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Item 2. Management’s Discussion and Analysis

2022-05-11 compared with 2021-11-10 · 160 added, 180 removed, 111 unchanged (75% of the section changed)

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We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future events, or otherwise.

For a discussion of important factors that may cause our actual results to differ materially from those suggested by the forward-looking statements, you should read carefully Risk Factors included in Part I, Item 1A, of our Annual Report on Form 10-K for the fiscal year ended January 2, 2021, as filed with the Securities and Exchange Commission (SEC) and as may be further amended and/or restated in subsequent filings with the SEC.

For a discussion of important factors that may cause our actual results to differ materially from those suggested by the forward-looking statements, you should read carefully Risk Factors included in Part II, Item 1A , of this report and Part I, Item 1A, of our Annual Report on Form 10-K for the fiscal year ended January 1, 2022, as filed with the Securities and Exchange Commission (SEC) and as may be further amended and/or restated in subsequent filings with the SEC.

Company Background

We are a global supplier of high-value, critical components and engineered systems used in process industries worldwide.

Our products, technologies, and services play an integral role in enhancing process efficiency, optimizing energy utilization, and maximizing productivity in resource-intensive industries.

We are a global supplier of technologies and engineered systems that drive Sustainable Industrial Processing.

Our products and services play an integral role in enhancing efficiency, optimizing energy utilization, and maximizing productivity in process industries while helping our customers advance their sustainability initiatives with products that reduce waste or generate more yield with fewer inputs, particularly fiber, energy, and water.

Producing more while consuming less is a core aspect of Sustainable Industrial Processing and a major element of the strategic focus of our operating segments.

Our financial results are reported in three reportable operating segments:

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the Industrial Processing segment consists of our wood processing and stock-preparation product lines;

and the Material Handling segment consists of our conveying and screening, baling, and fiber-based product lines.

and the Material Handling segment consists of our conveying and vibratory, baling, and fiber-based product lines.

A description of each segment is as follows:

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Industry and Business Overview

We had record consolidated bookings of $244.7 million in the third quarter of 2021, including bookings of $15.0 million attributable to our acquisitions.

We had record consolidated bookings of $266.1 million in the first quarter of 2022, including bookings of $22.4 million attributable to our acquisitions.

See Acquisitions below for further details.

Our third quarter of 2021 bookings include record orders for capital equipment and continued strong demand for our parts and consumables products.

This follows previous consolidated bookings records set in the prior three quarters as our businesses continue to rebound from the impact of the COVID-19 pandemic, which adversely affected our bookings and revenue for a substantial part of 2020.

We ended the third quarter of 2021 with record consolidated backlog of $299.5 million.

Our first quarter of 2022 bookings include record orders for parts and consumables products and continued strong demand for our capital equipment.

We ended the first quarter of 2022 with record consolidated backlog of $348.3 million.

An overview of our business by segment is as follows:

• Flow Control – During the third quarter of 2021, we acquired The Clouth Group of Companies (Clouth), which contributed $9.9 million of bookings for the quarter .

Orders for both parts and consumables products and capital equipment at our existing Flow Control businesses continue to be strong, following record bookings during the first half of 2021 due to improved market conditions and pent-up demand from depressed levels encountered during most of 2020.

• Industrial Processing – Our Industrial Processing segment had record bookings for capital equipment and continued strong demand for parts and consumables products during the third quarter of 2021.

• Flow Control – Our Flow Control segment had record bookings in the first quarter of 2022, increasing 32% compared to first quarter of 2021, including a 17% increase from our acquisition of The Clouth Group of Companies (Clouth).

Orders for both parts and consumables products and capital equipment at our existing Flow Control businesses continue to be strong due to growth in the industries we serve.

• Industrial Processing – Our Industrial Processing segment had record bookings for parts and consumables products during the first quarter of 2022 and continued strong demand for capital equipment.

Orders for both capital equipment and parts and consumables products at our wood processing business were fueled by an ongoing robust U.S.

housing market and high demand for lumber, oriented strand board and plywood, which continues to result in high parts consumption and drive new capital equipment investment by our customers.

More recently, maintenance requirements at many of our wood processing customers have augmented demand for our parts products, which we expect to continue for the remainder of the year.

Increased bookings at our stock-preparation business was led by orders for fiber processing systems at our North American and European businesses.

This followed strong bookings for capital equipment at our Chinese operation in the prior quarter.

Orders for parts and consumables products for our stock-preparation business moderated slightly following three quarters of strong bookings attributable to improved market conditions and pent-up demand.

• Material Handling – Our Material Handling segment also had record bookings in the third quarter of 2021.

In August 2021, we acquired East Chicago Machine Tool Corporation (Balemaster) and certain assets of affiliated companies, which contributed $5.1 million of orders for the period.

housing market and high demand for lumber, oriented strand board and plywood, which continues to result in high parts consumption and drives new capital equipment investment by our customers.

Maintenance requirements at many of our wood processing customers and high mill operating rates have augmented demand for our parts products.

Capital bookings at our stock-preparation business were strong, especially at our operations in China, but lower compared to the record bookings levels in the second and third quarters of 2021.

Orders for parts and consumables products for our stock-preparation business increased over the first quarter of 2021 and sequentially to a near record quarter due to a continued improvement in market conditions and further expansion into packaging grades.

• Material Handling – Our Material Handling segment had record bookings in the first quarter of 2022, increasing 42% compared to the first quarter of 2021, including a 23% increase from our acquisition of East Chicago Machine Tool Corporation (Balemaster).

Capital bookings at our conveying and vibratory business were more than double the bookings in the first quarter of 2021 due to several large orders.

Bookings for baling products at our European operations continue to be bolstered by improved business conditions, including the recovery of recycled commodity prices.

Bookings at our conveying and screening business have begun to rebound from 2020 levels with ongoing improved demand for our parts and consumables products as a result of the relaxation of pandemic-related restrictions.

