BOSTON SCIENTIFIC CORPORATION The following discussion and analysis provides information management believes to be relevant to understanding the financial condition and results of operations ofBoston Scientific Corporation and its subsidiaries. For a full understanding of our financial condition and results of operations, this discussion should be read in conjunction with our consolidated financial statements and accompanying notes included in Item 8. Financial Statements and Supplementary Data of this Annual Report. For additional information on our financial condition and results of operations for 2017, refer to our Annual Report on Form 10-K for the year endedDecember 31, 2018 . During the third quarter of 2019, we completed the acquisition ofBTG plc (BTG) which was composed of three key businesses, the largest of which was its interventional medicine (Interventional Medicine) that encompasses interventional oncology therapeutic technologies for patients with liver and kidney cancers, as well as a vascular portfolio for treatment of deep vein thrombosis, pulmonary embolism, deep venous obstruction and superficial venous disease. Following the closing of the acquisition, the Interventional Medicine business was integrated into our Peripheral Interventions division. For additional information, refer to Note B - Acquisitions and Strategic Investments. Executive Summary Financial Highlights and Trends In 2019, we generated net sales of$10.735 billion , as compared to$9.823 billion in 2018. This increase of$912 million , or 9.3 percent, included operational growth of 11.1 percent and the negative impact of 180 basis points from foreign currency fluctuations. Operational net sales1 included$378 million in 2019 due to the acquisitions ofNxThera, Inc. (NxThera ) in the second quarter of 2018,Claret Medical, Inc. (Claret) in the third quarter of 2018,Augmenix, Inc. (Augmenix ) in the fourth quarter of 2018,Vertiflex, Inc. (Vertiflex ) in the second quarter of 2019, and BTG in the third quarter of 2019, each with less than a full year of prior period related net sales. Refer to the Business and Market Overview section for further discussion of our net sales by global business. Our reported net income in 2019 was$4.700 billion , or$3.33 per diluted share. Our reported results for 2019 included certain charges and/or credits totaling$2.466 billion (after-tax), or$1.75 per diluted share. These adjustments are excluded from results reviewed by management in order to analyze the underlying trends in our business, assess our performance period over period, and make operating decisions. Excluding these items, adjusted net income1 for 2019 was$2.234 billion , or$1.58 per diluted share. Our reported net income in 2018 was$1.671 billion , or$1.19 per diluted share. Our reported results for 2018 included certain charges and/or credits totaling$389 million (after-tax), or$0.28 per diluted share. Excluding these items, adjusted net income for 2018 was$2.060 billion , or$1.47 per diluted share. 1 Operational net sales growth rates, which exclude the impact of foreign currency fluctuations and adjusted net income and adjusted net income per share, which exclude certain items required by generally accepted accounting principles inthe United States (U.S. GAAP), are not prepared in accordance withU.S. GAAP and should not be considered in isolation from, or as a replacement for, the most directly comparable GAAP measure. Refer to Additional Information for a discussion of management's use of these non-GAAP financial measures.
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The following is a reconciliation of our results of operations prepared in
accordance with
Year Ended December 31, 2019
(in millions, except per share data) Net Income (Loss) Impact per Share
GAAP net income (loss) $ 4,700 $ 3.33
Non-GAAP adjustments:
Amortization expense 628 0.44
Intangible asset impairment charges 102 0.07
Acquisition/divestiture-related net charges
(credits) 672 0.48
Restructuring and restructuring-related net
charges (credits) 68 0.05
Litigation-related net charges (credits) 72 0.05
Investment impairment charges 3 0.00
EU MDR implementation charges 5 0.00
Debt extinguishment net charges (credits) 67 0.05
Deferred tax expenses (benefits) (4,102 ) (2.91 )
Discrete tax items 18 0.01
Adjusted net income $ 2,234 $ 1.58
Year Ended December 31, 2018
(in millions, except per share data) Net Income (Loss) Impact per Share
GAAP net income (loss) $ 1,671 $ 1.19
Non-GAAP adjustments:
Amortization expense 520 0.37
Intangible asset impairment charges 31 0.02
Acquisition-related net charges (credits) 5 0.00
Restructuring and restructuring-related net
charges (credits) 77 0.05
Litigation-related net charges (credits) 79 0.06
Investment impairment charges 6 0.00
Discrete tax items (328 ) (0.23 )
Adjusted net income $ 2,060 $ 1.47
Cash provided by operating activities was
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Business and Market Overview
The following section describes an overview of our product offerings and results of operations by business unit. For additional information on our businesses and their product offerings, see Item 1. Business of this Annual Report. Our seven core businesses are organized into three reportable segments: MedSurg, Rhythm and Neuro, and Cardiovascular. Following our acquisition of BTG, which closed during the third quarter of 2019, we have included BTG's Interventional Medicine business within our Peripheral Interventions operating segment, within the Cardiovascular reportable segment. We presentBTG's Specialty Pharmaceuticals business as a standalone operating segment alongside our reportable segments. MedSurg Endoscopy Our Endoscopy business develops and manufactures devices to diagnose and treat a broad range of gastrointestinal (GI) and pulmonary conditions with innovative, less invasive technologies. Our net sales of Endoscopy products of$1.894 billion represented 18 percent of our consolidated net sales in 2019. Our Endoscopy net sales increased$132 million , or 7.5 percent, in 2019, as compared to 2018. This increase included operational net sales growth of 9.2 percent and the negative impact of 170 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily driven by growth in our pancreaticobiliary franchise with both our SpyGlass™ DS II Direct Visualization System, AXIOS™ Stent and Electrocautery Enhanced Delivery System, our core GI franchise featuring our Resolution 360™ Clip, disposable snares and Endoluminal Surgery products, and our infection prevention products.
Our
Our net sales ofUrology and Pelvic Health products of$1.413 billion represented 13 percent of our consolidated net sales in 2019.Urology and Pelvic Health net sales increased$167 million , or 13.4 percent, in 2019, as compared to 2018. This increase included operational net sales growth of 14.7 percent and the negative impact of 130 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily attributable to growth in sales of our prostate health product family, including the SpaceOAR™ Hydrogel System purchased as part of the acquisition ofAugmenix in the fourth quarter of 2018 and the Rezûm™ System purchased as part of the acquisition ofNxThera in the second quarter of 2018, as well as our stone franchise, including our LithoVue™ Digital Flexible Ureteroscope.
Rhythm and Neuro
Cardiac Rhythm Management
Our Cardiac Rhythm Management (CRM) business develops and manufactures a variety of implantable devices that monitor the heart and deliver electricity to treat cardiac abnormalities. Our net sales of CRM products of$1.939 billion represented 18 percent of our consolidated net sales in 2019. Our net sales of CRM products decreased$12 million , or 0.6 percent, in 2019, as compared to 2018. This decrease included operational net sales growth of 1.2 percent and the negative impact of 180 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase in operational net sales was driven by share gains in our high voltage franchise. Our high voltage performance was driven by the strength of our broad high voltage portfolio including the RESONATE™ family of cardiac resynchronization therapy defibrillator (CRT-D) and implantable cardiac defibrillator's (ICD) with HeartLogic™, our EMBLEM™ magnetic resonance imaging (MRI) subcutaneous implantable cardiac defibrillator (S-ICD), and high voltage replacement device growth. This strength in our high voltage pacemaker franchise was partially offset by declines in our low voltage pacemaker franchise primarily due toU.S. pacemaker share loss.
Electrophysiology
Our Electrophysiology business develops and manufactures less-invasive medical
technologies used in the diagnosis and treatment of rate and rhythm disorders of
the heart.
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Our net sales of Electrophysiology products of$329 million represented three percent of our consolidated net sales in 2019. Our Electrophysiology net sales increased$17 million , or 5.5 percent, in 2019, as compared to 2018. This increase included operational net sales growth of 7.5 percent and the negative impact of 200 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily driven by strong growth across our global Rhythmia™ Mapping and Navigation Products, partially offset by declines in our core diagnostic and therapeutic devices due to relatively slower end markets and share loss in select product categories. Our Rhythmia Mapping System and navigation portfolio growth was driven by the continued account expansion of our global system footprint and commercialization of our IntellaNav MiFi™ Open-Irrigated catheter and DIRECTSENSE™ Software in approved markets.
Neuromodulation
Our Neuromodulation business develops and manufactures devices to treat various neurological movement disorders and manage chronic pain.
