Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis should be read in conjunction with the interim condensed consolidated financial statements and corresponding notes included elsewhere in this Form 10-Q. Certain percentages presented in this discussion and analysis are calculated from the underlying whole-dollar amounts and, therefore, may not recalculate from the rounded numbers used for disclosure purposes.
On March 1, 2022, we completed the spinoff of our spine and dental businesses into ZimVie. The historical results of our spine and dental businesses have been reflected as discontinued operations in our condensed consolidated financial statements through the date of the spinoff and in the prior year periods. In addition, as of December 31, 2021, the assets and liabilities associated with these businesses are classified as assets and liabilities of discontinued operations in our condensed consolidated balance sheet. See Note 2 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report for additional information. The discussions in the following discussion and analysis are presented on a continuing operations basis.
Executive Level Overview
Impact of the COVID-19 Global Pandemic
Our results continue to be impacted by the COVID-19 global pandemic. The vast majority of our net sales are derived from products used in elective surgical procedures that have typically declined during surges of the virus as governments and healthcare systems take actions in an effort to prevent the spread and provide sufficient hospital beds and other resources for COVID-19 patients. Additionally, we believe that staffing shortages at hospitals have contributed to the deferral of elective surgical procedures. In the nine-month period ended September 30, 2022, the Omicron variant resulted in fewer elective surgical procedures earlier in the year, but then we saw recovery in procedures as the surge began to subside later in the first quarter and through the second quarter. In the third quarter of 2022, we continued to see improved recovery in the number of elective surgical procedures performed.
Results for the Three and Nine-Month Periods ended September 30, 2022
Our net sales decreased by 0.9 percent and increased by 1.3 percent in the three and nine-month periods ended September 30, 2022, respectively, when compared to the same prior year periods. Our net sales in the three and nine-month periods ended September 30, 2022 were tempered by a negative 5.9 percent and a negative 4.7 percent effect, respectively, from changes in foreign currency exchange rates on year-over-year sales. We continued to see the return of elective surgical procedures across most markets when compared to the prior year three-month period being negatively affected by the Delta variant and staffing shortages at hospitals and the prior year nine-month period being negatively affected by a surge of the COVID-19 virus in early 2021 before vaccines were widely available and later in the period by the Delta variant. Our net earnings were $194.0 million and $361.9 million in the three and nine-month periods ended September 30, 2022, respectively, compared to $145.6 million and $485.6 million in the same prior year periods, respectively. The increase in net earnings in the three-month period ended September 30, 2022 when compared to the same prior year period was driven by a decline in litigation-related expenses of $48.8 million in the three-month period ended September 30, 2022 when compared to the same 2021 period, and a tax benefit of approximately $81 million recognized in the 2022 period from a final agreement with Swiss authorities for certain tax years. The decline in net earnings in the nine-month period ended September 30, 2022 when compared to the same prior year period was primarily due to losses from discontinued operations from costs related to the ZimVie spinoff, an unrealized investment loss of $114.3 million due to a decline in the value of our investment in ZimVie, higher restructuring charges, and higher spending in travel, medical training and education and other areas as certain activities started to return to pre-pandemic levels. These favorable factors were partially offset by the fact that the 2021 period included $65.0 million of charges related to certain agreements we entered into to gain access to or acquire third-party in-process research and development (“IPR&D”) projects.
2022 Outlook
In the fourth quarter, we believe that COVID-19 and staffing shortages will continue to negatively affect net sales, but to a lesser degree than what we experienced in 2021 and early 2022. However, we estimate that if foreign currency exchange rates stay at recent levels, net sales in the fourth quarter when compared to the same prior year period will be negatively affected in the mid-single digits. For expenses, we expect that supply chain and inflation pressures will result in higher expenses when compared to 2021. However, we anticipate these higher expenses will be partially offset by savings from our restructuring programs. We continue to monitor for further consequences of continuing uncertainty relating to the Russian invasion of Ukraine, China-Taiwan relations and other adverse global events, any of which could change our outlook.
28
Results of Operations
We review sales by two geographies, the United States and International, and by the following product categories: Knees; Hips; S.E.T. (Sports Medicine, Extremities, Trauma, Craniomaxillofacial and Thoracic); and Other. This sales analysis differs from our reportable operating segments, which are based upon our senior management organizational structure and how we allocate resources toward achieving operating profit goals. We review sales by these geographies because the underlying market trends in any particular geography tend to be similar across product categories, because we primarily sell the same products in all geographies and many of our competitors publicly report in this manner. Our business is seasonal in nature to some extent, as many of our products are used in elective surgical procedures, which typically decline during the summer months and can increase at the end of the year once annual deductibles have been met on health insurance plans. This seasonal pattern was disrupted in 2020 and 2021 due to COVID-19 as our net sales were influenced by the infection levels and precautions taken to prevent the spread in a particular location. We estimate our 2022 results have started to return to pre-pandemic seasonal patterns.
