ICU Medical, Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. ICU Medical develops, manufactures and sells medical devices for infusion therapy and critical care. Results include approximately two months of Hospira Infusion Systems (HIS) business following its acquisition on February 3, 2017; comparisons with Q1 2016 are therefore not directly comparable.
Key financial results
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Total revenue | $247.7 million | $89.9 million |
| Gross profit / margin | $88.9 million / 36% | $49.2 million / 55% |
| Operating income (loss) | $(17.0) million | $23.9 million |
| Net income | $55.9 million | $18.2 million |
| Diluted earnings per share | $2.86 | $1.08 |
| Cash flow from operations | $(76.6) million | $17.3 million |
| Cash and cash equivalents at period-end | $201.9 million | $347.4 million |
Net income included a preliminary $63.2 million bargain purchase gain from the HIS acquisition and an $8.3 million discrete tax benefit related to stock-based compensation. Excluding the bargain gain, the company reported an operating loss; the filing does not provide a non-GAAP adjusted earnings figure. Q1 2017 other revenue included $11.2 million related to deferred-closing HIS entities under a net economic benefit agreement with Pfizer.
Acquisition, operating performance and material changes
- ICU acquired Pfizer’s HIS business for approximately $260 million in cash consideration (partly funded by a $75 million seller note), plus 3.2 million ICU shares. Pfizer may receive up to a further $225 million based on cumulative adjusted EBITDA targets through 2019. Purchase accounting and the bargain gain remain preliminary.
- Reported revenue growth reflects the acquisition. Q1 included $46.7 million of Infusion Systems revenue and $97.4 million of IV Solutions revenue, both acquired businesses with no comparable Q1 2016 segment revenue. Infusion Consumables revenue was $75.7 million, down 1.3%; Critical Care revenue was $12.4 million, down 4.6%.
- Gross margin declined to 36% from 55%, which management attributed primarily to HIS’s historically lower margins. SG&A rose to $64.9 million and R&D to $11.6 million, largely due to the acquisition and increased headcount and transition costs.
- Operating expenses included $29.4 million of restructuring and strategic transaction charges: $8.3 million restructuring and $21.1 million transaction costs. Management expects $2.7–$3.2 million of additional restructuring charges and expects the related activities to be completed by the end of 2017.
Liquidity, debt and cash flows
Cash fell by $243.2 million during the quarter to $201.9 million, largely reflecting acquisition-related spending. Operating cash outflow of $76.6 million included substantial working-capital movements, including an $82.3 million increase in receivables and $66.6 million increase in prepaid expenses and other assets. Investing cash outflow was $173.9 million, including $157.1 million of acquisitions, net of cash acquired, and $16.4 million of property and equipment purchases.
At March 31, 2017, ICU had $75 million of long-term debt under a three-year interest-only Pfizer seller note maturing February 2020. The rate is LIBOR plus 2.25% for the first 12 months and 2.50% thereafter. A 1% LIBOR change would change annual interest expense by approximately $0.8 million. Current assets were $886.5 million and current liabilities $160.7 million. Management said existing cash and expected operating cash generation should fund operations for the next 12 months, while cautioning that weaker-than-expected performance could require alternative financing.
Contractual obligations totaled $214.3 million, including $75.0 million of principal, $9.0 million of estimated interest, $26.5 million of operating leases and $103.7 million of purchase obligations. The company reported $24.9 million of cash held in foreign subsidiaries and expected those funds to remain permanently reinvested abroad.
Outlook, risks and unusual items
- No specific revenue or earnings guidance was provided. Management described HIS as expanding ICU’s product portfolio, scale and global reach, but emphasized integration, execution and competitive challenges.
- Integration includes workforce and operating changes: approximately 7,900 employees at quarter-end, closure of Dominican Republic manufacturing facilities and transfer of production to Costa Rica and Mexico. Management cited risks to customer relationships, product quality, service and corporate culture if integration is not effective.
- HIS brings additional regulatory exposure, including pharmaceutical regulation of IV solutions and medical-device requirements in multiple markets. Competition is intense in infusion pumps and solutions; the filing also notes product safety, recall and cybersecurity concerns in the smart-pump market.
- Purported antitrust class actions concerning saline solutions, a New York Attorney General inquiry and an April 2017 U.S. Department of Justice grand jury subpoena relate to the acquired HIS business. ICU and Pfizer have competing indemnification claims under the purchase agreement; outcomes and potential exposure are uncertain.
- The $19 million contingent earn-out liability is a Level 3 fair-value estimate subject to remeasurement; a higher probability of meeting targets could increase the liability and future expense. The preliminary purchase-price allocation and bargain gain may change as valuations are finalized.
- Foreign-exchange risk is unhedged. Management estimated that a 10% euro exchange-rate move would affect relevant balance-sheet items by approximately $5.7 million. A May 1, 2017 distributor settlement agreement will require a $1.3 million payment.
Important facts for investors to verify
- Final HIS purchase-price allocation, bargain purchase gain and acquired-business results once complete-period comparisons become available.
- HIS integration progress, margin performance, restructuring costs and the timing and impact of manufacturing transfers.
- Progress toward the 2017–2019 earn-out targets and potential cash payment of up to $225 million.
- Developments and potential liabilities in the saline antitrust litigation and government investigations, including the effect of Pfizer indemnification provisions.
- Working-capital and cash-flow trends, debt terms and covenant restrictions, and the company’s ability to fund planned capital expenditures and operations.