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EXHIBIT 99.4
QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 2000 -
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS - PRO FORMA COMPARISONS"
The following information revises and updates the supplemental pro forma
combined financial information of Quest Diagnostics included in the Pro Forma
Comparisons section of Management's Discussion and Analysis of Financial
Condition and Results of Operations contained in the Company's Quarterly Report
on Form 10-Q for the fiscal quarter ended March 31, 2000, filed on April 27,
2000.
The following table summarizes the Company's unaudited historical results
of operations for the three months ended March 31, 2000 and 1999 and the
Company's unaudited pro forma combined results of operations for the three
months ended March 31, 1999 (in thousands, except per share data):
<TABLE>
<CAPTION>
Three Months Ended March 31,
-----------------------------------
Historical Pro Forma
---------------------- ---------
2000 1999 1999
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<S> <C> <C> <C>
NET REVENUES $857,479 $381,841 $823,450
COSTS AND EXPENSES:
Cost of services 529,037 237,408 537,000
Selling, general and administrative 249,835 116,600 224,542
Interest expense, net 29,763 7,359 31,847
Amortization of intangible assets 11,940 5,094 11,279
Minority share of income 2,136 1,130 1,130
Other, net (428) 172 (9,648)
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Total 822,283 367,763 796,150
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INCOME BEFORE TAXES 35,196 14,078 27,300
INCOME TAX EXPENSE 17,387 6,645 13,129
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NET INCOME $ 17,809 $ 7,433 $ 14,171
======== ======== ========
BASIC NET INCOME PER COMMON SHARE $ 0.40 $ 0.25 $ 0.33
======== ======== ========
DILUTED NET INCOME PER COMMON SHARE $ 0.39 $ 0.24 $ 0.33
======== ======== ========
CASH EARNINGS BEFORE SPECIAL ITEMS PER
DILUTED COMMON SHARE $ 0.63 $ 0.39 $ 0.43
======== ======== ========
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING -- BASIC 44,131 29,716 43,044
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING -- DILUTED 45,616 30,280 43,506
ADJUSTED EBITDA $ 99,526 $ 37,919 $ 80,667
</TABLE>
PRO FORMA COMPARISONS
The pro forma combined financial information for the three months
ended March 31, 1999 assumes that the SBCL acquisition and borrowings under the
Credit Agreement were effected on January 1, 1999. The SBCL acquisition
agreements included a provision for a reduction in the purchase price paid by
Quest Diagnostics in the event that the combined balance sheet of SBCL indicated
that the net assets acquired, as of the acquisition date, were below a
prescribed level. On October 11, 2000, the purchase price adjustment was
finalized with the result that SmithKline Beecham owed Quest Diagnostics $98.6
million. This amount was offset by $3.6 million separately owed by Quest
Diagnostics to SmithKline Beecham, resulting in a net payment by SmithKline
Beecham of $95.0 million. This payment from SmithKline Beecham will be recorded
in the historical financial statements of the Company in the fourth quarter of
2000 as a reduction in the purchase price of the SBCL acquisition.
In addition to the purchase price reduction described above, the purchase
price allocation relating to the SBCL acquisition was completed in conjunction
with the preparation of the Company's quarterly report on Form 10-Q for the
fiscal quarter ended September 30, 2000. None of the adjustments, resulting from
the purchase price reduction or the completion of the purchase price allocation,
will have any impact on the Company's previously reported historical financial
statements.
The accompanying pro forma combined financial information reflects the
impact of finalizing the SBCL purchase price adjustment and the revised purchase
price allocation relating to the SBCL acquisition.
The unaudited pro forma combined financial information is presented for
illustrative purposes only to assist in analyzing the financial implications of
the SBCL acquisition and borrowings under the Credit Agreement. The unaudited
pro forma combined financial information may not be indicative of the combined
financial results of operations that would have been realized had Quest
Diagnostics and SBCL been a single entity during the periods presented. In
addition, the unaudited pro forma combined financial information is not
necessarily indicative of the future results that the combined company will
experience.
Significant pro forma adjustments reflected in the unaudited pro forma
combined financial information include reductions in employee benefit costs and
general corporate overhead allocated to the historical results of SBCL by
SmithKline Beecham, offset by an increase in net interest expense to reflect the
Company's Credit Agreement which was used to finance the SBCL acquisition.
Amortization of goodwill, which accounts for a majority of the acquired
intangible assets, is calculated on the straight-line basis over forty years.
Income taxes have been adjusted for the estimated income tax impact of the pro
forma adjustments at the incremental tax rate of 40%. A significant portion of
the intangible assets acquired in the SBCL acquisition is not deductible for tax
purposes, which has the overall impact of increasing the effective tax rate.
