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UNITED STATES |
SECURITIES AND EXCHANGE COMMISSION |
WASHINGTON, DC 20549 |
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FORM 10-Q |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF |
THE SECURITIES EXCHANGE ACT OF 1934 |
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For the quarterly period ended March 31, 2006 |
Commission file number 001-12215 |
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Quest Diagnostics Incorporated |
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1290 Wall Street West |
Lyndhurst, NJ 07071 |
(201) 393-5000 |
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Delaware |
(State of Incorporation) |
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16-1387862 |
(I.R.S. Employer Identification Number) |
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Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yesx Noo
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filerx Accelerated filero Non-accelerated filero
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yeso Nox
As of April 21, 2006, there were 198,169,725 outstanding shares of the registrant’s common stock, $.01 par value.
PART I - FINANCIAL INFORMATION
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Item 1. | Financial Statements |
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| Index to consolidated financial statements filed as part of this report: |
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| Consolidated Statements of Operations for the Three Months Ended March 31, 2006 and 2005 | 2 |
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| Consolidated Balance Sheets as of March 31, 2006 and December 31, 2005 | 3 |
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| Consolidated Statements of Cash Flows for the Three Months Ended March 31, 2006 and 2005 | 4 |
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| 5 |
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Management’s Discussion and Analysis of Financial Condition and Results of Operations |
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| Management’s Discussion and Analysis of Financial Condition and Results of Operations | 21 |
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| See Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” | 27 |
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| Controls and Procedures | 27 |
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1
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005
(in thousands, except per share data)
(unaudited)
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| Three Months Ended |
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| 2006 |
| 2005 |
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Net revenues |
| $ | 1,555,408 |
| $ | 1,319,485 |
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Operating costs and expenses: |
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Cost of services |
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| 922,984 |
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| 780,082 |
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Selling, general and administrative |
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| 358,190 |
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| 308,348 |
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Amortization of intangible assets |
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| 2,338 |
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| 931 |
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Other operating expense, net |
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| 27,355 |
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| 211 |
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Total operating costs and expenses |
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| 1,310,867 |
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| 1,089,572 |
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Operating income |
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| 244,541 |
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| 229,913 |
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Other income (expense): |
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Interest expense, net |
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| (23,524 | ) |
| (12,783 | ) |
Minority share of income |
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| (5,408 | ) |
| (5,013 | ) |
Equity earnings in unconsolidated joint ventures |
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| 8,012 |
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| 7,214 |
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Other income, net |
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| 17,440 |
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| 755 |
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Total non-operating expenses, net |
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| (3,480 | ) |
| (9,827 | ) |
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Income before taxes |
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| 241,061 |
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| 220,086 |
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Income tax expense |
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| 96,425 |
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| 88,475 |
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Net income |
| $ | 144,636 |
| $ | 131,611 |
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Earnings per common share: |
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Basic |
| $ | 0.73 |
| $ | 0.65 |
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Diluted |
| $ | 0.72 |
| $ | 0.64 |
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Weighted average common shares outstanding: |
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Basic |
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| 198,395 |
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| 201,719 |
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Diluted |
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| 201,034 |
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| 206,142 |
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Dividends per common share |
| $ | 0.10 |
| $ | 0.09 |
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The accompanying notes are an integral part of these statements.
2
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
MARCH 31, 2006 AND DECEMBER 31, 2005
(in thousands, except per share data)
(unaudited)
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| March 31, |
| December 31, |
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Assets |
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Current assets: |
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Cash and cash equivalents |
| $ | 156,461 |
| $ | 92,130 |
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Accounts receivable, net of allowance for doubtful accounts of $192,923 and $193,754 at March 31, 2006 and December 31, 2005, respectively |
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| 775,724 |
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| 732,907 |
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Inventories |
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| 77,917 |
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| 77,939 |
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Deferred income taxes |
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| 112,664 |
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| 107,442 |
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Prepaid expenses and other current assets |
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| 77,218 |
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| 59,079 |
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Total current assets |
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| 1,199,984 |
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| 1,069,497 |
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Property, plant and equipment, net |
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| 746,328 |
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| 753,663 |
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Goodwill, net |
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| 3,199,238 |
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| 3,197,227 |
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Intangible assets, net |
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| 143,031 |
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| 147,383 |
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Other assets |
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| 145,987 |
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| 138,345 |
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Total assets |
| $ | 5,434,568 |
| $ | 5,306,115 |
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Liabilities and Stockholders’ Equity |
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Current liabilities: |
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Accounts payable and accrued expenses |
| $ | 835,529 |
| $ | 764,453 |
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Short-term borrowings and current portion of long-term debt |
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| 291,889 |
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| 336,839 |
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Total current liabilities |
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| 1,127,418 |
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| 1,101,292 |
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Long-term debt |
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| 1,240,501 |
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| 1,255,386 |
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Other liabilities |
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| 201,353 |
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| 186,453 |
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Commitments and contingencies |
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Stockholders’ equity: |
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Common stock, par value $0.01 per share; 300,000 shares authorized; 213,665 and 213,674 issued at March 31, 2006 and December 31, 2005, respectively |
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| 2,137 |
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| 2,137 |
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Additional paid-in capital |
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| 2,176,531 |
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| 2,175,533 |
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Retained earnings |
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| 1,417,329 |
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| 1,292,510 |
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Unearned compensation |
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| — |
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| (3,321 | ) |
Accumulated other comprehensive loss |
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| (4,274 | ) |
| (6,205 | ) |
Treasury stock, at cost; 15,586 and 15,219 shares at March 31, 2006 and December 31, 2005, respectively |
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| (726,427 | ) |
| (697,670 | ) |
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Total stockholders’ equity |
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| 2,865,296 |
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| 2,762,984 |
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Total liabilities and stockholders’ equity |
| $ | 5,434,568 |
| $ | 5,306,115 |
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The accompanying notes are an integral part of these statements.
3
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 2006 AND 2005
(in thousands)
(unaudited)
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| Three Months Ended March 31, |
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Cash flows from operating activities: |
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Net income |
| $ | 144,636 |
| $ | 131,611 |
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Adjustments to reconcile net income to net cash provided by operating activities: |
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Depreciation and amortization |
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| 49,060 |
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| 42,528 |
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Provision for doubtful accounts |
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| 63,423 |
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| 59,417 |
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Stock-based compensation expense |
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| 19,379 |
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| 190 |
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Provision for restructuring |
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| 24,841 |
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Deferred income tax benefit |
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| (11,633 | ) |
| (15,993 | ) |
Minority share of income |
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| 5,408 |
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| 5,013 |
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Tax benefits associated with stock-based compensation plans |
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| 11,274 |
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Excess tax benefits from stock-based compensation arrangements |
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| (12,744 | ) |
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Other, net |
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| (17,591 | ) |
| (785 | ) |
Changes in operating assets and liabilities: |
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Accounts receivable |
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| (106,239 | ) |
| (112,555 | ) |
Accounts payable and accrued expenses |
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| (1,916 | ) |
| (51,451 | ) |
Integration, settlement and other special charges |
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| (35 | ) |
| (673 | ) |
Income taxes payable |
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| 98,882 |
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| 86,698 |
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Other assets and liabilities, net |
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| (14,812 | ) |
| (19,245 | ) |
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Net cash provided by operating activities |
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| 240,659 |
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| 136,029 |
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Cash flows from investing activities: |
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Capital expenditures |
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| (42,186 | ) |
| (55,381 | ) |
Business acquisition, net of cash acquired |
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| (19,323 | ) |
Decrease (increase) in investments and other assets |
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| 14,192 |
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| (500 | ) |
Proceeds from disposition of assets |
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| 3 |
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| 11 |
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Net cash used in investing activities |
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| (27,991 | ) |
| (75,193 | ) |
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Cash flows from financing activities: |
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Repayments of debt |
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| (60,044 | ) |
| (100,402 | ) |
Proceeds from borrowings |
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| — |
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| 99,999 |
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Decrease in book overdrafts |
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| (14,336 | ) |
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Purchases of treasury stock |
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| (103,977 | ) |
| (62,300 | ) |
Exercise of stock options |
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| 38,798 |
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| 35,488 |
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Excess tax benefits from stock-based compensation arrangements |
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| 12,744 |
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Dividends paid |
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| (17,877 | ) |
| (15,019 | ) |
Distributions to minority partners |
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| (3,130 | ) |
| (5,742 | ) |
Financing costs paid |
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| (515 | ) |
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Net cash used in financing activities |
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| (148,337 | ) |
| (47,976 | ) |
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Net change in cash and cash equivalents |
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| 64,331 |
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| 12,860 |
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Cash and cash equivalents, beginning of period |
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| 92,130 |
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| 73,302 |
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Cash and cash equivalents, end of period |
| $ | 156,461 |
| $ | 86,162 |
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The accompanying notes are an integral part of these statements.
4
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(in thousands, unless otherwise indicated)
(unaudited)
1. BASIS OF PRESENTATION
Background
Quest Diagnostics Incorporated and its subsidiaries (“Quest Diagnostics” or the “Company”) is the largest clinical laboratory testing business in the United States. As the nation’s leading provider of diagnostic testing and services for the healthcare industry, Quest Diagnostics offers a broad range of clinical laboratory testing services to patients, physicians, hospitals, healthcare insurers, employers, governmental institutions and other commercial clinical laboratories. Quest Diagnostics is the leading provider of esoteric testing, including gene-based testing. The Company is also the leading provider of testing for drugs-of-abuse. Through the Company’s national network of laboratories and patient service centers, and its esoteric testing laboratories and development facilities, Quest Diagnostics offers comprehensive and innovative diagnostic testing, information and services used by physicians and other healthcare professionals to make decisions to improve health. The Company is also a leading provider of anatomic pathology services, testing to support clinical trials of new pharmaceuticals worldwide and risk assessment services for the life insurance industry.
On an annual basis, Quest Diagnostics processes greater than 145 million requisitions for testing through its extensive network of laboratories and patient service centers in virtually every major metropolitan area throughout the United States.
Basis of Presentation
The interim consolidated financial statements reflect all adjustments, which in the opinion of management are necessary for a fair statement of financial condition and results of operations for the periods presented. Except as otherwise disclosed, all such adjustments are of a normal recurring nature. The interim consolidated financial statements have been compiled without audit. Operating results for the interim periods are not necessarily indicative of the results that may be expected for the full year. These interim consolidated financial statements should be read in conjunction with the audited consolidated financial statements included in the Company’s 2005 Annual Report on Form 10-K.
Earnings Per Share
Basic earnings per common share is calculated by dividing net income by the weighted average common shares outstanding. Diluted earnings per common share is calculated by dividing net income, adjusted for the after-tax impact of the interest expense associated with the Company’s 1¾% contingent convertible debentures due 2021 (the “Debentures”), by the weighted average common shares outstanding after giving effect to all potentially dilutive common shares outstanding during the period. Potentially dilutive common shares include the dilutive effect of outstanding stock options, performance share units and restricted common shares granted under the Company’s Amended and Restated Employee Long-Term Incentive Plan and its Amended and Restated Director Long-Term Incentive Plan and the Debentures. The Debentures were called for redemption by the Company in December 2004, and redeemed as of January 18, 2005.
On June 20, 2005, the Company effected a two-for-one stock split through the issuance of a stock dividend of one new share of common stock for each share of common stock held by stockholders of record on June 6, 2005. References to the number of common shares and per common share amounts in the accompanying consolidated balance sheets and consolidated statements of operations, including earnings per common share calculations and related disclosures, have been restated to give retroactive effect to the stock split for all periods presented.
