Item 7. Management’s Discussion and Analysis
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
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You should read the following discussion of our financial condition and results of operations in conjunction with the financial statements and the notes thereto included in Financial Statements under Item 1 within this Annual Report. The following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. See Cautionary Statement Concerning Forward-Looking Information.
BUSINESS OVERVIEW
B&W is a growing, globally-focused renewable, environmental and thermal technologies provider with over 150 years of experience providing diversified energy and emissions control solutions to a broad range of industrial, electrical utility, municipal and other customers. B&W’s innovative products and services are organized into three market-facing segments. Our reportable segments are as follows:
• Babcock & Wilcox Renewable: Cost-effective technologies for efficient and environmentally sustainable power and heat generation, including waste-to-energy, solar construction and installation, biomass energy and black liquor systems for the pulp and paper industry. B&W’s leading technologies support a circular economy, diverting waste from landfills to use for power generation and replacing fossil fuels, while recovering metals and reducing emissions.
• Babcock & Wilcox Environmental: A full suite of best-in-class emissions control and environmental technology solutions for utility, waste to energy, biomass, carbon black, and industrial steam generation applications around the world. B&W’s broad experience includes systems for cooling, ash handling, particulate control, nitrogen oxides and sulfur dioxides removal, chemical looping for carbon control, and mercury control.
• Babcock & Wilcox Thermal: Steam generation equipment, aftermarket parts, construction, maintenance and field services for plants in the power generation, oil and gas, and industrial sectors. B&W has an extensive global base of installed equipment for utilities and general industrial applications including refining, petrochemical, food processing, metals and others.
On September 30, 2021, we acquired a 60% controlling ownership stake in Illinois-based solar energy contractor Fosler Construction Company Inc. (“Fosler Construction”) for approximately $27.2 million in cash plus contingent consideration of up to $10 million, valued at $8.8 million. Fosler Construction provides commercial, industrial and utility-scale solar services and owns two community solar projects in Illinois being developed under the Illinois Solar for All program. Fosler Construction was founded in 1998 and employs approximately 120 people. It has a strong track record of successfully completing solar projects profitably with union labor and has aligned its model with a growing number of renewable project incentives in the U.S. We believe Fosler Construction is positioned to capitalize on the high-growth solar market in the U.S. and that the acquisition aligns with B&W’s aggressive growth and expansion of our clean and renewable energy businesses. Fosler Construction is reported as part of our B&W Renewable segment, and operates under the name Fosler Solar, a Babcock & Wilcox company.
On November 30, 2021, we acquired 100% ownership of VODA A/S (“VODA”) through our wholly-owned subsidiary, B&W PGG Luxembourg Finance SARL, for approximately $32.9 million. VODA is a Denmark-based multi-brand aftermarket parts and services provider, focusing on energy-producing incineration plants including waste-to-energy, biomass-to-energy or other fuels, providing service, engineering services, spare parts as well as general outage support and management. VODA has extensive experience in incineration technology, boiler and pressure parts, SRO, automation, and performance optimization. VODA employs approximately 65 people mainly in Denmark and Sweden. We believe VODA will solidify our platform for our renewable service business in Europe and that the acquisition aligns with B&W’s aggressive growth and expansion of our clean and renewable energy businesses. VODA is reported as part of our B&W Renewable segment. We plan to form B&W Renewable Services to integrate VODA and our waste-to-energy and biomass aftermarket services businesses.
On February 1, 2022, we acquired 100% ownership of Fossil Power Systems, Inc. for approximately $59.1 million, excluding working capital adjustments. Fossil Power Systems, Inc., is a leading designer and manufacturer of hydrogen, natural gas and renewable pulp and paper combustion equipment including ignitors, plant controls and safety systems based in Dartmouth, Nova Scotia, Canada. Fossil Power Systems, Inc. will initially be reported as part of our B&W Thermal segment.
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On February 28, 2022, we acquired 100% ownership of Optimus Industries, LLC for approximately $19 million, excluding working capital adjustments. Optimus designs and manufactures waste heat recovery products for use in power generation, petrochemical, and process industries , including package boilers, watertube and firetube waste heat boilers, economizers, superheaters, waste heat recovery equipment and sulfuric acid plants and is based in Tulsa, Oklahoma and Chanute, Kansas. Optimus Industries, LLC will be reported as part of our B&W Thermal segment.
Our business depends significantly on the capital, operations and maintenance expenditures of global electric power generating companies, including renewable and thermal powered heat generation industries and industrial facilities with environmental compliance policy requirements. Several factors may influence these expenditures, including:
• climate change initiatives promoting environmental policies which include renewable energy options utilizing waste-to-energy or biomass to meet legislative requirements and clean energy portfolio standards in the United States, European, Middle East and Asian markets;
• requirements for environmental improvements in various global markets;
• expectation of future governmental requirements to further limit or reduce greenhouse gas and other emissions in the United States, Europe and other international climate change sensitive countries;
• prices for electricity, along with the cost of production and distribution including the cost of fuels within the United States, Europe, Middle East and Asian based countries;
• demand for electricity and other end products of steam-generating facilities;
• level of capacity utilization at operating power plants and other industrial uses of steam production;
• requirements for maintenance and upkeep at operating power plants to combat the accumulated effects of usage;
• overall strength of the industrial industry; and
• ability of electric power generating companies and other steam users to raise capital.
Customer demand is heavily affected by the variations in our customers' business cycles and by the overall economies and energy, environmental and noise abatement needs of the countries in which they operate.
We have manufacturing facilities in Mexico, the United States, Denmark, Scotland and China. Many aspects of our operations and properties could be affected by political developments, environmental regulations and operating risks. These and other factors may have a material impact on our international and domestic operations or our business as a whole.
Through our restructuring efforts, we continue to make significant progress to make our cost structure more variable and to reduce costs. We expect our cost saving measures to continue to translate to bottom-line results, with top-line growth driven by opportunities for our core technologies and support services across the B&W Renewable, B&W Environmental and B&W Thermal segments globally.
We expect to continue to explore other cost saving initiatives to improve cash generation and evaluate additional non-core asset sales to continue to strengthen our liquidity. There are or will be important factors that could cause our actual results to differ materially from those indicated in these statements. If one or more events related to these or other risks or uncertainties materialize, or if our underlying assumptions prove to be incorrect, actual results may differ materially from what we anticipate.
