CONMED Corporation — Form 10-Q Summary
Business Context and Reporting Period
CONMED is a medical technology company supplying surgical devices and equipment for minimally invasive procedures and monitoring, serving orthopedic, general surgery, gynecology and gastroenterology markets. This unaudited filing covers the three and six months ended June 30, 2014, compared with the corresponding 2013 periods.
International sales represented approximately 53.4% of second-quarter sales and 52.7% of year-to-date sales. Product lines include orthopedic surgery, general surgery and surgical visualization.
Financial Performance and Key Metrics
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Net sales | $188.2 million, down 2.5% | $370.1 million, down 2.6% |
| Gross profit | $101.0 million; 53.7% margin | $203.6 million; 55.0% margin |
| Income from operations | $15.9 million; 8.5% margin | $33.2 million; 9.0% margin |
| Net income | $10.3 million; 5.5% margin | $18.9 million; 5.1% margin |
| Diluted EPS | $0.37 | $0.68 |
| Operating cash flow | Not separately provided for the quarter | $24.9 million |
Second-quarter sales were $188.2 million versus $193.0 million in the prior-year quarter. Orthopedic sales increased 0.6% to $102.4 million, while general surgery declined 3.4% to $70.7 million and surgical visualization declined 16.1% to $15.1 million. Year-to-date orthopedic sales rose 0.7% to $208.3 million; general surgery fell 4.1% to $134.2 million; and surgical visualization fell 16.6% to $27.6 million.
Gross margin improved from 53.3% to 53.7% in the quarter and from 54.1% to 55.0% year to date, primarily due to completed restructuring initiatives. Selling and administrative expense declined to $74.0 million in the quarter and $147.8 million year to date. Research and development expense increased to $6.9 million in the quarter and $13.8 million year to date.
Second-quarter net income increased from $9.5 million to $10.3 million, while year-to-date net income declined from $20.0 million to $18.9 million. The year-to-date decline reflected a higher effective tax rate, including a $2.3 million non-cash write-off of New York State deferred tax assets. The effective tax rate was 28.6% in the quarter and 37.5% year to date, compared with 33.2% and 29.8%, respectively, in the prior-year periods.
Liquidity, Cash Flow and Debt
- Cash and cash equivalents were $60.4 million at June 30, 2014, compared with $54.4 million at December 31, 2013.
- Operating cash flow was $24.9 million year to date, compared with $23.2 million in 2013. Higher inventory, partly related to products expected to launch in the second half of 2014, used cash.
- Capital expenditures were $8.6 million year to date; management expected approximately $20.0 million of capital expenditures for 2014.
- Total debt was approximately $246.0 million, consisting principally of $239.0 million outstanding under the revolving credit facility and a $7.0 million mortgage note, plus a $1.2 million current portion of long-term debt reported on the balance sheet.
- The $350.0 million revolving credit facility expires January 17, 2018. Available borrowing capacity was $105.5 million, including approximately $5.5 million reserved for letters of credit. The company was in compliance with applicable debt covenants.
- Year-to-date financing activities used $11.3 million, including $16.9 million of share repurchases, $11.0 million of dividends and a $16.7 million payment under the MTF distribution agreement.
- Of the company’s $200.0 million repurchase authorization, $37.4 million remained available at June 30, 2014.
Material Changes Versus the Prior Comparable Period
- Sales declined in both the quarter and first half, driven primarily by general surgery and surgical visualization. Management attributed the visualization decline partly to customers awaiting the new IM8000 2DHD camera system.
- Capital equipment sales declined 3.1% in the quarter and 6.3% year to date; single-use product sales declined 2.3% and 1.7%, respectively.
- Operating margins improved despite lower sales because of restructuring-related cost reductions and lower selling and administrative expense.
- Year-to-date interest expense increased to $3.0 million from $2.7 million, with higher weighted-average borrowings and interest rates.
- Other expense increased to $2.8 million in the quarter and $6.0 million year to date, including restructuring, legal and settlement costs, and shareholder-activism-related consulting and legal costs.
- The company paid $0.9 million in April 2014 to settle the Bonutti Skeletal Innovations patent litigation.
- Inventories increased from $143.2 million at December 31, 2013 to $157.0 million at June 30, 2014.
Guidance, Outlook, Commentary, Risks and Unusual Items
Management did not provide a full-year revenue or earnings forecast in the filing. It expressed cautious optimism regarding improvement in the global economic environment but noted that sales had declined during 2013 and the first half of 2014.
Management expected restructuring costs of approximately $3.5 million to $4.5 million during the remainder of 2014 and expected $9.5 million to $11.0 million of executive transition charges during the third quarter. These executive transition charges followed board and chief executive officer changes effective July 23, 2014.
The company continued manufacturing and administrative restructuring, including production transfers to Mexico and facility consolidations. Centennial, Colorado consolidation was expected to continue for approximately 18 months. Management stated that restructuring savings may not be achieved on schedule or in the expected amount.
Key risks include medical-device regulation and FDA enforcement, potential recalls, product liability, patent and other litigation, foreign currency and interest-rate exposure, economic and hospital budget pressures, competition, product-development and adoption risk, availability of allograft tissue, inventory obsolescence, and the company’s reliance on international sales. The FDA issued a Warning Letter in January 2014 relating to observations at the Centennial facility; corrective actions were underway, with possible future regulatory actions not expected to be material based on management’s current assessment.
The company had $33.3 million of remaining contingent obligations under its MTF agreement as of June 30, 2014, accrued in current and long-term liabilities. The company stated that it did not expect pending claims or investigations to have a material adverse effect, but cautioned that future claims or investigations could do so.
Important Facts for Investors to Verify
- Whether the new IM8000 visualization products reverse the substantial decline in the surgical visualization business.
- Progress toward the stated 2014 restructuring savings and the additional $3.5 million to $4.5 million restructuring-cost estimate.
- The timing and final amount of the $9.5 million to $11.0 million executive transition charges.
- Inventory conversion and working-capital performance following the increase to $157.0 million.
- Debt utilization, covenant compliance and remaining borrowing capacity under the revolving credit facility.
- Resolution and cost of FDA remediation activities, including any recall, consent decree, fine or additional warning letter.
- The impact of the 37.5% year-to-date tax rate and whether future tax benefits offset the effect of the New York State deferred-tax-asset write-off.
- Remaining payments and supply obligations under the MTF distribution agreement.