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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
 
FORM 10-Q
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______ to _______            

Commission File Number 1-37614
STERIS plc
(Exact name of registrant as specified in its charter)

United Kingdom
 
98-1203539
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
 
 
Chancery House, 190 Waterside Road, Hamilton Industrial Park Leicester
 
LE51QZ
(Address of principal executive offices)
 
(Zip code)
44-116-276-8636
(Registrant’s telephone number, including area code)
____________________________________________________
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  x    No  o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, 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 and post such files).    Yes  x    No  o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large Accelerated Filer  x
  
Accelerated Filer  o
Non-Accelerated Filer  o
(Do not check if a smaller reporting company)
  
Smaller Reporting Company  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  x

The number of ordinary shares outstanding as of November 2, 2016: 85,199,072

1

Table of Contents

STERIS plc and Subsidiaries
Form 10-Q
Index
 
 
 
Page
 
 
 
 
 


2

Table of Contents

PART 1—FINANCIAL INFORMATION

As used in this Quarterly Report on Form 10-Q, STERIS plc and its subsidiaries together are called “STERIS,” the “Company,” “we,” “us,” or “our,” unless otherwise noted.

ITEM 1.
FINANCIAL STATEMENTS


STERIS PLC AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
 
 
September 30,
2016
 
March 31,
2016
 
 
(Unaudited)
 
 
Assets
 
 
 
 
Current assets:
 
 
 
 
Cash and cash equivalents
 
$
254,351

 
$
248,841

Accounts receivable (net of allowances of $8,979 and $11,185, respectively)
 
441,294

 
471,523

Inventories, net
 
209,935

 
192,792

Prepaid expenses and other current assets
 
50,616

 
59,369

Total current assets
 
956,196

 
972,525

Property, plant, and equipment, net
 
1,039,783

 
1,064,319

Goodwill and intangibles, net
 
3,181,463

 
3,279,942

Other assets
 
33,183

 
29,630

Total assets
 
$
5,210,625

 
$
5,346,416

Liabilities and equity
 
 
 
 
Current liabilities:
 
 
 
 
Accounts payable
 
$
116,350

 
$
139,572

Accrued income taxes
 
16,278

 
13,683

Accrued payroll and other related liabilities
 
74,024

 
93,976

Accrued expenses and other
 
163,694

 
153,375

Total current liabilities
 
370,346

 
400,606

Long-term indebtedness
 
1,504,192

 
1,567,796

Deferred income taxes, net
 
247,713

 
254,824

Other liabilities
 
78,811

 
84,298

Total liabilities
 
$
2,201,062

 
$
2,307,524

Commitments and contingencies (see note 9)
 

 

Preferred shares, with £0.10 par value; 100 shares authorized; 100 issued and outstanding
 
15

 
15

Ordinary shares, with £0.10 par value; £17,006 shares aggregate par amount authorized; 85,380 and 85,920 ordinary shares issued and outstanding, respectively
 
2,112,834

 
2,151,719

Retained earnings
 
979,711

 
939,459

Accumulated other comprehensive (loss) income
 
(94,028
)
 
(68,159
)
Total shareholders’ equity
 
2,998,532

 
3,023,034

Noncontrolling interests
 
11,031

 
15,858

Total equity
 
3,009,563

 
3,038,892

Total liabilities and equity
 
$
5,210,625

 
$
5,346,416


See notes to consolidated financial statements.

3

Table of Contents

STERIS PLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share amounts)
(Unaudited)
 
 
 
Three Months Ended September 30,
 
Six Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
 
Product
 
$
292,216

 
$
274,145

 
$
563,966

 
$
506,452

Service
 
354,199

 
215,752

 
720,827

 
423,347

Total revenues
 
646,415

 
489,897

 
1,284,793

 
929,799

Cost of revenues:
 
 
 
 
 
 
 
 
Product
 
155,110

 
148,088

 
297,809

 
277,944

Service
 
243,397

 
132,488

 
499,086

 
258,444

Total cost of revenues
 
398,507

 
280,576

 
796,895

 
536,388

Gross profit
 
247,908

 
209,321

 
487,898

 
393,411

Operating expenses:
 
 
 
 
 
 
 
 
Selling, general, and administrative
 
163,680

 
172,459

 
315,566

 
299,294

Research and development
 
14,617

 
14,255

 
29,045

 
28,020

Restructuring expenses
 
48

 
(56
)
 
202

 
(782
)
Total operating expenses
 
178,345

 
186,658

 
344,813

 
326,532

Income from operations
 
69,563

 
22,663

 
143,085

 
66,879

Non-operating expenses, net:
 
 
 
 
 
 
 
 
Interest expense
 
10,924

 
7,485

 
21,995

 
13,605

Interest income and miscellaneous expense
 
(284
)
 
(227
)
 
(778
)
 
(709
)
Total non-operating expenses, net
 
10,640

 
7,258

 
21,217

 
12,896

Income before income tax expense
 
58,923

 
15,405

 
121,868

 
53,983

Income tax expense
 
18,721

 
7,154

 
32,955

 
21,421

Net income
 
40,202

 
8,251

 
88,913

 
32,562

Less: Net income attributable to noncontrolling interests
 
(214
)
 
(436
)
 
95

 
(416
)
Net income attributable to shareholders
 
$
40,416

 
$
8,687

 
$
88,818

 
$
32,978

 
 
 
 
 
 
 
 
 
Net income per share
 
 
 
 
 
 
 
 
Basic
 
$
0.47

 
$
0.15

 
$
1.03

 
$
0.55

Diluted
 
$
0.47

 
$
0.14

 
$
1.03

 
$
0.55

Cash dividends declared per share outstanding
 
$
0.28

 
$
0.25

 
$
0.53

 
$
0.48


See notes to consolidated financial statements.


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Table of Contents

STERIS PLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in thousands)
(Unaudited)

 
Three Months Ended September 30,
 
Six Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Net income
$
40,202

 
$
8,251

 
$
88,913

 
$
32,562

  Less: Net income (loss) attributable to noncontrolling interests
(214
)
 
(436
)
 
95

 
(416
)
Net income attributable to shareholders
40,416

 
8,687

 
88,818

 
32,978

 
 
 
 
 
 
 
 
Other comprehensive income (loss)
 
 
 
 
 
 
 
Unrealized loss on available for sale securities, (net of taxes of $80, ($46), $114, and ($263), respectively)
26

 
(552
)
 
(94
)
 
(1,400
)
Amortization of pension and postretirement benefit plans costs, (net of taxes of $242, $95, $482, and $189, respectively)
(390
)
 
(227
)
 
(780
)
 
(380
)
Pension settlement, (net of taxes of $0, $10,563, $0, and $10,563, respectively)

 
17,029

 

 
17,029

Change in cumulative foreign currency translation adjustment
(7,946
)
 
(21,841
)
 
(24,995
)
 
(8,043
)
Total other comprehensive (loss) income
(8,310
)
 
(5,591
)
 
(25,869
)
 
7,206

Comprehensive income
$
31,583

 
$
3,096

 
$
62,949

 
$
40,184


See notes to consolidated financial statements.




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Table of Contents

STERIS PLC AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(Unaudited)
 
 
 
Six Months Ended September 30,
 
 
2016
 
2015
Operating activities:
 
 
 
 
Net income
 
$
88,913

 
$
32,562

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
 
Depreciation, depletion, and amortization
 
103,861

 
46,098

Deferred income taxes
 
(4,606
)
 
(8,903
)
Share-based compensation expense
 
10,564

 
7,865

Pension settlement expense
 

 
26,515

Pension contributions made in settlement
 

 
(4,687
)
Loss on the disposal of property, plant, equipment, and intangibles, net
 
281

 
103

Excess tax benefit from share-based compensation
 

 
(4,676
)
Loss on sale of businesses, net
 
13,802

 

Other items
 
5,696

 
2,692

Changes in operating assets and liabilities, net of effects of acquisitions:
 
 
 
 
Accounts receivable, net
 
11,671

 
31,621

Inventories, net
 
(21,723
)
 
(19,986
)
Other current assets
 
6,216

 
(675
)
Accounts payable
 
(16,954
)
 
(17,325
)
Accruals and other, net
 
(9,221
)
 
(11,732
)
Net cash provided by operating activities
 
188,501

 
79,472

Investing activities:
 
 
 
 
Purchases of property, plant, equipment, and intangibles, net
 
(73,866
)
 
(39,928
)
Proceeds from the sale of property, plant, equipment, and intangibles
 
4,763

 
38

Proceeds from the sale of businesses
 
131,586

 

Purchase of investments
 
(6,356
)
 

Acquisition of businesses, net of cash acquired
 
(64,872
)
 
(220,840
)
Net cash used in investing activities
 
(8,745
)
 
(260,730
)
Financing activities:
 
 
 
 
Proceeds from issuance of long-term obligations
 

 
350,000

Payments on long-term obligations
 
(10,000
)
 

Payments under credit facilities, net
 
(47,646
)
 
(139,750
)
Deferred financing fees and debt issuance costs
 

 
(2,426
)
Acquisition related deferred or contingent consideration
 
(6,000
)
 

Repurchases of ordinary shares
 
(59,895
)
 
(12,974
)
Cash dividends paid to ordinary shareholders
 
(45,585
)
 
(28,740
)
Proceeds from issuance of equity to minority shareholders
 
5,022

 

Stock option and other equity transactions, net
 
2,494

 
8,111

Excess tax benefit from share-based compensation
 

 
4,676

Net cash (used in) provided by financing activities
 
(161,610
)
 
178,897

Effect of exchange rate changes on cash and cash equivalents
 
(12,636
)
 
(3,141
)
Increase (decrease) in cash and cash equivalents
 
5,510

 
(5,502
)
Cash and cash equivalents at beginning of period
 
248,841

 
167,689

Cash and cash equivalents at end of period
 
$
254,351

 
$
162,187

See notes to consolidated financial statements.

