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WST > SEC Filings for WST > Form 10-Q on 4-Nov-2013All Recent SEC Filings

Show all filings for WEST PHARMACEUTICAL SERVICES INC

Form 10-Q for WEST PHARMACEUTICAL SERVICES INC


4-Nov-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

The following discussion is intended to further the reader's understanding of the consolidated financial condition and results of operations of our Company. It should be read in conjunction with Management's Discussion and Analysis of Financial Condition and Results of Operations and the consolidated financial statements and accompanying notes included in our 2012 Annual Report. These historical financial statements may not be indicative of our future performance. This Management's Discussion and Analysis of Financial Condition and Results of Operations contains a number of forward-looking statements, all of which are based on our current expectations and could be affected by the uncertainties and risks discussed in Part I, Item 1A of our 2012 Annual Report and in Part II, Item 1A of this Quarterly Report on Form 10-Q.

Throughout this section, references to "Notes" refer to the footnotes to our condensed consolidated financial statements (unaudited) in Part I, Item 1 of this Quarterly Report on Form 10-Q, unless otherwise indicated.

Our Operations

Our business operations are organized into two reportable segments, which are aligned with the underlying markets and customers they serve. Our reportable segments are Packaging Systems and Delivery Systems. Packaging Systems develops, manufactures and sells primary packaging components and systems for injectable drug delivery, including stoppers and seals for vials, closures and other components used in syringe, intravenous and blood collection systems, and prefillable syringe components. Delivery Systems develops, manufactures and sells safety and administration systems, multi-component systems for drug administration, and a variety of custom contract-manufacturing solutions targeted to the healthcare and consumer-products industries. In addition, Delivery Systems is responsible for the continued development and commercialization of our line of proprietary, multi-component systems for injectable drug administration and other healthcare applications. We also maintain global partnerships to share technologies and market products with affiliates in Japan and Mexico.

Third Quarter 2013 Financial Performance Highlights

•         Net sales were $341.8 million, an increase of 12.5% from the same
          period in 2012 (10.9% excluding foreign currency effects).


•         Gross profit was $105.5 million, an increase of 16.7% from the same
          period in 2012, and our gross margin increased by 1.0 margin point to
          30.8%.


•         Operating profit was $39.7 million, an increase of 51.0% from the same
          period in 2012.


•         Net income was $26.8 million, an increase of 81.1% from the same period
          in 2012.

We achieved higher net sales in both the Packaging Systems and Delivery Systems segments during the three months ended September 30, 2013, as compared to the same period in 2012. Net sales originating in the United States were $153.0 million, an increase of 4.8% from the same period in 2012, primarily due to higher domestic demand for pharmaceutical packaging components and an increase in Daikyo Crystal Zenith® ("CZ") sales, partially offset by a decrease in contract manufacturing sales. Net sales generated outside of the United States were $188.8 million, an increase of 19.6% from the same period in 2012, reflecting continued growth and demand, particularly in Europe and Asia. Excluding the favorable effects from currency translation, our non-U.S. net sales increased 16.5% and our consolidated net sales increased 10.9% from the same period in 2012.


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Gross profit increased by $15.1 million during the three months ended September 30, 2013, as compared to the same period in 2012, primarily due to higher sales volumes, an improved product mix, production efficiencies, and sales price increases. These favorable items were partially offset by the impact of increased wages, benefits and other costs.

Operating profit increased by $13.4 million during the three months ended September 30, 2013, as compared to the same period in 2012, primarily due to the increase in consolidated gross profit described above and a decrease in restructuring and other items, partially offset by increases in R&D and SG&A costs.

On August 1, 2013, our Board of Directors approved a two-for-one stock split of our outstanding shares of common stock, effected in the form of a stock dividend. The record date for the stock split was September 12, 2013, and the share distribution occurred on September 26, 2013.

Net income increased by $12.0 million, and diluted net income per share increased by $0.16 per diluted share, during the three months ended September 30, 2013, as compared to the same period in 2012. Net income and diluted net income per share for the three months ended September 30, 2013 included a discrete tax charge of $1.3 million, or $0.02 per diluted share. Net income and diluted net income per share for the three months ended September 30, 2012 included restructuring and related charges of $1.0 million (net of $0.1 million in tax), or $0.01 per diluted share, an increase in acquisition-related contingencies of $0.4 million (net of $0.1 million in tax), or $0.01 per diluted share, and a discrete tax charge of $1.8 million, or $0.03 per diluted share.