5
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
The computation of basic and diluted earnings per common share (using the if-converted method) was as follows (in thousands, except per share data):
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| Three Months Ended March 31, |
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Net income available to common stockholders – basic |
| $ | 144,636 |
| $ | 131,611 |
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Add: Interest expense associated with the Debentures, net of related tax effects |
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| 82 |
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Net income available to common stockholders – diluted |
| $ | 144,636 |
| $ | 131,693 |
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Weighted average common shares outstanding – basic |
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| 198,395 |
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| 201,719 |
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Effect of dilutive securities: |
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Stock options, restricted common shares and performance share units |
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| 2,639 |
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| 3,812 |
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Debentures |
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| 611 |
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Weighted average common shares outstanding – diluted |
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| 201,034 |
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| 206,142 |
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Basic earnings per common share |
| $ | 0.73 |
| $ | 0.65 |
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Diluted earnings per common share |
| $ | 0.72 |
| $ | 0.64 |
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Stock-Based Compensation
In December 2004, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (“SFAS”) No. 123, revised 2004, “Share-Based Payment” (“SFAS 123R”). SFAS 123R requires that companies recognize compensation cost relating to share-based payment transactions based on the fair value of the equity or liability instruments issued. SFAS 123R is effective for annual periods beginning after January 1, 2006. The Company adopted SFAS 123R effective January 1, 2006 using the modified prospective approach and therefore has not restated results for prior periods. Under this approach, awards that are granted, modified or settled after January 1, 2006 will be measured and accounted for in accordance with SFAS 123R. Unvested awards that were granted prior to January 1, 2006 will continue to be accounted for in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), as amended by SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure - an amendment of FASB Statement No. 123” (“SFAS 148”), except that compensation cost will be recognized in the Company’s results of operations.
Pursuant to the provisions of SFAS 123R, the Company records stock-based compensation as a charge to earnings net of the estimated impact of forfeited awards. As such, the Company recognizes stock-based compensation cost only for those stock-based awards that are estimated to ultimately vest over their requisite service period, based on the vesting provisions of the individual grants. The cumulative effect on current and prior periods of a change in the estimated forfeiture rate is recognized as compensation cost in earnings in the period of the revision. Stock-based compensation expense associated with performance share units is recognized based on management’s best estimates of the achievement of the performance goals specified in such awards and the resulting number of shares that will be earned. The cumulative effect on current and prior periods of a change in the estimated number of performance share units expected to be earned is recognized as compensation cost in earnings in the period of the revision. The Company recognizes stock-based compensation expense related to the Company’s Employee Stock Purchase Plan (“ESPP”) based on the 15% discount at purchase. See Note 2 for a further discussion of stock-based compensation.
Prior to the adoption of SFAS 123R, the Company accounted for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), and related interpretations and chose to adopt the disclosure-only provisions of SFAS 123, as amended by SFAS 148. Under this approach, the cost of restricted stock awards was expensed over their vesting period, while the imputed cost of stock option grants and discounts offered under the Company’s ESPP was disclosed, based on the vesting
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QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
provisions of the individual grants, but not charged to expense. Stock-based compensation expense recorded in accordance with APB 25, relating to restricted stock awards, was $0.2 million for the three months ended March 31, 2005.
2. STOCK-BASED COMPENSATION
For the three months ended March 31, 2006, the stock-based compensation expense recorded in accordance with SFAS 123R totaled $19.4 million ($11.7 million, net of tax, or $0.06 per basic and diluted share). In addition, in connection with the adoption of SFAS 123R, net cash provided by operating activities decreased and net cash provided by financing activities increased in the first quarter of 2006 by $12.7 million related to excess tax benefits from stock-based compensation arrangements.
Employee and Non-employee Directors Stock Ownership Programs
In 2005, the Company established the Amended and Restated Employee Long-Term Incentive Plan (the “ELTIP”). The ELTIP provides for three types of awards: (a) stock options, (b) stock appreciation rights and (c) incentive stock awards. The ELTIP provides for the grant to eligible employees of either non-qualified or incentive stock options, or both, to purchase shares of Quest Diagnostics common stock at no less than the fair market value on the date of grant. The stock options are subject to forfeiture if employment terminates prior to the end of the prescribed vesting period, as determined by the Board of Directors. The stock options expire on the date designated by the Board of Directors but in no event more than seven years from date of grant. Grants of stock appreciation rights allow eligible employees to receive a payment based on the appreciation of Quest Diagnostics common stock in cash, shares of Quest Diagnostics common stock or a combination thereof. The stock appreciation rights are granted at an exercise price at no less than the fair market value of Quest Diagnostics common stock on the date of grant. Stock appreciation rights expire on the date designated by the Board of Directors but in no event more than seven years from date of grant. No stock appreciation rights have been granted under the ELTIP. Under the incentive stock provisions of the plan, the ELTIP allows eligible employees to receive awards of shares, or the right to receive shares, of Quest Diagnostics common stock, the equivalent value in cash or a combination thereof. These shares are generally earned on achievement of financial performance goals and are subject to forfeiture if employment terminates prior to the end of the prescribed vesting period, as determined by the Board of Directors. The actual amount of performance share awards is based on the Company’s earnings per share growth for the performance period compared to that of a peer group of companies. Key executive, managerial and technical employees are eligible to participate in the ELTIP. The maximum number of shares of Quest Diagnostics common stock that may be optioned or granted under the ELTIP is 48 million shares.
In 2005, the Company established the Amended and Restated Director Long-Term Incentive Plan (the “DLTIP”). The DLTIP provides for the grant to non-employee directors of non-qualified stock options to purchase shares of Quest Diagnostics common stock at no less than the fair market value on the date of grant and incentive stock awards. The incentive stock awards are generally earned on achievement of certain performance goals. The maximum number of shares that may be issued under the DLTIP is 2 million shares. The stock options expire seven years from date of grant and generally become exercisable in three equal annual installments beginning on the first anniversary date of the grant of the option regardless of whether the optionee remains a director of the Company.
Employee Stock Purchase Plan
Under the Company’s ESPP, substantially all employees can elect to have up to 10% of their annual wages withheld to purchase Quest Diagnostics common stock at 85% of the market price of the Company’s common stock on the last business day of each calendar month. Under the ESPP, the maximum number of shares of Quest Diagnostics common stock which may be purchased by eligible employees is 8 million. The ESPP will terminate effective December 31, 2006. The Company has submitted to shareholders for approval at its 2006 Annual Meeting of Shareholders an extension of the plan.
In general, the Company’s practice has been to issue shares related to its stock-based compensation program from shares of its common stock held in treasury. See Note 7 for further information regarding the Company’s share repurchase program.
The fair value of stock option awards is estimated on the date of grant using a lattice-based option-valuation model that uses the assumptions in the following table. The expected volatility under the lattice-based option-valuation model was based on the current and the historical implied volatilities from traded options of the Company’s stock. The dividend yield is
7
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
based on the approved annual dividend rate in effect and current market price of the underlying common stock at the time of grant. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for bonds with maturities ranging from 1 month to 7 years. The expected life of the options granted was estimated using the historical exercise behavior of employees.
|
|
|
|
|
|
|
|
|
| Three Months Ended |
| ||||
|
|
| |||||
|
|
| 2006 |
|
| 2005 |
|
|
|
|
|
| |||
|
|
|
|
|
|
|
|
Weighted average fair value of options at grant date |
|
| $13.67 |
|
| $14.01 |
|
Expected volatility |
|
| 17.9% |
|
| 23.3% |
|
Dividend yield |
|
| 0.7% |
|
| 0.7% |
|
Risk-free interest rate |
|
| 4.5% - 4.6% |
|
| 3.9% - 4.0% |
|
Expected holding period, in years |
|
| 5.6 – 6.2 |
|
| 5.4 – 6.2 |
|
The fair value of restricted stock awards and performance share units is the average market price of the Company’s common stock at the date of grant.
Transactions under stock option plans as of March 31, 2006 and changes during the three months ended March 31, 2006 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Shares |
| Weighted |
| Weighted |
| Aggregate |
| ||||||||||||
|
|
|
|
|
| ||||||||||||||||
|
|
|
|
|
|
|
|
|
| ||||||||||||
Options outstanding at December 31, 2005 |
|
|
| 15,048 |
|
|
| $ | 34.33 |
|
|
|
|
|
|
|
|
|
|
|
|
Options granted |
|
|
| 2,279 |
|
|
|
| 52.24 |
|
|
|
|
|
|
|
|
|
|
|
|
Options exercised |
|
|
| (1,458 | ) |
|
|
| 27.05 |
|
|
|
|
|
|
|
|
|
|
|
|
Options terminated |
|
|
| (71 | ) |
|
|
| 45.45 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Options outstanding at March 31, 2006 |
|
|
| 15,798 |
|
|
| $ | 37.53 |
|
|
|
| 6.5 |
|
|
| $ | 221 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Vested and expected to vest at March 31, 2006 |
|
|
| 15,488 |
|
|
| $ | 37.27 |
|
|
|
| 6.5 |
|
|
| $ | 220 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at March 31, 2006 |
|
|
| 9,909 |
|
|
| $ | 31.43 |
|
|
|
| 6.3 |
|
|
| $ | 197 |
|
|
The aggregate intrinsic value in the table above represents the total pre-tax intrinsic value (the difference between the Company’s closing common stock price on the last trading day of the first quarter of 2006 and the exercise price, multiplied by the number of in-the-money options) that would have been received by the option holders had all option holders exercised their options on March 31, 2006. This amount changes based on the fair market value of the Company’s common stock. Total intrinsic value of options exercised for the three months ended March 31, 2006 was $36.7 million.
As of March 31, 2006, there was $46 million of unrecognized stock-based compensation cost related to stock options which is expected to be recognized over a weighted average period of 2.2 years.
8
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Incentive stock awards, including restricted stock awards and performance share units, as of March 31, 2006 and changes during the three months ended March 31, 2006 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
| Shares |
| Weighted |
| ||||||
|
|
|
| ||||||||
|
|
|
|
|
| ||||||
Nonvested incentive shares at December 31, 2005 |
|
|
| 107 |
|
|
| $ | 49.71 |
|
|
Incentive shares granted |
|
|
| 868 |
|
|
|
| 51.91 |
|
|
Incentive shares vested |
|
|
| (25 | ) |
|
|
| 48.64 |
|
|
Incentive shares forfeited and canceled |
|
|
| (9 | ) |
|
|
| 51.57 |
|
|
|
|
|
|
|
|
|
|
|
|
| |
Nonvested incentive shares at March 31, 2006 |
|
|
| 941 |
|
|
| $ | 51.75 |
|
|
|
|
|
|
|
|
|
|
|
|
|
As of March 31, 2006, there was $38 million of unrecognized stock-based compensation cost related to nonvested incentive stock awards which is expected to be recognized over a weighted average period of 2.3 years. Total fair value of shares vested was $1.3 million for the three months ended March 31, 2006.
For the three months ended March 31, 2006 and 2005, stock-based compensation expense totaled $19.4 million and $0.2 million, respectively. Income tax benefits related to stock-based compensation expense totaled $7.7 million and $0.1 million for the three months ended March 31, 2006 and 2005, respectively.
