NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. Organization
Zoetis Inc. (including its subsidiaries, collectively, Zoetis, the company, we, us or our) is 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. We organize and operate our business in two geographic regions: the United States (U.S.) and International.
We directly market our products in approximately 45 countries across North America, Europe, Africa, Asia, Australia and South America. Our products are sold in more than 100 countries, including developed markets and emerging markets. We have a diversified business, marketing products across eight core species: cattle, swine, poultry, fish and sheep (collectively, livestock) and dogs, cats and horses (collectively, companion animals); and within seven major product categories: vaccines, anti-infectives, parasiticides, other pharmaceuticals, dermatology, medicated feed additives and animal health diagnostics.
2. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements were prepared following the requirements of the Securities and Exchange Commission (SEC) for interim reporting. As permitted under those rules, certain footnotes or other financial information that are normally required by accounting principles generally accepted in the United States of America (U.S. GAAP) can be condensed or omitted. Balance sheet amounts and operating results for subsidiaries operating outside the U.S. are as of and for the three-month periods ended February 29, 2020 and February 28, 2019.
Revenue, expenses, assets and liabilities can vary during each quarter of the year. Therefore, the results and trends in these interim financial statements may not be representative of those for the full year.
Certain reclassifications of prior year information have been made to conform to the current year's presentation.
We are responsible for the unaudited condensed consolidated financial statements included in this Form 10-Q. The condensed consolidated financial statements include all normal and recurring adjustments that are considered necessary for the fair presentation of our financial position and operating results. The information included in this interim report should be read in conjunction with the financial statements and accompanying notes included in our 2019 Annual Report on Form 10-K.
3. Accounting Standards
Recently Adopted Accounting Standards
In August 2018, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2018-15, Intangibles-Goodwill and Other-Internal-Use Software (Topic 350-40), an accounting standards update which expands the scope of costs associated with cloud computing arrangements that must be capitalized. Under the new guidance, costs associated with implementing a cloud computing arrangement that is a service contract must be capitalized and expensed over the term of the hosting arrangement. We adopted this guidance as of January 1, 2020, the required effective date, on a prospective basis. The adoption did not have a significant impact on our consolidated financial statements.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments (Topic 326), an accounting standards update which requires an entity to measure and recognize expected credit losses for certain financial instruments, including trade receivables, as an allowance that reflects the entity's current estimate of credit losses expected to be incurred. For available-for-sale debt securities with unrealized losses, the standard requires allowances to be recorded instead of reducing the amortized cost of the investment. We adopted this guidance as of January 1, 2020, the required effective date, on a prospective basis. The adoption did not have a significant impact on our consolidated financial statements.
Recently Issued Accounting Standards
In March 2020, the FASB issued ASU No. 2020-04, Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting. The new guidance provides temporary optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions that reference the London Interbank Offered Rate (LIBOR) or another reference rate expected to be discontinued because of reference rate reform. Adoption of the provisions of ASU 2020-04 are optional and effective as of March 12, 2020, but only available through December 31, 2022. We are currently evaluating the impact that the new guidance will have on our consolidated financial statements and related disclosures, as well as the timing of the potential adoption.
4. Revenue
A. Revenue from Product Sales
We offer a diversified portfolio of products which allows us to capitalize on local and regional customer needs. 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 and e-commerce outlets. The depth of our product portfolio enables us to address the varying needs of customers in different species and geographies. Many of our top selling product lines are distributed
across both of our operating segments, leveraging our research and development (R&D) operations and manufacturing and supply chain network.
Over the course of our history, we have focused on developing a diverse portfolio of animal health products, including medicines, vaccines and diagnostics, complemented by biodevices, genetic tests and a range of services. We refer to a single product in all brands, or its dosage forms for all species, as a product line. We have approximately 300 comprehensive product lines, including products for both livestock and companion animals across each of our major product categories.
In the fourth quarter of 2019, the company modified the list of major product categories to include a category for dermatology products, which was previously included within other pharmaceutical products. The prior period presentation has been revised to reflect the new product categories.
Our major product categories are:
•vaccines: biological preparations that help prevent diseases of the respiratory, gastrointestinal and reproductive tracts or induce a specific immune response;
•anti-infectives: products that prevent, kill or slow the growth of bacteria, fungi or protozoa;
•parasiticides: products that prevent or eliminate external and internal parasites such as fleas, ticks and worms;
•other pharmaceutical products: pain and sedation, antiemetic, reproductive, and oncology products;
•dermatology products: products that relieve itch associated with allergic conditions and atopic dermatitis;
•medicated feed additives: products added to animal feed that provide medicines to livestock; and
•animal health diagnostics: portable blood and urine analysis systems and point-of-care diagnostic products, including instruments and reagents, rapid immunoassay tests, reference laboratory kits and blood glucose monitors.
Our remaining revenue is derived from other non-pharmaceutical product categories, such as nutritionals and agribusiness, as well as products and services in smaller but fast growing areas, including biodevices, genetic tests and precision livestock farming.
Our livestock products primarily help prevent or treat diseases and conditions to enable the cost-effective production of safe, high-quality animal protein. Human population growth and increasing standards of living are important long-term growth drivers for our livestock products in three major ways. First, population growth and increasing standards of living drive increased demand for improved nutrition, particularly animal protein. Second, population growth leads to increased natural resource constraints driving a need for enhanced productivity. Finally, as standards of living improve, there is increased focus on food quality and safety.
Our companion animal products help extend and improve the quality of life for pets; increase convenience and compliance for pet owners; and help veterinarians improve the quality of their care and the efficiency of their businesses. Growth in the companion animal medicines, vaccines and diagnostics sector is driven by economic development, related increases in disposable income and increases in pet ownership and spending on pet care. Companion animals are also living longer, receiving increased medical treatment and benefiting from advances in animal health medicines and vaccines.
The following tables present our revenue disaggregated by geographic area, species, and major product category:
Revenue by geographic area
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Three Months Ended
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March 31,
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(MILLIONS OF DOLLARS)
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|
|
|
|
|
2020
|
|
2019
|
United States
|
|
|
|
|
|
|
$
|
786
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|
|
|
$
|
718
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|
Australia
|
|
|
|
|
|
|
43
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|
|
|
48
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|
Brazil
|
|
|
|
|
|
|
63
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|
|
|
60
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|
Canada
|
|
|
|
|
|
|
40
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|
|
|
41
|
|
China
|
|
|
|
|
|
|
66
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|
|
|
60
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|
France
|
|
|
|
|
|
|
29
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|
|
|
32
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|
Germany
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|
|
|
|
|
|
34
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|
|
|
37
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|
Italy
|
|
|
|
|
|
|
21
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|
|
|
28
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|
Japan
|
|
|
|
|
|
|
41
|
|
|
|
37
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|
Mexico
|
|
|
|
|
|
|
32
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|
|
|
28
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|
Spain
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|
|
|
|
|
|
28
|
|
|
|
27
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|
United Kingdom
|
|
|
|
|
|
|
55
|
|
|
|
57
|
|
Other developed markets
|
|
|
|
|
|
|
87
|
|
|
|
84
|
|
Other emerging markets
|
|
|
|
|
|
|
189
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|
|
|
179
|
|
|
|
|
|
|
|
1,514
|
|
|
|
1,436
|
|
Contract manufacturing & human health
|
|
|
|
|
|
|
20
|
|
|
|
19
|
|
Total Revenue
|
|
|
|
|
|
|
$
|
1,534
|
|
|
|
$
|
1,455
|
|
Revenue by major species
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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Three Months Ended
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|
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|
|
|
|
|
|
March 31,
|
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(MILLIONS OF DOLLARS)
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|
|
|
|
|
2020
|
|
2019
|
U.S.