Business Outlook

We anticipate continued revenue improvement driven by customers moving up the product quality and value scale in Packaging Systems and increasing growth in Delivery Systems' proprietary products, as customers accelerate their pre-commercial efforts. We continue to believe that actions taken in recent years to increase capacity for certain products, reduce costs through restructuring and lean savings efforts, and expand into emerging markets will lead to improved profitability as global demand increases. We plan to continue funding capital projects related to new products, expansion activity, and emerging markets for Packaging Systems and for new, proprietary products within Delivery Systems. We believe that our operating results and financial position give us a platform for sustained growth, and will enable us to take advantage of opportunities to invest in our business as they arise.

RESULTS OF OPERATIONS

We evaluate the performance of our segments based upon, among other things, segment net sales and operating profit. Segment operating profit excludes general corporate costs, which include executive and director compensation, stock-based compensation, adjustments to annual incentive plan expense for over- or under-attainment of targets, certain pension and other retirement benefit costs, and other corporate facilities and administrative expenses not allocated to the segments. Also excluded are items that management considers not representative of ongoing operations. Such items are referred to as other unallocated items and generally include restructuring and related charges, certain asset impairments and other specifically-identified income or expense items.

For the purpose of aiding the comparison of our year-over-year results, we often refer to net sales and other financial results excluding the effects of changes in foreign currency exchange rates. The constant-currency amounts are calculated by translating the current year's functional currency results at the prior-year period's exchange rate. These re-measured results excluding effects from currency translation are not in conformity with U.S. GAAP and should not be used as a substitute for the related U.S. GAAP financial measures. The non-U.S. GAAP financial measures are incorporated into our discussion and analysis as management uses them in evaluating our results of operations, and believes that this information provides users a valuable insight into our results.

Percentages in the following tables and throughout the Results of Operations section may reflect rounding adjustments. Net Sales


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The following table presents net sales, consolidated and by reportable segment:

                                  Three Months Ended         Nine Months Ended
                                    September 30,              September 30,
($ in millions)                    2013         2012         2013         2012
Packaging Systems              $   251.5      $ 215.9     $   754.5     $ 687.4
Delivery Systems                    90.8         88.2         272.3       258.1
Intersegment sales elimination      (0.5 )       (0.3 )        (1.1 )      (0.6 )
Consolidated net sales         $   341.8      $ 303.8     $ 1,025.7     $ 944.9

Consolidated net sales increased by $38.0 million, or 12.5%, for the three months ended September 30, 2013, as compared to the same period in 2012, including a favorable foreign currency impact of $4.9 million. Excluding foreign currency effects, net sales for the three months ended September 30, 2013 increased by $33.1 million, or 10.9%, as compared to the same period in 2012.

Consolidated net sales increased by $80.8 million, or 8.5%, for the nine months ended September 30, 2013, as compared to the same period in 2012, including a favorable foreign currency impact of $6.6 million. Excluding foreign currency effects, net sales for the nine months ended September 30, 2013 increased by $74.2 million, or 7.9%, as compared to the same period in 2012.

Packaging Systems - Packaging Systems' net sales increased by $35.6 million, or 16.5%, and $67.1 million, or 9.8%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012, including a favorable foreign currency impact of $3.8 million and $5.0 million for the three and nine months ended September 30, 2013, respectively. Excluding foreign currency effects, net sales for the three and nine months ended September 30, 2013 increased by $31.8 million, or 14.7%, and $62.1 million, or 9.0%, respectively, as compared to the same periods in 2012, primarily due to continued growth in sales of our higher-value product offerings that reduce particulate contamination and create efficiencies in our customer's manufacturing processes and strong packaging component sales, partially offset by lower sales of disposable device components. Sales price increases contributed 2.4 percentage points and 2.3 percentage points of the increase for the three and nine months ended September 30, 2013, respectively.