Net Sales by Geography
The following tables present our net sales by geography and the percentage changes (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
|
2022 |
|
|
2021 |
|
|
% Inc / (Dec) |
|
|
United States |
|
$ |
973.0 |
|
|
$ |
942.6 |
|
|
|
3.2 |
|
% |
International |
|
|
696.8 |
|
|
|
742.8 |
|
|
|
(6.2 |
) |
|
Total |
|
$ |
1,669.8 |
|
|
$ |
1,685.4 |
|
|
|
(0.9 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
|
2022 |
|
|
2021 |
|
|
% Inc / (Dec) |
|
|
United States |
|
$ |
2,931.8 |
|
|
$ |
2,835.9 |
|
|
|
3.4 |
|
% |
International |
|
|
2,183.0 |
|
|
|
2,214.2 |
|
|
|
(1.4 |
) |
|
Total |
|
$ |
5,114.8 |
|
|
$ |
5,050.1 |
|
|
|
1.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Sales by Product Category
The following tables present our net sales by product category and the percentage changes (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
|
2022 |
|
|
2021 |
|
|
% Inc / (Dec) |
|
|
Knees |
|
$ |
657.0 |
|
|
$ |
647.9 |
|
|
|
1.4 |
|
% |
Hips |
|
|
468.0 |
|
|
|
453.9 |
|
|
|
3.1 |
|
|
S.E.T. |
|
|
409.4 |
|
|
|
437.6 |
|
|
|
(6.4 |
) |
|
Other |
|
|
135.4 |
|
|
|
146.0 |
|
|
|
(7.2 |
) |
|
Total |
|
$ |
1,669.8 |
|
|
$ |
1,685.4 |
|
|
|
(0.9 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
|
2022 |
|
|
2021 |
|
|
% Inc / (Dec) |
|
|
Knees |
|
$ |
2,024.7 |
|
|
$ |
1,927.8 |
|
|
|
5.0 |
|
% |
Hips |
|
|
1,406.2 |
|
|
|
1,375.4 |
|
|
|
2.2 |
|
|
S.E.T. |
|
|
1,272.6 |
|
|
|
1,317.3 |
|
|
|
(3.4 |
) |
|
Other |
|
|
411.3 |
|
|
|
429.6 |
|
|
|
(4.3 |
) |
|
Total |
|
$ |
5,114.8 |
|
|
$ |
5,050.1 |
|
|
|
1.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
29
The following table presents our net sales by geography for our Knees and Hips product categories, which represent our most significant product categories (dollars in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
|
2022 |
|
|
2021 |
|
|
% Inc / (Dec) |
|
|
|
2022 |
|
|
2021 |
|
|
% Inc |
|
|
Knees |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
$ |
389.7 |
|
|
$ |
363.1 |
|
|
|
7.3 |
|
% |
|
$ |
1,167.6 |
|
|
$ |
1,083.9 |
|
|
|
7.7 |
|
% |
International |
|
|
267.3 |
|
|
|
284.8 |
|
|
|
(6.2 |
) |
|
|
|
857.1 |
|
|
|
843.9 |
|
|
|
1.6 |
|
|
Total |
|
$ |
657.0 |
|
|
$ |
647.9 |
|
|
|
1.4 |
|
|
|
$ |
2,024.7 |
|
|
$ |
1,927.8 |
|
|
|
5.0 |
|
|
Hips |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
United States |
|
$ |
235.6 |
|
|
$ |
223.6 |
|
|
|
5.3 |
|
% |
|
$ |
707.7 |
|
|
$ |
682.3 |
|
|
|
3.7 |
|
% |
International |
|
|
232.4 |
|
|
|
230.3 |
|
|
|
0.9 |
|
|
|
|
698.5 |
|
|
|
693.1 |
|
|
|
0.8 |
|
|
Total |
|
$ |
468.0 |
|
|
$ |
453.9 |
|
|
|
3.1 |
|
|
|
$ |
1,406.2 |
|
|
$ |
1,375.4 |
|
|
|
2.2 |
|
|
Demand (Volume and Mix) Trends
Changes in volume and mix of product sales had positive effects of 6.4 percent and 7.4 percent on year-over-year sales during the three and nine-month periods ended September 30, 2022, respectively. We saw recovery of elective surgical procedures, most notably in international markets, driving volume growth.
Pricing Trends
Global selling prices had negative effects of 1.4 percent on year-over-year sales during both the three and nine-month periods ended September 30, 2022. The majority of countries in which we operate continue to experience pricing pressure from governmental healthcare cost containment efforts and from local hospitals and health systems. Additionally, pricing was negatively affected in China by a nationwide volume-based procurement (“VBP”) process being implemented.
