Item 7. Management’s Discussion and Analysis
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
The following information should be read in conjunction with the accompanying consolidated financial statements and related notes included in this Annual Report.
The following discussion may contain forward-looking statements that reflect our plans, estimates and beliefs. Our actual results could differ materially from those discussed in these forward-looking statements. Factors that could cause or contribute to these differences include those factors discussed below and elsewhere in this report, particularly in " Special Note Regarding Forward-Looking Statements and Information " and " Risk Factors " included elsewhere in this Annual Report. The percentages provided below reflect rounding adjustments. Accordingly, figures expressed as percentages when aggregated may not be the arithmetic sum of the percentages that precede them.
27
Business Factors Influencing our Results of Operations
We are a leading manufacturer of Electrical Raceway products primarily for the non-residential construction and renovation markets and MP&S for the construction and industrial markets. Electrical Raceway products form the critical infrastructure that enables the deployment, isolation and protection of a structure's electrical circuitry from the original power source to the final outlet. MP&S frame, support and secure component parts in a broad range of structures, equipment and systems in electrical, industrial and construction applications. We believe we hold #1 or #2 positions in the United States by net sales in the vast majority of our products. The quality of our products, the strength of our brands and our scale and presence provide what we believe to be a unique set of competitive advantages that position us for profitable growth.
The following factors may affect our results of operations in any given period:
Economic Conditions. Our business depends on demand from customers across various end markets, including wholesale distributors, OEMs , retail distributors and general contractors. Our products are primarily used by trade contractors in the construction and renovation of non-residential structures such as commercial office buildings, healthcare facilities and manufacturing plants. In fiscal 2020 , 89% of our net sales were to customers located in the United States. As a result, our business is heavily dependent on the health of the United States economy, in general, and on United States non-residential construction activity, in particular. A stronger United States economy and robust non-residential construction generally increase demand for our products.
We believe that our business and demand for our products is influenced by two main economic indicators: United States gross domestic product, or "GDP," and non-residential construction starts, measured in square footage. The United States non-residential construction market has experienced modest growth over the past few years, in line with United States GDP. Our historic results have been positively impacted by growth in the non-residential construction market, as such growth leads to greater demand for our products. MR&R activity generally increases and represents a greater share of non-residential construction activity during challenging periods in the economic or construction cycle. During those periods, our MR&R demand as a percentage of total demand typically increases, providing a more consistent revenue stream for our business.
Raw Materials. We use a variety of raw materials in the manufacture of our products, which primarily include steel, copper and PVC resin. We believe that sources for these raw materials are well established, generally available and are in sufficient quantity that we may avoid disruption in our business. The cost to procure these raw materials is subject to price fluctuations, often as a result of macroeconomic conditions. Our cost of sales may be affected by changes in the market price of these materials, and to a lesser extent, other commodities, such as zinc, aluminum, electricity, natural gas and diesel fuel. The prices at which we sell our products may adjust upward or downward based on raw material price changes. We believe several factors drive the pricing of our products, including the quality of our products, the ability to meet customer delivery expectations and co-loading capabilities, as well as the prices of our raw material inputs. Historically, we have not engaged in hedging strategies for raw material purchases. Our results may be impacted by inventory sales at costs higher or lower than current prices we pay for similar items.
Working Capital. Our working capital requirements are impacted by our operational activities. Our inventory levels may be impacted from time to time, due to delivery lead times from our suppliers. We are typically obligated to pay for our raw material purchases within 10 and 30 days of their receipt, while we typically receive payment 30 to 60 days from the point we have satisfied the related performance obligation to the customer. Our average working capital days during fiscal 2020 was 79 days.
Seasonality. In a typical year, our operating results are impacted by seasonality . Historically, sales of our products have been higher in the third and fourth quarters of each fiscal year due to favorable weather for construction-related activities.
Recent Acquisitions. In addition to our organic growth, we have transformed the Company through acquisitions in recent years, allowing us to expand our product offerings with existing and new customers. In accordance with accounting principles generally accepted in the United States of America ("GAAP"), the results of our acquisitions are reflected in our financial statements from the date of each acquisition forward.
Our acquisition strategy has focused primarily on growing market share by complementing our existing portfolio with synergistic products and expanding into end-markets that we have not previously served. In total, we have invested $101.5 million in acquisitions since 2018 .
28
On January 8, 2018, we acquired the assets of Communications Integrators, Inc. ("Cii"), a manufacturer of modular, prefabricated power, voice and data distribution systems.
On October 1, 2018, we acquired Vergokan International NV ("Vergokan") , a leading manufacturer of cable tray and cable ladder systems, underfloor installations and industrial floor trunking that serves industrial, power and energy, commercial and infrastructure sectors in more than 45 countries.
On June 3, 2019, we acquired the assets of United Structural Products, LLC. ("U.S. Tray"), a manufacturer of welded aluminum and engineered-to-order cable trays.
On August 12, 2019 we acquired Flytec Systems Ltd. ("Flytec"), a manufacturer of metal surface trunking, including IP4X, perimeter systems, pedestal boxes, as well as underfloor installations and industrial floor trunking.
On August 21, 2019 we acquired Rocky Mountain Colby Pipe ("Cor-Tek"), a manufacturer of PVC conduit for electrical applications considered a leading innovator in cellular core extrusion technology.
We expect to continue to pursue synergistic acquisitions as part of our growth strategy to expand our product offerings.
See Note 3, ''Acquisitions'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Divestitures and Restructurings. Since 2011, we have continuously evaluated our operations to ensure that we are investing resources strategically. Our assessment has included existing operating performance, required levels of investment to improve performance and the overall complexities of doing business in certain markets and geographic regions. After careful consideration, we streamlined our business through a combination of business divestitures, asset sales and the exit of certain product lines.
