ZOETIS INC. Introduction
Our management's discussion and analysis of financial condition and results of operations (MD&A) is provided to assist readers in understanding our performance, as reflected in the results of our operations, our financial condition and our cash flows. This MD&A should be read in conjunction with our consolidated financial statements and notes to consolidated financial statements included in Item 8. Financial Statements and Supplementary Data. The discussion in this MD&A contains forward-looking statements that involve substantial risks and uncertainties. Our future results could differ materially from historical performance and from those anticipated in the forward-looking statements as a result of various factors such as those discussed in Item 1A. Risk Factors and Forward-looking statements and factors that may affect future results sections of this MD&A. A discussion regarding our financial condition and results of operations for fiscal 2019 compared to fiscal 2018 is presented below. A discussion regarding our financial condition and results of operations for fiscal 2018 compared to fiscal 2017 can be found under Item 7 of Part II of our Annual Report on Form 10-K for the fiscal year endedDecember 31, 2018 , filed with theSEC onFebruary 12, 2019 (our "2018 Annual Report"), which is available free of charge on theSEC's website at www.sec.gov. Overview of our business We are a global leader in the discovery, development, manufacture and commercialization of animal health medicines, vaccines, and diagnostic products with a focus on both livestock and companion animals. For more than 65 years, we have been committed to enhancing the health of animals and bringing solutions to our customers who raise and care for them. We manage our operations through two geographic operating segments:the United States (U.S. ) and International. Within each of these operating segments, we offer a diversified product portfolio for both livestock and companion animal customers in order to capitalize on local and regional trends and customer needs. See Notes to Consolidated Financial Statements-Note 19. Segment Information. We directly market our products to veterinarians and livestock producers located in approximately 45 countries acrossNorth America ,Europe ,Africa ,Asia ,Australia andSouth America , and are a market leader in nearly all of the major regions in which we operate. Through our efforts to establish an early and direct presence in many emerging markets, such asBrazil ,China andMexico , we believe we are one of the largest animal health medicines and vaccines business as measured by revenue across emerging markets as a whole. In markets where we do not have a direct commercial presence, we generally contract with distributors that provide logistics and sales and marketing support for our products. We believe our investments in one of the industry's largest sales organizations, including our extensive network of technical and veterinary operations specialists, our high-quality manufacturing and reliability of supply, and our long track record of developing products that meet customer needs, has led to enduring and valued relationships with our customers. Our research and development (R&D) efforts enable us to deliver innovative products to address unmet needs and evolve our product lines so they remain relevant for our customers. Our products include over 300 products and product lines that we sell in over 100 countries for the prediction, prevention, detection and treatment of diseases and conditions that affect various livestock and companion animal species. The diversity of our product portfolio and our global operations provides stability to our overall business. For instance, in livestock, impacts on our revenue that may result from disease outbreaks or weather conditions in a particular market or region are often offset by increased sales in other regions from exports and other species as consumers shift to other proteins. A summary of our 2019 performance compared with the comparable 2018 and 2017 periods follows: Years Ended December 31, % Change (MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17 Revenue$ 6,260 $ 5,825 $ 5,307 7 10 Net income attributable to Zoetis 1,500 1,428 864 5 65 Adjusted net income(a) 1,755 1,525 1,185
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(a) Adjusted net income is a non-GAAP financial measure. See the Non-GAAP
financial measures and Adjusted net income sections of this MD&A for more
information.
Our operating environment
Industry
The animal health industry, which focuses on both livestock and companion
animals, is a growing industry that impacts billions of people worldwide. The
primary livestock species for the production of animal protein are cattle (both
beef and dairy), swine, poultry, fish and sheep. Livestock health and production
are essential to meeting the growing demand for animal protein of a global
population. Factors influencing growth in demand for livestock medicines and
vaccines include:
• human population growth and increasing standards of living, particularly
in many emerging markets;
• increasing demand for improved nutrition, particularly animal protein;
• natural resource constraints, such as scarcity of arable land, fresh water
and increased competition for cultivated land, resulting in fewer
resources that will be available to meet an increasing demand for animal
protein;
• increasing urbanization; and
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• increased focus on food safety and food security.
The primary companion animal species are dogs, cats and horses. Factors influencing growth in demand for companion animal medicines, vaccines and diagnostics include: • economic development and related increases in disposable income,
particularly in many emerging markets;
• increasing pet ownership;
• companion animals living longer;
• increasing medical treatment of companion animals; and
• advances in companion animal medicines, vaccines and diagnostics.
Product development initiatives Our future success depends on both our existing product portfolio and our pipeline of new products, including new products that we may develop through joint ventures and products that we are able to obtain through license or acquisition. We believe we are an industry leader in animal health R&D, with a track record of generating new products and product lifecycle innovation. The majority of our R&D programs focus on product lifecycle innovation, which is defined as R&D programs that leverage existing animal health products by adding new species or claims, achieving approvals in new markets or creating new combinations and reformulations. In addition to traditional medicines and vaccines, we develop products across additional categories to address the needs of veterinarians and producers to predict, prevent, detect and treat conditions in both livestock and companion animals, including products in genetics and precision livestock farming, diagnostics and digital and data analytics. Perceptions of product quality, safety and reliability We believe that animal health customers value high-quality manufacturing and reliability of supply. The importance of quality and safety concerns to pet owners, veterinarians and livestock producers also contributes to animal health brand loyalty, which often continues after the loss of patent-based and regulatory exclusivity. We depend on positive perceptions of the safety and quality of our products by our customers, veterinarians and end-users. In addition, negative beliefs about animal health products generally could impact demand for our products. For example, the issue of the potential transfer of increased antibacterial resistance in bacteria from food-producing animals to human pathogens, and the causality of that transfer, continue to be the subject of global scientific and regulatory discussion. Antibacterials refer to small molecules that can be used to treat or prevent bacterial infections and are a sub-categorization of the products that make up our anti-infectives and medicated feed additives portfolios. In some countries, this issue has led to government restrictions and bans on the use of specific antibacterials in some food-producing animals, regardless of the route of administration (in feed or injectable). These restrictions are more prevalent in countries where animal protein is plentiful and governments are willing to take action even when there is scientific uncertainty. In addition, consumer preferences in some markets have impacted the use of antibacterials in food producing animals. Such restrictions and consumer preferences in some cases may negatively impact sales of our antibacterial products, but in other instances may increase sales of our products that can be used as antibacterial alternatives. Our total revenue attributable to antibacterials for livestock was approximately$1.2 billion for the year endedDecember 31, 2019 . Similarly, concerns regarding greenhouse gas emissions and other potential environmental impacts of livestock production have led to some consumers opting to limit or avoid consuming animal products. However, we believe the impact of this trend is limited as the livestock industry is still expected to continue to grow in order to feed a growing global population. Changing distribution channels for companion animal products In most markets, companion animal owners typically purchase their animal health products directly from veterinarians. However, in theU.S. and certain other markets, companion animal owners increasingly have the option to purchase animal health products from sources other than veterinarians, such as Internet-based retailers, "big-box" retail stores or other over-the-counter distribution channels. This trend has been demonstrated by the shift away from the veterinarian distribution channel in the sale of flea and tick products in recent years. We believe the ability of pet owners to purchase our products online and from retail stores may increase pet owner compliance and result in increased sales, particularly in the near term. However, over time, we may be unable to sustain our current margins due to the increased purchasing power of such retailers as compared to traditional veterinary practices. In addition, this trend could negatively impact the sales of products we primarily sell through the veterinarian distribution channel, as any decrease in visits to veterinarians by companion animal owners could reduce our market share and sales of such products. A reduction in the number of pet owners who purchase our products directly from their veterinarian could also lead to increased use of generic alternatives to our products or the increased substitution of our products with other animal health products or human health products if such other products are deemed to be lower-cost alternatives. The overall economic environment In addition to industry-specific factors, we, like other businesses, face challenges related to global economic conditions. Growth in both the livestock and companion animal sectors is driven by overall economic development and related growth, particularly in many emerging markets. In the past, certain of our customers and suppliers have been affected directly by economic downturns, which decreased the demand for our products and, in some cases, hindered our ability to collect amounts due from customers. The cost of medicines and vaccines to our livestock producer customers is small relative to other production costs, including feed, and the use of these products is intended to improve livestock producers' economic outcomes. As a result, demand for our products has historically been more stable than demand for other production inputs. Similarly, industry sources have reported that pet owners indicated a preference for reducing spending on other aspects of their lifestyle, including entertainment, clothing and household goods, before reducing spending on pet care. While these factors have mitigated the impact of prior downturns in the global economy, future economic challenges could increase cost sensitivity among our customers, which may result in reduced demand for our products, which could have a material adverse effect on our operating results and financial condition. 37 |
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Competition
The animal health industry is competitive. Although our business is the largest by revenue in the animal health medicines, vaccines and diagnostics industry, we face competition in the regions in which we operate. Principal methods of competition vary depending on the particular region, species, product category or individual product. Some of these methods include new product development, quality, price, service and promotion to veterinary professionals, pet owners and livestock producers. Our competitors include standalone animal health businesses and the animal health businesses of large pharmaceutical companies. In recent years, there has been an increase in consolidation in the animal health industry. There are also several start-up companies working in the animal health area. In addition to competition from established market participants, there could be new entrants to the animal health medicines, vaccines and diagnostics industry in the future. In certain markets, we also compete with companies that produce generic products, but the level of competition from generic products varies from market to market. For example, the level of generic competition is higher inEurope and certain emerging markets than in theU.S. Weather conditions and the availability of natural resources The animal health industry and demand for many of our animal health products in a particular region are affected by weather conditions, as usage of our products follows varying weather patterns and weather-related pressures from pests, such as ticks. As a result, we may experience regional and seasonal fluctuations in our results of operations. In addition, veterinary hospitals and practitioners depend on visits from and access to the animals under their care. Veterinarians' patient volume and ability to operate could be adversely affected if they experience prolonged snow, ice or other severe weather conditions, particularly in regions not accustomed to sustained inclement weather. Furthermore, livestock producers depend on the availability of natural resources, including large supplies of fresh water. Their animals' health and their ability to operate could be adversely affected if they experience a shortage of fresh water due to human population growth or floods, droughts or other weather conditions. In the event of adverse weather conditions or a shortage of fresh water, veterinarians