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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 September 30, 2003 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 X No
----- -----
The number of Registrant's Common Shares outstanding at the close of
business on October 31, 2003 was as follows:
Common Shares, without par value: 432,941,735
--------------
CARDINAL HEALTH, INC. AND SUBSIDIARIES
Index *
Page No.
Part I. Financial Information:
---------------------
Item 1. Financial Statements:
Condensed Consolidated Statements of Earnings for the Three Months
Ended September 30, 2003 and 2002 (unaudited)...................................... 3
Condensed Consolidated Balance Sheets at September 30, 2003 and
June 30, 2003 (unaudited).......................................................... 4
Condensed Consolidated Statements of Cash Flows for the Three Months Ended
September 30, 2003 and 2002 (unaudited)............................................ 5
Notes to Condensed Consolidated Financial Statements............................... 6
Item 2. Management's Discussion and Analysis of Results of Operations
and Financial Condition............................................................ 17
Item 3. Quantitative and Qualitative Disclosures about Market Risk......................... 24
Item 4. Controls and Procedures............................................................ 24
Part II. Other Information:
-----------------
Item 1. Legal Proceedings.................................................................. 24
Item 6. Exhibits and Reports on Form 8-K................................................... 28
* 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 COMMON SHARE AMOUNTS)
THREE MONTHS ENDED
SEPTEMBER 30,
2003 2002
----------- -----------
Operating revenue $ 13,288.3 $ 11,416.6
Operating cost of products sold 12,205.1 10,409.7
----------- -----------
Operating gross margin 1,083.2 1,006.9
Bulk deliveries to customer warehouses and other 2,100.4 1,669.5
Cost of products sold - bulk deliveries and other 2,100.4 1,669.5
----------- -----------
Bulk gross margin -- --
Selling, general and administrative expenses 547.6 520.7
Special items - merger charges 8.6 11.4
- other 4.6 7.3
----------- -----------
Operating earnings 522.4 467.5
Interest expense and other 28.0 30.6
----------- -----------
Earnings before income taxes and discontinued operations 494.4 436.9
Provision for income taxes 164.0 148.6
----------- -----------
Earnings from continuing operations 330.4 288.3
Loss from discontinued operations (net of tax of $1.1) (1.8) --
----------- -----------
Net earnings $ 328.6 $ 288.3
=========== ===========
Basic earnings per Common Share:
Continuing operations $ 0.75 $ 0.65
Discontinued operations -- --
----------- -----------
Net basic earnings per Common Share $ 0.75 $ 0.65
=========== ===========
Diluted earnings per Common Share:
Continuing operations $ 0.74 $ 0.64
Discontinued operations -- --
----------- -----------
Net diluted earnings per Common Share $ 0.74 $ 0.64
=========== ===========
Weighted average number of Common Shares outstanding:
Basic 440.5 446.2
Diluted 446.7 454.2
Cash dividends declared per Common Share $ 0.030 $ 0.025
See notes to condensed consolidated financial statements.
Page 3
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN MILLIONS)
SEPTEMBER 30, JUNE 30,
2003 2003
------------- ---------
ASSETS
Current assets:
Cash and equivalents $ 992.0 $ 1,724.0
Trade receivables, net 2,996.1 2,784.4
Current portion of net investment in sales-type leases 196.0 171.8
Inventories 8,253.7 7,623.3
Prepaid expenses and other 732.2 776.0
Assets held for sale from discontinued operations 163.0 170.1
--------- ---------
Total current assets 13,333.0 13,249.6
--------- ---------
Property and equipment, at cost 3,781.0 3,755.3
Accumulated depreciation and amortization (1,701.1) (1,665.8)
--------- ---------
Property and equipment, net 2,079.9 2,089.5
Other assets:
Net investment in sales-type leases, less current portion 594.0 557.3
Goodwill and other intangibles, net 2,340.5 2,332.3
Other 301.9 292.7
--------- ---------
Total $18,649.3 $18,521.4
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable, banks $ 0.8 $ --
Current portion of long-term obligations 216.3 228.7
Accounts payable 6,156.6 5,288.4
Other accrued liabilities 1,620.4 1,733.0
Liabilities from discontinued operations 62.2 64.3
--------- ---------
Total current liabilities 8,056.3 7,314.4
--------- ---------
Long-term obligations, less current portion 2,506.9 2,471.9
Deferred income taxes and other liabilities 963.5 977.0
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 -
468.0 million shares and 467.2 million shares
at September 30, 2003 and June 30, 2003, respectively 2,435.4 2,403.7
Retained earnings 6,832.6 6,517.3
Common Shares in treasury, at cost, 35.5 million shares
and 18.8 million shares at September 30, 2003 and
June 30, 2003, respectively (2,113.3) (1,135.8)
Other comprehensive loss (24.9) (19.2)
Other (7.2) (7.9)
--------- ---------
Total shareholders' equity 7,122.6 7,758.1
--------- ---------
Total $18,649.3 $18,521.4
========= =========
See notes to condensed consolidated financial statements.
Page 4
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN MILLIONS)
THREE MONTHS ENDED
SEPTEMBER 30,
2003 2002
-------- --------
CASH FLOWS FROM OPERATING ACTIVITIES:
Earnings from continuing operations $ 330.4 $ 288.3
Adjustments to reconcile earnings from continuing operations
to net cash from operations:
Depreciation and amortization 68.7 62.2
Provision for bad debts (4.8) 5.6
Change in operating assets and liabilities, net of effects from acquisitions:
Increase in trade receivables (205.7) (264.9)
(Increase)/decrease in inventories (630.3) 110.8
(Increase)/decrease in net investment in sales-type leases (60.9) 1.5
Increase/(decrease) in accounts payable 866.9 (204.7)
Other accrued liabilities and operating items, net (70.2) (12.9)
-------- --------
Net cash provided by/(used in) operating activities 294.1 (14.1)
-------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of subsidiaries, net of cash acquired (15.0) (5.4)
Proceeds from sale of property, equipment and other assets 2.5 16.3
Additions to property and equipment (77.8) (70.5)
-------- --------
Net cash used in investing activities (90.3) (59.6)
-------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in commercial paper and short-term debt (0.1) (0.7)
Reduction of long-term obligations (10.6) (3.0)
Proceeds from long-term obligations, net of issuance costs 43.0 2.2
Proceeds from issuance of Common Shares 45.3 42.7
Purchase of treasury shares (1,000.0) (392.7)
Dividends on Common Shares (13.4) (11.2)
-------- --------
Net cash used in financing activities (935.8) (362.7)
-------- --------
NET DECREASE IN CASH AND EQUIVALENTS (732.0) (436.4)
CASH AND EQUIVALENTS AT BEGINNING OF PERIOD 1,724.0 1,382.0
-------- --------
CASH AND EQUIVALENTS AT END OF PERIOD $ 992.0 $ 945.6
======== ========
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 inter-company 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 herein, 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, 2003 (the "2003 Form 10-K"). Without limiting the
generality of the foregoing, Note 1 of the "Notes to Consolidated Financial
Statements" from the 2003 Form 10-K is specifically incorporated herein by
reference.
RECENT FINANCIAL ACCOUNTING STANDARDS. In April 2003, the Financial
Accounting Standards Board ("FASB") issued Statement of Financial Accounting
Standards ("SFAS") No. 149, "Amendment of Statement 133 on Derivative
Instruments and Hedging Activities" ("SFAS No. 149"). SFAS No. 149 amends and
clarifies the financial accounting and reporting requirements, as were
originally established in SFAS No. 133, for derivative instruments and hedging
activities. SFAS No. 149 provides greater clarification of the characteristics
of a derivative instrument so that contracts with similar characteristics will
be accounted for consistently. SFAS No. 149 is effective for contracts entered
into or modified after June 30, 2003, as well as for hedging relationships
designated after June 30, 2003, excluding certain implementation issues that
have been effective prior to this date under SFAS No. 133. The adoption of SFAS
No. 149 during the first quarter of fiscal 2004 did not have a material effect
on the Company's financial position or results of operations.
ACCOUNTING FOR STOCK-BASED COMPENSATION. At September 30, 2003, the Company
maintained several stock incentive plans for the benefit of certain employees.
