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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For The Quarter Ended December 31, 2002 Commission File Number 1-11373
CARDINAL HEALTH, INC.
(Exact name of registrant as specified in its charter)
OHIO 31-0958666
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
7000 CARDINAL PLACE, DUBLIN, OHIO 43017
(Address of principal executive offices and zip code)
(614) 757-5000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Securities Exchange Act of 1934).
Yes [ ] No [X]
The number of Registrant's Common Shares outstanding at the close of
business on January 31, 2003 was as follows:
Common Shares, without par value: 452,159,340
CARDINAL HEALTH, INC. AND SUBSIDIARIES
Index*
Page No.
--------
Part I. Financial Information:
Item 1. Financial Statements:
Condensed Consolidated Statements of Earnings for the Three and
Six Months Ended December 31, 2002 and 2001 (unaudited)................. 3
Condensed Consolidated Balance Sheets at December 31, 2002 and
June 30, 2002 (unaudited)............................................... 4
Condensed Consolidated Statements of Cash Flows for the Six Months
Ended December 31, 2002 and 2001 (unaudited)............................ 5
Notes to Condensed Consolidated Financial Statements.................... 6
Item 2. Management's Discussion and Analysis of Results of Operations
and Financial Condition................................................. 16
Item 3. Quantitative and Qualitative Disclosures about Market Risk.............. 23
Item 4. Controls and Procedures................................................. 23
Part II. Other Information:
Item 1. Legal Proceedings....................................................... 23
Item 4. Submission of Matters to a Vote of Security Holders..................... 25
Item 6. Exhibits and Reports on Form 8-K........................................ 26
- -----------------
* Items not listed are inapplicable.
Page 2
PART I. FINANCIAL INFORMATION
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(UNAUDITED)
(IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED SIX MONTHS ENDED
DECEMBER 31, DECEMBER 31,
------------------------ ------------------------
2002 2001 2002 2001
--------- --------- --------- ---------
Operating revenue $12,706.3 $11,221.7 $24,122.9 $21,087.1
Operating cost of products sold 11,626.8 10,221.2 22,036.5 19,171.9
--------- --------- --------- ---------
Operating gross margin 1,079.5 1,000.5 2,086.4 1,915.2
Bulk deliveries to customer warehouses and other 1,384.7 1,870.4 3,054.2 3,778.4
Cost of products sold - bulk deliveries and other 1,384.7 1,870.4 3,054.2 3,778.4
--------- --------- --------- ---------
Bulk gross margin -- -- -- --
Selling, general and administrative expenses 526.2 514.0 1,046.9 1,016.4
Special items - merger charges 22.0 16.8 33.4 29.1
Special items - other (59.6) -- (52.3) --
--------- --------- --------- ---------
Operating earnings 590.9 469.7 1,058.4 869.7
Interest expense and other 31.5 38.8 62.1 67.4
--------- --------- --------- ---------
Earnings before income taxes 559.4 430.9 996.3 802.3
Provision for income taxes 191.9 147.6 340.5 272.6
--------- --------- --------- ---------
Earnings before cumulative effect of change
in accounting 367.5 283.3 655.8 529.7
Cumulative effect of change in accounting (See Note 7) -- -- -- 70.1
--------- --------- --------- ---------
Net earnings $ 367.5 $ 283.3 $ 655.8 $ 459.6
========= ========= ========= =========
Basic earnings per Common Share:
Before cumulative effect of change in accounting $ 0.83 $ 0.63 $ 1.48 $ 1.18
Cumulative effect of change in accounting -- -- -- (0.16)
--------- --------- --------- ---------
Net basic earnings per Common Share $ 0.83 $ 0.63 $ 1.48 $ 1.02
========= ========= ========= =========
Diluted earnings per Common Share:
Before cumulative effect of change in accounting $ 0.82 $ 0.62 $ 1.45 $ 1.15
Cumulative effect of change in accounting -- -- -- (0.15)
--------- --------- --------- ---------
Net diluted earnings per Common Share $ 0.82 $ 0.62 $ 1.45 $ 1.00
========= ========= ========= =========
Weighted average number of Common Shares outstanding:
Basic 442.0 449.9 444.1 449.7
Diluted 450.0 459.7 452.1 460.2
Cash dividends declared per Common Share $ 0.025 $ 0.025 $ 0.050 $ 0.050
See notes to condensed consolidated financial statements.
Page 3
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN MILLIONS)
DECEMBER 31, JUNE 30,
2002 2002
------------ ----------
ASSETS
Current assets:
Cash and equivalents $ 998.9 $ 1,382.0
Trade receivables, net 2,611.8 2,295.4
Current portion of net investment in sales-type leases 175.4 218.3
Inventories 8,313.3 7,361.0
Prepaid expenses and other 770.0 649.9
--------- ---------
Total current assets 12,869.4 11,906.6
--------- ---------
Property and equipment, at cost 3,511.7 3,509.3
Accumulated depreciation and amortization (1,588.4) (1,614.9)
--------- ---------
Property and equipment, net 1,923.3 1,894.4
Other assets:
Net investment in sales-type leases, less current portion 525.2 618.6
Goodwill and other intangibles 1,572.5 1,544.1
Other 291.2 474.3
--------- ---------
Total $17,181.6 $16,438.0
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable, banks $ 0.1 $ 0.8
Current portion of long-term obligations 17.1 17.4
Accounts payable 6,094.5 5,504.5
Other accrued liabilities 1,462.1 1,287.7
--------- ---------
Total current liabilities 7,573.8 6,810.4
--------- ---------
Long-term obligations, less current portion 2,242.8 2,207.0
Deferred income taxes and other liabilities 832.8 1,027.6
Shareholders' equity:
Preferred Stock, without par value
Authorized - 0.5 million shares, Issued - none -- --
Common Shares, without par value
Authorized - 755.0 million shares, Issued - 463.3 million
shares and 461.0 million shares at December 31, 2002 and
June 30, 2002, respectively 2,192.6 2,105.2
Retained earnings 5,789.5 5,156.1
Common Shares in treasury, at cost, 22.1 million shares
and 12.2 million shares at December 31, 2002 and
June 30, 2002, respectively (1,360.2) (737.0)
Other comprehensive loss (80.3) (120.9)
Other (9.4) (10.4)
--------- ---------
Total shareholders' equity 6,532.2 6,393.0
--------- ---------
Total $17,181.6 $16,438.0
========= =========
See notes to condensed consolidated financial statements.
Page 4
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN MILLIONS)
SIX MONTHS ENDED
DECEMBER 31,
---------------------
2002 2001
-------- ---------
CASH FLOWS FROM OPERATING ACTIVITIES:
Earnings before cumulative effect of change in accounting $ 655.8 $ 529.7
Adjustments to reconcile earnings before cumulative effect
of change in accounting to net cash from operating activities:
Depreciation and amortization 126.5 123.1
Provision for bad debts 10.5 14.8
Change in operating assets and liabilities, net of effects
from acquisitions:
Increase in trade receivables (327.8) (169.7)
Increase in inventories (952.3) (1,962.4)
Decrease in net investment in sales-type leases 136.2 161.5
Increase in accounts payable 590.0 291.3
Other operating items, net 120.0 64.7
-------- --------
Net cash provided by/(used in) operating activities 358.9 (947.0)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of subsidiaries, net of cash acquired (7.8) (2.8)
Proceeds from sale of property, equipment, and other assets 33.8 16.9
Additions to property and equipment (172.3) (121.3)
-------- --------
Net cash used in investing activities (146.3) (107.2)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in commercial paper and short-term debt (0.7) 576.6
Reduction of long-term obligations (13.1) (27.7)
Proceeds from long-term obligations, net of issuance costs 6.1 46.4
Proceeds from issuance of Common Shares 77.0 61.9
Purchase of treasury shares (642.7) (115.7)
Dividends on Common Shares (22.3) (22.5)
-------- --------
Net cash provided by/(used in) financing activities (595.7) 519.0
-------- --------
NET DECREASE IN CASH AND EQUIVALENTS (383.1) (535.2)
CASH AND EQUIVALENTS AT BEGINNING OF PERIOD 1,382.0 934.1
-------- --------
CASH AND EQUIVALENTS AT END OF PERIOD $ 998.9 $ 398.9
======== ========
See notes to condensed consolidated financial statements.
Page 5
CARDINAL HEALTH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. The condensed consolidated financial statements of
Cardinal Health, Inc. (the "Company") include the accounts of all majority-owned
subsidiaries and all significant intercompany amounts have been eliminated.
These condensed consolidated financial statements have been prepared in
accordance with the instructions to Form 10-Q and include all of the information
and disclosures required by generally accepted accounting principles for interim
reporting. In the opinion of management, all adjustments necessary for a fair
presentation have been included. Except as disclosed elsewhere in this Form
10-Q, all such adjustments are of a normal and recurring nature.
The condensed consolidated financial statements included herein should be
read in conjunction with the audited consolidated financial statements and
related notes contained in the Company's Annual Report on Form 10-K for the
fiscal year ended June 30, 2002 (the "2002 Form 10-K"). Note 1 of the "Notes to
Consolidated Financial Statements" from the 2002 Form 10-K contains specific
accounting policies and is incorporated herein by reference.
RECENT FINANCIAL ACCOUNTING STANDARDS. In January 2003, the Financial
Accounting Standards Board ("FASB") issued Interpretation No. 46, "Consolidation
of Variable Interest Entities". This interpretation defines when a business
enterprise must consolidate a variable interest entity. This interpretation
applies immediately to variable interest entities created after January 31,
2003. It applies in the first fiscal year or interim period beginning after June
15, 2003, to entities in which an enterprise holds a variable interest that it
acquired before February 1, 2003. The Company has certain operating lease
agreements with entities it believes qualify as variable interest entities.
These operating leases consist of certain real estate used in the operations of
the Company, and the obligations under these leases approximate $145 million at
December 31, 2002. Although the Company's maximum loss exposure related to these
operating lease agreements at December 31, 2002 was approximately $121 million,
the Company believes the proceeds from the sale of the real estate properties
under these operating leases would exceed its payment obligation.
In December 2002, the FASB issued Statement of Financial Accounting
Standards ("SFAS") No. 148, "Accounting for Stock-Based Compensation -
Transition and Disclosure" which amends FASB Statement No. 123. This statement
provides alternative methods of transition for a voluntary change to the fair
value-based method of accounting for stock-based employee compensation and
amends the disclosure requirements of FASB Statement No. 123. The transition
guidance and annual disclosure provisions are effective for fiscal years ending
after December 15, 2002. The interim disclosure provisions are effective for
financial reports containing financial statements for interim periods beginning
after December 15, 2002. The Company will include the required interim
disclosure provisions in its financial statements for the quarter ending March
31, 2003. The adoption of this statement is not anticipated to have a material
effect on the Company's financial position or results of operations.
