10-K 1 a16q4_10kx63016xform10-k.htm 10-K Document

 
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, 2016
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ________ to ________
Commission File Number: 1-11373
Cardinal Health, Inc.
(Exact name of registrant as specified in its charter)
Ohio
31-0958666
(State or other jurisdiction of
incorporation or organization)
(IRS Employer
Identification No.)
 
 
7000 Cardinal Place, Dublin, Ohio
43017
(Address of principal executive offices)
(Zip Code)
 
 
(614) 757-5000
(Registrant’s telephone number, including area code)
 
 
Securities registered pursuant to Section 12(b) of the Act:
 
 
Title of class
Name of each exchange on which registered
Common shares (without par value)
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  þ    No  o
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  o    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  þ    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, 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  o
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. o
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  o
Non-accelerated filer o (Do not check if a smaller reporting company)
Smaller reporting company  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  þ
The aggregate market value of voting stock held by non-affiliates or registrant on December 31, 2015, was the following: $29,344,021,222.
The number of the registrant’s common shares, without par value, outstanding as of July 29, 2016, was the following: 318,588,961.
Documents Incorporated by Reference:
Portions of the registrant’s Definitive Proxy Statement to be filed for its 2016 Annual Meeting of Shareholders are incorporated by reference into the sections of this Form 10-K addressing the requirements of Part III of Form 10-K.



Cardinal Health  
Fiscal 2016 Form 10-K

Table of Contents
 



 1
Cardinal Health | Fiscal 2016 Form 10-K
 


Key Highlights
 
 


Introduction

This "Key Highlights" section provides a brief overview of Cardinal Health, Inc. and does not contain all of the information you should consider. Please read the entire Form 10-K carefully before voting or making an investment decision. As used in this report, “we,” “our,” “us” and similar pronouns refer to Cardinal Health, Inc. and its subsidiaries, unless the context requires otherwise.
References to Fiscal Years
Our fiscal year ends on June 30.  References to fiscal 2016, 2015, 2014, 2013 and 2012 and to FY16, FY15, FY14, FY13 and FY12 are to the fiscal years ended June 30, 2016, 2015, 2014, 2013 and 2012, respectively. Except as otherwise specified, information in this Form 10-K is provided as of June 30, 2016.
Non-GAAP Financial Measures
In this "Key Highlights" section and the "Fiscal 2016 Overview" section of Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A"), we use financial measures that are derived from consolidated financial data but are not presented in our financial statements that are prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). These measures are considered “non-GAAP financial measures” under the Securities and Exchange Commission (“SEC”) rules. The reasons we use these non-GAAP financial measures and the reconciliations to their most directly comparable GAAP financial measures are included in the “Explanation and Reconciliation of Non-GAAP Financial Measures” section following MD&A in this Form 10-K.
Important Information Regarding Forward-Looking Statements
This Form 10-K (including information incorporated by reference) includes forward-looking statements addressing expectations, prospects, estimates and other matters that are dependent upon future events or developments. Many forward-looking statements appear in MD&A, but there are others throughout this document, which may be identified by words such as “expect,” “anticipate,” “intend,” “plan,” “believe,” “will,” “should,” “could,” “would,” “project,” “continue,” “likely,” and similar expressions, and include statements reflecting future results or guidance, statements of outlook and expense accruals. These matters are subject to risks and uncertainties that could cause actual results to differ materially from those projected, anticipated or implied. The most significant of these risks and uncertainties are described in “Risk Factors” and in Exhibit 99.1 to this Form 10-K. Forward-looking statements in this document speak only as of the date of this document. Except to the extent required by applicable law, we undertake no obligation to update or revise any forward-looking statement.



 
Cardinal Health | Fiscal 2016 Form 10-K
2



Key Highlights
 
 



 3
Cardinal Health | Fiscal 2016 Form 10-K
 


Key Highlights
 
 



 
Cardinal Health | Fiscal 2016 Form 10-K
4



Key Highlights
 
 



 5
Cardinal Health | Fiscal 2016 Form 10-K
 


Key Highlights
 
 



 
Cardinal Health | Fiscal 2016 Form 10-K
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Key Highlights
 
 



 7
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
About Cardinal Health
 




Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A)

About Cardinal Health
 
Cardinal Health, Inc. is an Ohio corporation formed in 1979 and is a global integrated healthcare services and products company providing customized solutions for hospital systems, pharmacies, ambulatory surgery centers, clinical laboratories and physician offices worldwide. We provide clinically proven medical products and pharmaceuticals and cost-effective solutions that enhance supply chain efficiency from hospital to home. We connect patients, providers, payers, pharmacists, and manufacturers for integrated care coordination and better patient management.
We manage our business and report our financial results in two segments: Pharmaceutical and Medical.
Pharmaceutical Segment
 
Our Pharmaceutical segment distributes branded and generic pharmaceutical, specialty pharmaceutical, over-the-counter healthcare and consumer products in the United States. This segment also operates nuclear pharmacies and cyclotron facilities, provides pharmacy management services to hospitals as well as medication therapy management and patient outcomes services to hospitals, other healthcare providers and payers, provides services to healthcare companies supporting the development, marketing, and distribution of specialty pharmaceutical products, and repackages generic pharmaceuticals and over-the-counter healthcare products. This segment also imports and distributes pharmaceuticals, over-the-counter healthcare and consumer products as well as provides specialty pharmacy and other services in China.
 
Medical Segment
 
Our Medical segment distributes a broad range of medical, surgical and laboratory products and provides services to hospitals, ambulatory surgery centers, clinical laboratories and other healthcare providers in the United States, Canada and China. This segment distributes medical products to patients in the home in the United States. This segment also manufactures, sources and develops our own Cardinal Health brand medical and surgical products, which are sold in the United States, Canada, Europe and other regions internationally. This segment also provides post-acute care management and transition services and software to hospitals, other healthcare providers and payers.


Non-GAAP Financial Measures
 
We use "non-GAAP financial measures" as well as GAAP financial measures in the "Fiscal 2016 Overview" section. We include the reasons we use these non-GAAP financial measures and the reconciliations to their most directly comparable GAAP financial measures in the “Explanation and Reconciliation of Non-GAAP Financial Measures” section following MD&A. The remaining sections of MD&A refer to GAAP measures only.

 
Cardinal Health | Fiscal 2016 Form 10-K
8



MD&A
Results of Operations
 

Consolidated Results

Fiscal 2016 Overview
 
Revenue
Revenue for fiscal 2016 was $121.5 billion, a 19 percent increase from the prior year, due primarily to sales growth from existing and new pharmaceutical distribution customers and from acquisitions.
GAAP and Non-GAAP Operating Earnings
(in millions)
2016
 
2015
 
Change
GAAP
$
2,459

 
$
2,161

 
14
%
Restructuring and employee severance
25

 
44

 
 
Amortization and other acquisition-related costs
459

 
281

 
 
Impairments and (gain)/loss on disposal of assets
21

 
(19
)
 
 
Litigation (recoveries)/charges, net
(69
)
 
5

 
 
Non-GAAP
$
2,895

 
$
2,472

 
17
%
The sum of the components may not equal the total due to rounding.
During fiscal 2016, GAAP operating earnings increased 14 percent to $2.5 billion and non-GAAP operating earnings increased 17 percent to $2.9 billion. The increases in both GAAP and non-GAAP operating earnings were due to sales growth from existing and new pharmaceutical distribution customers, performance under our Pharmaceutical segment generics program, and acquisitions, partially offset by the adverse impact of customer pricing changes. GAAP operating earnings were negatively impacted by increased acquisition-related amortization, partially offset by litigation recoveries.
 
GAAP and Non-GAAP Diluted EPS
($ per share)
2016
 
2015
 
Change
GAAP
$
4.32

 
$
3.61

 
20
%
Restructuring and employee severance
0.05

 
0.09

 
 
Amortization and other acquisition-related costs
0.96

 
0.54

 
 
Impairments and (gain)/loss on disposal of assets
0.04

 
(0.03
)
 
 
Litigation (recoveries)/charges, net
(0.13
)
 
0.06

 
 
Loss on extinguishment of debt

 
0.11

 
 
Non-GAAP
$
5.24

 
$
4.38

 
20
%
The sum of the components may not equal the total due to rounding.
During fiscal 2016, GAAP diluted earnings per share attributable to Cardinal Health, Inc. ("diluted EPS") increased 20 percent to $4.32 and non-GAAP diluted EPS increased 20 percent to $5.24. GAAP and non-GAAP diluted EPS increased primarily due to the same factors impacting GAAP and non-GAAP operating earnings described above. The increase in fiscal 2016 GAAP diluted EPS also reflects the prior-year loss on extinguishment of debt.
Cash and Equivalents
Our cash and equivalents balance was $2.4 billion at June 30, 2016 compared to $4.6 billion at June 30, 2015. The decrease in cash and equivalents during the fiscal 2016 was driven by $3.6 billion deployed for acquisitions, $512 million paid in dividends, $651 million paid for share repurchases, and $465 million in capital expenditures, partially offset by $3.0 billion in cash provided by operating activities.




 9
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Results of Operations
 

Significant Developments in Fiscal 2016 and Trends

Acquisitions
 
Cordis
On October 2, 2015, we completed the acquisition of the Cordis business ("Cordis") from Ethicon, Inc., a wholly-owned subsidiary of Johnson & Johnson, for $1.9 billion using cash on hand and proceeds from our debt offering in June 2015. The acquisition of Cordis, a global manufacturer and distributor of interventional cardiology devices and endovascular solutions with operations in more than 50 countries, expands our Medical segment's portfolio of self-manufactured products and its geographic scope.
naviHealth
On August 26, 2015, we acquired a 71 percent ownership interest in naviHealth Holdings, LLC ("naviHealth") for $238 million, net of cash acquired of $53 million. We funded the acquisition with cash on hand. The acquisition of naviHealth, a leader in post-acute care management solutions, expands our ability to help hospitals, other healthcare providers, and payers manage the complex processes of patient discharge. We consolidate the results of naviHealth in our consolidated financial statements and report its results in our Medical segment. The portion of naviHealth net earnings attributable to third-
 
party interest holders is reported as a reduction to net earnings in the consolidated statements of earnings. At June 30, 2016, our ownership interest in naviHealth was 82 percent due to an additional capital contribution in connection with an acquisition by naviHealth. Refer to Note 12 for further information on this acquisition.
Harvard Drug
On July 2, 2015, we completed the acquisition of The Harvard Drug Group ("Harvard Drug") for $1.1 billion using cash on hand and proceeds from our debt offering in June 2015. The acquisition of Harvard Drug, a distributor of generic pharmaceuticals, over-the-counter healthcare and related products to retail, institutional, and alternate care customers, enhances our Pharmaceutical segment's generic pharmaceutical distribution and related services businesses. Harvard Drug also repackages generic pharmaceuticals and over-the-counter healthcare products.
Refer to Note 2 of the "Notes to Consolidated Financial Statements" for additional information on acquisitions.


Trends
 
Within our Pharmaceutical segment, we expect segment profit for fiscal 2017 to be essentially flat compared to fiscal 2016. The factors contributing to our expectation include less profit growth from the segment’s generics program and the loss of a large pharmaceutical distribution customer beginning April 1, 2016, combined with the adverse impact of customer pricing changes similar to those in fiscal 2016. While we expect that the segment’s generics program will be positively impacted by benefits from both Red Oak Sourcing and new generic pharmaceutical launches, we expect that both of these items will have significantly less of a year-over-year positive segment profit
 

impact in fiscal 2017 than fiscal 2016. The impact of these factors will be more pronounced in the first quarter of fiscal 2017, when we expect Pharmaceutical segment profit to be significantly less than in the prior-year period and consolidated operating earnings to be less than in the prior-year period. However, as is generally the case, the frequency, magnitude and profit impact of future generic pharmaceutical product launches (as well as other factors impacting our generics program) are uncertain, and their impact on fiscal 2017 Pharmaceutical segment profit and consolidated operating earnings could be more or less than we expect.


 
Cardinal Health | Fiscal 2016 Form 10-K
10



MD&A
Results of Operations
 

Results of Operations

Revenue
 
 
Revenue
 
Change
(in millions)
2016
 
2015
 
2014
 
2016
 
2015
Pharmaceutical
$
109,131

 
$
91,116

 
$
80,110

 
20
%
 
14
%
Medical
12,430

 
11,395

 
10,962

 
9
%
 
4
%
Total segment revenue
121,561

 
102,511

 
91,072

 
19
%
 
13
%
Corporate
(15
)
 
20

 
12

 
N.M.

 
N.M.

Total revenue
$
121,546

 
$
102,531

 
$
91,084

 
19
%
 
13
%

Fiscal 2016 Compared to Fiscal 2015
 
Pharmaceutical Segment
Fiscal 2016 Pharmaceutical segment revenue grew primarily due to sales growth from existing and new pharmaceutical distribution customers, including continued branded pharmaceutical price appreciation, all of which increased revenue by $16.9 billion. Acquisitions also contributed $2.1 billion to revenue growth.
Medical Segment
Fiscal 2016 Medical segment revenue grew primarily due to acquisitions, net of divestitures, which contributed $645 million, and sales growth from existing businesses.
 

Fiscal 2015 Compared to Fiscal 2014
 
Pharmaceutical Segment
Fiscal 2015 Pharmaceutical segment revenue grew primarily due to sales growth from existing and new pharmaceutical distribution customers, which increased revenue by $13.7 billion. The growth was primarily driven by increased sales to existing customers, including continued branded pharmaceutical price appreciation and newly launched hepatitis C pharmaceutical products. The increase was partially offset by $3.3 billion due to the Walgreens contract expiration in the prior-year period.
Medical Segment
Fiscal 2015 Medical segment revenue grew primarily due to acquisitions which contributed $344 million.