In addition, we continue to evaluate further dispositions, opportunities for additional cost savings and opportunities for subcontractor recoveries and other claims where appropriate and available. If the value of our business was to decline, or if we were to determine that we were unable to recognize an amount in connection with any proposed disposition in excess of the carrying value of any disposed asset, we may be required to recognize impairments for one or more of our assets that may adversely impact our business, financial condition and results of operations.
RESULTS OF OPERATIONS–YEARS ENDED DECEMBER 31, 2021, 2020 AND 2019
Components of Our Results of Operations
Revenue
Our revenue is the total amount of income generated by our business and consists primarily of income from our renewable, environmental and thermal technology solutions we provide to a broad range of industrial electric utility and other customers.
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Revenue from our operations is assessed based on our three market-facing segments, Babcock & Wilcox Renewable, Babcock & Wilcox Environmental and Babcock & Wilcox Thermal.
Operating Income
Operating income consists primarily of our revenue minus costs and expenses, including cost of operations, SG&A, and advisory fees and settlement costs.
Net Income
Net income consists primarily of operating income minus other income and expenses, including interest income, foreign exchange and expense related to our benefit plans.
Consolidated Results of Operations
The following discussion of our business segment results of operations includes a discussion of adjusted EBITDA, which when used on a consolidated basis is a non-GAAP financial measure. Adjusted EBITDA differs from the most directly comparable measure calculated in accordance with generally accepted accounting principles (“GAAP”). A reconciliation of net income (loss), the most directly comparable GAAP measure, to adjusted EBITDA is included in “Non-GAAP Financial Measures” below. Management believes that this financial measure is useful to investors because it excludes certain expenses, allowing investors to more easily compare our financial performance period to period.
Year ended December 31,
(in thousands) 2021 2020 2019
Revenues:
B&W Renewable segment $ 156,800 $ 156,187 $ 205,551
B&W Environmental segment 133,826 107,968 275,635
B&W Thermal segment 433,329 304,968 409,744
Eliminations (592) (2,806) (31,819)
$ 723,363 $ 566,317 $ 859,111
Year ended December 31,
(in thousands) 2021 2020 2019
Adjusted EBITDA
B&W Renewable segment (1)
$ 23,219 $ 24,957 $ 1,617
B&W Environmental segment 11,773 3,503 12,553
B&W Thermal segment 49,143 36,052 52,235
Corporate (12,467) (14,425) (17,579)
Research and development costs (1,093) (4,379) (2,861)
$ 70,575 $ 45,708 $ 45,965
(1) Adjusted EBITDA for 2020 includes a $26 million non-recurring loss recovery related to certain historical EPC loss contracts.
2021 vs 2020 Consolidated Results
Revenues increased by $157.0 million to $723.4 million in 2021 as compared to $566.3 million in 2020, primarily attributable to a higher level of activity in our Thermal and Environmental segments which were both adversely impacted by COVID-19 in the prior year and the acquisitions of Fosler Construction and VODA in our Renewable segment. Segment specific changes are discussed in further detail in the sections below
Net income (loss) increased by $41.8 million to $31.5 million in 2021 as compared to $(10.3) million. Operating income (loss) increased $22.6 million to $20.8 million in 2021 as compared to $(1.7) million in 2020. The increase is primarily due to the revenue increase described above, contributions from the Fosler Construction and VODA acquisitions and the recognition of a settlement from a subcontractor to reimburse the Company for project costs related to three of the Renewable EPC loss
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contracts as described in Note 5 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. These increases were also partially offset by the non-recurring loss recovery of $26.0 million recognized in the prior year under an October 10, 2020 settlement agreement with an insurer in connection with five of the six European B&W Renewable EPC loss contracts, as described in Note 5 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. Restructuring expenses, advisory fees, research and development, depreciation and amortization expense, pension and other postretirement benefit plans, foreign exchange, income taxes and gains (losses) on dispositions are discussed in further detail in the sections below.
2020 vs 2019 Consolidated Results
Revenues decreased by $292.8 million to $566.3 million in 2020 as compared to $859.1 million in 2019. Revenues for each of our segments have been adversely impacted by COVID-19, including the postponement and delay of several projects due to COVID-19. In addition to the impacts of COVID-19, revenue was also impacted by segment specific changes which are discussed in further detail in the sections below.
Net loss improved $118.7 million to $(10.3) million in 2020 from $(129.0) million in 2019. Operating losses improved $27.6 million to $(1.7) million in 2020 from $(29.4) million in 2019, primarily due to the insurance loss recovery of $26.0 million and a lower level of losses on the EPC loss contracts, partially offset by the divestiture of Loibl and the impacts of COVID-19 in the B&W Renewable segment, as well as a decline in volume in the B&W Environmental and B&W Thermal segments related primarily to COVID-19. Restructuring expenses, advisory fees, research and development, depreciation and amortization expense, pension and other postretirement benefit plans, foreign exchange, income taxes and gains (losses) on dispositions are discussed in further detail in the sections below.
Year-over-year comparisons of our results from net income (loss) were also impacted by:
• $4.9 million, $11.8 million and $11.7 million of restructuring costs were recognized in 2021, 2020 and 2019, respectively , and are more fully described in Note 12 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
• $2.7 million, $4.4 million and $9.1 million of financial advisory service fees were recognized in 2021, 2020 and 2019, respectively. Financial advisory service fees are included in advisory fees and settlement costs in our Consolidated Statement of Operations.
• $5.5 million, $6.4 million and $11.8 million of legal and other advisory fees were recognized in 2021, 2020 and 2019, respectively. These fees are related to the contract settlement and liquidity planning and are included in advisory fees and settlement costs in our Consolidated Statement of Operations.
• $6.5 million, $(6.2) million and $(4.0) million of gain (loss) on debt extinguishment in 2021, 2020 and 2019, respectively.
• $1.8 million, $0.1 million and $3.6 million of loss on sale of business in 2021, 2020 and 2019, respectively.
• $15.5 million, $(23.2) million and $8.8 million of actuarially determined mark to market (“MTM”) gains (losses) on our pension and other post-retirement benefits in 2021, 2020 and 2019, respectively. MTM losses are further described in Note 13 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
• $4.9 million, $2.1 million and $0.5 million of litigation legal costs were recognized in 2021, 2020 and 2019, respectively. These fees are included in advisory fees and settlement costs in our Consolidated Statement of Operations.
