Edgar Filing: AMGEN INC

AMGN-2014.9.30-10Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Form 10-Q

(Mark One)



þ	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2014



¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission file number 000-12477

Amgen Inc.

(Exact name of registrant as specified in its charter)



Delaware		95-3540776
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

One Amgen Center Drive, Thousand Oaks, California		91320-1799
(Address of principal executive offices)		(Zip Code)

(805) 447-1000

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or Section 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):



Large accelerated filer þ	Accelerated filer ¨	Non-accelerated filer ¨ (Do not check if a smaller reporting company)	Smaller reporting company ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act) Yes ¨ No þ

As of October 21, 2014, the registrant had 760,670,000 shares of common stock, $0.0001 par value, outstanding.

AMGEN INC.

INDEX



		Page No.
PART I - FINANCIAL INFORMATION		1
Item 1.	FINANCIAL STATEMENTS	1
	CONDENSED CONSOLIDATED STATEMENTS OF INCOME	1
	CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME	2
	CONDENSED CONSOLIDATED BALANCE SHEETS	3
	CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS	4
	NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS	5
Item 2.	MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS	25
Item 3.	QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK	35
Item 4.	CONTROLS AND PROCEDURES	35
PART II - OTHER INFORMATION		36
Item 1.	LEGAL PROCEEDINGS	36
Item 1A.	RISK FACTORS	36
Item 6.	EXHIBITS	36
SIGNATURES		37
INDEX TO EXHIBITS		38

PART I — FINANCIAL INFORMATION



Item 1.	FINANCIAL STATEMENTS

AMGEN INC.

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(In millions, except per share data)

(Unaudited)



	Three months ended				Nine months ended
	September 30,				September 30,
	2014		2013		2014		2013
Revenues:
Product sales	$	4,848	$	4,647	$	14,153	$	13,393
Other revenues	183		101		579		272
Total revenues	5,031		4,748		14,732		13,665

Operating expenses:
Cost of sales	1,068		788		3,239		2,317
Research and development	1,018		989		3,063		2,834
Selling, general and administrative	1,213		1,249		3,372		3,663
Other	266		34		326		171
Total operating expenses	3,565		3,060		10,000		8,985

Operating income	1,466		1,688		4,732		4,680

Interest expense, net	269		257		810		761
Interest and other income, net	140		72		377		332

Income before income taxes	1,337		1,503		4,299		4,251

Provision for income taxes	93		135		435		191

Net income	$	1,244	$	1,368	$	3,864	$	4,060

Earnings per share:
Basic	$	1.63	$	1.81	$	5.10	$	5.40
Diluted	$	1.61	$	1.79	$	5.02	$	5.31

Shares used in calculation of earnings per share:
Basic	761		754		758		752
Diluted	771		766		769		764

Dividends paid per share	$	0.61	$	0.47	$	1.83	$	1.41

See accompanying notes.

AMGEN INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In millions)

(Unaudited)



	Three months ended						Nine months ended
	September 30,						September 30,
	2014			2013			2014			2013
Net income	$	1,244		$	1,368		$	3,864		$	4,060
Other comprehensive income (loss), net of reclassification adjustments and taxes:
Foreign currency translation (losses) gains	(124		)	12			(125		)	(36		)
Effective portion of cash flow hedges	228			(84		)	205			13
Net unrealized (losses) gains on available-for-sale securities	(94		)	48			(33		)	(219		)
Other	9			(2		)	10			(1		)
Other comprehensive income (loss), net of tax	19			(26		)	57			(243		)
Comprehensive income	$	1,263		$	1,342		$	3,921		$	3,817

See accompanying notes.

AMGEN INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In millions, except per share data)

(Unaudited)



	September 30, 2014			December 31, 2013
ASSETS
Current assets:
Cash and cash equivalents	$	3,677		$	3,805
Marketable securities	24,398			15,596
Trade receivables, net	2,355			2,697
Inventories	2,885			3,019
Other current assets	2,733			2,250
Total current assets	36,048			27,367

Property, plant and equipment, net	5,267			5,349
Intangible assets, net	13,100			13,262
Goodwill	14,815			14,968
Restricted investments	—			3,412
Other assets	1,545			1,767
Total assets	$	70,775		$	66,125

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	955		$	787
Accrued liabilities	5,096			4,655
Current portion of long-term debt	2,500			2,505
Total current liabilities	8,551			7,947

Long-term debt	30,480			29,623
Other noncurrent liabilities	6,419			6,459

Contingencies and commitments

Stockholders’ equity:
Common stock and additional paid-in capital; $0.0001 par value; 2,750.0 shares authorized; outstanding - 760.6 shares in 2014 and 754.6 shares in 2013	30,127			29,891
Accumulated deficit	(4,698		)	(7,634		)
Accumulated other comprehensive loss	(104		)	(161		)
Total stockholders’ equity	25,325			22,096
Total liabilities and stockholders’ equity	$	70,775		$	66,125

See accompanying notes.

AMGEN INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In millions)

(Unaudited)



	Nine months ended
	September 30,
	2014			2013
Cash flows from operating activities:
Net income	$	3,864		$	4,060
Depreciation and amortization	1,567			842
Stock-based compensation expense	302			304
Deferred income taxes	296			46
Other items, net	(260		)	73
Changes in operating assets and liabilities, net of acquisitions:
Trade receivables, net	345			(132		)
Inventories	99			(71		)
Other assets	(120		)	(174		)
Accounts payable	104			6
Accrued income taxes	(324		)	(483		)
Other liabilities	237			(15		)
Net cash provided by operating activities	6,110			4,456
Cash flows from investing activities:
Purchases of property, plant and equipment	(515		)	(492		)
Cash paid for acquisitions, net of cash acquired	(115		)	—
Purchase of intangible assets	(150		)	—
Purchases of marketable securities	(20,831		)	(17,878		)
Proceeds from sales of marketable securities	11,060			15,743
Proceeds from maturities of marketable securities	3,962			4,846
Change in restricted investments	533			(526		)
Other	(70		)	(44		)
Net cash (used in) provided by investing activities	(6,126		)	1,649
Cash flows from financing activities:
Net proceeds from issuance of debt	4,476			3,074
Repayment of debt	(3,480		)	(2,500		)
Repurchases of common stock	—			(832		)
Dividends paid	(1,387		)	(1,061		)
Net proceeds from issuance of common stock in connection with the Company’s equity award programs	153			268
Other	126			(30		)
Net cash used in financing activities	(112		)	(1,081		)
(Decrease) increase in cash and cash equivalents	(128		)	5,024
Cash and cash equivalents at beginning of period	3,805			3,257
Cash and cash equivalents at end of period	$	3,677		$	8,281

See accompanying notes.

AMGEN INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2014

(Unaudited)

1. Summary of significant accounting policies

Business

Amgen Inc. (including its subsidiaries, referred to as “Amgen,” “the Company,” “we,” “our” or “us”) is a global biotechnology pioneer that discovers, develops, manufactures and delivers innovative human therapeutics. We operate in one business segment: human therapeutics.

