Document/ExhibitDescriptionPagesSize 1: 10-Q Quarterly Report HTML 844K
2: EX-31.1 Certification -- §302 - SOA'02 HTML 24K
3: EX-31.2 Certification -- §302 - SOA'02 HTML 24K
4: EX-32.1 Certification -- §906 - SOA'02 HTML 21K
5: EX-32.2 Certification -- §906 - SOA'02 HTML 21K
48: R1 Cover HTML 73K
26: R2 Condensed Consolidated Balance Sheets HTML 116K
34: R3 Condensed Consolidated Balance Sheets HTML 29K
(Parenthetical)
66: R4 Condensed Consolidated Statements of Income and HTML 95K
Other Comprehensive Income
49: R5 Condensed Consolidated Statements of Changes in HTML 105K
Stockholders' Equity
27: R6 Condensed Consolidated Statements of Cash Flows HTML 86K
35: R7 General HTML 73K
64: R8 Receivables Securitization Program HTML 25K
50: R9 Leases HTML 40K
61: R10 Debt HTML 69K
45: R11 Customer Financing HTML 30K
19: R12 Derivative Financial Instruments HTML 65K
28: R13 Fair Value Measurements HTML 84K
62: R14 Income Taxes HTML 23K
46: R15 Technology Partner Innovations, LLC HTML 22K
20: R16 Segment and Geographic Data HTML 166K
29: R17 Accumulated Other Comprehensive Loss ("Aocl") HTML 36K
63: R18 Legal Proceedings HTML 51K
44: R19 General (Policies) HTML 38K
17: R20 General (Tables) HTML 55K
39: R21 Leases (Tables) HTML 41K
57: R22 Debt (Tables) HTML 72K
53: R23 Derivative Financial Instruments (Tables) HTML 50K
18: R24 Fair Value Measurements (Tables) HTML 75K
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41: R29 General - Computation of Basic and Diluted HTML 28K
Earnings Per Share (Eps) (Detail)
32: R30 General - Contract Balances (Details) HTML 27K
22: R31 General - Recently Issued Accounting HTML 33K
Pronouncements (Details)
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60: R33 Leases - Lease (Details) HTML 21K
31: R34 Leases - Future Maturities of Lease Liabilities HTML 38K
(Details)
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Leases (Details)
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Measured at Fair Value on Recurring Basis (Detail)
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(Registrant’s Telephone Number, Including Area Code)
Securities registered pursuant to Section 12(b) of the Act:
Title
of each class
Trading Symbol(s)
Name of exchange on which registered
iCommon Stock, par value $.01
iPDCO
iNASDAQ
Global Select Market
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. iYes☒ No ☐
Indicate
by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). iYes☒ No ☐
Indicate by check mark whether the
registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer,""accelerated filer,""smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
iLarge
accelerated filer
☒
Accelerated filer
☐
Non-accelerated filer
☐
Smaller reporting company
i☐
Emerging
growth company
i☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided
pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes i☐ No ☒
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Dollars, except per share amounts, and shares in thousands)
(Unaudited)
Note 1. iGeneral
i
Basis
of Presentation
In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments necessary to present fairly the financial position of Patterson Companies, Inc. (referred to herein as "Patterson" or in the first person notations "we,""our," and "us") as of January 25, 2020, and our results of operations and cash flows for the periods ended January 25, 2020 and January 26, 2019. Such adjustments are of a normal recurring nature. The results of operations for the three and nine months ended January 25, 2020 are not necessarily indicative of the results to be expected for any other interim period or for the year ending April
25, 2020. These financial statements should be read in conjunction with the financial statements included in our 2019 Annual Report on Form 10-K filed on June 26, 2019.
The unaudited condensed consolidated financial statements include the assets and liabilities of PDC Funding Company, LLC ("PDC Funding"), PDC Funding Company II, LLC ("PDC Funding II"), PDC Funding Company III, LLC ("PDC Funding III") and PDC Funding Company IV, LLC ("PDC Funding IV"), which are our wholly owned subsidiaries and separate legal entities formed under Minnesota law. PDC Funding and PDC Funding II are fully consolidated special purpose entities established to sell customer installment sale contracts
to outside financial institutions in the normal course of their business. PDC Funding III and PDC Funding IV are fully consolidated special purpose entity established to sell certain receivables to unaffiliated financial institutions. The assets of PDC Funding, PDC Funding II, PDC Funding III and PDC Funding IV would be available first and foremost to satisfy the claims of its creditors. There are no known creditors of PDC Funding, PDC Funding II, PDC Funding III or PDC Funding IV. The unaudited condensed consolidated financial statements also include the assets and liabilities of Technology Partner Innovations, LLC, which is further described in Note 9.
i
Fiscal
Year End
We operate with a 52-53 week accounting convention with our fiscal year ending on the last Saturday in April. The third quarter of fiscal 2020 and 2019 represents the 13 weeks ended January 25, 2020 and the 13 weeks ended January 26, 2019, respectively. The nine months ended January 25, 2020 and January 26, 2019 each included 39 weeks. Fiscal 2020 will include 52 weeks and fiscal 2019 included 52 weeks.
Comprehensive income is computed as net income including certain other items that are recorded directly to stockholders’ equity. Significant items included in comprehensive income are foreign currency translation adjustments and the effective portion of cash flow hedges, net of tax. Foreign currency translation adjustments do not include a provision for income tax because earnings from foreign operations are considered to be indefinitely reinvested outside the U.S. The income tax expense related to cash flow hedges was $i2,040
and $i177 for the three months ended January 25, 2020 and January 26, 2019, respectively. The income tax expense related to cash flow hedges was $i2,382
and $i534 for the nine months ended January 25, 2020 and January 26, 2019, respectively.
The following table sets forth the computation of the weighted average shares outstanding used to calculate basic and diluted earnings per share ("EPS"):
Denominator for basic EPS – weighted average shares
i94,267
i92,818
i94,052
i92,677
Effect
of dilutive securities – stock options, restricted stock and stock purchase plans
i754
i835
i776
i670
Denominator
for diluted EPS – weighted average shares
i95,021
i93,653
i94,828
i93,347
/
Potentially
dilutive securities representing i2,790 and i2,921
shares for the three and nine months ended January 25, 2020, respectively, and i1,853 and i1,764
shares for the three and nine months ended January 26, 2019, respectively, were excluded from the calculation of diluted EPS because their effects were anti-dilutive using the treasury stock method.
Revenue Recognition
Revenues are generated from the sale of consumable products, equipment and support, software and support, technical service parts and labor, and other sources. Revenues are recognized when or as performance obligations are satisfied. Performance obligations are satisfied when the customer obtains control of the goods or services.
Consumable, equipment, software and parts sales are recorded upon delivery, except in those circumstances where terms of the sale are FOB shipping point, in which case sales are recorded upon shipment. Technical service labor is recognized as it
is provided. Revenue derived from equipment and software support is recognized ratably over the period in which the support is provided.
In addition to revenues generated from the distribution of consumable products under arrangements (buy/sell agreements) where the full market value of the product is recorded as revenue, we earn commissions for services provided under agency agreements. The agency agreement contrasts to a buy/sell agreement in that we do not have control over the transaction, as we do not have the primary responsibility of fulfilling the promise of the good or service and we do not bill or collect from the customer in an agency relationship. Commissions under agency agreements are recorded when the services are provided.
Estimates for returns, damaged goods, rebates, loyalty programs and other revenue allowances are made at the time the revenue is recognized based
on the historical experience for such items. The receivables that result from the recognition of revenue are reported net of related allowances. We maintain a valuation allowance based upon the expected collectability of receivables held. Estimates are used to determine the valuation allowance and are based on several factors, including historical collection data, economic trends and credit worthiness of customers. Receivables are written off when we determine the amounts to be uncollectible, typically upon customer bankruptcy or non-response to continuous collection efforts. The portions of receivable amounts that are not expected to be collected during the next twelve months are classified as long-term.
Net sales do not include sales tax as we are considered a pass-through conduit for collecting and remitting sales tax.
Contract balances represent amounts presented in our condensed consolidated balance sheets when either we have transferred goods or services to the customer or the customer has paid consideration to us under the contract. These contract balances include accounts receivable, contract assets and contract liabilities.
Contract asset balances
as of January 25, 2020 and April 27, 2019 were $i2,149 and $i0, respectively.
Our contract liabilities primarily relate to advance payments from customers, upfront payments for software and support provided over time, and options that provide a material right to customers, such as our customer loyalty programs. At January 25, 2020 and April 27, 2019, contract liabilities of $i23,554
and $i22,004 were reported in other accrued liabilities,
respectively. During the nine months ended January 25, 2020, we recognized $i18,490
of the amount previously deferred at April 27, 2019.
i
Recently Issued Accounting Pronouncements
In February 2016, the FASB issued ASU No. 2016-02, "Leases (Topic 842)," which requires lessees to recognize assets and liabilities on the balance sheet for the rights and obligations created by most leases, as well as requires additional qualitative and quantitative disclosures. We adopted the new guidance in the first quarter of fiscal 2020 on a modified retrospective
basis through a cumulative-effect adjustment to the beginning retained earnings in the period of adoption. We elected the transition package of practical expedients provided within the guidance, which eliminated the requirements to reassess lease identification, lease classification and initial direct costs for leases commenced before the effective date. We elected not to separate lease from non-lease components and to exclude short-term leases from our consolidated balance sheets.
The impact of adopting the new lease standard primarily relates to the recognition of a lease right-of-use (“ROU”) asset and current and non-current lease liabilities on the condensed consolidated balance sheets. ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Lease ROU assets and liabilities are recognized at commencement
date based on the present value of lease payments over the lease term. As we cannot readily determine the rate implicit in most of our leases, we use an incremental borrowing rate determined by country of lease origin based on the anticipated lease term as determined at commencement date in determining the present value of lease payments.
The new lease standard resulted in the recognition of lease ROU assets and liabilities of $i86,046 and $i88,333
as of April 28, 2019. In addition, $i1,447 of net deferred gains on sale-leaseback transactions that existed as of April 27, 2019 were derecognized from our condensed consolidated balance sheet, with the offsetting impact being an adjustment to retained earnings as of April 28, 2019. The adoption of the guidance did not have a material impact on our condensed consolidated statements of income
and other comprehensive income or condensed consolidated statements of cash flows as of the adoption date. Under the transition method of adoption, comparative information was not restated, but will continue to be reported under the standards in effect for those periods.
In June 2016, the FASB issued ASU No. 2016-13, “Financial Instruments-Credit Losses (Topic 326),” which requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. We plan to adopt the new guidance in the first quarter of fiscal 2021. We are currently evaluating the impact of adopting this pronouncement.
In February 2018, the FASB issued ASU No. 2018-02, "Income Statement-Reporting Comprehensive Income (Topic 220) Reclassification of Certain Tax Effects from Accumulated
Other Comprehensive Income," which will allow a reclassification from accumulated other comprehensive income to retained earnings for the tax effects that are stranded in accumulated other comprehensive income as a result of tax reform. This standard also requires certain disclosures about stranded tax effects. We adopted ASU No. 2018-02 in the first quarter of fiscal 2020 and applied it in the period of adoption. As a result of the adoption, $i2,707
was reclassified from accumulated other comprehensive loss to retained earnings in the first quarter of fiscal 2020.
