Business context and reporting period
Labcorp Holdings reported unaudited results for the quarter and six months ended June 30, 2018. Its two segments are LabCorp Diagnostics (LCD) and Covance Drug Development (CDD); LCD generated about 63% of second-quarter revenue and CDD about 37%. Comparisons with 2017 reflect retrospective adoption of ASC 606 and pension-accounting changes.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $2,866.3 million | $2,528.2 million | $5,714.6 million | $4,941.9 million |
| Operating income | $369.2 million | $329.8 million | $674.6 million | $647.9 million |
| Net earnings attributable to Labcorp | $233.8 million | $184.8 million | $407.0 million | $367.8 million |
| Diluted EPS | $2.27 | $1.78 | $3.94 | $3.54 |
- Q2 revenue rose 13.4%; operating income rose 11.9%; attributable earnings rose 26.5%. Six-month increases were 15.6%, 4.1%, and 10.7%, respectively.
- Q2 gross margin was approximately 29.1%, down from 30.8%; operating margin was approximately 12.9%, versus 13.0%. For the six months, gross margin was approximately 28.2% versus 30.2%, and operating margin approximately 11.8% versus 13.1%.
- Q2 LCD revenue increased 5.4% to $1,814.0 million; CDD revenue increased 30.5% to $1,054.2 million. Management attributed consolidated Q2 growth to acquisitions (10.5%), organic growth (2.1%), and foreign currency translation (about 0.8%).
- Q2 LCD operating income was $336.3 million, up 0.5%, while its margin fell to 18.5% from 19.4%, primarily due to PAMA reimbursement reductions. CDD operating income rose 132.4% to $68.8 million, and its margin improved to 6.5% from 3.7%.
- Six-month operating cash flow was $522.0 million, compared with $536.4 million. Capital expenditures were $159.7 million; operating cash flow less capital expenditures was approximately $362.3 million.
- Cash was $221.4 million at June 30, 2018, down from $316.6 million at year-end 2017. Total debt was approximately $6,457.2 million, down from $6,762.1 million. The company reported a 3.1-to-1 total-debt-to-pro forma trailing-12-month EBITDA ratio and compliance with its debt covenants.
- Current assets were $3,021.2 million and current liabilities $2,121.5 million. The $1.0 billion revolving facility had no borrowings outstanding; $72.2 million of letters of credit used facility capacity.
Changes, outlook, risks and unusual items
- Management forecast 2018 revenue growth of 10.5%–11.5% and an effective tax rate of approximately 25%. It expected capital expenditures of about 3.5% of revenue. The revenue outlook includes acquisition, organic-growth, and currency benefits, partly offset by the planned Food Solutions divestiture.
- Labcorp agreed to sell Covance Food Solutions for $670 million; closing was expected in Q3 2018. The business was classified as held for sale and generated $5.0 million of Q2 operating income. Chiltern acquisition accounting remained preliminary; the company expected to finalize purchase-price allocations in Q3.
- Six-month results included a $31.0 million one-time employee bonus related to the Tax Cuts and Jobs Act, $26.5 million of restructuring and special charges, and $37.6 million of integration and other costs. Higher acquisition-related amortization and interest expense also affected results. The lower U.S. federal tax rate benefited results, partly offset by other tax-law effects; the company recorded $16.0 million of additional provisional tax expense in the first half.
- ASC 606 changed revenue presentation and recognition, including reclassifying LCD bad-debt expense as a reduction of revenue and recording certain CDD investigator costs gross. Management said adoption increased revenue, lowered earnings, and did not affect cash flow; 2017 comparisons were restated.
- On July 16, 2018, after quarter-end, Labcorp disclosed ransomware affecting certain LCD systems. Testing and customer access were temporarily disrupted, but operations had returned to normal. The investigation found no evidence of theft or misuse of patient or client data; remediation costs, insurance disputes, claims, or regulatory action remained possible.
- The filing describes multiple pending legal and regulatory matters, including healthcare billing and False Claims Act allegations, employment claims, and class actions. Labcorp said it could not estimate reasonably probable losses for certain proceedings and did not believe currently available information indicated a material adverse effect on financial condition, while outcomes could affect a particular period.
- Key business risks include changes to reimbursement and coverage, including PAMA; competition and customer concentration or insourcing; acquisition integration; regulatory and litigation exposure; and cybersecurity, privacy, and operational disruptions. The company stated there were no material changes to the risk factors in its 2017 Form 10-K.
Important facts for investors to verify
- Whether 2018 revenue and tax-rate guidance remains achievable, and how much growth is organic versus acquisition- and currency-driven.
- Whether LCD can offset PAMA-related reimbursement and margin pressure, and whether CDD margin improvement persists.
- Completion and proceeds of the $670 million Food Solutions sale, and final Chiltern purchase-price allocation.
- Cash generation, working-capital needs, debt reduction, leverage, and the effect of potential convertible-note settlements.
- Financial and operational effects of the ransomware incident, including remediation costs, insurance recovery, and any claims or regulatory proceedings.
- Developments in material litigation and healthcare reimbursement or regulatory matters.