Globus Medical, Inc. — Q2 2020 Form 10-Q
Business context and reporting period. Globus Medical develops and sells medical devices and technologies for musculoskeletal procedures, including spine and orthopedic implants and the ExcelsiusGPS robotic guidance and navigation system. This unaudited report covers the quarter and six months ended June 30, 2020. COVID-19 disruptions to elective procedures materially affected results.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Sales | $148.9 million | $194.5 million | $339.5 million | $377.5 million |
| Gross profit / margin | $98.3 million / 66.0% | $150.5 million / 77.4% | $240.0 million / 70.7% | $291.7 million / 77.3% |
| Operating income (loss) | ($25.6 million) | $42.9 million | $2.9 million | $79.9 million |
| Net income (loss) | ($20.8 million) | $38.2 million | $5.1 million | $71.4 million |
| Diluted EPS | ($0.21) | $0.38 | $0.05 | $0.70 |
| Adjusted EBITDA (non-GAAP) | $22.0 million | $62.2 million | $72.5 million | $119.0 million |
Q2 sales fell 23.4% year over year; U.S. sales declined 21.8% and international sales 31.2%. Musculoskeletal Solutions sales were $143.5 million, down from $182.5 million, while Enabling Technologies sales were $5.4 million, down from $12.0 million. First-half sales declined 10.1% (9.9% on a constant-currency basis).
Q2 cost of goods sold rose 15.1% despite lower sales, lifting the cost-of-sales ratio to 34.0% from 22.6%. The filing cites inventory write-downs, non-recurring inventory write-offs and other manufacturing expenses. R&D expense increased to $39.5 million in Q2, primarily from a $24.4 million charge for acquired in-process research and development (IPR&D) with no alternative future use. SG&A declined 9.5% to $80.0 million, mainly reflecting lower commissions and reduced travel and marketing, partly offset by sales-force expansion, donations and higher bad-debt expense.
For the first half, operating cash flow was $65.4 million versus $61.8 million; capital expenditures were $32.3 million, producing company-defined free cash flow of $33.1 million versus $18.9 million. Cash, cash equivalents and restricted cash were $165.6 million at June 30, down from $195.7 million at year-end. Cash plus marketable securities totaled $636.2 million, versus $721.0 million. Total liabilities were $128.9 million; the balance sheet reports no debt balance. The revolving facility expired in May 2020, and the company said it was negotiating a replacement credit agreement.
Inventory increased to $224.5 million from $196.3 million at year-end, while accounts receivable declined to $132.1 million from $154.3 million. The company repurchased approximately 2.7 million shares for $104.7 million during the first half, leaving $95.3 million of its $200 million authorization available at June 30.
Material changes and unusual items
- COVID-19 postponements of elective surgeries and longer sales cycles for robotic and navigation capital equipment drove the sales decline. Management said the pandemic had not materially affected supply or production to date, but warned that it could materially hurt sales, operating profit and cash flow for the remainder of 2020 and potentially 2021.
- The $24.4 million Synoste IPR&D charge was a significant non-recurring Q2 expense and contributed to the quarterly GAAP loss. The company reported Q2 non-GAAP net income of $6.9 million and non-GAAP diluted EPS of $0.07; these measures exclude specified items and are not GAAP measures.
- First-half effective tax rate was 51.6%, versus 19.6% in 2019; the company attributed the change primarily to non-deductible IPR&D expense and tax benefits from increased stock-option exercises. Q2’s reported effective rate was 5.0%.
- On July 22, 2020, the company initiated a voluntary Class II recall of specific ALTERA Spacers lots due to certain internal components made from stainless steel rather than the specified alloy. No related adverse reactions had been reported by filing date. Globus accrued approximately $1.3 million in Q2 costs and expected replacement of affected inventory to take about eight weeks.
- A patent-infringement action brought by Moskowitz Family LLC seeks unspecified damages and injunctive relief. The company said the probable outcome and potential loss range could not be determined and recorded no accrual.
Outlook, risks and contingencies
Management provided no numerical revenue or earnings guidance. It expects COVID-19 restrictions and deferred elective procedures to continue to pressure results, and noted potential higher inventory, changed customer payment terms and tax-rate variability. Management said it believed the company was positioned to sustain and grow the business as restrictions lift and procedures resume, while emphasizing that the duration and severity of the pandemic were not reasonably estimable. Other stated risks include competition, reimbursement and pricing pressure, product development and regulatory challenges, and litigation. The company reported effective disclosure controls as of June 30, 2020.
Important facts for investors to verify
- Whether elective procedure volumes and sales cycles recovered, and how COVID-19 affected subsequent revenue, margins and cash flow.
- Whether the replacement credit facility was completed after the prior revolving facility expired, and on what terms.
- The full financial and operational effects of the ALTERA recall, including replacement costs, timing and any additional reported issues.
- Whether elevated inventory and excess-and-obsolete provisions persisted as demand changed.
- Developments in the Moskowitz patent litigation and any resulting accrual, settlement, injunction or business impact.
- How much of the GAAP/non-GAAP earnings gap reflects recurring costs, and whether non-GAAP adjustments provide a useful view of ongoing performance.