KADANT INC 10-Q

Item 1 – Financial Statements KADANT INC. Condensed Consolidated Balance Sheet (Unaudited) April 3, 2021 January 2, 2021 (In thousands, except share and per share amounts) Assets Current Assets: Cash and cash equivalents $ 65,982 $ 65,682 Restricted cash 726 958 Accounts receivable, net of allowances of $ 2,797 and $ 2,977 104,378 91,540 Inventories 112,590 106,814 Unbilled revenue 6,204 7,576 Other current assets 19,874 17,250 Total Current Assets 309,754 289,820 Property, Plant, and Equipment, net of accumulated depreciation of $ 109,426 and $ 107,832 82,204 84,642 Other Assets 39,669 40,391 Intangible Assets, Net 155,534 160,965 Goodwill 348,504 351,753 Total Assets $ 935,665 $ 927,571 Liabilities and Stockholders' Equity Current Liabilities: Current maturities of long-term obligations (Note 4) $ 1,417 $ 1,474 Accounts payable 38,988 32,264 Accrued payroll and employee benefits 25,525 31,168 Customer deposits 37,434 29,433 Advanced billings 9,801 8,513 Other current liabilities 33,429 31,836 Total Current Liabilities 146,594 134,688 Long-Term Obligations (Note 4) 221,067 232,000 Other Long-Term Liabilities 63,696 63,978 Commitments and Contingencies (Note 10) Stockholders' Equity: Preferred stock, $ .01 par value, 5,000,000 shares authorized; none issued — — Common stock, $ .01 par value, 150,000,000 shares authorized; 14,624,159 shares issued 146 146 Capital in excess of par value 108,064 110,824 Retained earnings 493,067 479,400 Treasury stock at cost, 3,046,379 and 3,081,919 shares ( 74,649 ) ( 75,519 ) Accumulated other comprehensive items (Note 6) ( 24,040 ) ( 19,492 ) Total Kadant Stockholders' Equity 502,588 495,359 Noncontrolling interest 1,720 1,546 Total Stockholders' Equity 504,308 496,905 Total Liabilities and Stockholders' Equity $ 935,665 $ 927,571 The accompanying notes are an integral part of these condensed consolidated financial statements. 3 Table of Contents KADANT INC. Condensed Consolidated Statement of Income (Unaudited) Three Months Ended April 3, 2021 March 28, 2020 (In thousands, except per share amounts) Revenue (Notes 1 and 9) $ 172,463 $ 159,127 Costs and Operating Expenses: Cost of revenue 96,748 90,804 Selling, general, and administrative expenses 49,431 45,592 Research and development expenses 2,857 3,076 149,036 139,472 Operating Income 23,427 19,655 Interest Income 65 51 Interest Expense ( 1,111 ) ( 2,459 ) Other Expense, Net ( 24 ) ( 32 ) Income Before Provision for Income Taxes 22,357 17,215 Provision for Income Taxes (Note 3) 5,561 4,559 Net Income 16,796 12,656 Net Income Attributable to Noncontrolling Interest ( 235 ) ( 125 ) Net Income Attributable to Kadant $ 16,561 $ 12,531 Earnings per Share Attributable to Kadant (Note 2) Basic $ 1.43 $ 1.10 Diluted $ 1.43 $ 1.09 Weighted Average Shares (Note 2) Basic 11,553 11,432 Diluted 11,612 11,508 The accompanying notes are an integral part of these condensed consolidated financial statements. 4 Table of Contents KADANT INC. Condensed Consolidated Statement of Comprehensive Income (Loss) (Unaudited) Three Months Ended April 3, 2021 March 28, 2020 (In thousands) Net Income $ 16,796 $ 12,656 Other Comprehensive Items: Foreign currency translation adjustment ( 4,750 ) ( 12,574 ) Post-retirement liability adjustments, net (net of tax of $ 10 and $ 20 ) 28 50 Effect of post-retirement plan settlement — ( 119 ) Deferred gain (loss) on cash flow hedges (net of tax of $ 19 and $( 119 )) 113 ( 302 ) Other comprehensive items ( 4,609 ) ( 12,945 ) Comprehensive Income (Loss) 12,187 ( 289 ) Comprehensive Income Attributable to Noncontrolling Interest ( 174 ) ( 114 ) Comprehensive Income (Loss) Attributable to Kadant $ 12,013 $ ( 403 ) The accompanying notes are an integral part of these condensed consolidated financial statements. 5 Table of Contents KADANT INC. Condensed Consolidated Statement of Cash Flows (Unaudited) Three Months Ended April 3, 2021 March 28, 2020 (In thousands) Operating Activities Net income attributable to Kadant $ 16,561 $ 12,531 Net income attributable to noncontrolling interest 235 125 Net income 16,796 12,656 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 7,686 7,598 Stock-based compensation expense 1,499 1,639 (Benefit) provision for losses on accounts receivable ( 129 ) 103 Loss (gain) on sale of property, plant, and equipment 48 ( 10 ) Other items, net ( 430 ) ( 877 ) Changes in current assets and liabilities, net of effects of an acquisition: Accounts receivable ( 13,955 ) 1,929 Unbilled revenue 1,231 844 Inventories ( 6,612 ) ( 3,735 ) Other current assets ( 2,690 ) ( 1,107 ) Accounts payable 8,031 ( 3,440 ) Other current liabilities 7,617 ( 9,431 ) Net cash provided by operating activities 19,092 6,169 Investing Activities Acquisition ( 125 ) — Purchases of property, plant, and equipment ( 2,259 ) ( 2,686 ) Proceeds from sale of property, plant, and equipment 32 14 Net cash used in investing activities ( 2,352 ) ( 2,672 ) Financing Activities Repayment of long-term obligations ( 19,563 ) ( 2,969 ) Proceeds from issuance of long-term obligations 10,139 — Tax withholding payments related to stock-based compensation ( 3,388 ) ( 2,318 ) Dividends paid ( 2,770 ) ( 2,628 ) Proceeds from issuance of Company common stock — 913 Net cash used in financing activities ( 15,582 ) ( 7,002 ) Exchange Rate Effect on Cash, Cash Equivalents, and Restricted Cash ( 1,090 ) ( 2,693 ) Increase (Decrease) in Cash, Cash Equivalents, and Restricted Cash 68 ( 6,198 ) Cash, Cash Equivalents, and Restricted Cash at Beginning of Period 66,640 68,273 Cash, Cash Equivalents, and Restricted Cash at End of Period $ 66,708 $ 62,075 See Note 1 , Nature of Operations and Summary of Significant Accounting Policies, under the heading Supplemental Cash Flow Information for further details. The accompanying notes are an integral part of these condensed consolidated financial statements. 