Quest Diagnostics Incorporated (DGX) — Form 10-K Summary
Business context and reporting period
Annual report for the fiscal year ended December 31, 2014, filed February 24, 2015. Quest provides diagnostic testing and related information services; its Diagnostic Information Services (DIS) business generated 92.4% of 2014 revenue. The company processed approximately 156 million test requisitions.
Financial performance and key metrics
| Metric | FY 2014 | FY 2013 |
|---|---|---|
| Revenue | $7.435 billion | $7.146 billion |
| Operating income | $983 million | $1.475 billion |
| Income from continuing operations attributable to Quest | $551 million | $814 million |
| Diluted EPS from continuing operations | $3.78 | $5.31 |
| Operating cash flow | $938 million | $652 million |
| Capital expenditures | $308 million | $231 million |
| Cash and cash equivalents at year-end | $192 million | $187 million |
| Total debt at year-end | $3.762 billion | $3.332 billion |
2014 operating margin was 13.2%, compared with 20.6% in 2013; the prior-year figure included a $474 million pretax gain from selling ibrutinib royalty rights. Revenue grew 4.0%; DIS revenue rose 4.3%, while Diagnostic Solutions revenue increased 0.5%. DIS volume increased 6.3%, but organic volume declined approximately 1% and revenue per requisition fell 1.8%. Bad debt expense was 4.0% of revenue, up from 3.8%.
Fourth-quarter 2014 revenue was $1.883 billion versus $1.756 billion in fourth-quarter 2013. Fourth-quarter income from continuing operations was $195 million versus $151 million; diluted EPS from continuing operations was $1.26 versus $0.97. Quarterly operating cash flow is not stated in the supplied filing text.
Current liabilities were $1.709 billion and current assets $1.603 billion at year-end. The company reported $1.3 billion of available capacity under its revolving and receivables credit facilities, with no year-end borrowings under either facility. Debt covenants were met. The filing does not provide a current ratio as a reported metric.
Changes versus the prior comparable period
- Revenue returned to growth after declining 3.2% in 2013; acquisitions were the principal contributor. Solstas, Summit Health and Steward contributed approximately 7% of DIS volume, while acquisition mix reduced revenue per requisition by about 1%.
- Operating income declined 33.3% and diluted continuing-operations EPS declined 28.8%, largely reflecting the absence of the 2013 royalty-sale gain. 2014 also included $121 million in restructuring, integration and related charges, partly offset by a $44 million discrete tax benefit.
- Operating cash flow increased from $652 million to $938 million, primarily because 2013 included significant tax payments related to the royalty sale and deferred taxes.
- Acquisition spending increased: net cash used for business acquisitions was $728 million in 2014, compared with $213 million in 2013. Total debt rose by $430 million year over year.
Outlook, management commentary, risks and unusual items
- Management expected an improving business environment in 2015 and reimbursement pressure to be moderate through 2017; it expected 2015 pressure to be consistent with 2014. These are management expectations, not quantified earnings guidance.
- Quest targeted an additional $600 million in annualized run-rate savings by the end of 2017, on top of more than $700 million achieved versus 2011 by year-end 2014. It estimated approximately $300 million in pretax charges for the next phase; $95 million to $115 million was estimated for 2015, principally cash expenditures.
- Management expected approximately $300 million of 2015 capital expenditures and intended to refinance $500 million of debt maturing in 2015. It stated existing cash, operating cash flow and borrowing capacity should fund operating needs, debt service, dividends, repurchases and growth opportunities.
- In January 2015, the quarterly dividend was raised 15%, from $0.33 to $0.38 per share, beginning with the April payment. Quest also stated an expectation of 1%–2% annual revenue growth from strategically aligned acquisitions.
- Key risks include reimbursement reductions and payer bargaining power, changes to Medicare laboratory fee schedules under the 2014 Protecting Access to Medicare Act, potential increased FDA oversight of laboratory-developed tests, patient collection and bad-debt pressure, competition and test internalization, acquisition integration, IT conversion and cybersecurity, and regulatory or billing investigations.
- Legal matters included government inquiries and litigation concerning billing and pricing practices. Management said losses were not considered probable for the described matters at year-end, but potential losses could not be estimated. General and professional liability reserves were approximately $113 million.
- Other notable items: the 2013 comparison included the $474 million royalty-sale gain and a $40 million Enterix sale loss; 2014 included a $9 million gain from reducing Summit Health contingent consideration. Goodwill was not impaired in 2014.
Important facts for investors to verify
- Separate underlying operating trends from acquisitions and the prior-year royalty-sale gain; confirm organic volume and revenue-per-requisition performance.
- Track whether the announced savings are achieved and compare realized savings with restructuring charges, cash costs and service quality.
- Review Medicare fee-schedule changes, payer contracts and patient bad-debt trends for effects on revenue and margins.
- Assess debt refinancing, leverage, interest costs and liquidity alongside acquisition and shareholder-return plans.
- Follow the status and potential financial exposure of billing-related investigations and litigation; the filing says exposure for certain matters could not be estimated.