Cost of Products Sold
 
As a result of the same factors affecting the change in revenue, consolidated cost of products sold increased $18.2 billion (19 percent) and $10.9 billion (13 percent) during fiscal 2016 and 2015, respectively. See the gross margin discussion for additional drivers impacting cost of products sold.

 



 11
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Results of Operations
 

Gross Margin

 
 
Consolidated Gross Margin
 
Change
(in millions)
2016
 
2015
 
2014
 
2016
 
2015
Gross margin
$
6,543

 
$
5,712

 
$
5,161

 
15
%
 
11
%
Fiscal 2016 Compared to Fiscal 2015
 
Fiscal 2016 consolidated gross margin increased $831 million (15 percent), and was favorably impacted by sales growth from existing and new pharmaceutical distribution customers ($510 million) and acquisitions, net of divestitures ($576 million).
Gross margin rate contracted during fiscal 2016, primarily due to changes in product mix driven by the on-boarding of a new mail order customer starting in October 2015, and also due to the adverse impact of customer pricing changes. Our gross margin rate was favorably impacted by performance under our Pharmaceutical segment generics program. Our generics program had strong year-over-year performance from Red Oak Sourcing.
 
Fiscal 2015 Compared to Fiscal 2014
 
Fiscal 2015 consolidated gross margin increased $551 million (11 percent), and was favorably impacted by sales growth from existing and new pharmaceutical distribution customers, offset in part by the Walgreens contract expiration in the prior year. The net impact of these factors increased consolidated gross margin by $516 million. In addition, acquisitions favorably impacted gross margin by $101 million.
Gross margin rate contracted slightly during fiscal 2015, reflecting the adverse impact of customer pricing changes, the lower margin rate impact of newly launched hepatitis C pharmaceutical products, and new customer mix, largely offset by strong performance from our Pharmaceutical segment generics program, including benefits from Red Oak Sourcing.

Distribution, Selling, General, and Administrative ("SG&A") Expenses
 
 
SG&A Expenses
 
Change
(in millions)
2016
 
2015
 
2014
 
2016
 
2015
SG&A expenses
$
3,648

 
$
3,240

 
$
3,028

 
13
%
 
7
%

Fiscal 2016 Compared to Fiscal 2015
 
Fiscal 2016 SG&A expenses increased primarily due to acquisitions, net of divestitures ($370 million).


 
Fiscal 2015 Compared to Fiscal 2014
 
Fiscal 2015 SG&A expenses increased primarily due to acquisitions ($97 million) and an overall increase in volume of sales to existing and new customers.


 
Cardinal Health | Fiscal 2016 Form 10-K
12



MD&A
Results of Operations
 

Segment Profit

 
We evaluate segment performance based on segment profit, among other measures. See Note 15 of the "Notes to Consolidated Financial Statements" for additional information on segment profit.
 
Segment Profit and Operating Earnings
 
Change
(in millions)
2016
 
2015
 
2014
 
2016
 
2015
Pharmaceutical
$
2,488

 
$
2,094

 
$
1,745

 
19
%
 
20
 %
Medical
457

 
433

 
444

 
6
%
 
(3
)%
Total segment profit
2,945

 
2,527

 
2,189

 
17
%
 
15
 %
Corporate
(486
)
 
(366
)
 
(304
)
 
33
%
 
20
 %
Total consolidated operating earnings
$
2,459

 
$
2,161

 
$
1,885

 
14
%
 
15
 %

Fiscal 2016 Compared to Fiscal 2015
 
Pharmaceutical Segment Profit
Fiscal 2016 Pharmaceutical segment profit increased due to sales growth from existing and new pharmaceutical distribution customers and performance under our generics program, partially offset by the adverse impact of customer pricing changes. Acquisitions also contributed to Pharmaceutical segment profit growth. Our generics program benefited from strong year-over-year performance from Red Oak Sourcing.
Medical Segment Profit
Fiscal 2016 Medical segment profit increased due to the contribution from Cardinal Health Brand products. Acquisitions, net of divestitures, which included the unfavorable impact on cost of products sold from the fair value step up of inventory acquired with Cordis, also contributed to segment profit growth. Fiscal 2016 Medical segment profit growth was partially offset by a decline in the results from our Canada business.
Corporate
As discussed further in sections that follow, the principal driver for the change in Corporate during fiscal 2016 were increased amortization and other acquisition-related costs primarily related to the acquisitions of Cordis and Harvard Drug, partially offset by litigation recoveries.
 
Fiscal 2015 Compared to Fiscal 2014
 
Pharmaceutical Segment Profit
Fiscal 2015 Pharmaceutical segment profit increased due to sales growth from existing and new pharmaceutical distribution customers and strong performance from our generics program, including benefits from Red Oak Sourcing, partially offset by the adverse impact of customer pricing changes and the Walgreens contract expiration in the prior-year period.
Medical Segment Profit
Fiscal 2015 Medical segment profit decreased primarily due to a decline in contribution from distribution of national brand products. This was partially offset by contributions from the strategic expansion of our portfolio of Cardinal Health Brand products and services, driven by acquisitions and targeted cost reductions.
Corporate
As discussed further in sections that follow, the principal driver for the change in Corporate in fiscal 2015 were increased amortization and other acquisition-related costs primarily due to costs incurred in connection with the acquisition of Cordis.


 13
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Results of Operations
 

Other Components of Consolidated Operating Earnings
 
In addition to revenue, gross margin, and SG&A expenses discussed previously, consolidated operating earnings were impacted by the following:
(in millions)
2016
 
2015
 
2014
Restructuring and employee severance
$
25

 
$
44

 
$
31

Amortization and other acquisition-related costs
459

 
281

 
223

Impairments and (gain)/loss on disposal of assets, net
21

 
$
(19
)
 
$
15

Litigation (recoveries)/charges, net
(69
)
 
5

 
(21
)
Amortization and Other Acquisition-Related Costs
Amortization of acquisition-related intangible assets was $355 million, $189 million and $187 million for fiscal 2016, 2015 and 2014, respectively. The increase in amortization of acquisition-related intangible assets during fiscal 2016 was largely due to the Cordis and Harvard Drug acquisitions. Transaction and integration costs associated with the Cordis acquisition were $78 million and $44 million during fiscal 2016 and 2015, respectively.

 
Litigation (Recoveries)/Charges, Net
During fiscal 2016 and 2015, we received and recognized income of $80 million and $71 million, respectively, from settlements of class action antitrust lawsuits in which we were a class member.
During fiscal 2015, we incurred litigation charges of $68 million related to government investigations.



Earnings From Continuing Operations Before Income Taxes

In addition to the items discussed above, earnings from continuing operations before income taxes was impacted by the following:
 
Earnings from Continuing
Operations Before Income Taxes
 
Change
(in millions)
2016
 
2015
 
2014
 
2016
 
2015
Other (income)/expense, net
$
5

 
$
(7
)
 
$
(46
)
 
N.M.

 
N.M.

Interest expense, net
178

 
141

 
133

 
26
%
 
6
%
Loss on extinguishment of debt

 
60

 

 
N.M.

 
N.M.


Other Income, Net
Other income, net for fiscal 2014 included a $32 million pre-tax gain related to the sale of our minority interest in two investments.
Interest Expense, Net
Fiscal 2016 interest expense increased primarily as a result of the additional $1.5 billion of debt issued in June 2015 to fund the Harvard Drug and Cordis acquisitions.
 

Loss on Extinguishment of Debt
In December 2014, we redeemed certain debt resulting in a loss on the extinguishment of debt of $60 million ($37 million, net of tax).


 
Cardinal Health | Fiscal 2016 Form 10-K
14



MD&A
Results of Operations
 

Provision for Income Taxes
 
The provision for income taxes increased $90 million in fiscal 2016 due to an increase in earnings from continuing operations before income taxes. Our effective tax rate decreased 1.3 percentage points during fiscal 2016.
Generally, fluctuations in the effective tax rate are due to changes in the distribution of income among non-U.S. taxing jurisdictions with lower income tax rates and discrete items. A reconciliation of the provision based on the federal statutory income tax rate to our effective income tax rate from continuing operations is as follows (see Note 7 of the "Notes to Consolidated Financial Statements" for additional information):

 
2016
 
2015
 
2014
Provision at Federal statutory rate
35.0
 %
 
35.0
 %
 
35.0
 %
State and local income taxes, net of federal benefit
1.5

 
4.1

 
2.2

Foreign tax rate differential
(0.6
)
 
(2.4
)
 
(1.2
)
Nondeductible/nontaxable items
1.0

 
0.7

 
(0.2
)
Other
0.2

 
1.0

 
(0.5
)
Effective income tax rate
37.1
 %
 
38.4
 %
 
35.3
 %

Fiscal 2016
 
The fiscal 2016 effective income tax rate was favorably impacted by the state and local income tax rate, which decreased 2.6 percentage points due to resolutions with state taxing authorities and a shift in the distribution of income among jurisdictions. The foreign tax rate differential decreased 1.8 percentage points primarily due to the deferred tax benefits recognized in fiscal 2015.

Ongoing Audits
The IRS is currently conducting audits of fiscal years 2006 through 2014.
 
Fiscal 2015 and Fiscal 2014
 
The fiscal 2015 effective income tax rate was unfavorably impacted by the state and local income tax rate, which increased 1.9 percentage points due to the de-recognition of certain state tax benefits. The foreign tax rate differential also increased 1.2 percentage points primarily due to recognition of deferred tax benefits resulting from new tax legislation. In addition, the change in measurement of uncertain tax positions increased 1.3 percentage points primarily as a result of proposed assessment of additional tax.
The fiscal 2014 effective tax rate was impacted by net favorable discrete items of $37 million, which reduced the rate by 2.1 percentage points. The discrete items include the favorable impact of the settlement of federal and state tax controversies ($80 million) and release of valuation allowances ($12 million) and the unfavorable impact of remeasurement of unrecognized tax benefits ($65 million), primarily as a result of proposed assessments of additional tax.





 15
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Liquidity and Capital Resources
 

Liquidity and Capital Resources
We currently believe that, based on available capital resources (cash on hand and committed credit facilities) and projected operating cash flow, we have adequate capital resources to fund working capital needs; currently anticipated capital expenditures; currently anticipated business growth and expansion; contractual obligations; tax payments; and current and projected debt service requirements, dividends, and share repurchases. If we decide to engage in one or more additional acquisitions, depending on the size and timing of such transactions, we may need to access capital markets for additional financing.
Cash and Equivalents
 
Our cash and equivalents balance was $2.4 billion at June 30, 2016 compared to $4.6 billion at June 30, 2015. The decrease in cash and equivalents during fiscal 2016 was driven by $3.6 billion deployed for acquisitions, $512 million paid in dividends, $651 million paid for share repurchases, and $465 million in capital expenditures, partially offset by $3.0 billion in cash provided by operating activities. Net cash provided by operating activities was positively impacted by increased net earnings and working capital improvements. At June 30, 2016, our cash and equivalents were held in cash depository accounts with major banks or invested in high quality, short-term liquid investments.
The cash and equivalents balance at June 30, 2016 included $475 million of cash held by subsidiaries outside of the United States. Although the vast majority of cash is available for repatriation, bringing the cash into the United States could trigger U.S federal, state and local income tax obligations. Because the earnings are considered permanently reinvested, no U.S. tax provision has been accrued related to the repatriation of these earnings. It is not practicable to evaluate the amount of U.S. tax that might be payable on the eventual remittance of such earnings.
 
During fiscal 2015, net cash provided by operating activities of $2.5 billion was positively impacted by working capital improvements. These funds were deployed for $1.0 billion of share repurchases, $503 million of acquisitions and $460 million of cash dividends. In addition, during the second quarter of fiscal 2015, we refinanced $1.2 billion of long-term debt at lower interest rates and longer maturities and during the fourth quarter of fiscal 2015 we received proceeds from the issuance of additional long-term debt of $1.5 billion to fund the Harvard Drug and Cordis acquisitions.
During fiscal 2014 we deployed $673 million of cash on share repurchases, $519 million on acquisitions and $415 million on dividends. Net cash provided by operating activities of $2.5 billion benefited from a net working capital decrease in excess of $500 million as a result of the Walgreens contract expiration.
Changes in working capital, which impact operating cash flow, can vary significantly depending on factors such as the timing of customer payments, inventory purchases and payments to vendors in the regular course of business, as well as fluctuating working capital needs driven by customer and product mix.

Other Financing Arrangements and Financial Instruments
 
Credit Facilities and Commercial Paper
In addition to cash and equivalents and operating cash flow, other sources of liquidity at June 30, 2016 include a $1.75 billion revolving credit facility and a $700 million committed receivables sales facility program. In June 2016, we increased our revolving credit facility from $1.5 billion to $1.75 billion and decreased our committed receivables facility program from $950 million to $700 million. We also have a commercial paper program of up to $1.5 billion, backed by the revolving credit facility. At June 30, 2016, we had no amounts outstanding under the revolving credit facility. Availability on the revolving credit facility was reduced by outstanding letters of credit of $14 million at June 30, 2016. We also had standby letters of credit of $40 million issued under the committed receivables sales facility program at June 30, 2016.
Our revolving credit facility and committed receivables sales facility program require us to maintain a consolidated leverage ratio of no more than 3.25-to-1 and our committed receivables sales facility also requires us to maintain a consolidated interest coverage ratio, as of the end of any calendar quarter, of at least 4-to-1. As of June 30, 2016, we were in compliance with these financial covenants.
 
