VONTIER CORPORATION Unless the context otherwise requires, references in this Management's
Discussion and Analysis of Financial Condition and Results of Operations
("MD&A") to
This MD&A is designed to provide a reader of the financial statements with a narrative from the perspective of the management of the Company. The following discussion and analysis of our financial conditions and results of operations should be read in conjunction with our Combined Condensed Financial Statements and the related notes and other financial information included elsewhere in this Quarterly Report on Form 10-Q and the MD&A and Combined Financial Statements included in the Company's Information Statement filed with the Company's Form 10-12B/A onSeptember 21, 2020 . You should review the discussion titled "Information Relating to Forward Looking Statements" for a discussion of forward-looking statements. Our actual results could differ materially from those discussed in the forward-looking statements. The MD&A is divided into six sections: •Information Relating to Forward-Looking Statements •Basis of Presentation •Overview •Results of Operations •Liquidity and Capital Resources •Critical Accounting Estimates INFORMATION RELATING TO FORWARD-LOOKING STATEMENTS Certain statements included or incorporated by reference in this quarterly report, in other documents we file with or furnish to theSecurities and Exchange Commission ("SEC"), in our press releases, webcasts, conference calls, materials delivered to shareholders and other communications, are "forward-looking statements" within the meaning ofthe United States federal securities laws. All statements other than historical factual information are forward-looking statements, including without limitation statements regarding: projections of revenue, expenses, profit, profit margins, tax rates, tax provisions, cash flows, pension and benefit obligations and funding requirements, our liquidity position or other financial measures; management's plans and strategies for future operations, including statements relating to anticipated operating performance, cost reductions, restructuring activities, new product and service developments, competitive strengths or market position, acquisitions, divestitures, strategic opportunities, securities offerings, stock repurchases, dividends and executive compensation; growth, declines and other trends in markets we sell into; new or modified laws, regulations and accounting pronouncements; outstanding claims, legal proceedings, tax audits and assessments and other contingent liabilities; foreign currency exchange rates and fluctuations in those rates; impact on changes to tax laws; general economic and capital markets conditions; the timing of any of the foregoing; assumptions underlying any of the foregoing; and any other statements that address events or developments that we intend or believe will or may occur in the future. Terminology such as "believe," "anticipate," "should," "could," "intend," "will," "plan," "expect," "estimate," "project," "target," "may," "possible," "potential," "forecast" and "positioned" and similar references to future periods are intended to identify forward-looking statements, although not all forward-looking statements are accompanied by such words. Forward-looking statements are based on assumptions and assessments made by our management in light of their experience and perceptions of historical trends, current conditions, expected future developments and other factors. Forward-looking statements are not guarantees of future performance and actual results may differ materially from the results, developments and business decisions contemplated by our forward-looking statements. Accordingly, you should not place undue reliance on any such forward-looking statements. Important factors that could cause actual results to differ materially from those envisaged in the forward-looking statements include the following: 29 -------------------------------------------------------------------------------- •The effect of the COVID-19 pandemic on our global operations and the operations of our customers, suppliers, and vendors is having a material adverse impact on our business and results of operations. •Conditions in the global economy, the particular markets we serve and the financial markets may adversely affect our business and financial statements. •Significant developments or uncertainties stemming from theU.S. administration, including changes inU.S. trade policies, tariffs, tax policies and the reaction of other countries thereto, could have an adverse effect on our business. •Changes in, or status of implementation of, industry standards and governmental regulations, including interpretation or enforcement thereof, may reduce demand for our products or services, increase our expenses or otherwise adversely impact our business model. •Our growth could suffer if the markets into which we sell our products and services decline, do not grow as anticipated or experience cyclicality. •Our growth depends in part on the timely development and commercialization, and customer acceptance, of new and enhanced products and services based on technological innovation. •Our reputation, ability to do business and financial statements may be impaired by improper conduct by any of our employees, agents or business partners. •Any inability to consummate acquisitions at our historical rates and at appropriate prices, and to make appropriate investments that support our long-term strategy, could negatively impact our growth rate and stock price. •Our acquisition of businesses, investments, joint ventures and other strategic relationships could negatively impact our financial statements. •The indemnification provisions of acquisition agreements by which we have acquired companies may not fully protect us and as a result we may face unexpected liabilities. •Divestitures or other dispositions could negatively impact our business, and contingent liabilities from businesses that we or our predecessors have sold could adversely affect our financial statements. •Our