6 Table of Contents KADANT INC. Condensed Consolidated Statement of Stockholders' Equity (Unaudited) Three Months Ended April 3, 2021 (In thousands, except share and per share amounts) Common Stock Capital in Excess of Par Value Retained Earnings Treasury Stock Accumulated Other Comprehensive Items Noncontrolling Interest Total Stockholders' Equity Shares Amount Shares Amount Balance at January 2, 2021 14,624,159 $ 146 $ 110,824 $ 479,400 3,081,919 $ ( 75,519 ) $ ( 19,492 ) $ 1,546 $ 496,905 Net income — — — 16,561 — — — 235 16,796 Dividend declared – Common Stock, $ 0.25 per share — — — ( 2,894 ) — — — — ( 2,894 ) Activity under stock plans — — ( 2,760 ) — ( 35,540 ) 870 — — ( 1,890 ) Other comprehensive items — — — — — — ( 4,548 ) ( 61 ) ( 4,609 ) Balance at April 3, 2021 14,624,159 $ 146 $ 108,064 $ 493,067 3,046,379 $ ( 74,649 ) $ ( 24,040 ) $ 1,720 $ 504,308 Three Months Ended March 28, 2020 (In thousands, except share and per share amounts) Common Stock Capital in Excess of Par Value Retained Earnings Treasury Stock Accumulated Other Comprehensive Items Noncontrolling Interest Total Stockholders' Equity Shares Amount Shares Amount Balance at December 28, 2019 14,624,159 $ 146 $ 106,698 $ 435,249 3,214,888 $ ( 78,778 ) $ ( 37,620 ) $ 1,384 $ 427,079 Net income — — — 12,531 — — — 125 12,656 Dividend declared – Common Stock, $ 0.24 per share — — — ( 2,753 ) — — — — ( 2,753 ) Activity under stock plans — — ( 1,241 ) — ( 60,244 ) 1,476 — — 235 Other comprehensive items — — — — — — ( 12,934 ) ( 11 ) ( 12,945 ) Balance at March 28, 2020 14,624,159 $ 146 $ 105,457 $ 445,027 3,154,644 $ ( 77,302 ) $ ( 50,554 ) $ 1,498 $ 424,272 The accompanying notes are an integral part of these condensed consolidated financial statements. 7 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) 1. Nature of Operations and Summary of Significant Accounting Policies Nature of Operations Kadant Inc. was incorporated in Delaware in November 1991 and trades on the New York Stock Exchange under the ticker symbol "KAI." Kadant Inc. (together with its subsidiaries, the Company) is a global supplier of high-value, critical components and engineered systems used in process industries worldwide. Its products, technologies, and services play an integral role in enhancing process efficiency, optimizing energy utilization, and maximizing productivity in resource-intensive industries. Interim Financial Statements The interim condensed consolidated financial statements and related notes presented have been prepared by the Company, are unaudited, and, in the opinion of management, reflect all adjustments of a normal recurring nature necessary for a fair statement of the Company's financial position at April 3, 2021, its results of operations, comprehensive income (loss), cash flows, and stockholders' equity for the three-month periods ended April 3, 2021 and March 28, 2020. Interim results are not necessarily indicative of results for a full year or for any other interim period. The condensed consolidated balance sheet presented as of January 2, 2021 has been derived from the consolidated financial statements contained in the Company's Annual Report on Form 10-K for the fiscal year ended January 2, 2021. The condensed consolidated financial statements and related notes are presented as permitted by the rules and regulations of the Securities and Exchange Commission (SEC) for Form 10-Q and do not contain certain information included in the annual consolidated financial statements and related notes of the Company. The condensed consolidated financial statements and notes included herein should be read in conjunction with the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K for the fiscal year ended January 2, 2021, filed with the SEC. Use of Estimates and Critical Accounting Policies The preparation of financial statements in conformity with U.S. generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. Although the Company makes every effort to ensure the accuracy of the estimates and assumptions used in the preparation of its condensed consolidated financial statements or in the application of accounting policies, if business conditions were different, or if the Company were to use different estimates and assumptions, it is possible that materially different amounts could be reported in the Company's condensed consolidated financial statements. Note 1 to the consolidated financial statements in the Company's Annual Report on Form 10-K for the fiscal year ended January 2, 2021 describes the significant accounting estimates and policies used in preparation of the consolidated financial statements. There have been no material changes in the Company’s significant accounting policies during the three months ended April 3, 2021. Supplemental Cash Flow Information Three Months Ended (In thousands) April 3, 2021 March 28, 2020 Cash Paid for Interest $ 892 $ 2,212 Cash Paid for Income Taxes, Net of Refunds $ 5,344 $ 4,698 Non-Cash Investing Activities: Non-cash additions to property, plant, and equipment $ 169 $ 128 Non-Cash Financing Activities: Issuance of Company common stock upon vesting of restricted stock units $ 3,203 $ 3,670 Dividends declared but unpaid $ 2,894 $ 2,753 8 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) Restricted Cash The Company's restricted cash serves as collateral for certain banker's acceptance drafts issued to vendors and for bank guarantees associated with providing assurance to customers that the Company will fulfill certain customer obligations entered into in the normal course of business. The majority of the bank guarantees will expire over the next twelve months . The following table provides a reconciliation of cash, cash equivalents, and restricted cash reported within the Company's condensed consolidated balance sheet that are shown in aggregate in the accompanying condensed consolidated statement of cash flows: (In thousands) April 3, 2021 March 28, 2020 January 2, 2021 December 28, 2019 Cash and cash equivalents $ 65,982 $ 60,012 $ 65,682 $ 66,786 Restricted cash 726 2,063 958 1,487 Total Cash, Cash Equivalents, and Restricted Cash $ 66,708 $ 62,075 $ 66,640 $ 68,273 Inventories The components of inventories are as follows: April 3, 2021 January 