AVANOS MEDICAL, INC. - Quarter Report: 2021 September (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 September 30, 2021
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
AVANOS MEDICAL, INC.
(Exact name of registrant as specified in its charter)
| Delaware | 46-4987888 | |||||||||||||||||||
| (State or other jurisdiction of incorporation) | (I.R.S. Employer Identification No.) | |||||||||||||||||||
| 5405 Windward Parkway | ||||||||||||||||||||
| Suite 100 South | ||||||||||||||||||||
| Alpharetta, | Georgia | 30004 | ||||||||||||||||||
| (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 class | Trading Symbol | Name of exchange on which registered | ||||||
| Common Stock - $0.01 Par Value | AVNS | New 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 filer | ☒ | Accelerated filer | ☐ | |||||||||||
| Non-accelerated filer | ☐ | Emerging 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 October 26, 2021, there were 48,186,573 shares of the Corporation’s common stock outstanding.
Table of Contents
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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 September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Net Sales | $ | 184.1 | $ | 185.7 | $ | 551.2 | $ | 529.8 | |||||||||||||||
| Cost of products sold | 93.7 | 89.9 | 283.8 | 245.4 | |||||||||||||||||||
| Gross Profit | 90.4 | 95.8 | 267.4 | 284.4 | |||||||||||||||||||
| Research and development | 8.4 | 8.2 | 24.7 | 25.3 | |||||||||||||||||||
| Selling and general expenses | 75.0 | 82.4 | 225.1 | 250.4 | |||||||||||||||||||
| Other expense, net | 3.4 | 5.3 | 33.7 | 10.0 | |||||||||||||||||||
| Operating Income (Loss) | 3.6 | (0.1) | (16.1) | (1.3) | |||||||||||||||||||
| Interest income | 0.2 | 0.2 | 0.2 | 1.1 | |||||||||||||||||||
| Interest expense | (0.9) | (4.3) | (2.6) | (12.9) | |||||||||||||||||||
| Income (Loss) Before Income Taxes | 2.9 | (4.2) | (18.5) | (13.1) | |||||||||||||||||||
| Income tax (provision) benefit | (38.0) | 23.5 | 13.7 | 33.1 | |||||||||||||||||||
| Net (Loss) Income | $ | (35.1) | $ | 19.3 | $ | (4.8) | $ | 20.0 | |||||||||||||||
| (Loss) Earnings Per Share | |||||||||||||||||||||||
| Basic | $ | (0.73) | $ | 0.40 | $ | (0.10) | $ | 0.42 | |||||||||||||||
| Diluted | $ | (0.73) | $ | 0.40 | $ | (0.10) | $ | 0.42 | |||||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
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AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(in millions)
(Unaudited)
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Net (Loss) Income | $ | (35.1) | $ | 19.3 | $ | (4.8) | $ | 20.0 | |||||||||||||||
| Other Comprehensive (Loss) Income, net of tax | |||||||||||||||||||||||
| Unrealized currency translation adjustments | (3.7) | 4.9 | (5.6) | (5.2) | |||||||||||||||||||
| Defined benefit plans | 0.1 | — | 0.1 | 0.2 | |||||||||||||||||||
| Cash flow hedges | — | — | — | (0.1) | |||||||||||||||||||
| Total Other Comprehensive (Loss) Income, net of tax | (3.6) | 4.9 | (5.5) | (5.1) | |||||||||||||||||||
| Comprehensive (Loss) Income | $ | (38.7) | $ | 24.2 | $ | (10.3) | $ | 14.9 | |||||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
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AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(in millions, except share data)
(Unaudited)
| September 30, 2021 | December 31, 2020 | ||||||||||
| ASSETS | |||||||||||
| Current Assets | |||||||||||
| Cash and cash equivalents | $ | 97.8 | $ | 111.5 | |||||||
| Accounts receivable, net of allowances | 117.5 | 108.6 | |||||||||
| Income tax receivable | 11.6 | 59.3 | |||||||||
| Inventories | 158.4 | 168.9 | |||||||||
| Prepaid expenses and other current assets | 19.7 | 18.9 | |||||||||
| Total Current Assets | 405.0 | 467.2 | |||||||||
| Property, Plant and Equipment, net | 169.7 | 175.3 | |||||||||
| Operating Lease Right-of-Use Assets | 41.4 | 48.3 | |||||||||
| Goodwill | 801.8 | 802.5 | |||||||||
| Other Intangible Assets, net | 145.3 | 157.7 | |||||||||
| Deferred Tax Assets | 23.6 | 10.0 | |||||||||
| Other Assets | 11.1 | 11.8 | |||||||||
| TOTAL ASSETS | $ | 1,597.9 | $ | 1,672.8 | |||||||
| LIABILITIES AND STOCKHOLDERS’ EQUITY | |||||||||||
| Current Liabilities | |||||||||||
| Current portion of operating lease liabilities | $ | 14.7 | $ | 15.5 | |||||||
| Trade accounts payable | 54.9 | 67.6 | |||||||||
| Accrued expenses | 59.6 | 83.2 | |||||||||
| Total Current Liabilities | 129.2 | 166.3 | |||||||||
| Long-Term Debt | 145.0 | 180.0 | |||||||||
| Operating Lease Liabilities | 46.1 | 53.3 | |||||||||
| Deferred Tax Liabilities | 5.6 | 5.7 | |||||||||
| Other Long-Term Liabilities | 10.1 | 11.0 | |||||||||
| Total Liabilities | 336.0 | 416.3 | |||||||||
| 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, 48,128,749 outstanding as of September 30, 2021 and 47,917,583 outstanding as of December 31, 2020 | 0.5 | 0.5 | |||||||||
| Additional paid-in capital | 1,625.7 | 1,609.4 | |||||||||
| Accumulated deficit | (320.3) | (315.5) | |||||||||
| Treasury stock | (10.4) | (9.8) | |||||||||
| Accumulated other comprehensive loss | (33.6) | (28.1) | |||||||||
| Total Stockholders’ Equity | 1,261.9 | 1,256.5 | |||||||||
| TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY | $ | 1,597.9 | $ | 1,672.8 | |||||||
See Notes to the Condensed Consolidated Financial Statements.
