REV GROUP, INC. You should read the following discussion and analysis of our financial condition and results of operations together with our consolidated financial statements and the related notes appearing elsewhere in this Annual Report on Form 10-K. Some of the information contained in this discussion and analysis or set forth elsewhere in this Annual Report on Form 10-K, including information with respect to our plans and strategy for our business and related financing, includes forward-looking statements that involve risks and uncertainties. You should read the "Cautionary Statement About Forward-Looking Statements" and "Risk Factors" sections of this Annual Report on Form 10-K for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
This discussion and analysis should be read in conjunction with the accompanying audited and unaudited consolidated financial statements and related notes appearing elsewhere in this Annual Report on Form 10-K.
Overview
REV is a leading designer, manufacturer and distributor of specialty vehicles and related aftermarket parts and services. We provide customized vehicle solutions for applications including: essential needs (ambulances, fire apparatus, school buses and municipal transit buses), industrial and commercial (terminal trucks, cut-away buses and sweepers) and consumer leisure (RVs and luxury buses). Our brand portfolio consists of 29 well-established principal vehicle brands including many of the most recognizable names within our served markets. Several of our brands pioneered their specialty vehicle product categories and date back more than 50 years. We believe that in most of our markets we hold the first or second market share position and approximately 62% of our net sales during fiscal year 2019 came from products where we believe we hold such share positions. Segments
We serve a diversified customer base primarily in
Fire & Emergency - The Fire & Emergency segment sells fire apparatus equipment under the Emergency One (E-ONE),Kovatch Mobile Equipment (KME) and Ferrara brands and ambulances under the American Emergency Vehicles (AEV), Horton Emergency Vehicles (HEV), Leader Emergency Vehicles (LEV), Marque,McCoy Miller , Road Rescue, Wheeled Coach and Frontline brands. We believe we are the largest manufacturer by unit volume of fire and emergency vehicles inthe United States and have one of the industry's broadest portfolios of products including Type I ambulances (aluminum body mounted on a heavy truck-style chassis), Type II ambulances (van conversion ambulance typically favored for non-emergency patient transportation), Type III ambulances (aluminum body mounted on a van-style chassis), pumpers (fire apparatus on a custom or commercial chassis with a water pump and small tank to extinguish fires), ladder trucks (fire apparatus with stainless steel or aluminum ladders), tanker trucks and rescue and other vehicles. Each of our individual brands is distinctly positioned and targets certain price and feature points in the market such that dealers often carry, and customers often buy more than one REV Fire & Emergency product line. 39
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Commercial - Our Commercial segment serves the bus market through the following principal brands:Collins Bus , Goshen Coach, ENC, ElDorado National, Federal Coach, Champion and World Trans. We serve the terminal truck market through the Capacity brand and the sweeper market through the Lay-Mor brand. Our products in the Commercial segment include cut-away buses (customized body built on various types and sizes of commercial chassis), transit buses (large municipal buses where we build our own chassis and body), luxury buses (bus-style limo or high-end luxury conversions), Type A school buses (small school bus built on commercial chassis), sweepers (three- and four-wheel versions used in road construction activities), and terminal trucks (specialized vehicles which move freight in warehouses or intermodal yards and ports). Within each market segment, we produce many customized configurations to address the diverse needs of our customers. Recreation - Our Recreation segment serves the RV market through seven principal brands: American Coach, Fleetwood RV, Monaco Coach, Holiday Rambler, Renegade, Midwest and Lance. We believe our brand portfolio contains some of the longest standing, most recognized brands in the RV industry. Under these brands, REV provides a variety of highly recognized motorized and towable RV models such as: American Eagle, Bounder,Pace Arrow , Verona, Weekender and Lance, among others. Our products in the Recreation segment include Class A motorized RVs (motorhomes built on a heavy duty chassis with either diesel or gas engine configurations), Class C and "Super C" motorized RVs (motorhomes built on a commercial truck or van chassis), ClassB RVs (motorhomes built out within a van chassis), and towable travel trailers and truck campers. The Recreation segment also includes Goldshield Fiberglass, which produces a wide range of custom molded fiberglass products for the heavy-duty truck, RV and broader industrial markets.
Factors Affecting Our Performance
The primary factors affecting our results of operations include:
General Economic Conditions
Our business is impacted by theU.S. economic environment, employment levels, consumer confidence, municipal spending, municipal tax receipts, changes in interest rates and instability in securities markets around the world, among other factors. In particular, changes in theU.S. economic climate can impact demand in key end markets. In addition, the impact of tariffs can have a dramatic effect on the availability, lead-times and costs associated with raw materials and parts. RV purchases are discretionary in nature and therefore sensitive to the availability of financing, consumer confidence, unemployment levels, levels of disposable income and changing levels of consumer home equity, among other factors. RV markets are affected by generalU.S. and global economic conditions, which create risks that future economic downturns will further reduce consumer demand and negatively impact our sales. While less economically sensitive than the Recreation segment, the Fire & Emergency segment and the Commercial segment are also impacted by the overall economic environment. Local tax revenues are an important source of funding for fire and emergency response departments. Fire and emergency products and buses are typically a larger cost item for municipalities and their service life is relatively long, making the purchase more deferrable, which can result in reduced demand for our products. A decrease in employment levels, consumer confidence or the availability of financing, or other adverse economic events, or the failure of actual demand for our products to meet our estimates, could negatively affect the demand for our products. Any decline in overall customer demand in markets in which we operate could have a material adverse effect on our operating performance.
Impact of Acquisitions
Historically, a significant component of our growth has been through
acquisitions of businesses. We typically incur upfront costs as we integrate
acquired businesses and implement our operating philosophy at newly acquired
companies, including consolidation of supplies and materials, purchases,
improvements to production processes, and other restructuring initiatives. The
benefits of these integration efforts may not positively impact our financial
results until subsequent periods.
We recognize acquired assets and liabilities at fair value. This includes the
recognition of identified intangible assets and goodwill which, in the case of
definite-life intangible assets, are then amortized over their expected useful
lives, which typically results in an increase in amortization expense. In
addition, assets acquired and liabilities assumed generally include tangible
assets, as well as contingent assets and liabilities.
