RESULTS OF OPERATIONS (Tables present dollars in millions, except per-share data) General Management's discussion and analysis of results of operations and financial condition is intended to assist the reader in understanding and assessing significant changes and trends related to the results of operations and financial position of our consolidated company. This discussion and analysis should be read in conjunction with the consolidated financial statements and accompanying footnotes in Item 8 of Part II of this Annual Report on Form 10-K. Certain statements in this Item 7 of Part II of this Annual Report on Form 10-K constitute forward-looking statements. Various risks and uncertainties, including those discussed in "Forward-Looking Statements" and Item 1A, "Risk Factors", may cause our actual results, financial position, and cash generated from operations to differ materially from these forward-looking statements. Executive Overview This section provides an overview of our financial results, recent product and late-stage pipeline developments, and other matters affecting our company and the pharmaceutical industry. Earnings per share (EPS) data are presented on a diluted basis. OnMarch 11, 2019 , we completed the disposition of our remaining 80.2 percent ownership ofElanco Animal Health Incorporated (Elanco ) common stock through a tax-free exchange offer. As a result, we recognized a gain on the disposition of approximately$3.7 billion in the first quarter of 2019 and now operate as a single segment. See Note 19 to the consolidated financial statements for further discussion. Financial Results The following table summarizes our key operating results: Year Ended December 31, 2019 2018 Percent Change Revenue$ 22,319.5 $ 21,493.3 4 Gross margin 17,598.3 16,811.6 5 Gross margin as a percent of revenue 78.8 % 78.2 % Operating expense$ 11,808.8 $ 11,026.3
7
Acquired in-process research and development 239.6 1,983.9
(88)
Asset impairment, restructuring, and other special charges 575.6 266.9 NM Income before income taxes 5,265.9 3,680.1 43 Income taxes 628.0 529.5 19 Net income from continuing operations 4,637.9 3,150.6
47
Net income 8,318.4 3,232.0
NM
EPS from continuing operations 4.96 3.05 63 EPS 8.89 3.13 NM NM - not meaningful Revenue increased in 2019 driven by increased volume, partially offset by lower realized prices and the unfavorable impact of foreign exchange rates. Operating expenses increased in 2019, reflecting higher late-stage development expenses and increased marketing expenses for recently launched products, partially offset by lower marketing expenses for late life-cycle products. The increases in net income and EPS in 2019 were driven primarily by the gain recognized on the disposition ofElanco and, to a lesser extent, lower acquired in-process research and development (IPR&D) charges. In addition to the increase in net income, EPS in 2019 significantly benefited from lower weighted-average shares outstanding as a result of theElanco exchange offer and share repurchases.
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The following highlighted items affect comparisons of our 2019 and 2018 financial results: 2019 Acquired IPR&D (Note 3 to the consolidated financial statements) • We recognized acquired IPR&D charges of$239.6 million primarily related
to collaborations with AC Immune SA (AC Immune), Centrexion Therapeutics
Corporation (
Asset Impairment, Restructuring, and Other Special Charges (Note 5 to the
consolidated financial statements)
• We recognized charges of
accelerated vesting of Loxo Oncology, Inc. (Loxo) employee equity awards
as a result of the closing of the acquisition of Loxo, and, to a lesser
extent, charges associated with the decision to close and sell a research
and development facility located in the
Other-Net, (Income) Expense (Note 18 to the consolidated financial statements) •We recognized a gain of$309.8 million on the sale of the company's antibiotics business inChina . •We recognized a debt extinguishment loss of$252.5 million related to the repurchase of debt. Net Income from Discontinued Operations (Note 19 to the consolidated financial statements) •We recognized a gain related to the disposition ofElanco of approximately$3.7 billion . 2018 Acquired IPR&D (Note 3 to the consolidated financial statements) • We recognized acquired IPR&D charges of$1.98 billion primarily related to
the acquisition of
with Dicerna Pharmaceuticals, Inc. (Dicerna).
Asset Impairment, Restructuring, and Other Special Charges (Note 5 to the
consolidated financial statements)
• We recognized charges of
impairments related to the sale of the Posilac® (rbST) brand and the
related sale of the
related to our efforts to reduce our cost structure.
Income Taxes (Note 14 to the consolidated financial statements)
• We recognized
measurement period adjustments to the one-time repatriation transition tax
(also known as the 'Toll Tax') and the global intangible low-taxed income
(GILTI). Late-Stage Pipeline Our long-term success depends to a great extent on our ability to continue to discover and develop innovative pharmaceutical products and acquire or collaborate on molecules currently in development by other biotechnology or pharmaceutical companies. We have approximately 45 potential new drugs in human testing or under regulatory review and a larger number of projects in preclinical research. The following new molecular entities (NMEs) have been approved by regulatory authorities in at least one of the major geographies for use in the conditions described. The first quarter in which the NMEs initially were approved in any major geography for any indication is shown in parentheses: Galcanezumab* (Emgality®) (Q3 2018)-a once-monthly subcutaneously injected calcitonin gene-related peptide (CGRP) antibody for migraine prevention and for the treatment of episodic cluster headache. See Note 16 to the consolidated financial statements for discussion of the legal proceedings involvingTeva Pharmaceuticals International GMBH andTeva Pharmaceuticals USA, Inc. Lasmiditan (Reyvow™) (Q4 2019)-an oral 5-HT1F agonist for the acute treatment of migraine. Nasal glucagon* (Baqsimi®) (Q3 2019)-a glucagon nasal powder formulation for the treatment of severe hypoglycemia in patients with diabetes ages four years and above.
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The following NMEs and diagnostic agent have been submitted for regulatory review in at least one of the major geographies for potential use in the conditions described. The first quarter in which each NME and the diagnostic agent initially were submitted in any major geography for any indication is shown in parentheses: Flortaucipir** (Q3 2019)-a positron emission tomography (PET) tracer intended to image tau (or neurofibrillary) tangles in the brain, which are an indicator of Alzheimer's disease. Selpercatinib (Q4 2019)-an oral drug for the treatment of patients with cancers that harbor abnormalities in the rearranged during transfection (RET) kinase, specifically thyroid cancer and lung cancer. Tanezumab* (Q4 2019)-an anti-nerve growth factor monoclonal antibody for the treatment of osteoarthritis pain (in collaboration with Pfizer Inc. (Pfizer)). Ultra-rapid Lispro* (Q1 2019)-an ultra-rapid insulin for the treatment of type 1 and type 2 diabetes. The following NMEs are currently in Phase III clinical trial testing for potential use in the conditions described below but have not yet been submitted for regulatory approval for any indication. The first quarter in which each NME initially entered Phase III for any indication is shown in parentheses: Mirikizumab* (Q2 2018)-a monoclonal antibody designed for the treatment of autoimmune diseases. Solanezumab* (Q2 2009)-an anti-amyloid beta monoclonal antibody for the treatment of preclinical Alzheimer's disease. Tirzepatide* (Q4 2018)-a long-acting, combination therapy of glucose-dependent insulinotropic polypeptide (GIP) and glucagon-like peptide 1 for the treatment of type 2 diabetes and obesity. * Biologic molecule subject to theUnited States (U.S.) Biologics Price Competition and Innovation Act
** Diagnostic agent
The following table reflects the status of the recently approved products, NMEs, and diagnostic agent set forth above, as well as certain other developments to our late-stage pipeline sinceJanuary 1, 2019 : Compound Indication U.S. Europe Japan Developments Endocrinology Launched in the U.S. in third quarter of 2019. Severe Approved in Europe in the Baqsimi hypoglycemia Launched Approved Submitted fourth quarter of 2019. Submitted to the Japan regulatory authorities in 2019. Type 2 Phase III Phase III trials are diabetes ongoing. Tirzepatide Phase III trials were Obesity Phase III initiated in the fourth quarter of 2019. Submitted to regulatory authorities in Europe and Japan in the first quarter of 2019. Submitted to the Ultra-rapid Type 1 and 2 U.S. Food and Drug Lispro diabetes Submitted Administration (FDA) in the third quarter of 2019. In January 2020, the European regulatory authorities issued a positive opinion recommending approval. Immunology Crohn's Phase III trials were Disease Phase III initiated during the third quarter of 2019. Mirikizumab Psoriasis Phase III Phase III trials are ongoing. Ulcerative Phase III Phase III trials are colitis ongoing. 31
