What changed in this filing

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Item 7. Management’s Discussion and Analysis

2023-02-23 compared with 2022-02-24 · 77 added, 105 removed, 94 unchanged (66% of the section changed)

Management’s Discussion and Analysis of Financial Condition

and Results of Operations

Management’s Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary and Outlook

This re port contains forward-looking statements that are based on Alamo Group’s current expectations.

Actual results in future periods may differ materially from those expressed or implied because of a number of risks and uncertainties which are discussed below and in the Forward-Looking Information section beginning on page 14.

While we experienced strong demand in our markets and across our full range of products in 2021, we were confronted with the direct and indirect consequences of the COVID-19 pandemic which remained ongoing throughout the year.

At various times during the year, employee sickness and quarantining requirements created operational disruptions at several of our manufacturing facilities, leading to delayed shipments of our products, plant inefficiencies, and higher labor costs.

We were also negatively impacted by significant input cost inflation, supply chain disruptions, and labor shortages, all of which continued throughout the year.

We believe these negative forces will persist, at least for the first half of 2022.

Our record backlog level at the end of 2021 provides us with some confidence and visibility for 2022, but we remain concerned about the ongoing negative effects of the pandemic.

During the first few weeks of 2022, we experienced an increase in employee absences due to illness and quarantining, and we continue to struggle with inflationary pressures, supply chain issues and labor shortages.

We are hopeful that these negative influences will moderate during the course of the year, but it is hard to determine the extent to which these issues will continue with the information we currently have available to us.

The extent of the pandemic’s effect on our operational and financial performance will depend in large part on future developments, which cannot be predicted with confidence at this time.

Future developments include the duration, scope and severity of the pandemic, the actions taken to contain or mitigate its impact, the impact on governmental programs and budgets, the development of treatments or vaccines, the contagiousness and severity of Coronavirus variants, including Delta and Omicron, and the resumption of widespread economic activity.

Due to the inherent uncertainty of the unprecedented and rapidly evolving situation, we are unable to predict with any confidence the likely impact of the COVID-19 pandemic on our future operations.

Of course, we may also be negatively affected by several other unanticipated factors, such as a weakness in the overall economy;

significant changes in currency exchange rates;

further changes in trade or tax policy;

increased levels of government regulation;

weakness in the end-markets we serve;

acquisition integration issues;

budget constraints or revenue shortfalls in governmental entities;

and other risks and uncertainties as described in “Risk Factors.”

We experienced strong demand for our products in 2022 which led to record net sales for the full year.

Our markets continue to exhibit strength and we currently see do not anticipate a significant reduction in customer demand, at least in the near term.

However, many of the same adverse operating conditions that we experienced in 2022 including, among other things, supply chain disruptions, input cost inflation, and labor shortages continue to present challenges to our business.

Supply chain and labor issues have led to disruptions in our manufacturing facilities which constrain our operating efficiencies and negatively impact our overall profitability.

These challenges are also partially responsible for our record high backlog levels, as we have struggled to fully complete and ship products in a timely manner.

While our supply chain appears to be gradually improving, we expect that some or all of these adverse operating conditions will persist for at least a portion of 2023.

2022 Performance

In 2022, the Company's net sales increased by 13% and net income increased by 27% compared to 2021.

The increase in both net sales and net income was primarily due to a strong recovery in customer demand for our products compared to the prior year where demand for our products was materially impacted as a result of the onset of the COVID-19 pandemic.

Partially offsetting the increases in net sales and net income in 2021 were the ongoing negative effects associated with the pandemic, including supply chain disruptions, labor shortages, inflationary pressures, and logistics issues.

The Company's Vegetation Management Division experienced a 24.1% increase in sales for the full year of 2021 compared to a full year of 2020.

The increase in sales was primarily attributable to improved sales of forestry and tree care products and agricultural mowing products, along with solid contributions from the U.K., Europe, Brazil and Australia operations.

The Division's new orders and backlog improved in all product lines, though cases of COVID-19 in certain facilities caused some operational disruptions during the first half of 2021.

Negatively impacting this Division were higher input costs and supply chain disruptions which affected manufacturing efficiencies.

