XNYS:A Agilent Technologies Inc Quarterly Report 10-Q Filing - 7/31/2012

Effective Date 7/31/2012

XNYS:A Fair Value Estimate
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XNYS:A Consider Buying
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A-07.31.2012-10Q
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
 
(MARK ONE) 
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. 
FOR THE QUARTERLY PERIOD ENDED JULY 31, 2012 
OR 
¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. 
FOR THE TRANSITION PERIOD FROM              TO        
 COMMISSION FILE NUMBER: 001-15405
 AGILENT TECHNOLOGIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE
 
77-0518772
(State or other jurisdiction of
 
(IRS employer
incorporation or organization)
 
Identification no.)
 
 
 
5301 STEVENS CREEK BLVD.,
 
 
SANTA CLARA, CALIFORNIA
 
95051
(Address of principal executive offices)
 
(Zip Code)
 
Registrant’s telephone number, including area code: (408) 345-8886  
(Former name, former address and former fiscal year, if changed since last report) 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 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  x  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  x  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 definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in rule 12b-2 of the exchange act.
Large accelerated filer x
 
Accelerated filer ¨
 
 
 
Non-accelerated filer ¨
 
Smaller reporting company ¨
(do not check if a smaller reporting company)
 
 
 
Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the exchange act).  Yes  ¨  No  x 
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. 
CLASS
 
OUTSTANDING AT JULY, 31, 2012
COMMON STOCK, $0.01 PAR VALUE
 
348,443,140 SHARES



AGILENT TECHNOLOGIES, INC.
TABLE OF CONTENTS
 

2


PART I
— FINANCIAL INFORMATION
 
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
 
AGILENT TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(in millions, except per share amounts)
(Unaudited)
 
 
Three Months Ended
 
Nine Months Ended
 
July 31,
 
July 31,
 
2012
 
2011
 
2012
 
2011
Net revenue:
 

 
 

 
 

 
 

Products
$
1,428

 
$
1,406

 
$
4,205

 
$
4,053

Services and other
295

 
285

 
886

 
834

Total net revenue
1,723

 
1,691

 
5,091

 
4,887

Costs and expenses:
 

 
 

 
 

 
 

Cost of products
676

 
643

 
1,927

 
1,822

Cost of services and other
157

 
156

 
482

 
457

Total costs
833

 
799

 
2,409

 
2,279

Research and development
162

 
162

 
490

 
486

Selling, general and administrative
458

 
449

 
1,351

 
1,364

Total costs and expenses
1,453

 
1,410

 
4,250

 
4,129

Income from operations
270

 
281

 
841

 
758

Interest income
2

 
3

 
7

 
10

Interest expense
(24
)
 
(20
)
 
(75
)
 
(63
)
Other income (expense), net
(10
)
 
17

 
14

 
34

Income before taxes
238

 
281

 
787

 
739

Provision (benefit) for income taxes
(5
)
 
(49
)
 
59

 
16

Net income
$
243

 
$
330

 
$
728

 
$
723

 
 
 
 
 
 
 
 
Net income per share:
 

 
 

 
 

 
 

Basic
$
0.70

 
$
0.95

 
$
2.09

 
$
2.08

Diluted
$
0.69

 
$
0.92

 
$
2.06

 
$
2.04

 
 
 
 
 
 
 
 
Weighted average shares used in computing net income per share:
 

 
 

 
 

 
 

Basic
348

 
348

 
348

 
347

Diluted
353

 
357

 
353

 
355

 
 
 
 
 
 
 
 
Cash dividends declared per common share
$
0.10

 
$

 
$
0.20

 
$

 
The accompanying notes are an integral part of these condensed consolidated financial statements.


3


AGILENT TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEET
(in millions, except par value and share amounts)
(Unaudited)
 
July 31,
2012
 
October 31,
2011
ASSETS
 

 
 

Current assets:
 

 
 

Cash and cash equivalents
$
1,923

 
$
3,527

Accounts receivable, net
950

 
860

Inventory
1,036

 
898

Other current assets
302

 
284

Total current assets
4,211

 
5,569

Property, plant and equipment, net
1,139

 
1,006

Goodwill
2,950

 
1,567

Other intangible assets, net
1,085

 
429

Long-term investments
104

 
117

Other assets
268

 
369

Total assets
$
9,757

 
$
9,057

LIABILITIES AND EQUITY
 

 
 

Current liabilities:
 

 
 

Accounts payable
$
492

 
$
472

Employee compensation and benefits
331

 
424

Deferred revenue
435

 
389

Short-term debt
500

 
253

Other accrued liabilities
332

 
299

Total current liabilities
2,090

 
1,837

Long-term debt
1,714

 
1,932

Retirement and post-retirement benefits
269

 
329

Other long-term liabilities
811

 
643

Total liabilities
4,884

 
4,741

Commitments and contingencies (Note 12)

 

Total equity:
 

 
 

Stockholders’ equity:
 

 
 

Preferred stock; $0.01 par value; 125 million shares authorized; none issued and outstanding

 

Common stock; $0.01 par value; 2 billion shares authorized; 595 million shares at July 31, 2012 and 591 million shares at October 31, 2011, issued
6

 
6

Treasury stock at cost; 246 million shares at July 31, 2012 and 244 million shares at October 31, 2011
(8,612
)
 
(8,535
)
Additional paid-in-capital
8,397

 
8,265

Retained earnings
5,114

 
4,456

Accumulated other comprehensive income (loss)
(35
)
 
116

Total stockholders' equity
4,870

 
4,308

Non-controlling interest
3

 
8

Total equity
4,873

 
4,316

Total liabilities and equity
$
9,757

 
$
9,057

 
The accompanying notes are an integral part of these condensed consolidated financial statements.

4


AGILENT TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(in millions)
(Unaudited)
 
 
Nine Months Ended
 
July 31,
 
2012
 
2011
Cash flows from operating activities:
 

 
 

Net income
$
728

 
$
723

Adjustments to reconcile net income to net cash provided by (used in) operating activities:
 

 
 

Depreciation and amortization
207

 
190

Share-based compensation
59

 
58

Deferred taxes
2

 
30

Excess and obsolete inventory and inventory-related charges
20

 
20

Other non-cash expenses, net
2

 
9

Changes in assets and liabilities:
 

 
 

Accounts receivable
(22
)
 
(31
)
Inventory
(74
)
 
(192
)
Accounts payable
(1
)
 
(36
)
Employee compensation and benefits
(105
)
 
(56
)
Interest swap proceeds

 
31

Other assets and liabilities
(73
)
 
4

Net cash provided by operating activities
743

 
750

Cash flows from investing activities:
 

 
 

Investments in property, plant and equipment
(132
)
 
(138
)
Proceeds from lease receivable
80

 

Proceeds from sale of property, plant and equipment

 
17

Proceeds from sale of investments
5

 
14

Purchase of non-controlling interest
(6
)
 

Acquisitions of businesses and intangible assets, net of cash acquired
(2,227
)
 
(96
)
Change in restricted cash and cash equivalents, net

 
1,545

Net cash provided by (used in) investing activities
(2,280
)
 
1,342

Cash flows from financing activities:
 

 
 

Issuance of common stock under employee stock plans
90

 
299

Payment of dividends
(70
)
 

Repayment of debt

 
(1,500
)
Repayment of credit facility
(1
)
 

Treasury stock repurchases
(78
)
 
(462
)
Net cash used in financing activities
(59
)
 
(1,663
)
 
 
 
 
Effect of exchange rate movements
(8
)
 
23

 
 
 
 
Net increase (decrease) in cash and cash equivalents
(1,604
)
 
452

 
 
 
 
Cash and cash equivalents at beginning of period
3,527

 
2,649

Cash and cash equivalents at end of period
$
1,923

 
$
3,101

 The accompanying notes are an integral part of these condensed consolidated financial statements.

5


AGILENT TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)

1.
OVERVIEW, BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
 
Overview. Agilent Technologies, Inc. (“we”, “Agilent” or the “company”), incorporated in Delaware in May 1999, is a measurement company, providing core bio-analytical and electronic measurement solutions to the life sciences, chemical analysis, diagnostics and genomics, communications and electronics industries.
 
Our fiscal year-end is October 31, and our fiscal quarters end on January 31, April 30 and July 31. Unless otherwise stated, all dates refer to our fiscal year and fiscal quarters.
 
