Boston Scientific Corporation — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018. Amounts are in U.S. dollars; financial statement amounts are in millions unless stated otherwise. Boston Scientific develops and sells medical devices across cardiovascular, digestive, respiratory, urological, pelvic health and neurological markets.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $2,490 | $2,257 | $4,870 | $4,418 |
| GAAP gross profit | $1,751 | $1,625 | $3,458 | $3,136 |
| GAAP gross margin | 70.3% | 72.0% | 71.0% | 71.0% |
| GAAP operating income | $392 | $225 | $799 | $589 |
| GAAP net income | $555 | $146 | $853 | $436 |
| Diluted GAAP EPS | $0.40 | $0.11 | $0.61 | $0.31 |
| Cash from operating activities | Not separately stated for Q2 | $(210) | $290 |
- Reported sales grew 10.3% in Q2 and 10.2% in the first half. On a constant-currency operational basis, growth was 8.6% and 7.4%, respectively; currency contributed 170 and 280 basis points to reported growth.
- Management’s non-GAAP adjusted net income was $568 million, or $0.41 per diluted share, in Q2 versus $444 million, or $0.32, a year earlier. First-half adjusted net income was $1.023 billion, or $0.73 per diluted share, versus $841 million, or $0.60.
- Q2 gross margin declined 1.7 percentage points year over year, chiefly from foreign-currency effects, partly offset by manufacturing cost reductions. First-half gross margin was unchanged. SG&A declined as a share of sales; R&D spending rose in dollars and remained about 11% of sales.
- First-half operating cash flow turned negative, primarily because of the IRS tax settlement. Investing cash outflow was $664 million, including $418 million for acquisitions and $112 million for strategic investments and technology acquisitions. Financing provided $856 million.
Balance sheet and liquidity
- At June 30, cash and cash equivalents were $208 million; this excludes $787 million of restricted cash and restricted cash equivalents. Total cash, cash equivalents and restricted cash was $994 million.
- Total debt was $6.493 billion, up from $5.616 billion at December 31, 2017. Debt included $1.685 billion of commercial paper and $4.808 billion of long-term debt. The company issued $1.0 billion of 4.0% notes due 2028 and used proceeds in part to repay $600 million of notes due in 2018 and reduce commercial paper.
- Working capital was negative $825 million. The company reported $565 million of remaining commercial-paper capacity under its $2.25 billion program and $400 million available under its receivables-backed facility. No amounts were drawn on either revolving/receivables facility at quarter-end.
- The leverage covenant maximum was 3.5x; the reported ratio was 2.4x. The company stated it was in compliance with debt covenants and expected available cash, operating cash generation, capital-market access and credit facilities to fund needs for the next 12 months.
Material changes and business developments
- Q2 revenue growth was broad-based: operational sales rose 9.0% in MedSurg, 9.0% in Rhythm and Neuro, and 8.0% in Cardiovascular. Neuromodulation grew 30.6% operationally; Cardiac Rhythm Management grew 1.2%.
- Emerging-market Q2 sales rose 21.1% operationally. The company reorganized reporting segments effective January 1, 2018, moving Neuromodulation from MedSurg into the new Rhythm and Neuro segment; prior segment comparisons were recast.
- Acquisitions completed in the first half included NxThera and nVision. The company also invested $90 million in Millipede. After quarter-end, it closed the Cryterion acquisition for $202 million and announced an agreement to acquire Claret Medical for $220 million upfront plus potential milestones.
- Adoption of the new revenue standard reduced opening retained earnings by $177 million, primarily for estimated post-implant support costs. The standard also resulted in accrued support liabilities. Other reported adoption impacts were not material.
Outlook, unusual items and risks
- No specific company sales or earnings guidance is provided in the supplied filing text. Management expects the 2016 restructuring plan to produce $165–$175 million of annual gross expense reductions by the end of 2020, with a substantial portion reinvested in growth initiatives. Estimated total plan charges are $275–$325 million; completion is expected by the end of 2018.
- Q2 GAAP net income included a net tax benefit from resolution of IRS disputes; the company reported a $250 million net tax benefit related to the settlements. It paid the IRS $303 million in tax plus $307 million of estimated interest. The settlement and other discrete tax items materially affect comparisons of reported earnings and cash flow.
- The first-half effective tax rate was negative 27.3%, versus negative 10.1% in 2017, reflecting unusual tax items, including the IRS settlement and Tax Cuts and Jobs Act estimates. Management said it expected to resolve the 2011–2013 IRS examination before year-end 2018 and believed reserves were sufficient.
- Legal reserves were $1.264 billion at June 30. Approximately 49,500 transvaginal mesh cases or claims had been asserted; settlement agreements in principle or final-stage agreements covered approximately 48,000, of which approximately 27,000 were final. Further losses could be accrued, and the outcome could materially affect results, cash flows or liquidity.
- Other principal risks include product liability and patent litigation, regulatory and governmental investigations, product quality and approval requirements, reimbursement and pricing pressure, foreign-exchange exposure, acquisition integration and contingent payments, and the ability to maintain cash generation and covenant compliance. Maximum potential future contingent consideration was approximately $1.532 billion, undiscounted.
Important facts for investors to verify
- Separate underlying operating growth from currency effects and acquisition contributions; assess whether strong segment growth is sustained.
- Reconcile reported earnings to adjusted earnings, especially the IRS settlement, tax benefits, amortization, impairment, acquisition and restructuring adjustments.
- Track operating cash conversion after the settlement-related outflow, the working-capital deficit, commercial-paper refinancing needs and debt levels.
- Monitor mesh litigation settlements, legal reserves and potential additional claims, together with remaining tax examinations.
- Evaluate acquisition integration, milestone obligations and the execution and realized savings of the restructuring plan.