View:
Download DOC
Download PDF
Download XLS
Download XBRL
Document
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON D.C. 20549
 ____________________________________ 
FORM 10-Q
____________________________________ 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2018
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 1-812
____________________________________ 
UNITED TECHNOLOGIES CORPORATION
____________________________________ 
DELAWARE
 
06-0570975
10 Farm Springs Road, Farmington, Connecticut 06032
(860) 728-7000

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  ý.    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) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý.    No  ¨.
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
ý
Accelerated filer
¨
 
 
 
 
Non-accelerated filer
¨
Smaller reporting company
¨
 
 
 
 
 
 
Emerging growth company
¨
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.   ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨.    No  ý.
At September 30, 2018 there were 800,984,201 shares of Common Stock outstanding.

Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONTENTS OF QUARTERLY REPORT ON FORM 10-Q
Quarter Ended September 30, 2018
 
 
Page
 
 
 
 
 
 
 
 
 
 
Condensed Consolidated Statement of Comprehensive Income for the quarters and nine months ended September 30, 2018 and 2017
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

United Technologies Corporation and its subsidiaries' names, abbreviations thereof, logos, and product and service designators are all either the registered or unregistered trademarks or tradenames of United Technologies Corporation and its subsidiaries. Names, abbreviations of names, logos, and products and service designators of other companies are either the registered or unregistered trademarks or tradenames of their respective owners. As used herein, the terms "we," "us," "our," "the Company," or "UTC," unless the context otherwise requires, mean United Technologies Corporation and its subsidiaries. References to internet web sites in this Form 10-Q are provided for convenience only. Information available through these web sites is not incorporated by reference into this Form 10-Q.

2
Table of Contents

PART I – FINANCIAL INFORMATION

Item 1.
Financial Statements

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
 
 
Quarter Ended September 30,
(dollars in millions, except per share amounts)
2018
 
2017
Net Sales:
 
 
 
Product sales
$
11,254

 
$
10,378

Service sales
5,256

 
4,684

 
16,510

 
15,062

Costs and Expenses:
 
 
 
Cost of products sold
9,342

 
7,800

Cost of services sold
3,194

 
3,306

Research and development
586

 
592

Selling, general and administrative
1,681

 
1,582

 
14,803

 
13,280

Other income, net
131

 
250

Operating profit
1,838

 
2,032

Non-service pension (benefit)
(188
)
 
(131
)
Interest expense, net
258

 
223

Income from operations before income taxes
1,768

 
1,940

Income tax expense
419

 
506

Net income from operations
1,349

 
1,434

Less: Noncontrolling interest in subsidiaries' earnings from operations
111

 
104

Net income attributable to common shareowners
$
1,238

 
$
1,330

Earnings Per Share of Common Stock - Basic:
 
 
 
Net income attributable to common shareowners
$
1.56

 
$
1.69

Earnings Per Share of Common Stock - Diluted:
 
 
 
Net income attributable to common shareowners
$
1.54

 
$
1.67

See accompanying Notes to Condensed Consolidated Financial Statements

3
Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS
(Unaudited)
 

 
Nine Months Ended September 30,
(dollars in millions, except per share amounts)
2018
 
2017
Net Sales:
 
 
 
Product sales
$
33,032

 
$
30,676

Service sales
15,425

 
13,481

 
48,457

 
44,157

Costs and Expenses:
 
 
 
Cost of products sold
26,512

 
23,068

Cost of services sold
9,726

 
9,338

Research and development
1,729

 
1,797

Selling, general and administrative
5,151

 
4,709

 
43,118

 
38,912

Other income, net
1,303

 
1,095

Operating profit
6,642

 
6,340

Non-service pension (benefit)
(571
)
 
(380
)
Interest expense, net
721

 
662

Income from operations before income taxes
6,492

 
6,058

Income tax expense
1,636

 
1,624

Net income from operations
4,856

 
4,434

Less: Noncontrolling interest in subsidiaries' earnings from operations
273

 
279

Net income attributable to common shareowners
$
4,583

 
$
4,155

Earnings Per Share of Common Stock - Basic:
 
 
 
Net income attributable to common shareowners
$
5.80

 
$
5.26

Earnings Per Share of Common Stock - Diluted:
 
 
 
Net income attributable to common shareowners
$
5.72

 
$
5.20

See accompanying Notes to Condensed Consolidated Financial Statements


4
Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME
(Unaudited)

 
Quarter Ended
September 30,
 
Nine Months Ended
September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Net income
$
1,349

 
$
1,434

 
$
4,856

 
$
4,434

Other comprehensive income (loss), net of tax (expense) benefit:
 
 
 
 
 
 
 
Foreign currency translation adjustments
 
 
 
 
 
 
 
Foreign currency translation adjustments arising during period
(185
)
 
514

 
(378
)
 
909

Less: Reclassification adjustments for gain on sale of an investment in a foreign entity recognized in Other income, net
—

 
(3
)
 
(3
)
 
(3
)
 
(185
)
 
511

 
(381
)
 
906

Tax benefit
4

 
—

 
60

 
—

 
(181
)
 
511

 
(321
)
 
906

Pension and postretirement benefit plans
 
 
 
 
 
 
 
Pension and postretirement benefit plans adjustments during the period
(17
)
 
(50
)
 
9

 
(54
)
Amortization of actuarial loss and prior service credit
86

 
132

 
262

 
395

 
69

 
82

 
271

 
341

Tax expense
(15
)
 
(53
)
 
(64
)
 
(149
)
 
54

 
29

 
207

 
192

Unrealized gain (loss) on available-for-sale securities
 
 
 
 
 
 
 
Unrealized holding gain arising during period
—

 
19

 
—

 
17

Reclassification adjustments for loss included in Other income, net
—

 
(138
)
 
—

 
(545
)
ASU 2016-01 adoption impact
—

 
—

 
(5
)
 
—

 
—

 
(119
)
 
(5
)
 
(528
)
Tax benefit
—

 
43

 
—

 
199

 
—

 
(76
)
 
(5
)
 
(329
)
Change in unrealized cash flow hedging
 
 
 
 
 
 
 
Unrealized cash flow hedging gain (loss) arising during period
95

 
310

 
(105
)
 
440

Loss (gain) reclassified into Product sales
2

 
(24
)
 
(26
)
 
(14
)
 
97

 
286

 
(131
)
 
426

Tax (expense) benefit
(28
)
 
(73
)
 
28

 
(105
)
 
69

 
213

 
(103
)
 
321

Other comprehensive (loss) income, net of tax
(58
)
 
677

 
(222
)
 
1,090

Comprehensive income
1,291

 
2,111

 
4,634

 
5,524

Less: Comprehensive income attributable to noncontrolling interest
(92
)
 
(144
)
 
(249
)
 
(362
)
Comprehensive income attributable to common shareowners
$
1,199

 
$
1,967

 
$
4,385

 
$
5,162

See accompanying Notes to Condensed Consolidated Financial Statements

5
Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEET
(Unaudited)
 
(dollars in millions)
September 30, 2018
 
December 31, 2017
Assets
 
 
 
Cash and cash equivalents
$
13,799

 
$
8,985

Accounts receivable, net
12,550

 
12,595

Contract assets, current
3,450

 
—

Inventories and contracts in progress, net
9,068

 
9,881

Other assets, current
1,337

 
1,397

Total Current Assets
40,204

 
32,858

Customer financing assets
3,143

 
2,372

Future income tax benefits
1,701

 
1,723

Fixed assets
21,956

 
21,364

Less: Accumulated depreciation
(11,720
)
 
(11,178
)
Fixed assets, net
10,236

 
10,186

Goodwill
27,679

 
27,910

Intangible assets, net
15,701

 
15,883

Restricted cash
9,205

 
5

Other assets
7,070

 
5,983

Total Assets
$
114,939

 
$
96,920

Liabilities and Equity
 
 
 
