What changed in this filing

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Item 7. Management’s Discussion and Analysis

2020-09-03 compared with 2019-09-05 · 132 added, 140 removed, 136 unchanged (67% of the section changed)

3 unchanged sentences

Executive Overview

Historically, a significant portion of our total net sales are to domestic automotive OEMs (General Motors, Ford and Fiat Chrysler).

Historically, a significant portion of our total net sales have been to domestic automotive OEMs (General Motors, Ford and Fiat Chrysler).

During the past two decades these customers lost North American market share to the New Domestic automotive manufacturers (primarily the Japanese and Korean automotive manufacturers).

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During fiscal years 2020 and 2019, we experienced stronger sales demand for our components from our major North American customers noted above as it relates to light trucks and both sport utility and car based utility vehicles in comparison to passenger cars, which was likely influenced by lower gas prices and customer preferences.

If gas prices continue to remain flat or slightly higher over the next year, we anticipate this consumer buying trend will continue, which is approximately 70 percent light trucks and sport utility vehicles in comparison to 30 percent passenger car vehicle purchases today.

If gas prices continue to remain flat or slightly higher over the next several years, we anticipate this consumer buying trend will continue, which is approximately 70 percent light trucks and sport utility vehicles in comparison to 30 percent passenger car vehicle purchases today.

During the last 3-5 years our major customers General Motors, Ford and Fiat Chrysler eliminated passenger car production on several models in North America in anticipation to improve their overall profitability going forward.

Fiscal 2020 net sales were $385 million compared to $487 million in 2019.

Net loss attributable to STRATTEC for fiscal 2019 was $17.0 million (which includes non-cash pension settlement and compensation expense charges of approximately $28.0, net of tax) compared to net income of $12.3 million in 2018.

The financial health of our three largest customers continues to be stable.

General Motors, Ford and Fiat Chrysler continued to report profitable results after implementing significant restructuring plans that modified their cost structures by closing manufacturing facilities, reducing benefits and wages and eliminating certain models and brands in 2009 and 2010.

With the new United Auto Workers contracts signed in the United States during November 2015, our major customers planned to move passenger car production from the United States into Mexico over the next 3-5 years to improve their overall profitability on these vehicles.

Fiat Chrysler, Ford, and General Motor’s plans have changed subsequent to the above contract date and all three have started eliminating passenger car production on certain models in North America entirely.

In spite of such recent developments, STRATTEC and our joint venture partner ADAC Automotive just completed a new production facility in Leon, Mexico to capture these new opportunities as well as other OEM’s as it relates to painted door handles and assemblies in the expanding Mexican market.

As we look out into the future, the July 2019 projections from our third-party forecasting service indicate that North American light vehicle production will show steady to flat production for the next five years.

By model year, based on these projections we are expecting a 2019 build of 16.7 million vehicles, 16.6 million vehicles for 2020, 16.3 million vehicles for 2021, 16.6 million vehicles for 2022 and 16.9 million vehicles for 2023.

As part of this third party projection, the Ford Motor Company and Fiat Chrysler are expected to experience flat to slightly reduced vehicle production volumes in their production levels during this time period.

General Motors, however, is expected to slightly decrease production as they eliminate or reduce passenger car production on certain models during this time horizon.

Of course, all of these forecasts are subject to variability based on what happens in the overall North American and global economies, especially as it relates to potential tariff enactment by the United States Government or other foreign countries, the current levels of employment, availability of consumer credit, home equity values, fluctuating fuel prices, changes in customer vehicle and option preferences, product quality issues, including related to recall and product warranty coverage issues, and other key factors that we believe could determine whether consumers can or will purchase new vehicles or particular brands.

As described in "Retirement Plans and Postretirement Costs" in the Notes to Financial Statements under Item 8 in this Form 10-K, our Board of Directors has approved proceeding with the termination of the STRATTEC qualified, noncontributory defined benefit pension plan.

During our fiscal quarter ending December 30, 2018, we completed a substantial portion of the termination by (1) making distributions from the qualified pension plan trust to participants electing lump sum distributions and (2) entering into an agreement with an insurance company whereby we sold, through a series of annuity contracts, our remaining obligations under the qualified pension plan and, therefore, settled the remaining obligations under this plan with use of funds remaining in the plan.

The reduced sales in fiscal year 2020 was attributed to the General Motors labor strike with the United Auto Workers in September and October 2019 which reduced net sales to General Motors by approximately $10 million and as a result of the COVID-19 pandemic.

During March, April and May 2020, the North American OEM assembly plant operations were shut down for the COVID-19 pandemic reducing our net sales to our customers by approximately $78 million during that period.

Net loss attributable to STRATTEC for fiscal 2020 was $7.6 million primarily attributed to the lost net sales previously described above.

In response to the COVID -19 pandemic, the Company implemented temporary layoffs of production workers in our Milwaukee, WI and Mexico plant operations, reduced the US Salaried workforce by ten percent, reduced salaried working hours by ten percent, allowed remote working from home, significantly reduced nonessential operating costs, delayed capital expenditures and temporarily suspended the quarterly cash dividend to preserve cash flow during the fourth quarter of fiscal year 2020.

In addition, during the fourth quarter the Company produced additional finished goods inventory in anticipation of our OEM customers pipeline fill to their dealers once vehicle production began starting up in June, 2020.

Also, the Mexican Government has continued to limit our operating capacity to restart production since June 2020 due to COVID -19.

Net Loss attributable to STRATTEC in fiscal 2019 was $17.0 million (which included non-cash pension settlement and compensation expense charges of approximately $28.0, net of tax relating to termination our defined pension benefit plan which is described in more detail below).

As described in "Retirement Plans and Postretirement Costs" in the Notes to Financial Statements under Item 8 in this Form 10-K, our Board of Directors approved the termination of the STRATTEC qualified, noncontributory defined benefit pension plan.

During our fiscal 2019, we completed a substantial portion of the termination by (1) making distributions from the qualified pension plan trust to participants electing lump sum distributions and (2) entering into an agreement with an insurance company whereby we sold, through a series of annuity contracts, our remaining obligations under the qualified pension plan and, therefore, settled the remaining obligations under this plan with use of funds remaining in the plan.

No additional cash contributions to the pension trust were required from STRATTEC to settle these pension obligations.

In connection with those actions, we incurred a pre-tax settlement charge of $31.9 million during fiscal 2019.

We also incurred a $4.2 million non-cash compensation charge during fiscal 2019 related to the future transfer of the remaining excess pension plan assets to a STRATTEC defined contribution plan for subsequent pay-out to eligible participating STRATTEC employees.

We expect to incur an additional $4.3 million in non-cash compensation charges during the first six months of our fiscal 2020 related to this future transfer and pay-out of the excess pension plan assets.

We also incurred a $4.2 million noncash compensation charge during fiscal 2019 related to the future transfer of the remaining excess pension plan assets to a STRATTEC defined contribution plan for subsequent pay-out to eligible participating STRATTEC employees based on a plan approved by the Board of Directors in June 2019.

An additional $4.8 million non-cash compensation expense charge related to the final transfer and pay-out of the excess Qualified Pension Plan assets was recorded during fiscal 2020.

With these final actions, we completed the full termination of the qualified pension plan during fiscal 2020 and removed significant financial risk associated with the pension liability from the Company’s overall financial position going forward.

As we look out into the future, the July 2020 projections from our third-party forecasting service indicate that North American light vehicle production will show a significant decline in the 2020 vehicle production build due to the COVID-19 pandemic and then increase and remain steady to flat production for the next four years.

By model year, based on these projections we are expecting a 2020 build of 12.8 million vehicles, 15.1 million vehicles for 2021, 15.1 million vehicles for 2022, 15.5 million vehicles for 2023 and 15.8 million vehicles for 2024.

These vehicle production estimates going forward were significantly reduced due to the impact of COVID-19.

As part of this third party projection, the Ford Motor Company and General Motors are expected to experience flat vehicle production volumes in their production levels during this time period.

Fiat Chrysler, however, is expected to slightly decrease production as they eliminate or reduce car production on certain models during this time horizon.

Of course, all of these forecasts are subject to variability based on what happens in the overall North American and global economies, especially as it relates to the world wide status of the COVID-19 pandemic that may shut down our customers assembly facilities and supply chains in the foreseeable future, potential tariff enactment by the United States Government or other foreign countries, the current levels of employment, availability of consumer credit, home equity values, fluctuating fuel prices, changes in customer vehicle and option preferences, product quality issues, including related to recall and product warranty coverage issues, and other key factors that we believe could determine whether consumers can or will purchase new vehicles or particular brands.

Focus and Strategy Going Forward

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Leverage the “VAST Automotive Group Brand” with customer relationships to generate organic growth from global programs

Offer our customers innovative products and technologies along with cost savings solutions to meet their changing demands

Offer our customers innovative products and technologies, in particular electronics capabilities, along with cost savings solutions to meet their changing demands

Explore and execute targeted mergers and acquisitions or other joint venture opportunities with a disciplined due diligence approach and critical financial analysis to drive shareholder value

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June 28, 2020

June 30, 2019

Net Sales (millions of dollars)

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June 28, 2020

Fiat Chrysler Automobiles

June 30, 2019

General Motors Company

Fiat Chrysler Automobiles

Ford Motor Company

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Hyundai / Kia

Sales to Fiat Chrysler Automobiles in the current year increased over the prior year due to higher product content on the components we supply on certain vehicles, in particular the Ram pickup truck, which impact was partially offset by lower vehicle production volumes on the FCA minivan component we supply.

The increase in sales to General Motors Company in the current year compared to the prior year was attributed to higher vehicle production volumes and content on models for which we supply components, in particular power access products and latches.

Decreased sales to Ford Motor Company in the current year as compared to the prior year was due to a combination of discontinued models and lower production volumes on the vehicles for which we supply components.

Sales to Tier 1 Customers increased in the current year as compared to the prior year due to due to higher production volumes of our door handle and component products.

Sales to Commercial and Other OEM Customers during the current year increased in comparison to the prior year due to due to new door handle customer programs at Honda of America Manufacturing, Inc.

and Volkswagen as well as higher sales volumes related to our Aftermarket business.

These Commercial and Other OEM Customers, along with our Tier 1 Customers, represent purchasers of vehicle access control products, such as latches, fobs, driver controls and door handles that we have developed in recent years to complement our historic core business of locks and keys.

The increased sales to Hyundai / Kia in the current year as compared to the prior year were due to higher levels of production on vehicles for which we supply components, in particular the Kia Sedona minivan for which we supply primarily power sliding door components.

Sales to each of our customers or customer groups decreased in the current year as compared to the prior year.

As discussed in our prior filings with the Securities and Exchange Commission, we were impacted in fiscal 2020 by the General Motors UAW strike, which reduced our net sales by approximately $10 million in the current year.

Additionally, during the period late March 2020 through mid-June 2020, our OEM customers reduced production schedules and closed their assembly plants due to COVID-19.

The impact of these plant closures and resulting production schedule reductions reduced our net sales in the current year by approximately $78 million.

June 28, 2020

June 30, 2019

Cost of Goods Sold (millions of dollars)

Direct material costs are the most significant component of our cost of goods sold and comprised $218.1 million or 62.3 percent of cost of goods sold in the current year compared to $280.5 million or 65.4 percent of cost of goods sold in the prior year.

This dollar value increase in our direct material costs of $35.0 million or 14.3 percent was due to increased sales volumes in the current year as compared to the prior year.

The increase in our direct material costs as a percentage of our cost of goods sold in the current year as compared to the prior year was due to increased nonconforming costs resulting from internal manufacturing process quality issues incurred in the current year period as compared to the prior year period and an increase in sales of products for certain electrical and latch programs in the current year period over the prior year period, for which the direct material content represents a more significant portion of the total cost of the product.

The remaining components of cost of goods sold consist of labor and overhead costs which increased $9.4 m illion or 6.7 percent to $148.7 million in the current year from $139.3 million in the prior year as the variable portion of these costs increased due to the increase in sales volumes between years.

Additionally, the increase in labor and overhead costs in the current year as compared to the prior year was impacted by a $2.5 million non-cash compensation expense charge related to the future transfer of excess Qualified Pension Plan assets , resulting from the termination of the Qualified Pension Plan, to a STRATTEC defined contribution plan for subsequent pay-out to eligible STRATTEC employees , an increase in the Mexican minimum wage for our Mexican workforce effective January 1, 2019 , which increased costs approximately $2.2 million in the current year as compared to the prior year , and higher than expected production costs at our door handle paint and ass embly facility in Leon, Mexico.

These cost increases were partially offset by a $1.0 million reduction in bonus expense provisions between years and the impact of a favorable Mexican peso to U.S.

This dollar value decrease in our direct material costs of $62.4 million or 22.2 percent was due to decreased sales volumes in the current year as compared to the prior year and reduced scrap costs resulting from efforts to reduce nonconforming costs resulting from internal manufacturing process quality issues.

The decrease in our direct material costs as a percentage of our cost of goods sold in the current year as compared to the prior year was due to reduced scrap costs and a reduction in sales of our power access products as a percentage of our consolidated sales.

Power access products have a higher purchased content percentage as compared to our other products.

Thus, the decreased sales mix of power access products between periods further reduced our direct material costs as a percentage of our cost of goods sold.

The remaining components of cost of goods sold consist of labor and ove rhead costs which de creased $16.9 million or 11.4 percent to $131.8 million in the current year from $148.7 million in the prior year as the va riable portion of these costs decreased due to the reduction in sales volumes between years.

Additionally, the de crease in labor and overhead costs in the current year as compared to t he prior year was impacted by cost reduction initiatives implemented during our fiscal 2020 fourth quarter as a result of COVID-19 and the impact of a favorable Mexican peso to U.S.

dollar exchange rate affecting our operations in Mexico.

The fiscal 2018 bonus expense provisions include the accrual of a discretionary bonus approved by our Board of Directors as well as the accrual of bonuses under our incentive bonus plans with respect to fiscal 2018 financial results .

There was no similar discretionary or incentive bonus related to fiscal 2019.

dollar value of our Mexican operations was favorably impacted by approximately $2.1 mil lion in the current year as co mpared to the prior year due to a favorable Mexican peso to U.S.

dol lar exchange rate between year s .

Cost reduction initiatives included temporary and permanent layoffs at our U.S.

and Mexico locations, reductions in pay for our officers, reductions in working hours for most salaried associates, and a reduction in our U.S.

salaried workforce.

dollar value of our Mexican operations was favorably impacte d by approximately $2.4 million in the current year as co mpared to the prior year due to a favorable Mexican peso to U.S.

dollar exchang e rate between these annual periods .

The average U.S.

dollar / Mexican peso exchange rate increased to approximately 19.34 pesos to the d ollar in the current year from approximately 18.75 pesos to the dollar in the prior year .

dollar / Mexican peso exchange rate increased to app roximately 20.50 pesos to the do llar in the current year from approximately 19.34 pesos to the dollar in the prior year .

These favorable impacts were partially offset by an increase in the Mexican minimum wage for our Mexican workforce, which was effective January 1, 2019 and resulted in higher costs during the six month period ended December 2019 as compared to the prior year period.

Additionally, labor and overhead costs in both the current year and prior year periods included non-cash compensation expense charges related to the transfer of excess Qualified Pension Plan assets, as discussed above.

These non-cash compensation expense charges increased labor and overhead costs by $3.0 million in the current year and $2.5 million in the prior year.

June 28, 2020

June 30, 2019

Gross Profit (millions of dollars)

Gross Profit as a percentage of net sales

The increase in gross profit dollars in the current year as compared to the prior year was attributed to the increase in sales, partially offset by the increase in cost of goods sold as discussed above.

Gross profit as a percentage of net sales decreased between years.

The current year gross profit as a percentage of net sales was negatively impacted by a non-cash compensation expense charge related to the future transfer of excess Qualified Pension Plan assets described above, an increase in the Mexican minimum wage, and higher than expected production costs at our door handle paint and assembly facility in Leon, Mexico, as well as lower gross profit margins on products associated with certain new electrical, latch and lockset programs, which were implemented during the current year.

The lower gross margins associated with these programs is the result of competitive pricing.

These unfavorable impacts were partially offset by the impact of a reduction in bonus expense provisions and a favorable Mexican peso to U.S.

dollar exchange rate impacting the U.S.

dollar value of our Mexican operations, as discussed above.

The decrease in gross profit dollars in the current year as compared to the prior year was attributed to the decrease in sales, partially offset by the decrease in cost of goods sold as discussed above.

Gross profit as a percentage of net sales decreased between years due to the reduction in sales as discussed above, which resulted in under absorption of our fixed costs.

Engineering, Selling and Administrative Expenses in the current year and prior year were as follows:

June 28, 2020

June 30, 2019

Expenses (millions of dollars)

Expenses as a percentage of net sales

Engineering, selling and administrative expenses increased $6.0 million between years.

The current year as compared to the prior year included a $1.7 million non-cash compensation expense charge related to the future transfer of excess Qualified Pension Plan assets, resulting from the termination of the Qualified Pension Plan, to a STRATTEC defined contribution plan for subsequent pay-out to eligible STRATTEC employees.

Additionally, an increase in outside expenditures on new product development costs associated with utilizing third party vendors for a portion of our development work and an increase in engineering costs related to our ADAC-STRATTEC LLC door handle and exterior trim products both increased expenses between years.

This increase was partially offset by a $400,000 reduction in bonus expense provisions between years.

There was no similar discretionary or incentive bonus related to fiscal 2019.

Income from operations in the current year was $10.6 million compared to $13.3 million in the prior year.

This decrease was the result of increased engineering, selling and administrative expenses partially offset by increased gross profit margins in the current year as compared to the prior year, all as discussed above.

The equity earnings of joint ventures was comprised of the following in the current year and prior year (thousands of dollars):

Engineering, selling and administrative expenses decreased $3.1 million between years.

Due to the impacts of COVID-19, during our fiscal 2020 fourth quarter, we implemented reductions in pay for our officers, reductions in working hours for most salaried associates, and a reduction in our U.S.

salaried workforce, which reduced our 2020 engineering, selling, and administrative costs.

These costs were further reduced by a reduction in expenditures for new product development costs associated with utilizing third party vendors for a portion of our development work.

Additionally, Engineering, selling and administrative expenses in both the current year and prior year periods included non-cash compensation expense charges related to the transfer of excess Qualified Pension Plan assets, as discussed above.

These non-cash compensation expense charges increased engineering, selling and administrative expense by $1.9 million in the current year and $1.7 million in the prior year.

Loss from operations in the current year was $8.7 million compared to income from operations of $10.6 million in the prior year.

This change was the result of reduced sales, which were partially offset by a reduction in cost of goods sold and decreased engineering, selling and administrative expenses in the current year as compared to the prior year, all as discussed above.

The equity (loss) earnings of joint ventures was comprised of the following in the current year and prior year (thousands of dollars):

June 28, 2020

June 30, 2019

Vehicle Access Systems Technology LLC

STRATTEC Advanced Logic, LLC ("SAL LLC")

Our Vehicle Access Systems Technology LLC (“VAST LLC”) joint ventures in China and India continue to report profitable operating results while our joint venture in Brazil continues to report losses due to our limited amount of business in that region.

The reduction in equity earnings of VAST LLC in the current year as compared to the prior year related to significantly lower sales volumes and, as a result, lower profitability in our VAST China operation as well as startup costs related to our new production facility being built in Jingzhou, China.

We continue to invest in the growing China market with higher development costs for new programs and breaking ground for the new plant in Jingzhou, which we believe will give VAST added capacity, efficiencies and the advantage of a broader geographic footprint.

STRATTEC is not the primary beneficiary and does not control SAL LLC.

Accordingly, our investment in SAL LLC is accounted for using the equity method.

Even though we maintain a 51 percent ownership interest in SAL LLC, effective with our fiscal 2015 fourth quarter, 100 percent of the funding for SAL LLC was being made through loans from STRATTEC to SAL LLC.

Therefore, STRATTEC began recognizing 100 percent of the losses of SAL LLC up to our committed financial support.

The business of SAL LLC has been wound down to sell only commercial biometric locks.

Included in other (expense) income, net in the current year and prior year were the following items (thousands of dollars):

Lower profitability from our Vehicle Access Systems Technology LL C (“VAST LLC”) joint ventures was due to lower profitability in our VAST China operation related to extended OEM customer plant shutdowns associated with the COVID-19 outbreak during the period January 2020 through March 2020 and higher development costs for new programs and startup costs associated with a new plant in Jingzhou, China, which we believe will give VAST added capacity, efficiencies, and a broader geographic footprint in the China market going forward.

The current year equity loss of joint ventures for VAST LLC also included a $2 million impairment charge related to its Minda-VAST Access Systems joint venture in India.

STRATTEC’s portion of this impairment charge for 2020 totaled $667,000.

Our VAST LLC joint ventures in India and Brazil continue to report losses due to our limited amount of business in both region s as well as the impact of COVID -19.

SAL LLC was dissolved during fiscal 2020.

STRATTEC was not the primary beneficiary and did not control SAL LLC.

Current year equ ity earnings of SAL LLC included a gain on dissolution of $342,000.

Included in other income (expense), net in the current year and prior year were the following items (thousands of dollars):

June 28, 2020

Foreign Currency Transaction (Loss) Gain

Unrealized Gain (Loss) on Mexican

Peso Forward Contracts

Realized Gain on Mexican Peso Forward Contracts

Pension and Postretirement Plans (Cost) Credit

Rabbi Trust gain

June 30, 2019

Foreign currency transaction gain (loss)

Rabbi Trust (loss) gain

Unrealized (loss) gain on Mexican peso forward contracts

Realized (loss) gain on Mexican peso forward contracts

Pension and postretirement plans cost

Other miscellaneous income, net

Foreign currency transaction gains and losses resulted from activity associated with foreign denominated assets held by our Mexican subsidiaries.

We entered into the Mexican peso currency forward contracts during fiscal 2019 and 2018 to minimize earnings volatility resulting from changes in exchange rates affecting the U.S.

dollar cost of our Mexican operations.

Pension and postretirement plan impacts include the components of net periodic benefit cost other than the service cost component.

The Rabbi Trust assets fund our amended and restated supplemental executive retirement plan.

The investments held in the Trust are considered trading securities.

Our income tax provision for 2018 was impacted by the Tax Cuts and Jobs Act of 2017 (“the Act”), which was signed into law on December 22, 2017 with an effective date of January 1, 2018.

The Act makes broad and complex changes to the U.S.

tax code that affected our fiscal year ending July 1, 2018, including but not limited to (1) a reduction in the U.S.

statutory tax rate to 21 percent following its effective date and a change in the measurement of our deferred tax assets and deferred tax liabilities resulting from the reduction in the statutory rate, (2) requiring a one-time transition tax on certain deemed repatriated earnings of foreign subsidiaries that is payable over eight years, and (3) bonus depreciation that will allow for full expensing of qualified property.

Section 15 of the Internal Revenue Code stipulates that for our fiscal year ending July 1, 2018, a blended statutory corporate tax rate of 28% was applicable, which is based on the applicable statutory tax rates before and after the Act and the number of days in our fiscal year.

The SEC staff issued SAB 118, which provides guidance on accounting for the tax effects of the Act.

SAB 118 provides a measurement period that should not extend beyond one year from the Act’s enactment date for companies to complete the accounting under ASC 740.

In accordance with SAB 118, a company must reflect the income tax effects of those aspects of the Act for which the accounting under ASC 740 is complete.

To the extent that a company’s accounting for certain income tax effects of the Act is incomplete but it is still able to determine a reasonable estimate of the tax effect, it must record a provisional estimate in the financial statements.

If a company cannot determine a provisional estimate to be included in the financial statements, it should continue to apply ASC 740 on the basis of the provision of the tax laws that were in effect immediately before the enactment of the Act.

In connection with our analysis of the impact of the Act, we recorded a discrete net tax benefit of approximately $3 million during 2018.

This net tax benefit primarily consisted of (1) the impact of the change in measurement of our deferred tax assets and liabilities, which resulted in a favorable provision impact of $1.6 million, (2) the one-time transition tax on non-previously taxed post-1986 accumulated foreign earnings, which resulted in a net favorable impact of $500,000 and included a transition tax of $1.4 million offset by the reversal of net deferred tax liability balances totaling $1.9 million, which related to basis differences in foreign earnings, and (3) the impact of changing our annualized effective tax rate, which resulted in a favorable provision impact of $900,000.

For various reasons that are discussed more fully below, we did not complete our accounting for the income tax effects for certain elements of the Act as of December 31, 2017.

However, we were able to make reasonable estimates of certain effects and, therefore, we recorded provisional adjustments of these elements in the accompanying consolidated financial statements.

We identified these items as provisional since our analysis of the items was not complete.

The Act reduced the corporate tax rate to 21 percent, effective January 1, 2018.

For certain of our net deferred tax assets, we have recorded a provisional adjustment to reflect the reduction in the corporate tax rate.

While we are able to make a reasonable estimate of the impact of the reduction in the corporate rate, it may be affected by other analyses related to the Act, including, but not limited to, the impact of our calculation of deemed repatriation of deferred foreign income and the impact of full expensing for certain assets.

The Deemed Repatriation Transition Tax (“Transition Tax”) is a tax on previously untaxed accumulated and current earnings and profits (E&P) of certain of our foreign subsidiaries.

To determine the amount of the Transition Tax, we must determine, in addition to other factors, the amount of post-1986 E&P of the relevant subsidiaries, as well as the amount of non-U.S.

income taxes paid on such earnings.

We were able to make a reasonable estimate of the Transition Tax and recorded a provisional Transition Tax obligation in these consolidated financial statements.

However, as of December 31, 2017, additional information needed to be gathered to more precisely compute the amount of the Transition Tax.

We were required to assess whether our valuation allowance analyses was affected by various aspects of the Act (e.g., deemed repatriation of deferred foreign income, Global Intangible Low-Taxed Income (“GILTI”) inclusions, and new categories of Foreign Tax Credits).

Since, as discussed herein, we have recorded provisional amounts related to certain portions of the Act, any corresponding determination of the need for, or any change in, a valuation allowance was also provisional.

As of December 30, 2018, we had completed our accounting for all income tax elements of the Act.

Measurement period adjustments related to the Act recorded in 2019 totaled $372,000.

Our income tax provision for 2019 was impacted by a $7.9 million tax benefit resulting from the termination of our qualified, noncontributory defined benefit pension plan as discussed under Retirement Plans and Postretirement Costs below in the Notes to Financial Statements under Item 8 in this Form 10-K and a reduction in the expected effective tax rate as compared to 2018.

Our income tax provision for 2019 was also impacted by a discrete benefit of $372,000, which represents measurement period adjustments to the one-time transition tax on non-previously taxed post-1986 accumulated foreign earnings.

Additionally, our income tax provisions for 2019 and 2018 were affected by the non-controlling interest portion of our pre-tax income.

The non-controlling interest impacts the effective tax rate as ADAC-STRATTEC LLC and STRATTEC POWER ACCESS LLC entities are taxed as partnerships for U.S.

We entered into the Mexican peso currency forward contracts during fiscal 2020 and 2019 to minimize earnings volatility resulting from changes in exchange rates affecting the U.S.

dollar cost of our Mexican operations.

Unrealized gains and losses on the peso forward contracts recognized as a result of mark-to-market adjustments as of June 28, 2020 may or may not be realized in future periods, depending on actual Mexican peso to U.S.

dollar exchange rates experienced during the balance of the contract period.

Pension and postretirement plan costs include the components of net periodic benefit cost other than the service cost component.

During fiscal 2020, other miscellaneous income net includes $450,000 of favorable valued added tax adjustments realized by our Mexican entities and $434,000 of experience gains from asset returns related to the termination of our Qualified Pension Plan as discussed under Retirement Plans and Postretirement Costs within our Notes to Financial Statements under Item 8 of this report on Form 10-K.

Our effective income tax rate for 2020 was 27.9 percent compared to 37.9 percent in 2019.

During 2020, our effective tax rate was impacted by the carry-back of losses to tax years with a higher statutory tax rate.

During 2019, our effective tax rate was impacted by a $372,000 benefit resulting from measurement period adjustments to the one-time transition tax on non-previously taxed post 1986 accumulated foreign earnings occurring as a result of the enactment of the Tax Cuts and Jobs Act of 2017.

Additionally, our income tax provision for each year 2020 and 2019 was affected by the non-controlling interest portion of our pre-tax income.

The non-controlling interest impacts the effective tax rate as our ADAC-STRATTEC LLC and STRATTEC POWER ACCESS LLC entities are taxed as partnerships for U.S.

tax purposes.

Liquidity and Capital Resources

Working Capital (millions of dollars)

June 28, 2020

June 30, 2019

Current Assets

Current Liabilities

Working Capital

Outstanding Receivable Balances from Major Customers

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A summary of our outstanding receivable balances from our major customers as of June 28, 2020 was as follows (millions of dollars):

June 28, 2020

June 30, 2019

Fiat Chrysler Automobiles

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Ford Motor Company

The reduction in accounts receivable balances during the current year reflected reduced sales levels from the end of March 2020 through June 2020 as compared to our fiscal 2019 fourth quarter, which reduction was primarily due to our OEM customers reducing production schedules and closing their assembly plants, which reduced orders for our products, due to the COVID-19 outbreak.

Cash Balances in Mexico

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June 28, 2020

June 30, 2019

Cash Flows from (millions of dollars):

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Financing Activities

The increase in cash provided by o perating activities between 2018 and 201 9 reflected a net reduction in working capital requirement s between the two years of $22.4 million, with the net de crease in our working capital requirements being made up of the following working capital changes (millions of dollars):

The decrease in cash provided by operating activities between 2019 and 2020 was due to a reduction in operating income as previously discussed.

The reduction in operating income was partially offset by a net reduction in working capital requirements between the two years of $9.6 million, with the net decrease in our working capital requirements being made up of the following working capital changes (millions of dollars):

Increase (Decrease) in Working Capital Requirements

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Other Liabilities

The year over year change in accounts receivable balances reflected an increase in our accounts receivable balances during both the current year and the prior year.

The increase in accounts receivable balances during both years reflected increased sales levels in May and June of each fiscal year as compared to May and June of the previous fiscal year.

Additionally, an increase in outstanding customer tooling billings increased the 2018 accounts receivable balances by approximately $5.2 million between years.

The year over year change in inventory reflected an increase in inventory balances during 2018, which was the result of ramping up for new customer program launches.

The year over year change in the accounts receivable balances is the result of the amount and timing of sales during each year.

The reduction in accounts receivable balances during the current year reflected reduced sales levels from the end of March 2020 through June 2020 as compared to the end of our prior year, which reduction was primarily due to our OEM customers reducing production schedules and closing their assembly plants, which reduced orders for our products, due to the COVID-19 outbreak.

The increase in accounts receivable balances during the prior year reflected increased sales levels toward the end June 2019 as compared to the end of June 2018.

The year over year change in inventory reflected an increase in inventory balances during the current year due to an inventory build-up resulting from our OEM customers reducing production schedules and closing their assembly plants due to COVID-19.

The year over year change in customer tooling balances, which consisted of costs incurred for the development of tooling that will be directly reimbursed by the customer whose parts are produced from the tool, was the result of the timing of tooling development spending required to meet customer production requirements and related billings for customer reimbursements.

The year over year change in other assets was the result of a decrease in the income tax recoverable balance in 2019 as compared to an increase in 2018, which changes were based on the required income tax provision, the timing and amounts of Federal, state and foreign tax payments made, and the timing of the utilization of foreign tax credits and research and development tax credits.

The year over year change in accounts payable and accrued liability balances reflected a reduction in working capital requirements during each period.

The reductions in working capital requirements were the result of increases in accounts payable and accrual balances each period, which resulted from the timing of purchases and payments with our vendors based on normal payment terms.

Additionally, the 2018 reduction included an increase in warranty reserve balances of $2.3 million due to expense provisions for expected warranty payments to be settled in future periods

The year over year change in other assets was the result of a decrease in the income tax recoverable balance in 2019, which changes were based on the required income tax provision, the timing and amounts of Federal, state and foreign tax payments made, and the timing of the utilization of foreign tax credits and research and development tax credits.

The year over year change in accounts payable and accrued liability balances reflected an increase in working capital requirements during the current year and a reduction in working capital

requirements during the prior year .

The current year increase in working capital requirements resulted from a decrease in account payable and accrued liability balances, which resulted from a reduction in purchases from our vendors due to the impact of COVID-19.

Current year payments to our vendors were based on our normal payment terms.

The prior year reduction in w orking capital requirements was the result of an increase in accounts payable a nd accrual balances , which resulted from the timing of purchases and payments with our vendors based on our normal payment terms.

Net cash used by investing activities of $12.3 million during 2020 and $17.6 million during 2019 included capital expenditures of $12.4 million and $17.5 million, respectively.

Capital expenditures during each year were made in support of requirements for new product programs and the upgrade and replacement of existing equipment.

Capital expenditures included $2.5 million during 2018 for the purchase of land, equipment and the construction of a new facility in Leon, Mexico, which is used primarily to paint and assemble door handle products by ADAC-STRATTEC LLC.

Net cash used by investing activities during 2019 and 2018 also included an investment in our VAST LLC joint venture of $200,000 and $125,000, respectively.

The investments were made for the purpose of funding general operating expenses for Sistema de Acesso Veicular Ltda (formerly known as VAST do Brasil).

Additionally, prior to 2017, loans were made by each partner, STRATTEC, WITTE and ADAC to our joint venture, VAST LLC.

The loans were made in support of VAST LLC’s purchase of the non-controlling interest in the Brazilian entity and in support of funding general operating expenses of the Brazilian entity.

Repayments of outstanding loan balances totaling $300,000 were made from VAST LLC to each partner during 2018.

Net cash used in financing activities of $12.2 million during 2019 included repayments of borrowings under credit facilities of $14.0 million, $2.1 million of regular quarterly dividend payments to shareholders and $1.4 million of dividend payments to non-controlling interests in our subsidiaries, partially offset by $5 million in additional borrowings under credit facilities.

Net cash provided by financing activities of $16.4 million during 2018 included $24.0 million of borrowings under credit facilities and $242,000 of proceeds from stock purchases and option plan exercises, partially offset by $3.0 million for repayments of borrowings under credit facilities, $2.0 million for regular quarterly dividend payments to shareholders and $2.8 million for dividend payments to non-controlling interests in our subsidiaries.

Net cash used by investing activities during 2019 also included an investment in our VAST LLC joint venture of $200,000.

The investment was made for the purpose of funding general operating expenses for Sistema de Acesso Veicular Ltda, our Brazilian joint venture.

Net cash used in financing activities of $9.0 million during 2020 included repayments of borrowings under credit facilities of $15.0 million, $1.6 million of regular quarterly dividend payments to shareholders and $980,000 of dividend payments to non-controlling interests in our subsidiaries, partially offset by $8 million in additional borrowings under credit facilities as well as $560,000 received for the exercise of stock options under our stock incentive plan and purchases under our employee stock purchase plan.

On May 13, 2020, our Board of Directors took action to temporarily suspend payment of our quarterly dividend for the foreseeable future in order to conserve cash as a result of the economic downturn caused by COVID-19.

During the first nine months of fiscal 2020, approximately $1.6 million of cash dividends were paid to our shareholders.

VAST LLC Cash Requirements

We currently anticipate that both VAST China and Minda-VAST Access Systems have adequate debt facilities in place over the next fiscal year to cover the future operating and capital requirements of each business.

During 2019 and 2018, capital contributions totaling $600,000 and $375,000, respectively were made to VAST LLC for purposes of funding operations in Brazil.

STRATTEC’s portion of the capital contributions totaled $200,000 in 2019 and $125,000 in 2018.

VAST China maintains debt facilities to cover operating and capital requirements.

If COVID-19 continues in China causing their operations to be unprofitable, VAST China may not be able to renew working capital loans, which may require a capital call from the VAST partners.

No capital contributions were made to VAST LLC during 2020.

During 2019, capital contributions totaling $600,000 were made to VAST LLC for purposes of funding operations in Brazil.

STRATTEC’s portion of the capital contributions totaled $200,000.

We anticipate the Brazilian entity will require a capital contribution of approximately $375,000 collectively by all VAST partners to fund operations during fiscal 2021.

STRATTEC’s portion of the capital contributions is anticipated to be $125,000.

STRATTEC Advanced Logic, LLC Cash Requirements

During all periods presented in this report, STRATTEC provided 100 percent of the financial support to fund the start-up operating losses of SAL LLC due to our partner’s inability to contribute capital to this joint venture.

During fiscal 2018, we, along with our joint venture partner, reduced operating the business of STRATTEC Advanced Logic to winding down and selling only commercial biometric locks.

We anticipate STRATTEC will provide minimal to no funding for SAL LLC in fiscal year 2020.

Due to Minda-VAST Access Systems recently experiencing losses and being shut-down for an extended period due to the COVID-19 outbreak, future capital contributions by the VAST partners, including STRATTEC, may be required during fiscal 2021.

Future Capital Expenditures

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ADAC-STRATTEC LLC has a $25 million secured revolving credit facility (the “ADAC-STRATTEC Credit Facility”) with BMO Harris Bank N.A., which is guaranteed by STRATTEC.

The ADAC-STRATTEC Credit Facility borrowing limit decreased to $25 million effective July 1, 2019.

The credit facilities both expire August 1, 2022.

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cash balances, accounts receivable, inventory, and fixed assets located in the U.S.

Interest on borrowings under the STRATTEC Credit Facility and interest on borrowings under the ADAC-STRATTEC Credit Facility prior to December 31, 2018 are at varying rates based, at our option, on the London Interbank Offering Rate (“LIBOR”) plus 1.0 percent or the bank’s prime rate.

Effective December 31, 2018 and thereafter, interest on borrowings under the ADAC-STRATTEC Credit Facility is at varying rates based, at our option, on the London Interbank Offering Rate (“LIBOR”) plus 1.25 percent or the bank’s prime rate.

Both credit facilities contain a restrictive financial covenant that requires the applicable borrower to maintain a minimum net worth level.

The ADAC-STRATTEC Credit Facility includes an additional restrictive financial covenant that requires the maintenance of a minimum fixed charge coverage ratio.

Interest on borrowings under the STRATTEC Credit Facility and interest on borrowings under the ADAC-STRATTEC Credit Facility prior to December 31, 2018 were at varying rates based, at our option, on the London Interbank Offering Rate (“LIBOR”) plus 1.0 percent or the bank’s prime rate.

Effective December 31, 2018 and thereafter, interest on borrowings under the ADAC-STRATTEC Credit Facility is at varying rates based, at our option, on LIBOR plus 1.25 percent or the bank’s prime rate.

Both credit facilities contain a

restrictive financial covenant that requires the applicable borrower to maintain a minimum net worth level.

As of June 28, 2020, we were in compliance with all financial covenants required by these credit facilities.

Outstanding borrowings under the STRATTEC Credit Facility totaled $18 million at June 30, 2019 and $23.0 million at July 1, 2018.

The average outstanding borrowings and weighted average interest rate on the STRATTEC Credit Facility loans were approximately $21.2 million and 3.3 percent, respectively, during 2019.

Outstanding borrowings under the STRATTEC Credit Facility totaled $18 million at both June 28, 2020 and June 30, 2019.

The average outstanding borrowings and weighted average interest rate on the STRATTEC Credit Facility loans were approximately $13.8 million and 2.6 percent, respectively, during 2020.

Outstanding borrowings under the ADAC-STRATTEC Credit Facility totaled $24 million at June 30, 2019 and $28.0 million at July 1, 2018.

The average outstanding borrowings and weighted average interest rate on the ADAC-STRATTEC Credit Facility loans were approximately $25.9 million and 3.4 percent, respectively, during 2019.

The average outstanding borrowings and weighted average interest rate on the STRATTEC Credit Facilit y loans were approximately $21.2 million and 3.3 percent, respectively, during 2019.

Outstanding borrowings under the ADAC-STRATTEC Credit Facility totaled $17 million at June 28 , 2020 and $24.0 million at June 30, 2019.

The average outstanding borrowings and w eighted average interest rate on the ADAC-STRATTEC Credit Facility loans were approximately $19.1 million and 2.9 percent, respectively , during 2020.

The average outstanding borrowings and weighted average interest rate on the ADAC-STRATTEC Credit Facility loans were approximately $25.9 million and 3.4 percent, respectively, during 2019.

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A portion of these increases have been offset by plan design changes and associate wellness initiatives.

We have also been impacted by increases in the market price of zinc, nickel silver, and brass and inflation in Mexico, which impacts the U.

We have also been impacted by increases in the market price of zinc and brass and inflation in Mexico, which impacts the U.

dollar costs of our Mexican operations.

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We own and operate manufacturing operations in Mexico.

As a result, a portion of our manufacturing costs are incurred in Mexican pesos, which causes our earnings and cash flows to fluctuate due to changes in the U.S.

dollar/Mexican peso exchange rate.

We executed contracts with Bank of Montreal that provided for monthly Mexican peso currency forward contracts for a portion of our estimated peso denominated operating costs during 2018 and 2019.

As a result, a portion of our manufacturing costs are incurred in Mexican pesos.

We have from time to time entered into contracts with Bank of Montreal that provide for bi-weekly and monthly Mexican peso currency forward contracts for a portion of our estimated peso denominated operating costs to minimize our earnings volatility resulting from changes in exchange rates affecting the U.S.

dollar cost of our Mexican operations.

Refer to the discussion of Derivative Instruments under Organization and Summary of Significant Accounting Policies included in the Notes to Financial Statements included as part of Item 8 within this Form 10-K.

Joint Ventures and Majority Owned Subsidiaries

Refer to the discussion of Investment in Joint Ventures and Majority Owned Subsidiaries and discussion of Equity Earnings of Joint Ventures included in the Notes to Financial Statements included within this Form 10-K.

Refer to the discussion of Investment in Joint Ventures and Majority Owned Subsidiaries and discussion of Equity (Loss) Earnings of Joint Ventures included in the Notes to Financial Statements included within this Form 10-K.

Critical Accounting Policies

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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