Emergent BioSolutions Inc. — Q3 2018 Form 10-Q
Business context and reporting period. This unaudited quarterly filing covers the three and nine months ended September 30, 2018. Emergent develops, manufactures and sells medical countermeasures and provides contract manufacturing services. The U.S. government is its primary product customer and a major source of development funding. The filing reports one operating segment.
Financial performance and position
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $173.7 million | $149.4 million | $511.7 million | $367.1 million |
| Operating income | $21.3 million | $47.8 million | $78.6 million | $71.2 million |
| Net income | $20.9 million | $33.6 million | $66.2 million | $48.7 million |
| Diluted EPS | $0.41 | $0.68 | $1.29 | $1.03 |
| Operating margin | 12.3% | 32.0% | 15.4% | 19.4% |
- Revenue mix: Q3 product sales were $133.3 million, contract manufacturing $22.2 million, and contracts and grants $18.2 million. Nine-month amounts were $389.1 million, $72.0 million, and $50.6 million, respectively.
- Cash flow: For the first nine months, operating activities provided $207.6 million, investing activities used $48.7 million, and financing activities provided $2.7 million. Cash and cash equivalents were $339.4 million at September 30; restricted cash was an additional $1.0 million.
- Liquidity and balance sheet: Current assets were $563.1 million and current liabilities $102.0 million. Total assets were $1.174 billion and total liabilities $207.0 million. Long-term indebtedness reported at quarter-end was $13.5 million.
- Margins and expenses: Q3 cost of product sales and contract manufacturing rose 64% to $73.2 million; R&D rose 63% to $37.0 million; and SG&A rose 22% to $42.1 million. Nine-month cost of product sales and contract manufacturing was $220.4 million, R&D $90.8 million, and SG&A $121.8 million.
Material changes versus the prior comparable period
- Q3 revenue increased 16%, but operating income fell 55% and net income fell 38%. Higher costs, R&D, and SG&A more than offset revenue growth; the filing attributes much of the sales-cost increase to acquired ACAM2000 and Raxibacumab products.
- Nine-month revenue increased 39% and net income increased 36%, while operating income rose 10%. Other product sales increased substantially, including sales of acquired products; BioThrax sales declined because of delivery timing to the Strategic National Stockpile.
- Q3 BioThrax sales fell 45% to $45.9 million; nine-month BioThrax sales fell 20% to $143.7 million. Other product sales rose to $87.4 million for Q3 and $245.4 million year to date.
- Cash from operations increased from $130.6 million to $207.6 million for the nine-month period, aided by collections of receivables and lower inventory. Capital investment increased to $51.3 million before $2.6 million of asset-sale proceeds.
- Emergent adopted ASC 606 on January 1, 2018. Adoption increased deferred revenue by $42.4 million and deferred tax assets by $9.9 million, reducing opening retained earnings by $32.5 million. The company said the new standard had a nominal effect on reported revenue for the 2018 periods.
Outlook, management commentary, risks and unusual items
- Management said September 30 cash and expected resources were sufficient to support operations for the next 12 months. The filing did not provide specific full-year earnings or revenue guidance.
- At September 30, expected revenue from unsatisfied performance obligations was approximately $599 million; management expected most to be recognized within 24 months. Timing and amount depend in part on U.S. government appropriations and development progress. This excludes unexercised contract options.
- A September modification shortened the BARDA CIADM contract’s option periods from 17 to seven and set a June 2027 scheduled expiry. The company will account for the modification prospectively as a new contract.
- After quarter-end, Emergent completed the $270 million cash acquisition of PaxVax on October 4 and acquired Adapt on October 15 for approximately $575 million cash plus 733,309 shares valued at approximately $47.9 million; up to $100 million of additional cash consideration is tied to sales milestones. The acquisitions added marketed vaccines and NARCAN nasal spray, among other assets.
- To fund the acquisitions, the company drew $100 million under its prior facility for PaxVax and, after amending the credit agreement, reported $318 million of revolver borrowings and a $450 million term loan. The expanded facility provides a $600 million revolver and a $450 million term loan, with maturity in October 2023. It includes leverage and debt-service covenants; the maximum net leverage ratio is 4.00x through September 2019, stepping down thereafter, subject to specified acquisition adjustments.
- Key business risks include reliance on government procurement and appropriations, particularly for BioThrax; timing and funding of government contracts; regulatory approval and manufacturing execution; acquisition integration; and competition. Generic applicants Teva and Perrigo challenged patents covering NARCAN; the Perrigo action is subject to a 30-month FDA approval stay expected to run to March 2021 absent an earlier adverse judgment.
- A shareholder class action settlement for $6.5 million was preliminarily approved after quarter-end; the company stated its insurer would pay and defendants would make no payment. Final court approval was pending, and plaintiffs could opt out.
- The company’s effective annual tax rate estimate was 26% for the nine months, versus 32% in 2017, reflecting U.S. tax reform and other factors. It recorded an $8.7 million discrete tax benefit for the period.
Most important facts for investors to verify
- BioThrax and other government sales: delivery schedules, appropriations, and follow-on procurement contracts, particularly as BioThrax’s current contract runs through September 2021.
- Post-acquisition debt, cash usage, covenant headroom, interest expense, and the company’s ability to integrate PaxVax and Adapt and realize expected benefits.
- Revenue and profitability trends excluding acquired-product contributions, especially the sharp Q3 operating-margin decline and increased product and development costs.
- Progress and funding for the $599 million of unsatisfied performance obligations, and the revenue effects of the CIADM contract modification.
- Regulatory, supply, and patent developments affecting NARCAN, including the Teva and Perrigo generic challenges, and final approval of the shareholder settlement.