Cardinal Health, Inc. — Q1 Fiscal 2018 Form 10-Q
Reporting period: Three months ended September 30, 2017; comparisons are with the three months ended September 30, 2016, unless stated otherwise. Cardinal Health operates Pharmaceutical and Medical segments.
Financial results
| Metric | Q1 FY2018 | Q1 FY2017 | Change |
|---|---|---|---|
| Revenue | $32.641 billion | $32.039 billion | +2% |
| Gross margin | $1.672 billion | $1.590 billion | +5%; margin rate +16 basis points |
| Operating earnings, GAAP | $262 million | $535 million | -51% |
| Operating earnings, non-GAAP | $610 million | $669 million | -9% |
| Net earnings attributable to Cardinal Health | $115 million | $309 million | -63% |
| Diluted EPS, GAAP | $0.36 | $0.96 | -63% |
| Diluted EPS, non-GAAP | $1.09 | $1.24 | -12% |
| Cash provided by operating activities | $1.181 billion | $104 million | Increased; working-capital timing contributed |
Non-GAAP measures exclude specified items, including restructuring, acquisition-related costs, impairments and litigation charges; they are supplemental and not a substitute for GAAP results.
Segments and material changes
- Pharmaceutical: Revenue was $28.920 billion, up 1%; segment profit fell 13% to $467 million. Generic customer pricing changes and costs of a finance and operating systems replacement project weighed on profit. Specialty and distribution customer growth was partly offset by the May 2017 expiration of a large mail-order distribution contract.
- Medical: Revenue was $3.724 billion, up 14%; segment profit was $129 million, up 1%. Acquisitions contributed $333 million of revenue. Profit growth reflected acquisitions, partly offset by the loss of part of a large distribution customer contract and acquired inventory fair-value step-up costs.
- Gross margin increased by $82 million; acquisitions contributed $97 million. SG&A rose 15% to $1.062 billion, including $92 million of acquisition-related increase and systems-project costs.
- GAAP operating results included $132 million of restructuring and severance costs, including $125 million for terminating surgeon-glove distribution arrangements in certain international markets; $183 million in amortization and other acquisition-related costs; and $32 million in net litigation charges, primarily associated with IVC filter claims.
Acquisition, liquidity and capital
- On July 29, 2017, Cardinal Health acquired Medtronic’s Patient Recovery Business for $6.1 billion in cash. Funding included $4.5 billion of new long-term debt, existing cash and credit arrangements. The purchase-price allocation remained provisional.
- Cash and equivalents were $1.181 billion at September 30, versus $6.879 billion at June 30. Acquisition spending of $6.139 billion was the principal cash use; operating cash flow partly offset it. The company also redeemed $403 million of notes, repurchased $150 million of shares and paid $150 million in dividends.
- Total long-term obligations, including the current portion, were $10.0 billion at quarter-end, down from $10.4 billion at June 30. Net interest expense rose to $81 million from $44 million, primarily reflecting debt issued in June 2017.
- Available liquidity included a $2.0 billion revolving credit facility and a $1.0 billion committed receivables sales facility; neither had amounts outstanding at quarter-end. The company reported covenant compliance. It planned to reduce long-term obligations by approximately $500 million annually in FY2018–FY2020.
- Capital expenditures were $67 million. The quarterly dividend declared was $0.4624 per share, and $293 million remained under the share repurchase authorization.
Outlook, risks and unusual items
- Management expected FY2018 Pharmaceutical segment profit to be below FY2017, primarily because of generic pharmaceutical customer pricing changes; their timing and impact were uncertain.
- Management expected the Patient Recovery Business to contribute more Medical segment profit during the rest of FY2018 than in the quarter, while also expecting higher amortization and acquisition-related costs and increased interest expense.
- The company was exploring strategic alternatives for its China products and services distribution business; a sale could result in an impairment or loss. No specific earnings guidance was provided in the supplied filing text.
- As of October 30, 2017, Cardinal Health faced opioid-distribution lawsuits brought by 98 counties and municipalities, one state attorney general and one tribal entity, among others. The cases were at an early stage; the company could not predict outcomes or estimate a reasonably possible loss range.
- For IVC filter product-liability lawsuits, the company had accrued $129 million net of expected insurance recoveries. It could not estimate reasonably possible losses in excess of the accrual.
- Acquisition-related market exposure to commodity prices and foreign exchange increased; the company had not completed its analysis to quantify the impacts. Cash held outside the U.S. was $576 million, and repatriation could trigger taxes.
Most important facts for investors to verify
- Whether generic pricing pressure and the expired mail-order contract continue to affect Pharmaceutical segment profitability.
- Whether the Patient Recovery acquisition delivers expected growth and synergies, and how purchase accounting, amortization and integration costs evolve.
- Debt reduction, interest expense, working-capital cash-flow variability and compliance with the temporary leverage covenant.
- Developments and potential financial exposure in opioid and IVC filter litigation, including changes to the $129 million IVC accrual.
- Any outcome of the China business strategic review and any quantified commodity or foreign-exchange exposure.