The Company accounts for these plans in accordance with Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees," and related
interpretations. Except for costs related to restricted stock and restricted
stock units, no compensation expense has been recognized in net earnings, as all
options granted had an exercise price equal to the market value of the
underlying stock on the date of grant. The following tables illustrate the
effect on net earnings and earnings per Common Share after adjusting for
anticipated plan changes if the Company adopted the fair value recognition
provisions of SFAS No. 123, "Accounting for Stock-Based Compensation:"
For the Three Months
Ended
(in millions) September 30,
2003 2002
------- -------
Net earnings, as reported $ 328.6 $ 288.3
Stock based employee compensation expense
included in net earnings, net of related tax effects 0.4 0.5
Total stock-based employee compensation expense
determined under fair value method for all awards,
net of related tax effects (21.8) (17.7)
------- -------
Pro Forma Net earnings $ 307.2 $ 271.1
======= =======
Page 6
For the Three Months
Ended
September 30,
2003 2002
-------- --------
Basic earnings per Common Share:
As reported $ 0.75 $ 0.65
Pro forma basic earnings per Common Share $ 0.70 $ 0.61
Diluted earnings per Common Share:
As reported $ 0.74 $ 0.64
Pro forma diluted earnings per Common Share $ 0.69 $ 0.60
2. EARNINGS PER SHARE AND SHAREHOLDERS' EQUITY
Basic earnings per Common Share ("Basic EPS") 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 ("Diluted EPS") is similar to the computation for Basic EPS, 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 Common Shares used to compute
Basic EPS and Diluted EPS for the quarters ended September 30, 2003 and 2002:
For the Three Months Ended
September 30,
(in millions) 2003 2002
----------------------
Weighted-average Common Shares - basic 440.5 446.2
Effect of dilutive securities:
Employee stock options 6.2 8.0
----------------------
Weighted-average Common Shares - diluted 446.7 454.2
======================
The potentially dilutive employee stock options that were antidilutive for
the quarters ended September 30, 2003 and 2002 were 21.9 million and 13.6
million, respectively.
On August 1, 2003, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $1 billion. Pursuant to
this authorization, the Company repurchased approximately 17.0 million Common
Shares having an aggregate cost of approximately $1 billion. The average price
paid per share was $58.65. This repurchase was completed during the first
quarter of fiscal 2004, and the repurchased shares were placed into treasury
shares to be used for general corporate purposes.
3. COMPREHENSIVE INCOME
The following is a summary of the Company's comprehensive income for the
three months ended September 30, 2003 and 2002:
For the Three Months Ended
(in millions) September 30,
--------------------------------------
2003 2002
--------------------------------------
Net earnings $ 328.6 $ 288.3
Foreign currency translation adjustments (8.9) 8.6
Net unrealized gain on derivative instruments 3.2 15.3
------------------- -----------------
Total comprehensive income $ 322.9 $ 312.2
=================== =================
Page 7
4. MERGER-RELATED COSTS AND OTHER SPECIAL ITEMS
The following is a summary of the special items for the three-month periods
ended September 30, 2003 and 2002.
Special Items Three Months Ended
September 30,
- ---------------------------------------------------------------------------------------------
(in millions, except for Diluted EPS amounts) 2003 2002
- ---------------------------------------------------------------------------------------------
Merger-Related Costs:
Employee-related costs $ 1.6 $ 3.2
Pharmaceutical distribution center consolidation - 5.1
Asset impairments & other exit costs 0.2 0.5
Other integration costs 6.8 2.6
- ---------------------------------------------------------------------------------------------
Total merger-related costs $ 8.6 $ 11.4
- ---------------------------------------------------------------------------------------------
Other Special Items:
Employee-related costs $ 0.9 $ -
Manufacturing facility closures & restructurings 5.8 10.2
Other restructuring costs 0.6 -
Litigation settlements (2.7) (2.9)
- ---------------------------------------------------------------------------------------------
Total other special items $ 4.6 $ 7.3
- ---------------------------------------------------------------------------------------------
Total special items $ 13.2 $ 18.7
Tax effect of special items (4.5) (3.1)
- ---------------------------------------------------------------------------------------------
Net effect of special items $ 8.7 $ 15.6
=============================================================================================
Net decrease on Diluted EPS $ 0.02 $ 0.03
=============================================================================================
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 during the first quarter of fiscal 2004 were primarily a result of
the acquisition of Syncor International Corporation ("Syncor") which was
completed on January 1, 2003. The merger-related costs recognized during the
first quarter of fiscal 2003 were primarily a result of the acquisition of
Bindley Western Industries, Inc. ("Bindley"), which was completed on February
14, 2001.
EMPLOYEE-RELATED COSTS. During the first quarters of fiscal 2004 and 2003,
the Company incurred employee-related costs associated with certain merger and
acquisition transactions of $1.6 million and $3.2 million, respectively. For the
three months ended September 30, 2003, the employee-related costs consisted
primarily of severance and retention bonuses paid as a result of the Syncor
acquisition. For the three months ended September 30, 2002, the employee-related
costs included $2.5 million related to amortization expense of non-compete
agreements primarily associated with the Bindley and Allegiance Corporation
("Allegiance") acquisitions. The remaining employee-related costs for the three
months ended September 30, 2002, primarily related to retention bonuses
associated with certain of the Company's smaller acquisitions.
PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. During the first quarter
of fiscal 2003, the Company incurred charges of $5.1 million associated with its
plan to close and consolidate a total of 16 Bindley distribution centers,
Bindley's corporate office and one of the Company's data centers as a result of
the acquisition of Bindley. Related to these closures in the first quarter of
fiscal 2003, the Company incurred employee-related costs of $0.9 million,
primarily from the termination of employees due to the distribution center
closures; exit costs of $1.7 million related to the termination of contracts and
lease agreements of the distribution centers; asset impairment charges of $1.1
million; and costs of $1.4 million associated with the consolidation of one of
the Company's data centers, primarily related to duplicate salaries incurred
during the consolidation period.
ASSET IMPAIRMENTS & OTHER EXIT COSTS. During the first quarters of fiscal
2004 and 2003, the Company incurred asset impairments and other exit costs of
$0.2 million and $0.5 million, respectively. The asset impairment costs incurred
during the first quarter of fiscal 2004 relate primarily to the integration of
acquired companies into the Company's overall information technology system
structure. Also, exit costs associated with plans to consolidate operations as a
result of the Syncor acquisition were incurred during the first quarter of
fiscal 2004. Costs incurred
Page 8
during the first quarter of fiscal 2003 primarily related to expenses incurred
to relocate physical assets due to the closure and consolidation of Bergen
Brunswig Medical Corporation ("BBMC") facilities.
OTHER INTEGRATION COSTS. Other integration costs during the first quarters
of fiscal 2004 and 2003 of $6.8 million and $2.6 million, respectively, included
charges directly related to the integration of operations of previous merger and
acquisition transactions. These operations include, but are not limited to,
information systems, employee benefits and compensation, accounting/finance,
tax, treasury, internal audit, risk management, compliance, administrative
services, sales and marketing and others. The costs included in this category
generally relate to expenses incurred to integrate the merged or acquired
company's operations and systems into the Company's pre-existing operations and
systems.
OTHER SPECIAL ITEMS
EMPLOYEE-RELATED COSTS. During the first quarter of fiscal 2004, the
Company recorded employee-related costs of $0.9 million primarily related to a
realignment plan implemented within the Healthcare Marketing Services
("HMS") business, a business unit within the Pharmaceutical Technologies and
Services segment. The realignment plan was a result of proposed industry
guidelines impacting a portion of the HMS medical education services business.
The costs represent severance accrued upon communication of severance terms to
employees during the first quarter of fiscal 2004. This realignment plan was
completed during the first quarter of fiscal 2004 and resulted in the
termination of approximately 50 employees.
MANUFACTURING FACILITY CLOSURES & RESTRUCTURINGS. During the first quarters
of fiscal 2004 and 2003, the Company recorded a total of $5.8 million and $10.2
million, respectively, as special charges related to the closure and/or
restructuring of certain manufacturing facilities. These closure and/or
restructuring activities occurred within the Medical Products and Services
segment and the Pharmaceutical Technologies and Services segment.
