Align Technology, Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020. Align designs, manufactures and markets Invisalign clear aligners and iTero intraoral scanners and services.
Financial performance
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net revenue | $551.0 million | $549.0 million | +0.4% |
| Gross profit / margin | $394.4 million / 71.6% | $402.1 million / 73.2% | Profit down $7.7 million; margin down 1.6 percentage points |
| Operating income / margin | $69.9 million / 12.7% | $87.7 million / 16.0% | Down $17.8 million |
| Net income | $1,518.1 million | $71.8 million | Primarily reflects a one-time tax benefit |
| Diluted EPS | $19.21 | $0.89 | Distorted by the tax benefit |
| Operating cash flow | $9.8 million | $117.2 million | Down $107.4 million |
The company recognized a $1,464.8 million income tax benefit, principally from a $1,493.5 million deferred tax asset related to transferring certain intellectual property and fixed assets to its Swiss subsidiary. The benefit was largely noncash; operating cash flow was also affected by working-capital movements.
Clear Aligner revenue was $481.6 million, up 2.6%; Scanner revenue was $69.4 million, down 13.1%. Clear Aligner case volume was essentially flat at 359,400. Gross margin pressure reflected COVID-related idle capacity and more aligners per case; Scanner margin was affected by lower volume and average selling prices. SG&A rose to $282.9 million from $247.1 million, and R&D rose to $41.5 million from $37.5 million.
Liquidity, debt and capital
At March 31, cash and cash equivalents were $790.7 million, versus $550.4 million at year-end; no marketable securities remained, compared with $318.2 million at year-end. Total cash, cash equivalents and restricted cash at quarter-end was $791.4 million. The company had no borrowings under its $200 million revolving credit facility, which matures in February 2021, and reported covenant compliance. Total liabilities were $1.11 billion. Management said cash and available credit should fund operations for at least 12 months, while warning that COVID-19 could reduce operating cash flow and slow receivable collections.
Q1 investing cash inflow of $276.2 million largely reflected sales and maturities of marketable securities; financing cash outflow was $34.7 million, primarily employee equity-award tax withholdings. The company expected $90–$100 million of additional 2020 capital expenditures. It completed the exocad acquisition on April 1, 2020 for approximately $430 million in cash, funded from cash on hand. No shares were repurchased in Q1; $100 million remained authorized under the existing program.
Material changes and management outlook
- COVID-19 sharply disrupted demand late in Q1: the quarter began in line with guidance, but sales decelerated as dental practices closed or curtailed activity. Management anticipated revenue weakness in major markets during at least Q2 and throughout 2020; it could not quantify the pandemic’s full effect or provide a clear revenue forecast.
- Management expected 2020 expenses to increase slightly over 2019, while controlling discretionary spending and prioritizing manufacturing capacity, sales and marketing, and product and technology investment. It noted these investments could weigh on near-term results.
- Competition, particularly direct-to-consumer aligners and promotional activity, was pressuring adult case growth and pricing. Q1 total Invisalign utilization declined to 5.9 cases per doctor from 6.2 a year earlier; International utilization declined, while North American orthodontist utilization increased.
- The company reorganized its international structure, moving its EMEA headquarters from the Netherlands to Switzerland. This drove the unusual tax benefit and changed the geographic presentation of revenue and assets.
- Management expects international revenue to grow faster than Americas over the foreseeable future, but noted this expectation depends on market conditions, expansion and COVID-19’s uneven effects.
Risks, contingencies and unusual items
- COVID-19 creates substantial uncertainty around customer activity, discretionary spending, supply chains, collections, production capacity and liquidity. The filing warns that prolonged disruption could adversely affect results and could lead to asset impairment.
- Legal matters include securities and shareholder derivative actions, patent and antitrust disputes involving 3Shape, and ongoing SmileDirectClub (SDC) arbitrations. The company said it could not estimate possible losses for these matters.
- The SDC note receivable had a fair value of $27.9 million at quarter-end; the dispute over the repurchase price remained unresolved. The company also recorded $2.9 million of impairment losses on private-company investments.
- Foreign-exchange exposure includes a €376 million forward contract entered into ahead of the exocad acquisition; it generated a $9.2 million unrealized loss in Q1. Management stated that a 10% currency-rate change could materially affect results and financial position.
- Other notable commitments included $21.4 million remaining on an Israel building purchase, expected to be paid in 2020, and a $36 million promotional-rights agreement whose expense runs from April 2020 to March 2023.
Important facts for investors to verify
- How much of reported earnings and the sharp increase in deferred tax assets is attributable to the one-time Swiss transfer benefit, and what assumptions support realization of those tax assets?
- How quickly dental practices reopen and patient demand, case volume, scanner sales and collections recover from COVID-19 disruptions.
- Whether margins and operating cash flow stabilize as production levels, product mix, discounting and manufacturing utilization change.
- Progress and integration costs from the exocad acquisition, and whether expected strategic benefits materialize.
- Developments in the SDC and other legal proceedings, including any financial exposure not currently estimable.