##### 



Financial Section Contents Financial ReviewDescription of Mercks Business
    
    
    20Overview
    
    
    20Voluntary Product Withdrawal
    
    
    21Competition and the Health Care Environment
    
    
    21Operating Results
    
    
    22Selected Joint Venture and Affiliate Information
    
    
    28Capital Expenditures
    
    
    29Analysis of Liquidity and Capital Resources
    
    
    29Financial Instruments Market Risk Disclosures
    
    
    30Critical Accounting Policies and Other Matters
    
    
    31Recently Issued Accounting Standards
    
    
    34Cautionary Factors That May Affect Future Results
    
    
    35Cash Dividends Paid per Common Share
    
    
    35Common Stock Market Prices
    
    
    35Condensed Interim Financial Data
    
    
    35Consolidated Statement of Income
    
    
    36Consolidated Statement of Retained Earnings
    
    
    36Consolidated Statement of Comprehensive Income
    
    
    36Consolidated Balance Sheet
    
    
    37Consolidated Statement of Cash Flows
    
    
    38Notes to Consolidated Financial Statements
    
    
    39Managements Report
    
    
    58Audit Committees Report
    
    
    58Report of Independent Registered Public Accounting Firm
    
    
    59Compensation and Benefits Committees Report
    
    
    59Selected Financial Data
    
    
    60
 Financial Review  Description of Mercks Business
    Overview Vioxx Vioxx Vioxx
 Arcoxia ProQuad
 Vytorin Singulair Fosamax Fosamax Fosamax
   20
    
    Merck & Co., Inc. Annual Report 2004




---



##### 



Also, by the end of 2004, Merck eliminated 5,100 positions exceeding the target of 4,400
positions announced in October 2003. This action is expected to result in about $300 million in
savings in 2005 without impacting either key productivity initiatives or Mercks ability to meet
its business objectives. Vioxx Vioxx Vioxx
 Voluntary Product Withdrawal Vioxx Vioxx
 Vioxx Vioxx Vioxx Vioxx Vioxx
  Vioxx Vioxx Vioxx
 Vioxx Vioxx
 Vioxx
 On February 16-18, 2005, the FDA held a joint meeting of the Arthritis Advisory Committee and
the Drug Safety and Risk Management Advisory Committee. The committees discussed the overall
benefit to risk considerations (including cardiovascular and gastrointestinal safety concerns) for
COX-2 selective nonsteriodal anti-inflammatory drugs and related agents. On February 18, the
members of the committees were asked to vote on whether the overall risk versus benefit profile for
Vioxxsupports marketing in the United States. The members of the committees voted 17 to 15 in
support of the marketing of Vioxxin the United States. The Company looks forward to discussions
with the FDA and other regulatory authorities about Vioxx. Vioxx, Vioxx
 Competition and the Health Care Environment       Merck & Co., Inc. Annual Report 2004
    
    21




---



##### 



European Commission on proposals to complete the Single Market in pharmaceuticals and improve
the competitive climate through a variety of means including market deregulation. Stocrin Crixivan Stocrin
    Operating Results Sales
 Vioxx Singulair Fosamax Cozaar/Hyzaar Prilosec
 Vioxx Zocor
  (1)
 ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Atherosclerosis
    
    $
    5,223.0
    
    
    $
    5,077.9
    
    
    $
    5,552.1Hypertension/heart failure
    
    
    3,646.7
    
    
    
    3,421.6
    
    
    
    3,477.8Osteoporosis
    
    
    3,159.6
    
    
    
    2,676.6
    
    
    
    2,243.1Respiratory
    
    
    2,622.0
    
    
    
    2,009.4
    
    
    
    1,489.8Anti-inflammatory/analgesics
    
    
    1,779.6
    
    
    
    2,677.3
    
    
    
    2,587.2Anti-bacterial/anti-fungal
    
    
    1,200.9
    
    
    
    1,028.5
    
    
    
    821.0Vaccines/biologicals
    
    
    1,036.1
    
    
    
    1,056.1
    
    
    
    1,028.3Urology
    
    
    733.1
    
    
    
    605.5
    
    
    
    547.3Ophthalmologicals
    
    
    726.5
    
    
    
    675.1
    
    
    
    621.5Human immunodeficiency virus (HIV)
    
    
    255.5
    
    
    
    290.6
    
    
    
    294.3Other
    
    
    2,555.6
    
    
    
    2,967.3
    
    
    
    2,783.4$
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8
 (1) ` Presented net of discounts and returns.
 The Companys products include therapeutic and preventive agents, generally sold
by prescription, for the treatment of human disorders. Among these are atherosclerosis products,
of which Zocoris the largest-selling; hyper- tension/heart failure products, the most significant
of which are Cozaar, Hyzaar, and Vasotec; an osteoporosis product, Fosamax, for treatment and
prevention of osteoporosis; a respiratory product, Singulair, a leukotriene receptor antagonist for
treatment of asthma and for relief of symptoms of seasonal allergic rhinitis;
anti-inflammatory/analgesics, which include Vioxx, which was voluntarily withdrawn worldwide on
September 30, 2004, and Arcoxia, agents that specifically inhibit the COX-2 enzyme, which is
responsible for pain and inflammation (coxib); anti-bacterial/anti-fungal products, which includes
Primaxin, Cancidasand Invanz; vaccines/biologicals, of which Varivax, a live virus vaccine for the
prevention of chickenpox, M-M-RII, a pediatric vaccine for measles, mumps and rubella, Pneumovax,
a vaccine for the prevention of pneumococcal, and Recombivax HB
(hepatitis B vaccine recombinant) are the largest-selling; a urology product, Proscar, for
treatment of symptomatic benign prostate enlargement; ophthalmologicals, of which Cosoptand
Trusoptare the largest-selling; and HIV products, which include Stocrinand Crixivanfor the
treatment of human immunodeficiency viral infection in adults. Nexium Prilosec
 Singulair Singulair Singulair Singulair Singulair
   22
    
    Merck & Co., Inc. Annual Report 2004




---



##### 



buy-out. U.S. mail-order-adjusted prescription levels for Singulairincreased by approximately
21% in 2004. Singulair Singulair
 Fosamax Fosamax Fosamax
 Journal of Internal Medicine Fosamax Fosamax
 Fosamax Fosamax Fosamax
 Fosamax Fosamax Fosamax
 Fosamax Fosamax Fosamax Fosamax Fosamax Fosamax
 Cozaar Hyzaar Cozaar Cozaar Hyzaar
 Cozaar Hyzaar Cozaar
 A new formulation is expected to help drive future growth for Cozaar/Hyzaar. Hyzaar100/12.5
mg was submitted for approval to the FDA in December to better address the need for titration
flexibility as an intermediate step between Cozaar100 mg and Hyzaar100/25 mg. Filings for this
new formulation in markets outside the United States are anticipated throughout 2005. Zocor Zocor Zocor Zocor Zocor Zocor Zocor Zocor
 Zocor
 Zocor
 Arcoxia Arcoxia Arcoxia Arcoxia
 Arcoxia Vioxx
  Merck
& Co., Inc. Annual Report 2004
    
    23




---



##### 



Arcoxia Arcoxia Arcoxia
 Arcoxia Arcoxia
 Cancidas Proscar Cosopt Stocrin Propecia Invanz Emend Nexium
 Zetia Ezetrol Zetia Ezetrol
 Vytorin Inegy Vytorin Vytorin Vytorin
 Vytorin Vytorin Zocor
 Vytorin Vytorin Vytorin Vytorin
 The Company records the results from its interest in the Merck/Schering-Plough partnership in
Equity income from affiliates. Costs, Expenses and Other  ($ in millions)
    
    2004
    
    
    Change
    
    2003
    
    
    Change
    
    2002Materials and
production
    
    $
    4,959.8
    
    
    
    +12
    %
    
    $
    4,436.9
    
    
    
    +11
    %
    
    $
    4,004.9Marketing and
administrative
    
    
    7,346.3
    
    
    
    +15
    %
    
    
    6,394.9
    
    
    
    +13
    %
    
    
    5,652.2Research and
development
    
    
    4,010.2
    
    
    
    +22
    %
    
    
    3,279.9
    
    
    
    +23
    %
    
    
    2,677.2Equity income
from affiliates
    
    
    (1,008.2
    )
    
    
    *
    
    
    
    (474.2
    )
    
    
    -26
    %
    
    
    (644.7
    )Other (income)
expense, net
    
    
    (344.0
    )
    
    
    +69
    %
    
    
    (203.2
    )
    
    
    *
    
    
    
    104.5$
    14,964.1
    
    
    
    +11
    %
    
    $
    13,434.3
    
    
    
    +14
    %
    
    $
    11,794.1
 * 100% or greater. Materials and Production Vioxx Vioxx
 Marketing and Administrative Vioxx Vioxx
   24
    
    Merck & Co., Inc. Annual Report 2004




---



##### 



The $604.0 million charge taken in the fourth quarter of 2004 increased the
Companys reserve solely for its future legal defense costs related to the VioxxLitigation to
$675.0 million as of December 31. This reserve is based on certain assumptions and is the minimum
amount that the Company believes at this time it can reasonably estimate will be spent over a
multi-year period. The Company will continue to monitor its legal defense costs and review the
adequacy of the associated reserves. The Company has not established any reserves for any potential
liability relating to the VioxxLitigation. (See Note 3 to the financial statements for further
information.) Vioxx
  Research and Development   ProQuad ProQuad ProQuad M-M-R Varivax
 ProQuad M-M-R M-M-R Varivax
 Mercks late-stage pipeline includes three Phase III vaccines which are expected to be
submitted for FDA approval in 2005. The three vaccines are: RotaTeq, a vaccine to protect against
rotavirus disease; Gardasil, a vaccine to prevent the incidence of human papillomavirus (HPV)
infection and the associated development of cervical cancer and genital warts; and a vaccine for
the prevention of zoster (shingles) and the reduction of pain associated with it. These vaccines
will provide significant new opportunities for Merck in the pediatric, adolescent and adult vaccine
markets. RotaTeq
 Gardasil Gardasil
 Gardasil
 Gardasil Gardasil
     Merck
& Co., Inc. Annual Report 2004
    
    25




---



##### 



Mercks early-stage pipeline includes candidates in each of the following areas: Alzheimers disease, arthritis, atherosclerosis, cancer, diabetes, endocrine disorders, glaucoma, infectious diseases, obesity, osteoporosis, psychiatric disease, neurodegenerative disease, pain, respiratory disease, urogenital disorders and vaccines.
 in the onset and progression of many different human cancers, and novel Aurora
kinase inhibitors such as VX-680 have the potential to play an important future
role in the treatment and management of a wide range of tumor types. Vertex
received a $20.0 million upfront payment and, during the term of the agreement,
could receive up to an additional $14.0 million in research funding over the next
two years. In addition, Vertex could receive additional milestone payments based
upon the achievement of significant development events, regulatory filings and
other events and approvals.   R Emend
   26
    
    Merck & Co., Inc. Annual Report 2004




---



##### 



Research PipelinePreclinicalAlzheimers DiseaseAntibacterialsAntiviralArthritisAtherosclerosisCancerCardiovascular DiseaseDiabetesGlaucomaImmunologyInsomniaOsteoporosisPainRespiratory DiseaseVaccinesPhase IAlzheimers Disease
    
    c-7617Arthritis
    
    c-7198, c-9101Cancer
    
    c-8585, VX-680*CINV
    
    c-9280Diabetes
    
    c-0730Endocrine
    
    c-0239, c-0302, c-7717Glaucoma
    
    c-3859Obesity
    
    Nastech PYY3-36*Osteoporosis
    
    c-3578Pain
    
    c-8928, c-6740, c-1246Parkinsons Disease
    
    c-6161Psychiatric Disease
    
    DOV*Urinary Incontinence
    
    c-4699, c-0172Phase IIAIDS
    
    c-1605Alzheimers Disease
    
    c-9136Arthritis
    
    c-4462, c-9787Atherosclerosis
    
    c-8834, c-1602Cancer (CTCL)
    
    SAHA*Diabetes
    
    c-3347HIV VaccineMultiple Sclerosis
    
    c-6448Obesity
    
    c-2624, c-2735, c-5093Pediatric VaccinePsychiatric Disease
    
    c-9054Respiratory Disease
    
    c-3193, c-3885Stroke
    
    ONO 2506*Phase IIIHPV and Related Cervical Cancer
and Genital Warts
    
    GardasilDiabetes
    
    MK-431Rotavirus Gastroenteritis
    
    RotaTeqInsomnia
    
    Gaboxadol*Shingles
    
    Zoster Vaccine2004 U.S. SubmissionsDiabetes
    
    Muraglitazar*Osteoporosis
    
    FosamaxPlus Vitamin DPediatric Vaccine
    
    ProQuad
 * Licensed
 Research and development expenses increased 23% in 2003. Excluding the effects of
exchange and inflation, these expenses increased 17%.  (CHART) Equity Income from Affiliates Zetia Vytorin Prilosec
         Merck & Co., Inc. Annual Report 2004
    
    27




---



##### 



Other (Income) Expense, Net Aggrastat
 Earnings($ in millions exceptper share amounts)
    
    2004
    
    
    Change
    
    
    2003
    
    
    Change
    
    
    2002Income from continuing
operations
    
    $
    5,813.4
    
    
    
    -12%
    
    
    $
    6,589.6
    
    
    
    -3%
    
    
    $
    6,794.8As a % of sales
    
    
    25.3%
    
    
    
    
    
    
    
    29.3%
    
    
    
    
    
    
    
    31.7%Net income
    
    
    5,813.4
    
    
    
    
    
    
    
    6,830.9
    
    
    
    
    
    
    
    7,149.5As a % of average
total assets
    
    
    14.0%
    
    
    
    
    
    
    
    14.9%
    
    
    
    
    
    
    
    15.5%Earnings per common
share assuming
dilution from
continuing operations
    
    $
    2.61
    
    
    
    -11%
    
    
    $
    2.92
    
    
    
    -2%
    
    
    $
    2.98
 The Companys effective income tax rate was 27.1% in 2004, 27.2% in 2003, and
29.6% in 2002. The lower tax rate in 2004 and 2003 resulted from a change in mix of domestic and
foreign income, which in 2004 included the impact of the Vioxxwithdrawal, and in 2003 included the
impact of restructuring costs and the wholesaler distribution program.  Vioxx
 (CHART) Selected Joint Venture and Affiliate Information  Zetia Ezetrol Ezetrol Zetia Zocor Vytorin Inegy Vytorin
 Prilosec
  Nexium Prilosec Prilosec
    28
 Merck & Co., Inc. Annual Report 2004




---



##### 



In 1997, Merck and Rhône-Poulenc S.A. (now Sanofi-Aventis S.A.) combined their
animal health and poultry genetics businesses to form Merial Limited (Merial), a fully integrated
animal health company, which is a stand-alone joint venture, equally owned by each party. Merial
provides a comprehensive range of pharmaceuticals and vaccines to enhance the health, well-being
and performance of a wide range of animal species. Sales of joint venture products were as follows: ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Fipronil products
    
    $
    679.1
    
    
    $
    577.2
    
    
    $
    486.2Avermectin products
    
    
    452.4
    
    
    
    476.7
    
    
    
    462.1Other products
    
    
    841.8
    
    
    
    779.8
    
    
    
    705.7$
    1,973.3
    
    
    $
    1,833.7
    
    
    $
    1,654.0
 In 1994, Merck and Pasteur Mérieux Connaught (now Sanofi Pasteur S.A.)
established a 50% owned joint venture to market vaccines in Europe and to collaborate in the
development of combination vaccines for distribution in Europe.
Sales of joint venture products were as follows: ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Hepatitis vaccines
    
    $
    80.5
    
    
    $
    73.6
    
    
    $
    69.4Viral vaccines
    
    
    54.0
    
    
    
    51.5
    
    
    
    34.6Other vaccines
    
    
    672.5
    
    
    
    543.9
    
    
    
    442.4$
    807.0
    
    
    $
    669.0
    
    
    $
    546.4
 In 1989, Merck formed a joint venture with Johnson & Johnson to develop and
market a broad range of nonprescription medicines for U.S. consumers. This 50% owned joint venture
was expanded into Europe in 1993, and into Canada in 1996. In March 2004, Merck sold its 50% equity
stake in its European joint venture to Johnson & Johnson for $244.0 million and recorded a $176.8
million gain as Other (income) expense, net. Merck will continue to benefit through royalties on
certain products and also regained the rights to potential future products that switch from
prescription to over-the-counter status in Europe. Sales of joint venture products were as follows: ($ in millions)
    
    2004*
    
    
    2003
    
    
    2002Gastrointestinal products
    
    $
    269.2
    
    
    $
    299.6
    
    
    $
    299.0Other products
    
    
    46.1
    
    
    
    146.2
    
    
    
    114.0$
    315.3
    
    
    $
    445.8
    
    
    $
    413.0
 * Includes sales of the European joint venture up through March 2004.
 Capital Expenditures
 Depreciation was $1.3 billion in 2004 and $1.1 billion in 2003, of which $908.4 million and
$790.0 million, respectively, applied to locations in the United States. (CHART) Analysis of Liquidity and Capital Resources  Selected Data ($in millions)
    
    2004
    
    
    2003
    
    
    2002Working capital
    
    $
    1,731.1
    
    
    $
    1,957.6
    
    
    $
    2,011.2Total debt to total liabilities and equity
    
    
    16.1
    %
    
    
    16.7
    %
    
    
    18.0
    %Cash provided by operations to total debt
    
    
    1.3:1
    
    
    
    1.2:1
    
    
    
    1.0:1
 Working capital levels are more than adequate to meet the operating requirements
of the Company. The ratios of total debt to total liabilities and equity and cash provided by
operations to total debt reflect the strength of the Companys operating cash flows and the ability
of the Company to cover its contractual obligations.  Payments Due by Period 2006-
    
    
    2008-
    
    
    There-($ in millions)
    
    Total
    
    
    2005
    
    
    2007
    
    
    2009
    
    
    afterLoans payable and
current portion of
long-term debt
    
    $
    2,181.2
    
    
    $
    2,181.2
    
    
    $
    
    
    
    $
    
    
    
    $
    Long-term debt
    
    
    4,691.5
    
    
    
    
    
    
    
    895.8
    
    
    
    1,696.5
    
    
    
    2,099.2Operating leases
    
    
    305.2
    
    
    
    91.7
    
    
    
    94.1
    
    
    
    51.0
    
    
    
    68.4$
    7,177.9
    
    
    $
    2,272.9
    
    
    $
    989.9
    
    
    $
    1,747.5
    
    
    $
    2,167.6
 Merck & Co., Inc. Annual Report 2004
    
    29




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##### 



Loans payable and current portion of long-term debt includes $500.0 million of
notes with a final maturity in 2011, which, on an annual basis, will either be repurchased from the
holders at the option of the remarketing agent and remarketed, or redeemed by the Company. Loans
payable and current portion of long-term debt also reflects $345.9 million of long-dated notes that
are subject to repayment at the option of the holders on an annual basis. Required funding
obligations for 2005 relating to the Companys pension and other postretirement benefit plans are
not expected to be material.   Vioxx
 Financial Instruments Market Risk Disclosures Foreign Currency Risk Management
    30
 Merck & Co., Inc. Annual Report 2004




---



##### 



exchange rates and economically offset the consequences of changes in foreign exchange on the
amount of U.S. dollar cash flows derived from the net assets. Merck routinely enters into contracts
to fully offset the effects of exchange on exposures denominated in developed country currencies,
primarily the euro and Japanese yen. For exposures in developing country currencies, the Company
will enter into forward contracts on a more limited basis and only when it is deemed economical to
do so based on a cost-benefit analysis that considers the magnitude of the exposure, the volatility
of the exchange rate and the cost of the hedging instrument. The Company will also minimize the
effect of exchange on monetary assets and liabilities by managing operating activities and net
asset positions at the local level. The Company also uses forward contracts to hedge the changes in
fair value of certain foreign currency denominated available-for- sale securities attributable to
fluctuations in foreign currency exchange rates. A sensitivity analysis to changes in the value of
the U.S. dollar on foreign currency denominated derivatives, investments and monetary assets and
liabilities indicated that if the U.S. dollar uniformly strengthened by 10% against all currency
exposures of the Company at December 31, 2004 and 2003, Income from continuing operations before
taxes would have declined by $7.8 million and $5.6 million, respectively. Because Merck is in a net
long position relative to its major foreign currencies after consideration of forward contracts, a
uniform strengthening of the U.S. dollar will yield the largest overall potential net loss in
earnings due to exchange. This measurement assumes that a change in one foreign currency relative
to the U.S. dollar would not affect other foreign currencies relative to the U.S. dollar. Although
not predictive in nature, the Company believes that a 10% threshold reflects reasonably possible
near-term changes in Mercks major foreign currency exposures relative to the U.S. dollar. The cash
flows from these contracts are reported as operating activities in the Consolidated Statement of
Cash Flows. Interest Rate Risk Management
 Critical Accounting Policies and Other Matters  Revenue Recognition   Merck & Co., Inc. Annual Report 2004
    
