-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, R4Ppdt2bEqVZ053c0EUlV8GGFF2LpsQhdXmrUr754Wn52I5mBbuz/tyNq6j1YoLf bLQ0E/PDhFWbCR5mR+JaMw== 0000950152-03-001919.txt : 20030214 0000950152-03-001919.hdr.sgml : 20030214 20030214180217 ACCESSION NUMBER: 0000950152-03-001919 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20021231 FILED AS OF DATE: 20030214 FILER: COMPANY DATA: COMPANY CONFORMED NAME: CARDINAL HEALTH INC CENTRAL INDEX KEY: 0000721371 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-DRUGS PROPRIETARIES & DRUGGISTS' SUNDRIES [5122] IRS NUMBER: 310958666 STATE OF INCORPORATION: OH FISCAL YEAR END: 0630 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-11373 FILM NUMBER: 03568994 BUSINESS ADDRESS: STREET 1: 7000 CARDINAL PLACE CITY: DUBLIN STATE: OH ZIP: 43017 BUSINESS PHONE: 6147575000 MAIL ADDRESS: STREET 1: 7000 CARDINAL PLACE CITY: DUBLIN STATE: OH ZIP: 43017 FORMER COMPANY: FORMER CONFORMED NAME: CARDINAL DISTRIBUTION INC DATE OF NAME CHANGE: 19920703 10-Q 1 l98799ae10vq.txt CARDINAL HEALTH, INC. - FORM 10-Q FOR 12/31/2002 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-Q QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For The Quarter Ended December 31, 2002 Commission File Number 1-11373 CARDINAL HEALTH, INC. (Exact name of registrant as specified in its charter) OHIO 31-0958666 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) 7000 CARDINAL PLACE, DUBLIN, OHIO 43017 (Address of principal executive offices and zip code) (614) 757-5000 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934). Yes [ ] No [X] The number of Registrant's Common Shares outstanding at the close of business on January 31, 2003 was as follows: Common Shares, without par value: 452,159,340 CARDINAL HEALTH, INC. AND SUBSIDIARIES Index*
Page No. -------- Part I. Financial Information: Item 1. Financial Statements: Condensed Consolidated Statements of Earnings for the Three and Six Months Ended December 31, 2002 and 2001 (unaudited)................. 3 Condensed Consolidated Balance Sheets at December 31, 2002 and June 30, 2002 (unaudited)............................................... 4 Condensed Consolidated Statements of Cash Flows for the Six Months Ended December 31, 2002 and 2001 (unaudited)............................ 5 Notes to Condensed Consolidated Financial Statements.................... 6 Item 2. Management's Discussion and Analysis of Results of Operations and Financial Condition................................................. 16 Item 3. Quantitative and Qualitative Disclosures about Market Risk.............. 23 Item 4. Controls and Procedures................................................. 23 Part II. Other Information: Item 1. Legal Proceedings....................................................... 23 Item 4. Submission of Matters to a Vote of Security Holders..................... 25 Item 6. Exhibits and Reports on Form 8-K........................................ 26
- ----------------- * Items not listed are inapplicable. Page 2 PART I. FINANCIAL INFORMATION CARDINAL HEALTH, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS (UNAUDITED) (IN MILLIONS, EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED SIX MONTHS ENDED DECEMBER 31, DECEMBER 31, ------------------------ ------------------------ 2002 2001 2002 2001 --------- --------- --------- --------- Operating revenue $12,706.3 $11,221.7 $24,122.9 $21,087.1 Operating cost of products sold 11,626.8 10,221.2 22,036.5 19,171.9 --------- --------- --------- --------- Operating gross margin 1,079.5 1,000.5 2,086.4 1,915.2 Bulk deliveries to customer warehouses and other 1,384.7 1,870.4 3,054.2 3,778.4 Cost of products sold - bulk deliveries and other 1,384.7 1,870.4 3,054.2 3,778.4 --------- --------- --------- --------- Bulk gross margin -- -- -- -- Selling, general and administrative expenses 526.2 514.0 1,046.9 1,016.4 Special items - merger charges 22.0 16.8 33.4 29.1 Special items - other (59.6) -- (52.3) -- --------- --------- --------- --------- Operating earnings 590.9 469.7 1,058.4 869.7 Interest expense and other 31.5 38.8 62.1 67.4 --------- --------- --------- --------- Earnings before income taxes 559.4 430.9 996.3 802.3 Provision for income taxes 191.9 147.6 340.5 272.6 --------- --------- --------- --------- Earnings before cumulative effect of change in accounting 367.5 283.3 655.8 529.7 Cumulative effect of change in accounting (See Note 7) -- -- -- 70.1 --------- --------- --------- --------- Net earnings $ 367.5 $ 283.3 $ 655.8 $ 459.6 ========= ========= ========= ========= Basic earnings per Common Share: Before cumulative effect of change in accounting $ 0.83 $ 0.63 $ 1.48 $ 1.18 Cumulative effect of change in accounting -- -- -- (0.16) --------- --------- --------- --------- Net basic earnings per Common Share $ 0.83 $ 0.63 $ 1.48 $ 1.02 ========= ========= ========= ========= Diluted earnings per Common Share: Before cumulative effect of change in accounting $ 0.82 $ 0.62 $ 1.45 $ 1.15 Cumulative effect of change in accounting -- -- -- (0.15) --------- --------- --------- --------- Net diluted earnings per Common Share $ 0.82 $ 0.62 $ 1.45 $ 1.00 ========= ========= ========= ========= Weighted average number of Common Shares outstanding: Basic 442.0 449.9 444.1 449.7 Diluted 450.0 459.7 452.1 460.2 Cash dividends declared per Common Share $ 0.025 $ 0.025 $ 0.050 $ 0.050
See notes to condensed consolidated financial statements. Page 3 CARDINAL HEALTH, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED) (IN MILLIONS)
DECEMBER 31, JUNE 30, 2002 2002 ------------ ---------- ASSETS Current assets: Cash and equivalents $ 998.9 $ 1,382.0 Trade receivables, net 2,611.8 2,295.4 Current portion of net investment in sales-type leases 175.4 218.3 Inventories 8,313.3 7,361.0 Prepaid expenses and other 770.0 649.9 --------- --------- Total current assets 12,869.4 11,906.6 --------- --------- Property and equipment, at cost 3,511.7 3,509.3 Accumulated depreciation and amortization (1,588.4) (1,614.9) --------- --------- Property and equipment, net 1,923.3 1,894.4 Other assets: Net investment in sales-type leases, less current portion 525.2 618.6 Goodwill and other intangibles 1,572.5 1,544.1 Other 291.2 474.3 --------- --------- Total $17,181.6 $16,438.0 ========= ========= LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Notes payable, banks $ 0.1 $ 0.8 Current portion of long-term obligations 17.1 17.4 Accounts payable 6,094.5 5,504.5 Other accrued liabilities 1,462.1 1,287.7 --------- --------- Total current liabilities 7,573.8 6,810.4 --------- --------- Long-term obligations, less current portion 2,242.8 2,207.0 Deferred income taxes and other liabilities 832.8 1,027.6 Shareholders' equity: Preferred Stock, without par value Authorized - 0.5 million shares, Issued - none -- -- Common Shares, without par value Authorized - 755.0 million shares, Issued - 463.3 million shares and 461.0 million shares at December 31, 2002 and June 30, 2002, respectively 2,192.6 2,105.2 Retained earnings 5,789.5 5,156.1 Common Shares in treasury, at cost, 22.1 million shares and 12.2 million shares at December 31, 2002 and June 30, 2002, respectively (1,360.2) (737.0) Other comprehensive loss (80.3) (120.9) Other (9.4) (10.4) --------- --------- Total shareholders' equity 6,532.2 6,393.0 --------- --------- Total $17,181.6 $16,438.0 ========= =========
See notes to condensed consolidated financial statements. Page 4 CARDINAL HEALTH, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED) (IN MILLIONS)
SIX MONTHS ENDED DECEMBER 31, --------------------- 2002 2001 -------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Earnings before cumulative effect of change in accounting $ 655.8 $ 529.7 Adjustments to reconcile earnings before cumulative effect of change in accounting to net cash from operating activities: Depreciation and amortization 126.5 123.1 Provision for bad debts 10.5 14.8 Change in operating assets and liabilities, net of effects from acquisitions: Increase in trade receivables (327.8) (169.7) Increase in inventories (952.3) (1,962.4) Decrease in net investment in sales-type leases 136.2 161.5 Increase in accounts payable 590.0 291.3 Other operating items, net 120.0 64.7 -------- -------- Net cash provided by/(used in) operating activities 358.9 (947.0) -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisition of subsidiaries, net of cash acquired (7.8) (2.8) Proceeds from sale of property, equipment, and other assets 33.8 16.9 Additions to property and equipment (172.3) (121.3) -------- -------- Net cash used in investing activities (146.3) (107.2) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Net change in commercial paper and short-term debt (0.7) 576.6 Reduction of long-term obligations (13.1) (27.7) Proceeds from long-term obligations, net of issuance costs 6.1 46.4 Proceeds from issuance of Common Shares 77.0 61.9 Purchase of treasury shares (642.7) (115.7) Dividends on Common Shares (22.3) (22.5) -------- -------- Net cash provided by/(used in) financing activities (595.7) 519.0 -------- -------- NET DECREASE IN CASH AND EQUIVALENTS (383.1) (535.2) CASH AND EQUIVALENTS AT BEGINNING OF PERIOD 1,382.0 934.1 -------- -------- CASH AND EQUIVALENTS AT END OF PERIOD $ 998.9 $ 398.9 ======== ========
See notes to condensed consolidated financial statements. Page 5 CARDINAL HEALTH, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION. The condensed consolidated financial statements of Cardinal Health, Inc. (the "Company") include the accounts of all majority-owned subsidiaries and all significant intercompany amounts have been eliminated. These condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q and include all of the information and disclosures required by generally accepted accounting principles for interim reporting. In the opinion of management, all adjustments necessary for a fair presentation have been included. Except as disclosed elsewhere in this Form 10-Q, all such adjustments are of a normal and recurring nature. The condensed consolidated financial statements included herein should be read in conjunction with the audited consolidated financial statements and related notes contained in the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 2002 (the "2002 Form 10-K"). Note 1 of the "Notes to Consolidated Financial Statements" from the 2002 Form 10-K contains specific accounting policies and is incorporated herein by reference. RECENT FINANCIAL ACCOUNTING STANDARDS. In January 2003, the Financial Accounting Standards Board ("FASB") issued Interpretation No. 46, "Consolidation of Variable Interest Entities". This interpretation defines when a business enterprise must consolidate a variable interest entity. This interpretation applies immediately to variable interest entities created after January 31, 2003. It applies in the first fiscal year or interim period beginning after June 15, 2003, to entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. The Company has certain operating lease agreements with entities it believes qualify as variable interest entities. These operating leases consist of certain real estate used in the operations of the Company, and the obligations under these leases approximate $145 million at December 31, 2002. Although the Company's maximum loss exposure related to these operating lease agreements at December 31, 2002 was approximately $121 million, the Company believes the proceeds from the sale of the real estate properties under these operating leases would exceed its payment obligation. In December 2002, the FASB issued Statement of Financial Accounting Standards ("SFAS") No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure" which amends FASB Statement No. 123. This statement provides alternative methods of transition for a voluntary change to the fair value-based method of accounting for stock-based employee compensation and amends the disclosure requirements of FASB Statement No. 123. The transition guidance and annual disclosure provisions are effective for fiscal years ending after December 15, 2002. The interim disclosure provisions are effective for financial reports containing financial statements for interim periods beginning after December 15, 2002. The Company will include the required interim disclosure provisions in its financial statements for the quarter ending March 31, 2003. The adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations. In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others". This interpretation requires a guarantor to recognize, at the inception of the guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. It also enhances guarantor's disclosure requirements to be made in its interim and annual financial statements about its obligations under certain guarantees it has issued. The initial recognition and initial measurement provisions of this interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002. The disclosure requirements are effective for financial statements of interim or annual periods ending after December 15, 2002. The Company adopted the enhanced disclosure requirements in the current quarter. The adoption of the recognition and initial measurement provisions is not anticipated to have a material effect on the Company's financial position or results of operations. In November 2002, the Emerging Issues Task Force ("EITF") issued EITF Issue No. 00-21 "Accounting for Revenue Arrangements with Multiple Deliverables", effective for arrangements entered into after June 15, 2003. This issue defines units of accounting for arrangements with multiple deliverables resulting in revenue being allocated over the units of accounting for revenue recognition purposes. The adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations. In June 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated with Exit or Disposal Activities," effective for exit or disposal activities that are initiated after December 31, 2002. This statement Page 6 nullifies EITF Issue No. 94-3, "Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring)." This statement requires that a liability for a cost associated with an exit or disposal activity, other than those associated with a business combination, be recognized when the liability is incurred instead of recognizing the liability at the date of an entity's commitment to an exit plan as was required in Issue No. 94-3. The Company will adopt the provisions of SFAS No. 146 for restructuring activities initiated after December 31, 2002. The adoption of this statement is not anticipated to have a material effect on the Company's financial position or results of operations. 2. EARNINGS PER SHARE AND SHAREHOLDERS' EQUITY Basic earnings per Common Share ("Basic") is computed by dividing net earnings (the numerator) by the weighted average number of Common Shares outstanding during each period (the denominator). Diluted earnings per Common Share is similar to the computation for Basic, except that the denominator is increased by the dilutive effect of stock options outstanding, computed using the treasury stock method. The following table reconciles the number of shares used to compute basic and diluted earnings per Common Share.
For the For the Three Months Ended Six Months Ended December 31, December 31, --------------------- ------------------- (in millions) 2002 2001 2002 2001 - ------------- ----- ----- ----- ----- Weighted-average shares - basic 442.0 449.9 444.1 449.7 Effect of dilutive securities: Employee stock options 8.0 9.8 8.0 10.5 ----- ----- ----- ----- Weighted-average shares - diluted 450.0 459.7 452.1 460.2 ===== ===== ===== =====
The potentially dilutive employee stock options that were antidilutive for the three months ended December 31, 2002 and 2001 were 12.5 million and 0.1 million and for the six months ended December 31, 2002 and 2001 were 12.7 million and 0.1 million, respectively. On August 7, 2002, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. During the three months ended December 31, 2002, the Company repurchased approximately 3.5 million Common Shares having an aggregate cost of approximately $231.2 million. As of December 31, 2002, a total of approximately 6.9 million Common Shares having an aggregate cost of approximately $451.0 million had been repurchased through this plan. The repurchased shares will be treasury shares available to be used for general corporate purposes. In September 2001, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. This program was completed in August 2002. The Company repurchased approximately 3.2 million Common Shares having an aggregate cost of approximately $191.7 million during the quarter ended September 30, 2002. The cumulative amount repurchased under this program was approximately 8.3 million Common Shares having an aggregate cost of approximately $500 million. The repurchased shares will be treasury shares available to be used for general corporate purposes. 3. COMPREHENSIVE INCOME The following is a summary of the Company's comprehensive income for the three and six months ended December 31, 2002 and 2001:
For the For the Three Months Ended Six Months Ended December 31, December 31, ------------------- ------------------ (in millions) 2002 2001 2002 2001 - ------------- ------ ------ ------ ------ Net earnings $367.5 $283.3 $655.8 $459.6 Foreign currency translation adjustment 19.6 (10.3) 28.2 4.0 Unrealized gain on investment -- -- -- 2.2 Reclassification adjustment for investment losses included in net earnings -- -- -- 3.2 Net unrealized gain/(loss) on derivative instruments (2.9) 2.2 12.4 (4.3) ------ ------ ------ ------ Total comprehensive income $384.2 $275.2 $696.4 $464.7 ====== ====== ====== ======
Page 7 4. MERGER-RELATED COSTS AND OTHER SPECIAL ITEMS The following is a summary of the special items for the three and six months ended December 31, 2002 and 2001.
Three Months Ended Six Months Ended Special Items December 31, December 31, - ------------- ------------------- -------------------- (in millions) 2002 2001 2002 2001 - ------------- -------- ------- -------- -------- Merger-Related Costs: Employee-related costs $ (11.8) $ (4.6) $ (15.0) $ (8.7) Pharmaceutical distribution center consolidation (4.7) (0.5) (9.8) (0.8) Other exit costs (1.5) (1.9) (2.0) (4.2) Other integration costs (4.0) (9.8) (6.6) (15.4) ------- ------- ------- ------- Total merger-related costs $ (22.0) $ (16.8) $ (33.4) $ (29.1) ------- ------- ------- ------- Other Special Items: Employee-related costs $ (1.4) $ -- $ (1.4) $ -- Manufacturing facility closures (11.0) -- (21.2) -- Litigation settlements 89.9 -- 92.8 -- Asset impairment and other (17.9) -- (17.9) -- ------- ------- ------- ------- Total other special items $ 59.6 $ -- $ 52.3 $ -- ------- ------- ------- ------- Total special items $ 37.6 $ (16.8) $ 18.9 $ (29.1) Tax effect of special items (15.5) 6.5 (12.4) 11.2 ------- ------- ------- ------- Net effect of special items $ 22.1 $ (10.3) $ 6.5 $ (17.9) ======= ======= ======= =======
MERGER-RELATED COSTS Costs of integrating the operations of various merged companies are recorded as merger-related costs when incurred. The merger-related costs recognized as of December 31, 2002, were primarily a result of the merger or acquisition transactions involving Boron, Lepore & Associates, Inc. ("BLP"), Magellan Laboratories Incorporated ("Magellan"), Bindley Western Industries, Inc. ("Bindley"), Bergen Brunswig Medical Corporation ("BBMC"), Allegiance Corporation ("Allegiance") and R.P. Scherer Corporation ("Scherer"). EMPLOYEE-RELATED COSTS. During the above-stated periods, the Company incurred employee-related costs associated with certain of its mergers and acquisitions. For the three months ended December 31, 2002, $8.8 million related to an approved plan to curtail certain defined benefit pension plans within the Pharmaceutical Technologies and Services segment. The remaining employee-related costs for the three and six months ended December 31, 2002, as well as the costs for the three and six months ended December 31, 2001, primarily related to amortization expense of noncompete agreements associated with the Bindley and Allegiance merger transactions. PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. In connection with the merger transaction with Bindley, the Company anticipated closing and consolidating a total of 16 Bindley distribution centers, Bindley's corporate office, and one of the Company's data centers. These closures were to result in the termination of approximately 1,250 employees. As of December 31, 2002, all 16 Bindley distribution centers and the Company's data center have been closed, and the majority of the 1,250 employees have been terminated. The Company anticipates completing the corporate office consolidation by June 30, 2003. During the three and six months ended December 31, 2002, the Company recorded charges totaling $4.7 million and $9.8 million, respectively, associated with the consolidations and closures noted above, as compared to $0.5 million and $0.8 million, respectively, for the comparable periods in fiscal 2002. The Company incurred employee-related costs of $2.3 million and $3.2 million during the three and six months ended December 31, 2002, respectively, primarily from the termination of employees due to the distribution center closures, as compared to $1.4 million for the three and six months ended December 31, 2001. The remaining merger-related items recorded during these periods primarily relate to exit costs to consolidate and close the various facilities mentioned above, including asset impairment charges, inventory move costs, contract and lease termination costs, and duplicate salary costs incurred during the shutdown periods. During the three months ended December 31, 2001, the Company recorded a gain of $2.5 million related to the sale of a Bindley distribution center, partially offsetting the expenses incurred during this period. Page 8 OTHER EXIT COSTS. Other exit costs related primarily to costs associated with lease terminations, moving expenses, and asset impairments as a direct result of the merger transactions with BBMC, Allegiance and Scherer. OTHER INTEGRATION COSTS. Other integration costs, which primarily relate to the merger and acquisition transactions noted above, included charges directly related to the integration of operations of the transactions noted, such as consulting costs related to information systems and employee benefit integration, as well as relocation and travel costs directly associated with the integrations. OTHER SPECIAL ITEMS EMPLOYEE-RELATED COSTS. During the three months ended December 31, 2002, the Company incurred $1.4 million of employee-related costs associated with the restructuring of certain operations within the Pharmaceutical Distribution and Provider Services segment. A significant portion of the charges recorded represent severance accrued upon communication of severance terms to employees during the second quarter of fiscal 2003. The restructuring of operations is expected to be complete by June 30, 2003, and will result in the termination of approximately 30 employees. MANUFACTURING FACILITY CLOSURES. During the three and six months ended December 31, 2002, the Company recorded a total of $11.0 million and $21.2 million, respectively, as special charges related to the closure and consolidation of certain manufacturing facilities. These closures and consolidations occurred within the Medical Products and Services segment and the Pharmaceutical Technologies and Services segment. Within the Medical Products and Services segment, three manufacturing facility closures were announced during the six months ended December 31, 2002 (one during the first quarter of fiscal 2003 and two during the second quarter of fiscal 2003). Two of the manufacturing facility closures were complete as of December 31, 2002. The other closure is expected to be complete by March 31, 2003. Asset impairment charges of $1.4 million and $8.9 million were incurred during the three and six months ended December 31, 2002, respectively. Also, exit costs of $1.3 million and $2.7 million, respectively, were incurred during those same periods, primarily related to dismantling and moving machinery and equipment. The remaining $3.3 million and $4.6 million, respectively, related to severance costs due to the termination of employees as a result of these closures. The Company expects to terminate a total of approximately 530 employees due to these closures. As of December 31, 2002, the majority of these employees were terminated. The Company incurred special charges during the three months ended December 31, 2002, related to two manufacturing facility closures within the Pharmaceutical Technologies and Services segment. One closure was complete as of December 31, 2002. The other is expected to be complete by June 30, 2003. Asset impairment charges of $1.1 million were incurred during the three months ended December 31, 2002. Also, exit costs of $1.6 million were incurred during this same period, primarily related to dismantling machinery and equipment and transferring certain technologies to other existing facilities within the Company. In addition, $1.6 million of severance costs were incurred as a result of these closures. The Company expects to terminate a total of approximately 75 employees due to these closures. As of December 31, 2002, the majority of these employees were terminated. LITIGATION SETTLEMENTS. During the three and six months ended December 31, 2002, the Company recorded income from litigation settlements of $89.9 million and $92.8 million, respectively. The settlements resulted from the recovery of antitrust claims against certain vitamin manufacturers for amounts overcharged in prior years. The total recovery through December 31, 2002 was $128.1 million. The amount recorded in the current quarter of $89.9 million represents an estimate of the majority of the recovery expected to be received from the defendants in the case. While the Company still has pending claims with smaller vitamin manufacturers, the total amount of future recovery is not currently estimable but the Company believes it will not likely represent a material amount. Any future recoveries will be recorded as a special item in the period in which a settlement is reached. ASSET IMPAIRMENT AND OTHER. During the three months ended December 31, 2002, the Company incurred asset impairment and other charges of $17.9 million, of which $10.1 million related to asset impairment charges resulting from the Company's decision to exit certain North American commodity operations in its Pharmaceutical Technologies and Services segment. The remaining $7.8 million relates to a one-time writeoff of design, tooling and development costs. Page 9 ACCRUAL ROLLFORWARD The following table summarizes the activity related to the liabilities associated with the Company's special charges during the six months ended December 31, 2002.
