MODINE MANUFACTURING CO 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. When we use the terms “Modine,” “we,” “us,” the “Company,” or “our” in this report, we are referring to Modine Manufacturing Company. Our fiscal year ends on March 31 and, accordingly, all references to quarters refer to our fiscal quarters. The quarter ended September 30, 2020 was the second quarter of fiscal 2021. COVID-19 As the COVID-19 pandemic continues, both the health and overall well-being of our employees and delivering quality products and services to our customers remain our top priorities. The COVID-19 pandemic has broadly impacted the global economy and our key end markets, which were most severely impacted during the first quarter of fiscal 2021. In response to lower market demand and in an effort to mitigate the negative impacts of COVID-19 on our financial results, we implemented actions, including, but not limited to, production staffing adjustments, furloughs, shortened work weeks, and temporary salary reductions at all levels of our organization. In addition, we have reduced operating and administrative expenses, including travel and entertainment expenditures, and lowered the annual compensation paid to the Board of Directors. We have also focused on limiting capital expenditures and, where possible, have delayed certain projects and the purchase of some program-related equipment and tooling. Our swift cost-saving actions, coupled with a slow but steady recovery in most of our key end markets, favorably impacted our financial results during the second quarter of fiscal 2021. Looking ahead, while we are continuing to focus on cost-saving measures, we plan to reduce the level of furloughs, shortened work weeks and salary reductions. As a result, we expect the benefit of the cost-saving actions, primarily on SG&A expenses, to be less significant in the second half of fiscal 2021. The full extent of the impacts of COVID-19, which will largely depend on the length and severity of the pandemic, could have a material adverse effect on our business, results of operations, and cash flows. Second Quarter Highlights Net sales in the second quarter of fiscal 2021 decreased $38.8 million, or 8 percent, from the second quarter of fiscal 2020, primarily due to lower sales in our Commercial and Industrial Solutions (“CIS”), Heavy Duty Equipment (“HDE”) and Automotive segments. Sales in each of these segments were impacted by market-driven volume declines. Cost of sales decreased $43.9 million, or 10 percent, from the second quarter of fiscal 2020, primarily due to lower sales volume. Gross profit increased $5.1 million and gross margin improved 240 basis points to 17.5 percent. Selling, general and administrative (“SG&A”) expenses decreased $16.6 million, primarily due to lower project costs associated with our review of strategic alternatives for the automotive business and cost-reduction initiatives in response to the negative impacts of COVID-19. Operating income during the second quarter of fiscal 2021 increased $22.5 million to $28.5 million, primarily due to higher earnings in our Automotive, HDE, and Building HVAC Systems (“BHVAC”) segments and lower SG&A expenses at Corporate. Year-to-date Highlights Net sales in the first six months of fiscal 2021 decreased $220.0 million, or 21 percent, from the same period last year, primarily due to lower sales in our HDE, CIS and Automotive segments. Cost of sales decreased $187.8 million, or 22 percent, from the same period last year, primarily due to lower sales volume. Gross profit decreased $32.2 million and gross margin improved 20 basis points to 15.7 percent. SG&A expenses decreased $35.4 million, primarily due to lower project costs associated with our review of strategic alternatives for the automotive business and cost-reduction initiatives in response to the negative impacts of COVID-19. Operating income during the first six months of fiscal 2021 increased $1.2 million to $25.3 million, primarily due to higher earnings in our BHVAC and Automotive segments and lower SG&A expenses at Corporate, partially offset by lower earnings in our HDE and CIS segments. 23 Table of Contents Recent Event On November 2, 2020, we announced that we entered into a definitive agreement to sell our liquid-cooled automotive business to Dana Incorporated. We expect this transaction to close during the first half of calendar 2021, subject to regulatory approvals and other customary closing conditions. We do not expect significant net cash proceeds from this transaction based upon the selling price and adjustments for cash, debt, and working capital, as defined within the definitive agreement. We report financial results of this business within the Automotive segment. Net sales attributable to the liquid-cooled automotive business were approximately $130.0 million during the first six months of fiscal 2021 and approximately $310.0 million in fiscal 2020. Net assets of this business were approximately $140.0 million as of September 30, 2020. In connection with this pending sale, we expect to record a non-cash impairment charge of approximately $120.0 million to $130.0 million during the third quarter of fiscal 2021 related to the long-lived assets of