Charles River Laboratories International, Inc. — FY 2013 Form 10-K
Reporting period: Fiscal year ended December 28, 2013. The filing also reports quarterly results, including the fourth quarter. Charles River is a global provider of research models, related services, and outsourced preclinical drug-development services, operating through Research Models and Services (RMS) and Preclinical Services (PCS).
Financial performance and liquidity
| Metric | FY 2013 | FY 2012 | Change/comment |
|---|---|---|---|
| Net sales | $1,165.5 million | $1,129.5 million | Up 3.2%; currency translation reduced growth by 0.8 percentage points |
| Operating income | $151.4 million | $165.8 million | Down 8.7%; operating margin fell to 13.0% from 14.7% |
| Income from continuing operations, net of tax | $105.4 million | $102.1 million | Up 3.2% |
| Net income attributable to common shareholders | $102.8 million | $97.3 million | Up 5.7% |
| Diluted EPS attributable to common shareholders | $2.12 | $2.01 | Up 5.5% |
| Cash from operating activities | $209.0 million | $208.0 million | Nearly flat |
| Capital expenditures | $39.2 million | $47.5 million | Down; operating cash flow less capital expenditures was approximately $169.9 million in 2013 |
| Cash and cash equivalents | $155.9 million | $109.7 million | Includes $147.9 million held outside the U.S. |
| Total debt and capital lease obligations | $663.8 million | $666.5 million | Debt was refinanced in May 2013; approximately $21.2 million of long-term debt was current at year-end |
| Working capital | $305.5 million | $143.0 million | Improved, including from refinancing and repayment of the 2013 notes |
Cost of products and services rose to 65.8% of sales from 65.0%, implying gross margin of approximately 34.2% versus 35.0%. SG&A increased to 19.4% of sales from 18.4%. The effective tax rate was 23.8%, compared with 21.3%.
Segments and fourth quarter
- RMS: Sales rose 1.7% to $707.1 million, but segment operating income fell to $181.3 million from $202.4 million. Lower legacy research-model demand in the U.S., Europe, and Japan and $13.5 million of accelerated depreciation weighed on results. EMD growth and Vital River in China partly offset the declines.
- PCS: Sales rose 5.5% to $458.4 million and operating income increased to $44.1 million from $34.6 million. Higher demand, favorable study mix, and efficiency gains helped performance.
- Fourth quarter: Sales were $289.2 million versus $280.1 million a year earlier; operating income was $24.6 million versus $35.1 million. Diluted EPS was $0.40 versus $0.39. The filing attributes much of the annual operating-income decline to accelerated depreciation associated with facility consolidations and closures.
Material changes and notable items
- In May 2013, the company put in place a $970 million credit facility, consisting of a $420 million term loan and a $550 million multi-currency revolver, both maturing in May 2018. The prior $350 million 2.25% convertible debentures were retired. The company reported compliance with financial covenants at year-end.
- Acquisitions included a 75% interest in China-based Vital River, consolidated from January 2013, and an EMD business in Singapore. The Vital River noncontrolling interest is redeemable beginning in 2016; its year-end carrying value was $20.6 million.
- The company repurchased 3.47 million shares for $165.7 million during 2013 and had $139.1 million of authorization remaining at year-end. It does not expect to pay cash dividends in the foreseeable future.
- Goodwill was not impaired in 2013. The company recorded $4.2 million of asset impairment charges and $15.4 million of accelerated depreciation related to U.S. facility actions. A PCS Massachusetts facility was written down by $3.8 million to an estimated fair value of $39.5 million.
- Management said it would close its Michigan research-model production facility by the end of 2014, with approximately $4 million of expected severance and accelerated-depreciation charges. Additional global efficiency projects were under consideration, with no specific decisions disclosed.
- Cash from operating activities was strong, but days sales outstanding rose to 56 from 51 days, primarily because of slower collections. Management did not anticipate additional credit risk from the increase.
Outlook, risks, and contingencies
Management described market conditions as stabilized and cited improving biotechnology funding, strategic outsourcing, and demand for non-GLP discovery and preclinical services as potential growth drivers. It also said the timing of these drivers remained difficult to predict. The filing provides no numerical revenue, earnings, or margin guidance.
- Demand remains sensitive to pharmaceutical and biotechnology R&D budgets, government research funding, client pipeline decisions, pricing pressure, industry capacity, and clients’ ability to terminate or reduce contracts.
- Material operating risks include animal-population contamination, regulatory or GLP/cGMP noncompliance, fixed-price contract overruns, cybersecurity and confidentiality failures, foreign-exchange exposure, and competition from in-house research or alternative non-animal methods.
- The company identified approximately $1.5 million of excess billings since 2007 on a limited subset of government contracts, relating to work not performed at research-model facilities in Raleigh and Kingston. That amount was reserved; the company said it could not estimate potential loss beyond the reserve while discussions with government agencies remained preliminary. The company reported the matter and was cooperating with authorities.
- A Mauritius supplier arbitration concerning a large-animal supply agreement remained unresolved; the company said it could not estimate a possible loss. A separate discontinued Phase I business lease obligation had a $9.8 million carrying liability at year-end following the buyer’s bankruptcy.
- Tax matters include a Canadian transfer-pricing controversy and other uncertain tax positions. The company reported $18.5 million in unrecognized tax benefits. Approximately $210.3 million of non-U.S. earnings was considered indefinitely reinvested; repatriation could trigger material taxes.
- Management and the independent auditor concluded internal control over financial reporting was effective at year-end. A material weakness reported for 2012 was considered remediated in 2013. The auditor issued an unqualified opinion on the financial statements and internal controls.
Most important facts for investors to verify
- Developments, final resolution, and any additional exposure from the government-contract billing investigation.
- Whether RMS legacy demand and margins recover, and whether PCS growth and efficiency gains continue after the weak fourth-quarter operating result.
- Progress and realized savings from site consolidations, including the Michigan closure and its expected 2014 charges.
- Debt repayment capacity, variable-rate exposure, covenant headroom, and the use of cash held by foreign subsidiaries.
- Resolution of Canadian and other tax uncertainties, and any tax consequences associated with foreign earnings or changes in tax credits.
- Whether the PCS Massachusetts facility valuation, discontinued-business lease obligation, and supplier arbitration lead to further charges or cash requirements.