Foreign Currencies. In fiscal 2020 , approximately 11% of our net sales came from customers located outside the United States, most of which were foreign currency sales denominated in British pounds sterling, European euros, Canadian dollars, Australian dollars, Chinese yuan, Russian rubles and New Zealand dollars. The functional currency of our operations outside the United States is generally the local currency. Assets and liabilities of our non-U.S. subsidiaries are translated into United States dollars using period-end exchange rates. Foreign revenue and expenses are translated at the monthly average exchange rates in effect during the period. Foreign currency translation adjustments are included as a component of other comprehensive income (loss) within our statements of comprehensive income. See " Quantitative and Qualitative Disclosures about Market Risk — Foreign Currency Risk ."
See Note 1, ''Basis of Presentation and Summary of Significant Accounting Policies'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Emerging Industry Trends. In addition to United States GDP and non-residential construction starts, there are emerging industry trends that we believe will drive further demand for our products. These include new building technologies which enhance facility management, such as automation and LED lighting systems, as well as the rapid expansion of certain non-residential construction categories, for example, data centers. In recent years, technological advancements aimed at improving facility management have been driven by a number of factors, including integration and interoperability, the proliferation of the Internet and associated increases in data and power requirements and a desire to reduce costs through improved energy efficiency, lighting systems and operating effectiveness. We believe that these trends will drive greater needs for electrical capacity and circuitry, increasing the demand for many of our products. We also target high growth end-markets that are projected to experience rapid growth and to drive demand for our products, including our framing and support products. Based on third-party data, growth in the data center construction market in the United States is forecast to grow at a compound annual growth rate ("CAGR") of 7.9% to 10.0% between 2018 and 2022.
29
Reportable Segments
We operate our business through two operating segments which are also our reportable segments: Electrical Raceway and MP&S. Our operating segments are organized based on primary market channel and, in most instances, the end use of products. We review the results of our operating segments separately for the purposes of making decisions about resource allocation and performance assessment. We evaluate performance on the basis of net sales and Adjusted EBITDA. Both segments use Adjusted EBITDA as the primary measure of profit and loss. Segment Adjusted EBITDA is the income (loss) before income taxes, adjusted to exclude unallocated expenses, depreciation and amortization, interest expense, net, gain (loss) on extinguishment of debt, restructuring charges, stock-based compensation, certain legal matters, transaction costs, gain on purchase of business, gain on sale of a business and other items, such as inventory reserves and adjustments, loss on disposal of property, plant and equipment, insurance recovery related to damages of property, plant and equipment, release of indemnified uncertain tax positions, and realized or unrealized gain (loss) on foreign currency impacts of intercompany loans and related forward currency derivatives. See Note 20, ''Segment Information'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Fiscal Periods
The Company has a fiscal year that ends on September 30. The Company's fiscal quarters typically end on the last Friday in December, March and June as it follows a 4-5-4 calendar.
Key Components of Results of Operations
Net sales
Net sales represents external sales of Electrical Raceway products to the non-residential construction and MR&R markets and MP&S products and solutions to the commercial and industrial markets. Net sales includes gross product sales and freight billed to our customers, net of allowances for rebates, sales incentives, trade promotions, product returns and discounts.
Cost of sales
Cost of sales includes all costs directly related to the production of goods for sale. These costs include direct material, direct labor, production related overheads, excess and obsolescence costs, lower-of-cost-or-market provisions, freight and distribution costs and the depreciation and amortization of assets directly used in the production of goods for sale.
Selling, general and administrative expenses
Selling, general and administrative expenses include payroll related expenses including salaries, wages, employee benefits, payroll taxes, variable cash compensation for both administrative and selling personnel and consulting and professional services fees. Also included are compensation expense for share-based awards, restructuring-related charges, third-party professional services and translation gains or losses for foreign currency trade transactions.
30
Results of Operations
Fiscal 2020 Compared to Fiscal 2019
The results of operations for the fiscal years ended September 30, 2020 and September 30, 2019 were as follows:
Fiscal year ended
($ in thousands)
September 30, 2020
September 30, 2019
Change ($)
Change (%)
Net sales
$
1,765,421
$
1,916,538
$
(151,117
)
(7.9
)%
Cost of sales
1,274,107
1,419,338
(145,231
)
(10.2
)%
Gross profit
491,314
497,200
(5,886
)
(1.2
)%
Selling, general and administrative
219,496
240,660
(21,164
)
(8.8
)%
Intangible asset amortization
32,262
32,876
(614
)
(1.9
)%
Operating income
239,556
223,664
15,892
7.1
%
Interest expense, net
40,062
50,473
(10,411
)
(20.6
)%
Loss on extinguishment of debt
273
—
273
100.0
%
Other income, net
(2,777
)
(11,478
)
8,701
(75.8
)%
Income before income taxes
201,998
184,669
17,329
9.4
%
Income tax expense
49,696
45,618
4,078
8.9
%
Net income
$
152,302
$
139,051
$
13,251
9.5
%
Net sales
Change (%)
Volume
(7.3
)%
Average selling prices
(2.0
)%
Foreign exchange
(0.1
)%
Acquisitions
1.5
%
Net sales
(7.9
)%
Net sales for fiscal 2020 decreased $151.1 million to $1,765.4 million , a decrease of 7.9% , compared to $1,916.5 million for fiscal 2019 . The decrease is primarily attributed to lower volume of $140.3 million predominantly due to the impacts of COVID-19. The Company experienced volume declines in most of its product categories with the exception of the PVC electrical conduit and fittings product category within the Electrical Raceway segment and the mechanical pipe product category within the MP&S segment. Additionally, net sales decreased $37.7 million due to lower average selling prices resulting from lower input costs of steel, which was partially offset by higher average selling prices resulting from higher input costs of PVC resin and copper. The decrease in net sales was partially offset by $28.5 million of sales from the 2019 acquisitions.
31
Cost of sales
Change (%)
Volume
(7.3
)%
Average input costs
(3.9
)%
Foreign exchange
(0.3
)%
Acquisitions
1.9
%
Other
(0.6
)%
Cost of sales
(10.2
)%
Cost of sales decreased $145.2 million , or 10.2% , to $1,274.1 million for fiscal 2020 compared to $1,419.3 million for fiscal 2019 . The decrease was primarily due to lower volume of $103.8 million , the lower input costs of steel in excess of higher input costs of resin and copper of $54.9 million , and $10.3 million from favorable inventory adjustments related to changes in market prices. The decrease was partially offset by incremental costs related to the 2019 acquisitions of $26.7 million .
