Boston Scientific Corporation — Q3 2012 Form 10-Q
Reporting period: Three and nine months ended September 30, 2012. Boston Scientific develops, manufactures and markets medical devices. Figures are in U.S. dollars; millions unless stated otherwise.
Financial results and liquidity
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Net sales | $1,735 | $1,874 | $5,428 | $5,774 |
| Gross profit | $1,177 | $1,194 | $3,661 | $3,775 |
| Gross margin | 67.8% | 63.7% | 67.5% | 65.4% |
| Operating income (loss) | $(594) | $174 | $(3,985) | $734 |
| Net income (loss) | $(664) | $142 | $(4,129) | $334 |
| Diluted EPS | $(0.48) | $0.09 | $(2.91) | $0.22 |
- Revenue trends: Sales fell 7% year over year in Q3 and 6% for the nine-month period. Excluding currency and divested-business effects, management reported declines of 5% and 4%, respectively.
- Profitability: GAAP losses chiefly reflect $748 million of Q3 goodwill impairment, following a $3.602 billion EMEA goodwill impairment in Q2. Total goodwill impairment for the nine months was $4.350 billion. Management’s non-GAAP adjusted net income was $221 million ($0.16 per share) in Q3 and $680 million ($0.48 per share) for nine months, excluding specified items.
- Cash flow: Operating cash flow was $891 million for nine months, versus $659 million a year earlier. Investing used $306 million and financing used $502 million. Cash and cash equivalents ended at $352 million.
- Liquidity and debt: Working capital was $1.358 billion; current assets were $3.173 billion and current liabilities $1.815 billion. Total debt was $4.255 billion, including $4.252 billion long-term debt. No borrowings were outstanding on the $2.0 billion revolving facility. The company reported compliance with its covenants; leverage was 2.4x against a 3.5x maximum and interest coverage 6.6x against a 3.0x minimum.
Material changes and business performance
- Q3 constant-currency sales declines were concentrated in Interventional Cardiology (down 17%), including coronary stent systems, and CRM (down 6%). Coronary stent sales fell 25% as reported, with U.S. DES sales pressured by competition, lower procedure volumes and pricing. CRM sales fell 8% as reported, reflecting U.S. market contraction, lower volumes and pricing pressure.
- Endoscopy and Peripheral Interventions each grew 7% on a constant-currency basis in Q3; Neuromodulation grew 5%. Inter-Continental regional sales rose 12% constant currency, supported by emerging markets.
- Gross margin improved 4.1 percentage points in Q3 and 2.1 points for nine months. Drivers included the shift to internally manufactured PROMUS Element stents and cost reductions; pricing and sales mix were offsets.
- SG&A declined 6% in Q3 but increased 2% for nine months. R&D declined 4% and 3%, respectively, but rose as a share of sales. The company expected R&D spending to increase in Q4, partly due to acquisitions.
Outlook, risks and unusual items
- No specific consolidated revenue or earnings guidance is provided in the supplied filing text. Management expected continued investment in new products and emerging markets, and forecast $225 million to $275 million of annual pre-tax operating expense reductions from the 2011 restructuring plan exiting 2013. Plant optimization was expected to deliver about $65 million of annualized manufacturing cost reductions exiting 2012.
- The Q3 U.S. CRM goodwill impairment was an estimated amount pending completion of the second-step test; any adjustment was to be recognized in Q4. Management highlighted sensitivity of remaining CRM intangible assets and goodwill in U.S. CRM, U.S. Cardiovascular and U.S. Neuromodulation to future sales, margins, discount rates and market assumptions.
- Acquisitions create potential contingent payments: maximum undiscounted future contingent consideration was approximately $1.927 billion at September 30. Following FDA approval of Cameron Health’s S-ICD in September, the company expected a $150 million milestone payment in Q4. October acquisitions of Rhythmia and Bridgepoint involved about $100 million upfront and up to $265 million additional contingent payments.
- Legal accruals were $411 million, up from $299 million at year-end. Risks include ongoing patent disputes, more than 2,500 transvaginal mesh product-liability cases, and governmental investigations. The company is substantially self-insured for product liability and IP claims.
- The IRS asserted an additional $1.162 billion tax liability plus interest for disputed years; the company contests the assessment. Management considered its reserves adequate, but acknowledged final resolution could materially affect financial condition, results or cash flows. Gross unrecognized tax benefits were $990 million.
- European sovereign-debt conditions were affecting receivables factoring and collection timing in parts of southern Europe. Management was pursuing alternative arrangements and monitoring collectibility.
Important facts for investors to verify
- Final Q4 determination of the estimated $748 million U.S. CRM goodwill impairment and any further impairment charges.
- Whether CRM and coronary stent sales, pricing and procedure volumes stabilize, and whether new product launches gain adoption.
- Cash generation, receivable collections in southern Europe, restructuring savings and associated cash costs.
- Contingent acquisition payments, including the Cameron milestone and future revenue-based earn-outs.
- Developments in the IRS dispute, mesh litigation and other legal matters, including possible effects on cash flow and debt-covenant headroom.
- Adjusted earnings and constant-currency growth are non-GAAP measures; assess them alongside reported GAAP results and the exclusions described in the filing.