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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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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 June 30, 2003
[_] 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
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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)
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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 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[_]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [X] No[_]
The number of shares of the registrant's Common Stock, par value $1.00 per
share, outstanding as of July 31, 2003 was 586,898,883 shares.
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BAXTER INTERNATIONAL INC.
FORM 10-Q
For the quarterly period ended June 30, 2003
TABLE OF CONTENTS
Part I. FINANCIAL INFORMATION Page Number
- ------------------------------ -----------
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.................................16
Item 3. Quantitative and Qualitative Disclosures About Market Risk...........27
Item 4. Controls and Procedures..............................................28
Review by Independent Auditors................................................29
Report of Independent Auditors................................................30
Part II. OTHER INFORMATION
- --------------------------
Item 1. Legal Proceedings....................................................31
Item 4. Submission of Matters to a Vote of Security Holders..................36
Item 6. Exhibits and Reports on Form 8-K.....................................37
Signature ....................................................................38
Exhibits .....................................................................39
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 Six months ended
June 30, June 30,
2003 2002 2003 2002
----------------------- -------------------------
Net sales $2,163 $1,945 $4,160 $3,820
Costs and expenses
Cost of goods sold 1,190 1,031 2,307 2,026
Marketing and administrative expenses 464 380 877 773
Research and development expenses 139 123 275 238
In-process research and development expense -- 51 -- 51
Restructuring charge 337 -- 337 --
Interest, net 27 14 46 30
Other expense 14 64 40 76
- ------------------------------------------------------------------------------------------------------------
Total costs and expenses 2,171 1,663 3,882 3,194
- ------------------------------------------------------------------------------------------------------------
Income (loss) from continuing operations before income
taxes (8) 282 278 626
Income tax expense (benefit) (57) 78 12 169
- ------------------------------------------------------------------------------------------------------------
Income from continuing operations 49 204 266 457
Discontinued operations (11) (4) (12) (4)
- ------------------------------------------------------------------------------------------------------------
Net income $ 38 $ 200 $ 254 $ 453
============================================================================================================
Earnings per basic common share
Continuing operations $ .08 $ .34 $ .45 $ .76
Discontinued operations (.02) (.01) (.02) (.01)
- ------------------------------------------------------------------------------------------------------------
Net income $ .06 $ .33 $ .43 $ .75
============================================================================================================
Earnings per diluted common share
Continuing operations $ .08 $ .33 $ .44 $ .73
Discontinued operations (.02) (.01) (.02) --
- ------------------------------------------------------------------------------------------------------------
Net income $ .06 $ .32 $ .42 $ .73
============================================================================================================
Weighted average number of common shares outstanding
Basic 598 602 598 601
============================================================================================================
Diluted 613 622 611 622
============================================================================================================
The accompanying notes are an integral part of these condensed consolidated
financial statements.
2
Baxter International Inc. and Subsidiaries
Condensed Consolidated Balance Sheets (unaudited)
(in millions, except shares)
- --------------------------------------------------------------------------------
June 30, December 31,
2003 2002
--------------------------
Current assets Cash and equivalents $ 608 $ 1,169
Accounts and other current
receivables 1,955 1,838
Inventories 2,076 1,745
Short-term deferred income taxes 229 125
Prepaid expenses and other 403 283
----------------------------------------------------------------
Total current assets 5,271 5,160
- --------------------------------------------------------------------------------
Property, At cost 7,282 6,679
plant and Accumulated depreciation and
equipment amortization (3,125) (2,772)
----------------------------------------------------------------
Net property, plant and equipment 4,157 3,907
- --------------------------------------------------------------------------------
Other assets Goodwill 1,584 1,494
Other intangible assets 545 526
Other 1,658 1,391
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Total other assets 3,787 3,411
- --------------------------------------------------------------------------------
Total assets $13,215 $12,478
================================================================================
Current Short-term debts $ 148 $ 112
liabilities Current maturities of long-term
debt and lease obligations 3 108
Accounts payable and accrued
liabilities 2,391 3,043
Income taxes payable 700 588
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Total current liabilities 3,242 3,851
- --------------------------------------------------------------------------------
Long-term debt and lease obligations 4,806 4,398
- --------------------------------------------------------------------------------
Long-term deferred income taxes 77 29
- --------------------------------------------------------------------------------
Other long-term liabilities 1,999 1,261
- --------------------------------------------------------------------------------
Commitments and contingencies
- --------------------------------------------------------------------------------
Stockholders' Common stock, $1 par value,
equity authorized 2,000,000,000 shares,
issued 626,574,109 shares 627 627
Common stock in treasury, at cost,
28,386,927 shares in 2003 and
27,069,808 shares in 2002 (1,416) (1,326)
Additional contributed capital 3,191 3,223
Retained earnings 1,930 1,689
Accumulated other comprehensive loss (1,241) (1,274)
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Total stockholders' equity 3,091 2,939
- --------------------------------------------------------------------------------
Total liabilities and stockholders' equity $13,215 $12,478
================================================================================
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)
Six months ended June 30,
(brackets denote cash outflows) 2003 2002
---------------------------
Cash flows Income from continuing operations $ 266 $ 457
from Adjustments
operations Depreciation and amortization 258 208
Deferred income taxes (161) 65
Restructuring charge 337 --
In-process research and
development -- 51
Other 6 93
Changes in balance sheet items
Accounts receivable (32) (233)
Inventories (203) (257)
Accounts payable and accrued
liabilities (202) (269)
Net litigation payable and other (64) (126)
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Cash flows from continuing
operations 205 (11)
Cash flows from discontinued
operations (10) (31)
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Cash flows from operations 195 (42)
- --------------------------------------------------------------------------------
Cash flows Capital expenditures (357) (328)
from investing Acquisitions (net of cash received)
activities and investments in affiliates (84) (65)
Divestitures and other asset
dispositions -- 5
----------------------------------------------------------------
Cash flows from investing
activities (441) (388)
- --------------------------------------------------------------------------------
Cash flows Issuances of debt and lease
from financing obligations 649 687
activities Redemptions of debt and lease
obligations (988) (367)
Increase in debt with maturities
of three months or less, net 524 348
Common stock cash dividends (346) (348)
Proceeds from stock issued under
employee benefit plans 32 131
Purchases of treasury stock (153) (141)
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Cash flows from financing
activities (282) 310
- --------------------------------------------------------------------------------
Effect of currency exchange rate changes on cash
and equivalents (33) 10
- --------------------------------------------------------------------------------
Decrease in cash and equivalents (561) (110)
Cash and equivalents at beginning of period 1,169 582
- --------------------------------------------------------------------------------
Cash and equivalents at end of period $ 608 $ 472
================================================================================
Supplemental schedule of noncash investing
activities
Fair value of assets acquired, net of liabilities
assumed $ 84 $ 225
Common stock issued at fair value -- 160
- --------------------------------------------------------------------------------
Net cash paid $ 84 $ 65
================================================================================
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. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- ----------------------------------------------
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 2002
Annual Report to Stockholders (2002 Annual Report).
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, unless otherwise noted herein, 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 2002 financial
statements and notes to the 2003 presentation.
Stock compensation plans
The company has a number of stock-based employee compensation plans, including
stock option, stock purchase and restricted stock plans. The company applies the
recognition and measurement principles of Accounting Principles Board Opinion
No. 25, "Accounting for Stock Issued to Employees," and related interpretations
in accounting for these plans. In accordance with this intrinsic value method,
no compensation expense is recognized for the company's fixed stock option plans
and employee stock purchase plans. The following table illustrates the effect on
net income and earnings per share (EPS) if the company had applied the fair
value recognition provisions of Statement of Financial Accounting Standards
(SFAS) No. 123, "Accounting for Stock-Based Compensation," to all stock-based
employee compensation.
- ------------------------------------------------------------------------------------------------------------
Three months ended Six months ended
June 30, June 30,
(in millions, except per share data) 2003 2002 2003 2002
- ------------------------------------------------------------------------------------------------------------
Net income, as reported $ 38 $200 $254 $453
Add: Stock-based employee compensation expense
included in reported net income, net of tax -- 1 -- 2
Deduct: Total stock-based employee
compensation expense determined under the fair
value method, net of tax (48) (37) (85) (80)
- ------------------------------------------------------------------------------------------------------------
Pro forma net income (loss) $ (10) $164 $169 $375
============================================================================================================
Earnings (loss) per basic share
As reported $ .06 $.33 $.43 $.75
Pro forma $(.02) $.27 $.28 $.62
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Earnings (loss) per diluted share
As reported $ .06 $.32 $.42 $.73
Pro forma $(.02) $.27 $.28 $.61
- ------------------------------------------------------------------------------------------------------------
5
New accounting and disclosure standards
SFAS No. 150, "Accounting for Certain Financial Instruments with Characteristics
of both Liabilities and Equity" (SFAS No. 150), was issued in May 2003. SFAS No.
150 requires that certain financial instruments, which previously had been
classified as equity, be classified as liabilities in the company's consolidated
balance sheet. Under the new rules, the balance sheet classification of the
company's equity forward agreements, which are discussed further in Note 6, will
change from equity to liabilities. Effective July 1, 2003, all of the company's
outstanding equity forward agreements require that the company repurchase its
shares by physical settlement. As such, on the July 1, 2003 adoption date,
Baxter will recognize a liability relating to these agreements of $571 million
(representing the net present value of the redemption amounts as of July 1,
2003), reduce stockholders' equity by $561 million (representing the value of
the underlying shares at the contract inception dates), and record the
difference of $10 million in the consolidated income statement as the cumulative
effect of a change in accounting principle. Subsequent to July 1, 2003, the
interest on the established liability will be accreted to the redemption amounts
through the contractual maturity dates of the equity forward agreements, or
through any earlier termination dates. In calculating EPS, the shares underlying
any remaining equity forward agreements will be treated as repurchased on July
1, 2003 for both the basic and diluted per share calculations. As previously
disclosed, the company is in the process of exiting these agreements and expects
to complete the exit strategy during 2003. Other than the initial impact of
adoption, management does not expect that the new accounting rules will have a
material impact on the company's consolidated financial statements, including
its earnings per diluted share calculations.
Financial Accounting Standards Board Interpretation No. 46, "Consolidation of
Variable Interest Entities" (Interpretation No. 46) was issued in January 2003.