    31




---



##### 



The Company assumes a first-in, first-out movement of inventory within the supply
chain for purposes of estimating its aggregate indirect customer discount accrual. In addition, the
Company uses historical customer segment mix, adjusted for other known events, in order to estimate
the expected provision. Amounts accrued for aggregate indirect customer discounts are evaluated on
a quarterly basis through comparison of information provided by the wholesalers and other customers
to the amounts accrued. Adjustments are recorded when trends or significant events indicate that a
change in the estimated provision is appropriate.   2004
    
    
    2003Balance, January 1
    
    $
    752.2
    
    
    $
    570.8Current provision
    
    
    4,031.6
    
    
    
    3,233.1Adjustments relating to prior years
    
    
    57.7
    
    
    
    (4.3
    )Payments
    
    
    (3,811.2
    )
    
    
    (3,047.4
    )Balance, December 31
    
    $
    1,030.3
    
    
    $
    752.2
 Accruals for chargebacks are reflected as a direct reduction to accounts
receivable and accruals for rebates as accrued expenses. The accrued balances relative to these
provisions included in Accounts receivable and Accrued and other current liabilities were $133.7
million and $896.6 million, respectively, at December 31, 2004, and $110.4 million and $641.8
million, respectively, at December 31, 2003.
 Inventories Produced in Preparation for Product Launches  Arcoxia Arcoxia Arcoxia Arcoxia Arcoxia Arcoxia Arcoxia Arcoxia Arcoxia
 Contingencies and Environmental Liabilities  Vioxx
    32
 Merck & Co., Inc. Annual Report 2004




---



##### 



significantly increased the reserve solely for future legal defense costs for Vioxxwhen it had
the ability to reasonably estimate its future legal defense costs for the VioxxLitigation. Some of
the significant factors that were considered in the establishment of the reserve for the Vioxx
Litigation were as follows: the actual costs incurred by the Company up to that time; the
development of the Companys legal defense strategy and structure in light of the expanded scope
of the VioxxLitigation; the number of cases being brought against the Company; and the anticipated
timing, progression, and related costs of pre-trial activities and trials in the VioxxProduct
Liability Lawsuits. The Company will continue to monitor its legal defense costs and review the
adequacy of the associated reserves. The Company has not established any reserves for any potential
liability relating to the VioxxLitigation.
 Pensions and Other Postretirement Benefit Plans        Merck & Co., Inc. Annual Report 2004
    
    33




---



##### 



Unrecognized net loss amounts reflect experience differentials primarily relating
to differences between expected and actual returns on plan assets as well as the effects of changes
in actuarial assumptions. Expected returns are based on a calculated market-related value of
assets. Under this methodology, asset gains/losses resulting from actual returns that differ from
the Companys expected returns are recognized in the market-related value of assets ratably over a
five-year period. Total unrecognized net loss amounts in excess of certain thresholds are amortized
into net pension and other postretirement benefit cost over the average remaining service life of
employees. Amortization of total unrecognized net losses for the Companys U.S. plans at December
31, 2004 is expected to increase net pension and other postretirement benefit cost by
approximately $125.0 million annually from 2005 through 2009. Taxes on Income
 At December 31, 2004, foreign earnings of $20.1 billion and domestic earnings of $880.9
million have been retained indefinitely by subsidiary companies for reinvestment. No provision is
made for income taxes that would be payable upon the distribution of such earnings. On October 22,
2004, the American Jobs Creation Act of 2004 (the AJCA) was signed into law. The AJCA creates a
temporary incentive for U.S. multinationals to repatriate accumulated income earned outside the
United States as of December 31, 2002. On December 21, 2004, the Financial Accounting Standards
Board (the FASB) issued FASB Staff Position, Accounting and Disclosure Guidance for the Foreign
Earnings Repatriation Provision within the American Jobs Creation Act of 2004 (FSP No. 109-2). FSP
No. 109-2 allows companies additional time to evaluate the effect of the law. Through December 31,
2004, the Company has not provided deferred taxes on foreign earnings because such earnings were
intended to be indefinitely reinvested outside the United States. Whether the Company will
ultimately take advantage of the temporary incentive depends on a number of factors including
analyzing U.S. Internal Revenue Service guidance before a decision is made. The Company expects to
be in a position to finalize its decisions regarding the temporary incentive during 2005. Until
that time, the Company will make no change in its current intention to indefinitely reinvest
accumulated earnings of its foreign subsidiaries. If it becomes apparent that the Company will
repatriate all or any of these earnings in an amount of up to $15 billion, a one-time tax charge to
the Companys results of operations of up to approximately $1 billion could occur. The ultimate tax
charge is dependent on a number of factors currently under consideration, including the passage of
pending legislation, which contains certain technical corrections to the AJCA. The Company has not
changed its intention to indefinitely reinvest accumulated earnings earned subsequent to December
31, 2002. No provision will be made for income taxes that would be payable upon the distribution of
such earnings and it is not practicable to determine the amount of the related unrecognized
deferred income tax liability. Recently Issued Accounting Standards
    34
 Merck & Co., Inc. Annual Report 2004




---



##### 



Cautionary Factors That May Affect Future Results   Cash Dividends Paid per Common Share Year
    
    
    4th Q
    
    
    3rd Q
    
    
    2nd Q
    
    
    1st Q2004
    
    $
    1.49
    
    
    $
    .38
    
    
    $
    .37
    
    
    $
    .37
    
    
    $
    .372003
    
    $
    1.45
    
    
    $
    .37
    
    
    $
    .36
    
    
    $
    .36
    
    
    $
    .36
 Common Stock Market Prices 2004
    
    4th Q
    
    
    3rd Q
    
    
    2nd Q
    
    
    1st QHigh
    
    $
    34.32
    
    
    $
    47.73
    
    
    $
    48.78
    
    
    $
    49.33Low
    
    
    25.60
    
    
    
    32.46
    
    
    
    44.28
    
    
    
    42.852003High
    
    $
    51.95
    
    
    $
    62.69
    
    
    $
    63.50
    
    
    $
    60.24Low
    
    
    40.57
    
    
    
    49.48
    
    
    
    54.10
    
    
    
    49.90
 The principal market for trading of the common stock is the New York Stock
Exchange (NYSE) under the symbol MRK. The common stock market price information above is based on
historical NYSE market prices and has not been adjusted to reflect the spin-off of Medco Health, in
which holders of Merck common stock at the close of business on August 12, 2003 received .1206
shares of Medco Health common stock for every one share of Merck common stock held on that date.
On August 20, 2003, Merck common stock began to trade on a postdistribution basis.
 Condensed Interim Financial Data ($ in millions exceptper share amounts)
    
    4th Q(1)
    
    
    3rd Q(2)
    
    
    2nd Q
    
    
    1st Q2004Sales
    
    $
    5,748.0
    
    
    $
    5,538.1
    
    
    $
    6,021.7
    
    
    $
    5,630.8Materials and production costs
    
    
    1,283.6
    
    
    
    1,364.2
    
    
    
    1,163.7
    
    
    
    1,148.2Marketing and administrative
expenses
    
    
    2,365.8
    
    
    
    1,752.9
    
    
    
    1,616.2
    
    
    
    1,611.4Research and development
expenses
    
    
    1,108.6
    
    
    
    919.3
    
    
    
    986.0
    
    
    
    996.3Equity income from affiliates
    
    
    (285.9
    )
    
    
    (307.1
    )
    
    
    (220.5
    )
    
    
    (194.7
    )Other (income) expense, net
    
    
    (103.9
    )
    
    
    (4.2
    )
    
    
    37.5
    
    
    
    (273.3
    )Income from continuing
operations before taxes
    
    
    1,379.8
    
    
    
    1,813.0
    
    
    
    2,438.8
    
    
    
    2,342.9Net income
    
    
    1,101.1
    
    
    
    1,325.6
    
    
    
    1,768.1
    
    
    
    1,618.6Basic earnings per
common share
    
    $
    .50
    
    
    $
    .60
    
    
    $
    .80
    
    
    $
    .73Earnings per common
share assuming dilution
    
    $
    .50
    
    
    $
    .60
    
    
    $
    .79
    
    
    $
    .732003Sales
    
    $
    5,627.1
    
    
    $
    5,762.0
    
    
    $
    5,525.4
    
    
    $
    5,571.4Materials and production costs
    
    
    1,227.2
    
    
    
    1,083.4
    
    
    
    1,020.1
    
    
    
    1,106.2Marketing and administrative
expenses
    
    
    1,827.4
    
    
    
    1,463.6
    
    
    
    1,589.9
    
    
    
    1,513.9Research and development
expenses
    
    
    906.3
    
    
    
    776.5
    
    
    
    786.4
    
    
    
    810.7Equity income from affiliates
    
    
    (6.0
    )
    
    
    (183.4
    )
    
    
    (187.4
    )
    
    
    (97.3
    )Other (income) expense, net
    
    
    (88.7
    )
    
    
    17.1
    
    
    
    (153.4
    )
    
    
    21.7Income from continuing
operations before taxes
    
    
    1,760.9
    
    
    
    2,604.8
    
    
    
    2,469.8
    
    
    
    2,216.2Income from continuing
operations
    
    
    1,395.2
    
    
    
    1,865.0
    
    
    
    1,784.5
    
    
    
    1,545.0Income from discontinued
operations, net of taxes
    
    
    
    
    
    
    (6.7
    )
    
    
    82.5
    
    
    
    165.4Net income
    
    
    1,395.2
    
    
    
    1,858.3
    
    
    
    1,867.0
    
    
    
    1,710.4Basic earnings per
common share
Continuing operations
    
    $
    .63
    
    
    $
    .83
    
    
    $
    .80
    
    
    $
    .69Discontinued operations
    
    
    
    
    
    
    
    
    
    
    .04
    
    
    
    .07Net income
    
    
    .63
    
    
    
    .83
    
    
    
    .83
    (3)
    
    
    .76Earnings per common
share assuming dilution
Continuing operations
    
    $
    .62
    
    
    $
    .83
    
    
    $
    .79
    
    
    $
    .68Discontinued operations
    
    
    
    
    
    
    
    
    
    
    .04
    
    
    
    .07Net income
    
    
    .62
    
    
    
    .82
    (3)
    
    
    .83
    
    
    
    .76
    (3)
 (1)
 (2)
 (3)
      Merck & Co., Inc. Annual Report 2004
    
    35




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##### 



Consolidated Statement of IncomeMerck & Co., Inc. and SubsidiariesYears Ended December 31($ in millions except per share amounts)
 2004
    
    
    2003
    
    
    2002Sales
    
    $
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8Costs, Expenses and OtherMaterials and production
    
    
    4,959.8
    
    
    
    4,436.9
    
    
    
    4,004.9Marketing and administrative
    
    
    7,346.3
    
    
    
    6,394.9
    
    
    
    5,652.2Research and development
    
    
    4,010.2
    
    
    
    3,279.9
    
    
    
    2,677.2Equity income from affiliates
    
    
    (1,008.2
    )
    
    
    (474.2
    )
    
    
    (644.7
    )Other (income) expense, net
    
    
    (344.0
    )
    
    
    (203.2
    )
    
    
    104.514,964.1
    
    
    
    13,434.3
    
    
    
    11,794.1Income from Continuing Operations Before Taxes
    
    
    7,974.5
    
    
    
    9,051.6
    
    
    
    9,651.7Taxes on Income
    
    
    2,161.1
    
    
    
    2,462.0
    
    
    
    2,856.9Income from Continuing Operations
    
    
    5,813.4
    
    
    
    6,589.6
    
    
    
    6,794.8Income from Discontinued Operations, Net of Taxes
    
    
    
    
    
    
    241.3
    
    
    
    354.7Net Income
    
    $
    5,813.4
    
    
    $
    6,830.9
    
    
    $
    7,149.5Basic Earnings per Common ShareContinuing Operations
    
    $
    2.62
    
    
    $
    2.95
    
    
    $
    3.01Discontinued Operations
    
    
    
    
    
    
    .11
    
    
    
    .16Net Income
    
    $
    2.62
    
    
    $
    3.05
    *
    
    $
    3.17Earnings per Common Share Assuming DilutionContinuing Operations
    
    $
    2.61
    
    
    $
    2.92
    
    
    $
    2.98Discontinued Operations
    
    
    
    
    
    
    .11
    
    
    
    .16Net Income
    
    $
    2.61
    
    
    $
    3.03
    
    
    $
    3.14
 *Amount does not add as a result of rounding.
 Consolidated Statement of Retained Earnings
Merck & Co., Inc. and SubsidiariesYears Ended December 31($ in millions) 2004
    
    
    2003
    
    
    2002Balance, January 1
    
    $
    34,142.0
    
    
    $
    35,434.9
    
    
    $
    31,489.6Net Income
    
    
    5,813.4
    
    
    
    6,830.9
    
    
    
    7,149.5Common Stock Dividends Declared
    
    
    (3,329.1
    )
    
    
    (3,264.7
    )
    
    
    (3,204.2
    )Spin-off of Medco Health
    
    
    
    
    
    
    (4,859.1
    )
    
    
    Balance, December 31
    
    $
    36,626.3
    
    
    $
    34,142.0
    
    
    $
    35,434.9
 Consolidated Statement of Comprehensive Income
Merck & Co., Inc. and SubsidiariesYears Ended December 31($ in millions) 2004
    
    
    2003
    
    
    2002Net Income
    
    $
    5,813.4
    
    
    $
    6,830.9
    
    
    $
    7,149.5Other Comprehensive (Loss) IncomeNet unrealized loss on derivatives,
net of tax and net income realization
    
    
    (31.7
    )
    
    
    (21.3
    )
    
    
    (20.0
    )Net unrealized (loss) gain on investments,
net of tax and net income realization
    
    
    (100.9
    )
    
    
    (46.3
    )
    
    
    73.1Minimum pension liability, net of tax
    
    
    (4.9
    )
    
    
    231.9
    
    
    
    (162.5
    )Cumulative translation adjustment relating to
equity investees, net of tax
    
    
    26.1
    
    
    
    
    
    
    
    (111.4
    )
    
    
    164.3
    
    
    
    (109.4
    )Comprehensive Income
    
    $
    5,702.0
    
    
    $
    6,995.2
    
    
    $
    7,040.1
 The accompanying notes are an integral part of these consolidated financial statements.
 36




---



##### 



Consolidated Balance Sheet
Merck & Co., Inc. and Subsidiaries December 31($ in millions) 2004
    
    
    2003AssetsCurrent AssetsCash and cash equivalents
    
    $
    2,878.8
    
    
    $
    1,201.0Short-term investments
    
    
    4,211.1
    
    
    
    2,972.0Accounts receivable
    
    
    3,627.7
    
    
    
    4,023.6Inventories
    
    
    1,898.7
    
    
    
    2,554.7Prepaid expenses and taxes
    
    
    858.9
    
    
    
    775.9Total current assets
    
    
    13,475.2
    
    
    
    11,527.2Investments
    
    
    6,727.1
    
    
    
    7,941.2Property, Plant and Equipment (at cost)Land
    
    
    366.6
    
    
    
    356.7Buildings
    
    
    8,874.3
    
    
    
    8,016.9Machinery, equipment and office furnishings
    
    
    11,926.1
    
    
    
    11,018.2Construction in progress
    
    
    1,641.6
    
    
    
    1,901.922,808.6
    
    
    
    21,293.7Less allowance for depreciation
    
    
    8,094.9
    
    
    
    7,124.714,713.7
    
    
    
    14,169.0Goodwill
    
    
    1,085.7
    
    
    
    1,085.4Other Intangibles, Net
    
    
    679.2
    
    
    
    864.0Other Assets
    
    
    5,891.9
    
    
    
    5,000.7$
    42,572.8
    
    
    $
    40,587.5Liabilities and Stockholders EquityCurrent LiabilitiesLoans payable and current portion of long-term debt
    
    $
    2,181.2
    
    
    $
    1,700.0Trade accounts payable
    
    
    421.4
    
    
    
    735.2Accrued and other current liabilities
    
    
    5,288.1
    
    
    
    3,772.8Income taxes payable
    
    
    3,012.3
    
    
    
    2,538.9Dividends payable
    
    
    841.1
    
    
    
    822.7Total current liabilities
    
    
    11,744.1
    
    
    
    9,569.6Long-Term Debt
    
    
    4,691.5
    
    
    
    5,096.0Deferred Income Taxes and Noncurrent Liabilities
    
    
    6,442.1
    
    
    
    6,430.3Minority Interests
    
    
    2,406.9
    
    
    
    3,915.2Stockholders EquityCommon stock, one cent par valueAuthorized - 5,400,000,000 sharesIssued - 2,976,230,393 shares
    
    
    29.8
    
    
    
    29.8Other paid-in capital
    
    
    6,869.8
    
    
    
    6,956.6Retained earnings
    
    
    36,626.3
    
    
    
    34,142.0Accumulated other comprehensive (loss) income
    
    
    (45.9
    )
    
    
    65.543,480.0
    
    
    
    41,193.9Less treasury stock, at cost767,591,491 shares - 2004754,466,884 shares - 2003
    
    
    26,191.8
    
    
    
    25,617.5Total stockholders equity
    
    
    17,288.2
    
    
    
    15,576.4$
    42,572.8
    
    
    $
    40,587.5
 The accompanying notes are an integral part of this consolidated financial
statement.
 37




---



##### 



Consolidated Statement of Cash Flows
Merck & Co., Inc. and Subsidiaries Years Ended December 31($ in millions) 2004
    
    
    2003
    
    
    2002Cash Flows from Operating Activities of Continuing OperationsNet income
    
    $
    5,813.4
    
    
    $
    6,830.9
    
    
    $
    7,149.5Less: Income from discontinued operations, net of taxes
    
    
    
    
    
    
    (241.3
    )
    
    
    (354.7
    )Income from continuing operations
    
    
    5,813.4
    
    
    
    6,589.6
    
    
    
    6,794.8Adjustments to reconcile income from continuing operations to net cash
provided by operating activities of continuing operations:Depreciation and amortization
    
    
    1,450.7
    
    
    
    1,314.2
    
    
    
    1,231.2Deferred income taxes
    
    
    48.9
    
    
    
    131.7
    
    
    
    387.5Other
    
    
    (35.4
    )
    
    
    (98.1
    )
    
    
    (116.9
    )Net changes in assets and liabilities:Accounts receivable
    
    
    173.1
    
    
    
    320.9
    
    
    
    130.2Inventories
    
    
    331.9
    
    
    
    (435.3
    )
    
    
    (41.5
    )Trade accounts payable
    
    
    (323.8
    )
    
    
    (21.6
    )
    
    
    325.4Accrued and other current liabilities
    
    
    1,382.3
    
    
    
    505.4
    
    
    
    97.0Income taxes payable
    
    
    453.9
    
    
    
    494.1
    
    
    
    459.9Noncurrent liabilities
    
    
    (445.4
    )
    
    
    (255.3
    )
    
    
    (359.9
    )Other
    
    
    (50.5
    )
    
    
    (119.1
    )
    
    
    (197.1
    )Net Cash Provided by Operating Activities of Continuing Operations
    
    
    8,799.1
    
    
    
    8,426.5
    
    
    
    8,710.6Cash Flows from Investing Activities of Continuing OperationsCapital expenditures
    
    
    (1,726.1
    )
    
    
    (1,915.9
    )
    
    
    (2,128.1
    )Purchase of securities, subsidiaries and other investments
    
    
    (82,256.4
    )
    
    
    (61,586.9
    )
    
    
    (37,443.6
    )Proceeds from sale of securities, subsidiaries and other
investments
    
    
    82,363.8
    
    
    
    60,823.4
    
    
    
    35,807.4Acquisitions of Banyu shares
    
    
    (12.8
    )
    
    
    (1,527.8
    )
    
    
    Other
    
    
    (6.6
    )
    
    
    (25.0
    )
    
    
    (3.7
    )Net Cash Used by Investing Activities of Continuing Operations
    
    
    (1,638.1
    )
    
    
    (4,232.2
    )
    
    
    (3,768.0
    )Cash Flows from Financing Activities of Continuing OperationsNet change in short-term borrowings
    
    
    (252.4
    )
    
    
    (2,347.2
    )
    
