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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 March 31, 2005 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 April 30, 2005 was as follows:
Common Shares, without par value: 428,258,980
Page 1
CARDINAL HEALTH, INC. AND SUBSIDIARIES
Index *
Page No.
--------
Part I. Financial Information:
Item 1. Financial Statements:
Condensed Consolidated Statements of Earnings for the Three and Nine Months
Ended March 31, 2005 and 2004 (unaudited).......................................... 3
Condensed Consolidated Balance Sheets at March 31, 2005 and
June 30, 2004 (unaudited).......................................................... 4
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended
March 31, 2005 and 2004 (unaudited)................................................ 5
Notes to Condensed Consolidated Financial Statements............................... 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.............................................................. 32
Item 3. Quantitative and Qualitative Disclosures about Market Risk......................... 41
Item 4. Controls and Procedures............................................................ 41
Part II. Other Information:
Item 1. Legal Proceedings.................................................................. 43
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds........................ 46
Item 5. Other Information.................................................................. 46
Item 6. Exhibits........................................................................... 47
* Items not listed are inapplicable.
Page 2
PART I. FINANCIAL INFORMATION; ITEM 1. FINANCIAL STATEMENTS
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(UNAUDITED)
(IN MILLIONS, EXCEPT PER COMMON SHARE AMOUNTS)
THREE MONTHS ENDED NINE MONTHS ENDED
MARCH 31, MARCH 31,
2005 2004 2005 2004
---------- ---------- ---------- ----------
Revenue $ 19,103.0 $ 16,391.8 $ 55,453.6 $ 48,130.8
Cost of products sold 17,756.2 15,108.4 51,813.8 44,613.6
---------- ---------- ---------- ----------
Gross margin 1,346.8 1,283.4 3,639.8 3,517.2
Selling, general and administrative expenses 703.1 608.9 2,095.8 1,744.5
Impairment charges and other 16.2 (0.6) 103.0 (7.0)
Special items - restructuring charges 25.8 4.9 138.4 25.1
- merger charges 10.4 7.2 37.5 23.6
- other 7.1 (3.8) 2.4 (30.7)
---------- ---------- ---------- ----------
Operating earnings 584.2 666.8 1,262.7 1,761.7
Interest expense and other 40.8 28.2 95.1 82.1
---------- ---------- ---------- ----------
Earnings before income taxes, discontinued operations
and cumulative effect of change in accounting 543.4 638.6 1,167.6 1,679.6
Provision for income taxes 175.8 208.5 378.4 552.4
---------- ---------- ---------- ----------
Earnings from continuing operations before
cumulative effect of change in accounting 367.6 430.1 789.2 1,127.2
Earnings/(loss) from discontinued operations
(net of tax $1.2 and $0.6, respectively, for the
three months ended March 31,2005 and 2004
and $(2.5) and $4.8, respectively, for the nine
months ended March 31, 2005 and 2004) (1.9) (0.8) 3.8 (7.7)
Cumulative effect of change in accounting - - - (38.5)
---------- ---------- ---------- ----------
Net earnings $ 365.7 $ 429.3 $ 793.0 $ 1,081.0
========== ========== ========== ==========
Basic earnings per Common Share:
Continuing operations $ 0.85 $ 1.00 $ 1.83 $ 2.59
Discontinued operations - (0.01) 0.01 (0.02)
Cumulative effect of change in accounting - - - (0.09)
---------- ---------- ---------- ----------
Net basic earnings per Common Share $ 0.85 $ 0.99 $ 1.84 $ 2.48
========== ========== ========== ==========
Diluted earnings per Common Share:
Continuing operations $ 0.84 $ 0.99 $ 1.81 $ 2.56
Discontinued operations - (0.01) 0.01 (0.02)
Cumulative effect of change in accounting - - - (0.09)
---------- ---------- ---------- ----------
Net diluted earnings per Common Share $ 0.84 $ 0.98 $ 1.82 $ 2.45
========== ========== ========== ==========
Weighted average number of Common Shares outstanding:
Basic 431.8 433.4 431.7 435.7
Diluted 437.8 439.0 436.7 441.3
Cash dividends declared per Common Share $ 0.03 $ 0.03 $ 0.09 $ 0.09
See notes to condensed consolidated financial statements.
Page 3
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
(IN MILLIONS)
MARCH 31, JUNE 30,
2005 2004
--------- ---------
ASSETS
Current assets:
Cash and equivalents $ 1,549.5 $ 1,096.0
Trade receivables, net 3,293.0 3,432.7
Current portion of net investment in sales-type leases 215.3 202.1
Inventories 7,771.3 7,471.3
Prepaid expenses and other 871.9 795.4
Assets held for sale from discontinued operations 28.2 60.4
--------- ---------
Total current assets 13,729.2 13,057.9
--------- ---------
Property and equipment, at cost 4,492.9 4,300.1
Accumulated depreciation and amortization (2,120.9) (1,936.1)
--------- ---------
Property and equipment, net 2,372.0 2,364.0
Other assets:
Net investment in sales-type leases, less current portion 640.9 546.0
Goodwill and other intangibles, net 4,998.2 4,938.8
Other 398.2 462.4
--------- ---------
Total $22,138.5 $21,369.1
========= =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Notes payable and other short-term borrowings $ 81.6 $ 5.6
Current portion of long-term obligations 507.0 855.0
Accounts payable 7,613.1 6,432.4
Other accrued liabilities 1,802.7 2,021.3
Liabilities from discontinued operations 44.6 55.1
--------- ---------
Total current liabilities 10,049.0 9,369.4
--------- ---------
Long-term obligations, less current portion 2,303.1 2,834.7
Deferred income taxes and other liabilities 1,112.2 1,188.7
Shareholders' equity:
Preferred Shares, without par value
Authorized - 0.5 million shares, Issued - none - -
Common Shares, without par value
Authorized - 755.0 million shares, Issued - 475.6
million shares and 473.1 million shares, respectively,
at March 31, 2005 and June 30, 2004 2,726.8 2,653.8
Retained earnings 8,642.4 7,888.0
Common Shares in treasury, at cost, 45.7 million shares
and 42.2 million shares, respectively, at
March 31, 2005 and June 30, 2004 (2,768.7) (2,588.1)
Other comprehensive income 95.1 28.9
Other (21.4) (6.3)
--------- ---------
Total shareholders' equity 8,674.2 7,976.3
--------- ---------
Total $22,138.5 $21,369.1
========= =========
See notes to condensed consolidated financial statements.
Page 4
CARDINAL HEALTH, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN MILLIONS)
NINE MONTHS ENDED
MARCH 31,
2005 2004
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Earnings from continuing operations before cumulative effect of
change in accounting $ 789.2 $ 1,127.2
Adjustments to reconcile earnings from continuing operations before
cumulative effect of change in accounting to net cash from operations:
Depreciation and amortization 300.9 220.4
Asset impairments 172.9 5.5
Provision for bad debts 8.6 1.6
Change in operating assets and liabilities, net of effects
from acquisitions:
Decrease/(increase) in trade receivables 143.3 (613.9)
Increase in inventories (301.2) (943.8)
Increase in net investment in sales-type leases (108.1) (65.4)
Increase in accounts payable 1,175.2 1,611.9
Other accrued liabilities and operating items, net (129.9) (8.1)
---------- ----------
Net cash provided by operating activities 2,050.9 1,335.4
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisition of subsidiaries, net of cash acquired (273.2) (561.2)
Proceeds from sale of property, equipment and other assets 18.7 8.3
Additions to property and equipment (288.3) (272.0)
Proceeds from sale of discontinued operations 39.5 5.1
---------- ----------
Net cash used in investing activities (503.3) (819.8)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net change in commercial paper and short-term debt (558.1) (0.9)
Reduction of long-term obligations (1,617.0) (442.8)
Proceeds from long-term obligations, net of issuance costs 1,261.2 86.7
Proceeds from issuance of Common Shares 87.2 144.3
Purchase of treasury shares (228.5) (1,460.3)
Dividends on Common Shares (38.9) (39.4)
---------- ----------
Net cash used in financing activities (1,094.1) (1,712.4)
---------- ----------
NET INCREASE/(DECREASE) IN CASH AND EQUIVALENTS 453.5 (1,196.8)
CASH AND EQUIVALENTS AT BEGINNING OF PERIOD 1,096.0 1,724.0
---------- ----------
CASH AND EQUIVALENTS AT END OF PERIOD $ 1,549.5 $ 527.2
========== ==========
See notes to condensed consolidated financial statements.
Page 5
CARDINAL HEALTH, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. ACCOUNTING INVESTIGATIONS AND RESTATEMENTS
As more fully described in the Form 10-K for the fiscal year ended June
30, 2004 (the "2004 Form 10-K"), in October 2003, the Securities and Exchange
Commission (the "SEC") initiated an informal inquiry regarding Cardinal Health,
Inc. (the "Company"). The SEC's request sought historical financial and related
information including but not limited to the accounting treatment of certain
recoveries from vitamin manufacturers. The SEC's request sought a variety of
documentation, including the Company's accounting records for fiscal 2001
through fiscal 2003, as well as notes, memoranda, presentations, e-mail and
other correspondence, budgets, forecasts and estimates. In connection with the
SEC's informal inquiry, the Audit Committee of the Board of Directors of the
Company commenced its own internal review in April 2004, assisted by independent
counsel. On May 6, 2004, the Company was notified that the SEC had converted the
informal inquiry into a formal investigation. On June 21, 2004, as part of the
SEC's formal investigation, the Company received an additional SEC subpoena that
included a request for the production of documents relating to revenue
classification, and the methods used for such classification, in the Company's
Pharmaceutical Distribution business as either "Operating Revenue" or "Bulk
Deliveries to Customer Warehouses and Other." In addition, the Company learned
that the U.S. Attorney for the Southern District of New York had also commenced
an inquiry with respect to the Company that the Company understands relates to
the revenue classification issue. On October 12, 2004, in connection with the
SEC's formal investigation, the Company received a subpoena from the SEC
requesting the production of documents relating to compensation information for
specific current and former employees and officers. The Company was notified in
April 2005 that certain current and former employees and directors received
subpoenas from the SEC requesting the production of documents. The subject
matter of these requests is consistent with the subject matter of the subpoenas
the Company had previously received from the SEC. The Company continues to
respond to the SEC's investigation and the Audit Committee's internal review and
provide all information required.
