GRFS

Business Context and Reporting Period

Company: Grifols, S.A.
Filing Type: Form 20-F (Annual Report)
Reporting Period: Fiscal year ended December 31, 2011
Accounting Basis: International Financial Reporting Standards (IFRS)
Key Event: The reporting period is significantly impacted by the acquisition of Talecris Biotherapeutics Holdings Corp., consummated on June 1, 2011. This transaction expanded Grifols into the world's third-largest producer of plasma derivative products and shifted the geographic revenue mix heavily toward North America.

Key Financial Metrics

Debt Profile: As of December 31, 2011, outstanding debt included approximately $2.5 billion and €438.9 million under Senior Term Loans and $1.1 billion in 8.25% Senior Notes due 2018. Total non-current financial liabilities were €2,945,788 thousand.

Material Changes vs. Prior Period

• Revenue Growth: Revenues increased 81.2% to €1.796 billion, driven primarily by the inclusion of Talecris operations for seven months of the year. The Bioscience division grew 98.0% to €1.531 billion, now representing 85.3% of total revenue.
• Profitability Decline: Despite revenue growth, consolidated profit decreased 56.4% to €50.2 million. This was primarily due to a 303.9% increase in finance expenses (€200.6 million vs. €49.7 million) resulting from debt incurred to finance the acquisition, as well as €44.4 million in transaction costs.
• Balance Sheet Expansion: Total assets more than tripled to €5.8 billion, with a significant increase in goodwill (€1.895 billion) and intangible assets (€1.008 billion) recorded from the acquisition.
• Geographic Shift: North America (U.S. and Canada) became the largest market, accounting for 52.9% of revenues in 2011, up from 34.2% in 2010. Conversely, Spain's share of revenue dropped from 23.0% to 12.9%.
• Working Capital: Days sales outstanding improved significantly from 83 days in 2010 to 65 days in 2011, attributed to the favorable collection ratios of the acquired Talecris business.

Guidance, Outlook, and Risks

Outlook and Capital Plan: Management projects cumulative capital expenditures of approximately €560 million to €600 million through 2015 to expand fractionation capacity to over 12 million liters per year by 2016. The company expects to finance these expenditures through internally generated cash flow, cash on hand, and debt financing.

Management Commentary: The acquisition has created a vertically integrated global leader. Management anticipates realizing synergies, particularly in plasma collection and manufacturing efficiency. However, the company faces significant interest rate risk due to floating-rate debt and currency risk as a majority of sales are denominated in U.S. dollars while the reporting currency is the Euro.

Key Risks and Contingencies:

• Indebtedness: Substantial leverage increases vulnerability to economic downturns and restricts flexibility. The company must generate sufficient cash flow to service debt obligations.
• Regulatory and Compliance: The company is subject to an ongoing internal investigation into potential Foreign Corrupt Practices Act (FCPA) violations by Talecris prior to the acquisition. This involves potential sanctions, fines, or debarment by the U.S. Department of Justice.
• Plasma Supply: Business is heavily dependent on the availability of U.S. source plasma. Disruptions in supply or regulatory restrictions on plasma collection could materially impact operations.
• Product Liability and Safety: Risks associated with plasma contamination, product recalls, and adverse side effects remain inherent to the business.
• Healthcare Reform: Implementation of U.S. healthcare reform laws (e.g., Medicaid rebates, Medicare Part D changes) may adversely affect reimbursement rates and pricing.

Investor Verification Checklist

• Debt Service Coverage: Verify the company's ability to service approximately €3.6 billion in debt (including interest) given the significant increase in finance expenses.
• FCPA Investigation Status: Monitor updates regarding the outcome of the DOJ investigation into Talecris and any potential financial penalties or operational restrictions.
• Integration Synergies: Assess whether the projected cost savings and operational efficiencies from the Talecris integration are being realized to offset high interest costs.
• Plasma Collection Metrics: Review the volume of plasma collected (5.9 million liters in 2011) against the target of 6.5 million liters to ensure supply chain stability.
• Capital Expenditure Execution: Track progress on the €560-600 million capital plan, specifically the new fractionation plants in Clayton, NC, and Parets, Spain, to ensure future capacity expansion.
• Receivables Quality: While DSO improved, verify the aging of receivables in Southern Europe (Spain, Italy) where government payment delays remain a historical risk.