BALCHEM CORP 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations (All amounts in thousands, except share and per share data) This report contains forward-looking statements, within the meaning of Section 21E of the Exchange Act, which reflect our expectation or belief concerning future events that involve risks and uncertainties. Actions and performance could differ materially from what is contemplated by the forward-looking statements contained in this report. Factors that might cause differences from the forward-looking statements include those referred to or identified in Item 1A of the Annual Report on Form 10-K for the year ended December 31, 2021 and other factors that may be identified elsewhere in this report. Reference should be made to such factors and all forward-looking statements are qualified in their entirety by the above cautionary statements. Overview We develop, manufacture, distribute and market specialty performance ingredients and products for the nutritional, food, pharmaceutical, animal health, medical device sterilization, plant nutrition and industrial markets. Our three reportable segments are strategic businesses that offer products and services to different markets: Human Nutrition & Health, Animal Nutrition & Health, and Specialty Products, as more fully described in Note 10 of the condensed consolidated financial statements. Sales and production of products outside of our reportable segments and other minor business activities are included in "Other and Unallocated". Balchem is committed to solving today's challenges to shape a healthier tomorrow by operating responsibly and providing innovative solutions for the health and nutritional needs of the world. Sustainability is at the heart of our company's vision to make the world a healthier place, and we proudly support the Ten Principles of the United Nations Global Compact on human rights, labor, environment and anti-corruption. In January 2022, Balchem was named one of America’s Most Responsible Companies by Newsweek magazine for the second consecutive year. This list, compiled by Newsweek in partnership with Statista Inc., recognizes the most responsible companies in the U.S. across a variety of industries, and is based on publicly available environmental, social and governance (ESG) data. Our Sustainability Framework focuses on the most critical ESG topics relevant to our business and stakeholders. We are very proud of our ESG accomplishments to date and are pleased with the recognition by Newsweek. Balchem will continue to foster these fundamental principles broadly along our entire value chain, develop new ideas and technologies that help us work smarter, and help build a world that is a better place to live. As of March 31, 2022, we employed approximately 1,327 full time employees worldwide. Although we are facing challenging labor markets, we believe that we have been successful in attracting skilled and experienced personnel in a competitive environment and that our human capital resources are adequate to perform all business functions. In addition, we continue to enhance technology in order to optimize productivity and performance. COVID-19 Response The COVID-19 response effort has been a primary focus for us since early 2020. Our focus has been on employee safety first, keeping our manufacturing sites operational, satisfying customer needs, preserving cash and ensuring strong liquidity, and responding to changes in this dynamic market environment as appropriate. As a result of our broad based risk mitigation efforts of the direct impacts of the Covid-19 pandemic, our manufacturing sites have been operating at near normal conditions, our research and development teams have continued to innovate in our laboratories, and all of our other employees have been effectively carrying on their responsibilities and functions remotely or in a reduced density hybrid setting. 24 Table of Contents We are increasingly focused on managing the extraordinary supply chain disruptions that are challenging the markets we operate within that are, at least in part, related to the pandemic and/or the global recovery from the pandemic. We are experiencing severe input cost inflation, raw material shortages, logistics disruptions, and labor availability issues. These indirect pandemic related challenges accelerated as 2021 progressed, continued into the first quarter of 2022, and are likely to continue for some time. Segment Results We sell products for all three segments through our own sales force, independent distributors, and sales agents. The following tables summarize consolidated net sales by segment and business segment earnings from operations for the three months ended March 31, 2022 and 2021: Business Segment Net Sales Three Months Ended March 31, 2022 2021 Human Nutrition & Health $ 122,445 $ 104,516 Animal Nutrition & Health 69,342 51,148 Specialty Products 33,334 28,008 Other and Unallocated (1) 3,746 1,984 Total $ 228,867 $ 185,656 Business Segment Earnings From Operations Three Months Ended March 31, 2022 2021 Human Nutrition & Health $ 20,303 $ 19,690 Animal Nutrition & Health 11,321 5,056 Specialty Products 7,761 7,189 Other and Unallocated (1) (1,049) (1,360) Total $ 38,336 $ 30,575 (1) Other and Unallocated consists of a few minor businesses which individually do not meet the quantitative thresholds for separate presentation and corporate expenses that have not been allocated to a segment. Unallocated corporate expenses consist of: (i) Transaction and integration costs, ERP implementation costs, and unallocated legal fees totaling $304 and $234 for the first quarter of 2022 and 2021, respectively, and (ii) Unallocated amortization expense of $738 and $604 for the first quarter of 2022 and 2021, respectively, related to an intangible asset in connection with a company-wide ERP system implementation. 