Available-for-Sale Securities
At June 30, 2016 and 2015, we held $200 million and $193 million, respectively, of marketable securities, which are classified as available-for-sale.
Long-Term Obligations
At June 30, 2016, we had total long-term obligations of $5.0 billion.
Risk Management
We use interest rate swaps, foreign currency contracts and commodity contracts to manage our exposure to cash flow variability. We also use interest rate swaps to protect the value of our debt and use foreign currency forward contracts to protect the value of our existing and forecasted foreign currency assets and liabilities. See the "Quantitative and Qualitative Disclosures About Market Risk" section as well as Notes 1 and 11 of the “Notes to Consolidated Financial Statements” for information regarding the use of financial instruments and derivatives as well as foreign currency, interest rate and commodity exposures.


 
Cardinal Health | Fiscal 2016 Form 10-K
16



MD&A
Liquidity and Capital Resources
 

Capital Deployment
 
Capital Expenditures
Capital expenditures during fiscal 2016, 2015 and 2014 were $465 million, $300 million and $249 million, respectively.
We expect capital expenditures in fiscal 2017 to be between $400 million and $450 million primarily for information technology projects, growth projects in our core business and integration of the Cordis acquisition.
Dividends
During fiscal 2016, we paid quarterly dividends totaling $1.55 per share, an increase of 13 percent from fiscal 2015.
On May 4, 2016, our Board of Directors approved a quarterly dividend of $0.4489 per share, or $1.80 per share on an annualized basis, payable on July 15, 2016 to shareholders of record on July 1, 2016.

 
Share Repurchases
Our Board of Directors has approved a $2.0 billion share repurchase program, which was completed in July 2016. On May 4, 2016, our Board of Directors also approved an additional $1.0 billion share repurchase program that expires on December 31, 2019. During fiscal 2016, we repurchased $651 million of our common shares and from July 1, 2016 through August 5, 2016, we repurchased an additional $250 million of our common shares. We funded the repurchases with available cash. At August 5, 2016, we had $793 million remaining under the new repurchase authorization.
Acquisitions
On July 2, 2015, August 26, 2015 and October 2, 2015, we acquired Harvard Drug, naviHealth and Cordis for $1.1 billion (net of cash acquired of $44 million), $238 million (net of cash acquired of $53 million) and $1.9 billion, respectively.


 17
Cardinal Health | Fiscal 2016 Form 10-K
 

MD&A
Other
 


Contractual Obligations
At June 30, 2016, our contractual obligations, including estimated payments due by period, are as follows:
(in millions)
2017
 
2018 to 2019
 
2020 to 2021
 
There-after
 
Total
Long-term debt and short-term borrowings (1)
$
585

 
$
959

 
$
989

 
$
2,973

 
$
5,506

Interest on long-term debt
164

 
308

 
278

 
1,465

 
2,215

Capital lease obligations (2)
2

 
26

 
3

 
2

 
33

Other liabilities (3)
3

 

 

 

 
3

Operating leases (4)
119

 
181

 
117

 
127

 
544

Purchase obligations and other payments (5)
386

 
329

 
254

 
313

 
1,282

Total contractual obligations
$
1,259

 
$
1,803

 
$
1,641

 
$
4,880

 
$
9,583

(1)
Represents maturities of our long-term debt obligations and other short-term borrowings excluding capital lease obligations described below. See Note 6 of the “Notes to Consolidated Financial Statements” for further information.
(2)
Represents maturities of our capital lease obligations included within long-term obligations in our consolidated balance sheets.
(3)
Represents cash outflows by period for certain of our liabilities in which cash outflows could be reasonably estimated. Long-term liabilities, such as unrecognized tax benefits and deferred taxes, 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 outflows.
 
See Note 7 of the “Notes to Consolidated Financial Statements” for further discussion of income taxes. Additionally, the carrying value of redeemable noncontrolling interests are excluded from the table, as the ultimate amount and timing of any future cash payments related to the redemption amount are uncertain. See Note 1 and Note 12 of the “Notes to Consolidated Financial Statements” for for additional information regarding redeemable noncontrolling interests.
(4)
Represents minimum rental payments for operating leases having initial or remaining non-cancelable lease terms as described in Note 8 of the “Notes to Consolidated Financial Statements.”
(5)
A purchase obligation is defined as an agreement to purchase goods or services that is legally enforceable and specifies all significant terms, including 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 minimum 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 canceled 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. Purchase obligations and other payments also includes quarterly payments of $25.6 million that we are required to pay CVS Health Corporation ("CVS Health"), which commenced in October 2014 in connection with the establishment of Red Oak Sourcing and will be in place for the remaining eight years of the agreement. Purchase obligations and other payments does not include contingent payments under the sourcing venture that were not yet determined as of June 30, 2016, including the quarterly $10 million increase that began in fiscal 2016 and the additional $10 million beginning in the first quarter of fiscal 2017. See Note 8 of the “Notes to Consolidated Financial Statements” for additional information.

Off-Balance Sheet Arrangements
We had no significant "off-balance sheet arrangements" at June 30, 2016, as that term is defined in the SEC rules.
Recent Financial Accounting Standards
See Note 1 of the “Notes to Consolidated Financial Statements” for a discussion of recent financial accounting standards.

 
Cardinal Health | Fiscal 2016 Form 10-K
18



MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

Critical Accounting Policies and Sensitive Accounting Estimates
Critical accounting policies are those accounting policies that (i) can have a significant impact on our financial condition and results of operations and (ii) require the use of complex and subjective estimates based upon past experience and management’s judgment. Other people applying reasonable judgment to the same facts and circumstances could develop different estimates. Because estimates are inherently uncertain, actual results may differ. In this section, we describe the significant policies applied in preparing our consolidated financial statements that management believes are the most dependent on estimates and assumptions. For further discussion of accounting policies for items within this section and of additional accounting policies, see Note 1 of the “Notes to Consolidated Financial Statements.”
Allowance for Doubtful Accounts
 
Trade receivables are presented net of an allowance for doubtful accounts of $135 million at both June 30, 2016 and 2015. We must use judgment when deciding whether to extend credit to customers and when estimating the required allowance for doubtful accounts.
The allowance for doubtful accounts includes general and specific reserves. We determine the appropriate allowance by reviewing accounts receivable aging, industry trends, customer financial strength and credit standing, historical write-off trends and payment history. We also regularly evaluate how changes in economic conditions may affect credit risks.
Our methodology for estimating the general reserve is assessed annually based on historical losses and economic, business and market trends. In addition, the allowance is reviewed quarterly and updated if appropriate. We may adjust the allowance for doubtful accounts if changes in customers’ financial condition or general economic conditions make defaults more frequent or severe.
 
The following table gives information regarding the allowance for doubtful accounts over the past three fiscal years:
(in millions, except percentages)
2016
 
2015
 
2014
Allowance for doubtful accounts
$
135

 
$
135

 
$
137

Reduction to allowance for customer deductions and write-offs
74

 
66

 
50

Charged to costs and expenses
74

 
64

 
53

 
 
 
 
 
 
Allowance as a percentage of customer receivables
1.8
%
 
2.0
%
 
2.5
%
Allowance as a percentage of revenue
0.11
%
 
0.13
%
 
0.15
%
A hypothetical 0.1 percent increase or decrease in the reserve as a percentage of trade receivables at June 30, 2016, would result in an increase or decrease in bad debt expense of $8 million.
We believe the reserve maintained and expenses recorded in fiscal 2016 are appropriate. At this time, we are not aware of any analytical findings or customer issues that are likely to lead to a significant future increase in the allowance for doubtful accounts as a percentage of revenue.

Inventories
 
A substantial portion of our inventories (58 percent at both June 30, 2016 and 2015) are valued at the lower of cost, using the last-in, first-out ("LIFO") method, or market. These are primarily merchandise inventories at the core pharmaceutical distribution facilities within our Pharmaceutical segment. The LIFO impact on the consolidated statements of earnings in a given year depends on pharmaceutical price appreciation and the level of inventory. Prices for branded pharmaceuticals generally tend to rise, which results in an increase in cost of products sold, whereas prices for generic pharmaceuticals generally tend to decline, which results in a decrease in cost of products sold.
The LIFO method presumes that the most recent inventory purchases are the first items sold, so LIFO helps us better match current costs and revenue. Using LIFO, if there is a decrease in inventory levels that have experienced pharmaceutical price appreciation, the result generally will be a decrease in future cost of products sold as our older inventory is held at a lower cost. Conversely, if there is a
 
decrease in inventory levels that have experienced a pharmaceutical price decline, the result generally will be an increase in future cost of products sold as our older inventory is held at a higher cost. We believe that the average cost method of inventory valuation reasonably approximates the current cost of replacing inventory within the core pharmaceutical distribution facilities. Accordingly, the LIFO reserve is the difference between (a) inventory at the lower of LIFO cost or market and (b) inventory at replacement cost determined using the average cost method of inventory valuation.
If we had used the average cost method of inventory valuation for all inventory within the core pharmaceutical distribution facilities, the value of our inventories would not have changed in fiscal 2016 or 2015 because inventories valued at LIFO were $9 million and $114 million higher than the average cost value at June 30, 2016 and June 30, 2015, respectively. We do not record inventories in excess of replacement cost. As such, the LIFO reserve was zero at both June 30, 2016 and 2015. Our remaining inventory is stated at the lower of cost, using the first-in, first-out method, or market.


 19
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

Inventories presented in the consolidated balance sheets are net of reserves for excess and obsolete inventory which were $79 million and $57 million at June 30, 2016 and 2015, respectively. The increase primarily reflects inventory reserves pertaining to Cordis.
We reserve for inventory obsolescence using estimates based on historical experience, historical and projected sales trends, specific
 
categories of inventory and age of on-hand inventory. If actual conditions are less favorable than our assumptions, additional inventory reserves may be required.

Business Combinations
 
The assets acquired and liabilities assumed in a business combination, including identifiable intangible assets, are recorded at their estimated fair values as of the acquisition date. The excess of the purchase price over the estimated fair value of the identifiable net assets acquired is recorded as goodwill. We base the fair values of identifiable intangible assets on detailed valuations that require management to make significant judgments, estimates and assumptions. Critical estimates and assumptions include: expected
 
future cash flows for customer relationships, trademarks, trade names, patents, developed technology, in-process research and development and other identifiable intangible assets; discount rates that reflect the risk factors associated with future cash flows; and estimates of useful lives. See Note 2 of the “Notes to Consolidated Financial Statements” for additional information regarding our acquisitions.

Goodwill and Other Intangible Assets
 
Purchased goodwill and intangible assets with indefinite lives are tested for impairment annually or when indicators of impairment exist.
Goodwill impairment testing involves judgment, including the identification of reporting units, the estimation of the fair value of each reporting unit and, if necessary, the estimation of the implied fair value of goodwill.
Our determination of estimated fair value of our reporting units is based on a combination of the income-based and market-based approaches. Under the income-based approach, we use a discounted cash flow model in which cash flows anticipated over several future periods, plus a terminal value at the end of that time horizon, are discounted to their present value using an appropriate risk-adjusted rate of return. We use our internal forecasts to estimate future cash flows, which we believe are consistent with those of a market participant, and include an estimate of long-term growth rates based on our most recent views of the long-term outlook for each reporting unit. Actual results may differ materially from those used in our forecasts. We use discount rates that are commensurate with the risks and uncertainty inherent in the respective reporting units and in our internally-developed forecasts. Discount rates used in our reporting unit valuations ranged from 8.5 percent to 12.5 percent. Under the market-based approach, we determine fair value by comparing our reporting units to similar businesses or guideline companies whose securities are actively traded in public markets. Estimating the fair value of reporting units requires the use of estimates and significant judgments that are based on a number of factors including actual operating results. The use of alternate estimates and assumptions or changes in the industry or peer groups could materially affect the determination of fair value for each reporting unit and potentially result in goodwill impairment.
 
We performed annual impairment testing in fiscal 2016, 2015 and 2014 and concluded that there were no impairments of goodwill as the estimated fair value of each reporting unit exceeded its carrying value. If we were to alter our impairment testing by increasing the discount rate in the discounted cash flow analysis by 1 percent, there still would not be any impairment indicated for any of our reporting units for fiscal 2016, 2015 or 2014.
The impairment test for indefinite-lived intangibles other than goodwill (primarily in-process research and development ("IPR&D")) requires comparing the fair value of the indefinite-lived intangible asset to the carrying value of the asset as of the impairment testing date. We estimate the fair value of our indefinite-lived intangibles under the income approach using a discounted cash flow model. We use our internal forecasts to estimate future cash flows, which we believe are consistent with those of a market participant, and include an estimate of long-term growth rates based on our most recent views of the long-term outlook for the indefinite-lived intangible including, among other factors, assumptions on regulatory approval for IPR&D.
Intangible assets with finite lives, primarily customer relationships; trademarks, trade names and patents; and developed technology, are amortized using a combination of straight-line and accelerated methods based on the expected cash flows from the asset over their estimated useful lives. We review intangible assets with finite lives for impairment whenever events or changes in circumstances indicate that the related carrying amounts may not be recoverable. Determining whether an impairment loss occurred requires estimating future undiscounted cash flows expected to be generated by the asset group. Actual results may differ materially from those used in our forecasts.




 
Cardinal Health | Fiscal 2016 Form 10-K
20



MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

Vendor Reserves
 
In the ordinary course of business, our vendors may dispute deductions taken against payments otherwise due to them or assert other disputes. These disputed transactions are researched and resolved based upon findings of the research performed. At any given time, there are outstanding items in various stages of research and resolution. In determining appropriate reserves for areas of exposure with our vendors, we assess historical experience and current outstanding claims. We have established various levels of reserves based on the type of claim and status of review. Though the transaction types are relatively consistent, we periodically refine our methodology by updating the reserve estimate percentages to reflect actual historical experience. Changes to the estimate percentages affect the cost of products sold in the period in which the change was made.
 