    
    (508.4
    )Proceeds from issuance of debt
    
    
    405.1
    
    
    
    1,300.3
    
    
    
    2,618.5Payments on debt
    
    
    (37.3
    )
    
    
    (736.2
    )
    
    
    (2,504.9
    )Redemption of preferred units of subsidiary
    
    
    (1,500.0
    )
    
    
    
    
    
    
    Purchase of treasury stock
    
    
    (974.6
    )
    
    
    (2,034.1
    )
    
    
    (2,091.3
    )Dividends paid to stockholders
    
    
    (3,310.7
    )
    
    
    (3,250.4
    )
    
    
    (3,191.6
    )Proceeds from exercise of stock options
    
    
    240.3
    
    
    
    388.2
    
    
    
    318.3Other
    
    
    (161.8
    )
    
    
    (148.5
    )
    
    
    (172.5
    )Net Cash Used by Financing Activities of Continuing Operations
    
    
    (5,591.4
    )
    
    
    (6,827.9
    )
    
    
    (5,531.9
    )Effect of Exchange Rate Changes on Cash and
Cash Equivalents
    
    
    108.2
    
    
    
    155.7
    
    
    
    113.2Discontinued OperationsNet cash provided by Medco Health
    
    
    
    
    
    
    248.0
    
    
    
    575.1Dividend received from Medco Health, net of intercompany settlements
and cash transferred
    
    
    
    
    
    
    1,187.9
    
    
    
    Net Cash Provided by Discontinued Operations
    
    
    
    
    
    
    1,435.9
    
    
    
    575.1Net Increase (Decrease) in Cash and Cash Equivalents
    
    
    1,677.8
    
    
    
    (1,042.0
    )
    
    
    99.0Cash and Cash Equivalents at Beginning of Year
    
    
    1,201.0
    
    
    
    2,243.0
    
    
    
    2,144.0Cash and Cash Equivalents at End of Year
    
    $
    2,878.8
    
    
    $
    1,201.0
    
    
    $
    2,243.0
 The accompanying notes are an integral part of this consolidated financial statement.
 38




---



##### 



Notes to Consolidated
Financial Statements Merck & Co., Inc. and Subsidiaries($ in millions except per share amounts) 1. Nature of Operations
Merck is a global research-driven pharmaceutical company that discovers, develops, manufactures and
markets a broad range of innovative products to improve human and animal health, directly and
through its joint ventures. The Companys products include therapeutic and preventive agents,
generally sold by prescription, for the treatment of human disorders. 2. Summary of Accounting PoliciesPrinciples of Consolidation The consolidated financial statements include the accounts of the
Company and all of its subsidiaries in which a controlling interest is maintained. Controlling
interest is determined by majority ownership interest and the absence of substantive third-party
participating rights or, in the case of variable interest entities, by majority exposure to
expected losses, residual returns or both. For those consolidated subsidiaries where Merck
ownership is less than 100%, the outside stockholders interests are shown as Minority interests.
Investments in affiliates over which the Company has significant influence but not a controlling
interest, such as interests in entities owned equally by the Company and a third party that are
under shared control, are carried on the equity basis. Foreign Currency Translation The U.S. dollar is the functional currency for the Companys
foreign subsidiaries. Cash and Cash Equivalents Cash equivalents are comprised of certain highly liquid investments
with original maturities of less than three months. Inventories Substantially all domestic pharmaceutical inventories are valued at the lower of
last-in, first-out (LIFO) cost or market for both book and tax purposes. Foreign pharmaceutical
inventories are valued at the lower of first-in, first-out (FIFO) cost or market. Inventories
consist of currently marketed products and certain products awaiting regulatory approval. In
evaluating the recoverability of inventories produced in preparation for product launches, the
Company considers the probability that revenue will be obtained from the future sale of the related
inventory together with the status of the product within the regulatory approval process. Investments Investments classified as available-for-sale are reported at fair value, with
unrealized gains or losses, to the extent not hedged, reported net of tax and minority interests,
in Accumulated other comprehensive income. Investments in debt securities classified as
held-to-maturity, consistent with managements intent, are reported at cost. Impairment losses are
charged to Other (income) expense, net, for other-than-temporary declines in fair value. The
Company considers available evidence in evaluating potential impairment of its investments,
including the duration and extent to which fair value is less than cost and the Companys ability
and intent to hold the investment. Revenue Recognition  Revenues from sales of products are recognized when title and risk
of loss passes to the customer. Revenues for domestic pharmaceutical sales are recognized at the
time of shipment, while for many foreign subsidiaries, as well as for vaccine sales, revenues are
recognized at the time of delivery. Recognition of revenue also requires reasonable assurance of
collection of sales proceeds and completion of all performance obligations. Domestically, sales
discounts are issued to customers as direct discounts at the point-of-sale or indirectly through an
intermediary wholesale purchaser, known as chargebacks, or indirectly in the form of rebates.
Additionally, sales are generally made with a limited right of return under certain conditions.
Revenues are recorded net of provisions for sales discounts and returns, which are established at
the time of sale. Accruals for chargebacks are reflected as a direct reduction to accounts
receivable and accruals for rebates as accrued expenses. The accrued balances relative to these
provisions included in Accounts receivable and Accrued and other current liabilities were $133.7
million and $896.6 million, respectively, at December 31, 2004 and $110.4 million and $641.8
million, respectively, at December 31, 2003. Depreciation Depreciation is provided over the estimated useful lives of the assets, principally
using the straight-line method. For tax purposes, accelerated methods are used. The estimated
useful lives primarily range from 10 to 50 years for Buildings, and from 3 to 15 years for
Machinery, equipment and office furnishings. Goodwill and Other Intangibles Goodwill represents the excess of acquisition costs over the fair
value of net assets of businesses purchased. Goodwill is not amortized, but rather, assigned to
reporting units within the Companys segments and evaluated for impairment on at least an annual
basis, using a fair value based test. Other acquired intangibles are recorded at cost and are
amortized on a straight-line basis over their estimated useful lives. (See Note 8.) When events
or circumstances warrant a review, the Company will assess recoverability from future operations of
other intangibles using undiscounted cash flows derived from the lowest appropriate asset
groupings, generally the subsidiary level. Impairments are recognized in operating results to the
extent that carrying value exceeds fair value, which is determined based on the net present value
of estimated future cash flows. 39




---



##### 



Research and Development Research and development is expensed as incurred. Upfront and milestone
payments made to third parties in connection with research and development collaborations prior to
regulatory approval are expensed as incurred. Payments made to third parties subsequent to
regulatory approval are capitalized and amortized over the shorter of the remaining license or
product patent life. Stock-Based Compensation Employee stock-based compensation is recognized using the intrinsic
value method. Generally, employee stock options are granted to purchase shares of Company stock at
the fair market value at the time of grant. Accordingly, no compensation expense is recognized for
the Companys stock-based compensation plans other than for its performance-based awards,
restricted stock units and options granted to employees of certain equity method investees. The effect on net income and earnings per common share if the Company had applied the fair
value method for recognizing employee stock-based compensation is as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Net income, as reported
    
    $
    5,813.4
    
    
    $
    6,830.9
    
    
    $
    7,149.5Compensation expense, net of tax:Reported
    
    
    16.7
    
    
    
    4.9
    
    
    
    1.2Fair value method
    
    
    (491.8
    )
    
    
    (559.4
    )
    
    
    (487.9
    )Pro forma net income
    
    $
    5,338.3
    
    
    $
    6,276.4
    
    
    $
    6,662.8Earnings per common share from
continuing operations:Assuming dilution  as reported
    
    $
    2.61
    
    
    $
    2.92
    
    
    $
    2.98Assuming dilution  pro forma
    
    $
    2.39
    
    
    $
    2.73
    
    
    $
    2.81Earnings per common share:Basic  as reported
    
    $
    2.62
    
    
    $
    3.05
    
    
    $
    3.17Basic  pro forma
    
    $
    2.41
    
    
    $
    2.81
    
    
    $
    2.95Assuming dilution  as reported
    
    $
    2.61
    
    
    $
    3.03
    
    
    $
    3.14Assuming dilution  pro forma
    
    $
    2.39
    
    
    $
    2.79
    
    
    $
    2.93
 Prior to 2004, pro forma compensation expense for options with graded vesting terms was
calculated using the Black-Scholes model based on a single-option valuation approach using the
straight-line method of amortization. In 2004, the Company revised the assumptions utilized by the
Black-Scholes model in determining pro forma compensation expense based on historical data, such
that expense is determined using separate expected term assumptions for each vesting tranche. As a
result, pro forma compensation expense for any stock options granted since January 1, 2004 has been
calculated using the accelerated amortization method prescribed in Financial Accounting Standards
Board (FASB) Interpretation No. 28, Accounting for Stock Appreciation Rights and Other Variable
Stock Option or Award Plans. In 2003, in connection with the Medco Health Solutions, Inc. (Medco Health) spin-off, options
granted to Medco Health employees prior to February 2002 and some options granted after February
2002 became fully vested in accordance with the original terms of the grants. As a result, 2003
pro forma compensation expense reflects the accelerated vesting of these options. In addition,
certain stock options granted to Medco Health employees in 2003 and 2002 were converted to Medco
Health options with terms and amounts that maintained the option holders positions. Therefore,
pro forma compensation expense for these options is reflected only through the date of the
spin-off. The average fair value of employee and non-employee director options granted during 2004, 2003
and 2002 was $10.50, $12.54 and $17.53, respectively. This fair value was estimated using the
Black-Scholes option-pricing model based on the weighted average market price at grant date of
$45.51 in 2004, $50.07 in 2003 and $61.16 in 2002 and the following weighted average assumptions: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Dividend yield
    
    
    3.4
    %
    
    
    2.7
    %
    
    
    2.3
    %Risk-free interest rate
    
    
    3.1
    %
    
    
    2.9
    %
    
    
    4.3
    %Volatility
    
    
    30
    %
    
    
    31
    %
    
    
    31
    %Expected life (years)
    
    
    5.7
    
    
    
    5.8
    
    
    
    5.7
 Legal Defense Costs Legal defense costs expected to be incurred in connection with a loss
contingency are accrued when probable and reasonably estimable. Use of Estimates The consolidated financial statements are prepared in conformity with
accounting principles generally accepted in the United States (GAAP) and, accordingly, include
certain amounts that are based on managements best estimates and judgments. Estimates are used in
determining such items as provisions for sales discounts and returns, depreciable and amortizable
lives, recoverability of inventories produced in preparation for product launches, amounts recorded
for contingencies, environmental liabilities and other reserves, pension and other postretirement
benefit plan assumptions, and taxes on income. Because of the uncertainty inherent in such
estimates, actual results may differ from these estimates. Reclassifications Certain reclassifications have been made to prior year amounts to conform with
current year presentation. 3. Voluntary Product Withdrawal
On September 30, 2004, the Company announced a voluntary worldwide withdrawal of Vioxx, its
arthritis and acute pain medication. The Companys decision, which was effective immediately,
was based on new three-year data from a prospective, randomized, placebo-controlled clinical
trial, APPROVe (Adenomatous Polyp Prevention on Vioxx). 40




---



##### 



In connection with the withdrawal, the Company recorded an unfavorable adjustment to net
income of $552.6 million, or $.25 per share. The adjustment to pre-tax income was $726.2
million. Of this amount, $491.6 million related to estimated customer returns of product
previously sold and was recorded as a reduction of Sales, $93.2 million related to write-offs of
inventory held by the Company and was recorded in Materials and production expense, and $141.4
million related to estimated costs to undertake the withdrawal of the product and was recorded in
Marketing and administrative expense. The tax benefit of this adjustment was $173.6 million,
which reflects the geographical mix of Vioxxreturns and the cost of the withdrawal. The
adjustment did not include charges for future legal defense costs. (See Note 11.) At December
31, 2004, $173.8 million of the remaining accrued balance was reported in Accrued and other
current liabilities and $235.0 million was reported as a reduction to Accounts receivable. 4. Restructuring
In October 2003, the Company announced plans to eliminate 4,400 positions as part of a
cost-reduction initiative that was completed at the end of 2004. As of December 31, 2004, the
Company had eliminated 5,100 positions, as the Company identified additional opportunities to
eliminate positions and reduce costs. Most of the additional eliminations came from contractor
positions. The Company recorded restructuring costs of $104.6 million for 2004 and $194.6
million for 2003 in Marketing and administrative expense. Of these amounts, in 2004 and 2003,
respectively, $82.0 million and $101.8 million related to employee severance benefits, $20.9
million and $86.0 million related to curtailment, settlement and termination charges on the
Companys pension and other postretirement benefit plans (see Note 15) and $1.7 million and $6.8
million related to a modification in the terms of certain employees stock option grants. Summarized information relative to the employee severance benefits accrual is as follows: 2004
    
    
    2003Balance, January 1
    
    $
    78.3
    
    
    $
    Expense
    
    
    82.0
    
    
    
    101.8Payments
    
    
    (115.5
    )
    
    
    (23.5
    )Balance, December 31
    
    $
    44.8
    
    
    $
    78.3
 At December 31, 2004, the accrued balance primarily relates to committed employee
severance benefits obligations, which, in accordance with certain local laws, will be paid over
time. 5. Strategic Initiatives
In November 2004, Merck and Ono Pharmaceutical Co., Ltd. (Ono) announced that they signed an
agreement granting Merck the worldwide license for ONO-2506 (2R)-2-propyloctanoic acid, a
novel intravenous compound currently in Phase II development for the treatment of acute stroke.
Under the terms of the agreement, Ono received an initial upfront payment and, during the term of
the agreement, could receive milestone payments in addition to royalties on net sales. In
addition, Ono received exclusive rights in Japan to develop and market Emend(aprepitant), Mercks
drug for use in combination with other antiemetic agents for prevention of acute and delayed nausea
and vomiting associated with initial and repeat courses of highly emetogenic cancer chemotherapy,
including cisplatin. Ono also received rights in Japan to co-market a second brand of MK-431,
Mercks investigational oral compound for the treatment of diabetes, under a yet to be determined
trademark. In April 2004, Merck and Bristol-Myers Squibb Company (BMS) entered into a worldwide
collaborative agreement for muraglitazar, BMSs product for use in treating patients with Type 2
diabetes. Merck and BMS will globally develop and market muraglitazar. BMS submitted a New Drug
Application (NDA) to the Food and Drug Administration (FDA) in December for muraglitazar. Under
the terms of the agreement, BMS received a $100.0 million upfront payment and, during the term of
the agreement, could receive up to $275.0 million in additional payments based upon the achievement
of certain regulatory milestones. The Company recorded the upfront payment as Research and
development expense. The companies will share equally in future development and commercialization
costs. In March 2004, the Company acquired Aton Pharma, Inc. (Aton), a privately held biotechnology
company focusing on the development of novel treatments for cancer and other serious diseases.
Atons clinical pipeline of histone deacetylase inhibitors represents a class of anti-tumor agents
with potential for efficacy based on a novel mechanism of action. Atons lead product candidate,
suberoylanilide hydroxamic acid, known as SAHA, has been extensively studied for the treatment of
cutaneous T-cell lymphoma. Consideration for the acquisition consisted of an upfront payment and
may include contingent payments based upon the regulatory filing, approval and sale of products.
In connection with the transaction, the Company recorded a charge of $125.5 million for acquired research associated with products in development for which, at the acquisition date,
technological feasibility had not been established and no alternative future use existed. This
charge was recorded in Research and development expense and was determined based upon the present
value of projected future cash flows utilizing an income approach reflecting the appropriate
risk-adjusted discount rate based on the product candidates stage of completion and its
probability of technical and marketing success. The remaining net assets acquired in this
transaction were not material. Because Aton was a development stage company that had not commenced
its planned principal operations, the transaction was accounted for as an acquisition of assets
rather than as a business combination and, therefore, goodwill was not recorded. Atons results of
operations have been included with the Companys since the acquisition date. In February 2004, Merck and H. Lundbeck A/S (Lundbeck) entered into an agreement for the
exclusive U.S. development and commercialization of gaboxadol, a compound for the treatment of
sleep disorders. Under the terms of the agreement, Lundbeck received an initial payment of $70.0
million and, during the term of the agreement, could receive up to $200.0 million in additional
milestone payments in the future. The Company recorded the upfront payment as Research and
development expense. Merck will fund the majority of the remaining development activities. In
June 2004, Merck and Lundbeck extended their agreement for the exclusive development and
commercialization of gaboxadol to Japan. 41




---



##### 



In 2003, the Company, through its wholly owned subsidiary, MSD (Japan) Co., Ltd., launched
tender offers to acquire the remaining 49% of the common shares of Banyu Pharmaceutical Co., Ltd.
(Banyu) that it did not already own for an aggregate purchase price of approximately $1.5
billion. Substantially all shares were acquired in 2003 and on March 30, 2004, Merck completed
its acquisition of Banyu. Full ownership of Banyu strengthens Mercks position in Japan, the
worlds second-largest pharmaceutical market. The Companys acquisitions of the Banyu shares were accounted for under the purchase method.
Pro forma information is not provided as the impact of the transactions does not have a material
effect on the Companys consolidated results of operations. The aggregate purchase price was
allocated based upon the fair values of the portion of assets and liabilities acquired. The
allocation of the aggregate purchase price resulted in the reversal of $1.0 billion of minority
interest liability and recognition of $332.0 million in other intangibles, $240.5 million in
goodwill, $153.0 million in deferred income tax liabilities and $34.5 million in other net
assets, principally property, plant and equipment. Other intangibles included $301.1 million of
in-line product rights having a 10-year weighted average useful life and $30.9 million
representing a 20-year life tradename. In connection with the transactions, the Company also
incurred a charge of $101.8 million for acquired research, recorded as Research and development
expense, associated with products in development for which, at the acquisition date,
technological feasibility had not been established and no alternative future use existed.
Approximately $64.0 million of the total acquired research charge related to Merck products that
Banyu was developing for sale in the Japanese market. For any of these products, Merck could
choose not to exclusively license the rights to Banyu and, in that event, generally would
reimburse Banyu for its associated research and development expenditures. Accordingly, these
products were valued using a cost approach, adjusted to reflect the probability of regulatory
approval. The remaining portion of the acquired research charge represented Banyu-developed
product candidates. The fair value of each product was determined based upon the present value
of projected future cash flows utilizing an income approach reflecting the appropriate
risk-adjusted discount rate based on the applicable products stage of completion and its
probability of technical and marketing success. On August 19, 2003, Merck completed the spin-off of Medco Health. The income of Medco Health
is presented separately as discontinued operations. The spin-off was effected by way of a pro rata
dividend to Merck stockholders. Holders of Merck common stock at the close of business on August
12, 2003, received a dividend of .1206 shares of Medco Health common stock for every one share of
Merck common stock held on that date. No fractional shares of Medco Health common stock were
issued. Shareholders entitled to a fractional share of Medco Health common stock in the
distribution received the cash value instead. Based on a letter ruling Merck received from the
U.S. Internal Revenue Service (IRS), receipt of Medco Health shares in the distribution was
tax-free for U.S. federal income tax purposes, but any cash received in lieu of fractional shares
was taxable. Prior to the spin-off, Merck received a $2.0 billion dividend from Medco Health and Merck paid
$564.7 million in settlement of the net intercompany payable to Medco Health. In addition, at the
date of the spin-off, $247.4 million of cash and cash equivalents were included in the net assets
of Medco Health that were spun off. Summarized financial information for discontinued operations is as follows: Years Ended December 31
    
    2003*
    
    
    2002Total net revenues
    
    $
    20,328.7
    
    
    $
    30,344.5Income before taxes
    
    
    369.6
    
    
    
    561.9Taxes on income
    
    
    128.3
    
    
    
    207.2Income, net of taxes
    
    
    241.3
    
    
    
    354.7
 * Includes operations up through August 19, 2003.
 The following is a summary of the assets and liabilities of discontinued operations that
were spun off: August 19,2003AssetsCash and cash equivalents
    
