UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
---------------
THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
_______________TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission file number 1-4448
BAXTER INTERNATIONAL INC.
------------------------
(Exact name of registrant as specified in its charter)
Delaware 36-0781620
------------------------------- -----------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
One Baxter Parkway, Deerfield, Illinois 60015-4633
--------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(847) 948-2000
------------------------------
(Registrant's telephone number,
including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No_____
---------
The number of shares of the registrant's Common Stock, par value $1.00 per
share, outstanding as of November 5, 1999, the latest practicable date, was
290,930,705 shares.
BAXTER INTERNATIONAL INC.
FORM 10-Q
For the quarterly period ended September 30, 1999
TABLE OF CONTENTS
Page Number
-----------
Part I. FINANCIAL INFORMATION
- -------------------------------
Item 1. Financial Statements
Condensed Consolidated Statements of Income................ 2
Condensed Consolidated Balance Sheets...................... 3
Condensed Consolidated Statements of Cash Flows............ 4
Notes to Condensed Consolidated Financial Statements....... 5
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations.................................. 14
Review by Independent Public Accountants................................ 24
Report of Independent Accountants....................................... 25
Part II. OTHER INFORMATION
- ---------------------------
Item 1. Legal Proceedings............................................. 26
Item 6. Exhibits and Reports on Form 8-K.............................. 29
Signature............................................................... 30
Exhibits................................................................ 31
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Baxter International Inc. and Subsidiaries
Condensed Consolidated Statements of Income (unaudited)
(in millions, except per share data)
Three months ended Nine months ended
September 30, September 30,
1999 1998 1999 1998
--------------------------- ----------------------------
Operations
Net sales $1,589 $1,427 $4,611 $4,102
Costs and expenses
Cost of goods sold 876 794 2,583 2,252
Marketing and administrative expenses 328 306 951 869
Research and development expenses 83 89 242 247
In-process research and development -- -- -- 116
Net litigation charge -- 178 -- 178
Exit and other reorganization costs -- 122 -- 122
Interest, net 22 30 68 94
Goodwill amortization 4 4 13 13
Other expense (income) 9 (13) 15 (9)
- --------------------------------------------------------------------------------------------------------------------------
Total costs and expenses 1,322 1,510 3,872 3,882
- --------------------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations before income
taxes and cumulative effect of accounting change 267 (83) 739 220
Income tax expense 70 44 191 147
- --------------------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations before
cumulative effect of accounting change 197 (127) 548 73
Income from discontinued operation, net of applicable
income tax expense of $4 and $14 in 1999 and
$4 and $12 in 1998 13 3 47 30
- --------------------------------------------------------------------------------------------------------------------------
Income (loss) before cumulative effect of accounting
change 210 (124) 595 103
Cumulative effect of accounting change, net of
income tax benefit of $7 -- -- (27) --
- --------------------------------------------------------------------------------------------------------------------------
Net income (loss) $ 210 ($124) $ 568 $ 103
- --------------------------------------------------------------------------------------------------------------------------
Earnings (loss) per basic common share
Continuing operations, before cumulative effect of
accounting change $ .67 ($.44) $ 1.89 $ .26
Discontinued operation .05 .01 .16 .10
Cumulative effect of accounting change -- -- (.09) --
- --------------------------------------------------------------------------------------------------------------------------
Net income $ .72 ($.43) $ 1.96 $ .36
==========================================================================================================================
Earnings (loss) per diluted common share
Continuing operations, before cumulative effect of
accounting change $ .67 ($.44) $ 1.86 $ .26
Discontinued operation .04 .01 .16 .10
Cumulative effect of accounting change -- -- (.10) --
- --------------------------------------------------------------------------------------------------------------------------
Net income $ .71 ($.43) $ 1.92 $ .36
==========================================================================================================================
Weighted average number
of common shares outstanding:
Basic 292 285 289 283
==========================================================================================================================
Diluted 297 285 295 288
==========================================================================================================================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
Baxter International Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
(in millions, except shares)
- ----------------------------------------------------------------------------------------------------------------------
September 30, December 31,
1999 1998
(unaudited)
---------------------------------------
Current assets Cash and equivalents $ 825 $ 709
Accounts receivable 1,456 1,429
Notes and other current receivables 185 317
Inventories 1,211 1,167
Short-term deferred income taxes 345 453
Prepaid expenses 233 220
---------------------------------------------------------------------------------------------------
Total current assets 4,255 4,295
- ----------------------------------------------------------------------------------------------------------------------
Property, At cost 4,601 4,508
plant and Accumulated depreciation and amortization (2,087) (2,063)
Equipment ---------------------------------------------------------------------------------------------------
Net property, plant and equipment 2,514 2,445
- ----------------------------------------------------------------------------------------------------------------------
Other assets Net assets of discontinued operation 1,265 1,275
Goodwill and other intangibles 862 930
Insurance receivables 347 378
Other 659 550
---------------------------------------------------------------------------------------------------
Total other assets 3,133 3,133
- ----------------------------------------------------------------------------------------------------------------------
Total assets $ 9,902 $ 9,873
======================================================================================================================
Current Notes payable to banks $ 261 $ 156
liabilities Current maturities of long-term debt and lease obligations 110 115
Accounts payable and accrued liabilities 1,644 2,024
Income taxes payable 535 536
---------------------------------------------------------------------------------------------------
Total current liabilities 2,550 2,831
- ----------------------------------------------------------------------------------------------------------------------
Long-term debt and lease obligations 2,916 3,096
- ----------------------------------------------------------------------------------------------------------------------
Long-term deferred income taxes 443 461
- ----------------------------------------------------------------------------------------------------------------------
Long-term litigation liabilities 312 246
- ----------------------------------------------------------------------------------------------------------------------
Other long-term liabilities 404 400
- ----------------------------------------------------------------------------------------------------------------------
Stockholders' Common stock, $1 par value, authorized 350,000,000
equity shares, issued 294,363,251 shares in 1999 and
291,248,251 shares in 1998 294 291
Additional contributed capital 2,266 2,064
Retained earnings 1,270 990
Common stock in treasury, at cost, 2,654,017
shares in 1999 and 4,919,141 shares in 1998 (167) (210)
Accumulated other comprehensive income (expense) (386) (296)
---------------------------------------------------------------------------------------------------
Total stockholders' equity 3,277 2,839
- ----------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 9,902 $ 9,873
======================================================================================================================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
Baxter International Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows (unaudited)
(in millions)
- ------------------------------------------------------------------------------------------------------------------------
Nine months ended September 30,
(brackets denote cash outflows) 1999 1998
-----------------------------------------
Cash flows Income from continuing operations $ 521 $ 73
from Adjustments
operations Depreciation and amortization 279 253
Deferred income taxes 95 (18)
Cumulative effect of accounting change 34 --
In-process research and development -- 116
Net litigation charge -- 178
Exit and other reorganization costs -- 122
Other 23 (15)
Changes in balance sheet items
Accounts receivable (85) (73)
Inventories (78) (148)
Accounts payable and other accrued liabilities (154) (37)
Net litigation payments and other (228) (106)
-------------------------------------------------------------------------------------------------------
Cash flows from continuing operations 407 345
Cash flows provided by discontinued operation 54 56
- ------------------------------------------------------------------------------------------------------------------------
Cash flows provided by operations 461 401
- ------------------------------------------------------------------------------------------------------------------------
Cash flows Capital expenditures (394) (320)
from investing Acquisitions, net of cash received,
activities and investments in affiliates (70) (276)
Divestitures and other asset dispositions 5 --
-------------------------------------------------------------------------------------------------------
Investment activities, net (459) (596)
- ------------------------------------------------------------------------------------------------------------------------
Cash flows Issuances of debt and lease obligations 802 498
from financing Redemptions of debt and lease obligations (313) (531)
activities Increase (decrease) in debt with maturities
of three months or less, net (353) 416
Common stock cash dividends (254) (248)
Stock issued under Shared Investment Plan 198 --
Stock issued under employee benefit plans 120 90
Purchase of treasury stock (71) --
- ------------------------------------------------------------------------------------------------------------------------
Financing activities, net 129 225
- ------------------------------------------------------------------------------------------------------------------------
Effect of currency exchange rate changes on cash and equivalents (15) (17)
- ------------------------------------------------------------------------------------------------------------------------
Increase in cash and equivalents 116 13
Cash and equivalents at beginning of period 709 465
- ------------------------------------------------------------------------------------------------------------------------
Cash and equivalents at end of period $ 825 $ 478
========================================================================================================================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
Baxter International Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements (unaudited)
1. FINANCIAL INFORMATION
- -------------------------
The unaudited interim condensed consolidated financial statements of Baxter
International Inc. and its subsidiaries (the company or Baxter) have been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. Accordingly, certain information and footnote disclosures normally
included in financial statements prepared in accordance with generally accepted
accounting principles (GAAP) have been condensed or omitted. These interim
condensed consolidated financial statements should be read in conjunction with
the consolidated financial statements and notes included in the company's 1998
Annual Report to Stockholders.
