Boston Scientific Corporation — Q3 2016 Form 10-Q
Reporting period: Three and nine months ended September 30, 2016. Boston Scientific develops, manufactures, and markets medical devices across cardiovascular, rhythm management, endoscopy, urology, pelvic health, and neuromodulation markets. Figures are in U.S. dollars; millions unless stated otherwise.
Financial results
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Net sales | $2,105 | $1,888 | $6,195 | $5,499 |
| Gross profit | $1,511 | $1,349 | $4,390 | $3,899 |
| Gross margin | 71.8% | 71.5% | 70.9% | 70.9% |
| Operating income (loss) | $348 | $(299) | $307 | $(56) |
| Net income (loss) | $228 | $(198) | $223 | $(97) |
| Diluted EPS | $0.17 | $(0.15) | $0.16 | $(0.07) |
| Operating cash flow | $(32) | $(408) | $506 | $271 |
- Q3 reported sales rose 11%; management reported constant-currency growth of 10%. Nine-month reported and constant-currency sales growth were both 13%.
- Management’s non-GAAP adjusted net income was $368 million, or $0.27 per share, in Q3 and $1.119 billion, or $0.81 per share, for nine months. These measures exclude specified items, including amortization, litigation, restructuring, and acquisition-related charges; they are not GAAP results.
- Gross margin benefited from manufacturing cost reductions, offset in part by foreign currency and other period costs. Q3 SG&A was 36.7% of sales versus 38.6%; R&D was 11.1% versus 11.7%.
- Nine-month operating cash flow improved by $235 million year over year, primarily reflecting the absence of the $600 million Johnson & Johnson settlement payment made in 2015, partly offset by the $366 million Mirowski judgment payment in 2016. Investing cash outflow was $355 million, and financing cash outflow was $234 million.
Balance sheet and liquidity
- At September 30, 2016, cash and equivalents were $237 million; working capital was $165 million. Current assets were $3.181 billion and current liabilities $3.016 billion.
- Total debt was $5.425 billion, compared with $5.677 billion at December 31, 2015. Debt included $4.650 billion of senior notes and $750 million of term loans. The company reported no borrowings under its $2.0 billion revolving facility.
- Credit covenants were met: leverage was 2.5x against a 4.25x maximum, and interest coverage was 9.3x against a 3.0x minimum. Management said existing cash, operating cash generation, and available credit should fund operations, investments, legal obligations, and debt service for the next 12 months.
- Management’s liquidity assessment is subject to significant legal and tax cash requirements. The company paid $366 million in the quarter to satisfy the Mirowski judgment, while reserving a right to seek reversal.
Material changes and business developments
- Sales growth was broad but uneven. Q3 constant-currency growth included Cardiovascular 12%, Rhythm Management 3%, and MedSurg 14%. Urology and Pelvic Health grew 26%, including approximately $26 million of sales from the 2015 AMS acquisition; Endoscopy grew 9% and Interventional Cardiology 13%.
- Q3 GAAP results improved sharply from 2015, when a $457 million litigation charge contributed to a reported net loss. Q3 2016 included $140 million after tax of specified items; nine-month 2016 included $896 million after tax, including $632 million of litigation-related charges before tax.
- The 2016 restructuring plan is expected to incur $175–$225 million of pre-tax charges through 2018, with $160–$210 million expected to be cash costs. The company estimates gross annual expense reductions of $115–$150 million by the end of 2020, with some savings reinvested in growth initiatives. The earlier 2014 plan was expected to reduce gross annual expenses by about $200 million by the end of 2016.
- Cosman Medical was acquired in July for $71 million upfront plus possible additional consideration of up to $20 million. A roughly $210 million EndoChoice acquisition was pending customary closing conditions and was expected to close in Q4. LumenR was acquired November 1, after quarter-end.
Outlook, risks, and unusual items
- No specific consolidated sales or earnings guidance for 2016 is stated in the supplied filing text. Management described its operating plans and liquidity expectations but cautioned that interim results are not necessarily indicative of full-year results.
- Product and regulatory risks include the October 2016 voluntary removal of Lotus EDGE field inventory after reports that the device sometimes could not be fully locked, and the suspension of the Watchman FLX European initial market release after higher-than-expected device embolization. Management was evaluating data and potential design changes.
- Legal exposure is substantial and uncertain. Accrued legal reserves were $1.952 billion at September 30. More than 40,000 transvaginal mesh product-liability cases or claims had been asserted; settlement agreements covered about 19,000, of which 6,000 were final. The filing warns that additional losses could materially affect results, cash flows, and covenant capacity.
- A proposed IRS settlement of longstanding transfer-pricing disputes was contingent on further administrative steps. If finalized, the company expected net tax payments of approximately $275 million plus interest, likely during the second half of 2017 and first half of 2018. The IRS had asserted $1.162 billion plus interest for specified tax years; the company said its reserves were adequate.
- Other uncertainties include competition and pricing, reimbursement and regulatory changes, product performance and recalls, integration of acquisitions, foreign currency exposure, impairment risk, and the company’s substantial self-insurance for product liability and intellectual-property claims.
Key facts for investors to verify
- Whether sales growth and margin improvement persist, particularly after separating acquired growth, foreign-exchange effects, and management’s non-GAAP adjustments.
- The ultimate cash cost and timing of litigation matters, including transvaginal mesh claims and the Mirowski appeal, and the adequacy of legal reserves.
- Whether the IRS settlement conditions are met and the resulting tax payment, including interest, and how this affects liquidity.
- Progress on Lotus and Watchman product issues, regulatory approvals, and any effects on launches, sales, or liabilities.
- Execution of restructuring savings versus implementation costs, acquisition integration, debt maturities, and continued compliance with credit covenants.