Acquisition of Dako A/S. On June 21, 2012, we completed the previously announced acquisition of Dako A/S through the acquisition of 100% of the share capital of Dako A/S, a limited liability company incorporated under the laws of Denmark (“Dako”) , under the share purchase agreement, dated May 16, 2012. As a result of the acquisition, Dako has become a wholly-owned subsidiary of Agilent. The consideration paid was approximately $2,144 million, of which $1,401 million was paid directly to the seller and $743 million was paid to satisfy the outstanding debt of Dako. Agilent funded the acquisition using our existing cash. The acquisition has been accounted for in accordance with the authoritative accounting guidance and the results of Dako are included in Agilent's consolidated financial statements from the date of acquisition. For additional details related to the acquisition of Dako, see Note 3, "Acquisition of Dako".

Basis of Presentation. We have prepared the accompanying financial data for the three and nine months ended July 31, 2012 and 2011 pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles (“GAAP”) in the U.S. have been condensed or omitted pursuant to such rules and regulations. The following discussion should be read in conjunction with our Annual Report on Form 10-K.
 
In the opinion of management, the accompanying condensed consolidated financial statements contain all normal and recurring adjustments necessary to present fairly our condensed consolidated balance sheet as of July 31, 2012 and October 31, 2011, condensed consolidated statement of operations for the three and nine months ended July 31, 2012 and 2011, and condensed consolidated statement of cash flows for the nine months ended July 31, 2012 and 2011.
 
The preparation of condensed consolidated financial statements in accordance with GAAP in the U.S. requires management to make estimates and assumptions that affect the amounts reported in our condensed consolidated financial statements and accompanying notes. Management bases its estimates on historical experience and various other assumptions believed to be reasonable. Although these estimates are based on management’s best knowledge of current events and actions that may impact the company in the future, actual results may be different from the estimates. Our critical accounting policies are those that affect our financial statements materially and involve difficult, subjective or complex judgments by management. Those policies are revenue recognition, inventory valuation, share-based compensation, retirement and post-retirement benefit plan assumptions, goodwill and purchased intangible assets, restructuring and asset impairment charges and accounting for income taxes.

In the third quarter of 2012, we formed a new operating segment. The new diagnostics and genomics segment was formed from a portion of our pre-existing life sciences business plus the business of the recent acquisition of Dako. Following this reorganization, Agilent has four business segments comprised of the life sciences business, the chemical analysis business, the diagnostics and genomics business and the electronic measurement business. The historical segment numbers for both life sciences and diagnostics and genomics segments have been recast to conform to this new reporting structure in our financial statements.

Update to Significant Accounting Policies. There have been no material changes to our significant accounting policies, as compared to the significant accounting policies described in our Annual Report on Form 10-K for the fiscal year ended October 31, 2011.

Fair Value of Financial Instruments. The carrying values of certain of our financial instruments including cash and cash equivalents, accounts receivable, accounts payable,  accrued compensation and other accrued liabilities approximate fair value because of their short maturities. The fair value of long-term equity investments is determined using quoted market prices for those securities when available. For those long-term equity investments accounted for under the cost method, their carrying value approximates their estimated fair value. The fair value of our short-term and long-term debt, calculated from quoted

6


prices which are primarily Level 1 inputs under the accounting guidance fair value hierarchy, exceeds the balance sheet carrying value by approximately $5 million and $193 million, respectively as of July 31, 2012. The fair value of foreign currency contracts used for hedging purposes is estimated internally by using inputs tied to active markets. These inputs, for example, interest rate yield curves, foreign exchange rates, and forward and spot prices for currencies are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. See also Note 9, “Fair Value Measurements” for additional information on the fair value of financial instruments.
 
Goodwill and Purchased Intangible Assets.  In September 2011, the FASB approved changes to the goodwill impairment guidance which are intended to reduce the cost and complexity of the annual impairment test. The changes provide entities an option to perform a qualitative assessment to determine whether further impairment testing is necessary. The revised standard gives an entity the option to first assess qualitative factors to determine whether performing the current two-step test is necessary. If an entity believes, as a result of its qualitative assessment, that it is more-likely-than-not (i.e. greater than 50% chance) that the fair value of a reporting unit is less than its carrying amount, the quantitative impairment test will be required. Otherwise, no further testing will be required.
 
The revised guidance includes examples of events and circumstances that might indicate that a reporting unit’s fair value is less than its carrying amount. These include macro-economic conditions such as deterioration in the entity’s operating environment or industry or market considerations; entity-specific events such as increasing costs, declining financial performance, or loss of key personnel; or other events such as an expectation that a reporting unit will be sold or a sustained decrease in the stock price on either an absolute basis or relative to peers.

The changes were effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. However, earlier adoption is permitted. Agilent opted to early adopt this guidance for the year ended October 31, 2011.
 
If it is determined, as a result of the qualitative assessment, that it is more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, the provisions of authoritative guidance require that we perform a two-step impairment test on goodwill. In the first step, we compare the fair value of each reporting unit to its carrying value. The second step (if necessary) measures the amount of impairment by applying fair-value-based tests to the individual assets and liabilities within each reporting unit. As defined in the authoritative guidance, a reporting unit is an operating segment, or one level below an operating segment. We have aggregated components of an operating segment that have similar economic characteristics into our reporting units. With the acquisition of Dako, Agilent created a fourth reporting unit named diagnostics and genomics. At the time of the annual qualitative assessment, we had three reporting units, which were: life sciences, chemical analysis and electronic measurement. At the time of an acquisition, we assign goodwill to the reporting unit that is expected to benefit from the synergies of the combination. Based on our results of our qualitative test for goodwill impairment, as of September 30, 2011, we believe that it is more-likely-than-not that the fair value of each of the life sciences, chemical analysis and electronic measurement reporting units was greater than their respective carrying values. There was no impairment of goodwill during the three and nine months ended July 31, 2012 and 2011. In connection with our reporting unit change, no goodwill impairment was recorded.
 
Purchased intangible assets consist primarily of acquired developed technologies, proprietary know-how, trademarks, and customer relationships and are amortized over estimated useful lives ranging from 6 months to 15 years. In process research and development (“IPR&D”) is initially capitalized at fair value as an intangible asset with an indefinite life and assessed for impairment thereafter. When the IPR&D project is complete, it is reclassified as an amortizable purchased intangible asset and is amortized over its estimated useful life. If an IPR&D project is abandoned, Agilent will record a charge for the value of the related intangible asset to Agilent’s consolidated statement of operations in the period it is abandoned.
 
2.
NEW ACCOUNTING PRONOUNCEMENTS
 
In January 2010, the Financial Accounting Standards Board (“FASB”) issued guidance that requires new disclosures for fair value measurements and provides clarification for existing disclosure requirements. The guidance is effective for interim and annual periods beginning after December 15, 2009, except for gross presentation of activity in level 3 which is effective for annual periods beginning after December 15, 2010, and for interim periods in those years. We adopted the guidance for new disclosures for fair value measurements and clarification for existing disclosure requirements as of February 1, 2010 and there was no material impact on our consolidated financial statements. Additionally, we adopted the guidance regarding level 3 activity on November 1, 2011 and there was no material impact to our consolidated financial statements. See Note 9, “Fair Value Measurements” for additional information on the fair value of financial instruments.
 
In May 2011, the FASB amended fair value measurement and disclosure guidance to achieve convergence with

7


International Financial Reporting Standards (“IFRS”). The amended guidance modifies the measurement of fair value, clarifies verbiage, and changes disclosure or other requirements in US GAAP and IFRS. The guidance is effective during interim and annual periods beginning after December 15, 2011. We adopted the guidance as of February 1, 2012 and there was no material impact on our consolidated financial statements.
 
In June 2011, the FASB issued guidance related to the presentation of comprehensive income. The guidance aims to improve the comparability, consistency, and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income. The guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. We expect to make presentational changes to our consolidated financial statements upon adoption of this guidance. Given that this guidance impacts financial statement presentation requirements only, its adoption will not have a material impact on our consolidated financial statements.
 
In December 2011, the FASB issued guidance related to the enhanced disclosures that will enable the users of financial statements to evaluate the effect or potential effect of netting arrangements of an entity's financial position. The amendments require improved information about financial instruments and derivative instruments that are either offset or subject to enforceable master netting arrangements or similar agreement. The guidance is effective for annual reporting periods beginning on or after January 1, 2013, and interim periods within those annual periods. We do not expect a material impact to our consolidated financial statements due to the adoption of this guidance.