Delivery Systems - Delivery Systems' net sales increased by $2.6 million, or 3.0%, for the three months ended September 30, 2013, as compared to the same period in 2012, including a favorable foreign currency impact of $1.1 million. Excluding foreign currency effects, net sales for the three months ended September 30, 2013 increased by $1.5 million, or 1.7%, as compared to the same period in 2012, primarily due to increases in CZ and safety systems sales, partially offset by a decrease in contract manufacturing sales. Proprietary net sales represented 23.6% of Delivery Systems' net sales for the three months ended September 30, 2013, as compared to 21.3% for the same period in 2012. Sales price increases contributed 0.8 percentage points of the increase.

Delivery Systems' net sales increased by $14.2 million, or 5.5%, for the nine months ended September 30, 2013, as compared to the same period in 2012, including a favorable foreign currency impact of $1.5 million. Excluding foreign currency effects, net sales for the nine months ended September 30, 2013 increased by $12.7 million, or 4.9%, as compared to the same period in 2012, primarily due to increases in CZ, administration systems, and safety systems sales, partially offset by a decrease in contract manufacturing sales. Proprietary net sales represented 24.8% of Delivery Systems' net sales for the nine months ended September 30, 2013, as compared to 20.8% for the same period in 2012. Sales price increases contributed 0.9 percentage points of the increase.

The intersegment sales elimination, which is required for the presentation of consolidated net sales, represents the elimination of components sold between our segments.

Gross Profit

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The following table presents gross profit and related gross margins,
consolidated and by reportable segment:

                             Three Months Ended         Nine Months Ended
                               September 30,              September 30,
($ in millions)               2013          2012        2013         2012
Packaging Systems:
Gross Profit              $     89.5      $ 71.9     $   277.0     $ 239.8
Gross Margin                    35.6 %      33.3 %        36.7 %      34.9 %
Delivery Systems:
Gross Profit              $     16.0      $ 18.5     $    51.1     $  50.4
Gross Margin                    17.6 %      21.0 %        18.7 %      19.5 %
Consolidated Gross Profit $    105.5      $ 90.4     $   328.1     $ 290.2
Consolidated Gross Margin       30.8 %      29.8 %        32.0 %      30.7 %

Consolidated gross profit increased by $15.1 million, or 16.7%, and $37.9 million, or 13.1%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012, including a favorable foreign currency impact of $1.1 million and $1.8 million for the three and nine months ended September 30, 2013, respectively. Consolidated gross margin increased by 1.0 margin point and 1.3 margin points for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012.

Packaging Systems - Packaging Systems' gross profit increased by $17.6 million, or 24.5%, and $37.2 million, or 15.5%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012, including a favorable foreign currency impact of $1.0 million and $1.6 million for the three and nine months ended September 30, 2013, respectively. Packaging Systems' gross margin increased by 2.3 margin points and 1.8 margin points for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012, primarily as a result of higher sales volumes, an improved product mix, production efficiencies, and sales price increases. These favorable items were partially offset by the impact of increased wages, benefits and other costs.

Delivery Systems - Delivery Systems' gross profit decreased by $2.5 million, or 13.5%, for the three months ended September 30, 2013, as compared to the same period in 2012, despite a favorable foreign currency impact of $0.1 million. Delivery Systems' gross margin decreased by 3.4 margin points for the three months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of the lower profitability from pre-clinical volumes of CZ cartridges and the impact of wage, benefit and other cost increases and increased raw material costs, partially offset by production efficiencies and sales price increases.

Delivery Systems' gross profit increased by $0.7 million, or 1.4%, for the nine months ended September 30, 2013, respectively, as compared to the same period in 2012, including a favorable foreign currency impact of $0.2 million. Delivery Systems' gross margin decreased by 0.8 margin points for the nine months ended September 30, 2013, as compared to the same period in 2012, primarily due to the impact of wage, benefit and other cost increases, as well as increased raw material costs, partially offset by production efficiencies and sales price increases.


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Research and Development ("R&D") Costs

                            Three Months Ended             Nine Months Ended
                              September 30,                  September 30,
($ in millions)               2013            2012          2013           2012
Packaging Systems      $     3.8             $ 3.2    $     10.9          $  9.6
Delivery Systems             5.8               5.0          17.3            15.0
Consolidated R&D Costs $     9.6             $ 8.2    $     28.2          $ 24.6

Consolidated R&D costs increased by $1.4 million, or 17.1%, and $3.6 million, or 14.6%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012.

