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AVANOS MEDICAL, INC. - Quarter Report: 2020 June (Form 10-Q)



UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
☒ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2020
OR
☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ________ to ________  
Commission file number 001-36440
avns-20200630_g1.jpg
AVANOS MEDICAL, INC.
(Exact name of registrant as specified in its charter)

Delaware46-4987888
(State or other jurisdiction of incorporation)(I.R.S. Employer Identification No.)
5405 Windward Parkway
Suite 100 South
Alpharetta,Georgia30004
(Address of principal executive offices)(Zip code)
Registrant’s telephone number, including area code: (844) 428-2667
Securities registered pursuant to Section 12(b) of the Act:
Title of each classTrading SymbolName of exchange on which registered
Common Stock - $0.01 Par ValueAVNSNew York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes      No  
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files).    Yes      No  
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filerAccelerated filer
Non-accelerated filerEmerging growth company
Smaller reporting company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes      No  
As of July 28, 2020, there were 47,831,556 shares of the Corporation’s common stock outstanding. 




Table of Contents



2

PART I – FINANCIAL INFORMATION
Item 1.  Financial Statements
AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED INCOME STATEMENTS
(in millions, except per share amounts)
(Unaudited)

Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Net Sales$163.7  $172.2  $344.1  $336.4  
Cost of products sold
77.2  73.5  155.5  138.9  
Gross Profit86.5  98.7  188.6  197.5  
Research and development7.7  9.5  17.1  19.7  
Selling and general expenses76.9  94.7  168.0  201.1  
Other expense, net3.7  4.3  4.7  11.1  
Operating Loss(1.8) (9.8) (1.2) (34.4) 
Interest income0.2  2.0  0.9  4.4  
Interest expense(4.3) (3.5) (8.6) (7.2) 
Loss Before Income Taxes(5.9) (11.3) (8.9) (37.2) 
Income tax benefit2.9  3.3  9.6  8.9  
Net (Loss) Income$(3.0) $(8.0) $0.7  $(28.3) 
(Loss) Earnings Per Share
Basic$(0.06) $(0.17) $0.02  $(0.60) 
Diluted$(0.06) $(0.17) $0.02  $(0.60) 


See Notes to the Condensed Consolidated Financial Statements.
3

AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in millions)
(Unaudited)

 Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Net (Loss) Income$(3.0) $(8.0) $0.7  $(28.3) 
Other Comprehensive Income (Loss), net of tax
Unrealized currency translation adjustments4.9  1.9  (10.1) 2.6  
Defined benefit plans—  —  0.2  —  
Cash flow hedges—  —  (0.1) —  
Total Other Comprehensive Income (Loss), net of tax4.9  1.9  (10.0) 2.6  
Comprehensive Income (Loss)$1.9  $(6.1) $(9.3) $(25.7) 


See Notes to the Condensed Consolidated Financial Statements.


4

AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(in millions, except share data)
(Unaudited)

June 30,
2020
December 31,
2019
ASSETS
Current Assets
Cash and cash equivalents$185.0  $205.3  
Accounts receivable, net of allowances137.8  163.8  
Inventories174.1  145.9  
Prepaid expenses and other current assets20.2  23.5  
Total Current Assets517.1  538.5  
Property, Plant and Equipment, net179.3  184.5  
Operating Lease Right-of-Use Assets60.0  64.0  
Goodwill800.2  800.9  
Other Intangible Assets, net174.6  184.3  
Deferred Tax Assets14.0  16.1  
Other Assets10.7  11.3  
TOTAL ASSETS$1,755.9  $1,799.6  
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current Liabilities
Current portion of operating lease liabilities$15.4  $14.7  
Trade accounts payable75.8  83.0  
Accrued expenses84.8  114.8  
Total Current Liabilities176.0  212.5  
Long-Term Debt248.4  248.1  
Operating Lease Liabilities58.9  62.6  
Other Long-Term Liabilities11.0  11.2  
Total Liabilities494.3  534.4  
Commitments and Contingencies
Stockholders’ Equity
Preferred stock - $0.01 par value - authorized 20,000,000 shares, none issued
—  —  
Common stock - $0.01 par value - authorized 300,000,000 shares, 47,802,185 outstanding as of June 30, 2020 and 47,734,206 outstanding as of December 31, 2019
0.5  0.5  
Additional paid-in capital1,599.9  1,593.9  
Accumulated deficit(287.6) (288.3) 
Treasury stock(9.2) (8.9) 
Accumulated other comprehensive loss(42.0) (32.0) 
Total Stockholders’ Equity1,261.6  1,265.2  
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY$1,755.9  $1,799.6  

See Notes to the Condensed Consolidated Financial Statements.
5

AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(in millions)
(Unaudited)

Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Common Stock$0.5  $0.5  $0.5  $0.5  
Additional Paid-in Capital, beginning of period1,596.4  1,582.5  1,593.9  1,578.1  
Exercise or redemption of share-based awards0.5  2.5  0.5  2.7  
Stock-based compensation expense3.0  1.8  5.5  6.0  
Additional Paid-in Capital, end of period1,599.9  1,586.8  1,599.9  1,586.8  
Accumulated Deficit, beginning of period(284.6) (262.7) (288.3) (242.4) 
Net (loss) income(3.0) (8.0) 0.7  (28.3) 
Accumulated Deficit, end of period(287.6) (270.7) (287.6) (270.7) 
Treasury Stock, beginning of period(8.9) (7.2) (8.9) (5.3) 
Purchases of treasury stock(0.3) (1.4) (0.3) (3.3) 
Treasury Stock, end of period(9.2) (8.6) (9.2) (8.6) 
Accumulated Other Comprehensive Loss, beginning of period
(46.9) (33.0) (32.0) (33.7) 
Other comprehensive income (loss), net of tax4.9  1.9  (10.0) 2.6  
Accumulated Other Comprehensive Loss, end of period(42.0) (31.1) (42.0) (31.1) 
Total Stockholders’ Equity, end of period$1,261.6  $1,276.9  $1,261.6  $1,276.9  


See Notes to the Condensed Consolidated Financial Statements.


6

AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED CASH FLOW STATEMENTS
(in millions)
(Unaudited)

Six Months Ended June 30,
20202019
Operating Activities
Net income (loss)$0.7  $(28.3) 
Depreciation and amortization21.4  16.9  
Stock-based compensation expense5.5  6.0  
Net loss on asset dispositions0.2  0.5  
Changes in operating assets and liabilities, net of acquisition:
Accounts receivable37.9  26.2  
Inventories(29.1) (13.3) 
Prepaid expenses and other assets1.3  32.8  
Accounts payable(5.7) (64.6) 
Accrued expenses(29.4) (29.3) 
Deferred income taxes and other(7.5) (1.9) 
Cash Used in Operating Activities(4.7) (55.0) 
Investing Activities
Capital expenditures(12.1) (35.4) 
Acquisition of assets and investments in businesses—  (7.0) 
Cash Used in Investing Activities(12.1) (42.4) 
Financing Activities
Debt repayments—  (0.2) 
Purchases of treasury stock(0.3) (3.3) 
Proceeds from the exercise of stock options0.6  2.6  
Cash Provided by (Used in) Financing Activities0.3  (0.9) 
Effect of Exchange Rate Changes on Cash and Cash Equivalents(3.8) 1.9  
Decrease in Cash and Cash Equivalents(20.3) (96.4) 
Cash and Cash Equivalents - Beginning of Period205.3  384.5  
Cash and Cash Equivalents - End of Period$185.0  $288.1  


See Notes to the Condensed Consolidated Financial Statements.