Weighted average common shares outstanding, for purposes of determining pro
forma basic and diluted earnings (loss) per common share and cash earnings per
diluted common share, have been adjusted to give effect to the common shares
issued to SmithKline Beecham in conjunction with the acquisition of SBCL and
shares of common stock granted at the closing of the SBCL acquisition to certain
employees.
HISTORICAL THREE MONTHS ENDED MARCH 31, 2000 COMPARED WITH
PRO FORMA THREE MONTHS ENDED MARCH 31, 1999
The following discussion and analysis compares the Company's historical
results of operations for the three months ended March 31, 2000 to the pro forma
combined results of operations for the three months ended March 31, 1999,
assuming that SBCL had been acquired by Quest Diagnostics on January 1, 1999.
All references in this section to the three months ended March 31, 2000 refer to
the historical results of Quest Diagnostics for such period. All references in
this section to the three months ended March 31, 1999 refer to the pro forma
combined results of Quest Diagnostics for such period.
Net income for the three months ended March 31, 2000 increased to $17.8
million from $14.2 million for the prior year period. Results for the three
months ended March 31, 2000 included $1.4 million of costs related to the
integration of
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SBCL which were expensed as incurred in 2000. Special items for the three months
ended March 31, 1999 represented a $9.7 million gain recognized by SBCL on the
sale of its physician office-based teleprinter assets and network which was
recorded in other, net.
A special review of the SBCL pre-closing financial statements, called for
in the SBCL acquisition agreements, was conducted to assess the recoverability
of assets and the adequacy of liabilities existing prior to the closing date of
the acquisition. This special review resulted in adjustments, primarily related
to the recoverability of SBCL receivables and accrued liabilities during various
periods prior to the closing of the SBCL acquisition. In addition, SBCL recorded
other income and expense items prior to the closing of the SBCL acquisition.
Management believes that the adjustments resulting from the special review and
the other income and expense items, both of which have not been reflected on the
face of a pro forma combined financial information, are of a non-recurring
nature and limit the comparability of results between the periods presented. In
the discussions that follow, these matters are collectively referred to as
discrete income and expense items.
Discrete income and expense items for the three months ended March 31,
1999, resulted in a reduction in pre-tax profit of $0.6 million, including $1.7
million of losses related to a customer contract accounted for as a loss
contract beginning in the third quarter of 1999, offset in large part by $1.1
million in expense reductions, the majority of which related to bad debt
expense. Excluding the impact of the discrete income and expense items, income
before special items was $8.7 million for the three months ended March 31, 1999.
Results for the three months ended March 31, 2000 and 1999 included the
effects of testing performed by third parties under the Company's laboratory
network management arrangements. As laboratory network manager, Quest
Diagnostics included in its consolidated revenues and expenses the cost of
testing performed by third parties. This treatment added $32.4 million and $41.3
million to both reported revenues and cost of services for the three months
ended March 31, 2000 and 1999, respectively. This treatment also serves to
increase cost of services as a percentage of net revenues and decrease selling,
general and administrative expenses as a percentage of net revenues. During the
first quarter of 2000, the Company and Aetna US Healthcare terminated one of the
Company's laboratory network management arrangements, and entered into a new
non-exclusive contract, effective April 1, 2000, under which the Company will no
longer be responsible for the cost of testing performed by third parties.
NET REVENUES
Net revenues for the three months ended March 31, 2000 increased by $34.0
million, or 4.1% from the prior year level due to improvements in volume of
clinical testing and average revenue per requisition of 6.1% and 2.3%,
respectively. Approximately one quarter of the volume increase was the result of
an extra day in February 2000 due to leap year. The remaining portion of the
volume increase was primarily attributable to strong sales to existing and new
customers, as a result of the Company's ability to leverage its value
proposition of offering expanded patient access, broad testing capabilities and
superior quality. Contributing to the increase in average revenue per
requisition was a shift to higher value testing and fee-for-service revenues.
These increases were partially offset by a reduction in revenues of 2.6%
associated with the treatment of a customer contract as a loss contract,
beginning in the third quarter of 1999.
OPERATING COSTS AND EXPENSES
The following discussion and analysis regarding operating costs, including
cost of services, selling, general and administrative expenses and bad debt
expense exclude the effect of testing performed by third parties under the
Company's laboratory network management arrangements, and the revenues and
expenses associated with a customer contract treated as a loss contract,
beginning in the third quarter of 1999. As discussed above, losses associated
with this contract amounted to $1.7 million for the three months ended March 31,
1999. Operating costs and expenses for the three months ended March 31, 2000
included $1.4 million of integration related costs which were expensed as
incurred in 2000. As discussed above, operating costs and expenses for the three
months ended March 31, 1999 included discrete income items totaling $1.1
million. Total operating costs for the first quarter of 2000 increased by $49.3
million from the prior year period principally associated with the volume
increase noted above.