During the first quarters of fiscal 2004 and 2003, the Company recorded
charges of $1.0 million and $10.2 million, respectively, related to the closure
of an international manufacturing facility within the Medical Products and
Services segment. The closure of this facility was completed during fiscal 2003
and resulted in the termination of approximately 200 employees. Of these
amounts, asset impairment charges of $1.0 million and $7.5 million,
respectively, were recorded during the periods noted above. The $1.0 million
charge in the first quarter of fiscal 2004 represents additional impairment
costs identified on assets currently held for sale. Also, exit costs of $1.4
million were incurred during the first quarter of fiscal 2003, primarily related
to dismantling and moving machinery and equipment. The remaining $1.3 million
incurred during the first quarter of fiscal 2003 related to severance costs
associated with the termination of approximately 200 employees during the
quarter.
The Company also recorded charges of $3.9 million during the first quarter
of fiscal 2004 related to various domestic and international manufacturing
facility restructuring plans occurring within the Medical Products and Services
segment. Approximately $2.8 million of such charges were employee-related costs,
the majority of which represents severance accrued upon communication of
severance terms to employees during the quarter. Approximately $0.6 million
relates to incurred asset impairment charges. The remaining $0.5 million
primarily relates to exit costs incurred to relocate physical assets. These
restructuring plans will be completed throughout fiscal 2004 and 2005 and will
result in the termination of approximately 850 employees. As of September 30,
2003, approximately 275 employees have been terminated.
Also during the first quarter of fiscal 2004, the Company recorded charges
of $0.9 million which represents the remaining lease obligations for a facility
that was vacated as a result of a restructuring plan completed during fiscal
2003 within the Pharmaceutical Technologies and Services segment.
OTHER RESTRUCTURING COSTS. During the first quarter of fiscal 2004, the
Company incurred costs of $0.6 million related to a plan to restructure its
information technology services.
LITIGATION SETTLEMENTS. During the first quarter of fiscal 2004 and 2003,
the Company recorded income from litigation settlements of $2.7 million and $2.9
million as special items, respectively. These settlements resulted from the
recovery of antitrust claims against certain vitamin manufacturers for amounts
overcharged in prior years. The total recovery through September 30, 2003 was
$140.9 million (net of attorney fees, payments due to other interested parties
and expenses withheld). While the Company continues to have pending claims with
smaller vitamin manufacturers, the total amount of future recovery is not
currently estimable, but the Company believes it is not likely to be a material
amount.
Page 9
ACCRUAL ROLLFORWARD
The following table summarizes the activity related to the liabilities
associated with the Company's special items during the quarter ended September
30, 2003.
For the Three
Months Ended
(in millions) September 30, 2003
----------------------
Balance at June 30, 2003 $45.7
Additions(1) 15.9
Payments (18.5)
----------------------
Balance at September 30, 2003 $43.1
======================
(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 of $2.7 million recorded as a special
item during the first quarter of fiscal 2004.
SUMMARY
During the first quarter of fiscal 2004, the net effect of various special
items reduced reported earnings from continuing operations by $8.7 million to
$330.4 million and reduced reported diluted earnings per Common Share from
continuing operations by $0.02 per Common Share to $0.74 per Common Share.
During the first quarter of fiscal 2003, the net effect of various special items
reduced reported net earnings by $15.6 million to $288.3 million and reduced
reported diluted earnings per Common Share by $0.03 per Common Share to $0.64
per Common Share.
Certain merger, acquisition and restructuring costs are based upon
estimates. Actual amounts paid may ultimately differ from these estimates. If
additional costs are incurred or recorded amounts exceed costs, such changes in
estimates will be recorded in special items when incurred.
The Company estimates that it will incur additional costs associated with
the various merger, acquisition and restructuring activities entered into to
date totaling approximately $85 million (approximately $55 million net of tax)
in future periods. This estimate is subject to adjustment pending resolution of
Syncor acquisition-related litigation contingencies. The Company believes that
it will incur these costs in order to properly integrate and rationalize
operations, a portion of which represents facility rationalizations and
implementing efficiencies with regard to, among other things, information
systems, customer systems, marketing programs and administrative functions. Such
amounts will be charged to expense when incurred.
5. SEGMENT INFORMATION
The Company's operations are principally managed on a products and services
basis and are comprised of four reportable business segments: Pharmaceutical
Distribution and Provider Services, Medical Products and Services,
Pharmaceutical Technologies and Services and Automation and Information
Services. During the first quarter of fiscal 2004, the Company transferred its
Consulting and Services business, previously reported within the Medical
Products and Services segment, to its Clinical Services and Consulting business
within the Pharmaceutical Distribution and Provider Services segment. Also
during the first quarter of fiscal 2004, the Company transferred its clinical
information business, previously reported within the Automation and Information
Services segment, to its Clinical Services and Consulting business within the
Pharmaceutical Distribution and Provider Services segment. These transfers were
done to better align business operations. Prior period financial results have
not been restated as each of these businesses is not significant within the
segments. The Company has not made any material changes in the segments
reported or the measurement basis of segment profit or loss from the information
provided in the 2003 Form 10-K.
The Pharmaceutical Distribution and Provider Services segment involves the
distribution of a broad line of pharmaceuticals, health care, and other
specialty pharmaceutical products and other items typically sold by hospitals,
retail drug stores and other health care providers. In addition, this segment
provides services to the health care 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 health care providers.
Page 10
The Pharmaceutical Technologies and Services segment provides services to
the health care industry through the development and manufacture 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, radiopharmaceutical manufacturing,
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 health care providers, focusing on meeting customer needs
through unique and proprietary automation and information products and services.
In addition, this segment markets point-of-use supply systems in the non-health
care market.
The Company evaluates the performance of the segments based on operating
earnings after the corporate allocation of administrative expenses. Information
about interest income and expense and income taxes is not provided on a segment
level. In addition, special charges are not allocated to the segments. The
accounting policies of the segments are the same as described in the summary of
significant accounting policies.
The following table includes revenue and operating earnings for the
three-month periods ended September 30, 2003 and 2002, for each segment and
reconciling items necessary to agree to amounts reported in the condensed
consolidated financial statements:
For the Three Months Ended
September 30,
----------------------------------
(in millions) Net Revenue
----------------------------------
2003 2002
---------------- ----------------
Operating revenue:
Pharmaceutical Distribution and Provider Services $10,823.9 $9,318.4
Medical Products and Services 1,733.2 1,595.5
Pharmaceutical Technologies and Services 606.5 387.2
Automation and Information Services 142.7 133.8
Corporate (1) (18.0) (18.3)
---------------- ----------------
Total operating revenue $13,288.3 $11,416.6
================ ================
Bulk deliveries to customer warehouses and other:
Pharmaceutical Distribution and Provider Services $2,059.5 $1,630.8
Pharmaceutical Technologies and Services 40.9 38.7
---------------- ----------------
Total bulk deliveries to customer warehouses and other $2,100.4 $1,669.5
================ ================
Operating Earnings
----------------------------------
2003 2002
---------------- ----------------
Operating earnings:
Pharmaceutical Distribution and Provider Services $266.0 $261.9
Medical Products and Services 150.2 138.7
Pharmaceutical Technologies and Services 107.0 72.6
Automation and Information Services 53.0 46.2
Corporate (2) (53.8) (51.9)
---------------- ----------------
Total operating earnings $522.4 $467.5
================ ================
(1) Corporate operating revenue primarily consists of foreign currency
translation adjustments.
(2) Corporate operating earnings include special items of $13.2 million and
$18.7 million in the three-month periods ended September 30, 2003 and
2002, respectively, and unallocated corporate administrative expenses
and investment spending.
