ITEM 1A. RISK FACTORS
You should carefully consider each of the risks, assumptions, uncertainties and other factors described below and elsewhere in this Report, as well as any amendments or updates reflected in subsequent filings or furnishings with the SEC. We believe these risks, assumptions, uncertainties and other factors, individually or in the aggregate, could cause our actual results to differ materially from expected and historical results and could materially and adversely affect our business operations, results of operations, financial condition and liquidity.
Industry and Operational Risks
The COVID-19 pandemic and measures taken to contain it have significantly adversely affected, and are likely to continue to significantly adversely affect, our business, results of operations, financial condition, cash flows, liquidity and stock price.
The COVID-19 pandemic has significantly and adversely impacted the global economy and financial markets, with global legislative and regulatory responses including unprecedented monetary and fiscal policy actions across all sectors. Our business, results of operations, financial condition, cash flows, liquidity and stock price were significantly adversely affected by the COVID-19 pandemic in 2020, especially beginning in March. The COVID-19 pandemic continues to have a significant impact on global markets, in the form of supply chain and production disruptions, workforce restrictions and travel restrictions, among other factors, which continues to have significant adverse impacts on Gentherm’s financial performance and operations. The full extent to which the COVID-19 pandemic will impact our business, results of operations, financial condition, cash flows, liquidity and stock price remains uncertain and cannot be predicted with confidence. In particular, if COVID-19 continues to spread or re-emerges or the vaccine rollout is slow or delayed, resulting in an extended period of travel, commercial, social and other similar restrictions or shut-downs,
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we could experience prolonged and significant adverse impacts to our business, results of operations, financial condition, cash flows, liquidity and stock price.
The COVID-19 pandemic and measures taken to contain it have subjected, and continue to subject, our business, results of operations, financial condition, cash flows, liquidity and stock price to a number of material risks and uncertainties, including, but not limited to:
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The risks related to these factors above are discussed in greater detail below in separate risk factors.
The automotive industry, our primary market, is cyclical and a decline in the production levels of our major customers, particularly with respect to models for which we supply significant amounts of product, could adversely affect our business, results of operations and financial condition.
Our Automotive segment represents 95%, 95% and 91% of our product revenues for the years ended December 31, 2020, 2019 and 2018, respectively. Demand for our automotive products is directly related to automotive vehicle production, which is ultimately dependent on consumer demand for automotive vehicles, and our content per vehicle. Automotive sales and production are cyclical and have been, and we expect will continue to be, materially affected by general economic and industry conditions, labor relations issues, fuel prices, regulatory requirements, government initiatives, trade agreements, the availability and cost of credit for us, customers and consumers and other factors.
The inability of our supply chain, or the supply chain of the OEMs and Tier 1s that we supply, to deliver key components, such as semiconductors, could materially adversely affect our business, profitability and results of operations.
Our products contain a significant number of components that we source globally from suppliers who, in turn, source components from their global suppliers. If our supply chain fails to deliver products to us in sufficient quality and quantity on a timely basis, we will be challenged to meet our production schedules, fulfilling our orders, sales and profits could decline, and our commercial reputation and customer relationships could be damaged. Similarly, OEMs and Tier 1s to whom we supply our products are dependent on an ever-greater number of global suppliers to manufacture and sell their products to consumers, which drives sales of our products. These global supply chains have been and may be adversely impacted by events outside of our and their control, including macroeconomic events, trade restrictions, economic recessions, political crises, labor relations issues, liquidity constraints, or natural occurrences, such as the ongoing disruptions from the COVID-19 pandemic. Any significant disruptions to such supply chains could materially adversely affect our business, profitability and results of operations.
The automotive industry is highly reliant on semiconductors and, beginning in the fourth quarter 2020 and continuing in 2021, is facing a significant shortage of semiconductors. The semiconductor supply chain is complex, with capacity constraints occurring throughout. We, the OEMs and Tier 1s must compete among the automotive supply chain and with other industries to satisfy current and near-term requirements for semiconductors, and such allocation is not within our control even though we attempt various mitigating actions. Certain semiconductors we utilize are sourced from a very limited number of suppliers, which further exacerbates the risks to our operations. A shortage of semiconductors or other key components (historically, such as TEDs), especially if prolonged, can disrupt our production schedule and have an adverse effect on our business, profitability and results of operations. OEM and Tier 1 production could also be impacted by this shortage, which would result in reduced sales of our products and could be materially adverse to our operations, profitability and results of operations.
We operate in a highly competitive industry and efforts by our competitors, as well as new non-traditional entrants to the industry could adversely affect our business, results of operations and financial condition.
The automotive component supply industry is subject to intense competition. Business is typically awarded to the supplier offering the most favorable combination of cost, quality, timely delivery, technological innovation and service. There can be no
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assurance that we will be able to compete successfully with the products of our competitors. Further, our competitors’ efforts to grow market share could exert downward pressure on our product pricing and margins. Many of our competitors are substantially larger in size and have substantially greater financial, marketing and other resources than we do, and therefore may be more effective in adapting to customer requirements while being more profitable. In addition, our customers may increase levels of production insourcing for a variety of reasons, such as shifts in customers’ business strategies or the emergence of low-cost production opportunities in other countries, which may adversely affect our sales as well as the profit margins on our products.
In addition, the global automotive industry is experiencing a period of significant technological change. Future automotive vehicle production may be affected by additional industry or consumer behaviors, including the development and use of autonomous and electric vehicles and increasing use of car- and ride-sharing and on-demand transportation as a service, as well as related regulations. The rapidly evolving nature of the markets in which we compete has attracted, and may continue to attract, new entrants, including new entrants from outside the traditional automotive supply industry. Further, in comparison to us, our competitors may foresee the course of market developments more accurately, develop superior products, produce similar products at a lower cost, or adapt quicker to new technologies. If we do not accurately predict, prepare for and respond to new kinds of technological innovations, market developments and changing customer needs, our sales, profitability and long-term competitiveness may be harmed.
We manage our business based on projected future sales volume, which is highly dependent on information received from customers and general market data, and any inaccuracies or changes in such information could adversely affect our business, results of operations and financial condition.
We manage our business based upon projected future sales volumes, which are based upon many factors, including awarded business and assumptions of conversion rates thereof, customers’ forecasts and general market data. Our customers generally do not guarantee sales volumes. In addition, awarded business may include business under arrangements that our customers have the right to terminate without penalty at any time. Further, our customers’ forecasts are subject to numerous assumptions, and such forecasts often are/may be changed rapidly with limited notice. Therefore, our actual sales volumes, and thus the ultimate amount of revenue that we derive from such sales, are not committed. If actual production orders from our customers are not consistent with our projected future sales volumes, we could realize substantially less revenue and incur greater expenses over the life of vehicle programs.
The loss or insolvency of any of our principal customers would adversely affect our future results.
For the year ended December 31, 2020, our top two customers were Lear and Adient which comprised 15% and 14%, respectively, of our product revenues. We are dependent on the continued growth, viability and financial stability of our customers, as well as the OEMS to which our products are supplied. The loss of any significant portion of our sales to any of our customers would have a material adverse effect on our results of operations and financial condition. We have experienced, and we expect to continue to experience, a delay in our collection of accounts receivable balances from our customers, which may be significant and would be at risk in the event of their bankruptcy or other restructuring.
Our inability to achieve product cost reductions which offset customer-imposed price reductions could adversely affect our financial performance.
Downward pricing pressure is customarily applied by automotive manufacturers to the automotive supply chain. Our customer contracts generally provide for annual price reductions over the production life of the vehicle, while requiring us to assume significant responsibility for the design, development and engineering of our products. Prices may also be adjusted on an ongoing basis to reflect changes in product content/costs and other commercial factors. Our inability to achieve product cost reductions that offset customer-imposed price reductions could adversely affect our financial condition, results of operations and cash flows.
Our inability to effectively manage the development, timing, quality and costs of new product launches could adversely affect our financial performance.
Gentherm is developing and launching new products and related technologies for its battery performance solutions and electronic and software systems businesses, and intends to launch other new products in the future. The launch of products employing new technologies is a complex process, the success of which depends on a wide range of factors, including the robustness of our product and manufacturing process development, success in sourcing new components and commodities with suitable suppliers, readiness of our and our suppliers' manufacturing facilities and manufacturing processes, as well as factors related to tooling, equipment, employees, initial product quality and other factors. Given the complexity of new product launches, we may experience difficulties managing product quality, timeliness and associated costs.
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In addition, new program launches require a significant ramp up of costs up to a few years prior to sales of such products. However, our sales related to these new programs generally are dependent upon the timing and success of our customers’ introduction of new vehicles. Our inability to effectively manage the timing, quality and costs of these new program launches could have a materially adverse effect on our business, results of operations and financial condition.
To the extent we are not able to successfully launch new business, vehicle production at our customers could be significantly delayed or shut down. Such operating failures could result in significant financial penalties to us or a diversion of personnel and financial resources to improving launches rather than investment in continuous process improvement or other growth initiatives, and could result in our customers shifting work away from us to a competitor. Any of the foregoing matters could result in a significant loss of revenue and market shares and could have an adverse effect on our profitability and cash flows.
We use important intellectual property in our business. If we are unable to protect our intellectual property or if a third party makes assertions against us or our customers relating to intellectual property rights, our business could be adversely affected.
We own important intellectual property, including patents, trademarks, copyrights and trade secrets, and are involved in numerous licensing arrangements. Our intellectual property plays an important role in maintaining our competitive position in many of the markets that we serve.
We cannot guarantee, however, that we will be able to secure all desired protection, nor that the steps we have taken to protect our intellectual property will be adequate, to prevent infringement of our rights or misappropriation or theft of our technology, trade secrets or know-how. For example, effective patent, trademark, copyright and trade secret protection may be unavailable or limited in some of the countries in which we operate. In addition, while we generally enter into confidentiality agreements with our employees and third parties to protect our trade secrets, know-how, business strategy and other proprietary information, such confidentiality agreements could be breached or otherwise may not provide meaningful protection for our trade secrets and know-how related to the design, manufacture or operation of our products. If it became necessary for us to resort to litigation to protect our intellectual property rights, any proceedings could be burdensome and costly, and we may not prevail. Further, adequate remedies may not be available in the event of an unauthorized use or disclosure of our trade secrets and manufacturing expertise. Finally, for those products in our portfolio that rely on patent protection, once a patent has expired, the product is generally open to competition. Products under patent protection usually generate higher revenues and profitability than those not protected by patents. If we fail to successfully enforce our intellectual property rights, our competitive position could suffer, which could harm our business, financial condition, results of operations and cash flows.
In addition, our competitors may develop technologies that are similar or superior to our proprietary technologies or design around the patents we own or license. Further, as we expand our operations in jurisdictions where the protection of intellectual property rights is less robust, the risk of others duplicating our proprietary technologies increases, despite efforts we undertake to protect them. Foreign governments may adopt regulations, and foreign governments or courts may render decisions, requiring compulsory licensing of intellectual property rights, or foreign governments may require products to meet standards that serve to favor local companies or provide reduced protection relative to other countries.
Our ability to market our products successfully depends on acceptance of our products by existing and potential customers and consumers, as well as the success of our customers.
We have been, and will continue to be, required to educate potential customers and demonstrate that the merits of our existing products justify the costs associated with them. Similar efforts will be required with existing and potential customers for additional products we develop using technologies we develop or license. Customers will only include our products if there appears to be consumer demand. For our automotive products, we rely on OEMs and applicable dealer networks to market our products to consumers, and we do not have any control over the marketing budget or messaging nor the training of employees and agents regarding our products. Further, OEMs and dealer networks may market products offered by our competitors, including products manufactured by such OEMs. If customers or consumers conclude that temperature control seats or our other automotive products are unnecessary or too expensive or that our competitors offer more favorable sales terms or better products, OEMs and other manufacturers may reduce availability or decline to include our products in their vehicles.
Adverse developments affecting one or more of our suppliers, or the suppliers of the OEMs and Tier 1s we supply, could harm our profitability and business reputation.
Our supply chain may be adversely impacted by events outside of our control, including macro-economic events, trade restrictions, political crises, labor relations issues, liquidity constraints, natural or environmental occurrences or other factors noted
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herein that can adversely affect us, which may adversely affect our operations and profitability. We operate a global supply chain that has been, and could in the future continue to be, disrupted by the COVID-19 pandemic, resulting in delays or inefficiencies in production. While we have been successful in mitigating these supply chain challenges, future component shortages could limit our production in the future.
