Form 10-Q PATTERSON COMPANIES, For: Oct 29
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E-mailUNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
____________________________________________________________
FORM 10-Q
____________________________________________________________
| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |||||
FOR THE QUARTERLY PERIOD ENDED October 29, 2022 .
| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 | |||||
Commission File No. 0-20572
__________________________________________________________
(Exact Name of Registrant as Specified in Its Charter)
____________________________________________________________
(State or Other Jurisdiction of Incorporation or Organization) | (I.R.S. Employer Identification Number) | |||||||
| (Address of Principal Executive Offices) | (Zip Code) | |||||||
(651 ) 686-1600
(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 | ||||||
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ 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). Yes ☒ 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):
| ☒ | Accelerated filer | ☐ | Non-accelerated filer | ☐ | ||||||||||||||||||||||||||||
| Smaller reporting company | Emerging growth company | |||||||||||||||||||||||||||||||
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 ☐ No ☒
As of November 21, 2022, there were 97,068,000 shares of Common Stock of the registrant issued and outstanding.
PATTERSON COMPANIES, INC.
INDEX
| Page | |||||
2
PART I—FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
PATTERSON COMPANIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except per share amounts)
(Unaudited)
| October 29, 2022 | April 30, 2022 | ||||||||||
| ASSETS | |||||||||||
| Current assets: | |||||||||||
| Cash and cash equivalents | $ | $ | |||||||||
Receivables, net of allowance for doubtful accounts of $ | |||||||||||
| Inventory | |||||||||||
| Prepaid expenses and other current assets | |||||||||||
| Total current assets | |||||||||||
| Property and equipment, net | |||||||||||
| Operating lease right-of-use assets, net | |||||||||||
| Long-term receivables, net | |||||||||||
| Goodwill, net | |||||||||||
| Identifiable intangibles, net | |||||||||||
| Investments | |||||||||||
| Other non-current assets, net | |||||||||||
| Total assets | $ | $ | |||||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||||||
| Current liabilities: | |||||||||||
| Accounts payable | $ | $ | |||||||||
| Accrued payroll expense | |||||||||||
| Other accrued liabilities | |||||||||||
| Operating lease liabilities | |||||||||||
| Current maturities of long-term debt | |||||||||||
| Borrowings on revolving credit | |||||||||||
| Total current liabilities | |||||||||||
| Long-term debt | |||||||||||
| Non-current operating lease liabilities | |||||||||||
| Other non-current liabilities | |||||||||||
| Total liabilities | |||||||||||
| Stockholders’ equity: | |||||||||||
Common stock, $ | |||||||||||
| Additional paid-in capital | |||||||||||
| Accumulated other comprehensive loss | ( | ( | |||||||||
| Retained earnings | |||||||||||
| Total Patterson Companies, Inc. stockholders' equity | |||||||||||
| Noncontrolling interests | |||||||||||
| Total stockholders’ equity | |||||||||||
| Total liabilities and stockholders’ equity | $ | $ | |||||||||
See accompanying notes
3
PATTERSON COMPANIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND OTHER COMPREHENSIVE INCOME
(In thousands, except per share amounts)
(Unaudited)
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Net sales | $ | $ | $ | $ | |||||||||||||||||||
| Cost of sales | |||||||||||||||||||||||
| Gross profit | |||||||||||||||||||||||
| Operating expenses | |||||||||||||||||||||||
| Operating income | |||||||||||||||||||||||
| Other income (expense): | |||||||||||||||||||||||
| Gains on investments | |||||||||||||||||||||||
| Other income, net | |||||||||||||||||||||||
| Interest expense | ( | ( | ( | ( | |||||||||||||||||||
| Income before taxes | |||||||||||||||||||||||
| Income tax expense | |||||||||||||||||||||||
| Net income | |||||||||||||||||||||||
| Net loss attributable to noncontrolling interests | ( | ( | ( | ( | |||||||||||||||||||
| Net income attributable to Patterson Companies, Inc. | $ | $ | $ | $ | |||||||||||||||||||
| Earnings per share attributable to Patterson Companies, Inc.: | |||||||||||||||||||||||
| Basic | $ | $ | $ | $ | |||||||||||||||||||
| Diluted | $ | $ | $ | $ | |||||||||||||||||||
| Weighted average shares: | |||||||||||||||||||||||
| Basic | |||||||||||||||||||||||
| Diluted | |||||||||||||||||||||||
| Dividends declared per common share | $ | $ | $ | $ | |||||||||||||||||||
| Comprehensive income: | |||||||||||||||||||||||
| Net income | $ | $ | $ | $ | |||||||||||||||||||
| Foreign currency translation (loss) gain | ( | ( | |||||||||||||||||||||
| Cash flow hedges, net of tax | |||||||||||||||||||||||
| Comprehensive income | $ | $ | $ | $ | |||||||||||||||||||
See accompanying notes
4
PATTERSON COMPANIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(In thousands)
(Unaudited)
| Common Stock | Additional Paid-in Capital | Accumulated Other Comprehensive Loss | Retained Earnings | Non-controlling Interests | Total | ||||||||||||||||||||||||||||||||||||
| Shares | Amount | ||||||||||||||||||||||||||||||||||||||||
| Balance at April 24, 2021 | $ | $ | $ | ( | $ | $ | $ | ||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | ( | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at July 31, 2021 | ( | ||||||||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | — | — | — | ||||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at October 30, 2021 | ( | ||||||||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | ( | — | — | ( | ||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | — | — | — | ||||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Contribution from noncontrolling interest | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at January 29, 2022 | ( | ||||||||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | ( | — | — | ( | ||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | — | — | — | ||||||||||||||||||||||||||||||||||||||
| Repurchases of common stock | ( | ( | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Contribution from noncontrolling interest | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at April 30, 2022 | $ | $ | $ | ( | $ | $ | $ | ||||||||||||||||||||||||||||||||||
See accompanying notes
5
PATTERSON COMPANIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
(In thousands)
(Unaudited)
| Common Stock | Additional Paid-in Capital | Accumulated Other Comprehensive Loss | Retained Earnings | Non-controlling Interests | Total | ||||||||||||||||||||||||||||||||||||
| Shares | Amount | ||||||||||||||||||||||||||||||||||||||||