Short-term borrowings
$
1,576

 
$
392

Accounts payable
10,509

 
9,579

Accrued liabilities
8,867

 
12,316

Contract liabilities, current
5,460

 
—

Long-term debt currently due
92

 
2,104

Total Current Liabilities
26,504

 
24,391

Long-term debt
38,275

 
24,989

Future pension and postretirement benefit obligations
2,412

 
3,036

Other long-term liabilities
13,373

 
12,952

Total Liabilities
80,564

 
65,368

Commitments and contingent liabilities (Note 15)

 

Redeemable noncontrolling interest
125

 
131

Shareowners' Equity:
 
 
 
Common Stock
17,869

 
17,574

Treasury Stock
(35,667
)
 
(35,596
)
Retained earnings
57,706

 
55,242

Unearned ESOP shares
(79
)
 
(85
)
Accumulated other comprehensive loss
(7,723
)
 
(7,525
)
Total Shareowners' Equity
32,106

 
29,610

Noncontrolling interest
2,144

 
1,811

Total Equity
34,250

 
31,421

Total Liabilities and Equity
$
114,939

 
$
96,920

See accompanying Notes to Condensed Consolidated Financial Statements

6
Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
 
Nine Months Ended September 30,
(dollars in millions)
2018
 
2017
Operating Activities:
 
 
 
Net income from operations
$
4,856

 
$
4,434

Adjustments to reconcile net income from operations to net cash flows provided by operating activities:
 
 
 
Depreciation and amortization
1,766

 
1,582

Deferred income tax provision
70

 
724

Stock compensation cost
181

 
145

Gain on sale of Taylor Company
(799
)
 
—

Change in:
 
 
 
Accounts receivable
(2,379
)
 
(1,051
)
Contract assets, current
(892
)
 
—

Inventories and contracts in progress
(991
)
 
(1,249
)
Other current assets
262

 
78

Accounts payable and accrued liabilities
3,044

 
1,864

Contract liabilities, current
313

 
—

Global pension contributions
(72
)
 
(2,008
)
Canadian government settlement
(221
)
 
(246
)
Other operating activities, net
(821
)
 
(1,163
)
Net cash flows provided by operating activities
4,317

 
3,110

Investing Activities:
 
 
 
Capital expenditures
(1,122
)
 
(1,214
)
Investments in businesses
(177
)
 
(196
)
Dispositions of businesses (Note 1)
1,099

 
37

Proceeds from sale of investments in Watsco, Inc.
—

 
596

Increase in customer financing assets, net
(453
)
 
(525
)
Increase in collaboration intangible assets
(302
)
 
(290
)
Receipts (payments) from settlements of derivative contracts
71

 
(183
)
Other investing activities, net
(135
)
 
117

Net cash flows used in investing activities
(1,019
)
 
(1,658
)
Financing Activities:
 
 
 
Issuance of long-term debt
13,409

 
4,044

Repayment of long-term debt
(2,093
)
 
(1,587
)
Increase in short-term borrowings, net
1,228

 
400

Proceeds from Common Stock issued under employee stock plans
33

 
25

Dividends paid on Common Stock
(1,606
)
 
(1,541
)
Repurchase of Common Stock
(72
)
 
(1,430
)
Other financing activities, net
(60
)
 
(204
)
Net cash flows provided by (used in) financing activities
10,839

 
(293
)
Effect of foreign exchange rate changes on cash and cash equivalents
(111
)
 
208

Net increase in cash, cash equivalents and restricted cash
14,026

 
1,367

Cash, cash equivalents and restricted cash, beginning of year
9,018

 
7,189

Cash, cash equivalents and restricted cash, end of period
23,044

 
8,556

Less: Restricted cash
9,245

 
33

Cash and cash equivalents, end of period
$
13,799

 
$
8,523

See accompanying Notes to Condensed Consolidated Financial Statements

7
Table of Contents

UNITED TECHNOLOGIES CORPORATION
AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
The Condensed Consolidated Financial Statements at September 30, 2018 and for the quarter and nine months ended September 30, 2018 and 2017 are unaudited, but in the opinion of management include all adjustments (consisting only of normal recurring adjustments) necessary for a fair statement of the results for the interim periods. The results reported in these Condensed Consolidated Financial Statements should not necessarily be taken as indicative of results that may be expected for the entire year. The financial information included herein should be read in conjunction with the financial statements and notes in our Annual Report to Shareowners (2017 Annual Report) incorporated by reference in our Annual Report on Form 10-K for calendar year 2017 (2017 Form 10-K).
Note 1: Acquisitions, Dispositions, Goodwill and Other Intangible Assets
Business Acquisitions and Dispositions. During the nine months ended September 30, 2018, our investment in business acquisitions was $177 million, and primarily consisted of an acquisition at Pratt & Whitney. On June 21, 2018, UTC Climate, Controls & Security completed its sale of Taylor Company for proceeds of $1.0 billion resulting in a pre-tax gain of $799 million ($591 million after tax).
On September 4, 2017, we announced that we had entered into a merger agreement with Rockwell Collins, Inc. (Rockwell Collins), under which we agreed to acquire Rockwell Collins. Under the terms of the merger agreement, each Rockwell Collins shareowner will receive $93.33 per share in cash and a fraction of a share of UTC common stock equal to the quotient obtained by dividing $46.67 by the average of the volume-weighted average prices per share of UTC common stock on the NYSE on each of the 20 consecutive trading days ending with the trading day immediately prior to the closing date, (the “UTC Stock Price”), subject to adjustment based on a two-way collar mechanism as described below (the “Stock Consideration”). The cash and UTC stock payable in exchange for each such share of Rockwell Collins common stock are collectively the “Merger Consideration.” The fraction of a share of UTC common stock into which each such share of Rockwell Collins common stock will be converted is the “Exchange Ratio.” The Exchange Ratio will be determined based upon the UTC Stock Price. If the UTC Stock Price is greater than $107.01 but less than $124.37, the Exchange Ratio will be equal to the quotient of (i) $46.67 divided by (ii) the UTC Stock Price, which, in each case, will result in the Stock Consideration having a value equal to $46.67. If the UTC Stock Price is less than or equal to $107.01 or greater than or equal to $124.37, then a two-way collar mechanism will apply, pursuant to which, (x) if the UTC Stock Price is greater than or equal to $124.37, the Exchange Ratio will be fixed at 0.37525 and the value of the Stock Consideration will be greater than $46.67, and (y) if the UTC Stock Price is less than or equal to $107.01, the Exchange Ratio will be fixed at 0.43613 and the value of the Stock Consideration will be less than $46.67. On January 11, 2018, the merger was approved by Rockwell Collins' shareowners. We currently expect that the merger will be completed in the fourth quarter of 2018, subject to customary closing conditions, including the receipt of required regulatory approvals.
We anticipate that approximately $15 billion will be required to pay the aggregate cash portion of the Merger Consideration which will be funded by cash on hand. On August 16, 2018 we issued $11 billion of aggregate principal notes (refer to Note 5) for net proceeds of $10.9 billion of which $9.2 billion is specifically designated to fund the cash portion of the Merger Consideration and related fees, expenses and other amounts. Therefore, $9.2 billion of the net proceeds from the issuance have been classified as restricted cash as of September 30, 2018.
In connection with the merger agreement with Rockwell Collins announced on September 4, 2017, we entered into a $6.5 billion 364-day unsecured bridge loan credit agreement that would have been funded only to the extent certain anticipated debt issuances were not completed prior to the completion of the merger. The unsecured bridge loan credit agreement was terminated on August 16, 2018 upon issuance of the $11 billion of aggregate principal notes described above. We expect to assume approximately $7 billion of Rockwell Collins' outstanding debt upon completion of the merger.
As has been previously disclosed, the Company is continuing a strategic review of its portfolio of businesses. There can be no assurance as to the outcome of any such process or that any such process will result in a transaction, or if a transaction is undertaken, as to its terms or timing.