Interpretation No. 46 defines variable interest entities (VIE) and requires that
a VIE be consolidated if certain conditions are met. As a result of these new
rules, Baxter will consolidate three VIEs effective July 1, 2003. The VIEs to be
consolidated pertain to certain of Baxter's lease arrangements, which were
described in Note 5 in Baxter's 2002 Annual Report, in which the company is the
primary beneficiary. The leases principally relate to an office building in
California, plasma collection centers in various locations throughout the United
States, and certain other assets. Adoption of Interpretation No. 46 will result
in a cumulative after-tax reduction in net income as of July 1, 2003 of less
than $10 million and will increase total assets and liabilities by approximately
$160 to $170 million. The ongoing impact of Interpretation No. 46 is not
expected to be material.
SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure" (SFAS No. 148) was issued in December 2002. The new standard
provides alternative methods for transitioning, if a company elects to do so,
from the intrinsic method to the fair value-based method of accounting for
stock-based employee compensation. SFAS No. 148 also requires additional
quarterly and annual disclosures about stock-based compensation. The annual
disclosure requirements were effective for 2002, and the new interim disclosure
requirements were effective beginning in the first quarter of 2003. The company
has implemented the required disclosure provisions. Management does not have
immediate plans for the company to voluntarily adopt the fair value-based method
of accounting for stock-based employee compensation.
6
2. SUPPLEMENTAL FINANCIAL INFORMATION
- --------------------------------------
Net interest expense
Net interest expense consisted of the following.
- --------------------------------------------------------------------------------
Three months ended Six months ended
June 30, June 30,
(in millions) 2003 2002 2003 2002
- --------------------------------------------------------------------------------
Interest expense $31 $22 $ 61 $ 40
Interest income (4) (8) (14) (10)
- --------------------------------------------------------------------------------
Interest expense, net $27 $14 $ 47 $ 30
================================================================================
Continuing operations $27 $14 $ 46 $ 30
Discontinued operations -- -- $ 1 --
================================================================================
Comprehensive income
Total comprehensive income was $101 million and $43 million for the three months
ended June 30, 2003 and 2002, respectively, and $286 million and $171 million
for the six months ended June 30 2003 and 2002, respectively. The increase in
comprehensive income during the quarter was principally related to favorable
currency translation adjustments and increases in the value of the company's net
investment hedges, partially offset by lower net income. The increase in
comprehensive income for the year-to-date period was principally related to
favorable currency translation adjustments, partially offset by lower net
income.
Earnings per share
The numerator for both basic and diluted EPS is net earnings available to common
shareholders. 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 Six months
ended June 30, ended June 30,
(in millions) 2003 2002 2003 2002
- -------------------------------------------------------------------------
Basic shares 598 602 598 601
- -------------------------------------------------------------------------
Effect of dilutive securities
Employee stock options 1 19 1 20
Equity forward agreements 13 -- 11 --
Employee stock purchase plans 1 1 1 1
- -------------------------------------------------------------------------
Diluted shares 613 622 611 622
=========================================================================
As disclosed in Note 1, effective with the adoption of SFAS No. 150 on July 1,
2003, the shares underlying the equity forward agreements (11.9 million shares
at June 30, 2003) will be treated as repurchased on July 1, 2003 for both the
basic and diluted calculations.
7
Inventories
Inventories consisted of the following.
- -----------------------------------------------------------------------------
June 30, December 31,
(in millions) 2003 2002
- -----------------------------------------------------------------------------
Raw materials $ 529 $ 439
Work in process 740 511
Finished products 807 795
- -----------------------------------------------------------------------------
Total inventories $2,076 $1,745
=============================================================================
Other expense
Other income and expense generally includes the impact of fluctuations in
currency exchange rates, and amounts relating to minority interests and equity
method investments. Other expense for the six months ended June 30, 2003 and
both the quarter and year-to-date period ending June 30, 2002 included
impairment charges totaling $13 million and $70 million, respectively, relating
to investments whose decline in value was deemed to be other than temporary,
with the investments written down to their market values, as determined by
reference to quoted market prices. Also included in other expense in the quarter
and year-to-date period ended June 30, 2003 were costs associated with the
redemption of the company's convertible bonds.
Product warranties
The following is a summary of activity in the product warranty liability.
- ------------------------------------------------------------------------------
As of and for the As of and for the
three months ended six months ended
June 30, June 30,
(in millions) 2003 2002 2003 2002
- ------------------------------------------------------------------------------
Beginning of period $53 $47 $ 53 $ 45
New warranties and adjustments
to existing warranties 5 7 13 15
Payments in cash or in kind (6) (7) (14) (13)
- ------------------------------------------------------------------------------
End of period $52 $47 $ 52 $ 47
==============================================================================
3. DISCONTINUED OPERATIONS
- --------------------------
During the fourth quarter of 2002, the company recorded a $294 million pre-tax
charge ($229 million on an after-tax basis) principally associated with
management's decision to divest the majority of the services businesses included
in the Renal segment. The Renal segment's services portfolio consists of Renal
Therapy Services (RTS), which operates dialysis clinics in partnership with
local physicians in international markets, RMS Disease Management, Inc., which
is a renal-disease management organization, and RMS Lifeline, Inc., which
provides management services to renal access care centers.
Included in the total pre-tax charge was $269 million for non-cash costs,
consisting of $174 million to write down certain property and equipment,
goodwill and other intangible assets, and other assets due to impairment, with
the impairment loss estimated based on market data for the related assets, and
$95 million to write off the related cumulative currency translation losses
included in stockholders' equity. The book values of goodwill and other
intangible assets (which principally consisted of management contracts) of $96
million was completely written off as their fair values were estimated to be
zero based on management's assessment of the value of the businesses. Because
the discontinued operations consisted of recent acquisitions or businesses that
had not been fully integrated into their respective segments, the book value of
the acquired goodwill was written off. The property and equipment of $70 million
was written down to $4 million. The remaining write-downs of $12 million related
to other assets. Also included in the pre-tax charge was $25 million for cash
costs, principally relating to severance and other employee-related costs
associated with the elimination of approximately 75 positions, as well as legal
and contractual commitment costs.
8
The company's consolidated statements of income and cash flows have been
restated to reflect the results of operations and cash flows of the businesses
to be divested as discontinued operations. The consolidated balance sheets at
June 30, 2003 and December 31, 2002 have not been restated as the assets and
liabilities of the businesses to be divested are immaterial to the company's
consolidated balance sheets. Net revenues relating to the discontinued
businesses were $51 million and $100 million for the quarter and year-to-date
period ended June 30, 2003, respectively, and $77 million and $152 million for
the quarter and year-to-date period ended June 30, 2002, respectively.
In July 2003, the company sold RMS Lifeline, Inc. and signed a definitive
agreement to sell RMS Disease Management, Inc. The company has also closed the
first in a series of transactions involving the divestiture of the RTS dialysis
centers.
During the three- and six-month periods ended June 30, 2003, $1 million and $2
million of the reserve for cash costs was utilized, respectively. During the
second quarter of 2003, as the final form of certain of the divestitures became
known, approximately $8 million of the reserve for cash costs was reversed and
reported within discontinued operations in the accompanying condensed
consolidated income statements. The majority of the remaining reserve for cash
costs is expected to be utilized in 2003, and the divestiture plan is expected
to be completed in 2003.
4. ACQUISITIONS AND INTANGIBLE ASSETS
- -------------------------------------
Pending acquisition
In December 2002, the company signed a definitive agreement to acquire certain
assets from Alpha Therapeutic Corporation. The assets to be acquired principally
include Aralast, a plasma-derived Alpha-1 Antitrypsin (A1P1) product. Aralast is
expected to expand the BioScience segment's product portfolio of
biopharmaceuticals, as well as broaden its therapeutic focus in the pulmonology
area. The specific other assets and rights to be acquired, as well as other
aspects of the pending transaction, are in the process of being negotiated.
Closing of the transaction is expected to occur during 2003.
Pro forma information
The following pro forma information presents a summary of the company's
consolidated results of operations as if any acquisitions during 2003 and 2002
had taken place as of the beginning of 2002, giving effect to purchase
accounting adjustments.
- -------------------------------------------------------------------------------
Three months ended Six months ended
(in millions, except per June 30, June 30,
share data) 2003 2002 2003 2002
- -------------------------------------------------------------------------------
Net sales $2,163 $2,006 $4,160 $3,944
Income from continuing
operations $ 49 $ 215 $ 266 $ 476
Net income $ 38 $ 211 $ 254 $ 472
Net income per diluted
share $ .06 $ .34 $ .42 $ .76
- -------------------------------------------------------------------------------
The 2003 amounts above are the same as the reported amounts, as there were no
significant acquisitions impacting the consolidated income statement during
2003. The pro forma results of operations for 2002 have been presented for
comparative purposes only and do not purport
9
to be indicative of the results of operations which actually would have resulted
had the 2002 acquisitions occurred as of the beginning of 2002, or which may
result in the future.
Goodwill
The following is a summary of the activity in goodwill by business segment.
- -------------------------------------------------------------------------------
Medication
(in millions) Delivery BioScience Renal Total
- -------------------------------------------------------------------------------
Balance at December 31, 2002 $797 $551 $146 $1,494
ESI 27 -- -- 27
Other (principally due to
changes in currency
exchange rates) 37 9 17 63
- -------------------------------------------------------------------------------
Balance at June 30, 2003 $861 $560 $163 $1,584
===============================================================================
The change in goodwill during the three- and six-month periods ended June 30,
2003 was partly due to an additional purchase price payment made in the first
quarter of 2003 related to the fourth quarter 2002 acquisition of ESI Lederle
(ESI), a division of Wyeth. The payment was contractually due based on the
finalization of the ESI acquisition-date balance sheet. Goodwill impairment
losses relating to the Medication Delivery and BioScience segments associated
with management's second quarter 2003 restructuring decisions, as further
discussed in Note 5, are included in "Other" in the table above, and were not
material to the company's consolidated financial statements.
Other intangible assets
Intangible assets with finite useful lives are amortized on a straight-line
basis over their estimated useful lives. Intangible assets with indefinite
useful lives are not material to the company. The following is a summary of the
company's intangible assets subject to amortization at June 30, 2003 and
December 31, 2002.
