** **

**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**WASHINGTON, D. C. 20549**

** **

**FORM 10-Q**

 
| **(Mark One)**                                                                                                  | ** ** | ** **                                                                                              |
|-----------------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------------------------------------------|
|                                                                                                            |       |                                                                                                    |
| ý                                                                                                          | ** ** | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                      | ** ** | ** **                                                                                              |
|                                                                                                            |       |                                                                                                    |
| **For the quarterly period ended March 31,  2006**                                                         |
|                                                                                                            |       |                                                                                                    |
| **OR**                                                                                                          |
|                                                                                                            |       |                                                                                                    |
| o                                                                                                               | ** ** | **TRANSITION REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934** |
| ** **                                                                                                      | ** ** | ** **                                                                                              |
|                                                                                                            |       |                                                                                                    |
| **For the transition period from               to** |
|                                                                                                            |       |                                                                                                    |
| **Commission File No. 1-31946**                                                                            |

 

**HOSPIRA,INC.**
| **A Delaware corporation** |   |   |   | I.R.S. Employer  Identification |
|----------------------------|--------|--------|--------|---------------------------------|
|                       |   |   |   | **No. 20-0504497**         |

 

**275 N.Field DriveLake Forest, Illinois 60045**

Telephone:**  (224) 212-2000**

Indicate by check markwhether the registrant (l) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of l934 during the preceding l2months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.    Yes  x. No o.

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, or a non-accelerated filer. See definition of “acceleratedfiler and large accelerated filer” in Rule 12b-2 of the ExchangeAct.

Large accelerated filer x                    Accelerated filer  o                             Non-acceleratedfiler  o

Indicate by check markwhether the registrant is a shell company (as defined in Rule 12b-2of the Exchange Act). Yes  o. No  x.

As of April 30,2006, Hospira, Inc. had outstanding 156,211,904 shares of common stock,par value $0.01 per share.

 

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**Hospira, Inc.**

**QuarterlyReport on Form 10-Q**

**Index**

**Part I— Financial Information**
| Item 1.                                    |   | Financial Statements                                                                                                                | 3      |   |
|--------------------------------------------|--------|-------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| ** **                                 |   |                                                                                                                                |   |   |
| ** **                                 |   | Condensed  Consolidated Statements of Income (Unaudited) — Three Months Ended  March 31, 2006 and March 31, 2005     | 3      |   |
|                                       |   |                                                                                                                                |   |   |
|                                       |   | Condensed  Consolidated Statements of Cash Flows (Unaudited) — Three Months Ended  March 31, 2006 and March 31, 2005 | 4      |   |
|                                       |   |                                                                                                                                |   |   |
| ** **                                 |   | Condensed  Consolidated Balance Sheets (Unaudited) — March 31, 2006 and  December 31, 2005                           | 5      |   |
|                                       |   |                                                                                                                                |   |   |
|                                       |   | Condensed  Consolidated Statement of Changes in Shareholders’ Equity (Unaudited) —Three  Months Ended March 31, 2006 | 6      |   |
|                                       |   |                                                                                                                                |   |   |
|                                       |   | Notes to  Condensed Consolidated Financial Statements (Unaudited)                                                                   | 7      |   |
|                                       |   |                                                                                                                                |   |   |
| Item  2.                                   |   | Management’s  Discussion and Analysis of Financial Condition and Results of Operations                                         | 15     |   |
|                                       |   |                                                                                                                                |   |   |
| Item  3.                                   |   | Quantitative  and Qualitative Disclosures about Market Risk                                                                         | 20     |   |
|                                       |   |                                                                                                                                |   |   |
| Item 4.                                    |   | Controls and  Procedures                                                                                                            | 21     |   |
|                                       |   |                                                                                                                                |   |   |
| **Part II — Other  Information** |   |                                                                                                                                |   |
| Item 1.                                    |   | Legal  Proceedings                                                                                                                  | 22     |   |   |
|                                       |   |                                                                                                                                |   |   |   |
| Item 1A.                              |   | Risk  Factors                                                                                                                       | 22     |   |   |
|                                       |   |                                                                                                                                |   |   |   |
| Item  2.                                   |   | Changes in Securities  and Use of Proceeds                                                                                          | 22     |   |   |
|                                       |   |                                                                                                                                |   |   |   |
| Item 6.                                    |   | Exhibits                                                                                                                            | 23     |   |   |
|                                            |        |                                                                                                                                     |        |        |  |  |  |  |

 

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**PART  I. FINANCIAL INFORMATION**

**Item1. Financial Statements**

**Hospira, Inc.**

**Condensed Consolidated Statements ofIncome**

**(Unaudited)**

***(dollars and shares in thousands,except for per share amounts)***
| ** **                           | ** ** | **Three Months Ended March 31** | ** ** |
|--------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                           | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| Net sales                            |       | $                                                   | 624,106    |   | $ | 616,695 |   |
| Net sales to  Abbott Laboratories    |       | 40,188                                              |       | 45,366 |   |
| Total Net Sales                      |       | 664,294                                             |       | 662,061 |   |
|                                 |       |                                                |       |   |   |
| Cost of products  sold               |       | 419,498                                             |       | 444,285 |   |
| Gross Profit                         |       | 244,796                                             |       | 217,776 |   |
|                                 |       |                                                |       |   |   |
| Research and  development            |       | 31,001                                              |       | 28,391 |   |
| Selling, general  and administrative |       | 101,794                                             |       | 81,875 |   |
| Income From Operations               |       | 112,001                                             |       | 107,510 |   |
|                                 |       |                                                |       |   |   |
| Interest expense                     |       | 7,657                                               |       | 7,169 |   |
| Other (income),  net                 |       | (4,746                                              | )          | (1,205 | ) |
| Income Before Income Taxes           |       | 109,090                                             |       | 101,546 |   |
|                                 |       |                                                |       |   |   |
| Income tax  expense                  |       | 28,907                                              |       | 24,371 |   |
| Net Income                           |       | $                                                   | 80,183     |   | $ | 77,175 |   |
|                                 |       |                                                |       |   |   |
| Earnings Per Common  Share:          |       |                                                |       |   |   |
| Basic                                |       | $                                                   | 0.50       |   | $ | 0.49 |   |
| Diluted                              |       | $                                                   | 0.49       |   | $ | 0.49 |   |
|                                 |       |                                                |       |   |   |
| Weighted Average Common              |       |                                                |       |   |   |
| Shares  Outstanding:                 |       |                                                |       |   |   |
| Basic                                |       | 160,933                                             |       | 157,191 |   |
| Diluted                              |       | 164,345                                             |       | 158,519 |   |

 

Theaccompanying notes are an integral part of these condensed consolidatedfinancial statements.

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**Hospira, Inc.**

**Condensed Consolidated Statements ofCash Flows**

**(Unaudited)**

***(dollars in thousands)***
| ** **                                                                 | ** ** | **Three Months Ended March 31** | ** ** |
|----------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                 | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
|                                                                       |       |                                                |       |   |   |
| Cash Flow From (Used  in) Operating Activities:                            |       |                                                |       |   |   |
|                                                                       |       |                                                |       |   |   |
| Net income                                                                 |       | $                                                   | 80,183     |   | $ | 77,175 |   |
| Adjustments to reconcile  net income to net cash from operating activities |       |                                                |       |   |   |
| Depreciation                                                               |       | 37,137                                              |       | 39,770 |   |
| Amortization of intangibles                                                |       | 482                                                 |       | 815 |   |
| Stock-based compensation expense                                           |       | 6,511                                               |       | - |   |
| Trade receivables                                                          |       | (32,815                                             | )          | (28,753 | ) |
| Inventories                                                                |       | (50,929                                             | )          | (8,370 | ) |
| Prepaid expenses and other assets                                          |       | (3,109                                              | )          | 1,079 |   |
| Trade accounts payable and other liabilities                               |       | 66,684                                              |       | 23,451 |   |
| Other, net                                                                 |       | 26,387                                              |       | (14,763 | ) |
| Net Cash From Operating Activities                                         |       | 130,531                                             |       | 90,404 |   |
|                                                                       |       |                                                |       |   |   |
| Cash Flow (Used in)  From Investing Activities:                            |       |                                                |       |   |   |
|                                                                       |       |                                                |       |   |   |
| Acquisitions of property and equipment                                     |       | (75,986                                             | )          | (50,065 | ) |
| Investments                                                                |       | (12,045                                             | )          | — |   |
| Sales of marketable securities                                             |       | —                                              |       | 72,438 |   |
| Net Cash (Used in) From Investing Activities                               |       | (88,031                                             | )          | 22,373 |   |
|                                                                       |       |                                                |       |   |   |
| Cash Flow (Used in)  From Financing Activities:                            |       |                                                |       |   |   |
|                                                                       |       |                                                |       |   |   |
| Payment to Abbott for international net assets                             |       | (26,129                                             | )          | — |   |
| Common stock repurchased                                                   |       | (224,793                                            | )          | — |   |
| Issuance of long-term debt, net of fees paid                               |       | —                                              |       | 1,750 |   |
| Repayment of long-term debt                                                |       | (44                                                 | )          | — |   |
| Other borrowings, net                                                      |       | 9                                                   |       | — |   |
| Excess tax benefit from stock-based compensation  arrangements             |       | 2,430                                               |       |   |   |
| Proceeds from stock options exercised                                      |       | 16,574                                              |       | 15,338 |   |
| Net Cash (Used in) From Financing Activities                               |       | (231,953                                            | )          | 17,088 |   |
|                                                                       |       |                                                |       |   |   |
| Effect of exchange rate changes on cash and cash  equivalents              |       | 635                                                 |       | (774 | ) |
|                                                                       |       |                                                |       |   |   |
| Net change in cash and cash equivalents                                    |       | (188,818                                            | )          | 129,091 |   |
| Cash and cash equivalents at beginning of period                           |       | 520,610                                             |       | 127,695 |   |
| Cash and cash equivalents at end of period                                 |       | $                                                   | 331,792    |   | $ | 256,786 |   |
|                                                                       |       |                                                |       |   |   |
| Supplemental  Cash Flow Information                                        |       |                                                |       |   |   |
|                                                                       |       |                                                |       |   |   |
| Cash paid  (received) during the period for:                               |       |                                                |       |   |   |
| Interest                                                                   |       | $                                                   | 227        |   | $ | 288 |   |
| Income taxes,  net                                                         |       | $                                                   | (147       | ) | $ | 375 |   |