 
 
 
 
 
 
 
 

8
Table of Contents

Goodwill. Changes in our goodwill balances for the nine months ended September 30, 2018 were as follows:
(dollars in millions)
Balance as of
January 1, 2018
 
Goodwill 
Resulting from Business Combinations
 
Foreign Currency Translation and Other
 
Balance as of
September 30, 2018
Otis
$
1,737

 
$
6

 
$
(42
)
 
$
1,701

UTC Climate, Controls & Security
10,009

 
1

 
(237
)
 
9,773

Pratt & Whitney
1,511

 
58

 
(2
)
 
1,567

UTC Aerospace Systems
14,650

 
—

 
(35
)
 
14,615

Total Segments
27,907

 
65

 
(316
)
 
27,656

Eliminations and other
3

 
20

 
—

 
23

Total
$
27,910

 
$
85

 
$
(316
)
 
$
27,679

The $316 million net reduction in goodwill within Foreign Currency Translation and Other includes a $151 million reduction of goodwill attributable to UTC Climate, Controls & Security's sale of Taylor Company. The $20 million increase in goodwill within Eliminations and other is due to an acquisition of a digital analytics company.
Intangible Assets. Identifiable intangible assets are comprised of the following:
 
September 30, 2018
 
December 31, 2017
(dollars in millions)
Gross Amount
 
Accumulated
Amortization
 
Gross Amount
 
Accumulated
Amortization
Amortized:
 
 
 
 
 
 
 
Service portfolios
$
2,181

 
$
(1,604
)
 
$
2,178

 
$
(1,534
)
Patents and trademarks
362

 
(232
)
 
399

 
(233
)
Collaboration intangible assets
4,413

 
(573
)
 
4,109

 
(384
)
Customer relationships and other
13,493

 
(4,413
)
 
13,352

 
(4,100
)
 
20,449

 
(6,822
)
 
20,038

 
(6,251
)
Unamortized:
 
 
 
 
 
 
 
Trademarks and other
2,074

 
—

 
2,096

 
—

Total
$
22,523

 
$
(6,822
)
 
$
22,134

 
$
(6,251
)
Customer relationship intangible assets include payments made to our customers to secure certain contractual rights. Such payments are capitalized when distinct rights are obtained and sufficient incremental cash flows to support the recoverability of the assets have been established. Otherwise, the applicable portion of the payments is expensed. We amortize these intangible assets based on the underlying pattern of economic benefit, which may result in an amortization method other than straight-line. In the aerospace industry, amortization based on the pattern of economic benefit generally results in lower amortization expense during the development period with amortization expense increasing as programs enter full production and aftermarket cycles. If a pattern of economic benefit cannot be reliably determined, a straight-line amortization method is used. We classify amortization of such payments as a reduction of sales. The collaboration intangible assets are amortized based upon the pattern of economic benefits as represented by the underlying cash flows.
Amortization of intangible assets for the quarter and nine months ended September 30, 2018 was $225 million and $680 million, respectively, compared with $211 million and $626 million for the same periods of 2017. The following is the expected amortization of intangible assets for the years 2018 through 2023, which reflects the pattern of expected economic benefit on certain aerospace intangible assets. 
(dollars in millions)
 
Remaining 2018
 
2019
 
2020
 
2021
 
2022
 
2023
Amortization expense
 
$
222

 
$
877

 
$
875

 
$
904

 
$
924

 
$
920

Note 2: Revenue Recognition
ASU 2014-09 and its related amendments (collectively, the New Revenue Standard) are effective for reporting periods beginning after December 15, 2017, and interim periods therein. We adopted the New Revenue Standard effective January 1, 2018 and elected the modified retrospective approach. The results for periods before 2018 were not adjusted for the new

9
Table of Contents

standard and the cumulative effect of the change in accounting was recognized through retained earnings at the date of adoption.
Revenue Recognition Accounting Policy Summary. We account for revenue in accordance with Accounting Standards Codification (ASC) Topic 606: Revenue from Contracts with Customers. Under Topic 606, a performance obligation is a promise in a contract with a customer to transfer a distinct good or service to the customer. Some of our contracts with customers contain a single performance obligation, while others contain multiple performance obligations most commonly when a contract spans multiple phases of the product life-cycle such as development, production, maintenance and support. A contract's transaction price is allocated to each distinct performance obligation and recognized as revenue when, or as, the performance obligation is satisfied. When there are multiple performance obligations within a contract, we allocate the transaction price to each performance obligation based on its standalone selling price.
We consider the contractual consideration payable by the customer and assess variable consideration that may affect the total transaction price, including contractual discounts, contract incentive payments, estimates of award fees, unfunded contract value under U.S. Government contracts, and other sources of variable consideration, when determining the transaction price of each contract. We include variable consideration in the estimated transaction price when there is a basis to reasonably estimate the amount. These estimates are based on historical experience, anticipated performance and our best judgment at the time. We also consider whether our contracts provide customers with significant financing. Generally, our contracts do not contain significant financing.
Point in time revenue recognition. Timing of the satisfaction of performance obligations varies across our businesses due to our diverse product and service mix, customer base, and contractual terms. Performance obligations are satisfied as of a point in time for heating, ventilating, air-conditioning and refrigeration systems, certain alarm and fire detection and suppression systems, and certain aerospace components, engines, and spare parts. Revenue is recognized when control of the product transfers to the customer, generally upon product shipment.
Over-time revenue recognition. Performance obligations are satisfied over-time if the customer receives the benefits as we perform work, if the customer controls the asset as it is being produced, or if the product being produced for the customer has no alternative use and we have a contractual right to payment. Revenue is recognized for our construction-type and certain production-type contracts on an over-time basis. We recognize revenue on an over-time basis on certain long-term aerospace aftermarket contracts and aftermarket service work; development, fixed price, and other cost reimbursement contracts in our aerospace businesses; and elevator and escalator sales, installation, service, modernization and other construction contracts in our commercial businesses. For construction and installation contracts within our commercial businesses and aerospace performance obligations satisfied over time, revenue is recognized using costs incurred to date relative to total estimated costs at completion to measure progress. Incurred costs represent work performed, which correspond with and best depict transfer of control to the customer. Contract costs include labor, materials, and subcontractors' costs, or other direct costs, and where applicable on government and commercial contracts, indirect costs.
For certain of our long-term aftermarket contracts, revenue is recognized over the contract period. In the commercial businesses, revenue is primarily recognized on a straight-line basis over the contract period. In the aerospace businesses, we generally account for such contracts as a series of daily obligations to stand ready to provide product maintenance and aftermarket services. Revenue is primarily recognized in proportion to cost as sufficient historical evidence indicates that the cost of performing services under the contract is incurred on an other than straight-line basis. Aerospace contract modifications are routine and contracts are often modified to account for changes in contract specifications or requirements. Contract modifications that are for goods or services that are not distinct are accounted for as part of the existing contract.
We incur costs for engineering and development of aerospace products directly related to existing or anticipated contracts with customers. Such costs generate or enhance our ability to satisfy our performance obligations under these contracts. We capitalize these costs as contract fulfillment costs to the extent the costs are recoverable from the associated contract margin and subsequently amortize the costs as the original equipment (OEM) products are delivered to the customer. In instances where intellectual property does not transfer to the customer, we defer the customer funding of OEM product engineering and development and recognize revenue when the OEM products are delivered to the customer. Costs to obtain contracts are not material.
Loss provisions on OEM contracts are recognized to the extent that estimated contract costs exceed the estimated consideration from the products contemplated under the contractual arrangement. For new commitments, we generally record loss provisions at the earlier of contract announcement or contract signing except for certain contracts under which losses are recorded upon receipt of the purchase order that obligates us to perform. For existing commitments, anticipated losses on contractual arrangements are recognized in the period in which losses become evident. Products contemplated under contractual arrangements include firm quantities of product sold under contract and, in the commercial engine and wheels and brakes businesses, future highly probable sales of replacement parts required by regulation that are expected to be sold subsequently

