fele-20221231
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_________
FORM 10-K
_________
ýANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2022
OR
oTRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from_____ to _____
Commission file number 0-362
FRANKLIN ELECTRIC CO., INC.
(Exact name of registrant as specified in its charter)
(Address of principal executive offices) (Zip Code)
(260) 824-2900
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, $0.10 par value FELE NASDAQ Global Select Market
Securities registered pursuant to Section 12(g) of the Act:
None
(Title of each class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes ☐ No ☒
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ☐ No ☒
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Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Section 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Emerging Growth Company ☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. ☒
If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements
of the registrant included in the filing reflect the correction of an error to previously issued financial statements.
o
Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant
to §240.10D-1(b).
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes ☐ No ☒
The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant at June 30, 2022 (the last business day of the registrant’s most recently completed second quarter) was $3,374,318,750. The stock price used in this computation was the last sales price on that date, as reported by NASDAQ Global Select Market. For purposes of this calculation, the registrant has excluded shares held by executive officers and directors of the registrant, including restricted shares and except for shares owned by the executive officers through the registrant’s 401(k) Plan. Determination of stock ownership by non-affiliates was made solely for the purpose of responding to this requirement and the registrant is not bound by this determination for any other purpose.
Number of shares of common stock outstanding at February 6, 2023:
46,180,695 shares
DOCUMENTS INCORPORATED BY REFERENCE
A portion of the Proxy Statement for the Annual Meeting of Shareholders to be held on May 5, 2023 (Part III).
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FRANKLIN ELECTRIC CO., INC.
TABLE OF CONTENTS
Page
PART I. Number
Item 1. Business 4
Item 1A. Risk Factors 7
Item 1B. Unresolved Staff Comments 10
Item 2. Properties 11
Item 3. Legal Proceedings 11
Supplemental Item - Information about our Executive Officers 12
PART II.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 21
Item 8. Financial Statements and Supplementary Data 22
Report of Independent Registered Public Accounting Firm (PCAOB ID No. 34) 51
Item 9A. Controls and Procedures 53
Report of Independent Registered Public Accounting Firm (PCAOB ID No. 34) 54
Item 9B. Other Information 55
Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 55
PART III.
Item 10. Directors, Executive Officers, and Corporate Governance 55
Item 11. Executive Compensation 55
Item 14. Principal Accounting Fees and Services 55
PART IV.
Item 15. Exhibits, Financial Statement Schedules 56
Signatures 60
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PART I
ITEM 1. BUSINESS
Description of the Business
Franklin Electric Co., Inc. (“Franklin Electric” or the “Company”) is an Indiana corporation founded in 1944 and incorporated in 1946. Named after America’s pioneer electrical engineer, Benjamin Franklin, Franklin Electric manufactured the first water-lubricated submersible motor for water systems and the first submersible motor for fueling systems. With 2022 revenue of over $2.0 billion, the Company designs, manufactures and distributes water and fuel pumping systems, composed primarily of submersible motors, pumps, electronic controls, water treatment systems, and related parts and equipment.
The Company’s water pumping systems move fresh and wastewater for the residential, agricultural and other industrial end markets. The Company also sells various groundwater equipment products to well installation contractors, including water pumping systems, through its distribution branches located in the U.S. With a growing global footprint, the Company has also evolved into a top supplier of submersible fueling systems at gas stations, making pumps, pipes, electronic controls and monitoring devices.
The Company’s products are sold worldwide by its employee sales force and independent manufacturing representatives. The Company offers normal and customary trade terms to its customers, no significant part of which is of an extended nature. Special inventory requirements are not necessary, and customer merchandise return rights do not extend beyond normal warranty provisions.
Franklin Electric’s Key Factors for Success
While maintaining a culture of safety and lean principles, Franklin Electric promises to deliver quality, availability, service, innovation, and cost in every encounter the Company has with stakeholders, including direct or indirect customers, employees, shareholders, and suppliers. These key factors for success are a roadmap for the Company's growth as a global provider of water and fuel systems, through geographic expansion and product line extensions, leveraging its global platform and competency in system design, all while consistently offering the best value to its customer.
Markets and Applications
The Company’s business consists of three reportable segments based on the principal end market served: Water Systems, Fueling Systems, and Distribution. The Company includes unallocated corporate expenses in an “Intersegment Eliminations/Other” segment that, together with the Water Systems, Fueling Systems, and Distribution segments, represent the Company. Segment and geographic information appears in Note 15 - Segment and Geographic Information to the consolidated financial statements.
The market for the Company’s products is highly competitive and includes diversified accounts by size and type. The Company’s Water Systems and Fueling Systems products and related equipment are sold to specialty distributors and some original equipment manufacturers (“OEMs”), as well as industrial and petroleum equipment distributors and major oil and utility companies. The Company’s Distribution segment sells products primarily to water well contractors.
Water Systems Segment
Water Systems is a global leader in the production and marketing of water pumping systems and is a technical leader in submersible motors, pumps, drives, electronic controls, water treatment systems, and monitoring devices. The Water Systems segment designs, manufactures and sells motors, pumps, drives, electronic controls, monitoring devices, and related parts and equipment primarily for use in groundwater, water transfer and wastewater.
Water Systems motors, pumps and controls are used principally for pumping clean water and wastewater in a variety of residential, agricultural, municipal and industrial applications. Water Systems also manufactures electronic drives and controls for the motors which control functionality and provide protection from various hazards, such as electrical surges, over-heating and dry wells or dry tanks. In the last three years, the Company acquired Waterite, Inc.; Puronics, Inc.; New Aqua, LLC; and B&R Industries, Inc. expanding its portfolio to include water treatment systems and acquired Minetuff Dewatering Pumps Australia Pty Ltd expanding its industrial dewatering product line.
Water Systems products are sold in highly competitive markets. Water Systems contributed about 55 percent of the Company’s total revenue in 2022. Significant portions of segment revenue come from selling groundwater and surface pumps, motors, and controls for residential and commercial buildings, as well as agricultural sales which are more seasonal and subject to commodity price changes. The Water Systems segment generates approximately 25 to 30 percent of its revenue in developing markets, which often lack municipal water systems. As those countries install water systems, the Company views those markets
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as an opportunity. The Company has had 6 to 9 percent compounded annual sales growth in developing regions in recent years. Water Systems competes in each of its targeted markets based on product design, quality of products and services, performance, availability and price. The Company’s principal competitors in the specialty water products industry are Grundfos Management A/S, Pentair, Inc. and Xylem, Inc.
2022 Water Systems research and development expenditures were primarily related to the following activities:
•Electronic variable frequency drives and controls for Pump and HVAC applications, including enhancements of mobile application capabilities for SubDrive Connect and Cerus X-Drive and development of standard panels to support HES (High Efficiency Systems) motors
•Development of new standard electric skid pump package designs and electronic variable frequency drive skid packages for mining and municipal dewatering markets
•Greywater pumping equipment, including the development of 60Hz electrical submersible pumps from the acquisition of Minetuff and the expansion of grinder pumps for the Brazil market
•Submersible and surface pumps for residential, commercial, municipal, and agricultural applications including the development of a standard global 4” pump family, developing a new cast stainless submersible turbine line, and upgrading the performance of line shaft turbine product offerings
•Submersible motor technology development, including the introduction of energy efficient permanent magnet motors into submersible water pumping systems, substantially reducing energy usage in residential pumping applications, 4 pole motor designs for 8” and 10” diameter products, and 4” Oil-filled motors
•Water treatment products focused on component improvements and IOT enabled sensing systems
Fueling Systems Segment
Fueling Systems is a global leader in the production and marketing of fuel pumping systems, fuel containment systems and monitoring and control systems. The Fueling Systems segment designs, manufactures and sells pumps, pipe, sumps, fittings, vapor recovery components, electronic controls, monitoring devices and related parts and equipment primarily for use in fueling system applications.
Fueling Systems offers a complete array of components between the tank and the dispenser, including submersible pumps, station hardware, piping, sumps, vapor recovery, corrosion control systems and electronic controls. The Fueling Systems segment growth has been sustained by a commitment to protecting human health and the environment while delivering the lowest total cost of ownership. Fueling Systems takes steps to ensure its products are installed and maintained properly through robust global certification tools for their third-party contractors. The segment serves other energy markets such as power reliability systems and includes intelligent electronic devices that are designed for online monitoring for the power utility, hydroelectric, and telecommunication and data center infrastructure.
Fueling Systems products are sold in highly competitive markets. Rising vehicle use is leading to more investment in fueling stations, which, in turn, leads to increased demand for the Company’s Fueling Systems products. The Company believes there is growth opportunity in developing markets. Fueling Systems competes in each of its targeted markets based on product design, quality of products and services, performance, availability and value. The Company’s principal competitors in the petroleum equipment industry are Vontier Corporation, formerly a part of Fortive Corporation, and Dover Corporation.
2022 Fueling Systems research and development expenditures were primarily related to the following activities:
•Developed and launched new distribution transformer monitor
•Developed new vapor flow meter for Chinese vapor recovery monitoring regulation
•Developed and launched UNITE, server software to collect data from battery monitoring, battery testers, NexPhase, and distribution monitoring
•Developed Press-Fit Connector for Cabletight electrical conduit
•Developed testable termination fitting for APT fueling piping system
•Developed and launched NexPhase Electric Vehicle Switchgear
•Developed car wash monitor of detergent liquids at car wash stations
•Developed new hybrid wired battery monitoring system
Distribution Segment
The Distribution segment is operated as a collection of wholly owned leading groundwater distributors known as the Headwater Companies. Headwater Companies deliver quality products and leading brands to the industry, providing contractors with the availability and service they demand to meet their application challenges. The Distribution segment operates within the U.S. professional groundwater market. Highlights of the Distribution Segment geographic growth through acquisitions in the last three years are as follows:
•2020 - Acquired Gicon Pumps & Equipment, Inc., a professional groundwater distributor operating in the south
•2021 - Acquired Blake Group Holdings, Inc., a professional groundwater distributor operating in the northeast
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Information Regarding All Reportable Segments
Research and Development
The Company incurred research and development expenses as follows:
Research and development expenses $ 16.7 $ 17.3 $ 21.7
Expenses incurred were for activities related to the development of new products, improvement of existing products and manufacturing methods and other applied research and development.
The Company owns a number of patents, trademarks, and licenses. In the aggregate, these patents are of material importance to the operation of the business; however, the Company believes that its operations are not dependent on any single patent or group of patents.
Raw Materials
The principal raw materials used in the manufacture of the Company’s products are coil and bar steel, stainless steel, copper wire and aluminum ingot. Major components are electric motors, capacitors, motor protectors, forgings, gray iron castings, plastic resins and bearings. Most of these raw materials are available from multiple sources in the U.S. and world markets. Generally, the Company believes that adequate alternative sources are available for the majority of its key raw material and purchased component needs; however, the Company is dependent on a single or limited number of suppliers for certain materials or components. The Company believes that availability of fuel and energy is adequate to satisfy current and projected overall operations unless interrupted by government direction, allocation or other disruption.
Major Customers
No single customer accounted for over 10 percent of net sales in 2022, 2021, or 2020. No single customer accounted for over 10 percent of gross accounts receivable in 2022 and 2021.