7

AVANOS MEDICAL, INC. AND SUBSIDIARIES
NOTES TO THE UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Accounting Policies
Background and Basis of Presentation
Avanos Medical, Inc. is a medical technology company focused on delivering clinically superior breakthrough medical device solutions to improve patients’ quality of life. Headquartered in Alpharetta, Georgia, Avanos is committed to addressing some of today’s most important healthcare needs, such as reducing the use of opioids while helping patients move from surgery to recovery. We develop, manufacture and market clinically superior solutions around the globe. References to “Avanos,” “Company,” “we,” “our” and “us” refer to Avanos Medical, Inc. and its consolidated subsidiaries.
Interim Financial Statements
We prepared the accompanying condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and the instructions to the Quarterly Report on Form 10-Q and Rule 10-01 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements, and the condensed consolidated financial statements in this Quarterly Report on Form 10-Q should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2019. Our unaudited interim condensed consolidated financial statements contain all necessary material adjustments, which are of a normal and recurring nature, to fairly state our financial condition, results of operations and cash flows for the periods presented.
Use of Estimates
Preparation of our condensed consolidated financial statements in accordance with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net sales and expenses during the reporting periods. Estimates are used in accounting for, among other things, distributor rebate accruals, future cash flows associated with impairment testing for goodwill and long-lived assets, loss contingencies, and deferred tax assets and potential income tax assessments. Our estimates are subject to uncertainties associated with the ongoing COVID-19 pandemic which has caused volatility and adverse effects in global markets. Accordingly, actual results could differ from these estimates, and the effect of the difference could be material to our financial statements. Changes in these estimates are recorded when known.
Income Taxes
The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was enacted on March 27, 2020. The CARES Act allows for the carryback of U.S. net operating losses to prior years resulting in a $2.3 million and $9.7 million benefit that was recognized in the three and six months ended June 30, 2020 respectively.
Recently Adopted Accounting Pronouncements
Effective January 1, 2020, we adopted Accounting Standards Update (“ASU”) No. 2016-13, as amended by ASU 2019-05, Financial Instruments - Credit Losses (Topic 326). This standard addresses expected credit losses on financial instruments, including trade receivables, by replacing the incurred loss method with methodology that reflects expected credit losses that requires consideration of a broader range of information. Historically, our bad debt expense has not been material and our trade receivables are generally short-term in nature. Accordingly, adoption of this standard did not have a material impact on our financial condition, results of operations or cash flows.
Effective January 1, 2020, we adopted ASU No. 2018-15, Intangibles – Goodwill and Other – Internal Use Software (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement That is a Service Contract. This ASU is intended to reduce complexity by aligning the requirements for capitalizing implementation costs incurred in cloud-based arrangements with the requirements for capitalization of costs incurred to develop internal-use software. Any implementation costs in cloud-based arrangements would then be amortized over the term of the service contract. Adoption of this ASU did not have a material effect on our financial position, results of operations or cash flows.
Effective January 1, 2020, we adopted ASU No. 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework – Changes to the Disclosure Requirements for Fair Value Measurement. This ASU removes certain disclosure requirements regarding the amounts and reasons for transfers between Level 1 and Level 2 of the fair value hierarchy and the policy for timing of transfers between the levels. The ASU also adds disclosure requirements regarding unrealized gains and losses included in Other Comprehensive Income for recurring Level 3 fair value measurements and regarding the range and weighted average of unobservable inputs used in Level 3 fair value measurements. Adoption of this ASU did not have a material effect on our financial position, results of operations or cash flows.
8

Recently Issued Accounting Pronouncements
In December 2019, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. This ASU removes certain exceptions for recognizing deferred taxes for investments, performing intraperiod allocation and calculating income taxes in interim periods. The ASU also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill and allocating taxes to members of a consolidated group. This ASU is effective for annual periods and interim periods within those annual periods beginning after December 15, 2020, with early adoption permitted. We do not expect adoption of this ASU to have a material effect on our financial position, results of operations or cash flows.
Note 2.  Restructuring Activities
Our restructuring expenses for the three and six months ended June 30, 2020 and 2019 is summarized in the table below (in millions):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Post-Divestiture Restructuring Plan
Cost Transformation$0.6  $1.2  $1.1  $1.2  
Organizational Alignment & IT Transformation(0.6) 4.6  (0.6) 6.6  
Total Post-Divestiture Restructuring Plan—  5.8  0.5  7.8  
Integration and Restructuring of Business Acquisitions(0.8) —  (0.7) —  
Total Restructuring Costs$(0.8) $5.8  $(0.2) $7.8  
Post-Divestiture Restructuring Plan
In conjunction with the divestiture of our former Surgical & Infection Prevention business, we began a three-phase restructuring plan (the “Plan”) intended to align our organizational structure (“Organizational Alignment”), information technology platform (“IT Transformation”) and supply chain and distribution channels (“Cost Transformation”) to be more appropriate for the size and scale of our remaining Medical Devices business. Organizational Alignment and IT Transformation are substantially complete. However, in the three months ended June 30, 2020, employee severance and retention that was previously accrued for Organizational Alignment was reversed due to employee attrition. There was no other activity for Organizational Alignment or IT Transformation in the six months ended June 30, 2020.
Cost Transformation
The Cost Transformation phase was initiated in June 2019, and is intended to optimize the Company’s procurement, manufacturing, and supply chain operations. The Company expects to incur between $11.0 million and $13.0 million to execute the Cost Transformation, primarily consulting and other expenses that will be expensed as incurred. The Company also expects to spend between $8.0 million to $12.0 million of incremental capital through 2021 and expects to complete the Cost Transformation by the end of 2021. Expenses incurred for Cost Transformation are included in “Cost of products sold.” Plan-to-date we have incurred $3.4 million of costs that were expensed as incurred and $0.7 million of costs that were capitalized.
Integration and Restructuring of Business Acquisitions
During the third quarter of 2019, we initiated activities to integrate recent asset and business acquisitions into our operations, and where appropriate, re-align our organization accordingly. We expect to incur up to $11.0 million of costs, primarily for employee retention, severance and benefits and lease termination costs. In the three months ended June 30, 2020, attrition and the resulting reductions in severance and benefits caused a net credit in the quarter. Plan-to-date, we have incurred $6.9 million of expense, included in “Selling and general expenses,” primarily for employee retention, severance, benefits and “Other expense, net” for right-of-use asset impairment. We expect the integration of our acquisitions will be substantially complete by the end of 2020.
9

Restructuring Liability
We have a liability for employee retention, severance, benefits and other costs associated with our restructuring activities, which is summarized below (in millions):
Accrual
Balance, December 31, 2019$8.5  
Charges and adjustments, net(0.2) 
Payments and other(3.7) 
Balance, June 30, 2020$4.6  