Vendor reserves were $62 million and $88 million at June 30, 2016 and 2015, respectively. Approximately 66 percent of the vendor reserve at the end of fiscal 2016 pertained to the Pharmaceutical segment compared to 75 percent at the end of fiscal 2015. The reserve balance will fluctuate due to variations in outstanding claims from period-to-period, timing of settlements and specific vendor issues.
The ultimate outcome of specific claims may be different than our original estimate and may require adjustment. We believe, however, that reserves recorded for such disputes are reasonable based upon current facts and circumstances.

Loss Contingencies
 
We accrue for contingencies related to disputes, litigation and regulatory matters if it is probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Because these matters are inherently unpredictable and unfavorable developments or resolutions can occur, assessing contingencies is highly subjective and requires judgments about future events.
 
We regularly review contingencies to determine whether our accruals and related disclosures are adequate. The amount of ultimate loss may differ from these estimates. See Note 8 of the “Notes to Consolidated Financial Statements” for additional information regarding loss contingencies.

Provision for Income Taxes
 
Our income tax expense, deferred income tax assets and liabilities, and unrecognized tax benefits reflect management’s assessment of estimated future taxes to be paid on items in the consolidated financial statements.
The following table presents information about our tax position at June 30:
(in millions)
2016
 
2015
Total deferred income tax assets (1)
$
567

 
$
585

Valuation allowance for deferred income tax assets (2)
(93
)
 
(87
)
   Net deferred income tax assets
474

 
498

Total deferred income tax liabilities
(2,130
)
 
(1,853
)
   Net deferred income tax liability
$
(1,656
)
 
$
(1,355
)
(1)
Total deferred income tax assets included $193 million and $197 million of loss and tax credit forwards at June 30, 2016 and 2015, respectively.
(2)
This valuation allowance primarily relates to federal, state and international loss carryforwards for which the ultimate realization of future benefits is uncertain.
Expiring loss and credit carryforwards and the required valuation allowances are adjusted quarterly. After applying the valuation
 
allowances, we do not anticipate any limitations on our use of any of the other net deferred income tax assets described above.
We believe that our estimates for the valuation allowances against deferred tax assets and unrecognized tax benefits are appropriate based on current facts and circumstances. However, others applying reasonable judgment to the same facts and circumstances could develop different estimates. The amount we ultimately pay when matters are resolved may differ from the amounts accrued.
Tax benefits from uncertain tax positions are recognized when it is more likely than not that the position will be sustained upon examination of the technical merits of the position, including resolutions of any related appeals or litigation processes. The amount recognized is measured as the largest amount of tax benefit that is greater than 50 percent likely of being realized upon settlement. See Note 7 of the “Notes to Consolidated Financial Statements” for additional information regarding unrecognized tax benefits.
If any of our assumptions or estimates were to change, an increase or decrease in our effective income tax rate by 1 percent would have caused income tax expense to increase or decrease $23 million for fiscal 2016.


 21
Cardinal Health | Fiscal 2016 Form 10-K
 


MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

Share-Based Compensation
 
Share-based compensation provided to employees is recognized in the consolidated statements of earnings based on the grant date fair value of the awards. The fair value of restricted share units and performance share units is determined by the grant date market price of our common shares. The compensation expense associated with nonvested performance share units is dependent on our periodic assessment of the probability of the targets being achieved and our estimate, which may vary over time, of the number of shares that ultimately will be issued. The fair value of stock options is determined using a lattice valuation model. We believe the lattice model provides reasonable estimates because it has the ability to take into account employee exercise patterns based on changes in our stock price and other variables and it provides for a range of input assumptions.
 
We analyze historical data to estimate option exercise behaviors and post-vesting forfeitures to be used within the lattice model. The expected life of the options granted is calculated from the option valuation model and represents the length of time in years that the options granted are expected to be outstanding. Expected volatilities are based on implied volatility from traded options on our common shares and historical volatility over a period of time commensurate with the contractual term of the option grant (up to ten years). As required, the forfeiture estimates are adjusted to reflect actual forfeitures when an award vests. The actual forfeitures in future reporting periods could be higher or lower than our current estimates. See Note 16 of the "Notes to Consolidated Financial Statements" for additional information regarding share-based compensation.



 
Cardinal Health | Fiscal 2016 Form 10-K
22



Explanation and Reconciliation of Non-GAAP Financial Measures
 
 

Explanation and Reconciliation of Non-GAAP Financial Measures
The "Key Highlights" section and "Fiscal 2016 Overview" section within MD&A in this Form 10-K contains financial measures that are not calculated in accordance with GAAP.
In addition to analyzing our business based on financial information prepared in accordance with GAAP, we use these non-GAAP financial measures internally to evaluate our performance, evaluate the balance sheet, engage in financial and operational planning, and determine incentive compensation because we believe that these measures provide additional perspective on and, in some circumstances are more closely correlated to, the performance of our underlying, ongoing business. We provide these non-GAAP financial measures to investors as supplemental metrics to assist readers in assessing the effects of items and events on our financial and operating results on a year-over-year basis and in comparing our performance to that of our competitors. However, the non-GAAP financial measures that we use may be calculated differently from, and therefore may not be comparable to, similarly titled measures used by other companies. The non-GAAP financial measures disclosed by us should not be considered a substitute for, or superior to, financial measures calculated in accordance with GAAP, and the financial results calculated in accordance with GAAP and reconciliations to those financial statements set forth below should be carefully evaluated.
Exclusions from Non-GAAP Financial Measures
The differences between the non-GAAP measures presented in this Form 10-K and the most directly comparable GAAP measure are represented by the following items, which management believes are useful to exclude for its own and for investors’ assessment of the business for the reasons identified below:
restructuring and employee severance costs, which include charges for programs in which we fundamentally change our operations and are excluded because they are not part of the ongoing operations of our underlying business, which includes normal levels of reinvestment in the business;
amortization and other acquisition-related costs. We began excluding amortization costs in fiscal 2013 primarily for consistency with the presentation of the financial results of our peer group companies. Additionally, these non-cash amounts are variable in amount and frequency and are significantly impacted by the timing and size of acquisitions, so their exclusion allows for better comparison of forecasted, current and historical financial results. Other acquisition-related costs are excluded because they are directly related to an acquisition but do not meet the criteria to be recognized on the acquired entity’s initial balance sheet as part of the purchase price allocation. They are also significantly impacted by the timing and size of acquisitions;
impairments and gains or loss on disposal of assets, which are excluded because they do not occur in or reflect the ordinary course of our ongoing business operations and their exclusion results in a metric that more meaningfully reflects the sustainability of our operating performance;
litigation recoveries or charges, net, which often relate to events that may have occurred in prior or multiple periods, do not occur in or reflect the ordinary course of our business and are inherently unpredictable in timing and amount;
LIFO charges and credits, which we began excluding in fiscal 2015 because the factors that drive LIFO charges or credits such as pharmaceutical manufacturer price appreciation/deflation and year-end inventory levels (which can be meaningfully influenced by customer buying behavior immediately preceding our fiscal year-end), are largely out of our control and cannot be accurately predicted. We also believe that exclusion of LIFO charges from non-GAAP metrics allows for better comparison of our financial results to our historical operations and to our peer group companies;
loss on extinguishment of debt, which does not typically occur in the normal course of business and may obscure analysis of trends and financial performance. Additionally, the amount and frequency of these notable one-time charges is not consistent and is significantly impacted by the timing and size of debt financing transactions.
other spin-off costs, incurred in connection with our spin-off of CareFusion, which are included in distribution, selling, general and administrative expenses and are excluded because they do not relate to or reflect our ongoing business operations.
The tax effect for each of the non-GAAP items described above is determined using the tax rate and other tax attributes applicable to the item and the jurisdiction(s) in which the item is recorded. The gross, tax and net impact of each item are presented with our GAAP to non-GAAP reconciliations.


 



 23
Cardinal Health | Fiscal 2016 Form 10-K
 


Explanation and Reconciliation of Non-GAAP Financial Measures
 
 

Definitions
Growth rate calculation: Except for compound annual growth rates ("CAGR"), growth rates in this Form 10-K are determined by dividing the difference between current period results and prior period results by prior period results. CAGR is determined by subtracting one from ((the ending value divided by the beginning value) raised to the power of (one divided by the number of years)).
Non-GAAP operating earnings: operating earnings excluding (1) LIFO charges/(credits), (2) restructuring and employee severance, (3) amortization and other acquisition-related costs, (4) impairments and (gain)/loss on disposal of assets, (5) litigation (recoveries)/charges, net, and (6) other CareFusion spin-off costs.
Non-GAAP Earnings from continuing operations before income taxes: earnings from continuing operations before income taxes excluding (1) LIFO charges/(credits), (2) restructuring and employee severance, (3) amortization and other acquisition-related costs, (4) impairments and (gain)/loss on disposal of assets, (5) litigation (recoveries)/charges, net, and (6) loss on extinguishment of debt.
Non-GAAP net earnings from continuing operations attributable to Cardinal Health, Inc.: net earnings attributable to Cardinal Health, Inc. excluding (1) earnings from discontinued operations (2) LIFO charges/(credits), (3) restructuring and employee severance, (4) amortization and other acquisition-related costs, (5) impairments and (gain)/loss on disposal of assets, (6) litigation (recoveries)/charges, net, (7) loss on extinguishment of debt, and (8) other CareFusion spin-off costs, each net of tax.
Non-GAAP diluted EPS from continuing operations attributable to Cardinal Health, Inc. or "Non-GAAP diluted EPS": non-GAAP net earnings from continuing operations attributable to Cardinal Health, Inc. divided by diluted weighted-average shares outstanding.








 
Cardinal Health | Fiscal 2016 Form 10-K
24



Explanation and Reconciliation of Non-GAAP Financial Measures
 
 

GAAP to Non-GAAP Reconciliations
(in millions, except per common share amounts)
Operating Earnings
Operating Earnings Growth Rate
Earnings1 Before Income Taxes
Provision for Income Taxes
Net Earnings from Continuing Operations2
Net Earnings from Continuing Operations2 Growth Rate
Diluted EPS1,2
Diluted EPS1,2 Growth Rate
 
Fiscal Year 2016
GAAP
$
2,459

14
 %
$
2,276

$
845

$
1,427

18
 %
$
4.32

20
 %
Restructuring and employee severance
25

 
25

9

16

 
0.05

 
Amortization and other acquisition-related costs
459

 
459

143

316

 
0.96

 
Impairments and loss on disposal of assets
21

 
21

6

15

 
0.04

 
Litigation (recoveries)/charges, net
(69
)
 
(69
)
(27
)
(42
)
 
(0.13
)
 
Non-GAAP
$
2,895

17
 %
$
2,711

$
976

$
1,732

18
 %
$
5.24

20
 %
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2015
GAAP
$
2,161

15
 %
$
1,967

$
755

$
1,212

4
 %
$
3.61

7
 %
Restructuring and employee severance
44

 
44

15

29

 
0.09

 
Amortization and other acquisition-related costs
281

 
281

100

181

 
0.54

 
Impairments and (gain)/loss on disposal of assets
(19
)
 
(19
)
(10
)
(9
)
 
(0.03
)
 
Litigation (recoveries)/charges, net
5

 
5

(14
)
19

 
0.06

 
Loss on extinguishment of debt

 
60

23

37

 
0.11

 
Non-GAAP
$
2,472

16
 %
$
2,339

$
870

$
1,469

11
 %
$
4.38

14
 %
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2014
GAAP
1,885

89
 %
$
1,798

$
635

1,163

247
 %
3.37

247
 %
Restructuring and employee severance
31

 
$
31

$
11

20

 
0.06

 
Amortization and other acquisition-related costs
223

 
$
223

$
79

144

 
0.42

 
Impairments and (gain)/loss on disposal of assets
15

 
$
15

$
5

10

 
0.03

 
Litigation (recoveries)/charges, net
(21
)
 
$
(21
)
$
(8
)
(13
)
 
(0.04
)
 
Non-GAAP
$
2,133

4
 %
$
2,047

$
722

$
1,324

3
 %
$
3.84

3
 %
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2013
GAAP
$
996

(44
)%
$
888

$
553

$
335

(69
)%
$
0.97

(68
)%
Restructuring and employee severance
71

 
71

$
27

44

 
0.13

 
Amortization and other acquisition-related costs
158

 
158

$
52

106

 
0.31

 
Impairments and (gain)/loss on disposal of assets
859

 
859

$
37

822

 
2.39

 
Litigation (recoveries)/charges, net
(38
)
 
(38
)
$
(15
)
(23
)
 
(0.07
)
 
Non-GAAP
$
2,046

10
 %
$
1,938

$
654

$
1,284

15
 %
$
3.73

16
 %
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2012
GAAP
$
1,792

18
 %
$
1,698

$
628

$
1,070

11
 %
$
3.06

12
 %
Restructuring and employee severance
21

 
21

8

13

 
0.04

 
Amortization and other acquisition-related costs
33

 
33

9

24

 
0.07

 
Impairments and (gain)/loss on disposal of assets
21

 
21

8

13

 
0.04

 
Litigation (recoveries)/charges, net
(3
)
 
(3
)
(1
)
(2
)
 
(0.01
)
 
Other spin-off costs
2

 
2

1

1

 

 
Non-GAAP
$
1,866

13
 %
$
1,772

$
653

$
1,119

13
 %
$
3.21

15
 %
1 
from continuing operations
2 
attributable to Cardinal Health, Inc.
The sum of the components may not equal the total due to rounding.
We apply varying tax rates depending on the item's nature and tax jurisdiction where it is incurred.