In the opinion of management, the interim condensed consolidated financial
statements reflect all adjustments necessary for a fair presentation of the
interim periods. All such adjustments are of a normal, recurring nature. The
results of operations for the interim period are not necessarily indicative of
the results of operations to be expected for the full year.
Certain reclassifications have been made to conform the 1998 financial
statements to the 1999 presentation.
Basis of consolidation
- ----------------------
Prior to fiscal 1999, all operations outside the United States and its
territories had been included in the consolidated financial statements on the
basis of fiscal years ending November 30 in order to facilitate timely
consolidation. In conjunction with the implementation of new financial systems,
this one-month lag was eliminated as of the beginning of fiscal 1999 for certain
of these international operations, and the December 1998 net loss from
operations of $34 million for these entities was recorded directly to retained
earnings.
Start-up costs
- --------------
Effective at the beginning of 1999, the company adopted AICPA Statement of
Position (SOP) 98-5, "Reporting on the Costs of Start-up Activities." This SOP
requires that, at the date of adoption, costs of start-up and organization
activities previously capitalized be expensed and reported as a cumulative
effect of a change in accounting principle, and requires that such costs
subsequent to adoption be expensed as incurred. The after-tax cumulative effect
of this accounting change was $27 million. Excluding the initial effect of
adopting this standard, management does not anticipate that the new SOP will
have a material impact on future results of operations.
Comprehensive income
- --------------------
Total comprehensive income (expense) was $161 million and ($127) million for the
three months ended September 30, 1999 and 1998, respectively, and was
$444 million and $45 million for the nine months ended September 30, 1999 and
1998, respectively.
5
2. DISCONTINUED OPERATION
- --------------------------
On July 11, 1999, the board of directors of Baxter International Inc. approved a
plan to spin off its cardiovascular business to Baxter stockholders. Management
expects that shares of the new cardiovascular company will be distributed to
Baxter stockholders (the distribution) during the second quarter of 2000 and
that the spin-off will be tax-free. The distribution will result in the
cardiovascular business operating as an independent entity with publicly traded
common stock. The creation of a separately traded, publicly held company will
enable Baxter and the new company to devote more management time, attention and
investments directly to the core strategies of each business. The spin-off is
expected to provide both companies with more financial flexibility and
accelerate the speed of innovation.
The cardiovascular business manufactures, markets and sells a comprehensive line
of products and services to treat late-stage cardiovascular disease. Sales are
categorized in four main product areas: (a) cardiac surgery, (b) critical care,
(c) vascular, and (d) perfusion products and services. In addition, the
cardiovascular business offers a diverse grouping of product lines comprised
mostly of select distributed products that are sold in international markets,
and miscellaneous pharmaceutical products. The cardiac surgery portfolio is
comprised of products relating to heart-valve therapy, mechanical cardiac
assist, and cannulae and cardioplegia products used during open-heart surgery.
In the critical care area, the business provides hemodynamic monitoring systems
that are used to measure a patient's heart function in surgical and intensive
care settings. The cardiovascular business' vascular product lines include a
line of balloon catheter-based products, surgical clips and inserts, angioscopy
equipment, and artificial implantable grafts, as well as an endovascular system
that is used to treat less invasively life-threatening abdominal aortic
aneurysms. In the perfusion products and services category, the business
designs, develops, manufactures and markets a diverse line of disposable
products used during cardiopulmonary bypass procedures, including oxygenators,
blood containers, filters and related devices, as well as bypass equipment. CVG
also is a provider of perfusion services.
The following unaudited net sales data for the cardiovascular business is
presented for informational purposes only and does not necessarily reflect what
the net sales would have been had the business operated as a stand-alone entity.
- ---------------------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
(in millions) 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------
Net sales $ 217 $ 222 $ 673 $ 661
===========================================================================================================================
The following unaudited selected balance sheet data for the cardiovascular
business is presented for informational purposes only.
- ---------------------------------------------------------------------------------------------------------------------
September 30, December 31,
(in millions) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Net current assets $ 225 $ 200
Net noncurrent assets 1,040 1,075
- ---------------------------------------------------------------------------------------------------------------------
Total net assets $1,265 $1,275
=====================================================================================================================
6
As a result of the board's approval of the distribution, the company's condensed
consolidated financial statements and related notes have been adjusted and
restated to reflect the financial position, results of operations and cash flows
of the cardiovascular business as a discontinued operation. It is expected that
through the issuance of new third-party debt, a portion of Baxter's existing
debt will be indirectly assumed by the new cardiovascular company. The amount
of debt will be determined when the capital structure for the new company is
finalized.
3. EARNINGS PER SHARE
- ----------------------
The numerator for both basic and diluted earnings per share (EPS) is income from
continuing operations before cumulative effect of accounting change, income from
discontinued operation, cumulative effect of accounting change or net income,
as applicable. The denominator for basic EPS is the weighted-average number of
common shares outstanding during the period. The following is a reconciliation
of the shares (denominator) of the basic and diluted per-share computations:
- ---------------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
(in millions) 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Basic EPS shares 292 285 289 283
- ---------------------------------------------------------------------------------------------------------------------
Effect of dilutive securities
Employee stock options 4 5 5 5
Employee stock purchase plans and equity
forward agreements 1 0 1 0
- ---------------------------------------------------------------------------------------------------------------------
Diluted EPS shares 297 290 295 288
=====================================================================================================================
4. COMMON STOCK
- ------------------
Shared Investment Plan
- ----------------------
In connection with a newly implemented Shared Investment Plan, the company
received approximately $198 million in cash in May 1999 from 142 of Baxter's
senior managers, who in the aggregate voluntarily purchased approximately 3.1
million shares of the company's common stock. This plan, which is similar to
one implemented in 1994, directly aligns management and shareholder interests.
The Baxter managers used full-recourse personal bank loans to purchase the stock
at the May 3, 1999 closing price of $63.625. Baxter has agreed to guarantee
repayment to the banks in the event of default by a participant in the plan.
Equity Forward Agreements
- -------------------------
During the nine months ended September 30, 1999, the company entered into
forward agreements with independent third parties related to approximately 7.5
million shares of its common stock. The purpose of the agreements is to attempt
to partially offset the dilutive effect of stock issuances under the company's
employee stock option plans. The forward agreements require the company to
purchase its common stock from the counterparties on specified future dates and
at specified prices. The company can, at its option, require settlement of the
agreements with shares of its common stock or, in some cases, cash, in lieu of
physical settlement. The company may, at its option, terminate and settle these
agreements early at any time before maturity.
7
In conjunction with its stock repurchase program, during the third quarter of
1999 the company terminated one of the agreements prior to original maturity
date, delivering approximately $33 million in cash to the counterparty for
500,000 shares of its common stock.
As of September 30, 1999, agreements related to approximately 3.3 million shares
mature in 2000 at exercise prices ranging from $68 to $71 per share and
agreements related to approximately 3.7 million shares mature in 2002 at
exercise prices ranging from $73 to $81 per share.
