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Item 7. Management’s Discussion and Analysis

2021-03-01 compared with 2020-02-26 · 187 added, 148 removed, 393 unchanged (46% of the section changed)

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In addition to historical financial information, the following discussion and analysis contains forward-looking statements that involve risks, uncertainties and assumptions.

These forward-looking statements include, but are not limited to, our belief that the Purchasing Managers Index (“PMI”) may provide an indication of the impact of general economic conditions on our sales into the advanced industrial end market;

These forward-looking statements include, but are not limited to, anticipated impacts of the COVID-19 pandemic on our business, financial results and financial condition;

our belief that the Purchasing Managers Index (“PMI”) may provide an indication of the impact of general economic conditions on our sales into the advanced industrial end market;

our strategy;

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anticipated expenditures in regard to the Company’s benefit plans;

future acquisitions, integration and anticipated benefits from acquisitions and dispositions;

future acquisitions and integration and anticipated benefits from acquisitions and dispositions;

anticipated economic benefits and expected costs of restructuring programs;

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Revenue from our products sold to the medical market is generally affected by hospital and other healthcare provider capital spending, growth rates of surgical procedures, changes in regulatory requirements and laws, aggregation of purchasing by healthcare networks, changes in technology requirements, timing of OEM customers’ product development and new product launches, changes in customer or patient preferences, and general demographic trends.

Approximately 70% of our medical end market sales are related to surgical procedures, both elective and emergency based.

Advanced Industrial Market

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Our strategy is to drive sustainable, profitable growth through short-term and long-term initiatives, including:

disciplined focus on our diversified business model of providing components and sub-systems to long life-cycle OEM customer platforms in attractive medical and advanced industrial niche markets;

disciplined focus on our diversified business model of providing functionality to long life-cycle OEM customer platforms in attractive medical and advanced industrial niche markets;

improving our business mix to increase medical sales as a percentage of total revenue by:

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Significant Events and Updates

Third Amended and Restated Credit Agreement

On December 31, 2019, we entered into an amended and restated credit agreement (the “Third Amended and Restated Credit Agreement”), which provides for an aggregate credit facility of $450.0 million, comprised of a $100.0 million U.S.

Amendment to Third Amended and Restated Credit Agreement

On March 27, 2020, we entered into an amendment (the “First Amendment”) to the third amended and restated credit agreement, dated as of December 31, 2019 (as amended, the “Third Amended and Restated Credit Agreement”).

Our Third Amended and Restated Credit Agreement provides for an aggregate credit facility of $450.0 million, comprised of a $100.0 million U.S.

dollar equivalent euro-denominated (approximately €90.2 million) 5-year term loan facility and a $350.0 million 5-year revolving credit facility (collectively, the “Senior Credit Facilities”).

The Third Amended and Restated Credit Agreement amended and restated our previous senior credit facilities that had a maturity date of May 19, 2021.

The new Senior Credit Facilities will mature in December 2024 and include an uncommitted “accordion” feature pursuant to which the commitments thereunder may be increased by an additional $200.0 million in aggregate, subject to the satisfaction of certain customary conditions.

Acquisition of ARGES GmbH

On July 31, 2019, we acquired 100% of the outstanding shares of ARGES GmbH (“ARGES”), a Wackersdorf, Germany-based manufacturer of innovative laser scanning subsystems used in industrial materials processing and medical applications, for a total purchase price of €65.5 million ($72.9 million), subject to customary working capital adjustments.

The purchase price consists of €24.0 million ($26.7 million) cash paid at closing, 124,461 Novanta common shares issued at closing (with a fair market value of €9.8 million, or $10.9 million, based on the closing market price of $87.58 per share on July 30, 2019), €7.1 million ($7.9 million) estimated fair value of contingent consideration and €24.7 million ($27.4 million) deferred cash consideration which is expected to be paid on June 29, 2020.

The contingent consideration will be payable annually based on actual revenue achievement against certain revenue targets from August 2019 through December 2026, with the first payment due in the first quarter of 2021.

The initial cash purchase price was financed with borrowings under our revolving credit facility.

We expect that the addition of ARGES will complement and expand our existing portfolio of lasers and laser beam steering solutions capabilities within the Photonics reportable segment.

Acquisition of Med X Change, Inc.

On June 5, 2019, we acquired 100% of the outstanding stock of Med X Change, Inc.

(“Med X Change”), a Bradenton, Florida-based provider of medical grade, high definition and 4K video recording and documentation solutions to OEMs in the medical market,

for a total purchase price of $21.9 million, net of working capital adjustments.

The acquisition was financed with cash on hand and a $21.0 million borrowing under our revolving credit facility.

We expect that the addition of Med X Change will complement and expand the technology capabilities within our Vision reportable segment to provide our medical OEM customers with more integrated operating room solutions .

Acquisition of Ingenia-CAT, S.L.

On April 16, 2019, we acquired 100% of the outstanding stock of Ingenia-CAT, S.L.

(“Ingenia”), a Barcelona, Spain-based provider of high-performance servo drives and control software to OEMs in the medical and advanced industrial markets, for a total purchase price of €14.3 million ($16.2 million), net of working capital adjustments.

The purchase price consists of €8.5 million ($9.6 million) of cash consideration and €5.8 million ($6.6 million) estimated fair value of contingent consideration.

The initial cash purchase price was financed with cash on hand and borrowings under our revolving credit facility.

The contingent consideration will be payable annually based on actual revenue achievement against certain revenue targets from April 2019 through March 2022, with the first payment due in the second quarter of 2020.

We expect that the addition of Ingenia will enhance our strategic position in the precision motion control industry by enabling us to offer a broader range of motion control technologies and integrated solutions.

Ingenia is included in our Precision Motion reportable segment.

2019 Restructuring

During the fourth quarter of 2018, we implemented a restructuring plan intended to realign operations, reduce costs, achieve operational efficiencies and focus resources on growth initiatives.

We incurred costs amounting to $7.5 million related to this restructuring plan in 2019.

We anticipate completing the 2019 restructuring program in the first quarter of 2020 and expect to incur additional restructuring charges of $0.1 million to $0.2 million related to the 2019 restructuring program.

The First Amendment exercised a portion of the $200 million uncommitted accordion feature under the Third Amended and Restated Credit Agreement and increased the revolving credit facility commitment by $145 million, from $350 million to $495 million.

Additionally, the uncommitted accordion feature was reset to $200 million for potential future expansion.

Impact of COVID-19 on Our Business

Our Employees

In response to the COVID-19 pandemic, we have taken proactive, aggressive actions to protect the health and safety of our employees.

We established steering committees at both the corporate level and at each of our facilities to provide leadership for and manage our COVID-19 risk mitigation actions and countermeasures.

We have provided frequent employee communications that include guidance and updates to our employees with regards to COVID-19 safety procedures and status.

We established rigorous safety measures in all of our facilities, including implementing social distancing protocols, requiring working from home for those employees that do not need to be physically present on the manufacturing floor or in our facilities to perform their work, suspending travel, spreading production over more shifts, implementing temperature checks at the entrances to our facilities, frequently disinfecting our workspaces, and providing masks to those employees who must be physically present in our facilities.

We expect to continue these measures until we determine that the COVID-19 pandemic is adequately contained for purposes of our business.

In connection with our COVID-19 remediation actions, we have incurred additional costs to protect the health of our employees, including investment in technologies and monitoring equipment.

We expect such costs to continue to grow and be significant to our

cost of operations.

We may take further actions as government authorities require or recommend or as we determine to be in the best interest of our employees.

We are committed to retaining and supporting our employees during this pandemic.

To retain our employees, we issued to all of our employees, other than the Chief Executive Officer, the Chief Financial Officer, the Chief Human Resource Officer and the Chief Accounting Officer, a special one-time restricted stock unit grant in April 2020 at a total fair value of $14.4 million in the aggregate.

The restricted stock units vested in February 2021.

These actions were implemented to create an ownership mindset and focus among all employees for the duration of the COVID-19 pandemic and through the expected recovery, while maintaining the Company’s talent and capabilities.

Executive Compensation

The Compensation Committee of our Board of Directors approved the 2020 compensation plans for our executive officers and a Section 16 officer (collectively, the “Officers”) in February 2020.

To support our business during the COVID-19 pandemic, the Officers agreed to a reduction in cash compensation for 2020.

Further, the Officers did not receive the special one-time restricted stock unit grant issued to the rest of the employees.

In June 2020, our Board of Directors agreed to forgo the cash retainers payable to our non-employee directors for the third quarter of 2020.

Our Customers

The outbreak has significantly increased economic and demand uncertainty.

The spread of COVID-19 has caused a global economic slowdown and a global recession.

In 2020, the decline in customer demand in both medical and advanced industrial end markets resulted in a decrease in sales to many of our customers.

In the event of a further prolonged economic recession, overall demand for our products could decline further in the near term and our business would be adversely affected to a greater extent.

Our Facilities

Because of the COVID-19 pandemic, governmental authorities worldwide implemented numerous evolving measures to try to contain the spread of the virus, such as travel bans and restrictions, limits on social gatherings, quarantines, shelter-in-place orders, business shutdowns and social distancing.

We have important manufacturing operations in the U.S., the U.K., Germany, and China, all of which have been affected by the COVID-19 pandemic.

As of December 31, 2020, our manufacturing facilities around the world were in operation.

While governmental measures may be modified or extended in the event of a resurgence of COVID-19 infections, the spread of new variants of the virus, and delays in effective vaccination of a large proportion of the populations, we have taken measures to protect our employees and expect our manufacturing facilities to remain operational.

In connection with the COVID-19 pandemic, we have experienced limited absenteeism from those employees who are required to be on site to perform their jobs.

Our Supply Chain

We have experienced limited disruption to our supply chain as a result of the COVID-19 pandemic to date.

We regularly monitor the financial health and manufacturing output of companies in our supply chain.

Hardship on our suppliers or sub-suppliers caused by the COVID-19 pandemic could cause further disruption in our ability to obtain raw materials or components required to manufacture our products, adversely affecting our operations.

To mitigate the risk of any potential supply interruptions from the COVID-19 pandemic, we are identifying alternative suppliers, sourcing raw materials from different supplier locations, and taking other actions to ensure our supply of raw materials.

Although we are mitigating potential supply interruptions from the COVID-19 pandemic, if certain suppliers cannot produce a key component for us, or if the receipt of certain materials is otherwise delayed, we may miss our scheduled shipment deadlines and our relationship with customers may be harmed.

Additionally, restrictions on or disruptions of transportation, such as reduced availability of air transports, port closures and increased border controls or closures, have resulted in higher costs and delays, both for obtaining raw materials from suppliers and for shipping finished products to customers.

Our Liquidity

With respect to liquidity, we have taken actions to reduce costs and cash expenditures across the Company.

These actions included reducing hiring activities, restricting travel, adjusting employee compensation by eliminating fiscal year 2020 cash bonuses and base salary increases, implementing an unpaid time-off program for substantially all of our non-production workforce, limiting discretionary spending, reducing or deferring spending on capital investment projects, deferring lease payments on certain facilities, and deferring certain U.S.

payroll tax payments in accordance with relief provisions under the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”).

As of December 31, 2020, we deferred $2.8 million in certain U.S.

payroll tax payments under the CARES Act.

Due to the uncertainty related to the future impact of the COVID-19 pandemic, we temporarily suspended repurchases under our share repurchase plans in April 2020.

As of December 31 , 2020, we had cash and cash equivalents of $125.

1 million and available borrowing capacity under our revolving credit facility of $395.2 million.

We have reviewed numerous potential scenarios in connection with the impact of COVID-19 on our business.

Based on our analysis, we believe our existing balances of cash and cash equivalents, anticipated cash flows from our operating activities, and available borrowing capacity under our revolving credit facility will be sufficient to meet our cash needs arising in the ordinary course of business for the next twelve months.

Additionally, we believe we will remain in compliance with our debt covenants for the next twelve months.

Overview of Financial Results

Total revenue for 2019 was $626.1 million, an increase of $11.8 million, or 1.9%, versus 2018.

This increase was primarily due to increased demand in the medical market, partially offset by decreased demand in the advanced industrial market related to reductions in industrial manufacturing spending.

The effect of our acquisitions in 2018 and 2019 resulted in an increase in revenue of $17.4 million, or 2.8%.

In addition, foreign exchange rates adversely impacted our revenue by $9.8 million, or 1.6%, in 2019.

Operating income decreased $15.7 million from $71.0 million in 2018 to $55.3 million in 2019.

This decrease was primarily attributable to an increase in research and development and engineering (“R&D”) spending of $4.9 million, an increase in selling, general and administrative (“SG&A”) expenses of $2.5 million and an increase in restructuring and acquisition related costs of $8.5 million.

Basic earnings per common share (“basic EPS”) of $1.16 in 2019 decreased $0.30 from the basic EPS of $1.46 in 2018.

Diluted earnings per common share (“diluted EPS”) of $1.15 in 2019 decreased $0.28 from the diluted EPS of $1.43 in 2018.

The decreases were primarily attributable to a decrease in operating income and the positive effect of a $1.8 million Laser Quantum nontaxable redeemable noncontrolling interest redemption value adjustment in 2018 that is not applicable in 2019.

Total revenue for 2020 was $590.6 million, a decrease of $35.5 million, or 5.7%, versus 2019.

This decrease was primarily due to the COVID-19 pandemic as we experienced decreased demand in the advanced industrial market related to reductions in industrial manufacturing spending and in the medical market as a result of deferrals of elective surgical procedures.

The effect of our acquisitions in 2019 resulted in an increase in revenue of $8.4 million, or 1.3%.

In addition, foreign exchange rates positively impacted our revenue by $3.7 million, or 0.6%, in 2020.

Operating income increased $0.6 million from $55.3 million in 2019 to $55.9 million in 2020.

This increase was primarily attributable to a decrease of selling, general and administrative (“SG&A”) expenses of $8.6 million and a decrease in restructuring and acquisition related costs of $12.8 million, offset by a decrease in gross profit of $17.6 million as a result of lower revenue and an increase in research and development and engineering (“R&D”) spending of $5.0 million.

Basic earnings per common share (“basic EPS”) of $1.27 in 2020 increased $0.11 from the basic EPS of $1.16 in 2019.

Diluted earnings per common share (“diluted EPS”) of $1.25 in 2020 increased $0.10 from the diluted EPS of $1.15 in 2019.

The increase of basic EPS and diluted EPS was primarily attributable to decreases in interest expense and income tax provision.

Specific components of our operating results for 2020, 2019 and 2018 are further discussed below.

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Other income (expense), net

Gain on acquisition of business

Income before income taxes

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Precision Motion

Photonics segment revenue in 2020 decreased by $30.8 million, or 13.4%, versus 2019, primarily due to decreased demand in the advanced industrial market related to reductions in global industrial manufacturing spending and in the medical market as a result of deferrals of elective surgical procedures and a reduction in certain medical diagnostic testing during the COVID-19 pandemic.

Photonics segment revenue in 2019 decreased by $18.9 million, or 7.6%, versus 2018, primarily due to decreased demand in the advanced industrial market related to reductions in global industrial manufacturing spending, and a decrease in revenue from our optical light engine products, partially offset by $4.9 million of revenue from the acquisition of ARGES in July 2019.

Photonics segment revenue in 2018 increased by $17.0 million, or 7.3%, versus 2017, due to an increase in revenue across all of our product lines.

Revenue from our laser beam delivery products increased $13.1 million as a result of increased volumes in the advanced industrial and medical markets.

Vision segment revenue in 2020 decreased by $9.8 million, or 3.6%, versus 2019, primarily due to a decrease in revenue from our minimally invasive surgery (“MIS”) products as a result of deferrals of elective surgical procedures during the COVID-19 pandemic.

Vision segment revenue in 2019 increased by $38.5 million, or 16.5%, versus 2018.

The increase was primarily due to an increase in revenue of $28.4 million from our minimally invasive surgery products as a result of new product introductions and increased demand in the medical market and $5.4 million of revenue from the acquisition of Med X Change in June 2019 .

Vision segment revenue in 2018 increased by $49.8 million, or 27.2%, versus 2017.

The increase was primarily due to a $46.9 million increase in revenue as a result of full-year revenue from WOM being included in 2018 results.

Precision Motion

Precision Motion segment revenue in 2020 increased by $5.1 million, or 4.1%, versus 2019, primarily due to an increase in revenue related to increased demand by microelectronics customers, partially offset by decreased demand in the medical market as a result of deferrals of elective surgical procedures during the COVID-19 pandemic.

Precision Motion segment revenue in 2019 decreased by $7.9 million, or 6.0%, versus 2018.

The decrease was primarily due to decreased demand in the microelectronics and industrial market related to reductions in global industrial manufacturing spending, partially offset by increased demand in the medical market and the acquisitions of Ingenia in April 2019 and Zettlex Holdings Limited (“Zettlex”) in May 2018.

Precision Motion segment revenue in 2018 increased by $26.2 million, or 24.8%, versus 2017.

The increase was primarily due to an increase in revenue across all of our product lines as a result of increased demand in the advanced industrial and medical markets and the Zettlex acquisition in May 2018.

The following table sets forth the gross profit and gross profit margin for each of our reportable segments for 2020, 2019 and 2018 (dollars in thousands):

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Photonics segment gross profit margin was 44.6% for 2020, compared with a gross profit margin of 45.9% for 2019.

The decrease in gross profit margin was primarily attributable to lower factory utilization associated with lower production volumes and higher costs as a result of the COVID-19 pandemic.

Photonics segment gross profit for 2019 decreased $11.3 million, or 9.6%, versus 2018, primarily due to a decrease in revenue.

Photonics segment gross profit margin was 45.9% for 2019, compared with a gross profit margin of 47.0% for 2018.

The decrease in gross profit margin was primarily attributable to changes in product mix.

Amortization of inventory fair value adjustments and amortization of developed technologies increased $1.1 million, which resulted in a 0.5 percentage point decrease in gross profit margin.

Photonics segment gross profit for 2018 increased $11.0 million, or 10.4%, versus 2017, due to an increase in revenue.

Photonics segment gross profit margin was 47.0% for 2018, compared with a gross profit margin of 45.7% for 2017.

The increase in gross profit margin was primarily attributable to changes in product mix, productivity improvements and reductions in cost of poor quality.

Amortization of inventory fair value adjustments and amortization of developed technologies also decreased $2.0 million, which resulted in a 0.8 percentage point increase in gross profit margin .

Vision segment gross profit for 2020 decreased $5.0 million, or 4.7%, versus 2019, primarily due to a decrease in revenue.

Vision segment gross profit margin was 38.3% for 2020, compared with a gross profit margin of 38.8% for 2019.

The decrease in gross profit margin was primarily attributable to unfavorable product mix changes as a result of the COVID-19 pandemic.

Vision segment gross profit for 2019 increased $18.0 million, or 20.7%, versus 2018, primarily due to an increase in revenue.

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The increase in gross profit margin was primarily attributable to increased utilization of our German facility and cost reductions in our optical data collection products, partially offset by the cost of a redundant manufacturing facility in San Jose, California until the transfer of our manufacturing activities was substantially completed at the end of 2019.

Vision segment gross profit for 2018 increased $17.9 million, or 25.9%, versus 2017, primarily due to full-year gross profit from WOM being included in 2018 results.

Vision segment gross profit margin was 37.4% for 2018, compared with a gross profit margin of 37.8% for 2017.

The decrease in gross profit margin was primarily attributable to unfavorable product mix, partially offset by a net decrease in amortization of inventory fair value adjustments and amortization of developed technologies of $1.9 million, which resulted in a 0.8 percentage point increase in gross profit margin.

Precision Motion

Precision Motion segment gross profit for 2020 increased $5.0 million, or 9.3%, versus 2019, primarily due to an increase in revenue.

Precision Motion segment gross profit margin was 45.1% for 2020, compared with a gross profit margin of 42.9% for 2019.

The increase in gross profit margin was primarily attributable to favorable product and customer mix changes as well as productivity improvements implemented during 2020.

Precision Motion segment gross profit for 2019 decreased $6.2 million, or 10.3%, versus 2018, primarily due to a decrease in revenue and a decrease in gross profit margin.

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The decrease in gross profit margin was primarily attributable to business volume reductions that could not be fully compensated by cost reduction initiatives.

Precision Motion segment gross profit for 2018 increased $12.9 million, or 27.7%, versus 2017, primarily due to an increase in revenue.

Precision Motion segment gross profit margin was 45.0% for 2018, compared with a gross profit margin of 44.0% for 2017.

The increase in gross profit margin was primarily related to changes in product mix.

Operating Expenses

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R&D expenses were $61.0 million, or 10.3% of revenue in 2020, versus $56.0 million, or 8.9% of revenue in 2019.

R&D expenses increased in terms of total dollars and as a percentage of revenue primarily due to R&D expenses from acquisitions and higher investments in R&D.

R&D expenses increased in terms of total dollars and as a percentage of revenue primarily due to R&D expenses added from 2019 acquisitions, higher R&D project spending and higher share-based compensation expense offset by lower cash compensation and a reduction in discretionary spending.

R&D expenses were $56.0 million, or 8.9% of revenue in 2019, versus $51.0 million, or 8.3% of revenue in 2018.

R&D expenses increased in terms of total dollars and as a percentage of revenue primarily due to higher investments across the majority of our product lines and acquisitions in 2017 and 2018.

R&D expenses increased in terms of total dollars and as a percentage of revenue primarily due to R&D expenses added from acquisitions and higher investments in R&D.

Selling, General and Administrative Expenses

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SG&A expenses were $109.9 million, or 18.6% of revenue, in 2020, versus $118.4 million, or 18.9% of revenue in 2019.

SG&A expenses increased in terms of total dollars primarily due to SG&A expenses from acquisitions and higher professional services spending, partially offset by lower variable compensation expense .

SG&A expenses decreased in terms of total dollars and as a percentage of revenue primarily due to lower cash compensation and lower discretionary spending, partially offset by higher share-based compensation expense.

SG&A expenses were $118.4 million, or 18.9% of revenue in 2019, versus $115.9 million, or 18.9% of revenue in 2018.

SG&A expenses increased in terms of total dollars primarily due to acquisitions in 2017 and 2018, and an increase in compensation as a result of higher headcount and share-based compensation expense.

SG&A expenses increased in terms of total dollars primarily due to SG&A expenses added from acquisitions and higher professional services spending, partially offset by lower variable compensation expense.

Amortization of Purchased Intangible Assets

Amortization of purchased intangible assets is charged to our Photonics, Vision and Precision Motion segments.

Amortization of core technologies is included in cost of revenue in the consolidated statement of operations.

Amortization of developed technologies is included in cost of revenue in the consolidated statement of operations.

Amortization of customer relationships, trademarks, trade names, backlog and other intangibles are included in operating expenses in the consolidated statement of operations.

Amortization of purchased intangible assets, excluding the amortization of developed technologies that is included in cost of revenue, was $14.0 million, or 2.4% of revenue in 2020, versus $15.9 million, or 2.5% of revenue in 2019.

The increase in terms of total dollars was the result of acquired intangible assets from acquisitions in 2018 and 2019.

The decrease in terms of total dollars was the result of certain acquired intangible assets being fully amortized at the end of 2019.

Amortization of purchased intangible assets, excluding the amortization of developed technologies that is included in cost of revenue, was $15.9 million, or 2.5% of revenue, in 2019, versus $15.6 million, or 2.5% of revenue in 2018.

The increase, in terms of total dollars and as a percentage of revenue, was the result of acquired intangible assets from acquisitions in 2017 and 2018.

The increase in terms of total dollars was the result of acquired intangible assets from acquisitions in 2018 and 2019.

Restructuring and Acquisition Related Costs

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We recorded restructuring and acquisition related costs of $3.8 million in 2020, versus $16.6 million in 2019.

The increase in restructuring and acquisition related costs versus 2018 was primarily due to an increase in restructuring charges of $6.6 million as a result of the 2018 and 2019 restructuring programs and an increase in acquisition related costs of $1.9 million primarily related to an increase in professional services fees, partially offset by a decrease in costs recognized under earn-out agreements.

The decrease in restructuring and acquisition related costs versus 2019 was primarily due to a decrease in restructuring charge s of $4.2 million and a decrease in acquisition and related cost s of $8.6 million.

The decrease in acquisition and related costs was primarily attributable to the reduction in fair value of the contingent considerations in 2020 related to 2019 acquisitions and higher professional services fees for acquisitions during 2019 , offset by legal fees during 2020 related to a dispute involving a company we acquired in 2019.

We recorded restructuring and acquisition related costs of $16.6 million in 2019, versus $8.0 million in 2018.

The increase in restructuring and acquisition related costs versus 2017 was primarily due to a $1.7 million increase in restructuring related charges as a result of the 2018 and 2019 restructuring programs, partially offset by a decrease in acquisition related charges of $1.2 million mostly attributable to an investment banking success fee related to the acquisition of WOM in 2017.

The increase in restructuring and acquisition related costs in 2019 versus 2018 was primarily due to an increase in restructuring charges of $6.6 million as a result of the 2018 and 2019 restructuring programs and an increase in acquisition related costs of $1.9 million primarily related to an increase in professional services fees, partially offset by a decrease in costs recognized under earn-out agreements.

Operating Income (Loss) by Segment

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Photonics segment operating income was $34.0 million, or 17.0% of revenue, in 2020, versus $42.0 million, or 18.2% of revenue, in 2019.

The decrease in operating income was primarily due to a decrease in gross profit of $11.3 million, an increase in R&D expenses of $2.1 million and restructuring related charges of $5.0 million associated with the 2019 restructuring program, including a $2.2 million impairment of operating lease right-of-use asset.

The decrease in operating income was primarily due to a decrease in gross profit of $16.8 million and an increase in R&D spending of $2.5 million, partially offset by a decrease in SG&A expense of $1.9 million, a decrease in restructuring and acquisition related charges of $7.1 million, and a decrease in amortization of purchased intangible assets of $2.3 million.

Photonics segment operating income was $42.0 million, or 18.2% of revenue, in 2019, versus $59.3 million, or 23.8% of revenue, in 2018.

The increase in operating income was primarily due to an increase in gross profit of $11.0 million, partially offset by

an increase in R&D expenses and SG&A expenses of $3.7 million.

Photonics segment operating income was favorably affected by a $2.3 million decrease in amortization of inventory fair value adjustments and amortization of intangible assets .

Vision segment operating income was $16.4 million, or 6.3% of revenue, in 2020, versus $21.0 million, or 7.7% of revenue, in 2019.

The increase in operating income was primarily due to an increase in gross profit of $18.0 million, partially offset by an increase in R&D expenses of $1.6 million and SG&A expenses of $2.8 million.

Vision segment operating income was negatively affected by a $0.9 million net increase in amortization of inventory fair value adjustments and amortization of intangible assets.

The decrease in operating income was primarily due to a decrease in gross profit of $5.0 million, an increase in R&D spending of $2.6 million, and an increase in restructuring and acquisition related charges of $1.6 million, partially offset by a decrease of SG&A expenses of $4.8 million.

Vision segment operating income was $21.0 million, or 7.7% of revenue, in 2019, versus $9.0 million, or 3.9% of revenue, in 2018.

The increase in operating income in terms of total dollars was primarily due to an increase in gross profit, partially offset by the inclusion of full-year operating expenses from WOM in 2018.

The increase in operating income was primarily due to an increase in gross profit of $18.0 million, partially offset by an increase in R&D expenses of $1.6 million and SG&A expenses of $2.8 million.

Vision segment operating income was negatively affected by a $0.9 million net increase in amortization of inventory fair value adjustments and amortization of intangible assets.

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Precision Motion segment operating income was $31.7 million, or 24.5% of revenue, in 2020, versus $22.3 million, or 18.0% of revenue, in 2019.

The decrease in operating income was primarily due to a decrease in gross profit of $6.2 million, an increase in R&D expenses of $1.3 million and SG&A expenses of $2.8 million, partially offset by a decrease in acquisition related earn-out costs of $1.8 million associated with the Zettlex acquisition.

The increase in operating income was primarily due to an increase in gross profit of $5.0 million, a decrease in SG&A expenses of $1.5 million, and a decrease in restructuring and acquisition related charges of $2.9 million.

Precision Motion segment operating income was $22.3 million, or 18.0% of revenue, in 2019, versus $31.7 million, or 24.0% of revenue, in 2018.

The increase in operating income in terms of total dollars was primarily due to an increase in gross profit of $12.9 million, partially offset by an increase in R&D and SG&A expenses of $3.5 million and an increase in acquisition earn-out costs of $4.0 million associated with the Zettlex acquisition.

Unallocated Corporate and Shared Services

Unallocated corporate and shared services costs primarily represent costs of corporate and shared SG&A functions and other public company costs that are not allocated to the operating segments, including certain restructuring and most acquisition related costs.

Unallocated corporate and shared services costs for 2020 decreased by $3.9 million, or 13.1%, from 2019, primarily due to a decrease in restructuring and acquisition related costs of $4.4 million.

Unallocated corporate and shared services costs for 2019 increased by $1.1 million, or 3.9%, from 2018, primarily due to an increase in restructuring and acquisition related costs of $3.8 million, partially offset by a decrease in SG&A expenses of $2.6 million primarily related to lower variable compensation expense.

Unallocated corporate and shared services costs for 2018 decreased by $0.2 million, or 0.6%, from 2017.

Interest Income (Expense), Foreign Exchange Transaction Gains (Losses), and Other Income (Expense), Net

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Other income (expense), net

Gain on acquisition of business

Interest Income (Expense), Net

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Net interest expense was $8.5 million in 2019 versus $9.8 million in 2018.

The increase in net interest expense was primarily due to an increase in average debt levels as a result of acquisitions in 2017 and 2018 and an increase in the weighted average interest

rate on our S enior C redit F acilities.

The decrease in net interest expense was primarily due to a decrease in average debt levels and a decrease in the weighted average interest rate on our senior credit facilities.

The weighted average interest rate on our senior credit facilities was 3.30% and 3.53% during 2019 and 2018, respectively.

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Foreign Exchange Transaction Gains (Losses), Net

Foreign exchange transaction gains (losses), net, were $0.9 million net losses in 2020 versus $0.8 million net losses in 2019 primarily due to changes in the value of the U.S.

Dollar against the British Pound and the Euro and net realized gains from foreign currency contracts.

Foreign exchange transaction gains (losses), net, were $0.8 million net losses in 2019 versus $0.1 million net gains in 2018 primarily due to changes in the value of the U.S.

Dollar against the British Pound and Euro, and net realized gains from foreign currency contracts.

Foreign exchange transaction gains (losses), net, were $0.1 million net gains in 2018 versus $0.4 million net losses in 2017 primarily due to changes in the value of the U.S.

Dollar against the British Pound, Euro and Japanese Yen, and net realized gains from foreign currency contracts.

Dollar against the British Pound and the Euro, and net realized gains from foreign currency contracts.

Other Income (Expense), Net

Net other expense was nominal in both 2019 and 2018, respectively.

Net other expense was nominal in 2018 versus $0.2 million in 2017.

The decrease in net other expense was primarily due to a decrease in net periodic pension costs of our frozen U.K.

defined benefit pension plan covering employees of a divested business.

Gain on Acquisition of Business

The gain on acquisition of business in 2017 was related to a nontaxable gain of $26.4 million recognized upon gaining control of Laser Quantum in January 2017 as a result of acquiring an additional approximately 35% of its outstanding shares.

Net other expense was nominal in 2020, 2019 and 2018, respectively.

Income Tax Provision

We recorded a tax provision of $5.0 million in 2019, as compared to a tax provision of $10.2 million in 2018.

We recorded a tax provision of $3.9 million in 2020, compared to a tax provision of $5.0 million in 2019.

The effective tax rate for 2020 was 8.0% of income before income taxes, compared to an effective tax rate of 10.9% of income before income taxes for 2019.

Our effective tax rate for 2019 differed from the Canadian statutory rate of 29.0% primarily due to the mix of income earned in jurisdictions with varying tax rates, a $2.0 million U.K.

patent box deduction, a $1.7 million benefit from share-based compensation, $1.5 million of other tax credits, and $0.8 million of estimated deductions for Foreign Derived Intangible Income;

offset by $0.3 million of non-deductible expenses recognized under earn-out agreements in connection with various acquisitions and $0.2 million of non-deductible acquisition costs.

We recorded a tax provision of $10.2 million in 2018, as compared to a tax provision of $13.8 million in 2017.

Our effective tax rate for 2020 differed from the Canadian statutory rate of 29.0% primarily due to the mix of income earned in jurisdictions with varying tax rates, $1.3 million benefit from U.K.

patent box deductions, $2.3 million benefit from share-based compensation, $0.7 million reversal of valuation allowance recorded on net operating losses and other timing items in certain tax jurisdictions due to current and forecasted taxable income, $2.0 million of R&D and other tax credits, $1.1 million of estimated deductions for foreign derived intangible income, and $1.5 million benefit from the reduction in fair value of non-deductible

acquisition contingent consideration liabilities, offset by miscellaneous other items such as foreign withholding taxes and impact of changes in statutory tax rates on our deferred tax attributes .

We recorded a tax provision of $5.0 million in 2019, compared to a tax provision of $10.2 million in 2018.

The effective tax rate for 2019 was 10.9% of income before income taxes, compared to an effective tax rate of 16.7% of income before income taxes for 2018.

Our effective tax rate in 2018 differed from the Canadian statutory rate of 29.0% primarily due to the mix of income earned in jurisdictions with varying tax rates, including the benefit of the new 21% U.S.

corporate income tax rate and $1.6 million of estimated deductions for Foreign Derived Intangible Income, a $0.9 million benefit from share-based compensation, a $1.9 million U.K.

patent box deduction and $1.3 million of other tax credits;

offset by $0.8 million of non-deductible expenses recognized under an earn-out agreement in connection with the Zettlex acquisition.

Our effective tax rate for 2019 differed from the Canadian statutory rate of 29.0% primarily due to the mix of income earned in jurisdictions with varying tax rates, a $2.0 million benefit from U.K.

patent box deductions, a $1.7 million benefit from share-based compensation, $1.5 million of other tax credits, and $0.8 million of estimated deductions for foreign derived intangible income;

offset by $0.3 million of non-deductible expenses recognized under earn-out agreements in connection with various acquisitions and $0.2 million of non-deductible acquisition costs.

On March 27, 2020, the U.S.

federal government enacted the CARES Act in response to the COVID-19 pandemic.

The CARES Act is an emergency economic stimulus package which, among other things, contains numerous provisions concerning income taxes.

The CARES Act will not have a material impact on our income taxes or related disclosures.

Liquidity and Capital Resources

We assess our liquidity in terms of our ability to generate cash to fund our operating, investing, and financing activities.

Our primary ongoing cash requirements are funding operations, capital expenditures, investments in businesses, and repayment of our debt and related interest expense.

Our primary ongoing cash requirements are funding operations, capital expenditures, investments in businesses, and repayment of our debt and related interest payments.

Our primary sources of liquidity are cash flows from operations and borrowings under our revolving credit facility.

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Significant factors affecting the management of our ongoing cash requirements are the adequacy of available bank lines of credit and our ability to attract long term capital with satisfactory terms.

The sources of our liquidity are subject to all of the risks of our business and could be adversely affected by, among other factors, a decrease in demand for our products, our ability to integrate current and future acquisitions, deterioration in certain financial ratios, availability of borrowings under our revolving credit facility, and market changes in general.

The sources of our liquidity are subject to all of the risks of our business and could be adversely affected by, among other factors, risks associated with events outside of our control, such as economic consequences of the COVID-19 pandemic, a decrease in demand for our products, our ability to integrate current and future acquisitions, deterioration in certain financial ratios, availability of borrowings under our revolving credit facility, and market changes in general.

See “Risks Relating to Our Common Shares and Our Capital Structure” included in Item 1A of this Annual Report on Form 10-K.

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Generally, our intent is to use cash held in these foreign subsidiaries to fund our local operations or acquisitions by those local subsidiaries and to pay down borrowings under our senior credit facilities.

Approximately $189.6 million of our outstanding borrowings under our Senior Credit Facilities (defined below) were held in our subsidiaries outside of Canada and the United States.

Approximately $185.8 million of our outstanding borrowings under our senior credit facilities were held in our subsidiaries outside of Canada and the United States.

Additionally, we may use intercompany loans to address short-term cash flow needs for various subsidiaries.

Share Repurchase Plans

We are deferring certain U.S.

payroll tax payments in 2020 in accordance with relief provisions under the CARES Act.

As of December 31, 2020, we deferred $2.8 million in certain U.S.

payroll tax payments under the CARES Act.

As permitted under the CARES Act, we expect to pay half of the deferred U.S.

payroll taxes by December 31, 2021 and the remaining half by December 31, 2022.

In addition, with respect to the COVID-19 pandemic impact on liquidity, we have taken actions to reduce costs and cash expenditures across the Company.

These included reducing hiring activities, restricting travel, adjusting employee compensation by eliminating fiscal year 2020 cash bonuses and base salary increases, implementing an unpaid time-off program for substantially all of our non-production workforce, limiting discretionary spending, reducing or deferring spending on capital investment projects, and deferring lease payments on certain facilities.

Share Repurchase P lan s

Our Board of Directors may approve share repurchase plans from time to time.

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We expect that share repurchases will be made under the 2020 Repurchase Plan pursuant to Rule 10b-18 under the Securities Exchange Act of 1934 after the 2018 Repurchase Plan is completed.

In an effort to preserve cash in light of the economic slowdown caused by the COVID-19 pandemic, we have temporarily suspended repurchases under our share repurchase plans since April 2020.

Senior Credit Facilities

In December 2019, we entered into the Third Amended and Restated Credit Agreement, consisting of a $100.0 million U.S.

dollar equivalent euro-denominated (approximately €90.2 million) 5-year term loan facility and a $350.0 million 5-year revolving credit facility.

In December 2019, we entered into the Third Amended and Restated Credit Agreement, originally consisting of a $100.0 million U.S.

dollar equivalent euro-denominated (approximately €90.2 million) 5-year term loan facility and a $350.0 million 5-year revolving credit facility (collectively, the “Senior Credit Facilities”).

The Senior Credit Facilities mature in December 2024.

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We may make payments to pay down our revolving credit facility with cash on hand and cash generated from future operations at anytime until maturity.

As of December 31, 2019, we had a €90.2 million euro-denominated term loan (approximately $101.2 million) and $123.4 million revolver borrowings outstanding under our Senior Credit Facilities.

On March 27, 2020, we entered into the First Amendment to the Third Amended and Restated Credit Agreement and exercised a portion of the uncommitted accordion feature.

The First Amendment increased the revolving credit facility commitment under the Third Amended and Restated Credit Agreement by $145.0 million, from $350.0 million to $495.0 million, and reset the uncommitted accordion feature to $200.0 million for potential future expansion.

On June 2, 2020, we entered into the Second Amendment to the Third Amended and Restated Credit Agreement.

The Second Amendment revised our consolidated leverage ratio definition (as defined in the Third amended and Restated Credit Agreement) allowing for the use of up to $25 million unrestricted cash and cash equivalents as a reduction to consolidated funded indebtedness (as defined in the Third amended and Restated Credit Agreement).

As of December 31, 2020, we had $105.1 (€85.7) million term loan and $99.8 million revolver borrowings outstanding under our Senior Credit Facilities.

The borrowings outstanding under the Senior Credit Facilities bear interest at rates based on (a) the Base Rate, as defined in the Third Amended and Restated Credit Agreement, plus a margin ranging between 0.25% to 1.25% per annum, determined by reference to our consolidated leverage ratio, or (b) the Eurocurrency Rate, as defined in the Third Amended and Restated Credit Agreement, plus a margin ranging between 1.25% and 2.25% per annum, determined by reference to our consolidated leverage ratio.

In addition, we are obligated to pay a commitment fee on the unused portion of the revolving credit facility, ranging between 0.20% and 0.40% per annum, determined by reference to our consolidated leverage ratio.

As of December 31, 2020, we had outstanding borrowings under the Third Amended and Restated Credit Agreement denominated in Euro and U.S.

Dollars of $185.8 million and $19.0 million, respectively.

The Third Amended and Restated Credit Agreement contains various covenants that , we believe , are usual and customary for this type of agreement, including a maximum allowed leverage ratio and a minimum required fixed charge coverage ratio (as defined in the Third Amended and Restated Credit Agreement).

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Cash and cash equivalents totaled $125.1 million at December 31, 2020, versus $78.9 million at December 31, 2019.

The net decrease in cash and cash equivalents is primarily attributable to debt repayments of $50.7 million, current year business acquisitions of $53.1 million, capital expenditures of $10.7 million, and repurchases of common shares of $10.0 million.

These cash outflows were offset by cash provided by operating activities of $63.2 million and borrowings under our revolving credit facility of $66.8 million.

The net increase in cash and cash equivalents is primarily attributable to cash provided by operating activities of $140.2 million offset by $35.4 million debt repayments, $31.0 million of payments of deferred and escrowed purchase price related to prior year acquisitions, $10.5 million capital expenditures, $8.6 million of payroll tax payments upon vesting of share-based compensation awards, and $5.5 million of repurchases of common shares.

The following table summarizes our cash and cash equivalent balances, cash flows and unused borrowing capacity available under our revolving credit facility for the years indicated (in thousands):

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Cash provided by operating activities was $140.2 million in 2020, versus $63.2 million in 2019.

Cash provided by operating activities in 2019 decreased from 2018 primarily due to increases in net working capital in 2019 which decreased cash provided by operating activities by $27.4 million.

Cash provided by operating activities increased from the prior year primarily due to working capital improvements resulting in an increase in cash inflows from reductions in accounts receivable and inventory balances, and a decrease in income tax payments.

Cash provided by operating activities for 2020 was positively impacted by an increase in our inventory turnover ratio from 3.1 at December 31, 2019 to 3.7 at December 31, 2020 and a decrease in accounts receivable, offset by a decrease in our days payables outstanding which decreased from 53 days at December 31, 2019 to 45 days at December 31, 2020.

During 2020, we paid the 2019 annual employee bonuses which had been accrued for as of December 31, 2019.

Cash provided by operating activities for 2019 was negatively impacted by an increase in our days sales outstanding which increased from 51 days at December 31, 2018 to 54 days at December 31, 2019 primarily due to poor sales linearity, a decrease in our outstanding payables and accrued expenses, excluding payables and accrued expenses assumed from acquisitions in 2019, and an increase in inventories.

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The Company’s growth in revenue of $93.0 million and gross profit of $41.0 million increased our outstanding trade receivables and inventories, which negatively impacted our cash provided by operating activities.

Cash provided by operating activities for 2017 was positively impacted by an increase in our outstanding payables and accrued expenses.

Cash provided by operating activities was negatively impacted by an increase in outstanding trade receivables and an increase in inventories, excluding trade receivables and inventories acquired from acquisitions in 2017, and an increase in income tax payments.

Investing Cash Flows

Cash used in investing activities was $63.8 million during 2019, primarily driven by the Ingenia and Med X Change acquisitions and the initial cash purchase price for the ARGES acquisition.

In connection with these acquisitions, we paid $53.1 million cash considerations (net of cash acquired of $4.2 million).

We also paid $10.7 million for capital expenditures during 2019.

Cash used in investing activities was $13.2 million during 2020, primarily driven by capital expenditures of $10.5 million and a payment for intangible assets of $2.6 million related to our 2016 asset acquisition of video signal processing and management technologies.

Cash used in investing activities was $ 63.

8 million during 201 9 , primarily related to $ 53.1 million in cash outflows ( net of cash acquired of $ 4.2 million ) related to 2019 acquisitions .

We also paid $ 10.

7 million for capital expenditures during 2019.

Cash used in investing activities was $45.6 million during 2018, primarily related to $29.6 million in cash outflows (net of cash acquired of $3.8 million) related to acquisitions in 2018 and $14.7 million for capital expenditures.

Cash used in investing activities was $177.4 million during 2017, primarily driven by our acquisitions of WOM, ThingMagic and Laser Quantum.

In connection with these acquisitions, we paid $185.0 million in cash considerations, which is reported in the consolidated statement of cash flows as $168.3 million cash outflows from investing activities (net of cash acquired of $16.7 million and working capital adjustments).

We also paid $9.1 million for capital expenditures during 2017.

We have no material commitments to purchase property, plant and equipment as of December 31, 2020.

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Financing Cash Flows

Cash used in financing activities was $3.9 million during 2019, primarily due to $50.7 million repayment of term loan and revolving credit facility, $6.9 million of payroll tax payments on share-based compensation awards, and $10.0 million of repurchases of common shares, partially offset by $66.8 million of borrowings under our revolving credit facility used to fund cash considerations paid for the Ingenia, Med X Change and ARGES acquisitions.

Cash used in financing activities was $84.4 million during 2020, primarily due to $35.4 million in repayments of borrowings under our Senior Credit Facilities, $31.0 million payments of deferred and escrowed purchase price related to prior year acquisitions, $8.6 million of payroll tax payments upon vesting of share-based compensation awards, $5.5 million of repurchases of common shares, and $1.6 million of fees paid in connection with the First Amendment to our Third Amended and Restated Credit Agreement.

Cash used in financing activities was $3.9 million during 2019, primarily due to $50.7 million repayment of term loan and revolving credit facility borrowings, $6.9 million of payroll tax payments on share-based compensation awards, and $10.0 million of repurchases of common shares, partially offset by $66.8 million of borrowings under our revolving credit facility used to fund cash considerations paid for 2019 acquisitions.

We also paid $2.7 million for debt issuance costs as a result of the Third Amended and Restated Credit Agreement entered into in December 2019.

Cash used in financing activities was $60.2 million during 2018, primarily due to $30.8 million of cash consideration paid for the acquisition of the remaining equity interest in Laser Quantum, $9.2 million of contractual term loan payments, $65.4 million of optional repayments of borrowings under our revolving credit facility, $3.6 million of payroll tax payments on share-based compensation awards, and $5.9 million of repurchases of common shares, partially offset by $55.3 million of borrowings under our revolving credit facility used to fund a portion of the cash consideration paid for the acquisition of Zettlex and the remaining equity interest in Laser Quantum.

Cash provided by financing activities was $143.3 million during 2017, primarily due to $176.8 million of borrowings under our revolving credit facility used to fund a portion of the cash considerations paid for the WOM, ThingMagic and Laser Quantum acquisitions, partially offset by $7.9 million of contractual term loan payments, $19.0 million of optional repayments of borrowings under our revolving credit facility, $2.5 million of contingent consideration payments, $2.1 million of payroll withholding tax payments on share-based compensation awards, $0.4 million of repurchases of our common shares and $0.9 million of principal payments under our finance lease obligations.

We also paid $0.7 million for debt issuance costs as a result of the Third Amendment to the Second Amended and Restated Credit Agreement entered into in August 2017.

Cash used in financing activities was $60.2 million during 2018, primarily due to $30.8 million of cash consideration paid for the acquisition of the remaining equity interest in Laser Quantum Limited (“Laser Quantum”), $9.2 million of contractual term loan payments, $65.4 million of optional repayments of borrowings under our revolving credit facility, $3.6 million of payroll tax payments on share-based compensation awards, and $5.9 million of repurchases of common shares, partially offset by $55.3 million of borrowings under our revolving credit facility used to fund a portion of the cash consideration paid for the acquisition of Zettlex Holdings Limited and the remaining equity interest in Laser Quantum.

In 2021, we are contractually required to pay $5.5 million in repayments under our term loan facility and $0.9 million in principal payments under our finance lease obligations.

In addition, we may pay down our term loan and revolving credit facility from time to time with available cash generated from future operating activities.

We exercised an option in December 2020 to purchase a facility for $9.2 million in Germany and expect to pay the related cash proceeds in March 2021.

In addition, we may make optional repayments under our term loan and revolving credit facility from time to time with available cash generated from future operating activities.

Pension Plans

We maintain a defined benefit pension plan in the U.K.

We maintain a defined benefit pension plan (the “U.K.

Plan”) in Novanta Technologies UK Limited, a wholly owned subsidiary of the Company.

Plan was closed to new members in 1997 and stopped accruing additional pension benefits for existing members in 2003, thereby limiting our obligation to benefits earned through that date.

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Plan with respect to all present and future obligations and liabilities (whether actual or contingent and whether owed jointly or severally and in any capacity whatsoever) under the U.K.

Plan of Novanta Technologies UK Limited, a wholly owned subsidiary of the Company.

Our funding policy is to fund the U.K.

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We have excluded the future cash payments for unrecognized tax benefits of $5.1 million, including interest and penalties, because we are uncertain if and when such amounts may be settled.

These unrecognized tax benefits are further explained in Note 15 to our Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

unrecognized tax benefits are further explained in Note 15 to our Consolidated Financial Statements included in Item 8 of this Annual Report on Form 10-K.

Contractual Obligations

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pension plan (6)

Deferred cash considerations (7)

Contingent considerations and earn-outs (7)

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As of December 31, 2020, a total of $105.1 million term loan and $99.8 million revolving credit facility were outstanding under the Senior Credit Facilities.

The term loan is payable in quarterly installments of approximately €1.1 million ($1.3 million) beginning in March 2020 with the final installment of €68.7 million ($77.1 million) due upon maturity in December 2024.

The term loan is payable in quarterly installments of approximately €1.1 million ($1.4 million) with the final installment of €68.7 million ($84.3 million) due upon maturity in December 2024.

Borrowings under the revolving credit facility are due at maturity in December 2024.

For the purpose of this calculation, current interest rates on floating rate obligations (LIBOR plus applicable margin, as defined in the Third Amended and Restated Credit Agreement) were used for the remainder contractual life of both the term loan and outstanding borrowings under the revolving credit facility.

For the purpose of this presentation, current interest rates on floating rate obligations (LIBOR plus applicable margin, as defined in the Third Amended and Restated Credit Agreement) were used for the remainder contractual life of both the term loan and outstanding borrowings under the revolving credit facility.

Current commitment fee rate was used for the unused commitments under the revolving credit facility as of December 31, 2020.

Future minimum lease payments under finance leases include the exercise price of an option to purchase a facility for $9.2 million in Germany in 2021.

The Company exercised the option in December 2020 and expects to pay the related cash proceeds in March 2021.

These amounts primarily represent the gross amounts due for leased facilities.

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Purchase commitments represent purchase obligations as of December 31, 2020.

Amounts shown represent funding obligations equivalent to $1.0 million per year, increasing 2.9% through 2021, based on annual funding contributions in effect as of December 31, 2019 to achieve fully funded status where the market value of plan assets equals the projected benefit obligations.

Future funding requirements will be subject to change as a result of future changes in various actuarial assumptions and actual investment returns on plan assets.

These amounts represent the deferred cash considerations for acquisitions in 2018 and 2019 that are expected to be paid in 2020.

Amounts shown represent expected funding contributions to reach an actuarial funded status where the market value of plan assets equals the projected benefit obligations as reported on the Company’s consolidated balance sheet as of December 31, 2020.

The Company expects to continue its annual funding contributions thereafter, increasing 2.9% annually through 2022, until the value of plan assets is sufficient to settle the benefit obligations under the U.K.

Plan in full.

These amounts represent the estimated contingent consideration and earn-out payments accrued in the consolidated balance sheet as of December 31, 2020 that are expected to be paid between 2021 and 2027.

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Beginning January 1, 2018, we adopted Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers” (“ASU 2014-09” or “Topic 606”) using the modified retrospective method.

Under Topic 606, an entity recognizes revenue when its customer obtains control of promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services.

Revenue recognition for arrangements within the scope of Topic 606 includes the following five steps:

(i) identifying the contract(s) with a customer;

(ii) identifying the performance obligations in the contract;

(iii) determining the transaction price;

(iv) allocating the transaction price to the performance obligations in the contract;

and (v) recognizing revenue when (or as) a performance obligation is satisfied.

Under Topic 606, an entity

recognizes revenue when its customer obtains control of promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services.

R evenue recognition for arrangements within the scope of Topic 606 includes the following five steps:

( i ) identify ing the contract(s) with a customer;

(ii) identify ing the performance obligations in the contract;

(iii) determin ing the transaction price;

(iv) allocat ing the transaction price to the performance obligations in the contract;

and (v) recogniz ing revenue when (or as) a performance obligation is satisfied .

We recognize revenue when control of promised goods or services is transferred to customers.

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Inventories, which include materials and conversion costs, are stated at the lower of cost or net realizable value, using the first-in, first-out method.

Cost includes the cost of purchased materials, inbound freight charges, external and internal processing and applicable labor and overhead costs.

Cost includes the cost of purchased materials, inbound freight charges, customs duties and trade tariffs on imported materials and components, external and internal processing and applicable labor and overhead costs.

Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation.

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When the estimated achievement levels are adjusted at a later date, a cumulative adjustment to the share-based compensation expense previously recognized would be required.

Accordingly, share-based compensation expense associated with EPS-PSUs may differ significantly from period to period based on changes to both the

probability and the level of achievement against performance targets.

Accordingly, share-based compensation expense associated with EPS-PSUs may differ significantly from period to period based on changes to both the probability and the level of achievement against performance targets.

For TSR-PSUs, we recognize the related compensation expense based on the fair value of the TSR-PSUs, which is determined using the Monte-Carlo simulation valuation model as of the date of grant.

The expense related to TSR-PSUs is recognized on a straight-line basis from the grant date to the end of the performance period, which is generally three years , regardless of whether the target relative total stockholder return is achieved .

The Monte Carlo simulation model utilizes multiple input variables that determine the probability of satisfying the performance conditions stipulated in the grant agreement in a large number of simulated scenarios.

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We evaluate amortizable intangible assets and other long-lived assets for impairment in accordance with ASC 360-10-35-15, “Impairment or Disposal of Long-Lived Assets,” whenever changes in events or circumstances indicate that the carrying values of the reporting units may exceed the undiscounted cash flow forecasts attributable to the reporting units.

If undiscounted cash flow forecasts indicate that the carrying value of definite-lived intangible assets or other long-lived assets may not be recoverable, a fair value assessment is performed.

If undiscounted cash flow forecasts indicate that the carrying value of definite-lived intangible asset s or other long-lived asset s may not be recoverable, a fair value assessment is performed.

For intangible assets, fair value estimates are derived from discounted cash flow forecasts.

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If fair value is less than carrying value, an impairment charge equal to the difference is recorded.

We also review the useful life and residual

value assumptions for definite-lived intangible assets and other long-lived assets on a periodic basis to determine if changes in circumstances warrant revisions to them.

We also review the useful life and residual value assumptions for definite-lived intangible assets and other long-lived assets on a periodic basis to determine if changes in circumstances warrant revisions to them.

Factors which may trigger an impairment of our goodwill, intangible assets and other long-lived assets include the following:

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The occurrence of any of these events or any other unforeseeable events or circumstances that materially affect future operating results or cash flows may cause an impairment that is material to our results of operations or financial position in the reporting period in which it occurs or is identified.

The most recent annual goodwill and indefinite-lived intangible asset impairment test was performed as of the beginning of the second quarter of 2019, using a qualitative assessment, noting no impairment.

The most recent annual goodwill and indefinite-lived intangible asset impairment test was performed as of the beginning of the second quarter of 2020, using a quantitative assessment, noting no impairment.

As of December 31, 2020, there were no indicators of impairment of our long-lived assets.

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Unallocated Corporate and Shared Services

Contingent Consideration.

We record contingent consideration resulting from a business combination at its fair value on the acquisition date.

Key assumptions used in the determination of the fair value of the contingent consideration include the following:

future revenue projections;

volatility of future revenue;

discount rates used to present value the projected cash flows.

On a quarterly basis, we revalue these assumptions and record the necessary adjustments to fair value in the consolidated statement of operations.

Changes to contingent consideration obligation can result from adjustments to future revenue projections, volatility of future revenue and discount rates.

The assumptions used for the determin ation of the fair value of contingent consideration s include a significant amount of judgment, and changes in the underlying estimates could have a material impact on the amount of contingent consideration expense recorded in any given period.

Accounting for Income Taxes .

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In the ordinary course of a global business, there are many transactions and calculations where the ultimate outcome is uncertain.

Although we believe our estimates are reasonable, no assurance can be given that the final outcome of these matters will not be different from that which is reflected in our historical income tax provisions and accruals.

Although we believe our estimates are reasonable, there is no assurance that the final outcome of these matters will not be different from that which is reflected in our historical income tax provisions and accruals.

Such differences could have a material impact on our income tax provision and net income in the period in which such determination is made.

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In conjunction with our ongoing review of our actual results and anticipated future earnings, we continuously reassess the adequacy of the valuation allowance currently in place on our deferred tax assets.

In 2019 , we utilized valuation allowance of $ 0.5 million recorded on net operating losses and other timing items in certain tax jurisdictions due to taxable income generated in the current year .

In 2020, we reversed valuation allowance of $0.7 million recorded on net operating losses and other timing items in certain tax jurisdictions due to current and forecasted taxable income.

The amount of income taxes we pay is subject to audits by federal, state and foreign tax authorities, which may result in proposed assessments.

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As of December 31, 2020, the total amount of gross unrecognized tax benefits was $5.3 million, of which $5.0 million would favorably affect our effective tax rate, if recognized.

Over the next twelve months, we may need to record up to $0.5 million of previously unrecognized tax benefits in the event of statute of limitations closures.

Over the next twelve months, we may need to recognize up to $0.5 million of previously unrecognized tax benefits in the event of statute of limitations closures.

Income and foreign withholding taxes have not been recognized on the excess of the amount for financial reporting purposes over the tax basis of investments in foreign subsidiaries that are essentially permanent in nature.

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The amount of undistributed earnings of foreign subsidiaries totaled $220.4 million as of December 31, 2020.

The estimated unrecognized income and foreign withholding tax liability on this temporary difference is approximately $0.2 million.

The estimated unrecognized income and foreign withholding tax liabilities on this temporary difference is approximately $3.9 million.

Loss Contingencies.

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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-K

Item 7. Management’s Discussion and Analysis