Basis of presentation

The financial information for the three and nine months ended September 30, 2014 and 2013, is unaudited but includes all adjustments (consisting of only normal recurring adjustments, unless otherwise indicated), which Amgen considers necessary for a fair presentation of its condensed consolidated results of operations for those periods. Interim results are not necessarily indicative of results for the full fiscal year.

The condensed consolidated financial statements should be read in conjunction with our consolidated financial statements and the notes thereto contained in our Annual Report on Form 10-K for the year ended December 31, 2013 and in our Quarterly Reports on Form 10-Q for the periods ended March 31, 2014, and June 30, 2014.

Principles of consolidation

The condensed consolidated financial statements include the accounts of Amgen as well as its majority-owned subsidiaries. We do not have any significant interests in any variable interest entities. All material intercompany transactions and balances have been eliminated in consolidation.

Use of estimates

The preparation of condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States (GAAP) requires management to make estimates and assumptions that affect the amounts reported in the condensed consolidated financial statements and accompanying notes. Actual results may differ from those estimates.

Property, plant and equipment, net

Property, plant and equipment is recorded at historical cost, net of accumulated depreciation and amortization of $7.4 billion and $6.9 billion as of September 30, 2014, and December 31, 2013, respectively.

Restricted investments

As of December 31, 2013, we had restricted investments on our Condensed Consolidated Balance Sheet that were owned by ATL Holdings Limited (ATL Holdings), a wholly-owned subsidiary. ATL Holdings was an entity distinct from the Company and its other subsidiaries, with separate assets and liabilities. Because certain third parties owned Class A preferred shares of ATL Holdings, this entity was required to hold restricted investments, which were composed of interest-bearing securities, cash and related interest receivable as of December 31, 2013. On May 22, 2014, the Company repurchased all of the outstanding Class A preferred shares, and therefore, there were no remaining restricted investments on our Condensed Consolidated Balance Sheet as of September 30, 2014. See Note 9, Financing arrangements.

Branded prescription drug fee

During the three months ended September 30, 2014, the Internal Revenue Service (IRS) issued final regulations for the branded prescription drug (BPD) fee, an annual non-tax deductible fee imposed on certain companies engaged in the business of manufacturing or importing branded prescription drugs enacted under the Patient Protection and Affordable Care Act. The final regulations accelerated the expense recognition criteria for the fee obligation by one year, from the year in which the fee is paid to the year in which the sales used to calculate the fee occur. As a result, our Consolidated Statement of Income for the year ended December 31, 2014, will include both the estimated BPD fee imposed and paid in 2014 and an estimated BPD fee to be imposed and paid in 2015. Pursuant to the issuance of these final regulations, we recognized an additional $145 million in Selling, general and administrative (SG&A) expense during the three months ended September 30, 2014, for: (i) the accrual of the estimated fee to be imposed and paid in 2015 related to sales which will be used to calculate the fee that occurred during the nine months ended

September 30, 2014, and (ii) the derecognition of the remaining deferred charge related to the fee imposed and paid in 2014 recorded under the method of accounting previously used for recognition of the BPD fee under the IRS temporary regulations.

Recent accounting pronouncements

In May 2014, a new accounting standard was issued that amends the guidance for the recognition of revenue from contracts with customers to transfer goods and services. This new standard will be effective for interim and annual periods beginning January 1, 2017, is required to be adopted retrospectively and early adoption is not permitted. We are currently evaluating the impact that this new standard will have on our financial statements.

2. Restructuring

On July 29, 2014, we announced a restructuring plan to invest in continuing innovation and the launch of our new pipeline molecules, while improving our cost structure. As part of the plan, we stated that we would reduce our staff by 2,400 to 2,900 by the end of 2015, close our facilities in Washington state and Colorado and reduce the number of buildings occupied at our headquarters in Thousand Oaks, California. After evaluating additional efficiency initiatives, particularly in the area of shared services, outsourcing and other external expense categories, we are expanding the total planned reduction of our staff to 3,500 to 4,000 by the end of 2015.

We currently estimate that $935 million to $1,035 million of restructuring charges will be incurred in connection with the implementation of our restructuring plan. Included in these amounts are: (i) separation costs of $535 million to $585 million with respect to the staff reductions, and (ii) asset related charges of $400 million to $450 million consisting primarily of asset impairments, accelerated depreciation and other related costs resulting from the consolidation of our worldwide facilities. Approximately 55% of the total charges will result in cash outlays, associated primarily with staff separation costs.

During the three months ended September 30, 2014, we initiated the above-noted actions and incurred $376 million of restructuring costs. We expect that substantially all remaining restructuring actions and related estimated costs to be incurred will occur during the fourth quarter of 2014 and in 2015.

The following table summarizes the charges recorded during the three months ended September 30, 2014, related to the restructuring plan by type of activity (in millions):



	Separation Costs		Asset Impairments		Accelerated Depreciation		Other		Total
Cost of sales	$	—	$	17	$	11	$	—	$	28
Research and development	—		—		15		—		15
Selling, general and administrative	—		—		3		—		3
Other	323		—		—		7		330
Total	$	323	$	17	$	29	$	7	$	376

Asset impairment and accelerated depreciation charges were recognized in connection with our decision to exit Boulder and Longmont, Colorado and Bothell and Seattle, Washington as well as the consolidation of facilities in Thousand Oaks, California. The decision to accelerate the closure of these manufacturing and research and development (R&D) facilities was based principally on optimizing the utilization of our sites in the United States, which includes an expansion of our presence in the key U.S. biotechnology hubs of South San Francisco, California and Cambridge, Massachusetts.

The following table summarizes the expense and payments regarding liabilities related to the restructuring plan (in millions):



	Separation Costs		Other			Total
Restructuring liabilities as of June 30, 2014	$	—	$	—		$	—
Expense	309		3			312
Payments	—		(1		)	(1		)
Restructuring liabilities as of September 30, 2014	$	309	$	2		$	311

3. Business combinations

Onyx Pharmaceuticals

On October 1, 2013, we acquired all of the outstanding stock of Onyx Pharmaceuticals, Inc. (Onyx), a global biopharmaceutical company engaged in the development and commercialization of innovative therapies for improving the lives of people afflicted with cancer. Onyx has a multiple myeloma franchise, with Kyprolis^® (carfilzomib) for Injection already approved in the United States, and with oprozomib being evaluated in clinical trials for patients with hematologic malignancies. In addition, Onyx has three partnered oncology assets: Nexavar^® (sorafenib) tablets (an Onyx and Bayer compound), Stivarga^® (regorafenib) tablets (a Bayer compound), and palbociclib (a Pfizer, Inc. compound). This transaction, which was accounted for as a business combination, provides us with an opportunity to expand our oncology franchise. Onyx’s operations have been included in our condensed consolidated financial statements commencing on the acquisition date.