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Table of Contents Results of Operations
The following table compares results for fiscal years 2019, 2018 and 2017
Fiscal Year Ended
October 31, October 31, October 31,
(in millions except per share data) 2019 2018 2017
Net sales $ 2,403.7 $ 2,381.3 $ 2,267.8
Gross profit 251.8 278.0 294.6
Operating income 15.9 27.8 82.7
Net (loss) income (12.3 ) 13.0 31.4
(Loss) income per share of common stock
Basic $ (0.20 ) $ 0.20 $ 0.52
Diluted $ (0.20 ) $ 0.20 $ 0.50
Dividends declared per common share $ 0.20 $ 0.20 $ 0.15
Adjusted EBITDA $ 102.1 $ 148.0 $ 162.5
Adjusted Net Income $ 30.0 $ 72.7 $ 75.8
Net Sales . Consolidated net sales were $2,403.7 million , $2,381.3 million and
$2,267.8 million for fiscal years 2019, 2018 and 2017, respectively, an increase
of $22.4 million , or 0.9% from fiscal year 2018 to 2019, and an increase of
$113.5 million , or 5.0%, from fiscal year 2017 to 2018.
The increase in consolidated net sales for fiscal year 2019 compared to fiscal
year 2018 was primarily due to an increase in net sales in the Fire & Emergency
and Commercial segments, partially offset by a decrease in net sales in the
Recreation segment. The increase in Commercial net sales compared to the prior
year period was primarily due to a broad-based increase in most of the segment's
product categories. Sales of school and transit buses as well as terminal trucks
were all higher in fiscal year 2019 as compared to fiscal year 2018. Growth
drivers include new models and end market strength in the Class A school bus
product line and the delivery against a larger municipal transit bus order. The
increase in Fire & Emergency net sales compared to the prior year period was
primarily due to the impact of unit mix and slightly higher shipments of fire
trucks, partially offset by a decrease in shipments of ambulances. The decrease
in Recreation segment net sales in fiscal year 2019 compared to fiscal year 2018
was primarily due to a decrease in shipment volumes of Class A motorhomes,
partially offset by delivering on existing backlogs in our other RV categories.
Gross Profit. Consolidated gross profit was $251.8 million , $278.0 million and
$294.6 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of
$26.2 million , or 9.4% from fiscal year 2018 to 2019, and a decrease of
$16.6 million , or 5.6% from fiscal year 2017 to 2018. Consolidated gross profit,
as a percentage of net sales, was 10.5%, 11.7% and 13.0% for fiscal years 2019,
2018 and 2017, respectively.
The reduction in gross profit in fiscal year 2019 compared to fiscal year 2018
was primarily due to a reduction in gross profit in the Fire & Emergency and
Recreation segments, partially offset by an improvement in gross profit in the
Commercial segment. Gross profit in the Fire & Emergency segment was negatively
impacted by initial production inefficiencies associated with the increase in
capacity and ramp up of production at our largest fire truck facility and
inefficiencies associated with timing of incoming orders at our largest
Ambulance facility. The decrease in gross profit in the Recreation segment was
primarily due to lower shipments and pricing of Class A motorhomes. The
improvement in gross profit in the Commercial segment was primarily due to
increased shipments of higher margin transit and school buses, and operational
improvements within the Commercial segment resulting from implementation of the
REV Production System (RPS).
The decrease in consolidated gross profit for fiscal year 2018 compared to
fiscal year 2017 was due to overall increases in material costs resulting
directly and indirectly from tariffs, an increase in labor and overhead costs
resulting from labor inefficiencies at certain of our plants in the fire
division, an increase in labor and overhead costs resulting from chassis supply
disruption and a product mix shift in ambulance toward lower content Type II
units, product mix shift from higher content transit buses to lower margin
shuttle buses and mobility vans.
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Operating Income. Consolidated operating income was$15.9 million ,$27.8 million and$82.7 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$11.9 million , or 42.8%, from fiscal year 2018 to 2019, and a decrease of$54.9 million , or 66.4%, from fiscal year 2017 to 2018. The decrease in consolidated operating income in fiscal year 2019 compared to fiscal year 2018 was primarily due to the decrease in gross profit described above, along with higher legal costs driven by settlement activity, higher stock compensation and insurance costs, and the impact of the acquisition of Lance inJanuary 2018 , partially offset by a decrease in non-cash impairment charges. The decrease in consolidated operating income for fiscal year 2018 compared to fiscal year 2017 was primarily due to the decrease in gross profit and non-cash impairment charges associated with divestitures of certain underperforming assets and the decreases in gross profit described above. Net Income. Consolidated net (loss) income was($12.3) million ,$13.0 million and$31.4 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$25.3 million , or 194.6%, from fiscal year 2018 to 2019, and a decrease of$18.4 million , or 58.6%, from fiscal year 2017 to 2018. Consolidated net (loss) income for fiscal year 2019 decreased compared to fiscal year 2018 primarily due to the decrease in operating income described above, an increase in interest expense, and a lower tax benefit as compared to the prior year. The decrease in the Company's tax benefit, relative to the prior fiscal year, relates primarily to the prior year revaluation of net deferred tax liabilities as a result ofU.S. tax reform. Consolidated net income for fiscal year 2018 decreased compared to fiscal year 2017 primarily due to the decrease in operating income, partially offset by tax benefits recorded due to a decrease in theU.S. tax rate and revaluation of net deferred tax liabilities, both as a result of tax legislation inthe United States . Adjusted EBITDA. Consolidated Adjusted EBITDA was$102.1 million ,$148.0 million and$162.5 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$45.9 million , or 31.0%, from fiscal year 2018 to 2019, and a decrease of$14.5 million , or 8.9%, from fiscal year 2017 to 2018. The decrease in consolidated Adjusted EBITDA for fiscal year 2019 compared to fiscal year 2018 was due to lower Adjusted EBITDA in the Fire &Emergency and Recreation segments, offset by higher Adjusted EBITDA in the Commercial segment. The decrease in consolidated Adjusted EBITDA for fiscal year 2018 compared to fiscal year 2017 was due to lower Adjusted EBITDA in the Fire & Emergency and Commercial segments, offset by higher Adjusted EBITDA in the Recreation segment. Excluding acquisitions, consolidated Adjusted EBITDA decreased 23.7% for fiscal year 2018 compared to fiscal year 2017.
Refer to the "Adjusted EBITDA and Adjusted Net Income" section of "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of this Annual Report on Form 10-K for a reconciliation of Net Income (Loss) to Adjusted EBITDA tables and related footnotes.
Adjusted Net Income. Consolidated Adjusted Net Income was
Refer to the "Adjusted EBITDA and Adjusted Net Income" section of "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of this Annual Report on Form 10-K for a reconciliation of Net Income (Loss) to Adjusted Net Income tables and related footnotes.