Backlog
The dollar amount of backlog by segment was as follows:
The backlog is composed of written orders at prices adjustable on a price-at-the-time-of-shipment basis for products, primarily standard catalog items. All backlog orders are expected to be filled in 2023. The Company’s sales in the first quarter are generally less than its sales in other quarters due to less water well drilling and overall product sales during the winter months in the Northern hemisphere. Beyond that, there is no seasonal pattern to the backlog and the backlog has not proven to be a significant indicator of future sales.
Environmental Matters
The Company believes that it is in compliance with all applicable federal, state and local laws concerning the discharge of material into the environment, or otherwise relating to the protection of the environment. The Company has not experienced any material costs in connection with environmental compliance, and does not believe that such compliance will have any material effect upon the financial position, results of operations, cash flows or competitive position of the Company.
Human Capital Resources
As of December 31, 2022, the Company had approximately 6,500 employees. The Company is committed to providing safe work environments for its employees, prioritizing wellness, health and safety best practices and requiring ethical compliance with established policies. Further information regarding its human capital details and initiatives can be found in the 2022 Franklin Electric Sustainability Report available for download on the Company's website.
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Available Information
The Company is a U.S. public reporting company under the Exchange Act and files reports, proxy statements and other information with the SEC, which can be accessed from the SEC's home page on the Internet at www.sec.gov. The Company’s website address is www.franklin-electric.com. The Company makes available free of charge on or through its website its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and all amendments to those reports, as soon as reasonably practicable after such material is electronically filed with or furnished to the Securities and Exchange Commission. Additionally, the Company’s website includes the Company’s corporate governance guidelines, its Board committee charters, Lead Independent Director charter, and the Company’s code of business conduct and ethics. Information contained on the Company’s website is not part of this annual report on Form 10-K.
ITEM 1A. RISK FACTORS
The following describes the principal risks affecting the Company and its business. Additional risks and uncertainties, not presently known to the Company, could negatively impact the Company’s results of operations or financial condition in the future.
Risks Related to the Industry
Reduced housing starts adversely affect demand for the Company’s products, thereby reducing revenues and earnings. Demand for certain Company products is affected by housing starts. Variation in housing starts due to economic volatility both within the United States and globally could adversely impact gross margins and operating results.
The Company’s results may be adversely affected by global macroeconomic supply and demand conditions related to the energy and mining industries. The energy and mining industries are users of the Company’s products, including the coal, iron ore, gold, copper, oil, and natural gas industries. Decisions to purchase the Company’s products are dependent upon the performance of the industries in which our customers operate. If demand or output in these industries increases, the demand for our products will generally increase. Likewise, if demand or output in these industries declines, the demand for our products will generally decrease. The energy and mining industries’ demand and output are impacted by the prices of commodities in these industries which are frequently volatile and change in response to general economic conditions, economic growth, commodity inventories, and any disruptions in production or distribution. Changes in these conditions could adversely impact sales, gross margin, and operating results.
Volatility in the prices and availability of raw materials, components, finished goods and other commodities could adversely affect operations. The Company purchases most of the raw materials for its products on the open market and relies on third parties for the sourcing of certain finished goods. Accordingly, the cost of its products may be affected by changes in the market price and its ability to successfully obtain raw materials, sourced components, or finished goods. The Company and its suppliers also use natural gas and electricity in manufacturing products both of which have historically been volatile. The Company does not generally engage in commodity hedging for raw materials and energy. Significant increases in the prices or disruptions in the supply chain of commodities, sourced components, finished goods, energy or other commodities could cause product prices to increase, which may reduce demand for products or make the Company more susceptible to competition. Furthermore, in the event the Company is unable to pass along increases in operating costs to its customers, margins and profitability may be adversely affected.
The growth of municipal water systems and increased government restrictions on groundwater pumping could reduce demand for private water wells and the Company’s products, thereby reducing revenues and earnings.Demand for certain Company products is affected by rural communities shifting from private and individual water well systems to city or municipal water systems. Many economic and other factors outside the Company’s control, including governmental regulations on water quality, and tax credits and incentives, could adversely impact the demand for private and individual water wells. A decline in private and individual water well systems in the United States or other economies in the international markets the Company serves could reduce demand for the Company’s products and adversely impact sales, gross margins, and operating results.
Demand for Fueling Systems products is impacted by environmental legislation which may cause significant fluctuations in costs and revenues. Environmental legislation related to air quality and fuel containment may create demand for certain Fueling Systems products which must be supplied in a relatively short time frame to meet the governmental mandate. During periods of increased demand, the Company’s revenues and profitability could increase significantly, although the Company can also be at risk of not having capacity to meet demand or cost overruns due to inefficiencies during ramp up to the higher production levels. After the Company’s customers have met the compliance requirements, the Company’s revenues and profitability may decrease significantly as the demand for certain products declines substantially. The risk of not reducing production costs in relation to the decreased demand and reduced revenues could have a material adverse impact on gross margins and the Company’s results of operations.
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Changes in tax legislation regarding the Company’s U.S. or foreign earnings could materially affect future results. Since the Company operates in different countries and is subject to taxation in different jurisdictions, the Company’s future effective tax rates could be impacted by changes in such countries’ tax laws or their interpretations. Both domestic and international tax laws are subject to change as a result of changes in fiscal policy, legislation, evolution of regulation and court rulings. The application of these tax laws and related regulations is subject to legal and factual interpretation, judgment, and uncertainty. The Company cannot predict whether any proposed changes in tax laws will be enacted into law or what, if any, changes may be made to any such proposals prior to their being enacted into law. If the tax laws change in a manner that increases the Company’s tax obligation, it could have a material adverse impact on the Company’s results of operations and financial condition.
The Organization for Economic Co-operation and Development (the “OECD”), an international association comprised of 38 countries, including the United States, has issued proposals that change long-standing tax principles including on a global minimum tax initiative. On December 12, 2022, the European Union member states agreed to implement the OECD’s Pillar 2 global corporate minimum tax rate of 15 percent on companies with revenues of at least $790 million, which would go into effect in 2024. Other countries are also actively considering changes to their tax laws to adopt certain parts of the OECD’s proposals. If these proposals are implemented in the countries where the Company operates, it may materially impact our income tax liability, provision for income taxes and effective tax rate.
The Inflation Reduction Act signed on August 16, 2022, enacted a new excise tax under Section 4501 on certain repurchases of corporate stock. The Tax applies to repurchases of stock net of issuances after December 31, 2022. The estimated impact to the Company could be material if the Company decides to increase share repurchases.
Risks Related to the Business
The Company is exposed to political, economic and other risks that arise from operating a multinational business. The Company has significant operations outside the United States, including Europe, South Africa, Brazil, Mexico, India, China, Turkey, Canada and Argentina. Further, the Company obtains raw materials and finished goods from foreign suppliers. Accordingly, the Company’s business is subject to political, economic, and other risks that are inherent in operating a multinational business. These risks include, but are not limited to, the following:
•Difficulty in enforcing agreements and collecting receivables through foreign legal systems
•Trade protection measures and import or export licensing requirements
•Inability to obtain raw materials and finished goods in a timely manner from foreign suppliers
•Imposition of tariffs, exchange controls or other restrictions
•Difficulty in staffing and managing widespread operations and the application of foreign labor regulations
•Compliance with foreign laws and regulations
•Changes in general economic and political conditions in countries where the Company operates
Additionally, the Company’s operations outside the United States could be negatively impacted by changes in treaties, agreements, policies, and laws implemented by the United States. If the Company does not anticipate and effectively manage these risks, these factors may have a material adverse impact on its international operations or on the business as a whole.
The Company has significant investments in foreign entities and has significant sales and purchases in foreign denominated currencies creating exposure to foreign currency exchange rate fluctuations. The Company has significant investments outside the United States, including Europe, South Africa, Brazil, Mexico, India, China, Turkey, Canada and Argentina. Further, the Company has sales and makes purchases of raw materials and finished goods in foreign denominated currencies. Accordingly, the Company has exposure to fluctuations in foreign currency exchange rates relative to the U.S. dollar. Foreign currency exchange rate risk is partially mitigated through several means: maintenance of local production facilities in the markets served, invoicing of customers in the same currency as the source of the products, prompt settlement of intercompany balances, limited use of foreign currency denominated debt, and application of derivative instruments when appropriate. To the extent that these mitigating strategies are not successful, foreign currency rate fluctuations can have a material adverse impact on the Company’s international operations or on the business as a whole.
In the second quarter of 2022, the Company concluded that Turkey represents a hyperinflationary economy as its projected three-year cumulative inflation rate exceeds 100 percent. As a result, the Company started remeasuring the financial statements for the Company’s Turkish operations in accordance with the highly inflationary accounting rules in the Financial Accounting Standards Board ("FASB") Accounting Standards Codification ("ASC") 830 "Foreign Currency Matters" as of the beginning of the second quarter of 2022. As a result, all gains and losses resulting from the remeasurement of the financial results of operations and other transactional foreign exchange gains and losses would be reflected in earnings, which could result in volatility within the Company’s earnings, rather than as a component of the Company’s comprehensive income within
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stockholders’ equity. Turkey becoming a hyperinflationary economy may have a material adverse effect on the Company’s consolidated financial position, results of operations, or cash flows.
The Company’s acquisition strategy entails expense, integration risks, and other risks that could affect the Company’s earnings and financial condition. One of the Company’s continuing strategies is to increase revenues and expand market share through acquisitions that will provide complementary Water and Fueling Systems products, add to the Company’s global reach, or both. The Company spends significant time and effort expanding existing businesses through identifying, pursuing, completing, and integrating acquisitions, which generate expense whether or not the acquisitions are actually completed. Competition for acquisition candidates may limit the number of opportunities and may result in higher acquisition prices. There is uncertainty related to successfully acquiring, integrating and profitably managing additional businesses without substantial costs, delays or other problems. There can also be no assurance that acquired companies will achieve revenues, profitability or cash flows that justify the investment. Failure to manage or mitigate these risks could adversely affect the Company’s results of operations and financial condition.
The Company’s products are sold in highly competitive markets, by numerous competitors whose actions could negatively impact sales volume, pricing and profitability. The Company is a global leader in the production and marketing of groundwater and fuel pumping systems. End user demand, distribution relationships, industry consolidation, new product capabilities of the Company’s competitors or new competitors, and many other factors contribute to a highly competitive environment. Additionally, some of the Company’s competitors have substantially greater financial resources than the Company. The Company believes that consistency of product quality, timeliness of delivery, service, and continued product innovation, as well as price, are principal factors considered by customers in selecting suppliers. Competitive factors previously described may lead to declines in sales or in the prices of the Company’s products which could have an adverse impact on its results of operations and financial condition.
The Company’s products are sold to numerous distribution outlets based on market performance. The Company may, from time to time, change distribution outlets in certain markets based on market share and growth. These changes could adversely impact sales and operating results.
Transferring operations of the Company to lower cost regions may not result in the intended cost benefits. The Company is continuing its rationalization of manufacturing capacity between all existing manufacturing facilities and the manufacturing complexes in lower cost regions. To implement this strategy, the Company must complete the transfer of assets and intellectual property between operations. Each of these transfers involves the risk of disruption to the Company’s manufacturing capability, supply chain, and, ultimately, to the Company’s ability to service customers and generate revenues and profits and may include significant severance amounts.