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Compound Indication U.S. Europe Japan Developments Neuroscience Submitted to European regulatory authorities in Cluster Launched Submitted Phase III the first quarter of 2019. headache Approved and launched in the U.S. in the second quarter Emgality of 2019. Launched in Europe in the Migraine first quarter of 2019. prevention Launched Submitted Submitted to Japanese regulatory authorities in January 2020. Alzheimer's Submitted to the FDA in the Flortaucipir disease Submitted Phase III third quarter of 2019. diagnostic Approved by the FDA in the fourth quarter of 2019. Acute Received Schedule V Reyvow treatment of Launched Phase III classification from the Drug migraine Enforcement Agency and launched in the U.S. in January 2020. Announced in February 2020 that a Phase III trial for people with dominantly inherited Alzheimer's Preclinical disease (DIAD) did not meet Solanezumab Alzheimer's Phase III the primary endpoint. We do disease not plan to pursue submission for DIAD. Phase III trial is ongoing for Anti-Amyloid Treatment in Asymptomatic Alzheimer's. In the third quarter of 2018 and the first quarter of 2019, announced multiple Phase III trials met several primary endpoints. In the second quarter of 2019, announced the results of the long-term Phase III study in Osteoarthritis Submitted Phase III which the 5mg dose met two pain of the three co-primary endpoints and the 2.5mg dose did not meet any of the three co-primary endpoints. In partnership with Pfizer, we submitted to the FDA in the fourth quarter of 2019 and are pursuing submission in Europe and Japan in 2020. Tanezumab In the first quarter of 2019, announced Phase III trial met primary endpoint for the 10mg dose and did not meet primary endpoint on the 5mg dose. In the third quarter of 2019, announced results from a Phase III Chronic low study evaluating long-term back pain Phase III safety and efficacy in Japan. In partnership with Pfizer, announced in the third quarter of 2019 that we are not planning regulatory submissions. We plan to maintain an open dialogue with regulatory authorities on potential future regulatory pathways. Cancer pain Phase III Phase III trial is ongoing. 32
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Compound Indication U.S. Europe Japan Developments Oncology In the first quarter of 2019, announced confirmatory phase III trial did not meet primary endpoint. As this trial did not confirm clinical benefit, we Lartruvo® Soft tissue Withdrawn Withdrawing Not Submitting suspended promotion globally sarcoma and withdrew the product in the U.S. in the third quarter of 2019. For countries in Europe, we have withdrawn or are in the process of withdrawing the product. In the fourth quarter of 2019, announced phase III trial did not meet primary Pancreatic endpoint of overall Pegilodecakin cancer Not Submitting survival. Phase II trials for other indications also did not meet primary endpoint. We do not plan to initiate any new trials. In the fourth quarter of 2019, submitted to the FDA and European regulatory Thyroid Submitted Phase III authorities based on Phase Cancer II data. Granted Selpercatinib Breakthrough Therapy (LOXO-292) Designation(1). Granted Priority Review(2) from the FDA in first quarter of 2020. Phase III trials were initiated in the fourth Lung Cancer Submitted Phase III quarter of 2019 in all major geographies. (1) The Breakthrough Therapy Designation is designed to expedite the development and review of potential medicines that are intended to treat a serious condition where preliminary clinical evidence indicates that the treatment may demonstrate substantial improvement over available therapy on a clinically significant endpoint. (2) Priority Review is designed to expedite the review of potential medicines that, if approved, would be significant improvements in the safety or effectiveness of the treatment, diagnosis, or prevention of serious conditions when compared to standard applications. There are many difficulties and uncertainties inherent in pharmaceutical research and development and the introduction of new products. There is a high rate of failure inherent in new drug discovery and development. To bring a drug from the discovery phase to market can take over a decade and often costs in excess of$2 billion . Failure can occur at any point in the process, including in later stages after substantial investment. As a result, most funds invested in research programs will not generate financial returns. New product candidates that appear promising in development may fail to reach the market or may have only limited commercial success because of efficacy or safety concerns, inability to obtain or maintain necessary regulatory approvals or payer reimbursement or coverage, limited scope of approved uses, changes in the relevant treatment standards or the availability of new or better competitive products, difficulty or excessive costs to manufacture, or infringement of the patents or intellectual property rights of others. Regulatory agencies continue to establish increasingly high hurdles for the efficacy and safety of new products. Delays and uncertainties in drug approval processes can result in delays in product launches and lost market opportunity. In addition, it can be very difficult to predict revenue growth rates of new products. We manage research and development spending across our portfolio of molecules, and a delay in, or termination of, any one project will not necessarily cause a significant change in our total research and development spending. Due to the risks and uncertainties involved in the research and development process, we cannot reliably estimate the nature, timing, and costs of the efforts necessary to complete the development of our research and development projects, nor can we reliably estimate the future potential revenue that will be generated from a successful research and development project. Each project represents only a portion of the overall pipeline, and none is individually material to our consolidated research and development expense. While we do accumulate certain research and development costs on a project level for internal reporting purposes, we must make significant cost estimations and allocations, some of which rely on data that are neither reproducible nor validated through accepted control mechanisms. Therefore, we do not have sufficiently reliable data to report on total research and development costs by project, by preclinical versus clinical spend, or by therapeutic category.
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Other Matters Patent Matters We depend on patents or other forms of intellectual-property protection for most of our revenue, cash flows, and earnings. We lost our patent exclusivity for Strattera® in theU.S. inMay 2017 , and generic versions of Strattera were approved in the same month. Following a settlement related to the compound patent challenge for Effient®, generic products launched in theU.S. in the third quarter of 2017. The entry of generic competition for these products has caused a rapid and severe decline in revenue, which, in the aggregate, has had a material adverse effect on our consolidated results of operations and cash flows. Our compound patent protection for Cialis® (tadalafil) and Adcirca® (tadalafil) expired in major European markets and theU.S. inNovember 2017 ; however, in theU.S. , we were granted pediatric exclusivity throughMay 2018 . Another later expiring patent (October 2020 ) was the subject ofU.S. patent litigation and pursuant to a settlement agreement related thereto, generic tadalafil entered the U.S. market inSeptember 2018 . We have faced and remain exposed to generic competition following the loss of exclusivity, which has rapidly and severely eroded revenue and is likely to continue to erode revenue. Our formulation patents for Forteo® expired inDecember 2018 , and our use patents expired inAugust 2019 in major European markets and theU.S. Both the formulation patent and the use patent expired inAugust 2019 inJapan . We expect further volume decline as a result of the entry of generic and biosimilar competition following the loss of patent exclusivity in these markets. In the aggregate, we expect that the decline in revenue will have a material adverse effect on our consolidated results of operations and cash flows. The Alimta® vitamin regimen patents, which we expect to provide us with patent protection for Alimta throughJune 2021 inJapan and major European countries, and throughMay 2022 in theU.S. , have been challenged in each of these jurisdictions. In theU.S. , we and Eagle Pharmaceuticals, Inc. (Eagle) reached an agreement inDecember 2019 to settle all pending litigation, allowing Eagle a limited initial entry into the market with its product startingFebruary 2022 (up to an approximate three-week supply) and subsequent unlimited entry startingApril 2022 . Our vitamin regimen patents have also been challenged in other smaller European jurisdictions. Our compound patent for Alimta expired in theU.S. inJanuary 2017 , and expired in major European countries andJapan inDecember 2015 . We are aware that several companies have received approval to market generic versions of pemetrexed in major European markets (includingGermany ,France , andthe Netherlands ) and that additional generic competitors may choose to launch at risk. Although we will continue to seek to remove any such products, generic product entry is resulting in some loss in revenue in these jurisdictions. We expect that further entry of generic competition for Alimta following the loss of effective patent protection will cause a rapid and severe decline in revenue for the product, which will, in the aggregate, have a material adverse effect on our consolidated results of operations and cash flows. See Note 16 to the consolidated financial statements for a more detailed account of the legal proceedings currently pending in theU.S. ,Europe , andJapan regarding our Alimta patents. The compound patent for Humalog® (insulin lispro) has expired in major markets. Global regulators have different legal pathways to approve similar versions of insulin lispro. A competitor launched a similar version of insulin lispro in certain European markets in 2017 and in theU.S. in the second quarter of 2018. While it is difficult to estimate the severity of the impact of insulin lispro products entering the market, we do not expect and have not experienced a rapid and severe decline in revenue; however, we expect additional pricing pressure and some loss of market share that would continue over time. Foreign Currency Exchange Rates As a global company with substantial operations outside theU.S. , we face foreign currency risk exposure from fluctuating currency exchange rates, primarily theU.S. dollar against the euro and Japanese yen. While we manage a portion of these exposures through hedging and other risk management techniques, significant fluctuations in currency rates can have a substantial impact, either positive or negative, on our revenue, cost of sales, and operating expense. While there is uncertainty in the future movements in foreign exchange rates, fluctuations in these rates could negatively impact our future consolidated results of operations and cash flows.