Fire & Emergency Segment
Fiscal Year Ended
October 31, October 31, October 31,
(in millions) 2019 2018 2017
Net sales $ 967.9 $ 956.6 $ 984.0
Adjusted EBITDA 43.2 86.0 109.5
Adjusted EBITDA % of net sales 4.5 % 9.0 %
11.1 %
Net Sales . Fire & Emergency segment net sales were $967.9 million , $956.6
million and $984.0 million for fiscal years 2019, 2018 and 2017, respectively,
an increase of $11.3 million , or 1.2%, from fiscal year 2018 to 2019, and a
decrease of $27.4 million , or 2.8%, from fiscal year 2017 to 2018. The increase
in Fire & Emergency segment net sales in fiscal year 2019 as compared to fiscal
year 2018 was primarily due to an increase in the volume of fire truck shipments
and improved pricing on fire trucks and ambulances, partially offset by a
decrease in the volume of ambulance shipments and a mix of fire trucks.
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The decrease in Fire & Emergency segment net sales for fiscal year 2018 compared to fiscal year 2017 was due to decreases in sales of certain fire apparatus caused by labor inefficiencies and decreases in sales of ambulance units caused by chassis supply disruption which impacted the timing of shipments. Excluding the impact of the Ferrara acquisition, Fire & Emergency segment net sales decreased 7.6% in fiscal year 2018 compared to the prior year. Adjusted EBITDA. Fire & Emergency segment Adjusted EBITDA was$43.2 million ,$86.0 million and$109.5 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$42.8 million , or 49.8%, from fiscal year 2018 to 2019, and a decrease of$23.5 million , or 21.5%, from fiscal year 2017 to 2018. Profitability in the Fire & Emergency segment in fiscal year 2019 was negatively impacted primarily by the results of the Fire business units and one of the Ambulance business units. Profitability at the largest Fire business unit was negatively impacted by additional labor costs associated with staffing and training for its production ramp. Profitability at the largest Ambulance business unit was negatively impacted by the timing of incoming orders that affected its production flow and that resulted in production and supply chain inefficiencies, slightly offset by improved pricing. Profitability within the segment was also impacted by unusually high healthcare cost experienced during the fiscal year. The decrease in Adjusted EBITDA for fiscal year 2018 compared to fiscal year 2017 was primarily due to an increase in labor and overhead costs resulting from labor inefficiencies in the Fire division, an increase in labor and overhead resulting from chassis supply disruption and a product mix shift in ambulance toward lower content Type II units. Excluding the impact of the Ferrara acquisition, Fire & Emergency segment Adjusted EBITDA decreased 24.4% compared to the prior year. Commercial Segment Fiscal Year Ended October 31, October 31, October 31, (in millions) 2019 2018 2017 Net sales$ 720.0 $ 638.5 $ 620.1 Adjusted EBITDA 56.0 38.1 50.5
Adjusted EBITDA % of net sales 7.8 % 6.0 %
8.1 %
Net Sales . Commercial segment net sales were $720.0 million , $638.5 million and
$620.1 million for fiscal years 2019, 2018 and 2017, respectively, an increase
of $81.5 million , or 12.8%, from fiscal year 2018 to 2019, and $18.4 million , or
3.0%, from fiscal year 2017 to 2018. The increase in net sales for fiscal year
2019 compared to fiscal year 2018 was primarily due to an increase in volume of
school and transit bus shipments, and the mix benefit of one larger municipal
transit bus order, partially offset by lower volume and higher discounting on
shuttle buses and the impact of the sale of our mobility van business in the
first quarter of fiscal year 2019.
The increase in net sales for fiscal year 2018 compared to fiscal year 2017 was primarily due to increases in sales of shuttle bus units, parts sales and mobility vans, partially offset by lower school and transit bus unit volume compared to the prior year.
Adjusted EBITDA. Commercial segment Adjusted EBITDA was$56.0 million ,$38.1 million and$50.5 million for fiscal years 2019, 2018 and 2017, respectively, an increase of$17.9 million , or 47.0%, from fiscal year 2018 to 2019, and a decrease of$12.4 million , or 24.6%, from fiscal year 2017 to 2018. Profitability in the Commercial segment in fiscal year 2019 improved compared to the prior year period, primarily due to an increase in the volume of higher margin transit and school bus shipments, production efficiencies associated with our larger municipal transit bus order, and operational improvements supported by the implementation of RPS throughout the segment, offset by unusually high healthcare cost experienced during the fiscal year. The decrease in Adjusted EBITDA for fiscal year 2018 compared to fiscal year 2017 was primarily due to product mix shift from higher content and higher margin transit and school buses to lower margin shuttle buses and mobility vans, and higher material costs, partially offset by pricing actions. Recreation Segment Fiscal Year Ended October 31, October 31, October 31, (in millions) 2019 2018 2017 Net sales$ 716.3 $ 811.9 $ 659.8 Adjusted EBITDA 46.8 60.4 36.2
Adjusted EBITDA % of net sales 6.5 % 7.4 %
5.5 %
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Table of ContentsNet Sales . Recreation segment net sales were$716.3 million ,$811.9 million and$659.8 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$95.6 million , or 11.8%, from fiscal year 2018 to 2019, and an increase of$152.1 million , or 23.1%, from fiscal year 2017 to 2018. The decrease in net sales in fiscal year 2019 compared to fiscal year 2018 was primarily due to a decrease in shipment volumes of Class A motorhomes, partially offset by an increase in towable and camper sales resulting from the acquisition of Lance inJanuary 2018 and an increase in ClassB RV shipments. The increase in net sales for fiscal year 2018 compared to fiscal year 2017 was due to the acquisition of Lance as well as higher volumes in all classes of RVs except Class A. Excluding the impact of net sales from acquired companies, Recreation segment net sales increased 0.3% compared to the prior year. Adjusted EBITDA. Recreation segment Adjusted EBITDA was$46.8 million ,$60.4 million and$36.2 million for fiscal years 2019, 2018 and 2017, respectively, a decrease of$13.6 million , or 22.5%, from fiscal year 2018 to 2019, and an increase of$24.2 million , or 66.9%, from fiscal year 2017 to 2018. The reduction in profitability in the Recreation segment compared to prior year was primarily driven by a decrease in shipment volume of Class A motorhomes. Profitability in the other RV categories within the Recreation segment continued to be strong and was in line with the prior year. Profitability within the segment was also impacted by unusually high healthcare cost experienced during the fiscal year. The increase in Adjusted EBITDA for fiscal year 2018 compared to fiscal year 2017 was primarily due to impact of the acquisition of Lance and higher profitability in all classes of RVs except Class A. This increase was partially offset by higher purchased material costs and lower sales volumes of Class A RVs. Excluding the impact of net sales from acquired companies, Recreation segment Adjusted EBITDA increased 9.1% compared to the prior year.
