Merit Medical Systems, Inc. — Q1 2014 Form 10-Q
Business context and reporting period
Unaudited results cover the three months ended March 31, 2014, compared with the same period in 2013. Merit designs, manufactures and markets single-use medical products for interventional and diagnostic procedures. Its reportable segments are cardiovascular and endoscopy.
Financial performance and liquidity
| Metric | Q1 2014 | Q1 2013 |
|---|---|---|
| Net sales | $119.2 million | $103.9 million |
| Gross profit / gross margin | $52.0 million / 43.6% | $43.0 million / 41.4% |
| Operating income / margin | $6.5 million / 5.4% | $1.8 million / 1.7% |
| Net income | $2.8 million | $0.7 million |
| Diluted earnings per share | $0.07 | $0.02 |
| Operating cash flow | $8.0 million | $2.9 million |
| Capital expenditures for property and equipment | $8.7 million | $20.0 million |
Revenue grew 14.7%. Cardiovascular sales rose 15% to $114.9 million, while endoscopy sales increased 3% to $4.3 million. Cardiovascular operating income was $6.4 million, versus $1.6 million; endoscopy operating income was $93,000, versus $129,000.
Gross margin improved primarily because higher production volumes reduced average fixed overhead cost per unit. SG&A was $36.8 million, or 30.9% of sales, compared with $32.1 million and the same percentage a year earlier. R&D was $8.8 million, or 7.4% of sales, versus $9.1 million, or 8.8%. Interest expense increased, contributing to other expense of $2.6 million, compared with $1.5 million.
Cash and equivalents were $12.6 million at March 31, 2014, up from $7.5 million at year-end. Working capital was $108.1 million and the current ratio was 2.56:1. Inventories were $84.7 million, up from $82.4 million. Total debt was $254.4 million, including $10.0 million current and $244.4 million long-term; available borrowing capacity was approximately $26.6 million. The company reported compliance with its credit covenants. Debt is secured by substantially all assets and matures in 2017. Management cited cash, operating cash flow, available credit and possible equipment financing as adequate for planned operations for the next 12 months and foreseeable future.
Material changes and management commentary
- International sales were $46.3 million, approximately 39% of revenue, up 23% year over year. Growth included Europe direct sales, China and Russia.
- Management attributed the sales increase particularly to stand-alone devices, catheters, embolization devices and CRM/EP products. A U.S. sales-force reorganization began in January 2014 to support product diversity, acquired products and new launches.
- SG&A increased partly due to sales-force and international expansion and transition costs for the new Pearland, Texas facility. Q1 2013 included approximately $945,000 of Thomas Medical acquisition and severance costs; R&D in that period included approximately $415,000 of severance costs.
- Property and equipment spending declined from Q1 2013, when the company was completing a new headquarters warehouse and office project.
- The 2014 effective tax rate was 27.4%; Q1 2013 included a roughly $500,000 discrete benefit from reinstatement of the 2012 federal R&D credit, contributing to its reported tax benefit.
Outlook, risks and contingencies
The filing provides no specific revenue or earnings guidance. Management intends to invest in emerging international markets, including Brazil, Russia, India and China, and expects its sales-force reorganization to support growth and new-product launches. It cautioned that interim results are not necessarily indicative of full-year results.
Risks highlighted include debt-service and covenant constraints, interest-rate and foreign-exchange exposure, product liability and recalls, regulatory and reimbursement changes, competition, supplier and inventory risks, and execution and commercialization risks associated with acquisitions and new products. A 1 percentage-point change in average interest rates on unhedged borrowings was estimated to affect annual interest expense and pretax income by approximately $1.1 million. Cash held in China is subject to local approval requirements for transfers abroad.
Legal matters include Merit’s contract dispute with Bard, in discovery and with potential outcome and loss range not estimable, and a third-party patent-infringement suit concerning aspiration catheters, in early stages. The company said ordinary-course claims are not expected to be material, but unfavorable developments could have a material adverse effect. No material control deficiencies or material changes in internal control were reported.
Most important facts for investors to verify
- Whether sales growth and improved gross margin persist, and how much growth reflects acquired products versus underlying demand.
- Debt levels, remaining borrowing capacity, covenant headroom and the impact of variable interest rates and scheduled maturities.
- Cash availability, particularly funds held by foreign subsidiaries and restrictions on transfers from China.
- Progress and costs of the U.S. sales-force reorganization, Pearland facility transition, and international expansion.
- Developments in the Bard and patent litigation, as well as product, regulatory and reimbursement risks.