Page 11
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. health
care distribution business, surgical and respiratory therapy business and health
care 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 September 30, 2003, there were 149 lawsuits pending 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 833 cases. During the fiscal year ended June 30, 2002,
Allegiance began settling some of these lawsuits with greater frequency. As of
September 30, 2003, Allegiance had resolved more than eighty percent of these
cases. About twenty percent of the lawsuits that have been resolved were
concluded without any liability to Baxter/Allegiance. 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 or results of
operations, and could be in the range of $0 to $20 million, net of insurance
proceeds (with the range reflecting the Company's reasonable estimation of
potential insurance coverage, and defense and indemnity costs). 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. On or about March 21, 2003,
after the Company filed a Motion to Dismiss the complaint, an amended complaint
was filed alleging breach of fiduciary duties and corporate waste in connection
with the alleged failure by the Board of Directors of the Company to (a)
renegotiate or terminate the Company's proposed acquisition of Syncor and (b)
determine the propriety of indemnifying Monty Fu, the former Chairman of Syncor.
The Company filed a Motion to Dismiss the amended complaint and the plaintiffs
subsequently filed a second amended complaint which added three new individual
defendants and includes new allegations that the Company improperly recognized
revenue in December 2000 and September 2001 related to settlements with certain
vitamins manufacturers. The Company has filed a Motion to Dismiss the second
amended complaint. The Company believes the allegations made in the second
amended complaint, as with the original 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 or results of operations. 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.
Page 12
Shareholder Litigation against Syncor
Eleven purported class action lawsuits have 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. 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
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. A lead
plaintiff has been appointed by the court in the federal securities actions and
a consolidated amended complaint was filed May 19, 2003, naming Syncor and 12
individuals, all former Syncor officers, directors and employees as defendants.
Syncor filed a Motion to Dismiss the consolidated amended complaint on August 1,
2003.
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 Corporation and the
remaining two Syncor directors, who are hereafter included in the term "director
defendants." These cases have been consolidated under the caption "In re: Syncor
International Corp. Shareholders Litigation" (the "consolidated Delaware
action"). On August 14, 2003, the Company filed a Motion to Dismiss the
operative complaint in the consolidated Delaware action. At the end of September
2003, plaintiffs in the consolidated Delaware actions moved the court to file a
second amended complaint. Monty Fu is the only defendant in the proposed second
amended complaint attached to this motion.
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. An amended complaint was filed on December 6, 2002 in one of
the cases, purporting to allege direct claims on behalf of a class of
shareholders. The defendants' motion for a stay of the California actions
pending the resolution of the Delaware actions (discussed above) was granted on
April 30, 2003.
A proposed class action complaint was filed on April 8, 2003, against the
Company, Syncor and certain officers and employees of the Company by a purported
participant in the Syncor Employees' Savings and Stock Ownership Plan (the
"Syncor ESSOP"). A related proposed class action complaint was filed on
September 11, 2003, against the Company, Syncor and certain individual
defendants. The related suits allege that the defendants breached certain
fiduciary duties owed under the Employee Retirement Income Security Act
("ERISA"). It is expected that these related suits will be consolidated. In
addition, the United States Department of Labor is conducting an investigation
of the Syncor ESSOP with respect to its compliance with ERISA requirements. The
Company has responded to a subpoena received from the Department of Labor and
intends to fully cooperate in its investigation.
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 these actions will
have a material adverse effect on the Company's financial position, liquidity or
results of operations. The Company and Syncor believe the allegations made in
the complaints described above are without merit and intend to vigorously defend
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 defend such actions. The
Company and Syncor currently believe that a portion of any liability will be
covered by insurance policies that the Company
Page 13
and Syncor have with financially viable insurance companies, subject to
self-insurance retentions, exclusions, conditions, coverage gaps, policy limits
and insurer solvency.
DuPont Litigation
On September 11, 2003, E.I. Du Pont De Nemours and Company ("DuPont") filed
a lawsuit against the Company and others in the United States District Court for
the Middle District of Tennessee. The complaint alleges various causes of action
against the Company relating to the production and sale of surgical drapes and
gowns by the Company's Medical Products and Services segment. DuPont's claims
generally fall into the categories of breach of contract, false advertising and
patent infringement. The complaint does not request a specific amount of
damages. The Company believes that the claims made in the complaint are without
merit and it intends to vigorously defend this action. Although this action is
in its early stages and it is impossible to accurately predict the outcome of
the proceedings or their impact on the Company, the Company believes that it is
owed a defense and indemnity from its codefendants with respect to DuPont's
claim for patent infringement. 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 or results of operation.
Informal Inquiry by the Securities and Exchange Commission
On October 9, 2003, the Company announced that it had received a request
for information from the Securities and Exchange Commission in connection with
an informal inquiry. The request seeks historical financial and related
information, including information pertaining to the accounting treatment of $22
million recovered from vitamin manufacturers who were found to have overcharged
the Company. The Company intends to cooperate fully and provide all information
required to satisfy the request.
Other Matters
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 or results of operations.
7. GOODWILL AND OTHER INTANGIBLE ASSETS
Changes in the carrying amount of goodwill for the quarter ended September
30, 2003, 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, 2003 $96.1 $694.7 $1,423.2 $50.7 $2,264.7
Goodwill acquired - net of purchase price
adjustments, foreign currency
translation adjustments and other - (6.6) 18.8 - 12.2
Transfer (1) 31.6 (31.6) - - -
- -----------------------------------------------------------------------------------------------------------------------
Balance at September 30, 2003 $127.7 $656.5 $1,442.0 $50.7 $2,276.9
=======================================================================================================================
(1) During the first quarter of fiscal 2004, the Company transferred its
Consulting and Services business, previously reported within the
Medical Products and Services segment, to its Clinical Services and
Consulting business within the Pharmaceutical Distribution and Provider
Services segment to better align business operations. This transfer
resulted in approximately $31.6 million of goodwill being reclassed
between the segments.
The allocation of the purchase price related to the Syncor acquisition is
not yet finalized and is subject to adjustment as the Company is still assessing
the value of the acquired discontinued operations (see Note 9) and
pre-acquisition contingencies, as well as finalizing the evaluation of plans to
close and relocate certain facilities and certain other matters. The Company
expects any future adjustments to the allocation of the purchase price will be
recorded to goodwill.
Page 14
All intangible assets for the periods presented are subject to
amortization. Intangible assets 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 September 30 and June 30, 2003, was as follows:
Gross Accumulated Net
(in millions) Intangible Amortization Intangible
- ----------------------------------------------------------------------------------------------------------
June 30, 2003
Trademarks and patents $48.1 $20.8 $27.3
Non-compete agreements 27.3 21.9 5.4
Other 49.6 14.7 34.9
- ----------------------------------------------------------------------------------------------------------
Total $125.0 $57.4 $67.6
- ----------------------------------------------------------------------------------------------------------
September 30, 2003
Trademarks and patents $48.4 $21.7 $26.7
Non-compete agreements 29.2 24.0 5.2
Other 46.4 14.7 31.7
- ----------------------------------------------------------------------------------------------------------
Total $124.0 $60.4 $63.6
- ----------------------------------------------------------------------------------------------------------
There were no significant acquisitions of other intangible assets for the
periods presented. Amortization expense for the quarters ended September 30,
2003 and 2002, was $2.3 million and $0.8 million, respectively.
Amortization expense for each of the next five fiscal years is estimated to
be:
------------------------------------------------------------------
(in millions) 2004 2005 2006 2007 2008
------------------------------------------------------------------
Amortization expense $9.2 $8.5 $8.2 $7.4 $4.7
8. GUARANTEES
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 ten years, the Company
guarantees reimbursement for a portion of any unrecovered property cost. At
September 30, 2003, the maximum amount the Company could be required to
reimburse was $382.3 million. Based upon current information, the Company
believes that the proceeds from the sale of properties under these operating
lease agreements would exceed its payment obligation. In accordance with FASB
Interpretation No. 45, the Company has a liability of $4.7 million recorded as
of September 30, 2003, related to these agreements.
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. 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 material 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 results of
operations.
Page 15
9. DISCONTINUED OPERATIONS
In connection with the acquisition of Syncor, the Company acquired certain
operations of Syncor that were or will be discontinued. Prior to the
acquisition, Syncor announced the discontinuation of certain operations
including the medical imaging business ("CMI") and certain overseas operations.
The Company is continuing with these plans and has added additional
international and non-core domestic businesses to the discontinued operations.
