Merck & Co., Inc. — FY 2013 Form 10-K
Reporting period: Fiscal year ended December 31, 2013; filed February 27, 2014. Although the request references 2013 Q4, this is an annual filing. It also reports fourth-quarter results separately. Dollar amounts are in U.S. dollars.
Business context and reporting period
Merck is a global health care company focused on prescription medicines and vaccines, with additional Animal Health, Consumer Care and Alliances businesses. Pharmaceutical is its sole reportable segment. Worldwide sales are exposed to patent expirations, generic and biosimilar competition, reimbursement and pricing decisions, and foreign exchange movements.
Financial performance and liquidity
| Metric | FY 2013 | FY 2012 |
|---|---|---|
| Sales | $44.0 billion | $47.3 billion |
| Income before taxes | $5.5 billion | $8.7 billion |
| Net income attributable to Merck | $4.4 billion | $6.2 billion |
| Diluted GAAP EPS | $1.47 | $2.00 |
| Diluted non-GAAP EPS | $3.49 | $3.82 |
| Gross margin | 61.5% | 65.2% |
| Cash from operating activities | $11.7 billion | $10.0 billion |
| Capital expenditures | $1.5 billion | $2.0 billion |
- Fourth-quarter sales were $11.3 billion versus $11.7 billion a year earlier; net income attributable to Merck was $781 million versus $908 million, and diluted EPS was $0.26 versus $0.30.
- Research and development expense was $7.5 billion, down 8%; marketing and administrative expense was $11.9 billion, down 7%. The reported restructuring-cost line was $1.7 billion, compared with $664 million in 2012.
- Cash and investments totaled $27.3 billion at year-end, including $17.5 billion of cash, cash equivalents and short-term investments. Working capital was $17.8 billion.
- Long-term debt was $20.5 billion; loans payable and current portion of long-term debt were $4.5 billion, putting these reported debt balances at about $25.1 billion combined, versus about $20.6 billion in 2012. Merck issued $6.5 billion of senior notes in 2013, with a substantial portion used for share repurchases.
- Merck returned $11.7 billion to shareholders through dividends and share repurchases. Operating cash flow included a $480 million payment related to the ENHANCE litigation settlement.
Material changes versus the prior comparable period
- Sales declined 7%, including a 2% unfavorable foreign-exchange effect. The main driver was generic erosion after Singulair lost exclusivity; sales fell 69% to $1.2 billion. Maxalt, Temodar, Propecia and other mature products also declined.
- Growth in Gardasil, immunology, diabetes and HIV products partially offset losses. Gardasil sales rose 12% to $1.8 billion; Janumet rose 10% to $1.8 billion; Isentress rose 8% to $1.6 billion.
- GAAP earnings and gross margin fell amid lower sales, patent erosion, higher restructuring and impairment charges, and foreign-exchange losses. Management reported that lower operating costs partly offset these pressures. Non-GAAP EPS also declined, to $3.49 from $3.82.
- Operating cash flow rose to $11.7 billion from $10.0 billion. Merck reported that collections improved, while extended collection times in parts of Europe and emerging markets remained a cash-flow concern.
Outlook, management commentary, risks and unusual items
- Restructuring: The October 2013 program targets approximately 8,500 position reductions and a smaller real-estate footprint. Merck recorded $1.2 billion of pretax costs for the program in 2013, expects total costs of $2.5–$3.0 billion, and targets about $2.0 billion in annual net savings by the end of 2015. Together with remaining merger-program actions, management expects $2.5 billion in annual net savings versus 2012 expense levels by that date.
- Near-term pressures: Management expects patent expirations and global pricing and austerity measures to continue weighing on sales and gross margin in 2014. European generic entry for Nasonex and anticipated Remicade biosimilar competition in major European markets from 2015 are notable risks.
- Pipeline and strategic actions: Merck expected several regulatory filings in 2014, including continued review or submissions for MK-3475, V503 and other candidates. The company was evaluating the strategic roles of Animal Health and Consumer Care, with decisions expected in 2014. AstraZeneca could exercise its option to acquire Merck’s KBI interest in 2014; Merck expected that outcome to be likely and estimated a non-cash pretax gain of about $700 million if exercised.
- Impairments and other items: Merck recorded $765 million of intangible-asset impairment charges in 2013, including $330 million for Saphris/Sycrest and $156 million for Rebetol, plus $279 million of in-process R&D impairment charges, including $181 million for discontinued candidate preladenant. The effective tax rate was 18.5%, reflecting tax settlements and other favorable tax items.
- Legal and contingent exposures: Merck said it could not reasonably estimate a possible loss range for remaining Vioxx litigation and had not established material reserves for most of it. The filing also discusses extensive Fosamax, NuvaRing, Propecia/Proscar and other litigation; the proposed $27.7 million Fosamax jaw-injury settlement required full plaintiff participation, and the $100 million NuvaRing settlement was subject to participation thresholds and anticipated insurance recoveries.
- Other risks: Key risks include loss of exclusivity, clinical or regulatory setbacks, product safety matters, manufacturing interruptions, foreign-exchange exposure, pricing pressure, tax uncertainty and receivables in certain European markets. The company recorded $140 million in exchange losses from Venezuela’s 2013 currency devaluation. European receivables in Greece, Italy, Spain and Portugal totaled about $900 million at year-end.
Most important facts for investors to verify
- How much of the 2013 earnings decline reflects recurring business performance versus restructuring, amortization, impairment and tax effects; review the company’s GAAP-to-non-GAAP reconciliation.
- Whether pipeline launches and approvals can offset continuing generic erosion, particularly for Singulair and other mature products.
- Actual restructuring cash outlays, execution progress and realization of the stated savings targets.
- The outcome and financial effects of AstraZeneca’s option on Merck’s KBI interest, and any resulting loss of AZLP income and supply revenue.
- Developments in major litigation and settlements, especially Vioxx, Fosamax and NuvaRing, and any changes in reserves or insurance recoveries.
- Debt and capital-allocation trends, including the effect of debt-funded repurchases, and the collectability and timing of overseas receivables.