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Table of Contents


STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands, unless noted and except per share amounts)

1. Nature of Operations and Summary of Significant Accounting Policies

Nature of Operations

STERIS plc, a public limited company organized under the laws of England and Wales, was incorporated on October 9, 2014 as a private limited company and was re-registered effective November 2, 2015 as a public limited company under the name STERIS plc. New STERIS Limited was established to effect the combination (“Combination”) of STERIS Corporation, an Ohio corporation (“Old STERIS”), and Synergy Health plc, a public limited company organized under the laws of England and Wales (“Synergy”). The Combination closed on November 2, 2015 and as a result STERIS plc became the ultimate parent company of Old STERIS and Synergy. Synergy has been re-registered under the name Synergy Health Limited. The acquisition of Old STERIS was accounted for in the consolidated financial statements as a merger between entities under common control; accordingly the historical consolidated financial statements of Old STERIS for periods prior to November 2, 2015, are considered to be the historical financial statements of STERIS plc. Due to the timing of the Combination, the results of Synergy are only reflected in the results of operations of the Company from November 2, 2015 forward which affects comparability to the prior period historical operations of the Company throughout this Quarterly Report on Form 10-Q.

STERIS offers Customers capital equipment products, such as sterilizers and surgical tables; connectivity solutions such as operating room integration; consumable products, such as detergents, gastrointestinal endoscopy accessories, barrier product solutions, and other products and services, including: equipment installation and maintenance, microbial reduction of medical devices, instrument and scope repair solutions, among other services.

Our fiscal year ends on March 31. References in this Quarterly Report to a particular “year” or “year-end” mean our fiscal year. The significant accounting policies applied in preparing the accompanying consolidated financial statements of the Company are summarized below:

Interim Financial Statements

We prepared the accompanying unaudited consolidated financial statements of the Company according to accounting principles generally accepted in the United States (“U.S. GAAP”) for interim financial information and the instructions to the Quarterly Report on Form 10-Q and Rule 10-01 of Regulation S-X. This means that they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. Our unaudited interim consolidated financial statements contain all material adjustments (including normal recurring accruals and adjustments) management believes are necessary to fairly state our financial condition, results of operations, and cash flows for the periods presented.

These interim consolidated financial statements should be read together with the consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended March 31, 2016 dated May 31, 2016. The Consolidated Balance Sheet at March 31, 2016 was derived from the audited consolidated financial statements at that date, but does not include all of the information and footnotes required by U.S. GAAP for complete financial statements.

Principles of Consolidation

We use the consolidation method to report our investment in our subsidiaries. Therefore, the accompanying consolidated financial statements include the accounts of the Company and its wholly-owned and majority-owned subsidiaries. We eliminate inter-company accounts and transactions when we consolidate these accounts. Investments in equity of unconsolidated affiliates, over which the Company has significant influence, but not control, over the financial and operating polices, are accounted for primarily using the equity method. These investments are immaterial to the Company's Consolidated Financial Statements.






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Table of Contents
STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)




Use of Estimates

We make certain estimates and assumptions when preparing financial statements according to U.S. GAAP that affect the reported amounts of assets and liabilities at the financial statement dates and the reported amounts of revenues and expenses during the periods presented. These estimates and assumptions involve judgments with respect to many factors that are difficult to predict and are beyond our control. Actual results could be materially different from these estimates. We revise the estimates and assumptions as new information becomes available. This means that operating results for the three and six month periods ended September 30, 2016 are not necessarily indicative of results that may be expected for future quarters or for the full fiscal year ending March 31, 2017.


Recently Issued Accounting Standards Impacting the Company

Recently issued accounting standards impacting the Company are presented in the following table:



Standard
 
Date of Issuance
 
Description
 
Date of Adoption
 
Effect on the financial statements or other significant matters
Standards that have recently been adopted
ASU 2015-05, "Goodwill and other-Internal-Use Software" (Subtopic 350-40)
 
April 2015
 
The standard provides guidance on a customer's accounting for fees paid in cloud computing arrangements. Previously, there was no U.S. GAAP guidance on accounting for such fees from the customer's perspective. Under the standard, customers will apply the same criteria as vendors to determine whether the arrangement contains a software license or is solely a service contract. The determination could impact the classification of advance payments in the statements of financial position and cash flows as well as the classification of the expenses in the results of operations. The standard is effective for annual periods beginning after December 15, 2015 and interim periods within that period. Early adoption is permitted.
 
First Quarter Fiscal 2017
 
The adoption of this standard did not have a material impact on our statements of consolidated financial position, results of operations and cash flows.
ASU 2016-09, "Stock Compensation: Improvements to Employee Share-Based Payment Accounting" (Topic 718)
 
March 2016
 
The update simplifies several aspects of the accounting for share-based payment award transactions, including income tax consequences, the classification of awards as either equity or liabilities, and the classification on the statement of cash flows. The standard is effective for annual periods beginning after December 15, 2016 and interim periods within that period. Early adoption is permitted.
 
First Quarter Fiscal 2017
 
As a result of the adoption of this standard, we recorded $3.5 million of excess tax benefits associated with share based compensation in the statement of income for the six months ended September 30, 2016 and have included the associated cash flows as cash provided by operating activities. Prior periods have not been restated.

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Table of Contents
STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



Standards that have yet to be adopted
ASU 2014-09, "Revenue from Contracts with Customers"
 
May 2014
 
The standard will replace existing revenue recognition standards and significantly expand the disclosure requirements for revenue arrangements. It may be adopted either retrospectively or on a modified retrospective basis to new contracts and existing contracts with remaining performance obligations as of the effective date. The standard update is effective for annual periods beginning after December 15, 2017 and interim periods within that period, early adoption is not permitted before the original public entity effective date of December 15, 2016.
 
N/A
 
We are currently in the process of evaluating the impact that the standard will have on our consolidated financial position, results of operations and cash flows.
ASU 2016-02, "Leases" (Topic 842)
 
February 2016
 
The update will require lessees to record all leases, whether finance or operating, on the balance sheet. An asset will be recorded to represent the right to use the leased asset, and a liability will be recorded to represent the lease obligation. The standard is effective for annual periods beginning after December 15, 2018 and interim periods within that period. Early adoption is permitted.
 
N/A
 
We are in the process of evaluating the impact that the standard will have on our statements of consolidated financial position, results of operations and cash flows.
ASU 2016-07, "Investments - Equity Method and Joint Ventures, Simplifying the Transition to the Equity Method of Accounting" (Topic 323)
 
March 2016
 
The update replaces the previous requirement to retroactively adopt the equity method. The new standard requires that the equity method investor add the cost of acquiring the additional interest in the investee to the current basis of the investor's previously held interest and adopt the equity method of accounting as of the date the investment becomes qualified for equity method accounting. The standard is effective for annual periods beginning after December 15, 2016 and interim periods within that period. Early adoption is permitted.
 
N/A
 
We do not expect the adoption of this standard to have a material impact on our statements of consolidated financial position, results of operations and cash flows.

ASU 2016-15, "Statement of Cash Flows"
(Topic 230)
 
August 2016
 
This update provides guidance on the following several specific cash flow issues: Debt prepayment or debt extinguishment costs, Settlement of zero-coupon debt instruments or other debt instruments with coupon interest rates that are insignificant in relation to the effective interest rate of borrowing, contingent consideration payments made after a business combination, proceeds from the settlement of insurance claims, proceeds from the settlement of corporate-owned life insurance policies, including bank-owned life insurance policies, distributions received from equity method investees, beneficial interests in securitization transactions, and separately identifiable cash flows and application of the predominance principle. The standard is effective for annual periods beginning after December 15, 2017 and interim periods within that period. Early adoption is permitted.
 
N/A
 
We are in the process of evaluating the impact that the standard will have on our statement of cash flows.

A detailed description of our significant and critical accounting policies, estimates, and assumptions is included in our consolidated financial statements included in our Annual Report on Form 10-K for the year ended March 31, 2016 dated May 31, 2016. Our significant and critical accounting policies, estimates, and assumptions have not changed materially from March 31, 2016.


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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)