In accordance with SFAS No. 144, "Accounting for the Impairment or Disposal of
Long-Lived Assets," the net assets and results of operations of these businesses
are presented as discontinued operations. The Company is currently overseeing
the planned sale of the discontinued operations and is actively marketing these
businesses. The Company expects to sell substantially all of the remaining
discontinued operations by January 2004. The net assets for the discontinued
operations are included within the Pharmaceutical Technologies and Services
segment.
The results of discontinued operations for the three months ended September
30, 2003, are summarized as follows:
Three Months Ended
September 30,
(in millions) 2003
----------------------
Revenue $ 26.2
Loss before income taxes (2.9)
Income tax benefit 1.1
-----------------------
Loss from discontinued operations $ (1.8)
=======================
Interest expense allocated to discontinued operations for the three months
ended September 30, 2003, was $0.1 million. Interest expense was allocated to
the discontinued operations based upon a ratio of the net assets of discontinued
operations versus the overall net assets of Syncor.
At September 30, 2003, the major components of assets and liabilities of
the discontinued operations were as follows:
September 30,
(in millions) 2003
-----------------
Current Assets $ 48.7
Property and Equipment, net 57.2
Other Assets 57.1
-----------------
Total Assets $ 163.0
=================
Current Liabilities $ 37.8
Long Term Debt 24.4
-----------------
Total Liabilities $ 62.2
=================
Cash flows generated from the discontinued operations are immaterial to the
Company and, therefore, are not disclosed separately.
10. SUBSEQUENT EVENT
On November 1, 2003, the Company commenced a recommended cash offer to
acquire The Intercare Group ("Intercare"), a European pharmaceutical products
and services company based in the United Kingdom, at a price of 280 pence per
share. The transaction has a value of approximately $530 million, including the
assumption of Intercare's debt which was approximately $124 million as of June
30, 2003. Completion of the acquisition is subject to customary conditions,
including the acceptance of the offer by Intercare shareholders owning at least
90% of the shares outstanding and obtaining customary regulatory clearance. The
transaction is expected to be completed by calendar year-end.
Page 16
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
The discussion and analysis presented below is concerned with material
changes in financial condition and results of operations for the Company's
condensed consolidated balance sheets as of September 30, 2003, and June 30,
2003, and for the condensed consolidated statements of earnings for the
three-month periods ended September 30, 2003 and 2002.
This discussion and analysis should be read together with management's
discussion and analysis included in the 2003 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 2003 Form 10-K and are incorporated herein by reference. The Company
disclaims any obligation to update any forward-looking statement.
GENERAL
The Company has 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 in "Notes to Condensed Consolidated Financial Statements"
for a description of these segments.
RESULTS OF OPERATIONS
Operating Revenue Percent of Company
Operating Revenues
---------------------------------
Three months ended September 30, Growth (1) 2003 2002
- --------------------------------------------------------------------------------------------------------------------
Pharmaceutical Distribution and Provider Services 16% 81% 82%
Medical Products and Services 9% 13% 14%
Pharmaceutical Technologies and Services 57% 5% 3%
Automation and Information Services 7% 1% 1%
Total Company 16% 100% 100%
- --------------------------------------------------------------------------------------------------------------------
(1) Growth is calculated as the change (increase or decrease) in the
operating revenue for the three-month period ended September 30,
2003, compared to the three-month period ended September 30, 2002.
Total operating revenue for the three months ended September 30, 2003,
increased 16% compared to the same period of the prior year. This increase
resulted from a higher sales volume across each of the Company's segments; the
addition of new customers, some of which was a result of new corporate
agreements with health care providers that integrate the Company's diverse
offerings; the addition of new products; strong sales of self-manufactured
products; and pharmaceutical price increases. In addition, the Syncor
acquisition within the Pharmaceutical Technologies and Services segment
accounted for a portion of the overall revenue growth of the Company.
The Pharmaceutical Distribution and Provider Services segment's operating
revenue growth of 16% during the first quarter of fiscal 2004 resulted from
strong sales to customers within this segment's core pharmaceutical distribution
business. The most significant growth within the core pharmaceutical
distribution business was in sales to alternate site and independent pharmacy
customers, which yielded growth of approximately 46% and 16%, respectively. In
addition, pharmaceutical price increases contributed to the growth in this
segment.
The Medical Products and Services segment's operating revenue growth of 9%
during the first quarter of fiscal 2004 resulted from increased sales from new
contracts and new products. New contracts drove an increase in sales of both
distributed and self-manufactured products. Sales of new self-manufactured
products also contributed to this
Page 17
segment's revenue growth. The new Esteem(R) surgeon's gloves are just one
example of new self-manufactured, proprietary products contributing to the
revenue growth in this segment.
The Pharmaceutical Technologies and Services segment's operating revenue
growth of 57% during the first quarter of fiscal 2004 resulted from particularly
strong demand within the packaging services and oral technologies businesses.
Packaging services generated solid growth from both organic and new business, in
particular new packaging business of AstraZeneca's Crestor(TM). The oral
technologies business also contributed solid growth, with Lilly's Zyprexa(R)
Zydis, an anti-psychotic drug, showing particular strength. The addition of
Mylan's Amnesteem(TM), a generic drug for the treatment of acne that was
launched mid-year during fiscal 2003, also contributed to the oral technologies
revenue growth. This segment's revenue growth also benefited from the inclusion
of Syncor, an acquisition that was completed on January 1, 2003. Syncor's
results of operations are not included in the prior period numbers. This
segment's revenue growth was partially dampened by the delay of new product
manufacturing from signed contracts within the sterile technology business.
These new sterile products have already received FDA approval, but are pending
final manufacturing inspection approvals (which are now slated for the second
quarter of fiscal 2004).
The Automation and Information Services segment's operating revenue growth
of 7% during the first quarter of fiscal 2004 resulted from increased sales in
the medication and supply management product lines, such as Pyxis MedStation(R)
and Pyxis SupplyStation(R). This segment's revenue growth was dampened by
business disruptions experienced by health care providers during the quarter,
which resulted in installation delays. These disruptions included Hurricane
Isabel on the east coast and various computer viruses which hindered
installations throughout the United States.
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 net 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 net
earnings.
Operating Earnings Percent of Company
Operating Earnings
-----------------------------
Three months ended September 30, Growth (1) 2003 2002
- ----------------------------------------------------------------------------------------------------------------
Pharmaceutical Distribution and Provider Services 2% 46% 50%
Medical Products and Services 8% 26% 27%
Pharmaceutical Technologies and Services 47% 19% 14%
Automation and Information Services 15% 9% 9%
Total Company (2) 12% 100% 100%
- ----------------------------------------------------------------------------------------------------------------
(1) Growth is calculated as the change (increase or decrease) in the
operating earnings for the three-month period ended September 30,
2003, compared to the three-month period ended September 30, 2002.
(2) The Company's overall operating earnings growth of 12% includes
the effect of special items, which totaled $13.2 million and $18.7
million during the three months ended September 30, 2003 and 2002,
respectively. Special items are not allocated to the segments.
Total operating earnings for the three months ended September 30, 2003,
increased 12% compared to the same period of the prior year. This overall
increase resulted primarily from the Company's revenue growth of 16% during the
quarter, yielding an 8% increase in gross margin, which combined with a 4%
increase in operating expenses (including special items) to generate the 12%
increase in operating earnings. This increase was positively impacted by the
inclusion of Syncor, whose results of operations are not included in the prior
period numbers. The Company's gross margins continue to be dampened by reduced
vendor margin programs and competitive customer pricing pressures within the
Pharmaceutical Distribution and Provider Services segment, as further discussed
below.
Page 18
This impact was partially offset by the growth experienced in the Company's
other operating segments, which generate higher gross margins and operating
earnings returns (as a percentage of revenues) than the Pharmaceutical
Distribution and Provider Services segment. The Company continues to leverage
its expense structure through disciplined expense control, and the productivity
benefits resulting from scale associated with revenue growth and previous
investments in automation and technology. The overall increase in operating
expenses was primarily a result of the additional expenses resulting from the
Syncor acquisition, higher personnel costs associated with the overall business
growth, an increase in depreciation and amortization costs, and additional
expenses related to compliance with the provisions of the Sarbanes-Oxley Act.
