Eli Lilly 2007 Annual Report Download - page 36

FINANCIALS
34
marked to market with gains and losses recognized currently in income to offset the respective losses and gains
recognized on the underlying exposure. For derivative contracts that are designated and qualify as cash fl ow hedg-
es, the effective portion of gains and losses on these contracts is reported as a component of other comprehensive
income and reclassifi ed into earnings in the same period the hedged transaction affects earnings. Hedge inef-
fectiveness is immediately recognized in earnings. Derivative contracts that are not designated as hedging instru-
ments are recorded at fair value with the gain or loss recognized in current earnings during the period of change.
We enter into foreign currency forward and option contracts to reduce the effect of fl uctuating currency ex-
change rates (principally the euro, the British pound, and the Japanese yen). Foreign currency derivatives used for
hedging are put in place using the same or like currencies and duration as the underlying exposures. Forward con-
tracts are principally used to manage exposures arising from subsidiary trade and loan payables and receivables
denominated in foreign currencies. These contracts are recorded at fair value with the gain or loss recognized in
other income. The purchased option contracts are used to hedge anticipated foreign currency transactions, pri-
marily intercompany inventory activities expected to occur within the next year. These contracts are designated as
cash fl ow hedges of those future transactions and the impact on earnings is included in cost of sales. We may enter
into foreign currency forward contracts and currency swaps as fair value hedges of fi rm commitments. Forward
and option contracts generally have maturities not exceeding 12 months.
In the normal course of business, our operations are exposed to fl uctuations in interest rates. These fl uctuations
can vary the costs of fi nancing, investing, and operating. We address a portion of these risks through a controlled
program of risk management that includes the use of derivative fi nancial instruments. The objective of controlling
these risks is to limit the impact of fl uctuations in interest rates on earnings. Our primary interest rate risk exposure
results from changes in short-term U.S. dollar interest rates. In an effort to manage interest rate exposures, we
strive to achieve an acceptable balance between fi xed and fl oating rate debt and investment positions and may enter
into interest rate swaps or collars to help maintain that balance. Interest rate swaps or collars that convert our fi xed-
rate debt or investments to a fl oating rate are designated as fair value hedges of the underlying instruments. Interest
rate swaps or collars that convert fl oating rate debt or investments to a fi xed rate are designated as cash fl ow hedg-
es. Interest expense on the debt is adjusted to include the payments made or received under the swap agreements.
Goodwill and other intangibles: Goodwill is not amortized. All other intangibles arising from acquisitions and
research alliances have fi nite lives and are amortized over their estimated useful lives, ranging from 5 to 20 years,
using the straight-line method. The weighted-average amortization period for developed product technology is ap-
proximately 10 years. Amortization expense for 2007, 2006, and 2005 was $172.8 million, $7.6 million, and $5.4 mil-
lion before tax, respectively. The estimated amortization expense for the fi ve succeeding years approximates $180
million before tax, per year. Substantially all of the amortization expense is included in cost of sales. See Note 3 for
further discussion of goodwill and other intangibles acquired in 2007.
Goodwill and other intangible assets at December 31 were as follows:
2007 2006
Goodwill . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 745.7 $ 73.8
Developed product technology—gross . . . . . . . . . . . . . . . . . . . . . . . . . 1,767.5 —
Less accumulated amortization. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (162.6) —
Developed product technology—net . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,604.9 —
Other intangibles—gross . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 142.8 89.2
Less accumulated amortization. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (38.0) (33.0)
Other intangibles—net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 104.8 56.2
Total intangibles—net . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $2,455.4 $130.0
Goodwill and net other intangibles are reviewed to assess recoverability at least annually and when certain
impairment indicators are present. No material impairments occurred with respect to the carrying value of our
goodwill or other intangible assets in 2007, 2006, or 2005.
Property and equipment: Property and equipment is stated on the basis of cost. Provisions for depreciation of
buildings and equipment are computed generally by the straight-line method at rates based on their estimated
useful lives (12 to 50 years for buildings and 3 to 18 years for equipment). We review the carrying value of long-lived