# LABCORP HOLDINGS INC. (LH) FY 2022 MD&A

Verbatim Item 7 Management's Discussion and Analysis from LABCORP HOLDINGS INC.'s 10-K for fiscal year 2022.

SEC filing source: https://www.sec.gov/Archives/edgar/data/920148/000092014823000017/lh-20221231.htm
Accession: 0000920148-23-000017
Filing date: 2023-02-28
Report date: 2022-12-31
Extracted structurally from real Item 7 body heading to real Item 7A/8 boundary. Published MD&A gate trimmed front/tail over-capture.
Confidence: high

Company profile: /company/LH/
All MD&A years: /company/LH/mda/
Previous year: /company/LH/mda/fy2021/ (FY 2021)
Next year: /company/LH/mda/fy2023/ (FY 2023)

Item 7.       MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (in millions)

General

During the year ended December 31, 2022, the Company's revenues were $14.9 billion, a decrease of 7.7% from $16.1 billion in 2021. The decrease was due to lower organic revenue of 7.5% and foreign currency translation of 1.0%, partially offset by acquisitions net of divestitures of 0.8%. The 7.5% decrease in organic revenue was due to a 10.0% decrease in COVID-19 Testing, partially offset by a 2.5% increase in the Company's organic Base Business.

The Company defines organic growth as the increase in revenue excluding the year over year impact of acquisitions, divestitures, and currency. Acquisition and divestiture impact is considered for a twelve-month period following the close of each transaction. Base Business includes the Company's business operations except for COVID-19 Testing.

Strategic Review of Company Structure and Capital Allocation Strategy

In March 2021, the Company announced the undertaking of a comprehensive review by its board of directors (the Board) and management team of the Company's structure and capital allocation strategy. In December 2021, the Company announced the Board's conclusion, as well as actions that the management team and the Board would take to enhance shareholder returns. These actions have included:

•initiating a dividend in the second quarter of 2022, as well as subsequent dividends paid in the third and fourth quarters of 2022, with total dividend payments for 2022 in the amount of $195.2 million;

•authorizing a $2.50 billion share repurchase program. As part of this program, $1.0 billion was repurchased under an accelerated share repurchase plan in 2021, and a total of $1.1 billion of stock was repurchased in 2022, representing approximately 4.7 million shares;

•implementing a new LaunchPad business process improvement initiative, targeting savings of $350.0 million through 2025;

54

•providing a longer-term outlook in connection with the announcement of the Company's 2021 year-end results in addition to the Company's annual guidance;

•providing additional business insights through enhanced disclosures beginning with the Company's results for the first quarter of 2022; and

•continuing a commitment to profitable growth through investments in science, innovation, and new technologies; and

On July 28, 2022, the Company announced that it would pursue a planned spin-off of its Clinical Development and Commercialization Services (CDCS) business, as further discussed below.

Management and the Board are committed to continuing to evaluate all avenues for enhancing shareholder value.

The updated capital allocation plan is designed to enable the Company to continue investment in key growth areas. This plan is expected to fuel growth through innovation by using the Company's unique data and insights to bring scientific advancements—both those developed internally and those developed by outside companies and scientists—to market at scale. It reflects the Board's confidence in the Company's strong balance sheet and cash flow generation profile, as well as the Board's commitment to deploying capital to enhance value for shareholders, patients, providers, and pharmaceutical customers worldwide.

Spin-Off of the Company's CDCS Business

On July 28, 2022, the Company announced that the Board authorized the Company to pursue a spin-off of the Company’s wholly owned CDCS business to its shareholders through a tax-free transaction. The planned spin-off will result in two independent companies, each poised for strong, sustainable growth. On January 9, 2023, Thomas (Tom) Pike joined the Company as president and chief executive officer of its DD Clinical Development business unit, and when the planned spin-off is complete, Mr. Pike will become the chief executive officer and chairman of the board of directors of the independent, publicly listed company. On February 9, 2023, the Company announced that the name of the CDCS business will become Fortrea in connection with the planned spin-off.

The Company is targeting completion of the planned spin-off in mid-2023. The planned spin-off will be subject to the satisfaction of certain customary conditions, including, among others, the receipt of final approval by the Company's Board, the receipt of appropriate assurances regarding the tax-free nature of the separation and effectiveness of any required filings with the U.S. Securities and Exchange Commission (SEC). There can be no assurances regarding the ultimate timing of the transaction or that the spin-off will be completed.

When the transaction is complete, the resulting companies will be Labcorp, comprising the Company’s routine and esoteric labs, central labs and early development research labs, and Fortrea, a global contract research organization (CRO) providing Phase I-IV clinical trial management, market access and technology solutions to pharmaceutical and biotechnology organizations.

The planned spin-off is expected to provide each company with:

•strengthened strategic flexibility and operational focus to pursue specific market opportunities and better meet customer needs;

•focused capital structures and capital allocation strategies to drive innovation and growth;

•a more targeted investment opportunity for different investor bases; and

•the ability to align its particular incentive compensation with its financial performance.

