Medtronic plc — Form 10-Q Summary
Reporting period: Fiscal third quarter and nine months ended January 27, 2017; comparisons are with the periods ended January 29, 2016. Dollar amounts are in millions unless stated otherwise.
Business context
Medtronic is a global medical technology company operating through Cardiac and Vascular, Minimally Invasive Therapies, Restorative Therapies, and Diabetes groups. The quarter included the HeartWare and Smith & Nephew gynecology acquisitions. Results are unaudited.
Financial performance
| Metric | Q3 FY2017 | Q3 FY2016 | Nine months FY2017 | Nine months FY2016 |
|---|---|---|---|---|
| Net sales | $7,283 | $6,934 | $21,794 | $21,266 |
| Operating profit | $1,147 | $1,355 | $3,699 | $3,786 |
| Net income attributable to Medtronic | $821 | $1,095 | $2,865 | $2,435 |
| Diluted EPS | $0.59 | $0.77 | $2.05 | $1.70 |
| Operating cash flow | Not stated quarterly | Not stated quarterly | $5,107 | $3,892 |
- Quarterly sales rose 5%; nine-month sales rose 2%. The company said the prior-year nine-month comparison benefited from an extra selling week, which reduced reported year-over-year growth in FY2017.
- Quarterly operating profit fell 15% and attributable net income fell 25%; nine-month operating profit declined 2% while net income increased 18%. Diluted EPS rose 21% for nine months, aided in part by a lower weighted-average share count.
- Approximate GAAP operating margins were 15.7% for the quarter versus 19.5%, and 17.0% for nine months versus 17.8%. The quarterly decline reflects, among other items, litigation charges and a $100 million charitable contribution.
- Non-GAAP operating profit was $2,051 for the quarter versus $1,930, and $5,941 for nine months versus $5,836. These company-defined measures exclude listed adjustments and are not substitutes for GAAP results.
- All four groups recorded higher quarterly sales: Cardiac and Vascular +6%, Minimally Invasive Therapies +5%, Restorative Therapies +3%, and Diabetes +6%. Pain Therapies remained a weak area, with sales down 3% for the quarter and 4% year to date.
- Nine-month free cash flow, as defined by the company (operating cash flow less capital expenditures), was $4,183 versus $3,199. Capital expenditures were $924. Cash dividends were $1,782 and share repurchases were $3,409.
Balance sheet and liquidity
- At January 27, 2017, cash and cash equivalents were $2,768 and investments were $8,690; combined cash, cash equivalents, and current investments totaled $11,458, compared with $12,634 at fiscal year-end.
- Total debt was $32,149, up from $31,102 at April 29, 2016. Current debt obligations increased to $6,226 from $993, while long-term debt declined to $25,923 from $30,109. Commercial paper outstanding was $1.1 billion; the $3.5 billion revolving facility was undrawn.
- Working capital was $9,751 versus $16,435 and the current ratio was 1.8:1 versus 3.3:1. Management noted that approximately $6 billion of cash and investments held by certain U.S.-controlled non-U.S. subsidiaries may not be available for general corporate purposes, but said liquidity should meet foreseeable operating needs for at least 12 months.
- Total assets were $97,578 and total liabilities $48,085. Goodwill was $41,224 and net intangible assets $26,209.
Material changes, outlook, and risks
- Significant charges: The quarter included $218 million of certain litigation charges and a $100 million Medtronic Foundation contribution. Nine-month litigation charges were $300 million. Nine-month restructuring charges, net, were $162 million; management expects about $850 million of Covidien-related cost synergies through FY2018.
- Taxes: The effective tax rate was 15.2% for the quarter and 9.7% for nine months, versus 7.1% and 24.0% in the prior periods. Nine-month tax items included a $431 million benefit from resolution of Covidien/Tyco intercompany debt issues, offset in part by other tax charges, including a $371 million charge relating to acquisition-related and Puerto Rico income-allocation matters. A separate $86 million IRS-related charge was recorded in the quarter.
- Acquisitions: HeartWare was acquired for approximately $1.1 billion; the gynecology business for approximately $350 million. Acquisitions contributed $217 million to nine-month sales growth. The filing reports $1,328 million of acquisition cash outflows during the nine months.
- Legal and tax contingencies: Accrued certain litigation charges were approximately $1.2 billion, up from $1.0 billion at year-end. The company warns ultimate costs could differ materially. INFUSE and pelvic-mesh claims, government inquiries, and other proceedings remain outstanding. A Penobscot River study cited preliminary remediation estimates ranging from $25 million to $235 million, with significant uncertainty; these are not presented as a clear estimate of Medtronic’s ultimate liability.
- Outlook: The filing provides no consolidated revenue or earnings guidance. Management described prospective product launches and growth opportunities, including the MiniMed 670G U.S. launch expected in spring 2017, while noting risks from competition, pricing and reimbursement pressure, product approvals, procedural volumes, currency movements, acquisition integration, litigation, and tax matters.
- Other risks and controls: Currency and interest-rate exposure remains material; management uses derivatives for hedging. Auction-rate securities remain illiquid, and the filing reports $310 million of gross unrealized losses on available-for-sale debt securities. Disclosure controls were deemed effective; the ongoing SAP/ERP rollout materially changed internal controls at the Minimally Invasive Therapies Group, with deployment expected to continue through FY2019.
Important facts for investors to verify
- How much of the quarterly earnings decline reflects recurring operations versus litigation, the Foundation contribution, and tax adjustments; compare GAAP with company-defined non-GAAP results.
- Whether the large increase in current debt obligations affects refinancing needs or liquidity, and the timing and terms of upcoming maturities.
- The development of the $1.2 billion litigation accrual and potential exposure from INFUSE, pelvic mesh, environmental, and government matters.
- Whether management achieves the expected Covidien cost synergies and realizes growth from HeartWare and recent product launches.
- How tax-audit outcomes, restricted offshore liquidity, and investment-market conditions may affect cash available for operations and shareholder returns.