In addition, many of our products include TEDs, which contain certain raw materials that generally cannot be substituted. The prices for these raw materials fluctuate depending on market conditions. Tellurium, a raw material used in TEDs, and other key raw materials include copper, silver and petroleum-based engineered plastics. If the market prices for these raw materials significantly increases, as they have in the past, our gross profit may be adversely impacted to the extent our suppliers pass those price increases on to us.
If our suppliers fail to deliver products, parts, components and raw materials of sufficient quality and quantity and to our other stated written expectations on a timely basis, we could have difficulties meeting our production schedules, fulfilling our orders, sales and profits could decline, and our commercial reputation and customer relationships could be damaged. If we were to experience a significant or prolonged shortage of critical components from any of our suppliers, particularly those who are sole sources, and could not procure the components from other sources, or necessary raw materials are not available due to supply chain disruption, we would be unable to meet our production schedules for some of our key products or to ship such products to our customers in a timely fashion which would adversely affect sales, margins and customer relations which could materially adverse effect our business, results of operations and financial condition. Unfavorable economic or industry conditions increases the risk of supply disruption.
Security breaches and other disruptions to our information technology networks and systems, including a disruption related to cybersecurity, could interfere with our operations and could compromise the confidentiality of our proprietary information or personal information.
We rely on our information technology systems and networks in connection with many of our business activities. Some of these networks and systems are managed by third-party service providers and are not under our direct control. Our operations routinely involve receiving, storing, processing and transmitting sensitive information pertaining to our business, customers, dealers, suppliers, employees and other sensitive matters. We rely upon the capacity, reliability and security of our IT and data security infrastructure, as well as our ability to expand and continually update this infrastructure in response to the changing needs of our business. If we experiences a problem with the functioning of an important IT system or a security breach of our IT systems, due to failure to timely upgrade systems or during system upgrades and/or new system implementations, or resulting from failures of our third-party service providers, the resulting disruptions could have an adverse effect on our business.
As with most companies, we have experienced cyber-attacks, attempts to breach our systems and other similar incidents, none of which were material in 2020. Any future cyber incidents could, however, materially disrupt operational systems; result in loss of trade secrets or other proprietary or competitively sensitive information; compromise personally identifiable information regarding customers or employees; delay our ability to deliver products to customers; and jeopardize the security of our facilities. A cyber incident could be caused by malicious outsiders (including state-sponsored espionage or cyberwarfare) or insiders using sophisticated methods to circumvent firewalls, encryption and other security defenses. Because techniques used to obtain unauthorized access or to sabotage systems change frequently and generally are not recognized until they are launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. Information technology security threats, including security breaches, computer malware, “ransomware” and other cyber-attacks, are increasing in both frequency and sophistication and could create financial liability, subject us to legal or regulatory sanctions or damage our reputation with customers, dealers, suppliers and other stakeholders. Many victims of ransomware are forced to pay significant ransoms to regain access to their critical business data. With some of our employees working from home during the COVID-19 pandemic, there may be increased opportunities for unauthorized access and cyber-attacks. Security breaches could also result in a violation of U.S. and international privacy and other laws and subject the Company to various litigations, investigations and proceedings. We continuously seek to maintain a robust program of information security and controls, but the impact of a material information technology event could have a material adverse effect on our competitive position, reputation, results of operations, financial condition and cash flows.
Despite our implementation of security measures, our IT systems, like those of other companies, are vulnerable to damages from computer viruses, natural disasters, unauthorized access, cyber-attack and other similar disruptions. No IT system can be fully secure and impervious to all threats or failures. Any system failure, accident or security breach could result in disruptions to our operations. A material network breach in the security of our IT systems could include the theft of our intellectual property, trade secrets, customer information, human resources information or other confidential information. To the extent that any disruptions or security breach results in a loss or damage to our data, or an inappropriate disclosure of confidential, proprietary or customer information, it could
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cause significant damage to our reputation, affect our relationships with its customers, lead to claims against us, fines and other penalties assessed upon us by governmental authorities, and ultimately harm our business. In addition, we may be required to incur significant costs to remediate and protect against damage caused by these disruptions or security breaches in the future.
Our business is subject to risks associated with manufacturing processes.
If certain of our existing production facilities become incapable of manufacturing products for any reason, such as the extended work stoppages we experienced in the first half of 2020 as the pandemic spread and governmental authorities initiated “lock-down” orders for all non-essential activities, we may be unable to meet production requirements, sales and profits could decline, and our commercial reputation could be damaged. Without operation of certain existing production facilities, we may be limited in our ability to deliver products until we restore the manufacturing capability at the particular facility, find an alternative manufacturing facility or arrange an alternative source of supply. Furthermore, in November 2020, the California Privacy Rights Act (“CPRA”) was passed as a ballot measure. While many of the CPRA’s substantive modifications will not go into effect until 2023, they will require businesses to dedicate time and resources on compliance efforts, in some cases requiring new or modified practices and operations.
We maintain property damage insurance that we believe to be adequate to provide for reconstruction of facilities and equipment, as well as business interruption insurance to mitigate losses resulting from any production interruption or shutdown caused by an insured loss. However, any recovery under our insurance policies may not offset the lost sales, harm to our business reputation or increased costs that may be experienced during the disruption of operations. Further, any such proceeds may be received and accounted for in a different reporting period, which could materially and adversely affect our business, financial condition, results of operations and cash flow generally or for a specific reporting period.
If we fail to manage our growth effectively or to integrate successfully any new or future business ventures, acquisitions or strategic alliance into our business, our business could be materially adversely harmed.
We regularly consider opportunities to pursue business ventures, acquisitions, and strategic alliances that could leverage our products and capabilities, as well as, enhance our customer base, geographic penetration and scale, to complement our current businesses, some of which could be material. Finding and assessing a potential growth opportunity and completing a transaction involves extensive due diligence, management time and expense; however, the amount of information we can obtain about a potential growth opportunity may be limited. Further, we can give no assurance that new business ventures, acquisitions, and strategic alliances will positively affect our financial performance or will perform as planned, including regarding anticipated synergies. We may not be able to successfully assimilate or integrate companies that we acquire, including personnel, financial systems, distribution, operations, internal controls and general operating procedures. Further, for significant transactions, we would expect to incur additional debt, issue equity and/or increase capital expenditures, which may increase leverage risks, result in dilution or reduce capital available for other investments in ongoing operations. If we fail to assimilate or integrate acquired companies successfully, our business, reputation and results of operations could be materially impacted. Likewise, our failure to integrate and manage acquired companies successfully may lead to future impairment of any associated goodwill and intangible asset balances. Given our limited history in the patient temperature management business, the foregoing risks may be heightened due to our lack of experience in integrating similar businesses.
Work stoppages, including those at our customers, and similar events could significantly disrupt our business.
Because the automotive industry relies heavily on “just-in-time” delivery of components, a work stoppage at one or more of Gentherm's production facilities could have adverse effects on the business. Similarly, if one or more of our direct customers or an OEM were to experience a work stoppage, such as what occurred during the General Motors labor strike occurring in fall 2019 or the work stoppages that occurred in the first half of 2020 as a result of the COVID-19 pandemic, our customer would likely halt or limit purchases of our products, which could result in the temporary shutdown of the related Gentherm production facilities or other restructuring initiatives.
Our global operations subject us to risks that may harm our operations and financial results.
In 2020, 59% of our product revenue was generated from sales to customers outside the United States. We have significant personnel, property, equipment and operations in a number of countries outside of the United States, including Canada, China, Germany, Hungary, Macedonia, Mexico, Ukraine and Vietnam. Our exposure to the risks described below is substantial. We also derive a significant portion of revenues from Europe and Asia and conduct certain investing and financing activities in local currencies.
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In addition to the general risks relating to our operations, our international operations are subject to unique risks inherent in doing business abroad, including:
• exposure to local economic, political and labor conditions;
• expropriation, nationalization or other protectionist activities;
Additionally, our primary manufacturing locations are in Mexico, China, Vietnam, Macedonia and Ukraine, all countries that have historically experienced a heightened degree of political, civil and labor uncertainty. Political conflict and related demonstrations and violence in Ukraine in recent years, for example, highlights the risks to our foreign manufacturing facilities. Although our manufacturing facility in Ukraineis located approximately 700 miles by road from Kiev, and approximately the same distance from the activities along the border of Ukraine and Russia where fighting has occurred, we cannot be certain that similar demonstrations, unrest and international tensions will not affect our facility in the future, including due to electrical outages and periodic battles with separatists closer to our facility. In addition, certain of our employees in Ukraine are routinely conscripted into the military and/or sent to the Russian border to fight in the ongoing conflict. Furthermore, most of our products manufactured in Ukraine are shipped across the border from Ukraine to Hungary for further delivery to our customers. If that border crossing were to be closed or restricted for any reason, we would essentially experience a loss of the use of our Ukrainian facility, which would have a material adverse effect on our business.
Defects or quality issues associated with our medical products could adversely affect the results of our operations.
Our design, manufacture and marketing of automotive products may subject us to warranty claims and product liability in the event that our products fail to perform as expected and, in the case of product liability, such failure of our products results or is alleged to result in bodily injury or property damage. Any large product liability claims, if made, could exceed our insurance coverage limits and insurance may not continue to be available on commercially acceptable terms, if at all, and we may incur significant costs to defend these claims. If any of our products are or are alleged to be defective, we also may be required to participate in a recall or other corrective action involving such products. Automotive manufacturers are increasingly looking to their suppliers for contribution when faced with recalls and product liability claims, as well as requiring their suppliers to guarantee or warrant their products and bear the costs of repair and replacement of such products under new vehicle warranties. OEMs historically have recalled vehicles for perceived defects in seat heaters, and we have incurred liabilities in connection with the recalls and other field actions. In addition, governmental regulatory agencies throughout the world, such as NHTSA in the U.S., have safety standards that require manufacturers to remedy defects related to vehicle safety through safety recall campaigns, and a manufacturer is obligated to recall vehicles if it determines that the vehicles do not comply with a safety standard. A recall claim brought against us that is not insured, or a product liability claim brought against us in excess of our available insurance, could have an adverse impact on our results of operations and reputation or market acceptance of our products. In certain instances, allegedly defective products may be the result of components supplied by our supply chain, and we may be limited in our ability to obtain recovery from our suppliers of materials or services
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included within our products that are associated with product liability and warranty claims, particularly if the affected items relate to global platforms or involve defects that are identified years after production.
The design, manufacture and marketing of medical products involve certain inherent risks. Manufacturing or design defects, component failures, unapproved or improper use of our products, or inadequate disclosure of risks or other information relating to the use of our products can lead to regulatory action, injury or other serious adverse events. These events could lead to recalls or safety alerts relating to our products (either voluntary or as required by the FDA or similar governmental authorities in other countries), and could result, in certain cases, in the removal of a product from the market. A recall, inadequate disclosure or defect could result in significant costs and lost sales and customers, enforcement actions and/or investigations by state and federal governments or other enforcement bodies, as well as negative publicity and damage to our reputation that could reduce future demand for our products. Personal injuries relating to the use of our products can also result in significant product liability claims being brought against us. In some circumstances, such adverse events could also cause delays in regulatory approval of new products or the imposition of post-market approval requirements, such as further clinical testing. Such clinical testing is costly and time-consuming and could delay market approval or the meeting of additional post-market requirements.
Legal, Regulatory and Compliance Risks
Changes to trade policy, including tariffs and customs regulations, could have a material and adverse effect on our business.
Existing free trade laws and regulations, such as the United States-Mexico-Canada Agreement, provide certain duties and tariffs for qualifying imports and exports, subject to compliance with the applicable classification and other requirements. Changes in laws or policies governing the terms of foreign trade, and in particular increased trade restrictions, tariffs or taxes on imports from countries where we manufacture products, such as China and Mexico, could have a material adverse effect on our business and financial results. For instance, beginning in 2018, the U.S. and Chinese governments have imposed a series of significant incremental retaliatory tariffs to certain imported products. Most notably with respect to the automotive industry, the U.S. imposed tariffs on imports of certain steel, aluminum and automotive components, and China imposed retaliatory tariffs on imports of U.S. vehicles and certain automotive components. Depending upon their duration and implementation, as well as our ability to mitigate their impact, these tariffs and other regulatory actions could materially affect our business, including in the form of increase cost of goods sold, decreased margins, increased pricing for customers, and reduced sales.
Tax matters, including changes in the corporate tax rates, disagreement with taxing authorities and imposition of new taxes could impact our results of operations and financial condition.
We are subject to income and other taxes in the U.S. and our operations, plans and results are affected by tax legislation and other initiatives. We are also subject to regular reviews, examinations, and audits by the Internal Revenue Service and other taxing authorities with respect to our taxes. Although we believe our tax estimates are reasonable, if a taxing authority disagrees with the positions we have taken, we could face additional tax liability, including interest and penalties. There can be no assurance that payment of such additional amounts upon final adjudication of any disputes will not have a material impact on our result of operations and financial position.