10
Table of Contents

for incorporation into the original equipment. In the commercial engine and wheels and brakes businesses, when the combined original equipment and aftermarket arrangement for each individual sales campaign are profitable, we record original equipment product losses, as applicable, at the time of delivery.
We review our cost estimates on significant contracts on a quarterly basis and for others, no less frequently than annually or when circumstances change and warrant a modification to a previous estimate. We record changes in contract estimates using the cumulative catch-up method.
The New Revenue Standard changed the revenue recognition practices for a number of revenue streams across our businesses, although the most significant impacts are concentrated in our aerospace units. Several of our businesses which previously accounted for revenue on a point in time basis are now required to use an over-time revenue recognition model when their contracts meet one or more of the mandatory criteria established in the New Revenue Standard. Revenue is now recognized on an over-time basis using an input method for repair contracts within Otis and UTC Climate, Controls & Security; certain U.S. Government and commercial aerospace equipment contracts; and aerospace aftermarket service work. We measure progress toward completion for these contracts using costs incurred to date relative to total estimated costs at completion. Incurred costs represent work performed, which corresponds with and best depicts the transfer of control to the customer. For these businesses, unrecognized sales related to the satisfied portion of the performance obligations of contracts in process as of the date of adoption of the New Revenue Standard of approximately $220 million were recorded through retained earnings. The ongoing effect on our reported revenues of recognizing revenue on an over-time basis within these businesses is not expected to be materially different than the previous revenue recognition method.
In addition to the foregoing, our aerospace businesses, in certain cases, also changed the timing of manufacturing cost recognition and certain engineering and development costs. In most circumstances, our commercial aerospace businesses identify the performance obligation as the individual OEM unit; revenue and cost to manufacture each unit are recognized upon OEM unit delivery. Under the prior accounting, the unit of accounting was the contract and early-contract OEM unit costs in excess of the average unit costs expected over the contract were capitalized and amortized over lower-cost units later in the contract. With the adoption of the New Revenue Standard, deferred unit costs in excess of the contract average of $438 million as of January 1, 2018 were eliminated through retained earnings, and as such, will not be amortized into future earnings.
Under the New Revenue Standard, costs incurred for engineering and development of aerospace products under contracts with customers must be capitalized as contract fulfillment costs, to the extent recoverable from the associated contract margin, and subsequently amortized as the OEM products are delivered to the customer. Under prior accounting, we generally expensed costs of engineering and development of aerospace products. The new standard also requires that customer funding of OEM product engineering and development be deferred in instances where intellectual property does not transfer to the customer and recognized as revenue when the OEM products are delivered. Engineering and development costs which do not qualify for capitalization as contract fulfillment costs are expensed as incurred. Prior to the New Revenue Standard, any customer funding received for such development efforts was recognized when earned, with the corresponding costs recognized as cost of sales.
With the adoption of the New Revenue Standard, we capitalized engineering and development costs of approximately $700 million as contract fulfillment cost assets through retained earnings as of January 1, 2018. We also established previously recognized customer funding of approximately $850 million as a contract liability through retained earnings as of the adoption date.
We expect the New Revenue Standard will have an immaterial impact on our 2018 net income. Adoption of the New Revenue Standard has resulted in Statement of Operations classification changes between Net Sales, Cost of sales, Research & development, and Other income. The New Revenue Standard also resulted in the establishment of Contract asset and Contract liability balance sheet accounts, and in the reclassification of balances to these new accounts from Accounts receivable, Inventories and contracts in progress, net, and Accrued liabilities. In addition to the following disclosures, Note 16 provides incremental disclosures required by the New Revenue Standard, including disaggregation of revenue into categories that depict how the nature, amount, timing and uncertainty of revenue and cash flows are affected by economic factors.
The following schedules quantify the impact of the New Revenue Standard on the statement of operations for the quarter and nine months ended September 30, 2018. The effect of the new standard represents the increase (decrease) in the line item based on the adoption of the New Revenue Standard.

11
Table of Contents

(dollars in millions)
Quarter Ended September 30, 2018, under previous standard
 
Effect of the New Revenue Standard
 
Quarter Ended September 30, 2018 as reported
Net Sales:
 
 
 
 
 
Product sales
$
11,228

 
$
26

 
$
11,254

Service sales
5,233

 
23

 
5,256

 
16,461

 
49

 
16,510

Costs and Expenses:
 
 
 
 
 
Cost of products sold
9,389

 
(47
)
 
9,342

Cost of services sold
3,172

 
22

 
3,194

Research and development
614

 
(28
)
 
586

Selling, general and administrative
1,681

 
—

 
1,681

 
14,856

 
(53
)
 
14,803

Other income, net
132

 
(1
)
 
131

Operating profit
1,737

 
101

 
1,838

Non-service pension (benefit)
(188
)
 
—

 
(188
)
Interest expense, net
258

 
—

 
258

Income from operations before income taxes
1,667

 
101

 
1,768

Income tax expense
394

 
25

 
419

Net income from operations
1,273

 
76

 
1,349

Less: Noncontrolling interest in subsidiaries' earnings from operations
113

 
(2
)
 
111

Net income attributable to common shareowners
$
1,160

 
$
78

 
$
1,238

(dollars in millions)
Nine Months Ended September 30, 2018, under previous standard

 
Effect of the New Revenue Standard
 

Nine Months Ended September 30, 2018 as reported

Net Sales:
 
 
 
 
 
Product sales
$
32,801

 
$
231

 
$
33,032

Service sales
15,201

 
224

 
15,425

 
48,002

 
455

 
48,457

Costs and Expenses:
 
 
 
 
 
Cost of products sold
26,250

 
262

 
26,512

Cost of services sold
9,568

 
158

 
9,726

Research and development
1,794

 
(65
)
 
1,729

Selling, general and administrative
5,151

 
—

 
5,151

 
42,763

 
355

 
43,118

Other income, net
1,307

 
(4
)
 
1,303

Operating profit
6,546

 
96

 
6,642

Non-service pension (benefit)
(571
)
 
—

 
(571
)
Interest expense, net
721

 
—

 
721

Income from operations before income taxes
6,396

 
96

 
6,492

Income tax expense
1,612

 
24

 
1,636

Net income from operations
4,784

 
72

 
4,856

Less: Noncontrolling interest in subsidiaries' earnings from operations
269

 
4

 
273

Net income attributable to common shareowners
$
4,515

 
$
68

 
$
4,583


12
Table of Contents

The New Revenue Standard resulted in an increase to Product and Service sales and Cost of products and services sold primarily due to the change to an over-time basis using an input method revenue model for certain U.S Government and commercial aerospace equipment contracts, and aerospace aftermarket service work at Pratt & Whitney and UTC Aerospace Systems. The New Revenue Standard also resulted in an increase in Cost of products sold during the nine months ended September 30, 2018 related to the timing of manufacturing cost recognition. During the quarter ended September 30, 2018, Cost of products sold were lower under the New Revenue Standard due to a change in the contract average unit costs during the quarter.
The lower amounts of research and development expense recognized under the New Revenue Standard reflect the capitalization of costs of engineering and development of aerospace products as contract fulfillment costs under contracts with customers.
The following schedule quantifies the impact of the New Revenue Standard on our balance sheet as of September 30, 2018.
(dollars in millions)
September 30, 2018 under previous standard
 
Effect of the New Revenue Standard
 
September 30, 2018 as reported
Assets
 
 
 
 
 
Accounts receivable, net
$
13,988

 
$
(1,438
)
 
$
12,550

Contract assets, current
—

 
3,450

 
3,450

Inventories
11,337

 
(2,269
)
 
9,068

Other assets, current
1,305

 
32

 
1,337

Future income tax benefits
1,669

 
32

 
1,701

Intangible assets, net
15,771

 
(70
)
 
15,701

Other assets
5,987

 
1,083

 
7,070

 
 
 
 
 
 
Liabilities and Equity
 
 
 
 
 
Accrued liabilities
$
14,153

 
$
(5,286
)
 
$
8,867

Contract liabilities, current
—

 
5,460

 
5,460

Other long term liabilities
12,357

 
1,016

 
13,373

Noncontrolling interest
2,138

 
6

 
2,144

 
 
 
 
 
 
Retained earnings
58,118

 
(412
)
 
57,706

The decrease in Retained earnings of $412 million in the table above reflects $480 million of adjustments to the balance sheet as of January 1, 2018, resulting from the adoption of the New Revenue Standard partially offset by $68 million higher reported net income under the New Revenue Standard during 2018. The declines in Accounts receivable, net, Inventories, Other assets, current, and Intangible assets, net, reflect reclassifications to contract assets, and specifically for Inventories, earlier recognition of costs of products sold for contracts requiring an over-time method of revenue recognition. The increase in Other assets reflects the establishment of non-current contract assets and contract fulfillment cost assets.
The decline in accrued liabilities is primarily due to the reclassification of payments from customers in advance of work performed as contract liabilities. The Other long term liabilities increase primarily reflects the establishment of non-current contract liabilities for certain customer funding of OEM product engineering and development, which will be recognized as revenue when the OEM products are delivered to the customer.