During September and October 2004, the Audit Committee reached certain
conclusions with respect to findings from its internal review as of the date of
the determination. These conclusions regarding certain items that impact revenue
and earnings relate to four primary areas of focus: (1) classification of sales
to customer warehouses between "Operating Revenue" and "Bulk Deliveries to
Customer Warehouses and Other" within the Company's Pharmaceutical Distribution
and Provider Services segment; (2) disclosure of the Company's practice, in
certain reporting periods, of accelerating its receipt and recognition of cash
discounts earned from suppliers for prompt payment; (3) timing of revenue
recognition within the Company's former Automation and Information Services
segment; and (4) certain balance sheet reserve and accrual adjustments that had
been identified in the internal review. These conclusions are detailed in the
2004 Form 10-K. The Audit Committee's internal review with respect to the
financial statement impact of the matters reviewed to date is substantially
complete. In connection with these conclusions, the Audit Committee determined
that the financial statements of the Company with respect to fiscal 2000, 2001,
2002 and 2003 as well as the first three quarters of fiscal 2004 should be
restated to reflect the conclusions from its internal review to date. These
restatements were reflected in the 2004 Form 10-K.
Following the conclusions reached by the Audit Committee in September and
October 2004, the Audit Committee began the task of assigning responsibility for
the financial statement matters described above which were reflected in the 2004
Form 10-K and has taken disciplinary actions with respect to the
Company's employees who it determined bore responsibility for these matters,
other than with respect to the accounting treatment of certain recoveries from
vitamin manufacturers for which there is an ongoing separate Board committee
internal review (discussed below). The disciplinary actions ranged from
terminations or resignations of employment to required repayments of some or all
of fiscal 2003 bonuses from certain employees to letters of reprimand. These
disciplinary actions affected senior financial and managerial personnel, as well
as other personnel, at the corporate level and in four business segments. None
of the Company's current corporate executive officers (who are identified at
www.cardinal.com) were the subject of disciplinary action by the Audit
Committee. In connection with the determinations made by the Audit Committee,
Gary S. Jensen, the Company's controller, resigned, which resignation was
effective on February 15, 2005. The Audit Committee has completed its
determinations of responsibility for the financial statement matters described
above which were reflected in the 2004 Form 10-K, with the exception of
conclusions concerning the responsibility for matters relating to the Company's
accounting treatment of certain recoveries from vitamins manufacturers which are
being addressed by a separate committee of the Board.
Page 6
As the Company continues to respond to the SEC's investigation, the U.S.
Attorney's inquiry and the Audit Committee's internal review, there can be no
assurance that additional restatements will not be required, that the historical
financial statements included in the 2004 Form 10-K, the Forms 10-Q for the
periods ended September 30, 2004 and December 31, 2004, or this Form 10-Q will
not change or require amendment, or that additional disciplinary actions will
not be required in such circumstances. In addition, as the SEC's investigation,
the U.S. Attorney's inquiry and the Audit Committee's internal review continue,
the Audit Committee may identify new issues, or make additional findings if it
receives additional information, that may impact the Company's financial
statements and the scope of the restatements described in the 2004 Form 10-K,
the Forms 10-Q for the periods ended September 30, 2004 and December 31, 2004,
and this Form 10-Q.
In connection with the SEC's formal investigation, a committee of the
Board of Directors, with the assistance of independent counsel, is separately
conducting an internal review to assign responsibility for matters relating to
the Company's accounting treatment of certain recoveries from vitamin
manufacturers and this internal review is continuing. In the 2004 Form 10-K, as
part of the Audit Committee's internal review, the Company reversed its previous
recognition of estimated recoveries from vitamin manufacturers for amounts
overcharged in prior years and recognized the income from such recoveries as a
special item in the period cash was received from the manufacturers. The SEC
staff had previously advised the Company that, in its view, the Company did not
have an appropriate basis for recognizing the income in advance of receiving the
cash. The Company is responding to the separate Board committee internal review
and providing all information required.
The conclusions of the Audit Committee's internal review to date with
respect to financial statement matters are set forth in Notes 1 and 2 of "Notes
to the Consolidated Financial Statements" included in the 2004 Form 10-K.
Additional information with respect to the Audit Committee's second, third and
fourth areas of focus described in the second paragraph above, which impact the
reporting periods discussed in this Form 10-Q, is set forth below. There was no
fiscal 2004 impact with respect to the first area of focus.
UNDISCLOSED EARNINGS IMPACT: Disclosure of the Company's Practice, in
Certain Reporting Periods, of Accelerating Its Receipt and Recognition of
Cash Discounts Earned From Suppliers for Prompt Payment
Historically, the Company recognized cash discounts as a reduction of cost
of products sold primarily upon payment of vendor invoices. Cash discounts are
discounts the Company receives from some vendors for timely payment of invoices.
The Company had a practice of accelerating payment of vendor invoices at the end
of certain reporting periods in order to accelerate the recognition of cash
discounts, which had the effect of improving operating results for those
reporting periods. Although the effect of these accelerated payments was
properly included in the Company's reported earnings, the impact of this
acceleration practice was not separately quantified and disclosed in the periods
in which the Company benefited from this practice. The net increase/(decrease)
in net earnings in the first three quarters of fiscal 2004 as a result of this
practice was as follows:
(in millions) Net Earnings
- ------------- ------------
FISCAL 2004
First Quarter $ (0.2)
Second Quarter 3.0
Third Quarter (0.3)
------
First Nine Months $ 2.5
======
For additional information regarding the net increase/(decrease) in net
earnings as a result of this practice for fiscal 2004, 2003 and 2002, see Note 1
of "Notes to Consolidated Financial Statements" in the 2004 Form 10-K.
During the fourth quarter of fiscal 2004, the Company changed its
accounting method for recognizing cash discounts from recognition primarily upon
payment of vendor invoices to recording cash discounts as a component of
inventory cost and recognizing such discounts as a reduction to cost of products
sold upon sale by the Company of the purchased inventory. The Company believes
the change in accounting method provides a more objectively determinable method
of recognizing cash discounts and a better matching of inventory cost to
revenues. This change was made retroactively effective to the beginning of
fiscal 2004. As a result, the Company restated its previously reported fiscal
2004 quarterly results to reflect this change. See Note 13 below for further
discussion of this change in accounting.
Page 7
REVENUE AND EARNINGS IMPACT: Timing of Revenue Recognition Within the
Company's Former Automation and Information Services Segment
Within its former Automation and Information Services segment (which is
now included in the Clinical Technologies and Services segment; see Note 7
below), the Company's revenue recognition policy for equipment systems installed
at a customer's site is to recognize revenue once the Company's installation
obligations are complete and the equipment is functioning according to the
material specifications of the user's manual and the customer has accepted the
equipment as evidenced by signing an equipment confirmation document. As more
fully described in the 2004 Form 10-K, the Company learned of concerns during
the Audit Committee's internal review that some equipment confirmation documents
were being executed prior to the time when installations were complete and
revenue could be recognized. In order to assess the implications of any
premature execution of equipment confirmations and corresponding revenue
recognition, the Audit Committee review included: (a) document and process
reviews, including a sample of equipment confirmation forms; (b) certifications
for selected employees involved in the installation process; (c) interviews of
selected employees across regions within the U.S. and at various levels of the
Company; (d) interviews of certain former employees of the Company; and (e)
interviews of selected customers across all regions within the U.S.
This inquiry indicated some equipment confirmations, particularly in some
sales regions, had been prematurely executed by customers at the request of
certain Company employees, including certain situations where inducements to the
customer (such as deferral of payments) were offered to obtain premature
execution. As a result, it was determined that a material weakness in the
Company's internal controls existed with respect to the timing of revenue
recognition within this segment. The Company concluded the following in
connection with its review of premature revenue recognition:
- Equipment confirmations in the last several weeks of a quarter were
the most likely to be executed early by the customer due to requests
from certain Company employees.
- No evidence was discovered of fictitious sales being recorded by the
Company.
- Revenue was recognized early primarily by one quarter. In most
cases, installations were completed in the following quarter.
- Impact on the Company's financial results was not deemed material
for any individual quarter or annually.
The net impact of this premature revenue recognition was assessed as of
June 30, 2004 based upon interviews of customers representing a substantial
percentage of the segment's end of quarter reported revenue. As a result, it was
determined that approximately 10.8% of revenue in the last 10 days of the fourth
quarter of fiscal 2004 was being recognized prematurely (based upon an
extrapolation). The Company recorded an $8.3 million reduction of revenue and a
$5.3 million reduction of operating earnings during the fourth quarter of fiscal
2004 to adjust for premature revenue recognition that was determined to have
occurred within that quarter. These revenues and operating earnings were
recognized in the first quarter of fiscal 2005 upon completion of the applicable
installation process.
The Company does not maintain accounting records that allow it to
determine the precise impact of this matter on prior quarters. However, during
the investigation there was sufficient data accumulated independent of the
accounting systems to estimate the impact using a variety of methods. These
estimation methods were utilized solely to test the materiality of prior periods
and are not necessarily indicative of what the actual results would have been.
