10-Q
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________________ 
FORM 10-Q
_____________________________________ 
QUARTERLY REPORT PURSUANT TO SECTION 13 or 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended October 2, 2015
Commission File Number 1-16137
 _____________________________________ 
GREATBATCH, INC.
(Exact name of Registrant as specified in its charter)
 _____________________________________ 
Delaware
 
16-1531026
(State of
Incorporation)
 
(I.R.S. Employer
Identification No.)
2595 Dallas Parkway
Suite 310
Frisco, Texas 75034
(Address of principal executive offices)
(716) 759-5600
(Registrant’s telephone number, including area code)

 
 
 
 
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  ý    No  ¨
Indicate by checkmark whether the registrant has submitted electronically and posted on its corporate website, 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  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
ý
  
Accelerated filer
¨
 
 
 
 
Non-accelerated filer
¨
  
Smaller reporting company
¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange
Act).    Yes  ¨    No  ý
The number of shares outstanding of the Company’s common stock, $0.001 par value per share, as of November 10, 2015 was: 30,557,396 shares.

Table of Contents

Greatbatch, Inc.
Table of Contents for Form 10-Q
As of and for the Quarterly Period Ended October 2, 2015
 
 
 
Page No.
 
 
 
 
ITEM 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
ITEM 2.
 
 
 
ITEM 3.
 
 
 
ITEM 4.
 
 
 
 
 
 
 
ITEM 1.
 
 
 
ITEM 1A.
 
 
 
ITEM 2.
 
 
 
ITEM 3.
 
 
 
ITEM 4.
 
 
 
ITEM 5.
 
 
 
ITEM 6.
 
 
 
 
 
 


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Table of Contents

PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS
GREATBATCH, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS—Unaudited
(in thousands except share and per share data)
 
As of
 
October 2, 2015
 
January 2, 2015
Assets
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
68,594

 
$
76,824

Accounts receivable, net of allowance for doubtful accounts of $1.3 million in 2015 and $1.4 million in 2014
108,278

 
124,953

Inventories
164,236

 
129,242

Refundable income taxes
3,447

 
1,716

Deferred income taxes
7,603

 
6,168

Prepaid expenses and other current assets
12,103

 
11,780

Total current assets
364,261

 
350,683

Property, plant and equipment, net
156,009

 
144,925

Amortizing intangible assets, net
55,329

 
65,337

Indefinite-lived intangible assets
20,288

 
20,288

Goodwill
354,139

 
354,393

Deferred income taxes
2,415

 
2,626

Other assets
31,181

 
17,757

Total assets
$
983,622

 
$
956,009

Liabilities and Stockholders’ Equity
 
 
 
Current liabilities:
 
 
 
Current portion of long-term debt
$
15,000

 
$
11,250

Accounts payable
56,277

 
46,436

Income taxes payable
2,567

 
2,003

Deferred income taxes
339

 
588

Accrued expenses
43,256

 
48,384

Total current liabilities
117,439

 
108,661

Long-term debt
165,000

 
176,250

Deferred income taxes
51,137

 
53,195

Other long-term liabilities
4,191

 
4,541

Total liabilities
337,767

 
342,647

Stockholders’ equity:
 
 
 
Preferred stock, $0.001 par value, authorized 100,000,000 shares; no shares issued or outstanding in 2015 or 2014
—

 
—

Common stock, $0.001 par value, authorized 100,000,000 shares; 25,623,439 shares issued and 25,576,138 shares outstanding in 2015; 25,099,293 shares issued and 25,070,931 shares outstanding in 2014
26

 
25

Additional paid-in capital
383,691

 
366,073

Treasury stock, at cost, 47,301 shares in 2015 and 28,362 shares in 2014
(2,279
)
 
(1,307
)
Retained earnings
256,761

 
239,448

Accumulated other comprehensive income
7,656

 
9,123

Total stockholders’ equity
645,855

 
613,362

Total liabilities and stockholders’ equity
$
983,622

 
$
956,009

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

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Table of Contents

GREATBATCH, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME—Unaudited
(in thousands except per share data)
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Sales
$
146,637

 
$
171,699

 
$
482,847

 
$
518,061

Cost of sales
94,991

 
113,581

 
320,852

 
343,877

Gross profit
51,646

 
58,118

 
161,995

 
174,184

Operating expenses:
 
 
 
 
 
 
 
Selling, general and administrative expenses
22,308

 
22,121

 
69,021

 
65,753

Research, development and engineering costs, net
14,299

 
13,638

 
39,907

 
39,962

Other operating expenses, net
13,844

 
6,176

 
29,449

 
10,223

Total operating expenses
50,451

 
41,935

 
138,377

 
115,938

Operating income
1,195

 
16,183

 
23,618

 
58,246

Interest expense, net
5,825

 
1,051

 
8,151

 
3,208

Other income, net
(4,636
)
 
(3,768
)
 
(6,294
)
 
(4,055
)
Income before provision (benefit) for income taxes
6

 
18,900

 
21,761

 
59,093

Provision (benefit) for income taxes
(16
)
 
4,888

 
4,448

 
17,811

Net income
$
22

 
$
14,012

 
$
17,313

 
$
41,282

Earnings per share:
 
 
 
 
 
 
 
Basic
$
—

 
$
0.56

 
$
0.68

 
$
1.67

Diluted
$
—

 
$
0.54

 
$
0.66

 
$
1.60

Weighted average shares outstanding:
 
 
 
 
 
 
 
Basic
25,536

 
24,899

 
25,424

 
24,784

Diluted
26,441

 
25,923

 
26,372

 
25,850

Comprehensive Income
 
 
 
 
 
 
 
Net income
$
22

 
$
14,012

 
$
17,313

 
$
41,282

Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation gain (loss)
144

 
(3,211
)
 
(1,467
)
 
(2,422
)
Net change in cash flow hedges, net of tax
689

 
(49
)
 
—

 
114

Other comprehensive income (loss)
833

 
(3,260
)
 
(1,467
)
 
(2,308
)
Comprehensive income
$
855

 
$
10,752

 
$
15,846

 
$
38,974

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


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Table of Contents

GREATBATCH, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS—Unaudited
(in thousands)
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
Cash flows from operating activities:
 
 
 
Net income
$
17,313

 
$
41,282

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
26,941

 
27,943

Debt related amortization included in interest expense
5,368

 
580

Stock-based compensation
9,044

 
10,531

Other non-cash gains, net
(1,549
)
 
(7,191
)
Deferred income taxes
(3,614
)
 
(3,000
)
Changes in operating assets and liabilities:
 
 
 
Accounts receivable
17,395

 
(8,460
)
Inventories
(34,992
)
 
(7,111
)
Prepaid expenses and other current assets
(1,371
)
 
(23
)
Accounts payable
3,347

 
(1,311
)
Accrued expenses
(5,823
)
 
(3,627
)
Income taxes
(1,074
)
 
5,070

Net cash provided by operating activities
30,985

 
54,683

Cash flows from investing activities:
 
 
 
Acquisition of property, plant and equipment
(31,307
)
 
(16,029
)
Proceeds from sale of orthopaedic product lines (Note 9)
—

 
2,655

(Purchase of) proceeds from sale of cost method investments
(6,300
)
 
4,306

Acquisitions, net of cash acquired (Note 2)
—

 
(15,801
)
Other investing activities
732

 
—

Net cash used in investing activities
(36,875
)
 
(24,869
)
Cash flows from financing activities:
 
 
 
Principal payments of long-term debt
(7,500
)
 
(7,500
)
Issuance of common stock
5,988

 
5,705

Other financing activities
(318
)
 
(1,059
)
Net cash used in financing activities
(1,830
)
 
(2,854
)
Effect of foreign currency exchange rates on cash and cash equivalents
(510
)
 
(843
)
Net increase (decrease) in cash and cash equivalents
(8,230
)
 
26,117

Cash and cash equivalents, beginning of period
76,824

 
35,465

Cash and cash equivalents, end of period
$
68,594

 
$
61,582

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


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Table of Contents

GREATBATCH, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY—Unaudited
(in thousands)
 
 
 
 
 
 
 
 
 
 
 
 
 
Accumulated
 
 
 
 
 
 
 
Additional
 
Treasury
 
 
 
