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AMRI > SEC Filings for AMRI > Form 10-Q on 9-May-2014All Recent SEC Filings

Show all filings for ALBANY MOLECULAR RESEARCH INC

Form 10-Q for ALBANY MOLECULAR RESEARCH INC


9-May-2014

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

The following discussion of our results of operations and financial condition should be read in conjunction with the accompanying Condensed Consolidated Financial Statements and the Notes thereto included within this report. This quarterly report on Form 10-Q contains "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These statements may be identified by forward-looking words such as "may," "could," "should," "would," "will," "intend," "expect," "anticipate," "believe," and "continue" or similar words, and include, but are not limited to, statements concerning the Company's relationship with its largest customers, the Company's collaboration with Bristol-Myers Squibb ("BMS") and Genentech, expected benefits from the acquisition of Cedarburg Pharmaceuticals, Inc., future acquisitions or divestitures, earnings, contract revenues, costs and margins, patent protection, Allegra® and Actavis royalty revenue, government regulation, retention and recruitment of employees, customer spending and business trends, foreign operations, including increasing options and solutions for customers, business growth and the expansion of the Company's global market, clinical supply manufacturing, management's strategic plans, drug discovery, product commercialization, license arrangements, research and development projects and expenses, revenue and expense expectations for future periods, long-lived asset impairment, pension costs, competition and tax rates. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties and assumptions that are difficult to predict. Therefore, actual results may differ materially and adversely from those expressed in any forward-looking statements. Factors that could cause such differences include, but are not limited to, those discussed in Part I, Item 1A, "Risk Factors", of the Company's Annual Report on Form 10-K for the year ended December 31, 2013, as filed with the Securities and Exchange Commission on March 17, 2014, as updated by Part II Item 1A, "Risk Factors," in subsequent Forms 10-Q. All forward-looking statements are made as of the date of this report, and we do not undertake to update any such forward-looking statements in the future, except as required by law. References to "AMRI", the "Company," "we," "us," and "our," refer to Albany Molecular Research, Inc. and its subsidiaries, taken as a whole.

Strategy and Overview

We are a global contract research and manufacturing organization uniquely positioned in the marketplace to provide a competitive advantage to a diverse group of customers. Our reputation of providing the highest quality service on a global basis with a variety of pricing options provides companies with the security of sourcing discovery, development, small and large-scale manufacturing projects throughout our global network of research and manufacturing facilities. We believe we have a unique portfolio of service offerings ranging from early stage discovery through manufacturing and formulation across the U.S., Europe and Asia. We believe this product and geographic mix will continue to allow us to increase multi-year strategic relationships and enhance our revenue growth with a variety of customers. In 2014 and beyond, we are targeting growth and increased profitability across the discovery and early development, API manufacturing and formulation manufacturing service offerings.

As part of our strategy to accomplish this, we have made investments in our organizational leadership following the announcement of the retirement of our Company founder from his role as President and CEO after 22 years, to Chairman of the Board, effective January 1, 2014. Simultaneously, the Chairman of the Board assumed the role of President and CEO, and stepped down as Chairman of the Board. Also in late 2013, our new Senior Vice President, Drug Discovery joined the Company and in January 2014, our Senior Vice President, Sales and General Manager, API joined the Company. The appointment of other highly experienced, key personnel, underscore AMRI's dedication to client service, operational excellence, and growth. We have enhanced and unified our sales and marketing organization under this new global leadership to optimize selling opportunities and management of key accounts across our business segments. We believe our strengthened organizational structure, combined with more focused sales and marketing efforts, should enable us to drive long term growth across diversified segments and increased sustainable profitability.

Market trends continue to point to outsourcing as an increasingly important part of business strategies for our customers across the discovery, development and API and formulation manufacturing areas, including both generic and branded products. We believe our ability to offer a full service model, which also allows customers to use a combination of our U.S., Europe and Asia based facilities, will result in an increase in demand for our services globally. We also offer our customers the option of insourcing, a strategic relationship that embeds AMRI scientists into the customer's facility, allowing them to cost-effectively leverage their unused laboratory space.

AMRI's SMARTSOURCING™ initiative, offering a full range of value-added opportunities, provides customers informed decision-making, enhanced efficiency and more successful outcomes at all stages of the pipeline. This approach maximizes the strengths of both insourcing and outsourcing by leveraging AMRI's expertise, global facilities and project management to provide strategic relationships and flexible business models for customers.

