IDEXX Laboratories, Inc. — Q3 2019 Form 10-Q Summary
Business Context and Reporting Period
IDEXX develops diagnostic products and services for veterinary, livestock, poultry, dairy, water-testing, and human point-of-care markets. The report covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods. The filing is unaudited.
- Primary segments: Companion Animal Group (CAG), Water, Livestock, Poultry and Dairy (LPD), and Other.
- CAG represented approximately 88% of Q3 revenue and remained the principal growth driver.
- Effective October 23, 2019, Jonathan Mazelsky became President and CEO. Jonathan Ayers was expected to leave his employee role, become Senior Advisor, and step down as Board Chairman effective November 1, 2019.
Financial Performance and Key Metrics
| Metric | Q3 2019 | Q3 2018 | Change |
|---|---|---|---|
| Total revenue | $605.3 million | $545.4 million | 11.0% |
| Gross profit | $345.0 million | $305.6 million | 12.9% |
| Gross margin | 57.0% | 56.0% | +100 bps |
| Operating income | $139.8 million | $117.4 million | 19.1% |
| Operating margin | 23.1% | 21.5% | +160 bps |
| Net income attributable to IDEXX | $108.8 million | $93.3 million | 16.7% |
| Diluted EPS | $1.24 | $1.05 | 18.1% |
For the nine months ended September 30, 2019, revenue was $1.801 billion, up 8.3%; gross profit was $1.034 billion, with a 57.4% gross margin; operating income was $437.2 million, with a 24.3% operating margin; net income attributable to IDEXX was $337.2 million; and diluted EPS was $3.85, compared with $3.29 in the prior-year period.
- Q3 organic revenue growth was 12.3%, including 12.7% for CAG, 7.1% for Water, 9.5% for LPD, and 22.2% for Other. Foreign currency reduced reported Q3 revenue growth by 1.3%.
- Q3 CAG revenue increased 11.5% to $533.1 million. CAG recurring revenue increased 12.7%, led by IDEXX VetLab consumables and reference laboratory services.
- Q3 Water revenue increased 5.4% to $34.9 million; LPD revenue increased 6.6% to $31.4 million; and Other revenue increased 22.2% to $5.9 million.
- Q3 sales and marketing expense increased 9.9%, general and administrative expense increased 3.7%, and research and development expense increased 17.4%.
- The Q3 effective tax rate was 18.0%, compared with 14.5% in 2018. The nine-month rate was 18.5%, compared with 16.9%.
Cash Flow, Balance Sheet, Debt and Liquidity
- Cash provided by operating activities for the first nine months was $303.7 million, compared with $264.4 million in 2018.
- Capital expenditures were $109.1 million, primarily related to expansion of the Westbrook, Maine headquarters and relocation of the core reference laboratory in Germany.
- Cash used in financing activities was $212.0 million, including $161.0 million of common-stock repurchases and $169.5 million of net revolving-credit repayments. IDEXX also issued $100.0 million of senior notes.
- Cash and cash equivalents were $104.0 million at September 30, 2019, down from $123.8 million at December 31, 2018. More than 99% was held as bank deposits, and approximately $101.9 million was held outside the United States.
- The $850 million revolving credit facility had $229.5 million outstanding and $619.1 million of remaining borrowing availability, before a $1.4 million letter-of-credit reduction.
- Long-term debt was $696.6 million, and total reported debt was $926.1 million. Gross debt to Adjusted EBITDA was 1.39x and net debt to Adjusted EBITDA was 1.24x.
- IDEXX was in compliance with its 3.5x consolidated leverage-ratio covenant. Management stated that cash, operating cash flow, and available borrowing capacity should fund operations, capital requirements, and anticipated growth needs for at least the next twelve months.
- Adoption of the new lease standard on January 1, 2019 added $83.7 million of right-of-use assets and $82.7 million of liabilities at adoption, without a material impact on earnings or cash flow.
Material Changes Versus the Prior Comparable Period
- Revenue growth accelerated through higher volumes in veterinary consumables, reference laboratory testing, and software and services. The expanded instrument installed base supported recurring revenue growth.
- Gross margin expanded because of price increases, favorable product mix, volume leverage, lower product costs in CAG, and higher hedge gains.
- Operating margin improved as gross-profit growth exceeded operating-expense growth, despite continued investment in sales infrastructure, research and development, and laboratory capacity.
- Nine-month investing cash flow changed from $178.4 million provided in 2018 to $109.6 million used in 2019, principally because 2018 included proceeds from marketable-security sales and 2019 included higher capital spending.
- Share repurchases declined to $161.0 million in the first nine months of 2019 from $263.7 million in 2018, while 721,000 shares were repurchased or surrendered at a total cost of $173.0 million.
- LPD nine-month reported revenue declined 0.7%, although organic growth was 4.1%; foreign currency reduced reported growth by 4.8%. African swine fever continued to affect swine-related testing in China, partly offset by poultry and other testing programs.
Guidance, Outlook, Risks and Unusual Items
- The filing does not provide a clear full-year revenue or EPS guidance range. It does provide currency sensitivity: management estimated that a stronger U.S. dollar for the remainder of 2019 would reduce full-year revenue by approximately $42 million, operating profit by $6 million, and diluted EPS by $0.06, including an estimated $12 million favorable hedge impact.
- Management expected an approximately $13.4 million fourth-quarter operating-income charge related to Ayers’s severance and accelerated equity-award expense, plus approximately $2.1 million of additional tax expense, for an estimated $15.5 million net-income impact.
- Foreign currency remains a material exposure. Approximately 21% of consolidated revenue was derived from products manufactured in the U.S. and sold internationally in local currencies. IDEXX hedged approximately 85% of estimated exposure from specified intercompany transactions.
- Management identified risks from competition, economic conditions, demand for products, foreign exchange, customer purchasing patterns under multiyear programs, realizability of contract assets and customer-acquisition costs, and execution of the leadership transition.
- Customer programs require estimates of future purchases, rebates, price adjustments, and incentive utilization. At September 30, 2019, capitalized customer-acquisition costs were $131.0 million, contract assets were $70.5 million, and estimated future revenue under certain customer programs was approximately $1.6 billion.
- Legal claims and threatened litigation arise in the ordinary course. Litigation accruals were not material, but management cautioned that unfavorable outcomes, including potential patent claims, could materially affect future results.
- The filing reported no material changes to previously disclosed risk factors, no material off-balance-sheet arrangements other than letters of credit and third-party guarantees, and no material changes in contingencies and guarantees.
Most Important Facts for Investors to Verify
- Verify the ultimate cost and accounting treatment of the leadership transition, including the expected $15.5 million net-of-tax fourth-quarter charge.
- Assess whether strong CAG recurring revenue growth and margin expansion continue after adjusting for pricing, equivalent business days, currency, and hedge gains.
- Monitor capital spending, laboratory and headquarters projects, free-cash-flow conversion, and the effect of inventory and contract-asset growth.
- Reconcile debt, cash, borrowing availability, and leverage against the 3.5x covenant, including future share repurchases and capital investments.
- Evaluate foreign-exchange sensitivity and the portion of international exposure not covered by hedges.
- Track LPD demand trends, particularly the continuing effects of African swine fever and regional livestock and poultry testing volumes.