Other
 
Total
 
Common Stock
 
Paid-In
 
Stock
 
Retained
 
Comprehensive
 
Stockholders’
 
Shares
 
Amount
 
Capital
 
Shares
 
Amount
 
Earnings
 
Income
 
Equity
At January 2, 2015
25,099

 
$
25

 
$
366,073

 
(28
)
 
$
(1,307
)
 
$
239,448

 
$
9,123

 
$
613,362

Stock-based compensation
—

 
—

 
7,051

 
—

 
—

 
—

 
—

 
7,051

Net shares issued under stock incentive plans
524

 
1

 
10,115

 
(91
)
 
(4,440
)
 
—

 
—

 
5,676

Shares contributed to 401(k) Plan
—

 
—

 
452

 
72

 
3,468

 
—

 
—

 
3,920

Net income
—

 
—

 
—

 
—

 
—

 
17,313

 
—

 
17,313

Total other comprehensive loss, net
—

 
—

 
—

 
—

 
—

 
—

 
(1,467
)
 
(1,467
)
At October 2, 2015
25,623

 
$
26

 
$
383,691

 
(47
)
 
$
(2,279
)
 
$
256,761

 
$
7,656

 
$
645,855

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


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Table of Contents

GREATBATCH, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited

1.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation – The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information (Accounting Standards Codification (“ASC”) 270, Interim Reporting) and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information necessary for a full presentation of financial position, results of operations, and cash flows in conformity with accounting principles generally accepted in the United States of America (“GAAP”). Operating results for interim periods are not necessarily indicative of results that may be expected for the fiscal year as a whole. In the opinion of management, the condensed consolidated financial statements reflect all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the results of Greatbatch, Inc. and its subsidiaries (collectively “Greatbatch” or the “Company”) for the periods presented. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, sales, expenses, and related disclosures at the date of the financial statements and during the reporting period. Actual results could differ materially from these estimates. The January 2, 2015 condensed consolidated balance sheet data was derived from audited consolidated financial statements but does not include all disclosures required by GAAP. For further information, refer to the consolidated financial statements and notes included in the Company’s Annual Report on Form 10-K for the year ended January 2, 2015. The Company utilizes a fifty-two, fifty-three week fiscal year ending on the Friday nearest December 31. The third quarter and first nine month periods of 2015 and 2014 each contained 13 weeks and 39 weeks, respectively, and ended on October 2, and October 3, respectively.
Nature of Operations – The Company has two reportable segments: Greatbatch Medical and QiG Group (“QiG”). Greatbatch Medical designs and manufactures medical devices and components where Greatbatch either owns the intellectual property or has unique manufacturing and assembly expertise. Greatbatch Medical provides medical devices, components, design engineering services, and value-added assembly to the cardiac/neuromodulation, orthopaedics, portable medical, vascular, and energy, military and environmental markets. QiG is a medical device company formed in 2008 to develop and commercialize a neurostimulation technology platform for treatment of various disorders by stimulating tissues associated with the nervous system.
On July 30, 2015, Greatbatch announced a proposed spin-off of a portion of its QiG segment through a tax-free distribution of all of the shares of its QiG Group LLC subsidiary to the stockholders of Greatbatch on a pro rata basis (the “Spin-off”). Immediately prior to completion of the Spin-off, QiG Group LLC will be converted into a corporation organized under the laws of Delaware and change its name to Nuvectra Corporation (“Nuvectra”). The Spin-off is expected to be completed in the first quarter of 2016. See Note 15 “Business Segment, Geographic and Concentration Risk Information” for further description of this transaction and the entities included in the Spin-off.
On October 27, 2015, the Company acquired all of the outstanding common stock of Lake Region Medical Holdings, Inc. (“Lake Region Medical”) for a total purchase price including debt assumed of approximately $1.77 billion. Lake Region Medical offers fully integrated outsourced manufacturing and engineering services, contract manufacturing, finished device assembly, original device development and supply chain management services from concept to point-of-care in the cardio & vascular and advanced surgical markets. After completing the acquisition, Greatbatch is one of the largest medical device outsource (“MDO”) manufacturers in the world. As a result of the Lake Region Medical acquisition and proposed Spin-off, the Company is reevaluating its operating and reporting segments. See Note 17 “Subsequent Events” for further description of this transaction and the significant impact it will have on the Company’s financial position and results of operations.






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Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


2.
ACQUISITION
On August 12, 2014, the Company purchased all of the outstanding common stock of Centro de Construcción de Cardioestimuladores del Uruguay (“CCC”), headquartered in Montevideo, Uruguay. CCC is an active implantable neuromodulation medical device systems developer and manufacturer that produces a range of medical devices including implantable pulse generators, programmer systems, battery chargers, patient wands and leads. This acquisition allows the Company to more broadly partner with development stage medical device companies, complements the Company’s core discrete technology offerings and enhances the Company’s medical device innovation efforts. This transaction was accounted for under the acquisition method of accounting. Accordingly, the operating results of CCC have been included in the Company’s QiG segment from the date of acquisition. Once the medical devices developed by CCC receive regulatory approval and reach significant production levels, the responsibility for manufacturing these products may be transferred to Greatbatch Medical. The aggregate purchase price of $19.8 million was funded with cash on hand.
The cost of the acquisition was allocated to the assets acquired and liabilities assumed of CCC based on their fair values as of the closing date of the acquisition, with the amount exceeding the fair value of the net assets acquired being recorded as goodwill. The valuation of the assets acquired and liabilities assumed was finalized during the first quarter of 2015 and did not result in a material adjustment to the original valuation of net assets acquired, including goodwill.
The following table summarizes the allocation of the CCC purchase price to the assets acquired and liabilities assumed as of the acquisition date (in thousands):

Assets acquired
 
Current assets
$
10,670

Property, plant and equipment
1,131

Amortizing intangible assets
6,100

Goodwill
8,296

Total assets acquired
26,197

Liabilities assumed
 
Current liabilities
4,842

Deferred income taxes
1,590

Total liabilities assumed
6,432

Net assets acquired
$
19,765


The fair values of the assets acquired were determined using one of three valuation approaches: market, income or cost. The selection of a particular method for a given asset depended on the reliability of available data and the nature of the asset, among other considerations.
The market approach estimates the value for a subject asset based on available market pricing for comparable assets. The income approach estimates the value for a subject asset based on the present value of cash flows projected to be generated by the asset. The projected cash flows were discounted at a required rate of return that reflects the relative risk of the asset and the time value of money. The projected cash flows for each asset considered multiple factors from the perspective of a marketplace participant including revenue projections from existing customers, attrition trends, technology life-cycle assumptions, marginal tax rates and expected profit margins giving consideration to historical and expected margins. The cost approach estimates the value for a subject asset based on the cost to replace the asset and reflects the estimated reproduction or replacement cost for the asset, less an allowance for loss in value due to depreciation or obsolescence, with specific consideration given to economic obsolescence if indicated. These fair value measurement approaches are based on significant unobservable inputs, including management estimates and assumptions.
Current Assets and Liabilities – The fair value of current assets and liabilities, excluding inventory, was assumed to approximate their carrying value as of the acquisition date due to the short-term nature of these assets and liabilities.
The fair value of in-process and finished goods inventory acquired was estimated by applying a version of the market approach called the comparable sales method. This approach estimates the fair value of the assets by calculating the potential revenue generated from selling the inventory and subtracting from it the costs related to the completion and

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Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


sale of that inventory and a reasonable profit allowance. Based upon this methodology, the Company recorded the inventory acquired at fair value resulting in an increase in inventory of $0.3 million.
Intangible Assets – The purchase price was allocated to intangible assets as follows (dollars in thousands):
Amortizing Intangible Assets
 
Fair
Value
Assigned
 
Weighted
Average
Amortization
Period (Years)
 
Weighted
Average
Discount
Rate
Technology
 
$
1,400

 
10
 
18%
Customer lists
 
4,600

 
10
 
18%
Trademarks and tradenames
 
100

 
2
 
18%
 
 
$
6,100

 
10
 
18%
Technology – Technology consists of technical processes, unpatented technology, manufacturing know-how, trade secrets and the understanding with respect to products or processes that have been developed by CCC and that will be leveraged in current and future products. The fair value of technology acquired was determined utilizing the relief from royalty method, a form of the income approach, with a royalty rate of 3%. The weighted average amortization period of the technology is based upon management’s estimate of the product life cycle associated with the technology before they will be replaced by new technologies.
 
