10-K 1 a19q4_10kx063019xform10-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, 2019
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 each class
Trading Symbol(s)
Name of each exchange on which registered
Common shares (without par value)
CAH
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 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 whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
Accelerated filer  o
Non-accelerated filer o
Smaller reporting company  o
Emerging growth company  o
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act 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, 2018, was the following: $13,267,580,148.
The number of the registrant’s common shares, without par value, outstanding as of July 31, 2019, was the following: 298,133,678.

Documents Incorporated by Reference:
Portions of the registrant’s Definitive Proxy Statement to be filed for its 2019 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 2019 Form 10-K

Table of Contents
 



 1
Cardinal Health | Fiscal 2019 Form 10-K
 


Introduction
 
 


Introduction

References to Cardinal Health and Fiscal Years
As used in this report, "we," "our," "us," "Cardinal Health" and similar pronouns refer to Cardinal Health, Inc. and its majority-owned subsidiaries, unless the context requires otherwise. Our fiscal year ends on June 30.  References to fiscal 2020, 2019, 2018, 2017, 2016 and 2015 are to the fiscal years ended June 30, 2020, 2019, 2018, 2017, 2016 and 2015, respectively. Except as otherwise specified, information in this report is provided as of June 30, 2019.
Non-GAAP Financial Measures
In this report, including in the "Fiscal 2019 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 report.
Important Information Regarding Forward-Looking Statements
This report (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 report, 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” in this report and in Exhibit 99.1 to the Form 10-K included in this report. Forward-looking statements in this report 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.
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 “Investor Relations — Financial Reporting — SEC Filings” caption, as soon as reasonably practicable after we electronically file them with, or furnish them to, the SEC. 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 2019 Form 10-K
2



MD&A
Results of Operations
 


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 globally integrated healthcare services and products company providing customized solutions for hospitals, healthcare systems, pharmacies, ambulatory surgery centers, clinical laboratories and physician offices. We provide medical products and pharmaceuticals and cost-effective solutions that enhance supply chain efficiency. 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 and over-the-counter healthcare and consumer products in the United States. This segment also provides services to pharmaceutical manufacturers and healthcare providers for specialty pharmaceutical products; operates nuclear pharmacies and radiopharmaceutical manufacturing facilities; 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.
 
Medical Segment
 
Our Medical segment manufactures, sources and distributes Cardinal Health branded medical, surgical and laboratory products, which are sold in the United States, Canada, Europe, Asia and other markets. In addition to distributing Cardinal Health branded products, this segment also distributes a broad range of medical, surgical and laboratory products known as national brand products and provides supply chain services and solutions to hospitals, ambulatory surgery centers, clinical laboratories and other healthcare providers in the United States and Canada. This segment also distributes medical products to patients' homes in the United States through our Cardinal Health at-Home Solutions division.


 3
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Results of Operations
 

Consolidated Results
chart-d3f653e3ffc75914acf.jpgchart-79ff3df8d0ec57b9af3.jpgchart-0b7edc364aab503e985.jpg
Fiscal 2019 Overview
 
Revenue
Revenue for fiscal 2019 was $145.5 billion, a 6 percent increase from the prior year, primarily due to sales growth from pharmaceutical distribution and specialty pharmaceutical customers, partially offset by the February 2018 divestiture of our China distribution business.
GAAP and Non-GAAP Operating Earnings
(in millions)
2019
 
2018
 
Change
GAAP
$
2,060

 
$
126

 
N.M.

Restructuring and employee severance
125

 
176

 
 
Amortization and other acquisition-related costs
621

 
707

 
 
Impairments and (gain)/loss on disposal of assets
(488
)
 
1,417

 
 
Litigation (recoveries)/charges, net
36

 
159

 
 
Non-GAAP
$
2,353

 
$
2,585

 
(9
)%
The sum of the components may not equal the total due to rounding.
During fiscal 2019, GAAP operating earnings increased to $2.1 billion from $126 million during fiscal 2018. Non-GAAP operating earnings decreased 9 percent to $2.4 billion. The increase in GAAP operating earnings was primarily due to the goodwill impairment charge related to our Medical segment in the prior year and the current year gain from the divestiture of our naviHealth Holdings, LLC ("naviHealth") business.
The decrease in non-GAAP operating earnings was primarily due to the negative impact of our Pharmaceutical segment generics program, performance of Medical segment Cardinal Health Brand products and the adverse impact of Pharmaceutical segment customer contract renewals. These factors were partially offset by growth from our specialty pharmaceutical products and services business within our Pharmaceutical segment, the beneficial impact of enterprise-wide cost-savings measures and higher contribution from branded pharmaceutical sales and mix.





 
Cardinal Health | Fiscal 2019 Form 10-K
4



MD&A
Results of Operations
 

GAAP and Non-GAAP Diluted EPS
($ per share)
2019
 
2018
 
Change
GAAP
$
4.53

 
$
0.81

 
N.M.

Restructuring and employee severance
0.31

 
0.48

 
 
Amortization and other acquisition-related costs
1.57

 
1.69

 
 
Impairments and (gain)/loss on disposal of assets
(1.25
)
 
4.64

 
 
Litigation (recoveries)/charges, net
0.09

 
0.35

 
 
Transitional tax benefit, net
0.03

 
(2.97
)
 
 
Non-GAAP
$
5.28

 
$
5.00

 
6
%
The sum of the components may not equal the total due to rounding.
During fiscal 2019, GAAP diluted earnings per share attributable to Cardinal Health, Inc. ("diluted EPS") increased to $4.53 from $0.81 during fiscal 2018. Non-GAAP diluted EPS increased 6 percent to $5.28.
Fiscal 2019 GAAP diluted EPS increased primarily due to the increase in GAAP operating earnings and the benefits from applying a lower federal statutory tax rate to our U.S. pre-tax earnings as a result of the U.S. Tax Cuts and Jobs Act ("Tax Act"). This increase was partially offset by a $2.97 per share favorable impact in the prior year from the estimated net transitional benefit from the remeasurement of our deferred tax assets and liabilities partially offset by the repatriation tax on cash and earnings of foreign subsidiaries.
Fiscal 2019 non-GAAP diluted EPS increased primarily due to a $0.49 per share impact from a lower non-GAAP effective tax rate in the current period compared to the higher prior year non-GAAP effective tax rate. Also contributing to the increase in non-GAAP diluted EPS was a lower share count as a result of share repurchases. These factors were partially offset by the decrease in non-GAAP operating earnings. The non-GAAP effective tax rate is lower in the current year primarily because of the benefits from applying a lower federal statutory tax rate to our U.S. pre-tax earnings as a result of the Tax Act.
Cash and Equivalents
 
Our cash and equivalents balance was $2.5 billion at June 30, 2019 compared to $1.8 billion at June 30, 2018. The increase in cash and equivalents during fiscal 2019 was due to $2.7 billion of net cash provided by operating activities and $737 million of net cash proceeds from the sale of our naviHealth business, offset by $1.1 billion of debt repayments, $600 million of share repurchases, $577 million of dividends, and $328 million of capital expenditures.

 5
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Results of Operations
 

Significant Developments in Fiscal 2019 and Trends
Divestitures
 
naviHealth Divestiture
In August 2018, we sold our 98 percent ownership interest in naviHealth in exchange for cash proceeds of $737 million and a 44 percent equity interest in a partnership that owns 100 percent of naviHealth. We also have certain call rights to reacquire naviHealth. We recognized a pre-tax gain of $508 million related to this divestiture during fiscal 2019.
Trends
 
Within our Pharmaceutical segment, we expect fiscal 2020 segment profit to be less than our fiscal 2019 segment profit due to the adverse impact of recent customer contract renewals and generics program performance, which includes the negative impact of generic pharmaceutical customer pricing changes partially offset by the benefits of Red Oak Sourcing. As is generally the case, the frequency, timing, magnitude and profit impact of generic pharmaceutical customer pricing changes, customer renewals, and branded and generic pharmaceutical manufacturer pricing changes remain uncertain and their impact on Pharmaceutical segment profit and consolidated operating earnings in fiscal 2020 could be more or less than we expect.
On August 7, 2019, we were authorized to incur restructuring costs in connection with certain cost-savings initiatives intended to optimize and simplify our operating model and cost structure. We expect these cost-savings initiatives, which will affect various functional and commercial areas across the Company, to be substantially implemented during fiscal year 2020. As a result of these initiatives, we expect to record restructuring charges of approximately $120 million to $145 million, the majority of which are expected to be expensed during fiscal year 2020. We may incur additional restructuring charges in connection with other projects.


 
Cardinal Health | Fiscal 2019 Form 10-K
6



MD&A
Results of Operations
 

Results of Operations
Revenue
 
chart-8e237596d2045a548a8.jpgchart-ef7615c2ad65549d9d6.jpg
 
Revenue
 
Change
(in millions)
2019
 
2018
 
2017
 
2019
 
2018
Pharmaceutical
$
129,917

 
$
121,241

 
$
116,463

 
7
%
 
4
%
Medical
15,633

 
15,581

 
13,524

 
%
 
15
%
Total segment revenue
145,550

 
136,822

 
129,987

 
6
%
 
5
%
Corporate
(16
)
 
(13
)
 
(11
)
 
N.M.

 
N.M.

Total revenue
$
145,534

 
$
136,809

 
$
129,976

 
6
%
 
5
%

Fiscal 2019 Compared to Fiscal 2018
 
Pharmaceutical Segment
Fiscal 2019 Pharmaceutical segment revenue grew primarily due to sales growth from pharmaceutical distribution and specialty pharmaceutical customers, which together increased revenue by $10.7 billion. The increases were partially offset by the February 2018 divestiture of our China distribution business.
Medical Segment
Fiscal 2019 Medical segment revenue was flat compared to fiscal 2018. Sales growth from existing customers and the benefit from one additional month of contribution from the Patient Recovery acquisition were offset by the divestitures of our China distribution and naviHealth businesses.
 

Fiscal 2018 Compared to Fiscal 2017
 
Pharmaceutical Segment
Fiscal 2018 Pharmaceutical segment revenue grew primarily due to sales growth from pharmaceutical distribution and specialty pharmaceutical customers, which together increased revenue by $9.4 billion. The increases were partially offset by the previously announced May 2017 expiration of a large pharmaceutical distribution mail order customer contract and the February 2018 divestiture of our China distribution business.
Medical Segment
Fiscal 2018 Medical segment revenue grew mainly due to $1.9 billion of contributions from acquisitions, primarily the Patient Recovery Business acquisition.
Cost of Products Sold
 
Cost of products sold for fiscal 2019 and 2018 increased $9.1 billion (7 percent) and $6.2 billion (5 percent) compared to the prior-year periods, respectively, as a result of the same factors affecting the changes in revenue and gross margin.



 


 7
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Results of Operations
 


Gross Margin
 
chart-96d60b312e1c508abbf.jpgchart-a2a3685e4e145756a3b.jpg
 
Consolidated Gross Margin
 
Change
(in millions)
2019
 
2018
 
2017
 
2019
 
2018
Gross margin
$
6,834

 
$
7,181

 
$
6,544

 
(5
)%
 
10
%
Fiscal 2019 Compared to Fiscal 2018
 
Fiscal 2019 consolidated gross margin decreased $347 million (5 percent) due to lower contribution from our Pharmaceutical segment generics program, performance of Medical segment's Cardinal Health Brand products, the net impact of acquisitions and divestitures and the adverse impact of Pharmaceutical segment customer contract renewals. These factors were partially offset by sales growth from our specialty pharmaceutical products and services business and higher contribution from branded pharmaceutical sales and mix.
Gross margin rate declined during fiscal 2019 mainly due to changes in product mix, lower contribution from our Pharmaceutical segment generics program, performance of Medical segment's Cardinal Health Brand products, and the adverse impact of Pharmaceutical segment customer contract renewals.
 