Backlog
Backlog represents firm orders received from dealers or directly from end customers. Backlog does not include purchase options or verbal orders. The following table presents a summary of our backlog by segment:
Increase (Decrease)
October 31, October 31,
2019 2018 $ %
Fire & Emergency $ 832.7 $ 707.5 $ 125.2 17.7 %
Commercial 317.3 381.4 (64.1 ) (16.8 )%
Recreation 167.0 290.7 (123.7 ) (42.6 )%
Total Backlog $ 1,317.0 $ 1,379.6 $ (62.6 ) (4.5 )%
Each of our three segments has a backlog of new vehicle orders that generally extends out from two to twelve months in duration.
Orders from our dealers and end customers are evidenced by a contract, firm purchase order or reserved production slot for delivery of one or many vehicles. These orders are reported in our backlog at the aggregate selling prices, net of discounts or allowances. At the end of fiscal year 2019, our backlog was$1,317.0 million , compared to$1,379.6 million at the end of fiscal year 2018. The reduction in total backlog was due to decreases in Recreation and Commercial segment backlogs, partially offset by an increase in the Fire & Emergency segment. The decrease in Recreation backlog was across all product categories. The decrease in Commercial backlog was due to delivery of one large municipal transit bus order during the year, timing of the receipt of new larger bus orders, decreases in school bus and terminal truck orders, partially offset by an increase in shuttle bus orders. The increase in Fire & Emergency backlog was primarily due to an increase in orders across all the fire truck brand categories, the timing of fire truck shipments, and an increase in orders at our largest ambulance business unit. 44
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Quarterly Results of Operations (Unaudited)
The following table sets forth selected unaudited quarterly statement of
operations data for each of the quarters in fiscal years 2019 and 2018. The
information for each of these quarters has been prepared on the same basis as
our audited financial statements included elsewhere in this Annual Report on
Form 10-K and, in the opinion of management, includes all adjustments, which
include only normal recurring adjustments, necessary for the fair presentation
of the results of operations for these periods in accordance with GAAP. This
data should be read in conjunction with our audited financial statements and
related notes included elsewhere in this Annual Report on Form 10-K. These
quarterly operating results are not necessarily indicative of our operating
results for a full year or any future period.
Quarter Ended
October 31, July 31, April 30, January 31, October 31, July 31, April 30, January 31,
(in millions) 2019 2019 2019 2019 2018 2018 2018 2018
Net sales $ 652.9 $ 617.0 $ 615.0 $ 518.7 $ 659.8 $ 597.7 $ 608.9 $ 514.9
Gross profit 61.7 71.3 72.4 46.3 73.1 79.5 72.9 52.6
Operating (loss) income (5.0 ) 15.9 16.1 (11.2 ) (18.3 ) 28.9 16.4 1.0
Net (loss) income (9.0 ) 5.6 5.6 (14.6 ) (22.0 ) 18.3 7.4 9.4
Depreciation and amortization 10.7 10.9 11.6 12.2 12.1 11.7 11.1 11.0
Interest expense, net 8.2 8.4 8.0 7.8 7.2 6.8 6.1 5.4
(Benefit) provision for income
taxes (3.5 ) 1.9 2.5 (4.4 ) (5.0 ) 3.8 2.9 (13.8 )
EBITDA 6.4 26.8 27.7 1.0 (7.7 ) 40.6 27.5 12.0
Transaction expenses(a) 0.3 0.5 - 0.2 0.7 - 0.5 1.5
Sponsor expenses(b) 0.8 - 0.1 0.5 0.4 0.2 0.1 0.2
Restructuring costs(c) 1.5 1.3 1.8 1.1 0.2 0.9 1.9 4.1
Stock-based compensation
expense(d) (0.1 ) 2.5 3.4 1.4 1.2 1.4 1.9 1.8
Non-cash purchase accounting(e) - - - - - 0.5 - 0.6
Legal matters(f) 2.3 0.8 2.4 2.1 2.8 1.1 0.2 0.7
First year public company
costs(g) - - - - - 1.0 - -
Impairment charges(h) 6.1 - 0.1 2.7 35.6 - - -
Losses attributable to assets
held for sale(i) 1.4 1.0 - 1.7 4.3 - - -
Deferred purchase price
payment(j) 0.6 0.6 0.6 1.6 1.9 1.9 1.9 0.4
Adjusted EBITDA $ 19.3 $ 33.5 $ 36.1 $ 12.3 $ 39.4 $ 47.6 $ 34.0 $ 21.3
(Loss) income per common share:
Basic $ (0.14 ) $ 0.09 $ 0.09 $ (0.23 ) $ (0.35 ) $ 0.29 $ 0.12 $ 0.15
Diluted $ (0.14 ) $ 0.09 $ 0.09 $ (0.23 ) $ (0.35 ) $ 0.28 $ 0.11 $ 0.14 (a) Reflects costs incurred in connection with business acquisitions,
divestitures and capital market transactions. These expenses consist
primarily of legal, accounting, due diligence, and one-time post-acquisition
expenses in addition to costs related to offerings of our common stock.
(b) Reflects the reimbursement of expenses to the Company's primary equity
holder.
(c) Restructuring expenses for fiscal year 2019 consisted of personnel costs,
including severance, vacation and other employee benefit payments as well as
facility closure and lease termination costs.
Restructuring expenses for fiscal year 2018 represent costs incurred to restructure certain management positions in the Fire & Emergency,Commercial and Recreation segments, our corporate office, as well as to relocate our ClassB RV production. Costs incurred in the current year consisted of personnel costs, including severance, vacation and other employee benefit payments as well as facility closure and lease termination costs.
(d) Reflects expenses associated with the redemption of stock options and vesting
of restricted and performance stock units.
(e) Reflects the amortization of the difference between the book value and fair
market value of certain acquired inventory that was subsequently sold after
the acquisition date.
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(f) Reflects legal fees and costs incurred to litigate and settle legal claims
against us which are outside the normal course of business. Current year
costs include payments: (i) to settle certain claims arising from a putative
employee class action in the state of
litigate and settle non-ordinary course product, intellectual property and
employment disputes and (iii) for fees and costs to litigate the putative
securities class actions and derivative action pending against us and certain
of our directors and officers.
(g) Reflects one-time consulting and audit fees associated with the design and
implementation of internal controls over financial reporting to comply with
the provisions of the Sarbanes-Oxley Act.
(h) Reflects non-cash impairment charges related to both the assets held for sale
and other assets that management intends to monetize or are otherwise
impaired including our rental fleet, inventory from discontinued product
lines and certain information system assets. Refer to Note 6, "Divestiture
Activities," to our 2019 audited consolidated financial statements appearing
elsewhere in this Annual Report on Form 10-K.
(i) Losses attributable to businesses that are or were classified as assets held
for sale during the respective period.
