Business Context and Reporting Period
Company: Fresenius Medical Care AG & Co. KGaA
Filing Type: Form 6-K (Interim Report)
Reporting Period: Three and six months ended June 30, 2014
Business Overview: The Company is the world's largest kidney dialysis company, operating in dialysis care and dialysis products for end-stage renal disease (ESRD). Operations are segmented into North America and International (EMEALA and Asia-Pacific). The business is heavily influenced by U.S. government reimbursement policies, specifically the ESRD Prospective Payment System (ESRD PPS), Sequestration cuts, and the Protecting Access to Medicare Act (PAMA).
Key Financial Metrics (Six Months Ended June 30, 2014)
| Metric | 2014 (in millions) | 2013 (in millions) | Change |
|---|---|---|---|
| Total Net Revenue | $7,398 | $7,076 | +5% |
| Operating Income | $1,001 | $1,038 | -4% |
| Operating Margin | 13.5% | 14.7% | -120 bps |
| Net Income (Shareholders) | $439 | $488 | -10% |
| Basic EPS | $1.46 | $1.59 | -9% |
| EBITDA | $1,337 | $1,353 | -1% |
| Free Cash Flow | $147 | $522 | -72% |
| Cash and Equivalents | $645 | $683 (Dec 31, 2013) | - |
| Total Debt | $9.12 billion | $8.77 billion (Dec 31, 2013) | - |
Note: Debt figures represent total long-term debt and capital lease obligations plus current maturities and short-term borrowings.
Material Changes vs. Prior Period
- Revenue Growth: Consolidated revenue increased 5% (6% at constant currency) driven by same-market treatment growth (4%), acquisitions (2%), and organic revenue per treatment increases. International segment revenue grew 3% (5% at constant currency), while North America grew 5%.
- Margin Compression: Operating income margin declined to 13.5% from 14.7%. Gross profit margin decreased to 31.0% from 32.0%.
- Profitability Decline: Net income attributable to shareholders dropped 10% to $439 million. This was primarily due to higher SG&A expenses, a decrease in gross profit margin, and a one-time $18 million tax expense related to a reversed tax position following a court decision.
- Cash Flow Impact: Free cash flow decreased significantly to $147 million from $522 million. This was driven by a payment for the W.R. Grace bankruptcy settlement, increased inventory levels, and higher tax payments.
- Reimbursement Headwinds: The U.S. Sequestration resulted in an aggregate reduction of $74 million to operating income over the last twelve months. The ATRA reduction to the ESRD PPS rate also negatively impacted margins.
Guidance, Outlook, and Risks
2014 Full Year Outlook
- Revenue: ~$15.2 billion (excludes ~$500 million from acquisitions).
- Operating Income: ~$2.2 billion (Margin ~14.5%).
- Net Income: $1.0 - $1.05 billion (Decrease of 5-10% vs. prior year).
- Free Cash Flow: >4% of revenue.
- Debt/EBITDA Ratio: ~3.0.
Management Commentary & Risks
- Regulatory Environment: The Company faces ongoing pressure from U.S. Medicare reimbursement changes (ESRD PPS, Sequestration, PAMA). PAMA legislation modified ATRA, stabilizing 2015 rates but mandating future reductions.
- Legal & Compliance: The Company is conducting an internal investigation into potential violations of the U.S. Foreign Corrupt Practices Act (FCPA) in its International segment. It has voluntarily advised the SEC and DOJ. An accrual has been recorded, but the range of possible loss cannot be reasonably estimated.
- Litigation: Ongoing multidistrict litigation regarding Granuflo/Naturalyte dialysate products and patent disputes with Baxter International (recently dismissed by the Supreme Court).
- Subsequent Event: In July 2014, the Company invested approximately $550 million net in Sound Inpatient Physicians, Inc., a physician services organization, financed by a new $600 million term loan tranche.
Investor Verification Checklist
- Reimbursement Policy Impact: Verify the specific financial impact of the PAMA legislation and future ESRD PPS rate updates on the North America segment margins.
- FCPA Investigation Status: Monitor updates regarding the internal investigation into the International segment and potential fines or sanctions from the SEC/DOJ.
- Free Cash Flow Recovery: Assess whether the significant drop in free cash flow (due to the W.R. Grace settlement and inventory build) is a one-time anomaly or indicative of working capital trends.
- Acquisition Integration: Evaluate the performance of recent acquisitions, particularly the $550 million Sound Inpatient Physicians investment, and their contribution to the "Care Coordination" strategy.
- Tax Position: Confirm the finality of the $18 million tax expense reversal and the status of other ongoing tax audits in the U.S. and Germany.