HENRY SCHEIN INC (HSIC) FY 2023 MD&A
This page reproduces the company's own Item 7 MD&A text from the linked SEC filing. It is filer text, not grepcent analysis, scoring, or investment advice.
ITEM 7.
Management’s Discussion and Analysis of Financial Condition and Results of
Operations
Cautionary Note Regarding Forward-Looking Statements
In accordance with the “Safe Harbor” provisions of the Private Securities
Litigation Reform Act of 1995, we
provide the following cautionary remarks regarding important factors
that, among others, could cause future results
to differ materially from the forward-looking statements, expectations and assumptions
expressed or implied
herein.
All forward-looking statements made by us are subject to
risks and uncertainties and are not guarantees of
future performance.
These forward-looking statements involve known and unknown
risks, uncertainties and other
factors that may cause our actual results, performance and achievements
or industry results to be materially
different from any future results, performance or achievements expressed or implied by such
forward-looking
statements.
These statements are generally identified by the use of such
terms as “may,” “could,” “expect,”
“intend,” “believe,” “plan,” “estimate,” “forecast,” “project,” “anticipate,”
“to be,” “to make” or other comparable
terms.
Factors that could cause or contribute to such differences include, but are not limited
to, those discussed in
this Annual Report on Form 10-K, and in particular the risks discussed under
the caption “Risk Factors” in Item 1A
of this report and those that may be discussed in other documents we
file with the Securities and Exchange
Commission (“SEC”).
Risk factors and uncertainties that could cause actual results to differ materially from
current and historical results
include, but are not limited to: our dependence on third parties for
the manufacture and supply of our products; our
ability to develop or acquire and maintain and protect new products (particularly
technology products) and
technologies that achieve market acceptance with acceptable margins; transitional
challenges associated with
acquisitions, dispositions and joint ventures, including the failure
to achieve anticipated synergies/benefits, as well
as significant demands on our operations, information systems,
legal, regulatory, compliance, financial and human
resources functions in connection with acquisitions, dispositions and
joint ventures; certain provisions in our
governing documents that may discourage third-party acquisitions of us; adverse
changes in supplier rebates or
other purchasing incentives; risks related to the sale of corporate brand products;
security risks associated with our
information systems and technology products and services, such as
cyberattacks or other privacy or data security
breaches (including the October 2023 incident); effects of a highly competitive (including, without
limitation,
competition from third-party online commerce sites) and consolidating
market;
changes in the health care industry;
risks from expansion of customer purchasing power and multi-tiered
costing structures; increases in shipping costs
for our products or other service issues with our third-party shippers; general
global and domestic macro-economic
and political conditions, including inflation, deflation, recession, ongoing
wars, fluctuations in energy pricing and
the value of the U.S. dollar as compared to foreign currencies, and changes
to other economic indicators,
international trade agreements, potential trade barriers and terrorism; geopolitical
wars; failure to comply with
existing and future regulatory requirements; risks associated with the EU Medical
Device Regulation; failure to
comply with laws and regulations relating to health care fraud or other
laws and regulations; failure to comply with
laws and regulations relating to the collection, storage and processing of
sensitive personal information or standards
in electronic health records or transmissions; changes in tax legislation;
risks related to product liability, intellectual
property and other claims; risks associated with customs policies
or legislative import restrictions; risks associated
with disease outbreaks, epidemics, pandemics (such as the COVID-19
pandemic), or similar wide-spread public
health concerns and other natural or man-made disasters; risks associated with our
global operations; litigation
risks; new or unanticipated litigation developments and the status
of litigation matters; our dependence on our
senior management, employee hiring and retention, and our relationships
with customers, suppliers and
manufacturers; and disruptions in financial markets.
The order in which these factors appear should not be
construed to indicate their relative importance or priority.
We caution that these factors may not be exhaustive and that many of these factors are beyond our ability to control
or predict.
Accordingly, any forward-looking statements contained herein should not be relied upon as a prediction
of actual results.
We undertake no duty and have no obligation to update forward-looking statements except as
required by law.
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45
Where You
Can Find Important Information
We may disclose important information through one or more of the following channels: SEC filings, public
conference calls and webcasts, press releases, the investor relations
page of our website (www.henryschein.com)
and the social media channels identified on the Newsroom page of our website.
Recent Developments
During the years ended December 30, 2023 and December 31, 2022 we
continued to experience a decrease in the
sales of PPE and COVID-19 test kits as compared to the comparable
prior-year periods, primarily due to lower
market pricing of PPE and lower market demand for COVID-19
test kits.
While the U.S. economy has recently experienced inflationary
pressures and strengthening of the U.S. dollar, their
impacts have not been material to our results of operations.
Though inflation impacts both our revenues and costs,
the depth and breadth of our product portfolio often allows us to offer lower-cost
national brand solutions or
corporate brand alternatives to our more price-sensitive customers who
are unwilling to absorb price increases, thus
positioning us to protect our gross profit.
Our consolidated financial statements reflect estimates and assumptions
made by us that affect, among other things,
our goodwill, long-lived asset and definite-lived intangible asset valuation;
inventory valuation; equity investment
valuation; assessment of the annual effective tax rate; valuation of deferred income
taxes and income tax
contingencies; the allowance for doubtful accounts; hedging activity; supplier
rebates; measurement of
compensation cost for certain share-based performance awards and cash bonus
plans; and pension plan
assumptions.
Cybersecurity Incident
In addition to immaterial and unrelated prior incidents at certain of
our subsidiaries, in October 2023 Henry Schein
experienced a cybersecurity incident that primarily affected the operations of our
North American and European
dental and medical distribution businesses.
Henry Schein One, our practice management software, revenue
cycle
management and patient relationship management solutions business, was
not affected, and our manufacturing
businesses were mostly unaffected. Once we became aware of the issue, we took steps
to assess, contain and
remediate this incident.