The following pro forma information is presented for comparative purposes and illustrates the pro forma effect on net income and earnings per share for the period presented, as if the Company had elected to recognize compensation cost associated with stock option awards and employee stock purchases under the Company’s ESPP, consistent with the method prescribed by SFAS 123, as amended by SFAS 148 (in thousands, except per share data):
|
|
|
|
|
|
|
|
| Three Months Ended |
| |||
|
|
| ||||
|
|
|
| |||
Net income: |
|
|
|
| ||
Net income, as reported |
|
| $ | 131,611 |
|
|
Add: Stock-based compensation under APB 25 |
|
|
| 190 |
|
|
Deduct: Total stock-based compensation expense determined under fair value method for all awards, net of related tax effects |
|
|
| (10,581 | ) |
|
|
|
|
|
| ||
Pro forma net income |
|
| $ | 121,220 |
|
|
|
|
|
|
| ||
|
|
|
|
|
|
|
Earnings per common share: |
|
|
|
|
|
|
Basic – as reported |
|
| $ | 0.65 |
|
|
|
|
|
|
| ||
Basic – pro forma |
|
| $ | 0.60 |
|
|
|
|
|
|
| ||
|
|
|
|
|
|
|
Diluted – as reported |
|
| $ | 0.64 |
|
|
|
|
|
|
| ||
Diluted – pro forma |
|
| $ | 0.59 |
|
|
|
|
|
|
|
3. BUSINESS ACQUISITION
Acquisition of LabOne, Inc.
On November 1, 2005, the Company completed its acquisition of LabOne, Inc. (“LabOne”) in a transaction valued at approximately $947 million, including approximately $138 million of assumed debt of LabOne. LabOne provides health screening and risk assessment services to life insurance companies, as well as clinical diagnostic testing services to healthcare providers and drugs-of-abuse testing to employers.
9
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Through the acquisition of LabOne, the Company acquired all of LabOne’s operations, including its health screening and risk assessment services for life insurance companies, its clinical diagnostic testing services, and its drugs-of-abuse testing for employers. LabOne had 3,100 employees and principal laboratories in Lenexa, Kansas, as well as in Cincinnati, Ohio.
The acquisition of LabOne was accounted for under the purchase method of accounting. As such, the cost to acquire LabOne was allocated to the respective assets and liabilities acquired based on their estimated fair values as of the closing date. A preliminary allocation of the costs to acquire LabOne has been made to certain assets and liabilities of LabOne based on preliminary estimates. The Company is continuing to assess the estimated fair values of the assets and liabilities acquired and the portion of goodwill allocable to its clinical laboratory testing business and its risk assessment business. The Company’s management expects to complete the purchase price allocation and the allocation of goodwill to its clinical laboratory testing business and its risk assessment business during the second quarter of 2006. The consolidated financial statements include the results of operations of LabOne subsequent to the closing of the acquisition.
Pro Forma Combined Financial Information
The following unaudited pro forma combined financial information for the three months ended March 31, 2005 assumes that the LabOne acquisition was completed on January 1, 2005 (in thousands, except per share data):
|
|
|
|
|
|
|
|
| Three Months |
| |||
|
|
| ||||
|
|
|
| |||
Net revenues |
|
| $ | 1,448,086 |
|
|
Net income |
|
|
| 131,980 |
|
|
|
|
|
|
|
|
|
Basic earnings per common share: |
|
|
|
|
|
|
Net income |
|
| $ | 0.65 |
|
|
Weighted average common shares outstanding – basic |
|
|
| 201,719 |
|
|
|
|
|
|
|
|
|
Diluted earnings per common share: |
|
|
|
|
|
|
Net income |
|
| $ | 0.64 |
|
|
Weighted average common shares outstanding – diluted |
|
|
| 206,142 |
|
|
The unaudited pro forma combined financial information presented above reflects certain reclassifications to the historical financial statements of LabOne to conform LabOne’s accounting policies and classification of certain costs and expenses to that of Quest Diagnostics. These adjustments had no impact on pro forma net income. Pro forma results for the three months ended March 31, 2005 exclude $0.4 million of transaction related costs, which were incurred and expensed by LabOne in conjunction with its acquisition by Quest Diagnostics.
4. INTEGRATION ACTIVITIES
During the first quarter of 2006, the Company finalized its plan related to the integration of LabOne. The plan focuses on rationalizing the Company’s testing capacity, infrastructure and support services in markets which are served by both LabOne and Quest Diagnostics.
In conjunction with finalizing the LabOne integration, the Company recorded $23.3 million of costs. The majority of these costs relate to employee severance. Employee groups affected as a result of this plan include those involved in the testing of specimens, as well as administrative and other support functions. Of the total costs indicated above, $20.7 million related to actions that impact Quest Diagnostics’ employees and its operations and are comprised principally of employee severance benefits for approximately 600 employees. These costs were accounted for as a charge to earnings and included in “other operating expenses, net” within the consolidated statements of operations. The remaining $2.6 million of integration costs, related to actions that impact the employees and operations of LabOne, were accounted for as a cost of the LabOne acquisition and included in goodwill. Of the $2.6 million, $1.2 million related to asset write-offs with the remainder primarily associated with employee severance benefits for approximately 95 employees.
10
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
As of March 31, 2006, accruals related to the LabOne integration plan totaled $20.7 million. While the majority of the accrued costs at March 31, 2006 are expected to be paid in 2006 and 2007, there are certain severance costs that have payment terms extending into 2008.
In addition, during the first quarter of 2006, the Company recorded a $4.1 million charge related to consolidating its operations in California into a new facility. The costs, comprised primarily of employee severance costs and the write-off of certain operating assets, were accounted for as a charge to earnings and included in “other operating expenses, net” within the consolidated statements of operations.
5. GOODWILL AND INTANGIBLE ASSETS
Goodwill at March 31, 2006 and December 31, 2005 consisted of the following:
|
|
|
|
|
|
|
|
|
| March 31, |
| December 31, |
| ||
|
|
|
| ||||
|
|
|
|
|
|
|
|
Goodwill |
| $ | 3,387,291 |
| $ | 3,385,280 |
|
Less: accumulated amortization |
|
| (188,053 | ) |
| (188,053 | ) |
|
|
|
| ||||
Goodwill, net |
| $ | 3,199,238 |
| $ | 3,197,227 |
|
|
|
|
|
The changes in the gross carrying amount of goodwill for the three-month period ended March 31, 2006 and for the year ended December 31, 2005 are as follows:
|
|
|
|
|
|
|
|
|
| March 31, |
| December 31, |
| ||
|
|
|
| ||||
|
|
|
|
|
|
|
|
Balance at beginning of period |
| $ | 3,385,280 |
| $ | 2,695,003 |
|
Goodwill acquired during the period |
|
| 2,011 |
|
| 697,766 |
|
Other |
|
| — |
|
| (7,489 | ) |
|
|
|
| ||||
Balance at end of period |
| $ | 3,387,291 |
| $ | 3,385,280 |
|
|
|
|
|
For the year ended December 31, 2005, the increase in goodwill was primarily related to the acquisition of LabOne. During the fourth quarter of 2005, the Company recorded a $7.5 million charge, which was included in “other operating expense, net” in the consolidated statement of operations, to write-off all of the goodwill associated with its test kit manufacturing subsidiary, NID.
11
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Intangible assets at March 31, 2006 and December 31, 2005 consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Weighted |
| March 31, 2006 |
| December 31, 2005 |
| ||||||||||||||
|
|
|
|
| |||||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Cost |
| Accumulated |
| Net |
| Cost |
| Accumulated |
| Net |
| ||||||
|
|
|
|
|
|
|
|
|
| ||||||||||||
Amortizing intangible assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Customer-related intangibles |
| 20 years |
| $ | 172,522 |
| $ | (41,163 | ) | $ | 131,359 |
| $ | 172,522 |
| $ | (39,297 | ) | $ | 133,225 |
|
Non-compete agreements |
| 5 years |
|
| 45,707 |
|
| (44,527 | ) |
| 1,180 |
|
| 45,707 |
|
| (44,221 | ) |
| 1,486 |
|
Other |
| 4 years |
|
| 5,028 |
|
| (3,936 | ) |
| 1,092 |
|
| 7,044 |
|
| (3,772 | ) |
| 3,272 |
|
|
|
|
|
|
|
|
|
|
| ||||||||||||
Total |
| 20 years |
| $ | 223,257 |
| $ | (89,626 | ) | $ | 133,631 |
| $ | 225,273 |
| $ | (87,290 | ) | $ | 137,983 |
|
|
|
|
|
|
|
|
|
|
|
Amortization expense related to intangible assets was $2,338 and $931 for the three months ended March 31, 2006 and 2005, respectively.
The estimated amortization expense related to intangible assets for each of the five succeeding fiscal years and thereafter as of March 31, 2006 is as follows:
|
|
|
|
|
Fiscal Year Ending |
|
|
|
|
December 31, |
|
|
|
|
|
|
|
| |
|
|
|
|
|
Remainder of 2006 |
| $ | 6,708 |
|
2007 |
|
| 7,705 |
|
2008 |
|
| 7,511 |
|
2009 |
|
| 7,097 |
|
2010 |
|
| 6,849 |
|
2011 |
|
| 6,818 |
|
Thereafter |
|
| 90,943 |
|
|
|
| ||
Total |
| $ | 133,631 |
|
|
|
|
Intangible assets not subject to amortization at both March 31, 2006 and December 31, 2005 consisted of $9.4 million of tradenames.
6. COMMITMENTS AND CONTINGENCIES
In support of its risk management program, the Company has standby letters of credit issued under its letter of credit lines to ensure its performance or payment to third parties, which amounted to $70 million at March 31, 2006. The letters of credit, which are renewed annually, primarily represent collateral for current and future automobile liability and workers’ compensation loss payments.
The Company is subject to contingent obligations under certain leases and other instruments incurred in connection with real estate activities and other operations associated with LabOne and certain of its predecessor companies. The contingent obligations arise out of certain land leases with two Hawaiian trusts relating to land in Waikiki upon which a hotel is built and a land lease for a parking garage in Reno, Nevada. While its title and interest to the subject leases have been transferred to third parties, the land owners have not released the original obligors, including predecessors of LabOne, from their obligations under the leases. In February 2006, Chapter 11 bankruptcy proceedings involving the subtenant of the hotel in Waikiki were commenced in Honolulu. The subtenant has indicated publicly that the filing will have no impact on the operations of the hotel
12
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
and therefore, the Company believes the subtenant will continue to pay the rent and real estate taxes on the subject leased property. The bankruptcy court has issued an order allowing the subtenant to pay operating expenses, including the rent and real estate taxes on the subject leased property. Should the current subtenants of the leased properties fail to pay their rent and real estate taxes for the subject leased property, the default could trigger liability for LabOne as well as other sublessors. The rent payments under the Hawaiian land leases are subject to market value adjustments every ten years beginning in 2007. Given that the Hawaiian land leases are subject to market value adjustments, the total contingent obligations under such leases cannot be precisely estimated, but are likely to total several hundred million dollars. The contingent obligation of the Nevada lease is estimated to be approximately $6 million. The Company believes that the leasehold improvements on the leased properties are significantly more valuable than the related lease obligations. Based on the circumstances above, no liability has been recorded for any potential contingent obligations related to the land leases.
The Company has entered into several settlement agreements with various government and private payers during recent years relating to industry-wide billing and marketing practices that had been substantially discontinued by the mid-1990s. The federal or state governments may bring additional claims based on new theories as to the Company’s practices which management believes to be in compliance with law. In addition, certain federal and state statutes, including the qui tam provisions of the federal False Claims Act, allow private individuals to bring lawsuits against healthcare companies on behalf of government or private payers alleging inappropriate billing practices. The Company is aware of certain pending lawsuits related to billing practices filed under the qui tam provisions of the False Claims Act and other federal and state statutes. These lawsuits include class action and individual claims by patients arising out of the Company’s billing practices. In addition, the Company is involved in various legal proceedings arising in the ordinary course of business. Some of the proceedings against the Company involve claims that are substantial in amount.
