10-K 1 d363798d10k.htm FORM 10-K Form 10-K
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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

 

þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended June 30, 2012

or

 

¨ 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: 001-34273

 

LOGO

CareFusion Corporation

(Exact name of Registrant as specified in its charter)

 

Delaware    26-4123274

(State or other jurisdiction

of incorporation or organization)

  

(I.R.S. Employer

Identification No.)

3750 Torrey View Court

San Diego, CA 92130

(Address of principal executive offices, including zip code)

Telephone: (858) 617-2000

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

  

Name of Each Exchange on which Registered

Common Stock, par value $0.01 per share    New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:

None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  þ

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  þ

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  ¨    No  þ

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  þ    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer”, “accelerated filer”, and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

    Large accelerated filer  þ

      Accelerated filer  ¨   Non-accelerated filer  ¨   Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  þ

The aggregate market value of the voting common stock held by non-affiliates based on the closing stock price on December 31, 2011, was $5,698,884,999. For purposes of this computation only, all executive officers and directors have been deemed affiliates.

The number of outstanding shares of the registrant’s common stock, as of January 18, 2013 was 222,590,735.


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EXPLANATORY NOTE

In this Annual Report on Form 10-K for the fiscal year ended June 30, 2012, we are revising our consolidated and combined financial statements for the fiscal years ended June 30, 2011 and 2010, and our selected financial data for the fiscal years ended June 30, 2011, 2010, 2009, and 2008. These revisions are the result of the need to correct the manner in which we account for sales–type leases associated with our Pyxis medication and supply dispensing products, specifically the manner in which we estimate the fair value of leased assets as discussed below. We assessed the impact of these revisions and concluded that they were not material to any of our financial statements for the each of the three quarters within the nine months ended March 31, 2012, or fiscal years ended June 30, 2011, 2010, 2009, or 2008. As a result, we have not filed amendments to any of our previously filed Annual Reports on Form 10-K or Quarterly Reports on Form 10-Q. Although the effect of these revisions was not material to these previously issued financial statements, the cumulative effect of reflecting these revisions in the current year would have been material for the fiscal year ended June 30, 2012. Consequently, we have revised these historical financial results in this Annual Report on Form 10-K. Because these revisions are treated as corrections to our prior period financial results, the revisions are considered to be a restatement under generally accepted accounting principles (“GAAP”). Accordingly, the revised financial information included in this Annual Report on Form 10-K has been identified as “restated.”

On August 29, 2012, we announced the delayed filing of this Annual Report on Form 10-K to consult with the Office of the Chief Accountant (the “OCA”) of the Securities and Exchange Commission (the “SEC”) regarding our accounting for sales–type leases associated with our Pyxis medication and supply dispensing products. As a result of our discussions with the OCA, we concluded that a modification was necessary in order to properly apply lease accounting principles to our sales-type leases. This modification of our application of lease accounting principles resulted in a change in the manner in which we estimate the fair value of leased assets in accounting for our sales–type leases, which impacts how we record revenue associated with our sales-type leases. The primary impact of this change on our consolidated and combined financial statements for the fiscal years ended June 30, 2011 and 2010 was to increase our previously reported revenues on the consolidated and combined statements of income for the fiscal years ended June 30, 2011 and 2010 and decrease our previously reported net investment in sales-type leases on the consolidated and combined balance sheets as of June 30, 2011 and 2010. While the revisions had a minor impact on individual line items on the consolidated and combined statements of cash flows, they did not result in any material changes to previously reported net cash provided by operating activities for the fiscal years ended June 30, 2011 and 2010. Note 2 to the consolidated and combined financial statements included in this Annual Report on Form 10-K contains tabular disclosures that set forth certain of the restated financial information.

For more information regarding the impact on our financial results, refer to Part I, Item 1A, “Risk Factors,” Part II, Item 6, “Selected Financial Data,” and Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations”, and to our Consolidated and Combined Financial Statements included in Part II, Item 8, including Note 2, “Revision of Previously Issued Consolidated and Combined Financial Statements”, and Note 23, “Selected Quarterly Financial Data (Unaudited)”. In addition, as a result of the need to correct the manner in which we estimate fair value in accounting for sales–type leases associated with our Pyxis medication and supply dispensing products, we concluded that we had a material weakness in our internal control over financial reporting as of June 30, 2012. Information regarding the internal control deficiencies identified by management and management's efforts to remediate those deficiencies can be found in Part II, Item 9A, “Controls and Procedures.”


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TABLE OF CONTENTS

 

IMPORTANT INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

     ii   

PART I

     1   
 

ITEM 1. BUSINESS

     1   
 

ITEM 1A. RISK FACTORS

     13   
 

ITEM 1B. UNRESOLVED STAFF COMMENTS

     26   
 

ITEM 2. PROPERTIES

     26   
 

ITEM 3. LEGAL PROCEEDINGS

     27   
 

ITEM 4. MINE SAFETY DISCLOSURES

     27   

PART II

     28   
  ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES      28   
  ITEM 6. SELECTED FINANCIAL DATA      30   
  ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS      32   
  ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK      55   
  ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA      58   
  ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE      117   
  ITEM 9A. CONTROLS AND PROCEDURES      117   
  ITEM 9B. OTHER INFORMATION      120   

PART III

     121   
 

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

     121   
  ITEM 11. EXECUTIVE COMPENSATION      126   
  ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS      164   
  ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE      166   
  ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES      168   

PART IV

     170   
 

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

     170   
 

SCHEDULE II — VALUATION AND QUALIFYING ACCOUNTS

     176   

 

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Important Information Regarding Forward-Looking Statements

Portions of this Annual Report on Form 10-K (including information incorporated by reference) include “forward-looking statements” based on our current beliefs, expectations and projections regarding our business strategies, market potential, future financial performance, industry and other matters. This includes, in particular, “Item 7 — Management’s Discussion and Analysis of Financial Condition and Results of Operations” of this Annual Report on Form 10-K as well as other portions of this Annual Report on Form 10-K. The words “believe,” “expect,” “anticipate,” “project,” “could,” “would,” and similar expressions, among others, generally identify “forward-looking statements”, which speak only as of the date the statements were made. The matters discussed in these forward-looking statements are subject to risks, uncertainties and other factors that could cause actual results to differ materially from those projected, anticipated, or implied in the forward-looking statements. The most significant of these risks, uncertainties and other factors are described in “Item 1A — Risk Factors” of this Annual Report on Form 10-K. Except to the limited extent required by applicable law, we undertake no obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

 

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PART I

 

ITEM 1. BUSINESS

Overview

We are a global medical technology company with proven and industry-leading products and services designed to measurably improve the safety, quality, efficiency and cost of healthcare. Our offerings include established brands used in hospitals throughout the United States and more than 130 countries worldwide.

We offer comprehensive product lines in the areas of medication management, infection prevention, operating room (“OR”) effectiveness, respiratory care and surveillance and analytics. Our primary product brands include:

 

   

Alaris intravenous (“IV”) infusion systems;

   

Pyxis automated medication dispensing and supply management systems;

   

AVEA, Vela and LTV Series respiratory ventilators;

   

ChloraPrep skin antiseptic products;

   

MaxGuard, MaxPlus and SmartSite needle-free IV infusion disposable sets and accessories;

   

V. Mueller and Snowden-Pencer open surgical and laparoscopic instrumentation;

   

AirLife nebulizers, ventilator circuits and other disposables used for providing respiratory therapy;

   

Jaeger and SensorMedics cardiopulmonary diagnostic equipment; and

   

MedMined software and surveillance services.

For the fiscal years ended June 30, 2012 and 2011, we generated revenue of $3.6 billion and $3.4 billion respectively, and income from continuing operations of $361 million and $299 million, respectively. Approximately 22% of our fiscal year 2012 revenue was from customers outside of the United States.

Separation from Cardinal Health

We were incorporated in Delaware on January 14, 2009 for the purpose of holding Cardinal Health, Inc.’s clinical and medical products businesses in anticipation of the spinoff from Cardinal Health. We completed the spinoff from Cardinal Health on August 31, 2009. In connection with the spinoff, Cardinal Health contributed the majority of the businesses comprising its clinical and medical products segment to us, and distributed approximately 81% of our outstanding common stock, or approximately 179.8 million shares, to its shareholders, based on a distribution ratio of 0.5 shares of our common stock for each common share of Cardinal Health held on the record date of August 25, 2009. Cardinal Health retained approximately 19% of our outstanding common stock, or approximately 41.4 million shares, in connection with the spinoff. As of September 15, 2010, Cardinal Health had sold all remaining shares of our common stock retained in connection with the spinoff.

Our Strengths

We possess a number of competitive advantages that distinguish us from our competitors, including:

Scale and focus.    We are one of the largest medical technology companies in the world, with long-standing customer relationships, a global presence, and a focus on helping clinicians improve patient safety and reduce overall treatment costs. Mitigating the impact of medical errors and healthcare associated infections (“HAIs”) on patient safety and treatment costs is among the top priorities for hospitals, regulators and payers in the United States and increasingly, worldwide. At the same time, hospitals and healthcare facilities are seeking to improve efficiencies and reduce costs through increased workforce productivity and better medication and supply chain management. We believe that our products and services are well-positioned to help hospitals and healthcare facilities address these global priorities.

 

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Technology leadership and innovation.    We have a long history of innovation and developing products and services that enable our customers to deliver safer and more cost-effective patient care. We pioneered the concept of a “smart” infusion pump that alerts the clinician when a parameter is outside the institution’s pre-established limitations for that medication. We created the market for medication dispensing machines that automate the management of medications from the pharmacy to the nursing unit. We were the first to integrate automated supply dispensing systems with clinical information systems that enable clinicians to chart, charge and reorder supplies. We have integrated our products with numerous other information systems within the hospital, including financial and business systems that support patient admissions, discharges and transfers, operational systems that include inventory management and clinical systems that include pharmacy information and electronic medical records. We believe that our strong heritage of technology leadership and innovation provides us with a solid foundation for the continued development of safe and cost-effective products and services that will enable us to continue to grow our revenue.

Industry expertise.    We employ a wide range of experienced clinical professionals, including doctors, nurses and pharmacists, who have a detailed understanding of how providers use our products and the current state of clinical practice, including best practices for medication management, infection prevention and respiratory care. These experts enable us to develop innovative and industry-leading products and services because of their in-depth understanding of the medical and clinical protocols for our products.

Focus on customer service.    As of June 30, 2012, we employed more than 700 sales people in the United States and over 1,600 field, clinical, and technical service personnel. We work with our customers to optimize their workflow as we meet their equipment needs, allowing them to deliver high levels of patient care and reduce operating costs. We also provide on-site clinical and technical support, product effectiveness tracking and customer training to provide the support necessary to help drive medication safety.

Strategy

We seek to grow our business by, among other things:

Focusing on healthcare safety and productivity.    Productivity and safety are rapidly becoming the standards by which healthcare providers are measured and compensated. We intend to continue to expand our product portfolio with additional and enhanced products that address global priorities of quality, patient safety, and cost efficiency in the areas of medication management, infection prevention, OR effectiveness, respiratory care, and surveillance and analytics.

Focusing on innovative and proven products.    With hospitals and other healthcare providers increasingly adopting outcome-based standards as a key part of their decision-making processes, we intend to offer additional and enhanced products that demonstrate clinical differentiation and compelling economic benefits. We intend to increase our investment in research and development to bring to market products that make it easy for providers to follow evidence-based protocols in patient care. We have new and enhanced products at various stages of development in our innovation pipeline, including a number of products that are expected to be launched in the next few years.

Accelerating global growth.    Our industry-leading positions in the United States markets in which we currently operate provide us with a platform for accelerated growth globally. Because our products and technologies have similar applications around the world, we are focused on expanding our operations in select developed and emerging markets outside the United States. We are investing in expanding our research and development capabilities to better tailor our products and technologies to the needs of international markets with practices different than the United States.

Pursuing strategic opportunities.    We intend to continue to explore organic growth, strategic alliances and acquisition opportunities that enable us to address our customers’ key concerns and global healthcare priorities.

 

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We intend to selectively pursue strategic opportunities that give us access to innovative technologies, complementary product lines or new markets, yet remain consistent with our focus on healthcare safety and productivity. Our business strategy also involves assessing our portfolio of businesses with a view of divesting non-core businesses and product lines that do not align with our objectives.

Acquisitions and Divestitures

Acquisitions have historically played a role in our growth, and we have made several significant acquisitions in the last five years. Our business was formed principally through a series of acquisitions by Cardinal Health of established healthcare companies, including the acquisition in 2007 of VIASYS Healthcare Inc. (“Viasys”), a developer of respiratory care systems, and the acquisition in 2008 of the assets of Enturia, Inc. (“Enturia”), a manufacturer of skin-antiseptic products. Since our separation from Cardinal Health, we have taken steps to expand and refine our product offerings, including through the acquisitions and divestitures described below.

Acquisitions:

 

Date    Business

May 2010

   Medegen, a manufacturer of clinically differentiated IV needleless access valves and administration sets, including our MaxGuard and MaxPlus products

April 2011

   Vestara, a developer of technology solutions that enable the safe, efficient disposal and tracking of environmentally sensitive pharmaceutical waste

August 2011

   Rowa, a German based company specializing in robotic medication storage and retrieval systems for retail and hospital pharmacies

April 2012

   PHACTS, a technology and consulting company that helps hospital pharmacies better manage inventory, reduce pharmaceutical costs, and streamline operations

June 2012

   UK Medical Holdings, a leading distributor of specialized medical products to the National Health Service and private healthcare sector in the United Kingdom

November 2012

   Intermed, a leading respiratory technologies company based in Brazil

Divestitures:

 

Date    Business

October 2009

   Audiology, a manufacturer and marketer of hearing diagnostic equipment

May 2010

   Research Services, a clinical trial service provider to pharmaceutical firms

March 2011

   OnSite Services, a surgical instrument management and repair service provider

April 2011

   International Surgical Products, a distributor of medical supplies and surgical products outside the United States

July 2012

   Nicolet, a manufacturer of neurodiagnostic monitoring equipment

The results of our Audiology business, our International Surgical Products business, and our Nicolet business are reflected in discontinued operations in the financial information included throughout this Annual Report on Form 10-K.

Business Segments

Leading up to our spinoff from Cardinal Health, we organized our businesses into two reportable segments: Critical Care Technologies and Medical Technologies and Services. During the quarter ended September 30, 2011, we realigned our businesses into two new global operating and reporting segments, Medical Systems and Procedural Solutions, in order to reduce complexity, provide clearer governance for our investments and make it easier for our customers to do business with us. Our historical financial information for periods prior to September 30, 2011 has been reclassified to reflect the re-segmentation into these new operating and reportable segments. See note 19 to the audited consolidated financial statements for certain segment financial data relating to our business.

 

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The following business discussion is based on our two segments as they were structured for fiscal year 2012.

Medical Systems Segment

The Medical Systems segment is organized around our medical equipment businesses. In our Medical Systems segment, we develop, manufacture and market capital equipment and related supplies for medication management, which includes our infusion and medication dispensing technologies, supply dispensing technologies and respiratory technologies. Our products are designed to enable healthcare professionals to improve patient safety by reducing medication errors and improving administrative controls, while simultaneously improving workflow and increasing operational efficiency. We sell these products primarily through our direct sales force, but use third-party distributors as well, particularly outside the United States. Many of our products in this segment are integrated with other information systems within the hospital, including financial and business systems that support patient admissions, discharges and transfers, operational systems that include inventory management and clinical systems that include pharmacy information and electronic medical records.

We offer comprehensive value-added services and programs, software technical services and clinical education which are designed to enhance our customers’ utilization of our medical equipment products. Our project management, field service organization and customer call centers support our customers before, during and after product installation. Our project management teams assist customers with the development of project implementation plans which are designed to ensure rapid, seamless implementation of our products. Our field service organization provides on-site expertise to resolve customers’ service issues. Our customer call centers provide additional support to our customers. We also maintain a remote access system to help us quickly diagnose and rapidly resolve customers’ service issues.

The following chart presents the Medical Systems segment’s key business units and product lines:

 

Business Unit    Product Lines

Infusion Systems

   IV medication safety and infusion therapy delivery systems, including dedicated disposables, software applications and related patient monitoring equipment (sold primarily under the Alaris brand)

Dispensing Technologies

   Automated dispensing machines and related applications for distributing and managing medication and medical supplies (sold primarily under the Pyxis and Rowa brands)

Respiratory Technologies

   Respiratory ventilation equipment and dedicated circuits used during respiratory therapy (sold primarily under the AVEA, Vela, and LTV Series brands)

In addition, our Medical Systems segment includes our MedMined business, which develops data mining surveillance software to help hospitals identify adverse drug events and HAIs.

Infusion Systems

We are a leader in the design, development and marketing of IV infusion systems that deliver medications and other fluids directly into a patient’s veins in precise, measured quantities over a wide range of infusion rates. We have the largest installed base of large volume infusion pumps (a key component of the infusion system) in the United States. We sell infusion products primarily to hospitals, ambulatory surgical centers and transport services.

Our Alaris System, sold primarily in the United States, is a sophisticated smart pump system that enables simultaneous IV medication and fluid administration from multiple infusion delivery modules, such as syringe pumps, large volume pumps, and patient controlled analgesia pumps, while at the same time monitoring vital signs such as respiratory activity and blood oxygen levels. The Alaris System utilizes our proprietary Guardrails software application that alerts a clinician when an infusion parameter is outside the institution’s pre-established

 

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limitations (known as a “data set”) for that medication, thereby helping hospitals reduce IV medication administration errors. Using a centralized server, data sets and continuous quality improvement (“CQI”) data from the Alaris System can be managed wirelessly. CQI data is then evaluated by clinicians and used to determine best practices and refine the data sets. In addition, data from the Alaris System may be transmitted to other hospital information systems, including electronic medication administration records, pharmacy information systems, alarms, management applications and documentation systems.

In North America, each of our current large volume infusion pumps uses only dedicated disposable administration sets designed and manufactured by or for us for that particular pump. Accordingly, when we sell a large volume infusion pump to a customer, the sale results in a long-term revenue stream associated with the dedicated disposables. It also establishes a long-term relationship with the customer that we believe provides an opportunity to sell additional products and services, including our clinically differentiated non-dedicated IV sets and accessories, which comprise part of our infection prevention business unit of our Procedural Solutions segment.

The international infusion systems market is more regionalized and fragmented than the United States market, and in many cases have different clinical practices than in the United States. We have developed infusion products tailored to meet the different needs of certain of these markets. As regions become more aware of the importance of patient safety, we expect the demand for more sophisticated products, like the Alaris System, will increase as it has in the United States. Our infusion systems have an established presence in countries with a focus on patient safety, such as the United Kingdom and Australia.

Dispensing Technologies

We are the leading provider of point-of-care systems that automate the dispensing of medications and supplies in hospitals and other healthcare facilities in the United States. We sell our dispensing products primarily to hospitals and other healthcare facilities including oncology clinics, ambulatory surgical centers, long-term care facilities and physician offices.

Internationally, standards for clinical and pharmacy practice, the prevalence of clinical information systems and regulatory and reimbursement policies tend to vary by country and region. For that reason, the international market for our current medication and supply dispensing products is in an early stage of development and one which we consider a long-term growth opportunity. In August 2011, we acquired Rowa, a German based company whose robotic medication storage and retrieval systems are designed to address elements of pharmacy operations requirements which are common outside of the United States.

The complexity of the medication dispensing process is a significant contributor to hospital inefficiencies. In 1989, we championed the concept of decentralized medication management — where medications are securely maintained and accessed at the nurse’s unit — and became the first to introduce automated dispensing products to the market. Our dispensing technologies products are designed to help healthcare professionals reduce medication errors, enhance administrative controls, improve clinician workflow, increase operational efficiency and improve billing accuracy. In addition, our products enable healthcare professionals to provide safer patient care by helping to ensure that the right medications are delivered in the right doses via the right routes to the right patients at the right times.

Our Pyxis medication management products automate the management of medications from the pharmacy to the nursing unit and integrate with other operational and information systems within the hospital. Other Pyxis products that are focused on medication management include the Pyxis Anesthesia System for medication dispensing in the OR, the Pyxis Connect physician order management system which streamlines the physician order process, decreases order turnaround time and reduces transcription errors, and the Pyxis EcoStation system, which can help hospitals identify, classify and segregate pharmaceutical waste and facilitate tracking and regulatory control reporting requirements. Our product offering also includes PHACTS pharmacy inventory

 

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management software which helps hospital pharmacies better manage inventory, reduce pharmaceutical costs, and streamline operations. In addition, we have other product offerings that are designed to help secure, track and replenish supplies of controlled substances and help ensure the accuracy of medication orders filled in the pharmacy and delivered to the Pyxis MedStation system.

In addition to medication dispensing, we also offer a comprehensive portfolio of medical supply management systems at the point of use, including the Pyxis SupplyStation system and the Pyxis ProcedureStation system, which are supply dispensing systems with controlled access and radio-frequency features that deliver custom solutions tailored to meet the needs of each customer. We also offer wireless handheld technology that supports both our infusion and dispensing businesses. Our positive patient identification applications for bedside verification are critical enablers of our integrated medication management and patient safety capabilities. We believe these technologies can also help healthcare providers improve patient charting and review.

To help provide financial flexibility to our customers, we offer them the opportunity to lease our dispensing products. We provide the financing for the majority of our customers under our leasing program rather than relying on third-party providers of credit.

Respiratory Technologies

We develop, manufacture, market and service mechanical ventilators and associated proprietary consumables for patients with respiratory disorders. Patients with a need for respiratory support are among the highest cost, highest risk, largest and fastest-growing hospital populations. We offer an extensive line of industry-leading mechanical ventilators marketed globally that treat respiratory insufficiency. These products are used in a variety of settings, from intensive care units to transport and homecare. Our respiratory care products are sold worldwide to a variety of customers including hospitals, sub-acute care facilities, homecare and transport providers.

Our AVEA ventilator system is a versatile neonatal, pediatric and adult critical care ventilator used in providing respiratory therapy in acute care settings. Our VELA ventilator offers a comprehensive range of modalities for pediatric and adult patients requiring either invasive or non-invasive ventilator support in both acute and alternate care settings. Our LTV Series ventilators provide portable invasive and non-invasive ventilation, and are used worldwide in a variety of care settings. Based on their compact size and versatility, LTV Series ventilators are used in critical care, emergency departments, long term care and home care, as well as emergency transport and military applications. Several of our ventilator systems, including the LTV Series ventilators, use only dedicated disposable ventilator circuits in the provision of respiratory therapy. Accordingly, when we sell an LTV Series ventilator, the sale results in a long-term revenue stream associated with the dedicated disposables.

We also manufacture and market specialty ventilators such as High Frequency Oscillatory Ventilators (“HFOV”) and SiPAP. Our HFOVs are designed to provide superior pulmonary gas exchange, while protecting the patient’s lungs from damage that may be caused by the cyclic expansion and contraction characteristic of conventional mechanical ventilation. Our HFOV products are primarily used to treat children and premature infants who suffer from acute respiratory failure and adults who suffer from acute lung injury. SiPAP is a unique form of non-invasive support for infants, which has been shown to lower work of breathing and reduce the need for more costly invasive forms of support.

