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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

(Mark One)

 

 

For the transition period from __________ to _________

 

Commission File Number 000-25434

 

BROOKS AUTOMATION, INC.

(Exact name of registrant as specified in its charter)

 

 

 

15 Elizabeth Drive

Chelmsford, Massachusetts

(Address of principal executive offices)

01824

(Zip Code)

Registrant’s telephone number, including area code: (978) 262-2400

 

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 and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ☒    No  ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth 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:

 

 

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  ☒

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date, April 26, 2018: common stock, $0.01 par value and 70,539,856 shares outstanding.

 

 

 

BROOKS AUTOMATION, INC.

Table of Contents

 

PART I. FINANCIAL INFORMATION

Item 1. Consolidated Financial Statements

BROOKS AUTOMATION, INC.

CONSOLIDATED BALANCE SHEETS

(unaudited)

(In thousands, except share and per share data)

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

BROOKS AUTOMATION, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(unaudited)

(In thousands, except per share data)

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

BROOKS AUTOMATION, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited)

(In thousands)

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

BROOKS AUTOMATION, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

(In thousands)

 

The accompanying notes are an integral part of these unaudited consolidated financial statements.

 

BROOKS AUTOMATION, INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (unaudited)

1. Basis of Presentation

The unaudited consolidated financial statements of Brooks Automation, Inc. and its subsidiaries (“Brooks”, or the “Company”) included herein have been prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). All intercompany accounts and transactions have been eliminated in consolidation. In the opinion of management, all material adjustments, which are of a normal and recurring nature and necessary for a fair statement of the financial position and results of operations and cash flows for the periods presented, have been reflected in the accompanying unaudited consolidated financial statements. The results of operations for the interim periods are not necessarily indicative of the results of operations to be expected for the full fiscal year.

Certain information and footnote disclosures normally included in the Company’s annual consolidated financial statements have been condensed or omitted and, accordingly, the accompanying financial information should be read in conjunction with the audited consolidated financial statements and notes thereto contained in the Company’s Annual Report on Form 10‑K filed with the United States Securities and Exchange Commission (the “SEC”) for the fiscal year ended September 30, 2017 (the "2017 Annual Report on Form 10‑K"). The accompanying Consolidated Balance Sheet as of September 30, 2017 was derived from the audited annual consolidated financial statements as of the period then ended.

2. Summary of Significant Accounting Policies

Use of Estimates

The preparation of unaudited consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the unaudited consolidated financial statements and the reported amounts of revenue and expenses during the reporting period. Significant estimates are associated with accounts receivable, inventories, goodwill, intangible assets other than goodwill, long-lived assets, derivative financial instruments, deferred income taxes, warranty obligations, revenue recognized using the percentage of completion method, pension obligations and stock-based compensation expense. The Company bases its estimates on historical experience and various other assumptions, including in certain circumstances, future projections that management believes to be reasonable under the circumstances. Although the Company regularly assesses these estimates, actual results could differ from those estimates. Changes in estimates are recorded in the period in which they occur and become known.

Foreign Currency Translation

Certain transactions of the Company and its subsidiaries are denominated in currencies other than their functional currency.

Foreign currency exchange losses generated from the settlement and remeasurement of these transactions are recognized in earnings and presented within “Other expenses, net” in the Company’s unaudited Consolidated Statements of Operations. Net foreign currency transaction and remeasurement losses totaled $0.5 million and $0.4 million, respectively, during the three months ended March 31, 2018 and 2017 and $2.5 million and $1.0 million, respectively, during the six months ended March 31, 2018 and 2017.

Derivative Instruments

The Company has transactions and balances denominated in currencies other than the U.S. dollar. Most of these transactions or balances are denominated in Euros, British Pounds and a variety of Asian currencies. The Company enters into foreign exchange contracts to reduce its exposure to currency fluctuations. The forward contract arrangements that the Company enters into typically mature in three months or less. These transactions do not qualify for hedge accounting. Net gains and losses related to these contracts are recorded as a component of "Other expenses, net"

in the accompanying unaudited Consolidated Statements of Operations and are as follows for the three and six months ended March 31, 2018 and 2017 (in thousands):

 

The fair values of the forward contracts are recorded in the Company’s accompanying unaudited Consolidated Balance Sheets as "Prepaid expenses and other current assets" and "Accrued expenses and other current liabilities". Foreign exchange contract assets and liabilities are measured and reported at fair value based on observable market inputs and classified within Level 2 of the fair value hierarchy due to a lack of an active market for these contracts.