During the fourth quarter of 2004, the Company and NID each received a subpoena from the United States Attorney’s Office for the Eastern District of New York. The Company and NID have been cooperating with the United States Attorney’s Office. In connection with such cooperation, the Company has been providing information and producing various witnesses and business records of NID and the Company, including documents related to testing and various test kits manufactured by NID. This investigation by the United States Attorney’s Office could lead to civil and criminal damages, fines and penalties and additional liabilities from third party claims. In the second and third quarters of 2005, the U.S. Food and Drug Administration (“FDA”) conducted an inspection of NID and issued a Form 483 listing the observations made by the FDA during the course of the inspection. NID is cooperating with the FDA and has filed its responses to the Form 483. Noncompliance with the FDA regulatory requirements or failure to take adequate and timely corrective action could lead to regulatory or enforcement action against NID and/or the Company, including, but not limited to, a warning letter, injunction, suspension of production and/or distribution, seizure or recall of products, fines or penalties, denial of pre-market clearance for new or changed products, recommendation against award of government contracts and criminal prosecution. On April 19, 2006, the Company decided to discontinue the operations of NID. See Note 9 for further details.
During the second quarter of 2005, the Company received a subpoena from the United States Attorney’s Office for the District of New Jersey. The subpoena seeks the production of business and financial records regarding capitation and risk sharing arrangements with government and private payers for the years 1993 through 1999. Also, during the third quarter of 2005, the Company received a subpoena from the U.S. Department of Health and Human Services, Office of the Inspector General. The subpoena seeks the production of various business records including records regarding our relationship with health maintenance organizations, independent physician associations, group purchasing organizations, and preferred provider organizations from 1995 to the present. The Company is cooperating with the United States Attorney’s Office and the Office of the Inspector General.
Management has established reserves in accordance with generally accepted accounting principles for the matters discussed above. Although management cannot predict the outcome of such matters, management does not anticipate that the ultimate outcome of such matters will have a material adverse effect on the Company’s financial condition but may be material to the Company’s results of operations or cash flows in the period in which the impact of such matters is determined or paid. However, the Company understands that there may be pending qui tam claims brought by former employees or other “whistle blowers”, or other pending claims as to which the Company has not been provided with a copy of the complaint and accordingly cannot determine the extent of any potential liability.
As a general matter, providers of clinical laboratory testing services may be subject to lawsuits alleging negligence or other similar legal claims. These suits could involve claims for substantial damages. Any professional liability litigation could also have an adverse impact on the Company’s client base and reputation. The Company maintains various liability
13
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
insurance coverage for claims that could result from providing or failing to provide clinical laboratory testing services, including inaccurate testing results and other exposures. The Company’s insurance coverage limits its maximum exposure on individual claims; however, the Company is essentially self-insured for a significant portion of these claims. The basis for claims reserves considers actuarially determined losses based upon the Company’s historical and projected loss experience. Management believes that present insurance coverage and reserves are sufficient to cover currently estimated exposures. Although management cannot predict the outcome of any claims made against the Company, management does not anticipate that the ultimate outcome of any such proceedings or claims will have a material adverse effect on the Company’s financial condition but may be material to the Company’s results of operations or cash flows in the period in which the impact of such claims is determined or paid.
7. STOCKHOLDERS’ EQUITY
Changes in stockholders’ equity for the three months ended March 31, 2006 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
| Shares of |
| Common |
| Additional |
| Retained |
| Unearned |
| Accumulated |
| Treasury |
| Compre- |
| |||||||||
|
| |||||||||||||||||||||||||
Balance, |
|
| 198,455 |
| $ | 2,137 |
| $ | 2,175,533 |
| $ | 1,292,510 |
| $ | (3,321 | ) | $ | (6,205 | ) | $ | (697,670 | ) |
|
|
| |
Net income |
|
|
|
|
|
|
|
|
|
|
| 144,636 |
|
|
|
|
|
|
|
|
|
| $ | 144,636 |
| |
Other comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| 1,931 |
|
|
|
|
| 1,931 |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||
Comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 146,567 |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||
Dividends declared |
|
|
|
|
|
|
|
|
|
|
| (19,817 | ) |
|
|
|
|
|
|
|
|
|
|
|
| |
Reclassification upon adoption of SFAS123R |
|
|
|
|
|
|
|
| (3,321 | ) |
|
|
|
| 3,321 |
|
|
|
|
|
|
|
|
|
| |
Issuance of common stock under benefit plans |
|
| 185 |
|
|
|
|
| (522 | ) |
|
|
|
|
|
|
|
|
|
| 8,492 |
|
|
|
| |
Stock-based compensation expense |
|
|
|
|
|
|
|
| 19,379 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Exercise of stock options |
|
| 1,446 |
|
|
|
|
| (27,930 | ) |
|
|
|
|
|
|
|
|
|
| 66,728 |
|
|
|
| |
Shares to cover employee payroll tax withholdings on stock issued under benefit plans |
|
| (9 | ) |
|
|
|
| (497 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Tax benefits associated with stock-based compensation plans |
|
|
|
|
|
|
|
| 13,889 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Purchases of treasury stock |
|
| (1,998 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| (103,977 | ) |
|
|
| |
|
|
|
| |||||||||||||||||||||||
Balance, |
|
| 198,079 |
| $ | 2,137 |
| $ | 2,176,531 |
| $ | 1,417,329 |
| $ | — |
| $ | (4,274 | ) | $ | (726,427 | ) |
|
|
| |
|
|
|
|
|
For the three months ended March 31, 2006, the Company repurchased 2.0 million shares of its common stock at an average price of $52.05 per share for $104 million. For the three months ended March 31, 2006, the Company reissued 1.6 million shares for employee benefit plans. Since the inception of the share repurchase program in May 2003 through March 31, 2006, the Company has repurchased 34.4 million shares of its common stock at an average price of $43.16 for approximately $1.5 billion. At March 31, 2006, $618 million of the share repurchase authorizations remained available.
During each of the quarters of 2005, the Company’s Board of Directors has declared a quarterly cash dividend of $0.09 per common share. During the first quarter of 2006, the Company’s Board of Directors declared a quarterly cash dividend of $0.10 per common share, payable on April 19, 2006, to shareholders of record on April 5, 2006.
14
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Changes in stockholders’ equity for the three months ended March 31, 2005 were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
| Shares of |
| Common |
| Additional |
| Retained |
| Unearned |
| Accumulated |
| Treasury |
| Compre- |
| |||||||||
|
| |||||||||||||||||||||||||
Balance, |
|
| 196,220 |
| $ | 1,068 |
| $ | 2,195,346 |
| $ | 818,734 |
| $ | (11 | ) | $ | 3,866 |
| $ | (730,352 | ) |
|
|
| |
Net income |
|
|
|
|
|
|
|
|
|
|
| 131,611 |
|
|
|
|
|
|
|
|
|
| $ | 131,611 |
| |
Other comprehensive loss |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| (2,700 | ) |
|
|
|
| (2,700 | ) | |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||
Comprehensive income |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 128,911 |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |||
Dividends declared |
|
|
|
|
|
|
|
|
|
|
| (18,210 | ) |
|
|
|
|
|
|
|
|
|
|
|
| |
Issuance of common stock under benefit plans |
|
| 188 |
|
|
|
|
| 3,182 |
|
|
|
|
| (3,667 | ) |
|
|
|
| 4,801 |
|
|
|
| |
Exercise of stock options |
|
| 1,438 |
|
|
|
|
| (25,223 | ) |
|
|
|
|
|
|
|
|
|
| 60,711 |
|
|
|
| |
Shares to cover employee payroll tax withholdings on stock issued under benefit plans |
|
|
|
|
|
|
|
| (5 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Tax benefits associated with stock-based compensation plans |
|
|
|
|
|
|
|
| 11,274 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
Conversion of contingent convertible debentures |
|
| 5,632 |
|
|
|
|
| 12,510 |
|
|
|
|
|
|
|
|
|
|
| 237,136 |
|
|
|
| |
Amortization of unearned compensation |
|
|
|
|
|
|
|
|
|
|
|
|
|
| 190 |
|
|
|
|
|
|
|
|
|
| |
Purchases of treasury stock |
|
| (1,256 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| (62,300 | ) |
|
|
| |
|
|
|
|
| ||||||||||||||||||||||
Balance, |
|
| 202,222 |
| $ | 1,068 |
| $ | 2,197,084 |
| $ | 932,135 |
| $ | (3,488 | ) | $ | 1,166 |
| $ | (490,004 | ) |
|
|
| |
|
|
|
|
For the three months ended March 31, 2005, the Company purchased 1.3 million shares of its common stock at an average price of $49.58 per share for $62 million and reissued 5.6 million shares and 1.6 million shares, respectively, in connection with the conversion of its Debentures and for employee benefit plans.
8. SUPPLEMENTAL CASH FLOW & OTHER DATA
|
|
|
|
|
|
|
|
|
| Three Months Ended |
| ||||
|
|
| |||||
|
| 2006 |
| 2005 |
| ||
|
|
|
| ||||
|
|
|
|
|
|
|
|
Depreciation expense |
| $ | 46,722 |
| $ | 41,597 |
|
|
|
|
|
|
|
|
|
Interest expense |
|
| (24,487 | ) |
| (13,017 | ) |
Interest income |
|
| 963 |
|
| 234 |
|
|
|
|
| ||||
Interest expense, net |
|
| (23,524 | ) |
| (12,783 | ) |
|
|
|
|
|
|
|
|
Interest paid |
|
| 21,896 |
|
| 22,001 |
|
Income taxes paid |
|
| 8,613 |
|
| 6,396 |
|
|
|
|
|
|
|
|
|
Non-cash financing activities: |
|
|
|
|
|
|
|
Conversion of Debentures |
| $ | — |
| $ | 244,338 |
|
For the three months ended March 31, 2006, “other income, net” includes a $15.8 million gain on the sale of an investment.
15
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
9. SUBSEQUENT EVENT
During the fourth quarter 2005, NID instituted its second voluntary product hold within a six-month period, due to quality issues, which has adversely impacted the operating performance of NID. As a result, the Company evaluated a number of strategic options for NID. On April 19, 2006, the Company decided to discontinue NID’s operations. This decision is expected to result in a pre-tax charge in the second quarter of 2006 preliminarily estimated to be up to $45 million. The estimated charge is expected to principally relate to the write-off of operating assets and the accrual of liabilities associated with employee severance costs and various lease commitments. The associated cash expenditures are estimated to be up to $35 million. The table below indicates the major classes of NID’s assets and liabilities as of March 31, 2006 (amounts in thousands):
|
|
|
|
|
Cash |
| $ | 2,047 |
|
Accounts receivable |
|
| 1,078 |
|
Inventory |
|
| 8,317 |
|
Property, plant and equipment, net |
|
| 7,635 |
|
Other |
|
| 1,167 |
|
|
|
| ||
|
|
|
|
|
Total assets |
|
| 20,244 |
|
|
|
|
|
|
Accounts payable and accrued expenses |
|
| 9,252 |
|
|
|
| ||
|
|
|
|
|
Net assets |
| $ | 10,922 |
|
|
|
|
10. BUSINESS SEGMENT INFORMATION
Clinical laboratory testing is an essential element in the delivery of healthcare services. Physicians use laboratory tests to assist in the detection, diagnosis, evaluation, monitoring and treatment of diseases and other medical conditions. Clinical laboratory testing is generally categorized as clinical testing and anatomic pathology testing. Clinical testing is performed on body fluids, such as blood and urine. Anatomic pathology testing is performed on tissues, including biopsies, and other samples, such as human cells. Customers of the clinical laboratory testing business include patients, physicians, hospitals, employers, governmental institutions and other commercial clinical laboratories.