Customer Lists – Customer lists represent the estimated fair value of non-contractual customer relationships CCC has as of the acquisition date. The primary customers of CCC include medical device companies in various geographic locations around the world. These relationships were valued separately from goodwill at the amount that an independent third party would be willing to pay for these relationships. The fair value of customer lists was determined using the multi-period excess-earnings method, a form of the income approach. The weighted average amortization period of the existing customer base was based upon the historical customer annual attrition rate of 15%, as well as management’s understanding of the industry and product life cycles.
Trademarks and Tradenames – Trademarks and tradenames represent the estimated fair value of CCC’s corporate and product names. These tradenames were valued separately from goodwill at the amount that an independent third party would be willing to pay for use of these names. The fair value of the trademarks and tradenames was determined by utilizing the relief from royalty method, a form of the income approach, with a 0.5% royalty rate.
Goodwill – The excess of the purchase price over the fair value of net tangible and intangible assets acquired and liabilities assumed was allocated to goodwill. Various factors contributed to the establishment of goodwill, including the value of CCC’s highly trained assembled work force and management team, the incremental value that CCC’s technology will bring to QiG’s medical devices, and the expected revenue growth over time that is attributable to increased market penetration from future products and customers. The goodwill acquired in connection with the CCC acquisition was allocated to the QiG segment and is not deductible for tax purposes.
Pro Forma Results
The following pro forma information presents the consolidated results of operations of the Company and CCC as if that acquisition occurred as of the beginning of fiscal year 2013 (in thousands, except per share amounts):
 
 
Three Months Ended
 
Nine Months Ended
 
 
October 3, 2014
 
October 3, 2014
Sales
 
$
173,413

 
$
526,631

Net income
 
14,219

 
42,165

Earnings per share:
 
 
 
 
Basic
 
$
0.57

 
$
1.70

Diluted
 
$
0.55

 
$
1.63

The results prior to the acquisition date have been adjusted to include the pro forma impact of the amortization of acquired intangible assets based on the purchase price allocations and the impact of income taxes on the pro forma adjustments utilizing the applicable statutory tax rate. The pro forma consolidated basic and diluted earnings per share calculations are based on the consolidated basic and diluted weighted average shares of Greatbatch.
The pro forma results are presented for illustrative purposes only and do not reflect the realization of potential cost savings or any related integration costs. Certain cost savings may result from the acquisition; however, there can be no

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Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


assurance that these cost savings will be achieved. These pro forma results do not purport to be indicative of the results that would have been obtained in the periods presented, or to be indicative of results that may be obtained in the future.
Subsequent Event
On October 27, 2015, the Company acquired all the outstanding shares of Lake Region Medical, for a total purchase price including debt assumed of approximately $1.77 billion. See Note 17 “Subsequent Events” for further description of this transaction and the significant impact it will have on the Company’s financial position and results of operations.
   
3.     SUPPLEMENTAL CASH FLOW INFORMATION
 
Nine Months Ended
(in thousands)
October 2, 2015
 
October 3, 2014
Noncash investing and financing activities:
 
 
 
Common stock contributed to 401(k) Plan
$
3,920

 
$
4,341

Property, plant and equipment purchases included in accounts payable
892

 
2,618

Deferred financing costs included in accounts payable
7,922

 
—

Acquisition of noncash assets
$
—

 
$
21,282

Liabilities assumed
$
—

 
$
5,464


4.
INVENTORIES
Inventories are comprised of the following (in thousands):
 
As of
 
October 2, 2015
 
January 2, 2015
Raw materials
$
85,040

 
$
73,354

Work-in-process
52,101

 
38,930

Finished goods
27,095

 
16,958

Total
$
164,236

 
$
129,242


5.
INTANGIBLE ASSETS
Amortizing intangible assets are comprised of the following (in thousands):
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Foreign
Currency
Translation
 
Net
Carrying
Amount
At October 2, 2015
 
 
 
 
 
 
 
Purchased technology and patents
$
95,776

 
$
(80,429
)
 
$
1,966

 
$
17,313

Customer lists
72,857

 
(36,739
)
 
1,374

 
37,492

Other
4,534

 
(4,813
)
 
803

 
524

Total amortizing intangible assets
$
173,167

 
$
(121,981
)
 
$
4,143

 
$
55,329

At January 2, 2015
 
 
 
 
 
 
 
Purchased technology and patents
$
95,776

 
$
(75,894
)
 
$
1,966

 
$
21,848

Customer lists
72,857

 
(31,460
)
 
1,374

 
42,771

Other
4,534

 
(4,619
)
 
803

 
718

Total amortizing intangible assets
$
173,167

 
$
(111,973
)
 
$
4,143

 
$
65,337


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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


Aggregate intangible asset amortization expense is comprised of the following (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Cost of sales
$
1,324

 
$
1,567

 
$
4,240

 
$
4,696

Selling, general and administrative expenses
1,831

 
1,756

 
5,474

 
5,190

Research, development and engineering costs, net
88

 
164

 
294

 
565

Total intangible asset amortization expense
$
3,243

 
$
3,487

 
$
10,008

 
$
10,451

Estimated future intangible asset amortization expense based on the carrying value as of October 2, 2015 is as follows (in thousands):
 
Estimated
Amortization
Expense
Remainder of 2015
$
2,979

2016
10,795

2017
9,520

2018
7,114

2019
5,431

Thereafter
19,490

Total estimated amortization expense
$
55,329

Indefinite-lived intangible assets are comprised of the following (in thousands):
 
Trademarks
and
Tradenames
At January 2, 2015
$
20,288

At October 2, 2015
$
20,288

The change in goodwill is as follows (in thousands):
 
Greatbatch Medical
 
QiG
 
Total
At January 2, 2015
$
304,297

 
$
50,096

 
$
354,393

Foreign currency translation
(254
)
 
—

 
(254
)
At October 2, 2015
$
304,043

 
$
50,096

 
$
354,139


6.
DEBT
Long-term debt is comprised of the following (in thousands):
 
As of
 
October 2, 2015
 
January 2, 2015
Variable rate term loan
$
180,000

 
$
187,500

Revolving line of credit
—

 
—

Total debt
180,000

 
187,500

Less current portion of long-term debt
15,000

 
11,250

Total long-term debt
$
165,000

 
$
176,250

Credit Facility – As of October 2, 2015, the Company had a credit facility (the “Credit Facility”) that provided a $300 million revolving credit facility (the “Revolving Credit Facility”), a $180 million term loan (the “Term Loan”), a $15 million letter of credit subfacility, and a $15 million swingline subfacility. The principal of the Term Loan was payable

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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


in quarterly installments. In connection with the acquisition of Lake Region Medical, the Company replaced the Credit Facility and Term Loan with new senior secured credit facilities and completed a senior notes offering. See Note 17 “Subsequent Events” for further description of this transaction and the significant impact it will have on the Company’s outstanding debt.
Interest rates on the Revolving Credit Facility and Term Loan were, at the Company’s option, either at: (i) the prime rate plus the applicable margin, which ranged between 0.0% and 0.75%, based on the Company’s total leverage ratio or (ii) the applicable LIBOR rate plus the applicable margin, which ranged between 1.375% and 2.75%, based on the Company’s total leverage ratio. The Company was required to pay a commitment fee, which varied between 0.175% and 0.25%, depending on the Company’s total leverage ratio.
The Credit Facility required the Company to maintain a rolling four quarter ratio of adjusted EBITDA to interest expense of at least 3.0 to 1.0, and a total leverage ratio of not greater than 4.5 to 1.0. The calculation of adjusted EBITDA and total leverage ratio excluded non-cash charges, extraordinary, unusual, or non-recurring expenses or losses, non-cash stock-based compensation, and non-recurring expenses or charges incurred in connection with permitted acquisitions. As of October 2, 2015, the Company was in compliance with all covenants under the Credit Facility.
As of October 2, 2015, the weighted average interest rate on borrowings under the Credit Facility, which did not take into account the impact of the Company’s interest rate swaps, was 1.59%.
Interest Rate Swaps – The Company entered into interest rate swap agreements in order to hedge against potential changes in cash flows on the outstanding borrowings on the Credit Facility. The variable rate received on the interest rate swaps and the variable rate paid on the debt had the same rate of interest, excluding the credit spread, indexed to the one-month LIBOR rate and reset and paid interest on the same date. During 2012, the Company entered into a three-year $150 million interest rate swap, which amortized $50 million per year. During 2014, the Company entered into an additional interest rate swap. The first $45 million of notional amount of the swap was effective February 20, 2015, and the second $45 million of notional amount was scheduled to be effective February 22, 2016. The notional amount of the swap was scheduled to amortize $10 million per year beginning on February 21, 2017. These swaps were accounted for as cash flow hedges.
Information regarding the Company’s outstanding interest rate swaps as of October 2, 2015 is as follows (dollars in thousands):
Instrument
 
