Phibro Animal Health Corporation — Form 10-Q Summary
Business Context and Reporting Period
Phibro develops, manufactures and markets animal health, mineral nutrition and performance products for food animals and industrial, personal care and chemical catalyst applications. This report covers the three months ended September 30, 2018, the company’s fiscal 2019 first quarter, compared with the three months ended September 30, 2017. Financial statements are unaudited and amounts are presented in thousands unless otherwise stated.
Financial Performance and Key Metrics
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Net sales | $200.2 million | $193.4 million | +3% |
| Gross profit | $65.8 million | $63.4 million | +4% |
| Gross margin | 32.9% | 32.8% | +0.1 percentage point |
| Operating income | $22.9 million | $22.4 million | +2% |
| Income before taxes | $22.7 million | $18.9 million | +20% |
| Net income | $16.3 million | $15.9 million | +3% |
| Diluted EPS | $0.40 | $0.39 | +$0.01 |
| Adjusted EBITDA | $30.1 million | $30.1 million | Approximately flat |
| Operating cash flow | $1.3 million | $4.8 million | Down $3.5 million |
- Animal Health sales increased 2% to $131.2 million; MFAs and other products rose 9%, while nutritional specialties declined 12% and vaccines declined 7%.
- Mineral Nutrition sales increased 5% to $54.8 million, primarily from higher selling prices linked to commodity costs, but segment Adjusted EBITDA fell 31% to $2.6 million because of unfavorable product mix and pricing pressure.
- Performance Products sales increased 13% to $14.1 million, and Adjusted EBITDA increased to $0.7 million from $0.2 million.
- SG&A increased 5% to $43.0 million, including $0.6 million of stock-based compensation. Corporate costs rose because of higher business development expenses and professional fees.
- Net foreign currency gains were $2.6 million versus a $0.3 million loss in the prior-year quarter, primarily reflecting movements in the Turkish, Mexican and Brazilian currencies relative to the U.S. dollar.
- The effective tax rate increased to 28.1% from 16.1%, principally because the prior-year period benefited from $2.7 million of employee stock-option tax benefits versus $0.2 million in the current period. The current period also included a $0.3 million GILTI provision.
Cash Flow, Debt and Liquidity
- Cash and cash equivalents were $25.9 million at September 30, 2018, compared with $29.2 million at June 30, 2018. Short-term investments were $50.0 million, resulting in total cash and short-term investments of $75.9 million.
- Operating activities provided $1.3 million of cash. Inventory increases used $9.5 million, and accrued expenses and other liabilities used $9.2 million, primarily because of annual incentive compensation payments.
- Investing activities used $16.1 million, including $9.8 million for business acquisitions and $6.0 million of capital expenditures.
- Financing activities provided $11.7 million, including $15.0 million of net Revolver borrowings, partially offset by $4.0 million of dividends and $3.2 million of scheduled debt and other payments.
- Total debt consisted primarily of $240.6 million of Term A Loan principal, $85.0 million outstanding under the Revolver and $12.6 million of current debt maturities. The credit facilities mature June 29, 2022.
- The Revolver had $160.8 million available after $85.0 million of borrowings and $4.2 million of outstanding letters of credit. The company was in compliance with its debt covenants at September 30, 2018.
- Management stated that cash on hand, operating cash flow and available financing are expected to support anticipated needs, but cautioned that adverse operating results, covenant violations, economic conditions or financing disruptions could impair liquidity.
- Working capital was $227.8 million, and the reported current-assets-to-current-liabilities ratio was 2.96:1.
Material Changes, Outlook and Unusual Items
- The company adopted ASC 606 revenue recognition effective July 1, 2018 using the modified retrospective method. The adoption did not materially affect reported sales or retained earnings; the current-quarter reported net sales impact was $0.2 million.
- Phibro accelerated the closing of its acquisition of the MJ Biologics vaccine business. The remaining consideration was $12.8 million, including $9.0 million paid in July 2018 and a $3.8 million acquisition note payable due January 2019.
- The Board declared a quarterly dividend of $0.12 per share on November 5, 2018, payable December 19, 2018, versus $0.10 per share previously. Management expects future quarterly dividends of $0.12 per share, subject to Board approval.
- Adjusted EBITDA was supported by the foreign currency gain and excludes certain unusual or non-operational items. It is a non-GAAP measure and may not be comparable with similarly named measures used by other companies.
- Disclosure controls were not effective at September 30, 2018 because material weaknesses in internal control over financial reporting remained outstanding from fiscal year-end. Remediation efforts were ongoing, but management could not determine when remediation would be complete or assure its success.
- The company reported no material changes to its previously disclosed risk factors or contractual obligations.
Risks, Contingencies and Other Matters
- Key business risks include restrictions on antibacterials, product safety or efficacy concerns, animal disease outbreaks, weather, raw-material cost and availability, competition, customer consolidation, currency fluctuations, international economic conditions and regulatory changes.
- The company faces environmental investigations and remediation obligations, including matters associated with the Omega Chemical Superfund Site and the Phibro-Tech facility in California. Estimated environmental liabilities were $6.6 million at September 30, 2018, but potential additional costs cannot be predicted with certainty.
- Phibro and its subsidiaries are involved in ordinary-course product liability, payment, regulatory and other litigation. Management believes these matters are not expected to have a material adverse effect, although environmental and litigation outcomes remain uncertain.
- The company has substantial indebtedness, floating-rate exposure and debt covenant requirements. It uses an interest-rate swap on $150 million of notional principal and foreign currency options to hedge certain exposures.
- Cash and short-term investments included $74.3 million held by international subsidiaries at September 30, 2018.
Investor Verification Checklist
- Verify the sustainability of Animal Health growth, particularly MFAs and other products, and the recovery prospects for nutritional specialties and vaccines.
- Assess whether Mineral Nutrition pricing and product-mix pressure could persist and affect segment profitability.
- Review inventory growth, working-capital movements and the decline in operating cash flow relative to net income.
- Confirm total debt, Revolver availability, interest rates, covenant compliance and the January 2019 acquisition-note payment.
- Evaluate the effect of the higher recurring dividend and expected annual dividend commitment of approximately $19.4 million on liquidity.
- Track remediation of the material weaknesses in internal control over financial reporting.
- Monitor environmental investigations, litigation and the potential for liabilities above the $6.6 million currently estimated.
- Distinguish GAAP earnings from Adjusted EBITDA and assess the effect of foreign currency gains on reported results.