Note 3. Supplemental Balance Sheet Information
Accounts Receivable
Accounts receivable consist of the following (in millions):
June 30, 2020December 31, 2019
Accounts receivable$141.6  $166.8  
Allowances and doubtful accounts:
Doubtful accounts(3.6) (2.7) 
Sales discounts(0.2) (0.3) 
Accounts receivable, net$137.8  $163.8  
As of June 30, 2020 and December 31, 2019, accounts receivable included $30.4 million and $14.3 million, respectively, in other receivables that were primarily related to tax refunds receivable.
Inventories
Inventories at the lower of cost (determined on the LIFO/FIFO or weighted-average cost methods) or market consist of the following (in millions):
June 30, 2020December 31, 2019
LIFONon-
LIFO
TotalLIFONon-
LIFO
Total
Raw materials$57.1  $3.0  $60.1  $46.3  $2.9  $49.2  
Work in process27.4  0.5  27.9  30.4  0.5  30.9  
Finished goods62.0  25.9  87.9  49.5  21.7  71.2  
Supplies and other—  5.8  5.8  —  4.5  4.5  
146.5  35.2  181.7  126.2  29.6  155.8  
Excess of FIFO or weighted-average cost over LIFO cost(7.6) —  (7.6) (9.9) —  (9.9) 
Total
$138.9  $35.2  $174.1  $116.3  $29.6  $145.9  
Property, Plant and Equipment
Property, plant and equipment consists of the following (in millions):
June 30, 2020December 31, 2019
Land$0.8  $1.0  
Buildings45.7  48.3  
Machinery and equipment217.0  215.0  
Construction in progress22.3  18.9  
285.8  283.2  
Less accumulated depreciation(106.5) (98.7) 
Total$179.3  $184.5  
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Depreciation expense was $5.9 million and $11.7 million for the three and six months ended June 30, 2020 compared to $3.7 million and $7.3 million for the three and six months ended June 30, 2019, respectively. Depreciation expense in the three and six months ended June 30, 2020 includes depreciation on $59.3 million of capital that was placed in service in late 2019 associated with (i) implementation of a new IT platform and (ii) post-divestiture network separation. We considered the effects of the ongoing COVID-19 pandemic on the recoverability of our fixed assets and concluded that, as of June 30, 2020, the events and circumstances did not indicate that the carrying value of any of our fixed assets were not recoverable.
Goodwill and Intangible Assets
The changes in the carrying amount of goodwill are as follows (in millions):
Goodwill
Balance, December 31, 2019$800.9  
Currency translation adjustment(0.7) 
Balance, June 30, 2020$800.2  
We considered the effects of the ongoing COVID-19 pandemic on the fair value of our reporting unit and concluded that, as of June 30, 2020, the events and circumstances did not indicate that an interim period test for goodwill impairment was necessary.
Intangible assets subject to amortization consist of the following (in millions):
June 30, 2020December 31, 2019
Gross
Carrying
Amount
Accumulated
Amortization
Net Carrying AmountGross
Carrying
Amount
Accumulated
Amortization
Net Carrying Amount
Trademarks$90.9  $(59.0) $31.9  $90.9  $(56.7) $34.2  
Patents and acquired technologies281.1  (163.2) 117.9  281.1  (157.2) 123.9  
Other61.3  (36.5) 24.8  61.3  (35.1) 26.2  
Total$433.3  $(258.7) $174.6  $433.3  $(249.0) $184.3  
Amortization expense for intangible assets was $4.9 million and $9.7 million for the three and six months ended June 30, 2020 compared to $4.8 million and $9.6 million for the three and six months ended June 30, 2019. We considered the effects of the ongoing COVID-19 pandemic on the recoverability of our intangible assets and concluded that, as of June 30, 2020, events and circumstances did not indicate that the carrying value of any of our intangible assets were not recoverable.
We estimate amortization expense for the remainder of 2020 and the following four years and beyond will be (in millions):
Amount
Remainder of 2020$9.9  
202117.0  
202215.9  
202315.3  
202415.1  
Thereafter101.4  
Total$174.6  
Accrued Expenses
Accrued expenses consist of the following (in millions):
June 30, 2020December 31, 2019
Accrued rebates$24.4  $51.1  
Accrued salaries and wages27.5  23.6  
Accrued taxes4.4  3.2  
Other28.5  36.9  
Total$84.8  $114.8  
Accrued rebates represent amounts accrued for estimated incentives earned by customers.
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Other Long-Term Liabilities
Other long-term liabilities consist of the following (in millions):
June 30, 2020December 31, 2019
Taxes payable$0.4  $0.4  
Accrued compensation benefits5.3  5.4  
Other5.3  5.4  
Total$11.0  $11.2  

Note 4. Fair Value Information
The following fair value information is based on a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The three levels in the hierarchy used to measure fair value are:
Level 1: Unadjusted quoted prices in active markets accessible at the reporting date for identical assets and liabilities.
Level 2: Quoted prices for similar assets or liabilities in active markets. Quoted prices for identical or similar assets and liabilities in markets that are not considered active or financial instruments for which all significant inputs are observable, either directly or indirectly.
Level 3: Prices or valuations that require inputs that are significant to the valuation and are unobservable.
A financial instrument’s level within the fair value hierarchy is based on the lowest level of any input that is significant to the fair value measurement. The following table includes the fair value of our financial instruments for which disclosure of fair value is required (in millions):
June 30, 2020December 31, 2019
Fair Value
Hierarchy
Level
Carrying
Amount
Estimated
Fair
Value
Carrying
Amount
Estimated
Fair
Value
Assets
Cash and cash equivalents1$185.0  $185.0  $205.3  $205.3  
Liabilities
Senior Unsecured Notes1248.4  250.1  248.1  254.5  
Cash equivalents are recorded at cost, which approximates fair value due to their short-term nature. The fair value of the senior unsecured notes was based on observable market prices based on trading activity on a primary exchange.
Note 5.  Debt
As of June 30, 2020 and December 31, 2019, our debt balances were as follows (in millions):
Weighted-Average Interest RateMaturitiesJune 30, 2020December 31, 2019
Senior Unsecured Notes6.25 %2022$249.8  $249.8  
Unamortized Debt Discounts and Issuance Costs(1.4) (1.7) 
Total Debt, net$248.4  $248.1  
Senior Unsecured Notes
The Senior Unsecured Notes (the “Notes”) will mature on October 15, 2022. Interest accrues at a rate of 6.25% per annum and is payable semi-annually in arrears on April 15 and October 15 of each year. Unamortized debt discount and issuance costs are being amortized over the life of the Notes using the interest method, resulting in an effective interest rate of 6.51% as of June 30, 2020. We may redeem the Notes in whole or in part without paying a premium any time on or after October 15, 2020.
Revolving Credit Facility
We have a senior secured revolving credit facility (“Revolving Credit Facility”) that matures on October 30, 2023 which allows for borrowings up to $250.0 million, with a letter of credit sub-facility in an amount of $75 million and a swingline sub-facility in an amount of $25 million.
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Borrowings under the Revolving Credit Facility bear interest, at our option, at either (i) a reserve-adjusted LIBOR rate, plus a margin ranging between 1.50% to 2.25% per annum, depending on our consolidated total leverage ratio, or (ii) the base rate plus a margin ranging between 0.50% to 1.25% per annum, depending on our consolidated total leverage ratio. The unused portion of the Revolving Credit Facility is subject to a commitment fee equal to (i) 0.25% per annum, when our consolidated total leverage ratio is less than 2.25 to 1.00 or (ii) 0.38% per annum, otherwise.
To the extent we remain in compliance with certain financial covenants in our credit agreement, we have the ability to access our Revolving Credit Facility. As of June 30, 2020, we had no borrowings and letters of credit of $0.7 million outstanding under the Revolving Credit Facility.
Note 6. Accumulated Other Comprehensive Income
The changes in the components of AOCI, net of tax, are as follows (in millions):
Unrealized
Translation
Cash Flow
Hedges
Defined Benefit
Pension Plans
Accumulated
Other
Comprehensive Loss
Balance, December 31, 2019$(31.5) $0.1  $(0.6) $(32.0) 
Other comprehensive loss(10.1) (0.1) 0.2  (10.0) 
Balance, June 30, 2020$(41.6) $—  $(0.4) $(42.0) 
The changes in the components of AOCI, including the tax effect, are as follows (in millions):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Unrealized translation$4.9  $1.9  $(10.1) $2.6  
Defined benefit pension plans
—  —  0.3  —  
Tax effect
—  —  (0.1) —  
Defined benefit pension plans, net of tax
—  —  0.2  —  
Cash flow hedges—  —  (0.1) —  
Tax effect—  —  —  —  
Cash flow hedges, net of tax—  —  (0.1) —  
Change in AOCI
$4.9  $1.9  $(10.0) $2.6  