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others". This interpretation requires a guarantor
to recognize, at the inception of the guarantee, a liability for the fair value
of the obligation undertaken in issuing the guarantee. It also enhances
guarantor's disclosure requirements to be made in its interim and annual
financial statements about its obligations under certain guarantees it has
issued. The initial recognition and initial measurement provisions of this
interpretation are applicable on a prospective basis to guarantees issued or
modified after December 31, 2002. The disclosure requirements are effective for
financial statements of interim or annual periods ending after December 15,
2002. The Company adopted the enhanced disclosure requirements in the current
quarter. The adoption of the recognition and initial measurement provisions is
not anticipated to have a material effect on the Company's financial position or
results of operations.
In November 2002, the Emerging Issues Task Force ("EITF") issued EITF Issue
No. 00-21 "Accounting for Revenue Arrangements with Multiple Deliverables",
effective for arrangements entered into after June 15, 2003. This issue defines
units of accounting for arrangements with multiple deliverables resulting in
revenue being allocated over the units of accounting for revenue recognition
purposes. The adoption of this statement is not anticipated to have a material
effect on the Company's financial position or results of operations.
In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities," effective for exit or disposal
activities that are initiated after December 31, 2002. This statement
Page 6
nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee
Termination Benefits and Other Costs to Exit an Activity (including Certain
Costs Incurred in a Restructuring)." This statement requires that a liability
for a cost associated with an exit or disposal activity, other than those
associated with a business combination, be recognized when the liability is
incurred instead of recognizing the liability at the date of an entity's
commitment to an exit plan as was required in Issue No. 94-3. The Company will
adopt the provisions of SFAS No. 146 for restructuring activities initiated
after December 31, 2002. The adoption of this statement is not anticipated to
have a material effect on the Company's financial position or results of
operations.
2. EARNINGS PER SHARE AND SHAREHOLDERS' EQUITY
Basic earnings per Common Share ("Basic") is computed by dividing net
earnings (the numerator) by the weighted average number of Common Shares
outstanding during each period (the denominator). Diluted earnings per Common
Share is similar to the computation for Basic, except that the denominator is
increased by the dilutive effect of stock options outstanding, computed using
the treasury stock method.
The following table reconciles the number of shares used to compute basic
and diluted earnings per Common Share.
For the For the
Three Months Ended Six Months Ended
December 31, December 31,
--------------------- -------------------
(in millions) 2002 2001 2002 2001
- ------------- ----- ----- ----- -----
Weighted-average shares - basic 442.0 449.9 444.1 449.7
Effect of dilutive securities:
Employee stock options 8.0 9.8 8.0 10.5
----- ----- ----- -----
Weighted-average shares - diluted 450.0 459.7 452.1 460.2
===== ===== ===== =====
The potentially dilutive employee stock options that were antidilutive for
the three months ended December 31, 2002 and 2001 were 12.5 million and 0.1
million and for the six months ended December 31, 2002 and 2001 were 12.7
million and 0.1 million, respectively.
On August 7, 2002, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. During
the three months ended December 31, 2002, the Company repurchased approximately
3.5 million Common Shares having an aggregate cost of approximately $231.2
million. As of December 31, 2002, a total of approximately 6.9 million Common
Shares having an aggregate cost of approximately $451.0 million had been
repurchased through this plan. The repurchased shares will be treasury shares
available to be used for general corporate purposes.
In September 2001, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. This
program was completed in August 2002. The Company repurchased approximately 3.2
million Common Shares having an aggregate cost of approximately $191.7 million
during the quarter ended September 30, 2002. The cumulative amount repurchased
under this program was approximately 8.3 million Common Shares having an
aggregate cost of approximately $500 million. The repurchased shares will be
treasury shares available to be used for general corporate purposes.
3. COMPREHENSIVE INCOME
The following is a summary of the Company's comprehensive income for the
three and six months ended December 31, 2002 and 2001:
For the For the
Three Months Ended Six Months Ended
December 31, December 31,
------------------- ------------------
(in millions) 2002 2001 2002 2001
- ------------- ------ ------ ------ ------
Net earnings $367.5 $283.3 $655.8 $459.6
Foreign currency translation adjustment 19.6 (10.3) 28.2 4.0
Unrealized gain on investment -- -- -- 2.2
Reclassification adjustment for
investment losses included in net earnings -- -- -- 3.2
Net unrealized gain/(loss) on derivative
instruments (2.9) 2.2 12.4 (4.3)
------ ------ ------ ------
Total comprehensive income $384.2 $275.2 $696.4 $464.7
====== ====== ====== ======
Page 7
4. MERGER-RELATED COSTS AND OTHER SPECIAL ITEMS
The following is a summary of the special items for the three and six
months ended December 31, 2002 and 2001.
Three Months Ended Six Months Ended
Special Items December 31, December 31,
- ------------- ------------------- --------------------
(in millions) 2002 2001 2002 2001
- ------------- -------- ------- -------- --------
Merger-Related Costs:
Employee-related costs $ (11.8) $ (4.6) $ (15.0) $ (8.7)
Pharmaceutical distribution center consolidation (4.7) (0.5) (9.8) (0.8)
Other exit costs (1.5) (1.9) (2.0) (4.2)
Other integration costs (4.0) (9.8) (6.6) (15.4)
------- ------- ------- -------
Total merger-related costs $ (22.0) $ (16.8) $ (33.4) $ (29.1)
------- ------- ------- -------
Other Special Items:
Employee-related costs $ (1.4) $ -- $ (1.4) $ --
Manufacturing facility closures (11.0) -- (21.2) --
Litigation settlements 89.9 -- 92.8 --
Asset impairment and other (17.9) -- (17.9) --
------- ------- ------- -------
Total other special items $ 59.6 $ -- $ 52.3 $ --
------- ------- ------- -------
Total special items $ 37.6 $ (16.8) $ 18.9 $ (29.1)
Tax effect of special items (15.5) 6.5 (12.4) 11.2
------- ------- ------- -------
Net effect of special items $ 22.1 $ (10.3) $ 6.5 $ (17.9)
======= ======= ======= =======
MERGER-RELATED COSTS
Costs of integrating the operations of various merged companies are
recorded as merger-related costs when incurred. The merger-related costs
recognized as of December 31, 2002, were primarily a result of the merger or
acquisition transactions involving Boron, Lepore & Associates, Inc. ("BLP"),
Magellan Laboratories Incorporated ("Magellan"), Bindley Western Industries,
Inc. ("Bindley"), Bergen Brunswig Medical Corporation ("BBMC"), Allegiance
Corporation ("Allegiance") and R.P. Scherer Corporation ("Scherer").
EMPLOYEE-RELATED COSTS. During the above-stated periods, the Company
incurred employee-related costs associated with certain of its mergers and
acquisitions. For the three months ended December 31, 2002, $8.8 million related
to an approved plan to curtail certain defined benefit pension plans within the
Pharmaceutical Technologies and Services segment. The remaining employee-related
costs for the three and six months ended December 31, 2002, as well as the costs
for the three and six months ended December 31, 2001, primarily related to
amortization expense of noncompete agreements associated with the Bindley and
Allegiance merger transactions.
PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. In connection with the
merger transaction with Bindley, the Company anticipated closing and
consolidating a total of 16 Bindley distribution centers, Bindley's corporate
office, and one of the Company's data centers. These closures were to result in
the termination of approximately 1,250 employees. As of December 31, 2002, all
16 Bindley distribution centers and the Company's data center have been closed,
and the majority of the 1,250 employees have been terminated. The Company
anticipates completing the corporate office consolidation by June 30, 2003.
During the three and six months ended December 31, 2002, the Company
recorded charges totaling $4.7 million and $9.8 million, respectively,
associated with the consolidations and closures noted above, as compared to $0.5
million and $0.8 million, respectively, for the comparable periods in fiscal
2002. The Company incurred employee-related costs of $2.3 million and $3.2
million during the three and six months ended December 31, 2002, respectively,
primarily from the termination of employees due to the distribution center
closures, as compared to $1.4 million for the three and six months ended
December 31, 2001. The remaining merger-related items recorded during these
periods primarily relate to exit costs to consolidate and close the various
facilities mentioned above, including asset impairment charges, inventory move
costs, contract and lease termination costs, and duplicate salary costs incurred
during the shutdown periods. During the three months ended December 31, 2001,
the Company recorded a gain of $2.5 million related to the sale of a Bindley
distribution center, partially offsetting the expenses incurred during this
period.
Page 8
OTHER EXIT COSTS. Other exit costs related primarily to costs associated
with lease terminations, moving expenses, and asset impairments as a direct
result of the merger transactions with BBMC, Allegiance and Scherer.
OTHER INTEGRATION COSTS. Other integration costs, which primarily relate to
the merger and acquisition transactions noted above, included charges directly
related to the integration of operations of the transactions noted, such as
consulting costs related to information systems and employee benefit
integration, as well as relocation and travel costs directly associated with the
integrations.
OTHER SPECIAL ITEMS
EMPLOYEE-RELATED COSTS. During the three months ended December 31, 2002,
the Company incurred $1.4 million of employee-related costs associated with the
restructuring of certain operations within the Pharmaceutical Distribution and
Provider Services segment. A significant portion of the charges recorded
represent severance accrued upon communication of severance terms to employees
during the second quarter of fiscal 2003. The restructuring of operations is
expected to be complete by June 30, 2003, and will result in the termination of
approximately 30 employees.
MANUFACTURING FACILITY CLOSURES. During the three and six months ended
December 31, 2002, the Company recorded a total of $11.0 million and $21.2
million, respectively, as special charges related to the closure and
consolidation of certain manufacturing facilities. These closures and
consolidations occurred within the Medical Products and Services segment and the
Pharmaceutical Technologies and Services segment.
Within the Medical Products and Services segment, three manufacturing
facility closures were announced during the six months ended December 31, 2002
(one during the first quarter of fiscal 2003 and two during the second quarter
of fiscal 2003). Two of the manufacturing facility closures were complete as of
December 31, 2002. The other closure is expected to be complete by March 31,
2003. Asset impairment charges of $1.4 million and $8.9 million were incurred
during the three and six months ended December 31, 2002, respectively. Also,
exit costs of $1.3 million and $2.7 million, respectively, were incurred during
those same periods, primarily related to dismantling and moving machinery and
equipment. The remaining $3.3 million and $4.6 million, respectively, related to
severance costs due to the termination of employees as a result of these
closures. The Company expects to terminate a total of approximately 530
employees due to these closures. As of December 31, 2002, the majority of these
employees were terminated.
The Company incurred special charges during the three months ended December
31, 2002, related to two manufacturing facility closures within the
Pharmaceutical Technologies and Services segment. One closure was complete as of
December 31, 2002. The other is expected to be complete by June 30, 2003. Asset
impairment charges of $1.1 million were incurred during the three months ended
December 31, 2002. Also, exit costs of $1.6 million were incurred during this
same period, primarily related to dismantling machinery and equipment and
transferring certain technologies to other existing facilities within the
Company. In addition, $1.6 million of severance costs were incurred as a result
of these closures. The Company expects to terminate a total of approximately 75
employees due to these closures. As of December 31, 2002, the majority of these
employees were terminated.