We restored affected systems and applications, our distribution operations resumed and we
reactivated our ecommerce platform.
We also notified law enforcement and our employees, customers, suppliers
and investors, informing them of both the incident and management’s efforts to mitigate its impact on our daily
operations and data maintained on the Company’s systems.
Subsequently, on or about November 8, 2023, we
determined that the threat actor obtained personal and sensitive information
maintained on our systems belonging to
certain third parties and since that date we have notified affected and potentially affected parties
as appropriate.
The scope of personal and sensitive data impacted is still under investigation.
On November 22, 2023, we
experienced a related disruption to our ecommerce platform and related
applications, which has since been
remediated.
As described in “Management’s Discussion & Analysis – 2023 Compared to 2022, the incident
adversely impacted our financial results for the fourth quarter and full year 2023.
We also expect some short-term
residual impact on our financial results in 2024.
We maintain cybersecurity insurance, subject to certain retentions and policy limitations.
With respect to the
October 2023 cybersecurity incident, we have a $60 million insurance policy, following a $5 million retention.
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46
Executive-Level Overview
Henry Schein, Inc. is a solutions company for health care professionals powered
by a network of people and
technology.
We
believe we are the world’s largest provider of health care products and services primarily to office-
based dental and medical practitioners, as well as alternate sites of care.
We
serve more than one million customers
worldwide including dental practitioners, laboratories, physician practices, and
ambulatory surgery centers, as well
as government, institutional health care clinics and other alternate care clinics.
We
believe that we have a strong
brand identity due to our more than 91 years of experience distributing health
care products.
We are headquartered in Melville, New York,
employ approximately 25,000 people (of which approximately
11,500 are based outside of the United States) and have operations or affiliates in 33 countries and territories.
Our
broad global footprint has evolved over time through our organic success as well as
through contribution from
strategic acquisitions.
We
have established strategically located distribution centers around
the world to enable us to better serve our
customers and increase our operating efficiency.
This infrastructure, together with broad product and service
offerings at competitive prices, and a strong commitment to customer service, enables
us to be a single source of
supply for our customers’ needs.
While our primary go-to-market strategy is in our capacity as a distributor, we also market and sell our own
corporate brand portfolio of cost-effective, high-quality consumable merchandise products,
including in vitro
diagnostic devices, manufacture certain dental specialty products in
the areas of implants, orthodontics and
endodontics, manufacture drug products, and repackage/relabel prescription drugs
and/or devices.
We
have
achieved scale in these global businesses primarily through acquisitions, as
manufacturers of these products
typically do not utilize a distribution channel to serve customers.
We
conduct our business through two reportable segments: (i) health
care distribution and (ii) technology and
value-added services.
These segments offer different products and services to the same customer base.
Our global
dental businesses serve office-based dental practitioners, dental laboratories, schools, government
and other
institutions.
Our medical businesses serve physician offices, urgent care centers, ambulatory care sites,
emergency
medical technicians, dialysis centers, home health, federal and state governments
and large enterprises, such as
group practices and integrated delivery networks, among other providers
across a wide range of specialties.
The health care distribution reportable segment, combining our global dental and
medical operating segments,
distributes consumable products, small equipment, laboratory products, large equipment, equipment
repair services,
branded and generic pharmaceuticals, vaccines, surgical products, dental specialty
products (including implant,
orthodontic and endodontic products), diagnostic tests, infection-control products,
PPE products and vitamins.
Our global technology and value-added services business provides software, technology
and other value-added
services to health care practitioners.
Our technology business offerings include practice management software
systems for dental and medical practitioners.
Our value-added practice solutions include practice consultancy,
education, revenue cycle management and financial services on a non-recourse
basis, e-services, practice
technology, network and hardware services, as well as consulting, and continuing education services for
practitioners.
A key element to grow closer to our customers is our One Schein initiative, which
is a unified go-to-market
approach that enables practitioners to work synergistically with our supply chain,
equipment sales and service and
other value-added services, allowing our customers to leverage the
combined value that we offer through a single
program.
Specifically, One Schein provides customers with streamlined access to our comprehensive offering of
national brand products, our corporate brand products and proprietary specialty
products and solutions (including
implant, orthodontic and endodontic products).
In addition, customers have access to a wide range of services,
including software and other value-added services.
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47
Industry Overview
In recent years, the health care industry has increasingly focused on cost containment.
This trend has benefited
distributors capable of providing a broad array of products and services at low
prices.
It also has accelerated the
growth of HMOs, group practices, other managed care accounts and collective buying
groups, which, in addition to
their emphasis on obtaining products at competitive prices, tend to favor distributors
capable of providing
specialized management information support.
We
believe that the trend towards cost containment has the potential
to favorably affect demand for technology solutions, including software, which can
enhance the efficiency and
facilitation of practice management.
Our operating results in recent years have been significantly affected by strategies
and transactions that we
undertook to expand our business, domestically and internationally, in part to address significant changes in the
health care industry, including consolidation of health care distribution companies, health care reform, trends
toward managed care, cuts in Medicare and collective purchasing arrangements.
Industry Consolidation
The health care products distribution industry, as it relates to office-based health care practitioners, is fragmented
and diverse.
The industry ranges from sole practitioners working out of
relatively small offices to group practices
or service organizations ranging in size from a few practitioners to a large number of practitioners who have
combined or otherwise associated their practices.
Due in part to the inability of office-based health care practitioners to store and manage
large quantities of supplies
in their offices, the distribution of health care supplies and small equipment to office-based health
care practitioners
has been characterized by frequent, small quantity orders, and a need for rapid,
reliable and substantially complete
order fulfillment.
The purchasing decisions within an office-based health care practice are typically
made by the
practitioner or an administrative assistant.
