CONMED Corporation — 2018 Q1 Form 10-Q Summary
Business context and reporting period
CONMED is a medical technology company providing surgical devices and equipment for minimally invasive procedures, serving orthopedic, general surgery, gynecology, neurosurgery and gastroenterology markets. The filing covers the three months ended March 31, 2018; financial statements are unaudited.
Products are reported as one operating segment, with orthopedic surgery and general surgery product lines. Approximately 80% of revenue came from single-use products, and international sales represented approximately 47% of revenue.
Financial performance and liquidity
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Net sales | $202.1 million | $186.6 million | 8.3% increase |
| Gross profit | $109.6 million | $99.9 million | 9.7% increase |
| Gross margin | 54.2% | 53.5% | 0.7 percentage-point increase |
| Income from operations | $17.3 million | $(2.5) million | Improved by $19.8 million |
| Net income | $10.7 million | $(4.5) million | Improved by $15.2 million |
| Diluted EPS | $0.37 | $(0.16) | Improved by $0.53 |
| Operating cash flow | $25.0 million | $15.3 million | Increase of $9.7 million |
Orthopedic surgery sales increased 4.9% to $108.9 million, primarily from sports medicine and new products. General surgery sales increased 12.6% to $93.2 million, supported by growth across product offerings, new products and continued strong AirSeal sales. Adjusted sales growth, measured in constant currency and excluding the revenue-recognition presentation change, was 6.8%.
Operating margin improved to 8.6% from negative 1.3%, while net margin improved to 5.3% from negative 2.4%. Selling and administrative expense declined to $84.6 million from $94.8 million, primarily because Q1 2017 included litigation, restructuring and acquisition-related costs. Research and development expense was $7.7 million versus $7.6 million. Interest expense increased to $4.8 million from $4.1 million as the weighted-average borrowing rate increased to 3.93% from 3.21%.
Cash and cash equivalents were $21.1 million at March 31, 2018, compared with $32.6 million at December 31, 2017. Net cash used in financing activities was $33.3 million, including $25.0 million of net revolver repayments, $3.3 million of term-loan repayments and $5.6 million of dividends. Capital expenditures were $3.8 million; management expected approximately $15.0 million of capital expenditures for full-year 2018.
Total debt consisted primarily of $154.2 million outstanding under the term loan and $302.0 million under the revolving facility, plus a $2.4 million mortgage note. Revolving-facility availability was $219.8 million, with approximately $3.2 million reserved for letters of credit. The company reported compliance with debt covenants as of March 31, 2018.
Material changes versus the prior comparable period
- Revenue increased 8.3%, with particularly strong general surgery growth.
- Profitability improved substantially because Q1 2017 included $12.2 million related to the SurgiQuest-Lexion litigation verdict, approximately $2.0 million of other legal costs, $1.2 million of operational restructuring costs, $1.3 million of selling and administrative restructuring costs and $0.5 million of acquisition-related costs.
- Gross margin increased 0.7 percentage points, reflecting favorable foreign exchange, lower restructuring costs and product mix, partially offset by the new revenue presentation and product mix effects.
- Interest expense rose because of higher borrowing rates.
- Operating cash flow increased, while cash declined because of debt repayments, dividends and capital expenditures.
Guidance, outlook, commentary, risks and unusual items
Management stated that operating cash flow, cash on hand and available borrowing capacity should be adequate for anticipated working capital, debt service, capital expenditures and share repurchases in the foreseeable future. No specific revenue or earnings guidance was provided in the filing.
The company adopted the revenue-recognition standard effective January 1, 2018 using the modified retrospective method. The adoption did not materially affect net income or earnings per share, but $1.9 million of administrative fees were presented as a reduction of revenue in Q1 2018 rather than as selling and administrative expense. The company also recorded a $0.4 million net-of-tax cumulative adjustment to beginning equity for capitalized contract acquisition costs.
A $10.0 million earn-out obligation associated with a prior asset acquisition became probable during Q1 2018 and was recorded in other current liabilities. The company had no restructuring, acquisition or legal expense during Q1 2018.
The company retained accruals associated with the SurgiQuest-Lexion matter, including the $2.2 million compensatory and $10.0 million punitive verdict. Post-verdict motions remained pending, and the company was evaluating its appeal options. A separate EndoDynamix dispute involves a seller claim seeking approximately $12.7 million in accelerated contingent and royalty payments; the company disputes the claim.
Key risks include medical-device regulation, product liability, patent and other litigation, FCPA and other enforcement actions, cybersecurity, foreign exchange and interest-rate movements, competition, product acceptance, acquisition integration, material availability, allograft tissue supply and future indebtedness. The company reported that no pending claims or investigations were expected to have a material adverse effect, while noting that future outcomes cannot be assured.
Forward contracts hedged foreign currency exposures. Cash-flow-hedge notional amounts were $131.2 million, with $1.9 million of net unrealized losses expected to be recognized in earnings during 2018 and 2019.
Important facts for investors to verify
- Whether revenue growth and margin improvement continue after excluding the favorable comparison with Q1 2017 litigation and restructuring charges.
- The status and ultimate cost of the SurgiQuest-Lexion litigation and the EndoDynamix contingent-payment dispute.
- Progress toward the stated $15.0 million 2018 capital-expenditure expectation and the company’s debt-repayment capacity.
- Exposure to rising interest rates, given the variable-rate senior credit facilities and higher Q1 borrowing costs.
- The final accounting effects of the 2017 Tax Cuts and Jobs Act, including GILTI and related deferred-tax matters.
- The impact of the new revenue-recognition presentation on period-to-period sales comparisons and reported selling and administrative expense.
- Execution of new products, AirSeal growth, international sales and the availability of sports medicine allograft tissue.