 

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

 

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**Hospira, Inc.**

**Condensed Consolidated Balance Sheets**

**(Unaudited)**

***(dollars in thousands except for share data)***

*** ***
| ** **                                                                                                                            | ** ** | **March 31** | ** ** | **December 31** | ** ** |
|---------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|----------------------|------------|
| **Assets**                                                                                                                            | ** ** | **2006**          | ** ** | **2005**             | ** ** |
| Current Assets:                                                                                                                       |       |              |       |                 |       |
| Cash and cash equivalents                                                                                                             |       | $                 | 331,792    |                 | $          | 520,610 |   |
| Trade receivables, less allowances of $16,018 in  2006 and $16,887 in 2005                                                            |       | 362,531           |       | 327,146              |       |
| Inventories:                                                                                                                          |       |              |       |                 |       |
| Finished products                                                                                                                     |       | 342,624           |       | 300,860              |       |
| Work in process                                                                                                                       |       | 87,995            |       | 71,449               |       |
| Materials                                                                                                                             |       | 131,760           |       | 137,959              |       |
| Total inventories                                                                                                                     |       | 562,379           |       | 510,268              |       |
| Prepaid expenses, deferred income taxes and other  receivables                                                                        |       | 199,897           |       | 203,141              |       |
| Total Current Assets                                                                                                                  |       | 1,456,599         |       | 1,561,165            |       |
| Property and  equipment, at cost                                                                                                      |       | 2,200,684         |       | 2,181,022            |       |
| Less: accumulated depreciation                                                                                                        |       | 1,191,884         |       | 1,190,209            |       |
| Net Property and Equipment                                                                                                            |       | 1,008,800         |       | 990,813              |       |
| Intangible  assets, net of amortization                                                                                               |       | 14,444            |       | 14,926               |       |
| Goodwill                                                                                                                              |       | 89,197            |       | 89,197               |       |
| Deferred income  taxes                                                                                                                |       | 14,361            |       | 17,692               |       |
| Other assets                                                                                                                          |       | 126,444           |       | 115,389              |       |
| Total Assets                                                                                                                          |       | $                 | 2,709,845  |                 | $          | 2,789,182 |   |
| **Liabilities  and Shareholders’ Equity**                                                                                        | ** ** | ** **        | ** ** | ** **           | ** ** |
| Current Liabilities:                                                                                                                  |       |              |       |                 |       |
| Short-term borrowings                                                                                                                 |       | $                 | 6,043      |                 | $          | 2,579 |   |
| Trade accounts payable                                                                                                                |       | 170,467           |       | 129,865              |       |
| Salaries payable and other accruals                                                                                                   |       | 405,686           |       | 384,713              |       |
| Due to Abbott, net                                                                                                                    |       | 53,298            |       | 79,079               |       |
| Total Current Liabilities                                                                                                             |       | 635,494           |       | 596,236              |       |
| Long-term debt                                                                                                                        |       | 688,171           |       | 695,285              |       |
| Post-retirement  obligations, deferred income taxes and other long-term liabilities                                                   |       | 171,263           |       | 169,794              |       |
| Commitments and  Contingencies                                                                                                        |       |              |       |                 |       |
| Shareholders’ Equity:                                                                                                            |       |              |       |                 |       |
| Common stock, par value $0.01 - authorized:  400,000,000 shares; issued and outstanding shares: 2006: 156,835,493; 2005:  161,654,024 |       | 1,623             |       | 1,617                |       |
| Preferred stock, par value $0.01 - authorized:  50,000,000 shares; issued and outstanding: 0 shares                              |       | —            |       | —               |       |
| Treasury stock, at cost - Shares: 2006: 5,545,500                                                                                     |       | (224,793          | )          | —               |       |
| Unearned compensation                                                                                                                 |       | —            |       | (263                 | )          |
| Additional paid-in capital                                                                                                            |       | 971,579           |       | 943,577              |       |
| Retained earnings                                                                                                                     |       | 519,143           |       | 438,960              |       |
| Accumulated other comprehensive (loss)                                                                                                |       | (52,635           | )          | (56,024              | )          |
| Total Shareholders’ Equity                                                                                                       |       | 1,214,917         |       | 1,327,867            |       |
| Total Liabilities and  Shareholders’ Equity                                                                                      |       | $                 | 2,709,845  |                 | $          | 2,789,182 |   |

 

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

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**Hospira, Inc.**

**Condensed Consolidated Statement ofChanges in Shareholders’ Equity**

**(Unaudited)**

***(dollars and shares in thousands)***
| ** **                                                                         | ** ** | ** **            | ** ** | ** **        | ** ** | **Accumulated**        | ** ** | ** **     | ** ** | ** **   | ** ** | ** **       | ** ** | ** **   | ** ** | ** ** | ** ** |
|------------------------------------------------------------------------------------|------------|-----------------------|------------|-------------------|------------|------------------------|------------|----------------|------------|--------------|------------|------------------|------------|--------------|------------|------------|------------|
| ** **                                                                         | ** ** | ** **            | ** ** | ** **        | ** ** | **Other**              | ** ** | **Additional** | ** ** | ** **   | ** ** | ** **       | ** ** | ** **   | ** ** | ** ** | ** ** |
| ** **                                                                         | ** ** | **Common Stock** | ** ** | **Comprehensive** | ** ** | **Paid-in**            | ** ** | **Treasury**   | ** ** | **Unearned** | ** ** | **Retained**     | ** ** | ** **   | ** ** |
| ** **                                                                         | ** ** | **Shares**            | ** ** | **Amount**        | ** ** | **Income (Loss)** | ** ** | **Capital**    | ** ** | **Stock**    | ** ** | **Compensation** | ** ** | **Earnings** | ** ** | **Total**  | ** ** |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| **Balances at December 31, 2005**                                             |       | 161,668               |       | $                 | 1,617      |                   | $          | (56,024        | )          | $            | 943,577    |             | $          | —       |       | $          | (263       | ) | $ | 438,960 |   | $ | 1,327,867 |   |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| Net Income                                                                         |       | —                |       | —            |       | —                 |       | —         |       | —       |       | —           |       | 80,183       |       | 80,183     |       |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| Other comprehensive income                                                         |       | —                |       | —            |       | 3,389                  |       | —         |       | —       |       | —           |       | —       |       | 3,389      |       |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| Common stock repurchases                                                           |       | (5,546                | )          | —            |       | —                 |       | —         |       | (224,793     | )          | —           |       | —       |       | (224,793   | )          |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| Changes in shareholders’ equity related to  stock-based compensation programs |       | 713                   |       | 6                 |       | —                 |       | 28,002         |       | —       |       | 263              |       | —       |       | 28,271     |       |
|                                                                               |       |                  |       |              |       |                   |       |           |       |         |       |             |       |         |       |       |       |
| **Balances  at March 31, 2006**                                               |       | 156,835               |       | $                 | 1,623      |                   | $          | (52,635        | )          | $            | 971,579    |             | $          | (224,793     | )          | $          | —     |   | $ | 519,143 |   | $ | 1,214,917 |   |

 

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

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**Hospira, Inc.**

**Notesto Condensed Consolidated Financial Statements**

**March 31,2006**

**(Unaudited)**

**Note 1— Basis of Presentation**

These condensed consolidated financial statements have beenprepared pursuant to the rules and regulations of the Securities andExchange Commission (“SEC”) and, therefore, do not include all information andfootnote disclosures normally included in audited financial statements.However, in the opinion of management, all adjustments, consisting only ofnormal recurring adjustments, unless otherwise noted herein, necessary topresent fairly the results of operations, financial position and cash flowshave been made. These condensed consolidated financial statements should beread in conjunction with the consolidated financial statements and notesthereto included in Hospira’s Annual Report on Form 10-K for theyear ended December 31, 2005. The results of operations for any interimperiod are not necessarily indicative of the results of operations to beexpected for the full year.

Hospira became aseparate public company pursuant to a spin-off from Abbott Laboratories (“Abbott”)on April 30, 2004 (the “spin-off date”). In connection with the spin-off,Hospira and Abbott agreed that the legal transfer of certain operations andassets (net of liabilities) outside the United States would occur, and becompleted, within two years after the spin-off. These operations and assets areused in the conduct of Hospira’s international business and Hospira is subjectto the risks and entitled to the benefits generated by such operations andassets. Hospira is dependent on Abbott’s international infrastructure untilsuch legal transfers occur in each international country. These transfers areexpected to be completed in the second quarter of 2006.

**Note 2 — Significant Accounting Policies**

The preparation offinancial statements in accordance with generally accepted accountingprinciples in the United States (GAAP) requires management to make estimatesand judgments that affect the reported amounts of assets, liabilities, revenuesand expenses. A summary of Hospira’s significant accounting policies isincluded in Note 1 to the company’s consolidated financial statements includedin Hospira’s Annual Report on Form 10-K for the year ended December 31,2005.

In the quarter ended March 31,2006, Hospira expanded its revenue recognition policy to incorporate changesrelated to new product offerings, which include a server-based suite of softwareapplications and related maintenance and implementation services. In addition,Hospira adopted Statement of FinancialAccounting Standards (“SFAS”) No. 123R, “Share-Based Payment” on January 1,2006. All other significant accounting policies remain unchanged. The updatedpolicies are as follows.

*Revenue Recognition* — Hospira recognizes revenues from product saleswhen persuasive evidence of an arrangement exists, delivery has occurred, theprice is fixed and determinable, and collectibility is reasonably assured. Forother than certain drug delivery pumps and injectable pharmaceutical contractmanufacturing, product revenue is recognized when products are delivered tocustomers and title passes. In certain circumstances, Hospira enters intoarrangements in which it provides multiple elements to its customers. In thesecases, total revenue is divided among the separate units of accounting(deliverables) based on their relative fair value and is recognized for eachdeliverable in accordance with the applicable revenue recognition criteria. Therecognition of revenue is delayed if there are significant post-deliveryobligations, such as installation or customer acceptance.