13
Table of Contents

Contract Assets and Liabilities. Contract assets reflect revenue recognized and performance obligations satisfied in advance of customer billing. Contract liabilities relate to payments received in advance of the satisfaction of performance under the contract. We receive payments from customers based on the terms established in our contracts. Total contract assets and contract liabilities as of September 30, 2018 are as follows:
(dollars in millions)
September 30, 2018
Contract assets, current
$
3,450

Contract assets, noncurrent (included within Other assets)
1,075

Total contract assets
4,525

Contract liabilities, current
(5,460
)
Contract liabilities, noncurrent (included within Other long-term liabilities)
(5,044
)
Total contract liabilities
(10,504
)
Net contract liabilities
$
(5,979
)
Under the New Revenue Standard, during the nine months ended September 30, 2018, net contract liabilities increased to $5,979 million. This reflects the establishment of $6,365 million of net contract liabilities upon the adoption, and $21,093 million of advance payments from customers and reclassifications of contract assets to receivables upon billing during the period. These increases were partially offset by the liquidation of beginning of period contract liabilities of $1,978 million as a result of revenue recognition, and by $19,499 million of revenue recognition within the period. The remaining change is primarily attributable to the impact of foreign currency exchange rate changes on the balance of contract assets and liabilities offset by net contract liabilities acquired through business combinations.
Remaining performance obligations ("RPO") are the aggregate amount of total contract transaction price that is unsatisfied or partially unsatisfied. As of September 30, 2018, our total RPO is $106.8 billion. Of this total, we expect approximately 42% will be recognized as sales over the following 24 months.
Note 3: Earnings Per Share
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in millions, except per share amounts; shares in millions)
2018
 
2017
 
2018
 
2017
Net income attributable to common shareowners
$
1,238

 
$
1,330

 
$
4,583

 
$
4,155

Basic weighted average number of shares outstanding
791.3

 
788.3

 
790.6

 
790.3

Stock awards and equity units (share equivalent)
10.5

 
8.8

 
10.1

 
9.1

Diluted weighted average number of shares outstanding
801.8

 
797.1

 
800.7

 
799.4

Earnings Per Share of Common Stock:
 
 
 
 
 
 
 
Basic
$
1.56

 
$
1.69

 
$
5.80

 
$
5.26

Diluted
$
1.54

 
$
1.67

 
$
5.72

 
$
5.20

The computation of diluted earnings per share excludes the effect of the potential exercise of stock awards, including stock appreciation rights and stock options, when the average market price of the common stock is lower than the exercise price of the related stock awards during the period because the effect would be anti-dilutive. In addition, the computation of diluted earnings per share excludes the effect of the potential exercise of stock awards when the awards’ assumed proceeds exceed the average market price of the common shares during the period. For the quarter and nine months ended September 30, 2018, the number of stock awards excluded from the computation was approximately 5.0 million and 5.2 million, respectively. For the quarter and nine months ended September 30, 2017, the number of stock awards excluded from the computation was approximately 5.8 million and 6.4 million, respectively.

14
Table of Contents

Note 4: Inventories and Contracts in Progress
(dollars in millions)
September 30, 2018
 
December 31, 2017
Raw materials
$
2,444

 
$
2,038

Work-in-process
2,292

 
3,366

Finished goods
4,332

 
3,845

Contracts in progress
—

 
10,205

 
9,068

 
19,454

Less:
 
 
 
Progress payments, secured by lien, on U.S. Government contracts
—

 
(236
)
Billings on contracts in progress
—

 
(9,337
)
 
$
9,068

 
$
9,881

Inventories as of December 31, 2017 included capitalized contract development costs of $127 million related to certain aerospace programs at UTC Aerospace Systems. Upon adoption of the New Revenue Standard, these costs are recorded as contract fulfillment costs included in Other assets.
Prior to the adoption of the New Revenue Standard, within our commercial aerospace business, inventory costs attributable to new engine offerings were recognized based on the average cost per unit expected over the life of each contract using the units-of-delivery method of percentage of completion accounting. Under this method, costs of initial engine deliveries in excess of the projected contract per unit average cost were capitalized and these capitalized amounts were subsequently expensed as additional engines were delivered for engines with costs below the projected contract per unit average cost over the life of the contract. As of December 31, 2017, inventory included $438 million of such capitalized amounts. Upon adoption of the New Revenue Standard, these amounts are no longer included in inventory. In addition, amounts previously reported as Contracts in progress have been reclassified as contract assets in accordance with the New Revenue Standard.
Note 5: Borrowings and Lines of Credit
(dollars in millions)
September 30, 2018
 
December 31, 2017
Commercial paper
$
1,380

 
$
300

Other borrowings
196

 
92

Total short-term borrowings
$
1,576

 
$
392

At September 30, 2018, we had revolving credit agreements with various banks permitting aggregate borrowings of up to $4.35 billion, pursuant to a $2.20 billion revolving credit agreement and a $2.15 billion multicurrency revolving credit agreement, both of which expire in August 2021. As of September 30, 2018, there were no borrowings under either of these agreements. The undrawn portions of these revolving credit agreements are also available to serve as backup facilities for the issuance of commercial paper. As of September 30, 2018, our maximum commercial paper borrowing limit was $4.35 billion. Commercial paper borrowings at September 30, 2018 include approximately €750 million ($881 million) of euro-denominated commercial paper. We use our commercial paper borrowings for general corporate purposes, including the funding of potential acquisitions, pension contributions, debt refinancing, dividend payments and repurchases of our common stock. The need for commercial paper borrowings arises when the use of domestic cash for general corporate purposes exceeds the sum of domestic cash generation and foreign cash repatriated to the U.S.
On August 16, 2018, we issued $1.0 billion aggregate principal amount of 3.350% notes due 2021, $2.25 billion aggregate principal amount of 3.650% notes due 2023, $1.5 billion aggregate principal amount of 3.950% notes due 2025, $3.0 billion aggregate principal amount of 4.125% notes due 2028, $750 million aggregate principal amount of 4.450% notes due 2038, $1.75 billion aggregate principal amount of 4.625% notes due 2048, and $750 million aggregate principal amount of floating rate notes due 2021. The net proceeds received from the issuance of the notes due 2021, notes due 2023, notes due 2025, notes due 2028, notes due 2038 and the floating rate notes due 2021 are specifically designated to finance payment obligations with respect to the cash consideration and related fees, expenses and other amounts in connection with the acquisition of Rockwell Collins. If either the acquisition of Rockwell Collins does not occur on or before July 15, 2019 or we notify the trustee that we will not pursue the acquisition of Rockwell Collins, we will be required to redeem the mandatorily redeemable notes then outstanding at a redemption price equal to 101% of the principal amount of such notes plus accrued and unpaid interest (the special mandatory redemption).

