UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 | ||
For the quarter ended: December 31, 2016
Commission File Number: 001-14041
HAEMONETICS CORPORATION
(Exact name of registrant as specified in its charter)
Massachusetts (State or other jurisdiction of incorporation or organization) | 04-2882273 (I.R.S. Employer Identification No.) | |
400 Wood Road, Braintree, MA 02184
(Address of principal executive offices)
Registrant’s telephone number, including area code: (781) 848-7100
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) (2.) has been subject to the filing requirements for at least the past 90 days.
Yes þ | No o | |
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 þ | No o | |
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 definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one):
Large accelerated filer þ | Accelerated filer o | Non-accelerated filer o | Smaller reporting company o | |||
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act.)
Yes o | No þ | |
The number of shares of $0.01 par value common stock outstanding as of February 2, 2017: 52,004,300
HAEMONETICS CORPORATION
INDEX
PAGE | |
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ITEM 1. FINANCIAL STATEMENTS
HAEMONETICS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME (LOSS) AND COMPREHENSIVE INCOME (LOSS)
(Unaudited in thousands, except per share data)
Three Months Ended | Nine Months Ended | ||||||||||||||
December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | ||||||||||||
Net revenues | $ | 227,841 | $ | 233,384 | $ | 658,050 | $ | 666,490 | |||||||
Cost of goods sold | 126,762 | 124,529 | 361,667 | 349,799 | |||||||||||
Gross profit | 101,079 | 108,855 | 296,383 | 316,691 | |||||||||||
Operating expenses: | |||||||||||||||
Research and development | 8,462 | 10,942 | 28,235 | 33,816 | |||||||||||
Selling, general and administrative | 70,956 | 78,940 | 228,639 | 240,946 | |||||||||||
Impairment of assets | 449 | 85,048 | 1,384 | 85,048 | |||||||||||
Contingent consideration income | — | (4,898 | ) | — | (4,727 | ) | |||||||||
Total operating expenses | 79,867 | 170,032 | 258,258 | 355,083 | |||||||||||
Operating income (loss) | 21,212 | (61,177 | ) | 38,125 | (38,392 | ) | |||||||||
Interest and other expense, net | (2,275 | ) | (2,141 | ) | (6,414 | ) | (6,756 | ) | |||||||
Income (loss) before provision (benefit) for income taxes | 18,937 | (63,318 | ) | 31,711 | (45,148 | ) | |||||||||
Provision (benefit) for income taxes | 3,544 | (3,878 | ) | 6,839 | 1,696 | ||||||||||
Net income (loss) | $ | 15,393 | $ | (59,440 | ) | $ | 24,872 | $ | (46,844 | ) | |||||
Net income (loss) per share - basic | $ | 0.30 | $ | (1.17 | ) | $ | 0.48 | $ | (0.92 | ) | |||||
Net income (loss) per share - diluted | $ | 0.30 | $ | (1.17 | ) | $ | 0.48 | $ | (0.92 | ) | |||||
Weighted average shares outstanding | |||||||||||||||
Basic | 51,708 | 50,741 | 51,369 | 50,927 | |||||||||||
Diluted | 52,103 | 50,741 | 51,671 | 50,927 | |||||||||||
Comprehensive income (loss) | $ | 13,084 | $ | (62,316 | ) | $ | 20,888 | $ | (66,469 | ) | |||||
The accompanying notes are an integral part of these consolidated financial statements.
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HAEMONETICS CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31, 2016 | April 2, 2016 | ||||||
(Unaudited) | |||||||
ASSETS | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 129,639 | $ | 115,123 | |||
Accounts receivable, less allowance of $2,656 at December 31, 2016 and $2,253 at April 2, 2016 | 150,557 | 157,093 | |||||
Inventories, net | 188,489 | 187,028 | |||||
Prepaid expenses and other current assets | 27,877 | 28,842 | |||||
Total current assets | 496,562 | 488,086 | |||||
Property, plant and equipment, net | 335,957 | 337,634 | |||||
Intangible assets, less accumulated amortization of $206,444 at December 31, 2016 and $190,816 at April 2, 2016 | 185,427 | 204,458 | |||||
Goodwill | 267,314 | 267,840 | |||||
Deferred tax asset, long-term | 7,575 | 7,055 | |||||
Other long-term assets | 13,586 | 14,055 | |||||
Total assets | $ | 1,306,421 | $ | 1,319,128 | |||
LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||
Current liabilities: | |||||||
Notes payable and current maturities of long-term debt | $ | 66,271 | $ | 43,471 | |||
Accounts payable | 48,848 | 39,674 | |||||
Accrued payroll and related costs | 41,556 | 35,798 | |||||
Other liabilities | 59,546 | 66,608 | |||||
Total current liabilities | 216,221 | 185,551 | |||||
Long-term debt, net of current maturities | 269,997 | 364,529 | |||||
Deferred tax liability, long-term | 24,463 | 21,377 | |||||
Other long-term liabilities | 24,843 | 26,106 | |||||
Total stockholders’ equity | |||||||
Common stock, $0.01 par value; Authorized — 150,000,000 shares; Issued and outstanding — 51,825,961 shares at December 31, 2016 and 50,932,348 shares at April 2, 2016 | 518 | 509 | |||||
Additional paid-in capital | 468,348 | 439,912 | |||||
Retained earnings | 341,056 | 316,184 | |||||
Accumulated other comprehensive loss | (39,025 | ) | (35,040 | ) | |||
Total stockholders’ equity | 770,897 | 721,565 | |||||
Total liabilities and stockholders’ equity | $ | 1,306,421 | $ | 1,319,128 | |||
The accompanying notes are an integral part of these consolidated financial statements.
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HAEMONETICS CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited in thousands)
Nine Months Ended | |||||||
December 31, 2016 | December 26, 2015 | ||||||
Cash Flows from Operating Activities: | |||||||
Net income (loss) | $ | 24,872 | $ | (46,844 | ) | ||
Adjustments to reconcile net income (loss) to net cash provided by operating activities: | |||||||
Non-cash items: | |||||||
Depreciation and amortization | 67,531 | 67,721 | |||||
Impairment of assets | 3,413 | 85,048 | |||||
Provision for losses on accounts receivable and inventory | 11,398 | 4,055 | |||||
Stock-based compensation expense | 6,608 | 6,199 | |||||
Deferred tax benefit | — | (7,088 | ) | ||||
Unrealized loss (gain) from hedging activities | 331 | (2,867 | ) | ||||
Changes in fair value of contingent consideration | — | (4,727 | ) | ||||
Other non-cash operating activities | 885 | 862 | |||||
Change in operating assets and liabilities: | |||||||
Change in accounts receivable | 3,878 | (4,186 | ) | ||||
Change in inventories | (13,960 | ) | 2,791 | ||||
Change in prepaid income taxes | 868 | 997 | |||||
Change in other assets and other liabilities | (996 | ) | 6,622 | ||||
Change in accounts payable and accrued expenses | 20,333 | (39,971 | ) | ||||
Net cash provided by operating activities | 125,161 | 68,612 | |||||
Cash Flows from Investing Activities: | |||||||
Capital expenditures | (60,517 | ) | (73,871 | ) | |||
Proceeds from sale of property, plant and equipment | 1,773 | 397 | |||||
Other acquisitions and investments | — | (3,000 | ) | ||||
Net cash used in investing activities | (58,744 | ) | (76,474 | ) | |||
Cash Flows from Financing Activities: | |||||||
Net (decrease) increase in short-term loans | (40,975 | ) | 7,143 | ||||
Repayment of term loan borrowings | (30,827 | ) | (7,114 | ) | |||
Proceeds from employee stock purchase plan | 3,560 | 4,340 | |||||
Proceeds from exercise of stock options | 18,278 | 10,489 | |||||
Share repurchases | — | (60,984 | ) | ||||
Payments on long-term real estate mortgage | — | (845 | ) | ||||
Net cash used in financing activities | (49,964 | ) | (46,971 | ) | |||
Effect of exchange rates on cash and cash equivalents | (1,937 | ) | (662 | ) | |||
Net Change in Cash and Cash Equivalents | 14,516 | (55,495 | ) | ||||
Cash and Cash Equivalents at Beginning of Period | 115,123 | 160,662 | |||||
Cash and Cash Equivalents at End of Period | $ | 129,639 | $ | 105,167 | |||
Supplemental Disclosures of Cash Flow Information: | |||||||
Interest paid | $ | 6,058 | $ | 6,206 | |||
Income taxes paid | $ | 5,724 | $ | 5,884 | |||
Transfers from inventory to fixed assets for placement of Haemonetics equipment | $ | 5,081 | $ | 9,259 | |||
The accompanying notes are an integral part of these consolidated financial statements.
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HAEMONETICS CORPORATION AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. BASIS OF PRESENTATION
Basis of Presentation
Our accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles (“GAAP”) in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of our management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. All intercompany transactions have been eliminated. Operating results for the nine months ended December 31, 2016 are not necessarily indicative of the results that may be expected for the full fiscal year ending April 1, 2017, or any other interim period. Operating results for the nine months ended December 26, 2015 include the correction of an understatement of the provision for income taxes in fiscal 2015, as well as the correction of an overstated liability in fiscal 2014, both of which were determined to be immaterial to all periods impacted. Absent these corrections, our net income for the nine months ended December 26, 2015 would have been $1.1 million lower than the amount included in the accompanying Consolidated Statements of Income (Loss) and Comprehensive Income (Loss). These unaudited consolidated financial statements should be read in conjunction with our audited consolidated financial statements and footnotes included in our annual report on Form 10-K for the fiscal year ended April 2, 2016.
We consider events or transactions that occur after the balance sheet date but prior to the issuance of the financial statements to provide additional evidence relative to certain estimates or to identify matters that require additional disclosure. Refer to Note 9, Debt, for information pertaining to a debt payment that was made after the balance sheet date but prior to the issuance of the financial statements. There were no other subsequent events identified.
2. RECENT ACCOUNTING PRONOUNCEMENTS
Standards Implemented
In June 2014, the FASB issued ASU No. 2014-12, Compensation—Stock Compensation (Topic 718): Accounting for Share-Based Payments When the Terms of an Award Provide That a Performance Target Could Be Achieved after the Requisite Service Period. ASU No. 2014-12 requires that a performance target that affects vesting and could be achieved after the requisite service period be treated as a performance condition. A reporting entity should apply existing guidance in ASC 718, Compensation—Stock Compensation, as it relates to such awards. We adopted ASU No. 2014-12 in our first quarter of fiscal 2017 using the prospective method. The adoption of ASU No. 2014-12 did not have a material effect on our financial position or results of operations.
In August 2015, the FASB issued ASU No. 2015-12, Plan Accounting: Defined Benefit Pension Plans (Topic 960), Defined Contribution Pension Plans (Topic 962), Health and Welfare Benefit Plans (Topic 965): (Part I) Fully Benefit-Responsive Investment Contracts, (Part II) Plan Investment Disclosures, (Part III) Measurement Date Practical Expedient. Part I of ASU No. 2015-12 designates contract value as the only required measure for fully benefit-responsive investment contracts. Part II simplifies the investment disclosure requirements under Topics 820, 960, 962, and 965 for employee benefits plans and Part III provides a measurement date practical expedient for fiscal periods that do not coincide with a month-end date. ASU No. 2015-12 was effective for fiscal years beginning after December 15, 2015 with early adoption permitted. The adoption of ASU No. 2015-12 did not have a material effect on our financial position or results of operations.
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3. EARNINGS PER SHARE (“EPS”)
The following table provides a reconciliation of the numerators and denominators of the basic and diluted earnings per share computations.
Three Months Ended | Nine Months Ended | |||||||||||||||
(In thousands, except per share amounts) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | ||||||||||||
Basic EPS | ||||||||||||||||
Net income (loss) | $ | 15,393 | $ | (59,440 | ) | $ | 24,872 | $ | (46,844 | ) | ||||||
Weighted average shares | 51,708 | 50,741 | 51,369 | 50,927 | ||||||||||||
Basic income (loss) per share | $ | 0.30 | $ | (1.17 | ) | $ | 0.48 | $ | (0.92 | ) | ||||||
Diluted EPS | ||||||||||||||||
Net income (loss) | $ | 15,393 | $ | (59,440 | ) | $ | 24,872 | $ | (46,844 | ) | ||||||
Basic weighted average shares | 51,708 | 50,741 | 51,369 | 50,927 | ||||||||||||
Net effect of common stock equivalents | 395 | — | 302 | — | ||||||||||||
Diluted weighted average shares | 52,103 | 50,741 | 51,671 | 50,927 | ||||||||||||
Diluted income (loss) per share | $ | 0.30 | $ | (1.17 | ) | $ | 0.48 | $ | (0.92 | ) | ||||||
Basic earnings per share is calculated using our weighted-average outstanding common shares. Diluted earnings per share is calculated using our weighted-average outstanding common shares including the dilutive effect of stock awards as determined under the treasury stock method. For the three and nine months ended December 31, 2016, weighted average shares outstanding, assuming dilution, excludes the impact of 1.1 million and 1.7 million anti-dilutive shares, respectively. For the three and nine months ended December 26, 2015, we recognized a net loss; therefore we excluded the impact of outstanding stock awards from the diluted loss per share calculation as their inclusion would have an anti-dilutive effect.
