Item 2. Management’s Discussion and Analysis
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (Dollars in thousands, except per share amounts )
This Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read together with the Company’s unaudited consolidated financial statements and other financial information included elsewhere in this Quarterly Report on Form 10-Q.
General
The Company is the world’s largest designer and manufacturer of arc welding and cutting products, manufacturing a broad line of arc welding equipment, consumable welding products and other welding and cutting products. Welding products include arc welding power sources, computer numerical control and plasma cutters, wire feeding systems, robotic welding packages, integrated automation systems, fume extraction equipment, consumable electrodes, fluxes, welding accessories and specialty welding consumables and fabrication. The Company’s product offering also includes oxy-fuel cutting systems and regulators and torches used in oxy-fuel welding, cutting and brazing. In addition, the Company has a leading global position in the brazing and soldering alloys market.
The Company’s products are sold in both domestic and international markets. In the Americas, products are sold principally through industrial distributors, retailers and directly to users of welding products. Outside of the Americas, the Company has an international sales organization comprised of Company employees and agents who sell products from the Company’s various manufacturing sites to distributors and product users.
The Company’s business units are aligned into three operating segments. The operating segments consist of Americas Welding, International Welding and The Harris Products Group. The Americas Welding segment includes welding operations in North and South America. The International Welding segment includes welding operations in Europe, Africa, Asia and Australia. The Harris Products Group includes the Company’s global oxy-fuel cutting, soldering and brazing businesses as well as its retail business in the United States.
On December 1, 2022, the Company acquired 100% ownership of Fori Automation, LLC (“Fori”) for an agreed upon purchase price of $427,000, which was adjusted for certain debt like obligations . The Company funded the transaction with available cash on hand and a $400,000 senior unsecured term loan. Fori is a leading designer and manufacturer of complex, multi-armed automated welding systems, with an extensive range of automated assembly systems, automated material handling solutions, automated large-scale, industrial guidance vehicles, and end of line testing systems. The Fori acquisition will extend the Company’s market presence within the automotive sector as well as its automation footprint in the International Welding segment.
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Results of Operations
The following table shows the Company’s results of operations:
Three Months Ended March 31,
Favorable (Unfavorable)
2023
2022
2023 vs. 2022
Amount
% of Sales
Amount
% of Sales
$
%
Net sales (Note 2)
$
1,039,343
$
925,448
$
113,895
12.3
%
Cost of goods sold
683,986
595,671
(88,315)
(14.8)
%
Gross profit
355,357
34.2
%
329,777
35.6
%
25,580
7.8
%
Selling, general & administrative expenses
190,116
18.3
%
166,686
18.0
%
(23,430)
(14.1)
%
Rationalization and asset impairment charges (Note 6)
877
0.1
%
1,885
0.2
%
1,008
53.5
%
Operating income
164,364
15.8
%
161,206
17.4
%
3,158
2.0
%
Interest expense, net
13,201
6,198
(7,003)
(113.0)
%
Other income (Note 11)
4,209
4,634
(425)
(9.2)
%
Income before income taxes
155,372
14.9
%
159,642
17.3
%
(4,270)
(2.7)
%
Income taxes (Note 12)
33,413
33,611
198
0.6
%
Effective tax rate (Note 12)
21.5
%
21.1
%
(0.4)
%
Net income including non-controlling interests
121,959
126,031
(4,072)
(3.2)
%
Non-controlling interests in subsidiaries' income
28
1
27
-
Net income
$
121,931
11.7
%
$
126,030
13.6
%
$
(4,099)
(3.3)
%
Diluted earnings per share (Note 3)
$
2.09
$
2.13
$
(0.04)
(1.9)
%
Net Sales:
The following table summarizes the impact of volume, acquisitions, price and foreign currency exchange rates on Net sales on a consolidated basis:
Three Months Ended March 31,
Change in Net Sales due to:
Net Sales
Foreign
Net Sales
2022
Volume
Acquisitions
Price
Exchange
2023
Lincoln Electric Holdings, Inc.
