VALMONT INDUSTRIES, INC. MANAGEMENT'S DISCUSSION AND ANALYSIS ForwardLooking Statements Management's discussion and analysis, and other sections of this annual report, contain forwardlooking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forwardlooking statements are based on assumptions that management has made in light of experience in the industries in which the Company operates, as well as management's perceptions of historical trends, current conditions, expected future developments and other factors believed to be appropriate under the circumstances. These statements are not guarantees of performance or results. They involve risks, uncertainties (some of which are beyond the Company's control) and assumptions. Management believes that these forwardlooking statements are based on reasonable assumptions. Many factors could affect the Company's actual financial results and cause them to differ materially from those anticipated in the forwardlooking statements. These factors include, among other things, risk factors described from time to time in the Company's reports to theSecurities and Exchange Commission , as well as future economic and market circumstances, industry conditions, company performance and financial results, operating efficiencies, availability and price of raw materials, availability and market acceptance of new products, product pricing, domestic and international competitive environments, and actions and policy changes of domestic and foreign governments. The following discussion and analysis provides information which management believes is relevant to an assessment and understanding of our consolidated results of operations and financial position. This discussion should be read in conjunction with the Consolidated Financial Statements and related Notes. 22
--------------------------------------------------------------------------------
General
Change Change
2019 2018 2019 - 2018 2017 2018 - 2017
Dollars in millions, except per share amounts
Consolidated
Net sales $ 2,767.0 $ 2,757.1 0.4 % $ 2,746.0 0.4 %
Gross profit 692.5 658.3 5.2 % 681.8 (3.4 )%
as a percent of sales 25.0 % 23.9 % 24.8 %
SG&A expense 454.8 456.0 (0.3 )% 414.7 10.0 %
as a percent of sales 16.4 % 16.5 % 15.1 %
Operating income 237.7 202.3 17.5 % 267.1 (24.3 )%
as a percent of sales 8.6 % 7.3 % 9.7 %
Net interest expense 36.2 39.6 (8.6 )% 39.9 (0.8 )%
Effective tax rate 24.0 % 30.1 % 46.5 %
Net earnings attributable to Valmont
Industries, Inc 153.8 94.4 62.9 % 116.2 (18.8 )%
Diluted earnings per share $ 7.06 $ 4.20 68.1 % $ 5.11 (17.8 )%
Engineered Support Structures Segment
Net sales $ 1,002.1 $ 967.3 3.6 % $ 912.2 6.0 %
Gross profit 229.0 213.1 7.5 % 225.9 (5.7 )%
SG&A expense 163.4 178.3 (8.4 )% 162.9 9.5 %
Operating income 65.6 34.8 88.5 % 63.0 (44.8 )%
Utility Support Structures Segment
Net sales $ 885.6 $ 855.2 3.6 % $ 856.3 (0.1 )%
Gross profit 187.6 170.5 10.0 % 178.4 (4.4 )%
SG&A expense 99.8 105.7 (5.6 )% 80.6 31.1 %
Operating income 87.8 64.8 35.5 % 97.8 (33.7 )%
Coatings Segment
Net sales $ 300.6 $ 286.7 4.8 % $ 256.8 11.6 %
Gross profit 94.2 91.0 3.5 % 78.4 16.1 %
SG&A expense 43.2 35.7 21.0 % 28.2 26.6 %
Operating income 51.0 55.3 (7.8 )% 50.2 10.2 %
Irrigation Segment
Net sales $ 578.7 $ 624.8 (7.4 )% $ 644.4 (3.0 )%
Gross profit 171.9 192.8 (10.8 )% 197.3 (2.3 )%
SG&A expense 100.2 95.1 5.4 % 95.8 (0.7 )%
Operating income 71.7 97.7 (26.6 )% 101.5 (3.7 )%
Other
Net sales $ - $ 23.1 (100.0 )% $ 76.3 (69.7 )%
Gross profit - 0.8 (100.0 )% 7.4 (89.2 )%
SG&A expense - 1.7 (100.0 )% 5.3 (67.9 )%
Operating income - (0.9 ) (100.0 )% 2.1 (142.9 )%
Adjustment to LIFO inventory valuation
method
Gross profit $ 9.8 $ (9.9 ) 199.0 % $ (5.7 ) (73.7 )%
Operating income 9.8 (9.9 ) 199.0 % (5.7 ) (73.7 )%
Net corporate expense
Gross profit $ - $ - - $ 0.1 (100.0 )%
SG&A expense 48.2 39.5 22.0 % 41.9 (5.7 )%
Operating loss (48.2 ) (39.5 ) 22.0 % (41.8 ) (5.5 )%
23
--------------------------------------------------------------------------------
RESULTS OF OPERATIONS
FISCAL 2019 COMPARED WITH FISCAL 2018
Overview
The increase in net sales in 2019, as compared with 2018, was due to higher
sales in the ESS, Utility, and Coatings segments that were substantially offset
by lower sales in the Irrigation and Other segments. The changes in net sales in
2019, as compared with 2018, were as follows:
Total ESS Utility Coatings Irrigation Other
Sales - 2018 $ 2,757.1 $ 967.3 $ 855.2 $ 286.7 $ 624.8 $ 23.1
Volume (102.1 ) 18.1 (60.3 ) (15.8 ) (44.1 ) -
Pricing/mix 82.0 17.6 51.5 11.5 1.4 -
Acquisition/(divestiture) 76.3 27.4 43.9 23.9 4.2 (23.1 )
Currency translation (46.3 ) (28.3 ) (4.7 ) (5.7 ) (7.6 ) -
Sales - 2019 $ 2,767.0 $ 1,002.1 $ 885.6 $ 300.6 $ 578.7 $ -
Volume effects are estimated based on a physical production or sales measure.
Since products we sell are not uniform in nature, pricing and mix relate to a
combination of changes in sales prices and the attributes of the product sold.
Accordingly, pricing and mix changes do not necessarily directly result in
operating income changes.
Average steel index prices for both hot rolled coil and plate were lower in
The Company acquired the following companies during 2019 and 2018:
• A majority ownership stake in Torrent Engineering and Equipment
("Torrent") in the first quarter of 2018 (Irrigation).
• Derit Infrastructure Pvt. Ltd. ("Derit") in the third quarter of 2018,
which operates a lattice steel manufacturing facility located in India
(Utility and Coatings).
• A majority ownership stake in Convert
quarter of 2018, a provider of engineered solar tracker solutions
(Utility).
• Walpar in the third quarter of 2018, a domestic manufacturer of overhead
sign structures (ESS).
• CSP Coating Systems ("CSP Coatings") in the fourth quarter of 2018, a
coatings provider in
• Larson Camouflage ("Larson") in the first quarter of 2019, an industry
leading provider of architectural and camouflage concealment solutions for
the wireless telecommunication market (ESS).
• United Galvanizing ("United") in the first quarter of 2019, a domestic
coatings provider (Coatings).
•
domestic communication components business (ESS).
The Company divested of its grinding media business in the second quarter of 2018, which resulted in a pre-tax loss of approximately$6.1 million . The grinding media business is reported in Other and the loss was recorded in other income (expenses) on the Consolidated Statements of Earnings.