4. PRODUCT WARRANTIES
We generally provide warranty on parts and labor for one year after the sale and installation of each device. We also warrant our disposables products through their use or expiration. We estimate our potential warranty expense based on our historical warranty experience and periodically assess the adequacy of our warranty accrual, making adjustments as necessary.
Nine Months Ended | ||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | ||||||
Warranty accrual as of the beginning of the period | $ | 420 | $ | 531 | ||||
Warranty provision | 860 | 532 | ||||||
Warranty spending | (1,077 | ) | (701 | ) | ||||
Warranty accrual as of the end of the period | $ | 203 | $ | 362 | ||||
5. INVENTORIES
Inventories are stated at the lower of cost or market and include the cost of material, labor and manufacturing overhead. Cost is determined using the first-in, first-out method.
(In thousands) | December 31, 2016 | April 2, 2016 | ||||||
Raw materials | $ | 56,729 | $ | 62,062 | ||||
Work-in-process | 10,202 | 13,180 | ||||||
Finished goods | 121,558 | 111,786 | ||||||
Total inventories | $ | 188,489 | $ | 187,028 | ||||
Inventories include specific charges and reserves of $4.5 million and $9.0 million for the three and nine months ended December 31, 2016, respectively, primarily related to the impact of the whole blood product recall and changes in demand for Blood Center products.
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6. GOODWILL AND INTANGIBLE ASSETS
Goodwill Impairment
During fiscal 2016, as a result of an interim impairment test, we determined that the estimated fair value of all of our reporting units exceeded their respective carrying values, with the exception of Europe, Middle East and Africa (collectively "EMEA"), for which we recorded a goodwill impairment charge of $66.3 million during the third quarter of fiscal 2016. As of that test date, the reporting unit that was most at risk of impairment in future periods was the Americas Blood Center and Hospital, which had an excess fair value over carrying value of approximately 25.8% and allocated goodwill of $175.9 million. We believe that our assumptions used to determine the fair value of the Americas Blood Center and Hospital reporting unit were reasonable. If different assumptions were to be used, particularly with respect to estimating future cash flows, or if actual operating results and cash flows of the Americas Blood Center and Hospital differ from the estimated operating results and related cash flows, there is the potential that an impairment charge could result in future periods. Additionally, changes to the discount rate or the long-term growth rate could also give rise to an impairment in future periods. During the third quarter of fiscal 2017, there were no new or additional impairment indicators associated with this reporting unit. We will complete our annual impairment testing during the fourth quarter of fiscal 2017.
Intangible Asset Impairment
In April 2013, we acquired a patented red cell storage solution, referred to as SOLX, from Hemerus Medical, LLC for cash consideration plus an agreement to make certain future payments accounted for as contingent consideration. During the third quarter of fiscal 2016, we received U.S. Food and Drug Administration clearance for the SOLX solution with a Haemonetics whole blood filter. At that time, the vast majority of the U.S. market utilized a red cell filter, not a whole blood filter, for whole blood collection procedures as they seek to optimize blood component yield from each collection. To bring SOLX to market with a red cell filter would have required substantial additional investment. Accordingly, we conducted a final market review prior to proceeding with this investment, which indicated customers would not pay a price for a SOLX collection kit sufficient to recover the cost to produce it, or to provide an adequate return on the additional investment. As result, during the third quarter of fiscal 2016, we suspended further investment in the SOLX technology and recorded an impairment charge of $18.7 million to write down the carrying value of the SOLX intangible assets. In addition, we reversed the $4.9 million of contingent consideration liability we had recorded, as we do not expect to achieve the conditions that called for its payment. Refer to Note 10, Commitments and Contingencies, for further discussion of the arbitration resulting from a dispute over the payment of this contingent consideration as well as certain royalty payments.
Intangible asset impairment charges during the three and nine months ended December 31, 2016 were $0.4 million and $1.9 million, respectively, and primarily related to the impairment of certain capitalized software as discussed in Note 13, Capitalization of Software.
7. DERIVATIVES AND FAIR VALUE MEASUREMENTS
We manufacture, market and sell our products globally. For the nine months ended December 31, 2016, 40.0% of our sales were generated outside the U.S. in local currencies. We also incur certain manufacturing, marketing and selling costs in international markets in local currency.
Accordingly, our earnings and cash flows are exposed to market risk from changes in foreign currency exchange rates relative to the U.S. Dollar, our reporting currency. We have a program in place that is designed to mitigate our exposure to changes in foreign currency exchange rates. That program includes the use of derivative financial instruments to minimize, for a period of time, the impact on our financial results from changes in foreign exchange rates. We utilize foreign currency forward contracts to hedge the anticipated cash flows from transactions denominated in foreign currencies, primarily the Japanese Yen and the Euro, and to a lesser extent the Swiss Franc, Australian Dollar, Canadian Dollar and the Mexican Peso. This does not eliminate the impact of the volatility of foreign exchange rates, but because we generally enter into forward contracts one year out, rates are fixed for a one-year period, thereby facilitating financial planning and resource allocation.
Designated Foreign Currency Hedge Contracts
All of our designated foreign currency hedge contracts as of December 31, 2016 and April 2, 2016 were cash flow hedges under ASC Topic 815, Derivatives and Hedging. We record the effective portion of any change in the fair value of designated foreign currency hedge contracts in Other Comprehensive Income (Loss) until the related third-party transaction occurs. Once the related third-party transaction occurs, we reclassify the effective portion of any related gain or loss on the designated
8
foreign currency hedge contracts to earnings. In the event the hedged forecasted transaction does not occur, or it becomes probable that it will not occur, we would reclassify the amount of any gain or loss on the related cash flow hedge to earnings at that time. We had designated foreign currency hedge contracts outstanding in the contract amount of $99.0 million as of December 31, 2016 and $107.4 million as of April 2, 2016. At December 31, 2016, gains of $1.2 million, net of tax, will be reclassified to earnings within the next twelve months. Substantially all currency cash flow hedges outstanding as of December 31, 2016 mature within twelve months.
Non-Designated Foreign Currency Contracts
We manage our exposure to changes in foreign currency on a consolidated basis to take advantage of offsetting transactions and balances. We use foreign currency forward contracts as a part of our strategy to manage exposure related to foreign currency denominated monetary assets and liabilities. These foreign currency forward contracts are entered into for periods consistent with currency transaction exposures, generally one month. They are not designated as cash flow or fair value hedges under ASC Topic 815. These forward contracts are marked-to-market with changes in fair value recorded to earnings. We had non-designated foreign currency hedge contracts under ASC Topic 815 outstanding in the contract amount of $49.7 million as of December 31, 2016 and $48.8 million as of April 2, 2016.
Interest Rate Swaps
On December 21, 2012, we entered into two interest rate swap agreements (the "Swaps") on a total notional amount of $250.0 million of debt. The Swaps are amortizing and mature on August 1, 2017. We designated the Swaps as cash flow hedges of variable interest rate risk associated with $250.0 million of indebtedness. As of December 31, 2016, the notional amount of these Swaps was $150.0 million. For three and nine months ended December 31, 2016 and December 26, 2015, we recorded nominal activity in Accumulated Other Comprehensive Loss to recognize the effective portion of the fair value of interest rate swaps that qualify as cash flow hedges.
Fair Value of Derivative Instruments
The following table presents the effect of our derivative instruments designated as cash flow hedges and those not designated as hedging instruments under ASC Topic 815 in our consolidated statements of income (loss) and comprehensive income (loss) for the nine months ended December 31, 2016:
(In thousands) | Amount of (Loss) Gain Recognized in Accumulated Other Comprehensive Income (Loss) | Amount of (Loss) Gain Reclassified from Accumulated Other Comprehensive Loss into Earnings | Location in Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) | Amount of Gain (Loss) Excluded from Effectiveness Testing * | Location in Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) | |||||||||||
Designated foreign currency hedge contracts, net of tax | $ | 1,517 | $ | (4,678 | ) | Net revenues, COGS, and SG&A | $ | 388 | Interest and other expense, net | |||||||
Non-designated foreign currency hedge contracts | — | — | 1,031 | Interest and other expense, net | ||||||||||||
Designated interest rate swaps, net of tax | $ | 165 | $ | — | Interest and other expense, net | $ | — | |||||||||
* We exclude the difference between the spot rate and hedge forward rate from our effectiveness testing.
We did not have fair value hedges or net investment hedges outstanding as of December 31, 2016 or April 2, 2016. As of December 31, 2016, no deferred tax assets were recognized for designated foreign currency hedges.
ASC Topic 815 requires all derivative instruments to be recognized at their fair value as either assets or liabilities on the balance sheet. We determine the fair value of our derivative instruments using the framework prescribed by ASC Topic 820, Fair Value Measurements and Disclosures, by considering the estimated amount we would receive or pay to sell or transfer these instruments at the reporting date and by taking into account current interest rates, currency exchange rates, current interest rate curves, interest rate volatilities, the creditworthiness of the counterparty for assets and our creditworthiness for liabilities. In certain instances, we may utilize financial models to measure fair value. Generally, we use inputs that include quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; other observable inputs for the asset or liability; and inputs derived principally from, or corroborated by, observable market data by correlation or other means. As of December 31, 2016, we have classified our
9
derivative assets and liabilities within Level 2 of the fair value hierarchy prescribed by ASC 815, as discussed below, because these observable inputs are available for substantially the full term of our derivative instruments.
The following tables present the fair value of our derivative instruments as they appear in our consolidated balance sheets as of December 31, 2016 and April 2, 2016:
(In thousands) | Location in Balance Sheet | As of December 31, 2016 | As of April 2, 2016 | |||||||
Derivative Assets: | ||||||||||
Designated foreign currency hedge contracts | Other current assets | $ | 3,255 | $ | 427 | |||||
Designated interest rate swaps | Other current assets | 69 | — | |||||||
$ | 3,324 | $ | 427 | |||||||
Derivative Liabilities: | ||||||||||
Designated foreign currency hedge contracts | Other current liabilities | $ | 1,916 | $ | 4,056 | |||||
Designated interest rate swaps | Other current liabilities | — | 154 | |||||||
$ | 1,916 | $ | 4,210 | |||||||
Other Fair Value Measurements
Fair value is defined as the exit price that would be received from the sale of an asset or paid to transfer a liability, using assumptions that market participants would use in pricing an asset or liability. The fair value guidance establishes the following three-level hierarchy used for measuring fair value:
• | Level 1 — Inputs to the valuation methodology are quoted market prices for identical assets or liabilities. |
• | Level 2 — Inputs to the valuation methodology are other observable inputs, including quoted market prices for similar assets or liabilities and market-corroborated inputs. |
• | Level 3 — Inputs to the valuation methodology are unobservable inputs based on management’s best estimate of inputs market participants would use in pricing the asset or liability at the measurement date, including assumptions about risk. |
Our money market funds carried at fair value are classified within Level 1 of the fair value hierarchy because they are valued using quoted market prices.
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Fair Value Measured on a Recurring Basis
Financial assets and financial liabilities measured at fair value on a recurring basis consist of the following as of December 31, 2016 and April 2, 2016.
As of December 31, 2016 | ||||||||||||
(In thousands) | Level 1 | Level 2 | Total | |||||||||
Assets | ||||||||||||
Money market funds | $ | 79,452 | $ | — | $ | 79,452 | ||||||
Designated foreign currency hedge contracts | $ | — | $ | 3,255 | $ | 3,255 | ||||||
Designated interest rate swaps | $ | 69 | $ | 69 | ||||||||
$ | 79,452 | $ | 3,324 | $ | 82,776 | |||||||
Liabilities | ||||||||||||
Designated foreign currency hedge contracts | $ | — | $ | 1,916 | $ | 1,916 | ||||||
$ | — | $ | 1,916 | $ | 1,916 | |||||||
As of April 2, 2016 | ||||||||||||
Level 1 | Level 2 | Total | ||||||||||
Assets | ||||||||||||
Money market funds | $ | 72,491 | $ | — | $ | 72,491 | ||||||
Designated foreign currency hedge contracts | — | 427 | 427 | |||||||||
Designated interest rate swaps | $ | 72,491 | $ | 427 | $ | 72,918 | ||||||
Liabilities | ||||||||||||
Designated foreign currency hedge contracts | $ | — | $ | 4,056 | $ | 4,056 | ||||||
Designated interest rate swaps | — | 154 | 154 | |||||||||
$ | — | $ | 4,210 | $ | 4,210 | |||||||
For the nine months ended December 31, 2016, non-designated foreign currency hedge contracts were not significant and are not disclosed separately in the above table.
Other Fair Value Disclosures
The Term Loan (which is carried at amortized cost), accounts receivable and accounts payable approximate fair value.
