Greatbatch, Inc. Form 10-Q Summary
Reporting period: Quarter and six months ended June 29, 2012; comparable periods ended July 1, 2011. The filing identifies the registrant as Greatbatch, Inc., not Integer Holdings Corp. Fiscal quarters contained 13 weeks. Results are unaudited and presented under U.S. GAAP.
Business Context
Greatbatch operated through two segments: Implantable Medical, serving cardiac rhythm management, neuromodulation, vascular access and orthopaedic markets, and Electrochem Solutions, providing customized battery solutions. The company completed the Micro Power acquisition in December 2011 and acquired NeuroNexus on February 16, 2012.
Key Financial Metrics
| Metric | Q2 2012 | Q2 2011 | Six Months 2012 | Six Months 2011 |
|---|---|---|---|---|
| Sales | $166.5 million | $146.5 million | $325.7 million | $295.4 million |
| Gross profit | $51.9 million | $46.6 million | $98.8 million | $93.8 million |
| Gross margin | 31.2% | 31.8% | 30.3% | 31.7% |
| Operating income | $11.1 million | $18.3 million | $22.3 million | $36.3 million |
| Operating margin | 6.7% | 12.5% | 6.8% | 12.3% |
| Net income | $3.9 million | $8.6 million | $8.3 million | $20.5 million |
| Diluted EPS | $0.16 | $0.36 | $0.35 | $0.86 |
| Adjusted diluted EPS | $0.43 | $0.43 | $0.79 | $0.88 |
Six-month operating cash flow was $23.5 million, compared with $37.8 million in the prior-year period. Investing cash flow was negative $41.3 million, including $24.2 million of capital expenditures and $17.2 million for acquisitions. Financing cash flow was negative $7.7 million, reflecting $18.0 million of debt repayments, partially offset by $10.0 million of new revolver borrowings.
At June 29, 2012, cash and equivalents were $11.1 million, working capital was $171.6 million, and the current ratio was 3.09. Long-term debt was $233.4 million, consisting primarily of $197.8 million of 2.25% convertible subordinated notes due June 15, 2013 and $47.0 million outstanding under the revolving credit facility, net of discounts. The company reported $353 million of available revolver capacity and compliance with all debt covenants.
Material Changes Versus Prior Comparable Period
- Sales increased 14% in the quarter and 10% year to date, primarily from Micro Power, stronger CRM and vascular access sales, and higher portable medical revenue.
- Micro Power contributed approximately $21.3 million of Q2 revenue and $41.9 million year to date. Electrochem sales more than doubled year to date to $82.5 million.
- Implantable Medical sales declined 1% in Q2 and 4% year to date. Orthopaedic sales fell 13% in Q2 and 18% year to date, driven by customer price concessions, fewer launches and operational issues in Switzerland.
- Gross margin declined 60 basis points in Q2 and 140 basis points year to date, reflecting acquisition mix, excess capacity and Swiss production inefficiencies. Management estimated Swiss issues reduced gross margin by approximately 170 basis points in Q2 and 160 basis points year to date.
- GAAP operating income and net income declined substantially because of consolidation, optimization, ERP, integration, relocation and other charges. Q2 other operating expense was $5.9 million versus income of $0.5 million in the prior-year period.
- Research, development and engineering expense increased 26% in Q2 and 30% year to date as the company invested in complete medical devices and neuromodulation development.
- The effective tax rate increased to 43.9% for Q2 and 36.0% year to date from 33.0% in both prior-year periods, largely because of the expiration of the R&D tax credit, jurisdictional mix and losses in Switzerland.
Guidance, Outlook, Risks and Unusual Items
- Management maintained full-year sales growth guidance of 13% to 17%, supported by CRM and portable medical performance. Vascular access growth was expected at 10% to 20%.
- Full-year adjusted operating margin and adjusted diluted EPS were expected at the lower end of prior guidance because of weaker Swiss orthopaedic profitability. The filing does not provide the numerical range of the original adjusted EPS guidance.
- Management expected second-half RD&E spending to run slightly below the first half after reallocating resources and postponing certain projects. The Algostim neuromodulation PMA submission was pushed to the second half of 2013.
- Orthopaedic consolidation and medical-device facility initiatives were expected to require $45 million to $60 million of combined capital investment and $32 million to $39 million of expenses, with expected annual cost savings of approximately $10 million to $15 million after completion.
- Remaining 2012 capital expenditures were estimated at $15 million to $25 million. The company planned to use cash flow and revolver availability to fund capital spending, initiatives and repayment of the convertible notes.
- Key risks include customer concentration, pricing pressure and customer vertical integration, short visibility into ordering patterns, reliance on limited suppliers, regulatory and product-development risks, acquisition integration, foreign currency exposure and healthcare reform.
- Four customers represented 50% of six-month sales; the four largest customers were identified in the filing as Boston Scientific, Johnson & Johnson, Medtronic and St. Jude Medical.
- A fire at a supplier in the cyclododecatriene supply chain disrupted production through the expected fourth quarter of 2012. Management stated that safety stock and alternative sourcing efforts were expected to prevent a material impact.
- The company had $197.8 million of convertible notes maturing in June 2013 and intended to use revolver capacity to repay them. The credit facility could mature March 1, 2013 if the notes were not repaid, modified or refinanced before that date.
- Management finalized plans in the third quarter to transfer most major functions from Swiss facilities to Fort Wayne and Tijuana by the end of 2013. The resulting pension-plan curtailment impact was still being estimated and may require future cash contributions.
Important Facts for Investors to Verify
- Confirm that the intended issuer is Greatbatch, Inc.; the provided metadata names Integer Holdings Corp., which is inconsistent with the filing.
- Assess the sustainability of revenue growth after excluding Micro Power acquisition revenue and quantify organic constant-currency growth.
- Track orthopaedic operational recovery, Swiss facility transfers, restructuring costs and the timing of expected cost savings.
- Evaluate liquidity and refinancing capacity ahead of the $197.8 million convertible-note maturity in June 2013.
- Monitor customer concentration, pricing concessions, supplier disruption exposure and the effect of healthcare reform and medical-device regulation.
- Reconcile GAAP results with management’s adjusted metrics, particularly the treatment of consolidation costs, DVT spending, conversion-option discount amortization and other unusual items.