    $
    247.4Other current assets
    
    
    2,728.4Property, plant and equipment, net
    
    
    816.3Goodwill
    
    
    3,310.2Other intangibles, net
    
    
    2,351.9Other assets
    
    
    138.4$
    9,592.6LiabilitiesCurrent liabilities
    
    $
    2,176.2Long-term debt
    
    
    1,362.3Deferred income taxes
    
    
    1,195.0$
    4,733.5Net Assets Transferred
    
    $
    4,859.1
 6. Financial InstrumentsForeign Currency Risk Management
While the U.S. dollar is the functional currency of the Companys foreign subsidiaries, a
significant portion of the Companys revenues are denominated in foreign currencies. Merck relies
on sustained cash flows generated from foreign sources to support its long-term commitment to U.S.
dollar-based research and development. To the extent the dollar value of cash flows is diminished
as a result of a strengthening dollar, the Companys ability to fund research and other
dollar-based strategic initiatives at a consistent level may be impaired. The Company has
established revenue hedging and balance sheet risk management programs to protect against
volatility of future foreign currency cash flows and changes in fair value caused by volatility in
foreign exchange rates. The objective of the revenue hedging program is to reduce the potential for longer-term
unfavorable changes in foreign exchange to decrease the U.S. dollar value of future cash flows
derived from foreign currency denominated sales, primarily the euro and Japanese yen. To achieve
this objective, the Company will partially hedge anticipated third-party sales that are expected to
occur over its planning cycle, typically no more than three years into the future. The Company
will layer in hedges over time, increasing the portion of sales hedged as it gets closer to the
expected date of the transaction, such that it is probable that the hedged transaction will occur.
The portion of sales hedged is based on assessments of cost-benefit profiles that consider natural
offsetting exposures, revenue and exchange rate volatilities and correlations, and the cost of
hedging instruments. The hedged anticipated sales are a specified component of a portfolio of
similarly denominated foreign currency-based sales transactions, each of which responds to the
hedged risk in the same manner. Merck manages its anticipated transaction exposure principally
with purchased local currency put options, which provide the Company with a right, but not an
obligation, to sell foreign currencies in the future at a predetermined price. If the U.S. dollar
strengthens relative to the currency of the hedged anticipated sales, total changes in the options
cash flows fully offset the decline in the expected future U.S. dollar cash flows of the 42




---



##### 



hedged foreign currency sales. Conversely, if the U.S. dollar weakens, the options value reduces
to zero, but the Company benefits from the increase in the value of the anticipated foreign
currency cash flows. The designated hedge relationship is based on total changes in the options cash flows.
Accordingly, the entire fair value change in the options is deferred in Accumulated other
comprehensive income (AOCI) and reclassified into Sales when the hedged anticipated revenue is
recognized. The hedge relationship is perfectly effective and therefore no hedge ineffectiveness
is recorded. The fair values of currency options are reported in Accounts receivable or Other
assets. The primary objective of the balance sheet risk management program is to protect the U.S.
dollar value of foreign currency denominated net monetary assets from the effects of volatility in
foreign exchange that might occur prior to their conversion to U.S. dollars. Merck principally
utilizes forward exchange contracts, which enable the Company to buy and sell foreign currencies in
the future at fixed exchange rates and economically offset the consequences of changes in foreign
exchange on the amount of U.S. dollar cash flows derived from the net assets. Merck routinely
enters into contracts to fully offset the effects of exchange on exposures denominated in developed
country currencies, primarily the euro and Japanese yen. For exposures in developing country
currencies, the Company will enter into forward contracts on a more limited basis, and only when it
is deemed economical to do so based on a cost-benefit analysis that considers the magnitude of the
exposure, the volatility of the exchange rate and the cost of the hedging instrument. The Company
will also minimize the effect of exchange on monetary assets and liabilities by managing operating
activities and net asset positions at the local level. Foreign currency denominated monetary assets and liabilities are remeasured at spot rates in
effect on the balance sheet date with the effects of changes in spot rates reported in Other
(income) expense, net. The forward contracts are not designated as hedges and are marked to market
through Other (income) expense, net. Accordingly, fair value changes in the forward contracts help
mitigate the changes in the value of the remeasured assets and liabilities attributable to changes
in foreign currency exchange rates, except to the extent of the spot-forward differences. These
differences are not significant due to the short-term nature of the contracts, which typically have
average maturities at inception of less than one year. The Company also uses forward contracts to hedge the changes in fair value of certain foreign
currency denominated available-for-sale securities attributable to fluctuations in foreign currency
exchange rates. Changes in the fair value of the hedged securities due to fluctuations in spot
rates are offset in Other (income) expense, net, by the fair value changes in the forward contracts
attributable to spot rate fluctuations. Hedge ineffectiveness was not material during 2004, 2003
and 2002. Changes in the contracts fair value due to spot-forward differences are excluded from
the designated hedge relationship and recognized in Other (income) expense, net. These amounts
were not significant for the years ended December 31, 2004, 2003 and 2002. The fair values of forward exchange contracts are reported in the following four balance sheet
line items: Accounts receivable (current portion of gain position), Other assets (non-current
portion of gain position), Accrued and other current liabilities (current portion of loss
position), or Deferred income taxes and noncurrent liabilities (non-current portion of loss
position). Interest Rate Risk Management
The Company may use interest rate swap contracts on certain investing and borrowing transactions to
manage its net exposure to interest rate changes and to reduce its overall cost of borrowing. The
Company does not use leveraged swaps and, in general, does not leverage any of its investment
activities that would put principal capital at risk. At December 31, 2004, the Company was a party to four pay-floating, receive-fixed interest
rate swap contracts designated as fair value hedges of fixed-rate notes maturing in 2005, 2006,
2007 and 2013, respectively. The notional amounts of these swaps, which match the amount of the
hedged fixed-rate notes, were $500 million, $500 million, $350 million and $500 million,
respectively. The swaps effectively convert the fixed-rate obligations to floating-rate
instruments. The fair value changes in the notes are fully offset in interest expense by the fair
value changes in the swap contracts. In July 2004, a seven-year combined interest rate and currency swap contract that the Company
was a party to matured, with an immaterial impact. This contract was used to convert a foreign
currency denominated investment to a U.S. dollar investment. The interest rate component of the
swap was not designated as a hedge. The currency swap component was designated as a hedge of the
changes in fair value of the investment attributable to exchange. Accordingly, changes in the fair
value of the investment due to fluctuations in spot rates were offset in Other (income) expense,
net, by fair value changes in the currency swap. Hedge ineffectiveness was not significant during
2004, 2003 and 2002. The fair values of these contracts are reported in Accounts receivable, Other assets, Accrued
and other current liabilities, or Deferred income taxes and noncurrent liabilities. Fair Value of Financial Instruments
Summarized below are the carrying values and fair values of the Companys financial instruments at
December 31, 2004 and 2003. Fair values were estimated based on market prices, where available, or
dealer quotes. 2004
    
    
    2003Carrying
    
    
    Fair
    
    
    Carrying
    
    
    FairValue
    
    
    Value
    
    
    Value
    
    
    ValueAssetsCash and cash
equivalents
    
    $
    2,878.8
    
    
    $
    2,878.8
    
    
    $
    1,201.0
    
    
    $
    1,201.0Short-term investments
    
    
    4,211.1
    
    
    
    4,211.1
    
    
    
    2,972.0
    
    
    
    2,972.0Long-term investments
    
    
    6,727.1
    
    
    
    6,727.1
    
    
    
    7,941.2
    
    
    
    7,941.2Purchased currency
options
    
    
    34.0
    
    
    
    34.0
    
    
    
    19.4
    
    
    
    19.4Forward exchange
contracts
    
    
    13.4
    
    
    
    13.4
    
    
    
    7.5
    
    
    
    7.5Interest rate swaps
    
    
    59.1
    
    
    
    59.1
    
    
    
    100.3
    
    
    
    100.3LiabilitiesLoans payable and
current portion of
long-term debt
    
    $
    2,181.2
    
    
    $
    2,201.5
    
    
    $
    1,700.0
    
    
    $
    1,714.1Long-term debt
    
    
    4,691.5
    
    
    
    4,820.9
    
    
    
    5,096.0
    
    
    
    5,375.7Written currency options
    
    
    3.8
    
    
    
    3.8
    
    
    
    
    
    
    
    Forward exchange
contracts and
currency swap
    
    
    75.5
    
    
    
    75.5
    
    
    
    153.6
    
    
    
    153.6
 43




---



##### 



A summary of the carrying values and fair values of the Companys investments at December
31 is as follows: 2004
    
    
    2003Carrying
    
    
    Fair
    
    
    Carrying
    
    
    FairValue
    
    
    Value
    
    
    Value
    
    
    ValueAvailable-for-saleDebt securities
    
    $
    10,524.0
    
    
    $
    10,524.0
    
    
    $
    10,042.6
    
    
    $
    10,042.6Equity securities
    
    
    404.2
    
    
    
    404.2
    
    
    
    837.5
    
    
    
    837.5Held-to-maturity
securities
    
    
    10.0
    
    
    
    10.0
    
    
    
    33.1
    
    
    
    33.1
 A summary at December 31 of the gross unrealized gains and losses on the Companys
available-for-sale investments recorded, net of tax and minority interests, in AOCI is as follows: 2004
    
    
    2003Gross Unrealized
    
    
    Gross UnrealizedGains
    
    
    Losses
    
    
    Gains
    
    
    LossesDebt securities
    
    $
    20.7
    
    
    $
    (38.5
    )
    
    $
    71.9
    
    
    $
    (19.3
    )Equity securities
    
    
    35.1
    
    
    
    (0.7
    )
    
    
    108.9
    
    
    
    (16.9
    )
 Available-for-sale debt securities and held-to-maturity securities maturing within one
year totaled $4.2 billion and $10.0 million, respectively, at December 31, 2004. Of the remaining
debt securities, $6.1 billion mature within five years. Concentrations of Credit Risk
As part of its ongoing control procedures, the Company monitors concentrations of credit risk
associated with corporate issuers of securities and financial institutions with which it conducts
business. Credit risk is minimal as credit exposure limits are established to avoid a
concentration with any single issuer or institution. Four U.S. customers represented, in
aggregate, approximately one-fourth of the Companys accounts receivable at December 31, 2004. The
Company monitors the creditworthiness of its customers to which it grants credit terms in the
normal course of business. Bad debts have been minimal. The Company does not normally require
collateral or other security to support credit sales. 7. Inventories
Inventories at December 31 consisted of: 2004
    
    
    2003Finished goods
    
    $
    376.8
    
    
    $
    552.5Raw materials and work in process
    
    
    2,166.8
    
    
    
    2,309.8Supplies
    
    
    94.7
    
    
    
    90.5Total (approximates current cost)
    
    
    2,638.3
    
    
    
    2,952.8Reduction to LIFO cost
    
    
    (100.9
    )
    
    
    $
    2,537.4
    
    
    $
    2,952.8Recognized as:Inventories
    
    $
    1,898.7
    
    
    $
    2,554.7Other assets
    
    
    638.7
    
    
    
    398.1
 Inventories valued under the LIFO method comprised approximately 57% and 51% of
inventories at December 31, 2004 and 2003, respectively. Amounts recognized as Other assets are
comprised entirely of raw materials and work in process inventories, which include vaccine
inventories produced in preparation for product launches, and inventories for other products,
principally vaccines and Arcoxia, not expected to be sold within one year. 8. Other Intangibles
Other intangibles at December 31 consisted of: 2004
    
    
    2003Patents and product rights
    
    $
    1,656.3
    
    
    $
    1,656.3Other
    
    
    177.0
    
    
    
    169.8Total acquired cost
    
    $
    1,833.3
    
    
    $
    1,826.1Patents and product rights
    
    $
    1,042.5
    
    
    $
    865.4Other
    
    
    111.6
    
    
    
    96.7Total accumulated amortization
    
    $
    1,154.1
    
    
    $
    962.1
 Aggregate amortization expense, substantially all of which is recorded in Materials and
production expense, was $192.0 million in 2004, $184.6 million in 2003, and $163.7 million in 2002.
The estimated aggregate amortization expense for each of the next five years is as follows: 2005,
$163.6 million; 2006, $142.1 million; 2007, $136.5 million; 2008, $85.4 million; and 2009, $35.7
million. 9. Joint Ventures and Other Equity Method Affiliates
In 2000, the Company and Schering-Plough Corporation (Schering-Plough) entered into agreements to
create separate equally-owned partnerships to develop and market in the United States new
prescription medicines in the cholesterol-management and respiratory therapeutic areas. In 2001,
the cholesterol-management partnership agreements were expanded to include all the countries of the
world, excluding Japan. In 2002, ezetimibe, the first in a new class of cholesterol-lowering
agents, was launched in the United States as Zetia(branded Ezetroloutside the United States). As
of December 2004, Ezetrolhas been launched in more than 50 countries outside the United States.
Sales totaled $1.1 billion in 2004, $469.4 million in 2003 and $25.3 million in 2002. In July
2004, the combination product containing the active ingredients of both Zetiaand Zocor, was
approved in the United States as Vytorin(marketed as Inegyin many countries outside of the United
States). Vytorinhas been approved in 15 countries outside the United States. Sales totaled
$132.4 million in 2004. The results from the Companys interest in the Merck/Schering-Plough
partnership are recorded in Equity income from affiliates and were income of $132.0 million in 2004
and losses of $92.5 million and $147.4 million in 2003 and 2002, respectively. 44




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In 2002, Mercks respiratory partnership with Schering-Plough reported on results of Phase III
clinical trials of a fixed combination tablet containing Singulairand Claritin, Schering-Ploughs
nonsedating antihistamine, which did not demonstrate sufficient added benefits in the treatment of
seasonal allergic rhinitis. In 1982, Merck entered into an agreement with Astra AB (Astra) to develop and market Astras
products under a royalty-bearing license. In 1993, the Companys total sales of Astra products
reached a level that triggered the first step in the establishment of a joint venture business
carried on by Astra Merck Inc. (AMI), in which Merck and Astra each owned a 50% share. This joint
venture, formed in 1994, developed and marketed most of Astras new prescription medicines in the
United States including Prilosec,the first of a class of medications known as proton pump
inhibitors, which slows the production of acid from the cells of the stomach lining. In 1998, Merck and Astra completed the restructuring of the ownership and operations of the
joint venture whereby the Company acquired Astras interest in AMI, renamed KBI Inc. (KBI), and
contributed KBIs operating assets to a new U.S. limited partnership, Astra Pharmaceuticals L.P.
(the Partnership), in exchange for a 1% limited partner interest. Astra contributed the net assets
of its wholly owned subsidiary, Astra USA, Inc., to the Partnership in exchange for a 99% general
partner interest. The Partnership, renamed AstraZeneca LP (AZLP) upon Astras 1999 merger with
Zeneca Group Plc (the AstraZeneca merger), became the exclusive distributor of the products for
which KBI retained rights. While maintaining a 1% limited partner interest in AZLP, Merck has consent and protective
rights intended to preserve its business and economic interests, including restrictions on the
power of the general partner to make certain distributions or dispositions. Furthermore, in
limited events of default, additional rights will be granted to the Company, including powers to
direct the actions of, or remove and replace, the Partnerships chief executive officer and chief
financial officer. Merck earns ongoing revenue based on sales of current and future KBI products
and such revenue was $1.5 billion, $1.9 billion and $1.5 billion in 2004, 2003 and 2002,
respectively, primarily relating to sales of Nexiumand Prilosec. In addition, Merck earns certain
Partnership returns, which are recorded in Equity income from affiliates. Such returns include a
priority return provided for in the Partnership Agreement, variable returns based, in part, upon
sales of certain former Astra USA, Inc. products, and a preferential return representing Mercks
share of undistributed AZLP GAAP earnings. These returns aggregated $646.5 million, $391.5 million
and $640.2 million in 2004, 2003 and 2002, respectively. The decrease in 2003 is attributable to a
reduction in the preferential return, primarily resulting from the impact of generic competition
for Prilosec.The AstraZeneca merger triggers a partial redemption of Mercks limited partnership
interest in 2008. Upon this redemption, AZLP will distribute to KBI an amount based primarily on a
multiple of Mercks average annual variable returns derived from sales of the former Astra USA,
Inc. products for the three years prior to the redemption (the Limited Partner Share of Agreed
Value). In conjunction with the 1998 restructuring, for a payment of $443.0 million, which was
deferred, Astra purchased an option (the Asset Option) to buy Mercks interest in the KBI products,
excluding the gastrointestinal medicines Nexiumand Prilosec. The Asset Option is exercisable in
2010 at an exercise price equal to the net present value as of March 31, 2008 of projected future
pretax revenue to be received by the Company from the KBI products (the Appraised Value). Merck
also has the right to require Astra to purchase such interest in 2008 at the Appraised Value. In
addition, the Company granted Astra an option to buy Mercks common stock interest in KBI at an
exercise price based on the net present value of estimated future net sales of Nexiumand Prilosec.
This option is exercisable two years after Astras purchase of Mercks interest in the KBI
products. The 1999 AstraZeneca merger constituted a Trigger Event under the KBI restructuring
agreements. As a result of the merger, in exchange for Mercks relinquishment of rights to future
Astra products with no existing or pending U.S. patents at the time of the merger, Astra paid
$967.4 million (the Advance Payment), which is subject to a true-up calculation in 2008 that may
require repayment of all or a portion of this amount. The True-Up Amount is directly dependent on
the fair market value in 2008 of the Astra product rights retained by the Company. Accordingly,
recognition of this contingent income has been deferred until the realizable amount, if any, is
determinable, which is not anticipated prior to 2008. Under the provisions of the KBI restructuring agreements, because a Trigger Event has
occurred, the sum of the Limited Partner Share of Agreed Value, the Appraised Value and the True-Up
Amount is guaranteed to be a minimum of $4.7 billion. Distribution of the Limited Partner Share of
Agreed Value and payment of the True-Up Amount will occur in 2008. AstraZenecas purchase of
Mercks interest in the KBI products is contingent upon the exercise of either Mercks option in
2008 or AstraZenecas option in 2010 and, therefore, payment of the Appraised Value may or may not
occur. In 1997, Merck and Rhône-Poulenc S.A. (now Sanofi-Aventis S.A.) combined their animal health
and poultry genetics businesses to form Merial Limited (Merial), a fully integrated animal health
company, which is a stand-alone joint venture, equally owned by each party. Merial provides a
comprehensive range of pharmaceuticals and vaccines to enhance the health, well-being and
performance of a wide range of animal species. Merial sales were $2.0 billion for 2004, $1.8
billion for 2003 and $1.7 billion for 2002. In 1994, Merck and Pasteur Mérieux Connaught (now Sanofi Pasteur S.A.) established an
equally-owned joint venture to market vaccines in Europe and to collaborate in the development of
combination vaccines for distribution in Europe. Joint venture vaccine sales were $807.0 million
for 2004, $669.0 million for 2003 and $546.4 million for 2002. In 1989, Merck formed a joint venture with Johnson & Johnson to develop and market a broad
range of nonprescription medicines for U.S. consumers. This 50% owned venture was expanded into
Europe in 1993, and into Canada in 1996. In March 2004, Merck sold its 50% equity stake in its
European joint venture to Johnson & Johnson for $244.0 million and recorded a $176.8 million gain
as Other (income) expense, net. (See Note 16.) Merck will continue to benefit through royalties
on certain products and also regained the rights to potential future products that switch from
prescription to over-the-counter status in Europe. Sales of product marketed by the joint venture,
including sales of the European joint venture up through March 2004, were $315.3 million for 2004,
$445.8 million for 2003 and $413.0 million for 2002. 45




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Investments in affiliates accounted for using the equity method, including the above joint
ventures, totaled $2.5 billion at December 31, 2004 and $2.2 billion at December 2003. These
amounts are reported in Other assets. Dividends and distributions received from these affiliates
were $587.0 million in 2004, $553.4 million in 2003 and $488.6 million in 2002. Summarized information for those affiliates is as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Sales
    
    $
    9,821.1
    
    
    $
    9,067.2
    
    
    $
    8,819.2Materials and production costs
    
    
    4,140.9
    
    
    
    3,946.1
    
    
    
    3,473.6Other expense, net
    
    
    3,691.4
    
    
    
    3,745.6
    
    
    
    3,495.1Income before taxes
    
    
    1,988.8
    
    
    
    1,375.5
    
    
    
    1,850.5
 December 31
    
    2004
    
    
    2003Current assets
    
    $
    5,906.0
    
    
    $
    5,806.3Noncurrent assets
    
    
    1,447.5
    
    
    
    1,624.9Current liabilities
    
    
    3,401.4
    
    
    
    3,868.0Noncurrent liabilities
    
    
    433.1
    
    
    
    785.0
 10. Loans Payable, Long-Term Debt and Other Commitments
Loans payable at December 31, 2004 and 2003 included $299.6 million and $549.7 million,
respectively, of commercial paper borrowings, $345.9 million and $296.0 million, respectively, of
long-dated notes that are subject to repayment at the option of the holders on an annual basis and
$500.0 million of notes with annual interest rate resets and a final maturity in 2011. On an
annual basis, these notes will either be repurchased from the holders at the option of the
remarketing agent and remarketed, or redeemed by the Company. At December 31, 2004, loans payable
also included $1.0 billion of fixed-rate notes due in 2005, and at December 31, 2003, loans payable
also included a $300.0 million variable-rate borrowing due in 2004. In December 2004, this
variable-rate borrowing was extended for an additional five years. The weighted average interest
rate for all of these borrowings was 3.9% and 2.5% at December 31, 2004 and 2003, respectively. Long-term debt at December 31 consisted of: 2004
    
