Edwards Lifesciences Corporation — Q3 2010 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2010; comparisons are with the corresponding 2009 periods unless stated otherwise. Dollar amounts are in millions except per-share data. Edwards develops and sells cardiovascular products in Heart Valve Therapy, Critical Care, Cardiac Surgery Systems, and Vascular.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net sales | $348.9 | $325.7 | $1,054.6 | $974.7 |
| Gross profit | $253.1 | $227.2 | $759.8 | $677.3 |
| Gross margin | 72.5% | 69.8% | 72.0% | 69.5% |
| Income before taxes | $66.2 | $94.2 | $198.1 | $242.0 |
| Net income | $48.0 | $73.5 | $153.2 | $181.5 |
| Diluted EPS | $0.40 | $0.63 | $1.29 | $1.55 |
- Sales rose 7.1% in Q3 and 8.2% year to date. Heart Valve Therapy led growth: sales increased 15.2% in Q3 and 16.2% year to date, with SAPIEN contributing $25.9 million and $67.1 million of the respective increases.
- Q3 Critical Care sales fell 2.8% and Vascular sales fell 9.9%; year-to-date declines were 1.5% and 13.9%, respectively. The discontinued hemofiltration and LifeStent lines affected comparisons. Cardiac Surgery Systems sales increased 6.3% in Q3 and 8.9% year to date.
- Net income declined 34.7% in Q3 and 15.6% year to date. Comparisons are affected by 2009 special gains, including $58.6 million in Q3 and $84.1 million year to date, primarily from product-line sales. 2010 special charges were $3.9 million in Q3 and $12.2 million year to date, including a $3.9 million investment impairment and an $8.3 million MONARC program discontinuation charge.
- Gross margin improved by 2.7 percentage points in Q3 and 2.5 points year to date, mainly from more profitable product mix and manufacturing performance. SG&A rose $6.9 million in Q3 and $31.1 million year to date; R&D rose $8.0 million and $21.3 million, respectively, with increased investment, particularly in transcatheter heart valve programs.
- Effective tax rates were 27.5% for Q3 and 22.7% year to date, versus 22.0% and 25.0%. The 2010 nine-month rate included a $9.8 million benefit from partial settlement of a prior-year tax audit.
Cash flow, balance sheet, and liquidity
- Nine-month operating cash flow was $157.4 million, up from $99.4 million. Capital expenditures were $40.1 million; cash flow after capital expenditures was $117.3 million. Investing activities used $38.4 million, while financing activities used $77.3 million, including $200.0 million of share repurchases.
- Cash and equivalents were $361.0 million at September 30, versus $334.1 million at December 31, 2009. Current assets were $992.4 million and current liabilities $382.2 million (approximately 2.6 current ratio).
- Debt was $100.6 million, classified as short-term, under a $500 million revolving credit agreement maturing September 29, 2011. The company reported compliance with its covenants and expected to extend or replace the facility, but gave no assurance of comparable terms. Cash exceeded reported debt by $260.4 million.
- Inventory increased to $212.2 million from $165.9 million. Management cited higher inventory purchases, primarily for transcatheter heart valve products, and higher days sales outstanding as factors weighing on cash conversion.
- The company repurchased 4.1 million shares for $200.0 million during the first nine months and had $398.0 million of authorization remaining under its February 2010 program. A two-for-one stock split was effected in May 2010; relevant per-share and share data were adjusted retrospectively, except the December 2009 balance-sheet share counts.
Outlook, commentary, and risks
- Management expected SAPIEN, Magna Ease, and other new products to continue driving 2010 sales growth; it did not provide quantified full-year revenue or earnings guidance in the supplied filing text.
- The company reported disciplined European launches of SAPIEN XT and anticipated CE Mark for Project Odyssey in 2011 after completing TRITON enrollment. It expected to begin enrollment in the first PARTNER II cohort in Q4 2010 and anticipated submitting PARTNER Cohort A to the FDA in mid-2011. These are forward-looking expectations, not assured outcomes.
- Edwards discontinued the MONARC mitral valve program after slow EVOLUTION II trial enrollment. It also entered a Central Venous Access product agreement granting a buyer an exclusive, perpetual, royalty-free U.S. license, while Edwards agreed to supply the products through March 2013.
- Risks cited include competition, pricing and reimbursement pressure, regulatory and clinical-trial outcomes, foreign exchange, investment impairment, and healthcare reform. A U.S. medical-device excise tax of 2.3% on most device sales was scheduled to begin in 2013.
- In April 2010, a jury found CoreValve willfully infringed an Edwards patent and awarded $73.9 million in damages; the judge could increase damages, and Edwards sought an injunction. The patent was under reexamination by the USPTO. Separately, the company received grand jury subpoenas in an FDA investigation concerning a 2006 voluntary recall of a Vigilance I Monitor model and said it was cooperating.
- Uncertain tax-position liabilities were $51.1 million before potential offsets. Management said adequate reserves were provided, but final tax-authority outcomes may differ. Management did not believe currently pending lawsuits would materially affect financial position, results, or liquidity, while acknowledging charges could exceed reserves.
- Management stated that cash, operating cash flow, and available credit were sufficient for current requirements; no material changes to significant contractual obligations were reported. The filing also states that interim results are not necessarily indicative of full-year results.
Most important facts for investors to verify
- Whether SAPIEN and other Heart Valve Therapy growth continues, and whether clinical, regulatory, and launch milestones are achieved as expected.
- How much reported earnings comparisons reflect 2009 product-sale gains, 2010 program and investment charges, and the 2010 tax-audit benefit.
- Cash conversion, receivables, and inventory trends, alongside the timing and terms of the 2011 revolving-credit renewal or replacement.
- Developments in the CoreValve patent reexamination, damages and injunction proceedings, and the FDA investigation.
- Potential effects of the 2013 medical-device excise tax, reimbursement changes, and unresolved tax positions.