Henry Schein, Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 26, 2020; comparisons are with periods ended September 28, 2019. Amounts below are in U.S. dollars. The company distributes dental and medical products and provides healthcare technology and value-added services. Animal Health is reported as a discontinued operation.
Key financial results
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Net sales | $2,840.1 million | $2,508.8 million | $6,953.4 million | $7,316.9 million |
| Gross profit | $754.3 million | $761.2 million | $1,954.6 million | $2,280.3 million |
| Gross margin | 26.6% | 30.3% | 28.1% | 31.2% |
| Operating income | $187.7 million | $187.2 million | $354.1 million | $521.9 million |
| Net income attributable to Henry Schein | $141.7 million | $140.6 million | $261.2 million | $364.9 million |
| Diluted EPS attributable to Henry Schein | $0.99 | $0.95 | $1.82 | $2.43 |
- Q3 recovery, with lower margins: Sales rose 13.2% year over year, but gross margin fell to 26.6%. Management said almost all sales growth was driven by PPE and other COVID-19-related products. PPE sales and volatile pricing and demand led to inventory adjustments that weighed on distribution margins.
- Year-to-date results remained weaker: Sales declined 5.0%, largely reflecting pandemic-related disruption to dental demand earlier in the year. Dental sales fell 13.4%; medical sales rose 11.9%, supported by pandemic-related products. Operating income fell 32.2% and diluted EPS fell from $2.43 to $1.82.
- Cash flow: Nine-month operating cash flow from continuing operations was $248.4 million, down from $525.2 million. Higher receivables and inventories, including PPE stocking, and lower income and affiliate distributions contributed to the decline. Investing activities used $94.0 million, versus $691.3 million in the prior-year period; financing activities provided $264.4 million.
- Liquidity and debt at September 26: Cash was $533.5 million, working capital was $1,265.4 million, and total debt was $1,132.7 million, compared with $106.1 million, $1,188.1 million and $756.7 million, respectively, at December 28, 2019. The debt increase included $500 million drawn under a 364-day facility maturing April 16, 2021. The company reported $200 million of remaining capacity on that facility, subject to its terms. The $750 million revolving facility had no borrowings.
- Margins and expenses: Q3 operating income was nearly flat despite sales growth. SG&A as a share of sales declined to 20.0% from 22.9%, reflecting temporary cost reductions and higher sales; management expected savings to diminish after most temporary measures ended in Q3. Nine-month SG&A decreased 9.0%.
Material changes, outlook and risks
- Management described a sharp second-quarter deterioration followed by recovery as practices reopened in the latter half of Q2 and during Q3. Patient volumes remained below pre-pandemic levels, and renewed outbreaks could again materially harm sales, cash flows, financial condition and liquidity. The impact could not be reasonably estimated.
- The company reported a 20.0% effective tax rate for the first nine months, versus 23.9% a year earlier. A Q3 U.S. federal tax settlement reduced tax expense by approximately $15.6 million; the Q3 effective rate was 16.4%.
- Restructuring costs were $27.7 million for the first nine months, versus $15.8 million. Management was reassessing the expected completion timeline for a restructuring initiative in light of COVID-19.
- The company retained approximately $10 million of incremental dental receivables reserves. It recorded approximately $6.1 million of impairment charges in Q1, and a $6.6 million year-to-date stock-compensation credit reflected an estimate that performance shares would not vest.
- No quantified earnings or sales guidance is provided in the supplied filing text. Management said it believes cash, access to debt and equity markets, and available credit facilities are sufficient for foreseeable needs. Acquisitions resumed in Q3 after being temporarily curtailed; share repurchases remained suspended.
- Legal matters: A securities class action related to prior disclosures was settled for $35 million, covered by insurance and stated to have no earnings impact; the settlement became final. Other litigation includes the Archer antitrust case, pending opioid-related claims, and a Covetrus-related securities action. Management said accrued probable losses were not material, but outcomes remain uncertain.
- Other risks include PPE supply and pricing volatility, customer payment delays or defaults, lower vendor rebates, supply-chain disruption, leverage covenants and refinancing needs, foreign exchange exposure, competition, cybersecurity and regulatory risks. The filing says disclosure controls were effective; it also reports material changes in internal-control operating methods related to acquisitions, system implementations and remote work, while management did not believe these changes had materially affected control effectiveness.
Important facts for investors to verify
- Whether sales growth and margins persist as PPE demand, pricing and inventory adjustments normalize, and dental patient volumes recover.
- Receivables quality and collection trends: days sales outstanding rose to 48.8 from 45.3 a year earlier; inventory turns declined to 4.7 from 4.9.
- Refinancing or repayment plans for the $500 million 364-day borrowing due April 2021, and compliance with amended leverage covenants.
- Whether operating cash flow improves as working-capital requirements evolve and temporary cost savings fade.
- Developments in the disclosed litigation and tax matters, including potential exposure not covered by current accruals or insurance.