Selling, general and administrative
Selling, general and administrative expenses decreased $21.2 million , or 8.8% , to $219.5 million for fiscal 2020 compared to $240.7 million for fiscal 2019 . The decrease was primarily due to cost savings as a result of COVID-19, in particular lower variable compensation of $6.0 million , reduced travel costs of $5.1 million and lower insurance costs of $3.0 million . Additionally, due to sales volume declines associated with COVID-19, commissions expense decreased $2.4 million . Lastly, the Company had a gain on the sale of property and equipment of $3.8 million offsetting expenses during fiscal 2020.
Intangible asset amortization
Intangible asset amortization expense decreased $0.6 million , or 1.9% , to $32.3 million for fiscal 2020 compared to $32.9 million for fiscal 2019 . The decrease in intangible asset amortization is primarily due to certain assets that reached the end of their amortized lives by the conclusion of fiscal 2019, partially offset by additional amortization resulting from the fiscal 2019 acquisitions.
Interest expense, net
Interest expense, net, decreased $10.4 million , or 20.6% to $40.1 million for fiscal 2020 , compared to $50.5 million for fiscal 2019 . The decrease is primarily due to lower interest rates and the Company's principal payments in fiscal 2019 and 2020 resulting in a lower principal balance in fiscal 2020 from which interest expense was derived. See Note 15, ''Debt'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Other income, net
Other income, net decreased $8.7 million to income of $2.8 million for fiscal 2020, compared to income of $11.5 million for fiscal 2019, primarily due to the $7.4 million of income generated from a bargain purchase gain on the acquisition of Cor-Tek in fiscal 2019. See Note 3, ''Acquisitions'' and Note 8, ''Other Income, net'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Income tax expense
Income tax expense increased $4.1 million to $49.7 million , compared to $45.6 million for fiscal 2019 . The Company's income tax rate decreased to 24.6% for fiscal 2020 , compared to 24.7% for fiscal 2019 . The decrease in the effective tax rate was primarily due a larger benefit from the exercise of stock options. The increase in tax expense, despite the decrease in the rate, is due to higher income before taxes. See Note 9, ''Income Taxes'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
32
Segment results
Electrical Raceway
Fiscal year ended
($ in thousands)
September 30, 2020
September 30, 2019
Change ($)
Change (%)
Net sales
$
1,331,275
$
1,443,493
$
(112,218
)
(7.8
)%
Adjusted EBITDA
299,485
292,585
6,900
2.4
%
Adjusted EBITDA Margin
22.5
%
20.3
%
Net sales
Change (%)
Volume
(9.2
)%
Average selling prices
(0.6
)%
Foreign exchange
(0.1
)%
Acquisitions
2.0
%
Other
0.1
%
Net sales
(7.8
)%
Net sales decreased by $112.2 million , or 7.8% , to $1,331.3 million for fiscal 2020 compared to $1,443.5 million for fiscal 2019 . Net sales decreased by $132.9 million due to lower volume primarily attributed to the impacts of COVID-19. The Electrical Raceway segment experienced declines predominately in the armored cable and fittings and the metal electrical conduit and fittings product categories, partially offset by volume gains in the PVC electrical conduit and fittings product category. Additionally, net sales decreased by $8.6 million as a result of lower average selling prices resulting from lower input costs of steel, partially offset by higher input costs for resin and copper. The decrease in net sales was also partially offset by the 2019 acquisitions, which contributed $28.5 million in sales for fiscal 2020.
Adjusted EBITDA
Adjusted EBITDA increased $6.9 million , or 2.4% , to $299.5 million for fiscal 2020 compared to $292.6 million for fiscal 2019 . The increase in Adjusted EBITDA was largely due to the benefit of lower material costs, operational efficiencies, and the contributions from the 2019 acquisitions, in excess of volume declines attributed to COVID-19.
Mechanical Products & Solutions
Fiscal year ended
($ in thousands)
September 30, 2020
September 30, 2019
Change ($)
Change (%)
Net sales
$
436,700
$
474,260
$
(37,560
)
(7.9
)%
Adjusted EBITDA
$
61,152
$
70,040
$
(8,888
)
(12.7
)%
Adjusted EBITDA Margin
14.0
%
14.8
%
Net sales
Change (%)
Volume
(1.6
)%
Average selling prices
(6.1
)
Other
(0.2
)
Net sales
(7.9
)%
Net sales decreased $37.6 million , or 7.9% , to $436.7 million for fiscal 2020 compared to $474.3 million for fiscal 2019 . The decrease was primarily due to lower average selling prices driven by lower input prices for steel of $29.1 million . Additionally, net sales decreased from lower sales volume of $7.5 million as a result of the impacts of COVID-19 for most product categories with the exception of the mechanical pipe product category.
33
Adjusted EBITDA
Adjusted EBITDA decreased $8.9 million , or 12.7% , to $61.2 million for fiscal 2020 compared to $70.0 million for fiscal 2019 . The Adjusted EBITDA decrease is primarily due to the lower volume and the mix of products sold in the prior year period, partially offset by cost reductions in response to the impacts of COVID-19 on volume.