Notwithstanding these challenges, the Division's income from operations for the full year of 2021 recorded a 69.2% improvement compared to the full year of 2020.

The Company's Industrial Equipment Division sales were up 2.5% for the full year of 2021 compared to a full year of 2020.

The increase in sales was led by excavation/vacuum trucks and sweeper/debris collection offset by soft demand for our Snow Removal product line.

The Division's income from operations for the full year of 2021 was down 21.0% compared to the full year of 2020.

Negatively affecting this Division's sales and income for operations were the effects of the ongoing COVID-19 pandemic which included higher input costs, supply chain disruptions and labor shortages and related affected manufacturing efficiencies.

While the Industrial Division experienced ongoing strong market conditions for most of its product categories, the supply chain and inflation cost impacts on this division were more significant than those experienced by our Vegetation Management Division in 2021.

In addition, sales of snow removal products were lower in 2021 as compared to 2020 and the snow product group had both higher warranty costs with more significant impacts from steel price increases that could not be passed on to their government customers.

New orders and backlog improved in all product groups for the full year 2021.

Consolidated income from operations was $116.9 million for the full year of 2021, which included a $1.1 million charge for acceleration of stock grants for our former CEO, compared to $94.8 million, which included $4.8 million of an inventory step-up expense related to the Morbark acquisition.

The Company's backlog increased 126.2% to $800.8 million at the end of 2021 versus the backlog of $354.1 million at the end of 2020.

The increase in the Company's backlog was primarily attributable to improved market conditions and an increase in customer demand for our products in both Divisions as outlined above.

The increase in both net sales and net income was primarily due to a strong demand for our products.

Margins improved due to the increase in demand along with pricing actions we began in 2021 which helped mitigate inflation cost pressures.

However, our results were constrained by higher input costs, ongoing supply chain disruptions, and skilled labor shortages.

The Company's Vegetation Management Division experienced a 15% increase in net sales for the full year of 2022 compared to the full year of 2021.

The increase in net sales was primarily due to continued strong customer demand for our products and positive pricing actions.

The division's income from operations for 2022 was up 37% versus the full year of 2021, due to improved sales and positive pricing actions but offset by higher input costs and operational inefficiencies due to supply chain disruptions and labor constraints.

The Company's Industrial Equipment Division net sales were up 11% for the full year of 2022 compared to the full year of 2021.

The division's net sales were strong in the excavator and vacuum truck product lines and were also supported by moderate sales increases in our street sweeper, debris collector and snow removal equipment lines.

Negatively impacting this division were higher input costs and supply chain disruptions including, most significantly, a shortage of truck chassis.

These adverse conditions had a negative impact on the division's income from operations, which for the full year of 2022 was up only 5% compared to the full year of 2021.

Consolidated income from operations was $148.6 million for the full year of 2022 compared to $116.9 million in 2021, an increase of 27%.

The Company's backlog increased 26% to $1.0 billion at the end of 2022 versus the backlog of $800.8 million at the end of 2021.

The increase in the Company's backlog was primarily attributable to continued strong customer demand for our products in both of the Company's divisions as outlined above.

Inflationary Impacts

In 2022, the cost of commodities, components, parts, and accessories was significantly higher compared to the cost of those items purchased in 2021, mainly as a result of ongoing upward inflationary pressure.

In 2023, we anticipate that the average cost of commodities, components, parts, and accessories will be slightly higher than the average costs experienced during 2022 but the rate of inflation appears to be moderating.

Any material worsening of the current inflationary environment could lead to higher input costs which is likely to have a material adverse effect on our business and financial results.

Impact of the War in Ukraine

In 2022, we discontinued sales into the Russian and Belarusian markets as a response to the war in Ukraine.

Our sales in those markets represented an insignificant share of our overall international business and, accordingly, this decision did not have a material impact on our 2022 results nor do we expect it to have a material impact on our future financial results.

The war has disrupted parts of our supply chain and has created additional inflationary pressure on some of the items we purchase for our end-products, but we do not believe these effects are material to our business.

However, any significant change in or escalation of the war in Ukraine could result in unanticipated effects which may adversely impact our business.