Supplies and small equipment are generally purchased from more
than
one distributor, with one generally serving as the primary supplier.
The trend of consolidation extends to our customer base.
Health care practitioners are increasingly seeking to
partner, affiliate or combine with larger entities such as hospitals, health systems, group practices or physician
hospital organizations.
In many cases, purchasing decisions for consolidated groups
are made at a centralized or
professional staff level; however, orders are delivered to the practitioners’ offices.
We
believe that consolidation within the industry will continue to
result in a number of distributors, particularly
those with limited financial, operating and marketing resources, seeking to
combine with larger companies that can
provide growth opportunities.
This consolidation also may continue to result in distributors seeking
to acquire
companies that can enhance their current product and service offerings or provide
opportunities to serve a broader
customer base.
Our approach to acquisitions and joint ventures has been to expand our role as
a provider of products and services
to the health care industry.
This trend has resulted in our expansion into service areas that complement
our existing
operations and provide opportunities for us to develop synergies with, and thus strengthen, the acquired
businesses.
As industry consolidation continues, we believe that we are positioned to
capitalize on this trend, as we believe we
have the ability to support increased sales through our existing infrastructure, although
there can be no assurances
that we will be able to successfully accomplish this.
We
also have invested in expanding our sales/marketing
infrastructure to include a focus on building relationships with decision
makers who do not reside in the office-
based practitioner setting.
As the health care industry continues to change, we continually evaluate possible
candidates for joint venture or
acquisition and intend to continue to seek opportunities to expand our
role as a provider of products and services to
the health care industry.
There can be no assurance that we will be able to successfully pursue
any such
opportunity or consummate any such transaction, if pursued.
If additional transactions are entered into or
consummated, we would incur merger and/or acquisition-related costs, and there
can be no assurance that the
integration efforts associated with any such transaction would be successful.
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48
Aging Population and Other Market Influences
The health care products distribution industry continues to experience growth
due to the aging population,
increased health care awareness, the proliferation of medical technology
and testing, new pharmacological
treatments, and expanded third-party insurance coverage, partially offset by the effects of unemployment
on
insurance coverage.
In addition, the physician market continues to benefit from the
shift of procedures and
diagnostic testing from acute care settings to alternate-care sites, particularly
physicians’ offices.
According to the U.S. Census Bureau’s International Database, between 2023
and 2033, the 45 and older
population is expected to grow by approximately 11%.
Between 2023 and 2043, this age group is expected to grow
by approximately 21%.
This compares with expected total U.S. population growth
rates of approximately 6%
between 2023 and 2033
and approximately 11% between 2023 and 2043.
According to the U.S. Census Bureau’s International Database, in 2023
there are approximately seven million
Americans aged 85 years or older, the segment of the population most in need of long-term care
and elder-care
services.
By the year 2050, that number is projected to nearly triple to approximately
19 million.
The population
aged 65 to 84 years is projected to increase by approximately 23% during
the same period.
As a result of these market dynamics, annual expenditures for health
care services continue to increase in the
United States.
We believe that demand for our products and services will grow while continuing to be impacted by
current and future operating, economic, and industry conditions.
The Centers for Medicare and Medicaid Services,
or CMS, published “National Health Expenditure Data” indicating
that total national health care spending reached
approximately $4.5 trillion in 2022, or 17.3% of the nation’s gross domestic product, the benchmark
measure for
annual production of goods and services in the United States.
Health care spending is projected to reach
approximately $7.2 trillion by 2031, or 19.6% of the nation’s projected gross domestic product.
Government
Our businesses are generally subject to numerous laws and regulations that could
impact our financial performance,
and failure to comply with such laws or regulations could have a
material adverse effect on our business.
See “
Item 1. Business – Governmental Regulations
” for a discussion of laws, regulations and governmental activity
that may affect our results of operations and financial condition.
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49
Results of Operations
Refer to Item 7: Management’s Discussion and Analysis of Financial Condition and Results of Operations
in
our 2022 Annual Report on Form 10-K for management’s discussion and analysis of financial condition and results
of operations for the fiscal year 2022 compared to fiscal year 2021.
The following tables summarize the significant components of our operating
results and cash flows:
Years
Ended
December 30,
December 31,
December 25,
2023
2022
2021
Operating results:
Net sales
$
12,339
$
12,647
$
12,401
Cost of sales
8,478
8,816
8,727
Gross profit
3,861
3,831
3,674
Operating expenses:
Selling, general and administrative
2,956
2,771
2,634
Depreciation and amortization
210
182
180
Restructuring and integration costs
80
131
8
Operating income
$
615
$
747
$
852
Other expense, net
$
(73)
$
(26)
$
(21)
Gain on sale of equity investment
-
-
7
Net income
436
566
660
Net income attributable to Henry Schein, Inc.
416
538
631
Years
Ended
December 30,
December 31,
December 25,
2023
2022
2021
Cash flows:
Net cash provided by operating activities
$
500
$
602
$
710
Net cash used in investing activities
(1,135)
(276)
(677)
Net cash provided by (used in) financing activities
701
(315)
(333)
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50
Plans of Restructuring and Integration Costs
On August 1, 2022, we committed to a restructuring plan focused on
funding the priorities of the BOLD+1 strategic
plan, streamlining operations and other initiatives to increase efficiency.
We revised our previous expectations of
completion and we have extended this initiative through the end of 2024.
We are currently unable in good faith to
make a determination of an estimate of the amount or range of amounts
expected to be incurred in connection with
these activities, both with respect to each major type of cost associated
therewith and to the total cost, or an
estimate of the amount or range of amounts that will result in future
cash expenditures.
During the years ended December 30, 2023, December 31, 2022, and December
25, 2021, we recorded
restructuring costs of $80 million, $128 million, and $8 million, respectively.