Packaging Systems - Packaging Systems' R&D costs increased by $0.6 million, or 18.8%, and $1.3 million, or 13.5%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012, primarily as a result of increased investment in next-generation packaging components.

Delivery Systems - Delivery Systems' R&D costs increased by $0.8 million, or 16.0%, for the three months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of development work on a variety of proprietary products, including our safety and administration systems.

Delivery Systems' R&D costs increased by $2.3 million, or 15.3%, for the nine months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of development work on SmartDose and the SelfDose™ and ConfiDose® systems.

Selling, General and Administrative ("SG&A") Costs

                            Three Months Ended         Nine Months Ended
                              September 30,              September 30,
($ in millions)              2013          2012        2013         2012
Packaging Systems        $    30.9       $ 28.3     $    95.4     $  85.9
Delivery Systems              10.4          9.3          31.6        27.3
Corporate                     14.8         16.1          47.9        46.3
Consolidated SG&A costs  $    56.1       $ 53.7     $   174.9     $ 159.5
SG&A as a % of net sales      16.4 %       17.7 %        17.0 %      16.9 %

Consolidated SG&A costs increased by $2.4 million, or 4.5%, and $15.4 million, or 9.7%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012.

Packaging Systems - Packaging Systems' SG&A costs increased by $2.6 million, or 9.2%, for the three months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of increased compensation costs mainly related to merit and headcount increases, particularly in Asia, incremental costs related to information technology projects, incentive compensation cost increases, and foreign currency effects, which increased Packaging Systems' SG&A costs by $0.2 million.

Packaging Systems' SG&A costs increased by $9.5 million, or 11.1%, for the nine months ended September 30, 2013, respectively, as compared to the same period in 2012, primarily as a result of increased compensation costs mainly related to merit and headcount increases, particularly in Asia, incremental costs related to outside services, such as supply chain initiatives, and incremental costs related to information technology projects.


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Delivery Systems - Delivery Systems' SG&A costs increased by $1.1 million, or 11.8%, for the three months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of incremental costs related to outside services, such as sales commissions and marketing costs.

Delivery Systems' SG&A costs increased by $4.3 million, or 15.8%, for the nine months ended September 30, 2013, as compared to the same period in 2012, primarily as a result of increased compensation costs mainly related to merit and headcount increases and incremental costs related to outside services, such as legal costs, sales commissions, and marketing costs.

Corporate - Corporate's SG&A costs decreased by $1.3 million, or 8.1%, for the three months ended September 30, 2013, as compared to the same period in 2012, primarily as decreases in outside service and pension costs were partially offset by increased stock-based compensation expense. The increase in stock-based compensation expense of $0.8 million was due to the impact of higher share prices on our deferred compensation plan liabilities, which are indexed to our share price, and increased performance-based achievement levels.

Corporate's SG&A costs increased by $1.6 million, or 3.5%, for the nine months ended September 30, 2013, as compared to the same period in 2012, primarily due to increases in stock-based compensation expense and intellectual property-related costs being partially offset by decreases in outside service, pension, and incentive compensation costs. The increase in stock-based compensation expense of $3.8 million was due to increased performance-based achievement levels and the impact of higher share prices on our deferred compensation plan liabilities, which are indexed to our share price.

Restructuring and Other Items

The following table presents restructuring charges and other income and expense
items for our segments, and corporate and other unallocated items:

                                              Three Months Ended          Nine Months Ended
                                                 September 30,              September 30,
($ in millions) Expense (income)              2013           2012          2013         2012
Packaging Systems                          $    0.2       $    1.2     $     0.7       $ 0.9
Delivery Systems                               (0.1 )         (0.5 )        (1.2 )      (4.4 )
Corporate and other unallocated items:
Corporate                                                     (0.1 )                    (0.1 )
Restructuring and related charges                 -            1.1             -         1.8
Impairment charge                                 -              -             -         3.4
Acquisition-related contingencies                 -            0.5             -         0.9
Consolidated restructuring and other items $    0.1       $    2.2     $    (0.5 )     $ 2.5

Other income and expense items, consisting primarily of foreign exchange transaction gains and losses, gains and losses on the sale of fixed assets, and miscellaneous income and charges, are generally recorded within segment or corporate results. Certain restructuring, impairments and other specifically-identified gains and losses considered outside of the control of segment management are not allocated to our segments.