While we have seen improved market conditions for our products and we expect our financial results for the remainder of 2021 to be strong, there is still some uncertainty regarding near-term economic growth due to ongoing risks surrounding the COVID-19 pandemic.

Additionally, some of our operations have been and may continue to be impacted by supply chain constraints, resulting in inflationary pressure on material costs, longer lead times, and increased freight costs, as well as customer-requested delays in shipments.

Also, in September 2021, China began limiting electricity usage within many of its provinces, requiring businesses in those regions to take downtime.

We have been able to mitigate increased material costs through price adjustments on many of our products;

however, we cannot be sure that we will be able to absorb future increases through price adjustments.

While our businesses are working to alleviate supply chain constraints through various measures, we are unable to predict the impact of these constraints and the impact from China's energy use restrictions on the timing of revenue and operating costs on our business in the near future.

For more information on risks related to health epidemics to our business, including COVID-19, and other factors impacting our business discussed above, please see Risk Factors included in Part II, Item 1A , of this report, and Part I, Item 1A, Risk Factors , included in our Annual Report on Form 10-K for the fiscal year ended January 2, 2021.

Many of our operations continue to be impacted by labor availability and supply chain constraints, the latter of which

resulted in inflationary pressure on material costs, longer lead times, and increased freight costs.

Our businesses are alleviating supply chain constraints through various measures, including advance purchases of raw materials to prevent potential manufacturing disruptions and mitigating increased material and freight costs through price adjustments, when possible.

We believe that the fundamentals of our business will remain positive, particularly given our high backlog levels, continued strong bookings, and ongoing strength in the markets we serve.

Despite this optimism, we expect our operating environment to continue to be challenging as a result of the factors impacting our business discussed above and the uncertainties and risks surrounding the COVID-19 pandemic, including China's zero-COVID policy.

For more information related to these challenges, and other factors impacting our business, including recent geopolitical tensions, please see Risk Factors, included in Part II, Item 1A , of this report and Part I, Item 1A, included in our Annual Report on Form 10-K for the fiscal year ended January 1, 2022.

International Sales

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We expect several synergies in connection with this acquisition, including deepening our presence in the growing ceramic blade market and expansion of product sales at our existing businesses by leveraging Clouth's complementary global geographic footprint.

Clouth has two manufacturing facilities in Germany and one in Poland and generated revenue of approximately 40.5 million euros for the trailing twelve months ended June 30, 2021.

Clouth has three manufacturing facilities in Germany and one in Poland.

In the third quarter of 2021, we also acquired Balemaster for $53.5 million, net of cash acquired.

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We expect several synergies in connection with this acquisition, including expanding our presence in the secondary material processing sector and creating new opportunities for leveraging our high-performance balers produced in Europe.

Balemaster's revenue for the trailing twelve months ended June 30, 2021 was approximately $22.2 million.

See Note 2 , Acquisitions, in the accompanying condensed consolidated financial statements for further details.

In June 2020, we made an acquisition in our Industrial Processing segment for approximately $6.9 million, net of cash acquired.

Results of Operations

Third Quarter 2021 Compared With Third Quarter 2020

The following table presents the change in revenue by segment between the third quarters of 2021 and 2020, and those changes excluding the effect of foreign currency translation and acquisitions which we refer to as change in organic revenue.

First Quarter 2022 Compared With First Quarter 2021

The following table presents the change in revenue by segment between the first quarters of 2022 and 2021, and those changes excluding the effect of foreign currency translation and acquisitions which we refer to as change in organic revenue.

The presentation of the change in organic revenue is a non-GAAP measure.

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generally accepted accounting principles (GAAP) measure.

Revenue by segment in the third quarters of 2021 and 2020 was as follows:

Revenue by segment in the first quarters of 2022 and 2021 was as follows:

Three Months Ended Currency Translation Acquisitions Change in Organic Revenue

(In thousands, except percentages) October 2,

2021 September 26,

(In thousands, except percentages) April 2,

2022 April 3,

2021 Total Increase % Change Increase % Change

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Consolidated Revenue $ 226,480 $ 172,463 $ 54,017 31 % $ (3,880) $ 20,000 $ 37,897 22 %

Consolidated revenue in the third quarter of 2021 increased 29%, while consolidated organic revenue increased 18%, due to higher demand for parts and consumables products and capital equipment principally at our Industrial Processing and Flow Control segments as described below.

Revenue at our Flow Control segment increased 34% in the third quarter of 2021, while organic revenue increased 14%.

Organic revenue increased due to higher demand for parts and consumables products at substantially all locations resulting from improved market conditions and pent-up demand and due to increased capital equipment revenue at our North American business, which was attributable in part to customer reductions in spending and deferrals of equipment installations in the corresponding 2020 period.

Revenue at our Industrial Processing segment increased 31% in the third quarter of 2021, while organic revenue increased 27% due to higher demand for both capital equipment and parts and consumables products at our wood processing and stock-preparation businesses.

Consolidated revenue increased 31% in the first quarter of 2022, while consolidated organic revenue increased 22%, due to higher demand for parts and consumables products and capital equipment principally at our Industrial Processing and Flow Control segments as described below.

Revenue at our Flow Control segment increased 35% in the first quarter of 2022, while organic revenue increased 18%.

Organic revenue increased due to higher demand for our capital equipment led by our European business and for parts and consumables products at substantially all locations resulting from improved market conditions and pent-up demand.

Revenue at our Industrial Processing segment increased 35% in the first quarter of 2022 due to higher demand for both capital equipment and parts and consumables products at our wood processing business.

Demand for our wood processing business products was driven by high mill activity resulting in increased capital investment and higher parts consumption.

Increased demand for capital equipment at our stock-preparation business was primarily attributable to capital orders at our Chinese business, offset in part by lower capital equipment revenue at our North American business due to the timing of orders.

Organic revenue for parts and consumables products at our North American stock-preparation business also increased due to improved market conditions and pent-up demand coupled with a depressed 2020 period as a result of the COVID-19 pandemic.