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AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
(in millions)
(Unaudited)
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Common Stock | $ | 0.5 | $ | 0.5 | $ | 0.5 | $ | 0.5 | |||||||||||||||
| Additional Paid-in Capital, beginning of period | 1,621.3 | 1,599.9 | 1,609.4 | 1,593.9 | |||||||||||||||||||
| Exercise or redemption of share-based awards | 0.9 | 0.8 | 6.1 | 1.3 | |||||||||||||||||||
| Stock-based compensation expense | 3.5 | 3.4 | 10.2 | 8.9 | |||||||||||||||||||
| Additional Paid-in Capital, end of period | 1,625.7 | 1,604.1 | 1,625.7 | 1,604.1 | |||||||||||||||||||
| Accumulated Deficit, beginning of period | (285.2) | (287.6) | (315.5) | (288.3) | |||||||||||||||||||
| Net (loss) income | (35.1) | 19.3 | (4.8) | 20.0 | |||||||||||||||||||
| Accumulated Deficit, end of period | (320.3) | (268.3) | (320.3) | (268.3) | |||||||||||||||||||
| Treasury Stock, beginning of period | (10.3) | (9.2) | (9.8) | (8.9) | |||||||||||||||||||
| Purchases of treasury stock | (0.1) | (0.1) | (0.6) | (0.4) | |||||||||||||||||||
| Treasury Stock, end of period | (10.4) | (9.3) | (10.4) | (9.3) | |||||||||||||||||||
Accumulated Other Comprehensive Loss, beginning of period | (30.0) | (42.0) | (28.1) | (32.0) | |||||||||||||||||||
| Other comprehensive (loss) income, net of tax | (3.6) | 4.9 | (5.5) | (5.1) | |||||||||||||||||||
| Accumulated Other Comprehensive Loss, end of period | (33.6) | (37.1) | (33.6) | (37.1) | |||||||||||||||||||
| Total Stockholders’ Equity, end of period | $ | 1,261.9 | $ | 1,289.9 | $ | 1,261.9 | $ | 1,289.9 | |||||||||||||||
See Notes to the Condensed Consolidated Financial Statements.
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AVANOS MEDICAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED CASH FLOW STATEMENTS
(in millions)
(Unaudited)
| Nine Months Ended September 30, | |||||||||||
| 2021 | 2020 | ||||||||||
| Operating Activities | |||||||||||
| Net (loss) income | $ | (4.8) | $ | 20.0 | |||||||
| Depreciation and amortization | 28.8 | 32.1 | |||||||||
| Stock-based compensation expense | 10.2 | 8.9 | |||||||||
| Net loss on asset dispositions and impairments | 4.9 | 1.3 | |||||||||
| Changes in operating assets and liabilities: | |||||||||||
| Accounts receivable | (10.5) | 34.3 | |||||||||
| Income tax receivable | 47.7 | (53.1) | |||||||||
| Inventories | 9.4 | (38.5) | |||||||||
| Prepaid expenses and other assets | 1.1 | 0.4 | |||||||||
| Accounts payable | (11.9) | (8.1) | |||||||||
| Accrued expenses | (24.4) | 30.4 | |||||||||
| Deferred income taxes and other | (15.3) | (31.3) | |||||||||
| Cash Provided by (Used in) Operating Activities | 35.2 | (3.6) | |||||||||
| Investing Activities | |||||||||||
| Capital expenditures | (16.3) | (15.1) | |||||||||
| Acquisition of assets and investments in businesses | — | (4.0) | |||||||||
| Cash Used in Investing Activities | (16.3) | (19.1) | |||||||||
| Financing Activities | |||||||||||
| Revolving credit facility proceeds | 20.0 | — | |||||||||
| Revolving credit facility repayments | (55.0) | — | |||||||||
| Purchases of treasury stock | (0.6) | (0.4) | |||||||||
| Proceeds from the exercise of stock options | 6.1 | 1.4 | |||||||||
| Payment of contingent consideration liabilities | — | (2.7) | |||||||||
| Cash Used in Financing Activities | (29.5) | (1.7) | |||||||||
| Effect of Exchange Rate Changes on Cash and Cash Equivalents | (3.1) | (0.9) | |||||||||
| Decrease in Cash and Cash Equivalents | (13.7) | (25.3) | |||||||||
| Cash and Cash Equivalents - Beginning of Period | 111.5 | 205.3 | |||||||||
| Cash and Cash Equivalents - End of Period | $ | 97.8 | $ | 180.0 | |||||||
See Notes to the Condensed Consolidated Financial Statements.
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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, 2020. 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.
