Thermo Fisher Scientific Inc. — Q3 2013 Form 10-Q
Reporting period: Quarter ended September 28, 2013; year-to-date results cover the nine months ended that date. Comparative periods ended September 29, 2012. Unaudited consolidated statements. Thermo Fisher provides analytical instruments, diagnostics, laboratory products, consumables, software and services through three segments: Analytical Technologies, Specialty Diagnostics, and Laboratory Products and Services.
Financial performance
| Metric | Q3 2013 | Q3 2012 | Nine months 2013 | Nine months 2012 |
|---|---|---|---|---|
| Revenue | $3,191.8 million | $3,085.7 million | $9,623.4 million | $9,250.6 million |
| Operating income | $392.1 million | $352.2 million | $1,154.6 million | $1,081.5 million |
| Operating margin | 12.3% | 11.4% | 12.0% | 11.7% |
| Income from continuing operations | $317.7 million | $299.4 million | $936.1 million | $872.6 million |
| Net income | $317.6 million | $290.4 million | $931.2 million | $801.5 million |
| Diluted EPS | $0.86 | $0.79 | $2.56 | $2.18 |
| Operating cash flow | Not reported separately for the quarter | Not reported separately for the quarter | $1,282.2 million | $1,379.4 million |
Q3 revenue grew 3%, operating income 11%, and net income 9% year over year. Nine-month revenue rose 4%, operating income 7%, and net income 16%. Nine-month operating cash flow declined about 7%. Management attributed operating-income improvement chiefly to productivity gains, partly offset by commercial investment, unfavorable currency effects and higher amortization.
- Q3 segment revenue and operating margin: Analytical Technologies $996.6 million and 18.1% (margin down from 18.9%); Specialty Diagnostics $759.2 million and 26.8% (up from 24.1%); Laboratory Products and Services $1,582.1 million and 14.9% (up from 14.4%). Segment income is management’s adjusted measure, before specified charges and intangible amortization.
- Revenue mix: Q3 product revenue was $2,730.8 million and service revenue $461.0 million. Underlying revenue, excluding acquisitions and currency, increased 2% in Q3 and 2% for the first nine months; acquisitions added $43.2 million in Q3 and $186.5 million year to date.
- Cash flow and investment: Nine-month capital expenditures were $187.9 million. Cash and cash equivalents were $1,845.6 million at quarter-end, up from $805.6 million at December 31, 2012. Working capital was $3.76 billion, versus $2.74 billion at year-end.
- Debt and liquidity: Debt obligations totaled approximately $7.11 billion, including $393.6 million of short-term obligations and $6,717.9 million of long-term obligations. Cash less debt was approximately $5.27 billion of net debt. The company had a $1.5 billion revolving facility, with no borrowings and about $46 million of capacity used by letters of credit; commercial paper outstanding was $50 million. Management said cash, operating cash flow and available borrowing capacity should fund existing businesses for at least 24 months.
Material changes versus comparable periods
- Q3 underlying growth reflected strong pharmaceutical and biotech demand; academic and government sales declined slightly, while industrial markets grew modestly. Currency reduced Q3 revenue by $3.9 million and nine-month revenue by $35.9 million.
- Specialty Diagnostics led segment growth, supported by an acquisition and demand for clinical diagnostics. Analytical Technologies revenue increased modestly, but its Q3 margin fell amid commercial investment, currency and sales mix. Laboratory Products and Services benefited particularly from clinical-trial logistics demand.
- Nine-month operating cash flow was lower despite higher income, reflecting $80 million of bridge-financing and other Life Technologies transaction costs and increased working-capital use. Receivables used $155.3 million and inventory $129.7 million of cash.
- Debt was broadly stable versus year-end, while cash increased. The company paid $162.0 million of dividends and repurchased $89.8 million of shares in the first nine months; it suspended buybacks after announcing the Life Technologies deal.
Outlook, significant items and risks
- Life Technologies acquisition: Thermo Fisher agreed to acquire Life Technologies for approximately $13.6 billion in cash, plus assumption of net debt; closing was expected in early 2014 and remained subject to customary conditions, including regulatory approvals. The filing states the transaction was not conditioned on financing. The proposed funding included up to $3.25 billion of equity or equity-linked financing (including $2.5 billion under equity forward agreements), a $5 billion term loan facility, other debt and cash. A $3.56 billion bridge facility was also arranged; the company expected to replace bridge borrowing with long-term debt. Completion, financing costs, integration and potential dilution are material uncertainties.
- Management outlook: Management expected near-term weakness in academic and government markets, partly due to U.S. funding uncertainty, and continued industrial-market softness due to macroeconomic conditions. It forecast a 2013 effective tax rate of 1.5%–3.5%, continuing-operations cash tax payments of $200–$250 million, and full-year capital expenditures of $300–$315 million.
- Tax and financing items: Effective tax rates were unusually low at 0.4% for Q3 and 0.6% year to date, reflecting tax-planning benefits, foreign tax credits and other discrete items. Q3 and year-to-date other expense included $20 million and $61 million, respectively, of bridge-commitment-fee amortization. Such benefits and charges affect period comparability.
- Restructuring and contingencies: Nine-month restructuring and other costs were $54.4 million as presented in the income statement; related charges across specified cost, SG&A and restructuring categories totaled $129.5 million. Management identified approximately $60 million of additional restructuring charges, primarily in the remainder of 2013, and estimated approximately $60 million in annual savings from actions charged in the first nine months. The company also disclosed product-liability, contract, commercial and environmental matters; management did not expect currently reserved matters to have a material adverse effect, but noted outcomes could differ from estimates.
- Other risks: Foreign exchange, customer capital-spending and government-funding volatility, healthcare reimbursement, acquisition approvals and integration, debt and covenant capacity, product liability, intellectual-property claims, regulation, supply-chain and operational disruptions, and goodwill/intangible impairment are identified risks. Management reported no material change in market-risk exposure and stated disclosure controls were effective.
Investor verification checklist
- Track regulatory approvals, closing timing, final purchase-price funding, debt issued, and the settlement and dilution effects of the equity forward agreements.
- Assess whether underlying organic growth and segment margins persist, particularly given weak academic/government and industrial demand.
- Monitor operating cash conversion, receivables and inventory, and whether cash flow recovers after transaction-related costs.
- Evaluate the sustainability of the unusually low tax rate and the effect of expiring or discrete tax benefits on earnings and cash taxes.
- Compare restructuring charges and realized savings with management’s estimates, and review developments in litigation and environmental contingencies.