Novanta Inc. — Q3 2020 Form 10-Q
Reporting period: Three and nine months ended October 2, 2020; comparisons are with the periods ended September 27, 2019. Amounts are in U.S. dollars; financial figures below are in millions unless noted.
Business context
Novanta supplies photonics, vision and precision-motion technologies primarily to medical and advanced industrial OEMs. Medical products represented approximately 54% of Q3 revenue and 56% of nine-month revenue. The company cited COVID-19-related reductions in industrial spending and deferrals of elective procedures as the primary causes of lower revenue.
Financial performance
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Revenue | $142.9 | $154.1 | $443.1 | $466.4 |
| Gross profit / margin | $59.1 / 41.4% | $64.1 / 41.6% | $182.3 / 41.1% | $196.1 / 42.1% |
| Operating income | $11.9 | $12.8 | $38.8 | $42.3 |
| Net income | $8.3 | $8.9 | $31.9 | $31.6 |
| Diluted EPS | $0.23 | $0.25 | $0.89 | $0.89 |
| Operating cash flow | Not provided for quarter | Not provided for quarter | $93.7 | $27.8 |
- Q3 revenue fell 7.2%; nine-month revenue fell 5.0%. Q3 operating income declined 7.3%; nine-month operating income declined 8.2%.
- Q3 gross margin slipped 0.2 percentage points and nine-month margin fell 1.0 point. Lower factory utilization weighed on Photonics; unfavorable product mix affected Vision. Precision Motion margins improved on favorable product and customer mix.
- Nine-month net income rose slightly despite lower operating income, helped by lower interest expense and a 5.2% effective tax rate versus 12.9% a year earlier. Tax benefits included share-award vesting and a Canadian valuation-allowance release.
- Nine-month operating cash flow was $93.7 million, up from $27.8 million, mainly from working-capital improvements and lower income-tax payments. Investing cash outflow was $9.8 million; financing cash outflow was $57.2 million.
Segments and material changes
- Photonics: Q3 revenue decreased 15.0% to $46.4 million; nine-month revenue decreased 13.2% to $149.3 million. Lower industrial and medical demand drove the declines.
- Vision: Q3 revenue decreased 8.0% to $64.3 million; nine-month revenue decreased 1.8% to $198.0 million, with elective-procedure deferrals partly offset by acquisitions and optical data collection growth.
- Precision Motion: Q3 revenue increased 9.0% to $32.2 million; nine-month revenue increased 3.4% to $95.7 million, supported by microelectronics demand.
- Nine-month R&D expense increased to $45.0 million from $41.2 million; SG&A decreased to $82.5 million from $89.0 million. Lower restructuring and acquisition costs also partly offset weaker gross profit.
Liquidity, debt and outlook
- At October 2, cash and cash equivalents were $106.6 million, versus $78.9 million at year-end 2019. Total debt carrying value was $193.4 million, down from $220.4 million; cash less debt was approximately $86.8 million.
- Available revolving-credit capacity was $398.8 million. The company had amended its facility to increase the revolver commitment to $495 million. Debt matures in December 2024; the company reported compliance with covenants, including a 1.45 maximum-leverage measure against a 3.50 limit.
- Management said cash, expected operating cash flows and available borrowing capacity should meet ordinary-course needs for at least the next 12 months, and expected continued covenant compliance. No specific revenue or earnings guidance was provided.
- Management expected to pay the remaining €20 million deferred ARGES purchase price in December 2020. Capital expenditures for fiscal 2020 were expected to be approximately $8–9 million.
Management commentary, risks and unusual items
- COVID-19 had weakened demand in both end markets. Manufacturing facilities were operating and supply-chain disruption was limited to date, but further pandemic effects, shipping delays, supplier difficulties and prolonged economic weakness could harm sales, production and margins.
- The company began a 2020 restructuring program focused on reducing operating complexity and improving costs and gross margins; it recorded $1.0 million of related costs in Q3.
- To preserve cash, Novanta suspended share repurchases in April, reduced discretionary spending and hiring, and implemented compensation and time-off measures. A one-time employee restricted-stock-unit grant had aggregate fair value of $14.4 million; share-based compensation expense was $16.1 million for the first nine months, compared with $7.3 million a year earlier.
- An arbitration demand against a business acquired in 2019 seeks compensatory and punitive damages and other relief. Novanta said it believes the claims are without merit and recorded no accrual; the filing does not quantify the claim.
- Other stated risks include customer capital-spending cycles, product and supply-chain execution, acquisition integration, foreign-exchange and interest-rate exposure, medical-device regulation, cybersecurity, and access to capital.
Important facts for investors to verify
- Whether COVID-19-related demand weakness, particularly in Photonics and elective-procedure-linked products, persists or reverses.
- Whether the improvement in operating cash flow is sustainable and whether working capital, margins and inventory trends remain favorable.
- Completion and funding of the €20 million ARGES payment, alongside debt repayment and covenant headroom.
- Progress, costs and expected savings from the new restructuring program; the filing gives no quantified savings target.
- Developments in the arbitration, contingent acquisition payments and any resulting financial exposure.