INCOME TAXES
The sources of income before taxes, classified between domestic and foreign entities are as follows:
|
| | | | | | | | | | | |
Pre-tax income | 2017 | | 2016 | | 2015 |
Domestic | $ | 891.8 |
| | $ | 914.0 |
| | $ | 593.5 |
|
Foreign | 243.1 |
| | 191.5 |
| | 132.5 |
|
Total pre-tax income | $ | 1,134.9 |
| | $ | 1,105.5 |
| | $ | 726.0 |
|
The provisions (benefits) for income taxes in the accompanying consolidated statements of operations consist of the following:
|
| | | | | | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 | | 2015 |
Current: | | | | | |
Federal | $ | 300.8 |
| | $ | 235.1 |
| | $ | 218.3 |
|
State | 32.9 |
| | 38.6 |
| | 33.7 |
|
Foreign | 53.0 |
| | 43.9 |
| | 69.4 |
|
| $ | 386.7 |
| | $ | 317.6 |
| | $ | 321.4 |
|
Deferred: | |
| | |
| | |
|
Federal | $ | (534.3 | ) | | $ | 64.4 |
| | $ | (14.1 | ) |
State | 12.9 |
| | 6.0 |
| | (4.2 | ) |
Foreign | (4.4 | ) | | (15.7 | ) | | (15.8 | ) |
| (525.8 | ) | | 54.7 |
| | (34.1 | ) |
| $ | (139.1 | ) | | $ | 372.3 |
| | $ | 287.3 |
|
In 2017, a benefit of $18.9 in excess stock-based compensation was recorded directly to income tax expense. In 2016, as a result of the early adoption of the accounting standard associated with simplifying several aspects of share-based compensation, a benefit of $14.0 in excess stock-based compensation was recorded directly to income tax expense. For 2015, a portion of the tax benefit associated with option exercises from stock plans, which reduces taxes payable, was recorded through additional paid-in capital. The 2015 benefits recorded through additional paid-in capital were approximately $13.1.
The effective tax rates on earnings before income taxes are reconciled to statutory U.S. income tax rates as follows:
|
| | | | | | | | |
| Years Ended December 31, |
| 2017 | | 2016 | | 2015 |
Statutory U.S. rate | 35.0 | % | | 35.0 | % | | 35.0 | % |
State and local income taxes, net of U.S. Federal income tax effect | 2.5 |
| | 2.6 |
| | 3.2 |
|
Foreign earnings taxed at lower rates than the statutory U.S. rate | (3.5 | ) | | (3.1 | ) | | (1.8 | ) |
Restructuring and acquisition items | 0.6 |
| | — |
| | 2.7 |
|
Share-based compensation | (1.7 | ) | | (1.2 | ) | | — |
|
Re-measurement of deferred taxes | (35.0 | ) | | — |
| | — |
|
Deferred taxes on unremitted foreign earnings | (15.8 | ) | | — |
| | — |
|
Repatriation tax | 5.0 |
| | — |
| | — |
|
Other | 0.6 |
| | 0.4 |
| | 1.1 |
|
Effective rate | (12.3 | )% | | 33.7 | % | | 40.2 | % |
In December 2017, the U.S. enacted the Tax Cuts and Jobs Act (TCJA) which makes widespread changes to the Internal Revenue Code. The TCJA, among other things, reduces the U.S. federal corporate tax rate from 35% to 21% beginning January 1, 2018, requires companies to pay a repatriation tax on earnings of certain foreign subsidiaries that were previously not subject to U.S. tax, and creates new income taxes on certain foreign sourced earnings. Also on December 22, 2017, the SEC issued Staff Accounting Bulletin No. 118 (SAB 118), which provides companies with additional guidance on how to account for the TCJA in its financial statements, allowing companies to use a measurement period. At December 31, 2017, the Company had not completed the accounting for the tax effects of enactment of the TCJA; however, as described below, a reasonable estimate on the re-measurement of the Company's existing deferred tax balances, the deferred tax revaluation for unremitted foreign earnings, and the one-time repatriation tax has been made. For these items, in accordance with SAB 118, a provisional net benefit has been recognized, totaling $519.0, which is included as a component of income tax expense from continuing operations. The Company expects to finalize this provisional estimate before the end of 2018 after completing its reviews and analysis, and after incorporating further anticipated guidance from the U.S. Treasury issued during this measurement period. As a result, the reported net benefit could change during 2018.
The effective rate for 2017 was favorably impacted by the re-measurement of the Company's net deferred tax liabilities using the rates enacted in the TCJA and the deferred tax revaluation for unremitted foreign earnings, partially offset by the deemed repatriation tax enacted in this legislation. The 2017 rate was also favorably impacted by foreign earnings taxed at rates lower than the U.S. and by share-based compensation.
The effective rate for 2016 was favorably impacted by foreign earnings taxed at rates lower than the U.S. statutory rate and the early adoption of the share-based compensation standard.
The effective rate for 2015 was favorably impacted by foreign earnings taxed at rates lower than the U.S. statutory rate and unfavorably impacted by restructuring and acquisition items, the recording of additional uncertain tax reserves, and a decrease in the benefit recorded from releasing uncertain tax reserves.