Foreign Currency Exchange Rates
For the three and nine-month periods ended September 30, 2022, changes in foreign currency exchange rates had negative effects of 5.9 percent and 4.7 percent, respectively, on year-over-year sales. If foreign currency exchange rates remain at levels consistent with recent rates, we estimate there will be a negative impact of approximately 5.5 percent on full-year 2022 sales.
Geography
The 3.2 percent and 3.4 percent net sales growth in the U.S. in the three and nine-month periods ended September 30, 2022, respectively, was driven by recovery in surgical procedures as COVID-19 cases subsided, especially in the Knees and Hips categories. Internationally, net sales declined by 6.2 percent and 1.4 percent during the three and nine-month periods ended September 30, 2022, respectively. This decline was driven by the negative impacts on International sales of 13.5 percent and 10.6 percent in the three and nine-month periods ended September 30, 2022, respectively, due to changes in foreign currency exchange rates. Absent the effect of changes in foreign currency exchange rates, most of our markets internationally experienced demand (volume and mix) growth from recovery in surgical procedures.
Product Categories
Knees and Hips net sales grew 1.4 percent and 3.1 percent, respectively, in the three-month period ended September 30, 2022, respectively, when compared to the same prior year period. In the nine-month period ended September 30, 2022, Knees and Hips net sales grew 5.0 percent and 2.2 percent, respectively, when compared to the same prior year period. The net sales increases were due to the recovery in elective surgical procedures and new product introductions. Knees net sales were negatively affected by 5.8 percent and 4.8 percent in the three and nine-month periods ended September 30, 2022, respectively, due to changes in foreign currency exchange rates. Hips net sales were negatively affected by 7.4 percent and 5.7 percent in the three and nine-month periods ended September 30, 2022, respectively, due to changes in foreign currency exchange rates. S.E.T. net sales declines were due to the negative effects of changes in foreign currency exchange rates, lower trauma product net sales partially due to VBP implementation and unfavorable changes in reimbursement for certain restorative therapy products.
30
Expenses as a Percentage of Net Sales
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
September 30, |
|
|
|
% Inc / |
|
|
September 30, |
|
|
% Inc / |
|
|
|
|
2022 |
|
|
|
2021 |
|
|
|
(Dec) |
|
|
2022 |
|
|
2021 |
|
|
(Dec) |
|
|
Cost of products sold, excluding intangible asset amortization |
|
|
29.2 |
|
% |
|
|
29.2 |
|
% |
|
|
- |
|
% |
|
29.3 |
|
% |
|
28.2 |
|
% |
|
1.1 |
|
% |
Intangible asset amortization |
|
|
7.9 |
|
|
|
|
7.8 |
|
|
|
|
0.1 |
|
|
|
7.7 |
|
|
|
7.9 |
|
|
|
(0.2 |
) |
|
Research and development |
|
|
6.1 |
|
|
|
|
5.6 |
|
|
|
|
0.5 |
|
|
|
5.8 |
|
|
|
6.7 |
|
|
|
(0.9 |
) |
|
Selling, general and administrative |
|
|
39.2 |
|
|
|
|
40.6 |
|
|
|
|
(1.4 |
) |
|
|
39.8 |
|
|
|
40.4 |
|
|
|
(0.6 |
) |
|
Intangible asset impairment |
|
|
- |
|
|
|
|
- |
|
|
|
|
- |
|
|
|
0.1 |
|
|
|
0.3 |
|
|
|
(0.2 |
) |
|
Restructuring and other cost reduction initiatives |
|
|
1.7 |
|
|
|
|
1.3 |
|
|
|
|
0.4 |
|
|
|
2.5 |
|
|
|
1.2 |
|
|
|
1.3 |
|
|
Quality remediation |
|
|
0.5 |
|
|
|
|
0.7 |
|
|
|
|
(0.2 |
) |
|
|
0.4 |
|
|
|
0.6 |
|
|
|
(0.2 |
) |
|
Acquisition, integration, divestiture and related |
|
|
0.7 |
|
|
|
|
0.4 |
|
|
|
|
0.3 |
|
|
|
0.2 |
|
|
|
0.2 |
|
|
|
- |
|
|
Operating profit |
|
|
14.7 |
|
|
|
|
14.4 |
|
|
|
|
0.3 |
|
|
|
14.2 |
|
|
|
14.4 |
|
|
|
(0.2 |
) |
|
Cost of products sold as a percentage of net sales was flat for the three-month period ended September 30, 2022 compared to the same prior year period. In the 2022 period, costs of products sold as a percentage of net sales increased due to inflationary cost pressures and lower average selling prices. However, these unfavorable items were partially offset by hedge gains recognized in the current year period as part of our hedging program compared to hedge losses in the prior year period, as well as the fact that the 2021 period experienced lower than normal production at certain facilities which resulted in fixed overhead costs being expensed immediately.