operations, products and services expose us to the risk of environmental, health and safety liabilities, costs and violations that could adversely affect our business, reputation and financial statements. •Our businesses are subject to extensive regulation; failure to comply with those regulations could adversely affect our financial statements and our business, including our reputation. •International economic, political, legal, compliance, epidemic and business factors could negatively affect our financial statements. •We may be required to recognize impairment charges for our goodwill and other intangible assets. •Foreign currency exchange rates may adversely affect our financial statements. •Changes in our tax rates or exposure to additional income tax liabilities or assessments could affect our profitability. In addition, audits by tax authorities could result in additional tax payments for prior periods. •Changes in tax law relating to multinational corporations could adversely affect our tax position. •We are subject to a variety of litigation and other legal and regulatory proceedings in the course of our business that could adversely affect our business and financial statements. •If we do not or cannot adequately protect our intellectual property, or if third parties infringe our intellectual property rights, we may suffer competitive injury or expend significant resources enforcing our rights. •Third parties may claim that we are infringing or misappropriating their intellectual property rights and we could suffer significant litigation expenses, losses or licensing expenses or be prevented from selling products or services. •Significant disruption in, or breach in security of, our information technology systems could adversely affect our business. 30 -------------------------------------------------------------------------------- •Defects, tampering, unanticipated use or inadequate disclosure with respect to our products or services (including software), or allegations thereof, could adversely affect our business, reputation and financial statements. •Adverse changes in our relationships with, or the financial condition, performance, purchasing patterns or inventory levels of, key distributors and other channel partners could adversely affect our financial statements. •Our financial results are subject to fluctuations in the cost and availability of commodities that we use in our operations. •If we cannot adjust our manufacturing capacity or the purchases required for our manufacturing activities to reflect changes in market conditions and customer demand, our profitability may suffer. In addition, our reliance upon sole or limited sources of supply for certain materials, components and services could cause production interruptions, delays and inefficiencies. •Our restructuring actions could have long-term adverse effects on our business. •Work stoppages, union and works council campaigns and other labor disputes could adversely impact our productivity and results of operations. •Significant developments stemming from theUnited Kingdom's referendum on membership in the EU could have an adverse effect on us. •If we suffer a loss to our facilities, supply chains, distribution systems or information technology systems due to catastrophe or other events, our operations could be seriously harmed. •Our ability to attract, develop and retain talented executives and other key employees is critical to our success. •We have no history of operating as a separate, publicly traded company, and our historical and pro forma financial information is not necessarily representative of the results that we would have achieved as a separate, publicly traded company and may not be a reliable indicator of our future results. •As a separate, publicly traded company, we may not enjoy the same benefits that we did as a part of Fortive. •Future sales by Fortive or others of our common stock, or the perception that such sales may occur, could depress our common stock price. •We expect that Fortive and its directors and officers will have limited liability to us or you for breach of fiduciary duty. •Our customers, prospective customers, suppliers or other companies with whom we conduct business may conclude that our financial stability as a separate, publicly traded company is insufficient to satisfy their requirements for doing or continuing to do business with them. •Potential indemnification liabilities to Fortive pursuant to the separation agreement could materially and adversely affect our businesses, financial condition, results of operations and cash flows. •In connection with our separation from Fortive, Fortive will indemnify us for certain liabilities. However, there can be no assurance that the indemnity will be sufficient to insure us against the full amount of such liabilities, or that Fortive's ability to satisfy its indemnification obligation will not be impaired in the future. •If there is a determination that the distribution, together with certain related transactions, is taxable forU.S. federal income tax purposes because the facts, assumptions, representations or undertakings underlying Fortive's private letter ruling from theIRS or tax opinion are incorrect or for any other reason, then Fortive and its stockholders could incur significantU.S. federal income tax liabilities. If an action byVontier was the cause of such determination,Vontier could be liable for a significant tax liability. •We may be affected by significant restrictions, including on our ability to engage in certain corporate transactions for a two-year period after the distribution in order to avoid triggering significant tax-related liabilities. •After the distribution, certain of our executive officers and directors may have actual or potential conflicts of interest because of their equity interest in Fortive. •Fortive may compete with us. 31 -------------------------------------------------------------------------------- •We may not achieve some or all of the expected benefits of the separation, and the separation may adversely affect our businesses. •We may have received