Annual Goodwill Impairment Test
We test for goodwill for impairment annually or more frequently whenever events or circumstances more likely than not indicate that the fair value of the reporting unit may be below its carrying value. We operate as a single reportable operating segment with one reporting unit. The fair value of our reporting unit was estimated using a combination of income (discounted cash flow analysis) and market approaches. The income approach is dependent upon several assumptions regarding future periods such as sales growth and a terminal growth rate. A weighted average cost of capital (“WACC”) was used to discount future estimated cash flows to their present values. The WACC was based on externally observable data considering market participants’ cost of equity and debt, optimal capital structure and risk factors specific to us. The market approach estimates the value of our company using a market capitalization methodology.
We completed our annual goodwill impairment test as of July 1, 2021, and determined that the fair value of our reporting unit exceeds the net carrying amount.
Recently Adopted Accounting Pronouncements
Effective January 1, 2021, we adopted Accounting Standards Update (“ASU”) No. 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes. This ASU removed 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. Adoption of this ASU did not have a material effect on our financial position, results of operations or cash flows.
Recently Issued Accounting Pronouncements
In May 2021, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2021-04, Issuers Accounting for Certain Modifications or Exchanges of Freestanding Equity-Classified Written Call Options. This ASU requires accounting for modifications or exchanges of freestanding equity-classified written call options that remain equity-classified after the modification or exchange based on the economic substance of the modification or exchange. The accounting is determined based on whether the transaction was done to issue equity, issue or modify debt or for other reasons. This ASU is to be applied
8
prospectively for years beginning after December 15, 2021. Adoption of this ASU is not expected to have a material effect on our financial position, results of operations or cash flows.
In March 2020, the Financial Accounting Standards Board (“FASB”) issued ASU No. 2020-04, Reference Rate Reform. This ASU was prompted by the planned cessation of the London Interbank Offer Rate (“LIBOR”), which is the reference rate for many debt agreements, including the credit agreement that governs our revolving credit facility that is described in Note 5, “Debt.” This ASU applies to contract modifications that replace a reference rate and contemporaneous modifications of other contract terms related to the replacement of the reference rate. Under this ASU, modifications to debt agreements may be accounted for by prospectively adjusting the effective interest rate. This ASU is effective as of March 12, 2020 through December 31, 2022 and may be applied as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. Adoption of this ASU is not expected 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 months and nine months ended September 30, 2021 and 2020 is summarized in the table below (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Post divestiture restructuring plan | $ | 2.9 | $ | 0.9 | $ | 5.5 | $ | 1.4 | |||||||||||||||
| Integration and restructuring of business acquisitions | — | 0.5 | — | (0.2) | |||||||||||||||||||
| 2020 Restructuring | 1.7 | — | 10.4 | — | |||||||||||||||||||
| Total Restructuring Costs | $ | 4.6 | $ | 1.4 | $ | 15.9 | $ | 1.2 | |||||||||||||||
Post-Divestiture Restructuring Plan
In the fourth quarter of 2018, we began a three-phase restructuring plan (the “Plan”) intended to align our organizational structure, information technology platform and supply chain and distribution channels (“Cost Transformation”) to be more appropriate for the size and scale of our business. Only the final phase of the plan, Cost Transformation, remains in progress, and is expected to be completed by the end of 2021. Expenses incurred for Cost Transformation are included in “Cost of products sold.” Plan-to-date we have incurred $10.6 million of costs that were expensed as incurred and $4.7 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. Costs incurred were primarily for employee retention, severance and benefits and lease termination costs. Cumulative plan expenses were $9.6 million, included in “Selling and general expenses,” primarily for employee retention, severance, benefits and “Other expense, net” for right-of-use asset impairment. The integration of our acquisitions was substantially complete by the end of 2020.
2020 Restructuring
In the fourth quarter of 2020, we initiated activities to reduce the size of our senior leadership team, consolidate certain operations within our pain management franchise, exit unprofitable lines of business and research and development initiatives and reduce the size of our office space to align with expected requirements following the COVID-19 pandemic. Costs incurred will primarily be for operating lease right-of-use impairments or lease terminations, impairment of intangible and other assets and employee severance and benefits. Plan-to-date, we have incurred $38.0 million of expenses, which are included in “Cost of
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products sold,” “Selling and general expenses” and “Other expense, net.” We expect to substantially complete this restructuring by the end of 2021.
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, 2020 | $ | 7.2 | |||
| Total restructuring costs, excluding non-cash charges | 9.2 | ||||
| Payments and other | (15.9) | ||||
| Balance, September 30, 2021 | $ | 0.5 | |||
Note 3. Supplemental Balance Sheet Information
Accounts Receivable
Accounts receivable consist of the following (in millions):
| September 30, 2021 | December 31, 2020 | ||||||||||
| Accounts receivable | $ | 121.3 | $ | 113.2 | |||||||
| Income tax receivable | 11.6 | 59.3 | |||||||||
| Allowances and doubtful accounts: | |||||||||||
| Doubtful accounts | (3.5) | (4.4) | |||||||||
| Sales discounts | (0.3) | (0.2) | |||||||||
| Accounts receivable, net of allowances | $ | 129.1 | $ | 167.9 | |||||||
Losses on receivables are estimated based on known troubled accounts and historical experience. Receivables are considered impaired and written off when it is probable that payments due will not be collected. Our provision for doubtful accounts was a net benefit of $0.1 million and $0.5 million in the three and nine months ended September 30, 2021 compared to a net expense of $0.3 million and $1.2 million in the three and nine months ended September 30, 2020.