The following discussion should be read in conjunction with the consolidated financial statements of the Company and the notes thereto included elsewhere in this Annual Report on Form 10-K.

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The Company’s net sales in the fiscal year ended December 31, 2022 (“2022”) were $1,513.6 million, an increase of $179.4 million or 13.4% compared to $1,334.2 million for the fiscal year ended December 31, 2021 (“2021”).

The increase in sales was attributable to continued strong customer demand for our products in both the Vegetation Management and Industrial Equipment Divisions and improved pricing.

Negatively impacting net sales were higher costs for materials and inbound freight, supply chain disruptions and a shortage of skilled labor.

Also, currency translation negatively affected sales as the U.S.

dollar strengthened against the currencies of international countries where we operate.

Net Vegetation Management sales were $937.1 million in 2022 compared to $812.7 million in 2021, an increase of $124.4 million or 15.3%, coming from a strong performance in all product lines, particularly forestry and tree care and agricultural and governmental mowing equipment in both North America and Europe.

Supply chain disruptions, labor constraints and unfavorable input cost changes constrained this Division during 2022.

Currency translation effects also negatively impacted net sales in this division.

Net Industrial Equipment sales were $576.6 million in 2022 compared to $521.5 million in 2021, representing an increase of $55.1 million or 10.5%.

The increase was mainly due to continued solid results in our excavator and vacuum truck product lines with modest support from other product lines.

This division was also negatively impacted by ongoing supply chain disruptions and logistics issues in 2022, including delays in receiving truck chassis and component parts from supply chain partners.

Gross profit for 2022 was $376.5 million (24.9% of net sales) compared to $334.5 million (25.1% of net sales) in 2021, an increase of $42.0 million.

The increase in gross profit was mainly attributable to higher sales volume during 2022 compared to 2021 as well as improved pricing.

Profitability was negatively impacted by supply chain disruptions, shortages of component parts, along with higher costs of materials and inbound freight.

These factors led to lower profitability as a percentage of sales in 2022 as compared to the same period in 2021.

Selling, general and administrative expenses (“SG&A”) were $212.6 million (14.0% of net sales) in 2022 compared to $202.9 million (15.2% of net sales) in 2021, an increase of $9.7 million.

The increase in SG&A expenses in 2022 was attributable to higher administrative, marketing and engineering expenses as the Company returned to pre-pandemic expense levels.

Amortization expense in 2022 was $15.3 million compared to $14.6 million in 2021, an increase of $0.7 million.

Interest expense for 2022 was $14.4 million compared to $10.5 million in 2021, an increase of $3.9 million or 36.3%.

The increase in interest expense in 2022 primarily came from higher interest rates and increased borrowing levels.

Borrowing levels rose in 2022 primarily because of the need for the Company to increase its inventory levels to accommodate stronger market demand and to mitigate supply chain challenges.

We anticipate borrowing levels will continue to be pressured by higher inventory requirements unless and until the supply chain situation improves.

Other income (expense), net was expense of $0.7 million during 2022 compared to income of $1.9 million in 2021.

The expense in 2022 was primarily the result of an excise tax audit and to a lesser extent, changes in exchange rates.

The income in 2021 was primarily due to changes in exchange rates and the sale of a facility in the Netherlands for $3.4 million.

Provision for income taxes was $32.4 million (24.1% of income before income taxes) for 2022 compared to $29.3 million (26.7% of income before income taxes) in 2021.

Net income for 2022 was $101.9 million compared to $80.2 million in 2021, with the increase in 2022 net income resulting from the factors described above.

Fiscal 2021 compared to Fiscal 2020

The Company’s net sales in the fiscal year ended 2021 were $1,334.2 million, an increase of $170.7 million or 14.7% compared to $1,163.5 million for the fiscal year ended December 31, 2020 (“2020”).

The increase in sales was attributable to the continued strong recovery in customer demand for our products in both the Vegetation Management and the Industrial Equipment Divisions.

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Net Vegetation Management sales were $812.7 million in 2021 compared to $654.6 million in 2020, an increase of $158.1 million or 24.1%, coming from improved sales in the forestry/tree care and agricultural mowing units along with solid contributions from the U.K., Europe, Brazil and Australia operations.

this Division were negatively impacted by operational and supply chain disruptions and logistics issues due to the pandemic.