the liquid-cooled automotive business. When the transaction is completed, we expect to record an additional loss on sale related to other net assets and cumulative foreign currency translation adjustments attributable to the business, net working capital adjustments, and costs to sell. As we have not yet finalized our analysis, the impairment charge recorded in the third quarter could differ materially from our preliminary estimate and, at this time, we cannot estimate the loss on sale to be recorded upon completion of this transaction. We are continuing to evaluate strategic alternatives for our other automotive businesses and are committed to exiting these businesses in a manner that is in the best interest of our shareholders. CONSOLIDATED RESULTS OF OPERATIONS The following table presents our consolidated financial results on a comparative basis for the three and six months ended September 30, 2020 and 2019: Three months ended September 30, Six months ended September 30, 2020 2019 2020 2019 (in millions) $'s % of sales $'s % of sales $'s % of sales $'s % of sales Net sales $ 461.4 100.0 % $ 500.2 100.0 % $ 809.2 100.0 % $ 1,029.2 100.0 % Cost of sales 380.6 82.5 % 424.5 84.9 % 682.3 84.3 % 870.1 84.5 % Gross profit 80.8 17.5 % 75.7 15.1 % 126.9 15.7 % 159.1 15.5 % Selling, general and administrative expenses 50.8 11.0 % 67.4 13.5 % 95.5 11.8 % 130.9 12.7 % Restructuring expenses 1.5 0.3 % 2.3 0.4 % 6.1 0.8 % 4.1 0.4 % Operating income 28.5 6.2 % 6.0 1.2 % 25.3 3.1 % 24.1 2.3 % Interest expense (5.2 ) -1.1 % (5.8 ) -1.1 % (10.6 ) -1.3 % (11.7 ) -1.1 % Other expense – net (0.5 ) -0.1 % (1.3 ) -0.3 % (0.5 ) -0.1 % (2.4 ) -0.2 % Earnings (loss) before income taxes 22.8 4.9 % (1.1 ) -0.2 % 14.2 1.8 % 10.0 1.0 % Provision for income taxes (13.9 ) -3.0 % (3.7 ) -0.7 % (13.7 ) -1.7 % (6.6 ) -0.6 % Net earnings (loss) $ 8.9 1.9 % $ (4.8 ) -1.0 % $ 0.5 0.1 % $ 3.4 0.3 % Comparison of Three Months ended September 30, 2020 and 2019 Second quarter net sales of $461.4 million were $38.8 million, or 8 percent, lower than the second quarter of the prior year, primarily due to lower sales volume in our CIS, HDE, and Automotive segments. Sales in these segments decreased $22.6 million, $21.6 million, and $5.8 million, respectively, and were impacted by market-driven volume declines. BHVAC segment sales increased $5.9 million. Second quarter cost of sales decreased $43.9 million, or 10 percent, primarily due to lower sales volume. As a percentage of sales, cost of sales decreased 240 basis points to 82.5 percent, primarily due to favorable impacts of cost-reduction initiatives, which were implemented earlier in the fiscal year in response to lower end market demand, and procurement initiatives. As a result of lower sales and lower cost of sales as a percentage of sales, second quarter gross profit increased $5.1 million and gross margin improved 240 basis points to 17.5 percent. Second quarter SG&A expenses decreased $16.6 million. The decrease in SG&A expenses was primarily due to lower costs recorded at Corporate associated with our review of strategic alternatives for the Automotive segment’s business operations, which decreased approximately $12.0 million, and lower compensation-related expenses, which decreased approximately $8.0 million. The lower compensation-related expenses resulted primarily from our cost-reduction initiatives aimed to mitigate the negative impacts of COVID-19. These favorable drivers were partially offset by $5.5 million of costs recorded at Corporate in connection with Thomas A. Burke stepping down from his position as President and Chief Executive Officer (“CEO.”) These costs primarily consisted of severance and benefit-related expenses and costs directly associated with the search for Mr. Burke’s successor. Restructuring expenses totaled $1.5 million in the second quarter of fiscal 2021 and primarily consisted of severance expenses in the CIS segment related to plant consolidation activities. Operating income of $28.5 million in the second quarter of fiscal 2021 increased $22.5 million compared with the second quarter of fiscal 2020. The increase was primarily due to higher earnings in our Automotive, HDE, and BHVAC segments and lower SG&A expenses at Corporate. 24 Table of Contents The provision for income taxes was $13.9 million and $3.7 million in the second quarter of fiscal 2021 and 2020, respectively. The $10.2 million increase was primarily due to a $6.6 million income tax charge for a valuation allowance on certain U.S. deferred tax assets and higher operating earnings in the current year. In addition, the prior year benefitted from the release of an uncertain tax position. These factors, which caused an increase in our tax provision during the second quarter of fiscal 2021, were partially offset by a favorable impact of global intangible low taxed income compared with the prior year. Comparison of Six Months ended September 30, 2020 and 2019 Fiscal 2021 year-to-date net sales of $809.2 million were $220.0 million, or 21 percent, lower than the same period last year, primarily due to lower sales in our HDE, CIS and Automotive segments. Sales in these segments decreased $114.5 million, $68.9 million, and $57.3 million, respectively, and were significantly impacted by market-driven volume declines and temporary plant closures due to the COVID-19 pandemic. BHVAC segment sales increased $4.5 million. Fiscal 2021 year-to-date cost of sales of $682.3 million decreased $187.8 million, or 22 percent, primarily due to lower sales volume. As a percentage of sales, cost of sales decreased 20 basis points to 84.3 percent. The unfavorable impact of the lower sales volume was more than offset by the benefits of cost-reduction initiatives in response to lower end market demand and procurement initiatives. As a result of lower sales and lower cost of sales as a percentage of sales, fiscal 2021 year-to-date gross profit decreased $32.2 million and gross margin improved 20 basis points to 15.7 percent. Fiscal 2021 year-to-date SG&A expenses decreased $35.4 million. The decrease in SG&A expenses was primarily due to lower costs recorded at Corporate associated with our review of strategic alternatives for the Automotive segment’s business operations, which decreased approximately $20.0 million, and lower compensation-related expenses, which decreased approximately $18.0 million. These favorable drivers were partially offset by $5.5 million of costs recorded at Corporate in connection with Mr. Burke stepping down as our CEO. Restructuring expenses of $6.1 million during the first six months of fiscal 2021 increased $2.0 million compared with the same period last year and consisted primarily of severance expenses related to plant consolidation activities and targeted headcount reductions. Operating income of $25.3 million during the first six months of fiscal 2021 increased $1.2 million compared with the same period last year. The increase was primarily due lower SG&A expenses at Corporate and higher earnings in our BHVAC and Automotive segments, partially offset by lower earnings in our HDE and CIS segments. The provision for income taxes was $13.7 million and $6.6 million during the first six months of fiscal 2021 and 2020, respectively. The $7.1 million increase was primarily due to a $6.6 million income tax charge for a valuation allowance on certain U.S. deferred tax assets and slightly higher operating earnings in the current year. In addition, the prior year benefitted from the release of an uncertain tax position. These factors, which caused an increase in our tax provision during the first six months of fiscal 2021, were partially offset by a favorable impact of global intangible low taxed income compared with the prior year. SEGMENT RESULTS OF OPERATIONS Effective April 1, 2020, we began managing our global automotive business separate from the other businesses within the previously-reported Vehicular Thermal Solutions (“VTS”) segment. We have been managing the automotive business as the Automotive segment as we target the sale or eventual exit of its underlying automotive business operations. We are managing the other businesses of the VTS segment, including the commercial vehicle and off-highway businesses, as the Heavy Duty Equipment segment. 25 Table of Contents We began reporting financial results for our new segment structure beginning for fiscal 2021. Segment financial information for fiscal 2020 has been recast to conform to the fiscal 2021 presentation. The segment realignment had no impact on the CIS and BHVAC segments. The following is a discussion of our segment results of operations for the three and six months ended September 30, 2020 and 2019: Commercial and Industrial Solutions Three months ended September 30, Six months ended September 30, 2020 2019 2020 2019 (in millions) $'s % of sales $'s % of sales $'s % of sales $'s % of sales Net sales $ 134.1 100.0 % $ 156.7 100.0 % $ 256.6 100.0 % $ 325.5 100.0 % Cost of sales 114.8 85.6 % 133.8 85.4 % 221.8 86.5 % 278.3 85.5 % Gross profit 19.3 14.4 % 22.9 14.6 % 34.8 13.5 % 47.2 14.5 % Selling, general and administrative expenses 12.2 9.1 % 14.0 9.0 % 25.3 9.8 % 29.1 8.9 % Restructuring expenses 1.5 1.2 % 0.4 0.2 % 3.9 1.5 % 0.6 0.2 % Operating income $ 5.6 4.2 % $ 8.5 5.4 % $ 5.6 2.2 % $ 17.5 5.4 % Comparison of Three Months ended September 30, 2020 and 2019 CIS net sales decreased $22.6 million, or 14 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. Sales to data center cooling and commercial HVAC&R customers decreased $12.3 million and $10.6 million, respectively. CIS cost of sales decreased $19.0 million, or 14 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. As a percentage of sales, cost of sales increased 20 basis points to 85.6 percent, primarily due to the unfavorable impact of lower sales volume, partially offset by cost-reduction and procurement initiatives. As a result of the lower sales and higher cost of sales as a percentage of sales, gross profit decreased $3.6 million and gross margin declined 20 basis points to 14.4 percent. SG&A expenses decreased $1.8 million compared with the second quarter of the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $2.0 million. Restructuring expenses during the second quarter of fiscal 2021 totaled $1.5 million and primarily consisted of severance expenses related to plant consolidation activities in China. Operating income of $5.6 million decreased $2.9 million during the quarter, primarily due to lower gross profit and higher restructuring expenses, partially offset by lower SG&A expenses. Comparison of Six Months ended September 30, 2020 and 2019 CIS year-to-date net sales decreased $68.9 million, or 21 percent, from the same period last year, primarily due to lower sales volume largely associated with the impacts of the COVID-19 pandemic. Sales to commercial HVAC&R and data center cooling customers decreased $47.6 million and $22.7 million, respectively. CIS year-to-date cost of sales decreased $56.5 million, or 20 percent, from the same period last year, primarily due to lower sales volume. As a percentage of sales, cost of sales increased 100 basis points to 86.5 percent, primarily due to the unfavorable impact of lower sales volume, partially offset by cost-reduction and procurement initiatives. 26 Table of Contents As a result of the lower sales and higher cost of sales as a percentage of sales, gross profit decreased $12.4 million and gross margin declined 100 basis points to 13.5 percent. CIS year-to-date SG&A expenses decreased $3.8 million compared with the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $4.0 million. Restructuring expenses during the first six months of fiscal 2021 increased $3.3 million and primarily consisted of severance expenses related to plant consolidation activities in China and targeted headcount reductions in North America. Operating income decreased $11.9 million to $5.6 million, primarily due to lower gross profit and higher restructuring expenses, partially offset by lower SG&A expenses. Building HVAC Systems Three months ended September 30, Six months ended September 30, 2020 2019 2020 2019 (in millions) $'s % of sales $'s % of sales $'s % of sales $'s % of sales Net sales $ 61.9 100.0 % $ 56.0 100.0 % $ 109.5 100.0 % $ 105.0 100.0 % Cost of sales 40.2 64.9 % 38.3 68.3 % 73.3 66.9 % 73.6 70.1 % Gross profit 21.7 35.1 % 17.7 31.7 % 36.2 33.1 % 31.4 29.9 % Selling, general and administrative expenses 8.6 14.0 % 8.9 15.9 % 16.0 14.7 % 17.3 16.5 % Operating income $ 13.1 21.1 % $ 8.8 15.8 % $ 20.2 18.4 % $ 14.1 13.4 % Comparison of Three Months ended September 30, 2020 and 2019 BHVAC net sales increased $5.9 million, or 11 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to higher sales in both the U.K. and the U.S., which increased $5.5 million and $0.4 million, respectively. The higher sales in the U.K. were primarily due to higher sales of data center products. The higher sales in the U.S. were primarily due to higher sales of heating products, partially offset by lower sales of ventilation products. BHVAC cost of sales increased $1.9 million, or 5 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to higher sales volume. As a percentage of sales, cost of sales decreased 340 basis points to 64.9 percent and was positively impacted by favorable customer pricing and cost-reduction initiatives. As a result of the higher sales and lower cost of sales as a percentage of sales, gross profit increased $4.0 million and gross margin improved 340 basis points to 35.1 percent. SG&A expenses decreased $0.3 million, or 190 basis points as a percentage of sales, from the prior year. The decrease in SG&A expenses was primarily due to lower travel expenses. Operating income of $13.1 million increased $4.3 million during the quarter, primarily due to higher gross profit and lower SG&A expenses. Comparison of Six Months ended September 30, 2020 and 2019 BHVAC year-to-date net sales increased $4.5 million, or 4 percent, from the same period last year, primarily due to higher sales volume. Compared with the first six months of the prior year, BHVAC sales increased $7.2 million in the U.K. and decreased $2.7 million in the U.S. The higher sales in the U.K. were primarily due to higher sales of data center products, partially offset by lower sales of air conditioning products. The lower sales in the U.S. resulted from the negative impacts of the COVID-19 pandemic and decreased sales of ventilation products. 27 Table of Contents BHVAC year-to-date cost of sales decreased $0.3 million from the same period last year. As a percentage of sales, cost of sales decreased 320 basis points to 66.9 percent and was positively impacted by favorable customer pricing and cost-reduction initiatives. As a result of higher sales and lower cost of sales as a percentage of sales, gross profit increased $4.8 million and gross margin improved 320 basis points to 33.1 percent. BHVAC year-to-date SG&A expenses decreased $1.3 million, or 180 basis points as a percentage of sales, from the prior year. The decrease in SG&A expenses was primary due to lower compensation-related expenses and lower travel expenses. Operating income of $20.2 million increased $6.1 million, primarily due to higher gross profit and lower SG&A expenses. Heavy Duty Equipment Three months ended September 30, Six months ended September 30, 2020 2019 2020 2019 (in millions) $'s % of sales $'s % of sales $'s % of sales $'s % of sales Net sales $ 165.6 100.0 % $ 187.2 100.0 % $ 289.1 100.0 % $ 403.6 100.0 % Cost of sales 142.0 85.8 % 164.8 88.0 % 254.2 87.9 % 348.7 86.4 % Gross profit 23.6 14.2 % 22.4 12.0 % 34.9 12.1 % 54.9 13.6 % Selling, general and administrative expenses 10.3 6.2 % 14.9 8.0 % 22.2 7.7 % 29.7 7.4 % Restructuring expenses - - 0.4 0.2 % 1.9 0.6 % 0.8 0.2 % Operating income $ 13.3 8.1 % $ 7.1 3.8 % $ 10.8 3.8 % $ 24.4 6.0 % Comparison of Three Months ended September 30, 2020 and 2019 HDE net sales decreased $21.6 million, or 12 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. Sales to commercial vehicle customers decreased $14.6 million, primarily within the Americas. In addition, sales were unfavorably impacted by $2.6 million from foreign currency exchange rate changes. HDE cost of sales decreased $22.8 million, or 14 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. As a percentage of sales, cost of sales improved 220 basis points to 85.8 percent and was favorably impacted by improved operating efficiencies and cost savings from procurement and other cost-reduction initiatives, partially offset by the unfavorable impact of the lower sales volume. As a result of the lower sales and lower cost of sales as a percentage of sales, gross profit increased $1.2 million and gross margin improved 220 basis points to 14.2 percent. SG&A expenses decreased $4.6 million compared with the second quarter of the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $2.0 million, and cost-reduction initiatives. Operating income of $13.3 million increased $6.2 million during the quarter, primarily due to higher gross profit and lower SG&A expenses. Comparison of Six Months ended September 30, 2020 and 2019 HDE year-to-date net sales decreased $114.5 million, or 28 percent, from the same period last year, primarily due to lower sales volume resulting from the impacts of the COVID-19 pandemic. Sales to commercial vehicle, automotive and light vehicle, and off-highway customers decreased $61.0 million, $16.2 million, and $15.4 million, respectively. These sales declines, which were most significant in the Americas and Europe, largely results from weakness in the global vehicular markets. In addition, the planned wind-downs of certain programs contributed, to a lesser extent, to the lower sales to commercial vehicle customers. 28 Table of Contents HDE year-to-date cost of sales decreased $94.5 million, or 27 percent, primarily due to lower sales volume. As a percentage of sales, cost of sales increased 150 basis points to 87.9 percent. The significant unfavorable impact of the lower sales volume was partially offset by improved operating efficiencies and cost savings from procurement and other cost-reduction initiatives. As a result of the lower sales and higher cost of sales as a percentage of sales, gross profit decreased $20.0 million and gross margin declined 150 basis points to 12.1 percent. HDE year-to-date SG&A expenses decreased $7.5 million from the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $5.0 million, and cost-reduction initiatives, including lower travel expenses. Restructuring expense during the first six months of fiscal 2021 totaled $1.9 million and primarily consisted of severance expenses resulting from targeted headcount reductions in North America. Operating income of $10.8 million decreased $13.6 million, primarily due to lower gross profit, partially offset by lower SG&A expenses. Automotive Three months ended September 30, Six months ended September 30, 2020 2019 2020 2019 (in millions) $'s % of sales $'s % of sales $'s % of sales $'s % of sales Net sales $ 109.9 100.0 % $ 115.7 100.0 % $ 172.0 100.0 % $ 229.3 100.0 % Cost of sales 93.3 84.8 % 102.7 88.8 % 150.6 87.5 % 203.8 88.9 % Gross profit 16.6 15.2 % 13.0 11.2 % 21.4 12.5 % 25.5 11.1 % Selling, general and administrative expenses 8.6 7.9 % 11.1 9.6 % 17.0 9.9 % 22.4 9.8 % Restructuring expenses - - 1.5 1.3 % 0.2 0.1 % 2.7 1.2 % Operating income $ 8.0 7.3 % $ 0.4 0.3 % $ 4.2 2.4 % $ 0.4 0.2 % Comparison of Three Months ended September 30, 2020 and 2019 Automotive net sales decreased $5.8 million, or 5 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. Compared with the prior year, sales decreased $7.2 million in Europe and increased $2.1 million in Asia. Automotive cost of sales decreased $9.4 million, or 9 percent, from the second quarter of fiscal 2020 to the second quarter of fiscal 2021, primarily due to lower sales volume. As a percentage of sales, cost of sales decreased 400 basis points to 84.8 percent and was favorably impacted by improved operating efficiencies and cost savings from procurement initiatives. As a result of the lower sales and lower cost of sales as a percentage of sales, gross profit increased $3.6 million and gross margin improved 400 basis points to 15.2 percent. SG&A expenses decreased $2.5 million compared with the second quarter of the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $3.0 million. Operating income of $8.0 million increased $7.6 million during the quarter, primarily due to higher gross profit and lower SG&A expenses and restructuring expenses. 29 Table of Contents Comparison of Six Months ended September 30, 2020 and 2019 Automotive year-to-date net sales decreased $57.3 million, or 25 percent, from the same period last year, primarily due to lower sales volume largely resulting from the impacts of the COVID-19 pandemic. Sales in Europe and North America decreased $50.6 million and $10.6 million, respectively. Sales in Asia increased $3.9 million. Automotive year-to-date cost of sales decreased $53.2 million, or 26 percent, from the prior year, primarily due to lower sales volume. As a percentage of sales, cost of sales decreased 140 basis points to 87.5 percent and was favorably impacted by improved operating efficiencies and cost savings from procurement initiatives, partially offset by the unfavorable impact of the lower sales volume. As a result of the lower sales and lower cost of sales as a percentage of sales, gross profit decreased $4.1 million yet gross margin improved 140 basis points to 12.5 percent. Automotive year-to-date SG&A expenses decreased $5.4 million compared with the prior year. The decrease in SG&A expenses was primarily due to lower compensation-related expenses, which decreased approximately $6.0 million. Restructuring expenses during the first six months of fiscal 2021 totaled $0.2 million, a decrease of $2.5 million compared with the same period in the prior year, and primarily consisted of severance expenses resulting from targeted headcount reductions. Operating income of $4.2 million increased $3.8 million, primarily due to lower SG&A and restructuring expenses, partially offset by lower gross profit. Liquidity and Capital Resources Our primary sources of liquidity are cash flow from operating activities, our cash and cash equivalents as of September 30, 2020 of $62.5 million, and an available borrowing capacity of $191.4 million under our revolving credit facility. Given our extensive international operations, approximately $42.0 million of our cash and cash equivalents are held by our non-U.S. subsidiaries. Amounts held by non-U.S. subsidiaries are available for general corporate use; however, these funds may be subject to foreign withholding taxes if repatriated. In response to the COVID-19 pandemic, we have taken actions to reduce operating and administrative expenses, conserve cash and maximize liquidity. In addition, as described below, we have focused on reducing our capital expenditures and executed amendments to our primary credit agreements to help ensure liquidity through financial covenant flexibility during fiscal 2021 and 2022. We believe our sources of liquidity, including cash flow from operations, our cash and cash equivalents, and access to both committed and uncommitted credit facilities, will provide sufficient cash flow to meet our obligations during the next twelve months and beyond. However, we are continuing to monitor the impacts of COVID-19 on our business and the credit and financial markets. Net Cash Provided by Operating Activities Net cash provided by operating activities for the six months ended September 30, 2020 was $87.3 million, which represents a $69.8 million increase compared with the same period in the prior year. This increase in operating cash flow was primarily due to favorable net changes in working capital and lower payments for separation and project costs associated with our review of strategic alternatives for the automotive business. The favorable changes in working capital during the first six months of fiscal 2021, compared with the same period in the prior year, included lower inventory levels and lower payments for incentive compensation, employee benefits, income taxes and payroll taxes. In addition, we have deferred payments of U.S. payroll taxes, as permitted by the Coronavirus Aid, Relief and Economic Security Act. We plan to resume payment of these payroll taxes during the fourth quarter of fiscal 2021. 30 Table of Contents Capital Expenditures In response to the economic impacts of the COVID-19 pandemic, we are taking steps to preserve our financial liquidity. As part of this initiative, we are focused on reducing our capital expenditures and, where possible, have delayed certain projects and the purchase of certain program-related equipment and tooling in our vehicular businesses. Capital expenditures of $14.6 million during the six months of fiscal 2021 decreased $26.8 million compared with the same period in the prior year. Debt Our credit agreements require us to maintain compliance with various covenants, including a leverage ratio covenant and an interest expense coverage ratio covenant discussed further below. Also, as specified in the credit agreement, the term loans may require prepayments in the event of certain asset sales. In addition, at the time of each incremental borrowing under the revolving credit facility, we must represent to the lenders that there has been no material adverse effect, as defined in the credit agreement, on our business, property, or results of operations. In May 2020, we executed amendments to our primary credit agreements in the U.S. to provide additional covenant flexibility in light of the risks and uncertainties associated with the COVID-19 pandemic. Under the amended agreements, the leverage ratio covenant limit has been temporarily raised. We believe this additional flexibility will enable us to be compliant with our debt covenants, even if the adverse effects of the COVID-19 pandemic on our business are more severe than we currently anticipate. However, failure to comply with the debt covenants could result in an event of default, which, if not cured or waived, could result in us being required to repay borrowings before their due date. The leverage ratio covenant within our primary credit agreements requires us to limit our consolidated indebtedness, less a portion of our cash balance, both as defined by the credit agreements, in relation to our consolidated net earnings before interest, taxes, depreciation, amortization, and certain other adjustments (“Adjusted EBITDA”). For the remainder of fiscal 2021, the leverage ratio covenant limit is 5.25 to 1 and 5.75 to 1 for the third and fourth quarters, respectively. In fiscal 2022, the leverage ratio covenant limit is 4.75 to 1, 3.75 to 1, and 3.50 to 1 for the first, second and third quarters, respectively, and subsequently returns to 3.25 to 1 for the fourth quarter of fiscal 2022. We are also subject to an interest expense coverage ratio covenant, which requires us to maintain Adjusted EBITDA of at least three times consolidated interest expense. As of September 30, 2020, we were in compliance with our debt covenants; our leverage ratio and interest coverage ratio were 2.2 and 8.0, respectively. We expect to remain in compliance with our debt covenants during fiscal 2021 and beyond. Recent Announcement - Share Repurchase Program On November 5, 2020, we announced our Board of Directors approved a two-year, $50.0 million share repurchase program, which allows us to repurchase shares of our common stock through solicited and unsolicited transactions in the open market or in privately-negotiated or other transactions, at such times and prices and upon such other terms as we deem appropriate. Our decision whether and to what extent to repurchase shares under this program will depend on a number of factors, including business conditions, other cash priorities, and stock price. Forward-Looking Statements This report, including, but not limited to, the discussion under Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations, contains statements, including information about future financial performance, accompanied by phrases such as “believes,” “estimates,” “expects,” “plans,” “anticipates,” “intends,” and other similar “forward-looking” statements, as defined in the Private Securities Litigation Reform Act of 1995. Modine’s actual results, performance or achievements may differ materially from those expressed or implied in these statements, because of certain risks and uncertainties, including, but not limited to, those described under “Risk Factors” in Item 1A. in Part I. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2020. Other risks and uncertainties include, but are not limited to, the following: 31 Table of Contents Market Risks: • The impact of the COVID-19 pandemic on the national and global economy, our business, suppliers, customers, and employees; • Economic, social and political conditions, changes, challenges and unrest, particularly in the geographic, product and financial markets where we and our customers operate and compete, including, in particular, foreign currency exchange rate fluctuations; tariffs (and any potential trade war resulting from tariffs or retaliatory actions); inflation; changes in interest rates; recession and recovery therefrom; restrictions and uncertainty associated with cross-border trade, public health crises, such as pandemics and epidemics, including the ongoing COVID-19 pandemic; and the general uncertainties about the impact of regulatory and/or policy changes, including those related to tax and trade, the COVID-19 pandemic and other matters, that have been or may be implemented in the U.S. or abroad, as well as continuing uncertainty regarding the short- and long-term implications of “Brexit”; • The impact of potential price increases associated with raw materials, including aluminum, copper, steel and stainless steel (nickel), and other purchased components including, but not limited to, increases in the underlying material cost based upon the London Metal Exchange and related premiums or fabrication costs. These prices may be impacted by a variety of factors, including changes in trade laws and tariffs, the behavior of our suppliers and significant fluctuations in demand. This risk includes our ability to successfully manage our exposure and our ability to adjust product pricing in response to price increases, whether through our quotation process or through contract provisions for prospective price adjustments, as well as the inherent lag in timing of such contract provisions; and • The impact of current and future environmental laws and regulations on our business and the businesses of our customers, including our ability to take advantage of opportunities to supply alternative new technologies to meet environmental and/or energy standards and objectives. Operational Risks: • The overall health and continually increasing price-down focus of our vehicular customers in light of economic and market-specific factors, the concentration of sales within our CIS segment attributable to one customer, and the potential impact on us from any deterioration in the stability or performance of any of our major customers; • The impact of any problems with suppliers meeting our time, quantity, quality and price demands, and the overall health of our suppliers, including their ability and willingness to supply our volume demands if their production capacity becomes constrained; • Our ability to maintain current customer programs and compete effectively for new business, including our ability to offset or otherwise address increasing pricing pressures from competitors and price reduction and overall service pressures from customers, particularly in the face of macro-economic instability; 32 Table of Contents • The impact of product or manufacturing difficulties or operating inefficiencies, including any program launch and product transfer challenges and warranty claims and delays or inefficiencies resulting from restrictions imposed in response to the COVID-19 pandemic; • The impact of any delays or modifications initiated by major customers with respect to program launches, product applications or requirements; • Our ability to consistently structure our operations in order to develop and maintain a competitive cost base with appropriately skilled and stable labor, while also positioning ourselves geographically, so that we can continue to support our customers with the technical expertise and market-leading products they demand and expect from Modine; • Our ability to effectively and efficiently reduce our cost structure in response to sales volume declines and to complete restructuring activities and realize the anticipated benefits of those activities; • Costs and other effects of the investigation and remediation of environmental contamination; particularly when related to the actions or inactions of others and/or facilities over which we have no control; • Our ability to recruit and maintain talent, including personnel in managerial, leadership and administrative functions, in light of tight global labor markets; • Our ability to protect our proprietary information and intellectual property from theft or attack by internal or external sources; • The impact of any substantial disruption or material breach of our information technology systems, and any related delays, problems or costs; • Increasingly complex and restrictive laws and regulations, including those associated with being a U.S. public company and others present in various jurisdictions in which we operate, and the costs associated with compliance therewith; • Work stoppages or interference at our facilities or those of our major customers and/or suppliers; • The constant and increasing pressures associated with healthcare and associated insurance costs; and • Costs and other effects of litigation, claims, or other obligations. Strategic Risks: • Our ability to successfully complete the pending sale of our liquid-cooled automotive business, including the receipt of governmental and third-party approvals and satisfaction of other closing conditions, and our ability to successfully exit our other automotive businesses in a manner that is in the best interest of our shareholders; • Our ability to successfully realize anticipated benefits from our increased “industrial” market presence, with our CIS and BHVAC businesses, while maintaining appropriate focus on the market opportunities presented by our HDE and Automotive businesses; • Our ability to identify and execute growth and diversification opportunities in order to position us for long-term success; and • The potential impacts from any actions by activist shareholders, including disruption of our business and related costs. 33 Table of Contents Financial Risks: • Our ability to fund our global liquidity requirements efficiently for Modine’s current operations and meet our long-term commitments, particularly in light of the volatility and negative pressure in the financial markets as a result of the COVID-19 pandemic and in the event of disruption in or tightening of the credit markets or extended recessionary conditions in the global economy; • The impact of potential increases in interest rates, particularly in LIBOR and the Euro Interbank Offered Rate (“EURIBOR”) in relation to our variable-rate debt obligations, and of the continued uncertainty around the utilization of LIBOR or alternative reference rates; • Our ability to comply with the financial covenants, as amended, in our credit agreements, including our leverage ratio (net debt divided by Adjusted EBITDA, as defined in our credit agreements) and our interest coverage ratio (Adjusted EBITDA divided by interest expense, as defined in our credit agreements); • The potential unfavorable impact of foreign currency exchange rate fluctuations on our financial results; and • Our ability to effectively realize the benefits of deferred tax assets in various jurisdictions in which we operate. Forward-looking statements are as of the date of this report; we do not assume any obligation to update any forward-looking statements. Item 3. Quantitative and Qualitative Disclosures About Market Risk. The Company’s quantitative and qualitative disclosures about market risk are incorporated by reference from Part II, Item 7A. of the Company’s Annual Report on Form 10-K for the year ended March 31, 2020. The Company’s market risks have not materially changed since the fiscal 2020 Form 10-K was filed.