Item 7. Management’s Discussion and Analysis
ITEM 7 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Our company is comprised of two reporting segments: North America and Rest of World. Our Rest of World segment is primarily comprised of China, Europe and India. Both segments manufacture and market comprehensive lines of residential and commercial gas, heat pump and electric water heaters, boilers, tanks, and water treatment products. Both segments primarily manufacture and market in their respective region of the world.
In January 2020, an outbreak of a novel coronavirus (COVID-19) surfaced in Wuhan, China, which by March 2020 had spread throughout the world and was declared a global pandemic. Since March 2020 and continuing into 2021, we experienced impacts to our business and other markets worldwide. As a result of the COVID-19 pandemic and in support of continuing our manufacturing efforts, we have undertaken numerous and meaningful steps to protect our employees, suppliers, and customers. As we continue to receive guidance from governmental authorities, we adjust our safety measures to meet or exceed those guidelines.
Our global supply chain management team continued to navigate through supply chain and logistics challenges in 2021. We have seen supply constraints for certain components and raw materials used in our operations, as well as limited container and trucking capacity, and port congestion and delays. While supply chain issues moderated as we moved into 2022, we remain in close contact with our suppliers and logistics providers to troubleshoot, manage and resolve bottlenecks, as the environment remains unpredictable, particularly with the surge in the Omicron variant of COVID-19.
We seek to continue to grow our core residential and commercial water heating, boiler and water treatment businesses throughout the world. This includes focusing on acquisitions that are related to our core business. Consistent with this strategy, we acquired Giant Factories, Inc. (Giant), a Canada-based manufacturer of residential and commercial water heaters, on October 19, 2021, for $199 million, subject to customary adjustments, using a combination of debt and cash. The acquisition fits squarely in our core capabilities, supplements our presence in Canada and enhances our capacity and distribution in the region. Giant contributed $22.9 million of sales and approximately $0.01 in earnings per share (EPS) to our results in 2021 and we expect Giant will contribute approximately $0.06-$0.08 to our EPS in 2022. We will also continue to look for opportunities to add to our existing operations in high growth regions demonstrated by our previous introductions of water treatment products in India and range hoods and cooktops in China.
In our North America segment, after approximately eight percent growth each year in 2021 and 2020, we expect residential industry water heater volumes will be down approximately two percent in 2022 compared with 2021 as we believe that industry demand will normalize to more historical growth rates. We believe that commercial water heater industry volumes will be flat to slightly down in 2022 compared to 2021 as new construction and replacement installations level off. We expect sales in 2022 will benefit from our 2021 price increases, which had a cumulative effect on our water heater prices of approximately 50 percent. We expect to see a ten percent increase in our sales of boilers in 2022 compared to 2021 due to industry growth of three to four percent, our expectation that the transition to higher-efficiency boilers will continue as well as our new product introductions. We anticipate sales of our North America water treatment products will increase 13 to 14 percent in 2022, compared to 2021, primarily driven by consumer demand for our point of use and point of entry water treatment systems.
In our Rest of World segment, after strong growth in 2021, we expect 2022 sales in China to increase approximately five percent in local currency compared with 2021 driven by demand for our residential and commercial water treatment products, including our replacement filters, as well as rangehoods and cooktops. We assume China currency rates will stay at levels similar to 2021.
Combining all of these factors, we expect our consolidated sales to increase between 16 and 18 percent in 2022. Our guidance excludes the potential impacts from future acquisitions and assumes the recent surge of the Omicron variant subsides during the first quarter of 2022 and does not have a significant impact on our productivity or significantly impact the end markets that we serve.
19
Table of Contents
RESULTS OF OPERATIONS
In this section, we discuss the results of our operations for 2021 compared with 2020. We discuss our cash flows and current financial condition under “Liquidity and Capital Resources.” For a discussion related to 2020 compared with 2019, please refer to Item 7 of Part II, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the Year Ended December 31, 2020, which was filed with the United States Securities and Exchange Commission (SEC) on February 12, 2021, and is available on the SEC's website at www.sec.gov.
