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Cardinal clawing back at poor performance

By Kirsty Barnes , 09-May-2006

Cardinal Health has implemented a series of business reshuffles and cost cutting measures in the hope of pulling itself out of poor profitability after disappointing third quarter results.

Cardinal's third quarter results saw a sales increase of nine per cent, however, both the pre-tax profit of $316m (€250m) and the operating profit of $350m were down 40 per cent on the previous year after the company was plagued by the underperformance in three out of four of its divisions and the divestiture of two unwanted business units.

While revenue was up 10 per cent in the firm's Pharmaceutical Distribution and Provider Services division, operating profit was down 14 per cent, and this disappointing result was largely responsible for dragging the profit of the whole company down, as 45 per cent of consolidated profit comes from this division, Jason Strohm, investor relations, Cardinal, told Outsourcing-Pharma.com.

Strohm attributed the slide to an industry-wide change in the way the distribution businesses makes their money - the division now receives most of its income from negotiating fee-based deals with drug makers, as opposed to its previous "buy and hold" business model that used seasonal prescription drug price inflation to earn a profit.

"This dampened the seasonality of our business, and profits in this quarter are much lower than the same quarter a year ago because they were previously inflated due to peak seasonality," said Strohm.

"September's financial results will be a more accurate indicator of how the distribution division is really doing since the restructure, as it will be one full year since the new business model came in to place."

Cardinal's Medical Products division saw operating profits dip by 5 per cent on a revenue increase of 6 per cent, mainly caused by the loss of a large customer in the specialty distribution segment, said the company.

The pharmaceutical Technology and Services Division, which mainly performs contract manufacturing and packaging for oral medicines and sterile liquids, also struggled to perform, with a revenue increase of 6 per cent, but an operating profit decline of 2 per cent.

While oral manufacturing remained stable during the quarter, the damage was done by production problems in the firm's sterile manufacturing operations in Albuquerque, New Mexico.

The problems stemming from the Albuquerque plant date back to when Cardinal first bought the facility in 2004.

Originally it was a clinical site and Cardinal converted it into a manufacturing site.

"We underestimated the problems we would encounter with such a conversion. We didn't realise it would be so difficult," said Strohm.

"We have underperformed for quite some time at this plant, sterile manufacturing is a difficult process and we are making a lot of investments to turn this situation around and make the business profitable as soon as possible."

"We are confident this will happen because demand for these types of services remains high and we will continue to see a strong pricing environment, although I am hesitant to predict when at this point, as we have predicted incorrectly for the last three quarters."

Investments at the site include refurbishment, retraining of staff with new standard operating procedures (SOPs) in place, and a new general manager, head of finance and head of compliance.

Meanwhile, the Clinical Technology and Services division brought the company's only good news for the quarter, with a 15 per cent revenue growth and a 73 per cent leap in operating profit, mainly due to the launch of Medstation, the flagship product in its Pyxis software business.

The Alaris business, which sells IV pumps, and the Clinical Services and Consulting business also both grew and Strohm expects growth across this division to continue.

Strohm said the firm has now laid out specific targets for the end of the next quarter to improve its dull profit margin of 1.7, which has almost halved since the comparable quarter last year.

The company is implementing cost-cutting measures in the form of a shared services strategy, consolidating the staff who currently perform various administrative services, such as accounting, as well as customer services, from 40 different sites in the US to just two centralised sites.

In the last couple of months Cardinal has been building up 2000 staff members at these sites, through internal reshuffling and external recruiting, while still continuing to operate as usual from the 40 sites nationwide.

"At the moment these cost cutting measures are also taking a chunk out of our profits because we currently have double the headcount, we expect this to continue until July 2007, after which we will start seeing the benefits of the strategy for the long term," said Strohm.

In another move to address its flagging profitability, Cardinal has also been making a series of sales and acquisitions in order to streamline the company's strategic direction, in the process writing down $209m in goodwill - another slice out of the third quarter profits.

In the third quarter the firm announced the sale of its pharmacy staffing business and the intended sale of its healthcare marketing services unit and its UK-based Intercare pharmaceutical distribution business.

"The healthcare marketing services unit, which specialises in contract sales and patient education services, no longer fits with our strategic direction. We want to place more focus on our oral and sterile manufacturing business," said Strohm.

"We are selling Intercare because we originally only gained it as part of the acquisition of Mortdale in 2004, and the way distribution businesses work in the UK (on a parallel import model) is totally different to the way we run our distribution businesses in the US, and we don't want to be involved with this anymore," he said.

At the same time Cardinal bought Per Med, a telemarketing pharma distributor that will complement Cardinal's existing full-line distribution capabilities.

"Telemarketing distributions is a growing area due to the booming generics industry," said Strohm.

In addition, Cardinal purchased Denver Biomedical, which will be part of its medical products manufacturing business, and most recently, F. Dohmen Co, the largest privately held pharmaceutical wholesaler in the US.

Cardinal now plans to move forward with its newly-appointed CEO at the helm, Kerry Clark, who left a senior post at Procter & Gamble to join the firm three weeks ago.

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