The restructuring costs for these
periods primarily related to severance and employee-related costs,
impairment of intangible assets, accelerated
amortization of right-of-use lease assets and fixed assets, other lease exit
costs, and certain business exit costs
discussed below.
During the year ended December 30, 2023, in connection with our restructuring
plan, we recorded an impairment of
an intangible asset of $12 million related to a planned disposal of a non-U.S.
business.
The disposal is expected to
be completed in 2024.
This impairment is included in the $80 million of restructuring
charges discussed above.
During the year ended December 31, 2022, in connection with our
restructuring plan, we vacated one of the
buildings at our corporate headquarters in Melville, New York, which resulted in an accelerated amortization of a
right-of-use lease asset of $34 million.
We also initiated the disposal of a non-profitable U.S. business and
recorded related costs of $49 million, which primarily consisted of
impairment of intangible assets and goodwill,
inventory impairment, and severance and employee-related costs.
These expenses are included in the $128 million
of restructuring charges discussed above.
The disposal was completed during the first quarter of 2023.
On August 26, 2022, we acquired Midway Dental Supply.
In connection with this acquisition, during the year
ended December 31, 2022, we recorded integration costs of $3 million
related to one-time employee and other
costs, as well as restructuring charges of $9 million, which are included in the
$128 million of restructuring charges
discussed above.
On November 20, 2019, we committed to a contemplated restructuring
initiative intended to mitigate stranded costs
associated with the spin-off of our animal health business and to rationalize operations
and provide expense
efficiencies.
These activities were originally expected to be completed by
the end of 2020 but we extended them to
the end of 2021 in light of the changes to the business environment brought
on by the COVID-19 pandemic.
The
restructuring activities under this prior initiative were completed
in 2021.
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51
2023 Compared to 2022
Note: Percentages for Net Sales; Gross Profit; Operating Expenses; Other
Expense, Net; and Income Taxes are
based on actual values and may not recalculate due to rounding.
Net Sales
Net sales were as follows:
% of
% of
Increase / (Decrease)
2023
Total
2022
Total
$
%
Health care distribution
(1)
Dental
$
7,539
61.1
%
$
7,473
59.1
%
$
66
0.9
%
Medical
3,994
32.4
4,451
35.2
(457)
(10.3)
Total health care distribution
11,533
93.5
11,924
94.3
(391)
(3.3)
Technology and value-added services
(2)
806
6.5
723
5.7
83
11.4
Total
$
12,339
100.0
$
12,647
100.0
$
(308)
(2.4)
The components of our sales growth were as follows:
Local Currency Growth/(Decline)
Total Local
Currency
Growth/(Decline)
Foreign
Exchange
Impact
Total Sales
Growth/(Decline)
Local Internal
Growth
Acquisition
Growth
Extra Week
Impact
Health care distribution
(1)
Dental Merchandise
(1.6)
%
4.2
%
(1.0)
%
1.6
%
0.1
%
1.7
%
Dental Equipment
(0.9)
1.1
(2.1)
(1.9)
-
(1.9)
Total Dental
(1.4)
3.4
(1.3)
0.7
0.2
0.9
Medical
(11.2)
2.2
(1.3)
(10.3)
-
(10.3)
Total Health Care Distribution
(5.1)
2.9
(1.2)
(3.4)
0.1
(3.3)
Technology and value-added services
(2)
7.2
5.0
(0.8)
11.4
-
11.4
Total
(4.4)
3.1
(1.2)
(2.5)
0.1
(2.4)
(1)
Consists of consumable products, dental specialty products (including implant, orthodontic and endodontic products), small
equipment, laboratory products, large equipment, equipment repair services, branded and generic pharmaceuticals, vaccines, surgical
products, diagnostic tests, infection-control products, PPE products and vitamins.
(2)
Consists of practice management software and other value-added products, which are distributed primarily to health care providers,
practice consultancy, education, revenue cycle management and financial services on a non-recourse basis, e-services, continuing
education services for practitioners, consulting and other services.
Global Sales
We report our results of operations on a 52 or 53 weeks per fiscal year basis ending on the last Saturday of
December.
The year ended December 30, 2023, consisted of 52 weeks,
and the year ended, December 31, 2022
consisted of 53 weeks,
resulting in an extra week of sales.
Global net sales for the year ended December 30, 2023 decreased 2.4%.
The components of our sales growth are
presented in the table above.
The 4.4% decrease in our internally generated local currency sales was primarily
attributable to a decrease in sales
of PPE products and COVID-19 test kits.
For the nine months ended September 30, 2023, the estimated
increase in
internally generated local currency sales, excluding PPE products
and COVID-19 test kits, was 3.5%.
However, as
a result of the adverse impact of the cybersecurity incident during the quarter
ended December 30, 2023, our
internally generated local currency sales, excluding sales of PPE products
and COVID-19 test kits, on a full year
basis were flat compared to the prior year.
In addition, we estimate that sales of PPE products and COVID-19
test kits were approximately $713 million and
$1,245 million for the years ended December 30, 2023 and December 31,
2022, respectively, representing an
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52
estimated decrease of $532 million or 42.7%
versus the prior year, with the $532 million net decrease year-over-
year representing 4.2%
of global net sales for the year ended December 30, 2023.
Dental
Dental net sales for the year ended December 30, 2023 increased 0.9%.
The components of our sales growth are
presented in the table above.
Our decrease in internally generated local currency sales for dental
merchandise was
primarily attributable to the negative impact of the cybersecurity incident.
Our sales decrease in internally
generated local currency for dental equipment was also primarily attributable
to the impact of the cybersecurity
incident.
We estimate that sales of PPE products were approximately $338 million and $448 million for the years ended
December 30, 2023 and December 31, 2022, respectively, representing an estimated decrease of $110 million or
24.5% versus the prior year, with the $110 million net decrease year-over-year representing 1.5% of dental net sales
for the year ended December 30, 2023.