15
Table of Contents

We expect to use the proceeds of the notes due 2048 for general corporate purposes which may include the repayment of debt, including outstanding commercial paper. The notes due 2048 are not subject to the special mandatory redemption.
On May 18, 2018, we issued €750 million aggregate principal amount of 1.150% notes due 2024, €500 million aggregate principal amount of 2.150% notes maturing 2030 and €750 million aggregate principal amount of floating rate notes maturing 2020. The net proceeds received from these debt issuances were used for general corporate purposes.
On May 4, 2018, we repaid at maturity approximately $1.1 billion aggregate principal amount of 1.778% junior subordinated notes.
On February 1, 2018, we repaid at maturity the $99 million 6.80% notes and on February 22, 2018, we repaid at maturity the €750 million EURIBOR plus 0.80% floating rate notes.
In connection with the merger agreement with Rockwell Collins announced on September 4, 2017, we entered into a $6.5 billion 364-day unsecured bridge loan credit agreement that would have been funded only to the extent certain anticipated debt issuances were not completed prior to the completion of the merger. This unsecured bridge loan credit agreement was terminated on August 16, 2018 upon issuance of the $11 billion of aggregate principal notes described above. See Note 1 for additional discussion.
Long-term debt consisted of the following:
(dollars in millions)
September 30, 2018
 
December 31, 2017
6.800% notes due 2018
$
—

 
$
99

EURIBOR plus 0.800% floating rate notes due 2018 (€750 million principal value) 2
—

 
890

1.778% junior subordinated notes due 2018
—

 
1,100

LIBOR plus 0.350% floating rate notes due 2019 3
350

 
350

1.500% notes due 2019 1
650

 
650

EURIBOR plus 0.15% floating rate notes due 2019 (€750 million principal value) 2
881

 
890

8.875% notes due 2019
271

 
271

4.875% notes due 2020 1
171

 
171

4.500% notes due 2020 1
1,250

 
1,250

1.900% notes due 2020 1
1,000

 
1,000

EURIBOR plus 0.20% floating rate notes due 2020 (€750 million principal value) 2
881

 
—

8.750% notes due 2021
250

 
250

3.350% notes due 2021 1
1,000

 
—

LIBOR plus 0.650% floating rate notes due 2021 1,3
750

 
—

1.950% notes due 2021 1
750

 
750

1.125% notes due 2021 (€950 million principal value) 1
1,117

 
1,127

2.300% notes due 2022 1
500

 
500

3.100% notes due 2022 1
2,300

 
2,300

1.250% notes due 2023 (€750 million principal value) 1
881

 
890

3.650% notes due 2023 1
2,250

 
—

2.800% notes due 2024 1
800

 
800

1.150% notes due 2024 (€750 million principal value) 1
881

 
—

3.950% notes due 2025 1
1,500

 
—

1.875% notes due 2026 (€500 million principal value) 1
588

 
593

2.650% notes due 2026 1
1,150

 
1,150

3.125% notes due 2027 1
1,100

 
1,100

7.100% notes due 2027
141

 
141

6.700% notes due 2028
400

 
400

4.125% notes due 2028 1
3,000

 
—

7.500% notes due 2029 1
550

 
550

2.150% notes due 2030 (€500 million principal value) 1
588

 
—

5.400% notes due 2035 1
600

 
600


16
Table of Contents

6.050% notes due 2036 1
600

 
600

6.800% notes due 2036 1
134

 
134

7.000% notes due 2038
159

 
159

6.125% notes due 2038 1
1,000

 
1,000

4.450% notes due 2038 1
750

 
—

5.700% notes due 2040 1
1,000

 
1,000

4.500% notes due 2042 1
3,500

 
3,500

4.150% notes due 2045 1
850

 
850

3.750% notes due 2046 1
1,100

 
1,100

4.050% notes due 2047 1
600

 
600

4.625% notes due 2048 1
1,750

 
—

Project financing obligations
250

 
158

Other (including capitalized leases)
230

 
195

Total principal long-term debt
38,473

 
27,118

Other (fair market value adjustments and discounts)
(106
)
 
(25
)
Total long-term debt
38,367

 
27,093

Less: current portion
92

 
2,104

Long-term debt, net of current portion
$
38,275

 
$
24,989

1
We may redeem these notes at our option pursuant to their terms.
2
The three-month EURIBOR rate as of September 30, 2018 was approximately -0.318%. The notes may be redeemed at our option in whole, but not in part, at any time in the event of certain developments affecting U.S. taxation.
3
The three-month LIBOR rate as of September 30, 2018 was approximately 2.398%.
The average maturity of our long-term debt at September 30, 2018 is approximately 11 years. The average interest expense rate on our total borrowings for the quarter and nine months ended September 30, 2018 and 2017 were as follows:
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
 
2018
 
2017
 
2018
 
2017
Average interest expense rate
3.6
%
 
3.6
%
 
3.5
%
 
3.6
%
We have an existing universal shelf registration statement filed with the Securities and Exchange Commission (SEC) for an indeterminate amount of equity and debt securities for future issuances, subject to our internal limitations on the amount of equity and debt to be issued under this shelf registration statement.
Note 6: Income Taxes
On December 22, 2017, Public Law 115-97 “An Act to Provide for Reconciliation Pursuant to Titles II and V of the Concurrent Resolution on the Budget for Fiscal Year 2018” was enacted. This law is commonly referred to as the Tax Cuts and Jobs Act of 2017 (TCJA). In accordance with Staff Accounting Bulletin 118 (SAB 118) issued on December 22, 2017, the U.S. income tax amounts recorded attributable to the TCJA’s deemed repatriation provision, the revaluation of U.S. deferred taxes and the tax consequences relating to states with current conformity to the Internal Revenue Code are provisional amounts. Due to the enactment date and tax complexities of the TCJA, the Company has not completed its accounting related to these items.
Prior to enactment of the TCJA, with few exceptions, U.S. income taxes had not been provided on undistributed earnings of UTC's international subsidiaries as the Company had intended to reinvest such earnings permanently outside the U.S. or to repatriate such earnings only when it was tax effective to do so. The Company continues to evaluate the impact of the TCJA on its existing accounting position related to the undistributed earnings. Due to the inherent complexities in determining any incremental U.S. Federal and State taxes and the non-U.S. taxes that may be due if all of these earnings were remitted to the U.S. and as provided for by SAB 118 this evaluation has not yet been completed and no provisional amount has been recorded in regard to the undistributed amounts. After completing its evaluation, the Company will accrue any additional taxes due on previously undistributed earnings to be distributed in the future.
The Company will continue to accumulate and refine the relevant data and computational elements needed to finalize its accounting for the effects of the TCJA by December 22, 2018.

17
Table of Contents

We conduct business globally and, as a result, UTC or one or more of our subsidiaries files income tax returns in the U.S. federal jurisdiction and various state and foreign jurisdictions. In the normal course of business we are subject to examination by taxing authorities throughout the world, including such major jurisdictions as Australia, Belgium, Brazil, Canada, China, France, Germany, Hong Kong, India, Italy, Japan, Mexico, Netherlands, Poland, Singapore, South Korea, Spain, Switzerland, the United Kingdom, and the United States. With few exceptions, we are no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations for years before 2006.
In the ordinary course of business, there is inherent uncertainty in quantifying our income tax positions. We assess our income tax positions and record tax benefits for all years subject to examination based upon management’s evaluation of the facts, circumstances, and information available at the reporting date. It is reasonably possible that a net reduction within the range of $40 million to $610 million of unrecognized tax benefits may occur within the next 12 months as a result of additional worldwide uncertain tax positions, the closure of tax statutes, or the revaluation of current uncertain tax positions arising from the issuance of legislation, regulatory or other guidance or developments in examinations, in appeals, or in the courts. The range of potential change includes provisional amounts related to the TCJA based on currently available information. See Note 15, Contingent Liabilities, for discussion regarding uncertain tax positions, included in the above range, related to pending litigation with respect to certain deductions claimed in Germany.
The Examination Division of the Internal Revenue Service is currently auditing UTC tax years 2014, 2015 and 2016, and the audit is expected to conclude within the next 12 months.
Note 7: Employee Benefit Plans
Pension and Postretirement Plans. We sponsor both funded and unfunded domestic and foreign defined pension and other postretirement benefit plans, and defined contribution plans.
In March 2017, the FASB issued ASU 2017-07, Compensation-Retirement Benefits (Topic 715), Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost. This ASU requires an employer to report the service cost component of net periodic pension benefit cost in the same line item or items as other compensation costs arising from services rendered by the pertinent employees during the period, with other cost components presented separately from the service cost component and outside of income from operations. This ASU also allows only the service cost component of net periodic pension benefit cost to be eligible for capitalization when applicable. This ASU was effective for years beginning after December 15, 2017. The Company adopted this standard on January 1, 2018 applying the presentation requirements retrospectively. We elected to apply the practical expedient, which allows us to reclassify amounts disclosed previously in the employee benefit plans note as the basis for applying retrospective presentation for comparative periods as it is impracticable to determine the disaggregation of the cost components for amounts capitalized and amortized in those periods. Provisions related to presentation of the service cost component eligibility for capitalization were applied prospectively.
The effect of the retrospective presentation change related to the net periodic benefit cost of our defined benefit pension and postretirement plans on our condensed consolidated statement of operations was as follows:

18
Table of Contents

 
Quarter Ended September 30, 2017
(dollars in millions)
Previously Reported
 
Effect of Change Higher/(Lower)
 
As Revised
Cost of product sold
$
7,750

 
$
50

 
$
7,800

Cost of services sold
3,293

 
13

 
3,306

Research and development
582

 
10

 
592

Selling, general and administrative
1,524

 
58

 
1,582

Non-service pension (benefit)
—

 
(131
)
 
(131
)
 
Nine Months Ended September 30, 2017
(dollars in millions)
Previously Reported
 
Effect of Change Higher/(Lower)
 
As Revised
Cost of product sold
$
22,920

 
$
148

 
$
23,068

Cost of services sold
9,300

 
38

 
9,338

Research and development
1,768

 
29

 
1,797

Selling, general and administrative
4,544

 
165

 
4,709

Non-service pension (benefit)
—

 
(380
)
 
(380
)
Contributions to our plans were as follows:
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Defined benefit plans
$
13

 
$
1,929

 
$
72

 
$
2,008

Defined contribution plans
97

 
86

 
296

 
262

    
There were no contributions to our domestic defined benefit pension plans in the quarter and nine months ended September 30, 2018. There was a $1.9 billion contribution to our domestic defined benefit pension plans in the quarter and nine months ended September 30, 2017. The following table illustrates the components of net periodic benefit cost for our defined pension and other postretirement benefit plans:
 
Pension Benefits
Quarter Ended September 30,
 
Other Postretirement Benefits
Quarter Ended September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Service cost
$
94

 
$
94

 
$
—

 
$
—

Interest cost
274

 
281

 
7

 
9

Expected return on plan assets
(558
)
 
(555
)
 
—

 
—

Amortization of prior service credit
(11
)
 
(9
)
 
—

 
(1
)
Recognized actuarial net loss (gain)
100

 
144

 
(3
)
 
(2
)
Net settlement and curtailment loss
3

 
2

 
—

 
—

Total net periodic benefit (income) cost
$
(98
)
 
$
(43
)
 
$
4

 
$
6


19
Table of Contents

 
Pension Benefits
Nine Months Ended September 30,
 
Other Postretirement Benefits
Nine Months Ended September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Service cost
$
280

 
$
280

 
$
1

 
$
2

Interest cost
831

 
838

 
19

 
22

Expected return on plan assets
(1,683
)
 
(1,636
)
 
—

 
—

Amortization of prior service credit
(31
)
 
(27
)
 
(2
)
 
(1
)
Recognized actuarial net loss (gain)
302

 
430

 
(7
)
 
(7
)
Net settlement and curtailment loss
—

 
1

 
—

 
—

Total net periodic benefit (income) cost
$
(301
)
 
$
(114
)
 
$
11

 
$
16


Note 8: Restructuring Costs
During the nine months ended September 30, 2018, we recorded net pre-tax restructuring costs totaling $186 million for new and ongoing restructuring actions. We recorded charges in the segments as follows:
(dollars in millions)
 
Otis
$
50

UTC Climate, Controls & Security
52

Pratt & Whitney
3

UTC Aerospace Systems
77

Eliminations and other
4

Total
$
186

Restructuring charges incurred during the nine months ended September 30, 2018 primarily relate to actions initiated during 2018 and 2017, and were recorded as follows:
(dollars in millions)
 
Cost of sales
$
112

Selling, general and administrative
76

Non-service pension (benefit)
(2
)
Total
$
186

2018 Actions. During the nine months ended September 30, 2018, we recorded net pre-tax restructuring costs of $97 million, comprised of $47 million in cost of sales, $52 million in selling, general and administrative expenses, and $(2) million in non-service pension benefit. The 2018 actions relate to ongoing cost reduction efforts, including workforce reductions and the consolidation of field and manufacturing operations.

20
Table of Contents

We are targeting to complete the majority of the remaining workforce and facility related cost reduction actions during 2018 and 2019. No specific plans for other significant actions have been finalized at this time. The following table summarizes the accrual balance and utilization for the 2018 restructuring actions for the quarter and nine months ended September 30, 2018:
(dollars in millions)
Severance
 
Facility Exit, Lease Termination and Other Costs
 
Total
Quarter Ended September 30, 2018
 
 
 
 
 
Restructuring accruals at June 30, 2018
$
48

 
$
—

 
$
48

Net pre-tax restructuring costs
19

 
5

 
24

Utilization and foreign exchange
(19
)
 
(2
)
 
(21
)
Balance at September 30, 2018
$
48

 
$
3

 
$
51

 
 
 
 
 
 
Nine Months Ended September 30, 2018
 
 
 
 
 
Net pre-tax restructuring costs
$
90

 
$
7

 
$
97

Utilization and foreign exchange
(42
)
 
(4
)
 
(46
)
Balance at September 30, 2018
$
48

 
$
3

 
$
51

The following table summarizes expected, incurred and remaining costs for the 2018 restructuring actions by segment:
(dollars in millions)
Expected
Costs
 
Costs Incurred Quarter Ended
March 31, 2018
 
Costs Incurred Quarter Ended
June 30, 2018
 
Costs Incurred Quarter Ended
September 30, 2018
 
Remaining Costs at
September 30, 2018
Otis
$
40

 
$
(9
)
 
$
(18
)
 
$
(2
)
 
$
11

UTC Climate, Controls & Security
97

 
(1
)
 
(23
)
 
(14
)
 
59

Pratt & Whitney
3

 
—

 
(3
)
 
—

 
—

UTC Aerospace Systems
36

 
—

 
(15
)
 
(8
)
 
13

Eliminations and other
4

 
(2
)
 
(2
)
 
—

 
—

Total
$
180

 
$
(12
)
 
$
(61
)
 
$
(24
)
 
$
83

2017 Actions. During the nine months ended September 30, 2018, we recorded net pre-tax restructuring costs totaling $76 million for restructuring actions initiated in 2017, including $56 million in cost of sales and $20 million in selling, general and administrative expenses. The 2017 actions relate to ongoing cost reduction efforts, including workforce reductions, consolidation of field and manufacturing operations, and costs to exit legacy programs. The following table summarizes the accrual balances and utilization for the 2017 restructuring actions for the quarter and nine months ended September 30, 2018:
(dollars in millions)
Severance
 
Facility Exit,
Lease
Termination and
Other Costs
 
Total
Quarter Ended September 30, 2018
 
 
 
 
 
Restructuring accruals at June 30, 2018
$
73

 
$
(3
)
 
$
70

Net pre-tax restructuring costs
3

 
6

 
9

Utilization and foreign exchange
(19
)
 
(8
)
 
(27
)
Balance at September 30, 2018
$
57

 
$
(5
)
 
$
52

 
 
 
 
 
 
Nine Months Ended September 30, 2018
 
 
 
 
 
Restructuring accruals at December 31, 2017
$
84

 
$
1

 
$
85

Net pre-tax restructuring costs
50

 
26

 
76

Utilization and foreign exchange
(77
)
 
(32
)
 
(109
)
Balance at September 30, 2018
$
57

 
$
(5
)
 