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Trends Affecting Pharmaceutical Pricing, Reimbursement, and AccessU.S. In theU.S. , public concern over access to and affordability of pharmaceuticals continues to drive the regulatory and legislative debate. These policy and political issues increase the risk that taxes, fees, rebates, or other cost control measures may be enacted to manage federal and state budgets. Key health policy initiatives affecting biopharmaceuticals include: • foreign reference pricing in Medicare and private insurance,
• modifications to Medicare Parts B and D,
• provisions that would allow the
negotiate prices for biologics and drugs in Medicare,
• a reduction in biologic data exclusivity,
• proposals related to Medicaid prescription drug coverage and manufacturer
drug rebates,
• proposals that would require biopharmaceutical manufacturers to disclose
proprietary drug pricing information; and
• state-level proposals related to prescription drug prices and reducing the
cost of pharmaceuticals purchased by government health care programs.
California and several other states have enacted legislation related to prescription drug pricing transparency and it is unclear the effect this legislation will have on our business. The Bipartisan Budget Act, enacted inFebruary 2018 , requires manufacturers of brand-name drugs, biologics, and biosimilars to pay a 70 percent discount in the Medicare Part D Coverage Gap, up from the previous 50 percent discount. This increase in coverage gap discounts became effective at the beginning of 2019. In 2019, theWhite House signed into law targeted amendments to the Medicaid Drug Rebate Program statute, as well as the Fair and Accurate Medicaid Pricing Act, which was part of the Continuing Appropriations Act. We do not believe these will have a material impact to our business. Several states passed importation legislation, includingColorado ,Florida ,Maine , andVermont . Specifically, the state ofFlorida is working with the Administration to implement an importation program fromCanada as early as 2020. We are currently reviewing the state legislation, as well as corresponding proposed federal rulemaking and guidance recently published by theDepartment of Health and Human Services and the FDA, the impact of which is uncertain at this time. In the private sector, consolidation and integration among healthcare providers is also a major factor in the competitive marketplace for pharmaceuticals. Health plans, pharmacy benefit managers, wholesalers, and other supply chain stakeholders have been consolidating into fewer, larger entities, increasingly through vertical integration, thus enhancing their purchasing strength and importance. Payers typically maintain formularies which specify coverage (the conditions under which drugs are included on a plan's formulary) and reimbursement (the associated out-of-pocket cost to the consumer). Formulary placement can lead to reduced usage of a drug for the relevant patient population due to coverage restrictions, such as prior authorizations and formulary exclusions, or due to reimbursement limitations that result in higher consumer out-of-pocket cost, such as non-preferred co-pay tiers, increased co-insurance levels and higher deductibles. Consequently, pharmaceutical companies compete for formulary placement not only on the basis of product attributes such as greater efficacy, fewer side effects, or greater patient ease of use, but also by providing rebates. Value-based agreements are another tool which may be utilized between payers and pharmaceutical companies as formulary placement and pricing are negotiated. Price is an increasingly important factor in formulary decisions, particularly in treatment areas in which the payer has taken the position that multiple branded products are therapeutically comparable. These downward pricing pressures could continue to negatively affect future consolidated results of operations. In addition to formulary placement, changes in insurance designs continue to drive greater consumer cost sharing through high deductible plans and higher co-insurance or co-pays (including co-pay accumulator and maximizer programs). We continue to invest in patient affordability solutions (resulting in lower revenue) in an effort to assist patients in affording their medicines.
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The main coverage expansion provisions of the Affordable Care Act (ACA) are currently in effect through both state-based exchanges and the expansion of Medicaid. A trend has been the prevalence of benefit designs containing high out-of-pocket costs for patients, particularly for pharmaceuticals. In addition to the coverage expansions, many employers in the commercial market continue to evaluate strategies such as private exchanges and wider use of consumer-driven health plans to reduce their healthcare liabilities over time. Federal legislation, litigation, or administrative actions to repeal or modify some or all of the provisions of the ACA could have a material adverse effect on our consolidated results of operations and cash flows. At the same time, the broader paradigm shift towards performance-based reimbursement and the launch of several value-based purchasing initiatives have placed demands on the pharmaceutical industry to offer products with proven real-world outcomes data and a favorable economic profile. International International operations also are generally subject to extensive price and market regulations. Cost-containment measures exist in a number of countries, including additional price controls and mechanisms to limit reimbursement for our products. Such policies are expected to increase in impact and reach, given the pressures on national and regional health care budgets that come from a growing aging population and ongoing economic challenges. As additional reforms are finalized, we will assess their impact on future revenues. In addition, governments in many emerging markets are becoming increasingly active in expanding health care system offerings. Given the budget challenges of increasing health care coverage for citizens, policies may be proposed that promote generics and biosimilars only and reduce current and future access to branded human pharmaceutical products. Tax Matters We are subject to income taxes and various other taxes in theU.S. and in many foreign jurisdictions; therefore, changes in both domestic and international tax laws or regulations could adversely affect our effective tax rate, results of operations, and cash flows. Countries around the world, including theU.S. , actively consider and enact tax law changes. Further, actions taken with respect to tax-related matters by associations such as theOrganisation for Economic Co-operation and Development and theEuropean Commission could influence tax policy in countries in which we operate. Modifications toU.S. and foreign tax laws or regulations are frequently enacted and could result in material impacts to our results of operations and financial position. Acquisitions We strategically invest in external research and technologies that we believe to complement and strengthen our own efforts. These investments can take many forms, including licensing arrangements, collaborations, and acquisitions. We view our business development activity as an important way to achieve our strategies, as we seek to bolster our pipeline and enhance shareholder value. We continue to evaluate business development transactions that have the potential to strengthen our business. InFebruary 2019 , we acquired all shares of Loxo for a purchase price of$6.92 billion , net of cash acquired. Under the terms of the agreement, we acquired a pipeline of investigational medicines, including selpercatinib (LOXO-292), an oral RET inhibitor that has been granted Breakthrough Therapy designation by the FDA, and LOXO-305, an oral BTK inhibitor. OnJanuary 10, 2020 , we announced an agreement to acquire Dermira, Inc. for a purchase price of$18.75 per share, or approximately$1.1 billion .The acquisition will expand our immunology pipeline with the addition of lebrikizumab, a novel, investigational, monoclonal antibody designed to bind IL-13 with high affinity that is being evaluated in a Phase III clinical development program for the treatment of moderate-to-severe atopic dermatitis. Lebrikizumab was granted Fast Track designation from the FDA. TheFDA's fast track designation is designed to expedite the development and review of new therapies to treat serious conditions and address unmet medical needs.The acquisition will also expand our portfolio of marketed dermatology medicines with the addition of Qbrexza® (glycopyrronium) cloth, a medicated cloth approved by the FDA for the topical treatment of primary axillary hyperhidrosis (uncontrolled excessive underarm sweating). The transaction is not subject to any financing condition and is expected to close by the end of the first quarter of 2020, subject to customary closing conditions, including receipt of required regulatory approvals and the tender of a majority of the outstanding shares of Dermira's common stock. See Note 3 to the consolidated financial statements for further discussion regarding our recent acquisitions.
