DENTSPLY SIRONA Inc. — Form 10-Q Summary
Business context and reporting period
Reporting period: three months ended March 31, 2016. DENTSPLY International merged with Sirona Dental Systems on February 29, 2016, creating DENTSPLY SIRONA Inc. The consolidated results include Sirona only from February 29 through March 31, while the balance sheet includes Sirona’s acquired assets and assumed liabilities. The company operates through Dental and Healthcare Consumables and Technologies segments and sells dental products, equipment, technologies and related healthcare products globally.
Key financial metrics
| Metric | Q1 2016 | Q1 2015 | Change |
|---|---|---|---|
| Net sales | $772.6 million | $656.3 million | 17.7% increase |
| Net sales excluding precious metal content | $754.5 million | $631.5 million | 19.5% increase |
| Gross profit | $418.9 million | $373.4 million | 12.2% increase |
| Gross margin excluding precious metal content | 55.5% | 59.1% | Down 360 basis points |
| Operating income | $72.7 million | $97.7 million | 25.6% decrease |
| Net income attributable to DENTSPLY SIRONA | $125.0 million | $64.0 million | $61.0 million increase |
| Diluted EPS | $0.70 | $0.45 | Increase |
| Cash flow from operations | $0.7 million | $65.6 million | Decrease |
- Adjusted diluted EPS was $0.69 versus $0.59 in Q1 2015. Adjusted operating income was $169.5 million, or 22.2% of sales excluding precious metal content, versus $118.4 million, or 18.7%, in the prior year.
- The reported tax benefit was $57.9 million, including a $76.1 million benefit from releasing a valuation allowance on foreign interest deduction carryforwards following the merger. Excluding these and other discrete tax matters, the effective tax rate was 20.9%.
- Cash and cash equivalents were $323.1 million at March 31, 2016, compared with $284.6 million at December 31, 2015.
- Total debt, including current maturities, was approximately $1.18 billion at March 31, 2016. Net debt to total capitalization was 9.3%, compared with 27.1% at year-end 2015.
- The company had $552.1 million of available borrowing capacity and no commercial paper borrowings under its revolving facility. It was in compliance with all debt covenants.
- Capital expenditures were $20.8 million during the quarter. Full-year 2016 capital expenditures were expected to be approximately $150 million to $165 million.
Material changes versus the prior comparable period
- Sirona contributed $120.1 million of sales and $28.1 million of operating income for the one-month post-merger period. On a pro forma basis assuming the merger occurred January 1, 2015, sales were $940.2 million in Q1 2016 versus $903.2 million in Q1 2015, while pro forma net income attributable to DENTSPLY SIRONA was $93.7 million versus $94.4 million.
- Combined-business sales excluding precious metal content increased 6.5% on a constant-currency basis, including a 1.7% acquisition benefit and a 70-basis-point adverse impact from discontinued products, resulting in 5.5% internal growth.
- Reported segment sales excluding precious metal content increased 3.4% in Dental and Healthcare Consumables and 61.1% in Technologies. Technologies benefited substantially from the Sirona consolidation.
- Gross margin declined primarily because merger-related fair-value inventory adjustments reduced the margin by approximately 500 basis points. SG&A increased 26.6%, reflecting merger-related costs and the larger combined business.
- Operating cash flow declined because of higher accounts receivable, stronger March sales and approximately $40 million of merger transaction and integration payments.
- The merger was an all-stock transaction valued at approximately $6.26 billion, with approximately 101.8 million DENTSPLY shares issued to former Sirona shareholders. Preliminary purchase accounting added $3.76 billion of goodwill and $2.44 billion of identifiable intangible assets.
- The company repurchased 8.2 million shares for $500.0 million during the quarter and paid $18.3 million in dividends.
Outlook, commentary, risks and unusual items
- Management emphasized growth opportunities from combining consumables, equipment and technology platforms, particularly the adoption of digital dentistry, product innovation, acquisitions and global efficiency initiatives.
- The company expects restructuring charges periodically as efficiency initiatives continue; such charges may be material. It also expected to expense the remaining acquired inventory fair-value adjustment by June 30, 2016. The Q1 charge was $24.2 million of the $72.0 million adjustment.
- Foreign currency movements reduced Q1 sales excluding precious metal content by approximately 2.7% and diluted EPS by approximately $0.04. Approximately two-thirds of sales are generated outside the United States.
- The merger valuation remains preliminary. Changes to acquired asset and liability fair values, deferred taxes and goodwill could be significant.
- Material risks include execution and integration of Sirona, realization of anticipated synergies, goodwill and intangible-asset impairment, foreign exchange and interest-rate volatility, regulatory and healthcare-reimbursement changes, product liability and quality claims, cybersecurity and technology disruption, supply concentration, litigation and export-control or sanctions inquiries.
- Pending or contingent matters include Cavitron-related class actions, a pending appeal in the Weinstat matter, export-control and sanctions inquiries involving U.S. authorities, and other litigation for which the company does not believe a loss is probable but cannot estimate a possible loss range. The company stated that a qui tam matter was dismissed on summary judgment in April 2016, subject to potential appeal.
- Management stated that disclosure controls were effective. Sirona’s internal controls were still being documented and tested for inclusion in the company’s 2016 annual assessment.
Important facts for investors to verify
- Reconcile reported results with pro forma combined-company results because Q1 2016 includes only one month of Sirona operations.
- Assess the sustainability of earnings excluding the $76.1 million tax benefit and other merger-related and purchase-accounting adjustments.
- Monitor the completion of purchase accounting, including acquired intangible assets, deferred taxes, goodwill and the remaining inventory fair-value adjustment.
- Evaluate whether reported margin pressure from merger accounting, integration expenses and elevated SG&A reverses as synergies are realized.
- Review operating cash conversion, working-capital requirements, the $500.0 million share repurchase program and future debt-service obligations.
- Track integration progress, restructuring charges, foreign-currency exposure and the company’s ability to maintain debt-covenant compliance.
- Review developments in litigation, export-control and sanctions inquiries, product claims and other contingencies that could materially affect results or liquidity.