Baxter International Inc. — FY 2019 Form 10-K
Reporting period: Fiscal year ended December 31, 2019. Filed March 17, 2020. This is an annual report, not a standalone fourth-quarter filing; quarterly data are included.
Business context
Baxter supplies healthcare products including dialysis therapies, IV solutions and infusion systems, injectable pharmaceuticals, nutrition products, and surgical hemostats and sealants. It reports three geographic segments: Americas, EMEA, and APAC. Most revenue is generated outside the United States.
Key financial metrics
| Metric | FY 2019 | FY 2018, restated |
|---|---|---|
| Net sales | $11.362 billion | $11.099 billion |
| Sales growth | 2% reported; 5% constant currency | 5% reported; 4% constant currency |
| Gross margin | $4.761 billion; 41.9% | $4.759 billion; 42.9% |
| Operating income | $1.772 billion | $1.584 billion |
| Continuing-operations income | $1.011 billion | $1.552 billion |
| Diluted EPS from continuing operations | $1.93 | $2.84 |
| Operating cash flow, continuing operations | $2.110 billion | $2.017 billion |
| Capital expenditures | $696 million | $659 million |
| Cash and cash equivalents, year-end | $3.335 billion | $1.838 billion |
| Total debt, year-end | $5.124 billion | $3.483 billion |
Reported gross margin was essentially flat in dollars and down 1.0 percentage point as a share of sales. Management attributed underlying margin pressure to product mix, inventory write-downs, and additional costs at a U.S. dialyzer facility, partly offset by manufacturing efficiencies. SG&A declined to $2.535 billion from $2.620 billion; R&D was $595 million versus $654 million. Baxter paid $423 million in dividends and repurchased approximately 16.5 million shares for $1.3 billion during 2019.
Material changes and unusual items
- Sales increased 2% reported, with currency reducing growth by about three percentage points. Advanced Surgery grew 10% reported and Medication Delivery 5%; Renal Care and Clinical Nutrition were roughly flat.
- Continuing-operations income included a $755 million noncash pension-settlement charge after Baxter transferred approximately $2.4 billion of U.S. qualified pension liabilities to an insurer. FY 2019 fourth-quarter net loss attributable to Baxter stockholders was $23 million, or $0.05 per diluted share.
- FY 2019 results also included $100 million of Hurricane Maria insurance recoveries and a $37 million insurance-related benefit from a legacy product matter. Business-optimization charges were $184 million; cumulative charges since 2015 were $980 million.
- Baxter acquired Cheetah Medical for approximately $195 million upfront, with up to $40 million in potential milestone payments. The Seprafilm acquisition closed in February 2020 for approximately $345 million and was not included in FY 2019 results.
Restatement, controls, risks, and outlook
- Baxter restated FY 2018 and FY 2017 results after finding that its historical foreign-exchange accounting convention did not comply with U.S. GAAP. The company said some intercompany transactions were undertaken after exchange rates were known solely to generate FX gains or avoid losses, a practice it believes had occurred for at least ten years. Restated continuing-operations income was lower by $78 million in 2018 and $115 million in 2017; diluted EPS was lower by $0.15 and $0.20, respectively. The six months ended June 30, 2019 were also restated, reducing income by $35 million and diluted EPS by $0.07.
- Management and the auditor concluded a material weakness in internal control over financial reporting remained at December 31, 2019; disclosure controls were also ineffective. The auditor gave an unqualified opinion on the financial statements but an adverse opinion on internal control. Remediation measures include U.S. GAAP exchange rates, automated rate feeds and comparisons, stronger approval requirements for intercompany transactions, and additional treasury personnel.
- The company was cooperating with the SEC and disclosed a securities class-action suit and a shareholder books-and-records request related to the FX matter. Potential regulatory actions, legal costs, reputational harm, and further reporting or control issues remain risks.
- Management expected a FY 2020 U.S. GAAP effective tax rate of approximately 17.5% and anticipated higher capital expenditures, partly in response to possible changes in U.S. kidney-care policy. It expected to realize the remaining savings from its current optimization program by the end of 2023; approximately 95% of expected annual pretax savings had been realized by year-end 2019.
- COVID-19 had not significantly affected Baxter financially at the filing date, but management warned that demand shifts, workforce availability, supply chains, and distribution could be disrupted. Other prominent risks include product quality and regulatory matters, pricing and reimbursement pressure, foreign-exchange exposure, and competition. The Claris Ahmedabad facility remained subject to an FDA Warning Letter; Baxter reported the North Cove and Jayuya FDA Warning Letter was closed in September 2019.
Most important facts for investors to verify
- Whether Baxter’s FX-related material weakness is fully remediated and whether any further restatements or SEC actions arise.
- How much of the $755 million pension charge and other special items should be excluded when assessing sustainable earnings and margins.
- Whether reported sales growth, product-level momentum, and margin performance continue after currency effects and temporary competitor supply disruptions.
- Whether cash generation, debt levels, and planned capital spending remain consistent with the company’s stated financial flexibility and investment plans.
- Developments in COVID-19 effects, kidney-care reimbursement policy, the Claris Warning Letter, litigation, and other regulatory or quality matters.