Fair Value Measurements

The Company measures at fair value certain financial assets and liabilities, including cash equivalants and available for sale securities. FASB Accounring Standards Codification (“the ASC”) 820, Fair Value Measurement and Disclosures, establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The following levels of inputs may be used to measure fair value:

Level 1 Inputs: Quoted prices in active markets for identical assets or liabilities as of the reporting date. Active markets are those in which transactions for the asset and liability occur in sufficient frequency and volume to provide pricing information on an ongoing basis.

Level 2 Inputs: Observable inputs other than prices included in Level 1, including quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 Inputs: Unobservable inputs that are significant to the fair value of the assets or liabilities and reflect an entity’s own assumptions in pricing assets or liabilities since they are supported by little or no market activity.

As of March 31, 2018, the Company had no assets or liabilities measured and recorded at fair value on a recurring basis using Level 3 inputs.

Recently Issued Accounting Pronouncements

In March 2018, the FASB issued ASU No. 2018-02, Reclassification of Certain Tax Effects from Accumulated Other Comprehensive Income, an amendment of the FASB Accounting Standards Codification. This ASU gives entities the option to reclassify tax effects stranded in accumulated other comprehensive income as a result of tax reform to retained earnings. The entities have the option to apply the guidance retrospectively or in the period of adoption. The guidance requires entities to make new disclosures, regardless of whether they elect to reclassify tax effects.  The guidance is effective for fiscal years beginning after December 15 2018, and interim periods within those fiscal years. Early adoption in any period is permitted.  The Company expects to adopt the guidance during the first quarter of fiscal year 2020 and is evaluating the effect that ASU 2018-02 will have on our consolidated financial statements and related disclosures.

In February 2016, the FASB issued new accounting guidance for reporting lease transactions. In accordance with the provisions of the newly issued guidance, a lessee should recognize at the inception of the arrangement a right-of-use asset and a corresponding lease liability initially measured at the present value of lease payments over the lease term. For finance leases, interest on a lease liability should be recognized separately from the amortization of the right-of-use asset, while for operating leases, total lease costs are recorded on a straight-line basis over the lease term. For leases with a term of twelve months or less, a lessee is permitted to make an accounting policy election by class of underlying assets

to forgo a recognition of right-of-use assets and corresponding lease liabilities and record a lease expense on a straight-line basis. Entities should determine at the inception of the arrangement whether a contract represents a lease or contains a lease which is defined as a right to control the use of identified property for a period of time in exchange for consideration. Additionally, entities should separate the lease components from the non-lease components and allocate the contract consideration on a relative standalone price basis in accordance with provisions of ASC Topic 606, Revenue from Contracts with Customers. The guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018 and should be adopted via a modified retrospective approach with certain optional practical expedients that entities may elect to apply. The Company expects to adopt the guidance during the first quarter of fiscal year 2020 and is currently evaluating the impact of this guidance on its financial position and results of operations.

In June 2016, the FASB issued new accounting guidance for reporting credit losses. The new guidance introduces a new "expected loss" impairment model that applies to most financial assets measured at amortized cost and certain other instruments, including trade and other receivables, loans, held-to-maturity debt securities and other financial assets. Entities are required to estimate expected credit losses over the life of financial assets and record an allowance against the assets’ amortized cost basis to present them at the amount expected to be collected. Additionally, the guidance amends the impairment model for available for sale debt securities and requires entities to determine whether all or a portion of the unrealized loss on such debt security is a credit loss. The guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2019. Early adoption of the newly issued guidance is permitted for fiscal years, and interim periods within those years, beginning after December 15, 2018. The standard should be applied as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is effective. The Company expects to adopt the guidance during the first quarter of fiscal year 2021 and is currently evaluating the impact of this guidance on its financial position and results of operations.

In May 2014, the FASB issued new accounting guidance for reporting revenue recognition. The guidance provides for the recognition of revenue when promised goods or services are transferred to customers in an amount that reflects the consideration that is expected to be received for those goods or services. The Company expects to adopt the guidance during the first quarter of fiscal year 2019. The Company has initiated the evaluation of the potential impact of adopting the new guidance on its financial position and results of operations, but has not yet completed such assessment or determined the transition method that will be used to adopt the new guidance. The Company has established an implementation team to analyze its current portfolio of customer contracts and determine the impact of adopting the guidance. The implementation team is also responsible for evaluating and designing the necessary changes to the Company’s business processes, policies, systems and controls to support recognition and disclosure under the new guidance. The Company has established a project plan and substantially completed its preliminary contract assessment. The results of this assessment are currently being analyzed to determine the final impact of adoption on the Company’s operations, consolidated financial statements, and related disclosures. The Company is currently in the process of completing this assessment and quantifying the implications of the new guidance adoption. Based on the preliminary assessment, the Company anticipates that  the new guidance will impact the timing of revenue recognition for a portion of its life science revenue which is currently accounted for under the percentage of completion method. The Company may be required to recognize revenue for a portion of these arrangements at the point in time it satisfies performance obligations by transferring control over promised deliverables to customers in accordance with the contractual terms of each arrangement. Additionally, revenue generated from the sale of perpetual or term licenses may be required to be recognized at the point in time control is transferred to customers upon license delivery.