Type of
Hedge
 
Notional
Amount
 
Start
Date
 
End
Date
 
Pay
Fixed
Rate
 
Current
Receive
Floating
Rate
 
Fair Value
 
Balance
Sheet Location
Interest rate swap
 
Cash flow
 
$
50,000

 
Feb 2013
 
Feb 2016
 
0.573
%
 
0.216
%
 
$
(64
)
 
Accrued Expenses
Interest rate swap
 
Cash flow
 
$
90,000

 
Feb 2015
 
Sept 2019
 
1.921
%
 
0.216
%
 
$
(2,724
)
 
Accrued Expenses
As a result of the Lake Region Medical acquisition, the forecasted cash flows that the Company’s interest rate swaps were hedging were no longer expected to occur. Therefore, during the third quarter of 2015, the Company recognized an additional $2.8 million in Interest Expense relating to the termination of the contracts. Subsequently, in October 2015, in connection with the financing of the Lake Region Medical acquisition, the Company terminated its outstanding interest rate swap agreements resulting in a $2.8 million payment to the interest rate swap counterparty. No portion of the change in fair value of the Company’s interest rate swaps during the nine months ended October 2, 2015 and October 3, 2014 was considered ineffective. The amount recorded as Interest Expense during the nine months ended October 2, 2015 and October 3, 2014 related to the Company’s interest rate swaps was $3.5 million and $0.3 million, respectively.
Deferred Financing Fees – The change in deferred financing fees is as follows (in thousands):
At January 2, 2015
$
3,087

Financing costs deferred
7,922

Amortization during the period
(2,580
)
At October 2, 2015
$
8,429


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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


During the third quarter of 2015, the Company recorded deferred financing fees related to the Lake Region Medical acquisition. Refer to Note 17 “Subsequent Events” for further discussion regarding the Company’s financing of the Lake Region Medical acquisition.
  
7.
BENEFIT PLANS
The Company is required to provide its employees located in Switzerland, Mexico, and France certain statutorily mandated defined benefits. These benefits accrue to employees based upon years of service, position, age, and compensation. The defined benefit pension plan provided to the Company’s employees located in Switzerland is a funded contributory plan, while the plans that provide benefits to the Company’s employees located in Mexico and France are unfunded and noncontributory. The liability and corresponding expense related to these benefit plans is based on actuarial computations of current and future benefits for employees.
The change in net defined benefit plan liability is as follows (in thousands):
At January 2, 2015
$
2,406

Net defined benefit cost
309

Foreign currency translation
(157
)
At October 2, 2015
$
2,558

Net defined benefit cost is comprised of the following (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Service cost
$
76

 
$
51

 
$
233

 
$
155

Interest cost
15

 
18

 
45

 
57

Amortization of net loss
13

 
6

 
39

 
17

Expected return on plan assets
(2
)
 
—

 
(8
)
 
—

Net defined benefit cost
$
102

 
$
75

 
$
309

 
$
229


8.
STOCK-BASED COMPENSATION
The components and classification of stock-based compensation expense were as follows (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Stock options
$
697

 
$
595

 
$
1,979

 
$
1,811

Restricted stock and restricted stock units
1,701

 
1,850

 
5,081

 
5,008

401(k) Plan stock contribution
674

 
1,357

 
1,984

 
3,712

Total stock-based compensation expense
$
3,072

 
$
3,802

 
$
9,044

 
$
10,531

 
 
 
 
 
 
 
 
Cost of sales
$
685

 
$
1,129

 
$
2,039

 
$
3,187

Selling, general and administrative expenses
1,981

 
1,951

 
5,890

 
5,872

Research, development and engineering costs, net
361

 
429

 
1,070

 
1,179

Other operating expenses
45

 
293

 
45

 
293

Total stock-based compensation expense
$
3,072

 
$
3,802

 
$
9,044

 
$
10,531


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Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


The weighted average fair value and assumptions used to value options granted are as follows:
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
Weighted average fair value
$
12.18

 
$
16.43

Risk-free interest rate
1.55
%
 
1.73
%
Expected volatility
26
%
 
39
%
Expected life (in years)
5

 
5

Expected dividend yield
—
%
 
—
%
The following table summarizes time and performance-vested stock option activity:
 
Number of
Stock
Options
 
Weighted
Average
Exercise
Price
 
Weighted
Average
Remaining
Contractual
Life
(In Years)
 
Aggregate
Intrinsic
Value
(In Millions)
Outstanding at January 2, 2015
1,590,337

 
$
25.17

 
 
 
 
Granted
301,547

 
49.20

 
 
 
 
Exercised
(257,316
)
 
23.27

 
 
 
 
Forfeited or expired
(37,302
)
 
39.59

 
 
 
 
Outstanding at October 2, 2015
1,597,266

 
$
29.67

 
6.1
 
$
45.9

Exercisable at October 2, 2015
1,165,675

 
$
24.56

 
5.1
 
$
39.5

The following table summarizes time-vested restricted stock and restricted stock unit activity:
 
Time-Vested
Activity
 
Weighted
Average
Fair Value
Nonvested at January 2, 2015
67,832

 
$
36.22

Granted
42,497

 
49.52

Vested
(13,320
)
 
33.21

Forfeited
(11,084
)
 
31.55

Nonvested at October 2, 2015
85,925

 
$
43.86

The following table summarizes performance-vested restricted stock and restricted stock unit activity:
 
Performance-
Vested
Activity
 
Weighted
Average
Fair Value
Nonvested at January 2, 2015
716,163

 
$
19.57

Granted
179,940

 
32.92

Vested
(270,198
)
 
15.30

Forfeited
(40,713
)
 
25.99

Nonvested at October 2, 2015
585,192

 
$
25.20



- 14 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


9.
OTHER OPERATING EXPENSES, NET
Other Operating Expenses, Net is comprised of the following (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
2014 investments in capacity and capabilities
$
5,116

 
$
2,787

 
$
17,854

 
$
5,005

Orthopaedic optimization costs
357

 
996

 
1,348

 
1,032

2013 operating unit realignment
—

 
(31
)
 
—

 
1,004

Other consolidation and optimization income, net
—

 
—

 
—

 
(71
)
Acquisition and integration costs (income)
5,202

 
133

 
5,366

 
(248
)
Asset dispositions, severance and other
3,169

 
2,291

 
4,881

 
3,501

 
$
13,844

 
$
6,176

 
$
29,449

 
$
10,223

2014 investments in capacity and capabilities. In 2014, the Company announced several initiatives to invest in capacity and capabilities and to better align its resources to meet its customers’ needs and drive organic growth and profitability. These included the following:
•
Functions performed at the Company’s facility in Plymouth, MN to manufacture catheters and introducers will transfer into the Company’s existing facility in Tijuana, Mexico. This initiative is expected to be substantially completed in the first half of 2016 and is dependent upon our customers’ validation and qualification of the transferred products.
•
Functions performed at the Company’s facilities in Beaverton, OR and Raynham, MA to manufacture products for the portable medical market will transfer to a new facility in Tijuana, Mexico. This initiative is expected to be substantially completed by the end of the first quarter of 2016 and is dependent upon our customers’ validation and qualification of the transferred products. Products currently manufactured at the Beaverton facility, which do not serve the portable medical market, are planned to transfer to the Company’s Raynham facility.
•
The design engineering responsibilities previously performed at the Company’s Cleveland, OH facility were transferred to the Company’s facilities in Minnesota in 2014.
•
Realignment of the Company’s commercial sales operations. This initiative builds upon the investment the Company made in its global sales and marketing function and is expected to be completed during 2015.
The total capital investment expected for these initiatives is between $25.0 million and $28.0 million, of which $19.4 million has been expended through October 2, 2015. Total restructuring charges expected to be incurred in connection with these initiatives are between $29.0 million and $34.0 million, of which $26.8 million has been incurred through October 2, 2015. Expenses related to these initiatives are recorded within the applicable segment and corporate cost centers to which the expenditures relate and include the following:
  
