Charles River Laboratories International, Inc. — Q3 2010 Form 10-Q
Business context and reporting period. Unaudited results cover the quarter and nine months ended September 25, 2010, compared with the periods ended September 26, 2009. Charles River provides research models and related services (RMS) and outsourced preclinical services (PCS) to drug developers and other customers.
Financial performance and liquidity
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Net sales | $276.1m | $297.5m | $865.5m | $907.2m |
| Gross margin | 32.9% | 35.8% | 33.6% | 36.3% |
| Operating income | $5.1m | $44.4m | $62.8m | $135.0m |
| Operating margin | 1.9% | 14.9% | 7.3% | 14.9% |
| Net income (loss) attributable to common shareholders | $(24.9)m | $37.3m | $6.9m | $96.9m |
| Diluted EPS | $(0.40) | $0.57 | $0.11 | $1.47 |
- Revenue and segments: Q3 sales fell 7.2%; nine-month sales fell 4.6%. Q3 RMS sales declined 2.5%, while PCS sales declined 12.9%. Nine-month RMS sales rose 1.7%; PCS sales fell 11.9%.
- Cash flow: Nine-month operating cash flow was $101.4m, down from $155.3m. Investing activities provided $17.4m, versus $147.2m used in 2009; capital expenditures were $26.9m. Financing activities used $153.5m, including $356.4m for treasury shares and ASR-related purchases.
- Liquidity and debt: Cash was $137.4m at September 25, down from $182.6m at year-end 2009; current assets were $527.3m and current liabilities $237.4m. Total debt and capital leases were $718.9m, versus $492.8m at year-end. The company reported compliance with financial covenants.
Material changes and unusual items
- The $30.0m fee to terminate the proposed WuXi PharmaTech acquisition was recorded in Q3 and reduced operating income. The acquisition agreement was terminated July 29, 2010, with mutual releases.
- Q3 interest expense increased to $12.6m from $5.6m; nine-month expense rose to $25.8m from $16.2m, reflecting increased borrowing, financing fees and higher rates.
- The Q3 tax provision was $16.3m despite a pretax loss; the reported effective tax rate was (182.5)%. The company cited the non-deductible termination fee and tax costs related to changing its indefinite-reinvestment assertion for certain foreign earnings. It repatriated approximately $292m to help fund the ASR and termination payment.
- On August 26, the company replaced prior credit arrangements with a $750m facility maturing in 2015, including $400m of term loans and a $350m revolver. Rates are higher than under the prior facilities; substantially all assets secure the facility. A hypothetical 100-basis-point rate increase was estimated to add approximately $7.6m of annual pretax interest expense.
- The company paid $300m under an accelerated share repurchase program and received 6.75m shares by quarter-end; final shares or a cash adjustment depend on the program’s pricing calculation. It also repurchased shares on the open market. The board later raised the total repurchase authorization to $750m.
Outlook, commentary and risks
- Management described continued softness in customer demand, citing constrained pharmaceutical and biotechnology spending, industry consolidation, delayed customer decisions, pricing pressure and a focus on later-stage development. The timing of a recovery, particularly for PCS, remained uncertain.
- For Q4 2010, the company planned approximately 4% workforce reductions, further discretionary-spending cuts, closure of a leased PCS site in Quebec and consolidation of a Michigan DIS operation with its North Carolina facility. Management expected approximately $40m in annual savings beginning in 2011 and a one-time charge of approximately $15m, principally in Q4. The impairment analysis for Michigan DIS intangibles was not complete.
- DSO rose to 52 days from 43 days at year-end 2009; management attributed the change mainly to slower collections and lower deferred revenue, and estimated that one DSO day represents about $3m of operating cash flow.
- Auction-rate securities totaled $11.3m and may not be readily convertible to cash if auctions continue to fail. Management said it did not expect this limitation to affect normal operations, based on other liquidity sources.
- The company was contesting Canadian and Quebec tax-credit reassessments; management did not expect resolution to materially affect financial position or results, but noted similar adjustments could be proposed for later years. Routine litigation was also pending; management said it was not expected to have a material effect.
- Management stated that disclosure controls were effective. ERP implementation continued across locations; the filing reported no material control change other than process-control modifications associated with implementation.
Important facts for investors to verify
- Whether PCS demand, pricing and study mix improve, and whether Q4 cost actions deliver the projected savings without additional impairment charges.
- The final ASR share settlement and any further buybacks under the expanded authorization, alongside the resulting debt, cash and diluted-share impact.
- Cash collections and DSO trends, operating cash generation, and compliance headroom under the secured credit facility.
- The tax and cash consequences of foreign-earnings repatriation and the outcomes of Canadian and Quebec tax-credit disputes.
- Valuation and liquidity of auction-rate securities, and the effect of interest-rate and foreign-exchange movements.