(j) Reflects the expense associated with the deferred purchase price payment owed
to sellers of Lance, who are now employees of the Company. The Company made a
payment of
date and may make another payment of
date from the acquisition date, subject to conditions in the purchase
agreement.
Liquidity and Capital Resources
General
Our primary requirements for liquidity and capital are working capital, the acquisition of machinery and equipment, the acquisition and construction of manufacturing facilities, the improvement and expansion of existing manufacturing facilities, debt service payments, regular quarterly dividend payments, general corporate needs, and common stock repurchases under the Company's authorized stock buyback program. Historically, these cash requirements have been met through cash provided by operating activities, cash and cash equivalents and borrowings under our term loan and revolving credit facility. We believe that our sources of liquidity and capital will be sufficient to finance our continued operations, growth strategy, cash dividends and additional expenses we expect to continue to incur as a public company. However, we cannot assure you that cash provided by operating activities and borrowings under the current revolving credit facility will be sufficient to meet our future needs. If we are unable to generate sufficient cash flows from operations in the future, and if availability under the current revolving credit facility is not sufficient due to the size of our borrowing base or other external factors, we may have to obtain additional financing. If additional capital is obtained by issuing equity, the interests of our existing stockholders will be diluted. If we incur additional indebtedness, that indebtedness may contain financial and other covenants that may significantly restrict our operations or may involve higher overall interest rates. We cannot assure you that we will be able to obtain refinancing or additional financing on favorable terms or at all.
Cash Flow
The following table shows summary cash flows for fiscal years 2019, 2018 and
2017:
Fiscal Years Ended
October 31, October 31, October 31,
2019 2018 2017
Net cash provided by (used in) operating
activities $ 52.5 $ (19.2 ) $ 33.2
Net cash provided by (used in) investing
activities 0.2 (119.6 ) (229.1 )
Net cash (used in) provided by financing
activities (61.3 ) 132.9 202.9
Net (decrease) increase in cash and cash
equivalents $ (8.6 ) $ (5.9 ) $ 7.0
Net Cash Provided by (Used in) Operating Activities
Net cash provided by operating activities for fiscal year 2019 was$52.5 million , compared to net cash used of$19.2 million for fiscal year 2018. The increase in cash provided by operating activities for fiscal year 2019 compared to the prior year was due to improved net working capital efficiency, offset by a decrease in net income. 46
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Net cash used in operating activities for fiscal year 2018 was$19.2 million , compared to net cash provided of$33.2 million for fiscal year 2017. The increase in cash used in operating activities for fiscal year 2018 compared to the prior year was primarily due to an increase in working capital levels and a decrease in net income.
Net Cash Provided by (Used in) Investing Activities
Net cash provided by investing activities for fiscal year 2019 of$0.2 million was primarily due to the sale of targeted assets, partially offset by cash used for capital expenditures.
Net cash used in investing activities for fiscal year 2018 of
Net cash used in investing activities for fiscal year 2017 of$229.1 million was primarily due to business acquisition activity and capital expenditures. In fiscal year 2017, the Company completed the acquisitions of Renegade, Midwest and Ferrara.
Net cash used in financing activities for fiscal year 2019 was$61.3 million , which primarily consisted of net paydown of debt from ourApril 2017 ABL Facility and Term Loan. During fiscal year 2019, the Company paid cash dividends of$12.5 million . Net cash provided by financing activities for fiscal year 2018 was$132.9 million , which primarily consisted of net borrowings from ourApril 2017 ABL Facility and incremental Term Loan of$50.0 million to fund the acquisition of Lance, working capital requirements, and our share repurchase program. During fiscal year 2018, the Company paid cash dividends of$12.8 million . Net cash provided by financing activities for fiscal year 2017 was$202.9 million , which primarily consisted of net proceeds from our IPO offset by the use of those proceeds to redeem our Notes, and further net borrowings from theApril 2017 ABL Facility and Term Loan to support acquisitions and working capital requirements. During fiscal year 2017, the Company paid cash dividends of$6.4 million . Capital Expenditures
Capital expenditures for fiscal year 2020, excluding any acquisitions, are
estimated to be in the range of
Offering of Common Stock
OnJanuary 26, 2017 , the Company announced an initial public offering ("IPO") of our common stock which began trading on theNew York Stock Exchange under the ticker symbol "REVG". OnFebruary 1, 2017 , the Company completed the offering of 12,500,000 shares of common stock at a price of$22.00 per share and the Company received$275.0 million in gross proceeds from the IPO, or$253.6 million in net proceeds after deducting the underwriting discount and expenses related to the offering. The net proceeds of the IPO were used to partially pay down the Company's existing debt. The Company redeemed the entire outstanding balance of its Notes, including a prepayment premium and accrued interest, plus it partially paid down the then outstanding balance of its revolving credit facility.
Dividends
OnDecember 18, 2019 , our Board of Directors declared a cash dividend of$0.05 per share on our common stock, payable in respect of the first quarter of fiscal year 2020. The dividend is payable onFebruary 28, 2020 to holders of record as ofJanuary 31, 2020 . Subject to legally available funds and the discretion of our Board of Directors, we expect to pay a quarterly cash dividend at the rate of$0.05 per share on our common stock. We expect to pay this quarterly dividend on or about the last day of the first month following each fiscal quarter to shareholders of record on the last day of such fiscal quarter. Our dividend policy has certain risks and limitations, particularly with respect to liquidity, and we may not pay dividends according to our policy, or at all. We cannot assure you that we will declare dividends or have sufficient funds to pay dividends on our common stock in the future. 47
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Table of Contents Stock Repurchase Program OnMarch 20, 2018 the Company's Board of Directors authorized up to$50.0 million of repurchases of the Company's issued and outstanding common stock with an expiration date ofMarch 19, 2020 . OnSeptember 5, 2018 the Company's Board of Directors authorized an additional$50.0 million of repurchases of the Company's issued and outstanding common stock with an expiration date ofSeptember 4, 2020 . The Company's share repurchase program is executed from time to time through open market or through private transactions. Shares purchased under the share repurchase program are retired and returned to authorized and unissued status. During fiscal year 2018, the Company repurchased 3,233,352 shares under this repurchase program at a total cost of$53.3 million at an average price per share of$16.47 . During fiscal year 2019, the Company repurchased 717,597 shares under this repurchase program at a total cost of$8.3 million at an average price per share of$11.62 . As ofOctober 31, 2019 , the Company had$38.3 million of authorization remaining under this program.