The aggregate consideration to acquire Onyx was paid in cash and consisted of (in millions):



Total consideration transferred	$	9,517
Compensation expense	197
Total cash paid	$	9,714

The $9,517 million cash payment consisted of a $9,186 million cash payment to the outstanding common stockholders and a $331 million cash payment to the Onyx equity award holders for services rendered prior to October 1, 2013 under the Onyx equity award plans. The remaining $197 million of cash, which related to the accelerated vesting of the remaining Onyx equity awards, was recognized as compensation expense during the three months ended December 31, 2013. This amount was included primarily in SG&A expense in the Consolidated Statement of Income.

The consideration to acquire Onyx was allocated to the acquisition date fair values of assets acquired and liabilities assumed as follows (in millions):



Cash and cash equivalents	$	319
Marketable securities	337
Inventories	170
Indefinite-lived intangible assets - In-process research and development (IPR&D)	1,180
Finite-lived intangible assets - Developed product technology rights	6,190
Finite-lived intangible assets - Licensing rights	2,792
Goodwill	2,402
Convertible debt	(742		)
Assumed contingent consideration	(261		)
Deferred income taxes, net	(3,011		)
Other assets (liabilities), net	141
Total consideration	$	9,517

Onyx’s preliminary goodwill at December 31, 2013 has been revised. Goodwill was reduced by $124 million due primarily to revisions which increased the acquisition date fair values of developed product technology rights by $280 million and deferred income taxes by $93 million, and decreased inventory by $80 million. The adjustments did not have a material effect on our current or prior period financial statements.

The developed product technology rights acquired relate to Kyprolis^® which is approved in the United States. This product technology is being amortized on a straight-line basis over the estimated useful life of 12 years.

Licensing rights acquired represent the aggregate estimated fair values of receiving future milestone, royalty and/or profit sharing payments associated with various contract agreements that were entered into by Onyx prior to the acquisition. The weighted-average useful life of these finite-lived intangible assets is ten years, and they are being amortized on a straight-line basis.

Filgrastim and pegfilgrastim rights acquisition

In October 2013, we entered into an agreement to acquire the licenses to filgrastim and pegfilgrastim effective January 1, 2014 (acquisition date), that were held by F. Hoffmann-La Roche Ltd. (Roche) in approximately 100 markets in Eastern Europe,

Latin America, Asia, the Middle East and Africa (Product Rights), and to settle our preexisting relationship related to the Product Rights for total consideration of $497 million. The acquisition of the Product Rights was accounted for as a business combination as the acquired rights and processes are capable of producing an immediate return to us, and the settlement of the preexisting relationship was accounted for separately from the business combination.

This transaction provides us with an opportunity to expand our geographic presence and reach more patients in more countries that could benefit from our therapies. The operations of the acquired set of activities have been included in our financial statements commencing on the acquisition date. Pro forma results of operations for this acquisition have not been presented because this acquisition is not material to our consolidated results of operations.

The aggregate consideration transferred consisted of (in millions):



Total consideration transferred or to be transferred	$	497
Settlement of preexisting relationship at fair value	(99		)
Total consideration transferred to acquire the Product Rights	$	398

The settlement of the preexisting relationship relates to a supply contract between Amgen and Roche that was terminated as a result of the acquisition of the Product Rights. The fair value of the contract of $99 million was recognized in Cost of sales in the Condensed Consolidated Statement of Income for the nine months ended September 30, 2014.

The consideration to acquire the Product Rights was allocated to the acquisition date fair values of assets acquired as follows (in millions):



Finite-lived intangible assets - Marketing-related rights	$	363
Finite-lived intangible assets - Developed product technology rights	11
Goodwill	3
Other assets	21
Total consideration	$	398

The marketing-related and developed product technology rights acquired relate to the Product Rights and are being amortized on a straight-line basis over their estimated useful lives of five years and three and one-half years, respectively.

4. Income taxes

The effective tax rates for the three and nine months ended September 30, 2014 were 7.0% and 10.1%, respectively, compared with 9.0% and 4.5% for the corresponding periods of the prior year. The effective rates are different from the federal statutory rates primarily as a result of indefinitely invested earnings of our foreign operations. We do not provide for U.S. income taxes on undistributed earnings of our foreign operations that are intended to be invested indefinitely outside of the United States. In addition, the effective tax rates for both periods were reduced by foreign tax credits associated with the Puerto Rico excise tax described below.

The decrease in our effective tax rate for the three months ended September 30, 2014, is due primarily to the favorable tax impact of changes in the jurisdictional mix of income and expenses, including higher domestic acquisition-related expenses and restructuring costs. The decrease was offset partially by the exclusion of the benefit of the R&D tax credit, which expired as of December 31, 2013, and was not reinstated as of September 30, 2014.

The increase in our effective tax rate for the nine months ended September 30, 2014, is due primarily to two significant events that occurred during the three months ended March 31, 2013. First, we settled our examination with the IRS for the years ended December 31, 2007, 2008 and 2009 in which we agreed to certain adjustments proposed by the IRS and remeasured our unrecognized tax benefits (UTBs) accordingly. Second, the American Taxpayer Relief Act of 2012, enacted during the first quarter of 2013, reinstated the federal R&D tax credit for 2012 and 2013. Therefore, our effective tax rate for the nine months ended September 30, 2013, included a benefit for the full-year 2012 R&D tax credit, recorded as a discrete item in the first quarter of 2013. The increase was offset partially by the favorable tax impact of changes in the jurisdictional mix of income and expenses due primarily to higher domestic acquisition-related expenses and restructuring costs in the nine months ended September 30, 2014.

Puerto Rico imposes an excise tax on the gross intercompany purchase price of goods and services from our manufacturing subsidiary in Puerto Rico. The rate was 2.75% in the first half of 2013 and 4.0% effective July 1, 2013 through December 31, 2017. We account for the excise tax as a manufacturing cost that is capitalized in inventory and expensed in cost of sales when

the related products are sold. For U.S. income tax purposes, the excise tax results in foreign tax credits that are generally recognized in our provision for income taxes when the excise tax is incurred. Excluding the impact of the Puerto Rico excise tax, our effective tax rates for the three and nine months ended September 30, 2014, would have been 12.5% and 15.0%, respectively, compared with 13.8% and 9.8% for the corresponding periods of the prior year.

One or more of our legal entities file income tax returns in the U.S. federal jurisdiction, various U.S. state jurisdictions and certain foreign jurisdictions. Our income tax returns are routinely audited by the tax authorities in those jurisdictions. Significant disputes may arise with these tax authorities involving issues of the timing and amount of income and deductions, the use of tax credits and allocations of income among various tax jurisdictions because of differing interpretations of tax laws and regulations. We are no longer subject to U.S. federal income tax examinations for years ending on or before December 31, 2009, or to California state income tax examinations for years ending on or before December 31, 2005.

