomet parties filed a motion to stay the proceedings pending (1) the court’s decision on Esschem’s motion for summary judgment in the Esschem case described above and (2) the outcome of the U.S. International Trade Commission complaint filed by Heraeus asserting similar claims, described below under “Regulatory Matters, Government Investigations and Other Matters.” On May 2, 2020, the court granted the Zimmer Biomet parties’ motion to stay the proceedings pending the outcome of the U.S. International Trade Commission complaint filed by Heraeus.
Other European Countries: Heraeus continues to pursue other related legal proceedings in Europe seeking various forms of relief, including injunctive relief and damages, against various Biomet-related and local Zimmer Biomet entities relating to the European Cements, including those described herein. On October 2, 2018, the Belgian Court of Appeal of Mons issued a judgment in favor of Heraeus relating to its request for past damages caused by the alleged misappropriation of its trade secrets, and an injunction preventing future sales of certain European Cements in Belgium (the “Belgian Decision”). We appealed this judgment to the Belgian Supreme Court. The Belgian Supreme Court dismissed our appeal in October 2019 and this decision is final. Proceedings to assess the amount of damages potentially owed to Heraeus under the Belgian Decision remain pending. Heraeus filed a suit in Belgium concerning the continued sale of the European Cements with certain changed materials. Like its former suit in Germany, Heraeus seeks an injunction on the basis that the continued use of the product names for the European Cements is misleading for customers and thus an act of unfair competition. On May 7, 2019, the Liège Commercial Court issued a judgment that Zimmer Biomet failed to inform its hospital and surgeon customers of the changes made to the composition of the cement with certain changed materials and ordered, as a sole remedy, that Zimmer Biomet send letters to those customers, which we have done. An appeals hearing took place on January 13, 2021
and a decision is pending. In November 2020, Heraeus also initiated proceedings in Belgium seeking an injunction and damages related to the distribution of the European Cements in its revised formulation. Heraeus claims that the revised formulation still misappropriates its alleged trade secrets. The proceedings are pending, and a decision is not expected in 2021.
On February 13, 2019, a Norwegian court of first instance issued a judgment in favor of Heraeus on its claim for misappropriation of trade secrets. The court awarded damages of 19,500,000 NOK, or approximately $2.3 million, plus attorneys’ fees, and issued an injunction, which is not final and thus not currently being enforced, preventing Zimmer Biomet Norway from marketing in Norway bone cements identified with the current product names and bone cements making use of the trade secrets which were acknowledged in the Frankfurt Decision. We have appealed the Norwegian judgment to the court of second instance. The appeals trial is scheduled for March 2021.
On October 29, 2019, an Italian court of first instance issued a judgment in favor of Heraeus on its claim of misappropriation of trade secrets, but did not yet order an award of damages. We filed a timely appeal of the decision. As of December 31, 2020, Heraeus had not initiated damages proceedings but indicated that it might do so in the future based on the non-final first instance decision.
On January 23, 2020, a Finnish Market Court issued a judgment partly in favor of Heraeus on its claim of misappropriation of certain trade secrets. Damage claims were not raised in the proceedings. We appealed the decision to the Finnish Supreme Court. On July 3, 2020, the Finnish Supreme Court declined to review the case, rendering the Market Court decision final. As of December 31, 2020, Heraeus had not yet initiated damages proceedings against us but has indicated it intends to do so.
Heraeus is pursuing damages and injunctive relief in France in an effort to prevent us from manufacturing, marketing and selling the European Cements (the “France Litigation”). The European Cements are manufactured at our facility in Valence, France. On December 11, 2018, a hearing was held in the France Litigation before the commercial court in Romans-sur-Isère. On May 23, 2019, the commercial court ruled in our favor. On July 12, 2019, Heraeus filed an appeal to the court of second instance in Grenoble, France. Although we are vigorously defending the France Litigation, the ultimate outcome is uncertain. An adverse ruling in the France Litigation could have a material adverse effect on our business, financial condition and results of operations.
We have accrued an estimated loss relating to the collective trade secret litigation, including estimated legal costs to defend. Damages relating to the Frankfurt Decision are subject to separate proceedings, and the Belgian court appointed an expert to determine the amount of damages related to the Belgian Decision. Thus, it is reasonably possible that our estimate of the loss we may incur may change in the future. Although we are vigorously defending these lawsuits, their ultimate resolution is uncertain.
