Bio-Rad Laboratories, Inc. — Q2 2018 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2018. Bio-Rad makes and distributes life-science research and clinical-diagnostics products through its Life Science and Clinical Diagnostics segments. Figures below are unaudited; comparisons are with the corresponding 2017 periods.
Financial performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Net sales | $575.9 million | $504.7 million | $1,127.4 million | $1,004.7 million |
| Gross margin | 52.4% | 54.2% | 53.6% | 54.1% |
| Operating income (loss) | $43.8 million | $(1.7) million | $87.4 million | $24.5 million |
| Net income | $268.0 million | $5.0 million | $924.8 million | $17.4 million |
| Diluted EPS | $8.87 | $0.17 | $30.63 | $0.58 |
Sales rose 14.1% in Q2 and 12.2% in the first half; excluding foreign currency effects, growth was approximately 11.0% and 7.8%, respectively. Segment sales increased: Life Science by 21.4% in Q2 and 17.5% year to date; Clinical Diagnostics by 9.9% and 9.4%.
Reported earnings were heavily affected by unrealized gains on equity securities, principally Bio-Rad’s Sartorius AG investment: $286.4 million in Q2 and $1.102 billion in the first half, recognized in earnings following adoption of new accounting rules. The filing states these gains were unrealized. Accordingly, net income and EPS do not represent underlying operating performance alone.
Q2 gross margin fell 1.8 percentage points year over year, despite Life Science margin improvement, primarily because Clinical Diagnostics had lower-margin equipment sales, higher excess and obsolete inventory costs and service costs, and German facility-closure costs. First-half gross margin declined 0.5 percentage points. R&D expense fell to $47.5 million in Q2 and $96.9 million year to date; SG&A was $210.4 million in Q2 and $419.6 million year to date.
Cash, debt and liquidity
- Operating cash flow was $118.2 million for the first half, versus $6.3 million a year earlier. Management attributed the increase mainly to higher customer receipts, improved collections after ERP issues, and foreign-exchange contract proceeds, partly offset by higher supplier, employee and tax payments.
- Investing cash outflow was $102.7 million; financing provided $0.5 million. Capital expenditures were $53.9 million, down from $65.0 million.
- Cash and cash equivalents were $403.0 million and short-term investments $415.2 million at June 30, for combined liquidity of $818.2 million. Approximately 25% was held in foreign subsidiaries.
- Total debt, including capital leases and other debt, was $440.5 million; the principal notes are $425 million of 4.875% senior notes due 2020. No borrowings were outstanding under the $200 million revolving credit agreement; $0.5 million was used for letters of credit. The facility matures in June 2019, and the company was evaluating renewal or similar arrangements.
- Current assets were $1.992 billion and current liabilities $442.4 million. The company reported approximately $207.8 million of borrowing and usage capacity across domestic and international lines and guarantee arrangements, before approximately $4.2 million used for guarantees and letters of credit.
Material changes, outlook and risks
- Investment-accounting change: Adoption of ASU 2016-01 and related guidance moved equity-security fair-value changes into earnings. Bio-Rad owned over 37% of Sartorius’s voting shares but stated it lacked significant influence; Sartorius was valued at fair value. The accounting change materially increased reported 2018 earnings and investments.
- Restructuring and unusual items: The company had $11.7 million of liabilities remaining for the terminated European diagnostics R&D project and German facility closure, and $4.2 million for its European reorganization. It also reported first-half gains of $5.1 million from a product-line divestiture and $4.1 million from a land sale. A raw-material supplier was acquired in April 2018; the purchase-price allocation was preliminary.
- Guidance: The filing provides no specific revenue or earnings guidance. Management said available liquidity and operating cash flow were expected to support operations, R&D, capital spending and a reasonably sized acquisition. Remaining ERP implementation was expected over approximately three to four years, with estimated future cash outlays of $125 million.
- Controls: Disclosure controls were reported ineffective because of a material weakness in financial reporting related to staffing, risk assessment and review controls following the European ERP conversion and reorganization. Remediation was ongoing and expected to be completed in 2018; effectiveness was not assured.
- Legal and operating risks: Bio-Rad had appealed a $10.92 million whistleblower judgment, plus interest and costs, for which it had provided. Other risks discussed include ERP execution, foreign exchange, international regulation and compliance, government and healthcare funding, competition, and potential volatility or losses in its equity investments. The company also disclosed ongoing tax examinations and provisional Tax Act accounting.
Important facts for investors to verify
- How much reported profit reflects core operations versus unrealized Sartorius and other equity-security gains, and how changes in those share prices may affect future earnings.
- Whether sales growth and Clinical Diagnostics margins remain durable after currency effects, prior-year ERP timing distortions, and restructuring or other unusual items.
- Progress in remediating the material weakness, including whether controls are operating effectively and whether the ERP rollout creates further disruption.
- Renewal or replacement of the revolving credit facility before its June 2019 maturity, and the timing and funding of planned ERP spending.
- Developments in the appealed whistleblower judgment, tax examinations and provisional tax estimates, and restructuring obligations.