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Item 7. Management’s Discussion and Analysis

2024-02-13 compared with 2023-02-14 · 116 added, 152 removed, 200 unchanged (57% of the section changed)

5 unchanged sentences

Both segments primarily manufacture and market in their respective region of the world.

Our sales in China in 2022 were impacted by lower consumer demand driven by COVID-19-related lockdowns.

Certain COVID-19 restrictions were lifted in China at the end of 2022 and we believe that economic activity there will improve in 2023 as a result.

While supply chain and logistics challenges lingered in 2022, we saw improvement, particularly in the second half of the year.

We saw improvement in our supply chain during 2022, particularly in the second half of the year, which continued through 2023.

We remain in close contact with our suppliers and logistics providers to resolve supply chain constraints as they arise.

We continue to seek acquisitions that enable geographic growth, expand our core business, and establish adjacencies.

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 incremental sales of $94.3 million and $22.9 million in 2022 and 2021, respectively.

Refer to Note 3, “Acquisitions” for additional information.

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 believe that the wholesale residential water heater industry is returning to a more historical growth rate following a channel inventory destocking that occurred primarily in the third quarter of 2022, which resulted in a decrease in industry demand of 12 percent compared to 2021.

We believe the majority of our customers exited 2022 with near normal inventory levels.

While we believe that new home construction is in a deficit, we project it will be a headwind in 2023 and therefore, we project 2023 industry residential unit volumes will decrease approximately two to five percent from 2022.

We believe that commercial water heater industry volumes will be flat to slightly up in 2023 compared to 2022 as supply chain constraints continue to ease.

We expect to see a 10 to 12 percent increase in our sales of boilers in 2023 compared to 2022 due to industry growth of approximately three to four percent and our expectation that the transition to higher-efficiency boilers will continue.

We anticipate sales of our North America water treatment products will increase approximately five to seven percent in 2023, compared to 2022, primarily driven by pricing and consumer demand.

In our Rest of World segment, we see the recent change to certain COVID-19 restrictions in China as a positive step to an improved economic environment.

We project our sales in China will grow three to five percent in 2023 in local currency compared to 2022.

Our guidance assumes volume will improve sequentially through out the year.

We assume that the currency translation impact on sales will be similar to the 2022 and negatively impact sales by approximately four percent.

Combining all of these factors, we expect our 2023 consolidated sales to be flat to 2022, with a range of plus or minus three percent.

Our guidance excludes the impacts from potential future acquisitions and assumes the COVID-19-related impacts in China improve in the second half of the year and do not have a significant impact on our productivity or significantly impact the end markets that we serve.

We also launched our internally designed and manufactured gas tankless water heaters in early 2024.

In addition we are expanding our commercial water heater capacity in preparation for the 2026 commercial regulatory change.

In our North America segment, we saw resilient demand in the residential water heater industry in 2023 after three years of uneven growth, primarily related to the impacts of COVID-19-related supply chain constraints.

Proactive replacement remained above historical levels in 2023 and we project that will continue in 2024.

We believe that new home construction remains in a deficit and we expect it will be flat in 2024 compared to 2023.

Considering these factors, we project 2024 industry residential unit volumes will be approximately flat after approximately six percent growth in 2023.

We believe that commercial water heater industry volumes will grow low single digits in 2024 compared to 2023 as demand for commercial electric water heaters greater than 55 gallon continues a positive trend toward pre-2022 levels.

Sales of our boilers and water treatment products were negatively impacted by elevated channel inventories in 2023.

We believe that channel inventories were at near normal levels at the end of 2023 for both product categories.

We expect to see an eight to ten percent increase in our sales of boilers in 2024 compared to 2023 as we continue to benefit from the transition to higher efficiency boilers.

We anticipate sales of our North America water treatment products will increase approximately ten to 12 percent in 2024, compared to 2023, as we expect our sales to grow at approximately two times the market.

In our Rest of World segment, we saw a return to growth in China as our sales increased four percent in local currency in 2023.

We project our sales in China will grow three to five percent in 2024 in local currency compared to 2023 driven by innovative new products and resilient demand for our core products.

Our guidance assumes that the currency translation impact on sales will be minimal in 2024.

Combining all of these factors, we expect our 2024 consolidated sales to increase between three and five percent compared to 2023.

