UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
☒
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2016, or
☐
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 0-17272
BIO-TECHNE CORPORATION
(Exact name of registrant as specified in its charter)
Minnesota
41-1427402
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer
Identification No.)
614 McKinley Place N.E.
Minneapolis, MN 55413
(612) 379-8854
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer", "accelerated filer" and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
Indicate by check mark whether the Registrant is a shell company (as defined in Exchange Act Rule 12b-2). ☐ Yes ☒ No
At November 4, 2016, 37,309,642 shares of the Company's Common Stock (par value $0.01) were outstanding.
TABLE OF CONTENTS
Page
PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements (Unaudited)
1
Item 2.
Management's Discussion and Analysis of Financial Condition and Results of Operations
11
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
18
Item 4.
Controls and Procedures
19
PART II: OTHER INFORMATION
Legal Proceedings
20
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Item 5.
Other Information
Item 6.
Exhibits
SIGNATURES
21
ITEM 1. FINANCIAL STATEMENTS
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
AND COMPREHENSIVE INCOME
Bio-Techne Corporation and Subsidiaries
(in thousands, except per share data)
(unaudited)
Quarter Ended
September 30,
2016
2015
Net sales
Cost of sales
Gross margin
Operating expenses:
Selling, general and administrative
Research and development
Total operating expenses
Operating income
Other (expense) income
)
Earnings before income taxes
Income taxes
Net earnings
Other comprehensive (loss) income:
Foreign currency translation adjustments
Unrealized gains and losses on available-for-sale investments, net of tax of ($171) and $3,752, respectively
Other comprehensive (loss) income
Comprehensive income (loss)
Earnings per share:
Basic
Diluted
Cash dividends per common share:
Weighted average common shares outstanding:
See Notes to Condensed Consolidated Financial Statements.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share data)
September 30,2016(unaudited)
June 30,2016
ASSETS
Current assets:
Cash and cash equivalents
Short-term available-for-sale investments
Accounts receivable, less allowance for doubtful accounts of $626 and $555, respectively
Inventories
Prepaid expenses
Total current assets
Property and equipment, net
Intangible assets, net
Goodwill
Other assets
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current liabilities:
Trade accounts payable
Salaries, wages and related accruals
Accrued expenses
Contingent consideration payable
Income taxes payable
Deferred revenue, current
Related party note payable, current
Total current liabilities
Deferred income taxes
Long-term debt obligations
Other long-term liabilities
Shareholders’ equity:
Common stock, par value $.01 per share; authorized 100,000,000; issued and outstanding 37,301,380 and 37, 253,771, respectively
Additional paid-in capital
Retained earnings
Accumulated other comprehensive loss
Total shareholders’ equity
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Adjustments to reconcile net earnings to net cash provided by operating activities:
Depreciation and amortization
Costs recognized on sale of acquired inventory
Stock-based compensation expense
Fair value adjustment to contingent consideration payable
Other
Change in operating assets and operating liabilities, net of acquisition:
Trade accounts and other receivables
Trade accounts payable and accrued expenses
Net cash provided by operating activities
CASH FLOWS FROM INVESTING ACTIVITIES:
Acquisitions, net of cash acquired
Proceeds from available-for-sale investments
Additions to property and equipment
Net cash used in investing activities
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash dividends
Proceeds from stock option exercises
Excess tax benefit from stock option exercises
Borrowings under line-of-credit agreement
Payments on line-of-credit
Net cash provided by financing activities
Effect of exchange rate changes on cash and cash equivalents
Net increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Basis of Presentation and Summary of Significant Accounting Policies:
The interim consolidated financial statements of Bio-Techne Corporation and subsidiaries, (the Company) presented here have been prepared by the Company and are unaudited. They have been prepared in accordance with accounting principles generally accepted in the United States of America and with instructions to Form 10-Q and Article 10 of Regulation S-X. They reflect all adjustments which are, in the opinion of management, necessary for a fair presentation of the results for the interim periods presented. All such adjustments are of a normal recurring nature.
Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. These interim unaudited condensed consolidated financial statements should be read in conjunction with the Company’s Consolidated Financial Statements and Notes thereto for the fiscal year ended June 30, 2016, included in the Company’s Annual Report on Form 10-K for fiscal 2016. A summary of significant accounting policies followed by the Company is detailed in the Company’s Annual Report on Form 10-K for fiscal 2016. The Company follows these policies in preparation of the interim unaudited condensed consolidated financial statements.