Revenue at our Material Handling segment increased 17% in the third quarter of 2021, while organic revenue increased 8%.

Increased demand for products at our European baling operation due to improved business conditions in Europe, including the recovery of recycled commodity prices, was partially offset by lower capital equipment revenue at our conveying and screening business.

Also contributing to the revenue increase was increased demand for capital equipment at our stock-preparation business at both our Chinese and European operations, offset in part by lower capital equipment revenue at our North American business due to the timing of orders.

Revenue for parts and consumables products at our North American stock-preparation business also increased due to improved market conditions and focused sales initiatives.

Revenue at our Material Handling segment increased 20% in the first quarter of 2022, while organic revenue increased 4% due to higher demand for capital equipment at our European baling operation due to improved business conditions.

Revenue from our parts and consumables products also increased at our conveying and vibratory business due to strong demand in the aggregate and food and packaging industries.

Gross Profit Margin

Gross profit margin by segment in the third quarters of 2021 and 2020 was as follows:

Gross profit margin by segment in the first quarters of 2022 and 2021 was as follows:

Three Months Ended Basis Point Change

2021 September 26,

2022 April 3,

Flow Control 52.4% 53.3% (90) bps

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Consolidated Gross Profit Margin 43.4% 43.9% (50) bps

Consolidated gross profit margin declined to 41.9% in the third quarter of 2021 compared with 44.2% in the third quarter of 2020 due to the inclusion of $2.2 million of amortization of acquired profit in inventory, which lowered consolidated gross profit margin in the 2021 period by 1.1 percentage points, and the inclusion of $1.6 million for benefits received from government employee retention assistance programs, which increased consolidated gross profit margin in the 2020 period by 1.1 percentage points.

Gross profit margin at our Flow Control segment decreased to 49.7% in the third quarter of 2021 compared with 52.9% in the third quarter of 2020 primarily due to the inclusion of $1.8 million of amortization of acquired profit in inventory for Clouth, which lowered gross profit margin in the 2021 period by 2.4 percentage points, and a lower gross profit margin profile for Clouth.

Gross profit margin at our existing businesses increased principally due to higher margins on parts and consumables.

Gross profit margin at our Industrial Processing segment decreased to 39.7% in the third quarter of 2021 compared with 43.7% in the third quarter of 2020 due to the inclusion of $1.4 million for benefits received from government employee retention assistance programs, which increased gross profit margin in the 2020 period by 2.3 percentage points, and the impact of lower-margin capital equipment revenue at our Chinese stock-preparation business.

Gross profit margin at our Material Handling segment increased to 31.9% in the third quarter of 2021 compared with 31.1% in the third quarter of 2020 primarily due to a higher gross profit margin profile for Balemaster and an improved gross profit margin at our existing baler business resulting from a favorable product mix and higher revenue.

These items were offset in part by $0.4 million of amortization of acquired profit in inventory for Balemaster, which lowered gross profit margin for this segment by 0.9 percentage points.

Consolidated gross profit margin decreased to 43.4% in the first quarter of 2022 compared with 43.9% in the first quarter of 2021 due to a lower proportion of higher-margin parts and consumables revenue partially offset by a higher overall gross margin profile from our acquisitions.

Within our operating segments, gross profit margin:

• Decreased to 52.4% from 53.3% at our Flow Control segment principally due to a lower gross profit margin profile from our recently acquired Clouth business.

• Decreased to 38.6% from 40.5% at our Industrial Processing segment due to the impact of lower-margin capital equipment revenue at our Chinese stock-preparation business and the inclusion of $0.3 million for benefits received from government employee retention assistance programs, which increased gross profit margin in the 2021 period by 0.4 percentage points.

• Increased to 36.4% from 34.7% at our Material Handling segment primarily due to a higher gross profit margin profile from our recently acquired Balemaster business.

Selling, General, and Administrative Expenses

Selling, general, and administrative (SG&A) expenses by segment in the third quarters of 2021 and 2020 were as follows:

Selling, general, and administrative (SG&A) expenses by segment in the first quarters of 2022 and 2021 were as follows:

Three Months Ended

(In thousands, except percentages) October 2,

2021 % of Revenue September 26,

(In thousands, except percentages) April 2,

2022 % of Revenue April 3,

2021 % of Revenue Increase % Change

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Consolidated SG&A Expenses $ 59,168 26% $ 49,431 29% $ 9,737 20%

Consolidated SG&A expenses as a percentage of revenue decreased to 26% in the third quarter of 2021 compared with 28% in the third quarter of 2020 primarily due to higher revenue.

Consolidated SG&A expenses increased $8.5 million du e to the inclusion of $3.4 million of SG&A expenses from acquisitions, an incremental $0.9 million of acquisition-related costs, $0.9 million from the unfavorable effect of currency translation, and a $0.7 million decrease in benefits received from government employee retention assistance programs.

The remaining $2.6 million is principally due to increased incentive compensation, travel-related costs, and professional services fees resulting from improved business conditions.

SG&A expenses at our Flow Control segment increased $4.5 million principally due to the inclusion of $2.8 million of SG&A expenses from Clouth, $0.9 million of acquisition-related costs, and $0.4 million from the unfavorable effect of foreign currency translation.

SG&A expenses at our Industrial Processing segment increased $1.5 million principally due to the inclusion of $0.7 million in the 2020 period for benefits received from government employee retention assistance programs, increased travel-related costs and professional service fees, and $0.5 million from the unfavorable effect of foreign currency translation.

SG&A expenses at our Material Handling segment increased $1.5 million principally due to the inclusion of $0.6 million of SG&A expenses from Balemaster, increased travel-related costs and professional service fees, and $0.2 million of incremental acquisition-related costs.

SG&A expenses at Corporate increased $1.0 million primarily due to additional incentive compensation as a result of our improved financial performance.

Restructuring Costs

Restructuring costs were $0.5 million in the third quarter of 2020, which represented severance costs of $0.3 million in our Flow Control segment and $0.2 million in our Industrial Processing segment.