Our guidance excludes the impacts from potential future acquisitions.

RESULTS OF OPERATIONS

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Selling, general and administrative expenses 727.4 670.9 701.4

Severance and restructuring expenses — — 7.7

Restructuring and impairment expenses 18.8 — —

Interest expense 12.0 9.4 4.3

Other expense (income)-net 425.6 (20.4) (11.0)

Other (income) expense-net (6.9) 425.6 (20.4)

Earnings before provision for income taxes 733.5 223.7 625.6

(Benefit from) provision for income taxes (12.0) 138.5 99.0

Provision for (benefit from) income taxes 176.9 (12.0) 138.5

Net Earnings $ 556.6 $ 235.7 $ 487.1

Our sales in 2023 were $3,852.8 million, or 2.6 percent higher than 2022 sales of $3,753.9 million.

Higher sales in 2022 were primarily driven by the impacts of inflation-related pricing actions partially offset by lower residential water heater volumes in North America and lower sales in China.

In addition, our sales were negatively impacted by approximately $61 million compared to last year due to the depreciation of foreign currencies against the U.S.

Our acquisition of Giant added $94.3 million of incremental sales in 2022.

Our gross profit margin in 2022 of 35.4 percent declined compared to 37.0 percent in 2021.

The lower gross margin in 2022 was primarily due to higher steel and other material costs and production inefficiencies, which outpaced the impact of our pricing actions.

Selling, general, and administrative (SG&A) expenses were $670.9 million in 2022, or $30.5 million lower than in 2021.

The decrease in SG&A expenses was primarily due to the recognition of a gain from an $11.5 million judgment against a competitor related to its infringement of one of our patents, lower management incentive expenses, and lower engineering costs in China.

Higher sales in 2023 were driven by higher volumes of residential and commercial water heaters, which more than offset unfavorable foreign currency impacts of approximately $56 million, lower boiler sales and unfavorable pricing in our North America segment.

Our gross profit margin in 2023 of 38.5 percent increased compared to 35.4 percent in 2022.

The higher gross profit margin in 2023 was primarily due to lower material costs.

Selling, general, and administrative (SG&A) expenses were $727.4 million in 2023, or $56.5 million higher than in 2022.

The increase in SG&A expenses was primarily due to higher employee costs, which includes management incentive expenses related to higher earnings, and compensation increases.

In 2022 SG&A included the recognition of an $11.5 million favorable judgment against a competitor related to its infringement of one of our patents, which reduced SG&A expenses, and was partially offset by a $4.3 million expense associated with a terminated acquisition.

Restructuring and impairment expenses in 2023 were $18.8 million, of which $15.6 million related to the sale of our business in Turkey which was included in our Rest of World segment.

Of the $18.8 million restructuring and impairment expenses, $15.7 million was recorded in the Rest of World segment and $3.1 million in Corporate Expense.

Interest expense was $12.0 million in 2023, compared to $9.4 million in 2022.

The increase in interest expense in 2023 was primarily due to higher debt levels and interest rates.

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 represented over 95 percent of our pension plan liability.

In the second quarter of 2022, we received a determination letter from the Internal Revenue Service (IRS) that allowed us to proceed with the termination process.

In the fourth quarter of 2022, the settled Plan liabilities resulted in $417.3 million of pretax pension settlement expense, of which, $346.8 million was recorded in the North America segment and $70.5 million in Corporate Expense, and included $167.7 million in related tax benefits.

For additional information, refer to the Critical Accounting Policies section under “Pensions” below.

Other expense (income)-net in 2022 was $425.6 million in expense compared to income of $20.4 million in 2021.

In 2022, Other expense (income)-net reflected the $417.3 million pension settlement expense related to the termination of the Plan and $13.9 million in pension expenses compared to $12.0 million of pension income in 2021.

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 resulted in a lower expected rate of return on pension investments and, accordingly, higher pension expenses in 2022 compared to the previous year.

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 expense (income) are reflected in other expense (income)-net.

Our effective income tax rate in 2022 was lower than our effective income tax rate in 2021 primarily due to the tax effects of the pension settlement expense associated with the termination of the Plan, a non-recurring $4.2 million favorable tax impact recorded in the prior year periods related to amending a previously filed tax return and a change in geographic earnings mix.