The decrease in sales of PPE products is primarily due to lower
market
prices and loss of demand during the cybersecurity incident.
Our estimated internally generated local currency
sales, excluding PPE products were flat compared to the prior year.
Medical
Medical net sales for the year ended December 30, 2023 decreased 10.3%.
The components of our sales growth are
presented in the table above.
The internally generated local currency decrease in medical sales
is primarily
attributable to the impact of the cybersecurity incident that occurred
during the fourth quarter of the year ended
December 30, 2023 and to lower sales of PPE products and COVID-19
test kits and other point-of-care diagnostic
products.
We estimate that sales of PPE products and COVID-19 test kits were approximately $375 million and $797 million
for the years ended December 30, 2023 and December 31, 2022, respectively, representing an estimated decrease
of
$422 million or 52.9% versus the prior year, with the $422 million net decrease year-over-year representing 10.6%
of medical net sales for the year ended December 30, 2023.
The decrease in sales of these products is primarily due
to lower market prices of PPE, lower market demand of COVID-19
test kits, and loss of sales of both product
categories during the cybersecurity incident.
The estimated decrease in internally generated local currency
sales,
excluding PPE products and COVID-19 test kits was 2.2%.
Technology and value-added services
Technology and value-added services net sales for the year ended December 30, 2023 increased 11.4%.
The
components of our sales growth are presented in the table above.
During the year ended December 30, 2023, the
trend for sales of practice management software growth remains
strong as we continued to increase the number of
cloud-based users.
We also experienced increased demand for our revenue cycle management solutions and our
analytical products.
The increase in sales during the year ended December 30, 2023
was partially offset by the
expiration, during the year ended December 31, 2022, of a modestly profitable
government contract in one of our
value-added services businesses.
This segment of our business was largely unaffected by the cybersecurity incident
in the fourth quarter.
Gross Profit
Gross profit and gross margin percentages by segment and in total were as follows:
Gross
Gross
Increase / (Decrease)
2023
Margin %
2022
Margin %
$
%
Health care distribution
$
3,312
28.7
%
$
3,357
28.2
%
$
(45)
(1.3)
%
Technology and value-added services
549
68.0
474
65.5
75
15.7
Total
$
3,861
31.3
$
3,831
30.3
$
30
0.8
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53
As a result of different practices of categorizing costs associated with distribution networks
throughout our
industry, our gross margins may not necessarily be comparable to other distribution companies.
Additionally, we
realize substantially higher gross margin percentages in our technology and value-added services
segment than in
our health care distribution segment.
These higher gross margins result from being both the developer and seller of
software products and services, as well as certain financial services.
The software industry typically realizes higher
gross margins to recover investments in research and development.
Within our health care distribution segment, gross profit margins may vary between the periods as a result of
the
changes in the mix of products sold as well as changes in our customer
mix.
For example, sales of our corporate
brand and certain specialty products achieve gross profit margins that are higher than average
total gross profit
margins of all products.
With respect to customer mix, sales to our large-group customers are typically completed
at lower gross margins due to the higher volumes sold as opposed to the gross margin on sales to office-based
practitioners, who normally purchase lower volumes.
Health care distribution gross profit for the year ended December 30, 2023
decreased compared to the prior-year-
period due to the decrease in sales resulting from the cybersecurity
incident and a reduction in sales of PPE
products and COVID-19 test kits, partially offset by gross profit from acquisitions
and gross margin expansion as a
result of a favorable impact of sales mix of higher-margin products.
Technology and value-added services gross profit increased as a result of a higher gross profit from internally
generated sales and gross profit from acquisitions, as well as an increase
in gross margin rates primarily due to
product mix and increases in productivity.
Operating Expenses
Operating expenses (consisting of selling, general and administrative
expenses; depreciation and amortization,
restructuring and integration costs) by segment and in total were as follows:
% of
% of
Respective
Respective
Increase
2023
Net Sales
2022
Net Sales
$
%
Health care distribution
$
2,842
24.6
%
$
2,738
23.0
%
$
104
3.8
%
Technology and value-added services
404
50.1
346
47.8
58
16.8
Total
$
3,246
26.3
%
$
3,084
24.4
%
$
162
5.3
%
The net increase in operating expenses is attributable to the following:
Operating Costs
Restructuring and
Integration Costs
Acquisitions
Total
Health care distribution
$
92
$
(55)
$
67
$
104
Technology and value-added services
5
4
49
58
Total
$
97
$
(51)
$
116
$
162
The increase in operating costs during the year ended December 30, 2023 includes
increases in payroll and payroll
related costs, travel, convention and consulting expenses in both of our reportable
segments and increased
acquisition expenses in our healthcare distribution segment.
During the year ended December 30, 2023, our
operating expenses were favorably impacted by the recognition of
a remeasurement gain of $18 million following
an acquisition of a controlling interest of a previously held equity
investment, and were negatively impacted by
restructuring, an impairment of capitalized costs of $27 million and impairment
of intangible assets of $7 million
within our health care distribution segment.
During the year ended December 30, 2023, we also incurred $11
million of direct costs, primarily professional fees, for the remediation of
the cybersecurity incident.
The
restructuring and integration costs are primarily related to severance and
employee-related costs, accelerated
amortization of right-of-use lease assets and fixed assets, and other lease exit
costs.
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54
Other Expense, Net
Other expense, net was as follows:
Variance
2023
2022
$
%
Interest income
$
17
$
8
$
9
125.1
%
Interest expense
(87)
(35)
(52)
(148.7)
Other, net
(3)
1
(4)
n/a
Other expense, net
$
(73)
$
(26)
$
(47)
(172.9)
%
Interest income increased primarily due to increased interest rates.