LITIGATION SETTLEMENTS. During the three and six months ended December 31,
2002, the Company recorded income from litigation settlements of $89.9 million
and $92.8 million, respectively. The settlements resulted from the recovery of
antitrust claims against certain vitamin manufacturers for amounts overcharged
in prior years. The total recovery through December 31, 2002 was $128.1 million.
The amount recorded in the current quarter of $89.9 million represents an
estimate of the majority of the recovery expected to be received from the
defendants in the case. While the Company still has pending claims with smaller
vitamin manufacturers, the total amount of future recovery is not currently
estimable but the Company believes it will not likely represent a material
amount. Any future recoveries will be recorded as a special item in the period
in which a settlement is reached.
ASSET IMPAIRMENT AND OTHER. During the three months ended December 31,
2002, the Company incurred asset impairment and other charges of $17.9 million,
of which $10.1 million related to asset impairment charges resulting from the
Company's decision to exit certain North American commodity operations in its
Pharmaceutical Technologies and Services segment. The remaining $7.8 million
relates to a one-time writeoff of design, tooling and development costs.
Page 9
ACCRUAL ROLLFORWARD
The following table summarizes the activity related to the liabilities
associated with the Company's special charges during the six months ended
December 31, 2002.
For the Six
Months Ended
($ in millions) December 31, 2002
- --------------- -----------------
Balance at June 30, 2002 $ 64.7
Additions(1) 73.9
Payments (83.2)
------
Balance at December 31, 2002 $ 55.4
======
- ---------------
(1) Amount represents items that have been either expensed as incurred or
accrued according to generally accepted accounting principles. This amount
does not include litigation settlement income recorded during the six
months ended December 31, 2002 of $92.8 million, which was reported as a
reduction to special charges.
SUMMARY
The net effect of special items recorded during the three months ended
December 31, 2002, was to increase net earnings by $22.1 million to $367.5
million and to increase reported diluted earnings per Common Share by $0.05 per
share to $0.82 per share. In comparison, the net effect of special items
recorded during the three months ended December 31, 2001, was to reduce net
earnings by $10.3 million to $283.3 million and to reduce reported diluted
earnings per Common Share by $0.02 per share to $0.62 per share.
The net effect of special items recorded during the six months ended
December 31, 2002, was to increase earnings before cumulative effect of change
in accounting by $6.5 million to $655.8 million and to increase reported diluted
earnings per Common Share before cumulative effect of change in accounting by
$0.01 per share to $1.45 per share. In comparison, the net effect of special
items recorded during the six months ended December 31, 2001, was to reduce
earnings before cumulative effect of change in accounting by $17.9 million to
$529.7 million and to reduce reported diluted earnings per Common Share before
cumulative effect of change in accounting by $0.04 per share to $1.15 per share.
5. SEGMENT INFORMATION
The Company is organized based on the products and services it offers.
Under this organizational structure, the Company operates within four operating
business segments: Pharmaceutical Distribution and Provider Services, Medical
Products and Services, Pharmaceutical Technologies and Services, and Automation
and Information Services. As of December 31, 2002, the Company has not made any
significant changes in the segments reported or the basis of measurement of
segment profit or loss from the information provided in the 2002 Form 10-K.
The Pharmaceutical Distribution and Provider Services segment involves the
distribution of a broad line of pharmaceuticals, healthcare,
radiopharmaceuticals, and other specialty pharmaceutical products and other
items typically sold by hospitals, retail drug stores and other healthcare
providers. In addition, this segment provides services to the healthcare
industry through integrated pharmacy management, temporary pharmacy staffing, as
well as franchising of apothecary-style retail pharmacies.
The Medical Products and Services segment involves the manufacture of
medical, surgical and laboratory products and the distribution of these products
as well as products not manufactured internally to hospitals, physician offices,
surgery centers and other healthcare providers.
The Pharmaceutical Technologies and Services segment provides services to
the healthcare industry through the design of proprietary drug delivery systems
including softgel capsules, controlled release forms, Zydis(R) fast dissolving
wafers, and advanced sterile delivery technologies. It also provides
comprehensive packaging, pharmaceutical development and analytical science
expertise, as well as medical education, marketing and contract sales services.
The Automation and Information Services segment provides services to
hospitals and other healthcare providers through pharmacy automation equipment
and clinical information system services.
The Company evaluates the performance of the segments based on operating
earnings after the corporate allocation of administrative expenses. Special
charges are not allocated to the segments.
Page 10
The following tables include revenue and operating earnings for the three
and six months ended December 31, 2002 and 2001 for each segment and reconciling
items necessary to equal amounts reported in the condensed consolidated
financial statements:
NET REVENUE
For the For the
Three Months Ended Six Months Ended
December 31, December 31,
-------------------------- -------------------------
(in millions) 2002 2001 2002 2001
- ------------- ---------- ---------- ---------- ----------
Operating revenue:
Pharmaceutical Distribution and Provider Services $ 10,539.0 $ 9,214.5 $ 19,890.5 $ 17,175.2
Medical Products and Services 1,638.8 1,554.6 3,234.3 3,064.1
Pharmaceutical Technologies and Services 382.5 330.2 736.6 630.9
Automation and Information Services 164.5 139.7 298.3 248.0
Corporate(1) (18.5) (17.3) (36.8) (31.1)
---------- ---------- ---------- ----------
Total operating revenue $ 12,706.3 $ 11,221.7 $ 24,122.9 $ 21,087.1
========== ========== ========== ==========
Bulk deliveries to customer warehouses and other:
Pharmaceutical Distribution and Provider Services $ 1,336.9 $ 1,870.4 $ 2,967.7 $ 3,778.4
Pharmaceutical Technologies and Services(2) 47.8 -- 86.5 --
---------- ---------- ---------- ----------
Total bulk deliveries to customer warehouses and other $ 1,384.7 $ 1,870.4 $ 3,054.2 $ 3,778.4
========== ========== ========== ==========
OPERATING EARNINGS
For the For the
Three Months Ended Six Months Ended
December 31, December 31,
----------------- -------------------
(in millions) 2002 2001 2002 2001
- ------------- ------- ------- --------- -------
Operating earnings:
Pharmaceutical Distribution and Provider Services $ 301.1 $ 256.2 $ 568.6 $ 478.0
Medical Products and Services 143.6 130.5 282.3 257.0
Pharmaceutical Technologies and Services 79.0 69.5 146.0 127.2
Automation and Information Services 69.3 55.1 115.5 84.9
Corporate(3) (2.1) (41.6) (54.0) (77.4)
------- ------- --------- -------
Total operating earnings $ 590.9 $ 469.7 $ 1,058.4 $ 869.7
======= ======= ========= =======
- -----------------
(1) Corporate operating revenue primarily consists of foreign currency
translation adjustments.
(2) At the beginning of fiscal 2003, the Company began classifying
out-of-pocket expenses received through its recently acquired sales and
marketing services' business within the bulk deliveries to customer
warehouses and other line item. The customer is contractually required to
reimburse the Company for these expenses. The Company does not generate any
margin from these reimbursements.
(3) Corporate operating earnings include special items of $37.6 million and
($16.8) million in the three-month periods ended December 31, 2002 and
2001, respectively, and $18.9 million and ($29.1) million for the six-month
periods ended December 31, 2002 and 2001, respectively, and unallocated
corporate administrative expenses and investment spending. In addition, at
the beginning of fiscal 2003, the Company began expanding the use of its
shared service center, which previously supported the Medical Products and
Services segment, to benefit and support company-wide initiatives and other
business segments. Accordingly, the cost of the shared service center,
which was previously reported within the Medical Products and Services
segment, has been classified within Corporate operating earnings for fiscal
2003 to be consistent with internal segment reporting. The cost of these
services for the three and six months ended December 31, 2002 were
approximately $4.8 million and $9.6 million, respectively. These costs are
included within corporate operating earnings, a portion of which are
allocated to each segment.
6. LEGAL PROCEEDINGS
Latex Litigation
On September 30, 1996, Baxter International Inc. ("Baxter") and its
subsidiaries transferred to Allegiance and its subsidiaries Baxter's U.S.
healthcare distribution business, surgical and respiratory therapy business and
healthcare cost-saving business as well as certain foreign operations (the
"Allegiance Business") in connection with a spin-off of the Allegiance Business
by Baxter (the "Baxter-Allegiance Spin-Off"). In connection with this spin-off,
Allegiance, which merged with a subsidiary of the Company on February 3, 1999,
agreed to indemnify Baxter, and
Page 11
to defend and indemnify Baxter Healthcare Corporation ("BHC"), as contemplated
by the agreements between Baxter and Allegiance, for all expenses and potential
liabilities associated with claims arising from the Allegiance Business,
including certain claims of alleged personal injuries as a result of exposure to
natural rubber latex gloves. The Company is not a party to any of the lawsuits
and has not agreed to pay any settlements to the plaintiffs.
As of December 31, 2002, there were 314 lawsuits against BHC and/or
Allegiance involving allegations of sensitization to natural rubber latex
products and some of these cases were proceeding to trial. The total dollar
amount of potential damages cannot be reasonably quantified. Some plaintiffs
plead damages in extreme excess of what they reasonably can expect to recover,
some plead a modest amount, and some do not include a request for any specific
dollar amount. Not including cases that ask for no specific damages, the damage
requests per action have ranged from $10,000 to $240 million. All of these cases
name multiple defendants, in addition to Baxter/Allegiance. The average number
of defendants per case exceeds twenty-five. Based on the significant differences
in the range of damages sought and based on the multiple number of defendants in
these lawsuits, Allegiance cannot reasonably quantify the total amount of
possible/probable damages. Therefore, Allegiance and the Company do not believe
that these numbers should be considered as an indication of either reasonably
possible or probable liability.
Since the inception of this litigation, Baxter/Allegiance have been named
as a defendant in approximately 800 cases. As of December 31, 2002, fewer than
half of those lawsuits remain pending. Nearly half of the lawsuits that have
been resolved were concluded without any liability to Baxter/Allegiance. During
the fiscal year ended June 30, 2002, Allegiance began settling some of these
lawsuits with greater frequency. No individual claim has been settled for a
material amount, nor have all the settled claims, in the aggregate, comprised a
material amount. Due to the number of claims filed and the ongoing defense costs
that will be incurred, Allegiance believes it is probable that it will incur
substantial legal fees related to the resolution of the cases still pending.
