Align Technology, Inc. — Q2 2018 Form 10-Q
Reporting period: Three and six months ended June 30, 2018; comparisons are with the corresponding 2017 periods. Unaudited results. Align sells clear aligners and related products and services, including Invisalign, and intraoral scanners and services, including iTero.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Revenue | $490.3 million | $356.5 million | $927.2 million | $666.8 million |
| Gross profit / margin | $365.6 million / 74.6% | $270.9 million / 76.0% | $693.0 million / 74.7% | $506.5 million / 76.0% |
| Operating income / margin | $122.7 million / 25.0% | $83.6 million / 23.4% | $220.9 million / 23.8% | $145.2 million / 21.8% |
| Net income | $106.1 million | $69.2 million | $202.0 million | $138.6 million |
| Diluted EPS | $1.30 | $0.85 | $2.48 | $1.70 |
- Q2 revenue increased 37.5% year over year; six-month revenue increased 39.0%. Clear Aligner revenue rose 35.0% in Q2, while Scanner revenue rose 60.9%. Clear Aligner case volume increased 33.0% in Q2.
- Q2 gross margin declined 1.4 percentage points, primarily reflecting Clear Aligner manufacturing expansion and more aligners per case; Scanner margin improved on manufacturing efficiencies and higher average selling prices. Operating margin increased as revenue growth outpaced operating expense growth.
- Q2 other expense was $7.1 million, versus other income of $1.8 million a year earlier, mainly due to foreign exchange losses, partly offset by forward-contract gains. Q2 effective tax rate was 6.6%, versus 17.7%, reflecting the lower U.S. corporate tax rate and stock-based compensation tax benefits. Excess tax benefits were $16.6 million for Q2 and $39.9 million for the six-month period.
Cash flow, liquidity and obligations
- Six-month operating cash flow was $217.1 million, up from $158.1 million. Investing activities provided $54.0 million, including marketable-security maturities and repayment of a $30.0 million SDC loan; capital expenditures were $115.3 million. Financing used $170.7 million, including $100.0 million of share repurchases and $79.3 million of employee tax withholding on vested shares.
- At June 30, cash and cash equivalents were $548.0 million and marketable securities were $172.7 million, totaling $720.7 million, compared with $761.5 million at December 31, 2017. Current assets were $1.261 billion and current liabilities $566.6 million. Total liabilities were $697.6 million.
- No borrowings were outstanding under the $200 million revolving credit facility, which matures in February 2021. Management said existing liquidity and borrowing capacity should fund operations for at least 12 months.
- Management expected $100–$120 million of additional capital expenditures during the remainder of 2018, primarily for manufacturing capacity. The company had approximately $82.2 million of minimum future operating-lease payments and a supplier agreement requiring approximately $425.9 million of minimum aligner-material purchases over five years.
Changes, outlook and notable matters
- Growth was led by higher case volume across regions and increased scanner sales. International Clear Aligner revenue rose 54.7% in Q2, compared with 24.1% growth in the Americas. Management expects international revenue to grow faster than Americas revenue for the foreseeable future, citing market opportunity and continued investment; this is not a quantified forecast.
- Management expects 2018 expenses to increase with international expansion, product development, manufacturing capacity, legal activity, sales and marketing, and customer support. New or expanded offerings included Invisalign First and a broader Invisalign portfolio, as well as iTero Element 2 and Element Flex; iTero also launched in China. Management cautioned that product adoption rates are uncertain.
- In July 2018, Align completed the prior repurchase program with an additional $100 million share repurchase. A new program authorizes up to $600 million; none had been repurchased under that program by June 30.
- The SDC entities seek to restrict Align’s Invisalign store pilot and other relief. A court denied their request for a temporary injunction in June; arbitration was scheduled for December 2018. Align could not estimate the likelihood or amount of any loss. The supply agreement, including minimum volume commitments, remained in place through 2019.
- Align’s patent cases against 3Shape seek, among other relief, to restrict U.S. imports of products alleged to infringe Align patents. Management said other legal matters were not expected to materially affect results, but outcomes remain uncertain.
- Key risks include competition and patent expirations, dependence on Invisalign and average selling prices, international and foreign-exchange exposure, manufacturing capacity and single-source suppliers, product adoption, and privacy, cybersecurity and regulatory compliance. The company estimated that a 10% aggregate currency-rate change could materially affect results and financial position.
- ASC 606 revenue guidance was adopted retrospectively in 2018; the filing says it did not materially affect historical statements of operations, comprehensive income or cash flows. The company expected adoption of the new lease standard in 2019 to materially increase balance-sheet assets and liabilities.
Investor verification points
- Assess whether case-volume growth and international expansion can continue, and whether lower Americas average selling prices and Clear Aligner margin pressure persist.
- Track scanner growth, manufacturing efficiency, and execution of planned capacity investments and new facilities.
- Review the SDC arbitration, ongoing patent litigation, and implications for the store pilot and supply relationship.
- Monitor the $425.9 million supplier minimum-purchase commitment, capital spending, and use of the new share-repurchase authorization.
- Evaluate sensitivity to foreign exchange, tax estimates and unrecognized tax benefits; the filing reports $53.2 million of gross unrecognized tax benefits at June 30, 2018.