Phibro Animal Health Corporation: Fiscal 2019 Third-Quarter Form 10-Q Summary
Reporting period: The filing is a quarterly report for the three and nine months ended March 31, 2019, compared with the corresponding 2018 periods. Although the request identifies “2018 Q3,” the filing period is fiscal 2019 third quarter. Financial statements are unaudited.
Business Context
Phibro develops, manufactures and markets animal health, mineral nutrition and performance products globally. Its segments are Animal Health, Mineral Nutrition and Performance Products. Animal Health includes medicated feed additives, nutritional specialties and vaccines; Performance Products serve personal care, industrial chemical and chemical catalyst markets.
Key Financial Metrics
| Metric | Three months ended March 31, 2019 | Change vs. 2018 | Nine months ended March 31, 2019 | Change vs. 2018 |
|---|---|---|---|---|
| Net sales | $205.7 million | Down 2% | $624.1 million | Up 3% |
| Gross profit | $64.9 million | Down 6% | $199.3 million | Approximately flat |
| Gross margin | 31.5% | Down from 33.1% | 31.9% | Down from 32.8% |
| Operating income | $22.6 million | Down 15% | $71.1 million | Down 2% |
| Net income | $14.8 million | Down 25% | $45.9 million | Up 7% |
| Diluted EPS | $0.37 | Down from $0.49 | $1.13 | Up from $1.06 |
| Adjusted EBITDA | $30.0 million | Down 10% | $91.7 million | Down 4% |
Cash flow: Nine-month operating cash flow was $32.3 million, down from $59.9 million. Accounts receivable used $17.9 million of cash, inventories used $13.5 million, and other current assets used $4.1 million. Capital expenditures were $19.8 million and business acquisitions used $9.8 million.
Liquidity: Cash and cash equivalents were $35.9 million and short-term investments were $49.0 million at March 31, 2019, for total cash and short-term investments of $84.9 million. Working capital was $246.9 million, and the reported current-assets-to-current-liabilities ratio was 3.06:1.
Debt: The company had $96.0 million outstanding under its revolving credit facility, $234.4 million of gross term and lease debt before unamortized costs and current maturities, and approximately $3.3 million of letters of credit. Revolver availability was $150.7 million. The Credit Facilities mature June 29, 2022, and the company reported compliance with its covenants.
Dividends: The board declared a $0.12 per share quarterly dividend payable June 26, 2019. Management expects future quarterly dividends of $0.12 per share, or approximately $19.4 million annually, subject to board approval.
Material Changes Versus the Prior Comparable Period
- Third-quarter sales declined primarily because of lower Animal Health and Mineral Nutrition revenue. Performance Products grew 16%.
- Animal Health sales fell 2% in the quarter. MFAs and other products increased 1%, while nutritional specialties declined 10% and vaccines declined 6%.
- Nine-month Animal Health sales increased 2%, led by MFAs and other products, but nutritional specialties and vaccines declined.
- Third-quarter gross margin declined 160 basis points, primarily because of lower volumes and unfavorable product mix in Animal Health.
- Third-quarter net income and Adjusted EBITDA declined despite lower SG&A and slightly lower net interest expense.
- Nine-month net income increased because income tax expense was $5.4 million lower than in the prior year, partially offset by lower operating income and reduced foreign currency gains.
- Mineral Nutrition nine-month Adjusted EBITDA declined 19% because of unfavorable product mix and constrained pricing in a competitive environment.
- Performance Products nine-month sales increased 17% and Adjusted EBITDA increased $2.7 million, supported by volume growth, favorable mix and manufacturing efficiencies.
- Corporate costs increased $4.0 million for the nine-month period, including higher business development and public-company costs associated with strengthening and testing controls over financial reporting.
Guidance, Outlook, Risks and Unusual Items
The filing does not provide specific revenue, earnings or Adjusted EBITDA guidance. Management states that cash on hand, operating cash flow and financing arrangements are expected to support future cash needs and that the operating plan projects adequate liquidity, while noting that adverse operating results, covenant violations, economic disruptions or difficulty obtaining financing could impair liquidity.
- The company adopted the revenue recognition standard under ASC 606 on July 1, 2018 using the modified retrospective method. Management states that adoption did not materially affect reported sales or retained earnings.
- Tax results included 2019 benefits from foreign tax credits and adjustments to the transition tax, partly offset by GILTI expense. These items affected comparability with 2018.
- The company completed the accelerated purchase of the MJ Biologics vaccine business in July 2018, paying $9.0 million then and $3.8 million in January 2019.
- Management identified material weaknesses in internal control over financial reporting. Disclosure controls were therefore not effective as of March 31, 2019. Remediation efforts continued, but management could not determine when remediation would be complete or assure its success.
- Environmental liabilities include estimated investigation, remediation and closure costs of $6.1 million. The company is also involved in an EPA-related Superfund groundwater matter and related litigation for which ultimate liability cannot currently be estimated with certainty.
- Key operating risks include restrictions on antibacterials, animal disease outbreaks, weather and commodity volatility, regulatory and product approval risks, competition, foreign currency movements, customer consolidation, manufacturing dependence and substantial indebtedness.
- The company uses an interest-rate swap on $150 million of notional debt and foreign currency options to hedge exposures, but does not eliminate all effects of changing market conditions.
Most Important Facts for Investors to Verify
- Whether the decline in Animal Health nutritional specialty and vaccine demand persists, particularly in dairy, poultry and international markets.
- Whether gross margins recover from the quarter’s 31.5% level and whether Mineral Nutrition pricing and product mix improve.
- Progress and final effectiveness of remediation for the disclosed material weaknesses in internal controls.
- Operating cash conversion, especially the impact of receivables and inventory growth on liquidity.
- Revolver utilization, interest rates, covenant headroom and scheduled debt maturities through the June 2022 Credit Facilities maturity.
- The sustainability of the $0.12 quarterly dividend in light of operating cash flow, capital expenditures, acquisitions and debt service.
- Potential costs and timing associated with environmental investigations, remediation and related litigation.
- The effect of tax benefits, foreign currency gains or losses, and other unusual items on reported net income and comparability.