•Severance and retention: $5.0 million - $7.0 million;
•Accelerated depreciation and asset write-offs: $2.0 million - $3.0 million; and
•Other: $22.0 million - $24.0 million
Other expenses primarily consist of costs to relocate equipment and personnel, duplicate personnel costs, disposal and travel expenditures. All expenses are cash expenditures, except accelerated depreciation and asset write-offs.
The change in accrued liabilities related to the 2014 investments in capacity and capabilities is as follows (in thousands):
 
Severance and
Retention
 
Accelerated
Depreciation/Asset
Write-offs
 
Other
 
Total
At January 2, 2015
$
1,163

 
$
—

 
$
1,066

 
$
2,229

Restructuring charges
2,469

 
235

 
15,150

 
17,854

Write-offs
—

 
(235
)
 
—

 
(235
)
Cash payments
(1,650
)
 
—

 
(15,943
)
 
(17,593
)
At October 2, 2015
$
1,982


$
—

 
$
273

 
$
2,255


- 15 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


Orthopaedic optimization costs. In 2010, the Company began updating its Indianapolis, IN facility to streamline operations, consolidate two buildings, increase capacity, further expand capabilities and reduce dependence on outside suppliers. This initiative was completed in 2011.
In 2011, the Company began construction on an orthopaedic manufacturing facility in Fort Wayne, IN and transferred manufacturing operations being performed at its Columbia City, IN location into this new facility. This initiative was completed in 2012.
During 2012, the Company transferred manufacturing and development operations performed at its facilities in Orvin and Corgemont, Switzerland into existing facilities in Fort Wayne, IN and Tijuana, Mexico. In connection with this consolidation, in 2013, the Company sold assets related to certain non-core Swiss orthopaedic product lines to an independent third party. The purchase agreement provided the Company with an earn-out payment based upon the amount of inventory consumed by the purchaser within one year after the close of the transaction. As a result of this earn out, a cash payment of $2.7 million was received and a gain of $2.7 million was recorded in Other Operating Expenses, Net in the first two quarters of 2014. During 2014, the Company transferred $2.1 million of assets relating to its Orvin, Switzerland facility to held for sale and recognized a $0.4 million impairment charge in the fourth quarter of 2014. During the second quarter of 2015, the Company sold $0.6 million of these assets held for sale with no additional gain or loss recognized.
During 2013, the Company began a project to expand its Chaumont, France facility in order to enhance its capabilities and fulfill larger volume customer supply agreements. This initiative is expected to be completed over the next two years.
The total capital investment expected to be incurred for these initiatives is between $30 million and $35 million, of which $25.9 million has been expended through October 2, 2015. Total expense expected to be incurred for these initiatives is between $45 million and $48 million, of which $43.8 million has been incurred through October 2, 2015. All expenses have been and will be recorded within the Greatbatch Medical segment and are expected to include the following:
   
•
Severance and retention: approximately $11 million;
•
Accelerated depreciation and asset write-offs: approximately $13 million; and
•
Other: $21 million – $24 million
Other expenses include production inefficiencies, moving, revalidation, personnel, training, consulting, and travel costs. All expenses are cash expenditures, except accelerated depreciation and asset write-offs.
The change in accrued liabilities related to the orthopaedic facility optimization is as follows (in thousands):
 
Severance
and
Retention
 
Accelerated
Depreciation/Asset
Write-offs
 
Other
 
Total
At January 2, 2015
$
—

 
$
—

 
$
287

 
$
287

Restructuring charges
—

 
88

 
1,260

 
1,348

Write-offs
—

 
(88
)
 
—

 
(88
)
Cash payments
—

 
—

 
(1,547
)
 
(1,547
)
At October 2, 2015
$
—

 
$
—

 
$
—

 
$
—

2013 operating unit realignment. In 2013, the Company initiated a plan to realign its operating structure in order to optimize its continued focus on profitable growth. As part of this initiative, the sales and marketing and operations groups of its former Implantable Medical and Electrochem Solutions reportable segments were combined into one sales and marketing group and one operations group each serving Greatbatch Medical. This initiative was completed during 2014. Total restructuring charges incurred in connection with this realignment were $6.6 million. Expenses related to this initiative were recorded within the applicable segment to which the expenditures relate and included the following:
  
•Severance and retention: $5.0 million; and
•Other: $1.6 million

Other expenses primarily consisted of relocation and travel expenditures. All expenses were cash expenditures.


- 16 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


Acquisition and integration costs (income). During the third quarter of 2015, the Company incurred $5.1 million in transaction costs related to its acquisition of Lake Region Medical. These costs primarily relate to professional and consulting fees incurred in connection with due diligence efforts of this acquisition of which $3.7 million were accrued as of October 2, 2015. These costs were recorded to corporate unallocated expenses. Refer to Note 17 “Subsequent Events” for additional information on the Lake Region Medical acquisition. During 2015 and 2014, the Company incurred costs (income) related to the integration of CCC and NeuroNexus Technologies, Inc. (“NeuroNexus”). These expenses were primarily for travel costs in connection with integration efforts, consulting, training, and the change in fair value of the contingent consideration recorded in connection with the NeuroNexus acquisition, which resulted in a gain of $0.8 million during the first nine months of 2014.
Asset dispositions, severance and other. During 2015 and 2014, the Company recorded losses in connection with various asset disposals. Additionally, during the first nine months of 2015, the Company incurred legal and professional costs in connection with the proposed Spin-off of $4.6 million. Expenses related to the Spin-off were recorded within the applicable segment and corporate cost centers to which the expenditures relate. The proposed transaction is expected to be completed in the first quarter of 2016. Deal related costs for the Spin-off are estimated to be between $10 million and $12 million. Refer to Note 15 “Business Segment, Geographic and Concentration Risk Information” for additional information on the proposed Spin-off.
During the first nine months of 2014, the Company recorded $2.0 million of charges in connection with its business reorganization to align its contract manufacturing operations. Those costs primarily related to consulting and IT development projects, which were completed in the fourth quarter of 2014. Additionally, during the third quarter of 2014, the Company also incurred $0.8 million of expense related to the separation from service of its Senior Vice President, Human Resources.

10.
INCOME TAXES
The income tax provision for interim periods is determined using an estimate of the annual effective tax rate, adjusted for discrete items, if any, that are taken into account in the relevant period. Each quarter, the estimate of the annual effective tax rate is updated, and if the estimated effective tax rate changes, a cumulative adjustment is made. There is a potential for volatility of the effective tax rate due to several factors, including changes in the mix of pre-tax income and the jurisdictions to which it relates, changes in tax laws and foreign tax holidays, business reorganizations, the timing of recognition of discrete items, and settlements with taxing authorities. The effective tax rate for the first nine months of 2015 and 2014 was 20.4% and 30.1%, respectively. This decrease in effective tax rate was primarily due to higher income in lower tax rate jurisdictions.
As of October 2, 2015, the balance of unrecognized tax benefits is approximately $1.8 million. It is reasonably possible that a reduction of up to $0.2 million of the balance of unrecognized tax benefits may occur within the next twelve months. Approximately $1.4 million of the balance of unrecognized tax benefits would favorably impact the effective tax rate, net of federal benefit on state issues, if recognized.