Years Ended December 31,
(dollars in millions) 2021 2020 2019
Net sales $ 3,538.9 $ 2,895.3 $ 2,992.7
Cost of products sold 2,228.0 1,787.1 1,812.0
Gross Margin 1,310.9 1,108.2 1,180.7
Gross margin % 37.0 % 38.3 % 39.5 %
Selling, general and administrative expenses 701.4 660.3 715.6
Severance and restructuring expenses — 7.7 —
Interest expense 4.3 7.3 11.0
Other income - net (20.4) (11.0) (18.0)
Earnings before provision for income taxes 625.6 443.9 472.1
Provision for income taxes 138.5 99.0 102.1
Net Earnings $ 487.1 $ 344.9 $ 370.0
Our sales in 2021 were $3,538.9 million, or 22.2 percent higher than 2020 sales of $2,895.3 million. Compared to 2020, which was negatively impacted by the COVID-19 pandemic, our sales increase in 2021 was primarily driven by inflation-related pricing actions and higher water heater, boiler, and water treatment volumes in North America as well as higher sales in China. Our acquisition of Giant added $22.9 million of sales in 2021. In addition, our sales in China were favorably impacted by approximately $58 million in 2021 compared to 2020, due to the appreciation of the Chinese currency compared to the U.S. dollar.
Our gross profit margin in 2021 of 37.0 percent declined compared to 38.3 percent in 2020. The lower gross margin in 2021 was primarily due to higher steel and other material costs which outpaced our pricing actions.
Selling, general, and administrative (SG&A) expenses were $701.4 million in 2021 or $41.1 million higher than 2020. The increase in SG&A expenses in 2021 was primarily due to higher advertising, engineering and selling expenses and higher management incentive expenses related to higher earnings compared to 2020. Higher SG&A expenses in 2021 were partially offset by lower spending in China associated with headcount reductions, store closures and other cost-saving measures implemented during 2020.
To align our business to market conditions in 2020, we recognized $7.7 million of pre-tax severance and restructuring expenses. The charges were comprised of $6.8 million severance costs and $0.9 million of other restructuring expenses. These activities are reflected in "severance and restructuring expenses" in the accompanying financial statements.
Interest expense was $4.3 million in 2021, compared to $7.3 million in 2020. The decrease in interest expense in 2021 was primarily due to lower average debt levels.
Other income was $20.4 million in 2021 compared to $11.0 million in 2020. The increase in other income in 2021 was primarily due to higher pension and interest income.
Pension income in 2021 was $12.0 million compared to $5.1 million in 2020. The service cost component of our pension income is reflected in cost of products sold and SG&A expenses. All other components of our pension income are reflected in other income.
Our effective income tax rate was 22.1 percent in 2021, compared with 22.3 percent in 2020. Our lower effective income tax rate in 2021 was primarily due to a change in geographic earnings mix as well as a favorable tax impact related to amending a previously filed tax return. We estimate that our annual effective income tax rate for the full year of 2022 will be between 23.5 and 24 percent.
20
Table of Contents
North America Segment
Years ended December 31 (dollars in millions) 2021 2020
Net Sales $ 2,529.5 $ 2,118.3
Segment Earnings 590.8 503.5
Segment Margin 23.4 % 23.8 %
Sales in our North America segment were $2,529.5 million in 2021 or $411.2 million higher than sales of $2,118.3 million in 2020. The increased sales in 2021 were driven primarily by price increases, largely on water heaters, which were implemented in response to rising material and transportation costs. Higher sales were also driven by increased volumes across all product lines, including $22.9 million of incremental sales from Giant.
North America segment earnings were $590.8 million in 2021, an increase of 17 percent compared to segment earnings of $503.5 million in 2020. Segment margins were 23.4 percent and 23.8 percent in 2021 and 2020, respectively. Higher segment earnings in 2021 were primarily due to inflation-related price increases and higher volumes, partially offset by higher material and logistics costs. Segment margin was lower in 2021 primarily due to the rise in costs outpacing pricing actions. In 2020 segment earnings and margin were adversely impacted by certain costs related to the pandemic. Those costs included temporarily moving production from Mexico to the U.S., paying employees during temporary plant shutdowns, proactively deep cleaning facilities, paying benefits during employee furloughs, and other costs, which were approximately $6.6 million in 2020. We estimate our 2022 North America segment margin will be between 22.25 and 22.75 percent.