Term Loan
OnApril 25, 2017 , we entered into a$75.0 million term loan ("Term Loan" or "Term Loan Agreement") and incurred$2.0 million in debt issuance costs. The Term Loan Agreement expires onApril 25, 2022 . Certain subsidiaries of the Company are guarantors under the Term Loan. OnJuly 18, 2018 the Company exercised a$50.0 million incremental commitment option under the Term Loan Agreement, which increased total borrowing under the facility from$75.0 million to$125.0 million . The Company incurred an additional$0.6 million of debt issuance costs related to the incremental commitment option under the Term Loan. Proceeds from the increase in the Term Loan were used to repay a portion of the borrowings under theApril 2017 ABL Facility. OnMarch 29, 2019 , the Company exercised an additional$50.0 million incremental commitment option under the Term Loan Agreement, which increased total borrowing under the facility from$125.0 million to$175.0 million . The Company incurred an additional$0.8 million of debt issuance costs related to the incremental commitment option under the Term Loan. Proceeds from the incremental commitment were used to repay a portion of the outstanding borrowings under theApril 2017 ABL Facility. OnOctober 18, 2019 , the Company amended the Term Loan Agreement to raise the maximum leverage ratio to 4.00 to 1.00 from 3.50 to 1.00. The ratio will decline by 25 basis points in the third quarter of each fiscal year after the amendment date, reaching a final maximum leverage ratio of 3.50 to 1.00 onJuly 31, 2021 . Additionally, the Company received a waiver from a majority of the lenders related to the excess cash flow payment for fiscal year 2019. The Company incurred$0.2 million of debt issuance costs related to the amendment raising the maximum leverage ratio and the waiver for the excess cash flow payment under the Term Loan Agreement. The Company may voluntarily prepay principal, in whole or in part, at any time, without penalty. The Company is obligated to prepay certain minimum amounts based on the Company's excess cash flow, as defined in the Term Loan Agreement. We were not required to make any such excess cash flow payments in fiscal year 2019. The Term Loan is also subject to mandatory prepayment if the Company or any of its restricted subsidiaries receives proceeds from certain events, including certain asset sales and casualty events, and the issuance of certain debt and equity interests. We were in compliance with all financial covenants under the Term Loan as ofOctober 31, 2019 .
OnApril 25, 2017 , we entered into a new$350.0 million ABL revolving credit agreement with a syndicate of lenders (the "April 2017 ABL Facility" or "ABL Agreement"). TheApril 2017 ABL Facility provides for revolving loans and letters of credit in an aggregate amount of up to$350.0 million . The totalApril 2017 ABL Facility is subject to a$30.0 million sublimit for swing line loans and a$35.0 million sublimit for letters of credit, along with certain borrowing base and other customary restrictions as defined in the ABL Agreement. TheApril 2017 ABL Facility expires onApril 25, 2022 .
On
Principal may be repaid at any time during the term of the ABL Agreement without penalty. TheApril 2017 ABL Facility contains certain financial covenants. We were in compliance with all financial covenants under theApril 2017 ABL Facility as ofOctober 31, 2019 . As ofOctober 31, 2019 , our availability under theApril 2017 ABL Facility was$225.7 million . 48
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Table of Contents Subsequent Events The Company evaluated subsequent events throughDecember 18, 2019 , the date on which the financial statements were available to be issued, and determined there were no items to disclose. Contractual Obligations
The below table of material debt and lease commitments at
(in millions) 2020 2021 2022 2023 2024 Thereafter Total Long-term debt(a)$ 3.6 $ 1.8 $ 377.0 $ - $ - $ -$ 382.4 Interest(b) 17.3 16.2 7.7 - - - 41.2 Operating leases 8.5 7.5 5.8 3.3 1.5 0.1 26.7 Purchasing obligations(c) 9.5 8.9 8.9 - - - 27.3 Total commitments(d)$ 38.9 $ 34.4 $ 399.4 $ 3.3 $ 1.5 $ 0.1 $ 477.6
(a) Includes estimated principal payments due under our Term Loan and the April
2017 ABL Facility as of
(b) Based on interest rates in effect as of
(c) Includes obligations under non-cancellable purchase orders for raw materials
or chassis as of
(d) Unrecognized tax benefits totaling
excluding related interests and penalties, are not included in the table
because the timing of their resolution cannot be estimated. See Note 15 to
our 2019 audited consolidated financial statements appearing elsewhere inthis Annual Report on Form 10-K for disclosures regarding uncertain income
tax positions under ASC Topic 740.
Adjusted EBITDA and Adjusted Net Income
In considering the financial performance of the business, management analyzes
the primary financial performance measures of Adjusted EBITDA and Adjusted Net
Income. Adjusted EBITDA is defined as net income for the relevant period before
depreciation and amortization, interest expense and provision for income taxes,
as adjusted for certain items described below that we believe are not indicative
of our ongoing operating performance. Adjusted Net Income is defined as net
income, as adjusted for certain items described below that we believe are not
indicative of our ongoing operating performance. Neither Adjusted EBITDA nor
Adjusted Net Income is a measure defined by GAAP. The most directly comparable
GAAP measure to Adjusted EBITDA and Adjusted Net Income is Net Income for the
relevant period.
We believe Adjusted EBITDA and Adjusted Net Income are useful to investors
because these performance measures are used by our management for measuring
profitability. These measures exclude the impact of certain items which we
believe have less bearing on our core operating performance because they are
items that are not needed or available to the Company's managers in the daily
activities of their businesses. We believe that the core operations of our
business are those which can be affected by our management in a particular
period through their resource allocation decisions that affect the underlying
performance of our operations conducted during that period. We also believe that
decisions utilizing Adjusted EBITDA and Adjusted Net Income allow for a more
meaningful comparison of operating fundamentals between companies within our
markets by eliminating the impact of capital structure and taxation differences
between the companies.
To determine Adjusted EBITDA, we adjust Net Income for the following items:
non-cash depreciation and amortization, interest expense, income taxes and other
items as described below. Stock-based compensation expense is excluded from both
Adjusted Net Income and Adjusted EBITDA because it is an expense that is
measured based upon external inputs such as our current share price and the
movement of share price of peer companies, which cannot be impacted by our
business managers. Stock-based compensation expense also reflects a cost which
may obscure trends in our underlying vehicle businesses for a given period, due
to the timing and nature of the equity awards.