Shareholder Derivative Actions: On June 14, 2019 and July 29, 2019, two shareholder derivative actions, Green v. Begley et al. and Detectives Endowment Association Annuity Fund v. Begley et al., were filed in the Court of Chancery in the State of Delaware. On October 2, 2019 and October 11, 2019, two additional shareholder derivative actions, Karp v. Begley et al. and DiGaudio v. Begley et al., were filed in the U.S. District Court for the District of Delaware. The plaintiff in each action seeks to maintain the action purportedly on our behalf against certain of our current and former directors and officers (the “individual defendants”) and certain former stockholders of ours who sold shares of our common stock in various secondary public offerings in 2016 (the “private equity fund defendants”). The plaintiff in each action alleges, among other things, breaches of fiduciary duties against the individual defendants and insider trading against two individual defendants and the private equity fund defendants based on factual allegations that the defendants violated federal securities laws by making materially false and/or misleading statements and/or omissions about our compliance with FDA regulations and our ability to continue to accelerate our organic revenue growth rate in the second half of 2016. On June 4, 2020, the plaintiffs in the Chancery Court actions filed a consolidated amended complaint adding three new counts and expanding the scope of the alleged material false statements. On September 14, 2020, the defendants filed motions to dismiss the Chancery Court actions. Also on September 14, 2020, the plaintiffs in the U.S. District Court actions filed a consolidated amended complaint adding certain details to their allegations. On October 9, 2020, the U.S. District Court granted the parties’ joint motion to stay the U.S. District Court actions pending resolution of the motions to dismiss the Chancery Court actions. The plaintiffs in the Chancery Court and the U.S. District Court actions do not seek damages from us, but instead request damages on our behalf from the defendants of an unspecified amount, as well as attorneys’ fees, costs and other relief.
Regulatory Matters, Government Investigations and Other Matters
U.S. International Trade Commission Investigation: On March 5, 2019, Heraeus filed a complaint with the U.S. International Trade Commission (“ITC”) against us and certain of our subsidiaries. The complaint alleges that Biomet misappropriated Heraeus’ trade secrets in the formulation and manufacture of two bone cement products now sold by Zimmer Biomet, both of which are imported from our Valence, France facility. Heraeus requested that the ITC institute an investigation and, after the investigation, issue a limited exclusion order and cease and desist orders. On April 5, 2019, the ITC ordered an investigation be instituted into whether we have committed an “unfair act” in the importation, sale for importation, or sale after importation of certain bone cement products, the threat or effect of which is to destroy or substantially injure an industry in the United States, in violation of Section 337 of the Tariff Act of 1930, as amended (“Section 337”). An evidentiary hearing in front of an administrative law judge at the ITC was held in January 2020 and an Initial Determination was issued on May 6, 2020. In the Initial Determination, the administrative law judge held that we did not violate Section 337, and thus we are not restricted from continuing to manufacture and sell the two challenged bone cement products in the United States. On July 13, 2020, the ITC issued notice of intent to review the Initial Determination and on January 12, 2021 it issued a Final Determination which affirmed the Initial Determination with modifications and terminated the investigation with a finding of no violation of Section 337. Heraeus has 60 days from the date of issuance to appeal the Final Determination to the United States Court of Appeals for the Federal Circuit. We cannot currently predict the ultimate outcome of this investigation after any appeals, but an adverse outcome in this ITC proceeding could have a material adverse effect on our business, financial condition and results of operations.
FDA warning letters: In September 2012, we received a warning letter from the FDA citing concerns relating to certain processes pertaining to products manufactured at our Ponce, Puerto Rico manufacturing facility. In September 2020, the FDA completed an inspection of the Ponce facility and issued no inspectional observations, and in November 2020, the FDA cleared the Ponce warning letter. In August 2018, we received a warning letter from the FDA related to observed non-conformities with current good manufacturing practice requirements of the QSR at our legacy Biomet manufacturing facility in Warsaw, Indiana (this facility is sometimes referred to in this report as the “Warsaw North Campus”). We have provided detailed responses to the FDA as to our corrective actions and will continue to work expeditiously to address the issues identified by the FDA during inspections in Warsaw. As of December 31, 2020, the Warsaw warning letter remained pending. Until the violations cited in the pending warning letter are corrected, we may be subject to additional regulatory action by the FDA, as described more fully below. Additionally, requests for Certificates to Foreign Governments may not be granted and premarket approval applications for Class III devices to which the QSR deviations are reasonably related will not be approved until the violations have been corrected. In addition to responding to the warning letter described above, we are in the process of addressing various FDA Form 483 inspectional observations at certain of our manufacturing facilities, including observations issued by the FDA following an inspection of the Warsaw North Campus in January 2020, which inspection the FDA has classified as Voluntary Action Indicated (“VAI”). The ultimate outcome of these matters is presently uncertain. Among other available regulatory actions, the FDA may impose operating restrictions, including a ceasing of operations, at one or more facilities, enjoining and restraining certain violations of applicable law pertaining to products, seizure of products and assessing civil or criminal penalties against our officers, employees or us. The FDA could also issue a corporate warning letter or a recidivist warning letter or negotiate the entry of a consent decree of permanent injunction with us. The FDA may also recommend prosecution by the DOJ. Any adverse regulatory action, depending on its magnitude, may restrict us from effectively manufacturing, marketing and selling our products and could have a material adverse effect on our business, financial condition and results of operations.
