Fortrea Holdings Inc. 10-Q

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (in millions) The following discussion and analysis is intended to provide a summary of significant factors relevant to the financial performance and condition of Fortrea Holdings Inc., which we refer to in this discussion and analysis as “Fortrea,” the “Company,” “our” and “we”. Prior to the spin-off which was completed on June 30, 2023 (the “Spin” or “the Separation”), Fortrea existed and functioned as part of Labcorp Holdings Inc., which we refer to in this discussion and analysis as “Labcorp” or “Former Parent.” The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our audited consolidated and combined financial statements and corresponding notes included in our Annual Report on Form 10-K for the year ended December 31, 2024 (the “Form 10-K”) and our unaudited condensed consolidated financial statements and corresponding notes in Item 1. “Financial Statements.” Unless otherwise noted, the following information and discussion relates to our continuing operations. Cautionary Statement Concerning Forward-Looking Statements This Form 10-Q and other materials we have filed or will file with the Securities and Exchange Commission (the “SEC”) include or will include forward-looking statements. Some of the forward-looking statements can be identified by the use of terms such as “believes,” “expects,” “may,” “will,” “should,” “could,” “seeks,” “approximately,” “intends,” “plans,” “estimates,” “anticipates,” or other comparable terms. These forward-looking statements include all matters that are not related to present facts or current conditions or that are not historical facts. They appear in a number of places throughout this Form 10-Q and include statements regarding our intentions, beliefs, or current expectations concerning, among other things, our results of operations, financial condition, liquidity, prospects and growth strategies, and the industries in which we operate and include, without limitation, statements relating to our future performance. 20 Table of Contents Forward-looking statements are subject to known and unknown risks and uncertainties, many of which are beyond our control. We caution you that forward-looking statements are not guarantees of future performance and that our actual results of operations, financial condition and liquidity, and industry development may differ materially from those made in or suggested by the forward-looking statements contained in this Form 10-Q. In addition, even if our results of operations, financial condition and liquidity, and industry development are consistent with the forward-looking statements contained in this Form 10-Q, those results or developments may not be indicative of results or developments in subsequent periods. A number of important factors could cause actual results to differ materially from those contained in or implied by the forward-looking statements, including the risks and uncertainties discussed in the “Risk Factors” Section of our Form 10-K, as filed with the SEC. Factors that could cause actual results to differ from those reflected in forward-looking statements relating to our operations and business include, among other things: the impacts of becoming and our limited operating history as an independent public company; our ability to maintain financial reporting and other financial and accounting information following the Spin due to the end of the relevant transition agreements, as well as IT, accounting, finance, legal, human resources, and other services critical to our businesses; our dependence on third parties generally to provide services critical to our businesses; the risk that establishment of our accounting, enterprise resource planning, and other management systems post the transition period could cost more or take longer than anticipated; the impact of building our brand and increasing our value; our ability to successfully implement our business strategies and execute our long-term value creation strategy; risks and expenses associated with our international operations including but not limited to currency fluctuations and trade policies; our customer or therapeutic area concentrations; any deterioration in the macroeconomic environment, which could lead to defaults or cancellations by our customers; the risk that our backlog and net new business may not grow to the extent we anticipate over the time period we anticipate, that such measures may not be indicative of our future revenues and that we might not realize all of the anticipated future revenue reflected in our backlog; our ability to generate sufficient net new business awards, or the risk that net new business awards are delayed, terminated, reduced in scope, or fail to go to contract; the risk that we may underprice our contracts, overrun our cost estimates, or fail to receive approval for, or experience delays in documentation of change orders; our ability to complete the divestiture of Endpoint Clinical and Fortrea Patient access businesses on time or at all and our ability to realize the full purchase price and benefits of the transaction; and other factors described in the Form 10-K and from time to time in documents that we file with the SEC. All forward-looking statements are made only