Note 7.  Stock-Based Compensation
Aggregate stock-based compensation expense was $3.0 million and $5.5 million for the three and six months ended June 30, 2020, compared to $1.8 million and $6.0 million in the three and six months ended June 30, 2019, respectively.
Stock-based compensation expense related to stock options was $0.7 million and $1.3 million for the three and six months ended June 30, 2020, compared to $0.9 million and $1.7 million in the three and six months ended June 30, 2019, respectively.
Expense related to time-based restricted share units was $1.5 million and $2.4 million for the three and six months ended June 30, 2020, compared to $0.4 million and $2.6 million in the three and six months ended June 30, 2019, respectively.
Stock-based compensation expense related to performance-based restricted share units was $0.8 million and $1.7 million for the three and six months ended June 30, 2020, compared to $0.5 million and $1.7 million in the three and six months ended June 30, 2019, respectively.
Expense related to our employee stock purchase plan (“ESPP”) was not material in the three months ended June 30, 2020. ESPP-related expense was $0.1 million for the six months ended June 30, 2020. The ESPP was put in place during 2019 with the first offering period beginning on September 1, 2019 through December 31, 2019. As a result, there was no expense for the ESPP in the three and six months ended June 30, 2019.
Note 8. Commitments and Contingencies
We are subject to various legal proceedings, claims and governmental inspections, audits or investigations pertaining to issues such as contract disputes, product liability, tax matters, patents and trademarks, advertising, governmental regulations, employment and other matters, including the matters described below. Under the terms of the distribution agreement we entered
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into with Kimberly-Clark Corporation (“Kimberly-Clark”) prior to the spin-off, legal proceedings, claims and other liabilities that are primarily related to our business are our responsibility and we are obligated to indemnify and hold Kimberly-Clark harmless for such matters (“Indemnification Obligation”). For the three and six months ended June 30, 2020, we incurred $1.2 million and $3.4 million, respectively, of expenses related to these matters compared to $4.7 million and $13.4 million in the three and six months ended June 30, 2019.
Surgical Gown Litigation and Related Matters
Bahamas Surgery Center
We have an Indemnification Obligation for the matter styled Bahamas Surgery Center, LLC v. Kimberly-Clark Corporation and Halyard Health, Inc., No. 2:14-cv-08390-DMG-SH (C.D. Cal.) (“Bahamas”), filed on October 29, 2014. In that case, the plaintiff brought a putative class action asserting claims for common law fraud (affirmative misrepresentation and fraudulent concealment) and violation of California’s Unfair Competition Law (“UCL”) in connection with our marketing and sale of MicroCool surgical gowns.
On April 7, 2017, a jury returned a verdict for the plaintiff, finding that Kimberly-Clark was liable for $3.9 million in compensatory damages (not including prejudgment interest) and $350.0 million in punitive damages, and that Avanos was liable for $0.3 million in compensatory damages (not including prejudgment interest) and $100.0 million in punitive damages. Subsequently, the court also ruled on the plaintiff’s UCL claim and request for injunctive relief. The court found in favor of the plaintiff on the UCL claim but denied the plaintiff’s request for restitution. The court also denied the plaintiff’s request for injunctive relief.
On May 25, 2017, we filed post-trial motions seeking, among other things, to have the award of punitive damages reduced. On April 11, 2018, the court issued an Amended Judgment in favor of the plaintiff and against us and Kimberly-Clark that substantially reduced the punitive damages awards. The judgment against us is now $0.4 million in compensatory damages and pre-judgment interest and $1.3 million in punitive damages. The judgment against Kimberly-Clark is now $3.9 million in compensatory damages, $2.6 million in pre-judgment interest, and $19.4 million in punitive damages.
On April 12, 2018, we filed a notice of appeal to the Ninth Circuit Court of Appeals. On July 23, 2020, the appellate court vacated the judgment against Avanos and remanded the case to the district court with instructions to dismiss Avanos because Bahamas lacked standing to sue us. The appellate court also ruled that the district court abused its discretion by failing to decertify the class as defined and, therefore, vacated the judgment against Kimberly-Clark and remanded it to the trial court for further proceedings consistent with its ruling. We intend to continue our vigorous defense of the Bahamas matter.
Kimberly-Clark Corporation
We have notified Kimberly-Clark that we have reserved our rights to challenge any purported obligation to indemnify Kimberly-Clark for the punitive damages awarded against them. In connection with our reservation of rights, on May 1, 2017, we filed a complaint in the matter styled Halyard Health, Inc. v. Kimberly-Clark Corporation, Case No. BC659662 (County of Los Angeles, Superior Court of California). In that case, we sought a declaratory judgment that we have no obligation, under the Distribution Agreement or otherwise, to indemnify, pay, reimburse, assume, or otherwise cover punitive damages assessed against Kimberly-Clark in the Bahamas matter, or any Expenses or Losses (as defined in the distribution agreement) associated with an award of punitive damages. On May 2, 2017, Kimberly-Clark filed a complaint in the matter styled Kimberly-Clark Corporation v. Halyard Health, Inc., Case No. 2017-0332-AGB (Court of Chancery of the State of Delaware). In that case, Kimberly-Clark seeks a declaratory judgment that (1) we must indemnify them for all damages, including punitive damages, assessed against them in the Bahamas matter, (2) we have anticipatorily and materially breached the Distribution Agreement by our failure to indemnify them, and (3) we are estopped from asserting, or have otherwise waived, any claim that we are not required to indemnify them for all damages, including punitive damages, that may be awarded in the Bahamas matter.
On May 26, 2017, we moved to dismiss or stay Kimberly-Clark’s Delaware complaint, and on June 16, 2017, Kimberly-Clark moved for summary judgment. On September 12, 2017, the Delaware court granted our motion to stay Kimberly-Clark’s complaint and therefore did not take any action on Kimberly-Clark’s motion for summary judgment. On May 30, 2018, Kimberly-Clark moved to quash service of summons we served on Kimberly-Clark in California for lack of personal jurisdiction. On December 12, 2018, the court granted Kimberly-Clark’s motion. On December 18, 2018, we filed a notice of appeal to the California Court of Appeal. On December 6, 2019, the appellate court affirmed the lower court’s ruling, finding that it did not have personal jurisdiction over Kimberly-Clark. We intend to continue our vigorous defense of the matter.
Government Investigation
In June 2015, we were served with a subpoena from the Department of Veterans Affairs Office of the Inspector General (“VA OIG”) seeking information related to the design, manufacture, testing, sale and promotion of MicroCool and other Company surgical gowns, and, in July 2015, we also became aware that the subpoena and an earlier VA OIG subpoena served on Kimberly-Clark requesting information about gown sales to the federal government are related to a United States Department of
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Justice (“DOJ”) investigation. In May 2016, April 2017 and September 2018, we received additional subpoenas from the DOJ seeking further information related to Company gowns. The Company is cooperating with the DOJ investigation.
Shahinian
On October 12, 2016, after the DOJ and various States declined to intervene, a qui tam matter was unsealed and a complaint was subsequently served on us in a matter styled U.S. ex rel. Shahinian, et al. v. Kimberly-Clark Corporation, No. 2:14-cv-08313-JAK-JPR (C.D. Cal.) (“Shahinian”), filed on October 27, 2014. The case alleges, among other things, violations of the federal and various state False Claims Acts in connection with the marketing and sale of certain surgical gowns. On March 8, 2017, Kimberly-Clark moved to dismiss the Shahinian complaint, and on July 14, 2017, the California court granted Kimberly-Clark’s motion. The plaintiff then filed a second amended complaint, and on August 11, 2017, Kimberly-Clark moved to dismiss that one as well. The plaintiff then filed a third amended complaint. On January 18, 2018, Kimberly-Clark moved to dismiss that one too. On September 30, 2018, the court granted Kimberly-Clark’s motion with prejudice. On November 13, 2018, Shahinian filed a notice of appeal to the Ninth Circuit Court of Appeals. On June 4, 2020, the appellate court vacated the district’s court order dismissing the case and remanded the case to the district court.
We may have an Indemnification Obligation for the Shahinian matter under the distribution agreement with Kimberly-Clark and have notified Kimberly-Clark that we reserve our rights to challenge the obligation to indemnify Kimberly-Clark for any damages or penalties which are not indemnifiable under applicable law or public policy. We intend to continue our vigorous defense of the matter.
Jackson
We were served with a complaint in a matter styled Jackson v. Halyard Health, Inc., Robert E. Abernathy, Steven E. Voskuil, et al., No. 1:16-cv-05093-LTS (S.D.N.Y.), filed on June 28, 2016. In that case, the plaintiff brings a putative class action against the Company, our former Chief Executive Officer, our former Chief Financial Officer and other defendants, asserting claims for violations of the Securities Exchange Act, Sections 10(b) and 20(a). The plaintiff alleges that the defendants made misrepresentations and failed to disclose certain information about the safety and effectiveness of our MicroCool gowns and thereby artificially inflated the Company’s stock prices during the respective class periods. The alleged class period for purchasers of Kimberly-Clark securities who subsequently received Avanos securities is February 25, 2013 to October 21, 2014, and the alleged class period for purchasers of Avanos securities is October 21, 2014 to April 29, 2016. On February 16, 2017, we moved to dismiss the case. On March 30, 2018, the court granted our motion to dismiss and entered judgment in our favor. On April 27, 2018, the plaintiff filed a Motion for Relief from the Judgment and for Leave to Amend. On April 1, 2019, the court denied the plaintiff’s motion. On May 1, 2019, Jackson appealed the dismissal of the action to the Second Circuit Court of Appeals. On May 27, 2020, the appellate court affirmed the district court’s order dismissing the case. We intend to continue our vigorous defense of this matter.