/
Note 2. iReceivables Securitization Program
In the first quarter of
fiscal 2019 and the third quarter of fiscal 2020, we entered into Receivables Purchase Agreements (the “Receivables Purchase Agreements”) with MUFG Bank, Ltd. ("MUFG") (f.k.a. The Bank of Tokyo-Mitsubishi UFJ, Ltd.). Under these agreements, MUFG acts as an agent to facilitate the sale of certain Patterson receivables (the “Receivables”) to certain unaffiliated financial institutions (the “Purchasers”). The sale of these receivables is accounted for as a sale of assets under the provisions of ASC 860, Transfers and Servicing. We utilize PDC Funding III and PDC Funding IV to facilitate the sale to fulfill requirements within the agreement.
Sales of Receivables occur daily and are settled with the Purchasers on a monthly basis. The proceeds from the sale of these Receivables comprise a combination of cash and a deferred purchase price (“DPP”) receivable. The DPP receivable is ultimately realized
by Patterson following the collection of the underlying Receivables sold to the Purchasers. The amount available under the Receivables Purchase Agreements fluctuates over time based on the total amount of eligible Receivables generated during the normal course of business, with maximum availability of $i200,000 as of January 25, 2020. As of January
25, 2020, $i200,000 of the amount available under the Receivables Purchase Agreements was utilized.
We
have no retained interests in the transferred Receivables, other than our right to the DPP receivable and collection and administrative service fees. We consider the fees received adequate compensation for services rendered, and accordingly have recorded no servicing asset or liability. The DPP receivable is recorded at fair value within the condensed consolidated balance sheets within prepaid expenses and other current assets. The DPP receivable was $i159,409 as of January 25, 2020 and $i57,238
as of April 27, 2019. The difference between the carrying amount of the Receivables and the sum of the cash and fair value of the DPP receivable received at time of transfer is recognized as a gain or loss on sale of the related Receivables. We recorded a loss on sale of Receivables within operating expenses in the condensed consolidated statements of income and other comprehensive income of $i1,468
and $i5,013 during the three and nine months ended January 25, 2020, respectively, and $i2,719
and $i5,590 during the three and nine months ended January 26, 2019, respectively.
Note 3. iLeases
We
lease certain warehouses, office space, vehicles and equipment. Leases with an initial term of 12 months or less are not recorded on the condensed consolidated balance sheets. We recognize lease expense for these leases on a straight-line basis over the lease term. We do not separate lease and non-lease components, and instead account for each lease and non-lease component associated with that lease as a single lease component. Some leases include one or more options to renew. The exercise of renewal options is at our sole discretion. Our lease agreements do not contain significant residual value guarantees, restrictions or covenants.
Total lease cost for the three and nine months ended January 25, 2020 was $i9,258
and $i27,222, respectively, which includes variable lease costs and short-term lease costs, which are immaterial.
i
The following table presents future maturities of lease liabilities:
Remainder
of 2020
$
i9,395
2021
i32,291
2022
i24,865
2023
i14,419
2024
i6,429
After
2024
i2,609
Total lease payments
i90,008
Less:
imputed interest
(i5,048)
Present value of lease liabilities
$
i84,960
/
i
The
following tables present other supplemental information related to leases:
(5)Issued in December 2019. Interest rate is LIBOR plus i1.75% as of January 25, 2020.
i
Future
principal payments due, based on stated contractual maturities for our long-term debt, are as follows as of January 25, 2020:
Fiscal Year
Remainder of 2020
$
i—
2021
i—
2022
i100,750
2023
i300,000
2024
i33,000
Thereafter
i157,500
Total
$
i591,250
/
In
fiscal 2017, we entered into an amended credit agreement ("Amended Credit Agreement"), consisting of a $i295,075 term loan and a $i750,000
revolving line of credit. In March 2019, we permanently reduced the capacity under the revolving line of credit to $i500,000. Interest on borrowings is variable and is determined as a base rate plus a spread. This spread, as well as a commitment fee on the unused portion of the facility, is based on our leverage ratio, as defined in the Amended Credit Agreement. The term loan and revolving credit facilities were initially set to mature no later than January 2022. During the quarter ended October
26, 2019, we repaid the remaining $i81,558 outstanding under the unsecured term loan. As of January 25, 2020, $i95,000 was outstanding
under the Amended Credit Agreement revolving line of credit at an interest rate of i3.1%. At April 27, 2019, $i87,091 was outstanding under
the Amended Credit Agreement unsecured term loan at an interest rate of i3.7%, and ino amount was outstanding under the Amended Credit Agreement revolving line of credit.
In
December 2019, we entered into a senior unsecured term loan facility agreement (the “Term Facility Agreement”), consisting of a $i300,000 term loan. Interest on borrowings is variable and is determined as a base rate plus a spread. This spread is based on our leverage ratio, as defined in the Term Facility Agreement. The proceeds were used to repay certain existing indebtedness, pay fees and expenses incurred in connection with the Term Facility Agreement, and finance our ongoing working capital and other general corporate purposes. The Term Facility will mature no later than December
20, 2022. As of January 25, 2020, $i300,000 was outstanding under the Term Facility at an interest rate of i3.4%.
During the three months ended January 25, 2020, we repaid certain indebtedness totaling $i373,750. The changes to the senior notes due between fiscal 2022 and fiscal 2028 shown in the table above reflect the aggregate $i373,750
repaid. As a result, we recorded a pre-tax non-cash charge of $i8,984 during the three months ended January 25, 2020. This charge relates to the January 2014 forward interest rate swap agreement and accelerated amortization of debt issuance costs.
We are subject to various financial covenants under our debt agreements including the maintenance of leverage and interest coverage ratios. In the event of our default, any outstanding obligations may
become due and payable immediately. We were in compliance with the covenants under our debt agreements as of January 25, 2020.
Note 5. iCustomer Financing
As a convenience to our customers, we offer several different financing alternatives, including a third party program and a Patterson-sponsored program. For the third party program, we
act as a facilitator between the customer and the third party financing entity with no on-going involvement in the financing transaction. Under the Patterson-sponsored program, equipment purchased by creditworthy customers may be financed up to a maximum of $i1,000. We generally sell our customers’ financing contracts to outside financial institutions in the normal course of our business. These financing arrangements are accounted for as a sale of assets
under the provisions of ASC 860, Transfers and Servicing. We currently have itwo arrangements under which we sell these contracts.
First, we operate under an agreement to sell a portion of our equipment finance contracts to commercial paper conduits with MUFG serving
as the agent. We utilize PDC Funding to fulfill a requirement of participating in the commercial paper conduit. We receive the proceeds of the contracts upon sale to MUFG. At least i9.5% of the proceeds are held by the conduit as security against eventual performance of the portfolio. This percentage can be greater and is based upon certain ratios defined in the agreement with MUFG. The capacity under the agreement with MUFG
at January 25, 2020 was $i525,000.
Second, we maintain an agreement with Fifth Third Bank ("Fifth Third") whereby Fifth Third purchases customers’ financing contracts. PDC Funding II sells its financing contracts to Fifth Third. We receive the proceeds of the contracts
upon sale to Fifth Third. At least i11.0% of the proceeds are held by the conduit as security against eventual performance of the portfolio. This percentage can be greater and is based upon certain ratios defined in the agreement with Fifth Third. The capacity under the agreement with Fifth Third at January 25, 2020 was $i100,000.
We
service the financing contracts under both arrangements, for which we are paid a servicing fee. The servicing fees we receive are considered adequate compensation for services rendered. Accordingly, no servicing asset or liability has been recorded.
The portion of the purchase price for the receivables held by the conduits is deemed a DPP receivable, which is paid to the applicable special purpose entity as payments on the customers’ financing contracts are collected by Patterson from customers. The difference between the carrying amount of the receivables sold under these programs and the sum of the cash and fair value of the DPP receivable received at time of transfer is recognized as a gain on sale of the related receivables and recorded in
net sales in the condensed consolidated statements of income and other comprehensive income. Expenses incurred related to customer financing activities are recorded in operating expenses in our condensed consolidated statements of income and other comprehensive income.
During the three months ended January 25, 2020 and January 26, 2019, we sold $i143,203 and $i107,715
of contracts under these arrangements, respectively. During the nine months ended January 25, 2020 and January 26, 2019, we sold $i244,827 and $i195,738
of contracts under these arrangements, respectively. In net sales in the condensed consolidated statements of income and other comprehensive income, we recorded a gain of $i11,272 and $i6,641
during the three months ended January 25, 2020 and January 26, 2019, respectively, related to these contracts sold. In net sales in the condensed consolidated statements of income and other comprehensive income, we recorded a gain of $i22,168 and $i11,866
during the nine months ended January 25, 2020 and January 26, 2019, respectively, related to these contracts sold.
Included in cash and cash equivalents in the condensed consolidated balance sheets are $i34,934 and $i34,016
as of January 25, 2020 and April 27, 2019, respectively, which represent cash collected from previously sold customer financing contracts that have not yet been settled. Included in current receivables in the condensed consolidated balance sheets are $i67,208 and $i48,559
as of January 25, 2020 and April 27, 2019, respectively, of finance contracts we have not yet sold. A total of $i577,851 of finance contracts receivable sold under the arrangements was
outstanding at January 25, 2020. The DPP receivable under the arrangements was $i178,428 and $i121,657
as of January 25, 2020 and April 27, 2019, respectively. Since the internal financing program began in 1994, bad debt write-offs have amounted to less than i1% of the loans originated.
The arrangements require us to maintain a minimum current ratio and maximum leverage ratio. We were in compliance with those covenants at January 25, 2020.
Note
6. iDerivative Financial Instruments
We are a party to certain offsetting and identical interest rate cap agreements entered into to fulfill certain covenants of the equipment finance contract sale agreements. The interest rate cap agreements also provide a credit enhancement feature for the financing contracts
sold by PDC Funding and PDC Funding II to the commercial paper conduit.
The interest rate cap agreements are canceled and new agreements are entered into periodically to maintain consistency with the dollar maximum of the sale agreements and the maturity of the underlying financing contracts. As of January 25, 2020, PDC Funding had purchased an interest rate cap from a bank with a notional amount of $i525,000
and a maturity date of July 2027. We sold an identical interest rate cap to the same bank. As of January 25, 2020, PDC Funding II had purchased an interest rate cap from a bank with a notional amount of $i100,000 and a maturity date of November 2026. We sold an identical interest rate cap to the same bank.
These interest rate cap agreements do not qualify for hedge accounting treatment and, accordingly, we record the fair value of the agreements as an asset or liability and the change
as income or expense during the period in which the change occurs.