8. INCOME TAXES
We conduct business globally and report our results of operations in a number of foreign jurisdictions in addition to the United States. Our reported tax rate is generally lower than the U.S. federal statutory rate as the income tax rates in the foreign jurisdictions in which we operate are generally lower than the U.S. statutory tax rate.
During the three months ended December 31, 2016 and December 26, 2015, we reported an income tax provision of $3.5 million and an income tax benefit of $3.9 million, respectively, representing effective tax rates of 18.7% and 6.1%, respectively. For the nine months ended December 31, 2016 and December 26, 2015 we reported an income tax provision of $6.8 million and $1.7 million, respectively, representing effective tax rates of 21.6% and (3.8)%, respectively.
The increase in our income tax provision for both the three and nine months ended December 31, 2016, as compared to the prior year periods, was primarily due to the impact of impairment charges recorded during the three months ended December 26, 2015 and changes in the jurisdictional mix of earnings. During the three and nine months ended December 26, 2015, we recorded goodwill impairment charges of $66.3 million and intangible asset impairment charges of $18.7 million with a corresponding $7.1 million benefit to income taxes. The income tax provision for the nine months ended December 26, 2015
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includes a discrete tax provision of $1.0 million to increase the deferred tax liability related to amortizable goodwill as a result of the statutory capital gains tax rate in Puerto Rico increasing from 15% to 20%.
For the nine months ended December 31, 2016, the income tax provision includes a discrete tax provision of $1.4 million for an uncertain tax position that was triggered by a reduction in workforce in one of our foreign subsidiaries during the first quarter of fiscal 2017. This discrete tax provision is inclusive of an insignificant amount of interest. We had previously negotiated a tax holiday under which we were required to maintain certain levels of headcount for a multi-year period. During the first quarter of fiscal 2017, as a result of a reduction in workforce, we were unable to satisfy the required headcount levels and became subject to a potential tax assessment related to historical tax years. The tax provision associated with this tax reserve establishment was partially offset by a tax benefit of $0.5 million for the release of tax reserves due to the expiration of statutes of limitations during the second and third quarters of fiscal 2017.
We are in a three year cumulative loss position in the U.S. and, accordingly, maintain a valuation allowance against our U.S. deferred tax assets. We also maintain a valuation allowance against certain foreign deferred tax assets which we have concluded are not more-likely-than-not realizable.
Unrecognized Tax Benefits
Unrecognized tax benefits represent uncertain tax positions for which reserves have been established. As of December 31, 2016 we had $3.4 million of unrecognized tax benefits, of which $1.5 million would impact the effective tax rate, if recognized. As of April 2, 2016, we had $2.5 million of unrecognized tax benefits, of which $0.6 million would impact the effective tax rate, if recognized.
During the nine months ended December 31, 2016, our unrecognized tax benefits were increased by $1.3 million due to the establishment of a tax reserve for the potential tax assessment discussed above.
The following table summarizes the activity related to our gross unrecognized tax benefits for the fiscal periods ended December 31, 2016 and April 2, 2016:
(In thousands) | Nine Months Ended December 31, 2016 | Year Ended April 2, 2016 | |||||
Beginning balance | $ | 2,523 | $ | 7,070 | |||
Additions for tax positions of prior years | 1,260 | 340 | |||||
Reductions of tax positions | — | (4,158 | ) | ||||
Closure of statute of limitations | (403 | ) | (729 | ) | |||
Ending balance | $ | 3,380 | $ | 2,523 | |||
As of December 31, 2016, we anticipate that the liability for unrecognized tax benefits for uncertain tax positions could change by up to $1.3 million in the next twelve months, as a result of closure of various statutes of limitations or settlements.
Our historic practice has been and continues to be to recognize interest and penalties related to Federal, state and foreign income tax matters in income tax expense. Approximately $0.4 million of gross interest and penalties were accrued at December 31, 2016 and April 2, 2016 and is not included in the amounts above. Tax expense associated with accrued interest and penalties was insignificant for the nine months ended December 31, 2016.
We conduct business globally and, as a result, file consolidated and separate Federal, state and foreign income tax returns in multiple jurisdictions. In the normal course of business, we are subject to examination by taxing authorities throughout the world. With a few exceptions, we are no longer subject to U.S. federal, state, or local income tax examinations for years before 2012 and foreign income tax examinations for years before 2011.
9. DEBT
On August 1, 2012, we entered into a credit agreement ("Credit Agreement") with certain lenders (together, “Lenders”) which provided for a $475.0 million Term Loan and a $50.0 million revolving loan (the “Revolving Credit Facility”), and together with the Term Loan, (the “Credit Facilities”). The Credit Facilities had a term of five years and mature on August 1, 2017. Interest was based on the Adjusted LIBOR plus a range of 1.125% to 1.500% depending on achievement of leverage ratios and customary credit terms which included financial and negative covenants.
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On June 30, 2014, we modified our existing Credit Facilities by extending the maturity date to July 1, 2019, extending the principal repayments of the Term Loan, and modifying certain restrictive covenants to allow greater operational flexibility and enhanced near term liquidity. In addition, the amended Credit Agreement provides for a $100.0 million revolving credit facility and establishes interest rates in the range of LIBOR plus 1.125% – 1.500%, depending on certain conditions. No additional amounts were borrowed as a result of this modification. The fair value of debt approximates its current value of $337.2 million as of December 31, 2016. During the three and nine months ended December 31, 2016, we paid $11.9 million and $30.8 million in principal repayments, respectively, for the Term Loan. During the three and nine months ended December 31, 2016, we reduced our borrowings on the Revolving Credit Facility by $40.0 million as part of our normal cash management process. In addition, on January 31, 2017, we reduced our borrowings on the Revolving Credit Facility by the remaining $10.0 million that was outstanding. We were in compliance with the leverage and interest coverage ratios specified in the Credit Agreement as well as all other bank covenants as of December 31, 2016.
10. COMMITMENTS AND CONTINGENCIES
We are presently engaged in various legal actions, and although the total liability cannot be determined at the present time, based on consultation with counsel, we believe that any such liability will not materially affect our consolidated financial position or our results of operations.
Italian Employment Litigation
Our Italian manufacturing subsidiary is party to several actions initiated by employees of the facility in Ascoli-Piceno, Italy where we have ceased manufacturing operations. These include actions claiming (i) working conditions and minimum salaries should have been established by either a different classification under their national collective bargaining agreement or a different agreement altogether, (ii) certain solidarity agreements, which are arrangements between the Company, employees and the government to continue full pay and benefits for employees who would otherwise be terminated in times of low demand, are void, and (iii) payment of the extra time used for changing into and out of their working clothes at the beginning and end of each shift.
In addition, a union represented in the Ascoli plant has filed an action alleging that the Company discriminated against it in favor of three other represented unions by (i) interfering with an employee referendum, (ii) interfering with an employee petition to recall union representatives from office, and (iii) excluding the union from certain meetings.
Finally, we have been added as defendants on claims filed against Pall Corporation prior to our acquisition of the plant in August 2012. These claims relate to agreements to "freeze" benefit allowances for a certain period in exchange for Pall's commitments on hiring and plant investment.
The total amount of damages claimed by the plaintiffs in these matters is approximately $4.3 million. At this point in the proceedings, we believe the losses are unlikely and therefore no amounts have been accrued. In the future, we may receive other similar claims or adverse rulings from the courts which changes our judgment on these cases.
SOLX Arbitration
In July 2016, H2 Equity, LLC, formerly known as Hemerus Corporation, filed an arbitration claim for $17 million in milestone and royalty payments allegedly owed as part of our acquisition of the filter and storage solution business from Hemerus Medical, LLC ("Hemerus") in fiscal 2014. The acquired storage solution is referred to as SOLX.
At the closing in April 2013, Haemonetics paid Hemerus a total of $24 million and agreed to a $3 million milestone payment due when the U.S. Food and Drug Administration ("FDA") approved a new indication for SOLX (the “24-Hour Approval”), using a filter acquired from Hemerus. We also agreed to make future royalty payments up to a cumulative maximum of $14 million based on the sale of products incorporating SOLX over a ten year period.
Due to performance issues with the Hemerus filter, Haemonetics filed for, and received, the 24-Hour Approval using a Haemonetics filter. Accordingly, Haemonetics did not pay Hemerus the $3 million milestone payment because the 24-Hour Approval was obtained using a Haemonetics filter, not a Hemerus filter. In addition, we have not paid any royalties to date as we have not made any commercial sales of products incorporating SOLX.
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H2 Equity claims, in part, that we owe them $3 million for the receipt of the 24-Hour Approval despite the use of a Haemonetics filter to obtain the approval and that we have failed to make commercially reasonable efforts to market and sell products incorporating SOLX. We believe that we have meritorious defenses to these claims.
It is not possible to accurately evaluate the likelihood or amount of any potential losses related to this claim and therefore no amounts have been accrued.
Product Recall
In June 2016, we issued a voluntary recall of certain whole blood collection kits sold to our Blood Center customers in the United States. The recall resulted from some collection sets' filters failing to adequately remove leukocytes from collected blood. Because most U.S. hospitals prefer to transfuse leukoreduced blood, our blood center customers may have conducted further tests to confirm the blood was adequately leukoreduced, sold the blood as non-leukoreduced at a lower price or discarded the blood collected using the defective sets. As a result of the recall, we have recorded total charges of $4.3 million during the nine months ended December 31, 2016, which consists of $3.7 million of charges associated with customer returns and inventory reserves and $0.6 million of charges associated with customer claims, as discussed below. We may record incremental charges in future periods.
We determined that the affected sets were distributed between April and June 2016; credits have been issued to customers who returned affected sets purchased during this period. During the nine months ended December 31, 2016, we recorded charges of $3.7 million, which consisted of $2.5 million of estimated sales returns, $1.1 million of net inventory reserves for the affected collection sets on-hand that had not yet been shipped to customers and $0.1 million of freight expenses. Our estimate of sales returns was based on preliminary returns data received to date, however, actual customer returns are not expected to conclude until the fourth quarter of fiscal 2017.
Additionally, we received claims from customers which comprised substantially all the affected units. These claims seek reimbursement for losses sustained as a result of the recall and total $14.6 million. We believe it is probable that we will incur expenses as a result of these claims and that our range of loss is $0.6 million to $14.6 million, however, we do not have sufficient information to develop a best estimate within this range. Accordingly, we have recorded a liability of $0.6 million, which represents the low end of the range. Incremental charges may be recorded in future periods as additional customer returns and claims data becomes available. We have insurance policies in place which may provide coverage for certain types of potential claims. We will assess the potential for insurance recoveries as we receive more information about customer claims in future reporting periods.
11. SEGMENT AND ENTERPRISE-WIDE INFORMATION
We determine our reportable segments by first identifying our operating segments, and then by assessing whether any components of these segments constitute a business for which discrete financial information is available and where segment management regularly reviews the operating results of that component. Our operating segments are based primarily on geography. North America Plasma is a separate operating segment with dedicated segment management due the size and scale of the plasma business. We aggregate components within an operating segment that have similar economic characteristics.
The Company’s reportable segments are as follows:
• | Japan |
• | Europe, Middle East and Africa (collectively “EMEA”) |
• | North America Plasma |
• | All Other |
The Company has aggregated the following two operating segments into the All Other reportable segment based upon their similar operational and economic characteristics, including similarity of operating margin:
• | Americas Blood Center and Hospital |
• | Asia - Pacific |
In periods prior to the fourth quarter of fiscal 2016, we believed a single reportable segment was consistent with its basic organizational structure and believed aggregation was consistent with its primary basis for decision making. As a result, prior year segment information has been restated to conform to the current reportable segments.
During the first quarter of fiscal 2017, management reorganized its operating segments such that certain components of All Other are now reported as components of EMEA. Accordingly, the prior year numbers have been updated to reflect this
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reclassification as well as other changes within the cost reporting structure that occurred in the first quarter of fiscal 2017. These changes did not have an impact on our ability to aggregate Americas Blood Center and Hospital with Asia - Pacific.
Management measures and evaluates the operating segments based on operating income. Management excludes certain corporate expenses from segment operating income. In addition, certain amounts that management considers to be non-recurring or non-operational are excluded from segment operating income because management evaluates the operating results of the segments excluding such items. These items include restructuring and turnaround costs, deal amortization, and asset impairments. Although these amounts are excluded from segment operating income, as applicable, they are included in the reconciliations that follow. Management measures and evaluates the Company's net revenues and operating income using internally derived standard currency exchange rates that remain constant from year to year, therefore segment information is presented on this basis.