2. Business Acquisitions and Divestitures
Fiscal 2017 Acquisitions
Compass Medical Inc
On September 16, 2016, we purchased the assets of Compass Medical, Inc., for approximately $16.0 million. The purchase price was financed with credit facility borrowings. Compass Medical, Inc. specializes in the sale and repair of flexible endoscopes. On an annual basis, Compass Medical, Inc. has generated revenues of approximately $6.0 million and will be integrated into our Healthcare Specialty Services segment.
Phoenix Surgical Holdings, Ltd. and Endo-Tek LLP
On August 31, 2016, we purchased 100% of the shares of Phoenix Surgical Holdings, Ltd. and the assets of Endo-Tek LLP for approximately $14.3 million combined. The purchase price was financed with cash on hand. On an annual basis, these operations, which specialize in the repair of endoscopes, generated approximately $8.0 million in combined revenue and will be integrated into our Healthcare Specialty Services segment.
Medisafe
On July 22, 2016, we purchased 100% of the shares of Medisafe Holdings, Ltd., a U.K. manufacturer of washer/disinfector equipment and related consumables and services for approximately $34.3 million. The purchase price was financed with cash on hand. On an annual basis, the Medisafe product line has generated approximately $18.0 million in revenue. The acquisition of Medisafe provides washer manufacturing and research and development capabilities in the U.K. Medisafe's products and services will be integrated into our Healthcare Products segment.
Fiscal 2016 Acquisitions
Synergy Health plc
On November 2, 2015, STERIS acquired all outstanding shares of Synergy in a cash and stock transaction valued at £24.80 ($38.17) per Synergy share, or a total of approximately $2.3 billion based on the low trading price of Old STERIS’s stock of $73.02 per share on November 2, 2015. The Combination brought together businesses that generate revenues from over 100 countries, employ approximately 14,000 employees, and are geographically complementary. The Combination is expected to result in cost savings from optimizing global back-office infrastructure, leveraging best-demonstrated practices across plants, in-sourcing consumables, and eliminating redundant public company costs. Total costs of approximately $63,789 before tax, were incurred during fiscal year 2016 related to the Combination and are reported in selling, general and administrative expense.
The acquisition of Synergy has been accounted for using the acquisition method of accounting which requires, among other things, the assets acquired, liabilities assumed and noncontrolling interests be recognized at their respective fair values as of the acquisition date. Acquisition accounting is dependent upon certain valuations and other studies that are in progress and are not yet to a stage where there is sufficient information for a definitive measurement. The process for estimating the fair values of identifiable intangible assets and certain tangible assets and assumed liabilities requires the use of judgment in determining the appropriate assumptions and estimates.
The purchase price allocation for Synergy is preliminary. We will finalize the fair values of assets acquired, liabilities assumed, and noncontrolling interests in the third quarter of fiscal 2017, and additional purchase price adjustments will be recorded. Fair value estimates are based on a complex series of judgments about future events and uncertainties and rely heavily on estimates and assumptions. The judgments used to determine the estimated fair value assigned to each class of assets acquired and liabilities assumed, as well as asset lives, can materially impact our results of operations. The finalization of the purchase accounting assessment will result in changes in the valuation of assets acquired and liabilities assumed and may have a material impact on the our results of operations and financial position. Goodwill will be allocated to the Healthcare Products, Healthcare Specialty Services, and Applied Sterilization Technologies segments. Goodwill is the excess of the consideration transferred over the net assets recognized and represents the expected revenue and cost synergies of the combined company and assembled workforce, which are further described above. Goodwill recognized as a result of the acquisition is not deductible for tax purposes.

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Table of Contents
STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



The Consolidated Financial Statements include the operating results of acquisitions from the acquisition dates. The table below summarizes the preliminary allocation of the purchase price to the net assets acquired based on fair values at the acquisition date.
 
Fiscal Year 2017 (1)
 
Fiscal Year 2016 (1)
 
Medisafe
 
Compass
 
Phoenix and Endo-Tek
 
Synergy
Cash
$
3,767

 
$

 
$
769

 
$
53,057

Accounts receivable
3,703

 
262

 
1,123

 
107,341

Inventory
2,500

 
834

 
950

 
30,074

Property, plant and equipment
642

 
283

 
1,092

 
534,879

Other assets

 
445

 
46

 
19,708

Intangible assets
12,239

 
5,826

 

 
806,526

Goodwill
20,706

 
8,739

 
12,794

 
1,411,781

Total Assets
43,557

 
16,389

 
16,774

 
2,963,366

 
 
 
 
 
 
 
 
Current liabilities
(5,281
)
 
(387
)
 
(1,373
)
 
(108,192
)
 
 
 
 
 
 
 
 
Long-term indebtedness

 

 

 
(321,082
)
Non-current liabilities
(227
)
 

 
(295
)
 
(230,544
)
Total Liabilities
(5,508
)
 
(387
)
 
(1,668
)
 
(659,818
)
 
 
 
 
 
 
 
 
Net Assets
$
38,049

 
$
16,002

 
$
15,106

 
$
2,303,548

(1) Purchase price allocation are still preliminary as of September 30, 2016, as valuations have not been finalized.

Divestitures
Applied Infection Control
We completed the sale of our Applied Infection Control ("AIC") product line to DEB USA, Inc., a wholly-owned subsidiary of S.C Johnson & Son, Inc. Annual revenues for the AIC product line were typically less than $50 million and were included in the Healthcare Products segment. We recorded proceeds of $41.8 million and recognized a pre-tax gain on the sale of $35.0 million during the second quarter of 2017 in Selling, General, and Administrative Expense in the Consolidated Statement of Income.
UK Linen Management Services
We sold our UK Linen Management Services business to STAR Mayan Limited. Annual revenues for the UK Linen Management Services were approximately $50 million and were included in the Healthcare Specialty Services segment. We recorded proceeds of $65.0 million and recognized a pre-tax loss on the sale of $65.4 million after allocation of a portion of the identified intangibles and goodwill associated with the Combination with Synergy during the second quarter of 2017 in Selling, General, and Administrative Expense in the Consolidated Statement of Income.
Synergy Health Labs
We sold Synergy Health Laboratory Services to SYNLAB International. Annual revenues for the Synergy Health Labs were approximately $15 million and were included in the Applied Sterilization Technologies segment. We recorded proceeds of $24.9 million and recognized a pre-tax gain on the sale of $16.5 million during the second quarter of 2017 in Selling, General, and Administrative Expense in the Consolidated Statement of Income.

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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



3. Property, Plant and Equipment

Information related to the major categories of our depreciable assets is as follows:
 
 
 
September 30,
2016
 
March 31,
2016
Land and land improvements (1)
 
$
38,995

 
$
39,051

Buildings and leasehold improvements
 
445,124

 
446,277

Machinery and equipment
 
550,003

 
580,962

Linens
 
30,234

 
42,354

Information systems
 
132,140

 
126,180

Radioisotope
 
441,582

 
434,152

Construction in progress (1)
 
100,158

 
79,291

Total property, plant, and equipment
 
1,738,236

 
1,748,267

Less: accumulated depreciation and depletion
 
(698,453
)
 
(683,948
)
Property, plant, and equipment, net
 
$
1,039,783

 
$
1,064,319

(1)
Land is not depreciated. Construction in progress is not depreciated until placed in service.

4. Inventories, Net

Inventories, net are stated at the lower of cost or market. We use the last-in, first-out (“LIFO”) and first-in, first-out cost methods. An actual valuation of inventory under the LIFO method is made only at the end of the fiscal year based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations are based on management’s estimates of expected year-end inventory levels and are subject to the final fiscal year-end LIFO inventory valuation. Inventory costs include material, labor, and overhead. Inventories, net consisted of the following:
 
 
 
September 30,
2016
 
March 31,
2016
Raw materials
 
$
68,476

 
$
62,673

Work in process
 
23,481

 
19,614

Finished goods
 
153,902

 
146,820

LIFO reserve
 
(17,299
)
 
(17,608
)
Reserve for excess and obsolete inventory
 
(18,625
)
 
(18,707
)
Inventories, net
 
$
209,935

 
$
192,792


5. Debt

Indebtedness was as follows:
 
 
 
September 30,
2016
 
March 31,
2016
Private Placement
 
$
666,000

 
$
666,000

Deferred financing costs
 
(3,178
)
 
(3,420
)
Credit Agreement
 
841,370

 
905,216

Total long term debt
 
$
1,504,192

 
$
1,567,796


Additional information regarding our indebtedness is included in the notes to our consolidated financial statements included in our Annual Report on Form 10-K for the year ended March 31, 2016 dated May 31, 2016.


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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



6. Additional Consolidated Balance Sheet Information

Additional information related to our Consolidated Balance Sheets is as follows:
 
 
 
September 30,
2016
 
March 31,
2016
Accrued payroll and other related liabilities:
 
 
 
 
Compensation and related items
 
$
34,801

 
$
30,175

Accrued vacation/paid time off
 
11,193

 
14,368

Accrued bonuses
 
12,892

 
31,502

Accrued employee commissions
 
11,826

 
13,809

Other postretirement benefit obligations-current portion
 
2,463

 
2,463

Other employee benefit plans obligations-current portion
 
849

 
1,659

Total accrued payroll and other related liabilities
 
$
74,024

 
$
93,976

Accrued expenses and other:
 
 
 
 
Deferred revenues
 
$
66,792

 
$
56,238

Self-insured risk reserves-current portion
 
9,120

 
8,266

Accrued dealer commissions
 
14,070

 
12,717

Accrued warranty
 
6,466

 
5,909

Other
 
67,246

 
70,245

Total accrued expenses and other
 
$
163,694

 
$
153,375

Other liabilities:
 
 
 
 
Self-insured risk reserves-long-term portion
 
$
13,257

 
$
13,257

Other postretirement benefit obligations-long-term portion
 
15,103

 
15,932

Defined benefit pension plans obligations-long-term portion
 
21,927

 
25,301

Other employee benefit plans obligations-long-term portion
 
4,063

 
4,366

Accrued long-term income taxes
 
3,779

 

Asset retirement obligation-long-term portion
 
10,033

 
10,342

Other
 
10,649

 
15,100

Total other liabilities
 
$
78,811

 
$
84,298


7. Income Tax Expense

The effective income tax rate for continuing operations for the three month period ended September 30, 2016 was 31.8% compared with 46.4% for the same prior year period. The effective income tax rates for the six month periods ended September 30, 2016 and 2015 were 27.0% and 39.7%, respectively. The fiscal 2017 rates were favorably impacted by benefits achieved in conjunction with the Combination with Synergy, the adoption of ASU 2016-09: "Stock Compensation: Improvements to Employee Share-Based Payment Accounting" (Topic 718), and discrete item adjustments related to future tax rate changes in the United Kingdom.

Income tax expense is provided on an interim basis based upon our estimate of the annual effective income tax rate, adjusted each quarter for discrete items. In determining the estimated annual effective income tax rate, we analyze various factors, including projections of our annual earnings and taxing jurisdictions in which the earnings will be generated, the impact of state and local income taxes, our ability to use tax credits and net operating loss carry forwards, and available tax planning alternatives.

We operate in numerous taxing jurisdictions and are subject to regular examinations by various United States federal, state and local authorities, as well as foreign jurisdictions. We are no longer subject to United States federal examinations for years before fiscal 2013 and, with limited exceptions, we are no longer subject to United States state and local or non-United States income tax examinations by tax authorities for years before fiscal 2012. We remain subject to tax authority audits in various jurisdictions wherever we do business. We do not expect the results of these examinations to have a material adverse affect on our consolidated financial statements.