Although the Company continues to believe that it cannot reasonably estimate the
potential cost to settle these lawsuits, the Company believes that the impact of
such lawsuits upon Allegiance will be immaterial to the Company's financial
position, liquidity and results of operations, and could be in the range of $0
to $20 million, net of insurance proceeds (with the top end of the range
reflecting virtually no insurance coverage, which the Company believes is an
unlikely scenario given the insurance coverage in place). The Company believes a
substantial portion of any liability will be covered by insurance policies
Allegiance has with financially viable insurance companies, subject to
self-insurance retentions, exclusions, conditions, coverage gaps, policy limits
and insurer solvency. The Company and Allegiance continue to believe that
insurance recovery is probable.
Shareholder Litigation against Cardinal Health
On November 8, 2002, a complaint was filed by a purported shareholder
against the Company and its directors in the Court of Common Pleas, Delaware
County, Ohio, as a purported derivative action alleging breach of fiduciary
duties and corporate waste in connection with the alleged failure by the Board
of Directors of the Company to renegotiate or terminate the Company's proposed
acquisition of Syncor International Corporation ("Syncor"). Doris Staehr v.
Robert D. Walter, et al., No. 02-CVG-11-639. Among other matters, the complaint
requested that the transaction with Syncor be enjoined and that damages be
awarded against defendants in an unspecified amount. The Company believes the
allegations made in the complaint are without merit and intends to vigorously
defend this action. The Company currently does not believe that the impact of
this lawsuit, if any, will have a material adverse effect on the Company's
financial position, liquidity and results of operation. The Company currently
believes that there will be some insurance coverage available under the
Company's directors' and officers' liability insurance policies in effect at the
time this action was filed.
Shareholder Litigation against Syncor
As of January 1, 2003, ten purported class action lawsuits had been filed
against Syncor and certain of its officers and directors, asserting claims under
the federal securities laws (collectively referred to as the "federal securities
actions"). All of these actions were filed in the United States District Court
for the Central District of California. These cases include Richard Bowe v.
Syncor Int'l Corp., et al., No. CV 02-8560 LGB (RCx) (C.D. Cal.), Alan Kaplan v.
Syncor Int'l Corp., et al., No. CV 02-8575 CBM (MANx) (C.D. Cal), Franklin
Embon, Jr. v. Syncor Int'l Corp., et al., No. CV 02-8687 DDP (AJWx) (C.D. Cal),
Jonathan Alk v. Syncor Int'l Corp., et al., No. CV 02-8841 GHK (RZx) (C.D. Cal),
Joyce Oldham v. Syncor Int'l Corp., et al., CV 02-8972 FMC (RCx) (C.D. Cal),
West Virginia Laborers Pension Trust Fund v. Syncor Int'l Corp., et al., No. CV
02-9076 NM (RNBx) (C.D. Cal), Brad Lookingbill v. Syncor Int'l Corp., et al., CV
02-9248 RSWL (Ex) (C.D. Cal), Them Luu v. Syncor Int'l Corp., et al., CV 02-9583
RGK (JwJx) (C.D. Cal), David Hall v. Syncor Int'l Corp., et al., CV 02-9621 CAS
(CWx) (C.D. Cal), and Phyllis Walzer v. Syncor Int'l Corp., et al., CV 02-9640
RMT (AJWx) (C.D. Cal).
The federal securities actions purport to be brought on behalf of all
purchasers of Syncor shares during various periods, beginning as early as March
30, 2000, and ending as late as November 5, 2002 and allege, among other things,
that the defendants violated Section 10(b) of the Securities Exchange Act of
1934 (the "Exchange Act") and Rule 10b-5 promulgated thereunder and Section
20(a) of the Exchange Act, by issuing a series of press releases and
Page 12
public filings disclosing significant sales growth in Syncor's international
business, but omitting mention of certain allegedly improper payments to
Syncor's foreign customers, thereby artificially inflating the price of Syncor
shares.
On November 14, 2002, two additional actions were filed by individual
stockholders of Syncor in the Court of Chancery of the State of Delaware (the
"Delaware actions") against seven of Syncor's nine directors (the "director
defendants"). The complaints in each of the Delaware actions were identical and
alleged that the director defendants breached certain fiduciary duties to Syncor
by failing to maintain adequate controls, practices and procedures to ensure
that Syncor's employees and representatives did not engage in improper and
unlawful conduct. Both complaints asserted a single derivative claim, for and on
behalf of Syncor, seeking to recover all of the costs and expenses that Syncor
incurred as a result of the allegedly improper payments (including the costs of
the federal securities actions described above), and a single purported class
action claim seeking to recover damages on behalf of all holders of Syncor
shares in the amount of any losses sustained if consideration received in the
merger by Syncor stockholders was reduced. On November 22, 2002, the plaintiff
in one of the two Delaware actions filed an amended complaint adding as
defendants the Company, its subsidiary Mudhen Merger Corp. and the remaining two
Syncor directors, who are hereafter included in the term "director defendants."
These cases include Alan Kaplan v. Monty Fu, et al., Case No. 20026-NC (Del.
Ch.), and Richard Harman v. Monty Fu, et al., Case No. 20027-NC (Del. Ch).
On November 18, 2002, two additional actions were filed by individual
stockholders of Syncor in the Superior Court of California for the County of Los
Angeles (the "California actions") against the director defendants. The
complaints in the California actions allege that the director defendants
breached certain fiduciary duties to Syncor by failing to maintain adequate
controls, practices and procedures to ensure that Syncor's employees and
representatives did not engage in improper and unlawful conduct. Both complaints
asserted a single derivative claim, for and on behalf of Syncor, seeking to
recover costs and expenses that Syncor incurred as a result of the allegedly
improper payments. These cases include Joseph Famularo v. Monty Fu, et al, Case
No. BC285478 (Cal. Sup. Ct., Los Angeles Cty.), and Mark Stroup v. Robert G.
Funari, et al., Case No. BC285480 (Cal. Sup. Ct., Los Angeles Cty.).
Each of the actions described under the heading "Shareholder Litigation
against Syncor" is in its early stages and it is impossible to predict the
outcome of these proceedings or their impact on Syncor or the Company. However,
the Company currently does not believe that the impact of any of these actions
will have a material adverse effect on the Company's financial position,
liquidity and results of operation. The Company and Syncor believe the
allegations made in each of the complaints described above are without merit and
intend to vigorously contest such actions and have been informed that the
individual director and officer defendants deny liability for the claims
asserted in these actions, believe they have meritorious defenses and intend to
vigorously contest such actions. Syncor currently believes that there will be
some insurance coverage available under Syncor's directors' and officers'
liability insurance policies in effect at the time these actions were filed.
The Company also becomes involved from time-to-time in other litigation
incidental to its business, including, without limitation, inclusion of certain
of its subsidiaries as a potentially responsible party for environmental
clean-up costs. Although the ultimate resolution of the litigation referenced
herein cannot be forecast with certainty, the Company intends to vigorously
defend itself and does not currently believe that the outcome of any pending
litigation will have a material adverse effect on the Company's financial
position, liquidity and results of operation.
7. CHANGE IN ACCOUNTING
In the first quarter of fiscal 2002, the method of recognizing revenue for
pharmacy automation equipment was changed from recognizing revenue when the
units were delivered to the customer to recognizing revenue when the units are
installed at the customer site. Management believes that the change in
accounting will provide for a more objectively determinable method of revenue
recognition. In addition, the Company has implemented other changes to better
service its customers and leverage operational efficiencies. The Company
recorded a cumulative effect of change in accounting of $70.1 million (net of
tax of $44.6 million) in the consolidated statement of earnings during the first
quarter of fiscal 2002. The after tax dilutive impact of the cumulative effect
was $0.15 per diluted share.
Page 13
8. GOODWILL AND OTHER INTANGIBLE ASSETS
Changes in the carrying amount of goodwill for the six months ended
December 31, 2002, were as follows:
Pharmaceutical Medical
Distribution Products Pharmaceutical Automation and
And Provider and Technologies and Information
(in millions) Services Services Services Services Total
- ------------- -------------- -------- --------------- -------------- ---------
Balance at June 30, 2002 $ 159.8 $ 675.4 $ 639.4 $ 50.7 $1,525.3
Goodwill acquired, net of purchase
price adjustments and other 5.1 5.4 11.0 -- 21.5
Goodwill write-off -- -- (7.6) -- (7.6)
------- ------- ------- ------ --------
Balance at December 31, 2002 $ 164.9 $ 680.8 $ 642.8 $ 50.7 $1,539.2
======= ======= ======= ====== ========
During the second quarter of fiscal 2003, the Company made the decision to
exit certain North American commodity operations within the Pharmaceutical
Technologies and Services segment. As a result of this decision, the Company
recorded a write-off of goodwill totaling $7.6 million.
All intangible assets for the periods presented are subject to amortization
and are being amortized using the straight-line method over periods that range
from five to forty years. The detail of other intangible assets by class as of
December 31, and June 30, 2002 was as follows:
Gross Accumulated Net
(in millions) Intangible Amortization Intangible
- ------------- ---------- ------------ ----------
June 30, 2002
Trademarks and patents $ 28.7 $ 20.0 $ 8.7
Non-compete agreements 21.3 20.0 1.3
Other 17.7 8.9 8.8
------ ------ ------
Total $ 67.7 $ 48.9 $ 18.8
------ ------ ------
December 31, 2002
Trademarks and patents $ 37.8 $ 20.0 $ 17.8
Non-compete agreements 26.8 21.3 5.5
Other 19.9 9.9 10.0
------ ------ ------
Total $ 84.5 $ 51.2 $ 33.3
------ ------ ------
There were no significant acquisitions of other intangible assets for the
periods presented. Amortization expense for the three months ended December 31,
2002 and 2001 was $0.9 million and $0.3 million, respectively, and for the six
months ended December 31, 2002 and 2001 was $1.7 million and $1.2 million,
respectively.
Amortization expense for each of the next five fiscal years is estimated
to be:
2003 2004 2005 2006 2007
------ ------ ------ ------ ------
Amortization expense $ 3.0 $ 2.4 $ 2.1 $ 1.9 $ 1.8
9. OFF-BALANCE SHEET TRANSACTIONS
The Company formed Cardinal Health Lease Funding 2002A, LLC ("CHLF2002A")
for the sole purpose of acquiring a pool of sales-type leases and the related
leased equipment from Cardinal Health 301, Inc ("CH301"), formerly known as
Pyxis, and selling lease receivables and granting a security interest in the
related lease equipment to Cardinal Health Lease Funding 2002AQ, LLC
("CHLF2002AQ"). CHLF2002A is a wholly owned, special purpose, bankruptcy-remote
subsidiary of CH301. CHLF2002AQ was formed for the sole purposes of acquiring
lease receivables under sales-type leases from CHLF2002A and granting a
beneficial interest in the lease receivables and a security interest in the
related equipment to the leasing subsidiary of a third-party bank. CHLF2002AQ is
a wholly owned, special purpose, bankruptcy-remote subsidiary of CHLF2002A. The
transaction qualifies for sale treatment under SFAS No. 140, "Accounting for
Transfers and Servicing of Financial Assets and Extinguishments of Liabilities,"
and, accordingly, the related receivables are not included in the Company's
consolidated financial statements. As required by U.S. generally accepted
accounting principles, the Company consolidates CHLF2002A and does not
consolidate CHLF2002AQ, as CHLF2002AQ is a qualified special purpose entity, as
defined under SFAS No. 140. Both CHLF2002A and CHLF2002AQ are separate legal
entities that maintain separate financial statements from Cardinal Health, Inc.
and CH301. The assets of CHLF2002A and CHLF2002AQ are available first
Page 14
and foremost to satisfy the claims of their respective creditors. During the six
months ended December 31, 2002, CHLF2002A sold $200.0 million of lease
receivables to CHLF2002AQ and recognized an immaterial gain that was classified
as operating revenue within its results of operations.