• $6.6 million of settlement cost was recognized in 2019 in connection with an additional European waste-to-energy EPC contract, for which notice to proceed was not given and the contract was not started and is included in advisory fees and settlement costs in our Consolidated Statement of Operations.
• $4.8 million of costs related to completed and potential acquisitions were recognized in 2021. These costs are included in selling, general and administrative expenses in our Consolidated Statement of Operations.
Bookings and Backlog
Bookings and backlog are our measure of remaining performance obligations under our sales contracts. It is possible that our methodology for determining bookings and backlog may not be comparable to methods used by other companies.
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We generally include expected revenue from contracts in our backlog when we receive written confirmation from our customers authorizing the performance of work and committing the customers to payment for work performed. Backlog may not be indicative of future operating results, and contracts in our backlog may be canceled, modified or otherwise altered by customers. Backlog can vary significantly from period to period, particularly when large new build projects or operations and maintenance contracts are booked because they may be fulfilled over multiple years. Because we operate globally, our backlog is also affected by changes in foreign currencies each period. We do not include orders of our unconsolidated joint ventures in backlog.
Bookings represent changes to the backlog. Bookings include additions from booking new business, subtractions from customer cancellations or modifications, changes in estimates of liquidated damages that affect selling price and revaluation of backlog denominated in foreign currency. We believe comparing bookings on a quarterly basis or for periods less than one year is less meaningful than for longer periods, and that shorter-term changes in bookings may not necessarily indicate a material trend.
Year ended December 31,
(In approximate millions) 2021 2020
B&W Renewable (1)
$ 294 $ 116
B&W Environmental 148 147
B&W Thermal 337 390
Other/eliminations — (8)
Bookings $ 779 $ 645
(1) B&W Renewable bookings includes the revaluation of backlog denominated in currency other than U.S. dollars. The foreign exchange impact on B&W Renewable bookings in the years ended December 31, 2021 and 2020 was $15.0 million and $(14.7) million, respectively.
Our backlog as of December 31, 2021 and 2020 was as follows:
As of December 31,
(In approximate millions) 2021 2020
B&W Renewable (1)
$ 394 $ 208
B&W Environmental 123 106
B&W Thermal 126 226
Other/eliminations (4) (5)
Backlog $ 639 $ 535
(1) B&W Renewable backlog at December 31, 2021, includes $149.1 million related to long-term operation and maintenance contracts for renewable energy plants, with remaining durations extending until 2034. Generally, such contracts have a duration of 10-20 years and include options to extend.
Of the backlog at December 31, 2021, we expect to recognize revenues as follows:
(In approximate millions) 2022 2023 Thereafter Total
B&W Renewable $ 204 $ 56 $ 134 $ 394
B&W Environmental 89 11 23 123
B&W Thermal 108 15 3 126
Other/eliminations (4) — (4)
Expected revenue from backlog $ 397 $ 82 $ 160 $ 639
Non-GAAP Financial Measures
Adjusted EBITDA on a consolidated basis is a non-GAAP metric defined as the sum of the adjusted EBITDA for each of the segments, further adjusted for corporate allocations and research and development costs. At a segment level, the adjusted EBITDA presented below is consistent with the way the Company's chief operating decision maker reviews the results of operations and makes strategic decisions about the business and is calculated as earnings before interest, tax, depreciation and amortization adjusted for items such as gains or losses on asset sales, net pension benefits, restructuring costs, impairments, gains and losses on debt extinguishment, costs related to financial consulting, research and development costs and other costs that may not be directly controllable by segment management and are not allocated to the segment. The Company uses
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adjusted EBITDA internally to evaluate its performance and in making financial and operational decisions. When viewed in conjunction with GAAP results and the accompanying reconciliation in Note 4 to the Consolidated Financial Statements, the Company believes that its presentation of adjusted EBITDA provides investors with greater transparency and a greater understanding of factors affecting its financial condition and results of operations than GAAP measures alone. As previously disclosed, the Company changed its reportable segments in 2020 and has recast prior period results to account for this change. Additionally, the Company redefined its definition of adjusted EBITDA to eliminate the effects of certain items including the loss from a non-strategic business, interest on letters of credit included in cost of operations and loss on business held for sale. Prior period results have been revised to conform with the revised definition and present separate reconciling items in our reconciliation.
Year ended December 31,
(in thousands) 2021 2020 2019
Net income (loss) $ 31,538 $ (10,297) $ (129,039)
Interest expense 41,359 60,713 95,266
Income tax (benefit) expense (2,224) 8,179 5,286
Depreciation & amortization 18,337 16,805 23,605
EBITDA 89,010 75,400 (4,882)
Benefit plans, net (48,142) (5,600) (22,800)
Gain on sales, net (13,984) (3,155) (339)
(Gain) loss on debt extinguishment (6,530) 6,194 3,969
Stock compensation 10,476 4,587 3,376
Restructuring activities and business services transition costs 10,726 11,849 11,707
Advisory fees for settlement costs and liquidity planning 5,480 6,357 11,824
Litigation legal costs 4,894 2,137 475
Acquisition pursuit and related costs 4,841 — —
Product development (1)
4,713 — —
Foreign exchange 4,294 (58,799) 16,602
Financial advisory services 2,709 4,384 9,069
Other - net 1,489 1,128 (285)
Loss from business held for sale 483 467 5,850
Loss from a non-strategic business 116 2,559 5,518
Settlement cost to exit contract (2)
— — 6,575
Income from discontinued operations — (1,800) (694)
Adjusted EBITDA (3)
$ 70,575 $ 45,708 $ 45,965
(1) Costs associated with development of commercially viable products that are ready to go to market.
(2) In March 2019, we entered into a settlement in connection with an additional B&W Renewable waste-to-energy EPC contract, for which notice to proceed was not given and the contract was not started. The settlement eliminated our obligations to act, and our risk related to acting, as the prime EPC should the project have moved forward.
(3) Adjusted EBITDA for the twelve months ended December 31, 2020 includes a $26 million non-recurring loss recovery related to certain historical EPC loss contracts in the third quarter.