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Operating Results-2019 Revenue The following table summarizes our revenue activity by region: Year Ended December 31, 2019 2018 Percent Change U.S.(1)$ 12,722.6 $ 12,391.9 3 Outside U.S. 9,596.8 9,101.4 5 Revenue$ 22,319.5 $ 21,493.3 4 Numbers may not add due to rounding. (1)U.S. revenue includes revenue inPuerto Rico . The following are components of the change in revenue compared with the prior year: 2019 vs. 2018 U.S. Outside U.S. Consolidated Volume 6 % 10 % 8 % Price (3 )% (1 )% (3 )%
Foreign exchange rates - % (3 )% (1 )% Percent change
3 % 5 % 4 % Numbers may not add due to rounding. In theU.S. , the revenue increase in 2019 was driven by increased volume for Trulicity®, Taltz®, Verzenio®, Jardiance®, Emgality, and Basaglar®. The increase in revenue was partially offset by decreased volume for products that have lost exclusivity, primarily Cialis, lower volume for Forteo, and the impact from the product withdrawal of Lartruvo®. Additionally, the increase in revenue was partially offset by lower realized prices for several products, primarily Trulicity. Outside theU.S. , the revenue increase in 2019 was primarily driven by increased volume for Trulicity, Olumiant®, Taltz, and Jardiance. The increase in revenue was partially offset by the unfavorable impact of foreign exchange rates and, to a lesser extent, lower realized prices.
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The following table summarizes our revenue activity in 2019 compared with 2018: Year Ended December 31, 2019 2018 Product U.S.(1) Outside U.S. Total Total Percent Change Trulicity$ 3,155.2 $ 972.7 $ 4,127.8 $ 3,199.1 29 Humalog(2) 1,669.7 1,151.0 2,820.7 2,996.5 (6) Alimta 1,219.5 896.4 2,115.8 2,132.9 (1) Forteo 645.5 759.1 1,404.7 1,575.6 (11) Taltz 1,016.8 349.6 1,366.4 937.5 46 Humulin® 879.7 410.4 1,290.1 1,331.4 (3) Basaglar 876.2 236.3 1,112.6 801.2 39 Jardiance(3) 565.9 378.3 944.2 658.3 43 Cyramza® 335.3 589.9 925.1 821.4 13 Cialis 231.7 658.8 890.5 1,851.8 (52) Cymbalta® 49.6 675.8 725.4 708.0 2 Trajenta®(4) 224.8 365.8 590.6 574.7 3 Verzenio 454.8 124.9 579.7 255.0 NM Erbitux® 487.9 55.4 543.4 635.3 (14) Olumiant 42.2 384.7 426.9 202.5 NM Zyprexa® 41.0 377.6 418.7 471.3 (11) Strattera 30.8 211.7 242.5 450.8 (46) Emgality 154.9 7.7 162.5 4.9 NM Other products 641.1 990.7 1,631.9 1,885.1 (13) Revenue$ 12,722.6 $ 9,596.8 $ 22,319.5 $ 21,493.3 4 Numbers may not add due to rounding. NM - Not meaningful (1)U.S. revenue includes revenue inPuerto Rico . (2) Humalog revenue includes insulin lispro. (3) Jardiance revenue includes Glyxambi® and Synjardy®.
(4) Trajenta revenue includes Jentadueto®.
Revenue of Trulicity, a treatment for type 2 diabetes, increased 25 percent in theU.S. , driven by higher demand, partially offset by lower realized prices. Revenue outside theU.S. increased 42 percent primarily driven by increased volume, partially offset by the unfavorable impact of foreign exchange rates and, to a lesser extent, lower realized prices. Revenue of Humalog, an injectable human insulin analog for the treatment of diabetes, decreased 7 percent in theU.S. , primarily driven by lower realized prices and decreased demand. Revenue outside theU.S. decreased 5 percent, primarily driven by the unfavorable impact of foreign exchange rates. Included in the revenue of Humalog in theU.S. is our own insulin lispro authorized generic, which was launched in the second quarter of 2019 in order to lower out-of-pocket costs for patients. A competitor launched a similar version of insulin lispro in certain European markets in 2017 and in theU.S. in the second quarter of 2018. While it is difficult to estimate the severity of the impact of similar insulin lispro products entering the market, we do not expect and have not experienced a rapid severe decline in revenue. However, due to the impact of competition and due to pricing pressure in theU.S. and some international markets, we expect some price decline and loss of market share to continue over time.
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Revenue of Alimta, a treatment for various cancers, increased 8 percent in theU.S. , driven by increased demand, partially offset by lower realized prices. Revenue outside theU.S. decreased 11 percent, driven by lower realized prices, and to a lesser extent, the unfavorable impact of foreign exchange rates and lower volume resulting from the entry of generic pemetrexed inGermany . We have faced and remain exposed to generic entry in multiple countries, which has eroded revenue and is likely to continue to erode revenue in those countries from current levels. Revenue of Forteo, an injectable treatment for osteoporosis in postmenopausal women and men at high risk for fracture and for glucocorticoid-induced osteoporosis in men and postmenopausal women, decreased 15 percent in theU.S. , primarily driven by decreased demand. Revenue outside theU.S. decreased 7 percent, driven by decreased volume and, to a lesser extent, the unfavorable impact of foreign exchange rates and lower realized prices. We expect further volume decline as a result of competitive dynamics in theU.S. and the entry of generic and biosimilar competition following the loss of patent exclusivity in the third quarter of 2019 in theU.S. ,Japan , and major European markets. See "Executive Overview - Other Matters - Patent Matters" for more information. Revenue of Taltz, a treatment for moderate-to-severe plaque psoriasis, active psoriatic arthritis, and ankylosing spondylitis, increased 38 percent in theU.S. , primarily driven by increased demand, partially offset by lower realized prices. Revenue outside theU.S. increased 76 percent, driven by increased volume from recent launches, partially offset by the unfavorable impact of foreign exchange rates. Revenue of Humulin, an injectable human insulin for the treatment of diabetes, decreased 3 percent in theU.S. , driven by lower realized prices, partially offset by increased volume. Revenue outside theU.S. decreased 3 percent, primarily driven by the unfavorable impact of foreign exchange rates, partially offset by increased volume and, to a lesser extent, higher realized prices. Revenue of Basaglar, a long-acting human insulin analog for the treatment of diabetes, increased 41 percent in theU.S. , driven by higher realized prices and increased demand. Revenue outside theU.S. increased 32 percent driven by increased volume, partially offset by the unfavorable impact of foreign exchange rates and, to a lesser extent, lower realized prices. Revenue of Jardiance, a treatment for type 2 diabetes and to reduce the risk of cardiovascular death in adult patients with type 2 diabetes and established cardiovascular disease, increased 41 percent in theU.S. , driven by increased demand. Revenue outside theU.S. increased 47 percent, primarily driven by increased volume, partially offset by the unfavorable impact of foreign exchange rates. Revenue of Cyramza, a treatment for various cancers, increased 15 percent in theU.S. , driven by increased demand and, to a lesser extent, higher realized prices. Revenue outside theU.S. increased 11 percent, primarily due to increased volume, partially offset by the unfavorable impact of foreign exchange rates and lower realized prices. Revenue of Cialis, a treatment for erectile dysfunction and benign prostatic hyperplasia, decreased 79 percent in theU.S. , driven by decreased demand due to generic competition. Revenue outside theU.S. decreased 9 percent, driven by the unfavorable impact of foreign exchange rates, lower volume due to the loss of exclusivity inEurope and, to a lesser extent, lower realized prices. We lost our compound patent protection for Cialis in major European markets inNovember 2017 andU.S. exclusivity ended in lateSeptember 2018 . We have faced and remain exposed to generic competition following the loss of exclusivity, which has eroded revenue and is likely to continue to rapidly and severely erode revenue from current levels. See "Results of Operations - Executive Overview - Other Matters - Patent Matters" for more information. Gross Margin, Costs, and Expenses Gross margin as a percent of total revenue was 78.8 percent in 2019, an increase of 0.6 percentage points compared with 2018, primarily due to the favorable impact of foreign exchange rates on international inventories sold and lower intangibles amortization expense, partially offset by unfavorable product mix, the impact of lower realized prices on revenue, and charges resulting from the product withdrawal of Lartruvo. Research and development expenses increased 11 percent to$5.60 billion in 2019 driven by higher late-stage development expenses. Marketing, selling, and administrative expenses increased 4 percent to$6.21 billion in 2019 primarily due to increased marketing expenses for recently launched products, partially offset by lower expenses for late life-cycle products.