Fiscal 2018 Compared to Fiscal 2017
 
Fiscal 2018 consolidated gross margin increased $637 million (10 percent) and was favorably impacted by acquisitions ($809 million), primarily the Patient Recovery Business acquisition.
Gross margin rate grew during fiscal 2018 mainly due to acquisitions, primarily the Patient Recovery Business acquisition. Gross margin rate growth was partially offset by the negative impact of changes in pharmaceutical distribution product mix and performance in our Cordis business due to inventory challenges and increased manufacturing costs.

Distribution, Selling, General and Administrative ("SG&A") Expenses
 
 
SG&A Expenses
 
Change
(in millions)
2019
 
2018
 
2017
 
2019
 
2018
SG&A expenses
$
4,480

 
$
4,596

 
$
3,775

 
(3
)%
 
22
%
 
Fiscal 2019 Compared to Fiscal 2018
 
Fiscal 2019 SG&A expenses decreased due to the beneficial impact of divestitures and enterprise-wide cost-savings measures, largely offset by certain costs to exit transition service agreements for our Patient Recovery Business and legal expenses for opioid-related matters.
 
Fiscal 2018 Compared to Fiscal 2017
 
Fiscal 2018 SG&A expenses increased mainly due to acquisitions ($524 million), which primarily consists of the Patient Recovery Business acquisition, and enterprise-wide compensation related items.

 
Cardinal Health | Fiscal 2019 Form 10-K
8



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.
chart-e9dcc9148a515348b6c.jpgchart-8becfa5100f357efb51.jpgchart-8b2676a8bab7514ca49.jpg
 
Segment Profit and Operating Earnings
 
Change
(in millions)
2019
 
2018
 
2017
 
2019
 
2018
Pharmaceutical
$
1,834

 
$
1,992

 
$
2,187

 
(8
)%
 
(9
)%
Medical
576

 
662

 
572

 
(13
)%
 
16
 %
Total segment profit
2,410

 
2,654

 
2,759

 
(9
)%
 
(4
)%
Corporate
(350
)
 
(2,528
)
 
(639
)
 
N.M.

 
296
 %
Total consolidated operating earnings
$
2,060

 
$
126

 
$
2,120

 
N.M.

 
(94
)%
Fiscal 2019 Compared to Fiscal 2018
 
Pharmaceutical Segment Profit
Fiscal 2019 Pharmaceutical segment profit decreased largely due to our generics program performance, the adverse impact of customer contract renewals and legal expenses for opioid-related matters. Our generics program performance includes the negative impact of generic pharmaceutical customer pricing changes partially offset by the benefits of Red Oak Sourcing. The decreases were partially offset by growth from our specialty pharmaceutical products and services business, higher contribution from our branded pharmaceutical sales and mix and the beneficial impact of enterprise-wide cost-savings measures.
Medical Segment Profit
Fiscal 2019 Medical segment profit decreased largely due to the performance of Cardinal Health Brand products, including incremental supply chain costs, charges related to an exclusive distribution agreement with a Cordis supplier, and increased commodities prices. This decrease was partially offset by the benefits from enterprise-wide and segment cost-savings measures and the prior-year impact of Cordis inventory challenges and increased operating costs specific to Cordis. Medical segment profit comparison to the prior year also benefitted from acquisitions and divestitures, net, which includes the beneficial comparison to the impact in fiscal
 
2018 from the fair value step-up of inventory acquired with the Patient Recovery Business.
Corporate
The changes in Corporate during fiscal 2019 are due to the factors discussed in the Other Components of Consolidated Operating Earnings section that follows.

 9
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Results of Operations
 

Fiscal 2018 Compared to Fiscal 2017
 
Pharmaceutical Segment Profit
Fiscal 2018 Pharmaceutical segment profit decreased largely due to our generics program performance and the adverse impact of customer contract renewals. Performance from our specialty pharmaceutical products distribution and services business positively impacted Pharmaceutical segment profit.
Medical Segment Profit
Fiscal 2018 Medical segment profit increased largely due to acquisitions, inclusive of the unfavorable cost of products sold impact from the fair value step up of inventory acquired with the Patient
 
Recovery Business acquisition. The increase was partially offset by performance from the Cordis business, and to a lesser extent, performance from other Cardinal Health Brand products. The performance from the Cordis business primarily reflected inventory challenges and increased operating costs.
Corporate
The changes in Corporate during fiscal 2018 were due to the factors discussed in the Other Components of Consolidated Operating Earnings section that follows.
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)
2019
 
2018
 
2017
Restructuring and employee severance
$
125

 
$
176

 
$
56

Amortization and other acquisition-related costs
621

 
707

 
527

Impairments and (gain)/loss on disposal of assets, net
(488
)
 
1,417

 
18

Litigation (recoveries)/charges, net
36

 
159

 
48

Restructuring and Employee Severance
During fiscal 2019, we recognized $92 million of restructuring related costs in connection with enterprise-wide cost-savings measures that began in fiscal 2019.
During fiscal 2018, we incurred $125 million of contract termination costs to transition the distribution of our Medical segment surgeon gloves in certain international markets from a third-party distribution arrangement to a direct distribution model.
Amortization and Other Acquisition-Related Costs
Amortization of acquisition-related intangible assets was $531 million, $574 million and $395 million for fiscal 2019, 2018 and 2017, respectively.
Transaction and integration costs associated with the acquisition of the Patient Recovery Business were $75 million, $109 million and $54 million during fiscal 2019, 2018, and 2017, respectively.
 
Impairments and (Gain)/Loss on Disposal of Assets, Net
During fiscal 2019, we recognized a pre-tax gain of $508 million related to the divestiture of our naviHealth business.
During fiscal 2018, we recognized a $1.4 billion non-cash goodwill impairment charge related to our Medical segment, as discussed further in Note 4 of the "Notes to Consolidated Financial Statements." There was no tax benefit related to this goodwill impairment charge.
Litigation (Recoveries)/Charges, Net
During fiscal 2019, 2018 and 2017, we recognized $117 million, $177 million and $24 million, respectively, of estimated losses and legal defense costs associated with inferior vena cava ("IVC") filter product liability claims.
During fiscal 2019 and 2018, we recognized income of $94 million and $22 million, respectively, for recoveries in class action antitrust lawsuits in which we were a class member.











 
Cardinal Health | Fiscal 2019 Form 10-K
10



MD&A
Results of Operations
 

Earnings/(loss) Before Income Taxes

In addition to the items discussed above, earnings/(loss) before income taxes was impacted by the following:
 
Earnings/(loss) Before Income Taxes
 
Change
(in millions)
2019
 
2018
 
2017
 
2019
 
2018
Other (income)/expense, net
$
15

 
$
23

 
$
(5
)
 
N.M.

 
N.M.

Interest expense, net
294

 
329

 
201

 
(11
)%
 
64
%
Loss on extinguishment of debt

 
2

 

 
N.M.

 
N.M.

Interest Expense, Net
 

Fiscal 2019 interest expense decreased primarily due to lower debt outstanding.
Fiscal 2018 interest expense increased primarily due to new debt issued in June 2017 to fund a portion of the purchase price of the Patient Recovery Business acquisition.


 11
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Results of Operations
 

Provision for Income Taxes
 
Generally, fluctuations in the effective tax rate are due to changes in the distribution of income among taxing jurisdictions with differing income tax rates and other reconciling items.
The fluctuations in the effective tax rate from fiscal 2018 to fiscal 2019 were primarily due to the prior-year impacts of the net benefits from the enactment of the Tax Act, nondeductible goodwill impairment charge, and benefit from a capital loss due to international legal entity reorganization.
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):
 
2019 (1)
 
2018 (2)
 
2017 (1)
Provision at Federal statutory rate
21.0
 %
 
28.1
 %
 
35.0
 %
State and local income taxes, net of federal benefit
0.9

 
(16.0
)
 
1.0

Tax effect of foreign operations
(0.7
)
 
(48.4
)
 
(7.3
)
Nondeductible/nontaxable items
2.5

 
(10.2
)
 
0.2

Goodwill impairment

 
(124.7
)
 

Tax Act
(0.8
)
 
410.9

 

Change in valuation allowances
4.5

 
(76.9
)
 
7.7

Foreign tax credits
(1.0
)
 
27.3

 
(1.6
)
China tax related to divestiture

 
(25.8
)
 

Legal entity reorganization
(3.6
)
 
71.4

 

Other
(0.7
)
 
(21.9
)
 
(2.3
)
Effective income tax rate
22.1
 %
 
213.8
 %
 
32.7
 %
(1)
The effective income tax rates for fiscal 2019 and 2017 represents income tax expense tax rates.
(2)
The effective income tax rate for fiscal 2018 represents an income tax benefit tax rate.
Fiscal 2019
 
The fiscal 2019 effective income tax rate was impacted by a lower federal statutory tax rate to our U.S. pre-tax earnings as a result of the Tax Act and net discrete benefits of $17 million, primarily related to international legal entity changes offset by increases in valuation allowances.
Ongoing Audits
The IRS is currently conducting audits of fiscal years 2008 through 2014. Years after 2014 remain open.


 
Fiscal 2018 and Fiscal 2017
 
The fiscal 2018 effective income tax rate was impacted by various items including benefits from the enactment of the Tax Act, the impact of nondeductible goodwill impairment charges, changes in valuation allowances and a benefit from a capital loss due to an international legal entity reorganization.
The net benefit from the Tax Act for fiscal 2018 includes a provisional net tax benefit of $977 million related to the remeasurement of our deferred tax assets and liabilities to the new federal statutory rate, the benefit from the impact of applying a lower federal tax rate to our year-to-date U.S. pre-tax earnings and a provisional tax expense of $41 million for the one-time repatriation tax applied to our undistributed foreign earnings.
Our effective tax rate for fiscal 2018 also includes $59 million of tax expense recognized in connection with the sale of our China distribution business.
The fiscal 2017 effective income tax rate was favorably impacted by the realignment of foreign subsidiaries in anticipation of closing the acquisition of the Patient Recovery Business and also from deductions related to U.S. production activities. The state and local income tax rate decreased primarily due to resolutions with state taxing authorities.