Other

For further information with regard to the Company’s Significant Accounting Policies, please refer to Note 2 "Summary of Significant Accounting Policies" to the Company’s consolidated financial statements included in the 2017 Annual Report on Form 10‑K.

 

3. Marketable Securities

The Company invests in marketable securities that are classified as available-for-sale and records them at fair value in the Company’s unaudited Consolidated Balance Sheets. Marketable securities reported as current assets represent

investments that mature within one year from the balance sheet date. Long-term marketable securities represent investments with maturity dates greater than one year from the balance sheet date. The securities are valued using matrix pricing and benchmarking and classified within Level 2 of the fair value hierarchy because they are not actively traded. Matrix pricing is a mathematical technique used to value securities by relying on the securities’ relationship to other benchmark quoted prices.

The following is a summary of the amortized cost and the fair value, including accrued interest receivable, as well as unrealized holding gains (losses) on the short-term and long-term marketable securities as of March 31, 2018 and September 30, 2017 (in thousands):

 

The fair values of the marketable securities by contractual maturities at March 31, 2018 are presented below (in thousands):

 

Expected maturities could differ from contractual maturities because the security issuers may have the right to prepay obligations without prepayment penalties.

The Company reviews the marketable securities for impairment at each reporting period to determine if any of the securities have experienced an other-than-temporary decline in fair value. The Company considers factors, such as the length of time and extent to which the market value has been less than the cost, the financial condition and near-term prospects of the issuer, the Company’s intent to sell, or whether it is more likely than not it will be required to sell the investment before recovery of its amortized cost basis. If the Company believes that an other-than-temporary decline in fair value has occurred, it writes down the investment to its fair value and recognizes the credit loss in earnings and the non-credit loss in accumulated other comprehensive income or loss. As of March 31, 2018, the aggregate fair value of the marketable securities in an unrealized loss position was $39.7 million and was comprised of U.S. Treasury securities and obligations of U.S. government agencies, U.S. corporate securities, municipal securities and bank certificates of deposits. There were no marketable securities in an unrealized loss position as of September 30, 2017.

 

Cash equivalents of $51.2 million and less than $0.1 million, respectively, at March 31, 2018 and September 30, 2017 consist of money market funds and are classified within Level 1 of fair value hierarchy because they are valued using quoted market prices in active markets. Cash equivalents of $0.5 million and less than $0.1 million, respectively at

March 31, 2018 and September 30, 2017 consist primarily of bank certificates of deposits with original maturities of less than 90 days and are classified within Level 2 of the fair value hierarchy because they are not actively traded.

 

4. Acquisitions

Acquisitions Completed in Fiscal Year 2018

Acquisition of 4titude Limited

On October 5, 2017, the Company acquired all of the outstanding capital stock of 4titude Limited (“4titude”), a U.K.-based manufacturer of scientific consumables for biological sample materials used in a variety of genomic and DNA analytical applications. The acquisition of 4titude will expand the Company’s existing offerings of consumables and instruments within the Brooks Life Sciences segment. The aggregate purchase price of $65.1 million, net of cash acquired, consisted primarily of a cash payment of $64.8 million subject to working capital adjustments and the assumption of the seller’s liabilities of $0.4 million.

The Company used a market participant approach to record the assets acquired and liabilities assumed in the 4titude acquisition. The purchase price allocation is based on a preliminary valuation and is subject to further adjustments within the measurement period as additional information becomes available related to the fair value of such assets acquired and liabilities assumed. The Company will refine such fair value estimates as new information becomes available during the measurement period. Any adjustments to the purchase price allocation will be made as soon as practicable but no later than one year from the acquisition date.

The preliminary amounts recorded were as follows (in thousands):

 

Fair values of intangible assets acquired consisted of customer relationships of $21.4 million, completed technology of $5.2 million, backlog of $0.4 million and trademarks of $0.2 million. The Company used the income approach in accordance with the excess-earnings method to estimate the fair values of customer relationships, backlog and trademarks equal to the present value of the after-tax cash flows attributable to each intangible asset. The Company used the income approach in accordance with the relief-from-royalty method to estimate the fair value of the completed technology which is equal to the present value of the after-tax royalty savings attributable to owning that intangible asset. The weighted average amortization periods for intangible assets acquired are 13 years for completed technology, 10 years for customer relationship intangible assets, 1 year for backlog and 1 year for trademarks. The intangible assets acquired are amortized over the total weighted average period of 10.4 years using methods that approximate the pattern in which the economic benefits are expected to be realized.