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We recognized acquired IPR&D charges of$239.6 million in 2019 resulting from business development transactions with AC Immune,Centrexion , ImmuNext, and Avidity. In 2018, we recognized acquired IPR&D charges of$1.98 billion primarily related to the acquisition of ARMO and the collaboration with Dicerna. We recognized asset impairment, restructuring, and other special charges of$575.6 million in 2019. The charges were primarily associated with the accelerated vesting of Loxo employee equity awards as part of the closing of the acquisition of Loxo, and, to a lesser extent, the charges associated with the decision to close and sell a research and development facility located in theU.K. In 2018, we recognized$266.9 million of asset impairment, restructuring, and other special charges primarily associated with asset impairments related to the sale of the Posilac (rbST) brand and the related sale of theAugusta, Georgia manufacturing site and with expenses associated with efforts to reduce our cost structure. Other-net, (income) expense was income of$291.6 million in 2019 compared to income of$145.6 million in 2018 primarily driven by higher net gains on investment securities and the gain on the sale of the company's antibiotics business inChina , partially offset by the charge related to the repurchase of debt and higher net interest expense. Our effective tax rate was 11.9 percent in 2019, compared with 14.4 percent in 2018. The higher effective tax rate in 2018 was primarily due to non-deductible acquired IPR&D charges. Operating Results-2018 Financial Results The following table summarizes our key operating results: Year Ended December 31, 2018 2017 Percent Change Revenue$ 21,493.3 $ 19,973.8 8 Gross margin 16,811.6 15,526.1 8 Gross margin as a percent of revenue 78.2 % 77.7 % Operating expense$ 11,026.3 $ 11,078.6
-
Acquired in-process research and development 1,983.9 1,112.6
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Asset impairment, restructuring, and other special charges 266.9 1,331.6 (80) Income before income taxes 3,680.1 2,304.8 60 Income taxes 529.5 2,391.2 (78)
Net income (loss) from continuing operations 3,150.6 (86.4 ) NM Net income (loss)
3,232.0 (204.1 ) NM Earnings (loss) per share from continuing operations 3.05 (0.08 ) NM Earnings (loss) per share 3.13 (0.19 ) NM NM - not meaningful Revenue increased in 2018 driven by increased volume and, to a lesser extent, the favorable impact of foreign exchange rates, partially offset by lower realized prices. The increases in net income and EPS in 2018 were driven by lower income taxes, higher gross margin, and lower asset impairment, restructuring, and other special charges, partially offset by higher acquired IPR&D charges.
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Certain items affect the comparisons of our 2018 and 2017 results. The 2018
highlighted items are summarized in the "Results of Operations - Executive
Overview" section. The 2017 highlighted items are summarized as follows:
Acquired IPR&D (Note 3 to the consolidated financial statements)
• We recognized acquired IPR&D charges of
the acquisition of
Asset Impairment, Restructuring, and Other Special Charges (Note 5 to the
consolidated financial statements)
• We recognized charges of
to reduce our cost structure, including the
retirement program.
Income Taxes (Note 14 to the consolidated financial statements)
• We recognized a provisional tax expense of
Cuts and Jobs Act (2017 Tax Act).
Revenue
The following table summarizes our revenue activity by region:
Year Ended December 31, 2018 2017 Percent Change U.S. (1)$ 12,391.9 $ 11,414.4 9 Outside U.S. 9,101.4 8,559.4 6 Revenue$ 21,493.3 $ 19,973.8 8 Numbers may not add due to rounding. (1)U.S. revenue includes revenue inPuerto Rico . The following are components of the change in revenue in 2018 compared with 2017: 2018 vs. 2017 U.S. Outside U.S. Consolidated Volume 9 % 8 % 9 % Price (1 )% (4 )% (2 )%
Foreign exchange rates - % 2 % 1 % Percent change
9 % 6 % 8 % Numbers may not add due to rounding. In theU.S. , the revenue increase in 2018 was driven by increased volume for newer products, including Trulicity, Basaglar, Taltz, Verzenio, and Jardiance. The increase in revenue was partially offset by decreased volume for products that have lost exclusivity, including Cialis, Effient, and Strattera, as well as lower realized prices for several products, including Trulicity, Basaglar, Forteo, and Taltz. Outside theU.S. , the revenue increase in 2018 was due to increased volume for several newer products, primarily driven by Trulicity, Olumiant, and Taltz and, to a lesser extent, the favorable impact of foreign exchange rates. The increase in revenue was partially offset by lower realized prices for several products.
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The following table summarizes our revenue activity in 2018 compared with 2017: Year Ended December 31, 2018 2017 Product U.S.(1) Outside U.S. Total Total Percent Change Trulicity$ 2,515.8 $ 683.3 $ 3,199.1 $ 2,029.8 58 Humalog 1,787.8 1,208.7 2,996.5 2,865.2 5 Alimta 1,131.0 1,001.9 2,132.9 2,062.5 3 Cialis 1,129.2 722.7 1,851.8 2,323.1 (20 ) Forteo 757.9 817.7 1,575.6 1,749.0 (10 ) Humulin 910.2 421.2 1,331.4 1,335.4 - Taltz 738.7 198.7 937.5 559.2 68 Cyramza 291.5 529.9 821.4 758.3 8 Basaglar 622.8 178.5 801.2 432.1 85 Cymbalta 54.3 653.7 708.0 757.2 (6 ) Jardiance(2) 400.2 258.1 658.3 447.5 47 Erbitux 531.6 103.8 635.3 645.9 (2 ) Trajenta(3) 224.2 350.5 574.7 537.9 7 Zyprexa 36.2 435.1 471.3 581.2 (19 ) Strattera 89.7 361.1 450.8 618.2 (27 ) Other products 1,170.8 1,176.5 2,347.5 2,271.3 3 Revenue$ 12,391.9 $ 9,101.4 $ 21,493.3 $ 19,973.8 8 Numbers may not add due to rounding. (1)U.S. revenue includes revenue inPuerto Rico . (2) Jardiance revenue includes Glyxambi and Synjardy. (3) Trajenta revenue includes Jentadueto. Revenue of Trulicity increased 56 percent in theU.S. , driven by higher demand. Revenue outside theU.S. increased 63 percent primarily driven by increased volume and, to a lesser extent, the favorable impact of foreign exchange rates, partially offset by lower realized prices. Revenue of Humalog increased 4 percent in theU.S. , primarily driven by increased demand and, to a lesser extent, higher realized prices due to changes in estimates to rebates and discounts. Revenue outside theU.S. increased 5 percent, driven by increased volume and, to a lesser extent, the favorable impact of foreign exchange rates, partially offset by lower realized prices. Revenue of Alimta increased 9 percent in theU.S. , driven by increased demand and higher realized prices. Revenue outside theU.S. decreased 3 percent, driven by lower volume due to competitive pressure and the loss of exclusivity in certain European countries, includingGermany , and lower realized prices, partially offset by the favorable impact of foreign exchange rates. Revenue of Cialis decreased 17 percent in theU.S. , driven by decreased demand primarily due to the entry of generic tadalafil, partially offset by higher realized prices. Revenue outside theU.S. decreased 25 percent, driven by the loss of exclusivity inEurope . Revenue of Forteo decreased 21 percent in theU.S. , driven by decreased demand, and, to a lesser extent, lower realized prices. Revenue outside theU.S. increased 4 percent, driven by increased volume and the favorable impact of foreign exchange rates, partially offset by lower realized prices. Revenue of Humulin increased 3 percent in theU.S. , driven by increased volume, partially offset by lower realized prices primarily due to changes in segment mix and, to a lesser extent, the impact of patient affordability programs. Revenue outside theU.S. decreased 7 percent, primarily driven by decreased volume and, to a lesser extent, lower realized prices.