Consolidated SG&A expenses as a percentage of revenue decreased to 26% in the first quarter of 2022 compared with 29% in the first quarter of 2021 primarily due to higher revenue.

Consolidated SG&A expenses increased $9.7 million du e to the inclusion of $6.1 million of SG&A expenses from acquisitions, increased compensation expense associated with existing and new personnel, and increased selling-related costs associated with improved business conditions.

These increases were offset by a $0.9 million favorable effect of foreign currency translation.

Within our operating segments, SG&A expenses:

• Increased $4.6 million at our Flow Control segment principally due to the inclusion of $4.3 million of SG&A expenses from Clouth and increased selling-related costs.

• Increased $0.7 million at our Industrial Processing segment principally due to a $0.6 million reversal of an indemnification asset related to the release of tax reserves associated with uncertain tax positions.

• Increased $1.9 million at our Material Handling segment principally due to the inclusion of $1.7 million of SG&A expenses from Balemaster, $0.4 million of incremental acquisition-related costs, and increased selling-related costs.

• Increased $2.5 million at Corporate primarily due to increased incentive compensation as a result of our improved financial performance.

Gain on Sale and Other Expense, Net

We entered into several agreements with the local government in China to sell the existing manufacturing building and land use rights at one of our subsidiaries in China for $25.2 million.

The agreements became effective in the first quarter of 2022 after a 31% down payment was received, including 25% in 2021 and 6% in the first quarter of 2022, and a land use right in a new location was secured.

As a result, we recognized a gain on the sale of these assets of $20.2 million, or $15.1 million, net of deferred taxes of $5.1 million, in the first quarter of 2022.

A $16.1 million receivable was recognized for the present value of the remaining amount of the sale proceeds, which is due the earlier of when the government sells the property or within two years from the effective date of the agreements.

Our subsidiary, which is part of our Industrial Processing segment, will continue to occupy its current facility until construction of its new facility is complete.

In the first quarter of 2022, we recognized an impairment charge of $0.2 million related to the write-down of certain fixed assets that will not be moved to the new facility.

Interest Expense

Interest expense decreased to $1.3 million in the third quarter of 2021 from $1.7 million in the third quarter of 2020 due to a lower weighted-average interest rate.

Interest expense increased to $1.2 million in the first quarter of 2022 from $1.1 million in the first quarter of 2021.

Provision for Income Taxes

Our provision for income taxes increased to $6.7 million in the third quarter of 2021 from $4.7 million in the third quarter of 2020.

The effective tax rate of 25% in the third quarter of 2021 was higher than our statutory rate of 21% primarily due to nondeductible expenses, the distribution of our worldwide earnings, state taxes, and tax expense associated with Global Intangible Low-Taxed Income (GILTI) provisions.

Our provision for income taxes increased to $13.4 million in the first quarter of 2022 from $5.6 million in the first quarter of 2021.

The effective tax rate of 24% in the first quarter of 2022 was higher than our statutory rate of 21% primarily due to the distribution of our worldwide earnings, nondeductible expenses, state taxes, and tax expense associated with the Global Intangible Low-Taxed Income (GILTI) provisions.

These increases in tax expense were offset in part by a decrease in tax related to the net excess income tax benefits from stock-based compensation arrangements and the reversal of tax reserves associated with uncertain tax positions.

The effective tax rate of 25% in the first quarter of 2021 was higher than our statutory rate of 21% primarily due to nondeductible expenses, the distribution of our worldwide earnings, state taxes, and tax expense associated with GILTI provisions.

These increases in tax expense were 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 24% in the third quarter of 2020 was higher than our statutory rate of 21% primarily due to nondeductible expenses and the distribution of our worldwide earnings.

These increases in tax expense were offset in part by a tax benefit related to final GILTI regulations issued by the U.S.

Treasury Department during the third quarter of 2020 on an election to provide a high-tax exception to the GILTI tax retroactive to 2018.

Net income increased to $20.7 million in the third quarter of 2021 from $15.0 million in the third quarter of 2020 primarily due to a $7.4 million increase in operating income, offset in part by a $2.0 million increase in provision for income taxes (see discussions above for further details).

First Nine Months 2021 Compared With First Nine Months 2020

The following table presents changes in revenue by segment between the first nine months of 2021 and 2020, and those changes excluding the effect of foreign currency translation and acquisitions which we refer to as change in organic revenue.

The presentation of the change in organic revenue is a non-GAAP measure.

We believe this non-GAAP measure helps investors gain an understanding of our underlying operations consistent with how management measures and forecasts its performance, especially when comparing such results to prior periods.

This non-GAAP measure should not be considered superior to or a substitute for the corresponding GAAP measure.

Revenue by segment in the first nine months of 2021 and 2020 was as follows:

Nine Months Ended Currency Translation Acquisitions Change in Organic Revenue

(In thousands, except percentages) October 2,

2021 September 26,

2020 Total Increase % Change Increase % Change

Flow Control $ 210,769 $ 165,329 $ 45,440 27 % $ 6,749 $ 9,913 $ 28,778 17 %

Industrial Processing 233,455 192,468 40,987 21 % 12,087 509 28,391 15 %

Material Handling

123,839 108,800 15,039 14 % 3,348 2,845 8,846 8 %

Consolidated Revenue $ 568,063 $ 466,597 $ 101,466 22 % $ 22,184 $ 13,267 $ 66,015 14 %

Consolidated revenue in the first nine months of 2021 increased 22%, while consolidated organic revenue increased 14%, principally driven by higher demand for parts and consumables products and, to a lesser extent, capital equipment at our Flow Control and Industrial Processing segments as described below.

Revenue at our Flow Control segment increased 27% in the first nine months of 2021, while organic revenue increased 17%.

The increase in organic revenue resulted from higher demand for parts and consumables products and, to a lesser extent, capital equipment at substantially all locations.