Sales in this Division were negatively impacted by operational and supply chain disruptions and logistics issues due to the pandemic.

Net Industrial Equipment sales were $521.5 million in 2021 compared to $508.8 million in 2020, representing an increase of $12.7 million or 2.5%.

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Net income for 2021 was $80.2 million compared to $57.8 million in 2020, with the increase in 2021 net income resulting from the factors described above.

Fiscal 2020 compared to Fiscal 2019

The Company’s net sales in the fiscal year ended December 31, 2020 (“2020”) were $1,163.5 million, an increase of $44.4 million or 4.0% compared to $1,119.1 million for the fiscal year ended December 31, 2019 (“2019”).

The increase was attributable to the acquisitions of Morbark and Dutch Power, which year over year contributed net sales of $160.5 million.

Negatively affecting sales in 2020, was the onset of the COVID-19 pandemic which began to negatively affect the Company's operations and customer demand late in the first quarter of 2020.

Net Vegetation Management sales were $654.6 million in 2020 compared to $502.2 million in 2019, an increase of $152.4 million or 30.4%, mainly coming from the acquisitions of Dutch Power and Morbark mentioned above and improved sales of agricultural mowing as demand for those products in 2020 outpaced demand in 2019.

This was offset by the impacts from the COVID-19 pandemic that began to materially affect the Division late in the first quarter of 2020.

This included temporary plant closures in the U.S., France and Canada along with other operational disruptions throughout our global markets resulting from health concerns and governmental directives, reduced governmental spending, lower customer demand, and customer delivery restrictions, among other things.

Net Industrial Machinery sales were $508.8 million in 2020 compared to $616.9 million in 2019, representing a decrease of $108.1 million or 17.5%.

The COVID-19 pandemic materially impacted all product lines in this Division, which resulted in significantly lower sales during 2020.

This Division also had

several operational disruptions throughout 2020 including temporary plant closures and delays in customer deliveries.

Gross profit for 2020 was $293.7 million (25.2% of net sales) compared to $273.5 million (24.4% of net sales) in 2019, an increase of $20.2 million.

The increase in gross profit mainly came from the acquisitions of Dutch Power and Morbark.

Gross margin percentage improved year over year primarily due to a favorable mix of parts sales and pricing actions which more than offset the negative impact of higher steel prices and lower factory utilization.

Also negatively affecting the gross margin and gross margin percentage of 2020 were $4.8 million of charges on sales of inventory that had been previously stepped-up related to the Morbark acquisition.

Selling, general and administrative expenses (“SG&A”) were $184.2 million (15.8% of net sales) in 2020 compared to $172.9 million (15.5% of net sales) in 2019, an increase of $11.3 million.

Morbark and Dutch Power accounted for $23.6 million of net additional SG&A expense in 2020 offset by $12.3 million in expense savings related to the COVID-19 pandemic.

2019 included $1.9 million of acquisition expenses related to the Morbark and Dutch Power .

Amortization expense in 2020 was $14.7 million compared to $5.7 million in 2019, an increase of $9.0 million.

The increased amortization expense in 2020 was primarily due to the acquisitions of Morbark and Dutch Power.

Interest expense for 2020 was $15.8 million compared to $10.7 million in 2019, an increase of $5.1 million or 47.4%.

The increase in interest expense in 2020 was the result of increased borrowings due to the Morbark acquisition in 2019 offset by a decrease in interest rates.

Other income (expense), net was expense of $0.6 million during 2020 compared to expense of $0.8 million in 2019.

The expense in 2020 and the expense in 2019 were primarily the result of changes in exchange rates.

Provision for income taxes was $22.0 million (27.5% of income before income taxes) for 2020 compared to $21.5 million (25.4% of income before income taxes) in 2019.

The increase in the tax rate for 2020 was due to the reversal of a FIN 48 benefit recognized in 2019 partially offset by the benefit of the final GILTI regulations issued in July of 2020.

Net income for 2020 was $57.8 million compared to $63.1 million in 2019, due to the factors described above.

