ResMed Inc. — Form 10-Q summary
Reporting period: First quarter of fiscal 2019, the three months ended September 30, 2018. Comparisons are with the three months ended September 30, 2017 unless noted. Figures are in U.S. dollars.
Business context
ResMed designs, manufactures and markets devices and cloud-based software for sleep-disordered breathing and other respiratory disorders. It reports predominantly as one operating segment. The quarter included Healthcarefirst, a home-health and hospice software provider acquired on July 6, 2018 for approximately $126.3 million.
Financial performance and liquidity
| Metric | Quarter / period-end result | Comparison or context |
|---|---|---|
| Net revenue | $588.3 million | Up 12% reported; up 13% at constant currency |
| Devices | $324.1 million | Up 13% reported; up 14% at constant currency |
| Masks and accessories | $216.7 million | Up 9% reported; up 10% at constant currency |
| Software as a Service | $47.5 million | Up 25%; includes Healthcarefirst revenue after acquisition |
| Gross profit / margin | $343.1 million / 58.3% | Gross profit up 12%; margin was 58.4% a year earlier |
| Operating income | $144.1 million | Compared with $112.6 million |
| Net income | $105.7 million | Up 23% from $86.1 million |
| Diluted EPS | $0.73 | Compared with $0.60 |
| Operating cash flow | $48.1 million | Compared with $94.0 million |
| Cash and working capital | $230.2 million cash; $667.1 million working capital | Cash was $188.7 million at June 30, 2018 |
| Debt | $529.6 million total | Net carrying amount; compared with $281.5 million at June 30, 2018 |
Revenue growth primarily reflected higher device, mask and accessory unit sales, partly offset by lower average selling prices. Gross margin was essentially flat as pricing pressure was largely offset by manufacturing and procurement efficiencies. SG&A was $147.3 million, or 25.0% of revenue, versus 27.5% a year earlier; R&D was $38.8 million, or 6.6% of revenue, versus 7.1%.
Operating cash flow declined mainly because income taxes paid rose to $125.0 million from $30.2 million. Investing cash use was $148.2 million, including $126.4 million for the acquisition; capital expenditures were $13.0 million. Financing provided $144.8 million, including net borrowings of $216.9 million; the company paid $52.8 million in dividends and repurchased 200,000 shares for $22.8 million. Cash increased $41.5 million during the quarter.
At September 30, 2018, the company had $529.6 million outstanding under its credit facilities, at a stated interest rate of 3.0%, and reported compliance with debt covenants. The facilities mature in 2023; management said it expects to meet liquidity and long-term debt needs using cash, operating cash generation and debt facilities.
Material changes and unusual items
- Revenue recognition standard ASC 606 was adopted July 1, 2018 using the modified retrospective method. The company reported no material financial-statement impact and no cumulative adjustment.
- Adoption of the intra-entity tax-transfer standard reduced opening retained earnings by $188.8 million as of July 1, 2018, with corresponding asset reclassifications. The reported June 30 balance sheet is not presented on that revised opening basis.
- Debt increased from June 30, partly reflecting borrowing to fund Healthcarefirst. Goodwill rose by $125.0 million from the acquisition; its purchase-price allocation remains preliminary.
- The effective tax rate was 23.9%, versus 20.6%. The company recorded a further $0.5 million provisional tax expense related to U.S. tax reform; it expected to finalize its provisional accounting before December 22, 2018.
- Foreign-currency movements reduced reported revenue by approximately $4.8 million and cash by $3.3 million. Foreign-currency translation loss in other comprehensive income was $12.9 million.
Outlook, risks and contingencies
The filing provides no specific revenue or earnings guidance. Management highlighted continued investment in product development, including $38.8 million of R&D spending, and described growth as supported by unit sales and geographic expansion. Forward-looking results remain subject to healthcare reform, competition, execution, economic and regulatory changes, and other risks identified in the company’s prior annual report.
The Australian Taxation Office asserted $151.7 million of additional tax, $38.4 million of interest and $75.9 million of penalties relating to tax years 2009–2013. ResMed had paid $75.9 million, recorded it as a receivable, disputes the assessments and said it believes it is more likely than not to prevail. If unsuccessful, it could lose the amount paid and owe the remaining asserted tax, interest and penalties. The ATO is also reviewing and auditing tax years 2014–2017.
ResMed disclosed ongoing patent disputes with Fisher & Paykel Healthcare, including U.S. International Trade Commission proceedings, and a German judgment of infringement against headgear used on certain Fisher & Paykel masks. It said adverse outcomes could result in damages, royalties, product restrictions or other costs. The company also continues to respond to U.S. government subpoenas concerning offerings and practices involving patient resupply software, discounts, leasing, diagnostic devices and masks; investigations could lead to penalties or operational restrictions. Management said routine litigation was not expected to have a material adverse effect overall. No material changes to previously disclosed risk factors were reported.
Important facts for investors to verify
- Whether device and mask unit growth can continue while average selling prices face pressure and gross margin remains stable.
- The cash-flow trend, particularly the timing and level of tax payments, and the effect of acquisition-related spending.
- The final Healthcarefirst purchase-price allocation and its contribution to SaaS growth and results.
- The resolution and potential financial exposure of the ATO dispute, U.S. tax accounting, Fisher & Paykel litigation and government investigations.
- Debt levels, variable-rate exposure and covenant headroom; the filing does not state a clear numerical covenant headroom value.