Natural Alternatives International, Inc. — Form 10-Q Summary
Reporting period: First quarter of fiscal 2020, the three months ended September 30, 2019. Unless stated otherwise, financial amounts below are in millions of dollars. Comparisons are with the three months ended September 30, 2018.
Business context
NAI provides private-label contract manufacturing of nutritional and health products and generates additional revenue from beta-alanine raw-material sales and patent and trademark licensing under its CarnoSyn and SR CarnoSyn brands. The company notes that sales have historically depended heavily on a small number of customers and the timing of their orders.
Financial performance and liquidity
| Metric | Q1 FY2020 | Q1 FY2019 | Change / context |
|---|---|---|---|
| Net sales | $29.195 | $36.532 | Down 20% |
| Gross profit / margin | $4.384 / 15.0% | $7.163 / 19.6% | Gross profit down 39%; margin down 4.6 percentage points |
| Operating income (loss) | $(0.055) / (0.2%) | $2.724 / 7.5% | Moved to a small operating loss |
| Net income | $0.096 | $2.559 | Down 96%; diluted EPS was $0.01 versus $0.37 |
| Operating cash flow | $4.593 | $4.746 | Cash generation remained similar |
| Capital expenditures | $1.118 | $0.796 | Higher equipment purchases |
At September 30, 2019, cash and cash equivalents were $28.500, current assets were $73.047, and current liabilities were $14.936. NAI had no borrowings under its credit line and no long-term debt outstanding; $10.0 million remained available under the facility. The facility maturity was extended to November 1, 2022, and the company reported compliance with its covenants. Management believes available cash and operating cash flows will fund working capital and capital expenditures for at least the next 12 months.
Total assets were $115.237 and stockholders’ equity was $77.405. Adoption of lease accounting added approximately $20.8 million of operating lease right-of-use assets and $20.9 million of lease liabilities; these are lease obligations, not borrowings under the credit facility.
Material changes and drivers
- Private-label manufacturing sales fell 16% to $26.009 million. Sales to the largest customer declined more than 33%, partly offset by growth of more than 23% among other customers. The largest customer represented 49% of quarterly sales, down from 58% a year earlier.
- Patent and trademark licensing sales fell 41% to $3.186 million. NAI attributed the decline to lower beta-alanine shipments, market and seasonal factors, lower average selling prices, customers switching to generic beta-alanine, and weaker consumer demand for CarnoSyn products.
- Gross margin declined amid a marginal increase in manufacturing cost per unit and weaker licensing-segment economics. SG&A was unchanged at $4.439 million, but rose to 15.2% of sales from 12.2%.
- Litigation and patent-compliance expenses were approximately $0.761 million, compared with $0.618 million in the prior-year quarter.
- Operating cash flow reflected cash inflows from receivables ($2.211 million) and inventory ($1.159 million). Days sales outstanding increased to 47 from 34 in the comparable quarter.
Outlook, risks and unusual items
- Management expects fiscal 2020 private-label contract manufacturing sales to be flat to slightly down versus fiscal 2019, and CarnoSyn and SR CarnoSyn beta-alanine revenue growth in the mid- to high-single-digit percentage range on an annualized basis.
- For the remainder of fiscal 2020, management expects consolidated operating income to be flat to slightly lower than fiscal 2019. Cited factors include lower expected sales from the largest manufacturing customer, patent-protection litigation, Japan-market expansion, SR CarnoSyn marketing costs, and lower expected average euro exchange rates.
- NAI received FDA New Dietary Ingredient status for patented CarnoSyn beta-alanine in February 2019, a favorable U.S. Court of Appeals ruling on patent eligibility in March 2019, and approval for beta-alanine sales in Japanese food markets. Management plans to pursue intellectual-property enforcement and develop the Japanese and wellness/healthy-aging markets, but states there is no assurance these efforts will reverse or slow potential sales declines.
- Revenue and credit risk remain concentrated: one customer generated $14.354 million of quarterly sales, and four largest customers collectively represented 79.6% of gross receivables. NAI also cites reliance on a limited number of qualified suppliers for certain raw materials, including beta-alanine.
- NAI reported ordinary-course legal matters, including intellectual-property enforcement, but no material pending legal proceeding as of November 14, 2019. It said an unfavorable outcome or settlement could still adversely affect results. Foreign-exchange hedges had a $3.1 million fair-value asset at quarter-end; approximately $1.5 million of hedge gains were expected to be reclassified into earnings over the next 12 months.
- Accounting changes included adoption of lease accounting and hedge-accounting guidance. Hedge forward-point amortization moved from other income to sales; NAI recorded $0.237 million in sales for the quarter under the new presentation.
Important facts for investors to verify
- Whether the largest customer’s reduced orders continue and whether growth from other manufacturing customers can offset them.
- Whether beta-alanine sales recover, including the effect of generic competition, pricing, demand, patent enforcement, NDI status, and Japan-market development.
- Progress toward management’s fiscal 2020 revenue and operating-income expectations, particularly given the quarter’s lower sales and operating loss.
- Receivables collection trends and customer concentration, including the increase in days sales outstanding and concentration of gross receivables.
- Future litigation costs and outcomes, supplier availability, and the performance and accounting effects of foreign-exchange hedges.