11.
COMMITMENTS AND CONTINGENCIES
Litigation – The Company is a party to various legal actions arising in the normal course of business. While the Company does not expect that the ultimate resolution of any of these pending actions will have a material effect on its consolidated results of operations, financial position, or cash flows, litigation is subject to inherent uncertainties. As such, any pending legal action, which the Company currently believes to be immaterial, may become material in the future.
Product Warranties – The Company generally warrants that its products will meet customer specifications and will be free from defects in materials and workmanship. The change in product warranty liability was comprised of the following (in thousands):
At January 2, 2015
$
660

Additions to warranty reserve
790

Warranty claims paid
(216
)
At October 2, 2015
$
1,234

Purchase Commitments – Contractual obligations for purchase of goods or services are defined as agreements that are enforceable and legally binding on the Company and that specify all significant terms, including fixed or minimum

- 17 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


quantities to be purchased, fixed, minimum, or variable price provisions, and the approximate timing of the transaction. The Company’s purchase orders are normally based on its current manufacturing needs and are fulfilled by its vendors within short time horizons. The Company also enters into blanket orders with vendors that have preferred pricing and terms; however, these orders are normally cancelable without penalty. The Company also enters into contracts for outsourced services; however, the obligations under these contracts generally contain clauses allowing for cancellation without significant penalty. As of October 2, 2015, these contractual obligations totaled approximately $35.2 million and will be financed by existing cash and cash equivalents, cash generated from operations, or the Company’s credit facilities.
Workers’ Compensation Trust – The Company was a member of a group self-insurance trust that provided workers’ compensation benefits to its employees in Western New York (the “Trust”). Under the Trust agreement, each participating organization has joint and several liability for Trust obligations if the assets of the Trust are not sufficient to cover those obligations. During 2011, the Company was notified by the Trust of its intentions to cease operations at the end of 2011 and was assessed a pro-rata share of future costs related to the Trust. Based on actual experience, the Company could receive a refund or be assessed additional contributions for workers’ compensation claims insured by the Trust. Since 2011, the Company has utilized a traditional insurance provider for workers’ compensation coverage.
Operating Leases – The Company is a party to various operating lease agreements for buildings, machinery, equipment, and software. The Company primarily leases buildings, which accounts for the majority of the future lease payments. Minimum future estimated operating lease expenses as of October 2, 2015 are as follows (in thousands):
Remainder of 2015
$
1,546

2016
6,009

2017
3,924

2018
3,491

2019
3,418

Thereafter
13,938

Total estimated operating lease expense
$
32,326

Foreign Currency Contracts – The Company entered into forward contracts to purchase Mexican pesos in order to hedge the risk of peso-denominated payments associated with operations at its Tijuana, Mexico facility. The impact to the Company’s results of operations from these forward contracts was as follows (in thousands):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Addition (reduction) in cost of sales
$
562

 
$
(48
)
 
$
1,226

 
$
(204
)
Ineffective portion of change in fair value
—

 
—

 
—

 
—

Information regarding outstanding foreign currency contracts as of October 2, 2015 is as follows (dollars in thousands):
Instrument
 
Type of
Hedge
 
Aggregate
Notional
Amount
 
Start
Date
 
End
Date
 
$/Peso
 
Fair
Value
 
Balance Sheet Location
FX Contract
 
Cash flow
 
$
4,220

 
Jan 2015
 
Dec 2015
 
0.0734

 
$
(808
)
 
Accrued Expenses
FX Contract
 
Cash flow
 
$
787

 
Mar 2015
 
Dec 2015
 
0.0656

 
$
(75
)
 
Accrued Expenses
FX Contract
 
Cash flow
 
$
15,081

 
Jan 2016
 
Dec 2016
 
0.0656

 
$
(1,675
)
 
Accrued Expenses
In connection with the Lake Region Medical acquisition, in October 2015, the Company terminated its outstanding foreign currency contracts resulting in a $2.4 million payment to the foreign currency contract counterparty. See Note 17 “Subsequent Events” for further description of this transaction.
Self-Insured Medical Plan – The Company self-funds the medical insurance coverage provided to its U.S.-based employees. The Company has specific stop loss coverage for claims incurred during 2015 exceeding $250 thousand per associate with no annual maximum aggregate stop loss coverage. As of October 2, 2015, the Company had $1.5 million accrued related to the self-insurance of its medical plan. This accrual is recorded in Accrued Expenses in the Condensed Consolidated Balance Sheet and is primarily based upon claim history.

- 18 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited



12.
EARNINGS PER SHARE (“EPS”)
The following table illustrates the calculation of Basic and Diluted EPS (in thousands, except per share amounts):
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Numerator for basic and diluted EPS:
 
 
 
 
 
 
 
Net income
$
22

 
$
14,012

 
$
17,313

 
$
41,282

Denominator for basic EPS:
 
 
 
 
 
 
 
Weighted average shares outstanding
25,536

 
24,899

 
25,424

 
24,784

Effect of dilutive securities:
 
 
 
 
 
 
 
Stock options, restricted stock and restricted stock units
905

 
1,024

 
948

 
1,066

Denominator for diluted EPS
26,441

 
25,923

 
26,372

 
25,850

Basic EPS
$
—

 
$
0.56


$
0.68

 
$
1.67

Diluted EPS
$
—

 
$
0.54

 
$
0.66

 
$
1.60

The diluted weighted average share calculations do not include the following securities, which are not dilutive to the EPS calculations or the performance criteria have not been met:
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Time-vested stock options, restricted stock and restricted stock units
260,000

 
163,000

 
268,000

 
177,000

Performance-vested restricted stock units
10,800

 
4,400

 
9,800

 
3,600


13.
ACCUMULATED OTHER COMPREHENSIVE INCOME
Accumulated Other Comprehensive Income is comprised of the following (in thousands):
 
Defined
Benefit
Plan
Liability
 
Cash
Flow
Hedges
 
Foreign
Currency
Translation
Adjustment
 
Total
Pre-Tax
Amount
 
Tax
 
Net-of-Tax
Amount
At July 3, 2015
$
(1,181
)
 
$
(3,619
)
 
$
9,839

 
$
5,039

 
$
1,784

 
$
6,823

Unrealized loss on cash flow hedges
—

 
(1,670
)
 
—

 
(1,670
)
 
584

 
(1,086
)
Realized loss on foreign currency hedges
—

 
562

 
—

 
562

 
(197
)
 
365

Realized loss on interest rate swap hedges
—

 
2,169

 
—

 
2,169

 
(759
)
 
1,410

Foreign currency translation gain
—

 
—

 
144

 
144

 
—

 
144

At October 2, 2015
$
(1,181
)
 
$
(2,558
)
 
$
9,983

 
$
6,244

 
$
1,412

 
$
7,656

 
Defined
Benefit
Plan
Liability
 
Cash
Flow
Hedges
 
Foreign
Currency
Translation
Adjustment
 
Total
Pre-Tax
Amount
 
Tax
 
Net-of-Tax
Amount
At January 2, 2015
$
(1,181
)
 
$
(2,558
)
 
$
11,450

 
$
7,711

 
$
1,412

 
$
9,123

Unrealized loss on cash flow hedges
—

 
(3,857
)
 
—

 
(3,857
)
 
1,350

 
(2,507
)
Realized loss on foreign currency hedges
—

 
1,226

 
—

 
1,226

 
(429
)
 
797

Realized loss on interest rate swap hedges
—

 
2,631

 
—

 
2,631

 
(921
)
 
1,710

Foreign currency translation loss
—

 
—

 
(1,467
)
 
(1,467
)
 
—

 
(1,467
)
At October 2, 2015
$
(1,181
)
 
$
(2,558
)
 
$
9,983

 
$
6,244

 
$
1,412

 
$
7,656


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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


 
Defined
Benefit
Plan
Liability
 
Cash
Flow
Hedges
 
Foreign
Currency
Translation
Adjustment
 
Total
Pre-Tax
Amount
 
Tax
 
Net-of-Tax
Amount
At July 4, 2014
$
(672
)
 
$
(218
)
 
$
15,741

 
$
14,851

 
$
459

 
$
15,310

Unrealized loss on cash flow hedges
—

 
(133
)
 
—

 
(133
)
 
46

 
(87
)
Realized gain on foreign currency hedges
—

 
(48
)
 
—

 
(48
)
 
17

 
(31
)
Realized loss on interest rate swap hedges
—

 
106

 
—

 
106

 
(37
)
 
69

Foreign currency translation loss
—

 
—

 
(3,211
)
 
(3,211
)
 
—

 
(3,211
)
At October 3, 2014
$
(672
)
 
$
(293
)
 
$
12,530

 
$
11,565

 
$
485

 
$
12,050

 
Defined
Benefit
Plan
Liability
 
Cash
Flow
Hedges
 
Foreign
Currency
Translation
Adjustment
 
Total
Pre-Tax
Amount
 
Tax
 
Net-of-Tax
Amount
At January 3, 2014
$
(672
)
 
$
(468
)
 
$
14,952

 
$
13,812

 
$
546

 
$
14,358

Unrealized gain on cash flow hedges
—

 
35

 
—

 
35

 
(12
)
 
23

Realized gain on foreign currency hedges
—

 
(204
)
 
—

 
(204
)
 
71

 
(133
)
Realized loss on interest rate swap hedges
—

 
344

 
—

 
344

 
(120
)
 
224

Foreign currency translation loss
—

 
—

 
(2,422
)
 
(2,422
)
 
—

 
(2,422
)
At October 3, 2014
$
(672
)
 
$
(293
)
 
$
12,530

 
$
11,565

 
$
485

 
$
12,050

The realized (gain) loss relating to the Company’s foreign currency and interest rate swap hedges were reclassified from Accumulated Other Comprehensive Income and included in Cost of Sales and Interest Expense, respectively, in the Condensed Consolidated Statements of Operations.

