Business Context and Reporting Period
Company: Boston Scientific Corporation
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: September 30, 1999
Business Overview: A worldwide developer, manufacturer, and marketer of medical devices for less invasive procedures. The company operates in four geographic segments: United States, Europe, Japan, and Emerging Markets. The reporting period includes the full integration of the Schneider Worldwide acquisition (completed in Q3 1998) and significant activity regarding the NIR(R) coronary stent product line.
Key Financial Metrics
| Metric (in millions) | Q3 1999 | Q3 1998 | 9 Months 1999 | 9 Months 1998 |
|---|---|---|---|---|
| Net Sales | $691 | $576 | $2,125 | $1,517 |
| Gross Profit | $408 | $370 | $1,377 | $1,024 |
| Gross Margin % | 59.0% | 64.2% | 64.8% | 67.5% |
| Operating Income | $115 | $(559) | $506 | $(353) |
| Net Income (Loss) | $55 | $(462) | $264 | $(335) |
| Diluted EPS | $0.13 | $(1.18) | $0.64 | $(0.86) |
| Cash from Operations (9mo) | $562 | $103 | ||
| Cash & Equivalents (End Period) | ||||
| Total Debt (Short + Long Term) | $1,777 | $2,485 | $1,777 | $2,485 |
Note: Q3 1998 results were significantly impacted by a $671 million charge for purchased R&D related to the Schneider acquisition.
Material Changes vs. Prior Period
- Revenue Growth: Net sales increased 20% in Q3 1999 and 40% for the nine-month period compared to 1998. On a pro-forma basis (including all Schneider revenue in 1998), sales grew 7% in Q3 and 20% for the nine months.
- Profitability Turnaround: The company returned to profitability in Q3 1999 ($55M net income) compared to a significant loss in Q3 1998 ($462M net loss). The 1998 loss was driven by the Schneider acquisition charge and a product recall provision.
- Margin Compression: Gross margin decreased to 59.0% in Q3 1999 from 64.2% in Q3 1998. This decline was primarily due to a $62 million provision for excess NIR(R) stent inventories and purchase commitments.
- Debt Reduction: Total debt decreased significantly from $2.485 billion at year-end 1998 to $1.777 billion at September 30, 1999. This was achieved through a public offering of common stock ($578M net proceeds) used to repay revolving credit facilities.
- Working Capital: Working capital improved from a deficit of $353 million at December 31, 1998, to a positive $53 million at September 30, 1999.
Guidance, Outlook, Risks, and Unusual Items
Unusual Items
- Inventory Provision: Recorded a $62 million charge ($41M net of tax) for excess NIR(R) stent inventories and purchase commitments due to a shortfall in planned revenues and strategic decisions on product versions.
- Legal Costs: Accrued an additional $22 million ($15M net of tax) for litigation-related reserves, primarily for defense costs associated with stent-related patent litigation.
- Restructuring Credit: Recognized a $10 million credit ($7M net of tax) reversing previously accrued restructuring charges no longer deemed necessary.
- Product Recall: Voluntary recall of Rotablator(R) RotaLink(TM) systems resulted in an estimated $14 million foregone net income in Q3 1999.
Outlook and Management Commentary
- Integration: Management expects to complete the integration of Schneider by the end of 1999. Remaining cash obligations for integration and rationalization are estimated at $37 million, mostly payable in the first half of 2000.
- Supply Chain: The company is executing a global program to optimize supply chain and manufacturing processes to lower inventory levels and costs. Benefits are expected to be delayed until manufacturing processes are fully addressed.
- Capital Resources: The company expects cash, marketable securities, operating cash flows, and borrowing capacity to be sufficient to meet needs through December 31, 1999. It has $1.7 billion available under revolving credit facilities.
Risks and Contingencies
- Patent Litigation: The company is involved in extensive patent litigation with competitors including Advanced Cardiovascular Systems (ACS), Johnson & Johnson (Cordis/Ethicon), and Medtronic. An adverse outcome could have a material adverse effect on operations.
- Regulatory Investigations: The U.S. Department of Justice is investigating the voluntary recall of the NIR ON(TM) Ranger(TM) with Sox(TM) coronary stent system. Shareholder class action suits are also pending regarding accounting irregularities and the recall.
- Supplier Dependency: The NIR(R) stent is supplied by Medinol Ltd. Unforeseen delays or interruptions in supply could adversely affect operating results.
- Market Dynamics: The coronary stent market is highly competitive with significant volatility. Managed care trends may continue to pressure selling prices and gross margins.
Investor Verification Checklist
- Inventory Valuation: Verify the adequacy of the $150 million NIR(R) stent inventory balance and the $84 million purchase commitment against current sales forecasts.
- Legal Exposure: Monitor the status of pending patent lawsuits (specifically against ACS, J&J, and Medtronic) and the DOJ investigation regarding the 1998 stent recall.
- Debt Covenants: Confirm continued compliance with the debt-to-net-worth covenant (currently 37% vs. 60% limit) as debt levels fluctuate.
- Supply Chain Execution: Assess progress on the global supply chain optimization program and its impact on future gross margins.
- Japan Receivables: Evaluate the collectability of outstanding receivables in Japan given the deterioration of the local economy.