For drug delivery pumps, revenue is typically derivedunder one of three types of arrangements: outright sales of the drug deliverypump; placements under lease arrangements; and placements under contracts thatinclude associated disposable set purchases. For pump placements, certainarrangements for which Hospira’s warranty obligation extends through the entireterm are accounted for as operating leases. For these, Hospira recognizesrevenue over the lease term, which averages five years. For leases under whichHospira’s warranty obligation is limited to approximately one year, Hospiraaccounts for these as sales-type leases, under which the discounted sales valueof the drug delivery pump is recorded as revenue upon delivery to the customeror completion of post-delivery obligations, if significant.

Hospirahas introduced a server-based suite of software applications designed toconnect data from a hospital’s drug information library to drug delivery pumpsthroughout the hospital. The arrangements related to such applicationstypically include a perpetual software license, software maintenance andimplementation services. Hospira recognizes revenue related to thesearrangements in accordance with the provisions of Statement of Position (SOP) 97-2,“Software Revenue Recognition,” as amended. Software license revenue andimplementation service revenue are generally recognized upon completion ofrelated obligations or customer acceptance and software maintenance revenue isrecognized ratably over the contract period.

Injectable pharmaceutical contract manufacturing involvesfilling customers’ active pharmaceutical ingredients (“API”) into delivery

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systems. Under these arrangements, customers’ API is often consigned toHospira and revenue is recorded for the materials and labor provided byHospira, plus a profit, upon shipment to the customer.

Alarge part of Hospira’s sales are through wholesalers and to group purchasingorganization (“GPO”) member hospitals. These sales typically include provisionsfor chargebacks, rebates and other adjustments, which are provided for as areduction in gross sales at the time the related sales are recorded. Historicaldata is readily available and reliable, and is used for estimating the amountsof the reduction in gross sales. See “Chargebacks and Rebates” in Note 1 to thecompany’s consolidated financial statements included in Hospira’s Annual Reporton Form 10-K for the year ended December 31, 2005 for furtherdetail.

*Stock-Based Compensation —*On January 1, 2006, Hospira adopted SFAS No. 123R,“Share-Based Payment”, which requires, among other changes, that the costresulting from all share-based payment transactions be recognized ascompensation cost over the vesting period based on the fair value of theinstrument on the date of grant. Under SFAS No. 123R, Hospira uses theBlack-Scholes option valuation model to determine the fair value of stockoptions. The fair value model includes various assumptions, including theexpected volatility and expected life of the awards. These assumptions reflectHospira’s best estimates, but they involve inherent uncertainties based onmarket conditions generally outside of Hospira’s control. As a result, if otherassumptions had been used, stock-based compensation expense, as calculated andrecorded under SFAS No. 123R, could have been materially impacted.Furthermore, if Hospira uses different assumptions in future periods,stock-based compensation expense could be materially impacted in futureperiods. See Note 4 for additional information regarding stock-basedcompensation.

**Note 3 — Restructuring Costs**

In August 2005 and February 2006,Hospira announced plans to close manufacturing plants in Donegal, Ireland,Ashland, Ohio and Montreal, Canada. Hospira also provided the planned timelinefor phasing out production at a facility in Abbott Laboratories’ North Chicago,Illinois campus, where it has leased space since the spin-off in April 2004.The aggregate restructuring charges that Hospira will incur related to theseactions are expected to be in the range of $75 million to $95 million on apre-tax basis. The restructuring costs are expected to be incurred through 2009and consist primarily of costs related to severance and certain other employeebenefit costs, additional depreciation resulting from the decreased usefullives of the buildings and certain equipment, and other exit costs.

During the three monthsended March 31, 2006, Hospira recorded pre-tax restructuring charges of$11.9 million in costs of products sold. Of the total charges, $3.9 million wasrecorded in the U.S. segment and $8.0 million in the International segment.Hospira has incurred $20.4 million to date for restructuring charges related tothese actions.

The following summarizesthe restructuring activity:

(dollars in thousands)
| ** **                          | ** ** | **Balance at**           | ** ** | ** **              | ** ** | ** **   | ** ** | **Non cash** | ** ** | **Balance at**          | ** ** |
|-------------------------------------|------------|-------------------------------|------------|-------------------------|------------|--------------|------------|-------------------|------------|------------------------------|------------|
| ** **                          | ** ** | **January 1, 2006** | ** ** | **Costs incurred** | ** ** | **Payments** | ** ** | **items**         | ** ** | **March 31, 2006** | ** ** |
| Employee-related  benefit costs (1) |       | $                             | 7,264      |                    | $          | 10,200       |       | $                 | (138       | )                            | $          | (1,518 | ) | $ | 15,808 |   |
| Accelerated  Depreciation           |       | —                        |       | 1,508                   |       | —       |       | (1,508            | )          | -                            |       |
| Other                               |       | —                        |       | 177                     |       | (177         | )          | —            |       | -                            |       |
|                                |       | $                             | 7,264      |                    | $          | 11,885       |       | $                 | (315       | )                            | $          | (3,026 | ) | $ | 15,808 |   |

 

(1)          Includes pension plan curtailmentcharge of $1.5 million related to the announcement of the Ashland, Ohio plantshutdown.

**Note 4 — Stock-Based Compensation**

On January 1, 2006, Hospira adopted SFAS No. 123Rwhich requires, among other changes, that the cost resulting from allshare-based payment transactions be recognized as compensation cost over thevesting period based on the fair value of the instrument on the date of grant.SFAS No. 123R revises SFAS No. 123, “Accounting for Stock-BasedCompensation” (“SFAS No. 123”), which previously allowed pro formadisclosure of certain share-based compensation expense. Further, SFAS No. 123Rsupercedes Accounting Principles Board Opinion No. 25, “Accounting forStock Issued to Employees,” which previously allowed the intrinsic value methodof accounting for stock options. Such method was applied by Hospira, andaccordingly, Hospira’s reported net income has not included recognition ofstock-based compensation expense prior to the adoption of SFAS No. 123R.

Hospira adopted SFAS No. 123R as of January 1,2006, using the modified prospective transition method. In accordance with themodified prospective transition method, Hospira’s condensed consolidatedfinancial statements for the prior periods have not been restated to reflect,and do not include, the impact of SFAS No. 123R. Stock-based compensationexpense of $6.5 million was

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recognized under SFAS No. 123R for the three months ended March 31,2006. The related income tax benefit recognized was $2.1 million. As notedabove, there was no stock-based compensation expense related to employee stockoptions recognized in the statement of income during the three months ended March 31,2005.

For a more detailed description of Hospira’s stock-basedcompensation plan, see Note 13 to the company’s consolidated financialstatements included in Hospira’s Annual Report on Form 10-K for the yearended December 31, 2005.

The following table illustrates the pro forma effect onnet income and earnings per share if Hospira had applied the fair valuerecognition provisions of SFAS 123 during the quarter ended March 31,2005.

(dollars in thousands, except per share amounts):
| ** **                                                                                      | ** ** | **Three Months Ended March 31** | ** ** |
|-------------------------------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                                                      | ** ** | **2005**                                            | ** ** |
| Net Income, as  reported                                                                        |       | $                                                   | 77,175     |   |
| Deduct: Total  stock-based compensation expense  determined under fair value method, net of tax |       | (2,384                                              | )          |
| Pro forma net  income                                                                           |       | $                                                   | 74,791     |   |
|                                                                                            |       |                                                |       |
| Basic EPS, as  reported                                                                         |       | $                                                   | 0.49       |   |
| Basic EPS, pro  forma                                                                           |       | $                                                   | 0.48       |   |
| Diluted EPS, as  reported                                                                       |       | $                                                   | 0.49       |   |
| Diluted EPS, pro forma                                                                          |       | $                                                   | 0.47       |   |

 

SFAS No. 123R requires that cash flows relating tothe benefits of tax deductions in excess of recognized compensation cost bereported as financing cash flow, rather than as an operating cash flow, aspreviously required. For the quarter ended March 31, 2006, this excess taxbenefit was $2.4 million.

A summary of information related to stock options is asfollows:
| ** **                             | ** ** | ** ** | ** ** | ** **   | ** ** | ** **            | ** ** | **Aggregate**        | ** ** |
|----------------------------------------|------------|------------|------------|--------------|------------|-----------------------|------------|----------------------|------------|
| ** **                             | ** ** | ** ** | ** ** | **Weighted** | ** ** | **Weighted**          | ** ** | **Intrinsic**        | ** ** |
| ** **                             | ** ** | ** ** | ** ** | **Average**  | ** ** | **Average**           | ** ** | **Value**            | ** ** |
| ** **                             | ** ** | ** ** | ** ** | **Exercise** | ** ** | **Remaining**         | ** ** | **(dollars in** | ** ** |
| **Hospira Stock Options**    | ** ** | **Shares** | ** ** | **Price**    | ** ** | **Life (Years)** | ** ** | **thousands)**       | ** ** |
| Outstanding at  December 31, 2005 |       | 13,111,691 |       | $            | 29.65      |                  |       |                 |       |   |
| Granted                                |       | 184,682    |       | 42.27        |       |                  |       |                 |       |
| Exercised                              |       | (898,183   | )          | 27.08        |       |                  |       |                 |       |
| Lapsed  (forfeited or cancelled)       |       | (42,414    | )          | 35.31        |       |                  |       |                 |       |
| Outstanding at  March 31, 2006    |       | 12,355,776 |       | $            | 30.02      |                  | 5.10       |                 | $          | 118,816 |   |
| Exercisable at  March 31, 2006    |       | 7,787,820  |       | $            | 28.53      |                  | 4.88       |                 | $          | 85,209 |   |

 

Thetotal intrinsic value of options exercised during the first three months of2006 was $15.6 million.

As of March 31, 2006, there was $25.1 million oftotal unrecognized compensation cost related to nonvested share-basedcompensation arrangements. That cost is expected to be recognized over aweighted average period of 1.3 years. The total fair value of shares fullyvested during the three months ended March 31, 2006 was $6.3 million.

