Orthofix International N.V. — Q2 2012 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2012. The filing identifies the registrant as Orthofix International N.V. (rather than Orthofix Medical Inc.). Orthofix develops and sells medical devices and regenerative products for spine and orthopedic markets. Following its May 24, 2012 sale of Breg, the former Sports Medicine business is reported as discontinued operations.
Financial performance
Amounts below are in U.S. dollars; financial statement amounts are in millions unless otherwise noted.
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Net sales, continuing operations | $119.5 | $116.7 | $235.5 | $229.7 |
| Gross profit / margin | $95.8 / 80.2% | $93.5 / 80.1% | $189.9 / 80.6% | $184.2 / 80.2% |
| Operating income (loss) | $20.6 | $19.4 | $43.0 | ($8.1) |
| Continuing-operations net income (loss), after tax | $14.0 | $10.5 | $26.2 | ($26.2) |
| Net income (loss), including discontinued operations | $11.2 | $10.0 | $23.2 | ($25.8) |
| Diluted EPS | $0.58 | $0.54 | $1.21 | ($1.43) |
- Q2 sales increased 2% reported and 5% at constant currency; first-half sales increased 3% reported and 4% at constant currency. Foreign exchange reduced sales by $3.3 million in Q2 and $4.5 million in the first half.
- Spine sales rose 7% in Q2 and 5% in the first half, led by regenerative stimulation and biologics. Orthopedics sales declined 6% and 2% reported, respectively, but grew 2% and 3% at constant currency.
- First-half operating results improved substantially against 2011, when the company recorded $46 million of government-resolution charges. Q2 2012 included $1.4 million of imputed interest on government settlements and a $3.1 million arbitration charge in R&D.
- Net income included discontinued-operations losses after tax of $2.8 million for Q2 and $3.0 million for the first half. The first half also included a $1.0 million after-tax gain on Breg’s sale.
Cash flow, liquidity and debt
- First-half operating cash flow was $57.8 million, versus $23.4 million a year earlier. Investing activities provided $140.1 million, principally from Breg sale proceeds; financing activities used $180.9 million, largely reflecting debt repayments.
- Cash and cash equivalents were $50.1 million at June 30; restricted cash was $72.9 million, for combined cash and restricted cash of approximately $123.0 million. Restricted cash is subject to credit-agreement restrictions, and $32 million of escrow proceeds was earmarked for the proposed Blackstone settlement.
- The company used Breg proceeds to repay the remaining $87.5 million term loan and reduce revolving borrowings. At quarter-end, long-term debt was $40.0 million, with $0.5 million of bank borrowings; the $100 million term loan was fully repaid. The revolving facility had $160 million available, subject to its terms and covenants. Its outstanding balance bore interest at LIBOR plus 3.00%, with a 3.3% effective rate.
- Management said cash, projected operating cash flow, available revolver capacity, Italian credit lines and debt capacity were expected to cover settlement payments and near-term working-capital, capital-expenditure and R&D needs. The company reported covenant compliance at June 30.
- Receivables days outstanding increased to 114 days from 99 days year over year; management cited MTF-related working-capital investment and temporary billing delays following system and office changes. Inventory turns improved to 1.2 from 1.1.
Material changes, outlook and risks
- Breg divestiture: Sold for $157.5 million cash; net proceeds were $153.1 million. The sale completed Orthofix’s exit from Sports Medicine. The company retained transition-service obligations and specified indemnification obligations.
- Government matters: A June 2012 settlement resolved claims related to regenerative stimulation products, with $34.2 million plus 3% interest payable; Orthofix Inc. also agreed to a $7.8 million criminal fine and a plea agreement that remained subject to court approval. A separate proposed $32 million Blackstone resolution remained under discussion, which the company expected to fund from escrow. Accrued charges related to government resolutions were $83.9 million at June 30.
- Promeca/FCPA: Definitive SEC and DOJ agreements were entered into in July 2012, after quarter-end, and remained subject to court review. They provide for $5.2 million disgorgement and a $2.2 million fine; the company reported paying the DOJ amount in July. The DOJ deferred prosecution agreement runs for three years.
- A five-year HHS-OIG Corporate Integrity Agreement requires ongoing compliance, training, monitoring and reporting. Breach could lead to monetary penalties or exclusion from federal healthcare programs. The filing warns that settlement approvals, investigations and litigation could produce additional costs or business impacts.
- Breg-related product-liability and government-investigation indemnities remain potential exposures that the company said it could not reasonably estimate. A July 2012 cold-therapy verdict awarded approximately $2.0 million in compensatory damages; the company expected insurance coverage for that amount, while possible exemplary damages may not be insured. A $2.0 million indemnification accrual was recorded.
- No numeric sales, earnings or other financial guidance is provided. Management cautions that interim results are not necessarily indicative of full-year results. Other exposures include foreign-exchange movements and floating-rate debt; a one-percentage-point interest-rate change was estimated to affect annual interest expense by about $0.4 million.
Key facts for investors to verify
- Whether courts approve the pending plea, settlement and Promeca agreements, and the timing and funding of related payments.
- Accessibility and permitted use of restricted cash, remaining revolver capacity, covenant headroom and actual post-settlement liquidity.
- Collection trends in receivables and whether DSO returns toward prior levels after the cited billing delays.
- Potential costs from Breg indemnities, product-liability claims and related insurance disputes, including any exemplary damages.
- Whether Spine growth and Orthopedics performance persist, and the continuing effects of currency movements and the post-Breg business mix.