Cost of services, as a percentage of net revenues, decreased to 60.2% for
the first quarter of 2000 from 62.2% for the prior year period, primarily due to
an increase in average revenue per requisition and to a lesser extent, the
impact of the SBCL integration to date on the cost structure of the Company.
Selling, general and administrative expenses, as a percentage of net
revenues, were 30.3% for the three months ended March 31, 2000, compared to
29.5% in the prior year period. Discrete income items reduced selling, general
and administrative expenses by $1.0 million or 0.1% of net revenues for the
three months ended March 31, 1999 of which $0.7 million represented reductions
to SBCL's bad debt expense as a result of the special review of the SBCL
financial statements. Excluding the impact of the discrete income items in 1999,
bad debt expense for both the first quarter of 2000 and 1999 was 7.6% of net
revenues.
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INTEREST EXPENSE, NET
Net interest expense decreased in the first quarter of 2000 by $2.1
million, when compared to the prior year period, primarily due to the repayment
of long term debt under the Credit Agreement between the closing of the SBCL
acquisition and the end of the first quarter of 2000, partially offset by an
increase in variable interest rates.
MINORITY SHARE OF INCOME
Minority share of income for the first quarter of 2000 increased from the
prior year level, primarily due to improved performance at the Company's joint
ventures in Pittsburgh, Pennsylvania and Erie, Pennsylvania.
OTHER, NET
Other, net for the first quarter of 2000 increased from the prior year
level, primarily due to a $9.7 million gain recognized by SBCL on the sale of
its physician office-based teleprinter assets and network during the first
quarter of 1999.
INCOME TAXES
The Company's effective tax rate was significantly impacted by goodwill
amortization, the majority of which is not deductible for tax purposes, and had
the effect of increasing the overall tax rate.
CASH EARNINGS PER SHARE AND ADJUSTED EBITDA
Pro forma cash earnings per common share is calculated as pro forma cash
earnings less preferred dividends, divided by pro forma diluted weighted average
common shares outstanding. Cash earnings represents income before special items
and amortization of all intangible assets, net of applicable taxes, presented on
a pro forma basis. Special items for the three months ended March 31, 1999
included a $9.7 million gain recognized by SBCL on the sale of its physician
office-based teleprinter assets and network which was recorded in other, net.
Cash earnings per common share is presented and discussed because it highlights
the impact on earnings of the non-cash charges associated with the amortization
of intangible assets from various acquisitions, which is significant for the
Company. Cash earnings per common share is not a measure of financial
performance under accounting principles generally accepted in the United States
and should not be considered as an alternative to (i) net income (or any other
measure of performance under accounting principles generally accepted in the
United States) as a measure of performance or (ii) cash flows from operating
activities as an indicator of cash flows or as a measure of liquidity.
Cash earnings per diluted common share was $0.63 for the first quarter of
2000, compared to pro forma cash earnings per common share of $0.43 for the
prior year period. The increase was primarily related to improvements in the
operating performance of the Company and a reduction in net interest expense.
Excluding the impact of the discrete income and expense items for the first
quarter of 1999, as discussed above, pro forma cash earnings per common share
would have been $0.44.
Adjusted EBITDA represents income before income taxes, net interest
expense, depreciation and amortization and special items. For the purposes of
calculating pro forma Adjusted EBITDA, special items for the three months ended
March 31, 2000 included $1.4 million of costs related to the integration of SBCL
which were included in operating expenses and expensed as incurred in 2000.
Special items for the three months ended March 31, 1999 included a $9.7 million
gain recognized by SBCL on the sale of its physician office-based teleprinter
assets and network and discrete income and expense items which resulted in a
reduction in pre-tax profit of $0.6 million, as discussed above. Adjusted EBITDA
is presented and discussed because management believes that Adjusted EBITDA is a
useful adjunct to net income and other measurements under accounting principles
generally accepted in the United States since it is a meaningful measure of a
leveraged company's performance and ability to meet its future debt service
requirements, fund capital expenditures and meet working capital requirements.
Adjusted EBITDA is not a measure of financial performance under accounting
principles generally accepted in the United States and should not be considered
as an alternative to (i) net income (or any other measure of performance under
accounting principles generally accepted in the United States) as a measure of
performance or (ii) cash flows from operating, investing or financing activities
as an indicator of cash flows or as a measure of liquidity.
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Excluding the revenue impacts of the testing performed by third parties
under the Company's laboratory network management arrangements and the loss
contract, Adjusted EBITDA for the three months ended March 31, 2000 improved to
$99.5 million, or 12.1% of net revenues, as compared to pro forma Adjusted
EBITDA of $80.7 million, or 10.6% of net revenues, in the prior year period. The
increase in Adjusted EBITDA was primarily related to improvements in the
operating performance of the Company.