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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



8. Benefit Plans

In the United States we sponsor an unfunded postretirement welfare benefits plan for two groups of former employees. Benefits under this plan include retiree life insurance and retiree medical coverage, including prescription drug coverage.
During the second quarter of fiscal 2009, we amended our United States post-retirement welfare benefits plan, reducing the benefits to be provided to retirees under the plan and increasing their share of the costs. The amendments resulted in a decrease of $46,001 in the accumulated post-retirement benefit obligation. The impact of this change was recognized in our Consolidated Balance Sheets in fiscal 2009 and is being amortized as a component of the annual net periodic benefit cost over a period of approximately thirteen years.
In July 2014, the Board of Directors of American Sterilizer Company (“AMSCO”) approved the termination of the American Sterilizer Company Retirement Income Plan (“Plan”) effective October 1, 2014.  The Pension Benefit Guaranty Corporation ("PBGC") did not object to this termination and  AMSCO received a favorable determination from the IRS regarding the termination. On August 19, 2015, an annuity contract was purchased from Massachusetts Mutual Life Insurance Company to provide Plan benefits. Plan assets were converted to cash to fund the purchase. The purchase price of the annuity contract was $51,805. An additional employer contribution of $4,641 was made to the Plan to fund the annuity purchase obligation on August 26, 2015. As a result the purchase of the annuity, we recognized a pension settlement of $26,470 in fiscal 2016. In addition, plan benefits and benefit administration became the responsibility of the annuity provider. Additional information regarding this defined benefit pension plan and other postretirement benefits plan is included in our consolidated financial statements included in our Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016.
In the United Kingdom, we sponsor a defined benefit arrangement administered by a single group of trustees. The arrangement is comprised of three merged schemes. The trustees hold the pension assets to meet long-term pension liabilities for past and present employees. The level of retirement benefit is principally based on the terms of the scheme and the final pensionable salary prior to leaving active service, and is linked to changes in inflation up to retirement.
In previous years, Synergy sponsored a funded defined benefit arrangement in the Netherlands. This was a separate fund holding the pension scheme assets to meet long term pension liabilities for past and present employees. Accrual of benefits ceased under the scheme effective January 1, 2013.
The Synergy Radeberg and Synergy Allershausen Schemes are German defined benefit funded pension schemes which are closed to new entrants.
The Synergy Daniken Scheme is a Swiss defined benefit funded pension scheme. 
Components of the net periodic benefit cost for our defined benefit pension plans and other postretirement medical benefits plan were as follows:
 
 
 
AMSCO Plan
 
Other Defined Benefit Pension Plan
 
Other Postretirement Benefits Plan
Three Months Ended September 30,
 
2016
2015
 
2016
2015
 
2016
2015
Service cost
 
$

$
11

 
$
472

$

 
$

$

Interest cost
 

224

 
189


 
139

148

Expected return on plan assets
 

(403
)
 


 


Amortization of loss
 

241

 


 
184

207

Settlement
 

26,470

 


 


Amortization of prior service cost
 


 


 
(816
)
(815
)
Net periodic benefit cost
 
$

$
26,543

 
$
661

$

 
$
(493
)
$
(460
)








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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



 
 
AMSCO Plan
 
Other Defined Benefit Pension Plan
 
Other Postretirement Benefits Plan
Six Months Ended September 30,
 
2016
2015
 
2016
2015
 
2016
2015
Service cost
 
$

$
27

 
$
944

$

 
$

$

Interest cost
 

560

 
378


 
277

296

Expected return on plan assets
 

(1,008
)
 


 


Amortization of loss
 

602

 


 
369

414

Settlement
 

26,470

 


 


Amortization of prior service cost
 


 


 
(1,631
)
(1,631
)
Net periodic benefit cost
 
$

$
26,651

 
$
1,322

$

 
$
(985
)
$
(921
)

We contribute amounts to the defined benefit pension plans at least sufficient to meet the minimum requirements as stated in applicable employee benefit laws and local tax laws. We record liabilities for the difference between the fair value of the plan assets and the benefit obligation (the projected benefit obligation for pension plan and the accumulated postretirement benefit obligation for other postretirement benefits plan) on our accompanying Consolidated Balance Sheets.

Finally, the Dutch linen business acquired in the Synergy combination participates in a multi-employer industry-wide defined benefit scheme. Participation in this pension plan is mandatory. The pension scheme is an average pay scheme with a conditional fee (indexation). Indexation of assets and liabilities granted under the pension scheme takes place only if and insofar as the resources of the fund allow for it and this decision is taken by the pension fund. The pension entitlements under the pension plan are fully reinsured. It is not possible to identify the share of the underlying assets, liabilities, and overall surplus/deficit of the scheme attributable to the business, because the scheme is industry-wide. Under the guidance provided in ASC 715, "Compensation-Retirement Benefits", the scheme is treated as a defined contribution scheme within our financial statements. The total cost charged to the income statement in respect to this scheme was $1,322 for the six months ended September 30, 2016.

9. Commitments and Contingencies

We are, and will likely continue to be, involved in a number of legal proceedings, government investigations, and claims, which we believe generally arise in the course of our business, given our size, history, complexity, and the nature of our business, products, Customers, regulatory environment, and industries in which we participate. These legal proceedings, investigations and claims generally involve a variety of legal theories and allegations, including, without limitation, personal injury (e.g., slip and falls, burns, vehicle accidents), product liability or regulation (e.g., based on product operation or claimed malfunction, failure to warn, failure to meet specification, or failure to comply with regulatory requirements), product exposure (e.g., claimed exposure to chemicals, asbestos, contaminants, radiation), property damage (e.g., claimed damage due to leaking equipment, fire, vehicles, chemicals), commercial claims (e.g., breach of contract, economic loss, warranty, misrepresentation), financial (e.g., taxes, reporting), employment (e.g., wrongful termination, discrimination, benefits matters), and other claims for damage and relief.
We believe we have adequately reserved for our current litigation and claims that are probable and estimable, and further believe that the ultimate outcome of these pending lawsuits and claims will not have a material adverse effect on our consolidated financial position or results of operations taken as a whole. Due to their inherent uncertainty, however, there can be no assurance of the ultimate outcome or effect of current or future litigation, investigations, claims or other proceedings (including without limitation the matters discussed below). For certain types of claims, we presently maintain insurance coverage for personal injury and property damage and other liability coverages in amounts and with deductibles that we believe are prudent, but there can be no assurance that these coverages will be applicable or adequate to cover adverse outcomes of claims or legal proceedings against us.
On May 31, 2012, our Albert Browne Limited subsidiary received a warning letter from the FDA regarding chemical indicators manufactured in the United Kingdom. These devices are intended for the monitoring of certain sterilization and other processes. The FDA warning letter states that the agency has concerns regarding operational business processes. We do not believe that the FDA's concerns are related to product performance, or that they result from Customer complaints. We have reviewed our processes with the agency and finalized our remediation measures, and are awaiting FDA reinspection. We do not currently believe that the impact of this event will have a material adverse effect on our financial results.

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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



On December 19, 2014, a purported shareholder of Old STERIS filed a Verified Stockholder Derivative Complaint in the Court of Common Pleas, Cuyahoga County, Ohio (the "Court"), against the members of Old STERIS’s board of directors and certain officers of Old STERIS, challenging the excise tax make-whole payments approved by Old STERIS’s board in connection with the Combination. Old STERIS was named as a nominal defendant in the action. The case is captioned St. Lucie County Fire District Firefighters’ Pension Trust Fund v. Rosebrough, Jr., et al., Case No. CV 14 837749 (the "Action"). On September 28, 2015, the defendants reached an agreement in principle with plaintiff, regarding a settlement of the Action, and that agreement is reflected in a memorandum of understanding. In connection with the contemplated settlement, Old STERIS agreed to make certain additional disclosures related to the make-whole payments, which disclosures were reported on Old STERIS's Form 8-K dated September 28, 2015, and also agreed not to grant any new stock compensation subject to
Section 4985 of the Internal Revenue Code to any of the individual defendants in the Action until six months following the closing date of the Combination. The parties have subsequently entered into and executed a stipulation of settlement, on a combined class and derivative basis, including agreement on a maximum fee/expense award to plaintiff's counsel. The stipulation of settlement, which is subject to customary conditions including approval of the Court following notice and hearing, has been filed with the Court along with a request for preliminary approval and the setting of a hearing date. A hearing on this matter has been scheduled by the Court for November 10, 2016. There can be no assurance that the Court will approve the proposed settlement and the settlement agreement may be terminated if Court approval is not obtained.
Other civil, criminal, regulatory or other proceedings involving our products or services could possibly result in judgments, settlements or administrative or judicial decrees requiring us, among other actions, to pay damages or fines or effect recalls, or be subject to other governmental, Customer or other third party claims or remedies, which could materially effect our business, performance, prospects, value, financial condition, and results of operations.
For additional information regarding these matters, see the following portions of our Annual Report on Form 10-K for the year ended March 31, 2016 dated May 31, 2016: “Business - Information with respect to our Business in General - Government Regulation”, and the “Risk Factor” titled “We may be adversely affected by product liability claims or other legal actions or regulatory or compliance matters.
From time to time, STERIS is also involved in legal proceedings as a plaintiff involving contract, patent protection, and other claims asserted by us. Gains, if any, from these proceedings are recognized when they are realized.
We are subject to taxation from United States federal, state and local, and foreign jurisdictions. Tax positions are settled primarily through the completion of audits within each individual jurisdiction or the closing of statutes of limitation. Changes in applicable tax law or other events may also require us to revise past estimates. We describe income taxes further in note 7 to our consolidated financial statements titled, “Income Tax Expense” in this Quarterly Report on Form 10-Q.
Additional information regarding our contingencies is included in Item 2 titled, “Management’s Discussion and Analysis of Financial Conditions and Results of Operations under "Contingencies".