5. ACQUISITIONS
- ----------------
All acquisitions during the nine months ended September 30, 1999 and 1998 were
accounted for under the purchase method. Results of operations of acquired
companies are included in the company's results of operations as of the
respective acquisition dates. The purchase price of each acquisition was
allocated to the net assets acquired based on estimates of their fair values at
the date of the acquisition. The excess of the purchase price over the fair
values of the net tangible assets and liabilities acquired was allocated to
goodwill and other intangible assets, and is being amortized on a straight-line
basis over periods ranging from 10 to 40 years. As further discussed below, a
portion of the purchase price for one of the acquisitions was allocated to
in-process research and development (IPR&D) which, under GAAP, was immediately
expensed.
Excluding the IPR&D charge, had the 1999 and 1998 acquisitions taken place on
January 1 of 1999 or 1998, net sales, net income and earnings per share would
not have been materially different from the reported amounts.
Somatogen, Inc.
- ---------------
In May 1998, the company acquired Somatogen, Inc. (Somatogen), a developer of
recombinant hemoglobin-based technology. The purchase price was approximately
$206 million and was principally settled with approximately 3.5 million shares
of Baxter International Inc. common stock. In addition, Somatogen shareholders
are entitled to a contingent deferred cash payment of up to $2.00 per Somatogen
share, or approximately $42 million, based on a percentage of sales of certain
future products through the year 2007. Approximately $116 million of the
purchase price was allocated to IPR&D, and immediately expensed, as discussed
above.
The amount allocated to IPR&D was determined on the basis of an independent
appraisal using the income approach, which measures the value of an asset by the
present value of its future economic benefits. Estimated cash flows were
discounted to their present values at rates of return that incorporate the risk-
free rate, the expected rate of inflation, and risks associated with the
particular projects, including their stages of completion. A discount rate of
22 percent was used in the valuation. Projected revenue and cost assumptions
were determined considering the company's historical experience, industry trends
and averages and other information. Somatogen was a development-stage company,
developing oxygen-carrying therapeutics. No revenue had ever been generated
from commercial product sales. The development of oxygen-carrying therapeutics
is a strategic priority to Baxter. At the time of the acquisition of Somatogen,
Baxter was in final-stage (Phase III) clinical trials with its HemAssist(R)
(DCLHb) product. Baxter acquired Somatogen to advance the development of new
generations of recombinant oxygen-carrying technology-based products with
enhanced attributes. Subsequent to the date of the acquisition, Baxter decided
to end its HemAssist (DCLHb)
8
program and focus on Somatogen's next-generation program. Material net cash
inflows relating to Somatogen's IPR&D were forecasted in the valuation to begin
in 2004. Estimated research and development (R&D) costs to be incurred prior to
2004 were forecasted in the valuation to total approximately $100 million. As
the R&D efforts progress, it is currently forecasted that material net cash
inflows relating to Somatogen's IPR&D will not begin until after 2005. Also, it
is currently estimated that almost $200 million of R&D costs will be incurred
between the date of acquisition and 2006, with increasing levels of spending
incurred each year. Approximately $23 million of R&D costs have been expended
from acquisition date through September 30, 1999.
Pharmaceutical Products Division of the BOC Group
In April 1998, the company acquired the Pharmaceutical Products Division of the
BOC Group's Ohmeda health-care business, a manufacturer of gases and drugs used
for general and local anesthesia, for approximately $91 million. The fair value
of the identifiable net assets acquired exceeded the purchase price by
approximately $149 million. Such excess was allocated to reduce the values
assigned to noncurrent assets in determining their fair values.
Bieffe Medital S.p.A.
In early 1998, the company acquired Bieffe Medital S.p.A. (Bieffe), a
manufacturer of dialysis and intravenous solutions and containers, for
approximately $188 million. Approximately $124 million and $15 million of the
purchase price was allocated to goodwill and other intangibles, respectively.
Acquisition Reserves
Based on plans formulated at acquisition date, reserves have been established
for certain acquisitions principally to rationalize headcount, exit certain
activities and terminate certain contracts relating to the acquired companies.
With respect to the acquisition of Bieffe, approximately $19 million in reserves
were established at acquisition date. Approximately $6 million of the reserves
pertained to employee-related costs associated with Bieffe headcount reductions
impacting various functions. Approximately $13 million pertained primarily to
contractual obligations that existed prior to the date of acquisition that
either continued with no economic benefit or required payment of a cancellation
penalty. Approximately $1 million of the reserves were utilized during the nine-
month period ended September 30, 1999. Of the $15 million of reserves remaining
at September 30, 1999, approximately $4 million pertained to employee-related
costs and approximately $11 million related to contract termination and other
costs.
With respect to the acquisition of Immuno International AG (Immuno), of the
approximately $79 million of reserves originally established principally to
rationalize Immuno headcount, exit certain Immuno activities, and terminate
certain Immuno contractual arrangements, approximately $42 million of reserves
were remaining at September 30, 1999. The headcount reductions affect various
functions and geographic areas, but principally the sales and marketing area in
Europe. Approximately $8 million of reserves were utilized during the nine
months ended September 30, 1999, of which the majority related to employee-
related costs associated with headcount eliminations. With respect to the $42
million of remaining reserves, approximately $15 million pertains to employee-
related costs, with the remainder relating principally to costs to exit certain
Immuno activities and contractual obligations that existed at the acquisition
date.
With respect to the acquisition of Clintec Nutrition Company, approximately $25
million of reserves were established at acquisition date. At September 30, 1999,
the reserve balance totaled approximately $18 million, and related principally
to employee-related costs associated with headcount eliminations. Approximately
$1 million of reserves were utilized during the nine months ended September 30,
1999, principally relating to severance as a result of the elimination of
headcount.
Actions executed to date and anticipated in the future with respect to these
acquisitions are substantially consistent with the original plans. Management
believes remaining reserves are adequate to complete the actions contemplated by
the plans.
9
6. INVENTORIES
- ---------------
Inventories consisted of the following:
- ---------------------------------------------------------------------------------------------------------------------
September 30, December 31,
1999 1998
(in millions) (unaudited)
- ---------------------------------------------------------------------------------------------------------------------
Raw materials $ 299 $ 282
Work in process 223 226
Finished products 689 659
- ---------------------------------------------------------------------------------------------------------------------
Total inventories $1,211 $1,167
=====================================================================================================================
7. EXIT AND OTHER REORGANIZATION PROGRAMS
- ------------------------------------------
In September 1998, the company decided to end the clinical development of the
Blood Therapies' segment's first-generation oxygen-carrying therapeutic called
HemAssist(R)(DCLHb) and focus on the next-generation program. While the first-
generation program was based on human hemoglobin, the next-generation program is
based on genetically engineered hemoglobin molecules. The company also decided
to exit certain non-strategic investments, primarily in Asia, and reorganize
certain other activities, principally in the Blood Therapies and I.V.
Systems/Medical Products segments.
As a result of these decisions, the company recorded a $122 million pretax
charge in the third quarter of 1998. Approximately $34 million of the charge
related to employee severance resulting from the elimination of approximately
375 positions worldwide. Approximately $74 million of the charge related to
asset writedowns, and approximately $14 million related principally to
contractual obligations that existed prior to the date of the charge that either
continued with no economic benefit or required payment of a cancellation
penalty. As of September 30, 1999, approximately 270 positions have been
eliminated. Approximately $5 million of reserves are remaining at September 30,
1999, the majority of which pertain to employee-related costs. The majority of
the asset writedowns (which were recorded in contra-asset accounts) related to
assets located in a manufacturing facility in Neuchatel, Switzerland, that were
used solely in the development and manufacture of HemAssist(R)(DCLHb), and had
no alternative future use. Activities ceased upon the decision to end the
clinical
10
development of HemAssist. In 1999, the company has begun modifications to this
manufacturing facility, which was designed to manufacture a human hemoglobin
product, to produce another biopharmaceutical product. Such alternate
production is expected to commence at the Neuchatel facility in the next two to
four years.
In September 1995, the company recorded a restructuring charge of $103 million
primarily to eliminate excess plant capacity and reduce manufacturing costs.
