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Jan. 30, 2020, 4:17 p.m. EST

10-Q: AMERISOURCEBERGEN CORP

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(EDGAR Online via COMTEX) -- ITEM 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Overview The following discussion should be read in conjunction with the Consolidated Financial Statements and notes thereto contained herein and in conjunction with the financial statements and related notes included in our Annual Report on Form 10-K for the fiscal year ended September 30, 2019. We are one of the largest global pharmaceutical sourcing and distribution services companies, helping both healthcare providers and pharmaceutical and biotech manufacturers improve patient access to products and enhance patient care. We deliver innovative programs and services designed to increase the effectiveness and efficiency of the pharmaceutical supply chain in both human and animal health. We are organized based upon the products and services we provide to our customers. Our operations are comprised of the Pharmaceutical Distribution Services reportable segment and other operating segments that are not significant enough to require separate reportable segment disclosure, and, therefore, have been included in Other for the purpose of our reportable segment presentation. Pharmaceutical Distribution Services Segment The Pharmaceutical Distribution Services reportable segment distributes a comprehensive offering of brand-name, specialty brand-name and generic pharmaceuticals, over-the-counter healthcare products, home healthcare supplies and equipment, and related services to a wide variety of healthcare providers, including acute care hospitals and health systems, independent and chain retail pharmacies, mail order pharmacies, medical clinics, long-term care and alternate site pharmacies, and other customers. Through a number of operating businesses, the Pharmaceutical Distribution Services reportable segment provides pharmaceutical distribution (including plasma and other blood products, injectible pharmaceuticals, vaccines, and other specialty pharmaceutical products) and additional services to physicians who specialize in a variety of disease states, especially oncology, and to other healthcare providers, including hospitals and dialysis clinics. Additionally, the Pharmaceutical Distribution Services reportable segment provides data analytics, outcomes research, and additional services for biotechnology and pharmaceutical manufacturers. The Pharmaceutical Distribution Services reportable segment also provides pharmacy management, staffing and additional consulting services, and supply management software to a variety of retail and institutional healthcare providers. Additionally, it delivers packaging solutions to institutional and retail healthcare providers. Other Other consists of operating segments that focus on global commercialization services and animal health (MWI Animal Health). The operating segments that focus on global commercialization services include AmerisourceBergen Consulting Services ("ABCS") and World Courier. MWI Animal Health ("MWI") is a leading animal health distribution company in the United States and in the United Kingdom. MWI sells pharmaceuticals, vaccines, parasiticides, diagnostics, micro feed ingredients, and various other products to customers in both the companion animal and production animal markets. Additionally, MWI offers demand-creating sales force services to manufacturers. ABCS, through a number of operating businesses, provides a full suite of integrated manufacturer services that range from clinical trial support to product post-approval and commercialization support. World Courier, which operates in over 50 countries, is a leading global specialty transportation and logistics provider for the biopharmaceutical industry.

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Recent Development

In late January 2020 we decided to exit the PharMEDium Healthcare Holdings, Inc. ("PharMEDium") compounding business and as a result, we will cease all commercial and administrative operations related to this business. The decision to exit the PharMEDium business was due to a number of factors including, but not limited to, ongoing operational, regulatory, and commercial challenges, such as PharMEDium's decision in January 2020 to suspend production at the compounding facility in New Jersey pending facility upgrades related to the air handling and filtration systems. In addition to the PharMEDium impairment charge of $138.0 million recognized in the three months ended December 31, 2019 (see Note 5 of the Notes to Consolidated Financial Statements), we expect that we will impair the majority of the remaining $55 million of PharMEDium tangible assets and all of the remaining $185 million of PharMEDium intangible assets in the three months ending March 31, 2020. Additionally, we will incur other costs, such as employee separation costs, in connection with exiting the PharMEDium compounding business during the fiscal year ending September 30, 2020 estimated to total approximately $80 million to $100 million.

As a result of the decision to exit the PharMEDium compounding business, we expect to claim an ordinary income tax deduction and estimate that we will realize a cash tax benefit in fiscal 2020 through fiscal 2022 totaling approximately $500 million to $600 million.