2, 2021 (In thousands) Raw Materials $ 45,697 $ 46,413 Work in Process 23,789 17,692 Finished Goods 43,104 42,709 $ 112,590 $ 106,814 Intangible Assets, Net Acquired intangible assets by major asset class are as follows: (In thousands) Gross Accumulated Amortization Currency Translation Net April 3, 2021 Definite-Lived Customer relationships $ 173,728 $ ( 68,910 ) $ ( 1,760 ) $ 103,058 Product technology 56,111 ( 32,557 ) ( 1,200 ) 22,354 Tradenames 6,027 ( 3,054 ) ( 325 ) 2,648 Other 18,248 ( 14,569 ) ( 541 ) 3,138 254,114 ( 119,090 ) ( 3,826 ) 131,198 Indefinite-Lived Tradenames 24,100 — 236 24,336 Acquired Intangible Assets $ 278,214 $ ( 119,090 ) $ ( 3,590 ) $ 155,534 January 2, 2021 Definite-Lived Customer relationships $ 173,728 $ ( 65,488 ) $ ( 1,316 ) $ 106,924 Product technology 56,111 ( 31,655 ) ( 1,005 ) 23,451 Tradenames 6,027 ( 2,946 ) ( 282 ) 2,799 Other 18,248 ( 14,369 ) ( 515 ) 3,364 254,114 ( 114,458 ) ( 3,118 ) 136,538 Indefinite-Lived Tradenames 24,100 — 327 24,427 Acquired Intangible Assets $ 278,214 $ ( 114,458 ) $ ( 2,791 ) $ 160,965 Intangible assets are recorded at fair value at the date of acquisition. Subsequent impairment charges are reflected as a reduction in the gross balance, as applicable. Definite-lived intangible assets are stated net of accumulated amortization and currency translation in the accompanying condensed consolidated balance sheet. The Company amortizes definite-lived intangible assets over lives that have been determined based on the anticipated cash flow benefits of the intangible asset. 9 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) Goodwill The changes in the carrying amount of goodwill by segment are as follows: (In thousands) Flow Control Industrial Processing Material Handling Total Balance at January 2, 2021 Gross balance $ 101,437 $ 215,881 $ 119,944 $ 437,262 Accumulated impairment losses — ( 85,509 ) — ( 85,509 ) Net balance 101,437 130,372 119,944 351,753 2021 Adjustment Currency translation ( 1,273 ) ( 466 ) ( 1,510 ) ( 3,249 ) Total 2021 adjustment ( 1,273 ) ( 466 ) ( 1,510 ) ( 3,249 ) Balance at April 3, 2021 Gross balance 100,164 215,415 118,434 434,013 Accumulated impairment losses — ( 85,509 ) — ( 85,509 ) Net balance $ 100,164 $ 129,906 $ 118,434 $ 348,504 Warranty Obligations The Company's contracts covering the sale of its products include warranty provisions that provide assurance to its customers that the products will comply with agreed-upon specifications during a defined period of time. The Company provides for the estimated cost of product warranties at the time of sale based on historical occurrence rates and repair costs, as well as knowledge of any specific warranty problems that indicate projected warranty costs may vary from historical patterns. The Company negotiates the terms regarding warranty coverage and length of warranty depending on the products and applications. The Company's liability for warranties is included in other current liabilities in the accompanying condensed consolidated balance sheet. The changes in the carrying amount of product warranty obligations are as follows: Three Months Ended (In thousands) April 3, 2021 March 28, 2020 Balance at Beginning of Year $ 7,064 $ 6,467 Provision charged to expense 1,664 1,270 Usage ( 1,361 ) ( 1,365 ) Currency translation ( 133 ) ( 162 ) Balance at End of Period $ 7,234 $ 6,210 Revenue Recognition Most of the Company’s revenue relates to products and services that require minimal customization and is recognized at a point in time for each performance obligation under the contract when the customer obtains control of the goods or service. The remaining portion of the Company’s revenue is recognized on an over time basis based on an input method that compares the costs incurred to date to the total expected costs required to satisfy the performance obligation. Contracts are accounted for on an over time basis when they include products which have no alternative use and an enforceable right to payment over time. Most of the contracts recognized on an over time basis are for large capital projects. These projects are highly customized for the customer and, as a result, would include a significant cost to rework in the event of cancellation. The following table presents revenue by revenue recognition method: Three Months Ended April 3, March 28, (In thousands) 2021 2020 Point in Time $ 154,417 $ 136,092 Over Time 18,046 23,035 $ 172,463 $ 159,127 10 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) The Company disaggregates its revenue from contracts with customers by reportable operating segment, product type and geography as this best depicts how its revenue is affected by economic factors. The following table presents the disaggregation of revenue by product type and geography: Three Months Ended April 3, March 28, (In thousands) 2021 2020 Revenue by Product Type: Parts and Consumables $ 118,107 $ 105,098 Capital 54,356 54,029 $ 172,463 $ 159,127 Revenue by Geography (based on customer location): North America $ 95,092 $ 93,823 Europe 44,641 36,014 Asia 21,813 15,908 Rest of World 10,917 13,382 $ 172,463 $ 159,127 See Note 9 , Business Segment Information, for information on the disaggregation of revenue by reportable operating segment. The following table presents contract balances from contracts with customers: April 3, 2021 January 2, 2021 (In thousands) Accounts Receivable $ 104,378 $ 91,540 Contract Assets $ 6,204 $ 7,576 Contract Liabilities $ 48,286 $ 39,269 Contract assets represent unbilled revenue associated with revenue recognized on contracts accounted for on an over time basis, which will be billed in future periods based on the contract terms. Contract liabilities consist of customer deposits, advanced billings, and deferred revenue. Deferred revenue is included in other current liabilities in the accompanying condensed consolidated balance sheet. Contract liabilities will be recognized as revenue in future periods once the revenue recognition criteria are met. The majority of the contract liabilities relate