|
|
|
|
|
|
|
|
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Companion animal
|
|
|
|
|
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$
|
499
|
|
|
$
|
445
|
|
Livestock
|
|
|
|
|
|
287
|
|
|
273
|
|
|
|
|
|
|
|
786
|
|
|
718
|
|
International
|
|
|
|
|
|
|
|
|
Companion animal
|
|
|
|
|
|
298
|
|
|
284
|
|
Livestock
|
|
|
|
|
|
430
|
|
|
434
|
|
|
|
|
|
|
|
728
|
|
|
718
|
|
Contract manufacturing & human health
|
|
|
|
|
|
20
|
|
|
19
|
|
Total Revenue
|
|
|
|
|
|
$
|
1,534
|
|
|
$
|
1,455
|
|
Revenue by species
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
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|
(MILLIONS OF DOLLARS)
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|
|
|
|
|
2020
|
|
2019
|
Companion Animal:
|
|
|
|
|
|
|
|
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Dogs and Cats
|
|
|
|
|
|
$
|
746
|
|
|
|
$
|
688
|
|
Horses
|
|
|
|
|
|
51
|
|
|
|
41
|
|
|
|
|
|
|
|
797
|
|
|
|
729
|
|
Livestock:
|
|
|
|
|
|
|
|
|
Cattle
|
|
|
|
|
|
370
|
|
|
|
380
|
|
Swine
|
|
|
|
|
|
157
|
|
|
|
149
|
|
Poultry
|
|
|
|
|
|
148
|
|
|
|
139
|
|
Fish
|
|
|
|
|
|
26
|
|
|
|
23
|
|
Sheep and other
|
|
|
|
|
|
16
|
|
|
|
16
|
|
|
|
|
|
|
|
717
|
|
|
|
707
|
|
Contract manufacturing & human health
|
|
|
|
|
|
20
|
|
|
|
19
|
|
Total Revenue
|
|
|
|
|
|
$
|
1,534
|
|
|
|
$
|
1,455
|
|
Revenue by major product category
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Vaccines
|
|
|
|
|
|
$
|
349
|
|
|
$
|
358
|
|
Anti-infectives
|
|
|
|
|
|
280
|
|
|
286
|
|
Parasiticides
|
|
|
|
|
|
255
|
|
|
231
|
|
Other pharmaceuticals
|
|
|
|
|
|
197
|
|
|
190
|
|
Dermatology
|
|
|
|
|
|
197
|
|
|
159
|
|
Medicated feed additives
|
|
|
|
|
|
125
|
|
|
112
|
|
Animal health diagnostics
|
|
|
|
|
|
60
|
|
|
60
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|
Other non-pharmaceuticals
|
|
|
|
|
|
51
|
|
|
40
|
|
|
|
|
|
|
|
1,514
|
|
|
1,436
|
|
Contract manufacturing & human health
|
|
|
|
|
|
20
|
|
|
19
|
|
Total Revenue
|
|
|
|
|
|
$
|
1,534
|
|
|
$
|
1,455
|
|
|
|
|
|
|
|
|
|
|
B. Revenue from Contracts with Customers
Contract liabilities reflected within Other current liabilities as of December 31, 2019 and December 31, 2018, and subsequently recognized as revenue during the first three months of 2020 and 2019 were approximately $3 million and $1 million, respectively. Contract liabilities as of March 31, 2020 and December 31, 2019 were approximately $10 million and $11 million, respectively.
Estimated future revenue expected to be generated from long-term contracts with unsatisfied performance obligations as of March 31, 2020 is not material.
5. Acquisitions and Divestitures
A. Acquisitions
Other Acquisitions
In the first quarter of 2020, we acquired the net assets of Ethos Diagnostic Science, a veterinary reference laboratory business with labs across the U.S. This transaction did not have a significant impact on our consolidated financial statements.
During 2019, we completed the acquisitions of Platinum Performance, a nutrition-focused animal health business for companion animals and Phoenix Lab and ZNLabs, both full service veterinary reference laboratory companies with networks of labs across the U.S. These transactions did not have a significant impact on our consolidated financial statements.
B. Divestitures
During the three months ended March 31, 2020, we received cash proceeds of $20 million resulting from a payment received pursuant to an agreement related to the 2016 sale of certain U.S. manufacturing sites.
6. Restructuring Charges and Other Costs Associated with Acquisitions, Cost-Reduction and Productivity Initiatives
In connection with our cost-reduction/productivity initiatives, we typically incur costs and charges associated with site closings and other facility rationalization actions, workforce reductions and the expansion of shared services, including the development of global systems. In connection with our acquisition activity, we typically incur costs and charges associated with executing the transactions, integrating the acquired operations, which may include expenditures for consulting and the integration of systems and processes, product transfers and restructuring the consolidated company, which may include charges related to employees, assets and activities that will not continue in the consolidated company. All operating functions can be impacted by these actions, including sales and marketing, manufacturing and R&D, as well as functions such as information technology, shared services and corporate operations.
The components of costs incurred in connection with restructuring initiatives, acquisitions and cost-reduction/productivity initiatives are as follows:
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|
|
|
|
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|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Restructuring charges and certain acquisition-related costs:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Integration costs(a)
|
|
|
|
|
|
$
|
6
|
|
|
$
|
1
|
|
Restructuring charges(b):
|
|
|
|
|
|
|
|
|
Employee termination costs
|
|
|
|
|
|
3
|
|
|
4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
|
Total Restructuring charges and certain acquisition-related costs
|
|
|
|
|
|
$
|
9
|
|
|
$
|
5
|
|
(a) Integration costs represent external, incremental costs directly related to integrating acquired businesses and primarily include expenditures for consulting and the integration of systems and processes, as well as product transfer costs.
(b) The restructuring charges for the three months ended March 31, 2020 primarily relate to CEO transition-related costs which are associated with Manufacturing/research/corporate.
The restructuring charges for the three months ended March 31, 2019 primarily relate to the acquisition of Abaxis which are associated with Manufacturing/research/corporate.
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
|
|
|
|
Accrual(a)
|
Balance, December 31, 2019(b)
|
|
|
|
|
|
|
|
|
|
$
|
45
|
|
Provision
|
|
|
|
|
|
|
|
|
|
3
|
|
|
|
|
|
|
|
|
|
|
|
|
Utilization and other(c)
|
|
|
|
|
|
|
|
|
|
(7)
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, March 31, 2020(b)
|
|
|
|
|
|
|
|
|
|
$
|
41
|
|
(a) Changes in our restructuring accrual represents employee termination costs.
(b) At March 31, 2020, and December 31, 2019, included in Accrued expenses ($19 million and $23 million, respectively) and Other noncurrent liabilities ($22 million and $22 million, respectively).
(c) Includes adjustments for foreign currency translation.
7. Other (Income)/Deductions—Net
The components of Other (income)/deductions—net are as follows:
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Royalty-related income
|
|
|
|
|
|
$
|
(1)
|
|
|
$
|
(5)
|
|
Interest income
|
|
|
|
|
|
(6)
|
|
|
(10)
|
|
Net gain on sale of assets(a)
|
|
|
|
|
|
(17)
|
|
|
—
|
|
Foreign currency loss(b)
|
|
|
|
|
|
5
|
|
|
—
|
|
Other, net
|
|
|
|
|
|
(1)
|
|
|
1
|
|
Other (income)/deductions—net
|
|
|
|
|
|
$
|
(20)
|
|
|
$
|
(14)
|
|
(a) For the three months ended March 31, 2020, represents a net gain resulting from net cash proceeds received pursuant to an agreement related to the 2016 sale of certain U.S. manufacturing sites.
