Cardinal Health, Inc. — Q2 FY2023 Form 10-Q
Business context and reporting period. Cardinal Health is a healthcare services and products company with Pharmaceutical and Medical segments. This unaudited filing covers the quarter and six months ended December 31, 2022; comparisons are with the prior-year periods.
Financial results and key metrics
| Metric | Three months ended Dec. 31, 2022 | Six months ended Dec. 31, 2022 | Year-over-year comparison |
|---|---|---|---|
| Revenue | $51.5 billion | $101.1 billion | Up 13% in both periods |
| Gross margin | $1.663 billion | $3.277 billion | Up 3% and 1%; gross margin rate fell 33 and 40 basis points, respectively |
| GAAP operating earnings/(loss) | $(119) million | $18 million | Prior year: $(950) million and $(535) million |
| Non-GAAP operating earnings | $467 million | $891 million | Flat and down 10% |
| GAAP diluted EPS | $(0.50) | $(0.08) | Prior year: $0.17 and $1.12 |
| Non-GAAP diluted EPS | $1.32 | $2.52 | Up 4% and down 2% |
| Net earnings/(loss) attributable to Cardinal Health | $(130) million | $(20) million | Prior year: $49 million and $320 million |
Pharmaceutical revenue rose 15% in each period, primarily from branded and specialty product growth, including sales to existing and new customers. Medical revenue declined 7% for the quarter and 8% for six months, reflecting lower product and distribution sales, including weaker PPE pricing and volumes; at-Home Solutions growth partly offset the decline. Quarterly Pharmaceutical segment profit rose 9% to $464 million, while Medical segment profit fell 66% to $17 million. For six months, segment profit was $895 million in Pharmaceutical, up 8%, and $9 million in Medical, down 95%.
GAAP results included Medical goodwill impairment charges of $709 million for the quarter and $863 million for six months. Litigation recoveries partly offset these charges. Non-GAAP measures exclude specified items and are supplemental, not substitutes for GAAP measures.
Cash flow, liquidity and capital
- Cash and equivalents were $3.654 billion at December 31, 2022, down from $4.717 billion at June 30, 2022. Six-month operating cash flow was $620 million, compared with $549 million a year earlier.
- Operating cash flow reflected working-capital movements, including a $1.643 billion inventory increase, a $919 million increase in receivables, and a $2.954 billion increase in accounts payable. It also included the $372 million opioid settlement payment.
- Six-month cash uses included $1.250 billion of share repurchases, $271 million of dividends, and $155 million of capital expenditures. The company repurchased $1.3 billion of shares in aggregate and had approximately $1.5 billion remaining under its authorization at December 31.
- Total long-term obligations, including current portions and other short-term borrowings, were $5.3 billion, broadly unchanged from June 30. The company planned to repay $550 million of 3.2% notes at their March 2023 maturity.
- No amounts were drawn under the $2.0 billion commercial paper program/revolving facility or the $1.0 billion receivables sales facility. The company was in compliance with the facilities’ maximum 3.75-to-1 net leverage covenant.
- Current assets were $34.6 billion and current liabilities $33.2 billion. Management said cash, committed facilities and projected operating cash flow should provide adequate resources for anticipated needs and obligations.
Material changes, outlook and risks
- Medical segment pressures: Lower product and distribution volumes, inflation in transportation, commodities and labor, and reduced PPE prices and volumes weighed on results. Price increases and contracting changes are intended to mitigate cost inflation, but management cautioned that costs may exceed expectations or persist longer; savings may lag as higher-cost inventory moves through the supply chain. Inflation is also expected to affect Pharmaceutical profit, though to a lesser extent.
- Goodwill impairment: The company recorded $863 million of Medical Unit impairment during the six months, following lower long-term assumptions that included Cardinal Health-branded medical product sales growth. The Medical Unit’s post-impairment carrying value was $6.2 billion, including $1.1 billion of goodwill. Further adverse changes in assumptions or industry conditions could cause additional impairment. A hypothetical 0.5 percentage-point increase in the discount rate or 1.75 percentage-point decrease in terminal growth would have reduced estimated fair value by about $250 million.
- Opioid matters: The company had $5.89 billion accrued for opioid litigation at December 31, primarily under the national settlement, with most remaining payments expected over 17 years. It made its second $372 million annual payment and expects annual payments each July under the 18-year settlement. Separate West Virginia and Native American settlements provide for payments of up to approximately $124 million and $136 million, respectively. Management cannot estimate a range of reasonably possible additional losses.
- Other litigation and investigations: Approximately 468 private opioid lawsuits, including 88 purported class actions, were reported as of January 31, 2023; trials were underway or scheduled. DOJ investigations concerning controlled-substance distribution and anti-diversion practices continue, and the company said it cannot predict their outcome. It also retained Cordis IVC filter liabilities; $471 million was accrued, with an estimated high end of the loss range of approximately $826 million.
- Unusual items and tax: Quarterly litigation income included $93 million net proceeds from a shareholder derivative settlement and $66 million from antitrust lawsuit recoveries. The derivative case was dismissed without an admission of liability. Goodwill impairment effects contributed to unusual effective tax rates; an incremental interim tax benefit of about $140 million was expected to reverse in later FY2023 quarters.
- Strategy and outlook: A September 2022 agreement with Elliott added four directors and established a Board Business Review Committee to assess strategy, portfolio, capital allocation and operations. The review may lead to actions, costs or disruption; additional advisory-related expenses were expected. The filing discusses trends and risks but does not provide a clear quantitative full-year earnings or revenue guidance value.
- Other risks: The filing notes potential effects from tax-law changes, including the U.S. corporate minimum tax and tax on share repurchases, and possible challenges to tax positions. Disclosure controls were assessed as effective, with no material change in internal control over financial reporting during the quarter.
Most important facts for investors to verify
- Whether Medical segment recovery plans, pricing actions and branded-product initiatives meet assumptions used in the goodwill valuation, and whether further impairment is likely.
- Whether inflation, product volumes and PPE pricing continue to pressure Medical profit, and whether Pharmaceutical growth and generics performance offset those pressures.
- Cash conversion and working-capital needs, particularly inventory and receivables, alongside the scale of share repurchases and upcoming debt repayment.
- The timing and adequacy of opioid and IVC filter accruals, remaining private litigation exposure, and developments in DOJ investigations.
- The effect of the Board’s strategic review, future related costs, and any resulting changes to capital allocation or operations.
- The reversal of the interim tax benefit and any developments in tax audits, unrecognized tax benefits or tax-law exposure.