Cardinal Health, Inc. — Form 10-Q Summary
Reporting period: Quarter and nine months ended March 31, 2011 (fiscal 2011 third quarter); filed May 6, 2011. The filing is for 2011, notwithstanding the request metadata’s “2010 Q3.” Amounts are in U.S. dollars.
Business context and results
Cardinal Health operates Pharmaceutical and Medical segments, distributing pharmaceutical and medical products and providing related services. Compared with the prior-year periods, third-quarter revenue grew 7% and nine-month revenue grew 2%. Management attributed growth and stronger Pharmaceutical results partly to acquisitions and generic programs.
| Metric | Three months ended March 31, 2011 | Three months ended March 31, 2010 | Nine months ended March 31, 2011 | Nine months ended March 31, 2010 |
|---|---|---|---|---|
| Revenue | $26.071 billion | $24.343 billion | $75.881 billion | $74.043 billion |
| Gross margin | $1.162 billion | $1.010 billion | $3.119 billion | $2.877 billion |
| Operating earnings | $447.3 million | $366.3 million | $1.155 billion | $973.0 million |
| Earnings from continuing operations | $249.5 million | $224.8 million | $758.8 million | $393.2 million |
| Net earnings | $246.0 million | $222.4 million | $756.3 million | $418.7 million |
| Diluted earnings per share | $0.70 | $0.61 | $2.15 | $1.16 |
Financial position, cash flow and liquidity
- Margins: Gross margin was approximately 4.5% of revenue in the quarter versus 4.1% a year earlier, and 4.1% for the nine months versus 3.9%. Operating margin was approximately 1.7% for the quarter versus 1.5% a year earlier.
- Cash flow: Nine-month operating cash flow was $1.275 billion, down from $1.810 billion. Acquisitions, net of divestitures and cash acquired, used $2.295 billion; capital expenditures were $186 million. Cash and equivalents declined $793.5 million from fiscal year-end to $1.962 billion.
- Debt: Long-term obligations and other short-term borrowings totaled $2.476 billion at March 31, 2011, compared with $2.129 billion at June 30, 2010. The company issued $500 million of 4.625% notes due 2020 and used proceeds partly to repay $219.7 million of 6.75% notes due 2011.
- Liquidity: Current assets were $16.685 billion and current liabilities $13.761 billion. The company reported no outstanding commercial paper or committed receivables-facility borrowings and said it was in compliance with credit-facility covenants. It reported $1.5 billion of revolving credit capacity and a $950 million committed receivables sales facility.
- Working capital: Receivables and inventories increased from June 30, 2010 by $1.112 billion and $1.362 billion, respectively; accounts payable increased $2.467 billion. Management cited acquisition effects and payment timing among working-capital drivers.
Material changes and unusual items
- Pharmaceutical segment profit increased 25% in both the quarter and nine-month period. Medical segment profit declined 1% in the quarter and 10% year to date. Management cited generic programs and acquisitions for Pharmaceutical growth, while commodity costs and product mix pressured Medical.
- Kinray, Yong Yu and P4 Healthcare acquisitions contributed $1.2 billion to quarterly revenue and $1.5 billion to nine-month revenue, and $18 million and $34 million to operating earnings, respectively. Purchase-price allocations remained preliminary; goodwill and intangible asset values could change.
- Nine-month 2011 earnings included a $71.5 million gain on sale of the remaining CareFusion investment; the remaining shares were sold in the first quarter of fiscal 2011. The prior-year comparison included a $39.9 million debt-extinguishment loss, substantial Spin-Off restructuring costs, and litigation insurance credits. These items affect year-over-year comparisons.
- Acquisition-driven goodwill and other intangibles rose substantially: goodwill was $3.852 billion at March 31, 2011 versus $2.205 billion at June 30, 2010. The P4 acquisition also included contingent consideration with a reported fair value liability of $91.6 million.
- Quarterly and nine-month discontinued operations were losses of $3.5 million and $2.5 million, respectively, versus a nine-month gain of $25.5 million in the prior year, which included CareFusion results through its Spin-Off.
Outlook, risks and contingencies
- For the remainder of fiscal 2011, management expected low-single-digit growth in Pharmaceutical’s primary markets and flat demand in Medical’s primary markets. It expected branded drug inflation to be consistent with or slightly above historical trends, while generic deflation year to date was lower than historical trends.
- Management expected raw-material and commodity cost variability, including oil-related products, latex, synthetic rubber and cotton, to pressure Medical cost of products sold. No specific full-year earnings or revenue guidance was provided in the supplied filing text.
- The IRS proposed $598.1 million of additional taxes, excluding penalties and interest, relating to transfer pricing and intellectual-property matters for fiscal 2003–2005. Cardinal disputes the proposed adjustments and said it believes reserves are adequate; CareFusion is responsible under the tax matters agreement for $462.1 million if the tax is ultimately payable. The company also reported $710.7 million of unrecognized tax benefits and $248.7 million of accrued penalties and interest.
- Cardinal reported a $256.5 million receivable from CareFusion for specified tax indemnifications. Potential recovery and timing are relevant to liquidity and tax exposure.
- The filing discusses routine litigation and regulatory matters, product recall risks, acquisition integration and valuation uncertainties, customer gains and losses, and risks described in its annual report. Management stated it did not believe pending litigation would materially adversely affect the consolidated financial statements.
- The board approved a 10% increase in the quarterly dividend to $0.215 per share, payable July 15, 2011. A new $750 million share-repurchase authorization expires in November 2013; no shares were repurchased under it through March 31, 2011.
Most important facts for investors to verify
- How much of Pharmaceutical growth and profit improvement is recurring, versus attributable to acquisitions, generic sourcing programs and product mix.
- Whether Medical segment margins recover if commodity costs remain elevated and surgical procedure volumes remain subdued.
- Acquisition integration performance, final purchase-price allocations, goodwill impairment exposure and the P4 earn-out assumptions.
- Developments in the IRS dispute, adequacy of tax reserves, and collection of CareFusion indemnification amounts.
- Working-capital requirements, operating cash conversion, and the effect of acquisition spending and shareholder returns on cash and debt.
- How results compare after adjusting for CareFusion-related items, prior-year Spin-Off costs, and other unusual gains and charges.