(b) Primarily driven by costs related to hedging and exposures to certain emerging and developed market currencies.
8. Income Taxes
A. Taxes on Income
Our effective tax rate was 14.9% for the three months ended March 31, 2020, compared with 18.1% for the three months ended March 31, 2019. The lower effective tax rate for the three months ended March 31, 2020, was primarily attributable to:
•a $23 million and $13 million discrete tax benefit recorded in the three months ended March 31, 2020 and 2019, respectively, related to the excess tax benefits for share-based payments; and
•a $6 million discrete tax benefit recorded in the three months ended March 31, 2020 related to a remeasurement of deferred taxes resulting from the integration of acquired businesses,
partially offset by:
•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 and operating fluctuations in the normal course of business and the impact of non-deductible items; and
•a $3 million and $4 million discrete tax benefit recorded in the three months ended March 31, 2020 and 2019, respectively, related to a remeasurement of deferred taxes as a result of changes in non-U.S. statutory tax rates.
B. Deferred Taxes
As of March 31, 2020, the total net deferred income tax liability of $333 million is included in Noncurrent deferred tax assets ($88 million) and Noncurrent deferred tax liabilities ($421 million).
As of December 31, 2019, the total net deferred income tax liability of $346 million is included in Noncurrent deferred tax assets ($88 million) and Noncurrent deferred tax liabilities ($434 million).
C. Tax Contingencies
As of March 31, 2020, the net tax liabilities associated with uncertain tax positions of $184 million (exclusive of interest and penalties related to uncertain tax positions of $13 million) are included in Noncurrent deferred tax assets and Other noncurrent assets ($2 million) and Other taxes payable ($182 million).
As of December 31, 2019, the net tax liabilities associated with uncertain tax positions of $182 million (exclusive of interest and penalties related to uncertain tax positions of $12 million) are included in Noncurrent deferred tax assets and Other noncurrent assets ($2 million) and Other taxes payable ($180 million).
Our tax liabilities for uncertain tax positions relate primarily to issues common among multinational corporations. Any settlements or statute of limitations expirations could result in a significant decrease in our uncertain tax positions. Substantially all of these unrecognized tax benefits, if recognized, would impact our effective income tax rate. We do not expect that within the next twelve months any of our uncertain tax positions could significantly decrease as a result of settlements with taxing authorities or the expiration of the statutes of limitations. Our assessments are based on estimates and assumptions that have been deemed reasonable by management, but our estimates of uncertain tax positions and potential tax benefits may not be representative of actual outcomes, and any variation from such estimates could materially affect our financial statements in the period of settlement or when the statutes of limitations expire, as we treat these events as discrete items in the period of resolution. Finalizing audits with the relevant taxing authorities can include formal administrative and legal proceedings, and, as a result, it is difficult to estimate the timing and range of possible changes related to our uncertain tax positions, and such changes could be significant.
9. Financial Instruments
A. Debt
Credit Facilities
In December 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). In December 2018, the maturity for the amended and restated revolving credit agreement was extended through December 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 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 of March 31, 2020, and December 31, 2019. There were no amounts drawn under the credit facility as of March 31, 2020 or December 31, 2019.
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 of March 31, 2020, we had access to $75 million of lines of credit which expire at various times through 2020 and are generally renewed annually. There were no borrowings outstanding related to these facilities as of March 31, 2020 and December 31, 2019.
Commercial Paper Program
In February 2013, we entered into a commercial paper program with a capacity of up to $1.0 billion. As of March 31, 2020, and December 31, 2019, there was no commercial paper outstanding under this program.
Senior Notes and Other Long-Term Debt
On August 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. On September 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. On November 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. On January 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 and Deutsche 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-leaseback 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 the 2013, 2015, 2017 and 2018 senior notes may be declared immediately due and payable.
Pursuant to the indenture, we are able to redeem the 2013, 2015 and 2017 senior notes and the 2018 fixed rate senior notes or 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. The 2018 floating rate senior notes are not redeemable at our option prior to their maturity date. 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 of Moody's Investors Service, Inc. and Standard & 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.
The components of our long-term debt are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
December 31,
|
(MILLIONS OF DOLLARS)
|
|
2020
|
|
2019
|
3.450% 2015 senior notes due 2020
|
|
$
|
500
|
|
|
$
|
500
|
|
2018 floating rate (three-month USD LIBOR plus 0.44%) senior notes due 2021
|
|
300
|
|
|
300
|
|
3.250% 2018 senior notes due 2021
|
|
300
|
|
|
300
|
|
3.250% 2013 senior notes due 2023
|
|
1,350
|
|
|
1,350
|
|
4.500% 2015 senior notes due 2025
|
|
750
|
|
|
750
|
|
3.000% 2017 senior notes due 2027
|
|
750
|
|
|
750
|
|
3.900% 2018 senior notes due 2028
|
|
500
|
|
|
500
|
|
4.700% 2013 senior notes due 2043
|
|
1,150
|
|
|
1,150
|
|
3.950% 2017 senior notes due 2047
|
|
500
|
|
|
500
|
|
4.450% 2018 senior notes due 2048
|
|
400
|
|
|
400
|
|
|
|
6,500
|
|
|
6,500
|
|
Unamortized debt discount / debt issuance costs
|
|
(49)
|
|
|
(51)
|
|
Less current portion of long-term debt
|
|
500
|
|
|
500
|
|
Cumulative fair value adjustment for interest rate swap contracts
|
|
12
|
|
|
(2)
|
|
Long-term debt, net of discount and issuance costs
|
|
$
|
5,963
|
|
|
$
|
5,947
|
|
The fair value of our long-term debt was $6,384 million and $6,587 million as of March 31, 2020, and December 31, 2019, respectively, and has been determined using a third-party matrix-pricing model that uses significant inputs derived from, or corroborated by, observable market data and Zoetis’ credit rating (Level 2 inputs).
The principal amount of long-term debt outstanding, as of March 31, 2020, matures in the following years:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
After
|
|
|
(MILLIONS OF DOLLARS)
|
|
2020
|
|
2021
|
|
2022
|
|
2023
|
|
2024
|
|
2024
|
|
Total
|
Maturities
|
|
$
|
500
|
|
|
$
|
600
|
|
|
$
|
—
|
|
|
$
|
1,350
|
|
|
$
|
—
|
|
|
|
$
|
4,050
|
|
|
$
|
6,500
|
|
Interest Expense
Interest expense, net of capitalized interest, was $53 million and $56 million for the three months ended March 31, 2020 and March 31, 2019, respectively. Capitalized interest expense was $4 million and $3 million for the three months ended March 31, 2020 and March 31, 2019, respectively.
B. Derivative Financial Instruments
Foreign Exchange Risk
A significant portion of our revenue, earnings and net investment in foreign affiliates is exposed to changes in foreign exchange rates. 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. Depending on market conditions, foreign exchange risk is also managed through the use of various derivative financial instruments. These derivative financial instruments serve to manage the exposure of our net investment in certain foreign operations to changes in foreign exchange rates and protect net income against the impact of translation into U.S. dollars of certain foreign exchange-denominated transactions.