In January 2014, we entered into a forward interest rate swap agreement with a notional amount of $i250,000 and accounted for it as a cash flow hedge, in order to hedge interest rate fluctuations in anticipation of refinancing the i5.17%
senior notes due March 25, 2015. These notes were repaid on March 25, 2015 and replaced with new $i250,000i3.48%
senior notes due March 24, 2025. A cash payment of $i29,003 was made in March 2015 to settle the interest rate swap. This amount is recorded in other comprehensive income (loss), net of tax, and is recognized as interest expense over the life of the related debt. During the three months ended January 25, 2020, we repaid certain indebtedness, resulting in accelerating a portion of this interest expense and recording a pre-tax non-cash charge
of $i8,134 during the three months ended January 25, 2020. See Note 4 for additional information.
We utilize forward interest rate swap agreements to hedge against interest rate fluctuations that impact the amount of net sales we record related to our customer financing contracts. These interest rate swap agreements
do not qualify for hedge accounting treatment and, accordingly, we record the fair value of the agreements as an asset or liability and the change as income or expense during the period in which the change occurs.
As of April 27, 2019, the remaining notional amount for these interest rate swap agreements was $i553,719, with the latest maturity date in fiscal 2026. During the nine months ended January
25, 2020, we entered into forward interest rate swap agreements with a notional amount of $i221,460. As of January 25, 2020, the remaining notional amount for all outstanding interest rate swap agreements was $i639,616,
with the latest maturity date in fiscal 2027.
Net cash payments of $i1,375 were made during the nine months ended January 25, 2020 to settle a portion of our liabilities related to these interest rate swap agreements. These payments are reflected as cash outflows in the consolidated statements of cash flows within net cash provided by (used in) operating activities.
i
The
following presents the fair value of derivative instruments included in the condensed consolidated balance sheets:
There
were iino/
gains or losses recognized in other comprehensive income (loss) on cash flow hedging derivatives during the three and nine months ended January 25, 2020 or January 26, 2019.
We recorded iiiino///
ineffectiveness during the three and nine month periods ended January 25, 2020 and January 26, 2019. As of January 25, 2020, the estimated pre-tax portion of accumulated other comprehensive loss that is expected to be reclassified into earnings over the next twelve months is $i1,363,
which will be recorded as an increase to interest expense.
Note 7. iFair Value Measurements
Fair value is the price at which an asset could be exchanged in a current transaction between knowledgeable, willing parties. The fair value hierarchy of measurements is categorized into one of three levels based on the lowest level of significant input used:
Level 1 -
Quoted prices in active markets for identical assets and liabilities at the measurement date.
Level 2 - Observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets; quoted prices for identical or similar assets and liabilities in markets that are not active; or other inputs that are observable or can be corroborated by observable market data.
Level 3 - Unobservable inputs for which there is little or no market data available. These inputs reflect management’s assumptions of what market participants would use in pricing the asset or liability.
i
Our
hierarchy for assets and liabilities measured at fair value on a recurring basis is as follows:
DPP
receivable - receivables securitization program
i57,238
i—
i—
i57,238
DPP
receivable - customer financing
i121,657
i—
i—
i121,657
Derivative
instruments
i380
i—
i380
i—
Total
assets
$
i198,804
$
i19,529
$
i380
$
i178,895
Liabilities:
Derivative
instruments
$
i3,194
$
i—
$
i3,194
$
i—
Cash
equivalents – We value cash equivalents at their current market rates. The carrying value of cash equivalents approximates fair value and maturities are less than three months.
DPP receivable - receivables securitization program – We value this DPP receivable based on a discounted cash flow analysis using unobservable inputs, which include the estimated timing of payments and the credit quality of the underlying creditor. Significant changes in any of the significant unobservable inputs in isolation would not result in a materially different fair value estimate. The interrelationship between these inputs is insignificant.
DPP receivable - customer financing – We value this DPP receivable based on a discounted cash flow analysis using unobservable inputs, which include a forward yield curve, the estimated timing
of payments and the credit quality of the underlying creditor. Significant changes in any of the significant unobservable inputs in isolation would not result in a materially different fair value estimate. The interrelationship between these inputs is insignificant.
Derivative instruments – Our derivative instruments consist of interest rate cap agreements and interest rate swaps. These instruments are valued using inputs such as interest rates and credit spreads.
Certain assets are measured at fair value on a non-recurring basis. These assets are not measured at fair value on an ongoing basis, but are subject to fair value adjustments under certain circumstances. We adjust the carrying value of our non-marketable equity securities to fair value when observable transactions of identical or similar securities occur, or due to an impairment.
During
the nine months ended January 25, 2020, we recorded a pre-tax gain of $i34,334 related to one of our investments in other income, net in our condensed consolidated statements of income and other comprehensive income. This gain was based on the selling price of preferred stock in this investment that is similar to the preferred stock we own, and was adjusted for differences in liquidation preferences. As of January 25, 2020 and April
27, 2019, this investment had a carrying value of $i51,628 and $i17,294, respectively. There were ino
fair value adjustments to such assets during the nine months ended January 26, 2019.
Our debt is not measured at fair value in the condensed consolidated balance sheets. The estimated fair value of our debt as of January 25, 2020 and April 27, 2019 was $i605,122 and $i758,121,
respectively, as compared to a carrying value of $i587,455 and $i749,316 at January 25, 2020 and April 27, 2019, respectively. The fair
value of debt was measured using a discounted cash flow analysis based on expected market based yields (i.e., Level 2 inputs).
The carrying amounts of receivables, net of allowances, accounts payable, and certain accrued and other current liabilities approximated fair value at January 25, 2020 and April 27, 2019.
Note 8. iIncome
Taxes
The effective income tax rate for the three months ended January 25, 2020 was i22.2% compared to i17.4%
for the three months ended January 26, 2019. The increase in the rate was primarily due to the impacts of certain one-time adjustments reflected in the prior year quarter.
The effective income tax rate for the nine months ended January 25, 2020 was i54.3% compared to i21.0%
for the nine months ended January 26, 2019. The current period rate was adversely impacted by the $i58,300 pre-tax expense recorded in the three months ended October 26, 2019 related to the probable settlement of litigation with the U.S. Attorney's Office for the Western District of Virginia, as these costs and expenses are not fully deductible. See Note 12 for additional information.
In the first quarter of fiscal 2019, we entered into an agreement with Cure Partners to form Technology Partner Innovations, LLC (TPI), which is launching a new cloud-based practice management software, NaVetor. Patterson and Cure Partners each contributed net assets of $i4,000
to form TPI. We have determined that TPI is a variable interest entity, and we consolidate the results of operations of TPI as we have concluded that we are the primary beneficiary of TPI. During the three months ended January 25, 2020 and January 26, 2019, net loss attributable to the noncontrolling interest was $i255 and $i171,
respectively. During the nine months ended January 25, 2020 and January 26, 2019, net loss attributable to the noncontrolling interest was $i710 and $i447,
respectively. Noncontrolling interests on the condensed consolidated balance sheets at January 25, 2020 were $i2,538.
Note 10. iSegment
and Geographic Data
We present ithree reportable segments: Dental, Animal Health and Corporate. Dental and Animal Health are strategic business units that offer similar products and services to different customer bases. Dental provides a virtually complete range of consumable dental products, equipment and software, turnkey digital solutions and value-added services to dentists, dental laboratories, institutions, and other healthcare professionals throughout North America. Animal Health is a leading, full-line
distributor in North America and the U.K. of animal health products, services and technologies to both the production-animal and companion-pet markets. Our Corporate segment is comprised of general and administrative expenses, including home office support costs in areas such as information technology, finance, legal, human resources and facilities. In addition, customer financing and other miscellaneous sales are reported within Corporate results. Corporate assets consist primarily of cash and cash equivalents, accounts receivable, property and equipment and long-term receivables. We evaluate segment performance based on operating income. The costs to operate the fulfillment centers are allocated to the operating units based on the through-put of the unit.
i
The
following tables present information about our reportable segments:
The
amounts reclassified from AOCL during the nine months ended January 25, 2020 include gains and losses on cash flow hedges, net of taxes of $i2,382. The impact to the condensed consolidated statements of income and other comprehensive income was an increase to interest expense of $i10,117
for the nine months ended January 25, 2020, which includes $i8,134 of expense related to the early repayment of debt discussed further in Note 4. In addition, due to the adoption of ASU No. 2018-02, $i2,707
was reclassified from AOCL to retained earnings in the first quarter of fiscal 2020. See Note 1 for additional information.
Note 12. iLegal Proceedings
From time to time, we become involved in lawsuits, administrative proceedings, government subpoenas, and government investigations (which may, in some cases, involve our entering into settlement agreements or
consent decrees), relating to antitrust, commercial, environmental, product liability, intellectual property, regulatory, employment discrimination, securities, and other matters, including matters arising out of the ordinary course of business. The results of any legal proceedings cannot be predicted with certainty because such matters are inherently uncertain. Significant damages or penalties may be sought in some matters, and some matters may require years to resolve.
We accrue for these matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Unless otherwise noted, with respect to the specific legal proceedings and claims described below, the amount or range or possible losses is not reasonably estimable. Adverse outcomes in some or all of these matters may result in significant monetary damages or injunctive relief against us that could adversely affect
our ability to conduct our business. There also exists the possibility of a material adverse effect on our financial statements for the period in which the effect of an unfavorable outcome becomes probable and reasonably estimable.
On August 31, 2012, Archer and White Sales, Inc. (“Archer”) filed a complaint against Henry Schein, Inc. as well as Danaher Corporation and its subsidiaries Instrumentarium Dental, Inc., Dental Equipment, LLC, Kavo Dental Technologies, LLC and Dental Imaging Technologies Corporation (collectively, the “Danaher Defendants”) in the U.S. District Court for the Eastern District of Texas, Civil Action No. 2:12-CV-00572-JRG, styled as an antitrust action under Section 1 of the Sherman Act, and the Texas Free Enterprise Antitrust Act. Archer alleges
a conspiracy between Henry Schein, an unnamed company and the Danaher Defendants to terminate or limit Archer’s distribution rights. On August 1, 2017, Archer filed an amended complaint, adding Patterson Companies, Inc. and Benco Dental Supply Company as defendants, and alleging that Henry Schein, Patterson, Benco and non-defendant Burkhart Dental Supply Company, Inc. conspired to pressure and agreed to enlist their common suppliers, including the Danaher Defendants, to join a price-fixing conspiracy and boycott by reducing the distribution territory of, and eventually terminating, Archer. Archer seeks injunctive relief, and damages in an amount to be proved at trial, to be trebled with interest and costs, including attorneys’ fees, jointly and severally. On June 25, 2018, the U.S. Supreme Court granted certiorari to review an arbitration issue raised by the Danaher Defendants,
thereby continuing the case stay implemented in March 2018. On October 29, 2018, the Supreme Court heard oral arguments. On January 8, 2019, the Supreme Court issued its published decision vacating the judgment of the U.S. Court of Appeals for the Fifth Circuit and remanded the case to the Fifth Circuit for further proceedings on a second arbitration issue consistent with the Supreme Court’s opinion. The Fifth Circuit heard oral arguments on May 1, 2019. On August 14, 2019, the Fifth Circuit affirmed the District Court’s finding that the arbitration provision does not apply to this litigation. On January 15, 2020, we reached an agreement in principle to settle with Archer. The agreement in principle is subject to execution
of a definitive settlement agreement.