Rest of World Segment
Years ended December 31 (dollars in millions) 2021 2020
Net Sales $ 1,036.5 $ 800.3
Segment Earnings 91.4 —
Segment Margin 8.8 % — %
Sales in our Rest of World segment were $1,036.5 million in 2021 or $236.2 million higher than sales of $800.3 million in 2020. Sales in China increased by 32 percent in U.S. dollar terms and 24 percent in local currency in 2021 compared to 2020. In addition, our sales in China were favorably impacted by approximately $58 million in 2021 compared to 2020, due to the appreciation of the Chinese currency compared to the U.S. dollar. The increase in 2021 sales was primarily due to growth in our major product categories in China, including electric and gas tankless water heaters, and residential and commercial water treatment products, including replacement filters. Sales in China were also positively impacted by lower channel inventory reductions in 2021 compared to 2020. Channel inventory levels in China at the end of 2021 were at their lowest level in the last five years. Products with higher selling prices, including super-quiet gas tankless water heaters and water treatment products that deliver filtered water at a faster flow rate, contributed to sales gains. Sales in India increased approximately 31% compared to 2020, which was significantly impacted by the pandemic.
Rest of World segment earnings were $91.4 million in 2021 compared to breakeven in 2020. Segment margin was 8.8 percent in 2021. Compared to 2020, which was significantly impacted by the pandemic, earnings in 2021 increased primarily due to higher volumes in China, which was partially offset by higher employee incentives and brand-building-related advertising costs, as well as the absence of the social insurance waivers received in 2020 that did not repeat in 2021. Higher segment operating margin of 8.8% was primarily a result of increased operating leverage from higher volumes. We expect full-year segment margin to be approximately 10 percent in 2022.
21
Table of Contents
LIQUIDITY AND CAPITAL RESOURCES
Our working capital was $633.8 million at December 31, 2021 compared with $731.7 million at December 31, 2020. A majority of the change to working capital was driven by higher accounts payable, payroll related accruals and lower cash balances than 2020, which were partially offset by higher inventory and sales related accounts receivable balances. We repatriated approximately $168 million of foreign cash and marketable securities in 2021 and utilized it to repurchase shares of our common stock. We expect to repatriate approximately $100 million in 2022 and use the proceeds for common stock repurchases.
Years ended December 31 (dollars in millions) 2021 2020
Cash provided by operating activities $ 641.1 $ 562.1
Cash (used in) provided by investing activities (349.9) 11.8
Cash used in financing activities (421.0) (374.8)
Cash provided by operating activities in 2021 was $641.1 million compared with $562.1 million during 2020. The improvement in operating cash flows in 2021 was primarily due to increased earnings and lower outlays of working capital, including higher accounts payable balances in China, due to receipts of cash deposits in advance of sales from certain customers, and higher incentive related accruals. This was partially offset by higher inventory balances due to increased on hand quantities to ensure product availability and higher accounts receivable balances from higher sales. Our free cash flow in 2021 and 2020 was $566 million and $505 million, respectively. We expect free cash flow to be between $500 million to $525 million in 2022. Free cash flow is a non U.S. Generally Accepted Accounting Principles (GAAP) measure and is described in more detail in the Non-GAAP Measures section below. We continue to monitor developments on an ongoing basis and have taken proactive measures to focus on cash, manage working capital, and reduce costs.
Our capital expenditures were $75.1 million in 2021 and $56.8 million in 2020. Included in 2021 capital expenditures was approximately $11 million related to the purchase of our previously leased Lloyd R. Smith Corporate Technology Center in Milwaukee, WI. We project our 2022 capital expenditures will be between $75 and $80 million and expect depreciation and amortization will be approximately $80 million.
During the second quarter of 2021, we renewed and amended our $500 million revolving credit facility, which now expires on April 1, 2026. The renewed and amended facility, with a group of nine banks, has an accordion provision that allows it to be increased up to $850 million if certain conditions (including lender approval) are satisfied. Borrowing rates under the facility are determined by our leverage ratio. The facility requires us to maintain two financial covenants, a leverage ratio test and an interest coverage test, and we were in compliance with the covenants as of December 31, 2021 and expect to be in compliance for the foreseeable future.
The facility backs up commercial paper and credit line borrowings. At December 31, 2021, we had $50 million outstanding under the facility and an available borrowing capacity of $450 million. We believe the combination of available borrowing capacity and operating cash flows will provide sufficient funds to finance our existing operations for the foreseeable future.