Available-For-Sale Investments:
The Company’s available-for-sale securities are carried at fair value using Level 1 inputs. The fair value of the Company’s available-for-sale investments at September 30, 2016 and June 30, 2016 were $52.4 million and $31.6 million, respectively. The increase was caused by the addition of $5.7 million in securities held by Advanced Cell Diagnostics (ACD), and the investment of $5.2 million of available cash in China into certificates of deposit. The remaining $9.9 million is due to the change in the fair value of the Company’s investment in ChemoCentryx, Inc. (CCXI). The amortized cost basis of the Company’s investment is CCXI at September 30, 2016 and June 30, 2016 was $29.5 million.
Inventories:
Inventories consist of (in thousands):
June 30,
Raw materials
Finished goods
Inventories, net
The increase from June 30 is primarily due to $12.8 million of additional inventory at ACD, which is adjusted to its fair value as of the date of acquisition. At both September 30, 2016 and June 30, 2016, the Company had approximately $24 million of excess protein, antibody and chemically-based inventory on hand which was not valued.
Property and Equipment:
Property and equipment consist of (in thousands):
Land
Buildings and improvements
Machinery and equipment
Property and equipment, cost
Accumulated depreciation and amortization
Intangible Assets:
Intangible assets consist of (in thousands):
Developed technology
Trade names
Customer relationships
Non-compete agreements
Intangible assets
Accumulated amortization
In Process Research and Development
Changes to the carrying amount of net intangible assets for the quarter ended September 30, 2016 consist of (in thousands):
Beginning balance
Acquisitions
Amortization expense
Currency translation
Ending balance
The estimated future amortization expense for intangible assets as of September 30, 2016 is as follows (in thousands):
2017
2018
2019
2020
2021
2022
Thereafter
Goodwill:
Changes to the carrying amount of goodwill for the quarter ended September 30, 2016 consist of (in thousands):
Pronouncements Issued But Not Yet Adopted
In May 2014, the FASB issued guidance addressing how revenue is recognized from contracts with customers and related disclosures. This standard supersedes existing revenue recognition requirements and most industry-specific guidance. This standard was initially expected to be effective for us beginning July 1, 2017, and provides for either full retrospective adoption or a modified retrospective adoption by which the cumulative effect of the change is recognized in retained earnings at the date of initial application. In July 2015, the FASB approved the deferral of the effective date of this standard by one year, and allows for adoption either at July 1, 2017 or July 1, 2018. We intend to elect the deferred adoption date of July 1, 2018. We are currently evaluating the requirements of this guidance, and have not yet determined the implementation method nor the impact on our consolidated financial statements.
In February 2016, the FASB issued guidance which requires recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. This guidance is effective for us beginning July 1, 2019, with early adoption permitted. The provisions of this guidance are to be applied using a modified retrospective approach, which requires application of the guidance for all periods presented. We are currently evaluating the impact that this guidance will have on our consolidated financial statements.
In March 2016, the FASB issued guidance which simplifies several aspects of the accounting for share-based payment transactions, including certain income tax consequences, classifications on the statement of cash flows, and accounting for forfeitures. The guidance is effective for us beginning July 1, 2017, and early application is permitted. We are currently evaluating the adoption date and the effects this standard will have on our consolidated financial statements.
The Company’s acquisitions have historically been made at prices above the fair value of the acquired identifiable assets, resulting in goodwill. The goodwill is due to strategic benefits of growing the Company’s product portfolio, expected revenue growth from the increased market penetration from future products and customers, and expectations of synergies that will be realized by combining the businesses. Acquisitions have been accounted for using the purchase method of accounting and the acquired companies’ results have been included in the accompanying financial statements from their respective dates of acquisition. Acquisition costs are recorded in selling, general and administrative expenses as incurred.
Zephyrus Biosciences, Inc.
On March 14, 2016, the Company acquired Zephyrus Biosciences, Inc. (Zephyrus) for $8 million in cash and up to $7 million in contingent consideration. Zephyrus provides research tools to enable protein analysis at the single cell level. Addressing the burgeoning single cell analysis market, Zephyrus's first product, Milo™, enables western blotting on individual cells for the first time.
In connection with the Zephyrus acquisition, the Company initially recorded $7.4 million of in process research and development which was not amortized. This amount was revalued to $8.3 million and converted to developed technology during the quarter. This reclassification occurred because the sale of product associated with the technology was completed during the quarter.