Increased demand for parts and consumables products was due in part to maintenance requirements at many of our customer locations and pent-up demand, while the 2020 period was depressed as a result of customer downtimes and shutdowns as well as visitation restrictions related to the COVID-19 pandemic.

Increased demand for capital equipment was due to improved market conditions and pent-up demand w hile the corresponding 2020 period was adversely impacted by customer reductions in capital spending and deferrals of equipment installations as a result of the COVID-19 pandemic.

Revenue at our Industrial Processing segment increased 21% in the first nine months of 2021, while organic revenue increased 15% due to higher demand for parts and consumables products at our wood processing and stock-preparation businesses and capital equipment at our wood processing business.

Demand for parts and consumables products and, to a lesser extent, capital equipment at our wood processing business was driven by high mill activity resulting in higher parts consumption and increased capital investment.

Demand for parts and consumables at our North American stock-preparation business increased due to improved market conditions and pent-up demand coupled with a depressed 2020 period as a result of the COVID-19 pandemic.

Conversely, lower capital equipment revenue at our North American and European stock-preparation businesses due to the timing of orders and curtailed spending by our customers, which impacted revenue in the first half of 2021, was offset in part by revenue attributable to capital equipment orders at our Chinese business.

Revenue at our Material Handling segment increased 14% in the first nine months of 2021, while organic revenue increased 8%.

Gross Profit Margin

Gross profit margin by segment in the first nine months of 2021 and 2020 was as follows:

Nine Months Ended Basis Point Change

2021 September 26,

Flow Control 51.8 % 53.1% (130) bps

Industrial Processing 40.1 % 41.0% (90) bps

Material Handling 33.8 % 33.5% 30 bps

Consolidated Gross Profit Margin 43.1 % 43.5% (40) bps

Consolidated gross profit margin declined slightly to 43.1% in the first nine months of 2021 compared with 43.5% in the first nine months of 2020.

The 2021 period included $2.2 million of amortization of acquired profit in inventory, which lowered consolidated gross profit margin by 0.4 percentage points.

We received benefits from government employee retention assistance programs of $0.9 million, or 0.2% of revenue, in the first nine months of 2021 compared with $2.9 million, or 0.6% of revenue, in the first nine months of 2020.

Gross profit margin at our Flow Control segment decreased to 51.8% in the first nine months of 2021 compared with 53.1% in the first nine months of 2020 due to the inclusion of $1.8 million of amortization of acquired profit in inventory, which lowered the gross profit margin in the 2021 period by 0.9 percentage points and, to a lesser extent, a lower gross profit margin profile for Clouth.

Gross profit margin at our Industrial Processing segment decreased to 40.1% in the first nine months of 2021 compared with 41.0% in the first nine months of 2020 due to lower benefits received from government retention assistance programs.

We received benefits from government employee retention assistance programs of $0.7 million, or 0.3% of revenue, in the first nine months of 2021 compared with $2.4 million, or 1.2% of revenue, in the first nine months of 2020.

Higher margins at our wood processing business primarily resulting from manufacturing efficiencies related to higher production volumes were offset by the impact of lower-margin capital equipment revenue at our Chinese stock-preparation business.

Gross profit margin at our Material Handling segment increased slightly to 33.8% in the first nine months of 2021 compared with 33.5% in the first nine months of 2020.

Selling, General, and Administrative Expenses

SG&A expenses by segment in the first nine months of 2021 and 2020 were as follows:

Nine Months Ended

(In thousands, except percentages) October 2,

2021 % of Revenue September 26,

2020 % of Revenue Increase % Change

Flow Control $ 54,226 26 % $ 46,876 28 % $ 7,350 16%

Industrial Processing 45,339 19 % 42,499 22 % 2,840 7%

Material Handling 27,518 22 % 24,730 23 % 2,788 11%

Corporate 23,931 N/A 20,413 N/A 3,518 17%

Consolidated SG&A Expenses $ 151,014 27 % $ 134,518 29 % $ 16,496 12%

Consolidated SG&A expenses as a percentage of revenue decreased to 27% in the first nine months of 2021 compared with 29% in the first nine months of 2020 principally due to higher revenue.

Consolidated SG&A expenses increased $16.5 million principally due to $5.2 million from the unfavorable effect of currency translation, the inclusion of $3.7 million of SG&A expenses from acquisitions, additional incentive compensation resulting from our improved financial performance, an incremental $2.5 million of acquisition-related costs, and increased professional service fees.

SG&A expenses included benefits received from government employee retention assistance programs of $1.4 million in the first nine months of 2021 and $1.8 million in the first nine months of 2020.

SG&A expenses at our Flow Control segment increased $7.4 million principally due to the inclusion of $2.8 million of SG&A expenses from Clouth, $2.1 million of acquisition-related costs, and $1.8 million from the unfavorable effect of foreign currency translation.

SG&A expenses at our Industrial Processing segment increased $2.8 million principally due to $2.6 million from the unfavorable effect of foreign currency translation and a $0.7 million reduction in benefits received from government assistance programs.

SG&A expenses at our Material Handling segment increased $2.8 million principally due to $0.8 million from the unfavorable effect of foreign currency translation, an incremental $0.8 million of acquisition-related costs, and the inclusion of $0.6 million of SG&A expenses from Balemaster.

SG&A expenses at Corporate increased $3.5 million primarily due to additional incentive compensation as result of improved financial performance and, to a lesser extent, higher professional service fees.

Restructuring Costs

Restructuring costs were $0.9 million in the first nine months of 2020, which represented severance costs of $0.7 million in our Flow Control segment and $0.2 million in our Industrial Processing segment.

Interest Expense

Interest expense decreased to $3.5 million in the first nine months of 2021 from $6.1 million in the first nine months of 2020 due to a lower weighted-average interest rate and lower outstanding debt for the first nine months of 2021.

Net income increased to $41.4 million in the first quarter of 2022 from $16.8 million in the first quarter of 2021 primarily due to a $32.5 million increase in operating income, offset in part by a $7.8 million increase in provision for income taxes (see discussions above for further details).