10. GUARANTEES
In November 2002, the FASB issued Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" (see Note 1). This interpretation enhances
a guarantor's disclosure requirements in its interim and annual financial
statements regarding obligations under certain guarantees. The Company adopted
the enhanced disclosure requirements in the current quarter. The initial
recognition and measurement provisions of the interpretation are applicable on a
prospective basis to guarantees issued or modified after December 31, 2002.
The Company has contingent commitments related to certain operating lease
agreements. These operating leases consist of certain real estate and equipment
used in the operations of the Company. In the event of termination of these
operating leases, which range in length from one to five years, the Company
guarantees reimbursement for a portion of any unrecovered property cost. At
December 31, 2002, the maximum amount the Company could be required to reimburse
was $369.0 million. The Company believes that the proceeds from the sale of
properties under these operating lease agreements would exceed its payment
obligation.
In the ordinary course of business, the Company, from time to time, agrees
to indemnify certain other parties under agreements with the Company, including
under acquisition agreements, customer agreements, and intellectual property
licensing agreements. Such indemnification obligations vary in scope and, when
defined, in duration. Generally, a maximum obligation is not explicitly stated
and, therefore, the overall maximum amount of the liability under such
indemnification obligations cannot be reasonably estimated. Where appropriate,
such indemnification obligations are recorded as a liability. Historically, the
Company has not, individually or in the aggregate, made payments under these
indemnification obligations in any material amounts. In certain circumstances,
the Company believes that its existing insurance arrangements, subject to the
general deduction and exclusion provisions, would cover portions of the
liability that may arise from these indemnification obligations. In addition,
the Company believes that the likelihood of liability being triggered under
these indemnification obligations is not significant.
In the ordinary course of business, the Company, from time to time, enters
into agreements that obligate the Company to make fixed payments upon the
occurrence of certain events. Such obligations primarily relate to obligations
arising under acquisition transactions, where the Company has agreed to make
payments based upon the achievement of certain financial performance measures by
the acquired company. Generally, the obligation is capped at an explicit amount.
The Company's aggregate exposure for these obligations, assuming the achievement
of all financial performance measures, is not material. Any potential payment
for these obligations would be treated as an adjustment to the purchase price of
the related entity and would have no impact on the Company's earnings.
11. SUBSEQUENT EVENTS
On January 1, 2003, the Company completed the purchase of Syncor, a
Woodland Hills, California-based company which is a leading provider of nuclear
pharmacy services. The stock for stock transaction was valued at approximately
$781 million, plus the assumption of $120 million in debt. Syncor's operations
will be integrated into the Company's existing Nuclear Pharmacy Services
business and reported within the Pharmaceutical Technologies and Services
segment.
On January 28, 2003, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. The
shares repurchased under this program will be treasury shares available to be
used for general corporate purposes.
Page 15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
Management's discussion and analysis is concerned with material changes in
financial condition and results of operations for the Company's condensed
consolidated balance sheets as of December 31, 2002 and June 30, 2002, and for
the condensed consolidated statements of earnings for the three and six-month
periods ended December 31, 2002 and 2001.
This discussion and analysis should be read together with management's
discussion and analysis included in the 2002 Form 10-K.
Portions of management's discussion and analysis presented below include
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. The words "believe", "expect", "anticipate",
"project", and similar expressions, among others, identify "forward-looking
statements", which speak only as of the date the statement was made. Such
forward-looking statements are subject to risks, uncertainties and other
factors, which could cause actual results to materially differ from those made,
projected or implied. The most significant of such risks, uncertainties and
other factors are described in Exhibit 99.01 to this Form 10-Q and on page 8 of
the 2002 Form 10-K and are incorporated herein by reference. The Company
disclaims any obligation to update any forward-looking statement.
GENERAL
The Company operates within four operating business segments:
Pharmaceutical Distribution and Provider Services, Medical Products and
Services, Pharmaceutical Technologies and Services, and Automation and
Information Services. See Note 5 of "Notes to Condensed Consolidated Financial
Statements" for a description of these segments.
RESULTS OF OPERATIONS
Operating Revenue
Percent of Total Percent of Total
Operating Revenues Operating Revenues
------------------ ------------------
Three Months Ended Six Months Ended
December 31, December 31,
------------------ ------------------
Growth(1) 2002 2001 Growth(1) 2002 2001
--------- ------ ------ --------- ------ ------
Pharmaceutical Distribution and
Provider Services 14% 83% 82% 16% 82% 81%
Medical Products and Services 5% 13% 14% 6% 14% 15%
Pharmaceutical Technologies and Services 16% 3% 3% 17% 3% 3%
Automation and Information Services 18% 1% 1% 20% 1% 1%
Total Company 13% 100% 100% 14% 100% 100%
- ------------------
(1) Growth is calculated as the increase/(decrease) in the operating revenue
for the three and six months ended December 31, 2002 as a percentage of the
operating revenue for the three and six months ended December 31, 2001,
respectively.
Total operating revenue for the three and six months ended December 31,
2002 increased 13% and 14% compared to the same periods of the prior year. This
increase is a result of a higher sales volume across various customer segments;
pharmaceutical price increases averaging approximately 5%; addition of new
products; and the addition of new customers, some of which was a result of new
corporate agreements with healthcare providers. In addition, acquisitions,
particularly within the Pharmaceutical Technologies and Services segment,
accounted for a portion of the overall growth.
The Pharmaceutical Distribution and Provider Services segment's operating
revenue growth during the three and six months ended December 31, 2002, resulted
from strong sales to all customer segments. The most significant growth was in
the alternate site and chain pharmacies customer segments, which yielded growth
of approximately 21% and 17%, respectively, for the three months ended December
31, 2002 and 23% and 18%, respectively, for the six months ended December 31,
2002. In addition, pharmaceutical price increases, which averaged approximately
5%, contributed to the growth in this
Page 16
segment. This growth was partially offset by the negative impact of brand to
generic conversions, as well as a reduction in sales to Kmart when compared to
the same periods a year ago.
The Medical Products and Services segment's operating revenue growth during
the three and six months ended December 31, 2002, resulted from an increase in
sales of distributed and self-manufactured products. The addition of several new
contracts with hospitals and health care networks, as well as improved
penetration in the surgery center market increased demand for certain products
within this segment, in particular, self-manufactured products such as surgeon
gloves and proprietary custom surgical procedure kits, which helped contribute
to this segment's growth.
The Pharmaceutical Technologies and Services segment's operating revenue
growth during the three and six months ended December 31, 2002, resulted from
strong demand for proprietary branded and sterile manufacturing, development and
analytical services, and sales and marketing services. Oral branded products
that showed particular strength included Lilly's Zyprexa(R) , an anti-psychotic,
and Abbott's Kaletra(R) , a protease inhibitor. Increased demand for sterile
manufacturing included Warrick's generic albuterol (respiratory), Sepracor's
Xopenex(R) (respiratory), and Pharmacia's Xalatan(R) (glaucoma). These gains
were partially offset by slower sales of Claritin RediTabs(R) and in non-core
businesses such as international health and nutritional products. The
acquisition of Magellan and BLP during the fourth quarter of fiscal 2002
contributed 13% of the overall growth in this segment during the three and six
months ended December 31, 2002, respectively.
The Automation and Information Services segment's operating revenue growth
during the three and six months ended December 31, 2002, resulted from strong
sales in the patient safety and supply management product lines, such as
MEDSTATION SN(R) and SUPPLYSTATION(R).
Bulk Deliveries to Customer Warehouses and Other
The Pharmaceutical Distribution and Provider Services segment reports bulk
deliveries made to customers' warehouses as revenue. These sales involve the
Company acting as an intermediary in the ordering and subsequent delivery of
pharmaceutical products. Fluctuations in bulk deliveries result largely from
circumstances that the Company cannot control, including consolidation within
the customers' industries, decisions by customers to either begin or discontinue
warehousing activities, and changes in policies by manufacturers related to
selling directly to customers. Due to the lack of margin generated through bulk
deliveries, fluctuations in their amount have no significant impact on the
Company's earnings.
The Pharmaceutical Technologies and Services segment records out-of-pocket
reimbursements received through its sales and marketing services' business as
revenue. These out-of-pocket expenses, which generally include travel expenses
and other incidental costs, are incurred to fulfill the services required by the
contract. Within these contracts, the customer agrees to reimburse the Company
for the expenses. Due to the Company not generating any margin from these
reimbursements, fluctuations in their amount have no impact on the Company's
earnings.
Gross Margin
Three Months Ended Six Months Ended
December 31, December 31,
-------------------- ---------------------
(as a percentage of operating revenue) 2002 2001 2002 2001
- -------------------------------------- ------- ------- ------- -------
Pharmaceutical Distribution and Provider Services 4.52% 4.87% 4.71% 5.03%
Medical Products and Services 21.57% 22.11% 21.25% 21.77%
Pharmaceutical Technologies and Services 34.30% 33.97% 34.26% 33.90%
Automation and Information Services 73.51% 67.93% 72.32% 67.49%
Total Company 8.50% 8.92% 8.65% 9.08%
The overall gross margin as a percentage of operating revenue decreased
during the three and six months ended December 31, 2002 compared to the same
periods of the prior year. This decrease resulted primarily from a greater mix
of relatively lower margin pharmaceutical distribution operating revenues in the
first three and six months of fiscal 2003 (83% and 82% of operating revenues in
the first three and six months ended December 30, 2002, respectively, as
compared to 82% and 81%, respectively, of operating revenues for the same
periods last fiscal year), as well as a greater mix of relatively lower margin
distribution products within the Medical Products and Services segment. These
decreases were partially offset by increases within the Pharmaceutical
Technologies and Services and Automation and Information Services segments. The
increase within the Pharmaceutical Technologies and
Page 17
Services segment can be primarily attributed to the mix of business within that
segment. The increase within the Automation and Information Services segment
occurred primarily due to changes within the segment's product mix as well as
productivity improvements.
The Pharmaceutical Distribution and Provider Services segment's gross
margin as a percentage of operating revenue decreased during the three and six
months ended December 31, 2002. This decrease was primarily due to a greater mix
of high volume customers where a lower cost of distribution and better asset
management enabled the Company to offer lower selling margins to its customers.