Fiscal 2019 Compared to Fiscal 2018
The results of operations for the fiscal years ended September 30, 2019 and September 30, 2018 were as follows:
Fiscal year ended
($ in thousands)
September 30, 2019
September 30, 2018
Change ($)
Change (%)
Net sales
$
1,916,538
$
1,835,139
$
81,399
4.4
%
Cost of sales
$
1,419,338
$
1,397,055
22,283
1.6
%
Gross profit
$
497,200
$
438,084
59,116
13.5
%
Selling, general and administrative
$
240,660
$
226,282
14,378
6.4
%
Intangible asset amortization
$
32,876
$
32,104
772
2.4
%
Operating income
$
223,664
$
179,698
43,966
24.5
%
Interest expense, net
$
50,473
$
40,694
9,779
24.0
%
Other income, net
$
(11,478
)
$
(27,348
)
15,870
(58.0
)%
Income before income taxes
$
184,669
$
166,352
18,317
11.0
%
Income tax expense
$
45,618
$
29,707
15,911
53.6
%
Net income
$
139,051
$
136,645
$
2,406
1.8
%
Net sales
Change (%)
Volume
1.4
%
Average selling prices
0.9
%
Foreign exchange
(0.5
)%
Acquisitions
2.6
%
Net sales
4.4
%
Net sales for fiscal 2019 increased $81.4 million to $1,916.5 million , an increase of 4.4% compared to $1,835.1 million for fiscal 2018 . Net sales increased $46.8 million due to higher sales resulting from the 2019 acquisitions, net of a decrease of $9.4 million resulting from the divestiture of Flexhead. Additionally, net sales increased $24.8 million from higher sales volumes primarily in the Electric Raceway segment. Net sales also increased by $16.8 million due to higher average selling prices resulting from higher market prices for all product categories primarily in the Mechanical Products & Solutions segment.
Cost of sales
Change (%)
Volume
1.2
%
Average input costs
(3.4
)%
Foreign exchange
(0.4
)%
Acquisitions
2.7
%
Other
1.5
%
Cost of sales
1.6
%
34
Cost of sales increased $22.3 million , or 1.6% to $1,419.3 million for fiscal 2019 compared to $1,397.1 million for fiscal 2018 . The increase was primarily due to additional costs of $38.3 million resulting from the 2019 acquisitions, net of the reduction of costs resulting from the FlexHead divestiture of $6.3 million . Additionally, the increase was due to inventory adjustments related to changes in market prices of $9.8 million as well as volume increases of $17.2 million million and higher freight costs of $8.0 million . These increases were partially offset by $48.0 million of lower material input costs primarily driven by lower steel costs.
Selling, general and administrative
Selling, general and administrative expenses increased $14.4 million , or 6.4%, to $240.7 million for fiscal 2019 compared to $226.3 million for fiscal 2018. The increase was primarily due to additional selling, general and administrative costs of $5.9 million resulting from the 2019 acquisitions and $4.8 million of increased spending on productivity initiatives and growth investments, partially offset by a $2.8 million decrease in stock-based compensation expense driven by higher forfeitures.
Intangible asset amortization
Intangible asset amortization expense increased $0.8 million , or 2.4% to $32.9 million for fiscal 2019 compared to $32.1 million for fiscal 2018 due to the 2019 acquisitions, partially offset by the sale of the assets of FlexHead. See Note 3, ''Acquisitions'' and Note 4, ''Divestitures'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Interest expense, net
Interest expense, net, increased $9.8 million , or 24.0% to $50.5 million for fiscal 2019 , compared to $40.7 million for fiscal 2018 . The increase is primarily due to our debt refinancing transactions on February 2, 2018 , which resulted in additional borrowings of $425.0 million . See Note 15, ''Debt'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Other income, net
Other income, net decreased $15.9 million , or 58.0% , to income of $11.5 million for fiscal 2019, compared to income of $27.3 million for fiscal 2018, primarily due to the prior year gain on the sale of FlexHead of $27.6 million versus the $7.4 million of income generated from a bargain purchase gain on the acquisition of Cor-Tek in fiscal 2019. This decrease is partially offset by gains from undesignated foreign currency derivative instruments of $5.4 million in fiscal 2019 versus gains of $0.1 million in fiscal 2018. See Note 3, ''Acquisitions'', Note 4, ''Divestitures'' and Note 8, ''Other Income, net'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Income tax expense
Income tax expense increased $15.9 million , to $45.6 million , compared to $29.7 million for fiscal 2018 . The Company's income tax rate increased to 24.7% for fiscal 2019 , compared to 17.9% for fiscal 2018 . The increase in the effective tax rate was primarily due to the increase of the state income tax expense, the prior year tax benefits related to the remeasurement of the deferred tax liabilities as a result of the TCJA and the Section 199 deduction, and a larger prior year net tax benefit from the release of indemnified tax positions and exercise of stock options. See Note 9, ''Income Taxes'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
35
Segment results
Electrical Raceway
Fiscal year ended
($ in thousands)
September 30, 2019
September 30, 2018
Change ($)
Change (%)
Net sales
$
1,443,493
$
1,366,611
$
76,882
5.6
%
Adjusted EBITDA
292,585
255,260
37,325
14.6
%
Adjusted EBITDA Margin
20.3
%
18.7
%
Net sales
Change (%)
Volume
2.0
%
Foreign exchange
(0.5
)%
Acquisitions
4.1
%
Net sales
5.6
%
Net sales increased $76.9 million , or 5.6% , to $1,443.5 million for fiscal 2019 compared to $1,366.6 million for fiscal 2018 . Net sales increased by $56.2 million due to higher sales resulting from the acquisitions during fiscal 2019. Additionally, net sales increased $26.9 million due to higher sales volumes primarily within the flexible electrical and PVC electrical conduit and fittings product categories.
Adjusted EBITDA
Adjusted EBITDA increased $37.3 million , or 14.6% , to $292.6 million for fiscal 2019 compared to $255.3 million for fiscal 2018 . The increase was largely due to $15.0 million of incremental income from higher sales, operational efficiencies of
$12.5 million and $7.3 million of incremental income resulting from the 2019 acquisitions.
.
Mechanical Products & Solutions
Fiscal year ended
($ in thousands)
September 30, 2019
September 30, 2018
Change ($)
Change (%)
Net sales
$
474,260
$
470,153
$
4,107
0.9
%
Adjusted EBITDA
$
70,040
$
51,339
$
18,701
36.4
%
Adjusted EBITDA Margin
14.8
%
10.9
%
Net sales
Change (%)
Volume
(0.5
)%
Average selling prices
3.4
%
Divestiture
(2.0
)%
Net sales
0.9
%
Net sales increased $4.1 million , or 0.9% , to $474.3 million for fiscal 2019 compared to $470.2 million for fiscal 2018 . The increase was primarily due to higher average selling prices driven by higher market prices for all product categories
of $16.2 million , partially offset by a reduction of $9.4 million due to the sale of FlexHead in the second quarter of fiscal 2018
as well as a reduction of $2.5 million from lower sales volumes primarily within the mechanical pipe product category.
