Waters Corporation — Q3 2011 Form 10-Q
Reporting period: Third quarter ended October 1, 2011; comparisons are with the quarter ended October 2, 2010. Year-to-date figures cover nine months. Amounts below are in millions of dollars, except per-share data.
Business context
Waters designs, manufactures, sells and services analytical instruments and related products, including liquid chromatography, mass spectrometry, chemistry consumables, thermal analysis instruments and service plans. Its Waters and TA divisions are aggregated into one reportable segment. Customers span pharmaceutical, life science, industrial, environmental, government and academic markets.
Financial performance
| Metric | Q3 2011 | Q3 2010 | Nine months 2011 | Nine months 2010 |
|---|---|---|---|---|
| Net sales | $454.5 | $401.0 | $1,329.8 | $1,159.8 |
| Gross profit | $274.2 | $238.1 | $803.5 | $695.7 |
| Gross margin | 60.3% | 59.4% | 60.4% | 60.0% |
| Operating income | $127.3 | $103.8 | $363.7 | $301.8 |
| Net income | $101.3 | $94.7 | $295.8 | $255.2 |
| Diluted EPS | $1.10 | $1.02 | $3.18 | $2.71 |
| Operating cash flow | Not reported separately | Not reported separately | $347.3 | $323.8 |
Q3 sales grew 13%, operating income 23%, and diluted EPS 8% year over year. For the nine months, sales rose 15%, operating income 21%, and diluted EPS 17%. Product sales grew 14% in Q3 and 16% year to date; service sales rose 13% and 12%, respectively. Instrument system demand was a key driver. Foreign currency translation added 4% to Q3 sales and 5% to year-to-date sales.
Q3 growth reflected stronger pharmaceutical, industrial and chemical-analysis demand and uptake of recently launched ACQUITY UPLC H-Class, Xevo Q-Tof, Xevo TQ-S and SYNAPT G2-S systems. Q3 regional sales rose 22% in Europe, 11% in Asia, 8% in the U.S. and 14% in the rest of the world. Management attributed improved gross margin to volume leverage, currency and sales mix. Selling and administrative expense rose 9% in Q3, slower than sales; R&D expense increased 14%.
Cash, liquidity and debt
- At October 1, 2011, cash and cash equivalents were $423.9 million and short-term investments were $770.3 million, totaling $1,194.2 million.
- Total debt was $971.6 million, including $271.6 million classified as current and $700.0 million long-term. Available borrowing capacity under credit agreements was $439 million after letters of credit. The company reported compliance with debt covenants.
- Operating cash flow was $347.3 million year to date, up from $323.8 million. Capital spending and capitalized software totaled $51.3 million. Inventory increased $46.2 million, partly reflecting new-product ramp-up and higher backlog.
- Cash and cash equivalents increased $115.4 million year to date. Investing used $194.7 million and financing used $38.0 million; investing included net purchases of short-term investments and an $11 million acquisition.
- Waters repurchased $292 million of shares year to date. The February 2011 program authorized up to $500 million over two years, with $258.6 million remaining at quarter-end.
Outlook, risks and unusual items
- No specific revenue or earnings guidance was provided in the supplied filing text. Management said cash, investments, expected operating cash flow and committed borrowing capacity should be sufficient to fund operations, debt service, capital spending, authorized repurchases, potential acquisitions and possible litigation outcomes for at least the next 12 months.
- Management cited continued demand for recently launched systems and expected new product and software-platform launches. It cautioned that related product mix and software amortization could modestly affect gross margins. Estimated intangible amortization was approximately $40 million annually in 2012–2013 and $45 million annually in 2014–2016.
- The July 2011 credit agreement provides a $700 million revolving facility and $300 million term loan, both maturing in July 2016. The company intends to repay outstanding revolving borrowings in subsequent months, but stated there is no assurance it can do so.
- The effective tax rate rose to 16.8% in Q3 from 5.8% in the prior-year quarter, which included an $8 million U.K. tax benefit. Year-to-date rates were 15.6% and 12.9%; 2011 included a $2 million tax benefit. Ireland’s statutory rate increased to 12.5% from a historical contractual 10% rate.
- Waters acquired Anter Corporation for $11 million in July. Anter was expected to add about $6 million in annual sales and initially be neutral to EPS; its contribution since acquisition was not significant.
- Management identified risks including economic and customer-spending uncertainty, competition and new-product acceptance, foreign exchange, regulation, intellectual-property litigation, tax audits and changes in tax rates. It reported no material change in legal proceedings or risk factors from the 2010 Form 10-K and no material subsequent events.
Most important facts to verify
- Whether demand and sales growth from new instrument launches and key end markets continued after quarter-end, and how much reported growth depended on currency translation.
- Progress in reducing the $260 million revolving-credit balance classified as current, and the company’s liquidity and covenant headroom.
- Whether inventory growth and the higher order backlog converted into shipments and cash without increased obsolescence or working-capital pressure.
- Actual margin effects from new-product launches and the projected software-related amortization increase.
- Tax-rate trends, resolution of uncertain tax positions and developments in ongoing litigation or intellectual-property matters.