During the three and nine months ended September 30, 2014, the gross amount of our UTBs increased by approximately $90 million and $255 million, respectively, as a result of tax positions taken during the current year. Substantially all of the UTBs as of September 30, 2014, if recognized, would affect our effective tax rate. As of September 30, 2014, we believe it is reasonably possible that our gross liabilities for UTBs may decrease by approximately $70 million within the succeeding 12 months due to the resolution of state audits.

5. Earnings per share

The computation of basic earnings per share (EPS) is based on the weighted-average number of our common shares outstanding. The computation of diluted EPS is based on the weighted-average number of our common shares outstanding and dilutive potential common shares, which include principally shares that may be issued under our stock option awards and restricted stock and performance unit awards, determined using the treasury stock method (collectively “dilutive securities”).

The computation for basic and diluted EPS was as follows (in millions, except per share data):



	Three months ended				Nine months ended
	September 30,				September 30,
	2014		2013		2014		2013
Income (Numerator):
Net income for basic and diluted EPS	$	1,244	$	1,368	$	3,864	$	4,060

Shares (Denominator):
Weighted-average shares for basic EPS	761		754		758		752
Effect of dilutive securities	10		12		11		12
Weighted-average shares for diluted EPS	771		766		769		764

Basic EPS	$	1.63	$	1.81	$	5.10	$	5.40
Diluted EPS	$	1.61	$	1.79	$	5.02	$	5.31

For the three and nine months ended September 30, 2014 and 2013, the number of anti-dilutive employee stock-based awards excluded from the computation of diluted EPS was not significant.

6. Available-for-sale investments

The amortized cost, gross unrealized gains, gross unrealized losses and estimated fair values of available-for-sale investments by type of security were as follows (in millions):



Type of security as of September 30, 2014	Amortized cost		Gross unrealized gains		Gross unrealized losses			Estimated fair value
U.S. Treasury securities	$	3,577	$	4	$	(9	)	$	3,572
Other government-related debt securities:
U.S.	996		1		(5		)	992
Foreign and other	1,553		18		(15		)	1,556
Corporate debt securities:
Financial	5,918		18		(26		)	5,910
Industrial	6,043		22		(56		)	6,009
Other	631		3		(4		)	630
Residential mortgage-backed securities	1,838		3		(14		)	1,827
Other mortgage- and asset-backed securities	2,101		—		(62		)	2,039
Money market mutual funds	2,386		—		—			2,386
Other short-term interest-bearing securities	2,661		—		—			2,661
Total interest-bearing securities	27,704		69		(191		)	27,582
Equity securities	88		8		(8		)	88
Total available-for-sale investments	$	27,792	$	77	$	(199	)	$	27,670



Type of security as of December 31, 2013	Amortized cost		Gross unrealized gains		Gross unrealized losses			Estimated fair value
U.S. Treasury securities	$	4,737	$	2	$	(9	)	$	4,730
Other government-related debt securities:
U.S.	1,087		—		(8		)	1,079
Foreign and other	1,574		13		(41		)	1,546
Corporate debt securities:
Financial	3,667		28		(19		)	3,676
Industrial	3,745		36		(21		)	3,760
Other	388		4		(2		)	390
Residential mortgage-backed securities	1,478		3		(21		)	1,460
Other mortgage- and asset-backed securities	1,555		1		(45		)	1,511
Money market mutual funds	3,366		—		—			3,366
Other short-term interest-bearing securities	750		—		—			750
Total interest-bearing securities	22,347		87		(166		)	22,268
Equity securities	85		10		—			95
Total available-for-sale investments	$	22,432	$	97	$	(166	)	$	22,363

The fair values of available-for-sale investments by classification in the Condensed Consolidated Balance Sheets were as follows (in millions):



Classification in the Condensed Consolidated Balance Sheets	September 30, 2014		December 31, 2013
Cash and cash equivalents	$	3,184	$	3,266
Marketable securities	24,398		15,596
Other assets — noncurrent	88		95
Restricted investments	—		3,406
Total available-for-sale investments	$	27,670	$	22,363

Cash and cash equivalents in the table above excludes cash of $493 million and $539 million as of September 30, 2014, and December 31, 2013, respectively. Restricted investments in the table above excludes $6 million of interest receivable as of December 31, 2013.

The fair values of available-for-sale interest-bearing security investments by contractual maturity, except for mortgage- and asset- backed securities that do not have a single maturity date, were as follows (in millions):



Contractual maturity	September 30, 2014		December 31, 2013
Maturing in one year or less	$	5,101	$	6,799
Maturing after one year through three years	2,569		4,785
Maturing after three years through five years	9,296		6,057
Maturing after five years through ten years	6,299		1,656
Maturing after ten years	451		—
Mortgage- and asset-backed securities	3,866		2,971
Total interest-bearing securities	$	27,582	$	22,268

For the three months ended September 30, 2014 and 2013, realized gains totaled $17 million and $24 million, respectively, and realized losses totaled $28 million and $26 million, respectively. For the nine months ended September 30, 2014 and 2013, realized gains totaled $102 million and $142 million, respectively, and realized losses totaled $71 million and $70 million, respectively. The cost of securities sold is based on the specific identification method.

The unrealized losses on available-for-sale investments and their related fair values were as follows (in millions):



	Less than 12 months					12 months or greater
Type of security as of September 30, 2014	Fair value		Unrealized losses			Fair value		Unrealized losses
U.S. Treasury securities	$	2,131	$	(7	)	$	310	$	(2	)
Other government-related debt securities:
U.S.	380		(1		)	296		(4		)
Foreign and other	429		(6		)	232		(9		)
Corporate debt securities:
Financial	3,555		(24		)	184		(2		)
Industrial	3,846		(53		)	240		(3		)
Other	358		(4		)	7		—
Residential mortgage-backed securities	739		(4		)	447		(10		)
Other mortgage- and asset-backed securities	883		(11		)	841		(51		)
Equity securities	24		(8		)	—		—
Total	$	12,345	$	(118	)	$	2,557	$	(81	)



	Less than 12 months					12 months or greater
Type of security as of December 31, 2013	Fair value		Unrealized losses			Fair value		Unrealized losses
U.S. Treasury securities	$	2,362	$	(9	)	$	—	$	—
Other government-related debt securities:
U.S.	789		(8		)	—		—
Foreign and other	986		(38		)	39		(3		)
Corporate debt securities:
Financial	1,781		(19		)	—		—
Industrial	1,543		(21		)	1		—
Other	182		(2		)	—		—
Residential mortgage-backed securities	794		(14		)	257		(7		)
Other mortgage- and asset-backed securities	982		(29		)	313		(16		)
Total	$	9,419	$	(140	)	$	610	$	(26	)

The primary objective of our investment portfolio is to enhance overall returns in an efficient manner while maintaining safety of principal, prudent levels of liquidity and acceptable levels of risk. Our investment policy limits interest-bearing security investments to certain types of debt and money market instruments issued by institutions with primarily investment grade credit ratings and places restrictions on maturities and concentration by asset class and issuer.