The increase in cost of products sold as a percentage of net sales for the nine-month period ended September 30, 2022 compared to the same prior year period was primarily due to inflationary cost pressures and lower average selling prices. These unfavorable items were partially offset by hedge gains recognized in the current year period as part of our hedging program compared to hedge losses in the prior year period.
Intangible asset amortization expense was similar in both amount and as a percentage of net sales in the three and nine-month periods ended September 30, 2022 when compared to the same prior year periods.
R&D expenses increased in amount and as a percentage of net sales in the three-month period ended September 30, 2022, but decreased in amount and as a percentage of sales in the nine-month period ended September 30, 2022 when compared to the same prior year periods. In the three-month period ended September 30, 2022, the increase was driven by higher personnel-related costs and higher spending on our initial compliance with the European Union Medical Device Regulation. In the nine-month period ended September 30, 2022, the decline was due to certain agreements we entered into in the prior year period to gain access to or acquire third-party IPR&D projects that resulted in charges of $65.0 million. We did not enter into any similar agreements in the current year period.
Selling, general and administrative (“SG&A”) expenses decreased in amount and as a percentage of net sales in the three and nine-month periods ended September 30, 2022 when compared to the same prior year periods. The decline in the three-month period ended September 30, 2022 was a result of a decline in litigation-related expenses of $48.8 million when compared to the 2021 period, and from savings from our 2021 Restructuring Plan.
The decline in the nine-month period ended September 30, 2022 was primarily due to a decline in litigation-related expenses of $23.8 million when compared to the 2021 period, and from savings from our 2021 Restructuring Plan. These favorable factors were partially offset by increased bad debt charges primarily caused by the Russia/Ukraine conflict, and higher travel and medical training and education costs in the 2022 period as some of such activities have resumed as the pandemic has receded.
As a result of the invasion of Ukraine by Russia, economic sanctions and export controls were imposed by much of the world on Russian financial institutions and businesses. Our operations in Russia consist primarily of local commercial activities, including sales and customer support. We do not have direct operations in Ukraine. Our net sales in Russia and Ukraine for the year ended December 31, 2021 and three and nine-month periods ended September 30, 2022 were less than 1 percent of our consolidated net sales. Therefore, the ongoing conflict and economic sanctions are not expected to have a significant effect on our results of operations or financial position. The bad debt charges for expected credit losses in Russia and Ukraine resulted in a significant portion of our accounts receivable from customers in these countries being impaired. In addition to accounts receivable, we also have inventory and
31
instruments that could require impairment if our business in Russia deteriorates more than our current expectations; however, any such amounts are not expected to be material. See Part II, Item 1A “Risk Factors” for additional risks related to this conflict.
In December of 2021 and 2019, we initiated restructuring programs. The December 2021 restructuring program is intended to reorganize our operations due to the spinoff of ZimVie with an objective of reducing costs. The December 2019 restructuring program has an objective of reducing costs to allow us to invest in higher priority growth opportunities. We recognized expenses of $28.3 million and $22.5 million in the three-month periods ended September 30, 2022 and 2021, respectively, and $129.2 million and $62.6 million in the nine-month periods ended September 30, 2022 and 2021, respectively, primarily related to employee termination benefits, sales agent contract terminations, and consulting and project management expenses associated with these programs. The expenses were higher in the 2022 periods due to additional expenses from the December 2021 restructuring program that had just been initiated. For more information regarding these charges, see Note 5 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report.
We continue to incur quality remediation expenses to complete our remediation milestones that address inspectional observations on Form 483 and a Warning Letter issued by the FDA at our Warsaw North Campus facility, among other matters.
Acquisition, integration, divestiture and related increased in the three-month period ended September 30, 2022 and decreased in the nine-month period ended September 30, 2022 when compared to the same prior year periods. The increase in the three-month period ended September 30, 2022 was primarily due to an impairment of a leased asset that was historically utilized by ZimVie, but was assigned back to us post-separation. The decline in the nine-month period ended September 30, 2022 was primarily due to a reduction in contingent consideration liabilities from previous acquisitions.
Other (Expense) Income, Net, Interest Expense, Net, and Income Taxes
In the three-month period ended September 30, 2022 we incurred a loss of $25.4 million in our other (expense) income, net financial statement line item compared to a gain of $0.3 million in the same prior year period. The loss was primarily due to a $30.0 million loss on our investment in ZimVie. In the nine-month period ended September 30, 2022 we incurred a loss of $124.1 million in our other (expense) income, net financial statement line item compared to a gain of $16.0 million in the same prior year period. The loss was primarily due to a $114.3 million loss on our investment in ZimVie.