DPA relating to FCPA matters: In January 2017, we resolved previously-disclosed FCPA matters involving Biomet and certain of its subsidiaries. As part of the settlement, (i) Biomet resolved matters with the SEC through an administrative cease-and-desist order; (ii) we entered into a DPA with the DOJ; and (iii) an indirect, wholly-owned subsidiary of Biomet entered into a plea agreement with the DOJ. The conduct underlying these resolutions occurred prior to our acquisition of Biomet.
Under the DPA, the DOJ agreed to defer criminal prosecution of us in connection with a charged violation of the internal controls provisions of the FCPA as long as we complied with the terms of the DPA. In addition, we were subject to oversight by an independent compliance monitor. On July 17, 2020, the independent compliance monitor submitted a letter to the SEC and DOJ certifying that our compliance program, including its policies and procedures, is reasonably designed and implemented to prevent and detect violations of the FCPA and is functioning effectively. The monitorship concluded in August 2020. On February 9, 2021, the one-count criminal information filed against us in 2017 was dismissed with prejudice and the DPA concluded.
22.Subsequent Event
On February 5, 2021, we announced our intention to pursue a plan to spin off our Spine and Dental businesses to form NewCo. The planned transaction is intended to benefit our stockholders by enhancing the focus of both Zimmer Biomet and NewCo to meet the needs of patients and customers and, therefore, achieve faster growth and deliver greater value for all stakeholders. The transaction is intended to qualify as a tax-free distribution, for U.S. federal income tax purposes, to U.S. stockholders of new publicly traded stock in NewCo. We are targeting completion of the spin-off in mid-2022, subject to the satisfaction of certain conditions, including, among others, final approval of our Board of Directors, receipt of a favorable opinion and IRS ruling with respect to the tax-free nature of the transaction, and the effectiveness of a Form 10 registration statement with the SEC. Therefore, we cannot provide assurance that we will be able to complete the spin-off on the terms or on the timeline that we announced, or at all.
| 23. | Quarterly Financial Information (Unaudited) |
|---|
| (in millions, except per share data) | ||||||||||||||||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| 2020 Quarter Ended | 2019 Quarter Ended | |||||||||||||||||||||||||||||||
| Mar | Jun | Sep | Dec | Mar | Jun | Sep | Dec | |||||||||||||||||||||||||
| Net sales | $ | 1,783.8 | $ | 1,226.1 | $ | 1,929.3 | $ | 2,085.3 | $ | 1,975.5 | $ | 1,988.6 | $ | 1,892.4 | $ | 2,125.7 | ||||||||||||||||
| Gross profit | 1,149.1 | 653.9 | 1,210.2 | 1,285.4 | 1,278.7 | 1,260.4 | 1,210.1 | 1,396.1 | ||||||||||||||||||||||||
| Net (loss) earnings of Zimmer Biomet Holdings, Inc. | (508.5 | ) | (206.6 | ) | 242.5 | 333.7 | 246.1 | 133.7 | 431.1 | 320.7 | ||||||||||||||||||||||
| (Loss) earnings per common share | ||||||||||||||||||||||||||||||||
| Basic | (2.46 | ) | (1.00 | ) | 1.17 | 1.61 | 1.20 | 0.65 | 2.10 | 1.56 | ||||||||||||||||||||||
| Diluted | (2.46 | ) | (1.00 | ) | 1.16 | 1.59 | 1.20 | 0.65 | 2.08 | 1.54 |
In the three-month period ended March 31, 2020, we recorded goodwill impairment charges of $612.0 million.
Net sales in the three-month period ended December 31, 2020 include the benefit of expanded strategic sales, favorable bulk orders and shipment timing.
The TRAF has had a significant impact on our net (loss) earnings in certain quarters. See Note 17 for further discussion on the quarterly impacts of TRAF.
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