Quest Diagnostics Incorporated (NYSE: DGX) — 2020 Form 10-K
Reporting period: Fiscal year ended December 31, 2020. This annual filing also reports fourth-quarter results. Unless noted otherwise, financial amounts are in U.S. dollars.
Business context and reporting period
Quest is a U.S.-focused diagnostic information services provider. Its Diagnostic Information Services (DIS) business accounted for more than 95% of revenue; other operations include life-insurance risk assessment and healthcare information technology. The company performed more than 30 million COVID-19 molecular and antibody tests during 2020. COVID testing materially shaped annual results, while the underlying testing business was disrupted by the pandemic.
Financial performance and liquidity
| Metric | FY 2020 | FY 2019 |
|---|---|---|
| Net revenue | $9.437 billion | $7.726 billion |
| Operating income | $1.971 billion; 20.9% margin | $1.231 billion; 15.9% margin |
| Net income attributable to Quest | $1.431 billion | $858 million |
| Diluted EPS from continuing operations | $10.47 | $6.13 |
| Operating cash flow | $2.005 billion | $1.243 billion |
| Capital expenditures | $418 million | $400 million |
| Cash and cash equivalents at year-end | $1.158 billion | $1.192 billion |
| Total debt at year-end | $4.015 billion | $4.770 billion |
Reported gross profit was $3.633 billion in 2020 versus $2.689 billion in 2019. Interest expense, net, declined to $163 million from $175 million. The effective tax rate increased to 24.5% from 23.0%. The filing reports approximately $1.3 billion of available borrowing capacity, no year-end borrowings on its revolving or secured receivables facilities, and compliance with applicable covenants. It states cash, operating cash flow and available credit should provide sufficient financial flexibility for foreseeable needs.
Material changes versus the prior comparable period
- Revenue rose 22.1%. DIS revenue increased 23.4% to $9.139 billion; Diagnostic Solutions revenue decreased 7.0% to $298 million.
- COVID-19 testing services contributed $2.723 billion of 2020 revenue. DIS requisition volume grew 6.6%, but base-business testing volume declined 11.4%; revenue per requisition rose 16.2%, driven largely by COVID-19 test mix.
- Operating margin improved to 20.9% from 15.9%. Operating income growth reflected higher revenue and operating leverage, while reported results also included unusual gains and charges.
- Operating cash flow increased by $762 million. The filing attributes the increase primarily to higher operating income, with contributions from deferred employer Social Security tax payments and swap-termination proceeds; accounts receivable also increased $455 million.
- Year-end debt decreased by about $755 million. The company issued $550 million of 2.80% notes due 2031 and used proceeds and cash on hand to redeem notes due in 2021; it also redeemed notes due in January and March 2020.
- Acquisitions included Blueprint Genetics, Memorial Hermann’s outreach laboratory operations, and the remaining 56% interest in Mid America Clinical Laboratories. The MACL transaction generated a $70 million remeasurement gain.
Outlook, management commentary, risks and unusual items
- Outlook: No specific 2021 revenue or earnings guidance is provided in the supplied filing text. Management estimated combined reimbursement-rate pressure from all payers of approximately 1% in 2021, and projected $350–$400 million of 2021 capital expenditures. The company said pandemic effects, including COVID-19 test demand and reimbursement, remained uncertain.
- Operational priorities: The Invigorate efficiency program delivered approximately $200 million of cost savings in 2020; the company targets annual savings of approximately 3% of costs. It opened a new 250,000-square-foot flagship laboratory in Clifton, New Jersey, in early 2021.
- Capital returns: Quest repurchased $325 million of shares in 2020. In February 2021 it announced an approximately 11% quarterly dividend increase, from $0.56 to $0.62 per share, and authorized an additional $1 billion of repurchases.
- COVID-19 and policy: Base testing fell sharply in spring 2020 and recovered later in the year, but demand and reimbursement for COVID testing remained uncertain. Medicare high-throughput molecular-test reimbursement was $100 per test beginning April 2020; from January 2021, the base rate became $75, with a possible $25 performance payment. CARES Act PAMA cuts scheduled for 2021 were delayed; future PAMA reductions for 2022–2024 are capped at 15% annually.
- Unusual items: 2020 results included $70 million of MACL remeasurement gain, $76 million of COVID-related charges, $58 million of systems-conversion and integration charges, and $103 million of intangible amortization. The company returned the full $138 million of CARES Act provider funds received during 2020.
- Risks and contingencies: Key risks include pandemic-related shifts in testing volume and collections, reimbursement and pricing pressure, patient cost-sharing and denials, competition and testing internalization, evolving FDA oversight of laboratory-developed tests, privacy/cybersecurity, and acquisition integration. The AMCA third-party data incident remains subject to litigation and government inquiries; test results were not included, and Quest says its systems were not involved. A 401(k) plan class action is also pending. Management said material losses related to legal matters were not probable at year-end; the timing and amount of potential outcomes are uncertain.
Most important facts for investors to verify
- How much COVID-19 testing revenue and elevated revenue per requisition persist, and whether base-business volumes recover.
- Whether cash collections and receivables remain sound: year-end net receivables rose to $1.520 billion from $1.063 billion, and the auditor identified contractual-allowance valuation as a critical audit matter.
- Actual reimbursement changes, including COVID-19 test rates and future PAMA rate-setting and cuts.
- Debt-service flexibility and the effects of the temporarily relaxed credit-facility leverage covenant and its restrictions on capital returns and acquisitions.
- Developments in AMCA-related litigation and investigations, the 401(k) litigation, and other legal or regulatory proceedings.
- Whether planned capital spending, cost savings, acquisitions, dividend growth and repurchases are achieved without weakening operating performance or liquidity.