| Balance at April 30, 2022 | $ | $ | $ | ( | $ | $ | $ | ||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | ( | — | — | ( | ||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | ( | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Repurchases of common stock | ( | ( | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Contribution from noncontrolling interest | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at July 30, 2022 | ( | ||||||||||||||||||||||||||||||||||||||||
| Foreign currency translation | — | — | — | ( | — | — | ( | ||||||||||||||||||||||||||||||||||
| Cash flow hedges | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Net income (loss) | — | — | — | — | ( | ||||||||||||||||||||||||||||||||||||
| Dividends declared | — | — | — | — | ( | — | ( | ||||||||||||||||||||||||||||||||||
| Common stock issued and related tax benefits | — | — | — | ||||||||||||||||||||||||||||||||||||||
| Stock-based compensation | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Contribution from noncontrolling interest | — | — | — | — | — | ||||||||||||||||||||||||||||||||||||
| Balance at October 29, 2022 | $ | $ | $ | ( | $ | $ | $ | ||||||||||||||||||||||||||||||||||
See accompanying notes
6
PATTERSON COMPANIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
| Six Months Ended | |||||||||||
| October 29, 2022 | October 30, 2021 | ||||||||||
| Operating activities: | |||||||||||
| Net income | $ | $ | |||||||||
| Adjustments to reconcile net income to net cash used in operating activities: | |||||||||||
| Depreciation | |||||||||||
| Amortization | |||||||||||
| Gains on investments | ( | ||||||||||
| Non-cash employee compensation | |||||||||||
| Non-cash losses (gains) and other, net | |||||||||||
| Change in assets and liabilities: | |||||||||||
| Receivables | ( | ( | |||||||||
| Inventory | ( | ( | |||||||||
| Accounts payable | |||||||||||
| Accrued liabilities | ( | ( | |||||||||
| Other changes from operating activities, net | ( | ( | |||||||||
| Net cash used in operating activities | ( | ( | |||||||||
| Investing activities: | |||||||||||
| Additions to property and equipment | ( | ( | |||||||||
| Collection of deferred purchase price receivables | |||||||||||
| Payments related to acquisitions, net of cash acquired | ( | ||||||||||
| Payments related to investments | ( | ||||||||||
| Sale of investments | |||||||||||
| Net cash provided by investing activities | |||||||||||
| Financing activities: | |||||||||||
| Dividends paid | ( | ( | |||||||||
| Repurchases of common stock | ( | ||||||||||
| Draw (payment) on revolving credit | ( | ||||||||||
| Other financing activities | ( | ||||||||||
| Net cash provided by (used in) financing activities | ( | ||||||||||
| Effect of exchange rate changes on cash | ( | ||||||||||
| Net change in cash and cash equivalents | ( | ||||||||||
| Cash and cash equivalents at beginning of period | |||||||||||
| Cash and cash equivalents at end of period | $ | $ | |||||||||
| Supplemental disclosure of non-cash investing activity: | |||||||||||
| Retained interest in securitization transactions | $ | $ | |||||||||
See accompanying notes
7
PATTERSON COMPANIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Dollars, except per share amounts, and shares in thousands)
(Unaudited)
Note 1. General
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 October 29, 2022, and our results of operations and cash flows for the periods ended October 29, 2022 and October 30, 2021. Such adjustments are of a normal recurring nature. The results of operations for the three and six months ended October 29, 2022 are not necessarily indicative of the results to be expected for any other interim period or for the year ending April 29, 2023. These financial statements should be read in conjunction with the financial statements included in our 2022 Annual Report on Form 10-K filed on June 29, 2022.
Fiscal Year End
We operate with a 52-53 week accounting convention with our fiscal year ending on the last Saturday in April. The second quarter of fiscal 2023 and 2022 represents the 13 weeks ended October 29, 2022 and October 30, 2021, respectively. The six months ended October 29, 2022 and October 30, 2021 included 26 and 27 weeks, respectively. Fiscal 2023 will include 52 weeks and fiscal 2022 included 53 weeks.
Other Income, Net
Other income, net consisted of the following:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Gain on interest rate swap agreements | $ | $ | $ | $ | |||||||||||||||||||
| Investment income and other | |||||||||||||||||||||||
| Other income, net | $ | $ | $ | $ | |||||||||||||||||||
Earnings Per Share ("EPS")
8
The following table sets forth the computation of the weighted average shares outstanding used to calculate basic and diluted EPS:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Denominator for basic EPS – weighted average shares | |||||||||||||||||||||||
| Effect of dilutive securities – stock options, restricted stock and stock purchase plans | |||||||||||||||||||||||
| Denominator for diluted EPS – weighted average shares | |||||||||||||||||||||||
Potentially dilutive securities representing 1,572 shares and 1,166 shares for the three and six months ended October 29, 2022 and 807 shares and 724 shares for the three and six months ended October 30, 2021 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, current and forecasted 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
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 October 29, 2022 and April 30, 2022 were $2,327 and $134 , 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 October 29, 2022 and April 30, 2022, contract liabilities of $39,405 and $38,581 were reported in other accrued
9
liabilities, respectively. During the six months ended October 29, 2022, we recognized $22,490 of the amount previously deferred at April 30, 2022.
Recently Issued Accounting Pronouncements
The Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting” in March 2020 and ASU No. 2021-01, “Reference Rate Reform (Topic 848): Scope” in January 2021. These ASUs provide temporary optional expedients and exceptions to existing guidance on contract modifications and hedge accounting to facilitate the market transition from existing reference rates, such as LIBOR which began to be phased out at the end of 2021, to alternate reference rates. These standards were effective upon issuance. We are evaluating the optional relief guidance provided within these ASUs, and are reviewing our debt securities and derivative instruments that currently utilize LIBOR as the reference rate.
Note 2. Receivables Securitization Program
We are party to certain receivables purchase agreements (the “Receivables Purchase Agreements”) with MUFG Bank, Ltd. ("MUFG") (f.k.a. The Bank of Tokyo-Mitsubishi UFJ, Ltd.), under which 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. We use a daily unit of account for these Receivables.