 
Cardinal Health | Fiscal 2019 Form 10-K
12



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 $2.5 billion at June 30, 2019 compared to $1.8 billion at June 30, 2018. The increase in cash and equivalents during fiscal 2019 was due to $2.7 billion of net cash provided by operating activities and $737 million of net cash proceeds from the sale of our naviHealth business, offset by $1.1 billion paid for debt repayments, $600 million paid for share repurchases, $577 million paid in dividends and $328 million paid for capital expenditures. At June 30, 2019, our cash and equivalents were held in cash depository accounts with major banks or invested in high quality, short-term liquid investments.
During fiscal 2018 our cash and cash equivalents declined $5.1 billion due to $6.1 billion deployed for acquisitions during the year, $954 million used for debt repayments, $581 million paid in dividends, $550 million paid for share repurchases and $384 million paid for capital expenditures, offset in part by $2.8 billion net cash provided by operating activities and $861 million of proceeds from the divestiture of the China distribution business. Net cash provided by operating activities increased by $1.6 billion from fiscal 2017 primarily due to working capital changes in part as a result of timing of customer and vendor payments related to the new Pharmaceutical segment finance and operating information systems.
The increase in cash and equivalents during fiscal 2017 of $4.5 billion was due to proceeds from a $5.2 billion debt issuance and $1.2 billion provided by operating activities, partially offset by $600 million paid for share repurchases, $577 million paid in dividends and $387 million
 
paid in capital expenditures and $310 million in debt repayments. The $1.8 billion decrease in net cash provided by operating activities in fiscal 2017 was primarily due to an increase in working capital as a result of changes in timing of customer and vendor payments, some of which related to implementation of the new Pharmaceutical segment finance and operating information systems.
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.
The cash and equivalents balance at June 30, 2019 included $575 million of cash held by subsidiaries outside of the United States.
In June 2019, we repatriated $318 million of cash held by foreign subsidiaries.
During the year ended June 30, 2019, we completed the final calculation of the U.S. repatriation tax after the issuance of final regulations by the U.S Treasury Department under section 965. After completion of the calculation and an overall review of our cash positions and business needs globally, we changed our assertion on $309 million previously considered indefinitely reinvested as of June 30, 2018, which did not have a material impact on our provision for income taxes. See Note 7 of the "Notes to Consolidated Financial Statements" for additional information on the Tax Act.
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, 2019 include a $2.0 billion commercial paper program, backed by a $2.0 billion revolving credit facility. We also have a $1.0 billion committed receivables sales facility. At June 30, 2019, we had no amounts outstanding under our commercial paper program, revolving credit facility or our committed receivables sales facility. Under our commercial paper program, we had a maximum amount outstanding of $785 million and an average daily amount outstanding of $15 million during fiscal 2019.
In June 2019, we extended our revolving credit facility through June 2024. The revolving credit facility requires us to maintain a maximum consolidated net leverage ratio as of the end of any calendar quarter. On June 30, 2019, the maximum permitted ratio was 4.25-to-1. The maximum permitted ratio will reduce to 4.00-to-1 in September 2019
 
and to 3.75- to-1 in March 2021. As of June 30, 2019, we were in compliance with this financial covenant.
Our committed receivables sales facility provides that, as of the end of any calendar quarter, our maximum consolidated leverage ratio may be no more than 4.25-to-1. The maximum permitted ratio will reduce to 4.00-to-1 in September 2019, to 3.75- to-1 in March 2020 and to 3.25-to-1 in September 2020. As of June 30, 2019, we were in compliance with this financial covenant. We intend to renew our committed receivables sales facility program in the first quarter of fiscal 2020.

 13
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Liquidity and Capital Resources
 

Long-Term Obligations
At June 30, 2019, we had total long-term obligations, including the current portion and other short-term borrowings of $8.0 billion. In June 2019, we repaid $1.0 billion 1.948% notes at maturity. In the fourth quarter of fiscal 2019, we repurchased a total of $100 million of notes due in 2022 and 2027.
In June 2018, we repaid our $550 million 1.95% Notes due 2018 in full at maturity. In fiscal 2018 we sold our China distribution business, including its debt which was $378 million as of June 30, 2017. See Note 2 of the “Notes to Consolidated Financial Statements” for further discussion of this divestiture.
 
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 Note 1 and Note 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.
Capital Deployment
 
Capital Expenditures
Capital expenditures during fiscal 2019, 2018 and 2017 were $328 million, $384 million and $387 million, respectively.
We expect capital expenditures in fiscal 2020 to be between $320 million and $360 million primarily for information technology and infrastructure projects.
Dividends
During fiscal 2019, we paid quarterly dividends totaling $1.91 per share, an increase of 3 percent from fiscal 2018.
On May 8, 2019, our Board of Directors approved a quarterly dividend of $0.4811 per share, or $1.92 per share on an annualized basis, which was paid on July 15, 2019 to shareholders of record on July 1, 2019.
On August 7, 2019, our Board of Directors approved a quarterly dividend of $0.4811 per share, or $1.92 per share on an annualized basis, payable on October 15, 2019 to shareholders of record on October 1, 2019.
 
Share Repurchases
During fiscal 2019 and 2018, we repurchased $600 million and $550 million, respectively, of our common shares. We funded the repurchases with available cash and short-term borrowing. See Note 13 of the "Notes to Consolidated Financial Statements" for additional information. At June 30, 2019, we had $1.3 billion authorized for share repurchases remaining under all programs.





 
Cardinal Health | Fiscal 2019 Form 10-K
14


MD&A
Other
 


Contractual Obligations
At June 30, 2019, our contractual obligations, including estimated payments due by period, were as follows:
(in millions)
2020
 
2021 to 2022
 
2023 to 2024
 
There-after
 
Total
Long-term debt and short-term borrowings (1)
$
450

 
$
2,176

 
$
1,333

 
$
4,065

 
$
8,024

Interest on long-term debt
318

 
631

 
481

 
1,972

 
3,402

Capital lease obligations (2)
2

 
3

 
2

 

 
7

Operating leases (3)
126

 
176

 
87

 
94

 
483

Purchase obligations and other payments (4)
569

 
456

 
381

 
8

 
1,414

Total contractual obligations (5)
$
1,465

 
$
3,442

 
$
2,284

 
$
6,139

 
$
13,330

(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 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.”
(4)
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 $45.6 million that we are required to pay CVS Health Corporation ("CVS") in connection with Red Oak Sourcing and will be in place for the remaining five years of the agreement. See Note 8 of the “Notes to Consolidated Financial Statements” for additional information.
(5)
Long-term liabilities, such as unrecognized tax benefits, deferred taxes and other tax liabilities, have been excluded from the above table due to 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.

Off-Balance Sheet Arrangements
We had no significant "off-balance sheet arrangements" at June 30, 2019, 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.

 15
Cardinal Health | Fiscal 2019 Form 10-K
 


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
 
The allowance for doubtful accounts includes general and specific reserves. We determine our allowance for doubtful accounts by reviewing accounts receivable aging, industry trends, customer financial strength and credit standing, historical write-off trends and payment history. We regularly evaluate how changes in economic conditions may affect credit risks. See Note 1 of the “Notes to Consolidated Financial Statements” for further information on our policy for Receivables and Allowance for Doubtful Accounts.
A hypothetical 0.1 percent increase or decrease in the reserve as a percentage of trade receivables at June 30, 2019, would result in an increase or decrease in bad debt expense of $9 million. We believe the reserve maintained and expenses recorded in fiscal 2019 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. The following table presents information regarding the allowance for doubtful accounts over the past three fiscal years:
(in millions, except percentages)
2019
 
2018
 
2017
Allowance for doubtful accounts at beginning of period
$
139

 
$
137

 
$
135

Charged to costs and expenses
141

 
114

 
60

Reduction to allowance for customer deductions and write-offs
(87
)
 
(111
)
 
(58
)
Allowance for doubtful accounts at end of period
$
193

 
$
139

 
$
137

Allowance as a percentage of customer receivables
2.3
%
 
1.8
%
 
1.7
%
Allowance as a percentage of revenue
0.13
%
 
0.10
%
 
0.11
%
The sum of the components may not equal the total due to rounding.
Inventories
 
A substantial portion of our inventories (56 percent at both June 30, 2019 and 2018) 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 (“distribution facilities”). The LIFO impact on the consolidated statements of earnings depends on pharmaceutical manufacturer price appreciation or deflation and our fiscal year-end inventory levels, which can be meaningfully influenced by customer buying behavior immediately preceding our fiscal year-end. Historically, prices for branded pharmaceuticals have generally tended to rise, resulting in an increase in cost of products sold, whereas prices for generic pharmaceuticals generally tend to decline, resulting in a decrease in cost of products sold. See Note 1 of the “Notes to Consolidated Financial Statements” for further information on our policy for Inventories.
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 provides a reasonable approximation of the current cost of replacing inventory within these distribution facilities. As such, 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 distribution facilities, the value of our inventories would not have changed in fiscal 2019 or 2018 because inventories valued at LIFO were $230 million and $92 million higher than the average cost value at June 30, 2019 and 2018, respectively. We do not record inventories in excess of replacement cost. As such, we did not record a LIFO reserve in fiscal 2019 or 2018.
Our remaining inventory that is not valued at the lower of LIFO or market is stated at the lower of cost, using the first-in, first-out method, or market. Inventories presented in the consolidated balance sheets are net of reserves for excess and obsolete inventory which were $171 million and $147 million at June 30, 2019 and 2018, respectively. We reserve for inventory obsolescence using estimates based on historical experience, historical and projected sales trends, specific categories of inventory, age and expiration dates of on-hand inventory and manufacturer return policies.


 
Cardinal Health | Fiscal 2019 Form 10-K
16



MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

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. For further discussion of the Business Combinations accounting policy, see Note 1 of the “Notes to Consolidated Financial Statements.”
Critical estimates and assumptions include: expected future cash flows for customer relationships, trademarks, trade names, patents,
 
developed technology, in-process research and development ("IPR&D") 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 Indefinite-Lived 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 a comparison of the estimated fair value of reporting units to the respective carrying amount, which may be performed utilizing either a qualitative or quantitative assessment. Qualitative factors are first assessed to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. There is an option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the quantitative goodwill impairment test. We have elected to bypass the qualitative assessment for the annual goodwill impairment test in the current year. The quantitative goodwill impairment test involves a comparison of the estimated fair value of the reporting unit to the respective carrying amount. A reporting unit is defined as an operating segment or one level below an operating segment (also known as a component).
We have two operating segments, which are the same as our reportable segments: Pharmaceutical and Medical. These operating segments are comprised of divisions (which are components), for which discrete financial information is available. Components are aggregated into reporting units for purposes of goodwill impairment testing to the extent that they share similar economic characteristics. Our reporting units are: Pharmaceutical operating segment (excluding our Nuclear and Precision Health Solutions division); Nuclear and Precision Health Solutions division; Medical operating segment (excluding our Cardinal Health at-Home Solutions division) (“Medical Unit”); and Cardinal Health at-Home Solutions division. Our Nuclear and Precision Health Solutions division was formerly referred to as our Nuclear Pharmacy Services division and our Cardinal Health at-Home Solutions division was formerly referred to as our Cardinal Health at Home division.
Goodwill impairment testing involves judgment, including the identification of reporting units, qualitative evaluation of events and circumstances to determine if it is more likely than not that an impairment exists, and, if necessary, the estimation of the fair value of the applicable reporting unit. Our qualitative evaluation considers the weight of evidence and significance of all identified events and circumstances and most relevant drivers of fair value, both positive
 
and negative, in determining whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount.
Our determination of estimated fair value of our reporting units is based on a combination of the income-based and market-based approaches (using discount rates ranging from 8.5 percent to 11.5 percent). We use discount rates that are commensurate with the risks and uncertainty inherent in the respective reporting units and in our internally-developed forecasts. 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. We also use the guideline transaction method to determine fair value based on pricing multiples derived from the sale of companies that are similar to our reporting units.
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. If a reporting unit fails to achieve expected earnings or otherwise fails to meet current financial plans, or if there were changes to any other key assumptions used in the tests, the reporting unit could incur a goodwill impairment in a future period.
We performed annual impairment testing in fiscal 2019, 2018 and 2017 and, with the exception of our Medical Unit in fiscal 2018, concluded that there were no impairments of goodwill as the estimated fair value of each reporting unit exceeded its carrying value. For our annual impairment test in fiscal 2019, the fair value of our Medical Unit exceeded its carrying value of $10.8 billion by approximately 4 percent. For this test, we used a discount rate of 8.5 percent and a terminal growth rate of 2 percent. The goodwill balance for our Medical Unit is $4.2 billion. A decrease in future cash flows, an increase in the discount rate or a decrease in the terminal growth rate, among other things, could result in a goodwill impairment for the Medical Unit. For example, if we were to increase the discount rate by 0.5 percent, the carrying value would have exceeded the fair value for our Medical Unit by approximately 2 percent for fiscal 2019. Similarly, if we were to decrease the terminal growth rate by 0.5

 17
Cardinal Health | Fiscal 2019 Form 10-K
 


MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

percent, the carrying value would have exceeded the fair value for our Medical Unit by approximately 3 percent for fiscal 2019. For any of our other reporting units, the fair value would not have been less than the carrying amount for fiscal 2019 if we increased the discount rate by 0.5 percent or decreased the terminal growth rate by 0.5 percent. As discussed further in Note 4 of the "Notes to Consolidated Financial Statements," during the fourth quarter of fiscal 2018 we recognized a $1.4 billion goodwill impairment charge related to our Medical Unit, which is included in impairments and (gain)/loss on disposal of assets in our consolidated statements of earnings. There was no tax benefit related to the goodwill impairment charge.
The impairment test for indefinite-lived intangibles other than goodwill (primarily IPR&D) involves first assessing qualitative factors to determine if it is more likely than not that the fair value of the indefinite-
 
lived intangible asset is less than its carrying amount. If so, then a quantitative test is performed to compare the estimated fair value of the indefinite-lived intangible asset to the respective asset's carrying amount. Our qualitative evaluation requires the use of estimates and significant judgments and considers the weight of evidence and significance of all identified events and circumstances and most relevant drivers of fair value, both positive and negative, in determining whether it is more likely than not that the fair value of the indefinite-lived intangible asset is less than its carrying amount.
See Note 1 of "Notes to Consolidated Financial Statements" for additional information regarding goodwill and other intangible assets.