Restructuring Plan
InFebruary 2018 , the Company announced a restructuring plan related to certain operations in 2018, primarily in the ESS segment, through consolidation and other cost-reduction activities (the "2018 Plan"). The Company incurred pre-tax expenses from the 2018 Plan of$34.0 million in 2018. 24
--------------------------------------------------------------------------------
Currency Translation
In 2019, we realized a reduction in operating profit, as compared with fiscal 2018, due to currency translation effects. The breakdown of this effect by segment was as follows:
Total ESS Utility Coatings Irrigation Other Corporate
Full year $ (1.9 ) $ (0.8 ) $ 0.1 $ (0.5 ) $ (0.8 ) $ - $ 0.1 Gross Profit, SG&A, and Operating Income
At a consolidated level, the increase in gross margin (gross profit as a percent of sales) in 2019, as compared with 2018, can be attributed to restructuring costs incurred in 2018 of$18.4 million , lower raw material costs, and improved selling prices across our infrastructure businesses. The ESS and Utility segments realized an increase in gross margin in 2019, while Irrigation and Coatings realized a decrease in gross margin. The Company saw a decrease in selling, general, and administrative (SG&A) expense in 2019, as compared to 2018. The decrease was driven by higher nonrecurring expenses in 2018 including impairment of the goodwill and trade name of the offshore and other complex structures ("Offshore") business totaling$15.8 million , restructuring costs of$15.6 million , expenses from recently acquired businesses of$9.0 million , and acquisition diligence expenses of$4.4 million . The decrease was partially offset by higher deferred compensation expenses of$6.8 million (offset recognized in other expense as described below), and higher compensation and project related costs in 2019. Operating income was higher for the ESS and Utility segments and lower for the Irrigation and Coatings segments in 2019, as compared to 2018. The overall increase in operating income can be attributed to the Offshore goodwill and trade name impairment and restructuring costs incurred in 2018 and a lower cost structure resulting from those activities in 2019.
Net Interest Expense and Debt
Net interest expense for 2019 was lower than 2018 due to a debt refinancing in the third quarter of 2018 that included retiring$250.2 million senior unsecured notes due 2020 at 6.625% and issuing new senior unsecured notes of$200.0 million due 2044 and$55.0 million due 2054 at 5.0% and 5.25%, respectively. Costs associated with the refinancing of debt totaled$14.8 million . In addition, the Company entered into certain cross currency swaps in 2018 that effectively swaps the Company'sU.S. denominated debt for Euro and Danish kroner debt at lower interest rates which reduces interest expense. Interest income was lower in 2019 due to having less cash on hand to invest during the year.
Other Income/Expense
The increase in other income in 2019, as compared with 2018, is due to the change in valuation of deferred compensation assets in 2019 that resulted in additional income of$6.8 million . This amount is offset by a reduction of the same amount in SG&A expense. The Company also divested of its grinding media business in 2018 that resulted in a loss of$6.1 million .
Income Tax Expense
Our effective income tax rate in 2019 and 2018 was 24.0% and 30.1%, respectively. The 2018 tax rate was higher due to certain restructuring costs and impairment charges for which no tax benefits were recorded.
Earnings Attributable to Noncontrolling Interests
Noncontrolling interest expense in 2019 was consistent with 2018.
25
--------------------------------------------------------------------------------Cash Flows from Operations
Our cash flows provided by operations was$307.6 million in 2019, as compared with$153.0 million provided by operations in 2018. The increase in operating cash flows was due to improved working capital management offset by higher contributions to the Delta pension plan. The lower working capital is primarily due to a larger liability for customer billings in excess of costs and earnings (accrued expenses). This was partially offset by the 2019 Delta pension plan contribution (the 2018 annual payment was contributed early inDecember 2017 ) which is a use of cash flows from operations. Engineered Support Structures (ESS) segment The increase in sales in 2019 as compared with 2018, was due to recent acquisitions, improved communication product line sales, and improved sales pricing. Sales were partially offset by unfavorable foreign currency translation effects of$28.3 million . Global lighting and traffic, and highway safety product sales in 2019 were$2.3 million higher as compared to 2018, due to higher sales pricing and increased sales volumes. Sales volumes and pricing inNorth America were higher across commercial and transportation markets and also increased due to the acquisition of Walpar. Sales inEurope were lower in 2019, as compared to 2018, due to volume decreases from ceasing manufacturing operations inMorocco and unfavorable foreign currency translation effects as the value of the euro depreciated against theU.S. dollar. Sales volumes inAsia-Pacific were higher inIndia due to improved demand, offset by lower demand inChina for lighting and traffic products. Highway safety product sales decreased in 2019, as compared to 2018, due to a slowdown in government spending inAustralia andIndia and certain project sales in 2018 that did not reoccur in 2019. Communication product line sales increased by$39.1 million in 2019, as compared with 2018. InNorth America , communication structure and component sales increased in 2019 due to strong demand from the network expansion by providers and acquisition of Larson and Connect-It. InAsia-Pacific , sales volumes decreased due to lower demand inChina andAustralia for new wireless communication structures. Access Systems product line net sales decreased in 2019 by$16.0 million , as compared to 2018. The decrease was attributed to lower sales volumes inAustralia and unfavorable foreign currency translation effects. Gross profit, as a percentage of sales, and operating income for the segment were higher in 2019, as compared to 2018, due to improved sales volume and pricing, restructuring costs incurred in 2018, and recent acquisitions. The improvements in profitability were partially offset by an approximate$7 million loss recognized in 2019 on certain access systems projects and much lower gross profit during the second half of 2019 attributed to weak ANZ access systems market conditions. SG&A spending was lower in 2019, as compared to 2018, due to restructuring costs incurred in 2018 and foreign currency translation effects. The decrease in SG&A expense was partially offset by the expenses of recent acquisitions. Utility Support Structures (Utility) segment In the Utility segment, sales increased in 2019 as compared with 2018, due to higher sales pricing inNorth America and the acquisition of Convert and Derit that was offset by lowerNorth America volumes and unfavorable foreign currency translation effects. A number of our sales contracts inNorth America contain provisions that tie the sales price to published steel index pricing at the time our customer issues their purchase order. Specific toNorth America , the average sales price increase was partially offset by lower sales volumes for steel utility structures; concrete utility structure sales volumes were higher. The 2018 acquisitions of Convert and Derit contributed$43.9 million of additional sales in 2019, as compared to 2018. Offshore and other complex structures sales decreased in 2019, as compared to 2018, due to lower sales pricing and unfavorable foreign currency translation effects, partially offset by sales volume increases. Gross profit as a percentage of sales increased in 2019, as compared to 2018, due to improved sales pricing inNorth America and restructuring costs incurred in 2018. SG&A expense was lower in 2019, as compared with 2018, due to the goodwill and trade name impairment recorded in 2018 for Offshore business of$15.8 million that was partially offset by expenses associated with recent acquisitions and higher compensation related expenses. 