In July 2012, the FASB simplified the guidance for testing for impairment of indefinite-lived intangible assets other than goodwill. The changes are intended to reduce compliance costs. Agilent's indefinite-lived intangible assets are the in process research and development intangible assets. The revised guidance allows a qualitative approach for testing indefinite-lived intangible assets for impairment, similar to the recently issued impairment testing guidance for goodwill and allows the option to first assess qualitative factors (events and circumstances) that could have affected the significant inputs used in determining the fair value of the indefinite-lived intangible asset to determine whether it is more likely than not (meaning a likelihood of more than 50 percent) that the indefinite-lived intangible asset is impaired. An organization may choose to bypass the qualitative assessment for any indefinite-lived intangible asset in any period and proceed directly to calculating its fair value.  The amendments are effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012. Early adoption is permitted.  Agilent will early adopt this guidance for the year ended October 31, 2012. There was no material impact on our consolidated financial statements due to the adoption of this guidance.

3.
ACQUISITION OF DAKO

On June 21, 2012, we completed the previously announced acquisition of Dako through the acquisition of 100% of share capital of Dako, a limited liability company incorporated under the laws of Denmark, under the share purchase agreement, dated May 16, 2012. As a result of the acquisition, Dako has become a wholly-owned subsidiary of Agilent. Accordingly, the results of Dako are included in Agilent's consolidated financial statements from the date of the acquisition. For the period from June 22, 2012 to July 31, 2012, Dako's net revenue was $40 million and net income was not material. The acquisition of Dako and its portfolio is another step to increase our growth in several rapidly expanding areas of diagnostics, including anatomic pathology and molecular diagnostics, as well as strengthen our existing offerings with a focus on product development to help in the fight against cancer.

The consideration paid was approximately $2,144 million, of which $1,401 million was paid directly to the seller and $743 million was paid to satisfy outstanding debt. Agilent funded the acquisition using our existing cash. In connection with the acquisition of Dako, Agilent entered into several foreign currency forward contracts to mitigate the currency exchange risk associated with the payment of the purchase price in Danish Krone and the repayment of debt in multiple currencies. The aggregate notional amount of the currencies hedged was $1.7 billion. These foreign exchange contracts did not qualify for hedge accounting treatment and were not designated as hedging instruments. The resulting loss on settlement, on the date of acquisition, was $14 million and was recorded in other income (expense) in the condensed consolidated statement of operations in the three and nine months ended July 31, 2012.

The Dako acquisition was accounted for in accordance with the authoritative accounting guidance. The acquired assets and assumed liabilities were recorded by Agilent at their estimated fair values. Agilent determined the estimated fair values with the assistance of appraisals or valuations performed by independent third party specialists, discounted cash flow analyses, and estimates made by management. We expect to realize revenue synergies, leverage and expand the existing sales channels and product development resources, and utilize the assembled workforce. The company also anticipates opportunities for growth through expanded geographic and customer segment diversity and the ability to leverage additional products and capabilities. These factors, among others, contributed to a purchase price in excess of the estimated fair value of Dako's net identifiable assets acquired (see summary of net assets below), and, as a result, we have recorded goodwill in connection with

8


this transaction.
 
Goodwill acquired was allocated to our operating segments and reporting units as a part of the purchase price allocation. All goodwill was allocated to the diagnostics and genomics reporting unit. We do not expect the goodwill recognized to be deductible for income tax purposes. Any impairment charges made in the future associated with goodwill will not be tax deductible.

A portion of the overall purchase price was allocated to acquired intangible assets. Amortization expense associated with acquired intangible assets is not deductible for tax purposes. Therefore, approximately $185 million was established as a deferred tax liability for the future amortization of these intangibles.
 
The following table summarizes the preliminary allocation of the purchase price to the estimated fair values of the assets acquired and liabilities assumed on the closing date of June 21, 2012 (in millions):
 
Cash and cash equivalents
 
$
11

Accounts receivable
 
97

Inventories
 
91

Other current assets
 
5

Property, plant and equipment
 
140

Intangible assets
 
738

Other assets
 
14

Goodwill
 
1,384

Total assets acquired
 
2,480

Accounts payable
 
(24
)
Employee compensation and benefits
 
(24
)
Other accrued liabilities
 
(47
)
Long-term debt
 
(43
)
Other long-term liabilities
 
(198
)
Net assets acquired
 
$
2,144

 
The fair value of cash and cash equivalents, accounts receivable, other current assets, accounts payable and other accrued liabilities were generally determined using historical carrying values given the short-term nature of these assets and liabilities.
 
The fair values for acquired inventory, property, plant and equipment, and intangible assets were determined with the assistance of valuations performed by independent valuation specialists.
 
The fair values of certain other assets, long-term debt, and certain other long-term liabilities were determined internally using historical carrying values and estimates made by management.
 
The amounts above are considered preliminary and are subject to change once Agilent finalizes its determination of the fair value of assets acquired and liabilities assumed under the acquisition method. Thus, these amounts are subject to refinement and final determination of the values of assets acquired and liabilities assumed may result in adjustments to the values presented above and a corresponding adjustment to goodwill.

 

9


Valuations of intangible assets acquired
 
The components of intangible assets acquired in connection with the Dako acquisition were as follows (in millions):
 
 
Fair Value

Estimated
Useful Life
 
 
 
 
Developed product technology
$
287

 
8 - 9 yrs
Customer relationships
140

 
4 yrs
Tradenames and trademarks
128

 
12 yrs
Total intangible assets subject to amortization
555

 
 
In-process research and development
183

 
 
Total intangible assets
$
738

 
 
 
Acquisition and integration costs directly related to the Dako acquisition totaled $13 million for the three and nine months ended July 31, 2012 and were recorded in selling, general and administrative expenses. Such costs are expensed in accordance with the authoritative accounting guidance.
 
The following represents pro forma operating results as if Dako had been included in the company's condensed consolidated statements of operations as of the beginning of 2011(in millions, except per share amounts):
 


Three Months Ended

Nine Months Ended

July 31,

July 31,
 
2012

2011

2012

2011
 

Net revenue
$
1,783


$
1,777


$
5,333


$
5,153

Net income
$
252


$
312


$
707


$
640

Net income per share - basic
$
0.72


$
0.90


$
2.03


$
1.84

Net income per share - diluted
$
0.71


$
0.87


$
2.00


$
1.80


 
The pro forma financial information assumes that the companies were combined as of November 1, 2010 and include business combination accounting effects from the acquisition including amortization charges from acquired intangible assets and an increase in cost of sales due to the respective estimated fair value adjustments to inventory, decrease to interest income for cash used in the acquisition, decrease in interest expense and currency losses associated with debt paid in connection with the acquisition, acquisition related transaction costs and tax related effects. The pro forma information as presented above is for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisition had taken place at the beginning of fiscal 2011.
 
The unaudited pro forma financial information for the three months ended July 31, 2012 combine the historical results of Agilent for the three months ended July 31, 2012 (which includes Dako after the acquisition date) and for Dako for the two months ended May 31, 2012.  The unaudited pro forma financial information for the nine months ended July 31, 2012 combine the historical results of Agilent for the nine months ended July 31, 2012 (which include Dako after the acquisition date) and the historical results of Dako for the six months ended March 31, 2012 and the two months ended May 31, 2012.
 
The unaudited pro forma financial information for the three and nine months ended July 31, 2011 combine the historical results of Agilent for the three and nine months ended July 31, 2011 and the historical results for Dako for the three and nine months ended September 30 , 2011 (due to differences in reporting periods).

4.     SHARE-BASED COMPENSATION
 
Agilent accounts for share-based awards in accordance with the provisions of the authoritative accounting guidance which requires the measurement and recognition of compensation expense for all share-based payment awards made to our employees and directors including employee stock option awards, restricted stock units, employee stock purchases made under

10


our employee stock purchase plan (“ESPP”) and performance share awards granted to selected members of our senior management under the long-term performance plan (“LTPP”) based on estimated fair values.
 
The impact on our results for share-based compensation was as follows:
 

Three Months Ended

Nine Months Ended

July 31,

July 31,
 
2012

2011

2012

2011
 
(in millions)
Cost of products and services
$
2


$
3


$
12


$
13

Research and development
2


2


8


8

Selling, general and administrative
11


11


40


39

Total share-based compensation expense
$
15


$
16


$
60


$
60

 
At July 31, 2012 there was no share-based compensation capitalized within inventory. The windfall tax benefit realized from exercised stock options and similar awards was not material for the three and nine months ended July 31, 2012 and 2011.
 