better terms from unaffiliated third parties than the terms we will receive in our agreements with Fortive. •We or Fortive may fail to perform under various transaction agreements that were executed as part of the separation or we may fail to have necessary systems and services in place when certain of the transaction agreements expire. •We have outstanding indebtedness of approximately$1.8 billion asOctober 9, 2020 and the ability to incur an additional$750.0 million of indebtedness and in the future we may incur additional indebtedness. This indebtedness could adversely affect our businesses and our ability to meet our obligations and pay dividends. •We may not be able to generate sufficient cash to service all of our indebtedness and may be forced to take other actions to satisfy our obligations under our indebtedness, which may not be successful. •The interest rates on our credit facilities may be impacted by the phase out of the London Interbank Offered Rate ("LIBOR") •Following the distribution, we will be dependent on Fortive to provide us with certain transition services, which may not be sufficient to meet our needs, and we may have difficulty finding replacement services or be required to pay increased costs to replace these services after our transition services agreement with Fortive expires. •Certain non-U.S. entities or assets that are part of our separation from Fortive may not be transferred to us prior to the distribution or at all. •We cannot be certain that an active trading market for our common stock will develop or be sustained after the separation, and following the separation, the stock price of our common stock may fluctuate significantly. •If we are unable to implement and maintain effective internal control over financial reporting in the future, investors may lose confidence in the accuracy and completeness of our financial reports and the market price of our common stock may be negatively affected. •The obligations associated with being a public company will require significant resources and management attention. •The market price of shares of our common stock may be volatile, which could cause the value of your investment to decline. •We cannot guarantee the payment of dividends on our common stock, or the timing or amount of any such dividends. •Your percentage ownership in us may be diluted in the future. •Certain provisions in our amended and restated certificate of incorporation and bylaws, and ofDelaware law, may prevent or delay an acquisition of us, which could decrease the trading price of our common stock. •Our amended and restated certificate of incorporation will designate the state courts in theState of Delaware or, if no state court located within theState of Delaware has jurisdiction, the federal court for the District ofDelaware , as the sole and exclusive forum for certain types of actions and proceedings that may be initiated by our stockholders. Our amended and restated certificate of incorporation will further designate the federal district courts ofthe United States of the America as the sole and exclusive forum for the resolution of any complaint asserting a cause of action arising under the Securities Act. These forum selection provisions could discourage lawsuits against us and our directors, officers, employees and stockholders. See "Risk Factors" in the Information Statement filed with the Form 10-12B/A onSeptember 21, 2020 and "Part II - Item 1A. Risk Factors" in this Form 10-Q for a further discussion regarding reasons that actual results may differ materially from the results, developments and business decisions contemplated by our forward-looking statements. Forward-looking statements speak only as of the date of the report, document, press release, webcast, call, materials or other communication in which they are made. We do not assume any obligation to update or revise any forward-looking statement, whether as a result of new information, future events and developments or otherwise. 32 --------------------------------------------------------------------------------
BASIS OF PRESENTATION
The accompanying Combined Condensed Financial Statements present the historical financial position, results of operations, changes in equity and cash flows of the Company in accordance with GAAP for the preparation of carved-out Combined Condensed Financial Statements. Our business portfolio includes (i) mobility technologies, in which we are a leading worldwide provider of solutions and services focused on fuel dispensing, remote fuel management, point-of-sale and payment systems, environmental compliance, vehicle tracking and fleet management, and traffic management, as well as, (ii) diagnostics and repair technologies, in which we manufacture and distribute vehicle repair tools, toolboxes, automotive diagnostic equipment and software, and a full line of wheel-service equipment. Historically, these businesses had operated as part of Fortive's Industrial Technologies segment. Given the interrelationships of the products, technologies, and customers, and resulting similar long-term economic characteristics, we meet the aggregation criteria and have combined our two operating segments into a single reportable segment. We use the term "Parent" to refer to Fortive. Our historical Combined Condensed Financial Statements include expense allocations for certain support functions that are provided on a centralized basis within Fortive, such as corporate costs, shared services and other selling, general and administrative costs that benefit the Company, among others. Following the distribution, pursuant to agreements with Fortive, we expect that Fortive will continue to provide us with some of the services related to these functions on a transitional basis in exchange for agreed-upon fees, and we expect to incur other costs to replace the services and resources that will not be provided by Fortive. We will also incur additional costs as a separate public company. As a separate public company, our total costs related to such support functions may differ from the costs that were historically allocated to us.