Our net sales of Neuromodulation products of$873 million represented eight percent of our consolidated net sales in 2019. Neuromodulation net sales increased$94 million , or 12.0 percent, in 2019, as compared to 2018. This increase included operational net sales growth of 13.1 percent and the negative impact of 110 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily driven by strong performance of our deep brain stimulation (DBS) systems, sales of our Superion™ Indirect Decompression System following the acquisition ofVertiflex in the second quarter of 2019, and sales in international markets; partially offset by declines in ourU.S. Spinal Cord Stimulator (SCS) Systems portfolio due to market contraction. Cardiovascular Interventional Cardiology
Our Interventional Cardiology business develops, manufactures and commercializes technologies for diagnosing and treating coronary artery disease and other cardiovascular disorders including structural heart conditions.
Our net sales of Interventional Cardiology products of$2.816 billion represented 26 percent of our consolidated net sales in 2019. Our Interventional Cardiology net sales increased$226 million , or 8.7 percent, in 2019, as compared to 2018. This increase included operational net sales growth of 11.0 percent and the negative impact of 230 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily related to growth in our structural heart therapies including our Watchman™ LAAC Device, our TAVR products including our ACURATE™ Neo Valve outside theU.S. and LOTUS™ Edge Valve as well as our Sentinel™ Cerebral Embolic Protection System. Our year-over-year sales increase was also attributable to our Complex PCI and PCI Guidance product offerings, partially offset by declines in sales of drug eluting stent product offerings.
Peripheral Interventions
Our Peripheral Interventions business develops and manufactures products to diagnose and treat peripheral arterial and venous diseases, as well as products to diagnose, treat and ease various forms of cancer. In the third quarter of 2019, we completed the acquisition of BTG, and began integrating BTG's Interventional Medicine (IM) portfolio into the Peripheral Interventions division, adding complementary technologies in the areas of venous disease and interventional oncology. Our net sales of Peripheral Interventions products of$1.392 billion represented 13 percent of our consolidated net sales in 2019, and included$144 million of sales from BTG products following the date of acquisition. Our Peripheral Interventions net sales increased$205 million , or 17.3 percent, in 2019, as compared to 2018, and$61 million or 5.1 percent excluding BTG. This increase included operational net sales growth of 19.1 percent (7.8 percent excluding BTG and the related divestiture of our drug-eluting and bland embolic microsphere portfolio) and the negative impact of 180 basis points from foreign currency fluctuations, as compared to 2018. This year-over-year increase was primarily driven by global growth of the Eluvia™ Drug Eluting Vascular Stent System, which was launched in theU.S. in the fourth quarter of 2018 andJapan in the first quarter of 2019. 39
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Following the closing of the BTG acquisition in the third quarter of 2019,Specialty Pharmaceuticals was added as an eighth operating segment. OurSpecialty Pharmaceuticals business develops and manufactures acute care antidotes to treat overexposure to certain medications and toxins. These products are sold primarily in theU.S. through small, specialist sales teams and through commercial partners elsewhere, where approved or permitted, on a named patient basis. Our net sales ofSpecialty Pharmaceuticals products of$81 million following the date of acquisition represented less than one percent of our consolidated net sales in 2019. Emerging Markets As part of our strategic imperatives to drive global expansion, described in Item 1. Business of this Annual Report, we are seeking to grow net sales and market share by expanding our global presence, including in Emerging Markets. We define Emerging Markets as the 20 countries that we believe have strong growth potential based on their economic conditions, healthcare sectors and our global capabilities. We have increased our investment in infrastructure in these countries in order to maximize opportunities. Periodically, we assess our list of Emerging Markets; effectiveJanuary 1, 2019 , we updated our list of Emerging Market countries. Our current list is comprised of the following countries:Argentina ,Brazil ,Chile ,China ,Colombia ,Czech Republic ,India ,Indonesia ,Malaysia ,Mexico ,Philippines ,Poland ,Russia ,Saudi Arabia ,Slovakia ,South Africa ,South Korea ,Thailand ,Turkey andVietnam . The revision had an immaterial impact on prior year Emerging Markets sales. Our Emerging Markets net sales of Medical Devices represented 12 percent of our consolidated net sales in 2019 and 11 percent in 2018. In 2019, our Emerging Markets net sales grew 14.1 percent on a reported basis including operational net sales growth of 19.5 percent and the negative impact of 540 basis points from foreign currency fluctuations, as compared to 2018. Our future net sales in Emerging Markets may be negatively impacted by geopolitical and economic instability and a number of other factors, including the impact to our net sales inChina from the evolving coronavirus situation. 40
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Results of OperationsNet Sales The following table provides our net sales by business and the relative change in growth on a reported basis: Year Ended December 31, 2019 2018 versus versus (in millions) 2019 2018 2017 2018 2017 Endoscopy$ 1,894 $ 1,762 $ 1,619 7.5% 8.8% Urology and Pelvic Health 1,413 1,245 1,124 13.4% 10.8% MedSurg 3,307 3,007 2,742 10.0% 9.7% Cardiac Rhythm Management 1,939 1,951 1,895 (0.6)% 2.9% Electrophysiology 329 311 278 5.5% 12.1% Neuromodulation 873 779 635 12.0% 22.7% Rhythm and Neuro 3,140 3,041 2,808 3.3% 8.3% Interventional Cardiology 2,816 2,590 2,419 8.7% 7.1% Peripheral Interventions 1,392 1,187 1,081 17.3% 9.8% Cardiovascular 4,208 3,777 3,500 11.4% 7.9% Medical Devices(1) 10,654 9,823 9,048 8.5% 8.6% Specialty Pharmaceuticals 81 n/a n/a n/a n/a Net Sales$ 10,735 $ 9,823 $ 9,048 9.3% 8.6%
(1) We have three historical reportable segments comprised of Medical Surgical
(MedSurg), Rhythm and Neuro, and Cardiovascular, which represent an
aggregation of our operating segments that generate revenues from the sale
of medical devices (Medical Devices). As part of our acquisition of BTG on
now included in our Peripheral Interventions operating segment's 2019
revenues from the date of acquisition.
Refer to Executive Summary for further discussion of our net sales and a comparison of our 2019 and 2018 net sales.
In 2018, we generated net sales of$9.823 billion , as compared to$9.048 billion in 2017. This increase of$775 million , or 8.6 percent, included operational growth of 8.0 percent and the positive impact of 60 basis points from foreign currency fluctuations. Operational net sales included approximately$78 million in 2018 due to the acquisitions of Symetis SA (Symetis) in the second quarter of 2017,NxThera, Inc. (NxThera ) in the second quarter of 2018,Claret Medical, Inc. (Claret) in the third quarter of 2018 andAugmenix, Inc. (Augmenix ) in the fourth quarter of 2018, each with no prior period related net sales. 41
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Gross Profit Our gross profit was$7.620 billion in 2019 and$7.011 billion in 2018. As a percentage of net sales, our gross profit decreased to 71.0 percent in 2019, as compared to 71.4 percent in 2018. The following is a rollforward of our gross profit margins and a description of the drivers of the change from period to period: Gross Profit Margin Year EndedDecember 31, 2017 71.3% Manufacturing cost reductions 0.8% Sales pricing and mix (0.2)% Inventory step-up due to acquisition accounting (0.1)% Net impact of foreign currency fluctuations (0.8)%
All other, including other inventory charges and other period expense
0.4%
Year Ended December 31, 2018 71.4%
Manufacturing cost reductions 0.8%
Sales pricing and mix (0.6)%
Inventory step-up due to acquisition accounting (0.4)%
Net impact of foreign currency fluctuations 0.7%
All other, including other inventory charges and other period
expense (0.8)%
Year Ended December 31, 2019 71.0%
The primary factors contributing to the decrease in our gross profit margin for
2019 as compared to 2018 were the negative impacts of pricing declines related
primarily to sales of our coronary drug-eluting stent products, as well as
increased levels of scrap associated with recently launched products and excess
and obsolete inventory. In addition, in connection with our recent acquisitions,
we adjusted acquired inventory from manufacturing cost to fair value. The
step-up in value is amortized through gross profit over an average estimated
inventory turnover period. In 2019, we recorded increased cost of $46 million
associated with these step-ups. This was partially offset by manufacturing cost
reductions driven by our process improvement programs as well as favorable
foreign currency fluctuations.
The primary factors contributing to the increase in our gross profit margin for
2018 as compared to 2017 were the positive impacts of cost reductions resulting
from our process improvement programs and restructuring programs and favorable
period expense, partially offset by negative impacts from foreign currency
fluctuations.