Non-GAAP Key Performance Indicators

In addition to the financial measures prepared in accordance with GAAP, we use certain non-GAAP financial measures, including organic revenue (defined as revenue excluding the effect of foreign currency translation and acquisitions), adjusted operating income, earnings before interest, taxes, depreciation, and amortization (EBITDA), adjusted EBITDA, adjusted EBITDA margin (defined as adjusted EBITDA divided by revenue), and free cash flow (defined as cash flow provided by operations less capital expenditures).

We use organic revenue in order to understand our trends and to forecast and evaluate our financial performance and compare revenue to prior periods (see discussion in Revenue above).

Adjusted operating income, adjusted EBITDA, and adjusted EBITDA margin exclude impairment costs, acquisition costs, amortization expense related to acquired profit in inventory and backlog, and certain gains or losses.

These items are excluded as they are not indicative of our core operating results and are not comparable to other periods, which have differing levels of incremental costs, expenditures or income, or none at all.

Additionally, we use free cash flow in order to provide insight on our ability to generate cash for acquisitions and debt repayments, as well as for other investing and financing activities.

We believe these non-GAAP financial measures, when taken together with the corresponding GAAP financial measures, provide meaningful supplemental information regarding our performance by excluding certain items that may not be indicative of our core business, operating results, or future outlook.

We believe that the inclusion of such measures helps investors gain an understanding of our underlying operating performance and future prospects, consistent with how management measures and forecasts our performance, especially when comparing such results to previous periods or forecasts and to the performance of our competitors.

Such measures are also used by us in our financial and operating decision-making and for compensation purposes.

We also believe this information is responsive to investors' requests and gives them an additional measure of our performance.

Our non-GAAP financial measures are not meant to be considered superior to or a substitute for the results of operations or cash flow prepared in accordance with GAAP.

In addition, our non-GAAP financial measures have limitations

associated with their use as compared to the most directly comparable GAAP measures, in that they may be different from, and therefore not comparable to, similar measures used by other companies.

A reconciliation of adjusted operating income, adjusted EBITDA, and adjusted EBITDA margin is as follows:

Three Months Ended

(In thousands, except percentages) April 2,

2022 April 3,

Net Income Attributable to Kadant $ 41,192 $ 16,561

Net Income Attributable to Noncontrolling Interest 249 235

Provision for Income Taxes 13,378 5,561

Our provision for income taxes increased to $21.3 million in the first nine months of 2021 from $13.7 million in the first nine months of 2020 and represented 26% of pre-tax income in both periods.

The effective tax rate in the first nine months of 2021 was higher than our statutory rate of 21% primarily due to the distribution of our worldwide earnings, nondeductible expenses, state taxes, and tax expense associated with GILTI.

These increases in tax expense were 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 in the first nine months of 2020 was higher than our statutory rate of 21% primarily due to nondeductible expenses, the distribution of our worldwide earnings, and state taxes.

These increases in tax expense were offset in part by a decrease in tax related to the net excess income tax benefits from stock-based compensation arrangements.

Net income increased to $60.5 million in the first nine months of 2021 from $39.4 million in the first nine months of 2020 primarily due to a $26.1 million increase in operating income and a $2.6 million decrease in interest expense, offset in part by a $7.5 million increase in provision for income taxes (see discussions above for further details).

Interest Expense, Net 1,132 1,046

Other Expense, Net 22 24

Operating Income 55,973 23,427

Gain on Sale of Assets (a) (20,190) —

Acquisition Costs 76 1,298

Indemnification Asset Reversal (b) 575 —

Impairment Costs 182 —

Acquired Backlog Amortization (c) 703 60

Acquired Profit in Inventory Amortization (d) (218) —

Adjusted Operating Income (non-GAAP measure)

37,101 24,785

Depreciation and Amortization 8,742 7,626

Adjusted EBITDA (non-GAAP measure)

$ 45,843 $ 32,411

Adjusted EBITDA Margin (non-GAAP measure)

(a) Represents a gain on the sale of a facility in China in our Industrial Processing segment pursuant to a relocation plan.

(b) Represents an indemnification asset reversal related to the release of tax reserves associated with uncertain tax positions.

(d) Represents income within cost of revenue associated with amortization of acquired profit in inventory.

A reconciliation of free cash flow from cash flow provided by operating activities is as follows:

Three Months Ended

(In thousands) April 2,

2022 April 3,

Cash Provided by Operating Activities $ 23,768 $ 19,092

Capital Expenditures (2,868) (2,259)

Free Cash Flow (non-GAAP measure)

$ 20,900 $ 16,833

Liquidity and Capital Resources

Consolidated working capital was $177.4 million at October 2, 2021, compared with $155.1 million at January 2, 2021.

Cash and cash equivalents were $82.6 million at October 2, 2021, compared with $65.7 million at January 2, 2021, which included cash and cash equivalents held by our foreign subsidiaries of $78.6 million at October 2, 2021 and $63.6 million at January 2, 2021.

Cash flow information in the first nine months of 2021 and 2020 was as follows:

Nine Months Ended

(In thousands) October 2,

2021 September 26,

Consolidated working capital was $174.7 million at April 2, 2022, compared with $162.4 million at January 1, 2022.

Cash and cash equivalents were $86.2 million at April 2, 2022, compared with $91.2 million at January 1, 2022, which included cash and cash equivalents held by our foreign subsidiaries of $81.9 million at April 2, 2022 and $83.8 million at January 1, 2022.

Cash flow information in the first three months of 2022 and 2021 was as follows:

Three Months Ended

(In thousands) April 2,

2022 April 3,

Net Cash Provided by Operating Activities $ 23,768 $ 19,092

Net Cash Used in Investing Activities (1,291) (2,352)

Net Cash Provided by (Used in) Financing Activities 66,714 (52,871)

Net Cash Used in Financing Activities (27,003) (15,582)

Exchange Rate Effect on Cash, Cash Equivalents, and Restricted Cash (664) (1,090)

Increase (Decrease) in Cash, Cash Equivalents, and Restricted Cash $ 17,024 $ (12,069)

(Decrease) Increase in Cash, Cash Equivalents, and Restricted Cash $ (5,190) $ 68

Operating Activities

Cash provided by operating activities increased to $101.4 million in the first nine months of 2021 from $52.6 million in the first nine months of 2020.