At the closing of the acquisition of 4titude, a cash payment of $0.4 million was placed into escrow which was ascribed to the purchase price. The escrow was related to potential working capital adjustments and the sellers’ satisfaction of general representations and warranties. The escrow balance was $0.2 million as of March 31, 2018.

Goodwill represents the excess of the consideration paid over the fair value of the net assets acquired and has been assigned to the Brooks Life Sciences segment. Goodwill is primarily the result of expected synergies from combining the operations of 4titude with the Company’s operations and is not deductible for tax purposes.

The operating results of 4titude have been reflected in the results of operations for the Brooks Life Sciences segment from the date of the acquisition, which included approximately six months of activity during the first two quarter of fiscal year 2018. During the three months ended March 31, 2018, revenue and net loss from 4titude recognized in the Company’s results of operations were $4.3 million and less than $0.1 million, respectively. During the six months ended March 31, 2018, revenue and net loss from 4titude recognized in the Company’s results of operations were $7.8 million and $1.2 million, respectively. During the six months ended March 31, 2018, the net loss included non-recurring charges of $1.2 million related to the step-up in value of the acquired inventories. During the three and six months ended March 31, 2018, the net loss included recurring charges of $1.0 million and $2.1 million, respectively,  related to amortization expense of acquired intangible assets.

During the three and six months ended March 31, 2018, the Company incurred $0.5 million and $1.0 million, respectively, in non-recurring transaction costs with respect to the 4titude acquisition which were recorded in "Selling, general and administrative" expenses within the accompanying unaudited Consolidated Statements of Operations.

The Company did not present a pro forma information summary for its consolidated results of operations for the three and six months ended March 31, 2018 and 2017 as if the acquisition of 4titude occurred on October 1, 2016 because such results were immaterial.

Acquisitions Completed in Fiscal Year 2017

Acquisition of Pacific Bio-Material Management, Inc. and Novare, LLC

On July 5, 2017, the Company entered into an asset purchase agreement with Pacific Bio-Material Management, Inc. (“PBMMI”) and Novare, LLC, a wholly owned subsidiary of PBMMI (collectively, the “sellers”), pursuant to which the Company acquired substantially all of the assets and liabilities of the sellers’ business related to providing storage, transportation, management, and cold chain logistics of biological materials. The Company paid to the sellers cash consideration of $34.3 million, net of cash acquired and subject to working capital adjustments. As of December 31, 2017, the purchase price allocation is based on a preliminary valuation and subject to further adjustments when the Company obtains additional information during the measurement period.

At the closing of the acquisition of PBMMI, a cash payment of $3.3 million was placed into escrow which was ascribed to the purchase price. The escrow balance of $3.3 million included $2.9 million related to satisfaction of the sellers' indemnification obligations with respect to their representations and warranties and other indemnities, as well as $0.4 million payable to the former owner of Novare as a compensation for a sale of his ownership interest. This escrow arrangement is administered by the Company on behalf of the sellers. As of March 31, 2018, the escrow balance related to satisfaction of the sellers' indemnification obligations was $2.7 million, and the Novare escrow balance had been released.

The operating results of PBMMI have been reflected in the results of operations for the Brooks Life Sciences segment from the date of the acquisition. During the three months ended March 31, 2018, revenue and net loss from PBMMI recognized in the Company’s results of operations were $2.5 million and less than $0.1 million, respectively. During the six months ended March 31, 2018, revenue and net loss from PBMMI recognized in the Company’s results of operations were $4.8 million and $0.1 million, respectively. During the three and six months ended March 31, 2018, the net loss included recurring charges of $0.4 million and $0.8 million, respectively, related to amortization expense of acquired intangible assets. Please refer to Note 3, "Acquisitions" to the Company's consolidated financial statements included in the 2017 Annual Report on Form 10-K for further information on PBMMI acquisition.

Acquisition of Cool Lab, LLC

On November 28, 2016, the Company acquired 100% of the equity of Cool Lab, LLC ("Cool Lab") from BioCision, LLC ("BioCision"). The Company held a 20% equity ownership interest in BioCision prior to the acquisition. The Company used a market participant approach to record the assets acquired and liabilities assumed in the Cool Lab acquisition. The purchase price allocation were finalized as of March 31, 2018. Please refer to Note 3, “Acquisitions” to the Company’s consolidated financial statements included in the 2017 Annual Report on Form 10-K for further information on this transaction.

The Company recorded a liability of $0.7 million in the purchase price allocation that represented a preacquisition contingency incurred on the acquisition date. The obligation is related to a rebate that is due to a particular customer if the annual product sales volume metrics exceed threshold amounts under the provisions of the contract assumed by the Company. Fair value of such liability was determined based on a probability weighted discounted cash flow model. The carrying amount of the liability was $0.8 million and $0.7 million, respectively, at March 31, 2018 and September 30, 2017.

The operating results of Cool Lab have been reflected in the results of operations for the Brooks Life Sciences segment from the date of the acquisition, which included approximately one month of activity during the first quarter of fiscal year 2017. During the three months ended March 31, 2018, revenue and net loss from Cool Lab recognized in the Company’s results of operations were $0.6 million and $0.2 million, respectively. During the six months ended March 31, 2018, revenue and net loss from Cool Lab recognized in the Company’s results of operations were $1.6 million and $0.2 million, respectively. During the three and six months ended March 31, 2018, the net loss included recurring charges of $0.4 million and $0.8 million, respectively, related to amortization expense of acquired intangible assets.

 

5. Goodwill and Intangible Assets

Goodwill represents the excess of net book value over the estimated fair value of net tangible and identifiable intangible assets of a reporting unit. Goodwill is tested for impairment annually or more often if impairment indicators are present at the reporting unit level. The Company elected April 1 as its annual goodwill impairment assessment date and performs additional impairment tests if triggering events occur. If events occur or circumstances change that would more likely than not reduce fair values of the reporting units below their carrying values, goodwill will be evaluated for impairment between annual tests. No triggering events indicating goodwill impairment occurred during the six months ended March 31, 2018. Please refer to Note 6, "Goodwill and Intangible Assets" to the Company's consolidated financial statements included in the 2017 Annual Report on Form 10-K for further information on the goodwill impairment testing performed during fiscal year 2017.

The components of the Company’s goodwill by operating segment at March 31, 2018 and September 30, 2017 are as follows (in thousands):

 

During the six months ended March 31, 2018, the Company recorded a goodwill increase of $41.6 million primarily related to the acquisition of 4titude which represented the excess of the consideration transferred over the fair value of the net assets acquired. Please refer to the Note 4 "Acquisitions" for further information on this transaction.

The components of the Company’s identifiable intangible assets as of March 31, 2018 and September 30, 2017 are as follows (in thousands):

 

Amortization expense for intangible assets was $11.1 million and $8.4 million, respectively, during the six months ended March 31, 2018 and 2017.

Estimated future amortization expense for the intangible assets for the remainder of fiscal year 2018 and the subsequent four fiscal years is as follows (in thousands):

 

 

6. Equity Method Investments

The Company accounts for certain of its investments using the equity method of accounting and records its proportionate share of the investee’s earnings  in its results of operations with a corresponding increase in the carrying value of the investment.

ULVAC Cryogenics, Inc.

The Company and ULVAC Corporation of Chigasaki, Japan each own a 50% stake in the joint venture, ULVAC Cryogenics, Inc (“UCI”). UCI manufactures and sells cryogenic vacuum pumps, principally to ULVAC Corporation.

The carrying value of the investment in UCI was $35.1 million and $28.6 million, respectively, at March 31, 2018 and September 30, 2017. During the three months ended March 31, 2018 and 2017, the Company recorded income of $1.4 million and $2.8 million, respectively, representing its proportionate share of UCI’s earnings. During the six months ended March 31, 2018 and 2017, the Company recorded income of $3.6 million and $5.2 million, respectively, representing its proportionate share of UCI’s earnings. Management fee payments received by the Company from UCI were $0.3 million and $0.2 million during the three months ended March 31, 2018 and 2017. Management fee payments received by the Company from UCI were $0.5 million during each of the six months ended March 31, 2018 and 2017.

 

7. Line of Credit

The Company maintains a revolving line of credit with Wells Fargo Bank, N.A. and JPMorgan Chase Bank, N.A that provides for revolving credit financing of up to $75.0 million, subject to borrowing base availability, as defined in

the line of credit agreement. The line of credit matures on October 4, 2022 and expires no less than 90 days prior to the term loan expiration. The proceeds from the line of credit are available for permitted acquisitions and general corporate purposes.

