Cardinal Health, Inc. — Q2 FY2022 Form 10-Q
Reporting period: Quarter and six months ended December 31, 2021. Fiscal year ends June 30. Comparisons are year over year unless noted.
Business context and results
Cardinal Health is a healthcare services and products company operating through Pharmaceutical and Medical segments. Revenue growth came primarily from pharmaceutical distribution and specialty pharmaceutical sales, largely branded drugs sold to large customers.
| Metric | Q2 FY2022 | Q2 FY2021 | Six months FY2022 | Six months FY2021 |
|---|---|---|---|---|
| Revenue | $45.46B | $41.54B | $89.43B | $80.61B |
| Gross margin | $1.62B | $1.78B | $3.26B | $3.49B |
| GAAP operating earnings (loss) | $(950)M | $461M | $(535)M | $(163)M |
| GAAP net earnings attributable to Cardinal Health | $49M | $629M | $320M | $376M |
| GAAP diluted EPS | $0.17 | $2.13 | $1.12 | $1.27 |
| Non-GAAP operating earnings | $467M | $628M | $994M | $1.25B |
| Non-GAAP diluted EPS | $1.27 | $1.74 | $2.56 | $3.26 |
Gross margin declined 9% in Q2 and 7% for the six-month period; gross margin rate fell 72 and 69 basis points, respectively. Branded pharmaceutical mix diluted the overall margin rate, while Medical faced inflation and supply constraints.
Segment performance and material changes
- Pharmaceutical: Revenue rose 11% in Q2 to $41.38B and 12% for the six months to $81.20B. Segment profit increased 3% to $426M in Q2 and 2% to $832M for six months, helped by improving generics volumes. Q2 profit included a $16M ordinary-course intellectual property judgment.
- Medical: Revenue declined 5% in Q2 to $4.09B and was essentially flat at $8.23B for six months. Segment profit fell 79% to $50M in Q2 and 63% to $173M for six months. Drivers included commodity and freight inflation, supply-chain constraints, Cordis divestiture, and comparison with prior-year PPE results.
- Goodwill impairment: Cardinal recorded a $1.3B non-cash, pre-tax Medical goodwill impairment in Q2. The Medical Unit carrying value after impairment was $8.1B, including $2.8B of goodwill. Management cited adverse Medical results, inflation and supply disruptions.
- Cordis divestiture: Sold in August 2021 for $927M net of cash transferred. Cardinal retained certain liabilities, including U.S. and Canadian IVC filter product liability. Management expected the sale to reduce FY2022 Medical revenue by about $700M and profit by about $70M.
Cash flow, debt and liquidity
- Six-month operating cash flow was $549M, down from $1.49B. It included the majority of the first annual opioid settlement payment placed in escrow. Investing cash flow included $938M of divestiture and asset-sale proceeds; capital expenditures were $141M.
- Cash and equivalents were $3.16B at December 31, 2021, compared with $3.41B at June 30, 2021. The company used $800M for share repurchases, $592M for debt repayment and $289M for dividends during the six months.
- Total debt and other short-term borrowings were $5.6B, down from $6.2B. No amounts were drawn under the $2.0B commercial paper/revolving credit facilities or the $1.0B committed receivables facility; the company was compliant with its 3.75-to-1 leverage covenant.
- Management said available capital, committed facilities and projected operating cash flow were adequate for anticipated needs, including debt service, dividends, repurchases and opioid settlement payments. The company had filed for a $974M federal tax refund and expected receipt within 12 months.
Outlook, contingencies and risks
- Management expected inflation and global supply constraints to continue to pressure Medical segment profit in FY2022. Cost savings and price increases were planned, but could be insufficient or delayed. Pharmaceutical transportation and labor cost increases were not expected to have a meaningful FY2022 segment-profit impact.
- Management anticipated the COVID-19 impact on consolidated operating earnings to be more favorable in FY2022 than the prior year, including because of the prior-year $197M PPE inventory reserve. Pandemic duration, demand and economic effects remain uncertain.
- The proposed opioid settlement could require Cardinal to pay up to approximately $6.37B, mostly over 18 years, subject to participation and other conditions. The company had accrued $6.68B for certain opioid litigation at quarter-end; final exposure may differ materially, and management could not estimate a range of reasonably possible additional losses. The agreement was not yet effective at the filing date.
- Opioid matters also include unresolved trials, private-party claims, DOJ investigations and separate negotiations with Native American tribes and West Virginia subdivisions. The proposed governmental settlement does not cover private claims. Cardinal stated that unfavorable outcomes could materially affect earnings, cash flows, liquidity or its ability to return capital.
- Cardinal had accrued $554M, net of estimated insurance recoveries, for Cordis IVC filter claims; the estimated high end of the loss range was approximately $1.09B net of estimated recoveries. Cardinal also disclosed an SEC inquiry concerning, among other matters, Cordis inventory and Medical goodwill.
- The roughly $1.0B interim tax benefit associated with the goodwill impairment is expected to reverse during the remainder of FY2022; the estimated net tax benefit related to the impairment for FY2022 was $92M. The unusually high reported effective tax rates reflect these tax effects.
Most important facts for investors to verify
- Progress and final terms of the opioid settlement, including participation, required approvals, escrow treatment and payments not covered by the settlement.
- Medical segment recovery: realized price increases and cost savings, persistence of freight and commodity inflation, supply constraints and any further goodwill impairment.
- Underlying earnings and cash generation, with close attention to the gap between GAAP and non-GAAP results and the timing of the impairment-related tax benefit reversal.
- Actual Cordis-related revenue and profit impacts, stranded or transition-service costs, and developments in retained IVC filter liabilities and insurance recovery.
- Collection of the $974M tax refund and continued liquidity, covenant compliance and capital returns amid settlement obligations.