Varex Imaging Corporation — FY2019 Form 10-K
Reporting period: Fiscal year ended September 27, 2019 (52 weeks). The filing also provides unaudited fourth-quarter results. Varex designs and manufactures X-ray imaging components for medical, industrial inspection, and security systems; its two reportable segments are Medical and Industrial.
Financial results and liquidity
| Metric | FY2019 | FY2018 |
|---|---|---|
| Revenue | $780.6 million | $773.4 million |
| Gross margin | $256.7 million; 32.9% | $253.9 million; 32.8% |
| Operating earnings | $45.7 million | $44.5 million |
| Net earnings attributable to Varex | $15.5 million; diluted EPS $0.40 | $27.5 million; diluted EPS $0.72 |
| Cash from operations | $71.9 million | $85.3 million |
| Capital expenditures | $19.8 million | $20.4 million |
- Fourth-quarter revenue was $202.4 million, gross margin $71.6 million, net earnings $8.2 million, and diluted EPS $0.21. Compared with Q4 FY2018, revenue declined from $204.8 million, while gross margin increased from $59.3 million and net earnings from $0.7 million.
- FY2019 gross margin was nearly flat year over year; operating earnings rose modestly, but net earnings fell 44% as interest and other expense increased and the prior year included a tax benefit. Annual net margin was approximately 2.0% and operating margin approximately 5.9%.
- Cash and cash equivalents were $29.9 million, down from $51.9 million. Working capital was $263.3 million, down from $306.1 million. Debt was $400.8 million gross and $395.1 million net of debt issuance costs, including $30.7 million of current maturities. The company reported $91.0 million of revolver availability at year-end; the commitment was subsequently reduced by $25 million to $125 million.
- Backlog was $265.2 million, down 13.9% from $308.1 million. Management said most remaining performance obligations were expected to be recognized within 12 months.
Changes and business drivers
- Total revenue increased 1%. Medical revenue declined 1% to $596.8 million, primarily reflecting lower China detector sales and non-OEM replacement tube sales. Industrial revenue rose 7% to $183.8 million, including stronger airport-security tube and inspection-detector sales.
- By region, Americas revenue increased 2%, EMEA increased 6%, and APAC declined 6%, mainly because of lower radiographic detector sales in China. China represented about 8% of revenue, versus 10% in FY2018.
- Varex acquired 98.2% of Direct Conversion AB in April 2019 for total consideration of $79.4 million, expanding its photon-counting detector offering. The acquisition contributed $6.3 million of revenue from closing through year-end.
- Research and development expense declined to $78.1 million from $83.0 million; SG&A rose to $128.1 million from $123.4 million. SG&A included higher audit, consulting, and patent-litigation costs.
Outlook, risks, and unusual items
- No formal revenue or earnings guidance is provided. Management describes long-term R&D spending of approximately 8%–10% of annual revenue as an appropriate range and says operating cash flow, working capital, and credit availability should support operations and investment needs.
- Trade tensions and tariffs have raised costs, driven price concessions, and reduced sales in China; management expected continued negative effects. Radiographic detector price erosion, a strong U.S. dollar, and customer purchasing variability also pressure demand and margins.
- Customer concentration is material: Canon Medical Systems represented 17.3% of FY2019 revenue and 10.1% of year-end receivables; the five largest customers accounted for about 38% of revenue. Sole- and limited-source components, including supplies from dpiX, create supply-chain exposure.
- Varex announced closure of its Santa Clara facility, with operations expected to cease by December 2020 and closure activities to finish by March 2021. FY2019 restructuring charges were $18.9 million; the company expected an additional $8.1–$12.1 million through March 2021. The closure also prompted a $4.8 million intangible-asset impairment.
- Management and the auditor identified material weaknesses in risk assessment, control environment, revenue, inventory, and financial-close controls. Management reported immaterial audit and out-of-period adjustments; the auditor gave an unqualified opinion on the financial statements but an adverse opinion on internal control over financial reporting. Remediation was ongoing and not yet considered complete.
- The 10-K was filed late. Varex said filing within the credit agreement’s 30-day cure period would prevent an event of default; it also disclosed temporary ineligibility to use Form S-3 for securities offerings. The company said it would regain Nasdaq compliance upon filing.
- Other notable exposures include floating-rate debt (with $264.4 million hedged by interest-rate swaps), legal and patent matters, product liability, regulatory requirements, and an approximately $0.9 million environmental liability. The filing reported no contingent liabilities at year-end.
Investor verification priorities
- Track remediation and independent testing of the material weaknesses, particularly revenue recognition, inventory valuation, and financial close.
- Assess backlog conversion, customer ordering trends, and the effects of tariffs and detector price erosion on margins and China sales.
- Monitor debt covenant headroom, revolver availability, cash generation, and refinancing or repayment needs through the 2022 credit-facility maturity.
- Verify actual Santa Clara exit costs and production-transfer execution against the disclosed additional restructuring estimate.
- Review Direct Conversion integration and acquisition accounting, including final purchase-price allocations and expected commercial contribution.