We review our available-for-sale investments for other-than-temporary declines in fair value below our cost basis each quarter and whenever events or changes in circumstances indicate that the cost basis of an asset may not be recoverable. This evaluation is based on a number of factors, including the length of time and the extent to which the fair value has been below our cost basis and adverse conditions related specifically to the security, including any changes to the credit rating of the security. As of September 30, 2014, and December 31, 2013, we believe the cost bases for our available-for-sale investments were recoverable in all material respects.

7. Inventories

Inventories consisted of the following (in millions):



	September 30, 2014		December 31, 2013
Raw materials	$	207	$	217
Work in process	1,690		2,064
Finished goods	988		738
Total inventories	$	2,885	$	3,019

8. Goodwill and other intangible assets

Goodwill

The changes in the carrying amounts of goodwill were as follows (in millions):



	Nine months ended September 30,
	2014			2013
Beginning balance	$	14,968		$	12,662
Goodwill related to acquisitions of businesses⁽¹⁾	(114		)	(48		)
Currency translation adjustments	(39		)	(42		)
Ending balance	$	14,815		$	12,572


⁽¹⁾	Composed primarily of adjustments to goodwill resulting from changes to the acquisition date fair values of net assets acquired in business combinations recorded during their respective measurement periods.

Identifiable intangible assets

Identifiable intangible assets consisted of the following (in millions):



	September 30, 2014							December 31, 2013
	Gross carrying amount		Accumulated amortization			Intangible assets, net		Gross carrying amount		Accumulated amortization			Intangible assets, net
Finite-lived intangible assets:
Developed product technology rights	$	10,421	$	(3,953	)	$	6,468	$	10,130	$	(3,347	)	$	6,783
Licensing rights	3,237		(618		)	2,619		3,241		(366		)	2,875
R&D technology rights	1,183		(552		)	631		1,207		(496		)	711
Marketing-related rights	1,241		(475		)	766		619		(366		)	253
Total finite-lived intangible assets	16,082		(5,598		)	10,484		15,197		(4,575		)	10,622
Indefinite-lived intangible assets:
IPR&D	2,616		—			2,616		2,640		—			2,640
Total identifiable intangible assets	$	18,698	$	(5,598	)	$	13,100	$	17,837	$	(4,575	)	$	13,262

Developed product technology rights consist of rights related to marketed products acquired in business combinations. Licensing rights are composed primarily of intangible assets acquired as part of the acquisition of Onyx (see Note 3, Business combinations), capitalized payments to third parties for milestones related to regulatory approvals to commercialize products and up-front payments associated with royalty obligations for marketed products. R&D technology rights consist of technology used in R&D with alternative future uses. Marketing-related intangible assets are composed primarily of rights related to the sale and distribution of marketed products, including assets purchased from the Glaxo Group Limited (Glaxo) discussed below and licenses to filgrastim and pegfilgrastim acquired from Roche (see Note 3, Business combinations).

On April 1, 2014, we entered into a Termination and Transition Agreement (the Transition Agreement) with Glaxo which terminated, in part, and amended, in part, our agreement with Glaxo (the Collaboration Agreement) for the commercialization of denosumab for osteoporosis indications in certain geographic territories, including the European Union (EU), Switzerland, Australia, Norway, Russia and Mexico. The Transition Agreement terminated the Collaboration Agreement for all countries and regions, except for Australia. All commercial activities assigned to Glaxo under the Collaboration Agreement other than those in Australia will be transitioned back to us no later than December 31, 2014. In exchange for the early termination (except Australia) of the Collaboration Agreement, we will make payments to Glaxo totaling $275 million, which represents the reacquisition of a previously shared economic interest in geographic territories where we were already marketing denosumab and accordingly, the transaction was accounted for as an acquisition of identifiable intangible assets.

The Transition Agreement does not change the terms of the related Expansion Agreement under which Glaxo will commercialize denosumab for all indications in certain other geographic territories.

IPR&D consists of R&D projects acquired in a business combination which are not complete due to remaining technological risks and/or lack of receipt of the required regulatory approvals. These projects include Kyprolis^®, a treatment for multiple myeloma being developed for use outside the United States (excluding Japan) acquired in the Onyx transaction (see Note 3, Business combinations); AMG 416 (formerly known as velcalcetide), a treatment for secondary hyperparathyroidism in patients with chronic kidney disease who are on dialysis; blinatumomab, a treatment for acute lymphoblastic leukemia (ALL), and talimogene laherparepvec, a treatment for melanoma.

For all IPR&D projects, there are major risks and uncertainties associated with the timely and successful completion of development and commercialization of these product candidates, including our ability to confirm their safety and efficacy based on data from clinical trials, our ability to obtain necessary regulatory approvals and our ability to successfully complete these tasks within budgeted costs. We are not able to market a human therapeutic without obtaining regulatory approvals, and such approvals require completing clinical trials that demonstrate a product candidate is safe and effective. In addition, the availability and extent of coverage and reimbursement from third-party payers, including government healthcare programs and private insurance plans, impact the revenues a product can generate. Consequently, the eventual realized value, if any, of these acquired IPR&D projects may vary from their estimated fair values.

During the three months ended September 30, 2014 and 2013, we recognized amortization charges associated with our finite-lived intangible assets of $339 million and $117 million, respectively. During the nine months ended September 30, 2014 and 2013, we recognized amortization charges associated with our finite-lived intangible assets of $1,037 million and $353 million, respectively. The total estimated amortization charges for our finite-lived intangible assets for the three months ending December 31,

2014, and the years ending December 31, 2015, 2016, 2017, 2018 and 2019, are $334 million, $1.3 billion, $1.3 billion, $1.2 billion, $996 million and $922 million, respectively.

9. Financing arrangements

The carrying values and the fixed contractual coupon rates, as applicable, of our long-term borrowings were as follows (in millions):



