Item 7. Management’s Discussion and Analysis
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following Management’s Discussion and Analysis reviews significant factors affecting the Company’s consolidated results of operations, financial condition and liquidity. This discussion should be read in conjunction with our financial statements and the accompanying notes to the financial statements. Certain prior year disclosures have been revised to conform with current year reporting. The discussion is organized in the following sections:
• Overview
• Results of Operations
• Segment Results
• Financial Condition and Cash Flow
• Critical Accounting Estimates
• Recent Accounting Pronouncements
Overview
Graco designs, manufactures and markets systems and equipment used to move, measure, control, dispense and spray fluid and powder materials. The Company specializes in equipment for applications that involve difficult-to-handle materials with high viscosities, materials with abrasive or corrosive properties and multiple-component materials that require precise ratio control. Graco sells primarily through independent third-party distributors worldwide to industrial and contractor end users. Graco’s business is classified by management into three reportable segments: Industrial, Process and Contractor. Each segment is responsible for product development, manufacturing, marketing and sales of their products.
Graco’s key strategies include developing and marketing new products, leveraging products and technologies into additional, growing end-user markets, expanding distribution globally and completing strategic acquisitions that provide additional channel and technologies. Long-term financial growth targets accompany these strategies, including our expectation of 10 percent revenue growth and 12 percent consolidated net earnings growth. We continue to develop new products in each operating division that are expected to drive incremental sales growth, as well as continued refreshes and upgrades of existing product lines. Graco has made a number of strategic acquisitions that expand and complement organically developed products and provide new market and channel opportunities.
Manufacturing is a key competency of the Company. Our management team in Minneapolis provides strategic manufacturing expertise, and is also responsible for factories not fully aligned with a single division. Our largest manufacturing facilities are in the U.S. We also manufacture some of our products in Switzerland (Industrial segment), Italy (Industrial segment), the United Kingdom (Process segment), the People’s Republic of China (“P.R.C.”) (all segments), Belgium (all segments) and Romania (Industrial segment). Our primary distribution facilities are located in the U.S., Belgium, Switzerland, United Kingdom, P.R.C., Japan, Italy, Korea, Australia and Brazil.
Economic Uncertainty
The ongoing COVID-19 pandemic and related governmental and business responses continue to have an adverse effect on our operations, supply chains, distribution channels, and end-user customers. While incoming order rates for our Industrial segment have recovered to pre-pandemic levels and our Contractor segment has seen growth in order rates, our Process segment incoming order rates have not recovered and uncertainty remains overall with respect to the near-term economic outlook.
We manufacture and provide essential products and services to a variety of critical infrastructure customers. We have remained operational during the pandemic and we intend to continue providing our products and services to our customers. Our commercial teams are focused on customer service, maintaining end-user customer contact and providing support to our distributors. Our engineering teams continue to develop and launch new products.
As a result of the pandemic and various governmental orders, a significant number of our employees are working from home, and we altered our manufacturing operations to allow for appropriate social distancing, hygiene, cleaning and disinfecting. In our supply chain, we have experienced isolated instances of suppliers temporarily closing their operations, delaying order fulfillment or limiting their production, and we are utilizing alternative supply arrangements as needed. We have also experienced isolated instances of distributors reducing or closing their operations, impacting the ability of some of our end-user customers to procure our products through our traditional distribution channels. Some of our end-user customers have deferred capital equipment purchases, and many have eliminated in-person sales meetings. In addition, trade shows, industry events and product demonstrations have been cancelled or postponed. As a result, our selling
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activities and our ability to convert those activities into sales have been and we expect will continue to be adversely impacted. We will continue to manage our working capital, such as receivables and inventory, to align with customer needs and changes in demand for our products and services.
The timing and extent of the economic recovery from the pandemic in our major geographies is still uncertain and we cannot predict the magnitude of the impact to the results of our operations or financial position. We do not expect the pandemic to have a significant effect on our liquidity as operating cash flows and available liquidity are sufficient to support operations at current order rates (see Liquidity and Capital Resources below).