The weighted average fair value for the Hospira optionsgranted in the first three months of 2006 and 2005 was $10.21 and $11.28,respectively. The fair value was estimated using the Black-Scholes option-pricingmodel based on the weighted average market price at the grant date and theweighted average assumptions specific to the underlying options. Expectedvolatility assumptions are based on a combination of implied volatility fromtraded options and historical volatility of Hospira’s stock. The risk-freeinterest rate was selected based upon yields of U.S. Treasury issues with aterm equal to the expected life of the option being valued. The assumptionsutilized for option grants during the periods presented are as follows:

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| ** **                                                           | ** ** | **Three Months Ended  March 31** | ** ** |
|----------------------------------------------------------------------|------------|-------------------------------------------------|------------|
| ** **                                                           | ** ** | **2006**                                        | ** ** | **2005** | ** ** |
| Hospira Stock Options  Black-Scholes assumptions (weighted average): |       |                                            |       |   |   |
| Volatility                                                           |       | 30.0                                            | %          | 30.0 | % |
| Expected life  (years)                                               |       | 2.5                                             |       | 4.9 |   |
| Risk-free  interest rate                                             |       | 4.7                                             | %          | 3.9 | % |
| Dividend yield                                                       |       | 0.0                                             | %          | 0.0 | % |

** **

**Note 5 — Income Taxes**

Taxes on income reflectthe estimated annual effective rates, excluding the effect of significantunusual items. The effective tax rates are less than the statutory U.S. federalincome tax rate principally due to the benefit of tax exemptions, of varyingdurations, in several non-U.S. taxing jurisdictions.

**Note 6 — Earnings per Share**

Basic earnings per shareare computed by dividing net income by the number of weighted average commonshares outstanding during the reporting period. Diluted earnings per share arecalculated to give effect to all potentially dilutive common shares that wereoutstanding during the reporting period. The following table shows the effectof stock options on the weighted average number of shares outstanding used incalculating diluted earnings per share:

*(shares in thousands)*
| ** **                                           | ** ** | **Three Months Ended March 31** | ** ** |
|------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                           | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| Weighted average  common shares outstanding          |       | 160,933                                             |       | 157,191 |   |
| Assumed exercise  of stock options                   |       | 3,412                                               |       | 1,328 |   |
| Weighted average  dilutive common shares outstanding |       | 164,345                                             |       | 158,519 |   |

 

The number of outstandingoptions to purchase Hospira stock for which the exercise price of the optionsexceeded the average stock price was 0.5 million for the three months ended March 31,2006, and 2.5 million for the three months ended March 31, 2005. Accordingly,these options are excluded from the diluted earnings per share calculation forthese periods.

**Note 7 — Litigation**

Hospira, Abbott, or insome instances both, are involved in various claims and legal proceedings,including product liability claims and proceedings related to Hospira’sbusiness.

Various state and federalagencies, including the U.S. Department of Justice and various state attorneysgeneral, are investigating a number of pharmaceutical companies, includingAbbott, for allegedly engaging in improper marketing and pricing practices withrespect to certain Medicare and Medicaid reimbursable products, includingpractices relating to average wholesale price (“AWP”). These are civilinvestigations that are seeking to identify the practices and determine whetherthose practices violated any laws, including federal and state false claimsacts, or constituted fraud in connection with the Medicare and/or Medicaidreimbursement paid to third parties. In addition, Abbott is a defendant in anumber of purported class actions on behalf of individuals or entities,including healthcare insurers and other third-party payors, that allegegenerally that Abbott and numerous other pharmaceutical companies reportedfalse or misleading pricing information in connection with federal, state andprivate reimbursement for certain drugs. Many of the products involved in theseinvestigations and lawsuits are Hospira products. Hospira is cooperating withthe authorities in these investigations. There may be additional investigationsor lawsuits, or additional claims in the existing investigations or lawsuits,initiated with respect to these matters in the future. Hospira cannot becertain that it will not be named as a subject or defendant in these investigationsor lawsuits. Hospira has been added as a defendant in *The State of Texas ex rel. Ven-A-Care of the FloridaKeys, Inc. v. Abbott Laboratories Inc., Hospira, Inc., B. BraunMedical Inc. and Baxter Healthcare Corporation,*Case No. GV401286,pending in the District Court of Travis County, Texas. The lawsuit allegesgenerally that the defendants made false representations of prices and costsfor drugs directly and indirectly to the Texas Medicaid Program. Hospira hasalso been named as a defendant in an additional AWP lawsuit, *State of Hawaii v. Abbott Laboratories, Inc., et al.*Thelawsuit names forty-four pharmaceutical companies as defendants. There are noHospira-specific allegations in the complaint. Abbott will indemnify Hospirafor liabilities associated with pending or future AWP investigations andlawsuits only to the extent that they are of the same nature as the lawsuitsand investigations that existed against Abbott as of the spin-off date andrelate to the sale of Hospira products prior to the spin-off. Hospira willassume any other losses that may result from these investigations and lawsuitsrelated to Hospira’s products, including any losses associated with post-spinactivities. These investigations and lawsuits could result

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in changes toHospira’s business practices or pricing policies, civil or criminal monetarydamages, penalties or fines, imprisonment and/or exclusion of Hospira productsfrom participation in federal and state healthcare programs, includingMedicare, Medicaid and Veterans’ Administration health programs, any of whichcould have a material adverse effect on its business, profitability andfinancial condition.

Hospira has been named asa defendant in a lawsuit alleging generally that the spin-off of Hospira fromAbbott Laboratories adversely affected employee benefits in violation of theEmployee Retirement Security Act of 1974 (ERISA). The lawsuit was filed on November 8,2004 in the United States District Court for the Northern District of Illinois,and is captioned:  *Myla Nauman,Jane Roller and Michael Loughery v. Abbott Laboratories and Hospira, Inc.*OnNovember 18, 2005, the complaint was amended to assert an additional claimagainst Abbott and Hospira for breach of fiduciary duty under ERISA. Hospirahas moved to dismiss the new claim. By Order dated December 30, 2005, theCourt granted class action status to the lawsuit. The new claim in the amendedcomplaint is not subject to the class certification ruling. As to the soleclaim against Hospira in the original complaint, the court certified a classdefined as:  “all employees of Abbott whowere participants in the Abbott Benefit Plans and whose employment with Abbottwas terminated between August 22, 2003 and April 30, 2004, as aresult of the spin-off of the HPD/creation of Hospira announced by Abbott on August 22,2003, and who were eligible for retirement under the Abbott Benefit Plans onthe date of their terminations.”  Hospiradenies all material allegations asserted against it in the complaint.

On August 12, 2005,Retractable Technologies, Inc. (“RTI”) filed a lawsuit against AbbottLaboratories, Inc. alleging breach of contract and fraud in connectionwith a National Marketing and Distribution Agreement (“Agreement”) betweenAbbott and RTI signed in May 2000. *Retractable Technologies, Inc.v. Abbott Laboratories, Inc.*, Case No. 505CV157, pendingin U.S. District Court for the Eastern District of Texas. RTI purported toterminate the contract for breach in 2003. The lawsuit alleges that Abbottmisled RTI and breached the Agreement in connection with Abbott’s marketingefforts. RTI seeks unspecified monetary damages as well as punitive damages.Hospira has conditionally agreed to defend and indemnify Abbott in connectionwith this lawsuit, which involves a contract carried out by Abbott’s formerHospital Products Division. Abbott denies all material allegations in thecomplaint. Additionally, Abbott maintains that the dispute must be resolved byarbitration, in accordance with the terms of the Agreement. Abbott intends topursue claims against RTI for breach of the Agreement in arbitration or infederal court. Hospira is entitled, pursuant to its agreements with Abbott, toany amounts recovered due to RTI’s breach of the Agreement.

Hospira’s productliability claim exposures are evaluated each reporting period. Hospira’sreserves, which are not significant at March 31, 2006, are the bestestimate of loss, as defined by SFAS No. 5, “Accounting for Contingencies.”

Based upon informationthat is currently available, management believes that the likelihood of amaterial loss in excess of recorded amounts is remote.

Additional legalproceedings may occur that may result in a change in the estimated reserves recordedby Hospira. It is not feasible to predict the outcome of such proceedings withcertainty and there can be no assurance that their ultimate disposition willnot have a material adverse effect on Hospira’s financial position, cash flows,or results of operations.

**Note 8  — Post-Retirement Benefits**

Retirement plans consistof defined benefit (“pension”), defined contribution, and post-retirementmedical and dental plans.  The pensionand post-retirement medical and dental plans cover certain employees both inand outside of the United States.

Net cost (benefit)recognized for the three months ended March 31, 2006 and 2005 for themajor pension plans and post-retirement medical and dental benefit plans, is asfollows:

*(dollarsin thousands)*
| ** **                                        | ** ** | **Pension Plans**           | ** ** | **Medical and Dental Plans** | ** ** |
|---------------------------------------------------|------------|----------------------------------|------------|---------------------------------------------|------------|
| ** **                                        | ** ** | **Three Months Ended** | ** ** | **Three Months Ended**            | ** ** |
| ** **                                        | ** ** | **March 31**                | ** ** | **March 31**                           | ** ** |
| ** **                                        | ** ** | **2006**                         | ** ** | **2005**                                    | ** ** | **2006** | ** ** | **2005** | ** ** |
| Service cost for  benefits earned during the year |       | $                                | 644        |                                        | $          | 529 |   | $ | 526 |   | $ | 359 |   |
| Interest cost on  projected benefit obligations   |       | 6,023                            |       | 5,508                                       |       | 843 |   | 789 |   |
| Expected return  on plans’ assets            |       | (7,296                           | )          | (7,345                                      | )          | - |   | - |   |
| Net amortization                                  |       | 968                              |       | 306                                         |       | 437 |   | 483 |   |
| Curtailment of  benefits (1)                      |       | 1,518                            |       | -                                           |       | - |   | - |   |
| Net cost (benefit)                                |       | $                                | 1,857      |                                        | $          | (1,002 | ) | $ | 1,806 |   | $ | 1,631 |   |

 

(1) Relatesto the planned shutdown of the Ashland, Ohio plant.

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Hospira’s employeesparticipate in the Hospira 401(k) Retirement Savings Plan. Hospira’scontributions to this defined contribution plan for the three months ended March 31,2006 and 2005 were $8.5 million and $22.1 million, respectively. Included inthe three months ended March 31, 2005 is a $13.8 million one-time companycontribution that was announced and accrued in 2004. Hospira funds its domesticpension plans according to IRS funding limitations. Based on those limitations,Hospira does not expect to contribute to its U.S. pension plans in 2006.