Following the planned spin-off, the Company believes that Labcorp will be positioned to:

•invest in R&D and innovation to develop and launch diagnostic advancements globally in key clinical areas including oncology, Alzheimer's, and autoimmune and liver disease through organic and inorganic opportunities;

•bring together its global health and patient data and provide insights to enable customers to innovate;

•utilize its worldwide laboratory network to serve a broad, growing and global customer base including pharmaceutical and biotechnology companies, physicians, health systems, consumers, and other start-ups and laboratories that require lab services or diagnostic testing; and

•launch innovative tests globally, providing patients, physicians, health systems and pharmaceutical companies with access to its advanced science, technology and diagnostic capabilities.

Following the planned spin-off, the Company believes that Fortrea will be positioned to:

•capitalize on growth opportunities across Phases I-IV clinical trials and extend its leadership in oncology, cell and gene therapy, rare disease, and other emerging therapeutic areas;

•increase agility with large pharmaceutical and biotechnology clients to better serve customers and advance life-saving therapies;

•access to unique data sets and insights through an arrangement with the Company for a defined period of time which will enable Fortrea to provide enhanced trial execution and a differentiated value proposition;

55

•invest in capabilities, technologies, diverse talent and innovation to enhance trial execution and better serve all of its customers; and

•implement a capital structure that is tailored to support its growth strategy and enhance stakeholder value.

The planned spin-off is intended to qualify as a tax-free transaction for U.S. federal income tax purposes. See “Risk Factors - Risks Related to the Planned Spin-off of the Company’s Clinical Development and Commercialization Services Business.”

Unless otherwise indicated, the disclosure in this Annual Report assumes that Clinical Development and Commercialization Services business will be with the Company for the full year.

COVID-19 Outlook

While the Company anticipates that COVID-19 will continue impacting its business in 2023 and potentially beyond, the Company expects a continued decline in demand for COVID-19 Testing, with the potential for increases in demand at different times and across different geographies. As a result, COVID-19 Testing demand in 2023 is not predicted to match 2022 levels.

Results of Operations

The following tables present the financial measures that management considers to be the most significant indicators of the Company's performance. For discussion of 2021 results and comparison with 2020 results refer to “Management's Discussion and Analysis of Financial Conditions and Results of Operations” in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2021.

Years ended December 31, 2022 and 2021

Revenues

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Dx","$","9,203.5","","","$","10,363.6","","","(11.2)","%"],["DD","5,710.2","","","5,845.5","","","(2.3)","%"],["Intercompany eliminations","(36.9)","","","(88.2)","","","58.2","%"],["Total","$","14,876.8","","","$","16,120.9","","","(7.7)","%"]]
[[/GREPCENT_TABLE]]

The 7.7% decrease in revenues for the year ended December 31, 2022, as compared to the corresponding period in 2021 was due to lower organic revenue of 7.5% and unfavorable foreign currency translation of 1.0%, partially offset by acquisitions net of divestitures of 0.8%. The 7.5% decrease in organic revenue was due to a 10.0% decrease in COVID-19 Testing, partially offset by a 2.5% increase in the Company's organic Base Business.

Dx revenues for the year ended December 31, 2022, were $9,203.5, a decrease of 11.2% compared to revenues of $10,363.6 in the corresponding period in 2021. The decrease was primarily due to lower organic revenue of 12.1% and unfavorable foreign currency translation of 0.1%, partially offset by acquisitions of 1.1%. The 12.1% decrease in organic revenue was due to a 15.6% decrease in COVID-19 Testing, partially offset by a 3.4% contribution from organic Base Business.

Total volume, measured by requisitions, decreased by 7.5% as organic volume decreased by 8.4% and acquisition volume contributed growth of 0.8%. Organic volume was impacted by a 10.4% decrease in COVID-19 Testing, partially offset by a 2.0% increase in Base Business. Price/mix decreased by 3.7% due to lower COVID-19 Testing of 5.2% and unfavorable foreign currency translation of 0.1%, partially offset by higher Base Business of 1.4% and acquisitions of 0.2%.

DD revenues for the year ended December 31, 2022, were $5,710.2, a decrease of 2.3% over revenues of $5,845.5 in the corresponding period in 2021. The decrease in revenues was primarily due to unfavorable foreign currency translation of 2.6% and lower COVID-19 Testing of 0.6%, partially offset by organic base business growth of 0.5%, and acquisitions net of divestitures of 0.3%.

Cost of Revenues

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Cost of revenues","$","10,491.7","","$","10,496.6","","\u2014","%"],["Cost of revenues as a % of revenues","70.5","%","","65.1","%"]]
[[/GREPCENT_TABLE]]

Cost of revenues were flat in 2022 as compared with 2021 and increased as a percentage of revenues to 70.5% in 2022 as compared to 65.1% in 2021. This increase in cost of revenues as a percentage of revenues was primarily due to a reduction in

56

Index

higher margin COVID-19 Testing, higher personnel expenses, and other inflationary costs, partially offset by organic Base Business growth and LaunchPad savings.