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Year ended December 31,
(in thousands) 2021 2020 2019
Adjusted EBITDA
B&W Renewable segment (1)
$ 23,219 $ 24,957 $ 1,617
B&W Environmental segment 11,773 3,503 12,553
B&W Thermal segment 49,143 36,052 52,235
Corporate (12,467) (14,425) (17,579)
Research and development benefit (costs) (1,093) (4,379) (2,861)
$ 70,575 $ 45,708 $ 45,965
(1) Adjusted EBITDA for the twelve months ended December 31, 2020 includes a $26 million non-recurring loss recovery related to certain historical EPC loss contracts in the third quarter.
B&W Renewable Segment Results
Year ended December 31, Year ended December 31,
(in thousands) 2021 2020 $ Change 2020 2019 $ Change
Revenues $ 156,800 $ 156,187 $ 613 $ 156,187 $ 205,551 $ (49,364)
Adjusted EBITDA $ 23,219 $ 24,957 $ (1,738) $ 24,957 $ 1,617 $ 23,340
2021 vs 2020 results
Revenues in the B&W Renewable segment increased $0.6 million, to $156.8 million in 2021 compared to $156.2 million in 2020. The increase in revenue is primarily due to the acquisitions of Fosler Construction and VODA on September 30, 2021 and November 30, 2021, respectively, and higher part sales offset by the timing of a large project order slipping into early 2022.
Adjusted EBITDA in the B&W Renewable segment decreased $1.7 million, to $23.2 million in 2021 compared to $25.0 million in 2020. The decrease is primarily due to the non-recurring loss recovery of $26.0 million recognized in 2020 under an October 10, 2020 settlement agreement with an insurer in connection with five of the six European B&W Renewable EPC loss contracts offset by higher revenue volume and the acquisitions of Fosler Construction and VODA, as described above, in addition to recognition of a settlement from a subcontractor to reimburse the Company for project costs related to three of the Renewable EPC loss contracts as described in as described in Note 5 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
2020 vs 2019 results
Revenues in the B&W Renewable segment decreased 24%, or $49.4 million to $156.2 million in 2020 compared to $205.6 million in 2019. The reduction in revenue is due to the advanced completion of activities on the European B&W Renewable EPC loss contracts in the prior year as well as new anticipated activities being deferred due to COVID-19, partially offset by a higher level of activities on two operations and maintenance contracts in the U.K. which followed the turnover of the EPC loss contracts to the customers. Additionally, the reduction in revenue partially relates to the divestiture of Loibl, a materials handling business in Germany that generated revenues of approximately $14.3 million in 2019.
Adjusted EBITDA in the B&W Renewable segment improved $23.3 million to $25.0 million in 2020 compared to $1.6 million in 2019. The improvement is primarily due to the loss recovery of $26.0 million recognized in 2020 under an October 10, 2020 settlement agreement with an insurer in connection with five of the six European B&W Renewable EPC loss contracts. In addition the B&W Renewable segment incurred lower costs in 2020 to complete the six European B&W Renewable EPC loss contracts which included $3.7 million and $6.9 million in net losses, including warranty in 2020 and 2019, respectively. The Adjusted EBITDA improvement was also partially offset by the divestiture of Loibl and lower volume.
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B&W Environmental Segment Results
Year ended December 31, Year ended December 31,
(In thousands) 2021 2020 $ Change 2020 2019 $ Change
Revenues $ 133,826 $ 107,968 $ 25,858 $ 107,968 $ 275,635 $ (167,667)
Adjusted EBITDA $ 11,773 $ 3,503 $ 8,270 $ 3,503 $ 12,553 $ (9,050)
2021 vs 2020 results
Revenues in the B&W Environmental segment increased 24%, or $25.9 million to $133.8 million in 2021 compared to $108.0 million in 2020. The increase is primarily driven by the postponement of several new projects in the prior year due to COVID-19 which have since resumed in addition to higher overall volume in our ASH project business.
Adjusted EBITDA in the B&W Environmental segment wa s $11.8 million i n 2021 compared to $3.5 million in 2020. The increase is driven primarily by higher volume, as described above .
2020 vs 2019 results
Revenues in the B&W Environmental segment decreased 61%, or $167.7 million, to $108.0 million in 2020 from $275.6 million in 2019. The decrease is primarily due to the completion of large construction projects in the prior year and a lower level of activity primarily due to the postponement of new projects by several customers as a result of COVID-19. B&W Environmental’s two significant legacy loss contracts, generated revenues of $4.1 million and $18.8 million in 2020 and 2019, respectively.
Adjusted EBITDA in the B&W Environmental segment decreased $9.1 million to $3.5 million in 2020 compared to $12.6 million in 2019. The decline is primarily attributable to the impacts of lower volume, the effects of which were partially offset by a lower percentage of overhead being allocated to the segment that were not previously allocated to other segments.
B&W Thermal Segment Results
Year ended December 31, Year ended December 31,
(In thousands) 2021 2020 $ Change 2020 2019 $ Change
Revenues $ 433,329 $ 304,968 $ 128,361 $ 304,968 $ 409,744 $ (104,776)
Adjusted EBITDA $ 49,143 $ 36,052 $ 13,091 $ 36,052 $ 52,235 $ (16,183)
2021 vs 2020 results
Revenues in the B&W Thermal segment increased 42%, or $128.4 million, to $433.3 million in 2021 compared to $305.0 million generated in 2020. The revenue increase is attributable to a higher level of activity on construction projects, an increase in volume in our package boilers and parts business and the adverse impacts of COVID-19 which significantly impacted prior year revenues, as described below.
Adjusted EBITDA in the B&W Thermal segment increased $13.1 million to $49.1 million in 2021 compared to $36.1 million in 2020, which is mainly attributable to the increase in volume as described above and continued cost savings and restructuring initiatives benefiting the current year.
2020 vs 2019 results
Revenues in the B&W Thermal segment decreased 26%, or $104.8 million, to $305.0 million in 2020 compared to $409.7 million in 2019. The revenue decrease is attributable to the completion of large construction projects in the prior year in addition to the adverse impacts of COVID-19 resulting in lower parts, construction, package boilers and international service orders.
Adjusted EBITDA in the B&W Thermal segment decreased 31% , or $16.2 million, to $36.1 million in 2020 compared to $52.2 million in 2019, primarily attributable to lower volume of project activity and a higher percentage of overhead being
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allocated to the segment that was previously allocated to other segments, the effects of which were partially offset by favorable product mix and a full period of cost savings and restructuring initiatives benefiting the 2020 year.