Liquidity and Capital Resources

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As of December 31, 2022, the Company had working capital of $536.7 million, which represents a increase of $117.1 million from working capital of $419.6 million as of December 31, 2021.

The increase in working capital was primarily due to sales growth and increased demand for our products as well as increased inventory to support Company's higher backlog levels along with increased work in process due to supply chain constraints.

The increase in working capital was primarily a result of volume-driven and inflation-driven increases in accounts receivable as well as an increase in inventory to support the Company's higher backlog levels.

Capital expenditures were $31.1 million for 2022, compared to $25.3 million for 2021.

The increase was related to the Company returning to a more normalized level of capital expenditures as the Company limited new capital expenditures in 2020 in response to the COVID-19 pandemic.

The Company will fund any future expenditure from operating cash flows or through our revolving credit facility, described below.

Also contributing to the increase in capital expenditures in 2021 was approximately $2.2 million of capital projects intended to advance the Company's ongoing sustainability efforts.

These capital projects included LED lighting upgrades at several of our facilities, the installation of a solar power system at one of our facilities and the replacement of less efficient capital equipment.

The Company will fund any future expenditures from operating cash flows or through our revolving credit facility, described below.

Net cash provided by operating activities was $14.5 million for 2022, compared to $49.7 million for 2021.

The decrease of cash from operating activities came primarily from volume related increases in working capital due to higher accounts receivable and inventory levels from sales growth.

In 2021 we experienced strong demand for our products coupled with supply chain disruptions and material cost inflation which led to higher inventory levels.

2020, as a result of the COVID-19 pandemic, we focused on reductions in accounts receivable and inventory levels which led to a significant reduction in our debt levels.

The decrease of cash from operating activities is primarily the result of increased borrowings on the Company's revolving credit facility used for increased working capital needs in support of elevated backlog levels.

Net cash used in investing activities was $31.7 million for 2022, compared to $33.4 million for 2021.

The increase in cash used in investing activities was primarily due to the acquisition of Timberwolf, and increased purchases of Property, plant and equipment partially offset by proceeds from the sale of an facility in the Netherlands.

Net cash used by financing activities was $23.0 million for 2021, compared to $164.2 million for 2020.

The majority of the net cash used by financing activities in 2020 was primarily due to the pay down of debt related to the 2019 acquisitions of Morbark and Dutch Power .

Net cash provided by financing activities was $24.5 million for 2022, compared to net cash used of $23.0 million for 2021.

The Company had $42.9 million in cash and cash equivalents held by its foreign subsidiaries as of December 31, 2022.

The majority of these funds are at our European and Canadian facilities.

The majority of these funds are held at our European and Canadian facilities.

The Company will continue to repatriate European and Canadian cash and cash equivalents in excess of amounts needed to fund operating and investing activities, but will need to monitor exchange rates to determine the appropriate timing of such repatriation given the current relative strength of the U.S.

Repatriated funds will initially be used to reduce funded debt levels under the Company's current credit facility and subsequently used to fund working capital, capital investments and acquisitions company-wide.

On October 24, 2019, the Company, as Borrower, and each of its domestic subsidiaries as guarantors, entered into a Second Amended and Restated Credit Agreement (the Credit Agreement ) with Bank of America, N.A., as Administrative Agent.

The Credit Agreement provides the Company with the ability to request loans and other financial obligations in an aggregate amount of up to $650.0 million and, subject to certain conditions, the Company has the option to request an increase in aggregate commitments of up to an additional $200.0 million.

Pursuant to the Credit Agreement, the Company has borrowed $300.0 million pursuant to a Term Facility repayable with interest quarterly at a percentage of the initial principal amount of the Term Facility of 5.0% per year with the remaining principal due in 2024.

Up to $350.0 million is available under the Credit Agreement pursuant to a Revolver Facility which terminates in 2024.

Outstanding loans under the revolving credit facility bear interest at a variable rate generally based on LIBOR or an alternative variable rate based on the highest of the Bank of America prime rate, the federal funds rate or a rate generally based on LIBOR, in each case depending on the leverage ratio.

The Agreement requires the Company to maintain two financial covenants, a maximum leverage ratio and a minimum asset coverage ratio.