Our customers face increasing pressure to manage costs and outcomes. To meet these challenges, we developed an innovative “system” approach to respiratory care by leveraging the experience gained by our infusion and dispensing businesses related to medical device interoperability. We now offer the CareFusion Ventilation System, which enables customers to access actionable information to support respiratory care and help them to improve clinical and operational outcomes. This system approach also enables a new level of interoperability with hospital electronic medical record applications. The system includes a handheld, positive patient ID application that automates the collection of ventilator documentation data at the point of care and wirelessly transmits it to the hospital electronic medical record system.

 

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Procedural Solutions Segment

The Procedural Solutions segment is organized around our disposable products and reusable surgical instruments businesses. In our Procedural Solutions segment, we develop, manufacture and market single-use skin antiseptic and other patient-preparation products, non-dedicated IV infusion administration sets and accessories, reusable surgical instruments and non-dedicated ventilator circuits and other disposables used for providing respiratory therapy. The majority of products in this segment are used in the operating room, interventional suites, and in the critical care departments of hospitals. We sell these products and services through a combination of direct sales representatives and third-party distributors.

The following chart presents the Procedural Solutions segment’s key business units and product lines:

 

Business Unit      Product Lines

Infection Prevention

     Single-use skin antiseptic (sold under the ChloraPrep brand) and other patient-preparation, hair-removal and skin-care products and non-dedicated disposable IV infusion administration sets and accessories (sold under the MaxPlus, MaxGuard and SmartSite brands)

Medical Specialties

     Surgical instruments (sold under the V. Mueller and Snowden-Pencer brands), interventional specialty products, such as diagnostic trays and biopsy needles, drainage catheters and vertebral augmentation products

Specialty Disposables

     Non-dedicated disposable ventilator circuits and oxygen masks used for providing respiratory therapy (sold under the AirLife brand)

In addition, our Procedural Solutions segment includes our respiratory diagnostics product line, which includes pulmonary function testing equipment, metabolic and stress testing equipment, spirometers and other equipment sold under our Jaeger, SensorMedics and other brands.

Infection Prevention

Our Infection Prevention business unit consists mainly of single-use medical products used in surgical and vascular access procedures, including skin preparation products and disposable IV infusion administration sets and accessories.

Our key skin preparation product is our line of ChloraPrep sterile single-use applicators, which are used by hospitals and surgery centers as a skin antiseptic before surgical procedures or before injections. ChloraPrep products use a 2.0% concentration of the skin antiseptic chlorhexidine gluconate (“CHG”) with 70% isopropyl alcohol. Numerous clinical studies have demonstrated the advantage of CHG as compared to traditional iodine-based products. As a result, more than a dozen internationally recognized agencies and organizations, including the CDC, the Institute for Healthcare Improvement, the National Institutes of Health, the American Association of Critical Care Nurses and the American Academy of Pediatrics support the use of CHG-based formulations for patient skin preparation.

In addition to ChloraPrep products, we also manufacture, distribute and market a broad line of patient-preparation, hair-removal and skin-care products, including clippers and razors, special soaps, sponges and scrub brushes for surgeons and other operating room personnel. While our direct selling organization primarily promotes these products to acute care hospitals, our products are also used in ambulatory surgical centers and other healthcare settings such as home health and reference labs.

We have sales representatives or commissioned agents outside the United States. We currently have regulatory approval to sell ChloraPrep products in the United Kingdom, and over a dozen countries in Europe, and over time our intention is to use our sales organization outside the United States to bring ChloraPrep products to additional international markets.

 

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Our Infection Prevention business unit also includes a full range of non-dedicated disposable IV infusion administration sets and accessories, many of which feature our proprietary SmartSite, MaxPlus and MaxGuard brand needle-free valves. Our clinically differentiated IV needle-free access valves and administration sets, sold under the MaxPlus and MaxGuard brands, include antimicrobial and other technologies.

Medical Specialties

Our Medical Specialties business unit consists mainly of specialty medical devices used in delivering interventional care and reusable surgical instrumentation products.

We develop, manufacture, and distribute a variety of reusable stainless steel open surgical instruments and minimally invasive laparoscopic instruments, including our V. Mueller and Snowden-Pencer brands. We offer over 25,000 unique surgical instruments, as well as surgical instrument information tracking systems and surgical instrument sterilization container systems. Key products include clamps, needle holders, retractors, specialty scissors and forceps. Our V. Mueller products are sold predominantly in the United States directly to hospitals through a direct selling organization.

We also develop and manufacture a variety of medical devices used primarily by interventional radiologists and surgeons in combination with certain image guidance technologies (for example, x-ray, computed tomography and ultrasound). We offer an extensive line of products that support interventional medicine for a variety of clinical disciplines in body and spine interventions. Our products include diagnostic trays, bone marrow and soft tissue biopsy needles, drainage catheters and vertebral augmentation products. These products are sold predominantly in the United States directly to hospitals.

Specialty Disposables

Our Specialty Disposables business unit focuses on providing clinicians with respiratory consumable products that work either independently or in conjunction with our range of ventilators. These products, sold primarily under our AirLife brand, include ventilator circuits and other non-dedicated disposables used for providing respiratory therapy.

We also serve as a distributor for a variety of products sourced from manufacturers, including humidifiers, nebulizers, oxygen masks, cannulae, suction catheters and other products used for providing respiratory therapy. Additionally, our Specialty Disposables business unit provides contract manufacturing services.

Competition

The markets for our products are highly competitive. Although no one company competes with us across the breadth of our offerings, we face significant competition in each of our business units from domestic and international companies. Our primary competitors in our Medical Systems segment include Baxter International; B. Braun; Fresenius Kabi; Hospira; Omnicell; McKesson; Dräger; and MAQUET. Our primary competitors in our Procedural Solutions segment include 3M; ICU Medical; Becton, Dickinson; Baxter International; B. Braun; Hospira; Smiths Medical; CR Bard; Integra Life Sciences; and Teleflex.

We compete based upon quality and reliability, technological innovation, price, customer service and support capabilities, brand recognition, patents and other intellectual property and the value proposition of helping hospitals improve patient care, while reducing overall costs associated with patient safety. We believe our product quality and brand strength give us a competitive advantage. We expect to continue to use our clinical expertise to offer innovative, industry-leading products and services for our customers.

Customers, Sales and Distribution

Sales to customers in the United States accounted for approximately 78% of our fiscal year 2012 revenue. Our primary end customers in the United States include hospitals, ambulatory surgical centers, clinics, long-term care

 

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facilities and physician offices. A substantial portion of our products in the United States are sold to hospitals that are members of a group purchasing organization (“GPO”), integrated delivery networks (“IDNs”), and through wholesalers and distributors. Included within our product sales to wholesalers and distributors are product sales to Cardinal Health, with whom we have a non-exclusive distribution relationship following the spinoff. We have purchasing agreements for specified products with a wide range of GPOs in the United States. The scope of products included in these agreements varies by GPO.

Sales to customers outside the United States comprised approximately 22% of our fiscal year 2012 revenue, including sales to customers in over 130 countries. Our primary customers in markets outside the United States are hospitals and wholesalers, which are served through a direct sales force and commissioned agents, with a presence in more than 15 countries, and a network of distributors.

Our capital equipment products generally are delivered from our manufacturing facilities directly to the customer. Our disposables and other non-capital equipment products generally are delivered from our manufacturing facilities and from third-party manufacturers to warehouses and from there, the products are delivered to the customer. We contract with a wide range of transport providers to deliver our products by road, rail, sea and air.

Intellectual Property

Patents, trademarks and other proprietary rights are very important to our business. We also rely upon trade secrets, manufacturing know-how, continuing technological innovations and licensing opportunities to maintain and improve our competitive position. We review third-party proprietary rights, including patents and patent applications, as available, in an effort to develop an effective intellectual property strategy, avoid infringement of third-party proprietary rights, identify licensing opportunities and monitor the intellectual property owned by others.

We hold numerous patents and have numerous patent applications pending in the United States and in other countries that relate to aspects of the technology used in many of our products. Our policy is to file patent applications in the United States and other countries when we believe it is commercially advantageous to do so. We do not consider our business to be materially dependent upon any individual patent.

We own or have rights to use the trademarks, service marks and trade names that we use in conjunction with the operation of our business. Some of the more important trademarks that we own or have rights to use that appear in this Annual Report on Form 10-K include: CareFusionTM, Alaris®, Guardrails®, Pyxis®, AVEA®, VELA®, LTV® Series, Jaeger®, SensorMedics®, ChloraPrep®, V. Mueller®, Snowden-Pencer®, SmartSite®, PyxisConnect®, Pyxis MedStation®, Pyxis SupplyStation®, Pyxis ProcedureStationTM, Pyxis EcoStationTM, MedMined®, EnVe®, MaxPlus®, MaxGuard®and AirLifeTM which may be registered or trademarked in the United States and other jurisdictions.

Research and Development

We continuously engage in research and development to introduce new products and enhance the effectiveness, ease of use, safety and reliability of our existing products. Our research and development efforts include internal initiatives as well as collaborative development opportunities with third parties and licensing or acquiring technology from third parties. We employ engineers, software developers, clinicians and scientists in research and development worldwide. These experts help us to develop innovative, industry-leading products and services because of their in-depth understanding of the medical and clinical protocols for our product lines. Our research and development expenses were $164 million, $146 million and $148 million in fiscal years 2012, 2011 and 2010, respectively. We evaluate developing technologies in areas where we have technological or marketing expertise for possible investment or acquisition.

 

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We intend to continue our focus on research and development as a key strategy for growth, which will focus on internal and external investments in those fields that we believe will offer the greatest opportunity for growth and profitability.

Quality Management

We place significant emphasis on providing quality products and services to our customers. Quality management plays an essential role in understanding and meeting customer requirements, effectively resolving quality issues and improving our products and services. We have a network of quality systems throughout our business units and facilities that relate to the design, development, manufacturing, packaging, sterilization, handling, distribution and labeling of our products. To assess and facilitate compliance with applicable requirements, we regularly review our quality systems to determine their effectiveness and identify areas for improvement. We also perform assessments of our suppliers of raw materials, components and finished goods. In addition, we conduct quality management reviews designed to inform management of key issues that may affect the quality of products and services.

From time to time, we may determine that products manufactured or marketed by us do not meet our specifications, published standards or regulatory requirements. When a quality issue is identified, we investigate the issue and seek to take appropriate corrective action, such as withdrawal of the product from the market, correction of the product at the customer location, notice to the customer of revised labeling or other actions. Any of these actions could have an adverse effect on our business.

Regulatory Matters

Regulation of Medical Devices in the United States

The development, manufacture, sale and distribution of our medical device products are subject to comprehensive governmental regulation. Most notably, all of our medical devices sold in the United States are subject to the Federal Food, Drug and Cosmetic Act (“FDC Act”), as implemented and enforced by the United States Food and Drug Administration (“FDA”). The FDA, and in some cases other government agencies, administers requirements for the design, testing, safety, effectiveness, manufacturing, labeling, advertising and promotion, distribution and post-market surveillance of our products.

Unless an exemption applies, each medical device that we market must first receive either premarket clearance (by submitting a 510(k) notification) or premarket approval (by filing a premarket approval application (“PMA”)) from the FDA pursuant to the FDC Act. In addition, certain modifications made to marketed devices also may require 510(k) clearance or approval of a PMA supplement. The FDA’s 510(k) clearance process usually takes from four to twelve months, but it can last longer. The process of obtaining PMA approval is much more costly, lengthy and uncertain. It generally takes from one to three years or even longer. The FDA announced recommendations following two task force investigations into the agency’s medical device 510(k) clearance process. While the FDA is currently not making regulatory changes in direct correlation to these recommendations, the FDA could make changes through its administrative process that would make the 510(k) clearance process and PMA approval more expensive for us, and could result in delays of future launches of new or modified medical devices. We cannot be sure that 510(k) clearance or PMA approval will be obtained for any product that we propose to market.

After a device is placed on the market, numerous regulatory requirements continue to apply. Those regulatory requirements include the following: product listing and establishment registration; adherence to the Quality System Regulation (“QSR”) which requires stringent design, testing, control, documentation and other quality assurance procedures; labeling requirements and FDA prohibitions against the promotion of off-label uses or indications; adverse event reporting; post-approval restrictions or conditions, including post-approval clinical trials or other required testing; post-market surveillance requirements; the FDA’s recall authority, whereby it can ask for, or require, the recall of products from the market; and requirements relating to voluntary corrections or removals.

 

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Our manufacturing facilities, as well as those of certain of our suppliers, are subject to periodic and for-cause inspections to verify compliance with the QSR as well as other regulatory requirements. If the FDA were to find that we or certain of our suppliers have failed to comply with applicable regulations, it could institute a wide variety of enforcement actions, ranging from a public warning letter to more severe sanctions, such as product recalls or seizures, monetary sanctions, consent decrees, injunctions to halt manufacturing and distributing products, civil or criminal sanctions, refusal to grant clearances or approvals or delays in granting such clearances or approvals, import detentions of products made outside of the United States, restrictions on operations or withdrawal or suspension of existing approvals. The FDA also has the authority to request repair, replacement or refund of the cost of any medical device manufactured or distributed by us. Any of these actions could have an adverse effect on our business.

Regulation of Medical Devices Outside of the United States

Medical device laws also are in effect in many of the non-United States markets in which we do business. These laws range from comprehensive device approval requirements for some or all of our products to requests for product data or certifications. Inspection of and controls over manufacturing, as well as monitoring of device-related adverse events, are components of most of these regulatory systems. Most of our business is subject to varying degrees of governmental regulation in the countries in which we operate, and the general trend is toward increasingly stringent regulation. For example, the European Commission (“EC”) has harmonized national regulations for the control of medical devices through European Medical Device Directives with which manufacturers must comply. Under these regulations, manufacturers must have received product EC certification from a “notified body” in order to be able to sell products within the member states of the European Union. Certification allows manufacturers to stamp the products with an “EC” mark. Products covered by the EC regulations that do not bear the EC mark may not be sold or distributed within the European Union.

Regulation of Drugs

We market a line of topical antiseptics under the ChloraPrep brand name that are regulated by the FDA and comparable international authorities as nonprescription or over-the-counter (“OTC”) drugs. These products are marketed in the U.S. under a new drug application approved by the FDA and through appropriate international regulatory pathways. OTC drugs are regulated and we must comply with good manufacturing practices; for example, our manufacturing facilities (or those of our contract manufacturers) must be registered and all facilities are subject to inspection by federal and state authorities. Outside the United States, regulatory authorities regulate our OTC products in a manner similar to the FDA. In the United States, advertising of OTC drugs is regulated by the Federal Trade Commission in conjunction with the FDA, which imposes certain restrictions on our promotional activities for these products. If we (or our suppliers) fail to comply with regulatory requirements, we could face sanctions ranging from warning letters, injunctions, product seizures, civil or criminal enforcement actions, consent decrees, or removal of the product from distribution. Any of these actions could have an adverse effect on our business.

Healthcare Laws

We are subject to various federal, state and local laws in the United States targeting fraud and abuse in the healthcare industry, which generally prohibit us from soliciting, offering, receiving or paying any remuneration in order to induce the ordering or purchasing of items or services that are in any way paid for by Medicare, Medicaid or other government-sponsored healthcare programs. Healthcare costs have been and continue to be a subject of study, investigation and regulation by governmental agencies and legislative bodies around the world. The United States federal government continues to scrutinize potentially fraudulent practices affecting Medicare, Medicaid and other government healthcare programs. Payers have become more influential in the marketplace and increasingly are focused on drug and medical device pricing, appropriate drug and medical device utilization and the quality and costs of healthcare. Violations of fraud and abuse-related laws are punishable by criminal or civil sanctions, including substantial fines, imprisonment and exclusion from participation in healthcare programs such as Medicare and Medicaid.

 

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Other Regulatory Requirements

We are also subject to the United States Foreign Corrupt Practices Act and similar anti-bribery laws applicable in non-United States jurisdictions that generally prohibit companies and their intermediaries from improperly offering or paying anything of value to non-United States government officials for the purpose of obtaining or retaining business. Because of the predominance of government-sponsored healthcare systems around the world, most of our customer relationships outside of the United States are with governmental entities and are therefore subject to such anti-bribery laws. Our policies mandate compliance with these anti-bribery laws. We operate in many parts of the world that have experienced governmental corruption to some degree, and in certain circumstances strict compliance with anti-bribery laws may conflict with local customs and practices. In the sale, delivery and servicing of our medical devices and software outside of the United States, we must also comply with various export control and trade embargo laws and regulations, including those administered by the Department of Treasury’s Office of Foreign Assets Control (“OFAC”) and the Department of Commerce’s Bureau of Industry and Security (“BIS”) which may require licenses or other authorizations for transactions relating to certain countries and/or with certain individuals identified by the United States government. Despite our global trade and compliance program, our internal control policies and procedures may not always protect us from reckless or criminal acts committed by our employees or agents. Violations of these requirements are punishable by criminal or civil sanctions, including substantial fines and imprisonment.

Raw Materials

We use a wide variety of resin, metals and electrical components for production of our products. We primarily purchase these materials from external suppliers, some of which are single-source suppliers. We purchase materials from selected suppliers based on quality assurance, cost effectiveness and constraints resulting from regulatory requirements, and we work closely with our suppliers to assure continuity of supply while maintaining high quality and reliability. Global commodity pricing can ultimately affect pricing of certain of these raw materials. Though we believe we have adequate available sources of raw materials, there can be no guarantee that we will be able to access the quantity of raw material needed to sustain operations as well as at a cost effective price.

Environmental

Our manufacturing operations worldwide are subject to many requirements under environmental laws. In the United States, the United States Environmental Protection Agency and similar state agencies administer laws that restrict the emission of pollutants into the air, discharges of pollutants into bodies of water and disposal of pollutants on the ground. Violations of these laws can result in significant civil and criminal penalties and incarceration. The failure to obtain a permit for certain activities may be a violation of environmental law and subject the owner and operator to civil and criminal sanctions. Most environmental agencies also have the power to shut down an operation if it is operating in violation of environmental law. United States laws also typically allow citizens to bring private enforcement actions in some situations. Outside the United States, the environmental laws and their enforcement vary and may be more burdensome. For example, some European countries impose environmental taxes or require manufacturers to take back used products at the end of their useful life, and others restrict the materials that manufacturers may use in their products and require redesign and labeling of products. Although such laws do not currently have a significant impact on our products, they are expanding rapidly in Europe. We have management programs and processes in place that are intended to minimize the potential for violations of these laws.

Other environmental laws, primarily in the United States, address the contamination of land and groundwater and require the clean-up of such contamination. These laws may apply not only to the owner or operator of an on-going business, but also to the owner of land contaminated by a prior owner or operator. In addition, if a parcel is contaminated by the release of a hazardous substance, such as through its historic use as a disposal site, any person or company that has contributed to that contamination, whether or not it has a legal interest in the land, may be subject to a requirement to clean up the parcel.

 

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Employees

At June 30, 2012, we employed over 15,000 people across our global operations, with approximately 6,300 employed in the United States. In Europe, some of our employees are represented by unions or works councils. Overall, we consider our employee relations to be good.

Available Information

We post on our public website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after we electronically file such material with, or furnish it to the SEC. These materials can be found in the “Investors” section of our website by clicking the “Financial Information” link and then the “SEC Filings” link. Copies of any of these documents may be obtained free of charge through our website, www.carefusion.com, or by contacting our Investor Relations Department at 3750 Torrey View Court, San Diego, California, 92130, or by calling 858-617-4621.

You may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site that contains our reports, proxy and information statements, and other information at www.sec.gov.

We have included the certifications of our Chief Executive Officer and Chief Financial Officer required by Section 302 and 906 of the Sarbanes-Oxley Act of 2002 and related rules, relating to the quality of our public disclosure, as exhibits to this Annual Report on Form 10-K.

 

ITEM 1A. RISK FACTORS

We urge you to carefully consider the following risks and other information in this Annual Report on Form 10-K in evaluating us and our common stock. Any of the following risks, as well as additional risks and uncertainties not currently known to us or that we currently deem immaterial, could materially and adversely affect our results of operations or financial condition. The risk factors generally have been separated into two groups: risks related to our business and risks related to our common stock.

Risks Related to Our Business

We may be unable to effectively enhance our existing products or introduce and market new products or may fail to keep pace with advances in technology.

The healthcare industry is characterized by evolving technologies and industry standards, frequent new product introductions, significant competition and dynamic customer requirements that may render existing products obsolete or less competitive. As a result, our position in the industry could erode rapidly due to unforeseen changes in the features and functions of competing products, as well as the pricing models for such products. The success of our business depends on our ability to enhance our existing products and to develop and introduce new products and adapt to these changing technologies and customer requirements. The success of new product development depends on many factors, including our ability to anticipate and satisfy customer needs, obtain regulatory approvals and clearances on a timely basis, develop and manufacture products in a cost-effective and timely manner, maintain advantageous positions with respect to intellectual property and differentiate our products from those of our competitors. To compete successfully in the marketplace, we must make substantial investments in new product development whether internally or externally through licensing, acquisitions or joint development agreements. Our failure to enhance our existing products or introduce new and innovative products in a timely manner would have an adverse effect on our results of operations and financial condition.

 

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Even if we are able to develop, manufacture and obtain regulatory approvals and clearances for our new products, the success of those products would depend upon market acceptance. Levels of market acceptance for our new products could be affected by several factors, including:

 

   

the availability of alternative products from our competitors;

   

the price and reliability of our products relative to that of our competitors;

   

the timing of our market entry; and

   

our ability to market and distribute our products effectively.

We are subject to complex and costly regulation.

Our products are subject to regulation by the FDA and other national, supranational, federal and state governmental authorities. It can be costly and time-consuming to obtain regulatory clearance and/or approval to market a medical device or other product. Clearance and/or approval might not be granted for a new or modified device or other product on a timely basis, if at all. Regulations are subject to change as a result of legislative, administrative or judicial action, which may further increase our costs or reduce sales. Unless an exception applies, the FDA requires that the manufacturer of a new medical device or a new indication for use of, or other significant change in, an existing medical device obtain either 510(k) pre-market clearance or pre-market approval before those products can be marketed or sold in the United States. Modifications or enhancements to a product that could significantly affect its safety or effectiveness, or that would constitute a major change in the intended use of the device, technology, materials, labeling, packaging, or manufacturing process may also require a new 510(k) clearance. Most recently, the FDA has proposed changes to its 510(k) pre-market clearance process and although we cannot predict with certainty the future impact of these initiatives, it appears that the time and cost to get many of our medical devices to market could increase significantly.

In addition, we are subject to regulations that govern manufacturing practices, product labeling and advertising, and adverse-event reporting that apply after we have obtained clearance or approval to sell a product. Our failure to maintain clearances or approvals for existing products, to obtain clearance or approval for new or modified products, or to adhere to regulations for manufacturing, labeling, advertising or adverse event reporting could adversely affect our results of operations and financial condition. Further, if we determine a product manufactured or marketed by us does not meet our specifications, published standards or regulatory requirements, we may seek to correct the product or withdraw the product from the market, which could have an adverse effect on our business. Many of our facilities and procedures and those of our suppliers are subject to ongoing oversight, including periodic inspection by governmental authorities. Compliance with production, safety, quality control and quality assurance regulations can be costly and time-consuming.