We estimate that our annual effective income tax rate for the full year of 2023 will be approximately 24 percent.

Other (income) expense, net was income of $6.9 million in 2023 compared to expense of $425.6 million in 2022.

The change in Other (income) expense, net was primarily due to a reduction in pension expenses and pension settlement expense associated with the termination of our defined benefit pension plan (the Plan).

In 2022, we recorded a $417.3 million pension settlement expense related to the termination of the Plan which represented over 95 percent of our pension plan liability.

The service cost component of our pension expense is reflected in cost of products sold and SG&A expenses.

All other components of our pension expense (income) are reflected in other (income) expense-net.

Our effective income tax rate in 2023 was higher than our effective income tax rate in 2022 primarily due to the tax effects of the pension settlement expense associated with the termination of the Plan and a change in geographic earnings mix.

We estimate that our annual effective income tax rate for the full year of 2024 will be approximately 24 to 24.5 percent.

We are providing non-U.S.

Generally Accepted Accounting Principles (GAAP) measures (adjusted earnings, adjusted EPS, adjusted segment earnings and adjusted corporate expense) that exclude the impact of the pension settlement expense as well as the income from the legal judgment, the expenses associated with a terminated acquisition and non-operating pension income and expenses.

Reconciliations from GAAP measures to non-GAAP measures are provided in the Non-GAAP Measures section below.

We believe that the measures of adjusted earnings, adjusted EPS, adjusted segment earnings and adjusted corporate expense provide useful information to investors about our performance and allow management and our investors to better understand our performance between periods without regard to items that we do not consider to be a component of our core operating performance or recurring in nature.

Generally Accepted Accounting Principles (GAAP) measures (adjusted earnings, adjusted earnings per share (EPS), total segment earnings, adjusted segment earnings, and adjusted corporate expense) that exclude the impact of restructuring and impairment expenses, pension settlement income and expenses, non-operating pension expenses, income from a legal judgment and expenses associated with a terminated acquisition.

Reconciliations from GAAP measures

to non-GAAP measures are provided in the Non-GAAP Measures section below.

We believe that the measures of adjusted earnings, adjusted EPS, total segment earnings, adjusted segment earnings, and adjusted corporate expense provide useful information to investors about our performance and allow management and our investors to better understand our performance between periods without regard to items that we do not consider to be a component of our core operating performance or recurring in nature.

North America Segment

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Sales in our North America segment were $2,922.9 million in 2023, or $103.8 million higher than sales of $2,819.1 million in 2022.

The increased sales in 2022 compared to the prior year were primarily driven by the price increases implemented in 2021, largely on water heaters, in response to rising material and other input costs and more than offset lower residential water heater volumes and unfavorable currency translation impact of approximately $12 million.

In addition, our acquisition of Giant added $94.3 million of incremental sales in 2022.

North America segment earnings were $266.0 million in 2022, a decrease of 55 percent compared to segment earnings of $590.8 million in 2021.

The increased sales in 2023 compared to the prior year were primarily driven by higher residential and commercial water heater volumes, partially offset by lower volumes of boilers and unfavorable pricing.

North America segment earnings were $726.7 million in 2023, or $460.7 million higher than segment earnings of $266.0 million in 2022.

Segment margins were 24.9 percent and 9.4 percent in 2023 and 2022, respectively.

Lower segment earnings and margin in 2022 were primarily due to the Plan settlement expense of $346.8 million, lower residential water heater volumes, higher material costs, and production inefficiencies, partially offset by price increases and the $11.5 million patent infringement judgment referenced above.

Adjusted segment earnings and adjusted segment margin in 2022 were $611.0 million and 21.7 percent, respectively.

Adjusted segment earnings and adjusted segment margin in 2021 were $580.3 million and 22.9 percent, respectively.

We estimate our 2023 North America segment margin will be approximately 23 percent.

Adjusted segment earnings and adjusted segment margin in 2022 exclude the pension settlement expense of $346.8 million, pension expense of $9.7 million and the recognition of the $11.5 million patent infringement judgment.

Adjusted segment earnings and adjusted segment margin in 2021 exclude pension income of $10.5 million.

Higher segment earnings and margins in 2023 were primarily due to higher volumes of residential and commercial water heaters and lower material costs that were partially offset by higher SG&A expenses.

