AmerisourceBergen Corporation (now Cencora, Inc.) — Fiscal 2014 Second-Quarter 10-Q
Reporting period: Quarter and six months ended March 31, 2014. The filing is under the company’s former name, AmerisourceBergen Corporation. Financial amounts below are in millions of dollars unless otherwise noted.
Business context and results
The company distributes pharmaceuticals and related services through its Pharmaceutical Distribution segment; Other includes consulting services and World Courier. Revenue growth was driven primarily by the Walgreens distribution agreement, which took effect in September 2013.
| Metric | Three months ended March 31, 2014 | Prior-year quarter | Six months ended March 31, 2014 | Prior-year six months |
|---|---|---|---|---|
| Revenue | $28,455.9 | $20,523.7 | $57,632.3 | $41,583.5 |
| Gross profit | $729.6 | $717.0 | $1,417.8 | $1,377.8 |
| Operating income | $301.1 | $350.1 | $460.7 | $649.6 |
| Continuing-operations income | $180.1 | $204.1 | $229.0 | $378.8 |
| Net income | $180.1 | $45.6 | $221.5 | $214.2 |
| Diluted EPS from continuing operations | $0.76 | $0.87 | $0.97 | $1.61 |
- Quarterly revenue increased 38.6%; six-month revenue also increased 38.6%. Pharmaceutical Distribution revenue rose 39.3% and 39.1%, respectively. Walgreens added $6.6 billion of quarterly and $13.1 billion of six-month ABDC sales.
- Quarterly gross profit grew 1.8%, but operating income fell 14.0%; continuing-operations income fell 11.8%. For six months, operating income declined 29.1% and continuing-operations income declined 39.5%.
- Quarterly net income was higher than the prior-year quarter principally because the prior-year period included a $158.5 million after-tax discontinued-operations loss. The prior-year six-month period included a $164.5 million discontinued-operations loss; 2014 included a $7.5 million loss, primarily a final sale-related working-capital adjustment.
Cash flow, margins, debt and liquidity
- Cash flow: Six-month operating cash flow was $112.7 million, down from $743.7 million. Continuing-operations operating cash flow was $120.2 million. The 2014 period included a $1.5 billion inventory increase and a $495.5 million accounts-receivable increase, partly offset by a $1.6 billion increase in accounts payable, accrued expenses and income taxes.
- Investment and financing: Six-month capital expenditures were $125.4 million versus $88.4 million. The company used $252.0 million for share purchases, $108.4 million for dividends and $211.4 million for capped-call purchases. Cash declined by $534.3 million to $696.7 million from September 30, 2013.
- Margins: Pharmaceutical Distribution gross margin was 2.49% for the quarter and 2.28% for the six months, down 44 and 46 basis points, respectively, as lower-margin Walgreens and other large-customer business grew. Company gross profit increased only 1.8% in the quarter despite strong revenue growth.
- Debt and liquidity: Long-term debt was $1,396.9 million, consisting of fixed-rate notes due 2015, 2019 and 2021. No variable-rate debt was outstanding at quarter-end. The company reported $2,395 million of additional availability under its revolving, receivables securitization and revolving-credit facilities; it stated these resources, cash and supplier credit were sufficient for working-capital needs. It complied with applicable facility covenants.
- Seasonal intra-period borrowings reached a maximum of $1.1 billion during the six months and were fully repaid by period-end. Cumulative facility borrowings and repayments were each $16.1 billion.
Material changes, outlook and unusual items
- Management expected fiscal 2014 revenue growth of 30%–34%, operating cash flow of $800 million–$1.0 billion, and capital expenditures of approximately $300 million. It expected to repurchase $500 million of shares during fiscal 2014, subject to market conditions.
- Excluding warrant expense, management expected the fiscal 2014 effective tax rate to be in the low-38% range. The reported six-month effective tax rate was 46.3%, versus 38.1% a year earlier, reflecting quarterly changes in the warrant valuation.
- The Walgreens ramp drove higher sales and operating expenses, and required inventory and infrastructure investment. Management cited lower margins on the increased brand-business volume and competitive pressure on customer margins.
- LIFO expense was $102.8 million in the quarter and $160.4 million in the six-month period, compared with a $0.2 million credit and $1.0 million expense, respectively, a year earlier. Management said the annual LIFO estimate is sensitive to inventory levels, product mix and manufacturer pricing.
- Warrant-related operating expense was $122.0 million for six months, compared with $3.8 million a year earlier. The warrants issued to Walgreens and Alliance Boots had a reported fair value of $700 million at March 31, 2014. The company spent a total of $368.7 million on capped calls intended to hedge 60% of the warrant shares, subject to share-price caps and other conditions; exercise could still dilute shareholders.
- Significant disclosed legal matters include sealed qui tam allegations concerning pharmaceutical distribution, federal investigations and subpoenas concerning controlled-substance diversion controls, and a West Virginia controlled-substance complaint; motions to dismiss the amended complaint were pending. The company said it could not predict outcomes. The Department of Defense contract was scheduled to expire in March 2015; nonrenewal or less favorable terms could adversely affect results.
- Other risks identified include reimbursement and regulatory changes, customer or supplier losses, pricing and generic-drug dynamics, customer credit and collections, technology and ERP execution, interest and foreign-exchange exposure, and risks related to the Walgreens–Alliance Boots strategic relationship. No new risk factors were reported in this 10-Q.
Important facts for investors to verify
- Whether Walgreens-driven sales growth produces adequate margins and sustainable working-capital cash conversion, particularly as inventory and receivables remain elevated.
- How LIFO expense and warrant fair-value changes affect reported operating income, tax expense and earnings per share.
- The remaining dilution exposure after capped-call hedging, including the effect of share prices exceeding the calls’ caps.
- Progress and potential financial exposure from controlled-substance investigations, sealed qui tam matters and the West Virginia litigation.
- Renewal terms for the Department of Defense contract and achievement of management’s fiscal 2014 cash-flow, revenue, capital-spending and repurchase expectations.