Waters Corporation — FY2016 Form 10-K
Reporting period: Fiscal year ended December 31, 2016; fourth-quarter results are noted separately. Waters designs, manufactures, sells and services analytical instruments and related products, including liquid chromatography, mass spectrometry, thermal analysis instruments, chemistry consumables, software and service plans. Its Waters and TA operating segments are aggregated into one reportable segment.
Financial performance and liquidity
- Revenue: $2.167 billion, up 6% from $2.042 billion in 2015. Product sales rose 5% to $1.460 billion; service sales rose 8% to $707 million.
- Profit: Operating income was $624 million, up 10%, with an operating margin of 28.8% versus 27.8%. Net income increased 11% to $522 million; diluted EPS was $6.41, up 13% from $5.65.
- Cash flow: Operating cash flow was $629 million, compared with $560 million in 2015. Capital expenditures and capitalized software totaled $95 million. Cash and cash equivalents increased $18 million during the year.
- Liquidity: Cash, cash equivalents and investments totaled $2.813 billion at year-end; working capital was $3.115 billion. Management said available cash, expected cash flows and committed borrowing capacity were sufficient for anticipated needs.
- Debt: Total debt was $1.827 billion, up from $1.668 billion. The company had $468 million available under its committed credit facility and reported compliance with debt covenants. Most cash and investments—$2.766 billion—were held by foreign subsidiaries and may incur material tax effects if distributed to U.S. entities.
- Capital allocation: Waters repurchased $318 million of stock in 2016; $123 million remained authorized under the May 2014 program. It had not paid dividends and reported no current plan to do so.
Changes versus 2015 and fourth-quarter results
- Growth accelerated from 3% in 2015 to 6% in 2016. Foreign currency translation reduced sales growth by 1% in 2016, compared with a 6% reduction in 2015.
- Recurring revenue—chemistry consumables and services—grew 8%; instrument systems grew 4%. Waters service revenue rose 8%, while TA instrument-system sales were flat and total TA sales increased 2%.
- Pharmaceutical sales grew 9%; industrial sales grew 6%. Governmental and academic sales declined 4%. Asia led regional growth at 13%, including 19% growth in China; U.S. sales rose 1% and European sales rose 4%.
- Operating cash flow improved by $69 million. Operating margin expanded by 1.0 percentage point. Diluted weighted-average shares declined to 81.4 million from 83.1 million, alongside substantial repurchases.
- Fourth quarter: Revenue was $629 million versus $587 million in Q4 2015; operating income was $208 million versus $181 million; net income was $174 million versus $151 million; diluted EPS was $2.15 versus $1.84. The fourth quarter included a $3.5 million litigation provision.
Outlook, commentary and key risks
- Management expected foreign-exchange translation to weigh on 2017 sales growth at then-current rates; it also expected currency effects could pressure gross profit as the British-pound cost benefit was offset by weakness in other major currencies. The filing provides no numerical 2017 revenue or earnings guidance.
- Management attributed 2016 growth chiefly to pharmaceutical demand, followed by industrial-market growth, and cited higher instrument utilization and a larger installed base as drivers of recurring revenue. U.S. governmental and academic demand remained weak; TA instrument-system demand was also softer.
- Approximately 69% of 2016 sales were outside the U.S. Currency movements, Brexit-related uncertainty, China’s procurement restrictions for government-funded customers, customer capital-spending cycles and pharmaceutical-market conditions could affect results.
- Cash concentration offshore is a liquidity consideration: repatriation may have tax costs, while substantial U.S. cash needs include debt service, operations, investment and repurchases. Debt agreements impose financial-ratio tests and other covenants.
- The 0% Singapore contractual tax rate through March 2021 depends on operational and financial milestones. Waters said it expected to meet them; failure could trigger tax at the statutory rate, currently 17%, on qualifying income dating back to April 1, 2016. The benefit added $23 million to 2016 net income, or $0.29 per diluted share.
- Other disclosed risks include competitive and technology changes, product or software defects and cybersecurity incidents, dependence on suppliers and manufacturing sites, regulatory and intellectual-property matters, tax audits, and pension assumptions. Management considered pending litigation outcomes not material, while recording $4 million of litigation provisions and related costs in both 2016 and 2015.
Investor verification priorities
- Confirm the sustainability of 2016 growth and margins, particularly the strength of pharmaceutical and Asian demand versus flat TA instrument sales and declining governmental and academic sales.
- Assess the availability and potential tax cost of overseas cash, the maturity and refinancing profile of debt, and headroom under the credit covenants.
- Track the Singapore tax-holiday milestones and any change to the associated tax benefit.
- Review actual 2017 currency impacts against management’s stated expectations and the absence of numerical guidance in this filing.
- Evaluate the effect of share repurchases on per-share growth and the company’s capacity to fund investment, acquisitions and debt obligations.