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):
| September 30, 2021 | December 31, 2020 | ||||||||||||||||||||||||||||||||||
| LIFO | Non- LIFO | Total | LIFO | Non- LIFO | Total | ||||||||||||||||||||||||||||||
| Raw materials | $ | 44.4 | $ | 2.0 | $ | 46.4 | $ | 43.9 | $ | 3.1 | $ | 47.0 | |||||||||||||||||||||||
| Work in process | 34.8 | — | 34.8 | 32.2 | 0.1 | 32.3 | |||||||||||||||||||||||||||||
| Finished goods | 60.7 | 17.2 | 77.9 | 73.5 | 16.9 | 90.4 | |||||||||||||||||||||||||||||
| Supplies and other | — | 6.3 | 6.3 | — | 6.7 | 6.7 | |||||||||||||||||||||||||||||
| 139.9 | 25.5 | 165.4 | 149.6 | 26.8 | 176.4 | ||||||||||||||||||||||||||||||
| Excess of FIFO or weighted-average cost over LIFO cost | (7.0) | — | (7.0) | (7.5) | — | (7.5) | |||||||||||||||||||||||||||||
Total | $ | 132.9 | $ | 25.5 | $ | 158.4 | $ | 142.1 | $ | 26.8 | $ | 168.9 | |||||||||||||||||||||||
As of September 30, 2021, our inventory allowance was $5.5 million, which includes $1.7 million for inventory associated with restructuring activities, $2.6 million for Halyard-branded inventory and $1.2 million for inventory obsolescence.
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Property, Plant and Equipment
Property, plant and equipment consists of the following (in millions):
| September 30, 2021 | December 31, 2020 | ||||||||||
| Land | $ | 1.1 | $ | 1.1 | |||||||
| Buildings | 47.3 | 46.8 | |||||||||
| Machinery and equipment | 216.4 | 218.2 | |||||||||
| Construction in progress | 29.3 | 23.3 | |||||||||
| 294.1 | 289.4 | ||||||||||
| Less accumulated depreciation | (124.4) | (114.1) | |||||||||
| Total | $ | 169.7 | $ | 175.3 | |||||||
In the second quarter of 2021, we wrote off approximately $5.0 million of machinery and equipment associated with research and development activities that were curtailed in connection with restructuring activities described under “2020 Restructuring” in Note 2. Depreciation expense was $5.4 million and $16.3 million for the three and nine months ended September 30, 2021 compared to $5.8 million and $17.5 million for the three and nine months ended September 30, 2020.
Goodwill and Intangible Assets
The changes in the carrying amount of goodwill are as follows (in millions):
| Goodwill | |||||
| Balance, December 31, 2020 | $ | 802.5 | |||
| Currency translation adjustment | (0.7) | ||||
| Balance, September 30, 2021 | $ | 801.8 | |||
Intangible assets subject to amortization consist of the following (in millions):
| September 30, 2021 | December 31, 2020 | ||||||||||||||||||||||||||||||||||
| Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | ||||||||||||||||||||||||||||||
| Trademarks | $ | 90.9 | $ | (63.3) | $ | 27.6 | $ | 90.9 | $ | (61.2) | $ | 29.7 | |||||||||||||||||||||||
| Patents and acquired technologies | 271.7 | (175.0) | 96.7 | 282.0 | (177.2) | 104.8 | |||||||||||||||||||||||||||||
| Other | 61.2 | (40.2) | 21.0 | 61.4 | (38.2) | 23.2 | |||||||||||||||||||||||||||||
| Total | $ | 423.8 | $ | (278.5) | $ | 145.3 | $ | 434.3 | $ | (276.6) | $ | 157.7 | |||||||||||||||||||||||
Amortization expense for intangible assets was $4.2 million and $12.5 million for the three and nine months ended September 30, 2021 compared to $4.9 million and $14.6 million for the three and nine months ended September 30, 2020.
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Amortization expense for the remainder of 2021 and the following four years and beyond is estimated as follows (in millions):
| Amount | ||||||||
| Remainder of 2021 | $ | 4.1 | ||||||
| 2022 | 16.1 | |||||||
| 2023 | 15.2 | |||||||
| 2024 | 15.1 | |||||||
| 2025 | 14.6 | |||||||
| Thereafter | 80.2 | |||||||
| Total | $ | 145.3 | ||||||
Accrued Expenses
Accrued expenses consist of the following (in millions):
| September 30, 2021 | December 31, 2020 | ||||||||||
| Accrued rebates and customer incentives | $ | 19.8 | $ | 22.5 | |||||||
| Accrued salaries and wages | 25.6 | 36.0 | |||||||||
| Accrued taxes | 1.8 | 2.7 | |||||||||
| Other | 12.4 | 22.0 | |||||||||
| Total | $ | 59.6 | $ | 83.2 | |||||||
Other Long-Term Liabilities
Other long-term liabilities consist of the following (in millions):
| September 30, 2021 | December 31, 2020 | ||||||||||
| Taxes payable | $ | 0.4 | $ | 0.4 | |||||||
| Accrued compensation and benefits | 5.0 | 5.8 | |||||||||
| Other | 4.7 | 4.8 | |||||||||
| Total | $ | 10.1 | $ | 11.0 | |||||||
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):
| September 30, 2021 | December 31, 2020 | ||||||||||||||||||||||||||||
| Fair Value Hierarchy Level | Carrying Amount | Estimated Fair Value | Carrying Amount | Estimated Fair Value | |||||||||||||||||||||||||
| Assets | |||||||||||||||||||||||||||||
| Cash and cash equivalents | 1 | $ | 97.8 | $ | 97.8 | $ | 111.5 | $ | 111.5 | ||||||||||||||||||||
Liabilities | |||||||||||||||||||||||||||||
| Revolving credit facility | 2 | 145.0 | 145.0 | 180.0 | 180.0 | ||||||||||||||||||||||||
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Cash equivalents are recorded at cost, which approximates fair value due to their short-term nature. The fair value of amounts borrowed under our Revolving Credit Facility approximates carrying value because borrowings are subject to a variable rate as described in “Debt” in Note 5.