The following assumptions were used to estimate the fair value of the options and LTPP grants.
 
 
Three Months Ended
 
Nine Months Ended
 
July 31,
 
July 31,
 
2012
 
2011
 
2012
 
2011
Stock Option Plans:
 

 
 

 
 

 
 

Weighted average risk-free interest rate

 

 
0.9
%
 
1.5
%
Dividend yield

 

 
0
%
 
0
%
Weighted average volatility

 

 
38
%
 
35
%
Expected life

 

 
5.8yrs

 
5.8yrs

LTPP:
 
 
 
 
 
 
 
Volatility of Agilent shares
41
%
 

 
41
%
 
40
%
Volatility of selected peer-company shares
17%-75%

 

 
17%-75%

 
20%-76%

Price-wise correlation with selected peers
62
%
 

 
62
%
 
55
%
 
The fair value of share-based awards for employee stock option awards was estimated using the Black-Scholes option pricing model. Shares granted under the LTPP were valued using a Monte Carlo simulation model. Both the Black-Scholes and Monte Carlo simulation fair value models require the use of highly subjective and complex assumptions, including the option’s expected life and the price volatility of the underlying stock. The estimated fair value of restricted stock unit awards is determined based on the market price of Agilent’s common stock on the date of grant adjusted for expected dividend yield.  On January 17, 2012, the company’s Board of Directors approved the initiation of quarterly cash dividends to the company’s shareholders. The fair value of all the awards granted prior to the declaration of quarterly cash dividend was measured based on an expected dividend yield of 0%. The ESPP allows eligible employees to purchase shares of our common stock at 85 percent of the purchase price and uses the purchase date to establish the fair market value.
 
We use historical volatility to estimate the expected stock price volatility assumption for employee stock option awards. In reaching the conclusion, we have considered many factors including the extent to which our options are currently traded and our ability to find traded options in the current market with similar terms and prices to the options we are valuing. In estimating the expected life of our options granted we considered the historical option exercise behavior of our executives, which we believe is representative of future behavior.
 
5.
PROVISION FOR INCOME TAXES
 
For the three and nine months ended July 31, 2012, we recorded an income tax benefit of $5 million and an income tax expense of $59 million compared to an income tax benefit of $49 million and an income tax expense of $16 million, respectively, for the same periods last year. The income tax provision for the three and nine months ended July 31, 2012 includes net discrete tax benefits of $27 million and $13 million, respectively. The net discrete tax benefits primarily relate to

11


favorable tax settlements and lapses of statutes of limitations in foreign jurisdictions. The income tax provision for the three and nine months ended July 31, 2011 includes net discrete tax benefits of $72 million and $55 million, respectively, and are primarily associated with the recognition of previously unrecognized tax benefits and the reversal of the related interest accruals due to the reassessment of certain foreign uncertain tax positions. 
 
Without considering interest and penalties, the effective tax rate reflects taxes in all jurisdictions except the U.S. and foreign jurisdictions in which income tax expense or benefit continues to be offset by adjustments to valuation allowances. Our effective tax rate is affected by foreign tax credits, the expected level of other tax benefits, the effects of business acquisitions and dispositions, the impact of changes to valuation allowances, changes in other comprehensive income, as well as changes in the mix of income and losses in the jurisdictions in which we operate that have varying statutory rates. As of July 31, 2012, we intend to maintain valuation allowances in these jurisdictions until sufficient positive evidence exists to support reversal. We currently have a valuation allowance of $338 million of which $271 million relates to U.S. jurisdictions. Due to improvements in the U.S. operating results over the past three years, management believes a reasonable possibility exists that, in the near future, sufficient positive evidence may become available to reach a conclusion that all or some portion of the U.S. valuation allowance will no longer be needed.
 
In the U.S., tax years remain open back to the year 2006 for federal income tax purposes and the year 2000 for significant states.  In 2011, Agilent and the Internal Revenue Service (“IRS”) reached an agreement on transfer pricing issues covering years 2003 — 2007.  Tax adjustments resulting from these agreements will be offset with net operating losses and tax credit carryforwards.  Agilent’s U.S. federal income tax returns for 2006 through 2007 are currently under audit by the IRS.  During the three months ended July 31, 2012, we received a Revenue Agents Report (“RAR”) for these years and filed a protest to dispute certain adjustments. In other major jurisdictions where we conduct business, the tax years generally remain open back to the year 2003.  With these jurisdictions and the U.S., it is possible that there could be significant changes to our unrecognized tax benefits in the next twelve months due to either the expiration of a statute of limitation or a tax audit settlement.  Because of the uncertainty as to the timing of a potential settlement or the completion of tax audits, an estimate cannot be made of the range of tax increases or decreases that could occur in the next twelve months.
 
6.    NET INCOME PER SHARE
 
The following is a reconciliation of the numerator and denominator of the basic and diluted net income per share computations for the periods presented below:
 
 
Three Months Ended
 
Nine Months Ended
 
July 31,
 
July 31,
 
2012
 
2011
 
2012
 
2011
 
(in millions)
Numerator:
 

 
 

 
 

 
 

Net income
$
243

 
$
330

 
$
728

 
$
723

Denominator:

 
 
 


 


Basic weighted-average shares
348

 
348

 
348

 
347

Potentially dilutive common stock equivalents — stock options and other employee stock plans
5

 
9

 
5

 
8

Diluted weighted-average shares
353

 
357

 
353

 
355

 
The dilutive effect of share-based awards is reflected in diluted net income per share by application of the treasury stock method, which includes consideration of unamortized share-based compensation expense and the dilutive effect of in-the-money options and non-vested restricted stock units. Under the treasury stock method, the amount the employee must pay for exercising stock options and unamortized share-based compensation expense are assumed proceeds to be used to repurchase hypothetical shares. An increase in the fair market value of the company’s common stock can result in a greater dilutive effect from potentially dilutive awards.
 
For the three and nine months ended July 31, 2012, options to purchase 10,500 shares and 578,485 shares, respectively, were excluded from the calculation of diluted earnings per share as their effect was anti-dilutive. For the three and nine months ended July 31, 2011, no options to purchase shares were excluded from the calculation of diluted earnings per share.
 



12


7.    INVENTORY
 
 
July 31, 2012
 
October 31, 2011
 
 
 
 
 
(in millions)
Finished goods
$
531

 
$
452

Purchased parts and fabricated assemblies
505

 
446

Inventory
$
1,036

 
$
898


8.    GOODWILL AND OTHER INTANGIBLE ASSETS
 
The following table presents goodwill balances and the movements for each of our reportable segments during the nine months ended July 31, 2012:
 
 
Life Sciences
 
Chemical  Analysis
 
Diagnostics and Genomics
 
Electronic
Measurement
 
Total
 
(in millions)
Goodwill as of October 31, 2011
$
319

 
$
765

 
$
48

 
$
435

 
$
1,567

Foreign currency translation impact
(4
)
 
(10
)
 
(41
)
 
(7
)
 
(62
)
Goodwill arising from acquisitions
31

 
1

 
1,388

 
25

 
1,445

Goodwill as of July 31, 2012
$
346

 
$
756

 
$
1,395

 
$
453

 
$
2,950

 
The components of other intangibles as of July 31, 2012 and October 31, 2011 are shown in the table below:
 
 
Purchased Other Intangible Assets
 
Gross
Carrying
Amount
 
Accumulated
Amortization
and
Impairments
 
Net Book
Value
 
(in millions)
As of October 31, 2011:
 

 
 

 
 

Purchased technology
$
510

 
$
246

 
$
264

Backlog
12

 
12

 

Trademark/Tradename
40

 
20

 
20

Customer relationships
249

 
114

 
135

Total amortizable intangible assets
811

 
392

 
419

In-Process R&D
10

 

 
10

Total
$
821

 
$
392

 
$
429

As of July 31, 2012:
 

 
 

 
 

Purchased technology
809

 
299

 
510

Backlog
14

 
13

 
1

Trademark/Tradename
168

 
28

 
140

Customer relationships
381

 
136

 
245

Total amortizable intangible assets
1,372

 
476

 
896

In-Process R&D
189

 

 
189

Total
$
1,561

 
$
476

 
$
1,085

 
During the three and nine months ended July 31, 2012, we recorded additions to goodwill of $1,392 million and $1,445 million, respectively, related to the purchase of eight businesses including Dako which is discussed in Note 3, "Acquisition of Dako". During the three and nine months ended July 31, 2011, we recorded additions to goodwill of zero and $64 million,

13


respectively. During the three and nine months ended July 31, 2012, we recorded additions to other intangible assets of $744 million and $768 million, respectively, related to the purchase of eight businesses during the year. During the three and nine months ended July 31, 2011, we recorded additions to other intangible assets of zero and $42 million, respectively. During the nine months ended July 31, 2012 , we also reduced intangible assets by $28 million due to the impact of foreign exchange translation. In the nine months ended July 31, 2011 we increased intangible assets by $14 million due to the impact of foreign exchange translation.