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Revenue of Taltz increased 52 percent in theU.S. , primarily driven by increased demand, partially offset by lower realized prices. Revenue outside theU.S. increased$125.6 million , driven by increased volume from recent launches, partially offset by lower realized prices. Revenue of Cyramza increased 5 percent in theU.S. , driven by increased demand and, to a lesser extent, higher realized prices. Revenue outside theU.S. increased 10 percent, primarily due to increased volume and, to a lesser extent, the favorable impact of foreign exchange rates, partially offset by lower realized prices. Revenue of Basaglar increased$311.7 million in theU.S. , driven by increased demand, partially offset by lower realized prices due to increased volume in Medicare Part D. Revenue outside theU.S. increased$57.5 million primarily driven by increased volume. Revenue of Cymbalta, a treatment for major depressive disorder, diabetic peripheral neuropathic pain, generalized anxiety disorder, chronic musculoskeletal pain, and the management of fibromyalgia, decreased 53 percent in theU.S. driven by decreased volume, partially offset by higher realized prices. Revenue outside theU.S. increased 2 percent, driven by increased volume inJapan . Gross Margin, Costs, and Expenses Gross margin as a percent of total revenue was 78.2 percent in 2018, an increase of 0.5 percentage points compared with 2017, primarily due to manufacturing efficiencies and lower amortization expenses, offset by the impact of foreign exchange rates on international inventories sold, the timing of manufacturing production, and the negative impact of price on revenue. Research and development expenses decreased 1 percent to$5.05 billion in 2018 driven by lower development expenses for lanabecestat, partially offset by higher expenses for other late-stage assets. Marketing, selling, and administrative expenses remained flat in 2018 compared to 2017. Both research and development expenses and marketing, selling, and administrative expenses benefited during 2018 from actions taken to reduce our cost structure. We recognized acquired IPR&D charges of$1.98 billion in 2018 primarily related to the acquisition of ARMO and the collaboration with Dicerna. In 2017, we recognized acquired IPR&D charges of$1.11 billion primarily related to the acquisition of CoLucid. We recognized asset impairment, restructuring, and other special charges of$266.9 million in 2018. The charges are primarily associated with asset impairments related to the sale of the Posilac (rbST) brand and the related sale of theAugusta, Georgia manufacturing site and with expenses associated with efforts to reduce our cost structure. In 2017, we recognized$1.33 billion of asset impairment, restructuring, and other special charges primarily associated with efforts to reduce our cost structure, including theU.S. voluntary early retirement program, and asset impairments related to lower projected revenue for Posilac (rbST). Other-net, (income) expense was income of$145.6 million in 2018 compared to income of$301.5 million in 2017 driven by lower net gains on sales of investments. During 2018, we recorded income tax expense of$529.5 million while earning$3.68 billion of income before income taxes. We recognized$313.3 million of income tax benefit primarily due to measurement period adjustments to the Toll Tax and GILTI. During 2017, we recorded income tax expense of$2.40 billion , which included a provisional tax charge of$1.91 billion , despite earning$2.30 billion of income before income taxes. The provisional tax charge was a result of the 2017 Tax Act, including the Toll Tax.
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FINANCIAL CONDITION Cash and cash equivalents decreased to$2.34 billion as ofDecember 31, 2019 , compared with$7.32 billion atDecember 31, 2018 . Net cash provided by operating activities was$4.84 billion in 2019, compared with$5.52 billion in 2018. Net cash provided by operating activities in 2019 included approximately$360 million of cash paid to settle the accelerated vesting of Loxo employee equity awards (see Note 5 to the consolidated financial statements). Net cash provided by operating activities in 2018 included approximately$500 million of net cash provided by operating activities related to our discontinued operations (See Note 19 to the consolidated financial statements). Refer to the consolidated statements of cash flows for additional details on the significant sources and uses of cash for the years endedDecember 31, 2019 and 2018. In addition to our cash and cash equivalents, we held total investments of$2.06 billion and$2.09 billion as ofDecember 31, 2019 and 2018, respectively. See Note 7 to the consolidated financial statements for additional details. InFebruary 2019 , we completed our acquisition of Loxo for$235 per share or approximately$6.9 billion , which was funded through a mixture of cash and debt. See Note 3 to the consolidated financial statements for additional information. As ofDecember 31, 2019 , total debt was$15.32 billion , an increase of$5.02 billion compared with$10.30 billion atDecember 31, 2018 . The increase primarily related to the net proceeds of$4.45 billion from the issuance of senior notes inFebruary 2019 . The proceeds from these notes were used to repay commercial paper that was issued in connection with the acquisition of Loxo and for general corporate purposes. See Note 11 to the consolidated financial statements for additional details. As ofDecember 31, 2019 , we had a total of$5.21 billion of unused committed bank credit facilities,$5.00 billion of which is available to support our commercial paper program. See Note 11 to the consolidated financial statements for additional details. We believe that amounts accessible through existing commercial paper markets should be adequate to fund any short-term borrowing needs. For the 134th consecutive year, we distributed dividends to our shareholders. Dividends of$2.58 per share and$2.25 per share were paid in 2019 and 2018, respectively. In the fourth quarter of 2019, effective for the dividend to be paid in the first quarter of 2020, the quarterly dividend was increased to$0.74 per share, resulting in an indicated annual rate for 2020 of$2.96 per share. Capital expenditures of$1.03 billion during 2019, compared to$1.21 billion in 2018. In 2019, we repurchased$4.40 billion of shares under our$8.00 billion share repurchase program authorized inJune 2018 . As ofDecember 31, 2019 , we had$1.50 billion remaining under this program. See Note 13 to the consolidated financial statements for additional details. OnMarch 11, 2019 , we completed the disposition of our remaining 80.2 percent ownership ofElanco common stock through a tax-free exchange offer, which resulted in a reduction in shares of our common stock outstanding by approximately 65 million as of that date. InJanuary 2020 , we announced an agreement to acquire Dermira, Inc. for$18.75 per share, or approximately$1.1 billion . The acquisition will be funded through cash on hand and the issuance of commercial paper. See Note 3 to the consolidated financial statements for additional information. See "Results of Operations - Executive Overview - Other Matters - Patent Matters" for information regarding recent and upcoming losses of patent protection. We believe cash provided by operating activities, along with available cash and cash equivalents, should be sufficient to fund our normal operating needs, including installment payments of the Toll Tax, dividends paid to shareholders, share repurchases, and capital expenditures. Both domestically and abroad, we continue to monitor the potential impacts of the economic environment; the creditworthiness of our wholesalers and other customers, including foreign government-backed agencies and suppliers; the uncertain impact of health care legislation; and various international government funding levels. In the normal course of business, our operations are exposed to fluctuations in interest rates and currency values. These fluctuations can vary the costs of financing, investing, and operating. We seek to address a portion of these risks through a controlled program of risk management that includes the use of derivative financial instruments. The objective of this risk management program is to limit the impact on earnings of fluctuations in interest and currency exchange rates. All derivative activities are for purposes other than trading.
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Our primary interest rate risk exposure results from changes in short-termU.S. dollar interest rates. In an effort to manage interest rate exposures, we strive to achieve an acceptable balance between fixed and floating rate debt positions and may enter into interest rate derivatives to help maintain that balance. Based on our overall interest rate exposure atDecember 31, 2019 and 2018, including derivatives and other interest rate risk-sensitive instruments, a hypothetical 10 percent change in interest rates applied to the fair value of the instruments as ofDecember 31, 2019 and 2018, respectively, would not have a material impact on earnings, cash flows, or fair values of interest rate risk-sensitive instruments over a one-year period. Our foreign currency risk exposure results from fluctuating currency exchange rates, primarily theU.S. dollar against the euro and Japanese yen. We face foreign currency exchange exposures when we enter into transactions arising from subsidiary trade and loan payables and receivables denominated in foreign currencies. We also face currency exposure that arises from translating the results of our global operations to theU.S. dollar at exchange rates that have fluctuated from the beginning of the period. We may enter into foreign currency forward or option derivative contracts to reduce the effect of fluctuating currency exchange rates (principally the euro and the Japanese yen). Our corporate risk-management policy outlines the minimum and maximum hedge coverage of such exposures. Gains and losses on these derivative contracts offset, in part, the impact of currency fluctuations on the existing assets and liabilities. We periodically analyze the fair values of the outstanding foreign currency derivative contracts to determine their sensitivity to changes in foreign exchange rates. A hypothetical 10 percent change in exchange rates (primarily against theU.S. dollar) applied to the fair values of our outstanding foreign currency derivative contracts as ofDecember 31, 2019 and 2018, would not have a material impact on earnings, cash flows, or financial position over a one-year period. This sensitivity analysis does not consider the impact that hypothetical changes in exchange rates would have on the underlying foreign currency denominated transactions. Off-Balance Sheet Arrangements and Contractual Obligations We have no off-balance sheet arrangements that have a material current effect or that are reasonably likely to have a material future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources. We acquire and collaborate on potential products still in development and enter into research and development arrangements with third parties that often require milestone and royalty payments to the third party contingent upon the occurrence of certain future events linked to the success of the asset in development. Milestone payments may be required contingent upon the successful achievement of an important point in the development life cycle of the pharmaceutical product (e.g., approval for marketing by the appropriate regulatory agency or upon the achievement of certain sales levels). If required by the arrangement, we may make royalty payments based upon a percentage of the sales of the product in the event that regulatory approval for marketing is obtained. Because of the contingent nature of these payments, they are not included in the table of contractual obligations below. Individually, these arrangements are generally not material in any one annual reporting period. However, if milestones for multiple products covered by these arrangements were reached in the same reporting period, the aggregate charge to expense or aggregate milestone payments made could be material to our results of operations or cash flows, respectively, in that period. See Note 4 to the consolidated financial statements for additional details. These arrangements often give us the discretion to unilaterally terminate development of the product, which would allow us to avoid making the contingent payments; however, we are unlikely to cease development if the compound successfully achieves milestone objectives. We also note that, from a business perspective, we view these payments as positive because they signify that the product is successfully moving through development and is now generating or is more likely to generate cash flows from sales of products.