If the results of the June 30, 2004 interviews were applied to all quarters of
fiscal 2004 (i.e., utilizing the 10.8% exception rate) the net increase in
revenue and operating earnings for the first three quarters of fiscal 2004, and
the related percentage of the former Automation and Information Services
segment's reported amounts, would have been as follows:
Operating
($ in millions) Revenue % Change Earnings % Change
- --------------- ------- -------- --------- --------
FISCAL 2004
First Quarter $ 3.7 2.6% $ 2.4 4.5%
Second Quarter 0.1 0.0% - 0.0%
Third Quarter (1.9) (1.1%) (1.2) (1.7%)
----- -----
First Nine Months $ 1.9 0.4% $ 1.2 0.6%
===== =====
For additional information regarding the estimated net increase/(decrease)
in revenue and operating earnings for fiscal 2002 and each previously reported
quarter of fiscal 2003 and 2004, and the related percentage of the former
Automation and Information Services segment's reported amounts, see Note 1 of
"Notes to Consolidated Financial Statements" in the 2004 Form 10-K. Using
different estimation methods than the methodology used to derive the
Page 8
table above, the percentage change in operating earnings for the first, second
and third quarters of fiscal 2004 would be 2.1%, 0.7% and (5.5%), respectively.
The Company believes the impact of the adjustments resulting from the estimation
methods is not material to previously reported results as such estimated
adjustments do not distort trends in revenue and operating earnings growth that
were previously reported and would not alter the Company's previous disclosures
related to the former Automation and Information Services segment.
Given the premature revenue recognition practices identified at June 30,
2004, the Company completed a similar review of the installation process during
the first quarter of fiscal 2005, including interviews with selected customers
representing a substantial percentage of the former Automation and Information
Services segment's end of quarter reported revenue. While the results from the
interviews performed in the first quarter of fiscal 2005 suggested a lower
incidence of premature revenue recognition than at June 30, 2004, the sample of
customers interviewed was more limited than was completed at June 30, 2004. In
addition, the Company's efforts to improve its system of internal controls were
in the early stages. As a result, the Company in conjunction with the Audit
Committee decided to adjust reported revenue utilizing the same error rate,
10.8%, as was utilized at June 30, 2004. Utilizing the same 10.8% assumed error
rate, the Company recorded a $4.2 million reduction in revenue and a $2.5
million reduction in operating earnings during the first quarter of fiscal 2005.
This adjustment is exclusive of the recognition of the $8.3 million in revenue
and $5.3 million of operating earnings in the first quarter of fiscal 2005
described above.
Following the completion of the first quarter of fiscal 2005, the Company
reiterated the revenue recognition policy for equipment systems installed at a
customer's site for its former Automation and Information Services segment, and
instructed all employees to strictly adhere to this policy. The Company
continues to implement corrective actions in response to these findings
regarding its revenue recognition practices within its former Automation and
Information Services segment, as more fully described in Note 1 of "Notes to
Consolidated Financial Statements" in the 2004 Form 10-K and in "Part I, Item 4"
of this Form 10-Q. During the second and third quarters of fiscal 2005, the
Company's internal audit function completed a review of revenue recognition
practices associated with the equipment installation process for its former
Automation and Information Services segment, including interviews with selected
customers and site visits to related customer locations representing a
substantial percentage of the former Automation and Information Services
segment's end of quarter reported revenue. The results of the interviews and
site visits performed by the internal audit function during the second and third
quarters of fiscal 2005 did not indicate any additional occurrences of premature
revenue recognition as described above.
RESTATED EARNINGS: Certain Balance Sheet Reserve and Accrual Adjustments
The Audit Committee's internal review included a review to determine if
period-end adjustments to balance sheet reserve accounts and other accruals
recorded in fiscal 2000 through fiscal 2004 were properly recorded in accordance
with generally accepted accounting principles ("GAAP"). Based upon the Audit
Committee's internal review, the Company determined there were various
situations where (a) the amount of reserve, (b) the timing of reserve
recognition, or (c) the timing of reserve adjustments could not be substantiated
or was in error. As a result, as more fully described in the 2004 Form 10-K, the
financial statements for certain prior fiscal quarters and years have been
restated by the Company.
Some of the types of balance sheet reserves and accrual adjustments that
were restated consist of the following:
1. Errors arising from misapplication of GAAP. These errors primarily
include (a) reductions in reserve accounts made in periods subsequent to
the period in which the excess had been identified by the Company, (b) a
last-in, first-out ("LIFO"), inventory adjustment, and (c) a change in
accounting policy for dividends to recognition when declared versus when
paid. The net impact of these errors on the first three quarters of fiscal
2004 is reflected in the table below.
2. Errors made in previous periods that were identified and appropriately
corrected in a subsequent period when discovered. These items were not
reported as prior period corrections at the time of their discovery
because they were deemed immaterial. At this time, however, the Company
has restated its prior financial statements to correct for such items
identified during the internal review. The net impact of these errors on
the first three quarters of fiscal 2004 is reflected in the table below.
Page 9
The following table summarizes the restatement impact on previously
reported net earnings as defined above for the first three quarters of fiscal
2004:
Misapplication Total
(in millions) of GAAP Errors Restatement
- ------------- -------------- ------ -----------
FISCAL 2004
First Quarter $(0.3) $ (4.5) $ (4.8)
Second Quarter (0.4) (4.5) (4.9)
Third Quarter - (5.7) (5.7)
----- ------ ------
First Nine Months $(0.7) $(14.7) $(15.4)
===== ====== ======
The impact of these restatements on both basic and diluted earnings per
Common Share from continuing operations for the three and nine months ended
March 31, 2004 was a decrease of $0.01 and $0.03, respectively.
For additional information regarding the restatement impact on previously
reported net earnings for fiscal 2004, 2003 and 2002, see Note 1 of "Notes to
Consolidated Financial Statements" in the 2004 Form 10-K.
The SEC investigation, the U.S. Attorney inquiry, the Audit Committee
internal review and the separate Board committee internal review remain ongoing.
While the Company is continuing in its efforts to respond to these inquiries and
provide all information required, the Company cannot predict the outcome of the
SEC investigation, the U.S. Attorney inquiry, the Audit Committee internal
review or the separate Board committee internal review. The outcome of the SEC
investigation, the U.S. Attorney inquiry and any related legal and
administrative proceedings could include the institution of administrative,
civil injunctive or criminal proceedings involving the Company and/or current or
former Company employees, officers and/or directors, as well as the imposition
of fines and other penalties, remedies and sanctions.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION. The condensed consolidated financial statements of
the Company include the accounts of all majority-owned subsidiaries, and all
significant inter-company amounts have been eliminated. Certain
reclassifications have been made to conform prior period amounts to the current
presentation.
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 GAAP for interim reporting. In the opinion of
management, all adjustments necessary for a fair presentation have been
included. Except as disclosed elsewhere in this Form 10-Q, all such adjustments
are of a normal and recurring nature.
Effective the second quarter of fiscal 2005, the Company presented certain
asset impairments and gains and losses from the sale of operating and corporate
assets in "impairment charges and other" as a separate component of operating
earnings on the Company's consolidated statements of earnings. Prior period
financial results were reclassified to conform to this change in presentation.
See Note 11 for additional information regarding "impairment charges and other."
The condensed consolidated financial statements included in this Form 10-Q
should be read in conjunction with the audited consolidated financial statements
and related notes contained in the 2004 Form 10-K. Without limiting the
generality of the foregoing, Note 3 of the "Notes to Consolidated Financial
Statements" from the 2004 Form 10-K is specifically incorporated in this Form
10-Q by reference.
RECENT FINANCIAL ACCOUNTING STANDARDS. In May 2004, the Financial
Accounting Standards Board ("FASB") issued FASB Staff Position Statement of
Financial Accounting Standards ("SFAS") 106-2, "Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug, Improvement and
Modernization Act of 2003." This statement provides guidance on the accounting,
disclosure, effective date and transition requirements related to the Medicare
Prescription Drug, Improvement and Modernization Act of 2003. FASB Staff
Position SFAS 106-2 is effective for interim or annual periods beginning after
June 15, 2004. The adoption of this pronouncement did not have a material impact
on the Company's financial position or results of operations.
Page 10
In November 2004, the FASB issued SFAS No. 151, "Inventory Costs-an
amendment of ARB No. 43, Chapter 4." The statement requires abnormal amounts of
idle capacity and spoilage costs be excluded from the cost of inventory and
expensed when incurred. SFAS No. 151 is applicable to inventory costs incurred
during fiscal years beginning after June 15, 2005. The adoption of this
statement is not expected to have a material impact on the Company's financial
position or results of operations.
In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets-an amendment of APB Opinion No. 29." This statement requires exchanges of
productive assets to be accounted for at fair value, rather than at carryover
basis, unless: (a) neither the asset received nor the asset surrendered has a
fair value that is determinable within reasonable limits: or (b) the
transactions lack commercial substance. SFAS No. 153 is effective for
nonmonetary asset exchanges occurring in fiscal periods beginning after June 15,
2005. The adoption of this statement is not expected to have a material impact
on the Company's financial position or results of operations.
In December 2004, the FASB issued FASB Staff Position SFAS 109-1,
"Application of FASB Statement No. 109, Accounting for Income Taxes, for the Tax
Deduction Provided to U.S.-Based Manufacturers by the American Jobs Creation Act
of 2004." This statement clarifies that the tax deduction for domestic
manufacturers under the American Jobs Creation Act of 2004 should be accounted
for as a special deduction in accordance with FASB Statement No. 109,
"Accounting for Income Taxes." FASB Staff Position SFAS 109-1 was effective upon
issuance. The adoption of this pronouncement did not have a material impact on
the Company's financial position or results of operations.