EU MDR Implementation Charges
The European Union Medical Device Regulation (EU MDR) is a replacement of the existing European Medical Devices Directive (MDD) regulatory framework, and manufacturers of medical devices are required to comply with EU MDR beginning inMay 2020 for new product registrations and byMay 2024 for medical devices which have a valid CE Certificate to the current Directives (issued beforeMay 2020 ). We consider the adoption of EU MDR to be a significant change to a regulatory framework, and therefore, the incremental costs specific to complying with EU MDR for previously registered products are not considered to be ordinary course expenditures in connection with regulatory matters. As such, these medical device regulation charges are excluded from management's assessment of operating performance and from our operating segments' measures of profit and loss used for making operating decisions and assessing performance. We expect to incur expenditures of approximately$150 million over the next three years associated with the implementation of EU MDR, which will be recorded primarily within Cost of products sold. 42
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Operating Expenses
The following table provides a summary of certain of our operating expenses:
Year Ended December 31,
2019 2018 2017
(in millions) $ % of Net Sales $ % of Net Sales $ % of Net Sales
Selling, general and
administrative expenses $ 3,941 36.7 % $ 3,569 36.3 % $ 3,294 36.4 %
Research and development
expenses 1,174 10.9 % 1,113 11.3 % 997 11.0 %
Royalty expense 65 0.6 % 70 0.7 % 68 0.8 %
Selling, General and Administrative (SG&A) Expenses
In 2019, our SG&A expenses increased$371 million , or 10 percent, as compared to 2018 and were 40 basis points higher as a percentage of net sales. This increase in SG&A expenses as a percentage of net sales was primarily due to acquisition-related charges primarily associated with our acquisition and integration of BTG, partially offset by savings from ongoing cost optimization initiatives. These increased SG&A expenses were also partially offset by a$25 million net gain recorded in the first quarter primarily associated with a portion of the Edwards litigation settlement. For further details regarding the presentation of the Edwards litigation settlement see Litigation-related net charges (credits) below. In 2018, our SG&A expenses increased$275 million , or eight percent, as compared to 2017 and were 10 basis points lower as a percentage of net sales. This decrease in SG&A expenses as a percentage of net sales was primarily due to leverage from increased sales, as well as the benefit of our targeted initiatives focused on reducing SG&A expenses such as end-to-end business process streamlining and automation, including functional expansion of global shared service and robotic process utilization.
Research and Development (R&D) Expenses
We remain committed to advancing medical technologies and investing in meaningful research and development projects across our businesses. In 2019, our R&D expenses increased$61 million , or six percent, as compared to 2018, and were 40 basis points lower as a percentage of net sales. In 2018, our R&D expenses increased$116 million , or 12 percent, as compared to 2017, and were 30 basis points higher as a percentage of sales. R&D expenses increased each year as a result of investments across our businesses in order to maintain a pipeline of new products that we believe will contribute to profitable sales growth.
Royalty Expense
In 2019, our Royalty expense decreased$5 million , or seven percent, as compared to 2018 and was 10 basis points lower as a percentage of net sales. The decrease in Royalty expense in 2019, as compared to 2018, relates primarily to contractual reductions in royalty rates associated with certain products. In 2018, our Royalty expense increased$2 million , or three percent, as compared to 2017 and was 10 basis points lower as a percentage of net sales. The increase in Royalty expense in 2018 as compared to 2017 relates primarily to increased sales partially offset by expired royalties in certain countries. The following table provides a summary of certain of our other operating expenses, which are excluded by management for purposes of evaluating operating performance, refer to Additional Information for a further description of certain operating expenses: Year Ended December 31, (in millions) 2019 2018 2017 Amortization expense$ 699 $ 599 $ 565 Intangible asset impairment charges 105 35 4
Contingent consideration expense (benefit) (35 ) (21 ) (80 ) Restructuring charges (credits)
38 36 37
Litigation-related net charges (credits) 115 103 285
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Amortization Expense
In 2019, our Amortization expense increased$101 million , or 17 percent, as compared to 2018. In 2018, our Amortization expense increased$33 million , or six percent, as compared to 2017. The increases in each period were primarily due to an increase in the balance of amortizable intangible assets as a result of recent acquisitions.
Intangible Asset Impairment Charges
In 2019, our Intangible asset impairment charges were$105 million , primarily associated with technology-related amortizable intangible assets. Refer to Critical Accounting Estimates for a discussion of key assumptions used in our goodwill and intangible asset impairment testing and future events that could have a negative impact on the recoverability of our goodwill and intangible assets.
Contingent Consideration Expense (Benefit)
In 2019, 2018, and 2017, we recorded net benefits related to the change in fair value of our contingent consideration liability. Refer to Note B - Acquisitions and Strategic Investments to our consolidated financial statements contained in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional details related to our contingent consideration arrangements.
Restructuring Charges (Credits)
In
In addition, inNovember 2018 , our Board of Directors approved, and we committed to, a new global restructuring program (the 2019 Restructuring Plan). The 2019 Restructuring Plan is expected to result in total pre-tax charges of approximately$200 million to$300 million and approximately$180 million to$280 million of these charges are expected to result in cash outlays. A substantial portion of the savings are being reinvested in strategic growth initiatives. Restructuring charges pursuant to these programs were$38 million in 2019,$36 million in 2018, and$37 million in 2017. See Note G - Restructuring-related Activities to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional details on our restructuring plans.
Litigation-related Net Charges (Credits)
In 2019, our litigation-related net charges included a net charge of$223 million in the fourth quarter of 2019, primarily related to litigation withChannel Medsystems, Inc. , net charges of$25 million in the third quarter of 2019 and$15 million in the second quarter of 2019, primarily related to transvaginal surgical mesh product liability litigation, and a gain of$148 million recorded in the first quarter of 2019, which represents a portion of the total$180 million one-time settlement payment received from Edwards Lifesciences Corporation (Edwards) inJanuary 2019 . We record certain legal and product liability charges, credits and costs of defense, which we consider to be unusual or infrequent and significant as Litigation-related net charges (credits) in our consolidated financial statements. All other legal and product liability charges, credits and costs are recorded within SG&A expenses. As such, a portion of the related gain from the Edwards settlement was recorded in SG&A expenses on our consolidated statements of operations.
In 2018 and 2017, our litigation-related net charges were primarily in connection with transvaginal surgical mesh product liability cases and claims.
We continue to assess certain litigation and claims to determine the amounts, if
any, that management believes will be paid as a result of such claims and
litigation, and therefore, additional losses may be accrued and paid in the
future, which could materially adversely impact our operating results, cash
flows and/or our ability to comply with our debt covenants. Refer to Note J -
Commitments and Contingencies to our consolidated financial statements contained
in Item 8. Financial Statements and Supplementary Data of this Annual Report for
additional discussion of our material legal proceedings.
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Interest Expense The following table provides a summary of our Interest expense and average borrowing rate:
Year Ended December 31,
(in millions) 2019 2018 2017
Interest expense $ (473 ) $ (241 ) $ (229 ) Weighted average borrowing rate 4.8 % 3.6 % 3.8 %
Interest expense increased in 2019, as compared to 2018, primarily due to the increase in our average debt balance following theFebruary 2019 senior notes offering as well as the Euro bond offering inNovember 2019 . A portion of the proceeds from theFebruary 2019 senior notes offering were used to finance our acquisition of BTG. The net proceeds from ourNovember 2019 senior notes offering were used to repay certain outstanding principal amounts of our senior notes and pay accrued and unpaid interest, premiums, and fees. In addition, Interest expense in 2019 included debt extinguishment charges following our 2019 senior notes offerings and subsequent repayment of existing senior notes and termination of the Bridge Facility. Refer to Liquidity and Capital Resources in this Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations and Note D - Hedging Activities and Fair Value Measurements and Note E - Contractual Obligations and Commitments to our consolidated financial statements contained in Item 8. Financial Statements and Supplementary Data of this Annual Report for information regarding our debt obligations. Other, net The following are the components of Other, net: Year Ended December 31, (in millions) 2019 2018 2017 Interest income$ 30 $ 3 $ 5
Net foreign currency gain (loss) (358 ) 11 (15 ) Net gains (losses) on investments (30 ) 155 (92 ) Other income (expense), net
(1 ) (14 ) (22 )
$ (358 ) $ 156 $ (124 )
Certain of our non-designated forward currency contracts were entered into for
the purpose of managing our exposure to currency exchange rate risk related to
the purchase price of our acquisition of BTG. In 2019, we settled all
outstanding contracts, and we recognized a $323 million loss in Other, net due
to changes in fair value of the contracts. These amounts are included in
Acquisition/divestiture-related net charges (credits) presented in the
reconciliation of our results of operations prepared in accordance with U.S.
GAAP to those adjusted results considered by management. Refer to Financial
Summary for the reconciliation and Additional Information for a discussion of
management's use of non-GAAP financial measures.
In 2018, we recorded gains of $184 million based on the difference between the
book values and the fair values of our previously-held investments immediately
prior to the acquisition dates, which aggregated to $251 million . We remeasured
the fair value of each previously-held investment based on the implied
enterprise value and allocation of purchase price consideration according to
priority of equity interests. Gains and losses recorded on previously-held
investments are excluded by management for purposes of evaluating operating
performance. Refer to Note B - Acquisitions and Strategic Investments to our
consolidated financial statements contained in Item 8. Financial Statements and
Supplementary Data of this Annual Report for information regarding our strategic
investments.