Results of Operations
A summary of financial results follows (in millions except per share amounts):
2020 2019 2018
Net Sales $ 1,650.1 $ 1,646.0 $ 1,653.3
Operating Earnings 391.7 424.5 436.4
Net Earnings 330.5 343.9 341.1
Diluted Net Earnings per Common Share $ 1.92 $ 2.00 $ 1.97
Adjusted (non-GAAP) (1) :
Net Earnings, adjusted 335.2 325.4 326.1
Diluted Net Earnings per Common Share, adjusted $ 1.95 $ 1.90 $ 1.88
(1) Excludes impacts of impairment, excess tax benefits from stock option exercises and certain non-recurring income tax provision adjustments. See adjusted financial results below for a reconciliation of the adjusted non-GAAP financial measures to GAAP.
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Multiple events in the last three years caused significant fluctuations in financial results. Operating expenses for the year included $35 million of non-cash impairment charges related to the sale of the Company's U.K.-based valve business (Alco). The impact of the impairment on net earnings for the year was $34 million or $0.20 per diluted share. Excess tax benefits related to stock option exercises reduced income taxes by $21 million in 2020, and by $10 million in both 2019 and 2018. Other benefits from tax planning activities further reduced income taxes in 2020, 2019 and 2018. Excluding the impacts of those items presents a more consistent basis for comparison of financial results. A calculation of the non-GAAP measurements of adjusted operating earnings, earnings before income taxes, income taxes, effective income tax rates, net earnings and diluted earnings per share follows (in millions except per share amounts):
2020 2019 2018
Operating earnings, as reported $ 391.7 $ 424.5 $ 436.4
Impairment 35.2 — —
Operating earnings, adjusted $ 426.9 $ 424.5 $ 436.4
Earnings before income taxes, as reported $ 374.7 $ 405.9 $ 410.8
Impairment 35.2 — —
Earnings before income taxes, adjusted $ 409.9 $ 405.9 $ 410.8
Income taxes, as reported $ 44.2 $ 62.0 $ 69.7
Impairment tax benefit 1.2 — —
Excess tax benefit from option exercises 21.3 10.4 10.0
Other non-recurring tax benefit 8.0 8.1 5.0
Income taxes, adjusted $ 74.7 $ 80.5 $ 84.7
Effective income tax rate
As reported 11.8 % 15.3 % 17.0 %
Adjusted 18.2 % 19.8 % 20.6 %
Net Earnings, as reported $ 330.5 $ 343.9 $ 341.1
Impairment, net 34.0 — —
Excess tax benefit from option exercises (21.3) (10.4) (10.0)
Other non-recurring tax benefit (8.0) (8.1) (5.0)
Net Earnings, adjusted $ 335.2 $ 325.4 $ 326.1
Weighted Average Diluted Shares 172.0 171.6 173.2
Diluted Net Earnings per Share
As reported $ 1.92 $ 2.00 $ 1.97
Adjusted $ 1.95 $ 1.90 $ 1.88
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Components of Net Earnings as a Percentage of Sales:
The following table presents an overview of components of net earnings as a percentage of net sales:
2020 2019 2018
Net Sales 100.0 % 100.0 % 100.0 %
Cost of products sold 48.2 47.8 46.6
Gross profit 51.8 52.2 53.4
Product development 4.4 4.1 3.8
Selling, marketing and distribution 13.4 14.2 14.9
General and administrative 8.2 8.1 8.3
Impairment 2.1 — —
Operating earnings 23.7 25.8 26.4
Interest expense 0.7 0.8 0.9
Other expense, net 0.3 0.3 0.7
Earnings before income taxes 22.7 24.7 24.8
Income taxes 2.7 3.8 4.2
Net Earnings 20.0 % 20.9 % 20.6 %
Net Earnings, adjusted (see non-GAAP measurements above) 20.3 % 19.8 % 19.7 %
Net Sales
The following table presents net sales by geographic region (in millions):
2020 2019 2018
Americas (1)
$ 996.5 $ 960.8 $ 926.4
EMEA (2)
371.8 406.5 393.1
Asia Pacific 281.8 278.7 333.8
Consolidated $ 1,650.1 $ 1,646.0 $ 1,653.3
(1) North, South and Central America, including the U.S. Sales in the U.S. were $883 million in 2020, $841 million in 2019 and $806 million in 2018.