All derivative financial instruments used to manage foreign currency risk are measured at fair value and are reported as assets or liabilities on the condensed consolidated balance sheet. The derivative financial instruments primarily offset exposures in the Australian dollar, British pound, Canadian dollar, Chinese yuan, euro, and Japanese yen. Changes in fair value are reported in earnings or in Accumulated other comprehensive income/(loss), depending on the nature and purpose of the financial instrument, as follows:
•For foreign exchange contracts not designated as hedging instruments, we recognize the gains and losses on forward-exchange contracts that are used to offset the same foreign currency assets or liabilities immediately into earnings along with the earnings impact of the items they generally offset. These contracts essentially take the opposite currency position of that reflected in the month-end balance sheet to counterbalance the effect of any currency movement. The vast majority of the foreign exchange derivative financial instruments mature within 60 days and all mature within three years.
•For cross-currency interest rate swaps, which are designated as a hedge against our net investment in foreign operations, changes in the fair value are recorded as a component of cumulative translation adjustment within Accumulated other comprehensive income/(loss) and reclassified into earnings when the foreign investment is sold or substantially liquidated. Gains and losses excluded from the assessment of hedge effectiveness are recognized in earnings (Interest expense—net of capitalized interest). The cash flows from these contracts are reflected within the investing section of our Condensed Consolidated Statement of Cash Flows. The cross-currency interest rate swap contracts have varying maturities of up to five years.
Interest Rate Risk
The company may use interest rate swap contracts on certain investing and borrowing transactions to manage its net exposure to interest rates and to reduce its overall cost of borrowing.
•In anticipation of issuing fixed-rate debt, we may use forward-starting interest rate swaps that are designated as cash flow hedges to hedge against changes in interest rates that could impact expected future issuances of debt. Unrealized gains or losses on the forward-starting interest rate swaps are reported in Accumulated other comprehensive income/(loss) and are recognized in earnings over the life of the future fixed-rate notes. When the company discontinues hedge accounting because it is no longer probable that an anticipated transaction will occur within the originally expected period of execution, or within an additional two-month period thereafter, changes to fair value accumulated in other comprehensive income are recognized immediately in earnings. For the three months ended March 31, 2020, we entered into forward-starting interest rate swaps, having an effective date and mandatory termination date in March 2023, to hedge against interest rate exposure related principally to the anticipated future issuance of fixed-rate debt to be used primarily to refinance our 3.250% 2013 senior notes due 2023.
•We may use fixed-to-floating interest rate swaps that are designated as fair value hedges to hedge against changes in the fair value of certain fixed-rate debt attributable to changes in the benchmark LIBOR rate. These derivative instruments effectively convert a portion of the company’s long-term debt from fixed rate to floating rate debt based on three-month LIBOR plus a spread. Gains or losses on the fixed-to-floating interest rate swaps due to changes in LIBOR are recorded in Interest expense, net of capitalized interest. Changes in the fair value of the fixed-to-floating interest rate swaps are offset by changes in the fair value of the underlying fixed rate debt. As of March 31, 2020, we had an outstanding fixed-to-floating interest rate swap which corresponds to a portion of the 3.900% 2018 senior notes due 2028. The amounts recorded during the three months ended March 31, 2020 for changes in the fair value of this hedge are not material to our consolidated financial statements.
Outstanding Positions
The aggregate notional amounts of derivative instruments are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Notional
|
|
|
|
|
March 31,
|
|
December 31,
|
(MILLIONS)
|
|
2020
|
|
2019
|
Foreign currency forward-exchange contracts
|
|
$
|
1,272
|
|
|
$
|
1,364
|
|
|
|
|
|
|
Cross-currency interest rate swap contracts (in foreign currency):
|
|
|
|
|
Euro
|
|
650
|
|
|
650
|
|
Swiss franc
|
|
25
|
|
|
25
|
|
Danish krone
|
|
600
|
|
|
600
|
|
|
|
|
|
|
|
|
Forward-starting interest rate swaps
|
|
$
|
450
|
|
|
$
|
250
|
|
|
|
|
|
|
Fixed-to-floating interest rate swap contracts
|
|
$
|
150
|
|
|
$
|
150
|
|
|
|
|
|
|
Fair Value of Derivative Instruments
The classification and fair values of derivative instruments are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value of Derivatives
|
|
|
|
|
March 31,
|
|
December 31,
|
(MILLIONS OF DOLLARS)
|
Balance Sheet Location
|
2020
|
|
2019
|
Derivatives Not Designated as Hedging Instruments
|
|
|
|
|
Foreign currency forward-exchange contracts
|
Other current assets
|
$
|
19
|
|
|
$
|
7
|
|
Foreign currency forward-exchange contracts
|
Other current liabilities
|
(5)
|
|
|
(5)
|
|
Total derivatives not designated as hedging instruments
|
|
$
|
14
|
|
|
$
|
2
|
|
|
|
|
|
|
Derivatives Designated as Hedging Instruments:
|
|
|
|
|
Forward-starting interest rate swap contracts
|
Other noncurrent assets
|
$
|
—
|
|
|
$
|
5
|
|
Forward-starting interest rate swap contracts
|
Other noncurrent liabilities
|
(32)
|
|
|
(1)
|
|
Cross-currency interest rate swap contracts
|
Other current assets
|
7
|
|
|
4
|
|
Cross-currency interest rate swap contracts
|
Other noncurrent assets
|
36
|
|
|
20
|
|
Cross-currency interest rate swap contracts
|
Other current liabilities
|
(3)
|
|
|
(3)
|
|
Fixed-to-floating interest rate swap contracts
|
Other noncurrent assets
|
12
|
|
|
(2)
|
|
Total derivatives designated as hedging instruments
|
|
20
|
|
|
23
|
|
Total derivatives
|
|
$
|
34
|
|
|
$
|
25
|
|
The company’s cross-currency interest rate swaps are subject to master netting arrangements to mitigate credit risk by permitting net settlement of transactions with the same counterparty. We may also enter into collateral security arrangements with certain of our counterparties to exchange cash collateral when the net fair value of certain derivative instruments fluctuates from contractually established thresholds. At March 31, 2020, there was $28 million of collateral received related to the long-term cross-currency interest rate swaps.
We use a market approach in valuing financial instruments on a recurring basis. Our derivative financial instruments are measured at fair value on a recurring basis using Level 2 inputs in the calculation of fair value.
The amounts of net gains on derivative instruments not designated as hedging instruments, recorded in Other (income)/deductions—net, are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Foreign currency forward-exchange contracts
|
|
|
|
|
|
$
|
6
|
|
|
$
|
(4)
|
|
These amounts were substantially offset in Other (income)/deductions—net by the effect of changing exchange rates on the underlying foreign currency exposures.
The amounts of unrecognized net gains/(losses) on interest rate swap contracts, recorded, net of tax, in Accumulated other comprehensive income/(loss), are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Forward-starting interest rate swap contracts
|
|
|
|
|
|
$
|
(27)
|
|
|
$
|
—
|
|
Cross-currency interest rate swap contracts
|
|
|
|
|
|
$
|
17
|
|
|
$
|
18
|
|
Gains on cross-currency interest rate swap contracts, recognized within Interest expense, net of capitalized interest, are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Cross-currency interest rate swap contracts
|
|
|
|
|
|
$
|
6
|
|
|
$
|
4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The net amount of deferred gains related to derivative instruments designated as cash flow hedges that is expected to be reclassified from Accumulated other comprehensive income/(loss) into earnings over the next 12 months is insignificant.