**Note 9 —Intangible Assets**

Intangibleassets, primarily technology and product rights, are as follows:

(*dollars in thousands*)
| ** **                      | ** ** | **March 31, 2006** | ** ** | **December 31, 2005** | ** ** |
|---------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| Cost                            |       | $                            | 40,768     |                            | $          | 40,768 |   |
| Less:  accumulated amortization |       | (26,324                      | )          | (25,842                         | )          |
| Intangible assets, net          |       | $                            | 14,444     |                            | $          | 14,926 |   |

 

Intangibleassets have definite lives and are amortized on a straight-line basis overtheir estimated useful lives (3 to 10 years, average 9 years). Intangible assetamortization for each of the five succeeding fiscal years is estimated at $1.9million for 2006 and 2007, $1.7 million for 2008, $1.5 million for 2009, and$1.4 million for 2010.

**Note 10— Short-term Borrowings and Long-term Debt**

Hospira’s debt consists of the following at March 31,2006 and December 31, 2005 (dollars in thousands):

 
| ** **                                           | ** ** | **March 31, 2006** | ** ** | **December 31, 2005** | ** ** |
|------------------------------------------------------|------------|------------------------------|------------|---------------------------------|------------|
| Long-term debt:                                      |       |                         |       |                            |       |
| Senior unsecured notes due 2009                      |       | $                            | 300,000    |                            | $          | 300,000 |   |
| Senior unsecured notes due 2014                      |       | 400,000                      |       | 400,000                         |       |
| Economic development promissory notes due 2015       |       | 1,421                        |       | 1,465                           |       |
| International borrowings due 2007                    |       | —                       |       | 3,502                           |       |
| Fair value of interest rate swap instruments         |       | (12,265                      | )          | (8,662                          | )          |
| Total long-term debt                                 |       | 689,156                      |       | 696,305                         |       |
| Unamortized debt  discount on senior unsecured notes |       | (985                         | )          | (1,020                          | )          |
| Long-term debt                                       |       | 688,171                      |       | 695,285                         |       |
| Short-term  borrowings                               |       | 6,043                        |       | 2,579                           |       |
| Total debt                                           |       | $                            | 694,214    |                            | $          | 697,864 |   |

 

Hospira has a five-year$375 million unsecured revolving credit facility, which it entered into on December 16,2005 (the “Revolver”), and which is available for working capital and otherrequirements. The Revolver allows Hospira to borrow funds at variable interestrates as short-term cash needs dictate. As of March 31, 2006, Hospira hadno amounts outstanding under the Revolver.

The Revolver and the Senior Unsecured Notes contain,among other provisions, covenants with which Hospira must comply while they arein force. The covenants limit Hospira’s ability to allow liens on itsproperties or assets, or merge or consolidate with other entities. Under theamended Revolver, among other things, Hospira must also comply with certainfinancial covenants, including a minimum interest coverage ratio and a maximumleverage ratio. As of March 31, 2006, Hospira was in compliance with allcovenants under the amended Revolver and the Senior Unsecured Notes.

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**Note 11— Comprehensive Income, net of tax**

*(dollarsin thousands)*
| ** **                                                 | ** ** | **Three Months Ended March 31** | ** ** |
|------------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                                 | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| Foreign currency  translation gains (losses)               |       | $                                                   | 1,955      |   | $ | (4,218 | ) |
| Unrealized gains  (losses) on marketable equity securities |       | 1,434                                               |       | (293 | ) |
| Total other  comprehensive income (loss)                   |       | 3,389                                               |       | (4,511 | ) |
| Net Income                                                 |       | 80,183                                              |       | 77,175 |   |
| Total Comprehensive  Income                                |       | $                                                   | 83,572     |   | $ | 72,664 |   |

 
| ** **                                                               | ** ** | **March 31,** | ** ** | **December 31,** | ** ** |
|--------------------------------------------------------------------------|------------|--------------------|------------|-----------------------|------------|
| ** **                                                               | ** ** | **2006**           | ** ** | **2005**              | ** ** |
| Cumulative  foreign currency translation gains                           |       | $                  | 2,177      |                  | $          | 222 |   |
| Cumulative  minimum pension liability adjustments, net of tax            |       | (60,431            | )          | (60,431               | )          |
| Cumulative  unrealized gains on marketable equity securities, net of tax |       | 5,619              |       | 4,185                 |       |
| Accumulated Other  Comprehensive (Loss)                                  |       | $                  | (52,635    | )                     | $          | (56,024 | ) |

 

**Note 12— Segment Information**

Hospira’s principalbusiness is the development, manufacture and sale of a broad line of hospitalproducts, including specialty injectable pharmaceuticals and medicationdelivery systems, and the provision of injectable pharmaceutical contract manufacturingservices. Hospira has two reportable segments: U.S. and International.

Hospira’s underlyingaccounting records are maintained on a legal entity basis for government andpublic reporting requirements. Segment disclosures are on a performance basis consistentwith internal management reporting. For internal management reporting,intersegment transfers of inventory are recorded at standard cost and are not ameasure of segment income from operations. The costs of certain corporatefunctions that benefit the entire organization are not allocated. The followingsegment information has been prepared in accordance with the internalaccounting policies of Hospira, as described above.

*(dollarsin thousands)*
| ** **                  | ** ** | **Three Months Ended March 31** | ** ** |
|-----------------------------|------------|-----------------------------------------------------|------------|
| ** **                  | ** ** | **Net Sales**                                  | ** ** | **Income from Operations** | ** ** |
| ** **                  | ** ** | **2006**                                            | ** ** | **2005** | ** ** | **2006** | ** ** | **2005** | ** ** |
|                        |       |                                                |       |   |   |   |   |   |   |
| U.S.                        |       | $                                                   | 549,194    |   | $ | 550,390 |   | $ | 114,045 |   | $ | 98,152 |   |
|                        |       |                                                |       |   |   |   |   |   |   |
| International               |       | 115,100                                             |       | 111,671 |   | 11,914 |   | 21,653 |   |
| Total reportable  segments  |       | $                                                   | 664,294    |   | $ | 662,061 |   | 125,959 |   | 119,805 |   |
| Corporate  functions        |       |                                                |       |   |   | (13,958 | ) | (12,295 | ) |
| Income from  operations     |       |                                                |       |   |   | 112,001 |   | 107,510 |   |
| Other                       |       |                                                |       |   |   | (2,911 | ) | (5,964 | ) |
| Income before income  taxes |       |                                                |       |   |   | $ | 109,090 |   | $ | 101,546 |   |

 

**Note 13 —Relationship with Abbott**

In connection with thespin-off, Hospira and Abbott entered into agreements pursuant to which Hospiraand Abbott provide to the other, on an interim, transitional basis, variousservices. The agreed-upon charges for such services are generally intended toallow the servicing party to recover all out-of-pocket costs plus a mark up. Theservices generally commenced on the spin-off date and will terminate no laterthan 24 months following the spin-off date. The receiving party mayterminate the agreement related to such services upon prior written notice. Thenet cost of these various services to Hospira was $0.5 million and $1.6 millionfor the three months ended March 31, 2006 and 2005, respectively.

In addition, Hospiraleases floor space in certain Abbott facilities. The terms of the leases rangefrom two to ten years from the spin-

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off date, unlessterminated earlier by Hospira, and include additional services provided byAbbott. These additional services are integral to the facilities and primarilyinclude manufacturing support functions, quality assurance and informationtechnology systems. The cost for the leases and additional services was $5.6million and $6.3 million for the three months ended March 31, 2006 and2005, respectively.

Both Hospira and Abbotthave provided and will continue to provide manufacturing services to the other.For manufacturing services provided to Abbott, Hospira records as revenue itscosts plus a third-party manufacturing profit and, for certain products,Hospira receives the bulk material from Abbott and the mark up is on thevalue-added portion only. Inventory that Hospira purchases from Abbott is atAbbott’s cost plus a third-party manufacturing profit. Sales to Abbott amountedto $40 million and $45 million for the three months ended March 31, 2006and 2005, respectively. Product purchases from Abbott were $22 million and $19million for the three months ended March 31, 2006 and 2005, respectively.

In connection with thespin-off, Hospira and Abbott agreed that the legal transfer of certainoperations and assets (net of liabilities) outside the United States wouldoccur, and be completed, within two years after the spin-off. These operationsand assets are used in the conduct of Hospira’s international business andHospira is subject to the risks and entitled to the benefits generated by suchoperations and assets. Hospira is obligated to pay Abbott for these operationsand assets, and assume the corresponding liabilities, over a two-year periodafter the spin-off date as Hospira establishes its business infrastructureoutside the United States and obtains regulatory approval for the transfer ofthe marketing authorizations for Hospira products to local Hospira affiliatesor third-party distributors. The amount payable is equal to the net book valueof those assets and liabilities at the time of such transfer. Accordingly, thenet book value will be affected by normal operations, exchange rates and otherbusiness factors. Hospira pays Abbott interest, at local prevailing short-termrates, in connection with Hospira’s use of certain of these assets during thatperiod. As of March 31, 2006, the net book value of the assets andliabilities that had not yet transferred was $65.8 million. The net book valueis primarily comprised of trade receivables of $27.1 million, inventory of$21.2 million, equipment of $16.6 million and other, net of $0.9 million. Eachamount has been included in the corresponding balance sheet line item. Theamount due to Abbott for the net book value of assets and liabilities is offsetby $8.6 million for items that are due from Abbott related to the internationalbusiness. These items include amounts due for operating profits and inventorypurchases of Hospira products to support the international business. Allamounts outstanding between Hospira and Abbott are included in Due to Abbott,Net on the balance sheet. In the first quarter of 2006, the net assets of 13countries were transferred from Abbott. The total amounts paid in the firstquarter of 2006 was $26.1 million. To date, the net assets of 49 countries havebeen transferred from Abbott, for which Hospira has paid $142.8 million. Thenet assets of the remaining countries are expected to be transferred to Hospirain the second quarter of 2006.

