Orthofix International N.V. — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015. Orthofix is a global medical-device company with BioStim, Biologics, Extremity Fixation and Spine Fixation businesses. Amounts below are U.S. dollars; financial figures are in millions unless noted.
Financial performance
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Net sales | $101.0 | $101.0 | $190.7 | $201.0 |
| Gross profit | $79.0 | $75.6 | $149.5 | $148.8 |
| Gross margin | 78.3% | 74.8% | 78.4% | 74.0% |
| Operating income (loss) | $4.9 | $6.7 | $(2.3) | $6.7 |
| Continuing-operations net income (loss) | $4.1 | $3.3 | $(3.7) | $1.3 |
| Net income (loss), including discontinued operations | $3.6 | $(0.7) | $(4.8) | $(3.2) |
| Basic diluted EPS | $0.19 | $(0.04) | $(0.26) | $(0.17) |
Second-quarter sales were essentially flat as reported but grew 5% at constant currency. First-half sales declined 5% reported and 1% at constant currency. Gross margin improved largely due to foreign exchange and the prior-year $1.9 million field-inventory shrinkage charge. First-half operating expenses rose, notably G&A (up $8.0 million) and sales and marketing (up $4.0 million); restatement-related costs fell to $8.1 million from $10.6 million.
Q2 segment sales: BioStim $40.7 million (+3% reported), Biologics $15.3 million (+10%), Extremity Fixation $25.6 million (−6%; +12% constant currency), and Spine Fixation $19.4 million (−5%). First-half sales were $78.4 million (+2%), $29.2 million (+9%), $47.4 million (−13%; +2% constant currency), and $35.7 million (−17%), respectively. Management cited channel expansion for growth in BioStim and Biologics; foreign exchange affected Extremity Fixation, while Spine Fixation faced sales-channel disruption and, for the first half, timing of international cash collections.
Cash, liquidity and balance sheet
- Cash and cash equivalents were $55.9 million at June 30, 2015, versus $36.8 million at year-end 2014. Year-end also included $34.4 million of restricted cash; the restriction was removed by June 30 after the company had no revolver borrowings and was covenant-compliant.
- First-half operating cash flow was $9.0 million, down from $17.9 million. Investing cash use was $24.0 million, including $15.3 million for the eNeura note and $13.5 million of capital expenditures, partly offset by $4.8 million of asset-sale proceeds. Financing provided $36.1 million, primarily reflecting the $34.4 million release of restricted cash.
- No principal was outstanding under the term loan or revolving facility. The available revolving facility had been reduced to $100 million and was due to expire August 30, 2015; renewal negotiations were underway. The company also had an unused Italian line of credit of €5.8 million (reported as $6.5 million).
- Total assets were $389.2 million; total liabilities $91.5 million; shareholders’ equity $297.7 million. The filing reports no material off-balance-sheet arrangements.
Outlook, unusual items and risks
- Guidance: Fiscal 2015 net sales expected at $390–$395 million, representing 0.6%–1.9% growth at constant currency and a 3.1%–1.8% reported decline.
- Tax: First-half continuing-operations tax expense was $2.7 million despite a $0.9 million pretax loss, producing a reported effective rate of (298.7)%. Management cited jurisdictional earnings mix, state taxes and losses in jurisdictions where tax benefits were not recognized. Unrecognized tax benefits were $15.6 million.
- eNeura investment: Orthofix paid $15.0 million for an 8% convertible note and a $0.3 million nonrefundable fee for an exclusive 18-month option to acquire eNeura. The note is a Level 3 asset; interest accrued was $0.4 million. Interest is forgiven if the option is exercised.
- Other items: First-half other income included a $3.1 million gain on the sale of the Tempus Cervical Plate product line. Discontinued operations included Breg-related legal costs and settlements; the company reported a $5.7 million accrual for specified cold-therapy liabilities.
- Legal and compliance exposure: The SEC investigation related to prior accounting reviews/restatements and a securities class action remained unresolved; the company could not estimate possible losses. A review of alleged improper payments involving its Brazil subsidiary was ongoing. The DOJ deferred prosecution agreement was extended through September 17, 2015, while the DOJ evaluated the Brazil matter. Orthofix also remained subject to compliance obligations arising from prior matters and indemnification claims involving former subsidiary Breg.
- Controls: Management said material weaknesses in internal control over financial reporting continued at June 30, 2015, and disclosure controls were not effective. Weakness areas included distributor revenue recognition, receivables reserves, inventory reserves, foreign-subsidiary oversight and manual journal entries. Remediation was underway; a separate $2.4 million cash-flow classification error was corrected and deemed immaterial.
- Operations: Project Bluecore, a multi-year systems and process initiative planned through mid-2017, remained on schedule and on budget. The company spent $10 million in the first half, of which $7 million was capitalized.
Most important facts for investors to verify
- Whether the revolving credit facility was renewed before its August 30, 2015 expiration, and on what terms.
- Progress on remediation and independent validation of the disclosed material weaknesses.
- Developments and potential financial consequences of the SEC investigation, securities litigation, Brazil review and DOJ agreement.
- Whether sales recovery—particularly in Spine Fixation and Extremity Fixation—supports the full-year guidance.
- The status and valuation of the eNeura note and acquisition option, and the ultimate cost of Breg-related claims.