- --------------------------------------------------------------------------------
Developed Manufacturing,
technology, distribution
(in millions, except including and other
amortization period data) patents contracts Other Total
- --------------------------------------------------------------------------------
June 30, 2003
- -------------
Gross intangible assets $712 $39 $64 $815
Accumulated amortization 254 12 11 277
- --------------------------------------------------------------------------------
Net intangible assets $458 $27 $53 $538
================================================================================
Weighted-average amortization
period (in years) 15 8 20 15
================================================================================
December 31, 2002
- -----------------
Gross intangible assets $691 $30 $50 $771
Accumulated amortization 234 9 9 252
- ---------------------------------------------------------------------------------
Net intangible assets $457 $21 $41 $519
================================================================================
Weighted-average amortization
period (in years) 15 7 19 15
================================================================================
The amortization expense for these intangible assets was $15 million and $9
million for the three months ended June 30, 2003 and 2002, respectively, and $27
million and $18 million for
10
the six months ended June 30, 2003 and 2002, respectively. At June 30, 2003, the
anticipated annual amortization expense for these intangible assets is $51
million, $51 million, $47 million, $45 million, $40 million and $38 million in
2003, 2004, 2005, 2006, 2007 and 2008, respectively.
5. SPECIAL CHARGES
- -------------------
Second quarter 2003 restructuring charge
During the second quarter of 2003, the company recorded a $337 million
restructuring charge ($202 million, or $0.33 per diluted share, on an after-tax
basis) principally associated with management's decision to close certain
facilities and reduce headcount on a global basis. Management decided to take
these actions in order to position the company more competitively and to enhance
the company's profitability. The company is closing 26 plasma collection centers
across the United States, as well as a plasma fractionation facility located in
Rochester, Michigan, in order to improve the economics of its plasma therapies
business. In addition, the company is consolidating and integrating several
facilities, including facilities in Maryland; Frankfurt, Germany; Issoire,
France; and Mirandola, Italy. Management also decided to discontinue Baxter's
recombinant hemoglobin protein program because it did not meet the expected
clinical milestones. Also included in the charge are costs related to other
reductions in the company's workforce.
Included in the pre-tax charge was $128 million for non-cash costs, principally
to write down property, plant and equipment (P,P&E), and goodwill and other
intangible assets due to impairment, with the majority pertaining to P,P&E.
Included in the pre-tax charge was $209 million for cash costs, principally
pertaining to severance and other employee-related costs associated with the
elimination of approximately 3,200 positions worldwide. Approximately 40% of the
reductions in positions will be in the United States, with the remaining 60% in
the rest of the world. Across functional areas, about half of the total
workforce reductions are manufacturing-related, with the remainder primarily
selling, general and administrative positions. The majority of the cash costs
are expected to be paid by the end of 2004.
Fourth quarter 2002 research and development prioritization charge
The company recorded a charge of $26 million in the fourth quarter of 2002 to
prioritize the company's investments in certain of the company's research and
development (R&D) programs across the three operating segments. The charge was a
result of management's comprehensive assessment of the company's R&D pipeline
with the goal of having a focused and balanced strategic portfolio, which
maximizes the company's resources and generates the most significant return on
the company's investment. The charge included $14 million of cash costs,
primarily relating to employee severance associated with the elimination of
approximately 160 R&D positions, and $12 million of non-cash costs to write down
certain P,P&E and other assets due to impairment. Approximately $2 million and
$9 million of cash costs were paid during the quarter and six-month period ended
June 30, 2003, respectively, and the remaining reserve at June 30, 2003 was $3
million. Approximately 147 positions have been eliminated through June 30, 2003.
The majority of the remaining employee severance and other cash costs are
expected to be paid in 2003.
Fourth quarter 2001 A, AF and AX series dialyzers charge
As further discussed in the 2002 Annual Report, in the fourth quarter of 2001
the company recorded a pre-tax charge of $189 million ($156 million, or $0.26
per diluted share, on an after-tax basis) to cover the costs of discontinuing
the A, AF and AX series Renal segment dialyzer product line and other related
costs. Included in the total pre-tax charge was $116 million for
11
non-cash costs, principally for the write-down of goodwill and other intangible
assets, inventories and P,P&E. Also included in the charge was $73 million for
cash costs, principally pertaining to legal costs, recall costs, contractual
commitments, and severance and other employee-related costs associated with the
elimination of approximately 360 positions. The majority of the positions were
located in the Ronneby, Sweden and Miami Lakes, Florida manufacturing
facilities, which have been closed. Approximately $1 million and $3 million in
legal costs were paid during the three- and six-month periods ended June 30,
2003, respectively, and approximately $1 million in recall and contractual costs
was paid during the three- and six-month periods ended June 30, 2003. The
remaining balance in the reserve for cash costs is $34 million at June 30, 2003,
of which $30 million relates to legal costs. Except for legal costs, the
remaining balance in the reserve at June 30, 2003 is expected to be
substantially utilized by the end of the year. Certain legal payments and
related insurance recoveries are expected to occur in 2004. Refer to Note 7 for
a discussion of legal proceedings and investigations relating to this matter.
6. FINANCIAL INSTRUMENTS
- -------------------------
Securitizations
Where economical, the company has entered into agreements with various financial
institutions whereby it periodically securitizes an undivided interest in
certain pools of trade accounts. The securitized receivables principally consist
of lease receivables in the United States, and trade receivables in Europe and
Japan. The company continues to service these receivables. The securitization
programs include certain eligibility requirements, including concentration and
aging limits. Certain of the arrangements are non-recourse, and others include
limited recourse provisions, which are not material to the consolidated
financial statements. A subordinated interest in the securitized portfolio is
generally retained by the company. The carrying value of the transferred
receivables is allocated between the portion sold and the portion retained by
Baxter based on their relative fair values. The fair values of the retained
interests are estimated based on expected future cash flows, factoring in
expected losses, and discounted at an appropriate rate of interest. Assumptions
used in estimating future cash flows take into consideration both historical
experience and current projections. Refer to the 2002 Annual Report for a
complete description of the company's securitization arrangements.
The company generated net cash inflows of $19 million and net cash outflows of
$54 million for the three and six months ended June 30, 2003, respectively, and
generated net cash inflows of $9 million and net cash outflows of $18 million
for the three and six months ended June 30, 2002, respectively. A summary of
activity is as follows.
- --------------------------------------------------------------------------------
Three months ended Six months ended
June 30, June 30,
(in millions) 2003 2002 2003 2002
- --------------------------------------------------------------------------------
Sold receivables at beginning
of period $ 640 $ 657 $ 721 $ 683
Proceeds from sales of
receivables 416 500 876 1,158
Cash collections (remitted
to the owners of the receivables) (397) (491) (930) (1,176)
Effect of currency exchange-rate
changes (15) (7) (23) (6)
- --------------------------------------------------------------------------------
Sold receivables at end of period $ 644 $ 659 $ 644 $ 659
================================================================================
Equity forward agreements
As further discussed in the 2002 Annual Report, in order to partially offset the
potentially dilutive effect of employee stock options, the company had
periodically entered into forward agreements with independent third parties
related to the company's common stock. The forward agreements, which had a fair
value of zero at inception, require the company to purchase its common stock
from the counterparties on specified future dates and at specified prices. The
company may, at its option, terminate and settle these agreements at any time
before maturity. The agreements include certain Baxter stock price thresholds,
below which the
12
counterparty has the right to terminate the agreements. If the thresholds are
met, the number of shares that could potentially be issued by the company under
the net-share settlement option is subject to contractual maximums, and the
maximum for all of the agreements at June 30, 2003 was 81 million shares.
During the second quarter of 2003, and in anticipation of the adoption of SFAS
No. 150 on July 1, 2003, the agreements were modified, and effective July 1,
2003, the agreements require that the company repurchase its shares by physical
settlement on the maturity date or any earlier termination date. Prior to July
1, 2003, the agreements gave the company the choice of net-share, net-cash or
physical settlement. Upon adoption of SFAS No. 150 on July 1, 2003, the
classification of the company's equity forward agreements will change from
equity to liabilities. Refer to Note 1 for a discussion of the accounting
treatment of these agreements under the new rules.
At June 30, 2003, the company had outstanding forward agreements related to 11.9
million shares, which all mature in 2003 and have exercise prices ranging from
$33 to $53 per share, with a weighted-average exercise price of $48 per share.
During the six-month period ended June 30, 2003, the company repurchased 3.1
million shares of its common stock for $153 million from counterparty financial
institutions in conjunction with the settlement of equity forward agreements,
all of which occurred in the first quarter of 2003. As previously disclosed,
management intends to exit all of its outstanding agreements, and expects to
complete the exit strategy during 2003. Management does not intend to enter into
equity forward agreements in the future. The settlement of the equity forward
agreements has not had, and is not expected to have, a material impact on the
company's earnings per diluted share. Refer to Note 2 for a discussion of the
impact of the adoption of SFAS No. 150 on the company's future earnings per
share calculations.
With respect to the agreements outstanding at June 30, 2003, for each one dollar
decrease in the price of a share of Baxter common stock, the fair value of these
agreements, which were in a negative position of $263 million as of June 30,
2003 (based on a common stock price of $26.00 at June 30, 2003), would further
decline by approximately $12 million.
7. LEGAL PROCEEDINGS, COMMITMENTS AND CONTINGENCIES
- ----------------------------------------------------
Refer to "Part II - Item 1. Legal Proceedings" below.
8. 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: Medication Delivery: medication delivery products and
therapies, including intravenous infusion pumps and solutions,
anesthesia-delivery devices and pharmaceutical agents, and oncology therapies;
BioScience: biopharmaceutical, biosurgical, vaccine, and blood-collection,
separation and storage products and technologies; and Renal: products and
services to treat end-stage kidney disease.
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
13
investments and related income and expense, certain nonrecurring gains and
losses, deferred income taxes, certain foreign currency fluctuations, the
majority of foreign currency and interest rate hedging activities, and certain
litigation liabilities and related insurance receivables.
Financial information for the company's segments for the quarter and six-month
period ended June 30 is as follows.