Additionally, the Company continues to invest in R&D and strategic initiatives
that will benefit future periods, which are charged against current operating
earnings as incurred. The increase in the Company's expenses for the first
quarter of fiscal 2004 were partially offset by a reduction in incentive
compensation expenses versus the first quarter of fiscal 2003 due to the
performance of the Company's consolidated operations, as well as an adjustment
of certain trade receivable reserves, which were decreased due to changes in
customer-specific credit exposures as well as improvements in customer credit,
billing and collection processes yielding significant reductions in past due and
uncollectible accounts.
The Pharmaceutical Distribution and Provider Services segment's operating
earnings growth of 2% during the first quarter of fiscal 2004 resulted from this
segment's overall revenue growth of 16% during the quarter and strong expense
controls, offset by the negative impact on gross margins of a reduction in
vendor margin programs combined with the impact of competitive customer pricing
and sales mix. The Company has seen changes in vendor supply chain management
policies related to product availability, including the use of inventory
management agreements. Under these types of agreements, the Company is generally
compensated on a negotiated basis to help manufacturers better match their
shipments with market demand, therefore adversely affecting the Company's
investment margin opportunities. Generally, the Company is compensated under its
inventory management agreements based on the timing of inventory price increases
and the volume of inventory purchases during the agreed upon period. The Company
recognizes the amounts received from such agreements within gross margin based
upon related inventory sales.
The Medical Products and Services segment's operating earnings growth of 8%
during the first quarter of fiscal 2004 resulted primarily from this segment's
overall revenue growth of 9% during the quarter, led by momentum in distribution
activities. Increased sales of both distributed and self-manufactured products,
some of which was the result of new contracts, generated a portion of the
operating earnings growth. The addition of new products, such as the Esteem(R)
surgeon's gloves, also generated a portion of the operating earnings growth. The
earnings growth rate in this segment was negatively impacted by the timing of
certain expense reduction initiatives that occurred in the first quarter of
fiscal 2003 but were not able to be repeated within the first quarter of fiscal
2004.
The Pharmaceutical Technologies and Services segment's operating earnings
growth of 47% during the first quarter of fiscal 2004 resulted from increased
capacity utilization, manufacturing efficiencies implemented since the first
quarter of the prior period, and strong expense controls within each of the
businesses in the segment. This segment's operating earnings growth also
benefited from the inclusion of Syncor, an acquisition that was completed on
January 1, 2003. Syncor's results of operations are not included in the prior
period numbers. Since Syncor's operating earnings as a percentage of operating
revenue is less than the other business units within this segment, its inclusion
had a deleveraging effect on operating earnings growth in comparison to revenue
growth. Without the inclusion of Syncor, this segment generated operating
earnings growth in the high teens.
The Automation and Information Services segment's operating earnings growth
of 15% during the first quarter of fiscal 2004 resulted from revenue growth of
7% combined with strong expense controls and a reduction in receivable reserves
due to improvements in customer-specific credit matters, as well as general
improvements in customer credit, billing and collection procedures, which have
resulted in significant reductions in past due and uncollectible accounts.
Page 19
Special Charges
The following is a summary of the special items for the three-month periods
ended September 30, 2003 and 2002.
Special Items Three Months Ended
September 30,
- ----------------------------------------------------------------------------------------------
(in millions, except for Diluted EPS amounts) 2003 2002
- ----------------------------------------------------------------------------------------------
Merger-Related Costs:
Employee-related costs $ 1.6 $ 3.2
Pharmaceutical distribution center consolidation - 5.1
Asset impairments & other exit costs 0.2 0.5
Other integration costs 6.8 2.6
- ----------------------------------------------------------------------------------------------
Total merger-related costs $ 8.6 $ 11.4
- ----------------------------------------------------------------------------------------------
Other Special Items:
Employee-related costs $ 0.9 $ -
Manufacturing facility closures & restructurings 5.8 10.2
Other restructuring costs 0.6 -
Litigation settlements (2.7) (2.9)
- ----------------------------------------------------------------------------------------------
Total other special items $ 4.6 $ 7.3
- ----------------------------------------------------------------------------------------------
Total special items $ 13.2 $ 18.7
Tax effect of special items (4.5) (3.1)
- ----------------------------------------------------------------------------------------------
Net effect of special items $ 8.7 $ 15.6
==============================================================================================
Net decrease on Diluted EPS $ 0.02 $ 0.03
==============================================================================================
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 during the first quarter of fiscal 2004 were primarily a result of
the acquisition of Syncor which was completed on January 1, 2003. The
merger-related costs recognized during the first quarter of fiscal 2003 were
primarily a result of the acquisition of Bindley, which was completed on
February 14, 2001.
EMPLOYEE-RELATED COSTS. During the first quarters of fiscal 2004 and 2003,
the Company incurred employee-related costs associated with certain merger and
acquisition transactions of $1.6 million and $3.2 million, respectively. For the
three months ended September 30, 2003, the employee-related costs consisted
primarily of severance and retention bonuses paid as a result of the Syncor
acquisition. For the three months ended September 30, 2002, the employee-related
costs included $2.5 million related to amortization expense of non-compete
agreements primarily associated with the Bindley and Allegiance acquisitions.
The remaining employee-related costs for the three months ended September 30,
2002, primarily related to retention bonuses associated with certain of the
Company's smaller acquisitions.
PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. During the first quarter
of fiscal 2003, the Company incurred charges of $5.1 million associated with its
plan to close and consolidate a total of 16 Bindley distribution centers,
Bindley's corporate office and one of the Company's data centers as a result of
the acquisition of Bindley. Related to these closures in the first quarter of
fiscal 2003, the Company incurred employee-related costs of $0.9 million,
primarily from the termination of employees due to the distribution center
closures; exit costs of $1.7 million related to the termination of contracts and
lease agreements of the distribution centers; asset impairment charges of $1.1
million; and costs of $1.4 million associated with the consolidation of one of
the Company's data centers, primarily related to duplicate salaries incurred
during the consolidation period.
ASSET IMPAIRMENTS & OTHER EXIT COSTS. During the first quarters of fiscal
2004 and 2003, the Company incurred asset impairments and other exit costs of
$0.2 million and $0.5 million, respectively. The asset impairment costs incurred
during the first quarter of fiscal 2004 relate primarily to the integration of
acquired companies into the Company's overall information technology system
structure. Also, exit costs associated with plans to consolidate operations as a
result of the Syncor acquisition were incurred during the first quarter of
fiscal 2004. Costs incurred
Page 20
during the first quarter of fiscal 2003 primarily related to expenses incurred
to relocate physical assets due to the closure and consolidation of BBMC
facilities.
OTHER INTEGRATION COSTS. Other integration costs during the first quarters
of fiscal 2004 and 2003 of $6.8 million and $2.6 million, respectively, included
charges directly related to the integration of operations of previous merger and
acquisition transactions. These operations include, but are not limited to,
information systems, employee benefits and compensation, accounting/finance,
tax, treasury, internal audit, risk management, compliance, administrative
services, sales and marketing and others. The costs included in this category
generally relate to expenses incurred to integrate the merged or acquired
company's operations and systems into the Company's pre-existing operations and
systems.
OTHER SPECIAL ITEMS
EMPLOYEE-RELATED COSTS. During the first quarter of fiscal 2004, the
Company recorded employee-related costs of $0.9 million primarily related to a
realignment plan implemented within the Healthcare Marketing Services ("HMS")
business, a business unit within the Pharmaceutical Technologies and Services
segment. The realignment plan was a result of proposed industry guidelines
impacting a portion of the HMS medical education services business. The costs
represent severance accrued upon communication of severance terms to employees
during the first quarter of fiscal 2004. This realignment plan was completed
during the first quarter of fiscal 2004 and resulted in the termination of
approximately 50 employees.
MANUFACTURING FACILITY CLOSURES & RESTRUCTURINGS. During the first quarters
of fiscal 2004 and 2003, the Company recorded a total of $5.8 million and $10.2
million, respectively, as special charges related to the closure and/or
restructuring of certain manufacturing facilities. These closure and/or
restructuring activities occurred within the Medical Products and Services
segment and the Pharmaceutical Technologies and Services segment.