(2) Europe, Middle East and Africa
The following table presents the components of net sales change by geographic region:
2020 2019
Volume and Price Acquisitions Currency Total Volume and Price Acquisitions Currency Total
Americas 3% 1% 0% 4% 4% 0% 0% 4%
EMEA (11)% 1% 1% (9)% 7% 1% (5)% 3%
Asia Pacific (1)% 2% 0% 1% (15)% 1% (3)% (17)%
Consolidated (1)% 1% 0% 0% 1% 0% (1)% 0%
Government actions in response to the COVID-19 pandemic reduced economic activity in all major geographies in 2020. Increased worldwide demand for contractor and residential painting equipment, especially in the Americas, helped offset the impact of limited activity within industrial manufacturing facilities. Sales from acquired operations increased worldwide sales by $18 million for the year.
In 2019, sales growth in the Americas and EMEA was offset by weakness in Asia Pacific markets, particularly in automotive, in-plant manufacturing and China in general. EMEA had strong sales growth in all areas of the region except the Middle East. Demand for our products was generally positive in EMEA, with notable strength in sales of systems and contractor painting equipment, while automotive industry demand softened. In the Americas, construction markets remained favorable while manufacturing customers became cautious regarding capital spending due to softening end-
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market demand and general economic uncertainty. Changes in currency translation rates decreased worldwide sales by approximately $29 million.
Gross Profit
Gross profit margin rate for 2020 decreased compared to 2019, driven by unfavorable product and channel mix (lower high-margin Industrial segment sales combined with growth in lower-margin Contractor segment sales). Improved pricing softened the decrease in the gross profit margin rate.
Gross profit margin rates for 2019 decreased compared to 2018, driven by lower factory volume, unfavorable channel and product mix, and changes in currency translation rates. Price changes implemented early in the year offset the adverse impact of higher material costs, including tariffs.
Operating Expenses
Total operating expenses for 2020 were $28 million higher than 2019, including the non-cash impairment charge of $35 million. Excluding the impairment charge, total operating expenses decreased $7 million as reductions in selling expenses offset increases in product development spending. Investment in new product development was $72 million in 2020, up 7 percent over 2019.
Operating expenses in 2019 decreased $11 million (2 percent) compared to 2018. Reductions in volume and earnings-based expenses more than offset increases in product development expenses. Investment in new product development was $68 million in 2019, up 7 percent over 2018.
Operating Earnings
Operating earnings as a percentage of sales in 2020 before the non-cash impairment charge were flat to the prior year, as expense reductions offset the effect of lower margin rates.
Operating earnings in 2019 decreased 3 percent compared to 2018 as expense reductions did not fully offset the effects of lower sales and margin rates.
Other Expense
Other expense included market-based pension cost of $5 million in 2020 and 2019, and $8 million in 2018. Other expense also included exchange losses on net assets of foreign operations of $2 million in 2020 and 2019, and $3 million in 2018.
Income Taxes
The effective income tax rate for 2020 was 12 percent, down 3 percentage points from 2019. Additional foreign tax benefits and excess tax benefits related to stock option exercises were partially offset by non-deductible impairment charges.
The effective income tax rate was 15 percent for 2019, down approximately 2 percentage points from 2018. Revaluation of deferred taxes pursuant to a tax rate change in a foreign jurisdiction and an increase in non-recurring benefits from other tax planning activities drove the decrease.
Segment Results
The Company has six operating segments which are aggregated into three reportable segments: Industrial, Process and Contractor. Refer to Part I Item 1. Business, for a description of the Company’s three reportable segments. Management assesses performance of segments by reference to operating earnings excluding unallocated corporate expenses and asset impairments.
