Orthofix Medical Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended September 30, 2020. Orthofix is a global musculoskeletal medical-device company, operating through Global Spine and Global Extremities and selling in more than 70 countries. Amounts below are U.S. dollars.
Financial performance and liquidity
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Net sales | $111.0m | $113.5m | $288.9m | $338.5m |
| Gross profit / margin | $84.7m / 76.4% | $88.6m / 78.1% | $216.1m / 74.8% | $264.0m / 78.0% |
| Operating income (loss) | $4.2m | ($18.9m) | ($10.0m) | ($22.9m) |
| Net income (loss) | $4.7m | ($40.5m) | $11.9m | ($40.1m) |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $52.0m | $20.1m |
| Free cash flow (non-GAAP) | Not provided for quarter | Not provided for quarter | $39.3m | $5.2m |
- Q3 sales declined 2.2% year over year but increased 52% sequentially, according to management. Nine-month sales fell 14.6%, primarily reflecting COVID-related declines in elective procedures.
- Q3 operating performance improved substantially year over year, including a $22.5m reduction in acquisition-related amortization and remeasurement expense. Nine-month operating loss also narrowed, but the $17.8m income-tax benefit contributed materially to reported nine-month net income; it included benefits from expired statutes of limitations on uncertain tax positions.
- Q3 gross margin contracted 1.7 percentage points year over year; the nine-month margin declined 3.2 points. Management cited lower sales, reduced fixed-cost absorption and noncash inventory charges.
- At September 30, cash and cash equivalents were $79.8m, restricted cash $0.5m, current assets $254.7m and current liabilities $93.4m. Total assets were $517.1m and shareholders’ equity $354.9m.
- No revolving-credit borrowings or long-term debt were outstanding at quarter-end. Orthofix borrowed and repaid $100m on its $300m secured revolver during 2020 and reported covenant compliance. Finance-lease liabilities totaled $23.0m; total lease liabilities, including operating leases, were $28.1m.
Business trends and changes versus prior periods
- Q3 Global Spine sales were $87.8m, down 0.3%; Global Extremities sales were $23.2m, down 8.8%. For nine months, Global Spine declined 13.6% and Global Extremities 18.4%.
- Within Q3 Global Spine, Spinal Implants grew 11.1%, including U.S. Motion Preservation sales of $5.2m, up 44% sequentially and more than 400% year over year. Bone Growth Therapies fell 3.6% and Biologics fell 6.5%.
- Nine-month EBITDA, a non-GAAP measure used by management, was $18.4m versus negative $13.5m. Q3 EBITDA was $15.0m versus negative $20.8m. Improvement reflected, in part, lower corporate costs and reduced contingent-consideration remeasurement charges.
- Operating cash flow increased to $52.0m from $20.1m. The 2020 amount included a $13.9m CMS advance payment, working-capital changes and tax-related items. Investing cash outflow was $42.9m, including the FITBONE acquisition and Neo Medical investment; capital expenditures were $12.7m.
Outlook, commentary, risks and unusual items
- No quantified full-year revenue or earnings guidance is provided. Management says the duration and extent of COVID-19 effects remain uncertain, with risks from renewed elective-procedure restrictions, hospital capacity constraints, patient willingness to seek care, unemployment, supply-chain disruption and counterparty defaults.
- Orthofix received $13.9m under the CMS Accelerated and Advance Payment Program, recorded as a contract liability, and $4.7m in Provider Relief Fund support, recognized as other income. New recoupment terms signed October 1, 2020 defer CMS recoupment until one year after payment, followed by staged reductions in Medicare payments. The company also deferred $2.2m of employer Social Security taxes.
- FITBONE assets were acquired for $18.0m in March; preliminary purchase accounting included $11.3m goodwill. A distributor asset acquisition closed in July for consideration of up to $7.6m.
- On October 1, Orthofix entered a Neo Medical partnership and made a $5.0m preferred-stock investment plus a CHF 4.6m convertible loan (approximately $5.0m as described by the company), bearing 8% interest and maturing in 2024. Management cautions the investment and loan may not be recovered.
- Spinal Kinetics revenue-based contingent consideration was valued at $35.1m, including $14.7m classified current. Its fair value fell $7.6m during the first nine months, mainly because of revised sales forecasts amid COVID-19; actual payments may differ and could reach up to $45m.
- Other exposures include a $6.3m accrual for Italy’s medical-device payback measure, whose implementation remains unclear, and a $1.3m accrual in a Brazilian distributor dispute; approximately $0.5m of Brazilian cash is restricted.
- An FDA advisory panel recommended reclassifying bone-growth-stimulator devices from Class III to Class II. Orthofix warns that any resulting increase in competition could adversely affect future sales. The filing also reports a targeted restructuring liability of $3.7m.
Key facts for investors to verify
- Whether procedure volumes and sales recover or weaken again, especially in Bone Growth Therapies, Biologics and Global Extremities.
- How much of nine-month operating cash flow and free cash flow is sustainable after excluding the CMS advance, working-capital movements and discrete tax effects.
- The assumptions and eventual cash payments for the $35.1m Spinal Kinetics contingent consideration, and the final Italian payback obligation.
- The performance and recoverability of the Neo Medical preferred-stock investment and convertible loan, including the loan’s Swiss-franc exposure and conversion terms.
- Any final FDA reclassification requirements for bone-growth devices and their competitive implications.