Selling, General and Administrative Expenses

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Selling, general and administrative expenses","$","1,996.6","","$","1,952.1","","2.3","%"],["SG&A as a % of revenues","13.4","%","","12.1","%"]]
[[/GREPCENT_TABLE]]

Selling, general and administrative expenses as a percentage of revenues increased to 13.4% in 2022 compared to 12.1% in 2021. The increase in selling, general and administrative expenses as a percentage of revenues is primarily due to a decrease in higher margin COVID-19 Testing and higher personnel costs, partially offset by LaunchPad savings.

Goodwill and Other Asset Impairments

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Goodwill and other asset impairments","$","271.5","","","$","\u2014","","","100.0%"]]
[[/GREPCENT_TABLE]]

The 2022 impairment charges were primarily comprised of $260.0 of goodwill impairment for the early development reporting unit, which is part of the DD segment, and the impairment of a technology intangible asset. There were no goodwill and other asset impairments for the year ended December 31, 2021.

Amortization of Intangibles and Other Assets

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Amortization of intangibles and other assets","$","259.3","","","$","369.6","","","(29.8)","%"]]
[[/GREPCENT_TABLE]]

The decrease in amortization of intangibles and other assets for the year ended December 31, 2022 is primarily due to $88.4 in amortization acceleration of certain intangible assets related to trade names as a result of the Company's rebranding initiative recognized during 2021, partially offset by the impact of acquisitions.

Restructuring and Other Charges

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Restructuring and other charges","$","83.8","","","$","43.1","","","94.5","%"]]
[[/GREPCENT_TABLE]]

 During 2022, the Company recorded net restructuring charges of $83.8. The charges were comprised of $39.3 in severance and other personnel costs, $45.7 in facility-related costs primarily associated with general integration activities. The charges were offset by the reversal of previously established liability of $0.3 in unused severance and $0.9 in unused facility-related costs.

During 2021, the Company recorded net restructuring charges of $43.1. The charges were comprised of $16.3 in severance and other personnel costs and $28.0 in facility closures, lease terminations, and general integration activities. The charges were offset by the reversal of previously established liability of $0.4 and $0.8 in unused severance costs and facility-related costs, respectively.

Interest Expense

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Interest expense","$","180.3","","","$","212.1","","","(15.0)","%"]]
[[/GREPCENT_TABLE]]

The decrease in interest expense for 2022 as compared with the corresponding period in 2021 is primarily due to the costs of redeeming the outstanding 3.20% senior notes due February 1, 2022 and the 3.75% notes due August 23, 2022 and issuing the new senior notes in 2021 and lower outstanding debt partially offset by a higher average cost of debt in 2022.

57

Index

Equity Method Income, Net

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Equity method income, net","$","5.4","","","$","26.5","","","(79.7)","%"]]
[[/GREPCENT_TABLE]]

Equity method income, net represents the Company's ownership share in joint venture partnerships along with equity investments in other companies in the health care industry. The decrease in income for 2022 as compared with the corresponding period in 2021 was primarily due to the decreased profitability of the Company's joint ventures in 2022.

Other, Net

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Other, net","$","(25.3)","","","$","42.5","","","159.8","%"]]
[[/GREPCENT_TABLE]]

The change in Other, net for the year ended December 31, 2022, as compared to the year ended December 31, 2021, was primarily due to investment losses of $19.6 compared to $61.8 of investment gains in the corresponding period of 2021. In addition, foreign currency transaction losses of $5.0 and $4.4 were recognized for the years ended December 31, 2022 and 2021, respectively.

Income Tax Expense

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021"],["Income tax expense","$","302.0","","","$","747.1"],["Income tax expense as a % of income before tax","19.1","%","","23.9","%"]]
[[/GREPCENT_TABLE]]

The current year effective tax rate was favorably impacted by the Company's research and development tax credits, changes in effective state income tax rates, and deferred tax adjustments. During the third quarter, the Company completed a detailed domestic research and development tax credit analysis for the 2019, 2020, and 2021 tax years that resulted in an incremental income tax benefit. The prior year effective tax rate was favorably impacted by stock-based compensation arrangements that was offset by the deferred revaluation related to the U.K. rate change.

Operating Results by Segment

During the fourth quarter of 2022, the Company modified the segment performance measure to exclude the amortization of intangibles and other assets, restructuring and other charges, goodwill and other asset impairments, and certain corporate charges for items such as transaction costs, COVID-19 costs, and other special items. These changes align with how the CODM now evaluates segment performance and allocates resources. Prior periods have been conformed for comparability.