Additionally in 2022, we realized pre-tax pension settlement expense of $346.8 million.

Adjusted segment earnings and adjusted segment margin in 2023 were $726.0 million and 24.8 percent, respectively which exclude $0.7 million of pension settlement income.

Adjusted segment earnings and adjusted segment margin in 2022 were $611.0 million and 21.7 percent, respectively and exclude pension settlement expense of $346.8 million, pension expense of $9.7 million and the recognition of the $11.5 million patent infringement judgment.

We estimate our 2024 North America segment margin will be approximately 24.5 to 25 percent.

Rest of World Segment

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Segment Margin 8.7 % 10.0 %

Rest of World sales of $965.8 million decreased seven percent year-over-year, including an unfavorable currency translation impact of approximately $49 million, of which $36 million related to sales in China.

In local currency, segment sales decreased by approximately two percent year-over-year.

The decrease in sales in 2022 was primarily driven by lower consumer demand in China due to COVID-19-related disruptions and lockdowns.

Sales in India increased 28 percent in local currency in 2022 due to strong demand for our water heater and water treatment products.

Rest of World segment earnings were $96.3 million in 2022 compared to $91.4 million in 2021.

Sales in our Rest of World segment were $956.9 million in 2023, or $8.9 million lower than sales of $965.8 million in 2022.

The decrease in sales in 2023 was primarily driven by the approximately $44 million unfavorable impact of foreign currency translation, partially offset by favorable volumes in China, particularly in our water treatment and kitchen products.

Rest of World segment earnings in 2023 were $83.4 million compared to $96.3 million in 2022.

Segment margins were 8.7 percent and 10.0 percent in 2023 and 2022, respectively.

Compared to 2021, higher segment earnings and margin were primarily driven by lower engineering, advertising, and selling expenses in China.

We expect the full-year segment margin to be approximately 10 percent in 2023.

Lower segment earnings and segment margin in 2023 were primarily driven by restructuring and impairment expenses of $15.7 million, of which $12.5 million was associated with the sale of our business in Turkey.

Adjusted segment earnings and adjusted segment margin in 2023 were $99.1 million and 10.4 percent, respectively.

Adjusted segment earnings and adjusted segment margin in 2023 exclude restructuring and impairment expenses.

We estimate our 2024 Rest of World segment margin will be approximately 10 percent.

LIQUIDITY AND CAPITAL RESOURCES

Our working capital was $555.0 million at December 31, 2023 compared with $699.5 million at December 31, 2022.

A majority of the increase in working capital was driven by lower accounts payable and payroll-related accruals and higher inventory balances than at December 31, 2021, due to higher levels of safety stock which were partially offset by lower accounts receivable, and cash balances.

In addition, cash balances as of December 31, 2022 were negatively impacted by $20.8 million due to the effects of changes in foreign currency during the year.

In 2022, we repatriated approximately $120 million of cash from our foreign subsidiaries to the U.S.

Movements in working capital consisted of lower Cash and cash equivalents, and Marketable securities due to the paydown of our Long-term debt and Trade payables.

In addition, as of December 31, 2023, cash balances were negatively impacted by $12.8 million due to changes in foreign currency.

Cash and cash equivalents used to fund our operations are primarily generated through operating activities and provided by our existing credit facilities.

We believe our available cash and existing credit facilities are sufficient to cover our cash needs for the foreseeable future.

We use a global cash pooling arrangement, intercompany borrowing, and some local credit lines to meet funding needs and allocate capital resources among various entities.

We have historically made and anticipate future cash repatriations to the United States from certain foreign subsidiaries.

In 2023, we repatriated approximately $100 million of cash from our foreign subsidiaries through dividends and approximately $200 million through our global cash pooling arrangement.

We used the proceeds to pay down outstanding debt balances.

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Cash provided by operating activities $ 670.3 $ 391.4

Cash provided by (used in) investing activities 8.1 (349.9)

Cash (used in) provided by investing activities (24.1) 8.1

Cash used in financing activities (684.7) (430.8)

Cash provided by operating activities in 2023 was $670.3 million compared with $391.4 million during 2022.