to advance payments on contracts accounted for at a point in time. These advance payments will be recognized as revenue when the Company's performance obligations have been satisfied, which typically occurs when the product has shipped and control of the asset has transferred to the customer. The Company recognized revenue of $ 17,140,000 in the first three months of 2021 and $ 19,708,000 in the first three months of 2020 that was included in the contract liabilities balance at the beginning of 2021 and 2020. The majority of the Company's contracts for capital equipment have an original expected duration of one year or less. Certain capital contracts require long lead times and could take up to 24 months to complete. For contracts with an original expected duration of over one year, the aggregate amount of the transaction price allocated to the remaining unsatisfied or partially unsatisfied performance obligations as of April 3, 2021 was $ 16,990,000 . The Company will recognize revenue for these performance obligations as they are satisfied, approximately 48 % of which is expected to occur within the next twelve months and the remaining 52 % within the following twelve months . Banker's Acceptance Drafts Included in Accounts Receivable The Company's Chinese subsidiaries may receive banker's acceptance drafts from customers as payment for their trade accounts receivable. The drafts are noninterest-bearing obligations of the issuing bank and mature within six months of the origination date. The Company's Chinese subsidiaries may sell the drafts at a discount to a third-party financial institution or transfer the drafts to vendors in settlement of current accounts payable prior to the scheduled maturity date. These drafts, which totaled $ 10,347,000 at April 3, 2021 and $ 9,445,000 at January 2, 2021, are included in accounts receivable in the accompanying condensed consolidated balance sheet until the subsidiary sells the drafts to a bank and receives a discounted amount, transfers the banker's acceptance drafts in settlement of current accounts payable prior to maturity, or obtains cash payment on the scheduled maturity date. 11 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) Recent Accounting Pronouncements Recently Adopted Accounting Pronouncements Income Taxes (Topic 740), Simplifying the Accounting for Income Taxes. In December 2019, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2019-12, which simplifies the accounting for income taxes by removing certain exceptions to the general principles in Topic 740 and by clarifying and amending existing guidance, including the recognition of franchise tax, the treatment of a step up in the tax basis of goodwill, and the timing for recognition of enacted changes in tax laws or rates in the interim period annual effective tax rate computation. This new guidance is effective in fiscal 2021, and the transition requirements are primarily prospective. The Company adopted this ASU prospectively at the beginning of fiscal 2021 and its adoption did not have an impact on the condensed consolidated financial statements. Recent Accounting Pronouncements Not Yet Adopted Reference Rate Reform (Topic 848), Facilitation of the Effects of Reference Rate Reform on Financial Reporting. In March 2020, the FASB issued ASU No. 2020-04, which provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, and other transactions affected by the discontinuation of reference rates, such as the London Interbank Offered Rate (LIBOR), if certain criteria are met. Generally, contract modifications related to reference rate reform may be considered an event that does not require remeasurement or reassessment of a previous accounting determination at the modification date. The guidance in this ASU is applicable to the Company's existing contracts and hedging relationships that reference LIBOR and may be adopted prospectively through December 31, 2022. The Company is currently evaluating the effects that the adoption of this ASU will have on its consolidated financial statements. 2. Earnings per Share Basic and diluted earnings per share (EPS) were calculated as follows: Three Months Ended April 3, 2021 March 28, 2020 (In thousands, except per share amounts) Net Income Attributable to Kadant $ 16,561 $ 12,531 Basic Weighted Average Shares 11,553 11,432 Effect of Stock Options, Restricted Stock Units and Employee Stock Purchase Plan Shares 59 76 Diluted Weighted Average Shares 11,612 11,508 Basic Earnings per Share $ 1.43 $ 1.10 Diluted Earnings per Share $ 1.43 $ 1.09 The effect of outstanding and unvested restricted stock units (RSUs) of the Company's common stock totaling 44,000 shares in the first quarter of 2021 and 43,000 shares in the first quarter of 2020 was not included in the computation of diluted EPS for the respective periods as the effect would have been antidilutive or, for unvested performance-based RSUs, the performance conditions had not been met as of the end of the reporting periods. 3. Provision for Income Taxes The provision for income taxes was $ 5,561,000 in the first three months of 2021 and $ 4,559,000 in the first three months of 2020. The effective tax rate of 25 % in the first three months of 2021 was higher than the Company's statutory rate of 21% primarily due to nondeductible expenses, the distribution of the Company's worldwide earnings, state taxes, and tax expense associated with the Global Intangible Low-Taxed Income (GILTI) provisions. This incremental tax expense was offset in part by a decrease in tax related to the net excess income tax benefits from stock-based compensation arrangements. The effective tax rate of 26 % in the first three months of 2020 was higher than the Company's statutory rate of 21% primarily due to nondeductible expenses, state taxes, the distribution of the Company’s worldwide earnings, and tax expense associated with GILTI. This incremental tax expense was offset in part by the reversal of tax reserves associated with uncertain tax positions. 