 25
Cardinal Health | Fiscal 2016 Form 10-K
 


Selected Financial Data
 
 


Selected Financial Data
The consolidated financial data below includes all business combinations as of the date of acquisition that occurred during these periods. The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and related notes and MD&A.
(in millions, except per common share amounts)
2016
 
2015
 
2014
 
2013 (1)
 
2012
Earnings Data:
 
 
 
 
 
 
 
 
 
Revenue
$
121,546

 
$
102,531

 
$
91,084

 
$
101,093

 
$
107,552

 
 
 
 
 
 
 
 
 
 
Operating earnings
$
2,459

 
$
2,161

 
$
1,885

 
$
996

 
$
1,792

 
 
 
 
 
 
 
 
 
 
Earnings from continuing operations
$
1,431

 
$
1,212

 
$
1,163

 
$
335

 
$
1,070

Earnings/(loss) from discontinued operations, net of tax

 
3

 
3

 
(1
)
 
(1
)
Net earnings
1,431

 
1,215

 
1,166

 
334

 
1,069

Less: Net earnings attributable to noncontrolling interests

(4
)
 

 

 

 

Net earnings attributable to Cardinal Health, Inc.
$
1,427

 
$
1,215

 
$
1,166

 
$
334

 
$
1,069

 
 
 
 
 
 
 
 
 
 
Basic earnings per common share attributable to Cardinal Health, Inc.:
 
 
 
 
 
 
 
 
 
Continuing operations
$
4.36

 
$
3.65

 
$
3.41

 
$
0.98

 
$
3.10

Discontinued operations

 
0.01

 
0.01

 

 

Net basic earnings per common share attributable to Cardinal Health, Inc.
$
4.36

 
$
3.66

 
$
3.42

 
$
0.98

 
$
3.10

 
 
 
 
 
 
 
 
 
 
Diluted earnings per common share attributable to Cardinal Health, Inc.:
 
 
 
 
 
 
 
 
 
Continuing operations
$
4.32

 
$
3.61

 
$
3.37

 
$
0.97

 
$
3.06

Discontinued operations

 
0.01

 
0.01

 

 

Net diluted earnings per common share attributable to Cardinal Health, Inc.
$
4.32

 
$
3.62

 
$
3.38

 
$
0.97

 
$
3.06

 
 
 
 
 
 
 
 
 
 
Cash dividends declared per common share
$
1.6099

 
$
1.4145

 
$
1.2500

 
$
1.0900

 
$
0.8825

 
 
 
 
 
 
 
 
 
 
Balance Sheet Data:
 
 
 
 
 
 
 
 
 
Total assets
$
34,122

 
$
30,142

 
$
26,033

 
$
25,819

 
$
24,260

Long-term obligations, less current portion
4,952

 
5,211

 
3,171

 
3,686

 
2,418

Total Cardinal Health, Inc. shareholders' equity
6,554

 
6,256

 
6,401

 
5,975

 
6,244

(1)
During fiscal 2013, we recognized a non-cash goodwill impairment charge of $829 million ($799 million, net of tax) related to our Nuclear Pharmacy Services division.



 
Cardinal Health | Fiscal 2016 Form 10-K
26


Disclosures about Market Risk
 


Quantitative and Qualitative Disclosures About Market Risk
We are exposed to cash flow and earnings fluctuations as a result of certain market risks. These market risks primarily relate to foreign exchange, interest rate, and commodity price-related changes. We maintain a hedging program to manage volatility related to these market exposures which employs operational, economic, and derivative financial instruments in order to mitigate risk. See Note 1 and Note 11 of the “Notes to Consolidated Financial Statements” for further discussion regarding our use of derivative instruments.
Foreign Exchange Rate Sensitivity
 
By nature of our global operations, we are exposed to cash flow and earnings fluctuations resulting from foreign exchange rate variation. These exposures are transactional and translational in nature. Principal drivers of this foreign exchange exposure include the Canadian dollar, euro, Thai baht, Chinese renminbi, Japanese yen, Mexican peso, British pound, Singapore dollar, Australian dollar, Malaysian ringgit.
Transactional Exposure
Transactional exposure arises from the purchase and sale of goods and services in currencies other than our functional currency or the functional currency of our subsidiaries. As part of our risk management program, at the end of each fiscal year we perform a sensitivity analysis on our forecasted transactional exposure for the upcoming fiscal year. These analyses include the estimated impact of our hedging program, which is designed to mitigate transactional exposure. Our forecasted transactional exposure at June 30, 2016 increased from the prior year primarily as a result of changes in the volume of transactions in foreign currencies due to the acquisition of Cordis. At June 30, 2016 and 2015, we had hedged approximately 29 and 37 percent of transactional exposures, respectively.
The following table summarizes the analysis as it relates to transactional exposure and the impact of a hypothetical 10 percent fluctuation in foreign currencies, assuming rates collectively shift in the same direction and we are unable to change customer pricing in response to those shifts, for the upcoming fiscal year:
 
June 30
(in millions)
2016
 
2015
Net hypothetical transactional exposure
$
621

 
$
392

 
 
 
 
Sensitivity gain/loss
$
62

 
$
39

Estimated offsetting impact of hedges
(18
)
 
(15
)
Hypothetical net gain/loss
$
44

 
$
24


 
Translational Exposure
We have exposure related to the translation of financial statements of our foreign operations into U.S. dollars, our functional currency. We perform a similar analysis to that previously described related to this translational exposure. Our forecasted translational exposure at June 30, 2016 increased from the prior year primarily as a result of changes in the number of financial statements translated from foreign currencies due to the acquisition of Cordis. We do not typically hedge any of our translational exposure and no hedging impact was included in our analysis at June 30, 2016 and 2015.
The following table summarizes translational exposure and the impact of a hypothetical 10 percent strengthening or weakening in the U.S. dollar, assuming rates collectively shift in the same direction, for the upcoming fiscal year:
 
June 30
(in millions)
2016
 
2015
Net hypothetical translational exposure
$
201

 
$
55

Sensitivity gain/loss
20

 
6








 27
Cardinal Health | Fiscal 2016 Form 10-K
 

Disclosures about Market Risk
 


Interest Rate Sensitivity
 
We are exposed to changes in interest rates primarily as a result of our borrowing and investing activities to maintain liquidity and fund operations. The nature and amount of our long-term and short-term debt can be expected to fluctuate as a result of business requirements, market conditions and other factors. Our policy is to manage exposures to interest rates using a mix of fixed and floating rate debt as deemed appropriate by management. We utilize interest rate swap instruments to mitigate our exposure to interest rate movements.
As part of our risk management program, we perform an annual sensitivity analysis on our forecasted exposure to interest rates for the upcoming fiscal year. This analysis assumes a hypothetical 10
 
percent change in interest rates. At June 30, 2016 and 2015, the potential increase or decrease in annual interest expense under this analysis as a result of this hypothetical change was $3 million for both periods.
During fiscal 2016 and 2015, we held marketable securities, which are classified as available-for-sale and are carried at fair value in the consolidated balance sheets. The fair value is subject to change primarily as a result of changes in market interest rates and investment risk related to the issuers' credit worthiness. At both June 30, 2016 and 2015, a hypothetical increase or decrease of one percentage point in interest rates would cause a potential increase or decrease of up to $2 million in the estimated fair value.


Commodity Price Sensitivity
 
We are directly exposed to market price changes for certain commodities, including oil-based resins, nitrile, cotton, diesel fuel and latex. We typically purchase raw materials at either market prices or prices tied to a commodity index and some finished goods at prices based in part on a commodity price index. We also are indirectly exposed to fluctuations in certain commodity prices through the purchase of finished goods and various energy-related commodities, including natural gas and electricity, through our normal course of business where our contracts are not directly tied to a commodity index. As part of our risk management program, we perform sensitivity analysis on our forecasted commodity exposure for the upcoming fiscal year. Our forecasted commodity exposure at June 30, 2016 increased from the prior year primarily as a result of changes in purchasing volumes and commodity pricing. At June 30, 2016 and 2015, we had hedged a portion of these direct commodity exposures (see Note 11 of the “Notes to Consolidated Financial Statements” for further discussion).
 
The table below summarizes our analysis of these forecasted direct and indirect commodity exposures and the potential gain/loss given a hypothetical 10 percent fluctuation in commodity prices, assuming pricing collectively shifts in the same direction and we are unable to change customer pricing in response to those shifts, for the upcoming fiscal year:
 
June 30
(in millions)
2016
 
2015
Hypothetical commodity exposure
$
417

 
$
405

 
 
 
 
Sensitivity gain/loss
$
42

 
$
41

Hypothetical offsetting impact of hedges
(1
)
 
(1
)
Hypothetical net gain/loss
$
41

 
$
40

We believe our total gross range of direct and indirect exposure to commodities is $400 million to $525 million for fiscal 2017.



 
Cardinal Health | Fiscal 2016 Form 10-K
28



Business
 
 


Business
General
 
Cardinal Health, Inc. is a global integrated healthcare services and products company providing customized solutions for hospital systems, pharmacies, ambulatory surgery centers, clinical laboratories and physician offices worldwide. We provide clinically proven medical products and pharmaceuticals and cost-effective solutions that enhance supply chain efficiency from hospital to home. We connect patients, providers, payers, pharmacists and manufacturers for integrated care coordination and better patient management.
Pharmaceutical Segment
 
In the United States, our Pharmaceutical segment:
distributes branded and generic pharmaceutical, over-the-counter healthcare and consumer products through its Pharmaceutical Distribution division to retailers (including chain and independent drug stores and pharmacy departments of supermarkets and mass merchandisers), hospitals and other healthcare providers. This division:
maintains prime vendor relationships that streamline the purchasing process resulting in greater efficiency and lower costs for our customers;
provides services to pharmaceutical manufacturers including distribution, inventory management, data reporting, new product launch support and contract pricing and chargeback administration;
provides pharmacy management services to hospitals as well as medication therapy management and patient outcomes services to hospitals, other healthcare providers and payers; and
repackages generic pharmaceuticals and over-the-counter healthcare products;
operates nuclear pharmacies and cyclotron facilities through its Nuclear Pharmacy Services division that manufacture, prepare and deliver radiopharmaceuticals for use in nuclear imaging and other procedures in hospitals and physician offices; and
distributes specialty pharmaceutical products to hospitals and other healthcare providers; provides consulting, patient support and other services for specialty pharmaceutical products to pharmaceutical manufacturers and healthcare providers; and provides specialty pharmacy services through its Specialty Solutions division.
The Pharmaceutical segment is also constructing a sterile facility to contract manufacture a radiopharmaceutical for prostate cancer treatment.
In China, the Pharmaceutical segment distributes branded, generic and specialty pharmaceutical, over-the-counter healthcare and consumer products, provides logistics, marketing and other services and operates direct-to-patient specialty pharmacies through Cardinal Health China.

 
See Note 15 of the “Notes to Consolidated Financial Statements” for Pharmaceutical segment revenue, profit and assets for fiscal 2016, 2015 and 2014.
Pharmaceutical Distribution
Our Pharmaceutical Distribution division’s gross margin includes margin from our generic pharmaceutical program, margin from pharmaceutical distribution agreements with branded manufacturers and margin from over-the-counter healthcare and consumer products. It also includes cash discounts. Margin from our generic pharmaceutical program includes price discounts and rebates from manufacturers and may include price appreciation on some products. Our earnings on generic pharmaceuticals are generally highest during the period immediately following the initial launch of a generic product because generic pharmaceutical selling prices are generally highest during that period and tend to decline over time. Overall, our generic pharmaceutical program's performance is driven by several factors, including increased utilization of generic pharmaceuticals, our ability to sell generic pharmaceuticals to new customers, our ability to sell more generic pharmaceuticals to existing customers, generic pharmaceutical price appreciation, our data and analytic capabilities to predict market trends, enhanced sourcing of generic pharmaceuticals through Red Oak Sourcing (which is discussed below) and new generic product launches. Margin from pharmaceutical distribution agreements with branded manufacturers refers primarily to fees we receive for providing a range of distribution and related services to manufacturers and also includes benefits from pharmaceutical price appreciation on branded pharmaceutical products.
Sourcing Venture With CVS Health
In July 2014, we established Red Oak Sourcing, a U.S.-based generic pharmaceutical sourcing venture with CVS Health with an initial term of 10 years. Red Oak Sourcing negotiates generic pharmaceutical supply contracts on behalf of both companies.
Specialty Pharmaceutical Products and Services
We refer to products and services offered by our Specialty Solutions division as “specialty pharmaceutical products and services.” The Specialty Solutions division distributes oncology, rheumatology, urology, nephrology and other pharmaceutical products ("specialty pharmaceutical products") and human-derived plasma products to hospitals, dialysis clinics, physician offices and other healthcare


 29
Cardinal Health | Fiscal 2016 Form 10-K
 


Business
 
 


providers; provides consulting, patient support, logistics, group purchasing and other services to pharmaceutical manufacturers and healthcare providers primarily supporting the development, marketing and distribution of specialty pharmaceutical products; and provides specialty pharmacy services. Our use of the
 
terminology "specialty pharmaceutical products and services" may not be comparable to the terminology used by other industry participants.


