Integer Holdings Corporation: Q1 2018 Form 10-Q Summary
Business Context and Reporting Period
Integer Holdings Corporation is a medical-device outsource manufacturer serving cardiac, neuromodulation, orthopedic, vascular, advanced surgical and portable medical markets. It also develops batteries for niche energy, military and environmental applications. Reportable segments are Medical and Non-Medical.
The filing covers the 13-week quarter ended March 30, 2018, compared with the 13-week quarter ended March 31, 2017. The interim financial statements are unaudited and prepared under U.S. GAAP.
Key Financial Metrics
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Sales | $381.7 million | $345.4 million | 10.5% increase |
| Gross profit | $95.8 million | $91.2 million | 5.0% increase |
| Gross margin | 25.1% | 26.4% | Down 1.3 percentage points |
| Operating income | $34.7 million | $26.5 million | 30.8% increase |
| Operating margin | 9.1% | 7.7% | Up 1.4 percentage points |
| Net income (loss) | $8.1 million | $(4.3) million | Improved by $12.5 million |
| Diluted EPS | $0.25 | $(0.14) | Improved by $0.39 |
| Adjusted diluted EPS | $0.61 | $0.41 | Up 49% |
| Adjusted EBITDA | $68.8 million | $64.3 million | Up 7.1% |
Sales growth was led by Medical segment sales of $369.0 million, up 10.5%. Cardio & Vascular sales rose 10.6%, Cardiac & Neuromodulation sales rose 4.9%, and Advanced Surgical, Orthopedics & Portable Medical sales rose 15.8%. Non-Medical sales increased 12.0% to $12.7 million.
Foreign currency increased reported sales by approximately $6 million, while management reported organic sales growth of approximately 9%. Gross margin declined because of price concessions to larger OEM customers, product mix and higher incentive compensation, partly offset by production efficiencies, volume and integration synergies.
- Cash flow from operations was $46.1 million, compared with $38.6 million in Q1 2017.
- Capital expenditures were $11.0 million; net cash used in investing activities was $10.1 million.
- Net cash used in financing activities was $51.2 million, including $50.0 million of debt principal payments.
- Cash and cash equivalents declined to $29.5 million from $44.1 million at December 29, 2017.
- Working capital was $304.0 million and the current ratio was 2.35 at March 30, 2018.
- Total debt was $1.562 billion, including $74.0 million drawn on the revolving facility. Revolver availability was $116.8 million after standby letters of credit.
- Debt declined from $1.609 billion at year-end 2017. The company prepaid $43.0 million of its Term Loan B facility during the quarter.
- Total stockholders’ equity increased to $920.4 million from $893.4 million, primarily reflecting net income and other comprehensive income.
Material Changes Versus the Prior Comparable Period
- Revenue increased $36.3 million, supported by broad-based Medical growth, new product ramps, customer demand and favorable currency translation.
- Operating income increased $8.2 million. Other operating expenses fell $6.5 million because Q1 2017 included Lake Region Medical integration costs and leadership-transition expenses.
- Interest expense decreased $2.4 million due primarily to lower debt balances, although the weighted-average borrowing rate increased slightly to 5.80% from 5.77%.
- A $5.0 million net gain on cost and equity method investments in Q1 2018 compared with a $0.4 million net loss in Q1 2017 materially benefited pretax income. Management states that these investment results are unpredictable.
- The effective tax rate was 33.5%, compared with negative 3.4% in Q1 2017. The 2018 rate reflects the expected impact of the Tax Cuts and Jobs Act, including GILTI.
- Other operating expenses were $5.3 million versus $11.8 million, including $3.5 million of strategic reorganization charges and $0.5 million of manufacturing-alignment charges in 2018.
Guidance, Outlook, Risks and Unusual Items
Management increased its 2018 outlook. Guidance was issued before and does not reflect the planned divestiture announced after quarter-end.
| 2018 outlook | GAAP | Non-GAAP |
|---|---|---|
| Sales | $1.510 billion to $1.550 billion | $1.510 billion to $1.550 billion |
| Net income | $50 million to $60 million | $103 million to $113 million |
| Diluted EPS | $1.55 to $1.85 | $3.20 to $3.50 |
| EBITDA | Not provided | $310 million to $320 million adjusted EBITDA |
- Expected 2018 capital expenditures are $50 million to $55 million, approximately half of which management characterizes as discretionary.
- Management expects an approximately 34% 2018 effective tax rate, excluding discrete items, and estimates that GILTI will increase the tax burden while U.S. net operating losses are utilized.
- Strategic reorganization charges are expected to total approximately $10 million to $12 million and be substantially completed by the end of Q2 2018.
- Manufacturing-alignment charges are expected to total $9 million to $11 million, with $4 million to $6 million of capital expenditures, and are expected to be substantially completed by the end of 2019.
- The company remains highly leveraged. Its total net leverage ratio was approximately 4.9x and adjusted EBITDA-to-interest coverage was approximately 3.4x for the relevant trailing period. It was in compliance with its covenants at quarter-end, but higher LIBOR or weaker operating performance could impair compliance and potentially accelerate debt obligations.
- Management identifies risks related to customer concentration, OEM pricing pressure, product quality and liability, recalls, regulatory approvals, intellectual property, suppliers, foreign currency, interest rates, tax-law changes, acquisitions, litigation and execution of restructuring initiatives.
- In the AVX patent litigation, the court vacated the prior $37.5 million damage award on March 30, 2018 and ordered a damages retrial scheduled for January 2019. Integer has recognized no litigation gain.
- On May 3, 2018, Integer agreed to sell its Advanced Surgical and Orthopedic product lines to MedPlast for $600 million in cash, subject to regulatory and customary closing conditions. The company expects to use net proceeds to accelerate debt repayment and reduce leverage.
Most Important Facts for Investors to Verify
- Whether the MedPlast divestiture closes on the expected timeline and how the transaction changes revenue, earnings, assets and debt reduction.
- Progress toward the 2018 sales, adjusted EBITDA, EPS and cash-flow outlook, particularly because the published guidance excludes the planned divestiture.
- Debt paydown, interest-rate exposure, available revolver capacity and compliance with leverage and interest-coverage covenants as covenant thresholds step down.
- Whether price concessions, product mix and incentive compensation continue to pressure gross margin.
- Actual cash costs and savings from the strategic reorganization, manufacturing alignment and consolidation programs.
- Resolution and potential financial impact of the AVX damages retrial.
- Final effects of GILTI and other Tax Cuts and Jobs Act provisions on the effective tax rate and adjusted results.