12 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) 4. Long-Term Obligations Long-term obligations are as follows: April 3, 2021 January 2, 2021 (In thousands) Revolving Credit Facility, due 2023 $ 207,257 $ 217,963 Senior Promissory Notes, due 2023 to 2028 10,000 10,000 Finance Leases, due 2021 to 2025 1,570 1,631 Other Borrowings, due 2021 to 2023 3,657 3,880 Total 222,484 233,474 Less: Current Maturities of Long-Term Obligations ( 1,417 ) ( 1,474 ) Long-Term Obligations $ 221,067 $ 232,000 See Note 8 , Fair Value Measurements and Fair Value of Financial Instruments, for the fair value information related to the Company's long-term obligations. Revolving Credit Facility The Company entered into an unsecured multi-currency revolving credit facility, dated as of March 1, 2017 (as amended and restated to date, the Credit Agreement). Pursuant to the Credit Agreement, the Company has a borrowing capacity of $ 400,000,000 , with an uncommitted, unsecured incremental borrowing facility of $ 150,000,000 , with a maturity date of December 14, 2023. Interest on borrowings outstanding accrues and is payable in arrears calculated at one of the following rates selected by the Company: (i) the Base Rate, plus an applicable margin of 0 % to 1.25 %, or (ii) LIBOR (with a zero percent floor), as defined, plus an applicable margin of 1 % to 2.25 %. The Base Rate is calculated as the highest of (a) the federal funds rate plus 0.50 %, (b) the prime rate as published by Citizens Bank, N.A. (Citizens Bank) and (c) thirty-day U.S. dollar LIBOR (USD LIBOR), as defined, plus 0.50 %. The applicable margin is determined based upon the ratio of the Company's total debt, net of unrestricted cash up to $ 30,000,000 and certain debt obligations, to earnings before interest, taxes, depreciation, and amortization as defined in the Credit Agreement. The obligations under the Credit Agreement may be accelerated upon the occurrence of an event of default, which includes customary events of default under such financing arrangements. In addition, the Credit Agreement contains negative covenants applicable to the Company and its subsidiaries, including financial covenants requiring the Company to maintain a maximum consolidated leverage ratio of 3.75 to 1.00, or, if the Company elects, for the quarter during which a material acquisition occurs and for the three fiscal quarters thereafter, 4.00 to 1.00, and limitations on making certain restricted payments (including dividends and stock repurchases). Loans under the Credit Agreement are guaranteed by certain domestic subsidiaries of the Company. In addition, one of the Company’s foreign subsidiaries entered into a separate guarantee agreement limited to certain obligations of two foreign subsidiary borrowers. As of April 3, 2021, the outstanding balance under the Credit Agreement was $ 207,257,000 , which included $ 48,257,000 of euro-denominated borrowings. As of April 3, 2021, the Company had $ 192,819,000 of borrowing capacity available under its Credit Agreement, which was calculated by translating its foreign-denominated borrowings using borrowing date foreign exchange rates. See Note 7 , Derivatives, under the heading Interest Rate Swap Agreement, for information relating to the swap agreement used to hedge the Company’s exposure to movements in the three-month USD LIBOR on its U.S. dollar-denominated debt borrowed under the Credit Agreement. The weighted average interest rate for the outstanding balance under the Credit Agreement was 1.56 % as of April 3, 2021. Senior Promissory Notes In 2018, the Company entered into an uncommitted, unsecured Multi-Currency Note Purchase and Private Shelf Agreement (Note Purchase Agreement). Simultaneous with the execution of the Note Purchase Agreement, the Company issued senior promissory notes (Initial Notes) in an aggregate principal amount of $ 10,000,000 , with a per annum interest rate of 4.90 % payable semiannually, and a maturity date of December 14, 2028. The Company is required to prepay a portion of the principal of the Initial Notes beginning on December 14, 2023 and each year thereafter, and may optionally prepay the principal on the Initial Notes, together with any prepayment premium, at any time (in a minimum amount of $ 1,000,000 , or the foreign currency equivalent thereof, if applicable) in accordance with the Note Purchase Agreement. The obligations of the Initial Notes 13 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) may be accelerated upon an event of default as defined in the Note Purchase Agreement, which includes customary events of default under such financing arrangements. In accordance with the Note Purchase Agreement, the Company may also issue additional senior promissory notes (together with the Initial Notes, the Senior Promissory Notes) up to an additional $ 115,000,000 until the earlier of December 14, 2021 or the thirtieth day after written notice to terminate the issuance and sale of additional notes pursuant to the Note Purchase Agreement. The Senior Promissory Notes are pari passu with the Company’s indebtedness under the Credit Agreement, and any other senior debt of the Company, subject to certain specified exceptions, and participate in a sharing agreement with respect to the obligations of the Company and its subsidiaries under the Credit Agreement. The Senior Promissory Notes are guaranteed by certain of the Company’s domestic subsidiaries. Debt Compliance As of April 3, 2021, the Company was in compliance with the covenants related to its debt obligations. Finance Leases The Company's finance leases primarily relate to contracts for vehicles. Other Borrowings Other borrowings include a sale-leaseback financing arrangement for a manufacturing facility in Germany. Under this arrangement, the quarterly lease payment includes principal, interest, and a payment to the landlord toward a loan receivable. The interest rate on the outstanding obligation is 1.79 %. The secured loan receivable, which is included in other assets in the accompanying condensed consolidated balance sheet, was $ 1,266,000 at April 3, 2021. The lease arrangement provides for a fixed price purchase option, net of the projected loan receivable, of $ 1,566,000 at the end of the lease term in August 2022. If the Company does not exercise the purchase option for the facility, the Company will receive cash from the landlord to settle the loan receivable. As of April 3, 2021, $ 3,615,000 was outstanding under this obligation. 