Medical Segment
 
Our Medical segment distributes a broad range of national and Cardinal Health Brand medical, surgical and laboratory products and provides services to hospitals, ambulatory surgery centers, clinical laboratories and other healthcare providers in the United States, Canada and China. It also distributes medical products to patients in the home in the United States through our Cardinal Health at Home division.
This segment also manufactures, sources and develops higher-margin, Cardinal Health Brand medical and surgical products. Manufactured products include: single-use surgical drapes, gowns and apparel; exam and surgical gloves; fluid suction and collection systems; cardiovascular and endovascular products; wound care products; and orthopedic products. In fiscal 2016, we completed the acquisition of Cordis, a global manufacturer and distributor of interventional cardiology devices and endovascular solutions with operations in more than 50 countries. We expect to continue to expand our lines of manufactured products through acquisitions, strategic partnerships and internal development. Our manufactured
 
products are sold directly or through third-party distributors in the United States, Canada, Europe, Asia, Latin America and other regions internationally. We are expanding our direct distribution network through Cordis.
Through naviHealth and other companies acquired within naviHealth during fiscal 2016, the Medical segment provides services and software to hospitals, other healthcare providers and payers that help manage the complex processes of patient discharge from an acute-care facility (“post-acute care”).
This segment also assembles and offers sterile and non-sterile procedure kits. In addition, the segment provides supply chain services, including spend management, distribution management and inventory management services, to healthcare providers.
See Note 15 of the “Notes to Consolidated Financial Statements” for Medical segment revenue, profit and assets for fiscal 2016, 2015 and 2014.

Acquisitions
 
We have acquired a number of businesses over the last several years that have enhanced our core strategic areas of generics, health systems and hospital solutions (including manufactured medical products), specialty pharmaceutical products and services, international and post-acute care. We expect to continue to pursue additional acquisitions in the future.
Since July 1, 2011, we have completed the following three large acquisitions:
Date
Company
Location
Line
of Business
Acquisition
Price
(in millions)
10/15
Cordis business of Johnson & Johnson
Fremont, CA
Cardiovascular and endovascular products
$1,944
07/15
The Harvard Drug Group
Livonia, MI
Pharmaceutical product distribution
$1,115
03/13
AssuraMed, Inc.
Twinsburg, OH
Medical product distribution
$2,070
 
In addition, we completed several smaller acquisitions during the last five fiscal years, including: in fiscal 2016, the acquisition of a 71 percent ownership interest in naviHealth, a provider of post-acute care management services, and CuraSpan Health Group, Inc., a provider of discharge planning and care transition software; in fiscal 2015, Tradex International, Inc., a supplier of disposable gloves, and Metro Medical Supply, Inc., a distributor of specialty pharmaceuticals and medical and surgical products; in fiscal 2014, Access Closure, Inc., a manufacturer and distributor of extravascular closure devices; and in fiscal 2012, Futuremed Healthcare Products Corporation, a Canadian medical product distributor.


 
Cardinal Health | Fiscal 2016 Form 10-K
30



Business
 
 


Customers
 
Our largest customer, CVS Health, accounted for 25 percent of our fiscal 2016 revenue. In the aggregate, our five largest customers, including CVS Health, accounted for 40 percent of our fiscal 2016 revenue. Our pharmaceutical distribution agreements with CVS Health extend through June 2019.
In addition, we have agreements with group purchasing organizations (“GPOs”) that act as agents to negotiate vendor contracts on behalf
 
of their members. Our two largest GPO relationships in terms of member revenue are with Vizient (formerly Novation, LLC) and Premier, Inc. Sales to members of these two GPOs, under numerous contracts across all of our businesses, collectively accounted for 17 percent of our revenue in fiscal 2016.

Suppliers
 
We rely on many different suppliers. Products obtained from our five largest suppliers accounted for an aggregate of 27 percent of our revenue during fiscal 2016, but no single supplier’s products accounted for more than 8 percent of revenue.
 


Competition
 
We operate in a highly competitive environment in the distribution of pharmaceuticals and related healthcare services. We also operate in a highly competitive environment in the development, manufacturing and distribution of medical and surgical products. We compete on many levels, including price, service offerings, support services and breadth of product lines.
In the Pharmaceutical segment, we compete with wholesale distributors with national reach (including McKesson Corporation and AmerisourceBergen Corporation), regional wholesale distributors, self-warehousing chains, specialty distributors, third-party logistics companies, companies that provide specialty pharmaceutical services and nuclear pharmacies, among others. In addition, the Pharmaceutical segment has experienced competition from a
 
number of organizations offering generic pharmaceuticals, including telemarketers. We also compete with manufacturers that sell their products directly.
In the Medical segment, we compete with many different national medical product distributors, including Owens & Minor, Inc., Medline Industries, Inc. and McKesson Corporation. We also compete with regional medical product distributors and companies that distribute medical products to patients in the home as well as third-party logistics companies. In addition, we compete with manufacturers that sell their products directly. Competitors of the Medical segment’s manufacturing and procedural kit businesses include diversified healthcare companies as well as companies that are more focused on specific product categories.

Employees
 
At June 30, 2016, we had approximately 26,500 employees in the United States and approximately 10,800 employees outside of the United States. Overall, we consider our employee relations to be good.
 


Intellectual Property
 
We rely on a combination of trade secret, patent, copyright and trademark laws, nondisclosure and other contractual provisions, and technical measures to protect our products, services and intangible assets. We hold patents relating to medical and surgical products and to distribution of our nuclear pharmacy products and service offerings. We also operate under licenses for certain proprietary technologies, and in certain instances we license our technologies to third parties.
 
We believe that we have taken all necessary steps to protect our proprietary rights, but no assurance can be given that we will be able to successfully enforce or protect our rights in the event that they are infringed upon by a third party. While all of these proprietary rights are important to our operations, we do not consider any particular patent, trademark, license, franchise or concession to be material to our overall business.


 31
Cardinal Health | Fiscal 2016 Form 10-K
 


Business
 
 


Regulatory Matters
 
Our business is highly regulated in the United States, at both the federal and state level, and in foreign countries. Depending upon their specific business, our subsidiaries may be subject to regulation by government entities including:
the U.S. Drug Enforcement Administration (the “DEA”);
certain agencies within the U.S. Department of Health and Human Services, including the U.S. Food and Drug Administration (the “FDA”), the Centers for Medicare and Medicaid Services, the Office of Inspector General and the Office for Civil Rights;
the U.S. Nuclear Regulatory Commission (the “NRC”);
the U.S. Federal Trade Commission (the "FTC");
U.S. Customs and Border Protection;
state boards of pharmacy;
state controlled substance agencies;
state health departments, insurance departments, Medicaid departments or other comparable state agencies; and
agencies comparable to those listed above in various regions, such as Europe, Asia and Latin America.
These regulatory agencies have a variety of civil, administrative and criminal sanctions at their disposal for failure to comply with applicable legal or regulatory requirements. They can suspend our ability to manufacture and distribute products, initiate product recalls, seize products or impose criminal, civil and administrative sanctions.
Distribution
The FDA, DEA and various state authorities regulate the marketing, purchase, storage and distribution of pharmaceutical and medical products under various federal and state statutes including the federal Prescription Drug Marketing Act of 1987, Drug Quality and Security Act of 2013 (the “DQSA”), and Controlled Substances Act (the "CSA"). The CSA governs the sale, packaging, storage and distribution of controlled substances. Wholesale distributors of controlled substances must hold valid DEA registrations and state-level licenses, meet various security and operating standards, and comply with the CSA.
Manufacturing and Marketing
The FDA and other domestic and foreign governmental agencies administer requirements that cover the design, testing, safety, effectiveness, manufacturing (including good manufacturing practices), quality systems, labeling, promotion and advertising (including restrictions on promoting or advertising a product other than for the uses set forth in the approved product label), distribution, importation and post-market surveillance of most of our manufactured products. In addition, we need specific approval or clearance from regulatory authorities and may have to register products with regulatory authorities before we can market and sell some of these products in the United States and certain other countries.
 
In the United States, authorization to commercially distribute a new medical device is generally received in one of two ways. The first, known as pre-market notification or the 510(k) process, requires us to demonstrate that our new medical device is substantially equivalent to a legally marketed medical device. The second, more rigorous process, known as pre-market approval (“PMA”), requires us to independently demonstrate that the new medical device is safe and effective, and is much more detailed than the 510(k) process. Many of our Medical segment products are cleared through the 510(k) process and certain Cordis products must be approved through the PMA process. It can be costly and time-consuming to obtain regulatory approvals, clearances and registrations of medical devices, and such approvals, clearances and registrations might not be granted on a timely basis, if at all. Even after we obtain approval or clearance to market a product or obtain product registrations, the product and our manufacturing processes are subject to continued regulatory oversight.
From time to time, we may determine that products we manufacture or market do not meet our specifications, regulatory requirements, or published standards. When we or a regulatory agency identify a quality or regulatory issue, we investigate and take appropriate corrective action, which may include recalling the product, correcting the product at the customer location, revising product labeling and notifying customers.
Nuclear Pharmacies and Related Businesses
Our nuclear pharmacies and radiopharmaceutical manufacturing facilities require licenses or permits and must abide by regulations issued by the NRC, applicable state boards of pharmacy and the radiologic health agency or department of health of each state in which we operate. In addition, our radiopharmaceutical manufacturing facilities must comply with the FDA's good manufacturing practices. Once completed, our sterile radiopharmaceutical manufacturing facility also will be subject to NRC and FDA regulation. Changes to pharmacy sterile compounding standards and practices are being considered by the FDA, state boards of pharmacy and standards setting organizations that may affect our Nuclear Pharmacy Services division and could require additional infrastructure requirements and modifications to our current practices and impose additional costs.
Product Tracing and Supply Chain Integrity
Title II of the DQSA, known as the Drug Supply Chain Security Act, establishes a phased-in national system for tracing pharmaceutical products through the pharmaceutical distribution supply chain to prevent the introduction of counterfeit, adulterated or mislabeled drugs. The first phase of implementation began on January 1, 2015, and upon full implementation in 2023, we and other supply chain stakeholders will participate in an electronic, interoperable, prescription drug tracing system. In addition, the FDA also has issued regulations requiring most medical device labeling to bear a unique device identifier. These regulations are being phased in through 2020.


 
Cardinal Health | Fiscal 2016 Form 10-K
32



Business
 
 


Government Healthcare Programs
We are subject to U.S. federal healthcare fraud and abuse laws. These laws generally prohibit persons from soliciting, offering, receiving or paying any compensation in order to induce someone to order or purchase items or services that are in any way paid for by Medicare, Medicaid or other federally-funded healthcare programs. They also prohibit submitting or causing to be submitted any fraudulent claim for payment by the federal government. There are similar state healthcare fraud and abuse laws that apply to Medicaid and other state-funded healthcare programs. Violations of these laws may result in criminal or civil penalties, as well as breach of contract claims and qui tam actions (false claims cases initiated by private parties purporting to act on behalf of federal or state governments).
Our Cardinal Health at Home business and a few of our other businesses are Medicare-certified suppliers or participate in state Medicaid programs. These businesses are subject to accreditation and quality standards and other rules and regulations, including applicable billing, payment and record-keeping requirements. In addition, we manufacture pharmaceutical and medical products and repackage pharmaceuticals that are purchased through federal or state healthcare programs and are subject to laws that establish eligibility for reimbursement by federal and state healthcare programs. Failure to comply with applicable standards and regulations could result in civil or criminal sanctions, including the loss of our ability to participate in Medicare, Medicaid and other federal and state healthcare programs.
In addition, our U.S. federal and state government contracts are subject to specific procurement regulations. Failure to comply with applicable rules or regulations or with contractual or other requirements may result in monetary damages and criminal or civil penalties as well as termination of our government contracts or our suspension or debarment from government contract work.
Health and Personal Information Practices
We collect, handle and maintain patient-identifiable health information. The Health Insurance Portability and Accountability Act of 1996 ("HIPAA"), as augmented by the Health Information Technology for Economic and Clinical Health Act, as well as some state and foreign laws, regulate the use and disclosure of patient-identifiable health information, including requiring specified privacy and security measures.
We also collect, handle and maintain other sensitive personal and financial information that is subject to federal and state laws protecting such information. Security and disclosure of personal information is also highly regulated in many other countries in which we operate.
In Europe, we are subject to the European Union (“EU”) data protection regulations, including the EU Directive on Data Protection, which requires member states to impose minimum restrictions on the collection, use and transfer of personal data that, in some respects, are more stringent, and impose more significant burdens on subject businesses, than current privacy standards in the United States. A new EU General Data Protection Regulation that will apply uniformly
 
across the EU will become effective in 2018 and includes, among other things, a requirement for prompt notice of data breaches to data subjects and supervisory authorities in certain circumstances and significant fines for non-compliance.
Antitrust Laws
The U.S. federal government, most U.S. states and many foreign countries have antitrust laws that prohibit certain types of conduct deemed to be anti-competitive. Violations of antitrust laws can result in various sanctions, including criminal and civil penalties. Private plaintiffs also could bring civil lawsuits against us in the United States for alleged antitrust law violations, including claims for treble damages. As previously disclosed, in April 2015, we settled allegations by the FTC resulting from an investigation into supplier arrangements involving our Nuclear Pharmacy Services division primarily focused on the period between 2003 and 2008.
Environmental, Health and Safety Laws
In the United States and other countries, we are subject to various federal, state and local environmental laws, as well as laws relating to safe working conditions and laboratory practices.
Laws Relating to Foreign Trade and Operations
U.S. and foreign laws require us to abide by standards relating to the import and export of finished goods, raw materials and supplies and the handling of information. We also must comply with various export control and trade embargo laws, which may require licenses or other authorizations for transactions within some countries or with some counterparties.
Similarly, we are subject to U.S. and foreign laws concerning the conduct of our foreign operations, including the U.S. Foreign Corrupt Practices Act, Chinese anti-corruption laws, the U.K. Bribery Act and other foreign anti-bribery laws. Among other things, these laws generally prohibit companies and their intermediaries from offering, promising or making payments to officials of foreign governments for the purpose of obtaining or retaining business.


 33
Cardinal Health | Fiscal 2016 Form 10-K
 


Business
 
 


Other Information
 
Although our agreements with manufacturers sometimes require us to maintain inventory levels within specified ranges, our distribution businesses are generally not required by our customers to maintain particular inventory levels other than as needed to meet service level requirements. Certain supply contracts with U.S. government entities require us to maintain sufficient inventory to meet emergency demands, but we do not believe those requirements materially affect inventory levels.
 
