Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") describes the matters that we consider to be important to understanding the results of our operations for each of the two years in the period endedDecember 31, 2019 , and our capital resources and liquidity as ofDecember 31, 2019 . Our discussion begins with our assessment of the condition of the North American trailer industry along with a summary of the actions we have taken to strengthen the Company. We then analyze the results of our operations for the last two years, including the trends in the overall business and our operating segments, followed by a discussion of our cash flows and liquidity, capital markets events and transactions, our debt obligations, and our contractual commitments. We also provide a review of the critical accounting judgments and estimates that we have made that we believe are most important to an understanding of our MD&A and our consolidated financial statements. We conclude our MD&A with information on recent accounting pronouncements that we adopted during the year, if any, as well as those not yet adopted that may have an impact on our financial accounting practices. As a result of the acquisition of Supreme in the third quarter of 2017, we now manage our business in three segments: Commercial Trailer Products, Diversified Products, and Final Mile Products. The Commercial Trailer Products segment manufactures standard and customized van and platform trailers and other transportation related equipment for customers who purchase directly from us or through independent dealers. The Diversified Products segment, comprised of three strategic business units including,Tank Trailer , Process Systems, and Composites, focuses on our commitment to expand our customer base and diversify our product 25
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offerings and revenues. The Final Mile Products segment manufactures specialized commercial vehicles that are attached to a truck chassis, including cutaway and dry-freight van bodies, refrigerated units, and stake bodies, for customers who purchase directly from us or through independent dealers. The acquisition of Supreme, a leading manufacturer of specialized commercial vehicles, is the continuation of our growth and diversification strategy into the rapidly growing final mile space. The Final Mile Products segment was created in the fourth quarter of 2017. For discussion of results of operations for the year endedDecember 31, 2017 , see Item 7-Management's Discussion and Analysis of Financial Condition and Results of Operations of our 2018 Annual Report on Form 10-K, filed with theSEC onFebruary 28, 2019 . Executive Summary 2019 was another strong year for the trailer industry. According to ACT estimates, total new trailer industry production inthe United States was 333,400 units in 2019, which represents a 3.2% increase from production volumes in 2018. This represents the ninth consecutive year that total trailer demand exceeded normal replacement demand levels, currently estimated to be approximately 220,000 trailers per year. The Company's operating performance highlights the success of our growth and diversification initiatives driven by our long-term strategic plan to continue to transform the Company into an innovation leader of engineered solutions for the transportation, logistics, and distribution industries, while maintaining our focus and expertise in lean and six sigma optimization initiatives to support a higher growth and margin profile. Operating income in 2019 totaled$142.8 million and operating income margin was 6.2%. The addition of Supreme inSeptember 2017 was a key accomplishment as it has not only added revenue and profit opportunity, but has also provided, and will continue to provide, significant diversification into a high-growth segment driven by the ever-increasing adoption of e-commerce. In addition to our commitment to sustain profitable growth within each of our existing reporting segments, our long-term strategic initiatives include a focus on diversification efforts, both organic and strategic, to continue to transform Wabash into lean, innovation leader of engineered solutions with a higher growth and margin profile and successfully deliver a greater value to our shareholders. Our ability to generate solid margins and cash flows and a healthy balance sheet should position the Company with ample resources to (1) fund our internal capital needs to support both organic growth and productivity improvements, (2) continue the planned reduction of our debt obligations, (3) return capital to shareholders and (4) selectively pursue strategic acquisitions. As evidenced by our purchase of Supreme inSeptember 2017 , we continue our internal effort to strategically identify potential acquisition targets that we believe can create shareholder value and accelerate our growth and diversification efforts, while leveraging our strong competencies in manufacturing execution, sourcing and innovative engineering leadership to assure strong value creation. Organically, our focus is on profitably growing and diversifying our operations through leveraging our existing assets, capabilities and technology into higher margin products and markets and thereby providing value-added customer solutions. Throughout 2019 we demonstrated our commitment to be responsible stewards of the business by maintaining a balanced approach to capital allocation. Our operational performance, healthy backlog and industry outlook, and financial position provided us the opportunity to take specific actions as part of the ongoing commitment to prudently manage the overall financial risks of the Company, returning capital to our shareholders and deleveraging our balance sheet. These actions included completing$30.9 million in share repurchases as authorized by our Board of Directors, voluntarily making prepayments on our Term Loan Credit Agreement totaling$50.0 million , and paying dividends to our shareholders of$17.8 million . Collectively, these actions demonstrate our confidence in the financial outlook of the Company and our ability to generate cash flow, both near and long term, and reinforces our overall commitment to deliver shareholder value while maintaining the flexibility to continue to execute our strategic plan for profitable growth and diversification. The outlook for the overall trailer market for 2020 indicates a softer demand environment compared to the last several years. However, the most recent estimates from industry forecasters, ACT and FTR, indicate demand levels expected to be in excess of the estimated replacement demand in every year through 2024. More specifically, ACT is currently estimating 2020 demand will be approximately 239,000 trailers, a decrease of 28.3% as compared to 2019, with 2021 through 2024 industry demand levels ranging between 241,900 and 283,600 trailers. In addition, FTR anticipates trailer production for 2020 at approximately 270,000 trailers, a decrease of 17.9% as compared to 2019 levels. In addition, industry forecasters indicate that further reductions in demand are unlikely and that production has shifted to a more sustainable rate from the high levels the last couple years. In addition to the softening industry demand, there are downside risks relating to issues with both the domestic and global economies, including the housing, energy and construction-related markets in theU.S. Other potential risks as we proceed into 2020 primarily relate to our ability to effectively manage our manufacturing operations as well as the cost and supply of raw materials, commodities and components. Significant increases in the cost of certain commodities, raw materials or components have had, and may continue to have, an adverse effect on our results of operations. As has been our practice, we will endeavor to pass raw material and component price increases to our customers in addition to continuing our cost management and hedging activities in an effort to minimize the risk that changes in material costs could have on our operating results. In addition, we rely on a limited number of 26
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suppliers for certain key components and raw materials in the manufacturing of our products, including tires, landing gear, axles, suspensions, aluminum extrusions, chassis and specialty steel coil. At the current and expected demand levels, there may be shortages of supplies of raw materials or components which would have an adverse impact on our ability to meet demand for our products. Despite these risks, we believe we are well positioned to capitalize on the expected strong overall demand levels while maintaining or growing margins through improvements in product pricing as well as productivity and other operational excellence initiatives. Operating Performance We measure our operating performance in five key areas - Safety/Morale, Quality, Delivery, Cost Reduction, and Environment. We maintain a continuous improvement mindset in each of these key performance areas. Our mantra of being better today than yesterday and better tomorrow than we are today is simple, straightforward, and easily understood by all our employees. Safety/Morale. The safety of our employees is our number one value and highest priority. We continually focus on reducing the severity and frequency of workplace injuries to create a safe environment for our employees and minimize workers compensation costs. We believe that our improved environmental, health and safety management translates into higher labor productivity and lower costs as a result of less time away from work and improved system management. In eleven of the last thirteen years at least one of our manufacturing sites has been recognized for safety, including recent awards from theTruck Trailer Manufacturer Association's Plant Safety Awards granted to ourNew Lisbon, Wisconsin and San JoséIturbide, Mexico facilities. In 2017, ourCadiz, Kentucky facility received the Governor's Award for Safety and Health. Our focus on safety also extends beyond our facilities. We are a founding member of the Cargo Tank Risk Management Committee, a group dedicated to reducing the hazards faced by workers on and around cargo tanks. Quality. We monitor product quality on a continual basis through a number of means for both internal and external performance as follows: ? Internal performance. Our primary internal quality measurement is Process
Yield. Process Yield is a performance metric that measures the impact of all
aspects of the business on our ability to ship our products at the end of the
production process. As with previous years, the expectations of the highest
quality product continue to increase while maintaining Process Yield
performance and reducing rework. In addition, we currently maintain an ISO
9001 registration of our Quality Management System at our
operations. ? External performance. We actively track our warranty claims and costs to
identify and drive improvement opportunities in quality and
reliability. Early life cycle warranty claims for our van trailers are
trended for performance monitoring. Using a unit-based warranty reporting
process to track performance and document failure rates, early life cycle
warranty units per 100 trailers shipped averaged approximately 2.4, 2.5, and
3.3 units in 2019, 2018 and 2017, respectively. Continued low claim rates
have been driven by our successful execution of continuous improvement
programs centered on process variation reduction, and responding to the input
from our customers. We expect that these activities will continue to drive
down our total warranty cost profile.
Delivery/Productivity. We measure productivity on many fronts. Some key indicators include production line cycle-time, labor-hours per trailer or truck body and inventory levels. Improvements over the last several years in these areas have translated into significant improvements in our ability to better manage inventory flow and control costs. ? During the past several years, we have focused on productivity enhancements
within manufacturing assembly and sub-assembly areas through developing the
capability for mixed model production. These efforts have resulted in throughput improvements in ourLafayette, Indiana ,Goshen, Indiana , andCadiz, Kentucky facilities. ? Through deployment of the Wabash Management System, all of our business reporting segments have focused on increasing velocity at all our manufacturing locations. We have engaged in extensive lean training and deployed purposeful capital to accelerate our productivity initiatives. Cost Reduction and our Operating System. The Wabash Management System allows us to develop and scale high standards of excellence across the organization. We believe in a "One Wabash" approach and standardized processes to drive and monitor performance inside our manufacturing facilities. Continuous improvement is a fundamental component of our operational excellence focus. Our balanced scorecard process, for example, has allowed us to improve all areas of manufacturing including safety, quality, on-time delivery, cost reduction, employee morale and environment. By focusing on continuous improvement and utilizing our balanced scorecard process, we have realized total cost per unit reductions as a result of increased capacity utilization of all facilities, while maintaining a lower level of fixed overhead. We are investing capital in our processes to reduce variable cost, lower inherent safety risk in our processes, and improve overall consistency in our manufacturing processes. This approach continues to drive value in both the products we offer our customers and the processes our associates work within. Environment. We strive to manufacture products that are both socially responsible and environmentally sustainable. We demonstrate our commitment to sustainability by maintaining ISO 14001 registration of our Environmental Management System 27
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at ourLafayette, Indiana ;Cadiz, Kentucky ; San JoséIturbide, Mexico ;Frankfort, Indiana ;Portland, Oregon ; andHarrison, Arkansas locations. In 2005, ourLafayette, Indiana facility was one of the first trailer manufacturing operations in the world to be ISO 14001 registered. Being ISO 14001 registered requires us to demonstrate quantifiable and third-party verified environmental improvements. At our facilities, we have pursued a wide-range of environmental initiatives including employee-based recycling programs that reduce waste being sent to the landfill, energy improvement projects to reduce carbon emissions, restored a natural wildlife habitat to enhance the environment and protect native animals. OurPortland, Oregon facility is using renewable energy and also received theCity of Portland's Sustainability at Work certification in 2017. Our San JoséIturbide, Mexico facility was recognized with Clean Industry certification fromMexico's Federal Agency of Environmental Protection for adhering to environmental care in its manufacturing processes. Industry Trends Trucking in theU.S. , according to theAmerican Trucking Association ("ATA"), was estimated to be a$796.7 billion industry in 2018, representing approximately 80% of the totalU.S. transportation industry revenue. This represents an increase of 13.8% from ATA's 2017 estimate. Furthermore, ATA estimates that approximately 71% of all freight tonnage in 2018 was carried by trucks. Trailer demand is a direct function of the amount of freight to be transported. To monitor the state of the industry, we evaluate a number of indicators related to trailer manufacturing and the transportation industry. Recent trends we have observed include the following: Transportation / Trailer Cycle. The trailer industry generally follows the transportation industry cycles. After three consecutive years with total trailer demand well below normal replacement demand levels estimated to be approximately 220,000 trailers, the five year period endingDecember 2015 demonstrated consecutive years of significant improvement in which the totalU.S. trailer market increased year-over-year. In 2016, trailer shipments decreased but rebounded in 2017 and 2018, with 2018 representing an all-time industry record. This all-time industry record set in 2018 was surpassed in 2019 with trailer shipments totaling approximately 328,000. 2011 2012 2013 2014 2015 2016 2017 2018 2019 New Trailer Shipments 204,000 232,000 234,000 269,000 308,000 286,000 290,000 323,000 328,000 Year-Over-Year Change (%) 64 % 14 % 1 % 15 % 14 % (7 %) 1 % 11 % 2 % As we enter the eleventh year of economic growth, ACT is estimating softened, more historically consistent production levels within the trailer industry in 2020 at approximately 239,000 and forecasting annual new trailer production levels for the four year period ending 2024 of approximately 241,900, 267,500, 275,300, and 283,600, respectively. Our view is generally consistent with ACT that trailer demand will soften in 2020 to more historically normalized levels and then begin growth in the years thereafter, and remain above replacement demand for 2020. New Trailer Orders. According to ACT, total orders in 2019 were approximately 205,000 trailers, a 51% decrease from 421,000 trailers ordered in 2018. Total orders for the dry van segment, the largest within the trailer industry, were approximately 115,000, a decrease of 56% from 2018. These decreases are generally consistent with our expectations due to the high levels of orders and production the last couple of years. Transportation Regulations and Legislation. There are several different areas within both federal and state government regulations and legislation that are expected to have an impact on trailer demand, including: ? TheU.S. Environmental Protection Agency ("EPA ") and National Highway Traffic
dioxide of heavy duty commercial vehicles. Following a comment period, the
final rule was released in
review processes in
determine whether this rule actually goes into effect. The Phase 2 greenhouse
gas trailer ("GHG2") rules were initially set to require compliance starting
in
petition in the
relates to the authority of the agencies to regulate trailers under the Clean
Air Act. In addition, TTMA also filed for a Stay to suspend enforcement of
the rule, to allow time for the
provisions in the rule. In
motion for Stay of the GHG2 rule as it applies to trailers. Ultimately, while
compliance is on hold, the final impact on the trailer industry will not be
known until there is a final ruling on the TTMA lawsuit. The rule itself
focuses mainly on van trailers, and is divided into four increasingly
stringent greenhouse gas reduction standards. The rule requires fuel saving
technologies on van trailers, such as trailer side skirts, low rolling
resistance tires, and automatic tire inflation systems. For tank trailers and
flatbed trailers, the rule will require low rolling resistant tires and
automotive tire inflation systems. More stringent van trailer standards would
come into play in model years 2021, 2024 and 2027 - requiring more advanced
fuel efficiency technologies, such are rear boat tails and higher percentage
improvement side skirts and tires. In addition to increasing the cost of a
trailer, these regulations may also lead to a higher demand for various aerodynamic device products. 28
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? In
proposal for new greenhouse gas standards for medium- and heavy-duty trucks
and trailers that operate in
pending
27, 2018, CARB approved for adoption the California Phase 2 GHG regulation.
That regulation largely aligns
procedures with the federal Phase 2 GHG emission standards and test
procedures and provides nationwide consistency for engine and vehicle
manufacturers, which will require trailers be equipped with the fuel savings
technologies outlined in the
date was 2020. However, considering the uncertainty presented by the
circumstances, including the stay of the federal standards, CARB has
suspended its enforcement of the California GHG trailer standards for a
period of at least two years (calendar years 2020 and 2021). We will continue
to monitor the CARB rulemaking.
Other Developments. Other developments and potential impacts on the industry include: ? While we believe the need for trailer equipment will be positively impacted by the legislative and regulatory changes addressed above, these demand drivers could be offset by factors that contribute to the increased concentration and density of loads. ? Trucking company profitability, which can be influenced by factors such as
fuel prices, freight tonnage volumes, and government regulations, is highly
correlated with the overall economy of the
significantly impacts demand for, and the financial ability to purchase new
trailers. ? Fleet equipment utilization has been rising due to increasing freight
volumes, new government regulations and shortages of qualified truck drivers.
As a result, trucking companies are under increased pressure to look for
alternative ways to move freight, leading to more intermodal freight
movement. We believe that railroads are at or near capacity, which will limit
their ability to respond to freight demand pressures. Therefore, we expect
that the majority of freight in our industry will continue to be moved by
truck and, according to ATA, while trucking's share of total freight tonnage
will decrease slightly in 2030 from the current year, freight tonnage carried
by trucks is expected to increase to 14.2 billion tons in 2030 from the
current 11.7 billion tons.
Results of Operations The following table sets forth certain operating data as a percentage of net sales for the periods indicated: Years Ended December 31, 2019 2018 2017 Net sales 100.0 % 100.0 % 100.0 % Cost of sales 86.8 % 87.5 % 85.2 % Gross profit 13.2 % 12.5 % 14.8 % General and administrative expenses 4.7 % 4.2 % 4.4 % Selling expenses 1.5 % 1.5 % 1.5 % Amortization of intangibles 0.9 % 0.8 % 1.0 % Other operating expenses - % 1.1 % 0.5 % Income from operations 6.2 % 4.9 % 7.4 % Interest expense (1.2 )% (1.3 )% (1.0 )% Other, net 0.1 % 0.6 % 0.5 % Income before income taxes 5.1 % 4.2 % 6.9 % Income tax expense 1.2 % 1.1 % 0.6 % Net income 3.9 % 3.1 % 6.3 % 29
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2019 Compared to 2018Net Sales Net sales in 2019 increased$51.9 million , or 2.3%, compared to 2018. By business segment, net sales prior to intersegment eliminations and related trailer units sold were as follows (dollars in thousands): Year Ended December 31, Change 2019 2018 Amount % (prior to elimination of intersegment sales) Sales by Segment Commercial Trailer Products$ 1,521,541 $ 1,536,939 $ (15,398 ) (1.0 %) Diversified Products 384,516 393,971 (9,455 ) (2.4 %) Final Mile Products 441,910 358,249 83,661 23.4 % Eliminations (28,831 ) (21,881 ) Total$ 2,319,136 $ 2,267,278 $ 51,858 2.3 % New Trailers (units) Commercial Trailer Products 54,650 59,500 (4,850 ) (8.2 %) Diversified Products 2,850 2,650 200 7.5 % Total 57,500 62,150 (4,650 ) (7.5 %) Used Trailers (units) Commercial Trailer Products 75 950 (875 ) (92.1 %) Diversified Products 75 150 (75 ) (50.0 %) Total 150 1,100 (950 ) (86.4 %) Commercial Trailer Products segment sales, prior to the elimination of intersegment sales, were$1.5 billion in 2019, a decrease of$15.4 million , or 1.0%, compared to 2018. The decrease in sales was primarily due to an 8.2% decrease in new trailer shipments as 54,650 trailers were shipped in 2019 compared to 59,500 trailer shipments in 2018. Pricing efforts undertaken in response to increases in commodity and labor costs experienced in 2018 partially offset the decrease in volume of new trailer sales. Used trailer sales decreased$9.2 million , or 95.5%, compared to 2018 primarily due to an 875 unit decrease in used trailer sales. Parts and service sales in 2019 increased$5.4 million , or 15.3%, compared to 2018, which is attributable to a stronger focus on servicing this market. Diversified Products segment sales, prior to the elimination of intersegment sales, were$384.5 million in 2019, a decrease of$9.5 million , or 2.4%, compared to 2018. New trailer sales increased$33.3 million , or 20.2%, due to a 7.5% increase in new trailer shipments, as approximately 2,850 trailers were shipped in 2019 compared to 2,650 trailers shipped in 2018 on higher demand for tank trailers. Also contributing to the sales increase of new trailer sales were the pricing efforts undertaken in response to increases in commodity and labor costs experienced in 2018. Equipment and other sales decreased$32.2 million , or 31.1%, primarily due to a$30.5 million decrease as a result of the divestiture of the AVTE business inJanuary 2019 . Sales of our components, parts and service product offerings in 2019 decreased$9.1 million , or 7.4%, compared to 2018, primarily due to$2.1 million of lower sales as a result of the sale of the AVTE business and lower demand for our decking systems and other trailer parts and accessories. Final Mile Products segment sales, prior to the eliminations of intersegment sales, were$441.9 million in 2019 compared to$358.2 million in 2018, a 23.4% increase. Truck body unit shipments increased 15.3%, which combined with pricing efforts undertaken in response to increases in commodity and labor costs experienced in 2018 drove a$77.3 million increase in new truck body sales compared to 2018. The increase in truck body unit shipments is attributable to improved chassis availability compared to prior year, our efforts to increase the visibility of chassis supply resulting in improved production scheduling and less production disruptions compared to prior year, and overall demand for our products within the final mile market. The remaining increase in sales is attributable to increased sales of parts and services as a result of an increased focus of servicing this market, which included opening a new facility in 2019. 30
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Cost of Sales Cost of sales was$2.0 billion in 2019, an increase of$29.1 million , or 1.5%, compared to 2018. Cost of sales is comprised of material costs, a variable expense, and other manufacturing costs, comprised of both fixed and variable expenses, including direct and indirect labor, outbound freight, and overhead expenses. Commercial Trailer Products segment cost of sales was$1.3 billion in 2019, a decrease of$24.2 million , or 1.8%, compared to 2018. The decrease was primarily driven by a$27.8 million decrease in materials costs driven by lower new trailer sales volumes, partially offset by an increase in the price of materials due to cost inflation as compared to 2018. Other manufacturing costs increased$3.6 million as compared to 2018, including direct and indirect labor, outbound freight and overhead expenses. Diversified Products segment cost of sales, prior to the elimination of intersegment sales, was$309.9 million in 2019, a decrease of$15.6 million , or 4.8%, compared to 2018. This decrease was the result of the divestiture of the AVTE business which resulted in a$32.8 million decrease in cost of sales which was partially offset by a$17.2 million increase in material costs and other manufacturing costs in 2019 compared to 2018, which is in line with the increase in new trailer shipments. Final Mile Products segment cost of sales was$384.1 million in 2019 compared to$309.5 million in 2018, an increase of$74.6 million or 24.1%. The increase was driven by a$48.7 million increase in materials costs and a$25.9 million increase in other manufacturing costs related to increased sales volumes and product mix. Gross Profit Gross profit was$306.4 million in 2019, an increase of$22.7 million , or 8.0% from 2018. Gross profit as a percentage of sales, or gross margin, was 13.2% in 2019 as compared to 12.5% in 2018. Gross profit by segment was as follows (in thousands): Year Ended December 31, Change 2019 2018 $ % Gross Profit by Segment Commercial Trailer Products$ 177,190 $ 168,343 $ 8,847 5.3 % Diversified Products 74,588 68,428 6,160 9.0 % Final Mile Products 57,815 48,771 9,044 18.5 % Corporate and Eliminations (3,211 ) (1,891 ) (1,320 ) Total$ 306,382 $ 283,651 $ 22,731 8.0 % Commercial Trailer Products segment gross profit was$177.2 million in 2019 compared to$168.3 million in 2018, an increase of$8.8 million . Gross profit, as a percentage of net sales prior to the elimination of intersegment sales, was 11.6% in 2019 as compared to 11.0% in 2018, an increase of 60 basis points. The increases in gross profit and gross profit margin as compared to 2018 were attributable to our pricing efforts to mitigate the impact of higher material and operating costs. Diversified Products segment gross profit was$74.6 million in 2019 compared to$68.4 million in 2018. Gross profit, as a percentage of net sales prior to the elimination of intersegment sales, was 19.4% in 2019 compared to 17.4% in 2018, an increase of 200 basis points. The increase in gross margin is primarily due to the divestiture of the AVTE business which had a gross margin of (0.5)% in 2018. The remaining gross margin improvement and the increase in gross profit is attributable to operational efficiencies and higher sales volumes. Final Mile Products segment gross profit was$57.8 million in 2019 compared to$48.8 million in the fourth quarter of 2018. Gross profit, as a percentage of sales, was 13.1% in 2019, compared to 13.6% in 2018. The increase in gross profit compared to 2018 was primarily driven by higher sales volumes and our pricing efforts. The 50 basis point decrease in gross margin is primarily due to increased material costs as a result of a higher take rate on lower margin options. General and Administrative Expenses General and administrative expenses were$108.3 million in 2019, an increase of$13.2 million , or 13.8%, compared to 2018. The increase was largely due to an approximate$8.0 million increase in employee-related costs, including benefits and incentive programs, and increases in various other administrative expenses. These increases were partially offset by lower general and administrative expenses as a result of the sale of the AVTE business inJanuary 2019 . General and administrative expenses, as a percentage of net sales, were 4.7% in 2019 compared to 4.2% in 2018. Selling Expenses Selling expenses were$34.9 million in 2019, an increase of$1.8 million , or 5.5%, compared to 2018. The increase was due to a$2.2 million increase in employee-related costs, including benefits and incentive programs, and a$1.6 million increase in advertising 31
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and promotion efforts. These increases were partially offset by lower selling expenses as a result of the sale of the AVTE business inJanuary 2019 . As a percentage of net sales, selling expenses were 1.5% in both 2019 and 2018. Amortization of Intangibles Amortization of intangibles was$20.5 million in 2019 compared to$19.5 million in 2018. Amortization of intangibles for both periods primarily includes amortization expense recognized for intangible assets recorded from the acquisition of Walker inMay 2012 , certain assets acquired from Beall inFebruary 2013 , and Supreme inSeptember 2017 . Impairment There was no impairment expense in 2019, however, during 2018 impairment expense totaled$25.0 million , which was attributable to the AVTE business within the Diversified Products reportable segment. In the third quarter of 2018, the Company identified indicators of impairment and performed an impairment analysis of the goodwill, intangible assets and long-lived assets, resulting in a$12.0 million impairment charge. In the fourth quarter of 2018, with the financial framework of an agreement to sell the Aviation and Truck Equipment business largely agreed to with the buyers, the Company evaluated the remaining assets for impairment based on the economics of the, then proposed, transaction. As a result of the Company's impairment analysis, an impairment of$13.0 million was recorded to fully impair all current assets of the business. Other Income (Expense) Interest expense in 2019 totaled$27.3 million compared to$28.8 million in 2018. Interest expense in the current year is primarily related to interest and non-cash accretion charges on our Term Loan Credit Agreement and Senior Notes. The decrease from 2018 was due to our voluntary prepayments totaling approximately$50.0 million against our Term Loan Credit Agreement during 2019 and the retirement of the Convertible Notes completed in 2018. Other, net for 2019 represented income of$2.3 million as compared to income of$13.8 million for 2018. Income for the current year is primarily related to interest income and the sale of a building asset that resulted in an immaterial gain. Income for the prior year was primarily related to the gains recognized on the sale of former branch locations throughout 2018. Income Taxes We recognized income tax expense of$28.2 million in 2019 compared to$26.6 million in 2018. The effective tax rate for 2019 was 23.9%, which differs from theU.S. Federal statutory rate of 21% primarily due to the impact of state and local taxes and tax credits related to research and development expenses. Cash paid for income taxes in 2019 and 2018 were$20.4 million and$24.2 million , respectively. Liquidity and Capital Resources Capital Structure Our capital structure is comprised of a mix of debt and equity. As ofDecember 31, 2019 , our debt to equity ratio was approximately 0.9:1.0. Our long-term objective is to generate operating cash flows sufficient to support the growth within our businesses and increase shareholder value. This objective will be achieved through a balanced capital allocation strategy of maintaining strong liquidity, deleveraging our balance sheet, investing in the business, both organically and strategically, and returning capital to our shareholders. Throughout 2019, and in keeping to this balanced approach, we repurchased$30.9 million of common stock under the share repurchase program approved by our Board of Directors, paid dividends of$17.8 million , and made voluntary prepayments totaling approximately$50.0 million against our Term Loan Credit Agreement. For 2020, we expect to continue our commitment to fund our working capital requirements and capital expenditures while also deleveraging our balance sheet through cash flows from operations as well as available borrowings under our existing Revolving Credit Agreement and returning capital to our shareholders. Debt Agreements and Related Amendments Convertible Senior Notes InApril 2012 , we issued Convertible Senior Notes due 2018 (the "Convertible Notes") with an aggregate principal amount of$150 million in a public offering. The Convertible Notes bear interest at a rate of 3.375% per annum from the date of issuance, payable semi-annually onMay 1 andNovember 1 , and matured onMay 1, 2018 . The Convertible Notes were senior unsecured obligations ranked equally with our existing and future senior unsecured debt. We used the net proceeds of$145.1 million from the sale of the Convertible Notes to fund a portion of the purchase price of the acquisition of Walker Group Holdings ("Walker") inMay 2012 . We accounted separately for the liability and equity components of the Convertible Notes in accordance with authoritative guidance for convertible debt instruments that may be settled in cash upon conversion. During 2018, we used$80.2 million in cash, excluding interest, to settle$44.6 million in principal of the Convertible Notes of which none were converted to common shares. The excess of the cash settlement amount over the principal value of the Convertible 32
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Notes was accounted for as a reacquisition of equity, resulting in a$35.5 million reduction to additional paid-in capital during 2018. For the years endedDecember 31, 2018 and 2017, we recognized a loss on debt extinguishment of$0.2 million and$0.1 million , respectively related to settlements and the retirement of the Convertible Notes, which is included in Other, net on our Consolidated Statements of Operations. Senior Notes OnSeptember 26, 2017 , we issued Senior Notes due 2025 (the "Senior Notes") in an offering pursuant to Rule 144A or Regulation S under the Securities Act of 1933, as amended, with an aggregate principal amount of$325 million . The Senior Notes bear interest at the rate of 5.50% per annum from the date of issuance, and pay interest semi-annually in cash onApril 1 andOctober 1 of each year. We used the net proceeds of$318.9 million from the sale of the Senior Notes to finance a portion of the acquisition of Supreme and to pay related fees and expenses. The Senior Notes will mature onOctober 1, 2025 . At any time prior toOctober 1, 2020 , we may redeem some or all of the Senior Notes for cash at a redemption price equal to 100% of the aggregate principal amount of the Senior Notes being redeemed plus an applicable make-whole premium set forth in the indenture for the Senior Notes and accrued and unpaid interest to, but not including, the redemption date. Prior toOctober 1, 2020 , we may redeem up to 40% of the Senior Notes at a redemption price of 105.50% of the principal amount, plus accrued and unpaid interest to, but not including, the redemption date, with the proceeds of certain equity offerings so long as if, after any such redemption occurs, at least 60% of the aggregate principal amount of the Senior Notes remains outstanding. On and afterOctober 1, 2020 , we may redeem some or all of the Senior Notes at redemption prices (expressed as percentages of principal amount) equal to 102.750% for the twelve-month period beginning onOctober 1, 2020 , 101.375% for the twelve-month period beginningOctober 1, 2021 and 100.000% beginning onOctober 1, 2022 , plus accrued and unpaid interest to, but not including, the redemption date. Upon the occurrence of a Change of Control (as defined in the indenture for the Senior Notes), unless we have exercised our optional redemption right in respect of the Senior Notes, the holders of the Senior Notes have the right to require us to repurchase all or a portion of the Senior Notes at a price equal to 101% of the aggregate principal amount of the Senior Notes, plus any accrued and unpaid interest to, but not including, the date of repurchase. The Senior Notes are guaranteed on a senior unsecured basis by all of our direct and indirect existing and future domestic restricted subsidiaries, subject to certain exceptions. The Senior Notes and related guarantees are our and the guarantors' general unsecured senior obligations and are subordinate to all of our and the guarantors' existing and future secured debt to the extent of the assets securing that secured debt. In addition, the Senior Notes are structurally subordinate to any existing and future debt and other obligations of any of our subsidiaries that are not guarantors, to the extent of the assets of those subsidiaries. The indenture for the Senior Notes restricts our ability and the ability of certain of our subsidiaries to: (i) incur additional indebtedness; (ii) pay dividends or make other distributions in respect of, or repurchase or redeem, our capital stock or with respect to any other interest or participation in, or measured by, our profits; (iii) make loans and certain investments; (iv) sell assets; (v) create or incur liens; (vi) enter into transactions with affiliates; and (vii) consolidate, merge or sell all or substantially all of our assets. These covenants are subject to a number of important exceptions and qualifications. During any time when the Senior Notes are rated investment grade byMoody's Investors Service, Inc. andStandard & Poor's Ratings Services and no event of default has occurred and is continuing, many of such covenants will be suspended and the Company and its subsidiaries will not be subject to such covenants during such period. The indenture for the Senior Notes contains customary events of default, including payment defaults, breaches of covenants, failure to pay certain judgments and certain events of bankruptcy, insolvency and reorganization. If an event of default occurs and is continuing, the principal amount of the Senior Notes, plus accrued and unpaid interest, if any, may be declared immediately due and payable. These amounts automatically become due and payable if an event of default relating to certain events of bankruptcy, insolvency or reorganization occurs. As ofDecember 31, 2019 , we were in compliance with all covenants. Contractual coupon interest expense and accretion of discount and fees for the Senior Notes for the years endedDecember 31, 2019 , 2018 and 2017 was$18.5 million and$18.5 million and$4.8 million , respectively, and is included in Interest expense on our Consolidated Statements of Operations. Revolving Credit Agreement OnDecember 21, 2018 , we entered into the Second Amended and Restated Credit Agreement (the "Revolving Credit Agreement"), among us, certain of our subsidiaries as borrowers (together with us, the "Borrowers"), the lenders from time to time party thereto,Wells Fargo Capital Finance, LLC , as the administrative agent, joint lead arranger and joint bookrunner (the "Revolver Agent"), andCitizens Business Capital , a division ofCitizens Asset Finance, Inc. , as syndication agent, joint lead arranger and joint bookrunner, which amended and restated our existing amended and restated revolving credit agreement, dated as ofMay 8, 2012 . The Revolving Credit Agreement is guaranteed by certain of our subsidiaries (the "Revolver Guarantors") and is secured by (i) first priority security interests (subject only to customary permitted liens and certain other permitted liens) in substantially all personal property of the Borrowers and the Revolver Guarantors, consisting of accounts receivable, inventory, cash, deposit and securities accounts and any cash or other assets in such accounts and, to the extent evidencing or otherwise related to such property, 33
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all general intangibles, licenses, intercompany debt, letter of credit rights, commercial tort claims, chattel paper, instruments, supporting obligations, documents and payment intangibles (collectively, the "Revolver Priority Collateral"), and (ii) second-priority liens on and security interests in (subject only to the liens securing the Term Loan Credit Agreement (as defined below), customary permitted liens and certain other permitted liens) (A) equity interests of each direct subsidiary held by the Borrowers and each Revolver Guarantor (subject to customary limitations in the case of the equity of foreign subsidiaries), and (B) substantially all other tangible and intangible assets of the Borrowers and the Revolver Guarantors including equipment, general intangibles, intercompany notes, insurance policies, investment property and intellectual property (in each case, except to the extent constituting Revolver Priority Collateral), but excluding real property (collectively, including certain material owned real property that does not constitute collateral under the Revolving Credit Agreement, the "Term Priority Collateral"). The respective priorities of the security interests securing the Revolving Credit Agreement and the Term Loan Credit Agreement are governed by an Intercreditor Agreement, dated as ofMay 8, 2012 , between the Revolver Agent and the Term Agent (as defined below), as amended (the "Intercreditor Agreement"). The Revolving Credit Agreement has a scheduled maturity date ofDecember 21, 2023 , subject to certain springing maturity events. Under the Revolving Credit Agreement, the lenders agree to make available to us a$175 million revolving credit facility. We have the option to increase the total commitment under the facility to up to$275 million , subject to certain conditions, including obtaining commitments from any one or more lenders, whether or not currently party to the Revolving Credit Agreement, to provide such increased amounts. Availability under the Revolving Credit Agreement will be based upon quarterly (or more frequent under certain circumstances) borrowing base certifications of the Borrowers' eligible inventory and eligible accounts receivable, and will be reduced by certain reserves in effect from time to time. Subject to availability, the Revolving Credit Agreement provides for a letter of credit subfacility in an amount not in excess of$15 million , and allows for swingline loans in an amount not in excess of$17.5 million . Outstanding borrowings under the Revolving Credit Agreement will bear interest at an annual rate, at the Borrowers' election, equal to (i) LIBOR plus a margin ranging from 1.25% to 1.75% or (ii) a base rate plus a margin ranging from 0.25% to 0.75%, in each case depending upon the monthly average excess availability under the revolving loan facility. The Borrowers are required to pay a monthly unused line fee equal to 0.20% times the average daily unused availability along with other customary fees and expenses of the Revolver Agent and the lenders. The Revolving Credit Agreement contains customary covenants limiting our ability and the ability of certain of our affiliates to, among other things, pay cash dividends, incur debt or liens, redeem or repurchase stock, enter into transactions with affiliates, merge, dissolve, repay subordinated indebtedness, make investments and dispose of assets. In addition, we will be required to maintain a minimum fixed charge coverage ratio of not less than 1.0 to 1.0 as of the end of any period of 12 fiscal months (commencing with the month endingDecember 31, 2018 ) when excess availability under the Revolving Credit Agreement is less than 10% of the total revolving commitment. If availability under the Revolving Credit Agreement is less than 15% of the total revolving commitment or if there exists an event of default, amounts in any of the Borrowers' and the Revolver Guarantors' deposit accounts (other than certain excluded accounts) will be transferred daily into a blocked account held by the Revolver Agent and applied to reduce the outstanding amounts under the facility. Subject to the terms of the Intercreditor Agreement, if the covenants under the Revolving Credit Agreement are breached, the lenders may, subject to various customary cure rights, require the immediate payment of all amounts outstanding and foreclose on collateral. Other customary events of default in the Revolving Credit Agreement include, without limitation, failure to pay obligations when due, initiation of insolvency proceedings, defaults on certain other indebtedness, and the incurrence of certain judgments that are not stayed, satisfied, bonded or discharged within 30 days. As ofDecember 31, 2019 and 2018, we had no outstanding borrowings under the Revolving Credit Agreement and were in compliance with all covenants. Our liquidity position, defined as cash on hand and available borrowing capacity on the Revolving Credit Agreement, amounted to$308.1 million as ofDecember 31, 2019 . In connection with the execution of the Revolving Credit Agreement, we recognized a loss on debt extinguishment of$0.1 million during 2018, which is included in Other, net on the Company's Consolidated Statements of Operations. Term Loan Credit Agreement InMay 2012 , we entered into a Term Loan Credit Agreement (as amended, the "Term Loan Credit Agreement"), dated as ofMay 8, 2012 , among us, the several lenders from time to time party thereto,Morgan Stanley Senior Funding, Inc. , as administrative agent (the "Term Agent"), joint lead arranger and joint bookrunner, andWells Fargo Securities, LLC , as joint lead arranger and joint bookrunner, which provides for, among other things, (x) a senior secured term loan of$188.0 million that matures onMarch 19, 2022 , subject to certain springing maturity events (the "Term Loans"), and (y) an uncommitted accordion feature to provide for additional senior secured term loans of up to$75 million plus an unlimited amount provided that the senior secured leverage ratio would not exceed 3.00 to 1.00, subject to certain conditions (the "Term Loan Facility"). OnFebruary 24, 2017 , we entered into Amendment No. 3 to the Term Loan Credit Agreement ("Amendment No. 3"). As ofFebruary 24, 2017 ,$189.5 million of the Tranche B-2 Loans were outstanding. Under Amendment No. 3, the lenders agreed to 34
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provide us term loans in the same aggregate principal amount of the outstanding Tranche B-2 Loans (the "Tranche B-3 Loans"), which were used to refinance the outstanding Tranche B-2 Loans. In connection with, and in order to permit under the Term Loan Credit Agreement, the Senior Notes offering and the acquisition of Supreme, onAugust 18, 2017 , we entered into Amendment No. 4 to the Term Loan Credit Agreement ("Amendment No. 4"). Amendment No. 4 also permitted us to incur certain other indebtedness in connection with the Supreme acquisition and to acquire certain liens and obligations of Supreme upon the consummation of the Supreme acquisition. Furthermore, onNovember 17, 2017 , we entered into Amendment No. 5 to the Term Loan Credit Agreement ("Amendment No. 5"). As of the Amendment No. 5 date,$188.0 million of the Term Loans were outstanding. Under Amendment No. 5, the lenders agreed to provide us term loans in the same aggregate principal amount of the outstanding Term Loans ("Tranche B-4 Loans"), which were used to refinance the outstanding Term Loans. The Tranche B-4 Loans bear interest at a rate, at the Company's election, equal to (i) LIBOR (subject to a floor of 0%) plus a margin of 225 basis points or (ii) a base rate (subject to a floor of 0%) plus a margin of 125 basis points. We are not subject to any financial covenants under the Term Loan Facility. The Term Loan Credit Agreement is guaranteed by certain of our subsidiaries, and is secured by (i) first-priority liens on and security interests in the Term Priority Collateral, and (ii) second-priority security interests in the Revolver Priority Collateral. The Term Loan Credit Agreement contains customary covenants limiting our ability to, among other things, pay cash dividends, incur debt or liens, redeem or repurchase stock, enter into transactions with affiliates, merge, dissolve, pay off subordinated indebtedness, make investments and dispose of assets. Subject to the terms of the Intercreditor Agreement, if the covenants under the Term Loan Credit Agreement are breached, the lenders may, subject to various customary cure rights, require the immediate payment of all amounts outstanding and foreclose on collateral. Other customary events of default in the Term Loan Credit Agreement include, without limitation, failure to pay obligations when due, initiation of insolvency proceedings, defaults on certain other indebtedness, and the incurrence of certain judgments that are not stayed, satisfied, bonded or discharged within 60 days. As ofDecember 31, 2019 , we were in compliance with all covenants. For the years endedDecember 31, 2019 , 2018 and 2017, under the Term Loan Credit Agreement the Company paid interest of$7.8 million ,$8.0 million and$7.4 million , respectively, and paid principal of$50.5 million ,$1.9 million , and$1.9 million , respectively. During 2019, the Company recognized losses on debt extinguishment totaling approximately$0.2 million in connection with the prepayment of principal. In connection with Amendment No. 3 and Amendment No. 5, the Company recognized a loss on debt extinguishment of approximately$0.7 million during 2017. The losses on debt extinguishment are included in Other, net on the Company's Consolidated Statements of Operations. As ofDecember 31, 2019 andDecember 31, 2018 , the Company had$135.2 million and$185.7 million , respectively, outstanding under the Term Loan Credit Agreement, of which none and$1.9 million , respectively, was classified as current on the Company's Consolidated Balance Sheets. For the years endedDecember 31, 2019 , 2018, and 2017, the Company incurred charges of$0.2 million in each period for amortization of fees and original issuance discount which is included in Interest expense in the Consolidated Statements of Operations. Cash Flow 2019 compared to 2018 Cash provided by operating activities for 2019 totaled$146.3 million , compared to$112.5 million in 2018. The cash provided by operations during the current year was the result of net income adjusted for various non-cash activities, including depreciation, amortization, net gain on the sale of assets, deferred taxes, loss on debt extinguishment, stock-based compensation, and accretion of debt discount of$145.5 million , and a$0.8 million decrease in our working capital. Changes in key working capital accounts for 2019 and 2018 are summarized below (in thousands): 2019 2018 Change Source (use) of cash: Accounts receivable$ 8,327 $ (39,539 ) $ 47,866 Inventories (2,510 ) (18,713 ) 16,203
Accounts payable and accrued liabilities (817 ) 32,653 (33,470 ) Net source (use) of cash
$ 5,000 $ (25,599 ) $ 30,599 Accounts receivable decreased by$8.3 million in 2019 compared to an increase of$39.5 million for 2018. Days sales outstanding, a measure of working capital efficiency that measures the amount of time a receivable is outstanding, was approximately 27 days as of bothDecember 31, 2019 and 2018. The decrease in accounts receivable for 2019 was primarily due to strong customer collections during the current year. Increases in inventory in 2019 and 2018 resulted in a use of cash of$2.5 million and$18.7 35
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million, respectively. Our inventory turns, a commonly used measure of working capital efficiency that measures how quickly inventory turns per year was approximately 8 times in 2019 compared to 10 times in 2018. The increase in inventory for 2019 resulted from higher finished goods and work in progress inventories partially offset by a decrease in raw materials inventory due to softer demand as ofDecember 31, 2019 compared toDecember 31, 2018 . Accounts payable and accrued liabilities decreased by$0.8 million in 2019 compared to an increase of$32.7 million for 2018. Days payable outstanding, a measure of working capital efficiency that measures the amount of time a payable is outstanding, was 24 days in 2019 and 31 days in 2018. The decrease in 2019 was primarily due to lower raw materials inventory and the overall timing of payments compared to 2018, partially offset by an increase in accrued liabilities attributed to employee-related costs, including benefits and incentive programs. Investing activities used$36.9 million during 2019 compared to$13.2 million used in 2018. Investing activities for 2019 included capital expenditures$37.6 million to support growth and improvement initiatives at our facilities partially offset by proceeds from the sale of assets totaling$0.8 million due to the sale of a building asset that resulted in an immaterial gain. Cash used in investing activities in 2018 was primarily related to capital expenditures to support growth and improvement initiatives at our facilities totaling$34.0 million , partially offset by proceeds from the sale of certain branch location assets totaling$17.8 million . Financing activities used$101.6 million during 2019, primarily related to principal payments on our Term Loan Credit Agreement of$50.5 million , common stock repurchases of$33.7 million , and cash dividends paid to our shareholders of$17.8 million . Financing activities used$158.1 million during 2018, primarily related to the repurchase of Convertible Notes totaling$80.2 million , repurchases of common stock through our share repurchase program totaling$58.4 million , and cash dividends paid to our shareholders and holders of our Convertible Notes of$17.8 million . As ofDecember 31, 2019 , our liquidity position, defined as cash on hand and available borrowing capacity, amounted to$308.1 million , representing a decrease of$8.6 million fromDecember 31, 2018 . Total debt and finance lease obligations amounted to$456.1 million as ofDecember 31, 2019 . Based on the financial position of the Company atDecember 31, 2019 , the expected demand environment within the trailer industry, and the current and anticipated operational performance of all three of our reportable segments, we believe our cash on hand, available borrowing capacity, and future cash flows from operating activities will enable us to fund our planned operation levels, working capital requirements, capital expenditures, and debt service requirements in 2020. Contractual Obligations and Commercial Commitments A summary of our contractual obligations and commercial commitments, both on and off balance sheet, as ofDecember 31, 2019 are as follows (in thousands): 2020 2021 2022 2023 2024 Thereafter Total Debt: Revolving Facility (due 2023) $ - $ - $ - $ - $ - $ - $ - Term Loan Credit Facility (due 2022) - - 135,228 - - - 135,228 Senior Notes (due 2025) - - - - - 325,000 325,000 Finance Leases (including principal and interest) 361 361 30 - - - 752 Total debt 361 361 135,258 - - 325,000 460,980 Other: Operating Leases 4,986 4,477 2,551 1,855 851 1,242 15,962 Total other 4,986 4,477 2,551 1,855 851 1,242 15,962 Other commercial commitments: Letters of Credit 7,432 - - - - - 7,432 Raw Material Purchase Commitments 83,922 - - - - - 83,922 Chassis Agreements and Programs 13,473 - - - - - 13,473 Total other commercial commitments 104,827 - - - - - 104,827 Total obligations$ 110,174 $ 4,838 $ 137,809 $ 1,855
Scheduled payments for our Revolving Credit Facility exclude interest payments as rates are variable. Borrowings under the Revolving Credit Facility bear interest at a variable rate based on the London Interbank Offer Rate (LIBOR) or a base rate determined by the lender's prime rate plus an applicable margin, as defined in the agreement. Outstanding borrowings under the Revolving Credit Facility bear interest at a rate, at our election, equal to (i) LIBOR plus a margin ranging from 1.25% to 1.75% or (ii) a base rate plus a margin ranging from 0.25% to 0.75%, in each case depending upon the monthly average excess availability under the Revolving Credit Facility. We are required to pay a monthly unused line fee equal to 0.20% times the average daily unused availability along with other customary fees and expenses of our agent and lenders. 36
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Scheduled payments for our Term Loan Credit Agreement, as amended, exclude interest payments as rates are variable. Borrowings under the Term Loan Credit Agreement, as amended, bear interest at a variable rate, at our election, equal to (i) LIBOR (subject to a floor of 0.00%) plus a margin of 2.25% or (ii) a base rate (subject to a floor of 0.00%) plus a margin of 1.25%. The Term Loan Credit Agreement matures inMarch 2022 subject to certain springing maturity events. Scheduled payments for our Senior Notes exclude interest payments. The Senior Notes bear interest at the rate of 5.5% per annum from the date of issuance, payable semi-annually onApril 1 andOctober 1 . Finance leases represent future minimum lease payments including interest. Operating leases represent the total future minimum lease payments. We have standby letters of credit totaling$7.4 million issued in connection with workers compensation claims and surety bonds. We have$83.9 million in purchase commitments throughDecember 2020 for various raw material commodities, including aluminum, steel, polyethylene and nickel as well as other raw material components which are within normal production requirements. We, through our subsidiary Supreme, obtain most vehicle chassis for its specialized vehicle products directly from the chassis manufacturers under converter pool agreements. Chassis are obtained from the manufacturers based on orders from customers, and in some cases, for unallocated orders. The agreements generally state that the manufacturer will provide a supply of chassis to be maintained at the Company's facilities with the condition that we will store such chassis and will not move, sell, or otherwise dispose of such chassis except under the terms of the agreement. In addition, the manufacturer typically retains the sole authority to authorize commencement of work on the chassis and to make certain other decisions with respect to the chassis including the terms and pricing of sales of the chassis to the manufacturer's dealers. The manufacturer also does not transfer the certificate of origin to the Company nor permit the Company to sell or transfer the chassis to anyone other than the manufacturer (for ultimate resale to a dealer). Although the Company is party to related finance agreements with manufacturers, the Company has not historically settled, nor expects to in the future settle, any related obligations in cash. Instead, the obligation is settled by the manufacturer upon reassignment of the chassis to an accepted dealer, and the dealer is invoiced for the chassis by the manufacturer. Accordingly, as ofDecember 31, 2019 the Company's outstanding chassis converter pool with the manufacturer totaled$10.2 million and has included this financing agreement on the Company's Consolidated Balance Sheets within Prepaid expenses and other and Other accrued liabilities. All other chassis programs through its Supreme subsidiary are handled as consigned inventory belonging to the manufacturer and totaled approximately$3.3 million . Under these agreements, if the chassis is not delivered to a customer within a specified time frame the Company is required to pay a finance or storage charge on the chassis. Additionally, the Company receives finance support funds from manufacturers when the chassis are assigned into the Company's chassis pool. Typically, chassis are converted and delivered to customers within 90 days of the receipt of the chassis by the Company. The total amount of gross unrecognized tax benefits for uncertain tax positions, including positions impacting only the timing of tax benefits, was$2.1 million atDecember 31, 2019 . Payment of these obligations would result from settlements with taxing authorities. Due to the difficulty in determining the timing of settlements, these obligations are not included in the table above. We do not expect to make a tax payment related to these obligations within the next year that would significantly impact liquidity. Significant Accounting Policies and Critical Accounting Estimates Our significant accounting policies are more fully described in Note 2 to our consolidated financial statements. Certain of our accounting policies require the application of significant judgment by management in selecting the appropriate assumptions for calculating financial estimates. By their nature, these judgments are subject to an inherent degree of uncertainty. These judgments are based on our historical experience, terms of existing contracts, evaluation of trends in the industry, information provided by our customers and information available from other outside sources, as appropriate. We consider an accounting estimate to be critical if it requires us to make assumptions about matters that were uncertain at the time we were making the estimate or changes in the estimate or different estimates that we could have selected would have had a material impact on our financial condition or results of operations. Warranties. We estimate warranty claims based on our historical information and the nature, frequency and average cost of claims of our various product lines, combined with our current understanding of existing claims, recall campaigns and discussions with our customers. Actual experience could differ from the amounts estimated requiring adjustments to these liabilities in future periods. Due to the uncertainty and potential volatility of the factors contributing to developing estimates, changes in our assumptions could materially affect our results of operations. Legal and Other Contingencies. The outcomes of legal proceedings and claims brought against us and other loss contingencies are subject to significant uncertainty. We establish legal contingency reserves when we determine that it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. In determining the appropriate accounting for loss contingencies, we consider the likelihood of loss or the incurrence of a liability, as well as our ability to reasonably estimate the 37
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amount of loss. We regularly evaluate current information available to us to determine whether an accrual should be established or adjusted. Estimating the probability that a loss will occur and estimating the amount of a loss or a range of loss involves significant judgment and such matters are unpredictable. We could incur judgments or enter into settlements for current or future claims that could materially impact our results of operations. Impairment of Long-Lived Assets and Definite-Lived Intangible Assets. We review, on at least a quarterly basis, the financial performance of each business unit for indicators of impairment. In reviewing for impairment indicators, we also consider events or changes in circumstances such as business prospects, customer retention, market trends, potential product obsolescence, competitive activities and other economic factors. An impairment loss is recognized when the carrying value of an asset group exceeds the future net undiscounted cash flows expected to be generated by that asset group. The impairment loss recognized is the amount by which the carrying value of the asset group exceeds its fair value.Goodwill . We assess goodwill for impairment at the reporting unit level on an annual basis as ofOctober 1 , after the annual planning process is complete. More frequent evaluations may be required if we experience changes in our business climate or as a result of other triggering events that may take place. If the carrying value exceeds fair value, the asset is considered impaired and is reduced to its fair value. In assessing goodwill for impairment, we may choose to initially evaluate qualitative factors to determine if it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If the qualitative assessment is not conclusive, then an impairment analysis for goodwill is performed at the reporting unit level using a quantitative approach. The quantitative test is a comparison of the fair value of the reporting unit, determined using a combination of the income and market approaches, to its recorded amount. If the recorded amount exceeds the fair value, an impairment is recorded to reduce the carrying amount to fair value, but will not exceed the amount of goodwill that is recorded. The process of evaluating goodwill for impairment is subjective and requires significant judgment at many points during the analysis. If we elect to perform an optional qualitative analysis, we consider many factors including, but not limited to, general economic conditions, industry and market conditions, financial performance and key business drivers, long-term operating plans, and potential changes to significant assumptions used in the most recent fair value analysis for the reporting unit. When performing a quantitative goodwill impairment test, we generally determine fair value using a combination of an income-based approach and a market-based approach. The fair value determination consists primarily of using significant unobservable inputs (Level 3) under the fair value measurement standards. We believe the most critical assumptions and estimates in determining the estimated fair value of our reporting units include, but are not limited to, the amounts and timing of expected future cash flows which is largely dependent on expected EBITDA margins, the discount rate applied to those cash flows, and terminal growth rates. The assumptions used in determining our expected future cash flows consider various factors such as historical operating trends and long-term operating strategies and initiatives. The discount rate used by each reporting unit is based on our assumption of a prudent investor's required rate of return of assuming the risk of investing in a particular company. The terminal growth rate reflects the sustainable operating income a reporting unit could generate in a perpetual state as a function of revenue growth, inflation and future margin expectations. Future events and changing market conditions may, however, lead us to re-evaluate the assumptions we have used to test for goodwill impairment, including key assumptions used in our expected EBITDA margins and cash flows, as well as other key assumptions with respect to matters out of our control, such as discount rates and market multiple comparables.Goodwill impairment test As ofDecember 31, 2019 , goodwill allocated to our CTP, DPG, and FMP segments was approximately$2.6 million ,$140.7 million , and$167.7 million , respectively. In connection with our annual goodwill impairment test, we performed a quantitative assessment for each reporting unit as ofOctober 1, 2019 , utilizing a combination of the income and market approaches, the results of which we weighted evenly. No impairment was indicated as the fair value of each reporting unit exceeded its respective carrying value. In the fourth quarter of 2019, the FMP reporting unit did not perform in-line with internal expectations, driven by several operational inefficiencies, which we identified as an indicator of impairment. As a result, we performed an interim quantitative assessment as ofDecember 31, 2019 , utilizing a combination of the income and market approaches, which we weighted evenly. No impairment was indicated as the fair value of the reporting unit exceeded its carrying value. The results of the quantitative analysis performed indicated the fair value of the FMP reporting unit exceeded the carrying value by approximately 3%. Key assumptions used in the analysis were a discount rate of 16.0%, EBITDA margin, and a terminal growth rate of 3.0%. Since the acquisition of Supreme in 2017, which is when we added the FMP reporting unit, we have invested, and intend to continue to invest, in growth and productivity initiatives that will drive strong future profitability. While the financial benefits from these initiatives have not materialized as quickly as anticipated and thus have resulted in lower than projected post-acquisition EBITDA for the reporting unit, we continue to believe these projects will result in significant future earnings. Future events and changing market conditions may, however, lead us to re-evaluate the assumptions we have used to test for goodwill impairment, including key assumptions used in our expected EBITDA margins and cash flows, as well as other key assumptions with respect to matters out of our control, 38
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such as discount rates and market multiple comparables. Based on the results of the interim quantitative test, we performed sensitivity analysis around the key assumptions used in the analysis, the results of which were: (a) a 100 basis point decrease in the EBITDA margin used to determine expected future cash flows would have resulted in an impairment of approximately$19.5 million , (b) a 50 basis point increase in the discount rate would have resulted in an impairment of approximately$5.0 million , and (c) a 100 basis point decrease in the terminal growth rate would have resulted in an impairment of approximately$5.4 million . Subsequent impairment indicators Subsequent toDecember 31, 2019 , the Company's market capitalization has declined, which may be an indicator of impairment. We believe this decline in our market capitalization is primarily due to softer trailer production estimates from ACT and FTR for 2020 and 2021 compared to 2019. The Company will continue to assess the impact of its market capitalization and any other indicators of potential impairment. It is possible that if the Company's market capitalization decline is more than temporary, or if other indicators of impairment are identified, an interim impairment analysis may be necessary, which could result in an impairment of goodwill. Other Inflation Inflation impacts prices paid for labor, materials and supplies. Significant increases in the costs of production or certain commodities, raw materials, and components could have an adverse impact on our results of operations. As has been our practice, we will endeavor to offset the impact of inflation through selective price increases, productivity improvements and hedging activities. New Accounting Pronouncements For information related to new accounting standards, see Note 3 of the Notes to Consolidated Financial Statements in Part II Item 8 of this Form 10-K.
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