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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



10. Business Segment Information

We operate and report in four reportable business segments: Healthcare Products, Healthcare Specialty Services, Life Sciences, and Applied Sterilization Technologies. Corporate and other, which is presented separately, contains the Defense and Industrial business unit plus costs that are associated with being a publicly traded company and certain other corporate costs.
Our Healthcare Products segment offers infection prevention and procedural solutions for healthcare providers worldwide, including capital equipment and related maintenance and installation services, as well as consumables.
Our Healthcare Specialty Services segment provides a range of specialty services for healthcare providers including hospital sterilization services, instrument and scope repairs, and linen management.
Our Life Sciences segment offers capital equipment and consumable products, and equipment maintenance and specialty services for pharmaceutical manufacturers and research facilities.
Our Applied Sterilization Technologies segment offers contract sterilization and laboratory services for medical device and pharmaceutical Customers and others.
The accounting policies for reportable segments are the same as those for the consolidated Company. Management evaluates performance and allocates resources based on a segment operating income measure. Operating income (loss) for each segment is calculated as the segment’s gross profit less direct expenses and indirect cost allocations, which result in the full allocation of all distribution and research and development expenses, and the partial allocation of corporate costs. These allocations are based upon variables such as segment headcount and revenues. In addition, the Healthcare Products segment is responsible for the management of all but two manufacturing facilities and uses standard cost to sell products to the other segments. Corporate and other includes the gross profit and direct expenses of the Defense and Industrial business unit, as well as certain unallocated corporate costs related to being a publicly traded company and legacy pension and post-retirement benefits. Segment operating income excludes certain adjustments which include acquisition and integration related costs, amortization of acquired intangibles, gains or losses on divestiture of businesses, restructuring costs and other charges that management believes may or may not recur with similar materiality or impact on operating income in future periods. Management believes that by excluding these items they gain better insight and greater transparency of the operating performance of the segments, thus aiding them in more meaningful financial trend analysis and operational decision making
For the three and six month periods ended September 30, 2016, revenues from a single Customer did not represent ten percent or more of any reportable segment’s revenues. Additional information regarding our segments is included in our consolidated financial statements included in its Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016.

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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



Financial information for each of our segments is presented in the following tables:
 
 
 
Three Months Ended September 30,
 
Six Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Revenues:
 
 
 
 
 
 
 
 
Healthcare Products
 
$
304,797

 
$
291,724

 
$
586,095

 
$
552,809

Healthcare Specialty Services
 
142,775

 
70,565

 
300,663
 
138,807
Life Sciences
 
81,485

 
71,040

 
162,674
 
127,812
Applied Sterilization Technologies
 
115,601

 
55,839

 
232,174
 
109,528
Corporate and other
 
1,757

 
729

 
3,187

 
843

Total revenues
 
$
646,415

 
$
489,897

 
$
1,284,793

 
$
929,799

Segment operating income:
 
 
 
 
 
 
 
 
Healthcare Products
 
$
50,098

 
$
40,414

 
$
84,737

 
$
69,764

Healthcare Specialty Services
 
2,175

 
5,092

 
5,493

 
8,992

Life Sciences
 
22,772

 
20,883

 
47,234

 
34,333

Applied Sterilization Technologies
 
40,761

 
17,493

 
80,364

 
34,036

Corporate and other
 
(4,741
)
 
(4,034
)
 
(5,237
)
 
(5,932
)
Total segment operating income
 
$
111,065

 
$
79,848

 
$
212,591

 
$
141,193

Less: Adjustments
 
 
 
 
 
 
 
 
Restructuring charges (1)
 
$
48

 
$
(15
)
 
$
202

 
$
(464
)
Amortization of acquired intangible assets (2)
 
17,779

 
6,682

 
37,308

 
12,703

Acquisition and integration related charges (3)
 
6,638

 
23,982

 
11,873

 
35,528

          Loss on fair value adjustment of acquisition related contingent consideration
 
1,850

 

 
1,850

 

 Net loss on divestiture of businesses (2)
 
13,802

 

 
13,802

 

Amortization of inventory and property "step up" to fair value (2)
 
1,385

 
21

 
4,471

 
32

Settlement of pension obligation (4)
 

 
26,515

 

 
26,515

Total operating income
 
$
69,563

 
$
22,663

 
$
143,085

 
$
66,879

(1) For more information related to restructuring, see our Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016.
(2) For more information regarding our recent acquisitions and divestitures see Note 2 titled, "Business Acquisitions and Divestitures", as well as our Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016.
(3) Acquisition and integration related charges include transaction costs and integration expenses associated with acquisitions.
(4) For more information regarding the settlement of our pension obligation see Note 8 titled "Benefit Plans", as well as our Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016.


11. Shares and Preferred Shares

Common and Ordinary

We calculate basic earnings per share based upon the weighted average number of shares outstanding. We calculate diluted earnings per share based upon the weighted average number of shares outstanding plus the dilutive effect of share equivalents calculated using the treasury stock method.





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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



The following is a summary of shares and share equivalents outstanding used in the calculations of basic and diluted earnings per share:
 
 
 
Three Months Ended September 30,
 
Six Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
Denominator (shares in thousands):
 
 
 
 
 
 
 
 
Weighted average shares outstanding—basic
 
85,851

 
59,897

 
85,944

 
59,832

Dilutive effect of share equivalents
 
482

 
473

 
482

 
496

Weighted average shares outstanding and share equivalents—diluted
 
86,333

 
60,370

 
86,426

 
60,328


Options to purchase the following number of shares were outstanding but excluded from the computation of diluted earnings per share because the combined exercise prices, unamortized fair values, and assumed tax benefits upon exercise were greater than the average market price for the shares during the periods, so including these options would be anti-dilutive:
 
 
 
Three Months Ended September 30,
 
Six Months Ended September 30,
 
 
2016
 
2015
 
2016
 
2015
(shares in thousands)
 
 
 
 
 
 
Number of share options
 
627

 
419

 
496

 
235


Preferred Shares
Pursuant to an engagement letter dated October 23, 2015, we issued 100,000 preferred shares, par value of £0.10 ($0.15) each, for an aggregate consideration of approximately $15, in satisfaction of debt owed to a service provider. The holders of the preferred shares are entitled to a fixed cumulative preferential annual dividend of 5 percent on the amount paid periodically on the preferred shares respectively held by them. On a return of capital of the Company whether on liquidation or otherwise, the holders of the preferred shares shall be entitled to receive out of the assets of the Company available for distribution to its shareholders the sum of £0.10 ($0.15) per preferred share plus any accrued but unpaid dividend, but will not be entitled to any further participation in the assets of the Company. The holders of the preferred shares will have no right to attend, speak or vote, whether in person or by proxy, at any general meeting of the Company or any meeting of a class of members of the Company in respect of the preferred shares and will not be entitled to receive any notice of meetings.

12. Repurchases of Shares

On August 9, 2016, the Company announced that its Board of Directors had authorized the purchase of up to $300 million of our ordinary shares. We may enter into share repurchase contracts until August 2, 2021 to effect these purchases. Shares may be repurchased from time to time through open market transactions, including 10b5-1 plans. The repurchase program may be suspended or discontinued at any time. During the first half of fiscal 2017, we repurchased 819,105 of our ordinary shares pursuant to this authorization, all of which were repurchased in the second quarter. During the first half of fiscal 2017, we obtained 127,520 of our ordinary shares in connection with share based compensation award programs.


13. Share-Based Compensation

We maintain a long-term incentive plan that makes available shares for grants, at the discretion of the Compensation Committee of the Board of Directors, to officers, directors, and key employees in the form of stock options, restricted shares, restricted share units, stock appreciation rights and share grants.

Stock options provide the right to purchase our shares at the market price on the date of grant, subject to the terms of the option plans and agreements. Generally, one-fourth of the stock options granted become exercisable for each full year of employment following the grant date. Stock options granted generally expire 10 years after the grant date, or in some cases

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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



earlier if the option holder is no longer employed by us. Restricted shares and restricted share units generally may cliff vest after a four year period or vest in tranches of one-fourth of the number granted for each full year of employment after the grant date. As of September 30, 2016, 5,588,018 shares remained available for grant under the long-term incentive plan. On November 8, 2016, we filed a Form S-8 to register an additional 4,031,196 shares to be made available for equity awards under the long-term incentive plan.

The fair value of share-based compensation awards was estimated at their grant date using the Black-Scholes-Merton option pricing model. This model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable, characteristics that are not present in our option grants. If the model permitted consideration of the unique characteristics of employee stock options, the resulting estimate of the fair value of the stock options could be different. The value of the portion of the award that is ultimately expected to vest is recognized as expense over the requisite service periods in our Consolidated Statements of Income. The expense is classified as cost of goods sold or selling, general and administrative expenses in a manner consistent with the employee’s compensation and benefits.

The following weighted-average assumptions were used for options granted during the first half of fiscal 2017 and 2016:
 
 
 
Fiscal 2017
 
Fiscal 2016
Risk-free interest rate
 
1.29
%
 
1.51
%
Expected life of options
 
5.66 years

 
5.69 years

Expected dividend yield of stock
 
1.54
%
 
1.40
%
Expected volatility of stock
 
22.92
%
 
25.06
%

The risk-free interest rate is based upon the U.S. Treasury yield curve. The expected life of options is reflective of historical experience, vesting schedules and contractual terms. The expected dividend yield of stock represents our best estimate of the expected future dividend yield. The expected volatility of stock is derived by referring to our historical stock prices over a time frame similar to that of the expected life of the grant. An estimated forfeiture rate of 1.85% and 1.55% was applied in fiscal 2017 and 2016, respectively. This rate is calculated based upon historical activity and represents an estimate of the granted options not expected to vest. If actual forfeitures differ from this calculated rate, we may be required to make additional adjustments to compensation expense in future periods. The assumptions used above are reviewed at the time of each significant option grant, or at least annually.