Selected information by business segment is presented below:
Three Months Ended | Nine Months Ended | ||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | |||||||||||
Net revenues | |||||||||||||||
Japan | $ | 20,173 | $ | 22,709 | $ | 53,730 | $ | 60,212 | |||||||
EMEA | 49,857 | 53,258 | 141,531 | 150,267 | |||||||||||
North America Plasma | 83,324 | 73,378 | 235,091 | 206,427 | |||||||||||
All Other | 79,884 | 85,218 | 236,315 | 248,217 | |||||||||||
Net revenues before foreign exchange impact | 233,238 | 234,563 | 666,667 | 665,123 | |||||||||||
Effect of exchange rates | (5,397 | ) | (1,179 | ) | (8,617 | ) | 1,367 | ||||||||
Net revenues | $ | 227,841 | $ | 233,384 | $ | 658,050 | $ | 666,490 | |||||||
Three Months Ended | Nine Months Ended | ||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | |||||||||||
Segment operating income | |||||||||||||||
Japan | $ | 9,331 | $ | 10,013 | $ | 24,335 | $ | 26,643 | |||||||
EMEA | 13,116 | 13,280 | 33,866 | 35,292 | |||||||||||
North America Plasma | 24,660 | 28,445 | 80,209 | 81,909 | |||||||||||
All Other | 26,441 | 29,682 | 82,406 | 88,156 | |||||||||||
Segment operating income | 73,548 | 81,420 | 220,816 | 232,000 | |||||||||||
Corporate operating expenses | (38,683 | ) | (46,481 | ) | (132,550 | ) | (142,007 | ) | |||||||
Effect of exchange rates | (151 | ) | (7 | ) | (790 | ) | 3,875 | ||||||||
Restructuring and turnaround costs | (6,762 | ) | (8,570 | ) | (27,215 | ) | (29,746 | ) | |||||||
Deal amortization | (6,530 | ) | (7,389 | ) | (20,611 | ) | (22,193 | ) | |||||||
Asset impairments | (210 | ) | (85,048 | ) | (1,525 | ) | (85,048 | ) | |||||||
Contingent consideration income | — | 4,898 | — | 4,727 | |||||||||||
Operating income | $ | 21,212 | $ | (61,177 | ) | $ | 38,125 | $ | (38,392 | ) | |||||
In connection with the global strategic review of our business portfolio, we organized our current products into four franchises for purposes of evaluating their growth potential: Plasma, Blood Center, Cell Processing and Hemostasis Management. Management reviews revenue trends based on these franchises, however, no other financial information is currently available on this basis.
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Net revenues by franchise are as follows:
Three Months Ended | Nine Months Ended | |||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | ||||||||||||
Plasma | $ | 108,655 | $ | 100,578 | $ | 309,868 | $ | 282,141 | ||||||||
Blood Center | 76,354 | 90,418 | 221,567 | 257,736 | ||||||||||||
Cell Processing | 25,918 | 27,741 | 77,949 | 83,659 | ||||||||||||
Hemostasis Management | 16,914 | 14,647 | 48,666 | 42,954 | ||||||||||||
Net revenues | $ | 227,841 | $ | 233,384 | $ | 658,050 | $ | 666,490 | ||||||||
Net revenues generated in our principle operating regions on a reported basis are as follows:
Three Months Ended | Nine Months Ended | ||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | |||||||||||
United States | $ | 136,759 | $ | 131,664 | $ | 393,302 | $ | 379,390 | |||||||
Japan | 22,319 | 19,482 | 58,949 | 50,406 | |||||||||||
Europe | 38,892 | 52,453 | 116,865 | 150,610 | |||||||||||
Asia | 27,749 | 27,755 | 83,125 | 79,878 | |||||||||||
Other | 2,122 | 2,030 | 5,809 | 6,206 | |||||||||||
Net revenues | $ | 227,841 | $ | 233,384 | $ | 658,050 | $ | 666,490 | |||||||
12. RESTRUCTURING
On an ongoing basis, we review the global economy, the healthcare industry, and the markets in which we compete to identify opportunities for efficiencies, enhance commercial capabilities, align our resources and offer our customers better solutions. In order to realize these opportunities, we undertake restructuring-type activities to transform our business.
During the first quarter of fiscal 2017, in connection with our global strategic review, we launched a restructuring program designed to reposition our organization and improve our cost structure. This program includes both a reduction of headcount and operating costs as well as projects to simplify product lines. We may also take steps to modify our manufacturing operations to align with our strategic direction.
We initially expected to incur approximately $26 million of restructuring and turnaround related costs, comprised of $17 million in termination benefits and $9 million in other related exit costs. Savings from this program were initially estimated to be approximately $40 million in fiscal 2017. During the three and nine months ended December 31, 2016, we incurred $4.1 million and $22.9 million, respectively, of restructuring and turnaround charges under this program. Additionally, during the three and nine months ended December 31, 2016, we recorded $2.6 million and $4.2 million, respectively, of restructuring and turnaround charges under a prior program. The Company continues to evaluate non-performing assets and business units as part of its turnaround, which has resulted in additional charges and benefits during fiscal 2017.
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The following summarizes the restructuring activity for the nine months ended December 31, 2016:
(In thousands) | Severance and Other Employee Costs | Other Costs | Asset Write Down | Total Restructuring | |||||||||||
Balance at April 2, 2016 | $ | 8,752 | $ | — | $ | — | $ | 8,752 | |||||||
Costs incurred, net of reversals | 16,680 | 785 | 599 | 18,064 | |||||||||||
Payments | (16,301 | ) | (463 | ) | — | (16,764 | ) | ||||||||
Non-cash adjustments | — | (599 | ) | (599 | ) | ||||||||||
Balance at December 31, 2016 | $ | 9,131 | $ | 322 | $ | — | $ | 9,453 | |||||||
Substantially all of the restructuring expenses have been included as a component of selling, general and administrative expenses in the accompanying consolidated statements of income (loss). As of December 31, 2016, we had a restructuring liability of $9.5 million, of which approximately $9.2 million is payable within the next twelve months.
In addition to the restructuring expenses included in the table above, during the nine months ended December 31, 2016, we also incurred $9.1 million of costs that do not constitute as restructuring under ASC 420, which we refer to as turnaround costs. These costs consist primarily of expenditures directly related to our restructuring initiative and include program management, implementation of the global strategic review initiatives and accelerated depreciation.
The tables below present restructuring and turnaround costs by reportable segment:
Restructuring costs | Three Months Ended | Nine Months Ended | |||||||||||||
(in thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | |||||||||||
Japan | $ | (72 | ) | $ | — | $ | 764 | $ | 9 | ||||||
EMEA | 198 | 37 | 3,209 | 155 | |||||||||||
North America Plasma | 1 | — | 369 | — | |||||||||||
All Other | 1,905 | 3,829 | 13,722 | 18,085 | |||||||||||
Total | $ | 2,032 | $ | 3,866 | $ | 18,064 | $ | 18,249 | |||||||
Turnaround costs | Three Months Ended | Nine Months Ended | |||||||||||||
(in thousands) | December 31, 2016 | December 26, 2015 | December 31, 2016 | December 26, 2015 | |||||||||||
Japan | $ | — | $ | 142 | $ | 2 | $ | 333 | |||||||
EMEA | (5 | ) | 83 | 76 | 503 | ||||||||||
North America Plasma | 37 | — | 973 | — | |||||||||||
All Other | 4,674 | 4,295 | 8,036 | 10,769 | |||||||||||
Total | $ | 4,706 | $ | 4,520 | $ | 9,087 | $ | 11,605 | |||||||
Total restructuring and turnaround costs | $ | 6,738 | $ | 8,386 | $ | 27,151 | $ | 29,854 | |||||||
13. CAPITALIZATION OF SOFTWARE DEVELOPMENT COSTS
For costs incurred related to the development of software to be sold, leased or otherwise marketed, we apply the provisions of ASC 985-20, Software - Costs of Software to be Sold, Leased or Marketed, which specifies that costs incurred internally in researching and developing a computer software product should be charged to expense until technological feasibility has been established for the product. Once technological feasibility is established, all software costs should be capitalized until the product is available for general release to customers.
We capitalized $8.3 million and $12.9 million in software development costs for ongoing initiatives during the nine months ended December 31, 2016 and December 26, 2015, respectively. At December 31, 2016 and April 2, 2016, we have a total of $61.9 million and $54.9 million of capitalized software costs, respectively, of which $16.9 million and $14.4 million are related to in-process software development initiatives, respectively. During the nine months ended December 31, 2016 and
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December 26, 2015, $4.5 million and $6.4 million of capitalized costs were placed into service, respectively. The costs capitalized for each project are included in intangible assets in the consolidated financial statements. We review these assets for impairment at least annually. During the nine months ended December 31, 2016, we impaired $1.3 million of capitalized software. The impairment charge is classified within cost of goods sold on our consolidated statements of income (loss).
14. ACCUMULATED OTHER COMPREHENSIVE LOSS
The components of Accumulated Other Comprehensive Loss are as follows:
(In thousands) | Foreign Currency | Defined Benefit Plans | Net Unrealized Gain/Loss on Derivatives | Total | ||||||||||||
Balance as of April 2, 2016 | $ | (22,499 | ) | $ | (7,492 | ) | $ | (5,049 | ) | $ | (35,040 | ) | ||||
Other comprehensive (loss) income before reclassifications(1) | (10,344 | ) | — | 1,681 | (8,663 | ) | ||||||||||
Amounts reclassified from Accumulated Other Comprehensive Loss(1) | — | — | 4,678 | 4,678 | ||||||||||||
Net current period other comprehensive income (loss) | (10,344 | ) | — | 6,359 | (3,985 | ) | ||||||||||
Balance as of December 31, 2016 | $ | (32,843 | ) | $ | (7,492 | ) | $ | 1,310 | $ | (39,025 | ) | |||||
(1) Presented net of income taxes, the amounts of which are insignificant.
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ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) should be read in conjunction with both our interim consolidated financial statements and notes thereto which appear elsewhere in this Quarterly Report on Form 10-Q and our annual consolidated financial statements, notes thereto and the MD&A contained in our fiscal year 2016 Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on June 1, 2016. The following discussion may contain forward-looking statements and should be read in conjunction with the “Cautionary Statement Regarding Forward-Looking Information.”
Our Business
Haemonetics is a global healthcare company dedicated to providing innovative products to customers involved in the processing, handling and analysis of blood. We offer a comprehensive portfolio of integrated devices and information management with the goal of helping improve clinical outcomes and reduce costs for blood and plasma collectors, hospitals, and patients around the world.
Blood and its components (plasma, platelets, and red cells) have many vital and frequently life-saving clinical applications. Plasma is used for patients with major blood loss and is manufactured into pharmaceuticals to treat a variety of illnesses and hereditary disorders such as hemophilia. Red cells treat trauma patients or patients undergoing surgery with high blood loss, such as open heart surgery or organ transplant. Platelets treat cancer patients undergoing chemotherapy. Blood is essential to a modern healthcare system.
Haemonetics develops and markets a wide range of devices and solutions to serve our customers in the blood industry. We provide plasma collection systems and software to enable plasma fractionators to make pharmaceuticals that improve patients’ lives. We provide analytical devices for measuring blood characteristics such as hemostasis that enable healthcare providers to better understand their patients’ condition before beginning medical procedures. Haemonetics makes blood processing systems and software to help blood donation enterprises more efficiently collect and track life giving blood components such as red blood cells and platelets. Finally, Haemonetics supplies systems and software that facilitate blood transfusions and cell processing.
Products
We recently undertook a global strategic review of our business portfolio to identify which end markets and product franchises have the strongest growth opportunities. As a result of that review, we organized our current products into four franchises for purposes of evaluating their growth potential: Plasma, Blood Center, Cell Processing and Hemostasis Management. “Plasma” includes plasma collection devices and disposables, plasma donor management software and anticoagulant and saline sold to plasma customers. “Blood Center” includes blood collection and processing devices and disposables for red cells, platelets and whole blood as well as related donor management software. “Cell Processing” includes surgical blood salvage systems, specialized blood cell processing systems, disposables and blood transfusion management software. “Hemostasis Management” includes devices and methodologies for measuring coagulation characteristics of blood, such as our TEG® Hemostasis Analyzer.
Plasma
Our portfolio of products and services is designed to support multiple facets of plasma collector operations. We have a long-standing commitment to understanding our customers' collection and fractionation processes. As a result, we deliver product quality and reliability; design equipment that is durable, dependable, and easy to use; comprehensive training and support, and strong business continuity practices.
We offer “one stop shopping” to our plasma collection customers, enabling them to source from us the full range of products necessary for plasma collection and storage, including PCS® brand plasma collection equipment and disposables, plasma collection containers, and intravenous solutions, including saline. We also offer a robust portfolio of integrated information technology platforms for plasma customers to manage their donors, operations, and supply chain. Our products automate the donor interview and qualification process; streamline the workflow process in the plasma center; provide the controls necessary to evaluate donor suitability; determine the ability to release units collected; and manage unit distribution. With our software solutions, plasma collectors can manage processes across the plasma supply chain, react quickly to business changes, and identify opportunities to reduce costs.
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Blood Center
We offer automated blood component and manual whole blood collection systems to blood collection centers to collect blood products efficiently and cost effectively. We offer the MCS® (Multicomponent Collection System) brand apheresis equipment which is designed to collect specific blood components integrated from the donor. Utilizing the MCS® automated platelet collection protocols, blood centers collect one or more therapeutic “doses” of platelets during a single donation. The MCS® two-unit protocol or double red cell collection device helps blood collectors optimize the collection of red cells by automating the blood separation function, eliminating the need for laboratory processing, and enabling the collection of two units of red cells from a single donor thus maximizing the amount of red cells collected per eligible donor and helping to mitigate red cell shortages in countries where this problem exists. Blood collectors can also use the MCS® system to collect one unit of red cells and a "jumbo" (double) unit of plasma, or one unit of red cells and one unit of platelets from a single donor. The MCS® plasma protocol, which provides the possibility of collecting 600-800ml of plasma for either transfusion to patients or for use by the pharmaceutical industry, completes the comprehensive portfolio of different blood component collection options on this device.