10. Leases
We have facilities, vehicles and equipment under various non-cancellable operating leases with third parties. These leases generally have remaining terms ranging from 1 to 15 years, inclusive of renewal options that are reasonably certain of exercise.
Supplemental information for operating leases is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(MILLIONS OF DOLLARS, EXCEPT LEASE TERM AND DISCOUNT RATE AMOUNTS)
|
|
As of March 31, 2020
|
|
As of December 31, 2019
|
Supplemental Balance Sheet information for operating leases
|
|
|
|
|
Operating lease right of use assets
|
|
$
|
182
|
|
|
$
|
189
|
|
|
|
|
|
|
Operating lease liabilities
|
|
|
|
|
Operating lease liabilities - current (in Other current liabilities)
|
|
$
|
33
|
|
|
$
|
35
|
|
Operating lease liabilities - noncurrent
|
|
159
|
|
|
164
|
|
Total operating lease liabilities
|
|
$
|
192
|
|
|
$
|
199
|
|
|
|
|
|
|
Weighted-average remaining lease term—operating leases (years)
|
|
7.05
|
|
7.12
|
Weighted-average discount rate—operating leases
|
|
3.34
|
%
|
|
3.76
|
%
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
(MILLIONS OF DOLLARS)
|
|
March 31, 2020
|
|
March 31, 2019
|
Supplemental Income Statement information for operating leases
|
|
|
|
|
Operating lease expense
|
|
$
|
11
|
|
|
$
|
9
|
|
Variable lease payments not included in the measurement of lease liabilities
|
|
5
|
|
|
4
|
|
Short-term lease payments not included in the measurement of lease liabilities
|
|
2
|
|
|
3
|
|
|
|
|
|
|
Supplemental Cash Flow information for operating leases
|
|
|
|
|
Cash paid for amounts included in the measurement of lease liabilities
|
|
$
|
11
|
|
|
$
|
9
|
|
Lease obligations obtained in exchange for right-of-use assets (non-cash)
|
|
4
|
|
|
176
|
|
Future minimum lease payments under non-cancellable operating lease contracts as of March 31, 2020 are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
Less:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
After
|
|
Lease
|
|
Imputed
|
|
|
(MILLIONS OF DOLLARS)
|
|
2020(a)
|
|
2021
|
|
2022
|
|
2023
|
|
2024
|
|
2024
|
|
Payments
|
|
Interest
|
|
Total
|
Maturities
|
|
$
|
31
|
|
|
$
|
37
|
|
|
$
|
33
|
|
|
$
|
27
|
|
|
$
|
23
|
|
|
$
|
68
|
|
|
$
|
219
|
|
|
$
|
(27)
|
|
|
$
|
192
|
|
(a) 2020 excludes the three months ended March 31, 2020.
11. Inventories
The components of inventory are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
December 31,
|
(MILLIONS OF DOLLARS)
|
|
2020
|
|
2019
|
Finished goods
|
|
$
|
731
|
|
|
$
|
701
|
|
Work-in-process
|
|
543
|
|
|
511
|
|
Raw materials and supplies
|
|
207
|
|
|
198
|
|
Inventories
|
|
$
|
1,481
|
|
|
$
|
1,410
|
|
12. Goodwill and Other Intangible Assets
A. Goodwill
The components of, and changes in, the carrying amount of goodwill are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(MILLIONS OF DOLLARS)
|
|
U.S.
|
|
International
|
|
Total
|
Balance, December 31, 2019
|
|
$
|
1,367
|
|
|
$
|
1,225
|
|
|
$
|
2,592
|
|
|
|
|
|
|
|
|
Other(a)
|
|
—
|
|
|
(9)
|
|
|
(9)
|
|
Balance, March 31, 2020
|
|
$
|
1,367
|
|
|
$
|
1,216
|
|
|
$
|
2,583
|
|
(a) Includes adjustments for foreign currency translation.
The gross goodwill balance was $3,119 million and $3,128 million as of March 31, 2020 and December 31, 2019, respectively. Accumulated goodwill impairment losses were $536 million as of March 31, 2020 and December 31, 2019.
B. Other Intangible Assets
The components of identifiable intangible assets are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of March 31, 2020
|
|
|
|
|
|
As of December 31, 2019
|
|
|
|
|
|
|
|
|
|
|
Identifiable
|
|
|
|
|
|
Identifiable
|
|
|
Gross
|
|
|
|
Intangible Assets
|
|
Gross
|
|
|
|
Intangible Assets
|
|
|
Carrying
|
|
Accumulated
|
|
Less Accumulated
|
|
Carrying
|
|
Accumulated
|
|
Less Accumulated
|
(MILLIONS OF DOLLARS)
|
|
Amount
|
|
Amortization
|
|
Amortization
|
|
Amount
|
|
Amortization
|
|
Amortization
|
Finite-lived intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Developed technology rights
|
|
$
|
1,946
|
|
|
$
|
(691)
|
|
|
$
|
1,255
|
|
|
$
|
1,938
|
|
|
$
|
(657)
|
|
|
$
|
1,281
|
|
Brands and tradenames
|
|
424
|
|
|
(228)
|
|
|
196
|
|
|
424
|
|
|
(223)
|
|
|
201
|
|
Other
|
|
445
|
|
|
(267)
|
|
|
178
|
|
|
441
|
|
|
(249)
|
|
|
192
|
|
Total finite-lived intangible assets
|
|
2,815
|
|
|
(1,186)
|
|
|
1,629
|
|
|
2,803
|
|
|
(1,129)
|
|
|
1,674
|
|
Indefinite-lived intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
Brands and tradenames
|
|
104
|
|
|
—
|
|
|
104
|
|
|
104
|
|
|
—
|
|
|
104
|
|
In-process research and development
|
|
81
|
|
|
—
|
|
|
81
|
|
|
105
|
|
|
—
|
|
|
105
|
|
Product rights
|
|
7
|
|
|
—
|
|
|
7
|
|
|
7
|
|
|
—
|
|
|
7
|
|
Total indefinite-lived intangible assets
|
|
192
|
|
|
—
|
|
|
192
|
|
|
216
|
|
|
—
|
|
|
216
|
|
Identifiable intangible assets
|
|
$
|
3,007
|
|
|
$
|
(1,186)
|
|
|
$
|
1,821
|
|
|
$
|
3,019
|
|
|
$
|
(1,129)
|
|
|
$
|
1,890
|
|
C. Amortization
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 it benefits multiple 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. Total amortization expense for finite-lived intangible assets was $62 million and $58 million for the three months ended March 31, 2020 and March 31, 2019, respectively.
13. Share-based Payments
The Zoetis 2013 Equity and Incentive Plan (the Equity Plan) provides long-term incentives to our employees and non-employee directors. The principal types of share-based awards available under the Equity Plan may include, but are not limited to, stock options, restricted stock and restricted stock units (RSUs), deferred stock units (DSUs), performance-vesting restricted stock units (PSUs) and other equity-based or cash-based awards.
The components of share-based compensation expense are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
|
|
|
|
2020
|
|
2019
|
Stock options / stock appreciation rights
|
|
|
|
|
|
$
|
3
|
|
|
$
|
3
|
|
RSUs / DSUs
|
|
|
|
|
|
8
|
|
|
12
|
|
PSUs
|
|
|
|
|
|
5
|
|
|
3
|
|
Share-based compensation expense—total(a)
|
|
|
|
|
|
$
|
16
|
|
|
$
|
18
|
|
(a) Amounts capitalized to inventory were insignificant for the three months ended March 31, 2020 and March 31, 2019.