5. Stock-Based Compensation The Company recognized stock-based compensation expense of $ 1,499,000 in the first quarter of 2021 and $ 1,639,000 in the first quarter of 2020 within selling, general, and administrative (SG&A) expenses in the accompanying condensed consolidated statement of income. The Company recognizes compensation expense for all stock-based awards granted to employees and directors based on the grant date estimate of fair value for those awards. The fair value of RSUs is based on the grant date price of the Company's common stock, reduced by the present value of estimated dividends foregone during the requisite service period. For time-based RSUs, compensation expense is recognized ratably over the requisite service period for the entire award based on the grant date fair value, and net of actual forfeitures recorded when they occur. For performance-based RSUs, compensation expense is recognized ratably over the requisite service period for each separately vesting portion of the award based on the grant date fair value, net of actual forfeitures recorded when they occur, and remeasured each reporting period until the total number of RSUs to be issued is known. Unrecognized compensation expense related to stock-based compensation totaled approximately $ 11,500,000 at April 3, 2021 and will be recognized over a weighted average period of 2.1 years. Performance-based RSUs On March 9, 2021, the Company granted performance-based RSUs to certain of its officers, which represented, in aggregate, the right to receive 22,613 shares (the target RSU amount), with an aggregate grant date fair value of $ 3,962,000 . The RSUs are subject to adjustment based on the achievement of the performance measure selected for the 2021 fiscal year, which is a specified target for adjusted earnings before interest, taxes, depreciation, and amortization (adjusted EBITDA) generated from operations for the 2021 fiscal year. The RSUs are adjusted by comparing the actual adjusted EBITDA for the performance period to the target adjusted EBITDA. Actual adjusted EBITDA between 50% and 100% of the target adjusted EBITDA results in an adjustment of 50 % to 100 % of the RSU amount. Actual adjusted EBITDA between 100% and 115% of the target adjusted EBITDA results in an adjustment using a straight-line linear scale between 100 % and 150 % of the RSU amount. Actual adjusted EBITDA in excess of 115% results in an adjustment capped at 150 % of the RSU amount. If actual 14 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) adjusted EBITDA is below 50% of the target adjusted EBITDA for the 2021 fiscal year, these performance-based RSUs will be forfeited. The Company recognizes compensation expense based on the probable number of performance-based RSUs expected to vest. Following the adjustment, the performance-based RSUs will be subject to additional time-based vesting, and will vest in three equal annual installments on March 10 of 2022, 2023, and 2024, provided that the officer is employed by the Company on the applicable vesting dates. Time-based RSUs On March 9, 2021, the Company also granted time-based RSUs representing 21,559 shares to its officers and employees with an aggregate grant date fair value of $ 3,777,000 . These time-based RSUs generally vest in three equal annual installments on March 10 of 2022, 2023, and 2024, provided that a recipient remains employed by the Company on the applicable vesting dates. 6. Accumulated Other Comprehensive Items Comprehensive income (loss) combines net income and other comprehensive items, which represent certain amounts that are reported as components of stockholders' equity in the accompanying condensed consolidated balance sheet. Changes in each component of accumulated other comprehensive items (AOCI), net of tax, are as follows: (In thousands) Foreign Currency Translation Adjustment Post-Retirement Benefit Liability Adjustments Deferred Loss on Cash Flow Hedges Total Balance at January 2, 2021 $ ( 17,894 ) $ ( 770 ) $ ( 828 ) $ ( 19,492 ) Other comprehensive items before reclassifications ( 4,689 ) 18 30 ( 4,641 ) Reclassifications from AOCI — 10 83 93 Net current period other comprehensive items ( 4,689 ) 28 113 ( 4,548 ) Balance at April 3, 2021 $ ( 22,583 ) $ ( 742 ) $ ( 715 ) $ ( 24,040 ) Amounts reclassified from AOCI are as follows: Three Months Ended (In thousands) April 3, 2021 March 28, 2020 Statement of Income Line Item Post-retirement Benefit Plans Recognized net actuarial loss $ ( 11 ) $ ( 15 ) Other expense, net Amortization of prior service cost ( 3 ) ( 2 ) Other expense, net Total expense before income taxes ( 14 ) ( 17 ) Income tax benefit 4 124 Provision for income taxes ( 10 ) 107 Cash Flow Hedges (a) Interest rate swap agreements ( 109 ) ( 34 ) Interest expense Forward currency-exchange contracts — ( 23 ) Cost of revenue Total expense before income taxes ( 109 ) ( 57 ) Income tax benefit 26 14 Provision for income taxes ( 83 ) ( 43 ) Total Reclassifications $ ( 93 ) $ 64 (a) See Note 7 , Derivatives, for additional information. 