The charge predominantly related to the closure of the intravenous-solutions
plant and warehouse in Carolina, Puerto Rico. As of year-end 1998, production
and warehousing had been consolidated into other facilities. The remaining
reserves were utilized during the first quarter of 1999 as employee severance
was paid and other wind-down activities were completed. Approximately 1,200
positions were eliminated in Puerto Rico. Certain positions, primarily direct
labor, were added to other facilities to support the increased production levels
at those sites. Management's objectives for the plan were met for the
originally estimated cost.
8. LEGAL PROCEEDINGS
- ---------------------
Refer to "Part II - Item 1. Legal Proceedings" below for the status of lawsuits
and claims involving the company.
9. INTEREST, NET
- -----------------
Net interest expense consisted of the following (unaudited):
- ---------------------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, September 30,
(in millions) 1999 1998 1999 1998
- ---------------------------------------------------------------------------------------------------------------------------
Interest expense $ 36 $ 47 $ 116 $ 149
Interest income (9) (10) (23) (27)
- ---------------------------------------------------------------------------------------------------------------------------
Interest expense, net $ 27 $ 37 $ 93 $ 122
===========================================================================================================================
Allocated to discontinued operation $ 5 $ 7 $ 25 $ 28
===========================================================================================================================
Allocated to continuing operations $ 22 $ 30 $ 68 $ 94
===========================================================================================================================
The allocation of interest to continuing operations and the discontinued
operation was based on estimated relative net assets of these operations.
10. SEGMENT INFORMATION
- -----------------------
The company operates in three segments, each of which are strategic businesses
that are managed separately because each business develops, manufactures and
sells distinct products and services. The segments and a description of their
businesses are as follows: I.V. Systems/Medical Products: technologies and
systems to provide intravenous fluid and drug delivery; Blood Therapies:
biopharmaceutical and blood-collection and separation products and technologies;
and Renal: products and services to treat end-stage kidney disease. As
discussed in Note 2 above, the company plans to spin off its cardiovascular
business to Baxter stockholders. Financial information for the cardiovascular
business, which is substantially the same as the former CardioVascular segment,
is now being reflected in the condensed consolidated financial statements as a
discontinued operation.
11
Certain items are maintained at corporate headquarters (Corporate) and are not
allocated to the segments. They primarily include most of the company's debt
and cash and equivalents and related net interest expense, corporate
headquarters costs, certain non-strategic investments and nonrecurring gains and
losses, deferred income taxes, hedging activities, and certain litigation
liabilities and related insurance receivables.
Financial information for the company's segments for the three and nine months
ended September 30 is as follows:
I.V. Systems/
Medical Blood
Products Therapies Renal Other Total
------------- --------- ------ ------ -------
For the three months ended
- --------------------------
September 30,
- -------------
1999
- ----
Net sales $ 651 $ 523 $ 415 -- $1,589
Pretax income 107 108 76 ($24) 267
1998
- ----
Net sales $ 575 $ 457 $ 395 -- $1,427
Pretax income 79 76 60 (298) (83)
For the nine months ended
- -------------------------
September 30,
- -------------
1999
- ----
Net sales $1,805 $1,578 $1,228 -- $4,611
Pretax income 276 325 225 ($87) 739
1998
- ----
Net sales $1,648 $1,344 $1,110 -- $4,102
Pretax income 247 273 183 (483) 220
12
The following are reconciliations of total segment amounts to amounts per the
condensed consolidated financial statements:
Three Months
Ended September 30,
--------------------
1999 1998
- -------------------------------------------------------------------------------------
Pretax income
- -------------
Total pretax income from segments $ 291 $ 215
Unallocated amounts
Interest expense, net (22) (30)
Net litigation charge -- (178)
Exit and other reorganization costs -- (122)
Gain on disposal of investment -- 20
Other Corporate items (2) 12
--------------------
Income (loss) from continuing operations before income
taxes and cumulative effect of accounting change $ 267 ($83)
- -------------------------------------------------------------------------------------
Nine Months
Ended September 30,
-------------------
1999 1998
- -------------------------------------------------------------------------------------
Pretax income
- -------------
Total pretax income from segments $ 826 $ 703
Unallocated amounts
Interest expense, net (68) (94)
In-process research and development -- (116)
Net litigation charge -- (178)
Exit and other reorganization costs -- (122)
Gain on disposal of investment -- 20
Other Corporate items (19) 7
-------------------
Income from continuing operations before income
taxes and cumulative effect of accounting change $ 739 $ 220
- -------------------------------------------------------------------------------------
13
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Baxter International Inc.'s (the company or Baxter) 1998 Annual Report to
Stockholders ("Annual Report") contains management's discussion and analysis of
financial condition and results of operations for the year ended December 31,
1998. In the Annual Report, management outlined its key financial objectives
for 1999. The objectives, which are summarized below, were established based on
total company results prior to the July 1999 announcement of the plan to spin
off the cardiovascular business as a distribution to stockholders. Refer to
Note 2 to the Condensed Consolidated Financial Statements for further
information regarding the planned spin-off. Accordingly, the results presented
below reflect the combined results of both continuing and discontinued
operations.
- -------------------------------------------------------------------------------------------------------------------
RESULTS THROUGH
FULL YEAR 1999 OBJECTIVES SEPTEMBER 30, 1999
- -------------------------------------------------------------------------------------------------------------------
. Increase net sales approximately . Net sales during the nine months ended
10 percent. September 30, 1999 increased 11 percent.
- -------------------------------------------------------------------------------------------------------------------
. Grow net earnings in the low double . Excluding the cumulative effect of a change in
digits. accounting principle in 1999 and charges for
in-process research and development, litigation and
exit and other reorganization costs in 1998, net
income for the nine months ended September 30, 1999
increased approximately 14 percent.
- -------------------------------------------------------------------------------------------------------------------
. Generate $500 million in operational cash . The company generated operational cash flow of
flow, after investing approximately $265 million during the nine months ended
$1 billion in capital improvements and September 30, 1999. The total of capital expenditures
research and development. and research and development expenses for the nine
months ended September 30, 1999 was $705 million.
- -------------------------------------------------------------------------------------------------------------------
14
RESULTS OF OPERATIONS
- ---------------------
The following management discussion and analysis pertains to continuing
operations, unless otherwise noted.
NET SALES TRENDS
- ------------------------------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, Percent September 30, Percent
(in millions) 1999 1998 Increase 1999 1998 Increase
- ------------------------------------------------------------------------------------------------------------------------------
International $ 846 $ 787 8% $2,509 $2,261 11%
United States 743 640 16% 2,102 1,841 14%
- ------------------------------------------------------------------------------------------------------------------------------
Total net sales $1,589 $1,427 11% $4,611 $4,102 12%
==============================================================================================================================
Refer to Note 10 to the Condensed Consolidated Financial Statements for a
summary of net sales by segment.
Blood Therapies
Sales in the Blood Therapies segment increased 14 percent and 17 percent for the
three- and nine-month periods ended September 30, 1999, respectively. Strong
demand for Recombinate(TM) Antihemophilic Factor (recombinant) generated
significant worldwide growth, contributing almost half of the total Blood
Therapies business sales growth for both the quarter and year-to-date period.
Due to the company's 1998 increase in manufacturing capacity for Recombinate and
the strong demand for this product, sales growth was unusually strong in late
1998 and early 1999. While sales for the fourth quarter of 1999 are expected to
continue to remain strong, management expects that the fourth quarter sales
growth rate will be lower than in the first nine months of the year. Sales of
the segment's plasma-based products also contributed strongly to the sales
growth for both the quarter and year-to-date period, especially in the United
States, as the supply constraints that impacted the entire factor concentrates
industry in 1998 have eased somewhat in 1999. Sales in the automated and manual
blood-collection businesses had a minor impact on overall segment sales growth.
Renal
The Renal segment generated sales growth of 5 percent and 11 percent during the
three and nine months ended September 30, 1999, respectively. International
sales were particularly strong in the year-to-date period, with growth generated
from the segment's Renal Therapy Services (RTS) business, which operates
dialysis clinics in partnership with local physicians and hospitals in
international markets. Sales growth for RTS was lower in the third quarter as
compared to earlier in the year due to a reduction in acquisitions. This trend
is expected to continue for the rest of the year. Domestically, the Renal
Management Services business, which is a renal-disease management organization,
contributed to sales growth for both the three- and nine-month periods ended
September 30, 1999. The base business, which consists of products for
hemodialysis and peritoneal dialysis, generated low-to-mid single digit
percentage sales growth during the first nine months of the year, with sales
growth stronger outside the United States.