During the three months ended March 31, 2020, the company granted 279,843 stock options with a weighted-average exercise price of $144.03 per stock option and a weighted-average fair value of $33.92 per stock option. The fair-value based method for valuing each Zoetis stock option grant on the grant date uses the Black-Scholes-Merton option-pricing model, which incorporates a number of valuation assumptions. The weighted-average fair value was estimated based on the following assumptions: risk-free interest rate of 1.50%; expected dividend yield of 0.55%; expected stock price volatility of 24.01%; and expected term of 5.5 years. In general, stock options vest after three years of continuous service and the values determined through this fair-value based method generally are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, general and administrative expenses, or Research and development expenses, as appropriate.
During the three months ended March 31, 2020, the company granted 226,713 RSUs, with a weighted-average grant date fair value of $144.03 per RSU. RSUs are accounted for using a fair-value-based method that utilizes the closing price of Zoetis common stock on the date of grant. In general, RSUs vest after three years of continuous service from the grant date and the values generally are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, general and administrative expenses, or Research and development expenses, as appropriate.
During the three months ended March 31, 2020, the company granted 85,279 PSUs with a weighted-average grant date fair value of $217.49 per PSU. PSUs are accounted for using a Monte Carlo simulation model. The units underlying the PSUs will be earned and vested over a three-year performance period, based upon the total shareholder return of the company in comparison to the total shareholder return of the companies comprising the S&P 500 stock market index at the start of the performance period, excluding companies that during the performance period are acquired or no longer publicly traded (Relative TSR). The weighted-average fair value was estimated based on volatility assumptions of Zoetis common stock and an average of the S&P 500 companies, which were 20.2% and 24.8%, respectively. Depending on the company’s Relative TSR performance at the end of the performance period, the recipient may earn from 0% to 200% of the target number of units. Vested units are settled in shares of the company’s common stock. PSU values are amortized on a straight-line basis over the vesting term into Cost of sales, Selling, general and administrative expenses, or Research and development expenses, as appropriate.
14. Stockholders' Equity
Zoetis is authorized to issue 6 billion shares of common stock and 1 billion shares of preferred stock.
In December 2018, the company's Board of Directors authorized a $2.0 billion share repurchase program. As of March 31, 2020, there was approximately $1.4 billion remaining under this authorization. Purchases of Zoetis shares may be made at the discretion of management, depending on market conditions and business needs.
Accumulated other comprehensive loss
Changes, net of tax, in accumulated other comprehensive loss, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Currency Translation Adjustments
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Currency
|
|
|
|
Accumulated Other
|
|
|
Cash Flow
|
|
Net Investment
|
|
Translation
|
|
|
|
Comprehensive
|
(MILLIONS OF DOLLARS)
|
|
Hedges
|
|
Hedges
|
|
Adjustments
|
|
Benefit Plans
|
|
Loss
|
Balance, December 31, 2018
|
|
$
|
(4)
|
|
|
$
|
10
|
|
|
$
|
(621)
|
|
|
$
|
(14)
|
|
|
$
|
(629)
|
|
Other comprehensive income, net of tax
|
|
—
|
|
|
8
|
|
|
23
|
|
|
—
|
|
|
31
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, March 31, 2019
|
|
$
|
(4)
|
|
|
$
|
18
|
|
|
$
|
(598)
|
|
|
$
|
(14)
|
|
|
$
|
(598)
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2019
|
|
$
|
—
|
|
|
$
|
21
|
|
|
$
|
(724)
|
|
|
$
|
(23)
|
|
|
$
|
(726)
|
|
Other comprehensive (loss)/income, net of tax
|
|
(28)
|
|
|
17
|
|
|
(44)
|
|
|
—
|
|
|
(55)
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, March 31, 2020
|
|
$
|
(28)
|
|
|
$
|
38
|
|
|
$
|
(768)
|
|
|
$
|
(23)
|
|
|
$
|
(781)
|
|
15. Earnings per Share
The following table presents the calculation of basic and diluted earnings per share:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS AND SHARES, EXCEPT PER SHARE DATA)
|
|
|
|
|
|
2020
|
|
2019
|
Numerator
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income
|
|
|
|
|
|
$
|
423
|
|
|
$
|
312
|
|
Denominator
|
|
|
|
|
|
|
|
|
Weighted-average common shares outstanding
|
|
|
|
|
|
475.6
|
|
|
479.6
|
|
Common stock equivalents: stock options, RSUs, PSUs and DSUs
|
|
|
|
|
|
3.4
|
|
|
3.5
|
|
Weighted-average common and potential dilutive shares outstanding
|
|
|
|
|
|
479.0
|
|
|
483.1
|
|
|
|
|
|
|
|
|
|
|
Earnings per share —basic
|
|
|
|
|
|
$
|
0.89
|
|
|
$
|
0.65
|
|
Earnings per share —diluted
|
|
|
|
|
|
$
|
0.88
|
|
|
$
|
0.65
|
|
The number of stock options outstanding under the company's Equity Plan that were excluded from the computation of diluted earnings per share, as the effect would have been antidilutive, were de minimis for the three months ended March 31, 2020 and March 31, 2019, respectively.
16. Commitments and Contingencies
We and certain of our subsidiaries are subject to numerous contingencies arising in the ordinary course of business. For a discussion of our tax contingencies, see Note 8. Income Taxes.
A. Legal Proceedings
Our non-tax contingencies include, among others, the following:
• Product liability and other product-related litigation, which can include injury, consumer, off-label promotion, antitrust and breach of contract claims.
• Commercial and other matters, which can include product-pricing claims and environmental claims and proceedings.
• Patent litigation, which typically involves challenges to the coverage and/or validity of our patents or those of third parties on various products or processes.
• Government investigations, which can involve regulation by national, state and local government agencies in the U.S. and in other countries.
Certain of these contingencies could result in losses, including damages, fines and/or civil penalties, and/or criminal charges, which could be substantial.
We believe that we have strong defenses in these types of matters, but litigation is inherently unpredictable and excessive verdicts do occur. We do not believe that any of these matters will have a material adverse effect on our financial position. However, we could incur judgments, enter into settlements or revise our expectations regarding the outcome of certain matters, and such developments could have a material adverse effect on our results of operations or cash flows in the period in which the amounts are paid.
We have accrued for losses that are both probable and reasonably estimable. Substantially all of these contingencies are subject to significant uncertainties and, therefore, determining the likelihood of a loss and/or the measurement of any loss can be complex. Consequently, we are unable to estimate the range of reasonably possible loss in excess of amounts accrued. Our assessments are based on estimates and assumptions
that have been deemed reasonable by management, but the assessment process relies on estimates and assumptions that may prove to be incomplete or inaccurate, and unanticipated events and circumstances may occur that might cause us to change those estimates and assumptions.
Amounts recorded for legal and environmental contingencies can result from a complex series of judgments about future events and uncertainties and can rely on estimates and assumptions.
The principal matters to which we are a party are discussed below. In determining whether a pending matter is significant for financial reporting and disclosure purposes, we consider both quantitative and qualitative factors in order to assess materiality, such as, among other things, the amount of damages and the nature of any other relief sought in the proceeding, if such damages and other relief are specified; our view of the merits of the claims and of the strength of our defenses; whether the action purports to be a class action and our view of the likelihood that a class will be certified by the court; the jurisdiction in which the proceeding is pending; any experience that we or, to our knowledge, other companies have had in similar proceedings; whether disclosure of the action would be important to a reader of our financial statements, including whether disclosure might change a reader’s judgment about our financial statements in light of all of the information about the company that is available to the reader; the potential impact of the proceeding on our reputation; and the extent of public interest in the matter. In addition, with respect to patent matters, we consider, among other things, the financial significance of the product protected by the patent.