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are as follows:
|
| | | | | | | |
| December 31, 2017 | | December 31, 2016 |
Deferred tax assets: | | | |
Accounts receivable | $ | 14.7 |
| | $ | 13.5 |
|
Employee compensation and benefits | 113.6 |
| | 160.8 |
|
Acquisition and restructuring reserves | 16.8 |
| | 38.5 |
|
Tax loss carryforwards | 107.0 |
| | 167.7 |
|
Other | 26.0 |
| | 44.8 |
|
| 278.1 |
| | 425.3 |
|
Less: valuation allowance | (42.8 | ) | | (31.3 | ) |
Deferred tax assets, net of valuation allowance | $ | 235.3 |
| | $ | 394.0 |
|
| | | |
Deferred tax liabilities: | |
| | |
|
Deferred earnings | $ | (5.1 | ) | | $ | (193.2 | ) |
Intangible assets | (913.2 | ) | | (1,047.4 | ) |
Property, plant and equipment | (156.9 | ) | | (208.8 | ) |
Zero-coupon subordinated notes | (10.1 | ) | | (48.5 | ) |
Currency translation adjustment | (0.1 | ) | | (47.0 | ) |
Other | (27.2 | ) | | (27.9 | ) |
Total gross deferred tax liabilities | (1,112.6 | ) | | (1,572.8 | ) |
Net deferred tax liabilities | $ | (877.3 | ) | | $ | (1,178.8 | ) |
The TCJA includes provisions relating to global low-taxed intangible income (GILTI). Relevant to the current consolidated financial statements is the Company's selection of an accounting policy with respect to the new GILTI tax rules, and whether to account for GILTI as a periodic charge in the period it arises, or to record deferred taxes associated with the basis in the Company’s foreign subsidiaries. Due to the intricacy of this topic, the Company is still in the process of investigating the implications of accounting for the GILTI tax and intends to make an accounting policy decision once additional guidance is available for assessment.
The Company has U.S. federal tax loss carryforwards of approximately $294.3, which expire periodically through 2035. The utilization of tax loss carryforwards is limited due to change of ownership rules; however, at this time, the Company expects to fully utilize substantially all U.S. federal tax loss carryforwards with the exception of approximately $3.9 for which a full valuation allowance has been provided. The Company has U.S. state tax loss carryforwards of $602.2, which also expire periodically through 2036, and on which a valuation allowance of $485.5 has been provided. The Company has foreign tax loss carryforwards of $37.4 of which $27.1 has a full valuation allowance. Most of the foreign losses have an indefinite carryover. In addition to the foreign net operating losses, the Company has a foreign capital loss carryforward of $6.9. The capital loss has an indefinite life and has a full valuation allowance.
The valuation allowance increased from $31.3 in 2016 to $42.8 in 2017 primarily due to additional state losses for which no benefit is anticipated.
Unrecognized income tax benefits were $19.5 and $18.4 at December 31, 2017, and 2016, respectively. It is anticipated that the amount of the unrecognized income tax benefits will change within the next 12 months; however, these changes are not expected to have a significant impact on the results of operations, cash flows or the financial position of the Company.
The Company recognizes interest and penalties related to unrecognized income tax benefits in income tax expense. Accrued interest and penalties related to uncertain tax positions totaled $7.9 and $9.9 as of December 31, 2017, and 2016, respectively. During the years ended December 31, 2017, 2016 and 2015, the Company recognized $2.3, $1.2 and $1.8, respectively, in interest and penalties expense, which was offset by a benefit from reversing previous accruals for interest and penalties of $4.3, $4.0 and $2.2, respectively.
The following table shows a reconciliation of the unrecognized income tax benefits, excluding interest and penalties, from uncertain tax positions for the years ended December 31, 2017, 2016 and 2015:
|
| | | | | | | | | | | |
| 2017 | | 2016 | | 2015 |
Balance as of January 1 | $ | 18.4 |
| | $ | 24.2 |
| | $ | 16.7 |
|
Increase in reserve for tax positions taken in the current year | 7.3 |
| | 2.3 |
| | 4.1 |
|
Increase in reserve as a result of acquisition | — |
| | — |
| | 8.5 |
|
Decrease in reserve as a result of lapses in the statute of limitations | (6.2 | ) | | (8.1 | ) | | (5.1 | ) |
Balance as of December 31 | $ | 19.5 |
| | $ | 18.4 |
| | $ | 24.2 |
|
As of December 31, 2017, and 2016, $19.5 and $18.4, respectively, are the approximate amounts of unrecognized income tax benefits that, if recognized, would favorably affect the effective income tax rate in any future periods.
The Company has substantially concluded all U.S. federal income tax matters for years through 2012. Substantially all material state and local and foreign income tax matters have been concluded through 2012 and 2008, respectively.
The Internal Revenue Service concluded the examination of the Company's 2014 federal consolidated income tax return, which did not include Covance Inc., in the third quarter of 2016. Covance Inc.'s 2013 federal consolidated income tax return is under examination. The Canada Revenue Agency is currently examining the Company's 2013 and 2014 Canadian subsidiaries' tax returns. The Company has various state and foreign income tax examinations ongoing throughout the year. The Company believes adequate provisions have been recorded related to all open tax years.
As a result of the TCJA, the Company was effectively taxed on all of its previously unremitted foreign earnings. The TCJA also enacts a territorial tax system that allows, for the most part, tax-free repatriation of foreign earnings. The Company still considers the earnings of its foreign subsidiaries to be permanently reinvested, but if repatriation were to occur we would be required to accrue U.S. taxes, if any, and applicable withholding taxes as appropriate. Along with the provisions of the TCJA, the Company will continue to review its repatriation policy.