 

On October 4, 2017, the Company entered into a $200.0 million Senior Secured Term Loan Facility (the “term loan”) with Morgan Stanley Senior Funding, Inc., JPMorgan Chase Bank, N.A. and Wells Fargo Securities, LLC (collectively, the “lenders”). Coincident with the entry into the term loan agreement, the Company amended certain terms and conditions of the credit agreement and entered into an arrangement with Wells Fargo Bank, N.A. and JPMorgan Chase Bank, N.A. Based on the amended terms of the credit agreement, the line of credit continues to provide for revolving credit financing of up to $75.0 million, subject to borrowing base availability. Borrowing base availability under the amended line of credit excludes collateral related to fixed assets and is redetermined periodically based on certain percentage of certain eligible U.S. assets, including accounts receivable and inventory. The sublimits for letters of credit were reduced to $7.5 million under the amended terms of the credit agreement. All outstanding borrowings under the credit agreement are guaranteed by the Company and BioStorage Technologies, Inc., its wholly-owned subsidiary (“guarantor”), and subordinated to the obligations under the term loan which are secured by a first priority lien on substantially all of the assets of the Company and the guarantor, other than accounts receivable and inventory. Please refer to Note 8, “Debt”, for further information on the term loan transaction.  

There were no amounts outstanding under the line of credit as of  March 31, 2018 and September 30, 2017. The Company records commitment fees and other costs directly associated with obtaining line of credit financing as deferred financing costs which are presented within "Other assets" in the accompanying unaudited Consolidated Balance Sheets. At March 31, 2018 and September 30, 2017, deferred financing costs were $0.6 million and $0.5 million, respectively. Such costs are amortized over the term of the related financing arrangement and are included in “Interest expense” in the accompanying unaudited Consolidated Statements of Operations. The line of credit contains certain customary representations and warranties, a financial covenant, affirmative and negative covenants, as well as events of default. The Company was in compliance with the line of credit covenants as of March 31, 2018  and September 30, 2017.

 

8. Debt

On October 4, 2017, the Company entered into a $200.0 million term loan with the lenders. The term loan was issued at $197.6 million, or 98.8% of its par value, resulting in a discount of $2.4 million, or 1.2%, which represented loan origination fees paid at the closing. The Company incurred additional deferred financing costs of $0.4 million during the six months ended March 31, 2018. The loan proceeds are to be used for general corporate purposes, including acquisitions. The loan principal amount may be increased by an aggregate amount equal to $75.0 million plus any voluntary repayments of the term loans plus any additional amount such that the secured leverage ratio of the Company is less than 3.00 to 1.00. 

Under the terms of the term loan agreement, the Company may elect for the loan to bear an interest rate as Eurodollar Borrowings or as Alternate Base Rate, or ABR Borrowings. Interest applicable to Eurodollar Borrowings is based on the Adjusted LIBO Rate plus applicable margin of 2.50%. The Adjusted LIBO Rate is the rate appearing on Bloomberg screen LIBOR01 which gets reset at the beginning of each selected interest period based on the LIBOR rate then in effect. Interest applicable to ABR Borrowings is based on the Alternate Base Rate plus applicable margin of 1.50%. Alternate Base Rate is determined based on the highest of: (a) the federal funds effective rate plus 0.50%, (b) prime rate plus 1.00%, or (c) one-month LIBOR rate plus 1.00%.

The Company’s obligations under the term loan are also guaranteed by BioStorage Technologies, Inc. as the guarantor, subject to the terms and conditions of the term loan agreement. The Company and the guarantor granted the lenders a perfected first priority security interest in substantially all of the assets of the Company and the guarantor to secure the repayment of the term loan.

The term loan matures and becomes fully payable on October 4, 2024. The principal is payable in installments equal to 0.25% of the initial principal amount of the term loans on March 31st, June 30th, September 30th and December 31st of each year, commencing on March 31,2018, with any remaining amount of principal becoming due and payable on the maturity date. All accrued and unpaid interest on Borrowings shall be due on the last day of each interest period elected

by the Company for such Borrowings, except for interest periods of more than three months in which case all accrued and unpaid interest shall be due and payable every three months.

Subject to certain conditions stated in the term loan agreement, the Company may redeem the term loan at any time at its option without a significant premium or penalty, except for a repricing transaction, as defined in the term loan agreement. The Company would be required to redeem the term loan at the principal amount then outstanding upon occurrence of certain events, including (i) net proceeds received from the sale or other disposition of the Company’s or guarantor’ assets, subject to certain limitations, (ii) casualty and condemnation proceeds received by the Company or the guarantor, subject to certain exceptions, (iii) net proceeds received by the Company or the guarantor from the issuance of debt or disqualified capital stock after October 4, 2017. Commencing on December 31, 2018, the Company will be required to make principal payments equal to the excess cash flow amount, as defined in the term loan agreement. Such prepayments are equal to 50% of the preceding year excess cash flow amount reduced by voluntary prepayments of the term loan, subject to certain limitations.