I.V. Systems/Medical Products
The I.V. Systems/Medical Products segment generated 14 percent and 10 percent
sales growth during the three and nine months ended September 30, 1999,
respectively, with strong growth
15
in both the domestic and international markets. This growth was driven
principally by increased sales from a multiyear agreement with Premier, Inc., a
major U.S. customer, and strong sales of the Colleague(R) single-channel and
triple-channel volumetric pumps in the United States and certain international
markets. In addition, the anesthesia business generated significant sales growth
for both the quarter and year-to-date period. In April 1998, the company
acquired the Pharmaceutical Products Division of The BOC Group's Ohmeda
health-care business (Ohmeda), a domestic manufacturer of inhalants and drugs
used for general and local anesthesia. In the second quarter of 1999, the
company obtained exclusive rights to market and sell the first generic
formulation for Propofol approved by the United States Food and Drug
Administration. Propofol is an intravenous drug used for the induction or
maintenance of anesthesia in surgery, and as a sedative in monitored anesthesia
care. This new agreement contributed to third quarter 1999 sales growth and is
expected to generate over $50 million in sales in 2000.
The following table shows key ratios of certain income statement items as a
percent of sales:
GROSS MARGIN AND EXPENSE RATIOS
- -----------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, Increase September 30,
1999 1998 (decrease) 1999 1998 Decrease
- -----------------------------------------------------------------------------------------------------
Gross profit margin 44.9% 44.4% 0.5 pts 44.0% 45.1% (1.1 pts)
Marketing and
administrative expenses 20.6% 21.4% (0.8 pts) 20.6% 21.2% (0.6 pts)
- -----------------------------------------------------------------------------------------------------
The gross profit margin increased in the third quarter principally due to the
recognition of favorable manufacturing variations in the Blood Therapies
business and a more favorable products and services mix. The gross profit
margin decreased for the year-to-date period primarily due to a less favorable
products and services mix and currency exchange rate fluctuations. In addition,
the gross profit margin decline in the year-to-date period was affected by the
recognition of unfavorable manufacturing variances in the first quarter of 1999
related to increased investments and reduced production in 1998 in the Blood
Therapies segment in response to heightened FDA regulatory activity with respect
to safety and quality systems.
Marketing and administrative expenses decreased as a percent of sales for both
the three- month and nine-month periods ended September 30, 1999 as the company
effectively leveraged expenses across all segments as a result of strong sales
and a focus on cost control. Management expects to continue to decrease the
expense ratio during the fourth quarter as it focuses on cost control across all
business units, integrates recent acquisitions and implements the reorganization
programs discussed below.
RESEARCH AND DEVELOPMENT
- ------------------------------------------------------------------------------------------------------
Three months ended Nine months ended
September 30, Percent September 30, Percent
(in millions) 1999 1998 Decrease 1999 1998 Decrease
- ------------------------------------------------------------------------------------------------------
Research and
development expenses $ 83 $ 89 (7%) $ 242 $ 247 (2%)
As a percent of sales 5% 6% 5% 6%
- ------------------------------------------------------------------------------------------------------
16
Research and development (R&D) expenses above exclude the in-process R&D charge
recorded in the second quarter of 1998 relating to the acquisition of Somatogen,
Inc. (Somatogen). Refer to Note 5 to the Condensed Consolidated Financial
Statements for further information regarding this charge. R&D expenses decreased
as a percentage of sales in 1999 as compared to 1998, primarily due to the
September 1998 decision to end the clinical development of the company's
first-generation oxygen-carrying therapeutic called HemAssist(R)(DCLHb).
Excluding R&D expenses relating to the terminated HemAssist program and the
Somatogen next-generation program, R&D expenses increased 8 percent and 12
percent in the three and nine months ended September 30, 1999, respectively.
Management expects the growth rate in R&D expenses will increase in the future
as the company focuses on the next-generation oxygen-carrying therapeutics
program within its Blood Therapies segment, as well as on other R&D initiatives
across the three segments.
NET LITIGATION CHARGE
As further discussed in Note 8 to the Condensed Consolidated Financial
Statements, during the third quarter of 1998, the company recorded a $178
million net litigation charge relating to mammary implants, plasma-based
therapies and other litigation.
EXIT AND OTHER REORGANIZATION PROGRAMS
Refer to Note 7 to the Condensed Consolidated Financial Statements for a
discussion of the company's charges, utilization of the reserves and headcount
reductions to date. During the third quarter of 1998, the company recorded a
$122 million charge as a result of the decision to end its first-generation
oxygen-carrying therapeutics program, exit certain non-strategic investments,
primarily in Asia, and reorganize certain other activities.
The 1998 program is substantially complete. Management believes remaining
restructuring reserves are adequate to complete the actions contemplated by the
program. Future cash expenditures will be funded by cash generated from
operations. The 1995 program has been completed and management's objectives
were met for the originally estimated cost. The plant closures and
consolidations in Puerto Rico lower manufacturing costs and help mitigate any
future exposure to gross margin erosion arising from pricing pressures,
primarily in the United States.
OTHER INCOME AND EXPENSE
Net interest expense decreased for the three- and nine-month periods ended
September 30, 1999 as compared to the prior-year periods due principally to the
impact of a greater mix of foreign currency denominated debt, which bears a
lower average interest rate, and lower average debt levels.
PRETAX INCOME
Refer to Note 10 to the Condensed Consolidated Financial Statements for a
summary of financial results by segment.
Blood Therapies
The pretax income growth of 42 percent and 19 percent for the three and nine
months ended September 30, 1999, respectively, was driven by strong sales, a
reduction in R&D expenses
17
due to the termination of the HemAssist (DCLHb) program, leveraging of marketing
and administrative expenses, and fluctuations in currency exchange rates. As
discussed above, the gross profit margin for the Blood Therapies segment was
impacted in the quarter by the recognition of favorable manufacturing variances
and in the year-to-date period by the recognition of unfavorable manufacturing
variances. Additionally, the blood-collection businesses generated lower profits
in 1999 principally as a result of a less favorable mix of sales, pricing
pressures due to competition and continued regulatory activity in the industry,
which has affected certain of the segment's customers.
Renal
Pretax income increased approximately 27 percent and 23 percent for the quarter
and year-to-date period, respectively. Solid sales growth for both periods and
the favorable effect of currency exchange rate fluctuations were partially
offset by a less favorable product and services mix, particularly in the year-
to-date period, and increased investments in the business.
I.V. Systems/Medical Products
Pretax income increased 35 percent and 12 percent for the three months and nine
months ended September 30, 1999, respectively. This growth in profitability for
both the quarter and year-to-date period was primarily a result of strong sales
and an improved gross profit margin, particularly in the United States, which
was partially due to favorable manufacturing variances.
INCOME TAXES FROM CONTINUING OPERATIONS
The effective income tax rate for continuing operations was 26 percent for both
the three- and nine-month periods ended September 30, 1999. Excluding the
charges for net litigation and exit and other reorganization costs in the third
quarter of 1998 and the in-process research and development charge in the second
quarter of 1998, the effective income tax rate for continuing operations was 22
percent and 24 percent for the three- and nine-month periods ended September 30,
1998, respectively. The increase in the effective income tax rate for both
periods was principally due to a larger portion of the company's earnings being
generated in higher tax jurisdictions.
DISCONTINUED OPERATION
Income from the discontinued operation increased by $10 million and $17 million
for the three months and nine months ended September 30, 1999, respectively.
These results primarily reflect growth in the higher-margin tissue heart valves
and valve-repair product lines and favorable currency exchange rate
fluctuations, partially offset by reduced profits in certain other product and
service lines due to pricing and competitive pressures, loss of a distribution
agreement and a reduction in the number of open-heart surgical procedures.
CHANGE IN ACCOUNTING PRINCIPLE
In the first quarter of 1999, the company recorded a $27 million after-tax
charge for the cumulative effect of a change in accounting principle. The
charge related to the adoption of AICPA Statement of Position (SOP) 98-5,
"Reporting on the Costs of Start-up Activities." Excluding the initial effect
of adopting this standard, management does not anticipate that the new SOP will
have a material impact on future results of operations.
18
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
Management assesses the company's liquidity in terms of its overall ability to
mobilize cash to support ongoing business levels and to fund its growth.
Management uses an internal performance measure called operational cash flow
that evaluates each operating business and geographic region on all aspects of
cash flow under its direct control.
The following table reconciles cash flow provided by continuing operations, as
determined by generally accepted accounting principles, to operational cash
flow:
- ---------------------------------------------------------------------------------------------------------------------
Nine months ended September 30,
(in millions) 1999 1998
- ---------------------------------------------------------------------------------------------------------------------
Cash flows from continuing operations per the company's
Condensed Consolidated Statements of Cash Flows $ 407 $ 345
Capital expenditures (394) (320)
Net interest after tax 38 56
Other, including mammary implant litigation 138 (1)
- ---------------------------------------------------------------------------------------------------------------------
Operational cash flow -- continuing operations 189 80
Operational cash flow -- discontinued operation 76 85
- ---------------------------------------------------------------------------------------------------------------------
Total operational cash flow $ 265 $ 165
=====================================================================================================================
Net cash inflows from continuing operations per the company's Condensed
Consolidated Statements of Cash Flows increased for the nine months ended
September 30, 1999 due principally to higher earnings and a lower increase in
the inventory balance, as the company focuses on growing the business while
effectively managing inventory levels. These increases were partially offset by
higher net cash outflows relating to litigation (litigation payments net of
insurance recoveries), higher prepaid expense and other asset balances, and
lower liability balances.
Net cash outflows relating to investing activities decreased for the nine months
ended September 30, 1999. Capital expenditures were higher for the nine months
ended September 30, 1999 as compared to the prior year period as the company
increased its investments in various capital projects across the three segments,
in particular with respect to the company's Recombinate product in the Blood
Therapies segment. Net cash outflows relating to acquisitions decreased during
the nine-month period ended September 30, 1999. In 1999, net cash outflows
relating to acquisitions included approximately $32 million for a contingent
purchase price payment pertaining to the 1997 acquisition of Immuno
International AG. Refer to "Part II - Item 1. Legal Proceedings" for further
information. Approximately $14 million of the 1999 total related to
acquisitions of dialysis centers in international markets and approximately $12
million related to a minority investment. With respect to net cash outflows
relating to acquisitions in 1998, approximately $134 million pertained to the
acquisition of Bieffe Medital S.p.A., approximately $94 million related to the
acquisition of Ohmeda, and approximately $42 million was used for acquisitions
of dialysis centers in international markets. Refer to Note 5 to the Condensed
Consolidated Financial Statements for further information regarding significant
acquisitions.
Net cash inflows provided from financing activities decreased for the nine
months ended September 30, 1999. Included in the total for the nine months
ended September 30, 1999 was
19
$198 million in cash inflows relating to the Shared Investment Plan, which is
discussed in Note 4 to the Condensed Consolidated Financial Statements. In
addition, cash received for stock issued under employee benefit plans increased
in the first three quarters of 1999 as compared to the corresponding prior year
period. Offsetting these increased inflows was $71 million in cash outflows
related to repurchases of Baxter common stock, as further discussed below,
increased common stock cash dividends due to a higher number of shareholders,
and other factors. The company's net-debt-to-capital ratio was 42.9 percent and
49.8 percent at September 30, 1999 and 1998, respectively.
As authorized by the board of directors, the company repurchases its stock to
optimize its capital structure depending upon its operational cash flows, net
debt level and current market conditions. In November 1995, the board of
directors authorized the repurchase of up to $500 million over a period of
several years, of which $267 million was repurchased as of December 31, 1996.
No shares were repurchased between the end of 1996 and the end of the second
quarter of 1999. As the net-debt-to-capital ratio is now in the low 40 percent
range, the company resumed the share repurchase program in the third quarter of
1999 and repurchased approximately 1.1 million shares of its stock at a net cost
of approximately $71 million. Management expects to continue to repurchase
shares in the fourth quarter of 1999.
The company intends to fund its short-term and long-term obligations as they
mature by issuing additional debt or through cash flow from operations. The
company believes it has lines of credit adequate to support ongoing operational
requirements. Beyond that, the company believes it has sufficient financial
flexibility to attract long-term capital on acceptable terms as may be needed to
support its growth objectives.
See "Part II - Item 1. Legal Proceedings" for a discussion of the company's
legal contingencies and related insurance coverage with respect to cases and
claims relating to the company's plasma-based therapies and mammary implants
manufactured by the Heyer-Schulte division of American Hospital Supply
Corporation, as well as other matters. Upon resolution of any of these matters,
the company may incur charges in excess of presently established reserves.
While such future charges could have a material adverse impact on the company's
net income or cash flows in the period in which they are recorded or paid,
management believes that the outcomes of these actions, individually or in the
aggregate, will not have a material adverse effect on the company's consolidated
financial position.
YEAR 2000
- ---------
The company is implementing, a comprehensive program to address Year 2000 issues
pertaining to both information technology (IT) and non-IT systems. The program
is monitored by a steering committee comprised of senior management in key
functional areas, which periodically reports to the audit committee of the board
of directors as to the program's status. The program consists of
identification, compliance and post-implementation phases and considers the
effect of the Year 2000 on the company's internal systems, customers, products
and services, and manufacturing systems, as well as on its suppliers and other
critical business partners. The current status of these areas of scope vary
within the post-implementation phase, with substantially all implementation
efforts complete. The entire program is expected to be fully implemented by the
end of 1999.
The company has been upgrading, replacing or modifying non-compliant internal
systems. As of September 30, 1999, substantially all major system upgrades,
replacements and
20
modifications are complete. All necessary remaining upgrades, replacements and
modifications to non-compliant internal systems are expected to be complete by
the end of 1999.
The total cost to upgrade or replace IT systems that would not have been Year
2000 ready is estimated to be approximately $145 million. Substantially all of
the total expenditures required to address Y2K issues has been expended as of
September 30, 1999, with the remainder to be expended by the end of 1999. None
of the company's systems are being upgraded or replaced solely to address Year
2000 issues, although in some cases the timing of the system upgrades and
replacements was accelerated.
Compliance checking of products has been completed and fewer than 20 products
were identified to have Year 2000 issues. Substantially all product
modifications and replacements have been completed as of September 30, 1999.
The remaining modifications and replacements are expected to be completed in
accordance with timetables requested by the impacted customers. The company's
Year 2000 customer website includes a complete list of the company's electronic
medical products, frequent and detailed updates regarding the status of Year
2000 affected products, a product supply requirements policy addressing Year
2000 supply chain issues, Year 2000 transition information and other information
regarding the company's Year 2000 program.
The company is actively addressing systems in its manufacturing plants and other
facilities. Substantially all of the required changes for date-dependent
manufacturing items have been implemented as of the end of the third quarter of
1999, consistent with management's expectations. All necessary changes are
expected to be completed by the end of 1999. In addition, the company has been
communicating with critical suppliers and other business partners to determine
the extent to which any Year 2000 issues affecting such third parties will
affect the company. Such communications have included solicitation of written
responses to questionnaires and follow-up meetings as needed. To date, the
company has achieved responses from substantially all of the critical supplier
questionnaires. Such communications are ongoing and are expected to continue
through the end of 1999, with action plans developed and implemented as
necessary.
Based upon the company's current estimates, and information available at this
time, incremental out-of-pocket costs of the Year 2000 program, which are
required to be expensed as incurred, have been and are expected to be immaterial
to the company's financial results. A large part of the Year 2000 effort has
been accomplished through the redeployment of existing resources. The cost of
such redeployment or of internal management time has not been specifically
quantified. However, no critical projects of the company have been deferred due
to the Year 2000 program.
Management of the company believes that its program will be effective to resolve
the Year 2000 issue in a timely manner. The company has, however, been
formulating contingency plans to address any situations that may arise in which
the readiness of the company's internal technology or that of third parties is
not reasonably expected to be adequate, and where practical alternatives are
available. The company has been assessing the viability of the entire supply
chain and is in the process of finalizing any necessary and feasible contingency
plans accordingly. Current contingency planning centers on human resource
issues, inventory management, and the development of a rapid response capability
and monitoring process for critical communications during the transition into
the Year 2000. To accumulate ongoing input
21
into the contingency planning process, the company has been meeting regularly
with key health-care industry leaders, contacting customs officials and
monitoring the Year 2000 status of key customers, distributors and suppliers.
Key company management and other critical resources have been identified to be
available during the transition into the Year 2000 to address any business needs
and communicate as needed with employees, customers, suppliers and other
business partners,
Management does not believe there has been or will be a significant disruption
to the company's business due to the Year 2000 remediation effort. However,
there can be no assurance that the company's Year 2000 program or the programs
of critical business partners will be successful. Any failure to adequately
address the Year 2000 issue could significantly disrupt the company's operations
and possibly lead to litigation against the company. The costs and expenses
associated with any such failure or litigation, or with any disruptions in the
economy in general as a result of the Year 2000, are not presently estimable,
but could have a material adverse effect on the company's business and results
of operations.
FORWARD-LOOKING INFORMATION
- ---------------------------
The matters discussed in this section that are not historical facts include
forward-looking statements. These statements are based on the company's current
expectations and involve numerous risks and uncertainties. Some of these risks
and uncertainties are factors that affect all international businesses, while
some are specific to the company and the health-care arenas in which it
operates. The factors below in some cases have affected and could affect the
company's actual results, causing results to differ, and possibly differ
materially, from those expressed in any such forward-looking statements. These
factors include technological advances in the medical field, unforeseen
information technology issues related to the company or third parties, economic
conditions, demand and market acceptance risks for new and existing products,
technologies and health-care services, the impact of competitive products and
pricing, manufacturing capacity, new plant start-ups, global regulatory, trade
and tax policies, continued price competition, product development risks,
including technological difficulties, ability to enforce patents and unforeseen
commercialization and regulatory factors. In particular, the company, as well
as other companies in its industry, is experiencing increased regulatory
activity by the U.S. Food and Drug Administration with respect to its plasma-
based biologicals and its complaint-handling systems.
Currency fluctuations are also a significant variable for global companies,
especially fluctuations in local currencies where hedging opportunities are
unreasonably expensive, or altogether unavailable. If the United States dollar
strengthens against most foreign currencies, the company's growth rates in its
sales and net earnings will be negatively impacted.
Management believes that its expectations with respect to forward-looking
statements are based upon reasonable assumptions within the bounds of its
knowledge of the company's business and operations, but there can be no
assurance that the actual results or performance of the company will conform to
any future results or performance expressed or implied by such forward-looking
statements.
NEW ACCOUNTING STANDARD
- -----------------------
In June 1998, the FASB issued Statement No. 133, "Accounting for Derivative
Instruments and Hedging Activities" (Statement No. 133) which was to be
effective for all fiscal quarters of fiscal
22
years beginning after June 15, 1999. In June 1999, the FASB issued Statement No.
137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of
the Effective Date of FASB Statement No. 133" (Statement No. 137). Statement No.
137 deferred the effective date of Statement No. 133 to all fiscal quarters of
fiscal years beginning after June 15, 2000. Statement No. 133 requires that all
derivatives be recorded in the balance sheet as either assets or liabilities and
be measured at fair value. If certain conditions are met, a derivative may be
specifically designated as (i) a hedge of a recognized asset or liability or an
unrecognized firm commitment, (ii) a hedge of the exposure to variable cash
flows of a forecasted transaction, or (iii) a hedge of the foreign currency
exposure of a net investment in a foreign operation, an unrecognized firm
commitment, an available-for-sale security, or a foreign-currency-denominated
forecasted transaction. The accounting for changes in the fair value of a
derivative depends on the intended use of the derivative and the resulting
designation. Management is in the process of evaluating this standard and has
not yet determined the future impact on the company's consolidated financial
statements.
23
Review by Independent Public Accountants
- ----------------------------------------
Reviews of the interim condensed consolidated financial information included in
this Quarterly Report on Form 10-Q for the three months and nine months ended
September 30, 1999 and 1998 have been performed by PricewaterhouseCoopers LLP,
the company's independent public accountants. Their report on the interim
condensed consolidated financial information follows. There have been no
material adjustments or disclosures proposed by PricewaterhouseCoopers LLP,
which have not been reflected in the interim condensed consolidated financial
information. This report is not considered a report within the meaning of
Sections 7 and 11 of the Securities Act of 1933 and therefore, the independent
accountants' liability under Section 11 does not extend to it.
24
Report of Independent Accountants
---------------------------------
To the Board of Directors and Stockholders of
Baxter International Inc.
We have reviewed the accompanying condensed consolidated balance sheet as of
September 30, 1999 and the related condensed consolidated statements of income
for the three-month and nine-month periods ended September 30, 1999 and 1998,
and condensed consolidated statements of cash flows for the nine-month periods
ended September 30, 1999 and 1998 of Baxter International Inc. and its
subsidiaries. This interim financial information is the responsibility of the
company's management.
We conducted our review in accordance with standards established by the American
Institute of Certified Public Accountants. A review of interim financial
information consists principally of applying analytical procedures to financial
data and making inquiries of persons responsible for financial and accounting
matters. It is substantially less in scope than an audit conducted in
accordance with generally accepted auditing standards, the objective of which is
the expression of an opinion regarding the financial statements taken as a
whole. Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the accompanying interim financial information for it to be in
conformity with generally accepted accounting principles.
We previously audited, in accordance with generally accepted auditing standards,
the consolidated balance sheet as of December 31, 1998, and the related
consolidated statements of income, cash flows and stockholders' equity for the
year then ended (not presented herein), and in our report dated February 5, 1999
we expressed an unqualified opinion on those consolidated financial statements.
In our opinion, the information set forth in the accompanying condensed
consolidated balance sheet information as of December 31, 1998, is fairly stated
in all material respects in relation to the consolidated balance sheet from
which it has been derived.
PricewaterhouseCoopers LLP
Chicago, Illinois
November 12, 1999
25
PART II. OTHER INFORMATION
Baxter International Inc. and Subsidiaries
Item 1. Legal Proceedings
Baxter International Inc. (Baxter or the company) and certain of its
subsidiaries are named as defendants in a number of lawsuits, claims and
proceedings, including product liability claims involving products now or
formerly manufactured or sold by the company or by companies that were acquired
by the company. The most significant of these are reported in the company's
Annual Report on Form 10-K for the year ended December 31, 1998, and material
developments in such matters for the quarter ended September 30, 1999 are
described below. Upon resolution of any such matters, Baxter may incur charges
in excess of presently established reserves. While such a future charge could
have a material adverse impact on the company's net income and net cash flows in
the period in which it is recorded or paid, management believes that no such
charge would have a material adverse effect on Baxter's consolidated financial
position.
Mammary Implant Litigation
- --------------------------
As previously reported in the company's Annual Report on Form 10-K, the company,
together with certain of its subsidiaries, is currently a defendant in various
courts in a number of lawsuits brought by individuals, all seeking damages for
injuries of various types allegedly caused by silicone mammary implants formerly
manufactured by the Heyer-Schulte division of American Hospital Supply
Corporation (AHSC). AHSC, which was acquired by the company in 1985, divested
its Heyer-Schulte division in 1984. It is not known how many of these claims
and lawsuits involve products manufactured and sold by Heyer-Schulte, as opposed
to other manufacturers. On December 1, 1998, a panel of independent medical
experts appointed by a federal judge announced their findings that reported
medical studies contained no clear evidence of a connection between silicone
mammary implants and traditional or atypical systemic diseases. In June 1999 a
similar conclusion was announced by a committee of independent medical experts
from the Institute of Medicine, an arm of the National Academy of Sciences.
As of September 30 1999, Baxter, together with certain of its subsidiaries, had
been named as a defendant or co-defendant in 3,205 lawsuits and 130 claims
relating to mammary implants, brought by approximately 8,143 plaintiffs, of
which 6,613 are implant plaintiffs and the remainder are consortium or second-
generation plaintiffs. Of those plaintiffs, 2,760 currently are included in the
Lindsey class action revised settlement described below, which accounts for
1,210 of the pending lawsuits against the company. Additionally, 3,701
plaintiffs have opted out of the revised settlement (representing 1,917 pending
lawsuits), and the status of the remaining plaintiffs with pending lawsuits is
unknown. Some of the opt-out plaintiffs filed their cases naming multiple
defendants and without product identification; thus, not all of the opt-out
plaintiffs will have viable claims against the company. As of September 30,
1999, 1,326 of the opt-out plaintiffs had confirmed Heyer-Schulte mammary
implant product identification. Furthermore, during the first three quarters of
1999, Baxter obtained dismissals, or agreements for dismissals, with respect to
2,905 plaintiffs.
In addition to the individual suits against the company, a class action on
behalf of all women with silicone mammary implants is pending in the United
States District Court (U.S.D.C.) for the Northern District of Alabama involving
most manufacturers of such implants, including Baxter,
26
as successor to AHSC (Lindsey, et al., v. Dow Corning, et al., U.S.D.C., N.
Dist. Ala., CV 94-P-11558-S). The class action was certified for settlement
purposes only by the court on September 1, 1994, and the settlement terms were
subsequently revised and approved on December 22, 1995 (the revised settlement).
All appeals directly challenging the revised settlement have been dismissed.
In addition to the Lindsey class action, the company also has been named in 12
other purported class actions in various state and provincial courts, only one
of which is certified.
In the third quarter of 1998, Baxter accrued an additional $250 million for its
estimated liability resulting from the class action settlement and remaining
opt-out cases and claims. Substantially more women have both participated in,
and opted out of, the global class action than originally anticipated, thereby
increasing the total estimated costs of this litigation and necessitating an
increase in litigation reserves. Baxter recorded a receivable for related
estimated insurance recoveries of $121 million, resulting in an additional net
charge of $129 million.
Plasma-Based Therapies Litigation
- ---------------------------------
As previously reported in the company's Annual Report on Form 10-K, Baxter
currently is a defendant in a number of claims and lawsuits brought by
individuals who have hemophilia, all seeking damages for injuries allegedly
caused by anti-hemophilic factor concentrates VIII or IX derived from human
blood plasma (factor concentrates) processed by the company from the late 1970s
to the mid-1980s. The typical case or claim alleges that the individual was
infected with the HIV virus by factor concentrates, which contained the HIV
virus. None of these cases involves factor concentrates currently processed by
the company.
As of September 30, 1999, Baxter had been named in 266 lawsuits and 108 claims
in the United States, Canada, Ireland, Italy, Japan, Germany and the
Netherlands. The U.S.D.C. for the Northern District of Illinois has approved a
settlement of all U.S. federal court factor concentrates cases. As of September
30, 1999, approximately 6,500 claimant groups had been found eligible to
participate in the settlement, and approximately 350 claimants had opted out of
the settlement. Approximately 6,116 of the claimant groups had received
payments as of September 30, 1999, and payments are expected to continue through
the fourth quarter of 1999 as releases are received from the remaining claimant
groups. The company also has been named in four purported class actions. None
of these class actions has been certified.
In Japan, Baxter is a defendant, along with the Japanese government and four
other co-defendants, in factor concentrates cases in Osaka, Tokyo, Nagoya,
Tohoku, Fukuoka, Sapporo and Kumamoto. As of September 30, 1999, the cases
involved 1,308 plaintiffs, of whom 1,296 have settled their claims.
In addition, Immuno International AG (Immuno), a company Baxter acquired in
1997, has unsettled claims for damages for injuries allegedly caused by its
plasma-based therapies. The typical claim alleges that the individual with
hemophilia was infected with HIV by factor concentrates containing the HIV
virus. Additionally, Immuno faces multiple claims stemming from its vaccines
and other biologically derived therapies. A portion of the liability and
defense costs related to these claims will be covered by insurance, subject to
exclusions, conditions, policy limits and other factors. In addition, pursuant
to the original stock purchase agreement between the company and Immuno,
approximately 84 million Swiss francs of the purchase
27
price was withheld to cover these contingent liabilities. In April 1999, the
stock purchase agreement between the company and Immuno was amended to revise
the holdback amount from 84 million Swiss francs to 26 million Swiss francs (or
approximately $17 million at September 30, 1999) in consideration for an April
1999 payment by the company of 29 million Swiss francs to Immuno as additional
purchase price.
As previously reported in the company's Annual Report on Form 10-K, Baxter is
currently a defendant in a number of claims and lawsuits brought by individuals
who infused the company's Gammagard(R) IVIG (intravenous immunoglobulin), all of
whom are seeking damages for hepatitis C infections allegedly caused by infusing
Gammagard(R) IVIG. As of September 30, 1999, Baxter was a defendant in 42
lawsuits and 52 claims in the United States, Denmark, France, Germany, Italy,
Spain and the United Kingdom. Three suits currently pending in the United
States have been filed as purported class actions but only one has been
certified.
The Company has settled and continues to settle claims and lawsuits relating to
its plasma-based therapies through court-ordered mediation and other mechanisms.
Based on this and other currently available information, the Company has revised
its estimate of liabilities and insurance recoveries and, in the third quarter
of 1998, accrued an additional $180 million for its estimated liability for
plasma-based therapies litigation and other litigation and recorded a receivable
for related estimated insurance recoveries of $131 million, for a net charge of
$49 million.
Other Litigation
- ----------------
As of September 30, 1996, the date of the spin-off of Allegiance Corporation
(Allegiance) from Baxter, Allegiance assumed the defense of litigation involving
claims related to Allegiance's businesses, including certain claims of alleged
personal injuries as a result of exposure to natural rubber latex gloves.
Allegiance has not been named in most of this litigation but will be defending
and indemnifying Baxter pursuant to certain contractual obligations for all
expenses and potential liabilities associated with claims pertaining to latex
gloves. As of September 30, 1999, the company had been named as a defendant in
465 lawsuits, including the following purported class action: Swartz v. Baxter
----------------
Healthcare Corporation, et al. Court of Common Pleas, Jefferson County, PA, 656-
- ------------------------------
1997 C.D.
28
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibits required by Item 601 of Regulation S-K are listed in the Exhibit
Index hereto.
(b) Reports on Form 8-K
A report on Form 8-K was filed on July 12, 1999, which reported under "Item
5- Other Events" a press release which announced a planned spin-off by
Baxter International Inc. of its cardiovascular business to Baxter
shareholders. In addition, the report noted that, during a conference call
with analysts on the topic, Harry M. Jansen Kraemer, Jr., President and
Chief Executive Officer of Baxter International Inc., reaffirmed that the
company expects to meet its previously announced financial commitments for
the second quarter of 1999.
29
Signature
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.
BAXTER INTERNATIONAL INC.
-------------------------
(Registrant)
Date: November 12, 1999 By: /s/ Brian P. Anderson
-----------------------------
Brian P. Anderson
Senior Vice President and Chief
Financial Officer
(Chief Accounting Officer)
30
EXHIBITS FILED WITH SECURITIES AND EXCHANGE COMMISSION
_______________________________________________________________________________
Number Description of Exhibit
- ------ ----------------------
10 Baxter International Inc. Employee Stock Purchase
Plan for United States Employees (as amended and
Restated effective October 1, 1999)..............................
12 Computation of Ratio of Earnings to Fixed Charges................
15 Letter Re Unaudited Interim Financial Information................
27 Financial Data Schedule..........................................
27.1 Restated Financial Data Schedule - June 30, 1999.................
27.2 Restated Financial Data Schedule - March 31, 1999................
27.3 Restated Financial Data Schedule - December 31, 1998.............
27.4 Restated Financial Data Schedule - September 30, 1998............
27.5 Restated Financial Data Schedule - June 30, 1998.................
(All other exhibits have been omitted because they are not applicable
or not required.)