DENTSPLY International Inc. — Form 10-Q Summary
Reporting period: Three months ended March 31, 2013, compared with the three months ended March 31, 2012. The filing is for DENTSPLY International Inc., the predecessor company to the current DENTSPLY SIRONA Inc. entity. Financial statements are unaudited and prepared under U.S. GAAP.
Business Context
DENTSPLY was a global manufacturer and distributor of dental and consumable medical-device products, with sales in more than 120 countries. Approximately 89% of sales came from professional dental products. The company operated through four reportable segments: Dental Consumable and Laboratory Businesses; Orthodontics/Canada/Mexico/Japan; Select Distribution Businesses; and Implants/Endodontics/Healthcare/Pacific Rim.
Key Financial Metrics
| Metric | Q1 2013 | Q1 2012 | Change |
|---|---|---|---|
| Net sales | $732.1 million | $716.4 million | +2.2% |
| Sales excluding precious-metal content | $672.6 million | $665.6 million | +1.1% |
| Gross profit | $388.2 million | $392.8 million | -1.2% |
| Gross margin on reported sales | 53.0% | 54.8% | -180 bps |
| Gross margin excluding precious-metal content | 57.7% | 59.0% | -130 bps |
| Operating income | $93.9 million | $87.2 million | +7.7% |
| Net income attributable to DENTSPLY | $71.7 million | $53.3 million | +34.5% |
| Diluted EPS | $0.49 | $0.37 | +$0.12 |
| Adjusted diluted EPS | $0.52 | $0.52 | Flat |
| Operating cash flow | $36.1 million | $20.0 million | +$16.1 million |
Reported sales growth included a 17.1% increase in precious-metal content, which is largely passed through to customers and has limited earnings impact. Excluding precious metals, internal sales growth was 1.6%, acquisition growth was 0.1%, and currency translation reduced growth by approximately 0.6%. Management noted two fewer selling days than in the prior-year quarter.
Margins, Expenses and Segment Performance
- SG&A expense declined 3.5% to $293.7 million; SG&A as a percentage of sales excluding precious-metal content improved to 43.7% from 45.7%.
- Restructuring and other costs declined to $0.7 million from $1.2 million.
- Gross margin was pressured by the medical-device federal excise tax, unfavorable product mix, lower implant sales, higher manufacturing costs and currency effects. Pricing and efficiency improvements provided partial offsets.
- Dental Consumable and Laboratory sales were essentially flat excluding precious metals, while operating income declined $1.5 million to $61.8 million.
- Orthodontics/Canada/Mexico/Japan sales increased 2.7% and operating income improved to $1.9 million from a $0.3 million loss, partly reflecting recovery from prior supply interruptions.
- Select Distribution sales increased 3.1%, but operating loss widened modestly to $1.6 million.
- Implants/Endodontics/Healthcare/Pacific Rim sales increased 1.1%, while operating income declined 2.3% to $63.9 million, primarily because of lower implant volumes and unfavorable mix.
Profitability and Unusual Items
The effective tax rate fell to 4.5% from 20.1%. Q1 2013 included a $9.4 million benefit from U.S. federal legislative changes relating to 2012, a $1.4 million benefit from tax settlements and a $1.9 million benefit related to prior-year tax matters. Net income also benefited from lower acquisition-related costs, lower amortization and a smaller loss from the DIO Corporation investment. Adjusted EPS was unchanged at $0.52 because these benefits were offset by the absence of comparable adjustments in the prior year.
Cash Flow, Debt and Liquidity
- Cash and cash equivalents declined to $56.2 million at March 31, 2013, from $80.1 million at December 31, 2012.
- Operating cash flow was $36.1 million. Investing cash outflows were $72.7 million, including $24.0 million of capital expenditures and $45.8 million related to settlement of Swiss-franc net-investment hedges.
- Financing cash inflows were $13.6 million, including $16.1 million of increased short-term borrowings, partly offset by $9.0 million paid to acquire the remaining interest in a consolidated subsidiary and $7.9 million of dividends.
- Total debt, including current maturities, was approximately $1.52 billion at March 31, 2013, consisting of $315.4 million of current notes payable and current long-term debt and $1.21 billion of long-term debt.
- Net debt to total capitalization was 39.3% at March 31, 2013, compared with 39.0% at December 31, 2012 and 45% at March 31, 2012.
- The company had a $500.0 million multi-currency revolving credit facility, commercial-paper capacity backed by the revolver, and $75.7 million of uncommitted short-term lines. Total unused availability was approximately $511.0 million, and the company was in compliance with debt covenants.
- Management expected full-year 2013 capital expenditures of approximately $120.0 million and intended to fund 2013 current debt maturities through commercial paper and revolving facilities.
Material Changes Versus the Prior Comparable Period
- Sales increased modestly, but underlying growth excluding precious metals remained limited by currency headwinds, fewer selling days and weak implant volumes in Germany.
- Operating income and GAAP EPS improved primarily because of lower SG&A, lower acquisition-related expenses and substantially lower income taxes.
- Adjusted EPS was flat, indicating that the improvement in reported EPS was largely attributable to tax and other discrete items rather than underlying adjusted earnings growth.
- Operating cash flow increased substantially, although cash balances declined because of hedge settlements, capital expenditures and acquisition-related payments.
- Goodwill declined $43.7 million to $2.17 billion, primarily because of foreign-exchange translation. Identifiable intangible assets declined to $805.6 million.
- The company continued integrating its implant businesses, combining Germany and France sales organizations during the quarter and expecting the remaining country integrations to be completed in Q2 2013.
Outlook, Risks and Contingencies
Management maintained a long-term internal-growth target of 3% to 6%, while noting that dental-market growth could be affected by economic conditions, particularly restrained Western European demand. The company planned to focus near-term on integrating recent acquisitions, improving operating efficiency, developing new products and reducing debt.
- Foreign-exchange exposure is significant because approximately two-thirds of sales were generated outside the United States. The company used foreign-currency, interest-rate and commodity derivatives to manage risk.
- Implant integration and sales-force consolidation could temporarily reduce sales and increase execution risk, although management expected future benefits.
- Gross margins remained exposed to product mix, implant volumes, manufacturing costs, medical-device excise taxes, precious-metal prices and currency movements.
- Pending Cavitron-related class actions were not considered probable losses, and a reasonable loss range could not be estimated. An unfavorable resolution could materially affect results.
- The company was cooperating with U.S. authorities regarding potential export-control and economic-sanctions compliance matters. The outcome and potential financial impact could not be predicted; fines, penalties, injunctions or civil or criminal proceedings were possible.
- The company held $112.3 million of precious metals on consignment. Loss of these arrangements could require third-party financing to fund inventory.
- Management stated that no significant changes had occurred in previously disclosed risk factors, market risks or internal controls.
Investor Verification Checklist
- Verify whether the unusually low 4.5% effective tax rate and related discrete tax benefits recur in subsequent periods.
- Assess organic sales growth and margin recovery excluding precious-metal content, currency effects and acquisition impacts.
- Monitor the financial and operational results of the implant-business integration, especially in Europe.
- Reconcile cash generation with capital expenditures, hedge settlements, acquisition payments and debt changes.
- Review debt maturities, commercial-paper reliance, covenant headroom and the company’s planned debt reduction.
- Track developments in the Cavitron litigation and export-control or sanctions inquiries.
- Evaluate foreign-exchange sensitivity and the fair-value exposure of cross-currency swaps and other derivatives.