01—Abstract
Summary
Summary of the 10-K filed February 17, 2009. Cited figures are marked; the original filing is the authoritative source.
Quest Diagnostics (DGX) reported a solid 2008 with net revenues of $7.25 billiona, up 8.1% year over year, and income from continuing operations of $632 million, or $3.23 per diluted share, up from $2.84 in 2007.
Growth was driven by the full-year contribution of the May 2007 AmeriPath acquisition (about 5 points of growth), a 5.5% increase in revenue per requisition, and a cost-reduction program that management says has already delivered over $300 millionb of annualized savings, with a target of $500 million by the end of 2009. Operating margin improved to 16.9% from 16.3%. Net income was $581 million after a $51 million loss from discontinued operations tied to the NID investigation.
The most important overhang for investors is the NID matter, a federal settlement in principle that carries a $316 millionc reserve recorded in discontinued operations, with the final terms and a corporate integrity agreement still pending. Volume pressure is also visible: requisitions rose only 2.7%, with pre-employment drug testing down about 11%, and the company flagged reimbursement pressure from Medicare, health plans, and possible competitive bidding.
Balance sheet deleveraging continued, with total debt down about $876 million since the AmeriPath deal to $3.08 billiond, and free cash flow strengthened as operating cash flow reached $1.06 billion against $213 million of capex. The company also authorized an additional $500 million share repurchase in January 2009.
02—Key points
Key Highlights
- Net revenues rose 8.1% to $7.25 billion in 2008, with AmeriPath contributing about 5.0 points of growth and revenue per requisition up 5.5%.
- Diluted EPS from continuing operations was $3.23, up from $2.84; net income of $581 million was reduced by a $51 million loss from discontinued operations (NID).
- Operating income reached $1.22 billion (16.9% of revenue) versus $1.09 billion (16.3%) in 2007, helped by a cost-reduction program that management says has delivered over $300 million of annualized savings.
- Operating cash flow of $1.06 billion covered capex of $213 million, and total debt fell to $3.08 billion from $3.54 billion, with $876 million of reduction since the May 2007 AmeriPath acquisition.
- A $316 million reserve covers the NID federal investigation; a settlement in principle was reached in Q3 2008 but definitive agreements and a corporate integrity agreement remain pending.
- Requisition volume grew only 2.7% (about 2.4 points from AmeriPath), and pre-employment drug testing volume fell about 11%, signaling softness in employer-driven demand.
- Medicare and Medicaid represent about 18% of net revenues, and the company flagged ongoing reimbursement pressure, potential competitive bidding, and the shift toward Medicare Advantage and capitated health-plan contracts.
03—One dollar
Follow one dollar
Of each $1.00 of revenue in FY2008, Quest Diagnostics Inc kept $0.08.
- Revenue$7.25B100.0%
- Cost of revenue−$4.26B58.7%
- Gross profit$2.99B41.3%
- Operating costs−$1.77B24.4%
- Operating income$1.22B16.9%
- Interest, other & tax−$640.9M8.8%
- Net income$581.5M8.0%
Where FY2008 revenue went
$7.25B- Cost of revenue: $4.26B, 59% of revenue
- SG&A: $1.74B, 24% of revenue
- Net income: $581.5M, 8.0% of revenue
- Interest, other & tax: $640.9M, 8.8% of revenue
Kept 8.0% as net income
Full revenue history →04—Financials
Financial Highlights
Figures from 10-KFY2008filed February 17, 2009Financial Statements
FY2008 against FY2007
| Line item | FY2008FY2007 | Change |
|---|---|---|
| Revenue | $7.25B$6.70B | +8.1% |
| Cost of Revenue | $4.26B$3.97B | +7.2% |
| Gross Profit | $2.99B$2.74B | +9.4% |
| SG&A Expenses | $1.74B$1.61B | +7.7% |
| Operating Expenses | $6.03B$5.61B | +7.4% |
| Operating Income | $1.22B$1.09B | +12.0% |
| Interest Expense | -$185.48M— | — |
| Net Income | $581.49M$339.94M | +71.1% |
| EPS (Basic) | $2.99$1.76 | +69.9% |
| EPS (Diluted) | $2.96$1.74 | +70.1% |
| Shares Outstanding (Basic) | 194.28M— | — |
| Shares Outstanding (Diluted) | 195.96M— | — |
05—Questions
Frequently Asked Questions
How much of the 2008 revenue growth was organic versus acquisition-driven?
Most of the growth was acquisition-related. AmeriPath contributed about 5.0 points of the 8.1% increase in total net revenues, and roughly 2.4 points of the 2.7% volume increase came from AmeriPath. Excluding AmeriPath, underlying volume growth was only about 0.3%, and revenue per requisition growth of 5.5% (about 2.9 points from AmeriPath) was driven largely by positive test mix and was partly offset by price reductions on health plan contracts.
What is the financial exposure from the NID investigation?
The company has established a $316 million reserve, recorded in discontinued operations, reflecting its estimate of probable loss assuming the settlement is finalized. The settlement involves a guilty plea by NID, a former test kit subsidiary closed in 2006, to a single felony misbranding count, along with an expected corporate integrity agreement. The terms and timing are not yet final, and if a settlement is not reached, losses could differ materially from the reserve. The company also recorded a deferred tax benefit of $58 million on the portion of the reserve expected to be deductible.
Is the company's capital allocation shifting toward shareholder returns?
Yes, in 2008 the company repurchased 5.5 million shares for $254 million and paid $78 million in dividends, while holding the quarterly dividend at $0.10 per share ($0.40 annually). In January 2009 the board authorized an additional $500 million of repurchases with no expiration date. Management said it expects to fund the dividend from operating cash flow and does not expect it to materially constrain growth. The company also reduced debt by $459 million net during 2008, so capital allocation is balancing deleveraging with buybacks.
What are the main risks to future reimbursement and volume?
The company identified several risks: government payers (Medicare and Medicaid, about 18% of revenue) continuing to cut or freeze fee schedules; potential competitive bidding for clinical testing; health plans consolidating and moving to capitated or discounted arrangements (capitated contracts were about 5% of revenue and 14% of volume); the rise of point-of-care and home testing that could bypass labs; and the ICD-10 coding transition. In 2007 the company lost its contracted status with UnitedHealthcare, which cut volume by an estimated 7%, illustrating how payer decisions can materially affect results.
What does the company's debt structure look like and when does it come due?
Total debt was $3.08 billion at year-end 2008, with the largest component being a $1.09 billion term loan due May 2012 that carries LIBOR plus 0.50%. Senior notes account for the rest, including tranches due 2010, 2011, 2015, 2017 and 2037. Only about $5 million of debt was scheduled to mature within the following twelve months. The company had $1.3 billion of available borrowing capacity under its revolving and receivables facilities, and it noted that its credit ratings from S&P and Moody's could affect borrowing costs, though not trigger debt repayment.
06—Continue