Interest expense increased primarily due to
increased borrowings and increased interest rates.
Income Taxes
Our effective tax rate was 22.1% for the year ended December 30, 2023 compared to 23.5%
for the prior year.
In
each year, the difference between our effective and federal statutory tax rates primarily relates to state and foreign
income taxes and interest expense.
The Organization of Economic Co-Operation and Development (OECD) issued
technical and administrative
guidance on Pillar Two Model Rules in December 2021, which provides for a global minimum tax rate on the
earnings of large multinational businesses, on a country-by-country basis.
Effective January 1, 2024, the minimum
global tax rate is 15% for various jurisdictions pursuant to the Pillar Two framework.
Future tax reform resulting
from these developments may result in changes to long-standing tax principles,
which may adversely impact our
effective tax rate going forward or result in higher cash tax liabilities.
As we operate in jurisdictions which have
adopted Pillar 2, we are continuing to analyze the implications to effectively manage
the impact for 2024 and
beyond.
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55
Liquidity and Capital Resources
Our principal capital requirements have included funding of acquisitions, purchases
of additional noncontrolling
interests, repayments of debt principal, the funding of working capital needs,
purchases of fixed assets and
repurchases of common stock.
Working capital requirements generally result from increased sales, special
inventory forward buy-in opportunities and payment terms for receivables
and payables.
Historically, sales have
tended to be stronger during the second half of the year and special inventory
forward buy-in opportunities have
been most prevalent just before the end of the year, and have caused our working capital requirements
to be higher
from the end of the third quarter to the end of the first quarter of
the following year.
We finance our business primarily through cash generated from our operations, revolving credit facilities and debt
placements.
Please see
Note 13 – Debt
for further information.
Our ability to generate sufficient cash flows from
operations is dependent on the continued demand of our customers
for our products and services, and access to
products and services from our suppliers.
Our business requires a substantial investment in working capital, which
is susceptible to fluctuations during the
year as a result of inventory purchase patterns and seasonal demands.
Inventory purchase activity is a function of
sales activity, special inventory forward buy-in opportunities and our desired level of inventory.
We anticipate
future increases in our working capital requirements.
We finance our business to provide adequate funding for at least 12 months.
Funding requirements are based on
forecasted profitability and working capital needs, which, on occasion, may
change.
Consequently, we may change
our funding structure to reflect any new requirements.
We believe that our cash and cash equivalents, our ability to access private debt markets and public equity markets,
and our available funds under existing credit facilities provide us with
sufficient liquidity to meet our currently
foreseeable short-term and long-term capital needs.
Our acquisition strategy is focused on investments in companies that
add new customers and sales teams, increase
our geographic footprint (whether entering a new country, such as emerging markets, or building scale where we
have already invested in businesses), and finally, those that enable us to access new products and technologies.
As
part of our BOLD+1 Strategic Plan, including pursuing focused mergers and acquisitions,
during the year ended
December 30, 2023 we have announced acquisitions of companies specializing
in implant systems, clear aligners,
homecare medical products delivered directly to patients, and dental practice
transition services.
Net cash provided by operating activities was $500 million for the
year ended December 30, 2023, compared to net
cash provided by operating activities of $602 million for the prior year.
The net change of $102 million was
primarily attributable to lower cash net income.
During the quarter ended December 30, 2023, the cybersecurity
incident had several offsetting impacts to the operating cash flows from our working
capital, net of acquisitions,
including a decrease in operating cash flows from accounts receivable
due to delayed timing of billings and limited
collection efforts resulting from the impact of the cybersecurity incident, and an increase
in operating cash flows
resulting from reduced inventory purchases.
Net cash used in investing activities was $1,135 million for the
year ended December 30, 2023, compared to net
cash used in investing activities of $276 million for the prior year.
The net change of $859 million was primarily
attributable to increased payments for equity investments and business acquisitions,
and increased purchases of
fixed assets resulting from our continued investment in our facilities and operations.
Net cash provided by financing activities was $701 million for the year
ended December 30, 2023, compared to net
cash used in financing activities of $315 million for the prior year.
The net change of $1,016 million was primarily
due to increased net borrowings from debt
to finance our investments, partially offset by decreased repurchases of
common stock.
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56
The following table summarizes selected measures of liquidity and capital
resources:
December 30,
December 31,
2023
2022
Cash and cash equivalents
$
171
$
117
Working
capital
(1)
1,805
1,764
Debt:
Bank credit lines
$
264
$
103
Current maturities of long-term debt
150
6
Long-term debt
1,937
1,040
Total debt
$
2,351
$
1,149
Leases:
Current operating lease liabilities
$
80
$
73
Non-current operating lease liabilities
310
275
(1)
Includes $284 million and $327 million of certain accounts receivable which serve as security for U.S. trade accounts receivable
securitizations at December 30, 2023 and December 31, 2022, respectively.
Our cash and cash equivalents consist of bank balances and investments
in money market funds representing
overnight investments with a high degree of liquidity.
Accounts receivable days sales outstanding and inventory turns
Our accounts receivable days sales outstanding from operations
increased to 46.2 days as of December 30, 2023
from 41.9 days as of December 31, 2022 due to delays in billings
leading to limited collections in the quarter ended
December 30, 2023 as a result of the cybersecurity incident.
During the years ended December 30, 2023 and
December 31, 2022, we wrote off approximately $16 million and $10 million, respectively, of fully reserved
accounts receivable against our trade receivable reserve.
Our inventory turns from operations was 4.5 as of
December 30, 2023 and 4.7 as of December 31, 2022.
Our working capital accounts may be impacted by current
and future economic conditions.
