Balchem Corporation — Q3 2020 Form 10-Q
Business context and period. The filing covers the three and nine months ended September 30, 2020, compared with the same 2019 periods. Balchem develops and sells specialty ingredients and products for nutrition, food, animal health, medical-device sterilization, plant nutrition and industrial markets. Beginning in 2020, it reported three segments—Human Nutrition & Health (HNH), Animal Nutrition & Health (ANH), and Specialty Products—with prior periods recast; consolidated results were unchanged.
Key financial metrics
Dollar amounts are in millions, except per-share data. Balance-sheet figures compare September 30, 2020 with December 31, 2019.
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Net sales | $175.1 | $158.6 | $522.9 | $477.2 |
| Gross margin | $56.4 | $54.0 | $167.1 | $157.0 |
| Gross margin as % of sales | 32.2% | 34.1% | 32.0% | 32.9% |
| Operating earnings | $29.0 | $26.0 | $82.2 | $78.9 |
| Operating margin | 16.6% | 16.4% | 15.7% | 16.5% |
| Net earnings | $21.6 | $20.7 | $62.5 | $59.3 |
| Diluted EPS | $0.66 | $0.64 | $1.92 | $1.82 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $102.5 | $91.5 |
- Q3 year-over-year: Sales increased 10.4%, operating earnings 11.5%, and net earnings 4.3%. Higher effective taxes and lower gross margin as a percentage of sales tempered net earnings growth.
- Nine-month year-over-year: Sales increased 9.6%, operating earnings 4.2%, and net earnings 5.4%. Gross margin percentage and operating margin declined.
- Cash flow and investment: Nine-month investing cash outflow was $21.4 million, including $20.6 million of capital expenditures and intangible assets; there were no acquisitions in this period. Financing cash outflow was $69.6 million, including $55.0 million of net revolving-loan repayments and $16.7 million of dividends paid. Cash increased $13.3 million to $79.0 million.
- Liquidity and debt: Working capital was $201.7 million, versus $162.7 million at year-end 2019. Revolving-loan borrowings were $193.6 million, down from $248.6 million; $306.4 million of the $500 million facility remained available. The company reported compliance with its debt covenants. Cash less revolving debt was approximately $114.6 million of net debt.
- Other balance-sheet data: Total assets were $1,161.3 million and stockholders’ equity was $819.4 million. Goodwill was $526.3 million; finite-lived intangible assets, net, were $126.2 million.
Material changes and segment performance
- Q3 sales: HNH rose 20.3% to $103.6 million, ANH rose 9.6% to $46.4 million, Specialty Products fell 7.6% to $23.0 million, and Other and Unallocated fell 58.4% to $2.2 million.
- HNH growth reflected food and beverage sales, chelated minerals, and the Zumbro acquisition, partly offset by weaker food-service-related markets and the 2019 Reading-site divestiture. ANH growth reflected stronger ruminant-market sales and volumes. Specialty Products was affected by lower ethylene oxide sales for medical-device sterilization amid fewer elective procedures.
- For the first nine months, HNH sales increased 15.3%, ANH 9.5%, and Specialty Products 16.1%; Other and Unallocated decreased 74.1%. Specialty Products’ year-to-date growth included Chemogas and higher plant-nutrition sales, despite weaker legacy ethylene oxide sales.
- Q3 operating expenses declined 2.3%, principally from reduced travel-related selling costs and lower bad-debt expense. Nine-month expenses increased 8.6%, reflecting acquired-company costs, the prior-year timing of an insurance recovery, and a $1.9 million goodwill impairment charge related to a business formerly in Industrial Products.
- Interest expense fell to $1.0 million in Q3 and $3.6 million for nine months, from $1.7 million and $4.7 million, respectively. Effective tax rates increased to 22.7% for Q3 from 15.4%, and to 20.3% for nine months from 20.0%, largely due to fewer certain tax credits and lower stock-compensation tax benefits.
Outlook, commentary, risks and contingencies
- Management gave no specific revenue or earnings guidance. It expected operations to generate sufficient cash for working capital and necessary capital investment, and said it was pursuing acquisition candidates.
- Management reported that COVID-19’s impact on demand had not been material through the first three quarters and that manufacturing sites were operating near normal conditions. It continued to monitor markets, preserve cash, and reduce capital expenditures and noncritical expenses where possible. It described liquidity as strong, citing cash, available revolver capacity, expected free cash flow, and relatively low net debt.
- The company resumed its ERP rollout after a pandemic-related pause; approximately 75% of revenue was on the new system, with full conversion expected by mid-2021.
- COVID-19 remains a risk to operations, supply chains, customers and transportation, and its future financial impact could not be reasonably estimated. Management also identified raw-material pricing, floating interest rates and foreign-exchange movements as exposures. A 100-basis-point rate change on period-end borrowings would change annual interest expense and cash flow by approximately $1.9 million; the interest-rate swap hedged part of the exposure.
- In September 2020, a subsidiary operating the Verona, Missouri facility received an EPA General Notice Letter concerning potential liability for 1,4-dioxane contamination. The company said it believed the contamination was associated with the former owner’s operations and had engaged experts to study site conditions. The filing describes prior-owner remediation responsibility and seller indemnification relating to the Superfund site; the outcome of the new notice was not stated.
- Management said other litigation, claims and assessments were not expected to materially affect financial position, results or liquidity. The company also disclosed $5.2 million of unrecognized tax benefits and related accrued interest and penalties of approximately $1.8 million.
Important facts for investors to verify
- Whether the mix-driven gross-margin decline persists, and how HNH and ANH growth compares with continuing weakness in food service and medical-device sterilization markets.
- Whether the COVID-19 effects on customers, supply chains and elective procedures materially change after the reporting period.
- The resolution, potential cost and responsibility for the EPA’s 1,4-dioxane notice, including the practical scope of indemnification and prior-owner obligations.
- Cash generation, capital spending, dividends, acquisition plans and revolver usage; note that $49.0 million of cash was held by foreign subsidiaries and management did not expect to repatriate it for U.S. needs.
- Progress and costs of the ERP implementation, including the expected mid-2021 completion, and the impact of amortization and other unallocated expenses on reported operating results.