Integer Holdings Corporation: Q2 2016 Form 10-Q Summary
Business context and reporting period
Integer Holdings Corporation, formerly Greatbatch, Inc., is a medical device outsourcing manufacturer serving cardiac, neuromodulation, orthopedic, vascular, advanced surgical and power-solutions markets. The filing covers the 13-week quarter and six months ended July 1, 2016, compared with the periods ended July 3, 2015.
Results include Lake Region Medical from its October 2015 acquisition and include Nuvectra operations through the March 14, 2016 spin-off. The Company changed its name to Integer Holdings Corporation on June 30, 2016.
Key financial metrics
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Sales | $348.4 million | $174.9 million | $680.6 million | $336.2 million |
| Gross profit | $96.0 million | $58.0 million | $187.5 million | $110.3 million |
| Gross margin | 27.6% | 33.1% | 27.5% | 32.8% |
| Operating income | $29.3 million | $13.0 million | $40.4 million | $22.4 million |
| Operating margin | 8.4% | 7.5% | 5.9% | 6.7% |
| Net income (loss) | $(0.8) million | $9.3 million | $(13.4) million | $17.3 million |
| Diluted EPS | $(0.03) | $0.35 | $(0.44) | $0.66 |
| Adjusted EBITDA | $68.9 million | $35.0 million | $130.6 million | $65.5 million |
| Adjusted EBITDA margin | 19.8% | 20.0% | 19.2% | 19.5% |
Sales increased 99% in the quarter and 102% year to date, primarily because Lake Region Medical contributed $204.9 million and $403.2 million, respectively. Excluding acquisitions, divestitures and currency effects, organic constant-currency sales declined 18% in the quarter and 17% year to date.
Six-month cash flow from operations was $33.8 million, compared with $22.5 million in the prior-year period. Capital expenditures were $30.4 million, and net cash used in investing activities was $33.3 million. Cash declined to $36.6 million from $82.5 million at January 1, 2016, primarily reflecting the $76.3 million cash distribution in the Nuvectra spin-off.
Total debt was $1.76 billion at July 1, 2016, including $55.0 million drawn on the revolving facility, $1.39 billion of term loans and $360.0 million of 9.125% senior notes. Available revolving capacity was $134.1 million after letters of credit. Total net leverage was approximately 5.66x and adjusted EBITDA-to-interest coverage was approximately 3.46x; the Company was in compliance with its covenants.
Material changes versus the prior comparable period
- Lake Region Medical added substantial revenue and operating income, but its historically lower margins reduced consolidated gross margin by approximately 2.4 percentage points in the quarter and 3.4 points year to date.
- Organic performance weakened because of reduced shipments in selected cardiac rhythm management programs, customer inventory reductions, contractual price concessions and continued weakness in energy markets.
- Interest expense increased by $26.7 million in the quarter and $53.2 million year to date because of acquisition-related borrowing and the revolving debt used in connection with the spin-off.
- Other operating expenses increased to $15.5 million in the quarter and $36.6 million year to date, including acquisition and integration, consolidation, facility optimization, spin-off and severance costs.
- Adjusted diluted EPS declined to $0.56 from $0.73 in the quarter and to $0.90 from $1.37 year to date, despite contributions from Lake Region Medical and reported synergies.
- Three customers represented 45% of quarterly sales and 46% of year-to-date sales, compared with 50% and 52%, respectively, in the prior-year periods.
Guidance, outlook, risks and unusual items
Management maintained full-year 2016 guidance of revenue of $1.376 billion to $1.396 billion on a GAAP basis and $1.375 billion to $1.395 billion on a comparable adjusted basis. GAAP net income guidance was $9 million to $13 million, or $0.27 to $0.42 per diluted share. Comparable adjusted net income guidance was $82 million to $86 million, or $2.60 to $2.75 per diluted share, with adjusted EBITDA guidance of $295 million to $305 million.
Management expected quarterly sales of approximately $350 million to $360 million for the remainder of 2016, approximately $30 million of 2016 synergies and capital expenditures of $50 million to $60 million. Management stated that CRM and non-medical markets were stabilizing, while continuing to prioritize working-capital reductions, debt repayment, integration and cost reduction without reducing research and development programs.
- Acquisition and integration expenses totaled $17.8 million year to date; total Lake Region Medical integration costs were expected to reach $40 million to $50 million.
- The Company expected 2016 other operating expenses of approximately $55 million to $65 million and continued facility consolidation and manufacturing-transfer initiatives.
- A jury awarded Integer $37.5 million in damages in patent litigation against AVX, but no gain had been recognized because no cash had been received and post-trial proceedings or appeal remained possible.
- Goodwill and intangible assets totaled approximately $2.0 billion. No impairment was recorded, but management noted that weaker future results, cash flows or stock price could create impairment risk.
- Key risks include high leverage, covenant compliance, customer concentration, pricing pressure, product and regulatory matters, integration execution, foreign currency and interest-rate exposure, and medical-device product liability or recalls.
- A 100-basis-point increase in LIBOR was estimated to increase annual interest expense by approximately $6.4 million on unhedged variable-rate debt. The Company also entered into a $200 million interest-rate swap effective in 2017 and disclosed an additional $250 million swap entered into after quarter-end.
Important facts for investors to verify
- Whether organic sales and gross-margin trends improve after the CRM, customer inventory and energy-market disruptions.
- Progress toward the $30 million 2016 synergy target and the longer-term $60 million annual run-rate target.
- Debt paydown, interest expense, leverage and compliance with covenant step-downs beginning in the fourth quarter of 2016.
- Conversion of operating cash flow into debt reduction, particularly through inventory and working-capital management.
- Final accounting and segment-reporting conclusions following the Lake Region Medical acquisition and Nuvectra spin-off.
- Resolution or appeal status of the AVX patent award and any potential environmental, regulatory or product-liability developments.
- The extent to which adjusted results rely on recurring exclusions, including amortization, integration, consolidation and other unusual charges.