Stryker Corporation — Q2 2010 Form 10-Q
Business context and reporting period. This unaudited quarterly report covers the three and six months ended June 30, 2010. Stryker sells orthopaedic implants and MedSurg equipment in the U.S. and internationally. Domestic sales represented 66% of revenue in both Q2 and the first half of 2010.
Financial performance
| Metric | Q2 2010 | Six months 2010 |
|---|---|---|
| Net sales | $1,758.2 million; up 8% reported and 7% at constant currency | $3,557.3 million; up 10% reported and 8% at constant currency |
| Gross profit / margin | $1,218.9 million / 69.3% | $2,436.6 million / 68.5% |
| Operating income / margin | $448.1 million / 25.5% | $894.5 million / 25.1% |
| Net earnings | $319.0 million; up 10% | $640.7 million; up 12% |
| Diluted EPS | $0.80, versus $0.73 | $1.60, versus $1.44 |
| Operating cash flow | $326.7 million | $601.5 million, versus $454.8 million |
Q2 gross margin rose from 67.2% a year earlier; operating margin rose from 23.9%. For the first half, gross margin increased from 67.5% and operating margin from 23.8%. Management attributed the lower cost-of-sales ratio to lower inventory charges, improved production absorption and favorable foreign exchange effects on costs. R&D spending rose 15% in Q2 and 13% in the first half, reflecting development work for planned product launches. SG&A rose in dollars but declined as a share of sales.
For the first half, MedSurg Equipment sales increased 16% reported (14% constant currency), while Orthopaedic Implants increased 6% (4% constant currency). Q2 growth was 16% in MedSurg Equipment and 2% in Orthopaedic Implants. MedSurg’s first-half growth included a 6% contribution from acquisitions and a 1% one-time patient-handling shipment; acquisitions contributed 7% of Q2 MedSurg growth.
Financial position and liquidity
- At June 30, cash and cash equivalents were $785.2 million and current marketable securities were $3,243.3 million. Current assets were $6,899.8 million; current liabilities were $1,295.1 million, resulting in reported working capital of $5,604.7 million.
- Total debt was $1,015.2 million, including $996.3 million of long-term debt. In January, Stryker issued $500 million of 3.00% notes due 2015 and $500 million of 4.375% notes due 2020, receiving $996.1 million net proceeds. Weighted-average borrowing cost was 3.7% at quarter-end.
- Management said cash, securities, operating cash flow and borrowing capacity were expected to cover operating needs, capital expenditures, acquisitions, loaner instrumentation and debt service. Available borrowing capacity was $1,026.0 million at June 30.
- First-half cash uses included $119.2 million of dividends, $111.1 million of share repurchases, $68.5 million of capital expenditures and $61.4 million of acquisitions. The company repurchased 2.1 million shares in Q1 and none in Q2.
Material changes, outlook and risks
- Compared with the prior-year periods, sales, earnings and operating cash flow increased. International sales growth was substantially weaker at constant currency than reported: 1% for the first half and flat for Q2. Q2 Orthopaedic Implant sales grew 2% reported, with spinal product introductions delayed and knee sales flat on a constant-currency basis.
- The filing provides no specific full-year revenue or earnings guidance. Management cited planned product launches and continued product development; it also noted that orthopaedic implant surgeries are generally lower in summer.
- Foreign currency translation reduced shareholders’ equity by $310.5 million in the first half. Marketable securities included $3.2 billion of available-for-sale securities; management reported $3.1 million of unrealized losses and did not consider them other-than-temporarily impaired. The company redeemed its remaining auction-rate securities at par under its UBS rights agreement; $17.0 million of first-half fair-value losses on the rights were offset by corresponding gains on the related securities.
- Contingencies include an IRS dispute over 2003–2005 Irish cost-sharing arrangements and a July 2010 European income-tax assessment for 2006–2007; adverse outcomes could materially affect tax expense, results and cash flows. The ultimate outcome of criminal charges involving Stryker Biotech was not reasonably estimable; a conviction could bring significant fines and exclusion from government healthcare programs. HHS physician-payment and SEC/DOJ Foreign Corrupt Practices Act investigations were ongoing. Securities and shareholder derivative lawsuits were also disclosed. FDA warning letters concerning Mahwah, Cork and the CMF facility had been resolved by May 2010.
- On August 5, 2010, after quarter-end, Stryker replaced its existing $1.0 billion revolving credit facility with a new facility due August 2013, with an option to increase capacity by up to $500 million.
Important facts for investors to verify
- Whether reported sales and earnings growth continues after accounting for currency, acquisition contributions and the one-time equipment shipment.
- Progress on delayed product introductions, R&D launches and inventory management; days sales in inventory rose to 163 from 145 at year-end 2009.
- Developments and potential financial exposure in the tax disputes, Biotech criminal proceeding, physician-payment investigations and shareholder litigation.
- Composition, credit quality and valuation of the large marketable-securities portfolio, and the company’s foreign-currency exposure.
- Use of the January debt proceeds, ongoing capital allocation, and terms and availability under the refinanced credit facility.