The decrease in operating cash flows in 2022 was primarily due to lower customer deposits in China, higher 2021-related incentive payments made in 2022 and additional working capital cash outlays primarily related to higher cost inventories that more than offset lower accounts receivable balances.

The increase in operating cash flows in 2023 compared with the prior year is due to increased earnings and a more favorable working capital contribution primarily related to lower inventory levels and incentive payments.

Our free cash flow in 2023 and 2022 was $597.7 million and $321.1 million, respectively.

We expect cash provided by operating activities to be between $640 million and $690 million in 2024.

We expect free cash flow to be between $525 million to $575 million in 2024.

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The facility backs up commercial paper and credit line borrowings.

At December 31, 2022, we had $208 million outstanding under the facility and an available borrowing capacity of $292 million.

At December 31, 2023, we had no borrowings outstanding under the facility and an available borrowing capacity of $500 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 $150.6 million in 2022 and was primarily due to repurchases of our common stock.

Our total debt decreased by $217.2 million in 2023 primarily due to the use of operating cash flows to pay down debt.

Our leverage, as measured by the ratio of total debt to total capitalization, was 6.5 percent at December 31, 2023, compared with 16.5 percent at December 31, 2022.

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We forecast that we will not be required to make a contribution to the plan in 2024, and we do not plan to make any voluntary contributions in 2024.

For further information on our pension plans, see the Critical Accounting Policies below and Note 13, “Pension and Other Post-retirement Benefits” of Notes to the Consolidated Financial Statements.

For further information on our pension plans, see Note 13, “Pension and Other Post-retirement Benefits” of Notes to the Consolidated Financial Statements.

In 2023, our Board of Directors approved adding 7,500,000 shares of common stock to our existing discretionary share repurchase authority.

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On January 26, 2024, the Board of Directors approved adding 2,000,000 shares of common stock to the existing discretionary share repurchase authority.

Including the additional shares, we have approximately 7.6 million shares available for repurchase as of the date of the Board of Directors' approval.

Including the additional shares, we have 5,202,462 shares available for repurchase as of the date of the Board of Directors' approval.

We intend to repurchase approximately $300 million of our common stock in 2024 through a combination of 10b5-1 plans and open-market purchases.

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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, product liability and pensions.

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 and significant estimates used in the determination of the liability related to product warranties.

Various assumptions and other factors underlie the determination of these significant estimates.

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Based on the annual goodwill impairment test, we determined there was no impairment of our goodwill as of December 31, 2023.

The fair value of each of our reporting units significantly exceeded its carrying value and a 20% decrease in the estimated fair value of our reporting units would not have resulted in a different conclusion.

The fair value of each of our reporting units significantly exceeded its carrying value and a 20 percent 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, 2023.

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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 product warranty provision is estimated based on 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.

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At December 31, 2023 and 2022, our reserve for product warranties was $188.1 million and $182.5 million, respectively.

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 3.12 and 6.25 percent in 2022 and 2021, respectively.

The discount rate used to determine net periodic pension costs increased to 2.80 percent in 2022 from 2.47 percent in 2021.

For 2023, our expected return on plan assets is 5.25 percent and our discount rate is 5.13 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, 2022, was eight percent to equity managers, 27 percent to bond managers, five 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 7.1 percent and 6.9 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 5.25 percent expected return on plan assets for 2023 is reasonable.

The discount rate assumptions used to determine future pension obligations at December 31, 2022 and 2021 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 increase our net pension expense for 2022 by approximately $1.8 million.

Lowering the discount rate by 25 basis points would decrease our 2022 net pension expense by approximately $0.8 million.

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 represented over 95 percent of our pension plan liability.

In the second quarter of 2022, we received a determination letter from the IRS that allowed us to proceed with the termination process.

In the fourth quarter of 2022, we settled approximately $169 million of Plan liabilities through lump-sum payments from existing plan assets to eligible participants who elected to receive them and settled approximately $463 million of Plan liabilities by entering into an agreement to purchase annuities from Mass Mutual Life Insurance Company (MML).

The irrevocable agreement with MML covers approximately 7,000 active and former employees and their beneficiaries, with MML assuming the future annuity payments for these individuals commencing March 1, 2023.

These settlements resulted in approximately $417.3 million of pretax expense in 2022, partially offset by approximately $167.7 million in related tax benefits.

