DENTSPLY SIRONA Inc. — Form 10-Q Summary
Reporting period: Three and six months ended June 30, 2022. The filing was submitted on November 7, 2022 after delayed reporting caused by an Audit and Finance Committee investigation into financial reporting matters. The investigation was completed on October 29, 2022.
Business context
DENTSPLY SIRONA develops, manufactures, and sells professional dental technology, equipment, dental consumables, and certain healthcare products. Operations are reported through two segments: Technologies & Equipment and Consumables.
Financial performance and liquidity
| Metric | Q2 2022 | Q2 2021 | Six months 2022 | Six months 2021 |
|---|---|---|---|---|
| Net sales | $1,023 million | $1,062 million | $1,992 million | $2,088 million |
| Gross profit | $581 million | $595 million | $1,102 million | $1,174 million |
| Gross margin | 56.7% | 56.1% | 55.3% | 56.3% |
| Operating income | $119 million | $154 million | $216 million | $304 million |
| Net income | $73 million | $96 million | $142 million | $208 million |
| Diluted EPS | $0.34 | $0.43 | $0.66 | $0.94 |
| Cash flow from operations | Not separately provided | Not separately provided | $266 million | $263 million |
- Q2 net sales declined 3.7% reported but increased 2.3% on an organic basis. Six-month sales declined 4.6% reported and increased 0.8% organically.
- Q2 segment sales were $595 million for Technologies & Equipment and $428 million for Consumables. Six-month sales were $1,160 million and $832 million, respectively.
- Six-month segment adjusted operating income declined to $482 million from $560 million, with Technologies & Equipment down to $205 million and Consumables down to $277 million.
- Q2 SG&A increased 4.0% to $410 million, and R&D increased 6.2% to $45 million. Six-month SG&A was $786 million and R&D was $90 million.
- Cash and cash equivalents were $362 million at June 30, 2022, compared with $339 million at December 31, 2021. Six-month net cash increased by $23 million.
- Six-month investing cash outflows were $83 million, including $85 million of capital expenditures. Financing cash outflows were $162 million, including $150 million for an accelerated share repurchase and $51 million of dividends.
- Total debt was $2,027 million carrying value, including $220 million current debt and $1,807 million long-term debt. Net debt was $1,665 million, and net debt to total capitalization was 25.6%, compared with 26.0% at year-end 2021.
- The Company reported $535 million of remaining borrowing capacity under lines of credit and short-term arrangements. Commercial paper borrowings were $193 million, while the $700 million revolving credit facility had no outstanding borrowings.
- The Company was in compliance with debt covenants. Lenders and noteholders extended the deadline for delivery of the delayed interim financial statements to November 14, 2022, so the delayed filings did not trigger an event of default.
Material changes versus the prior comparable period
- Reported sales declined primarily because of foreign currency translation, lower volumes, COVID-19-related effects in China, and supply-chain constraints. Organic growth and pricing partly offset these factors.
- Six-month gross margin decreased 100 basis points because of higher raw-material, labor, distribution, and inflation-related costs, partially offset by pricing.
- Operating income declined 22.7% in Q2 and 28.9% for the six-month period. Management attributed the decline to lower volumes, increased costs, and special costs, including executive severance and legal expenses.
- China sales declined $38 million in the first six months, primarily because of COVID-19 restrictions, distribution constraints, and lower patient traffic.
- U.S. six-month organic sales declined 5.8%, including weaker CAD/CAM and Restorative & Endodontic Consumables performance. Elevated CAD/CAM dealer inventory was reduced during the period.
- Accumulated other comprehensive loss increased to $719 million from $592 million at year-end, largely reflecting foreign currency translation losses.
- The Company completed a $150 million accelerated share repurchase, receiving 3.1 million shares at an average price of $48.22 per share. Remaining repurchase authorization was $740 million at June 30, 2022.
Outlook, commentary, risks, and unusual items
- Management expects 2022 capital expenditures of approximately $160 million to $180 million and expects to maintain annual R&D investment of at least 4% of net sales.
- Supply-chain risks include component shortages, longer lead times, higher raw-material and shipping costs, labor shortages, and elevated backlog, particularly for imaging equipment.
- The Russia-Ukraine conflict affected a business representing approximately 3% of consolidated net sales and less than 2% of consolidated net assets. The Company reported no material impairment, inventory reserve, or doubtful-account allowance related to the conflict during the period, but warned that escalation could materially affect sales and supply costs.
- The Company expects approximately $20 million of additional investigation-related costs in the third quarter. Investigation, remediation, legal, and personnel-related costs are expected to remain material into the fourth quarter of 2022 and beyond into 2023.
- Subsequent to June 30, 2022, the Company expected to record a pre-tax, non-cash impairment charge of $1.0 billion to $1.3 billion in the third quarter for goodwill and intangible assets. The expected charge reflects higher discount rates, inflation, foreign currency effects, supply-chain costs, weaker demand, lower margins, and reduced cash-flow forecasts.
- The Audit and Finance Committee found no evidence of intentional wrongdoing or fraud in the North America investigation but identified Code of Ethics violations and an inadequate control environment involving former senior management. The China investigation identified intentional wrongdoing and misleading conduct by certain local and regional commercial personnel.
- Management identified material weaknesses in internal control over financial reporting relating to tone at the top, accounting personnel expertise, and controls over customer incentive arrangements, returns, and variable consideration. The weaknesses were not remediated as of the filing date, and disclosure controls were ineffective.
- The Company faces securities class actions alleging misleading disclosures concerning revenue recognition, distributor rebates, and incentive programs. No specific damages were alleged, and the Company stated that it could not estimate a potential loss.
- Pending tax matters include an IRS dispute involving a $546 million worthless-stock deduction and Swedish tax matters that could result in additional tax expense of up to approximately $7 million based on the matters described in the filing.
- Non-cancelable purchase commitments totaled $375 million, primarily for key components and raw materials.
Investor verification checklist
- Verify the final amount and accounting impact of the anticipated $1.0 billion–$1.3 billion third-quarter impairment charge.
- Monitor whether the material weaknesses are remediated and whether future filings receive effective control conclusions.
- Assess investigation-related, legal-defense, severance, and remediation costs beyond the amounts recognized or expected in 2022.
- Track China demand, COVID-19 restrictions, supply-chain backlogs, inflation, pricing, and foreign-exchange effects.
- Review the status and potential exposure of securities litigation, the IRS dispute, and Swedish tax proceedings.
- Reconcile reported results with the revised 2021 comparatives, which included corrections for customer incentives, sales returns, warranty reserves, variable consideration, and other immaterial items.