and livestock producers may purchase less of our products. For example, drought conditions could negatively impact, among other things, the supply of corn and the availability of grazing pastures. A decrease in harvested corn results in higher corn prices, which could negatively impact the profitability of livestock producers of cattle, pork and poultry. Higher corn prices and reduced availability of grazing pastures contribute to reductions in herd or flock sizes that in turn result in less spending on animal health products. As such, a prolonged drought could have a material adverse impact on our operating results and financial condition. Factors influencing the magnitude and timing of effects of a drought on our performance include, but may not be limited to, weather patterns and herd management decisions. Adverse weather conditions may also impact the aquaculture business. Changes in water temperatures could affect the timing of reproduction and growth of various fish species, as well as trigger the outbreak of certain water borne diseases. Disease outbreaks Sales of our livestock products could be adversely affected by the outbreak of disease carried by animals. Outbreaks of disease may reduce regional or global sales of particular animal-derived food products or result in reduced exports of such products, either due to heightened export restrictions or import prohibitions, which may reduce demand for our products. Also, the outbreak of any highly contagious disease near our main production sites could require us to immediately halt production of our products at such sites or force us to incur substantial expenses in procuring raw materials or products elsewhere. Alternatively, sales of products that treat specific disease outbreaks may increase. Manufacturing and supply In order to sell our products, we must be able to produce and ship our products in sufficient quantities. Many of our products involve complex manufacturing processes and are sole-sourced from certain manufacturing sites. Minor deviations in our manufacturing or logistical processes, such as temperature excursions or improper package sealing, could result in delays, inventory shortages, unanticipated costs, product recalls, product liability and/or regulatory action. In addition, a number of factors could cause production interruptions that could result in launch delays, inventory shortages, recalls, unanticipated costs or issues with our agreements under which we supply third parties. Our manufacturing network may be unable to meet the demand for our products or we may have excess capacity if demand for our products changes. The unpredictability of a product's regulatory or commercial success or failure, the lead time necessary to construct highly technical and complex manufacturing sites, and shifting customer demand increase the potential for capacity imbalances. Foreign exchange rates Significant portions of our revenue and costs are exposed to changes in foreign exchange rates. Our products are sold in more than 100 countries and, as a result, our revenue is influenced by changes in foreign exchange rates. For the year endedDecember 31, 2019 , approximately 44% of our revenue was denominated in foreign currencies. We seek to manage our foreign exchange risk, in part, through operational means, including managing same-currency revenue in relation to same-currency costs and same-currency assets in relation to same-currency liabilities. As we operate in multiple foreign currencies, including the euro, Brazilian real, Chinese renminbi, Canadian dollar, Australian dollar,U.K. pound and other currencies, changes in those currencies relative to theU.S. dollar will impact our revenue, cost of goods and expenses, and consequently, net income. Exchange rate fluctuations may also have an impact beyond our reported financial results and directly impact operations. These fluctuations may affect the ability to buy and sell our goods and services between markets impacted by significant exchange rate variances. For the year endedDecember 31, 2019 , approximately 56% of our total revenue was inU.S. dollars. Our year-over-year total revenue growth was unfavorably impacted by 3% from changes in foreign currency values relative to theU.S. dollar. Our growth strategies We seek to enhance the health of animals and to bring solutions to our customers who raise and care for them. We have a global presence in both developed and emerging markets and across eight major species. We intend to grow our business by pursuing the following core strategies: 38 |
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• drive innovative growth - We seek to deliver new products and solutions as
well as lifecycle innovations across the continuum of care that spans from
disease prediction and prevention to detection and treatment. We are
focused on innovating across vaccines, pharmaceuticals, diagnostics,
genetics, biodevices, and other product segments, and across all major
species. Where appropriate, we complement internal R&D programs with
external innovations;
• enhance customer experience - We believe that delighting our customers
with compelling and personalized experiences that enable them to provide
the best care for animals is critical for our success. We are focused on
providing greater value to our customers through the integration and
connectedness of our portfolio and by reducing frictions in the way they
engage with us and our products and solutions;
• lead in digital and data analytics - We believe that healthcare insights
enabled by data and digital technology and complemented with our
comprehensive portfolio of products and solutions will be critical in
enhancing care for animals and improving livestock productivity;
• cultivate a high-performing organization - We view the strength of ourteam and our talented colleagues around the world as a critical component
of our past and future success. We are committed to continuing to be a
company our colleagues can be proud of and to attracting, retaining and
developing the best talent in the industry;
• champion a healthier, more sustainable future - As the world's leading
animal health company, we strive to make a meaningful difference in
society by keeping animals healthy, fighting emerging infectious diseases
that threaten our food supply, and supporting livestock producers and the
veterinary profession. We believe that we have an important role to play
in promoting a safe and sustainable global food supply, taking actions to
protect the environment, and in increasing access to animal care around
the world.
Components of revenue and costs and expenses Our revenue, costs and expenses are reported for the year endedDecember 31 for each year presented, except for operations outside theU.S. , for which the financial information is included in our consolidated financial statements for the fiscal year endedNovember 30 for each year presented. Revenue Our revenue is primarily derived from our diversified product portfolio of medicines, vaccines and diagnostic products used to treat and protect livestock and companion animals. Generally, our products are promoted to veterinarians and livestock producers by our sales organization which includes sales representatives and technical and veterinary operations specialists, and then sold directly by us or through distributors, retailers or e-commerce outlets. The depth of our product portfolio enables us to address the varying needs of customers in different species and geographies. In 2019, our top two selling products, Apoquel and Draxxin, contributed approximately 9% and 6%, respectively, of our revenue, and combined with our next three top selling products, Revolution/Stronghold, the ceftiofur line and Simparica, these five contributed approximately 29% of our revenue. Our top ten product lines contributed 41% of our revenue. For additional information regarding our products, including descriptions of our product lines that each represented approximately 1% or more of our revenue in 2019, see Item 1. Business-Products. Costs and expenses Costs of sales consist primarily of cost of materials, facilities and other infrastructure used to manufacture our medicine and vaccine products and royalty expenses associated with the intellectual property of our products, when relevant. Selling, general and administrative (SG&A) expenses consist of, among other things, the internal and external costs of marketing, promotion, advertising and shipping and handling as well as certain costs related to business technology, facilities, legal, finance, human resources, business development, public affairs and procurement. Research and development (R&D) expenses consist primarily of project costs specific to new product R&D and product lifecycle innovation, overhead costs associated with R&D operations and investments that support local market clinical trials for approved indications and expenses related to regulatory approvals for our products. We do not disaggregate R&D expenses by research stage or by therapeutic area for purposes of managing our business. Amortization of intangible assets consists primarily of the amortization expense for identifiable finite-lived intangible assets that have been acquired through business combinations. These assets consist of, but are not limited to, developed technology, brands and trademarks. Restructuring charges and certain acquisition-related costs consist of all restructuring charges (those associated with acquisition activity and those associated with cost reduction/productivity initiatives), as well as costs associated with acquiring and integrating businesses. Restructuring charges are associated with employees, assets and activities that will not continue in the company. Acquisition-related costs are associated with acquiring and integrating acquired businesses, such asAbaxis in 2018, and may include transaction costs and expenditures for consulting and the integration of systems and processes. Other (income)/deductions-net consist primarily of various items including net (gains)/losses on asset disposals, royalty-related income, foreign exchange translation (gains)/losses and certain asset impairment charges. Significant accounting policies and application of critical accounting estimates In presenting our financial statements in conformity withU.S. GAAP, we are required to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, costs and expenses and related disclosures. For a description of our significant accounting policies, see Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies. We believe that the following accounting policies are critical to an understanding of our consolidated financial statements as they require the application of the most difficult, subjective and complex judgments and, therefore, could have the greatest impact on our financial statements: (i) fair value; (ii) revenue; (iii) asset impairment reviews; and (iv) contingencies. 39 |
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Below are some of our more critical accounting estimates. See also Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Estimates and Assumptions for a discussion about the risks associated with estimates and assumptions. Fair value For a discussion about the application of fair value to our long-term debt and financial instruments, see Notes to Consolidated Financial Statements- Note 9. Financial Instruments. For a discussion about the application of fair value to our business combinations, see Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Fair Value. For a discussion about the application of fair value to our asset impairment reviews, see Asset impairment reviews below. Revenue Our gross product revenue is subject to deductions that are generally estimated and recorded in the same period that the revenue is recognized and primarily represents sales returns and revenue incentives. For example: • for sales returns, we perform calculations in each market that incorporate
the following, as appropriate: local returns policies and practices;
returns as a percentage of revenue; an understanding of the reasons for
past returns; estimated shelf life by product; an estimate of the amount
of time between shipment and return or lag time; and any other factors
that could impact the estimate of future returns, product recalls,
discontinuation of products or a changing competitive environment; and
• for revenue incentives, we use our historical experience with similar
incentives programs to estimate the impact of such programs on revenue.
If any of our ratios, factors, assessments, experiences or judgments are not indicative or accurate predictors of our future experience, our results could be materially affected. Although the amounts recorded for these revenue deductions are dependent on estimates and assumptions, historically our adjustments to actual results have not been material. The sensitivity of our estimates can vary by program, type of customer and geographic location. Amounts recorded for revenue deductions can result from a complex series of judgments about future events and uncertainties and can rely on estimates and assumptions. For further information about the risks associated with estimates and assumptions, see Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Estimates and Assumptions. Asset impairment reviews We review all of our long-lived assets for impairment indicators throughout the year and we perform detailed testing whenever impairment indicators are present. In addition, we perform impairment testing for goodwill and indefinite-lived intangible assets at least annually. When necessary, we record charges for impairments of long-lived assets for the amount by which the fair value is less than the carrying value of these assets. Our impairment review processes are described below and in Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Amortization of Intangible Assets, Depreciation and Certain Long-Lived Assets and, for deferred tax assets, in Note 3. Significant Accounting Policies: Deferred Tax Assets and Liabilities and Income Tax Contingencies. Examples of events or circumstances that may be indicative of impairment include: • a significant adverse change in the extent or manner in which an asset is
used. For example, restrictions imposed by the regulatory authorities
could affect our ability to manufacture or sell a product; and
• a projection or forecast that demonstrates losses or reduced profits
associated with an asset. This could result, for example, from the
introduction of a competitor's product that results in a significant loss
of market share or the inability to achieve the previously projectedrevenue growth, or from the lack of acceptance of a product by customers.