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The following table presents net sales and operating earnings by reporting segment (in millions):
2020 2019 2018
Sales
Industrial $ 677.7 $ 747.4 $ 781.0
Process 326.1 344.9 338.0
Contractor 646.3 553.7 534.3
Total $ 1,650.1 $ 1,646.0 $ 1,653.3
Operating Earnings
Industrial $ 226.6 $ 247.2 $ 271.3
Process 64.5 76.4 68.5
Contractor 164.5 128.3 120.9
Unallocated corporate (expense) (1)
(28.7) (27.4) (24.3)
Impairment $ (35.2) $ — $ —
Total $ 391.7 $ 424.5 $ 436.4
(1) Unallocated corporate (expense) includes such items as stock compensation, certain acquisition transaction items, bad debt expense, charitable contributions, and certain facility expenses.
Industrial Segment
The following table presents net sales and operating earnings as a percentage of sales for the Industrial segment (dollars in millions):
2020 2019 2018
Sales
Americas $ 294.4 $ 324.3 $ 314.9
EMEA 207.1 240.1 234.3
Asia Pacific 176.2 183.0 231.8
Total $ 677.7 $ 747.4 $ 781.0
Operating Earnings as a Percentage of Sales 33 % 33 % 35 %
The following table presents the components of net sales change by geographic region for the Industrial segment:
2020 2019
Volume and Price Acquisitions Currency Total Volume and Price Acquisitions Currency Total
Americas (9)% 0% 0% (9)% 3% 0% 0% 3%
EMEA (15)% 0% 1% (14)% 7% 0% (5)% 2%
Asia Pacific (4)% 0% 0% (4)% (19)% 0% (2)% (21)%
Segment Total (10)% 0% 1% (9)% (2)% 0% (2)% (4)%
In 2020, sales in the Industrial segment declined as most geographies were impacted by government actions in response to the COVID-19 pandemic that reduced economic activity and access to industrial facilities. Operating margin rate in this segment was comparable to 2019 as the favorable effects of pricing and lower product costs offset decreases in sales volume.
Industrial segment sales declined in 2019 as weakness in worldwide manufacturing markets more than offset the impact of strong finishing system sales in EMEA. Automotive project demand was down substantially, particularly in Asia Pacific, and uncertainty around trade wars caused many manufacturers to postpone factory investments. Operating margin rate in this segment decreased compared to 2018 as the favorable effects of pricing were more than offset by the adverse impacts of higher material costs, lower sales and factory volume, product and channel mix, and currency translation.
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In this segment, sales in each geographic region are significant and management looks at economic and financial indicators in each region, including gross domestic product, industrial production, capital investment rates, automobile production, building construction and the level of the U.S. dollar versus the euro, the Swiss franc, the Canadian dollar, the Chinese renminbi and various other Asian currencies.
Process Segment
The following table presents net sales and operating earnings as a percentage of sales for the Process segment (dollars in millions):
2020 2019 2018
Sales
Americas $ 206.4 $ 222.2 $ 215.9
EMEA 53.1 61.5 58.5
Asia Pacific 66.6 61.2 63.6
Total $ 326.1 $ 344.9 $ 338.0
Operating Earnings as a Percentage of Sales 20 % 22 % 20 %
The following table presents the components of net sales change by geographic region for the Process segment:
2020 2019
Volume and Price Acquisitions Currency Total Volume and Price Acquisitions Currency Total
Americas (10)% 3% 0% (7)% 3% 0% 0% 3%
EMEA (19)% 5% 0% (14)% 3% 5% (3)% 5%
Asia Pacific (2)% 11% 0% 9% (5)% 4% (3)% (4)%
Segment Total (10)% 5% 0% (5)% 1% 2% (1)% 2%
Process segment sales decreased in 2020, as sales from acquired operations of $18 million were unable to offset weakness in most markets and geographies, particularly in vehicle services, industrial lubrication and oil and natural gas markets. Operating margin rate declined 2 percentage points for the year driven by lower volume and unfavorable product and channel mix, partially offset by the impact of divested operations.
Process segment sales performance in 2019 varied by end market, with solid growth in semiconductor and environmental markets, and weakness in industrial, vehicle services and energy markets. Weakness in Asia Pacific also adversely affected Process segment sales, nearly offsetting increases in the Americas and EMEA. Sales from acquired operations contributed approximately $7 million of growth in the Process segment. Operating margin rate for this segment improved by 2 percentage points, driven by lower volume and earnings-based costs.