We also adjust for exceptional items, such as impairment charges, losses
attributable to assets held for sale, and deferred purchase price payments,
which are determined to be those that in management's judgment need to be
disclosed by virtue of their size, nature or incidence, and include non-cash
items and items settled in cash. In determining whether an event or transaction
is exceptional, management considers quantitative as well as qualitative factors
such as the frequency or predictability of occurrence. Adjusted EBITDA is used
by management to measure and report the Company's financial performance to the
Company's Board of
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Directors, to assist in providing a meaningful analysis of the Company's operating performance, and is used as a measurement in incentive compensation for management. Based on the foregoing factors, management considers the adjustment for non-cash purchase accounting, certain legal matters, transaction expenses, stock-based compensation expense, restructuring costs, sponsor expense reimbursement, impairment charges, losses attributable to assets held for sale and deferred purchase price payment to be exceptional items. Adjusted EBITDA and Adjusted Net Income have limitations as analytical tools. These are not presentations made in accordance with GAAP, are not measures of financial condition and should not be considered as an alternative to net income or net loss for the period determined in accordance with GAAP. Adjusted EBITDA and Adjusted Net Income are not necessarily comparable to similarly titled measures used by other companies. As a result, you should not consider this performance measure in isolation from, or as a substitute analysis for, our results of operations as determined in accordance with GAAP. Moreover, such measures do not reflect:
• our cash expenditures, or future requirements for capital expenditures or
contractual commitments;
• changes in, or cash requirements for, our working capital needs;
• the cash requirements necessary to service interest or principal payments
on our debt;
• the cash requirements to pay our taxes.
The following table reconciles net income (loss) to Adjusted EBITDA for the
periods presented:
Fiscal Year Ended
October 31, October 31, October 31,
(in millions) 2019 2018 2017
Net (loss) income $ (12.3 ) $ 13.0 $ 31.4
Depreciation and amortization 45.4 45.5 37.8
Interest expense, net 32.4 25.3 20.7
(Benefit) provision for income taxes (3.5 ) (12.2 ) 18.7
EBITDA 62.0 71.6 108.6
Transaction expenses(a) 1.0 2.8 5.2
Sponsor expenses(b) 1.4 0.9 0.6
Restructuring costs(c) 5.7 7.0 4.5
Stock-based compensation expense(d) 7.2 6.3 26.6
Non-cash purchase accounting expense(e) - 0.9 5.1
Loss on early extinguishment of debt(f) - - 11.9
Legal matters(g) 7.7 5.5 -
First year public company costs(h) - 1.5 -
Impairment charges(i) 8.9 35.6 -
Losses attributable to assets held for sale(j) 4.7 9.9 -
Deferred purchase price payout(k) 3.5 6.0 -
Adjusted EBITDA $ 102.1 $ 148.0 $ 162.5
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The following table reconciles net income (loss) to Adjusted Net Income for the
periods presented:
Fiscal Year Ended
October 31, October 31, October 31,
(in millions) 2019 2018 2017
Net (loss) income $ (12.3 ) $ 13.0 $ 31.4
Amortization of intangible assets 17.4 18.1 14.9
Transaction expenses(a) 1.0 2.8 5.2
Sponsor expenses(b) 1.4 0.9 0.6
Restructuring costs(c) 5.7 7.0 4.5
Stock-based compensation expense(d) 7.2 6.3 26.6
Non-cash purchase accounting expense(e) - 0.9 5.1
Loss on early extinguishment of debt(f) - - 11.9
Legal matters(g) 7.7 5.5 -
First year public company costs(h) - 1.5 -
Impairment charges(i) 8.9 35.6 -
Losses attributable to assets held for sale(j) 4.7 9.9 -
Deferred purchase price payment(k) 3.5 6.0 -
Impact of tax rate change(l) - (11.3 ) -
Income tax effect of adjustments(m) (15.2 ) (23.5 ) (24.4 )
Adjusted Net Income $ 30.0 $ 72.7 $ 75.8 (a) Reflects costs incurred in connection with business acquisitions,
divestitures and capital market transactions. These expenses consist
primarily of legal, accounting, due diligence, and one-time post-acquisition
expenses in addition to costs related to offerings of our common stock.
(b) Reflects the reimbursement of expenses to the Company's primary equity
holder.
(c) Restructuring expenses for fiscal year 2019 consisted of personnel costs,
including severance, vacation and other employee benefit payments as well as
facility closure and lease termination costs
Restructuring expenses for fiscal year 2018 represent costs incurred to restructure certain management positions in the Fire & Emergency,Commercial and Recreation segments, our corporate office, as well as to relocate our ClassB RV production. Costs incurred in the current year consisted of personnel costs, including severance, vacation and other employee benefit payments as well as facility closure and lease termination costs. Restructuring expenses for fiscal year 2017 were associated with the restructuring of the management functions and various product lines across the Company, including but not limited to severance, lease termination and other associated expenses.
(d) Reflects expenses associated with the redemption of stock options and vesting
of restricted and performance stock units.
(e) Reflects the amortization of the difference between the book value and fair
market value of certain acquired inventory that was subsequently sold after
the acquisition date.
(f) Reflects losses recognized upon the redemption of our Notes in
The Company paid a prepayment premium of
million of unamortized debt issuance costs and
discount. The loss on early extinguishment of debt also includes the
write-off of
our debt re-financing in
(g) Reflects legal fees and costs incurred to litigate and settle legal claims
against us which are outside the normal course of business. Current year
costs include payments: (i) to settle certain claims arising from a putative
employee class action in the state of
litigate and settle non-ordinary course product, intellectual property and
employment disputes and (iii) for fees and costs to litigate the putative
securities class actions and derivative action pending against us and certain
of our directors and officers.
(h) Reflects one-time consulting and audit fees associated with the design and
implementation of internal controls over financial reporting to comply with
the provisions of the Sarbanes-Oxley Act.
(i) Reflects non-cash impairment charges related to both the assets held for sale
and other assets that management intends to monetize or are otherwise
impaired including our rental fleet, inventory from discontinued product
lines and certain information system assets. Refer to Note 6, "Divestiture
Activities," to our 2019 audited consolidated financial statements appearing
elsewhere in this Annual Report on Form 10-K.
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(j) Losses attributable to businesses that are or were classified as assets held
for sale during the respective period.
(k) Reflects the expense associated with the deferred purchase price payment owed
to sellers of Lance, who are now employees of the Company. The Company made a
payment of
date and may make another payment of
date from the acquisition date, subject to conditions in the purchase
agreement.
(l) Reflects the one-time provisional impact of net deferred tax liability
remeasurement as a result of the
quarter of fiscal year 2018.
(m) Income tax effect of adjustments using a 26.5% effective income tax rate for
fiscal years 2019 and 2018, and a 36.5% effective income tax rate for fiscal
year 2017, except for certain transaction expenses and losses attributable to
assets held for sale.
Off-Balance Sheet Arrangements
We have not created, and are not party to, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating our business. With the exception of operating lease obligations, we do not have any off-balance sheet arrangements or relationships with entities that are not consolidated into or disclosed in our consolidated financial statements that have, or are reasonably likely to have, a material current or future effect on our financial condition, revenues, expenses, results of operations, liquidity, capital expenditures and capital resources. In addition, we do not engage in trading activities involving non-exchange traded contracts. See Note 16 to our 2019 audited consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K for additional discussion.