25 Table of Contents RESULTS OF OPERATIONS (All amounts in thousands, except share and per share data) Three months ended March 31, 2022 compared to three months ended March 31, 2021. Net Earnings Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Net sales $ 228,867 $ 185,656 $ 43,211 23.3 % Gross margin 71,506 58,727 12,779 21.8 % Operating expenses 33,170 28,152 5,018 17.8 % Earnings from operations 38,336 30,575 7,761 25.4 % Other expenses 706 592 114 19.3 % Income tax expense 8,700 6,572 2,128 32.4 % Net earnings $ 28,930 $ 23,411 $ 5,519 23.6 % Net Sales Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Human Nutrition & Health $ 122,445 $ 104,516 $ 17,929 17.2 % Animal Nutrition & Health 69,342 51,148 18,194 35.6 % Specialty Products 33,334 28,008 5,326 19.0 % Other 3,746 1,984 1,762 88.8 % Total $ 228,867 $ 185,656 $ 43,211 23.3 % • The increase in net sales within the Human Nutrition & Health segment for the first quarter of 2022 as compared to the first quarter of 2021 was primarily attributed to sales growth within the food and beverage markets. Total sales for this segment grew 17.2%, with average selling prices contributing 16.2%, volume and mix contributing 1.1%, and the change in foreign currency exchange rates contributing -0.2%. • The increase in net sales within the Animal Nutrition & Health segment for the first quarter of 2022 compared to the first quarter of 2021 was primarily the result of higher sales in both monogastric and ruminant animal markets. Total sales for this segment grew 35.6%, with average selling prices contributing 32.1%, volume and mix contributing 5.6%, and the change in foreign currency exchange rates contributing -2.2%. • The increase in Specialty Products segment sales for the first quarter of 2022 compared to the first quarter of 2021 was primarily due to year over year sales growth in both the medical device sterilization market and plant nutrition business. Total sales for this segment increased 19.0%, with average selling prices contributing 15.8%, volume and mix contributing 5.1%, and the change in foreign currency exchange rates contributing -1.8%. • Sales relating to Other increased from the prior year primarily due to higher demand. • Sales may fluctuate in future periods based on macroeconomic conditions, competitive dynamics, changes in customer preferences, and our ability to successfully introduce new products to the market. Gross Margin Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Gross margin $ 71,506 $ 58,727 $ 12,779 21.8 % % of net sales 31.2 % 31.6 % 26 Table of Contents Gross margin dollars increased in the first quarter of 2022 compared to the first quarter of 2021 due to the aforementioned higher sales of $43,211, partially offset by an increase in cost of goods sold of $30,432. The 24.0% increase in cost of goods sold was primarily driven by the significant inflation of manufacturing input costs, primarily related to raw materials. Operating Expenses Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Operating expenses $ 33,170 $ 28,152 $ 5,018 17.8 % % of net sales 14.5 % 15.2 % The increase in operating expenses was primarily due to certain higher compensation-related costs of $2,658, an increase in consulting costs and outside services of $978, and higher advertising and marketing expenses of $484, partially offset by a decrease in amortization expenses of $415. Earnings from Operations Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Human Nutrition & Health $ 20,303 $ 19,690 $ 613 3.1 % Animal Nutrition & Health 11,321 5,056 6,265 123.9 % Specialty Products 7,761 7,189 572 8.0 % Other and unallocated (1,049) (1,360) 311 22.9 % Earnings from operations $ 38,336 $ 30,575 $ 7,761 25.4 % % of net sales (operating margin) 16.8 % 16.5 % • Earnings from operations for the Human Nutrition & Health segment increased primarily due to the aforementioned higher sales, partially offset by a 210 basis point decrease in gross margin, mainly driven by a significant increase in certain manufacturing input costs, largely related to raw materials. Additionally, total operating expenses for this segment increased by $2,657, primarily due to higher compensation-related costs of $1,301, an increase in consulting costs and outside services of $519, and higher research and development expenses of $256. • Animal Nutrition & Health segment earnings from operations increased primarily due to the aforementioned higher sales and a 200 basis point increase in gross margin as a percentage of sales. Total operating expense for this segment increased by $1,210, driven by higher compensation-related costs of $683. • The increase in earnings from operations for Specialty Products segment was primarily due to the aforementioned higher sales, partially offset by a 370 basis point decrease in gross margin as a percentage of sales, driven by a significant increase in certain manufacturing input costs, primarily related to raw materials. Additionally, total operating expenses for this segment increased by $831, driven by higher compensation-related costs of $619. • The increase in Other and unallocated was primarily driven by the aforementioned higher sales. Other Expenses (Income) Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Interest expense $ 545 $ 725 $ (180) (24.8) % Other (income) expense, net 161 (133) 294 (221.1) % $ 706 $ 592 $ 114 19.3 % Interest expense for the three months ended March 31, 2022 and 2021 was primarily related to outstanding borrowings under the Credit Agreement. 