Although the Americas represent the substantial majority of sales for the Process segment, and indicators in that region are the most significant, management monitors indicators such as levels of gross domestic product, capital investment, industrial production, oil and natural gas markets and mining activity worldwide.
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Contractor Segment
The following table presents net sales and operating earnings as a percentage of sales for the Contractor segment (dollars in millions):
2020 2019 2018
Sales
Americas $ 495.7 $ 414.3 $ 395.6
EMEA 111.6 104.9 100.4
Asia Pacific 39.0 34.5 38.3
Total $ 646.3 $ 553.7 $ 534.3
Operating Earnings as a Percentage of Sales 25 % 23 % 23 %
The following table presents the components of net sales change by geographic region for the Contractor segment:
2020 2019
Volume and Price Acquisitions Currency Total Volume and Price Acquisitions Currency Total
Americas 20% 0% 0% 20% 5% 0% 0% 5%
EMEA 5% 0% 1% 6% 9% 0% (5)% 4%
Asia Pacific 14% 0% (1)% 13% (6)% 0% (4)% (10)%
Segment Total 17% 0% 0% 17% 5% 0% (1)% 4%
In 2020, continued strength in construction markets and increased demand from home improvement markets drove sales growth in all regions. Operating margin rate increased compared to the 2019 rate due to increased sales volume and expense leverage.
Contractor segment sales growth continued in 2019, with favorable response to new product offerings and the on-going favorable construction environment in the Americas and EMEA. Operating margin rate was consistent with the 2018 rate.
In this segment, sales in all regions are significant and management reviews economic and financial indicators in each region, including levels of residential, commercial and institutional construction, remodeling rates and interest rates. Management also reviews gross domestic product for the regions and the level of the U.S. dollar versus the euro and other currencies.
Financial Condition and Cash Flow
Working Capital. The following table highlights several key measures of asset performance (dollars in millions):
2020 2019
Working capital $ 702.4 $ 506.1
Current ratio 3.2 2.8
Days of sales in receivables outstanding 64 59
Inventory turnover (LIFO) 2.8 2.7
Higher cash and cash equivalent balances drove the increases in working capital and current ratio. Increases in accounts receivable were consistent with higher sales levels in the Contractor segment, and inventories increased to meet higher demand and service levels.
Capital Structure. At December 25, 2020, the Company’s capital structure included current notes payable of $22 million, long-term debt of $150 million and shareholders’ equity of $1,284 million. At December 27, 2019, the Company’s capital structure included current notes payable of $8 million, long-term debt of $164 million and shareholders’ equity of $1,025 million.
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Shareholders’ equity increased by $259 million in 2020. The increase from current year earnings of $330 million was offset by dividends of $119 million and share repurchases of $102 million. Increases related to shares issued, stock compensation and other comprehensive income totaled $150 million.
Liquidity and Capital Resources . The Company had cash held in deposit accounts totaling $379 million at December 25, 2020, and $221 million as of December 27, 2019. The Company asserted that it will indefinitely reinvest earnings of foreign subsidiaries to support expansion of its international business. As of December 25, 2020, the amount of cash held outside the U.S. totaled $173 million and is sufficient to fund investments abroad.
On December 15, 2016, the Company executed an amendment to its revolving credit agreement, extending the expiration date to December 15, 2021 and decreasing certain interest rates and fees. The amended agreement with a syndicate of lenders provides up to $500 million of committed credit, available for general corporate purposes, working capital needs, share repurchases and acquisitions. The Company may borrow up to $50 million under the swingline portion of the facility for daily working capital needs. We expect to renew our amended revolving credit agreement prior to its expiration in December 2021.