Corporate
Corporate costs in adjusted EBITDA include SG&A expenses that are not allocated to the reportable segments. These costs include, among others, certain executive, compliance, strategic, reporting and legal expenses associated with governance of the total organization and being an SEC registrant. Corporate costs decreased $2.0 million to $12.5 million in year ended December 31, 2021 as compared to $14.4 million incurred in the year ended December 31, 2020. The decrease is primarily due to an increase in the allocation of corporate costs to the reporting segments, lower personnel costs and audit and director fees partially offset by an increase in the bonus expense of $1.0 million. Corporate costs decreased $3.2 million to $14.4 million in the year ended December 31, 2020 as compared to $17.6 milli on in the year ended December 31, 2019, primarily due to decreased bonus costs recognized for the year ended December 31, 2020.
Advisory Fees and Settlement Costs
Advisory fees and settlement costs increased $0.2 million to $13.1 million in the year ended December 31, 2021 as compared to $12.9 million in the corresponding period of 2020. The change is primarily due to increased use of external consultants in 2021. Advisory fees and settlement costs decreased by $15.1 million to $12.9 million in the year ended December 31, 2020 as compared to $27.9 million in the year ended December 31, 2019, primarily due to settlement costs to exit a certain B&W Renewable EPC contract in the first quarter of 2019 and also due to reduced use of external consultants in 2020 as the Company staffed certain positions internally.
Research and Development
Our research and development activities are focused on improving our products through innovations to reduce their cost and make them more competitive, as well as to reduce performance risk of our products to better meet our and our customers’ expectations. Research and development (benefit) expenses totaled $1.6 million, $4.4 million and $2.9 million in the years ended December 31, 2021, 2020 and 2019, respectively. The change resulted primarily from timing of specific research and development efforts and the recognition of approximately $0.9 million in 2021 related to certain credits.
Restructuring
Restructuring actions across our business units and corporate functions resulted in $4.9 million, $11.8 million and $11.7 million of expense in the years ended December 31, 2021, 2020 and 2019, respectively. The charges primarily consist of severance related to actions taken, including as part of the Company’s strategic, market-focused organizational and re-branding initiatives.
Transition Costs
Transition costs across our corporate and business functions resulted in $5.9 million of expense in the year ended December 31, 2021. These charges primarily result from non-recurring actions taken to outsource certain tasks to offshore service providers or to transfer administrative and compliance tasks to global service providers as part of our strategic efforts to reduce future selling, general and administrative costs. Transition costs are included in selling, general and administrative expenses in our Consolidated Statement of Operations,
Depreciation and Amortization
Depreciation expense was $9.7 million, $11.3 million and $19.3 million in the years ended December 31, 2021, 2020 and 2019, respectively. In December 2019, we consolidated all of our Barberton and most of our Copley, Ohio operations into new, leased office space in Akron, Ohio and $4.9 million of accelerated depreciation was recognized during the year ended December 31, 2019.
Amortization expense was $8.6 million, $5.5 million and $4.3 million in the year ended December 31, 2021, 2020, and 2019, respectively.
Pension and Other Postretirement Benefit Plans
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We recognize benefits from our defined benefit and other postretirement benefit plans based on actuarial calculations primarily because our expected return on assets is greater than our service cost. Service cost is low because our plan benefits are frozen except for a small number of hourly participants. Pension benefits before MTM were $32.7 million, $28.8 million and $14.0 million in the years ended December 31, 2021, 2020 and 2019, respectively.
Our pension costs also include MTM adjustments from time to time and are primarily a result of changes in the discount rate, curtailments and settlements. Any MTM charge or gain should not be considered to be representative of future MTM adjustments as such events are not currently predicted and are in each case subject to market conditions and actuarial assumptions as of the date of the event giving rise to the MTM adjustment. Total MTM adjustments for our pension benefit plans were gains of $15.3 million for the twelve months ended months ended December 31, 2021. Total MTM adjustments for our other postretirement benefit plans were gains of $0.2 million during the twelve months ended December 31, 2021. Pension benefits, excluding MTM adjustments of a loss of $23.2 million and a gain of $8.8 million, were $28.8 million and $14.0 million in the years ended December 31, 2020 and 2019, respectively.
The following sensitivity analysis reflects the impact of a 25 basis point change in the assumed discount rate and return on assets on our pension plan obligations and expense for the year ended December 31, 2021:
(In millions) 0.25% increase 0.25% decrease
Discount rate :
Effect on ongoing net periodic benefit cost (1)
$ (28.0) $ 29.3
Effect on projected benefit obligation (31.0) 32.8
Return on assets:
Effect on ongoing net periodic benefit cost (2.6) 2.6
(1) Excludes effect of annual MTM adjustment.
A 25 basis point change in the assumed discount rate and return on assets would have no meaningful impact on our other postretirement benefit plan obligations and expense for the year ended December 31, 2021 individually or in the aggregate, excluding the impact of any annual MTM adjustments we record annually.
Refer to Note 13 to the Consolidated Financial Statements for further information regarding our pension and other postretirement plans.
Foreign Exchange
We translate assets and liabilities of our foreign operations into United States dollars at current exchange rates, and we translate items in our statement of operations at average exchange rates for the periods presented. We record adjustments resulting from the translation of foreign currency financial statements as a component of accumulated other comprehensive income (loss). We report foreign currency transaction gains and losses in Consolidated Statements of Operations.
Foreign exchange was a gain/(loss) of $(4.3) million, $58.8 million and $(16.6) million for the years ended December 31, 2021, 2020, and 2019, respectively. Foreign exchange gains and losses are primarily related to unhedged intercompany loans denominated in European currencies to fund foreign operations. Foreign exchange gains in 2020 were primarily driven by a weakening U.S. dollar compared to the underlying European currencies and changes in intercompany loan balances denominated in Danish Krone that averaged over $500 million throughout the year. The 2020 loan balances denominated in Danish Krone were converted to equity in 2020.
Income Taxes
Year ended December 31,
(In thousands, except for percentages) 2021 2020 2019
Income (loss) before income taxes $ 29,314 $ (3,918) $ (124,447)
Income tax expense (benefit) $ (2,224) $ 8,179 $ 5,286
Effective tax rate (7.6) % (208.8) % (4.2) %
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Our effective tax rate in 2021 reflects a valuation allowance against deferred tax assets in jurisdictions other than Mexico, Canada, Brazil, Finland, Germany, Thailand, the Philippines, Indonesia, the United Kingdom, Sweden and certain United States state jurisdictions.