On August 17, 2017, IQ Dental Supply, Inc. (“IQ Dental”) filed a complaint in the U.S District Court for the Eastern District of New York, entitled IQ Dental Supply, Inc. v. Henry Schein, Inc., Patterson Companies, Inc. and Benco Dental Supply Company, Case No. 2:17-cv-4834. Plaintiff alleges that it is a distributor of dental supplies and equipment, and sells dental products through an online dental distribution platform operated by SourceOne Dental, Inc. IQ Dental alleges, among other things, that defendants conspired to suppress competition from IQ Dental and SourceOne for the marketing, distribution and sale of dental supplies and equipment in the United States, and that defendants unlawfully agreed with one another to boycott dentists, manufacturers and state dental associations that
deal with, or considered dealing with, plaintiff and SourceOne. Plaintiff claims that this alleged conduct constitutes unreasonable restraint of trade in violation of Section 1 of the Sherman Act, New York’s Donnelly Act and the New Jersey Antitrust Act, and also makes pendant state law claims for tortious interference with prospective business relations, civil conspiracy and aiding and abetting. Plaintiff seeks injunctive relief, compensatory, treble and punitive damages, jointly and severally, and reasonable costs and expenses, including attorneys’ fees and expert fees. On December 21, 2017, the District Court granted defendants motion to dismiss the complaint with prejudice. Plaintiff appealed the District Court’s order. On May 10, 2019, the U.S. Court of Appeals for the Second Circuit affirmed dismissal
of IQ Dental's claims that it was injured by an alleged boycott of SourceOne but reversed the District Court on dismissal of IQ Dental's direct boycott claims. The case was remanded to the District Court to proceed in accordance with that opinion. On June 29, 2019, the Second Circuit denied IQ Dental’s petition for rehearing or rehearing en banc. On January 23, 2020, we settled with IQ Dental and the action was dismissed on February 10, 2020.
On March 28, 2018, Plymouth County Retirement System (“Plymouth”) filed a federal securities class action complaint against Patterson Companies, Inc. and its former CEO Scott P. Anderson and former CFO Ann B. Gugino in the U.S. District Court for the District of Minnesota in a case
captioned Plymouth County Retirement System v. Patterson Companies, Inc., Scott P. Anderson and Ann B. Gugino, Case No. 0:18-CV-00871 MJD/SER. On November 9, 2018, the complaint was amended to add former CEO James W. Wiltz and former CFO R. Stephen Armstrong as individual defendants. Under the amended complaint, on behalf of all persons or entities that purchased or otherwise acquired Patterson’s common stock between June 26, 2013 and February 28, 2018, Plymouth alleges that Patterson violated federal securities laws by failing to disclose that Patterson’s revenue and earnings were “artificially inflated by Defendants’ illicit, anti-competitive scheme with its purported competitors, Benco and Schein, to prevent the formation of buying groups that would allow its customers
who were office-based practitioners to take advantage of pricing arrangements identical or comparable to those enjoyed by large-group customers.” In its class action complaint, Plymouth asserts one count against Patterson for violating Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder and a second, related count against the individual defendants for violating Section 20(a) of the Exchange Act. Plymouth seeks compensatory damages, pre- and post-judgment interest and reasonable attorneys’ fees and experts’ witness fees and costs. On August 30, 2018, Gwinnett County Public Employees Retirement System and Plymouth County Retirement System, Pembroke Pines Pension Fund for Firefighters and Police Officers, Central Laborers Pension Fund were appointed lead plaintiffs. On January 18, 2019, Patterson and the individual defendants
filed a motion to dismiss the amended complaint. On July 25, 2019, the U.S Magistrate Judge issued a report and recommendation that the motion to dismiss be granted in part and denied in part. The report and recommendation, among other things, recommends the dismissal of all claims against individuals defendants Ann B. Gugino, R. Stephen Armstrong and James W. Wiltz. On September 10, 2019, the District Court adopted the Magistrate Judge's report and recommendation. While the outcome of litigation is inherently uncertain, we believe that the class action complaint is without merit, and we are vigorously defending ourselves in this litigation. We do not anticipate that this matter will have a material adverse effect on our financial statements. Patterson has also received, and responded to, requests under Minnesota Business Corporation Act § 302A.461 to inspect corporate
books and records relating to the issues raised in the securities class action and the antitrust matters discussed above.
During the first quarter of fiscal 2019, the U.S. Attorney’s Office for the Western District of Virginia (“USAO-WDVA”) informed us that our subsidiary, Animal Health International, Inc., had been designated a target of a criminal investigation. The investigation originally related to Animal Health International’s sales of prescription animal health products to certain persons and/or locations not licensed to receive them in Virginia and Tennessee in violation of federal law. After being contacted by the USAO-WDVA, Patterson retained outside legal counsel and began an internal investigation. Since that time, we produced documents both responsive to grand jury subpoenas and voluntarily. In December 2018, as a result of our internal investigation, we voluntarily advised the USAO-WDVA that some of Animal
Health International’s shipments of prescription animal health products were made from a warehouse rather than a pharmacy to end-user customers in the states of Virginia and Tennessee. Thereafter, as part of our internal investigation, we conducted a comprehensive review of Animal Health International’s distribution and licensing practices across all i50 U.S. states. That review identified compliance issues in additional states, which we voluntarily disclosed to the USAO-WDVA in April 2019. Our Board of Directors established a special investigation committee to oversee and conduct
the investigation, to review our licensing, dispensing, distribution and related sales practices company-wide, and to report on its findings to the Board and to the USAO-WDVA. As a result of the internal investigation, we modified our licensing, dispensing, distribution and related sales processes company-wide. We have reached an agreement with the USAO-WDVA which we understand will resolve the federal government’s criminal investigation into Animal Health International and other non-compliant licensing, dispensing, distribution and related sales processes disclosed during the investigation. The agreement is subject to court approval. Under the terms of the agreement, Animal Health International has agreed to pay a total criminal fine and forfeiture of $i52,800,
which payment was made in the fourth quarter of fiscal 2020, and Animal Health International
has pleaded guilty to a one-count information charging it with a strict-liability misdemeanor offense under the Federal Food, Drug and Cosmetic Act in connection with its failure to comply with federal law relating to the sales of prescription animal health products. In addition, Animal Health International and Patterson have entered into a non-prosecution agreement for other non-compliant licensing, dispensing, distribution and related sales processes disclosed during the investigation and committed to undertake additional compliance program enhancements
and provide compliance certifications for the period from the date of signing the non-prosecution agreement through the next three full fiscal years. We recorded a reserve of $i58,300 in our Corporate segment for the three and six months ended October 26, 2019 to account for the anticipated settlement of this matter and certain related costs and expenses. This matter may continue to divert management’s attention and cause us to suffer reputational harm. We also may be subject to other fines or penalties,
equitable remedies (including but not limited to the suspension, revocation or non-renewal of licenses) and litigation. The occurrence of any of these events could adversely affect our business, financial condition and results of operations.
On August 28, 2018, Kirsten Johnsen filed a stockholder derivative complaint against Patterson Companies, Inc., as a nominal defendant, and the following former and current officers and directors of Patterson: Scott Anderson, Ann Gugino, James Wiltz, John Buck, Jody Feragen, Ellen Rudnick, Les Vinney, Neil Schrimsher, Sarena Lin, Harold Slavkin, Alex Blanco and Mark Walchirk as individual defendants in Hennepin County District Court in a case captioned Kirsten Johnsen v. Scott P. Anderson et al., Case No. 27-CV-18-14315. Derivatively on behalf of Patterson, plaintiff alleges that Patterson
“suppressed price competition and maintained supracompetitive prices for dental supplies and equipment by entering into agreements with Henry Schein and Benco to: (i) fix margins for dental supplies and equipment; and (ii) block the entry and expansion of lower-margin, lower-priced, rival dental distributors through threatened and actual group boycotts.” Plaintiff further alleges that the individual defendants failed to disclose Patterson’s alleged “price-fixing scheme” to the public and purportedly “caused Patterson to repurchase over $i412,800
worth of its own stock at artificially inflated prices.” In the derivative complaint, plaintiff asserts three counts against the individual defendants for: (i) breach of fiduciary duty; (ii) waste of corporate assets; and (iii) unjust enrichment. Plaintiff seeks compensatory damages, equitable and injunctive relief as permitted by law, costs, disbursements and reasonable attorneys’ fees, accountants’ fees and experts’ fees, costs and expenses, and an order awarding restitution from the individual defendants and directing Patterson “to take all necessary actions to reform and improve its corporate governance and internal procedures.” On February 19, 2019, the Hennepin County District Court ordered this litigation stayed pending resolution of the below-described case brought by Sally Pemberton. On September 10, 2019, the Honorable Patrick J. Schiltz dismissed
Pemberton without prejudice because the plaintiff failed to make a pre-suit demand on Patterson’s Board of Directors. On November 5, 2019, the defendants in Johnsen moved to dismiss such action based on plaintiff’s failure to make a pre-suit demand or otherwise properly plead demand futility. On December 12, 2019, in light of the outcome in Pemberton, the defendants and Johnsen entered into a stipulation for voluntary dismissal of the Johnsen action, which the court granted on December 13, 2019.
On October 1, 2018, Sally Pemberton filed
a stockholder derivative complaint against Patterson Companies, Inc., as a nominal defendant, and the following former and current officers and directors of Patterson: Scott Anderson, Ann Gugino, Mark Walchirk, John Buck, Alex Blanco, Jody Feragen, Sarena Lin, Ellen Rudnick, Neil Schrimsher, Les Vinney, James Wiltz, Paul Guggenheim, David Misiak and Tim Rogan as individual defendants in the U.S. District Court for the District of Minnesota in a case captioned Sally Pemberton v. Scott P. Anderson, et al., Case No. 18-CV-2818 (PJS/HB). Derivatively on behalf of Patterson, plaintiff alleges that Patterson, with Benco and Henry Schein, “engage[d] in a conspiracy in restraint of trade, whereby the companies agreed to refuse to offer discounted prices or otherwise negotiate with GPOs, agreed to fix margins on dental supplies and equipment, agreed not to poach one another’s customers or sales representatives, and agreed to block
the entry and expansion of rival distributors. Plaintiff further alleges that the individual defendants failed to disclose Patterson’s alleged “antitrust misconduct” to the public and purportedly caused Patterson to repurchase $i412,800 of its own stock at prices that were artificially inflated. In the derivative complaint, plaintiff asserts six counts against the individual defendants for: (i) breach of fiduciary duty; (ii) waste of corporate assets; (iii) unjust enrichment; (iv) violations of Section 14(a) of the Exchange Act; (v) violations
of Section 10(b) and Rule 10b-5 of the Exchange Act and (vi) violations of Section 20(a) of the Exchange Act. Plaintiff seeks compensatory damages with pre-judgment and post-judgment interest, costs, disbursements and reasonable attorneys’ fees, experts’ fees, costs and expenses, and an order awarding restitution from the individual defendants and directing Patterson “to take all necessary actions to reform and improve its corporate governance and internal procedures.” On September 10, 2019, the Honorable Patrick J. Schiltz dismissed this action without prejudice because the plaintiff failed to make a pre-suit demand on Patterson’s Board of Directors. On October 31, 2019, Patterson’s Board of Directors received a written demand to initiate litigation against its officers and directors based on the claims the plaintiff originally presented in her complaint. The
Board is in the process of creating a Special Litigation Committee to review such demand and determine how to address it. We do not anticipate that this matter will have a material adverse effect on our financial statements.