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**Item2. Management’s Discussion And Analysis Of Financial Condition And Results OfOperations**

**Overview**

Hospira is a globalspecialty pharmaceutical and medication delivery company that is focused onproducts that improve the productivity, safety and efficacy of patient care inthe acute care setting. Hospira is a leader in the development, manufacture andmarketing of specialty injectable pharmaceuticals and medication delivery systemsthat deliver drugs and intravenous (I.V.) fluids. Hospira is also a leadingprovider of contract manufacturing services to pharmaceutical and biotechnologycompanies for formulation development, filling and finishing of injectablepharmaceuticals. Hospira’s broad portfolio of products is used by hospitals andalternate site providers, such as clinics, home healthcare providers andlong-term care facilities.

Please refer to theoverview of “Management’s Discussion and Analysis of Financial Condition andResults of Operations” in Hospira’s Annual Report on Form 10-K forthe year ended December 31, 2005, which was filed with the Securities andExchange Commission on March 15, 2006. Except as discussed in this Item 2,Hospira is not aware of any material changes to such information.

**Transitionfrom Abbott**

Hospira continued itsseparation from Abbott during the quarter as the operations and net assets in13 countries outside the United States were transferred to Hospira. To date,the net assets of 49 countries have been transferred from Abbott. The transfersof all net assets and operations outside the United States are expected to becompleted during the second quarter of 2006. For further information regardingsuch transfers, and the amounts payable for remaining transfers, please see “Liquidityand Capital Resources at March 31, 2006 compared with December 31,2005.”

During the quarter,Hospira incurred $13.5 million of non-recurring transition costs. These costsrelate to the establishment of new facilities, the build-out of independentinformation technology systems, and product registration and re-labeling, andare estimated to total approximately $100 million (pre-tax) over the 24-monthperiod subsequent to the spin-off. Hospira has incurred $91.9 million of thesecosts in the aggregate through March 31, 2006.

**OtherFactors**

*GPO Contracts.*Approximately50% of Hospira’s net sales are made under these contracts. Typically, thesecontracts cover a portion of Hospira’s product lines, specify the prices forHospira’s products, and are effective for three to five years. Generally, thecontracts are extended or competitively bid prior to contract expiration.Hospira has four GPO pharmacy contracts scheduled to be renewed or renegotiatedduring 2006. As of March 31, 2006, one of these GPO pharmacy contracts wassigned as a new contract.

*Share Repurchase.*InFebruary 2006, Hospira’s board of directors approved a $400 million sharerepurchase program. As of March 31, 2006, Hospira repurchased 5,545,500shares for $224.8 million. Hospira expects to fund any future repurchases underthis program from operating cash flows.

*Stock-Based Compensation Expense.*Beginning January 1, 2006, expenses relating to stockoptions issued to Hospira’s employees have been reflected in Hospira’s resultsof operations. For the quarter ended March 31, 2006, such expense was $6.5million. The amount of stock-based compensation expense in the future willdepend on the number of options (or other share-based awards) granted, theterms of those awards and their fair values. For further information, see Note4 to the condensed consolidated financial statements included in Item 1.

**Critical Accounting Policies**

The preparation offinancial statements in accordance with generally accepted accounting principlesin the United States (GAAP) requires management to make estimates and judgmentsthat affect the reported amounts of assets, liabilities, revenues and expenses.A summary of Hospira’s significant accounting policies is included in Note 1 tothe company’s consolidated financial statements, which are included in Hospira’sAnnual Report on Form 10-K for the year ended December 31,2005. Certain of Hospira’s accounting policies are considered critical, asthese policies require significant, difficult or complex judgments bymanagement, often employing the use of estimates about the effects of mattersthat are inherently uncertain. Such policies are summarized in “Item 7.Management’s Discussion and Analysis of Financial Condition and Results ofOperations” of Hospira’s Annual Report on Form 10-K for the yearended December 31, 2005.

In the quarter ended March 31,2006, Hospira expanded its revenue recognition policy to incorporate changesrelated to new product offerings, which include a server-based suite ofsoftware applications and related maintenance and implementation services. Inaddition, Hospira adopted Statement ofFinancial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment” onJanuary 1, 2006. All other critical accounting policies remainunchanged. The updated policies are as follows.

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*RevenueRecognition* — Hospira recognizes revenues from product saleswhen persuasive evidence of an arrangement exists, delivery has occurred, theprice is fixed and determinable, and collectibility is reasonably assured. Forother than certain drug delivery pumps and injectable pharmaceutical contractmanufacturing, product revenue is recognized when products are delivered tocustomers and title passes. In certain circumstances, Hospira enters intoarrangements in which it provides multiple elements to its customers. In thesecases, total revenue is divided among the separate units of accounting(deliverables) based on their relative fair value and is recognized for eachdeliverable in accordance with the applicable revenue recognition criteria. Therecognition of revenue is delayed if there are significant post-deliveryobligations, such as installation or customer acceptance.

For drug delivery pumps, revenue is typically derivedunder one of three types of arrangements: outright sales of the drug deliverypump; placements under lease arrangements; and placements under contracts thatinclude associated disposable set purchases. For pump placements, certainarrangements for which Hospira’s warranty obligation extends through the entireterm are accounted for as operating leases. For these, Hospira recognizesrevenue over the lease term, which averages five years. For leases under whichHospira’s warranty obligation is limited to approximately one year, Hospiraaccounts for these as sales-type leases, under which the discounted sales valueof the drug delivery pump is recorded as revenue upon placement with thecustomer.

Hospirahas introduced a server-based suite of software applications designed toconnect data from a hospital’s drug information library to drug delivery pumpsthroughout the hospital. The arrangements related to such applicationstypically include a perpetual software license, software maintenance andimplementation services. Hospira recognizes revenue related to thesearrangements in accordance with the provisions of Statement of Position (SOP) 97-2,“Software Revenue Recognition,” as amended. Software license revenue and implementationservice revenue are generally recognized upon completion of related obligationsor customer acceptance and software maintenance revenue is recognized ratablyover the contract period.

Injectable pharmaceutical contract manufacturing involvesfilling customers’ active pharmaceutical ingredients (“API”) into deliverysystems. Under these arrangements, customers’ API is often consigned to Hospiraand revenue is recorded for the materials and labor provided by Hospira, plus aprofit, upon shipment to the customer.

Alarge part of Hospira’s sales are through wholesalers and to GPO memberhospitals. These sales typically include provisions for chargebacks, rebatesand other adjustments, which are provided for as a reduction in gross sales atthe time the related sales are recorded. Historical data is readily availableand reliable, and is used for estimating the amounts of the reduction in grosssales. See “Chargebacks and Rebates” in “Item 7. Management’s Discussion andAnalysis of Financial Condition and Results of Operations” of Hospira’s AnnualReport on Form 10-K for the year ended December 31, 2005 forfurther detail.

*Stock-Based Compensation —*On January 1, 2006, Hospira adopted SFAS No. 123R,“Share-Based Payment”, which requires, among other changes, that the costresulting from all share-based payment transactions be recognized ascompensation cost over the vesting period based on the fair value of theinstrument on the date of grant. Under SFAS No. 123R, Hospira uses theBlack-Scholes option valuation model to determine the fair value of stockoptions. The fair value model includes various assumptions, including theexpected volatility and expected life of the awards. These assumptions reflectHospira’s best estimates, but they involve inherent uncertainties based onmarket conditions generally outside of Hospira’s control. As a result, if otherassumptions had been used, stock-based compensation expense, as calculated andrecorded under SFAS No. 123R, could have been materially impacted. Furthermore,if Hospira uses different assumptions in future periods, stock-basedcompensation expense could be materially impacted in future periods. See Note 4to the condensed consolidated financial statements included in Item 1 foradditional information regarding stock-based compensation.

**2006 First Quarter Events**

·                  Introducedthe LifeCare PCA® infusion system. The next-generationpatient-controlled analgesia pump features wireless Hospira MedNet® capability, further extending the number ofpump platforms for which Hospira MedNet is available.

·                  Launchedthe anti-infective foscarnet, the first of Hospira’s generic injectablepharmaceutical product launches planned for 2006.

·                  Announcedplans to close manufacturing plants in Ashland, Ohio, and Montreal, Canada, aspart of the company’s manufacturing optimization initiatives, relocating mostof the production to other Hospira facilities or third-party sources. Alsoprovided the planned timeline for relocating production from the North Chicago,Ill., facility leased from Abbott.

·                  Announceda $400 million share repurchase program. As of March 31, 2006, the companyhad repurchased a total of 5.5 million shares for an aggregate price of $224.8million.

·                  Progressedwith the separation from Abbott, transitioning 13 additional internationalcountries to Hospira, continuing the build-out of Hospira’s independentinformation technology infrastructure, and completing the move of employees

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into the company’s new research and developmentfacility. In addition, launched the Asia-Pacific regional headquarters inOsaka, Japan, completing the launch of all four of Hospira’s global hubs.

**Results of operations for the threemonths ended March 31, 2006 compared to March 31, 2005**

*Net Sales*

Net sales increased 0.3% in the first quarter of 2006compared to the first quarter of 2005. Sales to third parties represented a1.1% increase in overall sales, driven by price of 0.8% and volume/mix of 0.5%,which includes the unfavorable impact of the Berlex contract termination of(7.6%); partially offset by the impact of exchange of (0.2%). Sales to Abbotthad an unfavorable impact of (0.8%) on overall sales, driven by demand.