In December 2004, the FASB issued FASB Staff Position SFAS 109-2,
"Accounting and Disclosure Guidance for the Foreign Earnings Repatriation
Provision within the American Jobs Creation Act of 2004." This statement
provides entities more time to evaluate the impact of the American Jobs Creation
Act of 2004 on the entity's plan for reinvestment or repatriation of certain
foreign earnings for purposes of applying SFAS No. 109, "Accounting for Income
Taxes." FASB Staff Position SFAS 109-2 was effective upon issuance. The Company
is currently evaluating the effect this new act might have on its foreign
reinvestment plans as well as on its worldwide tax position.
In December 2004, the FASB issued SFAS No. 123(R), "Share-Based Payment,"
which revises SFAS No. 123, "Accounting for Stock-Based Compensation." SFAS No.
123(R) supersedes Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees," and amends SFAS No. 95, "Statement
of Cash Flows." This statement requires that a public entity measure the cost of
equity-based service awards based on the grant date fair value of the award. All
share-based payments to employees, including grants of employee stock options,
are required to be recognized in the income statement based on their fair value.
SFAS No. 123(R) is effective for public companies that do not file as small
business issuers as of the beginning of the first annual reporting period after
June 15, 2005. The Company will adopt this statement on July 1, 2005.
SFAS No. 123(R) allows public companies to adopt its requirement using one
of the following transition methods: (a) a "modified prospective" method in
which compensation cost for all share-based payments granted after the effective
date is recognized based on the requirements of SFAS No. 123(R) and compensation
cost for all awards granted to employees prior to the effective date that are
unvested as of the effective date of SFAS No. 123(R) is recognized based on SFAS
No. 123: or (b) a "modified retrospective" method which includes the
requirements of the modified prospective method and also permits entities to
restate prior periods presented or prior interim periods of the year of adoption
based on the amounts previously recognized in its SFAS No. 123 pro forma
disclosures. The Company has not yet determined which transition method it will
adopt.
The Company currently accounts for share-based payments to employees under
APB Opinion No. 25's intrinsic value method. As such, the Company generally does
not recognize compensation cost for stock options granted to employees. The
adoption of SFAS No. 123(R) is expected to have a significant impact on the
Company's results of operations; however, it is not expected to have a material
impact on the Company's overall financial position. The Company cannot determine
the impact of SFAS No. 123(R) at this time as it will depend on share-based
payments granted in the future. However, if the Company had adopted SFAS
No.123(R) in prior periods, the impact would have approximated the impact of
SFAS No. 123 as described below in the "Accounting for Stock-Based Compensation"
disclosure of pro forma net income and earnings per share. SFAS No.123(R) also
requires the benefits of excess tax deductions in excess of recognized
compensation cost be reported as a financing cash flow rather than as operating
cash flow as is currently required. As such, in the periods after adoption, this
requirement of SFAS No. 123(R) will reduce net operating cash flows and increase
net financing cash flow. The Company cannot estimate what the future tax
benefits will be as the amounts depend on, among other items, future employee
stock
Page 11
option exercises. However, the amount of operating cash flows recognized in the
nine months ended March 31, 2005 and 2004 for such excess tax deductions were
$11.2 million and $40.8 million, respectively.
In March 2005, the FASB issued FASB Interpretation No. 47, "Accounting for
Conditional Asset Retirement Obligations." This Interpretation clarifies the
term of conditional asset retirement obligations as used in SFAS No. 143,
"Accounting for Asset Retirement Obligations." This Interpretation is effective
no later than the end of fiscal years ending after December 15, 2005. The
adoption of this Interpretation is not expected to have a material impact on
the Company's financial position or results of operations.
ACCOUNTING FOR STOCK-BASED COMPENSATION. At March 31, 2005, the Company
maintained several stock incentive plans for the benefit of certain employees.
The Company accounts for these plans in accordance with APB Opinion No. 25 and
related interpretations. Except for costs related to restricted shares,
restricted share units and an insignificant number of amended options requiring
a new measurement date, 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 share if the Company had adopted the
fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation":
For the Three Months For the Nine Months
Ended Ended
March 31, March 31,
-------------------- -------------------
(in millions) 2005 2004 2005 2004
- ------------- -------- --------- -------- --------
Net earnings, as reported $ 365.7 $ 429.3 $ 793.0 $1,081.0
Stock-based employee compensation expense
included in net earnings, net of related tax effects 1.5 0.6 4.6 1.5
Total stock-based employee compensation expense
determined under fair value method for all awards,
net of related tax effects (1) (38.8) (24.0) (109.4) (77.3)
-------- -------- -------- --------
Pro forma net earnings $ 328.4 $ 405.9 $ 688.2 $1,005.2
======== ======== ======== ========
For the Three Months For the Nine Months
Ended Ended
March 31, March 31,
-------------------- -------------------
2005 2004 2005 2004
-------- --------- -------- --------
Basic earnings per Common Share:
As reported $ 0.85 $ 0.99 $ 1.84 $ 2.48
Pro forma basic earnings per Common Share $ 0.76 $ 0.94 $ 1.59 $ 2.31
Diluted earnings per Common Share:
As reported $ 0.84 $ 0.98 $ 1.82 $ 2.45
Pro forma diluted earnings per Common Share (2) $ 0.76 $ 0.93 $ 1.59 $ 2.29
(1) The total stock-based employee compensation expense was adjusted to
include gross employee stock purchase plan expense of $3.0 million and
$3.1 million, respectively, for the three months ended March 31, 2005 and
2004 and $8.8 million and $10.4 million, respectively, for the nine months
ended March 31, 2005 and 2004.
(2) The Company uses the treasury stock method when calculating diluted
earnings per Common Share as presented in the table above. Under the
treasury stock method, diluted shares outstanding is adjusted for the
weighted-average unrecognized compensation component should the Company
adopt SFAS No. 123.
Page 12
3. 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, unvested restricted shares and unvested restricted share units,
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 three and nine months ended March 31, 2005 and
2004:
For the Three Months Ended For the Nine Months Ended
March 31, March 31,
-------------------------- -------------------------
(in millions) 2005 2004 2005 2004
- ------------- ---- ---- ---- ----
Weighted-average Common Shares - basic 431.8 433.4 431.7 435.7
Effect of dilutive securities:
Employee stock options, unvested
restricted shares and share units 6.0 5.6 5.0 5.6
----- ----- ----- -----
Weighted-average Common Shares - diluted 437.8 439.0 436.7 441.3
===== ===== ===== =====
The potentially dilutive employee stock options that were antidilutive for
the three months ended March 31, 2005 and 2004 were 27.9 million and 19.2
million, respectively, and for the nine months ended March 31, 2005 and 2004
were 28.3 million and 20.2 million, respectively.
In December 2004, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500.0 million as
management deems appropriate. Pursuant to this authorization, the Company
repurchased approximately 4.2 million Common Shares having an aggregate cost of
approximately $241.9 million during the three months ended March 31, 2005. The
average price paid per Common Share was $57.29. The repurchased shares are held
in treasury to be used for general corporate purposes.
In February 2004, the Company's Board of Directors authorized the
repurchase of Common Shares up to an aggregate amount of $500.0 million.
Pursuant to this authorization, the Company repurchased approximately 6.9
million Common Shares under an accelerated share repurchase program having an
aggregate cost of approximately $460.3 million during the three months ended
March 31, 2004. The average price paid per Common Share was $66.80. The share
repurchase program was completed on May 11, 2004 at which time the Company
settled the forward contract associated with the transaction for $22.5 million
in cash. The resulting final volume weighted average price per share was $70.07.
The repurchased shares are held in treasury to be used for general corporate
purposes.
4. COMPREHENSIVE INCOME
The following is a summary of the Company's comprehensive income for the
three and nine months ended March 31, 2005 and 2004:
Three Months Ended Nine Months Ended
March 31, March 31,
------------------- ------------------
(in millions) 2005 2004 2005 2004
- ------------- -------- -------- -------- --------
Net earnings $ 365.7 $ 429.3 $ 793.0 $1,081.0
Foreign currency translation adjustment (53.9) 26.1 65.2 76.0
Net unrealized gain/(loss) on derivative
instruments (2.3) 3.1 - 3.3
Unrealized gain/(loss) on investment - (0.1) 1.0 (0.3)
-------- -------- -------- --------
Total comprehensive income $ 309.5 $ 458.4 $ 859.2 $1,160.0
======== ======== ======== ========
Page 13
5. SPECIAL ITEMS
The following is a summary of the special items for the three and nine
months ended March 31, 2005 and 2004.
Three Months Ended Nine Months Ended
March 31, March 31,
------------------ ------------------
(in millions, except for Diluted EPS amounts) 2005 2004 2005 2004
- --------------------------------------------- -------- -------- -------- --------
Restructuring costs $ 25.8 $ 4.9 $ 138.4 $ 25.1
Merger-related costs 10.4 7.2 37.5 23.6
Litigation settlements, net - (3.8) (21.2) (30.7)
Other special items 7.1 - 23.6 -
-------- -------- -------- --------
Total special items $ 43.3 $ 8.3 $ 178.3 $ 18.0
Tax effect of special items (1) (14.8) (3.4) (58.7) (7.7)
-------- -------- -------- --------
Net earnings effect of special items $ 28.5 $ 4.9 $ 119.6 $ 10.3
======== ======== ======== ========
Net decrease on Diluted EPS $ 0.06 $ 0.01 $ 0.27 $ 0.02
======== ======== ======== ========
(1) The Company applies varying tax rates to its special items depending upon
the tax jurisdiction where the item was incurred. The overall effective
tax rate varies each period depending upon the unique nature of the
Company's special items and the tax jurisdictions where the items were
incurred.
RESTRUCTURING COSTS
The following table segregates the Company's restructuring costs into the
various reportable segments impacted by the restructuring projects. See the
paragraphs that follow for additional information regarding the Company's
restructuring plans.