The Company will pay Zephyrus former shareholders an additional $3.5 million if and when 10 instruments are sold prior to the 3 year anniversary of the closing date (March 14, 2019). In addition, the Company will pay Zephyrus former shareholders an additional $3.5 million if and when $3 million in cumulative sales are generated within 4.5 yrs of the closing date (September 14, 2020). We have established an initial estimate of the fair value of these contingent consideration payments to be $6.9 million in total. This fair value was estimated using a Monte Carlo simulation, the significant inputs of which included projected revenues and unit sales, volatility considerations with respect to these projections, and present value discount factors.
The goodwill recorded as a result of the Zephyrus acquisition represents the strategic benefits of growing the Company’s product portfolio and the expected revenue growth from increased market penetration from future products and customers. The goodwill is not deductible for income tax purposes.
Space Import-Export, Srl
On July 1, 2016 Bio-Techne acquired Space Import-Export, Srl (Space) of Milan, Italy for the equivalent of approximately $9 million. Space is a long and trusted partner of Bio-Techne, distributing its products since 1985 and creating a very effective and visible presence in the Italian market.
The goodwill recorded as a result of the Space acquisition represents the strategic benefits of the expected revenue growth from increased market penetration from future customers. The goodwill is not deductible for income tax purposes.
Advanced Cell Diagnostics
On August 1, 2016, Bio-Techne closed on the acquisition of ACD for approximately $250 million, net of cash received, plus contingent consideration of up to $75 million as follows:
●
$25 million can be earned if calendar year 2016 revenues equal or exceed $30 million.
an additional $50 million can be earned if calendar year 2017 revenues equal or exceed $45 million.
If the revenue hurdle related to the 2016 calendar year is not met, the $25 million can be earned if the calendar year 2017 revenue hurdle is met. If the 2016 revenue hurdle is met, and calendar year 2017 revenues exceed $40 million but are less than $45 million, a reduced earn-out payment will be made for calendar year 2017, calculated on a sliding scale.
Based on specifics above, management estimated the fair value of the contingent consideration payable using a Monte Carlo simulation, the significant inputs of which included projected revenues, volatility considerations with respect to these projections, and present value discount factors. This simulation resulted in a valuation of $38.2 million and $40.1 million as of the August 1, 2016 (the acquisition date) and September 30, 2016, respectively. The change of $1.9 million was recorded as an expense to selling, general, and administrative expenses during the quarter ended September 30, 2016.
The goodwill recorded as a result of the ACD acquisition represents the strategic benefits of growing the Company’s product portfolio and the expected revenue growth from increased market penetration from future products and customers. The goodwill is not deductible for income tax purposes.
The preliminary estimated fair value of the assets acquired and liabilities assumed in each acquisition, pending final valuation of intangible assets, are as follows (in thousands):
ACD
Space
Current assets, net of cash
Equipment
Other long-term assets
Intangible assets:
Trade name
Non-compete agreement
Total assets acquired
Liabilities
Deferred income taxes, net
Net assets acquired
Cash paid, net of cash acquired
Fair value contingent consideration
Tangible assets acquired, net of liabilities assumed, were stated at fair value at the date of acquisition based on management’s assessment. The purchase price allocated to developed technology, trade names, and customer relationships was based on management’s forecasted cash inflows and outflows and using a relief-from-royalty and a multi-period excess earnings method to calculate the fair value of assets purchased. The developed technology is being amortized with the expense reflected in cost of goods sold in the Condensed Consolidated Statement of Earnings and Comprehensive Income. Amortization expense related to trade names, and customer relationships is reflected in selling, general and administrative expenses in the Consolidated Statement of Earnings and Comprehensive Income. The amortization periods for intangible assets acquired in fiscal 2017 are estimated to be 15 years for developed technology, 7.5 years for trade names, 10 years for customer relationships, and 2 years for non-competes. The deferred income tax liability represents the net amount of the estimated future impact of adjustments for costs to be recognized upon the sale of acquired inventory that was written up to fair value and intangible asset amortization, both of which are not deductible for income tax purposes.
As previously disclosed, ACD was acquired on August 1, 2016. The unaudited pro forma financial information below summarizes the combined results of operations for Bio-Techne and ACD as though the companies were combined as of the beginning fiscal 2016. The pro forma financial information for all periods presented includes the purchase accounting effects resulting from these acquisitions except for the increase in inventory to fair value and the fair value adjustments to contingent consideration as these are not expected to have a continuing impact on cost of goods sold or selling, general and administrative expense, respectively. The pro forma financial information as presented below is for informational purposes only and is not indicative of the results of operations that would have been achieved if the acquisitions had taken place at the beginning of fiscal 2016.
Net income
Note 3. Segment Information:
The Company's management evaluates segment operating performance based on operating income before certain charges to cost of sales and selling, general and administrative expenses, principally associated with acquisition accounting related to inventory, amortization of acquisition-related intangible assets and other acquisition-related expenses.
