DENTSPLY International Inc. — Form 10-Q Summary
Business Context and Reporting Period
Unaudited results cover the three months ended March 31, 2014, compared with the three months ended March 31, 2013. The company manufactured and distributed dental and consumable medical-device products in more than 120 countries, with professional dental products representing approximately 88% of sales. The filing predates the DENTSPLY Sirona name and identifies the registrant as DENTSPLY International Inc.
Financial Performance and Key Metrics
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Net sales | $730.1 million | $732.1 million | (0.3%) |
| Net sales excluding precious-metal content | $689.2 million | $672.7 million | +2.5% |
| Gross profit | $394.2 million | $388.2 million | +1.5% |
| Operating income | $105.6 million | $93.9 million | +12.5% |
| Net income attributable to DENTSPLY | $72.9 million | $71.7 million | +1.7% |
| Diluted EPS | $0.50 | $0.49 | +2.0% |
| Adjusted diluted EPS | $0.59 | $0.52 | +13.5% |
| Operating cash flow | $64.6 million | $36.1 million | +$28.5 million |
Reported operating margin was 14.5%, up from 12.8%. Gross margin on sales excluding precious-metal content was 57.2%, down from 57.7%, primarily because of unfavorable foreign-currency movements. SG&A declined 2.0% to $287.8 million and represented 41.8% of sales excluding precious-metal content, compared with 43.7% in the prior-year quarter. The effective tax rate increased to 23.5% from 4.5%, largely because Q1 2013 included significant tax benefits related to U.S. legislative and prior-year tax matters.
At March 31, 2014, cash and cash equivalents were $55.8 million. Total debt was approximately $1.47 billion, consisting of $403.1 million of current debt and $1.07 billion of long-term debt; estimated fair value of total debt was $1.34 billion. Net debt to total capitalization was 35.9%, compared with 35.2% at December 31, 2013. The company had $406.3 million of unused credit lines and was in compliance with debt covenants.
Operating cash flow benefited from substantially lower cash taxes. Investing cash flow used $28.8 million, including $25.3 million of capital expenditures. Financing cash flow used $55.5 million, including $40.4 million for share repurchases, $9.0 million of dividends, and $75.2 million of long-term debt repayments, partly offset by increased short-term borrowings. Cash decreased by $19.1 million during the quarter.
Material Changes Versus the Prior Comparable Period
- Underlying sales increased despite lower precious-metal content, which fell to $40.9 million from $59.4 million.
- Worldwide internal sales growth excluding precious-metal content was 1.1%; acquisition growth was 0.8%, producing constant-currency growth of 1.9%.
- Regional constant-currency growth was 0.4% in the United States, negative 1.3% in Europe, and 12.1% in the rest of the world. Europe was affected by lower sales in the Commonwealth of Independent States.
- Segment sales excluding precious-metal content increased 6.3% in Dental Consumables, 0.7% in Dental Specialty and Laboratory, and 2.7% in Healthcare and Emerging Markets.
- Segment operating income increased in all three segments, led by lower expenses and sales growth.
- Interest expense declined, and net interest and other expense fell to $9.9 million from $15.9 million.
- Cash flow from operations improved primarily because of lower cash taxes, while receivable and inventory days increased. Management stated that inventory may rise modestly during 2014 before returning toward normal levels by the end of 2015.
- The company repurchased approximately 0.9 million shares for $40.4 million and increased the quarterly dividend to $0.06625 per share from $0.06250.
- The company recorded a liability for the purchase of the remaining shares of a variable-interest entity; the transaction was expected to be finalized later in 2014.
Guidance, Outlook, Commentary, Risks and Unusual Items
- No specific full-year revenue or EPS guidance was provided in the filing.
- Management described the long-term dental-market growth outlook as approximately 3% to 6% annually and targets a slight premium to market growth, although near-term growth remains uncertain.
- Management targets adjusted operating margins of up to 20% over time through cost reductions, operational consolidation, technology, and process improvements. Future restructuring charges may be material, and achievement of the target is not assured.
- Expected 2014 capital expenditures were approximately $120 million.
- The company refinanced a $75 million private-placement note payment due in February 2016 with commercial paper. A separate $100 million payment due in February 2015 was classified as current.
- Foreign-exchange, interest-rate, commodity, and cross-currency exposures remain significant. The company had approximately $1.84 billion of notional derivatives not designated as hedges and $1.26 billion of designated cash-flow and net-investment hedges.
- Risks include geopolitical conditions in the CIS, currency volatility, inventory accumulation, economic weakness in Western Europe, regulatory and compliance requirements, product innovation uncertainty, acquisition execution, and refinancing needs.
- Material legal and regulatory matters include appeals relating to Cavitron product litigation, a False Claims Act qui tam action, and ongoing inquiries regarding export controls and economic sanctions. Management did not believe a loss was probable for the disclosed litigation and could not estimate a reasonable loss range; an unfavorable resolution could materially affect results.
- The company held $79.4 million of precious metals on consignment. Loss of these arrangements could require third-party financing to fund inventory.
- The company adopted two accounting standards during the quarter; neither materially affected financial position or results.
Investor Verification Priorities
- Verify the sustainability of underlying sales growth after excluding precious-metal content and the effects of acquisitions and foreign exchange.
- Assess whether SG&A savings and restructuring initiatives can offset gross-margin pressure and support the long-term 20% adjusted operating-margin target.
- Monitor the effective tax rate, given the unusually low Q1 2013 comparison and the absence of comparable tax benefits in 2014.
- Review working-capital trends, particularly the increases in receivable and inventory days and the planned inventory buildup.
- Evaluate debt maturities, commercial-paper reliance, available liquidity, covenant compliance, and the 35.9% net-debt-to-capitalization ratio.
- Track the CIS conflict, export-control inquiries, False Claims Act litigation, Cavitron litigation appeal, and the remaining-share acquisition obligation.
- Distinguish GAAP EPS of $0.50 from adjusted EPS of $0.59 and review the company’s reconciliation of non-GAAP adjustments.