	September 30, 2014			December 31, 2013
1.875% notes due 2014 (1.875% 2014 Notes)	$	1,000		$	1,000
4.85% notes due 2014 (4.85% 2014 Notes)	1,000			1,000
2.30% notes due 2016 (2.30% 2016 Notes)	749			749
2.50% notes due 2016 (2.50% 2016 Notes)	1,000			999
Floating Rate Notes due 2017	600			—
1.25% notes due 2017 (1.25% 2017 Notes)	849			—
2.125% notes due 2017 (2.125% 2017 Notes)	1,249			1,248
5.85% notes due 2017 (5.85% 2017 Notes)	1,100			1,099
6.15% notes due 2018 (6.15% 2018 Notes)	500			500
Master Repurchase Agreement obligation due 2018	—			3,100
Term Loan due 2018	4,500			4,875
4.375% euro-denominated notes due 2018 (4.375% 2018 euro Notes)	699			751
Floating Rate Notes due 2019	250			—
2.20% notes due 2019 (2.20% 2019 Notes)	1,397			—
5.70% notes due 2019 (5.70% 2019 Notes)	999			999
2.125% euro-denominated notes due 2019 (2.125% 2019 euro Notes)	850			925
4.50% notes due 2020 (4.50% 2020 Notes)	300			300
3.45% notes due 2020 (3.45% 2020 Notes)	898			898
4.10% notes due 2021 (4.10% 2021 Notes)	998			998
3.875% notes due 2021 (3.875% 2021 Notes)	1,747			1,746
3.625% notes due 2022 (3.625% 2022 Notes)	747			747
3.625% notes due 2024 (3.625% 2024 Notes)	1,398			—
5.50% pound-sterling-denominated notes due 2026 (5.50% 2026 pound sterling Notes)	765			781
4.00% pound-sterling-denominated notes due 2029 (4.00% 2029 pound sterling Notes)	1,120			1,144
6.375% notes due 2037 (6.375% 2037 Notes)	899			899
6.90% notes due 2038 (6.90% 2038 Notes)	499			499
6.40% notes due 2039 (6.40% 2039 Notes)	996			996
5.75% notes due 2040 (5.75% 2040 Notes)	697			697
4.95% notes due 2041 (4.95% 2041 Notes)	596			596
5.15% notes due 2041 (5.15% 2041 Notes)	2,233			2,233
5.65% notes due 2042 (5.65% 2042 Notes)	1,245			1,244
5.375% notes due 2043 (5.375% 2043 Notes)	1,000			1,000
Other notes	100			105
Total debt	32,980			32,128
Less current portion	(2,500		)	(2,505		)
Total noncurrent debt	$	30,480		$	29,623

Debt repayments

During the nine months ended September 30, 2014, we repurchased all of the Class A preferred shares of ATL Holdings that were subject to a Master Repurchase Agreement for $3.1 billion. We also repaid $375 million of principal on our Term Loan Credit Facility and $5 million of Other notes.

Debt issuances

In May 2014, we issued $4.5 billion aggregate principal amount of notes, comprised of the Floating Rate Notes due 2017, the 1.25% 2017 Notes, the Floating Rate Notes due 2019, the 2.20% 2019 Notes and the 3.625% 2024 Notes. The Floating Rate Notes due in 2017 and 2019 bear interest equal to three-month London Interbank Offered Rates (LIBOR) plus 0.38% and three-month LIBOR plus 0.60%, respectively, and are not subject to redemption at our option. The fixed rate notes that were issued may be redeemed at any time at our option, in whole or in part, at the principal amount of the notes being redeemed plus accrued and unpaid interest and, except as discussed below, a "make-whole" amount, as defined. The 2.20% 2019 Notes and 3.625% 2024 Notes may be redeemed without payment of a "make-whole" amount if they are redeemed on or after one month or three months, respectively, prior to their maturity dates. In the event of a change-in-control triggering event, as defined, we may be required to purchase all or a portion of the notes at a price equal to 101% of the principal amount of the notes plus accrued and unpaid interest. Debt issuance costs incurred in connection with the issuance of these notes totaling approximately $18 million are being amortized over the respective lives of the notes, and the related charge is included in Interest expense, net, in the Condensed Consolidated Statements of Income.

10. Stockholders’ equity

Stock repurchase program

We had no repurchases under our stock repurchase program during the nine months ended September 30, 2014. As of September 30, 2014, $1.6 billion remained available under our Board of Directors-approved stock repurchase program. In October 2014, our Board of Directors authorized an increase that resulted in a total of $4.0 billion available under the stock repurchase program.

Dividends

On each of December 13, 2013, March 5, 2014 and July 25, 2014, the Board of Directors declared a quarterly cash dividend of $0.61 per share of common stock, which were paid on March 7, June 6, and September 5, 2014, respectively. On October 17, 2014, the Board of Directors declared a quarterly cash dividend of $0.61 per share of common stock, which will be paid on December 5, 2014, to all stockholders of record as of the close of business on November 13, 2014.

Accumulated other comprehensive income

The components of accumulated other comprehensive income (AOCI) were as follows (in millions):



	Foreign currency translation			Cash flow hedges			Available-for-sale securities			Other			AOCI
Balance as of December 31, 2013	$	(68	)	$	(33	)	$	(43	)	$	(17	)	$	(161	)
Foreign currency translation adjustments	(12		)	—			—			—			(12		)
Unrealized gains	—			17			66			1			84
Reclassification adjustments to income	—			(14		)	(2		)	—			(16		)
Income taxes	4			(1		)	(24		)	—			(21		)
Balance as of March 31, 2014	$	(76	)	$	(31	)	$	(3	)	$	(16	)	$	(126	)
Foreign currency translation adjustments	9			—			—			—			9
Unrealized gains	—			8			73			—			81
Reclassification adjustments to income	—			(48		)	(40		)	—			(88		)
Income taxes	(2		)	15			(12		)	—			1
Balance as of June 30, 2014	$	(69	)	$	(56	)	$	18		$	(16	)	$	(123	)
Foreign currency translation adjustments	(135		)	—			—			—			(135		)
Unrealized gains (losses)	—			187			(161		)	9			35
Reclassification adjustments to income	—			175			11			—			186
Income taxes	11			(134		)	56			—			(67		)
Balance as of September 30, 2014	$	(193	)	$	172		$	(76	)	$	(7	)	$	(104	)

The reclassifications out of AOCI to earnings were as follows (in millions):



	Amounts reclassified out of AOCI
Components of AOCI	Three months ended September 30, 2014			Three months ended September 30, 2013			Line item affected in the Statements of Income
Cash flow hedges:
Foreign currency contract gains	$	5		$	6		Product sales
Cross-currency swap contract (losses) gains	(179		)	153			Interest and other income, net
Forward interest rate contract losses	(1		)	—			Interest expense, net
	(175		)	159			Total before income tax
	64			(59		)	Tax benefit/(expense)
	$	(111	)	$	100		Net of taxes
Available-for-sale securities:
Net realized losses	$	(11	)	$	(2	)	Interest and other income, net
	4			1			Tax benefit
	$	(7	)	$	(1	)	Net of taxes



	Amounts reclassified out of AOCI
Components of AOCI	Nine months ended September 30, 2014			Nine months ended September 30, 2013			Line item affected in the Statements of Income
Cash flow hedges:
Foreign currency contract gains	$	5		$	9		Product sales
Cross-currency swap contract (losses) gains	(117		)	25			Interest and other income, net
Forward interest rate contract losses	(1		)	(1		)	Interest expense, net
	(113		)	33			Total before income tax
	41			(13		)	Tax benefit/(expense)
	$	(72	)	$	20		Net of taxes
Available-for-sale securities:
Net realized gains	$	31		$	72		Interest and other income, net
	(12		)	(27		)	Tax expense
	$	19		$	45		Net of taxes

11. Fair value measurement

To estimate the fair value of our financial assets and liabilities we use valuation approaches within a hierarchy that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that observable inputs be used when available. Observable inputs are inputs that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company. Unobservable inputs are inputs that reflect the Company’s assumptions about the inputs that market participants would use in pricing the asset or liability and are developed based on the best information available in the circumstances. The fair value hierarchy is divided into three levels based on the source of inputs as follows:



Level 1	—	Valuations based on unadjusted quoted prices in active markets for identical assets or liabilities that the Company has the ability to access
Level 2	—	Valuations for which all significant inputs are observable, either directly or indirectly, other than level 1 inputs
Level 3	—	Valuations based on inputs that are unobservable and significant to the overall fair value measurement

The availability of observable inputs can vary among the various types of financial assets and liabilities. To the extent that the valuation is based on models or inputs that are less observable or unobservable in the market, the determination of fair value requires more judgment. In certain cases, the inputs used for measuring fair value may fall into different levels of the fair value hierarchy. In such cases, for financial statement disclosure purposes, the level in the fair value hierarchy within which the fair value measurement is categorized is based on the lowest level of input used that is significant to the overall fair value measurement.