The decrease in our income tax expense in 2021 compared to 2020 is primarily attributable to a $8.7 million reduction in the valuation allowance on net operating losses and temporary deductible benefits in certain states that are now expected to be recovered.
The increase in our income tax expense in 2020 compared to 2019 is primarily attributable to additional income in our profitable foreign subsidiaries, additional foreign withholding taxes incurred on cross-border transactions, and a $1.1 million deferred tax liability related to unremitted earnings of certain foreign subsidiaries.
Liquidity and Capital Resources
Liquidity
Our primary liquidity requirements include debt service, funding dividends on preferred stock and working capital needs. We fund our liquidity requirements primarily through cash generated from operations, external sources of financing, including our recent revolving credit agreement, senior notes, and equity offerings, including our Preferred Stock, each of which are described below and in the Notes to our Consolidated Financial Statements included in Part II, Item 8 of this Annual Report in further detail along with other sources of liquidity.
During 2021, we executed the following actions:
• on February 12, 2021, we received gross proceeds of approximately $172.5 million after closing a public offering of our common stock in which 29,487,180 shares of common stock were issued, inclusive of 3,846,154 shares issued to B. Riley Securities, Inc., a related party, as representative of several underwriters in the common stock offering. Net proceeds received were approximately $163.0 million after deducting underwriting discounts and commissions, but before expenses;
• on February 12, 2021, we received gross proceeds of approximately $125.0 million after completing an issuance of our $125.0 million aggregate principal amount of 8.125% Senior Notes, in a public offering through B. Riley Securities, Inc., a related party, as representative of several underwriters in the senior notes offering. Net proceeds received were approximately $120.0 million after deducting underwriting discounts and commissions, but before expenses;
• on March 15, 2021, we completed the sale of certain fixed assets for the Copley, Ohio location for $4.0 million, received $3.3 million of net cash proceeds after adjustments and recognized a gain on sale of $1.9 million. In conjunction with the sale, we executed a leaseback agreement commencing March 16, 2021 and expiring on March 31, 2033;
• in May 2021, we completed a public offering of our Preferred Stock, in which we ultimately issued an aggregate 4,444,700 shares of our Preferred Stock, at an offering price of $25.00 per share for net proceeds of approximately $106.4 million after deducting underwriting discounts, commissions but before expenses, as described in Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• in June 2021, we issued 2,916,880 shares of our Preferred Stock and paid $0.4 million in cash to B. Riley, a related party, in exchange for a deemed prepayment of $73.3 million of our then-existing Tranche A-3 term loan and paid $0.9 million in cash for accrued interest due to B. Riley, as described in Note 15 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report. As a result of such deemed prepayment, the total amount outstanding under our Last Out Term Loans was reduced to zero;
• on June 30, 2021, September 30, 2021 and December 31, 2021, we paid dividends on our outstanding Preferred Stock totaling $1.7 million, $3.7 million and $3.7 million, respectively, as described in Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• on June 30, 2021, we entered into a Revolving Credit Agreement (the “Revolving Credit Agreement”) with PNC Bank, National Association, as administrative agent (“PNC”) and swing loan lender which provides for an up to $50.0 million asset-based revolving credit facility, including a $15 million letter of credit sublimit and a $5 million swingline sublimit. In addition, we entered into a Letter of Credit Agreement (the “Letter of Credit Agreement”) with PNC, pursuant to which PNC has agreed to issue up to $110 million in letters of credit secured in part by cash collateral provided by an affiliate of MSD Partners, MSD PCOF Partners XLV, LLC (“MSD”). Lastly, we entered into a Reimbursement Agreement (the “Reimbursement Agreement”) with MSD, as administrative agent, and the cash collateral providers from time to time party thereto, pursuant to which we shall reimburse MSD and any other
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cash collateral provider to the extent the up to $110 million of cash collateral provided by MSD and any other cash collateral provider to secure the Letter of Credit Agreement is drawn to satisfy draws on letters of credit, as described in Note 16 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• in August 2021, we completed the sale of certain real property assets at our Lancaster, Ohio location for $18.9 million. We received $15.8 million of net proceeds after adjustments and expenses and recognized a gain on sale of $13.9 million. In conjunction with the sale, we executed a leaseback agreement commencing August 13, 2021 and expiring on August 31, 2041;
• on September 30, 2021, we acquired a 60% controlling ownership stake in Illinois-based solar energy contractor Fosler Construction Company Inc. (“Fosler Construction”) for approximately $27.2 million in cash plus contingent consideration arrangement, initially valued at $8.8 million, with a maximum value up to $10.0 million if a certain revenue target is achieved in 2022;
• on November 30, 2021, we acquired 100% ownership of VODA A/S (“VODA”) for approximately $32.9 million;
• on December 13, 2021, we completed a public offering of $140.0 million aggregate principal amount of our 6.50% senior notes due 2026 (the “6.50% Senior Notes”) and a subsequent exercise of $11.4 million aggregate principal of our 6.50% senior notes due 2026 by the underwriters was completed on December 30, 2021. At the completion of the offering and exercise, we received net proceeds of approximately $145.8 million after deducting underwriting discounts, commissions, and before expenses;
• as of December 31, 2021, we issued additional shares of our Preferred Stock for $7.7 million net proceeds under the sales agreement as described in Note 17 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• as of December 31, 2021, we issued an additional $26.2 million aggregate principal amount of 8.125% Senior Notes for $26.6 million net proceeds under the March 31, 2021 sales agreement as described in Note 14 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• on February 1, 2022, we acquired 100% ownership of Fossil Power Systems, Inc. for approximately $59.1 million, excluding working capital adjustments as described in Note 26 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report;
• on February 28, 2022, we acquired 100% ownership of Optimus Industries, LLC for approximately $19 million, excluding working capital adjustments as described in Note 26 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
See Note 14, Note 15, Note 16, Note 17, Note 18 and Note 26 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for additional information on our external sources of financing and equity offerings.
As part of the Company’s ongoing response to the impact of the COVID-19 pandemic on its business, the Company continues to take a number of cash conservation and cost reduction measures which include:
• utilizing options for government loans and programs in the U.S. and abroad that are appropriate and available; and
• deferring the remaining $20.9 million of the estimated Pension Plan contribution payments of $45.6 million that would have been due during 2021, in accordance with the American Rescue Plan Act of 2021 (the “ARPA relief plan”) signed into law in March 2021.