For the Six Months Ended ($ in millions) December 31, 2002 - --------------- ----------------- Balance at June 30, 2002 $ 64.7 Additions(1) 73.9 Payments (83.2) ------ Balance at December 31, 2002 $ 55.4 ======
- --------------- (1) Amount represents items that have been either expensed as incurred or accrued according to generally accepted accounting principles. This amount does not include litigation settlement income recorded during the six months ended December 31, 2002 of $92.8 million, which was reported as a reduction to special charges. SUMMARY The net effect of special items recorded during the three months ended December 31, 2002, was to increase net earnings by $22.1 million to $367.5 million and to increase reported diluted earnings per Common Share by $0.05 per share to $0.82 per share. In comparison, the net effect of special items recorded during the three months ended December 31, 2001, was to reduce net earnings by $10.3 million to $283.3 million and to reduce reported diluted earnings per Common Share by $0.02 per share to $0.62 per share. The net effect of special items recorded during the six months ended December 31, 2002, was to increase earnings before cumulative effect of change in accounting by $6.5 million to $655.8 million and to increase reported diluted earnings per Common Share before cumulative effect of change in accounting by $0.01 per share to $1.45 per share. In comparison, the net effect of special items recorded during the six months ended December 31, 2001, was to reduce earnings before cumulative effect of change in accounting by $17.9 million to $529.7 million and to reduce reported diluted earnings per Common Share before cumulative effect of change in accounting by $0.04 per share to $1.15 per share. 5. SEGMENT INFORMATION The Company is organized based on the products and services it offers. Under this organizational structure, the Company operates within four operating business segments: Pharmaceutical Distribution and Provider Services, Medical Products and Services, Pharmaceutical Technologies and Services, and Automation and Information Services. As of December 31, 2002, the Company has not made any significant changes in the segments reported or the basis of measurement of segment profit or loss from the information provided in the 2002 Form 10-K. The Pharmaceutical Distribution and Provider Services segment involves the distribution of a broad line of pharmaceuticals, healthcare, radiopharmaceuticals, and other specialty pharmaceutical products and other items typically sold by hospitals, retail drug stores and other healthcare providers. In addition, this segment provides services to the healthcare industry through integrated pharmacy management, temporary pharmacy staffing, as well as franchising of apothecary-style retail pharmacies. The Medical Products and Services segment involves the manufacture of medical, surgical and laboratory products and the distribution of these products as well as products not manufactured internally to hospitals, physician offices, surgery centers and other healthcare providers. The Pharmaceutical Technologies and Services segment provides services to the healthcare industry through the design of proprietary drug delivery systems including softgel capsules, controlled release forms, Zydis(R) fast dissolving wafers, and advanced sterile delivery technologies. It also provides comprehensive packaging, pharmaceutical development and analytical science expertise, as well as medical education, marketing and contract sales services. The Automation and Information Services segment provides services to hospitals and other healthcare providers through pharmacy automation equipment and clinical information system services. The Company evaluates the performance of the segments based on operating earnings after the corporate allocation of administrative expenses. Special charges are not allocated to the segments. Page 10 The following tables include revenue and operating earnings for the three and six months ended December 31, 2002 and 2001 for each segment and reconciling items necessary to equal amounts reported in the condensed consolidated financial statements: NET REVENUE
For the For the Three Months Ended Six Months Ended December 31, December 31, -------------------------- ------------------------- (in millions) 2002 2001 2002 2001 - ------------- ---------- ---------- ---------- ---------- Operating revenue: Pharmaceutical Distribution and Provider Services $ 10,539.0 $ 9,214.5 $ 19,890.5 $ 17,175.2 Medical Products and Services 1,638.8 1,554.6 3,234.3 3,064.1 Pharmaceutical Technologies and Services 382.5 330.2 736.6 630.9 Automation and Information Services 164.5 139.7 298.3 248.0 Corporate(1) (18.5) (17.3) (36.8) (31.1) ---------- ---------- ---------- ---------- Total operating revenue $ 12,706.3 $ 11,221.7 $ 24,122.9 $ 21,087.1 ========== ========== ========== ========== Bulk deliveries to customer warehouses and other: Pharmaceutical Distribution and Provider Services $ 1,336.9 $ 1,870.4 $ 2,967.7 $ 3,778.4 Pharmaceutical Technologies and Services(2) 47.8 -- 86.5 -- ---------- ---------- ---------- ---------- Total bulk deliveries to customer warehouses and other $ 1,384.7 $ 1,870.4 $ 3,054.2 $ 3,778.4 ========== ========== ========== ==========
OPERATING EARNINGS
For the For the Three Months Ended Six Months Ended December 31, December 31, ----------------- ------------------- (in millions) 2002 2001 2002 2001 - ------------- ------- ------- --------- ------- Operating earnings: Pharmaceutical Distribution and Provider Services $ 301.1 $ 256.2 $ 568.6 $ 478.0 Medical Products and Services 143.6 130.5 282.3 257.0 Pharmaceutical Technologies and Services 79.0 69.5 146.0 127.2 Automation and Information Services 69.3 55.1 115.5 84.9 Corporate(3) (2.1) (41.6) (54.0) (77.4) ------- ------- --------- ------- Total operating earnings $ 590.9 $ 469.7 $ 1,058.4 $ 869.7 ======= ======= ========= =======
- ----------------- (1) Corporate operating revenue primarily consists of foreign currency translation adjustments. (2) At the beginning of fiscal 2003, the Company began classifying out-of-pocket expenses received through its recently acquired sales and marketing services' business within the bulk deliveries to customer warehouses and other line item. The customer is contractually required to reimburse the Company for these expenses. The Company does not generate any margin from these reimbursements. (3) Corporate operating earnings include special items of $37.6 million and ($16.8) million in the three-month periods ended December 31, 2002 and 2001, respectively, and $18.9 million and ($29.1) million for the six-month periods ended December 31, 2002 and 2001, respectively, and unallocated corporate administrative expenses and investment spending. In addition, at the beginning of fiscal 2003, the Company began expanding the use of its shared service center, which previously supported the Medical Products and Services segment, to benefit and support company-wide initiatives and other business segments. Accordingly, the cost of the shared service center, which was previously reported within the Medical Products and Services segment, has been classified within Corporate operating earnings for fiscal 2003 to be consistent with internal segment reporting. The cost of these services for the three and six months ended December 31, 2002 were approximately $4.8 million and $9.6 million, respectively. These costs are included within corporate operating earnings, a portion of which are allocated to each segment. 6. LEGAL PROCEEDINGS Latex Litigation On September 30, 1996, Baxter International Inc. ("Baxter") and its subsidiaries transferred to Allegiance and its subsidiaries Baxter's U.S. healthcare distribution business, surgical and respiratory therapy business and healthcare cost-saving business as well as certain foreign operations (the "Allegiance Business") in connection with a spin-off of the Allegiance Business by Baxter (the "Baxter-Allegiance Spin-Off"). In connection with this spin-off, Allegiance, which merged with a subsidiary of the Company on February 3, 1999, agreed to indemnify Baxter, and Page 11 to defend and indemnify Baxter Healthcare Corporation ("BHC"), as contemplated by the agreements between Baxter and Allegiance, for all expenses and potential liabilities associated with claims arising from the Allegiance Business, including certain claims of alleged personal injuries as a result of exposure to natural rubber latex gloves. The Company is not a party to any of the lawsuits and has not agreed to pay any settlements to the plaintiffs. As of December 31, 2002, there were 314 lawsuits against BHC and/or Allegiance involving allegations of sensitization to natural rubber latex products and some of these cases were proceeding to trial. The total dollar amount of potential damages cannot be reasonably quantified. Some plaintiffs plead damages in extreme excess of what they reasonably can expect to recover, some plead a modest amount, and some do not include a request for any specific dollar amount. Not including cases that ask for no specific damages, the damage requests per action have ranged from $10,000 to $240 million. All of these cases name multiple defendants, in addition to Baxter/Allegiance. The average number of defendants per case exceeds twenty-five. Based on the significant differences in the range of damages sought and based on the multiple number of defendants in these lawsuits, Allegiance cannot reasonably quantify the total amount of possible/probable damages. Therefore, Allegiance and the Company do not believe that these numbers should be considered as an indication of either reasonably possible or probable liability. Since the inception of this litigation, Baxter/Allegiance have been named as a defendant in approximately 800 cases. As of December 31, 2002, fewer than half of those lawsuits remain pending. Nearly half of the lawsuits that have been resolved were concluded without any liability to Baxter/Allegiance. During the fiscal year ended June 30, 2002, Allegiance began settling some of these lawsuits with greater frequency. No individual claim has been settled for a material amount, nor have all the settled claims, in the aggregate, comprised a material amount. Due to the number of claims filed and the ongoing defense costs that will be incurred, Allegiance believes it is probable that it will incur substantial legal fees related to the resolution of the cases still pending. Although the Company continues to believe that it cannot reasonably estimate the potential cost to settle these lawsuits, the Company believes that the impact of such lawsuits upon Allegiance will be immaterial to the Company's financial position, liquidity and results of operations, and could be in the range of $0 to $20 million, net of insurance proceeds (with the top end of the range reflecting virtually no insurance coverage, which the Company believes is an unlikely scenario given the insurance coverage in place). The Company believes a substantial portion of any liability will be covered by insurance policies Allegiance has with financially viable insurance companies, subject to self-insurance retentions, exclusions, conditions, coverage gaps, policy limits and insurer solvency. The Company and Allegiance continue to believe that insurance recovery is probable. Shareholder Litigation against Cardinal Health On November 8, 2002, a complaint was filed by a purported shareholder against the Company and its directors in the Court of Common Pleas, Delaware County, Ohio, as a purported derivative action alleging breach of fiduciary duties and corporate waste in connection with the alleged failure by the Board of Directors of the Company to renegotiate or terminate the Company's proposed acquisition of Syncor International Corporation ("Syncor"). Doris Staehr v. Robert D. Walter, et al., No. 02-CVG-11-639. Among other matters, the complaint requested that the transaction with Syncor be enjoined and that damages be awarded against defendants in an unspecified amount. The Company believes the allegations made in the complaint are without merit and intends to vigorously defend this action. The Company currently does not believe that the impact of this lawsuit, if any, will have a material adverse effect on the Company's financial position, liquidity and results of operation. The Company currently believes that there will be some insurance coverage available under the Company's directors' and officers' liability insurance policies in effect at the time this action was filed. Shareholder Litigation against Syncor As of January 1, 2003, ten purported class action lawsuits had been filed against Syncor and certain of its officers and directors, asserting claims under the federal securities laws (collectively referred to as the "federal securities actions"). All of these actions were filed in the United States District Court for the Central District of California. These cases include Richard Bowe v. Syncor Int'l Corp., et al., No. CV 02-8560 LGB (RCx) (C.D. Cal.), Alan Kaplan v. Syncor Int'l Corp., et al., No. CV 02-8575 CBM (MANx) (C.D. Cal), Franklin Embon, Jr. v. Syncor Int'l Corp., et al., No. CV 02-8687 DDP (AJWx) (C.D. Cal), Jonathan Alk v. Syncor Int'l Corp., et al., No. CV 02-8841 GHK (RZx) (C.D. Cal), Joyce Oldham v. Syncor Int'l Corp., et al., CV 02-8972 FMC (RCx) (C.D. Cal), West Virginia Laborers Pension Trust Fund v. Syncor Int'l Corp., et al., No. CV 02-9076 NM (RNBx) (C.D. Cal), Brad Lookingbill v. Syncor Int'l Corp., et al., CV 02-9248 RSWL (Ex) (C.D. Cal), Them Luu v. Syncor Int'l Corp., et al., CV 02-9583 RGK (JwJx) (C.D. Cal), David Hall v. Syncor Int'l Corp., et al., CV 02-9621 CAS (CWx) (C.D. Cal), and Phyllis Walzer v. Syncor Int'l Corp., et al., CV 02-9640 RMT (AJWx) (C.D. Cal). The federal securities actions purport to be brought on behalf of all purchasers of Syncor shares during various periods, beginning as early as March 30, 2000, and ending as late as November 5, 2002 and allege, among other things, that the defendants violated Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 promulgated thereunder and Section 20(a) of the Exchange Act, by issuing a series of press releases and Page 12 public filings disclosing significant sales growth in Syncor's international business, but omitting mention of certain allegedly improper payments to Syncor's foreign customers, thereby artificially inflating the price of Syncor shares. On November 14, 2002, two additional actions were filed by individual stockholders of Syncor in the Court of Chancery of the State of Delaware (the "Delaware actions") against seven of Syncor's nine directors (the "director defendants"). The complaints in each of the Delaware actions were identical and alleged that the director defendants breached certain fiduciary duties to Syncor by failing to maintain adequate controls, practices and procedures to ensure that Syncor's employees and representatives did not engage in improper and unlawful conduct. Both complaints asserted a single derivative claim, for and on behalf of Syncor, seeking to recover all of the costs and expenses that Syncor incurred as a result of the allegedly improper payments (including the costs of the federal securities actions described above), and a single purported class action claim seeking to recover damages on behalf of all holders of Syncor shares in the amount of any losses sustained if consideration received in the merger by Syncor stockholders was reduced. On November 22, 2002, the plaintiff in one of the two Delaware actions filed an amended complaint adding as defendants the Company, its subsidiary Mudhen Merger Corp. and the remaining two Syncor directors, who are hereafter included in the term "director defendants." These cases include Alan Kaplan v. Monty Fu, et al., Case No. 20026-NC (Del. Ch.), and Richard Harman v. Monty Fu, et al., Case No. 20027-NC (Del. Ch). On November 18, 2002, two additional actions were filed by individual stockholders of Syncor in the Superior Court of California for the County of Los Angeles (the "California actions") against the director defendants. The complaints in the California actions allege that the director defendants breached certain fiduciary duties to Syncor by failing to maintain adequate controls, practices and procedures to ensure that Syncor's employees and representatives did not engage in improper and unlawful conduct. Both complaints asserted a single derivative claim, for and on behalf of Syncor, seeking to recover costs and expenses that Syncor incurred as a result of the allegedly improper payments. These cases include Joseph Famularo v. Monty Fu, et al, Case No. BC285478 (Cal. Sup. Ct., Los Angeles Cty.), and Mark Stroup v. Robert G. Funari, et al., Case No. BC285480 (Cal. Sup. Ct., Los Angeles Cty.). Each of the actions described under the heading "Shareholder Litigation against Syncor" is in its early stages and it is impossible to predict the outcome of these proceedings or their impact on Syncor or the Company. However, the Company currently does not believe that the impact of any of these actions will have a material adverse effect on the Company's financial position, liquidity and results of operation. The Company and Syncor believe the allegations made in each of the complaints described above are without merit and intend to vigorously contest such actions and have been informed that the individual director and officer defendants deny liability for the claims asserted in these actions, believe they have meritorious defenses and intend to vigorously contest such actions. Syncor currently believes that there will be some insurance coverage available under Syncor's directors' and officers' liability insurance policies in effect at the time these actions were filed. The Company also becomes involved from time-to-time in other litigation incidental to its business, including, without limitation, inclusion of certain of its subsidiaries as a potentially responsible party for environmental clean-up costs. Although the ultimate resolution of the litigation referenced herein cannot be forecast with certainty, the Company intends to vigorously defend itself and does not currently believe that the outcome of any pending litigation will have a material adverse effect on the Company's financial position, liquidity and results of operation. 7. CHANGE IN ACCOUNTING In the first quarter of fiscal 2002, the method of recognizing revenue for pharmacy automation equipment was changed from recognizing revenue when the units were delivered to the customer to recognizing revenue when the units are installed at the customer site. Management believes that the change in accounting will provide for a more objectively determinable method of revenue recognition. In addition, the Company has implemented other changes to better service its customers and leverage operational efficiencies. The Company recorded a cumulative effect of change in accounting of $70.1 million (net of tax of $44.6 million) in the consolidated statement of earnings during the first quarter of fiscal 2002. The after tax dilutive impact of the cumulative effect was $0.15 per diluted share. Page 13 8. GOODWILL AND OTHER INTANGIBLE ASSETS Changes in the carrying amount of goodwill for the six months ended December 31, 2002, were as follows:
Pharmaceutical Medical Distribution Products Pharmaceutical Automation and And Provider and Technologies and Information (in millions) Services Services Services Services Total - ------------- -------------- -------- --------------- -------------- --------- Balance at June 30, 2002 $ 159.8 $ 675.4 $ 639.4 $ 50.7 $1,525.3 Goodwill acquired, net of purchase price adjustments and other 5.1 5.4 11.0 -- 21.5 Goodwill write-off -- -- (7.6) -- (7.6) ------- ------- ------- ------ -------- Balance at December 31, 2002 $ 164.9 $ 680.8 $ 642.8 $ 50.7 $1,539.2 ======= ======= ======= ====== ========
During the second quarter of fiscal 2003, the Company made the decision to exit certain North American commodity operations within the Pharmaceutical Technologies and Services segment. As a result of this decision, the Company recorded a write-off of goodwill totaling $7.6 million. All intangible assets for the periods presented are subject to amortization and are being amortized using the straight-line method over periods that range from five to forty years. The detail of other intangible assets by class as of December 31, and June 30, 2002 was as follows:
Gross Accumulated Net (in millions) Intangible Amortization Intangible - ------------- ---------- ------------ ---------- June 30, 2002 Trademarks and patents $ 28.7 $ 20.0 $ 8.7 Non-compete agreements 21.3 20.0 1.3 Other 17.7 8.9 8.8 ------ ------ ------ Total $ 67.7 $ 48.9 $ 18.8 ------ ------ ------ December 31, 2002 Trademarks and patents $ 37.8 $ 20.0 $ 17.8 Non-compete agreements 26.8 21.3 5.5 Other 19.9 9.9 10.0 ------ ------ ------ Total $ 84.5 $ 51.2 $ 33.3 ------ ------ ------
There were no significant acquisitions of other intangible assets for the periods presented. Amortization expense for the three months ended December 31, 2002 and 2001 was $0.9 million and $0.3 million, respectively, and for the six months ended December 31, 2002 and 2001 was $1.7 million and $1.2 million, respectively. Amortization expense for each of the next five fiscal years is estimated to be:
2003 2004 2005 2006 2007 ------ ------ ------ ------ ------ Amortization expense $ 3.0 $ 2.4 $ 2.1 $ 1.9 $ 1.8
9. OFF-BALANCE SHEET TRANSACTIONS The Company formed Cardinal Health Lease Funding 2002A, LLC ("CHLF2002A") for the sole purpose of acquiring a pool of sales-type leases and the related leased equipment from Cardinal Health 301, Inc ("CH301"), formerly known as Pyxis, and selling lease receivables and granting a security interest in the related lease equipment to Cardinal Health Lease Funding 2002AQ, LLC ("CHLF2002AQ"). CHLF2002A is a wholly owned, special purpose, bankruptcy-remote subsidiary of CH301. CHLF2002AQ was formed for the sole purposes of acquiring lease receivables under sales-type leases from CHLF2002A and granting a beneficial interest in the lease receivables and a security interest in the related equipment to the leasing subsidiary of a third-party bank. CHLF2002AQ is a wholly owned, special purpose, bankruptcy-remote subsidiary of CHLF2002A. The transaction qualifies for sale treatment under SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities," and, accordingly, the related receivables are not included in the Company's consolidated financial statements. As required by U.S. generally accepted accounting principles, the Company consolidates CHLF2002A and does not consolidate CHLF2002AQ, as CHLF2002AQ is a qualified special purpose entity, as defined under SFAS No. 140. Both CHLF2002A and CHLF2002AQ are separate legal entities that maintain separate financial statements from Cardinal Health, Inc. and CH301. The assets of CHLF2002A and CHLF2002AQ are available first Page 14 and foremost to satisfy the claims of their respective creditors. During the six months ended December 31, 2002, CHLF2002A sold $200.0 million of lease receivables to CHLF2002AQ and recognized an immaterial gain that was classified as operating revenue within its results of operations. 10. GUARANTEES In November 2002, the FASB issued Interpretation No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" (see Note 1). This interpretation enhances a guarantor's disclosure requirements in its interim and annual financial statements regarding obligations under certain guarantees. The Company adopted the enhanced disclosure requirements in the current quarter. The initial recognition and measurement provisions of the interpretation are applicable on a prospective basis to guarantees issued or modified after December 31, 2002. The Company has contingent commitments related to certain operating lease agreements. These operating leases consist of certain real estate and equipment used in the operations of the Company. In the event of termination of these operating leases, which range in length from one to five years, the Company guarantees reimbursement for a portion of any unrecovered property cost. At December 31, 2002, the maximum amount the Company could be required to reimburse was $369.0 million. The Company believes that the proceeds from the sale of properties under these operating lease agreements would exceed its payment obligation. In the ordinary course of business, the Company, from time to time, agrees to indemnify certain other parties under agreements with the Company, including under acquisition agreements, customer agreements, and intellectual property licensing agreements. Such indemnification obligations vary in scope and, when defined, in duration. Generally, a maximum obligation is not explicitly stated and, therefore, the overall maximum amount of the liability under such indemnification obligations cannot be reasonably estimated. Where appropriate, such indemnification obligations are recorded as a liability. Historically, the Company has not, individually or in the aggregate, made payments under these indemnification obligations in any material amounts. In certain circumstances, the Company believes that its existing insurance arrangements, subject to the general deduction and exclusion provisions, would cover portions of the liability that may arise from these indemnification obligations. In addition, the Company believes that the likelihood of liability being triggered under these indemnification obligations is not significant. In the ordinary course of business, the Company, from time to time, enters into agreements that obligate the Company to make fixed payments upon the occurrence of certain events. Such obligations primarily relate to obligations arising under acquisition transactions, where the Company has agreed to make payments based upon the achievement of certain financial performance measures by the acquired company. Generally, the obligation is capped at an explicit amount. The Company's aggregate exposure for these obligations, assuming the achievement of all financial performance measures, is not material. Any potential payment for these obligations would be treated as an adjustment to the purchase price of the related entity and would have no impact on the Company's earnings. 11. SUBSEQUENT EVENTS On January 1, 2003, the Company completed the purchase of Syncor, a Woodland Hills, California-based company which is a leading provider of nuclear pharmacy services. The stock for stock transaction was valued at approximately $781 million, plus the assumption of $120 million in debt. Syncor's operations will be integrated into the Company's existing Nuclear Pharmacy Services business and reported within the Pharmaceutical Technologies and Services segment. On January 28, 2003, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. The shares repurchased under this program will be treasury shares available to be used for general corporate purposes. Page 15 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION Management's discussion and analysis is concerned with material changes in financial condition and results of operations for the Company's condensed consolidated balance sheets as of December 31, 2002 and June 30, 2002, and for the condensed consolidated statements of earnings for the three and six-month periods ended December 31, 2002 and 2001. This discussion and analysis should be read together with management's discussion and analysis included in the 2002 Form 10-K. Portions of management's discussion and analysis presented below include "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. The words "believe", "expect", "anticipate", "project", and similar expressions, among others, identify "forward-looking statements", which speak only as of the date the statement was made. Such forward-looking statements are subject to risks, uncertainties and other factors, which could cause actual results to materially differ from those made, projected or implied. The most significant of such risks, uncertainties and other factors are described in Exhibit 99.01 to this Form 10-Q and on page 8 of the 2002 Form 10-K and are incorporated herein by reference. The Company disclaims any obligation to update any forward-looking statement. GENERAL The Company operates within four operating business segments: Pharmaceutical Distribution and Provider Services, Medical Products and Services, Pharmaceutical Technologies and Services, and Automation and Information Services. See Note 5 of "Notes to Condensed Consolidated Financial Statements" for a description of these segments. RESULTS OF OPERATIONS Operating Revenue
Percent of Total Percent of Total Operating Revenues Operating Revenues ------------------ ------------------ Three Months Ended Six Months Ended December 31, December 31, ------------------ ------------------ Growth(1) 2002 2001 Growth(1) 2002 2001 --------- ------ ------ --------- ------ ------ Pharmaceutical Distribution and Provider Services 14% 83% 82% 16% 82% 81% Medical Products and Services 5% 13% 14% 6% 14% 15% Pharmaceutical Technologies and Services 16% 3% 3% 17% 3% 3% Automation and Information Services 18% 1% 1% 20% 1% 1% Total Company 13% 100% 100% 14% 100% 100%
- ------------------ (1) Growth is calculated as the increase/(decrease) in the operating revenue for the three and six months ended December 31, 2002 as a percentage of the operating revenue for the three and six months ended December 31, 2001, respectively. Total operating revenue for the three and six months ended December 31, 2002 increased 13% and 14% compared to the same periods of the prior year. This increase is a result of a higher sales volume across various customer segments; pharmaceutical price increases averaging approximately 5%; addition of new products; and the addition of new customers, some of which was a result of new corporate agreements with healthcare providers. In addition, acquisitions, particularly within the Pharmaceutical Technologies and Services segment, accounted for a portion of the overall growth. The Pharmaceutical Distribution and Provider Services segment's operating revenue growth during the three and six months ended December 31, 2002, resulted from strong sales to all customer segments. The most significant growth was in the alternate site and chain pharmacies customer segments, which yielded growth of approximately 21% and 17%, respectively, for the three months ended December 31, 2002 and 23% and 18%, respectively, for the six months ended December 31, 2002. In addition, pharmaceutical price increases, which averaged approximately 5%, contributed to the growth in this Page 16 segment. This growth was partially offset by the negative impact of brand to generic conversions, as well as a reduction in sales to Kmart when compared to the same periods a year ago. The Medical Products and Services segment's operating revenue growth during the three and six months ended December 31, 2002, resulted from an increase in sales of distributed and self-manufactured products. The addition of several new contracts with hospitals and health care networks, as well as improved penetration in the surgery center market increased demand for certain products within this segment, in particular, self-manufactured products such as surgeon gloves and proprietary custom surgical procedure kits, which helped contribute to this segment's growth. The Pharmaceutical Technologies and Services segment's operating revenue growth during the three and six months ended December 31, 2002, resulted from strong demand for proprietary branded and sterile manufacturing, development and analytical services, and sales and marketing services. Oral branded products that showed particular strength included Lilly's Zyprexa(R) , an anti-psychotic, and Abbott's Kaletra(R) , a protease inhibitor. Increased demand for sterile manufacturing included Warrick's generic albuterol (respiratory), Sepracor's Xopenex(R) (respiratory), and Pharmacia's Xalatan(R) (glaucoma). These gains were partially offset by slower sales of Claritin RediTabs(R) and in non-core businesses such as international health and nutritional products. The acquisition of Magellan and BLP during the fourth quarter of fiscal 2002 contributed 13% of the overall growth in this segment during the three and six months ended December 31, 2002, respectively. The Automation and Information Services segment's operating revenue growth during the three and six months ended December 31, 2002, resulted from strong sales in the patient safety and supply management product lines, such as MEDSTATION SN(R) and SUPPLYSTATION(R). Bulk Deliveries to Customer Warehouses and Other The Pharmaceutical Distribution and Provider Services segment reports bulk deliveries made to customers' warehouses as revenue. These sales involve the Company acting as an intermediary in the ordering and subsequent delivery of pharmaceutical products. Fluctuations in bulk deliveries result largely from circumstances that the Company cannot control, including consolidation within the customers' industries, decisions by customers to either begin or discontinue warehousing activities, and changes in policies by manufacturers related to selling directly to customers. Due to the lack of margin generated through bulk deliveries, fluctuations in their amount have no significant impact on the Company's earnings. The Pharmaceutical Technologies and Services segment records out-of-pocket reimbursements received through its sales and marketing services' business as revenue. These out-of-pocket expenses, which generally include travel expenses and other incidental costs, are incurred to fulfill the services required by the contract. Within these contracts, the customer agrees to reimburse the Company for the expenses. Due to the Company not generating any margin from these reimbursements, fluctuations in their amount have no impact on the Company's earnings. Gross Margin
Three Months Ended Six Months Ended December 31, December 31, -------------------- --------------------- (as a percentage of operating revenue) 2002 2001 2002 2001 - -------------------------------------- ------- ------- ------- ------- Pharmaceutical Distribution and Provider Services 4.52% 4.87% 4.71% 5.03% Medical Products and Services 21.57% 22.11% 21.25% 21.77% Pharmaceutical Technologies and Services 34.30% 33.97% 34.26% 33.90% Automation and Information Services 73.51% 67.93% 72.32% 67.49% Total Company 8.50% 8.92% 8.65% 9.08%
The overall gross margin as a percentage of operating revenue decreased during the three and six months ended December 31, 2002 compared to the same periods of the prior year. This decrease resulted primarily from a greater mix of relatively lower margin pharmaceutical distribution operating revenues in the first three and six months of fiscal 2003 (83% and 82% of operating revenues in the first three and six months ended December 30, 2002, respectively, as compared to 82% and 81%, respectively, of operating revenues for the same periods last fiscal year), as well as a greater mix of relatively lower margin distribution products within the Medical Products and Services segment. These decreases were partially offset by increases within the Pharmaceutical Technologies and Services and Automation and Information Services segments. The increase within the Pharmaceutical Technologies and Page 17 Services segment can be primarily attributed to the mix of business within that segment. The increase within the Automation and Information Services segment occurred primarily due to changes within the segment's product mix as well as productivity improvements. The Pharmaceutical Distribution and Provider Services segment's gross margin as a percentage of operating revenue decreased during the three and six months ended December 31, 2002. This decrease was primarily due to a greater mix of high volume customers where a lower cost of distribution and better asset management enabled the Company to offer lower selling margins to its customers. Operating revenue generated from sales to chain pharmacy and alternate site customers as a percentage of total operating revenue for this segment trended as follows:
Three Months Six Months Customer Class Ended December 31, Ended December 31, -------------- ------------------ ------------------ 2002 2001 2002 2001 ---- ---- ---- ---- Chain Pharmacy 49% 48% 48% 47% Alternate Site 21% 20% 20% 19%
The decrease in selling margins was partially offset by higher vendor margins from favorable price increases and manufacturer marketing programs, including inventory management agreements whereby the Company is compensated on a negotiated basis to help manufacturers better match their shipments with market demand. There can be no assurance that vendor programs that occurred in the first six months of fiscal 2003 will recur in the same form or at the same levels in the future. The Medical Products and Services segment's gross margin as a percentage of operating revenue decreased during the three and six months ended December 31, 2002. This decrease resulted primarily from the mix of business created from new distribution agreements in which lower margin distributed products have been sold at a faster rate initially as compared to the rate of sale of higher margin self-manufactured products. The decline was partially offset by the introduction of new self-manufactured products in the second quarter of fiscal 2003 (e.g. new synthetic surgeon gloves). The Pharmaceutical Technologies and Services segment's gross margin as a percentage of operating revenue increased during the three and six months ended December 31, 2002. This resulted primarily from a change within the business mix of products and services sold by the segment, which included an increase in the higher margin development and analytical services and sales and marketing services businesses, mainly from the acquisitions of Magellan and BLP. The gross margin comparison in this segment was negatively impacted by certain items that occurred in fiscal year 2002 that did not recur in fiscal year 2003, including the recording of pricing adjustments related to the minimum recovery expected to be received for claims against vitamin manufacturers for amounts overcharged in prior years (also, see Note 4 of "Notes to Condensed Consolidated Financial Statements"). These pricing adjustments were recorded as a reduction of cost of goods sold, consistent with the classification of the original overcharge, and were based on the minimum amounts estimated to be recoverable based on the facts and circumstances available at the time they were recorded. The amount recorded for these pricing adjustments was $12.0 million in the first quarter of fiscal 2002. The Automation and Information Services segment's gross margin as a percentage of operating revenue increased during the three and six months ended December 31, 2002. This increase resulted from increased sales within the relatively higher margin MEDSTATION SN(R) and newer version supply control products as well as productivity gains realized from the operational improvements implemented early last fiscal year. Selling, General & Administrative Expenses
Three Months Ended Six Months Ended December 31, December 31, --------------------- --------------------- (as a percentage of operating revenue) 2002 2001 2002 2001 - -------------------------------------- ------ ------ ------ ------ Pharmaceutical Distribution and Provider Services 1.67% 2.09% 1.85% 2.25% Medical Products and Services 12.81% 13.72% 12.52% 13.38% Pharmaceutical Technologies and Services 13.66% 12.92% 14.44% 13.73% Automation and Information Services 31.42% 28.50% 33.63% 33.27% Total Company 4.14% 4.58% 4.34% 4.82%
Selling, general and administrative expenses as a percentage of operating revenue decreased during the three and six months ended December 31, 2002 as compared to the same periods of fiscal 2002. The decrease in the Page 18 Pharmaceutical Distribution and Provider Services segment was primarily due to the synergies achieved following the Bindley merger. From an operational perspective, the distribution center integration is considered complete with the closure of two distribution centers during the second quarter of fiscal 2003. This segment is operating six fewer distribution centers than it had for the same period last fiscal year which resulted in an eight percent reduction in workforce versus the same period of the prior fiscal year. In addition, a portion of the decline in this segment is attributed to increased efficiency due to distribution automation and customer mix. The decline in the Medical Products and Services segment is primarily a result of efficiencies achieved from the restructuring activities within the segment, which were initiated in the fourth quarter of fiscal 2002. Ten manufacturing facilities have been consolidated and eight hundred positions have been eliminated since the same time period in the last fiscal year. Partially offsetting the improvements in fiscal 2003 was an increase in selling, general and administrative expenses as a percentage of operating revenue for the Pharmaceutical Technologies and Services segment. This increase was primarily a result of a change within the business mix of this segment, largely driven by the acquisition of Magellan and BLP during the fourth quarter of fiscal 2002. The increase in selling, general and administrative expenses as a percentage of operating revenue in the Automation and Information Services segment was driven largely by product mix, increased research and development spending, and the cost of increasing installation resources to meet future installation requirements for the Company's products. Special Items The following is a summary of the special items for the three and six months ended December 31, 2002 and 2001. Special Items
Three Months Ended Six Months Ended December 31, December 31, ----------------------- ---------------------- (in millions) 2002 2001 2002 2001 - ------------- -------- -------- -------- -------- Merger-Related Costs: Employee-related costs $ (11.8) $ (4.6) $ (15.0) $ (8.7) Pharmaceutical distribution center consolidation (4.7) (0.5) (9.8) (0.8) Other exit costs (1.5) (1.9) (2.0) (4.2) Other integration costs (4.0) (9.8) (6.6) (15.4) ------- ------- ------- ------- Total merger-related costs $ (22.0) $ (16.8) $ (33.4) $ (29.1) ------- ------- ------- ------- Other Special Items: Employee-related costs $ (1.4) $ -- $ (1.4) $ -- Manufacturing facility closures (11.0) -- (21.2) -- Litigation settlements 89.9 -- 92.8 -- Asset impairment and other (17.9) -- (17.9) -- ------- ------- ------- ------- Total other special items $ 59.6 $ -- $ 52.3 $ -- ------- ------- ------- ------- Total special items $ 37.6 $ (16.8) $ 18.9 $ (29.1) Tax effect of special items (15.5) 6.5 (12.4) 11.2 ------- ------- ------- ------- Net effect of special items $ 22.1 $ (10.3) $ 6.5 $ (17.9) ======= ======= ======= =======
MERGER-RELATED COSTS Costs of integrating the operations of various merged companies are recorded as merger-related costs when incurred. The merger-related costs recognized as of December 31, 2002, were primarily a result of the merger or acquisition transactions involving BLP, Magellan, Bindley, BBMC, Allegiance and Scherer. EMPLOYEE-RELATED COSTS. During the above-stated periods, the Company incurred employee-related costs associated with certain of its mergers and acquisitions. For the three months ended December 31, 2002, $8.8 million related to an approved plan to curtail certain defined benefit pension plans within the Pharmaceutical Technologies and Services segment. The remaining employee-related costs for the three and six months ended December 31, 2002, as well as the costs for the three and six months ended December 31, 2001, primarily related to amortization expense of noncompete agreements primarily associated with the Bindley and Allegiance merger transactions. PHARMACEUTICAL DISTRIBUTION CENTER CONSOLIDATION. In connection with the merger transaction with Bindley, the Company anticipated closing and consolidating a total of 16 Bindley distribution centers, Bindley's corporate office, and one of the Company's data centers. These closures were to result in the termination of approximately 1,250 Page 19 employees. As of December 31, 2002, all 16 Bindley distribution centers and the Company's data center have been closed, and the majority of the 1,250 employees have been terminated. The Company anticipates completing the corporate office consolidation by June 30, 2003. During the three and six months ended December 31, 2002, the Company recorded charges totaling $4.7 million and $9.8 million, respectively, associated with the consolidations and closures noted above, as compared to $0.5 million and $0.8 million, respectively, for the comparable periods in fiscal 2002. The Company incurred employee-related costs of $2.3 million and $3.2 million during the three and six months ended December 31, 2002, respectively, primarily from the termination of employees due to the distribution center closures, as compared to $1.4 million for the three and six months ended December 31, 2001. The remaining merger-related items recorded during these periods primarily relate to exit costs to consolidate and close the various facilities mentioned above, including asset impairment charges, inventory move costs, contract and lease termination costs, and duplicate salary costs incurred during the shutdown periods. During the three months ended December 31, 2001, the Company recorded a gain of $2.5 million related to the sale of a Bindley distribution center, partially offsetting the expenses incurred during this period. OTHER EXIT COSTS. Other exit costs related primarily to costs associated with lease terminations, moving expenses, and asset impairments as a direct result of the merger transactions with BBMC, Allegiance and Scherer. OTHER INTEGRATION COSTS. Other integration costs, which primarily relate to the merger and acquisition transactions noted above, included charges directly related to the integration of operations of the transactions noted, such as consulting costs related to information systems and employee benefit integration, as well as relocation and travel costs directly associated with the integrations. OTHER SPECIAL ITEMS EMPLOYEE-RELATED COSTS. During the three months ended December 31, 2002, the Company incurred $1.4 million of employee-related costs associated with the restructuring of certain operations within the Pharmaceutical Distribution and Provider Services segment. A significant portion of the charges recorded represent severance accrued upon communication of severance terms to employees during the second quarter of fiscal 2003. The restructuring of operations is expected to be complete by June 30, 2003, and will result in the termination of approximately 30 employees. MANUFACTURING FACILITY CLOSURES. During the three and six months ended December 31, 2002, the Company recorded a total of $11.0 million and $21.2 million, respectively, as special charges related to the closure and consolidation of certain manufacturing facilities. These closures and consolidations occurred within the Medical Products and Services segment and the Pharmaceutical Technologies and Services segment. Within the Medical Products and Services segment, three manufacturing facility closures were announced during the six months ended December 31, 2002 (one during the first quarter of fiscal 2003 and two during the second quarter of fiscal 2003). Two of the manufacturing facility closures were complete as of December 31, 2002. The other closure is expected to be complete by March 31, 2003. Asset impairment charges of $1.4 million and $8.9 million were incurred during the three and six months ended December 31, 2002, respectively. Also, exit costs of $1.3 million and $2.7 million, respectively, were incurred during those same periods, primarily related to dismantling and moving machinery and equipment. The remaining $3.3 million and $4.6 million, respectively, related to severance costs due to the termination of employees as a result of these closures. The Company expects to terminate a total of approximately 530 employees due to these closures. As of December 31, 2002, the majority of these employees were terminated. The Company incurred special charges during the three months ended December 31, 2002, related to two manufacturing facility closures within the Pharmaceutical Technologies and Services segment. One closure was complete as of December 31, 2002. The other is expected to be complete by June 30, 2003. Asset impairment charges of $1.1 million were incurred during the three months ended December 31, 2002. Also, exit costs of $1.6 million were incurred during this same period, primarily related to dismantling machinery and equipment and transferring certain technologies to other existing facilities within the Company. In addition, $1.6 million of severance costs were incurred as a result of these closures. The Company expects to terminate a total of approximately 75 employees due to these closures. As of December 31, 2002, the majority of these employees were terminated. LITIGATION SETTLEMENTS. During the three and six months ended December 31, 2002, the Company recorded income from litigation settlements of $89.9 million and $92.8 million, respectively. The settlements resulted from Page 20 the recovery of antitrust claims against certain vitamin manufacturers for amounts overcharged in prior years. The total recovery through December 31, 2002 was $128.1 million. The amount recorded in the current quarter of $89.9 million represents an estimate of the majority of the recovery expected to be received from the defendants in the case. While the Company still has pending claims with smaller vitamin manufacturers, the total amount of future recovery is not currently estimable but the Company believes it will not likely represent a material amount. Any future recoveries will be recorded as a special item in the period in which a settlement is reached. ASSET IMPAIRMENT AND OTHER. During the three months ended December 31, 2002, the Company incurred asset impairment and other charges of $17.9 million, of which $10.1 million related to asset impairment charges resulting from the Company's decision to exit certain North American commodity operations in its Pharmaceutical Technologies and Services segment. The remaining $7.8 million relates to a one-time writeoff of design, tooling and development costs. SUMMARY The net effect of special items recorded during the three months ended December 31, 2002, was to increase net earnings by $22.1 million to $367.5 million and to increase reported diluted earnings per Common Share by $0.05 per share to $0.82 per share. In comparison, the net effect of special items recorded during the three months ended December 31, 2001, was to reduce net earnings by $10.3 million to $283.3 million and to reduce reported diluted earnings per Common Share by $0.02 per share to $0.62 per share. The net effect of special items recorded during the six months ended December 31, 2002, was to increase earnings before cumulative effect of change in accounting by $6.5 million to $655.8 million and to increase reported diluted earnings per Common Share before cumulative effect of change in accounting by $0.01 per share to $1.45 per share. In comparison, the net effect of special items recorded during the six months ended December 31, 2001, was to reduce earnings before cumulative effect of change in accounting by $17.9 million to $529.7 million and to reduce reported diluted earnings per Common Share before cumulative effect of change in accounting by $0.04 per share to $1.15 per share. The Company estimates that in future periods it will incur additional merger-related costs, restructuring costs and integration expenses associated with the various mergers and acquisitions it has completed as of December 31, 2002 (primarily related to the Bindley merger and the acquisitions of Magellan and BLP) of approximately $80 million ($50 million, net of tax). These costs are expected to be incurred primarily in fiscal 2003 and 2004 and relate to the exit of contractual arrangements, employee-related costs, and costs to properly integrate operations and implement efficiencies. Such amounts will be charged to expense when incurred. PROVISION FOR INCOME TAXES The Company's provision for income taxes relative to pre-tax earnings was 34.3% for the second quarters of fiscal 2003 and 2002, respectively and 34.2% and 34.0%, respectively, for the six months ended December 31, 2002 and 2001. Fluctuations in the effective tax rate are primarily due to the impact of recording certain non-deductible special items during various periods as well as fluctuating state and foreign effective tax rates as a result of the Company's business mix. The provision for income taxes excluding the impact of special items was 33.8% and 34.4% for the quarters ended December 31, 2002 and 2001, respectively and 33.6% and 34.1%, respectively, for the six-month periods ended December 31, 2002 and 2001. LIQUIDITY AND CAPITAL RESOURCES Working capital increased to $5.3 billion at December 31, 2002 from $5.1 billion at June 30, 2002. This increase in working capital resulted primarily from increases in inventories and accounts receivable of $952.3 million and $316.4 million, respectively, partially offset by the decrease of cash and equivalents of $383.1 million and an increase in accounts payable of $590.0 million. The increase in inventories is attributed to the general build-up for seasonality within the pharmaceutical distribution business. The increase also reflects the higher level of business volume in the Pharmaceutical Distribution and Provider Services segment. The increase in accounts receivable is primarily due to the Company's revenue growth. The decrease in cash and equivalents is primarily attributed to the repurchase of Common Shares, resulting in a total cash outlay of $642.7 million, partially offset by the sale of $200.0 million in sales-type leases within the Automation and Information Services segment. The change in accounts payable is due primarily to the timing of inventory purchases and related payments. The increase in inventories noted above is less than in prior years due to the impact of branded to generic product conversions and an increase in inventory management agreements, both of which lower the Company's inventory investment, as well as synergies realized from the Bindley integration. The Company has also experienced liquidity improvements in its investment in trade receivables over the comparable period in prior years. Page 21 Net investment in sales type leases decreased $136.3 million at December 31, 2002, as compared to June 30, 2002. This decrease was primarily the result of the sale by Cardinal Health Lease Funding 2002A, LLC ("CHLF2002A") of a pool of sales-type leases to Cardinal Health Lease Funding 2002AQ, LLC at amounts approximating their fair value. CHLF2002A obtained proceeds of approximately $200.0 million related to the transaction (see Note 9 in the "Notes to Condensed Consolidated Financial Statements" for further discussion). Shareholders' equity increased by $139.2 million at December 31, 2002, as compared to June 30, 2002. Shareholders' equity increased primarily due to net earnings of $655.8 million and the investment of $77.0 million by employees of the Company through various employee stock benefit plans. This increase was partially offset by the repurchase of Common Shares of $642.7 million and dividends of $22.3 million. On August 7, 2002, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. As of December 31, 2002, 6.9 million Common Shares having an aggregate cost of approximately $451.0 million had been repurchased through this plan. This program was completed in January 2003. The repurchased shares will be treasury shares available to be used for general corporate purposes. In September 2001, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. This program was completed in August 2002. The Company repurchased approximately 3.2 million Common Shares having an aggregate cost of approximately $191.7 million during the quarter ended September 30, 2002. The cumulative amount repurchased under this program was approximately 8.3 million Common Shares, having an aggregate cost of approximately $500 million. The repurchased shares will be treasury shares available to be used for general corporate purposes. On January 28, 2003, the Company's Board of Directors authorized the repurchase of Common Shares up to an aggregate amount of $500 million. The shares repurchased under this program will be treasury shares available to be used for general corporate purposes. The Company believes that it has adequate capital resources at its disposal to fund currently anticipated capital expenditures, business growth and expansion, and current and projected debt service requirements, including those related to business combinations. OTHER For information relating to the Company's acquisition of Syncor, see Note 11 in the "Notes to Condensed Consolidated Financial Statements". Page 22 ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company believes there has been no material change in the quantitative and qualitative market risks from those discussed in the 2002 Form 10-K. ITEM 4: CONTROLS AND PROCEDURES Within 90 days prior to this filing, an evaluation was performed under the supervision and with the participation of the Company's management, including the CEO and CFO, of the effectiveness of the design and operation of the Company's disclosure controls and procedures. Based on that evaluation, the Company's management, including the CEO and CFO, concluded that the Company's disclosure controls and procedures were effective. To date, there have been no significant changes in the Company's internal controls or in other factors that could significantly affect internal controls. Management will continue to review the Company's disclosure controls and procedures on an ongoing basis, looking for opportunities to strengthen them where appropriate. PART II. OTHER INFORMATION ITEM 1: LEGAL PROCEEDINGS The discussion below includes an update of material developments that have occurred in various judicial proceedings, which are more fully described in Part I, Item 3, of the 2002 Form 10-K, and are incorporated herein by reference. The following disclosure should be read together with the disclosure set forth in the 2002 Form 10-K, the Form 10-Q for the fiscal quarter ended September 30, 2002, and to the extent any such statements constitute "forward looking statements", reference is made to Exhibit 99.01 of this Form 10-Q and page 8 of the 2002 Form 10-K. Latex Litigation On September 30, 1996, Baxter International Inc. ("Baxter") and its subsidiaries transferred to Allegiance and its subsidiaries Baxter's U.S. healthcare distribution business, surgical and respiratory therapy business and healthcare cost-saving business as well as certain foreign operations (the "Allegiance Business") in connection with a spin-off of the Allegiance Business by Baxter (the "Baxter-Allegiance Spin-Off"). In connection with this spin-off, Allegiance, which merged with a subsidiary of the Company on February 3, 1999, agreed to indemnify Baxter, and to defend and indemnify Baxter Healthcare Corporation ("BHC"), as contemplated by the agreements between Baxter and Allegiance, for all expenses and potential liabilities associated with claims arising from the Allegiance Business, including certain claims of alleged personal injuries as a result of exposure to natural rubber latex gloves. The Company is not a party to any of the lawsuits and has not agreed to pay any settlements to the plaintiffs. As of December 31, 2002, there were 314 lawsuits against BHC and/or Allegiance involving allegations of sensitization to natural rubber latex products and some of these cases were proceeding to trial. The total dollar amount of potential damages cannot be reasonably quantified. Some plaintiffs plead damages in extreme excess of what they reasonably can expect to recover, some plead a modest amount, and some do not include a request for any specific dollar amount. Not including cases that ask for no specific damages, the damage requests per action have ranged from $10,000 to $240 million. All of these cases name multiple defendants, in addition to Baxter/Allegiance. The average number of defendants per case exceeds twenty-five. Based on the significant differences in the range of damages sought and based on the multiple number of defendants in these lawsuits, Allegiance cannot reasonably quantify the total amount of possible/probable damages. Therefore, Allegiance and the Company do not believe that these numbers should be considered as an indication of either reasonably possible or probable liability. Since the inception of this litigation, Baxter/Allegiance have been named as a defendant in approximately 800 cases. As of December 31, 2002, fewer than half of those lawsuits remain pending. Nearly half of the lawsuits that have been resolved were concluded without any liability to Baxter/Allegiance. During the fiscal year ended June 30, 2002, Allegiance began settling some of these lawsuits with greater frequency. No individual claim has been settled for a material amount, nor have all the settled claims, in the aggregate, comprised a material amount. Due to the number of claims filed and the ongoing defense costs that will be incurred, Allegiance believes it is probable that it will incur substantial legal fees related to the resolution of the cases still pending. Although the Company continues to believe that it cannot reasonably estimate the potential cost to settle these lawsuits, the Company believes that the impact of such lawsuits upon Allegiance will be immaterial to the Company's financial position, liquidity and results Page 23 of operations, and could be in the range of $0 to $20 million, net of insurance proceeds (with the top end of the range reflecting virtually no insurance coverage, which the Company believes is an unlikely scenario given the insurance coverage in place). The Company believes a substantial portion of any liability will be covered by insurance policies Allegiance has with financially viable insurance companies, subject to self-insurance retentions, exclusions, conditions, coverage gaps, policy limits and insurer solvency. The Company and Allegiance continue to believe that insurance recovery is probable. Vitamins Litigation On May 17, 2000, Scherer, which was acquired by the Company in August 1998, filed a civil antitrust lawsuit in the United States District Court for the District of Illinois against certain of its raw material suppliers and other alleged co-conspirators alleging that the defendants unlawfully conspired to fix vitamin prices and allocate vitamin production volume and vitamin customers in violation of U.S. antitrust laws. The complaint seeks monetary damages and injunctive relief. After the lawsuit was filed, it was consolidated for pre-trial purposes with other similar cases. The case is scheduled for trial in the United States District Court for the District of Columbia (where it was transferred) in March 2003. As of December 31, 2002, Scherer has entered into settlement agreements with the majority of the defendants in consideration of payments of approximately $128.1 million, net of attorney fees and expenses withheld prior to the disbursement of the funds to Scherer. While the Company still has pending claims with smaller vitamin manufacturers and cannot predict the outcome of the claims against those defendants, the total amount of any future recovery will not likely represent a material amount. Shareholder Litigation against Cardinal Health On November 8, 2002, a complaint was filed by a purported shareholder against the Company and its directors in the Court of Common Pleas, Delaware County, Ohio, as a purported derivative action alleging breach of fiduciary duties and corporate waste in connection with the alleged failure by the Board of Directors of the Company to renegotiate or terminate the Company's proposed acquisition of Syncor. Doris Staehr v. Robert D. Walter, et al., No. 02-CVG-11-639. Among other matters, the complaint requested that the transaction with Syncor be enjoined and that damages be awarded against defendants in an unspecified amount. The Company believes the allegations made in the complaint are without merit and intends to vigorously defend this action. The Company currently does not believe that the impact of this lawsuit, if any, will have a material adverse effect on the Company's financial position, liquidity and results of operation. The Company currently believes that there will be some insurance coverage available under the Company's directors' and officers' liability insurance policies in effect at the time this action was filed. Shareholder Litigation against Syncor As of January 1, 2003, ten purported class action lawsuits had been filed against Syncor and certain of its officers and directors, asserting claims under the federal securities laws (collectively referred to as the "federal securities actions"). All of these actions were filed in the United States District Court for the Central District of California. These cases include Richard Bowe v. Syncor Int'l Corp., et al., No. CV 02-8560 LGB (RCx) (C.D. Cal.), Alan Kaplan v. Syncor Int'l Corp., et al., No. CV 02-8575 CBM (MANx) (C.D. Cal), Franklin Embon, Jr. v. Syncor Int'l Corp., et al., No. CV 02-8687 DDP (AJWx) (C.D. Cal), Jonathan Alk v. Syncor Int'l Corp., et al., No. CV 02-8841 GHK (RZx) (C.D. Cal), Joyce Oldham v. Syncor Int'l Corp., et al., CV 02-8972 FMC (RCx) (C.D. Cal), West Virginia Laborers Pension Trust Fund v. Syncor Int'l Corp., et al., No. CV 02-9076 NM (RNBx) (C.D. Cal), Brad Lookingbill v. Syncor Int'l Corp., et al., CV 02-9248 RSWL (Ex) (C.D. Cal), Them Luu v. Syncor Int'l Corp., et al., CV 02-9583 RGK (JwJx) (C.D. Cal), David Hall v. Syncor Int'l Corp., et al., CV 02-9621 CAS (CWx) (C.D. Cal), and Phyllis Walzer v. Syncor Int'l Corp., et al., CV 02-9640 RMT (AJWx) (C.D. Cal). The federal securities actions purport to be brought on behalf of all purchasers of Syncor shares during various periods, beginning as early as March 30, 2000, and ending as late as November 5, 2002 and allege, among other things, that the defendants violated Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 promulgated thereunder and Section 20(a) of the Exchange Act, by issuing a series of press releases and public filings disclosing significant sales growth in Syncor's international business, but omitting mention of certain allegedly improper payments to Syncor's foreign customers, thereby artificially inflating the price of Syncor shares. On November 14, 2002, two additional actions were filed by individual stockholders of Syncor in the Court of Chancery of the State of Delaware (the "Delaware actions") against seven of Syncor's nine directors (the "director defendants"). The complaints in each of the Delaware actions were identical and alleged that the director defendants breached certain fiduciary duties to Syncor by failing to maintain adequate controls, practices and procedures to ensure that Syncor's employees and representatives did not engage in improper and unlawful conduct. Both complaints asserted a single derivative claim, for and on behalf of Syncor, seeking to recover all of the costs and Page 24 expenses that Syncor incurred as a result of the allegedly improper payments (including the costs of the federal securities actions described above), and a single purported class action claim seeking to recover damages on behalf of all holders of Syncor shares in the amount of any losses sustained if consideration received in the merger by Syncor stockholders was reduced. On November 22, 2002, the plaintiff in one of the two Delaware actions filed an amended complaint adding as defendants the Company, its subsidiary Mudhen Merger Corp. and the remaining two Syncor directors, who are hereafter included in the term "director defendants." These cases include Alan Kaplan v. Monty Fu, et al., Case No. 20026-NC (Del. Ch.), and Richard Harman v. Monty Fu, et al., Case No. 20027-NC (Del. Ch). On November 18, 2002, two additional actions were filed by individual stockholders of Syncor in the Superior Court of California for the County of Los Angeles (the "California actions") against the director defendants. The complaints in the California actions allege that the director defendants breached certain fiduciary duties to Syncor by failing to maintain adequate controls, practices and procedures to ensure that Syncor's employees and representatives did not engage in improper and unlawful conduct. Both complaints asserted a single derivative claim, for and on behalf of Syncor, seeking to recover costs and expenses that Syncor incurred as a result of the allegedly improper payments. These cases include Joseph Famularo v. Monty Fu, et al, Case No. BC285478 (Cal. Sup. Ct., Los Angeles Cty.), and Mark Stroup v. Robert G. Funari, et al., Case No. BC285480 (Cal. Sup. Ct., Los Angeles Cty.). Each of the actions described under the heading "Shareholder Litigation against Syncor" is in its early stages and it is impossible to predict the outcome of these proceedings or their impact on Syncor or the Company. However, the Company currently does not believe that the impact of any of these actions will have a material adverse effect on the Company's financial position, liquidity and results of operation. The Company and Syncor believe the allegations made in each of the complaints described above are without merit and intend to vigorously contest such actions and have been informed that the individual director and officer defendants deny liability for the claims asserted in these actions, believe they have meritorious defenses and intend to vigorously contest such actions. Syncor currently believes that there will be some insurance coverage available under Syncor's directors' and officers' liability insurance policies in effect at the time these actions were filed. The Company also becomes involved from time-to-time in other litigation incidental to its business, including, without limitation, inclusion of certain of its subsidiaries as a potentially responsible party for environmental clean-up costs. Although the ultimate resolution of the litigation referenced herein cannot be forecast with certainty, the Company intends to vigorously defend itself and does not currently believe that the outcome of any pending litigation will have a material adverse effect on the Company's financial position, liquidity and results of operation. ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. (a) Registrant's 2002 Annual Meeting of Shareholders was held on November 6, 2002. (b) Proxies were solicited by Registrant's management pursuant to Regulation 14A under the Securities Exchange Act of 1934; there was no solicitation in opposition to management's nominees as listed in the proxy statement; and all director nominees were elected to the class indicated in the proxy statement pursuant to the vote of the Registrant's shareholders. (c) Matters voted upon at the Annual Meeting were as follows: Election of J. Michael Losh, John B. McCoy, Michael D. O'Halleran, Jean G. Spaulding, and Matthew D. Walter. The results of the shareholder vote were as follows: Mr. Losh - 395,031,260 for, 0 against, 4,021,825 withheld, and 0 broker non-votes; Mr. McCoy - 394,806,991 for, 0 against, 4,246,094 withheld, and 0 broker non-votes; Mr. O'Halleran - 390,916,236 for, 0 against, 8,136,849 withheld, and 0 broker non-votes; Ms. Spaulding - 395,045,816 for, 0 against, 4,007,269 withheld, and 0 broker non-votes; and Mr. M. Walter - 369,725,637 for, 0 against, 29,327,448 withheld, and 0 broker non-votes. Page 25 ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K: (a) Listing of Exhibits: Exhibit Number Exhibit Description - ------- ------------------- 10.01 Second Amendment to Pharmaceutical Services Agreement ("Second Amendment") between Kmart Corporation ("Kmart") and Cardinal Distribution effective as of November 1, 2002 (1) 10.02 Employment Agreement, dated January 8, 2003, between the Registrant and Gordon A. Troup* 10.03 Employment Agreement, dated February 5, 2003, between the Registrant and Stephen S. Thomas* 99.01 Statement Regarding Forward-Looking Information (2) - ---------------- (1) Confidential treatment has been requested for portions of this document, and the confidential information has been filed separately with the Commission. (2) Included as an exhibit to the Registrant's Annual Report on Form 10-K filed September 30, 2002 (File No. 1-11373) and incorporated herein by reference. * Management contract or compensation plan or arrangement (b) Reports on Form 8-K: On October 22, 2002, the Company filed a Current Report on Form 8-K under Item 5 which filed as an exhibit the press release announcing the Company's results for the quarter ended September 30, 2002. On November 6, 2002, the Company filed a Current Report on Form 8-K under Item 5, which filed as exhibits the press release announcing that the Company's Board of Directors declared a regular quarterly dividend of $0.025 per Common Share, without par value, payable on January 15, 2003 to shareholders of record on January 1, 2003, and the press release of the Company relating to the proposed acquisition of Syncor. On December 13, 2002, the Company filed a Current Report on Form 8-K under Item 5, which filed as exhibits the press release announcing that the Company had expanded its relationship with Express Scripts, Inc. Page 26 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CARDINAL HEALTH, INC. Dated: February 14, 2003 /s/ Robert D. Walter --------------------------------------- Robert D. Walter Chairman and Chief Executive Officer /s/ Richard J. Miller --------------------------------------- Richard J. Miller Executive Vice President and Chief Financial Officer Page 27 CERTIFICATIONS I, Robert D. Walter, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Cardinal Health, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Dated: February 14, 2003 /s/ Robert D. Walter ------------------------------------ Robert D. Walter Chairman and Chief Executive Officer Page 28 I, Richard J. Miller, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Cardinal Health, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Dated: February 14, 2003 /s/ Richard J. Miller ----------------------------------- Richard J. Miller Executive Vice President, and Chief Financial Officer Page 29 EX-10.01 3 l98799aexv10w01.txt EX-10.01 PHARMACEUTICAL SERVICES AGRMT. AMENDED Exhibit 10.01 [***] indicates the omission of confidential portions for which confidential treatment has been requested. Such confidential information has been filed separately with the Commission. SECOND AMENDMENT TO PHARMACEUTICAL SERVICES AGREEMENT This Second Amendment to Pharmaceutical Services Agreement ("Second Amendment") is between Kmart Corporation ("Kmart") and Cardinal Health* (consisting of those corporate entities defined as such on the signature page) (collectively, "Cardinal"). Background Information A. Kmart and Cardinal are parties to a Pharmaceutical Services Agreement dated as of August 1, 1996 (the "Pharmaceutical Services Agreement"). The Original Agreement was amended by an Addendum No. 1 to Pharmaceutical Services Agreement dated as of April 30, 1999 (the "Addendum No. 1"). The Pharmaceutical Services Agreement and the Addendum No. 1 are collectively referred to as the "Original Agreement". B. Kmart and Cardinal each desire to amend the Original Agreement as described in this Second Amendment (this Second Amendment together with the Original Agreement, the "Agreement"). Statement of Agreement Cardinal and Kmart (the "Parties") each acknowledge the accuracy of the Background Information and hereby agree as follows: 1. Service Level. (a) The second paragraph of section 1 is deleted in its entirety and replaced with the following: Cardinal will exercise all commercially reasonable efforts to provide Kmart with an aggregate adjusted service level ("Service Level") on all Rx Products as further described in the Section 1 Disclosure Schedule. Cardinal will provide Kmart with a Service Level report following the end of each month by Cardinal distribution center (each report to provide a statement of Service Level on a Store-by-Store basis) and upon Kmart's reasonable request, Cardinal will provide up to 12 company-wide Service Level reports per Contract Year. Throughout this Second Amendment, the term "Contract Year" means each consecutive twelve (12) month period beginning on the first day of the calendar month following the Effective Date, and the term "Contract Quarter" means each consecutive three (3) month period beginning on the first day of the calendar month following the Effective Date. (b) The Section 1 Disclosure Schedule is deleted in its entirety and replaced by the Section 1 Disclosure Schedule attached to this Second Amendment. 2. Inventory Turns and Inventory Management System. Section 5(b) (as modified by the Addendum No. 1) is deleted in its entirety and replaced with the following new Section 5(b): (i) Inventory Turns Schedule. Each month, Cardinal will compile an inventory turns schedule that records the activities that affect the value of the Consigned Inventory, such as Rx Product delivered to Kmart, payments made by Kmart, a calculation of the number of inventory turns (as further described in subsection (ii) below), Shrink (as described in section 11), dispensed Rx Product, overstock returns, outdate returns, and any other relevant information (the "Inventory Turns Schedule"). An example of the Inventory Turns Schedule is attached as the Section 5 Disclosure Schedule. Each [***], the Parties agree to reconcile the inventory balances maintained by each Party in their financial records in the aggregate to the Inventory Turns Schedule. All adjustments (other than Shrink) that result from such reconciliation will be paid to the applicable Party within [***] following the end of each [***]. (ii) Inventory Turns. The Parties acknowledge and agree that the purchase price for Consigned Inventory sold to Kmart is based on Kmart achieving a certain number of inventory turns each Contract Quarter (expressed as an annualized figure) (the "Inventory Turns Target"). In the event that Kmart achieves inventory turns of at least [***], Cardinal's sole remedy is the [***] defined below. The Inventory Turns Target will increase from [***] in accordance with the following schedule:
------------------------------------------------------------- CONTRACT QUARTER INVENTORY TURNS TARGET ------------------------------------------------------------- First Contract Quarter [***] ------------------------------------------------------------- Second Contract Quarter [***] ------------------------------------------------------------- Third Contract Quarter [***] ------------------------------------------------------------- Fourth Contract Quarter [***] ------------------------------------------------------------- Each Contract Quarter thereafter [***] -------------------------------------------------------------
Kmart may elect to implement a central inventory management program (the "Inventory Management System") to manage the ordering process for the Consigned Inventory for the Stores. On and after the Effective Date, if Kmart elects to implement the Inventory Management System, each Party will bear its own costs to implement and use the Inventory Management System. If Kmart elects to implement Cardinal's central inventory management system to interface with Kmart's existing PDX inventory capabilities, Cardinal will bear the initial cost of implementation (including only the software license fee and PDX's consulting services to implement the software, but excluding training) up to $[***]. This payment, if made, is a "discount or other reduction in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose such payment and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. Kmart will use its best efforts to minimize all such costs to Cardinal, including but not limited to, negotiating a software license fee and consulting fees reasonably acceptable to Cardinal. If Kmart elects to implement the Inventory Management System, Cardinal and Kmart will work together to develop a procedures manual for operating the Inventory Management System. Cardinal will calculate the number of inventory turns each Contract Quarter, on an annualized basis, in accordance with generally accepted accounting principles and as illustrated in the Inventory Turns Schedule attached as the Section 5 Disclosure Schedule. If for any Contract Quarter the actual inventory turns achieved is less than the 2 Inventory Turns Target, on an annualized basis, [***] (the "[***]"), as further described below. In the event that the actual inventory turns achieved for any Contract Quarter [***][***], on an annualized basis, [***], as further described below. The [***] will be calculated as follows: [***]. (iii) Pricing Updates; Payment Data. Cardinal will provide at its sole cost and expense, item catalog and pricing information to Kmart in the same or substantially the same electronic data interchange format as provided as of the Effective Date. This item catalog will serve as the source for product cost information used to determine the payment amounts due to Cardinal. Kmart will make available to Cardinal information necessary to reconcile dispensing activity with the payment made to Cardinal. This information will be made available at [***] sole cost and expense, in the same or substantially the same electronic data interchange format as provided as of the Effective Date. 3. Purchase Price. (a) Section 7 is deleted in its entirety and replaced with the following: The purchase price for Merchandise purchased under this Agreement will be Cardinal's Cost [***] shown in the Cost of Goods described in the section 7 Disclosure Schedule (the "Cost of Goods"). The term "Cardinal's Cost" for Rx Products means the manufacturer's published wholesale acquisition cost ("WAC") on the date the prescription is sold by the Stores. For purposes of this Agreement, a prescription is sold on the date the prescription is [***]. The term "Cardinal's Cost" for Non Rx Products means WAC on the date the Non Rx Products are invoiced by Cardinal. The Cost of Goods for selected Merchandise, including but not limited to, Merchandise [***],[***] will be [***]. Merchandise described in this paragraph is sometimes referred to as "Specially Priced Merchandise". Cardinal will recognize and administer manufacturer contracts between Kmart and any branded manufacturer (collectively, "Manufacturer Contracts") subject to their continued validity in accordance with applicable laws and subject to such credit considerations concerning the applicable manufacturers as Cardinal may reasonably consider appropriate; however, if manufacturers' chargebacks for contract items submitted by Cardinal are disallowed, uncollectable, or irreconcilable, then the applicable charge will be billed back to Kmart and paid by Kmart within [***] of notice of the applicable charge. Cardinal reserves the right, at any time, to decline to sell or carry any manufacturer's merchandise, based upon credit considerations deemed relevant to Cardinal, commensurate with Cardinal's customary business practices applicable to all manufacturers. Kmart will notify Cardinal of all Manufacturer Contracts effective as of the Effective Date, all new Manufacturer Contracts entered into after the Effective Date, and all renewals, replacements or terminations of Manufacturer Contracts. The terms of each such Manufacturer Contract (including modifications, renewals, and replacements) will become effective no later than three (3) business days following Cardinal's receipt of verification from the applicable manufacturer of the new terms. Failure to comply with these notice requirements will entitle Cardinal to discontinue the service level 3 provisions herein until thirty (30) days after delivery of accurate usage data for the new items. (b) The Section 7 Disclosure Schedule (as modified by Addendum No. 1) is deleted in its entirety and replaced by the Section 7 Disclosure Schedule attached to this Second Amendment. 4. Payment Terms. Section 8 (as modified by Addendum No. 1) is deleted in its entirety and replaced by the following: (a) For Non Rx Products. Cardinal will produce and transmit to Kmart on a [***] basis a consolidated statement with invoice level detail on tape for all Store purchases invoiced by Cardinal during the preceding [***] days. For purchases invoiced Thursday through [***], Cardinal will issue its statement on the following [***] and payment of such statement must be received by Cardinal no later than noon (Dublin, Ohio time) on the [***] following such [***] (such [***], the "Non Consigned Merchandise Prompt Payment Date") in good funds transferred via ACH or federal funds wire transfer to such bank account as Cardinal may from time to time designate in writing to Kmart or other payment method agreed to by the Parties. Should such [***] be a bank holiday, payment must be so received by noon (Dublin, Ohio time) on the following [***]. (For example, for purchases [***],[***] through [***],[***], the statement would be issued [***],[***], and payment must be received via ACH or federal funds wire transfer or other payment method agreed to by the Parties no later than noon (Dublin, Ohio time) on [***],[***]. If [***],[***] is a bank holiday, the payment must be received via ACH or federal funds wire transfer or other payment method agreed to by the Parties no later than noon (Dublin, Ohio time) on [***],[***]). (b) For Consigned Inventory. Payment by Kmart for Rx Products will be made in good and usable funds on the [***] following the day on which the prescription is sold by the Stores, based on the dispensing data (PDX) received at Kmart's Headquarters from the Stores (such [***] day, the "Consigned Merchandise Prompt Payment Date", and, together with the Non Consigned Merchandise Prompt Payment Date, the "Prompt Payment Date"). In consideration for the change in Consigned Merchandise Prompt Payment Date contained in the Addendum No. 1, Kmart paid Cardinal an additional [***]. Both Parties acknowledge that Cardinal currently holds $[***] which Cardinal will return to Kmart promptly upon termination of this Agreement after all amounts outstanding have been paid to Cardinal in full. The sale of Consigned Inventory will be based on the dispensing data received at Kmart's Headquarters from the Stores. Kmart will not take any deductions from amounts due Cardinal, unless authorized by Cardinal. Without limiting Cardinal's rights under law or in equity, from and after the Effective Date, Cardinal and its affiliates, parent or related entities, collectively or individually, may exercise a right of set-off or recoupment against any and all amounts due Kmart from and after the Effective Date. For purposes of this section 8, Cardinal, its affiliates, parent or related entities will be deemed to be a single creditor. (c) Method of Payment; Financial Information. All payments for Merchandise will be made by Kmart via ACH or federal funds wire transfer or other method agreed to by the Parties so as to provide Cardinal with good and usable funds on or before the applicable 4 due date. Cardinal retains the right to refuse orders and suspend deliveries of all or any part of the orders placed under this Agreement if Kmart fails to make any payment to Cardinal in accordance with the provisions of this Agreement. The parties acknowledge that Cardinal is not required to provide Kmart with notice or a right to cure pursuant to section 20 prior to exercising the foregoing rights. Kmart will provide Cardinal with financial information as reasonably requested by Cardinal, including but not limited to [***]. 5. Repackaged Drug Products. (a) Section 9 is deleted in its entirety and replaced with the following: During the term of this Agreement, Cardinal will make available to Kmart its full line of Repackaged Drug Products, and Kmart will obtain from Cardinal (pursuant to the consignment provisions contained herein and in the Purchase and Consignment Agreement) all Repackaged Drug Products for the Stores as mutually selected by Kmart and Cardinal. Kmart will participate in Cardinal's automatic substitution program. Cardinal will pay a rebate on [***] as specified in the section 9 Disclosure Schedule. (b) The Section 9 Disclosure Schedule is deleted in its entirety and replaced with the Section 9 Disclosure Schedule attached to this Second Amendment. 6. Consigned Inventory Shrink and Inflation. Section 11 (as modified by the Addendum No. 1) is deleted in its entirety and replaced with the following: (a) Consigned Inventory Shrink. Damage or loss of Consigned Inventory by casualty or shrinkage due to theft or other unexplained loss (collectively, "Shrink") will be calculated as follows: Kmart will conduct a physical inventory of each Store [***], including the will-call bin, and upon closure of any Store. Within [***] days following the Effective Date, Kmart and Cardinal will develop mutually acceptable written procedures for managing Kmart's will-call bin inventories. Kmart has developed, and will continue to follow, a schedule for each month that identifies certain Stores that will be subject to a physical inventory during such month, so that each Store has conducted [***] physical inventory each [***]. Kmart acknowledges that it has customarily conducted annual physical inventories at approximately [***]% of its Stores, and Kmart will continue during the Term of this Agreement to conduct [***] physical inventories at its Stores in a manner and according to a schedule consistent with its historical practice (the "Inventory Practice"). If Kmart does fails to comply with its Inventory Practice during any [***], then (i) Cardinal may conduct inventories consistent with the Inventory Practice, and Kmart will provide Cardinal with access to the Stores that have not been inventoried during the immediately preceding [***] for purposes of conducting such inventories, and (ii) [***] will [***] for [***] to conduct such inventories, and (iii) [***] will [***] for each [***] during the [***] in which Kmart did not conform to its Inventory Practice (which equals the estimated Shrink for [***] for [***] in which Kmart fails to meet the Inventory Practice) within [***] of Cardinal's request therefor, and such [***] will be included in the applicable [***] reconciliation, described below. Within [***] of the end of each [***], Kmart will provide the results of such physical inventories to Cardinal. Kmart will use the results in its [***] reconciliation of the ending Consigned Inventory for the Stores that conducted their [***] inventory, as further described in this section. If Consigned Inventory is damaged or lost due to 5 Shrink, then Kmart will treat such product as having been sold or dispensed and the Parties will include the amount due to Cardinal for such product in calculating any net underpayment or overpayment. If reconciliation reflects a shortage or overage in the Consigned Inventory (by comparing the result of the physical inventory to Kmart's adjusted book value of the Consigned Inventory), then such amount will be calculated and carried over to [***]. In addition to the foregoing, Kmart will pay Cardinal for any other differences in the aggregate between the Inventory Turns Schedule and Kmart's financial records. Any net overpayments or underpayments determined to be owed based upon such reconciliations (which is intended to include the Shrink resulting from the annual physical inventories of Stores taken during the then-current quarter) will be paid by/to the applicable Party within [***] following the [***]. (b) Inflation. [***] is entitled to [***] all price inflation on the Consigned Inventory. The value of inflation on the Consigned Inventory will be the amount shown on each Inventory Turns Schedule. The inflation calculation methodology used prior to implementation of the Inventory Management System will continue to be used in each Store unless and until such Store implements the Inventory Management System. If a Store implements the Inventory Management System, inflation will be calculated for such Store based upon [***] for such Store by multiplying any change in price of any Rx Product by [***]. The foregoing methodology for calculating inflation will become effective for each Store on the first day of the month following the implementation of the Inventory Management System. The amount of the calculated daily changes for each month will be [***] for that month and [***]. Cardinal will calculate and forward the results of the calculation to Kmart by Store. 7. Generic Alliance. The Section 14 Disclosure Schedule is deleted in its entirety and replaced by the Section 14 Disclosure Schedule attached to this Second Amendment. 8. Returns of Merchantable and Unmerchantable Rx Products and Non Rx Products. (a) The third paragraph of section 16(b) is deleted in its entirety and replaced with the following: All Rx Products (whether Unmerchantable or Merchantable) delivered to the Designated Processor will be treated as having been sold or dispensed by Kmart. The aggregate purchase price for all Rx Products processed through the Designated Processor will be calculated by [***] processed by the Designated Processor (the [***]), subject to verification by both Parties. Each Party will adjust book inventory to reflect the [***] as soon as it is verified by both Parties. [***]. Kmart will pay Cardinal an amount equal [***], in good and usable funds on or before the [***] of each [***]. On a monthly basis, the parties will reconcile the aggregate credit received from manufacturers against the [***]. Each [***], the Parties will settle the cumulative reconciliation as of [***], as follows: on the [***] day following each [***], the Party owing the other Party as a result of the cumulative [***] reconciliations as of [***] will pay the non-owing Party. Such reconciliation will include all applicable credit memoranda and other credits received, as well as all other deductions taken by Cardinal on behalf of Kmart or reversed by the manufacturers. A final reconciliation of the aggregate credit received from manufacturers against the [***] will be performed and completed within [***] days 6 of the termination date of this Agreement. The Party owing the other Party as a result of the final reconciliation will pay the non-owing Party within [***] days following completion of such final reconciliation. Credit (evidenced by credit memoranda or otherwise) for manufacturers who are in bankruptcy will not be credited for purposes of calculating the [***]. Cardinal will use all reasonable efforts to work with any manufacturer in bankruptcy to recognize value on behalf of Kmart from such manufacturer for returned Rx Product. (b) Section 16(c) (as modified by the Addendum No. 1) is deleted in its entirety and replaced with the following: Kmart has notified Cardinal of Kmart's choice of Designated Processor, and will notify Cardinal of any change to Kmart's named Designated Processor. Kmart will forward all Unmerchantable Non Rx Products and Unmerchantable Rx Products (collectively, "Unmerchantable Products") directly to the Designated Processor and not to Cardinal, at Kmart's expense. Cardinal will return to Kmart any Unmerchantable Products forwarded to Cardinal from Kmart. (c) The Section 16 Disclosure Schedule is modified as provided in the Section 16 Disclosure Schedule attached to this Second Amendment. 9. Term. (a) The first paragraph of Section 20 (as modified by the Addendum No. 1) is deleted in its entirety and replaced with the following: The term of the Agreement will extend for fifty-four (54) months (the "Term") with the option to extend the term for successive additional periods of [***] upon the mutual written consent of the Parties. Promptly following the termination of this Agreement, Kmart will return to Cardinal all order entry devices, and other hardware, software or equipment provided by Cardinal and not purchased and paid for by Kmart. Either Party may effect an early termination of this Agreement for cause by giving written notice to the other Party of the occurrence of a material breach of this Agreement (which notice shall specify the nature of such breach) and the failure of the other Party to cure or commence in good faith the cure of such breach within [***] days of receipt of such notice (the "Cure Period"); provided, however, in the event Cardinal is in breach and fails to cure such breach by the [***] day of the Cure Period, Kmart shall provide a provisional notice of termination for cause to Cardinal whereby Kmart may terminate this Agreement [***] days after the date of the provisional notice unless Cardinal cures its material breach by the expiration of the Cure Period, in which case the provisional notice will be null and void. In addition, Kmart may elect to terminate this Agreement immediately if Cardinal (1) becomes insolvent or is unable to pay its debts as they become due or admits in writing its inability to pay its debts as they become due, (2) makes a general assignment for the benefit of its creditors, (3) institutes or has instituted against it a proceeding seeking a judgment of insolvency or bankruptcy or seeking any other relief under any bankruptcy or insolvency law, (4) liquidates its assets or winds-up its business (5) has a secured party or lien creditor take possession of all or a material portion of its assets, or (6) suffers a material adverse change in its financial condition. Cardinal may elect to terminate this Agreement immediately if in connection with the Kmart Chapter 11 case (the "Chapter 11 Case") which is pending in the United States 7 Bankruptcy Court for the Northern District of Illinois, Eastern Division (the "Bankruptcy Court"); (i) a chapter 11 trustee is appointed; (ii) the Chapter 11 Case is dismissed or converted to a case under chapter 7 of the Bankruptcy Code; (iii) the Bankruptcy Court determines that Kmart's bankruptcy estate is administratively insolvent; (iv) a chapter 11 liquidating plan is confirmed by the Bankruptcy Court; or (v) upon issuance of a notice of acceleration resulting from an Event of Default (as defined in the DIP Credit Agreement, defined below) under the Revolving Credit and Guaranty Agreement among Kmart, its subsidiaries, and certain banks and other lenders dated as of January 22, 2002, as amended, modified or replaced from time to time (the "DIP Credit Agreement"), by the Agent for the lenders. After confirmation of a plan of reorganization in the Chapter 11 Case, Cardinal may elect to terminate this Agreement immediately if any of the circumstances in (1) through (6) above occur with respect to Kmart. (b) The second paragraph of Section 20 is deleted in its entirety and replaced with the following: Notwithstanding the above, Kmart reserves the right, at any time to effect an early termination of this Agreement without cause, and without further liability to Cardinal except amounts owed under this Agreement. Notwithstanding the above, Cardinal reserves the right, at any time following confirmation and consummation of a plan of reorganization in the Chapter 11 Case, to effect an early termination of this Agreement without cause, and without further liability to Kmart except amounts owed under this Agreement. In order to effect such an early termination under this paragraph, a Party will be required to give written notice to the other not less than [***] prior to the effective date of the early termination. (c) Notwithstanding anything herein to the contrary, including but not limited to, section 18, if this Agreement terminates prior to the end of the Term for any reason (other than Cardinal's early termination without cause), Kmart will refund to Cardinal the Inventory Write-Down as further described on the section 20 Disclosure Schedule. 10. Kmart Acquisition/Divestiture of Pharmacies. The following is added to Section 23: Cardinal will purchase the Rx Products owned by each Acquired Pharmacy within [***] following the date on which Cardinal receives notice and confirmation that the acquisition has been completed, documentation from Kmart evidencing unencumbered title, and a physical count report certified by Kmart, in form and content comparable to the Purchase and Consignment Agreement and reasonably acceptable to Cardinal. Kmart will not deduct the amount of the purchase price from amounts otherwise due Cardinal unless Cardinal has not paid such amount to Kmart as provided herein. Kmart will provide Cardinal with [***] of the closing or sale of any Store, and will provide Cardinal with information as requested by Cardinal regarding the disposition of the Merchandise within such Store. Upon closure or sale of any Store, Kmart will pay Cardinal, in accordance with the terms of this Agreement, for all Merchandise (which expressly includes Consigned Inventory, which will be treated as if it was dispensed) that is sold or otherwise transferred to a third party unrelated to Kmart, and will notify Cardinal of any transfers of Merchandise to other Stores in accordance with section 4(c) of this Agreement. 8 11. Notices. Section 26 is amended to provide that notice to Cardinal will be addressed to the following: Cardinal 7000 Cardinal Place Dublin, Ohio 43017 Attention: General Counsel Facsimile Number: 614-757-8919 12. Confidentiality. Except as expressly provided in section 17 below, or, upon prior notice to Cardinal, as necessary to obtain the Bankruptcy Court's approval of this Agreement, including, but not limited to, sharing this Agreement with the three, official committees appointed in the Chapter 11 Case, or as otherwise may be required to be disclosed by order of the Bankruptcy Court in the Chapter 11 Case or by any other state or federal court in any proceeding involving the Parties (or, if only one Party is a named party, the other Party has been given reasonable notice of such proceeding), each Party shall maintain the confidentiality of the terms and conditions hereof and any financial information exchanged including, but not limited to, the financial information provided by Kmart pursuant to Section 8(c), throughout the term of this Agreement and for a period of two (2) years thereafter. 13. Acknowledgement of Security Interest in Rx Products and Proceeds; Miscellaneous. This Second Amendment does not constitute a renewal, refinance, consolidation, novation, satisfaction, release, or extinguishment of any obligations existing under the Purchase and Consignment Agreement between the Parties dated as of August 1, 1996 (the "Purchase and Consignment Agreement") or the Original Agreement, and Kmart hereby acknowledges and agrees that nothing herein is intended to amend or alter in any way, Cardinal's consignment and security interest in and to the Consigned Inventory and any proceeds therefrom (including, but not limited to, accounts receivable generated from the dispensing or sale of Consigned Inventory) that are the subject of this Agreement and the Purchase and Consignment Agreement, which will remain in full force and effect as security for all obligations of Kmart under this Agreement and the Purchase and Consignment Agreement other than the purchase price for Non-Rx Products. All capitalized terms contained in this Second Amendment but not defined herein will have the same meaning as that set forth in the Original Agreement or in the Purchase and Consignment Agreement, as the case may be. Except to the extent otherwise set forth in this Second Amendment, the terms, conditions and provisions of the Original Agreement are unchanged and remain in full force and effect. 14. Reconciliation of Outstanding Amounts; Inventory Reconciliation. On the first business day following the Effective Date of this Second Amendment, Kmart shall pay to Cardinal $16,975,663 (the "Outstanding Amount") in satisfaction of certain outstanding obligations (the "Reconciled Items") under this Agreement as of August 31, 2002 (the "Reconciliation Date"), as set forth on a certain schedule dated October 9, 2002. In addition, Kmart hereby acknowledges that the value of all Consigned Inventory in the possession and control of Kmart as of end of contract year 6, July 31, 2002, according to Cardinal's books and records was $[***] (the "CY 6 Inventory Value"), and to the extent that Kmart cannot reconcile its books and records to the CY 6 Inventory Value on or before the Effective Date, Kmart shall pay the shortfall to Cardinal on the first business day following the Effective Date (the "Inventory Shortfall"). Cardinal and Kmart shall, in good faith, endeavor, and cooperate with each other, to reconcile the Inventory Shortfall prior to January 31, 2003. To the extent that the Inventory Shortfall is reduced as a result of that reconciliation, Cardinal will refund to Kmart the reduction in the Inventory 9 Shortfall, plus interest at [***]% per annum, on January 31, 2003. To the extent that the Inventory Shortfall increases as a result of that reconciliation, Kmart shall pay such additional amount to Cardinal on January 31, 2003. Kmart also hereby acknowledges and agrees that Cardinal has an Allowed Reclamation Claim (as defined in the Kmart's Motion filed in the Chapter 11 Case dated January 28, 2002) in the amount of $2,786,710.40. Upon payment of the Outstanding Amount and the Inventory Shortfall, if any, Kmart and Cardinal shall each release and forever discharge the other, and their directors, officers, employees, agents and successors and assigns from any and all claims, causes of action, liabilities, or damages of any kind related to the Reconciled Items that arose under the Original Agreement in whole or in part on or prior to the Reconciliation Date, except for only (i) inventory shrink occurring or reported since July 31, 2002, which shall be paid in the ordinary course pursuant to Section 11 of the Agreement, (ii) the Allowed Reclamation Claim, which shall be satisfied by Kmart by payment of 75% of the claim no later than November 30, 2002, (iii) the $[***] deposit of Kmart held by Cardinal, which shall be returned to Kmart upon termination of this Agreement and payment of all amounts due Cardinal under this Agreement; (iv) adjustments resulting from the reconciliation of the Inventory Shortfall, as provided in the previous paragraph, which shall be finalized on January 31, 2003; and (v) any unpaid amounts owed to Kmart as a result of the integration of Bindley Western Industries, Inc.'s generic drug purchasing program into Cardinal's. 15. Effective Date of Second Amendment. The terms of this Second Amendment will be effective upon entry of an Order by the Bankruptcy Court presiding over the Kmart Chapter 11 Case authorizing Kmart's assumption of this Agreement and the Purchase and Consignment Agreement and further providing that such agreements will not be assignable by Kmart without the written consent of Cardinal (the "Effective Date"). 