Our operating cash flows are primarily from cash received from customers, offset by cash payments for items such as inventory, employee compensation, operating leases, income taxes and interest payments on outstanding debt obligations.

The increase in cash provided by operating activities in the 2021 period was principally driven by improvements in net income and working capital.

Cash provided by working capital was $11.7 million in the first nine months of 2021.

Cash provided by working capital in 2021 included $33.3 million from other current liabilities primarily due to an increase in customer deposits and advance billings related to capital equipment orders that will be fulfilled over the next year and $19.8 million from accounts payable attributable to increased inventory purchases.

These sources of cash were offset in part by cash used of $22.3 million for accounts receivable mostly due to revenue growth and timing of shipments, $10.6 million for a buildup of inventories primarily for capital equipment orders and to mitigate potential supply chain issues, and $8.1 million for other current assets principally due to a prepayment for raw material at one of our Chinese businesses.

Cash used for working capital was $15.4 million in the first nine months of 2020.

Cash used for working capital in 2020 included $6.2 million for inventories primarily related to the buildup of inventory for capital equipment and spare parts

that were shipped in late fiscal 2020 and early fiscal 2021 and $13.2 million from accounts payable primarily due to reduced spending levels in 2020.

Cash provided by operating activities increased to $23.8 million in the first quarter of 2022 from $19.1 million in the first quarter of 2021.

Our operating cash flows are primarily generated from cash received from customers, offset by cash payments for items such as inventory, employee compensation, operating leases, income taxes and interest payments on outstanding debt obligations.

Cash provided by income in the first quarter of 2022 was offset in part by investments in working capital.

Increases in accounts receivable and inventory used cash of $18.5 million primarily to support our revenue growth.

An increase in accounts payable related to raw material purchases and customer deposits provided cash of $12.2 million.

Changes in other liabilities used cash of $10.1 million primarily related to incentive compensation payments in the first quarter of 2022.

Cash provided by income in the first quarter of 2021 was offset in part by investments in working capital.

Increases in accounts receivable and inventory used cash of $20.6 million primarily to support increased order activity.

An increase in accounts payable related to raw material purchases and customer deposits provided cash of $16.5 million in the first quarter of 2021.

Investing Activities

Cash used in investing activities was $148.6 million in the first nine months of 2021, compared with $12.5 million in the first nine months of 2020.

Cash used in investing activities included consideration paid for acquisitions, net of cash acquired, of $141.5 million in the 2021 period and $7.1 million in the 2020 period.

Cash used in investing activities was $1.3 million in the first quarter of 2022, compared with $2.4 million in the first quarter of 2021.

Capital expenditures of $2.9 million in the first quarter of 2022 were partially offset by proceeds received from the sale of assets of $1.6 million, compared with capital expenditures of $2.3 million in the first quarter of 2021.

Financing Activities

Cash provided by financing activities was $66.7 million in the first nine months of 2021, compared with cash used in financing activities of $52.9 million in the first nine months of 2020.

Borrowings under our revolving credit facility were $151.9 million in the first nine months of 2021, including $140.3 million to fund acquisitions, and $26.0 million in the first nine months of 2020, including $18.9 million used to prepay the outstanding principal balance on our real estate loan.

Repayment of long-term obligations was $72.7 million in the first nine months of 2021, and $69.0 million in the first nine months of 2020, including the $18.9 million prepayment of the real estate loan.

Cash used in financing activities was $27.0 million in the first quarter of 2022, compared with $15.6 million in the first quarter of 2021.

Repayment of short- and long-term obligations was $35.1 million in the first quarter of 2022, partially offset by borrowings under our revolving credit facility of $15.5 million.

Repayment of short- and long-term obligations was $19.6 million in the first quarter of 2021, partially offset by borrowings under our revolving credit facility of $10.1 million.

In addition, taxes paid related to the vesting of equity awards was $4.6 million in the first quarter of 2022 compared to $3.4 million in the first quarter of 2021.

Exchange Rate Effect on Cash, Cash Equivalents, and Restricted Cash

The exchange rate effect on cash, cash equivalents, and restricted cash represents the impact of translation of cash balances at our foreign subsidiaries.

The $2.5 million reduction in cash, cash equivalents, and restricted cash in the first nine months of 2021 was primarily attributable to the strengthening of the U.S.

The $0.7 million reduction in cash, cash equivalents, and restricted cash in the first quarter of 2022 was primarily attributable to the strengthening of the U.S.

dollar against the euro.

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We entered into an unsecured multi-currency revolving credit facility, dated as of March 1, 2017 (as amended and restated to date, the Credit Agreement).

As of October 2, 2021, we have a borrowing capacity of $369.9 million, including $104.9 million available under the Credit Agreement, an additional $150 million in an uncommitted, unsecured incremental borrowing facility under the Credit Agreement, and $115 million of senior promissory notes available for issuance under our uncommitted Multi-Currency Note Purchase and Private Shelf Agreement (Note Purchase Agreement), which expires on December 14, 2021.

Under these agreements, our leverage ratio must be less than 3.75, or, if we elect, for the quarter during which a material acquisition occurs and for the three fiscal quarters thereafter, must be less than 4.00.

As of October 2, 2021, our leverage ratio was 1.69 and we were in compliance with our debt covenants.

Except for $5.6 million of short-term obligations and current maturities of long-term obligations, we do not have any material mandatory principal payments on our debt obligations until 2023.

As of April 2, 2022, the outstanding balance under the Credit Agreement was

$229.5 million, which included $78.5 million of euro-denominated borrowings.

