Zimmer Holdings, Inc. Form 10-Q Summary
Business context and reporting period
Zimmer Holdings, Inc. designed, manufactured and marketed orthopaedic reconstructive implants, dental and spinal implants, trauma products, biologics, surgical products and related services. The unaudited filing covers the three and six months ended June 30, 2012, with international subsidiaries generally reporting through June 25, 2012. The filing identifies the registrant as Zimmer Holdings, Inc.; the provided metadata refers to Zimmer Biomet Holdings, Inc.
Key financial metrics
| Metric | Three months ended June 30 | Six months ended June 30 |
|---|---|---|
| Net sales | $1,125.0 million, down 1% | $2,265.7 million, up 1% |
| Gross profit | $843.1 million; 75.0% margin | $1,695.1 million; 74.8% margin |
| Operating profit | $301.9 million; 26.8% margin | $597.5 million; 26.4% margin |
| Net earnings attributable to Zimmer | $214.5 million, up 5% | $424.1 million, up 3% |
| Diluted EPS | $1.22, versus $1.06 | $2.39, versus $2.14 |
| Operating cash flow | Not separately provided | $438.9 million, versus $433.2 million |
- Reported gross margin was approximately 75%; operating margin improved from 22.8% to 26.8% in the second quarter and from 24.7% to 26.4% for the six-month period.
- Adjusted diluted EPS, excluding inventory step-up, certain claims, special items and related tax effects, was $1.34 for the quarter and $2.63 for the six months, compared with $1.21 and $2.40, respectively.
- At June 30, 2012, cash and cash equivalents were $651.0 million and short-term investments were $684.9 million. Total short- and long-term investments at fair value were $783.9 million.
- Total debt was approximately $1,729.9 million, comprising $3.4 million of short-term debt and $1,726.5 million of long-term debt. The company had no borrowings under its new revolving credit facility and had a $145.4 million term loan.
- Total assets were $8,616.5 million and total liabilities were $2,904.3 million at June 30, 2012.
- Financing cash use was $262.1 million, including $248.1 million of share repurchases and $31.7 million of dividends. The company repurchased 4.0 million shares during the first six months and had approximately $1.3 billion remaining under its repurchase authorization.
Material changes versus the prior comparable period
- Second-quarter sales declined $12.4 million, or 1%, primarily reflecting a 3% foreign-exchange headwind and a 2% pricing headwind, partly offset by 4% volume and mix growth.
- Six-month sales increased $12.7 million, or 1%. Americas sales increased 1%, Europe declined 3%, and Asia Pacific increased 5%.
- Second-quarter product trends included growth in trauma, surgical and other products, and extremities, offset by declines in dental, spine, knees and hips. Six-month trauma and surgical and other sales increased 7% and 8%, respectively, while dental and spine declined 6% and 7%.
- SG&A declined to 40.3% of sales from 41.3% in the second quarter and to 40.5% from 41.2% for the six months, reflecting cost discipline and transformation initiatives.
- Special items increased to $30.7 million in the quarter and $64.2 million for the six months, versus $13.5 million and $39.0 million, respectively, in 2011. The increase primarily reflected consulting and professional fees, restructuring costs, litigation matters and accelerated software amortization.
- The prior-year periods included a $50.0 million charge for certain Durom Cup claims; no such charge was recorded in 2012. The company’s estimated cumulative Durom Cup liability remained $388.2 million.
- The effective tax rate increased to 25.6% from 18.2% for the quarter and to 25.6% from 22.9% for the six months, partly because 2011 benefited from favorable tax matter resolutions and the tax effects of the claims provision.
- Interest expense increased primarily because of the $550 million senior-notes offering completed in November 2011.
Guidance, outlook, risks and unusual items
- Management estimated 2012 sales growth of 0% to 1.5%, assuming low-single-digit knee and hip procedure growth, modest global economic growth and stable employment.
- Management expected pricing to reduce sales growth by approximately 2% and foreign exchange to reduce sales growth by 2% to 2.5% based on June 30 rates. The larger-than-anticipated Japanese biennial price reduction added pressure to the outlook.
- Expected 2012 gross margin was approximately 75%, R&D expense was expected at 5% to 6% of sales, and SG&A was expected at approximately 40% of sales for the full year. Third-quarter SG&A was expected at 42% to 42.5% of sales because of seasonal procedure-volume effects.
- Management expected approximately $115 million of restructuring and transformation expenses plus approximately $10 million of acquisition, integration and other costs in 2012, with most recognized as special items. It expected net interest expense of approximately $60 million.
- The Warsaw, Indiana distribution center was being transitioned to a third-party provider, affecting approximately 160 employees. The company also continued finance-function outsourcing, centralization and worldwide financial software implementation.
- Material contingencies included the Durom Cup claims, the Polett product-liability appeal involving a $20.3 million judgment against the company and an unrelated party, NexGen Knee System litigation, royalty disputes, and an ongoing SEC and DOJ FCPA investigation. Potential losses for several matters were not reasonably estimable.
- The FDA reinspected the Warsaw manufacturing facility during the quarter. The company continued addressing inspectional observations and communicating with the FDA.
- The IRS was examining U.S. federal returns for 2008 and 2009, while a prior assessment involving profit allocation for 2005–2007 remained under dispute and could materially affect future tax expense, earnings and cash flow.
- Liquidity risks included slower collections in certain European countries. Net trade receivables in Greece, Italy, Portugal and Spain were $245.6 million after allowances, representing 27% of consolidated net trade receivables.
Most important facts for investors to verify
- Confirm the registrant identity and corporate-name transition because the filing is for Zimmer Holdings, Inc., while the request metadata names Zimmer Biomet Holdings, Inc.
- Reconcile reported GAAP results with adjusted earnings and assess the recurring versus nonrecurring nature of the $64.2 million of six-month special items.
- Monitor pricing pressure, the Japanese price reduction, foreign-exchange sensitivity and the company’s 0%–1.5% 2012 sales-growth outlook.
- Evaluate European receivable collectability, particularly the $245.6 million net exposure in Greece, Italy, Portugal and Spain.
- Review the status and potential financial impact of Durom Cup claims, the Polett appeal, NexGen litigation, the FCPA investigation, tax audits and FDA quality-system matters.
- Assess capital allocation, including the $1.3 billion remaining share-repurchase authorization, continuing dividends and total debt service requirements.