Note 5. Debt
As of September 30, 2021 and December 31, 2020, our debt balances were as follows (in millions):
| Weighted-Average Interest Rate | Maturity | September 30, 2021 | December 31, 2020 | ||||||||||||||||||||
| Revolving credit facility | 1.61 | % | 2023 | $ | 145.0 | $ | 180.0 | ||||||||||||||||
Our senior secured revolving credit facility (“Revolving Credit Facility”) matures on October 30, 2023 and allows for borrowings up to $250.0 million, with a letter of credit sub-facility in an amount of $75.0 million and a swingline sub-facility in an amount of $25.0 million.
Borrowings 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 September 30, 2021, we had $145.0 million of borrowings and letters of credit of $1.2 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, 2020 | $ | (27.7) | $ | — | $ | (0.4) | $ | (28.1) | |||||||||||||||
| Other comprehensive loss | (5.6) | — | 0.1 | (5.5) | |||||||||||||||||||
| Balance, September 30, 2021 | $ | (33.3) | $ | — | $ | (0.3) | $ | (33.6) | |||||||||||||||
The changes in the components of AOCI, including the tax effect, are as follows (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Unrealized translation | $ | (3.7) | $ | 4.9 | $ | (5.6) | $ | (5.2) | |||||||||||||||
Defined benefit pension plans | 0.1 | — | 0.1 | 0.2 | |||||||||||||||||||
Tax effect | — | — | — | — | |||||||||||||||||||
Defined benefit pension plans, net of tax | 0.1 | — | 0.1 | 0.2 | |||||||||||||||||||
| Cash flow hedges | — | — | — | (0.1) | |||||||||||||||||||
| Tax effect | — | — | — | — | |||||||||||||||||||
| Cash flow hedges, net of tax | — | — | — | (0.1) | |||||||||||||||||||
Change in AOCI | $ | (3.6) | $ | 4.9 | $ | (5.5) | $ | (5.1) | |||||||||||||||
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Note 7. Stock-Based Compensation
Stock-based compensation expense for the three and nine months ended September 30, 2021 and 2020 is shown in the table below (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Stock options | $ | 0.4 | $ | 0.7 | $ | 1.5 | $ | 2.0 | |||||||||||||||
| Time-based restricted share units | 2.5 | 1.8 | 6.8 | 4.2 | |||||||||||||||||||
| Performance-based restricted share units | 0.5 | 0.8 | 1.7 | 2.5 | |||||||||||||||||||
| Employee stock purchase plan | 0.1 | 0.1 | 0.2 | 0.2 | |||||||||||||||||||
| Total stock-based compensation | $ | 3.5 | $ | 3.4 | $ | 10.2 | $ | 8.9 | |||||||||||||||
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. Under the terms of the distribution agreement we entered 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. For the three and nine months ended September 30, 2021, we incurred $3.3 million and $28.5 million, respectively, for these matters which is included in “Other expense, net.” compared to $2.4 million and $5.8 million in the three and nine months ended September 30, 2020.
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 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.
On July 6, 2021, we entered into a Deferred Prosecution Agreement (“DPA”) with the DOJ that resolved their criminal investigation related to our MicroCool surgical gowns. Pursuant to the DPA, in July 2021 the Company made a total monetary payment of $22.2 million.
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.
On November 4, 2019, we filed the matter styled Avanos Medical Sales LLC v Medtronic Sofamor Danek USA, Inc., et al. (No. 2:19-cv-02754-JPM-TMP (W.D. Tenn.)), alleging that Medtronic’s manufacture, marketing, sale, and importation of the Accurian cooled radiofrequency ablation system infringes certain claims of U.S. Patent 8,822,755. On June 1, 2020, Medtronic petitioned the U.S. Patent and Trademark Office (“USPTO”) for an inter partes review (“IPR”) of the patent at issue in the litigation. On October 23, 2020, the USPTO instituted an IPR. On August 27, 2021, the USPTO issued a Final Written Decision upholding the patentability of our patent.
On October 15, 2021, the parties resolved the dispute between them by signing a settlement and license agreement (“Agreement”). Under the Agreement, among other things, Medtronic is required to pay Avanos an undisclosed amount and the parties agreed to dismiss the pending actions between them related to U.S. Patent 8,822,755.
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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.
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 nine months ended September 30, 2021 and 2020 is set forth in the following table (in millions, except per share amounts):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Net (loss) income | $ | (35.1) | $ | 19.3 | $ | (4.8) | $ | 20.0 | |||||||||||||||
| Weighted Average Shares Outstanding: | |||||||||||||||||||||||
| Basic weighted average shares outstanding | 48.1 | 47.8 | 48.1 | 47.8 | |||||||||||||||||||
| Dilutive effect of stock options and restricted share unit awards | — | 0.3 | — | 0.2 | |||||||||||||||||||
| Diluted weighted average shares outstanding | 48.1 | 48.1 | 48.1 | 48.0 | |||||||||||||||||||
| (Loss) Earnings Per Share: | |||||||||||||||||||||||
| Basic | $ | (0.73) | $ | 0.40 | $ | (0.10) | $ | 0.42 | |||||||||||||||
| Diluted | $ | (0.73) | $ | 0.40 | $ | (0.10) | $ | 0.42 | |||||||||||||||
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 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 nine months ended September 30, 2021, 2.0 million and 1.3 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 and Tunisia.