Under terms of the amended revolving credit agreement, borrowings may be denominated in U.S. dollars or certain other currencies. Loans denominated in U.S. dollars bear interest, at the Company’s option, at either a base rate or a LIBOR-based rate. Loans denominated in currencies other than U.S. dollars bear interest at a LIBOR-based rate. The base rate is an annual rate equal to a margin ranging from zero percent to 0.75 percent, depending on the Company’s cash flow leverage ratio (debt to earnings before interest, taxes, depreciation, amortization and extraordinary non-operating or non-cash charges and expenses) plus the highest of (i) the bank’s prime rate, (ii) the federal funds rate plus 0.5 percent, or (iii) one-month LIBOR plus 1.5 percent. In general, LIBOR-based loans bear interest at LIBOR plus 1 percent to 1.75 percent, depending on the Company’s cash flow leverage ratio. In addition to paying interest on the outstanding loans, the Company is required to pay a fee on the unused amount of the loan commitments at an annual rate ranging from 0.125 percent to 0.25 percent, depending on the Company’s cash flow leverage ratio.
On September 24, 2018, the Company entered into a revolving credit agreement with a sole lender that was scheduled to expire in September 2020. This revolver was amended effective January 29, 2020 to remove the expiration date, eliminate commitment fees, reduce interest rate margins and delete negative covenants regarding cash flow leverage and interest coverage ratios. This credit agreement provides up to $50 million of committed credit, available for general corporate purposes, working capital needs, share repurchases and acquisitions. Under the terms of the revolving credit agreement, loans may be denominated in U.S. dollars or Chinese renminbi (offshore). Loans denominated in U.S. dollars bear interest, at the Company’s option, at either a base rate or a LIBOR-based rate. Loans denominated in Chinese renminbi (offshore) bear interest at a LIBOR-based rate based on the Chinese offshore rate. Other terms of the revolving credit agreement are substantially similar to those of the Company’s other revolving credit agreement that expires in December 2021.
On January 29, 2020, the Company entered into a master note agreement with a sole lender that expires on January 29, 2023. The note agreement sets forth certain terms on which the Company may issue, and affiliates of the lender may purchase, up to $200 million of the Company’s senior notes. Interest on the senior notes will be determined at the time of issuance, at a fixed or LIBOR-based floating rate at the option of the Company, provided that the maximum aggregate principal amount of notes bearing interest at a floating rate may not exceed $100 million. Fixed rate notes issued under the agreement will mature no longer than 12 years from date of issuance and variable rate notes will mature no longer than 10 years from issuance. Under terms of the note agreement, the Company is required to maintain certain financial ratios as to cash flow leverage and interest coverage similar to the requirements of its other debt agreements.
On December 25, 2020, the Company had $598 million in lines of credit, including the $550 million in committed credit facilities described above and $48 million with foreign banks. The unused portion of committed credit lines was $548 million as of December 25, 2020.
Various debt agreements require the Company to maintain certain financial ratios as to cash flow leverage and interest coverage. The Company is in compliance with all financial covenants of its debt agreements as of December 25, 2020.
Internally generated funds and unused financing sources are expected to provide the Company with the flexibility to meet its liquidity needs in 2021, including its capital expenditure plan of approximately $115 million, including $80 million for building projects to expand production capacity, planned dividends estimated at $126 million, share repurchases and acquisitions. If acquisition opportunities increase, the Company believes that reasonable financing alternatives are available for the Company to execute on those opportunities.
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In December 2020, the Company’s Board of Directors increased the Company’s regular quarterly dividend to $0.1875 from $0.175 per share, an increase of 7 percent.
Cash Flow. A summary of cash flow follows (in millions):
2020 2019 2018
Operating activities $ 394.0 $ 418.7 $ 368.0
Investing activities (99.0) (155.5) (66.3)
Financing activities (139.5) (174.0) (282.7)
Effect of exchange rates on cash 2.4 (0.3) 0.2
Net cash provided 157.9 88.9 19.2
Cash and cash equivalents at end of year $ 378.9 $ 221.0 $ 132.1
Cash Flows From Operating Activities . Net cash provided by operating activities was $394 million in 2020, down $25 million compared to 2019. Increases in working capital and a $20 million voluntary contribution in 2020 to one of the Company’s U.S. qualified defined benefit retirement plans drove the decrease. Net cash provided by operating activities was $419 million in 2019, up $51 million compared to 2018. A $40 million voluntary contribution in 2018 to one of the Company’s U.S. qualified defined benefit retirement plans was not repeated in 2019.
