Zoetis Inc. — Q2 2023 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2023. Zoetis develops and sells animal medicines, vaccines, diagnostics and related products across U.S. and International segments, serving companion-animal and livestock markets.
Financial performance
| Metric | Q2 2023 | Q2 2022 | Six months 2023 | Six months 2022 |
|---|---|---|---|---|
| Revenue | $2.180 billion | $2.052 billion | $4.180 billion | $4.038 billion |
| GAAP net income attributable to Zoetis | $671 million | $529 million | $1.223 billion | $1.124 billion |
| Diluted EPS | $1.45 | $1.12 | $2.64 | $2.38 |
| Adjusted net income (non-GAAP) | $652 million | $567 million | $1.259 billion | $1.192 billion |
| Operating cash flow | Not presented separately | Not presented separately | $732 million | $645 million |
- Q2 reported revenue rose 6%; operational growth, excluding foreign exchange, was 9%. Six-month revenue rose 4% reported and 6% operationally. Price contributed about 4% to operational growth in both periods.
- Q2 gross margin was approximately 72.2%, compared with 69.5% a year earlier, based on reported revenue and cost of sales. Six-month gross margin was approximately 71.4%, versus 70.4%.
- Q2 GAAP net income increased 27%, while adjusted net income increased 15%. For the six months, GAAP net income increased 9% and adjusted net income increased 6%.
- Q2 sales growth was strongest in companion animals, including dermatology and monoclonal antibody products for osteoarthritis pain. International operational revenue grew 11% in Q2; U.S. revenue grew 7%. Six-month operational growth was 10% International and 3% U.S.
Cash, liquidity and debt
- Cash and cash equivalents were $1.717 billion at June 30, down from $3.581 billion at December 31, 2022. Working capital was $4.414 billion; the current ratio was 3.50:1.
- Six-month operating cash flow was $732 million, up from $645 million. Capital expenditures were $389 million, compared with $261 million in the prior-year period. Inventory increased by $356 million on the balance sheet since year-end; inventory changes used $424 million of operating cash in the period.
- Long-term debt, net of discount and issuance costs, was $6.555 billion; total principal outstanding was $6.650 billion. Zoetis repaid $1.35 billion of notes at maturity in February using proceeds from senior notes issued in 2022. Interest expense rose 14% for the six months to $121 million.
- The $1.0 billion revolving credit facility was undrawn, and Zoetis reported compliance with its financial covenants. The company said available cash, operating cash flows and financing arrangements were expected to support needs for the next 12 months and beyond, subject to business conditions.
- Six-month financing cash outflow was $2.296 billion, including debt repayment, $607 million of share repurchases and $347 million of dividends paid. The quarterly dividend declared was $0.375 per share, up from $0.325.
Material changes, outlook and risks
- Q2 results included a $101 million pretax gain from selling a majority interest in pet insurer Pumpkin, including $24 million from remeasuring the retained investment. This gain was partly offset by precision-animal-health impairment charges. Six-month other income also included $35 million of royalty-related income, predominantly from settling prior-period royalty underpayments. These items materially distinguish reported earnings from adjusted results.
- The six-month effective tax rate increased to 22.2% from 19.6%, reflecting higher discrete tax expense, changes to prior-year tax positions and a less favorable earnings mix, partly offset by a U.S. tax benefit.
- Management reported ongoing supply-chain constraints for some products and components, despite improvement in other areas. Other cited sources of variability include inflation and macroeconomic conditions, foreign exchange, distributor inventory patterns, disease outbreaks, weather, regulation and competition. Foreign exchange reduced reported revenue growth by about 3 percentage points in Q2 and 2 points for the six-month period.
- Legal and tax contingencies include product, patent, commercial and environmental matters and uncertain tax positions. Management said it could not estimate the range of reasonably possible legal losses above amounts accrued; it did not expect disclosed legal matters to materially adversely affect financial position, though results or cash flows could be affected when matters resolve.
- The filing text provided does not give a clear updated numerical full-year guidance. A subsequent event: Zoetis acquired PetMedix on August 3, 2023, for approximately $111 million upfront cash consideration, with contingent payments of up to $100 million based on milestones, plus certain third-party-related contingent payments.
Important facts for investors to verify
- How much Q2 and year-to-date earnings growth is attributable to recurring operations versus the Pumpkin divestiture gain, royalty settlement, higher interest income and tax items.
- Whether inventory accumulation, product availability and distributor stocking normalize, and whether supply constraints continue to limit sales.
- The effects of foreign-exchange movements, higher financing costs and tax-position changes on future earnings and cash flows.
- PetMedix acquisition accounting and contingent consideration, as well as the eventual outcomes of tax and legal contingencies.