Three Months Ended Nine Months Ended
March 31, March 31,
------------------ -----------------
(in millions) 2005 2004 2005 2004
- ------------- ------- ------- ------- -------
Restructuring costs:
Global restructuring program:
Pharmaceutical Distribution and Provider Services $ 5.2 $ - $ 8.6 $ -
Medical Products and Services 4.4 - 23.8 -
Pharmaceutical Technologies and Services 2.3 - 75.3 -
Clinical Technologies and Services - - 0.7 -
Other 11.2 - 19.7 -
Other restructuring programs:
Medical Products and Services 2.3 1.8 5.0 7.1
Pharmaceutical Technologies and Services - 2.2 4.0 15.5
Other 0.4 0.9 1.3 2.5
------- ------- ------- -------
Total restructuring costs $ 25.8 $ 4.9 $ 138.4 $ 25.1
======= ======= ======= =======
GLOBAL RESTRUCTURING PROGRAM. As previously announced, the Company has
launched a global restructuring program with a goal of increasing the value the
Company provides its customers through better integration of existing businesses
and improved efficiency from a more disciplined approach to procurement and
resource allocation. The Company expects the program to be implemented in two
phases over a three-year period. See the Form 8-K filed by the Company on
December 14, 2004 for a description of the costs the Company expects to incur in
connection with the first phase of this global restructuring program ("Phase
I"). The following tables summarize the significant costs recorded within
special items for the three and nine months ended March 31, 2005 in connection
with Phase I, and the year in which the project activities are expected
to be completed, the expected headcount reductions and the actual headcount
reductions to date.
Page 14
Three Months Ended Nine Months Ended
(in millions) March 31, 2005 March 31, 2005
- ------------- ------------------ -----------------
Global restructuring program costs:
Pharmaceutical Distribution and Provider Services
Employee-related costs (1) $ 1.4 $ 2.6
Facility exit and other costs (2) 3.8 6.0
------ ------
Total Pharmaceutical Distribution and Provider Services 5.2 8.6
Medical Products and Services
Employee-related costs (1) 0.5 17.3
Facility exit and other costs (2) 3.9 6.5
------ ------
Total Medical Products and Services 4.4 23.8
Pharmaceutical Technologies and Services
Employee-related costs (1) 1.8 7.0
Asset impairments (3) - 67.5
Facility exit and other costs (2) 0.5 0.8
------ ------
Total Pharmaceutical Technologies and Services 2.3 75.3
Clinical Technologies and Services
Employee-related costs (1) - 0.7
------ ------
Total Clinical Technologies and Services - 0.7
Other
Facility exit and other costs (2) 11.2 19.7
------ ------
Total Other 11.2 19.7
------ ------
Total global restructuring program costs $ 23.1 $128.1
====== ======
(1) Employee-related costs consist primarily of severance accrued upon either
communication of terms to employees or management's commitment to the
restructuring plan when a defined severance plan exists. Outplacement
services provided to employees who have been involuntarily terminated and
duplicate payroll costs during transition periods are also included within
this classification.
(2) Facility exit and other costs consist of accelerated depreciation,
equipment relocation costs, project consulting fees, and costs associated
with restructuring the Company's delivery of information technology
infrastructure services.
(3) Asset impairments were recorded in connection with the Company's plan to
sell two facilities and transfer business from a third facility, as
described in more detail below.
Headcount Reduction
Expected -----------------------------
Fiscal Year of As of
Completion (1) Expected(2) March 31, 2005
-------------- ----------- --------------
Global restructuring program:
Pharmaceutical Distribution and Provider Services 2006 75 70
Medical Products and Services 2008 2,675 240
Pharmaceutical Technologies and Services 2007 810 330
Clinical Technologies and Services 2005 20 15
Other 2006 - -
----- ---
Total global restructuring program 3,580 655
===== ===
(1) Expected fiscal year in which the last project will be completed.
(2) Represents projects that have been initiated as of March 31, 2005.
Page 15
The Company incurred costs of $5.2 million and $8.6 million, respectively,
related to restructuring projects associated with Phase I initiated within the
Pharmaceutical Distribution and Provider Services segment during the three and
nine months ended March 31, 2005. The projects within this segment include the
closing of two distribution centers and consolidating them into existing
locations, the closing of multiple company-owned pharmacies within Medicine
Shoppe International Inc., and the outsourcing of information technology
functions.
The Company incurred costs of $4.4 million and $23.8 million,
respectively, related to restructuring projects associated with Phase I
initiated within the Medical Products and Services segment during the three and
nine months ended March 31, 2005. The projects within this segment include
centralizing of management functions within the distribution business,
transitioning to a customer needs-based sales representative model in the
ambulatory care business, and improvements within the manufacturing business via
consolidation or outsourcing of production from higher cost facilities to lower
cost facilities.
The Company incurred costs of $2.3 million and $75.3 million,
respectively, related to restructuring projects associated with Phase I
initiated within the Pharmaceutical Technologies and Services segment during the
three and nine months ended March 31, 2005. The projects within this segment
include planned reductions of headcount within existing operations and
consolidation of overlapping operations. The costs for the nine months ended
March 31, 2005 also include $67.5 million of asset impairment charges. Of the
$67.5 million in asset impairments, the Company incurred costs of approximately
$67.2 million during the nine months ended March 31, 2005 related to its plan to
sell two facilities and transfer business from a third facility. The Company
plans to sell a portion of the businesses housed in the two facilities to be
sold and transfer the remaining portion of the businesses to other existing
Company facilities. The Company expects to complete the sales no later than
December 2005. The carrying amount of the asset groups being sold is $64.6
million, which includes $15.4 million of goodwill allocated in accordance with
SFAS No. 142, "Goodwill and Other Intangible Assets." As the Company determined
that the plan of sale criteria in SFAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets," had been met during the second quarter of
fiscal 2005, the carrying value of the asset groups being sold was adjusted to
$22.0 million, the estimated fair market values less costs to sell. As a result,
the Company recognized asset impairment charges of $42.6 million associated with
the two businesses during the second quarter of fiscal 2005. The Company also
committed to a plan to transfer production from one of its Pharmaceutical
Technologies and Services facilities to another existing Company facility in the
second quarter of fiscal 2005. Production is expected to continue at the
facility through fiscal 2007. The Company recorded an asset impairment of $24.6
million in the second quarter of fiscal 2005 based on an analysis of discounted
cash flows in accordance with SFAS No. 144.
The Company incurred costs of $0.7 million related to a restructuring
project associated with Phase I initiated within the Clinical Technologies and
Services segment during the nine months ended March 31, 2005. The costs were
incurred in connection with a planned headcount reduction.
During the three and nine months ended March 31, 2005, the Company
incurred costs of $11.2 million and $19.7 million, respectively, related to
restructuring projects associated with Phase I that impacted multiple segments.
These costs related primarily to project consulting fees incurred as a result of
design and implementation of the Company's overall restructuring plan and
restructuring the Company's delivery of information technology infrastructure
services.
OTHER RESTRUCTURING PROGRAMS. Separate from the global restructuring
program discussed above, during the three and nine months ended March 31, 2005,
the Company incurred costs of $2.3 million and $5.0 million, respectively, to
restructure operations (both domestically and internationally) within the
Medical Products and Services segment, as compared to $1.8 million and $7.1
million, respectively, in the same periods of 2004. The Company incurred costs
of $4.0 million during the nine months ended March 31, 2005 as compared to $2.2
million and $15.5 million, respectively, for the three and nine months ended
March 31, 2004 to restructure operations (both domestically and internationally)
within the Pharmaceutical Technologies and Services segment. Included in these
costs for the three and nine months ended March 31, 2004, respectively, were
$1.3 million and $12.2 million in asset impairments related to the Company's
decision to exit certain North American commodity operations within the
Pharmaceutical Technologies and Services segment. The restructuring plans within
both segments focused on various aspects of operations, including closing and
consolidating certain manufacturing operations, rationalizing headcount both
domestically and internationally, and aligning operations in the most strategic
and cost-efficient structure.
In connection with implementing these restructuring plans, the Company
incurred costs that included, but were not limited to, the following: (a)
employee-related costs, the majority of which represents severance accrued upon
either communication of terms to employees or management's commitment to the
restructuring plan when a defined severance plan exists; and (b) exit costs,
including asset impairment charges, costs incurred to relocate physical
Page 16
assets and project management costs. The earliest of these restructuring plans
was initiated during fiscal 2001, with others being implemented throughout
fiscal 2002, 2003 and 2004. Some of these restructuring plans were completed
during fiscal 2003 and 2004, while other plans will be completed throughout
fiscal 2005. Overall, these restructuring plans within the Medical Products and
Services segment will result in the termination of approximately 2,200
employees, of whom approximately 2,125 had been terminated as of March 31, 2005.
The restructuring plans within the Pharmaceutical Technologies and Services
segment overall have resulted in the termination of approximately 1,000
employees, all of whom were terminated as of March 31, 2005.
During the three and nine months ended March 31, 2005 the Company incurred
costs of $0.4 million and $1.3 million, respectively, as compared to $0.9
million and $2.5 million, respectively, from the comparable periods of 2004
related to restructuring plans that impacted more than one segment. The costs
incurred in fiscal 2005 relate to a plan to restructure the Company's delivery
of information technology infrastructure services and restructuring activity
within the Clinical Technologies and Services segment. The costs incurred in
2004 related to the plan to restructure the Company's delivery of information
technology infrastructure services. The information technology infrastructure
restructuring plan resulted in the termination of approximately 20 employees,
all of whom were terminated as of March 31, 2005.