We are also continuing to focus our efforts on other important customer segments: small and large biotech companies, non-profit/government entities and related industries such as the agricultural, nutraceutical and food industries. We believe maintaining a balance within our customer portfolio between large pharmaceutical, non-profit/government, biotech and other companies will help ensure sustained sales and reduce risk.

We have made investments to grow our formulation and injectable drug product business at our Burlington, MA facility. We believe this type of business has significant potential in the drug product world driven by the growth in biologically based compounds which are formulated and manufactured on an aseptic basis.

The cost base of our manufacturing and research facilities is largely fixed in nature. However, we continue to seek opportunities to minimize these fixed costs, with a focus on gaining flexibility and improving efficiency, cost structure and margin.

During 2012, we transitioned certain services from Hungary to India, and in 2013, ceased all activities in Hungary. During 2013, we further transitioned certain biology services from Bothell, WA to Singapore and Albany, NY. These actions were taken to better align the business to customer demand and current and expected market conditions due to shifting preferences related to the preferred co-localization of integrated drug discovery activities.

In April 2014, we announced the transitioning of our DDS activities at our Syracuse, NY site to other sites within the Company and will cease operations in Syracuse by the end of June 2014. These actions are consistent with our ongoing efforts to consolidate our facility resources to more effectively utilize its discovery and development resource pool and to further reduce our facility cost structure.

Although we suspended substantial investments and halted proprietary compound R&D activities in 2011, we continue to believe there are additional opportunities to partner our proprietary compounds or programs to create value, as we have seen a renewed commitment by pharmaceutical companies for innovation both internally and through licensing. Our goal is to partner these programs in return for a combination of up-front license fees, milestone payments and recurring royalty payments if compounds resulting from our intellectual property are successfully developed into new drugs and reach the market. One compound was successfully partnered in early 2013. We are continuing to focus on partnering other programs.

We may consider acquisitions that enhance or complement our existing service offerings. In addition to growing the Company organically, any acquisitions would generally be expected to contribute to AMRI's growth by integrating with and expanding our current services, or adding services within the drug discovery, development and manufacturing life cycle.

Most recently, in April 2014, we announced the completion of the acquisition of Cedarburg Pharmaceuticals, Inc. ("Cedarburg Pharmaceuticals"), a contract developer and manufacturer of technically complex active pharmaceutical ingredients for both generic and branded customers. The transaction is consistent with our strategy to be the preeminent supplier of custom and complex drug development services and product to both the branded and generic pharmaceutical industry. Customers will benefit from access to a greater breadth of resources, including development of complex API, expanded scale-up capabilities and large scale manufacturing in lower cost environments.

Our backlog of open manufacturing orders and accepted service contracts was $115.9 million at March 31, 2014 as compared to $110.6 million at March 31, 2013. Our manufacturing and services contracts are completed over varying durations, from short to extended periods of time.

We believe our aggregate backlog as of any date is not necessarily a meaningful indicator of our future results for a variety of reasons. First, contracts vary in duration, and as such the timing and amount of revenues recognized from backlog can vary from period to period. Second, the Company's manufacturing and services contracts are of a nature that a customer may, at its option, cancel or delay the timing of delivery, which would change our projections concerning the timing and extent to which revenue may be recognized. In addition, the value of the Company's services contracts that are conducted on a time and materials or full-time equivalent basis are based on estimates, from which actual revenue generated could vary. Finally, there is no assurance that projects included in backlog will not be terminated or delayed at any time by customers or regulatory authorities. We cannot provide any assurance that we will be able to realize all or most of the net revenues included in backlog or estimate the portion to be filled in the current year.

Our total revenue for the quarter ended March 31, 2014 was $59.3 million, which included $51.0 million from our contract service business and $8.3 million from royalties on sales of Allegra/Telfast and certain products sold by Actavis. Consolidated gross margin was 18.5% for the quarter ended March 31, 2014.