Beginning in the first quarter of fiscal 2017, the Clinical Controls segment has been renamed Diagnostics. Our original business in this segment was focused on controls and calibrators for hematology clinical instruments. With the acquisition of Bionostics in fiscal 2014 and Cliniqa in fiscal 2016, we expanded this segment to include blood chemistry and blood gases quality controls as well as other bulk and custom reagents for the in vitro diagnostic market. We renamed the operating segment to reflect this expanded portfolio of products.
The following is financial information relating to the Company's reportable segments (in thousands):
Biotechnology
Diagnostics
Protein Platforms
Inter segment
Consolidated net sales
Segment operating income
Subtotal reportable segments
Cost recognized on sale of acquired inventory
Amortization of acquisition related intangible assets
Acquisition related expenses
Stock-based compensation
Corporate general and administrative
Consolidated operating income
Note 4. Share-based Compensation:
During the quarters ended September 30, 2016 and 2015, the Company granted 1.0 million and 736,000 stock options at weighted average grant prices of $107.60 and $106.66 and weighted average fair values of $17.98 and $18.48, respectively. During the quarters ended September 30, 2016 and 2015, the Company granted 65,000 and 35,000 restricted stock units at a weighted average fair value of $109.36 and $105.01, respectively. During the quarters ended September 30, 2016 and 2015 the Company granted 17,000 and 12,000 shares of restricted common stock at a fair value of $106.59 and $108.49, respectively.
Stock-based compensation expense of $3.2 million and $2.0 million was included in selling, general and administrative expenses for the quarters ended September 30, 2016 and 2015, respectively. As of September 30, 2016, there was $35.2 million of unrecognized compensation cost related to non-vested stock options, non-vested restricted stock units and non-vested restricted stock. The weighted average period over which the compensation cost is expected to be recognized is 2.9 years.
Stock options for 22,000 and 12,500 shares of common stock with total intrinsic values of $0.9 million and $0.5 million were exercised during the quarters ended September 30, 2016 and 2015, respectively.
Note 5. Other (Expense) / Income:
The components of other (expense) income in the accompanying Statement of Earnings and Comprehensive Income are as follows:
Interest expense
Interest income
Other non-operating expense, net
Other (expense) / income
Note 6. Earnings Per Share:
Shares used in the earnings per share computations are as follows (in thousands):
Weighted average common shares outstanding-basic
Dilutive effect of stock options
Weighted average common shares outstanding-diluted
The dilutive effect of stock options in the above table excludes all options for which the aggregate exercise proceeds exceeded the average market price for the period. The number of potentially dilutive option shares excluded from the calculation was 1.2 million for the quarters ended September 30, 2016 and 2015, respectively.
Note 7. Accumulated Other Comprehensive Income:
Changes in accumulated other comprehensive income (loss), net of tax, for the quarter ended September 30, 2016 consists of (in thousands):
UnrealizedGains(Losses) onAvailable-for-SaleInvestments
ForeignCurrencyTranslationAdjustments
Total
Other comprehensive income
Note 8. Debt and Other Financing Arrangements:
The Company entered into a new revolving line-of-credit facility governed by a Credit Agreement (the Credit Agreement) dated July 28, 2016. The Credit Agreement provides for a revolving credit facility of $400 million, which can be increased by an additional $200 million subject to certain conditions. Borrowings under the Credit Agreement may be used for working capital and expenditures of the Company and its subsidiaries, including financing permitted acquisitions. Borrowings under the Credit Agreement for base rate loans bear interest at a variable rate equal to the greater of (i) the prime commercial rate, (ii) the per annum federal funds rate plus 0.5%, or (iii) LIBOR + 1.00% - 1.75% depending on the existing total leverage ratio of Debt to Earnings Before Interest, Taxes, Depreciation and Amortization (as defined in the Credit Agreement). The annualized fee for any unused portion of the credit facility is currently 15 basis points.
The Credit Agreement matures on July 28, 2021 and contains customary restrictive and financial covenants and customary events of default. As of September 30, 2016, the outstanding balance under the Credit Agreement was $343.5 million.
Note 9. Subsequent Event:
None.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Bio-Techne Corporation and its subsidiaries operate worldwide with three reportable business segments, Biotechnology, Diagnostics and Protein Platforms, all of which service the life science and diagnostic markets. The Biotechnology reporting segment provides proteins, antibodies, immunoassays, flow cytometry products, intracellular signaling products, and biologically active chemical compounds used in biological research. The Diagnostics reporting segment provides a range of controls and calibrators used with diagnostic equipment and as proficiency testing tools, as well as other reagents incorporated into diagnostic kits. The Protein Platforms reporting segment develops and commercializes proprietary systems and consumables for protein analysis.