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 $200,000 as of October 29, 2022, of which $200,000 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. As of October 29, 2022 and April 30, 2022, the fair value of outstanding trade receivables transferred to the Purchasers under the facility and derecognized from the condensed consolidated balance sheets were $417,786 and $396,443 , respectively. Sales of trade receivables under this facility were $1,826,156 and $1,877,460 , and cash collections from customers on receivables sold were $1,804,576 and $1,855,260 during the six months ended October 29, 2022 and October 30, 2021, respectively.
The DPP receivable is recorded at fair value within the condensed consolidated balance sheets within prepaid expenses and other current assets. 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 inclusive of bank fees and allowance for credit losses. In operating expenses in the condensed consolidated statements of operations and other comprehensive income, we recorded losses of $3,211 and $894 during the three months ended October 29, 2022 and October 30, 2021, respectively, and $4,646 and $1,615 during the six months ended October 29, 2022 and October 30, 2021, respectively, related to the Receivables.
The following rollforward summarizes the activity related to the DPP receivable:
| Six Months Ended | |||||||||||
| October 29, 2022 | October 30, 2021 | ||||||||||
| Beginning DPP receivable balance | $ | $ | |||||||||
| Non-cash additions to DPP receivable | |||||||||||
| Collection of DPP receivable | ( | ( | |||||||||
| Ending DPP receivable balance | $ | $ | |||||||||
Note 3. Customer Financing
10
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 $1,000 . 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 two arrangements under which we sell these contracts. We use a monthly unit of account for these financing 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 15.0 % 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 MUFG. The capacity under the agreement with MUFG at October 29, 2022 was $525,000 .
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 15.0 % 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 October 29, 2022 was $100,000 .
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 or loss on sale of the related receivables and recorded in net sales in the condensed consolidated statements of operations and other comprehensive income. Expenses incurred related to customer financing activities are recorded in operating expenses in our condensed consolidated statements of operations and other comprehensive income.
During the six months ended October 29, 2022 and October 30, 2021, we sold $111,612 and $113,418 of contracts under these arrangements, respectively. In net sales in the condensed consolidated statements of operations and other comprehensive income, we recorded a loss of $8,456 and $3,363 during the three months ended October 29, 2022 and October 30, 2021, respectively, related to these contracts sold. In net sales in the condensed consolidated statements of operations and other comprehensive income, we recorded a loss of $7,468 and $3,290 during the six months ended October 29, 2022 and October 30, 2021, respectively, related to these contracts sold. Cash collections on financed receivables sold were $163,088 and $218,077 during the six months ended October 29, 2022 and October 30, 2021, respectively.
Included in cash and cash equivalents in the condensed consolidated balance sheets are $33,342 and $39,106 as of October 29, 2022 and April 30, 2022, 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 $56,562 and $58,190 as of October 29, 2022 and April 30, 2022, respectively, of finance contracts we have not yet sold. A total of $534,777 of finance contracts receivable sold under the arrangements was outstanding at October 29, 2022. Since the internal financing program began in 1994, bad debt write-offs have amounted to less than 1 % of the loans originated.
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| Six Months Ended | |||||||||||
| October 29, 2022 | October 30, 2021 | ||||||||||
| Beginning DPP receivable balance | $ | $ | |||||||||
| Non-cash additions to DPP receivable | |||||||||||
| Collection of DPP receivable | ( | ( | |||||||||
| Ending DPP receivable balance | $ | $ | |||||||||
The arrangements require us to maintain a minimum current ratio and maximum leverage ratio. We were in compliance with those covenants at October 29, 2022.
Note 4. Derivative 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 October 29, 2022, PDC Funding had purchased an interest rate cap from a bank with a notional amount of $525,000 and a maturity date of August 2030. We sold an identical interest rate cap to the same bank. As of October 29, 2022, PDC Funding II had purchased an interest rate cap from a bank with a notional amount of $100,000 and a maturity date of September 2029. 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 in fair value 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 $250,000 and accounted for it as a cash flow hedge, in order to hedge interest rate fluctuations in anticipation of refinancing the 5.17 % senior notes due March 25, 2015. These notes were repaid on March 25, 2015 and replaced with new $250,000 3.48 % senior notes due March 24, 2025. A cash payment of $29,003 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.
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 in fair value as income or expense during the period in which the change occurs.
As of April 30, 2022, the remaining notional amount for interest rate swap agreements was $574,144 , with the latest maturity date in fiscal 2029. During the six months ended October 29, 2022, we entered into forward interest rate swap agreements with a notional amount of $79,010 . As of October 29, 2022, the remaining notional amount for interest rate swap agreements was $538,519 , with the latest maturity date in fiscal 2030.
Net cash receipts of $782 were received and net cash payments of $3,992 were made during the six months ended October 29, 2022 and October 30, 2021, respectively, to settle a portion of our liabilities related to interest rate swap agreements. These payments and receipts are reflected as cash flows in the condensed consolidated statements of cash flows within net cash used in operating activities.
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| Derivative type | Classification | October 29, 2022 | April 30, 2022 | |||||||||||
| Assets: | ||||||||||||||
| Interest rate contracts | Prepaid expenses and other current assets | $ | $ | |||||||||||
| Interest rate contracts | Other non-current assets, net | |||||||||||||
| Total asset derivatives | $ | $ | ||||||||||||
| Liabilities: | ||||||||||||||
| Interest rate contracts | Other accrued liabilities | $ | $ | |||||||||||
| Interest rate contracts | Other non-current liabilities | |||||||||||||
| Total liability derivatives | $ | $ | ||||||||||||
The following tables present the pre-tax effect of derivative instruments on the condensed consolidated statements of operations and other comprehensive income:
| Amount of Gain (Loss) Reclassified from Accumulated Other Comprehensive Loss into Income (Effective Portion) | ||||||||||||||||||||||||||||||||
| Three Months Ended | Six Months Ended | |||||||||||||||||||||||||||||||
| Derivatives in cash flow hedging relationships | Statements of operations location | October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | |||||||||||||||||||||||||||
| Interest rate contracts | Interest expense | $ | ( | $ | ( | $ | ( | $ | ( | |||||||||||||||||||||||
| Amount of Gain (Loss) Recognized in Income on Derivatives | ||||||||||||||||||||||||||||||||
| Three Months Ended | Six Months Ended | |||||||||||||||||||||||||||||||
| Derivatives not designated as hedging instruments | Statements of operations location | October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | |||||||||||||||||||||||||||
| Interest rate contracts | Other income, net | $ | $ | $ | $ | |||||||||||||||||||||||||||
There were no
Note 5. Fair 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.