Medication
(in millions) Delivery BioScience Renal Other Total
- ------------------------------------------------------------------------------------------
Three months ended June 30,
- ---------------------------
2003
- ----
Net sales $938 $773 $452 -- $2,163
Pre-tax income 162 178 79 $(427) (8)
2002
- ----
Net sales $805 $732 $408 -- $1,945
Pre-tax income 148 138 80 $ (84) 282
- ------------------------------------------------------------------------------------------
Medication
(in millions) Delivery BioScience Renal Other Total
- ------------------------------------------------------------------------------------------
Six months ended June 30,
- -------------------------
2003
- ----
Net sales $1,788 $1,513 $859 -- $4,160
Pre-tax income 297 303 145 $(467) 278
2002
- ----
Net sales $1,533 $1,478 $809 -- $3,820
Pre-tax income 267 309 138 $ (88) 626
- ------------------------------------------------------------------------------------------
The following are reconciliations of total segment amounts to amounts per the
condensed consolidated income statements.
Three months
ended June 30,
------------------
(in millions) 2003 2002
- ----------------------------------------------------------------------
Pre-tax income
- --------------
Total pre-tax income from
segments $ 419 $366
Unallocated amounts
Interest expense, net (27) (14)
Restructuring charge (337) --
In-process research and
development -- (51)
Other Corporate items (63) (19)
- ----------------------------------------------------------------------
Income from continuing
operations before income taxes $ (8) $282
======================================================================
14
Six months
ended June 30,
-----------------------
(in millions) 2003 2002
- --------------------------------------------------------------------------------
Pre-tax income
- --------------
Total pre-tax income from
segments $ 745 $714
Unallocated amounts
Interest expense, net (46) (30)
Restructuring charge (337)
In-process research and
development -- (51)
Other Corporate items (84) (7)
- --------------------------------------------------------------------------------
Income from continuing
operations before income taxes $ 278 $626
================================================================================
9. SHARED INVESTMENT PLAN
- --------------------------
As further discussed in the 2002 Annual Report to Stockholders, in order to
align management and shareholder interests, in 1999 the company sold shares of
the company's stock to 142 of Baxter's senior managers. The participants used
five-year full-recourse personal bank loans to purchase the stock at the May 3,
1999 closing price (adjusted for the company's stock split) of $31.81. Baxter
has guaranteed repayment to the banks in the event a participant in the plan
defaults on his or her obligations. The plan also includes certain risk-sharing
provisions whereby, after May 3, 2002, the company shares 50% in any loss
incurred by the participants relating to a stock price decline.
In May 2003, management announced that, in order to continue to align management
and shareholder interests and to balance both the short- and long-term needs of
Baxter, the board of directors authorized the company to provide a new
three-year guarantee at the May 6, 2004 loan due date for 71 non-officer
employees who remain in the plan, should they so elect to extend their loans. As
of May 6, 2004, the 50% risk-sharing provision included in the current plan will
terminate. The company's loan guarantee that will be effective on May 6, 2004
relating to the eligible employees who have elected to extend their loans, is
$81 million. As with the current guarantee, with respect to new guarantees
provided to eligible participants, the company may take actions relating to
participants and their assets to obtain full reimbursement for any amounts paid
by the company to the bank pursuant to the loan guarantee. The new three-year
guarantee is not expected to have a material impact on the company's results of
operations.
15
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Baxter International Inc.'s (the company or Baxter) 2002 Annual Report to
Stockholders (2002 Annual Report) contains management's discussion and analysis
of financial condition and results of operations for the year ended December 31,
2002. In the 2002 Annual Report, management outlined its key financial
objectives for 2003. The table below reflects these objectives, as well as
management's revised expectations, and the company's results through June 30,
2003.
- --------------------------------------------------------------------------------
FULL YEAR 2003 OBJECTIVES RESULTS THROUGH
PER 2002 ANNUAL REPORT JUNE 30, 2003
- --------------------------------------------------------------------------------
.. Grow sales in the 10-12% range. . Management now expects sales growth
for full-year 2003 to be in the 8-10%
range. Net sales for the six months
ended June 30, 2003 increased 9%.
- --------------------------------------------------------------------------------
.. Grow earnings per diluted share . Management now expects to generate
(from continuing operations) to the earnings per diluted share from
$2.22-$2.29 range, or growth of continuing operations in the $1.65-$
11-15%. 1.75 range. For the six months ended
June 30, 2003, earnings per diluted
share from continuing operations(EPS)
was $0.44, declining 40% from the
prior year. As further discussed
below, included in 2003 EPS was a
$0.33 per diluted share restructuring
charge. Included in 2002 EPS were in-
process research and development
(IPR&D) and asset impairment charges
totaling $0.16 per diluted share.
- --------------------------------------------------------------------------------
.. Generate $1.3-$1.5 billion in cash . Management now expects to generate
flows from operations. $1.2 billion in cash flows from
operations. The company generated a
net cash inflow from operations of
$195 million during the six months
ended June 30, 2003, with a $205
million inflow from continuing
operations and a $10 million outflow
from discontinued operations.
- --------------------------------------------------------------------------------
16
RESULTS OF CONTINUING OPERATIONS
- --------------------------------
NET SALES
- ------------------------------------------------------------------------------
Three months Six months ended
ended June 30, Percent June 30, Percent
(in millions) 2003 2002 increase 2003 2002 increase
- ------------------------------------------------------------------------------
International $1,166 $ 989 18% $2,207 $1,947 13%
United States 997 956 4% 1,953 1,873 4%
- ------------------------------------------------------------------------------
Total net
sales $2,163 $1,945 11% $4,160 $3,820 9%
==============================================================================
Currency exchange rate fluctuations benefited sales growth by 5 points in both
the quarter and year-to-date period. During the quarter and year-to-date period,
the United States Dollar weakened principally relative to the Euro and Japanese
Yen, partially offset by a strengthening principally relative to certain Latin
American currencies. Refer to Note 8 to the condensed consolidated financial
statements for a summary of net sales by segment.
Medication Delivery
The Medication Delivery segment generated 17% sales growth for both the three-
and six-month periods ended June 30, 2003. Approximately 6 points and 7 points
of growth in the quarter and year-to-date period, respectively, was generated by
recent acquisitions, net of divestitures, which principally related to the
December 2002 acquisition of ESI Lederle (ESI), a division of Wyeth, a leading
manufacturer and distributor of injectable drugs used in the United States
hospital market. Sales of anesthesia and critical care products, excluding ESI,
contributed 1 point and 2 points to the segment's sales growth in the quarter
and year-to-date period, respectively, primarily due to increased sales of
inhaled anesthetics and geographic expansion, and in the year-to-date period, to
increased sales of certain proprietary and generic drugs. Sales of certain
generic and branded pre-mixed drugs and drug delivery products contributed 4
points of sales growth in both the quarter and year-to-date period, with the
strongest growth in the United States market. The remaining growth was fueled by
increased sales of intravenous therapies, which principally include intravenous
solutions and nutritional products, as well as increased sales of tubing sets
used with electronic infusion pumps.
BioScience
Sales in the BioScience segment increased 5% and 2% for the three- and six-month
periods ended June 30, 2003, respectively. The primary driver was increased
sales of vaccines, contributing approximately 4 points and 1 point of growth for
the quarter and year-to-date period, respectively. Vaccines sales growth in both
periods was principally fueled by strong sales of NeisVac-C, for the prevention
of meningitis C, and the segment's tick-borne encephalitis vaccine, with growth
for the year-to-date period partially offset by the impact of a prior year sale
of crude bulk vaccine to Acambis, Inc. (Acambis) in conjunction with its
smallpox vaccine contract with the U.S. Government. Sales of recombinant
products added 1 point of growth in both the quarter and year-to-date period.
The growth rate for Recombinate Antihemophilic Factor (rAHF) (Recombinate) was
lower than in recent periods primarily due to reductions in inventory by some
providers resulting from increased confidence in the availability of recombinant
Factor VIII products. Modest growth in sales of biosurgery products was offset
by a decline in sales of plasma-derived products. The decline in sales of
plasma-based products was principally in the U.S. market, and was primarily due
to increased competition, continued pricing pressures, and a continuing shift in
the market from plasma to recombinant
17
hemophilia products. These factors may unfavorably impact sales beyond the
second quarter of 2003. The segment's advanced recombinant therapy, ADVATE
(Antihemophilic Factor (Recombinant), Plasma/Albumin-Free Method) rAHF-PFM,
which received regulatory approval in the United States in July 2003, is
expected to contribute to the segment's growth rate in 2003. Refer to Note 4
regarding a pending acquisition relating to the BioScience segment.
Renal
Sales from continuing operations in the Renal segment increased 11% and 6% for
the three- and six-month periods ended June 30, 2003, respectively. Increased
sales of peritoneal dialysis products contributed 8 points and 5 points to the
sales growth for the quarter and year-to-date period, respectively, primarily as
a result of an increase in patients in Japan, Europe and Asia. The remaining
growth was primarily due to increased sales of hemodialysis products. As further
discussed in Note 3, in the fourth quarter of 2002, management decided to divest
the majority of the Renal segment's services businesses. The results of
operations of the services businesses are no longer reported as part of
continuing operations, but are restated as discontinued operations in the
condensed consolidated statements of income.
The following tables show key ratios of certain income statement items as a
percent of sales.
GROSS MARGIN AND EXPENSE RATIOS
- ------------------------------------------------------------------------------
Three months ended Six months ended
June 30, June 30,
2003 2002 Change 2003 2002 Change
- ------------------------------------------------------------------------------
Gross margin 45.0% 47.0% (2.0 pts) 44.5% 47.0% (2.5 pts)
Marketing and
administrative
expenses 21.5% 19.5% 2.0 pts 21.1% 20.2% 0.9 pts
- ------------------------------------------------------------------------------
The decline in the gross margin during the quarter and year-to-date period
primarily related to the BioScience segment. As discussed above, sales of the
segment's plasma-based products have been significantly impacted by increased
competition and related pricing pressures, which unfavorably affected the gross
margin for these products. Also impacting the margin was a change in sales mix,
with a lower sales contribution from the segment's higher-margin Recombinate
product. Partially offsetting these reductions was an increase in the gross
margin in the Medication Delivery segment, partially due to incremental sales
related to the December 2002 acquisition of ESI, which have a higher gross
margin, as well as reduced sales in certain lower-margin distribution businesses
in certain countries outside the United States, as a result of management's
decision to slowly withdraw from these businesses.