Cash Flows Used in Investing Activities. Cash flows used in investing activities totaled $99 million in 2020, including $71 million for capital additions and $28 million for business acquisitions. Cash flows used in investing activities totaled $155 million in 2019 including $128 million for capital additions and $27 million for business acquisitions. Cash flows used in investing activities totaled $66 million in 2018 including $54 million for capital additions and $11 million for business acquisitions.
Cash Flows Used in Financing Activities . Cash flows used in financing activities totaled $139 million in 2020 and included dividends of $117 million and net payments from share repurchases and issuances totaling $21 million. Cash flows used in financing activities totaled $174 million in 2019 and included dividends of $106 million and net payments on long-term debt and outstanding lines of credit of $105 million (including a $75 million prepayment of private placement debt that was due in 2020), partially offset by net proceeds from share issuances and repurchases totaling $37 million. Cash flows used in financing activities totaled $283 million in 2018 and included dividends of $89 million, share repurchases of $245 million (partially offset by net proceeds from share issuances of $25 million) and taxes paid related to net share settlement of equity awards of $16 million.
On April 24, 2015, the Board of Directors authorized the purchase of up to 18 million shares of common stock, primarily through open market transactions. There were approximately 3.3 million shares remaining under the authorization on December 7, 2018, when the Board of Directors authorized the purchase of up to an additional 18 million shares. The authorizations are for an indefinite period of time or until terminated by the Board. As of December 25, 2020, approximately 18.5 million shares remain available for purchase under the authorizations.
The Company repurchased and retired 2.3 million shares in 2020, compared to 0.2 million shares in 2019 and 5.8 million shares in 2018. The Company may continue to make opportunistic share repurchases in 2021 via open market transactions or short-dated accelerated share repurchase (“ASR”) programs.
Off-Balance Sheet Arrangements and Contractual Obligations . The Company has no significant off-balance sheet debt or other unrecorded obligations other than the items noted in the following table. In addition, the Company could be obligated to perform under standby letters of credit totaling $3 million at December 25, 2020. The Company has also guaranteed the debt of its subsidiaries for up to $4 million. All debt of subsidiaries is reflected in the consolidated balance sheets.
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As of December 25, 2020, the Company is obligated to make cash payments in connection with obligations as follows (in millions):
Payments due by period
Total Less than
1 year 1-3
years 3-5
years More than
5 years
Debt obligations $ 172.2 $ 22.2 $ 75.0 $ — $ 75.0
Interest on debt obligations 41.0 8.2 12.7 17.1 3.0
Operating leases 44.7 9.4 14.1 8.8 12.4
Service contracts 19.6 7.5 8.5 3.2 0.4
Purchase obligations (1)
198.0 198.0 — — —
Unfunded pension and postretirement medical benefits (2)
41.8 3.5 7.7 8.3 22.3
Total $ 517.3 $ 248.8 $ 118.0 $ 37.4 $ 113.1
(1) The Company is committed to pay suppliers under the terms of open purchase orders issued in the normal course of business. The Company also has commitments with certain suppliers to purchase minimum quantities, and under the terms of certain agreements, the Company is committed for certain portions of the supplier’s inventory. The Company does not purchase, or commit to purchase, quantities in excess of normal usage or amounts that cannot be used within one year.
(2) The amounts and timing of future Company contributions to the funded qualified defined benefit pension plans are unknown because they are dependent on pension fund asset performance and pension obligation valuation assumptions.
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Critical Accounting Estimates
The Company prepares its consolidated financial statements in conformity with generally accepted accounting principles in the United States of America (“U.S. GAAP”). The Company’s most significant accounting policies are disclosed in Note A (Summary of Significant Accounting Policies) to the consolidated financial statements. The preparation of the consolidated financial statements, in conformity with U.S. GAAP, requires management to make estimates and judgments that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual amounts will differ from those estimates. The Company considers the following policies to involve the most judgment in the preparation of the Company’s consolidated financial statements.
Retirement Benefits. The measurements of the Company’s pension and postretirement medical obligations are dependent on a number of assumptions including estimates of the present value of projected future payments, taking into consideration future events such as salary increases and demographic experience. These assumptions may have an impact on the expense and timing of future contributions.
