LivaNova PLC 2016 Q3 Form 10-Q Summary
Business Context and Reporting Period
LivaNova is a global medical-device company operating in Cardiac Surgery, Cardiac Rhythm Management (CRM), and Neuromodulation. The company was formed through the October 19, 2015 merger of Cyberonics and Sorin, with Cyberonics treated as the accounting predecessor.
The filing covers the three and nine months ended September 30, 2016. Comparisons use Cyberonics-only historical periods ended October 18, 2015—12 weeks and 38 weeks—because comparable combined-period information was not recast. Accordingly, reported year-over-year comparisons are not fully comparable, particularly because Cardiac Surgery and CRM results are included in 2016 but not in the prior periods.
Financial Results and Key Metrics
| Metric | Q3 2016 | 9M 2016 |
|---|---|---|
| Net sales | $295.3 million | $903.3 million |
| Gross profit | $188.8 million | $542.6 million |
| Gross margin | 63.9% | 60.1% |
| Operating income | $23.0 million | $8.8 million |
| Operating margin | 7.8% | 1.0% |
| Net loss | $1.6 million | $33.0 million |
| Loss per diluted share | $0.03 | $0.67 |
| Operating cash flow | Not separately provided | $49.3 million |
Q3 sales included Cardiac Surgery of $148.5 million, CRM of $56.8 million, Neuromodulation of $89.5 million, and Other of $0.5 million. Neuromodulation sales increased 32.6% versus the 12-week Cyberonics comparison period, supported by a 22.8% increase in generator unit volume. Nine-month Neuromodulation sales increased 17.2%, with generator unit volume up 5.5%.
Q3 operating results included $7.6 million of merger and integration expense, $4.4 million of restructuring expense, $11.8 million of intangible amortization, and $2.4 million of litigation-related expense. Nine-month charges were $20.5 million, $37.2 million, $34.0 million, and $4.7 million, respectively.
The nine-month effective tax rate was 514.5%, primarily reflecting $23.9 million of valuation allowances on certain deferred tax assets and taxes on profitable operations in higher-tax jurisdictions. Q3 losses from equity-method investments were $13.1 million, including a $9.2 million impairment of the Respicardia investment.
Liquidity, Cash Flow, Debt, and Balance Sheet
- Cash and cash equivalents were $63.6 million at September 30, 2016, down from $112.6 million at December 31, 2015.
- Operating cash flow was $49.3 million; investing cash flow was negative $29.8 million; and financing cash flow was negative $69.6 million.
- Capital expenditures and other property-related purchases totaled $26.8 million for the nine months; total capital expenditures reported by segment were $28.9 million.
- Total debt was $144.6 million, consisting of $53.6 million of current debt and $90.9 million of long-term debt, compared with $174.3 million at year-end 2015.
- Management stated that existing cash, investments, and expected operating cash generation should fund operating needs, working capital, research and development, capital expenditures, and debt service for the next 12 months.
- The company authorized a share-repurchase program of up to $150 million through December 31, 2018. By September 30, it had repurchased 212,860 shares for $12.9 million at an average price of $60.44.
- In October 2016, LivaNova entered into a $40 million, two-year Barclays revolving credit facility at a maximum rate of LIBOR plus 0.95%.
Material Changes Versus the Prior Comparable Period
- Reported sales and expenses increased substantially because 2016 includes the combined LivaNova business, while the prior periods reflect Cyberonics alone.
- Neuromodulation sales grew, aided by demand for VNS Therapy products and the AspireSR generator.
- Cost of sales increased to 36.1% of sales in Q3 and 39.9% for nine months, compared with 14.1% and 11.9% in the Cyberonics comparison periods, primarily due to inclusion of Sorin operations and acquisition accounting effects.
- SG&A and R&D declined as a percentage of sales, reflecting integration synergies, completed projects, and restructuring activities.
- Debt declined by approximately $29.7 million from December 31, 2015, while cash declined by approximately $49.0 million.
- Goodwill decreased to $731.1 million from $745.4 million, primarily due to $24.0 million of merger measurement-period adjustments, partly offset by foreign-currency effects.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
No specific revenue, earnings, or margin guidance is provided in the filing. Management expects restructuring plans to be completed in the first half of fiscal 2018, with an estimated net workforce reduction of approximately 190 personnel; 115 reductions had occurred by September 30, 2016. The plans also include closure of the Meylan, France research facility and consolidation into Clamart.
The company is reorganizing around regional leadership and the three product franchises, with a focus on margin expansion and profitable growth. Perceval and CROWN PRT heart valves received U.S. approvals, and PLATINIUM CRM products were launched or expanded in additional markets.
- 3T Heater-Cooler regulatory and litigation exposure: The FDA Warning Letter and import limitation remained outstanding. October 2016 CDC and FDA communications raised concerns regarding potential contamination of certain devices manufactured before August 18, 2014. The company could not estimate the future financial impact, and multiple related lawsuits and a proposed class action were pending.
- SNIA environmental litigation: LivaNova is defending claims related to alleged contamination at former Caffaro chemical sites in Italy. No accrual was recorded because management considered material loss not probable and the potential amount not estimable.
- Tax matters: Italian tax litigation involved approximately €62.6 million, or $71.3 million, of disputed losses; the company maintained an $18.9 million risk provision. An Italian tax audit covering 2012–2015 was also ongoing.
- Goodwill impairment risk: Management identified CRM as potentially vulnerable if operating performance, market conditions, growth expectations, or the stock price deteriorate before the fourth-quarter 2016 impairment test.
- Tax structure risk: Changes to U.S. anti-inversion rules could increase the risk that LivaNova is treated as a U.S. corporation for federal tax purposes in connection with certain future acquisitions.
- Brexit and foreign exchange: The company expects continued uncertainty and volatility in currency markets, regulations, trade, taxation, and access to capital.
- Management transition: CEO André-Michel Ballester resigned effective December 31, 2016. COO Damien McDonald was appointed CEO effective January 1, 2017. Related severance costs were not recorded in Q3.
Most Important Facts for Investors to Verify
- Assess the comparability of reported growth, margins, and earnings because 2016 includes Sorin while the prior comparison periods include only Cyberonics.
- Track the financial and operational effects of the 3T Heater-Cooler regulatory actions, safety communications, field actions, product demand, and litigation.
- Review CRM performance and the fourth-quarter 2016 goodwill impairment test, given management’s stated sensitivity to deterioration in outlook.
- Monitor restructuring execution, remaining severance obligations, workforce reductions, facility closures, and expected cost savings.
- Reconcile cash generation with debt maturities, capital expenditures, share repurchases, investments in affiliates, and the new revolving facility.
- Evaluate the sustainability of profitability after excluding merger, restructuring, amortization, litigation, investment-impairment, and unusual tax items.
- Follow the CEO transition, related compensation arrangements, and any effect on integration and operating priorities.