For finite-lived identifiable intangible assets, such as developed technology rights, and for other long-lived assets, such as property, plant and equipment, whenever impairment indicators are present, we calculate the undiscounted value of the projected cash flows associated with the asset, or asset group, and compare this estimated amount to the carrying amount. If the carrying amount is found to be greater, we record an impairment loss for the excess of book value over fair value. In addition, in all cases of an impairment review, we re-evaluate the remaining useful lives of the assets and modify them, as appropriate. Our impairment reviews of most of our long-lived assets depend on the determination of fair value, as defined byU.S. GAAP, and these judgments can materially impact our results of operations. A single estimate of fair value can result from a complex series of judgments about future events and uncertainties and can rely on estimates and assumptions. For information about the risks associated with estimates and assumptions, see Notes to Consolidated Financial Statements-Note 3. Significant Accounting Policies: Estimates and Assumptions. Intangible assets other than goodwill We test indefinite-lived intangible assets for impairment at least annually, or more frequently if impairment indicators exist, by first assessing qualitative factors to determine whether it is more likely than not that the fair value of the indefinite-lived 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 indefinite-lived intangible asset with its carrying value is performed. If the fair value is less than the carrying amount, an impairment loss is recognized. Impairments of identifiable intangible assets other than goodwill, are recorded in Restructuring charges and certain acquisition-related costs and Other (income)/deductions-net, as applicable. We did not have any significant intangible asset impairment charges for the years endedDecember 31, 2019 , 2018 and 2017. 40 |
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When we are required to determine the fair value of intangible assets other than goodwill, we use an income approach, specifically the multi-period excess earnings method, also known as the discounted cash flow method. We start with a forecast of all the expected net cash flows associated with the asset, which includes the application of a terminal value for indefinite-lived assets, and then we apply an asset-specific discount rate to arrive at a net present value amount. Some of the more significant estimates and assumptions inherent in this approach include: the amount and timing of the projected net cash flows, which includes the expected impact of competitive, legal and/or regulatory forces on the projections, the impact of technological risk associated with IPR&D assets, as well as the selection of a long-term growth rate; the discount rate, which seeks to reflect the risks inherent in the projected cash flows; foreign currency fluctuations; and the effective tax rate, which seeks to incorporate the geographic diversity of the projected cash flows. While all identifiable intangible assets can be impacted by events and thus lead to impairment, in general, identifiable intangible assets that are at the highest risk of impairment include IPR&D assets (approximately$105 million as ofDecember 31, 2019 ). IPR&D assets are higher-risk assets because R&D is an inherently risky activity. For a description of our accounting policy, see Notes to Consolidated Financial Statements-Note 3. Significant Accounting Policies: Amortization of Intangible Assets, Depreciation and Certain Long-Lived Assets.Goodwill Goodwill represents the excess of the consideration transferred over the fair value of net assets of businesses purchased and is assigned to reporting units. We test goodwill for impairment on at least an annual basis, or more frequently if impairment indicators exist, either by assessing qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount or by performing a quantitative assessment. Factors considered in the qualitative assessment include general macroeconomic conditions, conditions specific to the industry and market, cost factors which could have a significant effect on earnings or cash flows, the overall financial performance of the reporting unit and whether there have been sustained declines in our share price. Additionally, we evaluate the extent to which the fair value exceeded the carrying value of the reporting unit at the date of the last quantitative assessment performed. When performing a quantitative assessment to test for goodwill impairment we utilize the income approach, which is forward-looking, and relies primarily on internal forecasts. Within the income approach, the method that we use is the discounted cash flow method. We start with a forecast of all the expected net cash flows associated with the reporting unit, which includes the application of a terminal value, and then apply a reporting unit-specific discount rate to arrive at a net present value. Some of the more significant estimates and assumptions inherent in this approach include: the amount and timing of the projected net cash flows, which includes the expected impact of technological risk and competitive, legal and/or regulatory forces on the projections, as well as the selection of a long-term growth rate; the discount rate, which seeks to reflect the various risks inherent in the projected cash flows; and the effective tax rate, which seeks to incorporate the geographic diversity of the projected cash flows. In 2019, we performed a qualitative impairment assessment as ofSeptember 30, 2019 , which did not result in the impairment of goodwill associated with any of our reporting units. In 2018, we performed a quantitative impairment assessment as ofSeptember 30, 2018 , which did not result in the impairment of goodwill associated with any of our reporting units. For all of our reporting units, there are a number of future events and factors that may impact future results and that could potentially have an impact on the outcome of subsequent goodwill impairment testing. For a list of these factors, see Forward-looking statements and factors that may affect future results. For a description of our accounting policy, see Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Amortization of Intangible Assets, Depreciation and Certain Long-Lived Assets. Contingencies For a discussion about income tax contingencies, see Notes to Consolidated Financial Statements- Note 8D. Tax Matters: Tax Contingencies. For a discussion about legal contingencies, guarantees and indemnifications, see Notes to Consolidated Financial Statement- Note 18. Commitments and Contingencies. Non-GAAP financial measures We report information in accordance withU.S. generally accepted accounting principles (GAAP). Management also measures performance using non-GAAP financial measures that may exclude certain amounts from the most directly comparable GAAP measure. Despite the importance of these measures to management in goal setting and performance measurement, non-GAAP financial measures have no standardized meaning prescribed byU.S. GAAP and, therefore, have limits in their usefulness to investors and may not be comparable to the calculation of similar measures of other companies. We present certain identified non-GAAP measures solely to provide investors with useful information to more fully understand how management assesses performance. Operational Growth We believe that it is important to not only understand overall revenue and earnings growth, but also "operational growth." Operational growth is a non-GAAP financial measure defined as revenue or earnings growth excluding the impact of foreign exchange. This measure provides information on the change in revenue and earnings as if foreign currency exchange rates had not changed between the current and prior periods to facilitate a period-to-period comparison. We believe this non-GAAP measure provides a useful comparison to previous periods for the company and investors, but should not be viewed as a substitute forU.S. GAAP reported growth. 41 |
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Adjusted Net Income and Adjusted Earnings Per Share Adjusted net income and the corresponding adjusted earnings per share (EPS) are non-GAAP financial measures of performance used by management. We believe these financial measures are useful supplemental information to investors when considered together with ourU.S. GAAP financial measures. We report adjusted net income to portray the results of our major operations, and the discovery, development, manufacture and commercialization of our products, prior to considering certain income statement elements. We define adjusted net income and adjusted EPS as net income attributable to Zoetis and EPS before the impact of purchase accounting adjustments, acquisition-related costs and certain significant items. We recognize that, as an internal measure of performance, the adjusted net income and adjusted EPS measures have limitations, and we do not restrict our performance management process solely to these metrics. A limitation of the adjusted net income and adjusted EPS measures is that they provide a view of our operations without including all events during a period, such as the effects of an acquisition or amortization of purchased intangibles, and do not provide a comparable view of our performance to other companies. The adjusted net income and adjusted EPS measures are not, and should not be viewed as, a substitute forU.S. GAAP reported net income attributable to Zoetis and reported EPS. See the Adjusted Net Income section below for more information. Analysis of the Consolidated Statements of Income The following discussion and analysis of our Consolidated Statements of Income should be read along with our consolidated financial statements, and the notes thereto. Year Ended December 31, % Change (MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17 Revenue$ 6,260 $ 5,825 $ 5,307 7 10 Costs and expenses: Cost of sales(a) 1,992 1,911 1,775 4 8 % of revenue 32 % 33 % 33 % Selling, general and 1,638 1,484 1,334 10 11 administrative expenses(a) % of revenue 26 % 25 % 25 % Research and development 457 432 382 6 13 expenses(a) % of revenue 7 % 7 % 7 % Amortization of intangible 155 117 91 32 29 assets(a) Restructuring charges and 51 68 19 (25 ) * certain acquisition-related costs Interest expense, net of 8 18 capitalized interest 223 206 175 Other (income)/deductions-net (57 ) (83 ) 6 (31 ) * Income before provision for 1,801 1,690 1,525 7 11 taxes on income % of revenue 29 % 29 % 29 % Provision for taxes on income 301 266 663 13 (60 ) Effective tax rate 16.7 % 15.7 % 43.5 % Net income before allocation to 1,500 1,424 862 5 65 noncontrolling interests Less: Net income attributable - (4 ) (2 ) * * to noncontrolling interests Net income attributable to$ 1,500 $ 1,428 $ 864 5 65 Zoetis % of revenue 24 % 25 % 16 %
* Calculation not meaningful. (a) Amortization expense related to finite-lived acquired intangible assets that
contribute to our ability to sell, manufacture, research, market and
distribute products, compounds and intellectual property is included in
Amortization of intangible assets as these intangible assets benefitmultiple business functions. Amortization expense related to finite-lived
acquired intangible assets that are associated with a single function is
included in Cost of sales, Selling, general and administrative expenses or
Research and development expenses, as appropriate.
Revenue
Total revenue by operating segment was as follows:
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
U.S. $ 3,203 $ 2,877 $ 2,620 11 10
International 2,972 2,890 2,643 3 9
Total operating segments 6,175 5,767 5,263 7 10
Contract manufacturing & human health 85 58 44 47 32
Total Revenue $ 6,260 $ 5,825 $ 5,307 7 10
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On a global basis, the mix of revenue between livestock and companion animal
products was as follows:
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Livestock $ 3,030 $ 3,154 $ 3,037 (4 ) 4
Companion animal 3,145 2,613 2,226 20 17
Contract manufacturing & human health 85 58 44 47 32
Total Revenue $ 6,260 $ 5,825 $ 5,307 7 10
2019 vs. 2018
Total revenue increased by
from our key dermatology products;
• the acquisition of
• price growth of approximately 2%; and
• volume growth from new products sold of approximately 2%.
Costs and Expenses
Cost of sales
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Cost of sales $ 1,992 $ 1,911 $ 1,775 4 8
% of revenue 32 % 33 % 33 %
2019 vs. 2018
Cost of sales as a percentage of revenue decreased from 33% to 32% in 2019
compared with 2018, primarily as a result of:
• favorable foreign exchange;
• price increases;
• favorable product mix; and
• cost improvements and efficiencies in our manufacturing network,
partially offset by: • a change in estimate related to inventory costing;
• the inclusion of
• tariffs on certain products.
Selling, general and administrative expenses
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Selling, general and $ 1,638 $ 1,484 $ 1,334 10 11
administrative expenses
% of revenue 26 % 25 % 25 %
2019 vs. 2018
SG&A expenses increased $154 million , or 10%, in 2019 compared with 2018,
primarily as a result of:
• an increase in certain compensation-related expenses;
• the inclusion of
• the inclusion of Platinum Performance,
partially offset by:
• favorable foreign exchange.
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Research and development expenses
Year Ended December 31 , % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17 Research and development expenses$ 457 $ 432 $ 382 6 13 % of revenue 7 % 7 % 7 % 2019 vs. 2018 R&D expenses increased$25 million , or 6%, in 2019 compared with 2018, primarily as a result of: • increased spending driven by project investments;
• the inclusion of
• an increase in certain compensation-related expenses,
partially offset by: • favorable foreign exchange.
Amortization of intangible assets
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Amortization of intangible assets $ 155 $ 117 $ 91 32 29
2019 vs. 2018 Amortization of intangible assets increased$38 million , or 32%, in 2019 compared with 2018, primarily as a result of certain intangible assets acquired inJuly 2018 as part of the acquisition ofAbaxis .
Restructuring charges and certain acquisition-related costs
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Restructuring charges and $ 51 $ 68 $ 19 (25 ) *
certain acquisition-related
costs
* Calculation not meaningful.
Our acquisition-related costs primarily relate to restructuring charges for
employees, assets and activities that will not continue in the future, as well
as integration costs. The majority of net restructuring charges are related to
termination costs. Our integration costs are generally comprised of consulting
costs related to the integration of systems and processes, as well as product
transfer costs.
For additional information regarding restructuring charges and
acquisition-related costs, see Notes to Consolidated Financial Statements- Note
6. Restructuring Charges and Other Costs Associated with Acquisitions,
Cost-Reduction and Productivity Initiatives.
2019 vs. 2018
Restructuring charges and certain acquisition-related costs decreased by $17
million in 2019 compared with 2018, primarily as a result of:
• transaction costs incurred as a result of the acquisition of Abaxis in
July 2018 ,
partially offset by:
•CEO transition-related costs.
Interest expense, net of capitalized interest
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Interest expense, net of $ 223 $ 206 $ 175 8 18
capitalized interest
2019 vs. 2018
Interest expense, net of capitalized interest, increased by $17 million , or 8%,
in 2019 compared with 2018, primarily as a result of the issuance of $1.5
billion aggregate principal amount of our senior notes in August 2018 , partially
offset by gains on cross-currency interest rate swaps.
Other (income)/deductions-net
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Other (income)/deductions-net $ (57 ) $ (83 ) $ 6 (31 ) *
* Calculation not meaningful.
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2019 vs. 2018 The change in Other (income)/deductions-net from net other income of$57 million in 2019 compared with$83 million in 2018, is primarily a result of: • a gain of$42 million in 2018 on the divestiture of certain agribusiness products within our International segment; • a net gain of$18 million in 2018 related to the relocation of a manufacturing site inChina ; and • lower royalty income,
partially offset by:
• income of
to an agreement related to the 2016 sale of certain
sites;
• lower foreign currency losses; and
• higher interest income in 2019 due to higher cash balances and higher
short-term interest rates.
Provision for taxes on income
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
Provision for taxes on income $ 301 $ 266 $ 663 13 (60 )
Effective tax rate 16.7 % 15.7 % 43.5 %
The income tax provision in the Consolidated Statements of Income includes tax
costs and benefits, such as uncertain tax positions, repatriation decisions and
audit settlements, among others.
2019 vs. 2018
The higher effective tax rate in 2019 compared with 2018 is primarily due to the
following components:
• the impact of the global intangible low taxed income (GILTI) tax, a new
provision of the Tax Cuts and Jobs Act (the Tax Act), which became
effective for the company in the first quarter of 2019;
• a $45 million net tax benefit recorded in 2018, associated with a
measurement-period adjustment to the one-time mandatory deemed
repatriation tax on the company's undistributed non-
to the Tax Act; and
• changes in the jurisdictional mix of earnings, which includes the impact
of the location of earnings from operations and repatriation costs. The
jurisdictional mix of earnings can vary as a result of repatriation
decisions, operating fluctuations in the normal course of business, the
impact of non-deductible items, and the extent and location of otherincome and expense items, such as gains and losses on asset divestitures,
partially offset by: • an$18 million discrete tax benefit recorded in 2019, related to the changes in valuation allowances;
• a
2019, due to a change in tax basis related to purchase accounting;
• a $12 million net discrete tax benefit recorded in 2019, related to
changes in various other tax items;
• a $10 million discrete tax benefit recorded in 2019, related to the
effective settlement of certain issues with non-
• an$8 million discrete tax benefit recorded in 2019, related to a remeasurement of deferred tax assets and liabilities as a result of a change inU.S. and non-U.S. statutory tax rates; and
• an additional
the excess tax benefits for share-based compensation payments.
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Operating Segment Results
We believe that it is important to not only understand overall revenue and
earnings growth, but also "operational growth." Operational growth is defined as
revenue or earnings growth excluding the impact of foreign exchange.
In the first quarter of 2018, the company realigned certain management
responsibilities. These changes did not impact the determination of our
operating segments, however they resulted in the reallocation of certain costs
between segments. These changes primarily include the following: i) R&D costs
related to our aquaculture business which were previously reported in Other
business activities are now reported in the International operating segment
results, and ii) certain other miscellaneous costs which were previously
reported in Corporate are now reported in the International operating segment
results.
On a global basis, the mix of revenue between livestock and companion animal
products was as follows:
% Change
19/18 18/17
Related to Related to
Year Ended December 31, Foreign Foreign
(MILLIONS OF
DOLLARS) 2019 2018 2017 Total Exchange Operational Total Exchange Operational
U.S.
Livestock $ 1,219 $ 1,269 $ 1,244 (4 ) - (4 ) 2 - 2
Companion animal 1,984 1,608 1,376 23 - 23 17 - 17
3,203 2,877 2,620 11 - 11 10 - 10
International
Livestock 1,811 1,885 1,793 (4 ) (6 ) 2 5 (1 ) 6
Companion animal 1,161 1,005 850 16 (5 ) 21 18 1 17
2,972 2,890 2,643 3 (6 ) 9 9 - 9
Total
Livestock 3,030 3,154 3,037 (4 ) (3 ) (1 ) 4 - 4
Companion animal 3,145 2,613 2,226 20 (3 ) 23 17 - 17
Contract
manufacturing &
human health 85 58 44 47 (1 ) 48 32 1 31
$ 6,260 $ 5,825 $ 5,307 7 (3 ) 10 10 - 10
Earnings by segment and the operational and foreign exchange changes versus the comparable prior year period were as follows:
% Change
19/18 18/17
Related to Related to
Year Ended December 31, Foreign Foreign
(MILLIONS OF DOLLARS) 2019 2018 2017 Total Exchange Operational Total Exchange Operational
U.S. $ 2,005 $ 1,815 $ 1,637 10 - 10 11 - 11
International 1,487 1,399 1,240 6 (4 ) 10 13 - 13
Total reportable
segments 3,492 3,214 2,877 9 (1 ) 10 12 - 12
Other business
activities (348 ) (337 ) (313 ) 3 8
Reconciling Items:
Corporate (707 ) (666 ) (625 ) 6 7
Purchase accounting
adjustments (234 ) (162 ) (88 ) 44 84
Acquisition-related
costs (43 ) (63 ) (10 ) (32 ) *
Certain significant
items (67 ) 43 (25 ) * *
Other unallocated (292 ) (339 ) (291 ) (14 ) 16
Income before income
taxes $ 1,801 $ 1,690 $ 1,525 7 11
* Calculation not meaningful.
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2019 vs. 2018U.S. operating segmentU.S. segment revenue increased by$326 million , or 11%, in 2019 compared with 2018, of which$376 million resulted from growth in companion animal products, offset by a$50 million decline in livestock products. • Companion animal revenue growth was driven primarily by increased sales of
our key dermatology portfolio, the acquisition of
acquired in
across the ProHeart®, Revolution® and Simparica® franchises, including new
product introductions Revolution Plus for cats and ProHeart 12 for dogs.
• Livestock revenue decreased primarily due to continued weakness across
both the beef and dairy cattle sectors as well as the timing of
distributor purchasing patterns for medicated feed additive products
impacting cattle. For poultry, growth was driven by increased sales of
alternatives to antibiotic medicated feed additive products.
U.S. segment earnings increased by $190 million , or 10%, in 2019 compared with
2018, primarily due to revenue growth and improved gross margin, partially
offset by higher operating expenses.
International operating segment
International segment revenue increased by $82 million , or 3%, in 2019 compared
with 2018. Operational revenue increased $247 million , or 9%, reflecting growth
of $216 million in companion animal products and $31 million in livestock
products.
• Companion animal operational revenue growth resulted primarily from
increased sales of our key dermatology portfolio across multiple
international markets, growth of sales in parasiticide products, including
Simparica® and Stronghold® Plus, and the acquisition of
acquired in
• Livestock operational revenue growth was driven primarily by increased
sales in our cattle and poultry portfolios. Cattle products increased due
to sales of anti-infectives and vaccines. Poultry products also
contributed to growth with increased sales of vaccines and medicated feed
additive products. Swine products sales declined due to the negative
impact of African Swine Fever in China .
International segment earnings increased by $88 million , or 6%, in 2019 compared
with 2018. Operational earnings growth was $143 million , or 10%, primarily due
to higher revenue and improved gross margin.
Other business activities
Other business activities includes our CSS contract manufacturing results, our
human health business and expenses associated with our dedicated veterinary
medicine R&D organization, research alliances, U.S. regulatory affairs and other
operations focused on the development of our products. Other R&D-related costs
associated with non-U.S. market and regulatory activities are generally included
in the International segment.
2019 vs. 2018
Other business activities net loss increased by $11 million , or 3%, in 2019
compared with 2018, reflecting an increase in R&D project investments,
compensation-related costs and the inclusion of Abaxis expenses since
acquisition in July 2018 , partially offset by revenue from the acquired Abaxis
human health business and more favorable foreign exchange rates in 2019.
Reconciling items
Reconciling items include certain costs that are not allocated to our operating
segments results, such as costs associated with the following:
• Corporate, which includes certain costs associated with business
technology, facilities, legal, finance, human resources, business
development and communications, among others. These costs also include
certain compensation costs, certain procurement costs, and other
miscellaneous operating expenses that are not charged to our operating
segments, as well as interest income and expense;
• Certain transactions and events such as (i) Purchase accountingadjustments, which includes expenses associated with the amortization of
fair value adjustments to inventory, intangible assets and property, plant
and equipment; (ii) Acquisition-related activities, which includes costs
for acquisition and integration; and (iii) Certain significant items,
which includes non-acquisition-related restructuring charges, certain
asset impairment charges, stand-up costs, certain legal and commercial
settlements, and costs associated with cost reduction/productivity
initiatives; and
• Other unallocated, which includes (i) certain overhead expenses associated
with our global manufacturing operations not charged to our operating
segments; (ii) certain costs associated with business technology and
finance that specifically support our global manufacturing operations;
(iii) certain supply chain and global logistics costs; and (iv) certain
procurement costs.
2019 vs. 2018
Corporate expenses increased by $41 million , or 6%, in 2019 compared with 2018,
primarily due to higher interest expense, net of capitalized interest,
associated with the 2018 senior notes issued in August 2018 and an increase in
certain compensation costs not allocated to our operating segments, partially
offset by more favorable foreign exchange rates.
Other unallocated expenses decreased by $47 million , or 14%, in 2019 compared
with 2018, primarily due to the favorable impact of foreign exchange and cost
improvements and efficiencies in our manufacturing network, partially offset by
tariffs on certain products and the inclusion of Abaxis expenses.
See Notes to Consolidated Financial Statements- Note 19. Segment Information for
further information.
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Adjusted net income General description of adjusted net income (a non-GAAP financial measure) Adjusted net income is an alternative view of performance used by management, and we believe that investors' understanding of our performance is enhanced by disclosing this performance measure. The adjusted net income measure is an important internal measurement for us. Additionally, we measure our overall performance on this basis in conjunction with other performance metrics. The following are examples of how the adjusted net income measure is utilized: • senior management receives a monthly analysis of our operating results
that is prepared on an adjusted net income basis;
• our annual budgets are prepared on an adjusted net income basis; and
• other goal setting and performance measurements.
Purchase accounting adjustments Adjusted net income is calculated prior to considering certain significant purchase accounting impacts that result from business combinations and net asset acquisitions. These impacts, primarily associated with the acquisition ofAbaxis (acquired inJuly 2018 ), the Pharmaq business (acquired inNovember 2015 ), certain assets ofAbbott Animal Health (acquired inFebruary 2015 ), KAH (acquired in 2011), FDAH (acquired in 2009), andPharmacia Animal Health business (acquired in 2003), include amortization related to the increase in fair value of the acquired finite-lived intangible assets and depreciation related to the increase/decrease to fair value of the acquired fixed assets. Therefore, the adjusted net income measure includes the revenue earned upon the sale of the acquired products without considering the aforementioned significant charges. While certain purchase accounting adjustments can occur through 20 or more years, this presentation provides an alternative view of our performance that is used by management to internally assess business performance. We believe the elimination of amortization attributable to acquired intangible assets provides management and investors an alternative view of our business results by providing a degree of parity to internally developed intangible assets for which R&D costs previously have been expensed. A completely accurate comparison of internally developed intangible assets and acquired intangible assets cannot be achieved through adjusted net income. These components of adjusted net income are derived solely from the impact of the items listed above. We have not factored in the impact of any other differences in experience that might have occurred if we had discovered and developed those intangible assets on our own, and this approach does not intend to be representative of the results that would have occurred in those circumstances. For example, our R&D costs in total, and in the periods presented, may have been different; our speed to commercialization and resulting revenue, if any, may have been different; or our costs to manufacture may have been different. In addition, our marketing efforts may have been received differently by our customers. As such, in total, there can be no assurance that our adjusted net income amounts would have been the same as presented had we discovered and developed the acquired intangible assets. Acquisition-related costs Adjusted net income is calculated prior to considering transaction and integration costs associated with significant business combinations or net asset acquisitions because these costs are unique to each transaction and represent costs that were incurred to acquire and integrate certain businesses as a result of the acquisition decision. We have made no adjustments for the resulting synergies. We believe that viewing income prior to considering these charges provides investors with a useful additional perspective because the significant costs incurred in a business combination result primarily from the need to eliminate duplicate assets, activities or employees--a natural result of acquiring a fully integrated set of activities. For this reason, we believe that the costs incurred to convert disparate systems, to close duplicative facilities or to eliminate duplicate positions (for example, in the context of a business combination) can be viewed differently from those costs incurred in the ordinary course of business. The integration costs associated with a business combination may occur over several years, with the more significant impacts generally ending within three years of the transaction. Because of the need for certain external approvals for some actions, the span of time needed to achieve certain restructuring and integration activities can be lengthy. For example, due to the regulated nature of the animal health medicines and vaccines business, the closure of excess facilities can take several years, as all manufacturing changes are subject to extensive validation and testing and must be approved by the FDA and/or other regulatory authorities. Certain significant items Adjusted net income is calculated excluding certain significant items. Certain significant items represent substantive, unusual items that are evaluated on an individual basis. Such evaluation considers both the quantitative and the qualitative aspect of their unusual nature. Unusual, in this context, may represent items that are not part of our ongoing business; items that, either as a result of their nature or size, we would not expect to occur as part of our normal business on a regular basis; items that would be nonrecurring; or items that relate to products that we no longer sell. While not all-inclusive, examples of items that could be considered as certain significant items would be a major non-acquisition-related restructuring charge and associated implementation costs for a program that is specific in nature with a defined term, such as those related to our non-acquisition-related cost-reduction and productivity initiatives; amounts related to disposals of products or facilities that do not qualify as discontinued operations as defined byU.S. GAAP; certain intangible asset impairments; adjustments related to the resolution of certain tax positions; significant currency devaluation; the impact of adopting certain significant, event-driven tax legislation; costs related to our recent CEO transition; or charges related to legal matters. See Notes to Consolidated Financial Statements- Note 18. Commitments and Contingencies. Our normal, ongoing defense costs or settlements of and accruals on legal matters made in the normal course of our business would not be considered certain significant items. 48 |
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Reconciliation
A reconciliation of net income attributable to Zoetis, as reported under
Year Ended December 31, % Change
(MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17
GAAP reported net income
attributable to Zoetis $ 1,500 $ 1,428 $ 864 5 65
Purchase accounting
adjustments-net of tax 156 119 51 31 *
Acquisition-related
costs-net of tax 36 50 7 (28 ) *
Certain significant
items-net of tax 63 (72 ) 263 * *
Non-GAAP adjusted net
income(a) $ 1,755 $ 1,525 $ 1,185 15 29
* Calculation not meaningful. (a) The effective tax rate on adjusted pretax income is 18.2%, 18.8% and 28.2%
for full year 2019, 2018 and 2017, respectively. The lower effective rate in
2019 compared to 2018 is primarily due to (i) changes in the jurisdictional
mix of earnings, which reflects the impact of the location of earnings as
well as repatriation costs, (ii) an
recorded in 2019, related to the changes in valuation allowances, (iii) a
settlement of certain issues with non-U.S. tax authorities, (iv) a $4
million net discrete tax benefit recorded in 2019, related to changes in
various other tax items, and (v) an additional $5 million discrete taxbenefit recorded in 2019, related to the excess tax benefits for share-based
compensation payments, partially offset by the impact of the GILTI tax, a
new provision to the Tax Act, which became effective for the company in the
first quarter of 2019. The lower effective tax rate in 2018 compared to 2017
is primarily due to (i) the reduction of the
tax rate from 35% to 21%, effective
Act, (ii) changes in the jurisdictional mix of earnings, which reflects the
impact of the location of earnings as well as repatriation costs, (iii) a
impact of certain tax accounting method changes, and (iv) an additional
million discrete tax benefit recorded in 2018, related to the excess tax
benefits for share-based compensation payments.
A reconciliation of reported diluted earnings per share (EPS), as reported under
Year Ended December 31, % Change
2019 2018 2017 19/18 18/17
Earnings per
share-diluted(a)(b):
GAAP reported EPS
attributable to
Zoetis-diluted $ 3.11 $ 2.93 $ 1.75 6 67
Purchase accounting
adjustments-net of tax 0.32 0.24 0.10 33 *
Acquisition-related
costs-net of tax 0.08 0.10 0.01 (20 ) *
Certain significant
items-net of tax 0.13 (0.14 ) 0.54 * *
Non-GAAP adjusted
EPS-diluted $ 3.64 $ 3.13 $ 2.40 16 30
* Calculation not meaningful. (a) Diluted earnings per share was computed using the weighted-average common
shares outstanding during the period plus the common stock equivalents
related to stock options, restricted stock units, performance-vesting
restricted stock units and deferred stock units.
(b) EPS amounts may not add due to rounding.
Adjusted net income includes the following charges for each of the periods
presented:
Year Ended December 31,
(MILLIONS OF DOLLARS) 2019 2018 2017
Interest expense, net of capitalized interest $ 223 $ 206 $ 175
Interest income (37 ) (31 ) (13 )
Income taxes 390 351 465
Depreciation 166 146 136
Amortization 27 19 18
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Adjusted net income, as shown above, excludes the following items:
Year Ended December 31,
(MILLIONS OF DOLLARS) 2019 2018 2017
Purchase accounting adjustments:
Amortization and depreciation(a) $ 210 $ 135 $ 81
Cost of sales(b) 24 27 7
Total purchase accounting adjustments-pre-tax 234 162 88
Income taxes(c) 78 43 37
Total purchase accounting adjustments-net of 156 119 51
tax
Acquisition-related costs:
Integration costs 18 21 6
Transaction costs - 21 -
Restructuring charges(d) 25 21 4
Total acquisition-related costs-pre-tax 43 63 10
Income taxes(c) 7 13 3
Total acquisition-related costs-net of tax 36 50 7
Certain significant items:
Operational efficiency initiative(e) (20 ) (1 ) 5
Supply network strategy(f) 7 10 15
Other restructuring charges and 8 7 4
cost-reduction/productivity initiatives(g)
Gain on sale of assets(h) - (42 ) -
Stand-up costs(i) - - 3
Other(j) 72 (17 ) (2 )
Total certain significant items-pre-tax 67 (43 ) 25
Income taxes(c) 4 29 (238 )
Total certain significant items-net of tax 63 (72 ) 263
Total purchase accounting adjustments,
acquisition-related costs, and certain
significant items-net of tax $ 255 $ 97 $ 321
(a) Amortization and depreciation expenses related to Purchase accountingadjustments with respect to identifiable intangible assets and property,
plant and equipment.
(b) Fair value adjustments to acquired inventory, as well as amortization and
depreciation expense.
(c) Income taxes include the tax effect of the associated pre-tax amounts,calculated by determining the jurisdictional location of the pre-tax amounts
and applying that jurisdiction's applicable tax rate.
Income taxes in Purchase accounting adjustments also includes: •For 2019, a remeasurement of deferred taxes as a result of a change in statutory tax rates, and an adjustment related to a change in tax basis. •For 2018, a remeasurement of deferred taxes as a result of a change in non-U.S. statutory tax rates. •For 2017, (i) a provisional tax benefit of approximately$17 million related to the remeasurement of the company's deferred taxes due to the reduction in theU.S. federal corporate tax rate as provided by the Tax Act enacted onDecember 22, 2017 , (ii) remeasurement of deferred taxes as a result of a change in non-U.S. statutory tax rates, and (iii) a net tax charge related to prior period tax adjustments.
Income taxes in Acquisition-related costs also includes:
•For 2018, a tax charge related to the non-deductibility of certain costs
associated with the acquisition of
Income taxes in Certain significant items also includes:
•For 2018, (i) a net tax benefit of$45 million related to a measurement-period adjustment to the one-time mandatory deemed repatriation tax on the company's undistributed non-U.S. earnings, pursuant to the Tax Act, and (ii) a tax charge of approximately$17 million related to the disposal of certain assets. •For 2017, (i) a provisional net tax charge of approximately$229 million related to the impact of the Tax Act enacted onDecember 22, 2017 , including a one-time mandatory deemed repatriation tax on the company's undistributed non-U.S. earnings, partially offset by a net tax benefit related to the remeasurement of the company's deferred tax assets and liabilities, as of the date of enactment, due to the reduction in theU.S. federal corporate tax rate, (ii) a net tax charge of approximately$3 million as a result of the implementation of certain operational changes, and (iii) a tax charge of approximately$2 million related to the disposal of certain assets. (d) Represents employee termination costs related to the 2018 acquisition of
(e) For 2019, represents income resulting from a payment received pursuant to an
agreement related to the 2016 sale of certain
(f) Represents consulting fees and product transfer costs, included in Cost of
sales, and employee termination costs and exit costs, included in
Restructuring charges and certain acquisition-related costs, related to
cost-reduction and productivity initiatives.
(g) For 2019, represents employee termination costs incurred as a result of the
CEO transition.
For 2018, represents employee termination costs/(reversals) in
agribusiness products within our International segment.
(i) Represents certain non-recurring costs related to becoming an independent
public company, such as the creation of standalone systems and
infrastructure, site separation, new branding (including changes to the
manufacturing process for required new packaging), and certain legal
registration and patent assignment costs.
(j) For 2019, primarily represents a change in estimate related to inventory
costing and CEO transition-related costs. For 2018, primarily represents a
net gain related to the relocation of a manufacturing site in
2017, primarily represents costs associated with changes to our operating
model.
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The classification of the above items excluded from adjusted net income are as
follows:
Year Ended December 31,
(MILLIONS OF DOLLARS) 2019 2018 2017
Cost of sales:
Purchase accounting adjustments $ 24 $ 27 $ 7
Accelerated depreciation - - 2
Inventory write-offs - 1 (2 )
Consulting fees 7 8 6
Stand-up costs - - 3
Other 70 (1 ) (2 )
Total Cost of sales 101 35 14
Selling, general & administrative expenses:
Purchase accounting adjustments 72 32 5
Consulting fees - - 2
Other 2 2 2
Total Selling, general & administrative
expenses 74 34 9
Research & development expenses:
Purchase accounting adjustments 2 2 2
Total Research & development expenses 2 2 2
Amortization of intangible assets:
Purchase accounting adjustments 136 101 74
Total Amortization of intangible assets 136 101 74
Restructuring charges and certain
acquisition-related costs:
Integration costs 18 21 6
Transaction costs - 21 -
Employee termination costs 33 25 10
Exit costs - 1 3
Total Restructuring charges and certain
acquisition-related costs 51 68 19
Other (income)/deductions-net:
Net (gain)/loss on sale of assets (20 ) (40 ) 10
Other - (18 ) (5 )
Total Other (income)/deductions-net (20 ) (58 ) 5
Provision for / (benefit from) taxes on income 89 85 (198 )
Total purchase accounting adjustments,
acquisition-related costs, and certain
significant items-net of tax $ 255 $
97
Analysis of the Consolidated Statements of Comprehensive Income Substantially all changes in other comprehensive income for the periods presented are related to foreign currency translation adjustments. These changes result from the strengthening or weakening of theU.S. dollar as compared to the currencies in the countries in which we do business. The gains and losses associated with these changes are deferred on the balance sheet in Accumulated other comprehensive loss until realized. Analysis of the Consolidated Balance SheetsDecember 31, 2019 vs.December 31, 2018 For a discussion about the changes in Cash and cash equivalents, Short-term borrowings, Current portion of long-term debt and Long-term debt, net of discount and issuance costs, see "Analysis of financial condition, liquidity and capital resources" below. Short-term investments decreased as a result of maturities of debt securities. Other current assets increased primarily as a result of the timing of income tax payments, higher receivables due to value-added tax for our international markets and other higher prepaid expenses. 51 |
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Property, plant and equipment, less accumulated depreciation increased primarily as a result of capital spending, partially offset by depreciation expense and the impact of foreign exchange. The net change in Operating lease right of use assets, and Operating lease liabilities relates to the adoption of the new lease accounting standard, which became effectiveJanuary 1, 2019 . See Notes to Consolidated Financial Statements-Note 3. Significant Accounting Policies and Note 10. Leases. Identifiable intangible assets, less accumulated amortization decreased as a result of amortization expense and the impact of foreign exchange, partially offset by the acquisitions of Platinum Performance,Phoenix Lab and ZNLabs. See Notes to Consolidated Financial Statements- Note 5. Acquisitions and Divestitures and Note 13.Goodwill and Other Intangible Assets. The net changes in Noncurrent deferred tax assets, Noncurrent deferred tax liabilities, Income taxes payable and Other taxes payable primarily reflect the adjustments to the accrual for the income tax benefit, the tax impact of various acquisitions, and the impact of the remeasurement of deferred taxes as a result of a change in tax rates. See Notes to Consolidated Financial Statements- Note 8. Tax Matters. Dividends payable increased as a result of an increase in the dividend rate for the first quarter 2020 dividend, which was declared onDecember 11, 2019 . Accrued expenses increased primarily due to higher contract rebate accruals and accrued costs associated with the CEO transition, partially offset by payment of employee termination costs primarily associated with the acquisition ofAbaxis . Other current liabilities increased primarily due to short-term lease liabilities as a result of the adoption of the new lease accounting standard, which became effectiveJanuary 1, 2019 , partially offset by the payments of contingent consideration related to the 2016 acquisition of certain intangible assets related to our livestock product portfolio and the 2018 acquisition of a manufacturing business inIreland . See Notes to Consolidated Financial Statements-Note 3. Significant Accounting Policies and Note 10. Leases. Other noncurrent liabilities increased as a result of contingent consideration recorded related to the 2019 acquisitions, increases in deferred compensation due to gains from investments and accrued pension benefits due to decreases in the discount rate. See Notes to Consolidated Financial Statements- Note 5. Acquisitions and Divestitures and Note 14. Benefit Plans. For an analysis of the changes in Total Equity, see the Consolidated Statements of Equity and Notes to Consolidated Financial Statements- Note 16. Stockholders' Equity. Analysis of the Consolidated Statements of Cash Flows Year Ended December 31, % Change (MILLIONS OF DOLLARS) 2019 2018 2017 19/18 18/17 Net cash provided by (used in): Operating activities$ 1,795 $ 1,790 $ 1,346 0 33 Investing activities (504 ) (2,259 ) (270 ) (78 ) * Financing activities (951 ) 533 (251 ) (278 ) * Effect of exchange-rate changes (26 ) 12 (69 ) * on cash and cash equivalents (8 )
Net increase/(decrease) in cash
774 (95 ) and cash equivalents * Calculation not meaningful. Operating activities 2019 vs. 2018 Net cash provided by operating activities was$1,795 million in 2019 compared with$1,790 million in 2018. The increase in operating cash flows was primarily attributable to higher cash earnings, partially offset by higher income tax payments, higher interest payments and higher inventory, as well as the timing of receipts and payments in the ordinary course of business. Investing activities 2019 vs. 2018 Net cash used in investing activities was$504 million in 2019 compared with$2,259 million in 2018. The net cash used in investing activities for 2019 was primarily attributable to capital expenditures and the acquisitions of Platinum Performance,Phoenix Lab and ZNLabs, partially offset by proceeds from maturities of debt securities, proceeds from cross-currency interest rate swaps and proceeds resulting from a payment received pursuant to an agreement related to the 2016 sale of certainU.S. manufacturing sites. The net cash used in investing activities for 2018 was primarily attributable to the acquisitions ofAbaxis and a manufacturing business inIreland , and purchases of property, plant and equipment. Financing activities 2019 vs. 2018 Net cash used in financing activities was$951 million in 2019 compared with net cash provided by financing activities of$533 million in 2018. The net cash used in financing activities for 2019 was primarily attributable to the purchase of treasury shares, the payment of dividends, the payment of short-term borrowings and the payments of contingent consideration related to the 2016 acquisition of certain intangible assets related to our livestock product portfolio and the 2018 acquisition of a manufacturing business inIreland . The net cash provided by financing activities for 2018 52 |
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was primarily attributable to the proceeds received from the issuance of senior notes inAugust 2018 , partially offset by the purchase of treasury shares and the payment of dividends. Analysis of financial condition, liquidity and capital resources While we believe our cash and cash equivalents on hand, our operating cash flows and our existing financing arrangements will be sufficient to support our future cash needs, this may be subject to the environment in which we operate. Risks to our meeting future funding requirements include global economic conditions described in the following paragraph. Global financial markets may be impacted by macroeconomic, business and financial volatility. As markets change, we will continue to monitor our liquidity position, but there can be no assurance that a challenging economic environment or an economic downturn will not impact our liquidity or our ability to obtain future financing. Selected measures of liquidity and capital resources Certain relevant measures of our liquidity and capital resources follow: December 31, December 31, (MILLIONS OF DOLLARS) 2019 2018 Cash and cash equivalents$ 1,934 $ 1,602 Accounts receivable, net(a) 1,086 1,036 Short-term borrowings - 9 Current portion of long-term debt 500 - Long-term debt 5,947 6,443 Working capital 2,942 3,176
(a) Accounts receivable are usually collected over a period of 45 to 75 days.
For the year ended December 31, 2019 , compared to the year ended
December 31, 2018 , the number of days that accounts receivables are
outstanding remained approximately the same. We regularly monitor our
accounts receivable for collectability, particularly in markets where
economic conditions remain uncertain. We believe that our allowance fordoubtful accounts is appropriate. Our assessment is based on such factors as
past due aging, historical and expected collection patterns, the financial
condition of our customers, the robust nature of our credit and collection
practices and the economic environment.
For additional information about the sources and uses of our funds, see the Analysis of the Consolidated Balance Sheets and Analysis of the Consolidated Statements of Cash Flows sections of this MD&A. Credit facility and other lines of credit InDecember 2016 , we entered into an amended and restated revolving credit agreement with a syndicate of banks providing for a multi-year$1.0 billion senior unsecured revolving credit facility (the credit facility). InDecember 2018 , the maturity for the amended and restated credit facility was extended throughDecember 2023 . Subject to certain conditions, we have the right to increase the credit facility to up to$1.5 billion . The credit facility contains a financial covenant requiring us to not exceed a maximum total leverage ratio (the ratio of consolidated net debt as of the end of the period to consolidated Earnings Before Interest, Income Taxes, Depreciation and Amortization (EBITDA) for such period) of 3.50:1. Upon entering into a material acquisition, the maximum total leverage ratio increases to 4.00:1, and extends until the fourth full consecutive fiscal quarter ended immediately following the consummation of a material acquisition. The credit facility also contains a clause which adds back to Adjusted Consolidated EBITDA, any operational efficiency restructuring charge (defined as charges recorded by the company during the period commencing onOctober 1, 2016 and endingDecember 31, 2019 , related to operational efficiency initiatives), provided that for any twelve month period such charges added back to Adjusted Consolidated EBITDA shall not exceed$100 million in the aggregate. The credit facility also contains a financial covenant requiring that we maintain a minimum interest coverage ratio (the ratio of EBITDA at the end of the period to interest expense for such period) of 3.50:1. In addition, the credit facility contains other customary covenants. We were in compliance with all financial covenants as ofDecember 31, 2019 andDecember 31, 2018 . There were no amounts drawn under the credit facility as ofDecember 31, 2019 orDecember 31, 2018 . We have additional lines of credit and other credit arrangements with a group of banks and other financial intermediaries for general corporate purposes. We maintain cash and cash equivalent balances in excess of our outstanding short-term borrowings. As ofDecember 31, 2019 , we had access to$76 million of lines of credit which expire at various times through 2020, and are generally renewed annually. We had no borrowings outstanding related to these facilities as ofDecember 31, 2019 . Domestic and international short-term funds Many of our operations are conducted outside theU.S. The amount of funds held in theU.S. will fluctuate due to the timing of receipts and payments in the ordinary course of business and due to other reasons, such as business development activities. As part of our ongoing liquidity assessments, we regularly monitor the mix ofU.S. and international cash flows (both inflows and outflows). Actual repatriation of overseas funds can result in additionalU.S and local income taxes, such asU.S. state income taxes, local withholding taxes, and taxes on currency gains and losses. In addition, the recent changes imposed by the Tax Act resulted in a one-time deemed repatriation tax of previously untaxed accumulated and current earnings and profits of our foreign subsidiaries, which is payable over eight years, with the first installment paid in 2019. See Notes to Consolidated Financial Statements- Note 8. Tax Matters. 53 |
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Global economic conditions Challenging economic conditions in recent years have not had, nor do we anticipate that it will have, a significant impact on our liquidity. Due to our operating cash flows, financial assets, access to capital markets and available lines of credit and revolving credit agreements, we continue to believe that we have the ability to meet our liquidity needs for the foreseeable future. As markets change, we continue to monitor our liquidity position. There can be no assurance that a challenging economic environment or a further economic downturn would not impact our ability to obtain financing in the future. Contractual obligations Payments due under contractual obligations as ofDecember 31, 2019 , are set forth below: 2021- 2023- There- (MILLIONS OF DOLLARS) Total 2020 2022 2024 after Long-term debt, including interest obligations(a)$ 9,601 $ 745 $ 1,039 $ 1,707 $ 6,110 Other liabilities reflected on our Consolidated Balance Sheets underU.S. GAAP(b) 112 31 26 16 39 Operating lease commitments 225 42 68 48 67 Purchase obligations(c) 440 153 221 39 27 Benefit plans - continuing service credit obligations(d) 12 4 8 - - Uncertain tax positions(e) - - - - -
(a) Long-term debt consists of senior notes and other notes. Our calculations of
expected interest payments incorporate only current period assumptions for
interest rates, foreign currency translation rates and Zoetis hedging
strategies. See Notes to Consolidated Financial Statements- Note 9A.
Financial Instruments: Debt.
(b) Includes expected employee termination payments that represent contractual
obligations, expected payments related to our unfunded
(non-qualified) savings plans, deferred compensation and expected payments
relating to our future benefit payments net of plan assets (included in the
determination of the projected benefit obligation) for pension plans that
are dedicated to Zoetis employees and those transferred to us from Pfizer.
See Notes to Consolidated Financial Statements- Note 5. Acquisitions and
Divestitures, Note 6. Restructuring Charges and Other Costs Associated with
Acquisitions, Cost-Reduction and Productivity Initiatives and Note 14.
Benefit Plans. Excludes approximately
related to legal and environmental accruals, certain employee termination
and exit costs, deferred income and other accruals, most of which do not
represent contractual obligations. See Notes to Consolidated Financial
Statements- Note 6. Restructuring Charges and Other Costs Associated with
Acquisitions, Cost-Reduction and Productivity Initiatives and Note 18.
Commitments and Contingencies.
(c) Includes agreements to purchase goods and services that are enforceable and
legally binding and includes amounts relating to advertising, contract
manufacturing, and information technology services.
(d) Includes the cost of service credit continuation for certain Zoetis
employees in the Pfizer
retiree medical plans, in accordance with the employee matters agreement.
See Notes to Consolidated Financial Statements- Note 14. Benefit Plans.
(e) Except for amounts reflected in Income taxes payable, we are unable to
predict the timing of tax settlements, as tax audits can involve complex
issues and the resolution of those issues may span multiple years,
particularly if subject to negotiation or litigation.
The table above excludes amounts for potential milestone payments unless the payments are deemed reasonably likely to occur. Payments under these agreements generally become due and payable only upon the achievement of certain development, regulatory and/or commercialization milestones, which may span several years and/or which may never occur. Our contractual obligations in the table above are not necessarily indicative of our contractual obligations in the future.Debt Securities OnAugust 20, 2018 , we issued$1.5 billion aggregate principal amount of our senior notes (2018 senior notes), with an original issue discount of$4 million . These notes are comprised of$300 million aggregate principal amount of floating rate senior notes due 2021 (the "2018 floating rate senior notes"), and$300 million aggregate principal amount of 3.250% senior notes due 2021,$500 million aggregate principal amount of 3.900% senior notes due 2028 and$400 million aggregate principal amount of 4.450% senior notes due 2048 (collectively, the "2018 fixed rate senior notes"). Net proceeds from this offering were partially used to pay down and terminate a revolving credit agreement and repay outstanding commercial paper that were borrowed to finance a portion of the cash consideration for the acquisition ofAbaxis (see Notes to Consolidated Financial Statements- Note 5. Acquisitions and Divestitures). The remainder of the net proceeds will be used for general corporate purposes. OnSeptember 12, 2017 , we issued$1.25 billion aggregate principal amount of our senior notes (2017 senior notes), with an original issue discount of$7 million . These notes are comprised of$750 million aggregate principal amount of 3.000% senior notes due 2027 and$500 million aggregate principal amount of 3.950% senior notes due 2047. Net proceeds from this offering were partially used inOctober 2017 to repay, prior to maturity, the aggregate principal amount of$750 million , and a make-whole amount and accrued interest of$4 million , of our 1.875% senior notes due 2018. The remainder of the net proceeds were used for general corporate purposes. OnNovember 13, 2015 , we issued$1.25 billion aggregate principal amount of our senior notes (2015 senior notes), with an original issue discount of$2 million . OnJanuary 28, 2013 , we issued$3.65 billion aggregate principal amount of our senior notes (2013 senior notes) in a private placement, with an original issue discount of$10 million . The 2013, 2015, 2017 and 2018 senior notes are governed by an indenture and supplemental indenture (collectively, the indenture) between us andDeutsche Bank Trust Company Americas , as trustee. The indenture contains certain covenants, including limitations on our and certain of our subsidiaries' ability to incur liens or engage in sale lease-back transactions. The indenture also contains restrictions on our ability to consolidate, merge or sell substantially all of our assets. In addition, the indenture contains other customary terms, including certain events of default, upon the occurrence of which (if not cured or waived), the 2013, 2015, 2017 and 2018 senior notes may be declared immediately due and payable. 54 |
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Pursuant to the indenture, we are able to redeem the 2013, 2015 and 2017 senior notes and the 2018 fixed rate senior notes of any series, in whole or in part, at any time by paying a "make whole" premium, plus accrued and unpaid interest to, but excluding, the date of redemption. Pursuant to our tax matters agreement with Pfizer, we will not be permitted to redeem the 2013 senior notes due 2023 pursuant to this optional redemption provision, except under limited circumstances. Upon the occurrence of a change of control of us and a downgrade of the 2013, 2015, 2017 and 2018 senior notes below an investment grade rating by each ofMoody's Investors Service, Inc. andStandard & Poor's Ratings Services , we are, in certain circumstances, required to make an offer to repurchase all of the outstanding 2013, 2015, 2017 and 2018 senior notes at a price equal to 101% of the aggregate principal amount of the 2013, 2015, 2017 and 2018 senior notes together with accrued and unpaid interest to, but excluding, the date of repurchase. Our outstanding debt securities are as follows: Principal Interest Description Amount Rate Terms Interest due semi annually, not subject to 2015 Senior$500 amortization, aggregate principal due on Notes due 2020 million 3.450% November 13, 2020 2018 Floating Three-month Interest due quarterly, not subject to Rate Senior$300 USD LIBOR amortization, aggregate principal due on Notes due 2021 million plus 0.44% August 20, 2021 Interest due semi annually, not subject to 2018 Senior$300 amortization, aggregate principal due on Notes due 2021 million 3.250% August 20, 2021 Interest due semi annually, not subject to 2013 Senior$1,350 amortization, aggregate principal due on Notes due 2023 million 3.250% February 1, 2023 Interest due semi annually, not subject to 2015 Senior$750 amortization, aggregate principal due on Notes due 2025 million 4.500% November 13, 2025 Interest due semi annually, not subject to 2017 Senior$750 amortization, aggregate principal due on Notes due 2027 million 3.000% September 12, 2027 Interest due semi annually, not subject to 2018 Senior$500 amortization, aggregate principal due on Notes due 2028 million 3.900% August 20, 2028 Interest due semi annually, not subject to 2013 Senior$1,150 amortization, aggregate principal due on Notes due 2043 million 4.700% February 1, 2043 Interest due semi annually, not subject to 2017 Senior$500 amortization, aggregate principal due on Notes due 2047 million 3.950% September 12, 2047 Interest due semi annually, not subject to 2018 Senior$400 amortization, aggregate principal due on Notes due 2048 million 4.450% August 20, 2048 Credit ratings Two major corporate debt-rating organizations, Moody's and S&P, assign ratings to our short-term and long-term debt. A security rating is not a recommendation to buy, sell or hold securities and the rating is subject to revision or withdrawal at any time by the rating organization. Each rating should be evaluated independently of any other rating. The following table provides the current ratings assigned by these rating agencies to our commercial paper and senior unsecured non-credit-enhanced long-term debt: Commercial Paper Long-term Debt Date of Name of Rating Agency Rating Rating Outlook Last Action Moody's P-2 Baa1 Stable August 2017 S&P A-2 BBB Stable December 2016 Pension obligations Our employees ceased to participate in the PfizerU.S. qualified defined benefit andU.S. retiree medical plans effectiveDecember 31, 2012 , and liabilities associated with our employees under these plans were retained by Pfizer. As part of the separation from Pfizer, Pfizer continued to credit certain employees' service with Zoetis generally throughDecember 31, 2017 (or termination of employment from Zoetis, if earlier), for certain early retirement benefits with respect to Pfizer'sU.S. defined benefit pension and retiree medical plans. In connection with the employee matters agreement, Zoetis is responsible for payment of three-fifths of the total cost of the service credit continuation (approximately$38 million ) for these plans. The amount of the service cost continuation payment to be paid by Zoetis to Pfizer was determined and fixed based on an actuarial assessment of the value of the grow-in benefits and will be paid in equal installments over a period of 10 years. As ofDecember 31, 2019 , the remaining payments due to Pfizer (approximately$12 million in the aggregate) are to be paid over the next three years. As part of the separation from Pfizer, Pfizer transferred to us the net pension obligations associated with certain international defined benefit plans. We expect to contribute a total of approximately$6 million to these plans in 2020. As ofDecember 31, 2019 , the supplemental savings plan liability was approximately$48 million . For additional information, see Notes to Consolidated Financial Statements- Note 14. Benefit Plans. 55 |