RECENT ACQUISITIONS
A key component of the Company's strategy is to augment internal growth at existing businesses with complementary acquisitions.
On July 1, 2016, Bio-Techne acquired Space Import-Export Srl (Space) of Milan, Italy for the equivalent of approximately $9 million. Space had been a partner of Bio-Techne, distributing its products since 1985 in the Italian market.
On August 1, 2016, Bio-Techne closed on the acquisition of Advanced Cell Diagnostics (ACD) for $250 million in cash plus contingent consideration of up to $75 million due upon the achievement of certain milestones. ACD’s RNA-ISH technology facilitates and improves the monitoring of gene expression patterns and has usefulness in both the research and diagnostics markets.
RESULTS OF OPERATIONS
Consolidated net sales increased 16% for the quarter ended September 30, 2016 compared to the quarter ended September 30, 2015. Consolidated net sales for the quarter ended September 30, 2016 were affected by the Space and ACD acquisitions. Organic growth was 10% versus the prior year, with currency translation having a negative impact of 1% and acquisitions contributing 7%.
Consolidated net earnings decreased 20% for the quarter ended September 30, 2016 compared to the same prior-year period result mainly due to increased acquisition-related intangible amortization, and costs recognized upon sale of acquired inventory and acquisition-related expenses.
The adjusted financial measures discussed below quantify the impact the following events had on reported net sales, gross margin percentages, operating income and net earnings for the quarter ended September 30, 2016 as compared to the same prior-year period:
- the acquisitions of Space and ACD in the current fiscal year, including the impact of amortizing intangible assets and the recognition of costs upon the sale of inventory written-up to fair value;
- fluctuations in exchange rates used to convert transactions in foreign currencies (primarily the Euro, British pound sterling, Canadian dollar, Chinese yuan, and Japanese yen) to U.S. dollars;
These adjusted financial measures are not prepared in accordance with generally accepted accounting principles (GAAP) and may be different from adjusted financial measures used by other companies. Adjusted financial measures should not be considered as a substitute for, or superior to, measures of financial performance prepared in accordance with GAAP. We view these adjusted financial measures to be helpful in assessing the Company's ongoing operating results. In addition, these adjusted financial measures facilitate our internal comparisons to historical operating results and comparisons to competitors' operating results. We include these adjusted financial measures in our earnings announcement because we believe they are useful to investors in allowing for greater transparency related to supplemental information we use in our financial and operational analysis.
Net Sales
Consolidated net sales for the first quarter of fiscal 2017 were $130.6 million, an increase of 16% year-over-year and organic growth was 10%. First quarter reported net sales included 7% growth from acquisitions and negative 1% due to foreign currency translation. Organic growth was broad-based with all three divisions and all major geographic regions and end-markets contributing to the growth.
Gross Margins
Consolidated gross margins for the quarters ended September 30, 2016 and 2015 were 64.7% and 67.1%, respectively. Consolidated gross margins for the quarters ended September 30, 2016 and 2015 were negatively impacted as a result of purchase accounting related to inventory and intangible assets acquired in the current and prior fiscal years. Under purchase accounting, inventory is valued at fair value less expected selling and marketing costs, resulting in reduced margins in future periods as the inventory is sold.
A reconciliation of the reported consolidated gross margin percentages, adjusted for acquired inventory sold and intangible amortization included in cost of sales, is as follows:
Consolidated gross margin percentage
%
Identified adjustments
Costs recognized upon sale of acquired inventory
Amortization of intangibles
Adjusted gross margin percentage
Consolidated adjusted gross margins were 71.0% for the quarter ended September 30, 2016, up 40 basis points from the prior year due to product mix.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased $13.2 million (40%) for the quarter ended September 30, 2016 from the same prior-year period. Most of the increase for the quarter ended September 30, 2016 was driven by additional expenses associated with the Space and ACD acquisitions including $3.7 million of selling, general and administrative expenses, a $2.2 million increase in acquisition intangible amortization, and a $1.9 million change in the fair value of contingent consideration related to ACD. Also contributing was a $1.2 million increase in stock-based compensation expense. The remainder of the increase in selling, general and administrative expense was due primarily to additional investment in commercial resources and administrative infrastructure.
Research and Development Expenses
Research and development expenses for the quarter ended September 30, 2016 increased $1.4 million (13%) from the same prior-year period due mainly to expenses by companies acquired since the prior year.