.
36
Adjusted EBITDA
Adjusted EBITDA increased $18.7 million , or 36.4% , to $70.0 million for fiscal 2019 compared to $51.3 million for fiscal 2018 . Adjusted EBITDA increased primarily due to higher gross profit of $15.0 million and $3.8 million of operational
efficiencies, partially offset by a reduction of $1.9 million due to the sale of FlexHead in the second quarter of fiscal 2018.
Liquidity and Capital Resources
We believe we have sufficient liquidity to support our ongoing operations and to invest in future growth and create value for stockholders. Our cash and cash equivalents were $284.5 million as of September 30, 2020 , of which $63 million was held at non-U.S. subsidiaries. Those cash balances at foreign subsidiaries may be subject to withholding or local country taxes if the Company's intention to permanently reinvest such income were to change and cash was repatriated to the United States. Our cash and cash equivalents increased $161.1 million from September 30, 2019 , primarily due to cash provided from operating activities, partially offset by debt repayments, capital expenditures and share repurchases.
In general, we require cash to fund working capital investments, acquisitions, capital expenditures, debt repayment, interest payments, taxes and share repurchases. We have access to the ABL Credit Facility to fund our operational needs. As of September 30, 2020 , there were no outstanding borrowings under the ABL Credit Facility (excluding $9.5 million of standby letters of credit issued under the ABL Credit Facility ). The borrowing base was estimated to be $275.4 million and approximately $265.9 million was available under the ABL Credit Facility as of September 30, 2020 .
Our use of cash may fluctuate during the year and from year to year due to differences in demand and changes in economic conditions primarily related to the prices of commodities we purchase.
Capital expenditures have historically been necessary to expand and update the production capacity and improve the productivity of our manufacturing operations.
Our ongoing liquidity needs are expected to be funded by cash on hand, net cash provided by operating activities and, as required, borrowings under the Credit Facilities. We expect that cash provided from operations and available capacity under the ABL Credit Facility will provide sufficient funds to operate our business, make expected capital expenditures and meet our liquidity requirements for at least the next twelve months, including payment of interest and principal on our debt.
Limitations on Distributions and Dividends by Subsidiaries
AIG, AII, and AIH are each holding companies, and as such have no independent operations or material assets other than ownership of equity interests in their respective subsidiaries. Each company depends on its respective subsidiaries to distribute funds to them so that they may pay obligations and expenses, including satisfying obligations with respect to indebtedness. The ability of our subsidiaries to make distributions and dividends to us depends on their operating results, cash requirements and financial and general business conditions, as well as restrictions under the laws of our subsidiaries' jurisdictions.
The agreements governing the Credit Facilities significantly restrict the ability of our subsidiaries, including AII, to pay dividends, make loans or otherwise transfer assets from AII and, in turn, to us. Further, AII's subsidiaries are permitted under the terms of the Credit Facilities to incur additional indebtedness that may restrict or prohibit the making of distributions, the payment of dividends or the making of loans by such subsidiaries to AII and, in turn, to us. The First Lien Term Loan Facility requires AII to meet a certain consolidated coverage ratio on an incurrence basis in connection with additional indebtedness. The ABL Credit Facility contains limits on additional indebtedness based on various conditions for incurring the additional debt. AII has been in compliance with the covenants under the agreements for all periods presented. See Note 15, ''Debt'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
37
Cash Flows
The table below summarizes cash flow information derived from our statements of cash flows for the fiscal years ended September 30, 2020 and September 30, 2019 .
Fiscal year ended
(in thousands)
September 30, 2020
September 30, 2019
Change ($)
Change (%)
Cash flows provided by (used in):
Operating activities
$
248,762
$
209,694
$
39,068
18.6
%
Investing activities
(27,513
)
(133,101
)
105,588
(79.3
)%
Financing activities
(61,179
)
(78,180
)
17,001
(21.7
)%
Operating activities
During fiscal 2020 , operating activities provided $248.8 million of cash, compared to $209.7 million during fiscal year 2019 . The $39.1 million increase was primarily due to lower spending on working capital of $19.2 million driven by improved collections and reduced purchases of inventory at lower prices as well as improved operating income of $15.9 million , see "Results of Operations."
Investing activities
During fiscal 2020 , we used $27.5 million of cash for investing activities compared to $133.1 million during fiscal 2019 . The $105.6 million decrease in cash used by investing activities is due primarily $98.0 million in cash used for acquisitions in fiscal 2019 as well as the cash received from the sale of a property, plant and equipment in fiscal 2020 of $3.9 million .
Financing Activities
During fiscal 2020 , we used $61.2 million for financing activities compared to $78.2 million during fiscal 2019. Financing activities decreased $17.0 million due to a reduction in debt repayments of $21.0 million compared to fiscal 2019.
The table below summarizes cash flow information derived from our statements of cash flows for the fiscal years ended September 30, 2019 and September 30, 2018 .
Fiscal year ended
(in thousands)
September 30, 2019
September 30, 2018
Change ($)
Change (%)
Cash flows provided by (used in):
Operating activities
$
209,694
$
145,703
63,991
43.9
%
Investing activities
(133,101
)
2,514
(135,615
)
(5,394.4
)%
Financing activities
(78,180
)
(65,931
)
(12,249
)
18.6
%
Operating activities
During fiscal 2019 , operating activities provided $209.7 million of cash, compared to $145.7 million during fiscal year 2018 . The $64.0 million increase was primarily due to improved operating income of $44.0 million and working capital improvements $31.0 million , see "Results of Operations." as well as lower spending on working capital driven by improved collections as well as reduced purchases of inventory at lower prices.