The fair value of each major class of the Company’s financial assets and liabilities measured at fair value on a recurring basis was as follows (in millions):



	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Fair value measurement
as of September 30, 2014, using:							Total
Assets:
Available-for-sale investments:
U.S. Treasury securities	$	3,572	$	—	$	—	$	3,572
Other government-related debt securities:
U.S.	—		992		—		992
Foreign and other	—		1,556		—		1,556
Corporate debt securities:
Financial	—		5,910		—		5,910
Industrial	—		6,009		—		6,009
Other	—		630		—		630
Residential mortgage-backed securities	—		1,827		—		1,827
Other mortgage- and asset-backed securities	—		2,039		—		2,039
Money market mutual funds	2,386		—		—		2,386
Other short-term interest-bearing securities	—		2,661		—		2,661
Equity securities	88		—		—		88
Derivatives:
Foreign currency contracts	—		228		—		228
Cross-currency swap contracts	—		120		—		120
Interest rate swap contracts	—		18		—		18
Total assets	$	6,046	$	21,990	$	—	$	28,036

Liabilities:
Derivatives:
Foreign currency contracts	$	—	$	3	$	—	$	3
Cross-currency swap contracts	—		8		—		8
Interest rate swap contracts	—		90		—		90
Contingent consideration obligations in connection with business combinations	—		—		548		548
Total liabilities	$	—	$	101	$	548	$	649



	Quoted prices in active markets for identical assets (Level 1)		Significant other observable inputs (Level 2)		Significant unobservable inputs (Level 3)
Fair value measurement
as of December 31, 2013, using:							Total
Assets:
Available-for-sale investments:
U.S. Treasury securities	$	4,730	$	—	$	—	$	4,730
Other government-related debt securities:
U.S.	—		1,079		—		1,079
Foreign and other	—		1,546		—		1,546
Corporate debt securities:
Financial	—		3,676		—		3,676
Industrial	—		3,760		—		3,760
Other	—		390		—		390
Residential mortgage-backed securities	—		1,460		—		1,460
Other mortgage- and asset-backed securities	—		1,511		—		1,511
Money market mutual funds	3,366		—		—		3,366
Other short-term interest-bearing securities	—		750		—		750
Equity securities	95		—		—		95
Derivatives:
Foreign currency contracts	—		53		—		53
Cross-currency swap contracts	—		193		—		193
Total assets	$	8,191	$	14,418	$	—	$	22,609

Liabilities:
Derivatives:
Foreign currency contracts	$	—	$	107	$	—	$	107
Cross-currency swap contracts	—		4		—		4
Interest rate swap contracts	—		161		—		161
Contingent consideration obligations in connection with business combinations	—		—		595		595
Total liabilities	$	—	$	272	$	595	$	867

The fair values of our U.S. Treasury securities, money market mutual funds and equity securities are based on quoted market prices in active markets with no valuation adjustment.

Most of our other government-related and corporate debt securities are investment grade with maturity dates of five years or less from the balance sheet date. Our other government-related debt securities portfolio is composed of securities with weighted-average credit ratings of A by Standard & Poor's Financial Services LLC (S&P), A+ by Moody's Investor Service, Inc. (Moody's) or Fitch, Inc. (Fitch); and our corporate debt securities portfolio has a weighted-average credit rating of BBB+ by S&P or Moody's, and A- by Fitch. We estimate the fair values of these securities by taking into consideration valuations obtained from third-party pricing services. The pricing services utilize industry standard valuation models, including both income- and market-based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades of and broker/dealer quotes on the same or similar securities; issuer credit spreads; benchmark securities; and other observable inputs.

Our residential mortgage-, other mortgage- and asset-backed securities portfolio is composed entirely of senior tranches, with credit ratings of AAA by S&P, Moody's or Fitch. We estimate the fair values of these securities by taking into consideration valuations obtained from third-party pricing services. The pricing services utilize industry standard valuation models, including both income- and market-based approaches, for which all significant inputs are observable, either directly or indirectly, to estimate fair value. These inputs include reported trades of and broker/dealer quotes on the same or similar securities; issuer credit spreads; benchmark securities; prepayment/default projections based on historical data; and other observable inputs.

We value our other short-term interest-bearing securities at amortized cost, which approximates fair value given their near term maturity dates.

All of our foreign currency forward and option derivatives contracts have maturities of three years or less and all are with counterparties that have minimum credit ratings of A- or equivalent by S&P, Moody’s or Fitch. We estimated the fair values of these contracts by taking into consideration valuations obtained from a third-party valuation service that utilizes an income-based industry standard valuation model for which all significant inputs are observable, either directly or indirectly. These inputs include foreign currency rates, LIBOR cash and swap rates and obligor credit default swap rates. In addition, inputs for our foreign currency option contracts also include implied volatility measures. These inputs, where applicable, are at commonly quoted intervals. See Note 12, Derivative instruments.

Our cross-currency swap contracts are with counterparties that have minimum credit ratings of A- or equivalent by S&P, Moody’s or Fitch. We estimated the fair values of these contracts by taking into consideration valuations obtained from a third-party valuation service that utilizes an income-based industry standard valuation model for which all significant inputs are observable either directly or indirectly. These inputs include foreign currency exchange rates, LIBOR, swap rates, obligor credit default swap rates and cross-currency basis swap spreads. See Note 12, Derivative instruments.

Our interest rate swap contracts are with counterparties that have minimum credit ratings of A- or equivalent by S&P, Moody’s or Fitch. We estimated the fair values of these contracts by using an income-based industry standard valuation model for which all significant inputs were observable either directly or indirectly. These inputs included LIBOR, swap rates and obligor credit default swap rates.

Contingent consideration obligations

We have incurred contingent consideration obligations as a result of our acquisition of a business and upon the assumption of contingent consideration obligations incurred by an acquired company discussed below. These contingent consideration obligations are recorded at their estimated fair values, and we revalue these obligations each reporting period until the related contingencies are resolved. The fair value measurements of these obligations are based on significant unobservable inputs related to product candidates acquired in the business combinations and are reviewed quarterly by management in our R&D and commercial sales organizations. These inputs include, as applicable, estimated probabilities and timing of achieving specified regulatory and commercial milestones and estimated annual sales. Significant changes which increase or decrease the probabilities of achieving the related regulatory and commercial events, shorten or lengthen the time required to achieve such events, or increase or decrease estimated annual sales would result in corresponding increases or decreases in the fair values of these obligations, as applicable. Changes in fair values of contingent consideration obligations are recognized in Other operating expenses in the Condensed Consolidated Statements of Income.

