Quest Diagnostics Incorporated — Q1 2016 Form 10-Q
Reporting period: Three months ended March 31, 2016; unaudited. Quest provides diagnostic information services (DIS), which generated more than 90% of revenue, plus diagnostic solutions businesses.
Financial results
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Net revenues | $1.863 billion | $1.839 billion | +1.3% |
| Operating income | $257 million | $228 million | +12.9% |
| Operating margin | 13.8% | 12.4% | +1.4 percentage points |
| Net income attributable to Quest | $102 million | $61 million | +66.7% |
| Diluted EPS | $0.70 | $0.42 | +66.7% |
| Cash from operating activities | $143 million | $52 million | +$91 million |
| Cash and cash equivalents | $128 million | $133 million at Dec. 31, 2015 | -$5 million |
DIS revenue grew 3.8% to $1.756 billion; requisition volume increased 2.6% and revenue per requisition increased 1.1%. Diagnostic Solutions revenue fell 26.9% to $107 million, reflecting the prior-year contribution of the clinical trials testing business to the Q2 Solutions joint venture and the wind-down of Celera Products. The clinical trials contribution reduced consolidated revenue growth by 2.3%.
Cost of services declined 1.6%, while selling, general and administrative expense rose 5.5%, including higher compensation and bad debt expense. Bad debt expense was 4.6% of revenue versus 4.3%. Reported results included an estimated $10 million benefit to operating income from longer estimated useful lives of certain assets, increasing net income by $6 million, or $0.04 per share; management estimated a full-year 2016 benefit of $22 million to net income, or $0.16 per share.
Cash, debt and capital allocation
- At March 31, total debt was $3.898 billion, including $158 million current and $3.740 billion long-term. Debt was $3.651 billion at year-end 2015. The increase included $410 million drawn under the secured receivables facility.
- Cash from operations was $143 million; investing used $190 million, including $135 million for the Clinical Laboratory Partners acquisition and $47 million in capital expenditures. Financing provided $42 million. Cash declined by $5 million during the quarter.
- Available borrowing capacity under credit facilities was $873 million. The company reported compliance with debt covenants and said cash, operating cash flow and credit capacity should fund foreseeable operating and capital needs.
- Capital expenditures are expected to be approximately $250 million–$300 million in 2016. The quarterly dividend rose to $0.40 per share from $0.38; $55 million was paid. The company repurchased 1.7 million shares for $115 million and had $857 million remaining under its repurchase authorization.
Material developments, outlook and risks
- Quest acquired Clinical Laboratory Partners’ outreach laboratory business for $135 million on February 29. The acquisition added $91 million of goodwill and $43 million of customer-related intangibles.
- Quest agreed to sell Focus Diagnostics Products to DiaSorin for $300 million cash, subject to working-capital adjustments and closing conditions. The company expected a Q2 2016 closing and a material pretax gain; the business was classified as held for sale, not discontinued operations.
- The March debt tender retired $200 million principal of long-dated notes. A $48 million pretax loss on early retirement reduced Q1 diluted EPS by $0.21. Other identified items reduced Q1 diluted EPS by a further $0.11; management reported total identified impacts of $0.32 per diluted share. Comparable items reduced Q1 2015 diluted EPS by $0.54.
- The Invigorate cost program targets $1.3 billion in run-rate savings versus 2011 by the end of 2017. Management said it remained on track; estimated 2016 program charges were $80 million–$100 million, including systems conversion and integration costs. Q1 charges associated with the program were $13 million.
- No full-year revenue or earnings guidance is provided in the filing. Management noted that PAMA Medicare laboratory reimbursement changes could take effect as early as 2017, although rulemaking delays made that timing challenging.
- Legal and regulatory proceedings include allegations concerning Florida Medicaid pricing and billing and a False Claims Act matter involving subsidiary Berkeley HeartLab. Management did not believe material losses were probable at March 31, but said potential losses could not be estimated and outcomes could materially affect results or cash flows in the period determined or paid. Professional-liability reserves were $129 million.
- Other considerations include higher patient cost-sharing and bad debt, reimbursement and competitive pressures, and interest-rate exposure. The company reported no material expected impact from a hypothetical 10% change in variable-rate debt interest rates on annual interest expense.
Important facts for investors to verify
- Whether the Focus Diagnostics sale closed on expected terms and the realized gain and proceeds.
- Underlying DIS volume, pricing and bad-debt trends, including the contribution from acquisitions and the effect of reimbursement changes.
- Progress toward Invigorate savings targets and actual restructuring and integration charges versus estimates.
- Debt balances, facility usage, upcoming maturities, and the cash-flow effects of acquisitions, buybacks and dividends.
- Developments in Medicaid, False Claims Act and other legal matters, including any change in the company’s ability to estimate potential losses.