Investing activities
During fiscal 2019 , we used $133.1 million of cash of investing activities compared to $2.5 million provided by investing activities during fiscal 2018 . The $135.6 million increase in cash used by investing activities is due primarily to $98.0 million in cash used for acquisitions in fiscal 2019 compared to $3.5 million in fiscal 2018 as well as the cash received from the sale of a business in fiscal 2018 of $42.6 million .
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Financing Activities
During fiscal 2019 , we used $78.2 million for financing activities compared to $65.9 million in fiscal 2018 . The $12.2 million increase was due to the decrease in borrowings net of repayments of $392.8 million in fiscal 2019 which includes the voluntary accelerated prepayment of $40.0 million on our First Lien Term Loan Facility in the fourth quarter of fiscal 2019. Additionally, there was the incremental decrease in issuance of common stock of $12.7 million in fiscal 2019 compared to fiscal 2018, partially offset by a decrease in share repurchases of $387.4 million in fiscal 2019 compared to fiscal 2018.
Contractual Obligations
The following table presents our contractual obligations and commitments as of September 30, 2020 .
($ in thousands)
Less than 1 Year
1-3 Years
3-5 Years
More than 5 Years
Total
First Lien Term Loan Facility due December 22, 2023
$
—
$
—
$
812,120
$
—
$
812,120
Interest payments (a)
37,887
106,002
12,714
—
156,603
Purchase commitments (b)
130,923
1,841
—
—
132,764
Total (c)
$
168,810
$
107,843
$
824,834
$
—
$
1,101,487
(a) Interest expense is estimated based on outstanding loan balances assuming principal payments are made according to the payment schedule and interest rates as of September 30, 2020 (3.75% for the First Lien Term Loan Facility).
(b) Represents purchases of raw materials in the normal course of business for which all significant terms have been confirmed.
(c) As of September 30, 2020, we had $1.4 million of income tax liability, gross unrecognized tax benefits of $1.4 million and gross interest and penalties of $0.2 million. Of these amounts, $1.6 million is classified as a non-current liability in the consolidated balance sheet. At this time, we are unable to make a reasonably reliable estimate of the timing for such payments in future years; therefore, such amounts have been excluded from the above contractual obligations table.
The ABL Credit Facility provides for a three-year senior secured revolving credit facility of up to $325.0 million . As of September 30, 2020 , there were no borrowings under the ABL Credit Facility. We have the ability to continually refinance amounts drawn on the ABL Credit Facility through its maturity on August 28, 2023 , subject to borrowing base limitations.
The projected company pension contributions for fiscal 2021 is $1.9 million .
In the normal course of business, we are liable for contract completion and product performance. In the opinion of management, such obligations will not significantly affect our financial condition, results of operations or cash flows.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet financing arrangements that we believe are reasonably likely to have a material current or future effect on our financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.
Critical Accounting Policies and Use of Estimates
The preparation of financial statements requires management to make estimates and assumptions relating to the reporting of results of operations, financial condition and related disclosure of contingent assets and liabilities at the date of the financial statements. Actual results may differ from those estimates under different assumptions or conditions. The following are our most critical accounting policies, which are those that require management's most difficult, subjective and complex judgments, requiring the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods.
The following discussion is not intended to represent a comprehensive list of our accounting policies. For a detailed discussion of the application of these and other accounting policies, see Note 1, ''Basis of Presentation and Summary of Significant Accounting Policies'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
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Revenue Recognition
The Company’s revenue arrangements primarily consist of a single performance obligation to transfer promised goods which is satisfied at a point in time when title, risks and rewards of ownership, and subsequently control have transferred to the customer. This generally occurs when the product is shipped to the customer, with an immaterial amount of transactions in which control transfers upon delivery. The Company primarily offers assurance-type standard warranties that do not represent separate performance obligations.
The Company has certain arrangements that require it to estimate at the time of sale the amounts of variable consideration that should not be recorded as revenue as certain amounts are not expected to be collected from customers, as well as an estimate of the value of products to be returned. The Company principally relies on historical experience, specific customer agreements, and anticipated future trends to estimate these amounts at the time of sale and to reduce the transaction price. These arrangements include sales discounts and allowances, volume rebates, and returned goods. Historically, adjustments related to these estimates have not been material.
Income Taxes
In determining income for financial statement purposes, we must make certain estimates and judgments. These estimates and judgments affect the calculation of certain tax liabilities and the determination of the recoverability of certain deferred tax assets, which arise from temporary differences between the tax and financial statement recognition of revenue and expense. Certain deferred tax assets are reviewed for recoverability and valued accordingly, considering available positive and negative evidence, including our past results, estimated future taxable income streams and the impact of tax planning strategies in the applicable tax paying jurisdiction. A valuation allowance is established to reduce deferred tax assets to the amount that is considered more likely than not to be realized. Valuations related to tax accruals and assets can be impacted by changes in accounting regulations, changes in tax codes and rulings, changes in statutory tax rates, and changes in our forecasted future taxable income. Any reduction in future taxable income, including but not limited to any future restructuring activities, may require that we record an additional valuation allowance against our deferred tax assets. An increase in the valuation allowance could result in additional income tax expense in such period and could have a significant impact on our future earnings.
In addition, the calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations in a multitude of jurisdictions across our global operations. Certain tax positions may be considered uncertain requiring an assessment of whether an allowance should be recorded. Our provision for uncertain tax positions provides a recognition threshold based on an estimate of whether it is more likely than not that a position will be sustained upon examination. We measure our uncertain tax position as the largest amount of benefit that has greater than a 50% likelihood of being realized upon ultimate settlement. We record interest and penalties related to unrecognized tax benefits as a component of provision for income taxes.
