Business context and reporting period
Filing identity: The supplied filing is CryoLife, Inc.’s unaudited Form 10-Q for the quarter ended March 31, 2016—not a filing under the name Artivion, Inc. The company describes its business as medical devices and preservation services for cardiac surgery.
The quarter included the January acquisition of On-X, a mechanical heart valve business, and sales of the HeRO Graft and ProCol product lines as CryoLife shifted its focus toward cardiac surgery products. Unless noted otherwise, figures below are in U.S. dollars; financial statement amounts are converted from thousands to millions.
Financial performance and position
| Metric | Q1 2016 | Q1 2015 / comparator |
|---|---|---|
| Revenue | $43.0 million | $33.8 million; up 27% |
| Product revenue | $27.0 million | $19.4 million |
| Preservation services revenue | $16.0 million | $14.4 million |
| Gross margin | $27.6 million; 64% of revenue | $19.7 million; 58% |
| Operating income (loss) | $6.7 million | $(1.6) million |
| Net income (loss) | $2.5 million; $0.08 per diluted share | $(0.3) million; $(0.01) per diluted share |
| Operating cash flow | $1.4 million | $1.3 million |
| Cash and cash equivalents at quarter-end | $44.8 million | $37.6 million at December 31, 2015 |
| Debt at quarter-end | $75.0 million principal balance | No debt reported at December 31, 2015 |
- Earnings quality: Reported operating income includes a $7.9 million net gain from business-component sales. Q1 2016 also included $5.6 million of On-X transaction and integration costs and $0.6 million of acquisition inventory step-up expense. Interest expense was $0.7 million, compared with $0.03 million a year earlier. The effective tax rate was approximately 58%.
- Cash flows: Investing activities used $67.2 million, including $91.2 million for the On-X acquisition net of cash acquired, partly offset by $19.8 million in divestiture proceeds and $5.0 million released from restricted cash. Financing activities provided $73.1 million, primarily from the $75.0 million term loan, less $2.3 million of debt issuance costs.
- Liquidity: Working capital was $104.4 million and the current ratio was 5:1, versus $90.1 million and 6:1 at year-end. Management stated cash, cash flows, and existing resources should meet operational liquidity needs for at least 12 months.
- Margins and revenue mix: Management attributed gross-margin improvement to lower tissue-processing costs and On-X’s higher-margin product mix. On-X contributed $6.7 million of reported quarterly revenue after closing January 20. Preservation services revenue rose 11%; vascular tissue revenue rose 23%, while cardiac tissue revenue fell 4%.
Material changes versus the prior comparable period
- Revenue growth was primarily acquisition-driven. On-X pro forma combined revenue for Q1 2016 was approximately 7% above its pre-acquisition Q1 2015 revenue, according to management.
- BioGlue and BioFoam revenue increased 9%; PhotoFix revenue increased 122% from a small base. CardioGenesis revenue declined 7%, and HeRO Graft revenue declined 24%, partly reflecting lower transition-supply prices after its sale.
- General, administrative, and marketing expense increased 39% to $26.3 million, reflecting acquisition costs, integration, and expanded sales operations. Research and development expense increased 16% to $2.6 million.
- The On-X purchase price was approximately $128.2 million, comprising $93.6 million cash and $34.6 million in CryoLife shares; purchase-price adjustments and allocation remained preliminary. The acquisition added $66.8 million of goodwill.
- The HeRO Graft sale generated $18.5 million cash consideration and an approximately $8.8 million pretax gain. The ProCol sale generated $2.0 million and an approximately $0.8 million pretax loss. Neither disposal was reported as discontinued operations.
- Shares outstanding increased in connection with the 3.7 million shares issued for On-X. The board had discontinued quarterly dividends in December 2015; no dividend was declared in Q1 2016.
Outlook, risks, contingencies, and unusual items
- On-X integration and outlook: Management characterized the acquisition as transformative and expected On-X revenue to grow in 2016, while warning that distributor changes and direct-sales integration could disrupt individual quarters. Higher sales and administrative costs were expected to continue during 2016. No specific consolidated revenue or earnings guidance was provided.
- Divestiture transition: CryoLife agreed to manufacture HeRO Graft for Merit for up to six months; management expected this supply arrangement to conclude in Q2 2016. Transition sales were at lower average prices.
- PerClot: U.S. pivotal-trial enrollment was suspended pending FDA discussions about the protocol. Management said U.S. premarket approval could occur in 2019, depending on the outcome and resumption of the trial. A court injunction bars U.S. marketing, sales, and distribution until February 8, 2019. The company reported $1.5 million of prepaid royalties and $3.1 million of net intangible assets related to PerClot, which could be impaired if U.S. approval is not pursued or obtained.
- PhotoFix: On April 13, 2016, after quarter-end, CryoLife exercised its option to acquire the technology for $2.3 million. GBI was to continue manufacturing during the transition to CryoLife production.
- Debt and covenants: The new senior secured facility totals $95 million, including a $75 million term loan and $20 million revolving facility; the term loan matures in 2021 and bore an aggregate 3.93% rate at quarter-end. Borrowings are secured by substantially all company real and personal property. The company reported covenant compliance at March 31, 2016. The facility includes leverage and interest-coverage requirements and restricts certain actions, including dividends and share repurchases.
- Other risks and contingencies: The company cited foreign-exchange exposure, competition, tissue availability and processing costs, regulatory and product-quality risks, and acquisition-integration uncertainty. Estimated unreported product and tissue-processing liability claims were $1.6 million, with $0.6 million of related insurance recoverables; actuarial analysis indicated the liability could be as high as $3.0 million. Management reported no material legal proceedings requiring disclosure.
Important facts for investors to verify
- Confirm the filing’s issuer and its relationship, if any, to the requested company name: this document identifies the registrant as CryoLife, Inc.
- Track On-X post-acquisition revenue, sales-channel integration, related recurring costs, and whether projected growth materializes; distinguish reported results from acquisition pro forma figures.
- Assess operating performance apart from the $7.9 million divestiture gain and the $5.6 million acquisition-related costs.
- Monitor cash generation, debt repayment, variable-rate interest exposure, covenant headroom, and the availability of the revolving facility.
- Follow FDA discussions and trial status for PerClot, the 2019 approval assumption, the injunction expiration date, and potential impairment of related assets.
- Review final On-X purchase accounting and adjustments, and the PhotoFix manufacturing transition and acquisition costs.
- Evaluate tissue supply, processing throughput, liability estimates, and quality or regulatory developments that could affect preservation services and product sales.