26 -------------------------------------------------------------------------------- Coatings segment Coatings segment sales increased in 2019, as compared to 2018, due to increased sales prices and the acquisition of United, CSP Coatings, and Derit. Sales volume demand otherwise decreased inNorth America in 2019, as compared to 2018, due to lower industrial economy growth in theU.S. offset somewhat by price actions. In theAsia-Pacific region , the acquisition of Derit and CSP Coatings and price increases to recover zinc cost increases drove improved sales in 2019 as compared to 2018. Gross profit increased in 2019 as compared to 2018, due to contributions from recent acquisitions. SG&A expense was higher in 2019, as compared to 2018, due to expenses of recent acquisitions and non-recurring expenses. 2019 included approximately$3.0 million of expenses associated with a legal settlement; in 2018 the business recorded the reversal of an environmental remediation liability related to one of ourNorth America galvanizing locations of$1.9 million . Operating income was lower in 2019 compared to 2018, due to sales volume decreases globally and non-recurring expenses. Irrigation segment The decrease in Irrigation segment net sales in 2019, as compared to 2018, is primarily due to lower sales volumes inNorth America and international markets and unfavorable foreign currency translation effects. Continued low farm commodity prices and uncertainty around trade disputes withChina dampened net farm income and caused growers to delay irrigation investments. However, sales of technology-related products and services continue to grow, as growers are increasing adoption of technology to reduce costs and enhance profitability. The decrease in international sales can be attributed to project delays and lower overall large project work across most regions. In addition, the weakening of the Brazilian real and South African rand in 2019 resulted in lower sales due to currency translation. SG&A was higher in 2019, as compared to 2018. The increase can be attributed to expenses associated with the recent acquisitions and planned higher product development expenses. Operating income for the segment decreased in 2019 due to lower sales volumes for the tubing and international irrigation businesses and the associated operating deleverage of fixed factory and SG&A costs. Other InApril 2018 , the Company completed the sale ofDonhad , a mining consumable business with operations inAustralia . There are no remaining businesses recorded within Other. LIFO expense Unit costs of raw materials in theU.S. decreased in 2019, as compared to the end of 2018, resulting in a LIFO benefit. In 2018, unit costs of raw materials in theU.S. increased, as compared to the end of 2017, resulting in LIFO expense. Net corporate expense Corporate SG&A expense was higher in 2019 as compared to 2018. The increase can be attributed to$6.8 million of increased appreciation of deferred compensation plan assets. The increase in deferred compensation plan assets is offset by the same amount in other income/expense. FISCAL 2018 COMPARED WITH FISCAL 2017 Overview The increase in net sales in 2018, as compared with 2017, was due to higher sales in the ESS and Coatings segments that were offset by lower sales in the Irrigation, Utility, and Other segments. The changes in net sales in 2018, as compared 27 --------------------------------------------------------------------------------
with 2017, were as follows:
Total ESS Utility Coatings Irrigation Other
Sales - 2017 $ 2,746.0 $ 912.2 $ 856.3 $ 256.8 $ 644.4 $ 76.3
Volume (100.6 ) 8.3 (74.8 ) 10.8 (40.6 ) (4.3 )
Pricing/mix 114.8 28.1 50.3 16.9 17.1 2.4
Acquisition/(divestiture) 1.5 17.2 18.9 3.1 14.3 (52.0 )
Currency translation (4.6 ) 1.5 4.5 (0.9 ) (10.4 ) 0.7
Sales - 2018 $ 2,757.1 $ 967.3 $ 855.2 $ 286.7 $ 624.8 $ 23.1
Volume effects are estimated based on a physical production or sales measure.
Since products we sell are not uniform in nature, pricing and mix relate to a
combination of changes in sales prices and the attributes of the product sold.
Accordingly, pricing and mix changes do not necessarily directly result in
operating income changes. On the first day of fiscal 2018, the Company adopted
the new revenue recognition accounting standard ("ASC 606"). Within the Utility
Support Structures segment, the steel and concrete product lines now recognize
revenue over time whereas in 2017 and years prior, their revenue was recognized
at a point in time, which was typically upon product delivery to the customer.
The impact of the adoption of ASC 606 in 2018 was an increase in sales of $36.4
million and an increase in operating income of $6.2 million primarily in the
Utility segment. It is not practicable to estimate the sales volumes
attributable to the adoption of ASC 606 and thus is not a separate line item in
the table above. Information on the adoption of the revenue standard can be
found under Critical Accounting Policies within Management's Discussion and
Analysis.
Average steel index prices for both hot rolled coil and plate were higher in
North America and China in 2018, as compared to 2017, resulting in higher
average cost of material. In general, the average selling prices increased
during the year to mitigate decrease in gross profit realized from the higher
cost of steel for the Company.
The Company acquired the following companies during 2018: • Torrent Engineering and Equipment ("Torrent") in the first quarter of 2018
that is included in our Irrigation segment.
•
in
• A majority ownership stake in Convert
of engineered solar tracker solutions, also acquired during the third
quarter of 2018 and included in the Utility segment.
• Walpar, a manufacturer of overhead sign structures, in the third quarter
of 2018 that is included in the ESS segment.
• CSP Coating Systems ("CSP Coatings"), a coatings provider in
acquired in the fourth quarter of 2018 that is included in the Coatings
segment.
The Company divested of its grinding media business in the second quarter of
2018, which resulted in a pre-tax loss of approximately $6.1 million . The
grinding media business is reported in Other and the loss was recorded in other
income (expenses) on the Consolidated Statements of Earnings.
Restructuring Plan
InFebruary 2018 , the Company announced a restructuring plan related to certain operations in 2018, primarily in the ESS segment, through consolidation and other cost-reduction activities (the "2018 Plan"). The Company incurred pre-tax expenses from the 2018 Plan of$34.0 million . The decrease in 2018 gross profit and operating income due to restructuring expense by segment is as follows: Total ESS Utility Irrigation Corporate
Gross Profit
Operating Income
28--------------------------------------------------------------------------------
Currency Translation
In 2018, we realized a reduction in operating profit, as compared with fiscal 2017, due to currency translation effects. The breakdown of this effect by segment was as follows:
Total ESS Utility Coatings Irrigation Other Corporate
Full year $ (1.8 ) $ (0.5 ) $ 0.3 $ - $ (1.6 ) $ - $ -
Gross Profit, SG&A, and Operating Income
At a consolidated level, the reduction in gross margin (gross profit as a
percent of sales) in 2018, as compared with 2017, was primarily due to
restructuring costs incurred in the ESS and Utility segments. The Irrigation and
Coatings segments realized an increase in gross margin in 2018, while Utility,
ESS, and Other realized a decrease in gross margin.
The Company saw an increase in selling, general, and administrative (SG&A)
expense in 2018, as compared to 2017, due to impairment of the goodwill and
trade name of the Offshore and other complex structures ("Offshore") business
totaling $15.8 million , restructuring costs incurred of $15.6 million , SG&A from
recently acquired businesses of $9.0 million , and acquisition diligence expenses
of $4.4 million . The increase was partially offset by lower deferred
compensation expenses of $5.0 million (offset recognized in other expense as
described below) and $3.6 million of SG&A in 2017 from the grinding media
business divested in 2018.
Operating income was lower for all reportable segments with the exception of
Coatings in 2018, as compared to 2017. The decrease is attributed to the
impairment of the goodwill and trade name of the Offshore business,
restructuring costs incurred in the ESS and Utility segments, and the disposal
of the grinding media business included in Other.
Net Interest Expense and Debt
Net interest expense for 2018 was consistent with 2017. The Company issued$200.0 million and$55.0 million of senior secured notes inJune 2018 at 5.0% and 5.25%, respectively. Proceeds from the debt issuance were subsequently used to pay off the 2020 bonds inJuly 2018 . The approximate$14.8 million in pre-tax costs ($11.1 million after-tax) associated with refinancing of debt is due to the Company's repurchase through tender of$250.2 million in aggregate principal amount of the senior unsecured notes due 2020. This expense was comprised of the following:
• Cash prepayment expenses of approximately
• Recognition of
unamortized loss on the cash flow hedge and deferred financing costs; less
• Recognition of
upon the issuance of the 2020 notes.
Other Income/Expense
The change in other income/expense in 2018, as compared with 2017, was primarily due to the divestiture of our grinding media business that resulted in a loss of approximately$6.1 million . Excluding the divestiture, higher other income was driven by a periodic pension benefit in 2018 that resulted a beneficial change of$2.8 million . In addition, the change in market value of the Company's shares held ofDelta EMD was an improvement of$0.8 million . The remaining change was due to more favorable foreign currency transaction gains/losses in 2018 as compared to 2017. The increase in other income was partially offset by a change in valuation of deferred compensation assets in 2018 which resulted in additional expense of$5.0 million . This amount is offset by a reduction of the same amount in SG&A expense.
Income Tax Expense
Our effective income tax rate in 2018 and 2017 was 30.1% and 46.5%, respectively. The 2018 tax rate was impacted by the reduction in theU.S. corporate income tax rate from 35% to 21% offset by 2018 restructuring costs and impairment charges for which no tax benefits have been recorded. The 2017 tax rate was impacted by The Tax Cuts and Jobs Act of 2017 29 -------------------------------------------------------------------------------- (the "2017 Tax Act" or "Act") which resulted in a one-time fourth quarter of 2017 charge of approximately$42 million related to the transition effects of the Act. Excluding this charge, our effective tax rate would have been 28.1% for 2017. The$42 million charge was comprised of (a) approximately$9.9 million of expense related to the taxation of unremitted foreign earnings ("transition tax"), the federal portion of which is payable over eight (8) years beginning in 2018, (b) approximately$20.4 million of expense related to the remeasurement ofU.S. deferred tax balances to reflect the newU.S. corporate income tax rate, using a federal and state tax rate of 25.0%, and (c) approximately $11.7 million of deferred expenses related to foreign withholding taxes andU.S. state income taxes. During 2018, the Company finalized the transition tax which resulted in a credit to tax expense of$0.5 million .
Earnings attributable to noncontrolling interests was consistent in 2018 and 2017.
Cash Flows from Operations Our cash flows provided by operations was$153.0 million in 2018, as compared with$133.1 million provided by operations in 2017. The increase in operating cash flows was due to lower contributions to the Delta pension plan partially offset by lower net earnings. Engineered Support Structures (ESS) segment The increase in sales in 2018, as compared with 2017, was due to higher sales pricing to cover the higher costs of steel and sales volume increases from acquisitions in 2018. Global lighting and traffic, and highway safety product sales in 2018 were$73.4 million higher as compared to 2017, due to higher sales pricing and increased sales volumes. Sales volumes and pricing inNorth America were higher across commercial and transportation markets and also increased due to the acquisition of Walpar in the third quarter of 2018. Improved sales volumes inEurope contributed to higher sales in 2018, as compared to 2017, along with favorable currency translation effects as the value of the euro appreciated against theU.S. dollar. Sales volumes inAsia-Pacific were higher inIndia due to improved demand, offset by lower demand inChina for lighting and traffic products. Highway safety product sales increased in 2018, as compared to 2017, due to higher demand inAustralia and the acquisition of Aircon in the third quarter of 2017. Communication product line sales were lower by$21.9 million in 2018, as compared with 2017. InNorth America , communication structure and component sales increased in 2018 due to strong demand from the network expansion by providers. InAsia-Pacific , sales volumes decreased due to much lower demand inChina for new wireless communication structures. Access Systems product line net sales decreased in 2018 by$2.7 million , as compared to 2017. The decrease can be attributed to lower sales volumes inAsia due to less large project work that was partially offset by improved demand inAustralia , in part due to efforts to expand our sales reach into architectural and construction markets. Gross profit, as a percentage of sales, and operating income for the segment were lower in 2018, as compared to 2017, due to restructuring costs incurred in 2018. In 2018, the segment incurred$14.3 million of restructuring costs within product cost of sales and$14.2 million within SG&A expense. In addition, approximately$8.0 million of asset impairment costs were incurred related to exiting certain local markets in 2018. SG&A spending was higher in 2018, as compared to 2017, due to restructuring costs and SG&A expenses of Walpar that was acquired in the third quarter of 2018. Operating income decreased primarily from the$28.5 million of incurred restructuring costs. Utility Support Structures (Utility) segment In the Utility segment, sales decreased in 2018, as compared with 2017, due to lower sales volumes inNorth America that are offset by sales price increases to cover higher steel costs and the acquisition of Convert and Derit in the third quarter of 2018. A number of our sales contracts inNorth America contain provisions that tie the sales price to published steel index pricing at the time our customer issues their purchase order. Measured in tonnages, sales volumes for steel utility structures inNorth America were lower whereas concrete utility structure sales volumes were higher in 2018, as compared to 2017. The Company adopted new revenue recognition guidance effective the first day of fiscal 2018; steel and concrete 30 -------------------------------------------------------------------------------- reported sales in 2017 were recognized upon delivery to customers (point in time) whereas reported revenue for 2018 is based on progress of production on customer orders (over time). Offshore and other complex structures sales decreased in 2018, as compared to 2017, due to lower sales volumes that were partially offset by positive effects from currency translation. Gross profit as a percentage of sales decreased in 2018, as compared to 2017, due to restructuring costs incurred of$4.1 million and lower offshore and complex steel structures sales volumes. SG&A expense was higher in 2018, as compared with 2017, due to the goodwill and trade name impairment recorded for Offshore business of$15.8 million , restructuring expenses, and increased expenses related to the acquisition of Derit and Convert. Excluding restructuring expenses, expenses associated with the acquisitions, and the intangible asset impairment, operating income in 2018 was consistent with 2017. Coatings segment Coatings segment sales increased in 2018, as compared to 2017, due to increased sales prices to recover higher zinc costs globally and higher sales volumes. The Company acquired Derit in the third quarter of 2018 and CSP Coatings in the fourth quarter of 2018 that also contributed to higher sales. Sales pricing and volume demand increased inNorth America in 2018, as compared to 2017. In theAsia-Pacific region , continued improvements in theAustralia market along with overall higher sales pricing provided an increase in net sales. SG&A expense was higher in 2018, as compared to 2017, due to higher compensation costs related to improved business operations and currency translation effects. Non-recurring items were recognized in 2018 and 2017 which reduced SG&A. 2018 included the reversal of an environmental remediation liability related to one of ourNorth America galvanizing locations of$1.9 million ; in 2017 the business recorded a reversal of an environmental remediation liability of$2.6 million due to the sale of a former galvanizing operation inAustralia . Operating income was higher in 2018 compared to 2017, due to improved sales volumes and the associated operating leverage of fixed costs and improved sales pricing. Irrigation segment The decrease in Irrigation segment net sales in 2018, as compared to 2017, is primarily due to sales volume decreases, particularly in the international markets. The decrease in international sales can be attributed to project delays and lower overall large project work across most regions. In addition, the weakening of the Brazilian real andArgentina peso in 2018 resulted in lower sales due to currency translation.North America sales increased in 2018, as compared to 2017, due to higher sales pricing and recent acquisitions. Sales volumes inNorth America for the year were lower due to continued weak farm income levels. Recent proposed tariffs also caused uncertainly leading farmers to delay irrigation purchases. SG&A was lower in 2018, as compared to 2017. The decrease can be attributed to lower incentives from reduced business operations and currency translation effects which were partially offset by expenses associated with the 2018 acquisitions. Operating income for the segment decreased in 2018 compared to 2017, due to lower sales volumes and the associated operating deleverage of fixed costs and currency translation effects. Other InApril 2018 , the Company completed the sale ofDonhad , a mining consumable business with operations inAustralia . The Company realized an approximate$6.1 million loss on the sale that is recorded in other income/expense, subject to certain post-closing adjustments. LIFO expense Steel index prices for both hot rolled coil and plate, and zinc in theU.S. increased at a higher rate in 2018, as compared to 2017, resulting in higher LIFO expense. Net corporate expense Corporate SG&A expense was lower in 2018 as compared to 2017. The decrease can be attributed to lower deferred compensation expenses of$5.0 million , which is offset by the same amount in other expense, and lower incentive expense. The decrease was partially offset by higher compensation expenses. 31 -------------------------------------------------------------------------------- LIQUIDITY AND CAPITAL RESOURCES Cash Flows Working Capital and Operating Cash Flows-Net working capital was$874.6 million atDecember 28, 2019 , as compared with$931.6 million atDecember 29, 2018 . The decrease in net working capital in 2019 is attributed to an increase in liability for customer billings in excess of costs and earnings of$113.0 million . Cash flow provided by operations was$307.6 million in 2019, as compared with$153.0 million in 2018 and$133.1 million in 2017. The increase in operating cash flow in 2019, as compared to 2018, was the result of increased net earnings and improved working capital management, offset by higher contributions to the Delta pension plan. Investing Cash Flows-Capital spending in fiscal 2019 was$97.4 million , as compared with$72.0 million in fiscal 2018 and$55.3 million in fiscal 2017. The increase in capital spending in 2019 resulted from plant investments inPoland (ESS), concrete distribution poles (Utility), andUnited Arab Emirates (Irrigation). The increase in investing cash outflows in 2019, as compared to 2018, was primarily due to an increase in capital expenditures and lower proceeds from the sale of assets as we sold our mining consumable business in 2018. The increase was partially offset by reduced spending on acquisitions. We expect our capital spending for the 2020 fiscal year to be approximately$120.0 million . Financing Cash Flows-Our total interestbearing debt increased to$787.5 million atDecember 28, 2019 , from$753.3 million atDecember 29, 2018 . Financing cash outflows decreased in 2019, as compared to 2018, due to the Company acquiring fewer shares under the share repurchase program. No shares were repurchased in 2017. Capital Allocation Philosophy We have historically funded our growth, capital spending and acquisitions through a combination of operating cash flows and debt financing. InMay 2014 , our Board of Directors approved and publicly announced a capital allocation philosophy with the following priorities for cash generated: •working capital and capital expenditure investments necessary for future sales growth; •dividends on common stock in the range of 15% of the prior year's fully diluted net earnings; •acquisitions; and •return of capital to shareholders through share repurchases. We also announced our intention to manage our capital structure to maintain our investment grade debt rating. Our most recent ratings were Baa3 byMoody's Investors Services, Inc. , BBB- by Fitch Ratings, and BBB+ byStandard and Poor's Rating Services . We would be willing to allow our debt rating to fall to BBB- to finance a special acquisition or other opportunity. We expect to maintain a ratio of debt to invested capital which will support our current investment grade debt rating. The Board of Directors inMay 2014 authorized the purchase of up to$500 million of the Company's outstanding common stock from time to time over twelve months at prevailing market prices, through open market or privately-negotiated transactions. The Board of Directors authorized an additional$250 million of share purchases, without an expiration date in bothFebruary 2015 and again inOctober 2018 . The purchases will be funded from available working capital and short-term borrowings and will be made subject to market and economic conditions. We are not obligated to make any repurchases and may discontinue the program at any time. As ofDecember 28, 2019 , we have acquired approximately 5.9 million shares for approximately$795.5 million under these share repurchase programs. Sources of Financing Our debt financing atDecember 28, 2019 consisted primarily of longterm debt. During 2018, the Company issued an additional$200 million aggregate principal amount of its 5.00% senior notes due 2044 and$55 million aggregate principal amount of its 5.25% senior notes due 2054 and redeemed$250.2 million in remaining aggregate principal amount of the 2020 senior notes. Our longterm debt as ofDecember 28, 2019 , principally consists of: 32 --------------------------------------------------------------------------------
•$450 million face value ($436.3 million carrying value) of senior unsecured notes that bear interest at 5.00% per annum and are due inOctober 2044 . •$305 million face value ($297.5 million carrying value) of senior unsecured notes that bear interest at 5.25% per annum and are due inOctober 2054 . We are allowed to repurchase the notes subject to the payment of a make-whole premium. Both tranches of these notes are guaranteed by certain of our subsidiaries. Our amended and restated our revolving credit facility withJP Morgan Chase Bank, N.A. , as Administrative Agent, and the other lenders party thereto has a maturity date ofOctober 18, 2022 . The credit facility provides for$600 million of committed unsecured revolving credit loans with available borrowings thereunder to$400 million in foreign currencies. We may increase the credit facility by up to an additional$200 million at any time, subject to lenders increasing the amount of their commitments. The leverage ratio of 3.5X increases to 3.75X for the four consecutive fiscal quarters after certain material acquisitions. The Company and our wholly-owned subsidiariesValmont Industries Holland B.V. andValmont Group Pty. Ltd. , are authorized borrowers under the credit facility. The obligations arising under the credit facility are guaranteed by the Company and its wholly-owned subsidiariesPiRod, Inc. ,Valmont Coatings, Inc. ,Valmont Newmark, Inc. andValmont Queensland Pty. Ltd. The interest rate on our borrowings will be, at our option, either: (a) LIBOR (based on a 1, 2, 3 or 6 month interest period, as selected by us) plus 100 to 162.5 basis points, depending on the credit rating of our senior debt published by Standard & Poor'sRating Services andMoody's Investors Service, Inc. ; or (b) the higher of • the prime lending rate,
• the Federal Funds rate plus 50 basis points, and
• LIBOR (based on a 1 month interest period) plus 100 basis points
(inclusive of facility fees),
plus, in each case, 0 to 62.5 basis points, depending on the credit rating of
our senior debt published by Standard & Poor's Rating Services and Moody's
Investors Service, Inc.
A commitment fee is also required under the revolving credit facility which
accrues at 10 to 25 basis points, depending on the credit rating of our senior
debt published by Standard and Poor's Rating Services and Moody's Investor
Services, Inc. , on the average daily unused portion of the commitment under the
revolving credit facility.
At December 28, 2019 , we had $29.0 million of outstanding borrowings under the
revolving credit facility. The revolving credit facility has a maturity date of
October 18, 2022 and contains certain financial covenants that may limit our
additional borrowing capability under the agreement. At December 28, 2019 , we
had the ability to borrow $556.6 million under this facility, after
consideration of standby letters of credit of $14.6 million associated with
certain insurance obligations. We also maintain certain shortterm bank lines of
credit totaling $131.3 million ; $109.6 million of which was unused at
December 28, 2019 .
Our senior unsecured notes and revolving credit agreement each contain
cross-default provisions which permit the acceleration of our indebtedness to
them if we default on other indebtedness that results in, or permits, the
acceleration of such other indebtedness.
These debt agreements contain covenants that require us to maintain certain
coverage ratios and may limit us with respect to certain business activities,
including capital expenditures. These debt agreements allow us to add estimated
EBITDA from acquired businesses for periods we did not own the acquired
businesses. The debt agreements also provide for an adjustment to EBITDA,
subject to certain specified limitations, for non-cash charges or gains that are
non-recurring in nature.
33
--------------------------------------------------------------------------------
Our key debt covenants are as follows:
• Leverage ratio - Interest-bearing debt is not to exceed 3.50x
Adjusted EBITDA (or 3.75x Adjusted EBITDA after certain material
acquisitions) of the prior four quarters; and
• Interest earned ratio - Adjusted EBITDA over the prior four quarters
must be at least 2.50x our interest expense over the same period.
At December 28, 2019 , we were in compliance with all covenants related to these
debt agreements. The key covenant calculations at December 28, 2019 were as
follows (amounts in thousands):
Interest-bearing debt $ 787,478
Adjusted EBITDA-last four quarters 326,393
Leverage ratio 2.41
Adjusted EBITDA-last four quarters 326,393
Interest expense-last four quarters 40,153
Interest earned ratio 8.13
The calculation of Adjusted EBITDA-last four quarters is presented under the
column for fiscal 2019 in footnote (b) to the table "Selected Five-Year
Financial Data" in Item 6 - Selected Financial Data.
Our businesses are cyclical, but we have diversity in our markets, from a
product, customer and a geographical standpoint. We have demonstrated the
ability to effectively manage through business cycles and maintain liquidity. We
have consistently generated operating cash flows in excess of our capital
expenditures. Based on our available credit facilities, recent issuance of
senior unsecured notes and our history of positive operational cash flows, we
believe that we have adequate liquidity to meet our needs for fiscal 2020 and
beyond.
We have cash balances of $353.5 million at December 28, 2019 , approximately
$165.6 million is held in our non-U.S. subsidiaries. If we distributed our
foreign cash balances certain taxes would be applicable. At December 28, 2019 ,
we have a liability for foreign withholding taxes and U.S. state income taxes of
$3.7 million and $0.6 million , respectively.
FINANCIAL OBLIGATIONS AND FINANCIAL COMMITMENTS
We have future financial obligations related to (1) payment of principal and
interest on interestbearing debt, (2) Delta pension plan contributions,
(3) operating leases and (4) purchase obligations. These obligations at
December 28, 2019 were as follows (in millions of dollars):
Contractual Obligations Total 2020 2021-2022 2023-2024 After 2024
Longterm debt $ 794.7 $ 0.8 $ 30.4 $ - $ 763.5
Interest 1,116.2 39.2 78.2 77.6 921.2
Delta pension plan contributions 182.7 18.3 36.5 36.5 91.4
Operating leases 123.1 18.7 28.2 18.2 58.0
Unconditional purchase commitments 69.9 69.9 - - -
Total contractual cash obligations
Longterm debt mainly consisted of$755.0 million principal amount of senior unsecured notes. AtDecember 28, 2019 , we had outstanding borrowings of$29.0 million under our bank revolving credit agreement. Obligations under these agreements may be accelerated in event of noncompliance with debt covenants. The Delta pension plan contributions are related to the current cash funding commitments to the plan with the plan's trustees. Operating leases relate mainly to various production and office facilities and are in the normal course of business. 34 -------------------------------------------------------------------------------- Unconditional purchase commitments relate to purchase orders for zinc, aluminum and steel, all of which we plan to use in 2020, and certain capital investments planned for 2020. We believe the quantities under contract are reasonable in light of normal fluctuations in business levels and we expect to use the commodities under contract during the contract period. AtDecember 28, 2019 , we had approximately$13.1 million of various longterm liabilities related to certain income tax and other matters. These items are not scheduled above because we are unable to make a reasonably reliable estimate as to the timing of any potential payments. OFF BALANCE SHEET ARRANGEMENTS We maintain standby letters of credit for contract performance on certain sales contracts. MARKET RISK Changes in Prices Certain key materials we use are commodities traded in worldwide markets and are subject to fluctuations in price. The most significant materials are steel, aluminum, zinc and natural gas. Over the last several years, prices for these commodities have been volatile. The volatility in these prices was due to such factors as fluctuations in supply and demand conditions, government tariffs and the costs of steelmaking inputs. Steel is most significant for our Utility Support Structures segment where the cost of steel has been approximately 50% of the net sales, on average. In 2018, we began using steel hot rolled coil derivative contracts on a limited basis to mitigate the impact of rising steel prices on operating income. Assuming a similar sales mix, a hypothetical 20% change in the price of steel would have affected our net sales from our Utility Support Structures segment by approximately$63 million for the year endedDecember 28, 2019 . We have also experienced volatility in natural gas prices in the past several years. Our main strategies in managing these risks are a combination of fixed price purchase contracts with our vendors to reduce the volatility in our purchase prices and sales price increases where possible. We use natural gas swap contracts on a limited basis to mitigate the impact of rising gas prices on our operating income. Risk Management Market Risk-The principal market risks affecting us are exposure to interest rates, foreign currency exchange rates and commodity prices. At times, we utilize derivative financial instruments to hedge these exposures, but we do not use derivatives for trading purposes. Interest Rates-Our interestbearing debt atDecember 28, 2019 was mostly fixed rate debt. Our notes payable and a small portion of our long-term debt accrue interest at a variable rate. Assuming average interest rates and borrowings on variable rate debt, a hypothetical 10% change in interest rates would have affected our interest expense in 2019 and 2018 by approximately$0.1 million . Likewise, we have excess cash balances on deposit in interestbearing accounts in financial institutions. An increase or decrease in interest rates of ten basis points would have impacted our annual interest earnings in 2019 and 2018 by approximately$0.3 million and$0.3 million , respectively. Foreign Exchange-Exposures to transactions denominated in a currency other than the entity's functional currency are not material, and therefore the potential exchange losses in future earnings, fair value and cash flows from these transactions are not material. The Company is also exposed to investment risk related to foreign operations. From time to time, as market conditions indicate, we will enter into foreign currency contracts to manage the risks associated with anticipated future transactions, current balance sheet positions, and foreign subsidiary investments that are in currencies other than the functional currencies of our businesses. AtDecember 28, 2019 , the Company had outstanding foreign currency forward contracts which mitigate foreign currency risk of the Company's investment in its Australian dollar denominated businesses. The forward contracts, which qualify as net investment hedges, have a maturity date ofApril 2021 and notional amounts to sell Australian dollars and receive$100.0 million . In 2019, the Company entered into two fixed-for-fixed cross currency swaps ("CCS"), swappingU.S. dollar principal and interest payments on a portion of its 5.00% senior unsecured notes due 2044 for Danish krone (DKK) and Euro denominated payments. The CCS were entered into in order to mitigate foreign currency risk on the Company's Euro and DKK investments and to reduce interest expense. The notional of the Euro and DKK CCS are$80.0 million and$50.0 million , respectively, and mature in 2024. Much of our cash in non-U.S. entities is denominated in foreign currencies, where fluctuations in exchange rates will impact our cash balances inU.S. dollar terms. 