Interest expense, net, decreased in the three and nine-month periods ended September 30, 2022 when compared to the same prior year periods. The declines were primarily from using debt that we issued in the fourth quarter of 2021, along with cash on hand, to repurchase portions of outstanding notes with higher interest rates. Additionally, interest expense, net was lower due to additional debt paydown.
In the three and nine-month periods ended September 30, 2022, our effective tax rate (“ETR”) was negative 9.3 percent and positive 11.9 percent, respectively, compared to positive 14.8 percent and positive 14.2 percent in the three and nine-month periods ended September 30, 2021, respectively. The negative 9.3 percent and 11.9 percent ETR in the three and nine-month periods ended September 30, 2022, respectively, was primarily driven by a favorable tax audit settlement and finalization of the Swiss TRAF step-up, which was partially offset by the loss on our investment in ZimVie which is not deductible for tax purposes. The 14.8 percent ETR in the three-month period ended September 30, 2021, was primarily driven by the foreign rate differential as our foreign locations have lower tax rates than the U.S. and favorable changes in our return to provision estimates, partially offset by unfavorable tax rate changes. The 14.2 percent ETR in the nine-month period ended September 30, 2021, was the result of the foreign rate differential, favorable return to provision changes in estimate, unfavorable tax rate changes, favorable discrete adjustments from the filing of Swiss tax returns and an excess tax benefit related to stock-based compensation. Absent discrete tax events, we expect our future ETR will be lower than the U.S. corporate income tax rate of 21.0 percent due to our mix of earnings between U.S. and foreign locations, which have lower corporate income tax rates. Our ETR in future periods could also potentially be impacted by: changes in our mix of pre-tax earnings; changes in tax rates, tax laws or their interpretation; the outcome of various federal, state and foreign audits; and the expiration of certain statutes of limitations. Currently, we cannot reasonably estimate the impact of these items on our financial results.
32
Segment Operating Profit
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Profit as a |
|
|
|
|
Net Sales |
|
|
Operating Profit |
|
|
Percentage of Net Sales |
|
|
|
|
Three Months Ended |
|
|
Three Months Ended |
|
|
Three Months Ended |
|
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
(dollars in millions) |
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
|
Americas |
|
$ |
1,045.1 |
|
|
$ |
1,009.3 |
|
|
$ |
430.8 |
|
|
$ |
422.2 |
|
|
|
41.2 |
|
% |
|
41.8 |
|
% |
EMEA |
|
|
319.3 |
|
|
|
354.5 |
|
|
|
80.2 |
|
|
|
86.9 |
|
|
|
25.1 |
|
|
|
24.5 |
|
|
Asia Pacific |
|
|
305.4 |
|
|
|
321.6 |
|
|
|
100.5 |
|
|
|
106.7 |
|
|
|
32.9 |
|
|
|
33.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Profit as a |
|
|
|
|
Net Sales |
|
|
Operating Profit |
|
|
Percentage of Net Sales |
|
|
|
|
Nine Months Ended |
|
|
Nine Months Ended |
|
|
Nine Months Ended |
|
|
|
|
September 30, |
|
|
September 30, |
|
|
September 30, |
|
|
(dollars in millions) |
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
|
2022 |
|
|
2021 |
|
|
Americas |
|
$ |
3,142.1 |
|
|
$ |
3,013.7 |
|
|
$ |
1,309.6 |
|
|
$ |
1,254.7 |
|
|
|
41.7 |
|
% |
|
41.6 |
|
% |
EMEA |
|
|
1,079.1 |
|
|
|
1,065.7 |
|
|
|
284.3 |
|
|
|
261.0 |
|
|
|
26.3 |
|
|
|
24.5 |
|
|
Asia Pacific |
|
|
893.6 |
|
|
|
970.7 |
|
|
|
301.8 |
|
|
|
325.9 |
|
|
|
33.8 |
|
|
|
33.6 |
|
|
Americas
In the Americas, operating profit increased in the three and nine-month periods ended September 30, 2022 when compared to the same prior year periods due to higher net sales driven by continued recovery of elective surgical procedures. In the three-month period ended September 30, 2022, operating profit as a percentage of net sales declined when compared to the same prior year period due to higher R&D costs. In the nine-month period ended September 30, 2022, operating profit as a percentage of net sales increased slightly as savings from our restructuring programs offset higher R&D costs.