The sales and marketing of medical devices is under increased scrutiny by the FDA and other enforcement bodies. If our sales and marketing activities fail to comply with FDA regulations or guidelines, or other applicable laws, we may be subject to warnings or enforcement actions from the FDA or other enforcement bodies. A number of companies in the healthcare industry have been the subject of enforcement actions related to their sales and marketing practices, including their relationships with doctors and off-label promotion of products. In April 2011, we received a federal administrative subpoena from the Department of Justice. In addition, in September 2011, we received a federal administrative subpoena from the Office of Inspector General (“OIG”) of the Department of Health and Human Services. In August 2012, we received another federal administrative subpoena from the Department of Justice containing additional information requests. All three subpoenas request documents and other materials that relate primarily to our sales and marketing practices for our ChloraPrep skin preparation product and information regarding our relationships with healthcare professionals. See note 15 to the audited consolidated and combined financial statements included in this Form 10-K for more information. We cannot control the pace or scope of any investigation and responding to the subpoena requests and any investigation will require the allocation of resources, including management time and attention. If we were to become the subject of an enforcement action, including any action resulting from the investigation by the Department of Justice or OIG, it could result in negative publicity, penalties, fines, the

 

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exclusion of our products from reimbursement under federally-funded programs and/or prohibitions on our ability to sell our products, which could have an adverse effect on our results of operations and financial condition.

Cost-containment efforts of our customers, purchasing groups, third-party payers and governmental organizations could adversely affect our sales and profitability.

Many existing and potential customers for our products within the United States are members of GPOs and IDNs in an effort to reduce costs. GPOs and IDNs negotiate pricing arrangements with healthcare product manufacturers and distributors and offer the negotiated prices to affiliated hospitals and other members. Due to the highly competitive nature of the GPO and IDN contracting processes, we may not be able to obtain or maintain contract positions with major GPOs and IDNs across our product portfolio. Furthermore, the increasing leverage of organized buying groups may reduce market prices for our products, thereby reducing our profitability.

While having a contract with a GPO or IDN can facilitate sales to members of that GPO or IDN, it is no assurance that sales volume of those products will be maintained. The members of such groups may choose to purchase from our competitors due to the price or quality offered by such competitors, which could result in a decline in our sales and profitability.

In addition, our capital equipment products typically represent a sizeable initial capital expenditure for healthcare organizations. Changes in the budgets of these organizations, the timing of spending under these budgets and conflicting spending priorities, including changes resulting from adverse economic conditions, can have a significant effect on the demand for our capital equipment products and related services. In addition, the implementation of healthcare reform in the United States, which may reduce or eliminate the amount that healthcare organizations may be reimbursed for our capital equipment products and related services, could further impact demand. Any such decreases in expenditures by these healthcare facilities and decreases in demand for our capital equipment products and related services could have an adverse effect on our results of operations and financial condition.

Distributors of our products may begin to negotiate terms of sale more aggressively in an effort to increase their profitability. Failure to negotiate distribution arrangements having advantageous pricing or other terms of sale could adversely affect our results of operations and financial condition. In addition, if we fail to implement distribution arrangements successfully, it could cause us to lose market share to our competitors.

Outside the United States, we have experienced downward pricing pressure due to the concentration of purchasing power in centralized governmental healthcare authorities and increased efforts by such authorities to lower healthcare costs. Our failure to offer acceptable prices to these customers could adversely affect our sales and profitability in these markets.

Current economic conditions have and may continue to adversely affect our business, results of operations and financial condition.

Disruptions in the financial markets and other macro-economic challenges currently affecting the economy and the economic outlook of the United States, Europe and other parts of the world have had and we expect will continue to have an adverse impact on our results of operations and financial condition. Recessionary conditions and depressed levels of consumer and commercial spending have caused and may continue to cause our customers to reduce, modify, delay or cancel plans to purchase our products and have caused and may continue to cause vendors to reduce their output or change terms of sales. We have observed certain hospitals delaying as well as prioritizing capital purchasing decisions, which has had and we expect will continue to have an adverse impact on our financial results into the foreseeable future.

 

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In addition, as a result of these recessionary conditions, our customers in and outside of the United States, including foreign governmental entities or other entities that rely on government healthcare systems or government funding, may be unable to pay their obligations on a timely basis or to make payment in full. If our customers' cash flow or operating and financial performance deteriorate or fail to improve, or if they are unable to make scheduled payments or obtain credit, they may not be able to pay, or may delay payment of, accounts receivable owed to us. These conditions may also adversely affect certain of our suppliers, which could cause a disruption in our ability to produce our products.

We also extend credit through an equipment leasing program for a substantial portion of sales to our dispensing product customers. This program and any similar programs that we may establish for sales of our other capital equipment, exposes us to certain risks. We are subject to the risk that if these customers fail to pay or delay payment for the products they purchase from us, it could result in longer payment cycles, increased collection costs, defaults exceeding our expectations and an adverse impact on the cost or availability of financing. These risks related to our equipment leasing program may be exacerbated by a variety of factors, including adverse economic conditions, decreases in demand for our capital equipment products and negative trends in the businesses of our leasing customers.

Any inability of current and/or potential customers to pay us for our products or any demands by vendors for different payment terms may adversely affect our results of operations and financial condition.

We may be unable to realize any benefit from our cost reduction and restructuring efforts and our profitability may be hurt or our business otherwise might be adversely affected.

We have engaged in restructuring activities in the past and may engage in other restructuring activities in the future. These types of cost reduction and restructuring activities are complex. If we do not successfully manage our current restructuring activities, or any other restructuring activities that we may take in the future, any expected efficiencies and benefits might be delayed or not realized, and our operations and business could be disrupted. In addition, the costs associated with implementing restructuring activities might exceed expectations, which could result in additional future charges.

We may be unable to protect our intellectual property rights or may infringe on the intellectual property rights of others.

We rely on a combination of patents, trademarks, copyrights, trade secrets and nondisclosure agreements to protect our proprietary intellectual property. Our efforts to protect our intellectual property and proprietary rights may not be sufficient. We cannot be sure that our pending patent applications will result in the issuance of patents to us, that patents issued to or licensed by us in the past or in the future will not be challenged or circumvented by competitors or that these patents will remain valid or sufficiently broad to preclude our competitors from introducing technologies similar to those covered by our patents and patent applications. In addition, our ability to enforce and protect our intellectual property rights may be limited in certain countries outside the United States, which could make it easier for competitors to capture market position in such countries by utilizing technologies that are similar to those developed or licensed by us.

Competitors also may harm our sales by designing products that mirror the capabilities of our products or technology without infringing our intellectual property rights. If we do not obtain sufficient protection for our intellectual property, or if we are unable to effectively enforce our intellectual property rights, our competitiveness could be impaired, which would limit our growth and future revenue.

We operate in an industry characterized by extensive patent litigation. Patent litigation is costly to defend and can result in significant damage awards, including treble damages under certain circumstances, and injunctions that could prevent the manufacture and sale of affected products or force us to make significant royalty payments in order to continue selling the affected products. At any given time, we are involved as either a plaintiff or a

 

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defendant in a number of patent infringement actions, the outcomes of which may not be known for prolonged periods of time. We can expect to face additional claims of patent infringement in the future. A successful claim of patent or other intellectual property infringement against us could adversely affect our results of operations and financial condition.

Defects or failures associated with our products and/or our quality system could lead to the filing of adverse event reports, product recalls or safety alerts with associated negative publicity and could subject us to regulatory actions.

Manufacturing flaws, component failures, design defects, off-label uses or inadequate disclosure of product-related information could result in an unsafe condition or the injury or death of a patient. These problems could lead to a recall of, or issuance of a safety alert relating to, our products and result in significant costs and negative publicity. Due to the strong name recognition of our brands, an adverse event involving one of our products could result in reduced market acceptance and demand for all products within that brand, and could harm our reputation and our ability to market our products in the future. In some circumstances, adverse events arising from or associated with the design, manufacture or marketing of our products could result in the suspension or delay of regulatory reviews of our applications for new product approvals or clearances. We may also voluntarily undertake a recall of our products, temporarily shut down production lines, or place products on a shipping hold based on internal safety and quality monitoring and testing data.

Our future operating results will depend on our ability to sustain an effective quality control system and effectively train and manage our employee base with respect to our quality system. Our quality system plays an essential role in determining and meeting customer requirements, preventing defects and improving our products and services. While we have a network of quality systems throughout our business units and facilities, quality and safety issues may occur with respect to any of our products. A quality or safety issue may result in a public warning letter from the FDA, or potentially a consent decree. We are currently operating under an amended consent decree with the FDA, as discussed further below. In addition, we may be subject to product recalls or seizures, monetary sanctions, injunctions to halt manufacturing and distribution of products, civil or criminal sanctions, refusal of a government to grant clearances or approvals or delays in granting such clearances or approvals, import detentions of products made outside the United States, restrictions on operations or withdrawal or suspension of existing approvals. Any of the foregoing events could disrupt our business and have an adverse effect on our results of operations and financial condition.

We are currently operating under an amended consent decree with the FDA and our failure to comply with the requirements of the amended consent decree may have an adverse effect on our business.

We are operating under an amended consent decree with the FDA related to our infusion pump business in the United States. We entered into a consent decree with the FDA in February 2007 related to our Alaris SE pumps, and in February 2009, we and the FDA amended the consent decree to include all infusion pumps manufactured by or for our subsidiary that manufactures and sells infusion pumps in the United States. In accordance with the amended consent decree, and in addition to the requirements of the original consent decree, we implemented a corrective action plan to bring the Alaris System and all other infusion pumps in use in the United States market into compliance, had our infusion pump facilities inspected by an independent expert and had our recall procedures and all ongoing recalls involving our infusion pumps inspected by an independent recall expert. In July 2010, the FDA notified us that we can proceed to the audit inspection phase of the amended consent decree, which includes the requirement to retain an independent expert to conduct periodic audits of our infusion pump facilities. The costs associated with these ongoing audits, and any actions that we may need to take resulting from these audits, could be significant.

We have no reserve in connection with the amended consent decree to cover potential future costs and expenses of compliance with the amended consent decree. As such, we may be obligated to pay more costs in the future because, among other things, the FDA may determine that we are not fully compliant with the amended consent

 

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decree and therefore impose penalties under the amended consent decree, and/or we may be subject to future proceedings and litigation relating to the matters addressed in the amended consent decree. Moreover, the matters addressed in the amended consent decree could lead to negative publicity that could have an adverse impact on our business. The amended consent decree authorizes the FDA, in the event of any violations in the future, to order us to cease manufacturing and distributing, recall products and take other actions. We may also be required to pay monetary damages if we fail to comply with any provision of the amended consent decree. See note 15 to the audited consolidated financial statements included in this Form 10-K for more information. Any of the foregoing matters could disrupt our business and have an adverse effect on our results of operations and financial condition.

We may incur product liability losses and other litigation liability.

We are, and may be in the future, subject to product liability claims and lawsuits, including potential class actions, alleging that our products have resulted or could result in an unsafe condition or injury. Any product liability claim brought against us, with or without merit, could be costly to defend and could result in settlement payments and adjustments not covered by or in excess of insurance. In addition, we may not be able to obtain insurance on terms acceptable to us or at all because insurance varies in cost and can be difficult to obtain. Our failure to successfully defend against product liability claims or maintain adequate insurance coverage could have an adverse effect on our results of operations and financial condition.

We are involved in a number of legal proceedings. Legal proceedings are inherently unpredictable, and the outcome can result in excessive verdicts and/or injunctive relief that may affect how we operate our business, or we may enter into settlements of claims for monetary damages that exceed our insurance coverage, if any. In addition, we cannot predict the results of future legislative activity or future court decisions, any of which could lead to an increase in regulatory investigations or our exposure to litigation. Any such proceedings or investigations, regardless of the merits, may result in substantial costs, the diversion of management’s attention from other business concerns and additional restrictions on our sales or the use of our products, which could disrupt our business and have an adverse effect on our results of operations and financial condition.

We rely on the performance of our information technology systems, the failure of which could have an adverse effect on our business and performance.

Our business requires the continued operation of sophisticated information technology systems and network infrastructure. These systems are vulnerable to interruption by fire, power loss, system malfunction and other events, which are beyond our control. Systems interruptions could reduce our ability to manufacture and provide service for our products, and could have an adverse effect on our operations and financial performance. The level of protection and disaster-recovery capability varies from site to site, and there can be no guarantee that any such plans, to the extent they are in place, will be totally effective.

In addition, we are pursuing initiatives to transform our information technology systems and processes. Many of our business units use disparate systems and processes, including those required to support critical functions related to our operations, sales, and financial close and reporting. We are implementing new systems to better streamline and integrate critical functions, which we expect to result in improved efficiency and, over time, reduced costs. While we believe these initiatives provide significant opportunity for us, they do expose us to inherent risks. We may suffer data loss or delays or other disruptions to our business, which could have an adverse effect on our results of operations and financial condition. If we fail to successfully implement new information technology systems and processes, we may fail to realize cost savings anticipated to be derived from these initiatives.

An interruption in our ability to manufacture our products, an inability to obtain key components or raw materials or an increase in the cost of key components or raw materials may adversely affect our business.

Many of our key products are manufactured at single locations, with limited alternate facilities. If we experience damage to one or more of our facilities, or our manufacturing capabilities are otherwise limited or stopped due to

 

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quality, regulatory or other reasons, it may not be possible to timely manufacture the relevant products at previous levels or at all. In addition, if the capabilities of our suppliers and component manufacturers are limited or stopped, due to quality, regulatory or other reasons, it could negatively impact our ability to manufacture our products and could expose us to regulatory actions. Further, for reasons of quality assurance or cost effectiveness, we purchase certain components and raw materials from sole suppliers. We may not be able to quickly establish additional or replacement sources for certain components or materials. A reduction or interruption in manufacturing, or an inability to secure alternative sources of raw materials or components that are acceptable to us, could have an adverse effect on our results of operations and financial condition.

Due to the highly competitive nature of the healthcare industry and the cost containment efforts of our customers and third-party payers, we may be unable to pass along cost increases for key components or raw materials through higher prices to our customers. If the cost of key components or raw materials increases and we are unable fully to recover these increased costs through price increases or offset these increases through other cost reductions, we could experience lower margins and profitability.

We may engage in strategic transactions, including acquisitions, investments, or joint development agreements that may have an adverse effect on our business.

We may pursue transactions, including acquisitions of complementary businesses, technology licensing arrangements and joint development agreements to expand our product offerings and geographic presence as part of our business strategy, which could be material to our financial condition and results of operations. We may not complete transactions in a timely manner, on a cost-effective basis, or at all, and we may not realize the expected benefits of any acquisition, license arrangement or joint development agreement. Other companies may compete with us for these strategic opportunities. We also could experience negative effects on our results of operations and financial condition from acquisition-related charges, amortization of intangible assets and asset impairment charges, and other issues that could arise in connection with, or as a result of, the acquisition of an acquired company or business, including issues related to internal control over financial reporting, regulatory or compliance issues and potential adverse short-term effects on results of operations through increased costs or otherwise. These effects, individually or in the aggregate, could cause a deterioration of our credit profile and/or ratings and result in reduced availability of credit to us or in increased borrowing costs and interest expense.

We could experience difficulties, expenditures, or other risks in integrating an acquired company, business, or technology, including, among others:

 

   

diversion of management resources and focus from ongoing business matters;

   

retention of key employees following an acquisition;

   

demands on our operational resources and financial and internal control systems;

   

integration of an acquired company’s corporate and administrative functions and personnel;

   

liabilities of the acquired company, including litigation or other claims; and

   

consolidation of research and development operations.

In addition, we may face additional risks related to foreign acquisitions, including risks related to cultural and language differences and particular economic, currency, political, and regulatory risks associated with specific countries. If an acquired business fails to operate as anticipated or cannot be successfully integrated with our existing business, our results of operations and financial condition could be adversely affected.

We may engage in the divestiture of some of our non-core businesses or product lines which may have an adverse effect on our business.

Our business strategy involves assessing our portfolio of businesses with a view of divesting non-core businesses and product lines that do not align with our objectives. Any divestitures may result in a dilutive impact to our future earnings, as well as significant write-offs, including those related to goodwill and other intangible assets, which could have a material adverse effect on our results of operations and financial condition. Divestitures

 

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could involve additional risks, including difficulties in the separation of operations, services, products and personnel, the diversion of management's attention from other business concerns, the disruption of our business and the potential loss of key employees. We may not be successful in managing these or any other significant risks that we encounter in divesting a business or product line. See note 3 to the audited consolidated financial statements included in this Form 10-K for a discussion of our divestitures.

We may face significant uncertainty in the industry due to government healthcare reform.

Political, economic and regulatory influences are subjecting the healthcare industry to fundamental changes. In March 2010, comprehensive healthcare reform legislation was signed into law in the United States through the passage of the Patient Protection and Affordable Health Care Act and the Health Care and Education Reconciliation Act. Among other initiatives, the legislation provides for a 2.3% annual excise tax on the sales of certain medical devices in the United States, commencing in January 2013. We will record this excise tax as a selling, general and administrative expense, which will have an adverse affect on our operating expenses and results of operations. We currently expect the impact of the tax to be approximately $15 million to $20 million in our fiscal year 2013, rising to approximately $30 million to $40 million annually thereafter. In addition, as the United States federal government implements additional provisions of healthcare reform, we anticipate that Congress, regulatory agencies and certain state legislatures will continue to review and assess alternative healthcare delivery systems and payment methods with an objective of ultimately reducing healthcare costs and expanding access. Public debate of these issues will likely continue in the future. We cannot predict with certainty what healthcare initiatives, if any, will be implemented at the state level, or what ultimate effect federal healthcare reform or any future legislation or regulation may have on our customers' purchasing decisions regarding our products and services. However, the implementation of new legislation and regulation may lower reimbursements for our products, reduce medical procedure volumes and adversely affect our business, possibly materially.

We may need additional financing in the future to meet our capital needs or to make opportunistic acquisitions and such financing may not be available on favorable terms, if at all, and may be dilutive to existing stockholders.

We intend to increase our investment in research and development activities, expand our sales and marketing activities, and may make acquisitions. Our ability to take these and other actions may be limited by our available liquidity, including our ability to access our foreign cash balances in a tax-efficient manner. As a consequence, in the future, we may need to seek additional financing. We may be unable to obtain any desired additional financing on terms favorable to us, if at all. If we lose an investment grade credit rating or adequate funds are not available on acceptable terms, we may be unable to fund our expansion, successfully develop or enhance products or respond to competitive pressures, any of which could negatively affect our business. If we raise additional funds through the issuance of equity securities, our stockholders will experience dilution of their ownership interest. If we raise additional funds by issuing debt, we may be subject to limitations on our operations due to restrictive covenants.

Additionally, our ability to make scheduled payments or refinance our obligations will depend on our operating and financial performance, which in turn is subject to prevailing economic conditions and financial, business and other factors beyond our control. Recent disruptions in the financial markets, including the bankruptcy or restructuring of a number of financial institutions and reduced lending activity, may adversely affect the availability, terms and cost of credit in the future.

We are subject to risks associated with doing business outside of the United States.

Our operations outside of the United States are subject to risks that are inherent in conducting business under non-United States laws, regulations and customs. Sales to customers outside of the United States made up approximately 22% of our revenue in the fiscal year ended June 30, 2012, and we expect that non-United

 

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States sales will contribute to future growth as we continue to focus on expanding our operations in markets outside the United States. The risks associated with our operations outside the United States include:

 

   

healthcare reform legislation;

   

changes in medical reimbursement policies and programs;

   

changes in non-United States government programs;

   

multiple non-United States regulatory requirements that are subject to change and that could restrict our ability to manufacture and sell our products;

   

possible failure to comply with anti-bribery laws such as the United States Foreign Corrupt Practices Act and similar anti-bribery laws in other jurisdictions;

   

different local medical practices, product preferences and product requirements;

   

possible failure to comply with trade protection and restriction measures and import or export licensing requirements;

   

difficulty in establishing, staffing and managing non-United States operations;

   

different labor regulations or work stoppages or strikes;

   

changes in environmental, health and safety laws;

   

potentially negative consequences from changes in or interpretations of tax laws, including changes regarding taxation of income earned outside the United States;

   

political instability and actual or anticipated military or political conflicts;

   

economic instability, including the European financial crisis or other economic instability in other parts of the world and the impact on interest rates, inflation and the credit worthiness of our customers;

   

uncertainties regarding judicial systems and procedures;

   

minimal or diminished protection of intellectual property in some countries; and

   

regulatory changes that may place our products at a disadvantage.

These risks, individually or in the aggregate, could have an adverse effect on our results of operations and financial condition. For example, we are subject to compliance with the United States Foreign Corrupt Practices Act and similar anti-bribery laws, which generally prohibit companies and their intermediaries from making improper payments to foreign government officials for the purpose of obtaining or retaining business. While our employees and agents are required to comply with these laws, we cannot be sure that our internal policies and procedures will always protect us from violations of these laws, despite our commitment to legal compliance and corporate ethics. The occurrence or allegation of these types of risks may adversely affect our business, performance, prospects, value, financial condition, and results of operations.

We are also exposed to a variety of market risks, including the effects of changes in foreign currency exchange rates. If the United States dollar strengthens in relation to the currencies of other countries such as the Euro, where we sell our products, our United States dollar reported revenue and income will decrease. Additionally, we incur significant costs in foreign currencies and a fluctuation in those currencies' value can negatively impact manufacturing and selling costs. Changes in the relative values of currencies occur regularly and, in some instances, could have an adverse effect on our results of operations and financial condition.

We are subject to healthcare fraud and abuse regulations that could result in significant liability, require us to change our business practices and restrict our operations in the future.

We are subject to various United States federal, state and local laws targeting fraud and abuse in the healthcare industry, including anti-kickback and false claims laws. Violations of these laws are punishable by criminal or civil sanctions, including substantial fines, imprisonment and exclusion from participation in healthcare programs such as Medicare and Medicaid. These laws and regulations are wide ranging and subject to changing interpretation and application, which could restrict our sales or marketing practices. Furthermore, since many of our customers rely on reimbursement from Medicare, Medicaid and other governmental programs to cover a substantial portion of their expenditures, our exclusion from such programs as a result of a violation of these laws could have an adverse effect on our results of operations and financial condition.

 

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We have a significant amount of indebtedness, which could adversely affect our business and our ability to meet our obligations.

We have outstanding $1.15 billion of senior unsecured notes that were utilized to finance our separation from Cardinal Health. This significant amount of debt has important risks to us and our investors, including:

 

   

requiring a significant portion of our cash flow from operations to make interest payments on this debt;

   

making it more difficult to satisfy debt service and other obligations;

   

increasing the risk of a future credit ratings downgrade of our debt, which could increase future debt costs and limit the future availability of debt financing;

   

increasing our vulnerability to general adverse economic and industry conditions;

   

reducing the cash flow available to fund capital expenditures and other corporate purposes and to grow our business;

   

limiting our flexibility in planning for, or reacting to, changes in our business and the industry;

   

placing us at a competitive disadvantage to our competitors that may not be as highly leveraged with debt as we are; and

   

limiting our ability to borrow additional funds as needed or take advantage of business opportunities as they arise, pay cash dividends or repurchase common stock.

In addition, in July 2011, we entered into a $550 million senior unsecured revolving credit facility (maturing July 6, 2016). Effective as of December 10, 2012, we increased the aggregate commitments available under the credit facility from $550 million to $750 million, pursuant to the exercise of the accordion feature under the credit facility. To the extent that we draw on our credit facility or otherwise incur additional indebtedness, the risks described above could increase. Further, if we increase our indebtedness, our actual cash requirements in the future may be greater than expected. Our cash flow from operations may not be sufficient to repay all of the outstanding debt as it becomes due, and we may not be able to borrow money, sell assets or otherwise raise funds on acceptable terms, or at all, to refinance our debt.

As a result of various restrictive covenants in the agreements governing our senior unsecured revolving credit facility and our senior unsecured notes, our financial flexibility will be restricted in a number of ways. The agreement governing the credit facility subjects us to several financial and other restrictive covenants, including limitations on liens, subsidiary indebtedness and transactions with affiliates. Our credit facility also requires us to meet certain financial ratio tests on an ongoing basis that may require us to take action and reduce debt or act in a manner contrary to our business objectives. Events beyond our control, including changes in general economic and business conditions, may affect our ability to meet those financial ratios and financial condition tests. We cannot be sure that we will be able to meet those tests or that the lenders will waive any failure to meet those tests. A breach of any of these covenants would result in a default under our credit facility. If an event of default under our credit facility or senior unsecured notes occurs, the lenders could elect to declare all amounts outstanding thereunder, together with accrued interest, to be immediately due and payable.

The failure to timely file our periodic reports may result in an event of default under the credit agreement for our senior unsecured revolving credit facility and the indenture for our senior unsecured notes, which may have an adverse effect on our business and financial condition.

Restrictive covenants in the agreements governing our senior unsecured revolving credit facility and senior unsecured notes require that we timely file our periodic reports with the SEC. The failure to timely file our periodic reports with the SEC could result in an event of default under the credit agreement for our senior unsecured credit facility and the indenture for our senior unsecured notes. While we obtained waivers from the lenders under the credit agreement related to our failure to file this Form 10-K and our Quarterly Report on Form 10-Q for the quarter ended September 30, 2012, we cannot assure you that we would be able to obtain all waivers related to these filing delays or remedy any future events that could trigger an event of default under the

 

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credit agreement for our senior unsecured credit facility and the indenture for our senior unsecured notes. In addition, while we are developing and implementing new control procedures related to our accounting for our dispensing sales-type leases, we will need to monitor and evaluate these procedures to ensure that they are operating effectively. If these new procedures do not operate effectively, there is a risk that our financial results could be misstated in the future and that we will be unable to timely file future periodic reports with the SEC. We also cannot assure you that, if an acceleration of indebtedness were to arise from such an event of default, we would have sufficient funds to repay such indebtedness. Any acceleration of our outstanding indebtedness could have a material adverse effect on our business and financial condition.

Tax legislation initiatives or challenges to our tax positions could adversely affect our results of operations and financial condition.

We are a large multinational corporation with operations in the United States and international jurisdictions. As such, we are subject to the tax laws and regulations of the United States federal, state and local governments and of many international jurisdictions. From time to time, various legislative initiatives may be proposed that could adversely affect our tax positions. We cannot be sure that our effective tax rate or tax payments will not be adversely affected by these initiatives. In addition, United States federal, state and local, as well as international, tax laws and regulations are extremely complex and subject to varying interpretations. There can be no assurance that our tax positions will not be challenged by relevant tax authorities or that we would be successful in any such challenge.

Our reserves against disputed tax obligations may ultimately prove to be insufficient.

Cardinal Health is before the Internal Revenue Service (“IRS”) Appeals office with respect to its fiscal years 2003 through 2007, and is under audit for fiscal years 2008 through 2010. During the quarter ended September 30, 2008, Cardinal Health received an IRS Revenue Agent's Report for the fiscal years ending June 30, 2003 through 2005 that included Notices of Proposed Adjustment related to transfer pricing arrangements between our foreign and domestic subsidiaries and the transfer of intellectual property among our subsidiaries, which we have appealed. The amount of additional tax proposed by the IRS in these notices totals $462 million, excluding penalties and interest, which may be significant. In addition, during the quarter ended December 31, 2010 we received an IRS Revenue Agent's Report for fiscal years 2006 and 2007 that included Notices of Proposed Adjustment related to transfer pricing arrangements between foreign and domestic subsidiaries. We and Cardinal Health disagree with the IRS regarding its application of the United States Treasury regulations to the arrangements under review and the valuations underlying such adjustments and intend to vigorously contest them. We are currently before the IRS Appeals office related to the fiscal years 2003 through 2007, and we are engaged in substantive discussions with the IRS Appeals office related to our 2003 through 2005 fiscal years. During the quarter ended September 30, 2011, the IRS commenced the tax audit for the fiscal years 2008 and 2009 and the short period July 1, 2009 through August 31, 2009 as part of Cardinal Health’s tax audit of its federal consolidated returns for fiscal years 2008 through 2010. Furthermore, during the quarter ended December 31, 2011, the IRS commenced the tax audit for the short period September 1, 2009 through June 30, 2010. We have not received any Notices of Proposed Adjustment for these audit periods to date.

We regularly review our tax reserves and make adjustments to our reserves when appropriate. Accounting for tax reserves involves complex and subjective estimates by management, which can change over time based on new information or changing events or circumstances, including events or circumstances outside of our control. Although we believe that we have provided appropriate tax reserves for any potential tax exposures, we may not be fully reserved and it is possible that we may be obligated to pay amounts in excess of our reserves, including the full amount that the IRS is seeking in the appeals matters for our 2003 through 2007 fiscal tax years. The tax matters agreement that we entered into with Cardinal Health in connection with the separation generally provides that the control of audit proceedings and payment of any additional liability related to our business is our responsibility. Any future change in estimate or obligation could adversely affect our results of operations and

 

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financial condition. See note 14 to the audited consolidated financial statements included in this Form 10-K filed for a discussion of the Notices of Proposed Adjustment for our fiscal years ended 2003 through 2007 and the change to our tax reserves.

If there is a determination that the separation is taxable for United States federal income tax purposes because the facts, assumptions, representations or undertakings underlying the IRS ruling or tax opinions are incorrect or for any other reason, then Cardinal Health and its shareholders that are subject to United States federal income tax could incur significant United States federal income tax liabilities and we could incur significant liabilities.

In connection with the separation, Cardinal Health received a private letter ruling from the IRS substantially to the effect that, among other things, the contribution and the distribution qualified as a transaction that is tax-free for United States federal income tax purposes under Sections 355(a) and 368(a)(1)(D) of the Internal Revenue Code of 1986, as amended, (“the Code”). In addition, Cardinal Health received opinions of Weil, Gotshal & Manges LLP and Wachtell, Lipton, Rosen & Katz, co-counsel to Cardinal Health, to the effect that the contribution and the distribution qualified as a transaction that is described in Sections 355(a) and 368(a)(1)(D) of the Code. The ruling and opinions relied on certain facts, assumptions, representations and undertakings from Cardinal Health and us regarding the past and future conduct of the companies’ respective businesses and other matters. If any of these facts, assumptions, representations or undertakings were incorrect or not otherwise satisfied, Cardinal Health and its shareholders may not be able to rely on the ruling or the opinions of tax counsel and could be subject to significant tax liabilities. Notwithstanding the private letter ruling and opinions of tax counsel, the IRS could determine on audit that the separation is taxable if it determines that any of these facts, assumptions, representations or undertakings are not correct, have been violated or if it disagrees with the conclusions in the opinions that are not covered by the private letter ruling, or for other reasons, including as a result of certain significant changes in the stock ownership of Cardinal Health or us after the separation. If the separation is determined to be taxable for United States federal income tax purposes, Cardinal Health and its shareholders that are subject to United States federal income tax could incur significant United States federal income tax liabilities and we could incur significant liabilities.

Our success depends on our key personnel, and the loss of key personnel or the transition of key personnel, including our Chief Executive Officer, could disrupt our business.

Our success depends on the continued contributions of our senior management and other key research and development, sales, marketing and operations personnel. In addition, the transition of key personnel exposes us to additional risks. Effective as of December 1, 2010, we announced James Hinrichs as our Chief Financial Officer, and effective as of January 29, 2011, we announced Kieran Gallahue as our Chairman and Chief Executive Officer. While we will strive to make these transitions as smooth as possible, the transition process related to these individuals, as well as for any other key personnel, may result in disruptions to our operations, which could have an adverse effect on our results of operations and financial condition.

Furthermore, our success depends on our ability to continue to attract, retain and motivate our senior management and other key personnel. Achieving this objective may be difficult due to many factors, including the intense competition for such highly skilled personnel, fluctuations in global economic and industry conditions, changes in our senior management, competitors' hiring practices, and the effectiveness of our compensation programs. If we are unable to attract, retain and motivate such personnel in sufficient numbers and on a timely basis, we may experience difficulty in implementing our business strategy, which could have an adverse effect on our results of operations and financial condition.

Our business and stock price may be adversely affected if our internal control over financial reporting is not effective.

Under Section 404 of the Sarbanes-Oxley Act of 2002 and rules promulgated by the SEC, companies are required to conduct a comprehensive evaluation of their internal control over financial reporting. As part of this

 

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process, we are required to document and test our internal control over financial reporting; our management is required to assess and issue a report concerning our internal control over financial reporting; and our independent registered public accounting firm is required to attest to and report on the effectiveness of our internal control over financial reporting. Management’s assessment of our internal control over financial reporting as of June 30, 2012, identified a material weakness related to our accounting for sales-type leases. This material weakness could lead to a loss of investor confidence and could have a negative impact on the trading price of our common stock. As described in “Item 9A. Controls and Procedures — Management’s Report on Internal Control Over Financial Reporting,” we are developing and implementing new control procedures regarding our accounting for sales-type leases, including the revised fair value estimation process for our leased assets, and we have taken steps to remediate this material weakness. We will need to monitor and evaluate these procedures to ensure that they are operating effectively. We may be at risk for future material weaknesses, particularly if these new procedures do not operate effectively. The existence of a material weakness could result in errors in our consolidated financial statements that could result in a restatement of consolidated financial statements, which could cause us to fail to meet our reporting obligations, lead to a loss of investor confidence and have a negative impact on the trading price of our common stock.

Risks Related to Our Common Stock

Your percentage of ownership in us may be diluted in the future.

As with any publicly-traded company, your percentage ownership in us may be diluted in the future because of equity issuances for acquisitions, capital market transactions or otherwise, including equity awards that we expect will be granted to our directors, officers and employees.

Our stock price may fluctuate significantly.

The market price of our common stock may fluctuate significantly due to a number of factors, some of which may be beyond our control, including:

 

   

actual or anticipated fluctuations in our operating results;

   

changes in earnings estimated by securities analysts or our ability to meet those estimates;

   

the operating and stock price performance of comparable companies; and

   

domestic and foreign economic conditions.

Certain provisions in our amended and restated certificate of incorporation and amended and restated by-laws, and of Delaware law, may prevent or delay an acquisition of our company, which could decrease the trading price of our common stock.

Our amended and restated certificate of incorporation, our amended and restated by-laws and Delaware law contain provisions that are intended to deter coercive takeover practices and inadequate takeover bids by making such practices or bids unacceptably expensive to the raider and to encourage prospective acquirers to negotiate with our board of directors rather than to attempt a hostile takeover. These provisions include, among others:

 

   

the inability of our stockholders to call a special meeting;

   

rules regarding how stockholders may present proposals or nominate directors for election at stockholder meetings;

   

the right of our board to issue preferred stock without stockholder approval;

   

the division of our board of directors into three classes of directors, with each class serving a staggered three-year term;

   

a provision that stockholders may only remove directors with cause;

   

the ability of our directors, and not stockholders, to fill vacancies on our board of directors; and

   

the requirement that stockholders holding at least 80% of our voting stock are required to amend certain provisions in our amended and restated certificate of incorporation and our amended and restated by-laws relating to the number, term and election of our directors, the filling of board vacancies, stockholder notice procedures and the calling of special meetings of stockholders.

 

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Delaware law also imposes some restrictions on mergers and other business combinations between us and any holder of 15% or more of our outstanding common stock.

We believe these provisions will protect our stockholders from coercive or otherwise unfair takeover tactics by requiring potential acquirers to negotiate with our board of directors and by providing our board of directors with more time to assess any acquisition proposal. These provisions are not intended to make our company immune from takeovers. However, these provisions will apply even if the offer may be considered beneficial by some stockholders and could delay or prevent an acquisition that our board of directors determines is not in the best interests of our company and our stockholders. These provisions may also prevent or discourage attempts to remove and replace incumbent directors.

 

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

 

ITEM 2. PROPERTIES

Our principal executive offices are located in a facility that we own in San Diego, California. At June 30, 2012, we owned or leased a total of approximately 3.5 million square feet of facility space worldwide to handle manufacturing, production, assembly, research, quality assurance testing, distribution, packaging, and administrative functions. At June 30, 2012, we had 19 manufacturing facilities of which 9 were located in the United States. We consider our operating facilities to be well-maintained and suitable for the operations conducted in them. We periodically evaluate our operating facilities and we may make additions, improvements and consolidations, when appropriate. None of our facilities experienced any significant idle time during fiscal year 2012.

The following table summarizes our facilities that are greater than 10,000 square feet by segment and by country as of June 30, 2012:

 

     Square Feet (in thousands)      Number of
Facilities
 
            Leased                  Owned           

Medical Systems1

        

Australia

     20                 1   

Canada

     26                 1   

Germany

     164         104         8   

India

     12                 1   

Italy

             115         1   

Mexico

     226         319         2   

Netherlands

     11                 1   

New Zealand

     12                 1   

South Africa

     16                 1   

Spain

     14                 1   

Switzerland

     22                 1   

United Kingdom

     163         21         8   

United States

     901         472         11   
  

 

 

    

 

 

    

 

 

 

Medical Systems Total

     1,587         1,031         38   

Procedural Solutions1

        

Dominican Republic

             35         1   

United States

     742         70         9   
  

 

 

    

 

 

    

 

 

 

Procedural Solutions Total

     742         105         10   
  

 

 

    

 

 

    

 

 

 

Total

     2,329         1,136         48   
  

 

 

    

 

 

    

 

 

 

 

Certain of the facilities included in the table are utilized by more than one segment.

 

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ITEM 3. LEGAL PROCEEDINGS

See note 15 to the audited consolidated financial statements for a summary of legal proceedings.

 

ITEM 4. MINE SAFETY DISCLOSURES

None.

 

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PART II

 

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is traded on the New York Stock Exchange (“NYSE”) under the symbol “CFN”.

The price range per share of our common stock presented below represents the highest and lowest sales prices for our common stock on the NYSE during each quarter of the two most recent fiscal years.

 

Fiscal 2012    1st Quarter      2nd Quarter      3rd Quarter      4th Quarter  

High

   $ 28.24       $ 26.00       $ 26.38       $ 27.28   

Low

   $ 22.01       $ 22.66       $ 22.55       $ 23.79   
Fiscal 2011                                

High

   $ 25.35       $ 26.24       $ 28.61       $ 29.97   

Low

   $ 20.63       $ 22.53       $ 24.95       $ 26.15   

As of January 18, 2013, there were 12,621 stockholders of record and 222,590,735 outstanding shares of common stock, and the closing price of our common stock on the NYSE was $30.72.

Dividends

We currently intend to retain any earnings to finance research and development, acquisitions and the operation and expansion of our business, and we do not anticipate paying any cash dividends for the foreseeable future. In addition, we use our excess cash to fund our share repurchase program. The declaration and payment of any dividends in the future by us will be subject to the sole discretion of our board of directors and will depend upon many factors, including our financial condition, earnings, capital requirements of our operating subsidiaries, covenants associated with certain of our debt obligations, legal requirements, regulatory constraints and other factors deemed relevant by our board of directors. Moreover, should we pay any dividends in the future, there can be no assurance that we will continue to pay such dividends.

 

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Performance Graph

This performance graph is furnished and shall not be deemed “filed” with the SEC or subject to Section 18 of the Exchange Act, nor shall it be deemed incorporated by reference in any of our filings under the Securities Act of 1933, as amended.

The following graph compares the cumulative total stockholders return on our common stock from September 1, 2009, when “regular way” trading in our common stock began on the NYSE, through June 30, 2012, with the comparable cumulative return of the S&P 500 index and S&P 500 Health Care index. The graph assumes that $100 was invested in our common stock and each index on September 1, 2009. In addition, the graph assumes the reinvestment of all dividends paid. The stock price performance on the following graph is not necessarily indicative of future stock price performance.

 

LOGO

The following table shows total indexed return of stock price plus reinvestments of dividends, assuming an initial investment of $100 at September 1, 2009, for the indicated periods.

 

Fiscal Year 2010    9/1/2009      9/30/2009      12/31/2009      3/31/2010      6/30/2010  

CareFusion Corporation

   $ 100       $ 110       $ 126       $ 133       $ 114   

S&P 500 Index

     100         106         112         119         105   

S&P 500 Health Care Index

     100         102         112         115         102   

 

Fiscal Year 2011    9/30/2010        12/31/2010        3/31/2011        6/30/2011  

CareFusion Corporation

   $ 125         $ 129         $ 142         $ 137   

S&P 500 Index

     117           129           137           137   

S&P 500 Health Care Index

     111           115           121           131   

 

Fiscal Year 2012    9/30/2011        12/31/2011        3/31/2012        6/30/2012  

CareFusion Corporation

   $ 120         $ 128         $ 130         $ 129   

S&P 500 Index

     118           132           149           145   

S&P 500 Health Care Index

     118           130           141           144   

 

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Purchase of Equity Securities

The following table contains information about our company’s purchases of equity securities during the quarter ended June 30, 2012:

 

Issuer Purchases of Equity Securities

 
Period    Total
Number of
Shares
Purchased1
     Average
Price Paid
per Share
     Total Number
of Shares
Purchased as
Part of Publicly
Announced
Program2
    

Approximate Dollar
Value of Shares that
May Yet Be
Purchased Under

the Publicly
Announced  Program3

 

April 1 – 30, 2012

     1,942,658       $ 25.74         1,942,658       $ 400   

May 1 – 31, 2012

     570       $ 25.50                 400   

June 1 – 30, 2012

     785       $ 24.54                 400   
  

 

 

       

 

 

    

Total

     1,944,013       $ 25.74         1,942,658       $ 400   
  

 

 

    

 

 

    

 

 

    

 

 

 

 

1 

Includes shares of common stock surrendered by employees upon vesting of restricted stock awards to meet tax withholding obligations and shares repurchased pursuant to our share repurchase program.

2 

In February 2012, we announced that our Board of Directors had approved a share repurchase program authorizing the repurchase of up to $500.0 million of our common stock through open market and private transactions. The share repurchase program is expected to continue through December 2013. During fiscal year 2012, we repurchased a total of 3.9 million shares of our common stock under the share repurchase program for an aggregate of $100.0 million (excluding commissions and fees). We expect to continue to manage the pacing of the remaining $400.0 million of purchases under this program based on market conditions and other relevant factors.

3 

Dollars in millions.

 

ITEM 6. SELECTED FINANCIAL DATA

The following table presents our selected historical condensed consolidated and combined financial data. The condensed consolidated and combined statements of income data for each of the three fiscal years in the period ended June 30, 2012 and the condensed consolidated balance sheet data as of June 30, 2012 and 2011 are derived from our audited consolidated and combined financial statements included elsewhere in this Annual Report on Form 10-K. The unaudited condensed combined statements of income data for fiscal years 2009 and 2008 and the unaudited condensed combined balance sheet data as of June 30, 2010, 2009 and 2008 are presented below.

Until our separation from Cardinal Health on August 31, 2009, CareFusion Corporation was a wholly owned subsidiary of Cardinal Health. Accordingly, our historical financial information for the fiscal year ended June 30, 2009 and prior years does not reflect our results as a separate, stand-alone company. In connection with the spinoff, Cardinal Health retained certain lines of business that manufacture and sell surgical and exam gloves, drapes and apparel and fluid management products in the United States markets that were historically managed by us prior to the spinoff and were part of the clinical and medical products business of Cardinal Health. These lines of businesses are reflected in the financial information included throughout this Annual Report on Form 10-K as discontinued operations. Since the spinoff, in furtherance of our business strategy, we have taken steps to expand our product offerings through acquisitions and to divest non-core businesses. The results of our Audiology business, International Surgical Products business and our Nicolet neurodiagnostics business, which we divested in October 2009, April 2011 and July 2012, respectively, are also reflected as discontinued operations. See note 3 to the audited consolidated and combined financial statements.

The selected historical condensed consolidated and combined financial and other operating data presented below should be read in conjunction with our audited consolidated and combined financial statements and accompanying notes and “Management’s Discussion and Analysis of Financial Condition and Results of

 

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Operations” included elsewhere in this Annual Report on Form 10-K. Our consolidated financial information may not be indicative of our future performance, and our financial information for periods prior to June 30, 2009 does not necessarily reflect what our financial position and results of operations would have been had we operated as an independent, publicly-traded company during such periods presented, including changes that occurred in our operations and capitalization as a result of the separation from Cardinal Health.

The information presented in the following table has been restated as a result of the revised revenue recognition practices for our dispensing sales-type leases, as is more fully described in the “Explanatory Note” immediately preceding Part I, Item 1 and in Note 2, “Revision of Previously Issued Consolidated and Combined Financial Statements,” to our Consolidated and Combined Financial Statements in Part II, Item 8.

 

     At or for the Fiscal Year Ended June 30, 1,2  
     2012     2011     2010      2009      2008  
(in millions)           As
Restated
    As
Restated
    

As

Restated

    

As

Restated

 

Statements of Income Data6:

            

Revenue

   $ 3,598      $ 3,440      $ 3,377       $ 3,080       $ 3,073   

Gross Margin

     1,804        1,768        1,691         1,578         1,556   

Operating Income3

     574        504        450         437         480   

Income before Income Tax

     487        425        345         342         406   

Income from Continuing Operations

     361        299        161         288         312   

Income (Loss) from Discontinued Operations, Net of Tax4

     (68     (50     33         294         336   

Net Income

     293        249        194         582         648   

Basic Earnings (Loss) per Common Share:

            

Continuing Operations

     1.62        1.34        0.73         1.31         1.41   

Discontinued Operations

     (0.31     (0.23     0.15         1.33         1.52   

Basic Earnings per Common Share

     1.31        1.11        0.88         2.63         2.94   

Diluted Earnings (Loss) per Common Share:

            

Continuing Operations

     1.60        1.32        0.72         1.31         1.41   

Discontinued Operations

     (0.30     (0.22     0.15         1.33         1.52   

Diluted Earnings per Common Share

     1.30        1.10        0.87         2.63         2.94   

Weighted-Average Number of Common Shares Outstanding5:

            

Basic

     223.7        222.8        221.5         220.5         220.5   

Diluted

     226.0        225.1        223.0         220.5         220.5   

Balance Sheet Data6:

            

Total Assets

   $ 8,488      $ 8,185      $ 7,900       $ 8,305       $ 8,261   

Long-Term Obligations, less Current Portion and Other Short-Term Borrowings7

     1,151        1,387        1,386         1,159         1,539   

Total Stockholders’ Equity or Parent Company Investment

     5,231        5,070        4,676         5,423         5,006   

 

1 

Amounts reflect business combinations for all periods presented. See note 4 to the audited consolidated and combined financial statements for further information regarding the impact of acquisitions on fiscal years 2010 through 2012. The company acquired the assets of Enturia, Inc. in fiscal year 2008.

2 

Amounts reflect restructuring and acquisition integration charges for all periods presented. Restructuring and acquisition integration charges were $33 million, $64 million, $15 million, $69 million and $35 million, in fiscal years 2012, 2011, 2010, 2009 and 2008, respectively.

3 

During fiscal year 2008, we incurred charges related to acquired in-process research and development of $18 million.

4 

A summary of our discontinued operations is presented in note 3 in the notes to the audited consolidated and combined financial statements.

5 

For fiscal year 2009 and earlier, basic and diluted earnings per common share are computed using the number of shares of common stock outstanding on August 31, 2009, the date on which CareFusion common stock was distributed to shareholders of Cardinal Health.

 

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6 

Fiscal years 2009 and 2008 Statements of Income Data and fiscal years 2010, 2009 and 2008 balance sheet data is unaudited.

7 

Includes the long-term portion of debt allocated from Cardinal Health. Total debt allocated by Cardinal Health was $1,281 million and $1,597 million as of June 30, 2009 and 2008, respectively.

 

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This management’s discussion and analysis of financial condition and results of operations (“MD&A”) presented below refer to and should be read in conjunction with the audited consolidated financial statements and related notes included in this Annual Report on Form 10-K.

Unless the context otherwise requires, references to “CareFusion Corporation”, “CareFusion”, “we”, “us”, “our” and “our company” refer to CareFusion Corporation and its consolidated subsidiaries. References in this Annual Report on Form 10-K to “Cardinal Health” refers to Cardinal Health, Inc. and its consolidated subsidiaries.

This MD&A contains restated results related to the modification of our method of accounting for our dispensing sales-type leases. See “Explanatory Note” immediately preceding Part I, Item 1 and Note 2, “Revision of Previously Issued Consolidated and Combined Financial Statements,” to our Consolidated and Combined Financial Statements in Part II, Item 8 for a detailed discussion of the modification and effect of the restatement.

Overview

We are a global medical technology company with proven and industry-leading products and services designed to measurably improve the safety, quality, efficiency and cost of healthcare. We offer comprehensive product lines in the areas of medication management, infection prevention, operation room (“OR”) effectiveness, respiratory care and surveillance and analytics. Our offerings include established brands used in hospitals throughout the United States and more than 130 countries worldwide. Our strategy is to enhance growth by focusing on healthcare safety and productivity, driving innovation and clinical differentiation, accelerating our global growth and pursuing strategic opportunities.

Our primary customers in the United States include hospitals, ambulatory surgical centers, clinics, long-term care facilities and physician offices. For the fiscal years ended June 30, 2012 and 2011, we generated revenue of $3.6 billion and $3.4 billion, respectively. We generated income from continuing operations of $361 million in fiscal year 2012 and $299 million in fiscal year 2011. Approximately 22% of our fiscal year 2012 revenue was from customers outside of the United States.

Separation from Cardinal Health

We were incorporated in Delaware on January 14, 2009 for the purpose of holding Cardinal Health, Inc.’s clinical and medical products businesses in anticipation of the spinoff from Cardinal Health. We completed the spinoff from Cardinal Health on August 31, 2009. In connection with the spinoff, Cardinal Health contributed the majority of the businesses comprising its clinical and medical products segment to us and distributed approximately 81% of our outstanding common stock, or approximately 179.8 million shares, to its shareholders. Cardinal Health retained approximately 19% of our outstanding common stock, or approximately 41.4 million shares, in connection with the spinoff. As of September 15, 2010, Cardinal Health had sold all remaining shares of our common stock retained in connection with the spinoff.

We have incurred one-time expenditures in connection with the separation from Cardinal Health (capital and expense), primarily associated with employee-related costs, costs to start up certain stand-alone functions and information technology systems and other one-time transaction related costs. In fiscal years 2012, 2011, and

 

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2010 we incurred approximately $3 million, $80 million, and $120 million, respectively, of these one-time expenditures. We have funded these costs through cash from operations and cash on hand. The capital portion of these expenditures is amortized over their useful lives and the other expenditures are expensed as incurred, depending on their nature. We now believe that all substantive expenditures associated with standing up operations from the spinoff are complete.

Additionally, we have incurred increased costs as an independent, publicly-traded company, primarily as a result of higher charges than in the past from Cardinal Health for transition services and from establishing or expanding the corporate support for our businesses, including information technology, human resources, treasury, tax, risk management, accounting and financial reporting, investor relations, legal, procurement and other services. We believe cash flow from operations will be sufficient to fund these additional corporate expenses going forward.

Factors Affecting Our Results of Operations

The Overall Global Economic Environment, Industry Growth and Trends

Healthcare-related industries are generally less susceptible than some other industries to fluctuations in the overall economic environment. However, some of our businesses rely on capital spending from our customers (primarily hospitals), which can be influenced by a variety of economic factors, including interest rates, access to financing and endowment fluctuations. Significant changes in these economic factors can affect the sales of our capital equipment products, such as infusion pumps, dispensing equipment and ventilators. Additionally, sales volumes for some of our businesses are dependent on hospital admissions. Changes in admissions due to difficult economic times can affect our results for surgical and single-use products, such as infusion and respiratory disposable sets, surgical instruments and skin antiseptic products.

Since the beginning of fiscal year 2009, challenges have existed in the capital equipment market from delays in hospital capital spending, as well as prioritization of capital spending. Despite seeing small signs of improvement in overall hospital capital spending, we continue to anticipate it will take some time before significant market improvements are realized and that prioritization will continue to be a significant factor as hospitals focus on attaining meaningful use capabilities within their information technology systems. We continue to believe that our Medical Systems business lines are well positioned to benefit from increases in hospital capital equipment spending as the market recovers over time.

Since 2010, procedural volumes in acute care facilities have decreased; although procedural volumes have been relatively stable during fiscal year 2012. Procedural volumes in acute care facilities represent one indicator for the demand of the disposable products sold within our Procedural Solutions operating segment. In addition to procedural volumes, demand for many of our Procedural Solutions products is created when physicians convert their existing practices away from legacy methods and adopt our clinically differentiated products. As a result, we believe our clinically differentiated product revenue has consistently outperformed trends in acute care facility procedural volumes.

Healthcare Reform

We are also affected by uncertainties in the healthcare industry related to healthcare reform. In March 2010, comprehensive healthcare reform was enacted in the United States through the passage of the Patient Protection and Affordable Health Care and the Health Care and Education Reconciliation Acts. Among other initiatives, the legislation provides for a 2.3% annual excise tax on the sales of certain medical devices in the United States, commencing in January 2013. We will record this excise tax as a selling, general and administrative expense, which will have an adverse affect on our operating expenses and results of operations. We currently expect the impact of the tax to be approximately $15 million to $20 million in our fiscal year 2013, rising to approximately $30 million to $40 million annually thereafter. In addition, as the United States federal government implements

 

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additional provisions of healthcare reform, we anticipate that Congress, regulatory agencies and certain state legislatures will continue to review and assess alternative healthcare delivery systems and payment methods with an objective of ultimately reducing healthcare costs and expanding access. The uncertainties regarding the implementation and impact of the enacted healthcare reform measures, as well as other potential reform initiatives in the future, may have an adverse effect on our customers’ purchasing decisions regarding our products and services.

Global Restructuring

During fiscal year 2011 our operations were impacted by our global restructuring program. This program, announced in August 2010 (the “2011 Plan”), was designed to reduce our cost structure and streamline operations, and was initially expected to result in a reduction of approximately 700 positions. The 2011 Plan resulted in a reduction of approximately 850 positions in fiscal 2011. This program provided operating expense savings of approximately $103 million in fiscal year 2011, primarily as a result of reducing headcount and eliminating unfilled positions. Of the $103 million of savings, approximately $65 million was a result of year over year savings in selling, general and administrative expense (“SG&A”) and lower cost of sales expense, and $38 million was a result of not filling open positions. The total expected restructuring costs associated with the 2011 Plan are approximately $50 million. Substantially all of the costs associated with the 2011 Plan were incurred as of June 30, 2011.

Innovation and New Products

Our business strategy relies significantly on innovation to develop and introduce new products and to differentiate our products from our competitors. Our investment expense in research and development during fiscal year 2012 was $164 million, or 5% of revenues. Looking forward, we remain committed to producing a pipeline of innovative products to continue to support our growth strategies. We plan to increase our research and development expenditures with internal initiatives, as well as licensing or acquiring technology from third parties. Our internal and external investments will be focused on initiatives that we believe will offer the greatest opportunity for growth and profitability. With a significant investment in research and development, a strong focus on innovation and a well-managed innovation process, we believe we can continue to innovate and grow. If, however, our future innovations are not successful in meeting customers’ needs or prove to be too costly versus their perceived benefit, our growth may slow.

International and Foreign Exchange

We sell our products in more than 130 countries and manufacture our products in six countries in North America, Europe, and Latin America. Due to the global nature of our business, our revenue and expenses are influenced by foreign exchange movements. In fiscal year 2012, approximately 16% of our sales were in currencies other than the United States dollar. Increases or decreases in the value of the United States dollar compared to other currencies will affect our reported results as we translate those currencies into United States dollars. The percentage of fiscal year 2012 sales by major currencies was as follows:

 

United States Dollar

     84

Euro

     7

British Pound

     4

All Other

     5
  

 

 

 
     100
  

 

 

 

Acquisitions and Divestitures

Acquisitions have historically played a role in our growth, and we have made several significant acquisitions in the last five years. Our business was formed principally through a series of acquisitions by Cardinal Health of

 

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established healthcare companies, including the acquisition in 2007 of VIASYS Healthcare Inc. (“Viasys”), a developer of respiratory care systems, and the acquisition in 2008 of the assets of Enturia, Inc. (“Enturia”), a manufacturer of skin-antiseptic products. Since our separation from Cardinal Health, we have taken steps to expand and refine our product offerings, including through the acquisitions and divestitures described below.

Acquisitions:

 

Date    Business
May 2010    Medegen, a manufacturer of clinically differentiated IV needleless access valves and administration sets, including our MaxGuard and MaxPlus products
April 2011    Vestara, a developer of technology solutions that enable the safe, efficient disposal and tracking of environmentally sensitive pharmaceutical waste
August 2011    Rowa, a German based company specializing in robotic medication storage and retrieval systems for retail and hospital pharmacies
April 2012    PHACTS, a technology and consulting company that helps hospital pharmacies better manage inventory, reduce pharmaceutical costs, and streamline operations
June 2012    UK Medical Holdings, a leading distributor of specialized medical products to the National Health Service and private healthcare sector in the United Kingdom
November 2012    Intermed, a leading respiratory technologies company based in Brazil

Divestitures:

 

Date    Business
October 2009    Audiology, a manufacturer and marketer of hearing diagnostic equipment
May 2010    Research Services, a clinical trial service provider to pharmaceutical firms
March 2011    OnSite Services, a surgical instrument management and repair service provider
April 2011    International Surgical Products, a distributor of medical supplies and surgical products outside the United States
July 2012    Nicolet, a manufacturer of neurodiagnostic monitoring equipment

Acquired In-Process Research and Development

During fiscal year 2010 we acquired and capitalized $45 million of in-process research and development (“IPR&D”) related to our acquisition of Medegen. The value of this IPR&D was calculated based on a discounted cash flow method, which involved a number of significant assumptions, including timing of product deployment, revenues, margin, and associated discount rates. Effective July 1, 2009, IPR&D associated with business combinations is initially recorded in the balance sheet at fair value and tested for impairment annually until it is put into service. Prior to July 1, 2009, all acquired IPR&D was expensed immediately. See note 11 to the audited consolidated financial statements.

The IPR&D associated with Medegen is related to certain products that are under development and are expected to be launched in the next one to two years. Completion of these products is subject to certain regulatory approvals and logistics surrounding manufacturing the end products cost effectively. The value of this IPR&D is reviewed for impairment annually or as changes in circumstance or the occurrence of events suggest that the remaining value may not be recoverable.

Product Quality and Recalls

Product quality, particularly in life saving and sustaining technologies, plays a critical role in our success. A quality or safety issue may result in public warning letters, product recalls or seizures, monetary sanctions,

 

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consent decrees, injunctions to halt manufacture and distribution of products, civil or criminal sanctions, refusal of a government to grant clearances or approvals or delays in granting such clearances or approvals, import detentions of products made outside the United States, restrictions on operations or withdrawal or suspension of existing approvals. Any of the foregoing events could disrupt our business and have an adverse effect on our results of operations and financial condition. In addition, recalls may negatively affect sales due to customer concerns about product quality. For the fiscal year ended June 30, 2012, net charges related to product recalls were $23 million. For fiscal year 2011, net charges related to product recalls were not material. For fiscal year 2010, net charges related to product recalls were $3 million.

We are operating under an amended consent decree with the FDA related to our infusion pump business in the United States. We entered into a consent decree with the FDA in February 2007 related to our Alaris SE pumps, and in February 2009, we and the FDA amended the consent decree (“amended consent decree”) to include all infusion pumps manufactured by or for CareFusion 303, Inc., our subsidiary that manufactures and sells infusion pumps in the United States. The amended consent decree does not apply to intravenous administration sets and accessories.

While we remain subject to the amended consent decree, which includes the requirements of the consent decree, we have made substantial progress in our compliance efforts. In accordance with the consent decree, we reconditioned Alaris SE pumps that had been seized by the FDA, remediated Alaris SE pumps in use by customers, and had an independent expert inspect the Alaris SE pump facilities and provide a certification to the FDA as to compliance. As result of these efforts, in January 2010, we announced that the FDA had given us permission to resume the manufacturing and marketing of our Alaris SE pumps. In accordance with the amended consent decree, and in addition to the requirements of the original consent decree, we also implemented a corrective action plan to bring the Alaris System and all other infusion pumps in use in the United States market into compliance, had our infusion pump facilities inspected by an independent expert, and had our recall procedures and all ongoing recalls involving our infusion pumps inspected by an independent recall expert. In July 2010, the FDA notified us that we can proceed to the audit inspection phase of the amended consent decree, which includes the requirement to retain an independent expert to conduct periodic audits of our infusion pump facilities. The amended consent decree authorizes the FDA, in the event of any violations in the future, to order us to cease manufacturing and distributing, recall products and take other actions. We may be required to pay damages of $15,000 per day per violation if we fail to comply with any provision of the amended consent decree, up to $15 million per year.

We cannot currently predict the outcome of this matter, whether additional amounts will be incurred to resolve this matter, if any, or the matter’s ultimate impact on our business. As of June 30, 2012, we do not believe that a loss is probable in connection with the amended consent decree, and accordingly, we have no reserves to cover any possible future costs and expenses of compliance with the amended consent decree. As such, we may be obligated to pay more costs in the future because, among other things, the FDA may determine that we are not fully compliant with the amended consent decree and therefore impose penalties under the amended consent decree, and/or we may be subject to future proceedings and litigation relating to the matters addressed in the amended consent decree.

In response to infusion product recalls and the amended consent decree, we have made substantial investments in quality systems and quality personnel headcount over the past several years. While we believe that we have made significant improvements to our product quality and overall quality systems, further quality concerns, whether real or perceived, could adversely affect our results. Conversely, improving quality can be a competitive advantage and improve our results.

Infusion Business and Market Developments

Our consolidated results have also been affected by developments within our infusion business and the infusion market in the United States. For several months of fiscal year 2009, we placed a hold on shipping the Alaris

 

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System while we sought FDA clearance for a software correction. We received the required clearance in July 2009, and we subsequently resumed shipments. This shipping hold resulted in a negative impact on our infusion revenues in fiscal year 2009. When we released the shipping hold in July 2009, we saw higher demand, which resulted in higher revenues for fiscal year 2010.

Because of safety concerns, the FDA has increased its scrutiny of infusion pumps. During fiscal year 2011, three of our competitors recalled their infusion pumps to correct safety concerns. In addition, a fourth was ordered by the FDA to recall and destroy as many as 200,000 of its infusion pumps and to provide refunds to its customers or replace pumps at no cost. As a result, there was increased demand for infusion pumps in the United States in fiscal year 2011 and 2012, as healthcare providers sought to replace or upgrade their existing equipment. We experienced increased demand for our infusion pumps as a result, which contributed to higher infusion revenues for fiscal year 2011 and 2012. In order to successfully compete in this business environment, we temporarily discounted the pricing on our infusion pumps, in some cases up to 30% or more. We believe that sales related to this opportunity are substantially complete as of June 30, 2012.

Income Taxes

Prior to the spinoff, our operations were included in Cardinal Health’s United States federal and state tax returns or non-United States jurisdictions tax returns. In connection with the spinoff, we and Cardinal Health entered into a tax matters agreement that governs the parties’ respective rights, responsibilities and obligations with respect to taxes. The tax matters agreement generally provides that the control of audit proceedings and payment of any additional liability related to our business is our responsibility.

For the period July 1, 2009 through the spinoff date from Cardinal Health on August 31, 2009, our operations were included in the consolidated income tax returns of Cardinal Health, however, income taxes were calculated and provided for CareFusion on a separate return basis for fiscal year 2010. The amount of liabilities related to income taxes prior to the spinoff that were retained by Cardinal Health are reflected in “Parent Company Investment” in the consolidated statements of stockholders’ equity. Commencing with the period beginning September 1, 2009, we began to file stand-alone income tax returns in the United States federal jurisdiction, various United States state jurisdictions and various foreign jurisdictions.

Basis of Presentation

The audited consolidated financial statements reflect the consolidated operations of CareFusion Corporation and its subsidiaries as a separate, stand-alone entity subsequent to August 31, 2009. Periods presented prior to our August 31, 2009 spinoff from Cardinal Health have been prepared on a stand-alone basis and are derived from the consolidated financial statements and accounting records of Cardinal Health. Certain lines of business that manufacture and sell surgical and exam gloves, drapes and apparel and fluid management products in the United States markets that were historically managed by us prior to the spinoff and were part of the clinical and medical products business of Cardinal Health, were retained by Cardinal Health as a result of the spinoff and are presented in these financial statements as discontinued operations. Our consolidated financial statements do not necessarily reflect what the results of operations, financial position and cash flows would have been had we operated as an independent, publicly-traded company during the periods prior to the spinoff from Cardinal Health.

Leading up to our spinoff from Cardinal Health, we organized our businesses into two reportable segments: Critical Care Technologies and Medical Technologies and Services. During the quarter ended September 30, 2011, we realigned our businesses into two new global operating and reporting segments, Medical Systems and Procedural Solutions, in order to reduce complexity, provide clearer governance for our investments and make it easier for our customers to do business with us. Our historical financial information for periods prior to September 30, 2011, have been reclassified to reflect the re-segmentation into these two new operating and reporting segments.

 

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The Medical Systems segment is organized around our medical equipment businesses. Within the Medical Systems segment, we operate our Dispensing Technologies, Infusion Systems and Respiratory Technologies business units. The Dispensing Technologies business unit includes equipment and related services for medication and supply dispensing. The Infusion Systems business unit includes infusion pumps and dedicated disposable infusion sets and accessories. The Respiratory Technologies business unit includes respiratory ventilators and dedicated disposable ventilator circuits and accessories. We also include our data mining surveillance service business within the Medical Systems segment, which we report as “Other.”

The Procedural Solutions segment is organized around our disposable products businesses. Within the Procedural Solutions segment, we operate our Infection Prevention, Medical Specialties and Specialty Disposables business units. The Infection Prevention business unit includes single-use skin antiseptic and other patient-preparation products and non-dedicated disposable IV infusion administration sets and accessories. The Medical Specialties business unit includes interventional specialty products used for biopsy, drainage and other procedures, as well as reusable surgical instruments. The Specialty Disposables business unit includes non-dedicated disposable ventilator circuits and oxygen masks used in respiratory therapy. We also include our respiratory diagnostics product line within the Procedural Solutions segment, which we report as “Other.”

CONSOLIDATED RESULTS OF OPERATIONS

Fiscal Year Ended June 30, 2012 Compared to Fiscal Year Ended June 30, 2011

Below is a summary of comparative results of operations and a more detailed discussion of results for the fiscal years ended June 30, 2012 and 2011:

 

     Fiscal Year Ended June 30,  
(in millions)    2012     

2011

As Restated

     Change  

Revenue

   $ 3,598       $ 3,440       $ 158   

Cost of Products Sold

     1,794         1,672         122   
  

 

 

    

 

 

    

 

 

 

Gross Margin

     1,804         1,768         36   

Selling, General and Administrative Expenses

     1,033         1,067         (34

Research and Development Expenses

     164         146         18   

Restructuring and Acquisition Integration Charges

     33         64         (31

Gain on the Sale of Assets

             (13      13   
  

 

 

    

 

 

    

 

 

 

Operating Income

     574         504         70   

Interest Expense and Other, Net

     87         79         8   
  

 

 

    

 

 

    

 

 

 

Income Before Income Taxes

     487         425         62   

Provision for Income Taxes

     126         126           
  

 

 

    

 

 

    

 

 

 

Income from Continuing Operations

     361         299         62   

Discontinued Operations

        

Loss from the Disposal of Discontinued Businesses, Net of Tax

     (78      (45      (33

Income (Loss) from the Operations of Discontinued Businesses, Net of Tax

     10         (5      15   
  

 

 

    

 

 

    

 

 

 

Loss from Discontinued Operations, Net of Tax

     (68      (50      (18

Net Income

   $ 293       $ 249       $ 44   
  

 

 

    

 

 

    

 

 

 

 

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Revenue

The following table presents the revenue information for select business units within each of our reporting segments for the fiscal years ended June 30, 2012 and 2011:

 

     Fiscal Year Ended June 30,  
(in millions)    2012     

2011

As Restated

     Change  

Medical Systems

        

Dispensing Technologies

   $ 1,038       $ 910       $ 128   

Infusion Systems

     955         889         66   

Respiratory Technologies

     295         267         28   

Other

     26         24         2   
  

 

 

    

 

 

    

 

 

 

Total Medical Systems

   $ 2,314       $ 2,090       $ 224   

Procedural Solutions1

        

Infection Prevention

   $ 576       $ 568       $ 8   

Medical Specialties

     317         322         (5

Specialty Disposables

     266         304         (38

Other

     125         156         (31
  

 

 

    

 

 

    

 

 

 

Total Procedural Solutions

   $ 1,284       $ 1,350       $ (66

Total CareFusion

   $ 3,598       $ 3,440       $ 158   
  

 

 

    

 

 

    

 

 

 

 

1 

Reflects the impact of businesses reclassified to discontinued operations. See note 3 to the consolidated and combined financial statements.

Revenue in our Medical Systems segment increased 11% to $2,314 million compared to the prior fiscal year. Revenue increased largely as a result of increased sales of $128 million and $66 million for our Dispensing Technologies and Infusion Systems business units, respectively.

Revenue in our Dispensing Technologies business unit increased $128 million primarily as a result of new business from competitive displacements, increased renewals and upgrades from existing customers, and the year over year impact of our acquisition of Rowa ($79 million).

Revenue in our Infusion Systems business unit increased $66 million as a result of organic business growth in both capital and dedicated disposable products and continued sales growth and demand for our infusion pumps.

Revenue in our Procedural Solutions segment decreased by 5% to $1,284 million compared to the prior fiscal year. The revenue decrease is primarily attributable to decreased revenues from the Specialty Disposables business unit ($38 million) and the impact of the sale of the Onsite Services business, which had $32 million in sales in the prior year. These decreases were partially offset by year over year growth in our Infection Prevention business unit ($8 million).

Gross Margin and Cost of Products Sold

Gross margin increased 2% to $1,804 million compared to the prior fiscal year. As a percentage of revenue, gross margin was 50.1% and 51.4% for fiscal year 2012 and 2011, respectively.

The overall increase in gross margin was primarily the result of higher sales associated with our Infusion Systems and Dispensing Technologies business units. Margin as a percentage of revenue decreased primarily as a result of temporarily discounting the pricing on our infusion pumps. During fiscal 2012, a large infusion pump manufacturer was required to remove one of its product lines from the market in connection with a FDA recall. In order to successfully compete in this business environment, we temporarily discounted the pricing on our infusion pumps, in some cases up to 30% or more.

 

 

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Selling, General and Administrative and Research and Development Expenses

SG&A and Research and Development expenses decreased 1% to $1,197 million compared to the prior fiscal year. The decrease was primarily due to a decrease in SG&A expenses ($34 million) primarily related to lower one-time costs associated with our spinoff from Cardinal Health incurred in fiscal year 2012 compared to costs incurred in the prior fiscal year ($47 million), and partially offset by an increase in Research and Development expenses ($18 million).

Restructuring and Acquisition Integration Charges

Restructuring and acquisition integration charges decreased $31 million to $33 million compared to the prior fiscal year primarily due to lower restructuring costs associated with the 2011 Plan ($38 million). In addition to the 2011 Plan, we periodically incur costs to implement smaller restructuring efforts for specific operations. These restructuring plans focus on various aspects of operations, including closing and consolidating certain manufacturing operations, rationalizing headcount and aligning operations in the most strategic and cost-efficient structure.

Operating Income

Segment profit in our Medical Systems segment increased $83 million to $465 million compared to the prior fiscal year. The 22% increase in segment profit was primarily driven by higher revenue in our Infusion Systems and Dispensing Technologies business units, and a decrease in SG&A expenses ($34 million) primarily related to lower one-time costs associated with our spinoff from Cardinal Health incurred in fiscal year 2012 compared to costs incurred in the prior fiscal year ($47 million).

Segment profit in our Procedural Solutions segment remained flat at $109 million compared to the prior fiscal year.

Interest Expense and Other

Interest expense and other, net increased 10% to $87 million compared to the prior fiscal year. This increase was primarily related to the impact of foreign currency exchange ($8 million).

In general, gains and losses resulting from foreign currency exchange rates are related to the remeasurement of receivables and payables, which are denominated in currencies other than the functional currency of the subsidiary which holds the receivable or payable and are netted with any associated fair value hedging activities entered into to minimize this exposure. See note 16 to the consolidated and combined financial statements.

Provision for Income Taxes

Income tax expense remained flat at $126 million compared to the prior fiscal year. The effective tax rate for fiscal year 2012 was 25.9% compared to 29.9% for fiscal year 2011. The decrease in the effective tax rate was primarily due to a decrease in discrete tax expense in fiscal year 2012 compared to the prior fiscal year as well as the change in income mix by jurisdiction.

Generally, fluctuations in our effective tax rate are primarily due to changes within international and state effective tax rates resulting from our business mix and changes in the tax impact of restructuring and acquisition integration charges and other discrete items, which may have unique tax implications depending on the nature of the item.

We are currently before the IRS Appeals office for the fiscal years 2003 through 2007, and we are engaged in substantive discussions with the IRS Appeals office related to our 2003 through 2005 fiscal years. It is reasonably possible that we will reach a favorable settlement with the IRS in relation to the fiscal years 2003 through 2005 within the next twelve months.

 

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During the quarter ended September 30, 2011, we commenced the tax audit for the fiscal years 2008 and 2009 and the short period July 1, 2009 through August 31, 2009 as part of Cardinal Health’s tax audit of its federal consolidated returns for fiscal years 2008 through 2010. Furthermore, during the quarter ended December 31, 2011, the IRS commenced the tax audit for the short period September 1, 2009 through June 30, 2010.

We believe that we have provided adequate contingent tax reserves for these matters. However, if upon the conclusion of these audits, the ultimate determination of taxes owed is for an amount that is materially different than our current reserves, our overall tax expense and effective tax rate may be materially impacted in the period of adjustment.

In January 2013, the American Taxpayer Relief Act of 2012 was signed into law in the United States. This legislation includes the temporary extension of several expired business tax incentives retroactively to calendar year 2012 and prospectively through calendar year 2013. Among the extended tax provisions was the research and development tax credit and look-through treatment of payments between related controlled foreign corporations. The effects of the change in the tax law will be recognized in our third quarter of fiscal year 2013, which is the quarter the law was enacted. Had the legislation been enacted during the reporting period, our income tax expense would have been reduced by approximately $1.8 million for fiscal year 2012.

For additional detail regarding the provision for income taxes, see note 14 to the consolidated and combined financial statements.

Loss from Discontinued Operations, Net of Tax

Loss from discontinued operations, net of tax totaled $68 million for fiscal year 2012 compared to loss from discontinued operations of $50 million for fiscal year 2011. The increase is a result of a loss from the disposal of the Nicolet business, which we classified as discontinued operations during fiscal year 2012 and divested in July 2012. Additionally, included in discontinued operations in the prior year are results from the International Surgical Products business, which was sold on April 1, 2011.

On July 1, 2012, we completed the sale of the Nicolet business, resulting in an additional $5 million loss recorded in discontinued operations for the quarter ended September 30, 2012 primarily related to tax impact from the sale.

See note 3 to the consolidated and combined financial statements for further information related to these discontinued operations.

 

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Fiscal Year Ended June 30, 2011 Compared to Fiscal Year Ended June 30, 2010

Below is a summary of comparative results of operations and a more detailed discussion of results for the fiscal years ended June 30, 2011 and 2010:

 

     Fiscal Year Ended June 30,  
(in millions)    2011
    As Restated    
   

2010

    As Restated    

        Change      

Revenue

   $ 3,440      $ 3,377      $ 63   

Cost of Products Sold

     1,672        1,686        (14
  

 

 

   

 

 

   

 

 

 

Gross Margin

     1,768        1,691        77   

Selling, General and Administrative Expenses

     1,067        1,090        (23

Research and Development Expenses

     146        148        (2

Restructuring and Acquisition Integration Charges

     64        15        49   

Gain on the Sale of Assets

     (13     (12     (1
  

 

 

   

 

 

   

 

 

 

Operating Income

     504        450        54   

Interest Expense and Other, Net

     79        105        (26
  

 

 

   

 

 

   

 

 

 

Income Before Income Taxes

     425        345        80   

Provision for Income Taxes

     126        184        (58
  

 

 

   

 

 

   

 

 

 

Income from Continuing Operations

     299        161        138   

Discontinued Operations

      

Loss from the Disposal of Discontinued Businesses, Net of Tax

     (45     (8     (37

Income (Loss) from the Operations of Discontinued Businesses, Net of Tax

     (5     41        (46
  

 

 

   

 

 

   

 

 

 

Income (Loss) from Discontinued Operations, Net of Tax

     (50     33        (83

Net Income

   $ 249      $ 194      $ 55   
  

 

 

   

 

 

   

 

 

 

Revenue

The following table presents the revenue information for select business units within each of the reporting segments for the fiscal years ended June 30, 2011 and 2010:

 

     Fiscal Year Ended June 30,  
(in millions)   

2011

    As Restated    

    

2010

    As Restated    

         Change      

Medical Systems

        

Dispensing Technologies

   $ 910       $ 868       $ 42   

Infusion Systems

     889         840         49   

Respiratory Technologies

     267         338         (71

Other

     24         25         (1
  

 

 

    

 

 

    

 

 

 

Total Medical Systems

   $ 2,090       $ 2,071       $ 19   

Procedural Solutions1

        

Infection Prevention

   $ 568       $ 463       $ 105   

Medical Specialties

     322         310         12   

Specialty Disposables

     304         300         4   

Other

     156         233         (77
  

 

 

    

 

 

    

 

 

 

Total Procedural Solutions

   $ 1,350       $ 1,306       $ 44   

Total CareFusion

   $ 3,440       $ 3,377       $ 63   
  

 

 

    

 

 

    

 

 

 

 

1 

Reflects the impact of businesses reclassified to discontinued operations. See note 3 to the consolidated and combined financial statements.

 

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Revenue in our Medical Systems segment increased 1% to $2,090 million compared to the prior fiscal year. Revenue increased largely as a result of increased sales of $49 million and $42 million for our Infusion Systems and Dispensing Technologies business units, respectively, which was partially offset by decreased revenue of $71 million for our Respiratory Technologies business unit.

Revenue in our Infusion Systems business unit increased $49 million as a result of organic business growth in both capital and dedicated disposable products. These increases were partially offset by a decrease in revenues of $40 million as a result of the benefit during fiscal 2010 from the release of the shipping hold on the Alaris System in July 2009. Also affecting the year over year revenue change was the downward adjustment to revenue for the quarter ended September 30, 2009 associated with a revised estimate of accrued rebates to distributors.

Revenue in our Dispensing Technologies business unit increased $42 million primarily as a result of new business and competitive displacements.

During fiscal year 2010, Respiratory Technologies revenues were strong due to increased demand resulting from emergency preparedness efforts, including preparations for an anticipated severe flu season. As a result of restrained customer spending, a light flu season, and lower hospital admissions, we experienced lower capital product revenues and decreased utilization of our disposable respiratory products in fiscal year 2011.

Revenue in our Procedural Solutions segment increased by $44 million to $1,350 million compared to the prior fiscal year. The 3% revenue increase is primarily attributable to growth in our Infection Prevention and Medical Specialties business units of $105 million and $12 million, respectively, due to the year over year impact of our acquisition of Medegen in May 2010 ($57 million). Partially offsetting these increases was decreased revenue attributable to the impact of divesting our Onsite Services and Research Services businesses ($77 million).

Gross Margin and Cost of Products Sold

Gross margin increased by $77 million to $1,768 million compared to the prior fiscal year. As a percentage of revenue, gross margin was 51.4% and 50.1% for fiscal year 2011 and 2010, respectively.

The 5% increase in gross margin was primarily the result of higher sales associated with our Infusion Systems, Dispensing Technologies, and Infection Prevention business units. Margin as a percentage of revenue increased as a result of favorable changes in product sales mix, with higher sales in our Infusion Systems and Dispensing Technologies business units, which generally have higher margins; and lower sales in our Respiratory Technologies business unit, which generally has lower margins. Also improving our gross margin percentage were the impacts of our 2011 Plan and favorable manufacturing cost reductions. Manufacturing savings resulted from: (a) cost benefits recognized through strategic sourcing of raw materials; (b) manufacturing efficiencies associated with lean transformation; and (c) reduced overhead spending.

Selling, General and Administrative and Research and Development Expenses

SG&A and Research and Development expenses decreased by $25 million to $1,213 million compared to the prior fiscal year. This 2% decrease is primarily a result of savings associated with the 2011 Plan and reduced operating expenses associated with the divestiture of our Research Services business in May 2010 ($23 million). These decreases were partially offset by increased expenses associated with our acquisition of Medegen in May 2010 and increasing investment in our selling organization. Included within our SG&A expenses are certain one-time costs associated with our spinoff from Cardinal Health of $50 million and $59 million for fiscal year 2011 and 2010, respectively.

Restructuring and Acquisition Integration Charges

Restructuring and acquisition integration charges increased $49 million to $64 million compared to the prior fiscal year. The increase is primarily a result of charges associated with the 2011 Plan. We incurred charges of approximately $46 million during fiscal year 2011 associated with the 2011 Plan.

 

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Gain on the Sale of Assets

In March of fiscal 2011, we completed the sale of our Onsite Services business, which was historically part of our Procedural Solutions segment. The pre-tax gain related to the disposition was approximately $15 million, which was partially offset by an adjustment to the gain on sale related to the fiscal 2010 sale of our Research Services business. See note 3 to the consolidated and combined financial statements.

Operating Income

Segment profit in our Medical Systems segment increased $34 million to $382 million compared to the prior fiscal year. The 10% increase in segment profit was primarily driven by higher revenue in our Infusion Systems and Dispensing Technologies business units and reductions in overhead spending. Partially offsetting this increase were lower revenues from our Respiratory Technologies business unit ($71 million).

Segment profit in our Procedural Solutions segment increased $19 million to $109 million compared to the prior fiscal year. The 21% increase in segment profit is primarily attributable to the impact of an increase in revenue associated with our Infection Prevention and Medical Specialties business units of $105 million and $12 million, respectively. Partially offsetting these increases was decreased revenue attributable to the impact of divesting our Onsite Services and Research Services businesses ($77 million).

Interest Expense and Other

Interest expense and other, net decreased by $26 million to $79 million compared to the prior fiscal year. This 25% decrease was primarily related to a one-time write-off of debt issuance and related costs of $22 million associated with the bridge loan facility, which was terminated on August 31, 2009 and recorded during fiscal year 2010, as well as foreign currency gains ($3 million) and lower net interest expense in fiscal year 2011 ($5 million).

Provision for Income Taxes

Income tax expense decreased 32% to $126 million compared to the prior fiscal year. The effective tax rate for fiscal year 2011 was 29.9% compared to 53.3% for fiscal year 2010. The decrease in the effective tax rate was primarily due to a decrease in discrete tax expense in fiscal year 2011 compared to the prior fiscal year.

During fiscal year 2010, we completed a detailed analysis of our tax reserves prompted by new information related to our potential tax positions, tax liabilities, and tax planning strategies. For this analysis, we retained third-party advisors to assist in assessing whether, based on the new information, our tax risks had changed, and whether additional reserves in excess of those already recorded were necessary. Based on this analysis, we increased our existing reserves and recorded a change in estimate of approximately $58 million as a charge to net income for the quarter ended March 31, 2010. Also during fiscal year 2010, the disposition of our Research Services business resulted in additional tax expense, primarily due to the write-off of non-deductible goodwill associated with the disposition.

For additional detail regarding the provision for income taxes, see note 14 to the consolidated and combined financial statements

Income (Loss) from Discontinued Operations, Net of Tax

Loss from discontinued operations, net of tax totaled $50 million for fiscal year 2011 compared to income from discontinued operations of $33 million for fiscal year 2010. The decrease is a result of a loss from the disposal of the International Surgical Products business, which we divested in fiscal year 2011 and the current year impact of the loss from the disposal of the Nicolet business, which we classified as discontinued operations in fiscal year 2012. Additionally, included in discontinued operations in the prior year are (a) two months of results from certain lines of business that manufactured and sold surgical and exam gloves, drapes and apparel and fluid

 

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management products in the U.S. markets that were historically managed by us prior to the spinoff and were part of the clinical and medical products business of Cardinal Health, and were retained by Cardinal Health as a result of the spinoff, (b) results from the company’s former Audiology business, which produced and marketed hearing diagnostic equipment, which was sold on October 1, 2009 and (c) results from the International Surgical Products business, which was sold on April 1, 2011.

Liquidity and Capital Resources

Overview

Historically, we have generated, and expect to continue to generate, positive cash flow from operations. Cash flow from operations primarily represents inflows from net income (adjusted for depreciation and other non-cash items) and outflows from investment in sales-type leases entered into, as we sell and install dispensing equipment, and other increases in working capital needed to grow the business. Cash flows from investing activities represent our investment in intellectual property and capital equipment required to grow our business, as well as acquisitions. In fiscal year 2012, cash outflows from financing activities were primarily related to the share repurchase program, as discussed below.

Our cash balance at June 30, 2012 was $1,648 million. Of this balance, $1,265 million is held outside of the United States and is denominated in United States dollars as well as other currencies. In August 2012, we used $250 million of our cash balances to repay upon maturity $250 million of our outstanding senior notes, as discussed below. We believe that our current domestic cash flow from operations and domestic cash balances are sufficient to meet domestic operating needs. It is our intention to indefinitely reinvest all current and future foreign earnings in order to ensure sufficient working capital and expand existing operations outside the United States. Additionally, we intend to fund foreign acquisitions primarily through the use of unrepatriated cash held by foreign subsidiaries. However, should our domestic cash needs exceed our current or future domestic cash flows, we could repatriate foreign cash or utilize our senior unsecured revolving credit facility, both of which would result in increased expense.

We believe that our future cash from operations together with our access to funds available under our senior unsecured revolving credit facility and the capital markets will provide adequate resources to fund both short-term and long-term operating requirements, capital expenditures, acquisitions and new business development activities.

In February 2012, our Board of Directors approved a share repurchase program authorizing the repurchase of up to $500 million in shares of our common stock through open market and private transactions. The share repurchase program is expected to continue through December 2013. The cost of repurchased shares is included in treasury stock and reported as a reduction in total equity when a repurchase occurs. Approximately $100 million of purchases (excluding commissions and fees) were made under this program at June 30, 2012. We expect to continue to manage the pace of the remaining $400 million of purchases under this program based on market conditions and other relevant factors.

Sources and Uses of Cash

The following table summarizes our consolidated statements of cash flows from continuing operations for the fiscal years ended June 30, 2012, 2011, and 2010:

 

     Fiscal Year Ended June 30,  
(in millions)        2012        

    2011    

As Restated

   

    2010    

As Restated

 

Cash Flow Provided by/(Used in)

      

Operating Activities

   $ 648      $ 332      $ 648   

Investing Activities

   $ (238   $ (18   $ (249

Financing Activities

   $ (99   $ 34      $ (1

 

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Fiscal Years Ended June 30, 2012 and June 30, 2011

Net operating cash flow from continuing operations increased $316 million to $648 million for the year ended June 30, 2012 compared to the prior year. The increase is primarily due to the impact of cash inflows associated with trade receivables of $229 million, which is attributable to improved collections as a result of system stabilizations gained post-implementation and increased focus on collections from customers in Europe. An increase in income from continuing operations of $62 million also impacted the increase in operating cash flow at June 30, 2012. Additionally, activities within operating assets and liabilities, including inventories, accounts payable, sales-type leases, other accrued liabilities and other operating items, contributed to an increase in cash flow of $48 million from the prior year. These increases in cash flow were offset by decreases in cash flow from the impact of non-cash items of $23 million.

Net cash used in continuing operations from investing activities increased $220 million for the year ended June 30, 2012 compared to the prior year primarily due to an increase in amounts paid for acquisitions of $171 million and a decrease in amounts received for divestitures of $85 million. During the year ended June 30, 2012, we completed the acquisitions of Rowa, PHACTS and UK Medical Holdings. The increase in cash paid for acquisition was offset by a decrease in cash outflows associated with long-lived asset investment activities of $36 million.

Net cash used in continuing operations from financing activities increased $133 million for the year ended June 30, 2012 compared to the prior year. This increase is largely due to initiation of the share repurchase program, which resulted in an increase in cash outflow of $100 million compared to the prior year. Further, net cash transferred through discontinued operations resulted in a decrease of $24 million compared to prior years’ discontinued operation activities. The remaining decrease of $9 million is the result of other financing activities.

Fiscal Years Ended June 30, 2011 and June 30, 2010

Net operating cash flow from continuing operations decreased $316 million to $332 million for the year ended June 30, 2011 compared to the prior year. The decrease is due to the impact of cash outflows associated with other accrued liabilities and operating items of $399 million primarily attributable to changes in income taxes payable, increases in uncertain tax position reserves, and employee incentive compensation that was accrued at June 30, 2010 and paid during the fiscal year ended June 30, 2011. At June 30, 2011, accrued employee incentive compensation balances were significantly lower than similar accruals at June 30, 2010. Additionally, there was a decrease in cash flow associated with accounts receivable as a result of temporary delays in collections as a result of new system implementations of $149 million and a decrease in cash flow associated with inventory of $97 million. These decreases in operating cash flow were partially offset by increases in income from continuing operations of $138 million and the impact of non-cash items of $180 million, primarily attributable to changes in deferred income taxes.

Net cash used in continuing operations from investing activities decreased $231 million for the year ended June 30, 2011 compared to the prior year primarily due to a reduction in amounts paid for acquisitions and an increase in amounts received for divestitures. During the year ended June 30, 2011 we purchased Vestara and divested our OnSite Services and International Surgical Products businesses.

Net cash provided by continuing operations from financing activities increased $35 million for the year ended June 30, 2011 compared to the prior year. During the year ended June 30, 2010, we received proceeds from the issuance of debt of $1,378 million and utilized these proceeds to pay a dividend to Cardinal Health of $1,374 million associated with our spinoff. The remaining year over year change was primarily due to the change in amounts transferred to us from Cardinal Health before our spinoff of $46 million, partially offset by transfers with our discontinued operations of $56 million, and our payments of debt issuance costs of $29 million during the year ended June 30, 2010.

 

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Capital Resources

Senior Unsecured Notes.    On July 14, 2009, we offered and sold $1.4 billion aggregate principal amount of senior unsecured notes. The net proceeds of the offering, $1.374 billion, were subsequently distributed as a dividend payment to Cardinal Health as part of the spinoff. The notes were issued in the following tranches:

 

   

$250 million aggregate principal amount of 4.125% senior notes due 2012;

   

$450 million aggregate principal amount of 5.125% senior notes due 2014; and

   

$700 million aggregate principal amount of 6.375% senior notes due 2019.

In August 2012, we used $250 million in cash to repay upon maturity the $250 million aggregate principal amount of 4.125% senior notes due 2012.

The indenture for the senior notes limits our ability to incur certain secured debt and enter into certain sale and leaseback transactions. In accordance with the indenture, we may redeem the senior notes prior to maturity at a price that would equal or exceed the outstanding principal balance, as defined. In addition, if we undergo a change of control and experience a below investment grade rating event, we may be required to repurchase all of the senior notes at a purchase price equal to 101% of the principal balance plus any accrued and unpaid interest.

In connection with the issuance of the senior notes, we entered into a registration rights agreement with the initial purchasers of the notes pursuant to which we agreed to file a registration statement with the SEC to conduct an exchange offer for the notes. In accordance with the registration rights agreement, we filed a Form S-4 with the SEC and conducted an exchange offer for the notes, which we completed on February 4, 2010. The purpose of the exchange offer was to allow the holders of the senior notes, which were issued in a private placement transaction and were subject to transfer restrictions, to exchange their notes for new notes that did not have these restrictions and are registered under the Securities Act. All of the outstanding senior notes were exchanged in the exchange offer.

Revolving Credit Facility.    In July 2011, we entered into a five-year senior unsecured revolving credit facility with an aggregate available principal amount of $550 million. Effective as of December 10, 2012, we increased the aggregate commitments available under the credit facility from $550 million to $750 million, pursuant to the exercise of the accordion feature under the credit facility. At June 30, 2012, we had no amounts outstanding under the credit facility.

The credit facility matures on July 6, 2016. Borrowings under the credit facility bear interest at a rate per annum based upon the British Bankers Association LIBOR Rate or the alternate base rate, in each case plus an applicable margin, which varies based upon CareFusion’s debt ratings. The credit facility also requires us to pay a quarterly commitment fee to the lenders under the credit facility on the amount of the lender’s unused commitments thereunder based upon CareFusion’s debt ratings.

The credit facility contains several customary covenants including, but not limited to, limitations on liens, subsidiary indebtedness, dispositions, and transactions with affiliates. In addition, the credit facility contains financial covenants requiring us to maintain a consolidated leverage ratio of no more than 3.50:1.00 as of the end of any period of four fiscal quarters, and a consolidated interest coverage ratio of at least 3.50:1.00 as of the end of any period of four fiscal quarters. The credit facility is subject to customary events of default, including, but not limited to, non-payment of principal or other amounts when due, breach of covenants, inaccuracy of representations and warranties, cross-default to other material indebtedness, certain ERISA-related events, certain voluntary and involuntary bankruptcy events, and change of control.

The failure to timely file this Annual Report on Form 10-K and our Quarterly Report on Form 10-Q for the quarter ended September 30, 2012 resulted in a breach of our covenant under the credit facility to periodically deliver our financial statements to the lenders. We obtained waivers from the lenders under the credit facility,

 

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and we now have until April 30, 2013 to deliver to the lenders the financial statements included in this Annual Report on Form 10-K, the Quarterly Report on Form 10-Q for the quarter ended September 30, 2012 and the Quarterly Report on Form 10-Q for the quarter ended December 31, 2012; provided, however, that the waiver shall terminate earlier if we receive a notice of an event of default under the indenture for our outstanding senior notes and we fail to cure or obtain a waiver for such event of default within 60 days after receipt thereof.

Terminated Bridge Loan and Credit Facilities.    On July 1, 2009, we entered into a senior unsecured bridge loan facility (the “bridge loan facility”) to provide financing for an aggregate principal amount of $1.4 billion, with a term of 364 days from the date of any funding, for payment of the dividend to Cardinal Health as part of our spinoff. As the senior unsecured note offering was successfully completed prior to the separation, those proceeds were used to finance the payment of the dividend to Cardinal Health in lieu of drawing on the bridge loan facility. As a result, the bridge loan facility was terminated on August 31, 2009. In connection with this termination, we expensed approximately $22 million of capitalized fees to interest expense in the quarter ended September 30, 2009.

On July 1, 2009, we also entered into a 364-day senior unsecured revolving credit facility with an aggregate principal amount of $240 million and a three-year senior unsecured revolving credit facility with an aggregate principal amount $480 million and a maturity date of August 30, 2012. The 364-day credit facility expired undrawn on August 30, 2010. In July 2011, in connection with the five-year credit facility discussed above, we terminated the three-year credit facility.

Dividends

We currently intend to retain any earnings to finance research and development, acquisitions and the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future. In addition, we use our excess cash to fund our share repurchase program. The declaration and payment of any dividends in the future by us will be subject to the sole discretion of our board of directors and will depend upon many factors, including our financial condition, earnings, capital requirements of our operating subsidiaries, covenants associated with certain of our debt obligations, legal requirements, regulatory constraints and other factors deemed relevant by our board of directors. Moreover, should we pay any dividend in the future, there can be no assurance that we will continue to pay such dividends.

Contractual Obligations

As of June 30, 2012, our contractual obligations, including estimated payments due by fiscal year, are as follows:

 

     Payments Due by Fiscal Year  
(in millions)    2013      2014-2015      2016-2017      Thereafter      Total  

Long-Term Debt1

   $ 250       $ 454       $ 3       $ 705       $ 1,412   

Capital Lease Obligations2

     1                                 1   

Other Long-Term Liabilities3

     74         53         14         2         143   

Interest on Long-Term Debt4

     70         117         89         97         373   

Operating Leases5

     37         62         40         17         156   

Purchase Obligations6

     269         16         2                 287   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Financial Obligations

   $ 701       $ 702       $ 148       $ 821       $ 2,372   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

 

1 

Represents maturities of our long-term debt obligations, excluding capital lease obligations described below, as described in note 13 to the consolidated and combined financial statements. Amounts are presented gross of debt issuance discounts of $11 million at June 30, 2012.

2 

Represents maturities of our capital lease obligations included within long-term debt in the consolidated balance sheet and the related estimated future interest payments.

3 

Represents cash outflows by period for certain of our long-term liabilities in which cash outflows could be reasonably estimated. Certain long-term liabilities, such as unrecognized tax benefits of $301 million and

 

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  deferred taxes of $644 million, tax associated accruals of $126 million, deferred compensation obligations of $16 million and other long-term liabilities of $17 million, have been excluded from the table above because of the inherent uncertainty of the underlying tax positions or because of the inability to reasonably estimate the timing of any cash outflow. See note 14 to the consolidated and combined financial statements for additional information.
4 

Interest obligation is calculated based on each outstanding debt stated or coupon rate, or existing variable rate as of June 30, 2012, as applicable.

5 

Represents minimum rental payments and the related estimated future interest payments for operating leases having initial or remaining non-cancelable lease terms as described in note 15 to the consolidated and combined financial statements.

6 

Purchase obligations are defined as an agreement to purchase goods or services that is enforceable and legally binding and specifying all significant terms, including the following: fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and approximate timing of the transaction. The purchase obligation amounts disclosed above represent estimates of the maximum for which we are obligated and the time period in which cash outflows will occur. Purchase orders and authorizations to purchase that involve no firm commitment from either party are excluded from the above table. In addition, contracts that can be unilaterally cancelled with no termination fee or with proper notice are excluded from our total purchase obligations except for the amount of the termination fee or the minimum amount of goods that must be purchased during the requisite notice period.

In addition to the contractual obligations set forth above, we expect that we will make payments to the IRS related to ongoing appeals of prior tax years under audit. We are currently before the IRS Appeals office for fiscal years 2003 through 2007. In addition, we have commenced federal income tax audits for fiscal years 2008 through 2010. We believe that we have provided adequate reserves for these matters. However, if upon the conclusion of these audits, the ultimate determination of taxes owed is for an amount that is materially different than our current reserves, our overall tax expense and effective tax rate may be materially impacted in the period of adjustment. Further, even if we are adequately reserved for these matters, final settlement would require us to make a cash payment to the IRS, which could be material. If we determine to repatriate foreign cash or utilize our revolving credit facility to fund the payment to the IRS, it may result in increased costs. See note 14 to the consolidated and combined financial statements for further information.

Off-Balance Sheet Arrangements

At June 30, 2012, we did not have any off-balance sheet arrangements.

Critical Accounting Policies and Sensitive Accounting Estimates

Our discussion and analysis of our results of operations and liquidity and capital resources are based on our audited consolidated financial statements, which have been prepared in accordance with United States Generally Accepted Accounting Principles (“GAAP”). The preparation of these audited consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and disclosure of contingent assets and liabilities. Critical accounting policies are those accounting policies that can have a significant effect on the presentation of our financial condition and results of operations, and require use of complex and subjective estimates based upon past experience, trends, and management’s judgment. We evaluate our estimates and judgments on an ongoing basis and believe our estimates to be reasonable. Other companies applying reasonable judgment to the same facts and circumstances could develop different estimates. Because of the uncertainty inherent in such estimates, actual results may differ from these estimates. Below are those policies applied in preparing our audited consolidated financial statements that management believes are the most dependent on the application of estimates and assumptions. For additional accounting policies, see note 1 to the consolidated and combined financial statements.

 

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Revenue Recognition

We generate revenue through the sale and lease of equipment, software, services, medical products, supplies, and the income associated with the financing of our equipment leases. We recognize revenue when:

 

   

persuasive evidence of an arrangement exists;

   

product delivery has occurred or the services have been rendered;

   

the price is fixed or determinable; and

   

collectability is reasonably assured.

The timing of revenue recognition and the amount of revenue actually recognized in each case depends on a variety of factors, including the specific terms of each arrangement and the nature of our obligations. Determination of the appropriate amount of revenue recognized may involve subjective or complex judgments and estimates that we believe are reasonable, but actual results may differ from our estimates. The significant judgments and uncertainties that are sufficiently sensitive and could result in material differences under other assumptions and conditions are those described below.

Evaluation of the Significance of Embedded Software

We sell and lease products with embedded software. We regularly review these products to determine whether embedded software is more than incidental to the product as a whole. If the embedded software is more than incidental to the product as a whole, the product is classified as a software product unless it is determined that the tangible elements and software elements of the product work together to deliver the essential functionality of the product as a whole.

We consider the following characteristics to be indicators that embedded software is more than incidental to the product as whole:

 

   

software is a significant focus of the marketing effort or the software application is sold separately;

   

significant internally developed software costs have been incurred; and

   

if we provide telephone support, bug-fixes, and/or unspecified upgrades specific to the embedded software.

The evaluation process is often complex and subject to significant judgment as the products exhibit varying degrees of the indicators identified above, such as:

 

   

certain products are marketed as systems or solutions wherein it is implied, but not explicitly stated within marketing and sales collateral, that embedded software provides the basis for significant functionalities identified within the marketing efforts;

   

internal software development costs are incurred during the product development process;

   

separately priced extended warranty services provide post-installation support relative to repair parts and services and also include telephone support and bug-fixes for the software embedded within the products; and

   

we are required by law to provide medical safety related bug-fixes for products with embedded software elements.

In evaluating whether the tangible elements and software elements of the product together deliver the essential functionality of the product as a whole, we consider the following factors:

 

   

the frequency in which tangible elements are sold separately from the software elements; and

   

whether the non-software elements substantively contribute to the essential functionality of the product.

 

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Although we believe the software embedded within our infusion products, when sold with safety software, patient identification products, and certain diagnostic equipment is more than incidental to the product as a whole, the tangible elements and software elements work together to deliver the essential functionality of these products as a whole and therefore these products are not classified as software. We have determined the embedded software within our other products, primarily our dispensing and respiratory products, is incidental to the products as a whole. Those products are therefore not classified as software.

Generally, we classify our stand alone software application sales and any related post contract support related to these sales as software.

Revenue Recognition for Leases

We evaluate our lease transactions to determine the classification of the leases against the following criteria:

 

   

The lease transfers ownership of the property to the lessee by the end of the lease term;

   

There is a bargain purchase option;

   

The lease term is equal to or greater than 75% of the economic life of the equipment; or

   

The present value of the minimum lease payments are equal to or greater than 90% of the fair market value of the equipment at the inception of the lease.

If a lease meets at least one of the criteria above and collectibility of the minimum lease payments is reasonably predictable and there are no important uncertainties surrounding the amount of unreimbursable costs yet to be incurred under the lease, the lease is classified as a sales-type lease. All other leases are classified as operating leases.

The economic life of our leased products is the estimated remaining period during which the capital equipment products are expected to be economically usable by one or more users, with normal repairs and maintenance, for the purpose for which they were intended at the lease inception, without limitation by the lease term. The value of our products is driven principally by their technological features and is subject to obsolescence due to advancements in technological features of next generation models. We consider the economic life of our technology-dependent capital equipment products to be five years based on the anticipated future technological advances of our products or that of our competitors. Additionally, five years represents the most frequent contractual lease term for our technology-dependent principal products and virtually none of our leases are for original terms longer than five years. Our product configurations are customized for each customer’s specific specifications, and there is no significant after-market for our used equipment and the equipment is not re-leased upon return. Upon return of the leased products, they are broken down and certain parts are reclaimed, but most of the parts are scrapped or discarded. Thus, we believe five years is representative of the period during which the technology-dependent products are expected to be economically usable at the inception of the lease. Residual values, if any, are established at lease inception using estimates of the fair value of reclaimable component parts of the products at the end of the lease term.

We are required to estimate the fair value of our leased products for the purposes of lease classification and determination of the interest rate implicit in the lease. We determine the estimate of fair value of our leased products based upon transacted cash sales of the same or similar products to similar classes of customers in the preceding twelve month period. The fair value estimation process is subject to significant judgment. Our products are sold at a wide range of cash selling prices. We stratify our cash selling prices of similar products by similar classes of customers based upon GPO or IDN affiliation. We believe the characteristics of the GPO or IDN, including size, volume, pre-negotiated trade discounts, and preferred provider relationship, is an appropriate basis to stratify our customer classes and related transacted cash sales to establish the normal selling price reflective of any volume or trade discounts for that class of customer. The interest rate implicit to the sales-type lease is used to determine the amount of revenue recognized at the inception of the lease and is derived as the interest rate which causes the fair value of the equipment to equal the present value of the minimum lease payments and the present value of the leased asset’s residual value.

 

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Multiple Element Arrangements

The majority of our transactions qualify as multiple element arrangements. We use the relative selling price method to allocate contract proceeds to non-software products, which are then individually recognized to revenue. The selling price used for each deliverable is based on vendor-specific objective evidence if available, third-party evidence if vendor-specific objective evidence is not available, or management’s estimated selling price if neither vendor-specific objective evidence or third-party evidence is available.

The determination of vendor-specific objective evidence estimates associated with our products and services is generally based on historical evidence of sales of the same product in stand-alone transactions and the contract renewal prices for post-contract support and separately priced extended warranty services. The determination of third-party evidence is generally based on market data on sales of similar products and services, if available; however in most cases we and our competitors execute large multiple element arrangements which reduces our ability to determine the prices for individual products and services. Management’s best estimate of selling price is developed consistent with the price at which we would transact if the deliverable were sold by the vendor regularly on a stand-alone basis. In determining estimated selling price, we generally consider the following: stand alone sales prices, established price lists, costs to produce, profit margins for similar products, market conditions, and customer stratification.

For software and software related products, we use the relative fair value method to allocate contract proceeds to each unit of accounting; whereby the evidence used in the determination of fair value estimates are based solely on vendor-specific objective evidence. To the extent that fair value evidence does not exist for delivered elements of the transaction, we apply the residual method.

Different conclusions as to the existence and valuation of selling price estimates may significantly affect the timing and valuation of revenue recognition, the classification of leasing transactions, and the classification of revenue as product, service, rental or other income. It is impossible to determine the effects of potential different conclusions as they relate to the existence or valuation of selling price estimates.

Business Combinations

Assumptions and estimates are used to determine the fair value of assets acquired and liabilities assumed in a business combination. A significant portion of the purchase price in many of our acquisitions is assigned to intangible assets, which requires management to use significant judgment in determining fair value. Current and future amortization expense for such intangibles is affected by purchase price allocations and by the assessment of estimated useful lives of such intangibles, excluding goodwill. We believe the assets recorded and the useful lives established are appropriate based upon current facts and circumstances.

In conjunction with the review of a transaction, the status of the acquired company’s research and development projects is assessed to determine the existence of IPR&D. In connection with certain acquisitions, we are required to estimate the fair value of acquired IPR&D, which requires selecting an appropriate discount rate and estimating future cash flows for each project. Management also assesses the current status of development, nature and timing of efforts to complete such development, uncertainties and other factors when estimating the fair value. Costs are not assigned to IPR&D unless future development is probable. Beginning with acquisitions completed on or after July 1, 2009, IPR&D is recorded as an unamortized intangible asset until the underlying products are either completed and put into service, which would require commencing amortization over the estimated product life, or determining the products will not complete development, which would require impairing the portion of IPR&D associated with that product. Until either determination is made, IPR&D is subject to periodic impairment review, with impairments, if any, expensed to our consolidated statement of income. During fiscal year 2010, we completed the acquisition of Medegen, which resulted in approximately $45 million of IPR&D associated with new products under development being recorded as an intangible asset. The timing and recognition of both the in service date for these products as well as the potential of impairment involves significant judgment.

 

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Goodwill and Other Intangibles

Goodwill and indefinite lived intangible assets are subject to impairment reviews annually, and whenever indicators of impairment exist. Intangibles with definite lives are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the asset might not be recoverable.

In conducting the annual impairment test of our goodwill, the fair value of our reporting units is compared to its carrying amount, including goodwill. If the fair value exceeds the carrying amount, then no impairment exists. If the carrying amount exceeds the fair value, further analysis is performed to assess impairment. We perform our impairment testing at the operating segment level. There are no fluid active or inactive markets for our operating segments to derive approximate fair values, and accordingly, the valuation process is similar to the valuation of a closely-held company and considers valuation methods that are income-based and market-based. Our income-based approach is a discounted cash flow method which utilizes an estimated discount rate to the projected after-tax cash flows for the operating segment. Our market-based approach utilizes an estimated market-based multiple to the operating segments’ estimated earnings before interest, taxes, depreciation and amortization (“EBITDA”). The results of the income-based and market-based approaches are equally weighted to arrive at the total estimated fair value for each operating segment. Based on our annual impairment test as of the fourth quarter of fiscal year 2012, we did not record any goodwill or other indefinite lived intangibles impairments.

The application of valuation methods requires significant judgment regarding appropriate inputs and assumptions and results in our best estimate of the fair value of an operating segment. As with any estimate, inputs and assumptions can be subject to varying degrees of uncertainty. Informed market participants can differ in their perception of value for a reporting unit. It is possible that one of our operating segments could experience goodwill impairment in the future.

Restructuring and Acquisition Integration Charges

We separately identify restructuring and acquisition integration charges in SG&A expenses. A restructuring activity is a program whereby we fundamentally change our operations such as closing facilities, moving a product to another location or outsourcing the production of a product. Restructuring activities may also involve substantial re-alignment of the management structure of a business unit in response to changing market conditions.

Acquisition integration charges are activities and costs to integrate acquired companies into the operations of our existing activities, including such functions as selling, manufacturing, information systems, and corporate related functions.

The majority of the charges related to restructuring and acquisition integration can be classified in one of the following categories: employee-related costs, exit costs (including lease termination costs), asset impairments, and other integration costs. Employee-related costs include severance and termination benefits. Lease termination costs include lease cancellation fees, forfeited deposits and remaining payments due under existing lease agreements less estimated sublease income. Other facility exit costs include costs to move equipment or inventory out of a facility as well as other costs incurred to shut down a facility. Asset impairment costs include the reduction in value of our assets as a result of the integration or restructuring activities.

See note 6 to the consolidated and combined financial statements for additional information.

Provision for Income Taxes

Prior to August 31, 2009, our income taxes as presented are calculated on a separate tax return basis, although our operations were historically included in Cardinal Health's United States federal and state tax returns or non-United States jurisdictions tax returns. Cardinal Health's global tax model was developed based on its entire portfolio of businesses. Accordingly, our tax results for periods prior to August 31, 2009 are not necessarily reflective of the results that we would have generated on a stand-alone basis.

 

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Our income tax expense, deferred tax assets and liabilities and measurement of uncertain tax positions reflect management's assessment of estimated future taxes to be paid on items in the consolidated and combined financial statements.

The proper treatment of various tax issues, including transfer pricing, are subjective determinations that depend on the specific facts and circumstances at issue. To estimate contingent tax reserves, management first concludes whether our positions are more likely than not to be sustained upon examination, including resolution of any related appeals or litigation processes. The reserve is then determined by evaluating and weighing the technical merits of alternative methodologies against each other and concluding on the positions that provide the largest amount of tax benefit that is more likely than not of being realized upon ultimate resolution. To the extent there are any administrative or case law developments that provide additional evidence in favor or against the valuation methodologies utilized, the contingent tax reserve will be adjusted in the period that such developments occur.

Loss Contingencies

We accrue for contingencies related to litigation and other claims arising out of our business based on degree of probability and range of possible loss. An estimated loss contingency is accrued in the consolidated financial statements if it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Because these claims are often inherently unpredictable and unfavorable resolutions could occur, assessing contingencies is highly subjective and requires judgments about future events. We regularly review contingencies to determine the adequacy of the accruals and related disclosures. The amount of ultimate loss may differ from these estimates.

Share-Based Compensation

We maintain a stock incentive plan that provides for awards of non-qualified and incentive stock options, restricted stock, restricted stock units and performance stock units for the benefit of certain of our officers, directors and employees. At the time of the spinoff, Cardinal Health converted or adjusted outstanding stock options, restricted shares and restricted share units (collectively, “share-based awards”) with respect to Cardinal Health common shares held by Cardinal Health and CareFusion employees. The manner of conversion for each employee was determined based on the date of the original share-based award and the employment status of the employee at the spinoff date of August 31, 2009.

We record share-based compensation expense for the share-based awards held by our employees, regardless of whether such share-based awards are based on common stock of CareFusion or common shares of Cardinal Health, with the offsetting impact recorded to “Additional Paid-In Capital” in our consolidated balance sheets. The fair value of stock options granted by CareFusion during the fiscal years ended June 30, 2012, 2011, 2010 and subsequent to the spinoff, was estimated by CareFusion utilizing a Black-Scholes-Merton valuation model. The fair value of performance stock units granted by CareFusion during fiscal year 2011 was estimated by CareFusion utilizing a Monte Carlo valuation model.

Our estimate of fair value depends on a complex process that requires the estimation of future uncertain events. These events, estimates of which are entered within the valuation model include, but are not limited to, stock price volatility, the expected life, expected dividend yield and forfeiture rates. Once fair values are determined, current accounting practices do not permit them to be changed, even if the estimates used in the valuation model are different from actual results. We are required to compare our estimated share-based forfeiture rates to actual forfeiture rates and record any adjustments as necessary. See note 21 to the consolidated and combined financial statements for additional information regarding share-based compensation including the valuation process.

 

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New Accounting Pronouncements

See note 1 to the consolidated and combined financial statements included in Part II, Item 8 of this Form 10-K for a description of recently issued accounting pronouncements, including the expected dates of adoption and estimated effects on our results of operations, financial positions and cash flows.

 

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

In the normal course of business, our operations are exposed to risks associated with changes in interest rates and foreign exchange rates. We seek to manage these risks using hedging strategies that involve the use of derivative instruments. We do not enter into any derivative agreements for trading or speculative purposes.

While we believe we have designed an effective risk management program, there are inherent limitations in our ability to forecast our exposures, and therefore, we cannot guarantee that our programs will completely mitigate all risks associated with unfavorable movement in either foreign exchange rates or interest rates.

Additionally, the timing of the recognition of gains and losses related to derivative instruments can be different from the recognition of the underlying economic exposure. This may impact our consolidated operating results and financial position.

Interest Rate Risk

Interest income and expense on variable-rate instruments are sensitive to fluctuations in interest rates across the world. Changes in interest rates primarily affect the interest earned on our cash and equivalents and to a significantly lesser extent the interest expense on our debt. We seek to manage our interest rate risk by using derivative instruments such as swaps with financial institutions to hedge our risks on a portion of our probable future debt issuances. In general, we may hedge material interest rate exposures up to several years before the forecasted transaction; however, we may choose not to hedge some exposures for a variety of reasons including prohibitive economic costs.

To the extent that forward interest rate swap agreements qualify for hedge accounting, the gain (loss) will be recorded to Other Comprehensive Income (“OCI”) and reclassified into earnings in the same line item associated with the forecasted transaction and in the same period during which the hedged transaction affects earnings. The ineffective portion of the gain (loss) on the derivative instrument is recognized in earnings immediately.

As of June 30, 2012, the notional amount of forward interest rate swap derivative instruments outstanding was $750 million with an estimated fair value loss of approximately $17 million. The agreements require us to make payments based on fixed interest rates and receive payments based on variable benchmark LIBOR interest rates. There were no interest rate swap derivative instruments outstanding as of June 30, 2011.

As of June 30, 2012, substantially all of our outstanding debt balances are fixed rate debt. While changes in interest rates will have no impact on the interest we pay on this debt, interest on any borrowings under our revolving credit facility will be exposed to interest rate fluctuations as the rate on this facility is variable. In July 2011, we terminated our three-year, $480 million senior unsecured revolving credit facility and replaced it with a five-year, $550 million senior unsecured revolving credit facility. Effective as of December 10, 2012, we increased the aggregate commitments available under our five-year senior unsecured revolving credit facility from $550 million to $750 million, pursuant to the exercise of the accordion feature under the credit facility. At June 30, 2012, there were no outstanding amounts under our five-year senior unsecured revolving credit facility.

 

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The tables below present information about our investment portfolio and debt obligations:

 

     June 30, 2012  
     Maturing in Fiscal Year     Fair
Market
Value 3
 
(in millions)    2013     2014     2015     2016     2017     Thereafter     Total    

ASSETS

                

Cash and Cash Equivalents

                

Cash

   $ 303      $      $      $      $      $      $ 303      $ 303   

Cash Equivalents

   $ 1,345      $      $      $      $      $      $ 1,345      $ 1,345   

Weighted Average Interest Rate1

     0.09                                        0.09       

LIABILITIES

                

Debt Obligations

                

Fixed Rate Debt2

   $ 250      $ 2      $ 452      $ 2      $ 1      $ 705      $ 1,412      $ 1,576   

Weighted Average Coupon Rate

     4.12     3.47     5.12     3.47     2.65     6.35     5.55       

Other Obligations

   $ 1      $      $      $      $      $      $ 1      $ 1   

Weighted Average Interest Rate

     7.32     12.43                                 8.54       

 

     June 30, 2011  
     Maturing in Fiscal Year     Fair
Market
Value 3
 
(in millions)    2012     2013     2014      2015     2016      Thereafter     Total    

ASSETS

                  

Cash and Cash Equivalents

                  

Cash

   $ 138      $      $       $      $       $      $ 138      $ 138   

Cash Equivalents

   $ 1,232      $      $       $      $       $      $ 1,232      $ 1,232   

Weighted Average Interest Rate1

     0.21                                          0.21       

LIABILITIES

                  

Debt Obligations

                  

Fixed Rate Debt2

   $      $ 250      $       $ 450      $       $ 700      $ 1,400      $ 1,547   

Weighted Average Coupon Rate

            4.13             5.13             6.38     5.57       

Other Obligations

   $ 1      $ 1      $       $      $       $      $ 2      $ 2   

Weighted Average Interest Rate

     6.70     7.15                                   7.49       

 

1 

Represents weighted average interest rate for cash equivalents only; cash balances generally earn no interest.

2 

Fixed rate notes are presented gross of $11 million and $14 million purchase discount at June 30, 2012 and June 30, 2011, respectively.

3 

The estimated fair value of our long-term obligations and other short-term borrowings was $1,577 million and $1,549 million at June 30, 2012 and June 30, 2011, respectively. The fair value of our senior notes at June 30, 2012 and 2011 was based on quoted market prices. The fair value of the other obligations at June 30, 2012 and June 30, 2011, was based on either the quoted market prices for the same or similar debt and the current interest rates offered for debt or estimated based on discounted cash flows.

Foreign Currency Risk

We are a global company with operations in multiple countries and are a net recipient of currencies other than the United States dollar (USD). Accordingly, a strengthening of the USD will negatively impact revenues and gross margins expressed in consolidated USD terms.

Currently, we have foreign exchange risk associated with currency exposure related to existing assets and liabilities, committed transactions, forecasted future cash flows and net investments in foreign subsidiaries. We seek to manage our foreign exchange risk by using derivative instruments such as forwards, swaps and options with financial institutions to hedge our risks. In general, we may hedge material foreign exchange exposures up to twelve months in advance; however, we may choose not to hedge some exposures for a variety of reasons including prohibitive economic costs.

 

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The realized and unrealized gains and losses of foreign currency forward contracts and the re-measurement of foreign denominated receivables, payables and loans are recorded in the consolidated statements of income. To the extent that cash flow hedges qualify for hedge accounting, the gain or loss on the forward contract will be recorded to OCI. As the forecasted exposures affect earnings, the realized gain or loss on the forward contract will be moved from OCI to the consolidated statements of income.

The following table provides information about our foreign currency derivative instruments outstanding as of June 30, 2012 and June 30, 2011:

 

     June 30, 2012      June 30, 2011  
(in millions)    Notional
Amount
    Average
Contract
Rate
     Notional
Amount
     Average
Contract
Rate
 

Foreign Currency Forward Contracts:

          

(Receive USD/pay foreign currency)

          

Euro

   $ 1        1.2       $ 153         1.4   

Australian Dollar

     21        1.0         36         1.0   

New Zealand Dollar

     7        0.8         9         0.8   

South African Rand

     2        8.5         2         7.2   

Mexico Peso

                    7         12.0   

Canadian Dollar

     14        1.0         1         1.0   

Swiss Franc

     2        1.0         3         0.9   

Japanese Yen

     2        79.4                   

British Pound

                    47         1.6   
  

 

 

      

 

 

    

Total

   $ 49         $ 258      
  

 

 

      

 

 

    

Estimated Fair Value

   $         $      
  

 

 

      

 

 

    

Foreign Currency Forward Contracts:

          

(Pay USD/receive foreign currency)

          

Mexican Peso

   $ 23        13.8       $ 33         12.0   

Euro

     1        1.2                   

Indian Rupee

     1        57.4                   

Swiss Franc

     11        1.0         14         0.9   

British Pound

     13        1.6         1         1.6   
  

 

 

      

 

 

    

Total

   $ 49         $ 48      
  

 

 

      

 

 

    

Estimated Fair Value

   $ (1      $ 1      
  

 

 

      

 

 

    

Foreign Currency Forward Contracts:

          

(Pay foreign currency/receive Euros)

          

British Pound

   $ 8        0.8       $ 7         0.9   
  

 

 

      

 

 

    

Total

   $ 8         $ 7      
  

 

 

      

 

 

    

Estimated Fair Value

   $         $      
  

 

 

      

 

 

    

Commodity Price Risk Management

We purchase commodities such as resins, printed circuit boards, latex, various fuel products and polystyrene, among others for use in our manufacturing processes. We typically purchase these commodities at market prices, and as a result are affected by market price fluctuations. We have decided not to hedge these exposures as they are deemed immaterial.

 

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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

CAREFUSION CORPORATION

INDEX TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS AND SCHEDULE

 

     Page
No.
 

Consolidated and Combined Financial Statements:

  

Report of Independent Registered Public Accounting Firm

     59   

Consolidated and Combined Statements of Income for the Fiscal Years Ended June  30, 2012, 2011 and 2010

     60   

Consolidated Balance Sheets at June 30, 2012 and 2011

     61   

Consolidated and Combined Statements of Stockholders’ Equity for the Fiscal Years Ended June  30, 2012, 2011 and 2010

     62   

Consolidated and Combined Statements of Cash Flows for the Fiscal Years Ended June  30, 2012, 2011 and 2010

     63   

Notes to Consolidated and Combined Financial Statements

     64   

Financial Statement Schedule:

  

Schedule II — Valuation and Qualifying Accounts

     176   

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and

Stockholders of CareFusion Corporation

We have audited the accompanying consolidated balance sheets of CareFusion Corporation as of June 30, 2012 and 2011, and the related consolidated and combined statements of income, stockholders’ equity, and cash flows for each of the three years in the period ended June 30, 2012. Our audits also included the financial statement schedule at Item 15(a)(2). These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of CareFusion Corporation at June 30, 2012 and 2011, and the consolidated and combined results of its operations and its cash flows for each of the three years in the period ended June 30, 2012, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), CareFusion Corporation’s internal control over financial reporting as of June 30, 2012, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated January 31, 2013 expressed an adverse opinion thereon.

/s/ Ernst & Young LLP

San Diego, California

January 31, 2013

 

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CAREFUSION CORPORATION

CONSOLIDATED AND COMBINED STATEMENTS OF INCOME

 

     Fiscal Year Ended June 30,  
(in millions, except per share amounts)    2012     2011
As Restated
   

2010

As Restated

 

Revenue

   $ 3,598      $ 3,440      $ 3,377   

Cost of Products Sold

     1,794        1,672        1,686   
  

 

 

   

 

 

   

 

 

 

Gross Margin

     1,804        1,768        1,691   

Selling, General and Administrative Expenses

     1,033        1,067        1,090   

Research and Development Expenses

     164        146        148   

Restructuring and Acquisition Integration Charges

     33        64        15   

Gain on the Sale of Assets

            (13     (12
  

 

 

   

 

 

   

 

 

 

Operating Income

     574        504        450   

Interest Expense and Other, Net

     87        79        105   
  

 

 

   

 

 

   

 

 

 

Income Before Income Tax

     487        425        345   

Provision for Income Tax

     126        126        184   
  

 

 

   

 

 

   

 

 

 

Income from Continuing Operations

     361        299        161   

Discontinued Operations:

      

Loss from the Disposal of Discontinued Businesses, Net of Tax

     (78     (45     (8

Income (Loss) from the Operations of Discontinued Businesses, Net of Tax

     10        (5     41   
  

 

 

   

 

 

   

 

 

 

Income (Loss) from Discontinued Operations, Net of Tax

     (68     (50     33   
  

 

 

   

 

 

   

 

 

 

Net Income

   $ 293      $ 249      $ 194   
  

 

 

   

 

 

   

 

 

 

PER SHARE AMOUNTS:

      

Basic Earnings (Loss) per Common Share:

      

Continuing Operations

   $ 1.62      $ 1.34      $ 0.73   

Discontinued Operations

   $ (0.31   $ (0.23   $ 0.15   

Basic Earnings per Common Share

   $ 1.31      $ 1.11      $ 0.88   

Diluted Earnings (Loss) per Common Share:

      

Continuing Operations

   $ 1.60      $ 1.32      $ 0.72   

Discontinued Operations

   $ (0.30   $ (0.22   $ 0.15   

Diluted Earnings per Common Share

   $ 1.30      $ 1.10      $ 0.87   

Weighted-Average Number of Common Shares Outstanding:

      

Basic

     223.7        222.8        221.5   

Diluted

     226.0        225.1        223.0   

See accompanying notes to consolidated and combined financial statements

 

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CAREFUSION CORPORATION

CONSOLIDATED BALANCE SHEETS

 

(in millions, except per share data)   

June 30,

2012

   

June 30,

2011

As Restated

 
ASSETS   

Current Assets:

    

Cash and Cash Equivalents

   $ 1,648      $ 1,370   

Trade Receivables, Net

     441        528   

Current Portion of Net Investment in Sales-Type Leases

     374        400   

Inventories, Net

     390        360   

Prepaid Expenses

     25        27   

Other Current Assets

     167        143   

Current Assets of Discontinued Operations

     73        40   
  

 

 

   

 

 

 

Total Current Assets

     3,118        2,868   
  

 

 

   

 

 

 

Property and Equipment, Net

     431        449   

Net Investment in Sales-Type Leases, Less Current Portion

     978        920   

Goodwill

     3,039        2,933   

Intangible Assets, Net

     831        818   

Other Assets

     91        89   

Non-Current Assets of Discontinued Operations

            108   
  

 

 

   

 

 

 

Total Assets

   $ 8,488      $ 8,185   
  

 

 

   

 

 

 
LIABILITIES AND EQUITY   

Current Liabilities:

    

Current Portion of Long-Term Obligations and Other Short-Term Borrowings

   $ 251      $ 1   

Accounts Payable

     176        197   

Deferred Revenue

     62        67   

Accrued Compensation and Benefits

     139        132   

Other Accrued Liabilities

     286        205   

Current Liabilities of Discontinued Operations

     19        17   
  

 

 

   

 

 

 

Total Current Liabilities

     933        619   
  

 

 

   

 

 

 

Long-Term Obligations, Less Current Portion

     1,151        1,387   

Deferred Income Taxes

     644        631   

Other Liabilities

     529        478   
  

 

 

   

 

 

 

Total Liabilities

     3,257        3,115   
  

 

 

   

 

 

 

Commitments and Contingencies

    

Stockholders’ Equity:

    

Preferred Stock (50.0 Authorized Shares; $.01 Par Value) Issued and Outstanding — None

              

Common Stock (1,200.0 Authorized Shares; $.01 Par Value) Issued and Outstanding — 221.4 and 223.6 shares at June 30, 2012 and June 30, 2011, respectively.

     2        2   

Treasury Stock, at cost, 4.1 and 0.1 at June 30, 2012 and June 30, 2011, respectively

     (105     (3

Additional Paid-In Capital

     4,759        4,712   

Retained Earnings

     663        370   

Accumulated Other Comprehensive Loss

     (88     (11
  

 

 

   

 

 

 

Total Stockholders’ Equity

     5,231        5,070   
  

 

 

   

 

 

 

Total Liabilities and Stockholders’ Equity

   $ 8,488      $ 8,185   
  

 

 

   

 

 

 

See accompanying notes to consolidated and combined financial statements

 

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CAREFUSION CORPORATION

CONSOLIDATED AND COMBINED STATEMENTS OF STOCKHOLDERS’ EQUITY

 

(in millions)   Common Stock     Treasury Stock     Parent
Company
Investment
    Additional
Paid-In
Capital
    Retained
Earnings
    Accumulated
Other
Compreh
-ensive Loss
    Total
Equity
 
  Shares     Amount     Shares     Amount            

Balances at June 30, 2009 (As Previously Reported)

         $             $      $ 5,506      $      $      $ (55   $ 5,451   

Adjustments

                                (28                          (28
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balances at June 30, 2009

(As Restated)

                                5,478                      (55     5,423   

Net Transfers from Parent

                                1,453                             1,453   

Businesses Retained by Cardinal Health

                                (1,006                   26        (980

Dividend to Cardinal Health

                                (1,374                          (1,374

Conversion of Net Investment in CareFusion into Capital (As Restated)

    221.2        2                      (4,624     4,622                        

Comprehensive Income:

                 

Net Income from July 1, 2009 to August 31, 2009 (As Restated)

                                73                             73   

Net Income from September 1, 2009 to June 30, 2010 (As Restated)

                                              121               121   

Foreign Currency Translation Adjustments

                                                     (64     (64

Net Unrealized Loss on Derivatives

                                                     5        5   

Net Change in Minimum Pension Liability

                                                     (1     (1

Other

                                                     4        4   
                 

 

 

 

Total Comprehensive Income: (As Restated)

                    138   
                 

 

 

 

Share-Based Compensation, net

    0.6                                    71                      71   

Other

    0.5                                    (55                   (55
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balances at June 30, 2010
(As Restated)

    222.3      $ 2             $      $      $ 4,638      $ 121      $ (85   $ 4,676   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive Income:

                 

Net Income (As Restated)

                                              249               249   

Foreign Currency Translation Adjustments

                                                     74        74   

Net Change in Minimum Pension Liability

                                                     3        3   

Other

                                                     (3     (3
                 

 

 

 

Total Comprehensive Income:
(As Restated)

                    323   
                 

 

 

 

Share-Based Compensation, net

    1.3               0.1        (3            72                      69   

Other

                                       2                      2   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balances at June 30, 2011
(As Restated)

    223.6      $ 2        0.1      $ (3   $      $ 4,712      $ 370      $ (11   $ 5,070   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive Income:

                 

Net Income

                                              293               293   

Foreign Currency Translation Adjustments

                                                     (64     (64

Net Unrealized Loss on Derivatives

                                                     (13     (13

Net Change in Minimum Pension Liability

                                                     (4     (4

Other

                                                     4        4   
                 

 

 

 

Total Comprehensive Income:

                                                            216   
                 

 

 

 

Share-Based Compensation, net

    1.7               0.1        (2            47                      45   

Share Repurchase Program

    (3.9            3.9        (100                                 (100
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balances at June 30, 2012

    221.4      $ 2        4.1      $ (105   $      $ 4,759      $ 663      $ (88   $ 5,231   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

See accompanying notes to consolidated and combined financial statements

 

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CAREFUSION CORPORATION

CONSOLIDATED AND COMBINED STATEMENTS OF CASH FLOWS

 

    Fiscal Year Ended
June 30,
 
(in millions)   2012    

2011

As Restated

   

2010

As Restated

 

Cash and Cash Equivalents at July 1, Attributable to Continuing Operations

  $ 1,370      $ 982      $ 604   

Cash and Cash Equivalents at July 1, Attributable to Discontinued Operations

  $ 1      $ 37      $ 179   
 

 

 

   

 

 

   

 

 

 

Cash Flows from Operating Activities:

     

Net Income

    293        249        194   

Income (Loss) from Discontinued Operations, Net of Tax

    (68     (50     33   
 

 

 

   

 

 

   

 

 

 

Income from Continuing Operations

    361        299        161   

Adjustments to Reconcile Income from Continuing Operations to Net Cash Provided by Operating Activities:

     

Depreciation and Amortization

    198        186        167   

Share-Based Compensation Expense

    51        65        67   

Deferred Income Taxes

    18        58        (122

Gain on the Sale of Assets

    2        (13     (12

Bridge Loan Facility Fees

                  22   

Other Non Cash Items

    30        26        20   

Change in Operating Assets and Liabilities, Net of Effects from Acquisitions:

     

Trade Receivables

    90        (139     10   

Inventories

    (25     (42     55   

Net Investment in Sales-Type Leases

    (32     (30     (25

Accounts Payable

    (25     41        25   

Other Accrued Liabilities and Operating Items, Net

    (20     (119     280   
 

 

 

   

 

 

   

 

 

 

Net Cash Provided by Operating Activities — Continuing Operations

    648        332        648   

Net Cash (Used in)/Provided by Operating Activities — Discontinued Operations

    6        (9     4   
 

 

 

   

 

 

   

 

 

 

Net Cash Provided by Operating Activities

    654        323        652   
 

 

 

   

 

 

   

 

 

 

Cash Flows from Investing Activities:

     

Cash Paid for Acquisitions

    (188     (17     (224

Net Proceeds from Divestitures

    59        144        108   

Proceeds from the Sale of Property Plant and Equipment

                  1   

Additions to Property and Equipment

    (100     (124     (121

Additions to Intangible Assets

    (9     (21     (13
 

 

 

   

 

 

   

 

 

 

Net Cash Used in Investing Activities — Continuing Operations

    (238     (18     (249

Net Cash Used in Investing Activities — Discontinued Operations

    (1     (1     (9
 

 

 

   

 

 

   

 

 

 

Net Cash Used in Investing Activities

    (239     (19     (258
 

 

 

   

 

 

   

 

 

 

Cash Flows from Financing Activities:

     

Proceeds from Issuance of Debt

                  1,378   

Reduction of Long-Term Obligations

    (1     (4     (8

Bridge Facility Fees and Debt Issuance Costs

    (2            (29

Dividend Payment to Cardinal Health

                  (1,374

Net Cash Transfer from Cardinal Health

                  46   

Net Cash Transfer (to)/from Discontinued Operations

    10        34        (22

Share Repurchase Program

    (100              

Other Financing Activities

    (6     4        8   
 

 

 

   

 

 

   

 

 

 

Net Cash (Used in)/Provided by Financing Activities — Continuing Operations

    (99     34        (1

Net Cash Used in Financing Activities — Discontinued Operations

    (10     (34     (132
 

 

 

   

 

 

   

 

 

 

Net Cash Used in Financing Activities

    (109            (133
 

 

 

   

 

 

   

 

 

 

Effect of Exchange Rate Changes on Cash — Continuing Operations

    (33     40        (20

Effect of Exchange Rate Changes on Cash — Discontinued Operations

    3        8        (5
 

 

 

   

 

 

   

 

 

 

Net Effect of Exchange Rate Changes on Cash

    (30     48        (25
 

 

 

   

 

 

   

 

 

 

Net Increase in Cash and Equivalents — Continuing Operations

    278        388        378   

Net Decrease in Cash and Equivalents — Discontinued Operations

    (2     (36     (142
 

 

 

   

 

 

   

 

 

 

Cash and Equivalents at June 30, attributable to Continuing Operations

  $ 1,648      $ 1,370      $ 982   
 

 

 

   

 

 

   

 

 

 

Cash and Equivalents at June 30, attributable to Discontinued Operations

  $ (1   $ 1      $ 37   
 

 

 

   

 

 

   

 

 

 

Supplemental Information:

     

Cash Payments for:

     

Interest

  $ 78      $ 78      $ 42   

Income Taxes

  $ 69      $ 122      $ 86   

See accompanying notes to consolidated and combined financial statements

 

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CAREFUSION CORPORATION

NOTES TO CONSOLIDATED AND COMBINED FINANCIAL STATEMENTS

NOTE 1. DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Separation from Cardinal Health.    We were incorporated in Delaware on January 14, 2009 for the purpose of holding Cardinal Health, Inc’s clinical and medical products businesses in anticipation of the spin off from Cardinal Health. We completed the spinoff from Cardinal Health on August 31, 2009. In connection with the spinoff, Cardinal Health contributed the majority of the businesses comprising its clinical and medical products segment to us and distributed approximately 81% of our outstanding common stock, or approximately 179.8 million shares, to its shareholders based on a distribution ratio of 0.5 shares of our common stock for each common share of Cardinal Health held on the record date of August 25, 2009. Cardinal Health retained approximately 19% of our outstanding common stock, or approximately 41.4 million shares, in connection with the spinoff. As of September 15, 2010, Cardinal Health had sold all remaining shares of our common stock retained in connection with the spinoff.

The consolidated and combined financial statements reflect the consolidated operations of CareFusion Corporation and its subsidiaries as a separate, stand-alone entity subsequent to August 31, 2009. Certain lines of business that manufacture and sell surgical and exam gloves, drapes and apparel and fluid management products in the U.S. market that were historically managed by us prior to the spinoff and were part of the clinical and medical products business of Cardinal Health, were retained by Cardinal Health as a result of the spinoff, and are presented in these financial statements as discontinued operations. Our consolidated and combined financial statements do not necessarily reflect what the results of operations, financial position and cash flows would have been had we operated as an independent, publicly-traded company during the periods prior to the spinoff from Cardinal Health. See note 3 for further information regarding discontinued operations.

Unless the context otherwise requires, references in these notes to consolidated and combined financial statements to “CareFusion Corporation”, “CareFusion”, “we”, “us”, “our”, “the company” and “our company” refer to CareFusion Corporation and its consolidated subsidiaries. References in notes to consolidated and combined financial statements to “Cardinal Health” or “parent” refers to Cardinal Health, Inc., an Ohio corporation, and its consolidated subsidiaries (other than CareFusion Corporation and its consolidated subsidiaries), unless the context otherwise requires.

Our Business.    We are a global medical technology company with proven and industry-leading products and services designed to measurably improve the safety, quality, efficiency and cost of healthcare. We offer comprehensive product lines in the areas of medication management, infection prevention, operation room effectiveness, respiratory care and surveillance and analytics. Our offerings include established brands used in hospitals throughout the United States and more than 130 countries worldwide. Our primary product brands include: CareFusionTM, Alaris®, Guardrails®, Pyxis®, AVEA®, VELA®, LTV® Series, Jaeger®, SensorMedics®, ChloraPrep