Greatbatch, Inc. Form 10-Q Summary
Reporting period: Quarter ended September 27, 2013; 13 weeks for the quarter and 39 weeks year to date. The filing identifies the registrant as Greatbatch, Inc., although the request metadata identifies Integer Holdings Corp. The financial statements are unaudited and cover Greatbatch and its wholly owned subsidiary, Greatbatch Ltd.
Business Context
Greatbatch operated through two reportable segments: Implantable Medical, which designs and manufactures medical devices and components for cardiac, neuromodulation, vascular and orthopaedic markets, and Electrochem, which provides battery and power solutions for medical, energy and other critical applications. The Company was realigning sales, marketing and operations across the segments and was reevaluating its segment reporting structure.
Key Financial Metrics
| Metric | Q3 2013 | Q3 2012 | 9M 2013 | 9M 2012 |
|---|---|---|---|---|
| Sales | $167.7 million | $161.3 million | $487.3 million | $487.0 million |
| Gross profit | $55.9 million | $51.0 million | $161.9 million | $149.8 million |
| Gross margin | 33.3% | 31.6% | 33.2% | 30.8% |
| Operating income | $17.0 million | $2.1 million | $48.5 million | $24.4 million |
| Operating margin | 10.1% | 1.3% | 9.9% | 5.0% |
| Net income | $11.1 million | $(7.6) million | $26.5 million | $0.8 million |
| Diluted EPS | $0.44 | $(0.32) | $1.06 | $0.03 |
- Segment sales: Implantable Medical sales increased 7% in the quarter to $129.3 million and 1% year to date to $369.4 million. Electrochem sales declined 5% in the quarter to $38.4 million and 4% year to date to $118.0 million.
- Adjusted results: Adjusted operating income was $22.0 million for the quarter and $63.5 million year to date, compared with $18.7 million and $52.8 million, respectively, in the prior-year periods. Adjusted diluted EPS was $0.57 for the quarter and $1.56 year to date, versus $0.46 and $1.25.
- Cash flow: Nine-month operating cash flow was $16.1 million, compared with $39.5 million in 2012. Management stated third-quarter operating cash flow was $24.7 million, up 54% year over year. Excluding $19.6 million of tax payments associated with retiring the convertible notes, nine-month operating cash flow was $35.7 million.
- Liquidity: Cash and equivalents were $5.0 million at September 27, 2013, down from $20.3 million at December 28, 2012. Working capital was $183.7 million and the current ratio was 3.00.
- Debt: Long-term debt was $210.0 million, consisting of $10.0 million drawn on the revolving facility and a $200.0 million term loan. The Company had $290.0 million of borrowing capacity available under its credit facility.
- Leverage and covenants: Adjusted EBITDA to interest expense was 21.6 times versus a required minimum of 3.0 times. Total leverage was 1.9 times versus a maximum of 4.5 times. The Company was in compliance with all covenants.
- Capital expenditures: Nine-month capital spending was $15.0 million; full-year spending was expected to be $20 million to $25 million.
Material Changes Versus Prior Comparable Period
- Quarterly sales increased 4%, while nine-month sales were essentially flat. Management characterized third-quarter organic constant-currency growth as 5%, after adjusting for the orthopaedic divestiture and foreign exchange.
- Gross margin improved 170 basis points in the quarter and 240 basis points year to date, primarily from production efficiencies, cost savings, higher volumes and Swiss facility consolidation benefits.
- Operating income increased substantially as other operating expenses declined to $3.5 million in the quarter from $15.3 million and to $10.6 million year to date from $24.0 million. Prior-year costs included significant orthopaedic optimization, ERP and consolidation charges.
- Interest expense declined 66% in the quarter and 24% year to date, primarily because the Company redeemed its convertible subordinated notes in February 2013, reducing discount amortization and borrowing costs.
- Cash declined despite improved earnings because of working-capital investment, $19.6 million of tax payments related to the convertible-note retirement, capital expenditures and debt repayments.
- Cardiac/neuromodulation and orthopaedic sales grew, while vascular sales declined because of a voluntary recall of two devices. Electrochem sales declined because of pricing discipline, reduced government funding and rationalization of lower-margin programs.
Guidance, Outlook, Risks and Unusual Items
- Guidance: Management expected 2013 revenue near the low end of its $660 million to $680 million range, adjusted diluted EPS near the middle to high end of $2.05 to $2.15, operating margin of approximately 13%, a GAAP effective tax rate of approximately 31% and diluted shares of approximately 25 million.
- Growth initiatives: Management expected continued strength in Implantable Medical, new cardiac/neuromodulation product introductions and additional benefits from sales and marketing investments. Algostim development was proceeding toward an FDA submission in the fourth quarter of 2013 and a European CE Mark submission in early 2014.
- Restructuring: The 2013 operating-unit realignment was expected to cost $6.2 million to $7.0 million, with $3.1 million incurred through September 27, and was expected to generate annual savings of approximately $7.0 million to $7.7 million.
- Other initiatives: Orthopaedic and medical-device facility initiatives were substantially complete and were expected to generate approximately $10 million to $15 million of annual savings. The ERP upgrade was expected to be completed within six months.
- Unusual items: Nine-month results included $10.6 million of other operating expenses, including $3.1 million of 2013 realignment charges, $6.7 million of orthopaedic optimization costs and other restructuring items. The Company also recorded a $0.4 million impairment charge on indefinite-lived intangible assets and $0.6 million of losses on cost and equity-method investments.
- Concentration and market risks: Three customers represented 49% of nine-month sales. A hypothetical 10% U.S. dollar change against key foreign currencies would affect annual sales by approximately $8 million. A 100-basis-point change in the prime rate on unhedged debt would affect annual interest expense by approximately $0.6 million.
- Contingencies: The Company was involved in product-liability litigation for which the potential loss could not be reasonably estimated. Product warranty liability was $3.9 million, with approximately $2.0 million expected to be paid in the fourth quarter. The Company also cited potential effects from healthcare reform, the medical-device tax, regulatory changes, customer pricing pressure, product recalls, supplier dependence and intellectual-property risks.
Facts Investors Should Verify
- Confirm that the intended issuer is Greatbatch, Inc.; the supplied request metadata names Integer Holdings Corp., while the filing text names Greatbatch.
- Reconcile the reported $24.7 million third-quarter operating cash flow with the nine-month cash-flow statement showing $16.1 million of operating cash flow.
- Assess the sustainability of margin improvement after excluding consolidation, optimization, DVT and other adjusted items.
- Monitor execution of the operating-unit realignment, remaining restructuring costs and expected annual savings.
- Evaluate customer concentration, the vascular-device recall and the planned product reintroduction.
- Review debt maturities, variable-rate exposure, covenant headroom and the Company’s reliance on its $290 million of available credit capacity.
- Track Electrochem revenue trends after the rationalization of approximately $9 million of annualized lower-margin programs.