[[GREPCENT_TABLE]]
[["","Years Ended December 31,"],["","2022","","2021","","Change"],["Dx segment operating income","$","2,025.5","","","$","3,205.6","","","(36.8)","%"],["Dx segment operating margin","22.0","%","","30.9","%","","(8.9)","%"],["DD segment operating income","801.1","","","887.1","","","(9.7)","%"],["DD segment operating margin","14.0","%","","15.2","%","","(1.1)","%"],["Segment operating income","2,826.6","","","4,092.7","","","(30.9)","%"],["General corporate and unallocated expenses","(438.1)","","","(420.5)","","","4.2","%"],["Amortization of intangibles and other assets","(259.3)","","","(369.6)","","","(29.8)","%"],["Restructuring and other charges","(83.8)","","","(43.1)","","","94.4","%"],["Goodwill and other asset impairments","(271.5)","","","\u2014","","","100.0","%"],["Total operating income","$","1,773.9","","","$","3,259.5","","","(45.6)","%"]]
[[/GREPCENT_TABLE]]

Dx operating income was $2,025.5 for the year ended December 31, 2022, a decrease of 36.8% over operating income of $3,205.6 in the corresponding period of 2021, and Dx operating margin decreased 890 basis points in operating margin year-over-year. The decrease in operating income and margin were primarily due to a reduction in COVID-19 Testing, higher personnel expense, the mix impact from Ascension, partially offset by organic Base Business growth.

58

Index

DD operating income was $801.1 for the year ended December 31, 2022, a decrease of 9.7% from operating income of $887.1 in the corresponding period of 2021. The decrease was primarily due to a reduction in COVID-19 Testing, a reduction in COVID-19 related work, the interruption of some clinical trial activity due to the Ukraine/Russia crisis, and other inflationary costs. These impacts were partially offset by Base Business growth and LaunchPad savings.

General corporate expenses are comprised primarily of administrative services such as executive management, human resources, legal, finance, corporate affairs, and information technology. Corporate expenses were $438.1 for the year ended December 31, 2022, an increase of 4.2% over corporate expenses of $420.5 in the corresponding period of 2021, primarily due to higher personnel costs, bonus allocation, research and development costs, and other costs.

Liquidity, Capital Resources and Financial Position

The Company's strong cash-generating capability and financial condition typically have provided ready access to capital markets. The Company's principal source of liquidity is operating cash flow, supplemented by proceeds from debt offerings. The Company's senior unsecured revolving credit facility is further discussed in Note 10 Debt to the Company's Consolidated Financial Statements.

In summary the Company's cash flows were as follows:

[[GREPCENT_TABLE]]
[["","For the Year Ended December 31,"],["","2022","","2021"],["Net cash provided by operating activities","$","1,955.9","","","$","3,109.6"],["Net cash used for investing activities","(1,652.2)","","","(884.6)"],["Net cash used for financing activities","(1,322.2)","","","(2,065.8)"],["Effect of exchange rate on changes in cash and cash equivalents","(24.2)","","","(7.3)"],["Net change in cash and cash equivalents","$","(1,042.7)","","","$","151.9"]]
[[/GREPCENT_TABLE]]

Cash and Cash Equivalents

Cash and cash equivalents at December 31, 2022 and 2021 totaled $430.0 and $1,472.7, respectively. Cash and cash equivalents consist of highly liquid instruments, such as time deposits and other money market investments, which have original maturities of three months or less.

Cash Flows from Operating Activities

During the year ended December 31, 2022, the Company's operations provided $1,955.9 of cash as compared to $3,109.6 in 2021. The $1,153.7 decrease in cash provided from operations in 2022 as compared with the corresponding 2021 period was primarily due to lower cash earnings as COVID-19 revenues decreased significantly.

Cash Flows from Investing Activities

Net cash used by investing activities for the year ended December 31, 2022 was $1,652.2 as compared to net cash used by investing activities of $884.6 for the year ended December 31, 2021. The $767.6 increase in net cash used by investing activities for the year ended December 31, 2022, was primarily due to a year over year increase of $667.1 in cash paid for acquisitions. The Company had proceeds of $87.3 from the sale of assets and disposition of businesses during 2021 in comparison to $1.4 during 2022. Capital expenditures were $481.9 and $460.4 for the years ended December 31, 2022 and 2021, respectively. Capital expenditures in 2022 were 3.2% of revenues, primarily in connection with projects to support growth in the Company's core businesses. The Company intends to continue to pursue acquisitions to drive growth, to make important investments in its business, including in information technology, and to improve efficiency and enable the execution of the Company's mission. Such expenditures are expected to be funded by cash flow from operations or, as needed, through borrowings under debt facilities, including the Company's revolving credit facility or any successor facility. The Company expects capital expenditures in 2023 to be approximately 3.5% of revenues, primarily in connection with projects to support growth in the Company's core businesses, facility updates, projects related to LaunchPad, and further acquisition integration initiatives.

Cash Flows from Financing Activities

Net cash used in financing activities for the year ended December 31, 2022 was $1,322.2 compared to cash used in financing activities of $2,065.8 for the year ended December 31, 2021. This movement in cash within financing activities for 2022, as compared to 2021, was primarily a result of $1,100.0 in share repurchases in 2022 compared to $1,668.5 in 2021 and the commencement of quarterly dividend payments in the second quarter of 2022.

