Business context and reporting period
This is AmerisourceBergen Corporation’s Form 10-Q for the fiscal third quarter ended June 30, 2017, with year-to-date results for the nine months ended that date. The filing predates the company’s later name, Cencora. AmerisourceBergen distributes pharmaceuticals and provides related services; its reportable segments were Pharmaceutical Distribution Services and Other.
Financial results and liquidity
| Metric | Q3 FY2017 | Q3 FY2016 | Nine months FY2017 | Nine months FY2016 |
|---|---|---|---|---|
| Revenue | $38.71B | $36.88B | $114.02B | $109.29B |
| Gross profit | $1.080B | $1.108B | $3.374B | $3.148B |
| Operating income | $170.4M | $528.6M | $1.195B | $1.301B |
| Net income | $50.4M | $349.2M | $709.1M | $1.282B |
| Diluted EPS | $0.23 | $1.55 | $3.20 | $5.68 |
- Q3 gross margin was approximately 2.8%, versus 3.0% a year earlier; operating margin was approximately 0.4%, versus 1.4%.
- For the nine months, gross margin was approximately 3.0%, versus 2.9%; operating margin was approximately 1.0%, versus 1.2%.
- Operating cash flow for the nine months was $123.7M, down from $1.824B. The decrease reflected working-capital outflows, including accounts receivable growth of $1.419B and inventory growth of $829.9M, partly offset by a $877.0M increase in accounts payable.
- Capital expenditures were $371.4M year to date. Investing cash outflow was $406.6M; financing cash outflow was $1.147B. Cash declined $1.430B to $1.311B.
- At June 30, total debt was $3.433B, including $4.1M current debt; long-term debt was $3.429B. The company repaid $600M of senior notes due in May. Cash was $1.311B, and disclosed additional availability under credit facilities was approximately $2.460B. The company reported compliance with its debt covenants.
- Quarterly declared dividend was $0.365 per share, up from $0.340. Year-to-date common-stock purchases were $229.9M, including completion of a prior authorization and $111.1M under the new program.
Material changes versus prior comparable periods
- Revenue grew 4.9% in Q3 and 4.3% year to date. Q3 growth was led by larger ABDC customers, oncology and other ABSG activity, and growth in MWI and manufacturer services; Hepatitis C product sales declined.
- Q3 gross profit fell 2.5%, despite a $105.1M year-over-year improvement in LIFO expense, because prior-year antitrust settlement gains were $121.0M higher and Pharmaceutical Distribution Services gross profit declined. Year-to-date gross profit rose 7.2%, primarily due to a $357.2M favorable LIFO comparison, partly offset by lower antitrust gains and weaker Pharmaceutical Distribution Services gross profit.
- Pharmaceutical Distribution Services gross profit declined 4.4% in Q3 and 2.7% year to date. Management cited less favorable Kaiser and GPO contract terms, lower price appreciation, larger lower-margin customer sales, and reduced PharMEDium shipments during quality-system investment. Other segment operating income increased 14.8% in Q3 and 15.1% year to date.
- Q3 net income and EPS were sharply lower, reflecting $284.5M of employee severance, litigation and other expense, the lack of the prior-year $121.0M antitrust gain, and higher effective taxes. The prior-year comparison also included warrant income; the warrants had been exercised by August 2016.
- Prior-year financial statements were revised for lease accounting corrections: diluted EPS was reduced by $0.01 in both the three- and nine-month 2016 periods; the corrections did not affect 2016 nine-month net cash change.
Outlook, commentary, risks and unusual items
- Management expected FY2017 revenue growth of approximately 5%, operating cash flow of $1.2B–$1.5B, and capital expenditures of approximately $500M. Management attributed the expected cash-flow decline versus FY2016 partly to changed payment terms with its largest customer, other customer working-capital needs, and an anticipated $260M settlement payment before September 30, 2017.
- The company recorded $273.4M of Q3 litigation charges, including a $260M agreement in principle with the U.S. Attorney’s Office for the Eastern District of New York (USAO-EDNY) tied to a subsidiary’s misdemeanor FDCA plea and a compliance agreement, plus a $13.4M agreement in principle involving U.S. Bioservices. The EDNY matter remained subject to final terms and court approval; related alleged civil False Claims Act claims remained unresolved, with loss range not estimable. Year-to-date litigation charges were $289.4M, including a $16M West Virginia settlement.
- Investigations into controlled-substance diversion and related suits by local governments and other plaintiffs remained ongoing. The company said it could not assess likely outcomes or exposure for numerous pending or threatened matters; some losses may be significant. It stated it would vigorously defend itself.
- Q3 and nine-month effective tax rates were 62.2% and 34.9%, respectively, versus 29.6% and negative 6.9% in 2016. Non-deductible legal settlement charges affected 2017 rates; the 2016 nine-month rate benefited from an IRS private-letter ruling related to warrant exercises.
- Management cited risks including drug-price inflation or deflation, competition and customer or supplier consolidation, reimbursement pressure, major-customer payment terms, regulatory scrutiny of pharmaceutical distribution and compounding, litigation, and interest-rate and foreign-exchange exposure. It expected lower PharMEDium contribution through the rest of FY2017 while quality procedures were implemented.
- Revenue from arrangements with related party Walgreens Boots Alliance was $11.2B in Q3 and $33.4B year to date; the related receivable, net of incentives owed, was $5.0B at June 30. Disclosure controls were deemed effective, with no material change in internal control reported for the quarter.
Important facts for investors to verify
- Final terms, payment timing, and court approval for the $260M USAO-EDNY agreement, and the status and potential exposure of related civil claims.
- Developments in controlled-substance investigations and the growing set of state and local lawsuits, for which the filing gives no estimable loss range.
- Whether operating cash flow reaches management’s $1.2B–$1.5B FY2017 outlook, given customer payment terms and working-capital volatility.
- Whether distribution margins and PharMEDium performance recover, considering contract economics, price appreciation, customer mix, and quality-system work.
- How the unusually favorable LIFO credits and prior-year antitrust and warrant-related benefits affect the comparability of reported earnings.
- Ongoing WBA relationship and receivable exposure, as well as the company’s ability to maintain liquidity while funding debt, dividends, repurchases, and planned capital investment.