$
52


21
Table of Contents

The following table summarizes expected, incurred and remaining costs for the 2017 restructuring actions by segment:
(dollars in millions)
Expected
Costs
 
Costs Incurred in 2017
 
Costs Incurred Quarter Ended
March 31, 2018
 
Costs Incurred Quarter Ended
June 30, 2018
 
Costs Incurred Quarter Ended
September 30, 2018
 
Remaining Costs at
September 30, 2018
Otis
$
69

 
$
(43
)
 
$
(15
)
 
$
(4
)
 
$
(1
)
 
$
6

UTC Climate, Controls & Security
78

 
(76
)
 
(7
)
 
5

 
1

 
1

Pratt & Whitney
7

 
(7
)
 
—

 
—

 
—

 
—

UTC Aerospace Systems
207

 
(43
)
 
(29
)
 
(17
)
 
(9
)
 
109

Eliminations and other
7

 
(7
)
 
—

 
—

 
—

 
—

Total
$
368

 
$
(176
)
 
$
(51
)
 
$
(16
)
 
$
(9
)
 
$
116

2016 and Prior Actions. During the nine months ended September 30, 2018, we recorded net pre-tax restructuring costs totaling $13 million for restructuring actions initiated in 2016 and prior. As of September 30, 2018, we have approximately $83 million of accrual balances remaining related to 2016 and prior actions.
Note 9: Financial Instruments
We enter into derivative instruments primarily for risk management purposes, including derivatives designated as hedging instruments under the Derivatives and Hedging Topic of the FASB ASC and those utilized as economic hedges. We operate internationally and, in the normal course of business, are exposed to fluctuations in interest rates, foreign exchange rates and commodity prices. These fluctuations can increase the costs of financing, investing and operating the business. We have used derivative instruments, including swaps, forward contracts and options, to manage certain foreign currency, interest rate and commodity price exposures.
The four quarter rolling average of the notional amount of foreign exchange contracts hedging foreign currency transactions was $20.0 billion and $19.1 billion at September 30, 2018 and December 31, 2017, respectively.
The following table summarizes the fair value and presentation in the Condensed Consolidated Balance Sheets for derivative instruments as of September 30, 2018 and December 31, 2017:
(dollars in millions)
Balance Sheet Location
September 30, 2018
 
December 31, 2017
Derivatives designated as hedging instruments:
 
 
 
 
Foreign exchange contracts
Asset Derivatives:
 
 
 
 
Other assets, current
$
36

 
$
77

 
Other assets
46

 
101

 
Total asset derivatives
$
82

 
$
178

 
Liability Derivatives:
 
 
 
 
Accrued liabilities
(25
)
 
(10
)
 
Other long-term liabilities
(35
)
 
(8
)
 
Total liability derivatives
$
(60
)
 
$
(18
)
Derivatives not designated as hedging instruments:
 
 
 
 
Foreign exchange contracts
Asset Derivatives:
 
 
 
 
Other assets, current
48

 
70

 
Other assets
20

 
5

 
Total asset derivatives
$
68

 
$
75

 
Liability Derivatives:
 
 
 
 
Accrued liabilities
(55
)
 
(57
)
 
Other long-term liabilities
(3
)
 
(3
)
 
Total liability derivatives
$
(58
)
 
$
(60
)

22
Table of Contents

The effect of cash flow hedging relationships on accumulated other comprehensive income for the quarter and nine months ended September 30, 2018 and 2017 are presented in the table below. The amounts of gain or (loss) are attributable to foreign exchange contract activity and are recorded as a component of Product sales when reclassified from accumulated other comprehensive income.
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Gain (loss) recorded in Accumulated other comprehensive loss
$
95

 
$
310

 
$
(105
)
 
$
440

Loss (gain) reclassified from Accumulated other comprehensive loss into Product sales
2

 
(24
)
 
(26
)
 
(14
)
The table above reflects the effect of cash flow hedging relationships on the Condensed Consolidated Statements of Operations for the quarter and nine months ended September 30, 2018 and 2017. The Company utilizes the critical terms match method in assessing derivatives for hedge effectiveness. Accordingly, the hedged items and derivatives designated as hedging instruments are highly effective.
We have approximately €4.95 billion of euro-denominated long-term debt and €750 million of euro-denominated commercial paper borrowings outstanding, which qualify as a net investment hedge against our investments in European businesses. As of September 30, 2018, the net investment hedge is deemed to be effective.
Assuming current market conditions continue, a $10 million pre-tax gain is expected to be reclassified from Accumulated other comprehensive loss into Product sales to reflect the fixed prices obtained from foreign exchange hedging within the next 12 months. At September 30, 2018, all derivative contracts accounted for as cash flow hedges will mature by October 2022.
The effect of derivatives not designated as hedging instruments within Other income, net, on the Condensed Consolidated Statement of Operations was as follows:
 
Quarter Ended September 30,
 
Nine Months Ended September 30,
(dollars in millions)
2018
 
2017
 
2018
 
2017
Foreign exchange contracts
$
16

 
$
10

 
$
86

 
$
50

Note 10: Fair Value Measurements
In accordance with the provisions of ASC 820, the following tables provide the valuation hierarchy classification of assets and liabilities that are carried at fair value and measured on a recurring and nonrecurring basis in our Condensed Consolidated Balance Sheet as of September 30, 2018 and December 31, 2017: 
September 30, 2018 (dollars in millions)
Total
 
Level 1
 
Level 2
 
Level 3
Recurring fair value measurements:
 
 
 
 
 
 
 
Available-for-sale securities
$
42

 
$
42

 
$
—

 
$
—

Derivative assets
150

 
—

 
150

 
—

Derivative liabilities
(118
)
 
—

 
(118
)
 
—

December 31, 2017 (dollars in millions)
Total
 
Level 1
 
Level 2
 
Level 3
Recurring fair value measurements:
 
 
 
 
 
 
 
Available-for-sale securities
$
64

 
$
64

 
$
—

 
$
—

Derivative assets
253

 
—

 
253

 
—

Derivative liabilities
(78
)
 
—

 
(78
)
 
—

Valuation Techniques. Our available-for-sale securities include equity investments that are traded in active markets, either domestically or internationally, and are measured at fair value using closing stock prices from active markets. Our derivative assets and liabilities include foreign exchange contracts that are measured at fair value using internal models based on observable market inputs such as forward rates, interest rates, our own credit risk and our counterparties' credit risks. As of September 30, 2018, there were no significant transfers in or out of Level 1 and Level 2.
As of September 30, 2018, there has not been any significant impact to the fair value of our derivative liabilities due to our own credit risk. Similarly, there has not been any significant adverse impact to our derivative assets based on our evaluation of our counterparties' credit risks.

23
Table of Contents

The following table provides carrying amounts and fair values of financial instruments that are not carried at fair value in our Condensed Consolidated Balance Sheet at September 30, 2018 and December 31, 2017:
 
September 30, 2018
 
December 31, 2017
(dollars in millions)
Carrying
Amount
 
Fair
Value
 
Carrying
Amount
 
Fair
Value
Long-term receivables
$
128

 
$
125

 
$
127

 
$
121

Customer financing notes receivable
458

 
433

 
609

 
596

Short-term borrowings
(1,576
)
 
(1,576
)
 
(392
)
 
(392
)
Long-term debt (excluding capitalized leases)
(38,344
)
 
(38,803
)
 
(27,067
)
 
(29,180
)
Long-term liabilities
(295
)
 
(263
)
 
(362
)
 
(330
)
The following table provides the valuation hierarchy classification of assets and liabilities that are not carried at fair value in our Condensed Consolidated Balance Sheet at September 30, 2018 and December 31, 2017:
 
September 30, 2018
(dollars in millions)
Total
 
Level 1
 
Level 2
 
Level 3
Long-term receivables
$
125

 
$
—

 
$
125

 
$
—

Customer financing notes receivable
433

 
—

 
433

 
—

Short-term borrowings
(1,576
)
 
—

 
(1,380
)
 
(196
)
Long-term debt (excluding capitalized leases)
(38,803
)
 
—

 
(38,465
)