Stryker Corporation — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; comparison with the three months ended March 31, 2016. Stryker is a global medical technology company reporting Orthopaedics, MedSurg, and Neurotechnology and Spine segments. Dollar amounts are in millions, except per-share amounts.
Financial performance
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net sales | $2,955 | $2,495 | 18.4% |
| Gross profit / margin | $1,962 / 66.4% | $1,694 / 67.9% | Margin down 1.5 percentage points |
| Operating income | $554 | $519 | 6.7% |
| Net earnings | $444 | $402 | 10.4% |
| Diluted EPS | $1.17 | $1.07 | 9.3% |
| Operating cash flow | $151 | $262 | Down $111 |
Sales grew 18.8% in constant currency; acquisitions contributed 10.6 percentage points, and organic constant-currency growth was 9.2%. Management attributed growth primarily to higher unit volumes, partly offset by lower prices. MedSurg sales increased 36.2%, including a 25.8% acquisition contribution; Orthopaedics grew 7.4% and Neurotechnology and Spine grew 7.3%.
Gross margin declined mainly because of recent acquisitions and product mix. Operating expenses rose, including higher research and development, recall costs, and intangible amortization. Other expense increased to $55 from $38, primarily due to higher interest expense associated with increased debt. The effective tax rate fell to 11.1% from 16.4%, primarily reflecting a $26 tax benefit from adopting share-based compensation accounting guidance.
Management reported adjusted diluted EPS of $1.48, up 19.4% from $1.24. Adjusted net earnings were $560 versus $468. These non-GAAP measures exclude specified items, including acquisition and integration costs, acquired-intangible amortization, restructuring, and recall matters; they are not substitutes for GAAP results.
Cash, debt, and liquidity
- Cash and cash equivalents were $3,213 at March 31, down from $3,316 at year-end; cash, cash equivalents, and marketable securities totaled $3,279.
- Current assets exceeded current liabilities by $5,335. The filing states that the company expects to meet short-term needs through operating cash flow, commercial paper, credit lines, and potential capital-market funding.
- Total debt was $7,219, compared with $6,914 at year-end. Long-term debt was $7,184; the company issued $500 of 1.8% senior notes due in 2019 in January. No commercial paper was outstanding at quarter-end, and available borrowing capacity was approximately $1,532. The company reported covenant compliance.
- Operating cash flow fell to $151, primarily because the prior-year period included a $53 insurance recovery and 2017 had higher performance-related compensation payments. Investing activities used $146, including $139 of capital expenditures; financing activities used $137, including $230 of share repurchases and $159 of dividends.
Material changes, outlook, and risks
- April 2016 acquisitions of Sage Products and Physio-Control materially expanded MedSurg and contributed to reported sales growth and higher amortization. The filing gives no formal numerical earnings or revenue guidance. Management reiterated its goal of organic sales growth at the high end of the medical technology industry; Q1 organic constant-currency growth was 9.2%.
- The Rejuvenate and ABG II hip-stem recall remains a significant contingency. The estimated probable loss was $1,989–$2,244 after $232 of third-party insurance recoveries ($2,221–$2,476 before recoveries). Stryker recorded an additional $21 charge in Q1; ultimate costs could differ materially. Accrued recall expenses were $521 at quarter-end, and Q1 recall-related cash payments, net of insurance recovery, were $94.
- Other legal proceedings include a patent dispute with Zimmer Biomet involving potential enhanced damages and attorney fees, and a Hill-Rom patent case for which the company could not estimate a probable loss range. The filing warns that unfavorable outcomes in legal matters could affect results, financial position, or cash flows.
- Foreign exchange is identified as the company’s principal market-risk exposure; management reported no material change from its prior annual disclosure. Approximately 85% of cash and marketable securities were held outside the United States, with most of that cash considered indefinitely reinvested.
- The company repurchased 1.9 million shares for $230 and declared a quarterly dividend of $0.425 per share. It had $1,640 remaining under its authorized repurchase program at March 31.
Important facts for investors to verify
- Whether organic sales growth and segment trends continue after separating acquisition contributions, pricing, and foreign-exchange effects.
- Whether gross-margin pressure from acquisitions and product mix persists, and how much reported earnings growth depends on non-GAAP adjustments.
- Progress and final costs of the hip-stem recall, including settlement participation, future claims, insurance recoveries, and adequacy of reserves.
- Debt service and refinancing needs, cash generation, and the availability of borrowing capacity; assess the impact of cash held overseas.
- Developments in the Zimmer Biomet and Hill-Rom litigation and any resulting financial exposure.