Ulianopolis, Brazil
In February 2012, the Municipality of Ulianopolis (State of Para, Brazil) filed a complaint against Fort Dodge Saúde Animal Ltda. (FDSAL), a Zoetis entity, and five other large companies alleging that waste sent to a local waste incineration facility for destruction, but that was not ultimately destroyed as the facility lost its operating permit, caused environmental impacts requiring cleanup.
The Municipality is seeking recovery of cleanup costs purportedly related to FDSAL's share of all waste accumulated at the incineration facility awaiting destruction, and compensatory damages to be allocated among the six defendants. We believe we have strong arguments against the claim, including defense strategies against any claim of joint and several liability.
At the request of the Municipal prosecutor, in April 2012, the lawsuit was suspended for one year. Since that time, the prosecutor has initiated investigations into the Municipality's actions in the matter as well as the efforts undertaken by the six defendants to remove and dispose of their individual waste from the incineration facility. On October 3, 2014, the Municipal prosecutor announced that the investigation remained ongoing and outlined the terms of a proposed Term of Reference (a document that establishes the minimum elements to be addressed in the preparation of an Environmental Impact Assessment), under which the companies would be liable to withdraw the waste and remediate the area. On March 5, 2015, we presented our response to the prosecutor’s proposed Term of Reference, arguing that the proposed terms were overly general in nature and expressing our interest in discussing alternatives to address the matter. The prosecutor agreed to consider our request to engage a technical consultant to conduct an environmental diagnostic of the contaminated area. On May 29, 2015, we, in conjunction with the other defendant companies, submitted a draft cooperation agreement to the prosecutor, which outlined the proposed terms and conditions for the engagement of a technical consultant to conduct the environmental diagnostic. On August 19, 2016, the parties and the prosecutor agreed to engage the services of a third-party consultant to conduct a limited environmental assessment of the site. The site assessment was conducted during June 2017, and a written report summarizing the results of the assessment was provided to the parties and the prosecutor in November 2017. The report noted that waste is still present on the site and that further (Phase II) environmental assessments are needed before a plan to manage that remaining waste can be prepared. On April 1, 2019, the defendants met with the Prosecutor to discuss the conclusions set forth in the written report. Following that discussion, on April 10, 2019, the Prosecutor issued a procedural order requesting that the defendants prepare and submit a technical proposal outlining the steps needed to conduct the additional Phase II environmental assessments. The defendants presented the technical proposal to the Prosecutor on October 21, 2019. On March 3, 2020, the Prosecutor notified the defendants that he submitted the proposal to the Ministry of the Environment for its review and consideration. The technical proposal remains pending.
Lascadoil Contamination in Animal Feed
An investigation by the U.S. Food and Drug Administration (FDA) and the Michigan Department of Agriculture into the alleged contamination of the feed supply of certain turkey and hog feed mills in Michigan led to the recall of certain batches of soy oil (intended for use as an animal feed additive) that had originated with Shur-Green Farms LLC, a producer of soy oil, and that had been contaminated with lascadoil, an industrial by-product of certain Zoetis manufacturing processes. The contaminated feed is believed to have caused the deaths of approximately 50,000 turkeys and the contamination (but not death) of at least 20,000 hogs in August 2014. The investigation posited that Shur-Green inadvertently contaminated soy oil with lascadoil which it purchased from Zoetis for use as a bio-fuel ingredient, and then sold the contaminated soy oil to fat recycling vendors, who in turn unknowingly sold to feed mills for use in animal feed.
During the course of its investigation, the FDA identified the process used to manufacture Zoetis’ Avatec® (lasalocid sodium) and Bovatec® (lasalocid sodium) products as the possible source of the lascadoil, since lascadoil contains small amounts of lasalocid, the active ingredient found in both products. Zoetis sold the industrial lascadoil byproduct to Shur-Green, through its broker, Heritage Interactive Services, LLC. Under the terms of the sale agreement, the lascadoil could only be incinerated or resold for use in biofuel and the agreement expressly prohibited the reselling of lascadoil for use as a component in food. The FDA inspected the Zoetis site where Avatec and Bovatec are manufactured, and found no evidence that Zoetis was involved in the contamination of the animal feed.
On March 10, 2015, plaintiffs Restaurant Recycling, LLC (Restaurant Recycling) and Superior Feed Ingredients, LLC (Superior), both of whom are in the fat recycling business, filed a complaint in the Seventeenth Circuit Court for the State of Michigan against Shur-Green Farms alleging negligence and breach of warranty claims arising from their purchase of soy oil allegedly contaminated with lascadoil. Plaintiffs resold the allegedly contaminated soy oil to turkey feed mills for use in feed ingredient. Plaintiffs also named Zoetis as a defendant in the complaint alleging that Zoetis failed to properly manufacture its products and breached an implied warranty that the soy oil was fit for use at turkey and hog mills. Zoetis was served with the complaint on June 3, 2015, and we filed our answer, denying all allegations, on July 15, 2015. On August 10, 2015, several of the turkey feed mills filed a joint complaint against Restaurant Recycling, Superior, Shur-Green Farms and others, alleging claims for negligence, misrepresentation, and breach of warranty, arising out of their alleged purchase and use of the contaminated soy oil. The
complaint raises only one count against Zoetis for negligence. We filed an answer to the complaint on November 2, 2015, denying the allegation. On May 16, 2016, two additional turkey producers filed a complaint in the Seventeenth Circuit Court for the State of Michigan against the company, Restaurant Recycling, Superior, Shur-Green Farms and others, alleging claims for negligence and breach of warranties. We filed an answer to the complaint on June 20, 2016, denying the allegations. The Court has consolidated all three cases in Michigan for purposes of discovery and disposition. On July 28, 2017, we filed a motion for summary disposition on the grounds that no genuine issues of material fact exist and that Zoetis is entitled to judgment as a matter of law. On October 19, 2017, the Court granted our motion and dismissed all claims against Zoetis. On October 31, 2017, the plaintiffs filed motions for reconsideration of the Court's decision granting summary disposition. The Court, denied all such motions on December 6, 2017, for the same reasons cited in the Court’s original decision. On December 27, 2017, the plaintiffs filed a request with the Michigan Court of Appeals seeking an interlocutory (or interim) appeal of the lower Court’s decision, which we opposed on January 17, 2018. On July 5, 2018, the Court of Appeals denied the plaintiffs’ request for an interlocutory appeal. The case has been remanded back to the lower Court, where it will proceed to trial (unless settled) without Zoetis. The trial began on November 4, 2019. We have been advised that the remaining parties may have reached an agreement in principle to settle the dispute, but we have not yet received any formal notification from the Court that the case has concluded. Depending on the exact nature of the settlement, the plaintiffs may still have the option to seek an appeal of the lower Court’s decision granting Zoetis’ motion for summary disposition after the final adjudication of the case.
Other Matters
On February 14, 2019, the General Court of the European Union (General Court) annulled the January 11, 2016 decision of the European Commission (EC) that selective tax advantages granted by Belgium under its "excess profit" tax scheme constitute illegal state aid. On May 8, 2019, the EC filed an appeal to the decision of the General Court. On September 16, 2019, the EC opened separate in-depth investigations to assess whether Belgium excess profit rulings granted to 39 multinational companies, including Zoetis, constituted state aid for those companies. Due to the uncertainty with respect to the outcome of the appeal to be filed by the EC, the company has not reflected any potential benefits associated with the decision of the General Court in its consolidated financial statements as of March 31, 2020. We will continue to monitor the developments of the appeal and its ultimate resolution.