We recognize potential liabilities and record tax liabilities for anticipated tax audit issues in the United States and other tax jurisdictions based on our estimate of whether, and the extent to which, additional taxes will be due. These tax liabilities are reflected net of related tax loss carryforwards. We adjust these reserves in light of changing facts and circumstances; however, due to the complexity of some of these uncertainties, the ultimate resolution may result in a payment that is materially different from our current estimate of the tax liabilities. If our estimate of tax liabilities proves to be less than the ultimate assessment, an additional charge to expense would result. If payment of these amounts ultimately proves to be less than the recorded amounts, the reversal of the liabilities would result in tax benefits being recognized in the period when we determine the liabilities are no longer necessary. See Note 9, ''Income Taxes'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Pension and Postretirement Benefits
Our pension expense and obligations are developed from actuarial valuations. Two critical assumptions in determining pension expense and obligations are the discount rate and expected long-term return on plan assets. We evaluate these assumptions at least annually. Other assumptions reflect demographic factors such as retirement, mortality and turnover and are evaluated periodically and updated to reflect our actual experience. Actual results may differ from actuarial assumptions. The following table summarizes the impact of a 50 basis point increase of these assumptions on our operating income for fiscal 2020 :
40
(in millions)
Operating Income
Discount rate
$(0.1)
Return on assets
$0.5
See Note 5, ''Postretirement Benefits'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Indefinite-Lived Intangible Assets and Goodwill Impairments
Goodwill and other intangible assets primarily result from business acquisitions. The Company assesses the recoverability of goodwill and indefinite-lived trade names on an annual basis in accordance with Accounting Standards Codification ("ASC") 350 "Intangibles - Goodwill and Other." The measurement date is the first day of the fourth fiscal quarter, or more frequently, if events or circumstances indicate that it is more likely than not that the fair value of a reporting unit or the respective indefinite-lived trade name is less than the carrying value. The Company can elect to perform a quantitative or qualitative test of impairment.
For fiscal 2020, 2019 and 2018 Company performed a quantitative impairment assessment for goodwill. Additionally, the economic impacts of the COVID-19 outbreak were more substantial for the Company’s reporting unit related to its operations in Europe, Middle East, and Africa (EMEA), due to the cross-border transactions that occur within those operations, the cross-border interactions needed to fully realize the synergies associated with recent in-region acquisitions and the COVID-19 related closing of these borders. The Company deemed the economic related developments of the outbreak to be a triggering event for the EMEA reporting unit as of March 27, 2020 and performed an interim goodwill impairment test as of that date. The Company calculated the fair value of its six reporting units considering three valuation approaches: (a) the income approach; (b) the guideline public company method; and (c) the comparable transaction method. The income approach calculates the fair value of the reporting unit using a discounted cash flow approach. Internally forecasted future cash flows, which the Company believes reasonably approximate market participant assumptions, are discounted using a weighted average cost of capital (Discount Rate) developed for each reporting unit. The Discount Rate is developed using market observable inputs, as well as considering whether or not there is a measure of risk related to the specific reporting unit’s forecasted performance. The key uncertainties in these calculations are the assumptions used in determining the reporting unit’s forecasted future performance, including revenue growth and EBITDA margins, as well as the perceived risk associated with those forecasts, along with selecting representative market multiples. Fair value under the guideline public company method is determined for each reporting unit by applying market multiples for comparable public companies to the reporting unit’s financial results. Fair value under the comparable transaction method is determined based on exchange prices in actual transactions and on asking prices for controlling interests in public or private companies currently offered for sale by applying market multiples for comparable public companies to the unit’s financial results. The key uncertainties in the guideline public company method and the comparable transaction method calculations are the assumptions used in determining the reporting unit's comparable public companies, comparable transactions and the selection of the market multiples.
The Company did not record any goodwill impairments in fiscal 2020, 2019 or 2018. As of September 30, 2020, the fair values of the reporting units exceeded their respective carrying amount by 10% or more. A 10% decrease in the discounted cash flows utilized in quantitative impairment assessment for each of the reporting units would not have changed our determination that the fair value of each reporting unit was in excess of its carrying value.
As noted above, ASC 350 also requires that the Company test the indefinite-lived intangible assets for impairment at least annually. Under ASC 350, if the carrying value of the indefinite-lived asset is higher than its fair value, then the asset is deemed to be impaired and the impairment charge is estimated as the excess carrying value over the fair value. The Company calculated the fair value of its indefinite-lived intangible assets using the income approach, specifically the relief-from-royalty method. The relief-from-royalty method is used to estimate the cost savings that accrue to the owner of an intangible asset who would otherwise have to pay royalties or license fees on revenues earned through the use of the asset. Internally forecasted revenues, which the Company believes reasonably approximate market participant assumptions, are multiplied by a royalty rate to arrive at the estimated net after tax cost savings. The royalty rate used in the analysis is based on an analysis of empirical, market-derived royalty rates for guideline intangible assets. The net after tax cost savings are discounted using the Discount Rate. The Discount Rate is developed using market observable inputs, as well as considering whether or not there is a measure of risk related to the specific indefinite lived intangible assets' forecasted performance. The key uncertainties in these calculations are the assumptions used in determining the revenue associated with each indefinite-lived intangible asset and the royalty rate.
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During fiscal year 2020, 2019, and 2018 the results indicated all indefinite-lived intangible assets had significant excess of fair value over the carrying value. A reasonably possible change in the estimated revenues associated with the indefinite-lived intangible assets, selected royalty rates or the residual growth rate would not result in an impairment of any of these assets.
Inventories
We account for inventory valuation for a majority of the Company using the last-in, first-out ("LIFO") method measured at the lower of cost or market value. We utilize the LIFO method of valuing inventories because it reflects how we monitor and manage our business and it matches current costs and revenues. Valuation of inventory using the LIFO method is made at the end of our fiscal year based on inventory levels and costs at that time. Accordingly, interim LIFO calculations are based on estimates of expected year-end inventory levels and costs. Other inventories, consisting mostly of foreign inventories, are measured using first-in, first-out ("FIFO") costing methods. Inventory cost, regardless of valuation method, includes direct material, direct labor and manufacturing overhead costs. In circumstances where inventory levels are in excess of anticipated market demand, where inventory is deemed technologically obsolete or not marketable due to its condition or where the inventory cost for an item exceeds its market value, we record a charge to cost of goods sold and reduce the inventory to its market value.
Recent Accounting Pronouncements
See Note 1, ''Basis of Presentation and Summary of Significant Accounting Policies'' to the accompanying consolidated financial statements included elsewhere in this Annual Report.
