Pfizer Inc. — Q3 2016 Form 10-Q
Business context and period. The quarter ended October 2, 2016; the filing was submitted November 10, 2016. Results cover Pfizer’s Innovative Health (IH) and Essential Health (EH) businesses. The interim financial statements are unaudited; the independent accountant performed a review, not an audit. Comparisons are affected by acquisitions, especially Hospira: 2016 includes nine months of Hospira operations, versus only one month of Hospira U.S. operations in the comparable 2015 periods. Medivation contributed only three business days to reported results.
Financial performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Revenue | $13.045bn | $12.087bn | $39.196bn | $34.804bn |
| Income from continuing operations | $1.320bn | $2.130bn | $6.380bn | $7.141bn |
| Pfizer-attributable net income | $1.320bn | $2.130bn | $6.355bn | $7.132bn |
| Diluted EPS, net income | $0.21 | $0.34 | $1.03 | $1.14 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $9.929bn | $9.790bn |
| Cash dividends per share paid | $0.30 | $0.28 | $0.90 | $0.84 |
- Revenue and segments: Revenue increased 8% in Q3 and 13% for nine months. Reported growth included substantial Hospira contributions; Pfizer also cited operational growth from Ibrance, Eliquis, Xeljanz, Lyrica and Chantix. IH revenue was $7.332bn in Q3 (+9%) and $21.471bn for nine months (+12%); EH revenue was $5.712bn (+7%) and $17.725bn (+13%). Foreign exchange reduced consolidated revenue growth by $224m in Q3 and $1.3bn for nine months. The first nine months also had four more selling days than 2015, adding an estimated $800m; Pfizer expected this difference to reverse in Q4.
- Margins and expenses: Cost of sales was 23.6% of revenue in Q3 versus 18.4%, and 23.2% for nine months versus 17.9%. The implied gross margin was 76.4% in Q3 versus 81.6%. Higher-cost Hospira product mix, loss of exclusivity, royalties and foreign exchange contributed to the cost increase. GAAP continuing-operations margin was 10.1% in Q3 versus 17.6%, and 16.3% for nine months versus 20.5%. R&D expense was $1.881bn in Q3 (+9%) and $5.360bn for nine months (approximately flat); SI&A was $3.559bn (+9%) and $10.414bn (+7%).
- Adjusted results (non-GAAP): Adjusted diluted EPS was $0.61 in Q3 versus $0.60 and $1.91 for nine months versus $1.67. Adjusted net income was $3.726bn and $11.807bn, respectively. These measures exclude purchase-accounting effects, acquisition costs and specified significant items; they are not GAAP measures.
- Cash, liquidity and debt: At October 2, cash and cash equivalents were $2.094bn; short- and long-term investments totaled $21.784bn. Total debt was $44.070bn ($13.633bn short-term, including current maturities, and $30.437bn long-term), yielding reported net financial liabilities of $20.192bn. At year-end 2015, net financial assets were $391m. Working capital was $3.742bn versus $14.405bn; the current ratio was 1.11 versus 1.49. Nine-month investing cash use was $4.704bn and financing cash use was $6.693bn. Pfizer issued $5bn of long-term notes at a weighted-average effective rate of 2.09%.
Material changes, outlook and risks
- Significant items: Q3 included a $1.422bn pre-tax impairment to write down Hospira Infusion Systems (HIS) ahead of its planned sale; the charge was a major contributor to lower GAAP earnings. Nine-month other deductions also included a $486m Celebrex/Bextra securities-litigation settlement accrual, subject to court approval, and asset impairments including write-downs of acquired intangible assets and equity-method investments. The effective tax rate was 17.7% in Q3 and 15.8% for nine months, below the prior-year rates of 21.0% and 23.4%; management cited earnings mix, the U.S. R&D tax credit and, for the nine-month period, other tax benefits.
- Portfolio and corporate actions: Pfizer acquired Anacor, Bamboo and Medivation in 2016; Medivation consideration was approximately $14.3bn in cash, and its purchase-price allocation remained provisional. The Allergan merger agreement was terminated in April; Pfizer paid $150m of expense reimbursement. Pfizer agreed to sell HIS to ICU Medical for approximately $1bn in cash and stock, subject to conditions and expected to close in Q1 2017; the impairment’s final amount could change. An AstraZeneca anti-infectives rights acquisition was pending, with stated upfront and deferred payments and potential milestones and royalties.
- Guidance: On November 1, 2016, Pfizer updated full-year guidance: revenue $52.0–$53.0bn; adjusted diluted EPS $2.38–$2.43; adjusted cost of sales 21.5%–22.0% of revenue; adjusted SI&A $14.2–$14.7bn; adjusted R&D $7.8–$8.1bn; and approximately $600m adjusted other income. Guidance incorporates estimated negative impacts of $1.8bn from generic competition and $1.4bn from foreign exchange, including $800m from Venezuela. It also reflects a $300m estimated 2016 adjusted R&D expense impact and $0.04 EPS impact from discontinuing bococizumab. Pfizer does not provide a forward GAAP reconciliation, citing unpredictable litigation, unusual items and acquisition expenses.
- Management commentary and principal risks: Pfizer said it would retain its current two-business structure rather than split IH and EH. Management emphasized growth investments in innovative medicines and efficiency and cash generation in EH. Key risks include generic and biosimilar competition, pricing and payer pressures, regulatory and clinical-development outcomes, foreign exchange and Venezuelan economic conditions, acquisition integration and impairment risk, and legal proceedings. The filing states that management does not believe pending matters will materially harm financial position, but adverse resolutions could materially affect results or cash flows; it cannot estimate reasonably possible losses above accrued amounts. Pfizer noted no material change to the risk factors in its 2015 Form 10-K.
Investor facts to verify
- Assess underlying growth apart from Hospira acquisition effects, foreign exchange and the extra selling days in the first nine months.
- Track delivery against updated 2016 guidance, particularly generic erosion, currency/Venezuela assumptions and the bococizumab close-out costs.
- Verify closing terms and final proceeds/impairment outcome for the HIS sale, and the status and economics of the pending AstraZeneca transaction.
- Review acquired-asset valuations, amortization and potential further impairments, alongside the expected benefits and integration costs of recent acquisitions.
- Monitor debt and liquidity after acquisition spending, and developments in significant litigation, tax audits and other contingencies.