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| October 29, 2022 | |||||||||||||||||||||||
| Total | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||
| Assets: | |||||||||||||||||||||||
| Cash equivalents | $ | $ | $ | $ | |||||||||||||||||||
| DPP receivable - receivables securitization program | |||||||||||||||||||||||
| DPP receivable - customer financing | |||||||||||||||||||||||
| Derivative instruments | |||||||||||||||||||||||
| Total assets | $ | $ | $ | $ | |||||||||||||||||||
| Liabilities: | |||||||||||||||||||||||
| Derivative instruments | $ | $ | $ | $ | |||||||||||||||||||
| April 30, 2022 | |||||||||||||||||||||||
| Total | Level 1 | Level 2 | Level 3 | ||||||||||||||||||||
| Assets: | |||||||||||||||||||||||
| Cash equivalents | $ | $ | $ | $ | |||||||||||||||||||
| DPP receivable - receivables securitization program | |||||||||||||||||||||||
| DPP receivable - customer financing | |||||||||||||||||||||||
| Derivative instruments | |||||||||||||||||||||||
| Total assets | $ | $ | $ | $ | |||||||||||||||||||
| Liabilities: | |||||||||||||||||||||||
| Derivative instruments | $ | $ | $ | $ | |||||||||||||||||||
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 three months ended July 31, 2021, we sold a portion of our investment in Vetsource, a commercial partner and leading home delivery provider for veterinarians, with a carrying value of $25,814 for $56,849 . We recorded a pre-tax gain of $31,035 in gains on investments in our condensed consolidated statements of operations and other comprehensive income as a result of this sale in the first quarter of fiscal 2022. The cash received of $56,849 is reported within investing activities in our condensed consolidated statements of cash flows. During the three months ended July 31, 2021, we also recorded a pre-tax non-cash gain of $31,035 to reflect the increase in the carrying value of the remaining portion of our investment in Vetsource, which was based on the selling price of the portion of the investment we sold for $56,849 . This gain was recorded in gains on investments in our condensed consolidated statements of operations and other comprehensive income. The carrying value of the investment we owned following this sale was $56,849 and $56,849 as of October 29, 2022 and April 30, 2022, respectively. Concurrent with the sale completed in the first quarter of fiscal 2022, we obtained rights that will allow us, under
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certain circumstances, to require another shareholder of Vetsource to purchase our remaining shares. We recorded a pre-tax non-cash gain of $25,757 in gains on investments in our condensed consolidated statements of operations and other comprehensive income as a result of this transaction. The carrying value of this put option as of October 29, 2022 is $25,757 , and is reported within investments in our condensed consolidated balance sheets. The aggregate gains on investments of $87,827 are reported within operating activities in our condensed consolidated statements of cash flows. Concurrent with obtaining this put option, we also granted rights to the same Vetsource shareholder that would allow such shareholder, under certain circumstances, to require us to sell our remaining shares at fair value. There were no fair value adjustments to such assets during the six months ended October 29, 2022.
Our debt is not measured at fair value in the condensed consolidated balance sheets. The estimated fair value of our debt as of October 29, 2022 and April 30, 2022 was $480,533 and $489,777 , respectively, as compared to a carrying value of $488,522 and $488,554 at October 29, 2022 and April 30, 2022, 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 October 29, 2022 and April 30, 2022.
Note 6. Income Taxes
Note 7. Technology Partner Innovations, LLC ("TPI")
Note 8. Segment and Geographic Data
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, 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.
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| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Consolidated net sales | |||||||||||||||||||||||
| United States | $ | $ | $ | $ | |||||||||||||||||||
| United Kingdom | |||||||||||||||||||||||
| Canada | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Dental net sales | |||||||||||||||||||||||
| United States | $ | $ | $ | $ | |||||||||||||||||||
| Canada | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Animal Health net sales | |||||||||||||||||||||||
| United States | $ | $ | $ | $ | |||||||||||||||||||
| United Kingdom | |||||||||||||||||||||||
| Canada | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Corporate net sales | |||||||||||||||||||||||
| United States | $ | ( | $ | ( | $ | ( | $ | ||||||||||||||||
| Total | $ | ( | $ | ( | $ | ( | $ | ||||||||||||||||
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The following table provides a breakdown of sales by categories of products and services:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Consolidated net sales | |||||||||||||||||||||||
| Consumable | $ | $ | $ | $ | |||||||||||||||||||
| Equipment and software | |||||||||||||||||||||||
| Value-added services and other | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Dental net sales | |||||||||||||||||||||||
| Consumable | $ | $ | $ | $ | |||||||||||||||||||
| Equipment and software | |||||||||||||||||||||||
| Value-added services and other | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Animal Health net sales | |||||||||||||||||||||||
| Consumable | $ | $ | $ | $ | |||||||||||||||||||
| Equipment and software | |||||||||||||||||||||||
| Value-added services and other | |||||||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
| Corporate net sales | |||||||||||||||||||||||
| Value-added services and other | $ | ( | $ | ( | $ | ( | $ | ||||||||||||||||
| Total | $ | ( | $ | ( | $ | ( | $ | ||||||||||||||||
The following table provides a breakdown of operating income (loss) by reportable segment:
| Three Months Ended | Six Months Ended | ||||||||||||||||||||||
| October 29, 2022 | October 30, 2021 | October 29, 2022 | October 30, 2021 | ||||||||||||||||||||
| Operating income (loss) | |||||||||||||||||||||||
| Dental | $ | $ | $ | $ | |||||||||||||||||||
| Animal Health | |||||||||||||||||||||||
| Corporate | ( | ( | ( | ( | |||||||||||||||||||
| Total | $ | $ | $ | $ | |||||||||||||||||||
The following table provides a breakdown of total assets by reportable segment:
| October 29, 2022 | April 30, 2022 | ||||||||||
| Total assets | |||||||||||
| Dental | $ | $ | |||||||||
| Animal Health | |||||||||||
| Corporate | |||||||||||
| Total | $ | $ | |||||||||
Note 9. Accumulated Other Comprehensive Loss ("AOCL")
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Cash Flow Hedges | Currency Translation Adjustment | Total | |||||||||||||||
| AOCL at April 30, 2022 | $ | ( | $ | ( | $ | ( | |||||||||||
| Other comprehensive income before reclassifications | ( | ( | |||||||||||||||
| Amounts reclassified from AOCL | |||||||||||||||||
| AOCL at October 29, 2022 | $ | ( | $ | ( | $ | ( | |||||||||||
Note 10. Legal Proceedings
Note 11. Subsequent Events
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,