During the quarter ended March 31, 2014, cash used in operations was $8.1 million compared to cash provided by operations of $7.1 million for the same period of 2013. Cash used in operations was primarily driven by the manufacturing of inventory for future customer orders, an increase in customer receivables due to the timing of invoicing and cash collections within the quarter, and the payment of accounts payable and other accrued liabilities during the quarter. During the three months ended March 31, 2014, we spent $3.0 million on capital expenditures, primarily related to growth and maintenance of our existing facilities. As of March 31, 2014, we had $166.6 million in cash and cash equivalents and $125.4 million in bank and other related debt, the largest portion of both the cash and the debt are a result of an offering of senior convertible notes sold by us in fourth quarter of 2013.

Results of Operations - Three Months ended March 31, 2014 Compared to Three Months Ended March 31, 2013

Revenues

Total contract revenue

Contract revenue consists primarily of fees earned under manufacturing or service contracts with third-party customers. Our contract revenues for each of our Discovery, Drug Development and Small Scale Manufacturing ("DDS") and Large-Scale Manufacturing ("LSM") segments were as follows:

                   Three Months Ended
                        March 31,
(in thousands)      2014          2013

DDS              $   19,501     $ 20,096
LSM                  31,537       26,397
Total            $   51,038     $ 46,493

DDS contract revenues for the three months ended March 31, 2014 decreased from the same period in 2013. This decrease was primarily due to a decrease in U.S. chemistry services and U.S. biology services. These decreases were off-set in part by an increase in U.S. development and small-scale services.

We currently expect DDS contract revenue for full year 2014 to increase from amounts recognized in 2013 driven by improved facility utilization at all of our sites.

LSM revenue increased for the three months ended March 31, 2014 from the same period in 2013 primarily due to an increase in commercial manufacturing services, as well as in our clinical supply manufacturing services. In addition, we expect to recognize incremental revenues as a result of the acquisition of Cedarburg Pharmaceuticals in the second quarter of 2014.

We currently expect continued growth in LSM contract revenue for full year 2014 due to on-going demand for our existing commercial manufacturing services and clinical supply manufacturing services worldwide, as well as incremental revenues expected as a result of the acquisition of Cedarburg Pharmaceuticals.

Recurring royalty revenue

Three Months Ended March 31, 2014 2013

(in thousands)

$ 8,283 $ 12,913

The largest portion of our recurring royalties relates to worldwide sales of Allegra/Telfast and Sanofi over-the-counter ("OTC") product and authorized generics. Additionally, beginning in the third quarter of 2012 we have earned recurring royalty revenue in conjunction with a Development and Supply Agreement with Actavis at the Company's Rensselaer, NY manufacturing facility.

Recurring royalties decreased during the three months ended March 31, 2014 from the same period in 2013 primarily due to the incremental effect of the introduction of generic fexofenadine in Japan in the later part of the first quarter of 2013. Additionally, there was a decrease in Allegra royalties as a result of patent expirations that began in late 2013, as well as a slower start to Japan's allergy season in 2014. These decreases were partially offset by an increase in Actavis royalties.

We currently expect full year 2014 recurring royalties to decrease from amounts recognized in 2013, as previously announced, primarily due to patent expirations of Allegra that began in 2013 along with the introduction of generic fexofenadine in Japan during the first quarter of 2013. These decreases will be partially offset by a slight increase in Actavis royalties.

The recurring royalties we receive on the sales of Allegra/Telfast have historically provided a material portion of our revenues, earnings and operating cash flows. We have been issued various United States and international patents covering fexofenadine HC1 and certain related manufacturing processes. These U.S. patents began to expire in November 2013. The international patents begin to expire in 2014 and most of these patents are covered by our license agreements with Sanofi. We continue to develop our business in an effort to supplement the revenues, earnings and operating cash flows that have historically been provided by Allegra/Telfast royalties.

Costs and Expenses

Cost of contract revenue

Cost of contract revenue consists of compensation and associated fringe benefits for employees, chemicals, depreciation and other indirect project related costs. Cost of contract revenue for our DDS and LSM segments were as follows:

                                       Three Months Ended March 31,
                    Segment              2014                 2013
                 (in thousands)

                              DDS   $       16,287       $       16,772
                              LSM           25,323               21,050
                            Total   $       41,610       $       37,822

                 DDS Gross Margin             16.5 %               16.5 %
                 LSM Gross Margin             19.7 %               20.3 %
               Total Gross Margin             18.5 %               18.6 %

DDS contract revenue gross margin percentage for the three months ended March 31, 2014 remained flat with prior year.

We currently expect DDS contract margin percentage for 2014 to improve over amounts recognized in 2013 due to improved facility utilization.

LSM contract revenue gross margin percentages for the three months ended March 31, 2014 decreased slightly from the same period in 2013 primarily due to sales of higher margin products for our U.S. manufacturing services in 2013.

We currently expect improvement in LSM contract margins for full year 2014 as compared to full year 2013 driven by an increase in capacity utilization at all of our large-scale facilities worldwide, including the expected accretive benefit of gross margin percentages from the Cedarburg Pharmaceuticals acquisition in the second quarter of 2014.

Technology incentive award

We maintain a Technology Development Incentive Plan, the purpose of which is to stimulate and encourage novel innovative technology developments by our employees. This plan allows eligible participants to share in a percentage of the net revenue earned by us relating to patented technology with respect to which the eligible participant is named as an inventor or made a significant intellectual contribution. To date, the royalties from Allegra are the main driver of the awards. The incentive awards were as follows:

Three Months Ended March 31, 2014 2013

(in thousands)

$ 593 $ 1,114

We expect technology incentive award expense to generally fluctuate directionally and proportionately with fluctuations in Allegra royalties in future periods. Technology incentive award expense decreased for the three months ended March 31, 2014 as compared to the same period in the prior year due to the decrease in Allegra recurring royalty revenue as discussed above.

Research and development

Research and development ("R&D") expense consists of compensation and benefits for scientific personnel for work performed on proprietary technology R&D projects, costs of chemicals, materials, outsourced activities and other out of pocket costs and overhead costs.

During the fourth quarter of 2011, the Company made a decision to cease activities related to its internal discovery research and development programs, excluding generic programs.

Research and development expenses were as follows:

Three Months Ended March 31, 2014 2013

(in thousands)

$ 79 $ 105

R&D expense for the three months ended March 31, 2014 decreased from amounts recognized in the same period in the prior year as a result of our continued strategic decision to limit our R&D activities as described above.

We currently expect 2014 R&D expense to increase slightly from amounts recognized in 2013 relating primarily to developing new niche generic products and improving process efficiencies in our manufacturing plants.

Selling, general and administrative

Selling, general and administrative ("SG&A") expenses consist of compensation and related fringe benefits for sales, marketing, operational and administrative employees, professional service fees, marketing costs and costs related to facilities and information services. SG&A expenses were as follows:

Three Months Ended March 31, 2014 2013

(in thousands)

$ 10,629 $ 9,549

The increase in SG&A for the three months ended March 31, 2014 is primarily due to executive transition costs and acquisitions costs for the Cedarburg Pharmaceuticals' acquisition.

We currently expect SG&A expenses for full year 2014 to increase from amounts recognized in 2013 due to investments made to grow the business, including incremental SG&A costs associated with Cedarburg Pharmaceuticals expected to begin in the second quarter of 2014.

Postretirement benefit plan settlement gain

Three Months Ended March 31, 2014 2013

(in thousands)

$ (1,285 ) $ -

In the first quarter of 2014, we recognized a gain on settlement of post-retirement liability of $1.3 million.

Restructuring

Three Months Ended March 31,
2014 2013
(in thousands)

$ 230 $ 879

During the first quarter of 2014, we recorded restructuring charges of $0.2 million primarily related to the administrative costs associated with finalizing the closure of our Hungarian legal entity.

During the first quarter of 2013, we recorded $0.9 million of restructuring charges primarily related to the closure of our Bothell, WA facility.

Property and Equipment Impairment

Three Months Ended March 31,
2014 2013
(in thousands)

$ - $ 534

In the first quarter of 2013, we recorded property and equipment impairment charges of $0.5 million in our DDS segment associated with the Company's decision to cease operations at our Bothell, Washington facility. There were no similar charges taken in the first quarter of 2014.

Interest expense, net

                          Three Months Ended March 31,
(in thousands)               2014                2013

Interest expense        $        (2,619 )     $      (138 )
Interest income                       3                 1
Interest expense, net   $        (2,616 )     $      (137 )

Net interest expense increased for the three months ended March 31, 2014 from the same period in 2013 primarily due to interest on our convertible senior debt entered into in the fourth quarter of 2013.