Our total debt increased by $83.5 million from $113.2 million at December 31, 2020 to $196.7 million at December 31, 2021. The increase in debt balances was due to our acquisition of Giant and repurchases of our common stock. Our leverage, as measured by the ratio of total debt to total capitalization, calculated excluding operating lease liabilities, was 9.7 percent at December 31, 2021, compared with 5.8 percent at December 31, 2020.
Our U.S. pension plan continues to meet all funding requirements under ERISA regulations. We were not required to make a contribution to our pension plan in 2021. We forecast that we will not be required to make a contribution to the plan in 2022, and we do not plan to make any voluntary contributions in 2022. For further information on our pension plans, see the Critical Accounting Policies below and Note 13 of Notes to Consolidated Financial Statements.
In 2021, our Board of Directors approved adding 7,000,000 shares of common stock to our existing discretionary share repurchase authority. Under our share repurchase program, we may purchase our common stock through a combination of a Rule 10b5-1 automatic trading plan and discretionary purchases in accordance with applicable securities laws. The stock repurchase authorization remains effective until terminated by our Board of Directors, which may occur at any time, subject to the parameters of any Rule 10b5-1 automatic trading plan that we may then have in effect. During 2021, we repurchased 5,087,467 shares of our stock at a total cost of $366.5 million. As of December 31, 2021, we had 3,526,357 shares remaining on the share repurchase authority. After a blackout period on share repurchase activity in the third quarter related to the Giant acquisition, we resumed our repurchases in early November. On January 25, 2022, the Board of Directors approved adding 3,500,000 shares of common stock to the existing discretionary share repurchase authority. Including the additional shares, we have approximately 6.8 million shares available for repurchase as of the date of the Board of Directors' approval. We
22
Table of Contents
intend to repurchase approximately $400 million of our common stock in 2022 through a combination of 10b5-1 plans and open market purchases.
On October 19, 2021, we acquired Giant, a Canada-based manufacturer of residential and commercial water heaters for approximately $199 million, subject to customary adjustments, using a combination of debt and cash. Giant manufactures water heaters at two facilities in Montreal, Canada and sells water heating products under the Giant brand across Canada. Incremental sales of $23 million were realized in 2021, from the date of acquisition.
We have paid dividends for 82 consecutive years with annual amounts increasing each of the last 30 years. We paid dividends of $1.06 per share in 2021 compared with $0.98 per share in 2020. We increased our dividend by eight percent in the fourth quarter of 2021, and the five-year compound annual growth rate of our dividend payment is approximately 17 percent.
Recent Accounting Pronouncements
Refer to Recent Accounting Pronouncements in Note 1 of Notes to Consolidated Financial Statements.
Critical Accounting Policies
Our accounting policies are described in Note 1 of Notes to Consolidated Financial Statements. Also as disclosed in Note 1, the preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires the use of estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements.
The most significant accounting estimates inherent in the preparation of our financial statements include estimates associated with the evaluation of the impairment of goodwill and indefinite-lived intangible assets, as well as significant estimates used in the determination of liabilities related to warranty activity, product liability and pensions. Various assumptions and other factors underlie the determination of these significant estimates. The process of determining significant estimates is fact-specific and takes into account factors such as historical experience and trends, and in some cases, actuarial techniques. We monitor these significant factors and adjustments are made as facts and circumstances dictate. Historically, actual results have not significantly deviated from those determined using the estimates described above.
Goodwill and Indefinite-lived Intangible Assets
In conformity with GAAP, goodwill and indefinite-lived intangible assets are tested for impairment annually or more frequently if events or changes in circumstances indicate that the assets might be impaired. We perform impairment reviews for our reporting units using a fair-value method based on management’s judgments and assumptions. The fair value represents the estimated amount at which a reporting unit could be bought or sold in a current transaction between willing parties on an arms-length basis. The estimated fair value is then compared with the carrying amount of the reporting unit, including recorded goodwill. We are subject to financial statement risk to the extent that goodwill and indefinite-lived intangible assets become impaired. Any impairment review is, by its nature, highly judgmental as estimates of future sales, earnings and cash flows are utilized to determine fair values. However, we believe that we conduct a thorough and competent annual quantitative analysis of goodwill and indefinite-lived intangible assets. Based on the annual goodwill impairment test, we determined there was no impairment of our goodwill as of December 31, 2021. The fair value of each of our reporting units significantly exceeded its carrying value and a 10% decrease in the estimated fair value of our reporting units would not have resulted in a different conclusion. Based on the annual indefinite-lived assets impairment test, we determined there was no impairment of our indefinite-lived assets as of December 31, 2021.