Segment Results
As previously mentioned, beginning in the first quarter of fiscal 2017, the Clinical Controls segment has been renamed Diagnostics. Our original business in this segment was focused on controls and calibrators for hematology clinical instruments. With the acquisition of Bionostics in fiscal 2014 and Cliniqa in fiscal 2016, we expanded this segment to include blood chemistry and blood-gas quality controls as well as other bulk and custom reagents for the in vitro diagnostic market. We renamed the operating segment to reflect this expanded portfolio of products.
Net sales (in thousands)
Operating income margin percentage
Biotechnology net sales for the quarter ended September 30, 2016 were $86.8 million, an increase of 15%. Organic growth for the segment was 6% in the quarter, with currency translation impacting revenue unfavorably by 1% and acquisitions contributing 10% to segment growth. Organic growth was broad-based in all product lines and regions. Biotechnology segment adjusted operating margin was 48.9% in the first quarter of fiscal 2017 compared to 51.9% in the first quarter of fiscal 2016. The lower margin is the result of recent lower margin acquisitions, namely ACD, made in this segment.
Diagnostics (formerly Clinical Controls)
Diagnostics’ net sales for the quarter ended September 30, 2016 were $24.2 million, an increase of 19%, all of which was organic, compared to the same prior-year period. Strong sales in glucose and blood gas controls, as well as continued strength in the diagnostic assay and reagent sales drove the growth. As in past quarters, timing of OEM orders also impacted growth, this time favorably in the quarter ended September 30, 2016.
Operating income for the segment increased 34% for the quarter ended September 30, 2016 and operating margin was 26.0%, compared to 23.1% for the same prior-year period. The higher adjusted operating margin was primarily attributable to higher volume leverage.
Net sales for Protein Platforms for the quarter ended September 30, 2016, were $19.6 million, an increase of 20%, compared to the same prior-year period. Platforms’ organic revenue increased 20%, with an unfavorable currency impact of 1% and recent acquisitions contributing 1% to segment growth. Growth for the segment was broad-based among most major regions and product lines with particular contribution from our next-generation iCE instrument, Maurice. The Protein Platforms segment’s adjusted operating margin was 1.1% in the first quarter of fiscal 2017 compared to negative (7.2%) in the first quarter of fiscal 2016. The higher segment operating margin was primarily the result of volume leverage.
Income Taxes
Income taxes for the quarter ended September 30, 2016 were at an effective rate of 32.5% of consolidated earnings before income taxes compared to 28.7% for the quarter ended September 30, 2015. The 3.8% increase is primarily due to an unfavorable discrete event in Q1 of FY17 related to the revalue of contingent consideration which is not a tax deductible expense and a favorable Q1 of FY16 discrete event related to a change in foreign deferred tax rate that did recur in the current year.
The forecasted tax rate as of Q1 of FY17 before discrete items is 30.1% compared to the prior year rate as of Q1 FY16 before discrete items of 30.8%. The 0.7% reduction in the rate was primarily driven by the reinstatement of the R&D credit in the current year. Excluding the impact of fair value adjustments to contingent consideration, the Company expects the consolidated income tax rate for the remainder of fiscal 2017 to range from 30% to 32%.
Net Earnings
Adjusted consolidated net earnings are as follows:
Identified adjustments:
Acquisition related professional fees
Tax impact of above adjustments
Foreign tax benefit
Net earnings-adjusted
Adjusted net earnings growth
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2016, cash and cash equivalents and available-for-sale investments were $122 million compared to $96 million at June 30, 2016. Included in available-for-sale-investments at September 30, 2016 was the fair value of the Company's investment in ChemoCentryx, Inc. (CCXI) of $38.5 million. The fair value of the Company's CCXI investment at June 30, 2016 was $28.6 million.
The Company has a revolving line of credit governed by a Credit Agreement dated July 28, 2016. See Note 8 to the Condensed Consolidated Financial Statements for a description of the Credit Agreement.
The Company has contingent consideration payments of up to $35 million, $75 million and $7 million related to the CyVek, ACD and Zephyrus aqcuisitions, respectively. The fair value of these payments are $35 million, 41.2 million, and $6.9 million, as of September 30, 2016.
Management of the Company expects to be able to meet its cash and working capital requirements for existing operations, facility expansion, capital additions, and cash dividends for the foreseeable future, and at least the next 12 months, through currently available cash and cash generated from operations, and remaining credit available on its existing revolving line of credit.
