Merck & Co., Inc. quarterly report, Q1 FY2019

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Merck & Co., Inc. — Q1 2019 Form 10-Q

Reporting period: Three months ended March 31, 2019. Unaudited consolidated results; amounts are in U.S. dollars. Merck is a pharmaceutical and animal-health company.

Financial performance

  • Revenue: $10.816 billion, up 8% from $10.037 billion; foreign exchange reduced growth by 3%. Pharmaceutical segment sales were $9.663 billion, up from $8.919 billion. Animal Health sales were $1.025 billion, down from $1.065 billion.
  • Keytruda: Sales rose to $2.269 billion from $1.464 billion. Growth also reflected higher vaccine sales and alliance revenue from Lynparza and Lenvima.
  • Profit and EPS: Income before taxes was $3.067 billion versus $1.345 billion. Net income attributable to Merck was $2.915 billion versus $736 million; diluted EPS was $1.12 versus $0.27. Non-GAAP diluted EPS was $1.22 versus $1.05.
  • Margins and expenses: Gross margin increased to 71.8% from 68.3%. Cost of sales fell 4% to $3.052 billion; SG&A fell 3% to $2.425 billion. R&D expense was $1.931 billion versus $3.196 billion, largely because Q1 2018 included a $1.4 billion Eisai collaboration charge.
  • Cash flow: Operating cash flow was $1.336 billion versus $1.155 billion. Investing activities provided $368 million versus using $197 million; financing activities used $1.614 billion versus $2.722 billion. Capital expenditures were $595 million versus $450 million. Cash, cash equivalents and restricted cash ended at $8.077 billion.
  • Liquidity and debt: Cash and investments totaled $14.419 billion, down from $15.097 billion at year-end 2018. Working capital was $6.808 billion, up from $3.669 billion. Loans payable and current debt plus long-term debt totaled approximately $25.896 billion, compared with $25.114 billion at year-end; the company issued $5.0 billion of senior notes during the quarter.

Material changes and unusual items

  • The effective tax rate was 6.7%, versus 44.9% in Q1 2018. Q1 2019 included a $360 million net tax benefit from resolution of federal tax matters; Merck also paid $107 million following the IRS examination of its 2012–2014 returns. The prior-year rate reflected the Eisai collaboration charge, for which no tax benefit was recognized.
  • Other expense was $188 million, compared with $291 million of other income in Q1 2018. Q1 2019 included $84 million of goodwill impairment charges in Healthcare Services; Q1 2018 included a $115 million gain on settlement of patent litigation.
  • Merck approved a global restructuring program expected to cost $800 million–$1.2 billion pretax through 2023, with about $500 million of charges expected in 2019. Management expects annual net savings of about $500 million by the end of 2023. Q1 restructuring-program costs were $187 million, versus $104 million.
  • Subsequent to quarter-end, Merck acquired Antelliq for $2.3 billion and repaid $1.3 billion of its debt, and acquired Immune Design for $301 million in cash.

Outlook, management commentary and risks

  • Management expects pricing pressure and government and third-party cost-containment measures to continue to weigh on revenue for the rest of 2019. The filing does not provide a clear overall full-year revenue or EPS forecast.
  • Growth was led by oncology and vaccines, partly offset by generic competition, biosimilar competition, and pricing pressure. Januvia and Janumet sales declined 5%; animal-health sales declined 4%, including a 7% unfavorable foreign-exchange effect. Management expects continued pressure on several products as competition and patent expirations affect sales.
  • Pipeline and regulatory outcomes remain uncertain. The filing reports mixed KEYNOTE-062 results: Keytruda monotherapy met noninferiority for overall survival in the specified population, while the combination did not show superiority on stated endpoints. Applications for certain Keytruda indications were under review, with FDA action dates in June 2019.
  • Merck disclosed ongoing product-liability, antitrust, intellectual-property and other proceedings. It said the resolution of matters was unlikely to be material overall, but it could not estimate possible losses for certain litigation. Legal defense reserves were approximately $250 million at quarter-end.
  • Other risks include foreign-exchange movements, product pricing and access, generic and biosimilar competition, clinical-trial and regulatory outcomes, and the possibility of adverse patent litigation results.

Important facts for investors to verify

  • How much reported earnings growth reflects underlying operations versus the $360 million tax benefit and the unusually large prior-year Eisai charge; compare GAAP and non-GAAP results and their reconciliations.
  • Whether Keytruda, vaccine and collaboration growth can offset pricing pressure, foreign exchange, and ongoing product erosion from competition and patent expirations.
  • Progress and realized costs of the restructuring program, including whether the projected $500 million annual savings by 2023 are achieved.
  • Cash-flow conversion, working-capital movements, debt levels and the effects of the Antelliq and Immune Design acquisitions on liquidity and leverage.
  • Developments in significant litigation and in key clinical and regulatory programs, including the disclosed limits on estimating potential legal losses.