As of April 2, 2022, we have a borrowing capacity available under the Credit Agreement of $170 million in addition to a $150 million uncommitted, unsecured incremental borrowing facility.

Under our debt agreements, our leverage ratio must be less than 3.75, or, if we elect, for the quarter during which a material acquisition occurs and for the three fiscal quarters thereafter, must be less than 4.00.

As of April 2, 2022, our leverage ratio was 1.16 and we were in compliance with our debt covenants.

We expect to renew our Credit Agreement prior to its maturity date of December 14, 2023.

See Note 5 , Short- and Long-Term Obligations, in the accompanying condensed consolidated financial statements for additional information regarding our debt obligations.

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On May 20, 2021, our board of directors approved the repurchase of up to $20 million of our equity securities during the period from May 20, 2021 to May 20, 2022.

We have not repurchased any shares of our common stock under this authorization or our previous authorization, which expired on May 13, 2021.

We paid cash dividends of $8.6 million in the first nine months of 2021.

On September 9, 2021, we declared a quarterly cash dividend of $0.25 per share totaling $2.9 million that will be paid on November 11, 2021.

We have not repurchased any shares of our common stock under this authorization.

We paid cash dividends of $2.9 million in the first quarter of 2022.

On March 9, 2022, we declared a quarterly cash dividend of $0.26 per share totaling $3.0 million that was paid on May 11, 2022.

Future declarations of dividends are subject to our board of directors' approval and may be adjusted as business needs or market conditions change.

The declaration of cash dividends is subject to our compliance with the covenant in our revolving credit facility related to our consolidated leverage ratio.

We plan to make expenditures of approximately $5 to $7 million during the remainder of 2021 for property, plant, and equipment.

As of October 2, 2021, we had approximately $230.6 million of total unremitted foreign earnings.

We plan to make expenditures of approximately $15 million during the remainder of 2022 for property, plant, and equipment.

In addition, one of our Chinese subsidiaries will be building a new manufacturing facility and relocating over the next two years.

Capital expenditures for the new facility are estimated to be approximately $20 million, of which an estimated $12 million will be incurred in 2022.

The cost of the new facility will be offset by the proceeds received from the sale of our existing facility.

See Note 2 , Gain on Sale and Other Expense, Net, in the accompanying condensed consolidated financial statements for additional information regarding the relocation of our Chinese manufacturing facility.

As of April 2, 2022, we had approximately $218.7 million of total unremitted foreign earnings.

It is our intent to indefinitely reinvest $165.7 million of these earnings to support the current and future capital needs of our foreign operations, including debt repayments, if any.

In the first nine months of 2021, we recorded withholding taxes on the earnings in certain foreign subsidiaries that we plan to repatriate in the foreseeable future.

In the first quarter of 2022, we recorded withholding taxes on the earnings in certain foreign subsidiaries that we plan to repatriate in the foreseeable future.

The foreign withholding taxes that would be required if we were to remit the indefinitely-reinvested foreign earnings to the United States would be approximately $3.2 million.

In the future, our liquidity position will be affected by cash flows from operations, cash paid to service our debt obligations, acquisitions, capital projects, dividends, and stock repurchases.

We believe that our existing resources, together with the borrowings available under our Credit Agreement and available through our Note Purchase Agreement, and the cash

we expect to generate from operations, will be sufficient to meet the capital requirements of our operations for the foreseeable future.

In the future, our liquidity position will be affected by cash flows from operations, cash paid to service our debt

obligations, acquisitions, capital projects, dividends, and stock repurchases.

We believe that existing cash and cash equivalents, along with cash generated from operations, our existing borrowing capacity and continued access to debt markets, will be sufficient to meet the capital requirements of our operations for the next 12 months and foreseeable future.

Contractual Obligations and Other Commercial Commitments

There have been no material changes to our contractual obligations and other commercial commitments during the first nine months of 2021 compared with those disclosed in Management's Discussion and Analysis of Financial Condition and Results of Operations, set forth in Part II, Item 7, of our Annual Report on Form 10-K for the fiscal year ended January 2, 2021, except for an increase of $81.0 million of short- and long-term obligations as of October 2, 2021 primarily related to our acquisitions.

See Note 2 , Acquisitions, and Note 5 , Short- and Long-term Obligations, in the accompanying condensed consolidated financial statements.

There have been no material changes to our contractual obligations and other commercial commitments during the first quarter of 2022 compared with those disclosed in Management's Discussion and Analysis of Financial Condition and Results of Operations, set forth in Part II, Item 7, of our Annual Report on Form 10-K for the fiscal year ended January 1, 2022.

Application of Critical Accounting Policies and Estimates

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Management evaluates its estimates on an ongoing basis based on historical experience, current economic and market conditions, and other assumptions management believes are reasonable.

We believe that our most critical accounting policies which are significant to our consolidated financial statements, and which involve the most complex or subjective decisions or assessments, are those described in "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the section captioned "Application of Critical Accounting Policies and Estimates" in Part II, Item 7, of our Annual Report on Form 10-K for the fiscal year ended January 2, 2021.

We believe that our most critical accounting policies which are significant to our consolidated financial statements, and which involve the most complex or subjective decisions or assessments, are those described in "Management's Discussion and Analysis of Financial Condition and Results of Operations" under the section captioned "Application of Critical Accounting Estimates" in Part II, Item 7, of our Annual Report on Form 10-K for the fiscal year ended January 1, 2022.

There have been no material changes to these critical accounting policies since the end of fiscal 2021 that warrant disclosure.

Recent Accounting Pronouncements

See Note 1 , under the headings Recently Adopted Accounting Pronouncements and Recent Accounting Pronouncements Not Yet Adopted , in the accompanying condensed consolidated financial statements for details.

See Note 1 , under the headings Recent Accounting Pronouncements Not Yet Adopted , in the accompanying condensed consolidated financial statements for details.

Item 3 – Quantitative and Qualitative Disclosures About Market Risk

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis