Item 1A. RISK FACTORS.
Industry Risk Factors
Economic cycles, particularly those involving reduced levels of commercial and residential starts and remodeling, may have adverse effects on our revenues and operating results.
We have experienced and expect to continue to experience fluctuations in revenues and operating results due to economic and business cycles. The businesses of most of our customers, particularly plumbing and heating wholesalers and OEM manufacturers, are cyclical. Therefore, the level of our business activity has been cyclical, fluctuating with economic cycles. An economic downturn may also affect the financial stability of our customers, which could affect their ability to pay amounts owed to their vendors, including us. We also believe our level of business activity is influenced by commercial and residential starts and renovation and remodeling, which are, in turn, heavily influenced by interest rates, consumer debt levels, changes in disposable income, employment growth and consumer confidence. Credit market conditions may prevent commercial and residential builders or developers from obtaining the necessary capital to continue existing projects or to start new projects. This may result in the delay or cancellation of orders from our customers or potential customers and may adversely affect our revenues and our ability to manage inventory levels, collect customer receivables and maintain profitability. If economic conditions worsen in the future or if economic recovery were to dissipate, our revenues and profits could decrease or trigger additional goodwill, indefinite-lived intangible assets, or long-lived asset impairments and could have a material effect on our financial condition and results of operations.
We face risks related to the impact of the COVID-19 pandemic.
In March 2020, the World Health Organization categorized COVID-19 as a pandemic, and the President of the United States declared the COVID-19 outbreak a national emergency. We are subject to risks and uncertainties as a result of the COVID-19 impact, and the extent of the impact on our business is highly uncertain and difficult to predict, as the response to the pandemic continues to unfold and information is rapidly evolving. In response to COVID-19, national and local governments around the world have instituted certain measures, including travel bans, prohibitions on group events and gatherings, shutdowns of certain businesses, curfews, stay-at-home orders and recommendations to practice social distancing. These measures have resulted in business closures and slowdowns which have already adversely impacted and will likely continue to adversely impact us directly. The health and safety measures we’ve adopted to slow the spread of the COVID-19 pandemic have resulted in reduced production capacity and, in some cases, required temporary closures of certain of our facilities, among other impacts. The duration of these measures is unknown, and they may be lifted, extended, or reinstated, and additional measures may be imposed due to new outbreaks and resurgences of COVID-19 in various regions. The measures imposed have resulted in supply chain disruption, reduced demand and higher absenteeism in our manufacturing facilities. There remains a risk of future employee health concerns, and we cannot predict whether any of our manufacturing facilities will experience disruptions or how long such disruptions would last. While we are unable to predict the magnitude of such impact at this time, the loss of, or significant reduction in, purchases by our customers could materially impair our business, operating results, prospects and financial condition.
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Capital markets and economies worldwide have also been negatively impacted by the COVID-19 pandemic. This economic disruption has had a material adverse effect on our business as customers curtail and reduce capital and overall spending. The severity of the impact of the COVID-19 pandemic on our business will depend on a number of factors, including, but not limited to, the duration and severity of the pandemic and the extent and severity of the impact on the Company's customers and suppliers, as well as the time it takes for normal economic and business conditions to resume, all of which are uncertain, cannot be predicted, or may not return to pre-pandemic levels. We may also incur additional costs to remedy damages caused by business disruptions, performance delays or interruptions, payment delays, and defaults or bankruptcy of our third-party customers and suppliers, which could adversely affect our consolidated financial condition, liquidity and results of operations. Additionally, the impact of any initiatives or programs that we may undertake to address financial and operational challenges faced as a result of COVID-19 may not be successful.
Due to the evolving and highly uncertain nature of this event, we cannot predict at this time the full extent to which the COVID-19 pandemic will adversely impact our business, results and financial condition, which will depend on many factors that are not known at this time. There is no guarantee that our efforts to mitigate the impact of COVID-19 will be effective.
We face intense competition and, if we are not able to respond to competition in our markets, our revenues and profits may decrease.
Competitive pressures in our markets could adversely affect our competitive position, leading to a possible loss of market share or a decrease in prices, either of which could result in decreased revenues and profits. We encounter intense competition in all areas of our business. Additionally, we believe our customers are attempting to reduce the number of vendors from which they purchase in order to reduce the size and diversity of their inventories and their transaction costs. To remain competitive, we will need to invest continually in manufacturing, product development, marketing, customer service and support and our distribution networks. We may not have sufficient resources to continue to make such investments and we may be unable to maintain our competitive position. In addition, we may have to reduce the prices of some of our products to stay competitive, potentially resulting in a reduction in the profit margin for, and inventory valuation of, these products. Some of our competitors are based in foreign countries and have cost structures and prices in foreign currencies. Accordingly, currency fluctuations could cause our U.S. dollar costed products to be less competitive than our competitors’ products costed in other currencies.
We are subject to risks associated with changing technology, manufacturing techniques, distribution channels and business continuity, which could place us at a competitive disadvantage.
The successful implementation of our business strategy requires us to continually evolve our existing products and introduce new products to meet customers’ needs in the industries we serve, as evidenced by our investments in our smart and connected strategy. Many of our products are characterized by stringent performance and specification requirements that mandate a high degree of manufacturing, engineering, and technological expertise. If we fail to meet these requirements, or if our product offerings, including our smart and connected products, are not accepted by the market, our business could be at risk. We believe that our customers rigorously evaluate their suppliers on the basis of a number of factors, including product quality, price competitiveness, technical and manufacturing expertise, development and product design capability, new product innovation, reliability and timeliness of delivery, operational flexibility, customer service and overall management. Our success will depend on our ability to continue to meet customers’ changing specifications with respect to these criteria. We cannot ensure that we will be able to address technological advances or introduce new products that may be necessary to remain competitive within our business. We cannot ensure that we can adequately protect any of our technological developments to produce a sustainable competitive advantage. Furthermore, we may be subject to business continuity risk in the event of an unexpected loss of a material facility or operation. We cannot ensure that we adequately protect against such loss.
Economic and other risks associated with international sales and operations could adversely affect our business and future operating results.
Since we sell and manufacture our products worldwide, our business is subject to risks associated with doing business internationally. Our business and future operating results could be harmed by a variety of factors, including:
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Company Risk Factors
Changes in the costs of raw materials and purchased components, including imposition of or changes in tariff rates, could reduce our profit margins. Reductions or interruptions in the supply of raw materials, components or finished goods from international sources could adversely affect our ability to meet our customer delivery commitments.
Our products are made using various purchased components and raw materials, including primarily bronze, brass, cast iron, stainless steel, steel and plastic. Substantially all of the raw materials we require to manufacture our products are purchased from outside sources. The costs of raw materials and components may be subject to change due to, among other things, interruptions in production by suppliers, changes in exchange rates, imposition of or changes in tariff rates, and worldwide price and demand levels. We typically do not enter into long-term supply agreements. Our inability to obtain supplies of raw materials and purchased components for our products at favorable costs could have a material adverse effect on our business, financial condition or results of operations by decreasing our profit margins. Commodity prices, particularly copper and stainless-steel prices, have experienced tremendous volatility over the past several years. Should commodity costs or purchased component costs increase substantially, we may not be able to recover such costs, through selling price increases to our customers or other product cost reductions, which would have a negative effect on our financial results. If commodity costs or purchased component costs decline, we may experience pressure from customers to reduce our selling prices. Additionally, we continue to purchase components and finished goods from international sources. In limited cases, these components or finished goods are single-sourced. The availability of components and finished goods from international sources could be adversely impacted by, among other things, interruptions in production by suppliers including due to pandemics or other public health crises, suppliers’ allocations to other purchasers and new laws, tariffs or regulations.
Our business and financial performance may be adversely affected by information technology and other business disruptions.
Our business may be impacted by disruptions, including information technology attacks or failures, threats to physical security, as well as damaging weather or other acts of nature. Our information technology risks relate to cyber security
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attacks and disruptions caused by potential failures in the performance of our primary enterprise resource planning (ERP) system. Cyber security attacks, in particular, are evolving and include, but are not limited to, malicious software, attempts to gain unauthorized access to data, and other electronic security breaches that could lead to disruptions in systems, unauthorized release of confidential or otherwise protected information and corruption of data. Cyber security may also be breached due to employee error, malfeasance, system errors or vulnerabilities, including vulnerabilities of our customers, vendors, suppliers, and their products. In addition, we have designed products and services that connect to and are part of the “Internet of Things” which may also be vulnerable to cyber security breaches. We attempt to provide adequate security measures to safeguard our products from cyber security attacks, however the potential for a breach remains. We have experienced cyber security attacks and may continue to experience them going forward, potentially with more frequency. We also may experience unplanned system interruptions or outages of our primary ERP system as it continues to age, which may affect our ability to support and maintain the system in an effective manner. Any disruptions, delays or deficiencies related to our primary ERP system could lead to substantial business interruption, including our ability to perform routine business transactions, which could have a material adverse effect on our financial results.
Given the unpredictability of the timing, nature and scope of such disruptions, we could potentially be subject to production downtimes, operational delays, other detrimental impacts on our operations or ability to provide products to our customers, the compromising of confidential or otherwise protected information, misappropriation, destruction or corruption of data, security breaches, other manipulation or improper use of our systems, networks or our products, financial losses from remedial actions, loss of business or potential liability, and/or damage to our reputation, any of which could have a material adverse effect on our competitive position, results of operations, cash flows or financial condition.
Implementation of our acquisition strategy may not be successful, which could affect our ability to increase our revenues or our profitability.
One of our strategies is to increase our revenues and profitability and expand our business through acquisitions that will provide us with complementary products and increase market share for our existing product lines. We cannot be certain that we will be able to identify, acquire or profitably manage additional companies or successfully integrate such additional companies without substantial costs, delays or other problems. Also, companies acquired recently and in the future may not achieve anticipated revenues, cost synergies, profitability or cash flows that justify our investment in them. We have faced increasing competition for acquisition candidates, which has resulted in significant increases in the purchase prices of many acquisition candidates. This competition, and the resulting purchase price increases, may limit the number of acquisition opportunities available to us, possibly leading to a decrease in the rate of growth of our revenues and profitability. In addition, acquisitions may involve a number of risks, including, but not limited to:
● adverse short-term effects on our reported operating results;
● diversion of management’s attention;
● investigations of, or challenges to, acquisitions by competition authorities;
● loss of key personnel at acquired companies;
● unanticipated management or operational problems or legal liabilities; and
We are subject to risks related to product defects, which could result in product recalls and could subject us to warranty claims in excess of our warranty provisions or which are greater than anticipated due to the unenforceability of liability limitations.
We cannot be certain that our quality controls and procedures, including the testing of raw materials and safety testing of selected finished products, will reveal latent defects in our products or the materials from which they are made, which
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may not become apparent until after the products have been sold into the market. We also cannot be certain that our suppliers will always eliminate latent defects in products we purchase from them. Accordingly, there is a risk that product defects will occur, which could require a product recall. Product recalls can be expensive to implement and, if a product recall occurs during the product’s warranty period, we may be required to replace the defective product. In addition, a product recall may damage our relationship with our customers and we may lose market share with our customers. Our insurance policies may not cover the costs of a product recall.
Our standard warranties contain limits on damages and exclusions of liability for consequential damages and for misuse, improper installation, alteration, accident or mishandling while in the possession of someone other than us. We may incur additional operating expenses if our warranty provision does not reflect the actual cost of resolving issues related to defects in our products. If these additional expenses are significant, it could adversely affect our business, financial condition and results of operations.
We face risks from product liability and other lawsuits, which may adversely affect our business.
We have been and expect to continue to be subject to various product liability claims or other lawsuits, including, among others, that our products include inadequate or improper instructions for use or installation, inadequate warnings concerning the effects of the failure of our products, alleged manufacturing or design defects, or allegations that our products contain asbestos. If we do not have adequate insurance or contractual indemnification, damages from these claims would have to be paid from our assets and could have a material adverse effect on our results of operations, liquidity and financial condition. Like other manufacturers and distributors of products designed to control and regulate fluids and gases, we face an inherent risk of exposure to product liability claims and other lawsuits in the event that the use of our products results in personal injury, property damage or business interruption to our customers. We cannot be certain that our products will be completely free from defect. In addition, in certain cases, we rely on third-party manufacturers for our products or components of our products. We cannot be certain that our insurance coverage will continue to be available to us at a reasonable cost, or, if available, will be adequate to cover any such liabilities. For more information, see Item 1. “Business—Product Liability, Environmental and Other Litigation Matters” and Note 15 of the Notes to the Consolidated Financial Statements, both of which are incorporated herein by reference.
We face risks from costs for environmental compliance and/or to address potential liabilities under environmental laws and regulations.
Our operations and facilities worldwide are subject to laws and regulations related to pollution and the protection of the environment, health and safety, including, but not limited to those governing air emissions, discharges to water, the generation, handling, storage, treatment and disposal of hazardous wastes and other materials, and the remediation of contaminated sites. A failure by us to comply with applicable requirements or maintain the permits required for our operations could result in civil or criminal fines, penalties, enforcement actions, third-party claims for property damage and personal injury, requirements to clean up property or to pay for the costs of cleanup or regulatory or judicial orders enjoining or curtailing operations or requiring corrective measures, including the installation of pollution control equipment or remedial actions.
Certain environmental laws and regulations impose on present and former owners and operators of facilities and sites, and on potentially responsible parties (“PRPs”) for sites to which such parties may have sent waste for disposal, requirements to investigate and remediate contamination. Such liability can be imposed without regard to fault and, under certain circumstances, may be joint and several, resulting in one PRP being held responsible for the entire obligation. Liability may also include damages to natural resources. On occasion we are involved in such investigations and/or cleanup, and also have been and could continue to be named as a PRP in environmental matters.
The discovery of additional contamination, including at acquired facilities, the imposition of more stringent environmental, health and safety laws and regulations, including cleanup requirements, or the insolvency, or other grounds for refusing to participate, of other responsible parties could require us to incur capital expenditures or operating costs materially in excess of our accruals. Future investigations we undertake may lead to discoveries of contamination that must be remediated, and decisions to close facilities may trigger remediation requirements that are not currently applicable. We may also face liability for alleged personal injury or property damage due to exposure to hazardous substances used or disposed of by us, contained within our current or former products, or present in the soil or groundwater at our current or former facilities. We could incur significant costs in connection with such liabilities. See
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Item 1. “Business—Product Liability, Environmental and Other Litigation Matters” and Note 15 of the Notes to the Consolidated Financial Statements, both of which are incorporated herein by reference.
Our ability to achieve savings through our restructuring and business transformation activities may be adversely affected by management’s ability to fully execute the plans as a result of local regulations, geo-political risk or other factors within or beyond the control of management.
We have implemented a number of restructuring and business transformation activities, which include steps that we believe are necessary to enhance the value and performance of the Company, including reducing operating costs and increasing efficiencies throughout our manufacturing, sales and distribution footprint. Factors within or beyond the control of management such as local labor regulations or legal or political intervention may change the total estimated costs or the timing of when the savings will be achieved under the plans. Further, if we are not successful in completing the restructuring or business transformation activities timely or if additional or unanticipated issues such as labor disruptions, inability to retain key personnel during and after the transformation or higher exit costs arise, our expected cost savings may not be met and our operating results could be negatively affected. In addition, our restructuring and transformation activities may place substantial demands on our management, which could lead to diversion of management’s attention from other business priorities and result in a reduced customer focus.
The requirements to evaluate goodwill, indefinite-lived intangible assets and long-lived assets for impairment may result in a write-off of all or a portion of our recorded amounts, which would negatively affect our operating results and financial condition.
As of December 31, 2020, our balance sheet included goodwill, indefinite-lived intangible assets, amortizable intangible assets and property, plant and equipment of $602.4 million, $37.2 million, $104.6 million and $212.3 million, respectively. In lieu of amortization, we are required to perform an annual impairment review of both goodwill and indefinite-lived intangible assets. In 2020, 2019 and 2018, none of our goodwill reporting units or our indefinite lived tradenames were impaired. We are also required to perform an impairment review of our long-lived assets if indicators of impairment exist. In 2020, we recognized a pre-tax non-cash impairment charge of $1.4 million related to a long-lived asset and a technology intangible asset in which market value expectations indicated the carrying amounts of these assets were in excess of the fair value. In 2019 and 2018, none of our long-lived assets were impaired.
There can be no assurances that future goodwill, indefinite-lived intangible assets or other long-lived asset impairments will not occur. We perform our annual test for indications of goodwill and indefinite-lived intangible assets impairment in the fourth quarter of our fiscal year or sooner if indicators of impairment exist.
The loss or financial instability of major customers could have an adverse effect on our results of operations.
In 2020, our top ten customers accounted for approximately 23% of our total net sales with no one customer accounting for more than 10% of our total net sales. Our customers generally are not obligated to purchase any minimum volume of products from us and are able to terminate their relationships with us at any time. In addition, increases in the prices of our products could result in a reduction in orders from our customers. A significant reduction in orders from, or change in terms of contracts with, any significant customers could have a material adverse effect on our future results of operations.
Certain indebtedness may limit our ability to pay dividends, incur additional debt and make acquisitions and other investments.
Our revolving credit facility contains operational and financial covenants that restrict our ability to make distributions to stockholders, incur additional debt and make acquisitions and other investments unless we satisfy certain financial tests and comply with various financial ratios. If we do not maintain compliance with these covenants, our creditors could declare a default under our revolving credit facility, and our indebtedness could be declared immediately due and payable. Our ability to comply with the provisions of our indebtedness may be affected by changes in economic or business conditions beyond our control. Further, one of our strategies is to increase our revenues and profitability and expand our business through acquisitions. We may require capital in excess of our available cash and the unused portion of our revolving credit facility to make large acquisitions, which we would generally obtain from access to the credit markets. There can be no assurance that if a large acquisition is identified that we would have access to sufficient capital
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to complete such acquisition. Should we require additional debt financing above our existing credit limit, we cannot be assured such financing would be available to us or available to us on reasonable economic terms.
Our inability to attract and retain key personnel may adversely affect our business.
Our success depends on our ability to recruit, retain and develop highly-skilled management and key personnel. Competition for these individuals in our industry is intense and we may not be able to successfully recruit, train or retain qualified personnel, or to effectively implement successions to existing personnel. If we fail to retain and recruit the necessary personnel or arrange for successors to key personnel, our business could materially suffer.
Investment Risk Factors
One of our stockholders can exercise substantial influence over our Company.
As of December 31, 2020, Timothy P. Horne beneficially owned 6,094,290 shares of Class B common stock. Our Class B common stock entitles its holders to ten votes for each share, and our Class A common stock entitles its holders to one vote per share. As of December 31, 2020, Timothy P. Horne beneficially owned approximately 18.2% of our outstanding shares of Class A common stock (assuming conversion of all shares of Class B common stock beneficially owned by Mr. Horne into Class A common stock) and approximately 99.2% of our outstanding shares of Class B common stock, which represents approximately 68.5% of the total outstanding voting power. As long as Mr. Horne controls shares representing at least a majority of the total voting power of our outstanding stock, Mr. Horne will be able to unilaterally determine the outcome of most stockholder votes, and other stockholders will not be able to affect the outcome of any such votes.
Conversion and subsequent sale of a significant number of shares of our Class B common stock could adversely affect the market price of our Class A common stock.
As of December 31, 2020, there were outstanding 27,478,512 shares of our Class A common stock and 6,144,290 shares of our Class B common stock. Shares of our Class B common stock may be converted into Class A common stock at any time on a one for one basis. Under the terms of a registration rights agreement with respect to outstanding shares of our Class B common stock, the holders of our Class B common stock have rights with respect to the registration of the underlying Class A common stock. Under these registration rights, the holders of Class B common stock may require, on up to two occasions that we register their shares for public resale. If we are eligible to use Form S-3 or a similar short-form registration statement, the holders of Class B common stock may require that we register their shares for public resale up to two times per year. If we elect to register any shares of Class A common stock for any public offering, the holders of Class B common stock are entitled to include shares of Class A common stock into which such shares of Class B common stock may be converted in such registration. However, we may reduce the number of shares proposed to be registered in view of market conditions. We will pay all expenses in connection with any registration, other than underwriting discounts and commissions. If all of the available registered shares are sold into the public market the trading price of our Class A common stock could decline.
General Risk Factors
Changes in regulations or standards could adversely affect our business.
Our products and business are subject to a wide variety of statutory, regulatory and industry standards and requirements. A significant change to regulatory requirements, whether federal, foreign, state or local, or to industry standards, could substantially increase manufacturing costs, impact the size and timing of demand for our products, or put us at a competitive disadvantage, any of which could harm our business and have a material adverse effect on our financial condition, results of operations and cash flow.
Our operating results could be negatively affected by changes in tax rates, the adoption of new tax legislation, or exposure to additional tax liabilities.
As a global company, we are subject to taxation in numerous countries, states and other jurisdictions. As a result, our effective rate is derived from a combination of applicable tax rates in the various places that we operate. Our future taxes could be affected by numerous factors, including changes in the mix of our profitability from country to country,
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the results of examinations and audits of our tax filings, adjustments to our uncertain tax positions, changes in accounting for income taxes and changes in tax laws.
In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. Significant judgment is required in determining our global provision for income taxes, deferred tax assets or liabilities, and in evaluating our tax positions. Although we believe our estimates are reasonable, our tax filings are regularly under audit by tax authorities and the ultimate tax outcome may differ from the amounts recorded and may materially affect our financial results in the period or periods for which such determination is made.
Item 1B. UNRESOLVED STAFF COMMENTS.
None.
Item 2. PROPERTIES.
We maintain 34 principal manufacturing, warehouse and distribution centers worldwide, including our corporate headquarters located in North Andover, Massachusetts. Additionally, we maintain numerous sales offices and other smaller manufacturing facilities and warehouses. The principal properties in each of our three geographic segments and their location, principal use and ownership status are set forth below:
Americas:
Location Principal Use Owned/Leased
North Andover, MA Corporate Headquarters Owned
Burlington, ON, Canada Distribution Center Owned
Export, PA Manufacturing Owned
Franklin, NH Manufacturing/Distribution Owned
St. Pauls, NC Manufacturing Owned
San Antonio, TX Warehouse/Distribution Owned
Spindale, NC Distribution Center Owned
Fort Worth, TX Manufacturing/Distribution Leased
Fort Myers, FL Manufacturing/Distribution Leased
Blauvelt, NY Manufacturing/Distribution Leased
Peoria, AZ Manufacturing/Distribution Leased
Sparks, NV Distribution Center Leased
Vernon, BC, Canada Manufacturing/Distribution Leased
Woodland, CA Manufacturing Leased
Groveport, OH Distribution Center Leased
Europe
Location Principal Use Owned/Leased
Biassono, Italy Manufacturing/Distribution Owned
Hautvillers, France Manufacturing Owned
Landau, Germany Manufacturing/Distribution Owned
Méry, France Manufacturing Owned
Plovdiv, Bulgaria Manufacturing Owned
Sorgues, France Distribution Center Owned
Vildbjerg, Denmark Manufacturing/Distribution Owned
Virey-le-Grand, France Manufacturing/Distribution Owned
Rosières, France Manufacturing/Distribution Owned
Gardolo, Italy Manufacturing Leased
Monastir, Tunisia Manufacturing Leased
St. Neots, United Kingdom Distribution Leased
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Asia-Pacific, Middle East, and Africa:
Location Principal Use Owned/Leased
Ningbo, Beilun, China Manufacturing Owned
Shanghai, China APMEA Headquarters Leased
Ningbo, Beilun District, China Distribution Center Leased
Auckland, New Zealand Manufacturing/Distribution Leased
Dubai, United Arab Emirates Distribution Leased
Perth, Australia Distribution Leased
Melbourne, Australia Distribution Leased
Certain of our facilities are subject to capital lease arrangements and collateral assignments under loan agreements with long-term lenders. In general, we believe that our properties, including machinery, tools and equipment, are in good condition, well maintained and adequate and suitable for their intended uses.
Item 3. LEGAL PROCEEDINGS.
We are from time to time involved in various legal and administrative proceedings. See Item 1. “Business—Product Liability, Environmental and Other Litigation Matters,” and Note 15 of the Notes to Consolidated Financial Statements, both of which are incorporated herein by reference.
Item 4. MINE SAFETY DISCLOSURES.
Not applicable.
PART II
Item 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.
Our Class A common stock is traded on the New York Stock Exchange under the trading symbol “WTS.”
There is no established public trading market for our Class B common stock, which is held by members of the Horne family. The principal holders of such stock are subject to restrictions on transfer with respect to their shares. Each share of our Class B common stock (10 votes per share) is convertible into one share of Class A common stock (1 vote per share).
The number of record holders of our Class A common stock as of January 24, 2021 was 130. The number of record holders of our Class B common stock as of January 24, 2021 was 11.
Aggregate common stock dividend payments in 2020 were $31.4 million, which consisted of $25.7 million and $5.7 million for Class A shares and Class B shares, respectively. Aggregate common stock dividend payments in 2019 were $30.9 million, which consisted of $25.3 million and $5.6 million for Class A shares and Class B shares, respectively. While we presently intend to continue to pay comparable cash dividends, the payment of future cash dividends depends upon the Board of Directors’ assessment of our earnings, financial condition, capital requirements and other factors.
We satisfy the minimum withholding tax obligation due upon the vesting of shares of restricted stock and the conversion of restricted stock units into shares of Class A common stock by automatically withholding from the shares being issued a number of shares with an aggregate fair market value on the date of such vesting or conversion that would satisfy the withholding amount due.
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The following table includes information with respect to shares of our Class A common stock withheld to satisfy withholding tax obligations during the quarter ended December 31, 2020.
Issuer Purchases of Equity Securities
(d) Maximum Number (or
(a) Total (c) Total Number of Approximate Dollar
Number of Shares (or Units) Value) of Shares (or
Shares (or (b) Average Purchased as Part of Units) that May Yet Be
Units) Price Paid per Publicly Announced Purchased Under the
Period Purchased Share (or Unit) Plans or Programs Plans or Programs
The following table includes information with respect to repurchases of our Class A common stock during the three-month period ended December 31, 2020 under our stock repurchase program.
Issuer Purchases of Equity Securities
(d) Maximum Number (or
(a) Total (c) Total Number of Approximate Dollar
Number of (b) Average Shares (or Units) Value) of Shares (or
Shares (or Price Paid Purchased as Part of Units) that May Yet Be
Units) per Share Publicly Announced Purchased Under the
Period Purchased(1) (or Unit) Plans or Programs Plans or Programs
Performance Graph
Set forth below is a line graph comparing the cumulative total shareholder return on our Class A common stock for the last five years with the cumulative return of companies on the Standard & Poor’s 500 Stock Index and the Russell 2000 Index. We chose the Russell 2000 Index because it represents companies with a market capitalization similar to that of
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Watts Water. The graph assumes that the value of the investment in our Class A common stock and each index was $100 at December 31, 2015 and that all dividends were reinvested.
Cumulative Total Return
The above Performance Graph and related information shall not be deemed “soliciting material” or to be “filed” with the Securities and Exchange Commission, nor shall such information be incorporated by reference into any future filing under the Securities Act of 1933 or Securities Exchange Act of 1934, each as amended, except to the extent that we specifically incorporate it by reference into such filing.
Item 6. SELECTED FINANCIAL DATA.
The selected financial data set forth below should be read in conjunction with our consolidated financial statements, related Notes thereto and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” included herein.
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FIVE-YEAR FINANCIAL SUMMARY
(Amounts in millions, except per share and cash dividend information)
Year Ended Year Ended Year Ended Year Ended Year Ended
Statement of operations data:
DILUTED EPS
Balance sheet data (at year end):
Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
Overview
We are a leading supplier of products, solutions and systems that manage and conserve the flow of fluids and energy into, through and out of buildings in the commercial and residential markets in the Americas, Europe and APMEA. For over 140 years, we have designed and produced valve systems that safeguard and regulate water systems, energy efficient heating and hydronic systems, drainage systems and water filtration technology that helps purify and conserve
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water. We earn revenue and income almost exclusively from the sale of our products. Our principal product lines include:
Our business is reported in three geographic segments: Americas, Europe, and APMEA. We distribute our products through four primary distribution channels: wholesale, original equipment manufacturers (OEMs), specialty, and do-it-yourself (DIY).
We believe that the factors relating to our future growth include continued product innovation that meets the needs of our customers and our end markets; our ability to make selective acquisitions, both in our core markets as well as in complementary markets; regulatory requirements relating to the quality and conservation of water and the safe use of water; increased demand for clean water; and continued enforcement of plumbing and building codes. We have completed 12 acquisitions in the last decade. Our acquisition strategy focuses on businesses that promote our key macro themes around safety & regulation, energy efficiency and water conservation. We target businesses that will provide us with one or more of the following: an entry into new markets and/or new geographies, improved channel access, unique and/or proprietary technologies, advanced production capabilities or complementary solution offerings.
Our innovation strategy is focused on differentiated products and solutions that provide greater opportunity to distinguish ourselves in the marketplace. Conversely, we continue to migrate away from commoditized products where it is more difficult to add value. Our goal is to be a solutions provider, not merely a components supplier. We continually look for strategic opportunities to invest in new products and markets or divest existing product lines where necessary in order to meet those objectives.
The Internet of Things has allowed companies to transform components into smart and connected devices. Over the last few years we have been building our smart and connected foundation by expanding our internal capabilities and making strategic acquisitions. Our strategy is to deliver superior customer value through smart and connected products and solutions. This strategy focuses on three dimensions: Connect, Control and Conserve. We intend to introduce products that will connect our customers with smart systems, control systems for optimal performance, and conserve critical resources by increasing operability, efficiency and safety.
Products representing a majority of our sales are subject to regulatory standards and code enforcement, which typically require that these products meet stringent performance criteria. We have consistently advocated for the development and enforcement of such plumbing codes. We are focused on maintaining stringent quality control and testing procedures at each of our manufacturing facilities in order to manufacture products in compliance with code requirements and take advantage of the resulting demand for compliant products. We believe that the product development, product testing capability and investment in plant and equipment needed to manufacture products in compliance with code requirements, represent a competitive advantage for us.
COVID-19 Pandemic
The unprecedented global COVID-19 pandemic presents significant risks to our company and continues to cause challenges and uncertainties in our ability to fully predict the impact on our business. Throughout the course of the pandemic we have demonstrated the strength and resiliency of our strategy and the meaningful role we play in our
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markets and channels and the value we bring to our customers. Our revenues for the year ended December 31, 2020 were adversely impacted as a result of COVID-19. Demand for our products decreased as compared to 2019 as the pandemic continued and various governmental measures were imposed to combat the spread of the virus. Fourth quarter net sales improved when compared to the third quarter of 2020, as did quarter-over-quarter order rates. The exact timing and pace of the recovery remain uncertain and are impacted by different markets which are now experiencing a resurgence of COVID-19 cases. Future sales expansion or contraction is dependent on the duration and severity of the COVID-19 pandemic, including the time it takes for normal economic and operating conditions to resume, the easing of the construction lending markets, improvements in overall investments and capital spending in building services construction markets, additional governmental actions that may be taken, and numerous other uncertainties, including the time to administer and inoculate a sufficient population with the recently approved vaccines or the introduction of new therapeutic treatments.
We continue to be concerned about the far reaching impacts of the pandemic on our business, operations and financial results and conditions, directly and indirectly, including, without limitation, impacts on the health of our employees, manufacturing capabilities, supply chains, distribution networks, sales opportunities, customer and consumer behaviors, and the overall economy. The scope and nature of these potential impacts are pervasive, and many impacts are beyond our control and continue to evolve.
Many of our products qualify as “essential products” under local, state and national guidelines and orders. We remain focused on protecting the health and safety of our employees and the communities in which we operate while maintaining the continuity of our business operations. We created a COVID-19 Task Force to develop and implement a coordinated response to protect our employees while maintaining production capabilities, and we have implemented social distancing guidelines and temperature monitoring, provided personal protective equipment, established a COVID-19 website for employees, which includes the latest CDC and other government protocols, and promoted work-from-home where practical. We are in communication with both customers and suppliers, we established a COVID-19 customer hotline in the US to support critical infrastructure projects, and we worked with our suppliers to ensure they could obtain the “essential” product classification from various government organizations.
In response to the business impact of the COVID-19 pandemic, we undertook several cost management actions in order to reduce costs, including merit deferrals, compensation reductions, furloughs, reduced discretionary spending, factory overhead cost reductions, and reductions-in-force and other exit activities initiated in the second and third quarters of 2020. In addition to the cost actions noted above, we also implemented various measures to conserve cash and ensure its availability. We entered into an Amended and Restated Credit Agreement on April 24, 2020, we temporarily suspended our stock repurchase program during the second quarter, which was reinstated on June 29, 2020, maintained a flat dividend rate, and deferred employer payroll tax payments as permitted under the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”). We have also implemented additional procedures to manage risks related to our working capital, specifically the collectability of our trade accounts receivable, by monitoring the financial stability, credit rating, payment terms and credit limits of our credit customers.
Due to the above circumstances and as described generally in this Form 10-K, our results of operations for the year ended December 31, 2020 are not necessarily indicative of future results. Management cannot predict the full impact of the COVID-19 pandemic on our sales, supply chain, manufacturing and distribution or on economic conditions generally, including the effects on customer spending. The extent of the effects of the COVID-19 pandemic on us remain uncertain and will depend on future developments, and such effects could exist for an extended period of time even after the pandemic ends. For further information regarding the impact of COVID-19 on us, see Item 1A, “Risk Factors.”
Financial Overview
Net sales for 2020 decreased 5.7%, or $91.9 million, on a reported basis and 6.8%, or $109.0 million, on an organic basis, compared to 2019, primarily due to the impact of the COVID-19 pandemic across all of our operating segments. The reported decline was partially offset by an increase in sales from favorable foreign exchange movements of 0.5%, or $7.2 million, primarily driven by a stronger euro, and a net increase in acquired/divested sales of $9.9 million. Organic sales is a non-GAAP financial measure that excludes the impacts of acquisitions, divestitures and foreign exchange from year-over-year comparisons. Management believes reporting organic sales growth provides useful information to investors, potential investors and others, because it allows for additional insight into underlying sales trends by providing sales growth on a consistent basis. We reconcile the change in organic sales to our reported sales for each region within our results below. Operating income of $181.1 million decreased by $16.0 million, or 8.1%, in 2020 compared to 2019. This decrease was primarily driven by lower sales volume as a result of the COVID-19 pandemic, higher general inflation, including tariffs, strategic investments and incremental restructuring costs, partially offset by benefits from
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productivity initiatives, reduced long-term incentive costs, lower Corporate-related professional fees, and benefits from cost reduction actions in response to the COVID-19 pandemic.
Despite the challenges presented by the COVID-19 pandemic in 2020, we continued to drive commercial and operational excellence, invest in our business with increased capital expenditures and the acquisitions discussed in the section below, and invest in product innovation, including our smart and connected products and solutions, as we strove to meet the needs of our customers.
Management’s discussion and analysis of our financial condition, results of operations and cash flows as of and for the year ended December 31, 2018 can be found in Item 7 of Part II, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” in our Annual Report on Form 10-K for the year ended December 31, 2019.
Acquisitions
In the third quarter of 2020, we completed the acquisition of 100% of the shares of Australian Valve Group Pty Ltd (“AVG”) in an all-cash transaction. AVG is based in Perth, Australia, and specializes in the design, marketing and distribution of heating control valves used in the Australian residential and commercial end markets. The acquisition of AVG aligns with our strategy to expand geographically into countries with mature and enforced plumbing codes. AVG will enhance our product offering and channel access into the Australian marketplace. The acquisition of AVG was deemed not to be material to our consolidated financial statements.
In the fourth quarter of 2020, we completed the acquisition of 100% of the shares of The Detection Group, Inc. (“TDG”) in an all-cash transaction. TDG is based in Sunnyvale, California, and specializes in the design, marketing and distribution of wireless leak detection systems for commercial buildings. The acquisition of TDG aligns with our smart and connected strategy. The acquisition of TDG was deemed not to be material to our consolidated financial statements.
Recent Developments
On February 8, 2021, we declared a quarterly dividend of twenty-three cents ($0.23) per share on each outstanding share of Class A common stock and Class B common stock payable on March 15, 2021 to stockholders of record on March 1, 2021.
Results of Operations
Year Ended December 31, 2020 Compared to Year Ended December 31, 2019
Net Sales. Our business is reported in three geographic segments: Americas, Europe and APMEA. Our net sales in each of these segments for the years ended December 31, 2020 and December 31, 2019 were as follows:
Year Ended Year Ended % Change to
December 31, 2020 December 31, 2019 Consolidated
Net Sales % Sales Net Sales % Sales Change Net Sales
(dollars in millions)
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The change in net sales was attributable to the following:
Change As a % Change As a %
of Consolidated Net Sales of Segment Net Sales
(dollars in millions)
Our products are sold to wholesalers, OEMs, DIY chains, and through various specialty channels. The change in organic net sales by channel was attributable to the following:
Change As a %
of Prior Year Sales
Wholesale OEMs DIY Specialty Total Wholesale OEMs DIY Specialty
(dollars in millions)
Total $ (77.3) $ (9.4) $ 6.0 $ (28.3) $ (109.0)
Organic net sales in the Americas decreased due to a decline in volume in the majority of our product lines primarily from the impact of the COVID-19 pandemic. This decrease was partially offset by higher volume within our DIY channel as many DIY customers worked on residential projects during the pandemic.
Organic net sales in Europe decreased primarily due to lost volume related to the COVID-19 pandemic within all major regions and across all of our product lines, partially offset by selected price increases.
Organic net sales in APMEA decreased primarily due to a decline in volume related to the COVID-19 pandemic in all regions.
The net increase in sales due to foreign exchange was primarily due to the appreciation of the euro, partially offset by the depreciation of the Canadian dollar against the U.S. dollar in 2020 as compared to 2019. We cannot predict whether foreign currencies will appreciate or depreciate against the U.S. dollar in future periods or whether future foreign exchange rate fluctuations will have a positive or negative impact on our net sales.
The change in net sales due to acquired/divested relates to three immaterial acquisitions, one in the APMEA segment in the third quarter of 2020, one in the Americas segment in the fourth quarter of 2020, and one in the Americas segment in the third quarter of 2019, partially offset by an immaterial divestiture in our APMEA segment during the third quarter of 2020.
Gross Profit. Gross profit and gross profit as a percent of net sales (gross margin) for 2020 and 2019 were as follows:
Year Ended
December 31,
(dollars in millions)
Gross profit and gross margin declined primarily from lower sales volume and absorption as a result of the COVID-19 pandemic, partially offset by benefits from price, productivity initiatives, government subsidies within Europe and APMEA, and cost reduction actions in response to the pandemic.
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Selling, General and Administrative Expenses. Selling, general and administrative, or SG&A, expenses decreased $43.7 million, or 9.2%, in 2020 compared to 2019. The decrease in SG&A expenses was attributable to the following:
(in millions) % Change
Foreign exchange 1.4 0.7
Acquired/divested, net 3.7 0.3
The organic decrease was related to cost reduction actions in response to the COVID-19 pandemic of $31.4 million, decreased variable costs due to sales volume declines of $9.5 million, restructuring savings of $10.1 million, decreased stock compensation expense of $4.2 million primarily due to adjustments to expected attainment levels of performance goals related to our performance stock units, and reduction in Corporate-related professional fees of $3.1 million. These decreases were partially offset by strategic investments of $8.8 million, including investments in research and development for new products, commercial excellence, and technology and information systems as well as general inflation of $5.4 million compared to 2019. The increase in foreign exchange was mainly due to the appreciation of the euro against the U.S. dollar. The acquired/divested, net SG&A costs are related to three immaterial acquisitions, partially offset by SG&A costs related to an immaterial divestiture, as previously mentioned. Total SG&A expenses, as a percentage of net sales, were 28.7% in 2020 compared to 29.7% in 2019.
Restructuring. In 2020, we recorded a net charge of $9.9 million compared to a net charge of $4.3 million in 2019. The charge for 2020 was primarily for severance benefits due to reductions in force programs initiated in the second and third quarters of 2020 in response to economic challenges related to the COVID-19 pandemic. For a more detailed description of our current restructuring plans, see Note 3 of Notes to Consolidated Financial Statements in this Annual Report Form 10-K.
Other long-lived asset impairment charges.In 2020, we recorded impairment charges of $1.4 million in our Americas segment, primarily relating to $1.0 million for a long-lived asset impairment charge and $0.4 million related to a technology intangible asset in which market value expectations indicated the carrying amounts of these assets were in excess of the fair value.
Loss on disposition.In 2020, we recorded a pre-tax loss on disposition of $0.6 million in our APMEA segment related to an immaterial divestiture.
Operating Income (Loss). Operating income (loss) by geographic segment for 2020 and 2019 was as follows:
% Change to
Consolidated
Year Ended December 31, Operating
(dollars in millions)
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The (decrease) increase in operating income (loss) is attributable to the following:
Change As a % of Change As a % of
(dollars in millions)
The decrease in organic operating income was due to lower sales volume and absorption as a result of the COVID-19 pandemic, higher general inflation, including tariffs, and strategic investments, partially offset by benefits from cost reduction actions including restructuring initiated in response to the COVID-19 pandemic, price, productivity initiatives, reduced variable costs due to sales volume decline, reduced long-term incentive costs and a reduction in Corporate-related professional fees.
Interest Expense. Interest expense decreased $0.8 million, or 5.7%, in 2020 as compared to 2019 primarily due to a decline in interest rates and a reduction in the principal balance of debt outstanding. Refer to Note 11 of Notes to
Consolidated Financial Statements in this Annual Report on Form10-K for further details.
Other expense, (income) netOther expense (income) decreased $1.5 million to an expense balance of $1.0 million compared to 2019. The decrease was primarily due to higher net foreign currency transaction losses.
Income Taxes.Our effective income tax rate increased to 31.6% in 2020, from 28.5% in 2019. The tax rate increased primarily from an increase to the valuation allowance as a result of recently issued final tax regulations which reduced the realizability of foreign tax credits.
Net Income.Net income for 2020 was $114.3 million, or $3.36 per common share on a diluted basis, compared to $131.5 million, or $3.85 per common share on a diluted basis, for 2019. Results for 2020 include an after-tax charge of $7.4 million, or $0.22 per common share, for restructuring; $9.7 million, or $0.28 per common share, for changes in tax regulations; $1.0 million, or $0.03 per common share, for other long-lived asset impairment charges; $1.0 million, or $0.03 per common share, for acquisition related costs; $0.8 million, or $0.02 per common share, for footprint optimization; partially offset by a $1.5 million benefit, or $0.04 per share for the elimination of an earnout from a prior immaterial acquisition in our Americas segment, and $0.7 million, or $0.02 per common share of a net gain on disposal.
Results for 2019 include an after-tax charge of $3.1 million, or $0.09 per common share, for Corporate professional fees; $3.2 million, or $0.09 per common share, for restructuring charges; $0.7 million, or $0.02 per common share, for acquisition related costs; and $0.6 million, or $0.02 per common share for footprint optimization.
Liquidity and Capital Resources
2020 Cash Flows
We generated $228.8 million of net cash from operating activities in 2020 as compared to $194.0 million in 2019. The increase in cash generated was primarily driven by favorable changes in working capital, including reductions to accounts receivable that more than offset lower net income.
We used $54.8 million of net cash for investing activities in 2020 compared to $71.8 million used in 2019. We spent $27.5 million less on acquisitions and $14.6 million more for capital expenditures in 2020 compared to 2019. We received $2.2 million in cash proceeds from the sale of property, plant and equipment and received $2.0 million in proceeds from the disposal of a business in 2020.We anticipate investing between $35 million to $40 million in capital equipment in 2021 to improve our manufacturing capabilities and investment in our commercial and operational excellence initiatives.
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We used $181.9 million of net cash from financing activities in 2020 primarily due to long-term debt repayments of $517.5 million, dividend payments of $31.4 million, tax withholding payments on vested stock awards of $7.8 million and payments of $28.9 million to repurchase approximately 332,000 shares of Class A common stock. Debt repayments include the termination of the term loan facility under the Prior Credit Agreement, payments made under both the Revolving Credit Facility and the Prior Revolving Credit Facility, and payment of $75 million to retire notes issued under the 2010 Note Purchase Agreement. These payments were partially offset by proceeds from drawdowns on both our Prior and current Revolving Credit Facilities totaling $407.5 million.
In February 2016, we entered into the Credit Agreement (the “Prior Credit Agreement”) among the Company, certain subsidiaries of the Company who become borrowers under the Prior Credit Agreement, JPMorgan Chase Bank, N.A., as Administrative Agent, Swing Line Lender and Letter of Credit Issuer, and the other lenders referred to therein. The Prior Credit Agreement provided for a $500 million, five-year, senior unsecured revolving credit facility (the “Prior Revolving Credit Facility”) with a sublimit of up to $100 million in letters of credit. The Prior Credit Agreement also provided for a $300 million, five-year, term loan facility (the “Term Loan Facility”) available to us in a single draw, of which the entire $300 million had been drawn in February 2016.
On April 24, 2020, we entered into an Amended and Restated Credit Agreement (the "New Credit Agreement") among the Company, certain subsidiaries of the Company who become borrowers thereunder, JPMorgan Chase Bank, N.A., as Administrative Agent, Swing Line Lender and Letter of Credit Issuer, and the other lenders referred to therein. The New Credit Agreement amended and restated the Prior Credit Agreement in its entirety while increasing the amount of revolving credit available from $500 million to $800 million, and extending the maturity by one additional year to February 2022. This senior unsecured revolving credit facility (the "Revolving Credit Facility") also includes sublimits of $100 million for letters of credit and $15 million for swing line loans. As of December 31, 2020, we had drawn down $200.0 million on this line of credit and had $16.2 million in letters of credit outstanding, which resulted in $583.8 million of unused and available credit under the Revolving Credit Facility. The term loan facility under the Prior Credit Agreement was terminated and paid off effective April 24, 2020, with funds from the Revolving Credit Facility. Borrowings outstanding under the Revolving Credit Facility bear interest at a fluctuating rate per annum equal to an applicable percentage defined as (i) in the case of Eurocurrency rate loans, the adjusted British Bankers Association LIBOR rate (which at all times will not be less than 1.00%) plus an applicable percentage, ranging from 1.50% to 2.10%, determined by reference to our consolidated leverage ratio, or (ii) in the case of alternate base rate loans and swing line loans, interest (which at all times will not be less than 2.00%) at the greatest of (a) the Prime Rate in effect on such day, (b) the FRBNY Rate in effect on such day plus 0.5% and (c) the adjusted LIBOR rate plus 1.0% for a one month interest period in dollars. In addition to paying interest under the New Credit Agreement, we are also required to pay certain fees in connection with the Revolving Credit Facility, including, but not limited to, an unused facility fee and letter of credit fees. The New Credit Agreement matures on February 12, 2022, subject to extension under certain circumstances and subject to the terms of the New Credit Agreement. We may repay loans outstanding under the New Credit Agreement from time to time without premium or penalty, other than customary breakage costs, if any, and subject to the terms of the New Credit Agreement.
On June 18, 2010, we entered into a note purchase agreement with certain institutional investors (the 2010 Note Purchase Agreement). Pursuant to the 2010 Note Purchase Agreement, we issued senior notes of $75.0 million in principal, due June 18, 2020. On June 18, 2020, we borrowed $40.0 million under the Revolving Credit Facility and used $35.0 million of our available cash to pay off all amounts outstanding under the 2010 Note Purchase Agreement.
We have historically financed our operating and capital needs primarily through cash flows generated by our operations. We expect to continue funding future operating requirements principally through our cash flows from operations, in addition to existing cash resources. We believe that our existing funds, when combined with cash generated from operations and our ability to access additional financing resources, if needed, are sufficient to satisfy our operating, working capital, strategic investments, capital expenditure and debt service requirements for the foreseeable future. In addition, we may choose to opportunistically return cash to shareholders and pursue other business initiatives, including acquisition activities. We may, from time to time, also seek additional funding through a combination of equity and debt financings should we identify a significant new opportunity.
As of December 31, 2020, we held $218.9 million in cash and cash equivalents. Of this amount, $175.6 million was held by foreign subsidiaries. Our U.S. operations typically generate sufficient cash flows to meet our domestic obligations. However, if we did have to borrow to fund some or all of our expected cash outlays, we can do so at reasonable interest
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rates by utilizing the undrawn borrowings under our Revolving Credit Facility. We believe that our financial resources allow us to manage the anticipated impacts of the COVID-19 pandemic on our business operations for the foreseeable future, which include reductions in revenues and potential delays in payments from customers. We anticipate the impacts of COVID-19 will continue to evolve rapidly, and, as a result, we will continue to evaluate our financial position as additional information becomes available, particularly relating to COVID-19. Subsequent to recording the Toll Tax as part of the Tax Cuts and Jobs Act of 2017, our intent is to permanently reinvest undistributed earnings of foreign subsidiaries, and we do not have any current plans to repatriate post-Toll Tax foreign earnings generated subsequent to December 31, 2017, to fund operations in the United States. However, if amounts held by foreign subsidiaries were needed to fund operations in the United States, we could be required to accrue and pay taxes to repatriate these funds. Such charges may include potential state income taxes and other tax charges.
Covenant compliance
Under the New Credit Agreement, we are required to satisfy and maintain specified financial ratios and other financial condition tests as of December 31, 2020. The financial ratios include a consolidated interest coverage ratio based on consolidated earnings before income taxes, interest expense, depreciation, and amortization (Consolidated EBITDA) to consolidated interest expense, as defined in the New Credit Agreement. The New Credit Agreement defines Consolidated EBITDA to exclude unusual or non-recurring charges and gains. We are also required to maintain a consolidated leverage ratio of consolidated funded debt to Consolidated EBITDA. Consolidated funded debt, as defined in the New Credit Agreement, includes all long and short-term debt, capital lease obligations and any trade letters of credit that are outstanding, less cash and cash equivalents on the balance sheet.
As of December 31, 2020, our actual financial ratios calculated in accordance with the New Credit Agreement compared to the required levels under the New Credit Agreement were as follows:
Actual Ratio Required Level
Minimum level
Maximum level
As of December 31, 2020, we were in compliance with all covenants related to the New Credit Agreement.
In addition to financial ratios, the New Credit Agreement contains affirmative and negative covenants that include limitations on disposition or sale of assets, prohibitions on assuming or incurring any liens on assets with limited exceptions and limitations on making investments other than those permitted by the agreement.
Working capital (defined as current assets less current liabilities) as of December 31, 2020 was $396.7 million compared to $315.6 million as of December 31, 2019. The ratio of current assets to current liabilities was 2.3 to 1 as of December 31, 2020 compared to 1.8 to 1 as of December 31, 2019. The increase in working capital is primarily related to a decrease in the current portion of long-term debt due to the payment of the senior note and the current portion of the term loan facility under the Prior Credit Agreement in 2020. The senior note, which is described further in Note 11 of Notes to the Consolidated Financial Statements in this Annual Report 10-K, was paid in June 2020.
Non-GAAP Financial Measures
In accordance with the SEC's Regulation G and Item 10(e) of Regulation S-K, the following provides definitions of the non-GAAP measures used by management. We believe that these measures enhance the overall understanding of underlying business results and trends. These non-GAAP measures are not intended to be considered by the user in place of the related GAAP measure, but rather as supplemental information to more fully understand our business results. These non-GAAP measures may not be the same as similar measures used by other companies due to possible differences in method and in the items or events being adjusted.
Organic net sales growth is a non-GAAP measure of net sales growth that excludes the impacts of acquisitions, divestitures and foreign exchange from period-over-period comparisons. A reconciliation to the most closely related U.S. GAAP measure, net sales, has been included in our discussion within “Results of Operations” above. Organic net sales should be considered in addition to, and not as a replacement for or as a superior measure to net sales. Management
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believes reporting organic sales growth provides useful information to investors, potential investors and others, by facilitating easier comparisons of our revenue performance with prior and future periods.
Adjusted operating income, adjusted operating margins, adjusted net income, and adjusted earnings per share are non-GAAP measures that exclude certain expenses incurred and benefits recognized in the periods presented that relate primarily to our global restructuring programs, other long-lived asset impairment charges, professional fees, acquisition related costs, footprint optimization costs, an earnout adjustment, loss on disposal, and the related income tax impacts on these items and other tax adjustments. Management believes reporting these financial measures provides useful information to investors, potential investors and others, by facilitating easier comparisons of our performance with prior and future periods.
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A reconciliation of U.S. GAAP results to these adjusted non-GAAP measures is provided below (dollars in millions, except per share amounts):
Year Ended
December 31, December 31,
Operating income - as reported 181.1 197.1
Operating margin % 12.0% 12.3%
Adjustments for special items:
Acquisitions / divesture costs / adjustments:
- Other long-lived asset impairment charge 1.4 —
- Acquisition related costs 1.3 0.9
- Loss on disposal 0.6 —
- Earnout adjustment (1.5) —
Total acquisitions / divesture costs / adjustments 1.8 0.9
Restructuring 9.9 4.3
Footprint optimization 1.1 0.8
Professional fees — 3.1
Total adjustments for special items $ 12.8 $ 9.1
Operating income - as adjusted $ 193.9 $ 206.2
Adjusted operating margin % 12.9% 12.9%
Net income - as reported $ 114.3 $ 131.5
Adjustments for special items - tax effected:
Acquisitions / divesture costs / adjustments:
- Other long-lived asset impairment charge 1.0 —
- Acquisition related costs 1.0 0.7
- Net gain on disposal (0.7) —
- Earnout adjustment (1.5) —
Total acquisitions / divesture costs / adjustments (0.2) 0.7
Restructuring 7.4 3.2
Footprint optimization 0.8 0.6
Professional fees — 3.1
Tax adjustments 9.7 —
Total adjustments for special items - tax effected: $ 17.7 $ 7.6
Net income as adjusted $ 132.0 $ 139.1
Diluted earnings per share - as reported $ 3.36 $ 3.85
Adjustments for special items 0.52 0.22
Diluted earnings per share - as adjusted $ 3.88 $ 4.07
Free cash flow is a non-GAAP measure that does not represent cash generated from operating activities in accordance with U.S. GAAP. Therefore, it should not be considered an alternative to net cash provided by operating activities as an indication of our performance. The cash conversion rate of free cash flow to net income is also a measure of our performance in cash flow generation. We believe free cash flow to be an appropriate supplemental measure of our
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operating performance because it provides investors with a measure of our ability to generate cash, repay debt, pay dividends, repurchase stock and fund acquisitions.
A reconciliation of net cash provided by operating activities to free cash flow and calculation of our cash conversion rate is provided below:
Year Ended
December 31, December 31,
(in millions)
Net cash provided by operating activities $ 228.8 $ 194.0
Less: additions to property, plant, and equipment (43.8) (29.2)
Plus: proceeds from the sale of property, plant, and equipment 2.2 0.1
Net income —as reported $ 114.3 $ 131.5
Cash conversion rate of free cash flow to net income 163.8 % 125.4 %
Our free cash flow improved in 2020 when compared to 2019 primarily driven by favorable changes in working capital, including reductions in accounts receivable which more than offset lower net income and higher capital expenditures.
Our net (cash) debt to capitalization ratio, a non-GAAP financial measure used by management, at December 31, 2020 was (2)% for 2020 compared to 8.4% in 2019. The decrease was driven by a decrease in net debt outstanding at December 31, 2020 of $110.2 million, primarily due to the payments of the senior note and the current portion of the term loan facility under the Prior Credit Agreement in 2020. Management believes the net (cash) debt to capitalization ratio is an appropriate supplemental measure because it helps investors understand our ability to meet our financing needs and serves as a basis to evaluate our financial structure. Our computation may not be comparable to other companies that may define their net (cash) debt to capitalization ratios differently.
A reconciliation of long-term debt (including current portion) to net (cash) debt and our net (cash) debt to capitalization ratio is provided below:
December 31, December 31,
(in millions)
Current portion of long‐term debt $ — $ 105.0
Plus: long-term debt, net of current portion 198.2 204.2
Less: cash and cash equivalents (218.9) (219.7)
Net (cash) debt $ (20.7) $ 89.5
A reconciliation of capitalization is provided below:
December 31, December 31,
(in millions)
Net (cash) debt $ (20.7) $ 89.5
Total stockholders’ equity 1,069.8 978.0
Net (cash) debt to capitalization ratio (2.0) % 8.4 %
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Contractual Obligations
Our contractual obligations as of December 31, 2020 are presented in the following table:
Payments Due by Period
Less than More than
Contractual Obligations Total 1 year 1‐3 years 4‐5 years 5 years
(in millions)
Finance lease obligations(a) 4.9 1.7 2.2 1.0 —
Interest 5.2 4.5 0.7 — —
2017 Tax Act Toll Tax payable 18.7 — 3.5 15.2 —
(a) as recognized in the consolidated balance sheet.
(c) includes obligations as recognized in the consolidated balance sheet.
We maintain letters of credit that guarantee our performance or payment to third parties in accordance with specified terms and conditions. Amounts outstanding were approximately $16.2 million as of December 31, 2020 and $25.8 million as of December 31, 2019. Our letters of credit are primarily associated with insurance coverage and, to a lesser extent, foreign purchases and generally expire within one year of issuance. These instruments may exist or expire without being drawn down; therefore, they do not necessarily represent future cash flow obligations and are not included in the table above.
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that are material to investors.