On January 29, 2019, a purported class action complaint was filed by R. Lawrence Hatchett, M.D. against Patterson Companies, Inc., Henry Schein, Inc., Benco Dental Supply Company, and unnamed co-conspirators in the U.S. District Court for the Southern District of Illinois. The complaint alleges that members of the proposed class suffered antitrust injury due to an unlawful boycott,
price-fixing or otherwise anticompetitive conspiracy among Schein, Benco and Patterson. The complaint alleges that the alleged conspiracy overcharged Illinois dental practices, orthodontic practices and dental laboratories on their purchase of dental supplies, which in turn passed on some or all of such overcharges to members of the class. Subject to certain exclusions, the complaint defines the class as all persons residing in Illinois purchasing and/or reimbursing for dental care provided by independent Illinois dental practices purchasing dental supplies from the defendants, or purchasing from buying groups purchasing these supplies from the defendants, on or after January 29, 2015. The complaint alleges violations of the Illinois Antitrust Act, 740 Ill. Comp. Stat. §§ 10/3(2), 10/7(2), and seeks a permanent injunction, actual damages to be determined at trial, trebled, reasonable attorneys’ fees and costs, and pre-
and post-judgment interest. On February 13, 2020, the court granted defendants' motion to dismiss for lack of standing and dismissed the action with prejudice.
In December 2017, the United States Judicial Panel on Multidistrict Litigation consolidated numerous cases filed against an array of defendants by various plaintiffs such as counties, cities, hospitals, Indian tribes and others, alleging claims generally concerning the impacts of widespread opioid abuse. The consolidated multidistrict litigation, captioned In re National Prescription Opiate Litigation, MDL No. 2804 (the “MDL”), is pending in the U.S. District Court for the Northern District of Ohio. On July 12, 2018, Bon Secours Health System, Inc., Bon Secours- Richmond Community Hospital, Incorporated, Bon Secours
DePaul Medical Center, Inc., Bon Secours- Memorial Regional Medical Center, Inc., Bon Secours- St. Francis Medical Center, Inc., Bon Secours- St. Mary’s Hospital of Richmond, Inc., Bon Secours- Virginia Healthsource, Inc., Chesapeake Hospital Corporation, Mary Immaculate Hospital, Incorporated and Maryview Hospital (collectively, the “MDL Plaintiffs”) filed a complaint in the MDL against i26 manufacturers and wholesale distributors of prescription opiates (the “MDL Defendants”) alleging that the MDL Defendants improperly marketed, sold or distributed prescription opiates.
The MDL Plaintiffs’ complaint alleges violations of federal RICO statutes, violations of the Virginia Consumer Protections Act, negligence, negligence per se, wantonness, recklessness, and gross negligence, fraud and public nuisance. The MDL Plaintiffs seek injunctive relief, the imposition of civil penalties, monetary damages, punitive damages, pre- and post-judgment interest and attorneys’ fees and costs. Neither Patterson nor any of its subsidiaries were named as MDL Defendants in the original complaint. On March 15, 2019, the MDL Plaintiffs amended and supplemented their complaint to assert violations of federal RICO statutes against i67
manufacturers and wholesale distributors of prescription opiates (the “Amended MDL Defendants”). iTwo of Patterson’s subsidiaries, Patterson Logistics Services, Inc. and Patterson Veterinary Supply, Inc., are named as Amended MDL Defendants. The MDL Plaintiffs allege that the Amended MDL Defendants “breached their legal duties under federal law to monitor, detect, investigate, refuse and report suspicious orders of prescription opiates.” Patterson Logistics Services Inc.
and Patterson Veterinary Supply, Inc. were voluntarily dismissed from this action with prejudice on January 9, 2020.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
The U.S. Private Securities Litigation Reform Act of 1995 provides a “safe harbor” for forward-looking statements to encourage companies to provide prospective information, so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause
actual results to differ materially from those disclosed in the statement.
This Form 10-Q contains certain “forward-looking statements” within the meaning of the safe harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995, including statements regarding future financial performance, and the objectives and expectations of management. Forward-looking statements often include words such as “believes,”“expects,”“anticipates,”“estimates,”“intends,”“plans,”“seeks” or words of similar meaning, or future or conditional verbs, such as “will,”“should,”“could” or “may.” Forward-looking statements are neither historical facts nor assurances of future performance. Instead, they are based only on our current beliefs, expectations and assumptions regarding the future of our business,
future plans and strategies, projections, anticipated events and trends, the economy and other future conditions. Because forward-looking statements relate to the future, they are subject to inherent uncertainties, risks and changes in circumstances that are difficult to predict and many of which are outside of our control. Our actual results and financial condition may differ materially from those indicated in the forward-looking statements. Therefore, you should not place undue reliance on any of these forward-looking statements.
Any number of factors could affect our actual results and cause such results
to differ materially from those contemplated by any forward-looking statements, including, but not limited to, the following: the effects of the highly competitive dental and animal health supply markets in which we compete; general economic conditions, including political and economic uncertainty; our dependence on relationships with sales representatives, service technicians and customers; potential disruption of distribution capabilities, including service issues with third-party shippers; our dependence on suppliers for the manufacture and supply of the products we sell; the risk that private label sales could adversely affect our sales of other products; our dependence on positive perceptions of Patterson’s reputation; litigation risks, including new or unanticipated litigation developments; changes in consumer preferences; fluctuations in quarterly financial results; risks from the expansion of customer purchasing power; increased competition from third-party
online commerce sites; the risks inherent in international operations, including currency fluctuations; the effects of health care reform; failure to comply with regulatory requirements and data privacy laws; risks from disruption to our information systems; cyberattacks or other privacy or data security breaches; volatility in the financial markets; volatility in the price of our common stock; our dependence on our senior management; disruptions from our enterprise resource planning system initiatives; and risks associated with interest rate fluctuations. The order in which these factors appear should not be construed to indicate their relative importance or priority. We caution that these factors may not be exhaustive, accordingly, any forward-looking statements contained herein should not be relied upon as a prediction of actual results.
You should carefully consider these and other
relevant factors, including those risk factors in Part I, Item 1A, (“Risk Factors”) in our most recent Form 10-K, and information which may be contained in our other filings with the U.S. Securities and Exchange Commission, or SEC, when reviewing any forward-looking statement. Investors should understand it is impossible to predict or identify all such factors or risks. As such, you should not consider the foregoing list, or the risks identified in our SEC filings, to be a complete discussion of all potential risks or uncertainties.
OVERVIEW
Our financial information for the first nine months of fiscal 2020 is summarized in this Management’s Discussion and Analysis and the Condensed Consolidated Financial Statements and related Notes. The following background
is provided to readers to assist in the review of our financial information.
We present three reportable segments: Dental, Animal Health and Corporate. Dental and Animal Health are strategic business units that offer similar products and services to different customer bases. Dental provides a virtually complete range of consumable dental products, equipment and software, turnkey digital solutions and value-added services to dentists and dental laboratories throughout North America. Animal Health is a leading, full-line distributor in North America and the U.K. of animal health products, services and technologies to both the production-animal and companion-pet markets. Our Corporate segment is comprised of general and administrative expenses, including home office support costs in areas such as information technology, finance, legal, human resources and facilities. In addition, customer financing and other miscellaneous sales
are reported within Corporate results.
Operating margins of the animal health business are considerably lower than the dental business. While operating expenses run at a lower rate in the animal health business when compared to the dental business, gross margins in the animal health business are substantially lower due generally to the low margins experienced on the sale of pharmaceutical products.
We operate with a 52-53 week accounting convention with our fiscal year ending on the last Saturday in April. The third quarter of fiscal 2020 and 2019 represents the 13 weeks ended January 25, 2020 and the 13 weeks ended January 26, 2019, respectively. The nine months ended January 25, 2020 and January
26, 2019 each included 39 weeks. Fiscal 2020 will include 52 weeks and fiscal 2019 included 52 weeks.
We believe there are several important aspects of our business that are useful in analyzing it, including: (1) growth in the various markets in which we operate; (2) internal growth; (3) growth through acquisition; and (4) continued focus on controlling costs and enhancing efficiency. Management defines internal growth as the increase in net sales from period to period, adjusting for differences in the number of weeks in fiscal years, excluding the impact of changes in currency exchange rates, and excluding the net sales, for a period of twelve months following the transaction date, of businesses we have acquired.
FACTORS AFFECTING OUR RESULTS
Receivables Securitization Program. In the first quarter of fiscal
2019 and the third quarter of fiscal 2020, we entered into receivables purchase agreements with MUFG Bank, Ltd. ("MUFG"). Under these agreements, MUFG
acts as an agent to facilitate the sale of certain Patterson receivables (the “Receivables”) to certain unaffiliated financial institutions (the “Purchasers”).
The proceeds from the sale of these Receivables comprise a combination of cash and a deferred purchase price (“DPP”) receivable. The initial transaction in the first quarter of fiscal 2019 was a sale of $237.6 million of net receivables.
From this sale, we received $171.0 million of cash. The proceeds from the initial sale were primarily used to reduce debt. The transaction in the third quarter of fiscal 2020 reduced our net receivables by $120.1 million and increased cash by $29.0 million as of January 25, 2020. As of January 25, 2020, the maximum available under the receivables purchase agreements was $200.0 million, of which $200.0 million was utilized. The DPP receivable was $159.4 million as of January 25, 2020.
The DPP receivable is ultimately realized by Patterson following the collection of the underlying Receivables sold to the Purchasers. The collection of the DPP receivable is recognized as an increase to net cash provided by investing activities within the condensed
consolidated statements of cash flows, with a corresponding reduction to net cash provided by operating activities within the condensed consolidated statements of cash flows.
Gain on Investment. We recorded a pre-tax gain of $34.3 million related to one of our investments ("Gain on Investment") during the first quarter of fiscal 2020. This gain was based on the selling price of preferred stock in this investment that is similar to the preferred stock we own, and was adjusted for differences in liquidation preferences.
Early Repayment of Debt. During the three months ended January 25, 2020, we repaid certain indebtedness totaling $373.8 million ("Early Repayment of Debt"). As a result, we recorded a pre-tax
non-cash charge of $9.0 million during the three months ended January 25, 2020. This charge relates to the January 2014 forward interest rate swap agreement and accelerated amortization of debt issuance costs.
Fiscal 2020 U.S. Attorney's Office Legal Reserve. We incurred costs and expenses of $58.3 million ("Fiscal 2020 U.S. Attorney's Office Legal Reserve") during the second quarter of fiscal 2020 related to the probable settlement of litigation with the U.S. Attorney's Office for the Western District of Virginia. See "Item 1. Legal Proceedings" for additional information.
Fiscal 2020 SourceOne Dental Legal Reserve. We incurred expenses of $17.7 million ("Fiscal 2020 SourceOne Dental Legal
Reserve") during the first quarter of fiscal 2020 related to the settlement of litigation with SourceOne Dental, Inc.
Fiscal 2019 Legal Reserve. In September 2018, we signed an agreement to settle the litigation entitled In re Dental Supplies Antitrust Litigation. Under the terms of the settlement, we paid $28.3 million into escrow upon preliminary court approval. Such funds are to be released to the settlement fund administrator upon final court approval of the settlement, which was granted at the fairness hearing held on June 24, 2019. We established a pre-tax reserve of $28.3 million ("Fiscal 2019 Legal Reserve") during the first quarter of fiscal 2019 to account for the settlement of this matter.
Net
income attributable to Patterson Companies, Inc.
1.6
%
2.2
%
Net Sales. Consolidated net sales for the three months ended January 25, 2020 were $1,456.2 million, an increase of 4.3% from $1,396.7 million for the three months ended January 26, 2019. Foreign exchange rate changes had a favorable impact of 0.2% on current quarter sales. Sales of certain products previously recognized on a gross basis were recognized on a net basis during the three months ended January 25, 2020, resulting in an estimated 0.2% unfavorable
impact to sales.
Dental segment sales for the three months ended January 25, 2020 were $626.6 million, an increase of 8.1% from $579.7 million for the three months ended January 26, 2019. Foreign exchange rate changes had a favorable impact of 0.1% on current quarter sales. Current quarter sales of consumables increased 1.9%, sales of dental equipment and software increased 16.2%, aided by the new innovation and promotional programs in the CAD/CAM category, and sales of value-added services and other increased 8.8%.
Animal Health segment sales for the three months ended January 25, 2020 were $817.3 million, an increase of 1.2% from $807.5 million for the three months ended January 26, 2019.
Foreign exchange rate changes had a favorable impact of 0.3% on current quarter sales. Sales of certain products previously recognized on a gross basis were recognized on a net basis during the three months ended January 25, 2020, resulting in an estimated 0.4% unfavorable impact to sales.
Gross Profit. The consolidated gross profit margin rate for the three months ended January 25, 2020 and the three months ended January 26, 2019 was 21.4%.
Operating Expenses. Consolidated operating expenses for the three months ended January 25, 2020 were $268.0 million, a 5.5% increase from the prior year quarter of $254.1 million.
We incurred higher operating expenses during the three months ended January 25, 2020 primarily as a result of higher integration and business restructuring expenses, as well as higher personnel costs. The consolidated operating expense ratio of 18.4% increased 20 basis points from the prior year quarter, which was also driven primarily by these same factors.
Operating Income. For the three months ended January 25, 2020, operating income was $43.8 million, or 3.0% of net sales, as compared to operating income of $45.4 million, or 3.2% of net sales for the three months ended January 26, 2019. The decrease in operating income was primarily due to higher integration and business restructuring expenses and higher personnel costs, partially offset by higher
net sales for the three months ended January 25, 2020.
Dental segment operating income was $48.8 million for the three months ended January 25, 2020, a decrease of $2.3 million from the prior year quarter. The decrease in operating income was primarily due to higher integration and business restructuring expenses and higher personnel costs, partially offset by higher net sales in the current quarter.
Animal Health segment operating income was $13.4 million for the three months ended January 25, 2020, a decrease of $1.6 million from the prior year quarter. The decrease was primarily driven by higher integration and
business restructuring expenses and higher personnel costs in the current quarter, partially offset by higher gross margins in the current quarter.
Corporate segment operating loss was $18.4 million and $20.8 million for the three months ended January 25, 2020 and January 26, 2019, respectively. The change was driven primarily by higher net sales recorded during the three months ended January 25, 2020, partially offset by higher integration and business restructuring expenses and higher personnel costs.
Other Income (Expense). Net other expense for the three months ended January 25, 2020 was $14.3
million, as compared to $7.7 million for the three months ended January 26, 2019. Net other expense was higher during the current quarter due to higher interest expense, which was driven by the Early Repayment of Debt.
Income Tax Expense. The effective income tax rate for the three months ended January 25, 2020 was 22.2% compared to 17.4% for the three months ended January 26, 2019. The increase in the rate was primarily due to the impacts of certain one-time adjustments reflected in the prior year quarter.
Net Income Attributable to Patterson Companies Inc. and Earnings Per Share. Net income attributable to Patterson Companies Inc. for the three months ended January
25, 2020 was $23.2 million, compared to $31.2 million for the three months ended January 26, 2019. Earnings per diluted share were $0.24 in the current quarter compared to $0.33 in the prior year quarter. Weighted average diluted shares outstanding in the current quarter were 95.0 million, compared to 93.7 million in the prior year quarter. The current quarter and prior year quarter cash dividend was $0.26 per common share.
Net
income attributable to Patterson Companies, Inc.
0.5
%
1.3
%
Net Sales. Consolidated net sales for the nine months ended January 25, 2020 were $4,203.6 million, a 1.6% increase from $4,137.8 million for the nine months ended January 26, 2019. Foreign exchange rate changes had an unfavorable impact of 0.4% on current period sales.
Dental segment sales for the nine months ended January 25, 2020 were $1,692.3 million, a 3.9% increase from $1,628.3 million for the nine months
ended January 26, 2019. Foreign exchange rate changes had an unfavorable impact of 0.1% on current period sales. Current period sales of consumables increased 0.3%, sales of dental equipment and software increased 8.9% to $566.8 million, aided by the new innovation and promotional programs in the CAD/CAM category, and sales of other dental services and products increased 7.2% for the nine months ended January 25, 2020.
Animal Health segment sales for the nine months ended January 25, 2020 were $2,483.0 million, a 0.2% decrease from $2,488.1 million for the nine months ended January 26, 2019. Foreign exchange rate changes had an unfavorable impact of 0.6% on current period sales. Sales of certain products previously recognized
on a gross
basis were recognized on a net basis during the nine months ended January 25, 2020, resulting in an estimated 0.4% unfavorable impact to sales.
Gross Profit. The consolidated gross profit margin rate for the nine months ended January 25, 2020 increased 30 basis points from the prior year period to 21.5%. A greater percentage of sales came from our higher margin Dental segment during the nine months ended January
25, 2020, resulting in a higher consolidated gross profit margin rate.
Operating Expenses. Consolidated operating expenses for the nine months ended January 25, 2020 were $861.0 million, a 9.4% increase from the prior year period of $787.2 million. We incurred higher operating expenses during the nine months ended January 25, 2020 primarily as a result of legal expenses during the nine months ended January 25, 2020 being $44.9 million higher than those incurred during the nine months ended January 26, 2019. In addition, we incurred higher integration and business restructuring expenses and higher personnel costs during the nine months ended January 25, 2020.
The consolidated operating expense ratio of 20.5% increased 150 basis points from the prior year period, which was also driven by these same factors.
Operating Income. For the nine months ended January 25, 2020, operating income was $42.3 million, or 1.0% of net sales, as compared to operating income of $91.1 million, or 2.2% of net sales for the nine months ended January 26, 2019. The decrease in operating income was primarily due to higher legal expenses, higher integration and business restructuring expense and higher personnel costs incurred in the nine months ended January 25, 2020, partially offset by higher gross margins.
Dental segment operating income was $135.5 million for the nine months ended January
25, 2020, an increase of $6.9 million from the prior year period. The increase was primarily driven by higher net sales in the current period, partially offset by higher integration and business restructuring expense and higher personnel costs.
Animal Health segment operating income was $51.2 million for the nine months ended January 25, 2020, a decrease of $4.9 million from the prior year period. The decrease was primarily driven by higher integration and business restructuring expense and higher personnel costs.
Corporate segment operating loss was $144.4 million and $93.6 million for the nine months ended January 25, 2020 and January 26, 2019, respectively. The change was driven primarily by higher legal expenses, higher integration
and business restructuring expense and higher personnel costs incurred in the nine months ended January 25, 2020.
Other Income (Expense). Net other income for the nine months ended January 25, 2020 was $0.2 million, compared to net other expense of $21.2 million for the nine months ended January 26, 2019. Net other income for the nine months ended January 25, 2020 was driven by the Gain on Investment, partially offset by higher interest expense, which was driven by the Early Repayment of Debt.
Income Tax Expense. The effective income tax rate for the nine months ended January 25, 2020 was
54.3% compared to 21.0% for the nine months ended January 26, 2019. The current period rate was adversely impacted by the Fiscal 2020 U.S. Attorney's Office Legal Reserve, as these costs and expenses are not fully deductible.
Net Income Attributable to Patterson Companies Inc. and Earnings Per Share. Net income attributable to Patterson Companies Inc. for the nine months ended January 25, 2020 was $20.1 million, compared to $55.6 million for the nine months ended January 26, 2019. Earnings per diluted share were $0.21 in the current period compared to $0.60 in the prior year period. Weighted average diluted shares outstanding in the current period were 94.8 million, compared to 93.3 million in the prior year period. The current period and prior year period
cash dividend was $0.78 per common share.
LIQUIDITY AND CAPITAL RESOURCES
For the nine months ended January 25, 2020, net cash used in operating activities was $169.0 million, compared to net cash provided by operating activities of $76.3 million for the nine months ended January 26, 2019. Net cash used in operating activities was negative during the nine months ended January 25, 2020 primarily due to the impact of our Receivables Securitization Program.
Net cash provided by investing activities was $326.5 million and $277.5 million for the nine months ended January
25, 2020 and January 26, 2019, respectively. Net cash flows for the nine months ended January 25, 2020 and
January 26, 2019 were positive primarily due to the collection of $359.3 million and $308.6 million of DPP receivables, respectively. Capital expenditures were $32.9 million and $33.9 million during the nine months ended January 25, 2020 and January 26, 2019, respectively. We expect to use
a total of approximately $45.0 million for capital expenditures in fiscal 2020.
Net cash used in financing activities for the nine months ended January 25, 2020 was $148.0 million. Uses of cash consisted primarily of $460.8 million for payments on long-term debt and $75.5 million for dividend payments. In December 2019, we entered into a $300.0 million senior unsecured term loan facility, as described further below. Cash proceeds also include $95.0 million attributed to draws on our revolving line of credit. For the nine months ended January 26, 2019, net cash used in financing activities was $299.5 million. Uses of cash consisted primarily of $244.0 million for payments on long-term debt and $74.7 million for dividend payments, and cash proceeds included $13.0 million attributed to draws on our revolving line of credit.
In
fiscal 2017, we entered into an amended credit agreement (“Amended Credit Agreement”), consisting of a $295.1 million term loan and a $750.0 million revolving line of credit. In March 2019, we permanently reduced the capacity under the revolving line of credit to $500.0 million. Interest on borrowings is variable and is determined as a base rate plus a spread. This spread, as well as a commitment fee on the unused portion of the facility, is based on our leverage ratio, as defined in the Amended Credit Agreement. The term loan and revolving credit facilities were initially set to mature no later than January 2022. During the quarter ended October 26, 2019, we repaid the remaining $81.6 million outstanding under the unsecured term loan. As of January 25, 2020, $95.0 million was outstanding under the Amended Credit Agreement revolving line of credit at an interest
rate of 3.1%. At April 27, 2019, $87.1 million was outstanding under the Amended Credit Agreement unsecured term loan at an interest rate of 3.7%, and no amount was outstanding under the Amended Credit Agreement revolving line of credit.
In December 2019, we entered into a senior unsecured term loan facility agreement (the “Term Facility Agreement”), consisting of a $300.0 million term loan. Interest on borrowings is variable and is determined as a base rate plus a spread. This spread is based on our leverage ratio, as defined in the Term Facility Agreement. The proceeds were used to repay certain existing indebtedness, pay fees and expenses incurred in connection with the Term Facility Agreement, and finance our ongoing working capital and other general corporate purposes. The Term Facility will mature no later than December
20, 2022. As of January 25, 2020, $300.0 million was outstanding under the Term Facility at an interest rate of 3.4%.
During the three months ended January 25, 2020, we repaid certain indebtedness totaling $373.8 million. See Note 4 to the Condensed Consolidated Financial Statements for additional details on the repayments.
We expect funds generated from operations, existing cash balances and credit availability under existing debt facilities will be sufficient to meet our working capital needs and to finance strategic initiatives over the remainder of fiscal 2020.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
See
Note 1 to the Condensed Consolidated Financial Statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in our exposure to market risk from that disclosed in Item 7A in our 2019 Annual Report on Form 10-K filed June 26, 2019.
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision and with the participation of our management, including our President and Chief Executive Officer ("CEO") and our Chief Financial Officer ("CFO"), management
evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Exchange Act) as of January 25, 2020. Based upon their evaluation of these disclosure controls and procedures, the CEO and CFO concluded that the disclosure controls and procedures were effective as of January 25, 2020.
There were no changes in our internal control over financial reporting (as defined in Rule 13a-15(f) and 15d-15(f) under the Exchange Act) that occurred during the quarter ended January 25, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
From time to time, we become involved in lawsuits, administrative proceedings, government subpoenas, and government investigations (which may, in some cases, involve our entering into settlement agreements or consent decrees), relating to antitrust, commercial, environmental, product liability, intellectual property, regulatory, employment discrimination, securities, and other matters, including matters arising out of the ordinary course of business. The results of any legal proceedings cannot be predicted with certainty because such matters are inherently uncertain. Significant damages or penalties may be sought in some matters, and some matters
may require years to resolve.
We accrue for these matters when it is both probable that a liability has been incurred and the amount of the loss can be reasonably estimated. Unless otherwise noted, with respect to the specific legal proceedings and claims described below, the amount or range or possible losses is not reasonably estimable. Adverse outcomes in some or all of these matters may result in significant monetary damages or injunctive relief against us that could adversely affect our ability to conduct our business. There also exists the possibility of a material adverse effect on our financial statements for the period in which the effect of an unfavorable outcome becomes probable and reasonably estimable.
On August 31, 2012, Archer and White Sales, Inc. (“Archer”) filed a complaint against Henry Schein, Inc. as well
as Danaher Corporation and its subsidiaries Instrumentarium Dental, Inc., Dental Equipment, LLC, Kavo Dental Technologies, LLC and Dental Imaging Technologies Corporation (collectively, the “Danaher Defendants”) in the U.S. District Court for the Eastern District of Texas, Civil Action No. 2:12-CV-00572-JRG, styled as an antitrust action under Section 1 of the Sherman Act, and the Texas Free Enterprise Antitrust Act. Archer alleges a conspiracy between Henry Schein, an unnamed company and the Danaher Defendants to terminate or limit Archer’s distribution rights. On August 1, 2017, Archer filed an amended complaint, adding Patterson Companies, Inc. and Benco Dental Supply Company as defendants, and alleging that Henry Schein, Patterson, Benco and non-defendant Burkhart Dental Supply Company, Inc. conspired to pressure and
agreed to enlist their common suppliers, including the Danaher Defendants, to join a price-fixing conspiracy and boycott by reducing the distribution territory of, and eventually terminating, Archer. Archer seeks injunctive relief, and damages in an amount to be proved at trial, to be trebled with interest and costs, including attorneys’ fees, jointly and severally. On June 25, 2018, the U.S. Supreme Court granted certiorari to review an arbitration issue raised by the Danaher Defendants, thereby continuing the case stay implemented in March 2018. On October 29, 2018, the Supreme Court heard oral arguments. On January 8, 2019, the Supreme Court issued its published decision vacating the judgment of the U.S. Court of Appeals for the Fifth Circuit and remanded the case to the Fifth Circuit for further proceedings on a second
arbitration issue consistent with the Supreme Court’s opinion. The Fifth Circuit heard oral arguments on May 1, 2019. On August 14, 2019, the Fifth Circuit affirmed the District Court’s finding that the arbitration provision does not apply to this litigation. On January 15, 2020, we reached an agreement in principle to settle with Archer. The agreement in principle is subject to execution of a definitive settlement agreement.
On August 17, 2017, IQ Dental Supply, Inc. (“IQ Dental”) filed a complaint in the U.S. District Court for the Eastern District of New York, entitled IQ Dental Supply, Inc. v. Henry Schein, Inc., Patterson Companies, Inc. and Benco Dental Supply Company, Case No. 2:17-CV-4834. Plaintiff alleges that
it is a distributor of dental supplies and equipment, and sells dental products through an online dental distribution platform operated by SourceOne Dental, Inc. IQ Dental alleges, among other things, that defendants conspired to suppress competition from IQ Dental and SourceOne for the marketing, distribution and sale of dental supplies and equipment in the United States, and that defendants unlawfully agreed with one another to boycott dentists, manufacturers and state dental associations that deal with, or considered dealing with, plaintiff and SourceOne. Plaintiff claims that this alleged conduct constitutes unreasonable restraint of trade in violation of Section 1 of the Sherman Act, New York’s Donnelly Act and the New Jersey Antitrust Act, and also makes pendant state law claims for tortious interference with prospective business relations, civil conspiracy and aiding and abetting. Plaintiff seeks injunctive relief, compensatory, treble and punitive damages, jointly
and severally, and reasonable costs and expenses, including attorneys’ fees and expert fees. On December 21, 2017, the District Court granted defendants motion to dismiss the complaint with prejudice. Plaintiff appealed the District Court’s order. On May 10, 2019, the U.S. Court of Appeals for the Second Circuit affirmed dismissal of IQ Dental's claims that it was injured by an alleged boycott of SourceOne, but reversed the District Court on dismissal of IQ Dental's direct boycott claims. The case was remanded to the District Court to proceed in accordance with that opinion. On June 29, 2019, the Second Circuit denied IQ Dental’s petition for rehearing or rehearing en banc. On January 23, 2020, we settled with IQ Dental and the action was dismissed on February
10, 2020.
On March 28, 2018, Plymouth County Retirement System (“Plymouth”) filed a federal securities class action complaint against Patterson Companies, Inc. and its former CEO Scott P. Anderson and former CFO Ann B. Gugino in the U.S. District Court for the District of Minnesota in a case captioned Plymouth County Retirement System v.
Patterson Companies, Inc., Scott P. Anderson and Ann B. Gugino, Case No. 0:18-cv-00871 MJD/SER. On November 9, 2018, the complaint was amended to add former
CEO James W. Wiltz and former CFO R. Stephen Armstrong as individual defendants. Under the amended complaint, on behalf of all persons or entities that purchased or otherwise acquired Patterson’s common stock between June 26, 2013 and February 28, 2018, Plymouth alleges that Patterson violated federal securities laws by failing to disclose that Patterson’s revenue and earnings were “artificially inflated by Defendants’ illicit, anti-competitive scheme with its purported competitors, Benco and Schein, to prevent the formation of buying groups that would allow its customers who were office-based practitioners to take advantage of pricing arrangements identical or comparable to those enjoyed by large-group customers.” In its class action complaint, Plymouth asserts one count against Patterson for violating Section 10(b) of the Securities Exchange Act of 1934 and Rule
10b-5 promulgated thereunder and a second, related count against the individual defendants for violating Section 20(a) of the Exchange Act. Plymouth seeks compensatory damages, pre- and post-judgment interest and reasonable attorneys’ fees and experts’ witness fees and costs. On August 30, 2018, Gwinnett County Public Employees Retirement System and Plymouth County Retirement System, Pembroke Pines Pension Fund for Firefighters and Police Officers, Central Laborers Pension Fund were appointed lead plaintiffs. On January 18, 2019, Patterson and the individual defendants filed a motion to dismiss the amended complaint. On July 25, 2019, the U.S. Magistrate Judge issued a report and recommendation that the motion to dismiss be granted in part and denied in part. The report and recommendation, among other things, recommends
the dismissal of all claims against individuals defendants Ann B. Gugino, R. Stephen Armstrong and James W. Wiltz. On September 10, 2019, the District Court adopted the Magistrate Judge’s report and recommendation. While the outcome of litigation is inherently uncertain, we believe that the class action complaint is without merit, and we are vigorously defending ourselves in this litigation. We do not anticipate that this matter will have a material adverse effect on our financial statements. Patterson has also received, and responded to, requests under Minnesota Business Corporation Act § 302A.461 to inspect corporate books and records relating to the issues raised in the securities class action and the antitrust matters discussed above.
During the first quarter of fiscal 2019, the U.S. Attorney’s Office for the Western District of Virginia (“USAO-WDVA”) informed us
that our subsidiary, Animal Health International, Inc., had been designated a target of a criminal investigation. The investigation originally related to Animal Health International’s sales of prescription animal health products to certain persons and/or locations not licensed to receive them in Virginia and Tennessee in violation of federal law. After being contacted by the USAO-WDVA, Patterson retained outside legal counsel and began an internal investigation. Since that time, we produced documents both responsive to grand jury subpoenas and voluntarily. In December 2018, as a result of our internal investigation, we voluntarily advised the USAO-WDVA that some of Animal Health International’s shipments of prescription animal health products were made from a warehouse rather than a pharmacy to end-user customers in the states of Virginia and Tennessee. Thereafter, as part of our internal investigation, we conducted a comprehensive review of Animal Health International’s
distribution and licensing practices across all 50 U.S. states. That review identified compliance issues in additional states, which we voluntarily disclosed to the USAO-WDVA in April 2019. Our Board of Directors established a special investigation committee to oversee and conduct the investigation, to review our licensing, dispensing, distribution and related sales practices company-wide, and to report on its findings to the Board and to the USAO-WDVA. As a result of the internal investigation, we modified our licensing, dispensing, distribution and related sales processes company-wide. We have reached an agreement with the USAO-WDVA which we understand will resolve the federal government’s criminal investigation into Animal Health International and other non-compliant licensing, dispensing, distribution and related sales processes disclosed during the investigation. The agreement is subject to court approval. Under the terms of the agreement, Animal Health International
has agreed to pay a total criminal fine and forfeiture of $52.8 million, which payment was made in the fourth quarter of fiscal 2020, and Animal Health International has pleaded guilty to a one-count information charging it with a strict-liability misdemeanor offense under the Federal Food, Drug and Cosmetic Act in connection with its failure to comply with federal law relating to the sales of prescription animal health products. In addition, Animal Health International and Patterson have entered into a non-prosecution agreement for other non-compliant licensing, dispensing, distribution and related sales processes disclosed during the investigation and committed to undertake additional compliance program enhancements and provide compliance certifications for the period from the date of signing the non-prosecution agreement through the next three full fiscal years. We recorded a reserve of $58.3 million in our Corporate segment for the three and six months ended October
26, 2019 to account for the anticipated settlement of this matter and certain related costs and expenses. This matter may continue to divert management’s attention and cause us to suffer reputational harm. We also may be subject to other fines or penalties, equitable remedies (including but not limited to the suspension, revocation or non-renewal of licenses) and litigation. The occurrence of any of these events could adversely affect our business, financial condition and results of operations.