Non-GAAP Measures

We are providing non-U.S.

Generally Accepted Accounting Principles (GAAP) measures (adjusted earnings, adjusted EPS, adjusted segment earnings and adjusted corporate expense) that exclude the impact of pension settlement expense as well as legal judgment income, expenses associated with a terminated acquisition and non-operating pension income and expenses.

Generally Accepted Accounting Principles (GAAP) measures (adjusted earnings, adjusted EPS, total segment earnings, adjusted segment earnings, and adjusted corporate expense) that exclude the impact of restructuring and impairment expenses, pension settlement income and expenses, non-operating pension expenses, income from a legal judgment and expenses associated with a terminated acquisition.

Reconciliations from GAAP measures to non-GAAP measures are provided below.

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(dollars in millions, except per share data)

The following is a reconciliation of net earnings and diluted EPS to adjusted earnings (non-GAAP) and adjusted EPS (non-GAAP):

The following is a reconciliation of net earnings and diluted earnings per share to adjusted earnings (non-GAAP) and adjusted earnings per share (non-GAAP):

Twelve Months Ended

Net Earnings (GAAP) $ 556.6 $ 235.7

Pension settlement expense, before tax 417.3 —

Pension expense (income), before tax 11.7 (13.1)

Restructuring and impairment expenses, before tax 18.8 —

Pension settlement expense (income), before tax (0.9) 417.3

Pension expense, before tax — 11.7

Legal judgment income, before tax — (11.5)

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$ 3.69 $ 1.51

Pension settlement expense per diluted share, before tax 2.68 —

Pension expense (income) per diluted share, before tax 0.08 (0.08)

Restructuring and impairment expenses, per diluted share, before tax 0.12 —

Pension settlement expense (income) per diluted share, before tax — 2.68

Pension expense per diluted share, before tax — 0.08

Legal judgment income per diluted share, before tax — (0.07)

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(dollars in millions)

The following is a reconciliation of reported segment earnings to adjusted segment earnings (non-GAAP):

The following is a reconciliation of reported earnings before provision for income taxes to total segment earnings (non-GAAP) and adjusted segment earnings (non-GAAP):

Twelve Months Ended

Segment Earnings (GAAP)

North America $ 266.0 $ 590.8

Rest of World 96.3 91.4

Inter-segment earnings elimination (0.3) (0.2)

Total Segment Earnings (GAAP) $ 362.0 $ 682.0

North America $ 345.0 $ (10.5)

Rest of World — —

Inter-segment earnings elimination — —

Total Adjustments $ 345.0 $ (10.5)

Adjusted Segment Earnings (non-GAAP)

Earnings Before Provision for Income Taxes (GAAP) $ 733.5 $ 223.7

Corporate expense (1)

Interest expense 12.0 9.4

Total Segment Earnings (non-GAAP) $ 809.6 $ 362.0

North America (2)

$ 726.7 $ 266.0

Rest of World (3)

Inter-segment earnings elimination (0.5) (0.3)

Total Adjusted Segment Earnings (non-GAAP) $ 707.0 $ 671.5

Total Segment Earnings (non-GAAP) $ 809.6 $ 362.0

Additional Information

North America Segment

Pension settlement expense, before tax $ 346.8 $ —

Pension expense (income), before tax 9.7 (10.5)

(1) Corporate expense

$ (64.1) $ (128.9)

Pension settlement expense (income), before tax (0.2) 70.5

Impairment expense, before tax 3.1 —

Pension expense, before tax — 2.0

Terminated acquisition-related expenses, before tax — 4.3

Adjusted Corporate expense (non-GAAP) $ (61.2) $ (52.1)

(2) North America

$ 726.7 $ 266.0

Pension settlement expense (income), before tax (0.7) 346.8

Pension expense, before tax — 9.7

Legal judgment income, before tax — (11.5)

Total Adjustments $ 345.0 $ (10.5)

SMITH CORPORATION

Adjusted Corporate Expense

(dollars in millions)

The following is a reconciliation of reported Corporate Expense to adjusted Corporate Expense (non-GAAP):

Twelve Months Ended

Corporate Expense (GAAP) $ (128.9) $ (52.1)

Pension settlement expense, before tax 70.5 —

Corporate pension expense (income) 2.0 (2.6)

