Eli Lilly 2011 Annual Report Download - page 42

FORM 10-K
assets, and health-care-cost trend rates. These assumptions have a significant effect on the amounts reported. In
addition to the analysis below, see Note 14 to the consolidated financial statements for additional information
regarding our retirement benefits.
Annually, we evaluate the discount rate and the expected return on plan assets in our defined benefit pension and
retiree health benefit plans. In evaluating these assumptions, we consider many factors, including an evaluation of
the discount rates, expected return on plan assets, and health-care-cost trend rates of other companies; our
historical assumptions compared with actual results; an analysis of current market conditions and asset allocations
(approximately 81 percent of which are growth investments); and the views of leading financial advisers and
economists. We use an actuarially determined, company-specific yield curve to determine the discount rate. In
evaluating our expected retirement age assumption, we consider the retirement ages of our past employees eligible
for pension and medical benefits together with our expectations of future retirement ages.
If the health-care-cost trend rates were to be increased by one percentage point each future year, the aggregate of
the service cost and interest cost components of the 2011 annual expense would increase by $15.1 million. A
one-percentage-point decrease would decrease the aggregate of the 2011 service cost and interest cost by
$12.3 million. If the 2011 discount rate for the U.S. defined benefit pension and retiree health benefit plans (U.S.
plans) were to be changed by a quarter percentage point, income before income taxes would change by $28.4
million. If the 2011 expected return on plan assets for U.S. plans were to be changed by a quarter percentage point,
income before income taxes would change by $19.2 million. If our assumption regarding the 2011 expected age of
future retirees for U.S. plans were adjusted by one year, our income before income taxes would be affected by $35.3
million. The U.S. plans, including Puerto Rico, represent approximately 82 percent of the total accumulated
postretirement benefit obligation and approximately 81 percent of total plan assets at December 31, 2011.
Impairment of Indefinite-Lived and Long-Lived Assets
We review the carrying value of long-lived assets (both intangible and tangible) for potential impairment on a
periodic basis and whenever events or changes in circumstances indicate the carrying value of an asset may not be
recoverable. We determine impairment by comparing the projected undiscounted cash flows to be generated by the
asset to its carrying value. If an impairment is identified, a loss is recorded equal to the excess of the asset’s net
book value over its fair value, and the cost basis is adjusted.
Goodwill and indefinite-lived intangible assets are reviewed for impairment at least annually and when certain
impairment indicators are present. When required, a comparison of fair value to the carrying amount of assets is
performed to determine the amount of any impairment.
There are several methods that can be used to determine the estimated fair value of the IPR&D acquired in a
business combination, all of which require multiple assumptions. We utilize the “income method,” which applies a
probability weighting that considers the risk of development and commercialization, to the estimated future net cash
flows that are derived from projected sales revenues and estimated costs. These projections are based on factors
such as relevant market size, patent protection, historical pricing of similar products, and expected industry trends.
The estimated future net cash flows are then discounted to the present value using an appropriate discount rate.
This analysis is performed for each project independently.
For IPR&D assets, the risk of failure has been factored into the fair value measure and there can be no certainty that
these assets ultimately will yield a successful product, as discussed previously in the “Late-Stage Pipeline” section.
The nature of the pharmaceutical business is high-risk and requires that we invest in a large number of projects to
build a successful portfolio of approved products. As such, it is likely that some IPR&D assets will become impaired
at some time in the future.
The estimated future cash flows, based on what we believe to be reasonable and supportable assumptions and
projections, require management’s judgment. Actual results could vary from these estimates.
Income Taxes
We prepare and file tax returns based on our interpretation of tax laws and regulations and record estimates based
on these judgments and interpretations. In the normal course of business, our tax returns are subject to examination
by various taxing authorities, which may result in future tax, interest, and penalty assessments by these authorities.
Inherent uncertainties exist in estimates of many tax positions due to changes in tax law resulting from legislation,
regulation, and/or as concluded through the various jurisdictions’ tax court systems. We recognize the tax benefit
from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination
by the taxing authorities, based on the technical merits of the position. The tax benefits recognized in the financial
statements from such a position are measured based on the largest benefit that has a greater than 50 percent
likelihood of being realized upon ultimate resolution. The amount of unrecognized tax benefits is adjusted for
changes in facts and circumstances. For example, adjustments could result from significant amendments to existing
tax law and the issuance of regulations or interpretations by the taxing authorities, new information obtained during
a tax examination, or resolution of an examination. We believe that our estimates for uncertain tax positions are
appropriate and sufficient to pay assessments that may result from examinations of our tax returns. We recognize
both accrued interest and penalties related to unrecognized tax benefits in income tax expense.
We have recorded valuation allowances against certain of our deferred tax assets, primarily those that have been
generated from net operating losses and tax credit carryforwards in certain taxing jurisdictions. In evaluating
whether we would more likely than not recover these deferred tax assets, we have not assumed any future taxable
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