Cardinal Health, Inc. — Form 10-Q Summary
Reporting period: First quarter of fiscal 2014, the three months ended September 30, 2013; compared with the three months ended September 30, 2012. Financial statements are unaudited.
Financial performance
| Metric | Q1 FY2014 | Q1 FY2013 | Change |
|---|---|---|---|
| Revenue | $24.523 billion | $25.889 billion | Down 5% |
| Gross margin | $1.264 billion | $1.159 billion | Up 9% |
| Operating earnings | $471 million | $457 million | Up 3% |
| Earnings from continuing operations | $340 million | $272 million | Up 25% |
| Net earnings | $339 million | $271 million | Up 25% |
| Diluted EPS | $0.99 | $0.79 | Up $0.20 |
| Operating cash flow | $951 million | $568 million | Up $383 million |
Gross margin growth reflected strong generic pharmaceutical programs and acquisitions, partly offset by customer and product pricing changes. The effective tax rate was 23.2%, versus 38.1%; a $63 million favorable settlement of federal and state tax controversies was a principal contributor to the quarter’s earnings increase. Interest expense rose to $33 million from $26 million, primarily due to notes issued to fund the AssuraMed acquisition.
Segments and material year-over-year changes
- Pharmaceutical: Revenue was $21.813 billion, down 7%; segment profit was $433 million, up 8%. Revenue was affected by the expiration of the Walgreens and Express Scripts distribution contracts, partly offset by new and existing customer volume and Specialty Solutions growth. Management said the expirations did not significantly affect segment profit in the quarter.
- Medical: Revenue was $2.711 billion, up 13%; segment profit was $106 million, up 43%, primarily reflecting acquisitions, including AssuraMed, and higher existing-customer volume.
- Consolidated revenue declined mainly because of the contract expirations: management attributed $2.0 billion of lower Pharmaceutical revenue to Express Scripts and $1.7 billion to Walgreens, partly offset by $1.7 billion of increased distribution volume.
- Operating earnings included $49 million of amortization and other acquisition-related costs, versus $28 million, and $11 million of restructuring and severance costs, versus $5 million. The prior-year quarter included a $22 million litigation recovery.
Cash flow, debt and liquidity
- Cash and equivalents were $2.753 billion at September 30, 2013, up from $1.901 billion at June 30, 2013. Operating cash flow was driven primarily by lower receivables and inventory following the Walgreens contract expiration, partly offset by lower accounts payable; this working-capital benefit should not be assumed to recur at the same level.
- Capital expenditures were $26 million. Financing cash flows included $105 million of dividends, $50 million of share repurchases and $102 million of proceeds from common-share issuance.
- Long-term obligations and other short-term borrowings totaled $3.883 billion at quarter-end, including $190 million current and $3.693 billion long-term. The company reported no borrowings under its commercial paper, receivables sales or revolving credit facilities, apart from $42 million of standby letters of credit under the revolver.
- Available facilities included a $1.5 billion revolving credit facility, a commercial paper program of up to $1.5 billion backed by that facility, and a receivables sales facility reduced from $950 million to $700 million after quarter-end. The company was compliant with its financial covenants and said available capital and projected operating cash flow were adequate for anticipated needs.
- Cash included $475 million held outside the United States; repatriation could trigger tax obligations. The board approved a new $1.0 billion share repurchase authorization after quarter-end; $350 million remained under the prior authorization at quarter-end.
Outlook, risks and unusual items
- Management expected the Walgreens contract expiration to adversely affect year-over-year revenue and results comparisons through the remainder of fiscal 2014 and the first quarter of fiscal 2015.
- Management expected the fiscal 2014 effective tax rate to fluctuate significantly by quarter and to be higher for the full year than the quarter’s 23.2% rate.
- The Medical segment restructuring plan was estimated at approximately $79 million pre-tax in total; $51 million had been recognized in fiscal 2013 and $6 million in this quarter. Approximately $22 million remained for recognition through fiscal 2014, including an expected $14 million loss on disposal of Waukegan property.
- Legal and regulatory exposures include the DEA suspension of the Lakeland, Florida controlled-substances registration through May 2014, a West Virginia lawsuit concerning controlled-substance distribution, and a DOJ/DEA matter that could involve civil fines. The DOJ informed the company in October 2013 that it was closing its investigation into customer discount structures. The company could not estimate a reasonably possible loss range for certain early-stage matters; outcomes could materially affect results in a particular period.
- The company reported no significant off-balance-sheet arrangements or material changes in contractual obligations since fiscal year-end. Disclosure controls were assessed as effective, with no material change in internal control reported for the quarter.
Important facts for investors to verify
- Whether the strong operating cash flow reflects sustainable operations or chiefly the temporary working-capital unwind tied to Walgreens’ contract expiration.
- How contract losses and replacement customer volume affect revenue, segment profit and comparisons in coming quarters.
- The full-year tax rate and the extent to which first-quarter earnings benefited from the $63 million tax controversy settlement.
- AssuraMed’s ongoing contribution to Medical results relative to acquisition-related costs, amortization and debt service.
- Developments in the DEA, West Virginia and other legal or regulatory matters, including potential financial exposure and the Lakeland registration suspension.
- Execution and remaining costs of the Medical restructuring, including the Waukegan property disposal estimate.