16. Remedies Upon Default or Termination; Relief from Automatic Stay. Upon the occurrence of (a) any payment default by Kmart under this Agreement or the Purchase and Consignment Agreement, (b) any non-payment default by Kmart under this Agreement or the Purchase and Consignment Agreement which is not cured within any applicable grace period, or (c) any termination of this Agreement by either Party, Cardinal shall be entitled to seek relief from the Bankruptcy Court for the purpose of enforcing its rights under this Agreement and the Purchase and Consignment Agreement, and Kmart agrees not to assert the Automatic Stay under 11 U.S.C. Section 362 as a basis for (1) preventing Cardinal from seeking relief from the Bankruptcy Court for the purpose of enforcing its rights under this Agreement and the Purchase and Consignment Agreement or (2) preventing Cardinal from exercising any and all remedies available to Cardinal under this Agreement, the Purchase and Consignment Agreement or applicable law. 17. Announcements. Except for disclosures required pursuant to applicable bankruptcy law or by order of the Bankruptcy Court presiding over the Chapter 11 Case or by any other state or federal court in any proceeding involving the Parties (or, if only one Party is a named party, the other Party has been given reasonable notice of such proceeding), neither party shall issue any press release or other public announcement, verbally or in writing, referring to the other party or any entity that controls, is controlled by or under common control with such party. Nothing herein shall limit the right of either party to issue a press release or public announcement if, in the opinion of such party's counsel, such press release or public announcement is required pursuant to state or federal securities laws, rules or regulations, or other applicable laws, in which case the party required to make the press release or public announcement shall use its 10 commercially reasonable efforts to obtain the approval of the other party as to the form, nature and extent of the press release or public announcement prior to issuing the press release or making the public announcement. 11 Kmart Corporation Cardinal* By: __________________________ By: _________________________ Print Name: ___________________ Print Name: __________________ Title: _________________________ Title: ________________________ *The term "Cardinal" shall include the following affiliated companies: RedKey, Inc.; Cardinal Distribution, L.P., James W. Daly, Inc.; Whitmire Distribution Corporation; Cardinal Southeast, Inc.; Bindley Western Industries, Inc.; Bindley Western Industries II of Maine, Inc. and any other subsidiary of Cardinal Health, Inc., an Ohio corporation ("CHI"), as may be designated by CHI. 12 SECTION 1 DISCLOSURE SCHEDULE SERVICE LEVEL Cardinal will exercise all reasonable efforts to provide Kmart with a Service Level on all Rx Products of [***]. The Service Level will be calculated [***] as follows: Cardinal will divide the total lines of Rx Products shipped to all of the Stores serviced by a Cardinal distribution center by the number of lines of Rx Products ordered by all such Stores. The following items shall be excluded from the Service Level calculation: 1. Manufacturer back orders/temporary outs; 2. Items moving from non-stock to regularly stocked status, for a period of thirty days following such reclassification, and discontinued items; 3. Items moving from regularly stocked status to non-stocked status due to non-movement over a [***] day period, and items discontinued by the manufacturer; 4. Rx Products shipped within two (2) working days of initial order (including those filled by an affiliate of Cardinal), which will instead be counted as a line filled; 5. Items where Cardinal can demonstrate that a Store has failed to provide accurate usage figures for a given month; 6. Items where Kmart's historical demand over the preceding [***] is exceeded by [***]%; 7. Shorted items ordered more than once within [***] days; and 8. Orders that were placed but not actually received by Cardinal due to electronic data interruption or failure beyond the reasonable control of Cardinal. Cardinal will keep and maintain a record of all electronic data interruptions that prevented the receipt of orders and will provide such information to Kmart to verify any service level problem Cardinal claims is related to the failure to receive orders. Non-stock is defined as less than [***] shipping units ordered per [***] per Cardinal distribution facility by any Cardinal distribution facility servicing a Store. Merchandise that is delivered with unacceptable dating and returned for full credit within [***] days, will not count as a line filled. Cardinal reserves the right to utilize alternative divisions as inventory backups for out-of-stock Rx Products in the primary ordering location. Cardinal may, in its discretion, contract with a secondary supplier to ship product to the Stores at no additional cost to Kmart. Cardinal will pay the secondary supplier for such product and Kmart will pay Cardinal an amount equal to the Cost of Goods as provided in this Agreement for such product when dispensed. Failure by a Cardinal distribution center to maintain an aggregate Service Level each [***] calculated in accordance with this section 1 Disclosure Schedule will entitle Kmart to a credit memo in an amount equal to [***] of the difference in dollar value between an aggregate Service Level of [***] and the actual aggregate Service Level [***] during such month. For example, if Kmart's purchases (net of credits, returns, late charges or other similar items) from [***] during [***] were [***], and the aggregate service level was [***], then the service credit would be $[***], calculated as follows: [***]. In addition to the foregoing service level credit, Kmart may provide Cardinal with a notice of material breach pursuant to section 20 for Cardinal's failure to meet its Service Level commitment. In such case, Cardinal may cure such breach by achieving a monthly Service Level of [***] during the Cure Period. 13 SECTION 5 DISCLOSURE SCHEDULE Consigned Inventory Turns Schedule Example: 14 SECTION 7 DISCLOSURE SCHEDULE Cost of Goods: (a) Cost of Goods. The Stores may purchase branded Rx Products and Repackaged Drug Products from Cardinal in an amount equal to CARDINAL'S COST [***]%. Kmart's purchase price for other Merchandise is as follows:
- --------------------------------------------------------------------------- MERCHANDISE PURCHASED (EXCLUSIVE OF SPECIALLY PRICED MERCHANDISE) COST PLUS/MINUS PERCENTAGE - --------------------------------------------------------------------------- [***] Vials Current [***] minus [***]* - --------------------------------------------------------------------------- [***] Cost [***] - --------------------------------------------------------------------------- [***] Cost [***] - ---------------------------------------------------------------------------
*Because Cardinal does not control [***] pricing, if [***] compresses the price spread, then Cardinal will be entitled to reduce the discount on the [***] product line by the corresponding change from [***]. Cardinal will demonstrate in writing to Kmart that [***] compressed the price spread. For example, if [***] reduces its discount to Cardinal by [***], then Cardinal will reduce its discount to Kmart to [***]. If Kmart elects to purchase vials from any manufacturer other than [***], then Cardinal reserves the right to modify the discount percentage. The Parties acknowledge and agree that neither Party wishes for the pricing for branded Rx Products and Repackaged Drug Products to be disclosed or discovered by either Party's competitors. Due to the confidential nature of the pricing hereunder, the Cost of Goods will not be included in each Store's invoices for branded Rx Products and Repackaged Drug Products. Cardinal will provide Kmart's headquarters with a daily electronic pricing file that reflects a Cost of Goods equal to Cardinal's Cost [***]% on branded Rx Products and Repackaged Drug Products. Kmart will pay Cardinal the amount shown on the electronic pricing file. Kmart will provide the Stores, third party payors and any governmental agency, including but not limited to all Medicaid agencies, the FDA and the DEA, with accurate and complete information that reflects the actual pricing described in this Section 7 Disclosure Schedule as required, and will hold Cardinal harmless for Kmart's failure to do so. Nothing herein will be construed to prohibit either Party from disclosing the Cost of Goods as required by law. Kmart agrees that the Cost of Goods is materially affected by the total number of Stores (with Consigned Inventory) and the average volume of net purchases per Store (with Consigned Inventory). Therefore, if Kmart operates [***] Stores (with Consigned Inventory), then the Cost of Goods will be adjusted prospectively as follows:
- --------------------------------------------------------------------------------- NUMBER OF STORES WITH CONSIGNED INVENTORY COST OF GOODS - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - --------------------------------------------------------------------------------- [***] [***]% - ---------------------------------------------------------------------------------
15 If Kmart operates [***] Stores or less, or Kmart's average annual total purchase volume per Store under this Agreement is $[***] or less, Cardinal may modify the Cost of Goods as it deems reasonably necessary. Notwithstanding anything in this Agreement to the contrary, in no event may Kmart purchase less than all of its requirements of Rx Products from Cardinal, as specified in section 1. (b) Volume [***] Rebate. As long as Kmart has no past due amounts outstanding under this Agreement (which are not in good faith disputed by Kmart), Kmart will be eligible for the following [***] rebate based upon the [***] from Cardinal during the previous [***] (the "VOLUME [***] REBATE"): - ------------------------------------------------------------- [***] VOLUME [***] REBATE - ------------------------------------------------------------- [***] [***]% - ------------------------------------------------------------- [***] [***]% - ------------------------------------------------------------- [***] [***]% - ------------------------------------------------------------- [***] [***]% - ------------------------------------------------------------- [***] [***]% - -------------------------------------------------------------
Cardinal will calculate Kmart's total net purchases each [***] (excluding those purchases by the Stores located in Puerto Rico), and divide such amount by [***] (excluding those Stores located in Puerto Rico). [***] will be determined by adding the number of [***]. The Volume [***] Rebate will be applied to Kmart's aggregate net purchases during the previous Contract Quarter, and will be paid [***]. For example, [***]. The Volume [***] Rebate is a discount or other reduction in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose the Volume [***] Rebate and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. (c) OTC Rebate. As long Kmart has no past due amounts outstanding under this Agreement (which are not in good faith disputed by Kmart), each [***], Cardinal will pay Kmart a volume rebate of [***]% of Kmart's net purchases of certain eligible Non-Rx Products (which will be calculated at [***], [***]) manufactured [***],[***], and [***] (the "OTC Rebate"). Cardinal will pay the OTC Rebate within [***] following the [***]. The OTC Rebate is a discount or other reduction in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose this OTC Rebate and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. Any change in a manufacturer's rebate policy to Cardinal will result in a corresponding change of the OTC Rebate to Kmart. 16 (d) Volume Discount. Cardinal agrees to provide Kmart with a payment equal to $[***] multiplied by a fraction the numerator of which will equal Kmart's purchases of [***] from the Effective Date through the end of the Term, and the denominator of which will equal $[***] (the "Volume Discount"). The Volume Discount will be paid within [***] following [***], to be applied first to amounts owed Cardinal, with any remaining balance to be paid to Kmart. No Volume Discount will be paid if this Agreement terminates prior to [***]; however, in the event that Cardinal terminates without cause, Kmart will be entitled to the Volume Discount as calculated above, within thirty (30) days following [***]. The Volume Discount is a "discount or other reduction in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose the Volume Discount and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. 17 SECTION 9 DISCLOSURE SCHEDULE [***] Rebate As long as Kmart has no past due amounts outstanding under this Agreement (which are not in good faith disputed by Kmart), Cardinal will pay to Kmart on a [***] basis a rebate of [***]% of Kmart's net purchases of [***] (the [***] Volume Rebate"). The [***] Volume Rebate will be paid within [***] days following the end of [***]. The [***] volume will be adjusted on a pro rata basis for [***] by Cardinal. The [***] Volume Rebate is a "discount or other reduction in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose the [***] Volume Rebate and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. 18 SECTION 14 DISCLOSURE SCHEDULE Upon the Effective Date, Kmart will participate in the Cardinal Generic Alliance on the following terms: SAVINGS: Kmart and Cardinal will [***] associated with volume discount or profit-sharing incentives resulting directly from Kmart purchases under the Generic Alliance [***]). Such volume discounts and profit-sharing incentives are "discounts or other reductions in price" as such term is used under section 1128(B)(3)(A) of the Social Security Act, 42 U.S.C. 1320a-7b(b)(3)(a). Kmart will disclose the volume discounts and profit-sharing incentives and any other "discounts or other reductions in price" received by Kmart from Cardinal under any state or federal program which provides cost or charge-based reimbursement to Kmart for the Merchandise purchased by Kmart from Cardinal or as otherwise requested by a government agency. A LINE: The Parties have established an "A Line" item list ("A Line") of generic Merchandise which will be purchased by Kmart through the Generic Alliance. The A Line may be amended from time to time by Cardinal, in its reasonable discretion. In the event that any item on the A Line is not available for shipping when ordered by a Store, Cardinal will automatically substitute a generically equivalent item for the item ordered. Kmart will be billed the price of the A Line for the item substituted. Within [***] days following the end of each [***], Cardinal will calculate (a) the total number of sell units (such as a single bottle, a single box, a unit dose) of Merchandise on the A Line that Kmart ordered from Cardinal during such [***] multiplied by [***]%; and (b) the total number of sell units of Merchandise on the A Line that Kmart purchased from Cardinal during such [***] that were automatically substituted by Cardinal because the item on the A Line was not available for shipping when ordered by a Store (excluding Manual Overrides). [***]: [***] Cardinal will provide a report to Kmart on a quarterly basis indicating the autosubstitution rate during such quarter. In the event that a Store manually overrides the A Line automatic substitution process resulting in a more expensive item being dispensed ("Manual Overrides"), then Kmart will pay to Cardinal the [***]. Cardinal will provide Kmart with a report specifying the amount due each month. Kmart will have the right to audit such report within [***] days of receipt from Cardinal. Kmart will pay Cardinal [***] of receipt by Kmart from Cardinal of such report. GENERAL TERMS: Kmart and Cardinal will use the identity of Kmart, its participation in the Generic Alliance, and other information regarding Kmart ("Generic Purchasing Data") to jointly negotiate discounts for the Generic Alliance from suppliers on the purchase of generic Merchandise. 19 As of the Effective Date (a) Kmart will [***], and (b) Kmart agrees to [***]. Both Parties acknowledge and agree that these commitments are integral elements of this Agreement. On and after the Effective Date, the Generic Alliance will be in a primary position with autosubstitution with respect to all of the Stores' purchases of generic Merchandise. Further, Kmart will immediately terminate all Manufacturer Contracts for generic Merchandise. With respect to inventory that Cardinal purchased to accommodate Kmart's previous purchases of generic Rx Products pursuant to direct contracts between Kmart and various manufacturers, Cardinal, in its sole discretion, will manage the transition from such contracts back to items on the Generic Alliance, and in no event will Cardinal pay, or be required to pay Kmart any amounts in connection with such transition, including but not limited to the [***]. For the purpose of Cardinal supplying Generic Alliance suppliers with data regarding purchases of generic Merchandise from Cardinal, all Kmart Stores will be loaded into a separate Generic Alliance contract. Such contract will contain exclusively Kmart data. Such contract numbers and data will be disclosed to Kmart upon reasonable request. [***], Kmart may attempt to negotiate with generic suppliers to improve the contract cost for an item of generic Merchandise on the Generic Alliance for all Generic Alliance members. [***]. Any information that is not communicated to Cardinal in writing will not be considered by Cardinal in making its determination whether to amend the A Line, as further described below. [***]. Notwithstanding anything herein to the contrary, in no event may Kmart purchase any generic Merchandise outside of the Generic Alliance or through any source other than Cardinal. [***] the Parties acknowledge that Cardinal selects the suppliers participating in the Generic Alliance formulary on behalf of the Generic Alliance members. Notification of awards will be made in conjunction with Kmart and the other Generic Alliance members, as appropriate. In the discussions between Cardinal and Kmart regarding the Generic Alliance, representatives of the Parties will disclose to the other, either orally or in writing, certain proprietary information that will be helpful in evaluating such business opportunity. As used herein, the term "Confidential Generic Information" includes all such proprietary information furnished by the Parties or any of their respective representatives to the other Party or its representatives. Confidential Generic Information includes, but is not limited to, the type of information provided in the Generic Purchasing Data and any analyses, compilations, studies and other materials prepared by either Party which contain or are based in whole or in part on any proprietary information. Confidential Generic Information does not include, however, information which: (a) is or becomes generally available to the public other than as a result of disclosure by the other Party or its representatives; or (b) at the time of disclosure to one Party by the other was already known by the former; or (c) becomes available to the other Party on a nonconfidential basis from a source that is entitled to disclose it on a nonconfidential basis. The Parties agree that any Confidential Generic Information either Party receives will be used solely for the purpose of establishing and administering the Generic Alliance. The Parties also agree that during Cardinal's and Kmart's joint discussions with suppliers concerning the purchase of generic Merchandise, Cardinal and Kmart may disclose to such suppliers some or all of the Generic Purchasing Data, as well as the identity of the other parties participating in the Generic Alliance. Except for such disclosure to suppliers or disclosure required by law, the Parties each agree to not disclose any Confidential Generic Information concerning the other to any third party without the consent of the other; provided, however, that prior to making any 20 legally required disclosure, the Party proposing to make the disclosure will give the other Party as much prior notice of the requirement for and contents of such disclosure as is practicable under the circumstances. Confidential Generic Information may be disclosed by the Parties to their respective representatives who need to receive it for purposes of evaluating the Generic Alliance and who are advised of the contents of this Agreement. Cardinal agrees that it will not disclose Kmart's Confidential Generic Information to any of Cardinal's other customers or prospective customers, except in an aggregate format that does not identify information as relating to individual customers. [***] GUARANTEE: Cardinal agrees that at no time during the term of this Agreement, will the [***]. Not more than twice in any Contract Year, and following 30 days advance written notice to Cardinal, Kmart may audit Cardinal's records relating to [***] to verify Cardinal's compliance with this paragraph, provided that Kmart may only review such records through an employee of an independent certified public accounting firm (that is not engaged by Cardinal or Kmart). Such employee will execute a confidentiality agreement prior to beginning the review. Such accounting firm may confirm to Kmart that Cardinal has (or has not) complied with this paragraph, but may not (and will not) disclose to Kmart any information reviewed in connection with the audit. If such accounting firm determines that Cardinal has not complied with this paragraph, [***]. The Parties will equally share the accounting firm's fee for such audit. Section 22 is not applicable to this [***] section. The [***] will be equal to the following: The difference between [***] during the 12 months immediately preceding the Effective Date and [***] during the applicable Contract Year, multiplied by [***] through the Generic Alliance. For example, if [***] as of the Effective Date is [***]%, and during the first Contract Year, [***] was [***]% due to [***], and [***] million, then [***] would pay [***] $[***] [***]% times $[***] million). Any excess will be paid within 45 days following the end of each Contract Year. Kmart's sole and exclusive remedy for Cardinal's failure to comply with this paragraph is [***]. 21 SECTION 16 DISCLOSURE SCHEDULE The Non-Consigned and Consigned Inventory Return Goods Policies are amended to provide that the Normal Credit Amounts will be based upon the original amount paid by Buyer. The Parties further acknowledge that if Merchandise was [***] (as defined in the Non-Consigned and Consigned Inventory Return Goods Policies), [***] is entitled to [***] from the applicable invoice date. This process is [***] exclusive remedy for [***] to ship product [***]. ONE-TIME CLEAN UP The following is added to the Consigned Inventory Return Goods Policy in accordance with the following conditions: 1. Schedule II drugs are excluded. 2. Repackaged Merchandise can be returned as long as it has a minimum of [***] months of dating remaining. 3. Merchandise must be returned to the respective Cardinal distribution center from which it was purchased. 4. Returns may not exceed [***]% of the prior twelve (12) month's Qualified Purchases. 5. The return will be conducted during a [***] business day period within [***] days following the Effective Date, Kmart may return Consigned Inventory in merchantable condition to Cardinal for a [***]% restocking fee. 22 SECTION 20 DISCLOSURE SCHEDULE The parties acknowledge and agree that as a result of the reduced Cost of Goods pursuant to this Second Amendment, the value of the Consigned Inventory to which a Cost of Goods of [***]% applies will be reduced by [***]% (the difference between the Cost of Goods as of the Effective Date (Cardinal's Cost [***]%) and the Cost of Goods prior to the Effective Date (Cardinal's Cost [***]%)) multiplied by the inventory balance of such Consigned Inventory on the first Wednesday following the Effective Date (the "Inventory Write-Down"). Cardinal will calculate and notify Kmart of the Inventory Write-Down by the end of the first full month following the Effective Date, and will provide Kmart with a good faith estimate of the Inventory Write-Down on or before execution of this Second Amendment. If this Agreement terminates for any reason prior to [***] from the Effective Date, other than because of Cardinal's termination of this Agreement without cause, Kmart will pay to Cardinal within thirty (30) days of termination the [***] proportion to the [***] until [***] from the Effective Date. For example, if the first Contract Year begins on [***] and this Agreement terminates on [***], and the Inventory Write-Down was $[***] million, Kmart would repay Cardinal $[***] ([***] remaining X $[***] ($[***] million divided by [***]) per month = $[***]). In addition, partial months will be prorated appropriately. Kmart agrees and acknowledges that the foregoing payment has been negotiated in good faith and is not intended to be a penalty. Further, Kmart acknowledges and agrees that Cardinal has entered into this Second Amendment based upon the presumption that the Inventory Write-Down will be [***] beginning on the Effective Date. This payment will be made to Cardinal on or before termination of this Agreement. Upon termination or expiration of this Agreement, Kmart will purchase from Cardinal all Merchandise that Cardinal stocks specifically for Kmart including but not limited to private label Non-Rx Product, customized pharmacy stickers and bags, and Kmart labeled prescription bottle and vial caps. 23 EX-10.02 4 l98799aexv10w02.txt EX-10.02 EMPLOYMENT AGREEMENT Exhibit 10.02 EMPLOYMENT AGREEMENT THIS AGREEMENT, dated and effective as of January 8, 2003 (the "Effective Date") is made and entered into by and between Cardinal Health, Inc., an Ohio corporation (the "Company"), and Gordon A. Troup (the "Executive"). WHEREAS, the Company and the Executive desire to set forth in a written agreement the terms and conditions under which the Executive will render services to the Company from and after the Effective Date. NOW, THEREFORE, the parties hereto, in consideration of the mutual covenants herein contained, and other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, and intending to be legally bound hereby, agree as follows: 1. EMPLOYMENT PERIOD. The Company shall employ, or shall cause one of its subsidiaries or affiliates to employ, the Executive, and the Executive shall serve the Company, on the terms and conditions set forth in this Agreement, during the three-year period beginning on the Effective Date and ending on the third (3rd) anniversary of the Effective Date, unless prior to such date the employment of the Executive is terminated in accordance with Section 4 of this Agreement (such period, the "Employment Period"). For purposes of this Agreement, any reference to the "Company" shall mean, where appropriate, the actual Cardinal subsidiary or affiliate that employs the Executive. The Employment Period may be extended by mutual written agreement of the parties. 2. POSITION AND DUTIES. (a) During the Employment Period, the Executive shall serve as President--Nuclear Pharmacy Services, with the duties and responsibilities customarily assigned to such position, and such other duties and responsibilities as President and Chief Executive Officer--Life Sciences Products and Services shall from time to time assign to the Executive; provided that the Company may change the Executive's title, duties and responsibilities (including reporting responsibilities) at any time without violating this provision, so long as the Executive remains in an executive position. (b) During the Employment Period, and excluding any periods of vacation and sick leave to which the Executive is entitled under the practices and policies of the Company as in effect from time to time, the Executive shall devote the Executive's full business attention and time to the business and affairs of the Company, and shall use the Executive's reasonable best efforts to carry out such responsibilities faithfully and efficiently. It shall not be considered a violation of the foregoing for the Executive to (A) serve on corporate boards or committees with the prior consent of the President and Chief Executive Officer--Life Sciences Products and Services, (B) serve on civic or charitable boards or committees, (C) deliver lectures, fulfill speaking engagements or teach at educational institutions and (D) manage personal investments, so long as such activities do not materially interfere with the performance of the Executive's responsibilities as an employee of the Company in accordance with this Agreement. (c) As of the Effective Date, the Executive's services shall be performed primarily at the Company's offices located in Dublin, Ohio; provided, however, that, during the Employment Period, the Company may require that the Executive's services be performed primarily at the Company's offices located in Woodland Hills, California. In the event that the Executive elects, by a written notice to the Company, not to so relocate, he shall be eligible to receive the severance benefits provided under Section 4(c) of this Agreement, provided that the Executive shall remain employed in the position of President--Nuclear Pharmacy Services for a transition period to be mutually agreed in writing between the Executive and the Company and shall not be eligible for such severance benefits until the expiration of such transition period. 3. COMPENSATION. (a) SALARY. During the Employment Period, as compensation for the Executive's services hereunder, the Company shall pay to the Executive an annual base salary (the "Base Salary") at the rate of not less than $435,000, payable at such times and intervals as the Company customarily pays the base salaries of its other executive employees; provided that the Base Salary may be reduced as part of a reduction that applies proportionately to all employees who are otherwise similar to the Executive with respect to amount of compensation and level of managerial responsibility before such reduction. (b) ANNUAL BONUS. In addition to the Base Salary, during the Employment Period the Executive shall be eligible to receive an annual bonus (an "Annual Bonus") determined and paid at the sole discretion of the Company pursuant to the terms and conditions of the Company bonus plan for which the Executive is then eligible, as such plan is in effect from time to time, or any successor thereto (the "Bonus Plan"). The parties hereto agree and acknowledge that the Executive's Annual Bonus target under this Agreement shall be equal to eighty percent (80%) of the Base Salary. (c) OPTION GRANT. As of the Effective Date, the Company shall grant the Executive an option to purchase 50,000 common shares, without par value, of the Company (the "Option") pursuant to the terms and conditions set forth in the Nonqualified Stock Option Agreement attached to this Agreement as Exhibit A (the "Option Agreement"). The Executive acknowledges and agrees that he will not be eligible to receive an annual grant of options to purchase common shares of the Company during the Company's 2004 fiscal year, unless any such grant is authorized by the Human Resources and Compensation Subcommittee of the Board of Directors of the Company. (d) EMPLOYEE BENEFITS. During the Employment Period, the Executive shall be entitled to receive employee benefits (including, without limitation, medical, life insurance and other welfare benefits and benefits under retirement and savings plans) and vacation to the same extent as, and on the same terms and conditions as, other similarly situated executives of the Company from time to time. -2- (e) EXPENSES. The Executive shall be entitled to receive prompt reimbursement for all reasonable expenses incurred by the Executive during the Employment Period in carrying out the Executive's duties under this Agreement, provided that the Executive complies with the policies, practices and procedures of the Company then applicable to the Executive for submission of expense reports, receipts, or similar documentation of such expenses. (f) RELOCATION BENEFITS. In the event that the Company requires that the Executive's services be performed primarily at the Company's offices located in Woodland Hills, California and the Executive agrees to such relocation, the Company shall provide the Executive with relocation benefits in connection with the relocation of himself, his family and his possessions from Dublin, Ohio, to the Woodland Hills, California area. Such relocation benefits shall be provided pursuant to the Company's standard relocation policy for similarly situated executives. 4. EMPLOYMENT TERMINATION. (a) TERMINATION BY THE COMPANY. During the Employment Period, the Executive's employment may be terminated by the Company under any of the following circumstances: (i) upon the inability of the Executive to perform the essential functions of his position with or without reasonable accommodation, which inability continues for a consecutive period of 120 days or longer or an aggregate period of 180 days or longer ("Incapacity"), in either instance during the Employment Period; (ii) for "Cause," defined as (A) any willful or grossly negligent conduct by Executive that demonstrably and materially injures the Company; (B) any act by the Executive of fraud or intentional misrepresentation or embezzlement, misappropriation or conversion of assets of the Company or any subsidiary; (C) the Executive being convicted of, confessing to, or becoming the subject of proceedings that provide a reasonable basis for the Company to believe the Executive has engaged in, a felony or any crime involving dishonesty or moral turpitude; (D) the Executive's intentional and repeated violation of the written policies or procedures of the Company; (E) the Executive violating any provision of Section 5 of this Agreement; or (F) the Executive's willful and continued failure for a significant period of time to perform Executive's duties; and (iii) for any other reason (a termination without "Cause"). The Company shall give the Executive notice of termination specifying which of the foregoing provisions is applicable and (in the case of clause (i) or (ii)) the factual basis therefor, and the termination shall be effective upon the 30th day after such notice is given (hereinafter, the date on which the Executive ceases to be an employee of the Company for any reason (including, without limitation, by action of the Executive), whether or not during the Employment Period, is referred to as the "Date of Termination"). (b) TERMINATION BY THE EXECUTIVE. The Executive may terminate his employment during the Employment Period for any reason upon 30 days advanced written notice to the Company. (c) CONSEQUENCES OF TERMINATION BY THE COMPANY WITHOUT CAUSE. (i) If the Executive is terminated by the Company without Cause during the Employment Period, -3- the Executive shall not be entitled to any further compensation or benefits provided for under this Agreement except (x) as provided in the Option Agreement and (y) as provided in the following sentence. Under such circumstance, the Company shall: (i) pay to the Executive an amount equal to one times the sum of (x) the Executive's Base Salary, at the rate in effect on the day immediately prior to the Date of Termination and (y) the Executive's Annual Bonus target for the fiscal year of the Company in which the Date of Termination occurs, such amount to be paid monthly in equal installments over the twelve (12) month period immediately following the Date of Termination; and (ii) provide the vested benefits, if any, required to be paid or provided by law. Notwithstanding the foregoing, the Company's obligations to the Executive under this Section 4(c) shall immediately terminate, and the Executive shall not be entitled to any further compensation or benefits provided for under this Agreement or the Option Agreement in the event that the Executive violates any of the provisions of Section 5 of this Agreement. (d) OTHER EMPLOYMENT TERMINATIONS. If, during the Employment Period, the Executive's employment is terminated for any reason other than by the Company without Cause, including, without limitation, termination by the Executive, the Executive's retirement, Incapacity, death, or termination by the Company for Cause (subject only to Section 4(e) of this Agreement), the Executive shall not be entitled to any compensation provided for under this Agreement, other than (i) the Base Salary through the Date of Termination; (ii) benefits under any long-term disability insurance coverage in the case of termination because of Incapacity; (iii) vested benefits, if any, required to be paid or provided by law; and (iv) the benefits provided for under the Option Agreement, if any. (e) TERMINATION AFTER A CHANGE OF CONTROL. In the event that during the Employment Period (i) the Executive's employment is terminated by the Company within one year after a "Change of Control" (as defined in the Cardinal Health, Inc. Amended and Restated Equity Incentive Plan, as amended from time to time, or any successor plan thereto) for any reason other than because of the Executive's death, retirement, Incapacity or by the Company for Cause, or (ii) the Executive has experienced a material diminution of his duties under Section 2(a) of this Agreement, other than actions that are not taken in bad faith and are remedied by the Company within ten business days after receipt of written notice thereof from the Executive, and as a result the Executive terminates his employment within one year after a Change of Control (as so defined), then the Company shall pay to the Executive the severance payments and benefits as set forth in Section 4(c) of this Agreement. 5. COVENANTS. (a) INTRODUCTION. The parties acknowledge that the provisions and covenants contained in this Section 5 are ancillary and material to this Agreement and the Option Agreement and that the limitations contained herein are reasonable in -4- geographic and temporal scope and do not impose a greater restriction or restraint than is necessary to protect the goodwill and other legitimate business interests of the Company. The parties also acknowledge and agree that the provisions of this Section 5 do not adversely affect the Executive's ability to earn a living in any capacity that does not violate the covenants contained herein. The parties further acknowledge and agree that the provisions of Section 11(a) below are accurate and necessary because (i) this Agreement is entered into in the State of Ohio, (ii) Ohio has a substantial relationship to the parties and to this transaction, (iii) Ohio is the headquarters state of the Company, which has operations nationwide and has a compelling interest in having its employees treated uniformly within the United States, (iv) the use of Ohio law provides certainty to the parties in any covenant litigation in the United States, and (v) enforcement of the provision of this Section 5 would not violate any fundamental public policy of Ohio or any other jurisdiction. (b) CONFIDENTIAL INFORMATION. The Executive shall hold in a fiduciary capacity for the benefit of the Company and all of its subsidiaries, partnerships, joint ventures, limited liability companies, and other affiliates (collectively, the "Cardinal Group"), all secret or confidential information, knowledge or data relating to the Cardinal Group and its businesses (including, without limitation, any proprietary and not publicly available information concerning any processes, methods, trade secrets, research, secret data, costs, names of users or purchasers of their respective products or services, business methods, operating procedures or programs or methods of promotion and sale) that the Executive has obtained or obtains during the Executive's employment by the Cardinal Group and that is not public knowledge (other than as a result of the Executive's violation of this Section 5(b)) ("Confidential Information"). For the purposes of this Section 5(b), information shall not be deemed to be publicly available merely because it is embraced by general disclosures or because individual features or combinations thereof are publicly available. The Executive shall not communicate, divulge or disseminate Confidential Information at any time during or after the Executive's employment with the Cardinal Group, except with the prior written consent of the Cardinal Group, as applicable, or as otherwise required by law or legal process. All records, files, memoranda, reports, customer lists, drawings, plans, documents and the like that the Executive uses, prepares or comes into contact with during the course of the Executive's employment shall remain the sole property of the Company and/or the Cardinal Group, as applicable, and shall be turned over to the applicable Cardinal Group company upon termination of the Executive's employment. (c) NON-RECRUITMENT OF EMPLOYER'S EMPLOYEES, ETC. Executive shall not, at any time during the Restricted Period (as defined in this Section 5(c)), without the prior written consent of Cardinal Health, Inc., directly or indirectly, contact, solicit, recruit, or employ (whether as an employee, officer, director, agent, consultant or independent contractor) any person who was or is at any time during the previous twelve (12) months an employee, representative, officer or director of the Cardinal Group. Further, during the Restricted Period, Executive shall not take any action that could reasonably be expected to have the effect of encouraging or inducing any employee, representative, officer or director of the Cardinal Group to cease their relationship with the Cardinal Group for any reason. This -5- provision does not apply to recruitment of employees within or for the Cardinal Group. The "Restricted Period" means the period of Executive's employment with the Cardinal Group and the additional period that ends 24 months after the Executive's Date of Termination. (d) NO COMPETITION--SOLICITATION OF BUSINESS. During the Non-Competition Period (as defined in this Section 5(d)), the Executive shall not (either directly or indirectly or as an officer, agent, employee, partner or director of any other company, partnership or entity) solicit, service, or accept on behalf of any competitor of the Cardinal Group the business of (i) any customer of the Cardinal Group at the time of the Executive's employment or Date of Termination, or (ii) potential customer of the Cardinal Group which the Executive knew to be an identified, prospective purchaser of services or products of the Cardinal Group. The "Non-Competition Period" means the period of Executive's employment with the Cardinal Group and the additional period that ends twelve (12) months after the Executive's Date of Termination. (e) NO COMPETITION--EMPLOYMENT BY COMPETITOR. During the Non-Competition Period, the Executive shall not invest in (other than in a publicly traded company with a maximum investment of no more than 1% of outstanding shares), counsel, advise, or be otherwise engaged or employed by, any entity or enterprise that competes with the Cardinal Group, by developing, manufacturing or selling any product or service of a type, respectively, developed, manufactured or sold by the Cardinal Group. (f) NO DISPARAGEMENT. (i) The Executive shall at all times refrain from taking actions or making statements, written or oral, that (A) denigrate, disparage or defame the goodwill or reputation of the Cardinal Group or any of its trustees, officers, security holders, partners, agents or former or current employees and directors, or (B) are intended to, or may be reasonably expected to, adversely affect the morale of the employees of the Cardinal Group. The Executive further agrees not to make any negative statements to third parties relating to the Executive's employment or any aspect of the businesses of the Cardinal Group and not to make any statements to third parties about the circumstances of the termination of the Executive's employment, or about the Cardinal Group or its trustees, officers, security holders, partners, agents or former or current employees and directors, except as may be required by a court or governmental body. (ii) The Executive further agrees that, following termination of employment for any reason, the Executive shall assist and cooperate with the Company with regard to any matter or project in which the Executive was involved during the Executive's employment with the Company, including but not limited to any litigation that may be pending or arise after such termination of employment. Further, the Executive agrees to notify the Company at the earliest opportunity of any contact that is made by any third parties concerning any such matter or project. The Company shall not unreasonably request such cooperation of Executive and shall compensate the Executive for any lost wages or expenses associated with such cooperation and assistance. -6- (g) INVENTIONS. All plans, discoveries and improvements, whether patentable or unpatentable, made or devised by the Executive, whether alone or jointly with others, from the date of the Executive's initial employment by the Company and continuing until the end of the Employment Period and any subsequent period when the Executive is employed by the Cardinal Group, relating or pertaining in any way to the Executive's employment with or the business of the Cardinal Group, shall be promptly disclosed in writing to the Chief Executive Officer and are hereby transferred to and shall redound to the benefit of the Company, and shall become and remain its sole and exclusive property. The Executive agrees to execute any assignments to the Company or its nominee, of the Executive's entire right, title and interest in and to any such discoveries and improvements and to execute any other instruments and documents requisite or desirable in applying for and obtaining patents, trademarks or copyrights, at the expense of the Company, with respect thereto in the United States and in all foreign countries, that may be required by the Company. The Executive further agrees, during and after the Employment Period, to cooperate to the extent and in the manner required by the Company, in the prosecution or defense of any patent or copyright claims or any litigation, or other proceeding involving any trade secrets, processes, discoveries or improvements covered by this Agreement, but all necessary expenses thereof shall be paid by the Company. (h) ACKNOWLEDGMENT AND ENFORCEMENT. (i) The Executive acknowledges and agrees that: (A) the purpose of the foregoing covenants, including without limitation the noncompetition covenants of Sections 5(d) and (e), is to protect the goodwill, trade secrets and other Confidential Information of the Company; (B) because of the nature of the business in which the Cardinal Group is engaged and because of the nature of the Confidential Information to which the Executive has access, the Company would suffer irreparable harm and it would be impractical and excessively difficult to determine the actual damages of the Cardinal Group in the event the Executive breached any of the covenants of this Section 5; and (C) remedies at law (such as monetary damages) for any breach of the Executive's obligations under this Section 5 would be inadequate. The Executive therefore agrees and consents that if the Executive commits any breach of a covenant under this Section 5 or threatens to commit any such breach, the Company shall have the right (in addition to, and not in lieu of, any other right or remedy that may be available to it) to temporary and permanent injunctive relief from a court of competent jurisdiction, without posting any bond or other security and without the necessity of proof of actual damage. (ii) In addition, in the event of a violation of this Section 5, the Company shall have the right to require the Executive to pay to the Company all or any portion of the Clawback Amount (as defined below) within 30 days following written notice by the Company to the Executive (the "Company Notice") that it is imposing such requirement. The "Clawback Amount" means an amount equal to the gross option gain realized or obtained by the Executive or any transferee resulting from the exercise of any stock options granted to the Executive by the Cardinal Group within three years before a violation of Section 5(b), 5(c), 5(f) or 5(g) or within one year before a violation of Section 5(d) or 5(e), -7- measured at the date of exercise (i.e., the difference between the fair market value of the purchased stock on the date of exercise and the exercise price paid by the Executive therefor). In addition to the foregoing, in the event of a violation of this Section 5, all outstanding stock options granted to the Executive by the Cardinal Group (or any part thereof) that have not been exercised shall immediately and automatically terminate, be forfeited, and cease to be exercisable at any time. (iii) With respect to any provision of this Section 5 finally determined by a court of competent jurisdiction to be unenforceable, the Executive and the Company hereby agree that such court shall have jurisdiction to reform this Agreement or any provision hereof so that it is enforceable to the maximum extent permitted by law, and the parties agree to abide by such court's determination. If any of the covenants of this Section 5 are determined to be wholly or partially unenforceable in any jurisdiction, such determination shall not be a bar to or in any way diminish the Company's right to enforce any such covenant in any other jurisdiction. 6. NON-EXCLUSIVITY OF RIGHTS. Nothing in this Agreement shall prevent or limit the Executive's continuing or future participation in any plan, program, policy or practice provided by the Cardinal Group for which the Executive may qualify, nor, subject to Section 9 below, shall anything in this Agreement limit or otherwise affect such rights as the Executive may have under any contract or agreement with the Cardinal Group. Vested benefits and other amounts that the Executive is otherwise entitled to receive under any plan, policy, practice or program of, or any contract or agreement with, the Cardinal Group on or after the Date of Termination shall be payable in accordance with such plan, policy, practice, program, contract or agreement, as the case may be, except as explicitly modified by this Agreement. Notwithstanding the foregoing, the Executive waives all of the Executive's rights to receive severance payments and benefits under any severance plan, policy or practice of the Cardinal Group or any entity merged with or into the Cardinal Group (or any part thereof) except to the extent provided for in this Agreement. 7. NO MITIGATION. In no event shall the Executive be obligated to seek other employment or take any other action by way of mitigation of the amounts payable to the Executive under any of the provisions of this Agreement and such amounts shall not be reduced, regardless of whether the Executive obtains other employment. 8. NOTICES. (a) METHODS. Each notice, demand, request, consent, report, approval or communication (hereinafter, "Notice") which is or may be required to be given by any party to any other party in connection with this Agreement, shall be in writing, and given by facsimile, personal delivery, receipted delivery services, or by certified mail, return receipt requested, prepaid and properly addressed to the party to be served as shown in Section 8(b) below. (b) ADDRESSES. Notices shall be effective on the date sent via facsimile, the date delivered personally or by receipted delivery service, or three days after the date mailed: -8- If to the Company: Cardinal Health, Inc. 7000 Cardinal Place Dublin, OH 43017 Attn.: Chief Legal Officer Facsimile: (614) 757-6948 If to the Executive: At the Executive's residence address most recently on the books and records of the Company. (c) CHANGES. Each party may designate by Notice to the other in writing, given in the foregoing manner, a new address to which any Notice may thereafter be so given, served or sent. 9. ENTIRE AGREEMENT. This Agreement constitutes the entire agreement of the parties with respect to the subject matter hereof and supersedes all prior agreements with respect thereto. 10. SUCCESSORS. (a) EXECUTIVE. This Agreement is personal to the Executive and, without the prior written consent of the Company, shall not be assignable by the Executive otherwise than by will or the laws of descent and distribution. This Agreement shall inure to the benefit of and be enforceable by the Executive's legal representatives. (b) THE COMPANY. This Agreement shall inure to the benefit of and be binding upon the Company and its successors and assigns. (c) The Company may assign this Agreement to any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company that expressly agrees to assume and perform this Agreement in the same manner and to the same extent that the Company would have been required to perform it if no such assignment had taken place. As used in this Agreement, "Company" shall mean both the Company as defined above and any such successor that assumes and agrees to perform this Agreement, by operation of law or otherwise. 11. MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by, and construed in accordance with, the laws of Ohio, without reference to principles of conflict of laws. In addition, all legal actions or proceedings relating to this Agreement shall be brought in state or federal courts located in Franklin County, Ohio, and the parties executing this Agreement hereby consent to the personal jurisdiction of such courts. This Agreement may not be amended or modified except by a written agreement executed by the parties hereto or their respective successors and legal representatives. -9- (b) SEVERABILITY. The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement. If any provision of this Agreement shall be held invalid or unenforceable in part, the remaining portion of such provision, together with all other provisions of this Agreement, shall remain valid and enforceable and continue in full force and effect to the fullest extent consistent with law. (c) TAX WITHHOLDING. Notwithstanding any other provision of this Agreement, the Company may withhold from amounts payable under this Agreement all federal, state, local and foreign taxes that are required to be withheld by applicable laws or regulations. (d) NO WAIVER. The Executive's or the Company's failure to insist upon strict compliance with any provision of, or to assert any right under, this Agreement shall not be deemed to be a waiver of such provision or right or of any other provision of or right under this Agreement. (e) WARRANTY. The Executive hereby warrants that the Executive is free to enter into this Agreement and to perform the services described herein. (f) HEADINGS. The Section headings contained in this Agreement are for convenience only and in no manner shall be construed as part of this Agreement. (g) COUNTERPARTS. This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original but all of which together shall constitute one and the same instrument. (h) SURVIVAL. The obligations under this Agreement of the Executive and the Company that by their nature and terms require (or may require) satisfaction after the end of the Employment Period shall survive such event and shall remain binding upon such parties. -10- IN WITNESS WHEREOF, the Executive has hereunto set his hand and, pursuant to the authorization of the Executive Committee of its Board of Directors, the Company has caused this Agreement to be executed in its name on its behalf, all as of the day and year first above written. EXECUTIVE /s/ Gordon A. Troup --------------------------- Gordon A. Troup CARDINAL HEALTH, INC. By /s/ Robert D. Walter ------------------------ Robert D. Walter Chief Executive Officer -11- CARDINAL HEALTH, INC. 12. NONQUALIFIED STOCK OPTION AGREEMENT Dollars at Work: $3,124,000 Grant Date: January 8, 2003 Exercise Price: $62.48 Grant vesting date: January 8, 2006 Grant expiration date: January 8, 2013 Cardinal Health, Inc., an Ohio corporation (the "Company"), has granted to Gordon A. Troup ("Grantee"), an option (the "Option") to purchase 50,000 shares (the "Shares") of common stock in the Company for a total purchase price (typically known as Dollars at Work) of $3,124,000, (i.e., the equivalent of $62.48 for each full Share). The Option has been granted pursuant to the Cardinal Health, Inc. Amended and Restated Equity Incentive Plan, as amended (the "Plan"), and shall include and be subject to all provisions of the Plan, which are hereby incorporated herein by reference, and shall be subject to the provisions of this agreement. Capitalized terms used herein which are not specifically defined herein shall have the meanings ascribed to such terms in the Plan. This option shall be exercisable at any time on or after January 8, 2006 and prior to January 8, 2013, subject to the termination provisions of the Plan and this agreement. By:/s/ Robert D. Walter -------------------- Robert D. Walter Chairman and CEO -12- 1. Method of Exercise and Payment of Price (a) Method of Exercise. At any time when the Option is exercisable under the Plan and this agreement, the Option shall be exercised from time to time by written notice to the Company which shall: (i) state the number of Shares with respect to which the Option is being exercised; and (ii) if the Option is being exercised by anyone other than the Grantee, be accompanied by proof satisfactory to counsel for the Company of the right of such person or persons to exercise the Option under the Plan and all applicable laws and regulations. (b) Payment of Price. The full exercise price for the Option shall be paid to the Company as provided in the Plan. 2. Transferability. The Option shall be transferable (I) at the Grantee's death, by the Grantee by will or pursuant to the laws of descent and distribution, and (II) by the Grantee during the Grantee's lifetime, without payment of consideration, to (a) the spouse, former spouse, parents, stepparents, grandparents, parents-in-law, siblings, siblings-in-law, children, stepchildren, children-in-law, grandchildren, nieces, or nephews of the Grantee, or any other persons sharing the Grantee's household (other than tenants or employees) ("Family Members"), (b) a trust or trusts for the primary benefit of the Grantee or such Family Members, (c) a foundation in which the Grantee or such Family Members control the management of assets, or (d) a partnership in which the Grantee or such Family Members are the majority or controlling partners, provided that subsequent transfers of the transferred Option shall be prohibited except (X) if the transferee is an individual, at the transferee's death by the transferee by will or pursuant to the laws of descent and distribution and (Y) without payment of consideration to the individuals or entities listed in subitems II(a), (b), or (c), above, with respect to the original Grantee. The Human Resources and Compensation Committee of the Board of Directors of the Company (the "Committee") may, in its discretion, permit transfers to other persons and entities as permitted by the Plan. Neither a transfer under a domestic relations order in settlement of marital property rights nor a transfer to an entity in which more than fifty percent of the voting interests are owned by the Grantee or Family Members in exchange for an interest in that entity shall be considered to be a transfer for consideration. Within ten days of any transfer, the Grantee shall notify the Stock Option Administrator of the Company in writing of the transfer. Following transfer, the Option shall continue to be subject to the same terms and conditions as were applicable immediately prior to transfer and, except as otherwise provided in the Plan or this agreement, references to the original Grantee shall be deemed to refer to the transferee. The events of termination of employment of the Grantee provided in item 3 hereof shall continue to be applied with respect to the original Grantee, following which the Option shall be exercisable by the transferee only to the extent, and for the periods, specified in item 3. The Company shall have no obligation to notify any transferee of the Grantee's termination of employment with the Company for any reason. The conduct prohibited of Grantee in items 5 and 6 hereof -13- shall continue to be prohibited of Grantee following transfer to the same extent as immediately prior to transfer and the Option (or its economic value, as applicable) shall be subject to forfeiture by the transferee and recoupment from the Grantee to the same extent as would have been the case of the Grantee had the Option not been transferred. The Grantee shall remain subject to the recoupment provisions of items 5 and 6 of this agreement and tax withholding provisions of Section 13(d) of the Plan following transfer of the Option. 3. Termination of Relationship. (a) Termination by Death. If the Grantee's employment by the Company and its subsidiaries (collectively, the "Cardinal Group") terminates by reason of death, then, unless otherwise determined by the Committee within sixty days of such death, any unvested portion of the Option shall vest upon and become exercisable in full from and after the sixtieth day after such death. The Option may thereafter be exercised by any transferee of the Option, if applicable, or by the legal representative of the estate or by the legatee of the Grantee under the will of the Grantee for a period of one year (or such other period as the Committee may specify at or after grant or death) from the date of death or until the expiration of the stated term of the Option, whichever period is shorter. (b) Termination by Reason of Retirement or Disability. If the Grantee's employment by the Cardinal Group terminates prior to the Grant Vesting Date by reason of retirement or disability (each as defined in the Plan), then, unless otherwise determined by the Committee within sixty days of such retirement or disability, a Ratable Portion (defined below) of the Option will vest on the Grant Vesting Date. Such "Ratable Portion" shall be an amount equal to the number of Shares subject to the Option, multiplied by a fraction the numerator of which shall be the number of full months between the Grant Date and the date of retirement or disability, and the denominator of which shall be the number of full months from the Grant Date to the Grant Vesting Date. The Option may be exercised after the Grant Vesting Date by the Grantee (or any transferee, if applicable) until the earlier of the fifth anniversary of the date of such retirement or disability or the expiration of the stated term of the Option (the "Exercise Period"); provided, that any vesting that would otherwise occur during the sixty-day period beginning immediately after such retirement or disability shall not occur until the end of such sixty-day period. If the Grantee has at least fifteen years of service with the Cardinal Group at the time of retirement, the Option may be exercised after the Grant Vesting Date by the Grantee (or any transferee, if applicable) until the expiration of the stated term of the Option. Notwithstanding the foregoing, if the Grantee dies after retirement or disability but before the expiration of the Exercise Period, unless otherwise determined by the Committee within 60 days of such death, the Ratable Portion of the Option shall vest upon, and the Option may be exercised by any transferee of the Option, if applicable, or by the legal representative of the estate or by the legatee of the Grantee under the will of the Grantee from and after, the sixtieth day after such death for a period of one year (or such other period as the Committee may specify at or after grant or death) from the date of death or until the expiration of the Exercise Period, whichever period is shorter. -14- (c) Termination Without Cause. If the Grantee's employment by the Cardinal Group is terminated without Cause (as used in this agreement, "Cause" shall have the meaning set forth in the Employment Agreement dated as of January 8, 2003, between the Company and the Grantee), then any vested and unexercised portion of the Option may thereafter be exercised by the Grantee (or any transferee, if applicable) until the end of the Exercise Period. However, with respect to any and all unvested options as of the date of such termination without Cause, they shall all be forfeited, unless the Committee determines otherwise within 60 days of such termination. (d) Termination by the Cardinal Group for Cause. If the Grantee's employment by the Cardinal Group is terminated for Cause, all outstanding Options that have not been exercised shall immediately and automatically terminate, be forfeited, and cease to be exercisable at any time without regard to whether such Options are vested. (e) Other Termination of Employment. If the Grantee's employment by the Cardinal Group terminates for any reason other than death, retirement, disability or termination by the Company with or without Cause (subject to Section 10 of the Plan regarding acceleration of the vesting of the Option upon a Change of Control), any unexercised portion of the Option which has not vested on such date of termination will automatically terminate on the date of such termination. Unless otherwise determined by the Committee at or after grant or termination, the Grantee (or any transferee, if applicable) will have ninety days (or such other period as the Committee may specify at or after grant or termination) from the date of termination or until the expiration of the stated term of the Option, whichever period is shorter, to exercise any portion of the Option that is then vested and exercisable on the date of termination. 4. Restrictions on Exercise. The Option is subject to all restrictions in this agreement and/or in the Plan, and is subject to the covenants contained in Section 5 of the Employment Agreement. As a condition of any exercise of the Option, the Company may require the Grantee or his transferee or successor to make any representation and warranty to comply with any applicable law or regulation or to confirm any factual matters (including Grantee's compliance with the terms of items 5 and 6 of this agreement or any employment or severance agreement between any member of the Cardinal Group and the Grantee, including, without limitation, the terms of Section 5 of the Employment Agreement) reasonably requested by the Company. 5. Triggering Conduct/Competitor Triggering Conduct. As used in this agreement, "Triggering Conduct" shall include disclosing or using in any capacity other than as necessary in the performance of duties assigned by the Cardinal Group any confidential information, trade secrets or other business sensitive information or material concerning the Cardinal Group; violation of Company policies, including conduct which would constitute a breach of any of the Certificates of Compliance with Company Policies and/or Certificate of Compliance with Company Business Ethics Policies signed by the Grantee, directly or indirectly employing, -15- contacting concerning employment or participating in any way in the recruitment for employment (whether as an employee, officer, director, agent, consultant or independent contractor) any person who was or is an employee, representative, officer or director of the Cardinal Group at any time within the twelve months prior to the termination of Grantee's employment with the Cardinal Group; any action by Grantee and/or his representatives that either does or could reasonably be expected to undermine, diminish or otherwise damage the relationship between the Cardinal Group and any of its customers and/or potential customers, vendors and/or suppliers that were known to Grantee, and breaching any provision of any employment or severance agreement with a member of the Cardinal Group, including, without limitation, the terms of Section 5 of the Employment Agreement. As used herein, "Competitor Triggering Conduct" shall include, either during Grantee's employment or within one year following Grantee's termination of employment with the Cardinal Group, accepting employment with or serving as a consultant, advisor, or in any other capacity to an entity that is in competition with the business conducted by any member of the Cardinal Group (a "Competitor"), including, but not limited to, employment or another business relationship with any Competitor if Grantee has been introduced to trade secrets, confidential information or business sensitive information during Grantee's employment with the Cardinal Group and such information would aid the Competitor because the threat of disclosure of such information is so great that, for purposes of this agreement, it must be assumed that such disclosure would occur. 6. Special Forfeiture/Repayment Rules For so long as Grantee continues as an employee with the Cardinal Group and for three years following Grantee's termination of employment with the Cardinal Group regardless of the reason, Grantee agrees not to engage in Triggering Conduct. If Grantee engages in such Triggering Conduct during the time period set forth in the preceding sentence or in Competitor Triggering Conduct during the time period set forth in Section 5 above, then: (a) the Option (or any part thereof that has not been exercised) shall immediately and automatically terminate, be forfeited, and shall cease to be exercisable at any time; and (b) the Grantee shall, within 30 days following written notice from the Company, pay the Company an amount equal to the gross option gain realized or obtained by the Grantee or any transferee resulting from the exercise of such Option, measured at the date of exercise (i.e., the difference between the market value of the Option Shares on the exercise date and the exercise price paid for such Option Shares), with respect to any portion of the Option that has already been exercised at any time within three years prior to the Triggering Conduct (the "Look-Back Period"), less $1.00. If Grantee engages only in Competitor Triggering Conduct, then the Look-Back Period shall be shortened to exclude any period more than one year prior to Grantee's termination of employment with the Cardinal Group, but including any period between the time of Grantee's termination and engagement in Competitor Triggering Conduct. The Grantee may be released from Grantee's obligations under this item 6 only if the Committee (or its duly appointed designee) determines, in writing and in its sole discretion, that such action is in the best interests of the Company. Nothing in this item 6 -16- constitutes a so-called "noncompete" covenant. However, this item 6 does prohibit certain conduct while Grantee is associated with the Cardinal Group and thereafter and does provide for the forfeiture or repayment of the benefits granted by this agreement under certain circumstances, including but not limited to the Grantee's acceptance of employment with a Competitor. Grantee agrees to provide the Company with at least ten days written notice prior to directly or indirectly accepting employment with or serving as a consultant, advisor, or in any other capacity to a Competitor, and further agrees to inform any such new employer, before accepting employment, of the terms of this item 6 and the Grantee's continuing obligations contained herein. No provisions of this agreement shall diminish, negate, or otherwise impact any separate noncompete or other agreement to which Grantee may be a party, including but not limited to any of the Certificates of Compliance with Company Policies and/or Certificate of Compliance with Company Business Ethics Policies. Grantee acknowledges and agrees that the provisions contained in this item 6 are being made for the benefit of the Company in consideration of Grantee's receipt of the Option, in consideration of employment, in consideration of exposing Grantee to the Company's business operations and confidential information, and for other good and valuable consideration, the adequacy of which consideration is hereby expressly confirmed. Grantee further acknowledges that the receipt of the Option and execution of this agreement are voluntary actions on the part of Grantee, and that the Company is unwilling to provide the Option to Grantee without including this item 6. Further, the parties agree and acknowledge that the provisions contained in items 5 and 6 are material provisions to and part of an otherwise enforceable agreement at the time the agreement is made. 7. Right of Set-Off. By accepting this Option, the Grantee consents to a deduction from and set-off against any amounts owed to the Grantee by any member of the Cardinal Group from time to time (including but not limited to amounts owed to the Grantee as wages, severance payments, or other fringe benefits) to the extent of the amounts owed to the Cardinal Group by the Grantee under this agreement. 8. Governing Law/Venue. This agreement shall be governed by the laws of the State of Ohio, without regard to principles of conflicts of law, except to the extent superceded by the laws of the United States of America. The parties agree and acknowledge that the laws of the State of Ohio bear a substantial relationship to the parties and/or this agreement and that the Option and benefits granted herein would not be granted without the governance of this agreement by the laws of the State of Ohio. In addition, all legal actions or proceedings relating to this agreement shall be brought in state or federal courts located in Franklin County, Ohio, and the parties executing this agreement hereby consent to the personal jurisdiction of such courts. Grantee acknowledges that the covenants contained in items 5 and 6 of this agreement are reasonable in nature, are fundamental for the protection of the Company's legitimate business and proprietary interests, and do not adversely affect the Grantee's ability to earn a living in any capacity that does not violate such covenants. The parties further agree that in the event of any violation by Grantee of any such covenants, the Company will suffer immediate and irreparable injury for which there is no adequate remedy at law. In the event of any violation or attempted violations of item 5 or 6 of this agreement, the Company shall be entitled to -17- specific performance and injunctive relief or other equitable relief without any showing of irreparable harm or damage, and Grantee hereby waives any requirement for the securing or posting of any bond in connection with such remedy, without prejudice to the rights and remedies afforded the Company hereunder or by law. In the event that it becomes necessary for the Company to institute legal proceedings under this agreement, Grantee shall be responsible to the Company for all costs and reasonable legal fees incurred by the Company with regard to such proceedings. Any provision of this agreement which is determined by a court of competent jurisdiction to be invalid or unenforceable should be construed or limited in a manner that is valid and enforceable and that comes closest to the business objectives intended by such provision, without invalidating or rendering unenforceable the remaining provisions of this agreement. 9. Action by the Committee. The parties agree that the interpretation of this agreement shall rest exclusively and completely within the good faith province and discretion of the Committee. The parties agree to be bound by the decisions of the Committee with regard to the interpretation of this agreement and with regard to any and all matters set forth in this agreement. The Committee may delegate its functions under this agreement to an officer of the Cardinal Group designated by the Committee (hereinafter the "designee"). In fulfilling its responsibilities hereunder, the Committee or its designee may rely upon documents, written statements of the parties, or such other material as the Committee or its designee deems appropriate. The parties agree that there is no right to be heard or to appear before the Committee or its designee and that any decision of the Committee or its designee relating to this agreement, including without limitation whether particular conduct constitutes Triggering Conduct or Competitor Triggering Conduct, shall be final and binding unless such decision is arbitrary and capricious. 10. Prompt Acceptance of Agreement. The Option grant evidenced by this agreement shall, at the discretion of the Committee, be forfeited if this agreement is not executed by the Grantee and returned to the Company within ninety days of the Grant Date set forth on the first page of this agreement. -18- ACCEPTANCE OF AGREEMENT The Grantee hereby: (a) acknowledges receiving a copy of the Plan, which has either been previously delivered or is provided with this agreement, and represents that he is familiar with and understands all provisions of the Plan and this agreement; and (b) voluntarily and knowingly accepts this agreement and the Option granted to him under this agreement subject to all provisions of the Plan and this agreement. The Grantee further acknowledges receiving a copy of the Company's most recent Annual Report and other communications routinely distributed to the Company's shareholders and a copy of the Plan Description dated November 18, 2002, pertaining to the Plan. /s/ Gordon A. Troup -------------------------------- Signature Gordon A. Troup -------------------------------- Print Name ________________________________ Grantee's Social Security Number January 8, 2003 -------------------------------- Date -19- EX-10.03 5 l98799aexv10w03.txt EX-10.03 EMPLOYMENT AGREEMENT Exhibit 10.03 EMPLOYMENT AGREEMENT THIS AGREEMENT, dated and effective as of February 5, 2003 (the "Effective Date") is made and entered into by and between Cardinal Health, Inc., an Ohio corporation (the "Company"), and Stephen S. Thomas (the "Executive"). WHEREAS, the Company and the Executive are parties to that certain Employment Agreement dated as of July 1, 1999, which was supplemented by that certain Agreement dated as of February 9, 2000 (collectively, the "Prior Agreement"); WHEREAS, the Company and the Executive desire to set forth in a written agreement the terms and conditions under which the Executive will render services to the Company that will replace and supersede the Prior Agreement from and after the Effective Date. NOW, THEREFORE, the parties hereto, in consideration of the mutual covenants herein contained, and other good and valuable consideration, the receipt and sufficiency of which is hereby acknowledged, and intending to be legally bound hereby, agree as follows: 1. EMPLOYMENT PERIOD. The Company shall employ, or shall cause one of its subsidiaries or affiliates to employ, the Executive, and the Executive shall serve the Company, on the terms and conditions set forth in this Agreement, during the three-year period beginning on the Effective Date and ending on the third (3rd) anniversary of the Effective Date, unless prior to such date the employment of the Executive is terminated in accordance with Section 4 of this Agreement (such period, the "Employment Period"). For purposes of this Agreement, any reference to the "Company" shall mean, where appropriate, the actual Cardinal subsidiary or affiliate that employs the Executive. The Employment Period may be extended by mutual written agreement of the parties. The parties hereto agree and acknowledge that the Prior Agreement is and shall be considered terminated and superseded by this Agreement from and after the Effective Date. 2. POSITION AND DUTIES. (a) During the Employment Period, the Executive shall serve as Executive Vice President and Group President - Automation and Information Services, with the duties and responsibilities customarily assigned to such position, and such other duties and responsibilities as the President and Chief Executive Officer - Healthcare Products and Services of the Company shall from time to time assign to the Executive; provided that the Company may change the Executive's title, duties and responsibilities (including reporting responsibilities) at any time without violating this provision, so long as the Executive remains in an executive position. (b) To the fullest extent permissible under law, during the Employment Period, and excluding any periods of vacation and sick leave to which the Executive is entitled under the practices and policies of the Company as in effect from time to time, the Executive shall be required to devote the Executive's full business attention and time to the business and affairs of the Company, and shall use the Executive's reasonable best efforts to carry out such responsibilities faithfully and efficiently. It shall not be considered a violation of the foregoing for the Executive to (A) serve on corporate boards or committees with the prior consent of the Chief Executive Officer of the Company, (B) serve on civic or charitable boards or committees, (C) deliver lectures, fulfill speaking engagements or teach at educational institutions and (D) manage personal investments, so long as such activities do not materially interfere with the performance of the Executive's responsibilities as an employee of the Company in accordance with this Agreement. (c) As of the Effective Date, the Executive's services shall be performed primarily at the Company's offices located in San Diego, California. 3. COMPENSATION. (a) SALARY. During the Employment Period, as compensation for the Executive's services hereunder, the Company shall pay to the Executive an annual base salary (the "Base Salary") at the rate of not less than $408,000, payable at such times and intervals as the Company customarily pays the base salaries of its other executive employees; provided that the Base Salary may be reduced as part of a reduction that applies proportionately to all employees who are otherwise similar to the Executive with respect to amount of compensation and level of managerial responsibility before such reduction. (b) ANNUAL BONUS. In addition to the Base Salary, during the Employment Period the Executive shall be eligible to receive an annual bonus (an "Annual Bonus") determined and paid at the sole discretion of the Company pursuant to the terms and conditions of the Company bonus plan for which the Executive is then eligible, as such plan is in effect from time to time, or any successor thereto (the "Bonus Plan"). The parties hereto agree and acknowledge that the Executive's Annual Bonus target under this Agreement shall be equal to ninety percent (90%) of the Base Salary. (c) OPTION GRANT. As of February 5, 2003 (the "Grant Date"), the Company shall grant the Executive an option (the "Option") to purchase 50,000 common shares, without par value, of the Company ("Common Shares") pursuant to the terms and conditions set forth in the Nonqualified Stock Option Agreement attached to this Agreement as Exhibit A (the "Option Agreement"). The Option shall be exercisable at a price per share equal to the greater of $64.00 and the closing NYSE sales price for a Common Share on the Grant Date. The Executive acknowledges and agrees that he will not be eligible to receive annual grants of options to purchase Common Shares of the Company during the Company's fiscal year 2004, unless any such grant is authorized by the Human Resources and Compensation Subcommittee of the Board of Directors of the Company. (d) EMPLOYEE BENEFITS. During the Employment Period, the Executive shall be entitled to receive employee benefits (including, without limitation, medical, life insurance -2- and other welfare benefits and benefits under retirement and savings plans) and vacation to the same extent as, and on the same terms and conditions as, other similarly situated executives of the Company from time to time. (e) EXPENSES. The Executive shall be entitled to receive prompt reimbursement for all reasonable expenses incurred by the Executive during the Employment Period in carrying out the Executive's duties under this Agreement, provided that the Executive complies with the policies, practices and procedures of the Company then applicable to the Executive for submission of expense reports, receipts, or similar documentation of such expenses. 4. EMPLOYMENT TERMINATION. (a) TERMINATION BY THE COMPANY. During the Employment Period, the Executive's employment may be terminated by the Company under any of the following circumstances: (i) upon the inability of the Executive to perform the essential functions of his position with or without reasonable accommodation ("Incapacity"); (ii) for "Cause," defined as (A) any willful or grossly negligent conduct by Executive that demonstrably and materially injures the Company; (B) any act by the Executive of fraud or intentional misrepresentation or embezzlement, misappropriation or conversion of assets of the Company or any subsidiary; (C) the Executive being convicted of, confessing to, or becoming the subject of proceedings that provide a reasonable basis for the Company to believe the Executive has engaged in a felony or any crime involving dishonesty or moral turpitude; (D) the Executive's intentional and repeated violation of the written policies or procedures of the Company; (E) the Executive violating any provision of Section 5 of this Agreement; or (F) the Executive's willful and continued failure for a significant period of time to perform Executive's duties; and (iii) for any other reason (a termination without "Cause"). The Company shall give the Executive notice of termination (the "Company Notice of Termination") specifying which of the foregoing provisions is applicable and (in the case of clause (i) or (ii)) the factual basis therefor, and the termination shall be effective upon the 30th day after such Company Notice of Termination is given. Notwithstanding the foregoing, the termination shall not be effective upon the 30th day after such Company Notice of Termination is given if the Company Notice of Termination stipulates termination pursuant to clause 4(a)(ii) and the Executive delivers written notice to the Company within 14 calendar days of the date of such Company Notice of Termination notifying the Company that the Executive refutes the Company's factual basis or conclusion under clause 4(a)(ii) (the "Executive Notice of Refutation"). In such event, the Executive will have 30 calendar days from the date of delivery to the Company of the Executive Notice of Refutation to provide to the Chief Administrative Officer of the Company written documentation supporting the Executive's position stated in the Executive Notice of Refutation. The Chief Administrative Officer will forward such documentation to the members of the Human Resources and Compensation Committee of the Board of Directors of the Company (the "Compensation Committee"). A final determination regarding whether the Executive has engaged in any of the conduct described in clause 4(a)(ii) and, thus, whether the Executive is to be terminated for Cause, shall be made by the Compensation Committee and communicated to the Executive. Hereinafter, the date on which the Executive ceases to be an employee of the -3- Company for any reason (including, without limitation, by action of the Executive), whether or not during the Employment Period, is referred to as the "Date of Termination". (b) TERMINATION BY THE EXECUTIVE. The Executive may terminate his employment during the Employment Period for any reason upon 30 days advanced written notice to the Company. (c) CONSEQUENCES OF TERMINATION BY THE COMPANY WITHOUT CAUSE. If the Executive is terminated by the Company without Cause during the Employment Period, then the Executive shall not be entitled to any further compensation or benefits provided for under this Agreement except (x) as provided in the Option Agreement and (y) as provided in the following sentence. Under such circumstance, the Company shall: (i) Pay to the Executive an amount equal to one times the sum of (x) the Executive's Base Salary, at the rate in effect on the day immediately prior to the Date of Termination and (y) the Executive's Annual Bonus target for the fiscal year of the Company in which the Date of Termination occurs, such amount to be paid monthly in equal installments over the twelve (12) month period immediately following the Date of Termination; and (ii) Provide the vested benefits, if any, required to be paid or provided by law. Notwithstanding the foregoing, the Company's obligations to the Executive under this Section 4(c) shall immediately terminate, and the Executive shall not be entitled to any further compensation or benefits provided for under this Agreement or the Option Agreement in the event that the Executive violates any of the provisions of Section 5 of this Agreement. (d) OTHER EMPLOYMENT TERMINATIONS. If, during the Employment Period, the Executive's employment is terminated for any reason other than by the Company without Cause, including, without limitation, termination by the Executive, the Executive's retirement, Incapacity, death, or termination by the Company for Cause (subject only to Section 4(e) of this Agreement), the Executive shall not be entitled to any compensation provided for under this Agreement, other than (i) the Base Salary through the Date of Termination; (ii) benefits under any long-term disability insurance coverage in the case of termination because of Incapacity; (iii) vested benefits, if any, required to be paid or provided by law; and (iv) the benefits provided for under the Option Agreement, if any. (e) TERMINATION BY THE EXECUTIVE AFTER A CHANGE OF CONTROL. In the event that Executive has experienced a material diminution of his duties under Section 2(a) of this Agreement during the Employment Period and within one year after a "Change of Control" (as defined in the Cardinal Health, Inc. Amended and Restated Equity Incentive Plan, as amended from time to time, or any successor plan thereto), and as a result the Executive terminates his employment within one year after a Change of Control (as so defined), then the -4- Company shall pay to the Executive the severance payments and benefits as set forth in Section 4(c) of this Agreement; but the Company shall have no obligation to pay severance payments and benefits as set forth in Section 4(c) pursuant to this Section 4(e) if its actions were not taken in bad faith and if it did not fail to remedy its actions within ten business days after receipt of written notice thereof from the Executive. 5. COVENANTS. (a) INTRODUCTION. The parties acknowledge that the provisions and covenants contained in this Section 5 are ancillary and material to this Agreement and the Option Agreement and that the limitations contained herein are reasonable in geographic and temporal scope and do not impose a greater restriction or restraint than is necessary to protect the goodwill and other legitimate business interests of the Company. The parties also acknowledge and agree that the provisions of this Section 5 do not adversely affect the Executive's ability to earn a living in any capacity that does not violate the covenants contained herein. The parties further acknowledge and agree that the provisions of Section 11(a) below are accurate and necessary because (i) this Agreement is entered into in the State of Ohio, (ii) Ohio has a substantial relationship to the parties and to this transaction, (iii) Ohio is the headquarters state of the Company, which has operations nationwide and has a compelling interest in having its employees treated uniformly within the United States, (iv) the use of Ohio law provides certainty to the parties in any covenant litigation in the United States, and (v) enforcement of the provision of this Section 5 would not violate any fundamental public policy of Ohio or any other jurisdiction. (b) CONFIDENTIAL INFORMATION. The Executive shall hold in a fiduciary capacity for the benefit of the Company and all of its subsidiaries, partnerships, joint ventures, limited liability companies, and other affiliates (collectively, the "Cardinal Group"), all secret or confidential information, knowledge or data relating to the Cardinal Group and its businesses (including, without limitation, any proprietary and not publicly available information concerning any processes, methods, trade secrets, research, secret data, costs, names of users or purchasers of their respective products or services, business methods, operating procedures or programs or methods of promotion and sale) that the Executive has obtained or obtains during the Executive's employment by the Cardinal Group and that is not public knowledge (other than as a result of the Executive's violation of this Section 5(b)) ("Confidential Information"). For the purposes of this Section 5(b), information shall not be deemed to be publicly available merely because it is embraced by general disclosures or because individual features or combinations thereof are publicly available. The Executive shall not communicate, divulge or disseminate Confidential Information at any time during or after the Executive's employment with the Cardinal Group, except with the prior written consent of the Cardinal Group, as applicable, or as otherwise required by law or legal process. All records, files, memoranda, reports, customer lists, drawings, plans, documents and the like that the Executive uses, prepares or comes into contact with during the course of the Executive's employment shall remain the sole property of the Company and/or the Cardinal Group, as applicable, and shall be turned over to the applicable Cardinal Group company upon termination of the Executive's employment. -5- (c) NON-RECRUITMENT OF EMPLOYER'S EMPLOYEES, ETC. Executive shall not, at any time during the Restricted Period (as defined in this Section 5(c)), without the prior written consent of Cardinal Health, Inc., directly or indirectly, contact, solicit, or recruit (whether as an employee, officer, director, agent, consultant or independent contractor) any person who is or was at any time during the previous twenty four months an employee, representative, officer or director of the Cardinal Group. Further, during the Restricted Period, Executive shall not take any action that could reasonably be expected to have the effect of encouraging or inducing any employee, representative, officer or director of the Cardinal Group to cease their relationship with the Cardinal Group for any reason. This provision does not apply to recruitment of employees within or for the Cardinal Group. The "Restricted Period" means the period of Executive's employment with the Cardinal Group and the additional period that ends 24 months after the Executive's Date of Termination. (d) NO COMPETITION--SOLICITATION OF BUSINESS. For purposes of this Section 5(d), the "Restricted Period" means the period of Executive's employment with the Cardinal Group and the additional period that ends 12 months after the Executive's Date of Termination. During the Restricted Period, the Executive shall not (either directly or indirectly or as an officer, agent, employee, partner or director of any other company, partnership or entity) solicit on behalf of any competitor of the Cardinal Group the business of (i) any customer of the Cardinal Group at the time of the Executive's employment or Date of Termination, or (ii) potential customer of the Cardinal Group which the Executive knew to be an identified, prospective purchaser of services or products of the Cardinal Group provided that Executive's knowledge of the existence, purchasing habits, product preferences or commercial practices of that customer or potential customer exists because of Executive's receipt of confidential information, trade secrets or other non-public proprietary information from the Cardinal Group. (e) NO DISPARAGEMENT. (i) The Executive shall at all times refrain from taking actions or making statements, written or oral, that (A) denigrate, disparage or defame the goodwill or reputation of the Cardinal Group or any of its trustees, officers, security holders, partners, agents or former or current employees and directors, or (B) are intended to, or may be reasonably expected to, adversely affect the morale of the employees of the Cardinal Group. The Executive further agrees not to make any negative statements to third parties relating to the Executive's employment or any aspect of the businesses of the Cardinal Group and not to make any statements to third parties about the circumstances of the termination of the Executive's employment, or about the Cardinal Group or its trustees, officers, security holders, partners, agents or former or current employees and directors, except as may be required by a court or governmental body. (ii) The Executive further agrees that, following termination of employment for any reason, the Executive shall assist and cooperate with the Company with regard to any matter or project in which the Executive was involved during the Executive's employment with the Company, including but not limited to any litigation that may be pending or arise after such termination of employment. Further, the Executive agrees to -6- notify the Company at the earliest opportunity of any contact that is made by any third parties concerning any such matter or project. The Company shall not unreasonably request such cooperation of Executive and shall compensate the Executive for any lost wages or expenses associated with such cooperation and assistance. (f) INVENTIONS. All plans, discoveries and improvements, whether patentable or unpatentable, made or devised by the Executive, whether alone or jointly with others, from the date of the Executive's initial employment by the Company and continuing until the end of the Employment Period and any subsequent period when the Executive is employed by the Cardinal Group, relating or pertaining in any way to the Executive's employment with or the business of the Cardinal Group, shall be promptly disclosed in writing to the Chief Executive Officer and are hereby transferred to and shall redound to the benefit of the Company, and shall become and remain its sole and exclusive property. The Executive agrees to execute any assignments to the Company or its nominee, of the Executive's entire right, title and interest in and to any such discoveries and improvements and to execute any other instruments and documents requisite or desirable in applying for and obtaining patents, trademarks or copyrights, at the expense of the Company, with respect thereto in the United States and in all foreign countries, that may be required by the Company. The Executive further agrees, during and after the Employment Period, to cooperate to the extent and in the manner required by the Company, in the prosecution or defense of any patent or copyright claims or any litigation, or other proceeding involving any trade secrets, processes, discoveries or improvements covered by this Agreement, but all necessary expenses thereof shall be paid by the Company. All results and proceeds of Executive's services, work and labor during the Employment Period shall be deemed to be works-made-for-hire for the Company within the meaning of the copyright laws of the United States, and the Company shall be deemed to be the sole author thereof in all territories and for all purposes. This Agreement does not apply to any invention that qualifies fully with and under the provisions of California Labor Code Section 2870 which provides as follows: "Section 2870. Application of provision that employee shall assign or offer to assign rights in invention to employer (a) Any provision in an employment agreement which provides that an employee shall assign, or offer to assign, any of his or her rights in an invention to his or her employer shall not apply to an invention that the employee developed entirely on his or her own time without using the employer's equipment, supplies, facilities, or trade secret information except for those inventions that either: (1) Relate at the time of conception or reduction to practice of the invention to the employer's business, or actual or demonstrably anticipated research or development of the employer; or (2) Result from any work performed by the employee for the employer. -7- (b) To the extent a provision in an employment agreement purports to require an employee to assign an invention otherwise excluded from being required to be assigned under subdivision (a), the provision is against the public policy of this state and is unenforceable." (g) ACKNOWLEDGMENT AND ENFORCEMENT. (i) The Executive acknowledges and agrees that: (A) the purpose of the foregoing covenants, including without limitation the noncompetition covenants of Section 5(d), is to protect the goodwill, trade secrets and other Confidential Information of the Company; (B) because of the nature of the business in which the Cardinal Group is engaged and because of the nature of the Confidential Information to which the Executive has access, the Company would suffer irreparable harm and it would be impractical and excessively difficult to determine the actual damages of the Cardinal Group in the event the Executive breached any of the covenants of this Section 5; and (C) remedies at law (such as monetary damages) for any breach of the Executive's obligations under this Section 5 would be inadequate. The Executive therefore agrees and consents that if the Executive commits any breach of a covenant under this Section 5 or threatens to commit any such breach, the Company shall have the right (in addition to, and not in lieu of, any other right or remedy that may be available to it) to temporary and permanent injunctive relief from a court of competent jurisdiction, without posting any bond or other security and without the necessity of proof of actual damage. (ii) In addition, in the event of a violation of this Section 5, the Company shall have the right to require the Executive to pay to the Company all or any portion of the Clawback Amount (as defined below) within 30 days following written notice by the Company to the Executive (the "Company Notice") that it is imposing such requirement. The "Clawback Amount" means the sum of: A. the amount equal to the gross gain realized or obtained by the Executive resulting from the vesting of the restricted stock (which have since been converted to Restricted Share Units) (the "Additional Incentive Shares") granted to the Executive pursuant to the Restricted Shares Agreement attached to the Prior Agreement as Exhibit A, measured at the date of vesting (i.e., the market value of the Additional Incentive Shares on the vesting date); B. if (x) the Executive has sold or otherwise disposed of any of the Additional Incentive Shares, an amount equal to the excess of (I) the fair market value thereof on the date of the sale or disposition over (II) the fair market value thereof on the date such shares vested, and if (y) the Executive has not sold or otherwise disposed of the Additional Incentive Shares, an amount equal to the excess of (I) the fair market value thereof on the 30th day following the date of the Company Notice over (II) the fair market value thereof on the date such shares vested; and C. if the Executive has exercised any stock options granted to the Executive by the Cardinal Group within three years before a violation of Section 5(b), 5(c), 5(e) or 5(f) or within one year before a violation of Section 5(d), an amount equal to the gross option gain realized or obtained by the Executive or any transferee resulting from the -8- exercise of such stock option, measured at the date of exercise (i.e., the difference between the fair market value of the purchased stock on the date of exercise and the exercise price paid by the Executive therefor). In addition to the foregoing, in the event of a violation of this Section 5, all outstanding stock options granted to the Executive by the Cardinal Group that have not been exercised shall immediately and automatically terminate, be forfeited, and cease to be exercisable at any time. (iii) With respect to any provision of this Section 5 finally determined by a court of competent jurisdiction to be unenforceable, the Executive and the Company hereby agree that such court shall have jurisdiction to reform this Agreement or any provision hereof so that it is enforceable to the maximum extent permitted by law, and the parties agree to abide by such court's determination. If any of the covenants of this Section 5 are determined to be wholly or partially unenforceable in any jurisdiction, such determination shall not be a bar to or in any way diminish the Company's right to enforce any such covenant in any other jurisdiction. 6. NON-EXCLUSIVITY OF RIGHTS. Nothing in this Agreement shall prevent or limit the Executive's continuing or future participation in any plan, program, policy or practice provided by the Cardinal Group for which the Executive may qualify, nor, subject to Section 9 below, shall anything in this Agreement limit or otherwise affect such rights as the Executive may have under any contract or agreement with the Cardinal Group. Vested benefits and other amounts that the Executive is otherwise entitled to receive under any plan, policy, practice or program of, or any contract or agreement with, the Cardinal Group on or after the Date of Termination shall be payable in accordance with such plan, policy, practice, program, contract or agreement, as the case may be, except as explicitly modified by this Agreement. Notwithstanding the foregoing, the Executive waives all of the Executive's rights to receive severance payments and benefits under any severance plan, policy or practice of the Cardinal Group or any entity merged with or into the Cardinal Group (or any part thereof) except to the extent provided for in this Agreement. 