        Executive Summary
        This executive summary provides highlights from the results of operations that
        follow:
                   Revenue increased 5.4% from the prior year quarter primarily due to
                   the revenue growth of our Pharmaceutical Distribution Services
                   segment;
                   Total gross profit in the current year quarter decreased by 5.1% and
                   was unfavorably impacted by lower gains from antitrust litigation
                   settlements, last-in, first-out ("LIFO") expense in the current year
                   quarter in comparison to a LIFO credit in the prior year, and the
                   prior year reversal of a previously-estimated assessment related to
                   the New York State Opioid Stewardship Act, offset in part by increases
                   in gross profit in Other and Pharmaceutical Distribution Services.
                   Gross profit in Other increased 8.0% from the prior year quarter
                   primarily due to growth at MWI, World Courier, and the Lash consulting
                   group. Pharmaceutical Distributions Services' gross profit increased
                   1.6% from the prior year quarter primarily due to the increase in
                   revenue largely due to strong specialty product sales, offset in part
                   by our pharmaceutical compounding operations as it shipped fewer
                   units;
                   Distribution, selling, and administrative expenses increased 4.5% from
                   the prior year quarter due to an increase in costs to support revenue
                   growth primarily in Other, offset in part by operational synergies
                   realized from the integration of H.D. Smith within Pharmaceutical
                   Distribution Services;
                   Operating income decreased 44.9% in the current year quarter primarily
                   due to a $138.0 million impairment of PharMEDium's long-lived assets
                   (see Note 5 of the Notes to Consolidated Financial Statements), the
                   decline in total gross profit and the increase in distribution,
                   selling, and administrative expenses, as noted above;
                   Our effective tax rates were 18.7% and 9.4% in the three months ended
                   December 31, 2019 and 2018, respectively. The effective tax rate in
                   the three months ended December 31, 2019 was lower than the U.S.
                   statutory rate due to a higher mix of foreign earnings at lower tax
                   rates in Switzerland and Ireland, since U.S. earnings were lower
                   principally due to the $138.0 million impairment of PharMEDium's
                   long-lived assets. The effective tax rate in the three months ended
                   December 31, 2018 benefited from a $37.0 million decrease to our
                   finalization of the estimated transition tax liability related to the
                   Tax Cuts and Jobs Act (the "2017 Tax Act") and was favorably impacted
                   by our international businesses in Switzerland and Ireland.
                   Net income attributable to AmerisourceBergen Corporation was
                   significantly lower in the current year quarter primarily due to the
                   $138.0 million impairment of long-lived assets, the decline in total
                   gross profit, and the income tax benefit recognized in the prior year
                   quarter as a result of the 2017 Tax Act.
        


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        Results of Operations
        Revenue
                                                     Three months ended
                                                        December 31,
        (dollars in thousands)                      2019             2018        Change
        Pharmaceutical Distribution Services   $ 46,036,828     $ 43,744,381      5.2%
        Other:
        MWI Animal Health                         1,028,318          954,584      7.7%
        Global Commercialization Services           818,666          716,354     14.3%
        Total Other                               1,846,984        1,670,938     10.5%
        Intersegment eliminations                   (19,070 )        (22,867 )
        Revenue                                $ 47,864,742     $ 45,392,452      5.4%
        


We continue to expect our revenue growth percentage to be in the mid to high-single digits in fiscal 2020. Our future revenue growth will continue to be affected by various factors, such as industry growth trends, including drug utilization, the introduction of new, innovative brand therapies (including biosimilars), the likely increase in the number of generic drugs that will be available over the next few years as a result of the expiration of certain drug patents held by brand-name pharmaceutical manufacturers and the rate of conversion from brand products to those generic drugs, price inflation and price deflation, general economic conditions in the United States, competition within the industry, customer consolidation, changes in pharmaceutical manufacturer pricing and distribution policies and practices, increased downward pressure on government and other third-party reimbursement rates to our customers, and changes in government rules and regulations.

Revenue increased by 5.4% from the prior year quarter primarily due to the revenue growth in our Pharmaceutical Distribution Services segment.

The Pharmaceutical Distribution Services segment's revenue grew by 5.2% from the prior year quarter primarily due to continued strong specialty product sales, the growth of some of its largest customers, and overall market growth.

Revenue in Other increased 10.5% from the prior year quarter. The increase was primarily due to growth at MWI, ABCS's growth in its Canadian operations and the Lash consulting group, and World Courier.

