Business Context and Reporting Period
This Form 10-Q is filed by Greatbatch, Inc., the predecessor company to Integer Holdings Corp., for the 13-week quarter ended April 4, 2014; the comparable period ended March 29, 2013. The company reported two segments: Greatbatch Medical, which designs and manufactures medical devices and components, and QiG Group, which develops medical device systems and related technologies.
The filing was dated May 13, 2014. The financial statements are unaudited and prepared under U.S. GAAP.
Key Financial Metrics
| Metric | Q1 2014 | Q1 2013 | Change |
|---|---|---|---|
| Sales | $174.3 million | $148.3 million | +18% |
| Gross profit | $57.6 million | $48.7 million | +18% |
| Gross margin | 33.0% | 32.9% | +0.1 percentage point |
| Operating income | $22.5 million | $14.3 million | +57% |
| Operating margin | 12.9% | 9.7% | +3.2 percentage points |
| Net income | $14.9 million | $5.7 million | +163% |
| Net margin | 8.6% | 3.8% | +4.8 percentage points |
| Diluted EPS | $0.58 | $0.23 | +$0.35 |
| Operating cash flow | $7.0 million | $(7.6) million | Improved by $14.6 million |
- Greatbatch Medical sales increased 18% to $173.6 million; QiG sales increased 7% to $0.7 million.
- Cardiac/neuromodulation, orthopaedic, and vascular sales each increased 23%. Portable Medical increased 2%, while Energy, Military and Environmental sales increased 1%.
- SG&A increased 8% to $21.8 million, primarily from expanded sales and marketing resources and higher performance-based compensation.
- Net research, development and engineering expense increased 22% to $13.5 million, partly because customer reimbursements were lower and next-generation cardiac product development costs increased.
- Interest expense fell 84% to $1.1 million, primarily because the convertible subordinated notes were repaid in 2013 and debt balances and borrowing rates were lower.
- The effective tax rate increased to 32.4% from 19.9%, primarily because the federal R&D tax credit benefited the 2013 period but had not been extended for 2014.
Balance Sheet, Debt and Liquidity
- Cash and cash equivalents were $38.3 million at April 4, 2014, compared with $35.5 million at January 3, 2014. Approximately $6.1 million was held at foreign subsidiaries and considered permanently reinvested.
- Working capital was $214.8 million, compared with $190.7 million at year-end 2013; the current ratio improved to 4.07 from 3.08.
- Long-term debt was $195.0 million, consisting of a variable-rate term loan; the company had no revolving borrowings.
- The credit facility provided $300 million of available borrowing capacity. The term loan matures in September 2019 and requires quarterly principal payments.
- The company was in compliance with all debt covenants. Adjusted EBITDA to interest expense was 25.5 times versus a 3.0-times minimum, and total leverage was 1.4 times versus a maximum of 4.5 times.
- Cash used for capital expenditures was $6.0 million in the quarter. Full-year 2014 capital spending was expected to be $25 million to $35 million.
- Total contractual obligations were $273.7 million, including $216.9 million of debt obligations, $16.3 million of operating leases, and $28.7 million of purchase obligations.
Material Changes Versus the Prior Comparable Period
- Revenue growth reflected easier comparisons against the 2013 Swiss orthopaedic facility shutdown, customer order timing, customer product launches, and increased sales-force activity. Management reported 17% organic constant-currency growth.
- Operating income benefited from higher sales volumes and lower restructuring and facility-related costs. Q1 2014 also included a $2.5 million contingent payment related to the sale of non-core Swiss orthopaedic product lines.
- Adjusted operating income increased 16% to $22.3 million, while adjusted diluted EPS increased to $0.54 from $0.44.
- Operating cash flow changed from a $7.6 million use in Q1 2013 to $7.0 million provided in Q1 2014. The prior-year period included approximately $6.1 million of severance payments related to Swiss operations.
- Comprehensive income increased to $16.2 million from $3.5 million, including a $1.2 million foreign-currency translation gain compared with a $3.1 million loss in the prior-year quarter.
Guidance, Outlook, Risks and Unusual Items
- Management expected 2014 revenue and adjusted diluted EPS to be at the upper end of its guidance ranges: sales of $685 million to $705 million; GAAP operating margin of 11.0% to 11.5%; adjusted operating margin of 13.0% to 13.3%; GAAP diluted EPS of $1.94 to $1.99; and adjusted diluted EPS of $2.25 to $2.35.
- Management targeted approximately 5% organic constant-currency annual revenue growth and described more than 40 product development projects in progress.
- The spinal cord stimulation system had been submitted for FDA premarket approval in December 2013, with European CE Mark documentation submitted in January 2014. Management expected CE Mark in the second half of 2014 and FDA approval in early 2015; these were forward-looking expectations.
- Remaining restructuring, consolidation, facility optimization and ERP initiatives were expected to generate future costs but also annual savings. The company estimated $7.0 million to $7.7 million of annual savings from its operating-unit realignment and $10 million to $15 million of annual savings from orthopaedic and medical-device initiatives.
- A voluntary field corrective action was initiated for Standard Offset Cup Impactors because sterilization instructions did not meet sterility-assurance requirements. No clinical incidents or adverse events had been reported, but future complaints or regulatory actions could affect results.
- Three customers represented 48% of quarterly sales, creating customer-concentration risk. The company also cited pricing pressure, customer ordering variability, product quality and liability exposure, regulatory changes, foreign currency and interest-rate risk, supply-chain dependence, intellectual-property risk, and execution risk on consolidation and new-product programs.
- A Texas product-liability case was scheduled for trial in the second half of 2014. No reserve was recorded because a loss was not considered probable or reasonably estimable; the company had customer indemnification and insurance coverage, subject to stated limits and retention.
- The filing reported no material changes to previously disclosed risk factors, no new material legal proceedings, and no off-balance-sheet arrangements.
Important Facts for Investors to Verify
- Confirm the corporate identity and successor relationship because the filing is under Greatbatch, Inc., while the requested company is Integer Holdings Corp.
- Assess whether the unusually strong year-over-year growth benefited materially from the weak Q1 2013 comparison, order timing, and the Swiss facility transition.
- Reconcile GAAP results with adjusted metrics, particularly the $2.5 million Swiss product-line contingent payment, restructuring items, investment gains, and tax-credit assumptions.
- Monitor customer concentration, contractual price concessions, and the effect of shifting away from lower-margin Portable Medical products.
- Track regulatory progress and commercialization spending for the spinal cord stimulation system and other QiG programs.
- Evaluate debt repayment requirements, variable-rate exposure, covenant compliance, and the company’s reliance on available revolving capacity for future term-loan payments.
- Review the corrective action for Standard Offset Cup Impactors and the unresolved product-liability matter for potential financial or reputational consequences.