Loss Contingencies and Self-Insurance
 
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 outcomes can occur, assessing contingencies is highly subjective and requires judgments about future events.
We also self-insure for employee healthcare, certain product liability matters, auto liability, property and workers' compensation and maintain insurance for individual losses exceeding certain limits when available.
Self-insurance accruals include an estimate for expected settlements on pending claims, defense costs, administrative fees, claims adjustment costs and an estimate for claims incurred but not reported. For certain types of exposures, we develop the estimate of expected ultimate costs to settle each claim based on specific information
 
related to each claim if available. Other estimates are based on an assessment of outstanding claims, historical analysis and current payment trends. For claims incurred but not reported, the liabilities are calculated and derived in accordance with generally accepted actuarial practices or using an estimated lag period.
We regularly review contingencies and self-insurance accruals to determine whether our accruals and related disclosures are adequate. Any adjustments for changes in reserves are recorded in the period in which the change in estimate occurs.
Examples of such contingencies include various lawsuits related to the distribution of prescription opioid pain medications and the Cordis IVC filter lawsuits.
We develop and periodically update reserve estimates for Cordis IVC claims, including those received to date and expected to be received in the future and related costs. To project future Cordis IVC claim costs, we use a methodology based largely on recent experience, including claim filing rates, estimated indemnity severity by claim type, sales data and estimated defense costs.
The amount of loss may differ from these estimates. See Note 8 of the “Notes to Consolidated Financial Statements” for additional information regarding loss contingencies and product liability lawsuits.

 
Cardinal Health | Fiscal 2019 Form 10-K
18



MD&A
Critical Accounting Policies and Sensitive Accounting Estimates
 

Provision for Income Taxes
 
We account for income taxes using the asset and liability method. Deferred tax assets and liabilities are measured using enacted tax rates in the respective jurisdictions in which we operate. 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)
2019
 
2018
Total deferred income tax assets (1)
$
864

 
$
848

Valuation allowance for deferred income tax assets (2)
(542
)
 
(412
)
   Net deferred income tax assets
322

 
436

Total deferred income tax liabilities
(2,035
)
 
(2,213
)
   Net deferred income tax liability
$
(1,713
)
 
$
(1,777
)
(1)
Total deferred income tax assets included $621 million and $526 million of loss and tax credit carryforwards at June 30, 2019 and 2018, respectively.
(2)
The valuation allowance primarily relates to federal, state and international loss and credit carryforwards for which the ultimate realization of future benefits is uncertain.
Expiring or unusable loss and credit carryforwards and the required valuation allowances are adjusted quarterly when it is more likely than not that at least a portion of the respective deferred tax assets will not be realized. 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 operate in a complex multinational tax environment and are subject to tax treaty arrangements and transfer pricing guidelines for intercompany transactions that are subject to interpretation. Uncertainty in a tax position may arise as tax laws are subject to interpretation.
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. The amount recognized is measured as the largest amount of tax benefit that is greater than 50 percent likely of being realized upon settlement. For tax benefits that do not qualify for recognition, we recognize a liability for unrecognized tax benefits.
Our assumptions and estimates around uncertain tax positions require significant judgment; the actual amount of tax benefit related to uncertain tax positions may differ from these estimates. See Note 7 of the “Notes to Consolidated Financial Statements” for additional information regarding unrecognized tax benefits.
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. The amount we ultimately pay when matters are resolved may differ from the amounts accrued. Changes in our current estimates due to unanticipated market conditions, tax law changes or other factors could have a material effect on our ability to utilize deferred tax assets. For a further
 
discussion on Provision for Income Taxes, see Note 7 of the “Notes to the Consolidated Financial Statements.”
The calculation of our tax liabilities includes estimates for uncertainties in the application of broad and complex changes to the U.S. tax code as per the Tax Cuts and Jobs Act ("the Tax Act") as enacted by the United States government on December 22, 2017. We have made reasonable estimates and recorded amounts based on management judgment and our current understanding of the Tax Act which is subject to further interpretation by the Internal Revenue Service ("IRS"). See Note 7 of the “Notes to Consolidated Financial Statements” for additional information regarding the Tax Act.


 19
Cardinal Health | Fiscal 2019 Form 10-K
 


Explanation and Reconciliation of Non-GAAP Financial Measures
 
 

Explanation and Reconciliation of Non-GAAP Financial Measures
This report, including the "Fiscal 2019 Overview" section within MD&A, 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, 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
Management believes it is useful to exclude the following items from the non-GAAP measures presented in this report for its own and for investors’ assessment of the business for the reasons identified below:
LIFO charges and credits are excluded because the factors that drive last-in first-out ("LIFO") inventory charges or credits, such as pharmaceutical manufacturer price appreciation or 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. The exclusion of LIFO charges and credits from non-GAAP metrics facilitates comparison of our current financial results to our historical financial results and to our peer group companies’ financial results.
State opioid assessment related to prior fiscal years is the portion of the New York State assessment under the Opioid Stewardship Act for prescription opioid medications that were sold or distributed in periods prior to fiscal 2019. This portion was excluded from non-GAAP financial measures because it related to sales in prior fiscal years and inclusion would have obscured analysis of the current fiscal year results of our underlying, ongoing business. Additionally, while the New York law would have required us to make payments on an ongoing basis, the portion of the assessment related to sales in periods prior to fiscal 2019 was contemplated to be a one-time, nonrecurring item. In December 2018, this assessment was declared to be unconstitutional, so during the three months ended December 31, 2018, we reversed the accrual we booked in the three months ended September 30, 2018.
Restructuring and employee severance costs are excluded because they are not part of the ongoing operations of our underlying business.
Amortization and other acquisition-related costs, which include transaction costs, integration costs, and changes in the fair value of contingent consideration obligations, are excluded because they are not part of the ongoing operations of our underlying business and to facilitate comparison of our current financial results to our historical financial results and to our peer group companies' financial results. Additionally, costs for amortization of acquisition-related intangible assets are non-cash amounts, which are variable in amount and frequency and are significantly impacted by the timing and size of acquisitions, so their exclusion facilitates comparison of historical, current and forecasted financial results. We also exclude other acquisition-related costs, which 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. These costs are also significantly impacted by the timing, complexity and size of acquisitions.
Impairments and gain or loss on disposal of assets are excluded because they do not occur in or reflect the ordinary course of our ongoing business operations and are inherently unpredictable in timing and amount, and in the case of impairments, are non-cash amounts, so their exclusion facilitates comparison of historical, current and forecasted financial results.
Litigation recoveries or charges, net are excluded because they 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.
Loss on extinguishment of debt is excluded because it 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 this type of charge is not consistent and is significantly impacted by the timing and size of debt extinguishment transactions.
Transitional tax benefit, net related to the Tax Cuts and Jobs Act is excluded because it results from the one-time impact of a very significant change in the U.S. federal corporate tax rate and, due to the significant size of the benefit, obscures analysis of trends and financial performance. The transitional tax benefit includes the initial estimate and subsequent adjustments for the re-

 
Cardinal Health | Fiscal 2019 Form 10-K
20



Explanation and Reconciliation of Non-GAAP Financial Measures
 
 

measurement of deferred tax assets and liabilities due to the reduction of the U.S. federal corporate income tax rate and the repatriation tax on undistributed foreign earnings.

The tax effect for each of the items listed above, other than the transitional tax benefit item, 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.
Definitions
Growth rate calculation: growth rates in this report are determined by dividing the difference between current period results and prior period results by prior period results.
Non-GAAP operating earnings: operating earnings excluding (1) LIFO charges/(credits), (2) state opioid assessment related to prior fiscal years, (3) restructuring and employee severance, (4) amortization and other acquisition-related costs, (5) impairments and (gain)/loss on disposal of assets, and (6) litigation (recoveries)/charges, net.
Non-GAAP earnings before income taxes: earnings before income taxes excluding (1) LIFO charges/(credits), (2) state opioid assessment related to prior fiscal years, (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, and (7) loss on extinguishment of debt.
Non-GAAP Net Earnings attributable to Cardinal Health, Inc.: net earnings attributable to Cardinal Health, Inc. excluding (1) LIFO charges/(credits), (2) state opioid assessment related to prior fiscal years, (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, each net of tax, and (8) transitional tax benefit, net.
Non-GAAP effective tax rate: provision for income taxes adjusted for (1) LIFO charges/(credits), (2) state opioid assessment related to prior fiscal years, (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) transitional tax benefit, (net) divided by (earnings before income taxes adjusted for the first seven items).
Non-GAAP diluted EPS attributable to Cardinal Health, Inc.: non-GAAP net earnings attributable to Cardinal Health, Inc. divided by diluted weighted-average shares outstanding.







 21
Cardinal Health | Fiscal 2019 Form 10-K
 


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
Earnings/(Loss) Before Income Taxes
Provision for Income Taxes
Net Earnings1
Net Earnings/(Loss)1 Growth Rate
Effective Tax Rate
Diluted EPS1
Diluted EPS1 Growth Rate
 
Fiscal Year 2019
GAAP
$
2,060

N.M.

$
1,751

$
386

$
1,363

N.M.

22.1
%
$
4.53

N.M.

Restructuring and employee severance
125

 
125

32

93

 
 
0.31

 
Amortization and other acquisition-related costs
621

 
621

148

473

 
 
1.57

 
Impairments and (gain)/loss on disposal of assets
(488
)
 
(488
)
(113
)
(375
)
 
 
(1.25
)
 
Litigation (recoveries)/charges, net
36

 
36

10

26

 
 
0.09

 
Transitional tax benefit, net2

 

(9
)
9

 
 
0.03

 
Non-GAAP
$
2,353

(9
)%
$
2,044

$
453

$
1,589

1
 %
22.1
%
$
5.28

6
 %
 
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2018
GAAP
$
126

(94
)%
$
(228
)
$
(487
)
$
256

(80
)%
213.8
%
$
0.81

(80
)%
Restructuring and employee severance
176

 
176

25

151

 
 
0.48

 
Amortization and other acquisition-related costs
707

 
707

176

531

 
 
1.69

 
Impairments and (gain)/loss on disposal of assets3
1,417

 
1,417

(44
)
1,461

 
 
4.64

 
Litigation (recoveries)/charges, net
159

 
159

48

111

 
 
0.35

 
Loss on extinguishment of debt

 
2

1

1

 
 

 
Transitional tax benefit, net2

 

936

(936
)
 
 
(2.97
)
 
Non-GAAP
$
2,585

(7
)%
$
2,233

$
655

$
1,575

(9
)%
29.3
%
$
5.00

(7
)%
 
 
 
 
 
 
 
 
 
 
 
Fiscal Year 2017
GAAP
$
2,120

(14
)%
$
1,924

$
630

$
1,288

(10
)%
32.7
%
$
4.03

(7
)%
Restructuring and employee severance
56

 
56

20

36

 
 
0.11

 
Amortization and other acquisition-related costs
527

 
527

165

362

 
 
1.13

 
Impairments and (gain)/loss on disposal of assets
18

 
18

6

12

 
 
0.04

 
Litigation (recoveries)/charges, net
48

 
48

19

29

 
 
0.09

 
Non-GAAP
$
2,769

(4
)%
$
2,572

$
839

$
1,727

 %
32.6
%
$
5.40

3
 %
 
 
 
 
 
 
 
 
 
 
1 
attributable to Cardinal Health, Inc.
2 
Reflects the net transitional benefit from the remeasurement of our deferred tax assets and liabilities partially offset by the repatriation tax on cash and earnings of foreign subsidiaries.  See Note 7 of the "Notes to Consolidated Financial Statements" for more information on the Tax Act.
3 
Fiscal year 2018 includes a goodwill impairment charge of $1.4 billion related to our Medical segment. There was no tax benefit related to this goodwill impairment charge.