We also need to comply with new, evolving or revised tax laws and regulations, more of which may arise as the United States government shifts to a new administration in 2021. The enactment of or increases in tariffs, or other changes in the application or interpretation of tax legislation and other initiatives, or on specific products that we sell or with which our products compete, may have an adverse effect on our business or on our results of operations.
The value of our deferred tax assets may not be realized, which could materially and adversely affect our operating results.
As of December 31, 2020, we had approximately $72 million in net deferred tax assets. These deferred tax assets include net operating loss carryovers and tax credits that can be used to offset taxable income in future periods and reduce income taxes payable in those future periods. Each quarter, we determine the probability of the realization of deferred tax assets, using significant judgments and estimates with respect to, among other things, historical operating results and expectations of future earnings and tax planning strategies. If we determine in the future that there is not sufficient positive evidence to support the valuation of these assets, due to the risk factors described herein or other factors, we may be required to further adjust the valuation allowance to reduce our deferred tax assets. Such a reduction could result in material non-cash expenses in the period in which the valuation allowance is adjusted and could have a material adverse effect on our financial statements.
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Our patient temperature management business is subject to extensive industry regulation and failure to comply with all applicable rules and regulation may adversely impact us.
Our patient temperature management products are subject to extensive, complex, costly and evolving government regulation. In the United States, this is principally administered by the Food and Drug Administration (“FDA”). Various regulatory agencies in foreign countries where our medical products are sold also regulate that business. Under both United States and foreign country regulations, we are subject to periodic inspection of our facilities (including third-party facilities that are performing services for us), procedures and operations and testing of our products. Following such FDA inspections, should any noncompliance with regulations or other quality issues be noted, we may receive observations, notices, citations and/or warning letters that could require us to get FDA approval of a corrective action plan and modify certain activities identified during the inspection, possibly at a significant cost. We are also required to report adverse events associated with our medical products to the FDA and other foreign regulatory authorities where our products have been approved or received market clearance. Unexpected or serious health or safety concerns could result in liability claims, recalls, market withdrawals or other regulatory actions. Changes in laws or regulations could require us to change the way we operate or to utilize resources to maintain compliance, which could increase costs or otherwise disrupt operations. In addition, failure to comply with any applicable laws or regulations could result in fines or revocation of our operating permits and licenses or, in rare circumstances, market withdrawal of the product.
The process for obtaining governmental approval to manufacture and market new medical devices is time-consuming and costly. We are dependent on receiving FDA and other governmental or third-party approvals prior to manufacturing, marketing and shipping any new medical products. We cannot be certain that any new medical products we develop will receive FDA or other necessary approvals. Also receipt of approval in one country does not guarantee approval by the FDA or any other foreign regulatory agency.
Any failure to comply with anti-corruption laws and regulations could have a material and adverse effect on our reputation, business and financial results.
Our operations outside of the United States require us to comply with various anti-bribery and anti-corruption regulations, including but not limited to the U.S. Foreign Corrupt Practices Act, the United Kingdom Bribery Act and the China Anti-Unfair Competition Law. Violations of these laws, which are complex and often difficult to interpret and apply, could result in significant criminal penalties or sanctions that could adversely affect our business, financial condition, results of operations and cash flows.
A significant product liability lawsuit, warranty claim or product recall involving us or one of our major customers, or an investigation regarding vehicle safety generally, could materially and adversely affect our financial performance.
In the event that our products fail to perform as expected, whether allegedly due to our fault or that of one of our suppliers, and such failure results in, or is alleged to result in, bodily injury and/or property damage or other losses, we may be subject to product liability lawsuits and other claims, and we have been in the past and may again be required or requested by our customers or regulators to participate in a recall or other corrective action involving such products. We also are a party to agreements with certain of our customers, whereby these customers may pursue claims against us for contribution of all or a portion of the amounts sought in connection with product liability and warranty claims. We carry insurance for certain product liability claims, and have utilized such insurance periodically. However, such coverage may be limited for future claims. In addition, we may not be successful in recovering amounts from third parties, including suppliers, in connection with these claims. These types of claims could materially and adversely affect our financial condition, operating results and cash flows.
We are involved from time to time in various legal and regulatory proceedings and claims, which could adversely affect our financial performance.
We are involved in various legal and regulatory proceedings and claims that, from time to time, are significant. These are typically claims that arise in the normal course of business including, without limitation, commercial or contractual disputes, including disputes with our customers, suppliers or competitors, intellectual property matters, personal injury claims, environmental matters, tax matters and employment matters. Such legal and regulatory proceedings could result in an adverse outcome for the Company that would adversely affect our financial condition, results of operations and cash flows.
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Our results of operations and financial condition may be adversely impacted from a decrease in or cessation or clawback of government incentives related to investments, workforce or production.
We have received, and may receive economic benefits from national, state and local governments in various regions of the world in the form of incentives designed to encourage manufacturers to establish, maintain or increase investment, workforce or production. These incentives may take various forms, including grants, loan subsidies and tax abatements or credits. The impact of these incentives can be significant in a particular market during a reporting period. A decrease in, expiration without renewal of, or other cessation or clawback of government incentives for any of our business units, as a result of administrative decision or otherwise, could have an adverse impact on our results of operations and financial condition, as well as our ability to fund new investments.
We are required to comply with environmental laws and regulations that could cause us to incur significant costs.
Our manufacturing facilities are subject to numerous laws and regulations designed to protect the environment, and we expect that additional requirements with respect to environmental matters will be imposed on us in the future. We may also assume, or be deemed to assume, significant environmental liabilities in acquisitions. Environmental liability may be imposed without regard to fault, and under certain circumstances, can be joint and several, resulting in one party being held responsible for the entire obligation. Material future expenditures may be necessary if compliance standards change or material unknown conditions that require remediation are discovered. No assurance can be given that all environmental liabilities have been identified or that no prior owner or operator of our properties or former properties has created an environmental condition not known to us. Environmental laws could also restrict our ability to expand our facilities or could require us to acquire costly equipment or to incur other significant expenses in connection with our business. Violations of these requirements could result in fines or sanctions, obligations to investigate or remediate contamination, third party property damage or personal injury claims due to the migration of contaminants off-site, or modification or revocation of our operating permits, which could materially and adversely affect our financial condition, results of operations and cash flows. Additionally, proposed and existing efforts to address climate change by reducing greenhouse gas emissions could directly or indirectly affect our costs of energy, materials, manufacturing, distribution, packaging and other operating costs, which could impact our business and financial results.
We may face particular privacy, data security and data protection risks.
Legislators and/or regulators in countries in which we operate are increasingly adopting or revising privacy, information security and data protection laws. In particular, the European Union’s General Data Protection Regulation (“GDPR”), which became effective on May 25, 2018, imposes additional obligations and risk upon our business and which increases substantially the penalties to which we could be subject in the event of any non-compliance. The GDPR and other similar laws and regulations, including the new California Consumer Protection Act (“CCPA”) and other similar state laws recently or soon to be enacted, as well as any associated inquiries or investigations or any other government actions, may be costly to comply with, result in negative publicity, increase our operating costs, require significant management time and attention, and subject us to remedies that may harm our business, including fines or demands or orders that we modify or cease existing business practices. Furthermore, the CCPA went into effect on January 1, 2020 and many of its requirements have not yet been interpreted by courts, and best practices are still being developed by the industry, all of which increase the risk of compliance failure and related adverse impacts.
Any failure to maintain effective internal control over financial reporting or disclosure controls and procedures may affect our ability to accurately report our financial results, cause us to fail to meet our reporting obligations, fail to prevent fraud and adversely affect the market price of our common stock.
Under the Sarbanes-Oxley Act, we must maintain effective internal control over financial reporting and disclosure controls and procedures, which requires significant resources and management oversight. Effectiveness of such controls are necessary for us to provide reliable financial reports, effectively prevent fraud and to operate successfully as a public company.
Our management determined we had a material weakness in our internal control over financial reporting as of December 31, 2018, which we determined was remediated as of September 30, 2019. Any future failure to maintain effective internal control over financial reporting or disclosure controls and procedures, or timely effect any necessary improvement of such controls, could harm our results of operations or cause us to fail to meet our reporting obligations, which could subject us to adverse regulatory consequences. Ineffectiveness of such controls also could cause investors to lose confidence in our reported financial information, which would likely have a negative effect on the trading price of our stock.
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Financial Risks
We are subject to significant foreign currency risk and foreign exchange exposure related to our global operations.
A significant portion of our global transactions is conducted in currencies other than the U.S. Dollar. While we sometimes employ financial instruments to hedge some of our transactional foreign exchange exposure, developing an effective and economical foreign currency risk strategy is complex and expensive and no strategy can completely insulate us from those exposures. Exchange rates can be volatile and could adversely affect our financial results and comparability of results from period to period.
We may be unable to realize the expected benefits of our restructuring actions, which could adversely affect our profitability and operations.
We have undertaken significant restructuring activities in recent years that remain ongoing, and may take future restructuring actions to realign and resize our production capacity and cost structure, lower our cost base, improve our financial performance and cash flow generation, and create a simplified organization best positioned to deliver on our key financial and operational priorities. Charges related to these actions or any further restructuring actions may have a material adverse effect on our results of operations and financial condition. We cannot ensure that any current or future restructuring will be completed as planned, on a timely basis or at all, will be on budget, or achieve the desired results.
Our existing indebtedness and the inability to access capital markets could restrict our business activities or our ability to execute our strategic objectives or adversely affect our financial performance.
As of December 31, 2020, our total consolidated indebtedness was $192.4 million. We may also incur additional indebtedness in the future. This significant amount of debt could have important, adverse consequences to us and our investors, including:
• making it more difficult to satisfy other obligations;
Our debt agreements contain certain restrictive covenants and customary events of default. These restrictive covenants limit our ability to take certain actions, such as, among other things: incur additional debt, make certain payments or distributions (including for the repurchase or redemption of our shares), engage in mergers or consolidations, make certain dispositions and transfers of assets, enter into transactions with affiliates and guarantee indebtedness. While not unusual for financings of the type that we have, the restrictions in our credit facilities may prevent us from taking actions that we believe would be in the best interest of our business and may make it difficult for us to execute our business plans, take advantage of business opportunities, or react to changing industry conditions.
To the extent that we incur additional indebtedness, the risks described above could increase. In addition, our actual cash requirements in the future may be greater than expected. Our cash flow from operations may not be sufficient to service our outstanding debt or to repay the outstanding debt as it becomes due, and we may not be able to borrow money, sell assets or otherwise raise funds on acceptable terms, or at all, to service or refinance our debt.
If an event of default would occur under our existing debt agreements or any additional indebtedness, our lenders could declare all amounts outstanding to be immediately due and payable, which may cause cross-defaults under our other debt obligations. If our lenders accelerate the maturity of our indebtedness, we may not have sufficient capital available at that time to pay the amounts due to all lenders on a timely basis, and there is no guarantee that we would be able to repay, refinance, or restructure the payments on such debt. Further, under our existing credit facilities, the lenders would have the right to foreclose on certain of our assets, which could have a material adverse effect on our business, results of operations and financial condition.
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An adverse change in the interest rates for our borrowings could adversely affect our financial condition.
Our current outstanding variable rate indebtedness uses LIBOR as a benchmark for establishing the interest rate. LIBOR is the subject of recent national, international and other regulatory guidance and proposals for reform. The ICE Benchmark Administration, which administers LIBOR, has announced that certain tenors of U.S. Dollar LIBOR will cease at the end of 2021, and the remaining tenors of U.S. Dollar LIBOR will cease at the end of June of 2023 for loans originated prior to the end of 2021. The Alternative Reference Rate Committee, which was convened by the Board of Governors of the Federal Reserve and the Federal Reserve Bank of New York in 2014 to identify alternative reference rates for U.S. Dollar LIBOR, has selected variations of the Secured Overnight Financing Rate (“SOFR”) to replace LIBOR. Our Amended Credit Agreement utilizes LIBOR as a benchmark for calculating the applicable interest rate, and the obligations under our Amended Credit Agreement mature after the expected cessation of LIBOR. Under the terms of our Amended Credit Agreement, the cessation of LIBOR or the announcement by the administrator of LIBOR or a governmental authority with jurisdiction over the Administrative Agent would require us to renegotiate or amend this agreement to select a replacement benchmark, which may adversely affect interest rates and result in higher borrowing costs. This could materially and adversely affect our results of operations, cash flows and liquidity. We cannot predict the effect of the potential changes to or elimination of LIBOR or the establishment and use of alternative rates or benchmarks and the corresponding effects on our cost of capital.
Common Stock Investment Risks
The price of our Common Stock may fluctuate significantly.
The price of our Common Stock on the Nasdaq Global Select Market has experienced substantial price volatility in the past, including in 2020 as a result of the impacts of the COVID-19 pandemic, and may continue to do so in the future. Additionally, the Company, the automotive industry and the stock market as a whole have experienced significant stock price and volume fluctuations that have affected stock prices in ways that may have been unrelated to these companies’ operating performance. Price volatility over a given period may cause the average price at which the Company repurchases its stock to exceed the stock’s price at a given point in time. If the Company fails to meet expectations related to future growth, profitability, share repurchases or other market expectations, its stock price may decline significantly, which could have a material adverse impact on investor confidence and employee retention.
On December 11, 2020, the Board of Directors authorized a new stock repurchase program, pursuant to which the Company is authorized to repurchase up to $150 million of common stock over a three-year period. Repurchases may be made, from time to time, in amounts and at prices the Company deems appropriate, subject to market conditions, applicable legal requirements, debt covenants and other considerations. Any Company stock repurchases under the program may result in stock price and volume fluctuations.
ITEM 1B. UNRESOLVED STAFF COMMENTS
None.
ITEM 2. PROPERTIES
As of December 31, 2020, we operate in over 23 locations across 13 countries, which are primarily for manufacturing, assembly, distribution, warehousing, engineering and testing. The majority of our facilities outside of the U.S., which are principally used in manufacturing, are located in China, Hungary, North Macedonia, Mexico, Ukraine and Vietnam. Our global headquarters is located in Northville, Michigan, our European headquarters is located in Odelzhausen, Germany and our Medical headquarters is located in Cincinnati, Ohio.
ITEM 3. LEGAL PROCEEDINGS
We are subject to litigation from time to time in the ordinary course of our business, however there is no current material pending litigation to which we are a party and no material legal proceedings were terminated, settled or otherwise resolved during the fourth quarter of the fiscal year ended December 31, 2020.
ITEM 4. MINE SAFETY DISCLOSURES.
Not applicable.
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PART II
Market Information
Our Common Stock trades on the Nasdaq Global Select Market under the symbol “THRM.”
Holders
As of February 24, 2021, our Common Stock was held by 42 shareholders of record. A substantially greater number of holders are beneficial owners whose shares of record are held by banks, brokers and other nominees.
Dividends
We have not paid any Common Stock cash dividends since formation and we do not expect to pay any in the foreseeable future. The payment of future dividends is within the discretion of our Board of Directors and will depend upon business conditions, our earnings and financial condition and other factors. Currently, our bank credit facilities limit payment of dividends on our Common Stock.
Stock Repurchase Program
In December 2016, the Board of Directors authorized a three-year, $100 million stock repurchase program. In June 2018, our Board of Directors authorized an increase in the stock repurchase plan to $300 million and extended the stock repurchase plan until December 15, 2020. Such stock repurchase program had $74.2 million of repurchase authorization remaining at expiration.
On December 11, 2020, the Board of Directors authorized a new stock repurchase program (the “2020 Stock Repurchase Program”) to commence upon expiration of the prior stock repurchase program on December 15, 2020. Under the 2020 Stock Repurchase Program, the Company is authorized to repurchase up to $150 million of its issued and outstanding common stock over a three-year period, expiring December 15, 2023.
Repurchases under the 2020 Stock Repurchase Program may be made, from time to time, in amounts and at prices the Company deems appropriate, subject to market conditions, applicable legal requirements, debt covenants and other considerations. Any such repurchases may be executed using open market purchases, privately negotiated agreements or other transactions, and may be funded from cash on hand, available borrowings or proceeds from potential debt or other capital markets sources. The 2020 Stock Repurchase Program may be modified, extended or terminated at any time without prior notice.
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Issuer Purchases of Equity Securities During Fourth Quarter 2020
Performance Graph
The following graph reflects the comparative changes in the value from December 31, 2015 through December 31, 2020, assuming an initial investment of $100 and the reinvestment of dividends, if any, in (1) our Common Stock, (2) the NASDAQ Composite index, (3) the Russell 2000 Index (4) the Dow Jones U.S. Auto & Parts Index and (5) the Hemscott Auto Parts Index. Historical performance may not be indicative of future shareholder returns.
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As of December 31,
ITEM 6. SELECTED FINANCIAL DATA
Not applicable.
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The following discussion and analysis should be read in conjunction with, and is qualified in its entirety by, our consolidated financial statements (and notes related thereto) and other more detailed financial information appearing elsewhere in this Report. Further, you should read the following discussion and analysis of our financial condition and results of operations together with the “Risk Factors” included elsewhere in this Report for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis. See also “Forward-Looking Statements” in Part I of this Report.
Overview
Gentherm Incorporated is a global developer and marketer of innovative thermal management technologies for a broad range of heating and cooling and temperature control applications. Our products provide solutions for automotive passenger climate comfort and convenience, battery thermal management and cell connecting systems, as well as patient temperature management within the health care industry. Our automotive products can be found on the vehicles of nearly all major automotive manufacturers operating in North America and Europe and several major auto manufacturers in Asia. We operate in locations aligned with our major customers’ product strategies to provide locally enhanced design, integration and production capabilities. The Company is also developing a number of new technologies and products that are expected to help enable improvements to existing products and to create new product applications for existing and new markets.
Our sales are driven by the number of vehicles produced by the automotive manufacturers, which is ultimately dependent on consumer demand for automotive vehicles, and our content per vehicle. Historically, new vehicle demand has been driven by macro-economic and other factors, such as interest rates, manufacturer and dealer sales incentives, fuel prices, consumer confidence, employment levels, income growth trends and government and tax incentives. Economic volatility or weakness, as well as geopolitical factors, in North America, Europe or Asia, could result in a significant reduction in automotive sales and production by our customers, which would have an adverse effect on our business, results of operations and financial condition, as we experienced in 2020 as a result of the COVID-19 pandemic, as described below. While our diversified automotive OEM customer base and geographic revenue base, along with our flexible cost structure, have well positioned us to withstand the impact of industry downturns, including the current impact of the COVID-19 pandemic, and benefit from industry upturns in the ordinary course, shifts in the mix of global automotive production to higher cost regions or to vehicles with less content could adversely impact our profitability. In addition, we may be adversely impacted by volatility, weakness or slow growth in markets for hybrid electric vehicles specifically.
Recent Trends
General Economic Condition
The COVID-19 pandemic has significantly disrupted global economic activity, including the automotive market. The COVID-19 pandemic was first identified in China around December 2019. The impact of the outbreak quickly expanded beyond China and its surrounding region and has significantly and adversely impacted the entire global economy and automotive market in 2020. During the first quarter of 2020, customer plants in North America and Europe were closed beginning in the second half of March due to the pandemic. This resulted in temporary, partial closures of several of our manufacturing facilities in North America and Europe by the end of March 2020. Customer plants and our manufacturing facilities in Asia were closed for several weeks in February and operated at reduced volumes in March, resuming production to near full capacity by the end of the first quarter, which continued throughout the remainder of the year. However, during the second quarter of 2020, our manufacturing facilities in North America and Europe remained closed until the last week in May due to the pandemic, gradually resuming production to near full capacity in North America, and to about 70% capacity in Europe by the end of June. During the second half of 2020, our customers’ plants were open, and our production volumes were stronger than pre-COVID levels at our manufacturing facilities. The Company has implemented additional health and safety precautions and protocols in response to the pandemic and government guidelines to help ensure the safety and health of all its employees, and it continues to assess and update business continuity plans in the context of this pandemic.
The COVID-19 pandemic significantly adversely affected our operations, results of operations, financial condition, cash flows, liquidity and stock price in the first half of 2020. The second half of 2020 recovered with increased production from the first half of the year. However, the COVID-19 pandemic continues to have a significant impact on global automotive markets in 2021, in the form of supply chain and production disruptions, workforce restrictions, travel restrictions and reduced consumer spending, among other factors. There remains substantial uncertainty regarding the global economic impact of, and the speed and shape of the recovery from,
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the ongoing COVID-19 pandemic, including for the global automotive industry and the resulting impact on our future operations and financial results.
Light Vehicle Production Volumes
Our sales are driven by the number of vehicles produced by the automotive manufacturers, which is ultimately dependent on consumer demand for automotive vehicles, and our content per vehicle. According to the forecasting firm IHS Markit (February 2021 release), global light vehicle production in 2020 in the Company’s key markets of North America, Europe, China, Japan and Korea, as compared to 2019, are shown below (in millions of units):
Total light vehicle production volume in key markets 64.4 75.3 (14.4 )%
The IHS Markit (February 2021 release) forecasted light vehicle production volume in the Company’s key markets for full year 2021 to increase to 72.2 million units, a 12.1% increase from full year 2020 light vehicle production volumes. Forecasted light vehicle production volumes are a component of the data we use in forecasting future business. However, these forecasts generally are updated monthly, and future forecasts may be significantly different from period to period due to changes in macroeconomic conditions or matters specific to the automotive industry, such as the fluctuations that occurred in 2020 due to the COVID-19 pandemic. Further, due to differences in regional product mix at our manufacturing facilities, as well as releases from customers on specific vehicle programs, our future forecasted results do not directly correlate with the global and/or regional light vehicle production forecasts of IHS Markit or other third-party sources.
Liquidity and Capital Resources
In light of the substantial economic and financial impact of the COVID-19 pandemic to date, the Company took significant actions in 2020 to address its liquidity position. In March 2020, the Company borrowed an additional $169.5 million under its revolving credit facility to increase its cash position and provide additional financial flexibility. After the drawdown in March 2020, and through December 31, 2020, the Company repaid a net amount of $41.2 million of the amounts outstanding under the Amended Credit Agreement. As of December 31, 2020, inclusive of the net new borrowings, $186.2 million was outstanding under the Amended Credit Agreement. In January 2021, the Company repaid an additional $80.0 million of the amounts outstanding under the Amended Credit Agreement.
In addition, the Company has been prudently addressing its day-to-day operations, including reducing expenses, inventory levels and capital spending, and had deferred a portion of 2020 base salaries generally for all salaried employees. The Company terminated the salary deferral earlier than planned on September 30, 2020 due to the improved market and financial conditions. Based upon consolidated EBITDA for the trailing twelve months calculated for purposes of the Consolidated Leverage Ratio, $288.8 million remained available as of December 31, 2020 for additional borrowings under the Amended Credit Agreement subject to specified conditions that Gentherm currently satisfies. See “—Liquidity and Capital Resources” below for additional information.
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New Business Awards
We believe that innovation is an important element to gaining market acceptance of our products and strengthening our market position. During 2020, we secured an estimated $940 million of automotive new business awards. Automotive new business awards represent the aggregate projected lifetime revenue of new awards provided by customers to Gentherm in the applicable period, with the value based on the price and volume projections received from each customer as of the award date. Although automotive new business awards are not firm customer orders, we believe that new business awards are an indicator of future revenue. New business awards are not projections of revenue or future business as of December 31, 2020, the date of this Report or any other date. Customer projections regularly change over time and we do not update our calculation of any new business award after the date initially communicated. Automotive new business awards in 2020 were adversely impacted by the macroeconomic changes and related uncertainties caused by the COVID-19 pandemic, but also may not convert into future customer orders similar to historical periods due to the future impacts of the COVID-19 pandemic. Revenues resulting from automotive new business awards also are subject to additional risks and uncertainties as described under “Forward-Looking Statements” in Item 1 of this Report.
Stock Repurchase Program
In December 2016, the Board of Directors authorized a three-year, $100.0 million stock repurchase program. In June 2018, our Board of Directors authorized an increase in the stock repurchase plan to $300.0 million and extended the stock repurchase plan until December 15, 2020. In 2020, we repurchased approximately $9.1 million of shares under this plan. The repurchase authorization remaining at expiration was $74.2 million.
On December 11, 2020, the Board of Directors authorized the 2020 Stock Repurchase Program to commence upon expiration of the prior stock repurchase program on December 15, 2020. Under the 2020 Stock Repurchase Program, the Company is authorized to repurchase up to $150 million of its issued and outstanding common stock over a three-year period, expiring December 15, 2023. In 2020, no shares were repurchased under the 2020 Stock Repurchase Program.
For further information related to our stock repurchase program, see Item 5, "Market for the Company’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities," and Note 15, "Equity" to the consolidated financial statements included in this Report.
Restructuring
Manufacturing Footprint Rationalization
On September 23, 2019, the Company committed to a restructuring plan to improve the Company’s manufacturing productivity and rationalize its footprint. Under this plan, the Company will relocate and consolidate certain existing automotive manufacturing and, as a result, reduce the number of plants by two. On March 20, 2020, the Company announced the initial phase of this restructuring plan, which includes the consolidation of all North American electronics manufacturing to Celaya, Mexico. This will result in the closure of the Burlington, Canada facility, and the transfer of electronics manufacturing from Acuña, Mexico. The closure of the Burlington, Canada facility is expected to be completed mid-year 2021. During the second quarter of 2020, due to circumstances arising from the COVID-19 pandemic, management adjusted the plan to proactively manage its cash position. Adjustments to the plan have resulted in changes to the estimated number of employee separations and total costs to execute the plan. On December 10, 2020, the Company announced the consolidation of our electronics manufacturing in Asia to Bantian, Shenzhen, China, which will result in the closure of our Longgang, Shenzhen, China facility that is expected to be completed by the end of 2021.
During the year ended December 31, 2020, the Company recognized restructuring expense of $(0.8) million for employee separation costs, $0.7 million for accelerated depreciation and $0.3 million for other costs. During the year ended December 31, 2019, the Company recognized restructuring expense of $4.9 million for employee separation costs, and $2.1 million of accelerated depreciation and fixed asset impairment. The Company has recorded approximately $7.1 million of restructuring expenses since the inception of this program.
Under the revised restructuring plan, the Company expects to incur total costs of between $16 million and $19 million, of which between $13 million and $16 million are expected to be cash expenditures. The total expected costs include employee separation costs of between $6.5 million and $7.5 million, capital expenditures of between $3.5 million and $4.5 million and non-cash expenses for accelerated depreciation and impairment of fixed assets of approximately $3 million. The Company also expects to incur other transition costs including recruiting, relocation, and machinery and equipment move and set up costs of between $3 million and $4 million. The actions under this plan are expected to be substantially completed by the end of 2021. The actual timing, costs and savings of the plan may differ materially from the Company’s current expectations and estimates.
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GPT and CSZ-IC Restructuring
During 2019, the Company completed its plan to eliminate non-core areas of investment through the divestitures of Cincinnati Sub-Zero industrial chamber business (“CSZ-IC”) and Gentherm Global Power Technologies (“GPT”). Costs directly associated with the divestiture process were classified as Restructuring expense. During the year ended December 31, 2019, the Company recognized $0.3 million of employee separation costs and $1.0 million of other related costs.
Other Restructuring Activities
As part of the Company’s continued efforts to optimize its cost structure, the Company has undertaken several discrete restructuring actions. During the years ended December 31, 2020 and 2019, the Company recognized $5.4 million and $2.9 million of employee separation costs, respectively, and $0.2 million and $1.4 million of other related costs, respectively. In addition, during the year ended December 31, 2019, the Company recognized $0.4 million of asset impairment loss. These restructuring expenses were primarily associated with restructuring actions focused on optimizing our manufacturing and engineering footprint and the reduction of global overhead costs. The Company will continue to explore opportunities to improve its future profitability and competitiveness. These actions may result in the recognition of additional restructuring charges that could be material.
See Note 5, “Restructuring”, to our consolidated financial statements included in this Report for information about our restructuring activities.
Divestitures
Divestiture of CSZ-IC
On February 1, 2019, the Company completed the divestiture of CSZ-IC and the former Cincinnati Sub-Zero headquarters facility to Weiss Technik North America, Inc. for total cash proceeds of $47.5 million, including $2.5 million of cash proceeds placed into an escrow account for a period of up to one year as partial security for the Company’s obligations under the sale agreement. During the year ended December 31, 2020, the Company resolved its remaining obligations under the sale agreement, and the amounts in escrow were released net of settlement for obligations under the sale agreement. For the year ended December 31, 2019, the Company recognized a $4.3 million gain on sale, which is classified in Net loss on divestitures within the consolidated statements of income.
Divestiture of GPT
OnOctober 1, 2019, the Company completed the divesture of GPT for a nominal amount. For the year ended December 31, 2019, the Company recognized asset impairments and loss on sale totaling $27.1 million, consisting of $16.8 million of impairment on assets held for sale, $4.5 million related to impairment of an equity investment that met held for sale criteria during 2019 and $5.8 million of loss on sale, which includes $4.0 million related to the release of previously deferred foreign currency translation losses recorded in accumulated other comprehensive loss and $1.5 million related to a loan to the buyer that was considered uncollectible. These impairment charges and loss on sale are classified in Impairment loss within the consolidated statements of income.
Acquisitions
Acquisition of Stihler Electronic GmbH (“Stihler”)
On April 1, 2019, Gentherm acquired Stihler, a leading developer and manufacturer of patient and blood temperature management systems, for a purchase price of $15.5 million, net of cash acquired and including $0.7 million of contingent consideration to be paid upon achievement of a milestone that was completed in September 2020, and paid in the fourth quarter of 2020. In addition, the purchase agreement included a contingent payment of $0.7 million to be paid if the selling shareholder remains employed by Stihler through December 2020. This was completed and the payment was recorded as a component of Selling, general and administrative expenses ratably over the service period. The results of operations of Stihler are reported within the Company’s Medical segment from the date of acquisition.
Reportable Segments
The Company has two reportable segments for financial reporting purposes: Automotive and Medical.
In 2018 and 2019, our Industrial reporting segment represented the combined results from our patient temperature management systems business (“Medical”), GPT (through its divestiture on October 1, 2019), CSZ-IC (through its divestiture on February 1, 2019) and non-automotive expenses from our advanced research and development division (through December 31, 2019). The operating
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results from these businesses and division previously were presented together as one reporting segment because of their historical joint concentration on identifying new markets and product applications based on thermal management technologies.
In 2020, the Industrial reporting segment was renamed the Medical reporting segment to reflect the patient temperature management business as the focus and strategic direction of this segment. Also, during 2020, the advanced research and development costs not associated with the Medical segment were moved to the Automotive segment, as this organization primarily supports the Automotive related research and development activities following the divestitures of GPT and CSZ-IC.
See Note 20 to the consolidated financial statements for a description of our reportable segments as well as their proportional contribution to the Company’s reported product revenues and operating income. The financial information used by our chief operating decision maker to assess operating performance and allocate resources is based on these reportable segments.
Results of Operations Year Ended December 31, 2020 Compared to Year Ended December 31, 2019
This section discusses our consolidated results of operations for the years ended December 31, 2020 versus 2019. A detailed discussion of our consolidated results of operations for the years ended December 31, 2019 compared to the year ended December 31, 2018 can be found under “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operation” in Part II of our Annual Report on Form 10-K for the year ended December 31, 2019, which was filed with the SEC on February 20, 2020.
The results of operations for the years ended December 31, 2020 and 2019, in thousands, were as follows:
Year Ended December 31,
Operating expenses:
Reimbursed research and development expenses (13,928 ) (18,557 ) (4,629 )
Net loss on divestitures — (1,587 ) 1,587
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Product revenues by product category, in thousands, for the years ended December 31, 2020 and 2019 were as follows:
Year Ended December 31,
Product Revenues
Below is a summary of our Product revenues, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31, Variance Due To:
2020 2019 Favorable / (Unfavorable) Automotive Volume FX Pricing/Other Total
Product revenues for the year ended December 31, 2020 decreased 6.0% as compared to the year ended December 31, 2019. The decrease in product revenues is due to unfavorable volumes in our Automotive segment, partially offset by favorable foreign currency impacts, primarily related to the Euro, Chinese Renminbi and Korean Won. The decrease in product revenues included in Variance Due To Pricing/Other above is primarily attributable to the divestitures of CSZ-IC on February 1, 2019 and GPT on October 1, 2019, as well as decreases in customer pricing, partially offset by the acquisition of Stihler on April 1, 2019 and an increase in product revenue in our Medical segment.
Cost of Sales
Below is a summary of our Cost of sales and Gross margin, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31, Variance Due To:
Gross margin - Percentage of product revenues 29.4 % 29.7 %
Cost of sales for the year ended December 31, 2020 decreased 5.6% as compared to the year ended December 31, 2019. The decrease in cost of sales is due to volumes decreases in our Automotive segment, operational performance improvements, and favorable foreign currency impacts, primarily attributable to the Mexican Peso and Ukrainian Hryvnia. The operational performance improvements are primarily attributable to a decrease in material costs, an increase in manufacturing productivity, fixed cost savings and, partially offset by increases in freight costs. The decrease in cost of sales is also due to the following items included in Variance Due To Other above:
▪ $10.2 million decrease attributable to divested businesses (CSZ-IC and GPT);
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▪ $2.7 million decrease due to various government subsidy programs globally; and
Net Research and Development Expenses
Below is a summary of our Net research and development expenses, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Reimbursed research and development expenses (13,928 ) (18,557 ) (4,629 )
Percentage of product revenues 7.5 % 7.5 %
Net research and development expenses for the year ended December 31, 2020 decreased 6.1% as compared to the year ended December 31, 2019. The decrease in net research and development expenses is primarily related to reduced project-related spending due to cost reduction initiatives, partially offset by lower reimbursements for project-related spending.
Selling, General and Administrative Expenses
Below is a summary of our Selling, general and administrative expenses, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Percentage of product revenues 11.5 % 12.2 %
Selling, general and administrative expenses for the year ended December 31, 2020 decreased 11.5% as compared to the year ended December 31, 2019. The decrease in selling, general and administrative expenses is primarily related to the impacts of divested businesses (CSZ-IC and GPT), the absence of CFO transition costs in 2020, as well as the impact of cost reduction initiatives and a reduction in travel expenses, partially offset by mark to market adjustments in cash settled stock appreciation rights.
Restructuring Expenses
Below is a summary of our Restructuring expenses, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Restructuring expenses primarily relate to the Manufacturing Footprint Rationalization restructuring program and other discrete restructuring activities focused on optimizing our manufacturing and engineering footprint and the reduction of global overhead expenses. During the year ended December 31, 2020, the Company recognized expenses of $4.6 million for employee separation costs, $0.7 million of accelerated depreciation and asset impairment charges and $0.5 million of other related costs. During the year ended December 31, 2019, the Company recognized expenses of $8.1 millionfor employee separation costs, $2.5 millionof accelerated depreciation and asset impairment charges and $2.4 millionof other related costs.
See Note 5, "Restructuring" of the consolidated financial statements included in this Report for additional information.
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Interest Expense
Below is a summary of our Interest expense, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
See Note 9, "Debt" of the consolidated financial statements included in this Report for additional information.
Foreign Currency (Loss) Gain
Below is a summary of our Foreign currency (loss) gain, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Foreign currency loss for the year ended December 31, 2020, included net realized foreign currency gain of $2.2 million and unrealized net foreign currency loss of $7.6 million.
Foreign currency gain for the year ended December 31, 2019, included net realized foreign currency gain of $56 thousand and unrealized net foreign currency gain of $2.3 million.
Impairment Loss
Below is a summary of our Impairment loss, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Impairment loss for the year ended December 31, 2019 includes the following:
▪ $16.7 million of impairment loss on assets held for sale (GPT); and
Net Loss on Divestitures
Below is a summary of our Net loss on divestitures, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Net loss on divestitures $ — $ (1,587 ) $ 1,587
Net loss on divestitures for the year ended December 31, 2019 includes the following:
▪ $4.3 million of gain on sale of CSZ-IC; and
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Other Income
Below is a summary of our Other income, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
The increase in other income is primarily due to the gain on sale of certain patents from a non-core business in June 2020. See Note 7, “Goodwill and Other Intangibles” of the consolidated financial statements included in this Report for additional information.
Income Tax Expense
Below is a summary of our Income tax expense, in thousands, for the years ended December 31, 2020 and 2019:
Year Ended December 31,
Income tax expense was $21.9 millionfor the year ended December 31, 2020, on earnings before income tax of $81.6 million, representing an effective tax rate of 26.8%. The tax amount included the effect of the settlement and closure of multi-year international tax audits of $3.4 million. Adjusted for the audit impacts, the effective tax rate was 22.6%. The effective tax rate differed from the U.S. Federal statutory rate of 21% primarily due to the international provisions of the U.S. tax reform, such as global intangible low-tax income (“GILTI”).
Income tax expense was $10.3 million for the year ended December 31, 2019, on earnings before income tax of $59.2 million, representing an effective tax rate of 17.4%. The pre-tax earnings amount included the non-deductible impairment loss of $27.1 million. Adjusted for the impairment loss, the effective tax rate was 11.9% for 2019. The effective tax rate differed from the U.S. Federal statutory rate of 21% primarily due to (1) the international provisions of the U.S. tax reform, such as GILTI and higher tax rate jurisdictions and (2) the revised valuation of certain deferred income tax assets.
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Liquidity and Capital Resources
Cash and Cash Flows
The Company historically has funded its liquidity needs primarily through cash flows from operating activities and borrowings under its Amended Credit Agreement, as well as equity and other debt financings on a more limited basis. Prior to the COVID-19 pandemic, we were focused on a capital allocation strategy within our strategic plan that included a targeted debt-to-earnings leverage ratio and using a portion of our cash flow for Common Stock repurchases.
In light of the significant economic uncertainty and financial impact of the COVID-19 pandemic, the Company took significant actions to address its liquidity. First, the Company has been prudently addressing its day-to-day operations, including reducing expenses, inventory levels and capital spending. In addition, effective May 1, 2020, the Company implemented base salary deferrals until September 30, 2020, including a 30-40% deferral among executives and a 20% deferral for other salaried employees, to control expenses and conserve cash, which deferral the Company terminated earlier than planned on September 30, 2020 due to the improved market and financial conditions. The Company also revised its non-employee director compensation program for directors elected at the 2020 annual meeting of shareholders, with all compensation being paid in restricted stock for one year.
Also, in March 2020, the Company increased its borrowings under the Amended Credit Agreement by $169.5 million as a safeguard to increase its cash position and provide additional financial flexibility. The proceeds were used for working capital and for other general corporate purposes permitted by the Amended Credit Agreement. After the drawdown in March 2020 and through December 31, 2020, the Company repaid a net amount of $41.2 million of the amounts outstanding under the Amended Credit Agreement. As of December 31, 2020, inclusive of the net new borrowings, $186.2 million was outstanding under the Amended Credit Agreement. In January 2021, the Company repaid an additional $80.0 million of the amounts outstanding under the Amended Credit Agreement. Borrowing availability is subject to, among other things, the Company’s compliance with the minimum Consolidated Interest Coverage Ratio and Consolidated Leverage Ratio as of the end of any fiscal quarter. Based upon consolidated EBITDA for the trailing twelve months calculated for purposes of the Consolidated Leverage Ratio, $288.8 million remained available as of December 31, 2020 for additional borrowings under the Amended Credit Agreement subject to specified conditions that Gentherm currently satisfies.
Further, the Company suspended its stock repurchase program in the first quarter of 2020 to preserve liquidity. The Company repurchased $9.1 million of stock earlier in the first quarter of 2020 and did not make any repurchases under the program during the remainder of 2020. Upon expiration of the prior stock repurchase program on December 15, 2020, $74.2 million of availability remained under the program. On December 11, 2020, the Board of Directors authorized the 2020 Stock Repurchase Program to commence upon expiration of the prior program. Under the 2020 Stock Repurchase Program, the Company is authorized to repurchase up to $150 million of its issued and outstanding common stock over a three-year period, expiring December 15, 2023.
Based on the Company’s current operating plan and the foregoing actions, management believes cash and cash equivalents at December 31, 2020, together with cash flows from operating activities, and borrowing available under our Amended Credit Agreement, are sufficient to meet operating and capital expenditure needs, and to service debt, for at least the next 12 months. However, as the impact of the COVID-19 pandemic on the economy and our operations evolves, we may need to obtain alternative sources of capital, and we may finance additional liquidity needs in the future through one or more equity or debt offerings.
A continued worldwide disruption, including from additional waves of pandemic outbreaks, from the COVID-19 pandemic, and actions that lending institutions, our customers, consumers and governmental authorities may take in response, could materially affect our future access to sources of liquidity, and there can be no assurance that such capital will be available at all or on reasonable terms. Further, the extent to which the COVID-19 pandemic adversely affects our future financial performance and thus our cash flows will depend on future developments, which are highly uncertain and cannot be predicted, including, but not limited to, the duration and spread of the pandemic, its severity, the effectiveness of actions to contain the virus or treat its impact and how quickly and to what extent normal economic and operating conditions will resume. Even after the COVID-19 pandemic has subsided, we may continue to experience significant adverse impacts on our business, financial performance, financial condition, cash flows, liquidity and stock price for a lengthy period of time as a result of its global economic impact.
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The following table represents our cash and cash equivalents and short-term investments, in thousands:
Year Ended December 31,
Cash (used in) provided by investing activities (18,220 ) 5,840
Cash provided by (used in) financing activities 115,480 (108,593 )
Foreign currency effect on cash and cash equivalents 7,442 (2,722 )
Cash, cash equivalents and restricted cash at end of period $ 268,345 $ 52,948
Cash Flows From Operating Activities
We manage our cash, cash equivalents and short-term investments to fund operating requirements and preserve liquidity to take advantage of future business opportunities. The following table compares the cash flows from operating activities earned during 2020 and 2019, in thousands:
Year Ended December 31,
Operating Activities:
Change in defined benefit pension plans (748 ) (570 ) (178 )
Loss on sale of property and equipment 683 462 221
Gain on sale of patents (1,978 ) — (1,978 )
Net loss on divestitures — 1,587 (1,587 )
Changes in operating assets and liabilities:
Working Capital
The following table illustrates changes in working capital during 2020, in thousands:
Increase in cash, cash equivalents and restricted cash 208,693
Increase in accounts receivable 45,182
Increase in inventory 946
Decrease in tax receivables, net (16,786 )
Increase in other assets 3,486
Increase in accounts payable (30,912 )
Increase in accrued expenses and other liabilities (2,864 )
Foreign currency effect on working capital 12,718
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The following table highlights significant transactions that contributed to the increase in cash experienced during the year ended December 31, 2020, in thousands:
Net cash provided by operating activities $ 110,695
Repayments of debt (91,439 )
Purchases of property and equipment (17,219 )
Proceeds from the exercise of Common Stock options 16,552
Cash paid for the repurchase of Common Stock (9,092 )
Increase in cash, cash equivalents and restricted cash $ 215,397
Cash Flows From Investing Activities
Cash used in investing activities was $18.2 million during 2020, reflecting purchases of property and equipment of $17.2 million and the acquisition of intangible assets of $3.1 million, partially offset by $2.1 million in proceeds from the sale of patents and property and equipment.
Cash Flows From Financing Activities
Cash provided by financing activities was $115.5 million during 2020, reflecting additional borrowings on the U.S. Revolving Note totaling $201.2 million partially offset by payments of principal on the U.S. Revolving Note totaling $91.4 million. Borrowings under the Amended Credit Agreement mature on June 27, 2024. See Note 9, “Debt” of the consolidated financial statements included in this Report for additional information. Cash was also paid for the repurchase of Common Stock totaling $9.1 million and for cancellations of restricted stock awards totaling $1.1 million, partially offset by proceeds from the exercise of Common Stock options totaling $16.6 million.
Debt
Amended Credit Agreement
On June 27, 2019, the Company entered into an Amended and Restated Credit Agreement (the “Amended Credit Agreement”) with a consortium of lenders and Bank of America, N.A. as administrative agent. The Amended Credit Agreement amended and restated in its entirety the prior Credit Agreement. The outstanding principal and interest of the U.S. Revolving Note under the prior Credit Agreement continued and constitute obligations under the Amended Credit Agreement.
The Amended Credit Agreement increased the U.S. Revolving Note from $350.0 million to $475.0 million and extended the maturity from March 17, 2021 to June 27, 2024. The Amended Credit Agreement also provides $15.0 million availability for the issuance of letters of credit and a maximum of $40.0 million for swing line borrowing. Any amount of the facility utilized for letters of credit or swing line loans outstanding will reduce the amount available under the Amended Credit Agreement. The Company had no outstanding letters of credit issued under the Amended Credit Agreement as of December 31, 2020 and 2019.
The U.S. borrowers and guarantors participating in the Amended Credit Agreement also entered into a related amended and restated pledge and security agreement. The amended and restated pledge and security agreement grants a security interest to the lenders in substantially all of the personal property of the Company and its U.S. subsidiaries designated as borrowers to secure their respective obligations under the Amended Credit Agreement, including the stock and membership interests of specified subsidiaries (limited to 66% of the stock in the case of certain non-U.S. subsidiaries). In addition to the security obligations, all obligations under the Amended Credit Agreement are unconditionally guaranteed by certain of the Company’s subsidiaries. The Amended Credit Agreement restricts, among other things, the amount of dividend payments the Company can make to shareholders.
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The Amended Credit Agreement contains covenants, that, among other things, (i) prohibit or limit the ability of the borrowers and any material subsidiary to incur additional indebtedness, create liens, pay dividends, make certain types of investments (including acquisitions), enter into certain types of transactions with affiliates, prepay other indebtedness, sell assets, merge with other companies or enter into certain other transactions outside the ordinary course of business, and (ii) require that Gentherm maintain a minimum Consolidated Interest Coverage Ratio and Consolidated Leverage Ratio (based on consolidated EBITDA for the applicable trailing 12-month period as defined in the Amended Credit Agreement) as of the end of any fiscal quarter. The Amended Credit Agreement also contains customary events of default. As of December 31, 2020, the Company was in compliance with the terms of the Amended Credit Agreement.
Under the Amended Credit Agreement, U.S. Dollar denominated loans bear interest at either a base rate (“Base Rate Loans”) or Eurocurrency rate (“Eurocurrency Rate Loans”), plus a margin (“Applicable Rate”). The rate for Base Rate Loans is equal to the highest of the Federal Funds Rate (0.09% at December 31, 2020) plus 0.50%, Bank of America’s prime rate (3.25% at December 31, 2020), or the Eurocurrency rate plus 1.00%. The rate for Eurocurrency Rate Loans denominated in U.S. Dollars is equal to the London Interbank Offered Rate (0.14% at December 31, 2020). All loans denominated in a currency other than the U.S. Dollar must be Eurocurrency Rate Loans. Interest is payable at least quarterly.
The Applicable Rate varies based on the Consolidated Leverage Ratio reported by the Company. As long as the Company is not in default of the terms and conditions of the Amended Credit Agreement, the lowest and highest possible Applicable Rate is 1.25% and 2.25%, respectively, for Eurocurrency Rate Loans and 0.25% and 1.25%, respectively, for Base Rate Loans.
In March 2020, the Company increased its borrowings under the Amended Credit Agreement by $169.5 million as a safeguard to increase its cash position and provide additional financial flexibility due to the COVID-19 pandemic. The proceeds have been and will continue to be used for working capital and for other general corporate purposes permitted by the Amended Credit Agreement. After the drawdown in March 2020 and through December 31, 2020, the Company repaid a net amount of $41.2 million of the amounts outstanding under the Amended Credit Agreement. In January 2021, the Company repaid an additional $80.0 million of the amounts outstanding under the Amended Credit Agreement. As of December 31, 2020, inclusive of the net new borrowings in 2020, $186.2 million was outstanding under the Amended Credit Agreement. Borrowing availability is subject to, among other things, the Company’s compliance with the minimum Consolidated Interest Coverage Ratio and Consolidated Leverage Ratio as of the end of any fiscal quarter. Based upon consolidated EBITDA for the trailing twelve months calculated for purposes of the Consolidated Leverage Ratio, $288.8 million remained available as of December 31, 2020 for additional borrowings under the Amended Credit Agreement subject to specified conditions that Gentherm currently satisfies.
DEG Vietnam Loan
The Company also has a fixed interest rate loan with the German Investment Corporation (“DEG”), a subsidiary of KfW Banking Group, a Germany government-owned development bank. The fixed interest rate senior loan agreement with DEG was used to finance the construction and set up of the Vietnam production facility (“DEG Vietnam Loan”). The DEG Vietnam Loan is subject to semi-annual principal payments that began November 2017 and will end May 2023. Under the terms of the DEG Vietnam Loan, the Company must maintain a minimum Enhanced Equity Ratio, as defined by the DEG Vietnam Loan agreement, based on the financial statements of Gentherm’s wholly owned subsidiary, Gentherm Vietnam Co. Ltd. As of December 31, 2020, the Company was in compliance with all terms as outlined in the DEG Vietnam Loan.
The following table summarizes the Company’s debt at December 31, 2020 (dollars in thousands).
December 31,
Interest Rate Principal Balance Interest Rate Principal Balance
Amended Credit Agreement:
Long-term debt, less current maturities $ 189,934 $ 78,124
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Critical Accounting Policies
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amount of assets and liabilities, revenues and expenses, and related disclosures at the date of our financial statements. Actual results may differ from these estimates under different assumptions or conditions. These estimates and assumptions include, but are not limited to:
• Product revenues;
• Impairments of goodwill and other intangible assets;
• Accrued warranty costs;
• Income taxes;
• Stock compensation; and
Revenue Recognition
Revenue is recognized from agreements containing enforceable rights and obligations, when promised goods are delivered or services are completed. Taxes assessed by a governmental authority that are both imposed on and concurrent with a specific revenue-producing transaction, that are collected by the Company from a customer, are excluded from revenue. Shipping and handling fees billed to customers are included in net sales, while costs of shipping and handling are included in cost of sales.
Automotive Revenues
The Company provides production parts to its customers under long-term supply agreements (“LTAs”). The duration of an LTA is generally consistent with the life cycle of a vehicle, however, an LTA does not reach the level of a performance obligation until Gentherm receives either a purchase order and/or a materials release from the customer for a specific number of parts at a specified price, at which point an enforceable contract exists. Revenue is recognized when control of the parts has transferred to the customer according to the terms of the contract, which typically occurs when the parts are shipped or delivered to the customer’s premises.Revenue is measured as the amount of consideration we expect to receive in exchange for transferring parts.
Certain LTAs provide for annual price reductions over the production life of the vehicle. Agreements that are determined to provide customers with purchase option discounts that would not be received without entering into the contract are considered to contain a material right (for example, a discount given to a customer that is incremental to the range of discounts typically given to that class of customer). The material right represents a purchase option that provides the customer with the ability to purchase additional production parts at a set price in the future and is accounted for as a separate performance obligation. Under these circumstances, each transfer of production parts under the LTA requires allocation of the purchase price to the production part and the purchase option. As a practical alternative to estimating the standalone selling price of an option, the Company allocates transaction price to the purchase option by reference to the production part volumes expected to be ordered and the consideration expected to be received over the life of the vehicle program.
The production part’s relative standalone selling price observed under the LTA is subtracted from the total amount of consideration expected to be received in exchange for transferring of parts under the current contract and the difference is allocated to the purchase option. Revenue from options containing a material right is recognized when the amounts billed by the customer for production parts transferred, under the LTA, is less than the standalone selling price of those production parts.
Medical Revenues
Revenues from our patient temperature management business unit are generated from the sale of products and equipment. Our medical products and equipment focus on body and blood temperature management. The Company sells medical products and equipment primarily through distributor and group purchasing organization agreements. These agreements allow member participants to the distributor or group purchasing organization to make purchases at discounted prices negotiated by the distributor or group purchasing organization. A rebate is incurred at the point in time a member participant purchases product covered under these types of agreements. Rebates are accounted for as variable consideration, using an expected value, probability weighted approach, based on the level of sales to the distributor and the time lag between the initial sale and the rebate claim in determining the transaction price of a contract. Revenue is recognized at the point in time the medical products or equipment is transferred to the customer.
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Impairments of Goodwill and Other Indefinite-Lived Intangible Assets
Goodwill is tested for impairment at least annually as of December 31 and whenever events or changes in circumstances indicate that the carrying value may not be recoverable. In conducting our annual impairment assessment testing, we first perform a qualitative assessment of whether it is more likely than not that a reporting unit’s fair value is less than its carrying amount. If not, no further goodwill impairment testing is performed. If it is more likely than not that a reporting unit’s fair value is less than its carrying amount, or if we elect not to perform a qualitative assessment of a reporting unit, we then compare the fair value of the reporting unit to the related net book value. If the net book value of a reporting unit exceeds its fair value, an impairment loss is measured and recognized.
The Company utilizes an income statement approach to estimate the fair value of a reporting unit and a market valuation approach to further support this analysis. The income statement approach is based on projected debt-free cash flow that is discounted to the present value using discount factors that consider the timing and risk of cash flows. We believe that this approach is appropriate because it provides a fair value estimate based on the reporting unit’s expected long-term operating cash flow performance. This approach also mitigates the impact of cyclical trends that occur in the industry. Fair value is estimated using internally developed forecasts, as well as commercial and discount rate assumptions. The discount rate used is the value-weighted average of our estimated cost of equity and of debt (“cost of capital”) derived using both known and estimated customary market metrics. Our weighted average cost of capital is adjusted to reflect a risk factor, if necessary. Other significant assumptions include terminal value growth rates, terminal value margin rates, future capital expenditures and changes in future working capital requirements. While there are inherent uncertainties related to the assumptions used and to management’s application of these assumptions to this analysis, we believe that the income statement approach provides a reasonable estimate of the fair value of a reporting unit.
The Company performs its indefinite-lived intangible asset impairment assessment annually as of December 31, and between annual assessments if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount.
Accrued Warranty Costs
The Company accrues warranty obligations for products sold based on management estimates of future failure rates and current claim cost experience, with support from the sales, engineering, quality and legal functions. While we believe our warranty reserve is adequate and that the judgment applied is appropriate, such estimates could differ materially from what will actually transpire in the future. The warranty policy is reviewed by management annually. Using historical information available to the Company, including claims already filed by customers, the warranty accrual is adjusted quarterly to reflect management’s best estimate of future claims.
Income Taxes
We record income tax expense using the liability method which specifies that deferred tax assets and liabilities be measured each year based on the difference between the financial statement and tax bases of assets and liabilities at the applicable enacted tax rates. A valuation allowance is provided for deferred tax assets when management considers it more likely than not that the asset will not be realized. If future annual taxable income were to be significantly less than current and projected levels, there is a risk that certain of our deferred tax assets not already provided for by the valuation allowance would expire prior to utilization.
We recognize the financial statement benefit of a tax position only after determining that the relevant tax authority would more likely than not sustain the position following an audit. For tax positions meeting the more-likely-than-not threshold, the amount recognized in the financial statements is the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate settlement with the relevant tax authority. We recognize interest and penalties related to income tax matters in income tax expense.
Stock Based Compensation
We account for grants of employee stock options, time-based restricted stock units and restricted stock as compensation expense based upon the fair value on the date of grant and such expense is recognized over the vesting condition, either based on a period of service or based on the performance of a specific achievement.
We also have granted restricted stock units measured based on either a target return on invested capital ratio (“ROIC”), as defined in the award agreement, for a specified fiscal year, or the Company’s common stock market price returning a target total shareholder return (“TSR”), as defined, during a specific three-year measurement period. Upon achievement of the performance measurement, performance-based restricted stock units (“PSUs”) cliff vest after three years. Under FASB ASC Topic 718, the provisions of the PSUs that vest upon the achievement of relative TSR are considered a market condition, and therefore the effect of that market condition is reflected in the grant date fair value for this portion of the award. A third party was engaged to complete a “Monte Carlo simulation” to account for the market condition. That simulation takes into account the beginning stock price of our
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common stock, the expected volatilities for the TSR comparator group, the expected volatilities for the Company’s stock price, correlation coefficients, the expected risk-free rate of return and the expected dividend yield of the Company and the comparator group. The single grant-date fair value computed by this valuation method is recognized by the Company in accounting for the awards regardless of the actual future outcome of the relative TSR feature. The grant date fair value of the other PSUs and RSUs are calculated as the closing price of our common stock as quoted on Nasdaq on the grant date multiplied by the number of shares subject to the award. ROIC is considered a performance condition and the grant-date fair value for ROIC PSUs corresponds with management's expectation of the probable outcome of the performance condition as of the grant date.
Stock appreciation rights (“SARs”) are also an award type granted under our management incentive program and they are accounted for using the liability method since they are settled in cash, which requires mark-to-market adjustments based on the current trading price of Gentherm Common Stock to be recognized in statements of income.
Recent Accounting Pronouncements
For a complete description of recent accounting standards which we have not yet been required to implement which may be applicable to our operations, as well as significant accounting standards that have been adopted during the year ended December 31, 2020, see Note 3, “New Accounting Pronouncements” to the consolidated financial statements included in this Report.
Off-Balance Sheet Arrangements
At December 31, 2020, we do not have any off-balance sheet arrangements that have, or are, in the opinion of management, reasonably likely to have, a current or future material effect on our financial condition or results of operations.
Effects of Inflation
The automotive component supply industry is subject to inflationary pressures with respect to raw materials and labor, which have historically placed operational and financial burdens on the entire supply chain. Accordingly, the Company continues to take actions with its customers and suppliers to mitigate the impact of these inflationary pressures in the future. Actions to mitigate inflationary pressures with customers include collaboration on alternative product designs and material specifications, contractual price escalation clauses on specified materials and negotiated customer recoveries. Actions to mitigate inflationary pressures with suppliers include aggregation of purchase requirements to achieve optimal volume benefits, negotiation of cost-reductions and identification of more cost competitive suppliers. While these actions are designed to offset the impact of inflationary pressures, the Company cannot provide assurance that it will be successful in fully offsetting increased costs resulting from inflationary pressure.
Contractual Obligations and Commitments
The following table summarizes our expected cash outflows resulting from financial contracts and commitments as of December 31, 2020. We have not included information on our recurring purchases of materials for use in our manufacturing operations. These amounts are generally consistent from year to year, closely reflect our levels of production and are not long-term in nature:
Payments Due by Period
(1) Long-term debt obligations do not include an amount payable for interest.
The Company does not have any outstanding capital lease agreements.
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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk for changes in interest rates relates primarily to our debt obligations and foreign currency contracts. We have in the past, and may in the future, place our investments in bank certificates of deposits, debt instruments of the U. S. government, and in high-quality corporate issuers.
We are exposed to market risk from changes in foreign currency exchange rates, short-term interest rates and price fluctuations of certain material commodities. Market risks for changes in interest rates relate primarily to our debt obligations under our Amended Credit Agreement. Foreign currency exchange risks are attributable to sales to foreign customers and purchases from foreign suppliers not denominated in a location’s functional currency, foreign plant operations, intercompany indebtedness, intercompany investments and include exposures to the Euro, Mexican Peso, Canadian Dollar, Hungarian Forint, Macedonian Denar, Ukrainian Hryvnia, Japanese Yen, Chinese Renminbi, Korean Won and Vietnamese Dong.
The Company regularly enters into derivative contracts with the objective of managing its financial and operational exposure arising from these risks by offsetting gains and losses on the underlying exposures with gains and losses on the financial instruments used to hedge them. The maximum length of time over which we hedge our exposure to foreign currency exchange risks is one year. We had foreign currency derivative contracts with a notional value of $13.3 million and $14.4 million outstanding at December 31, 2020 and 2019, respectively. The potential loss in fair value for such financial instruments from a hypothetical 10% adverse change in quoted currency exchange rates would be approximately $1.3 million and $1.4 million as of December 31, 2020 and 2019, respectively. The potential gain in fair value from a hypothetical 10% change in quoted currency exchange rates would be approximately $1.6 million and $1.7 million as of December 31, 2020 and 2019, respectively. The impact of a 10% change in rates on fair value differs from a 10% change in the net fair value asset due to the existence of hedges. The model assumes a parallel shift in currency exchange rates; however, currency exchange rates rarely move in the same direction. The assumption that currency exchange rates change in a parallel fashion may overstate the impact of changing currency exchange rates on assets and liabilities denominated in currencies other than the U.S. dollar.
We do not enter into derivative financial instruments for speculative or trading purposes. Our hedging relationships are formally documented at the inception of the hedge, and hedges must be highly effective in offsetting changes to future cash flows on hedged transactions both at the inception of a hedge and on an ongoing basis to be designated for hedge accounting treatment. For derivative contracts which can be classified as a cash flow hedge, the effective portion of the change in the fair value of the derivative is recorded to accumulated other comprehensive loss in the consolidated balance sheet. When the underlying hedge transaction is realized, the gain or loss included in accumulated other comprehensive loss is recorded in earnings in the consolidated statements of income on the same line as the gain or loss on the hedged item attributable to the hedged risk. We record the ineffective portion of foreign currency hedging instruments, if any, to foreign currency gain (loss) in the consolidated statements of income. Though we continuously monitor the hedging program, derivative positions and hedging strategies, foreign currency forward exchange agreements have not always been designated as hedging instruments for accounting purposes.
The Company uses an income approach to value derivative instruments, analyzing quoted market prices to calculate the forward values and then discounts such forward values to the present value using benchmark rates at commonly quoted intervals for the instrument’s full term.
Information related to the fair values of derivative instruments in our consolidated balance sheet as of December 31, 2020 is as follows (in thousands):
Asset Derivatives Liability Derivatives
Information related to the fair values of derivative instruments in our consolidated balance sheet as of December 31, 2019 is as follows (in thousands):
Asset Derivatives Liability Derivatives
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Information related to the effect of derivative instruments on our consolidated statements of income and statements of comprehensive income is as follows (in thousands):
Year Ended December 31,
Foreign currency derivatives Cost of sales $ (1,629 ) $ 1,976
Other comprehensive income 272 1,151
Foreign currency loss (118 ) (46 )
Total foreign currency derivatives $ (1,475 ) $ 3,081
Interest Rate Sensitivity
The table presents principal cash flows and related weighted average interest rates by expected maturity dates for each of the Company’s debt obligations. The information is presented in U.S. dollar equivalents, which is the Company’s reporting currency. The instruments actual cash flows are denominated in U.S. dollars ($USD) or European Euros (€EUR), as indicated in parentheses.
Expected Maturity Date
Liabilities
Long-Term Debt:
The fair value of our fixed-rate debt at December 31, 2020 and 2019 was $6.4 million and $8.8 million, respectively. The fair value of our variable-rate debt at December 31, 2020 and 2019 was $186.2 million and $71.9 million, respectively. A hypothetical 100 basis point change (increase or decrease) in interest rates would create an estimated change in fair value of our fixed-rate debt of approximately $0.1 million as of December 31, 2020. A hypothetical 100 basis point change in interest rates on our variable-rate debt would change interest expense on an annual basis by approximately $0.9 million.
Exchange Rate Sensitivity
The table below provides information about the Company’s foreign currency forward exchange rate agreements that are sensitive to changes in foreign currency exchange rates. The table presents the notional amounts and weighted average exchange rates by expected (contractual) maturity dates for each type of foreign currency forward exchange agreement. These notional amounts generally are used to calculate the contractual payments to be exchanged under the contract.
Expected Maturity or Transaction Date
Anticipated Transactions and Related Derivatives 2021 Total Fair Value
USD Functional Currency
Forward Exchange Agreements:
(Receive $MXN / Pay $USD)
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The audited consolidated financial statements and related financial information required to be filed hereunder are indexed on page F-1 of this Report and are incorporated herein by reference.
None.
ITEM 9A. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
Management of the Company, under the supervision and with the participation of the Chief Executive Officer and the Chief Financial Officer, carried out an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of December 31, 2020. As defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (as amended, the “Exchange Act”), disclosure controls and procedures are controls and procedures designed to provide reasonable assurance that information required to be disclosed in reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported on a timely basis, and that such information is accumulated and communicated to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. Based upon this evaluation, the Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures were effective as of December 31, 2020.
Management’s Report on Internal Control Over Financial Reporting
Management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f), for the Company. Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. Under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, management conducted an evaluation of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2020 based on the framework set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in “Internal Control-Integrated Framework (2013).” Based on that evaluation, management has concluded that the Company’s internal control over financial reporting was effective as of December 31, 2020.
The attestation report of the Company’s independent registered public accounting firm, regarding the effectiveness of the Company’s internal control over financial reporting, is set forth in Item 15, "Exhibits and Financial Statement Schedules," included under the caption "Report of Independent Registered Public Accounting Firm".
Changes in Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting, that occurred during the quarter ended December 31, 2020, that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Inherent Limitations on Effectiveness of Controls
Our management, including the Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all errors and all fraud. A control system, no matter how well-designed and operated, can provide only reasonable, not absolute, assurance that the control system’s objectives will be met. The design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Further, because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, have been detected.
ITEM 9B. OTHER INFORMATION
None.
48
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
The information required by this item is set forth under the following captions in our proxy statement to be filed with respect to the 2021 annual meeting of shareholders (the “Proxy Statement”), all of which is incorporated herein by reference: “Proposal No. 1 – Election of Directors”, “Board Matters – The Board of Directors”, “Board Matters – Significant Refreshment of Standing Committees of the Board”, “Board Matters – Corporate Governance”, “Executive Officers”, “Additional Information – Delinquent Section 16(a) Reports” and “Additional Information – Requirements for Submission of Shareholder Proposals and Nominations for 2022 Annual Meeting.”
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this item set forth under the following captions in our Proxy Statement, all of which is incorporated herein by reference: “Compensation Discussion and Analysis”, “Named Executive Officer Compensation Tables”, “Board Matters – Director Compensation” and “Compensation Committee Report.”
The information required by this item is set forth under the following captions in our Proxy Statement, all of which is incorporated herein by reference: “Additional Information – Equity Compensation Plans” and “Security Ownership of Certain Beneficial Owners and Management.”
The information required by this item is set forth under the following captions in our Proxy Statement, all of which is incorporated herein by reference: “Related Person Transactions” and “Proposal No. 1 – A Board Substantially Consisting of Independent Directors.”
ITEM 14. PRINCIPAL ACCOUNTING FEES AND SERVICES.
The information required by this item is set forth under the following captions in our Proxy Statement, all of which is incorporated herein by reference: “Audit Committee Matters.”
49
PART IV
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES
The following documents are filed as part of this Report:
1. Financial Statements.
The following financial statements of the Company and reports of independent accountants are included in Item 15 of this Annual Report:
Page
Reports of Independent Registered Public Accounting Firms F– 2
Consolidated Balance Sheets F– 6
Consolidated Statements of Income F– 7
Consolidated Statements of Comprehensive Income F– 8
Consolidated Statements of Changes in Shareholders’ Equity F– 9
Consolidated Statements of Cash Flows F– 10
Notes to the Consolidated Financial Statements F– 11
2. Financial Statement Schedule.
The following Schedule to Financial Statements is included herein:
Schedule II — Valuation and Qualifying Accounts.
50
3. Exhibits.
The exhibits to this Report are as follows:
Incorporated by Reference
3.2 Amended and Restated Bylaws of Gentherm Incorporated 8-K 3.1 5/26/16
10.4.4** Third Amendment to 2006 Equity Incentive Plan Schedule 14A B 4/20/09
51
Incorporated by Reference
52
Incorporated by Reference
21 List of Subsidiaries (Direct and Indirect) of the Company X
23.1 Consent of Ernst & Young LLP X
23.2 Consent of Grant Thornton LLP X
24 Power of Attorney X
31.1 Section 302 Certification - CEO X
31.2 Section 302 Certification – CFO X
32.1 Section 906 Certification – CEO X
32.2 Section 906 Certification - CFO X
101.SCH Inline XBRL Taxonomy Extension Schema Document. X
101.CAL Inline XBRL Taxonomy Extension Calculation Linkbase Document. X
101.DEF Inline XBRL Taxonomy Extension Definition Linkbase Document. X
101.LAB Inline XBRL Taxonomy Extension Label Linkbase Document. X
101.PRE Inline XBRL Taxonomy Extension Presentation Linkbase Document. X
** Indicates management contract or compensatory plan or arrangement.
ITEM 16. Form 10-K Summary
None.
53
INDEX TO FINANCIAL STATEMENTS
Page
Reports of Independent Registered Public Accounting Firms F– 2
Consolidated Balance Sheets as of December 31, 2020 and 2019 F– 6
Notes to the Consolidated Financial Statements F– 11
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of Gentherm Incorporated
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheet of Gentherm Incorporated (the Company) as of December 31, 2020, the related consolidated statements of income, comprehensive income, shareholders' equity and cash flows for the year ended December 31, 2020, and the related notes and financial statement schedule listed in the Index at Item 15 (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020, and the results of its operations and its cash flows for the year ended December 31, 2020, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated March 1, 2021 expressed an unqualified opinion thereon.
Basis for Opinion
These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audit included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audit also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audit provides a reasonable basis for our opinion.
Critical audit matter
The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the consolidated financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the account or disclosure to which it relates.
Valuation of Goodwill – Medical
F-2
/s/ ERNST & YOUNG LLP
We have served as the Company’s auditor since 2020.
Detroit, Michigan
March 1, 2021
F-3
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of Gentherm Incorporated
Opinion on Internal Control Over Financial Reporting
We have audited Gentherm Incorporated’s internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). In our opinion, Gentherm Incorporated (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheet of the Company as of December 31, 2020, and the related consolidated statements of income, comprehensive income, shareholders’ equity and cash flows for the year ended December 31, 2020, and the related notes and financial statement schedule listed in the Index at Item 15 and our report dated March 1, 2021 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ ERNST & YOUNG LLP
Detroit, Michigan
March 1, 2021
F-4
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Gentherm Incorporated
Opinion on the financial statements
We have audited the accompanying consolidated balance sheet of Gentherm Incorporated (a Michigan corporation) and subsidiaries (the “Company”) as of December 31, 2019, the related consolidated statements of income, comprehensive income, changes in shareholders’ equity, and cash flows for the years ended December 31, 2019 and 2018, and the related notes and financial statement schedule included under Item 15 (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 2019, and the results of its operations and its cash flows for the years ended December 31, 2019 and 2018, in conformity with accounting principles generally accepted in the United States of America.
Basis for opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (“PCAOB”) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ GRANT THORNTON LLP
We served as the Company’s auditor from 2007 to 2020.
Southfield, Michigan
February 20, 2020 (except for the section of Note 2 entitled Revision of Prior Period Financial Statements, Note 18 and Note 20, as to which the date is March 1, 2021)
F-5
GENTHERM INCORPORATED
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31,
ASSETS
Current Assets:
Restricted cash — 2,505
LIABILITIES AND SHAREHOLDERS’ EQUITY
Current Liabilities:
Current maturities of long-term debt 2,500 2,500
Other non-current liabilities 8,194 5,100
Shareholders’ equity:
Common Stock:
Accumulated other comprehensive loss (14,982 ) (42,355 )
The accompanying notes are an integral part of these consolidated financial statements
F-6
GENTHERM INCORPORATED
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share data)
Year Ended December 31,
Operating expenses:
Net loss on divestitures — (1,587 ) —
Diluted earnings per share $ 1.81 $ 1.47 $ 1.16
The accompanying notes are an integral part of these consolidated financial statements
F-7
GENTHERM INCORPORATED
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
Year Ended December 31,
Other comprehensive income (loss):
Cumulative effect of accounting change due to ASU 2018-02 — — (40 )
Pension benefit obligations (80 ) (1,032 ) 76
Unrealized loss on commodity derivative securities, net of tax — — (286 )
Other comprehensive income (loss), net of tax 27,373 (2,855 ) (19,056 )
The accompanying notes are an integral part of these consolidated financial statements
F-8
GENTHERM INCORPORATED
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY
(In thousands)
Accumulated
Other
Common Stock Paid-in Comprehensive Accumulated
Shares Amount Capital Loss Earnings Total
Other comprehensive loss — — — (19,016 ) — (19,016 )
Other comprehensive loss — — — (2,855 ) — (2,855 )
The accompanying notes are an integral part of these consolidated financial statements
F-9
GENTHERM INCORPORATED
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Year Ended December 31,
Operating Activities:
Change in defined benefit pension plans (748 ) (570 ) 82
Loss on sale of property and equipment 683 462 2,602
Gain on sale of patents (1,978 ) — —
Net loss on divestitures — 1,587 —
Changes in assets and liabilities:
Investing Activities:
Acquisition of intangible assets (3,141 ) — —
Proceeds from the sale of patents and property and equipment 2,140 219 799
Proceeds from divestiture of businesses, net — 44,173 —
Acquisition of subsidiary, net of cash acquired — (14,823 ) (15 )
Net cash (used in) provided by investing activities (18,220 ) 5,840 (40,757 )
Financing Activities:
Cash paid for the cancellation of restricted stock (1,117 ) (1,402 ) (1,188 )
Acquisition contingent consideration payment (618 ) — —
Cash paid for financing costs — (1,278 ) —
Supplemental disclosure of cash flow information:
The accompanying notes are an integral part of these consolidated financial statements
F-10
GENTHERM INCORPORATED
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except share and per share data)
Note 1 — Overview
Gentherm Incorporated is a global developer and marketer of innovative thermal management technologies for a broad range of heating and cooling and temperature control applications. Unless the context otherwise requires, the terms “Gentherm”, “Company”, “we”, “us” and “our” used herein refer to Gentherm Incorporated and its consolidated subsidiaries. Our products provide solutions for automotive passenger climate comfort and convenience, battery thermal management and cell connecting systems, as well as patient temperature management within the health care industry. Our automotive products can be found on the vehicles of nearly all major automotive manufacturers operating in North America and Europe and several major automotive manufacturers in Asia. We operate in locations aligned with our major customers’ product strategies to provide locally enhanced design, integration and production capabilities. The Company is also developing a number of new technologies and products that is expected to help enable improvements to existing products and to create new product applications for existing and new markets.
On February 1, 2019, the Company completed the divestiture of its environmental test equipment business, Cincinnati Sub Zero industrial chamber business (“CSZ-IC”) and on October 1, 2019, the Company completed the divestiture of its remote power generation systems business, Gentherm Global Power Technologies (“GPT”). The Company’s consolidated financial statements herein include the results of CSZ-IC and GPT through their respective dates of divestiture. CSZ-IC and GPT are not subject to discontinued operations classification.