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 three and nine months ended March 31, 2005 were primarily
a result of the acquisitions of ALARIS Medical Systems, Inc. (which has been
given the legal designation of Cardinal Health 303, Inc. and is referred to in
this Form 10-Q as "Alaris") and Syncor International Corporation (which has been
given the legal designation of Cardinal Health 414, Inc. and is referred to in
this Form 10-Q as "Syncor"). The merger-related costs recognized during the
three and nine months ended March 31, 2004 were primarily a result of the Syncor
acquisition. The following table and paragraphs provide additional detail
regarding the types of merger-related costs incurred by the Company.
Three Months Ended Nine Months Ended
March 31, March 31,
------------------ -----------------
(in millions) 2005 2004 2005 2004
- ------------- ------ ------ ------ ------
Merger-related costs:
Employee-related costs $ 4.6 $ 1.4 $ 13.6 $ 8.5
Asset impairments and other exit costs 0.9 0.4 1.5 0.9
Debt issuance cost write-off - - 8.8 -
Integration costs and other 4.9 5.4 13.6 14.2
------ ------ ------ ------
Total merger-related costs $ 10.4 $ 7.2 $ 37.5 $ 23.6
====== ====== ====== ======
EMPLOYEE-RELATED COSTS. During the periods shown in the table above, the
Company incurred employee-related costs associated with certain merger and
acquisition transactions. For the three and nine months ended March 31, 2005,
the Company incurred employee-related costs of $4.6 million and $13.6 million,
respectively. The costs incurred in the three and nine months ended March 31,
2005 consisted primarily of severance and retention bonuses accrued over the
service period as a result of the Alaris and Syncor acquisitions. For the three
and nine months ended March 31, 2004, the employee-related costs of $1.4 million
and $8.5 million, respectively, consisted primarily of severance and retention
bonuses paid as a result of the Syncor acquisition.
ASSET IMPAIRMENTS AND OTHER EXIT COSTS. During the three and nine months
ended March 31, 2005, the Company incurred asset impairments and other exit
costs of $0.9 million and $1.5 million, respectively, as compared to $0.4
million and $0.9 million, respectively, during the comparable periods in 2004.
The asset impairment costs incurred during the three months ended March 31, 2005
related primarily to fixed asset disposals as a result of the Alaris
acquisition. The asset impairment costs for the nine months ended March 31, 2005
related primarily to fixed asset disposals as a result of the Alaris acquisition
and facility closures associated with the Syncor acquisition. The asset
impairment costs incurred during the three and nine months ended March 31, 2004
related 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 three and nine months ended March 31, 2004.
DEBT ISSUANCE COST WRITE-OFF. During the nine months ended March 31, 2005,
the Company incurred charges of $8.8 million related to the write-off of debt
issuance costs and other debt tender offer costs related to the Company's
Page 17
decision to retire certain Alaris debt instruments that carried higher interest
rates than the Company's cost of debt. As a result, the Company retired such
debt instruments in advance of their original maturity dates.
INTEGRATION COSTS AND OTHER. The Company incurred integration and other
costs during the three and nine months ended March 31, 2005 of $4.9 million and
$13.6 million, respectively, as compared to $5.4 million and $14.2 million,
respectively, during the comparable periods in 2004. 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. These costs include, but are not limited to, the
integration of information systems, employee benefits and compensation,
accounting/finance, tax, treasury, internal audit, risk management, compliance,
administrative services, sales and marketing and others. These costs were offset
during the nine months ended March 31, 2004 by income of approximately $3.0
million related to two foreign currency hedges purchased in connection with the
acquisition of The Intercare Group, plc (which has been given the legal
designation of Cardinal Health U.K. 432 Limited and is referred to in this Form
10-Q as "Intercare") in December 2003. The Company paid premiums of
approximately $1.1 million to purchase two hedges protecting against foreign
currency fluctuations associated with the Intercare purchase price. These hedges
settled during the nine months ended March 31, 2004, and resulted in a gain for
the Company of approximately $4.1 million.
LITIGATION SETTLEMENTS, NET
The following table summarizes the Company's net litigation settlements
during the three and nine months ended March 31, 2005 and 2004.
Three Months Ended Nine Months Ended
March 31, March 31,
------------------- -----------------
(in millions) 2005 2004 2005 2004
- ------------- -------- ----- -------- ------
Litigation settlements, net:
Vitamin litigation $ - (3.8) $ (0.6) (6.5)
Pharmaceutical manufacturer antitrust litigation - - (20.6) (24.2)
-------- ---- ------- -----
Total litigation settlements, net $ - (3.8) $ (21.2) (30.7)
======== ==== ======= =====
VITAMIN LITIGATION. During the nine months ended March 31, 2005 the
Company recorded income of $0.6 million resulting from the recovery of antitrust
claims against certain vitamin manufacturers for amounts overcharged in prior
years. During the three and nine months ended March 31, 2004, the Company
recorded income of $3.8 million and $6.5 million, respectively, resulting from
the recovery of such claims. The total recovery of such claims through March 31,
2005 was $145.3 million (net of attorney fees, payments due to other interested
parties and expenses withheld). The defendants have settled all claims with the
Company related to this litigation.
PHARMACEUTICAL MANUFACTURER ANTITRUST LITIGATION. During the nine months
ended March 31, 2005, the Company recorded income of $20.6 million, as compared
to income of $24.2 million for the comparable period ending March 31, 2004,
related to settlement of pharmaceutical manufacturer antitrust claims alleging
certain prescription drug manufacturers took improper actions to delay or
prevent generic drug competition. The total recovery of such claims through
March 31, 2005 was $76.5 million (net of attorney fees, payments due to other
interested parties and expenses withheld).
OTHER SPECIAL ITEMS
During the three and nine months ended March 31, 2005 the Company incurred
costs recorded within other special items totaling $7.1 million and $23.6
million, respectively. These costs primarily relate to legal fees and document
preservation and production costs incurred in connection with the SEC
investigation and the Audit Committee internal review and related matters. For
further information regarding these matters, see Note 1.
Page 18
SPECIAL ITEMS ACCRUAL ROLLFORWARD
The following table summarizes activity related to the liabilities
associated with the Company's special items during the nine months ended March
31, 2005.
Nine Months Ended
(in millions) March 31, 2005
- ------------- -----------------
Balance at June 30, 2004 $ 39.9
Additions (1) 199.5
Payments (175.6)
-------
Balance at March 31, 2005 $ 63.8
=======
(1) Amount represents items that have been either expensed as incurred or
accrued according to GAAP. These amounts do not include gross litigation
settlement income of $21.2 million recorded as a special item during the
nine months ended March 31, 2005.
PURCHASE ACCOUNTING ACCRUALS
In connection with restructuring and integration plans related to the
Intercare acquisition, the Company accrued, as part of its acquisition
adjustments, a liability of $10.4 million related to employee termination and
relocation costs and $11.0 million related to the closing of certain facilities.
As of March 31, 2005, the Company had paid $2.7 million of employee-related
costs. No payments were made associated with the facility closures.
In connection with restructuring and integration plans related to Syncor,
the Company accrued, as part of its acquisition adjustments, a liability of
$15.1 million related to employee termination and relocation costs and $10.4
million related to closing of duplicate facilities. As of March 31, 2005, the
Company had paid $13.6 million of employee related costs, $3.0 million
associated with the facility closures and $0.8 million of other restructuring
costs.
SUMMARY OF ESTIMATED FUTURE COSTS
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 if recorded amounts exceed costs, such changes
in estimates will be recorded as special items when incurred.
The Company estimates it will incur additional costs in future periods
associated with various mergers, acquisitions and restructuring activities
totaling approximately $196.1 million (approximately $128 million net of tax).
These estimated costs are primarily associated with the first phase of the
Company's previously-announced global restructuring program and the Alaris
acquisition. The Company believes it will incur these costs to properly
restructure, integrate and rationalize operations, a portion of which represent
facility rationalizations and implementing efficiencies regarding information
systems, customer systems, marketing programs and administrative functions,
among other things. Such amounts will be expensed as special items when
incurred.
6. NOTES PAYABLE AND LONG-TERM OBLIGATIONS
The Company has two unsecured $750 million bank revolving credit
facilities, which provide for an aggregate amount of $1.5 billion in borrowings.
One of these facilities expires on March 24, 2008, and the other expires on
March 23, 2009. At expiration, these revolving credit facilities can be extended
upon mutual consent of the Company and the lending institutions. These revolving
credit facilities exist largely to support issuances of commercial paper as well
as other short-term borrowings. During the first quarter of fiscal 2005, the
Company borrowed $500 million in aggregate on the revolving credit facilities.
The proceeds of this borrowing were utilized to repay a portion of the Company's
commercial paper and for general corporate purposes, including the establishment
of pharmaceutical inventory at the Pharmaceutical Distribution business'
National Logistics Center in Groveport, Ohio. During the second quarter of
fiscal 2005, the Company borrowed an additional $750 million in the aggregate on
the revolving credit facilities, with the proceeds being utilized primarily for
the establishment of the National Logistics Center. During the second quarter of
fiscal 2005, the Company repaid in full its $1.25 billion in borrowings in the
aggregate under the revolving credit facilities due to stabilization in its
short-term liquidity requirements in light of, among other things, the Company
having substantially completed the initial establishment of inventory for the
National Logistics Center. Also outstanding under these facilities at March 31,
2005 were $46.4 million of standby letters of credit issued on behalf of the
Company.
Page 19
For additional information regarding notes payable and long-term
obligations, see Note 6 of "Notes to Consolidated Financial Statements" in the
2004 Form 10-K.
7. 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 Clinical Technologies and
Services (formed during the first quarter of fiscal 2005). Clinical Technologies
and Services includes Alaris, the Company's businesses formerly within the
Automation and Information Services segment and the Company's Clinical Services
and Consulting business, which was formerly reported under the Pharmaceutical
Distribution and Provider Services segment. In June 2004, the Company acquired
approximately 98.7% of Alaris' outstanding common stock, and in July 2004,
Alaris merged with a subsidiary of the Company to complete the transaction. Also
during the first quarter of fiscal 2005, the Company transferred its Specialty
Pharmaceutical Distribution business, previously included within the
Pharmaceutical Distribution and Provider Services segment, to the Medical
Products and Services segment. These transfers were effected to better align
business operations with the current management and reporting structure. Prior
period financial results were adjusted to reflect these changes.