35 -------------------------------------------------------------------------------- A hypothetical 10% change in the value of theU.S. dollar would impact our reported cash balance by approximately$14.1 million in 2019 and$18.5 million in 2018. We manage our investment risk in foreign operations by borrowing in the functional currencies of the foreign entities or by utilizing hedging instruments (as discussed above) where appropriate. The following table indicates the change in the recorded value of our most significant investments at year-end assuming a hypothetical 10% change in the value of theU.S. Dollar. 2019 2018 (in millions) Australian dollar$ 14.7 $ 18.1 Euro 9.912.1 Danish krone 5.7 7.0 Chinese renminbi 6.96.7 Canadian dollar 3.8 4.7 U.K. pound 6.34.4 Brazilian real 3.3 2.7 Commodity risk- Steel hot rolled coil is a significant commodity input used by all of our segments in the manufacture of our products, with the exception of Coatings. Steel prices are volatile and we may utilize derivative instruments to mitigate commodity price risk on fixed price orders. In 2019 and 2018, the Company entered into steel hot rolled coil forward contracts which qualified as a cash flow hedge of the variability in the cash flows attributable to future steel purchases. There are no outstanding steel coil forward contracts at December, 28, 2019. Natural gas is a significant commodity used in our factories, especially in our Coatings segment galvanizing operations, where natural gas is used to heat tanks that enable the hot-dipped galvanizing process. Natural gas prices are volatile and we mitigate some of this volatility through the use of derivative commodity instruments. Our current policy is to manage this commodity price risk for 0-50% of ourU.S. natural gas requirements for the upcoming 6-12 months through the purchase of natural gas swaps based on NYMEX futures prices for delivery in the month being hedged. The objective of this policy is to mitigate the impact on our earnings of sudden, significant increases in the price of natural gas. AtDecember 28, 2019 , we have open natural gas swaps for 80,000 MMBtu. CRITICAL ACCOUNTING POLICIES The following accounting policies involve judgments and estimates used in preparation of the consolidated financial statements. There is a substantial amount of management judgment used in preparing financial statements. We must make estimates on a number of items, such as impairments of long-lived assets, income taxes, revenue recognition for the product lines recognized over time, inventory obsolescence, and pension benefits. We base our estimates on our experience and on other assumptions that we believe are reasonable under the circumstances. Further, we re-evaluate our estimates from time to time and as circumstances change. Actual results may differ under different assumptions or conditions. The selection and application of our critical accounting policies are discussed annually with our audit committee. Depreciation, Amortization and Impairment of Long-Lived Assets Our long-lived assets consist primarily of property, plant and equipment, right-of-use (lease) assets, and goodwill and intangible assets acquired in business acquisitions. We have assigned useful lives to our property, plant and equipment and certain intangible assets ranging from 3 to 40 years. Upon adoption of ASC 842 in 2019, the Company impaired the right-of-use asset for one of our galvanizing facilities inAustralia as it will not generate sufficient cash flows to recover the carrying value. Impairment losses were recorded in 2018 as facilities were closed and certain fixed assets were no longer expected to be used as a result of our restructuring plans. We identified twelve reporting units for purposes of evaluating goodwill and we annually evaluate our reporting units for goodwill impairment during the third fiscal quarter, which usually coincides with our strategic planning process. We assess the value of our reporting units using after-tax cash flows from operations (less capital expenses) discounted to present value. The key assumptions in the discounted cash flow analysis are the discount rate and the projected cash flows. We also use sensitivity analysis to determine the impact of changes in discount rates and cash flow forecasts on the valuation of the 36 -------------------------------------------------------------------------------- reporting units. For both the 2019 and 2018 annual impairment test, we did not first perform the qualitative assessment of each of our reporting units using our judgment. The estimated fair value of all of our reporting units exceeded their respective carrying value, so no goodwill was impaired in 2019. The access systems reporting unit with$45.7 million of goodwill, is the reporting unit that did not have a substantial excess of estimated fair value over its carrying value. The model assumes geographic expansion of its architectural product lines, which realized recent organic growth in its existing market. If architectural systems sales do not increase, the Company will be required to perform an interim test of goodwill. A hypothetical 1.0% change in the discount rate would increase/decrease the fair value of this reporting unit by approximately$15.0 million , which approximates the cushion between the estimated fair value and carrying value of this reporting unit. A goodwill impairment of$14.4 million , which represents all of the goodwill of the offshore and other complex steel reporting unit, was recorded in the third quarter of 2018. If our assumptions on discount rates and future cash flows change as a result of events or circumstances, and we believe these assets may have declined in value, then we may record impairment charges, resulting in lower profits. Our reporting units are all cyclical and their sales and profitability may fluctuate from year to year. The Company continues to monitor changes in the global economy that could impact future operating results of its reporting units. If such conditions arise, the Company will test a given reporting unit for impairment prior to the annual test. In the evaluation of our reporting units, we look at the long-term prospects for the reporting unit and recognize that current performance may not be the best indicator of future prospects or value, which requires management judgment. Our indefinitelived intangible assets consist of trade names. We assess the values of these assets apart from goodwill as part of the annual impairment testing. We use the relief-from-royalty method to evaluate our trade names, under which the value of a trade name is determined based on a royalty that could be charged to a third party for using the trade name in question. The royalty, which is based on a reasonable rate applied against estimated future sales, is tax-effected and discounted to present value. The most significant assumptions in this evaluation include estimated future sales, the royalty rate and the after-tax discount rate. For our evaluation purposes, the royalty rates used vary between 0.5% and 1.5% of sales and the after-tax discount rate of 13.0% to 16.0%, which we estimate to be the after-tax cost of capital for such assets. Our trade names were tested for impairment in the third quarter of 2019 using the relief-from-royalty valuation methodology and determined none to be impaired. In 2018, an impairment of$1.4 million was recorded against the offshore and other complex steel structures trade name (Valmont SM). Inventories We use the last-in first-out (LIFO) method to determine the value of approximately 41% of our inventory. The remaining 59% of our inventory was valued on a first-in first-out (FIFO) basis. In periods of rising costs to produce inventory, the LIFO method will result in lower profits than FIFO, because higher recent costs are recorded to cost of goods sold than under the FIFO method. Conversely, in periods of falling costs to produce inventory, the LIFO method will result in higher profits than the FIFO method. In 2019, we experienced lower average costs to produce inventory than in the prior year, due mainly to lower costs of steel and steel-related products, which resulted in lower cost of sales of approximately$9.8 million , than if our entire inventory had been valued on the FIFO method. In 2018 and 2017, we experienced higher average costs to produce inventory than in the prior year, due mainly to higher cost for steel and steel-related products. This resulted in higher costs of goods sold in 2018 and 2017 of approximately$9.9 million and$5.7 million , respectively, than if our entire inventory had been valued on the FIFO method. We write down slow-moving and obsolete inventory by the difference between the value of the inventory and our estimate of the reduced value based on potential future uses, the likelihood that overstocked inventory will be sold and the expected selling prices of the inventory. If our ability to realize value on slow-moving or obsolete inventory is less favorable than assumed, additional inventory write downs may be required. 