Our customer return policies generally require that the product be physically returned, subject to restocking fees. We only allow customers to return products that can be added back to inventory and resold at full value, or that can be returned to vendors for credit.
We offer market payment terms to our customers.

Revenue and Long-Lived Assets by Geographic Area
 
See Note 15 of the “Notes to Consolidated Financial Statements” for revenue and long-lived assets by geographic area.
Available Information
 
Our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports are available free of charge on our website (www.cardinalhealth.com), under the “Investors — Financial Reporting — SEC Filings” caption, as soon as reasonably practicable after we electronically file them with, or furnish them to, the SEC.
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 a website (www.sec.gov) where you can search for annual, quarterly and current reports, proxy and information statements, and other information regarding us and other public companies.


 
Cardinal Health | Fiscal 2016 Form 10-K
34



Risk Factors
 
 


Risk Factors
The risks described below could materially and adversely affect our results of operations, financial condition, liquidity and cash flows. These are not the only risks we face. Our businesses also could be affected by risks that we are not presently aware of or that we currently consider immaterial to our operations.
We could suffer the adverse effects of competitive pressures.
As described in greater detail in the "Business" section, we operate in markets that are highly competitive. Because of competition, our businesses face continued pricing pressure from our customers and suppliers. If we are unable to offset margin reductions caused by these pricing pressures through steps such as sourcing or cost control measures, additional service offerings and sales of higher margin products, our results of operations and financial condition could be adversely affected.
Our Pharmaceutical segment’s generic pharmaceutical program could be adversely affected by price declines and fewer generic product launches.
Prices for generic pharmaceuticals generally decline over time. Although some generic products may experience price appreciation which can positively affect our margins, we may not be able to predict whether (and if so, for how long and at what magnitude) such price appreciation will be sustained. The number of generic products experiencing price declines or appreciation and the magnitude of price changes is uncertain in future fiscal years, and could have a negative impact on our year-over-year margins.
The number of new generic pharmaceutical launches also varies from year to year, and the margin impact of these launches varies from product to product. Fewer generic product launches or launches that are less profitable than prior launches will have an adverse effect on our year-over-year margin growth.
Our generic pharmaceutical program has benefited from sourcing generic pharmaceuticals through our Red Oak Sourcing venture with CVS Health, which sources for both us and CVS Health. If the venture does not continue to be successful, our margins could be adversely affected.
Our Pharmaceutical segment’s margins under our distribution agreements with branded pharmaceutical manufacturers are affected by service fees we receive from the manufacturers and prices established by the manufacturers.
Our distribution agreements with branded pharmaceutical manufacturers generally provide that we receive fees from the manufacturers to compensate us for the services we provide them. Under some agreements, branded pharmaceutical price appreciation also serves as part of our compensation. If our service fees are reduced or, in cases where part of our compensation is branded price appreciation, if manufacturers determine not to increase prices or to implement only modest increases, our margins may be adversely affected.
 
Our business is subject to rigorous regulatory and licensing requirements.
As described in greater detail in the "Business" section, our business is highly regulated in the United States, at both the federal and state level, and in foreign countries. If we fail to comply with regulatory requirements, or if allegations are made that we fail to comply, our results of operations and financial condition could be adversely affected.
To lawfully operate our businesses, we are required to obtain and hold permits, product registrations, licenses and other regulatory approvals from, and to comply with operating and security standards of, numerous governmental bodies. Failure to maintain or renew necessary permits, product registrations, licenses or approvals, or to comply with required standards, could have an adverse effect on our results of operations and financial condition.
Products that we manufacture, source, distribute or market must comply with regulatory requirements. Noncompliance or concerns over noncompliance may result in suspension of our ability to distribute, import or manufacture products, product bans, recalls or seizures or criminal or civil sanctions, which, in turn, could result in product liability claims and lawsuits, including class actions. In addition, it can be costly and time-consuming to obtain regulatory approvals or product registrations to market a medical device, and such approvals or registrations might not be granted on a timely basis, if at all.
We are required to comply with laws relating to healthcare fraud and abuse. The requirements of these laws are complex and subject to varying interpretations, and it is possible that regulatory authorities could challenge our policies and practices. If we fail to comply with these laws, we could be subject to federal or state government investigations or qui tam actions (false claims cases initiated by private parties purporting to act on behalf of federal or state governments), which could result in civil or criminal sanctions, including the loss of licenses or the ability to participate in Medicare, Medicaid and other federal and state healthcare programs. Such sanctions and damages could adversely affect our results of operations and financial condition.
Our Cardinal Health at Home business and a few of our other businesses are Medicare-certified suppliers or participate in state Medicaid programs. In addition, we manufacture pharmaceutical and medical products and repackage pharmaceuticals that are purchased through federal or state healthcare programs. Failure to comply with applicable standards and regulations could result in civil or criminal sanctions, including the loss of our ability to participate in Medicare, Medicaid and other federal and state healthcare programs.
Our government contracts are subject to specific procurement regulations. Failure to comply with applicable rules or regulations or with contractual or other requirements may result in monetary damages and criminal or civil penalties as well as termination of our government contracts or our suspension or debarment from government contract work.


 35
Cardinal Health | Fiscal 2016 Form 10-K
 


Risk Factors
 
 


We collect, handle and maintain patient-identifiable health information and other sensitive personal and financial information, which are subject to federal, state and foreign laws that regulate the use and disclosure of such information. Regulations currently in place continue to evolve, and new laws in this area could further restrict our ability to collect, handle and maintain personal or patient information, or could require us to incur additional compliance costs, either of which could have an adverse impact on our results of operations. Violations of federal, state or foreign laws concerning privacy and data protection could subject us to civil or criminal penalties, breach of contract claims, costs for remediation and harm to our reputation.
The U.S. federal government, most U.S. states and many foreign countries have antitrust laws that prohibit certain types of conduct deemed to be anti-competitive. Violations of antitrust laws can result in various sanctions, including criminal and civil penalties. Private plaintiffs also could bring civil lawsuits against us in the United States for alleged antitrust law violations, including claims for treble damages.
Our global operations are required to comply with the U.S. Foreign Corrupt Practices Act, Chinese anti-corruption laws, the U.K. Bribery Act and similar anti-bribery laws in other jurisdictions and U.S. and foreign export control, trade embargo and customs laws. If we fail to comply with any of these laws, we could suffer civil or criminal sanctions.
Our China operations are subject to national, regional and local regulations. The regulatory environment in China is evolving, and officials in the Chinese government exercise broad discretion in deciding how to interpret and apply regulations. It is possible that the Chinese government's current or future interpretation and application of existing or new regulations will negatively impact our China operations, result in regulatory investigations or lead to fines or penalties.
The acquisition of Cordis significantly expanded the number of countries in which we sell products directly. We are required to comply with the regulatory requirements of each of these countries, including requirements related to product registrations and licensing of medical devices. Additionally, as a result of the Cordis acquisition, we now manufacture and distribute a greater number of products that are implanted in the human body, subjecting us to more complex regulations within the United States and in the foreign countries in which Cordis operates. If we fail to comply with any of these laws, we could suffer civil or criminal sanctions.
CVS Health is a large customer that generates a significant amount of our revenue.
Our sales and credit concentration is significant. CVS Health accounted for 25 percent of our fiscal 2016 revenue and 22 percent of our gross trade receivable balance at June 30, 2016. If CVS Health were to terminate our agreements with them due to an alleged default by us, default in payment or significantly reduce its purchases of our products and services, our results of operations and financial condition could be adversely affected.
 
We could be subject to adverse changes in the tax laws or challenges to our tax positions.
We are a large multinational corporation with operations in the United States and many foreign countries. As a result, we are subject to the tax laws of many jurisdictions.
From time to time, legislative initiatives are proposed in the United States and other jurisdictions in which we operate that could adversely affect our tax positions, effective tax rate, tax payments or financial condition. Examples of such initiatives include the repeal of the LIFO (last-in, first-out) method of inventory accounting for income tax purposes, a change in the current U.S. taxation treatment of income from foreign operations, the establishment or increase in taxation at the U.S. state level on the basis of gross revenues, recommendations of the base erosion and profit shifting project undertaken by the Organization for Economic Cooperation and Development and the European Commission’s investigation into illegal state aid.
Tax laws are complex and subject to varying interpretations. Tax authorities have challenged some of our tax positions and it is possible that they will challenge others. These challenges may adversely affect our effective tax rate, tax payments or financial condition.
The U.S. healthcare environment is changing in many ways, some of which may not be favorable to us.
The U.S. healthcare industry continues to undergo significant changes designed to increase access to medical care, improve safety and patient outcomes, contain costs and increase efficiencies. Medicare and Medicaid reimbursement levels have generally declined and the basis for payments is changing, shifting away from the traditional fee-for-service model towards value-based payments and risk-sharing models. The U.S. Department of Health and Human Services has set a goal of tying 50 percent of Medicare reimbursements to alternative payment models by the end of 2018. The use of managed care has increased. Distributors, manufacturers, healthcare providers, insurers and pharmacy chains have consolidated and have formed strategic alliances. Large purchasing groups are also prevalent. The industry is experiencing a shift away from traditional healthcare venues like hospitals and into clinics and physician offices, and, in some cases, patients’ homes. We could be adversely affected directly or indirectly (if our customers or suppliers are adversely affected) by these and other changes in the delivery, pricing or utilization of, or reimbursement for, pharmaceuticals, medical products or healthcare services.
Consolidation in the healthcare industry may negatively impact our results of operations.
In recent years, the healthcare industry has continued to consolidate. Manufacturers are combining, which may leave us less able to negotiate our service fees with them. Some of our customers also are consolidating, creating larger enterprises with greater negotiating power. Customer consolidations also could result in the possible loss of a customer where the combined enterprise selects one distributor from two incumbents. We expect this consolidation trend among manufacturers and customers to continue, which could adversely affect our results of operations.


 
Cardinal Health | Fiscal 2016 Form 10-K
36



Risk Factors
 
 


Our business and operations depend on the proper functioning of information systems, critical facilities and distribution networks. Our business could be adversely affected if we experience a cyber-attack or other systems breach.
We rely on our information systems to obtain, rapidly process, analyze and manage data to:
facilitate the purchase and distribution of inventory items from numerous distribution centers;
receive, process and ship orders on a timely basis;
manage the accurate billing and collections for thousands of customers;
process payments to suppliers;
facilitate the manufacturing and assembly of medical products; and
generate financial information.
Our business also depends on the proper functioning of our critical facilities, including our national logistics center, and our distribution networks. Our results of operations could be adversely affected if:
our information systems, critical facilities or distribution networks, or our customers' access to these systems, facilities or networks, are disrupted;
our information systems, critical facilities or distribution networks are damaged; or
our information systems, critical facilities or distribution networks fail,
whether due to physical disruptions, such as fire, natural disaster, pandemic or power outage, or due to cyber security incidents or other actions of third parties, including terrorism or labor strikes.
The Pharmaceutical segment is in a multi-year project to replace certain of its finance and operating information systems. If these new systems are not effectively implemented or they fail to operate as intended, it could adversely affect the Pharmaceutical segment’s supply chain operations and our internal control over financial reporting. In addition, from time to time, other businesses perform business process improvements or infrastructure modernizations or may use third-party service providers for key systems and processes, such as order to cash, customer service and accounts payable. If any of these initiatives are not successfully or efficiently implemented or maintained, they could adversely affect our business and our internal control over financial reporting.
Our business relies on the secure transmission, storage and hosting of patient-identifiable health information, financial information and other sensitive information relating to our customers, company and workforce. We have programs in place to detect, contain and respond to information security incidents. However, because the techniques used to obtain unauthorized access, disable or degrade service or sabotage systems change frequently and may be difficult to detect for long periods of time, we may be unable to anticipate these techniques or to implement adequate preventative measures. In addition, hardware, software or applications we develop or procure from third parties may contain defects in design or manufacture or other problems that could unexpectedly compromise information
 
security. Unauthorized parties may also attempt to gain access to our systems or facilities, or to those of third parties with whom we do business, through fraud, trickery or other forms of deceiving our employees, contractors or vendors. Any compromise of our information systems or of the information systems of a third-party with whom we do business, including unauthorized access to or use or disclosure of sensitive information, could adversely impact our operations, results of operations or our ability to satisfy legal requirements, including those legal requirements related to patient-identifiable health information.
Because of the nature of our business, we may become involved in legal proceedings that could adversely impact our cash flows or results of operations.
Due to the nature of our businesses, which includes the manufacture and distribution of healthcare products, we may from time to time become involved in disputes or legal proceedings. These include commercial disputes, government contract compliance matters, product liability claims or lawsuits, patent infringement claims, qui tam actions or other legal proceedings.
Some of the products that we manufacture or distribute, including the cardiovascular and endovascular products manufactured and distributed by Cordis, have been and may in the future be alleged to cause personal injury, subjecting us to product liability claims. Although we maintain product liability insurance for many products that we manufacture, there are substantial self-insured retentions, conditions or exclusions. There are no guarantees that we can obtain product liability insurance for a particular product we manufacture or if we do obtain insurance, the amount maintained would be adequate to cover any or all current or future claims settlements or judgments. Where we self-insure, we establish reserves based on actuarial methodologies and historical loss trends. However, any settlement or judgment in excess of our insurance limits or that is not otherwise covered could adversely affect our results of operations and financial condition.
Our manufacturing businesses operate in an industry characterized by extensive intellectual property litigation. Patent litigation can result in significant damage awards and injunctions that could prevent the manufacture and sale of affected products or force us to make royalty payments in order to continue selling the affected products.
Litigation is inherently unpredictable, and the unfavorable resolution of one or more of these legal proceedings could adversely affect our cash flows or results of operations.
Acquisitions can have unanticipated results.
An important element of our growth strategy has been to acquire other businesses that expand or complement our existing businesses. In fiscal 2016, we spent $3.6 billion to acquire other businesses, including $1.1 billion to acquire Harvard Drug and $1.9 billion to acquire Cordis. Acquisitions involve risks: we may overpay for a business or fail to realize the synergies and other benefits we expect from the acquisition; our management’s attention may be diverted to integration efforts; we may fail to retain key personnel of the acquired business; future developments may impair the value of our purchased goodwill or intangible assets; we may face difficulties establishing or combining operations and systems; we may assume