We also offer products for manual whole blood collection and processing. Our disposable whole blood collection and component storage sets offer flexibility in collecting a unit of whole blood and the subsequent production and storage of the red blood cell, platelet, plasma products, including options for in-line or dockable filters for leukoreduction of any blood component.
Blood Center software solutions improve efficiencies and help ensure donor safety. This includes solutions for blood drive planning, donor recruitment and retention, blood collection, component manufacturing and distribution. Combined, our solutions help blood collectors improve the safety, regulatory compliance, and efficiency of blood collection and supply.
Cell Processing
We offer a range of solutions that significantly improve a hospital's systems for acquiring blood, storing it in the hospital, and dispensing it efficiently and correctly. Over the last few years, hospitals have become increasingly aware of their need to control costs and improve patient safety by managing blood more effectively. Our products and integrated solution platforms help hospitals optimize performance of blood acquisition, storage, and distribution.
The Cell Saver® system is a surgical blood salvage system targeted to procedures that involve medium to high-volume blood loss, such as cardiovascular surgeries. It has become the standard of care for high blood-loss surgeries.
The OrthoPAT® surgical blood salvage system is targeted to orthopedic procedures, such as hip and knee replacements, which involve slower, lower volume blood loss that often occurs well after surgery. The system is designed to remain with the patient following surgery, to recover blood and produce a washed red cell product for autotransfusion.
With the ACP® (Automated Cell Processor) brand, we offer a solution to automate the washing and freezing of red cell components. The automated red cell washing procedure removes plasma proteins within the red cell units to provide a safer product for transfusion to frequently transfused patients, neonates, or patients with a history of transfusion reactions. The automated glycerolization and deglycerolization steps are required to prepare red cells for frozen storage.
Our Cell Processing software products help hospitals track and safely deliver stored blood products. SafeTrace Tx® is our software solution that helps manage blood product inventory, perform patient cross-matching, and manage transfusions. In addition, our BloodTrack® suite of solutions manages tracking and control of blood products from the hospital blood center through to transfusion to the patient. “Smart” blood storage devices located in or near operating suites, emergency rooms, and other parts of the hospital dispense blood units with secure control and automated traceability for efficient documentation. With our more comprehensive offerings, hospitals are better able to manage processes across the blood supply chain and identify increased opportunities to reduce costs and enhance processes.
Hemostasis Management
Our TEG® Thrombelastograph Hemostasis Analyzer system is a blood diagnostic instrument that measures a patient's hemostasis or the ability to form and maintain blood clots. By understanding a patient’s clotting ability, clinicians can better plan for the patient’s care, deciding in advance whether to start or discontinue use of certain drugs or, determine the likelihood of the patient's need for a transfusion and which blood components will be most effective in stopping bleeding. Such planning supports better care, which can lead to lower hospital costs through a reduction in unnecessary donor blood transfusions, reduced adverse transfusion reactions, and shorter intensive care unit and hospital stays.
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Recent Developments
Restructuring Initiative
During the first quarter of fiscal 2017, in connection with our global strategic review, we launched a restructuring program designed to reposition our organization and improve our cost structure. This program includes both a reduction of headcount and operating costs as well as projects to simplify product lines. We may also take steps to modify our manufacturing operations to align with our strategic direction.
We initially expected to incur approximately $26 million of restructuring and turnaround charges, comprised of $17 million in termination benefits and $9 million in other related exit costs. Savings from this program were initially estimated to be approximately $40 million in fiscal 2017. During the three and nine months ended December 31, 2016, we incurred $4.1 million and $22.9 million, respectively, of restructuring and turnaround charges under this program. Additionally, during the three and nine months ended December 31, 2016, we recorded $2.6 million and $4.2 million, respectively, of restructuring and turnaround charges under a prior program. The Company continues to evaluate non-performing assets and business units as part of its turnaround, which has resulted in additional charges and benefits during fiscal 2017.
Product Recall
In June 2016, we issued a voluntary recall of certain whole blood collection kits sold to our Blood Center customers in the United States. The recall resulted from some collection sets' filters failing to adequately remove leukocytes from collected blood. Because most U.S. hospitals prefer to transfuse leukoreduced blood, our blood center customers may have conducted further tests to confirm the blood was adequately leukoreduced, sold the blood as non-leukoreduced at a lower price or discarded the blood collected using the defective sets. As a result of the recall, we have recorded total charges of $4.3 million during the nine months ended December 31, 2016, which consists of $3.7 million of charges associated with customer returns and inventory reserves and $0.6 million of charges associated with customer claims, as discussed below. We may record incremental charges in future periods.
During the nine months ended December 31, 2016, we recorded charges of $3.7 million, which consisted of $2.5 million of sales returns, $1.1 million of net inventory reserves for the affected sets on-hand that had not yet been shipped to customers and $0.1 million of freight expenses. Our estimate of sales returns was based on preliminary returns data received to date, however, actual customer returns are not expected to conclude until the fourth quarter of fiscal 2017.
Additionally, we received claims from customers which comprised substantially all the affected units. These claims seek reimbursement for losses sustained as a result of the recall and total $14.6 million. During the nine months ended December 31, 2016, we have recorded a liability of $0.6 million for these claims. Incremental charges may be recorded in future periods as additional customer returns and claims data becomes available. We have insurance policies in place which may provide coverage for certain types of potential claims. We will assess the potential for insurance recoveries as we receive more information about customer claims in future reporting periods.
Declines in U.S. Blood Center Collections
The demand for whole blood disposable products in the U.S. decreased in fiscal 2016 and 2015 due to a decline in transfusion rates and actions taken by hospitals to improve blood management techniques and protocols.
In response to this trend, U.S. blood center collection groups now prefer single source vendors for their whole blood collection products and are primarily focused on obtaining the lowest average selling prices. While we began to see a moderation in the rate of market decline in the second quarter of fiscal 2017, we expect to see continued declines in transfusion rates and the market to remain price-focused and highly competitive for the foreseeable future.
Apheresis Red Cell Collection Arrangements
During fiscal 2016, the American Red Cross and two group purchasing organizations representing other U.S. blood collectors ("Blood Center GPOs") pursued arrangements for apheresis red cell collections. The resulting American Red Cross contract and the recommendations by both Blood Center GPOs that their members use our competitor's technology continue to negatively affect red cell revenues and gross margins. The American Red Cross contract is expected to result in our gaining 100% share of their apheresis red cell collection business and higher sales volumes, but at lower prices. The impact of the price concessions began in the third quarter of fiscal 2016, while the transition to a higher share of the American Red Cross' business
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is ongoing. The negative impact on fiscal 2017 operating income as a result of the American Red Cross contract and market share losses among members of the Blood Center GPOs is now expected to be approximately $9 million, down from our earlier estimate of $12 million, as we now expect this negative impact to continue in the first half of fiscal 2018. We anticipate stabilization in the second half of fiscal 2018 upon annualization of the price concessions. Red cell disposable revenues in the U.S. totaled $19.7 million and $25.8 million during the nine months ended December 31, 2016 and December 26, 2015, respectively.
Declines in Platelet Collections
While we market our platelet products globally, the dynamics of each market are significantly different. Despite modest increases in the demand for platelets in Europe and Japan, improved collection efficiencies that increase the yield of platelets per collection and more efficient use of collected platelets have resulted in flat markets for platelet usage and related disposables in these regions.
Within these flat markets, the use of "double dose" collection methods and other alternative collection procedures in Europe and Japan has increased. Double dose collections involve collecting two therapeutic platelet doses from one donor. Competition in double dose collection technology is intense and has negatively impacted our sales in a number of markets where these collections are prevalent. In Japan, usage of double dose collections has nearly doubled in the last twelve months and comprised approximately half of all platelets collected.
The steady increases in the use of double dose collections continued in the third quarter of fiscal 2017 and have negatively impacted our revenue and gross profit from platelet collection disposables in both markets.
Financial Summary
Three Months Ended | Nine Months Ended | |||||||||||||||||||||
(In thousands, except per share data) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | ||||||||||||||||
Net revenues | $ | 227,841 | $ | 233,384 | (2.4 | )% | $ | 658,050 | $ | 666,490 | (1.3 | )% | ||||||||||
Gross profit | $ | 101,079 | $ | 108,855 | (7.1 | )% | $ | 296,383 | $ | 316,691 | (6.4 | )% | ||||||||||
% of net revenues | 44.4 | % | 46.6 | % | 45.0 | % | 47.5 | % | ||||||||||||||
Operating expenses | $ | 79,867 | $ | 170,032 | (53.0 | )% | $ | 258,258 | $ | 355,083 | (27.3 | )% | ||||||||||
Operating income (loss) | $ | 21,212 | $ | (61,177 | ) | n/m | $ | 38,125 | $ | (38,392 | ) | n/m | ||||||||||
% of net revenues | 9.3 | % | (26.2 | )% | 5.8 | % | (5.8 | )% | ||||||||||||||
Interest and other expense, net | $ | (2,275 | ) | $ | (2,141 | ) | 6.3 | % | $ | (6,414 | ) | $ | (6,756 | ) | (5.1 | )% | ||||||
Income (loss) before provision (benefit) for income taxes | $ | 18,937 | $ | (63,318 | ) | n/m | $ | 31,711 | $ | (45,148 | ) | n/m | ||||||||||
Provision (benefit) for income taxes | $ | 3,544 | $ | (3,878 | ) | n/m | $ | 6,839 | $ | 1,696 | n/m | |||||||||||
% of pre-tax income | 18.7 | % | 6.1 | % | 21.6 | % | (3.8 | )% | ||||||||||||||
Net income (loss) | $ | 15,393 | $ | (59,440 | ) | n/m | $ | 24,872 | $ | (46,844 | ) | n/m | ||||||||||
% of net revenues | 6.8 | % | (25.5 | )% | 3.8 | % | (7.0 | )% | ||||||||||||||
Net income (loss) per share | $ | 0.30 | $ | (1.17 | ) | n/m | $ | 0.48 | $ | (0.92 | ) | n/m | ||||||||||
Net revenues decreased 2.4% and 1.3% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, net revenues decreased 0.6% and increased 0.2% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Revenue increases in Plasma and Hemostasis Management were partially offset by declines in our Blood Center and Cell Processing franchises during the three and nine months ended December 31, 2016.
We recorded operating income for the three and nine months ended December 31, 2016, as compared to operating losses in the same periods of fiscal 2016, primarily as a result of goodwill and intangible asset impairment charges recognized during the third quarter of fiscal 2016, and savings realized from cost reduction initiatives in the current year periods. These savings were partially offset by the negative impact of product mix, primarily due to the relative sales growth of our lower margin plasma
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liquid solutions, an increase in inventory reserves and an overall decrease in research and development spend during the current year periods.
Management's Use of Non-GAAP Measures
Management uses Non-GAAP financial measures, in addition to financial measures in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP), to evaluate our operating results. These non-GAAP financial measures should be considered supplemental to, and not a substitute for, our reported financial results prepared in accordance with U.S. GAAP. Constant currency growth, a non-GAAP financial measure, measures the change in sales between the current and prior year periods using a constant currency conversion rate. We have provided this non-GAAP financial measure because we believe it provides meaningful information regarding our results on a consistent and comparable basis for the periods presented.
RESULTS OF OPERATIONS
Net Revenues by Geography
Three Months Ended | |||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | Currency impact | Constant currency growth (1) | ||||||||||||
United States | $ | 136,759 | $ | 131,664 | 3.9 | % | — | % | 3.9 | % | |||||||
International | 91,082 | 101,720 | (10.5 | )% | (4.3 | )% | (6.2 | )% | |||||||||
Net revenues | $ | 227,841 | $ | 233,384 | (2.4 | )% | (1.8 | )% | (0.6 | )% | |||||||
(1) Constant currency growth, a non-GAAP financial measure, measures the change in sales between the current and prior year periods using a constant currency. See "Management's Use of Non-GAAP Measures."
Nine Months Ended | |||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | Currency impact | Constant currency growth (1) | ||||||||||||
United States | $ | 393,302 | $ | 379,390 | 3.7 | % | — | % | 3.7 | % | |||||||
International | 264,748 | 287,100 | (7.8 | )% | (3.5 | )% | (4.3 | )% | |||||||||
Net revenues | $ | 658,050 | $ | 666,490 | (1.3 | )% | (1.5 | )% | 0.2 | % | |||||||
(1) Constant currency growth, a non-GAAP financial measure, measures the change in sales between the current and prior year periods using a constant currency. See "Management's Use of Non-GAAP Measures."