15 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) 7. Derivatives Interest Rate Swap Agreement In 2018, the Company entered into an interest rate swap agreement (2018 Swap Agreement) with Citizens Bank to hedge its exposure to movements in USD LIBOR on its U.S. dollar-denominated debt. The 2018 Swap Agreement has a $ 15,000,000 notional value and expires on June 30, 2023. On a quarterly basis, the Company receives three-month USD LIBOR, which is subject to a zero percent floor, and pays a fixed rate of interest of 3.15 % plus an applicable margin as defined in the Credit Agreement. The Company designated its 2018 Swap Agreement as a cash flow hedge and structured it to be 100 % effective. Unrealized gains and losses related to the fair value of the 2018 Swap Agreement are recorded to AOCI, net of tax. In the event of early termination, the Company will receive from or pay to the counterparty the fair value of the 2018 Swap Agreement, and the unrealized gain or loss outstanding will be recognized in earnings. The counterparty to the 2018 Swap Agreement could demand an early termination of that agreement if the Company were to be in default under the Credit Agreement, or any agreement that amends or replaces the Credit Agreement in which the counterparty is a member, and if it were to be unable to cure the default. See Note 4 , Long-Term Obligations, for further details. Forward Currency-Exchange Contracts The Company uses forward currency-exchange contracts that generally have maturities of twelve months or less to hedge exposures resulting from fluctuations in currency exchange rates. Such exposures result from assets and liabilities that are denominated in currencies other than the functional currencies. Forward currency-exchange contracts that hedge forecasted accounts receivable or accounts payable are designated as cash flow hedges and unrecognized gains and losses are recorded to AOCI, net of tax. Deferred gains and losses are recognized in the statement of income in the period in which the underlying transaction occurs. The fair values of forward currency-exchange contracts that are designated as fair value hedges and forward currency-exchange contracts that are not designated as hedges are recognized currently in earnings. The Company recognized losses of $ 3,000 in the first quarter of 2021 and $ 34,000 in the first quarter of 2020 within SG&A expenses in the accompanying condensed consolidated statement of income associated with forward currency-exchange contracts that were not designated as hedges. The following table summarizes the fair value of derivative instruments in the accompanying condensed consolidated balance sheet: April 3, 2021 January 2, 2021 Balance Sheet Location Asset (Liability) (a) Notional Amount (b) Asset (Liability) (a) Notional Amount (In thousands) Derivatives Designated as Hedging Instruments: Derivatives in an Asset Position: Forward currency-exchange contract Other Current Assets $ — $ — $ 25 $ 842 Derivatives in a Liability Position: Forward currency-exchange contract Other Current Liabilities $ ( 9 ) $ 842 $ — $ — 2018 Swap Agreement Other Long-Term Liabilities $ ( 933 ) $ 15,000 $ ( 1,099 ) $ 15,000 Derivatives Not Designated as Hedging Instruments: Derivatives in an Asset Position: Forward currency-exchange contracts Other Current Assets $ — $ — $ 12 $ 582 Derivatives in a Liability Position: Forward currency-exchange contracts Other Current Liabilities $ ( 3 ) $ 266 $ ( 7 ) $ 825 (a) See Note 8 , Fair Value Measurements and Fair Value of Financial Instruments, for the fair value measurements relating to these financial instruments. (b) The 2021 notional amounts are indicative of the level of the Company's recurring derivative activity. 16 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) The following table summarizes the activity in AOCI associated with the Company's derivative instruments designated as cash flow hedges as of and for the three months ended April 3, 2021: (In thousands) Interest Rate Swap Agreement Forward Currency- Exchange Contracts Total Unrealized (Loss) Gain, Net of Tax, at January 2, 2021 $ ( 846 ) $ 18 $ ( 828 ) Loss reclassified to earnings (a) 83 — 83 Gain (loss) recognized in AOCI 55 ( 25 ) 30 Unrealized Loss, Net of Tax, at April 3, 2021 $ ( 708 ) $ ( 7 ) $ ( 715 ) (a) See Note 6 , Accumulated Other Comprehensive Items, for the income statement classification. As of April 3, 2021, the Company expects to reclassify losses of $ 346,000 from AOCI to earnings over the next twelve months based on the estimated cash flows of the 2018 Swap Agreement and the maturity date of the forward currency-exchange contract. 8. Fair Value Measurements and Fair Value of Financial Instruments Fair value measurement is defined as the price that would be received to sell an asset or paid to transfer a liability in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants at the measurement date. A fair value hierarchy is established, which prioritizes the inputs used in measuring fair value into three broad levels as follows: • Level 1—Quoted prices in active markets for identical assets or liabilities. • Level 2—Inputs, other than quoted prices in active markets, that are observable either directly or indirectly. • Level 3—Unobservable inputs based on the Company's own assumptions. The following table presents the fair value hierarchy for those assets and liabilities measured at fair value on a recurring basis: Fair Value as of April 3, 2021 (In thousands) Level 1 Level 2 Level 3 Total Assets: Money market funds and time deposits $ 10,637 $ — $ — $ 10,637 Banker's acceptance drafts (a) $ — $ 10,347 $ — $ 10,347 Liabilities: 2018 Swap Agreement $ — $ 933 $ — $ 933 Forward currency-exchange contracts $ — $ 12 $ — $ 12 Fair Value as of January 2, 2021 (In thousands) Level 1 Level 2 Level 3 Total Assets: Money market funds and time deposits $ 8,054 $ — $ — $ 8,054 Banker's acceptance drafts (a) $ — $ 9,445 $ — $ 9,445 Forward currency-exchange contracts $ — $ 37 $ — $ 37 Liabilities: 2018 Swap Agreement $ — $ 1,099 $ — $ 1,099 Forward currency-exchange contracts $ — $ 7 $ — $ 7 (a) Included in accounts receivable in the accompanying condensed consolidated balance sheet. 