The EC published a decision on alleged competition law infringements by several human health pharmaceutical companies on June 19, 2013. One of the involved legal entities is Alpharma LLC (previously having the name Zoetis Products LLC). Alpharma LLC's involvement is solely related to its human health activities prior to Pfizer's acquisition of King/Alpharma. Zoetis paid a fine in the amount of Euro 11 million (approximately $14 million) and was reimbursed in full by Pfizer in accordance with the Global Separation Agreement between Pfizer and Zoetis, which provides that Pfizer is obligated to indemnify Zoetis for any liabilities arising out of claims not related to its animal health assets. We filed an appeal of the decision on September 6, 2013, to the General Court of the European Union. On September 8, 2016, the General Court upheld the decision of the European Commission. On November 25, 2016, we filed an appeal to the Court of Justice of the European Union. On January 24, 2019, the Court heard oral argument on the merits of the appeal, and we now await the Court’s decision.
B. Guarantees and Indemnifications
In the ordinary course of business and in connection with the sale of assets and businesses, we indemnify our counterparties against certain liabilities that may arise in connection with the transaction or related to activities prior to the 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 of March 31, 2020, recorded amounts for the estimated fair value of these indemnifications were not significant.
17. Segment Information
Operating Segments
We manage our operations through two geographic operating segments: the U.S. and International. Each operating segment has responsibility for its commercial activities. Within each of these operating segments, we offer a diversified product portfolio, including vaccines, parasiticides, anti-infectives, medicated feed additives, animal health diagnostics and other pharmaceuticals, for both livestock and companion animal customers. Our chief operating decision maker uses the revenue and earnings of the two operating segments, among other factors, for performance evaluation and resource allocation.
In the first quarter of 2020, 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 our international commercial segment, are now reported in Other business activities; (ii) certain other miscellaneous costs, which were previously reported in international commercial segment results, are now reported in Corporate; and (iii) certain diagnostic and other miscellaneous costs, which were previously reported in our U.S. results, are now reported in Corporate.
Other Costs and Business Activities
Certain costs are not allocated to our operating segment results, such as costs associated with the following:
• Other business activities, includes our Client Supply Services (CSS) contract manufacturing results, our human health business, and expenses associated with our dedicated veterinary medicine research and development 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 commercial segment.
• Corporate, includes platform functions such as information technology, facilities, legal, finance, human resources, business development, certain diagnostic costs and communications, among others. These costs also include compensation costs and other miscellaneous operating expenses not charged to our operating segments, as well as interest income and expense.
•Certain transactions and events such as (i) Purchase accounting adjustments, where we incur expenses associated with the amortization of fair value adjustments to inventory, intangible assets and property, plant and equipment; (ii) Acquisition-related activities, where we incur costs associated with acquiring and integrating newly acquired businesses, such as transaction costs and integration costs; and (iii) Certain significant items, which comprise substantive, unusual items that, either as a result of their nature or size, would not be expected to occur as part of our normal business on a regular basis, such as restructuring charges and implementation costs associated with our cost-reduction/productivity initiatives that are not associated with an acquisition, certain asset impairment charges, certain legal and commercial settlements and the impact of divestiture-related gains and losses.
•Other unallocated includes (i) certain overhead expenses associated with our global manufacturing operations not charged to our operating segments; (ii) certain costs associated with information technology and finance that specifically support our global manufacturing operations; (iii) certain supply chain and global logistics costs; and (iv) procurement costs.
Segment Assets
We manage our assets on a total company basis, not by operating segment. Therefore, our chief operating decision maker does not regularly review any asset information by operating segment and, accordingly, we do not report asset information by operating segment.
Selected Statement of Income Information
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Earnings
|
|
|
|
Depreciation and Amortization(a)
|
|
|
|
|
Three Months Ended
|
|
|
|
Three Months Ended
|
|
|
|
|
March 31,
|
|
|
|
March 31,
|
|
|
(MILLIONS OF DOLLARS)
|
|
2020
|
|
2019
|
|
2020
|
|
2019
|
U.S.
|
|
|
|
|
|
|
|
|
Revenue
|
|
$
|
786
|
|
|
$
|
718
|
|
|
|
|
|
Cost of sales
|
|
167
|
|
|
147
|
|
|
|
|
|
Gross profit
|
|
619
|
|
|
571
|
|
|
|
|
|
Gross margin
|
|
78.8
|
%
|
|
79.5
|
%
|
|
|
|
|
Operating expenses
|
|
125
|
|
|
110
|
|
|
|
|
|
Other (income)/deductions-net
|
|
1
|
|
|
—
|
|
|
|
|
|
U.S. Earnings
|
|
493
|
|
|
461
|
|
|
$
|
13
|
|
|
$
|
10
|
|
|
|
|
|
|
|
|
|
|
International
|
|
|
|
|
|
|
|
|
Revenue(b)
|
|
728
|
|
|
718
|
|
|
|
|
|
Cost of sales
|
|
224
|
|
|
210
|
|
|
|
|
|
Gross profit
|
|
504
|
|
|
508
|
|
|
|
|
|
Gross margin
|
|
69.2
|
%
|
|
70.8
|
%
|
|
|
|
|
Operating expenses
|
|
125
|
|
|
132
|
|
|
|
|
|
Other (income)/deductions-net
|
|
—
|
|
|
—
|
|
|
|
|
|
International Earnings
|
|
379
|
|
|
376
|
|
|
14
|
|
|
13
|
|
|
|
|
|
|
|
|
|
|
Total operating segments
|
|
872
|
|
|
837
|
|
|
27
|
|
|
23
|
|
|
|
|
|
|
|
|
|
|
Other business activities
|
|
(87)
|
|
|
(80)
|
|
|
6
|
|
|
5
|
|
Reconciling Items:
|
|
|
|
|
|
|
|
|
Corporate
|
|
(173)
|
|
|
(162)
|
|
|
22
|
|
|
14
|
|
Purchase accounting adjustments
|
|
(54)
|
|
|
(66)
|
|
|
54
|
|
|
55
|
|
Acquisition-related costs
|
|
(7)
|
|
|
(5)
|
|
|
—
|
|
|
—
|
|
Certain significant items(c)
|
|
11
|
|
|
(70)
|
|
|
—
|
|
|
—
|
|
Other unallocated
|
|
(65)
|
|
|
(73)
|
|
|
1
|
|
|
1
|
|
Total Earnings(d)
|
|
$
|
497
|
|
|
$
|
381
|
|
|
$
|
110
|
|
|
$
|
98
|
|
(a) Certain production facilities are shared. Depreciation and amortization is allocated to the reportable operating segments based on estimates of where the benefits of the related assets are realized.
(b) Revenue denominated in euros was $170 million and $181 million for the three months ended March 31, 2020 and March 31, 2019, respectively.
(c) For the three months ended March 31, 2020, primarily represents a net gain resulting from net cash proceeds received pursuant to an agreement related to the 2016 sale of certain U.S. manufacturing sites of $17 million, partially offset by CEO transition-related costs of $4 million. For the three months ended March 31, 2019, primarily represents a change in estimate related to inventory costing of $68 million and consulting fees of $2 million related to our supply network strategy.
(d) Defined as income before provision for taxes on income.