Cash Flows From Operating Activities
The Company generated cash of $26.1 million from operating activities in the first quarter of fiscal 2017 compared to $31.9 million in the first quarter of fiscal 2016. The decrease from the prior year was primarily due to increases in operating assets and declines in operating liabilities, net of acquisitions.
Cash Flows From Investing Activities
On July 1, 2016, the Company acquired all of the issued and outstanding equity interests of Space for a net purchase price of approximately $9 million. The acquisition was financed primarily through cash on hand.
On August 1, 2016, the Company acquired all of the issued and outstanding equity interests of ACD for a net purchase price of approximately $250 million. The transaction was financed through our revolving line-of-credit facility.
On July 8, 2015, the Company acquired all of the issued and outstanding equity interests in Cliniqa Corporation (Cliniqa) for a net purchase price of approximately $83 million. The acquisition was financed primarily through our revolving line of credit facility.
Purchases and maturity of available for sale securities for the first quarter of fiscal 2017 and 2016 were ($6.8) million and $3.9 million, respectively.
Capital expenditures for fixed assets for the first quarter of fiscal 2017 and 2016 were $2.4 million and $6.1 million, respectively. Capital expenditures for the first quarter of fiscal 2017 were mainly for laboratory and computer equipment. Capital expenditures for the remainder of fiscal 2017 are expected to be approximately $20 million. Capital expenditures are expected to be financed through currently available funds and cash generated from operating activities.
Cash Flows From Financing Activities
During the first quarter of fiscal 2017 and 2016, the Company paid cash dividends of $11.9 million to all common shareholders. On October 31, 2016, the Company announced the payment of a $0.32 per share cash dividend, or approximately $12 million, will be payable November 28, 2016 to all common shareholders of record on November 14, 2016.
Cash of $2.0 million and $1.1 million was received during the first quarter of fiscal 2017 and 2016, respectively, from the exercise of stock options.
During the first quarter of fiscal 2017, the Company paid the balance of its previous line-of-credit facility in an amount of approximately $91 million and drew $343.5 million under its new revolving line-of-credit facility to fund operations and its acquisition of ACD. During the first quarter of fiscal 2016, the Company drew $77 million under its previous revolving line-of-credit facility to fund its acquisition of Cliniqa and made repayments on the line of credit of $24 million.
OFF-BALANCE SHEET ARRANGEMENTS
The Company has no reportable off-balance sheet arrangements as defined in Item 303(a)(4) of Regulation S-K.
CONTRACTUAL OBLIGATIONS
There were no material changes outside the ordinary course of business in the Company's contractual obligations during the quarter ended September 30, 2016.
CRITICAL ACCOUNTING POLICIES
The Company's significant accounting policies are discussed in the Company's Annual Report on Form 10-K for fiscal 2016 and are incorporated herein by reference. The application of certain of these policies requires judgments and estimates that can affect the results of operations and financial position of the Company. Judgments and estimates are used for, but not limited to, valuation of contingent consideration payable, valuation of available-for-sale investments, inventory valuation and allowances, valuation of intangible assets and goodwill and valuation of investments in unconsolidated entities. There have been no significant changes in estimates in the first quarter of fiscal 2017 that would require disclosure. There have been no changes to the Company's policies in the first quarter of fiscal 2017.
FORWARD LOOKING INFORMATION AND CAUTIONARY STATEMENTS
This quarterly report contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include those regarding the Company's expectations as to the effect of changes to accounting policies, the amount of capital expenditures for the remainder of the fiscal year, the source of funding for capital expenditure requirements, the sufficiency of currently available funds for meeting the Company's needs, the impact of fluctuations in foreign currency exchange rates, and expectations regarding gross margin fluctuations, increasing research and development expenses, increasing selling, general and administrative expenses and income tax rates. These statements involve risks and uncertainties that may affect the actual results of operations. The following important factors, among others, have affected and, in the future, could affect the Company's actual results: the acquisition and integration of companies and lines of business, the introduction and acceptance of new products, general national and international economic conditions, increased competition, the reliance on internal manufacturing and related operations, the impact of currency exchange rate fluctuations, economic instability in Eurozone countries, the recruitment and retention of qualified personnel, the impact of governmental regulation, maintenance of intellectual property rights, credit risk and fluctuation in the market value of the Company's investment portfolio, unseen delays and expenses related to facility improvements, and the success of financing efforts by companies in which the Company has invested. For additional information concerning such factors, see the Company's Annual Report on Form 10-K for fiscal 2016 as filed with the Securities and Exchange Commission.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
At September 30, 2016, the Company held an investment in the common stock of CCXI. The investment was included in short-term available-for-sale investments at its fair value of $38.5 million. At September 30, 2016, the potential loss in fair value due to a 10% decrease in the market value of CCXI was $3.8 million.