Contractual obligations
The following table summarizes our contractual obligations related
to fixed and variable rate long-term debt and
finance lease obligations, including interest (assuming a weighted
average interest rate of 4.8%), as well as
inventory purchase commitments and operating lease obligations
as of December 30, 2023:
Payments due by period
1 year
2 - 3 years
4 - 5 years
5 years
Total
Contractual obligations:
Long-term debt, including interest
$
243
$
1,097
$
346
$
783
$
2,469
Inventory purchase commitments
5
8
4
-
17
Operating lease obligations
92
141
86
119
438
Transition tax obligations
11
24
-
-
35
Finance lease obligations, including interest
4
3
2
-
9
Total
$
355
$
1,273
$
438
$
902
$
2,968
For information relating to our debt please see
Note 13 – Debt
.
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57
Leases
We have operating and finance leases for corporate offices, office space, distribution and other facilities, vehicles
and certain equipment.
Our leases have remaining terms of less than one year to
approximately 18 years, some of
which may include options to extend the leases for up to 15 years.
As of December 30, 2023, our right-of-use
assets related to operating leases were $325 million and our current and non-current
operating lease liabilities were
$80 million and $310 million, respectively.
Please see
Note 7 – Leases
for further information.
Stock Repurchases
On February 8, 2023, our Board authorized the repurchase of up
to an additional $400 million in shares of our
common stock.
From March 3, 2003 through December 30, 2023, we repurchased $4.7
billion, or 90,394,805 shares, under our
common stock repurchase programs, with $265 million available
as of December 30, 2023 for future common stock
share repurchases.
Redeemable Noncontrolling Interests
Some minority stockholders in certain of our consolidated subsidiaries have
the right, at certain times, to require us
to acquire their ownership interest in those entities.
Accounting Standards Codification Topic 480-10 is applicable
for noncontrolling interests where we are or may be required to purchase
all or a portion of the outstanding interest
in a consolidated subsidiary from the noncontrolling interest holder
under the terms of a put option contained in
contractual agreements.
As of December 30, 2023 and December 31, 2022,
our balance for redeemable
noncontrolling interests was $864 million and $576 million, respectively.
Please see
Note 19 – Redeemable
Noncontrolling Interests
for further information.
Unrecognized tax benefits
As more fully disclosed in
Note 14 – Income Taxes
of “Notes to Consolidated Financial Statements,” we cannot
reasonably estimate the timing of future cash flows related to our unrecognized
tax benefits, including accrued
interest, of $115 million as of December 30, 2023.
Critical Accounting Estimates
Our accounting policies are more fully described in
Note 1 – Basis of Presentation and Significant Accounting
Policies
of the consolidated financial statements.
The preparation of consolidated financial statements requires us
to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues
and expenses and
related disclosures of contingent assets and liabilities.
We base our estimates on historical data, when available,
experience, industry and market trends, and on various other assumptions
that are believed to be reasonable under
the circumstances, the combined results of which form the basis for
making judgments about the carrying values of
assets and liabilities that are not readily apparent from other sources.
We believe that the estimates, judgments and
assumptions upon which we rely are reasonable based upon information
available to us at the time that these
estimates, judgments and assumptions are made.
However, by their nature, estimates are subject to various
assumptions and uncertainties.
Therefore, reported results may differ from estimates and any such differences may
be material to our consolidated financial statements.
We believe that the following critical accounting estimates, which have been discussed with the Audit Committee
of our Board, affect the significant estimates and judgments used in the preparation
of our consolidated financial
statements:
Inventories and Reserves
Inventories consist primarily of finished goods and are valued at
the lower of cost or net realizable value.
Cost is
determined by the first-in, first-out method for merchandise and actual cost
for large equipment and high tech
equipment.
In estimating carrying value of inventory, we consider many factors including the condition and
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58
salability of the inventory by reviewing on-hand quantities, historical sales,
forecasted sales and market and
economic trends.
Certain of our products, specifically PPE and COVID-19 test kits, have experienced
changes in
net realizable value, due to volatility of pricing and changes in demand
for these products.
Business Combinations
The estimated fair value of acquired identifiable intangible assets (i.e., customer
relationships and lists, trademarks
and trade names, product development and non-compete agreements)
is based on critical judgments and
assumptions derived from analysis of market conditions, including discount
rates, projected revenue growth rates
(which are based on historical trends and assessment of financial projections),
estimated customer attrition and
projected cash flows.
These assumptions are forward-looking and could be affected by future economic
and market
conditions.
Please see
Note 5 – Business Acquisitions and Divestitures
for further discussion of our acquisitions.
Goodwill
Goodwill is subject to impairment analysis at least once annually as
of the first day of our fourth quarter, or if an
event occurs or circumstances change that would more likely than
not reduce a reporting unit’s fair value below
carrying value.
We regard our reporting units to be our operating segments: our global dental and medical
businesses, and technology and value-added services.
Goodwill is allocated to such reporting units, for the
purposes of preparing our impairment analyses, based on a specific identification
basis.
Application of the goodwill impairment test requires judgment, including
the identification of reporting units,
assignment of assets and liabilities that are considered shared services
to the reporting units, and ultimately the
determination of the fair value of each reporting unit.
The fair value of each reporting unit is calculated by
applying the discounted cash flow methodology and confirming with
a market approach.
There are inherent
uncertainties, however, related to fair value models, the inputs and our judgments in applying them
to this analysis.
The most significant inputs include estimation of detailed future cash flows based
on budget expectations, and
determination of comparable companies to develop a weighted average
cost of capital for each reporting unit.
On an annual basis, we prepare financial projections.
These projections are based on input from our leadership and
are presented annually to our Board.
Influences on this year's forecasted financial information and
the fair value
model include: the impact of planned strategic initiatives, the continued
integration of recent acquisitions and
overall market conditions.
The estimates used to calculate the fair value of a reporting unit change
from year to
year based on operating results, market conditions, and other factors.