    
    20036.0% Astra note due 2008
    
    $
    1,380.0
    
    
    $
    1,380.04.4% notes due 2013
    
    
    527.2
    
    
    
    526.95.3% notes due 2006
    
    
    526.8
    
    
    
    548.56.4% debentures due 2028
    
    
    499.2
    
    
    
    499.16.0% debentures due 2028
    
    
    496.7
    
    
    
    496.62.5% notes due 2007
    
    
    345.9
    
    
    
    Variable-rate borrowing due 2009
    
    
    300.0
    
    
    
    6.3% debentures due 2026
    
    
    247.5
    
    
    
    247.44.1% notes due 2005
    
    
    
    
    
    
    523.96.8% euronotes due 2005
    
    
    
    
    
    
    499.8Other
    
    
    368.2
    
    
    
    373.8$
    4,691.5
    
    
    $
    5,096.0
 The Company was a party to interest rate swap contracts which effectively convert the
4.4%, 5.3%, 2.5% and 4.1% fixed-rate notes to floating-rate instruments. (See Note 6.) Other at December 31, 2004 and 2003 consisted primarily of $328.6 million and $332.6 million,
respectively, of borrowings at variable rates averaging 2.0% and 0.8%, respectively. Of these
borrowings, $158.7 million are subject to repayment at the option of the holders beginning in 2011
and $106.0 million are subject to repayment at the option of the holders beginning in 2010. In
both years, Other also included foreign borrowings at varying rates up to 13.0%. The aggregate maturities of long-term debt for each of the next five years are as follows:
2005, $1.0 billion; 2006, $540.1 million; 2007, $355.7 million; 2008, $1.4 billion; 2009, $307.5
million. Rental expense under the Companys operating leases, net of sublease income, was $215.0
million in 2004. The minimum aggregate rental commitments under noncancellable leases are as
follows: 2005, $91.7 million; 2006, $58.2 million; 2007, $35.9 million; 2008, $28.0 million; 2009,
$23.0 million and thereafter, $68.4 million. The Company has no significant capital leases. 11. Contingencies and Environmental Liabilities
The Company is involved in various claims and legal proceedings of a nature considered normal to
its business, including product liability, intellectual property and commercial litigation, as well
as additional matters such as antitrust actions. The Company records accruals for contingencies
when it is probable that a liability has been incurred and the amount can be reasonably estimated.
These accruals are adjusted periodically as assessments change or additional information becomes
available. For product liability claims, a portion of the overall accrual is actuarially
determined and considers such factors as past experience, number of claims reported and estimates
of claims incurred but not yet reported. Individually significant contingent losses are accrued
when probable and reasonably estimable. Legal defense costs expected to be incurred in connection
with a loss contingency are accrued when probable and reasonably estimable. The Companys decision to obtain insurance coverage is dependent on market conditions,
including cost and availability, existing at the time such decisions are made. As a result of a
number of factors, product liability insurance has become less available while the cost has
increased significantly. The Company has evaluated its risks and has determined that the cost of
obtaining product liability insurance outweighs the likely benefits of the coverage that is
available and as such, has no insurance for certain product liabilities effective August 1, 2004,
including liability for products first sold after that date. The Company will continue to evaluate
its insurance needs and the costs, availability and benefits of product liability insurance in the
future. 46




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Vioxx LitigationProduct Liability Lawsuits
As previously disclosed, federal and state product liability lawsuits involving individual claims,
as well as several putative class actions have been filed against the Company with respect to
Vioxx. As of January 31, 2005 the Company has been served or is aware that it has been named as a
defendant in approximately 850 lawsuits, which include approximately 2,425 plaintiff groups
alleging personal injuries resulting from the use of Vioxx. Certain of these lawsuits include
allegations regarding gastrointestinal bleeding, cardiovascular events, thrombotic events or kidney
damage. The Company has also been named as a defendant in approximately 90 putative class actions
alleging personal injuries or seeking (i) medical monitoring as a result of the putative class
members use of Vioxx, (ii) disgorgement of certain profits under common law unjust enrichment
theories, and/or (iii) various remedies under state consumer fraud and fair business practice
statutes, including recovering the cost of Vioxxpurchased by individuals and third-party payors
such as union health plans (all of the actions discussed in this paragraph are collectively
referred to as the VioxxProduct Liability Lawsuits). The actions filed in the state courts of
California and New Jersey, respectively, have been transferred to a single judge in each state for
coordinated proceedings. In addition, the Company filed a motion with the Judicial Panel on
Multidistrict Litigation (the JPML) seeking to transfer to a single federal judge and coordinate
for pre-trial purposes all federal cases alleging personal injury and/or economic loss relating to
the purchase or use of Vioxx; several plaintiffs in certain VioxxProduct Liability Lawsuits
pending in federal court have made similar requests. On February 16, 2005, the JPML granted the
motions to transfer all VioxxProduct Liability Lawsuits pending in federal courts nationwide into
one Multidistrict Litigation (MDL) for coordinated pre-trial proceedings. The MDL
has been transferred to the United States District Court for the Eastern District for Louisiana
before District Judge Eldon E. Fallon. Shareholder Lawsuits
As previously disclosed, in addition to the VioxxProduct Liability Lawsuits, a number of
purported class action lawsuits were filed in late 2003 and early 2004 by several shareholders in
the United States District Court for the Eastern District of Louisiana naming as defendants the
Company and several current or former officers and directors of the Company. These cases have
been consolidated. After the announcement of the withdrawal of Vioxx, the Company was named as a
defendant in additional purported securities class action lawsuits filed in federal courts in New
Jersey, Pennsylvania, and Louisiana. These actions allege that the defendants made false and
misleading statements regarding Vioxxin violation of Sections 10(b) and 20(a) of the Securities
Exchange Act of 1934, including with respect to the withdrawal of Vioxx, and seek unspecified
compensatory damages and the costs of suit, including attorneys fees. Plaintiffs request
certification of a class of purchasers of Company stock during various periods between May 21,
1999 and October 29, 2004. In addition, two shareholders filed an individual securities action
in the United States District Court for the Central District of Illinois seeking compensatory
damages and costs. Certain complaints include allegations under Sections 11, 12 and 15 of the
Securities Act of 1933 that certain officers and directors made incomplete and misleading
statements in a registration statement and certain prospectuses filed in connection with the
Merck Stock Investment Plan, a dividend reinvestment plan (all of the actions discussed in this
paragraph are collectively referred to as the VioxxSecurities Lawsuits). Several plaintiffs
have dismissed
their complaints without prejudice. As of January 31, 2005, a total of 14 VioxxSecurities
Lawsuits were pending in various federal courts. As previously disclosed, in March 2004, two shareholder derivative actions were filed in the
United States District Court for the Eastern District of Louisiana naming the Company as a
nominal defendant and certain members of the Board (past and present), together with certain
executive officers, as defendants. The complaints arise out of substantially the same factual
allegations that are made in the VioxxSecurities Lawsuits. The derivative suits, which are
purportedly brought to assert rights of the Company, assert claims against the Board members and
officers for breach of fiduciary duty, waste of corporate assets, unjust enrichment, abuse of
control and gross mismanagement. After the withdrawal of Vioxx, additional shareholder
derivative actions were filed in the New Jersey Superior Court for Hunterdon County and in the
United States District Court for the District of New Jersey against the Company and certain
officers and members of the Board (past and present) (all of the actions discussed in this
paragraph are collectively referred to as the VioxxDerivative Lawsuits). Two of the Vioxx
Derivative Lawsuits include allegations that certain directors made false and misleading
statements in connection with certain Proxy Statements filed with the SEC in violation of Section
14(a) of the Securities Act of 1933. As of January 31, 2005, a total of seven VioxxDerivative
Lawsuits were pending. On October 29, 2004, two individual shareholders made a demand on the Board to take legal
action against Mr. Raymond Gilmartin, Chairman, President and Chief Executive Officer and other
individuals for allegedly causing damage to the Company with respect to the allegedly improper
marketing of Vioxx. In response to that demand letter, the Board of Directors determined at its
November 23, 2004 meeting that the Board would take the shareholders request under consideration
and it remains under consideration. In addition to these shareholder actions, since the announcement of the withdrawal of Vioxx,
putative class actions have been filed against the Company in the United States District Court
for the Eastern District of Louisiana and in the United States District Court for the District of
New Jersey (the VioxxERISA Lawsuits and, together with the VioxxSecurities Lawsuits and the
VioxxDerivative Lawsuits, the VioxxShareholder Lawsuits) on behalf of certain of the
Companys current and former employees who are participants in certain of the Companys
retirement plans asserting claims under the Employee Retirement Income Security Act (ERISA).
The lawsuits make similar allegations to the allegations contained in the VioxxSecurities
Lawsuits. As of January 31, 2005, a total of eleven VioxxERISA Lawsuits were pending. In October 2004, the plaintiff in one of the VioxxERISA Lawsuits filed a motion with the
JPML to transfer to a single federal judge and coordinate for pretrial purposes all of the Vioxx
ERISA Lawsuits. In November 2004, the Company responded to that motion and filed its own motion
seeking coordination of all of the VioxxShareholder Lawsuits. The hearing on those motions was
held on January 27, 2005. International Lawsuits
In addition to the lawsuits discussed above, the Company has been named as a defendant in actions
in various countries in Europe, Australia, Canada, Brazil and Israel related to Vioxx. 47




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Additional Lawsuits
Based on media reports and other sources, the Company anticipates that additional VioxxProduct
Liability Lawsuits and VioxxShareholder Lawsuits (collectively, the VioxxLawsuits) will be
filed against it and/or certain of its current and former officers and directors in the future. Insurance
The Company has product liability insurance for claims brought in the VioxxProduct Liability
Lawsuits of up to approximately $630 million after deductibles and co-insurance. This insurance
provides coverage for legal defense costs and potential damage amounts that have been or will be
incurred in connection with the VioxxProduct Liability Lawsuits. The Company believes that this
insurance coverage extends to additional VioxxProduct Liability Lawsuits that may be filed in
the future. Certain of the Companys insurers have reserved their rights to take a contrary
position with respect to certain coverage and there could be disputes with insurers about
coverage matters. The Company currently believes that it has at least approximately $190 million
of Directors and Officers insurance coverage for the VioxxSecurities Lawsuits and Vioxx
Derivative Lawsuits, and at least approximately $275 million of insurance coverage for the Vioxx
ERISA Lawsuits. Additional insurance coverage for these claims may also be available under upper
level excess policies that provide coverage for a variety of risks. There may be disputes with
insurers about the availability of some or all of this insurance coverage. At this time, the
Company believes it is reasonably possible its insurance coverage with respect to the Vioxx
Lawsuits will not be adequate to cover its defense costs and any losses. Investigations
In November 2004, the Company was advised by the staff of the Securities and Exchange Commission
(SEC) that it was commencing an informal inquiry concerning Vioxx. On January 28, 2005, the
Company announced that it received notice that the SEC issued a formal notice of investigation.
Also, the Company received a subpoena from the U.S. Department of Justice requesting information
related to the Companys research, marketing and selling activities with respect to Vioxxin a
federal health care investigation under criminal statutes. There are also ongoing investigations
by certain Congressional committees. Also, the District Attorneys Office in Munich, Germany
notified the Companys subsidiary in Germany that it received complaints and commenced an
investigation in order to determine whether any criminal charges should be brought in Germany
concerning Vioxx(together with the previously mentioned investigations, the Vioxx
Investigations). The Company will cooperate with all of the VioxxInvestigations. The Company
cannot predict the outcome of these inquiries; however, they could result in a potential civil
disposition from the SEC and/or potential civil or criminal dispositions from the Justice
Department. Reserves
The Company currently anticipates that one or more of the VioxxProduct Liability Lawsuits may go
to trial in the first half of 2005. The Company cannot predict the timing of any trials with
respect to the VioxxShareholder Lawsuits. The Company believes that it has meritorious defenses
to the VioxxLawsuits and will vigorously defend against them. In view of the inherent
difficulty of predicting the outcome of litigation, particularly where there are many claimants
and the claimants seek indeterminate damages, the Company is
unable to predict the outcome of these matters, and at this time cannot reasonably estimate the
possible loss or range of loss with respect to the VioxxLawsuits. The Company has not
established any reserves for any potential liability relating to the VioxxLawsuits or the Vioxx
Investigations (collectively the VioxxLitigation). The Company has established a reserve of
$675 million solely for its future legal defense costs related to the VioxxLitigation. This
reserve is based on certain assumptions and is the minimum amount that the Company believes at
this time it can reasonably estimate will be spent over a multi-year period. The Company
significantly increased the reserve when it had the ability to reasonably estimate its future
legal defense costs for the VioxxLitigation. Some of the significant factors that were
considered in the establishment of the reserve for the VioxxLitigation were as follows: the
actual costs incurred by the Company up to that time; the development of the Companys legal
defense strategy and structure in light of the expanded scope of the VioxxLitigation; the number
of cases being brought against the Company; and the anticipated timing, progression, and related
costs of pre-trial activities and trials in the VioxxProduct Liability Lawsuits. The Company
will continue to monitor its legal defense costs and review the adequacy of the associated
reserves. Unfavorable outcomes in the VioxxLawsuits or resulting from the VioxxInvestigations
could have a material adverse effect on the Companys financial position, liquidity and results
of operations. Commercial Litigation  As previously disclosed, the Company was joined in ongoing litigation alleging manipulation by
pharmaceutical manufacturers of Average Wholesale Prices (AWP), which are sometimes used in
calculations that determine public and private sector reimbursement levels. In 2002, the Judicial
Panel on Multi-District Litigation ordered the transfer and consolidation of all pending federal
AWP cases to federal court in Boston, Massachusetts. Plaintiffs filed one consolidated class
action complaint, which aggregated the claims previously filed in various federal district court
actions and also expanded the number of manufacturers to include some which, like the Company, had
not been defendants in any prior pending case. In May 2003, the court granted the Companys motion
to dismiss 48




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##### 



the consolidated class action and dismissed the Company from the class action case.
Subsequent to the Companys dismissal, the plaintiffs filed an amended consolidated class action
complaint, which did not name the Company as a defendant. The Company and thirty other
pharmaceutical manufacturers remain defendants in six similar complaints pending in federal court
in Massachusetts filed by the New York Counties of Suffolk, Rockland, Nassau, Westchester, Onondaga
and New York City and three cases pending in Kentucky, Alabama and Wisconsin. The Company and the
other defendants have filed and argued their motion to dismiss the Suffolk case and are awaiting
the courts final decision on the motion. In addition, the Company is a defendant in cases brought
on behalf of the citizens of Kentucky and Wisconsin alleging fraudulent practices regarding AWP,
which the Company will vigorously defend. As previously disclosed, the Company has been named as a defendant in antitrust cases in
federal court in Minnesota and in state court in California, each alleging an unlawful conspiracy
among different sets of pharmaceutical manufacturers to protect high prices in the United States by
impeding importation into the United States of lower-priced pharmaceuticals from Canada. The
Company and the other defendants have filed a motion to dismiss the action. As previously disclosed, a suit in federal court in Alabama by two providers of health
services to needy patients alleges that 15 pharmaceutical companies overcharged the plaintiffs and
a class of those similarly situated, for pharmaceuticals purchased by the plaintiffs under the
program established by Section 340B of the Public Health Service Act. The Company and the other
defendants have filed a motion to dismiss the complaint on numerous grounds. As previously disclosed, in January 2003, the U.S. Department of Justice notified the federal
court in New Orleans, Louisiana that it was not going to intervene at that time in a pending
Federal False Claims Act case that was filed under seal in December 1999 against the Company. The
court issued an order unsealing the complaint, which was filed by a physician in Louisiana, and
ordered that the complaint be served. The complaint, which alleged that the Companys discounting
of Pepcidin certain Louisiana hospitals led to increases in costs to Medicaid, was dismissed. An
amended complaint was filed under seal and the case has been administratively closed by the Court
until the seal is lifted. The allegations contained in the amended complaint are unknown. Governmental Proceedings
As previously disclosed, the Company has received a subpoena from the U.S. Department of Justice in
connection with its investigation of the Companys marketing and selling activities. The Company
has also reported that it has received a Civil Investigative Demand from the Attorney General of
Texas regarding the Companys marketing and selling activities relating to Texas. In April 2004,
the Company received a subpoena from the office of the Inspector General for the District of
Columbia in connection with an investigation of the Companys interactions with physicians in the
District of Columbia, Maryland, and Virginia. In November 2004, the Company received a letter
request from the Department of Justice in connection with its investigation of the Companys
pricing of Pepcid. The Company is cooperating with all of these investigations. The Company
cannot predict the outcome of these investigations; however, it is possible that unfavorable
outcomes could have a material adverse effect on the Companys financial position, liquidity and
results of
operations. In addition, from time to time, other federal or state regulators may seek information
about practices in the pharmaceutical industry in inquiries other than the investigations discussed
in this paragraph. It is not feasible to predict the outcome of any such inquiries. Vaccine Litigation
The Company is a party in claims brought under the Consumer Protection Act of 1987 in the United
Kingdom, which allege that certain children suffer from a variety of conditions as a result of
being vaccinated with various bivalent vaccines for measles and rubella and/or trivalent vaccines
for measles, mumps and rubella, including the Companys M-M-RII. The conditions include autism,
with or without inflammatory bowel disease, epilepsy, diabetes, encephalitis, encephalopathy,
deafness, chronic fatigue syndrome and transverse myelitis. In early September 2003, the Legal
Services Commission (the LSC) announced its decision to withdraw public funding of the litigation
brought by the claimants. This decision was confirmed on appeal by the Funding Review Committee
(FRC) on September 30, 2003. The claimants application for judicial review of the decision to
withdraw public funding was dismissed in February 2004 and the April 2004 trial date was vacated.
The lead claimants have decided not to apply to the Court of Appeal for permission to appeal the
decision. As a result, legal aid for all lead claimants has now been discharged. The non-lead
claimants were subject to a show cause procedure to withdraw legal aid unless the claimants could
show cause as to why it should not be withdrawn. The FRC heard 37 of the show cause appeals by
the non-lead claimants in October 2004. The appeals involving autism (26) were unsuccessful, but
funding was reinstated for 11 appeals involving other non-autism conditions, such as epilepsy,
deafness, encephalitis and transverse myelitis. In light of the 11 successful appeals, the LSC has
reconsidered the cases of some other claimants and, to date, funding has been reinstated in an
additional 86 non-lead, non-autism cases, to the limited extent necessary to allow solicitors to
provide a report on the individual cases to the LSC. It is not yet known how many of the 97
appeals involve claimants suing the Company. All claimants for all conditions have until February
28, 2005 to give notice of their intention to continue or discontinue with their claims,
irrespective of whether or not they have secured legal aid funding. Directions for further conduct
of the litigation will be made at a case management hearing scheduled to take place on March 17 and
18, 2005. The Company will vigorously defend against these lawsuits. As previously disclosed, the Company is also a party to individual and class action product
liability lawsuits and claims in the United States involving pediatric vaccines (i.e., hepatitis B
vaccine and haemophilus influenzatype b vaccine) that contained thimerosal, a preservative used in
vaccines. Merck has not distributed thimerosal-containing pediatric vaccines in the United States
since the fall of 2001. As of December 31, 2004, there were approximately 300 active thimerosal
related lawsuits with approximately 820 plaintiffs. Other defendants include vaccine manufacturers
who produced pediatric vaccines containing thimerosal as well as manufacturers of thimerosal. In
these actions, the plaintiffs allege, among other things, that they have suffered neurological
injuries as a result of exposure to thimerosal from pediatric vaccines. Two state court
cases and two Federal District Court cases are scheduled for trial in 2005. The Company will
vigorously defend against these lawsuits; however, it is possible that unfavorable outcomes could
have a material adverse effect on the Companys financial position, liquidity and results of
operations. 49




