Baxter International Inc. — Q1 2011 Form 10-Q
Reporting period: Three months ended March 31, 2011. Figures are in U.S. dollars; financial statement amounts are in millions unless stated otherwise. The filing was reviewed by PwC, which reported no material modifications identified; this was an interim review, not an audit opinion.
Business context
Baxter reported two segments: BioScience and Medical Products. Effective January 1, 2011, the company combined its former Medication Delivery and Renal businesses into Medical Products and recast prior-period segment data. Its products include plasma- and recombinant-based therapies, IV solutions and drugs, infusion systems, and renal therapies.
Financial performance and liquidity
| Metric | Q1 2011 | Q1 2010 |
|---|---|---|
| Net sales | $3,284 | $2,927 |
| Gross margin | $1,675; 51.0% of sales | $1,043; 35.6% of sales |
| Income before income taxes | $731 | $112 |
| Net income (loss) attributable to Baxter | $570 | $(63) |
| Diluted EPS | $0.98 | $(0.11) |
| Cash flows from operations | $371 | $279 |
| Capital expenditures | $198 | $230 |
- Sales increased 12%. Medical Products sales rose 20% to $1,868; BioScience sales increased 3% to $1,408. U.S. sales rose 32% to $1,422, while international sales increased 1% to $1,862. Currency had no net impact on total-company sales growth.
- The 2010 comparison included a $588 COLLEAGUE infusion-pump recall charge, which reduced 2010 sales by $213 and gross margin by 16.3 percentage points. Management attributed seven percentage points of reported sales growth to this prior-year charge. Accordingly, the year-over-year profit and margin improvement is substantially affected by the comparison.
- Q1 2011 gross margin also faced lower plasma-product pricing, plasma throughput inefficiencies, lower high-margin vaccine sales, and manufacturing issues at the Castlebar, Ireland facility. Marketing and administrative expenses were $716, or 21.8% of sales, versus $683 and 23.3%; R&D was $214, or 6.5% of sales, versus $227 and 7.8%.
- The effective tax rate was 21.1%, compared with 153.6% in Q1 2010. The prior-year rate reflected the pump charge without a net tax benefit and a $39 deferred-tax-asset write-off related to U.S. healthcare reform.
- At March 31, cash and equivalents were $2,168; current assets were $7,761 and current liabilities $3,889. Total debt and lease obligations were $4,374, including current maturities; approximate net debt was $2,206. No borrowings were outstanding under the company’s $1.5 billion revolving facility or approximately $427 million euro facility, and Baxter was in compliance with their financial covenants.
- Operating cash flow improved to $371, while cash declined $517 to $2,168, primarily alongside $637 of treasury-stock purchases, $180 of dividends, and investing outflows of $212. The company repurchased 12.4 million shares. Accounts receivable days outstanding increased from 52.5 at year-end to 56.0 at quarter-end; inventories rose to $2,517 from $2,371.
Changes, outlook and management commentary
- BioScience pretax income increased 5% to $579. Medical Products reported pretax income of $356 versus a prior-year loss of $257, which included the $588 pump charge. Segment results therefore also reflect a significant prior-year comparison item.
- Management expected a full-year 2011 effective tax rate of approximately 21.0%–21.5%, excluding audit developments and other special items. The filing does not provide a clear full-year revenue or earnings guidance figure.
- Management cited demand and product mix gains in selected businesses, including antibody therapy, IV therapies and injectables, but also noted plasma pricing pressure, manufacturing issues, and the risk of customer and competitor supply changes. R&D spending fell with completed clinical work on late-stage programs and lower partner milestones; Baxter said it continued investment across its pipeline.
- In April 2011, Baxter agreed to acquire Prism Pharmaceuticals for up to $338, including $170 upfront and up to $168 in contingent sales-milestone payments; closing was expected in Q2, subject to conditions. Baxter stated the transaction was not expected to materially affect 2011 financial statements. In May 2011, it completed the sale of its U.S. generic injectables business to Hikma for approximately $112, subject to adjustments.
Risks, contingencies and unusual items
- COLLEAGUE/SYNDEO pumps: The FDA’s final 2010 order required recall of approximately 200,000 COLLEAGUE pumps in use in the U.S.; the program was scheduled to run through July 13, 2012. The remaining cash reserve was $484 at March 31, expected to be substantially used by end-2012. Baxter warned that further charges, impairments, claims, penalties or regulatory actions could arise.
- Regulatory and product-quality matters: Baxter disclosed FDA warning letters concerning complaint handling and manufacturing practices at U.S. and Puerto Rico facilities, and an EMA review of certain dialysis solutions associated with potential endotoxins at Castlebar. The company said it was working with the agencies; additional costs or restrictions were possible.
- Litigation: A Nevada propofol case had resulted in a jury award of $5 compensatory damages and $500 punitive damages against Baxter and Teva combined, including $144 of punitive damages against Baxter. The companies appealed; Baxter also asserted an indemnity right against Teva. Other disclosed matters included heparin product-liability suits, plasma-therapy antitrust litigation, pricing and reimbursement claims, pump-related shareholder suits, and government inquiries. Outcomes and potential additional losses were uncertain.
- Other exposures: The company noted possible delayed collections or credit losses from certain foreign-government customers, including Greece, Spain, Portugal and Italy. It also cited foreign-exchange risk; a sensitivity analysis estimated that a uniform 10% unfavorable U.S. dollar movement would reduce the net-of-tax fair value of outstanding FX contracts by $39, without reflecting offsets from hedged items.
- Business-optimization reserves were $153 at quarter-end and expected to be substantially used by the end of 2011, subject to possible adjustments. Baxter also warned that asset impairments could result if investments in new or modified products fail to obtain regulatory approval or market acceptance.
Most important facts for investors to verify
- How much of reported sales, earnings and margin growth reflects the absence of the 2010 COLLEAGUE charge, versus underlying business growth.
- Progress and remaining cash costs of the pump recall, and whether new regulatory, litigation or remediation developments require additional charges.
- Resolution and financial exposure from the $500 jury award, other material litigation, and government investigations or inquiries.
- Whether Castlebar manufacturing issues, dialysis-solution supply and regulatory matters affect product availability, costs or sales.
- Cash conversion and working-capital trends, particularly the rise in receivable days and inventories, alongside continued share repurchases and dividends.
- Completion terms and financial effects of the Prism acquisition and generic injectables divestiture, including contingent payments and closing adjustments.