Amortization of intangible assets was $31 million and $84 million for the three and nine months ended July 31, 2012, respectively.  Amortization and impairment of intangible assets was $29 million and $85 million for the three and nine months ended July 31, 2011, respectively. Future amortization expense related to existing purchased intangible assets is estimated to be $50 million for the remainder of 2012, $179 million for 2013, $165 million for 2014, $146 million for 2015, $119 million for 2016, $75 million for 2017, and $351 million thereafter.
 
9.    FAIR VALUE MEASUREMENTS
 
The authoritative guidance defines fair value as the price that would be received from selling an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.

Fair Value Hierarchy
 
The guidance establishes a fair value hierarchy that prioritizes the use of inputs used in valuation techniques into three levels. A financial instrument’s categorization within the fair value hierarchy is based upon the lowest level of input that is significant to the fair value measurement. There are three levels of inputs that may be used to measure fair value:
 
Level 1- applies to assets or liabilities for which there are quoted prices in active markets for identical assets or liabilities.
 
Level 2- applies to assets or liabilities for which there are inputs other than quoted prices included within level 1 that are observable, either directly or indirectly, for the asset or liability such as: quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in less active markets; or other inputs that can be derived principally from, or corroborated by, observable market data.
 
Level 3- applies to assets or liabilities for which there are unobservable inputs to the valuation methodology that are significant to the measurement of the fair value of the assets or liabilities.
 


























14


Assets and Liabilities Measured at Fair Value on a Recurring Basis
 
Assets and liabilities measured at fair value on a recurring basis as of July 31, 2012 were as follows:
 
 
 
 
Fair Value Measurement at July 31, 2012 Using
 
July 31, 2012
 
Quoted Prices
 in Active
 Markets for
 Identical Assets
 (Level 1)
 
Significant
 Other
 Observable
 Inputs
 (Level 2)
 
Significant
 Unobservable
 Inputs
 (Level 3)
 
(in millions)
Assets:
 

 
 

 
 

 
 

Short-term
 

 
 

 
 

 
 

Cash equivalents (money market funds)
$
1,302

 
$
1,302

 
$

 
$

Derivative instruments (foreign exchange contracts)
14

 

 
14

 

Long-term
 
 
 
 
 
 
 
Trading securities
47

 
47

 

 

Total assets measured at fair value
$
1,363

 
$
1,349

 
$
14

 
$

Liabilities:
 

 
 

 
 

 
 

Short-term
 
 
 
 
 
 
 
Derivative instruments (primarily foreign exchange contracts)
$
14

 
$

 
$
14

 
$

Long-term
 
 
 
 
 
 
 
Deferred compensation liability
46

 

 
46

 

Total liabilities measured at fair value
$
60

 
$

 
$
60

 
$



Assets and liabilities measured at fair value on a recurring basis as of October 31, 2011were as follows:
 
 
 
 
Fair Value Measurement at October 31, 2011 Using
 
October 31, 2011
 
Quoted Prices
 in Active
 Markets for
 Identical Assets
 (Level 1)
 
Significant
 Other
 Observable
 Inputs
 (Level 2)
 
Significant
 Unobservable
 Inputs
 (Level 3)
 
(in millions)
Assets:
 

 
 

 
 

 
 

Short-term
 

 
 

 
 

 
 

Cash equivalents (money market funds)
$
1,972

 
$
1,972

 
$

 
$

Derivative instruments (foreign exchange and interest rate swap contracts)
37

 

 
37

 

Long-term
 
 
 
 
 
 
 
Trading securities
49

 
49

 

 

Available-for-sale investments
3

 
3

 

 

Total assets measured at fair value
$
2,061

 
$
2,024

 
$
37

 
$

Liabilities:
 

 
 

 
 

 
 

Short-term
 
 
 
 
 
 
 
Derivative instruments (foreign exchange contracts)
$
11

 
$

 
$
11

 
$

Long-term
 
 
 
 
 
 
 
Deferred compensation liability
46

 

 
46

 

Total liabilities measured at fair value
$
57

 
$

 
$
57

 
$

 

15


Our money market funds, trading securities investments and available-for-sale investments are generally valued using quoted market prices and therefore are classified within level 1 of the fair value hierarchy. Our derivative financial instruments are classified within level 2, as there is not an active market for each hedge contract, but the inputs used to calculate the value of the instruments are tied to active markets. Our deferred compensation liability is classified as level 2 because although the values are not directly based on quoted market prices, the inputs used in the calculations are observable.
 
Trading securities and deferred compensation liability are reported at fair value, with gains or losses resulting from changes in fair value recognized currently in net income. Investments designated as available-for-sale and certain derivative instruments are reported at fair value, with unrealized gains and losses, net of tax, included in stockholders’ equity. Realized gains and losses from the sale of these instruments are recorded in net income.
 
Impairment of Investments. There were no impairments for investments for the three and nine months ended July 31, 2012 and 2011.
 
Assets and Liabilities Measured at Fair Value on a Non-Recurring Basis
 
Long-Lived Assets
 
For assets measured at fair value on a non-recurring basis, the following table summarizes the impairments included in net income during the three and nine months ended July 31, 2012 and 2011:
 
 
Three Months Ended
 
Nine Months Ended
 
July 31,
 
July 31,
 
2012
 
2011
 
2012
 
2011
 
(in millions)
Long-lived assets held and used
$

 
$
3

 
$

 
$
7

Long-lived assets held for sale

 

 

 
1

 
There were no impairments of long-lived assets for the three and nine months ended July 31, 2012. For the three months ended July 31, 2011, long-lived assets held and used with a carrying value of $4 million were written down to their fair value of $1 million. For the nine months ended July 31, 2011, long-lived assets held and used with a carrying value of $8 million were written down to their fair value of $1 million. For the three months ended July 31, 2011, there were no impairments of long-lived assets held for sale. For the nine months ended July 31, 2011, long-lived assets held for sale with a carrying value of $4 million were written down to their fair value of $3 million. Fair value for the impaired long-lived assets was measured using level 2 inputs and impairments were included in net income for the period stated.

For the three and nine months ended July 31, 2012, we recorded $(15) million of accelerated depreciation related to a building classified as held and used at July 31, 2012. In accordance with accounting guidance, it was determined that the building had been abandoned and an assessment was made of the remaining useful life of the building. The building was written down to its appropriate fair value.

Investments in Leases
 
In December 2011, we terminated our leasehold interest in the municipal properties, received $80 million in cash and recognized a loss of approximately $2 million.
 
10.    DERIVATIVES
 
We are exposed to foreign currency exchange rate fluctuations and interest rate changes in the normal course of our business. As part of risk management strategy, we use derivative instruments, primarily forward contracts, purchased options, and interest rate swaps, to hedge economic and/or accounting exposures resulting from changes in foreign currency exchange rates and interest rates.
 
Fair Value Hedges
 
We are exposed to interest rate risk due to the mismatch between the interest expense we pay on our loans at fixed rates and the variable rates of interest we receive from cash, cash equivalents and other short-term investments. We have issued long-

16


term debt in U.S. dollars at fixed interest rates based on the market conditions at the time of financing. We believe that the fair value of our fixed rate debt changes when the underlying market rates of interest change, and we may use interest rate swaps to modify such market risk. The interest rate swaps effectively change our fixed interest rate payments to U.S. dollar LIBOR-based variable interest expense to match the floating interest income from our cash, cash equivalents and other short term investments. By entering into these interest rate swaps we are also hedging the movements in the fair value of the fixed-rate debt on our balance sheet. However, not all of our fixed rate debt’s fair value is hedged in this manner, and in the future we may choose to terminate previously executed swaps. For derivative instruments that are designated and qualify as fair value hedges, we recognize the gain or loss on the derivative instrument, as well as the offsetting loss or gain on the hedged item attributable to the hedged risk, in interest expense, in the consolidated statement of operations. These fair value hedges are 100 percent effective, and there is no impact on earnings due to hedge ineffectiveness. The fair value of the swaps is recorded on the consolidated balance sheet at each period end, with an offsetting entry in senior notes. As of July 31, 2012, there were 4 interest rate swap contracts designated as fair value hedges associated with our 2012 senior notes. The notional amount of these interest rate swap contracts, receive-fixed/pay-variable, was $250 million.
 