37 -------------------------------------------------------------------------------- Income Taxes We record valuation allowances to reduce our deferred tax assets to amounts that are more likely than not to be realized. We consider future taxable income expectations and tax-planning strategies in assessing the need for the valuation allowance. If we estimate a deferred tax asset is not likely to be fully realized in the future, a valuation allowance to decrease the amount of the deferred tax asset would decrease net earnings in the period the determination was made. Likewise, if we subsequently determine that we are able to realize all or part of a net deferred tax asset in the future, an adjustment reducing the valuation allowance would increase net earnings in the period such determination was made. AtDecember 28, 2019 , we had approximately$64.1 million in deferred tax assets relating to tax credits and loss carryforwards, with a valuation allowance of$35.2 million , including$2.3 million in valuation allowances remaining in the Delta entities related to capital loss carryforwards, which are unlikely ever to be realized. If circumstances related to our deferred tax assets change in the future, we may be required to increase or decrease the valuation allowance on these assets, resulting in an increase or decrease in income tax expense and a reduction or increase in net income. Also, we consider the earnings in our greater than 50% owned non-U.S. subsidiaries to not be indefinitely reinvested and, accordingly, we have a deferred tax liability of$4.3 million related to these unremitted foreign earnings for future taxes that will be incurred when cash is repatriated. We are subject to examination by taxing authorities in the various countries in which we operate. The tax years subject to examination vary by jurisdiction. We regularly consider the likelihood of additional income tax assessments in each of these taxing jurisdictions based on our experiences related to prior audits and our understanding of the facts and circumstances of the related tax issues. We include in current income tax expense any changes to accruals for potential tax deficiencies. If our judgments related to tax deficiencies differ from our actual experience, our income tax expense could increase or decrease in a given fiscal period. Pension BenefitsDelta Ltd. maintains a defined benefit pension plan for qualifying employees in theUnited Kingdom . There are no active employees as members in the plan. Independent actuaries assist in properly measuring the liabilities and expenses associated with accounting for pension benefits to eligible employees. In order to use actuarial methods to value the liabilities and expenses, we must make several assumptions. The critical assumptions used to measure pension obligations and expenses are the discount rate and expected rate of return on pension assets. We evaluate our critical assumptions at least annually. Key assumptions are based on the following factors: • Discount rate is based on the yields available on AA-rated corporate bonds with durational periods similar to that of the pension liabilities.
• Expected return on plan assets is based on our asset allocation mix and
our historical return, taking into consideration current and expected
market conditions. Most of the assets in the pension plan are invested
in corporate bonds, the expected return of which are estimated based on
the yield available on AA rated corporate bonds. The long-term expected
returns on equities are based on historic performance over the
long-term.
• Inflation is based on the estimated change in the consumer price index
("CPI") or the retail price index ("RPI"), depending on the relevant
plan provisions.
The discount rate used to measure the defined benefit obligation was 2.05% at
Pension
Discount rate 2.05 %
Expected return on plan assets 4.18 %
Inflation - CPI 2.15 %
Inflation - RPI 3.05 %
38
--------------------------------------------------------------------------------
Increase
in Pension
Assumptions In Millions of Dollars Expense
0.25% decrease in discount rate $ -
0.25% decrease in expected return on plan assets
$ 1.2 Revenue Recognition Effective the first day of fiscal 2018, we adopted the requirements of Accounting Standards Update (ASU) 2014-09, Revenue from Contracts with Customers (Topic 606). Please see note 1 to the consolidated financial statements for additional information on the new standard and the cumulative effect from the modified retrospective adjustment. We determine the appropriate revenue recognition for our contracts by analyzing the type, terms and conditions of each contract or arrangement with a customer. We have no contracts with customers, under any product line, where we could earn variable consideration. With the exception of our Utility segment and the wireless communication structures product line, our inventory is interchangeable for a variety of the product line's customers. There is one performance obligation for revenue recognition. Our Irrigation and Coatings segments recognize revenue at a point in time, which is when the service has been performed or when the goods ship; this is the same time that the customer is billed. Lighting, traffic, highway safety, and access system product lines within the ESS segment recognize revenue and bill customers at a point in time, which is typically when the product ships or when it is delivered, as stipulated in the customer contract. The following provides additional information about our contracts with utility and wireless communication structures customers, where the revenue is recognized over time, the judgments we make in accounting for those contracts, and the resulting amounts recognized in our financial statements. Accounting for utility structures and wireless communication monopole contracts: Steel and concrete utility and wireless communication monopole structures are engineered to customer specifications resulting in limited ability to sell the structure to a different customer if an order is canceled after production commences. The continuous transfer of control to the customer is evidenced either by contractual termination clauses or by our rights to payment for work performed to-date plus a reasonable profit as the products do not have an alternative use to us. Since control is transferring over time, revenue is recognized based on the extent of progress towards completion of the performance obligation. We have certain wireless communication structures customers' contracts where we do not have the right to payment for work performed. In those instances, we recognize revenue at a point in time which is time of shipment of the structure. The selection of the method to measure progress towards completion requires judgment. For our steel and concrete utility and wireless communication structure product lines, we recognize revenue on an inputs basis, using total production hours incurred to-date for each order as a percentage of total hours estimated to produce the order. The completion percentage is applied to the order's total revenue and total estimated costs to determine reported revenue, cost of goods sold and gross profit. Our enterprise resource planning (ERP) system captures the total costs incurred to-date and the total production hours, both incurred to-date and forecast to complete. Revenue from the offshore and other complex steel structures business is also recognized using an inputs method, based on the cost-to-cost measure of progress. Under the cost-to-cost measure of progress, the extent of progress towards completion is measured based on the ratio of costs incurred to date to the total estimated costs at completion of the performance obligation. Management must make assumptions and estimates regarding manufacturing labor hours and wages, the usage and cost of materials, and manufacturing burden / overhead recovery rates for each production facility. For our steel, concrete and wireless communication structures, production of an order, once started, is typically completed within three months. Projected profitability on open production orders is reviewed and updated monthly. We elected the practical expedient to not disclose the partially satisfied performance obligation at the end of the period when the contract has an original expected duration of one year or less. 39
-------------------------------------------------------------------------------- We also have a few steel structure customer orders in a fiscal year that require one or two years to complete, due to the quantity of structures. Burden rates and routed production hours, per structure, will be adjusted if and when actual costs incurred are significantly higher than what had been originally projected. This resets the timing of revenue recognition for future periods so it is better aligned with the new production schedule. For our offshore and other complex steel structures, we update the estimates of total costs to complete each order quarterly. Based on these updates, revenue in the current period may reflect adjustments for amounts that had been previously recognized. During fiscal 2019 and 2018, there were no changes to inputs/estimates which resulted in adjustments to revenue for production that occurred prior to the beginning of the year. A provision for loss on the performance obligation is recognized if and when an order is projected to be at a loss, whether or not production has started.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The information required is included under the captioned paragraph, "MARKET RISK" on page 35 of this report.
40--------------------------------------------------------------------------------
© Edgar Online, source
