Merck & Co., Inc. — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016. Unaudited consolidated results; comparisons are with Q1 2015 unless noted.
Financial performance
| Metric | Q1 2016 | Q1 2015 |
|---|---|---|
| Sales | $9.312 billion | $9.425 billion |
| Income before taxes | $1.624 billion | $1.381 billion |
| Net income attributable to Merck | $1.125 billion | $953 million |
| Diluted EPS | $0.40 | $0.33 |
| Gross margin | 61.6% | 62.1% |
| Operating cash flow | $2.158 billion | $2.284 billion |
| Capital expenditures | $279 million | $203 million |
| Cash and investments | $25.497 billion | $26.466 billion at Dec. 31, 2015 |
| Total debt, carrying value | $25.769 billion | $26.412 billion at Dec. 31, 2015 |
| Working capital | $11.204 billion | $10.550 billion at Dec. 31, 2015 |
Net cash provided by investing activities was $1.741 billion, versus $6.605 billion used in Q1 2015, largely reflecting the prior-year Cubist acquisition. Financing used $2.851 billion, including $913 million of share repurchases and $1.279 billion of dividends paid. Merck declared a quarterly dividend of $0.46 per share.
Changes and business drivers
- Sales declined 1%; foreign exchange reduced reported sales by 4%. Management cited approximately $240 million of sales impact from reduced operations in Venezuela. Sales also benefited from about one additional month of Cubist product sales compared with the prior-year quarter and a $75 million payment for U.S. marketing rights.
- Growth in Keytruda ($249 million, versus $83 million), Januvia, Zetia, Zepatier and several hospital products was offset by declines including Remicade ($349 million, down 30%), Isentress, Nasonex and Zostavax. Cubicin sales were $292 million versus $187 million; Merck warned of significant sales losses after its U.S. composition patent expires in June 2016.
- Net income and diluted EPS increased despite lower sales. Marketing and administrative expense fell 11% to $2.3 billion, mainly reflecting lower prior-year Cubist acquisition costs and favorable foreign exchange. Research and development expense declined 4% to $1.7 billion.
- Reported gross margin declined 0.5 percentage points. Merck said acquisition-related amortization, restructuring and impairment charges reduced gross margin by 15.4 percentage points in Q1 2016, compared with 14.4 points in Q1 2015.
Outlook, commentary, risks and unusual items
- Management expected pricing pressure, government-mandated price reductions, including Japan’s biennial reductions, and austerity measures to continue weighing on revenue through the rest of 2016. The filing does not provide a clear full-year sales or EPS guidance figure.
- Merck forecast $700 million to $900 million of restructuring-program costs in 2016, with about $1.3 billion of additional pretax costs expected to complete remaining actions by the end of 2017. The programs had eliminated approximately 38,745 positions since inception.
- A $252 million impairment charge reduced the carrying value of Zontivity after lower sales expectations; the remaining related intangible asset was $32 million. Merck also recorded $25 million of pipeline IPR&D impairment charges and cautioned that further potentially material impairment charges could occur.
- Merck acquired IOmet for $227 million of total consideration, including $150 million upfront and contingent milestone consideration. It also announced plans with Sanofi Pasteur to end their European vaccine joint venture by the end of 2016, subject to approvals and local requirements.
- Merck paid the Vioxx securities class-action settlement into escrow in April 2016. The settlement remains subject to final court approval; the company reported a $680 million net reserve after insurance. Other Vioxx claims remain unresolved, and Merck said it could not reasonably estimate possible losses for remaining litigation.
- Other disclosed exposures include product-liability and patent disputes, the potential for generic competition and a tax matter under IRS discussion that could materially affect results, liquidity or financial position if resolved adversely. The company reported effective disclosure controls as of March 31, 2016.
- Non-GAAP diluted EPS was $0.89 versus $0.85. This measure excludes acquisition/divestiture-related and restructuring items; Merck cautioned that it is not a GAAP measure and may not be comparable across companies.
Most important facts for investors to verify
- Whether Keytruda growth and new-product launches can offset foreign-exchange, pricing, Venezuela and established-product declines.
- The timing and commercial impact of Cubicin’s June 2016 U.S. patent expiry, Remicade biosimilar competition, and generic erosion in other products.
- Progress in resolving Zepatier’s European third-party manufacturing issues and the resulting approval and launch timing.
- Cash generation, overseas cash availability and the balance between dividends, repurchases, debt and the Vioxx settlement payment.
- Developments in Vioxx and other litigation, the IRS examination matter, and potential further product or pipeline impairments.
- Execution and remaining costs of restructuring, and the separation and integration of Merck’s European vaccine operations from the SPMSD joint venture.