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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 COVID-19 pandemic and measures taken in response thereto; uncertain macro-economic conditions, including inflationary pressures; our dependence on relationships with sales representatives and service technicians to retain customers and develop business; potential disruption of distribution capabilities, including service issues with third-party shippers; our dependence on suppliers to manufacture and supply substantially all of the products we sell; the risk of the products we sell becoming obsolete or containing undetected errors; adverse changes in supplier rebates or other purchasing incentives; the risk that private label sales could adversely affect our relationships with suppliers; our dependence on positive perceptions of Patterson’s reputation; risks inherent in acquiring and disposing of assets or other businesses and the risks inherent in integrating acquired businesses; our ability to comply with restrictive covenants in our credit agreement; turnover or loss of key personnel or highly skilled employees; the risk that our governing documents and Minnesota law may discourage takeovers and business combinations; risks related to climate change; the effects of the highly competitive and consolidating dental and animal health supply markets in which we compete; exposure to the risks of the animal production business, including changing consumer demand, the cyclical livestock market, and other factors outside our control, and the risks of the companion animal business, including the possibility of disease adversely affecting the pet population; risks from the formation or expansion of GPOs, provider networks and buying groups that may shift purchasing decisions and place us at a competitive disadvantage; increases in over-the-counter sales and e-commerce options for companion animal products or sales of companion animal products from non-veterinarian sources; change and uncertainty in the health care industry; failure to comply with existing or future U.S. or foreign laws and regulations including those governing the distribution of pharmaceuticals and controlled substances; failure to comply with health care fraud or other laws and regulations; litigation risks, including the diversion of management’s attention, the cost of defending against such actions, the possibility of damage awards or settlements, fines or penalties, or equitable remedies (including but not limited to the revocation of or non-renewal of licenses) and inherent uncertainty; failure to comply with evolving data privacy laws and regulations; tax legislation; the risks inherent in international operations, including currency fluctuations; and risks associated with information systems, software products and cyber-security attacks.
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.
Any forward-looking statement made in this Form 10-Q is based only on information currently available to us and speaks only as of the date on which it is made. We do not undertake any obligation to release publicly any revisions to any forward-looking statements whether written or oral, that may be made from time to time, whether as a result of new information, future developments or otherwise.
OVERVIEW
Our financial information for the first six months of fiscal 2023 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
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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 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 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 second quarter of fiscal 2023 and 2022 represents the 13 weeks ended October 29, 2022 and October 30, 2021, respectively. The six months ended October 29, 2022 and October 30, 2021 included 26 and 27 weeks, respectively. Fiscal 2023 will include 52 weeks and fiscal 2022 included 53 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 net sales adjusted to exclude the impact of foreign currency and differences in the number of weeks in fiscal periods. Foreign currency impact represents the difference in results that is attributable to fluctuations in currency exchange rates the company uses to convert results for all foreign entities where the functional currency is not the U.S. dollar. The company calculates the impact as the difference between the current period results translated using the current period currency exchange rates and using the comparable prior period’s currency exchange rates. The company believes the disclosure of net sales changes in constant currency provides useful supplementary information to investors in light of fluctuations in currency rates.
FACTORS AFFECTING OUR RESULTS
COVID-19. The COVID-19 pandemic has had a significant impact on our businesses. Within our Dental segment, supply chain disruptions for personal protective equipment ("PPE") and an increased demand for these products initially resulted in backorders of PPE and a potential scarcity in raw materials to make PPE, causing substantial price increases. We had to prepay suppliers in order to obtain PPE for resale to our customers, and as manufacturing caught up to increased demand for PPE, prices dropped, impacting our margins and requiring us to write down certain inventory, primarily in the first quarter of fiscal 2022. The various impacts of the COVID-19 pandemic continue to affect our customers and supply chain.
Gains on Vetsource Investment. During the three months ended July 31, 2021, we sold a portion of our investment in Vetsource, a commercial partner and leading home delivery provider for veterinarians, with a carrying value of $25.8 million for $56.8 million. We recorded a pre-tax gain of $31.0 million in gains on investments in our condensed consolidated statements of operations and other comprehensive income as a result of this sale. The cash received of $56.8 million is reported within investing activities in our condensed consolidated statements of cash flows. During the three months ended July 31, 2021, we also recorded a pre-tax non-cash gain of $31.0 million to reflect the increase in the carrying value of the remaining portion of our investment in Vetsource, which was based on the selling price of the portion of the investment we sold for $56.8 million. This gain was recorded in gains on investments in our condensed consolidated statements of operations and other comprehensive income. Concurrent with the sale completed in the first quarter of fiscal 2022, we obtained rights that will allow us, under certain circumstances, to require another shareholder of Vetsource to purchase our remaining shares. We recorded a pre-tax non-cash gain of $25.8 million in gains on investments in our condensed consolidated statements of operations and other comprehensive income as a result of this transaction. The aggregate gains on investments of $87.8 million are reported within operating activities in our condensed consolidated statements of cash flows. Concurrent with obtaining this put option, we also granted rights to the same Vetsource shareholder that would allow such shareholder, under certain circumstances, to require us to sell our remaining shares at fair value.