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Our current noncancelable contractual obligations that will require future cash
payments were as follows as of
Payments Due by Period Less Than 1-3 3-5 More Than (Dollars in millions) Total 1 Year Years Years 5 Years Long-term debt, including interest payments(1)$ 20,934.9 $ 382.2 $ 2,173.8 $ 1,381.3 $ 16,997.6 Finance lease obligations 19.0 7.0 8.8 3.2 - Operating lease liabilities 720.4 138.1 193.3 116.3 272.7 Purchase obligations(2) 15,897.1 15,452.8 239.6 204.7 - 2017 Tax Act Toll Tax(3) 2,630.0 225.3 507.4 1,109.9 787.4 Other long-term liabilities reflected on our balance sheet(4) 1,800.1 - 421.2 193.8 1,185.1 Total$ 42,001.5 $ 16,205.4 $ 3,544.1 $ 3,009.2 $ 19,242.8 (1) Our long-term debt obligations include both our expected principal and interest obligations and our interest rate swaps. We used the interest rate forward curve atDecember 31, 2019 , to compute the amount of the contractual obligation for interest on the variable rate debt instruments and swaps. (2) We have included the following: • Purchase obligations consisting primarily of all open purchase orders as
of
however, for purposes of this disclosure, we have not distinguished between cancelable and noncancelable purchase obligations.
• Contractual payment obligations with each of our significant vendors,
which are noncancelable and are not contingent.
(3) The 2017 Tax Act provided an election to taxpayers subject to the Toll Tax to make payments over an eight-year period. We made this election; therefore, we have included future Toll Tax payments accordingly. (4) We have included long-term liabilities consisting primarily of our nonqualified supplemental pension funding requirements and other post-employment benefit liabilities. We excluded long-term income taxes payable of$1.20 billion , because we cannot reasonably estimate the timing of future cash outflows associated with those liabilities. The contractual obligations table is as ofDecember 31, 2019 . We expect the amount of these obligations to change materially over time as new contracts are initiated and existing contracts are completed, terminated, or modified. APPLICATION OF CRITICAL ACCOUNTING ESTIMATES In preparing our financial statements in accordance with accounting principles generally accepted in theU.S. (GAAP), we must often make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures. Some of those judgments can be subjective and complex, and consequently actual results could differ from those estimates. For any given individual estimate or assumption we make, it is possible that other people applying reasonable judgment to the same facts and circumstances could develop different estimates. We believe that, given current facts and circumstances, it is unlikely that applying any such other reasonable judgment would cause a material adverse effect on our consolidated results of operations, financial position, or liquidity for the periods presented in this report. Our most critical accounting estimates have been discussed with our audit committee and are described below. Revenue Recognition and Sales Return, Rebate, and Discount Accruals We recognize revenue primarily from two different types of contracts, product sales to customers (net product revenue) and collaborations and other arrangements. For product sales to customers, provisions for returns, rebate and discounts are established in the same period the related product sales are recognized. To determine the appropriate transaction price for our product sales at the time we recognize a sale to a direct customer, we estimate any rebates or discounts that ultimately will be due to the direct customer and other customers in the distribution chain under the terms of our contracts. Significant judgments are required in making these estimates. The largest of our sales rebate and discount amounts are rebates associated with sales covered by managed care, Medicare, Medicaid, and chargeback contracts in theU.S. In determining the appropriate accrual amount, we consider our historical rebate payments for these programs by product as a percentage of our historical sales as well as any significant changes in sales trends (e.g., patent expiries and product launches), an evaluation of the current contracts for these programs, the percentage of our products that are sold via these programs, and our product pricing.
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Refer to Note 2 to the consolidated financial statements for further information on revenue recognition and sales return, rebate, and discount accruals. Revenue recognized from collaborations and other arrangements will include our share of profits from the collaboration, as well as royalties, upfront and milestone payments we receive under these types of contracts. Financial Statement Impact We believe that our accruals for sales returns, rebates, and discounts are reasonable and appropriate based on current facts and circumstances. Our global rebate and discount liabilities are included in sales rebates and discounts on our consolidated balance sheet. Our global sales return liability is included in other current liabilities and other noncurrent liabilities on our consolidated balance sheet. As ofDecember 31, 2019 , a 5 percent change in our global sales return, rebate, and discount liability would have led to an approximate$270 million effect on our income before income taxes. The portion of our global sales return, rebate, and discount liability resulting from sales of our products in theU.S. was approximately 90 percent as ofDecember 31, 2019 and 2018. The following represents a roll-forward of our most significantU.S. sales return, rebate, and discount liability balances, including managed care, Medicare, and Medicaid: (Dollars in millions) 2019
2018
Sales return, rebate, and discount liabilities, beginning of year$ 4,670.9 $ 4,134.0 Reduction of net sales(1) 15,490.2 13,424.9 Cash payments
(15,525.6 ) (12,888.0 )
Sales return, rebate, and discount liabilities, end of year
(1) Adjustments of the estimates for these returns, rebates, and discounts to actual results were approximately 1 percent of consolidated net sales for each of the years presented. Product Litigation Liabilities and Other Contingencies Background and Uncertainties Product litigation liabilities and other contingencies are, by their nature, uncertain and based upon complex judgments and probabilities. The factors we consider in developing our product litigation liability reserves and other contingent liability amounts include the merits and jurisdiction of the litigation, the nature and the number of other similar current and past matters, the nature of the product and the current assessment of the science subject to the litigation, and the likelihood of settlement and current state of settlement discussions, if any. In addition, we accrue for certain product liability claims incurred, but not filed, to the extent we can formulate a reasonable estimate of their costs based primarily on historical claims experience and data regarding product usage. We accrue legal defense costs expected to be incurred in connection with significant product liability contingencies when both probable and reasonably estimable. We also consider the insurance coverage we have to diminish the exposure for periods covered by insurance. In assessing our insurance coverage, we consider the policy coverage limits and exclusions, the potential for denial of coverage by the insurance company, the financial condition of the insurers, and the possibility of and length of time for collection. Due to a very restrictive market for product liability insurance, we are self-insured for product liability losses for all our currently marketed products. In addition to insurance coverage, we consider any third-party indemnification to which we are entitled or under which we are obligated. With respect to our third-party indemnification rights, these considerations include the nature of the indemnification, the financial condition of the indemnifying party, and the possibility of and length of time for collection. The litigation accruals and environmental liabilities and the related estimated insurance recoverables have been reflected on a gross basis as liabilities and assets, respectively, on our consolidated balance sheets. Acquisitions Background and Uncertainties To determine whether acquisitions or licensing transactions should be accounted for as a business combination or as an asset acquisition, we make certain judgments, which include assessing whether the acquired set of activities and assets would meet the definition of a business under the relevant accounting rules. 47