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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 September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Chronic care | $ | 117.1 | $ | 119.3 | $ | 354.2 | $ | 355.2 | |||||||||||||||
| Pain management | 67.0 | 66.4 | 197.0 | 174.6 | |||||||||||||||||||
| Total Net Sales | $ | 184.1 | $ | 185.7 | $ | 551.2 | $ | 529.8 | |||||||||||||||
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 provide 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, 2020.
The following will be discussed and analyzed:
•Restructuring Activities
•Results of Operations and Related Information
•Liquidity and Capital Resources
•Legal Matters
•Critical Accounting Policies
•Information Concerning Forward-Looking Statements
Restructuring Activities
Our restructuring expenses for the three and nine months ended September 30, 2021 and 2020 is summarized in the table below (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Post divestiture restructuring plan | $ | 2.9 | 0.9 | $ | 5.5 | $ | 1.4 | ||||||||||||||||
| Integration and restructuring of business acquisitions | — | 0.5 | — | (0.2) | |||||||||||||||||||
| 2020 Restructuring | 1.7 | — | 10.4 | — | |||||||||||||||||||
| Total Restructuring Costs | $ | 4.6 | $ | 1.4 | $ | 15.9 | $ | 1.2 | |||||||||||||||
Post-Divestiture Restructuring Plan
In the fourth quarter of 2018, we began a three-phase restructuring plan (the “Plan”) intended to align our organizational structure, information technology platform and supply chain and distribution channels (“Cost Transformation”) to be more appropriate for the size and scale of our business. Only the final phase, Cost Transformation, remains in progress and is expected to be completed by the end of 2021. Expenses incurred for Cost Transformation are included in “Cost of products sold.” Plan-to-date, we have incurred $10.6 million of costs that were expensed as incurred and $4.7 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. Costs incurred were primarily for employee retention, severance and benefits and lease termination costs. Cumulative plan expenses were $9.6 million, included in “Selling and general expenses,” primarily for employee retention, severance, benefits and “Other expense” for lease termination costs right-of-use asset impairment. The integration of our acquisitions was substantially complete by the end of 2020.
2020 Restructuring
In the fourth quarter of 2020, we initiated activities to reduce the size of our senior leadership team, consolidate certain operations within our pain management franchise, exit unprofitable lines of business and research and development initiatives and reduce the size of our office space to align with expected requirements following the COVID-19 pandemic. Costs incurred will primarily be for operating lease right-of-use impairments or lease terminations, impairment of intangible and other assets and employee severance and benefits. Plan-to-date, we have incurred $38.0 million of expenses, which are included in “Cost of products sold,” “Selling and general expenses” and “Other expense, net.” We expect to substantially complete this restructuring by the end of 2021.
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Results of Operations and Related Information
Use of Non-GAAP Measures
In this section, we present “Adjusted Gross Profit” and “Adjusted Operating Profit” 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. Our non-GAAP measures exclude certain items, as applicable, for the relevant time periods as indicated in the “Adjusted Gross Profit” and “Adjusted Operating Profit” tables above. The excluded items include:
•Incremental expenses associated with altering operations in response to the COVID-19 pandemic.
•Expenses associated with restructuring activities.
•Expenses associated with post-divestiture transition activities.
•Certain acquisition and integration charges related to acquisitions.
•Expenses associated with European Union Medical Device Regulation (EU MDR) compliance.
•Expenses associated with certain litigation matters.
•The amortization of intangible assets associated with prior business acquisitions.
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 measures are provided under “Adjusted Gross Profit” and “Adjusted Operating Profit,” respectively.
Net Sales
Our net sales are summarized in the following tables for the three and nine months ended September 30, 2021 and 2020 (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| 2021 | 2020 | Change | 2021 | 2020 | Change | ||||||||||||||||||||||||||||||
| Chronic care | $ | 117.1 | $ | 119.3 | (1.8) | % | $ | 354.2 | $ | 355.2 | (0.3) | % | |||||||||||||||||||||||
| Pain management | 67.0 | 66.4 | 0.9 | 197.0 | 174.6 | 12.8 | |||||||||||||||||||||||||||||
| Net Sales | $ | 184.1 | $ | 185.7 | (0.9) | % | $ | 551.2 | $ | 529.8 | 4.0 | % | |||||||||||||||||||||||
| Total | Volume | Pricing/Mix | Currency | Other(a) | |||||||||||||||||||||||||||||||
| Net Sales - percentage change | QTD | (1) | % | — | % | (1) | % | — | % | — | % | ||||||||||||||||||||||||
| YTD | 4 | % | 4 | % | (1) | % | 1 | % | — | % | |||||||||||||||||||||||||
__________________________________________________
(a) 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 provide minimally invasive pain relieving therapies, such as our Coolief pain therapy.
Third Quarter 2021 Compared to Third Quarter 2020
Net sales of $184.1 million decreased 1% compared to the prior year due to slightly unfavorable pricing. Volume was even with improvements in interventional pain due to favorable comparison to last year’s sales, which were negatively impacted by the COVID-19 pandemic. In addition, volume benefited from continued robust demand in digestive health, which was partially offset by lower volume in respiratory health due to the pandemic-fueled demand experienced last year.
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First Nine Months of 2021 Compared to the First Nine Months of 2020
Net sales of $551.2 million increased 4% compared to the prior year. Volume was driven by our pain management franchise due to the recovery of elective surgical procedures and favorable comparison to last year’s net sales which were negatively impacted by the COVID-19 pandemic. In addition, volume benefited from continued robust demand in digestive health, which was partially offset by lower volume in respiratory health due to pandemic-fueled demand experienced last year. Volume growth was partially offset by unfavorable price and mix of 1%, while foreign currency exchange rates provided a 1% benefit.
Net Sales By Geographic Region
Net sales by region is presented in the table below (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||||||||||||||
| 2021 | 2020 | Change | 2021 | 2020 | Change | ||||||||||||||||||||||||||||||
| Net Sales | |||||||||||||||||||||||||||||||||||
| North America | $ | 140.3 | $ | 138.6 | 1.2 | % | $ | 412.3 | $ | 396.1 | 4.1 | % | |||||||||||||||||||||||
| Europe, Middle East and Africa | 23.4 | 27.8 | (15.8) | 79.7 | 81.8 | (2.6) | |||||||||||||||||||||||||||||
| Asia Pacific and Latin America | 20.4 | 19.3 | 5.7 | 59.2 | 51.9 | 14.1 | |||||||||||||||||||||||||||||
| Total Net Sales | $ | 184.1 | $ | 185.7 | (0.9) | % | $ | 551.2 | $ | 529.8 | 4.0 | % | |||||||||||||||||||||||
Adjusted Gross Profit
Our gross profit and gross profit margin is summarized in the table below for the three and nine months ended September 30, 2021 and 2020 (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Gross Profit, as reported | $ | 90.4 | $ | 95.8 | $ | 267.4 | $ | 284.4 | |||||||||||||||
| COVID-19 related expenses | — | 1.8 | — | 4.3 | |||||||||||||||||||
| 2020 Restructuring charges | 1.1 | — | 4.1 | — | |||||||||||||||||||
| Post divestiture restructuring charges | 2.9 | 0.9 | 5.5 | 2.0 | |||||||||||||||||||
| Post divestiture transition charges | — | 0.6 | 3.8 | 1.7 | |||||||||||||||||||
| Acquisition and integration-related charges | 0.1 | 0.6 | 0.1 | 0.8 | |||||||||||||||||||
| Intangibles amortization | 1.7 | 1.7 | 5.0 | 5.0 | |||||||||||||||||||
| Adjusted Gross Profit (non-GAAP) | $ | 96.2 | $ | 101.4 | $ | 285.9 | $ | 298.2 | |||||||||||||||
| Gross profit margin, as reported | 49.1 | % | 51.6 | % | 48.5 | % | 53.7 | % | |||||||||||||||
| Gross profit margin, as adjusted | 52.3 | % | 54.6 | % | 51.9 | % | 56.3 | % | |||||||||||||||
In the three and nine months ended September 30, 2021, on a GAAP basis, the decrease in gross profit as compared to the prior year was driven by higher freight costs associated with shipping products from China to the United States and delays in returning our manufacturing operations to pre-COVID efficiency levels.
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Adjusted Operating Profit
A reconciliation of adjusted operating income, a non-GAAP measure, to operating income is provided in the table below (in millions):
| Three Months Ended September 30, | Nine Months Ended September 30, | ||||||||||||||||||||||
| 2021 | 2020 | 2021 | 2020 | ||||||||||||||||||||
| Operating (Loss) Profit, as reported | $ | 3.6 | $ | (0.1) | $ | (16.1) | $ | (1.3) | |||||||||||||||
| COVID-19 related expenses | — | 3.2 | 0.2 | 6.9 | |||||||||||||||||||
| 2020 Restructuring charges | 1.7 | — | 10.4 | — | |||||||||||||||||||
| Post divestiture restructuring charges | 2.9 | 0.9 | 5.5 | 1.4 | |||||||||||||||||||
| Post divestiture transition charges | — | 1.1 | 3.6 | 8.2 | |||||||||||||||||||
| Acquisition and integration-related charges | 0.1 | 5.7 | 0.7 | 9.6 | |||||||||||||||||||
| EU MDR Compliance | 1.2 | — | 2.4 | — | |||||||||||||||||||
| Litigation and legal | 3.3 | 2.4 | 28.5 | 5.8 | |||||||||||||||||||
| Intangibles amortization | 4.2 | 4.9 | 12.5 | 14.6 | |||||||||||||||||||
| Adjusted Operating Profit (non-GAAP) | $ | 17.0 | $ | 18.1 | $ | 47.7 | $ | 45.2 | |||||||||||||||
In the three months ended September 30, 2021, on a GAAP basis, our operating profit was driven primarily by lower general and administrative expenses with savings realized from the restructuring activities undertaken in 2020 and continued discipline over spending throughout 2021. In the nine months ended September 30, 2021, GAAP operating profit was impacted by the non-cash restructuring costs and costs associated with the resolution of the U.S. Department of Justice criminal investigation, as described in “Commitments and Contingencies” in Note 8 to the condensed consolidated financial statements.
Other items impacting operating results include:
COVID-19 Related Expenses: Incremental spending due to the COVID-19 pandemic was $0.2 million in the nine months ended September 30, 2021, compared to $3.2 million and $6.9 million in the three and nine months ended September 30, 2020 for additional personal protective equipment for our manufacturing employees, sanitation at our facilities and other costs.
2020 Restructuring Charges: As previously described under “Restructuring Activities,” we incurred $1.7 million and $10.4 million of costs associated with activities in the three and nine months ended September 30, 2021.
Post Divestiture Restructuring Charges: As previously described under “Restructuring Activities,” in the three and nine months ended September 30, 2021, we incurred $2.9 million and $5.5 million, respectively. In the three and nine months ended September 30, 2020, we incurred $0.9 million and $1.4 million, respectively.
Post Divestiture Transition Charges: There were no costs related to the separation of the divested business in the three months ended September 30, 2021 and $3.6 million in the nine months ended September 30, 2021, which was primarily re-branding costs. We incurred $1.1 million and $8.2 million in the three and nine months ended September 30, 2020 for consulting, rebranding and other costs.
Acquisition and Integration-related Charges: In the three and nine months ended September 30, 2021, we incurred $0.1 million and $0.7 million, respectively, of integration costs related to recent acquisitions. We incurred $5.7 million and $9.6 million of acquisition-related costs in the three and nine months ended September 30, 2020.
European Union Medical Device Regulation (“EU MDR”) Compliance: In the three and nine months ended September 30, 2021, we incurred $1.2 million and $2.4 million, respectively, of expenses associated with compliance to EU MDR which becomes progressively effective beginning in the second quarter of 2021.
Litigation and Legal: We incurred $3.3 million and $28.5 million for certain litigation matters in the three and nine months ended September 30, 2021 compared to $2.4 million and $5.8 million in the three and nine months ended September 30, 2020. 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 $4.2 million and $12.5 million in the three and nine months ended September 30, 2021 compared to $4.9 million and $14.6 million in the three and nine months ended September 30, 2020.
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Interest Income and Expense
Interest expense consists of interest accrued and amortization of debt issuance costs on our revolving credit facility net of interest capitalized on long-term capital projects. See “Debt” in Note 5 to the condensed consolidated financial statements. Interest expense was $0.9 million and $2.6 million in the three and nine months ended September 30, 2021, compared to $4.3 million and $12.9 million in the comparable period last year. Interest expense decreased due to the redemption of our $249.8 million of senior unsecured notes that bore interest at 6.25% in the fourth quarter of 2020. In the nine months ended September 30, 2021 interest accrued on our revolving credit facility at a weighted average rate of 1.61% and had balances of $145.0 million and $180.0 million as of September 30, 2021 and December 31, 2020, respectively.
Income Taxes
The income tax provision was $38.0 million in the three months ended September 30, 2021 and a benefit of $13.7 million in the nine months ended September 30, 2021 compared to a benefit of $23.5 million and $33.1 million in the three and nine months ended September 30, 2020. The effective tax rates were 1310.3% and 74.1% in the three and nine months ended September 30, 2021. The current year income tax benefit and effective tax rate are due to the impact of non-deductible charges and progression of earnings in the first nine months of 2021.
The effective tax rates were 559.5% and 252.7% in the three and nine months ended September 30, 2020, respectively. The prior year income tax benefit and effective tax rate were due to the Coronavirus Aid, Relief and Economic Security Act (“CARES Act”), which was enacted on March 27, 2020 and allows for the carryback of U.S. net operating losses, which were expected to be used in future years, but are now being carried back to prior years.
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. Our operating cash flow has historically been and is expected to remain sufficient to meet our working capital requirements and fund capital expenditures. 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 any remaining uncertainty related to the COVID-19 pandemic and fund capital expenditures and other investments necessary to grow our business for the foreseeable future for both our domestic and international operations.
As of September 30, 2021, $51.5 million of our $97.8 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 $13.7 million to $97.8 million as of September 30, 2021 compared to $111.5 million as of December 31, 2020. The decrease was driven by $55.0 million repaid on our revolving credit facility, $16.3 million of capital expenditures and $3.1 million of unfavorable currency exchange effects partially offset by $35.2 million provided by operations, $20.0 million of proceeds from our revolving credit facility and $6.1 million of proceeds from the exercise of stock options.
In the prior year, cash and cash equivalents decreased by $25.3 million to $180.0 million as of September 30, 2020 primarily due to $3.6 million used in operations, $19.1 million used in investing activities and $0.9 million of unfavorable currency exchange effects.
Long-Term Debt
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. In the nine months ended September 30, 2021, we borrowed $20.0 million and repaid $55.0 million on our Revolving Credit Facility, leaving $145.0 million of borrowings and letters of credit for $1.2 million outstanding. 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. In July 2021, we borrowed an additional $20.0 million from our Revolving Credit Facility for a payment required pursuant to a Deferred Prosecution Agreement with the U.S. Department of Justice that is described in “Commitments and Contingencies” in Note 8 to the accompanying condensed consolidated financial statements.
See “Debt” in Note 5 to the accompanying condensed consolidated financial statements for further details regarding our debt agreements.
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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 months ended September 30, 2021 and 2020 and our financial position as of September 30, 2021 and December 31, 2020. 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, 2020.
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, such expectation or belief is based on the current plans and expectations of our management and 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 September 30, 2021.
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 September 30, 2021 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 6. Exhibits
(a)Exhibits
| Exhibit Number | Description | |||||||
| 101.SCH | XBRL Taxonomy Extension Schema Document | |||||||
| 101.CAL | XBRL Taxonomy Extension Calculation Linkbase Document | |||||||
| 101.DEF | XBRL Taxonomy Extension Definition Linkbase Document | |||||||
| 101.LAB | XBRL Taxonomy Extension Label Linkbase Document | |||||||
| 101.PRE | XBRL Taxonomy Extension Presentation Linkbase Document | |||||||
*Management contracts, compensatory plans or arrangements
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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) | |||||||||||
| November 2, 2021 | By: | /s/ Michael C. Greiner | |||||||||
| Michael C. Greiner | |||||||||||
| Senior Vice President and Chief Financial Officer | |||||||||||
| (Principal Financial and Accounting Officer) | |||||||||||
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