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Tax Rate
The following table provides a summary of our reported tax rate:
Year Ended December 31,
2019 2018 2017
Reported tax rate (584.0 )% (17.5 )% 88.8 %
Impact of certain receipts/charges (1) 594.2 % 30.7 % (75.8 )%
10.2 % 13.2 % 13.0 %
(1) These receipts/charges are taxed at different rates than our effective tax
rate.
The change in our reported tax rate for 2019, as compared to 2018, relates
primarily to the deferred tax benefit of intra-entity transfers of intellectual
property rights partially offset by increased current tax expense related to the
U.S. taxation of current foreign earnings.
The change in our reported tax rate for 2018, as compared to 2017, relates
primarily to the impact of certain receipts and charges that are taxed at
different rates than our effective tax rate. These receipts and charges included
intangible asset impairment charges, acquisition-related items, restructuring
and restructuring-related items, litigation-related items, as well as certain
discrete tax items. Included in the discrete tax items were the effective
settlement of our transfer pricing dispute with the Internal Revenue Service
(IRS) for the 2001 through 2010 tax years, the conclusion of the IRS
examinations of our 2011 through 2013 tax years, and the final impact of the Tax
Cuts and Jobs Act (TCJA), enacted on December 22, 2017 .
`
In the second quarter of 2018, a decision was entered by the U.S. Tax Court
resolving all disputes for Guidant Corporation for its 2001 through 2006 tax
years and our 2006 and 2007 tax years as well as the tax issues related to our
2006 transaction with Abbott Laboratories. Additionally, we resolved all issues
with the IRS Office of Appeals for our 2008 through 2010 tax years. The final
settlement calculation resulted in a final net tax payment of $303 million plus
$307 million of estimated interest, which was remitted in the second quarter of
2018. Due to the final settlement of these disputes, we recorded a net tax
benefit of $250 million in 2018 to remove a reserve related to these years.
In the fourth quarter of 2018, we received a Revenue Agent Report (RAR) from the
IRS for our 2011 through 2013 tax years. We remitted $93 million to the IRS in
the fourth quarter of 2018 reflecting the net balance of tax and interest due
for these years after consideration of amounts owed to us by the IRS . Due to the
resolution of these tax years, we recorded a net tax benefit of $90 million to
remove a reserve related to these years.
See Note I - Income Taxes to our consolidated financial statements included in
Item 8. Financial Statements and Supplementary Data of this Annual Report for
additional details on our tax rate.
Liquidity and Capital Resources
Based on our current business plan, we believe our existing balance of Cash and cash equivalents, future cash generated from operations, access to capital markets and existing credit facilities will be sufficient to fund our operations, invest in our infrastructure, pay our legal-related liabilities, pay taxes due, fund possible mergers and/or acquisitions and service and repay our existing debt. Please refer to Contractual Obligations and Commitments below for additional details on our future payment obligations and commitments. As ofDecember 31, 2019 , we had$217 million of unrestricted Cash and cash equivalents on hand, comprised of$50 million invested in money market and government funds and$165 million in interest bearing and non-interest-bearing bank accounts. We invest excess cash on hand in short-term financial instruments that earn at market interest rates while mitigating principal risk through instrument and counterparty diversification, as well as what we believe to be prudent instrument selection. We limit our direct exposure to securities in any one industry or issuer. We also have access to our$2.750 billion commercial paper program, which is backed by our 2018 revolving credit facility entered into onDecember 19, 2018 . As ofDecember 31, 2019 , we had$711 million in commercial paper debt outstanding resulting in an additional$2.039 billion of available liquidity. In the fourth quarter of 2019, we entered into a$700 million term loan credit agreement scheduled to mature onDecember 3, 2020 (2020 Term Loan). As ofDecember 31, 2019 , we had the full amount outstanding under the 2020 Term Loan, which is presented within Current debt obligations on our consolidated balance sheet. In the first quarter of 2020, we repaid$300 million of the outstanding balance of the 2020 Term Loan.
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For the purpose of funding our acquisition of BTG, in the fourth quarter of 2018, we entered into a$1.000 billion two-year delayed draw term loan credit facility, maturing in two years from the date of the closing of our acquisition of BTG (Two-Year Delayed Draw Term Loan) and a$1.000 billion three-year delayed draw term loan credit facility, maturing in three years from the date of the closing of our acquisition of BTG (Three-Year Delayed Draw Term Loan). In 2019, we used the proceeds from the Two-Year and Three-Year Delayed Draw Term Loan facilities to refinance the Bridge Facility, as described below, and fund a portion of our acquisition of BTG. In the fourth quarter of 2019, we repaid$200 million of the Two-Year Delayed Draw Term Loan with proceeds from the sale of the Zytiga-related royalty interests obtained through the acquisition of BTG and extinguished the facility, and we repaid the remaining$800 million of the$1.000 billion with proceeds from the 2020 Term Loan and commercial paper and terminated the Two-Year Delayed Draw Term Loan. As ofDecember 31, 2018 , we had no amounts borrowed under the Two-Year Delayed Draw Term Loan or the Three-Year Delayed Draw Term Loan. As ofDecember 31, 2019 , we had$1.000 billion outstanding under the Three-Year Delayed Draw Term Loan, which is presented within Long-term debt on our condensed consolidated balance sheet. In the fourth quarter of 2019, we completed an offering of €900 million in aggregate principal amount of 0.625% senior notes due in 2027. The Euro-denominated debt principal is a nonderivative instrument designated as a net investment hedge of our net investments in certain of our Euro functional entities. We used a portion of the net proceeds from our senior notes offering to repay certain outstanding principal amounts of our senior notes including$206 million of our$450 million 4.125% senior notes due 2023,$566 million of our$1.000 billion 4.000% senior notes due 2028 and$227 million of our$750 million 3.850% senior notes due 2025 and pay accrued and unpaid interest, premiums, fees and expenses in connection with the transaction. In the first quarter of 2019, we completed an offering of$4.300 billion in aggregate principal amount of senior notes. We used a portion of the net proceeds from the offering to repay the$850 million plus accrued interest and premium of our 6.000% senior notes due inJanuary 2020 (January 2020 Notes), the$600 million plus accrued interest and premium of our 2.850% senior notes due inMay 2020 (May 2020 Notes) and the$1.000 billion plus accrued interest of ourAugust 2019 Term Loan. In 2019, the remaining proceeds were used to finance a portion of our acquisition of BTG. In the first quarter of 2019, upon the closing of our senior notes offering in aggregate principal amount of$4.300 billion described above, we terminated the Bridge Facility entered into onNovember 20, 2018 . The termination was pursuant to the terms of the Bridge Facility, which required full termination upon the refinancing of theJanuary 2020 Notes andMay 2020 Notes discussed above. There were no amounts borrowed under the Bridge Facility as ofDecember 31, 2018 . For additional information on our credit facilities, refer to Note E - Contractual Obligations and Commitments to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report. 47
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The following provides a summary and description of our net cash inflows (outflows) and adjusted free cash flow:
Year Ended December 31,
(in millions) 2019 2018
2017
Cash provided by (used for) operating activities$ 1,836 $ 310 $ 1,426 Cash provided by (used for) investing activities (5,041 ) (1,921 ) (1,010 ) Cash provided by (used for) financing activities 2,973 1,432
110
Cash provided by (used for) operating activities$ 1,836 $ 310 $ 1,426 Less: Purchases of property, plant and equipment 461 316
319
Add: Proceed on disposals of property, plant and equipment 7 14 - Free cash flow 1,382 8
1,107
Add: Restructuring and restructuring-related payments 66 89
72
Add: Acquisitions-related payments 266 205
95
Add: EU MDR payments 4 - - Add: Certain discrete tax payments (refunds/credits) (42 ) 977 (239 ) Add: Litigation-related settlements 330 791 694 Adjusted free cash flow2$ 2,007 $ 2,070 $ 1,729 Operating Activities In 2019, cash provided by operating activities increased$1.526 billion , as compared to 2018. This increase was primarily due to the one-time settlement payment of$180 million that we received from Edwards Lifesciences Corporation inJanuary 2019 , comparatively fewer litigation payments in 2019 primarily associated with product liability cases or claims related to transvaginal surgical mesh products and theIRS final net tax settlement payments of$303 million plus$307 million of estimated interest that we remitted in the second quarter of 2018 and$93 million reflecting the net balance of tax and interest due in the fourth quarter of 2018. In 2018, cash provided by operating activities decreased$1.116 billion , or 78 percent, as compared to 2017. This decrease was primarily due to theIRS tax settlement payments in 2018 described above. Investing Activities In 2019, cash used for investing activities primarily included Payments for acquisitions of businesses, net of cash acquired of$4.382 billion relating to our acquisitions ofBTG, Vertiflex and Millipede, Inc. (Millipede), Purchases of property, plant and equipment of$461 million , Payments for investments and acquisitions of certain technologies of$149 million , partially offset by Proceeds from divestiture of certain businesses of$90 million relating to the sale of our drug-eluting and bland embolic microsphere portfolio to Varian Medical Systems, Inc. (Varian) in connection with our acquisition of BTG. Cash used for investing activities also included Payments for settlements of hedge contracts of$199 million , of which$95 million relates to the termination and settlement of our outstanding forward currency contracts designated as net investment hedges in our Euro-denominated entities and$294 million relates to the settlement of our non-designated forward currency contracts entered into for the purpose of managing our exposure to currency exchange rate risk related to the GBP-denominated purchase price of BTG. Refer to Note D - Hedging Activities and Fair Value Measurements consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for further information. In 2018, cash used for investing activities primarily included Payments for acquisitions of businesses, net of cash acquired of$1.448 billion primarily relating to our acquisitions ofAugmenix ,NxThera ,Cryterion Medical, Inc. , Claret and nVision, Purchases of property, plant and equipment of$316 million and Payments for investments and acquisitions of certain technologies of$172 million , including our$90 million investment in Millipede in the first quarter of 2018. 2Adjusted free cash flow, which excludes certain items required byU.S. GAAP is not prepared in accordance withU.S. GAAP and should not be considered in isolation from, or as a replacement for, the most directly comparable GAAP measure. Refer to Additional Information for a discussion of management's use of non-GAAP financial measures. 48
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Financing Activities Our cash flows provided by financing activities reflect issuances and repayments of debt, including our commercial paper program and cash used for new share settlement and stock issuances related to our equity incentive programs, as discussed in Note K - Stockholders' Equity to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report. In addition, our financing activities included Payments of contingent consideration and royalty rights established in purchase accounting of$135 million in 2019,$19 million in 2018 and$33 million in 2017. In connection with the acquisition of BTG, we acquired rights to future royalties associated with the Zytiga™ drug used to treat certain forms of prostate cancer. In the fourth quarter of 2019, we sold our rights to these royalties for$256 million in cash, included in Proceeds from royalty rights transfer. Our liquidity plans are subject to a number of risks and uncertainties, including those described in Item 1A. Risk Factors of this Annual Report, some of which are outside our control. Macroeconomic conditions, adverse litigation outcomes and other risks and uncertainties could limit our ability to successfully execute our business plans and adversely affect our liquidity plans.