The changes in carrying amounts of contingent consideration obligations were as follows (in millions):



	Three months ended September 30,					Nine months ended September 30,
	2014			2013		2014			2013
Beginning balance	$	610		$	332	$	595		$	221
Net changes in valuation	(62		)	—		(47		)	111
Ending balance	$	548		$	332	$	548		$	332

As a result of our acquisition of BioVex Group, Inc. (BioVex) in March 2011, we are obligated to pay its former shareholders up to $575 million of additional consideration contingent upon achieving separate regulatory and sales-related milestones with regard to talimogene laherparepvec, which was acquired in the acquisition. In July 2014, we submitted a Biologics License Application (BLA) in the United States for regionally and distantly metastatic melanoma. In September 2014, we submitted a Marketing Authorization Application (MAA) to the European Medicines Agency (EMA) for the treatment of adults with regionally and distantly metastatic melanoma. As a result of the U.S. filing, a $125 million milestone payment is now due to the former BioVex shareholders. The remaining potential milestone payments include: (i) $125 million upon the first commercial sale in the United States following receipt of marketing approval for use of the product in specified patient populations, (ii) $125 million upon achievement of an agreed level of worldwide sales within a specified period of time and (iii) up to $200 million of additional consideration of varying amounts upon achievement of certain other regulatory and sales-related milestones.

We estimate the fair values of the obligations to the former shareholders of BioVex by using a combination of probability-adjusted discounted cash flows, option pricing techniques and a simulation model of expected annual sales. As a result of our quarterly review of the key assumptions, the estimated aggregate fair value of the contingent consideration obligations increased by $13 million during the nine months ended September 30, 2014 to a fair value of $347 million as of September 30, 2014. There was no change in the aggregate fair value of the estimated contingent consideration obligations during the three months ended September 30, 2014.

We assumed contingent consideration obligations upon the acquisition of Onyx arising from Onyx's 2009 acquisition of Proteolix, Inc. There are two separate milestone payments of $150 million each which would be triggered if Kyprolis^® receives specified marketing approvals for relapsed multiple myeloma on or before March 31, 2016, by each of the U.S. Food and Drug Administration (FDA) and the EMA. We estimate the fair values of contingent obligations to the former shareholders of Proteolix, Inc. by using probability-adjusted discounted cash flows. During the three months ended September 30, 2014, we reduced the estimated probability of receiving marketing approval from the EMA by the date required to obligate us to make the associated milestone payment, although our assessment of the probability of receiving marketing approval from the EMA did not change. Accordingly, the estimated aggregate fair value of the contingent consideration obligations decreased by $62 million and $60 million during the three and nine months ended September 30, 2014, respectively, to a fair value of $201 million as of September 30, 2014.

There have been no transfers of assets or liabilities between the fair value measurement levels, and there were no material remeasurements to fair value during the nine months ended September 30, 2014 and 2013, of assets and liabilities that are not measured at fair value on a recurring basis, except as disclosed in Note 2, Restructuring.

Summary of the fair value of other financial instruments

Cash equivalents

The estimated fair values of cash equivalents approximate their carrying values due to the short-term nature of these financial instruments.

Borrowings

We estimated the fair value of our long-term debt (Level 2) by taking into consideration indicative prices obtained from a third-party financial institution that utilizes industry standard valuation models, including both income- and market-based approaches, for which all significant inputs are observable either directly or indirectly. These inputs include reported trades of and broker/dealer quotes on the same or similar securities; credit spreads; benchmark yields; foreign currency exchange rates, as applicable; and other observable inputs. As of September 30, 2014, and December 31, 2013, the aggregate fair values of our long-term debt were $35.3 billion and $33.5 billion, respectively, and the carrying values were $33.0 billion and $32.1 billion, respectively.

12. Derivative instruments

The Company is exposed to foreign currency exchange rate and interest rate risks related to its business operations. To reduce our risks related to these exposures, we utilize or have utilized certain derivative instruments, including foreign currency forward, foreign currency option, cross-currency swap, forward interest rate and interest rate swap contracts. We do not use derivatives for speculative trading purposes.

Cash flow hedges

We are exposed to possible changes in the values of certain anticipated foreign currency cash flows resulting from changes in foreign currency exchange rates, associated primarily with our euro-denominated international product sales. Increases and decreases in the cash flows associated with our international product sales due to movements in foreign currency exchange rates are offset partially by the corresponding increases and decreases in our international operating expenses resulting from these foreign currency exchange rate movements. To further reduce our exposure to foreign currency exchange rate fluctuations on our international product sales, we enter into foreign currency forward and option contracts to hedge a portion of our projected international product sales primarily over a three-year time horizon, with, at any given point in time, a higher percentage of nearer-term projected product sales being hedged than in successive periods. As of September 30, 2014, and December 31, 2013, we had open foreign currency forward contracts with notional amounts of $3.8 billion and $4.0 billion, respectively, and open foreign currency option contracts with notional amounts of $261 million and $516 million, respectively. These foreign currency forward and option contracts, primarily euro based, have been designated as cash flow hedges, and accordingly, the effective portions of the unrealized gains and losses on these contracts are reported in AOCI in the Condensed Consolidated Balance Sheets and reclassified to earnings in the same periods during which the hedged transactions affect earnings.

To hedge our exposure to foreign currency exchange rate risk associated with certain of our long-term notes denominated in foreign currencies, we entered into cross-currency swap contracts. Under the terms of these contracts, we paid euros/pounds sterling and received U.S. dollars for the notional amounts at the inception of the contracts, and we exchange interest payments based on these notional amounts at fixed rates over the lives of the contracts in which we pay U.S. dollars and receive euros/pounds sterling. In addition, we will pay U.S. dollars to and receive euros/pounds sterling from the counterparties at the maturities of the contracts for these same notional amounts. The terms of these contracts correspond to the related hedged notes, effectively converting the interest payments and principal repayment on these notes from euros/pounds sterling to U.S. dollars. These cross-

currency swap contracts have been designated as cash flow hedges, and accordingly, the effective portions of the unrealized gains and losses on these contracts are reported in AOCI and reclassified to earnings in the same periods during which the hedged debt affects earnings.

The notional amounts and interest rates of our cross-currency swaps are as follows (notional amounts in millions):



	Foreign currency				U.S. dollars
Hedged notes	Notional amount		Interest rate		Notional amount		Interest rate
2.125% 2019 euro Notes	€	675	2.125	%	$	864	2.6	%
5.50% 2026 pound sterling Notes	£	475	5.50	%	$	748	5.8	%
4.00% 2029 pound sterling Notes	£	700