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.

 
Cardinal Health | Fiscal 2019 Form 10-K
22



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)
20191
 
20182,3
 
2017
 
2016
 
2015
Earnings Data:
 
 
 
 
 
 
 
 
 
Revenue
$
145,534

 
$
136,809

 
$
129,976

 
$
121,546

 
$
102,531

 
 
 
 
 
 
 
 
 
 
Operating earnings
2,060

 
126

 
2,120

 
2,459

 
2,161

 
 
 
 
 
 
 
 
 
 
Earnings from continuing operations
1,365

 
259

 
1,294

 
1,431

 
1,212

Earnings from discontinued operations, net of tax

 

 

 

 
3

Net earnings
1,365

 
259

 
1,294

 
1,431

 
1,215

Less: Net earnings attributable to noncontrolling interests
(2
)
 
(3
)
 
(6
)
 
(4
)
 

Net earnings attributable to Cardinal Health, Inc.
$
1,363

 
$
256

 
$
1,288

 
$
1,427

 
$
1,215

 
 
 
 
 
 
 
 
 
 
Basic earnings per common share attributable to Cardinal Health, Inc.:
 
 
 
 
 
 
 
 
 
Continuing operations
$
4.55

 
$
0.82

 
$
4.06

 
$
4.36

 
$
3.65

Discontinued operations

 

 

 

 
0.01

Net basic earnings per common share attributable to Cardinal Health, Inc.
$
4.55

 
$
0.82

 
$
4.06

 
$
4.36

 
$
3.66

 
 
 
 
 
 
 
 
 
 
Diluted earnings per common share attributable to Cardinal Health, Inc.:
 
 
 
 
 
 
 
 
 
Continuing operations
$
4.53

 
$
0.81

 
$
4.03

 
$
4.32

 
$
3.61

Discontinued operations

 

 

 

 
0.01

Net diluted earnings per common share attributable to Cardinal Health, Inc.
$
4.53

 
$
0.81

 
$
4.03

 
$
4.32

 
$
3.62

 
 
 
 
 
 
 
 
 
 
Cash dividends declared per common share
$
1.9100

 
$
1.8635

 
$
1.8091

 
$
1.6099

 
$
1.4145

 
 
 
 
 
 
 
 
 
 
Balance Sheet Data:
 
 
 
 
 
 
 
 
 
Total assets
$
40,963

 
$
39,951

 
$
40,112

 
$
34,122

 
$
30,142

Long-term obligations, less current portion
7,579

 
8,012

 
9,068

 
4,952

 
5,211

Total Cardinal Health, Inc. shareholders' equity
6,328

 
6,059

 
6,808

 
6,554

 
6,256

1During the first quarter of fiscal 2019, we sold our 98 percent ownership interest in naviHealth and recognized a pre-tax gain of $508 million ($378 million after-tax).
2During the fourth quarter of fiscal 2018, we recognized a non-cash goodwill impairment charge of $1.4 billion related to our Medical segment. There was no tax benefit related to this goodwill impairment charge.
3During fiscal 2018, the United States enacted the Tax Cuts and Jobs Act. See Note 7 for more information.



 23
Cardinal Health | Fiscal 2019 Form 10-K
 

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 some of 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 the 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. The following foreign currencies represent the principal drivers of our foreign exchange exposure: Canadian dollar, euro, Thai baht, Mexican peso, Chinese renminbi, Australian dollar, British pound and Japanese yen.
We apply a Value-At-Risk ("VAR") methodology to our transactional and translational exposures. The VAR model is a risk estimation tool and is not intended to represent actual losses in fair value that could be incurred.
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. At the end of each fiscal year we perform sensitivity analyses 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. Applying a VAR methodology to our transactional exposure and including the impact of our hedging program, the potential maximum loss in earnings for the upcoming fiscal year is estimated to be $15 million, which is based on a one-year horizon and a 95 percent confidence level. Under the same methodology, at June 30, 2018, our potential maximum loss in earnings for the upcoming fiscal year was estimated to be $26 million.
Translational Exposure
We have exposure related to the translation of financial statements of our foreign operations into U.S. dollars, our functional currency. Applying a VAR methodology to our translational exposure, the potential maximum loss in earnings for the upcoming fiscal year is estimated to be $7 million, which is based on a one-year horizon and a 95 percent confidence level. Under the same methodology, at June 30, 2018, our potential maximum loss in earnings for the upcoming fiscal year was estimated to be $9 million.
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 50 basis point change in interest rates. At June 30, 2019 and 2018, the potential increase or decrease in annual interest expense under this analysis as a result of this hypothetical change was $9 million and $15 million, respectively.
 
We are also exposed to market risk from changes in interest rates related to our cash and cash equivalents, which includes marketable securities that are carried at fair value in the consolidated balance sheets. The fair value of our cash and cash equivalents is subject to change primarily as a result of changes in market interest rates and investment risk related to the issuers' credit worthiness. At June 30, 2019 and 2018, a hypothetical increase or decrease of 50 basis points in interest rates would result in no change in the estimated fair value.

 
Cardinal Health | Fiscal 2019 Form 10-K
24


Disclosures about Market Risk
 


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.
As part of our risk management program, we perform sensitivity analysis on our forecasted direct commodity exposure for the upcoming fiscal year. Our forecasted direct commodity exposure at June 30, 2019 increased approximately $11 million from June 30, 2018. At June 30, 2019 and 2018, we had hedged a portion of these direct commodity exposures (see Note 11 of the “Notes to Consolidated Financial Statements” for further discussion).
 
Our forecasted direct commodity exposures for the upcoming fiscal years were $435 million and $424 million at June 30, 2019 and 2018, respectively. 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 were $44 million and $42 million at June 30, 2019 and 2018, respectively. The hypothetical offsetting impact of hedges in both periods was minimal.




 25
Cardinal Health | Fiscal 2019 Form 10-K
 


Business
 
 


Business
General
 
Cardinal Health, Inc. is a global integrated healthcare services and products company providing customized solutions for hospitals, healthcare systems, pharmacies, ambulatory surgery centers, clinical laboratories and physician offices. We provide medical products and pharmaceuticals and cost-effective solutions that enhance supply chain efficiency.
Pharmaceutical Segment
 
In the United States, our Pharmaceutical segment:
through its Pharmaceutical Distribution division, distributes branded and generic pharmaceutical and over-the-counter healthcare and consumer products 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 retail, hospital and other healthcare provider customers;
provides services to pharmaceutical manufacturers, including distribution, inventory management, data reporting, new product launch support and chargeback administration;
through the connected care service offering, provides medication therapy management, telepharmacy and health messaging services and seeks to develop solutions to improve patient care through improved coordination of manufacturers, payers, pharmacies and patients;
provides pharmacy management services to hospitals and operates pharmacies in community health centers; and
repackages generic pharmaceuticals and over-the-counter healthcare products;
through its Specialty Solutions division, distributes specialty pharmaceutical products to hospitals and other healthcare providers and provides consulting, patient support and other services for specialty pharmaceutical products to pharmaceutical manufacturers and healthcare providers; and
through its Nuclear and Precision Health Solutions division, operates nuclear pharmacies and manufacturing facilities, which manufacture, prepare and deliver radiopharmaceuticals for use in nuclear imaging and other procedures in hospitals and physician offices. This division also contract manufactures a radiopharmaceutical treatment (Xofigo) and holds the North American rights to manufacture and distribute Lymphoseek, a radiopharmaceutical diagnostic imaging agent.
See Note 15 of the “Notes to Consolidated Financial Statements” for Pharmaceutical segment revenue, profit and assets for fiscal 2019, 2018 and 2017.
 
Pharmaceutical Distribution
Our Pharmaceutical Distribution division’s gross margin includes margin from our generic pharmaceutical program, from distribution services agreements with branded pharmaceutical manufacturers and from over-the-counter healthcare and consumer products. It also includes manufacturer cash discounts.
Margin from our generic pharmaceutical program includes price discounts and rebates from manufacturers and may in limited instances include price appreciation. Our earnings on generic pharmaceuticals are generally highest during the period immediately following the initial launch of a product, because generic pharmaceutical selling prices are generally highest during that period and tend to decline over time.
Margin from distribution services agreements with branded pharmaceutical manufacturers is derived from compensation we receive for providing a range of distribution and related services to manufacturers. Our compensation typically is a percentage of the wholesale acquisition cost that is set by manufacturers. In addition, under a limited number of agreements, branded pharmaceutical price appreciation, which is determined by the manufacturers, also serves as part of our compensation.
Sourcing Venture with CVS Health Corporation
In July 2014, we established Red Oak Sourcing, a U.S.-based generic pharmaceutical sourcing venture with CVS 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 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.


 
Cardinal Health | Fiscal 2019 Form 10-K
26



Business
 
 


Medical Segment
 
Our Medical segment manufactures and sources Cardinal Health branded general and specialty medical, surgical and laboratory products. These products include exam and surgical gloves; needle, syringe and sharps disposal; compression; incontinence; nutritional delivery; wound care; cardiovascular and endovascular; single-use surgical drapes, gowns and apparel; fluid suction and collection systems; urology; operating room supply; and electrode product lines. Our Cardinal Health Brand products are sold directly or through third-party distributors in the United States, Canada, Europe, Asia and other markets.
The Medical segment also distributes a broad range of medical, surgical and laboratory products known as national brand products and provides supply chain services and solutions to hospitals, ambulatory surgery centers, clinical laboratories and other healthcare providers in the United States and Canada and this segment also assembles and sells sterile and non-sterile procedure kits.
 
Through Cardinal Health at-Home Solutions, this segment also distributes medical products to patients' homes in the United States.
naviHealth Partnership
In August 2018, we entered into a partnership with Clayton, Dubilier & Rice, LLC ("CD&R"), through which we own 44% of the ownership interests in the naviHealth business. naviHealth partners with health plans, hospital systems, physician groups and other healthcare providers to manage post-acute care through value-based programs.
See Note 15 of the “Notes to Consolidated Financial Statements” for Medical segment revenue, profit and assets for fiscal 2019, 2018 and 2017.

Acquisitions and Divestitures
 
Acquisitions
We have acquired a number of businesses over the years that have enhanced our core strategic areas of Cardinal Health Brand medical products, generic pharmaceutical distribution and services, specialty pharmaceutical products and services, international and post-acute care. We expect to continue to pursue additional acquisitions in the future.
During the last five fiscal years, we completed the following three large acquisitions:
Date
Company
Location
Lines
of Business
Acquisition
Price
(in billions)
07/17
Patient Recovery Business of Medtronic, plc
Mansfield, MA
Patient Care, Deep Vein Thrombosis and Nutritional Insufficiency
$6.1
10/15
Cordis business of Johnson & Johnson
Fremont, CA
Cardiovascular and endovascular products
$1.9
07/15
The Harvard Drug Group
Livonia, MI
Pharmaceutical product distribution
$1.1
We also completed several smaller acquisitions during the last five fiscal years, including: in fiscal 2017, the acquisition of the North
 
American rights to Lymphoseek, a radiopharmaceutical diagnostic imaging agent, from Navidea Biopharmaceuticals, Inc.; and in fiscal 2015, the acquisitions of Tradex International, Inc., a supplier of disposable gloves, and Metro Medical Supply, Inc., a distributor of specialty pharmaceuticals and medical and surgical products.
Divestitures
Over the past two fiscal years, we have also completed several divestitures. In February 2018, we completed the sale of our pharmaceutical and medical products distribution business in China to Shanghai Pharmaceuticals Holding Co., Ltd. for proceeds of $861 million (after adjusting for third party indebtedness and preliminary transaction adjustments).
In August 2018, we completed the sale of our ownership interest in naviHealth, Inc. to investor entities controlled by CD&R for proceeds of $736 million (after adjusting for certain fees and expenses) and a 44% equity interest in a partnership that owns the naviHealth business.
We had acquired our ownership interest in naviHealth through a series of transactions, beginning in fiscal 2016, when we acquired a 71% ownership interest. As of the end of fiscal 2018, we owned 98% of the interests in naviHealth.



 27
Cardinal Health | Fiscal 2019 Form 10-K
 


Business
 
 


Customers
 
Our largest customers, CVS and OptumRx, accounted for 26 percent and 13 percent of our fiscal 2019 revenue, respectively. In the aggregate, our five largest customers, including CVS and OptumRx, accounted for 51 percent of our fiscal 2019 revenue. In May 2019, we extended our pharmaceutical distribution agreements with CVS through fiscal 2023.
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, Inc. and Premier, Inc. Sales to members of these two GPOs, under numerous contracts across all of our businesses, collectively accounted for 22 percent of our revenue in fiscal 2019.
Suppliers
 
We rely on many different suppliers. Products obtained from our five largest suppliers accounted for an aggregate of 42 percent of our revenue during fiscal 2019, and our largest supplier’s products accounted for approximately 10 percent of revenue.
Competition
 
We operate in a highly competitive environment in the distribution of pharmaceuticals and consumer healthcare products. We also operate in a highly competitive environment in the manufacturing and distribution of medical devices and surgical products. We compete on many levels, including price, service offerings, support services, breadth of product lines and product quality and efficacy.
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 diversified healthcare companies and national medical product distributors, such as Medline Industries, Inc., Owens & Minor, Inc. and Becton, Dickinson and Company, as well as regional medical product distributors and companies that are focused on specific product categories. We also compete with companies that distribute medical products to patients' homes and third-party logistics companies.
Employees
 
At June 30, 2019, we had approximately 31,000 employees in the United States and approximately 18,500 employees outside of the United States.
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, and continue to pursue patent protection throughout the world, relating to the manufacture, operation and use of various medical and surgical products, to certain distribution and logistics systems, to the production and distribution of our nuclear pharmacy products and to other 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.

 
Cardinal Health | Fiscal 2019 Form 10-K
28



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 the specific business, we 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;
state health departments, insurance departments, Medicaid departments or other comparable state agencies;
state boards of pharmacy and other controlled substance authorities;
the U.S. Nuclear Regulatory Commission (the “NRC”);
the U.S. Federal Trade Commission (the "FTC");
U.S. Customs and Border Protection; and
agencies comparable to those listed above in markets outside the United States.
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, require us to initiate product recalls, seize products or impose criminal, civil and administrative sanctions.
Distribution
State Boards of Pharmacy, FDA, DEA and various other 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 including effective anti-diversion programs, and comply with the CSA. They must also comply with state requirements relating to controlled substances that differ from state to state.
Manufacturing and Marketing
We sell our manufactured products in the United States, Canada, Europe, Asia, Latin America and other markets. The FDA and other governmental agencies in the United States, as well as 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 product's cleared or approved uses), distribution, importation and post-market surveillance for most of our manufactured products. In addition, we need specific approval or clearance from, and registrations with, regulatory authorities before
 
we can market and sell some products in the United States and certain other countries, including countries in the European Union ("EU").
In the United States, authorization to commercially market a 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 a 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 a medical device is safe and effective. Many of our Medical segment products are cleared through the 510(k) process and certain products must be approved through the PMA process.
In the EU, we are required to comply with the Medical Device Directive ("MDD") and obtain CE Mark Certification in order to market medical devices. The EU regulatory bodies finalized a new Medical Device Regulation ("MDR") in 2017, which will replace the existing MDD after a three-year transition period. Under the MDR, medical devices marketed in the EU will require certification under its requirements, except that devices with valid CE Mark issued before May 2020 can be marketed until May 2024.
It can be costly and time-consuming to obtain regulatory approvals, clearances and registrations of medical devices, and they 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, including periodic inspection of manufacturing facilities by FDA and other regulatory authorities both in the United States and internationally.
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.
Health and Personal Information Practices and Privacy
We collect, handle and maintain patient-identifiable health information. The U.S. Health Insurance Portability and Accountability Act of 1996 ("HIPAA"), as augmented by the Health Information Technology for Economic and Clinical Health Act, and state 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 U.S. federal and state laws protecting such information.
Additionally, the new California Consumer Privacy Act ("CCPA"), effective in January 2020, grants additional rights for consumers over the use of their personal information that we hold, including increased transparency. Other U.S. states are considering adopting similar or different privacy laws.

 29
Cardinal Health | Fiscal 2019 Form 10-K
 


Business
 
 


The processing and disclosure of personal information is also highly regulated in many other countries in which we operate. In Europe, for example, we are subject to the EU data protection regulations, including the current EU Directive on Data Protection, which requires member states to impose minimum restrictions on the collection, use and transfer of personal data. The EU General Data Protection Regulation ("GDPR") 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. The GDPR also requires companies processing personal data of individuals residing in the EU to comply with EU privacy and data protection rules.
Nuclear Pharmacies and Related Businesses
Our nuclear pharmacies and radiopharmaceutical manufacturing facilities (including for Xofigo) 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, including pharmacy sterile compounding standards and practices. In addition, our radiopharmaceutical manufacturing facilities also must comply with FDA regulations, including good manufacturing practices.
Product Tracing and Supply Chain Integrity
Title II of the DQSA, known as the Drug Supply Chain Security Act or "Track and Trace," 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 in 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. The MDR finalized in the EU in 2017 also introduces a new unique device identifier requirement with a three-year transition period. 
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, recommend or purchase products or services that are in any way paid for by Medicare, Medicaid or other federally-funded healthcare programs. They also prohibit submitting 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).
Some businesses within each of our segments are Medicare-certified suppliers or participate in other federal and state healthcare
 
programs, such as state Medicaid programs and the federal 340B drug pricing program. These businesses are subject to accreditation and quality standards and other rules and regulations, including applicable reporting, billing, payment and record-keeping requirements. Other businesses within each segment manufacture pharmaceutical or medical products or repackage pharmaceuticals that are purchased or reimbursed through, or are otherwise governed by, federal or state healthcare programs. Failure to comply with applicable eligibility requirements, 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 U.S. federal and state government contracts are subject to specific procurement requirements. 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.
Environmental, Health and Safety Laws
In the United States and other countries, we are subject to various federal, state and local environmental laws, including laws regulating the production or use of hazardous substances, as well as laws relating to safe working conditions and laboratory practices.
Antitrust Laws
The U.S. federal government, most U.S. states and many foreign countries have laws that prohibit certain types of conduct deemed to be anti-competitive. Violations of these 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.
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, 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.

 
Cardinal Health | Fiscal 2019 Form 10-K
30



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 product for credit 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.

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Cardinal Health | Fiscal 2019 Form 10-K
 


Risk Factors
 
 


Risk Factors
The risks described below could materially and adversely affect our results of operations, financial condition, liquidity or 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 continue to suffer the adverse effects of competitive pressures.
As described in greater detail in the "Business" section, we operate in markets that are highly competitive and dynamic. In addition, competitive pressures in our pharmaceutical and medical segments may be increased by new business models, new entrants, new regulations, changes in consumer demand or general competitive dynamics. Our businesses face continued pricing pressure from these factors, which adversely affects our margins. 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 could continue to be adversely affected.
Our Pharmaceutical segment’s generic pharmaceutical program may continue to be adversely affected by pricing changes and fewer product launches.
The performance of our Pharmaceutical segment’s generic pharmaceutical program declined in fiscal 2019, 2018 and 2017 and is expected to decline again in fiscal 2020. These declines have been due, in large part, to generic pharmaceutical customer pricing deflation and less incremental benefit from new generic pharmaceutical launches, which have more than offset the benefits from sourcing generic pharmaceuticals through our Red Oak Sourcing venture with CVS.  If performance of the generic pharmaceutical program continues to decline and we continue to be unable to offset the decline, our Pharmaceutical segment profit and consolidated operating earnings will continue to be adversely affected.
The extent and magnitude of generic pharmaceutical pricing changes is uncertain in future fiscal years and may vary from what we anticipate. Similarly, 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. Finally, the benefit from Red Oak Sourcing could be less than we anticipate.
Changes in manufacturer approaches to pricing branded pharmaceutical products could have an adverse effect on our Pharmaceutical segment’s margins.
Compensation under our contractual arrangements with manufacturers for the purchase of branded pharmaceutical products is generally based on the wholesale acquisition cost set by the manufacturer. Sales prices of branded pharmaceutical products to our customers generally are a percentage discount from wholesale acquisition cost.
Historically, pharmaceutical manufacturers have generally increased the wholesale acquisition cost of their branded pharmaceuticals each year. However, the U.S. government has announced plans to, among
 
other things, adopt policies to encourage manufacturers to limit increases in (or reduce) wholesale acquisition cost. In fiscal 2019, manufacturers, in the aggregate, increased prices less than in prior years. If manufacturers change their historical approach to setting and increasing wholesale acquisition cost and we are unable to negotiate alternative ways to be compensated by manufacturers or customers for the value of our services, our Pharmaceutical segment profit and consolidated operating earnings could be adversely affected.
Also, almost all of our distribution services agreements with branded pharmaceutical manufacturers generally provide that we receive fees from the manufacturers to compensate us for services we provide them.  However, under a limited number of agreements, branded pharmaceutical price appreciation, which is determined by the manufacturers also serves as a part of our compensation. If manufacturers decide to reduce prices, not to increase prices or to implement only small increases and we are unable to negotiate alternative ways to be compensated by manufacturers or customers for the value of our services, our margins could be adversely affected.
The public health crisis involving the abuse of prescription opioid pain medication could have a material negative effect on our business.
Our Pharmaceutical segment distributes prescription opioid pain medications. In recent years, the abuse of prescription opioid pain medication has become a public health crisis.
A significant number of counties, municipalities and other plaintiffs, including a number of state attorneys general, have filed lawsuits against pharmaceutical manufacturers, pharmaceutical wholesale distributors (including us), retail chains and others relating to the manufacturing, marketing or distribution of prescription opioid pain medications. In addition, we are currently being investigated or sued by most other states for the same activities and expect to be named as a defendant in additional lawsuits. We are vigorously defending ourselves in these lawsuits. The defense and resolution of current and future lawsuits and events relating to these lawsuits could have a material adverse effect on our results of operations, financial condition, cash flows or liquidity or have adverse reputational or operational effects on our business. See Note 8 of the "Notes to the Consolidated Financial Statements" for more information regarding these matters.
Other legislative, regulatory or industry measures related to the public health crisis involving the abuse of prescription opioid pain medication and the distribution of these medications could affect our business in ways that we may not be able to predict. For example, several states have now adopted taxes or other fees on the sale of opioids, and several other states have proposed similar legislative initiatives. These laws and proposals vary in the tax amounts imposed and the means of calculation. Liabilities for taxes or assessments under any such laws could have an adverse impact on our results of operations unless we are able to mitigate them through operational changes or commercial arrangements where permitted.

 
Cardinal Health | Fiscal 2019 Form 10-K
32



Risk Factors
 
 


Ongoing unfavorable publicity regarding the abuse or misuse of prescription opioid pain medications and the role of wholesale distributors in the supply chain of such prescription medications, as well as the continued proliferation of the opioid lawsuits, investigations, regulations and legislative actions, and unfavorable publicity in relation to those lawsuits could have a material adverse effect on our reputation or results of operations.
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. For example, as a wholesale distributor of controlled substances, we must hold valid DEA registrations and state-level licenses, meet various security and operating standards, and comply with the CSA. 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 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.
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. From time to time, regulatory authorities investigate our policies or practices, and may challenge them. 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.
Some businesses within each of our segments are Medicare-certified suppliers or participate in other federal and state healthcare programs, such as state Medicaid program and the federal 340B drug pricing program. In addition, some businesses within each segment manufacture pharmaceutical or medical products or repackage pharmaceuticals that are purchased or reimbursed through, or are otherwise governed by, federal or state healthcare programs. Failure to comply with applicable eligibility requirements, 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 requirements. 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.
Our global operations are required to comply with the U.S. Foreign Corrupt Practices Act, 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.
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, initiatives are proposed in the United States and other jurisdictions in which we operate that could adversely affect our tax positions, effective tax rate or tax payments. Specific initiatives that may impact us include the repeal of the LIFO (last-in, first-out) method of inventory accounting for income tax purposes, the establishment or increase in taxation at the U.S. state level on the basis of gross revenues, recommendations of the recently completed 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 or tax payments.
Changes to the U.S. healthcare environment may not be favorable to us.
Over a number of years, the U.S. healthcare industry has undergone significant changes designed to increase access to medical care, improve safety and patient outcomes, contain costs and increase efficiencies. These changes include adoption of the Patient Protection and Affordable Care Act, a general decline in Medicare

 33
Cardinal Health | Fiscal 2019 Form 10-K
 


Risk Factors
 
 


and Medicaid reimbursement levels, efforts by healthcare insurance companies to limit or reduce payments to pharmacies and providers, the basis for payments beginning to transition from a fee-for-service model to value-based payments and risk-sharing models, and the industry shifting away from traditional healthcare venues like hospitals and into clinics, physician offices and patients’ homes.
We expect the U.S. healthcare industry to continue to change significantly in the future. Possible changes include repeal and replacement of major parts of the Patient Protection and Affordable Care Act, further reduction or limitations on governmental funding at the state or federal level, efforts by healthcare insurance companies to further limit payments for products and services or changes in legislation or regulations governing prescription pharmaceutical pricing, healthcare services or mandated benefits. These possible changes, and the uncertainty surrounding these possible changes, may cause healthcare industry participants to reduce the amount of products and services they purchase from us or the price they are willing to pay for our products and services, which could adversely affect us.
Our business and operations depend on the proper functioning of information systems, critical facilities and distribution networks.
We rely on our and third-party service providers' information systems for a wide variety of critical operations, including 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 accurate billing and collections for thousands of customers;
process payments to suppliers;
facilitate 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 or a service provider's information systems, critical facilities or distribution networks are disrupted (including disruption of access), are damaged or fail, whether due to physical disruptions, such as fire, natural disaster, pandemic or power outage, or due to cyber-security incidents, ransomware or other actions of third parties, including labor strikes, political unrest and terrorist attacks. Manufacturing disruptions also can occur due to regulatory action, production quality deviations, safety issues or raw material shortages or defects, or because a key product or component is manufactured at a single manufacturing facility with limited alternate facilities.
From time to time, our businesses perform business process improvements or infrastructure modernizations or use service providers for key systems and processes, such as receiving and processing customer orders, 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 and results of operations could be adversely affected if we experience a cyber-attack or other systems breach.
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 developed internally or procured from third parties may contain defects in design or manufacture or other problems that could unexpectedly compromise information security.
Unauthorized parties have gained access and will continue to attempt to gain access to our or a service provider's systems or facilities through fraud, trickery or other forms of deception. We have been the target of cyber attacks, including incidents where certain customer account information was accessed. Although we do not believe these incidents had a material impact on us, similar incidents or events in the future may negatively impact our business, reputation or financial results.
Any compromise of our or a service provider's information systems, 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 or regulatory requirements, including the new EU general data protection regulation (GDPR) and those related to patient-identifiable health information as further described in the Risk Factor titled “Our business is subject to rigorous regulatory and licensing requirements,” above.
CVS is a large customer that generates a significant amount of our revenue.
Our sales and credit concentration is significant. CVS accounted for 26 percent of our fiscal 2019 revenue and 24 percent of our gross trade receivable balance at June 30, 2019. In May 2019, we extended our pharmaceutical distribution agreements with CVS through fiscal 2023. If CVS does not renew our agreements, terminates the agreements due to an alleged default by us, defaults in payment or significantly reduces its purchases from us, our results of operations and financial condition could be adversely affected.
Consolidation in the U.S. healthcare industry may negatively impact our results of operations.
In recent years, U.S. healthcare industry participants, including distributors, manufacturers, suppliers, healthcare providers, insurers and pharmacy chains, have consolidated or formed strategic alliances. Consolidations create larger enterprises with greater negotiating power, and also could result in the possible loss of a customer where the combined enterprise selects one distributor from

 
Cardinal Health | Fiscal 2019 Form 10-K
34



Risk Factors
 
 


two incumbents. If this consolidation trend continues, it could adversely affect our results of operations.
We may become involved in legal proceedings that could adversely impact our cash flows or results of operations.
Due to the nature of our business, which includes the distribution of controlled substances and the manufacture of medical products, we regularly become involved in disputes, litigation and regulatory matters. Litigation is inherently unpredictable and the unfavorable outcome of one or more of these legal proceedings could adversely affect our results of operations or financial condition.
For example, we are subject to a number of lawsuits and investigations related to the national health crisis involving the abuse of opioid pain medication as described above in the Risk Factor titled "The public health crisis involving the abuse of prescription opioid pain medication could negatively affect our business" and in Note 8 to the "Notes to Consolidated Financial Statements."
Additionally, some of the products that we distribute or manufacture have been and may in the future be alleged to cause personal injury, subjecting us to product liability claims. For example, we are a defendant in product liability lawsuits that allege personal injuries associated with the use of Cordis OptEase and TrapEase inferior vena cava (IVC) filter products. We have accrued an amount for losses and legal defense costs related to these lawsuits, which are discussed in Note 8 of the “Notes to Consolidated Financial Statements." Any settlement of or judgment for a product liability claim that is not covered by insurance and is in excess of any prior accruals could adversely affect our results of operations and financial condition.
We also 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.
Our ability to manage and complete acquisitions could impact our strategic objectives and financial condition.
An important element of our growth strategy has been to acquire other businesses that expand or complement our existing businesses. Completion of acquisitions and the integration of acquired businesses involve a number of risks, including the following: 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 or delays establishing, integrating or combining operations and systems, including manufacturing facilities; we may assume liabilities related to 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.
 
Our results of operations could be adversely impacted if we fail to manage and complete divestitures.
We regularly evaluate our portfolio of businesses to determine whether an asset or business may no longer help us meet our objectives or whether there may be a more advantaged owner for that business. For example, over the past two fiscal years, we divested our pharmaceutical and medical products distribution business in China and our ownership interest in naviHealth, Inc. When we decide to sell assets or a business, we may encounter difficulty finding buyers or alternative exit strategies, which could delay the achievement of our strategic objectives. We could also experience greater dis-synergies than expected and the impact of the divestiture on our results of operations could be greater than anticipated.
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 and energy supplied by others for our operations. In some instances, for reasons of quality assurance, cost effectiveness, or availability, we procure certain components and raw materials from a sole supplier. Any of our supplier relationships could be interrupted or become less favorable due to events beyond our control, including natural disasters, U.S. or international foreign policy, including tariffs, or could be terminated. In addition, due to the stringent regulations and requirements of the FDA regarding the manufacture of our products, we may not be able to quickly establish additional or replacement sources for certain components or materials. A sustained supply reduction or interruption, and an inability to develop alternative sources for such supply, could have an adverse effect on our business.
Our manufacturing businesses use oil-based resins, pulp, 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.
We may not realize the expected benefits from our restructuring and cost-savings initiatives.
We recently announced that we will be undertaking certain cost-savings initiatives intended to simplify our operating model and cost structure, and we expect to identify and enter into similar initiatives in the future. These initiatives could result in unexpected charges and expenses that negatively impact our financial results or we could fail to achieve the desired efficiencies and estimated cost savings.
Additionally, these types of initiatives could yield unintended consequences such as distraction of management and employees, business disruption, an inability to attract or retain key personnel,

 35
Cardinal Health | Fiscal 2019 Form 10-K
 


Risk Factors
 
 


which could negatively affect our business or financial condition and results of operations.
If we are not able to effectively develop, implement and manage our outsourcing or similar third-party relationships, we may experience operational difficulties and increased costs, which may adversely affect our results of operations.
As a result of our international operations, we have exposure to economic, political and currency risks.
We conduct our operations in various regions of the world outside of the United States, including Europe, Asia and Latin America. Global developments can affect our business in many ways. Our global operations are affected by local economic environments, including inflation, recession and competition. Additionally, divergent or unfamiliar regulatory systems and labor markets also can increase the risks and burdens of operating in numerous countries.
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.
 
Changes or uncertainty in U.S. or international trade policies or tariffs could disrupt our global operations or negatively impact our financial results.
Our foreign operations expose us to a number of risks related to trade protection laws, tariffs, excise or other border taxes on goods sourced from certain countries or on the importation or exportation of products or raw materials. Changes or uncertainty in U.S. or international trade policies or tariffs could impact our global operations, as well as our customers and suppliers. We may be required to spend more money to source certain products or materials that we need or to manufacture certain of our products. This could adversely impact our business and results of operations.
Our goodwill may be further impaired, which would require us to record a significant charge to earnings in accordance with generally accepted accounting principles.
U.S. GAAP requires us to test our goodwill for impairment on an annual basis, or more frequently if indicators for potential impairment exist. In the fourth quarter of fiscal year 2018, we recorded a $1.4 billion impairment to goodwill within our Medical segment. The testing required by GAAP involves estimates and significant judgments by management. Although we believe our assumptions and estimates are reasonable and appropriate, any changes in key assumptions, including a failure to meet business plans or other unanticipated events and circumstances such as a rise in interest rates, may affect the accuracy or validity of such estimates. It is possible that we may record significant charges related to other reporting units or we may record additional charges in our Medical segment, which charge or charges could adversely affect our results of operations. See "Critical Accounting Policies and Sensitive Accounting Estimates" in MD&A above for more information regarding goodwill impairment testing.


 
Cardinal Health | Fiscal 2019 Form 10-K
36



Properties and Legal Proceedings
 
 

Properties
In the United States, at June 30, 2019, the Pharmaceutical segment operated one national logistics center; a number of primary pharmaceutical and specialty distribution facilities as well as nuclear pharmacy and radiopharmaceutical manufacturing facilities. The Medical segment operated medical-surgical distribution, assembly, manufacturing and other operating facilities in the United States.
Outside the United States and Puerto Rico, at June 30, 2019, our Medical segment operated manufacturing facilities in Canada, Costa Rica, the Dominican Republic, Germany, Ireland, Japan, Malaysia, Malta, Mexico and Thailand.
 
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
In addition to the proceedings described below, the legal proceedings described in Note 8 of the "Notes to Consolidated Financial Statements" are incorporated in this "Legal Proceedings" section by reference.
In June 2019, Melissa Cohen, a purported shareholder, filed an action on behalf of Cardinal Health, Inc. in the U.S. District Court for the Southern District of Ohio against certain current and former members of our Board of Directors alleging that the defendants breached their fiduciary duties by failing to effectively monitor Cardinal Health's distribution of controlled substances. The derivative complaint seeks, among other things, unspecified money damages against the defendants and an award of attorney's fees.


 37
Cardinal Health | Fiscal 2019 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.”
At July 31, 2019 there were approximately 7,460 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 2019
263

 
$
46.41

 

 
$
1,293

May 2019
395

 
45.58

 

 
1,293

June 2019
132

 
45.27

 

 
1,293

Total
790

 
$
45.80

 

 
$
1,293

(1)
Reflects 263, 395 and 132 common shares purchased in April, May and June 2019, respectively, through a rabbi trust as investments of participants in our Deferred Compensation Plan.
(2)
On February 7, 2018 our Board of Directors approved a $1.0 billion share repurchase program that expires on December 31, 2020. On November 7, 2018, our Board of Directors approved an additional $1.0 billion share repurchase program that expires on December 31, 2021. As of June 30, 2019, we have $1.3 billion authorized for share repurchases remaining under these programs.


 
Cardinal Health | Fiscal 2019 Form 10-K
38



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, 2014, based on the market prices at the end of each fiscal year through and including June 30, 2019, 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.
a10kgraphv2.jpg
 
June 30
 
2014
2015
2016
2017
2018
2019
Cardinal Health, Inc.
$
100.00

$
124.11

$
118.06

$
120.71

$
78.06

$
78.32

S&P 500 Index
100.00

107.42

111.69

131.67

150.59

166.26

S&P 500 Healthcare Index
100.00

124.17

121.66

136.83

146.55

165.59


 39
Cardinal Health | Fiscal 2019 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, 2019. Based on this evaluation, our principal executive officer and principal financial officer has concluded that our disclosure controls and procedures were effective as of June 30, 2019 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, 2019. 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, 2019.
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.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting during the quarter ended June 30, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.


 
Cardinal Health | Fiscal 2019 Form 10-K
40


Reports
 
 

Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting
The Shareholders and the Board of Directors of Cardinal Health, Inc.
Opinion on Internal Control over Financial Reporting
We have audited Cardinal Health, Inc. and subsidiaries’ internal control over financial reporting as of June 30, 2019, 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). In our opinion, Cardinal Health, Inc. and subsidiaries’ (the Company) maintained, in all material respects, effective internal control over financial reporting as of June 30, 2019, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of June 30, 2019 and 2018, 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, 2019, and the related notes and the financial statement schedule listed in the Index at Item 15(a)(2) and our report dated August 20, 2019 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s 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 are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. 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.
Definition and Limitations of Internal Control Over Financial Reporting
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.

/s/ Ernst & Young LLP
 
Grandview Heights, Ohio
August 20, 2019


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Cardinal Health | Fiscal 2019 Form 10-K
 

Reports
 
 

Report of Independent Registered Public Accounting Firm
To the Shareholders and the Board of Directors of Cardinal Health, Inc.
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Cardinal Health, Inc. and subsidiaries (the Company) as of June 30, 2019 and 2018, 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, 2019, and the related notes and the financial statement schedule listed in the Index at Item 15(a)(2) (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at June 30, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2019, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of June 30, 2019, 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 20, 2019 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matters
The critical audit matters communicated below are matters arising from the current period audit of the financial statements that were communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.
 
Medical Unit Goodwill
Description of the Matter

At June 30, 2019, goodwill related to the Company’s Medical segment, including the Medical Unit was $5.7 billion. As discussed in Note 4 to the consolidated financial statements, goodwill is tested for impairment at least annually at the reporting unit level.
Auditing management’s annual goodwill impairment test for the Medical Unit was challenging because this reporting unit’s fair value had an impairment in the previous year and there is significant judgement required in determining the fair value of the reporting unit. In particular, the fair value estimate was sensitive to significant judgmental assumptions including the revenue growth rate, gross margin, distribution, selling, general and administrative expenses, and company specific risk premium, which are affected by expectations about future market or economic conditions.



 
Cardinal Health | Fiscal 2019 Form 10-K
42


Reports
 
 

How We Addressed the Matter in Our Audit

We obtained an understanding, evaluated the design and tested the operating effectiveness of controls over the Company’s goodwill impairment review process. For example, we tested controls over management’s review of significant judgmental assumptions, including the revenue growth rate, gross margin, distribution, selling, general and administrative expenses, and company specific risk premium, among other assumptions.

To test the estimated fair value of the Company’s reporting unit, we performed audit procedures that included, among others, evaluating methodologies used, involving our valuation specialists in testing the significant assumptions described above and testing the underlying data used by the Company in its analysis for completeness and accuracy. We compared the significant assumptions used by management to current industry and economic trends, recent historical performance, changes to the reporting unit’s business model, customer base or product mix and other relevant factors. We assessed the historical accuracy of management’s estimates and performed sensitivity analyses of significant assumptions to evaluate the changes in the fair value of the reporting unit that would result from changes in the assumptions. We evaluated the incorporation of the applicable assumptions into the model and tested the model’s computational accuracy. In addition, we inspected the Company’s reconciliation of the fair value of all reporting units to the market capitalization of the Company and assessed the results.

 
Product Liability Lawsuits

Description of the Matter

As described in Note 8 to the consolidated financial statements, the Company is a defendant in various product liability claims in which individuals seek damages associated with the use of Cordis OptEase and TrapEase inferior vena cava (IVC) filter products. The Company accrues for losses and defense costs related to product liability at the time a loss is probable and the amount of loss can be reasonably estimated. The methodology used by the Company to project future Cordis IVC claim costs is based largely on recent experience, including claim filing rates, indemnity severity by claim type, sales data and defense costs. The Company periodically reviews such estimates and records adjustments for changes in reserves in the period in which the change in estimate occurs. At June 30, 2019, the Company’s product liability reserve balance related to the Cordis IVC lawsuits totaled $368 million, net. The Company believes there is a range of estimated losses with respect to these matters. Because no amount within the range is a better estimate than any other amount within the range, the Company has accrued the minimum amount in the range. The Company estimates the high end of the range to be approximately $762 million, net of estimated insurance recoveries.

Auditing management’s accounting for and disclosure of loss contingencies related to the Cordis IVC product liability lawsuits was challenging due to the significant judgment required to develop the key assumptions utilized in the model and the nature of information available given the early stages of these lawsuits and the limited claims history.
How We Addressed the Matter in Our Audit

We obtained an understanding, evaluated the design, and tested the operating effectiveness of controls over management’s evaluation of the product liability litigation reserve. For example, we tested controls over management’s review of the model used to estimate the product liability reserve amount and the significant assumptions as described above used within the model. We also tested management’s controls over the completeness and accuracy of the data used in the model.

To test management’s assessment of the probability of occurrence of a loss and whether the loss was reasonably estimable, we evaluated, for example, claims data of the Company, we evaluated the legal letters obtained from internal and external legal counsel, and we discussed with internal and external legal counsel of the plaintiffs’ claims. Among other procedures we performed to test the measurement of the product liability litigation reserve, we evaluated the method of measuring the reserve for claims including analyses to determine the range of possible losses, obtained and performed audit procedures relative to the analysis, tested the accuracy and completeness of the data, and evaluated new or contrary information affecting the estimate. In addition, we involved internal actuarial specialists to assist with our procedures related to the measurement of the product liability reserve. We have also assessed the adequacy of the Company’s disclosures included in Note 8 in relation to these matters.

 
Uncertain Tax Positions
Description of the Matter
As described in Note 7 to the consolidated financial statements, the Company’s unrecognized tax benefits related to its uncertain tax positions were approximately $456 million at June 30, 2019. The Company operates in a multinational tax environment and is subject to tax treaty arrangements and transfer pricing guidelines for intercompany transactions that have pricing subjectivity.

For those tax positions that qualify for recognition, the Company uses significant judgment to measure the largest amount of benefit that is more likely than not to be realized upon ultimate settlement. For tax benefits that do not qualify for recognition, the Company recognizes a liability for unrecognized tax benefits. Auditing the measurement of tax positions related to transfer pricing used in intercompany transactions was challenging because the pricing of the intercompany transactions is based on pricing analyses that may produce a number of different outcomes or ranges of outcomes (e.g., the price that would be charged in an arm’s-length transaction).


 43
Cardinal Health | Fiscal 2019 Form 10-K
 

Reports
 
 

How We Addressed the Matter in Our Audit

We obtained an understanding, evaluated the design, and tested the operating effectiveness of controls over the Company’s process to measure tax positions related to transfer pricing from intercompany transactions. For example, we tested management’s review of inputs and calculations of these tax positions, which included evaluation of the ranges of outcomes and pricing conclusions reached within management’s transfer pricing studies.

To test the Company’s measurement of tax positions related to transfer pricing used in intercompany transactions, we involved our tax professionals to assess the appropriateness of the ranges of outcomes utilized and the pricing conclusions reached within the transfer pricing studies conducted by the Company. For example, we compared the transfer pricing methodology utilized by management to alternative methodologies and industry benchmarks. We also verified our understanding of the relevant facts by reading the Company’s correspondence with the relevant tax authorities and any third-party advice obtained by the Company. In addition, we used our knowledge of international and local income tax laws, as well as historical settlement activity from income tax authorities, to evaluate the appropriateness of the Company’s measurement of uncertain tax positions related to transfer pricing used in these intercompany transactions.


/s/ Ernst & Young LLP
We have served as the Company's auditor since 2002.
Grandview Heights, Ohio
August 20, 2019


 
Cardinal Health | Fiscal 2019 Form 10-K
44



Financial Statements
 
 

Financial Statements and Supplementary Data


 45
Cardinal Health | Fiscal 2019 Form 10-K
 


Financial Statements
 
 

Consolidated Statements of Earnings
(in millions, except per common share amounts)
2019
 
2018
 
2017
Revenue
$
145,534

 
$
136,809

 
$
129,976

Cost of products sold
138,700

 
129,628

 
123,432

Gross margin
6,834

 
7,181

 
6,544

 
 
 
 
 
 
Operating expenses:
 
 
 
 
 
Distribution, selling, general and administrative expenses
4,480

 
4,596

 
3,775

Restructuring and employee severance
125

 
176

 
56

Amortization and other acquisition-related costs
621

 
707

 
527

Impairments and (gain)/loss on disposal of assets, net
(488
)
 
1,417

 
18

Litigation (recoveries)/charges, net
36

 
159

 
48

Operating earnings
2,060

 
126

 
2,120

 
 
 
 
 
 
Other (income)/expense, net
15

 
23

 
(5
)
Interest expense, net
294

 
329

 
201

Loss on extinguishment of debt

 
2

 

Earnings/(loss) before income taxes
1,751

 
(228
)
 
1,924

 
 
 
 
 
 
Provision for/(benefit from) income taxes
386

 
(487
)
 
630

Net earnings
1,365

 
259

 
1,294

 
 
 
 
 
 
Less: Net earnings attributable to noncontrolling interests
(2
)
 
(3
)
 
(6
)
Net earnings attributable to Cardinal Health, Inc.
$
1,363

 
$
256

 
$
1,288

 
 
 
 
 
 
Earnings per common share attributable to Cardinal Health, Inc.
 
 
 
 
 
Basic
$
4.55

 
$
0.82

 
$
4.06

Diluted
4.53