Richardson, Chiu and Pick
We were also served with a complaint in a matter styled Margaret C. Richardson Trustee of the Survivors Trust Dated 6/12/84 for the Benefit of the H&M Richardson Revocable Trust v. Robert E. Abernathy, Steven E. Voskuil, et al., No. 1:16-cv-06296 (S.D.N.Y.) (“Richardson”), filed on August 9, 2016. In that case, the plaintiff sues derivatively on behalf of Avanos Medical, Inc., and alleges that the defendants breached their fiduciary duty, were unjustly enriched, and violated Section 14(A) of the Securities and Exchange Act in connection with our marketing and sale of MicroCool gowns. We were also served with a complaint in a matter styled Kai Chiu v. Robert E. Abernathy, Steven E. Voskuil, et al., No. 2:16-cv-08768 (C.D. Cal.), filed on November 23, 2016. In that case, the plaintiff sues derivatively on behalf of Avanos Medical, Inc., and makes allegations and brings causes of action similar to those in Richardson, but the plaintiff also adds causes of action for abuse of control, gross mismanagement, and waste of corporate assets. We were also served with a complaint in a matter styled Lukas Pick v. Robert E. Abernathy, Steven E. Voskuil, et al., No. e:18-cv-00295 (D. Del.) filed on February 21, 2018. In that case, the plaintiff sues derivatively on behalf of Avanos Medical, Inc. and makes allegations and brings causes of action similar to those in Richardson and Chiu. On June 30, 2020 and July 14, 2020, the court in each of Pick and Richardson, respectively, ordered the dismissal of those cases pursuant to stipulations of voluntary dismissal with prejudice. On July 27, 2020, the parties in Chiu filed a stipulation of voluntary dismissal without prejudice. We intend to continue our vigorous defense of the Chiu matter.
Patent Litigation
We operate in an industry characterized by extensive patent litigation and competitors may claim that our products infringe upon their intellectual property. Resolution of patent litigation or other intellectual property claims is typically time consuming and costly and can result in significant damage awards and injunctions that could prevent the manufacture and sale of the affected products or require us to make significant royalty payments in order to continue selling the affected products. At any given time we may be involved as either a plaintiff or a defendant in a number of patent infringement actions, the outcomes of which may not be known for prolonged periods of time.
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General
While we maintain general and professional liability, product liability and other insurance, our insurance policies may not cover all of these matters and may not fully cover liabilities arising out of these matters. In addition, we may be obligated to indemnify our directors and officers against these matters.
We record provisions in the consolidated financial statements for pending litigation when we determine that an unfavorable outcome is probable and the amount of the loss can be reasonably estimated. For any matters that are reasonably possible to result in loss and for which no possible loss or range of loss is disclosed in this report, management has determined that it is unable to estimate the possible loss or range of loss because, in each case, at least the following facts applied: (a) early stage of the proceedings; (b) indeterminate (or unspecified) damages; and (c) significant factual issues yet to be resolved, or such amounts have been determined to be immaterial. At present, although the results of litigation and claims cannot be predicted with certainty, we believe that the ultimate resolution of these matters will not materially impact our liquidity, access to capital markets or ability to conduct our daily operations.
As of June 30, 2020, we have an accrued liability for the matters described herein, and reasonably possible losses have been disclosed. The accrued liability is included in “Accrued Expenses” in the accompanying condensed consolidated balance sheet. Our estimate of these liabilities is based on facts and circumstances existing at this time, along with other variables. Factors that may affect our estimate include, but are not limited to: (i) changes in the number of lawsuits filed against us, including the potential for similar, duplicate or “copycat” lawsuits filed in multiple jurisdictions, including lawsuits that bring causes or action or allege violations of law with regard to additional products; (ii) changes in the legal costs of defending such claims; (iii) changes in the nature of the lawsuits filed against us; (iv) changes in the applicable law governing any legal claims against us; (v) a determination that our assumptions used in estimating the liability are no longer reasonable; and (vi) the uncertainties associated with the judicial process, including adverse judgments rendered by courts or juries. Thus, the actual amount of these liabilities for existing and future claims could be materially different than the accrued amount. Additionally, the above matters, regardless of the outcome, could disrupt our business and result in substantial costs and diversion of management attention.
Environmental Compliance
We are subject to federal, state and local environmental protection laws and regulations with respect to our business operations and are operating in compliance with, or taking action aimed at ensuring compliance with, these laws and regulations. None of our compliance obligations with environmental protection laws and regulations, individually or in the aggregate, is expected to have a material adverse effect on our business, financial condition, results of operations or liquidity.
Note 9. Earnings Per Share (“EPS”)
Basic EPS is calculated by dividing net income by the weighted average number of common shares outstanding during each period. Diluted earnings per share is calculated by dividing net income by the weighted average number of common shares outstanding and the effect of all dilutive common stock equivalents outstanding during each period, as determined using the treasury stock method.
The calculation of basic and diluted earnings per share for the three and six months ended June 30, 2020 and 2019 is set forth in the following table (in millions, except per share amounts):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Net (loss) income$(3.0) $(8.0) $0.7  $(28.3) 
Weighted Average Shares Outstanding:
Basic weighted average shares outstanding47.8  47.6  47.8  47.5  
Dilutive effect of stock options and restricted share unit awards—  —  0.2  —  
Diluted weighted average shares outstanding47.8  47.6  48.0  47.5  
(Loss) Earnings Per Share:
Basic$(0.06) $(0.17) $0.02  $(0.60) 
Diluted$(0.06) $(0.17) 0.02  (0.60) 
Restricted share units (“RSUs”) contain provisions allowing for the equivalent of any dividends paid on common stock during the restricted period to be reinvested into additional RSUs at the then fair market value of the common stock on the date the dividends are paid. Such awards are to be included in the EPS calculation under the two-class method. Currently, we do not anticipate any cash dividends for the foreseeable future and our outstanding RSU awards are not material in comparison to our
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weighted average shares outstanding. Accordingly, all EPS amounts reflect shares as if they were fully vested and the disclosures associated with the two-class method are not presented herein.
For the three and six months ended June 30, 2020, 1.7 million and 1.4 million of potentially dilutive stock options and restricted share unit awards were excluded from the computation of earnings per share as their effect would have been anti-dilutive.
Note 10. Business and Products Information
We conduct our business in one operating and reportable segment that provides our medical device products to healthcare professionals and patients in more than 90 countries with manufacturing facilities in the United States, Mexico, France, Germany and Tunisia.
We provide a portfolio of innovative product offerings focused on pain management and chronic care to improve patient outcomes and reduce the cost of care. Our management evaluates net sales by product category within our single reportable segment as follows (in millions):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Chronic care$120.2  $102.3  $235.9  $202.3  
Pain management43.5  69.9  108.2  134.1  
Total Net Sales$163.7  $172.2  $344.1  $336.4  
Chronic care is focused on (i) digestive health products such as our Mic-Key enteral feeding tubes, Corpak patient feeding solutions and NeoMed neonatal feeding solutions and (ii) respiratory health products such as our Ballard closed airway suction systems and oral care kits.
Pain management is focused on non-opioid solutions including (i) acute pain products such as On-Q and ambIT® surgical pain pumps and Game Ready cold and compression therapy systems and (ii) interventional pain solutions, which provides minimally invasive pain relieving therapies, such as our Coolief pain therapy.
Due to the nature of our business, we receive purchase orders for products under supply agreements which are normally fulfilled within three to four weeks. Our performance obligations under purchase orders are satisfied and revenue is recognized at a point in time, which is upon shipment or upon delivery of our products to unaffiliated customers, depending on shipping terms. Accordingly, we normally do not have transactions that give rise to material unfulfilled performance obligations.
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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Introduction
This Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide investors with an understanding of our recent performance, and should be read in conjunction with the condensed consolidated financial statements contained in Item 1, “Financial Statements” in this Quarterly Report on Form 10-Q and our audited consolidated financial statements and related notes included in our Annual Report on Form 10-K for the year ended December 31, 2019.
The following will be discussed and analyzed:
Effects of the COVID-19 Pandemic
Restructuring Activities
Results of Operations and Related Information
Liquidity and Capital Resources
Guarantor Financial Information
Legal Matters
Critical Accounting Policies
Information Concerning Forward-Looking Statements
Effects of the COVID-19 Pandemic
We continue to monitor the developments associated with the COVID-19 pandemic and its effects on our employees, customers, supply chain and distribution channels. The ongoing impact of the pandemic depends on a number of factors including the severity and duration of the COVID-19 pandemic and the extent and severity of the impact on our customers, which is uncertain and not predictable. Our future results of operations and cash flows may suffer adverse effects from delays in payments on outstanding accounts receivable, potential manufacturing, distribution and supply chain disruptions and uncertain demand, and effects of any actions we may take to address financial and operational challenges our customers may face. Other risks and uncertainties that we face include, but are not limited to:
postponement or cancellation of elective medical procedures and their uncertain return which adversely impacts our business;
potential temporary or prolonged office, production facility or distribution center closures;
the health of our employees and ability to meet staffing needs;
potential new or continued governmental actions that may limit employees’ ability to work;
civil unrest relating to government, corporate and societal responses to the pandemic;
volatility in economic conditions and the financial markets, and
other unanticipated effects that remain unknown.
We are actively managing our response to the COVID-19 pandemic in collaboration with our customers, government agencies, vendors, suppliers and business partners and assessing the potential effects to our financial position, results of operations and cash flows. For further information regarding the potential impact of the COVID-19 pandemic on our company, see “Risk Factors” in Item 1A of this report.
In conjunction with our altered operations previously described, we have incurred $3.2 million and $3.7 million of incremental expense for the three and six months ended June 30, 2020. We may incur significant additional expense as we expect to sustain altered operations through the second half of this year and perhaps beyond. Some of these additional expenses may be considered unusual and excluded from our calculation of “Adjusted Operating Profit” as described later in “Results of Operations and Related Information.”
In response to the expected continued adverse impacts from the COVID-19 pandemic, we are taking the following actions to reduce operating expenses, minimize cash outflow and ensure the Company remains strong as the crisis passes:
Postponing planned 2020 merit compensation increases for all non-manufacturing, salaried employees;
Decreasing discretionary spending across the organization;
Streamlining processes, while leaving vacant non-critical positions open;
Postponing certain capital expenditures and R&D projects; and
Adjusting manufacturing production, while ensuring sufficient inventory levels to support the higher demand in Respiratory Health.
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Restructuring Activities
Our restructuring expenses for the three and six months ended June 30, 2020 and 2019 is summarized in the table below (in millions):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Post-Divestiture Restructuring Plan
Cost Transformation$0.6  $1.2  $1.1  $1.2  
Organizational Alignment & IT Transformation(0.6) 4.6  (0.6) 6.6  
Total Post-Divestiture Restructuring Plan—  5.8  0.5  7.8  
Integration and Restructuring of Business Acquisitions(0.8) —  (0.7) —  
Total Restructuring Costs$(0.8) $5.8  $(0.2) $7.8  
Post-Divestiture Restructuring Plan
In conjunction with the divestiture of our former S&IP business, we began a three-phase restructuring plan (the “Plan”) intended to align our organizational structure (“Organizational Alignment”), information technology platform (“IT Transformation”) and supply chain and distribution channels (“Cost Transformation”) to be more appropriate for the size and scale of our remaining Medical Devices business. Organizational Alignment and IT Transformation are substantially complete. However, in the three months ended June 30, 2020, employee severance and retention that was previously accrued for Organizational Alignment was reversed due to employee attrition. There was no other activity for Organizational Alignment or IT Transformation in the six months ended June 30, 2020.
Cost Transformation
The Cost Transformation phase was initiated in June 2019, and is intended to optimize the Company’s procurement, manufacturing, and supply chain operations (“Cost Transformation”). The Company expects to incur between $11.0 million and $13.0 million to execute the Cost Transformation, primarily consulting and other expenses that will be expensed as incurred. The Company also expects to spend between $8.0 million to $12.0 million of incremental capital through 2021 and expects to complete the Cost Transformation by the end of 2021. Expenses incurred for Cost Transformation are included in “Cost of products sold.” Plan-to-date, we have incurred $3.4 million of costs that were expensed as incurred and $0.7 million of costs that were capitalized.
Integration and Restructuring of Business Acquisitions
During the third quarter of 2019, we initiated activities to integrate recent asset and business acquisitions into our operations, and where appropriate, re-align our organization accordingly. We expect to incur up to $11.0 million of costs, primarily for employee retention, severance and benefits and lease termination costs. In the three months ended June 30, 2020, attrition and the resulting reductions in severance and benefits caused a net credit in the quarter. Plan-to-date, we have incurred $6.9 million of expense, included in “Selling and general expenses,” primarily for employee retention, severance, benefits and right-of-use asset impairment. We expect the integration of our acquisitions will be substantially complete by the end of 2020.
Results of Operations and Related Information
Use of Non-GAAP Measures
In this section, we present “Adjusted Gross Profit” and “Adjusted Operating Profit (Loss)” which are measures that are not calculated in accordance with accounting principles generally accepted in the United States (“GAAP”) and is therefore referred to as a non-GAAP measure. We provide these non-GAAP measures because we use them to measure our operational performance and provide greater insight into our ongoing business operations. These measures are not intended to be, and should not be, considered separately from, or an alternative to, the most directly comparable GAAP financial measures. A reconciliation of the non-GAAP measures to the most directly comparable GAAP measure are provided under “Adjusted Gross Profit” and “Adjusted Operating (Loss) Profit,” respectively.
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Net Sales
Our net sales are summarized in the following tables for the three and six months ended June 30, 2020 and 2019 (in millions):
Three Months Ended June 30,Six Months Ended June 30,
20202019Change20202019Change
Chronic care$120.2  $102.3  17.5 %$235.9  $202.3  16.6 %
Pain management43.5  69.9  (37.8) 108.2  134.1  (19.3) 
Net Sales$163.7  $172.2  (4.9)%$344.1  $336.4  2.3 %
Total
Volume(a)
Pricing/MixCurrency
Other(b)
Net Sales - percentage changeQTD(5)%(5)%— %— %— %
YTD%%(1)%— %— %
_______________________________________________
(a)Volume includes incremental sales of NeoMed and Summit products.
(b)Other includes rounding.
Product Category Descriptions
Chronic care is a portfolio of products that include (i) digestive health products such as our Mic-Key enteral feeding tubes, Corpak patient feeding solutions and NeoMed neonatal and pediatric feeding solutions and (ii) respiratory health products such as closed airway suction systems and other airway management devices under the Ballard, Microcuff and Endoclear brands.
Pain management is a portfolio of non-opioid pain solutions including (i) acute pain products, such as On-Q and ambIT® surgical pain pumps and Game Ready cold and compression therapy systems and (ii) interventional pain solutions, which provides minimally invasive pain relieving therapies, such as our Coolief pain therapy.
Second Quarter 2020 Compared to Second Quarter 2019
Net sales of $163.7 million decreased 5% compared to the prior year. The NeoMed and Summit acquisitions contributed 6% of volume growth. The remaining growth in chronic care was driven by a surge in demand for respiratory health due to the pandemic, but was more than offset by expected lower volume in pain management, due to delayed elective procedures.
First Six Months of 2020 Compared to the First Six Months of 2019
Net sales of $344.1 million increased 2% compared to the prior year. Year-to-date volume growth of 3%. The NeoMed and Summit acquisitions contributed 7% of volume growth and was partially offset by declines in pain management due to pandemic-delayed elective procedures. Chronic care growth, excluding NeoMed, is primarily due to the surge in demand for respiratory health caused by the pandemic.
Net Sales By Geographic Region
The factors causing volume growth were consistent throughout our geographic regions. Net sales by region is presented in the table below (in millions):
Three Months Ended June 30,Six Months Ended June 30,
20202019Change20202019Change
Net Sales
North America$118.9  $133.5  (10.9)%$257.5  $261.1  (1.4)%
Europe, Middle East and Africa27.9  22.9  21.8  54.0  45.3  19.2  
Asia Pacific and Latin America16.9  15.8  7.0  32.6  30.0  8.7  
Total Net Sales$163.7  $172.2  (4.9)%$344.1  $336.4  2.3 %