These additional costs are primarily for the following:
•additional personnel costs, including salaries, benefits and potential bonuses and/or share-based compensation awards for staff additions to replace support provided by Fortive that is not covered by the transition services agreement; and •corporate governance costs, including board of director compensation and expenses, audit and other professional services fees, annual report and proxy statement costs,SEC filing fees, transfer agent fees, consulting and legal fees and stock exchange listing fees.
Certain factors could impact the nature and amount of these separate public company costs, including the finalization of our staffing and infrastructure needs.
We expect these additional separate public company costs in excess of the costs that have been historically allocated to us to range between approximately$35 million and$45 million per year. Moreover, we expect we may incur certain nonrecurring internal costs to implement certain new systems. We have historically operated as part of Fortive and not as a stand-alone company. The Combined Condensed Financial Statements have been derived from Fortive's historical accounting records and are presented on a carved-out basis. All revenues and costs as well as assets and liabilities directly associated with our business activity are included as a component of the financial statements. The Combined Condensed Financial Statements also include allocations to us of certain selling, general and administrative expenses from Fortive's corporate office and from other Fortive businesses, as well as allocations of related assets, liabilities, andNet Parent investment, as applicable. The allocations have been determined on a reasonable basis; however, the amounts are not necessarily representative of the amounts that would have been reflected in the financial statements had we been an entity that operated independently of Fortive. Further, the historical Combined Condensed Financial Statements may not be reflective of what our results of operations, comprehensive income, financial position, equity, or cash flows might be in the future as a separate public company. Certain factors could impact the nature and amount of these separate public company costs, including the finalization of our staffing and infrastructure needs. As part of Fortive, we were dependent upon Fortive for all of our working capital and financing requirements as Fortive uses a centralized approach to cash management and financing of its operations. Financial transactions relating to us were accounted for through ourNet Parent investment account. Accordingly, none of Fortive's cash, cash equivalents, or debt held at the corporate level has been assigned to us in the Combined Condensed Financial Statements. Management assesses our liquidity in terms of our ability to generate cash to fund our operating and investing activities. We continue to generate substantial cash from operating activities and believe that our operating cash flow and other sources of liquidity will be sufficient following the distribution to allow us to manage our capital structure on a short-term and long-term basis and to continue investing in existing 33 -------------------------------------------------------------------------------- businesses and consummating strategic acquisitions. Refer to "Note 13. Subsequent Events" of the Combined Condensed Financial Statements for more information related to the Credit Facilities.Net Parent Investment , which includes retained earnings, represents Fortive's interest in our recorded net assets. All significant transactions between Fortive and us have been included in the accompanying Combined Condensed Financial Statements. Transactions with Fortive are reflected in the accompanying Combined Condensed Statements of Changes in Equity and Cash Flows as "Net transfers to Parent" and in the accompanying Combined Condensed Balance Sheets within the Net Parent investment line item. As part of Fortive, we engaged in intercompany financing transactions ("Related-party Borrowings"). Transactions with Fortive have been included in the accompanying Combined Condensed Financial Statements for all periods presented. The Company notes that these transactions were settled prior to the consummation of the distribution. All other intercompany accounts and transactions between our businesses have been eliminated in the Combined Condensed Financial Statements for all periods presented.