Cash and Cash Flows
At December 31, 2021, our unrestricted cash and cash equivalents totaled $224.9 million and we had total debt of $340.3 million as well as $191.7 million of gross preferred stock outstanding. Our foreign business locations held $42.1 million of our total unrestricted cash and cash equivalents at December 31, 2021. In general, our foreign cash balances are not available to fund our U.S. operations unless the funds are repatriated or used to repay intercompany loans made from the U.S. to foreign entities, which could expose us to taxes we presently have not made a provision for in our results of operations. We presently have no plans to repatriate these funds to the U.S. In addition, we had $0.4 million of restricted cash at December 31, 2021 related to collateral for certain letters of credit.
Cash used in operations was $111.2 million in the year ended December 31, 2021, which is primarily attributable to the $60.8 million reduction in pension, postretirement and employee benefit liabilities and a $62.2 million net decrease in operating cash outflows associated with changes in working capital. In the year ended December 31, 2020, cash used in operations was $40.8 million which is primarily the result of the change in accounts payable.
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Cash flows from investing activities used net cash of $33.5 million in the year ended December 31, 2021, primarily due to the acquisition of business of $55.3 million and $6.7 million of capital expenditures, offset by proceeds from the sale of business and assets of $25.4 million. In the year ended December 31, 2020, cash flows from investing activities provided net cash of $2.2 million, primarily related to $8.0 million from the settlement of remaining escrows associated with the sale of Palm Beach Resource Recovery Corporation and the MEGTEC and Universal businesses, offset by the net change in available-for-sale securities and $8.2 million of capital expenditures.
Cash flows from financing activities provided net cash of $302.8 million in the year ended December 31, 2021, primarily related to the issuance of common stock, senior notes and preferred stock offset by$75.4 million of repayments of the Last Out Term Loans, a $164.3 million net reduction on the prior U.S. Revolving Credit Facility and $24.6 million of financing fees. Cash flows from financing activities provided net cash of $44.1 million in the year ended December 31, 2020, primarily related to $70.0 million face value borrowings from the Last Out Term Loans offset by $14.7 million of net repayments from the prior U.S. Revolving Credit Facility and $10.6 million of financing fees.
Debt Facilities
As described in the Notes to our Consolidated Financial Statements included in Part II, Item 8 of this Annual Report, on June 30, 2021, we entered into the Reimbursement Agreement, Revolving Credit Agreement and Letter of Credit Agreement (collectively, the “Debt Documents” and the facilities thereunder, the “Debt Facilities”). The obligations of the Company under each of the Debt Facilities are guaranteed by certain existing and future domestic and foreign subsidiaries of the Company. B. Riley, a related party, has provided a guaranty of payment with regard to the Company’s obligations under the Reimbursement Agreement. The Company expects to use the proceeds and letter of credit availability under the Debt Facilities for working capital purposes and general corporate purposes, including to backstop or replace certain letters of credit issued under our previous A&R Credit Agreement, for which commitments were terminated, all loans were repaid and all outstanding and undrawn letters of credit were collateralized on June 30, 2021.
Last Out Term Loans
Effective with the new debt facilities the Company entered into on June 30, 2021, as described in Note 16 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report, the Company has no remaining Last Out Term Loans and no further borrowings thereunder are available.
The Company recognized a loss on debt extinguishment of $6.2 million for the year ended December 31, 2020, primarily representing the unamortized value of the original issuance discount and fees on the Tranche A-3 Last Out Term Loan.
See Note 15 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for additional information on our Last Out Term Loans.
A&R Credit Agreement
As described above, the A&R Credit Agreement commitments were terminated, all loans were repaid and all outstanding and undrawn letters of credit were collateralized on June 30, 2021. The Company recognized a gain on debt extinguishment of $6.5 million for the year ended December 31, 2021, primarily representing the write-off of accrued revolver fees of $11.3 million offset by the unamortized deferred financing fees of $4.8 million related to the prior A&R Credit Agreement.
Letters of Credit, Bank Guarantees and Surety Bonds
Certain of our subsidiaries primarily outside of the United States have credit arrangements with various commercial banks and other financial institutions for the issuance of letters of credit and bank guarantees in association with contracting activity. The aggregate value of all such letters of credit and bank guarantees outside of our Letter of Credit Agreement as of December 31, 2021 was $52.8 million. The aggregate value of the outstanding letters of credit provided under the Letter of Credit Agreement backstopping letters of credit or bank guarantees was $35.5 million as of December 31, 2021. Of the outstanding letters of credit issued under the Letter of Credit Agreement, $51.5 million are subject to foreign currency revaluation.
We have also posted surety bonds to support contractual obligations to customers relating to certain contracts. We utilize bonding facilities to support such obligations, but the issuance of bonds under those facilities is typically at the surety's discretion. These bonds generally indemnify customers should we fail to perform our obligations under the applicable
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contracts. We, and certain of our subsidiaries, have jointly executed general agreements of indemnity in favor of surety underwriters relating to surety bonds those underwriters issue in support of some of our contracting activity. As of December 31, 2021, bonds issued and outstanding under these arrangements in support of contracts totaled approximately $188.3 million. The aggregate value of the letters of credit backstopping surety bonds was $13.1 million.
Our ability to obtain and maintain sufficient capacity under our new Debt Facilities is essential to allow us to support the issuance of letters of credit, bank guarantees and surety bonds. Without sufficient capacity, our ability to support contract security requirements in the future will be diminished.
Other Indebtedness - Loans Payable
During the year ended December 31, 2021, our Denmark subsidiary received three unsecured interest-free loans totaling $3.3 million under a local government loan program related to COVID-19. The loans of $0.8 million, $1.6 million and $0.9 million are payable in April 2022, May 2022 and May 2023, respectively. The loan payable in May 2023 is included in long term loans payables in our Consolidated Balance Sheets.
As of December 31, 2021, as a result of our recent acquisition of a 60% controlling ownership stake in Fosler Construction Company Inc. (“Fosler Construction”) as described in Note 26 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report, Fosler Construction has two loans totaling $8.3 million. Both loans have a variable interest rate with a minimum rate of 6% and are due June 30, 2022. Fosler Construction also has loans primarily for vehicles and equipment totaling $0.7 million at December 31, 2021. The vehicle and equipment loans are included in long term loans payables in our Consolidated Balance Sheets.