The Agreement also contains various covenants relating to limitations on indebtedness, limitations on investments and acquisitions, limitations on sale of properties and limitations on liens and capital expenditures.

On October 28, 2022, the Company, as the borrower, and each of its domestic subsidiaries as guarantors, entered into a Third Amended and Restated Credit Agreement (the “2022 Credit Agreement”) with Bank of America, N.A., as Administrative Agent.

The 2022 Credit Agreement provides the Company with the ability to request loans and other financial obligations in an aggregate amount of up to $655.0 million.

Under the 2022 Credit Agreement, the Company has borrowed $255.0 million pursuant to a Term Facility, while up to $400.0 million is available to the Company pursuant to a Revolver Facility which terminates in five years.

The Term Facility requires the Company to

make equal quarterly principal payments of $3.75 million over the term of the loan, with the final payment of any outstanding principal amount, plus interest, due at the end of the five year term.

Borrowings under the 2022 Credit Agreement bear interest, at the Company’s option, at a Term Secured Overnight Financing Rate (“SOFR”) or a Base Rate (each as defined in the 2022 Credit Agreement), plus, in each case, an applicable margin.

The applicable margin ranges from 1.25% to 2.50% for Term SOFR borrowings and from .25% to 1.50% for Base Rate borrowings with the margin percentage based upon the Company's consolidated leverage ratio.

The Company must also pay a commitment fee to the lenders ranging between 0.15% to 0.30% on any unused portion of the $400.0 million Revolver Facility.

The 2022 Credit Agreement requires the Company to maintain two financial covenants, namely, a maximum consolidated leverage ratio and a minimum consolidated fixed charge coverage ratio.

The Agreement also contains various covenants relating to limitations on indebtedness, limitations on investments and acquisitions, limitations on the sale of properties and limitations on liens and capital expenditures.

The Agreement also contains other customary covenants, representations and events of defaults.

The expiration date of the Term Facility and the Revolver Facility is October 24, 2024.

The expiration date of the 2022 Credit Agreement, including the Term Facility and the Revolver Facility, is October 28, 2027.

As of December 31, 2022, $301.9 million was outstanding under the Credit Agreement, $249.9 million on the Term Facility and $52.0 million on the Revolver Facility.

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If this occurs, the Company’s results of operations would be adversely impacted.

In 2021, the Company was impacted by inflationary pressures that significantly increased the price of steel as well as the price of many other purchased components.

These inflationary pressures are ongoing.

In 2022, the Company was materially impacted by inflationary pressures that significantly increased the price of steel as well as the price of many other purchased components.

In 2022, we worked to mitigate some of the effects of cost increases through aggressive pricing actions but cost inflation is an ongoing challenge that could have a material impact on the Company's business and financial results, particularly if the current inflationary environment materially worsens.

New Accounting Pronouncements

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The effect on our financial statements upon adoption of these pronouncements is discussed in the above-referenced note.

Contractual and Other Obligations

The following table shows the Company’s approximate obligations and commitments to make future payments under contractual obligations as of December 31, 2021:

Payment due by period

(in thousands) Less than 1-3 3-5 More than

Contractual Obligations Total 1 Year Years Years 5 Years

Long-term debt obligations $ 269,498 $ 15,000 $ 254,498 $ — $ —

Finance and operating lease obligations 18,259 4,981 6,492 3,696 3,090

Interest obligations 12 4 8 — —

Purchase obligations 338,017 338,017 — — —

Total $ 625,786 $ 358,002 $ 260,998 $ 3,696 $ 3,090

Long-term debt obligation means a principal payment obligation under long-term borrowings.

Finance lease obligation means a principal payment obligation under a lease classified as a finance lease.

Operating lease obligation means a payment obligation under a lease classified as an operating lease.

Interest obligation means interest due on long-term debt and capital lease obligations.

Interest on long-term debt assumes all floating rates of interest remain the same as those in effect at December 31, 2021.

Purchase obligation means an agreement to purchase goods or services that is enforceable and legally binding on the registrant that specifies all significant terms, including:

fixed or minimum quantities to be purchased;

fixed, minimum or variable price provisions;

and the approximate timing of the transactions.

Critical Accounting Estimates

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis