Business context and reporting period
Varex Imaging Corporation designs and manufactures X-ray imaging components and related software for medical, industrial inspection and security markets. This Form 10-K covers the 52-week fiscal year ended September 29, 2017; the fourth quarter ended on that date. Varex became an independent public company on January 28, 2017, following its separation from Varian. On May 1, it acquired PerkinElmer’s Medical Imaging business for approximately $273.2 million after working-capital adjustments. Pre-separation financial statements include costs allocated from Varian and may not represent the costs of operating independently.
Financial results and key metrics
| Metric | FY2017 | FY2016 |
|---|---|---|
| Revenue | $698.1 million | $620.1 million |
| Gross margin | $253.5 million; 36.3% | $248.4 million; 40.1% |
| Operating earnings | $83.7 million | $109.1 million |
| Net earnings attributable to Varex | $51.6 million | $68.5 million |
| Diluted EPS | $1.36 | $1.82 |
| Operating cash flow | $74.6 million | $74.2 million |
| Cash and cash equivalents, year-end | $83.3 million | $36.5 million |
| Working capital, year-end | $343.5 million | $282.1 million |
| Debt, net carrying amount, year-end | $483.9 million | None reported |
FY2017 revenue was $698.1 million, up 13%. The acquired business contributed $61.3 million from May 1 through year-end. Medical revenue was $556.9 million, up 10%; Industrial revenue was $141.2 million, up 24%. International customers generated approximately 66% of revenue. The five largest customers contributed about 34%; Toshiba Medical Systems alone accounted for 19.3%.
In Q4 FY2017, revenue was $215.7 million versus $172.1 million a year earlier; gross margin was $77.8 million versus $69.2 million; net earnings were $15.1 million versus $22.1 million. Q4 gross margin was approximately 36.1%, compared with 40.2% in Q4 FY2016.
FY2017 operating cash flow was $74.6 million. Investing used $292.0 million, primarily for the acquisition ($271.8 million) and capital expenditures ($20.2 million). Financing provided $263.3 million, including $749.0 million of borrowings and $255.0 million of repayments; Varex also distributed $227.1 million to Varian. At year-end, debt comprised $20.0 million of current maturities and $463.9 million long-term, net of deferred issuance costs. Contractual principal payments totaled $494.0 million. The company had a $200 million revolving facility; it reported compliance with financial covenants. Interest-rate swaps hedged $292.5 million of floating-rate debt.
Material changes versus prior periods
- Revenue increased, principally reflecting the acquisition, while earnings declined: net earnings attributable to Varex fell 25% and diluted EPS fell from $1.82 to $1.36.
- Gross margin declined to 36.3% from 40.1%. Management attributed the decrease mainly to acquired-intangible amortization, purchase-accounting inventory step-up costs and continued digital-detector price erosion; product mix also affected segment margins.
- Operating expenses rose 22% to $169.8 million. R&D increased 26% to $67.3 million, including acquired-business spending and accelerated CT tube and detector development. SG&A increased 19% to $102.5 million, including acquisition and integration costs.
- Debt rose substantially following acquisition financing. Cash increased to $83.3 million, while accounts receivable and inventory also increased; year-end DSO was 66 days, unchanged year over year.
- Backlog was $231.9 million, down 6.6% from $248.4 million, primarily because some customers shifted to quarterly rather than annual orders. Orders may be revised or canceled.
Outlook, commentary, risks and unusual items
The filing gives no specific revenue or earnings forecast. Management said it believes long-term R&D spending of approximately 8%–10% of annual revenue is appropriate to support innovation and growth. It expects digital flat-panel detector price erosion to continue. The company cited potential growth in security screening, industrial inspection and new applications, but emphasized that security orders and revenue timing are unpredictable and that border-protection demand has been weak.
- Customer and market concentration: A limited number of OEM customers account for a substantial portion of sales; the largest customer represented 19.3% of FY2017 revenue. Some customers compete with Varex through in-house manufacturing. Customer forecasts and purchasing volumes can vary.
- Acquisition and separation: Integration, anticipated synergies and acquired-business growth are uncertain. Stand-alone costs may exceed historical Varian allocations. Agreements with Varian, including supply and transition arrangements, remain relevant; the filing identifies potential indemnification and tax obligations tied to the separation.
- Debt and interest rates: The secured facilities include financial and operating covenants. Floating-rate exposure remains on debt not hedged by swaps; debt service may constrain cash available for other purposes.
- Operations and supply: Production is concentrated at Salt Lake City, and some important components come from limited or sole-source suppliers, including dpiX. Raw-material cost and availability, manufacturing disruptions and product-quality or warranty issues could affect margins and delivery.
- International and regulatory exposure: Foreign exchange, export licensing, government budgets, healthcare reimbursement, changing medical-device rules, and anti-corruption and trade-compliance requirements may affect demand, costs or market access.
- Legal and environmental matters: Varex reported no contingent liabilities at year-end and said it did not expect material liability from disclosed legal matters. It recorded a $1.3 million environmental liability due to Varian. Product-liability insurance is described as limited.
- Other items: No cash dividend was planned. No goodwill impairment was recorded in FY2017. The company, as an emerging growth company, was not required to include management’s internal-control assessment or an auditor attestation in this report; management reported disclosure controls were effective.
Important facts for investors to verify
- How much of revenue growth and future performance is attributable to the PerkinElmer acquisition versus the existing business, and whether integration benefits materialize.
- Whether margins stabilize amid detector price erosion, acquired-asset amortization and purchase-accounting effects.
- Debt repayment capacity, covenant headroom, interest-rate exposure and availability under the revolving facility.
- Customer concentration, order patterns, backlog conversion and the outlook for Toshiba Medical Systems and security customers.
- Potential additional stand-alone costs, Varian-related contractual or tax exposures, and any developments in regulatory, product-liability or environmental matters.