Abbott Laboratories 2014 Annual Report Download - page 65

FINANCIAL REVIEW
63
ABBOTT 2014 ANNUAL REPORT
Valuation of Intangible Assets—Abbott has acquired and continues
to acquire significant intangible assets that Abbott records at fair
value. Transactions involving the purchase or sale of intangible
assets occur with some frequency between companies in the
health care field and valuations are usually based on a discounted
cash flow analysis. The discounted cash flow model requires
assumptions about the timing and amount of future net cash flows,
risk, cost of capital, terminal values and market participants. Each
of these factors can significantly aect the value of the intangible
asset. Abbott engages independent valuation experts who review
Abbott’s critical assumptions and calculations for acquisitions of
significant intangibles. Abbott reviews definite-lived intangible
assets for impairment each quarter using an undiscounted net
cash flows approach. If the undiscounted cash flows of an intangi-
ble asset are less than the carrying value of an intangible asset, the
intangible asset is written down to its fair value, which is usually
the discounted cash flow amount. Where cash flows cannot be
identified for an individual asset, the review is applied at the
lowest group level for which cash flows are identifiable. Goodwill
and indefinite-lived intangible assets, which relate to in-process
research and development acquired in a business combination,
are reviewed for impairment annually or when an event that
could result in impairment occurs. At December31, 2014, goodwill
amounted to $10.1billion and intangibles amounted to $6.2billion,
and amortization expense in continuing operations for intangible
assets amounted to $555million in 2014, $588million in 2013 and
$595million in 2012. There were no impairments of goodwill in
2014, 2013 or 2012. In 2012, Abbott recorded impairment charges
of $69million for certain research and development assets due to
changes in the projected development and regulatory timelines
for the projects.
Litigation—Abbott accounts for litigation losses in accordance with
FASB Accounting Standards Codification No. 450, “Contingencies.”
Under ASC No. 450, loss contingency provisions are recorded for
probable losses at management’s best estimate of a loss, or when a
best estimate cannot be made, a minimum loss contingency amount
is recorded. These estimates are often initially developed substan-
tially earlier than the ultimate loss is known, and the estimates are
refined each accounting period as additional information becomes
known. Accordingly, Abbott is often initially unable to develop a
best estimate of loss, and therefore the minimum amount, which
could be zero, is recorded. As information becomes known, either
the minimum loss amount is increased, resulting in additional
loss provisions, or a best estimate can be made, also resulting in
additional loss provisions. Occasionally, a best estimate amount is
changed to a lower amount when events result in an expectation
of a more favorable outcome than previously expected. Abbott
estimates the range of possible loss to be from approximately
$70million to $85million for its legal proceedings and environ-
mental exposures. Accruals of approximately $80million have
been recorded at December31, 2014 for these proceedings and
exposures. These accruals represent management’s best estimate
of probable loss, as defined by FASB ASC No. 450, “Contingencies.”
Historically, adjustments to prior years’ rebate accruals have not
been material to net income. Abbott employs various techniques
to verify the accuracy of claims submitted to it, and where possi-
ble, works with the organizations submitting claims to gain insight
into changes that might aect the rebate amounts. For government
agency programs, the calculation of a rebate involves interpreta-
tions of relevant regulations, which are subject to challenge or
change in interpretation.
Income Taxes—Abbott operates in numerous countries where its
income tax returns are subject to audits and adjustments. Because
Abbott operates globally, the nature of the audit items are often
very complex, and the objectives of the government auditors can
result in a tax on the same income in more than one country.
Abbott employs internal and external tax professionals to minimize
audit adjustment amounts where possible. In accordance with the
accounting rules relating to the measurement of tax contingencies,
in order to recognize an uncertain tax benefit, the taxpayer must be
more likely than not of sustaining the position, and the measure-
ment of the benefit is calculated as the largest amount that is more
than 50 percent likely to be realized upon resolution of the benefit.
Application of these rules requires a significant amount of judg-
ment. In the U.S., Abbott’s federal income tax returns through 2011
are settled except for four items, and the income tax returns for
years after 2011 are open. Abbott does not record deferred income
taxes on earnings reinvested indefinitely in foreign subsidiaries.
Pension and Post-Employment Benefits—Abbott oers pension
benefits and post-employment health care to many of its employ-
ees. Abbott engages outside actuaries to assist in the determination
of the obligations and costs under these programs. Abbott must
develop long-term assumptions, the most significant of which are
the health care cost trend rates, discount rates and the expected
return on plan assets. The discount rates used to measure liabilities
were determined based on high-quality fixed income securities
that match the duration of the expected retiree benefits. The
health care cost trend rates represent Abbott’s expected annual
rates of change in the cost of health care benefits and is a forward
projection of health care costs as of the measurement date. A dier-
ence between the assumed rates and the actual rates, which will
not be known for decades, can be significant in relation to the
obligations and the annual cost recorded for these programs. Low
interest rates have significantly increased actuarial losses for these
plans. At December31, 2014, pretax net actuarial losses and prior
service costs and (credits) recognized in Accumulated other com-
prehensive income (loss) for Abbott’s defined benefit plans and
medical and dental plans were losses of $3.2billion and $161mil-
lion, respectively. Actuarial losses and gains are amortized over
the remaining service attribution periods of the employees under
the corridor method, in accordance with the rules for accounting
for post-employment benefits. Dierences between the expected
long-term return on plan assets and the actual annual return are
amortized over a five-year period. Note13 to the consolidated
financial statements describes the impact of a one-percentage
point change in the health care cost trend rate; however, there
can be no certainty that a change would be limited to only one
percentage point.