A summary of share option activity is as follows:
 
 
 
Number of
Options
 
Weighted
Average
Exercise
Price
 
Average
Remaining
Contractual
Term
 
Aggregate
Intrinsic
Value
Outstanding at March 31, 2016
 
1,729,517

 
$
44.01

 
 
 
 
Granted
 
402,141

 
69.85

 
 
 
 
Exercised
 
(81,539
)
 
29.44

 
 
 
 
Forfeited
 
(9,226
)
 
64.43

 
 
 
 
Canceled
 
(470
)
 
25.98

 
 
 
 
Outstanding at September 30, 2016
 
2,040,423

 
$
49.59

 
6.7 years
 
$
47,968

Exercisable at September 30, 2016
 
1,206,956

 
$
39.70

 
5.2 years
 
$
40,310


We estimate that 815,069 of the non-vested stock options outstanding at September 30, 2016 will ultimately vest.

The aggregate intrinsic value in the table above represents the total pre-tax difference between the $73.10 closing price of our ordinary shares on September 30, 2016 over the exercise prices of the stock options, multiplied by the number of options outstanding or outstanding and exercisable, as applicable. The aggregate intrinsic value is not recorded for financial accounting purposes and the value changes daily based on the daily changes in the fair market value of ordinary shares.


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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



The total intrinsic value of stock options exercised during the first half of fiscal 2017 and fiscal 2016 was $3,386 and $8,295, respectively. Net cash proceeds from the exercise of stock options were $2,494 and $8,111 for the first half of fiscal 2017 and fiscal 2016, respectively.

The weighted average grant date fair value of stock option grants was $13.42 and $14.66 for the first half of fiscal 2017 and fiscal 2016, respectively.

Stock appreciation rights (“SARS”) carry generally the same terms and vesting requirements as stock options except that they are settled in cash upon exercise and therefore, are classified as liabilities. The fair value of the outstanding SARS as of September 30, 2016 and 2015 was $2,001 and $1,954, respectively.

A summary of the non-vested restricted share activity is presented below:
 
 
 
Number of
Restricted
Shares
 
Number of Restricted Share Units
 
Weighted-Average
Grant Date
Fair Value
Non-vested at March 31, 2016
 
872,972

 
41,641

 
$
51.98

Granted
 
226,027

 
19,634

 
69.86

Vested
 
(207,629
)
 
(20,424
)
 
40.49

Canceled
 
(26,603
)
 
(2,275
)
 
61.71

Non-vested at September 30, 2016
 
864,767

 
38,576

 
$
59.43


Restricted shares granted are valued based on the closing stock price at the grant date. The value of restricted shares that vested during the first half of fiscal 2017 was $7,971.

Restricted share units carry generally the same terms and vesting requirements as restricted stock except that they may be settled in stock or cash upon vesting. Those that are settled in cash are classified as liabilities. All outstanding cash-settled restricted share units vested during fiscal year 2016. The fair value of cash-settled restricted share units are revalued at each reporting date and the related liability and expense are adjusted accordingly.

The tax benefit from share-based compensation was $3,454 and $4,676 for the first half of fiscal 2017 and fiscal 2016, respectively.

As of September 30, 2016, there was a total of $42,715 in unrecognized compensation cost related to non-vested share-based compensation granted under our share-based compensation plans. We expect to recognize the cost over a weighted average period of 2.30 years.

14. Financial and Other Guarantees

We generally offer a limited parts and labor warranty on capital equipment. The specific terms and conditions of those warranties vary depending on the product sold and the countries where we conduct business. We record a liability for the estimated cost of product warranties at the time product revenues are recognized. The amounts we expect to incur on behalf of our Customers for the future estimated cost of these warranties are recorded as a current liability on the accompanying Consolidated Balance Sheets. Factors that affect the amount of our warranty liability include the number and type of installed units, historical and anticipated rates of product failures, and material and service costs per claim. We periodically assess the adequacy of our recorded warranty liabilities and adjust the amounts as necessary.








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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)




Changes in our warranty liability during the first half of fiscal 2017 were as follows:
 
 
 
Balance, March 31, 2016
$
5,909

Warranties issued during the period
5,897

Settlements made during the period
(5,340
)
Balance, September 30, 2016
$
6,466


We also sell product maintenance contracts to our Customers. These contracts range in terms from one to five years and require us to maintain and repair the product over the maintenance contract term. We initially record amounts due from Customers under these contracts as a liability for deferred service contract revenue on the accompanying Consolidated Balance Sheets within “Accrued expenses and other.” The liability recorded for such deferred service revenue was $37,213 and $33,416 as of September 30, 2016 and March 31, 2016, respectively. Such deferred revenue is then amortized on a straight-line basis over the contract term and recognized as service revenue on our accompanying Consolidated Statements of Income. The activity related to the liability for deferred service contract revenue is excluded from the table presented above.

15. Derivatives and Hedging

From time to time, we enter into forward contracts to hedge potential foreign currency gains and losses that arise from transactions denominated in foreign currencies, including inter-company transactions. We may also enter into commodity swap contracts to hedge price changes in nickel that impact raw materials included in our cost of revenues. We do not use derivative financial instruments for speculative purposes. These contracts are not designated as hedging instruments and do not receive hedge accounting treatment; therefore, changes in their fair value are not deferred but are recognized immediately in the Consolidated Statements of Income. At September 30, 2016, we held foreign currency forward contracts to buy 65.0 million Mexican pesos, 7.0 million British pounds sterling, 3.0 million euros, and 10.0 million Canadian dollars. At September 30, 2016 we held commodity swap contracts to buy 349.3 thousand pounds of nickel.
 
 
Asset Derivatives
 
Liability Derivatives
Balance Sheet
 
Fair Value at
 
Fair Value at
 
Fair Value at
 
Fair Value at
Location
 
September 30, 2016
 
March 31, 2016
 
September 30, 2016
 
March 31, 2016
Prepaid & Other
 
$
405

 
$
145

 
$

 
$

Accrued expenses and other
 
$

 
$

 
$
24

 
$
122


The following table presents the impact of derivative instruments and their location within the Consolidated Statements of Income:
 
 
Location of gain (loss)
recognized in income
 
Amount of gain (loss) recognized in income
Three Months Ended September 30,
 
Six Months Ended September 30,
2016
 
2015
 
2016
 
2015
Foreign currency forward contracts
 
Selling, general and administrative
 
$
(531
)
 
$
(693
)
 
$
(1,550
)
 
$
(261
)
Commodity swap contracts
 
Cost of revenues
 
$
205

 
$
(288
)
 
$
416

 
$
(333
)

Additionally, we hold our debt in multiple currencies to fund our operations and investments in certain subsidiaries. We designate portions of foreign currency denominated intercompany loans as hedges of portions of net investments in foreign operations. Net debt designated as non-derivative net investment hedging instruments totaled $122,200 at September 30, 2016. These hedges are designed to be fully effective and any associated gain or loss is recognized in Accumulated Other Comprehensive Income and will be reclassified to income in the same period when a gain or loss related to the net investment in the foreign operation is included in income.



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STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)




16. Fair Value Measurements

Fair value is defined as the price that would be received to sell an asset or that would be paid to transfer a liability in an orderly transaction between market participants at the measurement date. We estimate the fair value of financial assets and liabilities using available market information and generally accepted valuation methodologies. The inputs used to measure fair value are classified into three tiers. These tiers include Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring the entity to develop its own assumptions.

The following table shows the fair value of our financial assets and liabilities at September 30, 2016 and March 31, 2016:
 
 
 
 
 
 
Fair Value Measurements at September 30, 2016
and March 31, 2016 Using
 
 
Carrying Value
 
Quoted Prices
in Active Markets
for Identical Assets
 
Significant Other
Observable Inputs
 
Significant
Unobservable
Inputs
 
 
Level 1
 
Level 2
 
Level 3
September 30
March 31
September 30
March 31
 
September 30
March 31
 
September 30
March 31
Assets:
 
 
 
 
 
 
 
 
 
 
 
 
Cash and cash equivalents (1)
 
$
254,351

$
248,841

 
$
254,351

$
225,090

 
$

$
23,751

 
$

$

Forward and swap contracts (2)
 
405

145

 


 
405

145

 


Investments (3)
 
11,768

6,192

 
11,768

6,192

 


 


Liabilities:
 
 
 
 
 
 
 
 
 
 
 
 
Forward and swap contracts (2)
 
$
24

$
122

 
$

$

 
$
24

$
122

 
$

$

Deferred compensation plans (3)
 
1,735

1,765

 
1,735

1,765

 


 


Long term debt (4)
 
1,504,192

1,567,796

 


 
1,548,656

1,592,184

 


Contingent consideration obligations (5)
 
7,420

5,886

 


 


 
7,420

5,886


(1) Money market fund holdings are classified as level two as active market quoted prices are not available.
(2) The fair values of forward and swap contracts are based on period-end forward rates and reflect the value of the amount that we would pay or receive for the contracts involving the same notional amounts and maturity dates.
(3) We maintain a frozen domestic non-qualified deferred compensation plan covering certain employees, which allows for the deferral of payment of previously earned compensation for an employee-specified term or until retirement or termination. Amounts deferred can be allocated to various hypothetical investment options (compensation deferrals have been frozen under the plan). We hold investments to satisfy the future obligations of the plan. Changes in the value of the investment accounts are recognized each period based on the fair value of the underlying investments. Employees who made deferrals are entitled to receive distributions of their hypothetical account balances (amounts deferred, together with earnings (losses)). We also hold an investment in the common stock of Servizi Italia, S.p.A, a leading provider of integrated linen washing and outsourced sterile processing services to hospital Customers including an incremental investment of $4,564 made in April 2016.
(4) We estimate the fair value of our principal amount of long-term debt using discounted cash flow analyses, based on our current incremental borrowing rates for similar types of borrowing arrangements.
(5) Contingent consideration obligations arise from prior business acquisitions. The fair values are based on discounted cash flow analyses reflecting the possible achievement of specified performance measures or events and captures the contractual nature of the contingencies, commercial risk, and the time value of money. Contingent consideration obligations are classified in the consolidated balance sheets as accrued expense (short-term) and other liabilities (long-term), as appropriate based on the contractual payment dates.