27 Table of Contents Income Tax Expense Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Income tax expense $ 8,700 $ 6,572 $ 2,128 32.4 % Effective tax rate 23.1 % 21.9 % The effective tax rate increase was primarily due to a reduction in certain tax credits and increased international income subject to higher foreign tax rates. FINANCIAL CONDITION LIQUIDITY AND CAPITAL RESOURCES (All amounts in thousands, except share and per share data) During the three months ended March 31, 2022, there were no material changes outside the ordinary course of business in the specified contractual obligations set forth in our Annual Report on Form 10-K for the year ended December 31, 2021. We expect our operations to continue generating sufficient cash flow to fund working capital requirements and necessary capital investments. We are actively pursuing additional acquisition candidates. We could seek additional bank loans or access to financial markets to fund such acquisitions, our operations, working capital, necessary capital investments or other cash requirements should we deem it necessary to do so. Cash Cash and cash equivalents decreased to $64,466 at March 31, 2022 from $103,239 at December 31, 2021. At March 31, 2022, the Company had $56,788 of cash and cash equivalents held by foreign subsidiaries. It is our intention to permanently reinvest these funds in foreign operations by continuing to make additional plant related investments, and potentially invest in partnerships or acquisitions; therefore, we do not currently expect to repatriate these funds in order to fund U.S. operations or obligations. However, if these funds are needed for U.S. operations, we could be required to pay additional withholding taxes to repatriate these funds. Working capital was $196,275 at March 31, 2022 as compared to $178,430 at December 31, 2021, an increase of $17,845. Working capital reflects the payment of the 2021 declared dividend in 2022 of $20,703, proceeds from the revolving debt of $20,000, and capital expenditures and intangible assets acquired of $10,256. Three Months Ended March 31, Increase (Decrease) (in thousands) 2022 2021 % Change Cash flows provided by operating activities $ 7,021 $ 40,607 $ (33,586) (82.7) % Cash flows used in investing activities (10,072) (6,226) (3,846) (61.8) % Cash flows used in financing activities (34,845) (27,933) (6,912) (24.7) % Operating Activities The decrease in cash flows from operating activities was primarily driven by changes in working capital and the timing of increased sales, restocking of inventory, and payments to suppliers. Investing Activities We continue to invest in corporate projects, improvements across all production facilities, and intangible assets. Total investments in property, plant and equipment and intangible assets were $10,256 and $6,312 for the three months ended March 31, 2022 and 2021, respectively. Financing Activities We borrowed $20,000 against the revolving loan during the first quarter of 2022, resulting in $371,431 available under the Credit Agreement as of March 31, 2022. We have an approved stock repurchase program. The total authorization under this program is 3,763,038 shares. Since the inception of the program in June 1999, a total of 3,063,929 shares have been purchased. We repurchase shares from employees in connection with settlement of transactions under our equity incentive plans. We also intend to acquire shares from time to time at 28 Table of Contents prevailing market prices if and to the extent we deem it is advisable to do so based on our assessment of corporate cash flow, market conditions and other factors. Proceeds from stock options exercised were $498 and $2,402 for the three months ended March 31, 2022 and 2021, respectively. Dividend payments were $20,703 and $18,700 for the three months ended March 31, 2022 and 2021, respectively. Other Matters Impacting Liquidity We currently provide postretirement benefits in the form of two retirement medical plans, as discussed in Note 14 – Employee Benefit Plans. The liability recorded in other long-term liabilities on the condensed consolidated balance sheets as of March 31, 2022 and December 31, 2021 was $1,197 and $1,293, respectively, and the plans are not funded. Historical cash payments made under these plans have typically been less than $200 per year. We do not anticipate any changes to the payments made in the current year for the plans. On June 1, 2018, we established an unfunded, nonqualified deferred compensation plan maintained for the benefit of a select group of management or highly compensated employees. Assets of the plan are held in a rabbi trust, which are subject to additional risk of loss in the event of bankruptcy or insolvency of the Company. The deferred compensation liability as of March 31, 2022 and December 31, 2021 was $8,206 and $6,270, respectively, and was included in other long-term obligations on our balance sheets. The related rabbi trust assets were $8,208 and $6,267 as of March 31, 2022 and December 31, 2021, respectively, and were included in other non-current assets on our balance sheets. Chemogas has an unfunded defined benefit plan. The plan provides for the payment of a lump sum at retirement or payments in case of death of the covered employees. The amount recorded for these obligations on our balance sheets as of March 31, 2022 and December 31, 2021 were $676 and $684, respectively, and were included in other long-term obligations. Critical Accounting Estimates There were no changes to the Company's Critical Accounting Estimates, as described in its December 31, 2021 Annual Report on Form 10-K, during the three months ended March 31, 2022. Related Party Transactions We were engaged in related party transactions with St. Gabriel CC Company, LLC during the three months ended March 31, 2022. Refer to Note 17, "Related Party Transactions".