CHARLES RIVER LABORATORIES INTERNATIONAL, INC. quarterly report, Q1 FY2020

Business context and reporting period

Charles River Laboratories International, Inc. is a global early-stage contract research organization serving drug discovery, safety assessment, and manufacturing support markets. This unaudited Form 10-Q covers the 13 weeks ended March 28, 2020, compared with the three months ended March 30, 2019. All dollar amounts below are U.S. dollars.

Financial results and key metrics

Service revenue rose 21.2% to $546.6 million; product revenue increased 4.5% to $160.5 million. Segment revenue and operating income were: Research Models and Services (RMS), $146.0 million and $27.4 million; Discovery and Safety Assessment (DSA), $438.7 million and $72.3 million; Manufacturing, $122.4 million and $41.1 million. Segment operating margins were 18.7%, 16.5%, and 33.6%, respectively.

Net income declined despite higher operating income, primarily due to investment losses: the company recorded $24.1 million of other expense, versus $6.3 million of other income in the prior-year quarter. The filing attributes this mainly to losses on venture capital and life insurance policy investments, compared with gains in the prior period. Interest expense rose 50.9% to $15.1 million, largely reflecting higher borrowings.

Cash and cash equivalents were $372.4 million at March 28, 2020, versus $238.0 million at December 28, 2019. Total debt and finance leases were $2.392 billion, compared with $1.906 billion at year-end; the weighted-average debt interest rate was 3.03%. The company reported approximately $900 million available on its revolving credit facility and compliance with its debt covenants. Current assets were $1.208 billion and current liabilities were $690.9 million.

Operating cash flow improved partly because of favorable working-capital timing and lower compensation payments. Investing cash outflow was $413.7 million, including $382.3 million for acquisitions and $25.7 million of capital expenditures. Financing cash inflow was $479.2 million, reflecting borrowing activity, including an additional $150 million revolver draw late in the quarter.

Material changes versus the prior period

• Revenue growth reflected acquisitions, including Citoxlab and HemaCare, and organic growth in DSA and Manufacturing; foreign exchange reduced revenue by $4.6 million, or 0.7%.
• DSA revenue increased 23.9% and operating income increased 54.8%, supported by Citoxlab, biotechnology-client demand, pricing, and cost efficiencies.
• Manufacturing revenue increased 8.1% and operating income increased 30.5%, reflecting product demand, improved facility utilization, production efficiencies, and cost savings.
• RMS revenue increased 6.4%, including $12.3 million from HemaCare, but operating income fell 27.6% and margin declined to 18.7% from 27.6%, primarily due to lower research-model product demand amid COVID-19 and acquisition-related costs.
• HemaCare was acquired on January 3, 2020 for $379.8 million in cash. It contributed $12.3 million of revenue and had a $2.2 million operating loss during the quarter.
• Foreign currency translation and other items reduced equity through accumulated other comprehensive loss, which grew to $218.9 million from $178.0 million at year-end.

Outlook, commentary, risks, and unusual items

The filing provides no formal numerical revenue or earnings guidance. Management expected COVID-19 to continue to pressure RMS research-model demand, revenue, operating income, margins, and cash flows until clients reopen sites and resume research. DSA and Manufacturing were not significantly affected in Q1; management expected small-to-modest adverse effects on DSA and small adverse effects on Manufacturing through the rest of 2020. It expected higher supply-chain costs and potential delays, while reporting that operating sites remained open and adequately staffed at the filing date.

Management said it did not anticipate needing additional borrowing in 2020 or using the precautionary $150 million draw to fund operations, and expected operating cash flows to cover working capital and debt, pension, and venture-capital obligations. It had implemented cost controls, including hiring restrictions, reduced discretionary spending and travel, and delays to compensation increases; it also reduced planned acquisition and capital-project activity. Management reported no significant going-concern uncertainty and no impairment indicators identified to date, but said impairment monitoring would continue and prolonged disruption could lead to write-offs or impairments.

COVID-19 risks include customer-site closures and delayed studies, reduced research-model demand, employee and supplier disruption, supply-chain cost increases, delayed shipping, and weaker customer finances. Research Products temporarily suspended blood donations, potentially limiting donor supply. The company also identified risks from its debt level and floating rates (a 100-basis-point rate increase would raise annual pretax interest expense by $13.5 million), LIBOR transition, foreign exchange, acquisition integration, and the possibility of future goodwill or asset impairment. Goodwill and other intangibles totaled approximately $2.6 billion.

Other notable items: the company recognized $12.2 million of venture-capital investment losses, incurred $5.7 million of HemaCare transaction and integration costs, and reported $5.7 million of combined HemaCare and Citoxlab-related costs in the quarter. It also disclosed a prior unauthorized information-systems access incident; remediation was reported complete in December 2019, though related costs continued. Ordinary-course lawsuits were pending, with management not expecting their resolution to materially adversely affect the business or financial condition.

Important facts for investors to verify

• Whether COVID-19-related client closures and research-model demand weakness persist, and how quickly RMS margins recover.
• Whether DSA and Manufacturing performance and HemaCare integration offset pandemic-related pressure and acquisition costs.
• Debt, revolver availability, interest-rate exposure, covenant headroom, and the company’s progress in transitioning away from LIBOR.
• Changes in venture-capital and other investment valuations, and any subsequent impairment assessments for goodwill or intangible assets.
• Whether customer, supplier, staffing, donor-supply, cybersecurity, or foreign-exchange risks develop beyond management’s current expectations.