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Table of Contents
STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)



The changes in Level 3 assets and liabilities measured at fair value on a recurring basis at September 30, 2016 are summarized as follows:
 
Contingent Consideration
Balance at March 31, 2016
$
5,886

Additions
2,348

Payments
(182
)
Foreign currency translation adjustments (1)
(632
)
Balance at September 30, 2016
$
7,420

(1) Reported in other comprehensive income (loss).


Information regarding our investments is as follows:
 
 
 
 
 
 
Investments at September 30, 2016 and March 31, 2016
 
 
Cost
 
Unrealized Gains
 
Unrealized Losses (2)
 
Fair Value
 
 
 
 
 
 
 
 
September 30
 
March 31
September 30
 
March 31
 
September 30
 
March 31
 
September 30
 
March 31
Available-for-sale securities:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Marketable equity securities (1)
 
$
11,037

 
$
4,681

 
$

 
$

 
$
(918
)
 
$
(185
)
 
$
10,119

 
$
4,496

Mutual funds
 
1,187

 
1,289

 
462

 
407

 

 

 
1,649

 
1,696

Total available-for-sale securities
 
$
12,224

 
$
5,970

 
$
462

 
$
407

 
$
(918
)
 
$
(185
)
 
$
11,768

 
$
6,192

(1) Our marketable equity securities have been in a unrealized loss position for less than 12 months.
(2) Amounts reported include the impact of foreign currency movements relative to the U.S. dollar.


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Table of Contents
STERIS PLC AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)—(Continued)
For the Three and Six Months Ended September 30, 2016 and 2015
(dollars in thousands)




17. Reclassifications Out of Accumulated Other Comprehensive Income (Loss)

Amounts in Accumulated Other Comprehensive Income (Loss) are presented net of the related tax. Foreign Currency Translation is not adjusted for income taxes. Changes in our Accumulated Other Comprehensive Income (Loss) balances, net of tax, for the three and six months ended September 30, 2016 were as follows:

 
Gain (Loss) on Available for Sale Securities (1)
 
Defined Benefit Plans (2)
 
Foreign Currency Translation (3)
 
Total Accumulated Other Comprehensive Income
(Loss)
 
Three Months
 
Six Months
 
Three Months
 
Six Months
 
Three Months
 
Six Months
 
Three Months
 
Six Months
Beginning Balance
$
(793
)
 
$
(673
)
 
$
4,718

 
$
5,108

 
$
(89,643
)
 
$
(72,594
)
 
$
(85,718
)
 
$
(68,159
)
Other Comprehensive Income (Loss) before reclassifications
17

 
(131
)
 
103

 
206

 
(7,946
)
 
(24,995
)
 
(7,826
)
 
(24,920
)
Amounts reclassified from Accumulated Other Comprehensive Income (Loss)
9

 
37

 
(493
)
 
(986
)
 

 

 
(484
)
 
(949
)
Net current-period Other Comprehensive Income (Loss)
26

 
(94
)
 
(390
)
 
(780
)
 
(7,946
)
 
(24,995
)
 
(8,310
)
 
(25,869
)
Balance at September 30, 2016
$
(767
)
 
$
(767
)
 
$
4,328

 
$
4,328

 
$
(97,589
)
 
$
(97,589
)
 
$
(94,028
)
 
$
(94,028
)

Details of amounts reclassified from Accumulated Other Comprehensive Income (Loss) are as follows:

(1) Realized gain (loss) on available for sale securities is reported in the interest income and miscellaneous expense line of the Consolidated Statements of Income.
(2) Amortization (gain) of defined benefit pension items is reported in the selling, general and administrative expense line of the Consolidated Statements of Income.
(3) The effective portion of gain or loss on net debt designated as non-derivative net investment hedging instruments is recognized in Accumulated Other Comprehensive Income and is reclassified to income in the same period when a gain or loss related to the net investment in the foreign operation is included in income.


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Table of Contents




Report of Independent Registered Public Accounting Firm


Board of Directors and Shareholders of STERIS plc

We have reviewed the consolidated balance sheet of STERIS plc and subsidiaries (“the Company”) as of September 30, 2016, and the related consolidated statements of income and comprehensive income for the three- and six-month periods ended September 30, 2016 and 2015, and the consolidated statements of cash flows for the six-month periods ended September 30, 2016 and 2015. These financial statements are the responsibility of the Company’s management.

We conducted our review in accordance with the standards of the Public Company Accounting Oversight Board (United States). A review of interim financial information consists principally of applying analytical procedures and making inquiries of persons responsible for financial and accounting matters. It is substantially less in scope than an audit conducted in accordance with the standards of the Public Company Accounting Oversight Board (United States), the objective of which is the expression of an opinion regarding the financial statements taken as a whole. Accordingly, we do not express such an opinion.

Based on our review, we are not aware of any material modifications that should be made to the consolidated financial statements referred to above for them to be in conformity with U.S. generally accepted accounting principles.

We have previously audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheet of STERIS plc and subsidiaries as of March 31, 2016, and the related consolidated statements of income, comprehensive income, shareholders' equity and cash flows for the year then ended (not presented herein) and we expressed an unqualified audit opinion on those consolidated financial statements in our report dated May 31, 2016. In our opinion, the accompanying consolidated balance sheet of STERIS plc and subsidiaries as of March 31, 2016, is fairly stated, in all material respects, in relation to the consolidated balance sheet from which it has been derived.








/s/ Ernst & Young LLP



Cleveland, Ohio
November 8, 2016



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Table of Contents


ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Introduction

In Management’s Discussion and Analysis of Financial Condition and Results of Operations (the “MD&A”), we explain the general financial condition and the results of operations for STERIS including:
 
what factors affect our business;
what our earnings and costs were in each period presented; 
why those earnings and costs were different from prior periods;
where our earnings came from;
how this affects our overall financial condition;
what our expenditures for capital projects were; and
where cash will come from to fund future debt principal repayments, growth outside of core operations, repurchases of shares, pay cash dividends and fund future working capital needs.

As you read the MD&A, it may be helpful to refer to information in our consolidated financial statements, which present the results of our operations for the second quarter and first half of fiscal 2017 and fiscal 2016. It may also be helpful to read the MD&A in our Annual Report on Form 10-K for the year ended March 31, 2016, dated May 31, 2016. In the MD&A, we analyze and explain the period-over-period changes in the specific line items in the Consolidated Statements of Income. Our analysis may be important to you in making decisions about your investments in STERIS.

Financial Measures

In the following sections of the MD&A, we may, at times, refer to financial measures that are not required to be presented in the consolidated financial statements under U.S. GAAP. We sometimes use the following financial measures in the context of this report: backlog; debt-to-total capital; net debt-to-total capital; and days sales outstanding. We define these financial measures as follows:
 
Backlog – We define backlog as the amount of unfilled capital equipment purchase orders at a point in time. We use this figure as a measure to assist in the projection of short-term financial results and inventory requirements.
Debt-to-total capital – We define debt-to-total capital as total debt divided by the sum of total debt and shareholders’ equity. We use this figure as a financial liquidity measure to gauge our ability to borrow and fund growth.
Net debt-to-total capital – We define net debt-to-total capital as total debt less cash (“net debt”) divided by the sum of net debt and shareholders’ equity. We also use this figure as a financial liquidity measure to gauge our ability to borrow and fund growth.
Days sales outstanding (“DSO”) – We define DSO as the average collection period for accounts receivable. It is calculated as net accounts receivable divided by the trailing four quarters’ revenues, multiplied by 365 days. We use this figure to help gauge the quality of accounts receivable and expected time to collect.

We, at times, may also refer to other financial measures which are considered to be “non-GAAP financial measures” under SEC rules. We have presented these financial measures because we believe that meaningful analysis of our financial performance is enhanced by an understanding of certain additional factors underlying that performance. These financial measures should not be considered an alternative to measures required by accounting principles generally accepted in the United States. Our calculations of these measures may differ from calculations of similar measures used by other companies and you should be careful when comparing these financial measures to those of other companies. Additional information regarding these financial measures, including reconciliations of each non-GAAP financial measure, is available in the subsection of MD&A titled, "Non-GAAP Financial Measures."

Revenues – Defined

As required by Regulation S-X, we separately present revenues generated as either product revenues or service revenues on our Consolidated Statements of Income for each period presented. When we discuss revenues, we may, at times, refer to revenues summarized differently than the Regulation S-X requirements. The terminology, definitions, and applications of terms that we use to describe revenues may be different from terms used by other companies. We use the following terms to describe revenues:
 

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Revenues – Our revenues are presented net of sales returns and allowances.
Product Revenues – We define product revenues as revenues generated from sales of consumable and capital equipment products.
Service Revenues – We define service revenues as revenues generated from parts and labor associated with the maintenance, repair, and installation of our capital equipment. Service revenues also include hospital sterilization services, instrument and scope repairs, and linen management as well as revenues generated from contract sterilization and laboratory services offered through our Applied Sterilization Technologies segment.
Capital Revenues – We define capital revenues as revenues generated from sales of capital equipment, which includes steam sterilizers, low temperature liquid chemical sterilant processing systems, including SYSTEM 1 and 1E, washing systems, VHP® technology, water stills, and pure steam generators; surgical lights and tables; and integrated OR.
Consumable Revenues – We define consumable revenues as revenues generated from sales of the consumable family of products, which includes SYSTEM 1 and 1E consumables, V-Pro consumables, gastrointestinal endoscopy accessories, sterility assurance products, skin care products, cleaning consumables, surgical instruments, and barrier products.
Recurring Revenues – We define recurring revenues as revenues generated from sales of consumable products and service revenues.