Debt
The following table presents the current and long-term portions of our total debt:
As of
(in millions) December 31, 2019 December 31, 2018
Current debt obligations $ 1,416 $ 2,253
Long-term debt 8,592 4,803
Total debt $ 10,008 $ 7,056
The following table presents the portions of our total debt that are comprised
of fixed and variable rate debt instruments, which are presented on an amortized
cost basis:
As of
(in millions) December 31, 2019 December 31, 2018
Fixed-rate debt instruments $ 7,587 $ 4,797
Variable rate debt instruments 2,421 2,259
Total debt $ 10,008 $ 7,056
As of and through December 31, 2019 , we were in compliance with all the required
covenants related to our debt obligations. For additional details related to our
debt obligations, including our debt covenant requirements, refer to Note E -
Contractual Obligations and Commitments to our consolidated financial statements
included in Item 8. Financial Statements and Supplementary Data of this Annual
Report.
Equity
During 2019 we received$123 million in proceeds from stock issuances related to our stock option and employee stock purchase plans, as compared to$101 million in 2018. Proceeds from the exercise of employee stock options and employee stock purchases vary from period to period based upon, among other factors, fluctuations in the trading price of our common stock and in the exercise and stock purchase patterns of employees. We did not repurchase any shares of our common stock during 2019 or 2018. As ofDecember 31, 2019 , we had remaining approximately$535 million authorized under our 2013 share repurchase program. There were approximately 248 million shares in treasury as ofDecember 31, 2019 andDecember 31, 2018 . Stock-based compensation expense related to our stock ownership plans was$157 million in 2019 and$140 million in 2018. Stock-based compensation expense varies from period to period based upon, among other factors, the timing, number and fair value of awards granted during the period, forfeiture levels related to unvested awards and employee contributions to our employee stock purchase plan, as well as the retirement eligibility of stock award recipients.
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Contractual Obligations and Commitments The following table provides a summary of certain information concerning our obligations and commitments to make future payments and is based on conditions in existence as ofDecember 31, 2019 : (in millions) 2020 2021 2022 2023 2024 Thereafter Total Debt obligations (1)$ 1,411 $ -$ 1,500 $ 244 $ 850 $ 6,068 $ 10,072 Interest payments (2) 343 326 308 280 252 2,550 4,059
Lease obligations (2) 84 71 59 48
41 79 382
Purchase obligations
(2) 334 20 7 3 1 1 366
Minimum royalty
obligations (2) 3 3 2 2 2 2 15
License and software
commitments (2) 4 5 5 3 3 - 20
Legal reserves 470 - - - - - 470
One-time transition tax 40 40 40 75 100 125 420
$ 2,689 $ 465 $ 1,921 $ 655 $ 1,249 $ 8,825 $ 15,804 (1) Debt obligations are comprised of our senior notes, term loan and
commercial paper outstanding as of
include unamortized debt issuance discounts, deferred financing costs and
gain on fair value hedges or capital lease obligations. Refer to Note E -
Contractual Obligations and Commitments to our consolidated financial
statements included in Item 8. Financial Statements and Supplementary Data
of this Annual Report for additional information. In January 2020 , we
repaid $300 million of the outstanding balance of the 2020 Term Loan with
proceeds from our commercial paper program.
(2) In accordance with U.S. GAAP, these obligations relate to expensesassociated with future periods and are not reflected in our consolidated
balance sheets. Interest payments included above are calculated based on
rates and required fees applicable to our outstanding debt obligations as
of
Commitments to our consolidated financial statements included in Item 8.
Financial Statements and Supplementary Data of this Annual Report.
Interest payments above do not include interest on variable rate debt
instruments.
The amounts in the table above with respect to purchase obligations relate primarily to non-cancellable inventory commitments and capital expenditures entered in the normal course of business. Royalty obligations reported above represent minimum contractual obligations under our current royalty agreements.
The table above does not include:
• Our long-term liability for legal matters that are probable and estimable
of
Note J - Commitments and Contingencies to our consolidated financial
statements included in Item 8. Financial Statements and Supplementary Data
of this Annual Report for more information,
• Unrecognized tax benefits, accrued interest and penalties and other
related items totaling
cash settlement is uncertain and tax payments and interest totaling
million related to state obligations of recently settled
be remitted in 2020. Refer to Note I - Income Taxes to our consolidated
financial statements included in Item 8. Financial Statements and
Supplementary Data of this Annual Report for more information, and
• With certain of our acquisitions, we acquired IPR&D projects that require
future funding to complete the projects. We estimate that the total
remaining R&D cost to complete acquired IPR&D projects is between
million and
development are expected to commence in 2020 and will continue through
2037, following the respective launches of these technologies in the
payment of contingent consideration, but the timing and amounts are
uncertain. See Note B - Acquisitions and Strategic Investments to our
consolidated financial statements included in Item 8. Financial Statements
and Supplementary Data of this Annual Report for more information.
Legal Matters
For a discussion of our material legal proceedings see Note J - Commitments and Contingencies to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report.
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Critical Accounting Policies and Estimates Our financial results are affected by the selection and application of accounting policies and methods. We have adopted accounting policies to prepare our consolidated financial statements in conformity withU.S. GAAP. To prepare our consolidated financial statements in accordance withU.S. GAAP, management makes estimates and assumptions that may affect the reported amounts of our assets and liabilities, including our contingent liabilities, as of the date of our financial statements and the reported amounts of our revenues and expenses during the reporting periods. Our actual results may differ from these estimates. We consider estimates to be critical (i) if we are required to make assumptions about material matters that are uncertain at the time of estimation or (ii) if materially different estimates could have been made or it is reasonably likely that the accounting estimate will change from period to period. The following are areas considered to be critical and require management's judgment: Revenue Recognition, Bad Debt Reserves, Inventory Provisions, Valuation of Intangible Assets and Contingent Consideration Liability, Goodwill Valuation, Legal and Product Liability Accruals and Income Taxes. See Note A - Significant Accounting Policies to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional information related to our accounting policies and our consideration of these critical accounting areas. In addition, see Note B - Acquisitions and Strategic Investments and Note C -Goodwill and Other Intangible Assets for further discussion of the valuation of goodwill and intangible assets and contingent consideration, Note I - Income Taxes for further discussion of income tax related matters, Note J - Commitments and Contingencies for further discussion of legal and product liability matters and Note O - Revenue for further discussion of revenue recognition. Revenue Recognition
Deferred Revenue
We record a contract liability, or deferred revenue, when we have an obligation to provide a product or service to the customer and payment is received or due in advance of our performance. When we sell a device with a future service obligation, we defer revenue on the unfulfilled performance obligation and recognize this revenue over the related service period. Many of our Cardiac Rhythm Management product offerings combine the sale of a device with our LATITUDE™ Patient Management System, which represents a future service obligation. Generally, we do not have observable evidence of the standalone selling price related to our future service obligations; therefore, we estimate the selling price using an expected cost plus a margin approach. We allocate the transaction price using the relative standalone selling price method. The use of alternative estimates could result in a different amount of revenue deferral. Contract liabilities are classified within Other current liabilities and Other long-term liabilities on our accompanying consolidated balance sheets. Our contractual liabilities are primarily composed of deferred revenue related to the LATITUDE™ Patient Management System. Revenue is recognized over the average service period which is based on device and patient longevity.
Variable Consideration
We generally allow our customers to return defective, damaged and, in certain cases, expired products for credit. We base our estimate for sales returns upon historical trends and record the amount as a reduction to revenue when we sell the initial product. In addition, we may allow customers to return previously purchased products for next-generation product offerings. For these transactions, we defer recognition of revenue on the sale of the earlier generation product based upon an estimate of the amount of product to be returned when the next-generation products are shipped to the customer. Uncertain timing of next-generation product approvals, variability in product launch strategies, product recalls and variation in product utilization all affect our estimates related to sales returns and could cause actual returns to differ from these estimates. We also offer sales rebates and discounts to certain customers. We treat sales rebates and discounts as a reduction of revenue and classify the corresponding liability as current. We estimate rebates for products where there is sufficient historical information available to predict the volume of expected future rebates. If we are unable to reasonably estimate the expected rebates, we record a liability for the maximum rebate percentage offered.
Post Implant Services
We provide non-contractual services to customers to ensure the safe and effective use of certain implanted devices. Since our modified retrospective adoption of FASB ASC Topic 606, Revenue from Contracts with Customers onJanuary 1, 2018 , because the revenue related to the immaterial services is recognized before they are delivered, we forward accrue the costs to provide these services at the time the devices are sold. We record these costs to Selling, general and administrative expenses. We estimate the
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amount of time spent by our representatives performing these services and their compensation throughout the device life to determine the service cost. Changes to our business practice or the use of alternative estimates could result in a different amount of accrued cost. Refer to Note A - Significant Accounting Policies and Note O - Revenue to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for further information on our adoption of FASB ASC Topic 606 and our revenue recognition accounting policies. Inventory Provisions We base our provisions for excess, expired and obsolete inventory primarily on our estimates of forecasted net sales. A significant change in the timing or level of demand for our products as compared to forecasted amounts may result in recording additional provisions for excess, expired and obsolete inventory in the future. Further, the industry in which we participate is characterized by rapid product development and frequent new product introductions. Uncertain timing of next-generation product approvals, variability in product launch strategies, product recalls and variation in product utilization all affect our estimates related to excess, expired and obsolete inventory. Valuation of Intangible Assets and Contingent Consideration Liability We base the fair value of identifiable intangible assets acquired in a business combination, including IPR&D, on detailed valuations that use information and assumptions provided by management, which consider management's best estimates of inputs and assumptions that a market participant would use. Further, for those arrangements that involve potential future contingent consideration, we record on the date of acquisition a liability equal to the fair value of the estimated additional consideration we may be obligated to pay in the future. We re-measure this liability each reporting period and record changes in the fair value through a separate line item within our consolidated statements of operations. Increases or decreases in the fair value of the contingent consideration liability can result from changes in discount rates, periods, timing and amount of projected revenue or timing or likelihood of achieving regulatory, revenue or commercialization-based milestones. The use of alternative valuation assumptions, including estimated revenue projections, growth rates, cash flows, discount rates, useful life or probability of achieving clinical, regulatory or revenue-based milestones could result in different purchase price allocations and recognized amortization expense and contingent consideration expense or benefit in current and future periods. We review intangible assets subject to amortization quarterly to determine if any adverse conditions exist or a change in circumstances has occurred that would indicate impairment or adjustment to the remaining useful life. If we determine it is more likely than not that the asset is impaired based on our qualitative assessment of impairment indicators, we test the intangible asset for recoverability. If the carrying value of the intangible asset is determined not recoverable, we will write the carrying value down to fair value in the period identified. We calculate fair value of our intangible assets as the present value of estimated future cash flows we expect to generate from the asset using a risk-adjusted discount rate. The use of alternative assumptions, including estimated cash flows, discount rates and alternative estimated remaining useful lives could result in different calculations of impairment. In addition, we test our indefinite-lived intangible assets at least annually for impairment and reassess their classification as indefinite-lived assets, or more frequently if indicators exist. We assess qualitative factors to determine whether the existence of events and circumstances indicate that it is more likely than not that our indefinite-lived intangible assets are impaired. If we conclude that it is more likely than not that the asset is impaired, we then determine the fair value of the intangible asset and perform the quantitative impairment test by comparing the fair value with the carrying value in accordance with FASB ASC Topic 350, Intangibles -Goodwill and Other (FASB ASC Topic 350). If the carrying value exceeds the fair value of the indefinite-lived intangible asset, we write the carrying value down to fair value. The use of alternative valuation assumptions, including estimated revenue projections, growth rates, cash flows and discount rates could result in different fair value estimates. Goodwill Valuation We allocate any excess purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination to goodwill. We test our goodwill balances during the second quarter of each year for impairment, or more frequently if indicators are present or changes in circumstances suggest that impairment may exist. We assess goodwill for impairment at the reporting unit level, which is defined as an operating segment or one level below an operating segment, referred to as a component. For our 2019, 2018 and 2017 annual impairment assessments, we identified the following reporting units: Interventional Cardiology, Peripheral Interventions, Cardiac Rhythm Management, Electrophysiology, Endoscopy,Urology and Pelvic Health and Neuromodulation. In addition, following the BTG acquisition in 2019,Specialty Pharmaceuticals was added as an additional reporting unit. We aggregated the Cardiac Rhythm Management and Electrophysiology reporting units, components of the Rhythm Management operating segment, based on the criteria prescribed in FASB ASC Topic 350. 52
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Refer to Note A - Significant Accounting Policies to our consolidated financial statements contained in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional details related to our annual goodwill impairment assessments performed in 2019, 2018 and 2017. Although we use consistent methodologies in developing the assumptions and estimates underlying the fair value calculations used in our impairment tests, these estimates are uncertain by nature and can vary from actual results. The use of alternative valuation assumptions, including estimated revenue projections, growth rates, cash flows and discount rates could result in different fair value estimates. Future events that could have a negative impact on the levels of excess fair value over carrying value of our reporting units include, but are not limited to, the following:
• decreases in estimated market sizes or market growth rates due to
greater-than-expected declines in procedural volumes, pricing pressures,
reductions in reimbursement levels, product actions and/or competitive
technology developments,
• declines in our market share and penetration assumptions due to increased
competition, an inability to develop or launch new and next-generation
products and technology features in line with our commercialization
strategies and market and/or regulatory conditions that may cause
significant launch delays or product recalls,
• decreases in our forecasted profitability due to an inability to implement
successfully and achieve timely and sustainable cost improvement measures
consistent with our expectations,
• negative developments in intellectual property litigation that may impact
our ability to market certain products or increase our costs to sell
certain products,
• the level of success of ongoing and future research and development
efforts, including those related to recent acquisitions and increases in
the research and development costs necessary to obtain regulatory
approvals and launch new products,
• the level of success in managing the growth of acquired companies,
achieving sustained profitability consistent with our expectations,establishing government and third-party payer reimbursement, supplying the
market and increases in the costs and time necessary to integrate acquired
businesses into our operations successfully,
• changes in our reporting units or in the structure of our business as aresult of future reorganizations, acquisitions or divestitures of assets
or businesses and
• increases in our market-participant risk-adjusted weighted average cost of
capital (WACC) and increases in our market-participant tax rate and/or
changes in tax laws or macroeconomic conditions.
Negative changes in one or more of these factors, among others, could result in future impairment charges.
Refer to Note C -Goodwill and Other Intangible Assets to our consolidated financial statements contained in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional details related to our annual goodwill balances.
Legal and Product Liability Accruals
In the normal course of business, we are involved in various legal and
regulatory proceedings, including intellectual property, breach of contract,
securities litigation and product liability suits. In some cases, the claimants
seek damages, as well as other relief, which, if granted, could require
significant expenditures or impact our ability to sell our products. We accrue
anticipated costs of settlement, damages, losses for product liability claims
and, under certain conditions, costs of defense, based on historical experience
or to the extent specific losses are probable and estimable. Otherwise, we
expense these costs as incurred. If the estimate of a probable loss is a range
and no amount within the range is more likely, we accrue the minimum amount of
the range. Litigation and product liability matters are inherently uncertain,
and the outcomes of individual matters are difficult to predict and quantify. As
such, significant judgment is required in determining our legal and product
liability accruals. Our estimates related to our legal and product liability
accruals may change as additional information becomes available to us, including
information related to the nature or existence of claims against us, trial court
or appellate proceedings, and mediation, arbitration or settlement proceedings.
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Income Taxes
We establish reserves when we believe that certain positions are likely to be challenged despite our belief that our tax return positions are fully supportable. The calculation of our tax liabilities involves significant judgment based on individual facts, circumstances and information available in addition to applying complex tax regulations in various jurisdictions across our global operations. UnderU.S. GAAP, in order to recognize an uncertain tax benefit, the taxpayer must determine it is more likely than not the position will be sustained, and the measurement of the benefit is calculated as the largest amount that is more than 50 percent likely to be realized upon resolution of the benefit. Although we believe that we have adequately provided for liabilities resulting from tax assessments by taxing authorities, positions taken by these tax authorities could have a material impact on our effective tax rate, results of operations, financial position and/or cash flows. As part of the Tax Cut and Jobs Act of 2017, we are subject to a territorial tax system in which we are required to establish an accounting policy in providing for tax on Global Intangible Low Taxed Income (GILTI) earned by certain foreign subsidiaries. We have elected to treat the impact of GILTI as a period cost and will be reported as a part of continuing operations. New Accounting Pronouncements See Note A - Significant Accounting Policies to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional information on standards implemented sinceDecember 31, 2018 and Note Q - New Accounting Pronouncements to our consolidated financial statements included in Item 8. Financial Statements and Supplementary Data of this Annual Report for additional information on standards to be implemented. Additional Information Cybersecurity We have established controls and procedures to escalate enterprise level issues, including cybersecurity matters, to the appropriate management levels within our organization and our Board of Directors, or members or committees thereof, as appropriate. Under our framework, cybersecurity issues are analyzed by subject matter experts and a crisis committee for potential financial, operational, and reputational risks, based on, among other factors, the nature of the matter and breadth of impact. Matters determined to present potential material impacts to the Company's financial results, operations, and/or reputation are immediately reported by management to the Board of Directors, or individual members or committees thereof, as appropriate, in accordance with our escalation framework. In addition, we have established procedures to ensure that members of management responsible for overseeing the effectiveness of disclosure controls are informed in a timely manner of known cybersecurity risks and incidents that may materially impact our operations and that timely public disclosure is made, as appropriate. Use of Non-GAAP Financial Measures To supplement our consolidated financial statements presented on a GAAP basis, we disclose certain non-GAAP financial measures, including adjusted net income (earnings) and adjusted net income (earnings) per share that exclude certain amounts, operational net sales growth that exclude the impact of foreign currency fluctuations and adjusted free cash flow that excludes certain amounts. These non-GAAP financial measures are not in accordance with generally accepted accounting principles inthe United States and should not be considered in isolation from or as a replacement for the most directly comparable GAAP financial measures. Further, other companies may calculate these non-GAAP financial measures differently than we do, which may limit the usefulness of those measures for comparative purposes. To calculate adjusted net income (earnings) and adjusted net income (earnings) per share we exclude certain charges (credits) from GAAP net income as detailed below. Amounts are presented after-tax using our effective tax rate, unless the amount is a significant unusual or infrequently occurring item in accordance with FASB ASC section 740-270-30, "General Methodology and Use of Estimated Annual Effective Tax Rate." The GAAP financial measure most directly comparable to adjusted net income is GAAP net income (loss) and the GAAP financial measure most directly comparable to adjusted net income per share is GAAP net income (loss) per share. To calculate operational net sales, which exclude the impact of foreign currency fluctuations, we convert actual net sales from local currency toU.S. dollars using constant foreign currency exchange rates in the current and prior periods. The GAAP financial measure most directly comparable to operational growth rate percentages is growth rate percentages using net sales on a GAAP basis.
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Adjusted free cash flow is a non-GAAP measure that excludes from free cash flow the cash component of certain charges (credits) that are also excluded from adjusted net income as well as any cash tax benefits of such charges, as detailed below. In addition, we exclude payments or refunds that relate to resolving tax disputes related to prior periods. Free cash flow is a non-GAAP measure that excludes net purchases of property, plant and equipment from cash provided by (used for) operating activities on a GAAP basis. The GAAP measure that is most directly comparable to adjusted free cash flow and free cash flow is cash provided by (used for) operating activities on a GAAP basis.
Reconciliations of each of these non-GAAP financial measures to the corresponding GAAP financial measure are included in the relevant sections of this Annual Report.
Management uses these supplemental non-GAAP financial measures to evaluate performance period over period, to analyze the underlying trends in our business, to assess our performance relative to our competitors and to establish operational goals and forecasts that are used in allocating resources. In addition, management uses these non-GAAP financial measures to further its understanding of the performance of our operating segments. The adjustments excluded from our non-GAAP financial measures are consistent with those excluded from our operating segments' measures of net sales and profit or loss. These adjustments are excluded from the segment measures reported to our chief operating decision maker that are used to make operating decisions and assess performance. We believe that presenting adjusted net income, adjusted net income per share that exclude certain amounts, operational net sales growth that exclude the impact of changes in foreign currency exchange rates, and adjusted free cash flow that excludes certain amounts, in addition to the corresponding GAAP financial measures, provides investors greater transparency to the information used by management for its operational decision-making and allows investors to see our results "through the eyes" of management. We further believe that providing this information assists our investors in understanding our operating performance and the methodology used by management to evaluate and measure such performance. The following is an explanation of each of the adjustments that management excluded as part of these non-GAAP financial measures as well as reasons for excluding each of these individual items. In each case, management has excluded the item for purposes of calculating the relevant non-GAAP financial measure to facilitate an evaluation of our current operating performance and a comparison to our past operating performance:
Adjusted Net Income, Adjusted Net Income per Share and Adjusted Free Cash Flow
• Amortization expense - We record intangible assets at historical cost and
amortize them over their estimated useful lives. Amortization expense is
excluded from management's assessment of operating performance and is
also excluded from our operating segments' measures of profit and loss
used for making operating decisions and assessing performance.
• Intangible asset impairment charges - This amount represents write-downs
of certain intangible asset balances during each period. We review
intangible assets subject to amortization quarterly to determine if any
adverse conditions exist or a change in circumstances has occurred that
would indicate impairment and test our indefinite-lived intangible assetsat least annually for impairment. If we determine the carrying value of
the amortizable intangible asset is not recoverable or we conclude that
it is more likely than not that the indefinite-lived asset is impaired,
we will write the carrying value down to fair value in the period
identified. Impairment charges are excluded from management's assessment
of operating performance and from our operating segments' measures of
profit and loss used for making operating decisions and assessing
performance.
• Acquisition/divestiture-related net charges (credits) or payments - These
adjustments may consist of (a) contingent consideration and Zytiga™
licensing arrangement fair value adjustments; (b) gains on previously
held investments; (c) due diligence, deal fees and other fees and costs
related to our acquisition and divestiture transactions; (d) inventory
step-up amortization and accelerated compensation expense; (e)
integration and exit costs; and (f) separation costs and gains primarily
associated with the sale of a business or portion of a business. The
contingent consideration and Zytiga licensing arrangement fair value
adjustments represent accounting adjustments to state contingent
consideration liabilities and Zytiga-related assets and liabilities attheir estimated fair value. These adjustments can be highly variable
depending on the assessed likelihood and amount of future contingent
consideration and Zytiga royalty payments. In addition, we have sold our
rights to retain any future royalties related to Zytiga. Refer to Note D
- Hedging Activities and Fair Value Measurements for further information
on the Zytiga licensing arrangement. Gains on previously held
investments, due diligence, deal fees and other fees and costs, inventory
step-up amortization, accelerated compensation expense, and other
expenses and gains associated with prior and potential future
acquisitions and divestitures can be highly variable and not
representative of ongoing operations. Integration and exit costs, include
contract cancellations,
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severance and other compensation-related charges and costs, project management fees and costs, and other direct costs associated with the integration of our acquisitions. Examples of integration and exit activities include the movement of business activities; the elimination or combination of redundant roles and business processes; the consolidation or closure of facilities and legal entities; and the transfer of product lines between manufacturing facilities. These integration and exit activities take place over a defined timeframe and have a distinct project timelines, are incremental to activities and costs that arise in the ordinary course of our business and are not considered part of our core, ongoing operations. In addition, our acquisition-related charges in 2019 included expenses for instruments entered into solely for the purpose of financing or hedging the BTG Acquisition, including net interest expense and hedging expenses. Subsequent toSeptember 30, 2019 , we did not incur and will not incur any hedging gains or losses related to the BTG Acquisition, and we are not classifying any interest expense subsequent to the BTG acquisition date as an acquisition/divestiture-related item. Acquisition/divestiture-related net charges (credits) are excluded from management's assessment of operating performance and from our operating segments' measures of profit and loss used for making operating decisions and assessing performance.