Product Warranty
Our products carry warranties that generally range from one to ten years and are based on terms that are generally accepted in the market. We provide for the estimated cost of product warranty at the time of sale. The product warranty provision is estimated based upon warranty loss experience using actual historical failure rates and estimated costs of product replacement. The variables used in the calculation of the provision are reviewed at least annually. At times, warranty issues may arise which are beyond the scope of our historical experience. We provide for any such warranty issues as they become known and estimable. While our warranty costs have historically been within calculated estimates, it is possible that future warranty costs could differ significantly from those estimates. The allocation of the warranty liability between current and long-term is based on the expected warranty liability to be paid in the next year as determined by historical product failure rates. At December 31, 2021 and 2020, our reserve for product warranties was $184.4 million and $142.3 million,
23
Table of Contents
respectively. The increase in our reserve for product warranties in 2021 compared to the prior year was primarily due to increased steel prices and the acquisition of Giant.
Product Liability
Due to the nature of our products, we are subject to product liability claims in the normal course of business. We maintain insurance to reduce our risk. Most insurance coverage includes self-insured retentions that vary by year. In 2021, we maintained a self-insured retention of $7.5 million per occurrence with an aggregate insurance limit of $125.0 million. We establish product liability reserves for our self-insured retention portion of any known outstanding matters based on the likelihood of loss and our ability to reasonably estimate such loss. There is inherent uncertainty as to the eventual resolution of unsettled matters due to the unpredictable nature of litigation. We make estimates based on available information and our best judgment after consultation with appropriate advisors and experts. We periodically revise estimates based upon changes to facts or circumstances. We also utilize an actuary to calculate reserves required for estimated incurred but not reported claims as well as to estimate the effect of adverse development of claims over time. At December 31, 2021 and 2020, our reserve for product liability was $35.4 million and $35.3 million, respectively. If the estimated loss reserves as of December 31, 2021 developed adversely by 10%, the impact on earnings would be approximately $2.9 million.
Pensions
We have significant pension benefit costs that are developed from actuarial valuations. The valuations reflect key assumptions regarding, among other things, discount rates, expected return on plan assets, retirement ages, and years of service. Consideration is given to current market conditions, including changes in interest rates in making these assumptions. Our assumption for the expected return on plan assets was 6.25 and 6.75 percent in 2021 and 2020, respectively. The discount rate used to determine net periodic pension costs decreased to 2.47 percent in 2021 from 3.18 percent in 2020. For 2022, our expected return on plan assets is 3.00 percent and our discount rate is 2.72 percent.
In developing our expected return on plan assets, we evaluate our pension plan’s current and target asset allocation, the expected long-term rates of return of equity and bond indices and the actual historical returns of our pension plan. Our plan’s target allocation to bonds managers is between 60 to 95 percent with the remainder allocated primarily to equities, private equity managers and cash. Our actual asset allocation as of December 31, 2021, was one percent to equity managers, 75 percent to bond managers, one percent to private equity managers, and the remainder allocated to cash. We regularly review our actual asset allocation and periodically rebalance our investments to our targeted allocation when considered appropriate. Our pension plan’s historical ten-year and 25-year compounded annualized returns are 9.3 percent and 8.2 percent, respectively. We believe that with our target allocation and the expected long-term returns of equity and bond indices as well as our actual historical returns, our 3.00 percent expected return on plan assets for 2022 is reasonable.
The discount rate assumptions used to determine future pension obligations at December 31, 2021 and 2020 were based on the Aon AA Only Above Median yield curve, which was designed by Aon to provide a means for plan sponsors to value the liabilities of their postretirement benefit plans. The AA Only Above Median yield curve represents a series of annual discount rates from bonds with AA minimum average rating as rated by Moody’s Investor Service, Standard & Poor’s and Fitch Ratings. We will continue to evaluate our actuarial assumptions at least annually, and we will adjust the assumptions as necessary.