Our principal operations are in the U.S., Europe, Japan and other parts of Asia. Our products are marketed in approximately 100 countries around the world through a combination of our direct sales force, independent distributors and agents. Our revenue generated outside the U.S. was 40.0% and 40.2% of total net revenues for the three and nine months ended December 31, 2016, respectively. International sales are generally conducted in local currencies, primarily Japanese Yen, Euro, Chinese Yuan and Australian Dollars. Our revenue was negatively impacted by changes in the value of these currencies relative to the U.S. Dollar.
We have placed foreign currency hedges to mitigate our exposure to foreign currency fluctuations. Relative weakness in the Japanese Yen and Euro to the U.S. Dollar is expected to negatively impact revenue and operating income during fiscal 2017.
Please see the section entitled “Foreign Exchange” in this discussion for a more complete explanation of how foreign currency affects our business and our strategy for managing this exposure.
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Net Revenues by Franchise
Three Months Ended | |||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | Currency impact | Constant currency growth (1) | ||||||||||||
Plasma | $ | 108,655 | $ | 100,578 | 8.0 | % | (1.2 | )% | 9.2 | % | |||||||
Blood Center | 76,354 | 90,418 | (15.6 | )% | (1.6 | )% | (14.0 | )% | |||||||||
Cell Processing | 25,918 | 27,741 | (6.6 | )% | (3.7 | )% | (2.9 | )% | |||||||||
Hemostasis Management | 16,914 | 14,647 | 15.5 | % | (3.9 | )% | 19.4 | % | |||||||||
Net revenues | $ | 227,841 | $ | 233,384 | (2.4 | )% | (1.8 | )% | (0.6 | )% | |||||||
(1) Constant currency growth, a non-GAAP financial measure, measures the change in sales between the current and prior year periods using a constant currency. See "Management's Use of Non-GAAP Measures."
Nine Months Ended | |||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | Currency impact | Constant currency growth (1) | ||||||||||||
Plasma | $ | 309,868 | $ | 282,141 | 9.8 | % | (1.3 | )% | 11.1 | % | |||||||
Blood Center | 221,567 | 257,736 | (14.0 | )% | (1.0 | )% | (13.0 | )% | |||||||||
Cell Processing | 77,949 | 83,659 | (6.8 | )% | (2.8 | )% | (4.0 | )% | |||||||||
Hemostasis Management | 48,666 | 42,954 | 13.3 | % | (2.9 | )% | 16.2 | % | |||||||||
Net revenues | $ | 658,050 | $ | 666,490 | (1.3 | )% | (1.5 | )% | 0.2 | % | |||||||
(1) Constant currency growth, a non-GAAP financial measure, measures the change in sales between the current and prior year periods using a constant currency. See "Management's Use of Non-GAAP Measures."
Plasma
Plasma revenue increased 8.0% and 9.8% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, plasma revenue increased 9.2% and 11.1% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The revenue growth was primarily driven by an increase in sales of Plasma disposables during the three and nine months ended December 31, 2016. This growth was the result of continued strong performance in the U.S. and includes the impact of increased sales of plasma liquid solutions, which contributed approximately $5 million and $16 million to the growth during the three and nine months ended December 31, 2016, respectively.
Blood Center
Platelet
Platelet revenue declined by 23.1% and 15.6% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, platelet revenue decreased 20.9% and 14.4% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The decrease during both the three and nine months ended December 31, 2016, excluding the impact of foreign exchange, was primarily the result of the continued market shift toward double dose collection techniques in Japan. During the three months ended December 31, 2016 delays in order timing in China and lower volumes and order timing in the Middle East and Russia also contributed to the decline. The decrease in the nine months ended December 31, 2016 was partially offset by overall growth in China.
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Red Cell and Whole Blood
Red cell revenue decreased 19.3% and 21.8% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, red cell revenue decreased 18.6% and 21.2% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The decrease during the three and nine months ended December 31, 2016 was driven by price reductions in our principle red cell market in the U.S. which was largely attributable to the contract we entered into with the American Red Cross during the second quarter of fiscal 2016 slightly offset by increased volumes with the American Red Cross, as well as the selection of competitive technologies by Blood Center GPOs, as discussed above. We continue to expect revenue and operating income to decline as a result of these factors.
Whole blood revenue decreased 3.2% and 11.5% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, whole blood revenue decreased 2.2% and 10.3% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. While whole blood revenue decreased as compared to the prior year periods, we began to see a moderation in the rate of decline of this market during the second quarter of fiscal 2017. We expect to see continued declines in transfusion rates and the market to remain price-focused and highly competitive for the foreseeable future.
Software, Equipment and Other
Blood Center software, equipment and other revenue decreased 19.5% and 9.2% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, software, equipment and other revenue decreased 18.7% and 9.4% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. These decreases were largely attributable to the expiration and non-renewal of a U.S. government software contract.
Cell Processing
Cell Salvage
Cell Salvage revenues consist primarily of the Cell Saver and OrthoPAT products. Revenues from OrthoPAT decreased 4.4% and 18.7% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, OrthoPAT disposables revenue remained flat for the three months ended December 31, 2016, primarily due to a supply chain interruption in the prior year period, and decreased 15.9% for the nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Better blood management has reduced orthopedic blood loss and continues to impact demand for OrthoPAT. Recent trends in blood management, particularly the adoption of tranexamic acid to treat and prevent orthopedic post-operative blood loss, continue to lessen hospital use of OrthoPAT. Cell Saver revenue during the three and nine months ended December 31, 2016 declined 12.6% and 6.3% as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, Cell Saver revenue decreased 8.7% and 3.2% for the three and nine months ended December 31, 2016, as compared with the same periods of fiscal 2016. This decrease was due to declines in Western Europe, partially offset by growth in China.
Software
Cell Processing software revenue includes BloodTrack®, SafeTrace Tx® and other hospital software. Revenue of Cell Processing software for the three and nine months ended December 31, 2016 increased 4.1% and 1.9% compared to the same periods of fiscal 2016. Without the effect of foreign exchange, Cell Processing software revenue increased by 7.4% and 4.1% for the three and nine months ended December 31, 2016 compared to the same periods of fiscal 2016, due to SafeTrace Tx® growth in the U.S. and BloodTrack® growth in the global markets.
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Hemostasis Management
Revenue from our Hemostasis Management products increased 15.5% and 13.3% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, Hemostasis Management revenues increased 19.4% and 16.2% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The revenue increase was primarily attributable to the growth of TEG disposables, principally in the U.S. and China. We have now moved into full market release of the TEG 6s device in Australia, Europe and Japan, and are continuing our limited market release in the U.S. The release of TEG 6s has significantly contributed to the overall growth in Hemostasis Management in these countries. Full market release in the U.S. is expected in fiscal 2018, concurrent with additional regulatory clearances.
Gross Profit
Three Months Ended | Nine Months Ended | |||||||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | ||||||||||||||||
Gross profit | $ | 101,079 | $ | 108,855 | (7.1 | )% | $ | 296,383 | $ | 316,691 | (6.4 | )% | ||||||||||
% of net revenues | 44.4 | % | 46.6 | % | 45.0 | % | 47.5 | % | ||||||||||||||
Gross profit decreased 7.1% and 6.4% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, gross profit decreased 6.7% and 4.7% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The gross profit margin decreased by 220 and 250 basis points for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The decrease in the gross profit margin during the three months ended December 31, 2016 was primarily due to inventory reserves recorded during the period as well as the relative sales growth of our lower margin plasma liquid solutions and price reductions in our Blood Center business. These factors, in addition to the effect of the Whole Blood filter recall and an impairment charge related to capitalized software, contributed to the decrease in gross profit margin during the nine months ended December 31, 2016. These declines were partially offset by cost savings initiatives and a reduction in restructuring and turnaround costs. Gross profit margin continues to be impacted by the inefficiency of underutilized productive capacity.
Operating Expenses
Three Months Ended | Nine Months Ended | |||||||||||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | December 31, 2016 | December 26, 2015 | % Increase/ (Decrease) | ||||||||||||||||
Research and development | $ | 8,462 | $ | 10,942 | (22.7 | )% | $ | 28,235 | $ | 33,816 | (16.5 | )% | ||||||||||
% of net revenues | 3.7 | % | 4.7 | % | 4.3 | % | 5.1 | % | ||||||||||||||
Selling, general and administrative | $ | 70,956 | $ | 78,940 | (10.1 | )% | $ | 228,639 | $ | 240,946 | (5.1 | )% | ||||||||||
% of net revenues | 31.1 | % | 33.8 | % | 34.7 | % | 36.2 | % | ||||||||||||||
Impairment of assets | $ | 449 | $ | 85,048 | (99.5 | )% | $ | 1,384 | $ | 85,048 | (98.4 | )% | ||||||||||
% of net revenues | 0.2 | % | 36.4 | % | 0.2 | % | 12.8 | % | ||||||||||||||
Contingent consideration income | $ | — | $ | (4,898 | ) | n/m | $ | — | $ | (4,727 | ) | n/m | ||||||||||
% of net revenues | — | % | (2.1 | )% | — | % | (0.7 | )% | ||||||||||||||
Total operating expenses | $ | 79,867 | $ | 170,032 | (53.0 | )% | $ | 258,258 | $ | 355,083 | (27.3 | )% | ||||||||||
% of net revenues | 35.1 | % | 72.9 | % | 39.2 | % | 53.3 | % | ||||||||||||||
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Research and Development
Research and development expenses decreased 22.7% and 16.5% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, research and development expenses decreased 22.5% and 16.9% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The decrease, on a constant currency basis, for the three and nine months ended December 31, 2016 was primarily driven by reduced spending on several projects in our Blood Center franchise to better align with our long-term product plans and global strategic review. In addition, changes in the timing of spending also contributed to the decline in the three and nine months ended December 31, 2016. While we expect a slight increase in spending in the last quarter of fiscal 2017, much of these costs will be incurred during fiscal 2018. This decrease was partially offset by increased restructuring and turnaround costs for the nine months ended December 31, 2016.
Selling, General and Administrative
Selling, general and administrative expenses decreased 10.1% and 5.1% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. Without the effect of foreign exchange, selling, general, and administrative expenses decreased 4.0% and 3.9% for the three and nine months ended December 31, 2016, as compared to the same periods of fiscal 2016. The decrease for the three and nine months ended December 31, 2016 was primarily the result of cost reduction initiatives and a reduction in restructuring and turnaround costs.
Interest and Other Expense, Net
Interest expense from our term loan borrowings constitutes the majority of expense reported in both periods. The net increase of 6.3% during the three months ended December 31, 2016 as compared to the same period of fiscal 2016, was primarily due to an increase in the effective interest rate. Interest and other expense, net decreased 5.1% for the nine months ended December 31, 2016, as compared to the same period of fiscal 2016 due to reductions in the Term Loan balance as a result of principal payments and a reduction in our borrowings on the Revolving Credit Facility. The effective interest rate on total debt outstanding as of December 31, 2016 was 2.0%.
Income Taxes
We conduct business globally and report our results of operations in a number of foreign jurisdictions in addition to the United States. Our reported tax rate is generally lower than the U.S. federal statutory rate as the income tax rates in the foreign jurisdictions in which we operate are generally lower than the U.S. statutory tax rate.
The effective tax rate for the three months ended December 31, 2016 and December 26, 2015 was 18.7% and 6.1%, respectively. The effective tax rate for the nine months ended December 31, 2016 was 21.6%, as compared to (3.8)% for the nine months ended December 26, 2015.
The increase in our income tax provision for both the three and nine months ended December 31, 2016, as compared to the prior year periods, was primarily due to the impact of impairment charges recorded during the three months ended December 26, 2015 and changes in the jurisdictional mix of earnings. During the three and nine months ended December 26, 2015, we recorded goodwill impairment charges of $66.3 million and intangible asset impairment charges of $18.7 million with a corresponding $7.1 million benefit to income taxes. During the nine months ended December 26, 2015, we recorded a tax expense of $1.7 million which included a tax provision recorded on year-to-date income as well as a discrete tax provision of $1.0 million to increase the deferred tax liability related to amortizable goodwill as a result of the statutory capital gains tax rate in Puerto Rico increasing from 15% to 20%.
During the nine months ended December 31, 2016, we recorded a $6.8 million tax provision, which includes a tax provision recorded on year-to-date income as well as a $1.4 million discrete tax provision associated with the establishment of a tax reserve, partially offset by a tax benefit of $0.5 million for the release of tax reserves due to the expiration of statute of limitations during the second and third quarters of fiscal 2017.
We are in a three year cumulative loss position in the U.S. and, accordingly, maintain a valuation allowance against our U.S. deferred tax assets. We also maintain a valuation allowance against certain foreign deferred tax assets which we have concluded are not more-likely-than-not realizable.