A number of our contracts with customers, including group purchasing organizations, are typically subject to expiration each year. We may lose a significant customer if an existing contract with such customer expires without being extended, renewed, or replaced. During the three months ended December 31, 2019, no significant contracts expired. Over the next twelve months, there are no significant contracts scheduled to expire. Additionally, from time to time, significant contracts may be terminated in accordance with their terms or extended, renewed, or replaced prior to their expiration dates. If those contracts are extended, renewed, or replaced at less favorable terms, they may also negatively impact our revenue, results of operations, and cash flows.







        Gross Profit
                                                          Three months ended
                                                             December 31,
        (dollars in thousands)                           2019            2018        Change
        Pharmaceutical Distribution Services         $   892,913     $   878,464      1.6%
        Other                                            351,132         325,026      8.0%
        Intersegment eliminations                           (907 )          (307 )
        Gain from antitrust litigation settlements         8,492          87,279
        LIFO (expense) credit                            (13,281 )         3,029
        PharMEDium remediation costs                      (7,135 )       (17,911 )
        New York State Opioid Stewardship Act                  -          22,000
        Gross profit                                 $ 1,231,214     $ 1,297,580     (5.1)%
        


Gross profit decreased 5.1%, or $66.4 million, from the prior year quarter. Gross profit in the current year quarter was unfavorably impacted by lower gains from antitrust litigation settlements, LIFO expense in the current year quarter in comparison

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to a LIFO credit in the prior year quarter, and the prior year reversal of a previously-estimated assessment related to the New York State Opioid Stewardship Act, offset in part by increases in gross profit in Other and Pharmaceutical Distribution Services.

Our cost of goods sold for interim periods includes a LIFO provision that is recorded ratably on a quarterly basis and is based on our estimated annual LIFO provision. The annual LIFO provision, which we estimate on a quarterly basis, is affected by manufacturer pricing practices, which may be impacted by market and other external influences, expected changes in inventory quantities, and product mix, many of which are difficult to predict. Changes to any of the above factors may have a material impact to our annual LIFO provision.

New York State ("NYS") enacted the Opioid Stewardship Act ("OSA"), which initially went into effect on July 1, 2018. The OSA established an annual $100 million Opioid Stewardship Fund (the "Fund") and required manufacturers, distributors, and importers licensed in NYS to ratably source the Fund. The ratable share of the assessment for each licensee was to be based upon opioids sold or distributed to or within NYS. In September 2018, we accrued $22.0 million as an estimate of our liability under the OSA for the period from January 1, 2017 through September 30, 2018. In December 2018, the OSA was ruled unconstitutional by the U.S. District Court for the Southern District of New York, and, as a result, we reversed the $22.0 million accrual in the quarter ended December 31, 2018.

Pharmaceutical Distribution Services' gross profit increased 1.6%, or $14.4 million, from the prior year quarter. Gross profit in the current year quarter increased due to the increase in revenue largely due to strong specialty product sales, offset in part by our pharmaceutical compounding operations as it shipped fewer units. As a percentage of revenue, Pharmaceutical Distribution Services' gross profit margin of 1.94% in the current year quarter decreased 7 basis points from the prior year quarter. The decrease in gross profit margin from the prior year was primarily due to increased sales to our larger customers, which typically have lower gross profit margins, and lower sales from our pharmaceutical compounding operations.

Gross profit in Other increased 8.0%, or $26.1 million, from the prior year quarter primarily due to growth at MWI, World Courier, and the Lash consulting group. As a percentage of revenue, gross profit margin in Other of 19.01% in the three months ended December 31, 2019 decreased from 19.45% in the prior year quarter.

We recognized gains from antitrust litigation settlements with pharmaceutical manufacturers of $8.5 million and $87.3 million during the three months ended December 31, 2019 and 2018, respectively. The gains were recorded as reductions to Cost of Goods Sold (see Note 11 of the Notes to Consolidated Financial Statements).







        Operating Expenses
                                                       Three months ended
                                                          December 31,
        (dollars in thousands)                         2019          2018      Change
        Distribution, selling, and administrative   $  685,953    $ 656,585     4.5%
        Depreciation and amortization                  104,515      122,500    (14.7)%
        Employee severance, litigation, and other       39,309       40,672
        Impairment of long-lived assets                138,000            -
        Total operating expenses                    $  967,777    $ 819,757     18.1%
        


Distribution, selling, and administrative expenses increased 4.5%, or $29.4 million, compared to the prior year quarter due to an increase in costs to support revenue growth primarily in Other. As a percentage of revenue, distribution, selling, and administrative expenses were 1.43% in the current year quarter and represent a 2 basis point decrease compared to the prior year primarily as a result of realizing operational synergies from the integration of H.D. Smith. Pharmaceutical Distribution Services segment's expenses were relatively flat compared to the prior year as the increase in costs to support revenue growth were largely offset by operational synergies realized from the integration of H.D. Smith.

