26 February 2010

KG: Income Statement Analysis for the December 2009 Quarter

King Pharmaceuticals, Inc. (NYSE: KG) earned $0.09 per share in the fourth quarter of 2009, which ended 31 December 2009.  In the year-earlier quarter, King lost $2.25 per share, in large part due to charges associated with the company's $1.6 billion acquisition of Alpharma.

Non-GAAP "adjusted" earnings fell from $0.29 to $0.23 per share.  A $41 million pretax charge for the amortization of intangible assets was the most substantial item excluded from the adjusted results in the December 2009 quarter.

This post examines King's Income Statement for the quarter and compares the entries on each line to our "look-ahead" estimates.  Our EPS target was $0.22 per share, which was $0.13 more than King actually reported.

The principal source for the income statement analysis was the earnings announcement.  We did not have access to a conference call transcript.

In a second article, we will report King's scores as measured by the GCFR financial gauges.  The follow-up post will also provide the latest figures for the various financial metrics we use to analyze Cash Management, Growth, Profitability and Value.

King Pharmaceuticals manufactures and sells various brand-name prescription pharmaceuticals and animal health products.  Additional background information about King and the business environment in which it is currently operating can be found in the look-ahead.

The Alpharma acquisition closed on 29 December 2008.  When comparing King's 2009 results to those in a previous year, it is important to realize that King's historical data has not been restated to incorporate Alpharma's pre-acquisition results.  For those willing to dig a little, some limited pro forma data is included in Note 7 of the financial statements in the 10-Q.

Please click here to see a full-sized, normalized depiction of the actual and projected results for the just-concluded quarter, as well as the quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.

Fourth-quarter Revenue of $439 million was 26.3 percent more than in the December 2008 period.  However, Revenue in the latest quarter was 5 percent less than in September 2009 quarter.  Because we had assumed sequential Revenue growth would continue, Revenue fell short (7 percent) of our $472 million estimate.

For the year, Revenue increased 13.5 percent, from $1.565 billion (without Alpharma) to $1.777 billion.

Sales of branded prescription pharmaceuticals totaled $277 million in the fourth quarter, unchanged from December 2008.  Lower sales of King's older pharmaceuticals were apparently balanced by sales from new products, such as EMBEDA™, and products developed by Alpharma, such as the Flector® Patch.

Sales of Skelaxin®, the company's biggest product, dropped 15 percent.  Sales of Thrombin-JMI® declined 23 percent.  Avinza sales were unchanged.

The Flector® Patch was responsible for $43 million of sales during the fourth quarter.

Animal Health products, which also came from Alpharma, contributed Revenue of $101 million, 23 percent of King's total Revenue.

The Cost of Goods Sold (CGS) -- Cost of Revenues on King's Income Statement, but not including "Acquisition related inventory step-up" costs -- was 34.4 percent of Revenue in the quarter, which translates into a Gross Margin of 65.6 percent. The Gross Margin was a more lucrative 73.1 percent in the December 2008 quarter.  The addition of lower-margin Animal Health products helped bring the margin down.

The Gross Margin for the quarter was 2.4 percentage points lower than our 68-percent target.

Depreciation, Intangible Amortization, and Accelerated Depreciation expenses of $55 million in the fourth quarter were up more than 80 percent.  Our estimate was $53 million.

Research and Development expenses, exclusive of milestone payments, dropped from $32 million to $27 million.  Our estimate was $23 million.

Sales, General, and Administrative (SG&A) expenses, including minor co-promotion fees, rose 40 percent, from $105 million to $147 million.  We expected $142 million.

King often records "special" non-recurring operating charges.  In fourth quarter of 2009, the charges were relatively small, only $7 million, for Asset impairments, "Acquisition related inventory step-up" costs and few other items.  The year-earlier quarter included acquisition-related charges totaling a massive $610 million.

The various operating items discussed above combined to produce Operating Income of $52 million, compared to a $522 million operating loss in the year-earlier quarter.  Our Operating Income target was nearly double the actual value.  Revenue was lower than we had anticipated, the Gross Margin was weaker, and many operating expenses were higher.

Net Non-Operating (primarily interest) expenses of $20 million were somewhat greater than the $18 million we had forecast.  The latest quarter included a $5 million investment loss.

The effective Income Tax Rate was 30.6 percent, significantly lower than our 37-percent target. 

At the bottom line, Net Income was $22 million ($0.09 per share).  In 2008's fourth quarter, King lost $548 million ($2.25 per share).  Reported earnings were much less than our $54 million ($0.22 per share) estimate.

Although King had many significant accomplishments during 2009, Revenue in the fourth quarter was less than that in either the second or third quarter.  Sales of important branded products were down substantially compared to the year-earlier period.  Many operating expenses were higher.

Full disclosure: Long KG at time of writing.

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