Terminated acquisition-related expenses 4.3 —

Corporate Expense (non-GAAP) $ (52.1) $ (54.7)

Adjusted North America (non-GAAP) $ 726.0 $ 611.0

(3) Rest of World

$ 83.4 $ 96.3

Restructuring and impairment expenses, before tax 15.7 —

Adjusted Rest of World (non-GAAP) $ 99.1 $ 96.3

SMITH CORPORATION

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Diluted EPS (GAAP) $ 3.90 - 4.15 $ 3.69

Pension settlement expense — 1.60 (1)

Pension expense — 0.06 (2)

Legal judgment income — (0.05)

Terminated acquisition-related expenses — 0.02

Restructuring and impairment expenses — 0.12 (1)

Adjusted EPS (non-GAAP) $ 3.90 - 4.15 $ 3.81

(1) Includes pre-tax pension settlement expense of $346.8 million and $70.5 million, within the North America segment and Corporate expenses, respectively.

(2) Includes pre-tax pension expense of $9.7 million and $2.0 million, within the North America segment and Corporate expenses, respectively.

As we begin 2023, we expect our consolidated sales to be flat to 2022 with a range of plus or minus three percent.

Our sales projection is driven by expected lower industry residential unit volumes in North America and offset by anticipated increased boiler and water treatment sales in North America and higher sales in China.

(1) Includes pre-tax restructuring and impairment expenses of $15.7 million and $3.1 million, within the Rest of World segment and Corporate expenses, respectively.

As we begin 2024, we expect our consolidated sales to increase between three and five percent.

Our sales projection is driven by continued end-market demand in water heating and a rebound in boiler and water treatment volumes after 2023 corrections in end-market inventories.

In our Rest of the World segment, we see overall growth with stability in China as the economy continues to work through its challenges.

We expect to achieve full-year earnings of between $3.90 and $4.15 per share.

Our guidance excludes the impacts from potential future acquisitions.

OTHER MATTERS

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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.

Forward-looking statements address uncertain matters and include any statements that:

are not historical, such as statements about our strategy, financial plans, outlook, objectives, plans, intentions or goals (including those related to our social, environmental and other sustainability goals);

or address possible or future results of operations or financial performance, including statements relating to orders, revenues, operating margins and earnings per share growth.

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:

further softening in U.S.

softening in U.S.

residential water heater demand;

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the Company’s 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 the Company’s products, particularly commercial products, as a result of the severity and duration of the lingering effects of the COVID-19 pandemic;

negative impacts to demand for the Company’s products, particularly commercial products, as a result of changes in commercial property usage that followed the COVID-19 pandemic;

further weakening in U.S.

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inability of the Company 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 the Company’s business in China as a result of future COVID-19 related disruptions there;

negative impact to the Company's businesses from international tariffs, trade disputes and geopolitical differences, including the conflict in Ukraine;

potential weakening in the high-efficiency boiler segment in the U.S.;

inconsistent recovery of the Chinese economy or a further decline in the growth rate of consumer spending or housing sales in China;

negative impact to the Company’s businesses from international tariffs, trade disputes and geopolitical differences, including the conflicts in Ukraine, the Middle East and attacks on commercial shipping vessels in the Red Sea;

potential further weakening in the high-efficiency gas 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;

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the Company’s inability to successfully integrate or achieve its strategic objectives resulting from acquisitions;

competitive pressures on the Company’s businesses;

competitive pressures on the Company’s businesses, including new technologies and new competitors;

the impact of potential information technology or data security breaches;

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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 the Company is

under no obligation to update these statements to reflect subsequent events or circumstances.

Forward-looking statements included in this filing are made only as of the date of this filing, and the Company is under no obligation to update these statements to reflect subsequent events or circumstances.

All subsequent written and oral forward-looking statements attributed to the Company, or persons acting on its behalf, are qualified entirely by these cautionary statements.

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In addition, historical, current, and forward-looking social, environmental and sustainability-related statements may be based on standards for measuring progress that are still developing, internal controls and processes that continue to evolve, and assumptions that are subject to change in the future.

All forward-looking statements made herein are based on information currently available to us as of the date of this Report.

Any such forward-looking statements made herein are based on information currently available to us as of the date of this Report.

We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law.

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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