Balchem Corporation — Q2 2020 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2020. Dollar amounts are in thousands unless otherwise noted. Balchem develops and sells specialty ingredients and products for nutrition, food, pharmaceutical, animal health, sterilization, plant nutrition and industrial markets. In 2020, it moved from four reportable segments to three; prior-period segment information was recast.
Financial performance
| Metric | Q2 2020 | Q2 2019 | Six months 2020 | Six months 2019 |
|---|---|---|---|---|
| Net sales | $173,355 | $161,554 | $347,791 | $318,583 |
| Gross margin | $55,380 | $53,918 | $110,711 | $103,013 |
| Gross margin percentage | 31.9% | 33.4% | 31.8% | 32.3% |
| Earnings from operations | $26,917 | $26,402 | $53,195 | $52,882 |
| Operating margin | 15.5% | 16.3% | 15.3% | 16.6% |
| Net earnings | $21,125 | $19,829 | $40,893 | $38,612 |
| Diluted EPS | $0.65 | $0.61 | $1.26 | $1.19 |
Q2 sales increased 7.3% and net earnings 6.5% year over year. For the first half, sales increased 9.2% and net earnings 5.9%. Gross margin percentage and operating margin declined in both comparisons. Management attributed gross-margin pressure primarily to product mix and, in Q2, certain COVID-19 expenses; lower raw-material costs partly offset the pressure. Operating expenses rose 3.4% in Q2 and 14.7% for the first half, reflecting acquisition costs, a goodwill impairment charge and, in the first-half comparison, the prior year’s insurance recovery timing.
- Q2 segment sales: Human Nutrition & Health (HNH) $97,428, up 13.5%; Animal Nutrition & Health (ANH) $46,344, up 6.6%; Specialty Products $28,194, up 13.2%; Other and Unallocated $1,389, down 81.0%.
- Q2 segment operating earnings: HNH $15,497 versus $12,338; ANH $6,430 versus $5,045; Specialty Products $8,008 versus $8,879; Other and Unallocated $(3,018) versus $140.
Cash flow, balance sheet and liquidity
- First-half operating cash flow was $67,180, compared with $48,812 in 2019. Management cited increased earnings, CARES Act-related tax payment deferrals and working-capital changes.
- Investing cash outflow was $13,593, including $13,265 of capital expenditures and intangible asset purchases. There were no acquisitions in the first half of 2020; the comparable 2019 period included $94,690 of net cash paid for Chemogas.
- Financing cash outflow was $42,927, including $30,000 of net revolving-loan repayments and $16,704 of dividends paid. Cash increased to $76,407 from $65,672 at year-end 2019.
- At June 30, cash and current assets were $76,407 and $263,862, respectively; current liabilities were $67,960 and working capital was $195,902. The revolving loan balance was $218,569, down from $248,569 at year-end. The facility had $281,431 available and matures June 27, 2023. The company reported covenant compliance.
- Debt less cash was approximately $142,162. Cash held by foreign subsidiaries was $41,398; Balchem said it intended to reinvest those funds abroad and that repatriation for U.S. needs could result in additional withholding taxes.
Management commentary, outlook and risks
Management said all manufacturing sites were operating at near-normal conditions and that COVID-19’s demand impact in the first two quarters was not material to the company overall. It nevertheless highlighted uncertainty around the pandemic’s duration and effects on operations, supply chains, customers and transportation. The company stress-tested its balance sheet, cited cash, its undrawn credit facility and expected free cash flows as sources of resilience, and said it was reducing capital expenditures and non-critical cash expenses where possible. No quantitative full-year earnings or revenue guidance is provided in the filing.
- Balchem paused planned global ERP implementation activities during Q2 because travel restrictions prevented on-site support for scheduled go-lives. It refocused resources on optimizing sites already using the system.
- HNH growth reflected chelated minerals, choline nutrients, food and beverage sales, and the Zumbro acquisition; lower food-service-related sales and the 2019 Reading site divestiture partly offset growth. ANH benefited from higher volumes in ruminant and monogastric markets.
- Specialty Products sales benefited from Chemogas and medical-device sterilization demand, while elective-procedure declines affected legacy ethylene oxide sales. Industrial-related sales were pressured by lower shale-fracking activity.
- The company recorded a $1,228 goodwill impairment related to a business formerly included in Industrial Products. The Zumbro purchase-price allocation remained preliminary, pending final review of acquired deferred tax liabilities.
- Interest-rate exposure remains: a 100-basis-point change applied to June 30 borrowings would change annual interest expense and cash flow by approximately $2,186. The company uses interest-rate and cross-currency swaps for risk management and reported the hedges were highly effective at quarter-end.
- Management said litigation and other claims were not expected to materially affect financial position, results or liquidity. It reported no material changes to other risk factors in the 2019 Form 10-K, while adding COVID-19 as a risk.
Important facts for investors to verify
- Whether COVID-19-related demand, operating disruption and cost effects remain limited, particularly in food service, elective-procedure-linked sterilization and customer supply chains.
- Whether mix and COVID-related costs continue to constrain gross and operating margins despite sales growth and lower raw-material costs.
- How much reported growth and segment profitability reflect acquisitions, and whether Zumbro and Chemogas deliver expected benefits; also confirm the final Zumbro purchase-price allocation.
- Whether weakness in shale-fracking-related activity and the impaired Industrial Products business continues to affect Other and Unallocated results.
- Liquidity, variable-rate debt exposure, covenant compliance and the practical availability of foreign-held cash; note that Zumbro’s internal controls were excluded from management’s control assessment during this period.