$
925,448
$
38,976
$
52,605
$
40,133
$
(17,819)
$
1,039,343
% Change
Lincoln Electric Holdings, Inc.
4.2
%
5.7
%
4.3
%
(1.9)
%
12.3
%
Net sales increased in the three months ended March 31, 2023 driven by higher demand levels, increased product pricing as a result of higher input costs and the impact of acquisitions, partially offset by unfavorable foreign exchange.
Gross Profit:
Gross profit for the three months ended March 31, 2023 increased 7.8% driven by higher volumes offset by acquisitions and challenging prior year comparisons. Last-in, first-out (“LIFO”) charges were $2,191 in the three months ended March 31, 2023, as compared with charges of $6,888 in the same 2022 period.
Selling, General & Administrative ("SG&A") Expenses:
SG&A expenses increased for the three months ended March 31, 2023 as compared to the same 2022 period, primarily due to acquisitions and higher employee-related costs.
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Income Taxes:
The effective tax rate was slightly higher for the three months ended March 31, 2023 as compared to the same period in 2022, primarily due to a change in the mix of earnings and discrete tax items.
Segment Results
Three Months Ended March 31,
Change in Net Sales due to:
Net Sales
Foreign
Net Sales
2022
Volume (1)
Acquisitions (2)
Price (3)
Exchange (4)
2023
Operating Segments
Americas Welding
$
534,055
$
58,650
$
45,249
$
24,699
$
(4,008)
$
658,645
International Welding
258,041
(14,657)
7,356
14,869
(13,193)
252,416
The Harris Products Group
133,352
(5,017)
—
565
(618)
128,282
% Change
Americas Welding
11.0
%
8.5
%
4.6
%
(0.8)
%
23.3
%
International Welding
(5.7)
%
2.9
%
5.8
%
(5.1)
%
(2.2)
%
The Harris Products Group
(3.8)
%
—
0.4
%
(0.5)
%
(3.8)
%
(1) Increase for the three months ended March 31, 2023 for Americas Welding due to higher volumes in all product groups. Decrease in International Welding due to challenging prior year comparisons. Decreases in The Harris Products Group due to lower retail volumes.
(2) Increases for the three months ended March 31, 2023 were due to the acquisitions discussed in Note 4 to the consolidated financial statements.
(3) Increase for the three months ended March 31, 2023 for all segments reflects increased product pricing to offset higher input costs.
(4) Decrease for the three months ended March 31, 2023 in International Welding primarily due to the Turkish Lira and Euro.
Adjusted Earnings Before Interest and Income Taxes:
Segment performance is measured and resources are allocated based on a number of factors, the primary measure being the Adjusted EBIT profit measure. EBIT is defined as Operating income plus Other income (expense). EBIT is adjusted for special items as determined by management such as the impact of rationalization activities, certain asset impairment charges and gains or losses on disposals of assets.
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The following table presents Adjusted EBIT by segment:
Favorable (Unfavorable)
Three Months Ended March 31,
2023 vs. 2022
2023
2022
$
%
Americas Welding:
Net sales
$
658,645
$
534,055
$
124,590
23.3
%
Inter-segment sales
32,318
28,156
4,162
14.8
%
Total Sales
$
690,963
$
562,211
128,752
22.9
%
Adjusted EBIT (3)
$
132,453
$
111,568
20,885
18.7
%
As a percent of total sales (1)
19.2
%
19.8
%
(0.6)
%
International Welding:
Net sales
$
252,416
$
258,041
(5,625)
(2.2)
%
Inter-segment sales
6,753
6,228
525
8.4
%
Total Sales
$
259,169
$
264,269
(5,100)
(1.9)
%
Adjusted EBIT (4)
$
29,598
$
37,087
(7,489)
(20.2)
%
As a percent of total sales (2)
11.4
%
14.0
%
(2.6)
%
The Harris Products Group:
Net sales
$
128,282
$
133,352
(5,070)
(3.8)
%
Inter-segment sales
2,897
3,062
(165)
(5.4)
%
Total Sales
$
131,179
$
136,414
(5,235)
(3.8)
%
Adjusted EBIT
$
18,983
$
19,598
(615)
(3.1)
%
As a percent of total sales
14.5
%
14.4
%
0.1
%
Corporate / Eliminations:
Inter-segment sales
$
(41,968)
$
(37,446)
(4,522)
(12.1)
%
Adjusted EBIT
(9,374)
(4,801)
(4,573)
(95.3)
%
Consolidated:
Net sales
$
1,039,343
$
925,448
113,895
12.3
%
Net income
$
121,931
$
126,030
(4,099)
(3.3)
%
As a percent of total sales
11.7
%
13.6
%
(1.9)
%
Adjusted EBIT (5)
$
171,660
$
163,452
8,208
5.0
%
As a percent of sales
16.5
%
17.7
%
(1.2)
%
(1) Decrease for the three months ended March 31, 2023 as compared to March 31, 2022 primarily driven by acquisition impacts.