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##### 



The Company has been successful in having cases of this type either dismissed or stayed on the
ground that the action is prohibited under the National Vaccine Injury Compensation Program
(NVICP). The NVICP prohibits any person from filing or maintaining a civil action (in state or
federal court) seeking damages against a vaccine manufacturer for vaccine-related injuries unless a
petition is first filed in the United States Court of Federal Claims (hereinafter the Vaccine
Court). Under the NVICP, before filing a civil action against a vaccine manufacturer,
the petitioner must either (a) pursue his or her petition to conclusion in Vaccine Court and then
timely file an election to proceed with a civil action in lieu of accepting the Vaccine Courts
adjudication of the petition or (b) timely exercise a right to withdraw the petition prior to
Vaccine Court adjudication in accordance with certain statutorily prescribed time periods. The
Company is aware that there are numerous cases pending in Vaccine Court involving allegations that
thimerosal-containing vaccines and/or the M-M-RII vaccine cause autism spectrum disorders. The
Company is not a party to these Vaccine Court proceedings because the petitions are brought against
the Department of Health and Human Services. Patent Litigation
From time to time, generic manufacturers of pharmaceutical products file Abbreviated New Drug
Applications (ANDAs) with the FDA seeking to market generic forms of the Companys products prior
to the expiration of relevant patents owned by the Company. Generic pharmaceutical manufacturers
have submitted ANDAs to the FDA seeking to market in the United States a generic form of Fosamax,
Prilosecand Propeciaprior to the expiration of the Companys (and AstraZenecas in the case of
Prilosec) patents concerning these products. The generic companies ANDAs generally include
allegations of non-infringement, invalidity and unenforceability of the patents. Generic
manufacturers have received FDA approval to market a generic form of Prilosec. The Company has
filed patent infringement suits in federal court against companies filing ANDAs for generic
alendronate and finasteride, and AstraZeneca and the Company have filed patent infringement suits
in federal court against companies filing ANDAs for generic omeprazole. Similar patent challenges
exist in certain foreign jurisdictions. The Company intends to vigorously defend its patents,
which it believes are valid, against infringement by generic companies attempting to market
products prior to the expiration dates of such patents. As with any litigation, there can be no
assurance of the outcomes, which, if adverse, could result in significantly shortened periods of
exclusivity for these products. A trial in the United States with respect to the alendronate daily product concluded in
November 2001. In November 2002, a decision was issued by the U.S. District Court in Delaware
finding the Companys patent valid and infringed. On October 30, 2003, the U.S. Court of Appeals
for the Federal Circuit affirmed the validity and infringement of the Companys basic U.S. patent
covering the use of alendronate in any form. A request for rehearing was denied. A trial in the
United States involving the alendronate weekly product was held in March 2003. On August 28, 2003,
the U.S. District Court in Delaware, upheld the validity of the Companys U.S. patent covering the
weekly administration of alendronate. However, on January 28, 2005, the U.S. Court of Appeals for
the Federal Circuit in Washington, D.C. found the Companys patent claims for once-weekly
administration of Fosamaxto be invalid. Based on the Court of Appeals decision, Fosamaxwill
lose its market exclusivity in the United States in February 2008 and the Company expects a decline
in U.S. Fosamaxsales at that time. Prior to the decision, Mercks
patent for once-weekly administration of Fosamaxwas set to expire in July 2018. Merck
disagrees with the decision of the Court of Appeals and will request reconsideration by the Court
of Appeals. In January 2003, the High Court of Justice for England and Wales held that patents of the
Company protecting the alendronate daily and weekly products were invalid in the United Kingdom.
On November 6, 2003, the Court of Appeals of England and Wales affirmed the ruling by the High
Court of Justice for England and Wales. European countries permit companies seeking approval of a
generic product to reference data of the innovative product in certain circumstances under data
exclusivity regulations. The Company has been granted leave to appeal a decision of the UK
regulatory authority that its data for weekly alendronate may be referenced by companies seeking
approval of generic weekly alendronate products. The Company has also filed an appeal of a grant
by the Swedish regulatory authority of approval of generic weekly alendronate products which
referenced the Companys data on weekly alendronate for their approval. As previously announced by the Company, on July 20, 2004, the Opposition Division (the
Opposition Division) of the European Patent Office (the EPO) rendered an oral decision to
revoke the Companys patent in Europe that covers the weekly administration of alendronate. On
August 19, 2004, the written opinion was issued confirming the oral decision revoking the Companys
patent. On September 16, 2004, the Company filed an appeal of this decision. Based on other
patents, the alendronate weekly product is protected in most major European markets until at least
2007. On October 5, 2004, in an action in Australia challenging the validity of the Companys
Australian patent for the weekly administration of alendronate, the patent was found to be invalid.
The Company has appealed the decision. In addition, in Japan a proceeding has been filed challenging the validity of the Companys
Japanese patent for the weekly administration of alendronate. In the case of omeprazole, the trial court in the United States rendered an opinion in October
2002 upholding the validity of the Companys and AstraZenecas patents covering the stabilized
formulation of omeprazole and ruling that one defendants omeprazole product did not infringe those
patents. The other three defendants products were found to infringe the formulation patents. In
December 2003, the U.S. Court of Appeals for the Federal Circuit affirmed the decision of the trial
court. With respect to certain other generic manufacturers omeprazole products, no trial date has
yet been set. In the case of finasteride, an ANDA has been filed seeking approval of a generic version of
Propeciaand alleging invalidity of the Companys patents. The Company filed a patent infringement
lawsuit in the District Court of Delaware in September 2004. A trial is not anticipated before
2006. Other Litigation
As previously disclosed, on July 6, 2004, the United States District Court for the District of New
Jersey granted a motion by the Company, Medco Health Solutions, Inc. (Medco Health) and certain
officers and directors to dismiss a purported class action complaint involving claims related to
the Companys revenue recognition practice for retail co-payments paid by individuals to whom Medco
Health provides pharmaceutical benefits as well as other allegations. The complaint was dismissed
with prejudice. On August 20, 2004 the same court granted the Companys motion to dismiss with
prejudice a related shareholder derivative action. Plaintiffs in both actions have appealed the
decisions. 50




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##### 



Prior to the spin-off of Medco Health, the Company and Medco Health agreed to settle, on a
class action basis, a series of lawsuits asserting violations of ERISA (the Gruer Cases). The
Company, Medco Health and certain plaintiffs counsel filed the settlement agreement with the
federal district court in New York, where cases commenced by a number of plaintiffs, including
participants in a number of pharmaceutical benefit plans for which Medco Health is the pharmacy
benefit manager, as well as trustees of such plans, have been consolidated. The proposed class
settlement has been agreed to by plaintiffs in five of the cases filed against Medco Health and the
Company. Under the proposed settlement, the Company and Medco Health have agreed to pay a total of
$42.5 million, and Medco Health has agreed to modify certain business practices or to continue
certain specified business practices for a period of five years. The financial compensation is
intended to benefit members of the settlement class, which includes ERISA plans for which Medco
Health administered a pharmacy benefit at any time since December 17, 1994. In 2003, the district
court preliminarily approved the settlement and held hearings to hear objections to the fairness of
the proposed settlement. The district court approved the settlement in 2004, but has not yet
determined the number of class member plans that have properly elected not to participate in the
settlement. The settlement becomes final only if and when all appeals have been resolved. Three
notices of appeal have been filed and the appellate court is expected to hear arguments regarding
the appeals in March 2005 and decide the appeals thereafter. Currently, certain class member plans
have indicated that they will not participate in the settlement. Cases initiated by three such
plans and two individuals remain pending in the Southern District of New York. Plaintiffs in these
cases have asserted claims based on ERISA as well as other federal and state laws that are the same
as or similar to the claims that had been asserted by settling class members in the Gruer Cases.
The Company and Medco Health are named as defendants in these cases. Medco Health and the Company
agreed to the proposed settlement in order to avoid the significant cost and distraction of
prolonged litigation. After the spin-off of Medco Health, Medco Health assumed substantially all of the liability
exposure for the matters discussed in the foregoing paragraph. These cases are being defended by
Medco Health. There are various other legal proceedings, principally product liability and intellectual
property suits involving the Company, which are pending. While it is not feasible to predict the
outcome of such proceedings or the proceedings discussed in this Note, in the opinion of the
Company, all such proceedings, are either adequately covered by insurance or, if not so covered,
should not ultimately result in any liability that would have a material adverse effect on the
financial position, liquidity or results of operations of the Company, other than proceedings for
which a separate assessment is provided in this Note. Environmental Matters
The Company is a party to a number of proceedings brought under the Comprehensive Environmental
Response, Compensation and Liability Act, commonly known as Superfund. When a legitimate claim for
contribution is asserted, a liability is initially accrued based upon the estimated transaction
costs to manage the site. Accruals are adjusted as feasibility studies and related cost
assessments of remedial techniques are completed, and as the extent to which other potentially
responsible parties (PRPs) who may be jointly and severally liable can be expected to contribute is
determined. The Company is also remediating environmental contamination resulting from past industrial
activity at certain of its sites and takes an active role in identifying and providing for these
costs. A worldwide survey was initially performed to assess all sites for potential contamination
resulting from past industrial activities. Where assessment indicated that physical investigation
was warranted, such investigation was performed, providing a better evaluation of the need for
remedial action. Where such need was identified, remedial action was then initiated. Estimates of
the extent of contamination at each site were initially made at the pre-investigation stage and
liabilities for the potential cost of remediation were accrued at that time. As more definitive
information became available during the course of investigations and/or remedial efforts at each
site, estimates were refined and accruals were adjusted accordingly. These estimates and related
accruals continue to be refined annually. In managements opinion, the liabilities for all environmental matters that are probable and
reasonably estimable have been accrued and totaled $127.5 million and $158.1 million at December
31, 2004 and 2003, respectively. These liabilities are undiscounted, do not consider potential
recoveries from insurers or other parties and will be paid out over the periods of remediation for
the applicable sites, which are expected to occur primarily over the next 15 years. Although it is
not possible to predict with certainty the outcome of these matters, or the ultimate costs of
remediation, management does not believe that any reasonably possible expenditures that may be
incurred in excess of the liabilities accrued should exceed $75.0 million in the aggregate.
Management also does not believe that these expenditures should result in a material adverse effect
on the Companys financial position, results of operations, liquidity or capital resources for any
year. 12. Preferred Stock of Subsidiary Companies
In December 2004, the Company redeemed variable-rate preferred units of a subsidiary at $1.5
billion of par value plus accrued dividends. Because these preferred securities were held at the
subsidiary level, they were previously included in Minority interests in the consolidated financial
statements for 2003. In connection with the 1998 restructuring of AMI (see Note 9), the Company assumed a $2.4
billion par value preferred stock obligation with a dividend rate of 5% per annum, which is carried
by KBI and included in Minority interests. While a small portion of the preferred stock carried by
KBI is convertible into KBI common shares, none of the preferred securities are convertible into
the Companys common shares and, therefore, they are not included as common shares issuable for
purposes of computing Earnings per common share assuming dilution. (See Note 18.) 13. Stockholders Equity
Other paid-in capital decreased by $86.8 million in 2004, and increased by $12.9 million and $36.5
million in 2003 and 2002, respectively. The changes primarily reflect the impact of shares issued
upon exercise of stock options and related income tax benefits. A summary of treasury stock transactions (shares in millions) is as follows: 2004
    
    
    2003
    
    
    2002Shares
    
    
    Cost
    
    
    Shares
    
    
    Cost
    
    
    Shares
    
    
    CostBalance,
Jan. 1
    
    
    754.5
    
    
    $
    25,617.5
    
    
    
    731.2
    
    
    $
    24,109.1
    
    
    
    703.4
    
    
    $
    22,387.1Purchases
    
    
    24.9
    
    
    
    974.6
    
    
    
    39.0
    
    
    
    2,034.1
    
    
    
    39.2
    
    
    
    2,091.3Issuances (1)
    
    
    (11.8
    )
    
    
    (400.3
    )
    
    
    (15.7
    )
    
    
    (525.7
    )
    
    
    (11.4
    )
    
    
    (369.3
    )Balance, Dec. 31
    
    
    767.6
    
    
    $
    26,191.8
    
    
    
    754.5
    
    
    $
    25,617.5
    
    
    
    731.2
    
    
    $
    24,109.1
 (1) Issued primarily under stock option plans.
 51




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##### 



At December 31, 2004 and 2003, 10 million shares of preferred stock, without par value,
were authorized; none were issued. 14. Stock-Based Compensation Plans
The Company has stock-based compensation plans under which employees, non-employee directors and
employees of certain of the Companys equity method investees may be granted options to purchase
shares of Company common stock at the fair market value at the time of the grant. These plans were
approved by the Companys shareholders. Option grants beginning in 2002 generally vest ratably
over three years, while grants prior to 2002 generally vest after five years. The options expire
ten years from the date of grant, subject to terms applicable to such awards. In 2004, as part of an ongoing compensation review, the Company made certain changes to its
stock-based compensation plans. Under the new approach, the Company began granting performance
share units (PSUs) and restricted stock units (RSUs), in addition to stock options, to certain
management level employees. The financial value of individual stock-based incentive grants under
the new approach was designed to be equivalent to the prior approach, only the mix of stock-based
compensation awards changed. Both PSU and RSU payouts will be in shares of Company stock after the
end of a three-year period, subject to terms applicable to such awards. Additionally, PSU payouts
will be contingent on the Companys performance against a pre-set objective or set of objectives.
The Company granted 509,062 PSUs with a weighted-average grant date fair value of $48.23 and
2,472,794 RSUs with a weighted-average grant date fair value of $41.09 in 2004. In 2003, in connection with the Medco Health spin-off, the number and exercise prices of
outstanding options were proportionately adjusted to maintain the option holders positions before
and after the spin-off. As a result of the adjustment, the number of outstanding options increased
by 12.6 million and the average exercise price decreased by approximately $3.22. In addition,
certain stock options granted to Medco Health employees in 2003 and 2002 were converted to Medco
Health options with terms and amounts that maintained the option holders positions. Summarized information relative to the Companys stock option plans (options in thousands) is
as follows: Number
    
    
    Averageof Options
    
    
    Price (1)Outstanding at December 31, 2001
    
    
    197,200.7
    
    
    $
    56.98Granted
    
    
    37,809.4
    
    
    
    61.18Exercised
    
    
    (11,048.3
    )
    
    
    28.82Forfeited
    
    
    (5,852.5
    )
    
    
    69.20Outstanding at December 31, 2002
    
    
    218,109.3
    
    
    
    58.80Granted
    
    
    32,595.7
    
    
    
    52.74Exercised
    
    
    (15,482.2
    )
    
    
    25.07Forfeited or converted(2)
    
    
    (11,970.7
    )
    
    
    63.18Medco Health spin-off adjustment
    
    
    12,626.2
    
    
    
    (3.22
    )Outstanding at December 31, 2003
    
    
    235,878.3
    
    
    
    56.80Granted
    
    
    31,377.9
    
    
    
    45.58Exercised
    
    
    (11,668.0
    )
    
    
    20.60Forfeited
    
    
    (10,824.1
    )
    
    
    59.78Outstanding at December 31, 2004
    
    
    244,764.1
    
    
    $
    56.96
 (1) Weighted average exercise price.
 (2) Includes 4.8 million options that were converted to Medco Health options.
 The number of options and average price of options exercisable at December 31, 2004, 2003
and 2002 were 129.1 million options at $55.83, 101.4 million options at $47.47 and 70.7 million
options at $35.97, respectively. At December 31, 2004 and 2003, 99.9 million shares and 120.4
million shares, respectively, were available for future grants under the terms of the Companys
stock-based compensation plans. Summarized information about stock options outstanding and exercisable at December 31, 2004
(options in thousands) is as follows: Exercise
    
    Outstanding
    
    
    ExercisablePrice
    
    Number
    
    
    Average
    
    
    Average
    
    
    Number
    
    
    AverageRange
    
    of Options
    
    
    Life(1)
    
    
    Price(2)
    
    
    of Options
    
    
    Price(2)Under $15
    
    
    2,199.0
    
    
    
    3.54
    
    
    $
    11.75
    
    
    
    2,199.0
    
    
    $
    11.75$15 to 25
    
    
    5,290.0
    
    
    
    0.42
    
    
    
    19.92
    
    
    
    5,241.1
    
    
    
    19.91$25 to 40
    
    
    16,051.2
    
    
    
    3.41
    
    
    
    30.51
    
    
    
    11,876.4
    
    
    
    31.05$40 to 50
    
    
    77,542.9
    
    
    
    6.96
    
    
    
    48.31
    
    
    
    30,652.5
    
    
    
    47.52$50 to 65
    
    
    84,344.4
    
    
    
    5.32
    
    
    
    60.12
    
    
    
    46,380.8
    
    
    
    59.49$65 to 80
    
    
    58,214.6
    
    
    
    4.99
    
    
    
    75.69
    
    
    
    32,227.0
    
    
    
    75.91Over $80
    
    
    1,122.0
    
    
    
    3.84
    
    
    
    86.20
    
    
    
    555.1
    
    
    
    87.27244,764.1
    
    
    
    
    
    
    
    
    
    
    
    129,131.9
 (1) Weighted average contractual life remaining in years.
 (2) Weighted average exercise price.
 52




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##### 



15. Pension and Other Postretirement Benefit Plans
The Company has defined benefit pension plans covering eligible employees in the United States and
in certain of its international subsidiaries. Pension benefits in the United States are based on a
formula that considers final average pay and years of credited service. In addition, the Company
provides medical, dental and life insurance benefits, principally to its eligible U.S. retirees and
similar benefits to their dependents, through its other postretirement benefit plans. The Company
uses a December 31 measurement date for substantially all of its pension plans and for its other
postretirement benefit plans. In 2004, in accordance with FASB Staff Position No. 106-2, Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003
(the Act), the Company began accounting for the effect of the federal subsidy under the Act, which
reduced the benefit obligation of certain of its other postretirement benefit plans by $169.0
million. The service cost, interest cost and net amortization components of net postretirement
benefit cost were reduced by $7.9 million, $10.5 million and $12.6 million, respectively. While
the Company is recognizing the subsidy in accordance with current accounting requirements, it will
continue to evaluate the Act and regulations that follow to determine the optimal approach to
incorporating the impact of the Act. The Company changed participant contributions and the service recognized for eligibility for
its other postretirement benefit plans. These amendments generated curtailment gains of $12.3
million in 2004, $10.2 million in 2003 and $54.2 million in 2002. The Company recorded a settlement loss of $28.3 million on its pension plans and a curtailment
loss of $11.7 million on its other postretirement benefit plans in 2003 resulting from reductions
in employment levels primarily in connection with restructuring activities. The Company also
recorded termination charges in 2004 and 2003 of $18.4 million and $37.9 million, respectively, on
its pension plans and $3.1 million and $8.1 million, respectively, on its other postretirement
benefit plans related to expanded eligibility for certain employees exiting primarily under the
restructuring action. (See Note 4.) In addition, the Company recorded a settlement loss of $23.0 million in 2004 on certain of its
domestic pension plans resulting from employees electing to receive their pension benefits as lump
sum payments. The net cost for the Companys pension plans consisted of the following components: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Service cost
    
    $
    307.7
    
    
    $
    263.4
    
    
    $
    218.8Interest cost
    
    
    286.0
    
    
    
    260.6
    
    
    
    229.9Expected return on plan assets
    
    
    (367.7
    )
    
    
    (341.2
    )
    
    
    (314.3
    )Net amortization
    
    
    130.0
    
    
    
    115.9
    
    
    
    49.1Settlements
    
    
    23.0
    
    
    
    28.3
    
    
    
    Termination benefits
    
    
    18.4
    
    
    
    37.9
    
    
    
    Net pension cost
    
    $
    397.4
    
    
    $
    364.9
    
    
    $
    183.5
 The net pension cost attributable to U.S. plans included in the above table was $283.0
million in 2004, $264.8 million in 2003 and $108.0 million in 2002. The net cost of postretirement benefits other than pensions consisted of the following
components: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Service cost
    
    $
    86.0
    
    
    $
    68.3
    
    
    $
    46.6Interest cost
    
    
    105.7
    
    
    
    90.4
    
    
    
    71.4Expected return on plan assets
    
    
    (89.4
    )
    
    
    (62.0
    )
    
    
    (78.6
    )Net amortization
    
    
    31.0
    
    
    
    28.0
    
    
    
    (11.7
    )Curtailments
    
    
    (12.3
    )
    
    
    1.5
    
    
    
    (54.2
    )Termination benefits
    
    
    3.1
    
    
    
    8.1
    
    
    
    Net postretirement benefit cost
    
    $
    124.1
    
    
    $
    134.3
    
    
    $
    (26.5
    )
 The cost of health care and life insurance benefits for active employees was $295.3
million in 2004, $273.0 million in 2003 and $241.7 million in 2002. Summarized information about the changes in plan assets and benefit obligation is as follows: OtherPostretirementPension Benefits
    
    
    Benefits2004
    
    
    2003
    
    
    2004
    
    
    2003Fair value of plan assets
at January 1
    
    $
    4,282.7
    
    
    $
    3,105.4
    
    
    $
    949.5
    
    
    $
    678.8Actual return on plan assets
    
    
    718.8
    
    
    
