Zimmer Biomet Holdings, Inc. — Q1 2023 Form 10-Q Summary
Business context and reporting period
Unaudited results cover the three months ended March 31, 2023. Zimmer Biomet designs, manufactures and markets orthopedic reconstructive, sports medicine, biologics, extremities, trauma, craniomaxillofacial and thoracic products, surgical products, and digital and robotic technologies. Reportable segments are Americas, EMEA and Asia Pacific.
Comparisons are presented primarily on a continuing-operations basis following the March 1, 2022 spinoff of the spine and dental businesses into ZimVie. Zimmer Biomet disposed of its remaining ZimVie shares in February 2023.
Key financial metrics
| Metric | Q1 2023 | Q1 2022 | Change |
|---|---|---|---|
| Net sales | $1,831.0 million | $1,663.2 million | 10.1% increase |
| Operating profit | $327.3 million | $198.4 million | 64.9% increase |
| Operating margin | 17.9% | 11.9% | Up 6.0 percentage points |
| Net earnings from continuing operations attributable to Zimmer Biomet | $232.5 million | $73.0 million | Increase of $159.5 million |
| Total net earnings attributable to Zimmer Biomet | $232.5 million | $14.2 million | Increase of $218.3 million |
| Diluted EPS from continuing operations | $1.11 | $0.35 | Increase of $0.76 |
| Effective tax rate | 18.9% | 27.8% | Down 8.9 percentage points |
| Operating cash flow from continuing operations | $307.7 million | $315.7 million | Decrease of $8.0 million |
Net sales benefited from a 14.6% positive volume and mix effect, partly offset by a 1.4% pricing decline and a 3.1% unfavorable foreign-exchange impact. Knees sales increased 15.0% to $762.5 million, hips sales increased 9.3% to $492.8 million, S.E.T. sales increased 4.0% to $433.4 million, and other sales increased 7.3% to $142.3 million.
United States sales increased 12.7% to $1,060.4 million; international sales increased 6.7% to $770.6 million. Segment operating margins were 41.8% in Americas, 33.1% in EMEA and 32.0% in Asia Pacific.
Liquidity, cash flow and debt
- Cash and cash equivalents were $330.2 million at March 31, 2023, compared with $375.7 million at December 31, 2022.
- Operating cash flow was $307.7 million. Investing cash outflow was $149.4 million, including $46.7 million of property, plant and equipment additions, $82.8 million of instrument additions and $18.9 million for business combinations.
- Financing cash outflow was $206.7 million, including $267.6 million of share repurchases, $50.3 million of dividends, $86.3 million of senior-note redemption and $33.9 million of term-loan repayment. Net borrowings under the five-year revolving facility were $210.0 million.
- Total debt was $5,789.8 million, including $585.0 million classified as current debt. Long-term debt was $5,204.8 million.
- The company reported $1.0 billion available under its 364-day revolving facility, maturing August 18, 2023, and approximately $0.9 billion available under its five-year revolving facility, maturing August 19, 2027.
- Management stated that operating cash flow, cash on hand and available borrowings should satisfy ongoing liquidity requirements for at least the next twelve months. The company was in compliance with applicable debt covenants at March 31, 2023.
Material changes versus the prior comparable period
- Sales growth reflected recovery in elective procedures as COVID-19-related disruptions and staffing shortages were less severe than in Q1 2022.
- Operating margin improved primarily through volume-related leverage, product and geographic mix, lower excess and obsolete inventory charges, and lower litigation and quality-remediation expenses.
- Quality remediation expense was not significant in Q1 2023, compared with $6.5 million in Q1 2022, following completion of remediation milestones in late 2022.
- Litigation-related charges declined to $3.3 million from $33.2 million.
- Other income was $7.7 million versus a $56.1 million expense in the prior-year period, largely because the prior year included a $51.0 million loss on the ZimVie investment; Q1 2023 included a $2.5 million gain before disposal.
- Interest expense increased to $48.2 million from $41.1 million, primarily because of losses on fixed-to-variable interest-rate swaps and higher interest rates.
- Inventory increased to $2,241.3 million from $2,147.2 million at year-end 2022, contributing to lower operating cash flow.
- On February 14, 2023, the company acquired Embody, Inc. for initial consideration of $154.5 million, consisting of $135.0 million in stock and $19.5 million in cash. Additional consideration of up to $120.0 million may be payable upon achievement of specified milestones.
Guidance, outlook, risks and unusual items
- Management expects 2023 revenue growth to be driven by market growth, continued procedure recovery and new product introductions. Based on recent exchange rates, foreign currency is expected to reduce full-year 2023 sales by approximately 1.0%.
- Management expects supply-chain and inflation pressures to continue, with supply-chain pressure easing in the second half of 2023. Interest expense is expected to increase primarily because of higher interest rates.
- The 2021 restructuring plan is expected to generate approximately $220 million of total pretax charges; approximately $150 million had been incurred through March 31, 2023. The company expects approximately $190 million of gross annual pretax operating-expense reductions by the end of 2024.
- The 2019 restructuring plan is expected to generate approximately $350 million to $400 million of total pretax charges; approximately $284 million had been incurred. Expected annual savings are now projected near the low end of the previously stated $180 million to $280 million range.
- Accrued litigation liabilities were $320.9 million at March 31, 2023. Product-liability matters include Durom Cup, metal-reaction and Biomet metal-on-metal hip claims. Ultimate losses could exceed current estimates.
- An FDA warning letter concerning quality-system requirements at the Warsaw North Campus remained pending. Additional regulatory action could restrict manufacturing, marketing or sales and materially affect results.
- IRS and other tax disputes remain unresolved. The IRS has proposed adjustments for multiple tax years, including a proposed increase in U.S. federal taxable income that could result in approximately $370 million of additional tax expense for 2013, before interest and penalties. The company disputes the adjustments.
- Potential future payments under development, distribution and other contractual arrangements range from $0 to approximately $410 million, depending on milestones and other events.
- Key continuing risks include elective-procedure demand, pricing pressure, foreign exchange, inflation, supply-chain disruption, regulatory compliance, product liability, litigation, cybersecurity, intellectual property, acquisitions, restructuring execution and substantial indebtedness.
Most important facts for investors to verify
- Whether elective-procedure recovery and new product introductions can sustain the 10.1% sales growth rate after COVID-19 comparisons become less favorable.
- Whether the 17.9% operating margin is maintained as inflation, pricing pressure, restructuring costs and foreign-exchange effects continue.
- Repayment or refinancing plans for the $585.0 million current debt balance and the 364-day facility maturing in August 2023.
- Progress and final accounting for the Embody acquisition, including the preliminary purchase-price allocation and up to $120.0 million of contingent consideration.
- Resolution of the pending FDA warning letter and related remediation or regulatory restrictions.
- Developments in IRS tax disputes, litigation claims and other contingencies that could exceed recorded liabilities or current estimates.
- Execution of the restructuring plans and realization of the expected cost savings.