Bausch Health Companies Inc. (then Valeant Pharmaceuticals International, Inc.) — Q2 2017 Form 10-Q
Reporting period: Three and six months ended June 30, 2017. Unaudited U.S. GAAP statements; amounts below are U.S. dollars in millions, except per-share data. The filing was signed August 8, 2017.
Business context and reporting period
The company develops, manufactures and markets branded and generic pharmaceuticals, OTC products and medical devices in more than 100 countries. Its reportable segments were Bausch + Lomb/International, Branded Rx and U.S. Diversified Products. Management said it was focusing on core eye-health, gastrointestinal and dermatology businesses, simplifying the portfolio through divestitures, and reducing debt.
Key financial metrics
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $2,233 | $2,420 | $4,342 | $4,792 |
| Operating income | $175 | $81 | $386 | $147 |
| Net income (loss) attributable to Valeant | $(38) | $(302) | $590 | $(676) |
| Basic EPS | $(0.11) | $(0.88) | $1.69 | $(1.96) |
| Operating cash flow | Not presented by quarter | Not presented by quarter | $1,222 | $1,005 |
Margins: Q2 operating margin was approximately 7.8%, versus 3.3% a year earlier; first-half operating margin was approximately 8.9%, versus 3.1%. Cost of goods sold was 29% of product sales in both 2017 periods, compared with 27% in 2016, which management attributed mainly to product mix and loss of exclusivity for higher-margin products. Segment profit margins for Q2 were 30% for Bausch + Lomb/International, 54% for Branded Rx and 72% for U.S. Diversified Products.
Balance sheet and liquidity at June 30: Cash and cash equivalents were $1,214; restricted cash was $811, representing Dendreon sale proceeds earmarked for debt repayment. Current assets were $5,992 and current liabilities $4,465. Long-term debt was $28,778 principal ($28,461 net of discounts and issuance costs), versus $30,169 principal at December 31, 2016. The company had $525 drawn and $932 of remaining availability under its revolving credit facility. Total liabilities were $37,704 and total equity $4,029.
Cash flow and debt: First-half investing cash flow was positive $1,928, principally reflecting $2,144 of net proceeds from asset sales. Financing cash flow was negative $1,691, including substantial debt repayments and refinancing activity. First-half interest expense was $933; weighted-average stated debt interest was 6.06%, up from 5.75% at year-end 2016. The company reported compliance with financial maintenance covenants at June 30 and expected compliance and ability to meet debt service for the next 12 months, based on its forecast and executed amendments.
Material changes versus the prior comparable period
- Q2 revenue declined 8%; first-half revenue declined 9%. Management cited lower U.S. Diversified and Branded Rx volumes, generic competition and loss of exclusivity, divestitures and discontinuations, and unfavorable currency effects. The Egyptian pound was a significant currency headwind.
- Q2 operating income rose $94, while first-half operating income rose $239. Lower SG&A, R&D, amortization and impairment costs contributed, but the first-half comparison also included $392 of gains on the Skincare and Dendreon sales.
- First-half net income improved by $1,266 year over year, substantially reflecting a $1,129 income-tax recovery. That recovery included a $1,863 discrete deferred-tax benefit, partly offset by tax charges; it should not be viewed as a comparable operating earnings improvement.
- Segment performance diverged: first-half Bausch + Lomb/International revenue was down 1% and segment profit up 3%; Branded Rx revenue was down 6% while segment profit rose 12%; U.S. Diversified Products revenue fell 32% and segment profit fell 39%.
- The company sold CeraVe, AcneFree and AMBI for $1,300 cash and Dendreon for $820 cash, recording gains of $319 and $73, respectively. It had agreed to sell iNova for $930 and, after quarter-end, agreed to sell Obagi for $190.
- March refinancing transactions replaced near-term debt with new term loans and secured notes, extended $1,190 of revolving commitments to April 2020 and removed maintenance covenants on term loans. The company said these actions reduced scheduled principal cash requirements through 2020 by $6,538 as of June 30.
Outlook, management commentary, risks and unusual items
- Outlook: The filing provides no specific consolidated revenue or earnings guidance. Management expected low acquisition activity for the foreseeable future, planned to use proceeds from iNova and Obagi sales primarily for debt reduction, and expected the GI sales-force investment to begin supporting incremental Xifaxan revenue in the second half of 2017. Siliq was launched in the U.S. on July 27, 2017. Management also described a pipeline of more than 100 R&D projects and expected to launch or relaunch more than 50 products during 2017.
- Debt and liquidity: The $811 restricted Dendreon proceeds were used to repay the Series F term loan on July 3, 2017. The company also announced redemption of the remaining $500 of 6.75% notes due 2018, scheduled for August 15, using cash on hand. Management said these steps would leave only nominal mandatory principal payments due through February 2020. These are management expectations, subject to execution and operating performance.
- Legal and regulatory exposure: Numerous U.S. and Canadian securities, RICO, pricing, distribution and Philidor-related investigations and lawsuits remained pending. Accrued loss contingencies were $162 at June 30; the company said outcomes or potential losses for many matters could not be reasonably predicted. A $210 Salix securities-litigation settlement was paid in Q2 and had been accrued at year-end 2016. A court issued a partial summary judgment awarding Mimetogen $20, which the company said was not yet enforceable as a final order and intended to appeal. Alfa Wasserman sought at least $80 in development costs plus approximately $285 in damages in a separate arbitration.
- Tax matters: The Australian Tax Office issued an assessment of $117 on August 8, 2017 for tax years 2011–2017, including penalties and interest. The company disputed the assessment and intended to defend its position. Unrecognized tax benefits were $499 at June 30.
- Impairment and execution risk: First-half asset impairments were $223, including $113 for assets held for sale. The Salix reporting unit’s carrying value remained above its estimated fair value, although management concluded interim qualitative assessments did not require a goodwill impairment test. Management warned future impairment could result if market conditions weaken or plans are not executed. Addyi intangible assets had a carrying value of $836 at June 30.
- Commercial and regulatory risks: Generic competition, pricing and rebate pressure, Walgreens fulfillment arrangements, foreign exchange, product launches and reimbursement access could affect sales and margins. The FDA issued a second complete response letter for latanoprostene bunod, citing manufacturing-facility inspection deficiencies rather than identified safety or efficacy concerns. The company also faced substantial debt, floating-rate exposure and below-investment-grade credit ratings.
- Controls: Management concluded disclosure controls were effective as of June 30, 2017 and reported no material change in internal control over financial reporting during the six-month period. The filing nevertheless identifies prior control weaknesses and remediation as continuing areas of risk.
Most important facts for investors to verify
- Whether the revenue declines and pressure from generic competition and portfolio divestitures continue, especially in U.S. Diversified Products and Branded Rx.
- Whether operating cash generation, covenant compliance and debt-service capacity hold up without reliance on asset-sale proceeds or unusual tax benefits.
- Completion and net proceeds of the iNova and Obagi sales, and application of proceeds to debt reduction.
- The status, costs and outcomes of major litigation, regulatory investigations and the Australian tax assessment, including whether additional losses exceed recorded accruals.
- Salix and other reporting-unit impairment assumptions, and the commercial performance of Siliq, Xifaxan and other key products and pipeline launches.
- Whether the refinancing, note redemption and reported post-quarter debt repayment occurred as planned, and how the higher stated borrowing rate affects interest expense.