On May 26, 2021, the Company issued new senior notes representing $1,000.0 in debt securities and consisting of $500.0 aggregate principal amount of 1.55% senior notes due 2026 and $500.0 aggregate principal amount of 2.70% senior notes due 2031. Interest on these notes is payable semi-annually in arrears on June 1 and December 1 of each year, commencing on

59

Index

December 1, 2021. Net proceeds from the offering of these notes were $989.4 after deducting underwriting discounts and other expenses of the offering. The net proceeds were used to redeem, prior to maturity, the Company's outstanding 3.20% senior notes due February 1, 2022 and 3.75% senior notes due August 23, 2022.

During the second quarter of 2021, the Company entered into fixed-to-variable interest rate swap agreements for its 2.70% senior notes due 2031 with an aggregate notional amount of $500.0 and variable interest rates based on three-month LIBOR plus 1.0706%. These instruments are designated as hedges against changes in the fair value of a portion of the Company's long-term debt. The aggregate fair value of $79.7 at December 31, 2022, was included as a component of other long-term liabilities and deducted from the reported value of the senior notes.

On April 30, 2021, the Company amended and restated its revolving credit facility. It consists of a five-year revolving facility in the principal amount of up to $1,000.0, with the option of increasing the facility by up to an additional $500.0, subject to the agreement of one or more new or existing lenders to provide such additional amounts and certain other customary conditions. The Company is required to pay a facility fee on the aggregate commitments under the revolving credit facility, at a per annum rate ranging from 0.100% to 0.225%, depending on the Company’s debt ratings. Borrowings under the revolving credit facility will accrue interest at a per annum rate equal to, at the Company’s election, either (x) a LIBOR rate plus a margin ranging from 0.775% to 1.275% or (y) a base rate plus a margin ranging from 0% to 0.275%, in each case, depending on the Company’s debt ratings.

The Company continues to evaluate its outstanding debt portfolio to take advantage of market conditions that would allow the Company to reduce its interest rate or financing risk and provide a lower long-term borrowing cost.

Under the Company's revolving credit facility, the Company is subject to negative covenants limiting subsidiary indebtedness and certain other covenants typical for investment grade-rated borrowers and the Company is required to maintain certain leverage ratios. The Company was in compliance with all covenants under the revolving credit facility at December 31, 2022, and expects that it will remain in compliance with its existing debt covenants for the next twelve months.

During 2022, the Company repurchased 5.6 shares of its common stock at an average price of $233.48 for a total cost of $1,100.0. This included 0.9 shares which were repurchased in 2022 but were part of the $1,000.0 ASR Program paid for in 2021. At the end of 2022, the Company had outstanding authorization from the Board to purchase $531.5 of Company common stock. The repurchase authorization has no expiration date. On February 7, 2023, the board of directors adopted a new share repurchase plan authorizing up to $1,000.0 of the Company's shares in addition to the remaining amount outstanding under the previous plan. The repurchase authorization has no expiration date.

For the year ended December 31, 2022, the Company paid $195.2 in common stock dividends. On January 12, 2023, the Company announced a cash dividend of $0.72 per share of common stock for the first quarter, or approximately $64.8 in the aggregate. The dividend will be payable on March 13, 2023, to stockholders of record of all issued and outstanding shares of common stock as of the close of business on February 23, 2023. The declaration and payment of any future dividends will be at the discretion of the Company's board of directors.

Credit Ratings

The Company’s investment grade debt ratings from Moody’s and Standard & Poor's (S&P) contribute to its ability to access capital markets.

Off-Balance Sheet Arrangements

The Company does not have transactions or relationships with “special purpose” entities, and the Company does not have any off-balance sheet financing other than normal operating leases and letters of credit.

Other Commercial Commitments

As of December 31, 2022, the Company provided letters of credit aggregating approximately $84.5, primarily in connection with certain insurance programs which are renewed annually.

The contractual value of the noncontrolling interest put in the Company's Ontario subsidiary totaled $15.0 and $16.3 at December 31, 2022, and 2021, respectively, and has been classified as mezzanine equity in the Company's consolidated balance sheet.

Based on current and projected levels of cash flows from operations, coupled with availability under its revolving credit facility, the Company believes it has sufficient liquidity to meet both its anticipated short-term and long-term cash needs for the next 12 months and the reasonably foreseeable future; however, the Company continually reassesses its liquidity position in light of market conditions and other relevant factors.

60

Index

Critical Accounting Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported periods. While the Company believes these estimates are reasonable and consistent, they are by their very nature estimates of amounts that will depend on future events. Accordingly, actual results could differ from these estimates. The Company’s Audit Committee periodically reviews the Company’s significant accounting policies. The Company’s critical accounting policies arise in conjunction with the following:

•Revenue recognition;

•Business combinations;

•Income taxes;

•Goodwill and indefinite-lived assets; and

•Legal contingencies.