Special Note Regarding Forward-Looking Statements and Information
This Annual Report on Form 10-K contains forward-looking statements and cautionary statements within the meaning of the Private Securities Litigation Reform Act of 1995 that are based on management's beliefs and assumptions and information currently available to management. Some of the forward-looking statements can be identified by the use of forward-looking terms such as "believes," "expects," "may," "will," "shall," "should," "would," "could," "seeks," "aims," "projects," "is optimistic," "intends," "plans," "estimates," "anticipates" or other comparable terms. Forward-looking statements include, without limitation, all matters that are not historical facts. They appear in a number of places throughout this Annual Report and include, without limitation, statements regarding our intentions, beliefs, assumptions or current expectations concerning, among other things, financial position; results of operations; cash flows; prospects; growth strategies or expectations; customer retention; the outcome (by judgment or settlement) and costs of legal, administrative or regulatory proceedings, investigations or inspections, including, without limitation, collective, representative or class action litigation; and the impact of prevailing economic conditions.
Forward-looking statements are subject to known and unknown risks and uncertainties, many of which may be beyond our control. We caution you that forward-looking statements are not guarantees of future performance or outcomes and that actual performance and outcomes, including, without limitation, our actual results of operations, financial condition and liquidity, and the development of the market in which we operate, may differ materially from those made in or suggested by the forward-looking statements contained in this Annual Report. In addition, even if our results of operations, financial condition and cash flows, and the development of the market in which we operate, are consistent with the forward-looking statements contained in this Annual Report, those results or developments may not be indicative of results or developments in subsequent periods. A number of important factors, including, without limitation, the risks and uncertainties discussed or referenced under the captions " Risk Factors " and " Management's Discussion and Analysis of Financial Condition and Results of Operations " in our Annual Reports on Form 10-K and Quarterly Reports on Form 10-Q, could cause actual results and outcomes to differ materially from those reflected in the forward-looking statements. Additional factors that could cause actual results and outcomes to differ from those reflected in forward-looking statements include, without limitation:
•
declines in, and uncertainty regarding, the general business and economic conditions in the United States and international markets in which we operate;
•
weakness or another downturn in the United States non-residential construction industry;
•
widespread outbreak of diseases, such as the novel coronavirus (COVID-19) pandemic;
•
changes in prices of raw materials;
•
pricing pressure, reduced profitability, or loss of market share due to intense competition;
•
availability and cost of third-party freight carriers and energy;
•
high levels of imports of products similar to those manufactured by us;
•
changes in federal, state, local and international governmental regulations and trade policies;
•
adverse weather conditions;
42
•
increased costs relating to future capital and operating expenditures to maintain compliance with environmental, health and safety laws;
•
reduced spending by, deterioration in the financial condition of, or other adverse developments, including inability or unwillingness to pay our invoices on time, with respect to one or more of our top customers;
•
increases in our working capital needs, which are substantial and fluctuate based on economic activity and the market prices for our main raw materials, including as a result of failure to collect, or delays in the collection of, cash from the sale of manufactured products;
•
work stoppage or other interruptions of production at our facilities as a result of disputes under existing collective bargaining agreements with labor unions or in connection with negotiations of new collective bargaining agreements, as a result of supplier financial distress, or for other reasons;
•
changes in our financial obligations relating to pension plans that we maintain in the United States;
•
reduced production or distribution capacity due to interruptions in the operations of our facilities or those of our key suppliers;
•
loss of a substantial number of our third-party agents or distributors or a dramatic deviation from the amount of sales they generate;
•
security threats, attacks, or other disruptions to our information systems, or failure to comply with complex network security, data privacy and other legal obligations or the failure to protect sensitive information;
•
possible impairment of goodwill or other long-lived assets as a result of future triggering events, such as declines in our cash flow projections or customer demand and changes in our business and valuation assumptions;
•
safety and labor risks associated with the manufacture and in the testing of our products;
•
product liability, construction defect and warranty claims and litigation relating to our various products, as well as government inquiries and investigations, and consumer, employment, tort and other legal proceedings;
•
our ability to protect our intellectual property and other material proprietary rights;
•
risks inherent in doing business internationally;
•
changes in foreign laws and legal systems, including as a result of Brexit;
•
our inability to introduce new products effectively or implement our innovation strategies;
•
our inability to continue importing raw materials, component parts and/or finished goods;
•
the incurrence of liabilities and the issuance of additional debt or equity in connection with acquisitions, joint ventures or divestitures and the failure of indemnification provisions in our acquisition agreements to fully protect us from unexpected liabilities;
•
failure to manage acquisitions successfully, including identifying, evaluating, and valuing acquisition targets and integrating acquired companies, businesses or assets;
•
the incurrence of additional expenses, increase in complexity of our supply chain and potential damage to our reputation with customers resulting from regulations related to "conflict minerals";
•
disruptions or impediments to the receipt of sufficient raw materials resulting from various anti-terrorism security measures;
•
restrictions contained in our debt agreements;
•
failure to generate cash sufficient to pay the principal of, interest on, or other amounts due on our debt;
•
challenges attracting and retaining key personnel or high-quality employees;
•
future changes to tax legislation;
•
failure to generate sufficient cash flow from operations or to raise sufficient funds in the capital markets to satisfy existing obligations and support the development of our business; and
•
other risks and factors described in this report and from time to time in documents that we file with the SEC.
You should read this Annual Report completely and with the understanding that actual future results may be materially different from expectations. All forward-looking statements attributable to us or persons acting on our behalf that are made in this Annual Report are qualified in their entirety by these cautionary statements. These forward-looking statements are made only as of the date of this Annual Report, and we do not undertake any obligation, other than as may be required by law, to update or revise any forward-looking or cautionary statements to reflect changes in assumptions, the occurrence of events, unanticipated or otherwise, and changes in future operating results over time or otherwise.
Comparisons of results for current and any prior periods are not intended to express any future trends, or indications of future performance, unless expressed as such, and should only be viewed as historical data.
43
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.