Fiscal 2022 Legal Reserve. In August 2021, we signed a memorandum of understanding to settle the federal securities class action complaint filed by Plymouth County Retirement System in March 2018. Under the terms of the settlement, Patterson agreed to pay $63.0 million to resolve the case. Although we agreed to settle this matter, we expressly deny the allegations of the complaint and all liability. Our insurers consented to the settlement and contributed an aggregate of $35.0 million to fund the settlement and to reimburse us for certain costs and expenses of the litigation. As a result of the foregoing, we recorded a pre-tax reserve of $63.0 million in other accrued
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liabilities in the condensed consolidated balance sheets in our Corporate segment during the first quarter of fiscal 2022 related to the probable settlement of this litigation (the "Fiscal 2022 Legal Reserve"). During the first quarter of fiscal 2022, we also recorded a receivable of $27.0 million in prepaid expenses and other current assets in the condensed consolidated balance sheets in our Corporate segment related to probable insurance recoveries, which amount was paid into the litigation settlement escrow as required by the memorandum of understanding. The net expense of $36.0 million was recorded in operating expenses in our condensed consolidated statements of operations and other comprehensive income. We recorded a gain of $8.0 million during the second quarter of fiscal 2022 in our Corporate segment to account for our receipt of carrier reimbursement of previously expended fees and costs. In June 2022, the District Court entered an order granting final approval to the settlement.
Inventory Donation Charges. During the first quarter of fiscal 2022, we committed to donate certain PPE to charitable organizations to assist with COVID-19 recovery efforts. We recorded a charge of $49.2 million within cost of sales in our condensed consolidated statements of operations and other comprehensive income as a result ("Inventory Donation Charges") in the first quarter of fiscal 2022. These charges were driven by our intention to not sell these products, but rather to donate them to charitable organizations. Of the $49.2 million expense recorded, $47.2 million and $2.0 million was recorded within our Dental and Animal Health segments, respectively.
Receivables Securitization Program. We are a party to certain receivables purchase agreements with MUFG Bank, Ltd. ("MUFG"), under which 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 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 used in operating activities within the condensed consolidated statements of cash flows.
RESULTS OF OPERATIONS
QUARTER ENDED OCTOBER 29, 2022 COMPARED TO QUARTER ENDED OCTOBER 30, 2021
The following table summarizes our results as a percent of net sales:
| Three Months Ended | |||||||||||
| October 29, 2022 | October 30, 2021 | ||||||||||
| Net sales | 100.0 | % | 100.0 | % | |||||||
| Cost of sales | 79.8 | 80.2 | |||||||||
| Gross profit | 20.2 | 19.8 | |||||||||
| Operating expenses | 16.5 | 16.0 | |||||||||
| Operating income | 3.7 | 3.8 | |||||||||
| Other income (expense) | 0.7 | 0.1 | |||||||||
| Income before taxes | 4.4 | 3.9 | |||||||||
| Income tax expense | 1.1 | 1.0 | |||||||||
| Net income | 3.3 | 2.9 | |||||||||
| Net loss attributable to noncontrolling interests | — | — | |||||||||
| Net income attributable to Patterson Companies, Inc. | 3.3 | % | 2.9 | % | |||||||
Net Sales. Consolidated net sales for the three months ended October 29, 2022 were $1,626.2 million, a decrease of 1.4% from $1,649.2 million for the three months ended October 30, 2021. Foreign exchange rate changes had an unfavorable impact of 2.1% on current quarter sales.
Dental segment sales for the three months ended October 29, 2022 were $628.9 million, an increase of 1.1% from $622.2 million for the three months ended October 30, 2021. Foreign exchange rate changes had an unfavorable impact of 0.5% on current quarter sales. Current quarter sales of consumables decreased 5.4%, sales of equipment and software increased 10.6%, and sales of value-added services and other increased 7.4%. Consumable sales decreased primarily as a result of lower sales of PPE.
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Animal Health segment sales for the three months ended October 29, 2022 were $1,003.0 million, a decrease of 2.4% from $1,027.5 million for the three months ended October 30, 2021. Foreign exchange rate changes had an unfavorable impact of 3.1% on current quarter sales.
Gross Profit. The consolidated gross profit margin rate for the three months ended October 29, 2022 increased 40 basis points to 20.2%. The increase was driven by improved margins in both our Dental and Animal Health segments, partially offset by lower net sales in our Corporate segment due to rising interest rates on our customer financing portfolio. This interest rate impact was partially offset by a gain on associated interest rate swap agreements, which is reflected in other income, net in our condensed consolidated statements of operations and other comprehensive income.
Operating Expenses. Consolidated operating expenses for the three months ended October 29, 2022 were $268.0 million, a 1.7% increase from the prior year quarter of $263.6 million. We incurred lower operating expenses during the prior year quarter primarily due to the impact of the Fiscal 2022 Legal Reserve, as we recorded a gain of $8.0 million during the second quarter of fiscal 2022 to account for our receipt of carrier reimbursement of previously expended fees and costs. The consolidated operating expense ratio of 16.5% increased 50 basis points from the prior year quarter, which was driven primarily by the Fiscal 2022 Legal Reserve and lower net sales during the three months ended October 29, 2022.
Operating Income. For the three months ended October 29, 2022, operating income was $60.1 million, or 3.7% of net sales, as compared to $62.9 million, or 3.8% of net sales for the three months ended October 30, 2021. The decrease in operating income was primarily due to the impact of the Fiscal 2022 Legal Reserve, partially offset by higher gross margins and a higher consolidated gross profit margin rate.
Dental segment operating income was $61.0 million and $55.6 million for the three months ended October 29, 2022 and October 30, 2021, respectively. The increase in operating income was primarily due to increased sales and a higher gross profit margin rate.
Animal Health segment operating income was $28.3 million and $26.1 million for the three months ended October 29, 2022, and October 30, 2021, respectively. The increase in operating income was primarily due to a higher gross profit margin rate.
Corporate segment operating loss was $29.2 million and $18.8 million for the three months ended October 29, 2022 and October 30, 2021, respectively. The change was primarily driven by the impact of the Fiscal 2022 Legal Reserve and lower customer financing-related net sales.
Other Income (Expense). Net other income was $10.7 million and $1.3 million for the three months ended October 29, 2022 and October 30, 2021, respectively. The change was primarily driven by a larger gain on our interest rate swap agreements that we utilize to hedge against interest rate fluctuations which impacted the amount of net sales we record related to our customer financing contracts during the three months ended October 29, 2022.
Income Tax Expense. The effective income tax rate for the three months ended October 29, 2022 was 24.2%, compared to 25.3% for the three months ended October 30, 2021. The decrease in the rate was primarily due to a prior period income tax reserve adjustment, which was partially offset by excess tax benefits associated with stock-based compensation.
Net Income Attributable to Patterson Companies, Inc. and Earnings Per Share. Net income attributable to Patterson Companies, Inc. for the three months ended October 29, 2022 was $54.1 million, compared to $48.3 million for the three months ended October 30, 2021. Earnings per diluted share were $0.55 in the current quarter compared to $0.49 in the prior year quarter. Weighted average diluted shares outstanding in the current quarter were 97.6 million, compared to 98.4 million in the prior year quarter. The current quarter and prior year quarter cash dividend declared was $0.26 per common share.
SIX MONTHS ENDED OCTOBER 29, 2022 COMPARED TO SIX MONTHS ENDED OCTOBER 30, 2021
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The following table summarizes our results as a percent of net sales:
| Six Months Ended | |||||||||||
| October 29, 2022 | October 30, 2021 | ||||||||||
| Net sales | 100.0 | % | 100.0 | % | |||||||
| Cost of sales | 79.7 | 81.5 | |||||||||
| Gross profit | 20.3 | 18.5 | |||||||||
| Operating expenses | 17.3 | 17.8 | |||||||||
| Operating income | 3.0 | 0.7 | |||||||||
| Other income (expense) | 0.2 | 2.6 | |||||||||
| Income before taxes | 3.2 | 3.3 | |||||||||
| Income tax expense | 0.7 | 0.8 | |||||||||
| Net income | 2.5 | 2.5 | |||||||||
| Net loss attributable to noncontrolling interests | — | — | |||||||||
| Net income attributable to Patterson Companies, Inc. | 2.5 | % | 2.5 | % | |||||||
Net Sales. Consolidated net sales for the six months ended October 29, 2022 were $3,149.5 million, a 3.5% decrease from $3,264.0 million for the six months ended October 30, 2021. Sales were negatively impacted by an estimated 3.5% due to the extra week of results in the prior year period. Foreign exchange rate changes had an unfavorable impact of 1.9% on current period sales.
Dental segment sales for the six months ended October 29, 2022 were $1,186.8 million, a 3.4% decrease from $1,229.1 million for the six months ended October 30, 2021. Sales were negatively impacted by an estimated 3.4% due to the extra week of results in the prior year period. Foreign exchange rate changes had an unfavorable impact of 0.5% on current period sales. Current period sales of consumables decreased 7.9%, sales of equipment and software increased 2.9% to $360.5 million, and sales of value-added services and other increased 3.8%. Consumable sales decreased primarily as a result of the extra week of sales in the prior year period, as well as due to lower sales of PPE.
Animal Health segment sales for the six months ended October 29, 2022 were $1,963.4 million, a 3.3% decrease from $2,030.3 million for the six months ended October 30, 2021. Sales were negatively impacted by an estimated 3.6% due to the extra week of results in the prior year period. Foreign exchange rate changes had an unfavorable impact of 2.8% on current period sales. Excluding the impact of the extra week of results in the prior year period, both Production Animal and Companion Animal sales grew in the six months ended October 29, 2022.
Gross Profit. The consolidated gross profit margin rate for the six months ended October 29, 2022 increased 180 basis points from the prior year period to 20.3%, driven primarily by the impact of the $49.2 million Inventory Donation Charges on the prior year period, partially offset by lower net sales in our Corporate segment for the six months ended October 29, 2022 due to rising interest rates on our customer financing portfolio. Excluding the impact of the Inventory Donation Charges, the gross profit margin rate increased 30 basis points as compared to the six months ended October 30, 2021. The gross profit margin rate increased in both our Animal Health and Dental segments in the six months ended October 29, 2022 as compared to the six months ended October 30, 2021.
Operating Expenses. Consolidated operating expenses for the six months ended October 29, 2022 were $545.3 million, a 6.1% decrease from the prior year period of $580.9 million. We incurred higher operating expenses during the prior year period primarily due to the impact of the Fiscal 2022 Legal Reserve. The consolidated operating expense ratio of 17.3% decreased 50 basis points from the prior year period, which was also driven by this same factor.
Operating Income. For the six months ended October 29, 2022, operating income was $94.9 million, or 3.0% of net sales, as compared to $23.3 million, or 0.7% of net sales for the six months ended October 30, 2021. The increase in operating income was primarily due to the impact of the Fiscal 2022 Legal Reserve and the Inventory Donation Charges recorded in the prior year period.
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Dental segment operating income was $97.8 million for the six months ended October 29, 2022, an increase of $43.4 million from the prior year period. The increase was primarily driven by the expense associated with the Inventory Donation Charges recorded during the six months ended October 30, 2021, partially offset by lower net sales in the six months ended October 29, 2022.
Animal Health segment operating income was $50.2 million for the six months ended October 29, 2022, an increase of $0.2 million from the prior year period. The increase was primarily driven by a higher gross profit margin rate, partially offset by lower net sales and higher operating expenses during the six months ended October 29, 2022.
Corporate segment operating loss was $53.1 million and $81.1 million for the six months ended October 29, 2022 and October 30, 2021, respectively. The change was primarily driven by the impact of the Fiscal 2022 Legal Reserve, partially offset by lower customer financing net sales recorded during the six months ended October 29, 2022.
Other Income (Expense). Net other income was $6.9 million and $85.3 million for the six months ended October 29, 2022 and October 30, 2021, respectively. We recorded higher net other income during the six months ended October 30, 2021 due to the impact of the Gains on Vetsource Investment of $87.8 million, which was partially offset by a larger gain on our interest rate swap agreements recorded during the six months ended October 29, 2022.
Income Tax Expense. The effective income tax rate for the six months ended October 29, 2022 was 23.5%, compared to 24.8% for the six months ended October 30, 2021. The decrease in the rate was primarily due to a prior period income tax reserve adjustment.
Net Income Attributable to Patterson Companies, Inc. and Earnings Per Share. Net income attributable to Patterson Companies, Inc. for the six months ended October 29, 2022 was $78.7 million, compared to $82.3 million for the six months ended October 30, 2021. Earnings per diluted share were $0.81 in the current period compared to $0.84 in the prior year period. Weighted average diluted shares outstanding in the current period were 97.7 million, compared to 98.4 million in the prior year period. The current period and prior year period cash dividend declared was $0.52 per common share.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operating activities was $520.2 million and $539.0 million for the six months ended October 29, 2022 and October 30, 2021, respectively. Net cash used in operating activities for the six months ended October 29, 2022 was primarily driven by the impact of our Receivables Securitization Program and an increase in working capital.