 37
Cardinal Health | Fiscal 2016 Form 10-K
 


Risk Factors
 
 


liabilities related to litigation or other legal proceedings involving the acquired business; we may face challenges retaining the customers of the acquired business; or we may encounter unforeseen internal control, regulatory or compliance issues.
We depend on certain suppliers to make their raw materials and products available to us and are subject to fluctuations in costs of raw materials and products.
We depend on the availability of various components, compounds, raw materials (including radioisotopes) and energy supplied by others for our operations. Any of our supplier relationships could be interrupted due to events beyond our control, including natural disasters, or could be terminated. A sustained supply interruption could have an adverse effect on our business.
Our manufacturing businesses use oil-based resins, cotton, latex and other commodities as raw materials in many products. Prices of oil and gas also affect our distribution and transportation costs. Prices of these commodities are volatile and can fluctuate significantly, causing our costs to produce and distribute our products to fluctuate. Due to competitive dynamics and contractual limitations, we may be unable to pass along cost increases through higher prices. If we cannot fully offset cost increases through other cost reductions, or recover these costs through price increases or surcharges, our results of operations could be adversely affected.
Our results of operations may suffer upon the bankruptcy, insolvency, or other credit failure of a customer that has a substantial amount owed to us.
Most of our customers buy products and services from us on credit, which is made available to customers based on our assessment of creditworthiness. The bankruptcy, insolvency or other credit failure of any customer that has a substantial amount owed to us could adversely affect our results of operations.
 
Our Cordis acquisition increased the extent of our exposure to the economic, political and currency risks of international operations.
We conduct our operations in various regions of the world outside of the United States, including North America, South America, Europe and Asia. The scope and complexity of our international operations expanded with the acquisition of Cordis and we may continue to expand our operations outside the United States. Global developments can affect our business in many ways. Our global operations are affected by local economic environments, including inflation, recession and competition. In addition, we conduct our business in U.S. dollars and various functional currencies of our foreign subsidiaries. Changes in foreign currency exchange rates could adversely affect our financial results, which are reported in U.S. dollars. We may not be able to hedge to protect us against these exposures, and any hedges may not successfully mitigate these exposures. Political changes also can disrupt our global operations, as well as our customers and suppliers, in a particular location. Divergent or unfamiliar regulatory systems and labor markets also can increase the risks and burdens of operating in numerous countries.
Economic conditions may adversely affect demand for our products and services.
Deterioration in general economic conditions in the United States and other countries in which we do business could adversely affect the amount of prescriptions filled and the number of medical procedures undertaken and, therefore, reduce purchases of our products and services, which could adversely affect our results of operations. In addition, deteriorating economic conditions may increase bankruptcies, insolvencies or other credit failures of customers or suppliers, which, if they have a substantial amount owed to us, also could adversely affect our results of operations.



 
Cardinal Health | Fiscal 2016 Form 10-K
38



Properties and Legal Proceedings
 
 

Properties
In the United States, at June 30, 2016, the Pharmaceutical segment operated 24 primary pharmaceutical distribution facilities and one national logistics center; six specialty distribution facilities; and more than 140 nuclear pharmacy and cyclotron facilities. The Medical segment operated more than 70 medical-surgical distribution, assembly, manufacturing and other operating facilities. Our U.S. operating facilities are located in 45 states and in Puerto Rico.
Outside the United States, at June 30, 2016, our Medical segment operated more than 20 facilities in Canada, the Dominican Republic, Malaysia, Malta, Mexico and Thailand that engage in manufacturing, distribution or research. In addition, our Pharmaceutical and Medical
 
segments utilized various distribution and pharmacy facilities in China.
At June 30, 2016, we owned more than 70 operating facilities and leased more than 240 operating facilities around the world. Our principal executive offices are headquartered in an owned building located at 7000 Cardinal Place in Dublin, Ohio.
We consider our operating properties to be in satisfactory condition and adequate to meet our present needs. However, we regularly evaluate operating properties and may make further additions and improvements or consolidate locations as we seek opportunities to expand or enhance the efficiency of our business.

Legal Proceedings
The legal proceedings described in Note 8 of the "Notes to Consolidated Financial Statements" are incorporated in this "Legal Proceedings" section by reference.





 39
Cardinal Health | Fiscal 2016 Form 10-K
 


Market for Registrant's Common Equity
 
 

Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common shares are listed on the New York Stock Exchange under the symbol “CAH.” The following table reflects the range of the reported high and low closing prices of our common shares as reported on the New York Stock Exchange Composite Tape and the per share dividends declared for the fiscal years ended June 30, 2016 and 2015 and paid quarterly. It also reflects the range of the reported high and low closing prices of our common shares from July 1, 2016 through the period ended on July 29, 2016 and the per share dividends declared from July 1, 2016 through the period ended on August 5, 2016:
 
High
 
Low
 
Dividends Declared
Fiscal 2015
 
 
 
 
 
Quarter Ended:
 
 
 
 
 
September 30, 2014
$
77.66

 
$
69.59

 
$
0.3425

December 31, 2014
83.04

 
72.13

 
0.3425

March 31, 2015
91.25

 
79.19

 
0.3425

June 30, 2015
91.50

 
83.65

 
0.3870

 
 
 
 
 
 
Fiscal 2016
 
 
 
 
 
Quarter Ended:
 
 
 
 
 
September 30, 2015
$
87.02

 
$
76.72

 
$
0.3870

December 31, 2015
90.85

 
77.12

 
0.3870

March 31, 2016
89.68

 
76.16

 
0.3870

June 30, 2016
87.20

 
73.69

 
0.4489

 
 
 
 
 
 
Fiscal 2017
$
83.64

 
$
78.23

 
$
0.4489

At July 29, 2016 there were approximately 9,184 shareholders of record of our common shares.
We anticipate that we will continue to pay quarterly cash dividends in the future. The payment and amount of future dividends remain, however, within the discretion of our Board of Directors and will depend upon our future earnings, financial condition, capital requirements and other factors.
Issuer Purchases of Equity Securities
Period
Total Number
of Shares
Purchased (1)
 
Average Price Paid per Share
 
Total Number of Shares
Purchased
as Part of Publicly Announced Programs (2)
 
Approximate
Dollar Value of
Shares That May
Yet be Purchased
Under the Programs (2)
(in millions)
April 2016
191

 
$
84.50

 

 
$
393

May 2016
2,802,649

 
77.36

 
2,802,453

 
1,176

June 2016
1,711,419

 
77.67

 
1,711,249

 
1,043

Total
4,514,259

 
$
77.48

 
4,513,702

 
$
1,043

(1)
Reflects 191, 196 and 170 common shares purchased in April, May and June 2016, respectively, through a rabbi trust as investments of participants in our Deferred Compensation Plan.
(2)
On October 29, 2013, our Board of Directors approved a $1.0 billion share repurchase program and on August 6, 2014, the Board of Directors authorized an additional $1.0 billion under the program, for a total of $2.0 billion. This program was completed in July 2016. On May 4, 2016, our Board of Directors also approved a $1.0 billion share repurchase program that expires on December 31, 2019. During the three months ended June 30, 2016, we repurchased 4.5 million common shares under these programs. We repurchased an additional 3 million common shares from July 1, 2016 through August 5, 2016. After these repurchases, we have $793 million available under our new repurchase program.

 
Cardinal Health | Fiscal 2016 Form 10-K
40



Market for Registrant's Common Equity
 
 

Five Year Performance Graph
The following line graph compares the cumulative total return of our common shares with the cumulative total return of the Standard & Poor’s Composite—500 Stock Index (the "S&P 500 Index") and the Standard & Poor's Composite—500 Healthcare Index (the "S&P 500 Healthcare Index"). The line graph assumes, in each case, an initial investment of $100 on June 30, 2011, based on the market prices at the end of each fiscal year through and including June 30, 2016, and reinvestment of dividends. The S&P 500 Index and S&P 500 Healthcare Index investments are weighted on the basis of market capitalization at the beginning of each period.


 
June 30
 
2011
2012
2013
2014
2015
2016
Cardinal Health, Inc.
$
100.00

$
94.45

$
108.90

$
161.30

$
200.19

$
190.43

S&P 500 Index
100.00

105.42

127.11

158.34

170.07

176.83

S&P 500 Healthcare Index
100.00

109.76

140.21

182.34

226.38

221.81


 41
Cardinal Health | Fiscal 2016 Form 10-K
 


Reports
 
 


Management Reports
Evaluation of Disclosure Controls and Procedures
We evaluated, with the participation of our principal executive officer and principal financial officer, the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the "Exchange Act")) as of June 30, 2016. Based on this evaluation, our principal executive officer and principal financial officer have concluded that our disclosure controls and procedures were effective as of June 30, 2016 to provide reasonable assurance that information required to be disclosed in our reports under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC rules and forms and that such information is accumulated and communicated to management as appropriate to allow timely decisions regarding required disclosure.
Management’s Report on Internal Control Over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13a-15(f) under the Exchange Act. Our internal control system is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, controls deemed effective now may become inadequate in the future because of changes in conditions, or because compliance with policies or procedures has deteriorated or been circumvented.
Management assessed the effectiveness of our internal control over financial reporting as of June 30, 2016. In making this assessment, management used the criteria established in the Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the “COSO criteria”). Based on management’s assessment and the COSO criteria, management believes that our internal control over financial reporting was effective as of June 30, 2016.
Our independent registered public accounting firm, Ernst & Young LLP, has issued a report on our internal control over financial reporting. Ernst & Young LLP’s report appears following this "Management Reports" section and expresses an unqualified opinion on the effectiveness of our internal control over financial reporting.
On October 2, 2015, we completed the acquisition of Cordis. As permitted by guidelines established by the SEC, management excluded Cordis from the scope of its assessment of the effectiveness of internal control over financial reporting as of June 30, 2016. Cordis constituted 7 percent and 29 percent of our total and net assets, respectively, as of June 30, 2016 and less than 1 percent of both our revenue and operating earnings for the fiscal year then ended.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting during the quarter ended June 30, 2016 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Implementation of New Software Systems
The Pharmaceutical segment is in a multi-year project implementing a replacement of certain finance and operating information systems, which is expected to affect internal control over financial reporting. This project did not impact internal control over financial reporting during fiscal 2016. If these new systems are not effectively implemented or fail to operate as intended, it could adversely affect our internal control over financial reporting.



 
Cardinal Health | Fiscal 2016 Form 10-K
42



Reports
 
 

Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting
The Board of Directors and Shareholders of Cardinal Health, Inc.
We have audited Cardinal Health, Inc. and subsidiaries' internal control over financial reporting as of June 30, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). Cardinal Health, Inc. and subsidiaries' management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying “Management's Report on Internal Control Over Financial Reporting.” Our responsibility is to express an opinion on the company's internal control over financial reporting based on our audit.
We conducted our audit 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 effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the company's assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
As indicated in the accompanying “Management’s Report on Internal Control Over Financial Reporting”, management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of Cordis, which is included in the 2016 consolidated financial statements of Cardinal Health, Inc. and subsidiaries and constituted 7 percent and 29 percent of total and net assets, respectively, as of June 30, 2016 and less than 1 percent of both revenues and operating earnings for the year then ended. Our audit of internal control over financial reporting of Cardinal Health, Inc. and subsidiaries also did not include an evaluation of the internal control over financial reporting of Cordis.
In our opinion, Cardinal Health, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of June 30, 2016, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Cardinal Health, Inc. and subsidiaries as of June 30, 2016 and 2015 and the related consolidated statements of earnings, comprehensive income, shareholders' equity and cash flows for each of the three years in the period ended June 30, 2016 of Cardinal Health, Inc. and subsidiaries and our report dated August 12, 2016 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
 
Columbus, Ohio
August 12, 2016



 43
Cardinal Health | Fiscal 2016 Form 10-K
 


Reports
 
 

Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of Cardinal Health, Inc.
We have audited the accompanying consolidated balance sheets of Cardinal Health, Inc. and subsidiaries as of June 30, 2016 and 2015, and the related consolidated statements of earnings, comprehensive income, shareholders' equity, and cash flows for each of the three years in the period ended June 30, 2016. Our audits also included the financial statement schedule listed in the Index 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 Cardinal Health, Inc. and subsidiaries at June 30, 2016 and 2015, and the consolidated results of their operations and their cash flows for each of the three years in the period ended June 30, 2016, 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), Cardinal Health, Inc. and subsidiaries' internal control over financial reporting as of June 30, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated August 12, 2016 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
 
Columbus, Ohio
August 12, 2016



 
Cardinal Health | Fiscal 2016 Form 10-K
44



Financial Statements
 
 

Financial Statements and Supplementary Data


 45
Cardinal Health | Fiscal 2016 Form 10-K
 


Financial Statements
 
 

Consolidated Statements of Earnings
(in millions, except per common share amounts)
2016
 
2015
 
2014
Revenue
$
121,546

 
$
102,531

 
$
91,084

Cost of products sold
115,003

 
96,819

 
85,923