The Company records commitment fees and other costs directly associated with obtaining term loan financing as deferred financing costs which are presented as a reduction of the term loan principal balance in the accompanying unaudited Consolidated Balance Sheets. Such costs are accreted over the term of the loan using the effective interest rate method and are included in “Interest expense” in the accompanying unaudited Consolidated Statements of Operations. At March 31, 2018, deferred financing costs were $2.6 million.

During the six months ended March 31, 2018, the weighted average stated interest rate paid on the term loan was 4%. During the six months ended March 31, 2018, the Company incurred aggregate interest expense of $4.2 million in connection with the term loan borrowings, which included $0.2 million of deferred financing costs amortization.

The term loan agreement contains certain customary representations and warranties, covenants and events of default. If any of the events of default occur and are not waived or cured within applicable grace periods, any unpaid amounts under the term loan agreement will bear an annual interest rate at 2.00% above the rate otherwise applicable under the terms and conditions of such agreement. The term loan agreement does not contain financial maintenance covenants. As of March 31, 2018, the Company was in compliance with all covenants and conditions under the term loan agreement.

The following are the future minimum principal payment obligations under the term loan as of March 31, 2018:

 

As of March 31, 2018, estimated fair value of the term loan outstanding principal balance approximates its carrying value. The fair value was determined based on observable market inputs and classified within Level 2 of fair value hierarchy due to a lack of an active market for this term loan or a similar loan instrument.

9. Income Taxes

The Company recorded an income tax benefit of $43.9 million and $41.0 million, respectively, during the three and six months ended March 31, 2018. The tax benefit recorded during each period was primarily driven by a discrete

benefit due to the reversal of a valuation allowance against U.S. net deferred tax assets during the three months ended March 31, 2018 in the amount of $46.2 million. The tax benefit for the six months ended March 31, 2018 included $0.7 million of tax benefits related to the re-measurement of net U.S. deferred tax liabilities to account for the reduced 21 percent statutory federal income tax rate. This benefit for the three and six months ended March 31, 2018 was partially offset by the tax provisions related to foreign income. 

The Company recorded an income tax provision of $3.4 million and $6.2 million, respectively, during the three and six months ended March 31, 2017. The provision recorded during each period was primarily driven by foreign income. Tax provision during the six months ended March 31, 2017 was partially offset by $0.7 million of tax benefits related to the reduction of reserves for unrecognized tax benefits resulting from the expiration of statutes of limitations.

The Company evaluates the realizability of its deferred tax assets by tax-paying component and assesses the need for a valuation allowance on a quarterly basis, considering the weight of both positive and negative evidence in making the assessment. The Company evaluates the profitability of each tax-paying component on a historic cumulative basis and forward looking basis, tax-planning strategies and the length of credit and loss carryforward periods, among other factors, in the course of performing this analysis.  As of March 31, 2018, the Company has concluded that it is more likely than not that a substantial portion of its U.S. deferred tax assets will be realized, with the exception of certain state tax carryforwards.  The Company considered strong positive evidence of historical cumulative profitability and projected future taxable income. In the quarter ended March 31, 2018 the Company reached a significant level of cumulative profitability in the U.S. coupled with an improved future outlook of U.S. earnings in both segments.    

During the first quarter of fiscal year 2018, the Company adopted the Accounting Standard Update (“ASU”) 2016-09, Compensation-Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. Upon adoption of ASU 2016-09, the Company amends the accounting for employee share-based payment transactions to recognize tax effects resulting from the settlement of stock-based awards as income tax expense or benefit in the income statement in the reporting period in which they occur. Adoption of this ASU required recognition of a cumulative effect adjustment to retained earnings in connection with the establishment of a deferred tax asset for any prior year net excess tax benefits or tax deficiencies not previously recorded. This adjustment resulted in a $4.0 million increase to retained earnings and deferred tax asset for net prior year excess tax benefits, with a corresponding decrease to retained earnings for the establishment of valuation allowance against the deferred tax asset. This increase to the valuation allowance was subsequently part of the valuation allowance reversal during the second quarter of fiscal year 2018.

During the first quarter of fiscal year 2018, the Tax Cuts and Jobs Act (“Tax Reform”) was enacted in the U.S., making significant tax law changes affecting the Company. The SEC has issued Staff Accounting Bulletin 118 (“SAB 118”), which has provided guidance for companies that have not completed the accounting for the income tax effects of Tax Reform.  Under SAB 118, a company may report provisional amounts based on reasonable estimates where the accounting is incomplete. These amounts are subject to adjustments during a measurement period of up to one year beginning in the reporting period of the enactment date.