Lowering the expected return on plan assets by 25 basis points would decrease our net pension income for 2021 by approximately $1.8 million. Lowering the discount rate by 25 basis points would increase our 2021 net pension income by approximately $0.7 million.
Pension Plan Termination
In 2021, our Board of Directors approved the termination of our defined benefit pension plan (the Plan) with a termination date of December 31, 2021. The Plan has filed for a determination letter from the IRS regarding the qualification of the plan termination. The Plan represents over 95 percent of our pension plan liability. In 2022, we expect to annuitize the remaining pension liability. The Plan settlement, which we expect to complete in the fourth quarter of 2022, will accelerate the recognition of approximately $445 million, or $1.73 of EPS, of non-cash, pre-tax pension expenses. In addition, to protect the Plan’s funded status, the Plan transferred a significant portion of its assets to lower risk investments in 2021. The impact of this transition will result in a lower expected rate of return on pension investments and accordingly, higher pension expenses in 2022, compared to previous years.
As part of our strategy to de-risk our defined benefit pension plan, the qualified defined benefit pension plan purchased a group annuity contract whereby an unrelated insurance company assumed $23 million obligation to pay and administer future annuity payments for certain retirees and beneficiaries in 2020.
24
Table of Contents
We recognized pension income of $12.0 million and $5.1 million in 2021 and 2020, respectively.
To provide improved transparency into the operating results of our business in 2022 we will provide a non-GAAP measure (adjusted earnings per share) that excludes the impact of our estimated pension settlement charge and non-operating pension income and expenses. A reconciliation from GAAP measures to non-GAAP measures is provided in the financial information included in this filing.
Non-GAAP Measures
We provide non-GAAP measures of adjusted free cash flow and adjusted EPS. We define free cash flow as cash provided by operating activities less capital expenditures. Our adjusted EPS excludes the impact of pension settlement expenses and non-operating pension income and expenses.
We believe that free cash flow provides useful additional information concerning cash flow available to meet future debt service obligations and working capital requirements. We believe that the measure of adjusted EPS provides useful information to investors about our performance and allows management and our investors to better understand our performance between periods without regard to items we do not consider to be a component of our core operating performance.
A. O. SMITH CORPORATION
Free Cash Flow
(dollars in millions)
(unaudited)
The following is a reconciliation of reported cash flow from operating activities to free cash flow (non-GAAP):
Twelve Months Ended,
December 31,
2021 2020
Cash provided by operating activities (GAAP) $ 641.1 $ 562.1
Less: Capital expenditures (75.1) (56.8)
Free cash flow (non-GAAP) $ 566.0 $ 505.3
A. O. SMITH CORPORATION
2022 Adjusted EPS Guidance and 2021 Adjusted EPS
(unaudited)
The following is a reconciliation of diluted EPS to adjusted EPS (non-GAAP) (all items are net of tax):
2022 Guidance 2021
Diluted EPS (GAAP) $ 1.56 - 1.76 $ 3.02
Estimated pension settlement charge 1.73 (1)
—
Pension expense (income) 0.06 (2)
(0.06) (3)
Adjusted EPS (non-GAAP) $ 3.35 - 3.55 $ 2.96
(1) Includes pre-tax pension settlement charges of $378.3 million and $66.7 million, within the North America segment and Corporate expenses, respectively.
(2) Includes pre-tax pension expense of $10.5 million and $1.3 million, within the North America segment and Corporate expenses, respectively.
(3) Includes pre-tax pension income of $10.5 million and $2.6 million, within the North America segment and Corporate expenses, respectively.
25
Table of Contents
Outlook
As we begin 2022, we expect our consolidated sales to increase between 16 to 18 percent compared to 2021. Our higher expected sales are driven by pricing actions in North America and increased boiler and water treatment volumes within that region. We expect to achieve full-year earnings of between $1.56 and $1.76 per share and an adjusted EPS in the range of $3.35 and $3.55 per share. Our 2022 guidance excludes the potential impacts from future acquisitions and assumes the recent surge of the Omicron variant subsides during the first quarter of 2022 and does not have a significant impact on our productivity or significantly impact the end markets that we serve.