Operating revenue generated from sales to chain pharmacy and alternate site
customers as a percentage of total operating revenue for this segment trended as
follows:
Three Months Six Months
Customer Class Ended December 31, Ended December 31,
-------------- ------------------ ------------------
2002 2001 2002 2001
---- ---- ---- ----
Chain Pharmacy 49% 48% 48% 47%
Alternate Site 21% 20% 20% 19%
The decrease in selling margins was partially offset by higher vendor margins
from favorable price increases and manufacturer marketing programs, including
inventory management agreements whereby the Company is compensated on a
negotiated basis to help manufacturers better match their shipments with market
demand. There can be no assurance that vendor programs that occurred in the
first six months of fiscal 2003 will recur in the same form or at the same
levels in the future.
The Medical Products and Services segment's gross margin as a percentage of
operating revenue decreased during the three and six months ended December 31,
2002. This decrease resulted primarily from the mix of business created from new
distribution agreements in which lower margin distributed products have been
sold at a faster rate initially as compared to the rate of sale of higher margin
self-manufactured products. The decline was partially offset by the introduction
of new self-manufactured products in the second quarter of fiscal 2003 (e.g. new
synthetic surgeon gloves).
The Pharmaceutical Technologies and Services segment's gross margin as a
percentage of operating revenue increased during the three and six months ended
December 31, 2002. This resulted primarily from a change within the business mix
of products and services sold by the segment, which included an increase in the
higher margin development and analytical services and sales and marketing
services businesses, mainly from the acquisitions of Magellan and BLP. The gross
margin comparison in this segment was negatively impacted by certain items that
occurred in fiscal year 2002 that did not recur in fiscal year 2003, including
the recording of pricing adjustments related to the minimum recovery expected to
be received for claims against vitamin manufacturers for amounts overcharged in
prior years (also, see Note 4 of "Notes to Condensed Consolidated Financial
Statements"). These pricing adjustments were recorded as a reduction of cost of
goods sold, consistent with the classification of the original overcharge, and
were based on the minimum amounts estimated to be recoverable based on the facts
and circumstances available at the time they were recorded. The amount recorded
for these pricing adjustments was $12.0 million in the first quarter of fiscal
2002.
The Automation and Information Services segment's gross margin as a
percentage of operating revenue increased during the three and six months ended
December 31, 2002. This increase resulted from increased sales within the
relatively higher margin MEDSTATION SN(R) and newer version supply control
products as well as productivity gains realized from the operational
improvements implemented early last fiscal year.
Selling, General & Administrative Expenses
Three Months Ended Six Months Ended
December 31, December 31,
--------------------- ---------------------
(as a percentage of operating revenue) 2002 2001 2002 2001
- -------------------------------------- ------ ------ ------ ------
Pharmaceutical Distribution and Provider Services 1.67% 2.09% 1.85% 2.25%
Medical Products and Services 12.81% 13.72% 12.52% 13.38%
Pharmaceutical Technologies and Services 13.66% 12.92% 14.44% 13.73%
Automation and Information Services 31.42% 28.50% 33.63% 33.27%
Total Company 4.14% 4.58% 4.34% 4.82%
Selling, general and administrative expenses as a percentage of operating
revenue decreased during the three and six months ended December 31, 2002 as
compared to the same periods of fiscal 2002. The decrease in the
Page 18
Pharmaceutical Distribution and Provider Services segment was primarily due to
the synergies achieved following the Bindley merger. From an operational
perspective, the distribution center integration is considered complete with the
closure of two distribution centers during the second quarter of fiscal 2003.
This segment is operating six fewer distribution centers than it had for the
same period last fiscal year which resulted in an eight percent reduction in
workforce versus the same period of the prior fiscal year. In addition, a
portion of the decline in this segment is attributed to increased efficiency due
to distribution automation and customer mix. The decline in the Medical Products
and Services segment is primarily a result of efficiencies achieved from the
restructuring activities within the segment, which were initiated in the fourth
quarter of fiscal 2002. Ten manufacturing facilities have been consolidated and
eight hundred positions have been eliminated since the same time period in the
last fiscal year. Partially offsetting the improvements in fiscal 2003 was an
increase in selling, general and administrative expenses as a percentage of
operating revenue for the Pharmaceutical Technologies and Services segment. This
increase was primarily a result of a change within the business mix of this
segment, largely driven by the acquisition of Magellan and BLP during the fourth
quarter of fiscal 2002. The increase in selling, general and administrative
expenses as a percentage of operating revenue in the Automation and Information
Services segment was driven largely by product mix, increased research and
development spending, and the cost of increasing installation resources to meet
future installation requirements for the Company's products.
Special Items
The following is a summary of the special items for the three and six
months ended December 31, 2002 and 2001.
Special Items
Three Months Ended Six Months Ended
December 31, December 31,
----------------------- ----------------------
(in millions) 2002 2001 2002 2001
- ------------- -------- -------- -------- --------
Merger-Related Costs:
Employee-related costs $ (11.8) $ (4.6) $ (15.0) $ (8.7)
Pharmaceutical distribution center consolidation (4.7) (0.5) (9.8) (0.8)
Other exit costs (1.5) (1.9) (2.0) (4.2)
Other integration costs (4.0) (9.8) (6.6) (15.4)
------- ------- ------- -------
Total merger-related costs $ (22.0) $ (16.8) $ (33.4) $ (29.1)
------- ------- ------- -------
Other Special Items:
Employee-related costs $ (1.4) $ -- $ (1.4) $ --
Manufacturing facility closures (11.0) -- (21.2) --
Litigation settlements 89.9 -- 92.8 --
Asset impairment and other (17.9) -- (17.9) --
------- ------- ------- -------
Total other special items $ 59.6 $ -- $ 52.3 $ --
------- ------- ------- -------
Total special items $ 37.6 $ (16.8) $ 18.9 $ (29.1)
Tax effect of special items (15.5) 6.5 (12.4) 11.2
------- ------- ------- -------
Net effect of special items $ 22.1 $ (10.3) $ 6.5 $ (17.9)
======= ======= ======= =======
MERGER-RELATED COSTS
Costs of integrating the operations of various merged companies are
recorded as merger-related costs when incurred. The merger-related costs
recognized as of December 31, 2002, were primarily a result of the merger or
acquisition transactions involving BLP, Magellan, Bindley, BBMC, Allegiance and
Scherer.
EMPLOYEE-RELATED COSTS. During the above-stated periods, the Company
incurred employee-related costs associated with certain of its mergers and
acquisitions. For the three months ended December 31, 2002, $8.8 million related
to an approved plan to curtail certain defined benefit pension plans within the
Pharmaceutical Technologies and Services segment. The remaining employee-related
costs for the three and six months ended December 31, 2002, as well as the costs
for the three and six months ended December 31, 2001, primarily related to
amortization expense of noncompete agreements primarily associated with the
Bindley and Allegiance merger transactions.
PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. In connection with the
merger transaction with Bindley, the Company anticipated closing and
consolidating a total of 16 Bindley distribution centers, Bindley's corporate
office, and one of the Company's data centers. These closures were to result in
the termination of approximately 1,250
Page 19
employees. As of December 31, 2002, all 16 Bindley distribution centers and the
Company's data center have been closed, and the majority of the 1,250 employees
have been terminated. The Company anticipates completing the corporate office
consolidation by June 30, 2003.
During the three and six months ended December 31, 2002, the Company
recorded charges totaling $4.7 million and $9.8 million, respectively,
associated with the consolidations and closures noted above, as compared to $0.5
million and $0.8 million, respectively, for the comparable periods in fiscal
2002. The Company incurred employee-related costs of $2.3 million and $3.2
million during the three and six months ended December 31, 2002, respectively,
primarily from the termination of employees due to the distribution center
closures, as compared to $1.4 million for the three and six months ended
December 31, 2001. The remaining merger-related items recorded during these
periods primarily relate to exit costs to consolidate and close the various
facilities mentioned above, including asset impairment charges, inventory move
costs, contract and lease termination costs, and duplicate salary costs incurred
during the shutdown periods. During the three months ended December 31, 2001,
the Company recorded a gain of $2.5 million related to the sale of a Bindley
distribution center, partially offsetting the expenses incurred during this
period.
OTHER EXIT COSTS. Other exit costs related primarily to costs associated
with lease terminations, moving expenses, and asset impairments as a direct
result of the merger transactions with BBMC, Allegiance and Scherer.
OTHER INTEGRATION COSTS. Other integration costs, which primarily relate to
the merger and acquisition transactions noted above, included charges directly
related to the integration of operations of the transactions noted, such as
consulting costs related to information systems and employee benefit
integration, as well as relocation and travel costs directly associated with the
integrations.
OTHER SPECIAL ITEMS
EMPLOYEE-RELATED COSTS. During the three months ended December 31, 2002,
the Company incurred $1.4 million of employee-related costs associated with the
restructuring of certain operations within the Pharmaceutical Distribution and
Provider Services segment. A significant portion of the charges recorded
represent severance accrued upon communication of severance terms to employees
during the second quarter of fiscal 2003. The restructuring of operations is
expected to be complete by June 30, 2003, and will result in the termination of
approximately 30 employees.
MANUFACTURING FACILITY CLOSURES. During the three and six months ended
December 31, 2002, the Company recorded a total of $11.0 million and $21.2
million, respectively, as special charges related to the closure and
consolidation of certain manufacturing facilities. These closures and
consolidations occurred within the Medical Products and Services segment and the
Pharmaceutical Technologies and Services segment.
Within the Medical Products and Services segment, three manufacturing
facility closures were announced during the six months ended December 31, 2002
(one during the first quarter of fiscal 2003 and two during the second quarter
of fiscal 2003). Two of the manufacturing facility closures were complete as of
December 31, 2002. The other closure is expected to be complete by March 31,
2003. Asset impairment charges of $1.4 million and $8.9 million were incurred
during the three and six months ended December 31, 2002, respectively. Also,
exit costs of $1.3 million and $2.7 million, respectively, were incurred during
those same periods, primarily related to dismantling and moving machinery and
equipment. The remaining $3.3 million and $4.6 million, respectively, related to
severance costs due to the termination of employees as a result of these
closures. The Company expects to terminate a total of approximately 530
employees due to these closures. As of December 31, 2002, the majority of these
employees were terminated.
The Company incurred special charges during the three months ended December
31, 2002, related to two manufacturing facility closures within the
Pharmaceutical Technologies and Services segment. One closure was complete as of
December 31, 2002. The other is expected to be complete by June 30, 2003. Asset
impairment charges of $1.1 million were incurred during the three months ended
December 31, 2002. Also, exit costs of $1.6 million were incurred during this
same period, primarily related to dismantling machinery and equipment and
transferring certain technologies to other existing facilities within the
Company. In addition, $1.6 million of severance costs were incurred as a result
of these closures. The Company expects to terminate a total of approximately 75
employees due to these closures. As of December 31, 2002, the majority of these
employees were terminated.
LITIGATION SETTLEMENTS. During the three and six months ended December 31,
2002, the Company recorded income from litigation settlements of $89.9 million
and $92.8 million, respectively. The settlements resulted from
Page 20
the recovery of antitrust claims against certain vitamin manufacturers for
amounts overcharged in prior years. The total recovery through December 31, 2002
was $128.1 million. The amount recorded in the current quarter of $89.9 million
represents an estimate of the majority of the recovery expected to be received
from the defendants in the case. While the Company still has pending claims with
smaller vitamin manufacturers, the total amount of future recovery is not
currently estimable but the Company believes it will not likely represent a
material amount. Any future recoveries will be recorded as a special item in the
period in which a settlement is reached.
ASSET IMPAIRMENT AND OTHER. During the three months ended December 31,
2002, the Company incurred asset impairment and other charges of $17.9 million,
of which $10.1 million related to asset impairment charges resulting from the
Company's decision to exit certain North American commodity operations in its
Pharmaceutical Technologies and Services segment. The remaining $7.8 million
relates to a one-time writeoff of design, tooling and development costs.
SUMMARY
The net effect of special items recorded during the three months ended
December 31, 2002, was to increase net earnings by $22.1 million to $367.5
million and to increase reported diluted earnings per Common Share by $0.05 per
share to $0.82 per share. In comparison, the net effect of special items
recorded during the three months ended December 31, 2001, was to reduce net
earnings by $10.3 million to $283.3 million and to reduce reported diluted
earnings per Common Share by $0.02 per share to $0.62 per share.
The net effect of special items recorded during the six months ended
December 31, 2002, was to increase earnings before cumulative effect of change
in accounting by $6.5 million to $655.8 million and to increase reported diluted
earnings per Common Share before cumulative effect of change in accounting by
$0.01 per share to $1.45 per share. In comparison, the net effect of special
items recorded during the six months ended December 31, 2001, was to reduce
earnings before cumulative effect of change in accounting by $17.9 million to
$529.7 million and to reduce reported diluted earnings per Common Share before
cumulative effect of change in accounting by $0.04 per share to $1.15 per share.
The Company estimates that in future periods it will incur additional
merger-related costs, restructuring costs and integration expenses associated
with the various mergers and acquisitions it has completed as of December 31,
2002 (primarily related to the Bindley merger and the acquisitions of Magellan
and BLP) of approximately $80 million ($50 million, net of tax). These costs are
expected to be incurred primarily in fiscal 2003 and 2004 and relate to the exit
of contractual arrangements, employee-related costs, and costs to properly
integrate operations and implement efficiencies. Such amounts will be charged to
expense when incurred.
PROVISION FOR INCOME TAXES
The Company's provision for income taxes relative to pre-tax earnings was
34.3% for the second quarters of fiscal 2003 and 2002, respectively and 34.2%
and 34.0%, respectively, for the six months ended December 31, 2002 and 2001.
Fluctuations in the effective tax rate are primarily due to the impact of
recording certain non-deductible special items during various periods as well
as fluctuating state and foreign effective tax rates as a result of the
Company's business mix. The provision for income taxes excluding the impact of
special items was 33.8% and 34.4% for the quarters ended December 31, 2002 and
2001, respectively and 33.6% and 34.1%, respectively, for the six-month periods
ended December 31, 2002 and 2001.
LIQUIDITY AND CAPITAL RESOURCES
Working capital increased to $5.3 billion at December 31, 2002 from $5.1
billion at June 30, 2002. This increase in working capital resulted primarily
from increases in inventories and accounts receivable of $952.3 million and
$316.4 million, respectively, partially offset by the decrease of cash and
equivalents of $383.1 million and an increase in accounts payable of $590.0
million. The increase in inventories is attributed to the general build-up for
seasonality within the pharmaceutical distribution business. The increase also
reflects the higher level of business volume in the Pharmaceutical Distribution
and Provider Services segment. The increase in accounts receivable is primarily
due to the Company's revenue growth. The decrease in cash and equivalents is
primarily attributed to the repurchase of Common Shares, resulting in a total
cash outlay of $642.7 million, partially offset by the sale of $200.0 million in
sales-type leases within the Automation and Information Services segment. The
change in accounts payable is due primarily to the timing of inventory purchases
and related payments.
The increase in inventories noted above is less than in prior years due to
the impact of branded to generic product conversions and an increase in
inventory management agreements, both of which lower the Company's inventory
investment, as well as synergies realized from the Bindley integration. The
Company has also experienced liquidity improvements in its investment in trade
receivables over the comparable period in prior years.
Page 21
Net investment in sales type leases decreased $136.3 million at December
31, 2002, as compared to June 30, 2002. This decrease was primarily the result
of the sale by Cardinal Health Lease Funding 2002A, LLC ("CHLF2002A") of a pool
of sales-type leases to Cardinal Health Lease Funding 2002AQ, LLC at amounts
approximating their fair value. CHLF2002A obtained proceeds of approximately
$200.0 million related to the transaction (see Note 9 in the "Notes to Condensed
Consolidated Financial Statements" for further discussion).
Shareholders' equity increased by $139.2 million at December 31, 2002, as
compared to June 30, 2002. Shareholders' equity increased primarily due to net
earnings of $655.8 million and the investment of $77.0 million by employees of
the Company through various employee stock benefit plans. This increase was
partially offset by the repurchase of Common Shares of $642.7 million and
dividends of $22.3 million.
On August 7, 2002, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. As of
December 31, 2002, 6.9 million Common Shares having an aggregate cost of
approximately $451.0 million had been repurchased through this plan. This
program was completed in January 2003. The repurchased shares will be treasury
shares available to be used for general corporate purposes.
In September 2001, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. This
program was completed in August 2002. The Company repurchased approximately 3.2
million Common Shares having an aggregate cost of approximately $191.7 million
during the quarter ended September 30, 2002. The cumulative amount repurchased
under this program was approximately 8.3 million Common Shares, having an
aggregate cost of approximately $500 million. The repurchased shares will be
treasury shares available to be used for general corporate purposes.
On January 28, 2003, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500 million. The
shares repurchased under this program will be treasury shares available to be
used for general corporate purposes.
The Company believes that it has adequate capital resources at its disposal
to fund currently anticipated capital expenditures, business growth and
expansion, and current and projected debt service requirements, including those
related to business combinations.
OTHER
For information relating to the Company's acquisition of Syncor, see Note
11 in the "Notes to Condensed Consolidated Financial Statements".
Page 22
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company believes there has been no material change in the quantitative
and qualitative market risks from those discussed in the 2002 Form 10-K.
ITEM 4: CONTROLS AND PROCEDURES
Within 90 days prior to this filing, an evaluation was performed under the
supervision and with the participation of the Company's management, including
the CEO and CFO, of the effectiveness of the design and operation of the
Company's disclosure controls and procedures. Based on that evaluation, the
Company's management, including the CEO and CFO, concluded that the Company's
disclosure controls and procedures were effective. To date, there have been no
significant changes in the Company's internal controls or in other factors that
could significantly affect internal controls. Management will continue to review
the Company's disclosure controls and procedures on an ongoing basis, looking
for opportunities to strengthen them where appropriate.
PART II. OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
The discussion below includes an update of material developments that have
occurred in various judicial proceedings, which are more fully described in Part
I, Item 3, of the 2002 Form 10-K, and are incorporated herein by reference.
The following disclosure should be read together with the disclosure set
forth in the 2002 Form 10-K, the Form 10-Q for the fiscal quarter ended
September 30, 2002, and to the extent any such statements constitute "forward
looking statements", reference is made to Exhibit 99.01 of this Form 10-Q and
page 8 of the 2002 Form 10-K.
Latex Litigation
On September 30, 1996, Baxter International Inc. ("Baxter") and its
subsidiaries transferred to Allegiance and its subsidiaries Baxter's U.S.
healthcare distribution business, surgical and respiratory therapy business and
healthcare cost-saving business as well as certain foreign operations (the
"Allegiance Business") in connection with a spin-off of the Allegiance Business
by Baxter (the "Baxter-Allegiance Spin-Off"). In connection with this spin-off,
Allegiance, which merged with a subsidiary of the Company on February 3, 1999,
agreed to indemnify Baxter, and to defend and indemnify Baxter Healthcare
Corporation ("BHC"), as contemplated by the agreements between Baxter and
Allegiance, for all expenses and potential liabilities associated with claims
arising from the Allegiance Business, including certain claims of alleged
personal injuries as a result of exposure to natural rubber latex gloves. The
Company is not a party to any of the lawsuits and has not agreed to pay any
settlements to the plaintiffs.
As of December 31, 2002, there were 314 lawsuits against BHC and/or
Allegiance involving allegations of sensitization to natural rubber latex
products and some of these cases were proceeding to trial. The total dollar
amount of potential damages cannot be reasonably quantified. Some plaintiffs
plead damages in extreme excess of what they reasonably can expect to recover,
some plead a modest amount, and some do not include a request for any specific
dollar amount. Not including cases that ask for no specific damages, the damage
requests per action have ranged from $10,000 to $240 million. All of these cases
name multiple defendants, in addition to Baxter/Allegiance. The average number
of defendants per case exceeds twenty-five. Based on the significant differences
in the range of damages sought and based on the multiple number of defendants in
these lawsuits, Allegiance cannot reasonably quantify the total amount of
possible/probable damages. Therefore, Allegiance and the Company do not believe
that these numbers should be considered as an indication of either reasonably
possible or probable liability.
Since the inception of this litigation, Baxter/Allegiance have been named
as a defendant in approximately 800 cases. As of December 31, 2002, fewer than
half of those lawsuits remain pending. Nearly half of the lawsuits that have
been resolved were concluded without any liability to Baxter/Allegiance. During
the fiscal year ended June 30, 2002, Allegiance began settling some of these
lawsuits with greater frequency. No individual claim has been settled for a
material amount, nor have all the settled claims, in the aggregate, comprised a
material amount. Due to the number of claims filed and the ongoing defense costs
that will be incurred, Allegiance believes it is probable that it will incur
substantial legal fees related to the resolution of the cases still pending.
Although the Company continues to believe that it cannot reasonably estimate the
potential cost to settle these lawsuits, the Company believes that the impact of
such lawsuits upon Allegiance will be immaterial to the Company's financial
position, liquidity and results
Page 23
of operations, and could be in the range of $0 to $20 million, net of insurance
proceeds (with the top end of the range reflecting virtually no insurance
coverage, which the Company believes is an unlikely scenario given the insurance
coverage in place). The Company believes a substantial portion of any liability
will be covered by insurance policies Allegiance has with financially viable
insurance companies, subject to self-insurance retentions, exclusions,
conditions, coverage gaps, policy limits and insurer solvency. The Company and
Allegiance continue to believe that insurance recovery is probable.
Vitamins Litigation
On May 17, 2000, Scherer, which was acquired by the Company in August 1998,
filed a civil antitrust lawsuit in the United States District Court for the
District of Illinois against certain of its raw material suppliers and other
alleged co-conspirators alleging that the defendants unlawfully conspired to fix
vitamin prices and allocate vitamin production volume and vitamin customers in
violation of U.S. antitrust laws. The complaint seeks monetary damages and
injunctive relief. After the lawsuit was filed, it was consolidated for
pre-trial purposes with other similar cases. The case is scheduled for trial in
the United States District Court for the District of Columbia (where it was
transferred) in March 2003. As of December 31, 2002, Scherer has entered into
settlement agreements with the majority of the defendants in consideration of
payments of approximately $128.1 million, net of attorney fees and expenses
withheld prior to the disbursement of the funds to Scherer. While the Company
still has pending claims with smaller vitamin manufacturers and cannot predict
the outcome of the claims against those defendants, the total amount of any
future recovery will not likely represent a material amount.
Shareholder Litigation against Cardinal Health
On November 8, 2002, a complaint was filed by a purported shareholder
against the Company and its directors in the Court of Common Pleas, Delaware
County, Ohio, as a purported derivative action alleging breach of fiduciary
duties and corporate waste in connection with the alleged failure by the Board
of Directors of the Company to renegotiate or terminate the Company's proposed
acquisition of Syncor. Doris Staehr v. Robert D. Walter, et al., No.
02-CVG-11-639. Among other matters, the complaint requested that the transaction
with Syncor be enjoined and that damages be awarded against defendants in an
unspecified amount. The Company believes the allegations made in the complaint
are without merit and intends to vigorously defend this action. The Company
currently does not believe that the impact of this lawsuit, if any, will have a
material adverse effect on the Company's financial position, liquidity and
results of operation. The Company currently believes that there will be some
insurance coverage available under the Company's directors' and officers'
liability insurance policies in effect at the time this action was filed.
Shareholder Litigation against Syncor
As of January 1, 2003, ten purported class action lawsuits had been filed
against Syncor and certain of its officers and directors, asserting claims under
the federal securities laws (collectively referred to as the "federal securities
actions"). All of these actions were filed in the United States District Court
for the Central District of California. These cases include Richard Bowe v.
Syncor Int'l Corp., et al., No. CV 02-8560 LGB (RCx) (C.D. Cal.), Alan Kaplan v.
Syncor Int'l Corp., et al., No. CV 02-8575 CBM (MANx) (C.D. Cal), Franklin
Embon, Jr. v. Syncor Int'l Corp., et al., No. CV 02-8687 DDP (AJWx) (C.D. Cal),
Jonathan Alk v. Syncor Int'l Corp., et al., No. CV 02-8841 GHK (RZx) (C.D. Cal),
Joyce Oldham v. Syncor Int'l Corp., et al., CV 02-8972 FMC (RCx) (C.D. Cal),
West Virginia Laborers Pension Trust Fund v. Syncor Int'l Corp., et al., No. CV
02-9076 NM (RNBx) (C.D. Cal), Brad Lookingbill v. Syncor Int'l Corp., et al., CV
02-9248 RSWL (Ex) (C.D. Cal), Them Luu v. Syncor Int'l Corp., et al., CV 02-9583
RGK (JwJx) (C.D. Cal), David Hall v. Syncor Int'l Corp., et al., CV 02-9621 CAS
(CWx) (C.D. Cal), and Phyllis Walzer v. Syncor Int'l Corp., et al., CV 02-9640
RMT (AJWx) (C.D. Cal).
The federal securities actions purport to be brought on behalf of all
purchasers of Syncor shares during various periods, beginning as early as March
30, 2000, and ending as late as November 5, 2002 and allege, among other things,
that the defendants violated Section 10(b) of the Securities Exchange Act of
1934 (the "Exchange Act") and Rule 10b-5 promulgated thereunder and Section
20(a) of the Exchange Act, by issuing a series of press releases and public
filings disclosing significant sales growth in Syncor's international business,
but omitting mention of certain allegedly improper payments to Syncor's foreign
customers, thereby artificially inflating the price of Syncor shares.
On November 14, 2002, two additional actions were filed by individual
stockholders of Syncor in the Court of Chancery of the State of Delaware (the
"Delaware actions") against seven of Syncor's nine directors (the "director
defendants"). The complaints in each of the Delaware actions were identical and
alleged that the director defendants breached certain fiduciary duties to Syncor
by failing to maintain adequate controls, practices and procedures to ensure
that Syncor's employees and representatives did not engage in improper and
unlawful conduct. Both complaints asserted a single derivative claim, for and on
behalf of Syncor, seeking to recover all of the costs and
Page 24
expenses that Syncor incurred as a result of the allegedly improper payments
(including the costs of the federal securities actions described above), and a
single purported class action claim seeking to recover damages on behalf of all
holders of Syncor shares in the amount of any losses sustained if consideration
received in the merger by Syncor stockholders was reduced. On November 22, 2002,
the plaintiff in one of the two Delaware actions filed an amended complaint
adding as defendants the Company, its subsidiary Mudhen Merger Corp. and the
remaining two Syncor directors, who are hereafter included in the term "director
defendants." These cases include Alan Kaplan v. Monty Fu, et al., Case No.
20026-NC (Del. Ch.), and Richard Harman v. Monty Fu, et al., Case No. 20027-NC
(Del. Ch).
On November 18, 2002, two additional actions were filed by individual
stockholders of Syncor in the Superior Court of California for the County of Los
Angeles (the "California actions") against the director defendants. The
complaints in the California actions allege that the director defendants
breached certain fiduciary duties to Syncor by failing to maintain adequate
controls, practices and procedures to ensure that Syncor's employees and
representatives did not engage in improper and unlawful conduct. Both complaints
asserted a single derivative claim, for and on behalf of Syncor, seeking to
recover costs and expenses that Syncor incurred as a result of the allegedly
improper payments. These cases include Joseph Famularo v. Monty Fu, et al, Case
No. BC285478 (Cal. Sup. Ct., Los Angeles Cty.), and Mark Stroup v. Robert G.
Funari, et al., Case No. BC285480 (Cal. Sup. Ct., Los Angeles Cty.).
Each of the actions described under the heading "Shareholder Litigation
against Syncor" is in its early stages and it is impossible to predict the
outcome of these proceedings or their impact on Syncor or the Company. However,
the Company currently does not believe that the impact of any of these actions
will have a material adverse effect on the Company's financial position,
liquidity and results of operation. The Company and Syncor believe the
allegations made in each of the complaints described above are without merit and
intend to vigorously contest such actions and have been informed that the
individual director and officer defendants deny liability for the claims
asserted in these actions, believe they have meritorious defenses and intend to
vigorously contest such actions. Syncor currently believes that there will be
some insurance coverage available under Syncor's directors' and officers'
liability insurance policies in effect at the time these actions were filed.
The Company also becomes involved from time-to-time in other litigation
incidental to its business, including, without limitation, inclusion of certain
of its subsidiaries as a potentially responsible party for environmental
clean-up costs. Although the ultimate resolution of the litigation referenced
herein cannot be forecast with certainty, the Company intends to vigorously
defend itself and does not currently believe that the outcome of any pending
litigation will have a material adverse effect on the Company's financial
position, liquidity and results of operation.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
(a) Registrant's 2002 Annual Meeting of Shareholders was held on November 6,
2002.
(b) Proxies were solicited by Registrant's management pursuant to Regulation
14A under the Securities Exchange Act of 1934; there was no solicitation in
opposition to management's nominees as listed in the proxy statement; and
all director nominees were elected to the class indicated in the proxy
statement pursuant to the vote of the Registrant's shareholders.
(c) Matters voted upon at the Annual Meeting were as follows:
Election of J. Michael Losh, John B. McCoy, Michael D. O'Halleran, Jean G.
Spaulding, and Matthew D. Walter. The results of the shareholder vote were
as follows: Mr. Losh - 395,031,260 for, 0 against, 4,021,825 withheld, and
0 broker non-votes; Mr. McCoy - 394,806,991 for, 0 against, 4,246,094
withheld, and 0 broker non-votes; Mr. O'Halleran - 390,916,236 for, 0
against, 8,136,849 withheld, and 0 broker non-votes; Ms. Spaulding -
395,045,816 for, 0 against, 4,007,269 withheld, and 0 broker non-votes; and
Mr. M. Walter - 369,725,637 for, 0 against, 29,327,448 withheld, and 0
broker non-votes.
Page 25
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K:
(a) Listing of Exhibits:
Exhibit
Number Exhibit Description
- ------- -------------------
10.01 Second Amendment to Pharmaceutical Services Agreement ("Second
Amendment") between Kmart Corporation ("Kmart") and Cardinal
Distribution effective as of November 1, 2002 (1)
10.02 Employment Agreement, dated January 8, 2003, between the Registrant
and Gordon A. Troup*
10.03 Employment Agreement, dated February 5, 2003, between the Registrant
and Stephen S. Thomas*
99.01 Statement Regarding Forward-Looking Information (2)
- ----------------
(1) Confidential treatment has been requested for portions of this document,
and the confidential information has been filed separately with the
Commission.
(2) Included as an exhibit to the Registrant's Annual Report on Form 10-K filed
September 30, 2002 (File No. 1-11373) and incorporated herein by reference.
* Management contract or compensation plan or arrangement
(b) Reports on Form 8-K:
On October 22, 2002, the Company filed a Current Report on Form 8-K under
Item 5 which filed as an exhibit the press release announcing the Company's
results for the quarter ended September 30, 2002.
On November 6, 2002, the Company filed a Current Report on Form 8-K under
Item 5, which filed as exhibits the press release announcing that the Company's
Board of Directors declared a regular quarterly dividend of $0.025 per Common
Share, without par value, payable on January 15, 2003 to shareholders of record
on January 1, 2003, and the press release of the Company relating to the
proposed acquisition of Syncor.
On December 13, 2002, the Company filed a Current Report on Form 8-K under
Item 5, which filed as exhibits the press release announcing that the Company
had expanded its relationship with Express Scripts, Inc.
Page 26
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CARDINAL HEALTH, INC.
Dated: February 14, 2003 /s/ Robert D. Walter
---------------------------------------
Robert D. Walter
Chairman and Chief Executive Officer
/s/ Richard J. Miller
---------------------------------------
Richard J. Miller
Executive Vice President and
Chief Financial Officer
Page 27
CERTIFICATIONS
I, Robert D. Walter, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Cardinal Health,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Dated: February 14, 2003 /s/ Robert D. Walter
------------------------------------
Robert D. Walter
Chairman and Chief Executive Officer
Page 28
I, Richard J. Miller, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Cardinal Health,
Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this quarterly
report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation, including
any corrective actions with regard to significant deficiencies and material
weaknesses.
Dated: February 14, 2003 /s/ Richard J. Miller
-----------------------------------
Richard J. Miller
Executive Vice President, and
Chief Financial Officer
Page 29