On November 25, 2008, we terminated two interest rate swap contracts associated with our 2017 senior notes that represented the notional amount of $400 million. The gain to be amortized at July 31, 2012 was $27 million. On June 6, 2011, we also terminated five interest rate swap contracts associated with our 2015 senior notes that represented the notional amount of $500 million. The gain to be amortized at July 31, 2012 was $20 million. On Aug 9, 2011, we terminated five interest rate swap contracts related to our 2020 senior notes that represented the notional amount of $500 million. The gain to be amortized at July 31, 2012 was $29 million.
 
Cash Flow Hedges
 
We enter into foreign exchange contracts to hedge our forecasted operational cash flow exposures resulting from changes in foreign currency exchange rates. These foreign exchange contracts, carried at fair value, have maturities between one and twelve months. These derivative instruments are designated and qualify as cash flow hedges under the criteria prescribed in the authoritative guidance. The changes in the value of the effective portion of the derivative instrument are recognized in accumulated other comprehensive income. Amounts associated with cash flow hedges are reclassified to cost of sales in the consolidated statement of operations when either the forecasted transaction occurs or it becomes probable that the forecasted transaction will not occur. Changes in the fair value of the ineffective portion of derivative instruments are recognized in cost of sales in the consolidated statement of operations in the current period.

As a result of our acquisition of Dako, the company has entered into an interest rate swap to hedge the interest rate risk on the floating-rate interest mortgage debt. The notional amount of the swap contract to receive interest at a variable interest rate and pay at a fixed interest rate, is $42 million. The interest rate swap is designated and qualifies as a cash flow hedge under the criteria prescribed in the authoritative guidance. The changes in the value of the effective portion of the derivative instrument are recognized in accumulated other comprehensive income. Amounts associated with cash flow hedge are reclassified to interest expense in the consolidated statement of operations when interest payments are made on the variable-rate debt. The swap contract is due to terminate in September 2012.

In July 2012, Agilent executed treasury lock agreements to hedge the benchmark interest rate associated with forecasted interest payments associated with the potential issuance of $400 million of indebtedness by October 31, 2012. We have designated the treasury locks as cash flow hedges and recorded unrealized gains and losses in accumulated other comprehensive income. At the time of contract settlement, the unrealized gain or loss in accumulated other comprehensive income will be amortized to interest expense over the life of the issued debt.

Other Hedges
 
Additionally, we enter into foreign exchange contracts to hedge monetary assets and liabilities that are denominated in currencies other than the functional currency of our subsidiaries. These foreign exchange contracts are carried at fair value and do not qualify for hedge accounting treatment and are not designated as hedging instruments. Changes in value of the derivative are recognized in other income (expense) in the consolidated statement of operations, in the current period, along with the offsetting foreign currency gain or loss on the underlying assets or liabilities.

In connection with the acquisition of Dako, Agilent entered into several foreign currency forward contracts to mitigate the currency exchange risk associated with the payment of the purchase price in Danish Krone and the repayment of debt in multiple currencies. The aggregate notional amount of the currencies hedged was $1.7 billion. These foreign exchange contracts did not qualify for hedge accounting treatment and were not designated as hedging instruments. The resulting loss on settlement, on the date of acquisition, was $14 million and was recorded in other income (expense) in the condensed

17


consolidated statement of operations in the three and nine months ended July 31, 2012.

 Our use of derivative instruments exposes us to credit risk to the extent that the counterparties may be unable to meet the terms of the agreement. We do, however, seek to mitigate such risks by limiting our counterparties to major financial institutions which are selected based on their credit ratings and other factors.  We have established policies and procedures for mitigating credit risk that include establishing counterparty credit limits, monitoring credit exposures, and continually assessing the creditworthiness of counterparties.

All of our derivative agreements contain threshold limits to the net liability position with counterparties and are dependent on our corporate credit rating determined by the major credit rating agencies. If our corporate credit rating were to fall below investment grade, the counterparties to the derivative instruments may request collateralization on derivative instruments in net liability positions.
 
The aggregate fair value of all derivative instruments with credit-risk-related contingent features that were in a net liability position as of July 31, 2012, was $6 million. The credit-risk-related contingent features underlying these agreements had not been triggered as of July 31, 2012.

There were 134 foreign exchange forward contracts and 10 foreign exchange option contracts open as of July 31, 2012 and designated as cash flow hedges. There were 172 foreign exchange forward contracts open as of July 31, 2012 not designated as hedging instruments. The aggregated U.S. Dollar notional amounts by currency and designation as of July 31, 2012 were as follows:
 
 
 
Derivatives in Cash Flow
Hedging Relationships
 
Derivatives
Not
Designated
as Hedging
Instruments
 
 
Forward
Contracts
 
Option
Contracts
 
Forward
Contracts
Currency
 
Buy/(Sell)
 
Buy/(Sell)
 
Buy/(Sell)
 
 
(in millions)
Euro
 
$
(41
)
 
$

 
$
126

British Pound
 

 

 
140

Canadian Dollar
 
(45
)
 

 

Australian Dollars
 
46

 

 
48

Malaysian Ringgit
 
125

 

 
8

Japanese Yen
 
(71
)
 
(136
)
 
177

Other
 
(7
)
 

 
(48
)
Totals
 
$
7

 
$
(136
)
 
$
451

 





















18


Derivative instruments are subject to master netting arrangements and are disclosed gross in the balance sheet. The gross fair values and balance sheet location of derivative instruments held in the consolidated balance sheet as of July 31, 2012 and October 31, 2011 were as follows:

Fair Values of Derivative Instruments
Asset Derivatives
 
Liability Derivatives
 
 
Fair Value
 
 
 
Fair Value
Balance Sheet Location
 
July 31, 2012
 
October 31, 2011
 
Balance Sheet Location
 
July 31, 2012
 
October 31, 2011
(in millions)
Derivatives designated as hedging instruments:
 
 

 
 

 
 
 
 

 
 

Fair value hedges
 
 

 
 

 
 
 
 

 
 

Interest rate contracts
 
 

 
 

 
 
 
 

 
 

Other current assets
 
$

 
$
3

 
Other accrued liabilities
 
$

 
$

 
 
 
 
 
 
 
 
 
 
 
Cash flow hedges
 
 
 
 
 
 
 
 
 
 
Foreign exchange contracts
 
 
 
 
 
 
 
 
 
 
Other current assets
 
$
8

 
$
7

 
Other accrued liabilities
 
$
6

 
$
3

Treasury lock agreements
 
8

 
10

 
 
 
6

 
3

Other current assets
 
$

 
$

 
Other accrued liabilities
 
$
1

 
$

 
 
$
8

 
$
10

 
 
 
$
7

 
$
3

 
 
 
 
 
 
 
 
 
 
 
Derivatives not designated as hedging instruments:
 
 

 
 

 
 
 
 

 
 

Foreign exchange contracts
 
 

 
 

 
 
 
 

 
 

Other current assets
 
$
6

 
$
27

 
Other accrued liabilities
 
$
7

 
$
8

Total derivatives
 
$
14

 
$
37

 
 
 
$
14

 
$
11


The effect of derivative instruments for foreign exchange contracts designated as hedging instruments and not designated as hedging instruments in our consolidated statement of operations were as follows:
 

 
Three Months Ended
 
Nine Months Ended
 
July 31,
 
July 31,
 
2012
 
2011
 
2012
 
2011
 
(in millions)
Derivatives designated as hedging instruments:
 

 
 

 
 

 
 

Fair Value Hedges
 


 


 


 

Gain (loss) on interest rate swap contracts, including interest accrual, recognized in interest expense
$

 
$
32

 
$

 
$
4

Gain (loss) on hedged item, recognized in interest expense
$

 
$
(26
)
 
$
2

 
$
18

Cash Flow Hedges
 
 
 
 
 
 
 
Foreign exchange contracts
 
 
 
 
 
 
 
Gain (loss) recognized in accumulated other comprehensive income
$
(1
)
 
$
2

 
$
5

 
$

Gain (loss) reclassified from accumulated other comprehensive income into cost of sales
$
1

 
$
(1
)
 
$
6

 
$
(3
)
Treasury lock agreements
 
 
 
 
 
 
 
Gain (loss) recognized in accumulated other comprehensive income
$
(1
)
 
$

 
$
(1
)
 
$

Derivatives not designated as hedging instruments:
 
 
 
 
 
 
 
Gain (loss) recognized in other income (expense)
$
(28
)
 
$

 
$
(38
)
 
$
28

 
The estimated amount of existing net gain at July 31, 2012 of $1 million that is expected to be reclassified from other comprehensive income within the next twelve months is a $2 million gain to cost of sales and a $1 million loss to interest

19


expense.
 
