STAAR Surgical Company Form 10-Q Summary
Reporting period: Quarter and nine months ended October 3, 2014, compared with September 27, 2013. The request metadata identifies “2013 Q3,” but the filing is clearly the 2014 third-quarter Form 10-Q.
Business Context
STAAR designs, manufactures and sells ophthalmic surgical products, principally implantable Collamer lenses (ICLs) for refractive surgery and intraocular lenses (IOLs) for cataract surgery. The company operates as one ophthalmic surgical product segment and sells in more than 60 countries.
International manufacturing consolidation into Monrovia, California was substantially completed by June 2014; Aliso Viejo integration was expected by the end of 2015. The company maintains manufacturing capability in Switzerland.
Financial Performance and Liquidity
| Metric | Q3 2014 | Q3 2013 | 9M 2014 | 9M 2013 |
|---|---|---|---|---|
| Net sales | $18.2 million | $17.1 million | $58.4 million | $53.3 million |
| Gross profit | $11.9 million | $12.1 million | $39.4 million | $37.3 million |
| Gross margin | 65.3% | 70.5% | 67.5% | 70.1% |
| Operating income (loss) | $(1.6) million | $0.2 million | $(4.3) million | $2.0 million |
| Net income (loss) | $(2.7) million | $0.5 million | $(5.9) million | $1.3 million |
| Diluted EPS | $(0.07) | $0.01 | $(0.15) | $0.03 |
| Net cash from operating activities | Not separately provided | Not separately provided | $(4.4) million | $3.4 million |
Q3 sales increased 6.3% year over year and nine-month sales increased 9.7%. ICL sales declined 0.8% in Q3 but increased 7.5% year to date. IOL sales rose 8.3% in Q3 and 7.2% year to date. Other product sales increased 68.6% in Q3 and 46.0% year to date, primarily from injector component sales to a third-party supplier.
At October 3, 2014, cash and cash equivalents were $18.4 million, down from $23.0 million at January 3, 2014. Current assets were $49.4 million versus current liabilities of $17.0 million. The balance sheet included a $4.6 million Japanese line of credit, no outstanding Swiss borrowings, and $0.96 million of capital lease obligations. The company reported compliance with its credit covenants and stated that available cash and expected operating cash flows should fund foreseeable working-capital needs and FDA remediation costs.
Material Changes Versus Prior Comparable Period
- Revenue growth did not translate into profitability. Q3 operating income shifted to a $1.6 million loss from $0.2 million of income, and net income shifted to a $2.7 million loss from $0.5 million of income.
- Gross margin declined 520 basis points in Q3 and 260 basis points for the first nine months. Management attributed the decline to higher U.S. ICL manufacturing costs, product mix, lower-margin injector sales, preloaded acrylic sales and increased inventory reserves.
- Operating expenses increased overall in Q3, including higher marketing and selling costs from the ESCRS trade show, approximately $0.6 million of FDA Warning Letter remediation expense, and higher ICL development spending. Research and development expense increased 86.3% in Q3 to $3.1 million.
- Foreign-currency losses increased other expense to $0.6 million in Q3, compared with $0.3 million of other income in the prior-year quarter.
- Operating cash flow deteriorated from $3.4 million provided in the first nine months of 2013 to $4.4 million used in the first nine months of 2014, driven in part by a $3.2 million increase in inventories and a $1.1 million increase in accounts receivable.
- Stock-based compensation increased to $4.7 million for the first nine months from $2.9 million in the prior-year period.
Guidance, Outlook, Risks and Unusual Items
- Management stated that it did not expect to achieve its 2014 targets of 8% to 10% revenue growth, 20% ICL sales growth, a 72.7% gross margin, or full-year GAAP profitability. Nine-month revenue growth was 9.7%, but ICL growth was 7.5% and the company remained unprofitable.
- Management expected ICL manufacturing costs to improve in Q4 2014, but anticipated continued gross-margin pressure from higher injector sales. Fourth-quarter FDA remediation expenses were expected to be similar to Q3.
- The FDA issued a May 2014 Warning Letter concerning alleged cGMP deficiencies involving design controls, software validation, ICL vault-complaint trending and shelf-life data. The company continued remediation and stated that the FDA may withhold approval of related Class III device applications until the deficiencies are addressed.
- The FDA advisory panel voted favorably on the safety and effectiveness questions related to the Toric ICL, but the PMA Supplement remained pending and the company could not predict whether or when U.S. approval would occur.
- A putative securities class action, Todd v. STAAR, alleged misleading disclosures concerning regulatory violations at the Monrovia facility. The company considered the allegations meritless and could not estimate any potential loss. The SEC also opened an informal inquiry concerning FDA inspections and related compliance matters.
- The company recorded a $0.5 million Q3 tax provision despite the pretax loss. Tax expense and deferred tax assets may fluctuate based on jurisdictional earnings, valuation allowances and uncertain tax positions.
- Swiss pension-plan curtailments and a discount-rate change affected accumulated other comprehensive income; the curtailment gains were offset against accumulated losses and were not recognized in earnings.
- CEO Barry Caldwell announced his retirement effective March 1, 2015. He was expected to remain a consultant through March 2016.
Important Facts for Investors to Verify
- Whether FDA remediation is completed and whether the Warning Letter delays the Toric ICL or other Class III product approvals.
- The potential financial exposure and development of the SEC inquiry and Todd securities litigation.
- Whether manufacturing consolidation produces the expected cost savings and improves ICL gross margins.
- Whether ICL demand recovers in Korea and Japan following declines attributed to negative LASIK publicity and weaker refractive-procedure demand.
- Inventory levels, reserves and working-capital requirements, given negative operating cash flow and the decline in cash.
- The sustainability of revenue growth amid increased lower-margin injector sales and elevated marketing, development and stock-compensation expenses.
- The impact of the CEO succession process and the timing of the Aliso Viejo manufacturing integration.