7. NO MITIGATION. In no event shall the Executive be obligated to seek other employment or take any other action by way of mitigation of the amounts payable to the Executive under any of the provisions of this Agreement and such amounts shall not be reduced, regardless of whether the Executive obtains other employment. 8. NOTICES. (a) METHODS. Each notice, demand, request, consent, report, approval or communication (hereinafter, "Notice") which is or may be required to be given by any party to any other party in connection with this Agreement, shall be in writing, and given by facsimile, personal delivery, receipted delivery services, or by certified mail, return receipt requested, prepaid and properly addressed to the party to be served as shown in Section 8(b) below. -9- (b) ADDRESSES. Notices shall be effective on the date sent via facsimile, the date delivered personally or by receipted delivery service, or three days after the date mailed: If to the Company: Cardinal Health, Inc. 7000 Cardinal Place Dublin, OH 43017 Attn.: Chief Legal Officer Facsimile: (614) 757-6948 If to the Executive: At the Executive's residence address most recently on the books and records of the Company. (c) CHANGES. Each party may designate by Notice to the other in writing, given in the foregoing manner, a new address to which any Notice may thereafter be so given, served or sent. 9. ENTIRE AGREEMENT. This Agreement constitutes the entire agreement of the parties with respect to the subject matter hereof and supersedes all prior agreements with respect thereto, including, without limitation, the Prior Agreement. 10. SUCCESSORS. (a) EXECUTIVE. This Agreement is personal to the Executive and, without the prior written consent of the Company, shall not be assignable by the Executive otherwise than by will or the laws of descent and distribution. This Agreement shall inure to the benefit of and be enforceable by the Executive's legal representatives. (b) THE COMPANY. This Agreement shall inure to the benefit of and be binding upon the Company and its successors and assigns. (c) The Company may assign this Agreement to any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and/or assets of the Company that expressly agrees to assume and perform this Agreement in the same manner and to the same extent that the Company would have been required to perform it if no such assignment had taken place. As used in this Agreement, "Company" shall mean both the Company as defined above and any such successor that assumes and agrees to perform this Agreement, by operation of law or otherwise. 11. MISCELLANEOUS. (a) GOVERNING LAW. This Agreement shall be governed by, and construed in accordance with, the laws of Ohio, without reference to principles of conflict of laws. In addition, all legal actions or proceedings relating to this Agreement shall be brought in state or federal courts located in Franklin County, Ohio, and the parties executing this Agreement hereby consent to the personal jurisdiction of such courts. This -10- Agreement may not be amended or modified except by a written agreement executed by the parties hereto or their respective successors and legal representatives. (b) SEVERABILITY. The invalidity or unenforceability of any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement. If any provision of this Agreement shall be held invalid or unenforceable in part, the remaining portion of such provision, together with all other provisions of this Agreement, shall remain valid and enforceable and continue in full force and effect to the fullest extent consistent with law. (c) TAX WITHHOLDING. Notwithstanding any other provision of this Agreement, the Company may withhold from amounts payable under this Agreement all federal, state, local and foreign taxes that are required to be withheld by applicable laws or regulations. (d) NO WAIVER. The Executive's or the Company's failure to insist upon strict compliance with any provision of, or to assert any right under, this Agreement shall not be deemed to be a waiver of such provision or right or of any other provision of or right under this Agreement. (e) WARRANTY. The Executive hereby warrants that the Executive is free to enter into this Agreement and to perform the services described herein. (f) HEADINGS. The Section headings contained in this Agreement are for convenience only and in no manner shall be construed as part of this Agreement. (g) COUNTERPARTS. This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original but all of which together shall constitute one and the same instrument. (h) SURVIVAL. The obligations under this Agreement of the Executive and the Company that by their nature and terms require (or may require) satisfaction after the end of the Employment Period shall survive such event and shall remain binding upon such parties. -11- IN WITNESS WHEREOF, the Executive has hereunto set his hand and, pursuant to the authorization of the Executive Committee of its Board of Directors, the Company has caused this Agreement to be executed in its name on its behalf, all as of the day and year first above written. EXECUTIVE /s/ Stephen S. Thomas ---------------------- Stephen S. Thomas CARDINAL HEALTH, INC. By /s/ Anthony J. Rucci ---------------------------- Anthony J. Rucci Executive Vice President & Chief Administrative Officer -12- EXHIBIT A CARDINAL HEALTH, INC. NONQUALIFIED STOCK OPTION AGREEMENT Dollars at Work: $3,200,000 Grant Date: February 5, 2003 Exercise Price: $64.00 Grant vesting date: February 5, 2006 Grant expiration date: February 5, 2013 Cardinal Health, Inc., an Ohio corporation (the "Company"), has granted to Stephen S. Thomas ("Grantee"), an option (the "Option") to purchase 50,000 shares (the "Shares") of common stock in the Company for a total purchase price (typically known as Dollars at Work) of $3,200,000, (i.e., the equivalent of $64.00 for each full Share). The Option has been granted under the Cardinal Health, Inc. Amended and Restated Equity Incentive Plan, as amended (the "Plan"), and will include and be subject to all provisions of the Plan, which are incorporated herein by reference, and will be subject to the provisions of this agreement. Capitalized terms used in this agreement which are not specifically defined will have the meanings ascribed to such terms in the Plan. This Option shall be exercisable at any time on or after February 5, 2006 and prior to February 5,2013. By: /s/ Anthony J. Rucci ---------------------------- Anthony J. Rucci Executive Vice President & Chief Administrative Officer -13- 1. Method of Exercise and Payment of Price (a) Method of Exercise. At any time when the Option is exercisable under the Plan and this agreement, the Option may be exercised from time to time by written notice to the Company which will: (i) state the number of Shares with respect to which the Option is being exercised; and (ii) if the Option is being exercised by anyone other than the Grantee, be accompanied by proof satisfactory to counsel for the Company of the right of such person or persons to exercise the Option under the Plan and all applicable laws and regulations. (b) Payment of Price. The full exercise price for the Option shall be paid to the Company as provided in the Plan. 2. Transferability. The Option shall be transferable (I) at the Grantee's death, by the Grantee by will or pursuant to the laws of descent and distribution, and (II) by the Grantee during the Grantee's lifetime, without payment of consideration, to (a) the spouse, former spouse, parents, stepparents, grandparents, parents-in-law, siblings, siblings-in-law, children, stepchildren, children-in-law, grandchildren, nieces, or nephews of the Grantee, or any other persons sharing the Grantee's household (other than tenants or employees) ("Family Members"), (b) a trust or trusts for the primary benefit of the Grantee or such Family Members, (c) a foundation in which the Grantee or such Family Members control the management of assets, or (d) a partnership in which the Grantee or such Family Members are the majority or controlling partners, provided that subsequent transfers of the transferred Option shall be prohibited except (X) if the transferee is an individual, at the transferee's death by the transferee by will or pursuant to the laws of descent and distribution and (Y) without payment of consideration to the individuals or entities listed in subparagraphs II(a), (b), or (c), above, with respect to the original Grantee. The Human Resources and Compensation Committee of the Board of Directors of the Company (the "Committee") may, in its discretion, permit transfers to other persons and entities as permitted by the Plan. Neither a transfer under a domestic relations order in settlement of marital property rights nor a transfer to an entity in which more than fifty percent of the voting interests are owned by the Grantee or Family Members in exchange for an interest in that entity shall be considered to be a transfer for consideration. Within ten days of any transfer, the Grantee shall notify the Stock Option Administrator of the Company in writing of the transfer. Following transfer, the Option shall continue to be subject to the same terms and conditions as were applicable immediately prior to transfer and, except as otherwise provided in the Plan or this agreement, references to the original Grantee shall be deemed to refer to the transferee. The events of termination of employment of the Grantee provided in paragraph 3 hereof shall continue to be applied with respect to the original Grantee, following which the Option shall be exercisable by the transferee only to the extent, and for the periods, specified in paragraph 3. The Company shall have no obligation to notify any transferee of the Grantee's termination of employment with the Company for any reason. The conduct prohibited of Grantee in -14- paragraphs 5 through 7 and if applicable, paragraph 11 hereof shall continue to be prohibited of Grantee following transfer to the same extent as immediately prior to transfer and the Option (or its economic value, as applicable) shall be subject to forfeiture by the transferee and recoupment from the Grantee to the same extent as would have been the case of the Grantee had the Option not been transferred. The Grantee shall remain subject to the recoupment provisions of paragraph 13 of this agreement and tax withholding provisions of Section 13(d) of the Plan following transfer of the Option. 3. Termination of Relationship. (a) Termination by Death. If the Grantee's employment by the Company and its subsidiaries (collectively, the "Cardinal Group") terminates by reason of death, then, unless otherwise determined by the Committee within sixty days of such death, any unvested portion of the Option shall vest upon and become exercisable in full from and after the sixtieth day after such death. The Option may thereafter be exercised by any transferee of the Option, if applicable, or by the legal representative of the estate or by the legatee of the Grantee under the will of the Grantee for a period of one year (or such other period as the Committee may specify at or after grant or death) from the date of death or until the expiration of the stated term of the Option, whichever period is shorter. (b) Termination by Reason of Retirement or Disability. If the Grantee's employment by the Cardinal Group terminates prior to the Grant Vesting Date by reason of retirement or disability (each as defined in the Plan) or Incapacity (as defined in the Employment Agreement dated as of February 5, 2003 between the Company and Grantee), then, unless otherwise determined by the Committee within sixty days of such retirement, disability, or Incapacity, a Ratable Portion (defined below) of the Option will vest on the Grant Vesting Date. Such "Ratable Portion" shall be an amount equal to the number of Shares the subject of the Option, multiplied by a fraction the numerator of which shall be the number of full months between the Grant Date and the date of retirement or disability, and the denominator of which shall be the number of full months from the Grant Date to the Grant Vesting Date. The Option may be exercised after the Grant Vesting Date by the Grantee (or any transferee, if applicable) until the earlier of (the "Exercise Period") the fifth anniversary of the date of such retirement or disability or the expiration of the stated term of the Option; provided, that any vesting that would otherwise occur during the sixty-day period beginning immediately after such retirement or disability shall not occur until the end of such sixty-day period. If the Grantee has at least fifteen years of service with the Cardinal Group at the time of retirement, the Option may be exercised after the Grant Vesting Date by the Grantee (or any transferee, if applicable) until the expiration of the stated term of the Option. Notwithstanding the foregoing, if the Grantee dies after retirement or disability but before the expiration of the Exercise Period, unless otherwise determined by the Committee within 60 days of such death, the Ratable Portion of the Option shall vest upon, and the Option may be exercised by any transferee of the Option, if applicable, or by the legal representative of the estate or by the legatee of the Grantee under the will of the Grantee from and after, the sixtieth day after such death for a period of one year (or such other period as the Committee may specify at or after -15- grant or death) from the date of death or until the expiration of the Exercise Period, whichever period is shorter. (c) Termination Without Cause. For purposes of this Section 3(c), "Cause" is defined as (A) any willful or grossly negligent conduct by Grantee that demonstrably and materially injures the Company; (B) any act by the Grantee of fraud or intentional misrepresentation or embezzlement, misappropriation or conversion of assets of the Company or any subsidiary; (C) the Grantee being convicted of, confessing to, or becoming the subject of proceedings that provide a reasonable basis for the Company to believe the Grantee has engaged in a felony or any crime involving dishonesty or moral turpitude; (D) the Grantee's intentional and repeated violation of the written policies or procedures of the Company; (E) the Grantee violating any provision of Section 5 of Grantee's Employment Agreement; or (F) the Grantee's willful and continued failure for a significant period of time to perform Grantee's duties. If the Grantee's employment by the Cardinal Group is terminated without Cause, then any vested and unexercised portion of the Option may thereafter be exercised by the Grantee (or any transferee, if applicable) until the end of the Exercise Period; provided, however, any portion of the Option that has not vested as of the date of such termination without Cause will automatically terminate on the date of such termination, unless the Committee determines otherwise within 60 days of such termination. (d) Other Termination of Employment. If the Grantee's employment by the Cardinal Group terminates for any reason other than death, retirement, disability, Incapacity or a termination without Cause (subject to Section 10 of the Plan regarding acceleration of the vesting of the Option upon a Change of Control), any unexercised portion of the Option which has not vested on such date of termination will automatically terminate on the date of such termination. Unless otherwise determined by the Committee at or after grant or termination, the Grantee (or any transferee, if applicable) will have ninety days (or such other period as the Committee may specify at or after grant or termination) from the date of termination or until the expiration of the stated term of the Option, whichever period is shorter, to exercise any portion of the Option that is then vested and exercisable on the date of termination; provided, however, that if the termination was for Cause, as determined by the Committee, the Option may be immediately canceled by the Committee (whether then held by Grantee or any transferee). 4. Restrictions on Exercise. The Option is subject to all restrictions in this agreement and/or in the Plan. As a condition of any exercise of the Option, the Company may require the Grantee or his transferee or successor to make any representation and warranty to comply with any applicable law or regulation or to confirm any factual matters (including Grantee's compliance with the terms of paragraphs 5 through 7 and, if applicable, paragraph 11 of this agreement or any employment or severance agreement between any member of the Cardinal Group and the Grantee) reasonably requested by the Company. 5. Agreement Not to Disclose or Use Confidential Information, Trade Secrets or Other Business Sensitive Information. The parties acknowledge and agree that the Cardinal Group -16- is the sole and exclusive owner of Confidential Information, Trade Secrets and Other Business Sensitive Information (as defined below) and that the Cardinal Group has legitimate business interests in protecting such information. The parties further acknowledge and agree that the Cardinal Group has invested, and continues to invest, considerable amounts of time and money in obtaining, developing, and preserving the confidentiality of such information. Further, the parties agree that, because of the trust and fiduciary relationship arising between the Grantee and the Cardinal Group, Grantee owes the Cardinal Group a fiduciary duty to preserve and protect such information from all unauthorized disclosure and use. Grantee shall not, directly or indirectly, disclose such information to any third party whatsoever and shall not use such information except as authorized in the reasonable performance of Grantee's duties while employed by the Cardinal Group. Confidential Information, Trade Secrets and/or Business Sensitive Information shall include any such information as defined by applicable law and any information about the business of the Cardinal Group and its customers that is not generally known to, or readily ascertainable, by the public, including, but not limited to: financial information and models, customer lists, business plans or strategies, marketing and sales plans or strategies, identity, compensation, and qualifications of employees of the Cardinal Group, sources of supply, pricing policies, operational methods, product specification or technical processes, new product information, formulation techniques, customer contacts, profit or cost information, research and development information, or other information that the Cardinal Group has developed or compiled. 6. Delivery of Company Property. Grantee recognizes and agrees that all documents, magnetic media, computer disks, desktop and laptop computers, and other tangible items which were provided by the Cardinal Group and/or that contain Confidential Information, Trade Secrets or Other Business Sensitive Information as defined above are the sole and exclusive property of the Cardinal Group. Upon request by the Cardinal Group, Grantee shall promptly and immediately return to the Cardinal Group all such documents, media, disks, desktop and laptop computers, and other tangible items. Upon the termination of Grantee's employment with the Cardinal Group, Grantee shall promptly and immediately return to the Cardinal Group all such documents, media, disks, desktop and laptop computers or other tangible items, without request by the Cardinal Group. Grantee shall not take any such information or make/retain copies of such information for any purpose whatsoever except as is necessary for the reasonable performance of Grantee's duties while employed by the Cardinal Group. 7. Other Covenants. Except as modified by paragraph 11 below, Grantee hereby covenants and agrees that, in consideration of the grant hereunder, Grantee shall not, either directly or indirectly, on Grantee's own behalf or on any other's behalf, engage in or assist others in any of the following activities: (a) Grantee shall not engage in any action or conduct that is a violation of the policies of the Cardinal Group, including conduct that would constitute a breach of any of the Certificates of Compliance with Company Policies and/or Certificate of Compliance with Business Ethics Policies executed by Grantee; -17- (b) During Grantee's employment with the Cardinal Group and for two (2) years following the termination of such employment for any reason, Grantee shall not directly or indirectly contact concerning employment, or participate in any manner in the recruitment for employment (whether as an employee, officer, director, agent, consultant, or independent contractor) any person who was or is an employee, representative, officer, or director of the Cardinal Group at any time within the twelve (12) months prior to the termination of Grantee's employment with the Cardinal Group; (c) During Grantee's employment with the Cardinal Group and for two (2) years following the termination of such employment for any reason, Grantee shall not engage in any action or conduct that either does or could reasonably be expected to undermine, diminish, or otherwise damage the relationship between the Cardinal Group and any of its customers and/or potential customers, vendors and/or suppliers that were known to Grantee in the performance of Grantee's job duties while employed with the Cardinal Group, nor shall Grantee at any time during employment with the Cardinal Group or at any time thereafter disparage the Cardinal Group or any of its employees, officers, representatives, services or products; (d) During Grantee's employment with the Cardinal Group and for twelve (12) months following the termination of such employment for any reason, Grantee shall not solicit or accept business, of the same type as that in which Grantee was employed by the Cardinal Group, from any customer and/or potential customer, as well as vendor or supplier, of the Cardinal Group that was known to Grantee in the performance of Grantee's job duties while employed with the Cardinal Group, nor shall Grantee during such time period solicit or accept such business within any geographic area in which Grantee was assigned or for which Grantee had any managerial responsibility; (e) During Grantee's employment with the Cardinal Group and for twelve (12) months following the termination of such employment for any reason, Grantee shall not accept employment with or serve as a consultant, advisor, or act in any other capacity to an entity that is in competition with the business conducted by any member of the Cardinal Group within a geographic area in which Grantee was assigned or for which Grantee had any managerial responsibility; and (f) Grantee shall not breach or violate any provision of any employment or severance agreement that Grantee has with any member of the Cardinal Group. 8. Inevitable Disclosure. The parties specifically acknowledge and agree that the provisions of this agreement are reasonable in light of the fact that, in the event that Grantee would become employed or otherwise associated with a competitor of the Cardinal Group, it would be inevitable that Grantee would disclose trade secrets, confidential information, and/or other business sensitive information to such competitor. The parties acknowledge and agree -18- that Grantee has been introduced by the Cardinal Group to such trade secrets, confidential information, and/or other business sensitive information and that such information would aid the competitor and that the threat of such inevitable disclosure is so great that, for purposes of this agreement, it must be assumed that such disclosure would occur. 9. Covenants Are Independent Elements. The parties acknowledge that the obligations and covenants set forth in paragraphs 5 through 8 above are essential independent elements of this grant and that, but for Grantee agreeing to comply with them, the Cardinal Group would not have granted such Option to Grantee. The parties agree and acknowledge that the provisions contained in paragraphs 5 through 8 and, if applicable, paragraph 11 are ancillary to or part of an otherwise enforceable agreement at the time the agreement is made with regard to such paragraphs. The existence of any claim by Grantee against the Cardinal Group, whether based on this agreement or otherwise, shall not operate as a defense to the enforcement of the covenants contained in paragraphs 5 through 8 and, if applicable, paragraph 11. The covenants contained in paragraphs 5 through 7 and, if applicable, paragraph 11, will remain in full force and effect whether Grantee is terminated by the Cardinal Group or voluntarily resigns. 10. Assignment of Covenants. The rights of the Cardinal Group under this agreement shall inure to the benefit of and be binding upon its successors and assigns. Any successor or assign of the Cardinal Group is authorized to enforce the covenants contained in this agreement. Any successor or assign of the Cardinal Group is authorized by the parties to enforce the covenants contained herein as if the name of such successor or assign shall replace the Cardinal Group throughout this agreement and any consent and/or notice, written or otherwise, is hereby waived and deemed unnecessary by the Grantee. 11. California Specific Modifications. This paragraph shall supersede and modify the covenants, obligations, and restrictions of Grantee set forth in paragraph 7 above in the event that, and only during such time that, Grantee's principal employment with the Cardinal Group is in the State of California. In the event that any of the covenants contained in paragraph 7 above are inconsistent with the provisions set forth below with regard to the State of California, then the provisions of this paragraph shall govern. In the event that Grantee is reassigned to any other State within the United States of America or any other country, then the provisions of paragraph 7 above shall apply in full force and effect. The provisions contained in paragraph 7(c)-(e) of this agreement shall not apply and the following provisions will apply instead (a) Within the geographic area in which Grantee was assigned or for which Grantee had any managerial responsibility, Grantee shall not solicit or actually transact business with any existing customer of the Cardinal Group, during Grantee's employment with the Cardinal Group and for twelve (12) months following termination of such employment for any reason, where Grantee's knowledge of the existence of that customer or of that customer's purchasing habits, product -19- preferences, or commercial practices exists because of Grantee's receipt of confidential information, trade secrets or other proprietary information from the Cardinal Group; and/or (b) Regardless of geographic area, Grantee shall not, during the period of Grantee's employment with the Cardinal Group and for twelve (12) months following termination of such employment for any reason, solicit business from any customers of the same type as the business of the Cardinal Group at the time of the termination of Grantee's employment with the Cardinal Group whose identities are not already within the public domain if Grantee directly serviced such customers, was assigned to such customers, was responsible for such customers, or otherwise had personal contact with such customers during the twelve (12) month period immediately preceding expiration of Grantee's employment with the Cardinal Group. 12. Reasonableness of Restrictions Contained in Agreement. Grantee acknowledges that the covenants contained in this agreement are reasonable in nature, are fundamental for the protection of the legitimate business and proprietary interests of the Cardinal Group, are necessary to protect the goodwill between the Cardinal Group and its customers, and do not adversely affect the Grantee's ability to earn a living in any capacity that does not violate such covenants. The parties further agree that in the event of any violation by Grantee of any such covenants, the Company will suffer immediate and irreparable injury for which there is no adequate remedy at law. 13. Special Forfeiture/Repayment Rules. If Grantee engages in conduct that is in violation of the covenants and restrictions contained in this agreement, then Grantee shall be subject to the following special forfeiture/repayment rules in addition to any other remedy that the Cardinal Group may have: (a) the Option granted under this agreement (or any part thereof that has not been exercised) shall immediately and automatically terminate, be forfeited, and shall cease to be exercisable at any time; and (b) the Grantee shall, within 30 days following written notice from the Company, pay the Company an amount equal to the gross option gain realized or obtained by the Grantee or any transferee resulting from the exercise of such Option, measured at the date of exercise (i.e., the difference between the market value of the Option Shares on the exercise date and the exercise price paid for such Option Shares), with respect to any portion of the Option that has already been exercised at any time within three years prior to the conduct by Grantee that is in violation of the covenants and restrictions of this agreement (the "Look-Back Period"), less $1.00. The Grantee may be released from Grantee's obligations under this paragraph only if the Committee (or its duly appointed designee) determines, in writing and in its sole discretion, -20- that such action is in the best interests of the Company. Grantee agrees to provide the Company with at least ten days written notice prior to directly or indirectly accepting employment with or serving as a consultant, advisor, or in any other capacity to a competitor of the Cardinal Group, and further agrees to inform any such new employer, before accepting employment, of the terms of this agreement and the Grantee's continuing obligations contained herein. No provisions of this agreement shall diminish, negate, or otherwise impact any separate noncompete or other agreement to which Grantee may be a party, including but not limited to any of the Certificates of Compliance with Company Policies and/or Certificate of Compliance with Company Business Ethics Policies provided, however, that to the extent that any such provisions contained in any other agreement is inconsistent in any manner to the restrictions and covenants of Grantee contained in this agreement, the provisions of this agreement shall take precedent and such other inconsistent provisions shall be null and void. Grantee acknowledges and agrees that the restrictions and covenants of Grantee contained in this agreement are being made for the benefit of the Company in consideration of Grantee's receipt of the Option, in consideration of employment, in consideration of exposing Grantee to the Company's business operations and confidential information, and for other good and valuable consideration, the adequacy of which consideration is hereby expressly confirmed. Grantee further acknowledges that the receipt of the Option and execution of this agreement are voluntary actions on the part of Grantee, and that the Company is unwilling to provide the Option to Grantee without including the restrictions and covenants of Grantee contained in this agreement. 14. Right of Set-Off. By accepting this Option, the Grantee consents to a deduction from and set-off against any amounts owed to the Grantee by any member of the Cardinal Group from time to time (including but not limited to amounts owed to the Grantee as wages, severance payments, or other fringe benefits) to the extent of the amounts owed to the Cardinal Group by the Grantee under this agreement. 15. Governing Law/Venue. This agreement shall be governed by the laws of the State of Ohio, without regard to principles of conflicts of law, except to the extent superseded by the laws of the United States of America. The parties agree and acknowledge that the laws of the State of Ohio bear a substantial relationship to the parties and/or this agreement and that the Option and benefits granted herein would not be granted without the governance of this agreement by the laws of the State of Ohio. In addition, all legal actions or proceedings relating to this agreement shall be brought in state or federal courts located in Franklin County, Ohio, and the parties executing this agreement hereby consent to the personal jurisdiction of such courts. In the event of any violation or attempted violations of the restrictions and covenants of Grantee contained in this agreement, the Cardinal Group shall be entitled to specific performance and injunctive relief or other equitable relief, including the issuance ex parte of a temporary restraining order, without any showing of irreparable harm or damage, such irreparable harm being acknowledged and admitted by Grantee, and Grantee hereby waives any requirement for the securing or posting of any bond in connection with such remedy, without prejudice to the rights and remedies afforded the Cardinal Group hereunder or by law. In the event that it becomes necessary for the Cardinal Group to -21- institute legal proceedings under this agreement, Grantee shall be responsible to the Company for all costs and reasonable legal fees incurred by the Company with regard to such proceedings. Any provision of this agreement which is determined by a court of competent jurisdiction to be invalid or unenforceable should be construed or limited in a manner that is valid and enforceable and that comes closest to the business objectives intended by such provision, without invalidating or rendering unenforceable the remaining provisions of this agreement. 16. Action by the Committee. The parties agree that the interpretation of this agreement shall rest exclusively and completely within the good faith province and discretion of the Committee. The parties agree to be bound by the decisions of the Committee with regard to the interpretation of this agreement and with regard to any and all matters set forth in this agreement. The Committee may delegate its functions under this agreement to an officer of the Cardinal Group designated by the Committee (hereinafter the "designee"). In fulfilling its responsibilities hereunder, the Committee or its designee may rely upon documents, written statements of the parties, or such other material as the Committee or its designee deems appropriate. The parties agree that there is no right to be heard or to appear before the Committee or its designee and that any decision of the Committee or its designee relating to this agreement, including without limitation whether particular conduct constitutes a violation of paragraph 7 or paragraph 11 of this agreement, shall be final and binding unless such decision is arbitrary and capricious. -22- ACCEPTANCE OF AGREEMENT The Grantee hereby: (a) acknowledges receiving a copy of the Plan, which has either been previously delivered or is provided with this agreement, and represents that he is familiar with and understands all provisions of the Plan and this agreement; and (b) voluntarily and knowingly accepts this agreement and the Option granted to him under this agreement subject to all provisions of the Plan and this agreement. The Grantee further acknowledges receiving a copy of the Company's most recent Annual Report and other communications routinely distributed to the Company's shareholders and a copy of the Plan Description dated November 18, 2002 pertaining to the Plan. /s/ Stephen S. Thomas --------------------------------- Signature Stephen S. Thomas ------------------------ Print Name _________________________________ Grantee's Social Security Number February 6, 2003 --------------------------------- Date -23- -----END PRIVACY-ENHANCED MESSAGE-----