Revenue Recognition

Dx

Within the Dx segment, a revenue transaction is initiated when Dx receives a requisition order to perform a diagnostic test. The information provided on the requisition form is used to determine the party that will be billed for the testing performed and the expected reimbursement. Dx recognizes revenue and satisfies its performance obligation for services rendered when the testing process is complete and the associated results are reported. Revenues are distributed among four payer portfolios - clients, patients, Medicare and Medicaid and third party. Dx considers negotiated discounts and anticipated adjustments, including historical collection experience for the payer portfolio, when revenues are recorded.

The following are descriptions of the Dx payer portfolios:

Clients

Client payers represent the portion of Dx’s revenue related to physicians, hospitals, health systems, accountable care organizations (ACOs), employers and other entities where payment is received exclusively from the entity ordering the testing service. Generally, client revenues are recorded on a fee-for-service basis at Dx’s client list price, less any negotiated discount. A portion of client billing is for laboratory management services, collection kits and other non-testing services or products. In these cases, revenue is recognized when services are rendered or delivered.

Patients

This portfolio includes revenue from uninsured patients and member cost-share for insured patients (e.g., coinsurance, deductibles and non-covered services). Uninsured patients are billed based upon Dx’s patient fee schedules, net of any discounts negotiated with physicians on behalf of their patients. Dx bills insured patients as directed by their health plan and after consideration of the fees and terms associated with an established health plan contract.

Medicare and Medicaid

This portfolio relates to fee-for-service revenue from traditional Medicare and Medicaid programs. Net revenue from these programs is based on the fee schedule established by the related government authority. In addition to contractual discounts, other adjustments including anticipated payer denials are considered when determining net revenue. Any remaining adjustments to revenue are recorded at the time of final collection and settlement. These adjustments are not material to Dx’s results of operations in any period presented.

Third Party

Third party includes revenue related to MCOs. The majority of Dx's third-party revenue is reimbursed on a fee-for-service basis. These payers are billed at Dx's established list price and revenue is recorded net of contractual discounts. The majority of Dx’s MCO revenues are recorded based upon contractually negotiated fee schedules with revenues for non-contracted MCOs recorded based on historical reimbursement experience.

Third-party reimbursement is also received through capitation agreements with MCOs and independent physician associations (IPAs). Under capitated agreements, revenue is recognized based on a negotiated per-member, per-month payment for an agreed upon menu of tests, or based upon the proportionate share earned by Dx from a capitation pool. When the agreed upon reimbursement is based solely on an established rate per member, revenue is not impacted by the volume of testing performed. Under a capitation pool arrangement, the aggregate value of an established rate per member is distributed based on

61

Index

the volume and complexity of the procedures performed by laboratories participating in the agreement. Dx recognizes revenue monthly, based upon the established capitation rate or anticipated distribution from a capitated pool.

Dx has a formal process to estimate implicit price concessions for uncollectable accounts. The majority of Dx's collection risk is related to accounts receivable from both insured and uninsured patients who are unwilling or unable to pay. Anticipated write-offs are recorded as adjustments to revenue at an amount considered necessary to record the segment's revenue at its net realizable value. In addition to contractual discounts, other adjustments including anticipated payer denials and other external factors that could affect the collectability of its receivables are considered when determining revenue and the net receivable amount. Any remaining adjustments to revenue are recorded at the time of final collection and settlement. These adjustments are not material to Dx's results of operations in any period presented.

DD

A majority of DD’s revenues are earned under contracts that are long term in nature, ranging in duration from a few months to many years. The majority of DD's contracts contain a single performance obligation, as DD provides a significant service of integrating all promises in the contract and the promises are highly interdependent and interrelated with one another. For contracts that include multiple performance obligations, DD allocates the contract value to the goods and services based on a customer price list, if available. If a price list is not available, DD will estimate the transaction price using either market prices or an “expected cost plus margin” approach. The total contract value is estimated at the beginning of the contract, and is equal to the amount expected to be billed to the customer. Other payments and billing adjustments may also factor into the calculation of total contract value, such as the reimbursement of out-of-pocket costs and volume-based rebates. These contracts generally take the form of fixed-price or fee-for-service arrangements subject to pricing adjustments based on changes in scope.

Fixed-price contracts are typically recognized as revenue over time based on a proportional-performance basis, using either input or output methods that are specific to the service provided. In an output method, revenue is determined by dividing the actual units of output achieved by the total units of output required under the contract and multiplying that percentage by the total contract value. When using an input method, revenue is recognized by dividing the actual costs incurred by the total estimated cost expected to complete the contract, and multiplying that percentage by the total contract value. Contract costs principally include direct labor and reimbursable out-of-pocket costs. The estimate of total costs expected to complete the contract requires significant judgment and estimates are based on various assumptions of events that often span several years. These estimates are reviewed periodically and any adjustments are recognized on a cumulative catch-up basis in the period they become known.

Fee-for-service contracts are typically priced based on transaction volume or time and materials. For volume based contracts the contract value is entirely variable and revenue is recognized as the specific product or service is completed. For services billed based on time and materials, revenue is recognized using the right to invoice practical expedient.