General Company Overview and Executive Summary
STERIS plc, a public limited company organized under the laws of England and Wales, was incorporated on October 9, 2014 as a private limited company and was re-registered effective November 2, 2015 as a public limited company under the name STERIS plc. New STERIS Limited was established to effect the combination (“Combination”) of STERIS Corporation, an Ohio corporation (“Old STERIS”), and Synergy Health plc, a public limited company organized under the laws of the England and Wales (“Synergy”). This Combination closed on November 2, 2015 and as a result STERIS plc became the ultimate parent company of Old STERIS and Synergy. Synergy has been re-registered under the name Synergy Health Limited. The Combination was accounted for in the consolidated financial statements as a merger between entities under common control; accordingly the historical consolidated financial statements of Old STERIS for periods prior to November 2, 2015 are considered to be the historical financial statements of STERIS plc.
Due to the timing of the closing of the Combination, the results of Synergy are only reflected in the results of operations of the Company from November 2, 2015 forward, which will affect comparability to the prior period historical operations of the Company throughout this quarterly report on Form 10-Q.
As a result of the Combination, we have reorganized our operations into four reportable business segments: Healthcare Products, Healthcare Specialty Services, Life Sciences, and Applied Sterilization Technologies. We describe our business segments in note 10 to our consolidated financial statements titled, “Business Segment Information.”
Our mission is to help our Customers create a healthier and safer world by providing innovative healthcare and life science product and service solutions around the globe. Our dedicated employees around the world work together to supply a broad range of solutions by offering a combination of capital equipment, consumables, medical devices and services to healthcare, pharmaceutical, industrial, and governmental Customers.
The bulk of our revenues are derived from the healthcare and pharmaceutical industries. Much of the growth in these industries is driven by the aging of the population throughout the world, as an increasing number of individuals are entering their prime healthcare consumption years, and is dependent upon advancement in healthcare delivery, acceptance of new technologies, government policies, and general economic conditions. In addition, each of our core industries is experiencing specific trends that could increase demand. Within healthcare, there is increased concern regarding the level of hospital-acquired infections around the world. The pharmaceutical industry has been impacted by increased FDA scrutiny of cleaning and validation processes, mandating that manufacturers improve their processes. The aging population increases the demand for medical procedures, which increases the consumption of single use medical devices and surgical kits processed by our Applied Sterilization Technologies segment.
We are actively pursuing new opportunities to adapt our proven technologies to meet the changing needs of the global marketplace. We are also executing on our strategic initiatives by expanding into adjacent markets with acquisitions, divesting non-core assets and integrating Synergy. During the quarter, we divested our Applied Infection Control ("AIC") product line (annual revenues of approximately $50 million) and two businesses acquired in the Combination with Synergy: UK Linen Management Services business (annual revenues of approximately $50 million) and Synergy Health Laboratory Services (annual revenues of approximately $15 million). Subsequent to the end of the fiscal 2017 second quarter, we also sold the assets associated with linen management services in the United States (annual revenues of approximately $50 million) that was also acquired in the Combination with Synergy.

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Fiscal 2017 second quarter revenues were $646.4 million, representing an increase of 31.9% over the fiscal 2016 second quarter revenues of $489.9 million, reflecting growth within all reportable business segments including growth resulting from the Combination. Fiscal 2017 first half revenues were $1,284.8 million representing an increase of 38.2% over the first half of fiscal 2016 revenues of $929.8 million, also reflecting growth within all four business segments including growth resulting from the Combination.
Fiscal 2017 second quarter gross margin percentage was 38.4% compared with 42.7% for the fiscal 2016 second quarter. As anticipated, the addition of Synergy's hospital sterilization services and linen management businesses is a key factor in the declines in gross margin percentages. During the first half of fiscal 2017, gross margin percentage was 38.0% compared with 42.3% for the first half of fiscal 2016 primarily due to the Combination. We have applied our "four walls" approach to the operation of Synergy, which reports all direct and indirect costs related to the delivery of services as costs of goods sold. This approach caused additional costs to be included in costs of goods sold rather than in selling, general and administrative costs as Synergy would have previously reported.
Fiscal 2017 second quarter operating income was $69.6 million, compared to fiscal 2016 second quarter operating income of $22.7 million. During the first half of fiscal 2017, operating income was $143.1 million, compared to $66.9 million for the first half of fiscal 2016. The year over year increase is attributable to recent acquisitions, including the Combination and lower acquisition related expenses, partially offset by the net loss recognized on the divestiture of certain non-core assets.

Cash flows from operations were $188.5 million and free cash flow was $119.4 million in the first six months of fiscal 2017 compared to cash flows from operations of $79.5 million and free cash flow $39.6 million in the first six months of fiscal 2016, respectively (see the subsection below titled "Non-GAAP Financial Measures" for additional information and related reconciliation of cash flows from operations to free cash flow). The higher cash flow from operations and free cash flow as compared to the prior year period are primarily due to a reduction in acquisition related expenses and higher net income. Our debt-to-total capital ratio was 33.4% at September 30, 2016 and 34.2% at March 31, 2016. During the first six months of fiscal 2017, we declared and paid quarterly cash dividends of $0.53 per ordinary share.
Additional information regarding our financial performance during the fiscal second quarter and first six months of 2017 is included in the subsection below titled “Results of Operations.”

Matters Affecting Comparability

International Operations. Since we conduct operations outside of the United States using various foreign currencies, our operating results are impacted by foreign currency movements relative to the U.S. dollar. During the second quarter of fiscal 2017, our revenues were unfavorably impacted by $3.2 million, or 0.6%, and income before taxes was favorably impacted by $1.6 million, or 1.7%, as a result of foreign currency movements relative to the U.S. dollar. During the first half of fiscal 2017, our revenues were unfavorably impacted by $4.9 million, or 0.5%, and income before taxes was favorably impacted by $4.4 million, or 3.0%, as a result of foreign currency movements relative to the U.S. dollar.

NON-GAAP FINANCIAL MEASURES
We, at times, refer to financial measures which are considered to be “non-GAAP financial measures” under SEC rules. We, at times, also refer to our results of operations excluding certain transactions or amounts that are non-recurring or are not indicative of future results, in order to provide meaningful comparisons between the periods presented.
These non-GAAP financial measures are not intended to be, and should not be, considered separately from or as an alternative to the most directly comparable GAAP financial measures.
These non-GAAP financial measures are presented with the intent of providing greater transparency to supplemental financial information used by management and the Board of Directors in their financial analysis and operational decision-making. These amounts are disclosed so that the reader has the same financial data that management uses with the belief that it will assist investors and other readers in making comparisons to our historical operating results and analyzing the underlying performance of our operations for the periods presented.
We believe that the presentation of these non-GAAP financial measures, when considered along with our GAAP financial measures and the reconciliation to the corresponding GAAP financial measures, provide the reader with a more complete understanding of the factors and trends affecting our business than could be obtained absent this disclosure. It is important for the reader to note that the non-GAAP financial measure used may be calculated differently from, and therefore may not be comparable to, a similarly titled measure used by other companies.
We define free cash flow as net cash provided by operating activities as presented in the Consolidated Statements of Cash Flows less purchases of property, plant, equipment, and intangibles plus proceeds from the sale of property, plant, equipment,

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and intangibles, which are also presented in the Consolidated Statements of Cash Flows. We use this as a measure to gauge our ability to fund future debt principal repayments, growth outside of core operations, repurchase shares, and pay cash dividends.




The following table summarizes the calculation of our free cash flow for the six month periods ended September 30, 2016 and 2015: 
 
 
Six Months Ended September 30,
(dollars in thousands)
 
2016
 
2015
Net cash provided by operating activities
 
$
188,501

 
$
79,472

Purchases of property, plant, equipment and intangibles, net
 
(73,866
)
 
(39,928
)
Proceeds from the sale of property, plant, equipment and intangibles
 
4,763

 
38

Free cash flow
 
$
119,398

 
$
39,582


Results of Operations

In the following subsections, we discuss our earnings and the factors affecting them for the second quarter and first half of fiscal 2017 compared with the same fiscal 2016 period. We begin with a general overview of our operating results and then separately discuss earnings for our operating segments.

Revenues. The following tables compare our revenues for the three and six months ended September 30, 2016 to the revenues for the three and six months ended September 30, 2015:
 
 
Three Months Ended September 30,
 
  
 
 
(dollars in thousands)
2016
 
2015
 
Change
 
Percent Change
 
 
 
 
 
 
 
 
Total revenues
$
646,415

 
$
489,897

 
$
156,518

 
31.9
%
 
 
 
 
 
 
 
 
Revenues by type:
 
 
 
 
 
 
 
Capital equipment revenues
152,640

 
152,038

 
602

 
0.4
%
Consumable revenues
139,576

 
122,107

 
17,469

 
14.3
%
Service revenues
354,199

 
215,752

 
138,447

 
64.2
%
 
 
 
 
 
 
 
 
Revenues by geography:
 
 
 
 
 
 
 
United Kingdom revenues
53,369

 
11,746

 
41,623

 
354.4
%
United States revenues
450,513

 
395,220

 
55,293

 
14.0
%
Other foreign revenues
142,533

 
82,931

 
59,602

 
71.9
%

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Six Months Ended September 30,
 
  
 
 
(dollars in thousands)
2016
 
2015
 
Change
 
Percent Change
 
 
 
 
 
 
 
 
Total revenues
$
1,284,793

 
$
929,799

 
$
354,994

 
38.2
%
 
 
 
 
 
 
 
 
Revenues by type: