Balchem Corporation (Nasdaq: BCPC) — FY 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017; filed March 1, 2018. The filing is an annual report, with unaudited fourth-quarter results also disclosed. Balchem develops and sells specialty ingredients for human and animal nutrition, food, medical sterilization, agriculture and industrial markets.
Financial performance and liquidity
Unless otherwise indicated, amounts are in millions of dollars.
| Metric | FY 2017 | FY 2016 | Change |
|---|---|---|---|
| Net sales | $594.8 | $553.2 | +7.5% |
| Gross profit / margin | $189.0 / 31.8% | $180.9 / 32.7% | Profit +4.5%; margin down 0.9 percentage points |
| Operating earnings / margin | $97.3 / 16.4% | $90.8 / 16.4% | +7.1% |
| Earnings before tax | $88.5 | $82.9 | +6.7% |
| Net earnings | $90.1 | $56.0 | +60.9% |
| Diluted EPS | $2.79 | $1.75 | +59.4% |
| Cash from operations | $110.6 | $107.6 | +$3.0 |
| Capital expenditures | $27.5 | $23.0 | +$4.5 |
Net earnings were boosted by the Tax Cuts and Jobs Act: the company recorded a provisional $27.3 million deferred-tax benefit from remeasuring deferred tax balances and a $1.4 million transition-tax charge on deemed repatriated foreign earnings. The reported effective tax rate was negative 1.8%, versus 32.5% in 2016. Accordingly, the rise in reported net earnings and EPS substantially exceeded pre-tax earnings growth.
Cash and equivalents were $40.4 million at year-end, including $25.5 million held by foreign subsidiaries that management intended to reinvest abroad. Working capital was $90.9 million, up from $87.4 million. Approximate operating cash flow less capital expenditures was $83.1 million. Total debt was $219.5 million, down from $280.5 million; the company also reported $100 million of undrawn revolving capacity. Debt carried a 3.07% interest rate at year-end and matures May 7, 2019. Balchem said it planned to refinance before maturity and was in compliance with its covenants.
Dividends declared were $0.42 per share, compared with $0.38 in 2016. Year-end backlog rose to $41.3 million from $26.2 million; the company expected to fill the year-end 2017 backlog during 2018.
Material changes and segment performance
- Human Nutrition & Health: Sales rose 6.3% to $315.8 million; segment operating earnings increased 15.3% to $44.0 million. Powder Systems and encapsulates grew, with IFP contributing to both product lines.
- Animal Nutrition & Health: Sales fell 2.1% to $157.7 million and segment operating earnings fell 22.3% to $22.3 million. Lower ruminant-product volumes, higher petrochemical input costs, product mix and competition pressured results; feed-grade choline sales increased.
- Specialty Products: Sales increased 4.6% to $73.4 million and operating earnings rose 9.1% to $24.9 million, supported by plant nutrition growth.
- Industrial Products: Sales nearly doubled to $48.0 million and operating earnings increased to $6.4 million from $1.9 million, mainly reflecting higher demand for choline derivatives used in shale-fracturing applications and improved mix and cost structure. The prior year included sales to the St. Gabriel joint venture before it became operational.
Overall gross margin percentage declined despite higher gross profit, principally due to weaker Animal Nutrition & Health margins. Operating margin was unchanged at 16.4%. The company reported $9.3 million of R&D expense, up from $7.3 million.
In the unaudited fourth quarter, sales were $159.3 million versus $140.8 million a year earlier; gross profit was $51.6 million versus $46.9 million. Net earnings were $42.0 million versus $15.9 million, and diluted EPS was $1.30 versus $0.50. The fourth-quarter net earnings comparison was heavily affected by the tax benefit described above.
Acquisitions, outlook and notable items
- Balchem acquired Innovative Food Processors (IFP) in June 2017 for approximately $23.6 million at acquisition, including repayment of IFP bank debt; the acquisition expanded food and nutrition processing technology and market reach. Acquisition-related costs were $2.2 million.
- The company acquired certain Chol-Mix assets in Hungary for €1.5 million, adding dry choline chloride capacity and technical expertise; approximately $1.23 million had been paid by year-end, with about $0.42 million remaining under the related arrangement.
- Capital spending is projected at $20 million to $30 million for 2018. Management expected operating cash flow to fund working capital and necessary capital investment, while noting it was pursuing acquisition candidates.
- Balchem spent approximately $13.2 million in 2017 to expand Utah manufacturing capacity following a fire at the former Clearfield site. It reported $27.5 million of 2017 capital expenditures.
- The Tax Reform Act accounting, including the deferred-tax remeasurement and transition tax, remained provisional at year-end; analysis of GILTI and other tax provisions was incomplete. The company adopted the new revenue-recognition standard on January 1, 2018 and expected no material financial-statement impact.
Risks, contingencies and investor verification
- EPA registration reviews for ethylene oxide and propylene oxide were ongoing, with potential additional testing requirements. Management believed their permitted uses would continue, but loss of registrations could materially affect Specialty Products.
- Key business exposures include raw-material price and supply changes, competition, dairy economics and animal-product demand, oil-and-gas activity, foreign exchange, manufacturing interruptions, product liability and food-safety concerns, and acquisition integration.
- The 2019 debt maturity makes the planned refinancing and future borrowing terms important to monitor. Interest rates are linked to LIBOR and debt covenants restrict financial flexibility.
- Environmental matters include continued monitoring at the Slate Hill, New York site; management said recent monitoring cost less than $5,000 annually. The Verona, Missouri Superfund remedy is primarily the responsibility of a prior owner, with seller indemnification described in the filing. Management did not expect other litigation outcomes to materially affect results or liquidity.
- Foreign sales were about 22% of FY 2017 revenue. Cash balances at U.S. and Italian financial institutions exceeded applicable deposit-insurance limits.
Most important facts to verify
- How much of FY 2017 earnings growth is sustainable excluding the one-time tax benefit, and what the final tax-reform and GILTI accounting adjustments are.
- Progress and terms of refinancing the $219.5 million debt balance before its May 2019 maturity.
- Whether Animal Nutrition & Health margins recover after the reported volume, input-cost and competitive pressures.
- Whether Industrial Products growth persists given its exposure to shale-fracturing activity and the prior-year joint-venture comparison.
- EPA review developments for ethylene oxide and propylene oxide, and any resulting testing, compliance costs or restrictions.
- IFP integration and acquisition returns, and whether the $41.3 million backlog converts to sales as expected in 2018.
The independent auditor issued an unqualified opinion on the financial statements and reported effective internal control over financial reporting as of December 31, 2017.