During the first quarters of fiscal 2004 and 2003, the Company recorded
charges of $1.0 million and $10.2 million, respectively, related to the closure
of an international manufacturing facility within the Medical Products and
Services segment. The closure of this facility was completed during fiscal 2003
and resulted in the termination of approximately 200 employees. Of these
amounts, asset impairment charges of $1.0 million and $7.5 million,
respectively, were recorded during the periods noted above. The $1.0 million
charge in the first quarter of fiscal 2004 represents additional impairment
costs identified on assets currently held for sale. Also, exit costs of $1.4
million were incurred during the first quarter of fiscal 2003, primarily related
to dismantling and moving machinery and equipment. The remaining $1.3 million
incurred during the first quarter of fiscal 2003 related to severance costs
associated with the termination of approximately 200 employees during the
quarter.
The Company also recorded charges of $3.9 million during the first quarter
of fiscal 2004 related to various domestic and international manufacturing
facility restructuring plans occurring within the Medical Products and Services
segment. Approximately $2.8 million of such charges were employee-related costs,
the majority of which represents severance accrued upon communication of
severance terms to employees during the quarter. Approximately $0.6 million
relates to incurred asset impairment charges. The remaining $0.5 million
primarily relates to exit costs incurred to relocate physical assets. These
restructuring plans will be completed throughout fiscal 2004 and 2005 and will
result in the termination of approximately 850 employees. As of September 30,
2003, approximately 275 employees have been terminated.
Also during the first quarter of fiscal 2004, the Company recorded charges
of $0.9 million which represents the remaining lease obligations for a facility
that was vacated as a result of a restructuring plan completed during fiscal
2003 within the Pharmaceutical Technologies and Services segment.
OTHER RESTRUCTURING COSTS. During the first quarter of fiscal 2004, the
Company incurred costs of $0.6 million related to a plan to restructure its
information technology services.
LITIGATION SETTLEMENTS. During the first quarter of fiscal 2004 and 2003,
the Company recorded income from litigation settlements of $2.7 million and $2.9
million as special items, respectively. These settlements resulted from the
recovery of antitrust claims against certain vitamin manufacturers for amounts
overcharged in prior years. The total recovery through September 30, 2003 was
$140.9 million (net of attorney fees, payments due to other interested parties
and expenses withheld). While the Company continues to have pending claims with
smaller vitamin manufacturers, the total amount of future recovery is not
currently estimable, but the Company believes it is not likely to be a material
amount.
Page 21
SUMMARY
During the first quarter of fiscal 2004, the net effect of various special
items reduced reported earnings from continuing operations by $8.7 million to
$330.4 million and reduced reported diluted earnings per Common Share from
continuing operations by $0.02 per Common Share to $0.74 per Common Share.
During the first quarter of fiscal 2003, the net effect of various special items
reduced reported net earnings by $15.6 million to $288.3 million and reduced
reported diluted earnings per Common Share by $0.03 per Common Share to $0.64
per Common Share.
Certain merger, acquisition and restructuring costs are based upon
estimates. Actual amounts paid may ultimately differ from these estimates. If
additional costs are incurred or recorded amounts exceed costs, such changes in
estimates will be recorded in special items when incurred.
The Company estimates that it will incur additional costs associated with
the various merger, acquisition and restructuring activities entered into to
date totaling approximately $85 million (approximately $55 million net of tax)
in future periods. This estimate is subject to adjustment pending resolution of
Syncor acquisition-related litigation contingencies. The Company believes that
it will incur these costs in order to properly integrate and rationalize
operations, a portion of which represents facility rationalizations and
implementing efficiencies with regard to, among other things, information
systems, customer systems, marketing programs and administrative functions. Such
amounts will be charged to expense when incurred.
The Company's trend with regard to acquisitions has been to expand its role
as a provider of services to the health care industry. This trend has resulted
in expansion into service areas which (a) complement the Company's existing
operations and (b) provide opportunities for the Company to develop synergies
with, and thus strengthen, the acquired business. As the health care industry
continues to change, the Company continually evaluates possible candidates for
merger or acquisition and intends to continue to seek opportunities to expand
its role as a provider of services to the health care industry through all its
reporting segments. There can be no assurance that it will be able to
successfully pursue any such opportunity or consummate any such transaction, if
pursued. If additional transactions are entered into or consummated, the Company
would incur additional merger and acquisition related costs, and there can be no
assurance that the integration efforts associated with any such transaction
would be successful.
Interest Expense and Other
The decrease in interest expense and other of $2.6 million during the first
quarter of fiscal 2004 compared to the first quarter of fiscal 2003 resulted
from lower interest rates as well as effective asset management, which reduced
the average net borrowings outstanding in the current fiscal quarter.
Provision for Income Taxes
The Company's provision for income taxes relative to earnings before income
taxes and discontinued operations was 33.2% and 34.0% for the first quarters of
fiscal 2004 and 2003, respectively. Fluctuations in the effective tax rate are
primarily due to changes within state and foreign effective tax rates resulting
from the Company's business mix and changes in the tax impact of special items,
which may have unique tax implications.
LIQUIDITY AND CAPITAL RESOURCES
Working capital decreased to $5.3 billion at September 30, 2003, from $5.9
billion at June 30, 2003. This overall decrease in working capital resulted
primarily from a decrease in cash and equivalents of $732.0 million and an
increase in accounts payable of $868.2 million. Partially offsetting the changes
in cash and equivalents and accounts payable was an increase in trade
receivables of $211.7 million, an increase in inventories of $630.4 million, and
a decrease in other accrued liabilities of $112.6 million. The decrease in cash
and equivalents was primarily attributed to the repurchase of Common Shares,
resulting in a total cash outlay of $1.0 billion. The increase in accounts
payable is primarily related to the timing of payments related to the Company's
increase in inventories during the first quarter of fiscal 2004. The increase in
trade receivables was primarily attributed to sales activity in the current
quarter. The increase in inventories was primarily due to continuing increase in
customer demand and normal seasonal inventory buying activities. The decrease in
other accrued liabilities is primarily the result of payouts during the first
quarter of fiscal 2004 related to employee compensation and benefit plans.
Shareholders' equity declined by $635.5 million at September 30, 2003, as
compared to June 30, 2003. Shareholders' equity decreased during the first
quarter of fiscal 2004 primarily due to the repurchase of Common Shares of $1.0
billion and dividends paid of $13.4 million. These decreases were partially
offset by net earnings of $328.6 million and the investment of $45.3 million by
employees of the Company through various employee stock benefit plans.
Page 22
On August 1, 2003, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $1 billion. Pursuant to
this authorization, the Company repurchased approximately 17.0 million Common
Shares having an aggregate cost of approximately $1 billion. The average price
paid per share was $58.65. This repurchase was completed during the first
quarter of fiscal 2004, and the repurchased shares were placed into treasury
shares 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.
RECENT DEVELOPMENTS
For information relating to the Company's proposed acquisition of
Intercare, see Note 10 in the "Notes to Condensed Consolidated Financial
Statements."
Page 23
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company believes that there has been no material change in the
quantitative and qualitative market risks from those discussed in the 2003 Form
10-K.
ITEM 4: CONTROLS AND PROCEDURES
The Company carried out an evaluation, as required by Exchange Act Rule
13a-15(b), under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer, and Executive Vice
President and Chief Financial Officer, of the effectiveness of the design and
operation of the Company's disclosure controls and procedures, as of the end of
the period covered by this report. Based upon that evaluation, the Chief
Executive Officer and the Executive Vice President and Chief Financial Officer
concluded that, as of the end of the period covered by this report, the
Company's disclosure controls and procedures were effective in timely alerting
them to material information relating to the Company (including its consolidated
subsidiaries) required to be included in the Company's periodic SEC filings.
