Quest Diagnostics Incorporated — Q3 2019 Form 10-Q
Reporting period: Unaudited quarter and nine months ended September 30, 2019; comparisons are with the same 2018 periods unless stated otherwise. Amounts are in millions of dollars, except per-share data. Quest primarily provides diagnostic information services (DIS), which generated more than 95% of revenue.
Financial performance
| Metric | Q3 2019 | Q3 2018 | Nine months 2019 | Nine months 2018 |
|---|---|---|---|---|
| Revenue | $1,956 | $1,889 | $5,800 | $5,692 |
| Operating income | $313 | $304 | $868 | $881 |
| Operating margin | 16.0% | 16.1% | 15.0% | 15.5% |
| Income from continuing operations attributable to Quest | $215 | $213 | $585 | $609 |
| Diluted EPS from continuing operations | $1.56 | $1.53 | $4.27 | $4.37 |
| Net cash from operating activities | Not provided for quarter | Not provided for quarter | $895 | $905 |
Q3 DIS revenue rose 3.7% to $1,877; requisition volume increased 5.1%, while revenue per requisition fell 1.2%. For the nine months, DIS revenue increased 2.1%, with volume up 4.3% and revenue per requisition down 2.1%. Management attributed pricing pressure in part to PAMA reductions and other reimbursement pressure; expanded in-network access supported volume. Diagnostic Solutions revenue was $79 in Q3, down 0.5%, and $239 year to date, down 2.2%.
Q3 net income attributable to Quest was $215, versus $213. Nine-month net income attributable to Quest was $605 versus $609, including $20 of discontinued-operation tax benefits in 2019; continuing-operations income was $585 versus $609. Effective tax rates were 22.9% versus 18.1% for Q3 and 23.4% versus 18.8% year to date. The prior-year comparisons included discrete tax benefits, contributing to the higher 2019 rates.
Cash, debt and liquidity
- Cash and cash equivalents were $434 at September 30, 2019, up from $135 at December 31, 2018.
- Nine-month cash flows: $895 operating inflow, $311 investing outflow and $285 financing outflow. Capital expenditures were $228; acquisition spending, net of acquired cash, was $56.
- Debt carrying value was $3,993, including $805 current and $3,188 long-term; cash less debt was approximately $3,559 net debt, excluding lease liabilities. Debt fair value was estimated at $4.3 billion.
- Operating lease liabilities totaled $552, and finance lease liabilities $34. Their recognition on the balance sheet followed adoption of the lease accounting standard in 2019; comparative 2018 amounts were not restated.
- About $1.3 billion of borrowing capacity was available under credit facilities, with no amounts outstanding under the secured receivables or senior unsecured revolving facilities at quarter-end. The company reported compliance with debt covenants.
- Debt maturities included approximately $803 due in 2020. Management said cash, operating cash flow and available borrowing capacity should support working capital, capital spending, debt service, dividends, repurchases and growth needs.
Changes, outlook and notable items
- Revenue growth accelerated in Q3 compared with the 1.9% increase for the first nine months. Q3 operating income increased, but year-to-date operating income declined 1.5% and operating margin narrowed by 0.5 percentage points.
- Management cited acquisitions and organic volume growth as revenue drivers, partly offset by lower revenue per requisition. Cost-reduction initiatives and fixed-cost leverage partly offset acquisition and volume-related costs.
- The multi-year Invigorate program targets annual cost savings of approximately 3%; the company said it achieved that goal in 2018. It incurred $49 of pre-tax systems conversion and integration costs under the program in the first nine months of 2019. Further charges may arise.
- For 2019, management estimated capital expenditures of $350–$400. The filing provides no specific full-year revenue or earnings guidance.
- Management reported selected items reduced diluted EPS by $0.20 in Q3 and $0.62 in the first nine months of 2019. These included intangible amortization, systems-conversion and integration costs, partly offset by contingent-consideration and other gains, and stock-based compensation tax benefits. YTD results also included a $20 discontinued-operation tax benefit.
- The February 2019 Boyce & Bynum acquisition had $55 cash consideration and initially estimated $6 contingent consideration; the contingent liability was reduced to zero in Q3, generating a gain. A $500 senior-note issuance at 4.20% due 2029 was used in part to refinance debt.
- The AMCA data-security incident involved a third-party collection agency, not Quest or Optum360 systems; test results were not included. Approximately 39 related lawsuits and governmental inquiries were reported. Quest said losses were reasonably possible but could not estimate a loss or range; insurance is limited and subject to a deductible. Future costs or collection disruption could affect results.
- Other commitments and exposures include $74 of unrecognized tax benefits, a $76 redeemable noncontrolling interest that may be put to Quest beginning July 2020, and $132 in reserves for general and professional liability claims. The company reported no material legal losses as probable at quarter-end.
Important facts for investors to verify
- Whether volume growth can continue to offset reimbursement pressure, denials and declining revenue per requisition.
- Progress on Invigorate savings and the amount and timing of remaining systems-conversion, integration or restructuring costs.
- Refinancing plans and funding costs for 2020 debt maturities, alongside the company’s reported liquidity and covenant position.
- Developments in AMCA-related litigation, investigations, insurance coverage and any operational or collection impacts.
- The sustainability of reported earnings and cash generation after separating recurring operations from tax benefits, acquisition-related gains and other identified items.