The assumptions used in developing the required estimates for pension obligations include discount rate, inflation, salary increases, retirement rates, expected return on plan assets and mortality rates. The assumptions used in developing the required estimates for postretirement medical obligations include discount rates, rate of future increase in medical costs and participation rates.
For U.S. plans, the Company establishes its discount rate assumption by reference to a yield curve published by an actuary and projected plan cash flows. For plans outside the U.S., the Company establishes a rate by country by reference to highly rated corporate bonds. These reference points have been determined to adequately match expected plan cash flows. The Company bases its inflation assumption on an evaluation of external market indicators. The salary assumptions are based on actual historical experience, the near-term outlook and assumed inflation. Retirement rates are based on experience. The investment return assumption is based on the expected long-term performance of plan assets. In setting this number, the Company considers the input of actuaries and investment advisers, its long-term historical returns, the allocation of plan assets and projected returns on plan assets. For 2021, the Company will use investment return assumptions of 6.3 percent for the larger of its two funded U.S. plans and 5.2 percent for the smaller plan, down 0.7 and 0.8 percentage point from the rates assumed for 2020, respectively. Mortality rates are based on current common group mortality tables for males and females.
At December 25, 2020, a one-half percentage point decrease in the indicated assumptions would have the following effects (in millions):
Assumption Funded Status Expense
Discount rate $ (38.6) $ 3.0
Expected return on assets — 1.3
Goodwill and Other Intangible Assets. The Company performs impairment testing for goodwill annually in the fourth quarter or more frequently if events or changes in circumstances indicate that the asset might be impaired. The Company estimates the fair value of the reporting units using a present value of future cash flows calculation cross-checked by an allocation of market capitalization approach. The impairment test is performed using a two-step process. In the first step, the fair value of each reporting unit is compared with the carrying amount of the reporting unit. If the estimated fair value exceeds its carrying value, step two of the impairment analysis is not required. If the estimated fair value is less than its carrying amount, impairment is indicated and the second step must be completed in order to determine the amount, if any, of the impairment. In the second step, an impairment loss is recognized for the difference between the implied value of goodwill and the carrying value.
The Company’s primary identifiable intangible assets include customer relationships, trademarks, trade names, proprietary technology and patents. Finite lived intangibles are amortized and are evaluated for impairment whenever events or changes in circumstances indicate that the carrying amount may not be recoverable. Indefinite lived intangibles are reviewed for impairment annually in the fourth quarter, or more frequently if events or changes in circumstances indicate the asset might be impaired.
A considerable amount of management judgment and assumptions are required in performing the impairment tests. Management makes several assumptions, including earnings and cash flow projections, discount rate, product offerings and market strategies, customer attrition, and royalty rates, each of which have a significant impact on the estimated fair
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values. Though management considers its judgments and assumptions to be reasonable, changes in these assumptions could impact the estimated fair value.
In 2020, we completed our annual impairment testing of goodwill and other intangible assets in the fourth quarter. No impairment charges were recorded as a result of that review.
Income Taxes. In the preparation of the Company’s consolidated financial statements, management calculates income taxes. This includes estimating current tax liability as well as assessing temporary differences resulting from different treatment of items for tax and financial statement purposes. These differences result in deferred tax assets and liabilities, which are recorded on the balance sheet using statutory rates in effect for the year in which the differences are expected to reverse. These assets and liabilities are analyzed regularly and management assesses the likelihood that deferred tax assets will be recoverable from future taxable income. A valuation allowance is established to the extent that management believes that recovery is not likely. Liabilities for uncertain tax positions are also established for potential and ongoing audits of federal, state and international issues. The Company routinely monitors the potential impact of such situations and believes that liabilities are properly stated. Valuations related to amounts owed and tax rates could be impacted by changes to tax codes and the Company’s interpretation thereof, changes in statutory rates, the Company’s future taxable income levels and the results of tax audits.
Recent Accounting Pronouncements
Refer to Note A (Summary of Significant Accounting Policies) to the Consolidated Financial Statements of this Form 10-K for disclosures related to recent accounting pronouncements.