(2) Decrease for the three months ended March 31, 2023 as compared to March 31, 2022 primarily driven by challenging prior year comparisons.
(3) The three months ended March 31, 2023 exclude the amortization of the step up in value of acquired inventories of $2,785 as discussed in Note 4 to the consolidated financial statements. The three months ended March 31, 2022 exclude a favorable adjustment related to the termination of a pension plan of $3,735.
(4) The three months ended March 31, 2023 exclude Rationalization and asset impairment net charges of $877 primarily due to restructuring activities as discussed in Note 6 to the consolidated financial statements, the amortization of the step up in value of acquired inventories of $1,071 as discussed in Note 4 to the consolidated financial statements and a gain on asset disposal of $1,646. The three months ended March 31, 2022 exclude Rationalization and asset impairment charges of $1,885 related to severance and gains or losses on the disposal of assets as disclosed in Note 6 to the consolidated financial statements.
(5) See non-GAAP Financial Measures for a reconciliation of Net income as reported and Adjusted EBIT.
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Non-GAAP Financial Measures
The Company reviews Adjusted operating income, Adjusted net income, Adjusted EBIT, Adjusted effective tax rate, Adjusted diluted earnings per share (“EPS”), Adjusted return on invested capital (“Adjusted ROIC”), Adjusted net operating profit after taxes, Cash conversion and Organic sales, all non-GAAP financial measures, in assessing and evaluating the Company’s underlying operating performance. These non-GAAP financial measures exclude the impact of special items on the Company’s reported financial results. Non-GAAP financial measures should be read in conjunction with the generally accepted accounting principles in the United States ("GAAP") financial measures, as non-GAAP measures are a supplement to, and not a replacement for, GAAP financial measures.
The following table presents the reconciliations of Operating income as reported to Adjusted operating income, Net income as reported to Adjusted net income and Adjusted EBIT, Effective tax rate as reported to Adjusted effective tax rate and Diluted earnings per share as reported to Adjusted diluted earnings per share:
Three Months Ended March 31,
2023
2022
Operating income as reported
$
164,364
$
161,206
Special items (pre-tax):
Rationalization and asset impairment charges (1)
877
1,885
Amortization of step up in value of acquired inventories (2)
3,856
—
Adjusted operating income
$
169,097
$
163,091
Net income as reported
$
121,931
$
126,030
Special items:
Rationalization and asset impairment charges (1)
877
1,885
Pension settlement net gains (3)
—
(4,273)
Amortization of step up in value of acquired inventories (2)
3,856
—
Gains on asset disposal (4)
(1,646)
—
Tax effect of Special items (5)
(818)
1,041
Adjusted net income
124,200
124,683
Non-controlling interests in subsidiaries’ income (loss)
28
1
Interest expense, net
13,201
6,198
Income taxes as reported
33,413
33,611
Tax effect of Special items (5)
818
(1,041)
Adjusted EBIT
$
171,660
$
163,452
Effective tax rate as reported
21.5
%
21.1
%
Net special item tax impact
0.1
%
(0.4)
%
Adjusted effective tax rate
21.6
%
20.7
%
Diluted earnings per share as reported
$
2.09
$
2.13
Special items per share
0.04
(0.03)
Adjusted diluted earnings per share
$
2.13
$
2.10
(1) Primarily related to restructuring activities as discussed in Note 6 to the consolidated financial statements.