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Liquidity and Capital Resources
The following table contains certain key performance indicators we believe depict our liquidity and cash flow position:
(Dollars in thousands) | December 31, 2016 | April 2, 2016 | ||||||
Cash & cash equivalents | $ | 129,639 | $ | 115,123 | ||||
Working capital | $ | 280,341 | $ | 302,535 | ||||
Current ratio | 2.3 | 2.6 | ||||||
Net debt(1) | $ | (206,629 | ) | $ | (292,877 | ) | ||
Days sales outstanding (DSO) | 60 | 58 | ||||||
Disposable finished goods inventory turnover | 4.0 | 4.6 | ||||||
(1)Net debt position is the sum of cash and cash equivalents less total debt.
In fiscal 2017, we launched a restructuring program designed to reposition our organization and improve our cost structure. We initially expected to incur approximately $26 million of restructuring and turnaround related costs. Savings from this program were initially estimated to be approximately $40 million in fiscal 2017. During the three and nine months ended December 31, 2016, we incurred $4.1 million and $22.9 million, respectively, of restructuring and turnaround charges under this program. The Company continues to evaluate non-performing assets and business units as part of its turnaround, which has resulted in additional charges and benefits during fiscal 2017.
Debt
On August 1, 2012, we entered into a credit agreement ("Credit Agreement") with certain lenders (together, “Lenders”) which provided for a $475.0 million Term Loan and a $50.0 million revolving loan (the “Revolving Credit Facility”), and together with the Term Loan, (the “Credit Facilities”). The Credit Facilities had a term of five years and mature on August 1, 2017. Interest was based on the Adjusted LIBOR plus a range of 1.125% to 1.500% depending on achievement of leverage ratios and customary credit terms which included financial and negative covenants.
On June 30, 2014, we modified our existing Credit Facilities by extending the maturity date to July 1, 2019, extending the principal repayments of the Term Loan, and modifying certain restrictive covenants to allow greater operational flexibility and enhanced near term liquidity. In addition, the amended Credit Agreement provides for a $100.0 million revolving credit facility and establishes interest rates in the range of LIBOR plus 1.125% – 1.500%, depending on certain conditions. No additional amounts were borrowed as a result of this modification. The fair value of debt approximates its current value of $337.2 million as of December 31, 2016. During the three and nine months ended December 31, 2016, we paid $11.9 million and $30.8 million in principal repayments, respectively, for the Term Loan. We have scheduled principal payments of $11.9 million and $61.7 million required during the remainder of fiscal 2017 and in fiscal 2018, respectively. During the three and nine months ended December 31, 2016, we also reduced our borrowings on the Revolving Credit Facility by $40.0 million as part of our normal cash management process. In addition, on January 31, 2017, we reduced our borrowings on the Revolving Credit Facility by the remaining $10.0 million that was outstanding. We were in compliance with the leverage and interest coverage ratios specified in the Credit Agreement as well as all other bank covenants as of December 31, 2016.
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Cash Flows
Nine Months Ended | ||||||||||||
(In thousands) | December 31, 2016 | December 26, 2015 | Increase/ (Decrease) | |||||||||
Net cash provided by (used in): | ||||||||||||
Operating activities | $ | 125,161 | $ | 68,612 | $ | 56,549 | ||||||
Investing activities | (58,744 | ) | (76,474 | ) | 17,730 | |||||||
Financing activities | (49,964 | ) | (46,971 | ) | (2,993 | ) | ||||||
Effect of exchange rate changes on cash and cash equivalents(1) | (1,937 | ) | (662 | ) | (1,275 | ) | ||||||
Net increase (decrease) in cash and cash equivalents | $ | 14,516 | $ | (55,495 | ) | |||||||
(1)The balance sheet is affected by spot exchange rates used to translate local currency amounts into U.S. Dollars. In accordance with U.S. GAAP, we have removed the effect of foreign currency throughout our cash flow statement, except for its effect on our cash and cash equivalents.
Net cash provided by operating activities increased by $56.5 million during the nine months ended December 31, 2016, as compared to the nine months ended December 26, 2015. Cash provided by operating activities increased due to an increase in accounts payable and accrued expenses, most notably accrued payroll. The increase in accrued payroll was driven largely by an increase in variable compensation and restructuring reserves. Also contributing to the cash inflow was a decrease in accounts receivable, primarily in Japan and Europe, as compared to the prior year period. This cash inflow was partially offset by an increase in inventories primarily within our Plasma franchise.
Net cash used in investing activities decreased by $17.7 million during the nine months ended December 31, 2016, as compared to the nine months ended December 26, 2015. The decrease in cash used in investing activities was primarily the result of a reduction in capital expenditures during the nine months ended December 31, 2016 as compared to the same period in the prior fiscal year. Acquisition costs of $3.0 million incurred in the prior year period also contributed to the decrease.
Net cash used in financing activities increased by $3.0 million during the nine months ended December 31, 2016, as compared to the nine months ended December 26, 2015, primarily due to a reduction in borrowings on our Revolving Credit Facility of $40.0 million and principal repayments on our Term Loan of $30.8 million during the nine months ended December 31, 2016. These payments were partially offset by an increase in the exercise of stock options during the nine months ended December 31, 2016 and $61.0 million of cash used to repurchase shares during the prior year period.
Concentration of Credit Risk
Concentrations of credit risk with respect to trade accounts receivable are generally limited due to our large number of customers and their diversity across many geographic areas. A portion of our trade accounts receivable outside the United States, however, include sales to government-owned or supported healthcare systems in several countries, which are subject to payment delays and local economic conditions. Payment is dependent upon the financial stability and creditworthiness of those countries' national economies.
We have not incurred significant losses on receivables. We continually evaluate all receivables for potential collection risks associated with the availability of government funding and reimbursement practices. If the financial condition of customers or the countries' healthcare systems deteriorate such that their ability to make payments is uncertain, allowances may be required in future periods.
Inflation
We do not believe that inflation had a significant impact on our results of operations for the periods presented. Historically, we believe we have been able to mitigate the effects of inflation by improving our manufacturing and purchasing efficiencies, by increasing employee productivity, and by adjusting the selling prices of products. We continue to monitor inflation pressures generally and raw materials indices that may affect our procurement and production costs. Increases in the price of petroleum derivatives could result in corresponding increases in our costs to procure plastic raw materials.
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Foreign Exchange
During the nine months ended December 31, 2016, approximately 40% of our sales were generated outside the U.S., generally in foreign currencies, yet our reporting currency is the U.S. Dollar. We also incur certain manufacturing, marketing and selling costs in international markets in local currency. Our primary foreign currency exposures relate to sales denominated in Euro, Japanese Yen, Chinese Yuan and Australian Dollars. We also have foreign currency exposure related to manufacturing and other operational costs denominated in Swiss Francs, Canadian Dollars, Mexican Pesos, and Malaysian Ringgit. The Yen, Euro, Yuan and Australian Dollar sales exposure is partially mitigated by costs and expenses for foreign operations and sourcing products denominated in foreign currencies. Since our foreign currency denominated Yen, Euro, Yuan and Australian Dollar sales exceed the foreign currency denominated costs, whenever the U.S. Dollar strengthens relative to the Yen, Euro, Yuan or Australian Dollar, there is an adverse effect on our results of operations and, conversely, whenever the U.S. Dollar weakens relative to the Yen, Euro, Yuan or Australian Dollar, there is a positive effect on our results of operations. For Swiss Francs, Canadian Dollars Mexican Pesos, and Malaysian Ringgit our primary cash flows relate to product costs or costs and expenses of local operations. Whenever the U.S. Dollar strengthens relative to these foreign currencies, there is a positive effect on our results of operations. Conversely, whenever the U.S. Dollar weakens relative to these currencies, there is an adverse effect on our results of operations.
We have a program in place that is designed to mitigate our exposure to changes in foreign currency exchange rates. That program includes the use of derivative financial instruments to minimize, for a period of time, the unforeseen impact on our financial results from changes in foreign exchange rates. We utilize forward foreign currency contracts to hedge the anticipated cash flows from transactions denominated in foreign currencies, primarily Japanese Yen and Euro, and to a lesser extent Swiss Francs, Australian Dollars, Canadian Dollars, and Mexican Pesos. This does not eliminate the volatility of foreign exchange rates, but because we generally enter into forward contracts one year out, rates are fixed for a one-year period, thereby facilitating financial planning and resource allocation. These contracts are designated as cash flow hedges. The final impact of currency fluctuations on the results of operations is dependent on the local currency amounts hedged and the actual local currency results.
Recent Accounting Pronouncements
Standards to be Implemented
Revenue from Contracts with Customers (Topic 606)
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). ASU No. 2014-09 stipulates that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve this core principle, an entity should apply the following steps: (1) identify the contract(s) with a customer; (2) identify the performance obligations in the contract; (3) determine the transaction price; (4) allocate the transaction price to the performance obligations in the contract; and (5) recognize revenue when (or as) the entity satisfies a performance obligation. ASU No. 2014-09 will be effective for annual reporting periods beginning after December 15, 2017, including interim periods within those reporting periods. Early adoption is permitted for annual reporting periods beginning after December 15, 2016, including interim reporting periods within that reporting period. The impact of adopting ASU No. 2014-09 on our financial position and results of operations is being assessed by management.
In March 2016, the FASB issued ASU No. 2016-08, Revenue from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net). The purpose of ASU No. 2016-08 is to clarify the guidance on principal versus agent considerations. It includes indicators that help to determine whether an entity controls the specified good or service before it is transferred to the customer and to assist in determining when the entity satisfied the performance obligation and as such, whether to recognize a gross or a net amount of consideration in their consolidated statement of operations. The effective date and transition requirements are consistent with ASU No. 2014-09. The impact of adopting ASU No. 2016-08 on our financial position and results of operations is being assessed by management.
In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing. The guidance clarifies that entities are not required to assess whether promised goods or services are performance obligations if they are immaterial in the context of the contract. ASU No. 2016-10 also addresses how to determine whether promised goods or services are separately identifiable and permits entities to make a policy election to treat shipping and handling costs as fulfillment activities. In addition, it clarifies key provisions in Topic 606 related to licensing. The effective date and transition requirements are consistent with ASU No. 2014-09. The impact of adopting ASU No. 2016-10 on our financial position and results of operations is being assessed by management.
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Other Recent Accounting Pronouncements
In August 2014, the FASB issued ASU No. 2014-15, Presentation of Financial Statements—Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. ASU No. 2014-15 defines management's responsibility to assess an entity's ability to continue as a going concern, and to provide related footnote disclosures in certain circumstances. This guidance will be effective for all entities in the first annual period ending after December 15, 2016; however, early adoption is permitted. Management does not believe that the adoption of ASU No. 2014-15 will have a material effect on our financial position or results of operations.
In January 2016, the FASB issued ASU No. 2016-01, Financial Instruments-Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities. ASU No. 2016-01 requires entities to measure equity investments that do not result in consolidation and are not accounted for under the equity method at fair value with changes recognized in net income. However, an entity may choose to measure equity investments that do not have readily determinable fair values at cost minus impairment, if any, plus or minus changes resulting from observable price changes in orderly transactions for the identical or a similar investment of the same issuer. It also simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. ASU No. 2016-01 also requires separate presentation of financial assets and financial liabilities by measurement category and form of financial asset and liability. ASU No. 2016-01 is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Early adoption of certain provisions is permitted. Management does not believe that the adoption of ASU No. 2016-01 will have a material effect on our financial position or results of operations.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842). ASU No. 2016-02 is intended to increase the transparency and comparability among organizations by recognizing lease asset and lease liabilities on the balance sheet, including those previously classified as operating leases under current U.S. GAAP, and disclosing key information about leasing arrangements. ASU No. 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Earlier adoption is permitted. The impact of adopting ASU No. 2016-02 on our financial position and results of operations is being assessed by management.
In March 2016, the FASB issued ASU No. 2016-09, Compensation- Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. The purpose of the update is to simplify several areas of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. ASU No. 2016-09 is effective for annual reporting periods after December 15, 2016, including interim periods within those fiscal periods. Early adoption is permitted. The impact of adopting ASU No. 2016-09 on our financial position and results of operations is being assessed by management.
In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326). The guidance requires that financial assets measured at amortized cost be presented at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis. The income statement reflects the measurement of credit losses for newly recognized financial assets, as well as the expected credit losses during the period. The measurement of expected credit losses is based upon historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. Credit losses relating to available-for-sale debt securities will be recorded through an allowance for credit losses rather than as a direct write-down to the security. The updated guidance is effective for annual periods beginning after December 15, 2019, and is applicable to the Company in fiscal 2021. Early adoption is permitted. The impact of adopting ASU No. 2016-13 on our financial position and results of operations is being assessed by management.
In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flow (Topic 230). The guidance reduces diversity in how certain cash receipts and cash payments are presented and classified in the Statements of Cash Flows. The guidance is effective for annual periods beginning after December 15, 2017, and is applicable to us in fiscal 2019. Early adoption is permitted. The adoption of ASU 2016-15 is not expected to have a material effect on our consolidated financial statements.
In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740). The guidance requires companies to recognize the income tax effects of intercompany sales and transfers of assets, other than inventory, in the income statement as income tax expense (or benefit) in the period in which the transfer occurs. The guidance is effective for annual periods beginning after December 15, 2017, and is applicable to us in fiscal 2019. Early adoption is permitted for all entities as of the beginning of an annual reporting period. The impact of adopting ASU No. 2016-16 on our financial position and results of operations is being assessed by management.