14.
FAIR VALUE MEASUREMENTS
Assets and Liabilities Measured at Fair Value on a Recurring Basis
Fair value measurement standards apply to certain financial assets and liabilities that are measured at fair value on a recurring basis (each reporting period). For the Company, these financial assets and liabilities include its derivative instruments. The Company does not have any nonfinancial assets or liabilities that are measured at fair value on a recurring basis.
Foreign Currency Contracts – The fair value of foreign currency contracts were determined through the use of cash flow models that utilize observable market data inputs to estimate fair value. These observable market data inputs included foreign exchange rate and credit spread curves. In addition, the Company received fair value estimates from the foreign currency contract counterparty to verify the reasonableness of the Company’s estimates. The Company’s foreign currency contracts are categorized in Level 2 of the fair value hierarchy. The fair value of the Company’s foreign currency contracts will be realized as Cost of Sales as the inventory, which the contracts are hedging the cash flows to produce, is sold, of which approximately $2.1 million is expected to be realized within the next twelve months.
Interest Rate Swaps – The fair value of the Company’s interest rate swaps outstanding at October 2, 2015 were determined through the use of a cash flow model that utilized observable market data inputs. These observable market data inputs included LIBOR, swap rates, and credit spread curves. In addition, the Company received a fair value estimate from the interest rate swap counterparty to verify the reasonableness of the Company’s estimate. This fair value calculation was categorized in Level 2 of the fair value hierarchy.

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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


The following table provides information regarding liabilities recorded at fair value on a recurring basis (in thousands):
 
 
Fair Value Measurements Using
 
 
At 
 October 2,
 
Quoted
Prices in
Active Markets
for Identical
Assets
 
Significant
Other
Observable
Inputs
 
Significant
Unobservable
Inputs
Description
 
2015
 
(Level 1)
 
(Level 2)
 
(Level 3)
Liabilities
 
 
 
 
 
 
 
 
Foreign currency contracts (Note 11)
 
$
2,558

 
$
—

 
$
2,558

 
$
—

Interest rate swaps (Note 6)
 
2,788

 
—

 
2,788

 
—

Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Fair value standards also apply to certain assets and liabilities that are measured at fair value on a nonrecurring basis. The carrying amounts of cash, accounts receivable, accounts payable, accrued expenses, and current portion of long-term debt approximate fair value because of the short-term nature of these items. As of October 2, 2015, the fair value of the Company’s variable rate long-term debt approximated its carrying value and is categorized in Level 2 of the fair value hierarchy. A summary of the valuation methodologies for assets and liabilities measured on a nonrecurring basis is as follows:
Long-lived Assets – The Company reviews the carrying amount of its long-lived assets to be held and used, other than goodwill and indefinite-lived intangible assets, for potential impairment whenever certain indicators are present such as: a significant decrease in the market price of the asset or asset group; a significant change in the extent or manner in which the long-lived asset or asset group is being used or in its physical condition; a significant change in legal factors or in the business climate that could affect the value of the long-lived asset or asset group, including an action or assessment by a regulator; an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction; a current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with the use of the long-lived asset or asset group; or a current expectation that, more likely than not, a long-lived asset or asset group will be sold or otherwise disposed of significantly before the end of its previously estimated useful life. The term more likely than not refers to a level of likelihood that is more than 50 percent.
Potential recoverability is measured by comparing the carrying amount of the asset or asset group to its related total future undiscounted cash flows. If the carrying value is not recoverable, the asset or asset group is considered to be impaired. Impairment is measured by comparing the asset or asset group’s carrying amount to its fair value. When it is determined that useful lives are shorter than originally estimated, and no impairment is present, the rate of depreciation is accelerated in order to fully depreciate the assets over their new shorter useful lives. The Company did not record any impairment charges related to its long-lived assets during the first nine months of 2015 or 2014.
Goodwill and Indefinite-lived Intangible Assets – Goodwill and other indefinite lived intangible assets recorded are not amortized but are periodically tested for impairment. The Company assesses goodwill for impairment on the last day of each fiscal year, or more frequently if certain events occur as described above. Goodwill is evaluated for impairment through the comparison of the fair value of the reporting units to their carrying values. When evaluating goodwill for impairment, the Company may first perform an assessment of qualitative factors to determine if the fair value of the reporting unit is more-likely-than-not greater than its carrying amount. This qualitative assessment is referred to as a “step zero” approach. If, based on the review of the qualitative factors, the Company determines it is more-likely-than-not that the fair value of the reporting unit is greater than its carrying value, the required two-step impairment test can be bypassed. If the Company does not perform a step zero assessment or if the fair value of the reporting unit is more-likely-than-not less than its carrying value, the Company must perform a two-step impairment test, and calculate the estimated fair value of the reporting unit. If, based upon the two-step impairment test, it is determined that the fair value of a reporting unit is less than its carrying value, an impairment loss is recorded to the extent that the implied fair value of the goodwill within the reporting unit is less than its carrying value. Under the two-step approach, fair values for reporting units are determined based on discounted cash flows and market multiples.
Other indefinite lived intangible assets are assessed for impairment on the last day of each fiscal year, or more frequently if certain events occur as described above, by comparing the fair value of the intangible asset to its carrying value. The fair value is determined by using the income approach.

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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


The Company did not record any impairment charges related to its indefinite-lived intangible assets, including goodwill, during the first nine months of 2015 or 2014, respectively. See Note 5 “Intangible Assets” for additional information on the Company’s intangible assets.
Cost and Equity Method Investments – The Company holds investments in equity and other securities that are accounted for as either cost or equity method investments, which are classified as Other Assets. The total carrying value of these investments is reviewed quarterly for changes in circumstance or the occurrence of events that suggest the Company’s investment may not be recoverable. The fair value of cost or equity method investments is not adjusted if there are no identified events or changes in circumstances that may have a material effect on the fair value of the investments. Gains and losses realized on cost and equity method investments are recorded in Other Income, Net, unless separately stated. The aggregate recorded amount of cost and equity method investments at October 2, 2015 and January 2, 2015 was $22.6 million and $14.5 million, respectively. The Company’s equity method investment is in a Chinese venture capital fund focused on investing in life sciences companies. This fund accounts for its investments at fair value with the unrealized change in fair value of these investments recorded as income or loss to the fund in the period of change. As of October 2, 2015, the Company owned 6.6% of this fund.
During the nine month periods ended October 2, 2015 and October 3, 2014, the Company did not recognize any impairment charges related to its cost method investments. The fair value of these investments is determined by reference to recent sales data of similar shares to independent parties in an inactive market. This fair calculation is categorized in Level 2 of the fair value hierarchy. During the nine month periods ended October 2, 2015 and October 3, 2014, the Company recognized a net gain on cost and equity method investments of $5.1 million and $3.9 million, respectively, which is included in Other Income, Net. During the third quarter of 2015, the Company recognized $4.6 million of income from its equity method investment and received a $3.4 million cash distribution, which was classified as a cash flow from operating activities in the Condensed Consolidated Statement of Cash Flows as it represented a return on investment. During the third quarter of 2014, the Company sold one of its cost method investments, which resulted in a pre-tax gain of $3.2 million. The proceeds from the sale was classified as a cash flow from investing activities in the Condensed Consolidated Statement of Cash Flows.

15.
BUSINESS SEGMENT, GEOGRAPHIC AND CONCENTRATION RISK INFORMATION
The Company has two reportable segments: Greatbatch Medical and QiG. Greatbatch Medical designs and manufactures medical devices and components where Greatbatch either owns the intellectual property or has unique manufacturing and assembly expertise. Greatbatch Medical provides medical devices and components to the following markets:
•
Cardiac/Neuromodulation: Products include complete implantable medical devices and components such as batteries, capacitors, filtered and unfiltered feed-throughs, engineered components, implantable stimulation leads, and enclosures.
•
Orthopaedic: Products include implants, instruments and delivery systems for large joint, spine, extremity and trauma procedures.
•
Portable Medical: Products include automated external defibrillators, portable oxygen concentrators, ventilators, and powered surgical tools.
•
Vascular: Products include introducers, steerable sheaths, and catheters that deliver therapies for various markets such as coronary and neurovascular disease, peripheral vascular disease, interventional radiology, vascular access, atrial fibrillation, and interventional cardiology, plus products for medical imaging and pharmaceutical delivery.
•
Energy, Military, and Environmental: Products include primary and rechargeable batteries and battery packs for demanding applications such as down hole drilling tools.
Greatbatch Medical also offers value-added assembly and design engineering services for medical devices that utilize its component products.
QiG is a medical device company formed in 2008 to develop and commercialize a neurostimulation technology platform for treatment of various disorders by stimulating tissues associated with the nervous system. QiG facilitates this development through the establishment of limited liability companies (“LLCs”). These LLCs do not own, but have the exclusive right to use the technology of Greatbatch in specific fields of use and have an exclusive manufacturing agreement with Greatbatch Medical. QiG currently owns 89% of two LLCs - Algostim, LLC (“Algostim”) and PelviStim LLC (“PelviStim”). Minority interests in these LLCs are held by key opinion leaders and clinicians. Under the agreements governing these LLCs, QiG funds 100% of the expenses incurred by the LLC. No distributions are

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GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


made to the minority holders until QiG is reimbursed for these expenses. Once QiG has been fully reimbursed, any potential future distributions will be applied first to return contributions made by minority partners and thereafter will be made pro rata based upon ownership percentages.
Algostim is focused on the development and commercialization of its Algovita spinal cord stimulation (“SCS”) system (“Algovita”), the first application of QiG’s neurostimulation technology platform. Algovita is indicated for the treatment of chronic pain of the trunk and limbs. Algovita was submitted for premarket approval (“PMA”) to the United States Food & Drug Administration (“FDA”) in December 2013 and in January 2014 documentation for European CE Mark was submitted to the notified body, TÜV SÜD America. CE Mark approval was obtained on June 17, 2014. In April 2015, the Company announced receipt of a letter from the FDA informing it that its PMA application for Algovita is approvable subject to completion of an FDA inspection that finds that the manufacturing facilities, methods and controls used in the production of Algovita comply with the applicable requirements of the FDA’s Quality System Regulation. During the fourth quarter of 2015, the Company announced that it successfully completed its pre-PMA inspection. QiG expects to obtain final approval of its PMA application for Algovita in the fourth quarter of 2015 and to launch Algovita commercially in the United States shortly thereafter.
QiG is also in the process of developing additional applications for its neurostimulation technology platform for other emerging indications such as sacral nerve stimulation (“SNS”), and deep brain stimulation (“DBS”), among others. QiG’s PelviStim subsidiary is focused on the commercialization of QiG’s neurostimulation technology platform for SNS.
QiG revenue includes sales of neural interface technology, components and systems to the neuroscience and clinical markets from NeuroNexus, and a limited release of Algovita in Europe. As further discussed in Note 2 “Acquisition,” in August 2014, the Company acquired CCC, a neuromodulation medical device developer and manufacturer for development stage companies. As a result of this transaction, QiG revenue also includes sales of various medical device products such as implantable pulse generators, programmer systems, battery chargers, patient wands and leads to medical device companies. Once the medical devices developed by CCC reach significant production levels, the responsibility for manufacturing these products may be transferred to Greatbatch Medical.
On July 30, 2015, Greatbatch announced a proposed spin-off of a portion of its QiG segment through a tax-free distribution of all of the shares of its QiG Group LLC subsidiary to the stockholders of Greatbatch on a pro rata basis. Immediately prior to completion of the Spin-off, QiG Group LLC will be converted into a corporation and change its name to Nuvectra. The portion of the QiG segment being spun-off is expected to consist of QiG Group LLC and its subsidiaries: (i) Algostim, (ii) PelviStim, and (iii) Greatbatch’s NeuroNexus subsidiary. Upon completion of the Spin-off, Nuvectra will be an independent, publicly-traded company and Greatbatch will not own any shares of Nuvectra common stock but will retain the operations of QiG not spun-off, which includes CCC. The total financial impact of the Spin-off on the Company’s Condensed Consolidated Financial Statements cannot be determined at this time. However, if completed, deal related costs for the Spin-off are estimated to be between $10 million to $12 million. Once completed, the Spin-off is expected to deliver Greatbatch improved financial performance through its long-term manufacturing agreement with Nuvectra for the supply of Algovita and lower operating expenses estimated in the range of $12 million to $16 million on an annualized basis.
As a result of the Lake Region Medical acquisition and proposed Spin-off, the Company is reevaluating its operating and reporting segments. See Note 17 “Subsequent Events” for further description of this transaction and the significant impact it will have on the Company’s financial position and results of operations.
An analysis and reconciliation of the Company’s business segment, product line and geographic information to the respective information in the Condensed Consolidated Financial Statements follows. Sales by geographic area are presented by allocating sales from external customers based on where the products are shipped to (in thousands):

- 23 -
Table of Contents

GREATBATCH. INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS—Unaudited


 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Sales:
 
 
 
 
 
 
 
Greatbatch Medical
 
 
 
 
 
 
 
Cardiac/Neuromodulation
$
72,961

 
$
85,618

 
$
239,387

 
$
252,403

Orthopaedic
27,752

 
32,489

 
102,204

 
106,785

Portable Medical
17,224

 
17,199

 
48,591

 
53,139

Vascular
14,107

 
14,903

 
37,370

 
43,210

Energy, Military, Environmental
11,977

 
19,016

 
46,232

 
58,499

Total Greatbatch Medical
144,021

 
169,225

 
473,784

 
514,036

QiG
2,776

 
2,474

 
10,564

 
4,025

Elimination of Intersegment Sales(a)
(160
)
 
—

 
(1,501
)
 
—

Total sales
$
146,637

 
$
171,699

 
$
482,847

 
$
518,061

(a)
Intersegment sales between Greatbatch Medical and QiG are eliminated in consolidation and are included in Greatbatch Medical’s cardiac and neuromodulation product line.
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Segment income (loss) from operations:
 
 
 
 
 
 
 
Greatbatch Medical
$
21,512

 
$
31,121

 
$
72,179

 
$
98,688

QiG
(7,680
)
 
(6,796
)
 
(20,132
)
 
(18,882
)
Total segment income from operations
13,832

 
24,325

 
52,047

 
79,806

Unallocated operating expenses
(12,637
)
 
(8,142
)
 
(28,429
)
 
(21,560
)
Operating income as reported
1,195

 
16,183

 
23,618

 
58,246

Unallocated other expense
(1,189
)
 
2,717

 
(1,857
)
 
847

Income before provision for income taxes
$
6

 
$
18,900

 
$
21,761

 
$
59,093

 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Sales by geographic area:
 
 
 
 
 
 
 
United States
$
71,545

 
$
76,330

 
$
217,102

 
$
235,203

Non-Domestic locations:
 
 
 
 
 
 
 
Puerto Rico
26,816

 
34,581

 
98,247

 
101,064

Belgium
12,305

 
13,722

 
45,690

 
47,351

Rest of world
35,971

 
47,066

 
121,808

 
134,443

Total sales
$
146,637

 
$
171,699

 
$
482,847

 
$
518,061

Three customers accounted for a significant portion of the Company’s sales as follows:
 
Three Months Ended
 
Nine Months Ended
 
October 2, 2015
 
October 3, 2014
 
October 2, 2015
 
October 3, 2014
Customer A
17
%
 
19
%
 
20
%
 
19
%
Customer B
19
%
 
15
%
 
18
%
 
16
%
Customer C
10
%
 
11
%
 
12
%
 
12
%
Total
46
%
 
45
%
 
50
%</