Boston Scientific Corporation — Q2 2020 Form 10-Q
Reporting period: Three and six months ended June 30, 2020. Amounts are in U.S. dollars; financial figures are in millions unless stated otherwise. The company develops and sells medical devices across cardiovascular, MedSurg, rhythm and neuromodulation businesses, and Specialty Pharmaceuticals.
Financial performance and liquidity
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net sales | $2,003 | $2,631 | $4,546 | $5,124 |
| Gross profit / margin | $1,212 / 60.5% | $1,873 / 71.2% | $2,950 / 64.9% | $3,636 / 71.0% |
| Operating income (loss) | $(71) | $384 | $75 | $925 |
| Net income (loss) | $(147) | $154 | $(137) | $578 |
| Net income (loss) available to common stockholders | $(153) | $154 | $(142) | $578 |
| Diluted EPS | $(0.11) | $0.11 | $(0.10) | $0.41 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $192 | $642 |
- Sales and earnings: Q2 sales fell 23.9% year over year (23.1% operational decline, with a further 0.8 percentage-point currency headwind). First-half sales fell 11.3% (10.3% operational decline and 1.0 percentage-point currency headwind). The filing reports adjusted net income of $120 million, or $0.08 per share, in Q2 and $511 million, or $0.36 per share, for the first half; these are non-GAAP measures.
- Margins and costs: Q2 gross margin contracted 10.7 percentage points. Management attributed the pressure mainly to idle manufacturing capacity, excess and obsolete inventory, and a less favorable product mix; approximately $125 million of idle manufacturing costs were cited. SG&A and R&D dollars declined, but each increased as a share of sales because sales fell sharply and much of operating expense is fixed.
- Cash and debt: June 30 cash and cash equivalents were $1,724, versus $217 at year-end 2019; total debt was $9,532, versus $10,008. Working capital was $2,694. The company had no commercial paper outstanding and the $2,750 revolving facility was undrawn. Cash, cash equivalents and restricted cash totaled $2,016.
- Cash flows: First-half operating cash flow was $192, compared with $642 a year earlier. Capital expenditures were $168; investing cash outflow was $135 and financing cash inflow was $1,361. The increase in cash was supported by debt and equity financing.
Material changes versus comparable periods
- COVID-19-related postponements of elective and semi-emergent procedures drove broad sales declines across businesses and geographies. Q2 revenue was down in MedSurg (29.6%), Rhythm and Neuro (33.2%), and Cardiovascular (18.7%). Peripheral Interventions grew 6.0%, primarily reflecting the BTG interventional medicine portfolio; Specialty Pharmaceuticals contributed $68 million and was described as not significantly affected by the pandemic.
- Reported Q2 operating results moved from operating income of $384 million to a $71 million loss. First-half operating income declined to $75 million from $925 million. The prior-year comparison included a $148 million litigation gain in first-half 2019 and substantial acquisition-related currency-hedging losses in Q2 2019.
- First-half intangible asset impairment charges increased to $233 million from $105 million, primarily relating to acquired nVision technology and changes to launch plans or discontinued R&D programs. The company recorded a $108 million first-half benefit from reducing contingent consideration estimates.
- In May, Boston Scientific issued $1,700 of senior notes and raised approximately $975 each from common stock and mandatory convertible preferred stock. Proceeds were used in part to refinance or repay borrowings and strengthen liquidity. Long-term debt rose to $9,278 from $8,592, while current debt obligations declined to $254 from $1,416.
Outlook, management commentary and risks
- Management expected Q3 2020 sales to be below Q3 2019, but to improve sequentially from Q2, with further sequential improvement anticipated in Q4. It also expected sequential improvement in gross margin and operating expenses as a percentage of sales. These expectations were expressly subject to possible renewed COVID-19 outbreaks and further procedure delays; no numerical full-year guidance was provided in the filing text.
- Management said sales trends improved month by month during Q2 as procedures resumed. All manufacturing plants had restarted, though most were expected to remain below full capacity in Q3. Temporary work-week and compensation reductions ended at the beginning of Q3 in affected jurisdictions.
- The company stated that cash, expected operating cash generation, capital-market access and credit facilities should fund operations and obligations for the next 12 months. It was in compliance with its amended leverage covenant at June 30: actual leverage was 3.64x against a 4.75x maximum. The maximum is scheduled to step down over time, reaching 3.75x in Q4 2021. Failure to comply could trigger renegotiation, acceleration of borrowings or loss of facility access.
- Significant risks include uncertain pandemic duration and procedure recovery, provider capacity and patient reluctance, supply-chain or manufacturing disruption, product mix and pricing, foreign exchange, litigation and product-liability exposure, regulatory matters, and the ability to meet debt covenants and maintain liquidity.
- Legal accruals were $368 at June 30, down from $697 at year-end. Approximately 54,000 transvaginal mesh product-liability cases or claims had been asserted; about 46,500 settlement claims were final, while remaining matters and other litigation could still have material effects. The company said individual loss ranges for certain proceedings could not be reasonably estimated.
- Q2 included $34 of intangible impairment charges. The annual goodwill review found no impairment, including after considering COVID-19. The company also reported $383 of gross unrecognized tax benefits; up to $98 could be resolved with tax authorities within 12 months.
Most important facts for investors to verify
- Whether procedure volumes and sales recovered as anticipated in Q3 and Q4, and whether subsequent COVID-19 waves changed the outlook.
- Whether gross margin improved as plant utilization rose, and whether inventory charges or unfavorable product mix persisted.
- Operating cash flow, debt and leverage covenant headroom as recovery and legal payments affected liquidity.
- Further developments in mesh settlements, intellectual-property disputes, other litigation and the related legal accruals.
- The assumptions behind adjusted earnings, impairment charges and contingent-consideration estimates; adjusted results are non-GAAP and should be assessed alongside GAAP results.
- The dilution, dividend obligations and conversion terms of the 5.50% mandatory convertible preferred stock, including its scheduled 2023 conversion.