11.    RETIREMENT PLANS AND POST RETIREMENT PENSION PLANS
 
Components of net periodic costs. For the three and nine months ended July 31, 2012 and 2011, our net pension and post retirement benefit costs were comprised of the following:
 
 
Pensions
 
 
 
U.S. Plans
 
Non-U.S.
Plans
 
U.S. Post Retirement
Benefit Plans
 
Three Months Ended July 31,
 
2012
 
2011
 
2012
 
2011
 
2012
 
2011
 
(in millions)
Service cost—benefits earned during the period
$
10

 
$
10

 
$
8

 
$
8

 
$
1

 
$
1

Interest cost on benefit obligation
7

 
7

 
19

 
18

 
3

 
4

Expected return on plan assets
(12
)
 
(11
)
 
(23
)
 
(24
)
 
(5
)
 
(5
)
Amortization and deferrals:
 
 
 
 
 
 
 
 
 
 
 
Actuarial losses
2

 
1

 
11

 
10

 
4

 
3

Prior service cost
(3
)
 
(3
)
 
(1
)
 

 
(8
)
 
(9
)
Total net plan costs
$
4

 
$
4

 
$
14

 
$
12

 
$
(5
)
 
$
(6
)
 
 
Pensions
 
 
 
 
 
U.S. Plans
 
Non-U.S.
Plans
 
U.S. Post Retirement
Benefit Plans
 
Nine Months Ended July 31,
 
2012
 
2011
 
2012
 
2011
 
2012
 
2011
 
(in millions)
Service cost—benefits earned during the period
$
30

 
$
31

 
$
24

 
$
24

 
$
3

 
$
3

Interest cost on benefit obligation
21

 
21

 
56

 
53

 
11

 
17

Expected return on plan assets
(35
)
 
(33
)
 
(69
)
 
(70
)
 
(15
)
 
(15
)
Amortization and deferrals:
 
 
 
 
 
 
 
 
 
 
 
Actuarial losses
5

 
3

 
32

 
29

 
12

 
10

Prior service cost
(9
)
 
(9
)
 
(1
)
 

 
(26
)
 
(18
)
Total net plan costs
$
12

 
$
13

 
$
42

 
$
36

 
$
(15
)
 
$
(3
)
 
We contributed approximately zero to our U.S. defined benefit plans and $16 million to our non-U.S. defined benefit plans during the three months ended July 31, 2012 and $30 million and $39 million, respectively, for the nine months ended July 31, 2012.  We contributed approximately zero to our U.S. defined benefit plans and $17 million to our non-U.S. defined benefit plans during the three months ended July 31, 2011 and $33 million and $51 million, respectively, for the nine months ended July 31, 2011. We do not expect to contribute to our U.S. defined benefit plans during the remainder of 2012 and expect to contribute $13 million to our non-U.S. defined benefit plans during the remainder of 2012.

12.    WARRANTIES AND CONTINGENCIES
 
Warranties
 
We accrue for standard warranty costs based on historical trends in warranty charges as a percentage of net product shipments. The accrual is reviewed regularly and periodically adjusted to reflect changes in warranty cost estimates. Estimated warranty charges are recorded within cost of products at the time products are sold. The standard warranty accrual balances are held in other accrued and other long-term liabilities on our condensed consolidated balance sheet. Our warranty terms typically extend for one year from the date of delivery.
 
A summary of the standard warranty accrual activity is shown in the table below:
 

20


 
Nine Months Ended July 31,
 
2012
 
2011
 
(in millions)
Beginning balance as of November 1
$
50

 
$
45

Accruals for warranties including change in estimate
65

 
54

Reserve acquired upon close of Dako acquisition
1

 

Settlements made during the period
(57
)
 
(50
)
Ending balance as of July 31,
$
59

 
$
49

 
Contingencies
 
We are involved in lawsuits, claims, investigations and proceedings, including patent, commercial and environmental matters. There are no matters pending that we currently believe are reasonably possible of having a material impact to our business, consolidated financial condition, results of operations or cash flows.
 
13.    SHORT-TERM DEBT
 
Credit Facility
 
On October 20, 2011, we entered into a five-year credit agreement, which provides for a $400 million unsecured credit facility that will expire on October 20, 2016. The company may use amounts borrowed under the facility for general corporate purposes. As of July 31, 2012 the company had no borrowings outstanding under the facility. We were in compliance with the covenants for the credit facilities during the nine months ended July 31, 2012.

As a result of the Dako acquisition, we have a credit facility in Danish Krone equivalent of $8 million with a Danish financial institution. In the three and nine months ended July 31, 2012 $1 million was repaid  and no borrowings were outstanding under the facility as of July 31, 2012.   
 
Senior Notes
 
The following table summarizes the company’s senior notes and the related interest rate swaps:
 
 
July 31, 2012
 
October 31, 2011
 
Amortized
Principal
 
Swap
 
Total
 
Amortized
Principal
 
Swap
 
Total
 
(in millions)
2012 Senior Notes
$
250

 
$

 
$
250

 
$
250

 
$
3

 
$
253

2013 Senior Notes
$
250

 
$

 
$
250

 
$

 
$

 
$

Total
$
500

 
$

 
$
500

 
$
250

 
$
3

 
$
253

 

The 2013 senior notes are repayable within one year and have been reclassified from long-term debt, see Note 14, "Long-term debt".

There have been no changes to the principal, maturity, interest rates and interest payment terms of the senior notes in the three and nine months ended July 31, 2012 as compared to the senior notes described in our Annual Report on Form 10-K for the fiscal year ended October 31, 2011.

Upon the closing of the offering of the 2012 senior notes, we entered into interest rate swaps with an aggregate notional amount of $250 million. Under the interest rate swaps, we will receive fixed-rate interest payments and will make payments based on the U.S. dollar LIBOR plus 258 basis points with respect to the 2012 senior notes. The economic effect of these swaps will be to convert the fixed-rate interest expense on the senior notes to a variable LIBOR-based interest rate. The hedging relationship qualifies for the shortcut method of assessing hedge effectiveness, and consequently we do not expect any ineffectiveness during the life of the swap and any movement in the value of the swap would be reflected in the movement in fair value of the senior notes. At July 31, 2012, the fair value of the swaps on 2012 senior notes was an asset of less than $1 million.

21


 
All notes issued are unsecured and rank equally in right of payment with all of Agilent’s other senior unsecured indebtedness. The company incurred issuance costs of $4 million in connection with the 2012 and 2013 senior notes. These costs were capitalized in other assets on the consolidated balance sheet and the costs are being amortized to interest expense over the term of the senior notes.
 
14.    LONG-TERM DEBT
 
Senior Notes
 
The following table summarizes the company’s senior notes and the related interest rate swaps:
 
 
July 31, 2012
 
October 31, 2011
 
Amortized
Principal
 
Swap
 
Total
 
Amortized
Principal
 
Swap
 
Total
 
(in millions)
2013 Senior Notes
$

 
$

 
$

 
$
250

 
$

 
$
250

2015 Senior Notes
499

 
20

 
519

 
499

 
24

 
523

2017 Senior Notes
599

 
27

 
626

 
598

 
31

 
629

2020 Senior Notes
498

 
29

 
527

 
498

 
32

 
530

Total
$
1,596

 
$
76

 
$
1,672

 
$
1,845

 
$
87

 
$
1,932

 
The 2013 senior notes are repayable within one year and have been reclassified to short-term debt, see Note 13, "Short-term debt".

All notes issued are unsecured and rank equally in right of payment with all of Agilent’s other senior unsecured indebtedness. There have been no changes to the principal, maturity, interest rates and interest payment terms of the senior notes in the three and nine months ended July 31, 2012 as compared to the senior notes described in our Annual Report on Form 10-K for the fiscal year ended October 31, 2011. All swap contracts have been terminated and amounts to be amortized over the remaining life of the senior notes as of July 31, 2012 and October 31, 2011 are detailed above.
 