(2) Costs related to the acquisition and are included in Cost of goods sold.
(3) Pension net gains primarily due to the final settlement associated with the termination of a pension plan and are included in Other income (expense).
(4) Gain on asset disposal and included in Other income (expense).
(5) Includes the net tax impact of Special items recorded during the respective periods.
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The tax effect of Special items impacting pre-tax income was calculated as the pre-tax amount multiplied by the applicable tax rate. The applicable tax rates reflect the taxable jurisdiction and nature of each Special item.
Liquidity and Capital Resources
The Company’s cash flow from operations can be cyclical. Operational cash flow is a key driver of liquidity, providing cash and access to capital markets. In assessing liquidity, the Company reviews working capital measurements to define areas for improvement. Management anticipates the Company will be able to satisfy cash requirements for its ongoing businesses for at least the next twelve months and the foreseeable future thereafter primarily with cash generated by operations, existing cash balances, borrowings under its existing credit facilities and raising debt in capital markets.
The Company continues to expand globally and periodically looks at transactions that would involve significant investments. The Company can fund its global expansion plans with operational cash flow, but a significant acquisition may require access to capital markets, in particular, the long-term debt market, as well as the syndicated bank loan market. The Company’s financing strategy is to fund itself at the lowest after-tax cost of funding. Where possible, the Company utilizes operational cash flows and raises capital in the most efficient market, usually the United States, and then lends funds to the specific subsidiary that requires funding. If additional acquisitions providing appropriate financial benefits become available, additional expenditures may be made.
The following table reflects changes in key cash flow measures:
Three Months Ended March 31,
2023
2022
$ Change
Cash provided by operating activities (1)
$
123,931
$
43,090
$
80,841
Cash used by investing activities (2)
(16,049)
(40,116)
24,067
Capital expenditures
(18,787)
(18,672)
(115)
Acquisition of businesses, net of cash acquired
—
(22,013)
22,013
Cash used by financing activities (3)
(111,316)
(40,597)
(70,719)
(Payments on) proceeds from short-term borrowings
(43,940)
98,408
(142,348)
Payments on long-term borrowings
(111)
(2,100)
1,989
Purchase of shares for treasury
(32,158)
(104,579)
72,421
Cash dividends paid to shareholders
(37,583)
(33,361)
(4,222)
Increase (decrease) in Cash and cash equivalents (4)
1,653
(38,585)
40,238
(1) Cash provided by operating activities increased for the three months ended March 31, 2023 , compared with the three months ended March 31, 2022 primarily due to improved working capital position.
(2) Cash used by investing activities decreased for the three months ended March 31, 2023 , compared with the three months ended March 31, 2022 primarily due to cash used in the acquisition of businesses in 2022. The Company currently anticipates capital expenditures of $80,000 to $100,000 in 2023. Anticipated capital expenditures include investments for capital maintenance and projects to increase efficiency, reduce costs, promote business growth or improve the overall safety and environmental conditions of the Company’s facilities.
(3) Cash used by financing activities increased in the three months ended March 31, 2023 , compared with the three months ended March 31, 2022 due to increased payments on short and long-term borrowings in 2023.
(4) Cash and cash equivalents increased 0.8%, or $1,653, to $198,803 during the three months ended March 31, 2023 , from $197,150 as of December 31, 2022. At March 31, 2023, $173,624 of Cash and cash equivalents was held by international subsidiaries.
In April 2023, the Company paid a cash dividend of $0.64 per share, or $36,847, to shareholders of record as of March 31, 2023.
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Working Capital Ratios
March 31, 2023
December 31, 2022
March 31, 2022
Average operating working capital to Net sales (1)
19.6
%
20.9
%
18.6
%
Days sales in Inventories
122.4
132.5
126.6
Days sales in Accounts receivable
52.9
57.0
53.6
Average days in Trade accounts payable
53.9
57.0
63.6
(1) Average operating working capital to net sales is defined as the sum of Accounts receivable, Inventories and contract assets less Trade accounts payable and contract liabilities as of period end divided by annualized rolling three months of Net sales.
Return on Invested Capital
The Company reviews ROIC in assessing and evaluating the Company’s underlying operating performance. As discussed in the Non-GAAP Financial Measures section above, Adjusted ROIC is a non-GAAP financial measure that the Company believes is a meaningful metric to investors in evaluating the Company’s financial performance. The calculation may be different than the method used by other companies to calculate ROIC. Adjusted ROIC is defined as rolling 12 months of Adjusted net income excluding tax-effected interest income and expense divided by invested capital. Invested capital is defined as total debt, which includes Short-term debt and Long-term debt, less current portions, plus Total equity.
The following table presents the reconciliations of ROIC and Adjusted ROIC to net income:
Twelve Months Ended March 31,
2023
2022
Net income as reported
$
468,125
$
328,319
Plus: Interest expense (after-tax)
28,875
18,364
Less: Interest income (after-tax)
1,560
1,113
Net operating profit after taxes
$
495,440
$
345,570
Special items:
Rationalization and asset impairment charges
10,780
7,549
Acquisition transaction costs (1)
6,003
810
Pension settlement charges (2)
—
117,343
Amortization of step up in value of acquired inventories
4,962
5,804
Gain on asset disposal
(1,646)
—
Tax effect of Special items (3)
(3,051)
(44,586)
Adjusted net operating profit after taxes
$
512,488
$
432,490
Invested Capital
March 31, 2023
March 31, 2022
Short-term debt
$
49,340
$
150,560
Long-term debt, less current portion
1,110,626
715,032
Total debt
1,159,966
865,592
Total equity
1,125,236
863,060
Invested capital
$
2,285,202
$
1,728,652
Return on invested capital as reported
21.7
%
20.0
%
Adjusted return on invested capital
22.4
%
25.0
%
(1) Related to acquisitions and are included in Selling, general & administrative expenses.
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(2) Related to lump sum pension payments due to the final settlement associated with the termination of a pension plan.
(3) Includes the net tax impact of Special items recorded during the respective periods.
The tax effect of Special items impacting pre-tax income was calculated as the pre-tax amount multiplied by the applicable tax rate. The applicable tax rates reflect the taxable jurisdiction and nature of each Special item.
New Accounting Pronouncements
Refer to Note 1 to the consolidated financial statements for a discussion of new accounting pronouncements.
Acquisitions
Refer to Note 4 to the consolidated financial statements for a discussion of the Company’s recent acquisitions.
Debt
Fair Value of Debt
At March 31, 2023 and December 31, 2022, the fair value of long-term debt, including the current portion, was approximately $1,033,063 and $1,009,020, respectively, which was determined using available market information and methodologies requiring judgment. The carrying value of this debt at such dates was $1,121,558 and $1,121,435, respectively. Since judgment is required in interpreting market information, the fair value of the debt is not necessarily the amount which could be realized in a current market exchange.
Revolving Credit Agreement
On April 23, 2021, the Company amended and restated the agreement governing its line of credit by entering into the Second Amended and Restated Credit Agreement (“Credit Agreement”). The Credit Agreement has a line of credit totaling $500,000, has a term of 5 years with a maturity date of April 23, 2026 and may be increased, subject to certain conditions including the consent of its lenders, by an additional amount up to $150,000. On March 8, 2023, the Credit Agreement was amended to replace the LIBOR rate to a term secured overnight finance rate (“SOFR”); as such, the interest rate on borrowings is based on SOFR plus a spread of 0.85% to 1.85% based on (1) the Company’s net leverage ratio and (2) a credit spread adjustment. The Credit Agreement contains customary representations and warranties, as well as customary affirmative, negative and financial covenants for credit facilities of this type (subject to negotiated baskets and exceptions), including limitations on the Company and its subsidiaries with respect to liens, investments, distributions, mergers and acquisitions, dispositions of assets and transactions with affiliates. As of March 31, 2023, the Company was in compliance with all of its covenants and had $25,000 of outstanding borrowings under the Credit Agreement.