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Share repurchase program InDecember 2016 , the company's Board of Directors authorized a$1.5 billion share repurchase program. This program was completed as ofDecember 31, 2019 . InDecember 2018 , the company's Board of Directors authorized an additional$2.0 billion share repurchase program. As ofDecember 31, 2019 , there was approximately$1.7 billion remaining under this authorization. Purchases of Zoetis shares may be made at the discretion of management, depending on market conditions and business needs. Share repurchases may be executed through various means, including open market or privately negotiated transactions. During 2019, approximately 5.8 million shares were repurchased. Off-balance sheet arrangements In the ordinary course of business and in connection with the sale of assets and businesses, we may indemnify our counterparties against certain liabilities that may arise in connection with a transaction or that are related to activities prior to a transaction. These indemnifications typically pertain to environmental, tax, employee and/or product-related matters, and patent-infringement claims. If the indemnified party were to make a successful claim pursuant to the terms of the indemnification, we would be required to reimburse the loss. These indemnifications are generally subject to threshold amounts, specified claim periods and other restrictions and limitations. Historically, we have not paid significant amounts under these provisions and, as ofDecember 31, 2019 andDecember 31, 2018 , recorded amounts for the estimated fair value of these indemnifications are not significant. New accounting standards See Note 3. Significant Accounting Policies in the Notes to Consolidated Financial Statements for discussion of recent accounting pronouncements, including the respective dates of adoption or expected adoption and effects or expected effects on our consolidated financial position, results of operations and cash flows. 56 |
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Forward-looking statements and factors that may affect future results This report contains "forward-looking" statements. We intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. We generally identify forward-looking statements by using words such as "anticipate," "estimate," "could," "expect," "intend," "project," "plan," "predict," "believe," "seek," "continue," "outlook," "objective," "target," "may," "might," "will," "should," "can have," "likely" or the negative version of these words or comparable words or by using future dates in connection with any discussion of future performance, actions or events. In particular, forward-looking statements include statements relating to our 2020 financial guidance, future actions, business plans or prospects, prospective products, product approvals or products under development, product supply disruptions, R&D costs, timing and likelihood of success, future operating or financial performance, future results of current and anticipated products and services, strategies, sales efforts, expenses, production efficiencies, production margins, anticipated timing of generic market entries, integration of acquired businesses, interest rates, tax rates, changes in tax regimes and laws, foreign exchange rates, growth in emerging markets, the outcome of contingencies, such as legal proceedings, plans related to share repurchases and dividends, government regulation and financial results. These statements are not guarantees of future performance, actions or events. Forward-looking statements are subject to risks and uncertainties, many of which are beyond our control, and are based on assumptions that could prove to be inaccurate. Among the factors that could cause actual results to differ materially from past results and future plans and projected future results are the following: • unanticipated safety, quality or efficacy concerns about our products;
• issues with any of our top products;
• failure of our R&D, acquisition and licensing efforts to generate new
products and product lifecycle innovations;
• the possible impact and timing of competing products, including generic
alternatives, on our products and our ability to compete against such
products;
• disruptive innovations and advances in medical practices and technologies;
• difficulties and delays in the development, manufacturing and
commercialization of new products;
• consolidation of our customers and distributors;
• changes in the distribution channel for companion animal products;
• failure to successfully acquire businesses, license rights or products,
integrate businesses, form and manage alliances or divest businesses;
• acquiring or implementing new business lines or offering new products and
services;
• restrictions and bans on the use of and consumer preferences regarding
antibacterials in food-producing animals;
• perceived adverse effects linked to the consumption of food derived from
animals that utilize our products or animals generally;
• adverse global economic conditions;
• increased regulation or decreased governmental support relating to the
raising, processing or consumption of food-producing animals;
• fluctuations in foreign exchange rates and potential currency controls;
• changes in tax laws and regulations;
• legal factors, including product liability claims, antitrust litigation
and governmental investigations, including tax disputes, environmental
concerns, commercial disputes and patent disputes with branded and generic
competitors, any of which could preclude commercialization of products or
negatively affect the profitability of existing products;
• failure to protect our intellectual property rights or to operate ourbusiness without infringing the intellectual property rights of others;
• product launch delays, inventory shortages, recalls or unanticipated costs
caused by manufacturing problems and capacity imbalances;
• an outbreak of infectious disease carried by animals;
• adverse weather conditions and the availability of natural resources;
• the economic, political, legal and business environment of the foreign
jurisdictions in which we do business;
• a cyber-attack, information security breach or other misappropriation of
our data;
• quarterly fluctuations in demand and costs;
• governmental laws and regulations affecting domestic and foreign
operations, including without limitation, tax obligations and changes
affecting the tax treatment by the
that may result from pending and possible future proposals;
• governmental laws and regulations affecting our interactions with
veterinary healthcare providers; and
• the other factors set forth under "Risk Factors" in Item 1A of Part I of
this 2019 Annual Report.
However, there may also be other risks that we are unable to predict at this
time. These risks or uncertainties may cause actual results to differ materially
from those contemplated by a forward-looking statement. You should not put undue
reliance on forward-looking statements. Forward-looking statements speak only as
of the date on which they are made. We undertake no obligation to publicly
update forward-looking statements,
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whether as a result of new information, future events or otherwise, except as required by law or by the rules and regulations of theSEC . You are advised, however, to consult any further disclosures we make on related subjects in our Form 10-Q and 8-K reports and our other filings with theSEC . You should understand that it is not possible to predict or identify all such factors. Consequently, you should not consider the above to be a complete discussion of all potential risks or uncertainties. Item 7A. Quantitative and Qualitative Disclosures About Market Risk. A significant portion of our revenue and costs are exposed to changes in foreign exchange rates. In addition, our outstanding borrowings may be subject to risk from changes in interest rates and foreign exchange rates. The overall objective of our financial risk management program is to seek to minimize the impact of foreign exchange rate movements and interest rate movements on our earnings. We manage these financial exposures through operational means and by using certain financial instruments. These practices may change as economic conditions change. Foreign exchange risk Our primary net foreign currency translation exposures are the Australian dollar, Brazilian real, Canadian dollar, Chinese yuan, euro, andU.K. pound. We seek to manage our foreign exchange risk, in part, through operational means, including managing same-currency revenue in relation to same-currency costs and same-currency assets in relation to same-currency liabilities. Foreign exchange risk is also managed through the use of foreign currency forward-exchange contracts. These contracts are used to offset the potential earnings effects from mostly intercompany short-term foreign currency assets and liabilities that arise from operations. Our financial instrument holdings atDecember 31, 2019 , were analyzed to determine their sensitivity to foreign exchange rate changes. The fair values of these instruments were determined using Level 2 inputs. For additional details, see Notes to Consolidated Financial Statements- Note 3. Significant Accounting Policies: Fair Value. The sensitivity analysis of changes in the fair value of all foreign currency forward-exchange contracts atDecember 31, 2019 , indicates that if theU.S. dollar were to appreciate against all other currencies by 10%, the fair value of these contracts would increase by$13 million , and if theU.S. dollar were to weaken against all other currencies by 10%, the fair value of these contracts would decrease by$17 million . For additional details, see Notes to Consolidated Financial Statements- Note 9C. Financial Instruments: Derivative Financial Instruments. Interest rate risk Our outstanding debt balances are predominantly fixed rate debt. While changes in interest rates will have no impact on the interest we pay on our fixed rate debt, interest on our$300 million aggregate principal amount of 2018 Floating Rate Senior Notes due 2021, as well as interest on our commercial paper and revolving credit facility will be exposed to interest rate fluctuations. Additionally, as ofDecember 31, 2019 , because we held certain interest rate swap agreements that have the economic effect of modifying the fixed-interest obligations associated with our 3.9% Senior Notes due 2028, the fixed-rate interest payable on these senior notes effectively became variable based on LIBOR. AtDecember 31, 2019 , there were no commercial paper borrowings outstanding and no outstanding principal balance under our revolving credit facility. By issuing the Floating-Rate Notes and by entering into the aforementioned swap arrangements, we have assumed risks associated with variable interest rates based upon LIBOR. Changes in the overall level of interest rates affect the interest expense that we recognize in our Consolidated Statements of Income. An interest rate risk sensitivity analysis is used to measure interest rate risk by computing estimated changes in cash flows as a result of assumed changes in market interest rates. As ofDecember 31, 2019 , if LIBOR-based interest rates would have been higher by 100 basis points, the change would have increased our interest expense annually by approximately$4.5 million , as it relates to our fixed to floating interest rate swap agreements and floating-rate borrowings. See Notes to Consolidated Financial Statements- Note 9. Financial Instruments. 58 |
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