The Company's management, including the Company's Chief Executive Officer
and the Executive Vice President and Chief Financial Officer, does not expect
that the Company's disclosure controls and procedures and its internal controls
will prevent all error and all fraud. A control system, no matter how well
conceived and operated, can provide only reasonable, not absolute, assurance
that the objectives of the control system are met. Further, the design of a
control system must reflect the fact that there are resource constraints, and
the benefits of controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues and instances of fraud, if
any, within the Company have been detected. These inherent limitations include
the realities that judgments in decision-making can be faulty, and that
breakdowns can occur because of simple error or mistake. Additionally, controls
can be circumvented by the individual acts of some persons, by collusion of two
or more people, or by management override of the control. The design of any
system of controls is also based in part upon certain assumptions about the
likelihood of future events, and there can be no assurance that any design will
succeed in achieving its stated goals under all potential future conditions.
Over time, controls may become inadequate because of changes in conditions, or
the degree of compliance with the policies or procedures may deteriorate.
Because of the inherent limitations in a cost-effective control system,
misstatements due to error or fraud may occur and may not be detected. The
Company monitors its disclosure controls and procedures and internal controls on
an ongoing basis and makes modifications as necessary; the Company's intent in
this regard is that the disclosure controls and procedures and the internal
controls will be maintained as dynamic systems that change (including with
improvements and corrections) as conditions warrant.
During the first quarter of the Company's fiscal year ending June 30, 2004,
there have been no changes to internal controls that have materially affected,
or are reasonably likely to materially affect, the Company's financial
reporting.
PART II. OTHER INFORMATION
ITEM 1: LEGAL PROCEEDINGS
The discussion below is limited to an update of material developments that
have occurred in the various judicial proceedings, which are more fully
described in Part I, Item 3, of the 2003 Form 10-K, and are incorporated herein
by reference.
The following disclosure should be read together with the disclosure set
forth in the 2003 Form 10-K, 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 2003 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. health
care distribution business, surgical and respiratory therapy business and health
care 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
Page 24
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 September 30, 2003, there were 149 lawsuits pending 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 833 cases. During the fiscal year ended June 30, 2002,
Allegiance began settling some of these lawsuits with greater frequency. As of
September 30, 2003, Allegiance had resolved more than eighty percent of these
cases. About twenty percent of the lawsuits that have been resolved were
concluded without any liability to Baxter/Allegiance. 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 or results of
operations, and could be in the range of $0 to $20 million, net of insurance
proceeds (with the range reflecting the Company's reasonable estimation of
potential insurance coverage, and defense and indemnity costs). 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 pending in the United
States District Court for the District of Columbia (where it was transferred).
As of September 30, 2003, Scherer has entered into settlement agreements with
the majority of the defendants in consideration of payments of approximately
$140.9 million, net of attorney fees, payments due to other interested parties
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. Doris Staehr v. Robert D.
Walter, et al., No. 02-CVG-11-639. On or about March 21, 2003, after the Company
filed a Motion to Dismiss the complaint, an amended complaint was filed alleging
breach of fiduciary duties and corporate waste in connection with the alleged
failure by the Board of Directors of the Company to (a) renegotiate or terminate
the Company's proposed acquisition of Syncor and (b) determine the propriety of
indemnifying Monty Fu, the former Chairman of Syncor. The Company filed a Motion
to Dismiss the amended complaint and the plaintiffs subsequently filed a second
amended complaint which added three new individual defendants and includes new
allegations that the Company improperly recognized revenue in December 2000 and
September 2001 related to settlements with certain vitamins manufacturers. The
Company has filed a Motion to Dismiss the second amended complaint. The Company
believes the allegations made in the second amended complaint, as with the
original 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 or results of operations. The
Page 25
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
Eleven purported class action lawsuits have 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), Phyllis Walzer v. Syncor Int'l Corp., et al., CV 02-9640 RMT
(AJWx) (C.D. Cal) and Larry Hahn v. Syncor Int'l Corp., et al., CV 03-52 LGB
(RCx) (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 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. A lead plaintiff has been appointed by the court in
the federal securities actions and a consolidated amended complaint was filed
May 19, 2003, naming Syncor and 12 individuals, all former Syncor officers,
directors and employees as defendants. Syncor filed a Motion to Dismiss the
consolidated amended complaint on August 1, 2003.
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 Corporation 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). These cases have been consolidated under the caption "In re: Syncor
International Corp. Shareholders Litigation" (the "consolidated Delaware
action"). On August 14, 2003, the Company filed a Motion to Dismiss the
operative complaint in the consolidated Delaware action. At the end of September
2003, plaintiffs in the consolidated Delaware actions moved the court to file a
second amended complaint. Monty Fu is the only defendant in the proposed second
amended complaint attached to this motion.
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.). An amended
complaint was filed on December 6, 2002 in the Famularo action, purporting to
allege direct claims on behalf of a class of shareholders. The defendants'
motion for a stay of the California actions pending the resolution of the
Delaware actions (discussed above) was granted on April 30, 2003.
Page 26
A proposed class action complaint, captioned Pilkington v. Cardinal
Health, et al, was filed on April 8, 2003, against the Company, Syncor and
certain officers and employees of the Company by a purported participant in the
Syncor Employees' Savings and Stock Ownership Plan (the "Syncor ESSOP"). A
related proposed class action complaint, captioned Donna Brown, et al. v. Syncor
International Corp, et al, was filed on September 11, 2003, against the Company,
Syncor and certain individual defendants. The related suits allege that the
defendants breached certain fiduciary duties owed under the Employee Retirement
Income Security Act ("ERISA"). It is expected that these related suits will be
consolidated. In addition, the United States Department of Labor is conducting
an investigation of the Syncor ESSOP with respect to its compliance with ERISA
requirements. The Company has responded to a subpoena received from the
Department of Labor and intends to fully cooperate in its investigation.
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 these actions will
have a material adverse effect on the Company's financial position, liquidity or
results of operations. The Company and Syncor believe the allegations made in
the complaints described above are without merit and intend to vigorously defend
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 defend such actions. The
Company and Syncor currently believe that a portion of any liability will be
covered by insurance policies that the Company and Syncor have with financially
viable insurance companies, subject to self-insurance retentions, exclusions,
conditions, coverage gaps, policy limits and insurer solvency.
DuPont Litigation
On September 11, 2003, E.I. Du Pont De Nemours and Company ("DuPont") filed
a lawsuit against the Company and others in the United States District Court for
the Middle District of Tennessee. E.I. Du Pont De Nemours and Company v.
Cardinal Health, Inc., BBA Materials Technology and BBA Nonwovens Simpsonville,
Inc., No. 3-03-0848. The complaint alleges various causes of action against the
Company relating to the production and sale of surgical drapes and gowns by the
Company's Medical Products and Services segment. DuPont's claims generally fall
into the categories of breach of contract, false advertising and patent
infringement. The complaint does not request a specific amount of damages. The
Company believes that the claims made in the complaint are without merit and it
intends to vigorously defend this action. Although this action is in its early
stages and it is impossible to accurately predict the outcome of the proceedings
or their impact on the Company, the Company believes that it is owed a defense
and indemnity from its codefendants with respect to DuPont's claim for patent
infringement. 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 or results of operation.
Informal Inquiry by the Securities and Exchange Commission
On October 9, 2003, the Company announced that it had received a request
for information from the Securities and Exchange Commission in connection with
an informal inquiry. The request seeks historical financial and related
information, including information pertaining to the accounting treatment of $22
million recovered from vitamin manufacturers who were found to have overcharged
the Company. The Company intends to cooperate fully and provide all information
required to satisfy the request.
Other Matters
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 or results of operations.
Page 27
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K:
(a) Listing of Exhibits:
Exhibit
Number Exhibit Description
- ------ -------------------
31.01 Certification of Chairman and Chief Executive Officer pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002
31.02 Certification of Executive Vice President and Chief Financial
Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.01 Certification of Chairman and Chief Executive Officer pursuant to 18
U.S.C. Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
32.02 Certification of Executive Vice President and Chief Financial
Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002
99.01 Statement Regarding Forward-Looking Information (1)
- --------------
(1) Included as an exhibit to the Registrant's Annual Report
on Form 10-K filed September 29, 2003 (File No. 1-11373)
and incorporated herein by reference.
(b) Reports on Form 8-K:
None.
Page 28
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.
Date: November 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 29