Henry Schein, Inc. — Q2 2015 Form 10-Q
Reporting period: Quarter ended June 27, 2015; year-to-date figures cover the six months ended June 27, 2015. Unless otherwise noted, amounts are in U.S. dollars.
Business context and reporting period
Henry Schein distributes health care products and provides technology and value-added services, primarily to dental, animal health and medical practitioners. It operates in two reportable segments: health care distribution and technology and value-added services. The company reported operations or affiliates in 30 countries.
Key financial metrics
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Net sales | $2,629.3 million | $2,615.4 million | $5,093.0 million | $5,045.6 million |
| Gross profit | $750.7 million | $728.5 million | $1,464.1 million | $1,425.2 million |
| Operating income | $183.0 million | $180.8 million | $344.4 million | $338.1 million |
| Net income attributable to Henry Schein | $117.9 million | $116.2 million | $221.4 million | $218.3 million |
| Diluted EPS | $1.40 | $1.35 | $2.62 | $2.53 |
- Q2 gross margin was 28.6%, up from 27.9%; first-half gross margin was 28.7%, up from 28.2%. Q2 SG&A was 21.3% of sales versus 20.9%; first-half SG&A was 21.7% versus 21.5%.
- Q2 sales increased 0.5% as reported; management cited 7.5% local-currency growth, partly offset by a 7.0% foreign-exchange effect. First-half sales rose 0.9% as reported, reflecting 7.5% local-currency growth and a 6.6% foreign-exchange headwind.
- Q2 sales by segment: health care distribution $2,539.8 million, up 0.5%; technology and value-added services $89.5 million, up 0.4%. Medical distribution grew 16.7%, while dental sales declined 3.5% and animal health declined 0.8%, as reported.
- First-half operating cash flow was $181.1 million, versus $144.0 million. Capital expenditures were $33.4 million, implying operating cash flow less capital expenditures of approximately $147.7 million.
- Cash was $47.1 million at June 27, 2015, versus $89.5 million at December 27, 2014. Working capital was $1,268.6 million, up from $1,133.1 million.
- Total debt was $735.7 million, compared with $731.5 million at year-end, including $132.4 million of short-term bank credit lines and $588.5 million of long-term debt. No borrowings were outstanding under the $500 million revolving credit facility, which had a $200 million expansion feature.
- First-half cash flows: investing activities used $97.9 million (versus $267.3 million); financing activities used $116.7 million (versus $21.3 million provided). Cash declined by $42.4 million during the period.
Material changes versus comparable periods
- Q2 sales growth was modest as reported despite positive local-currency growth, primarily because of currency translation. First-half results showed the same pattern.
- Gross margin improved in both segments. Management attributed distribution margin gains mainly to dental and animal health, including product-mix effects; technology margin also increased.
- Net income attributable to Henry Schein increased 1.5% in Q2 and 1.4% for the first half; diluted EPS increased 3.7% and 3.6%, respectively. Share repurchases reduced weighted-average shares outstanding.
- First-half interest expense increased $1.6 million, primarily due to higher borrowings. Other income/expense also deteriorated year over year, in part because the prior-year period included a contractual animal-health supplier payment.
- Foreign-currency translation reduced first-half comprehensive income: the company reported a $74.1 million translation loss, compared with a $14.6 million gain in the prior-year period.
Outlook, management commentary, risks and unusual items
- No specific earnings or revenue guidance was provided in the supplied filing text. Management said cash, access to debt and equity markets, and available credit facilities were expected to meet foreseeable short- and long-term capital needs; it also anticipated increases in working-capital requirements.
- The 2015 restructuring program is intended to reduce costs and fund growth initiatives. It may eliminate approximately 2%–3% of the workforce and close facilities. Expected total pre-tax costs were $35–$40 million, or approximately $0.29–$0.33 per diluted share; $14.1 million was recorded in the first half. As of July 28, management estimated $23–$28 million of remaining costs.
- Acquisitions and expansion: the company made a 50% investment in Romanian animal-health distributor Maravet during Q2. It had agreed to acquire an 85% interest in KRUUSE, with closing expected in Q3 2015. Other first-half acquisitions were immaterial individually and in aggregate.
- Risk factors include foreign-exchange movements, competitive and supplier pressures, changing health-care regulations, acquisition integration, information-system disruption, privacy and data-security obligations, and regulatory compliance. The filing also discusses evolving drug-traceability and electronic-health-record requirements.
- The company was disputing IRS adjustments for tax years 2009–2011; it reported that it did not expect the matter to significantly affect its financial position, liquidity or results. Unrecognized tax benefits were approximately $87.4 million, of which $64.2 million would affect the effective tax rate if recognized.
- Management said pending legal matters and accrued probable losses were not expected to have a material adverse effect. It reported no material change in market-risk exposure. Disclosure controls were deemed effective, while acquisitions, integrations and systems implementations were identified as a material change in internal control over financial reporting.
Most important facts for investors to verify
- Whether local-currency sales and segment growth continue to offset foreign-exchange pressure, particularly in dental and animal health.
- Whether improved gross margins persist and SG&A growth is controlled as restructuring actions proceed.
- Execution and total cost of the restructuring program relative to management’s stated range and remaining-cost estimate.
- Debt, cash conversion and working-capital trends, including the increased use of receivables securitization borrowings.
- Acquisition closing, integration and performance, including the announced KRUUSE transaction and Maravet investment.
- Developments in the IRS tax dispute, redeemable noncontrolling-interest obligations, and health-care regulatory and data-security requirements.