The company incurred issuance costs of $5 million in connection with the 2017 senior notes, incurred $3 million in connection with the 2015 senior notes and incurred $3 million in connection with the 2020 senior notes. These costs were capitalized in other assets on the consolidated balance sheet and the costs are being amortized to interest expense over the term of the senior notes.

Other Debt

As of July 31, 2012, and as a result of the Dako acquisition, we have a mortgage debt, secured on buildings  in Denmark, in Danish Krone equivalent of $42 million aggregate principal outstanding with a Danish financial institution. The loan has a variable interest rate of 3 month Copenhagen Interbank Rate ("Cibor") and will mature on September 30, 2027. Interest payments are made in March, June, September and December of each year. The company has entered into an interest rate swap to hedge the interest rate risk on the floating-rate interest debt. The notional amount of the swap contract to receive interest at a variable rate and pay at a fixed interest rate, is $42 million and the fair value as of July 31, 2012 was a liability of less than $1 million. The swap contract is due to terminate in September 2012.   
 
15.    STOCKHOLDERS' EQUITY
 
Stock Repurchase Program
 
On November 19, 2009 our board of directors approved a share-repurchase program to reduce or eliminate dilution of basic outstanding shares in connection with issuances of stock under the company’s equity incentive plans. The share-repurchase program does not require the company to acquire a specific number of shares and may be suspended or discontinued at any time. There is no fixed termination date for the share-repurchase program. For the three and nine months ended July 31, 2012, we repurchased no shares and 2 million shares for $78 million, respectively. For the three and nine months ended July 31, 2011, we repurchased 4 million shares for $192 million and 10 million shares for $462 million, respectively. All such shares and related costs are held as treasury stock and accounted for using the cost method.

22


 
Cash Dividends on Shares of Common Stock
 
For the three months ended July 31, 2012, cash dividends of $0.10 per share, or $35 million were declared and paid on the company's outstanding common stock. For the nine months ended July 31, 2012, cash dividends of $0.20 per share, or $70 million were declared and paid on the company's outstanding common stock. The timing and amounts of any future dividends are subject to determination and approval by our board of directors.
 
Comprehensive Income
 
The following table presents the components of comprehensive income, net of deferred tax expense (benefit):
 
 
Three Months Ended
 
July 31,
 
2012
 
2011
 
(in millions)
Net income
$
243

 
$
330

Other comprehensive income:
 
 
 
Change in unrealized gain on investments

 

Change in unrealized gain and loss on derivative instruments
(2
)
 
2

Reclassification of (gains) and losses into earnings related to derivative instruments, net of $(1) and $1 of tax

 

Foreign currency translation
(102
)
 
(9
)
Change in deferred net defined benefit pension cost and post retirement plan costs:
 
 
 
Net gain, net of $3 and $3 of tax
13

 
11

Prior service (loss) and gain
(12
)
 
(11
)
Comprehensive income
$
140

 
$
323


 
Nine Months Ended
 
July 31,
 
2012
 
2011
 
(in millions)
Net income
$
728

 
$
723

Other comprehensive income:
 
 
 
Change in unrealized gain on investments, net of $(8) and zero of tax
6

 
(5
)
Change in unrealized gain and loss on derivative instruments
4

 

Reclassification of (gains) and losses into earnings related to derivative instruments, net of zero and $1 of tax
(6
)
 
2

Foreign currency translation
(160
)
 
147

Change in deferred net defined benefit pension cost and post retirement plan costs:
 
 
 
Net gain, net of $9 and $10 of tax
41

 
27

Prior service (loss) and gain
(36
)
 
188

Comprehensive income
$
577

 
$
1,082

 
16.    SEGMENT INFORMATION
 
Description of segments. We are a measurement company, providing core bio-analytical and electronic measurement solutions to the life sciences, chemical analysis, communications, electronics, diagnostics and genomics industries. In the third quarter of fiscal 2012, we formed a new operating segment. The new diagnostics and genomics segment was formed from a portion of our pre-existing life sciences segment plus the business of the recent acquisition of Dako. Following this re-organization, Agilent has four businesses - electronic measurement, chemical analysis, life sciences and diagnostics and genomics -each of which comprises a reportable segment. The historical segment numbers for both the life sciences and

23


diagnostics and genomics segments have been recast to conform to this new reporting structure in our financial statements.

The four operating segments were determined based primarily on how the chief operating decision maker views and evaluates our operations. Operating results are regularly reviewed by the chief operating decision maker to make decisions about resources to be allocated to the segment and to assess its performance. Other factors, including market separation and customer specific applications, go-to-market channels, products and services and manufacturing are considered in determining the formation of these operating segments.

A description of our four reportable segments is as follows:

Our life sciences business provides application focused solutions that include instruments, software, consumables, and services that enable customers to identify, quantify and analyze the physical and biological properties of substances and products. Key product categories in life sciences include: liquid chromatography systems, columns and components; liquid chromatography mass spectrometry systems; laboratory software and informatics systems; laboratory automation and robotic systems, dissolution testing; Nuclear Magnetic Resonance and Magnetic Resonance Imaging systems along with X-Ray crystallography, and services and support for the aforementioned products.

Our chemical analysis business provides application focused solutions that include instruments, software, consumables, and services that enable customers to identify, quantify and analyze the physical and biological properties of substances and products. Key product categories in chemical analysis include: gas chromatography systems, columns and components; gas chromatography mass spectrometry systems; inductively coupled plasma mass spectrometry instruments; atomic absorption instruments; inductively coupled plasma optical emission spectrometry instruments; software and data systems; vacuum pumps and measurement technologies; services and support for our products.

Our diagnostics and genomics business provides solutions that include reagents, instruments, software and consumables that enable customers in the clinical and life sciences research areas to interrogate samples at the molecular level.  With the acquisition of Dako, a new group of solutions have been added that extend our product offerings to cancer diagnostics with anatomic pathology workflows.   Our broad portfolio of offerings include immunohistochemistry (“IHC”), In Situ Hybridization (“ISH”),  Hematoxylin and Eosin Staining, special staining, DNA mutation detection, genotyping, gene copy number determination, identification of gene rearrangements, DNA methylation profiling, gene expression profiling, as well as automated gel electrophoresis-based sample analysis systems.  We also collaborate with a number of major pharmaceutical companies to develop new potential pharmacodiagnostics, also called companion diagnostics, which may be used to identify patients most likely to benefit from a specific targeted therapy. 

Our electronic measurement business provides electronic measurement instruments and systems, software design tools and related services that are used in the design, development, manufacture, installation, deployment and operation of electronics equipment, and microscopy products. Related services include start-up assistance, instrument productivity and application services and instrument calibration and repair. We also offer customization, consulting and optimization services throughout the customer's product lifecycle.
 
A significant portion of the segments' expenses arise from shared services and infrastructure that we have historically provided to the segments in order to realize economies of scale and to efficiently use resources. These expenses, collectively called corporate charges, include costs of centralized research and development, legal, accounting, real estate, insurance services, information technology services, treasury and other corporate infrastructure expenses. Charges are allocated to the segments, and the allocations have been determined on a basis that we consider to be a reasonable reflection of the utilization of services provided to or benefits received by the segments.

The following tables reflect the results of our reportable segments under our management reporting system. These results are not necessarily in conformity with U.S. GAAP. The performance of each segment is measured based on several metrics, including adjusted income from operations. These results are used, in part, by the chief operating decision maker in evaluating the performance of, and in allocating resources to, each of the segments.
 








24










The profitability of each of the segments is measured after excluding restructuring and asset impairment charges, investment gains and losses, interest income, interest expense, acquisition and integration costs, non-cash amortization and other items as noted in the reconciliations below.
 
 
Life Sciences
 
Chemical
Analysis
 
Diagnostics and Genomics
 
Electronic
Measurement
 
Total
 
(in millions)
Three months ended July 31, 2012:
 

 
 

 
 
 
 

 
 

Total net revenue
$
391

 
$
381

 
$
106

 
$
845

 
$
1,723

Segment income from operations
$
57

 
$
80

 
$
16

 
$
197

 
$
350

Three months ended July 31, 2011:
 

 
 

 
 
 
 

 
 

Total segment revenue
$
383

 
$
383

 
$
70

 
$
856

 
$
1,692

Varian acquisition deferred revenue fair value adjustment
$

 
$
(1
)
 
$

 
$

 
$
(1
)
Total net revenue
$
383

 
$
382

 
$
70

 
$
856

 
$
1,691

Segment income from operations
$
51

 
$
79

 
$
9

 
$
204