During the three and nine months ended September 30, 2013, we recorded development income of $0.4 million and $1.2 million, respectively, within Delivery Systems. Included in these amounts was $0.4 million and $0.7 million, respectively, of income related to a nonrefundable payment of $20.0 million received from a customer in June 2013 in return for the exclusive use of SmartDose within a specific therapeutic area. Unearned income related to this payment of $1.5 million and $17.8 million was included within other current liabilities and other long-term liabilities, respectively, at September 30, 2013. The unearned income is being recognized as development income on


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a straight-line basis over the remaining term of the agreement, which is thirteen years. The agreement does not include a future minimum purchase commitment from the customer.

During the three and nine months ended September 30, 2012, we recorded development income of $0.4 million and $4.2 million, respectively, within Delivery Systems attributable to services and the reimbursement of certain costs.
During the three and nine months ended September 30, 2012, we incurred restructuring and related charges of $1.1 million and $1.8 million, respectively, associated with the 2010 plan. Charges incurred during the three and nine months ended September 30, 2012 included facility closure costs and employee severance and benefits associated with a reduction in operations at a manufacturing facility in England, as well as facility closure costs associated with the 2011 closure of a plant in the United States. During the three months ended September 30, 2012, we finalized an agreement concerning future manufacturing and supply requirements at our manufacturing facility in England, which triggered an impairment review of the related assets. Our review concluded that the estimated fair value of these assets no longer exceeded their carrying value and, therefore, an impairment charge of $1.5 million was recorded. We estimated the fair value of the assets using an income approach based on discounted cash flows. Offsetting the costs incurred during the three and nine months ended September 30, 2012 were reductions to certain previously-recorded obligations under the 2010 plan, including a reduction of $1.7 million following the cancellation of the restructuring initiative at one of our plants in Europe as a result of increased customer demand for products and related efficiency improvements at that plant. We have not incurred any restructuring and related charges during 2013, and we do not expect to incur any future charges related to the 2010 plan. The remaining restructuring obligations at September 30, 2013 were $0.1 million.

During the second quarter of 2012, as a result of continuing delays and lower-than-expected demand, we updated the sales projections related to one of our Delivery Systems' product lines. The revised projections triggered an impairment review of the associated assets. Our review concluded that the estimated fair value of the product line no longer exceeded the carrying value of the related assembly equipment and intangible asset and, therefore, an impairment charge of $3.4 million was recorded. We estimated the fair value of the asset group using an income approach based on discounted cash flows.

During the three and nine months ended September 30, 2013, we increased the SmartDose contingent consideration by $0.3 million and $0.5 million, respectively, due to the time value of money and adjustments related to changes in sales projections. During the three and nine months ended September 30, 2012, we increased the SmartDose contingent consideration by $0.5 million and $0.9 million, respectively, due to the same factors described above. Beginning in 2013, these adjustments are included within Delivery Systems' results.

Operating Profit

The following table presents operating profit (loss) by reportable segment,
corporate and other unallocated costs:

                                          Three Months Ended         Nine Months Ended
                                            September 30,              September 30,
($ in millions)                            2013          2012        2013         2012
Segments:
Packaging Systems                      $    54.6       $ 39.2     $   170.0     $ 143.4
Delivery Systems                            (0.1 )        4.7           3.4        12.5
Corporate and other unallocated items:
Corporate                                  (14.8 )      (16.0 )       (47.9 )     (46.2 )
Other unallocated expense                      -         (1.6 )           -        (6.1 )
Consolidated operating profit          $    39.7       $ 26.3     $   125.5     $ 103.6

Consolidated operating profit increased by $13.4 million, or 51.0%, and $21.9 million, or 21.1%, for the three and nine months ended September 30, 2013, respectively, as compared to the same periods in 2012.

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