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Cautionary Statement Regarding Forward-Looking Information
Statements contained in this report, as well as oral statements we make which are prefaced with the words “may,” “will,” “expect,” “anticipate,” “continue,” “estimate,” “project,” “intend,” “designed,” and similar expressions, are intended to identify forward looking statements regarding events, conditions, and financial trends that may affect our future plans of operations, business strategy, results of operations, and financial position. These statements are based on our current expectations and estimates as to prospective events and circumstances about which we can give no firm assurance. Further, any forward-looking statement speaks only as of the date on which such statement is made, and we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made. As it is not possible to predict every new factor that may emerge, forward-looking statements should not be relied upon as a prediction of our actual future financial condition or results.
These forward-looking statements, like any forward-looking statements, involve risks and uncertainties that could cause actual results to differ materially from those projected or anticipated, including: demand for whole blood and blood components, changes in executive management, changes in operations from restructuring and turnaround plans, asset revaluations to reflect current business conditions, technological advances in the medical field and standards for transfusion medicine and our ability to successfully implement products that incorporate such advances and standards, product quality, market acceptance, regulatory uncertainties, including the receipt or timing of regulatory approvals, the effect of economic and political conditions, the impact of competitive products and pricing, blood product reimbursement policies and practices, foreign currency exchange rates, changes in customers’ ordering patterns including single-source tenders, the effect of industry consolidation as seen in the plasma and blood center markets, the effect of communicable diseases and the effect of uncertainties in markets outside the U.S. (including Europe and Asia) in which we operate and other risks detailed under Item 1A. Risk Factors included in this report. The foregoing list should not be construed as exhaustive.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure relative to market risk is due to foreign exchange risk and interest rate risk.
Foreign Exchange Risk
See the section entitled Foreign Exchange for a discussion of how foreign currency affects our business. It is our policy to mitigate, for a period of time, the unforeseen impact on our financial results of fluctuations in foreign exchange rates by using derivative financial instruments known as forward contracts to hedge anticipated cash flows from forecasted foreign currency denominated sales and expenses. We do not use the financial instruments for speculative purposes. We estimate the change in the fair value of all forward contracts assuming both a 10% strengthening and weakening of the U.S. Dollar relative to all other major currencies. In the event of a 10% strengthening of the U.S. Dollar, the change in fair value of all forward contracts would result in a $4.3 million increase in the fair value of the forward contracts; whereas a 10% weakening of the U.S. Dollar would result in a $4.0 million decrease in the fair value of the forward contracts.
Interest Rate Risk
Our exposure to changes in interest rates is associated with borrowings on our credit facility, all of which is variable rate debt. All other long-term debt is at fixed rates. Total outstanding debt under our credit facility as of December 31, 2016 was $337.2 million with an interest rate of 2.0% based on prevailing LIBOR rates. An increase of 100 basis points in LIBOR rates would result in additional annual interest expense of $3.4 million. On December 21, 2012, we entered into interest rate swap agreements to effectively convert $250.0 million of borrowings from a variable rate to a fixed rate. The interest rate swaps qualify for hedge accounting treatment as cash flow hedges. The major risks from interest rate swaps include changes in the interest rates affecting the fair value of such instruments, potential increases in interest expense due to market increases in floating interest rates and the creditworthiness of the counterparties in such transactions. We continuously monitor the creditworthiness of our counterparties.
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ITEM 4. CONTROLS AND PROCEDURES
We conducted an evaluation, as of December 31, 2016, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer (the Company’s principal executive officer and principal financial officer, respectively) regarding the effectiveness of the design and operation of our disclosure controls and procedures as defined in Rule 13a-15 under the Securities Exchange Act of 1934 (the “Exchange Act”). Because the material weakness in our internal control over financial reporting related to accounting for income taxes that existed as of April 2, 2016 has not yet been fully remediated, the Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are not effective as of December 31, 2016. We have advised our audit committee of this deficiency in our internal control over financial reporting, and the fact that this deficiency constitutes a "material weakness."
A material weakness in internal control over financial reporting is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis by our internal controls.
Because such a material weakness was determined to exist, we performed additional procedures to ensure our consolidated financial statements included in this quarterly report on Form 10-Q are presented fairly, in all material respects, our financial position, results of operations and cash flows for the periods presented in conformity with accounting principles generally accepted in the United States.
As we continue to evaluate and work to improve our internal control over financial reporting, management may determine that it is necessary to take additional measures to address control deficiencies or may determine that it is necessary to modify the remediation plan described below. The operation of the control change will need to be observed for a period of time before management is able to conclude that the material weakness has been remediated. If not remediated, this material weakness could result in a material misstatement to our consolidated financial statements. Management continues to monitor implementation of its remediation plan and timetable and believes the efforts described below will effectively remediate the material weaknesses
We are undertaking steps to strengthen our controls over accounting for income taxes, including:
• | Increasing oversight by our management in the calculation and reporting of certain tax balances of our non-U.S. operations; |
• | Enhancing policies and procedures relating to account reconciliation and analysis; |
• | Augmenting our tax accounting resources; |
• | Increasing communication to information providers for tax jurisdiction specific information; and |
• | Strengthening communication and information flows between the tax department and the controllers group. |
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-a5(f). The Company’s internal control system was designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the preparation and fair presentation of published financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Changes in Internal Controls
Except as noted in the preceding paragraphs, there has not been any change in our system of internal control over financial reporting during the quarter ended December 31, 2016 that has materially affected, or is reasonably likely to materially affect, internal control over financial reporting.
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PART II — OTHER INFORMATION
Item 1. Legal Proceedings
Italian Employment Litigation
Our Italian manufacturing subsidiary is party to several actions initiated by employees of the facility in Ascoli-Piceno, Italy where we have ceased manufacturing operations. These include actions claiming (i) working conditions and minimum salaries should have been established by either a different classification under their national collective bargaining agreement or a different agreement altogether, (ii) certain solidarity agreements, which are arrangements between the Company, employees and the government to continue full pay and benefits for employees who would otherwise be terminated in times of low demand, are void, and (iii) payment of the extra time used for changing into and out of their working clothes at the beginning and end of each shift.
In addition, a union represented in the Ascoli plant has filed an action alleging that the Company discriminated against it in favor of three other represented unions by (i) interfering with an employee referendum, (ii) interfering with an employee petition to recall union representatives from office, and (iii) excluding the union from certain meetings.
Finally, we have been added as defendants on claims filed against Pall Corporation prior to our acquisition of the plant in August 2012. These claims relate to agreements to "freeze" benefit allowances for a certain period in exchange for Pall's commitments on hiring and plant investment.
As of December 31, 2016, the total amount of damages claimed by the plaintiffs in these matters is approximately $4.3 million. At this point in the proceedings, we believe the losses are unlikely and therefore no amounts have been accrued. In the future, we may receive other similar claims or adverse rulings from the courts which changes our judgment on these cases.
SOLX Arbitration
In July 2016, H2 Equity, LLC, formerly known as Hemerus Corporation, filed an arbitration claim for $17 million in milestone and royalty payments allegedly owed as part of our acquisition of the filter and storage solution business from Hemerus Medical, LLC ("Hemerus") in fiscal 2014. The acquired storage solution is referred to as SOLX.
At the closing in April 2013, Haemonetics paid Hemerus a total of $24 million and agreed to a $3 million milestone payment due when the U.S. Food and Drug Administration ("FDA") approved a new indication for SOLX (the “24-Hour Approval”), using a filter acquired from Hemerus. We also agreed to make future royalty payments up to a cumulative maximum of $14 million based on the sale of products incorporating SOLX over a ten year period.
Due to performance issues with the Hemerus filter, Haemonetics filed for, and received, the 24-Hour Approval using a Haemonetics filter. Accordingly, Haemonetics did not pay Hemerus the $3 million milestone payment because the 24-Hour Approval was obtained using a Haemonetics filter, not a Hemerus filter. In addition, we have not paid any royalties to date as we have not made any commercial sales of products incorporating SOLX.
H2 Equity claims, in part, that we owe them $3 million for the receipt of the 24-Hour Approval despite the use of a Haemonetics filter to obtain the approval and that we have failed to make commercially reasonable efforts to market and sell products incorporating SOLX. We believe that we have meritorious defenses to these claims.
It is not possible to accurately evaluate the likelihood or amount of any potential losses related to this claim and therefore no amounts have been accrued.
Item 1A. Risk Factors
In addition to the other information set forth in this report, careful consideration should be given to the factors discussed in Part 1, “Item 1A. Risk Factors” in the Company's Annual Report on Form 10-K for the year ended April 2, 2016, which could materially affect the Company's business, financial condition or future results.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
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Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Mine Safety Disclosures
Not applicable.
Item 5. [Removed and Reserved]
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Item 6. Exhibits
31.1 | Certification pursuant to Section 302 of Sarbanes-Oxley Act of 2002, of Christopher Simon, President and Chief Executive Officer of the Company | |
31.2 | Certification pursuant to Section 302 of Sarbanes-Oxley of 2002, of William Burke, Executive Vice President, Chief Financial Officer of the Company | |
32.1 | Certification Pursuant to 18 United States Code Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of Christopher Simon, President and Chief Executive Officer of the Company | |
32.2 | Certification Pursuant to 18 United States Code Section 1350, as adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, of William Burke, Executive Vice President, Chief Financial Officer of the Company | |
101* | The following materials from Haemonetics Corporation on Form 10-Q for the quarter ended December 31, 2016, formatted in Extensible Business Reporting Language (XBRL); (i) Consolidated Statements of Income (Loss) and Comprehensive Income (Loss), (ii) Consolidated Balance Sheets, (iii) Consolidated Statements of Cash Flows, and (iv) Notes to Consolidated Financial Statements. | |
_____________________________
* | In accordance with Rule 406T of Regulation S-T, the XBRL-related information in Exhibit 101 to this Form 10-Q is deemed not filed or part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act, is deemed not filed for the purposes of section 18 of the Exchange Act, and otherwise is not subject to liability under these sections. | |
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SIGNATURES
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.
HAEMONETICS CORPORATION | |||
2/6/2017 | By: | /s/ Christopher Simon | |
Christopher Simon, President and Chief Executive Officer | |||
(Principal Executive Officer) | |||
2/6/2017 | By: | /s/ William Burke | |
William Burke, Executive Vice President, Chief Financial Officer | |||
(Principal Financial Officer) | |||
37
EXHIBIT 31.1
CERTIFICATION
I, Christopher Simon, certify that:
1. | I have reviewed this quarterly report on Form 10-Q of Haemonetics Corporation; |
2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; |
4. | The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: |
a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; |
b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; |
c) | Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation; and |
d) | Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and |
5. | The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions): |
a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and |
b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. |
2/6/2017
/s/ Christopher Simon | ||||
Christopher Simon, President and Chief Executive | ||||
Officer (Principal Executive Officer) | ||||
EXHIBIT 31.2
CERTIFICATION
I, William Burke, certify that:
1. | I have reviewed this quarterly report on Form 10-Q of Haemonetics Corporation; |
2. | Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report; |
3. | Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; |
4. | The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have: |
a) | Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared; |
b) | Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles; |
c) | Evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures as of the end of the period covered by this report based on such evaluation; and |
d) | Disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and |
5. | The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions): |
a) | All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and |
b) | Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting. |
2/6/2017
/s/ William Burke | ||||
William Burke, Executive Vice President, Chief Financial Officer | ||||
(Principal Financial Officer) | ||||
EXHIBIT 32.1
Certification Pursuant To
18 USC. Section 1350,
As Adopted Pursuant To
Section 906 of the Sarbanes/Oxley Act of 2002
In connection with the Quarterly Report of Haemonetics Corporation (the “Company”) on Form 10-Q for the period ended December 31, 2016 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, Christopher Simon, President and Chief Executive Officer of the Company, certify, pursuant to Section 1350 of Chapter 63 of Title 18, United States Code, that this Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that the information contained in this Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
2/6/2017
/s/ Christopher Simon | ||||
Christopher Simon, | ||||
President and Chief Executive Officer | ||||
A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Haemonetics and will be retained by Haemonetics and furnished to the Securities and Exchange Commission or its staff upon request.
EXHIBIT 32.2
Certification Pursuant To
18 USC. Section 1350,
As Adopted Pursuant To
Section 906 of the Sarbanes/Oxley Act of 2002
In connection with the Quarterly Report of Haemonetics Corporation (the “Company”) on Form 10-Q for the period ended December 31, 2016 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), I, William Burke, Executive Vice President, Chief Financial Officer of the Company, certify, pursuant to Section 1350 of Chapter 63 of Title 18, United States Code, that this Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and that the information contained in this Report fairly presents, in all material respects, the financial condition and results of operations of the Company.
2/6/2017
/s/ William Burke | ||||
William Burke, | ||||
Executive Vice President, Chief Financial Officer | ||||
A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to Haemonetics and will be retained by Haemonetics and furnished to the Securities and Exchange Commission or its staff upon request.