Business context and reporting period
Cardinal Health, Inc. filed this Form 10-Q for the three months ended September 30, 2015, the first quarter of fiscal 2016. The healthcare services and products company reports Pharmaceutical and Medical segments.
Financial results
| Metric | Q1 FY2016 | Prior-year quarter | Change |
|---|---|---|---|
| Revenue | $28.055 billion | $24.070 billion | Up 17% |
| Gross margin | $1.579 billion | $1.341 billion | Up 18% |
| GAAP operating earnings | $620 million | $466 million | Up 33% |
| Non-GAAP operating earnings | $737 million | $566 million | Up 30% |
| Net earnings attributable to Cardinal Health | $383 million | $266 million | Up 44% |
| GAAP diluted EPS | $1.15 | $0.78 | Up 47% |
| Non-GAAP diluted EPS | $1.38 | $1.00 | Up 38% |
| Operating cash flow | Used $52 million | Provided $61 million | Down $113 million |
Pharmaceutical revenue rose 19% to $25.140 billion, while Medical revenue increased 2% to $2.919 billion. Pharmaceutical segment profit grew 46% to $657 million; Medical segment profit declined 11% to $101 million. Gross-margin growth reflected customer and acquisition sales growth and generics-program performance, including Red Oak Sourcing benefits, partly offset by customer pricing changes.
Liquidity, debt and capital allocation
Cash and equivalents were $2.974 billion at September 30, 2015, down from $4.616 billion at June 30. The quarter’s $52 million operating cash use reflected timing of collections and purchases; acquisitions used $1.399 billion, capital expenditures were $83 million, and dividends paid were $131 million. Inventories increased $547 million and receivables increased $473 million during the quarter.
Long-term obligations and other short-term borrowings had a carrying amount of $5.550 billion, versus $5.492 billion at June 30. The company reported no outstanding balances under its $1.5 billion revolving credit facility or commercial paper program, and was compliant with its financing covenants. It also held $193 million in available-for-sale securities. Management said available capital and projected operating cash flow were adequate for anticipated needs, while noting further acquisitions could require additional financing.
Material changes, outlook and risks
- Cardinal Health acquired Harvard Drug on July 2 for $1.1 billion and a 71% interest in naviHealth on August 26 for $238 million, net of cash acquired. Acquisition-related costs rose to $105 million from $53 million; restructuring costs were $12 million versus $19 million.
- After quarter-end, on October 2, the company acquired Cordis for $1.9 billion. Management expected Cordis to significantly reduce GAAP operating earnings and pretax earnings through the remainder of fiscal 2016, principally from amortization, acquisition costs and inventory fair-value step-up. Cordis also increases foreign-currency exposure.
- Management attributed earnings growth to distribution sales, generics-program performance and acquisitions, partly offset by customer pricing changes. EPS also benefited from favorable discrete tax items and a lower share count. The effective tax rate was 32.3%, compared with 38.9%, including $28 million of net favorable discrete tax items.
- No specific full-year earnings guidance is provided in the supplied filing text. Results for the quarter are not necessarily indicative of full-year results.
- Legal matters include a $41 million accrual for the DEA investigation and unresolved litigation concerning controlled-substance distribution in West Virginia. The company said it could not estimate reasonably possible losses for certain unresolved matters; outcomes could materially affect a particular period, though it did not expect a material adverse effect on overall financial position, results or cash flows based on currently available information.
- Quarterly operating cash flow is sensitive to working-capital timing. The filing also identifies tax contingencies, acquisition integration and costs, and broader risks referenced in the company’s 2015 Form 10-K.
Important facts for investors to verify
- Whether acquisitions, particularly Cordis, deliver expected growth and integration benefits while containing the anticipated earnings drag and financing needs.
- Whether Pharmaceutical growth and generics-program margins can offset customer pricing pressure, and whether Medical segment profitability recovers.
- How working-capital movements affect cash conversion and liquidity in subsequent quarters.
- Updates on the DEA and West Virginia matters, tax exposures, and the Cordis purchase-price and integration accounting.
- The composition and sustainability of EPS growth, including acquisition-related exclusions and the benefit from favorable discrete tax items.