Zimmer Biomet Holdings, Inc. — 1Q 2021 Form 10-Q
Reporting period: Three months ended March 31, 2021; filed May 4, 2021. Results are unaudited and should be read with the 2020 Form 10-K. Zimmer Biomet designs and sells orthopedic reconstructive, sports medicine, extremities and trauma, spine, CMFT, dental, and related surgical products.
Financial performance and liquidity
| Metric | 1Q 2021 | 1Q 2020 | Change |
|---|---|---|---|
| Net sales | $1,847.4 million | $1,783.8 million | +3.6% |
| Operating profit (loss) | $265.6 million | $(456.0) million | Returned to profit |
| Operating margin | 14.4% | (25.6)% | +40.0 percentage points |
| Net earnings attributable to Zimmer Biomet | $198.1 million | $(508.5) million | Returned to profit |
| Diluted EPS | $0.94 | $(2.46) | Improved $3.40 |
| Adjusted diluted EPS | $1.71 | $1.70 | Essentially flat |
| Net cash from operating activities | $246.5 million | $450.9 million | $(204.4) million |
Net sales benefited from recovery in elective procedures, particularly in Asia Pacific and the U.S., and favorable foreign exchange. Volume and mix contributed 2.5%, pricing reduced sales by 1.7%, and foreign exchange contributed 2.8%.
- Geography: Americas sales were $1,115.0 million, up 1.2%; EMEA sales were $384.2 million, down 3.5%; Asia Pacific sales were $348.2 million, up 22.4%.
- Products: Knees declined 2.3% to $614.3 million; Hips increased 3.3% to $447.0 million; S.E.T. increased 9.6% to $417.6 million; Dental & Spine increased 12.1% to $246.0 million.
- Expenses: SG&A declined to 41.7% of sales from 46.5%. Cost of products sold increased to 28.0% from 27.3%, primarily due to lower hedge gains, higher manufacturing costs, and lower average selling prices.
- Taxes: The effective tax rate was 10.4%, compared with negative 1.0% in the prior-year quarter, reflecting favorable Swiss tax-return adjustments and excess tax benefits from stock compensation.
- Cash and liquidity: Cash and equivalents were $724.3 million at March 31, 2021. The company had $1.0 billion available under a revolving facility maturing September 17, 2021 and $1.5 billion available under a multicurrency facility maturing November 1, 2024.
- Debt: Total debt was $7,838.7 million, including $300.0 million classified as current. The company repaid $200.0 million of floating-rate notes during the quarter and reported compliance with its credit agreement covenants.
Material changes versus the prior comparable period
- Profitability improved materially because the prior-year period included a $612.0 million goodwill impairment charge and $79.8 million of litigation-related charges. The 2021 quarter included no goodwill impairment and $6.1 million of litigation charges.
- Operating cash flow declined despite the return to profitability, primarily because U.S. and Japan accounts-receivable factoring programs had been terminated in the fourth quarter of 2020. The prior-year period also benefited from substantially higher factoring activity.
- Restructuring and other cost-reduction charges declined to $21.8 million from $45.0 million. The 2019 Restructuring Plan is expected to generate total charges of approximately $350 million to $400 million and gross annual pre-tax expense reductions of approximately $200 million to $300 million by the end of 2023.
- Interest expense increased due to debt transactions completed in 2020 and facility fees related to the September 2020 revolving facility.
- The company announced plans to spin off its Spine and Dental businesses into NewCo, targeted for mid-2022. Beginning April 1, 2021, management added an operating segment for the Global Dental and Americas Spine businesses.
Guidance, outlook, risks and unusual items
Management was optimistic that vaccine deployment could allow elective procedures to return toward pre-pandemic levels in some regions during 2021. Management also expects deferred procedure backlogs could support future market growth and believes operating margins could improve as sales recover without a proportional increase in fixed costs. The filing does not provide formal full-year revenue or earnings guidance. If exchange rates remain near recent levels, management estimated a favorable 1% to 2% impact on full-year 2021 sales.
- COVID-19: Ongoing surges, lockdowns, vaccine delays, and deferred elective surgeries could materially affect sales, earnings, cash flow, receivables, and goodwill valuations. EMEA remained under pressure, and the Americas CMFT reporting unit had fair value less than 5% above carrying value at the relevant impairment assessment.
- Spinoff: Completion depends on Board approval, favorable tax opinions and an IRS ruling, SEC effectiveness of a Form 10 registration statement, and other conditions. The transaction may not occur on the announced timeline or at all.
- Tax contingencies: The IRS issued a 2021 Revenue Agents’ Report proposing approximately $370 million of additional U.S. federal taxable income tax expense related to 2013, before interest and penalties, involving transfer pricing and cost-sharing matters. The company disputes the position and expects no reserve change within the next twelve months. The filing states that payment would not be required until applicable proceedings are completed.
- Regulatory and quality matters: An FDA warning letter concerning the Warsaw North Campus remained pending. Additional FDA action could restrict manufacturing, marketing, or sales and could materially affect results.
- Litigation: Estimated remaining liabilities included $49.8 million for Durom Cup claims, $53.3 million for Metal Reaction claims, and $75.7 million for Biomet metal-on-metal hip claims. Heraeus trade-secret litigation remains pending in multiple jurisdictions; potential damages and injunctive relief could be material.
- Other obligations: The company had $145.0 million of guaranteed deferred acquisition payments due in 2021 and $31.3 million of estimated contingent acquisition payments, subject to future sales performance.
Investor verification checklist
- Verify the pace and geographic consistency of elective-procedure recovery, especially EMEA versus Asia Pacific and the Americas.
- Reconcile reported GAAP earnings with adjusted EPS and assess the recurrence of amortization, restructuring, quality, litigation, and spinoff costs.
- Monitor cash conversion, inventory growth, receivables, and the effect of discontinued factoring programs on operating cash flow.
- Assess refinancing or repayment plans for the $300.0 million of current debt and the maturity profile of approximately $7.8 billion of total debt.
- Track conditions, costs, tax treatment, and timing of the proposed Spine and Dental spinoff.
- Follow the IRS transfer-pricing dispute, FDA warning-letter remediation, product-liability claims, and Heraeus proceedings for changes in exposure.