OTHER MATTERS
Environmental
Our operations are governed by a number of federal, foreign, state, local and environmental laws concerning the generation and management of hazardous materials, the discharge of pollutants into the environment and remediation of sites owned by the Company or third parties. We have expended financial and managerial resources complying with such laws. Expenditures related to environmental matters were not material in 2021 and we do not expect them to be material in any single year. We have reserves associated with environmental obligations at various facilities and we believe these reserves together with available insurance coverage are sufficient to cover reasonably anticipated remediation costs. Although we believe that our operations are substantially in compliance with such laws and maintain procedures designed to maintain compliance, there are no assurances that substantial additional costs for compliance will not be incurred in the future. However, since the same laws govern our competitors, we should not be placed at a competitive disadvantage.
Risk Management
Our Enterprise Risk Management (ERM) process seeks to identify and address significant and material risks. Our ERM process assesses, manages, and monitors risks consistent with the integrated risk framework in the Enterprise Risk Management-Integrated Framework (2017) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). We believe that risk-taking is an inherent aspect of the pursuit of our strategy. Our goal is to manage risks prudently rather than avoid risks. We can mitigate risks and their impact on our company only to a limited extent.
A team of senior executives prioritizes identified risks, including decarbonization, disruptive technologies and cyber threats among others, and assigns an executive to address each major identified risk area and lead action plans to manage risks. Our Board of Directors provides oversight of the ERM process and reviews significant identified risks. The Audit Committee of the Board of Directors also reviews significant financial risk exposures and the steps management has taken to monitor and manage them. Our other Board committees also play a role in risk management, as set forth in their respective charters.
Our goal is to proactively manage risks using a structured approach in conjunction with strategic planning, with the intent to preserve and enhance shareholder value. However, the risks set forth Item 1A - Risk Factors and elsewhere in this Annual Report on Form 10-K and other risks and uncertainties could adversely affect us and cause our results to vary materially from recent results or from our anticipated future results.
Market Risk
We are exposed to various types of market risks, primarily currency. We monitor our risks in such areas on a continuous basis and generally enter into forward contracts to minimize such exposures. We do not engage in speculation in our derivatives strategies. Further discussion regarding derivative instruments is contained in Note 1 of Notes to Consolidated Financial Statements.
We enter into foreign currency forward contracts to minimize the effect of fluctuating foreign currencies. At December 31, 2021, we had net foreign currency contracts outstanding with notional values of $186.3 million. Assuming a hypothetical ten percent movement in the respective currencies, the potential foreign exchange gain or loss associated with the change in exchange rates would amount to $18.6 million. However, gains and losses from our forward contracts will be offset by gains and losses in the underlying transactions being hedged.
26
Table of Contents
Forward-Looking Statements
This filing contains statements that we believe are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements generally can be identified by the use of words such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “forecast,” “continue,” “guidance,” "outlook," or words of similar meaning. All forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of this filing. Important factors that could cause actual results to differ materially from these expectations include, among other things, the following: our ability to continue to obtain commodities, components, parts and accessories on a timely basis through its supply chain and at expected costs; negative impacts to demand for our products, particularly commercial products, and its operations and workforce as a result of the severity and duration of the COVID-19 pandemic; our inability to implement or maintain pricing actions; an uneven recovery of the Chinese economy or decline in the growth rate of consumer spending or housing sales in China; negative impact to our businesses from international tariffs, trade disputes and geopolitical differences; potential weakening in the high-efficiency boiler segment in the U.S.; substantial defaults in payment by, material reduction in purchases by or the loss, bankruptcy or insolvency of a major customer; a weakening in U.S. residential or commercial construction or instability in our replacement markets; foreign currency fluctuations; our inability to successfully integrate or achieve its strategic objectives resulting from acquisitions; competitive pressures on our businesses; the impact of potential information technology or data security breaches; changes in government regulations or regulatory requirements; and adverse developments in general economic, political and business conditions in key regions of the world. Forward-looking statements included in this filing are made only as of the date of this filing, and we are under no obligation to update these statements to reflect subsequent events or circumstances. All subsequent written and oral forward-looking statements attributed to us, or persons acting on our behalf, are qualified entirely by these cautionary statements.
ITEM 7A – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See “Market Risk” above.
27
Table of Contents