EMEA
In EMEA, operating profit declined in the three-month period ended September 30, 2022 when compared to the same prior year period, but increased in the nine-month period ended September 30, 2022 when compared to the same prior year period. Operating profit declined in the 2022 three-month period primarily due to the decline in net sales from changes in foreign currency exchange rates and higher bad debt expense. However, operating profit as a percentage of net sales increased in the 2022 three-month period due to our hedging program as we recognized hedge gains, which minimized the negative effects on segment operating profit. In the 2022 nine-month period operating profit and operating profit as a percentage of net sales increased due to an increase in net sales, savings from our restructuring programs and hedge gains from our hedging programs more than offset higher bad debt, travel and medical training and education expenses.
Asia Pacific
In Asia Pacific, operating profit decreased in both the three and nine-month periods ended September 30, 2022 when compared to the same prior year periods while operating profit as a percentage of net sales changed minimally in the 2022 periods when compared to the same prior year periods. The Asia Pacific declines in operating profit were primarily driven by lower net sales due to changes in foreign currency exchange rates and by the China government implementing a nationwide volume-based procurement process in 2022. These unfavorable factors were partially offset by savings from our restructuring programs and hedge gains from our hedging programs. In addition, in the 2022 nine-month period, China experienced lockdowns in the first quarter that negatively affected net sales.
Liquidity and Capital Resources
As of September 30, 2022, we had $545.4 million in cash and cash equivalents. In addition, we had $1.0 billion available to borrow under our 2022 364-Day Credit Agreement that matures on August 18, 2023, and $1.5 billion available under our 2022 Five-Year Revolving Facility that matures on August 19, 2027. The terms of the 2022 364-Day Credit Agreement and the 2022 Five-Year Revolving Facility are described further in Note 9 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report.
We believe that cash flows from operations, our cash and cash equivalents on hand, and available borrowings under our revolving credit facilities will be sufficient to meet our ongoing liquidity requirements for at least the next twelve months. At this time, we do not anticipate needing to borrow further against our revolving credit facilities to fund our operations. However, due to the continued
33
uncertainties related to the COVID-19 pandemic, it is possible our needs may change. Further, there can be no assurance that, if needed, we will be able to secure additional financing on terms favorable to us, if at all.
Sources of Liquidity
Cash flows provided by operating activities from continuing operations were $1,112.0 million in the nine-month period ended September 30, 2022, compared to $1,066.7 million in the same prior year period. The increase in the 2022 period was driven by lower investments in inventory when compared to the 2021 period as well as the 2021 period included payments related to certain IPR&D agreements. These favorable cash flows were partially offset by increased payments under our restructuring programs in the nine-month period ended September 30, 2022 when compared to the same prior year period.
Cash flows used in investing activities from continuing operations were $409.5 million in the nine-month period ended September 30, 2022, compared to $319.3 million in the same prior year period. Instrument and property, plant and equipment additions reflected ongoing investments in our product portfolio, optimization of our manufacturing and logistics networks and investments in enterprise resource planning software. The nine-month period ended September 30, 2022 also reflects investments for an acquisition as well as other investments for acquiring intellectual property related to products that have been commercialized.
Cash flows used in financing activities from continuing operations were $462.3 million in the nine-month period ended September 30, 2022, compared to $650.2 million in the same prior year period. At the ZimVie spinoff date, we received $540.6 million as partial consideration for the contribution of assets in connection with the separation. We used these proceeds, together with borrowings on our 2021 Five-Year Revolving Facility and cash on hand to redeem the full $750.0 million on senior notes that were due April 1, 2022. We subsequently repaid all borrowings under the 2021 Five-Year Revolving Facility. In the third quarter of 2022, we repaid $242.9 million outstanding on our Japanese term loans, and we borrowed $83.0 million under the Short-Term Term Loan in connection with our plans to transfer our ZimVie shares pursuant to the Forward Exchange Agreement. In the 2021 period, we paid the remaining $500.0 million on senior notes which matured in the period. We also had a deferred business combination payment of $100.0 million that was paid in the 2021 period under the terms of the purchase agreement.
We place our cash and cash equivalents in highly-rated financial institutions and limit the amount of credit exposure to any one entity. We invest only in high-quality financial instruments in accordance with our internal investment policy.
As of September 30, 2022, $292.1 million of our cash and cash equivalents were held in jurisdictions outside of the U.S. Of this amount, $12.6 million is denominated in U.S. Dollars and, therefore, bears no foreign currency translation risk. The balance of these assets is denominated in currencies of the various countries where we operate. We intend to repatriate $5.0 to $6.0 billion of unremitted earnings in future years.
Our concentrations of credit risks with respect to trade accounts receivable are limited due to the large number of customers and their dispersion across a number of geographic areas and by frequent monitoring of the creditworthiness of the customers to whom credit is granted in the normal course of business. Substantially all of our trade receivables are concentrated in the public and private hospital and healthcare industry in the U.S. and internationally or with distributors or dealers who operate in international markets and, accordingly, are exposed to their respective business, economic and country-specific variables. We have continued to collect on outstanding receivables throughout the pandemic. However, we are closely monitoring the financial stability of our customers and the country-specific risks, including those customers in markets with hospitals sponsored by the government.
Material Cash Requirements from Known Contractual and Other Obligations
At September 30, 2022, we had outstanding debt of $5,714.3 million, of which $659.1 million was classified as current debt. Of our current debt, $489.8 million of Euro denominated senior notes mature on December 13, 2022, $86.3 million of senior notes mature on March 19, 2023 and the $83.0 million Short-Term Term Loan is expected to settle in the first quarter of 2023. We believe we can satisfy these debt obligations with cash generated from our operations, by issuing new debt, and/or by borrowing on our revolving credit facilities.
For additional information on our debt, including types of debt, maturity dates, interest rates, debt covenants and available revolving credit facilities, see Note 9 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report.
34
In February, May and August 2022, our Board of Directors declared a quarterly cash dividend of $0.24 per share. We expect to continue paying cash dividends on a quarterly basis; however, future dividends are subject to approval of the Board of Directors and may be adjusted as business needs or market conditions change.
In February 2016, our Board of Directors authorized a new $1.0 billion share repurchase program effective March 1, 2016, with no expiration date. As of September 30, 2022, all $1.0 billion remained authorized.
As discussed in Note 5 to our interim condensed consolidated financial statements in Part I, Item 1 of this report, we have a 2021 Restructuring Plan and a 2019 Restructuring Plan. The 2021 Restructuring Plan is expected to result in total pre-tax restructuring charges of approximately $220 million, of which approximately $125 million was incurred through September 30, 2022. We expect to reduce gross annual pre-tax operating expenses by approximately $190 million relative to the 2021 baseline expenses by the end of 2024 as program benefits under the 2021 Restructuring Plan are realized. The 2019 Restructuring Plan is expected to result in total pre-tax restructuring charges of approximately $350 million to $400 million, of which approximately $240 million was incurred through September 30, 2022. We expect to reduce gross annual pre-tax operating expenses by approximately $180 million to $280 million relative to the 2019 baseline expenses by the end of 2023 as program benefits under the 2019 Restructuring Plan are realized.
As discussed in Note 13 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report, the IRS has issued proposed adjustments for years 2010 through 2012, as well as proposed adjustments for years 2013 through 2015, reallocating profits between certain of our U.S. and foreign subsidiaries. We have disputed these proposed adjustments and intend to continue to vigorously defend our positions. Although the ultimate timing for resolution of the disputed tax issues is uncertain, future payments may be significant to our operating cash flows.
As discussed in Note 16 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report, we are involved in various litigation matters. We estimate the total liabilities for all litigation matters was $373.0 million as of September 30, 2022. However, litigation is inherently uncertain, and upon resolution of any of these uncertainties, we may incur charges in excess of these estimates, and may in the future incur other material judgments or enter into other material settlements of claims. We expect to pay these liabilities over the next few years. Additionally, we have entered into development, distribution and other contractual arrangements that may result in future payments dependent upon various events such as the achievement of certain product R&D milestones, sales milestones, or, at our discretion, maintenance of exclusive rights to distribute a product. Since there is uncertainty on the timing or whether such payments will have to be made, they have not been recognized on our condensed consolidated balance sheets. These estimated payments could range from $0 to approximately $400 million.
Recent Accounting Pronouncements
Information pertaining to recent accounting pronouncements can be found in Note 3 to our interim condensed consolidated financial statements included in Part I, Item 1 of this report.
Critical Accounting Estimates
The preparation of our financial statements is affected by the selection and application of accounting policies and methods, and also requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Critical accounting estimates are those that involve a significant level of estimation uncertainty and have had or are reasonably likely to have a material impact on our financial condition and results of operations. There were no changes in the three-month period ended September 30, 2022 to our critical accounting estimates as described in our Annual Report on Form 10-K for the year ended December 31, 2021.
Cautionary Note Regarding Forward-Looking Statements and Factors That May Affect Future Results
This quarterly report contains certain statements that are forward-looking statements within the meaning of federal securities laws. Forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts. When used in this report, the words “may,” “will,” “can,” “should,” “would,” “could,” “anticipate,” “expect,” “plan,” “seek,” “believe,” “are confident that,” “look forward to,” “predict,” “estimate,” “potential,” “project,” “target,” “forecast,” “see,” “intend,” “design,” “strive,” “strategy,” “future,” “opportunity,” “assume,” “guide,” “position,” “continue” and similar expressions are intended to identify forward-looking statements. Forward-looking statements are based on current beliefs, expectations and assumptions that are subject to significant risks, uncertainties and changes in circumstances that could cause actual results to differ materially from such forward-looking statements. These risks, uncertainties and changes in circumstances include, but are not limited to:
•the effects of the COVID-19 global pandemic and other adverse public health developments on the global economy, our business and operations and the business and operations of our suppliers and customers, including the deferral of elective surgical procedures and our ability to collect accounts receivable, the failure of vaccine rollouts and other strategies to
35
mitigate or reverse the impacts of the COVID-19 pandemic, the emergence of new pandemic variants, and the failure of elective surgical procedures to recover at the levels or on the timeline anticipated;
•the risks and uncertainties related to our ability to successfully execute our restructuring plans;
•our ability to attract, retain and develop the highly skilled employees we need to support our business;
•the success of our quality and operational excellence initiatives, including ongoing quality remediation efforts at our Warsaw North Campus facility;
•the ability to remediate matters identified in inspectional observations or warning letters issued by the FDA, while continuing to satisfy the demand for our products;
•the risks and uncertainties associated with the spinoff of ZimVie Inc., including, without limitation, the tax-free nature of the transaction, the tax-efficient nature of any subsequent disposal of the ZimVie Inc. common stock we retain, possible disruptions in our relationships with customers, suppliers and other business partners, and the possibility that the anticipated benefits and synergies of the transaction, strategic and competitive advantages, and future growth and other opportunities will not be realized within the expected time periods or at all;
•the impact of substantial indebtedness on our ability to service our debt obligations and/or refinance amounts outstanding under our debt obligations at maturity on terms favorable to us, or at all;
•the ability to retain the employees, independent agents and distributors who market our products;
•dependence on a limited number of suppliers for key raw materials and outsourced activities;
•the possibility that the anticipated synergies and other benefits from mergers and acquisitions will not be realized, or will not be realized within the expected time periods;
•the risks and uncertainties related to our ability to successfully integrate the operations, products, employees and distributors of acquired companies;
•the effect of the potential disruption of management’s attention from ongoing business operations due to integration matters related to mergers and acquisitions;
•the effect of mergers and acquisitions on our relationships with customers, suppliers and lenders and on our operating results and businesses generally;
•challenges relating to changes in and compliance with governmental laws and regulations affecting our U.S. and international businesses, including regulations of the FDA and foreign government regulators, such as more stringent requirements for regulatory clearance of products;
•the outcome of government and regulatory investigations;
•changes in customer demand for our products and services caused by demographic changes or other factors;
•the impact of healthcare reform measures;
•reductions in reimbursement levels by third-party payors and other cost containment efforts sponsored by government agencies, legislative bodies, the private sector and healthcare purchasing organizations, including the volume-based procurement in China;
•dependence on new product development, technological advances and innovation;
•shifts in the product category or regional sales mix of our products and services;
•supply and prices of raw materials, especially of titanium and other inputs used in our products;
•control of costs and expenses;
•the ability to obtain and maintain adequate intellectual property protection;
•breaches or failures of our information technology systems or products, including by cyber-attack, unauthorized access or theft;
•the ability to form and implement alliances;
•changes in tax obligations arising from tax reform measures, including European Union rules on state aid, or examinations by tax authorities;
•product liability, intellectual property and commercial litigation losses;
36
•changes in general industry and market conditions, including domestic and international growth rates;
•changes in general domestic and international economic conditions, including interest rate and currency exchange rate fluctuations;
•the domestic and international business impact of political, social and economic instability, tariffs, trade embargoes, sanctions, wars, disputes and other conflicts;
•the effects of inflation, including the effects of different rates of inflation in different countries, on our costs, on the costs of our products and on demand for our products;
•the effects of supply chain disruptions; and
•the impact of the ongoing and potential new financial and political uncertainty relating to the Russian-Ukrainian crisis, or which may emerge from other potential conflicts such as may arise involving China and Taiwan, including on our ability to operate in, export from or collect accounts receivable in affected countries.
Our Annual Report on Form 10-K for the year ended December 31, 2021 and this Quarterly Report on Form 10-Q contain detailed discussions of these and other important factors under the heading “Risk Factors.” You should understand that it is not possible to predict or identify all factors that could cause actual results to differ materially from forward-looking statements. Consequently, you should not consider any list or discussion of such factors to be a complete set of all potential risks or uncertainties.
Forward-looking statements speak only as of the date they are made and we expressly disclaim any obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.
Readers of this report are cautioned not to rely on these forward-looking statements since there can be no assurance that these forward-looking statements will prove to be accurate. This cautionary statement is applicable to all forward-looking statements contained in this report.