• Restructuring and restructuring-related net charges (credits) or
payments - These adjustments primarily represent compensation-related
charges, fixed asset write-offs, contract cancellations, project
management fees and other direct costs associated with our restructuring
plans. These restructuring plans each consist of distinct initiatives
that are fundamentally different from our ongoing, core cost reduction
initiatives in terms of, among other things, the frequency with which
each action is performed and the required planning, resourcing, cost and
timing. Examples of such initiatives include the movement of business
activities, facility consolidations and closures and the transfer of
product lines between manufacturing facilities, which, due to the highly
regulated nature of our industry, requires a significant investment in
time and cost to create duplicate manufacturing lines, run productvalidations and seek regulatory approvals. Restructuring initiatives take
place over a defined timeframe and have a distinct project timeline that
begins subsequent to approval by our Board of Directors. In contrast to
our ongoing cost reduction initiatives, restructuring initiatives
typically result in duplicative cost and exit costs over this period of
time, are one-time shut downs or transfers and are not considered part of
our core, ongoing operations. These restructuring plans are incremental
to the core activities that arise in the ordinary course of our business.
Restructuring and restructuring-related net charges (credits) are
excluded from management's assessment of operating performance and from
our operating segments' measures of profit and loss used for making
operating decisions and assessing performance.
• Litigation-related net charges (credits) or payments - These adjustments
include certain significant product liability and other
litigation-related charges and credits. We record these charges and
credits, which we consider to be unusual or infrequent and significant,
within the litigation-related charges line in our consolidated statements
of operations; all other legal and product liability charges, credits and
costs are recorded within selling general and administrative expenses.
Litigation-related net charges (credits) are excluded from management's
assessment of operating performance and from our operating segments'
measures of profit and loss used for making operating decisions and
assessing performance.
• EU MDR implementation charges - These adjustments represent incremental
costs or payments specific to complying with the new
Medical Device Regulation (EU MDR) for previously registered products. EU
MDR is a replacement of the existing European Medical Devices Directive
(MDD) regulatory framework, and manufacturers of medical devices are
required to comply with EU MDR beginning in
registrations and by
Certificate to the current Directives (issued before May 2020 ). We expect
to incur significant expenditures in connection with the adoption of the
EU MDR requirements and we consider the adoption of EU MDR to be a
significant change to a regulatory framework, and therefore, these
expenditures are not considered to be ordinary course expenditures in
connection with regulatory matters. As such, these medical deviceregulation charges are excluded from management's assessment of operating
performance and from our operating segments' measures of profit and loss
used for making operating decisions and assessing performance.
• Debt extinguishment net charges (credits) - These amounts relate to the
early extinguishment of certain outstanding principal amounts of our
senior notes in
(credits) are excluded from management's assessment of operating
performance and from our operating segments' measures of profit and loss
used for making operating decisions and assessing performance.
• Investment impairment charges - These amounts represent write-downs
relating to our investment portfolio that are considered unusual or
infrequent and significant. Each reporting period, we evaluate our
investments to determine if there are any events or circumstances that
are likely to have a significant adverse effect on the fair value of theinvestment. If we identify an impairment indicator, we will estimate the
fair value of the investment and compare it to its carrying
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value and determine if the impairment is other-than-temporary. For other-than-temporary impairments, we recognize an impairment loss equal to the difference between an investment's carrying value and its fair value. Certain investment impairment charges are excluded from management's assessment of operating performance and from our operating segments' measures of profit and loss used for making operating decisions and assessing performance.
• Deferred tax expenses (benefits) - This adjustment relates to a
billion non-cash tax benefit arising from an intra-entity asset transfer
of intellectual property completed in the fourth quarter of 2019. The
effects of this transfer were excluded from management's assessment of
operating performance and from our operating segments' measures of profitand loss used for making operating decisions and assessing performance.
• Discrete tax items - These items represent adjustments of certain tax
positions including those which a) are related to the finalization of the
enactment date impact of the TCJA, or b) are related to the tax
consequences of a non-GAAP adjustment item booked in a prior period.
These discrete tax items are excluded from management's assessment of
operating performance and from our operating segments' measures of profit
and loss used for making operating decisions and assessing performance.
Operational Net Sales Excluding the Impact of Foreign Currency Fluctuations
• The impact of foreign currency fluctuations is highly variable and
difficult to predict. Accordingly, management excludes the impact offoreign currency fluctuations for purposes of reviewing the net sales and
growth rates to facilitate an evaluation of our current operating
performance and a comparison to our past operating performance.
Rule 10b5-1 Trading Plans by Executive Officers
Periodically, certain of our executive officers adopt written stock trading
plans in accordance with Rule 10b5-1 under the Exchange Act and our own Stock
Trading Policy. A Rule 10b5-1 Trading Plan is a written document that
pre-establishes the amount, prices and dates (or formulas for determining the
amounts, prices and dates) of future purchases or sales of our stock, including
shares issued upon exercise of stock options or vesting of deferred stock units.
These plans are entered into at a time when the person is not in possession of
material non-public information about our company. We disclose details regarding
individual Rule 10b5-1 Trading Plans on the Investor Relations section of our
website.
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Management's Annual Report on Internal Control over Financial Reporting As the management ofBoston Scientific Corporation , we are responsible for establishing and maintaining adequate internal control over financial reporting. We designed our internal control process to provide reasonable assurance to management and the Board of Directors regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. We assessed the effectiveness of our internal control over financial reporting as ofDecember 31, 2019 . In making this assessment, we used the criteria set forth by theCommittee of Sponsoring Organizations of theTreadway Commission in Internal Control-Integrated Framework (2013 framework). Based on our assessment, we believe that, as ofDecember 31, 2019 , our internal control over financial reporting is effective at a reasonable assurance level based on these criteria.Ernst & Young LLP , an independent registered public accounting firm, has issued an audit report on the effectiveness of our internal control over financial reporting. This report, in which they expressed an unqualified opinion, is included below. The BTG plc Acquisition OnAugust 19, 2019 , we announced the closing of our acquisition ofBTG plc (BTG). In accordance with theSEC Staff 's interpretive guidance for newly acquired businesses, we are permitted to omit an assessment of an acquired business's internal control over financial reporting from our assessment of internal control for up to one year from the acquisition date. As such, we have excluded BTG from our annual assessment of internal controls over financial reporting as ofDecember 31, 2019 , as the acquisition was completed onAugust 19, 2019 . BTG represents less than 5% of total assets as ofDecember 31, 2019 and less than 5% of revenues and net income, respectively, for the year then ended. /s/Michael F. Mahoney /s/Daniel J. Brennan Michael F. Mahoney Daniel J. Brennan President and Chief Executive Officer Executive Vice President and Chief Financial Officer 58
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Report of Independent Registered Public Accounting Firm
To the Stockholders and the Board of Directors of
Opinion on Internal Control over Financial Reporting
We have auditedBoston Scientific Corporation's internal control over financial reporting as ofDecember 31, 2019 , based on criteria established in Internal Control-Integrated Framework issued by theCommittee of Sponsoring Organizations of theTreadway Commission (2013 framework) (the COSO criteria). In our opinion,Boston Scientific Corporation (the Company) maintained, in all material respects, effective internal control over financial reporting as ofDecember 31, 2019 , based on the COSO criteria.
We also have audited, in accordance with the standards of the
As indicated in the accompanying Management's Annual Report on Internal Control over Financial Reporting, management's assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls ofBTG plc , which is included in the 2019 consolidated financial statements of the Company and constituted less than 5% of total assets as ofDecember 31, 2019 and less than 5% of revenues and net income, respectively, for the year then ended. Our audit of internal control over financial reporting of the Company also did not include an evaluation of the internal control over financial reporting ofBTG plc .
Basis for Opinion
The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management's Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company's internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with theU.S. federal securities laws and the applicable rules and regulations of theSecurities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
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 (1) pertain to
the maintenance of records that, in reasonable detail, accurately and fairly
reflect the transactions and dispositions of the assets of the company; (2)
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 (3) 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.
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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. /s/Ernst & Young LLP Boston, Massachusetts February 25, 2020 60
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