Depreciation expense decreased 8.1% from the prior year quarter primarily due to the reduction of H.D. Smith depreciable assets in connection with the integration of its operations. Amortization expense decreased 25.2% from the prior year quarter primarily due to the March 2019 impairment of PharMEDium intangible assets.

Employee severance, litigation, and other in the three month period ended December 31, 2019 included $24.7 million of litigation costs that related to legal fees in connection with opioid lawsuits and investigations, $8.5 million related to our business transformation efforts, $4.9 million of other restructuring initiatives, $0.8 million of severance costs, and $0.5 million of acquisition-related deal and integration costs. Employee severance, litigation, and other in the three month period ended December 31, 2018

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included $14.5 million of litigation costs that related to legal fees in connection with opioid lawsuits and investigations, $10.6 million of acquisition-related deal and integration costs (primarily related to the integration of H.D. Smith), $7.0 million related to our business transformation efforts, $4.8 million of severance costs primarily related to position eliminations resulting from our business transformation efforts and restructuring activities related to our consulting business, and $3.8 million of other restructuring initiatives.

We recorded a $138.0 million impairment of PharMEDium's long-lived assets in the three months ended December 31, 2019 (see Note 5 of the Notes to Consolidated Financial Statements).







        Operating Income
                                                          Three months ended
                                                             December 31,
        (dollars in thousands)                            2019          2018       Change
        Pharmaceutical Distribution Services           $ 391,694     $ 373,207      5.0%
        Other                                            104,479        98,934      5.6%
        Intersegment eliminations                           (907 )        (307 )
        Total segment operating income                   495,266       471,834      5.0%
        Gain from antitrust litigation settlements         8,492        87,279
        LIFO (expense) credit                            (13,281 )       3,029
        PharMEDium remediation costs                     (16,165 )     (20,495 )
        New York State Opioid Stewardship Act                  -        22,000
        Acquisition-related intangibles amortization     (33,566 )     (45,152 )
        Employee severance, litigation, and other        (39,309 )     (40,672 )
        Impairment of long-lived assets                 (138,000 )           -
        Operating income                               $ 263,437     $ 477,823     (44.9)%
        


Segment operating income is evaluated before gain from antitrust litigation settlements; LIFO (expense) credit; PharMEDium remediation costs; New York State Opioid Stewardship Act; acquisition-related intangibles amortization; employee severance, litigation, and other; and impairment of long-lived assets.

Pharmaceutical Distribution Services' operating income increased 5.0%, or $18.5 million, from the prior year quarter primarily due to the increase in gross profit. As a percentage of revenue, Pharmaceutical Distribution Services' operating income margin was 0.85% and was flat compared to the prior year quarter.

Operating income in Other increased 5.6%, or $5.5 million, from the prior year quarter primarily due to the increase in gross profit, offset in part by an increase in operating expenses.

Interest expense, net and the respective weighted average interest rates in the quarter ended December 31, 2019 and 2018 were as follows:







                                             2019                            2018
                                              Weighted Average                Weighted Average
        (dollars in thousands)     Amount      Interest Rate       Amount      Interest Rate
        Interest expense         $ 41,602          3.60%         $ 49,236          3.78%
        Interest income           (10,595 )        1.38%           (7,066 )        1.80%
        Interest expense, net    $ 31,007                        $ 42,170
        


Interest expense, net decreased 26.5%, or $11.2 million, from the prior year quarter due to a decrease in interest expense primarily due to the adoption of the new lease accounting standard (see Note 1 of the Notes to Consolidated Financial Statements) as of October 1, 2019, which resulted in the derecognition of financing obligations related to lease construction assets. Prior to October 1, 2019, we recognized interest expense associated with these financing obligations. Upon adoption of the new lease standard, we began recognizing rent expense related to these leases in Distribution, Selling, and Administrative expenses in our Consolidated Statement of Operations. Interest expense, net also decreased due to the increase in interest income due to a $1.5 billion increase in our average invested cash balance, offset in part by a decline in investment interest rates.