The Pharmaceutical Distribution and Provider Services segment distributes
a broad line of pharmaceuticals, health care products and other items typically
sold by hospitals, retail drug stores and other health care providers. Through
the acquisition of Intercare, this segment also operates a distribution network
within the United Kingdom offering a specialized range of branded and generic
pharmaceutical products. This segment also provides support services
complementing its distribution activities. In addition, this segment operates
and franchises apothecary-style retail pharmacies.
The Medical Products and Services segment manufactures medical, surgical
and laboratory products and distributes these self-manufactured products as well
as products manufactured by other suppliers to hospitals, physician offices,
surgery centers and other health care providers. In addition, the segment
distributes oncology, therapeutic plasma and other specialty pharmaceutical and
biotechnology products to hospitals, clinics and other managed-care facilities.
The Pharmaceutical Technologies and Services segment provides products and
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. This segment also provides comprehensive packaging,
radiopharmaceutical manufacturing, pharmaceutical development and analytical
science expertise and scientific and regulatory consulting, as well as medical
education, marketing and contract sales services. It also manufactures and
markets generic injectible pharmaceutical products for sale to hospitals in the
United Kingdom and provides manufacturing services for oral potent drugs and
sterile dose forms in Europe.
The Clinical Technologies and Services segment provides products and
services to hospitals and other health care providers that focus on patient
safety. This segment designs, develops and markets intravenous medication safety
and infusion therapy delivery systems and develops, manufactures, leases, sells
and services point-of-use systems that automate the distribution and management
of medications and supplies in hospitals and other health care facilities. In
addition, this segment provides services to the health care industry through
integrated pharmacy management, temporary pharmacy staffing and the gathering
and recording of clinical information for review, analysis and interpretation.
The Company evaluates the performance of the segments based on operating
earnings after the corporate allocation of certain administrative expenses.
Information about interest income and expense and income taxes is not provided
on a segment level. In addition, special items and impairment charges are not
allocated to the segments. See Note 5 above for further discussion of the
Company's special items and Note 11 below for additional information regarding
impairment charges. The accounting policies of the segments are the same as
those described in the summary of significant accounting policies.
Page 20
The following tables include revenue and operating earnings for the three
and nine months ended March 31, 2005 and 2004 for each segment and reconciling
items necessary to agree to amounts reported in the condensed consolidated
financial statements:
For the Three Months Ended For the Nine Months Ended
March 31, March 31,
-------------------------- -------------------------
(in millions) 2005 2004 2005 2004
- ------------- --------- --------- --------- --------
Revenue:
Pharmaceutical Distribution and Provider Services $15,607.6 $13,176.7 $45,068.0 $38,768.6
Medical Products and Services 2,472.6 2,303.8 7,292.5 6,738.4
Pharmaceutical Technologies and Services (1) 728.5 709.8 2,193.9 2,064.3
Clinical Technologies and Services (2) (3) 522.4 395.1 1,593.3 1,126.3
Corporate (4) (228.1) (193.6) (694.1) (566.8)
--------- --------- --------- ---------
Total revenue $19,103.0 $16,391.8 $55,453.6 $48,130.8
========= ========= ========= =========
For the Three Months Ended For the Nine Months Ended
March 31, March 31,
-------------------------- -------------------------
(in millions) 2005 2004 2005 2004
- ------------- -------- -------- -------- --------
Operating earnings:
Pharmaceutical Distribution and Provider Services $ 344.1 $ 319.8 $ 720.8 $ 784.5
Medical Products and Services 199.5 193.1 507.7 524.0
Pharmaceutical Technologies and Services (1) 82.4 113.9 252.1 333.7
Clinical Technologies and Services (2) (3) 65.3 86.5 187.2 250.0
Corporate (5) (107.1) (46.5) (405.1) (130.5)
-------- -------- -------- --------
Total operating earnings $ 584.2 $ 666.8 $1,262.7 $1,761.7
======== ======== ======== ========
The following table includes total assets at March 31, 2005 and June 30,
2004 for each segment as well as reconciling items necessary to total the
amounts reported in the condensed consolidated financial statements:
At March 31, At June 30,
(in millions) 2005 2004
- ------------- ------------ -----------
Assets:
Pharmaceutical Distribution and Provider Services $ 9,489.5 $ 8,512.2
Medical Products and Services 4,064.2 3,829.6
Pharmaceutical Technologies and Services 4,353.8 4,389.3
Clinical Technologies and Services 3,670.5 3,647.7
Corporate (6) 560.5 990.3
---------- ----------
Total assets $ 22,138.5 $ 21,369.1
========== ==========
(1) Effective the first quarter of fiscal 2005, the Pharmaceutical
Technologies and Services segment changed its basis for measuring the
impact of translating foreign subsidiaries' operating results into U.S.
dollars. Historically since 2000, this segment's revenues and operating
earnings were not impacted by foreign exchange fluctuations as the Company
applied constant exchange rates to translate its foreign operating results
into U.S. dollars and recorded the actual impact of foreign exchange rate
changes within the Corporate segment. The impact of foreign exchange rate
allocations on the Pharmaceutical Technologies and Services segment's
revenue for the three and nine months ended March 31, 2004 was a negative
$7.6 million and a positive $8.9 million, respectively. The positive
impact on operating earnings for the three and nine months ended March 31,
2004 was $0.8 million and $9.0 million, respectively.
(2) Effective the first quarter of fiscal 2005, the Pyxis products business
did not receive an allocation adjustment from Corporate for the estimated
interest income related to the sale of certain lease portfolios. In fiscal
2004, the Pyxis products business sold portions of its leased asset
portfolio, and the proceeds were transferred to Corporate for general
corporate purposes. The Pyxis products business received an allocation
from Corporate in fiscal 2004 related to the estimated interest income
that would have been earned had the associated lease portfolios not been
sold. The positive impact of estimated interest income related to the
Page 21
sale of portions of the lease portfolios on both the Pyxis products
business' revenue and operating earnings for the three and nine months
ended March 31, 2004 was $6.0 million and $15.3 million, respectively.
(3) As discussed above, the Clinical Technologies and Services segment was
formed during the first quarter of fiscal 2005 and includes Alaris, the
Company's businesses formerly within the Automation and Information
Services segment and the Company's Clinical Services and Consulting
business, which was formerly reported under the Pharmaceutical
Distribution and Provider Services segment. The prior period financial
results have been adjusted to reflect these changes.
(4) Corporate revenue primarily consists of the elimination of intersegment
revenues.
(5) Corporate operating earnings include special items of $43.3 million and
$8.3 million, respectively, in the three-month periods ended March 31,
2005 and 2004, and $178.3 million and $18.0 million, respectively, for the
nine-month periods ended March 31, 2005 and 2004. See Note 5 for further
discussion of the Company's special items. In addition, corporate
operating earnings include $16.2 million and $103.0 million, respectively,
of operating asset impairments and gains and losses from the sale of
operating and corporate assets during the three and nine months ended
March 31, 2005. In the comparable periods of 2004, corporate operating
earnings include gains of approximately $0.6 million and $7.0 million,
respectively. See Note 11 for further discussion of the Company's
impairment charges. Corporate operating earnings also include unallocated
corporate administrative expenses and investment spending.
(6) The Corporate assets primarily include cash and cash equivalents,
Corporate net property and equipment and unallocated deferred taxes.
8. COMMITMENTS AND CONTINGENT LIABILITIES
Latex Litigation
On September 30, 1996, Baxter International Inc. ("Baxter") and its
subsidiaries transferred to Allegiance Corporation and its subsidiaries
("Allegiance"), Baxter's U.S. health care distribution business, surgical and
respiratory therapy business and health care cost-management business, as well
as certain foreign operations (the "Allegiance Business") in connection with a
spin-off of the Allegiance Business by Baxter. In connection with this spin-off,
Allegiance Corporation, which merged with a subsidiary of the Company on
February 3, 1999, agreed to indemnify Baxter, and to defend and indemnify Baxter
Healthcare Corporation, as contemplated by the agreements between Baxter and
Allegiance Corporation, 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.
Since the inception of this litigation, Baxter/Allegiance have been sued
by 872 plaintiffs in 834 lawsuits (excluding derivative claims filed by family
members). During fiscal 2002, Allegiance began settling some of these lawsuits
with greater frequency. As of March 31, 2005, Allegiance had resolved nearly all
of these cases and had only 16 cases remaining. About 20% of the lawsuits that
have been resolved were concluded without any liability to Baxter/Allegiance. Of
all the cases Allegiance has agreed to settle with the plaintiffs, the
settlement amounts have averaged approximately $42,000 per case, for an
aggregate amount of approximately $28 million. Allegiance believes it is
probable that it will incur additional legal fees related to the resolution of
the remaining cases.
During the first quarter of fiscal 2005, the Company reassessed its
ability to estimate the potential cost to settle these lawsuits. Following this
reassessment, the Company concluded that it was in a position to reasonably
estimate the total remaining costs for this litigation. As such, during the
first quarter of fiscal 2005, the Company recognized a charge of $16.4 million
as its reasonable estimate of future costs to be incurred in defending or
settling outstanding claims as well as pursuing insurance recoveries. This
charge is net of expected proceeds under insurance policies in place with
financially viable insurance companies, subject to self-insurance retentions,
exclusions, conditions, coverage gaps, policy limits and insurer solvency. The
Company continues to believe that insurance recovery is probable. While the
Company does not anticipate significant charges in future periods, additional
charges may be required if there is a significant increase in the number of new
lawsuits filed or an adverse outcome from insurance recovery activities.
