Business Context and Reporting Period
Phibro Animal Health Corporation is a global developer, manufacturer and marketer of animal health, mineral nutrition and performance products. This unaudited Form 10-Q covers the three months ended September 30, 2019, compared with the three months ended September 30, 2018. Results are not necessarily indicative of the full fiscal year.
Key Financial Metrics
| Metric | Q1 FY2020 | Q1 FY2019 | Change |
|---|---|---|---|
| Net sales | $189.7 million | $200.2 million | Down 5% |
| Gross profit | $57.7 million | $65.8 million | Down 12% |
| Gross margin | 30.4% | 32.9% | Down 250 basis points |
| Operating income | $10.1 million | $22.9 million | Down 56% |
| Net income | $2.5 million | $16.3 million | Down 85% |
| Diluted earnings per share | $0.06 | $0.40 | Down $0.34 |
| Adjusted EBITDA | $19.7 million | $30.1 million | Down 35% |
| Adjusted EBITDA margin | 10.4% | 15.0% | Down 460 basis points |
SG&A increased 11% to $47.5 million, or 25.0% of sales, from $43.0 million, or 21.5% of sales. Net interest expense increased 21% to $3.4 million, primarily because of higher Revolver borrowings. Foreign currency results shifted from a $2.6 million gain in the prior-year quarter to a $3.2 million loss, principally reflecting intercompany balances and Argentine currency devaluation. The effective tax rate was 29.6%, compared with 28.1%.
Segment Performance
- Animal Health: Sales declined 7% to $121.9 million and Adjusted EBITDA declined 30% to $25.1 million. MFAs and other sales fell 14%, primarily due to reduced demand associated with African Swine Fever in China and international customer ordering patterns. Nutritional specialties increased 13%, with approximately one-half of the growth attributed to Osprey. Vaccine sales declined 5%; excluding the loss of a domestic distribution arrangement, vaccine sales would have increased approximately 5%.
- Mineral Nutrition: Sales declined 4% to $52.6 million, while Adjusted EBITDA increased 36% to $3.5 million. Favorable raw material costs and product mix offset lower average selling prices.
- Performance Products: Sales increased 8% to $15.2 million and Adjusted EBITDA increased 19% to $0.9 million, primarily from higher personal care ingredient volumes.
Cash Flow, Liquidity and Debt
- Operating activities used $3.6 million of cash, compared with $1.3 million provided in the prior-year quarter. Working-capital uses included $9.1 million for inventory, $11.8 million from accounts payable timing and $7.4 million from accrued liabilities, partly offset by $14.1 million of collections on accounts receivable.
- Investing activities used $62.5 million, including $54.6 million for the Osprey acquisition and $7.7 million of capital expenditures.
- Financing activities provided $63.9 million, including $72.0 million of net Revolver borrowings. Dividends paid were $4.9 million.
- Cash and cash equivalents were $54.9 million at September 30, 2019, and cash plus short-term investments totaled $78.9 million. Working capital was $248.7 million and the reported current-asset-to-current-liability ratio was 2.94:1.
- Revolver borrowings were $168.0 million, with $3.0 million of letters of credit and $79.0 million available under the $250.0 million facility. Term A debt was $228.1 million before unamortized debt costs and discounts. The credit facilities mature June 29, 2022, and the company was in compliance with its financial covenants at quarter-end.
Material Changes and Unusual Items
- In August 2019, Phibro acquired Osprey Biotechnics for $54.6 million in cash. The acquisition added $32.1 million of definite-lived intangible assets and $25.6 million of goodwill. A future performance-based payment was recorded at $7.6 million, with a minimum payment of $4.8 million and no maximum limit.
- Q1 FY2020 included $0.3 million of acquisition-related cost of goods sold, $0.5 million of acquisition-related transaction costs, $0.4 million of restructuring costs and $0.6 million of stock-based compensation.
- The company continued restructuring activities initiated in the prior quarter. The restructuring liability was $4.7 million at September 30, 2019, and management expected approximately $0.5 million of additional employee-separation charges by December 31, 2019.
- Phibro adopted the new lease standard, ASC 842, on July 1, 2019. The adoption added $20.8 million of operating lease right-of-use assets and $21.8 million of operating lease liabilities, without requiring an opening retained-earnings adjustment.
Outlook, Risks and Contingencies
Management stated that cash on hand, operating cash flows, Revolver availability and foreign credit lines are expected to support ongoing needs and that its operating plan projects adequate liquidity. The filing provides no specific revenue, earnings or Adjusted EBITDA guidance. Management cautioned that adverse operating results, covenant violations, economic disruptions or reduced access to financing could impair liquidity.
- Key operating risks include African Swine Fever and other animal-disease trends, restrictions on antibacterials, customer consolidation, competition, product approval and efficacy risks, raw-material price and supply volatility, weather, and international currency movements.
- The company is subject to environmental investigations and remediation obligations, including the Omega Chemical Site groundwater matter. Recorded environmental liabilities were approximately $5.9 million, but the ultimate liability for the groundwater matter could not be estimated with reasonable certainty.
- PAHC and its subsidiaries face ordinary-course product liability, payment, regulatory and other litigation claims. Management believes existing claims will not materially affect financial position, results of operations, cash flows or liquidity, although outcomes are uncertain.
- Disclosure controls and procedures were not effective as of September 30, 2019 because of material weaknesses in internal control over financial reporting identified in the prior Form 10-K. Remediation efforts were ongoing, but the company could not determine when they would be completed or assure their success.
Important Facts for Investors to Verify
- Whether the decline in MFAs demand, particularly related to African Swine Fever in China, persists or reverses.
- Whether Animal Health margins and Adjusted EBITDA recover after the quarter’s volume, mix and strategic-investment pressures.
- The integration, contribution and ultimate contingent payment associated with the Osprey acquisition.
- Revolver utilization, covenant headroom and the company’s ability to fund acquisitions, capital expenditures and dividends.
- Progress and effectiveness of remediation of the material weaknesses in internal control over financial reporting.
- The eventual scope and cost of environmental investigations, remediation and related litigation.
- The company’s ability to generate positive operating cash flow after working-capital needs and acquisition spending.