On August 28, 2018, Kirsten Johnsen filed a stockholder derivative complaint against Patterson Companies, Inc., as a nominal defendant, and the following former and current officers and directors of Patterson: Scott Anderson, Ann Gugino, James Wiltz, John Buck, Jody Feragen, Ellen Rudnick, Les Vinney, Neil Schrimsher, Sarena Lin, Harold Slavkin, Alex Blanco and Mark Walchirk as individual
defendants in Hennepin County District Court in a case
captioned Kirsten Johnsen v. Scott P. Anderson et al., Case No. 27-CV-18-14315. Derivatively on behalf of Patterson, plaintiff alleges that Patterson “suppressed price competition and maintained supracompetitive prices for dental supplies and equipment by entering into agreements with Henry Schein and Benco to: (i) fix margins for dental supplies and equipment; and (ii) block the entry and expansion of lower-margin, lower-priced, rival dental distributors through threatened and actual group boycotts.” Plaintiff further alleges that the individual defendants failed to disclose Patterson’s
alleged “price-fixing scheme” to the public and purportedly “caused Patterson to repurchase over $412.8 million worth of its own stock at artificially inflated prices.” In the derivative complaint, plaintiff asserts three counts against the individual defendants for: (i) breach of fiduciary duty; (ii) waste of corporate assets; and (iii) unjust enrichment. Plaintiff seeks compensatory damages, equitable and injunctive relief as permitted by law, costs, disbursements and reasonable attorneys’ fees, accountants’ fees and experts’ fees, costs and expenses, and an order awarding restitution from the individual defendants and directing Patterson “to take all necessary actions to reform and improve its corporate governance and internal procedures.” On February 19, 2019, the Hennepin County District Court ordered this litigation stayed pending resolution of the below-described case brought by Sally Pemberton.
On September 10, 2019, the Honorable Patrick J. Schiltz dismissed Pemberton without prejudice because the plaintiff failed to make a pre-suit demand on Patterson’s Board of Directors. On November 5, 2019, the defendants in Johnsen moved to dismiss such action based on plaintiff’s failure to make a pre-suit demand or otherwise properly plead demand futility. On December 12, 2019, in light of the outcome in Pemberton, the defendants and Johnsen entered into a stipulation for voluntary dismissal of the Johnsen action, which the court granted on December 13, 2019.
On
October 1, 2018, Sally Pemberton filed a stockholder derivative complaint against Patterson Companies, Inc., as a nominal defendant, and the following former and current officers and directors of Patterson: Scott Anderson, Ann Gugino, Mark Walchirk, John Buck, Alex Blanco, Jody Feragen, Sarena Lin, Ellen Rudnick, Neil Schrimsher, Les Vinney, James Wiltz, Paul Guggenheim, David Misiak and Tim Rogan as individual defendants in the U.S. District Court for the District of Minnesota in a case captioned Sally Pemberton v. Scott P. Anderson, et al., Case No. 18-CV-2818 (PJS/HB). Derivatively on behalf of Patterson, plaintiff alleges that Patterson, with Benco and Henry Schein, “engage[d] in a conspiracy in restraint of trade, whereby the companies agreed to refuse to offer discounted prices or otherwise negotiate with GPOs, agreed to fix margins on dental supplies and equipment, agreed not to poach one another’s customers or
sales representatives, and agreed to block the entry and expansion of rival distributors. Plaintiff further alleges that the individual defendants failed to disclose Patterson’s alleged “antitrust misconduct” to the public and purportedly caused Patterson to repurchase $412.8 million of its own stock at prices that were artificially inflated. In the derivative complaint, plaintiff asserts six counts against the individual defendants for: (i) breach of fiduciary duty; (ii) waste of corporate assets; (iii) unjust enrichment; (iv) violations of Section 14(a) of the Exchange Act; (v) violations of Section 10(b) and Rule 10b-5 of the Exchange Act and (vi) violations of Section 20(a) of the Exchange Act. Plaintiff seeks compensatory damages with pre-judgment and post-judgment interest, costs, disbursements and reasonable attorneys’ fees, experts’ fees, costs and expenses, and an order awarding restitution from the individual defendants and directing Patterson “to
take all necessary actions to reform and improve its corporate governance and internal procedures.” On September 10, 2019, the Honorable Patrick J. Schiltz dismissed this action without prejudice because the plaintiff failed to make a pre-suit demand on Patterson’s Board of Directors. On October 31, 2019, Patterson’s Board of Directors received a written demand to initiate litigation against its officers and directors based on the claims the plaintiff originally presented in her complaint. The Board is in the process of creating a Special Litigation Committee to review such demand and determine how to address it. We do not anticipate that this matter will have a material adverse effect on our financial statements.
On January 29, 2019, a purported class action complaint was
filed by R. Lawrence Hatchett, M.D. against Patterson Companies, Inc., Henry Schein, Inc., Benco Dental Supply Company, and unnamed co-conspirators in the U.S. District Court for the Southern District of Illinois. The complaint alleges that members of the proposed class suffered antitrust injury due to an unlawful boycott, price-fixing or otherwise anticompetitive conspiracy among Schein, Benco and Patterson. The complaint alleges that the alleged conspiracy overcharged Illinois dental practices, orthodontic practices and dental laboratories on their purchase of dental supplies, which in turn passed on some or all of such overcharges to members of the class. Subject to certain exclusions, the complaint defines the class as all persons residing in Illinois purchasing and/or reimbursing for dental care provided by independent Illinois dental practices purchasing dental supplies from the defendants, or purchasing from buying groups purchasing these supplies from the defendants,
on or after January 29, 2015. The complaint alleges violations of the Illinois Antitrust Act, 740 Ill. Comp. Stat. §§ 10/3(2), 10/7(2), and seeks a permanent injunction, actual damages to be determined at trial, trebled, reasonable attorneys’ fees and costs, and pre- and post-judgment interest. On February 13, 2020, the court granted defendants' motion to dismiss for lack of standing and dismissed the action with prejudice.
In December 2017, the United States Judicial Panel on Multidistrict Litigation consolidated numerous cases filed against an array of defendants by various plaintiffs such as counties, cities, hospitals, Indian tribes and others, alleging claims generally concerning the impacts of widespread opioid abuse. The consolidated multidistrict litigation, captioned In re National Prescription Opiate Litigation, MDL
No. 2804 (the “MDL”), is pending in the U.S. District Court for the Northern District of Ohio. On July 12, 2018, Bon Secours Health System, Inc., Bon Secours-
Richmond Community Hospital, Incorporated, Bon Secours DePaul Medical Center, Inc., Bon Secours- Memorial Regional Medical Center, Inc., Bon Secours- St. Francis Medical Center, Inc., Bon Secours- St. Mary’s Hospital of Richmond, Inc., Bon Secours- Virginia Healthsource, Inc., Chesapeake Hospital Corporation, Mary Immaculate Hospital, Incorporated and Maryview Hospital (collectively, the “MDL Plaintiffs”) filed a complaint in
the MDL against 26 manufacturers and wholesale distributors of prescription opiates (the “MDL Defendants”) alleging that the MDL Defendants improperly marketed, sold or distributed prescription opiates. The MDL Plaintiffs’ complaint alleges violations of federal RICO statutes, violations of the Virginia Consumer Protections Act, negligence, negligence per se, wantonness, recklessness, and gross negligence, fraud and public nuisance. The MDL Plaintiffs seek injunctive relief, the imposition of civil penalties, monetary damages, punitive damages, pre- and post-judgment interest and attorneys’ fees and costs. Neither Patterson nor any of its subsidiaries were named as MDL Defendants in the original complaint. On March 15, 2019, the MDL Plaintiffs amended and supplemented their complaint to assert violations of federal RICO statutes
against 67 manufacturers and wholesale distributors of prescription opiates (the “Amended MDL Defendants”). Two of Patterson’s subsidiaries, Patterson Logistics Services, Inc. and Patterson Veterinary Supply, Inc., are named as Amended MDL Defendants. The MDL Plaintiffs allege that the Amended MDL Defendants “breached their legal duties under federal law to monitor, detect, investigate, refuse and report suspicious orders of prescription opiates.” Patterson Logistics Services, Inc. and Patterson Veterinary Supply, Inc. were voluntarily dismissed from this action with prejudice on January 9, 2020.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE
OF PROCEEDS
Purchases of Equity Securities by the Issuer
On March 13, 2018, the Board of Directors authorized a $500 million share repurchase program through March 13, 2021. No shares were repurchased under the stock repurchase plan during the third quarter of fiscal 2020.
In fiscal 2017, we entered into an amended credit agreement (“Amended Credit Agreement”), consisting of a $295.1 million term loan and a $750 million revolving line of credit. In March 2019, we permanently reduced the capacity under the revolving line of credit to $500 million. In fiscal 2020, we entered into a senior unsecured term loan facility agreement (the "Term Loan Facility Agreement"), consisting of a $300 million term loan. The Amended Credit Agreement
and the Term Loan Facility Agreement permit us to declare and pay dividends, and repurchase shares, provided that no default or unmatured default exists and that we are in compliance with applicable financial covenants.
(Filed Electronically) The following financial information from our Quarterly Report on Form 10-Q for the period ended January 25, 2020, formatted in Inline XBRL (Extensible Business Reporting Language): (i) the condensed consolidated balance sheets, (ii) the condensed consolidated statements of income and other comprehensive income, (iii) the condensed consolidated statements of changes in stockholders’ equity, (iv) the condensed consolidated statements of cash flows and (v) the notes to
the condensed consolidated financial statements.(*)
104
(Filed Electronically) The cover page from our Quarterly Report on Form 10-Q for the period ended January 25, 2020 is formatted in Inline XBRL (Extensible Business Reporting Language).(*)
(*) The Inline XBRL related information in Exhibits 101 and 104 to this Quarterly Report on Form 10-Q shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or otherwise subject to liability of that section and shall not be incorporated
by reference into any filing or other document pursuant to the Securities Act of 1933, as amended, except as shall be expressly set forth by specific reference in such filing or document.
All other items under Part II have been omitted because they are inapplicable or the answers are negative, or were previously reported in the 2019 Annual Report on Form 10-K filed June 26, 2019.
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.