Currently, the Company considers both of these potential events to be remote.
Page 22
Derivative Actions
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 that added three new individual defendants and included new
allegations that, among other things, the Company improperly recognized revenue
in December 2000 and September 2001 related to settlements with certain vitamin
manufacturers. The Company filed a Motion to Dismiss the second amended
complaint, and on November 20, 2003, the Court denied the motion. On April 14,
2005, the Court stayed the action for a period of six months. The defendants
intend to vigorously defend this action. The Company currently does not believe
that the impact of this lawsuit will have a material adverse effect on the
Company's financial position, liquidity or results of operations.
Since July 1, 2004, three complaints have been filed by purported
shareholders against the members of the Company's Board of Directors, certain of
its officers and employees and the Company as a nominal defendant in the Court
of Common Pleas, Franklin County, Ohio, as purported derivative actions
(collectively referred to as the "Cardinal Health Franklin County derivative
actions"). These cases include: Donald Bosley, Derivatively on behalf of
Cardinal Health, Inc. v. David Bing, et al., Sam Wietschner v. Robert D. Walter,
et al. and Green Meadow Partners, LLP, Derivatively on behalf of Cardinal
Health, Inc. v. David Bing, et al. The Cardinal Health Franklin County
derivative actions allege that the individual defendants failed to implement
adequate internal controls for the Company and thereby violated their fiduciary
duty of good faith, GAAP and the Company's Audit Committee charter. The
complaints in the Cardinal Health Franklin County derivative actions seek money
damages and equitable relief against the defendant directors and an award of
attorney's fees. On November 22, 2004, the Cardinal Health Franklin County
derivative actions were consolidated. Furthermore, by agreement of the parties,
the Cardinal Health Franklin County derivative actions have been stayed. None of
the defendants has responded to the complaints yet, nor has the Company.
Shareholder/ERISA Litigation against Cardinal Health
Since July 2, 2004, ten purported class action complaints have been filed
by purported purchasers of the Company's securities against the Company and
certain of its officers and directors, asserting claims under the federal
securities laws (collectively referred to as the "Cardinal Health federal
securities actions"). To date, all of these actions have been filed in the
United States District Court for the Southern District of Ohio. These cases
include: Gerald Burger v. Cardinal Health, Inc., et al. (04 CV 575), Todd Fener
v. Cardinal Health, Inc., et al. (04 CV 579), E. Miles Senn v. Cardinal Health,
Inc., et al. (04 CV 597), David Kim v. Cardinal Health, Inc. (04 CV 598), Arace
Brothers v. Cardinal Health, Inc., et al. (04 CV 604), John Hessian v. Cardinal
Health, Inc., et al. (04 CV 635), Constance Matthews Living Trust v. Cardinal
Health, Inc., et al. (04 CV 636), Mariss Partners, LLP v. Cardinal Health, Inc.,
et al. (04 CV 849), The State of New Jersey v. Cardinal Health, Inc., et al. (04
CV 831) and First New York Securities, LLC v. Cardinal Health, Inc., et al. (04
CV 911). The Cardinal Health federal securities actions purport to be brought on
behalf of all purchasers of the Company's securities during various periods
beginning as early as October 24, 2000 and ending as late as July 26, 2004 and
allege, among other things, that the defendants violated Section 10(b) of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Rule 10b-5
promulgated thereunder and Section 20(a) of the Exchange Act by issuing a series
of false and/or misleading statements concerning the Company's financial
results, prospects and condition. Certain of the complaints also allege
violations of Section 11 of the Securities Act of 1933, as amended, claiming
material misstatements or omissions in prospectuses issued by the Company in
connection with its acquisition of Bindley Western Industries, Inc. in 2001 and
Syncor in 2003. The alleged misstatements relate to the Company's accounting for
recoveries relating to antitrust litigation against vitamin manufacturers, and
to classification of revenue in the Company's Pharmaceutical Distribution
business as either operating revenue or revenue from bulk deliveries to customer
warehouses, among other matters. The alleged misstatements are claimed to have
caused an artificial inflation in the Company's stock price during the proposed
class period. The complaints seek unspecified money damages and equitable relief
against the defendants and an award of attorney's fees. On December 15, 2004,
the Cardinal Health federal securities actions were consolidated into one action
captioned In re Cardinal Health, Inc. Federal Securities Litigation, and on
January 26, 2005, the Court appointed the Pension Fund Group as lead plaintiff
in this consolidated action. On April 22, 2005, the lead plaintiff filed a
consolidated amended complaint naming the
Page 23
Company, certain current and former officers and employees and the Company's
external auditors as defendants. The complaint seeks unspecified money damages
and other unspecified relief against the defendants.
Since July 2, 2004, 14 purported class action complaints have been filed
against the Company and certain officers, directors and employees of the Company
by purported participants in the Cardinal Health Profit Sharing, Retirement and
Savings Plan (collectively referred to as the "Cardinal Health ERISA actions").
To date, all of these actions have been filed in the United States District
Court for the Southern District of Ohio. These cases include: David McKeehan and
James Syracuse v. Cardinal Health, Inc., et al. (04 CV 643), Timothy Ferguson v.
Cardinal Health, Inc., et al. (04 CV 668), James DeCarlo v. Cardinal Health,
Inc., et al. (04 CV 684), Margaret Johnson v. Cardinal Health, Inc., et al. (04
CV 722), Harry Anderson v. Cardinal Health, Inc., et al. (04 CV 725), Charles
Heitholt v. Cardinal Health, Inc., et al. (04 CV 736), Dan Salinas and Andrew
Jones v. Cardinal Health, Inc., et al. (04 CV 745), Daniel Kelley v. Cardinal
Health, Inc., et al. (04 CV 746), Vincent Palyan v. Cardinal Health, Inc., et
al. (04 CV 778), Saul Cohen v. Cardinal Health, Inc., et al. (04 CV 789), Travis
Black v. Cardinal Health, Inc., et al. (04 CV 790), Wendy Erwin v. Cardinal
Health, Inc., et al. (04 CV 803), Susan Alston v. Cardinal Health, Inc., et al.
(04 CV 815), and Jennifer Brister v. Cardinal Health, Inc., et al. (04 CV 828).
The Cardinal Health ERISA actions purport to be brought on behalf of
participants in the Cardinal Health Profit Sharing, Retirement and Savings Plan
and the Syncor Employees' Savings and Stock Ownership Plan (the "Syncor ESSOP,"
and together with the Cardinal Health Profit Sharing, Retirement and Savings
Plan, the "Plans"), and also on behalf of the Plans themselves. The complaints
allege that the defendants breached certain fiduciary duties owed under the
Employee Retirement Income Security Act ("ERISA"), generally asserting that the
defendants failed to make full disclosure of the risks to the Plans'
participants of investing in the Company's stock, to the detriment of the Plans'
participants and beneficiaries, and that Company stock should not have been made
available as an investment alternative for the Plans' participants. The
misstatements alleged in the Cardinal Health ERISA actions significantly overlap
with the misstatements alleged in the Cardinal Health federal securities
actions. The complaints seek unspecified money damages and equitable relief
against the defendants and an award of attorney's fees. On December 15, 2004,
the Cardinal Health ERISA actions were consolidated into one action captioned In
re Cardinal Health, Inc. ERISA Litigation. On January 14, 2005, the court
appointed lead counsel and liaison counsel for the consolidated Cardinal Health
ERISA action. On April 29, 2005, the lead plaintiff filed a consolidated
amended ERISA complaint naming the Company, certain current and former
directors, officers and employees, the Company's Employee Benefits Policy
Committee and Putnam Fiduciary Trust Company as defendants. The complaint seeks
unspecified money damages and other unspecified relief against the defendants.
With respect to the proceedings described under the headings "Derivative
Actions" and "Shareholder/ERISA Litigation against Cardinal Health," the Company
currently believes that there will be some insurance coverage available under
the Company's insurance policies in effect at the time the actions were filed.
Such policies are with financially viable insurance companies, and are subject
to self-insurance retentions, exclusions, conditions, coverage gaps, policy
limits and insurer solvency.
Shareholder/ERISA 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 "Syncor 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 Syncor 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. The actions
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 Syncor federal securities actions, and a
consolidated amended complaint was filed May 19, 2003, naming Syncor and 12
individuals, all former Syncor officers, directors and/or employees, as
defendants. The consolidated complaint seeks unspecified money damages and other
unspecified relief against the defendants. Syncor filed a Motion to Dismiss the
consolidated amended complaint on August 1, 2003, and on December 12, 2003, the
Court granted the Motion to Dismiss without prejudice. A second amended
consolidated class action complaint was filed on January 28, 2004, naming Syncor
and 14 individuals, all former
Page 24
Syncor officers, directors and/or employees, as defendants. Syncor filed a
Motion to Dismiss the second amended consolidated class action complaint on
March 4, 2004. On July 6, 2004, the Court granted Defendants' Motion to Dismiss
without prejudice as to defendants Syncor, Monty Fu, Robert Funari and Haig
Bagerdjian. As to the other individual defendants, the Motion to Dismiss was
granted with prejudice. On September 14, 2004, the lead plaintiff filed a Motion
for Clarification of the Court's July 6, 2004 dismissal order. The court
clarified its July 6, 2004 dismissal order on November 29, 2004 and the lead
plaintiff filed a third amended consolidated complaint on December 29, 2004.
Syncor filed a Motion to Dismiss the third amended consolidated complaint on
January 31, 2005. On April 15, 2005, the Court granted the Motion to Dismiss
with prejudice. The lead plaintiff has 30 days to file an appeal.
On November 14, 2002, two additional actions were filed by individual
stockhold