Delays in introducing new products or the inability to achieve or maintain market acceptance with existing or new products may cause the Company’s revenues to decrease. The industries to which the Company belongs are characterized by intense competition, changes in end-user requirements, and evolving product offerings and introductions. The Company believes future success will depend, in part, on the ability to anticipate and adapt to these factors and offer, on a timely basis, products that meet customer demands. Failure to successfully develop new and innovative products or to enhance existing products could result in the loss of existing customers to competitors or the inability to attract new business, either of which may adversely affect the Company’s revenues.
Certain Company products are subject to regulation and government performance requirements in addition to the warranties provided by the Company. The Company’s product lines have expanded significantly and certain products are subject to government regulations and standards for manufacture, assembly, and performance in addition to the warranties provided by the Company. The Company’s failure to meet all such standards or perform in accordance with warranties could result in significant warranty or repair costs, lost sales and profits, damage to the Company’s reputation, fines or penalties from governmental organizations, and increased litigation exposure. Changes to these regulations or standards may require the Company to modify its business objectives and incur additional costs to comply. Any liabilities or penalties actually incurred could have a material adverse effect on the Company’s earnings and operating results.
The Company has significant goodwill and intangible assets and future impairment of the value of these assets may adversely affect the Company's operating results and financial condition. The Company’s total assets include substantial intangible assets, primarily goodwill. Goodwill results from the Company’s acquisitions, representing the excess of the purchase price paid over the fair value of the net assets acquired. Goodwill and indefinite-lived intangible assets are tested annually for impairment during the fourth quarter or as warranted by triggering events. If future operating performance at one or more of the Company’s operating segments were to decline significantly below current levels, the Company could incur a non-cash impairment charge to operating earnings. The recognition of an impairment of a significant portion of the Company’s
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goodwill or intangible assets could have a material adverse impact on the Company’s results of operations and financial condition.
The Company’s business may be adversely affected by the seasonality of sales and weather conditions. The Company experiences seasonal demand in a number of markets within the Water Systems segment. End-user demand in primary markets follows warm weather trends and is at seasonal highs from April to August in the Northern Hemisphere. Demand for residential and agricultural water systems are also affected by weather-related disasters including heavy flooding and drought. Changes in these patterns could reduce demand for the Company’s products and adversely impact sales, gross margins, and operating results.
The Company depends on certain key suppliers, and any loss of those suppliers or their failure to meet commitments may adversely affect the Company's business and results of operations. The Company is dependent on a single or limited number of suppliers for some materials or components required in the manufacture of its products. If any of those suppliers fail to meet their commitments to the Company in terms of delivery or quality, the Company may experience supply shortages that could result in its inability to meet customer requirements, or could otherwise experience an interruption in operations that could negatively impact the Company’s business and results of operations.
The Company’s operations are dependent on information technology infrastructure and failures could significantly affect its business. The Company depends on information technology infrastructure in order to achieve business objectives. If the Company experiences a problem that impairs this infrastructure, such as a computer virus, a problem with the functioning of an important IT application, or an intentional disruption of IT systems by a third party, the resulting disruptions could impede the Company's ability to record or process orders, manufacture and ship products in a timely manner, or otherwise carry on business in the ordinary course. Any such events could cause the loss of customers or revenue and could cause significant expense to be incurred to eliminate these problems and address related security concerns. The Company is also subject to certain U.S. and international data protection and cybersecurity regulations. Complying with these laws may subject the Company to additional costs or require changes to the Company’s business practices. Any inability to adequately address privacy and security concerns or comply with applicable privacy and data security laws, rules and regulations could expose the Company to potentially significant liabilities.
Additional Risks to the Company. The Company is subject to various risks in the normal course of business as well as catastrophic events including severe weather events, earthquakes, fires, acts of war, terrorism, civil unrest, epidemics and pandemics and other unexpected events. Exhibit 99.1 sets forth risks and other factors that may affect future results, including those identified above, and is incorporated herein by reference.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
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ITEM 2. PROPERTIES
Franklin Electric serves customers worldwide with over 220 manufacturing and distribution facilities located in over 20 countries. The Global Headquarters is located in Fort Wayne, Indiana, United States and houses sales, marketing and administrative offices along with a state of the art research and engineering facility. Besides the owned corporate facility, the Company considers the following to be principal properties:
Location / Segment Purpose Own/Lease
Santa Catarina, Brazil / Water & Fueling Manufacturing/Distribution/Sales Own
Sao Paulo, Brazil / Water & Fueling Manufacturing/Distribution/Sales Own
Jiangsu Province, China / Water & Fueling Manufacturing Own
Brno, Czech Republic / Water Manufacturing Own
Vicenza, Italy / Water Manufacturing Own
Nuevo Leon, Mexico / Water & Fueling Manufacturing Own
Edenvale, South Africa / Water Manufacturing Own
Izmir, Turkey / Water Manufacturing/Distribution/Sales/R&D Own
Indiana, United States / Water Manufacturing/Distribution/Sales Lease
Montana, United States / Distribution Distribution Own
North Carolina, United States / Distribution Distribution Own
Oklahoma, United States / Water Manufacturing Own
Oregon, United States / Water Manufacturing/Distribution/Sales/R&D Lease
Wisconsin, United States / Fueling Manufacturing/Distribution/Sales/R&D Own
The Company also owns and leases other smaller facilities which serve as manufacturing locations and distribution warehouses. The Company does not consider these facilities to be principal to the business or operations. In the Company’s opinion, its facilities are suitable for their intended use, adequate for the Company’s business needs, all currently utilized and in good condition.
ITEM 3. LEGAL PROCEEDINGS
The Company is defending various claims and legal actions which have arisen in the ordinary course of business. For a description of the Company's material legal proceedings, refer to Note 16 - Commitments and Contingencies, in the Notes to Consolidated Financial Statements included in Part II, Item 8, "Financial Statements and Supplementary Data," of this Annual Report on Form 10-K, which is incorporated into this Item 3 by reference. In the opinion of management, based on current knowledge of the facts and after discussion with counsel, other claims and legal actions can be defended or resolved without a material effect on the Company’s financial position, results of operations, and net cash flows.
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INFORMATION ABOUT OUR EXECUTIVE OFFICERS
Current executive officers of the Company, their ages, current position, and business experience during at least the past five years as of December 31, 2022, are as follows:
Name Age Position Held Period Holding Position
Jeffery L. Taylor 56 Vice President, Chief Financial Officer 2021 - present
Chief Financial Officer, Blue Bird Corporation 2020 - 2021
Brent L. Spikes 51 Vice President, Global Manufacturing 2022 - present
Vice President, Global Water Engineering 2020 - 2022
Vice President, Manufacturing & Manufacturing Engineering 2019 - 2020
Director, Manufacturing & Manufacturing Engineering 2018 - 2019
Director, Advanced Manufacturing 2014 - 2018
Vice President and President, North America Water Systems 2012 - 2017
Donald P. Kenney 62 Vice President and President, Global Water 2019 - present
Vice President and President, North America Water Systems 2017 - 2019
Vice President and President, Energy Systems 2014 - 2017
Jay J. Walsh 53 Vice President and President, Fueling Systems 2019 - present
Executive Vice President, Fueling Systems 2013 - 2017
Kenneth Keene 59 Vice President, Global Supply 2022 - present
Vice President, EMEA Manufacturing 2021 - 2022
Vice President, Global Sourcing 2018 - 2021
All executive officers are elected annually by the Board of Directors at the Board meeting held in conjunction with the annual meeting of shareholders. All executive officers hold office until their successors are duly elected or until their death, resignation or removal by the Board.
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PART II
ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS, AND ISSUER PURCHASES OF EQUITY SECURITIES
The number of shareholders of record as of February 6, 2023 was 608. The Company’s stock is traded on the NASDAQ Global Select Market under the symbol FELE. Broadridge Corporate Issuer Solutions, Inc. 1155 Long Island Avenue, Edgewood, New York, 11717 serves as the registrar, record keeper and stock transfer agent.
Dividends paid per common share as quoted by the NASDAQ Global Select Market for 2022 and 2021 were as follows:
Dividends per Share
The Company has increased dividend payments on an annual basis for 30 consecutive years. The payment of dividends in the future will be determined by the Board of Directors and will depend on business conditions, earnings, and other factors.
Issuer Purchases of Equity Securities
In April 2007, the Company’s Board of Directors unanimously approved a plan to increase the number of shares remaining for repurchase from 628,692 to 2,300,000 shares. There is no expiration date for this plan. On August 3, 2015, the Company’s Board of Directors approved a plan to increase the number of shares remaining for repurchase by an additional 3,000,000 shares. The authorization was in addition to the 535,107 shares that remained available for repurchase as of July 31, 2015. The Company repurchased 134,835 shares for approximately $10.8 million under this plan during the fourth quarter of 2022. The maximum number of shares that may still be purchased under this plan as of December 31, 2022 is 288,107. In February 2023, the Company’s Board of Directors approved a plan to increase the number of shares remaining for repurchase by an additional 1,000,000 shares. After giving effect to the February 2023 approval and share repurchase activity in 2023, the maximum number of shares that may still be purchased under this plan as of February 22, 2023 is 1,215,872.
Stock Performance Graph
The following graph compares the Company’s cumulative total shareholder return (Common Stock price appreciation plus dividends, on a reinvested basis) over the last five fiscal years with the Guggenheim S&P Global Water Index and the Russell 2000 Index.
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Hypothetical $100 invested on December 31, 2017 (fiscal year-end 2017) in Franklin Electric common stock (FELE), Guggenheim S&P Global Water Index, and Russell 2000 Index, assuming reinvestment of dividends:
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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Discussion of the year-over-year comparison of changes in the Company's financial condition and results of operation as of and for the fiscal years ended December 31, 2021 and December 31, 2020 can be found in Part II, Item 7. "Management’s Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the fiscal year ended December 31, 2021.
2022 vs. 2021
OVERVIEW
Net sales in 2022 increased 23 percent compared to the prior year. The sales increase was primarily due to price and acquisitions. The impact of foreign currency translation decreased sales by about 5 percent. The Company's consolidated gross profit was $691.4 million for 2022, an increase of $115.3 million, or about 20 percent, from 2021. Net income attributable to the Company was $187.3 million, an increase of $33.5 million, or about 22 percent, from 2021.
RESULTS OF OPERATIONS
Net Sales
Net sales in 2022 were $2,043.7 million, an increase of $381.8 million, or about 23 percent, compared to 2021 sales of $1,661.9 million. The incremental impact to sales from acquired businesses was $131.9 million. Sales decreased by $77.1 million, or about 5 percent, in 2022 due to foreign currency translation.
Net Sales
Net Sales-Water Systems
Water Systems sales were $1,157.5 million in 2022, an increase of $193.9 million, or about 20 percent, versus 2021. The incremental impact to sales from acquired businesses was $58.8 million. Foreign currency translation changes decreased sales $71.7 million, or about 7 percent, compared to 2021.
Water Systems sales in the U.S. and Canada increased by about 30 percent compared to 2021. The incremental impact to sales from acquired businesses was $54.1 million. Sales decreased by $3.0 million in 2022 due to foreign currency translation. In 2022, sales of groundwater pumping equipment increased by about 22 percent and sales of all surface pumping equipment increased by about 23 percent versus 2021, due to strong end market demand and pricing.
Water Systems sales in markets outside the U.S. and Canada increased by about 7 percent compared to 2021. The incremental impact to sales from acquired businesses was $4.7 million. Sales decreased by $68.7 million, or 17 percent, in 2022 due to foreign currency translation. Excluding the impact of acquisitions and foreign currency translation, sales increased in all major markets; EMEA, Latin America, and Asia Pacific.