Seasonality
In a typical year, our operating results are impacted by seasonality. Historically the slowest quarters have been the first and second fiscal quarters when the purchasing seasons for vehicles such as school buses, RVs and sweepers are the lowest due to the colder weather and the relatively long time until the summer vacation season, and the fact that the school year is underway with municipalities and school bus contractors are utilizing their existing fleets to transport student populations. Sales of our products have typically been higher in the third and fourth fiscal quarters (with the fourth fiscal quarter typically being the strongest) due to better weather, the vacation season, buying habits of RV dealers and end-users, timing of government/municipal customer fiscal years, and the beginning of a new school year. Our quarterly results of operations, cash flows, and liquidity are likely to be impacted by these seasonal patterns. Sales and earnings for other vehicles that we produce, such as essential emergency vehicles and commercial bus fleets, are less seasonal, but fluctuations in sales of these vehicles can also be impacted by timing surrounding the fiscal years of municipalities and commercial customers, as well as the timing and amounts of multi-unit orders.
Critical Accounting Policies and Estimates
Our significant accounting policies are described in Note 2 to our 2019 audited consolidated financial statements. The preparation of consolidated financial statements in conformity with GAAP requires us to make estimates, assumptions and judgments that affect amounts of assets and liabilities reported in our consolidated financial statements, the disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and reported amounts of revenues and expenses during the year. We believe our estimates and assumptions are reasonable; however, future results could differ from those estimates. We consider the following accounting estimates to be the most critical in understanding the judgments that are involved in preparing our consolidated financial statements.
Inventories
Inventories are stated at the lower of aggregate cost or net realizable value.
Cost is determined using the first-in, first-out ("FIFO") method. If inventory
costs exceed expected net realizable value due to obsolescence or quantities on
hand are in excess of expected demand, the Company records reserves for the
difference between the cost and the expected net realizable value. These
reserves are recorded based on various factors, including recent sales history
and sales forecasts, industry market conditions, vehicle model changes and
general economic conditions.
The Company accounts for business combinations by estimating the fair value of
consideration paid for acquired businesses, including contingent consideration,
and assigning that amount to the fair values of assets acquired and liabilities
assumed, with the remainder assigned to goodwill. If the fair value of assets
acquired and liabilities assumed exceeds the fair value of consideration paid, a
gain on bargain purchase is recognized. The estimates of fair values are
determined utilizing customary valuation procedures and techniques, which
require us, among other things, to estimate future cash flows and discount
rates. Such analyses involve significant judgments and estimations.
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Goodwill and indefinite-lived intangible assets, consisting of trade names, are not amortized, however, the Company reviews goodwill and indefinite-lived intangible assets for impairment at least annually or more often if an event occurs or circumstances change which indicates that its carrying amount may not exceed its fair value. The annual impairment review is performed as of the first day of the fourth quarter of each fiscal year based upon information and estimates available at that time. To perform the impairment testing, the Company first assesses qualitative factors to determine whether it is more likely than not that the fair values of the Company's reporting units or indefinite-lived intangible assets are less than their carrying amounts as a basis for determining whether or not to perform the quantitative impairment test. Qualitative testing includes the evaluation of economic conditions, financial performance and other factors such as key events when they occur. The Company then estimates the fair value of each reporting unit and each indefinite-lived intangible asset not meeting the qualitative criteria and compares their fair values to their carrying values. Under the quantitative method, the fair value of each reporting unit of the Company is determined by using primarily the income approach and involves the use of significant estimates and assumptions. The income approach involves discounting management's projections of future interim and terminal cash flows to a present value at a risk-adjusted discount rate which corresponds with the Company's and market-participant weighted-average cost of capital ("WACC"). Key assumptions used in the income approach include future sales growth, gross margin and operating expenses trends, depreciation and amortization expense, taxes, capital expenditures and changes in working capital. Projected future cash flows are based on income forecasts and management's knowledge of the current operating environment and expectations for the Company on a going-forward basis. The WACC represents a blended cost of equity and debt capital applicable to the Company based on observed market participant rates of return for a group of comparable public companies in the industry, utilizes market participant capital structure assumptions by reference to the industry's average debt to total invested capital ratios, and is also being adjusted for relative risk premiums specific to each reporting unit tested. The terminal residual value is based upon the projected cash flow for the final projected year and is calculated using a capitalization rate based on estimates of growth of the net cash flows based on the Company's estimate of sustainable growth for each financial reporting unit. The inputs and assumptions used in the determination of fair value are considered Level 3 inputs within the fair value hierarchy. If the fair value of any reporting unit, as calculated using the income approach, is less than its carrying value, the fair value of the implied goodwill is calculated as the difference between the fair value of the reporting unit and the fair value of the underlying assets and liabilities, excluding goodwill. An impairment charge is recorded for any excess of the carrying value of goodwill over the implied fair value for each reporting unit When determining the fair value of indefinite-lived trade names, the Company uses the relief-from-royalty ("RFR") method, within the income approach. The RFR method assumes that an intangible asset is valuable because the owner of the asset avoids the cost of licensing that asset. Under the RFR method, an estimate is made as to the appropriate royalty income that would be negotiated in an arm's-length transaction if the subject intangible asset were licensed from an independent third party. The royalty savings are then calculated by multiplying a royalty rate, expressed as a percentage of revenues, times a determined applicable level of future revenues provided per each trade name as estimated by the Company. The royalty rate is based on research of industry and market data related to transactions involving the licensing of comparable intangible assets. The resulting future royalty savings are then discounted to their present value equivalent utilizing market participant rates of return, adjusted for relative risk premiums specific to each trade name as well as the reporting unit housing it. In considering the fair value of trade names, the Company also considers relative age, consistent use, quality, expansion possibilities, relative profitability, relative market potential, and how a market participant may employ these intangible assets from a financial and economic point of view.
Warranty
Provisions for estimated warranty and other related costs are recorded in cost of sales and are periodically adjusted to reflect actual experience. The amount of accrued warranty liability reflects management's best estimate of the expected future cost of honoring our obligations under our limited warranty plans. The costs of fulfilling our warranty obligations principally involve replacement parts, labor and sometimes travel for any field retrofit or recall campaigns. Our estimates are based on historical experience, the number of units involved and the cost per claim. Also, each quarter we review actual warranty claims to determine if there are systemic effects that would require a field retrofit or recall campaign.
Recent Accounting Pronouncements
Refer to Note 2 to our 2019 audited consolidated financial statements for a discussion of the impact of new accounting standards on the Company's consolidated financial statement.
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