The Company has other lines of credit and debt agreements totaling $98,692. As of March 31, 2023, the Company was in compliance with all of its covenants and had $13,408 outstanding.
Senior Unsecured Notes
On April 1, 2015 and October 20, 2016, the Company entered into separate Note Purchase Agreements pursuant to which it issued senior unsecured notes (the "Notes") through a private placement. The 2015 Notes and 2016 Notes each have an aggregate principal amount of $350,000, comprised of four different series ranging from $50,000 to $100,000, with maturity dates ranging from August 20, 2025 through April 1, 2045, and interest rates ranging from 2.75% and 4.02%. Interest on the Notes is paid semi-annually. The Company’s total weighted average effective interest rate and remaining weighted average tenure of the Notes is 3.3% and 11.1 years, respectively. The proceeds of the Notes were used for general corporate purposes. The Notes contain certain affirmative and negative covenants. As of March 31, 2023, the Company was in compliance with all of its debt covenants relating to the Notes.
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Term Loan
On November 29, 2022, the Company entered into a term loan in the aggregate principal amount of $400,000 (the “Term Loan”), which was borrowed in full. The Term Loan matures on November 29, 2025. The Term Loan bears an interest at a rate based on SOFR, plus a margin ranging from 0.75% to 1.75% based on the Company’s consolidated net leverage ratio. The proceeds of the Term Loan were used to pay a portion of the purchase price in connection with the acquisition of Fori. As of March 31, 2023, the Company was in compliance with all of its covenants.
In March 2023, the Company entered into interest rate swap agreements to effectively convert the interest rate on $150,000 of the Term Loan from a variable rate to a fixed rate.
Shelf Agreements
On November 27, 2018, the Company entered into seven uncommitted master note facilities (the "Shelf Agreements") that allow borrowings up to $700,000 in the aggregate. The Shelf Agreements have a term of 5 years and the average life of borrowings cannot exceed 15 years. The Company is required to comply with covenants similar to those contained in the Notes. As of March 31, 2023, the Company was in compliance with all of its covenants and had no outstanding borrowings under the Shelf Agreements.
Forward-looking Statements
The Company’s expectations and beliefs concerning the future contained in this report are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements reflect management’s current expectations and involve a number of risks and uncertainties. Forward-looking statements generally can be identified by the use of words such as “may,” “will,” “expect,” “intend,” “estimate,” “anticipate,” “believe,” “forecast,” “guidance” or words of similar meaning. Actual results may differ materially from such statements due to a variety of factors that could adversely affect the Company’s operating results. The factors include, but are not limited to: general economic, financial and market conditions; the effectiveness of operating initiatives; completion of planned divestitures; interest rates; disruptions, uncertainty or volatility in the credit markets that may limit our access to capital; currency exchange rates and devaluations; adverse outcome of pending or potential litigation; actual costs of the Company’s rationalization plans; possible acquisitions, including the Company’s ability to successfully integrate acquisitions; market risks and price fluctuations related to the purchase of commodities and energy; global regulatory complexity; the effects of changes in tax law; tariff rates in the countries where the Company conducts business; and the possible effects of events beyond our control, such as the impact of the Russia-Ukraine conflict, political unrest, acts of terror, natural disasters and pandemics, including the coronavirus disease (“COVID- 19”) pandemic, on the Company or its customers, suppliers and the economy in general. For additional discussion, see “Item 1A. Risk Factors” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes in the Company’s exposure to market risk since December 31, 2022. See “Item 7A. Quantitative and Qualitative Disclosures About Market Risk” in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.