Marketing and administrative expenses as a percentage of sales increased during
the quarter and year-to-date period primarily due to increased investments in
sales and marketing programs in conjunction with the launch of new products, and
to drive overall sales growth. The increase was also due to $13 million in
favorable legal adjustments recorded in the second quarter of 2002, which was
principally related to favorable insurance recoveries.
As discussed in the 2002 Annual Report, the reduction in expenses in 2003 due to
a change in the employee vacation policy, which is expected to total
approximately $30 million for the full year, is substantially offset by
increased expenses in 2003 related to certain of the company's other benefit
plans. The increased other benefit plan costs are principally resulting from a
reduction in the long-term rate of return expected on pension assets and a lower
discount rate assumption used to calculate pension and other postretirement
benefit costs, as well as amortization of unrecognized net losses relating to
the pension and other postretirement plans. Refer to the Critical Accounting
Policies discussion in the 2002 Annual Report for further information regarding
the change in assumptions and management's determination of the assumptions.
18
RESEARCH AND DEVELOPMENT
- --------------------------------------------------------------------------------
Three months ended Six months ended
June 30, Percent June 30, Percent
(in millions) 2003 2002 increase 2003 2002 increase
- --------------------------------------------------------------------------------
Research and
development
expenses $139 $123 13% $275 $238 16%
As a percent
of sales 6.4% 6.3% 6.6% 6.2%
- --------------------------------------------------------------------------------
The company's second quarter 2002 $51 million IPR&D charge relating to the
acquisition of Fusion Medical Technologies, Inc. (Fusion) is reported separately
on the consolidated income statements, and is not included in the research and
development (R&D) amounts above. Refer to the 2002 Annual Report for a
discussion of this acquisition and the related charge. The increase in R&D
expenses for the quarter and year-to-date period was primarily due to increased
investments in the Medication Delivery segment. Recent acquisitions, principally
the Medication Delivery segment's late 2002 acquisitions of ESI and Epic
Therapeutics, Inc. (Epic), contributed 5 points to the R&D growth rate for both
the quarter and year-to-date period. Also contributing to the growth rate was
increased spending relating to a number of projects across the three segments.
Management's strategy is to make focused investments on key R&D initiatives,
which management believes will maximize the company's resources and generate the
most significant return on the company's investment. As discussed below, as part
of the company's second quarter 2003 restructuring initiative, management
decided to discontinue the BioScience segment's recombinant hemoglobin protein
program because it did not meet the expected clinical milestones.
RESTRUCTURING CHARGE
During the second quarter of 2003, the company recorded a $337 million
restructuring charge ($202 million, or $0.33 per diluted share, on an after-tax
basis) principally associated with management's decision to close certain
facilities and reduce headcount on a global basis. Management decided to take
these actions in order to position the company more competitively and to enhance
Baxter's profitability. The company is closing 26 plasma collection centers
across the United States, as well as a plasma fractionation facility located in
Rochester, Michigan, in order to improve the economics of its plasma therapies
business. In addition, the company is consolidating and integrating several
facilities, including facilities in Maryland; Frankfurt, Germany; Issoire,
France; and Mirandola, Italy. Management decided to discontinue Baxter's
recombinant hemoglobin protein program because it did not meet the expected
clinical milestones. Also included in the charge are costs related to other
reductions in the company's workforce. Management expects that these actions
will generate incremental annual savings of $0.15 to $0.20 per diluted share
when fully implemented, with the cost savings principally related to employee
compensation, as well as depreciation.
Included in the pre-tax charge was $128 million for non-cash costs, principally
to write down property, plant and equipment (P,P&E), and goodwill and other
intangible assets due to impairment, with the majority pertaining to P,P&E.
Included in the pre-tax charge was $209 million for cash costs, principally
pertaining to severance and other employee-related costs associated with the
elimination of approximately 3,200 positions worldwide. Approximately 40% of the
reductions in positions will be in the United States, with the remaining 60% in
the rest of the world. Across functional areas, about half of the total
workforce reductions are
19
manufacturing-related, with the remainder primarily selling, general and
administrative positions. The majority of the cash costs are expected to be paid
by the end of 2004.
INTEREST, NET AND OTHER EXPENSE
Net interest expense increased for the three and six months ended June 30, 2003
as compared to the prior year periods principally due to a higher level of debt
outstanding as well as the impact of recent issuances of debt bearing higher
fixed interest rates.
Other expense decreased during both the three- and six-month periods ended June
30, 2003. Included in other expense for both years was the impact of
fluctuations in currency exchange rates, and amounts relating to minority
interests and equity method investments. Other expense for the six months ended
June 30, 2003 and both the quarter and year-to-date period ending June 30, 2002
included impairment charges totaling $13 million and $70 million, respectively,
relating to investments whose decline in value was deemed to be other than
temporary. Also included in other expense in the quarter and year-to-date period
ended June 30, 2003 were costs associated with the redemption of the company's
convertible bonds.
PRE-TAX INCOME
Refer to Note 8 to the condensed consolidated financial statements for a summary
of financial results by segment. Certain items are maintained at the company's
corporate headquarters and are not allocated to the segments. They primarily
include the majority of the foreign currency and interest rate hedging
activities, certain foreign currency fluctuations, net interest expense, income
and expense related to certain non-strategic investments, corporate headquarters
costs, and certain nonrecurring gains and losses. The following is a summary of
the significant factors impacting the segments' financial results.
Medication Delivery
Pre-tax income increased 9% and 11% for the three and six months ended June 30,
2003, respectively. The growth in pre-tax income was primarily the result of
strong sales growth, a favorable change in sales mix, favorable changes in
foreign currency exchange rates, the close management of costs, and the
leveraging of expenses in conjunction with recent acquisitions. Favorably
impacting the sales mix were higher-margin sales related to the December 2002
acquisition of ESI, as well as reduced sales in certain lower-margin
distribution businesses in certain countries outside the United States, as a
result of management's decision to slowly withdraw from these businesses. These
factors were partially offset by increased R&D spending, which was primarily
related to the prior year acquisitions of ESI and Epic.
BioScience
Pre-tax income increased 29% for the three months ended June 30, 2003 and
decreased 2% for the six months ended June 30, 2002. The increase in the quarter
was primarily due to favorable changes in foreign currency rates, reduced R&D
spending, increased income from an equity method investment and the close
management of costs, partially offset by lower gross margins and increased sales
and marketing costs associated with the launch of new products. The decline in
pre-tax income for the year-to-date period was primarily due to a lower gross
margin, increased R&D investments and increased costs relating to the launch of
new products. As discussed above, the lower gross margin in both the quarter and
six-month period was primarily related to competitive pricing pressures in the
plasma-based products business. The impact of the lower plasma-based products
margins was partially offset by the effect of higher sales of
20
vaccines, particularly during the second quarter, which have a higher gross
margin. Partially offsetting the decline in pre-tax income in the six-month
period were favorable changes in foreign currency rates and the close management
of costs.
Renal
Pre-tax income decreased 1% for the three months ended June 30, 2003 and
increased 5% for the six months ended June 30, 2003. The decrease in pre-tax
income for the quarter was partially due to increased sales and marketing costs
associated with the launch of new products and increased R&D spending, partially
offset by favorable foreign currency fluctuations. The increase in pre-tax
income in the year-to-date period was primarily due to reduced R&D spending as a
result of the company's recent R&D prioritization initiative, as further
discussed above and in Note 5, favorable foreign currency fluctuations, and the
close management of expenses, partially offset by increased sales and marketing
costs associated with the launch of new products.
INCOME TAXES
In the second quarter of 2003, the company generated a pre-tax loss of $8
million, and recorded a $57 million income tax benefit. The effective income tax
rate for the second quarter of 2002 was 28%, and the effective income tax rate
for the six months ended June 30 was 4% and 27% in 2003 and 2002, respectively.
The effective income tax rate for the quarter and six-month period ended June
30, 2003 was impacted by the $337 million restructuring charge, which was
tax-effected at a higher income tax rate than the company's other pre-tax
results of operations, due to the higher income tax rates in the tax
jurisdictions in which most of the charge pertains. The effective income tax
rate for the quarter and six-month period ending June 30, 2002 was impacted by
the non-deductibility of the $51 million IPR&D charge relating to the
acquisition of Fusion. Excluding these items, the effective income tax rate from
period to period was substantially unchanged, with small differences principally
due to changes in the mix of earnings between the various tax jurisdictions.
INCOME FROM CONTINUING OPERATIONS
Income from continuing operations of $49 million and $266 million for the three
and six months ended June 30, 2003 decreased 76% and 42%, respectively, from the
$204 million and $457 million in the prior year periods. Income from continuing
operations per diluted share for the quarter decreased 76%, from $0.33 in the
prior year to $0.08 in the current year, and for the six-month period decreased
40%, from $0.73 in the prior year to $0.44 in the current year. As discussed
above, the year-to-year comparisons were significantly impacted by the second
quarter 2003 restructuring charge and the second quarter 2002 IPR&D and asset
impairment charges.
LOSS FROM DISCONTINUED OPERATIONS
As further discussed in Note 3, in July 2003, the company sold RMS Lifeline,
Inc. and signed a definitive agreement to sell RMS Disease Management, Inc. The
company has also closed the first in a series of transactions involving the
divestiture of the Renal Therapy Services (RTS) dialysis centers. The
divestiture plan is expected to be completed in 2003.
The loss from discontinued operations for the three months ended June 30 was $11
million and $4 million in 2003 and 2002, respectively. The loss from
discontinued operations for the six-
21
month period ended June 30 was $12 million and $4 million in 2003 and 2002,
respectively. The increased losses in both the quarter and year-to-date period
were principally due to unfavorable changes in currency exchange rates. In
addition, as discussed in Note 3, partially offsetting these losses during the
second quarter and year-to-date period was the reversal of $8 million of
reserves for cash costs, as the final form of certain of the divestitures became
known.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
CASH FLOWS
Cash flows from operations increased $237 million for the six months ended June
30, 2003, with cash flows from continuing operations increasing $216 million.