All other operating segments include the Company’s non-clinical laboratory testing businesses and consist of its risk assessment services business, its clinical trials testing business, its test kit manufacturing subsidiary, NID, and its healthcare information technology business, MedPlus. The Company’s risk assessment business, acquired as part of the LabOne acquisition in 2005 (see Note 3), provides underwriting support services to the life insurance industry including teleunderwriting, specimen collection and paramedical examinations, laboratory testing, medical record retrieval, motor vehicle reports, telephone inspections and credit checks. The Company’s clinical trials testing business provides clinical laboratory testing performed in connection with clinical research trials on new drugs. NID manufactures and markets diagnostic test kits and systems. On April 19, 2006, the Company decided to discontinue NID’s operations (see Note 9). MedPlus is a developer and integrator of clinical connectivity and data management solutions for healthcare organizations, physicians and clinicians.
Substantially all of the Company’s services are provided within the United States, and substantially all of the Company’s assets are located within the United States.
The following table is a summary of segment information for the three months ended March 31, 2006 and 2005. Segment asset information is not presented since it is not reported to or used by the chief operating decision maker at the operating segment level. Operating earnings (loss) of each segment represents net revenues less directly identifiable expenses to arrive at operating income for the segment. General management and administrative corporate expenses, including amortization of intangible assets, are included in general corporate expenses below. The accounting policies of the segments are the same as those of the Company as set forth in Note 2 to the Consolidated Financial Statement contained in the Company’s 2005 Annual Report on Form 10-K and Note 1 to the interim consolidated financial statements.
16
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
|
|
|
|
|
|
|
|
|
| Three Months Ended March 31, |
| ||||
|
|
| |||||
|
| 2006 |
| 2005 |
| ||
|
|
|
| ||||
Net revenues: |
|
|
|
|
|
|
|
Clinical laboratory testing business |
| $ | 1,437,487 |
| $ | 1,267,553 |
|
All other operating segments |
|
| 117,921 |
|
| 51,932 |
|
|
|
|
| ||||
Total net revenues |
| $ | 1,555,408 |
| $ | 1,319,485 |
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
Operating earnings (loss): |
|
|
|
|
|
|
|
Clinical laboratory testing business |
| $ | 284,560 | (a) | $ | 248,003 |
|
All other operating segments |
|
| (11,339 | ) (b) |
| 1,481 |
|
General corporate expenses |
|
| (28,680 | ) (c) |
| (19,571 | ) |
|
|
|
| ||||
Total operating income |
|
| 244,541 |
|
| 229,913 |
|
Non-operating expenses, net |
|
| (3,480 | ) |
| (9,827 | ) |
|
|
|
| ||||
Income before income taxes |
|
| 241,061 |
|
| 220,086 |
|
Income tax expense |
|
| 96,425 |
|
| 88,475 |
|
|
|
|
| ||||
Net income |
| $ | 144,636 |
| $ | 131,611 |
|
|
|
|
|
|
|
(a) | During 2006, operating income includes $26.8 million of special charges primarily associated with integration activities (See Note 4) and $12.8 million of stock-based compensation expense. |
|
|
(b) | During 2006, operating income includes $0.9 million of stock-based compensation expense. |
|
|
(c) | During 2006, operating income includes $5.7 million of stock-based compensation expense. |
11. SUMMARIZED FINANCIAL INFORMATION
The Company’s 5.125% senior notes due 2010, 5.45% senior notes due 2015, 6¾% senior notes due 2006, 7½% senior notes due 2011 and the Debentures are fully and unconditionally guaranteed by the Company’s wholly owned subsidiaries that operate clinical laboratories in the United States (the “Subsidiary Guarantors”). With the exception of Quest Diagnostics Receivables Incorporated (see paragraph below), the non-guarantor subsidiaries are primarily foreign subsidiaries and less than wholly owned subsidiaries. In January 2005, the Company completed its redemption of all of its outstanding Debentures (see Note 10 to the Consolidated Financial Statements included in the Company’s 2005 Annual Report on Form 10-K for further details).
In conjunction with the Company’s secured receivables credit facility, the Company maintains a wholly owned non-guarantor subsidiary, Quest Diagnostics Receivables Incorporated (“QDRI”). The Company and Subsidiary Guarantors, with the exception of LabOne, which was acquired by Quest Diagnostics on November 1, 2005 (see Note 3), transfer all private domestic receivables to QDRI. QDRI utilizes the transferred receivables to collateralize borrowings under the Company’s secured receivables credit facility. The Company and the Subsidiary Guarantors provide collection services to QDRI. QDRI uses cash collections principally to purchase new receivables from the Company and the Subsidiary Guarantors.
The following condensed consolidating financial data illustrates the composition of the combined guarantors. Investments in subsidiaries are accounted for by the parent using the equity method for purposes of the supplemental consolidating presentation. Earnings (losses) of subsidiaries are therefore reflected in the parent’s investment accounts and earnings. The principal elimination entries relate to investments in subsidiaries and intercompany balances and transactions. LabOne has been included in the accompanying condensed consolidating financial data, subsequent to the closing of the acquisition, as a Subsidiary Guarantor.
17
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Condensed Consolidating Statement of Operations
Three Months Ended March 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non-Guarantor |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
| |||||
Net revenues |
| $ | 231,006 |
| $ | 1,244,873 |
| $ | 166,129 |
| $ | (86,600 | ) | $ | 1,555,408 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of services |
|
| 128,144 |
|
| 735,722 |
|
| 59,118 |
|
| — |
|
| 922,984 |
|
Selling, general and administrative |
|
| 34,118 |
|
| 259,408 |
|
| 70,132 |
|
| (5,468 | ) |
| 358,190 |
|
Amortization of intangible assets |
|
| 428 |
|
| 1,910 |
|
| — |
|
| — |
|
| 2,338 |
|
Royalty (income) expense |
|
| (95,033 | ) |
| 95,033 |
|
| — |
|
| — |
|
| — |
|
Other operating expense, net |
|
| 1,949 |
|
| 24,840 |
|
| 566 |
|
| — |
|
| 27,355 |
|
|
|
|
|
|
|
| ||||||||||
Total operating costs and expenses |
|
| 69,606 |
|
| 1,116,913 |
|
| 129,816 |
|
| (5,468 | ) |
| 1,310,867 |
|
|
|
|
|
|
|
| ||||||||||
Operating income |
|
| 161,400 |
|
| 127,960 |
|
| 36,313 |
|
| (81,132 | ) |
| 244,541 |
|
Non-operating (expenses) income, net |
|
| (17,152 | ) |
| (68,748 | ) |
| 1,288 |
|
| 81,132 |
|
| (3,480 | ) |
|
|
|
|
|
|
| ||||||||||
Income before taxes |
|
| 144,248 |
|
| 59,212 |
|
| 37,601 |
|
| — |
|
| 241,061 |
|
Income tax expense |
|
| 56,555 |
|
| 23,685 |
|
| 16,185 |
|
| — |
|
| 96,425 |
|
|
|
|
|
|
|
| ||||||||||
Income before equity earnings |
|
| 87,693 |
|
| 35,527 |
|
| 21,416 |
|
| — |
|
| 144,636 |
|
Equity earnings from subsidiaries |
|
| 56,943 |
|
| — |
|
| — |
|
| (56,943 | ) |
| — |
|
|
|
|
|
|
|
| ||||||||||
Net income |
| $ | 144,636 |
| $ | 35,527 |
| $ | 21,416 |
| $ | (56,943 | ) | $ | 144,636 |
|
|
|
|
|
|
|
|
Condensed Consolidating Statement of Operations
Three Months Ended March 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non-Guarantor |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenues |
| $ | 207,294 |
| $ | 1,047,183 |
| $ | 127,619 |
| $ | (62,611 | ) | $ | 1,319,485 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating costs and expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of services |
|
| 119,482 |
|
| 614,547 |
|
| 46,053 |
|
| — |
|
| 780,082 |
|
Selling, general and administrative |
|
| 21,802 |
|
| 225,454 |
|
| 66,101 |
|
| (5,009 | ) |
| 308,348 |
|
Amortization of intangible assets |
|
| 453 |
|
| 469 |
|
| 9 |
|
| — |
|
| 931 |
|
Royalty (income) expense |
|
| (85,785 | ) |
| 85,785 |
|
| — |
|
| — |
|
| — |
|
Other operating expense, net |
|
| — |
|
| 2 |
|
| 209 |
|
| — |
|
| 211 |
|
|
|
|
|
|
|
| ||||||||||
Total operating costs and expenses |
|
| 55,952 |
|
| 926,257 |
|
| 112,372 |
|
| (5,009 | ) |
| 1,089,572 |
|
|
|
|
|
|
|
| ||||||||||
Operating income |
|
| 151,342 |
|
| 120,926 |
|
| 15,247 |
|
| (57,602 | ) |
| 229,913 |
|
Non-operating (expenses) income, net |
|
| (13,544 | ) |
| (54,577 | ) |
| 692 |
|
| 57,602 |
|
| (9,827 | ) |
|
|
|
|
|
|
| ||||||||||
Income before taxes |
|
| 137,798 |
|
| 66,349 |
|
| 15,939 |
|
| — |
|
| 220,086 |
|
Income tax expense |
|
| 55,150 |
|
| 26,539 |
|
| 6,786 |
|
| — |
|
| 88,475 |
|
|
|
|
|
|
|
| ||||||||||
Income before equity earnings |
|
| 82,648 |
|
| 39,810 |
|
| 9,153 |
|
| — |
|
| 131,611 |
|
Equity earnings from subsidiaries |
|
| 48,963 |
|
| — |
|
| — |
|
| (48,963 | ) |
| — |
|
|
|
|
|
|
|
| ||||||||||
Net income |
| $ | 131,611 |
| $ | 39,810 |
| $ | 9,153 |
| $ | (48,963 | ) | $ | 131,611 |
|
|
|
|
|
|
|
|
18
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Condensed Consolidating Balance Sheet
March 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non- |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
| $ | 143,121 |
| $ | 6,193 |
| $ | 7,147 |
| $ | — |
| $ | 156,461 |
|
Accounts receivable, net |
|
| 27,535 |
|
| 151,255 |
|
| 596,934 |
|
| — |
|
| 775,724 |
|
Other current assets |
|
| 60,295 |
|
| 120,005 |
|
| 87,499 |
|
| — |
|
| 267,799 |
|
|
|
|
|
|
|
| ||||||||||
Total current assets |
|
| 230,951 |
|
| 277,453 |
|
| 691,580 |
|
| — |
|
| 1,199,984 |
|
Property, plant and equipment, net |
|
| 200,794 |
|
| 517,218 |
|
| 28,316 |
|
| — |
|
| 746,328 |
|
Goodwill and intangible assets, net |
