Business Context and Reporting Period
Company: Cardinal Health, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: December 31, 2008 (Six months ended December 31, 2008)
Business Overview: Cardinal Health is a leading provider of healthcare products and services, including pharmaceutical and medical supply distribution, clinical technologies, and pharmacy services. Effective July 1, 2008, the company reorganized into three reportable segments: Healthcare Supply Chain Services, Clinical and Medical Products, and All Other.
Key Financial Metrics
| Metric (in millions) | Three Months Ended Dec 31, 2008 | Six Months Ended Dec 31, 2008 |
|---|---|---|
| Revenue | $25,099.5 | $49,446.7 |
| Gross Margin | $1,416.4 | $2,780.9 |
| Operating Earnings | $537.9 | $964.2 |
| Net Earnings | $316.5 | $565.6 |
| Diluted EPS | $0.88 | $1.57 |
| Cash and Equivalents (Balance Sheet) | $772.6 (as of Dec 31, 2008) | |
| Net Cash Used in Operating Activities | $(81.3) (Six months) | |
| Long-Term Obligations | $3,389.2 (excluding current portion) |
Material Changes vs. Prior Period
- Revenue Growth: Revenue increased 8% ($1.8 billion) for the three months and 9% ($4.2 billion) for the six months ended December 31, 2008, compared to the prior year. Growth was driven by pharmaceutical price appreciation (8.4% index), increased volume, and acquisitions, partially offset by customer losses.
- Profitability: Operating earnings increased 4% for the quarter but decreased 4% for the six-month period. Net earnings declined 3% for the quarter and 10% for the six months.
- Working Capital Impact: Net cash used in operating activities was $81.3 million for the six months, a significant shift from the $382.6 million provided in the prior year. This was primarily due to a $1.7 billion increase in inventories and a $153.5 million increase in trade receivables, offset by a $1.3 billion increase in accounts payable.
- Special Items: Total special items (restructuring, acquisition integration, litigation) were $19.7 million for the quarter and $72.1 million for the six months, compared to $29.5 million and $52.0 million in the prior year periods. Restructuring charges increased significantly due to the Planned Spin-Off and segment reorganization.
Guidance, Outlook, and Risks
- Planned Spin-Off: On September 29, 2008, the company announced a plan to spin off most of its Clinical and Medical Products businesses. Completion is anticipated by mid-2009, subject to regulatory and tax approvals. Estimated costs for the spin-off range from $200 million to $230 million.
- Leadership Transition: R. Kerry Clark is expected to retire as Chairman and CEO following the spin-off, with George S. Barrett expected to succeed him. David L. Schlotterbeck is expected to lead the spin-off entity.
- Regulatory and Legal Risks:
- IRS Audits: The IRS has proposed additional taxes totaling $598.1 million (excluding penalties/interest) related to fiscal years 2001-2005, challenging deductions from trade receivable sales and transfer pricing. The company intends to contest these vigorously.
- DEA Settlement: The company settled with the DEA and U.S. Attorneys regarding license suspensions for controlled substance diversion, paying $34.0 million. Licenses were reinstated in October 2008.
- Market Risks: Disruptions in financial markets may affect credit availability. Moody's and Fitch have placed the company's credit ratings on review/watch negative due to the planned spin-off. The company expects continued competitive pricing pressures.
Investor Verification Checklist
- Spin-Off Execution: Verify the timeline and regulatory approval status of the Planned Spin-Off of Clinical and Medical Products businesses.
- IRS Dispute Resolution: Monitor the outcome of the ongoing IRS audits regarding the $598.1 million proposed tax adjustment and the trade receivable financing entity.
- Working Capital Trends: Assess the sustainability of the $1.7 billion inventory build-up and its impact on future cash flows.
- Customer Concentration: Review the impact of customer losses (notably due to DEA actions) on the Healthcare Supply Chain Services segment's revenue mix.
- Debt Covenants: Confirm that the company will modify its minimum net worth covenant ($5.0 billion) prior to the spin-off to avoid technical default.