Balchem Corporation — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; comparison is with Q1 2019. Balchem develops and sells specialty ingredients and products for nutrition, food, pharmaceutical, animal health, medical sterilization, plant nutrition, and industrial markets. Unless otherwise stated, dollar amounts below are in thousands.
Financial performance
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $174,436 | $157,029 | Up 11.1% |
| Gross margin | $55,331; 31.7% of sales | $49,095; 31.3% | Up 12.7% |
| Operating expenses | $29,053; 16.7% of sales | $22,615; 14.4% | Up 28.5% |
| Operating earnings | $26,278; 15.1% of sales | $26,480; 16.9% | Down 0.8% |
| Net earnings | $19,768 | $18,783 | Up 5.2% |
| Diluted EPS | $0.61 | $0.58 | Up $0.03 |
| Operating cash flow | $22,565 | $22,483 | Up $82 |
Gross margin improved mainly from product mix and lower raw-material costs. The effective tax rate fell to 19.3% from 24.2%, primarily due to lower enacted tax rates in several states. Interest expense was $1,696, versus $1,589.
Segment results and material changes
- Human Nutrition & Health: Sales rose 12.2% to $95,508, driven by food and beverage, chelated minerals, choline nutrients, and cereal sales. Segment earnings fell 11.4% to $12,135, reflecting higher operating expenses and the prior-year timing of an insurance recovery.
- Animal Nutrition & Health: Sales increased 12.2% to $48,641 and segment earnings rose 53.0% to $8,044, supported by higher ruminant and monogastric volumes and lower raw-material costs. Some European customers increased inventory amid COVID-19 uncertainty.
- Specialty Products: Sales increased 52.0% to $27,996, primarily from the Chemogas acquisition, higher ethylene oxide sales for medical-device sterilization, and plant nutrition growth. Segment earnings rose 19.2% to $7,986; management cited unfavorable mix and higher production costs.
- Other and Unallocated: Sales declined to $2,291 from $10,095, and earnings were a loss of $1,887 versus income of $824. The decline reflected weaker activity in the former industrial business, including shale fracking, as well as higher transaction, integration, ERP-related amortization, and other unallocated costs.
Beginning in Q1 2020, Balchem reported three segments instead of four, moving industrial and other minor activities into “Other and Unallocated.” Prior-period segment figures were retrospectively recast; consolidated financial statements were unchanged. Results also include acquired businesses Chemogas (acquired May 2019) and Zumbro (acquired December 2019). Transaction and integration costs were $1,068 in Q1 2020, compared with $307 in Q1 2019.
Cash flow, balance sheet, debt, and liquidity
- Cash and cash equivalents were $73,959 at March 31, 2020, up from $65,672 at year-end 2019; $37,841 was held by foreign subsidiaries and management said it intended to keep those funds invested abroad.
- Operating cash flow was $22,565; investing cash outflow was $5,394, including capital expenditures and intangible assets; financing cash outflow was $8,160. Dividends paid were $16,704.
- Working capital was $198,961, compared with $162,688 at December 31, 2019. Current assets were $270,681 and current liabilities $71,720.
- Revolving debt was $253,569, up from $248,569 at year-end. The $500 million facility matures June 27, 2023; $246,431 remained available. The stated borrowing rate was 2.084%, and the company was in compliance with its covenants. Cash less revolving debt was approximately $179.6 million of net debt.
- Capital expenditures and intangible-asset acquisitions were $5,394, versus $8,507 in Q1 2019. Balchem reported total assets of $1.162 billion and stockholders’ equity of $766.3 million.
Outlook, risks, and unusual items
Management said Q1 demand impact from COVID-19 was minimal and manufacturing sites were operating near normal conditions. It expected sequentially lower overall revenue in Q2 and for the duration of the pandemic, citing weaker food-service demand, animal-protein and dairy markets, medical-device sterilization associated with fewer elective surgeries, and lower fracking activity. Potential offsets included grocery-store food products, food-preservation technologies, immunity-related nutrition products, and lower raw-material costs. Management said the size and duration of these effects could not yet be determined and provided no numerical earnings or revenue guidance.
The company described employee-safety measures, supply and inventory actions, and efforts to reduce capital expenditures and noncritical cash expenses. It reported two known employee COVID-19 cases among approximately 1,400 employees at the time of filing. Management cited cash, the undrawn credit facility, and expected free cash flow as liquidity supports, while noting uncertainty around the pandemic’s effects on operations, supply chains, customers, transportation, and capital markets.
Other items to note include a $3,107 after-tax unrealized cash-flow-hedge loss in other comprehensive income, partly offset by a $4,419 net-investment-hedge gain included in foreign-currency translation. The company had $4,831 of unrecognized tax benefits. Management believed existing litigation and assessments would not materially affect financial position, results, or liquidity. It also noted that the Verona, Missouri facility is at a Superfund site; the prior owner is responsible for further remedy and Balchem is indemnified for associated potential liabilities.
Important facts for investors to verify
- Whether COVID-19 demand declines and any offsetting demand or cost benefits develop as management anticipated, particularly in Q2 and subsequent periods.
- Whether operating margins recover: operating earnings declined despite sales growth, with higher operating expenses and materially different segment trends.
- How acquisition integration, Chemogas and Zumbro contributions, and unallocated expenses affect future earnings and cash generation.
- Availability and cost of revolving credit, covenant headroom, variable-rate exposure, and the effect of the $108.6 million interest-rate swap.
- Use and accessibility of foreign-held cash, planned capital-spending reductions, and the sustainability of dividend and repurchase activity.
- Final purchase-accounting adjustments for the acquisitions and any material developments in pandemic-related, tax, environmental, or other contingencies.