Net cash provided by investing activities was $447.9 million and $607.6 million for the six months ended October 29, 2022 and October 30, 2021, respectively. Collections of DPP receivables were $489.6 million and $585.6 million for the six months ended October 29, 2022 and October 30, 2021, respectively. Capital expenditures were $26.8 million and $15.5 million during the six months ended October 29, 2022 and October 30, 2021, respectively. We expect to use a total of approximately $65.0 million for capital expenditures in fiscal 2023. During the six months ended October 29, 2022, we used $15.0 million to purchase a Dental investment, and during the six months ended October 30, 2021, we recorded cash receipts of $57.2 million from the sale of investments and used $19.8 million to acquire Miller Vet.
Net cash provided by financing activities for the six months ended October 29, 2022 was $77.5 million, driven by $145.0 million attributed to draws on our revolving line of credit, partially offset by $50.7 million for dividend payments and $15.0 million for share repurchases. Net cash used in financing activities for the six months ended October 30, 2021 was $58.4 million, driven primarily by dividend payments of $50.4 million.
In fiscal 2021, we entered into an amendment, restatement and consolidation of certain credit agreements with various lenders, including MUFG Bank, Ltd, as administrative agent. This amended and restated credit agreement (the “Credit Agreement”) consisted of a $700.0 million revolving credit facility and a $300.0 million term loan facility, and was set to mature no later than February 2024.
In the second quarter of fiscal 2023, we amended and restated the Credit Agreement (the “Amended Credit Agreement”). The Amended Credit Agreement consists of a $700.0 million revolving credit facility and a $300.0 million term loan facility, and will mature no later than October 2027. We used the Amended Credit Agreement facilities to refinance and consolidate the Credit Agreement, and pay the fees and expenses incurred therewith. We
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expect to use the Amended Credit Agreement to finance our ongoing working capital needs and for other general corporate purposes.
As of October 29, 2022, $300.0 million was outstanding under the Amended Credit Agreement term loan at an interest rate of 4.77%, and $174.0 million was outstanding under the Amended Credit Agreement revolving credit facility at an interest rate of 4.19%. As of April 30, 2022, $300.0 million was outstanding under the Credit Agreement term loan at an interest rate of 1.89%, and $29.0 million was outstanding under the Credit Agreement revolving credit facility at an interest rate of 1.54%.
We expect the collection of deferred purchase price receivables, existing cash balances and credit availability under existing debt facilities, less our funds used in operations, will be sufficient to meet our working capital needs and to finance our business over the remainder of fiscal 2023.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
See Note 1 to the Condensed Consolidated Financial Statements.
SUBSEQUENT EVENTS
During the third quarter of fiscal 2023, we signed an agreement to acquire substantially all of the assets of Relief Services for Veterinary Practitioners and Animal Care Technologies (RSVP and ACT), a Texas-based company that provides innovative solutions to veterinary practices through data extraction and conversion, staffing and video-based training services. Upon closing, which we expect to occur in the third quarter of fiscal 2023, we expect that the acquisition will expand our Companion Animal value-added platform by adding these solutions to the suite of offerings. Also during the third quarter of fiscal 2023, we signed an agreement to acquire substantially all of the assets of Dairy Tech, Inc., a Colorado-based company that provides pasteurizing equipment and single-use bags that allow dairy producers to produce, store and feed colostrum for newborn calves, as well as product offerings for beef cattle producers. Upon closing, which we expect to occur in the third quarter of fiscal 2023, we expect that the acquisition will expand our Production Animal value-added platform by adding these solutions to the suite of offerings. The aggregate cash consideration for these two acquisitions is $38.5 million.
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 2022 Annual Report on Form 10-K filed June 29, 2022.
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 Interim 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 October 29, 2022. 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 October 29, 2022.
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 October 29, 2022 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II—OTHER INFORMATION
ITEM 1. LEGAL 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 such 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 also may be subject to fines or penalties, and equitable remedies (including but not limited to the suspension, revocation or non-renewal of licenses). 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. Adverse outcomes 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.
ITEM 1A. RISK FACTORS
There have been no material changes to the risk factors disclosed in Part I, Item 1A, “Risk Factors” in our 2022 Annual Report on Form 10-K for the fiscal year ended April 30, 2022.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
Purchases of Equity Securities by the Issuer
On March 16, 2021, the Board of Directors authorized a $500 million share repurchase program through March 16, 2024. As of October 29, 2022 there was $450 million remaining under the stock repurchase program.
No shares were repurchased under the stock repurchase program during the second quarter of fiscal 2023.
Our Credit Agreement permits 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.
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ITEM 6. EXHIBITS
Exhibit No. | Exhibit Description | |||||||
| 10.1 | ||||||||
| 10.2 | ||||||||
| 10.3 | ||||||||
| 10.4 | ||||||||
| 10.5 | ||||||||
| 31.1 | ||||||||
| 31.2 | ||||||||
| 32.1 | ||||||||
| 32.2 | ||||||||
| 101 | (Filed Electronically) The following financial information from our Quarterly Report on Form 10-Q for the period ended October 29, 2022, formatted in Inline XBRL (Extensible Business Reporting Language): (i) the condensed consolidated balance sheets, (ii) the condensed consolidated statements of operations 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 October 29, 2022 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 2022 Annual Report on Form 10-K filed June 29, 2022.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| PATTERSON COMPANIES, INC. | |||||||||||
| (Registrant) | |||||||||||
| Dated: December 1, 2022 | By: | /s/ Kevin M. Barry | |||||||||
| Kevin M. Barry | |||||||||||
| Interim Chief Financial Officer | |||||||||||
| (Principal Financial Officer and Principal Accounting Officer) | |||||||||||
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ATTACHMENTS / EXHIBITS
XBRL TAXONOMY EXTENSION SCHEMA DOCUMENT
XBRL TAXONOMY EXTENSION CALCULATION LINKBASE DOCUMENT
XBRL TAXONOMY EXTENSION DEFINITION LINKBASE DOCUMENT
XBRL TAXONOMY EXTENSION LABEL LINKBASE DOCUMENT
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