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Adjusted Gross Profit
Our gross profit and gross profit margin is summarized in the table below for the three and six months ended June 30, 2020 and 2019:
Gross Profit
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
As reported$86.5  $98.7  $188.6  $197.5  
Gross profit margin, as reported52.8 %57.3 %54.8 %58.7 %
COVID-19 related expenses2.1  —  2.5  —  
Post divestiture restructuring and IT charges0.6  1.2  1.1  1.8  
Post divestiture transition charges0.3  2.4  1.1  2.8  
Acquisition and integration-related charges0.1  —  0.2  —  
Intangibles amortization1.6  1.1  3.3  2.4  
As adjusted non-GAAP$91.2  $103.4  $196.8  $204.5  
Gross profit margin, as adjusted55.7 %60.0 %57.2 %60.8 %

Gross profit margin decreased to 55.7% and 57.2%, respectively, in the three and six months ended June 30, 2020 compared to the prior year primarily due to unfavorable product mix along with incremental expenses associated with our COVID-19 efforts.
Adjusted Operating (Loss) Profit
A reconciliation of adjusted operating profit, a non-GAAP measure, to operating loss is provided in the table below (in millions):
Three Months Ended June 30,Six Months Ended June 30,
2020201920202019
Operating (Loss) Profit, as reported$(1.8) $(9.8) $(1.2) $(34.4) 
COVID-19 related expenses3.2  —  3.7  —  
Restructuring and IT charges—  5.8  0.5  7.8  
Post Divestiture transition charges3.1  13.5  7.1  32.2  
Acquisition-related charges2.1  0.7  3.9  1.4  
Litigation and legal1.2  4.7  3.4  13.4  
Intangibles amortization4.9  4.6  9.7  9.5  
Adjusted Operating Profit (non-GAAP)$12.7  $19.5  $27.1  $29.9  
Items impacting operating results include:
COVID-19 Related Expenses: As a result of the ongoing COVID-19 pandemic, we have incurred incremental expenses for additional personal protective equipment for our manufacturing employees, sanitation at our facilities and other costs. In the three and six months ended June 30, 2020, we incurred $3.2 million and $3.7 million of COVID-19 related costs, respectively.
Post-Divestiture Restructuring Activities: As previously described under “Restructuring Activities,” in the three and six months ended June 30, 2020, we incurred $0.6 million and $1.1 million of costs related to Cost Transformation respectively, but released $0.6 million of costs related to Organization Alignment during the quarter. In the three months ended June 30, 2019, we incurred $5.8 million of costs including $1.2 million for Cost Transformation and $4.6 million for earlier phases of the Plan. In the six months ended June 30, 2019, we incurred $7.8 million of costs, including $1.2 million for Cost Transformation and $6.6 million for earlier phases of the Plan.
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Post Divestiture Transition Charges: Costs related to the separation of the S&IP business were $3.1 million and $7.1 million in the three and six months ended June 30, 2020. In the prior year, we incurred $13.5 million and $32.2 million of costs in the three and six months ended June 30, 2019.
Acquisition and Integration-related Charges: In the three and six months ended June 30, 2020, we incurred $2.1 million and $3.9 million of integration costs related to recent acquisitions, which includes net reversals of $0.8 million and $0.7 million associated with restructuring activities described previously under “Integration and Restructuring of Business Acquisitions.” In the prior year, we incurred $0.7 million and $1.4 million of acquisition-related costs in the three and six months ended June 30, 2019.
Legal Costs: We incurred $1.2 million and $3.4 million for certain litigation matters in the three and six months ended June 30, 2020 compared to $4.7 million and $13.4 million in the three and six months ended June 30, 2019. Litigation matters are described in “Commitments and Contingencies” in Note 8 to the condensed consolidated financial statements.
Intangibles Amortization: Intangibles amortization related to intangibles acquired in prior business acquisitions was $4.9 million and $9.7 million in the three and six months ended June 30, 2020 compared to $4.6 million and $9.5 million in the three and six months ended June 30, 2019.
Overall, adjusted operating profit declined in both the three and six months ended June 30, 2020 compared to the prior year due to lower net sales, particularly in the pain management business, largely as a result of the ongoing pandemic.
Interest Income and Expense
Interest expense consists of interest accrued and amortization debt discount and issuance costs on our long-term debt net of interest capitalized on long-term capital projects. See “Debt” in Note 5 to the condensed consolidated financial statements. Interest expense was $4.3 million and $8.6 million in the three and six months ended June 30, 2020, respectively, compared to $3.5 million and $7.2 million in the comparable periods last year.
Income Taxes
The Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”) was enacted on March 27, 2020. The CARES Act allows for the carryback of U.S. net operating losses to prior years resulting in a $2.3 million and $9.7 million benefit that was recognized in the three and six months ended June 30, 2020. As a result, the income tax benefit was $2.9 million and $9.6 million and the effective tax rate was 49.2% and 107.9% in the three and six months ended June 30, 2020. In the three and six months ended June 30, 2019, the tax benefit was $3.3 million and $8.9 million and the effective tax rate was 29.2% and 23.9%.
Liquidity and Capital Resources
General
Our primary sources of liquidity are cash on hand provided by operating activities and amounts available under our revolving credit facility. While we have recently experienced negative operating cash flow, our operating cash flow has historically been sufficient to meet our working capital requirements and fund capital expenditures. As a result of the COVID-19 pandemic, we may see a delay in collection of accounts receivable. However, we anticipate that our current cash position and our ability to generate cash flows from domestic and international operations will provide sufficient liquidity to manage the business and fund working capital during this uncertainty without using our available borrowing capacity. In addition, with our borrowing capacity, we expect to have the ability to fund capital expenditures and other investments necessary to grow our business for the foreseeable future for both our domestic and international operations.
As of June 30, 2020, $89.7 million of our $185.0 million of cash and cash equivalents was held by foreign subsidiaries. We consider the undistributed earnings of our foreign subsidiaries to be indefinitely reinvested overseas and currently do not have plans to repatriate such earnings. We do not expect restrictions on repatriation of cash held outside of the United States to have a material effect on our overall liquidity, financial condition or result of operations for the foreseeable future.
Cash and cash equivalents decreased by $20.3 million to $185.0 million as of June 30, 2020 compared to $205.3 million as of December 31, 2019. The decrease was driven by $4.7 million used in operations, $12.1 million of capital expenditures and $3.8 million of unfavorable currency exchange effects.
In the prior year, cash and cash equivalents decreased by $96.4 million to $288.1 million as of June 30, 2019 primarily due to $55.0 million used in operations and $35.4 million of capital expenditures.
Operating Activities
Operating activities used $4.7 million in the six months ended June 30, 2020 primarily driven by changes in operating assets and liabilities. Operating activities used $55.0 million in the same period last year.
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Investing Activities
Capital expenditures were $12.1 million in the six months ended June 30, 2020, compared to $35.4 million in same period last year.
Financing Activities
Proceeds from the exercise of stock options partially offset by purchases of treasury stock resulted in $0.3 million provided by financing activities in the six months ended June 30, 2020. In the comparable period last year, financing activities used $0.9 million primarily for purchases of treasury stock partially offset by proceeds from the exercise of stock options.
Long Term Debt
As of June 30, 2020, debt was $248.4 million, net of unamortized discount, on our 6.25% Senior Unsecured Notes (the “Notes”) that mature on October 15, 2022. We may redeem the Notes in whole or in part without paying a premium any time on or after October 15, 2020.
Our senior secured revolving credit facility (“Revolving Credit Facility”) is secured by substantially all of our assets located in the United States and a certain percentage of our foreign subsidiaries’ capital stock. The Revolving Credit Facility matures on October 30, 2023.
To the extent we remain in compliance with certain financial covenants in our credit agreement, funds under the Revolving Credit Facility are available for our working capital and other liquidity requirements. As of June 30, 2020, we had no borrowings and letters of credit of $0.7 million outstanding under the Revolving Credit Facility.
See “Debt” in Note 5 to the accompanying condensed consolidated financial statements for further details regarding our debt agreements.
Guarantor Financial Information
The Notes described under “Long Term Debt” were issued by Avanos Medical, Inc. and are guaranteed, jointly and severally, by each of our domestic subsidiaries (each, a “Guarantor Subsidiary” and collectively, the “Guarantor Subsidiaries”). The guarantees are full and unconditional, subject to certain customary release provisions as defined in the Indenture dated October 17, 2014. Each Guarantor Subsidiary is directly or indirectly 100%-owned by Avanos Medical, Inc. Each of the guarantees of the Notes is a general unsecured obligation of each Guarantor and ranks equally in right of payment with all existing and future indebtedness and all other obligations (except subordinated indebtedness) of each Guarantor.
The following tables present summarized income statement and balance sheet information for Avanos Medical, Inc. and the Guarantor Subsidiaries on a combined basis (in millions):
Summarized Income Statement Information:Three Months Ended June 30, 2020Six Months Ended June 30, 2020
Net Sales$153.4  $322.4  
Gross Profit75.4  167.6  
Net (Loss) Income(3.0) 0.7  


Summarized Balance Sheet Information:As of June 30, 2020
Current assets$436.4  
Non-current assets1,467.7  
Total Assets$1,904.1  
Current liabilities$337.7  
Non-current liabilities304.8  
Total Liabilities$642.5  


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Legal Matters
See Item 1, Note 8, “Commitments and Contingencies,” to the condensed consolidated financial statements for a discussion of current legal matters.
Critical Accounting Policies
See Item 1, Note 1, “Accounting Policies,” to the condensed consolidated financial statements for updates to our critical accounting policies and a discussion of recent accounting pronouncements.
Information Concerning Forward-Looking Statements
The preceding discussion and analysis summarizes the factors that had a material effect on our results of operations during the three and six months ended June 30, 2020 and 2019 and our financial position as of June 30, 2020 and December 31, 2019. You should read this discussion in conjunction with our historical condensed consolidated financial statements and the notes to those historical condensed consolidated financial statements included elsewhere in this Quarterly Report on Form 10-Q. This MD&A contains “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements include all statements that do not relate solely to historical or current facts, and can generally be identified by the use of words such as “may,” “believe,” “will,” “expect,” “project,” “estimate,” “anticipate,” “plan,” or “continue” and similar expressions, among others. The matters discussed in these forward-looking statements are based on the current plans and expectations of our management and are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected, anticipated or implied in the forward-looking statements. These factors include, but are not limited to:
general economic conditions particularly in the United States,
fluctuations in global equity and fixed-income markets,
risks related to the ongoing COVID-19 pandemic,
the competitive environment,
the loss of current customers or the inability to obtain new customers,
litigation and enforcement actions,
disruption in supply of raw materials or the distribution of finished goods,
price fluctuations in key commodities,
fluctuations in currency exchange rates,
changes in governmental regulations that are applicable to our business,
changes in asset valuations including write-downs of assets such as inventory, accounts receivable or other assets for impairment or other reasons, and
any other matters described elsewhere in this MD&A or in the Risk Factors section of this Form 10-Q or our Annual Report on Form 10-K for the year ended December 31, 2019.
You are cautioned not to unduly rely on such forward-looking statements, which speak only as of the date made, when evaluating the information in this Quarterly Report on Form 10-Q. Where, in any forward-looking statement, an expectation or belief as to future results or events is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the expectation or belief will result, or be achieved or accomplished.
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Item 4.Controls and Procedures
With the participation of management, our Chief Executive Officer (principal executive officer) and our Senior Vice President, and Chief Financial Officer (principal financial officer) carried out an evaluation, pursuant to Rule 13a-15(b) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) of the Exchange Act) as of the end of the period covered by this report. Based upon that evaluation, our Chief Executive Officer and our Senior Vice President and Chief Financial Officer concluded that our disclosure controls and procedures were operating effectively as of June 30, 2020.
Changes in Internal Control Over Financial Reporting
There have been no changes in our internal control over financial reporting that occurred during the three months ended June 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

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PART II – OTHER INFORMATION
Item 1A. Risk Factors
In addition to the risks described in our Annual Report on Form 10-K for the year ended December 31, 2019 under Part I, Item 1A “Risk Factors” and under “Information Concerning Forward-Looking Statements” in Part I, Item II of this Quarterly Report on Form 10-Q, we are also subject to the risks described below related to the ongoing COVID-19 pandemic. Any of these risks could adversely affect our business, consolidated financial position, results of operations and cash flows and could cause our future results to materially differ from those in any of our forward-looking statements. Other risks that are presently unknown or that we believe are not material may also adversely affect our business.
The ongoing COVID-19 pandemic could adversely impact our business operations, financial position, results of operations and cash flows.
The COVID-19 pandemic has caused significant volatility in the global financial markets, caused disruption in global supply and distribution channels, dramatically changed the way companies do business and may adversely impact our financial position, results of operations and cash flows.
At present, we cannot quantify the impact the COVID-19 pandemic will have on our future results of operations. The ongoing impact of the pandemic depends on a number of factors including the severity and duration of the pandemic and the extent and the severity of the impact on our customers, which is uncertain and not predictable. Our future results of operations and cash flows may suffer material adverse effects from delays in payments on outstanding accounts receivable, potential manufacturing, distribution and supply chain disruptions and uncertain demand, and effects of any actions we may take to address financial and operational challenges our customers may face. Other risks and uncertainties include, but are not limited to:
postponement or cancellation of elective medical procedures and their uncertain return which adversely impacts our business;
potential temporary or prolonged office, production facility or distribution center closures;
the health of our employees and ability to meet staffing needs;
potential new or continued governmental actions that may limit employees’ ability to work;
civil unrest relating to government, corporate and societal responses to the pandemic, volatility in economic conditions and the financial markets, and
other unanticipated effects that remain unknown.
If we experience any one of these risks or uncertainties, it may cause a material adverse impact to our financial position, results of operations and cash flows.
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Table of Contents
Item 6.  Exhibits

(a)Exhibits
Exhibit
Number
Description
101.SCHXBRL Taxonomy Extension Schema Document
101.CALXBRL Taxonomy Extension Calculation Linkbase Document
101.DEFXBRL Taxonomy Extension Definition Linkbase Document
101.LABXBRL Taxonomy Extension Label Linkbase Document
101.PREXBRL Taxonomy Extension Presentation Linkbase Document



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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.
 
AVANOS MEDICAL, INC.
(Registrant)
August 4, 2020By: /s/ Michael C. Greiner
 Michael C. Greiner
 Senior Vice President and Chief Financial Officer
 (Principal Financial Officer)
August 4, 2020By: /s/ Renato Negro
 Renato Negro
 Vice President and Controller
 (Principal Accounting Officer)

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