Our third-party valuation specialists provide inputs into our determination
of the discount rate.
The rate is
dependent on a number of underlying assumptions, including the risk-free rate,
tax rate, equity risk premium, debt
to equity ratio and pre-tax cost of debt.
Long-term growth rates are applied to our estimation of future cash flows.
The long-term growth rates are tied to
growth rates we expect to achieve beyond the years for which we have
forecasted operating results.
We also
consider external benchmarks, and other data points which we believe are
applicable to our industry and the
composition of our global operations.
For the years ended December 30, 2023 and December 25, 2021, we believe
the fair value of each of our reporting
units sufficiently exceeds the carrying values and thus we did not record any amount
for goodwill impairment.
Based on our quantitative assessment for the year ended December 31, 2022,
we recorded a $20 million impairment
of goodwill relating to the disposal of an unprofitable business for which
estimated fair value was lower than
carrying value.
As part of our analysis for the rest of the goodwill balance, we performed
a sensitivity analysis on
the discount rate and long-term growth rate assumptions.
The sensitivities did not result in any additional
impairment charges.
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59
Definite-Lived Intangible Assets
Annually or if we identify an impairment indicator,
definite-lived intangible assets such as non-compete
agreements, trademarks, trade names, customer relationships and lists, and
product development are reviewed for
impairment indicators.
If any impairment indicators exist, quantitative testing
is performed on the asset.
The quantitative impairment model is a two-step test under which we
first calculate the recoverability of the
carrying value by comparing the undiscounted projected cash flows associated
with the asset or asset group,
including its estimated residual value, to the carrying amount.
If the cash flows associated with the asset or asset
group are less than the carrying value, we perform a fair value assessment
of the asset, or asset group.
If the
carrying amount is found to be greater than the fair value, we record an
impairment loss for the excess of book
value over the fair value.
In addition, in all cases of an impairment review, we re-evaluate the remaining useful
lives of the assets and modify them, as appropriate.
Although we believe our judgments, estimates and/or
assumptions used in estimating cash flows and determining fair value
are reasonable, making material changes to
such judgments, estimates and/or assumptions could materially affect such impairment
analyses and our financial
results.
During the year ended December 30, 2023 we recorded $19 million of
impairment charges related to businesses in
our health care distribution segment, the components of which were
$7 million primarily related to customer lists
and relationships attributable to lower than anticipated operating
margins in certain businesses, and a $12 million
charge related to the planned exit of a business.
These impairment charges were calculated as the differences
between the carrying values and the estimated fair values of the impaired
intangible assets, using a discounted
estimate of future cash flows.
Please see
Note 15 – Plans of Restructuring and Integration Costs
for additional
details.
During the year ended December 31, 2022 we recorded $49 million of
impairment charges related to businesses in
our health care distribution segment, the components of which were
a $15 million charge related to the disposal of
an unprofitable business and a $34 million charge related to customer lists and relationships
attributable to
customer attrition rates being higher than expected in certain other
health care distribution businesses.
These
impairment charges were calculated as the differences between the carrying values and the
estimated fair values of
the impaired intangible assets, using a discounted estimate of future
cash flows.
Please see
Note 15 – Plans of
Restructuring and Integration Costs
for additional details.
During the year ended December 25, 2021, we recorded a $1 million
impairment charge related ratably to a
business within our health care distribution segment and a business within
our technology and value-added services
segment.
Redeemable Noncontrolling Interests
Some minority stockholders in certain of our consolidated subsidiaries have
the right, at certain times, to require us
to acquire their ownership interest in those entities at fair value.
The redemption amounts have been estimated
based on recent transactions, expected future earnings and cash flows
and, if such earnings and cash flows are not
achieved, the value of the redeemable noncontrolling interests might be impacted.
See
Note 1 – Basis of
Presentation and Significant Accounting Policies
and
Note 19 – Redeemable Noncontrolling Interests
for additional
information.
Income Tax
When determining if the realization of a deferred tax asset is likely to assess
the need to record a valuation
allowance, estimates and judgement are required.
We
consider all available evidence, both positive and negative,
including estimated future taxable earnings, ongoing planning strategies,
future reversals of existing temporary
differences and historical operating results.
Additionally, changes to tax laws and statutory tax rates can have an
impact on our determination.
Our intention is to evaluate the realizability of our deferred tax assets quarterly.
ASC Topic 740 prescribes the accounting for uncertainty in income taxes recognized in the financial statements in
accordance with provisions contained within its guidance.
This topic prescribes a recognition threshold and a
measurement attribute for the financial statement recognition and measurement
of tax positions taken or expected to
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60
be taken in a tax return.
For those benefits to be recognized, a tax position must be more
likely than not to be
sustained upon examination by the taxing authorities.
The amount recognized is measured as the largest amount of
benefit that has a greater than 50% likelihood of being realized upon ultimate
audit settlement.
In the normal
course of business, our tax returns are subject to examination by various
taxing authorities.
Such examinations may
result in future tax and interest assessments by these taxing authorities for uncertain
tax positions taken in respect of
certain tax matters.
Please see
Note 14 – Income Taxes
for further discussion.
The Financial Accounting Standards Board Staff Q&A, Topic 740 No. 5, Accounting for Global Intangible Low-
Taxed Income (“GILTI”),
states that an entity can make an accounting policy election to
either recognize deferred
taxes for temporary differences expected to reverse as GILTI in future years or provide for the tax expense related
to GILTI in the year the tax is incurred.
We have elected to recognize the tax on GILTI as a period expense in the
period the tax is incurred.
Accounting Standards Update
For a discussion of accounting standards updates that have been adopted
or will be adopted in the future, please see
Note 1 – Basis of Presentation and Significant Accounting Policies
included under Item 8.