as of the date of this Form 10-Q, and we do not undertake any obligation, other than as may be required by law, to update or revise any forward-looking statements to reflect future events or developments. Comparisons of results for current and any prior periods are not intended to express any future trends, or indications of future performance, unless expressed as such, and should only be viewed as historical data. For a further discussion of the risks relating to our business, see the “Risk Factors” section of our Annual Report on Form 10-K. Company Overview Fortrea, a Delaware corporation incorporated on January 31, 2023, is a leading global contract research organization (“CRO”) providing biopharmaceutical product and medical device development solutions to pharmaceutical, biotechnology and medical device customers. We offer customers highly flexible delivery models that include Full Service, Functional Service Provider (“FSP”), and Hybrid Service structures. We have a rich history of providing clinical development services for over 30 years across more than 20 therapeutic areas, first as Covance and later as Labcorp Drug Development. On June 30, 2023, we completed the Spin from Labcorp. We leverage our global scale, scientific and therapeutic expertise, clinical data insights, technology innovation, industry network and decades of experience as a standalone company and as a business unit prior to the Spin to deliver tailored solutions to our customers. With what we believe is a distinctive market offering, Fortrea meets growing global demand for clinical development services. Our team of approximately 15,000 employees conducts operations in approximately 100 countries and delivers comprehensive phase I – IV clinical trial management, clinical pharmacology, and consulting services for our customers. Our offering is scaled to deliver focused and agile solutions to customers globally, streamlining the biopharmaceutical product, and medical device development process. 21 Table of Contents Sale of Assets Relating to the Enabling Services Segment On March 9, 2024, the Company, together with its wholly-owned subsidiary, Fortrea Inc. (the “Seller”), entered into an Asset Purchase Agreement (the “Purchase Agreement”) with Endeavor Buyer LLC, an affiliate of Arsenal Capital Partners, pursuant to which the Seller agreed to sell, and to cause its affiliates to sell, certain assets relating to its Enabling Services Segment (the “Transaction”), including the sale of equity interests of Fortrea Patient Access Inc. and its subsidiaries and Endpoint Clinical, Inc. and its subsidiaries. The final adjusted purchase price for the Transaction was $340.0, subject to customary purchase price adjustments, with $295.0 paid at closing and $45.0 to be paid upon achievement of certain transition-related milestones, which includes certain services provided through a Transition Services Agreement. The Transaction closed during the second quarter of 2024. The first milestone payment in the amount of $20.0 was received in the first quarter of 2025. The decision to sell such assets relating to the Enabling Services Segment represented a strategic shift that had a significant effect on the Company's results and operations for the periods presented. As a result, the operations of the Enabling Services Segment have been classified as loss from discontinued operations on the condensed consolidated statements of operations. Backlog Our backlog consists of anticipated future revenue from business awards that either have not started, or that are in process and have not been completed. Our backlog also reflects any cancellation or adjustment activity related to these awards. The average duration of our contracts will fluctuate from period to period based on the contracts comprising our backlog at any given time. The majority of our contracts contain early termination provisions that typically require notice periods ranging from 30 to 90 days. We adjust backlog for foreign currency fluctuations and exclude from backlog amounts that have been recognized as revenue in our statements of operations. Our backlog was $7.7 billion as of March 31, 2025. We do not believe that, as a sole measure, our backlog is a consistent indicator of future revenue because it has been, and likely will continue to be, affected by a number of factors, including the variable size and duration of projects, many of which are performed over several years, and changes to the scope of work during the course of projects. Additionally, projects may be canceled or delayed by the customer or regulatory authorities. We generally do not have a contractual right to the full amount of the contract award reflected in our backlog. If a customer cancels a contract, we generally will be reimbursed for the costs we have incurred. For a further discussion of the risks relating to our business, see the “Risk Factors” section of our Annual Report on Form 10-K. RESULTS OF CONTINUING OPERATIONS Three Months Ended March 31, 2025 compared with Three Months Ended March 31, 2024 The following tables present the financial measures that management considers to be the most significant indicators of the Company's performance. Revenues Three Months Ended March 31, 2025 2024 Change Revenues $ 651.3 $ 662.1 (1.6) % The Company’s revenues for the three months ended March 31, 2025 were $651.3, a decrease of 1.6% from revenues of $662.1 in the corresponding period in 2024. The change in revenues was due to a decrease in organic revenues of 1.1% and unfavorable foreign currency translation of 0.5%. The Company defines organic growth as the change in revenues excluding the year over year impact of acquisitions, divestitures and currency. The 1.1% decrease in organic revenues was primarily driven by lower clinical development revenues resulting primarily from a slower backlog burn rate resulting from the mix of complex and longer duration studies in our portfolio as well as slower study start up on our biotech studies. This decrease was partially offset by an increase in revenue resulting from higher pass through costs and growth in our clinical pharmacology business. 22 Table of Contents Direct Costs, Exclusive of Depreciation and Amortization Three Months Ended March 31, 2025 2024 Change Direct costs $ 534.8 $ 554.2 (3.5) % Direct costs as a % of revenues 82.1 % 83.7 % Direct costs consist primarily of payroll and related benefits for project-related employees, reimbursable expenses (pass through costs), transition services agreement costs, information technology costs, and other direct costs. Direct costs decreased 3.5% during the three months ended March 31, 2025 as compared with the corresponding period in 2024. Direct costs decreased as a percentage of revenues to 82.1% during the three months ended March 31, 2025 as compared to 83.7% in the corresponding period in 2024. The decrease in direct costs was primarily due to lower headcount and personnel costs. This decrease was partially offset by an increase in pass through costs and professional fees, as well as a reduction in research and development tax credits. Selling, General and Administrative Expenses, Exclusive of Depreciation and Amortization Three Months Ended March 31, 2025 2024 Change Selling, general and administrative expenses $ 121.8 $ 120.1 1.4 % Selling, general and administrative expenses consist primarily of administrative payroll and related benefit charges, transition services agreement costs, information technology costs, other facility charges, advertising and promotional expenses, administrative travel and credit loss provisions. Selling, general and administrative expenses increased by 1.4% during the three months ended March 31, 2025 as compared with the corresponding period in 2024. The increase was primarily due to an increase in personnel costs and professional fees to support the establishment of our corporate functions as a stand-alone company as well as $4.4 of costs associated with the receivable securitization program. This increase was partially offset by lower transition service agreement costs. Depreciation Expense Three Months Ended March 31, 2025 2024 Change Depreciation expense $ 5.0 $ 6.6 (24.2) % The decrease in depreciation expense for the three months ended March 31, 2025, as compared to the corresponding period in 2024, was due to a decrease in depreciable property, plant and equipment, primarily IT assets. Amortization Expense Three Months Ended March 31, 2025 2024 Change Amortization of intangibles and other assets $ 14.5 $ 15.3 (5.2) % T he change in amortization of intangibles and other assets during the three months ended March 31, 2025 , as compared to the corresponding period in 2024, was due to certain intangible assets reaching the end of their useful lives during the three months ended March 31, 2025. 23 Table of Contents Goodwill and other asset impairments Three Months Ended March 31, 2025 2024 Change Goodwill and other asset impairments $ 488.8 $ — nm Goodwill impairment for the three months ended March 31, 2025 was $488.8. This impairment was specific to the Clinical Development reporting unit. There were no goodwill and other asset impairments for the three months ended March 31, 2024. Restructuring and Other Charges Three Months Ended March 31, 2025 2024 Change Restructuring and other charges $ 6.5 $ 3.3 97.0 % The increase in restructuring and other charges for the three months ended March 31, 2025, as compared to the corresponding period in 2024, was due to continued charges associated with the Company’s actions to streamline its operations and eliminate redundant positions including $3.2 in impairment of facility related assets during the three months ended March 31, 2025. Interest Expense Three Months Ended March 31, 2025 2024 Change Interest expense $ 22.3 $ 34.3 (35.0) % The decrease in interest expense for the three months ended March 31, 2025, as compared with the corresponding period in 2024, is primarily due to the pay down of $70.2 on term loan A and $412.5 on term loan B in the six months ended June 30, 2024. Foreign Exchange Loss Three Months Ended March 31, 2025 2024 Change Foreign exchange loss $ (5.6) $ (5.3) 5.7 % The foreign exchange loss for the three months ended March 31, 2025 compared to the foreign exchange loss for three months ended March 31, 2024 was primarily due to the fluctuations in the U.S. Dollar against the British Pound and the Euro. Other, net Three Months Ended March 31, 2025 2024 Change Other, net $ — $ 1.3 (100.0) % The decrease in other, net for the three months ended March 31, 2025, as compared with the corresponding period in 2024, is primarily related to a change in the estimated amount of the contingent consideration payment on a sale of a facility to a third party. This decrease was partially offset by income related to services provided under transition services agreements. 24 Table of Contents Income Tax Expense Three Months Ended March 31, 2025 2024 Income tax (benefit) expense $ 14.9 $ 4.1 Income tax (benefit) expense as a % of income (loss) before tax (2.7) % (5.4) % For the three months ended March 31, 2025, the Company's effective tax rate was (2.7)% compared to the 2024 tax rate of (5.4)%. The fluctuation was primarily due to goodwill impairment with no tax benefit, withholding taxes on 2025 non-U.S. earnings that are not permanently reinvested, valuation allowance, and non-deductible compensation expense. Liquidity, Capital Resources and Financial Position The Company manages cash flow to fund and invest in operational growth, capital expenditures, and credit facility repayments. In connection with the Spin, we incurred indebtedness in an aggregate principal amount of $1,640.0, which consists of borrowings under senior secured term loan facilities and senior secured notes. During 2024, we paid down $70.2 on term loan A, and $412.5 on term loan B, respectively. We have also entered into a senior secured revolving credit facility, which consists of a five-year facility in the principal amount of up to $450.0 as further discussed in Note 7, “Debt” to our condensed consolidated financial statements. As of March 31, 2025, there was $89.0 outstanding on the Company’s revolving credit facility and $361.0 was available for borrowing. The maximum revolver borrowing outstanding was $98.5 and $75.5 during the three months ended March 31, 2025 and 2024, respectively. On May 6, 2024, we entered into a three-year $300.0 accounts receivable securitization program (the “Receivables Facility”). Under this program, Fortrea Inc. conveys receivable balances to a wholly-owned, bankruptcy-remote special purpose entity, which in turn, may sell receivables to a third-party financial institution in exchange for cash. As of March 31, 2025, the Company had sold $300.0 of receivables, which were derecognized from the Company’s consolidated balance sheet. We believe our existing cash and cash flows generated from operations, plus existing credit facilities, will be sufficient to cover the needs of our current and planned operations for at least the next 12 months. From time to time, we routinely evaluate strategic opportunities, including potential acquisitions, joint ventures or investments in complementary businesses. We may also access capital markets through the issuance of debt or equity, which we may use in connection with the acquisition of complementary businesses or other significant assets, or for other strategic opportunities, or general corporate purposes. Cash Flows for the three months ended March 31, 2025 and 2024 The cash flows related to discontinued operations have not been segregated and are included in the condensed consolidated statements of cash flows and the discussion of the cash flow activity. In summary, the Company’s cash flows were as follows: Three Months Ended March 31, 2025 2024 Net cash used for operating activities $ (124.2) $ (25.6) Net cash provided by (used for) investing activities 16.1 (9.2) Net cash provided by financing activities 88.4 21.3 Effect of exchange rate changes on cash and cash equivalents 2.8 (2.3) Net change in cash and cash equivalents $ (16.9) $ (15.8) 25 Table of Contents Cash and Cash Equivalents Cash and cash equivalents at March 31, 2025 and 2024 totaled $101.6 and $92.8, respectively. Cash and cash equivalents consist of highly liquid instruments, such as commercial paper, time deposits and other money market instruments, which have maturities when purchased of three months or less. Cash Flows from Operating Activities During the three months ended March 31, 2025, the Company’s operations used $124.2 of cash as compared to $25.6 of cash used by operations during the three months ended March 31, 2024. The increase in cash used of $98.6 for the three months ended March 31, 2025 was primarily due to a decrease in cash received from accounts receivable partially offset by lower use of cash for prepaid expenses and interest. Cash Flows from Investing Activities Net cash provided by investing activities for the three months ended March 31, 2025 was $16.1 as compared to net cash used for investing activities of $9.2 for the three months ended March 31, 2024. The $25.3 increase in net cash provided by (used for) investing activities for the three months ended March 31, 2025 was primarily due to receipt of the first milestone payment related to the sale of the Enabling Services Segment and a period over period decrease in capital expenditures. Capital expenditures were $2.9 and $9.3 for the three months ended March 31, 2025 and 2024, respectively. Capital expenditures for the three months ended March 31, 2025 were 0.4% of revenues, primarily in connection with projects to support growth in the Company's core businesses. The Company intends to continue to pursue selective investments in key therapeutic areas, business areas and geographies to drive growth and to improve efficiency of the Company's operations. Such expenditures are expected to be funded by cash flow from operations. Cash Flows from Financing Activities Net cash provided by financing activities for the three months ended March 31, 2025 was $88.4 compared to cash provided by financing activities of $21.3 for the three months ended March 31, 2024. Cash provided by financing activities for the three months ended March 31, 2025 was primarily related to net proceeds from the revolving credit facility. Off-Balance Sheet Arrangements The Company does not have any off-balance sheet financing other than short term operating leases and letters of credit. Critical Accounting Policies and Estimates We have chosen accounting policies that management believes are appropriate to accurately and fairly report our operating results and financial position in conformity with U.S. GAAP. We apply these accounting policies in a consistent manner. The Company’s critical accounting policies are summarized in Note 2, “Summary of Significant Accounting Policies” to the consolidated and combined financial statements included in the Annual Report on Form 10-K. The application of these accounting policies requires that we make estimates and assumptions about future events and apply judgments that affect the reported amounts of assets, liabilities, revenues, expenses, contingent assets and liabilities, and related disclosures. These estimates, assumptions and judgments are based on historical experience, current trends and other factors believed to be reasonable under the circumstances. Management evaluates these estimates and assumptions on an ongoing basis. If actual results ultimately differ from previous estimates, the revisions are included in results of operations when the actual amounts become known. The accounting policies that involve the most significant estimates, assumptions and management judgments used in preparation of the condensed consolidated financial statements, or are the most sensitive to change due to outside factors, are discussed in Management’s Discussion and Analysis in the Form 10-K. 26 Table of Contents Goodwill Our policy is to assess goodwill for impairment annually as of October 1, with more frequent assessments if events or changes in circumstances indicate the carrying amount may not be recoverable. Based on the annual test performed on October 1, 2024, it was previously determined that the fair values of our reporting units were greater than the carrying values, resulting in no impairment. For the Clinical Development reporting unit, the fair value of the business exceeded the book value by approximately 10% as of October 1, 2024. During the three months ended March 31, 2025, due to a sustained decline in our share price and uncertainties in global macroeconomic conditions, we determined that an indicator of impairment existed. As a result, we performed an interim impairment test. Based upon the results of the qualitative and quantitative assessments as of March 31, 2025, we concluded that the fair value of the Clinical Development reporting unit was less than its carrying value and recorded a goodwill impairment of $488.8. For the Clinical Pharmacology reporting unit, the fair value of the business substantially exceeded the book value. Although we believe that the current assumptions and estimates used in our goodwill impairment analysis are reasonable, supportable, and appropriate, continued efforts to maintain or improve the performance of these businesses could be impacted by unfavorable or unforeseen changes which could impact the existing assumptions used in the impairment analysis. Various factors could reasonably be expected to unfavorably impact existing assumptions: primarily delays in new customer bookings and the related delay in revenue from new customers, increases in customer termination activity or increases in operating costs. Accordingly, there can be no assurance that the estimates and assumptions made for the purposes of the goodwill impairment analysis will prove to be accurate predictions of future performance. It is possible that our conclusions regarding impairment or recoverability of goodwill in any reporting unit could change in future periods. There can be no assurance that the estimates and assumptions used in our goodwill impairment testing performed as of March 31, 2025 will prove to be accurate predictions of the future, if, for example, (i) the businesses do not perform as projected, (ii) overall economic conditions in 2025 or future years vary from current assumptions (including changes in discount rates), (iii) business conditions or strategies for a specific reporting unit change from current assumptions, including loss of major customers, (iv) investors require higher rates of return on equity investments in the marketplace or (v) enterprise values of comparable publicly traded companies, or actual sales transactions of comparable companies, were to decline, resulting in lower multiples of revenues and EBITDA. If our share price was to suffer further sustained declines in the future, or other indicators of impairment are present in future reporting periods, additional impairment testing will be required, which could result in further impairment charges in future periods. 27 Table of Contents