The Company operates internationally, and thus is subject to potentially adverse movements in foreign currency exchange rates. For the quarter ended September 30, 2016, approximately 28% of consolidated net sales were made in foreign currencies, including 7% in euros, 9% in British pound sterling, 4% in Canadian dollars, 4% in Chinese yuan and the remaining 4% in other currencies. The Company is exposed to market risk mainly from foreign exchange rate fluctuations of the euro, British pound sterling, Canadian dollar and the Chinese yuan, as compared to the U.S. dollar as the financial position and operating results of the Company's foreign operations are translated into U.S. dollars for consolidation.
Month-end average exchange rates between the British pound sterling, euro, Chinese yuan and Canadian dollar, which have not been weighted for actual sales volume in the applicable months in the periods, to the U.S. dollar were as follows:
Euro
British pound sterling
Chinese yuan
Canadian dollar
The Company's exposure to foreign exchange rate fluctuations also arises from trade receivables, trade payables and intercompany payables denominated in one currency in the financial statements, but receivable or payable in another currency. The effects of a hypothetical simultaneous 10% appreciation in the U.S. dollar from September 30, 2016 levels against the euro, British pound sterling, Chinese yuan and Canadian dollar are as follows (in thousands):
Decrease in translation of earnings of foreign subsidiaries (annualized)
Decrease in translation of net assets of foreign subsidiaries
Additional transaction losses
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures.
The Company maintains disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)). The Company's management has evaluated, with the participation of its Chief Executive Officer and Chief Financial Officer, the effectiveness of the design and operation of its disclosure controls and procedures as of the end of the period covered in this Quarterly Report on Form 10-Q. The material weaknesses in internal control over financial reporting identified in connection with the Company's consolidated financial statements for the year ended June 30, 2016 and described in the Company’s Annual Report on Form 10-K for the year ended June 30, 2016 were not effectively remediated as of September 30, 2016 due to the fact that an insufficient period of time has passed for management to implement and test its remediation plan. Accordingly, based upon their evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were not effective as of September 30, 2016. Management expects that a substantial portion of its remediation efforts will be completed by the end of the second quarter for fiscal 2017, with final testing of the effectiveness of the Company's controls occurring at the end of fiscal 2017.
(b) Changes in internal controls over financial reporting.
In July, 2016, the Company implemented a new ERP system (Microsoft Dynamics) at its Minneapolis location and a new global financial reporting consolidation tool (Hyperion). In addition, the Company commenced its on-going remediation efforts to address the material weaknesses in internal control over financial reporting described in the Company’s Annual Report on Form 10-K for the year-ended June 30, 2016.
As previously announced, we acquired Space on July 1, 2016 and ACD on August 1, 2016. We have not fully evaluated any changes in internal control over financial reporting associated with these acquisitions and therefore any material changes that may result from these acquisitions have not been disclosed in this report. We intend to disclose all material changes resulting from these acquisitions within or prior to the time of our first annual assessment of internal control over financial reporting that is required to include these entities.
The results reported in this quarterly report include those of Space and ACD.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
As of November 9, 2016, the Company is not a party to any legal proceedings that, individually or in the aggregate, are reasonably expected to have a material adverse effect on the Company's business, results of operations, financial condition or cash flows.
ITEM 1A. RISK FACTORS
There have been no material changes from the risk factors previously disclosed in Part I, Item 1A, "Risk Factors," of the Company's Annual Report on Form 10-K for the year ended June 30, 2016.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
There was no share repurchase activity by the Company in the quarter ended September 30, 2016. The maximum approximate dollar value of shares that may yet be purchased under the Company's existing stock repurchase plan is approximately $125 million. The plan does not have an expiration date.
ITEM 6. EXHIBITS
See "exhibit index" following the signature page.
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
(Company)
Date: November 9, 2016
/s/ Charles R. Kummeth
Charles R. Kummeth
Principal Executive Officer
/s/ James Hippel
James Hippel
Principal Financial Officer
EXHIBIT INDEX
TO
Exhibit #
Description
31.1
Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1
Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
32.2
Certification of Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101
The following financial statements from the Company's Quarterly Report on Form 10- Q for the quarter ended September 30, 2016, formatted in Extensible Business Reporting Language (XBRL): (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Earnings and Comprehensive Income, (iii) the Condensed Consolidated Statements of Cash Flows, and (iv) Notes to the Condensed Consolidated Financial Statements..
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