Contracts are often modified to account for changes in contract specifications and requirements. Generally, when contract modifications create new performance obligations, the modification is considered to be a separate contract and revenue is recognized prospectively. When contract modifications change existing performance obligations, the impact on the existing transaction price and measure of progress for the performance obligation to which it relates is generally recognized as an adjustment to revenue (either as an increase in or a reduction of revenue) on a cumulative catch-up basis.

Most contracts are terminable with or without cause by the customer, either immediately or upon notice. These contracts often require payment to DD of expenses to wind-down the study or project, fees earned to date and, in some cases, a termination fee or a payment to DD of some portion of the fees or profits that could have been earned by DD under the contract if it had not been terminated early. Termination fees are included in revenues when services are performed and realization is assured.

Business Combinations

The Company accounts for business combination transactions under the acquisition method of accounting and reported the results of operations of the acquired entities from its respective date of acquisition. Assets acquired were recorded at their estimated fair values as of the acquisition date. Estimated fair values were based on various valuation methodologies, including an income approach using primarily discounted cash flow techniques for the customer relationships intangible assets. The aforementioned income methods utilize management's estimates of future operating results and cash flows discounted using a weighted-average cost of capital that reflects market participant assumptions. The excess of the fair value of the consideration conveyed over the fair value of the assets acquired was recorded as goodwill. The goodwill reflects management's expectations of the ability to gain access to and penetrate the acquired entities' historical patient base and the benefits of being able to leverage operational efficiencies with favorable growth opportunities based on positive demographic trends in the market.

62

Index

Income Taxes

The Company accounts for income taxes utilizing the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and for tax loss carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The Company does not recognize a tax benefit, unless the Company concludes that it is more likely than not that the benefit will be sustained on audit by the taxing authority based solely on the technical merits of the associated tax position. If the recognition threshold is met, the Company recognizes a tax benefit measured at the largest amount of the tax benefit that the Company believes is greater than 50% likely to be realized. The Company records interest and penalties in income tax expense.

Goodwill and Indefinite-Lived Assets

The Company assesses goodwill and indefinite-lived intangibles for impairment at least annually or whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. The annual impairment test for goodwill includes an option to perform a qualitative assessment of whether it is more likely than not that a reporting unit's fair value is less than its carrying value. Reporting units are businesses with discrete financial information that is available and reviewed by management. If the Company determines that it is more likely than not that the fair value of a reporting unit is less than its carrying value, then the Company performs the quantitative goodwill impairment test. The Company may also choose to bypass the qualitative assessment for any reporting unit in its goodwill assessment and proceed directly to performing the quantitative assessment. The Company recognizes an impairment charge for the amount by which the reporting unit's carrying amount exceeds its fair value.

In the qualitative assessment, the Company considers relevant events and circumstances for each reporting unit, including (i) current year results, (ii) financial performance versus management’s annual and five-year strategic plans, (iii) changes in the reporting unit carrying value since prior year, (iv) industry and market conditions in which the reporting unit operates, (v) macroeconomic conditions, including discount rate changes, and (vi) changes in products or services offered by the reporting unit. If applicable, performance in recent years is compared to forecasts included in prior quantitative valuations. Based on the results of the qualitative assessment, if the Company concludes that it is not more likely than not that the fair value of the reporting unit is less than its carrying values of the reporting unit, then no quantitative assessment is performed.

The quantitative assessment includes the estimation of the fair value of each reporting unit as compared to the carrying value of the reporting unit. The Company estimates the fair value of a reporting unit using both income-based and market-based valuation methods. The income-based approach is based on the reporting unit's forecasted future cash flows that are discounted to the present value using the reporting unit's weighted average cost of capital. For the market-based approach, the Company utilizes a number of factors such as publicly available information regarding the market capitalization of the Company as well as operating results, business plans, market multiples, and present value techniques. Based upon the range of estimated values developed from the income and market-based methods, the Company determines the estimated fair value for the reporting unit. If the estimated fair value of the reporting unit exceeds the carrying value, the goodwill is not impaired and no further review is required.

The income-based fair value methodology requires management's assumptions and judgments regarding economic conditions in the markets in which the Company operates and conditions in the capital markets, many of which are outside of management's control. At the reporting unit level, fair value estimation requires management's assumptions and judgments regarding the effects of overall economic conditions on the specific reporting unit, along with assessment of the reporting unit's strategies and forecasts of future cash flows. Forecasts of individual reporting unit cash flows involve management's estimates and assumptions regarding:

•Annual cash flows, on a debt-free basis, arising from future revenues and profitability, changes in working capital, capital spending and income taxes for at least a five-year forecast period.

•A terminal growth rate for years beyond the forecast period. The terminal growth rate is selected based on consideration of growth rates used in the forecast period, historical performance of the reporting unit and economic conditions.

•A discount rate that reflects the risks inherent in realizing the forecasted cash flows. A discount rate considers the risk-free rate of return on long-term treasury securities, the risk premium associated with investing in equity securities of comparable companies, the beta obtained from the comparable companies and the cost of debt for investment grade issuers. In addition, the discount rate may consider any company-specific risk in achieving the prospective financial information.

63

Index

Under the market-based fair value methodology, judgment is required in evaluating market multiples and recent transactions. Management believes that the assumptions used for its impairment tests are representative of those that would be used by market participants performing similar valuations of the reporting units.

Management performed its annual goodwill and intangible asset impairment testing as of the beginning of the fourth quarter of 2022. The Company elected to perform the qualitative assessment for goodwill and intangible assets for the domestic Dx reporting units and a quantitative assessment for all of the DD reporting units and the Canadian reporting unit which includes indefinite-lived assets consisting of acquired Canadian licenses. Based upon the results of the qualitative and quantitative assessments, the Company concluded that the fair values of each of its reporting units, as of October 1, 2022, were greater than the carrying values. For the early development reporting unit, which is part of the DD segment, the fair value of the business exceeded the book value by approximately 10%.

In December 2022, a significant supplier of our early development reporting unit was no longer able to provide critical testing supplies resulting in an expectation of lower near term revenue and profitability and potential higher future costs. Based on this information, management prepared a new forecast and updated its impairment testing valuations as of December 31, 2022. Based on the quantitative impairment assessment performed in the same manner as the Company's annual quantitative assessment, the Company concluded that the fair value was less than carrying value for the early development reporting unit and recorded a goodwill impairment of $260.0 in the DD segment.

Although the Company believes that the current assumptions and estimates used in its goodwill analysis are reasonable, supportable, and appropriate, continued efforts to maintain or improve the performance of these businesses could be impacted by unfavorable or unforeseen changes which could impact the existing assumptions used in the impairment analysis. Various factors could reasonably be expected to unfavorably impact existing assumptions: primarily delays in new customer bookings and the related delay in revenue from new customers, increases in customer termination activity or increases in operating costs. Accordingly, there can be no assurance that the estimates and assumptions made for the purposes of the goodwill impairment analysis will prove to be accurate predictions of future performance. It is possible that the Company's conclusions regarding impairment or recoverability of goodwill or intangible assets in any reporting unit could change in future periods. There can be no assurance that the estimates and assumptions used in the Company's goodwill and intangible asset impairment testing performed as of the beginning of the fourth quarter of 2022 or at the end of the year will prove to be accurate predictions of the future, if, for example, (i) the businesses do not perform as projected, (ii) overall economic conditions in 2022 or future years vary from current assumptions (including changes in discount rates), (iii) business conditions or strategies for a specific reporting unit change from current assumptions, including loss of major customers, (iv) investors require higher rates of return on equity investments in the marketplace or (v) enterprise values of comparable publicly traded companies, or actual sales transactions of comparable companies, were to decline, resulting in lower multiples of revenues and EBITDA.

Legal Contingencies

The Company is involved from time to time in various claims and legal actions, including arbitrations, class actions, and other litigation (including those described in more detail below), arising in the ordinary course of business. These matters include, but are not limited to, intellectual property disputes, commercial and contract disputes, professional liability claims, employee-related matters, transaction related disputes, securities and corporate law matters, and inquiries, including subpoenas and other civil investigative demands, from governmental agencies, Medicare or Medicaid payers and MCOs reviewing billing practices or requesting comment on allegations of billing irregularities that are brought to their attention through billing audits or third parties.

The Company also is named from time to time in suits brought under the qui tam provisions of the False Claims Act and comparable state laws. These suits typically allege that the Company has made false statements and/or certifications in connection with claims for payment from U.S. federal or state healthcare programs. The suits may remain under seal (hence, unknown to the Company) for some time while the government decides whether to intervene on behalf of the qui tam plaintiff. Such claims are an inevitable part of doing business in the healthcare field today.

The Company believes that it is in compliance in all material respects with all statutes, regulations, and other requirements applicable to its commercial laboratory operations and drug development support services. The healthcare diagnostics and drug development industries are, however, subject to extensive regulation, and the courts have not interpreted many of the applicable statutes and regulations. Therefore, the applicable statutes and regulations could be interpreted or applied by a prosecutorial, regulatory, or judicial authority in a manner that would adversely affect the Company. Potential sanctions for violation of these statutes and regulations include significant civil and criminal penalties, fines, the loss of various licenses, certificates and authorizations, additional liabilities from third-party claims, and/or exclusion from participation in government programs.

The Company records an aggregate legal reserve, which is determined using calculations based on historical loss rates and assessment of trends experienced in settlements and defense costs. In accordance with FASB Accounting Standards

64

Index

Codification Topic 450 “Contingencies,” the Company establishes reserves for judicial, regulatory, and arbitration matters outside the aggregate legal reserve if and when those matters present loss contingencies that are both probable and estimable and would exceed the aggregate legal reserve. If the reasonable estimate of a known or probable loss is a range, and no amount within the range is a better estimate than any other, the minimum amount of the range is accrued. If a loss is reasonably possible but not known or probable, and may be reasonably estimated, the estimated loss or range of loss is disclosed. For more information about legal contingencies, see Note 14 Commitments and Contingencies to the Consolidated Financial Statements.