Upon the enactment of Tax Reform, the Company is subject to a toll charge in the U.S. on its previously untaxed accumulated foreign earnings.  The toll charge is treated as an inclusion of the Company’s accumulated foreign earnings in U.S. taxable income during the tax year ended September 30, 2018. Any taxes due associated with the toll charge will be payable over an eight year period. The Company has estimated that its accumulated foreign earnings are $120.0 million which is a provisional amount subject to the measurement period described in Staff Accounting Bulletin 118. There are still incomplete components related to the accumulated foreign earnings calculations for older tax years that require additional time to complete the calculations. The Company also has a history of foreign mergers and acquisitions and proper determination of the impact on the accumulated earnings is complex. The Company has estimated a $5.2 million toll charge associated with the taxable foreign earnings, net of foreign tax credits associated with the earnings subject to the toll tax. The Company did not record any provision for currently estimated tax associated with the toll charge as sufficient previously un-benefited tax attributes with valuation allowances existed to offset the resulting tax during the quarter of enactment of the tax law, however, the toll charge reduced the impact of the valuation allowance reversal.  

As a result of Tax Reform, the Company calculated its U.S. tax provision for the three and six months ended March 31, 2018 using a blended U.S. statutory tax rate of 24.5% which is a prorated allocation of the 35% rate which was in effect prior to Tax Reform through December 31, 2017 and the 21% rate which will be in effect for the remainder of the fiscal year. The Company recorded a discrete benefit of $0.7 million in the six months ended March 31, 2018 due to the impact of the U.S. rate change on its net U.S. deferred tax liabilities.

As of March 31, 2018, the Company maintains its indefinite reinvestment assertion on foreign earnings. The Company is continuing to evaluated the impact of Tax Reform on its reinvestment plans, as the accounting for Tax Reform is completed during the measurement period described in SAB 118.  While the toll charge is a forced deemed repatriation of foreign earnings and an inclusion in U.S. federal taxable income, there are still additional costs of repatriating the foreign earnings such as foreign withholding taxes and state taxes. 

The Company is subject to U.S. federal income tax and various state, local and international income taxes in various jurisdictions. The amount of income taxes paid is subject to the Company’s interpretation of applicable tax laws in the jurisdictions in which it files tax returns. In the normal course of business, the Company is subject to income tax audits in various global jurisdictions in which it operates. The years subject to examination vary for the U.S. and international jurisdictions, with the earliest tax year being 2011. Based on the outcome of these examinations or the expiration of statutes of limitations for specific jurisdictions, it is reasonably possible that the related unrecognized tax benefits could change from those recorded in the Company’s unaudited Consolidated Balance Sheets. The Company currently anticipates that it is reasonably possible that the unrecognized tax benefits will be reduced by approximately $0.2 million within the next twelve months.

 

10. Other Balance Sheet Information

The following is a summary of accounts receivable at March 31, 2018 and September 30, 2017 (in thousands):

 

The following is a summary of inventories at March 31, 2018 and September 30, 2017 (in thousands):

 

Reserves for excess and obsolete inventory were $21.5 million and $23.5 million, respectively, at March 31, 2018 and September 30, 2017.

At March 31, 2018 and September 30, 2017, the Company had cumulative capitalized direct costs of $5.0 million and $4.7 million, respectively, associated with the development of software for its internal use which are included within "Property, plant and equipment, net" in the accompanying unaudited Consolidated Balance Sheets. During the six months ended March 31, 2018, the Company capitalized direct costs of $0.3 million associated with development of software for its internal use.

The Company establishes reserves for estimated costs of product warranties based on historical information. Product warranty reserves are recorded at the time product revenue is recognized, and retrofit accruals are recorded at the time

retrofit programs are established. The Company’s warranty obligation is affected by product failure rates, utilization levels, material usage, service delivery costs incurred in correcting a product failure and supplier warranties on parts delivered to the Company.

The following is a summary of product warranty and retrofit activity on a gross basis for the three and six months ended March 31, 2018 and 2017 (in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

11. Stock-Based Compensation

The Company may issue to eligible employees restricted stock units and restricted stock awards (collectively "restricted stock units") and stock options which vest upon the satisfaction of a performance condition and/or a service condition. In addition, the Company issues shares to participating employees pursuant to an employee stock purchase plan and restricted stock units subject to one-year cliff vesting to its directors in accordance with its director compensation program.

The following table reflects stock-based compensation expense recorded during the three and six months ended March 31, 2018 and 2017 (in thousands):

 

The fair value of restricted stock units is determined based on the number of shares granted and the closing price of the Company’s common stock quoted on the Nasdaq Stock Market on the date of grant. The Company recognizes stock-based compensation expense on a straight-line basis, net of estimated forfeitures, over the requisite service period. Additionally, the Company assesses the likelihood of achieving the performance goals against previously established performance targets in accordance with the Company’s long-term equity incentive plan for stock-based awards that vest upon or after the satisfaction of these goals.