|
| 153,938 |
|
| 3,142,737 |
|
| 45,594 |
|
| — |
|
| 3,342,269 |
|
Intercompany receivable (payable) |
|
| 436,911 |
|
| 48,258 |
|
| (485,169 | ) |
| — |
|
| — |
|
Investment in subsidiaries |
|
| 3,253,324 |
|
| — |
|
| — |
|
| (3,253,324 | ) |
| — |
|
Other assets |
|
| 108,508 |
|
| 7,526 |
|
| 40,328 |
|
| (10,375 | ) |
| 145,987 |
|
|
|
|
|
|
|
| ||||||||||
Total assets |
| $ | 4,384,426 |
| $ | 3,993,192 |
| $ | 320,649 |
| $ | (3,263,699 | ) | $ | 5,434,568 |
|
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders’ Equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable and accrued expenses |
| $ | 497,564 |
| $ | 299,741 |
| $ | 38,224 |
| $ | — |
| $ | 835,529 |
|
Short-term borrowings and current portion of long-term debt |
|
| 35,317 |
|
| 255,592 |
|
| 980 |
|
| — |
|
| 291,889 |
|
|
|
|
|
|
|
| ||||||||||
Total current liabilities |
|
| 532,881 |
|
| 555,333 |
|
| 39,204 |
|
| — |
|
| 1,127,418 |
|
Long-term debt |
|
| 933,029 |
|
| 306,493 |
|
| 979 |
|
| — |
|
| 1,240,501 |
|
Other liabilities |
|
| 53,220 |
|
| 131,906 |
|
| 26,602 |
|
| (10,375 | ) |
| 201,353 |
|
Stockholders’ equity |
|
| 2,865,296 |
|
| 2,999,460 |
|
| 253,864 |
|
| (3,253,324 | ) |
| 2,865,296 |
|
|
|
|
|
|
|
| ||||||||||
Total liabilities and stockholders’ equity |
| $ | 4,384,426 |
| $ | 3,993,192 |
| $ | 320,649 |
| $ | (3,263,699 | ) | $ | 5,434,568 |
|
|
|
|
|
|
|
|
Condensed Consolidating Balance Sheet
December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non- |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current assets: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
| $ | 76,941 |
| $ | 4,759 |
| $ | 10,430 |
| $ | — |
| $ | 92,130 |
|
Accounts receivable, net |
|
| 31,611 |
|
| 152,314 |
|
| 548,982 |
|
| — |
|
| 732,907 |
|
Other current assets |
|
| 43,932 |
|
| 116,099 |
|
| 84,429 |
|
| — |
|
| 244,460 |
|
|
|
|
|
|
|
| ||||||||||
Total current assets |
|
| 152,484 |
|
| 273,172 |
|
| 643,841 |
|
| — |
|
| 1,069,497 |
|
Property, plant and equipment, net |
|
| 200,438 |
|
| 523,907 |
|
| 29,318 |
|
| — |
|
| 753,663 |
|
Goodwill and intangible assets, net |
|
| 156,314 |
|
| 3,142,702 |
|
| 45,594 |
|
| — |
|
| 3,344,610 |
|
Intercompany receivable (payable) |
|
| 418,892 |
|
| (14,091 | ) |
| (404,801 | ) |
| — |
|
| — |
|
Investment in subsidiaries |
|
| 3,199,319 |
|
| — |
|
| — |
|
| (3,199,319 | ) |
| — |
|
Other assets |
|
| 94,050 |
|
| 7,754 |
|
| 37,784 |
|
| (1,243 | ) |
| 138,345 |
|
|
|
|
|
|
|
| ||||||||||
Total assets |
| $ | 4,221,497 |
| $ | 3,933,444 |
| $ | 351,736 |
| $ | (3,200,562 | ) | $ | 5,306,115 |
|
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Liabilities and Stockholders’ Equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current liabilities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts payable and accrued expenses |
| $ | 433,310 |
| $ | 293,705 |
| $ | 37,438 |
| $ | — |
| $ | 764,453 |
|
Short-term borrowings and current portion of long-term debt |
|
| 35,306 |
|
| 240,553 |
|
| 60,980 |
|
| — |
|
| 336,839 |
|
|
|
|
|
|
|
| ||||||||||
Total current liabilities |
|
| 468,616 |
|
| 534,258 |
|
| 98,418 |
|
| — |
|
| 1,101,292 |
|
Long-term debt |
|
| 932,950 |
|
| 321,458 |
|
| 978 |
|
| — |
|
| 1,255,386 |
|
Other liabilities |
|
| 56,947 |
|
| 107,121 |
|
| 23,628 |
|
| (1,243 | ) |
| 186,453 |
|
Stockholders’ equity |
|
| 2,762,984 |
|
| 2,970,607 |
|
| 228,712 |
|
| (3,199,319 | ) |
| 2,762,984 |
|
|
|
|
|
|
|
| ||||||||||
Total liabilities and stockholders’ equity |
| $ | 4,221,497 |
| $ | 3,933,444 |
| $ | 351,736 |
| $ | (3,200,562 | ) | $ | 5,306,115 |
|
|
|
|
|
|
|
|
19
QUEST DIAGNOSTICS INCORPORATED AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
(in thousands, unless otherwise indicated)
(unaudited)
Condensed Consolidating Statement of Cash Flows
Three Months Ended March 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non-Guarantor |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
| $ | 144,636 |
| $ | 35,527 |
| $ | 21,416 |
| $ | (56,943 | ) | $ | 144,636 |
|
Adjustments to reconcile net income to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
| 11,906 |
|
| 34,278 |
|
| 2,876 |
|
| — |
|
| 49,060 |
|
Provision for doubtful accounts |
|
| 1,445 |
|
| 14,081 |
|
| 47,897 |
|
| — |
|
| 63,423 |
|
Provision for restructuring |
|
| — |
|
| 24,841 |
|
| — |
|
| — |
|
| 24,841 |
|
Other, net |
|
| (91,642 | ) |
| 13,509 |
|
| 4,009 |
|
| 56,943 |
|
| (17,181 | ) |
Changes in operating assets and liabilities |
|
| 144,368 |
|
| (88,605 | ) |
| (79,883 | ) |
| — |
|
| (24,120 | ) |
|
|
|
|
|
|
| ||||||||||
Net cash provided by (used in) operating activities |
|
| 210,713 |
|
| 33,631 |
|
| (3,685 | ) |
| — |
|
| 240,659 |
|
Net cash used in investing activities |
|
| (59,371 | ) |
| (24,471 | ) |
| (1,942 | ) |
| 57,793 |
|
| (27,991 | ) |
Net cash provided by (used in) financing activities |
|
| (85,162 | ) |
| (7,726 | ) |
| 2,344 |
|
| (57,793 | ) |
| (148,337 | ) |
|
|
|
|
|
|
| ||||||||||
Net change in cash and cash equivalents |
|
| 66,180 |
|
| 1,434 |
|
| (3,283 | ) |
| — |
|
| 64,331 |
|
Cash and cash equivalents, beginning of period |
|
| 76,941 |
|
| 4,759 |
|
| 10,430 |
|
| — |
|
| 92,130 |
|
|
|
|
|
|
|
| ||||||||||
Cash and cash equivalents, end of period |
| $ | 143,121 |
| $ | 6,193 |
| $ | 7,147 |
| $ | — |
| $ | 156,461 |
|
|
|
|
|
|
|
|
Condensed Consolidating Statement of Cash Flows
Three Months Ended March 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Parent |
| Subsidiary |
| Non-Guarantor |
| Eliminations |
| Consolidated |
| |||||
|
|
|
|
|
|
| ||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income |
| $ | 131,611 |
| $ | 39,810 |
| $ | 9,153 |
| $ | (48,963 | ) | $ | 131,611 |
|
Adjustments to reconcile net income to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
| 13,173 |
|
| 26,793 |
|
| 2,562 |
|
| — |
|
| 42,528 |
|
Provision for doubtful accounts |
|
| 1,323 |
|
| 9,818 |
|
| 48,276 |
|
| — |
|
| 59,417 |
|
Other, net |
|
| (51,065 | ) |
| 978 |
|
| 823 |
|
| 48,963 |
|
| (301 | ) |
Changes in operating assets and liabilities |
|
| (15,916 | ) |
| (771 | ) |
| (80,539 | ) |
| — |
|
| (97,226 | ) |
|
|
|
|
|
|
| ||||||||||
Net cash provided by (used in) operating activities |
|
| 79,126 |
|
| 76,628 |
|
| (19,725 | ) |
| — |
|
| 136,029 |
|
Net cash provided by (used in) investing activities |
|
| 76,657 |
|
| (54,899 | ) |
| (3,031 | ) |
| (93,920 | ) |
| (75,193 | ) |
Net cash provided by (used in) financing activities |
|
| (142,193 | ) |
| (22,848 | ) |
| 23,145 |
|
| 93,920 |
|
| (47,976 | ) |
|
|
|
|
|
|
| ||||||||||
Net change in cash and cash equivalents |
|
| 13,590 |
|
| (1,119 | ) |
| 389 |
|
| — |
|
| 12,860 |
|
Cash and cash equivalents, beginning of period |
|
| 56,424 |
|
| 6,058 |
|
| 10,820 |
|
| — |
|
| 73,302 |
|
|
|
|
|
|
|
| ||||||||||
Cash and cash equivalents, end of period |
| $ | 70,014 |
| $ | 4,939 |
| $ | 11,209 |
| $ | — |
| $ | 86,162 |
|
|
|
|
|
|
|
|
20
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Critical Accounting Policies
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions and select accounting policies that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
While many operational aspects of our business are subject to complex federal, state and local regulations, the accounting for it is generally straightforward with net revenues primarily recognized upon completion of the testing process. Our revenues are primarily comprised of a high volume of relatively low dollar transactions, and about one-half of total operating costs and expenses consist of employee compensation and benefits. Due to the nature of our business, several of our accounting policies involve significant estimates and judgments. Our critical accounting policies are detailed in our Annual Report on Form 10-K for the year ended December 31, 2005. As of March 31, 2006, our critical accounting policies have not changed from December 31, 2005, except for the Company’s accounting for stock-based compensation in connection with the adoption of Statement of Financial Accounting Standards (“SFAS”) No. 123, revised 2004, “Share-Based Payment” (“SFAS 123R”).
Stock-Based Compensation Expense
Effective January 1, 2006, we adopted SFAS 123R using the modified prospective approach and therefore have not restated results for prior periods. Under this approach, awards that are granted, modified or settled after January 1, 2006 will be measured and accounted for in accordance with SFAS 123R. Unvested awards that were granted prior to January 1, 2006 will continue to be accounted for in accordance with SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS 123”), as amended by SFAS No. 148, “Accounting for Stock-Based Compensation - Transition and Disclosure - an amendment of FASB Statement No. 123” (“SFAS 148”), except that compensation cost will be recognized in our results of operations. Pursuant to the provisions of SFAS 123R, we record stock-based compensation as a charge to earnings net of the estimated impact of forfeited awards. As such, we recognize stock-based compensation cost only for those stock-based awards that are estimated to ultimately vest over their requisite service period, based on the vesting provisions of the individual grants.
Prior to the adoption of SFAS 123R, the Company accounted for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (“APB 25”), and related interpretations and chose to adopt the disclosure-only provisions of SFAS 123, as amended by SFAS 148. Under this approach, the cost of restricted stock awards was expensed over their vesting period, while the imputed cost of stock option grants and discounts offered under the Company’s Employee Stock Purchase Plan was disclosed, based on the vesting provisions of the individual grants, but not charged to expense.
The process of estimating the fair value of stock-based compensation awards and recognizing stock-based compensation cost over their requisite service period involves significant assumptions and judgments. We estimate the fair value of stock option awards on the date of grant using a lattice-based option-valuation model which requires management to make certain assumptions regarding: (i) the expected volatility in the market price of the Company’s common stock; (ii) dividend yield; (iii) risk-free interest rates; and (iv) the period of time employees are expected to hold the award prior to exercise (referred to as the expected holding period). The expected volatility under the lattice-based option-valuation model is based on the current and the historical implied volatilities from traded options of our stock. The dividend yield is based on the approved annual dividend rate in effect and current market price of the underlying common stock at the time of grant. The risk-free interest rate is based on the U.S. Treasury yield curve in effect at the time of grant for bonds with maturities ranging from 1 month to 7 years. The expected life of the awards granted is estimated using the historical exercise behavior of employees. In addition, SFAS 123R requires us to estimate the expected impact of forfeited awards and recognize stock-based compensation cost only for those awards expected to vest. If actual forfeiture rates are materially different from our estimates, stock-based compensation expense could be significantly different from what we have recorded in the current period. We periodically review actual forfeiture experience and revise our estimates, as considered necessary. The cumulative effect on current and prior periods of a change in the estimated forfeiture rate is recognized as compensation cost in earnings in the period of the revision. Finally, the terms of our performance share unit grants allow the recipients of such awards to earn a variable number of shares based on the achievement of the performance goals specified in the awards. The actual amount of any stock award is based on the Company’s earnings per share growth for the performance period compared
21
to that of a peer group of companies. Stock-based compensation expense associated with performance share units is recognized based on management’s best estimates of the achievement of the performance goals specified in such awards and the resulting number of shares that will be earned. If the actual number of performance share units earned is different from our estimates, stock-based compensation could be significantly different from what we have recorded in the current period. We periodically obtain and review publicly available financial information for the members of the peer group and the Company, including forecasted earnings estimates. This information is used to evaluate our progress towards achieving the performance criteria and our estimate of the number of performance share units expected to be earned at the end of the performance period. The cumulative effect on current and prior periods of a change in the estimated number of performance share units expected to be earned is recognized as compensation cost in earnings in the period of the revision. While the assumptions used to calculate and account for stock-based compensation awards represent management’s best estimates, these estimates involve inherent uncertainties and the application of management’s judgment. As a result, if revisions are made to our assumptions and estimates, our stock-based compensation expense could be materially different in the future. See Notes 1 and 2 to the interim consolidated financial statements for a further discussion of stock-based compensation.
Acquisition and Integration of LabOne, Inc.
On November 1, 2005, we completed the acquisition of LabOne, Inc., or LabOne, in an all-cash transaction with a combined value of approximately $947 million, including approximately $138 million of assumed debt of LabOne. See Note 3 to the Consolidated Financial Statements contained in our 2005 Annual Report on Form 10-K and Note 3 to the interim consolidated financial statements for a discussion of the LabOne acquisition.
Through the acquisition, Quest Diagnostics acquired all of LabOne’s operations, including its health screening and risk assessment services to life insurance companies, as well as its clinical diagnostic testing services to healthcare providers and drugs-of-abuse testing to employers. LabOne, with 2004 revenues of $468 million, had 3,100 employees and principal laboratories in Lenexa, Kansas, as well as in Cincinnati, Ohio. We financed the acquisition and related transaction costs together with the repayment of substantially all of LabOne’s debt outstanding with proceeds from a $900 million private placement of senior notes, as described in Note 10 to the Consolidated Financial Statements contained in our 2005 Annual Report on Form 10-K, and from cash on hand.
During the first quarter of 2006, we finalized our plan related to the integration of LabOne and recorded $23.3 million of costs, primarily comprised of employee severance benefits. Employee groups affected as a result of this plan include those involved in the testing of specimens, as well as administrative and other support functions. Of the total costs indicated above, $20.7 million related to actions that impact Quest Diagnostics’ employees and its operations and are comprised principally of employee severance benefits for approximately 600 employees. These costs were accounted for as a charge to earnings and included in “other operating expenses, net” within the consolidated statements of operations. In addition, $2.6 million of integration costs, related to actions that impact the employees and operations of LabOne, were accounted for as a cost of the LabOne acquisition and included in goodwill. Of the $2.6 million, $1.2 million related to asset write-offs with the remainder primarily associated with employee severance benefits for approximately 95 employees. As of March 31, 2006, accruals related to the LabOne integration plan totaled $20.7 million. While the majority of the accrued costs at March 31, 2006 are expected to be paid in 2006 and 2007, there are certain severance costs that have payment terms extending into 2008.
Upon completion of the LabOne integration, we expect to realize approximately $40 million of annual synergies and we expect to achieve this annual rate of synergies by the end of 2007.
Results of Operations
Our clinical testing business currently represents our one reportable business segment. The clinical testing business accounts for approximately 92% and 96% of consolidated net revenues for the three months ended March 31, 2006 and 2005, respectively. Our other operating segments consist of our risk assessment services business, our clinical trials testing business, our test kit manufacturing subsidiary, NID, and our healthcare information technology business, MedPlus. Our business segment information is disclosed in Note 10 to the interim consolidated financial statements.
Three Months Ended March 31, 2006 Compared with Three Months Ended March 31, 2005
Net income for the three months ended March 31, 2006 increased to $145 million, or $0.72 per diluted share, compared to $132 million, or $0.64 per diluted share in 2005. The increase in earnings was primarily attributable to organic revenue growth and increases in operating efficiencies in our clinical testing business resulting from our Six Sigma and standardization efforts. Included in the 2006 results were pre-tax special charges of $27 million, or $0.08 per
22
share, primarily associated with integration activities; and a pre-tax gain of $16 million, or $0.05 per share, associated with the sale of an investment. Our first quarter 2006 results include $19 million, or $0.06 per share, associated with stock-based compensation recorded in accordance with SFAS 123R.
Net Revenues
Net revenues for the three months ended March 31, 2006 grew by 17.9% over the prior year level to $1.6 billion. The acquisition of LabOne contributed 10.2% of the consolidated revenue growth. Approximately 54% of LabOne’s net revenues are generated from risk assessment services provided to life insurance companies, with the remainder classified as clinical laboratory testing. The performance at NID, the company’s test kit manufacturing subsidiary, reduced consolidated revenue growth by approximately 1%.
Our clinical testing business, which accounted for 92% of our consolidated net revenues, grew 13.4% for the three months ended March 31, 2006, with the acquisition of LabOne contributing approximately 5%, principally reflected in volume.
For the three months ended March 31, 2006, clinical testing volume increased 8.7% compared to the prior year period. The first quarter revenue and volume comparisons benefited by about 1% as a result of a milder winter this year, and the fact that the Easter holiday fell in the second quarter this year, compared to the first quarter last year.
Average revenue per requisition improved 4.3% for the three months ended March 31, 2006. The increase in revenue per requisition is principally driven by a shift to a more esoteric test mix and an increase in the number of tests ordered per requisition.
Our businesses other than clinical laboratory testing accounted for approximately 8% of our consolidated net revenues. These businesses include our clinical trials testing business and our healthcare information technology business (MedPlus), whose growth rates did not significantly affect our consolidated growth rate. In addition, we consider the risk assessment business, acquired as part of the LabOne acquisition, and NID to be non-clinical laboratory testing businesses. As a result of a continued product hold, NID’s net revenues for the three months ended March 31, 2006 decreased $13 million from the prior year level, and reduced consolidated revenue growth by 1.0%. The risk assessment business represents approximately 5% of our consolidated net revenues for the three months ended March 31, 2006 and is currently growing at approximately 3% per year.
Operating Costs and Expenses
Total operating costs and expenses for the three months ended March 31, 2006 increased $221 million from the prior year period primarily due to organic growth in our clinical testing volume and, to a lesser degree, the LabOne acquisition. The increased costs were primarily in the areas of employee compensation and benefits, which includes $19.4 million of charges associated with stock-based compensation recorded in accordance with SFAS 123R, and testing supplies. While our cost structure has been favorably impacted by efficiencies generated from our Six Sigma and standardization initiatives, we continue to make investments in sales, service, science and information technology to further differentiate our company. Additionally, for the three months ended March 31, 2006, $26.8 million in special charges are reflected in other operating expense, and relate principally to costs associated with integrating the LabOne acquisition and consolidating our operations in California into our new facility in West Hills.
Cost of services, which includes the costs of obtaining, transporting and testing specimens, was 59.3% of net revenues for the three months ended March 31, 2006, increasing from 59.1% of net revenues in the prior year period. The increase over the prior year is primarily due to the addition of the LabOne business, which carries a higher cost of sales percentage than the Company average, and the impact of NID’s performance. Partially offsetting this increase is improvement due to the increase in average revenue per requisition and efficiency gains resulting from our Six Sigma and standardization initiatives.
Selling, general and administrative expenses, which include the costs of the sales force, billing operations, bad debt expense and general management and administrative support, were 23.0% of net revenues for the three months ended March 31, 2006, decreasing from 23.4% in the prior year period. The improvement was primarily due to revenue growth, which has allowed us to leverage our expense base, as well as continued benefits from our Six Sigma and standardization efforts. Also contributing to the improvement is the addition of the LabOne business, which carries a lower selling, general and administrative expense percentage than the Company average. Partially offsetting the improvement is stock-based compensation expense recorded in accordance with SFAS 123R, which reduced the improvement by 1%, and the
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performance of NID, which served to reduce the improvement by 0.3%. For the three months ended March 31, 2006, bad debt expense was 4.1% of net revenues, compared to 4.5% in the prior year period. This decrease primarily relates to the improved collection of diagnosis, patient and insurance information necessary to more effectively bill for services performed. We believe that our Six Sigma and standardization initiatives and the increased use of electronic ordering by our customers will provide additional opportunities to further improve our overall collection experience and cost structure.
Other operating expense, net represents miscellaneous income and expense items related to operating activities including gains and losses associated with the disposal of operating assets and provisions for restructurings and other special charges. For the three months ended March 31, 2006, other operating expense, net includes a charge of $20.7 million associated with executing the integration plan of LabOne. The $20.7 million charge relates to actions that impact Quest Diagnostics’ employees and operations and is comprised principally of employee severance costs. Also in connection with the LabOne integration, we recorded $2.6 million of integration costs, which were included in goodwill. In addition, other operating expense, net for the three months ended March 31, 2006 includes a $4.1 million charge related to consolidating our operations in California into a new facility. The costs were comprised primarily of employee severance benefits and the write-off of certain operating assets.
Operating Income
Operating income for the three months ended March 31, 2006 improved to $245 million, or 15.7% of net revenues, from $230 million, or 17.4% of net revenues, in the prior year period. The increase in operating income is driven by the performance of our clinical testing business. Reducing the improvement over the prior year was $26.8 million of special charges recorded in the first quarter of 2006 related primarily to integration activities, $19.4 million of stock-based compensation pursuant to SFAS 123R and performance at NID. Operating income as a percentage of revenues compared to the prior year was reduced by approximately 1.7% due to the special charges, 1.2% due to the stock-based compensation expense and 0.8% due to the results of the LabOne business. In addition, the performance of NID reduced operating income as a percentage of revenues by 0.7%. Lastly, the milder winter and the timing of Easter benefited comparisons by about half a percent.
Other Income (Expense)
Interest expense, net for the three months ended March 31, 2006 increased $11 million over the prior year period. The increase in interest expense, net was primarily due to additional interest expense associated with our $900 million senior notes offering in October 2005 used to fund the LabOne acquisition, as described more fully in Note 10 to the Consolidated Financial Statements contained in our 2005 Annual Report on Form 10-K.
Other income, net represents miscellaneous income and expense items related to non-operating activities such as gains and losses associated with investments and other non-operating assets. For the three months ended March 31, 2006, other income, net includes a $15.8 million gain on the sale of an investment.
NID
During the fourth quarter of 2005, the Company’s test kit manufacturing subsidiary, NID, instituted its second voluntary product hold within a six-month period, due to quality issues, which has adversely impacted the operating performance of NID. As a result, the Company evaluated a number of strategic options for NID. On April 19, 2006, the Company decided to discontinue NID’s operations. This decision is expected to result in a pre-tax charge in the second quarter of 2006 preliminarily estimated to be up to $45 million. The estimated charge is expected to principally relate to the write-off of operating assets and the accrual of liabilities associated with employee severance costs and various lease commitments. The associated cash expenditures are estimated to be up to $35 million.
The ongoing government investigation and regulatory review of NID continue. While we do not believe that these matters will have a material adverse impact on our overall financial condition, their final resolution could be material to our results of operations or cash flows in the period in which the impact of such matters is determined or paid. See Note 6 to the interim consolidated financial statements for a further description of these matters.
Quantitative and Qualitative Disclosures About Market Risk
We address our exposure to market risks, principally the market risk of changes in interest rates, through a controlled program of risk management that may include the use of derivative financial instruments. We do not hold or issue derivative financial instruments for trading purposes. We do not believe that our foreign exchange exposure is
24
material to our financial condition or results of operations. See Note 2 to the Consolidated Financial Statements in our 2005 Annual Report on Form 10-K for additional discussion of our financial instruments and hedging activities.
At March 31, 2006 and December 31, 2005, the fair value of our debt was estimated at approximately $1.5 billion and $1.6 billion, respectively, using quoted market prices and yields for the same or similar types of borrowings, taking into account the underlying terms of the debt instruments. At March 31, 2006 and December 31, 2005, the estimated fair value exceeded the carrying value of the debt by approximately $7 million and $39 million, respectively. An assumed 10% increase in interest rates (representing approximately 53 and 59 basis points at March 31, 2006 and December 31, 2005, respectively) would potentially reduce the estimated fair value of our debt by approximately $37 million and $36 million at March 31, 2006 and December 31, 2005, respectively.
Borrowings under our senior unsecured revolving credit facility, our secured receivables credit facility and our term loan due December 2008, are subject to variable interest rates. Interest on our secured receivables credit facility is based on rates that are intended to approximate commercial paper rates for highly rated issuers. Interest rates on our senior unsecured revolving credit facility and term loan due December 2008 are subject to a pricing schedule that can fluctuate based on changes in our credit ratings. As such, our borrowing cost under these credit arrangements will be subject to both fluctuations in interest rates and changes in our credit ratings. As of March 31, 2006, our borrowing rate for our LIBOR-based loans was LIBOR plus 0.5%. At March 31, 2006, there was $75 million outstanding under our term loan due December 2008 and no borrowings outstanding under our $500 million senior unsecured revolving credit facility or our $300 million secured receivables credit facility. Based on our net exposure to interest rate changes, an assumed 10% change in interest rates on our variable rate indebtedness (representing approximately 48 basis points) would impact annual net interest expense by approximately $0.4 million, assuming no changes to the debt outstanding at March 31, 2006. See Note 10 to the Consolidated Financial Statements in our 2005 Annual Report on Form 10-K for details regarding our debt outstanding.
Liquidity and Capital Resources
Cash and Cash Equivalents
Cash and cash equivalents at March 31, 2006 totaled $156 million, compared to $92 million at December 31, 2005. Cash flows from operating activities in 2006 were $241 million, which were used to fund investing and financing activities of $28 million and $148 million, respectively. Cash and cash equivalents at March 31, 2005 totaled $86 million, compared to $73 million at December 31, 2004. Cash flows from operating activities in 2005 were $136 million, which were used to fund investing and financing activities of $75 million and $48 million, respectively.
Cash Flows from Operating Activities
Net cash provided by operating activities for the three months ended March 31, 2006 was $241 million compared to $136 million in the prior year period. This increase was primarily due to improved operating performance, the timing of payments for various accrued liabilities, including interest, integration costs and accounts payable, and a smaller increase in accounts receivable than in the prior year. Days sales outstanding, a measure of billing and collection efficiency, improved to 43 days at March 31, 2006 from 46 days at December 31, 2005.
Cash Flows from Investing Activities
Net cash used in investing activities for the three months ended March 31, 2006 was $28 million, consisting primarily of capital expenditures of $42 million offset by $15.8 million of proceeds received in connection with the sale of an investment.
Net cash used in investing activities for the three months ended March 31, 2005 was $75 million, consisting primarily of capital expenditures of $55 million and an acquisition of a small regional laboratory for $19 million.
Cash Flows from Financing Activities
Net cash used in financing activities for the three months ended March 31, 2006 was $148 million, consisting primarily of purchases of treasury stock totaling $104 million, repayment of $60 million of principal outstanding under our secured receivables credit facility and dividend payments of $18 million, partially offset by $52 million in proceeds from the exercise of stock options, including related tax benefits. The $104 million in treasury stock purchases represents 2.0 million shares of our common stock purchased at an average price of $52.05 per share.
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Net cash used in financing activities for the three months ended March 31, 2005 was $48 million, consisting primarily of purchases of treasury stock totaling $62 million and dividend payments totaling $15 million, partially offset by $35 million in proceeds from the exercise of stock options. In addition, we repaid the remaining $100 million of principal outstanding under our senior unsecured revolving credit facility with $100 million of borrowings under our secured receivables credit facility. The $62 million in treasury stock purchases represents 1.3 million shares of our common stock purchased at an average price of $49.58 per share.
Stock Split
On June 20, 2005, the Company effected a two-for-one stock split through the issuance of a stock dividend of one new share of common stock for each share of common stock held by stockholders of record on June 6, 2005. References to previously reported number of common shares and per common share amounts including earnings per common share calculations and related disclosures, have been restated to give retroactive effect to the stock split for all periods presented.
Dividend Policy
During each of the quarters of 2005, our Board of Directors has declared a quarterly cash dividend of $0.09 per common share. On January 26, 2006, our Board of Directors declared a quarterly cash dividend per common share of $0.10, payable on April 19, 2006, to shareholders of record on April 5, 2006. We expect to fund future dividend payments with cash flows from operations, and do not expect the dividend to have a material impact on our ability to finance future growth.
Share Repurchase Plan
For the three months ended March 31, 2006, we repurchased 2.0 million shares of our common stock at an average price of $52.05 per share for $104 million. Through March 31, 2006, we have repurchased approximately 34.4 million shares of our common stock at an average price of $43.16 for approximately $1.5 billion under our share repurchase program. At March 31, 2006, the total available for repurchases under the remaining authorizations was $618 million.
Contractual Obligations and Commitments
A full description of the terms of our indebtedness and related debt service requirements and our future payments under certain of our contractual obligations is contained in Note 10 to the Consolidated Financial Statements in our 2005 Annual Report on Form 10-K. A full discussion and analysis regarding our minimum rental commitments under noncancelable operating leases and noncancelable commitments to purchase products or services at December 31, 2005 is contained in Note 14 to the Consolidated Financial Statements in our 2005 Annual Report on Form 10-K. See Note 6 to the interim consolidated financial statements for information regarding the status of legal matters involving the Company.
Our credit agreements relating to our senior unsecured revolving credit facility and our term loan due December 2008 contain various covenants and conditions, including the maintenance of certain financial ratios, that could impact our ability to, among other things, incur additional indebtedness. We do not expect these covenants to adversely impact our ability to execute our growth strategy or conduct normal business operations.
Unconsolidated Joint Ventures
We have investments in unconsolidated joint ventures in Phoenix, Arizona; Indianapolis, Indiana; and Dayton, Ohio, which are accounted for under the equity method of accounting. We believe that our transactions with our joint ventures are conducted at arm’s length, reflecting current market conditions and pricing. Total net revenues of our unconsolidated joint ventures equal less than 6% of our consolidated net revenues. Total assets associated with our unconsolidated joint ventures are less than 2% of our consolidated total assets. We have no material unconditional obligations or guarantees to, or in support of, our unconsolidated joint ventures and their operations.
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Requirements and Capital Resources
We estimate that we will invest approximately $225 million to $245 million during 2006 for capital expenditures to support and expand our existing operations, principally related to investments in information technology, equipment, and facility upgrades.
Our 6¾% senior notes, which have an aggregate principal amount of $275 million outstanding, mature in July 2006. We may repay the notes with cash on hand or refinance the notes with borrowings under our unsecured revolving credit facility, secured receivables credit facility or other financing arrangements.
We believe that cash from operations and our borrowing capacity under our credit facilities will provide sufficient financial flexibility to meet seasonal working capital requirements and to fund capital expenditures, debt service requirements, cash dividends on common shares, share repurchases and additional growth opportunities for the foreseeable future. Our investment grade credit ratings have had a favorable impact on our cost of and access to capital, and we believe that our improved financial performance should provide us with access to additional financing, if necessary, to fund growth opportunities that cannot be funded from existing sources.
Impact of New Accounting Standard
Effective January 1, 2006, we adopted SFAS 123R using the modified prospective approach. See Notes 1 and 2 to the interim consolidated financial statements for further details.
Forward-Looking Statements
Some statements and disclosures in this document are forward-looking statements. Forward-looking statements include all statements that do not relate solely to historical or current facts and can be identified by the use of words such as “may”, “believe”, “will”, “expect”, “project”, “estimate”, “anticipate”, “plan” or “continue”. These forward-looking statements are based on our current plans and expectations and are subject to a number of risks and uncertainties that could significantly cause our plans and expectations, including actual results, to differ materially from the forward-looking statements. The Private Securities Litigation Reform Act of 1995, or the Litigation Reform Act, provides a “safe harbor” for forward-looking statements to encourage companies to provide prospective information about their companies without fear of litigation.
We would like to take advantage of the “safe harbor” provisions of the Litigation Reform Act in connection with the forward-looking statements included in this document. The risks and other factors that could cause our actual financial results to differ materially from those projected, forecasted or estimated by us in forward-looking statements may include, but are not limited to, unanticipated expenditures, changing relationships with customers, payers, suppliers and strategic partners, competitive environment, changes in government regulations, conditions of the economy and other factors described in our 2005 Annual Report on Form 10-K and subsequent filings.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
See Item 2. “Management’s Discussion and Analysis of Financial Condition and Results of Operations”.
Item 4. Controls and Procedures
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(a) | Our Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined under Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer have concluded that our disclosure controls and procedures are adequate and effective. |
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(b) | During the first quarter of 2006, there were no changes in our internal control over financial reporting that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. |
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PART II - OTHER INFORMATION
Item 1. Legal Proceedings
See Note 6 to the interim consolidated financial statements for information regarding the status of legal proceedings involving the Company.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
ISSUER PURCHASES OF EQUITY SECURITIES
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Period |
| (a) Total |
| (b) Average Price |
| (c) Total Number of Shares |
| (d) Approximate Dollar Value |
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January 1, 2006 – |
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| 119,000 |
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| $ | 49.43 |
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| 119,000 |
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| $ | 716,141 |
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February 1, 2006 – |
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| 1,058,900 |
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| $ | 51.89 |
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| 1,058,900 |
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| $ | 661,190 |
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March 1, 2006 - |
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| 819,800 |
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| $ | 52.63 |
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| 819,800 |
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| $ | 618,046 |
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Total |
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| 1,997,700 |
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| $ | 52.05 |
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| 1,997,700 |
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| $ | 618,046 |
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In 2003, our Board of Directors authorized a share repurchase program, which permitted us to purchase up to $600 million of our common stock. In July 2004, our Board of Directors authorized us to purchase up to an additional $300 million of our common stock. Under a separate authorization from our Board of Directors, in December 2004 we repurchased 5.4 million shares of our common stock for approximately $254 million from GlaxoSmithKline plc. In January 2005, our Board of Directors expanded the share repurchase authorization by an additional $350 million. In January 2006, our Board of Directors expanded the share repurchase authorization by an additional $600 million.
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Item 6.Exhibits | ||
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| Exhibits: |
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| 31.1 | Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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| 31.2 | Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 |
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| 32.1 | Certification of Chief Executive Officer Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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| 32.2 | Certification of Chief Financial Officer Pursuant to 18 U.S.C. §1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
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Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
April 28, 2006
Quest Diagnostics Incorporated
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By | /s/ Surya N. Mohapatra |
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| Surya N. Mohapatra, Ph.D. | |
| Chairman, President and | |
| Chief Executive Officer |
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By | /s/ Robert A. Hagemann |
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| Robert A. Hagemann | |
| Senior Vice President and | |
| Chief Financial Officer |
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