    1,033.3
    
    
    
    150.7
    
    
    
    223.7Company contributions
    
    
    761.5
    
    
    
    641.3
    
    
    
    94.4
    
    
    
    63.5Benefits paid from
plan assets
    
    
    (296.1
    )
    
    
    (425.3
    )
    
    
    (29.3
    )
    
    
    (16.5
    )Discontinued operations
    
    
    
    
    
    
    (80.5
    )
    
    
    
    
    
    
    Other
    
    
    14.0
    
    
    
    8.5
    
    
    
    
    
    
    
    Fair value of plan assets
at December 31
    
    $
    5,480.9
    
    
    $
    4,282.7
    
    
    $
    1,165.3
    
    
    $
    949.5Benefit obligation
at January 1
    
    $
    5,071.9
    
    
    $
    4,410.1
    
    
    $
    1,840.4
    
    
    $
    1,329.6Subsidy under the Act
    
    
    
    
    
    
    
    
    
    
    (169.0
    )
    
    
    Service cost
    
    
    307.7
    
    
    
    263.4
    
    
    
    86.0
    
    
    
    68.3Interest cost
    
    
    286.0
    
    
    
    260.6
    
    
    
    105.7
    
    
    
    90.4Actuarial losses
    
    
    511.2
    
    
    
    624.0
    
    
    
    152.0
    
    
    
    486.9Benefits paid
    
    
    (327.1
    )
    
    
    (466.0
    )
    
    
    (65.1
    )
    
    
    (58.2
    )Plan amendments
    
    
    4.6
    
    
    
    27.3
    
    
    
    (60.7
    )
    
    
    Curtailments
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    19.4Termination benefits
    
    
    18.4
    
    
    
    37.9
    
    
    
    3.1
    
    
    
    8.1Discontinued operations
    
    
    
    
    
    
    (85.2
    )
    
    
    
    
    
    
    (104.1
    )Other
    
    
    6.8
    
    
    
    (0.2
    )
    
    
    
    
    
    
    Benefit obligation
at December 31
    
    $
    5,879.5
    
    
    $
    5,071.9
    
    
    $
    1,892.4
    
    
    $
    1,840.4
 53




---



##### 



The fair value of U.S. pension plan assets included in the preceding table was $3.5
billion in 2004 and $2.7 billion in 2003. The pension benefit obligation of U.S. plans included in
this table was $3.7 billion in 2004 and $3.2 billion in 2003. A reconciliation of the plans funded status to the net asset (liability) recognized at
December 31 is as follows: OtherPostretirementPension Benefits
    
    
    Benefits2004
    
    
    2003
    
    
    2004
    
    
    2003Plan assets less than
benefit obligation
    
    $
    (398.6
    )
    
    $
    (789.2
    )
    
    $
    (727.0
    )
    
    $
    (890.9
    )Unrecognized net
loss
    
    
    2,200.2
    
    
    
    2,155.0
    
    
    
    755.1
    
    
    
    879.5Unrecognized plan
changes
    
    
    99.2
    
    
    
    105.2
    
    
    
    (201.3
    )
    
    
    (171.0
    )Net asset (liability)
    
    $
    1,900.8
    
    
    $
    1,471.0
    
    
    $
    (173.2
    )
    
    $
    (182.4
    )Recognized as:Other assets
    
    $
    2,281.3
    
    
    $
    1,789.9
    
    
    $
    
    
    
    $
    Accrued and other
current liabilities
    
    
    (15.8
    )
    
    
    (24.4
    )
    
    
    (24.9
    )
    
    
    (24.9
    )Deferred income taxes and
noncurrent liabilities
    
    
    (387.7
    )
    
    
    (310.2
    )
    
    
    (148.3
    )
    
    
    (157.5
    )Accumulated other
comprehensive loss
    
    
    23.0
    
    
    
    15.7
    
    
    
    
    
    
    
    
 The weighted average asset allocations of the investment portfolio for the pension and
other postretirement benefit plans at December 31 are as follows: OtherPostretirementPension Benefits
    
    
    Benefits2004
    
    
    2003
    
    
    2004
    
    
    2003U.S. equities
    
    
    41
    %
    
    
    41
    %
    
    
    55
    %
    
    
    56
    %International equities
    
    
    30
    
    
    
    30
    
    
    
    27
    
    
    
    26Fixed income investments
    
    
    21
    
    
    
    21
    
    
    
    16
    
    
    
    16Real estate
    
    
    6
    
    
    
    7
    
    
    
    1
    
    
    
    1Cash and other investments
    
    
    2
    
    
    
    1
    
    
    
    1
    
    
    
    1100
    %
    
    
    100
    %
    
    
    100
    %
    
    
    100
    %
 The target investment portfolios for the Companys pension plans are determined by country
based on the nature of the liabilities and considering the demographic composition of the plan
participants (average age, years of service and active versus retiree status) and in accordance
with local regulations. The weighted average target allocation was 40% in U.S. equities, 30% in
international equities, 22% in fixed income investments, 7% in real estate and other investments,
and 1% in cash. Other investments include insurance contracts for certain international pension
plans. The target investment portfolio for the Companys other postretirement benefit plans is
allocated 45% to 60% in U.S. equities, 20% to 30% in international equities, 13% to 17% in
fixed-income investments, and up to 8% in cash and other investments. The portfolios asset
allocation is consistent with the long-term nature of the plans benefit obligation, and is well
diversified among the asset classes in which the portfolio invests. Contributions to the pension plans and other postretirement benefit plans during 2005 are
expected to be $415.0 million and $106.3 million, respectively. Expected benefit payments are as follows: OtherPostretirementPension Benefits
    
    Benefits2005
    
    $
    203.5
    
    
    $
    76.92006
    
    
    231.2
    
    
    
    83.62007
    
    
    241.0
    
    
    
    90.42008
    
    
    263.6
    
    
    
    97.12009
    
    
    292.3
    
    
    
    104.62010-2014
    
    
    1,906.4
    
    
    
    650.3
 Expected benefit payments are based on the same assumptions used to measure the benefit
obligations and include estimated future employee service. Expected receipts of the subsidy under
the Act, which are not reflected in the expected other postretirement benefit payments included in
the preceding table, are as follows: 2006, $5.4 million; 2007, $6.1 million; 2008, $6.7 million;
2009, $7.4 million; 2010-2014, $47.9 million. At December 31, 2004 and 2003, the accumulated benefit obligation was $4.5 billion and $3.8
billion, respectively, for all pension plans and $2.7 billion and $2.3 billion, respectively, for
U.S. pension plans. The Company had a minimum pension liability of $24.6 million and $19.8 million
at December 31, 2004 and 2003, respectively, representing the extent to which the accumulated
benefit obligation exceeded plan assets for certain of the Companys pension plans. For pension plans with benefit obligations in excess of plan assets at December 31, 2004 and
2003, the fair value of plan assets was $1.1 billion and $3.4 billion, respectively, and the
benefit obligation was $1.8 billion and $4.2 billion, respectively. For those plans with
accumulated benefit obligations in excess of plan assets at December 31, 2004 and 2003, the fair
value of plan assets was $106.0 million and $92.2 million, respectively, and the accumulated
benefit obligation was $393.9 million and $327.2 million, respectively. Unrecognized net loss amounts reflect experience differentials primarily relating to
differences between expected and actual returns on plan assets as well as the effects of changes in
actuarial assumptions. Unrecognized net loss amounts in excess of certain thresholds are amortized
into net pension and other postretirement benefit cost over the average remaining service life of
employees. Amortization of unrecognized net losses for the Companys U.S. plans at December 31,
2004 is expected to increase net pension and other postretirement benefit cost by approximately
$125.0 million annually from 2005 through 2009. 54




---



##### 



The Company reassesses its benefit plan assumptions on a regular basis. The weighted average assumptions used in determining pension plan information are as follows: December 31
    
    2004
    
    
    2003
    
    
    2002Net costDiscount rate
    
    
    5.65
    %
    
    
    5.90
    %
    
    
    6.40
    %Expected rate of return
on plan assets
    
    
    7.70
    
    
    
    7.70
    
    
    
    8.90Salary growth rate
    
    
    4.1
    
    
    
    4.1
    
    
    
    4.2Benefit obligationDiscount rate
    
    
    5.40
    %
    
    
    5.65
    %
    
    
    5.90
    %Salary growth rate
    
    
    4.1
    
    
    
    4.1
    
    
    
    4.2
 Assumptions used in determining U.S. pension plan and other postretirement benefit plan
information are as follows: December 31
    
    2004
    
    
    2003
    
    
    2002Net costDiscount rate
    
    
    6.25
    %
    
    
    6.50
    %
    
    
    7.25
    %Expected rate of return
on plan assets
    
    
    8.75
    
    
    
    8.75
    
    
    
    10.0Salary growth rate
    
    
    4.5
    
    
    
    4.5
    
    
    
    4.5Benefit obligationDiscount rate
    
    
    6.00
    %*
    
    
    6.25
    %
    
    
    6.50
    %Salary growth rate
    
    
    4.5
    
    
    
    4.5
    
    
    
    4.5
  The expected rate of return for both the pension and other postretirement benefit plans
represents the average rate of return to be earned on plan assets over the period the benefits
included in the benefit obligation are to be paid and is determined on a country basis. In
developing the expected rate of return within each country, the long-term historical returns data
is considered as well as actual returns on the plan assets and other capital markets experience.
Using this reference information, the long-term return expectations for each asset category and a
weighted average expected return for each countrys target portfolio is developed, according to the
allocation among those investment categories. The expected portfolio performance reflects the
contribution of active management as appropriate. For 2005, the Companys expected rate of return
of 8.75% will remain unchanged from 2004 for its U.S. pension and other postretirement benefit
plans. The health care cost trend rate assumptions for other postretirement benefit plans are as
follows: December 31
    
    2004
    
    
    2003Health care cost trend rate
assumed for next year
    
    
    10.0
    %
    
    
    11.0
    %Rate to which the cost trend rate is
assumed to decline
    
    
    5.0
    %
    
    
    5.0
    %Year that the rate reached the ultimate
trend rate
    
    
    2013
    
    
    
    2013
 A one percentage point change in the health care cost trend rate would have had the
following effects: One Percentage PointIncrease
    
    
    DecreaseEffect on total service and interest cost
components
    
    $
    36.7
    
    
    $
    (28.8
    )Effect on benefit obligation
    
    
    302.4
    
    
    
    (243.5
    )
 16. Other (Income) Expense, Net Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Interest income
    
    $
    (300.1
    )
    
    $
    (308.7
    )
    
    $
    (415.1
    )Interest expense
    
    
    293.7
    
    
    
    350.9
    
    
    
    390.6Exchange gains
    
    
    (18.4
    )
    
    
    (28.4
    )
    
    
    (7.8
    )Minority interests
    
    
    154.2
    
    
    
    168.7
    
    
    
    214.2Other, net
    
    
    (473.4
    )
    
    
    (385.7
    )
    
    
    (77.4
    )$
    (344.0
    )
    
    $
    (203.2
    )
    
    $
    104.5
 Minority interests include third parties share of exchange gains and losses arising from
translation of the financial statements into U.S. dollars. Reduced minority interests in 2004 and
2003 is attributable to the effect of the Banyu shares acquisitions. (See Note 5.) Other, net in 2004 reflects the $176.8 million gain from the sale of the Companys 50-percent
equity stake in its European joint venture with Johnson & Johnson. The increase in other, net in
2003 primarily reflects an $84.0 million gain on the sale of Aggrastatproduct rights in the United
States and realized gains on the Companys investment portfolios relating to the favorable interest
rate environment. Interest paid was $284.6 million in 2004, $359.4 million in 2003 and $401.4 million in 2002. 17. Taxes on Income
A reconciliation between the Companys effective tax rate and the U.S. statutory rate is as
follows: 2004
    
    
    Tax RateAmount
    
    
    2004
    
    
    2003
    
    
    2002U.S. statutory rate applied
to income from
continuing operations
before taxes
    
    $
    2,791.1
    
    
    
    35.0
    %
    
    
    35.0
    %
    
    
    35.0
    %Differential arising from:Foreign earnings
    
    
    (794.9
    )
    
    
    (10.0
    )
    
    
    (10.2
    )
    
    
    (6.5
    )Tax exemption for
Puerto Rico operations
    
    
    (129.0
    )
    
    
    (1.6
    )
    
    
    (0.9
    )
    
    
    (0.9
    )State taxes
    
    
    101.5
    
    
    
    1.3
    
    
    
    1.7
    
    
    
    1.9Other
    
    
    192.4
    
    
    
    2.4
    
    
    
    1.6
    
    
    
    0.1$
    2,161.1
    
    
    
    27.1
    %
    
    
    27.2
    %
    
    
    29.6
    %
 55




---



##### 



Domestic companies contributed approximately 30% in 2004, 34% in 2003 and 47% in 2002 to
consolidated income from continuing operations before taxes. Taxes on income from continuing operations consisted of: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Current provisionFederal
    
    $
    1,420.0
    
    
    $
    1,464.2
    
    
    $
    1,563.8Foreign
    
    
    530.9
    
    
    
    611.3
    
    
    
    609.3State
    
    
    161.3
    
    
    
    254.8
    
    
    
    296.32,112.2
    
    
    
    2,330.3
    
    
    
    2,469.4Deferred provisionFederal
    
    
    95.6
    
    
    
    21.3
    
    
    
    361.8Foreign
    
    
    (32.3
    )
    
    
    96.5
    
    
    
    (8.0
    )State
    
    
    (14.4
    )
    
    
    13.9
    
    
    
    33.748.9
    
    
    
    131.7
    
    
    
    387.5$
    2,161.1
    
    
    $
    2,462.0
    
    
    $
    2,856.9
 Deferred income taxes at December 31 consisted of: 2004
    
    
    2003Assets
    
    
    Liabilities
    
    
    Assets
    
    
    LiabilitiesOther intangibles
    
    $
    60.7
    
    
    $
    286.1
    
    
    $
    84.7
    
    
    $
    306.0Inventory related
    
    
    749.7
    
    
    
    473.0
    
    
    
    639.0
    
    
    
    355.2Accelerated
depreciation
    
    
    
    
    
    
    1,479.7
    
    
    
    
    
    
    
    1,353.9Advance payment
    
    
    338.6
    
    
    
    
    
    
    
    338.6
    
    
    
    Equity investments
    
    
    189.3
    
    
    
    548.7
    
    
    
    260.0
    
    
    
    565.6Pensions and OPEB
    
    
    168.6
    
    
    
    811.9
    
    
    
    122.3
    
    
    
    602.0Compensation related
    
    
    182.5
    
    
    
    
    
    
    
    156.9
    
    
    
    Vioxxlegal cost reserve
    
    
    205.2
    
    
    
    
    
    
    
    35.7
    
    
    
    Net operating losses
    
    
    212.3
    
    
    
    
    
    
    
    155.2
    
    
    
    Other
    
    
    1,144.4
    
    
    
    314.2
    
    
    
    1,042.5
    
    
    
    287.5Subtotal
    
    
    3,251.3
    
    
    
    3,913.6
    
    
    
    2,834.9
    
    
    
    3,470.2Valuation allowance
    
    
    
    
    
    
    
    
    
    
    (2.2
    )
    
    
    Total deferred taxes
    
    $
    3,251.3
    
    
    $
    3,913.6
    
    
    $
    2,832.7
    
    
    $
    3,470.2Net deferred tax
liabilities
    
    
    
    
    
    $
    662.3
    
    
    
    
    
    
    $
    637.5Recognized as:Prepaid expenses and taxes
    
    
    
    
    
    $
    (652.6
    )
    
    
    
    
    
    $
    (590.8
    )Other assets
    
    
    
    
    
    
    (10.5
    )
    
    
    
    
    
    
    (7.5
    )Income taxes payable
    
    
    
    
    
    
    156.2
    
    
    
    
    
    
    
    110.2Deferred income
taxes and noncurrent liabilities
    
    
    
    
    
    
    1,169.2
    
    
    
    
    
    
    
    1,125.6
 Income taxes paid in 2004, 2003 and 2002 were $1.9 billion, $2.0 billion and $1.8 billion,
respectively. Stock option exercises reduced income taxes paid in 2004, 2003 and 2002 by $121.7
million, $167.8 million and $82.5 million, respectively. At December 31, 2004, foreign earnings of $20.1 billion and domestic earnings of $880.9
million have been retained indefinitely by subsidiary companies for reinvestment. No provision is
made for income taxes that would be payable upon the distribution of such earnings. These earnings
include income from manufacturing operations in Ireland, which were tax-exempt through 1990 and are
taxed at 10% thereafter. In addition, the Company has subsidiaries operating in Puerto Rico and
Singapore under tax incentive grants that expire in 2015 and 2026, respectively. On October 22, 2004, the American Jobs Creation Act of 2004 (the AJCA) was signed into law.
The AJCA creates a temporary incentive for U.S. multinationals to repatriate accumulated income
earned outside the United States as of December 31, 2002. On December 21, 2004, the FASB
issued FASB Staff Position, Accounting and Disclosure Guidance for the Foreign Earnings
Repatriation Provision within the American Jobs Creation Act of 2004 (FSP No. 109-2). FSP No.
109-2 allows companies additional time to evaluate the effect of the law. Through December 31,
2004, the Company has not provided deferred taxes on foreign earnings because such earnings were
intended to be indefinitely reinvested outside the United States. Whether the Company will
ultimately take advantage of the temporary incentive depends on a number of factors including
analyzing IRS guidance before a decision is made. The Company expects to be in a position to
finalize its decisions regarding the temporary incentive during 2005. Until that time, the Company
will make no change in its current intention to indefinitely reinvest accumulated earnings of its
foreign subsidiaries. If it becomes apparent that the Company will repatriate all or any of these
earnings in an amount of up to $15 billion, a one-time tax charge to the Companys consolidated
results of operations of up to approximately $1 billion could occur. The ultimate tax charge is
dependent on a number of factors currently under consideration, including the passage of pending
legislation, which contains certain technical corrections to the AJCA. The Company has not changed
its intention to indefinitely reinvest accumulated earnings earned subsequent to December 31, 2002.
No provision will be made for income taxes that would be payable upon the distribution of such
earnings and it is not practicable to determine the amount of the related unrecognized deferred
income tax liability. The Companys federal income tax returns have been audited through 1992. As previously
disclosed, the IRS has substantially completed its examination of the Companys tax returns for the
years 1993 to 1996 and on April 28, 2004 issued a preliminary notice of deficiency with respect to
a partnership transaction entered into in 1993. Specifically, the IRS is proposing to disallow
certain royalty and other expenses claimed as deductions on the 1993-1996 tax returns of the
Company. The Company anticipates receiving a similar notice for 1997-1999, shortly. If the IRS
ultimately prevails in its positions, the Companys income tax due for the years 1993-1999 would
increase by approximately $970 million plus interest of approximately $490 million. The IRS will
likely make similar claims for years subsequent to 1999 in future audits with respect to this
transaction. The potential disallowance for these later years, computed on a similar basis to the
1993-1999 disallowances, would be approximately $540 million plus interest of approximately $40
million. The IRS has proposed penalties on the Company with respect to all periods that have been
examined and the Company anticipates the IRS would seek to impose penalties on all other periods. The Company vigorously disagrees with the proposed adjustments and intends to aggressively
contest this matter through applicable IRS and judicial procedures, as appropriate. Although the
final resolution of the proposed adjustments is uncertain and involves unsettled areas of the law,
based on currently available information, the Company has provided for the best estimate of the
probable tax liability for this matter. While the resolution of the issue may result in tax
liabilities which are significantly higher or lower than the reserves established for this matter,
management currently believes that the resolution will not have a material effect on the Companys
financial position or liquidity. However, an unfavorable resolution could have a material effect
on the Companys results of operations or cash flows in the quarter in which an adjustment is
recorded or the tax is due or paid. 56




---



##### 



18. Earnings per Share
The weighted average common shares used in the computations of basic earnings per common share and
earnings per common share assuming dilution (shares in millions) are as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Average common shares
outstanding
    
    
    2,219.0
    
    
    
    2,236.7
    
    
    
    2,257.5Common shares issuable (1)
    
    
    7.4
    
    
    
    16.4
    
    
    
    19.5Average common shares
outstanding assuming dilution
    
    
    2,226.4
    
    
    
    2,253.1
    
    
    
    2,277.0
 (1) Issuable primarily under stock-based compensation plans.
 In 2004, 2003 and 2002, 233.1 million, 203.4 million and 149.9 million common shares
issuable under the Companys stock-based compensation plans were excluded from the computation of
earnings per common share assuming dilution because the effect would have been antidilutive. 19. Comprehensive Income
The components of Other comprehensive (loss) income are as follows: AfterPretax (1)
    