A comparison of product line sales is as follows:

**Hospira,Inc.Sales by Product Line(Unaudited)(dollars in millions)**
| ** **                                        | ** ** | **Three Months Ended March 31** | ** ** |
|---------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                        | ** ** | ** **                                          | ** ** | ** ** | ** ** | **Percent** | ** ** |
| ** **                                        | ** ** | ** **                                          | ** ** | ** ** | ** ** | **Change** | ** ** |
| ** **                                        | ** ** | ** **                                          | ** ** | ** ** | ** ** | **vs. Prior** | ** ** |
| ** **                                        | ** ** | **2006**                                            | ** ** | **2005** | ** ** | **Year*** | ** ** |
| U.S. —                                       |       |                                                |       |   |   |   |   |
| Specialty  Injectable Pharmaceuticals             |       | $                                                   | 185        |   | $ | 224 |   | (17.5 | ) |
| Medication  Delivery Systems                      |       | 213                                                 |       | 188 |   | 13.3 |   |
| Injectable  Pharmaceutical Contract Manufacturing |       | 52                                                  |       | 50 |   | 4.0 |   |
| Sales to Abbott  Laboratories                     |       | 24                                                  |       | 28 |   | (13.6 | ) |
| Other                                             |       | 75                                                  |       | 60 |   | 25.0 |   |
|                                              |       |                                                |       |   |   |   |   |
| Total U.S.                                        |       | 549                                                 |       | 550 |   | (0.2 | ) |
|                                              |       |                                                |       |   |   |   |   |
| International —                              |       |                                                |       |   |   |   |   |
|                                              |       |                                                |       |   |   |   |   |
| Sales to Third  Parties                           |       | 99                                                  |       | 95 |   | 5.1 |   |
| Sales to Abbott  Laboratories                     |       | 16                                                  |       | 17 |   | (7.9 | ) |
|                                              |       |                                                |       |   |   |   |   |
| Total  International Sales                        |       | 115                                                 |       | 112 |   | 3.1 |   |
|                                              |       |                                                |       |   |   |   |   |
| Consolidated Net Sales                            |       | $                                                   | 664        |   | $ | 662 |   | 0.3 |   |

 

* Percent change computed based on unrounded numbers.

Sales in SpecialtyInjectable Pharmaceuticals declined, reflecting the termination of the Berleximaging agents distribution agreement. Excluding Berlex, sales within thisproduct line increased, driven by the impact of sales of ceftriaxone, launchedin the third quarter of 2005, and increased sales of certain anti-infectiveproducts (which Hospira believes was partially driven by a competitor’sinability to supply product, and which is not expected to continue), andfavorable price. The sales increase in Medication Delivery Systems was drivenprimarily by growth in medication management systems. The growth in medicationmanagement was due primarily to placements of Hospira’s newer technology PlumA+® pumps with Hospira MedNet®.

The sales increase inInjectable Pharmaceutical Contract Manufacturing was primarily due to growth indemand for several existing supply agreements, offset by the impact of thetermination of certain lower-margin contracts.

The decrease in U.S. Sales to Abbott was primarily due to decreaseddemand by Abbott for several of its products.

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The increase in Other U.S. sales was primarily due to increased salesof ceftriaxone, launched in the third quarter of 2005, and increasedsales of certain anti-infective products (which Hospira believes was partiallydriven by a competitor’s inability to supply product, and which is not expectedto continue) to alternate sitehealthcare customers.

International Sales to Third Parties were up, primarily reflectinggrowth in Canada and the Asia-Pacific region, coupled with increased sales on athird party manufacturing contract, partially offset by unfavorable exchange.International Sales to Abbott decreased primarily due to decreased demand.

*Gross Profit*

Gross profit increased$27.0 million, or 12.4 %, for the quarter ended March 31, 2006, comparedwith the same period in 2005. Gross profit margin increased to 36.9% for thefirst quarter of 2006, from 32.9% for the first quarter of 2005. The increasedmargin is primarily the result of volume/product mix improvement of 4.5%, whichincludes the impact of Berlex of 2.2%; price of 0.5%; manufacturing performanceof 1.4%; an impairment charge in 2005 of 0.4% relating to the sale of the SaltLake City manufacturing facility; and other net changes of 0.3%. Theseimprovements were offset by costs associated with the planned manufacturingplant closures of (2.4)% and incremental international freight and distributioncosts of (0.7)%.

*Research and Development*

Research and development(R&D) expenses increased $2.6 million, or 9.2 %, for the quarter ended March 31,2006, compared with the same period in 2005. Of the 9.2% increase, 2.6% isrelated to stock option expense as a result of the adoption of SFAS No. 123R.The remainder of the increase was primarily due to costs associated with thenew R&D building. R&D spending on new product development in thequarter related to new compounds in Hospira’s generic injectable drug pipelineand brain-function monitoring devices. R&D expenses increased to 4.7% ofnet sales for the quarter ended March 31, 2006, compared with 4.3% of netsales for the same period in 2005.

*Selling, General and Administrative*

Selling, general andadministrative (SG&A) expenses increased $19.9 million, or 24.3%, for thequarter ended March 31, 2006, compared with the same period in 2005. Ofthe 24.3% increase, 5.9% is related to stock option expense as a result of theadoption of SFAS No. 123R. The remainder of the increase was primarily dueto additional costs related to establishing Hospira’s business infrastructureoutside the United States and costs associated with the implementation of SAPas Hospira’s global enterprise resource planning (ERP) system. SG&Aexpenses increased to 15.3% of net sales for the quarter ended March 31,2006, compared with 12.4% of net sales for the same period in 2005.

*Interest and Other (Income), Net*

Interest expense was $7.7million for the quarter ended March 31, 2006, compared to $7.2 million inthe same period in 2005. The increase was primarily due to the interest rateswap entered into in 2005, offset by higher capitalized interest in 2006. Other(income), net was $(4.7) million for the three months ended March 31, 2006compared to $(1.2) million for the three months ended March 31, 2006. Thechange was primarily related to higher interest income in 2006.

*IncomeTax Expense*

The effective tax ratewas 26.5% for the quarter ended March 31, 2006, compared to 24.0% for thesame period in 2005. The increase in effective tax rate is due primarily toincreased income generated in the United States, which has higher tax ratesthan foreign jurisdictions. The effective tax rates are less than the statutoryU.S. federal income tax rate principally due to the benefit of tax exemptions,of varying durations, in certain jurisdictions outside the United States.

**Liquidityand Capital Resources at March 31, 2006 compared with December 31,2005**

Net Cash from OperatingActivities continues to be Hospira’s primary source of funds to financeoperating needs and capital expenditures. Other capital resources include cashon hand and borrowing availability under Hospira’s $375 million revolvingcredit facility.

Operating activitiesprovided net cash of $130.5 million, primarily driven by net income of $80.2million, non-cash depreciation and amortization charges of $37.6 million,non-cash stock-based compensation expense of $6.5 million, and changes inoperating assets and liabilities of $6.2 million. The changes in operatingassets and liabilities consist primarily of an increase in trade accountspayable and other liabilities and changes in Other, net, offset by an increasein trade receivables and inventories.

Net Cash Used inInvesting Activities of $88.0 million includes capital expenditures of $76.0million for upgrading and expanding 

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manufacturing andadministrative support facilities and information technology systems. Inaddition, investing activities include the use of cash of $12.0 million forother investments.

Net Cash Used inFinancing Activities of $232.0 million consists primarily of common stockrepurchases of $224.8 million and payments to Abbott for international netassets of $26.1 million, offset by proceeds from employee stock optionexercises and related tax benefits of $19.0 million.

Hospira believes that itscurrent capital resources, including cash and cash equivalents, cash generatedfrom operations, and funds available from its revolving credit facility will besufficient to finance its operations, including product development, transitioncosts, international net asset transfers and capital expenditures, for theforeseeable future.

In February 2006,Hospira announced that its board of directors authorized the repurchaseof up to $400 million of the company’s common stock. The new program authorizesthe company to repurchase common shares from time to time through the openmarket in compliance with securities regulations and other legal requirements.The size and timing of any purchases are at the discretion of companymanagement, based on factors such as alternative uses of cash, and business andmarket conditions. As of March 31, 2006, Hospira repurchased 5,545,500shares for $224.8 million.

Hospira has a five-year$375 million unsecured revolving credit facility, which it entered into on December 16,2005 (the “Revolver”), and which is available for working capital and otherrequirements. The Revolver allows Hospira to borrow funds at variable interestrates as short-term cash needs dictate. As of March 31, 2006, Hospira hadno amounts outstanding under the Revolver.

Hospira has entered into various loan agreements relatedto the legal transfer of certain international operations from Abbott. Theseborrowings are made by Hospira’s foreign affiliates in their local currency andare used to optimize the capital structure. As of March 31, 2006, Hospirahad $5.9 million of such loans outstanding, all of which are classified asshort-term.

The Revolver and the Senior Unsecured Notes contain,among other provisions, covenants with which Hospira must comply while they arein force. The covenants limit Hospira’s ability to allow liens on itsproperties or assets, or merge or consolidate with other entities. Underthe amended Revolver, among other things, Hospira must also comply with certainfinancial covenants, including a minimum interest coverage ratio and a maximumleverage ratio. As of March 31, 2006, Hospira was in compliance with allcovenants under the amended Revolver and the Senior Unsecured Notes.

In connection withthe spin-off, Hospira and Abbott agreed that the legal transfer of certainoperations and assets (net of liabilities) outside the United States wouldoccur, and be completed, within two years after the spin-off. These operationsand assets are used in the conduct of Hospira’s international business andHospira is subject to the risks and entitled to the benefits generated by suchoperations and assets. Hospira is obligated to pay Abbott for these operationsand assets, and assume the corresponding liabilities, over a two-year periodafter the spin-off date as Hospira establishes its business infrastructureoutside the United States and obtains regulatory approval for the transfer ofthe marketing authorizations for Hospira products to local Hospira affiliatesor third-party distributors. The amount payable is equal to the net book valueof those assets and liabilities at the time of such transfer. Accordingly, thenet book value will be affected by normal operations, exchange rates and otherbusiness factors. Hospira pays Abbott interest, at local prevailing short-termrates, in connection with Hospira’s use of certain of these assets during thatperiod. As of March 31, 2006, the net book value of the assets andliabilities that had not yet transferred was $65.8 million. The net book valueof the net assets primarily consists of trade receivables of $27.1 million,inventory of $21.2 million, equipment of $16.6 million and other, net of $0.9million. Each amount has been included in the corresponding balance sheet lineitem. The amount due to Abbott for the net book value of assets and liabilitiesis offset by $8.6 million for items that are due from Abbott related to theinternational business. These items include amounts due for operating profitsand inventory purchases of Hospira products to support the international business.All amounts outstanding between Hospira and Abbott are included in Due toAbbott, Net on the balance sheet. In the first quarter of 2006, the net assetsof 13 countries were transferred from Abbott. The total amount paid in thefirst quarter of 2006 was $26.1 million. To date, the net assets of 49countries have been transferred from Abbott, for which Hospira has paid $142.8million. The net assets of the remaining countries are expected to betransferred to Hospira in the second quarter of 2006.

**ContractualObligations and Off-Balance Sheet Arrangements**

The following table summarizes Hospira’s estimated contractualobligations as of March 31, 2006 (dollars in millions):

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| ** **                                                                        | ** ** | **Payment Due by Period** | ** ** |
|-----------------------------------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                        | ** ** | ** **                               | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | **2011 and** | ** ** |
| ** **                                                                        | ** ** | **Total**                                | ** ** | **2006** | ** ** | **2007-2008** | ** ** | **2009-2010** | ** ** | **Thereafter** | ** ** |
| Long-term debt  and interest payments                                             |       | $                                        | 960.6      |   | $ | 41.0 |   | $ | 81.1 |   | $ | 355.0 |   | $ | 483.5 |   |
| Lease  obligations                                                                |       | 158.0                                    |       | 18.2 |   | 40.2 |   | 35.9 |   | 63.7 |   |
| Purchase  commitments (1)                                                         |       | 430.6                                    |       | 404.8 |   | 25.4 |   | 0.4 |   | — |   |
| Other long-term  liabilities reflected on the consolidated balance sheet (2) |       | 25.6                                     |       | — |   | 25.6 |   | — |   | — |   |
| Amounts due to  Abbott for transfer of certain international net assets (3)  |       | 65.8                                     |       | 65.8 |   | — |   | — |   | — |   |
| Total                                                                             |       | $                                        | 1,640.6    |   | $ | 529.8 |   | $ | 172.3 |   | $ | 391.3 |   | $ | 547.2 |   |

 

(1)       Purchase commitments consist primarily of inventory purchases madein the normal course of business to meet operational requirements. Contractualcapital commitments are also included here, but these commitments representonly a portion of expected capital spending.

(2)       Excludes $145.7 million of other long-term liabilities relatedprimarily to post-retirement benefit obligations.

(3)       The amount due to Abbott for theacquisition of certain international net assets excludes an offsetting amountof $8.6 million for items that are due from Abbott related to the internationalbusiness. These include amounts due for operating profits and inventorypurchases of Hospira products to support the international business.

Hospira has no material exposures to off-balance sheetarrangements, no special purpose entities, and no activities that includenon-exchange-traded contracts accounted for at fair value.

**LegislativeIssues**

Hospira’s primary markets are highly competitive and subjectto substantial government regulation. Hospira expects debate to continue atboth the federal and state levels over the availability, method of delivery andpayment for healthcare products and services. If additional legislation isenacted, it could have the effect of reducing prices, or reducing the rate ofprice increases, for medical products and services. International operationsare also subject to a significant degree of government regulation. It is notpossible to predict the extent to which Hospira or the healthcare industry ingeneral might be adversely affected by these factors in the future.

**Private Securities Litigation ReformAct of 1995 — A Caution Concerning Forward-Looking Statements**

Under the safe harborprovisions of the Private Securities Litigation Reform Act of 1995, Hospiracautions investors that any forward-looking statements or projections made byHospira, including those made in this document, are subject to risks anduncertainties that may cause actual results to differ materially from thoseprojected. In some cases, these statements can be identified by the use offorward-looking words such as “may,” “will,” “should,” “anticipate,” “estimate,”“expect,” “plan,” “believe,” “predict,” “potential,” “project,” “intend,” “could,”or similar expressions. In particular, statements regarding Hospira’s plans,strategies, prospects and expectations regarding Hospira’s business areforward-looking statements. Please be aware that these statements and any otherforward-looking statements in this document only reflect Hospira’s expectationsand are not guarantees of performance. These statements involve risks,uncertainties and assumptions. Many of these risks, uncertainties andassumptions are beyond Hospira’s control, and may cause actual results andperformance to differ materially from Hospira’s expectations.

Economic, competitive,governmental, technological and other factors that may affect Hospira’soperations are discussed in Hospira’s Annual Report on Form 10-K forthe year ended December 31, 2005, and elsewhere in this document. Accordingly,undue reliance should not be placed on the forward-looking statements containedin this document. These forward-looking statements speak only as of the date onwhich the statements were made. Hospira undertakes no obligation to update orrevise publicly any forward-looking statements, whether as a result of newinformation, future events or otherwise.

**Item 3.   QuantitativeAnd Qualitative Disclosures About Market Risk**

There have been nomaterial changes to the information provided in Hospira’s Annual Report on Form 10-Kfor the year ended December 31, 2005.

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**Item 4.   Controlsand Procedures**

*Evaluation of disclosure controlsand procedures.*The Chief Executive Officer, Christopher B.Begley, and Chief Operating Officer and Acting Chief Financial Officer,Terrence C. Kearney, evaluated the effectiveness of Hospira’s disclosurecontrols and procedures (as defined in Rules 13a-15(e) and 15d-15(e) underthe Securities and Exchange Act of 1934) as of the end of the period covered bythis report, and concluded that Hospira’s disclosure controls and procedureswere effective.

*Changes in internal controls.*Hospira is implementing its independent information technology system (SAP)both in and outside the United States. Current plans are to implement allmodules of SAP globally, except at the manufacturing plants, by mid-2006.Ongoing processes and controls will be modified during the implementationperiod as is expected with a major system implementation. Also during theperiod, business operations in several countries have transitioned from Abbottto Hospira. Inherent in such transitions are changes in Hospira’s internalcontrols, as processes that were previously performed by Abbott personnel,utilizing Abbott systems, are now being performed by Hospira personnel,utilizing Hospira systems (including SAP). In connection with theimplementation of SAP and the transition of the international operations,Hospira has updated, and will continue to update, its internal control over financialreporting as necessary to accommodate modifications to its business processesand accounting procedures. There have been no other changes in internal controlover financial reporting that occurred during the period that have materiallyaffected or are reasonably likely to materially affect Hospira’s internalcontrol over financial reporting.

 

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**PART II. OTHER INFORMATION**

**Item 1.   LegalProceedings**

Incorporated by referenceis the discussion contained in Note 7 to the condensed consolidated financialstatements included in Part I. Item 1 hereof.

**Item1A.   Risk Factors**

Please refer to Item 1A. in Hospira’s Annual Report onForm 10-K for the year ended December 31, 2005 for a discussionof risks to which Hospira’s business, financial condition, results ofoperations and cash flows are subject. There have been no material changes tosuch risk factors since December 31, 2005.

**Item2.   Changes in Securities and Use of Proceeds**

(c)          Issuer Purchases ofEquity Securities

The table below givesinformation on a monthly basis regarding purchases made by Hospira of itscommon stock.
| ** **                               | ** ** | ** **                  | ** ** | ** **                   | ** ** | ** **                      | ** ** | **Maximum Number**               | ** **  |
|------------------------------------------|------------|-----------------------------|------------|------------------------------|------------|---------------------------------|------------|---------------------------------------|-------------|
| ** **                               | ** ** | ** **                  | ** ** | ** **                   | ** ** | **Total Number of**   | ** ** | **(or Approximate**              | ** **  |
| ** **                               | ** ** | ** **                  | ** ** | ** **                   | ** ** | **Shares Purchased ** | ** ** | **Dollar Value) of**        | ** **  |
| ** **                               | ** ** | ** **                  | ** ** | ** **                   | ** ** | **as Part of **  | ** ** | **Shares that May**         | ** **  |
| ** **                               | ** ** | **Total Number ** | ** ** | ** **                   | ** ** | **Publicly**                    | ** ** | **Yet be Purchased**        | ** **  |
| ** **                               | ** ** | **of Shares**          | ** ** | **Average Price**       | ** ** | **Announced Plans **  | ** ** | **Under the Plans or** | ** **  |
| **Period**                               | ** ** | **Purchased (1)**      | ** ** | **Paid per Share** | ** ** | **or Programs**            | ** ** | **Programs (2)**                 | ** **  |
| January 1-  January 31, 2006   |       | 23,319                      |       | $                            | 44.11      |                            | —     |                                  | —      |   |
| February 1-  February 28, 2006 |       | 59,989                      |       | 45.93                        |       | —                          |       | —                                |        |
| March 1-  March 31, 2006       |       | 5,634,307                   |       | 40.53                        |       | 5,545,500                       |       | $                                     | 175,206,917 |   |
| Total                                    |       | 5,717,615                   |       | $                            | 40.60      |                            | 5,545,500  |                                  | $           | 175,206,917 |   |

 

(1)          These shares include:

a.               the shares deemedsurrendered to Hospira to pay the exercise price and satisfy tax withholdingobligations in connection with the exercise of employee stock options — 23,319in January, 59,989 in February, and 88,807 in March; and

b.              the shares purchasedon the open market relating to footnote (2) below — no shares for January andFebruary, and 5,545,000 in March.

(2)          In February 2006, Hospira’sboard of directors authorized the repurchase of up to $400 million of thecompany’s common stock. The repurchase of shares commenced in early March 2006.

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**Item 6.   Exhibits**

(a)           Exhibits
| EXHIBIT NO. | ** ** | **DESCRIPTION** |
|-------------|------------|-----------------|
| 12          |       |            | Computation of Ratio of Earnings to Fixed Charges. |
| 31          | .1         |            | Certificate of Chief Executive Officer pursuant to  Rule 13a-14(a). |
| 31          | .2         |            | Certificate of Chief Financial Officer pursuant to  Rule 13a-14(a). |
| 32          | .1         |            | Certificate of Chief Executive Officer pursuant to  18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |
| 32          | .2         |            | Certificate of Chief Financial Officer pursuant to  18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the  Sarbanes-Oxley Act of 2002. |

 

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SIGNATURE

Pursuantto the requirements of Section 13 or 15(d) SecuritiesExchange Act of 1934, Hospira, Inc. has duly caused this report to besigned on its behalf by the undersigned, thereunto duly authorized.

 
|        |   |   |   | HOSPIRA, INC.                                                                |
|--------|--------|--------|--------|-----------------------------------------------------------------------------------|
|   |   |   |   |                                                                              |
|   |   | By     |   | /s/ TERRENCE C. KEARNEY                                                           |
|   |   |   |   | Terrence C. Kearney,  Chief Operating Officer and Acting Chief  Financial Officer |
|   |   |   |   | Date: May 9, 2006                                                            |

 

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