Off-Balance Sheet Arrangements
The Company does not have any off-balance sheet arrangements that have, or are reasonably expected to have, a material current or future effect on its financial condition, results of operations, liquidity, capital expenditures or capital resources at December 31, 2021.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Consolidated Financial Statements included in Part II, Item 8 of this Annual Report are prepared in accordance with accounting principles generally accepted in the United States. Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses. These estimates and assumptions are affected by management’s application of accounting policies. We believe the following are our most critical accounting policies that we apply in the preparation of our consolidated financial statements. These policies require our most difficult, subjective and complex judgments, often as a result of the need to make estimates of matters that are inherently uncertain.
Contracts and revenue recognition
A significant portion of our revenue is recognized over time using the cost-to-cost input method, which involves significant estimates. This method of revenue recognition uses costs incurred to date relative to total estimated costs at completion to measure progress toward satisfying our performance obligations. Incurred cost represents work performed, which corresponds with, and thereby best depicts, the transfer of control to the customer. Contract costs include labor, material, overhead, warranty and, when appropriate, SG&A expenses. Variable consideration in these contracts includes estimates of liquidated damages, contractual bonuses and penalties, and contract modifications.
We review contract price and cost estimates each reporting period as the work progresses and reflect adjustments proportionate to the costs incurred to date relative to total estimated costs at completion in income in the period when those estimates are revised. These changes in estimates can be material. For all contracts, if a current estimate of total contract cost indicates a loss on a contract, the projected contract loss is recognized in full through the statement of operations and an accrual for the estimated loss on the uncompleted contract is included in other accrued liabilities in the Consolidated Balance Sheets. In addition, when we determine that an uncompleted contract will not be completed on-time and the contract has liquidated damages provisions, we recognize the estimated liquidated damages we will incur and record them as a reduction of the estimated selling price in the period the change in estimate occurs. Losses accrued in advance of the completion of a contract are included in other accrued liabilities in our Consolidated Balance Sheets.
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Contract modifications are routine in the performance of our contracts. Contracts are often modified to account for changes in the contract specifications or requirements. In most instances, contract modifications are for goods or services that are not distinct and, therefore, are accounted for as part of the existing contract, with cumulative adjustment to revenue.
We recognize claims receivable in contract revenues for extra work or changes in scope of work to the extent of costs incurred when we believe we have an enforceable right to the modification or claim and the amount can be estimated reliably, and its realization is probable. In evaluating these criteria, we consider the contractual/legal basis for enforcing the claim, the cause of any additional costs incurred and whether those costs are identifiable or otherwise determinable, the nature and reasonableness of those costs, the objective evidence available to support the amount of the claim, and our relevant history with the counter-party that supports our expectations about their willingness and ability to pay for the additional cost along with a reasonable margin. In our Consolidated Balance Sheets, claims receivable at December 31, 2021 and December 31, 2020 were not significant.
Our revenue recognition policies, assumptions, changes in estimates and significant loss contracts are described in greater detail in Note 2 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
Business Combinations
Assets acquired and liabilities assumed in a business combination are recognized and measured based on their estimated fair values at the acquisition date, while the acquisition-related costs are expensed as incurred. Any excess of the purchase consideration when compared to the fair value of the net tangible and intangible assets acquired, if any, is recorded as goodwill. We engaged valuation specialists to assist with the determination of the fair value of assets acquired, liabilities assumed, non-controlling interest, and goodwill, for the acquisitions. If the initial accounting for the business combination is incomplete by the end of the reporting period in which the acquisition occurs, an estimate will be recorded. Subsequent to the acquisition date, and not later than one year from the acquisition date, we will record any material adjustments to the initial estimate based on new information obtained that would have existed as of the date of the acquisition. Any adjustment that arises from information obtained that did not exist as of the date of the acquisition will be recorded in the period the adjustment arises. See Note 26 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for further discussion.
Warranty
We accrue estimated expense included in cost of operations on our Consolidated Statements of Operations to satisfy contractual warranty requirements when we recognize the associated revenues on the related contracts. In addition, we record specific provisions or reductions when we expect the actual warranty costs to significantly differ from the accrued estimates. Factors that impact our estimate of warranty costs include prior history of warranty claims and our estimates of future costs of materials and labor. Such changes could have a material effect on our consolidated financial condition, results of operations and cash flows. See Note 11 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for further discussion.
Loss contingencies
We estimate liabilities for loss contingencies when it is probable that a liability has been incurred and the amount of loss is reasonably estimable. We provide disclosure when there is a reasonable possibility that the ultimate loss will exceed the recorded provision or if such probable loss is not reasonably estimable. We are currently involved in some significant litigation. See Note 22 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report for a discussion of this litigation. As disclosed, we have accrued estimates of the probable losses associated with these matters; however, these matters are typically resolved over long periods of time and are often difficult to estimate due to the possibility of multiple actions by third parties. Therefore, it is possible that future earnings could be affected by changes in our estimates related to these matters.
Income taxes
Income tax expense for federal, foreign, state, and local income taxes is calculated on taxable income based on the income tax law in effect at the latest balance sheet date and includes the cumulative effect of any changes in tax rates from those used previously in determining deferred tax assets and liabilities. We record a valuation allowance to reduce our deferred tax assets to the amount that is more likely than not to be realized. We assess the need for valuation allowances on a quarterly
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basis. In determining the need for a valuation allowance, we consider relevant positive and negative evidence, including carryback potential, reversals of taxable temporary differences, future taxable income, and tax-planning strategies. As of December 31, 2021, we have a valuation allowance on our deferred tax assets in substantially all jurisdictions, as we do not believe it is more likely than not that the deferred tax assets will be realized.
For those tax positions where it is more likely than not that a tax benefit will be sustained, we have recorded the largest amount of tax benefit with a greater than 50% likelihood of being realized upon ultimate settlement with a taxing authority that has full knowledge of all relevant information. For those income tax positions where it is not more likely than not that a tax benefit will be sustained, no tax benefit has been recognized in our consolidated financial statements. We record interest and penalties (net of any applicable tax benefit) related to income taxes as a component of provision for income taxes on our Consolidated Statements of Operations.