Labcorp Holdings Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; unaudited. Labcorp operates LabCorp Diagnostics (LCD) and Covance Drug Development (CDD), contributing 71.3% and 28.7% of net revenue, respectively.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net revenue | $2,408.1 million | $2,295.2 million | +4.9% |
| Total revenue, including reimbursable expenses | $2,447.0 million | $2,368.0 million | +3.3% |
| Gross profit | $803.6 million | $777.3 million | +3.4% |
| Operating income | $332.7 million | $299.5 million | +11.1% |
| Net earnings attributable to Labcorp | $192.2 million | $164.1 million | +17.1% |
| Diluted earnings per share | $1.84 | $1.58 | +16.5% |
| Cash provided by operating activities | $233.8 million | $127.6 million | +$106.2 million |
- Operating margin on net revenue was approximately 13.8%, compared with 13.1%. Net cost of revenue was 66.6% of net revenue, versus 66.1%.
- LCD revenue grew 8.0% to $1,717.9 million; operating earnings rose 12.7% to $309.5 million, and operating margin improved to 18.0% from 17.3%.
- CDD revenue declined 2.0% to $690.3 million; operating earnings fell 10.8% to $56.1 million, and operating margin narrowed to 8.1% from 8.9%.
- Cash and equivalents were $365.5 million at March 31, down from $433.6 million at year-end. Current assets of $2,486.0 million exceeded current liabilities of $1,753.2 million.
- Total debt was approximately $5,921.1 million, versus $5,849.5 million at December 31, 2016. The company reported total debt to trailing-12-month EBITDA of 3.1x and compliance with credit-facility covenants. Its revolving facility had $96.0 million drawn; letters of credit totaling $66.0 million reduce availability.
- Investing cash outflow was $245.5 million, including $151.8 million for acquisitions; capital expenditures were $72.2 million. Financing cash outflow was $59.8 million, including $148.0 million of share repurchases.
Changes and management commentary
- LCD growth reflected organic volume (+1.8%), price and mix (+2.4%), and acquisitions (+3.9%). CDD was affected by lower demand following sponsors’ cancellation of two large studies in late 2016 and slower conversion of backlog; foreign currency also reduced CDD revenue.
- Management attributed higher operating income mainly to LCD growth and LaunchPad savings. It said the initiative remained on track to deliver $150 million of net savings over the three-year period ending in 2017. Covance integration synergies were expected to reach $100 million over that period.
- After quarter-end, Labcorp announced a two-phase expansion of LaunchPad to CDD. The 2017 first phase includes a workforce reduction and is expected to generate approximately $20 million in 2017 savings and $45 million annualized thereafter, with approximately $30 million in 2017 pre-tax charges. Further details on the second phase were expected later in 2017.
- Management expects 2017 capital expenditures of approximately 3.0% of net revenue and intends to continue pursuing acquisitions and business investments.
- The company is monitoring two CDD reporting units previously assessed for goodwill impairment; a future goodwill or intangible-asset impairment could materially affect operating income.
Risks, contingencies, and unusual items
- Q1 restructuring and special charges were $3.9 million, compared with $19.2 million a year earlier. The prior-year charges included significant facility-closure costs.
- Q1 tax expense was $87.2 million and the effective rate was 31.2%, versus 35.2% a year earlier; management cited a larger stock-compensation tax benefit in 2017.
- Legal matters include healthcare billing and False Claims Act proceedings, consumer and employment class actions, and subpoenas concerning trading in Sequenom shares. The company said it could not estimate reasonably probable losses for certain proceedings; it did not believe currently available information indicated a material adverse effect on financial condition, though individual-period results could be affected.
- Key business risks include reimbursement and regulatory changes, pricing and competition, payer and customer shifts, acquisition integration, CDD demand and backlog conversion, information-security and system risks, and litigation. The filing reported no material change to the risk factors in the 2016 Form 10-K.
- Revenue-recognition guidance effective in 2018 is expected to affect reported LCD margins and CDD revenue and margins; the company had not yet quantified the overall impact.
Investor verification priorities
- Track whether LCD organic growth and CDD backlog conversion improve, and whether CDD operating margins stabilize.
- Verify delivery of LaunchPad savings and compare them with the announced CDD restructuring charges and workforce actions.
- Monitor debt, leverage, liquidity, and cash requirements from convertible-note conversions, acquisitions, and share repurchases.
- Review goodwill and intangible-asset impairment assumptions for the two CDD reporting units.
- Follow developments and potential financial exposure in disclosed legal proceedings, and quantify the effects of the upcoming revenue-recognition standard when available.