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If the acquired set of activities and assets meets the definition of a business, assets acquired and liabilities assumed are required to be recorded at their respective fair values as of the acquisition date. The excess of the purchase price over the fair value of the acquired net assets, where applicable, is recorded as goodwill. If the acquired set of activities and assets does not meet the definition of a business, the transaction is recorded as an acquisition of assets and, therefore, any acquired IPR&D that does not have an alternative future use is charged to expense at the acquisition date, and goodwill is not recorded. Refer to Note 3 to the consolidated financial statements for additional information. The judgments made in determining estimated fair values assigned to assets acquired and liabilities assumed in a business combination, as well as estimated asset lives, can materially affect our consolidated results of operations. The fair values of intangible assets, including acquired IPR&D, are determined using information available near the acquisition date based on estimates and assumptions that are deemed reasonable by management. Significant estimates and assumptions include, but are not limited to, probability of technical success, revenue growth and discount rate. Depending on the facts and circumstances, we may deem it necessary to engage an independent valuation expert to assist in valuing significant assets and liabilities. The fair values of identifiable intangible assets are primarily determined using an "income method," as described in Note 8 to the consolidated financial statements. Impairment of Indefinite-Lived and Long-Lived Assets Background and Uncertainties We review the carrying value of long-lived assets (both intangible and tangible) for potential impairment on a periodic basis and whenever events or changes in circumstances indicate the carrying value of an asset (or asset group) may not be recoverable. We identify impairment by comparing the projected undiscounted cash flows to be generated by the asset (or asset group) to its carrying value. If an impairment is identified, a loss is recorded equal to the excess of the asset's net book value over its fair value, and the cost basis is adjusted.Goodwill and indefinite-lived intangible assets are reviewed for impairment at least annually, or more frequently if impairment indicators are present, by first assessing qualitative factors to determine whether it is more likely than not that the fair value of the intangible asset is less than its carrying amount. If we conclude it is more likely than not that the fair value is less than the carrying amount, a quantitative test that compares the fair value of the intangible asset to its carrying value is performed to determine the amount of any impairment. Several methods may be used to determine the estimated fair value of acquired IPR&D, all of which require multiple assumptions. We utilize the "income method," as described in Note 8 to the consolidated financial statements. For acquired IPR&D assets, the risk of failure has been factored into the fair value measure and there can be no certainty that these assets ultimately will yield a successful product, as discussed previously in "Results of Operations - Executive Overview - Late-Stage Pipeline." The nature of the pharmaceutical business is high-risk and requires that we invest in a large number of projects to maintain a successful portfolio of approved products. As such, it is likely that some acquired IPR&D assets will become impaired in the future. Estimates of future cash flows, based on what we believe to be reasonable and supportable assumptions and projections, require management's judgment. Actual results could vary materially from these estimates. Retirement Benefits Assumptions Background and Uncertainties Defined benefit pension plan and retiree health benefit plan costs include assumptions for the discount rate, expected return on plan assets, and retirement age. These assumptions have a significant effect on the amounts reported. In addition to the analysis below, see Note 15 to the consolidated financial statements for additional information regarding our retirement benefits.
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Annually, we evaluate the discount rate and the expected return on plan assets in our defined benefit pension and retiree health benefit plans. We use an actuarially determined, plan-specific yield curve of high quality, fixed income debt instruments to determine the discount rates. In evaluating the expected return on plan assets, we consider many factors, with a primary analysis of current and projected market conditions, asset returns and asset allocations (approximately 70 percent of which are growth investments); and the views of leading financial advisers and economists. We may also review our historical assumptions compared with actual results, as well as the discount rates and expected return on plan assets of other companies, where applicable. In evaluating our expected retirement age assumption, we consider the retirement ages of our past employees eligible for pension and medical benefits together with our expectations of future retirement ages. Annually, we determine the fair value of the plan assets in our defined benefit pension and retiree health benefit plans. Approximately 40 percent of our plan assets are in hedge funds and private equity-like investment funds (collectively, alternative assets). We value these alternative investments using significant unobservable inputs or using the net asset value reported by the counterparty, adjusted as necessary. Inputs include underlying net asset values, discounted cash flows valuations, comparable market valuations, and adjustments for currency, credit, liquidity and other risks. Financial Statement Impact If the 2019 discount rate for theU.S. defined benefit pension and retiree health benefit plans (U.S. plans) were to change by a quarter percentage point, income before income taxes would change by$29.6 million . If the 2019 expected return on plan assets forU.S. plans were to change by a quarter percentage point, income before income taxes would change by$26.5 million . If our assumption regarding the 2019 expected age of future retirees forU.S. plans were adjusted by one year, our income before income taxes would be affected by$45.9 million . TheU.S. plans, includingPuerto Rico , represent approximately 75 percent and 80 percent of the total projected benefit obligation and total plan assets, respectively, atDecember 31, 2019 . Adjustments to the fair value of plan assets are not recognized in pension and retiree health benefit expense in the year that the adjustments occur. Such changes are deferred, along with other actuarial gains and losses, and are amortized into expense over the expected remaining service life of employees. Income Taxes Background and Uncertainties We prepare and file tax returns based upon our interpretation of tax laws and regulations and record estimates based upon these interpretations. In the normal course of business, our tax returns are subject to examination by various taxing authorities, which may result in future tax, interest, and penalty assessments. Inherent uncertainties exist in estimates of many tax positions due to changes in tax law resulting from legislation and regulation as concluded through the various jurisdictions' tax court systems. We recognize the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate resolution. The amount of unrecognized tax benefits is adjusted for changes in facts and circumstances. For example, adjustments could result from changes to existing tax law, the issuance of regulations by the taxing authorities, new information obtained during a tax examination, or resolution of a tax examination. We believe our estimates for uncertain tax positions are appropriate and sufficient to pay assessments that may result from examinations of our tax returns. We recognize both accrued interest and penalties related to unrecognized tax benefits in income tax expense. We have recorded valuation allowances against certain of our deferred tax assets, primarily those that have been generated from net operating losses and tax credit carryforwards in certain taxing jurisdictions. In evaluating whether we would more likely than not recover these deferred tax assets, we have not assumed any future taxable income or tax planning strategies in the jurisdictions associated with these carryforwards where history does not support such an assumption. Implementation of tax planning strategies to recover these deferred tax assets or future income generation in these jurisdictions could lead to the reversal of these valuation allowances and a reduction of income tax expense. 49
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Financial Statement Impact As ofDecember 31, 2019 , a 5 percent change in the amount of uncertain tax positions and the valuation allowance would result in a change in net income of$76.5 million and$30.8 million , respectively. LEGAL AND REGULATORY MATTERS Information relating to certain legal proceedings can be found in Note 16 to the consolidated financial statements and is incorporated here by reference. FINANCIAL EXPECTATIONS FOR 2020 For the full year of 2020, we expect EPS to be in the range of$6.18 to$6.28 , which includes the anticipated impact of the Dermira acquisition. We anticipate that total revenue will be between$23.7 billion and$24.2 billion . Revenue growth is expected to be driven by volume from Trulicity, Taltz, Basaglar, Jardiance, Verzenio, Cyramza, Olumiant, Emgality, Baqsimi, and the launch of Reyvow. Revenue growth is expected to be partially offset by lower revenue for products that have lost patent exclusivity, including the expected entry of generic competition for Forteo in theU.S. Revenue growth is also expected to be partially offset by a low-single digit net price decline in theU.S. driven primarily by rebates and legislated increases to Medicare Part D cost sharing, patient affordability programs, and net price declines inChina ,Japan andEurope . We anticipate that gross margin as a percent of revenue will be approximately 79 percent in 2020. Research and development expenses are expected to be in the range of$5.6 billion to$5.9 billion . Marketing, selling, and administrative expenses are expected to be in the range of$6.2 billion to$6.4 billion . Other-net, (income) expense is expected to be expense in the range of$100 million to$250 million . The 2020 effective tax rate is expected to be approximately 15 percent. Item 7A. Quantitative and Qualitative Disclosures About Market Risk You can find quantitative and qualitative disclosures about market risk (e.g., interest rate risk) at Item 7, "Management's Discussion and Analysis - Financial Condition." That information is incorporated in this report by reference.
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