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Our effective tax rates were 18.7% and 9.4% in the three months ended December 31, 2019 and 2018, respectively. The effective tax rate in the three months ended December 31, 2019 was lower than the U.S. statutory rate due to a higher mix of foreign earnings at lower tax rates in Switzerland and Ireland, since U.S. earnings were lower principally due to a $138.0 million impairment of PharMEDium's long-lived assets (see Note 5 of the Notes to Consolidated Financial Statements). The effective tax rate in the three months ended December 31, 2018 benefited from a $37.0 million decrease to our finalization of the estimated transition tax liability related to the 2017 Tax Act and was favorably impacted by our international businesses in Switzerland and Ireland.

Net income attributable to AmerisourceBergen was significantly lower in the current year quarter primarily due to the $138.0 million impairment of long-lived assets, the decline in gross profit, and the income tax benefit recognized in the prior year quarter as a result of the 2017 Tax Act.







        Liquidity and Capital Resources
        The following table illustrates our debt structure as of December 31, 2019,
        including availability under the multi-currency revolving credit facility, the
        receivables securitization facility, the revolving credit note, and the
        overdraft facility:
                                                             Outstanding      Additional
        (in thousands)                                         Balance       Availability
        Fixed-Rate Debt:
        $500,000, 3.50% senior notes due 2021               $    499,037    $            -
        $500,000, 3.40% senior notes due 2024                    497,866                 -
        $500,000, 3.25% senior notes due 2025                    496,481                 -
        $750,000, 3.45% senior notes due 2027                    743,309                 -
        $500,000, 4.25% senior notes due 2045                    494,568                 -
        $500,000, 4.30% senior notes due 2047                    492,555                 -
        Nonrecourse debt                                          81,304                 -
        Total fixed-rate debt                                  3,305,120                 -
        Variable-Rate Debt:
        Revolving credit note                                          -            75,000
        Term loan due 2020                                       399,819                 -
        Overdraft facility due 2021 (�30,000)                     31,708             8,069
        Receivables securitization facility due 2022             350,000         1,100,000
        Multi-currency revolving credit facility due 2024              -         1,400,000
        Nonrecourse debt                                          81,956                 -
        Total variable-rate debt                                 863,483         2,583,069
        Total debt                                          $  4,168,603    $    2,583,069
        


Our operating results have generated cash flows, which, together with availability under our debt agreements and credit terms from suppliers, have provided sufficient capital resources to finance working capital and cash operating requirements, and to fund capital expenditures, acquisitions, repayment of debt, the payment of interest on outstanding debt, dividends, and purchases of shares of our common stock.

Our primary ongoing cash requirements will be to finance working capital, fund the repayment of debt, fund the payment of interest on debt, fund purchases of our common stock, fund the payment of dividends, finance acquisitions, and fund capital expenditures and routine growth and expansion through new business opportunities. Future cash flows from operations and borrowings are expected to be sufficient to fund our ongoing cash requirements.

As discussed in Note 10 of the Notes to Consolidated Financial Statements, we are a party to discussions with the objective of reaching potential terms of a broad resolution of the remaining opioid-litigation and claims. Although we are not able to predict the outcome or reasonably estimate a range of possible losses in these matters, an adverse judgment or negotiated resolution in any of these matters could have a material adverse impact on our financial position, cash flows or liquidity.

As of December 31, 2019 and September 30, 2019, our cash and cash equivalents held by foreign subsidiaries were $1,079.7 million and $826.8 million, respectively, and are generally based in U.S. dollar denominated holdings. We have the ability

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to repatriate the majority of our cash and cash equivalents held by our foreign subsidiaries without incurring additional taxes upon repatriation.

We have increased seasonal needs related to our inventory build during the December and March quarters that, depending on our cash balance, may require the use of our credit facilities to fund short-term capital needs. Our cash balance in the three months ended December 31, 2019 and 2018 needed to be supplemented by intra-period credit facility borrowings to cover short-term working capital needs. The largest amount of intra-period borrowings under our revolving and securitization credit facilities that was outstanding at any one time during the three months ended December 31, 2019 and 2018 was $39.6 million and $19.4 million, respectively. We had $21.5 million and $72.3 million of cumulative intra-period borrowings that were repaid under our credit facilities during the . . .

Jan 30, 2020

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