17 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) The Company uses the market approach technique to value its financial assets and liabilities, and there were no changes in valuation techniques during the first three months of 2021. Banker's acceptance drafts are carried at face value. which approximates their fair value due to the short-term nature of the negotiable instrument. The fair values of the forward currency-exchange contracts are based on quoted forward foreign exchange rates at the reporting date. The fair value of the 2018 Swap Agreement is based on USD LIBOR yield curves at the reporting date. The forward currency-exchange contracts and the 2018 Swap Agreement are hedges of either recorded assets or liabilities or anticipated transactions and represent the estimated amount the Company would receive or pay upon liquidation of the contracts. Changes in values of the underlying hedged assets and liabilities or anticipated transactions are not reflected in the table above. The carrying value and fair value of debt obligations, excluding lease obligations and other borrowings, are as follows: April 3, 2021 January 2, 2021 Carrying Value Fair Value Carrying Value Fair Value (In thousands) Debt Obligations: Revolving credit facility $ 207,257 $ 207,257 $ 217,963 $ 217,963 Senior promissory notes 10,000 11,130 10,000 11,157 $ 217,257 $ 218,387 $ 227,963 $ 229,120 The carrying value of the Company's revolving credit facility approximates the fair value as the obligation bears variable rates of interest, which adjust frequently, based on prevailing market rates. The fair value of the senior promissory notes is primarily calculated based on quoted market rates plus an applicable margin available to the Company at the respective period ends, which represent Level 2 measurements. 9. Business Segment Information The Company has combined its operating entities into three reportable operating segments: Flow Control, Industrial Processing, and Material Handling. The Flow Control segment consists of the fluid-handling and doctoring, cleaning, & filtration product lines; the Industrial Processing segment consists of the wood processing and stock-preparation product lines; and the Material Handling segment consists of the conveying and screening, baling, and fiber-based product lines. A description of each segment follows. • Flow Control – Custom-engineered products, systems, and technologies that control the flow of fluids used in industrial and commercial applications to keep critical processes running efficiently in the packaging, tissue, food, metals, and other industrial sectors. The Company's primary products include rotary sealing devices, steam systems, expansion joints, doctor systems, roll and fabric cleaning devices, and filtration and fiber recovery systems. • Industrial Processing – Equipment, machinery, and technologies used to recycle paper and paperboard and process timber for use in the packaging, tissue, wood products and alternative fuel industries, among others. The Company's primary products include stock-preparation systems and recycling equipment, chemical pulping equipment, debarkers, stranders, chippers, and logging machinery. In addition, the Company provides industrial automation and digitization solutions to process industries. • Material Handling – Products and engineered systems used to handle bulk and discrete materials for secondary processing or transport in the aggregates, mining, food, and waste management industries, among others. The Company's primary products include conveying and vibratory equipment and balers. In addition, the Company manufactures and sells biodegradable, absorbent granules used as carriers in agricultural applications and for oil and grease absorption. 18 Table of Contents KADANT INC. Notes to Condensed Consolidated Financial Statements (Unaudited) The following table presents financial information for the Company's reportable operating segments: Three Months Ended April 3, March 28, (In thousands) 2021 2020 Revenue Flow Control $ 63,754 $ 57,149 Industrial Processing 69,154 64,709 Material Handling 39,555 37,269 $ 172,463 $ 159,127 Income Before Provision for Income Taxes Flow Control $ 16,443 $ 13,330 Industrial Processing 11,133 9,436 Material Handling 4,443 4,134 Corporate (a) ( 8,592 ) ( 7,245 ) Total operating income 23,427 19,655 Interest expense, net (b) ( 1,046 ) ( 2,408 ) Other expense, net (b) ( 24 ) ( 32 ) $ 22,357 $ 17,215 Capital Expenditures Flow Control $ 334 $ 821 Industrial Processing 1,804 1,464 Material Handling 121 398 Corporate — 3 $ 2,259 $ 2,686 (a) Represents general and administrative expenses. (b) The Company does not allocate interest and other expense, net to its segments. 10. Commitments and Contingencies Right of Recourse In the ordinary course of business, the Company's Chinese subsidiaries may receive banker's acceptance drafts from customers as payment for their trade accounts receivable. The drafts are noninterest-bearing obligations of the issuing bank and mature within six months of the origination date. The Company's Chinese subsidiaries may use these banker's acceptance drafts prior to the scheduled maturity date to settle outstanding accounts payable with vendors. Banker's acceptance drafts transferred to vendors are subject to customary right of recourse provisions prior to their scheduled maturity dates. The Company had $ 6,476,000 at April 3, 2021 and $ 7,568,000 at January 2, 2021 of banker's acceptance drafts subject to recourse, which were transferred to vendors and had not reached their scheduled maturity dates. Historically, the banker's acceptance drafts have settled upon maturity without any claim of recourse against the Company. Litigation From time to time, the Company is subject to various claims and legal proceedings covering a range of matters that arise in the ordinary course of business. Such litigation may include, but is not limited to, claims and counterclaims by and against the Company for breach of contract or warranty, canceled contracts, product liability, or bankruptcy-related claims. For legal proceedings in which a loss is probable and estimable, the Company accrues a loss based on the low end of the range of estimated loss when there is no better estimate within the range. If the Company were found to be liable for any of the claims or counterclaims against it, the Company would incur a charge against earnings for amounts in excess of legal accruals. 19 Table of Contents KADANT INC.