    
    Tax
    
    
    TaxYear Ended December 31, 2004Net unrealized loss on
derivatives
    
    $
    (117.8
    )
    
    $
    48.2
    
    
    $
    (69.6
    )Net loss realization
    
    
    64.2
    
    
    
    (26.3
    )
    
    
    37.9Derivatives
    
    
    (53.6
    )
    
    
    21.9
    
    
    
    (31.7
    )Net unrealized gain on
investments
    
    
    (38.4
    )
    
    
    (9.6
    )
    
    
    (48.0
    )Net income realization
    
    
    (89.7
    )
    
    
    36.8
    
    
    
    (52.9
    )Investments
    
    
    (128.1
    )
    
    
    27.2
    
    
    
    (100.9
    )Minimum pension liability
    
    
    (7.2
    )
    
    
    2.3
    
    
    
    (4.9
    )Cumulative translation adjustment
relating to equity investees
    
    
    40.2
    
    
    
    (14.1
    )
    
    
    26.1$
    (148.7
    )
    
    $
    37.3
    
    
    $
    (111.4
    )Year Ended December 31, 2003Net unrealized loss on
derivatives
    
    $
    (87.6
    )
    
    $
    35.9
    
    
    $
    (51.7
    )Net loss realization
    
    
    51.5
    
    
    
    (21.1
    )
    
    
    30.4Derivatives
    
    
    (36.1
    )
    
    
    14.8
    
    
    
    (21.3
    )Net unrealized gain on
investments
    
    
    105.0
    
    
    
    (33.8
    )
    
    
    71.2Net income realization
    
    
    (114.3
    )
    
    
    (3.2
    )
    
    
    (117.5
    )Investments
    
    
    (9.3
    )
    
    
    (37.0
    )
    
    
    (46.3
    )Minimum pension liability
    
    
    424.5
    
    
    
    (192.6
    )
    
    
    231.9$
    379.1
    
    
    $
    (214.8
    )
    
    $
    164.3Year Ended December 31, 2002Net unrealized loss on
derivatives
    
    $
    (31.8
    )
    
    $
    13.0
    
    
    $
    (18.8
    )Net income realization
    
    
    (2.0
    )
    
    
    0.8
    
    
    
    (1.2
    )Derivatives
    
    
    (33.8
    )
    
    
    13.8
    
    
    
    (20.0
    )Net unrealized gain on
investments
    
    
    128.6
    
    
    
    24.5
    
    
    
    153.1Net income realization
    
    
    (86.6
    )
    
    
    6.6
    
    
    
    (80.0
    )Investments
    
    
    42.0
    
    
    
    31.1
    
    
    
    73.1Minimum pension liability
    
    
    (263.2
    )
    
    
    100.7
    
    
    
    (162.5
    )$
    (255.0
    )
    
    $
    145.6
    
    
    $
    (109.4
    )
 (1) Net of applicable minority interest.
 The components of Accumulated other comprehensive (loss) income are as follows: December 31
    
    2004
    
    
    2003Net unrealized loss
on derivatives
    
    $
    (65.7
    )
    
    $
    (34.0
    )Net unrealized gain
on investments
    
    
    9.2
    
    
    
    110.1Minimum pension liability
    
    
    (15.5
    )
    
    
    (10.6
    )Cumulative translation adjustment
relating to equity investees
    
    
    26.1
    
    
    
    $
    (45.9
    )
    
    $
    65.5
 At December 31, 2004, $37.6 million of the net unrealized loss on derivatives is
associated with options maturing in the next 12 months, which hedge anticipated foreign currency
denominated sales over that same period. 20. Segment Reporting
The Companys operations are principally managed on a products basis. The Merck Pharmaceutical
segment includes products marketed either directly or through joint ventures. These products
consist of therapeutic and preventive agents, sold by prescription, for the treatment of human
disorders. Merck sells these human health products primarily to drug wholesalers and retailers,
hospitals, government agencies and managed health care providers such as health maintenance
organizations and other institutions. All Other includes other non-reportable human and animal health segments. Revenues and
profits for these segments are as follows: MerckPharm-
    
    
    Allaceutical
    
    
    Other
    
    
    TotalYear Ended December 31, 2004Segment revenues
    
    $
    21,493.5
    
    
    $
    1,221.2
    
    
    $
    22,714.7Segment profits
    
    
    13,507.1
    
    
    
    1,184.5
    
    
    
    14,691.6Included in segment
profits:Equity income
from affiliates
    
    
    512.8
    
    
    
    307.7
    
    
    
    820.5Depreciation and
amortization
    
    
    (151.8
    )
    
    
    (4.3
    )
    
    
    (156.1
    )Year Ended December 31, 2003Segment revenues
    
    $
    21,038.1
    
    
    $
    1,218.8
    
    
    $
    22,256.9Segment profits
    
    
    13,451.7
    
    
    
    1,131.4
    
    
    
    14,583.1Included in segment
profits:Equity income
from affiliates
    
    
    304.0
    
    
    
    245.8
    
    
    
    549.8Depreciation and
amortization
    
    
    (143.5
    )
    
    
    (4.0
    )
    
    
    (147.5
    )Year Ended December 31, 2002Segment revenues
    
    $
    19,946.2
    
    
    $
    1,244.5
    
    
    $
    21,190.7Segment profits
    
    
    12,868.0
    
    
    
    1,111.5
    
    
    
    13,979.5Included in segment
profits:Equity income
from affiliates
    
    
    203.0
    
    
    
    217.6
    
    
    
    420.6Depreciation and
amortization
    
    
    (137.8
    )
    
    
    (3.9
    )
    
    
    (141.7
    )
 57




---



##### 



Segment profits are comprised of segment revenues less certain elements of materials and
production costs and operating expenses, including components of equity income (loss) from
affiliates and depreciation and amortization expenses. For internal management reporting presented
to the chief operating decision maker, the Company does not allocate the vast majority of indirect
production costs, research and development expenses and general and administrative expenses, as
well as the cost of financing these activities. Separate divisions maintain responsibility for
monitoring and managing these costs, including depreciation related to fixed assets utilized by
these divisions and, therefore, they are not included in segment profits. A reconciliation of total segment revenues to consolidated Sales is as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Segment revenues
    
    $
    22,714.7
    
    
    $
    22,256.9
    
    
    $
    21,190.7Other revenues
    
    
    223.9
    
    
    
    229.0
    
    
    
    255.1$
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8
 Other revenues are primarily comprised of miscellaneous corporate revenues, sales related
to divested products or businesses and other supply sales. Sales(1) by category of the Companys products were as follows: 2004
    
    
    2003
    
    
    2002Atherosclerosis
    
    $
    5,223.0
    
    
    $
    5,077.9
    
    
    $
    5,552.1Hypertension/heart failure
    
    
    3,646.7
    
    
    
    3,421.6
    
    
    
    3,477.8Osteoporosis
    
    
    3,159.6
    
    
    
    2,676.6
    
    
    
    2,243.1Respiratory
    
    
    2,622.0
    
    
    
    2,009.4
    
    
    
    1,489.8Anti-inflammatory/analgesics (2)
    
    
    1,779.6
    
    
    
    2,677.3
    
    
    
    2,587.2Anti-bacterial/anti-fungal
    
    
    1,200.9
    
    
    
    1,028.5
    
    
    
    821.0Vaccines/biologicals
    
    
    1,036.1
    
    
    
    1,056.1
    
    
    
    1,028.3Urology
    
    
    733.1
    
    
    
    605.5
    
    
    
    547.3Ophthalmologicals
    
    
    726.5
    
    
    
    675.1
    
    
    
    621.5Human immunodeficiency
virus (HIV)
    
    
    255.5
    
    
    
    290.6
    
    
    
    294.3Other
    
    
    2,555.6
    
    
    
    2,967.3
    
    
    
    2,783.4$
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8
 (1) Presented net of discounts and returns.
 (2) Includes Vioxx, which was voluntarily withdrawn worldwide on September 30,
2004.
 Other primarily includes sales of other human pharmaceuticals, pharmaceutical and animal
health supply sales to the Companys joint ventures and revenue from the Companys relationship
with AZLP, primarily relating to sales of Nexiumand Prilosec. Revenue from AZLP was $1.5
billion, $1.9 billion and $1.5 billion in 2004, 2003 and 2002, respectively. Consolidated revenues by geographic area where derived are as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002United States
    
    $
    13,472.0
    
    
    $
    13,321.1
    
    
    $
    13,156.6Europe, Middle East and Africa
    
    
    5,440.8
    
    
    
    5,341.3
    
    
    
    4,707.7Japan
    
    
    1,668.2
    
    
    
    1,600.9
    
    
    
    1,438.7Other
    
    
    2,357.6
    
    
    
    2,222.6
    
    
    
    2,142.8$
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8
 A reconciliation of total segment profits to consolidated Income from continuing
operations before taxes is as follows: Years Ended December 31
    
    2004
    
    
    2003
    
    
    2002Segment profits
    
    $
    14,691.6
    
    
    $
    14,583.1
    
    
    $
    13,979.5Other profits
    
    
    24.6
    
    
    
    156.6
    
    
    
    197.9Adjustments
    
    
    481.3
    
    
    
    453.5
    
    
    
    432.3Unallocated:Interest income
    
    
    300.1
    
    
    
    308.7
    
    
    
    415.1Interest expense
    
    
    (293.7
    )
    
    
    (350.9
    )
    
    
    (390.6
    )Equity income (loss)
from affiliates
    
    
    187.7
    
    
    
    (75.6
    )
    
    
    224.1Depreciation and
amortization
    
    
    (1,294.6
    )
    
    
    (1,166.7
    )
    
    
    (1,089.5
    )Research and
development
    
    
    (4,010.2
    )
    
    
    (3,279.9
    )
    
    
    (2,677.2
    )Other expenses, net
    
    
    (2,112.3
    )
    
    
    (1,577.2
    )
    
    
    (1,439.9
    )$
    7,974.5
    
    
    $
    9,051.6
    
    
    $
    9,651.7
 Other profits are primarily comprised of miscellaneous corporate profits as well as
operating profits related to divested products or businesses and other supply sales. Adjustments
represent the elimination of the effect of double counting certain items of income and expense.
Equity income (loss) from affiliates includes taxes paid at the joint venture level and a portion
of equity income that is not reported in segment profits. Other expenses, net, include expenses
from corporate and manufacturing cost centers and other miscellaneous income (expense), net. Property, plant and equipment, net by geographic area where located is as follows: December 31
    
    2004
    
    
    2003
    
    
    2002United States
    
    $
    10,712.9
    
    
    $
    10,383.3
    
    
    $
    10,757.7Europe, Middle East and Africa
    
    
    2,012.8
    
    
    
    1,846.3
    
    
    
    1,659.7Japan
    
    
    605.8
    
    
    
    599.1
    
    
    
    499.8Other
    
    
    1,382.2
    
    
    
    1,340.3
    
    
    
    1,278.4$
    14,713.7
    
    
    $
    14,169.0
    
    
    $
    14,195.6
 The Company does not disaggregate assets on a products and services basis for internal
management reporting and, therefore, such information is not presented. 58




---



##### 



Managements Report  Managements Responsibility For Financial Statements
 Managements Report on Internal Control Over Financial Reporting Internal ControlIntegrated Framework Internal ControlIntegrated Framework
 -s- Raymond V. Gilmartin
    
    -s- Judy C. LewentRaymond V. GilmartinChairman, President and
Chief Executive Officer
    
    Judy C. LewentExecutive Vice President &
Chief Financial Officer
President, Human Health Asia
   Audit Committees Report  The Audit Committee, comprised of independent directors, met with the independent
registered public accounting firm (the independent auditors), management and internal auditors to
assure that all were carrying out their respective responsibilities. The Audit Committee discussed
with and received a letter from the independent auditors confirming their independence. Both the
independent auditors and the internal auditors had full access to the Committee, including
regular meetings without management present.
 Peter C. WendellChairperson
    
    Thomas E. Shenk
Samuel O. Thier
Wendell P. Weeks
 Merck & Co., Inc. Annual Report 2004
    
    59




---



##### 



Report of Independent Registered Public Accounting Firm  To the Stockholders and the
Board of Directors of Merck & Co., Inc.: We have completed an integrated audit of Merck & Co., Inc.s 2004 consolidated financial statements
and of its internal control over financial reporting as of December 31, 2004 and audits of its 2003
and 2002 consolidated financial statements in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Our opinions, based on our audits, are presented below. Consolidated Financial Statements  Internal Control Over Financial Reporting Internal
ControlIntegrated Framework
 Internal
ControlIntegrated Framework
   -s- PricewaterhouseCoopers LLPFlorham Park, New Jersey
    
    PricewaterhouseCoopers LLPFebruary 22, 2005
   Compensation and Benefits Committees Report  The Compensation and Benefits Committee, comprised of independent directors, approves
compensation objectives and policies for all employees and sets compensation for the Companys
executive officers. The Committee seeks to ensure that rewards are closely linked to Company,
division, team and individual performances. The Committee also seeks to ensure that compensation
and benefits are set at levels that enable Merck to attract and retain highly qualified employees.
The Committee views stock ownership as a vehicle to align the interests of employees with those of
the Companys stockholders. Consistent with the
 long-term focus inherent in the Companys
R&D-based pharmaceutical business, it is the policy of the Committee to make a high proportion of
executive officer compensation dependent on long-term performance and on enhancing stockholder
value. Lawrence A. BossidyChairperson
    
    William G. Bowen
Johnnetta B. Cole
William N. Kelley
    60
 Merck & Co., Inc. Annual Report 2004




---



##### 



Selected Financial Data ($ in millions except per share amounts)
 2004(1)
    
    
    2003(2)
    
    
    2002
    
    
    2001
    
    
    2000
    
    
    1999Results for Year:Sales
    
    $
    22,938.6
    
    
    $
    22,485.9
    
    
    $
    21,445.8
    
    
    $
    21,199.0
    
    
    $
    20,009.5
    
    
    $
    17,294.4Materials and production costs
    
    
    4,959.8
    
    
    
    4,436.9
    
    
    
    4,004.9
    
    
    
    3,722.6
    
    
    
    3,273.0
    
    
    
    3,032.0Marketing and administrative expenses
    
    
    7,346.3
    
    
    
    6,394.9
    
    
    
    5,652.2
    
    
    
    5,700.6
    
    
    
    5,725.5
    
    
    
    4,808.1Research and development expenses
    
    
    4,010.2
    
    
    
    3,279.9
    
    
    
    2,677.2
    
    
    
    2,456.4
    
    
    
    2,343.8
    
    
    
    2,068.3Equity income from affiliates
    
    
    (1,008.2
    )
    
    
    (474.2
    )
    
    
    (644.7
    )
    
    
    (685.9
    )
    
    
    (764.9
    )
    
    
    (762.0
    )Other (income) expense, net
    
    
    (344.0
    )
    
    
    (203.2
    )
    
    
    104.5
    
    
    
    57.2
    
    
    
    69.8
    
    
    
    (222.1
    )Income from continuing operations before taxes
    
    
    7,974.5
    
    
    
    9,051.6
    
    
    
    9,651.7
    
    
    
    9,948.1
    
    
    
    9,362.3
    
    
    
    8,370.1Taxes on income
    
    
    2,161.1
    
    
    
    2,462.0
    
    
    
    2,856.9
    
    
    
    2,894.9
    
    
    
    2,766.7
    
    
    
    2,578.1Income from continuing operations
    
    
    5,813.4
    
    
    
    6,589.6
    
    
    
    6,794.8
    
    
    
    7,053.2
    
    
    
    6,595.6
    
    
    
    5,792.0Income from discontinued operations, net of taxes
    
    
    
    
    
    
    241.3
    
    
    
    354.7
    
    
    
    228.6
    
    
    
    226.1
    
    
    
    98.5Net income
    
    
    5,813.4
    
    
    
    6,830.9
    
    
    
    7,149.5
    
    
    
    7,281.8
    
    
    
    6,821.7
    
    
    
    5,890.5Basic earnings per common shareContinuing operations
    
    $
    2.62
    
    
    $
    2.95
    
    
    $
    3.01
    
    
    $
    3.08
    
    
    $
    2.86
    
    
    $
    2.47Discontinued operations
    
    
    
    
    
    
    .11
    
    
    
    .16
    
    
    
    .10
    
    
    
    .10
    
    
    
    .04Net income
    
    $
    2.62
    
    
    $
    3.05
    (3)
    
    $
    3.17
    
    
    $
    3.18
    
    
    $
    2.96
    
    
    $
    2.51Earnings per common share assuming dilutionContinuing operations
    
    $
    2.61
    
    
    $
    2.92
    
    
    $
    2.98
    
    
    $
    3.04
    
    
    $
    2.80
    
    
    $
    2.41Discontinued operations
    
    
    
    
    
    
    .11
    
    
    
    .16
    
    
    
    .10
    
    
    
    .10
    
    
    
    .04Net income
    
    $
    2.61
    
    
    $
    3.03
    
    
    $
    3.14
    
    
    $
    3.14
    
    
    $
    2.90
    
    
    $
    2.45Cash dividends declared
    
    
    3,329.1
    
    
    
    3,264.7
    
    
    
    3,204.2
    
    
    
    3,156.1
    
    
    
    2,905.7
    
    
    
    2,629.3Cash dividends paid per common share
    
    $
    1.49
    
    
    $
    1.45
    
    
    $
    1.41
    
    
    $
    1.37
    
    
    $
    1.21
    
    
    $
    1.10Capital expenditures
    
    
    1,726.1
    
    
    
    1,915.9
    
    
    
    2,128.1
    
    
    
    2,401.8
    
    
    
    2,471.0
    
    
    
    2,369.1Depreciation
    
    
    1,258.7
    
    
    
    1,129.6
    
    
    
    1,067.5
    
    
    
    949.7
    
    
    
    803.0
    
    
    
    682.8Year-End Position:Working capital
    
    $
    1,731.1
    
    
    $
    1,957.6
    
    
    $
    2,011.2
    
    
    $
    1,417.4
    
    
    $
    3,643.8
    
    
    $
    2,500.4Property, plant and equipment (net)
    
    
    14,713.7
    
    
    
    14,169.0
    
    
    
    14,195.6
    
    
    
    13,103.4
    
    
    
    11,482.1
    
    
    
    9,676.7Total assets
    
    
    42,572.8
    
    
    
    40,587.5
    (4)
    
    
    47,561.2
    
    
    
    44,021.2
    
    
    
    40,154.9
    
    
    
    35,933.7Long-term debt
    
    
    4,691.5
    
    
    
    5,096.0
    
    
    
    4,879.0
    
    
    
    4,798.6
    
    
    
    3,600.7
    
    
    
    3,143.9Stockholders equity
    
    
    17,288.2
    
    
    
    15,576.4
    (4)
    
    
    18,200.5
    
    
    
    16,050.1
    
    
    
    14,832.4
    
    
    
    13,241.6Financial Ratios:Income from continuing operations as a % of sales
    
    
    25.3
    %
    
    
    29.3
    %
    
    
    31.7
    %
    
    
    33.3
    %
    
    
    33.0
    %
    
    
    33.5
    %Net income as a % of average total assets
    
    
    14.0
    %
    
    
    14.9
    %
    
    
    15.5
    %
    
    
    17.3
    %
    
    
    17.9
    %
    
    
    17.4
    %Year-End Statistics:Average common shares outstanding (millions)
    
    
    2,219.0
    
    
    
    2,236.7
    
    
    
    2,257.5
    
    
    
    2,288.3
    
    
    
    2,306.9
    
    
    
    2,349.0Average common shares outstanding assuming dilution (millions)
    
    
    2,226.4
    
    
    
    2,253.1
    
    
    
    2,277.0
    
    
    
    2,322.3
    
    
    
    2,353.2
    
    
    
    2,404.6Number of stockholders of record
    
    
    216,100
    
    
    
    233,000
    
    
    
    246,300
    
    
    
    256,200
    
    
    
    265,700
    
    
    
    280,500Number of employees
    
    
    62,600
    
    
    
    63,200
    (4)
    
    
    77,300
    
    
    
    78,100
    
    
    
    69,300
    
    
    
    62,300
 (1)
Amounts for 2004 include the impact of the withdrawal of Vioxx.
 (2)
Amounts for 2003 include the impact of the implementation of a new distribution
program for U.S. wholesalers and restructuring costs related to position eliminations.
 (3)
Amount does not add as a result of rounding.
 (4)
Decrease in 2003 primarily reflects the impact of the spin-off of Medco Health.
  
 Merck & Co., Inc. Annual Report 2004
    
    61