Net Sales-Fueling Systems
Fueling Systems sales were $334.1 million in 2022, an increase of $45.0 million, or about 16 percent, from 2021. Foreign currency translation changes decreased sales $5.4 million, or about 2 percent, compared to 2021.
Fueling Systems sales in the U.S. and Canada increased by about 22 percent during 2022, primarily due to pricing actions and higher demand across all product lines. Outside the U.S. and Canada, Fueling Systems sales increased with sales growth in India more than offsetting lower sales in China. China sales were about $7 million in 2022 compared to about $12 million in 2021.
Net Sales-Distribution
Distribution sales were $668.1 million in 2022, an increase of $170.5 million, or about 34 percent, from 2021. The incremental impact to sales from acquired businesses was $73.1 million. Sales growth was driven by acquisitions, pricing and broad-based demand in all regions and product categories.
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Cost of Sales
Cost of sales as a percent of net sales for 2022 and 2021 was 66.2 percent and 65.3 percent, respectively. Correspondingly, the gross profit margin was 33.8 percent and 34.7 percent, respectively. The gross profit margin decline was primarily a result of supply disruptions causing unfavorable absorption variances and higher inbound freight that was partially offset by realized pricing actions that more than offset inflationary cost increases. The Company's consolidated gross profit was $691.4 million for 2022, up $115.3 million from the gross profit of $576.1 million in 2021. The gross profit increase was primarily due to higher sales.
Selling, General and Administrative (“SG&A”)
SG&A expenses were $432.1 million in 2022 and increased $45.8 million compared to $386.3 million in the prior year. The increase was primarily due to incremental expenses from acquired businesses of $31 million. Additionally, higher travel and advertising expenses were partially offset by lower variable performance-based compensation expenses. SG&A costs as a percent of net sales decreased to 21.1 percent in 2022 from 23.2 percent in 2021.
Restructuring Expenses
Restructuring expenses were $2.2 million and $0.6 million in 2022 and 2021, respectively. Restructuring expenses were primarily from continued miscellaneous manufacturing realignment activities and branch closings and consolidations in the Distribution and Water Systems segments.
Operating Income
Operating income was $257.2 million in 2022, up $68.0 million, or 36 percent, from $189.2 million in 2021.
Operating income (loss)
Operating Income-Water Systems
Water Systems operating income was $172.3 million in 2022 compared to $139.1 million in 2021, an increase of 24 percent. Operating income increased in Water Systems primarily due to higher sales volumes and SG&A cost controls. The 2022 operating income margin was 14.9 percent compared to 2021 operating income margin of 14.4 percent of net sales. Operating income margin increased in Water Systems primarily due to operating leverage on higher sales.
Operating Income-Fueling Systems
Fueling Systems operating income was $96.8 million in 2022 compared to $79.5 million in 2021, an increase of 22 percent. Operating income increased in Fueling Systems primarily due to higher sales volumes. The 2022 operating income margin was 29.0 percent compared to 27.5 percent of net sales in 2021. Operating income margin increased in Fueling Systems primarily due to operating leverage on higher sales.
Operating Income-Distribution
Distribution operating income was $54.5 million in 2022 compared to $35.9 million in 2021, an increase of 52 percent. Operating income increased in Distribution due to higher sales volumes. The 2022 operating income margin was 8.2 percent compared to 7.2 percent of net sales in 2021. The increase in operating income margin was primarily due to sales growth and operating leverage.
Operating Income-Eliminations/Other
Operating income-Eliminations/Other is composed primarily of inter-segment sales and profit eliminations and unallocated general and administrative expenses. The inter-segment profit elimination impact in 2022 decreased operating income by about $3.0 million more compared to 2021. The inter-segment elimination of operating income effectively defers the operating income on sales from Water Systems to Distribution in the consolidated financial results until the transferred product is sold from the Distribution segment to its third-party customer. Additionally, unallocated general and administrative expenses decreased $1.9 million compared to last year.
Interest Expense
Interest expense increased in 2022 to $11.5 million from $5.2 million in 2021 primarily due to higher outstanding debt levels and higher interest rates.
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Other Income or Expense
Other income or expense was a loss of $3.2 million in 2022 compared to income of $8.0 million in 2021. Included in other income or expense in 2022 was a loss of $2.1 million related to a settlement of an indirect tax dispute. Other income or expense in 2021 included a bargain purchase gain of $6.5 million and a gain of $2.5 million related to a settlement of an indirect tax dispute.
Foreign Exchange
Foreign exchange was a loss of $7.2 million and $2.3 million in 2022 and 2021, respectively. The increase in 2022 was primarily due to transaction losses associated with the Argentine Peso and Turkish Lira. The Company reports the results of its subsidiaries in Argentina and Turkey using highly inflationary accounting, which requires that the functional currency of the entity be changed to the reporting currency of its parent.
Income Taxes
The provision for income taxes in 2022 and 2021 was $46.4 million and $34.7 million, respectively. The effective tax rate for 2022 both before and after the impact of discrete events was about 20 percent. The effective tax rate for 2021 was about 18 percent and, before the impact of discrete events, was about 21 percent. The tax rate was lower than the statutory rate of 21 percent primarily due to the recognition of the U.S. deduction for Foreign Derived Intangible Income, certain incentives, and discrete events. The increase in the effective tax rate in 2022 was primarily a result of smaller net favorable discrete events recorded in 2022 compared to 2021, primarily related to excess tax benefits from share-based compensation.
Net Income
Net income for 2022 was $188.8 million compared to 2021 net income of $155.0 million. Net income attributable to Franklin Electric Co., Inc. for 2022 was $187.3 million, or $3.97 per diluted share, compared to 2021 net income attributable to Franklin Electric Co., Inc. of $153.9 million, or $3.25 per diluted share.
CAPITAL RESOURCES AND LIQUIDITY
Sources of Liquidity
The Company's primary sources of liquidity are cash on hand, cash flows from operations, revolving credit agreements, and long-term debt funds available. The Company believes its capital resources and liquidity position at December 31, 2022 is adequate to meet projected needs for the foreseeable future. The Company expects that ongoing requirements for operations, capital expenditures, pension obligations, dividends, share repurchases, and debt service will be adequately funded from cash on hand, operations, and existing credit agreements.
As of December 31, 2022, the Company had a $350.0 million revolving credit facility. The facility is scheduled to mature on May 13, 2026. As of December 31, 2022, the Company had $223.2 million borrowing capacity under the Credit Agreement as $4.0 million in letters of commercial and standby letters of credit were outstanding and undrawn and $122.8 million in revolver borrowings were drawn and outstanding, which were primarily used for funding working capital requirements.
In addition, the Company maintains an uncommitted and unsecured private shelf agreement with NYL Investors LLC, an affiliate of New York Life, and each of the undersigned holders of Notes (the "New York Life Agreement") with a remaining borrowing capacity of $125.0 million as of December 31, 2022. The New York Life Agreement matures on July 30, 2024. The Company also has other long-term debt borrowings outstanding as of December 31, 2022. See Note 10 - Debt for additional specifics regarding these obligations and future maturities.
At December 31, 2022, the Company had $43.4 million of cash and cash equivalents held in foreign jurisdictions, which the Company intends to use to fund foreign operations. There is currently no need to repatriate these funds in order to meet domestic funding obligations or scheduled cash distributions.
Cash Flows
The following table summarizes significant sources and uses of cash and cash equivalents:
Cash flows from operating activities $ 101.7 $ 129.8
Cash flows from investing activities $ (43.1) $ (264.8)
Cash flows from financing activities $ (48.5) $ 50.9
Impact of exchange rates on cash and cash equivalents $ (4.9) $ (6.1)
Change in cash and cash equivalents $ 5.2 $ (90.2)
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Cash Flows from Operating Activities
2022 vs 2021
Net cash provided by operating activities was $101.7 million for 2022 compared to $129.8 million for 2021. The decrease in cash provided by operating activities was primarily due to increased working capital requirements in support of higher revenues.
Cash Flows from Investing Activities
2022 vs. 2021
Net cash used in investing activities was $43.1 million in 2022 compared to $264.8 million in 2021. The decrease was primarily attributable to decreased acquisition activity in 2022.
Cash Flows from Financing Activities
2022 vs. 2021
Net cash used by financing activities was $48.5 million in 2022 compared to $50.9 million provided by financing activities in 2021. The change in financing cash flows was attributable to decreased net proceeds from debt and common stock issuances, increased stock repurchases, higher dividend payments and deferred payments related to acquisitions.
AGGREGATE CONTRACTUAL OBLIGATIONS
The majority of the Company’s contractual obligations to third parties relate to debt obligations. In addition, the Company has certain contractual obligations for future lease payments and purchase obligations. The payment schedule for these contractual obligations is as follows:
(In millions) More than
Purchase obligations 12.8 12.8 — — —
Interest payments on debt obligations are calculated for future periods using interest rates in effect at the end of 2022. Certain of these projected interest payments may differ in the future based on interest rates or other factors or events. The projected interest payments only pertain to obligations and agreements outstanding at December 31, 2022.
The Company has pension and other post-retirement benefit obligations not included in the table above which will result in estimated future payments of approximately $0.8 million in 2023. In addition, due to the timing of funding in future periods being uncertain and dependent on future movements in interest rates, investment returns, changes in laws and regulations and other variables, the table above excludes the non-current liability of $24.9 million for cash outflows related to the Company's pension plans.
The Company also has unrecognized tax benefits, none of which are included in the table above. The unrecognized tax benefits of approximately $0.9 million have been recorded as liabilities and the Company is uncertain as to if or when such amounts may be settled. Related to the unrecognized tax benefits, the Company has also recorded a liability for potential penalties and interest of $0.2 million.
ACCOUNTING PRONOUNCEMENTS
For information regarding recent accounting pronouncements, refer to Note 2 - Accounting Pronouncements, in the Notes to Consolidated Financial Statements in the sections entitled ""Adoption of New Accounting Standards" and "Accounting Standards Issued But Not Yet Adopted", included in Part II, Item 8, "Financial Statements and Supplementary Data" of this Annual Report on Form 10-K.
CRITICAL ACCOUNTING ESTIMATES
Management’s discussion and analysis of its financial condition and results of operations are based upon the Company’s consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities. Management evaluates estimates on an ongoing basis. Estimates are based on historical experience and on other
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assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. There were no material changes to estimates or methodologies used to develop those estimates in 2022. The Company’s critical accounting estimates are identified below:
Inventory Valuation
The Company uses certain estimates and judgments to value inventory. Inventory is recorded at the lower of cost or net realizable value. The Company reviews its inventories for excess or obsolete products or components. Based on an analysis of historical usage, management’s evaluation of estimated future demand, market conditions, and alternative uses for possible excess or obsolete parts, carrying values are adjusted. The carrying value is reduced regularly to reflect the age and current anticipated product demand. If actual demand differs from the estimates, additional reductions would be necessary in the period such determination is made. Excess and obsolete inventory is periodically disposed of through sale to third parties, scrapping, or other means.
Business Combinations and Valuation of Acquired Intangible Assets
The Company follows the guidance under FASB ASC Topic 805, Business Combinations. The acquisition purchase price is allocated to the assets acquired and liabilities assumed based upon their respective fair values. The Company utilizes management estimates and an independent third-party valuation firm to assist in determining the fair values of assets acquired, including intangible assets, and liabilities assumed. The identifiable intangible assets acquired typically include customer relationships and trade names. Identifiable intangible assets are initially valued using a methodology commensurate with the intended use of the asset. The fair value of customer relationships is measured using the multi-period excess earnings method ("MPEEM"). The fair value of trade names is measured using a relief-from-royalty ("RFR") approach, which assumes the value of the trade name is the discounted amount of cash flows that would be paid to third parties had the Company not owned the trade name and instead licensed the trade name from another company. Higher royalty rates are assigned to premium brands within the marketplace based on name recognition and profitability, while other brands receive lower royalty rates. The basis for future sales projections for both the RFR and MPEEM are based on internal revenue forecasts which the Company believes represents reasonable market participant assumptions. The future cash flows are discounted using an applicable discount rate as well as any potential risk premium to reflect the inherent risk of holding a standalone intangible asset. The key uncertainties in the RFR and MPEEM calculations, as applicable, are the selection of an appropriate royalty rate, assumptions used in developing estimates of future cash flows, including revenue growth and expense forecasts, assumed customer attrition rates, as well as the perceived risk associated with those forecasts in determining the discount rate and risk premium. There is inherent uncertainty in forecasted future cash flows and therefore, actual results may differ and could result in subsequent impairment charges of acquired intangibles and/or goodwill.
Indefinite-Lived Intangible Asset and Goodwill Impairment Evaluation
According to FASB ASC Topic 350, Intangibles - Goodwill and Other, intangible assets with indefinite lives must be tested for impairment at least annually or more frequently as warranted by triggering events that indicate potential impairment. The Company uses a variety of methodologies in conducting impairment assessments including income and market approaches. For indefinite-lived assets apart from goodwill, primarily trade names for the Company, if the fair value is less than the carrying amount, an impairment charge is recognized in an amount equal to that excess. The Company has not made any material changes to the method of evaluating impairments during the last three years.
In compliance with FASB ASC Topic 350, goodwill is not amortized. Goodwill is tested at the reporting unit level for impairment annually or more frequently as warranted by triggering events that indicate potential impairment. Reporting units are operating segments or one level below, known as components, which can be aggregated for testing purposes. The Company’s goodwill is allocated to the Global Water Systems, Fueling Systems and Distribution reporting units. As the Company’s business model evolves, management will continue to evaluate its reporting units and review the aggregation criteria.
In assessing the recoverability of goodwill, the Company determines the fair value of its reporting units by utilizing a combination of both the market value and income approaches. The market value approach compares the reporting units’ current and projected financial results to entities of similar size and industry to determine the market value of the reporting unit. The income approach utilizes assumptions regarding estimated future cash flows and other factors to determine the fair value of the respective assets. These cash flows consider factors regarding expected future operating income and historical trends, as well as the effects of demand and competition. The Company is required to record an impairment if these assumptions and estimates change whereby the fair value of the reporting units is below their associated carrying values. Goodwill included on the balance sheet as of the year ended December 31, 2022 was $328.0 million.
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During the fourth quarter of 2022, the Company completed its annual impairment test of goodwill and indefinite-lived trade names and determined the fair value of all intangibles were substantially in excess of the respective carrying values. Significant judgment is required to determine if an indication of impairment has taken place. Factors to be considered include the following: adverse changes in operating results, decline in strategic business plans, significantly lower future cash flows, and sustainable declines in market data such as market capitalization. A 10 percent decrease in the fair value estimates used in the impairment tests would not have changed this determination. The sensitivity analysis required the use of numerous subjective assumptions, which, if actual experience varies, could result in material differences in the requirements for impairment charges. Further, an extended downturn in the economy may impact certain components of the operating segments more significantly and could result in changes to the aggregation assumptions and impairment determination.
Income Taxes
Under the requirements of FASB ASC Topic 740, Income Taxes, the Company records deferred tax assets and liabilities for the future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The Company analyzes the deferred tax assets and liabilities for their future realization based on the estimated existence of sufficient taxable income. This analysis considers the following sources of taxable income: prior year taxable income, future reversals of existing taxable temporary differences, future taxable income exclusive of reversing temporary differences and tax planning strategies that would generate taxable income in the relevant period. If sufficient taxable income is not projected then the Company will record a valuation allowance against the relevant deferred tax assets.
The Company’s operations involve dealing with uncertainties and judgments in the application of complex tax regulations in multiple jurisdictions. These jurisdictions have different tax rates, and the Company determines the allocation of income to each of these jurisdictions based upon various estimates and assumptions. In the normal course of business, the Company will undergo tax audits by various tax jurisdictions. Such audits often require an extended period of time to complete and may result in income tax adjustments if changes to the allocation are required between jurisdictions with different tax rates. The final taxes paid are dependent upon many factors, including negotiations with taxing authorities in the various jurisdictions and resolution of disputes arising from federal, state, and international tax audits. Although the Company has recorded all income tax uncertainties in accordance with FASB ASC Topic 740, these accruals represent estimates that are subject to the inherent uncertainties associated with the tax audit process. Management judgment is required in determining the Company’s provision for income taxes, deferred tax assets and liabilities, which, if actual experience varies, could result in material adjustments to tax expense and/or deferred tax assets and liabilities.
Pension and Employee Benefit Obligations
The Company consults with its actuaries to assist with the calculation of discount rates used in its pension and post retirement plans. The discount rates used to determine domestic pension and post-retirement plan liabilities are calculated using a full yield curve approach. Market conditions have caused the weighted-average discount rate to move from 2.68 percent last year to 5.15 percent this year for the domestic pension plans and from 2.57 percent last year to 5.08 percent this year for the postretirement health and life insurance plan. A change in the discount rate selected by the Company of 25 basis points would result in a change of about $0.1 million to employee benefit expense and a change of about $3.7 million of liability.
The Company consults with actuaries and investment advisors in making its determination of the expected long-term rate of return on plan assets. Using input from these consultations such as long-term investment sector expected returns, the correlations and standard deviations thereof, and the plan asset allocation, the Company will use an expected long-term rate of return on plan assets of 5.70 percent in measuring net periodic cost for 2023. Market conditions have caused the expected long-term rate or return to increase from 4.50 percent as used in measuring net periodic cost for 2022. A change in the long-term rate of return selected by the Company of 25 basis points would result in a change of about $0.3 million of employee benefit expense.
FACTORS THAT MAY AFFECT FUTURE RESULTS
This annual report on Form 10-K contains certain forward-looking information, such as statements about the Company’s financial goals, acquisition strategies, financial expectations including anticipated revenue or expense levels, business prospects, market positioning, product development, manufacturing re-alignment, capital expenditures, tax benefits and expenses, and the effect of contingencies or changes in accounting policies. Forward-looking statements are typically identified by words or phrases such as “believe,” “expect,” “anticipate,” “intend,” “estimate,” “may increase,” “may fluctuate,” “plan,” “goal,” “target,” “strategy,” and similar expressions or future or conditional verbs such as “may,” “will,” “should,” “would,” and “could.” While the Company believes that the assumptions underlying such forward-looking statements are reasonable based on present conditions, forward-looking statements made by the Company involve risks and uncertainties and are not guarantees of future performance. Actual results may differ materially from those forward-looking statements as a result of
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various factors, including general economic and currency conditions, various conditions specific to the Company’s business and industry, new housing starts, weather conditions, epidemics and pandemics, market demand, competitive factors, changes in distribution channels, supply constraints, effect of price increases, raw material costs, technology factors, integration of acquisitions, litigation, government and regulatory actions, the Company’s accounting policies, and other risks, all as described in Item 1A and Exhibit 99.1 of this Form 10-K. Any forward-looking statements included in this Form 10-K are based upon information presently available. The Company does not assume any obligation to update any forward-looking information, except as required by law.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is subject to market risk associated with changes in foreign currency exchange rates, interest rates, and commodity prices. These exposures are actively monitored by management. Exposure to foreign exchange rate risk is due to certain costs, revenue and borrowings being denominated in currencies other than one of the Company’s subsidiaries functional currency. Similarly, the Company is exposed to market risk as the result of changes in interest rates which may affect the cost of financing.
Foreign Currency Exchange Rate Risk
Foreign currency exchange rate risk is mitigated through several means including maintenance of local production facilities in the markets served, invoicing of customers in the currency which the Company is billed for production inputs, prompt settlement of third party and intercompany balances, limited use of foreign currency denominated debt, maintaining minimal foreign currency denominated cash balances, and application of derivative instruments when appropriate. Based on the 2022 mix of foreign currencies, the Company estimates that a hypothetical strengthening of the US Dollar by about 2 percent would have reduced the Company’s 2022 sales by about 1 percent. In addition, as of December 31, 2022, the Company had a notional amount of $10.3 million in forward currency contracts outstanding. The impact of a 10 percent movement in foreign exchange rates would not have a material impact on the Company's consolidated financial position, results of operations, or cash flows.
Interest Rate Risk
The results of operations are exposed to changes in interest rates primarily with respect to borrowings under the Company’s revolving credit agreement (the “Credit Agreement”). Borrowings in USD under the Credit Agreement may be made either at (i) a Secured Overnight Financing Rate (SOFR) TermBenchmark plus an applicable margin or (ii) an alternative base rate as defined in the Credit Agreement. Borrowings in EUR under the Credit Agreement may be made either at (i) a Euro Interbank Offer Rate (EURIBOR) Term Benchmark plus an applicable margin or (ii) an alternative base rate as defined in the Credit Agreement. The Company had $122.8 borrowings at year-end 2022 under the Credit Agreement. The Company estimates that a hypothetical increase of 100 basis points in interest rates would have increased interest expense by $1.0 million during 2022. The Company also has exposure to changes in interest rates in the form of the fair value of outstanding fixed rate debt fluctuating in response to changing interest rates.
One-week and two-month USD LIBOR tenors were phased out by the Intercontinental Exchange Benchmark Administration effective December 31, 2021. All other US LIBOR tenors are scheduled to cease after June 30, 2023. The United States, using the analysis performed by the ARRC (Alternative Reference Rates Committee), elected the Secured Overnight Financing Rate (“SOFR”) as a broad measure of the cost of borrowing cash overnight collateralized by U.S. Treasury Securities. The New York Fed commenced publishing the SOFR rate daily beginning April 3, 2018.
Commodity Price Exposures
Portions of the Company’s business are exposed to volatility in the prices of certain commodities, such as copper, steel and aluminum, among others. The primary exposure to this volatility resides with the use of these materials in purchased component parts. The Company generally maintains long-term fixed price contracts on raw materials and component parts; however, the Company is prone to exposure as these contracts expire. Based on the 2022 use of commodities, the Company estimates that a hypothetical 10 percent adverse movement in prices for raw metal commodities would result in about a 1 percent decrease of gross margin as a percent of net sales.
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Earnings per share:
See Notes to Consolidated Financial Statements.
FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Other comprehensive income/(loss), before tax:
Employee benefit plan activity:
Other comprehensive income/(loss), net of tax (2,968) (23,944) (14,445)
See Notes to Consolidated Financial Statements.
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FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except per share amounts) 2022 2021
ASSETS
Current assets:
Inventories:
Property, plant, and equipment, at cost:
LIABILITIES AND EQUITY
Current liabilities:
Accrued expenses and other current liabilities 120,555 115,408
Current maturities of long-term debt and short-term borrowings 126,756 97,981
Commitments and contingencies (see Note 16) — —
Redeemable noncontrolling interest 620 (19)
Shareholders’ equity:
See Notes to Consolidated Financial Statements.
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FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash flows from operating activities:
Adjustments to reconcile net income to net cash flows from operating activities:
(Gain)/Loss on disposals of plant and equipment 1,285 (269) 1,241
Gain from bargain purchase of business — (6,482) —
Changes in assets and liabilities, net of acquisitions:
Income taxes-U.S. Tax Cuts and Jobs Act (355) — —
Cash flows from investing activities:
Proceeds from sale of property, plant, and equipment 6 979 34
Cash flows from financing activities:
Deferred payments for acquisitions (3,786) — —
Non-cash items:
Additions to property, plant, and equipment, not yet paid $ 628 $ 1,454 $ 1,059
Payable to sellers of acquired entities $ 354 $ 4,000 $ —
Payable for share repurchases $ 1,083 $ — $ —
See Notes to Consolidated Financial Statements.
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FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
CONSOLIDATED STATEMENTS OF EQUITY
Total Shareholders’ Equity
Pension and other post retirement plans, net of tax benefit $1,112 (2,577)
Noncontrolling Dividend (830)
Pension and other post retirement plans, net of tax expense $1,458 3,590
Noncontrolling Dividend (710)
Pension and other post retirement plans, net of tax expense $3,647 8,841
Noncontrolling Dividend (624)
See Notes to Consolidated Financial Statements.
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FRANKLIN ELECTRIC CO., INC. AND CONSOLIDATED SUBSIDIARIES
INDEX TO NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Page Number
Note 1. Summary of Significant Accounting Policies 27
Note 2. Accounting Pronouncements 30
Note 3. Acquisitions 31
Note 4. Fair Value Measurements 33
Note 5. Financial Instruments 33
Note 6. Goodwill and Other Intangible Assets 34
Note 7. Employee Benefit Plans 34
Note 8. Accrued Expense and Other Current Liabilities 39
Note 9. Income Taxes 39
Note 11. Shareholders' Equity 43
Note 12. Accumulated Other Comprehensive Income/(Loss) 44
Note 13. Earnings per Share 44
Note 14. Share-Based Compensation 45
Note 15. Segment and Geographic Information 47
Note 16. Commitments and Contingencies 49
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Company--“Franklin Electric” or the “Company” shall refer to Franklin Electric Co., Inc. and its consolidated subsidiaries.
Fiscal Year--The financial statements and accompanying notes are as of and for the years ended December 31, 2022, December 31, 2021, and December 31, 2020, and referred to as 2022, 2021, and 2020, respectively.
Principles of Consolidation--The consolidated financial statements include the accounts of Franklin Electric Co., Inc. and its consolidated subsidiaries. All intercompany transactions have been eliminated.
Business Combinations--The Company allocates the purchase price of its acquisitions to the assets acquired, liabilities assumed, and noncontrolling interests based upon their respective fair values at the acquisition date. The Company utilizes management estimates and inputs from an independent third-party valuation firm to assist in determining these fair values. The excess of the acquisition price over estimated fair values of the net assets acquired is recorded as goodwill. Goodwill is adjusted for any changes to acquisition date fair value amounts made within the measurement period, which may be up to one year from the acquisition date. If the preliminary, estimated fair values of the net assets acquired are in excess of the acquisition price, that represents a bargain purchase gain, and the Company records this amount in "Accrued expenses and other current liabilities" on the consolidated balance sheet until it completes its determination of fair values for the net assets acquired. Once that fair value determination is completed, the bargain purchase gain is recognized on the consolidated statements of income in "Other income/(expense), net". Acquisition-related transaction costs are recognized separately from the business combination and expensed as incurred.
Revenue Recognition--Revenue is recognized when promised goods or services are transferred to customers in an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. The promise in a contract to transfer goods or services to a customer represents a performance obligation. The Company typically sells its products to customers by purchase order and does not have any additional performance obligations included in contracts to customers other than the shipment of the products. Therefore, the Company allocates the transaction price based on a single performance obligation. The Company typically ships products Free on Board (FOB) shipping point at which point control of the products passes to the customers. The Company considers the performance obligation satisfied and recognizes revenue at a point in time, the time of shipment. The Company applies a practical expedient to expense as incurred costs to obtain a contract with a customer when the amortization period would have been one year or less as well as applies the financing component practical expedient when the duration of the financing is one year or less.
The Company’s products may include routine assurance-type warranties which do not qualify as separate performance obligations. In the event that significant post-shipment obligations were to exist for the Company’s products, revenue recognition would be deferred until the performance obligations were satisfied.
The Company records net sales after discounts at the time of sale based on specific discount programs in effect, related historical data, and experience.
Shipping and Handling Costs--Shipping and handling costs are considered activities required to fulfill the Company’s promise to transfer goods, and do not qualify as a separate performance obligation. Shipping and handling costs are recorded as a component of cost of sales.
Research and Development Expense--The Company’s research and development activities are charged to expense in the period incurred. The Company incurred expenses of approximately $16.7 million in 2022, $17.3 million in 2021, and $21.7 million in 2020 related to research and development.
Cash and Cash Equivalents--The Company considers cash on hand, demand deposits, and highly liquid investments with an original maturity date of three months or less to be cash and cash equivalents.
Fair Value of Financial Instruments--Fair value is defined as the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. The standard established a fair value hierarchy which requires an entity to maximize the use of observable inputs and to minimize the use of unobservable inputs when measuring fair value. The three levels of inputs that may be used to measure fair value within the hierarchy are as follows:
Level 1 – Quoted prices for identical assets and liabilities in active markets;
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Level 2 – Quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets that are not active, and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and
Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
Accounts Receivable, Earned Discounts, and Allowance for Uncollectible Accounts--Accounts receivable are stated at estimated net realizable value. Accounts receivable are comprised of balances due from customers, net of earned discounts and estimated allowances for uncollectible accounts. Earned discounts are based on specific customer agreement terms. In determining allowances for uncollectible accounts, historical collection experience, current trends and reasonable, supportable future forecasts, aging of accounts receivable, and periodic credit evaluations of customers’ financial condition are reviewed.
Inventories--Inventories are stated at the lower of cost or net realizable value. The majority of the cost of domestic and foreign inventories is determined using the first in, first out (FIFO) method with a portion of inventory costs determined using the average cost method. The Company reviews its inventories for excess or obsolete products or components based on an analysis of historical usage and management’s evaluation of estimated future demand, market conditions, and alternative uses for possible excess or obsolete parts.
Property, Plant, and Equipment--Property, plant, and equipment are stated at historical cost. The Company capitalizes certain computer software and software development costs incurred in connection with developing or obtaining computer software for internal use, which are included in property, plant, and equipment. Depreciation of property, plant and equipment is calculated on a straight line basis over the following estimated useful lives:
Land improvement and buildings 10 - 40 years
Machinery and equipment 5 - 10 years
Software 3 - 7 years
Furniture and fixtures 3 - 7 years
Maintenance, repairs, and renewals of a minor nature are expensed as incurred. Betterments and major renewals which extend the useful lives or add to the productive capacity of buildings, improvements, and equipment are capitalized. The Company reviews its property, plant, and equipment for impairment at the asset group level whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. If an indicator is present, the Company compares carrying values to undiscounted future cash flows; if the undiscounted future cash flows are less than the carrying value, an impairment would be recognized for the difference between the fair value and the carrying value.
The Company’s depreciation expense was $33.1 million, $30.2 million, and $27.1 million in 2022, 2021, and 2020, respectively.
Leases--The Company determines if an arrangement is a lease, or contains a lease, at the inception of the arrangement and determines whether it is an operating or financing lease. Operating and financing leases result in the Company recording a right-of-use ("ROU") asset, current lease liability, and long term lease liability on its balance sheet. The Company has elected to not present leases with an initial term of 12 months or less on the balance sheet. The ROU assets and liabilities are initially recognized based on the present value of lease payments over the lease term. Initial direct costs and lease incentives are generally not material when measuring the ROU asset present value. Lease expense for operating lease payments is recognized on a straight-line basis over the lease term.
In determining the present value, the Company utilizes interest rates from lease agreements unless the lease agreement does not provide a readily determinable rate. In these instances, the Company utilizes its incremental borrowing rate based on the Company’s borrowing information available at inception. A portion of the Company’s leases include renewal options. The Company excludes these renewal options in the expected lease term unless the Company is reasonably certain that the option will be exercised. In addition, the Company has elected not to separate non-lease components from lease components.
Goodwill and Other Intangible Assets--Goodwill is tested at the reporting unit level. In assessing the recoverability of goodwill, the Company determines the fair value of its reporting units by utilizing a combination of both the income and market valuation approaches. The income approach estimates fair value based upon future revenue, expenses, and cash flows
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discounted to present value. The market valuation approach estimates fair value using market multipliers of various financial measures compared to a set of comparable public companies. The fair value calculated for each reporting unit is considered a Level 3 measurement within the fair value hierarchy. An impairment exists if the carrying value of the reporting unit is higher than its fair value. The Company will test goodwill for impairment more frequently if warranted by triggering events that indicate potential impairment. The Company completed its annual goodwill impairment test during the fourth quarter, using balances as of October 1.
The Company also tests indefinite-lived intangible assets, primarily trade names, for impairment on an annual basis during the fourth quarter of each year, using balances as of October 1, or more frequently as warranted by triggering events that indicate potential impairment. In assessing the recoverability of the trade names, the Company determines the fair value using an income approach. The income approach estimates fair value based upon future revenue and estimated royalty rates, discounted to present value. The fair value calculated for indefinite-lived intangible assets is considered a Level 3 measurement within the fair value hierarchy. An impairment exists if the carrying value of the trade names is higher than the fair value, and the Company would record an impairment charge for the difference.
Amortization is recorded and calculated for definite-lived intangible assets on a basis that reflects cash flows over the estimated useful lives. The estimated useful lives over which each intangible class is amortized is as follows:
Customer relationships 13 - 20 years
Patents 17 years
Technology 15 years
Trade names 5 - 20 years
Other 5 - 8 years
Definite-lived intangible assets are evaluated for impairment whenever a triggering event, including a significant change in the use of the asset or unexpected change in financial condition, occurs that indicates the carrying value may be impaired. The Company tests for impairment at the asset group level by comparing the carrying value of an asset group that includes the applicable definite lived intangible asset(s) to that asset group's undiscounted future cash flows. An impairment exists if the carrying value of the definite-lived intangible assets is higher than the fair value, and the Company would record an impairment charge for the difference.
Warranty Obligations--The Company provides warranties on most of its products. The warranty terms vary but are generally 2 years to 5 years from the date of manufacture or 1 year to 5 years from the date of installation. Provisions for estimated expenses related to product warranty are made at the time products are sold or when specific warranty issues are identified. These estimates are established using historical information about the nature, frequency, and average cost of warranty claims. The Company actively studies trends of warranty claims and takes actions to improve product quality and minimize warranty claims.
Income Taxes--Deferred tax assets and liabilities are determined based on the difference between the financial statement and tax basis of assets and liabilities and net operating loss and credit carry forwards using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized. The Company records a liability for uncertain tax positions by establishing a recognition threshold and measurement attribute for recognition and measurement of a tax position taken or expected to be taken in a tax return.
Defined Benefit Plans--The Company makes its determination for pension, post retirement, and post employment benefit plans liabilities based on management estimates and consultation with actuaries. The Company incorporates estimates and assumptions of future plan service costs, future interest costs on projected benefit obligations, rates of compensation increases, employee turnover rates, anticipated mortality rates, expected investment returns on plan assets, asset allocation assumptions of plan assets, and other factors.
Earnings Per Common Share--The Company utilizes the two-class method to compute earnings available to common shareholders. Under the two-class method, the Company allocates net earnings to each class of common stock and participating security as if all of the net earnings for the period had been distributed. The Company’s participating securities consist of share-based payment awards that contain a non-forfeitable right to receive dividends and therefore are considered to participate in undistributed earnings with common shareholders. Basic earnings per common share excludes dilution and is calculated by dividing net earnings allocated to common shares by the weighted-average number of common shares outstanding for the
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period. Diluted earnings per common share is calculated by dividing net earnings allocable to common shares by the weighted-average number of common shares outstanding for the period, as adjusted for the potential dilutive effect of non-participating share-based awards and non-employee deferred shares.
Translation of Foreign Currency Financial Statements--All assets and liabilities of foreign subsidiaries in functional currency other than the U.S. dollar are translated at year-end exchange rates with the exception of the non-monetary assets and liabilities in countries with highly inflationary economies, which are translated at historical exchange rates. All revenue and expense accounts are translated at average rates in effect during the respective period with the exception of expenses related to the non-monetary assets and liabilities, which are translated at historical exchange rates. Transaction gains and losses and highly inflationary accounting adjustments are included in “Foreign exchange income/(expense)” within the Company’s consolidated statements of income, as incurred.
In the second quarter of 2022, the Company concluded that Turkey represents a highly inflationary economy as its projected three-year cumulative inflation rate exceeds 100 percent. As a result, the Company started remeasuring the financial statements for the Company’s Turkish operations in accordance with the highly inflationary accounting rules in FASB ASC 830, Foreign Currency Matters, as of April 1, 2022. As a result, all gains and losses resulting from the remeasurement of the financial results of operations and other transactional foreign exchange gains and losses are reflected in earnings rather than as a component of the Company’s comprehensive income within shareholders’ equity. Additionally, the Company’s operations in Argentina have also been accounted for using the highly inflationary accounting rules since the date they were acquired in 2018.
Significant Estimates--The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make significant estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of expenses during the reporting periods. Although the Company regularly assesses these estimates, actual results could materially differ. The Company bases its estimates on historical experience and various other assumptions that it believes to be reasonable under the circumstances.
2. ACCOUNTING PRONOUNCEMENTS
Adoption of New Accounting Standards
In August 2020, the FASB issued Accounting Standards Update ("ASU") 2020-06, Debt – Debt with Conversion and Other Options (Subtopic 470-20) and Derivatives and Hedging – Contracts in Entity’s Own Equity (Subtopic 815-40): Accounting for Convertible Instruments and Contracts in an Entity’s Own Equity. ASU 2020-06 reduces the number of accounting models for various convertible instruments and reduces form-over-substance-based accounting conclusions for the derivatives scope exception for contracts in an entity’s own equity. The FASB also updated Earnings Per Share (“EPS”) guidance under Topic 260 by requiring an entity to consider the potential effect of share settlement in the diluted EPS calculation for instruments that may be settled in cash or shares as well as other amendments. ASU 2020-06 is effective for interim and annual periods beginning after December 15, 2021 with early adoption permitted but no earlier than fiscal years beginning after December 15, 2020. The guidance should be adopted at the beginning of a fiscal year. ASU 2020-06 should be applied on either a retrospective or modified retrospective basis. The Company adopted the standard effective January 1, 2022 using the modified retrospective approach, and it did not have a material impact on the Company's consolidated financial position, results of operations, or cash flows.
In December 2022, the FASB issued ASU 2022-06, Reference Rate Reform (Topic 848): Deferral of the Sunset Date of Topic 848. ASU 2022-06 has deferred the sunset date of Topic 848 from December 31, 2022 to December 31, 2024 due to the UK Financial Conduct Authority (FCA) announcing that the intended cessation date of the overnight 1, 3, 6 and 12 month tenors of the USD LIBOR would not be until June 30, 2023, which is beyond the original sunset date. ASU 2022-06 is effective upon issuance and should be applied on a prospective basis. The Company adopted the standard effective December 21, 2022, the issuance date, and it did not have a material impact on the Company's consolidated financial position, results of operations, or cash flows.
Accounting Standards Issued But Not Yet Adopted
In October 2021, the FASB issued ASU 2021-08, Business Combinations (Topic 805): Accounting for Contract Assets and Contract Liabilities from Contracts with Customers. ASU 2021-08 requires entities to recognize and measure contracts on the acquisition date in accordance with ASC 606, Revenue from Contracts with Customers, as if it had originated the contracts. This will improve comparability after the business combination by providing consistent recognition and measurement guidance for revenue contracts with customers acquired in a business combination and revenue contracts with customers not acquired in a business combination. ASU 2021-08 is effective for interim and annual periods beginning after December 15, 2022 with early adoption permitted. ASU 2021-08 should be applied on a prospective basis to business combinations that occur after the
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effective date. The Company plans to adopt this ASU on January 1, 2023 and does not anticipate the adoption to have a material impact on the Company's consolidated financial position, results of operations, or cash flows.
In September 2022, the FASB issued ASU 2022-04, Liabilities - Supplier Finance Programs (Subtopic 405-50): Disclosure of Supplier Finance Program Obligations. ASU 2022-04 creates the obligation for a company that uses a supplier finance program to purchase goods or services to disclose qualitative and quantitative information about its supplier finance program(s). This will allow financial statement users to better consider the effect of the program(s) on the entity's working capital, liquidity and cash flow over time. ASU 2022-04 is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years, except for the amendment on rollforward information, which is effective for fiscal years beginning after December 15, 2023 with early adoption permitted. ASU 2022-04 should be applied retrospectively to each period in which a balance sheet is presented except for the amendment on rollforward information, which should be applied prospectively. The Company plans to adopt this ASU on January 1, 2023 and does not anticipate the adoption to have a material impact on the Company's consolidated financial position, results of operations, or cash flows.
3. ACQUISITIONS
2022
During the fourth quarter ended December 31, 2022, the Company acquired 100 percent of the ownership interests of Casper Well Products ("Casper") for a purchase price of $2.0 million after working capital adjustments. Casper conducts the sale and distribution of pumps, drilling equipment, tanks, pipe, accessories and other equipment used in drilling water wells and distribution of water-related products. The fair value of the assets acquired and liabilities assumed is preliminary as of December 31, 2022. In addition, the Company has not presented separate results of operations of the acquired company since the closing of the acquisition or combined pro forma financial information of the Company and the acquired interest since the beginning of 2021, as the results of operations for this acquisition are immaterial.
2021
During the fourth quarter ended December 31, 2021, the Company acquired 100 percent of the ownership interests of B&R Industries, Inc. ("B&R"), a water treatment equipment provider located in Mesa, Arizona, for a cash purchase price of $16.3 million after purchase price adjustments based on the level of working capital acquired. B&R will be included as part of the Water Systems segment of the Company. The Company also acquired, in a separate transaction, 100 percent of the ownership interests of Blake Group Holdings, Inc. ("Blake"), a professional groundwater distributor operating in the northeast United States for a cash purchase price of $28.5 million after purchase price adjustments based on the level of working capital acquired. Blake is included as part of the Distribution segment of the Company. The fair value of the assets acquired and liabilities assumed for both acquisitions were considered final as of December 31, 2022.
During the third quarter ended September 30, 2021, the Company acquired 100 percent of the ownership interests of Minetuff Dewatering Pumps Australia Pty Ltd ("Minetuff") for a cash purchase price of $13.7 million after purchase price adjustments based on the level of working capital acquired. Minetuff manufactures and sells submersible pumps, spare parts, and accessories to the mining industry and expands the Company’s existing product offerings and channel access in the Water Systems segment. The fair value of the assets acquired and liabilities assumed for the acquisition were considered final as of September 30, 2022.
During the second quarter ended June 30, 2021, the Company acquired, in separate transactions, 100 percent of the ownership interests of Puronics, Inc. and its wholly owned subsidiaries ("Puronics"), headquartered in Livermore, California, and 100 percent of the ownership interests of New Aqua, LLC ("New Aqua") and its wholly owned subsidiaries, headquartered in Indianapolis, Indiana. Both Puronics and New Aqua are water treatment equipment providers and are included as a part of the Water Systems segment of the Company. In a separate transaction during the second quarter ended June 30, 2021, the Company acquired all of the assets of Power Integrity Services, LLC, a North Carolina-based company, which is included in the Fueling Systems segment of the Company.
In another separate transaction during the quarter ended June 30, 2021, the Company acquired all of the assets of Atlantic Turbine Pump, LLC, a Georgia-based company, which is included in the Distribution segment of the Company. The Company recorded fair values that exceeded the acquisition price by $0.4 million, representing a bargain purchase gain due to favorable market conditions that was recorded within the "Other income/(expense), net" line in the consolidated statements of income for the year ended December 31, 2021.
The combined, all-cash purchase price for all acquisitions in the second quarter of 2021 was $185.5 million after purchase price adjustments based on the level of working capital acquired. The fair value of the assets acquired and liabilities assumed for all acquisitions were considered final as of June 30, 2022.
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The identifiable intangible assets recognized in the separate transactions in 2021 were $132.1 million and consist primarily of customer relationships and trade names from New Aqua of $93.2 million. The intangible assets are being amortized using the straight-line method over 12 - 20 years.
The goodwill of $66.0 million resulting from the acquisitions in 2021 consists primarily of expanded geographical presence and product channel expansion. Goodwill deductible for tax purposes is $62.7 million from the acquisitions in 2021. Goodwill was recorded in the Water Systems, Fueling Systems, and Distribution segments (see Note 6 - Goodwill and Other Intangible Assets).
The final purchase price assigned to the major identifiable assets acquired and liabilities assumed for all acquisitions in 2021 on an aggregated basis is as follows:
(In millions)
Assets:
Inventory $ 34.3
Intangible assets 132.1
Other assets 39.0
Liabilities 27.0
Less: Bargain purchase gain 0.4
Total consideration paid $ 244.0
For all acquisitions in 2021, aggregated annual revenue for the full year 2020 was $191.3 million, which would be incremental to the Company's revenue had the acquisitions occurred on the first day of 2020. Since acquisition in 2021, aggregate revenue was $72.5 million for the year ended December 31, 2021. The Company has not presented separate results of operations since closing or combined pro forma financial information of the Company and the acquired interest since the beginning of 2020, as the results of operations for all acquisitions is immaterial to the Company's consolidated financials.
2020
During the fourth quarter ended December 31, 2020, the Company acquired 100 percent of the ownership interests of Gicon Pumps & Equipment, Inc., a professional groundwater distributor operating seven locations in the state of Texas for a purchase price of $28.1 million after working capital adjustments. The fair value of the assets acquired and liabilities assumed exceeded the purchase price by $6.1 million, representing a bargain purchase gain. This gain was attributable to favorable market conditions and is recorded within the "Other income/(expense), net" line in the consolidated statements of income for the year ended December 31, 2021. In a separate transaction during the fourth quarter ended December 31, 2020, the Company acquired 100 percent of the ownership interests in Waterite Inc. and its affiliate Waterite America Inc., headquartered in Winnipeg, Manitoba, Canada, for a purchase price of $21.9 million after working capital adjustments. The fair value of the assets acquired and liabilities assumed for both acquisitions were considered final as of December 31, 2021. In addition, the Company has not presented separate results of operations of the acquired companies since closing or combined pro forma financial information of the Company and the acquired interests since the beginning of 2020, as the results of operations for both acquisitions are immaterial to the Company's consolidated financials.
During the first quarter ended March 31, 2020, the Company acquired all of the assets of a company that manufactures line shaft turbines and other adjacent product lines for a purchase price of $5.9 million after working capital adjustments. The fair value of the assets acquired and liabilities assumed were considered final as of March 31, 2021. In addition, the Company has not presented separate results of operations of the acquired company since closing or combined pro forma financial information of the Company and the acquired interest since the beginning of 2020, as the results of operations for this acquisition is immaterial.
The identifiable intangible assets recognized in the separate transactions in 2020 were $14.9 million, and consist primarily of customer relationships, which are being amortized utilizing the straight-line method over 15 years.
The goodwill of $10.2 million resulting from the separate acquisitions in 2020 consists primarily of the benefits of complementary product offerings and expanded geographical presence. Goodwill was recorded in the Water segment, and only a portion ($1.4 million) is expected to be deductible for tax purposes.
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Transaction costs for all acquisition related activity were expensed as incurred under the guidance of FASB ASC Topic 805, Business Combinations. Transaction costs are included in the "Selling, general, and administrative expenses" line of the Company’s consolidated statements of income and were $0.2 million, $0.9 million, and $0.0 million for the years ended December 31, 2022, 2021, and 2020, respectively.
4. FAIR VALUE MEASUREMENTS
As of December 31, 2022 and December 31, 2021, the assets and liabilities measured at fair value on a recurring basis were as set forth in the table below:
Assets:
Cash equivalents $ 7.9 $ 7.9 $ — $ —
Total assets $ 7.9 $ 7.9 $ — $ —
Liabilities:
Share swap transaction $ 0.1 $ 0.1 $ — $ —
Total liabilities $ 0.1 $ 0.1 $ — $ —
Assets:
Cash equivalents $ 5.3 $ 5.3 $ — $ —
Share swap transaction $ 0.6 0.6 $ — $ —
Total assets $ 5.9 $ 5.9 $ — $ —
The Company’s Level 1 cash equivalents assets are generally comprised of foreign bank guaranteed certificates of deposit and short term deposits. The share swap transaction is recorded within the "Accounts Payable" and "Receivables" lines of the consolidated balance sheets and is further described in Note 5 - Financial Instruments. The Company has no assets measured on a recurring basis classified as Level 2 or Level 3 excluding the recurring fair value measurements in the Company's pension and other retirement plans as discussed in Note 7 - Employee Benefit Plans.
Total debt, including current maturities, have carrying amounts of $216.1 million as of December 31, 2022 and $188.5 million at December 31, 2021. The estimated fair value of all debt was $213.2 million and $196.1 million as of December 31, 2022 and December 31, 2021, respectively. In the absence of quoted prices in active markets, considerable judgment is required in developing estimates of fair value. Estimates are not necessarily indicative of the amounts the Company could realize in a current market transaction. In determining the fair value of its debt, the Company uses estimates based on rates currently available to the Company for debt with similar terms and remaining maturities. Accordingly, the fair value of debt is classified as Level 2 within the valuation hierarchy.
5. FINANCIAL INSTRUMENTS
The Company’s non-employee directors' deferred compensation stock program is subject to variable plan accounting and, accordingly, is adjusted for changes in the Company’s stock price at the end of each reporting period. The Company has entered into share swap transaction agreements (“the swap”) to mitigate the Company’s exposure to these fluctuations in the Company’s stock price. The swap has not been designated as a hedge for accounting purposes and is cancellable with 30 days written notice by either party. As of December 31, 2022, the swap had a notional value based on 225,000 shares. For the years ended December 31, 2022, December 31, 2021, and December 31, 2020, the swap resulted in a loss of $3.4 million, a gain of $6.2 million, and a gain of $3.2 million, respectively. Gains and losses resulting from the swap were primarily offset by gains and losses on the fair value of the deferred compensation stock liability. All gains or losses and expenses related to the swap are recorded in the Company’s consolidated statements of income within the “Selling, general, and administrative expenses” line.
The Company is exposed to foreign currency exchange rate risk arising from transactions in the normal course of business including making sales and purchases of raw materials and finished goods in foreign denominated currencies with third party
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customers and suppliers as well as to wholly owned subsidiaries of the Company. To reduce its exposure to foreign currency exchange rate volatility, the Company enters into various forward currency contracts to offset these fluctuations. The Company uses forward currency contracts only in an attempt to limit underlying exposure from foreign currency exchange rate fluctuations and to minimize earnings volatility associated with foreign currency exchange rate fluctuations and has not elected to use hedge accounting. Decisions on whether to use such derivative instruments are primarily based on the amount of exposure to the currency involved and an assessment of the near-term market value for each currency. As of December 31, 2022, the Company had a notional amount of $10.3 million in forward currency contracts outstanding and the related fair value of those contracts was not material. For the year ended December 31, 2022, the forward currency contracts resulted in a gain of $1.2 million, respectively. This is recorded in the Company's consolidated statements of income within the "Foreign exchange income/(expense)" line.
6. GOODWILL AND OTHER INTANGIBLE ASSETS
The carrying amounts of the Company’s intangible assets are as follows:
Amortizing intangibles:
Unamortizing intangibles:
Amortization expense related to intangible assets for the years ended December 31, 2022, 2021, and 2020, was $17.2 million, $14.4 million, and $9.4 million, respectively.
Amortization expense for each of the five succeeding years is projected as follows:
The change in the carrying amount of goodwill by reportable segment for 2022 and 2021, is as follows:
(In millions) Water Systems Fueling Systems Distribution Consolidated
Adjustments to prior year acquisitions (0.1) — — (0.1)
Foreign currency translation (2.9) — — (2.9)
Acquisitions — — 1.2 1.2
Adjustments to prior year acquisitions 0.5 — (0.4) 0.1
Foreign currency translation (2.5) (0.4) — (2.9)
7. EMPLOYEE BENEFIT PLANS
Defined Benefit Plans - As of December 31, 2022, the Company maintained two domestic pension plans and three German pension plans. The Company used a December 31, 2022 measurement date for these plans. One of the Company’s domestic pension plans covers one active management employee, while the other domestic plan covers all eligible employees. Both
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domestic plans were frozen as of December 31, 2011. The two domestic and three German plans collectively comprise the ‘Pension Benefits’ disclosure caption.
Other Benefits - The Company’s other post-retirement benefit plan provides health and life insurance to domestic employees hired prior to 1992. The Company effectively capped its cost for those benefits through plan amendments made in 1992, freezing Company contributions for insurance benefits at 1991 levels for current and future beneficiaries with actuarially reduced benefits for employees who retire before age 65. The disclosures surrounding this plan are reflected in the “Other Benefits” caption.
The following table sets forth aggregated information related to the Company’s pension benefits and other postretirement benefits, including changes in the benefit obligations, changes in plan assets, funded status, amounts recognized in the balance sheet, amounts recognized in accumulated other comprehensive income, and actuarial assumptions that the Company considered in its determination of benefit obligations and plan costs.
(In millions) Pension Benefits Other Benefits
Accumulated benefit obligation, end of year $ 133.2 $ 171.6 $ 6.0 $ 7.7
Change in projected benefit obligation:
Benefit obligation, beginning of year $ 175.2 $ 188.9 $ 7.7 $ 8.5
Service cost 0.7 0.7 — —
Actuarial (gain)/loss (32.5) (4.3) (1.1) (0.1)
Settlements paid (0.3) — — —
Foreign currency exchange (1.5) (1.9) — —
Change in plan assets:
Fair value of assets, beginning of year $ 143.9 $ 153.3 $ — $ —
Actual return on plan assets (20.9) 1.3 — —
Settlements paid (0.3) — — —
Foreign currency exchange (0.1) (0.3) — —
Plan assets, end of year $ 113.4 $ 143.9 $ — $ —
Amounts recognized in balance sheet:
Non current assets $ 3.6 $ 1.6 $ — $ —
Current liabilities (0.5) (0.5) (0.7) (0.7)
Net liability, end of year $ (21.8) $ (31.3) $ (6.0) $ (7.7)
Amount recognized in accumulated other comprehensive income/(loss):
Prior service cost $ — $ — $ — $ —
Settlement — 0.6 — —
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As of December 31, 2022, the pension benefits' aggregate accumulated benefit obligation and benefit obligation in excess of plan assets was $27.9 million and $29.8 million, respectively and as of December 31, 2021, was $33.9 million and $37.5 million, respectively. As of December 31, 2022 and December 31, 2021, the aggregate fair value of plan assets related to the accumulated benefit obligation and benefit obligation was $4.4 million and $4.6 million, respectively.
The following table sets forth other changes in plan assets and benefit obligation recognized in other comprehensive income for 2022 and 2021:
(In millions) Pension Benefits Other Benefits
Net actuarial (gain)/loss $ (5.5) $ (0.1) $ (1.1) $ (0.2)
Amortization of:
Net actuarial loss (5.6) (3.7) (0.1) (0.2)
Prior service credit — — — —
Settlement recognition — (0.6) — —
Foreign currency exchange (0.1) (0.3) — —
Total recognized in other comprehensive income $ (7.9) $ (3.3) $ (0.9) $ (0.3)
The increased discount rate is the largest contributor to the net actuarial gains affecting the benefit obligation for the defined benefit pension plans.
Weighted-average assumptions used to determine domestic benefit obligations:
Pension Benefits Other Benefits
*No rate of increases in future compensation were used in the assumptions for 2022 and 2021, as the cash balance component of the domestic Pension Plan was frozen and the other domestic Pension Plan components do not base benefits on compensation. The weighted-average interest crediting rate of the cash balance component of the domestic Pension Plan was 4.5 percent for 2022, 2021, and 2020 and is based on the approximate 30-year Treasury rate as of November of the prior year with a minimum of 4.5 percent.
Assumptions used to determine domestic periodic benefit cost:
Pension Benefits Other Benefits
*No rate of increases in future compensation were used in the assumptions for 2022, 2021, and 2020, as the cash balance component of the domestic Pension Plan was frozen and the other domestic Pension Plan components do not base benefits on compensation.
For the year ended December 31, 2022, the Company used the PRI-2012 aggregate mortality table, and then projected forward from 2012 using Scale MP-2021 released by the Society of Actuaries during 2021 to estimate future mortality rates based upon current data. For the year ended December 31, 2021, the Company used the PRI-2012 aggregate mortality table, and then projected forward from 2012 using Scale MP-2020 released by the Society of Actuaries during 2020 to estimate future mortality rates based upon current data.
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The following table sets forth the aggregated net periodic benefit cost for all defined benefit plans for 2022, 2021, and 2020:
(In millions) Pension Benefits Other Benefits
Service cost $ 0.7 $ 0.7 $ 0.7 $ — $ — $ —
Expected return on assets (6.1) (5.5) (6.8) — — —
Amortization of:
Transition obligation — — — — — —
Settlement cost — — — — — —
Prior service cost — — — — — —
Settlement cost — — — — — —