Other (expense) income, net

Three Months Ended March 31, 2014 2013

(in thousands)

$ (40 ) $ 507

Other expense for the three months ended March 31, 2014 was primarily due to rates associated with foreign currency transactions.

Other income for the three months ended March 31, 2013 was primarily related to an insurance demutualization gain of $0.4 million.

Income tax expense

Three Months Ended March 31, 2014 2013

(in thousands)

$ 1,309 $ 3,268

Income tax expense for the three months ended March 31, 2014 decreased as compared to the same period in prior year due to a decrease in pre-tax income at the Company's U.S. locations.

Liquidity and Capital Resources

We have historically funded our business through operating cash flows and proceeds from borrowings. During the first quarter of 2014, we used cash of $8.1 million in operating activities which was primarily driven by the manufacturing of inventory for future customer orders, an increase in customer receivables due to the timing of invoicing and cash collections within the quarter, and the payment of accounts payable and other accrued liabilities during the quarter.

During the first quarter of 2014, cash used in investing activities was $3.1 million, resulting primarily from the acquisition of property and equipment. Additionally, during the first quarter of 2014, we generated cash of $1.5 million from financing activities, relating primarily to stock option exercises and ESPP purchases, offset in part by repurchases of treasury stock, and payments made on our credit facilities.

Working capital, defined as current assets less current liabilities, was $241.4 million at March 31, 2014 as compared to $235.1 million as of December 31, 2013. This increase primarily relates to increases in accounts receivable, inventory and royalty receivables.

In December 2013, we issued $150 million of 2.25% Cash Convertible Senior Notes (the "Notes"), which generated net proceeds of $134.8 million, which includes the associated warrants, convertible note hedges and bank fees. In connection with the offering of these notes, we entered into convertible note hedging transactions with two counterparties. We also entered into warrant transactions in which we sold warrants of our common stock to the counterparties. We paid the counterparties approximately $33.6 million for the convertible note hedge and received approximately $23.1 million from the counterparties for the warrants. See Note 4 for additional information regarding these transactions.

In April 2012, the Company entered into a $20.0 million credit facility consisting of a 4-year, $5.0 million term loan and a $15.0 million revolving line of credit. The Company used a portion of the initial proceeds from borrowings against the term loan to repay all amounts due under its prior credit agreement. As of March 31, 2014, the Company had no amounts outstanding under the line of credit and $5.8 million of outstanding letters of credit secured by this line of credit. The amount available to be borrowed under the revolving line of credit at March 31, 2014 was $9.2 million.

Under the terms of the April 2012 credit agreement, the Company is required to maintain a $5.0 million restricted cash balance to partially collateralize the revolving line of credit. In conjunction with an amendment to the credit agreement dated December 20, 2012, the restricted cash requirement is directly reduced by the amount of principal payments made on the term loan which began in May 2013. The amount of restricted cash collateralizing the revolving line of credit was $4.3 million at March 31, 2014.

In April 2014, the Company utilized the balance of restricted cash to pay off the balance of the term loan, thereby eliminating both the term loan liability and releasing the restricted cash. The Company continues to maintain the $15.0 million revolving line of credit component and the outstanding letters of credit secured by this line.

Borrowings under this agreement bear interest at a fluctuating rate equal to:
(i) in the case of the term loan, the sum of (a) an interest rate equal to daily three month LIBOR, plus (b) 3.25%; and (ii) in the case of advances under the revolving line of credit, the sum of (a) an interest rate equal to daily three month LIBOR, plus (b) 2.75%. As of March 31, 2014, the interest rate on the outstanding term loan was 3.5%.

The credit facility contains financial covenants, including a minimum fixed charge coverage ratio commencing in 2013 and extending for the remaining term of the agreement, maximum quarterly and year-to-date capital expenditures, minimum monthly domestic unrestricted cash and maximum average monthly cash reserves held at international locations. As of March 31, 2014, the Company was in compliance with its current financial covenants and the $15.0 million revolving line of credit remains available under the terms of the aforementioned credit agreement.

The disclosure of payments we have committed to make under our contractual obligations is set forth under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources" under Item 7 of our Annual Report on Form 10-K for the fiscal year . . .

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