Cash flows relating to accounts receivable, inventories, accounts payable and
accrued liabilities improved over the prior year as a result of more aggressive
management of these working capital items. These improvements were partially
offset by the impact of lower earnings, lower cash flows relating to the
company's accounts receivable securitization arrangements, as well as higher
inventories due to lower sales of plasma-based products and the anticipation of
the launch of new products, such as ADVATE. Cash flows from discontinued
operations increased $21 million for the six months ended June 30, 2003
primarily due to management's 2002 decision to reduce the level of acquisitions
of RTS centers due to economic and currency volatility in Latin America, where
RTS primarily operates.
Cash flows from investing activities decreased $53 million for the six months
ended June 30, 2003. Capital expenditures increased 9% during the six months
ended June 30, 2003 as the company continued its investments in various
multi-year capital projects across the three segments, including ongoing
projects to increase manufacturing capacity for vaccines, drug delivery,
recombinant and other products. A significant portion of the increase from 2002
to 2003 was also due to fluctuations in currency exchange rates. Management
currently expects to invest approximately $750 to $800 million in capital
expenditures in 2003, and expects to reduce its overall level of capital
expenditures in 2004 as certain significant long-term projects are completed.
Net cash outflows relating to acquisitions and investments in affiliates
increased during the first six months of 2003 as compared to the prior year
period principally due to the funding of a five-year $50 million loan to Cerus
Corporation, a minority investment holding which is included in the BioScience
segment. Also included in net cash outflows relating to acquisitions and
investments in affiliates in 2003 was an $11 million common stock investment in
Acambis, a minority investment holding which is included in the BioScience
segment, and an $11 million payment for an icodextrin manufacturing facility in
England, which is included in the Renal segment. Approximately $24 million of
the 2002 total related to the acquisition of Autros Healthcare Solutions Inc., a
developer of automated patient information and medication management systems,
which is included in the Medication Delivery segment. The remainder of the cash
outflows in both years pertained to individually insignificant acquisitions. In
May 2002 the company acquired Fusion, with the purchase price paid in 2,806,660
shares of Baxter common stock.
Cash flows from financing activities decreased $592 million for the six months
ended June 30, 2003. Debt issuances, net of redemptions and the net increase in
debt with maturities of three months or less decreased $483 million in the
current period as compared to the prior year period. In March 2003, the company
issued $600 million of term debt, maturing in March 2015, and bearing a 4.625%
coupon rate. In June 2003, the company redeemed $800 million, or substantially
all, of its convertible debentures, as the holders exercised their rights to put
the
22
debentures to the company. Cash outflows relating to common stock dividends
decreased slightly for the six-month period due to a decrease in the number of
shares outstanding. Cash received for stock issued under employee benefit plans
decreased principally due to a lower level of stock option exercises, partially
offset by a higher level of employee stock subscription purchases. In
conjunction with the termination of equity forward agreements, the company
purchased 3,081,522 shares and 2,409,087 shares of Baxter common stock for $153
million and $110 million during the first six months of 2003 and 2002,
respectively. During the second quarter of 2002, the company also repurchased
600,000 shares of common stock for $31 million in open market purchases.
NET DEBT, CREDIT FACILITIES, ACCESS TO CAPITAL, COMMITMENTS AND CONTINGENCIES
Refer to the 2002 Annual Report for a complete discussion of the company's net
debt, credit facilities, access to capital, commitments and contingencies.
The company has $608 million of cash and equivalents at June 30, 2003. The
company also maintains two revolving credit facilities, which totaled $1.6
billion at June 30, 2003. These credit facilities, which were renewed and
increased in October 2002, have funding expiration dates through November 2007.
The facilities enable the company to borrow funds on an unsecured basis at
variable interest rates. The company has never drawn on these facilities and
does not intend to do so in the foreseeable future. Management believes these
credit facilities are adequate to support ongoing operational requirements. The
credit facilities contain certain covenants, including a maximum
net-debt-to-capital ratio and a minimum interest coverage ratio. At June 30,
2003, as in prior periods, the company was in compliance with all covenants. The
company's net-debt-to-capital ratio, as defined below, of 46.7% at June 30, 2003
was well below the credit facilities' net-debt-to-capital covenant. Similarly,
the company's actual interest coverage ratio of 16.7 to 1 in the second quarter
of 2003 was well in excess of the minimum interest coverage ratio covenant. The
net-debt-to-capital ratio, which is calculated in accordance with the company's
primary credit agreements, is calculated as net debt (short-term and long-term
debt and lease obligations, net of cash and equivalents) divided by capital (the
total of net debt and stockholders' equity). The net-debt-to-capital ratio at
June 30, 2003 and the corresponding covenant in the company's credit agreements
give 70% equity credit to the company's equity units. Refer to the 2002 Annual
Report for a detailed description of the equity units, which were issued in
December 2002. The minimum interest coverage ratio is a four-quarter rolling
calculation of the total of income from continuing operations before income
taxes plus net interest expense, divided by net interest expense.
The company intends to fund its short-term and long-term obligations as they
mature through cash on hand, future cash flows from operations, by issuing
additional debt, by entering into other financing arrangements or by issuing
common stock. As of June 30, 2003, the company can issue up to $70 million of
securities, including debt, preferred stock, common stock, warrants, purchase
contracts and other securities, under effective registration statements filed
with the Securities and Exchange Commission. The company's debt ratings are A3
by Moody's, A by Standard & Poor's and A by Fitch on senior debt, and P2 by
Moody's, A1 by Standard & Poor's and F1 by Fitch on short-term debt. Based on
recent issuances, including the March 2003 issuance of $600 million of 12-year
term debt, the December 2002 issuances of $1.25 billion of equity units and
14.95 million shares of common stock, as well as other recent transactions,
management believes it has sufficient financial flexibility in the future to
issue
23
debt, enter into other financing arrangements, and attract long-term capital on
acceptable terms as may be needed to support the company's growth objectives.
The company's ability to generate cash flows from operations, issue debt, enter
into other financing arrangements and attract long-term capital on acceptable
terms could be adversely affected in the event there is a material decline in
the demand for the company's products, deterioration in the company's key
financial ratios or credit ratings, or other significantly unfavorable changes
in conditions. While a deterioration in the company's credit ratings could
unfavorably impact the financing costs associated with its credit arrangements
and debt outstanding, such downgrades would not affect the company's ability to
draw on the credit facilities, and would not result in an acceleration of the
scheduled maturities of any of the company's outstanding debt.
As further discussed in Note 6, in order to partially offset the potentially
dilutive effect of employee stock options, the company had periodically entered
into forward agreements with independent third parties related to the company's
common stock. The forward agreements, which had a fair value of zero at
inception, require the company to purchase its common stock from the
counterparties on specified future dates and at specified prices. The company
may, at its option, terminate and settle these agreements at any time before
maturity. The agreements include certain Baxter stock price thresholds, below
which the counterparty has the right to terminate the agreements. If the
thresholds are met, the number of shares that could potentially be issued by the
company under the net-share settlement option is subject to contractual
maximums, and the maximum for all of the agreements at June 30, 2003 was 81
million shares. Refer to the "New Accounting and Disclosure Standards" section
below and Note 1 regarding the change in accounting treatment of the equity
forwards, which is effective July 1, 2003.
At June 30, 2003, the company had outstanding forward agreements related to 11.9
million shares, which all mature in 2003 and have exercise prices ranging from
$33 to $53 per share, with a weighted-average exercise price of $48 per share.
During the six-month period ended June 30, 2003, the company repurchased 3.1
million shares of its common stock for $153 million from counterparty financial
institutions in conjunction with the settlement of equity forward agreements,
all which occurred in the first quarter of 2003. As previously disclosed,
management intends to exit all of its outstanding agreements, and expects to
complete the exit strategy during 2003. Management does not intend to enter into
equity forward agreements in the future. The settlement of the equity forward
agreements has not had, and is not expected to have, a material impact on the
company's earnings per diluted share. Refer to Note 2 for a discussion of the
impact of the adoption of Statement of Financial Accounting Standards (SFAS) No.
150, "Accounting for Certain Financial Instruments with Characteristics of both
Liabilities and Equity" (SFAS No. 150), on the company's earnings per share
calculations.
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
uncertainties, the company 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 or cash flows in the period in which it is recorded or
paid, based on the advice of counsel, management believes that any outcome of
these actions, individually or in the
24
aggregate, will not have a material adverse effect on the company's consolidated
financial position.
NEW ACCOUNTING AND DISCLOSURE STANDARDS
- ---------------------------------------
SFAS No. 150 requires that certain financial instruments, which previously had
been classified as equity, be classified as liabilities in the company's
consolidated balance sheet. Under the new rules, the balance sheet
classification of the company's equity forward agreements, which are discussed
further in Note 6, will change from equity to liabilities. Effective July 1,
2003, all of the company's outstanding equity forward agreements require that
the company repurchase its shares by physical settlement. As such, on the July
1, 2003 adoption date, Baxter will recognize a liability relating to these
agreements of $571 million (representing the net present value of the redemption
amounts as of July 1, 2003), reduce stockholders' equity by $561 million
(representing the value of the underlying shares at the contract inception
dates), and record the difference of $10 million in the consolidated income
statement as the cumulative effect of a change in accounting principle.
Subsequent to July 1, 2003, the interest on the established liability will be
accreted to the redemption amounts through the contractual maturity dates of the
equity forward agreements, or through any earlier termination dates. In
calculating earnings per share, the shares underlying any remaining equity
forward agreements will be treated as repurchased on July 1, 2003 for both the
basic and diluted per share calculations. As previously disclosed and as noted
above, the company is in the process of exiting these agreements and expects to
complete the exit strategy during 2003. Other than the initial impact of
adoption, management does not expect that the new accounting rules will have a
material impact on the company's consolidated financial statements, including
its earnings per diluted share calculations.
Financial Accounting Standards Board Interpretation No. 46, "Consolidation of
Variable Interest Entities" (Interpretation No. 46) was issued in January 2003.
Interpretation No. 46 defines variable interest entities (VIE) and requires that
a VIE be consolidated if certain conditions are met. As a result of these new
rules, Baxter will consolidate three VIEs effective July 1, 2003. The VIEs to be
consolidated pertain to certain of Baxter's lease arrangements, which were
described in Note 5 in Baxter's 2002 Annual Report, in which the company is the
primary beneficiary. The leases principally relate to an office building in
California, plasma collection centers in various locations throughout the United
States, and certain other assets. Adoption of Interpretation No. 46 will result
in a cumulative after-tax reduction in net income as of July 1, 2003 of less
than $10 million and will increase total assets and liabilities by approximately
$160 to $170 million. The ongoing impact of Interpretation No. 46 is not
expected to be material.
SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and
Disclosure" (SFAS No. 148) was issued in December 2002. The new standard
provides alternative methods for transitioning, if a company elects to do so,
from the intrinsic method to the fair value-based method of accounting for
stock-based employee compensation. SFAS No. 148 also requires additional
quarterly and annual disclosures about stock-based compensation. The annual
disclosure requirements were effective for 2002, and the new interim disclosure
requirements were effective beginning in the first quarter of 2003. The company
has implemented the required disclosure provisions. Management does not have
immediate plans for the company to voluntarily adopt the fair value-based method
of accounting for stock-based employee compensation.
25
FORWARD-LOOKING INFORMATION
- ---------------------------
The matters discussed in this report 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. Many factors 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, but are not limited to
interest rates; technological advances in the medical field; 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; availability of acceptable raw materials and
component supply; new plant start-ups; global regulatory, trade and tax
policies; regulatory, legal or other developments relating to the company's
Series A, AF and AX dialyzers; the ability to obtain adequate insurance coverage
at reasonable costs; continued price competition; product development risks,
including technological difficulties; ability to enforce patents; patents of
third parties preventing or restricting the company's manufacture, sale or use
of affected products or technology; actions of regulatory bodies and other
government authorities; reimbursement policies of government agencies and
private payers; commercialization factors; results of product testing;
unexpected quality or safety concerns, whether or not justified, leading to
product launch delays, recalls, withdrawals, or declining sales; and other
factors described in this report or in the company's other filings with the
Securities and Exchange Commission. Additionally, as discussed in Part II - Item
1. Legal Proceedings below, upon the resolution of certain legal matters, the
company may incur charges in excess of presently established reserves. Any such
charge could have a material adverse effect on the company's results of
operations or cash flows in the period in which it is recorded.
Currency fluctuations are also a significant variable for global companies,
especially fluctuations in local currencies where hedging opportunities are
unreasonably expensive or unavailable. If the U.S. Dollar strengthens against
most foreign currencies, the company's growth rates in its sales and net
earnings could be negatively impacted.
Insurance Coverage
- ------------------
In view of business conditions in the insurance industry, the company's
liability insurance coverage, including product liability insurance, with
respect to insured occurrences after April 30, 2003, is significantly less than
the coverage available for insured occurrences prior to that date. These
reductions in insurance coverage available to the company reflect current trends
in the liability insurance area generally, and are not unique to the company.
Management will continue to pursue higher coverage levels and lower self-insured
retentions in the future, when available. It is possible that the company's net
income and cash flows could be adversely affected in the future as a result of
any losses sustained in the future.
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.
26
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Currency risk
For a complete discussion, refer to the caption "Financial Instrument Market
Risk" in the company's 2002 Annual Report on Form 10-K. As part of its
risk-management program, the company performs sensitivity analyses to assess
potential changes in the fair value of its foreign exchange financial
instruments relating to hypothetical and reasonably possible near-term movements
in currency exchange rates. A sensitivity analysis of changes in the fair value
of foreign exchange forward and option contracts outstanding at June 30, 2003,
while not predictive in nature, indicated that if the U.S. Dollar uniformly
fluctuated unfavorably by 10% against all currencies, the net liability balance
of $66 million (on an after-tax basis) with respect to those contracts would
increase by approximately $143 million (on an after-tax basis). With respect to
the company's cross-currency swap agreements used to hedge the net assets of
certain consolidated foreign affiliates, if the U.S. Dollar uniformly weakened
by 10%, the net liability balance of $489 million (on an after-tax basis) with
respect to those contracts would increase by approximately $252 million (on an
after-tax basis). Any increase or decrease in the fair value of cross-currency
swap agreements relating to changes in spot currency exchange rates is
completely offset by the change in the value of the hedged net assets.
Management intends to hedge the net assets of its consolidated foreign
affiliates on a long-term basis, and therefore intends to continue to extend the
terms of its hedging instruments past their current contractual maturity dates.
At June 30, 2003, all of the cross-currency contracts have maturity dates in
2004 and beyond. When the hedging instruments have been extended or are extended
in the future, no cash has been or will be paid to or received from the
counterparty. The sensitivity analysis model recalculates the fair value of the
foreign currency forward, option and swap contracts outstanding at June 30, 2003
by replacing the actual exchange rates at June 30, 2003 with exchange rates that
are 10% unfavorable to the actual exchange rates for each applicable currency.
All other factors are held constant. These sensitivity analyses disregard the
possibility that currency exchange rates can move in opposite directions and
that gains from one currency may or may not be offset by losses from another
currency. The analyses also disregard the offsetting change in value of the
underlying hedged transactions and balances.
Equity risk
As further discussed in the 2002 Annual Report on Form 10-K as well as in Item
2. Management's Discussion and Analysis of Financial Condition and Results of
Operations of this Form 10-Q, in order to partially offset the dilutive effect
of employee stock options, the company had periodically entered into forward
agreements with independent third parties related to the company's common stock.
As part of its risk-management program, the company performs sensitivity
analyses to assess potential changes in the fair value of its forward agreements
relating to hypothetical and reasonably possible near-term movements in the
company's stock price. If the company's stock price as of June 30, 2003 were to
decline by 10%, the fair value of these contracts, which were in a negative
position of $263 million at June 30, 2003 (based on a common stock price of
$26.00 at June 30, 2003), would further decline by approximately $31 million.
Interest rate and other risks
For a complete discussion, refer to the caption "Financial Instrument Market
Risk" in the company's 2002 Annual Report on Form 10-K. There have been no
significant changes from the information discussed therein.
27
Item 4. Controls and Procedures
The company carried out an evaluation, under the supervision and with the
participation of the company's Disclosure Committee and the company's
management, including the Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the company's disclosure controls and procedures (as
such term is defined in Rules 13a-15(e) or 15d-15(e) under the Securities
Exchange Act of 1934, as amended (the "Exchange Act")) as of the end of the
quarterly period covered by this report. The company's disclosure controls and
procedures are designed to ensure that information required to be disclosed by
the company in the reports it files or submits under the Exchange Act is
recorded, processed, summarized and reported on a timely basis. Based on that
evaluation, the Chief Executive Officer and Chief Financial Officer concluded
that the company's disclosure controls and procedures are effective in alerting
them in a timely fashion to material information relating to Baxter required to
be included in the reports that the company files under the Exchange Act. There
has been no change in Baxter's internal control over financial reporting that
occurred during the most recent fiscal quarter that has materially affected, or
is reasonably likely to materially affect, Baxter's internal control over
financial reporting.
28
Review by Independent Auditors
- ------------------------------
Reviews of the interim condensed consolidated financial information included in
this Quarterly Report on Form 10-Q for the three and six months ended June 30,
2003 and 2002 have been performed by PricewaterhouseCoopers LLP, the company's
independent accountants. Their report on the interim condensed consolidated
financial information follows. 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.
29
Report of Independent Auditors
------------------------------
To the Board of Directors and Stockholders of
Baxter International Inc.:
We have reviewed the accompanying condensed consolidated balance sheet of Baxter
International Inc. and its subsidiaries as of June 30, 2003, and the related
condensed consolidated statements of income for each of the three- and six
- -month periods ended June 30, 2003 and 2002 and the condensed consolidated
statements of cash flows for the six-month periods ended June 30, 2003 and 2002.
These interim financial statements are 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 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 condensed consolidated interim financial statements
for them to be in conformity with accounting principles generally accepted in
the United States of America.
We previously audited, in accordance with auditing standards generally accepted
in the United States of America, the consolidated balance sheet as of December
31, 2002 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 14, 2003 we expressed an unqualified opinion on those
consolidated financial statements. In our opinion, the information set forth in
the accompanying condensed consolidated balance sheet as of December 31, 2002,
is fairly stated in all material respects in relation to the consolidated
balance sheet from which it has been derived.
/s/ PricewaterhouseCoopersLLP
PricewaterhouseCoopers LLP
Chicago, Illinois
August 6, 2003
30
PART II. OTHER INFORMATION
Baxter International Inc. and Subsidiaries
Item 1. Legal Proceedings.
Baxter International Inc. (Baxter International) 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, 2002 and below, and material
developments for the quarter ended June 30, 2003 are described below. These
cases and claims raise difficult and complex factual and legal issues and are
subject to many uncertainties and complexities, including, but not limited to,
the facts and circumstances of each particular case and claim, the jurisdiction
in which each suit is brought, and differences in applicable law. Baxter has
established reserves in accordance with generally accepted accounting principles
for certain of the matters discussed below. For these matters, there is a
possibility that resolution of the matters could result in an additional loss in
excess of presently established reserves. Also, there is a possibility that
resolution of certain of the company's legal contingencies for which there is no
reserve could result in a loss. Management is not able to estimate the amount of
such loss or additional loss (or range of loss or additional loss). However,
management believes that, 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, 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, Baxter
International, 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 previously manufactured by the Heyer-Schulte division of
American Hospital Supply Corporation (AHSC). AHSC, which was acquired by Baxter
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. In December 1998, a panel of
independent medical experts appointed by a federal judge announced its 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 June 30, 2003, Baxter International, together with certain of its
subsidiaries, was named as a defendant or co-defendant in 123 lawsuits relating
to mammary implants, brought by approximately 271 plaintiffs, of which 224 are
implant plaintiffs and the remainder are consortium or second generation
plaintiffs. Of those plaintiffs, ten currently are included in the Lindsey class
action Revised Settlement described below, which accounts for approximately nine
of the pending lawsuits against the company. Additionally, 138 plaintiffs have
opted out of the Revised Settlement (representing approximately 81 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
31
plaintiffs will have viable claims against the company. As of June 30, 2003, 72
of the opt-out plaintiffs had confirmed Heyer-Schulte mammary implant product
identification. Furthermore, during the second quarter of 2003, Baxter obtained
dismissals, or agreements for dismissals, with respect to eight plaintiffs.
In addition to the individual suits against the company, a class action on
behalf of all women with silicone mammary implants was filed on March 23, 1994
and 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, 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
three other purported class actions in various state and provincial courts, only
one of which is certified.
