West Pharmaceutical Services, Inc. — Q1 2011 Form 10-Q Summary
Business context and reporting period
Unaudited quarterly report for the three months ended March 31, 2011, filed May 5, 2011. West operates through Pharmaceutical Packaging Systems, which supplies packaging components for injectable drug delivery, and Pharmaceutical Delivery Systems, which provides drug-administration systems and contract manufacturing. The company reported 33.5 million common shares outstanding as of April 30, 2011.
Financial performance and condition
| Metric | Q1 2011 | Q1 2010 | Change |
|---|---|---|---|
| Net sales | $295.4 million | $274.7 million | +7.5% |
| Gross profit | $88.0 million | $82.2 million | +7.1% |
| Gross margin | 29.8% | 29.9% | -0.1 percentage points |
| Operating profit | $28.8 million | $28.9 million | Essentially flat |
| Net income | $19.6 million | $19.8 million | -1.0% |
| Diluted earnings per share | $0.56 | $0.57 | -1.8% |
| Operating cash flow | $9.5 million | $11.5 million | -$2.0 million |
Sales increased in both segments: Packaging Systems sales rose 8.5% to $215.8 million, while Delivery Systems sales rose 4.7% to $80.5 million. International sales increased 11.7% to $161.2 million; U.S. sales increased 2.9% to $134.2 million.
Higher volume and favorable product mix supported revenue and gross profit, but raw-material inflation, particularly petroleum-based materials and natural rubber, constrained margins. A $0.9 million unrealized gain on crude-oil hedge contracts added approximately 0.3 percentage points to consolidated gross margin.
R&D expense increased to $6.9 million from $5.4 million, and SG&A increased to $50.6 million from $46.6 million. Higher corporate costs primarily reflected stock-based and deferred compensation expense associated with higher share prices. Net interest expense increased to $4.5 million from $3.9 million.
At March 31, 2011, cash and cash equivalents were $94.6 million, compared with $110.2 million at December 31, 2010. Working capital was $298.3 million, compared with $266.9 million at year-end. Total debt was $371.0 million, including $364.7 million of long-term debt and $6.3 million of current debt. Net debt-to-total invested capital increased to 29.4% from 28.4%. The company had $204.2 million available under its $225.0 million revolving credit facility and was in compliance with debt covenants.
Capital expenditures were $19.4 million. Cash used in investing activities was $29.1 million, including $9.6 million of purchases of short-term investments. The company paid $5.4 million in dividends, or $0.17 per share.
Material changes versus the prior comparable period
- Revenue growth was driven by higher volume, favorable product mix, price increases and a modest favorable currency effect. Management noted that some customer orders deferred from December 2010 contributed to first-quarter demand.
- Segment operating profit improved to $43.8 million from $41.0 million, but consolidated operating profit remained flat because of higher corporate costs and restructuring charges.
- Restructuring and other items increased to $1.7 million from $1.3 million. The restructuring plan involves a U.S. plant closure, reduced operations at an English facility and workforce reductions.
- Operating cash flow declined because of working-capital investment, particularly higher accounts receivable. Accounts receivable increased $34.8 million and inventories increased $10.1 million from December 31, 2010.
- Debt increased $12.6 million from year-end, reflecting $5.7 million of net borrowings and $6.9 million of foreign-exchange effects.
- Other comprehensive income was $20.5 million, largely from favorable foreign-currency translation, compared with an other comprehensive loss of $17.7 million in Q1 2010.
Guidance, outlook, risks and unusual items
- Management expected full-year 2011 capital spending of $110 million to $130 million, compared with $71.1 million in 2010. The range depends substantially on the timing of the planned China expansion.
- Management expected 2011 R&D expense to exceed 2010 levels because of continued investment in advanced packaging, ready-to-use components and drug-injection technologies.
- The company expected its 2011 effective tax rate to remain broadly consistent with the first-quarter rate of 24.9%, absent discrete items or legislative changes.
- Total restructuring charges are expected to be approximately $21.0 million through 2012, comprising approximately $15.0 million of cash costs and $6.0 million of non-cash charges. The company expected approximately $4.0 million during full-year 2011 and $2.5 million during 2012; $16.4 million had been incurred through March 31, 2011.
- West exercised an option to purchase its new corporate office and research facility. Approximately $36.0 million is expected to be paid upon completion, targeted for January 2013, plus approximately $30.0 million of direct capital expenditures over two years. The filing also reports approximately $24.0 million of direct facility capital expenditures in its contractual-obligation discussion.
- The March 11, 2011 Japan earthquake and tsunami caused brief production interruptions at Daikyo, a Japanese affiliate and supplier. Management did not expect a material second-quarter impact unless conditions worsened, but identified risks from power outages, infrastructure damage, radiation effects, supply delays and higher costs.
- Key ongoing risks include demand and customer inventory changes, competition and pricing pressure, regulatory approval of customer products, restructuring execution, raw-material inflation, reliance on suppliers including Daikyo, foreign-exchange movements, healthcare legislation and product-development costs.
- Legal proceedings were described as incidental to normal operations, with no material developments from the 2010 Annual Report. Management stated that current proceedings were not expected to have a material adverse effect, although outcomes cannot be predicted.
Important facts for investors to verify
- Whether revenue growth benefited temporarily from customer order timing and inventory management, and whether that growth persists.
- The ability to offset petroleum-based raw-material inflation through pricing, mix, productivity and hedging.
- Actual restructuring costs, savings and plant-closure execution relative to the $21.0 million plan.
- Cash conversion, receivables growth and working-capital requirements as capital spending accelerates.
- Progress and final cost of the new corporate office and research facility and the planned China and Scottsdale capacity expansions.
- Daikyo’s post-earthquake operating capacity and the effect on supply availability, pricing and affiliate earnings.
- Debt maturities, interest-rate exposure and continued compliance with leverage and interest-coverage covenants.