On March 31, 2000, the United States Department of Justice filed an action in
the federal district court in Birmingham, Alabama against Baxter and other
manufacturers of breast implants, as well as the escrow agent for the revised
settlement fund, seeking reimbursement under various federal statutes for
medical care provided to various women with mammary implants. On September 26,
2001 the district court granted the motion of all defendants, including Baxter,
to dismiss the action. The federal government has appealed the dismissal.
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 June 30, 2003, Baxter was named in 23 lawsuits and 74 claims in the United
States, Ireland, Italy, Japan, France and Spain. The U.S.D.C. for the Northern
District of Illinois has approved a settlement of all U.S. federal court factor
concentrate cases. As of June 30, 2003, approximately 6,241 claimant groups had
been found eligible to participate in the settlement. Approximately 6,239 of the
claimant groups had received payments as of June 30, 2003.
In Japan, Baxter is a defendant, along with the Japanese government and other
co-defendants, in factor concentrates cases in Osaka, Tokyo, Nagoya, Tohoku,
Fukuoka, Sapporo and Kumamoto. As of June 30, 2003, the cases involved 1,365
plaintiffs, of whom 1,354 have settled their claims.
In addition, Immuno International AG (Immuno), acquired by Baxter in 1996, 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
32
related to these claims will be covered by insurance, subject to exclusions,
conditions, policy limits and other factors. Pursuant to the stock purchase
agreement between the company and Immuno, as revised in April 1999,
approximately 26 million Swiss Francs, which is the equivalent of approximately
$19,262,000 based on the exchange rate as of June 30, 2003, of the purchase
price is being withheld to cover these contingent liabilities.
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 immuno-globulin), all
of whom are seeking damages for Hepatitis C infections allegedly caused by
infusing Gammagard (R) IVIG. As of June 30, 2003, Baxter was a defendant in
eleven lawsuits and 24 claims in the United States, France, Germany, Italy,
Spain and the United Kingdom. One class action in the United States has been
certified. In September 2000, the U.S.D.C. for the Central District of
California approved a settlement of the class action that would provide
financial compensation for U.S. individuals who used Gammagard (R) IVIG between
January 1993 and February 1994.
Other
Baxter International has received a request from the Midwest Regional Office of
the Securities and Exchange Commission for the voluntary production of
documents and information concerning the recent revisions to the company's
growth and earnings forecasts for 2003. The company is cooperating fully with
the SEC in this matter.
In April 2003, A. Nattermann & Cie GmbH and Aventis Behring L.L.C. filed a
patent infringement lawsuit in the U.S.D.C. for the District of Delaware naming
Baxter Healthcare Corporation as the defendant. The complaint, which seeks
injunctive relief, alleges that, after FDA approval, Baxter's planned
manufacture and sale of ADVATE, Baxter's new plasma and albumin-free recombinant
Factor VIII therapy, will infringe United States Patent No. 5,565,427. Baxter
believes that this lawsuit is without merit and intends to defend itself
vigorously.
In August 2002, six purported class action lawsuits were filed in the U.S.D.C.
for the Northern District of Illinois naming Baxter International and its Chief
Executive Officer and Chief Financial Officer as defendants. These lawsuits,
which were consolidated and sought recovery of unspecified damages, alleged that
the defendants violated the federal securities laws by making misleading
statements that allegedly caused Baxter International common stock to trade at
inflated levels. In December 2002, plaintiffs filed their consolidated amended
class action complaint which named nine additional Baxter officers as
defendants. On July 17, 2003, the U.S.D.C. for the Northern District of Illinois
dismissed in its entirety the consolidated amended class action complaint. In
October 2002, Baxter International and members of its Board of Directors were
named as defendants in a lawsuit filed in the U.S.D.C. for the Northern District
of Illinois by an alleged participant in the Baxter Incentive Investment Plan
(Plan), purportedly on behalf of the Plan and a class of Plan participants who
purchased shares of Baxter International common stock. This lawsuit set forth
claims for unspecified damages under the Employee Retirement Income Security Act
of 1974, as amended, and was based on allegations similar to those made in the
securities lawsuits described above. In May 2003, this case was dismissed by the
U.S.D.C. for the Northern District of Illinois.
As of June 30, 2003, Baxter International and certain of its subsidiaries were
defendants in three civil lawsuits seeking unspecified damages on behalf of
persons who allegedly died or were injured as a result of exposure to Baxter's
Althane series dialyzers. The company has
33
reached settlements with a number of the families of patients who died in Spain,
Croatia and the United States after undergoing hemodialysis on Baxter Althane
series dialyzers. The U.S. Government is investigating the matter and Baxter has
received a subpoena to provide documents. The government criminal investigations
in Spain and Croatia have been closed without the initiation of any criminal
action against the company. Other lawsuits and claims may be filed in the United
States and elsewhere.
As of June 30, 2003, Baxter International and certain of its subsidiaries have
been named as defendants, along with others, in thirteen lawsuits brought in
various state and U.S. federal courts on behalf of various classes of purchasers
of Medicare and Medicaid eligible drugs alleged to have been injured by Baxter
and other defendants as a result of pricing practices for such drugs, which are
alleged to be artificially inflated. All of these cases have been transferred to
the U.S.D.C. for the District of Massachusetts for consolidated pretrial case
management under Multi District Litigation rules. Claimants seek unspecified
damages and declaratory and injunctive relief under various state and/or federal
statutes. In May 2003, the U.S.D.C. for the District of Massachusetts granted in
part defendants' motion to dismiss the consolidated amended complaint.
Plaintiffs have filed an amended master consolidated class action complaint. In
addition, in January 2002, the Attorney General of Nevada filed a civil suit in
the Second Judicial District Court of Washoe County, Nevada. In February 2002,
the Attorney General of Montana filed a civil suit in the First Judicial
District Court of Lewis and Clark County, Montana. These two lawsuits, which
each name a subsidiary of Baxter International as a defendant and seek
unspecified damages, injunctive relief, civil penalties, disgorgement,
forfeiture and restitution, allege that prices for Medicare and Medicaid
eligible drugs were artificially inflated in violation of various state laws. In
June 2003, the U.S.D.C. for the District of Massachusetts remanded the Nevada
case to Washoe County, Nevada and denied plaintiffs' motion to remand the
Montana case. Various state and federal agencies are conducting civil
investigations into the marketing and pricing practices of Baxter and others
with respect to Medicare and Medicaid reimbursement.
As of June 30, 2003, Baxter International and certain of its subsidiaries have
been served as defendants, along with others, in 117 lawsuits filed in various
state and U.S. federal courts, eight of which are purported class actions,
seeking damages, injunctive relief and medical monitoring for claimants alleged
to have contracted autism or other attention deficit disorders as a result of
exposure to vaccines for childhood diseases containing Thimerosal. In the fourth
quarter of 2002, the U.S.D.C. for the Southern District of Mississippi dismissed
with prejudice three suits and the U.S.D.C. for the Southern District of New
York dismissed with prejudice one suit brought against Baxter and others based
on the application of the National Vaccine Injury Compensation Act. Additional
Thimerosal cases may be filed in the future against Baxter and other companies
that marketed Thimerosal-containing products.
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 June 30, 2003, the company was named as a defendant in 211
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.
34
In addition to the cases discussed above, Baxter is a defendant in a number of
other claims, investigations and lawsuits. Based on the advice of counsel,
management does not believe that, individually or in the aggregate, these other
claims, investigations and lawsuits will have a material adverse effect on the
company's results of operations, cash flows or consolidated financial position.
35
Item 4. Submission of Matters to a Vote of Security Holders
The company's annual meeting of stockholders was held on May 6, 2003, for the
purpose of electing directors, ratifying the appointment of
PricewaterhouseCoopers LLP as independent accountants, approving Baxter's 2003
Incentive Compensation Program, and voting on the stockholder proposal listed
below. Proxies for the meeting were solicited pursuant to Section 14(a) of the
Securities Exchange Act of 1934 and there was no solicitation in opposition to
management's solicitation. Each of management's nominees for directors, as
listed in the proxy statement, was elected with the number of votes set forth
below.
NAME IN FAVOR ABSTAINED/WITHHELD
- ------------------------------- ----------- ------------------
Walter E. Boomer 462,404,722 41,689,910
James R. Gavin III, M.D., Ph.D. 491,091,725 13,002,907
Kees J. Storm 490,636,652 13,457,980
The results of the other matters voted upon at the annual meeting are as
follows:
BROKER
PROPOSAL IN FAVOR AGAINST ABSTAINED NON-VOTES
- ------------------------------- ----------- ----------- ---------- ----------
The appointment of
PricewaterhouseCoopers LLP as
independent accountants for the
company in 2003 was approved. 442,451,417 57,588,901 4,054,314 -0-
Baxter's 2003 Incentive
Compensation Program was
approved. 359,371,988 139,628,976 5,093,668 -0-
The stockholder proposal
relating to cumulative voting
in the election of directors
was not approved. 158,746,314 221,919,738 53,047,630 70,380,950
36
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
On April 16, 2003, Baxter International Inc. filed a current report
on Form 8-K under Item 12 attaching a press release reporting its
financial results for the first quarter of 2003.
37
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: August 13, 2003 By: /s/ Brian P. Anderson
---------------------------------
Brian P. Anderson
Senior Vice President and Chief
Financial Officer
(Chief Accounting Officer)
38
EXHIBITS FILED WITH SECURITIES AND EXCHANGE COMMISSION
- --------------------------------------------------------------------------------
Number Description of Exhibit
- ------ ------------------------------------------------------------------------
10.8 Baxter International Inc. Non- Employee Director Stock Option Plan for
Annual Grant, as amended and restated effective May 6, 2003
10.31 Baxter International Inc. Non- Employee Director Compensation Plan
adopted May 6, 2003.
12 Computation of Ratio of Earnings to Fixed Charges
15 Letter Re Unaudited Interim Financial Information
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the
Sarbanes- Oxley Act of 2002
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of the
Sarbanes- Oxley Act of 2002
32.1 Certification of Chief Executive Officer Pursuant to 18 U.S.C. 1350
32.2 Certification of Chief Financial Officer Pursuant to 18 U.S.C. 1350
39