Divestitures
OnOctober 9, 2019 , we sold our interest in Gilbarco Hungary ACIS and its Gilbarco Romania ACIS business ("ACIS") for$1.7 million , and recognized a loss on the transactions of$0.1 million . These transactions did not meet the criteria for discontinued operations reporting, and therefore the operating results of ACIS prior to the disposition are included in continuing operations for all periods presented. OVERVIEW GeneralVontier offers critical technical equipment, components, software and services for manufacturing, repair, and servicing in the mobility infrastructure industry worldwide. We supply a wide range of mobility technologies and diagnostics and repair technologies solutions spanning advanced environmental sensors, fueling equipment, field payment, hardware, remote management and workflow software, vehicle tracking and fleet management software-as-service solutions, professional vehicle mechanics' and technicians' equipment and traffic priority control systems. We market our products and services to retail and commercial fueling operators, commercial vehicle repair businesses, municipal governments, and public safety entities and fleet owners/operators on a global basis. Our research and development, manufacturing, sales, distribution, service and administrative operations are located in more than 30 countries acrossNorth America ,Asia Pacific ,Europe andLatin America . In addition, we sell our products in these countries and multiple other markets in these regions. We define high-growth markets as developing markets of the world experiencing extended periods of accelerated growth in gross domestic product and infrastructure, which includeEastern Europe , theMiddle East ,Africa ,Latin America , andAsia , with the exception ofJapan andAustralia . 34 -------------------------------------------------------------------------------- BUSINESS PERFORMANCE AND OUTLOOK Business Performance A novel strain of coronavirus was first identified inWuhan, China inDecember 2019 , and subsequently declared a pandemic by theWorld Health Organization inMarch 2020 ("COVID-19"). This outbreak has surfaced in nearly all regions around the world, which resulted in governments implementing strict measures to help contain or mitigate the spread of the virus, including quarantines, "shelter in place" and "stay at home" orders, travel restrictions, school and commercial facility closures, re-opening restrictions, among others (collectively "virus control measures"). Further, theU.S. Department of Homeland Security's Cybersecurity and Infrastructure Security Agency issued Guidance documents for use by businesses and states defining "critical-infrastructure" industries that may continue to operate despite the virus control measures implemented. These virus control measures led to slowdowns or shutdowns for businesses deemed both "essential" and "non-essential" in affected areas, causing significant disruption in the financial markets both globally and inthe United States , especially in the second quarter. As of the end of the third quarter, the virus control measures have eased in most regions and all of our locations were open and operating. Given the nature of our business, COVID-19 impacted our businesses and operating results during the nine months endedSeptember 25, 2020 directly with reduced demand from customers operating in non-essential end-markets and indirectly with reduced demand created by macroeconomic disruption or disruption in adjacent end-markets. COVID-19 impacted our businesses and operating results broadly across all geographies, as virus control measures were deployed in most regions during the nine months endedSeptember 25, 2020 . Our business was impacted less in the third quarter by the virus control measures as restrictions began to ease and demand began to return. While differences exist among our businesses, on an overall basis, demand for our hardware and software products and services decreased during the first two quarters of the year and increased during the three months endedSeptember 25, 2020 . As compared to the comparable periods of 2019, aggregate year-over-year total sales increased 4.5% for the three months endedSeptember 25, 2020 and decreased 6.9% in the nine months endedSeptember 25, 2020 . Sales from existing businesses increased 5.6% during the three months endedSeptember 25, 2020 , as compared to the comparable period in 2019. The increase in total sales and sales from existing businesses during the three months endedSeptember 25, 2020 was primarily driven by strong demand for and shipments of fuel management systems inNorth America related to the enhanced credit card security requirements for outdoor payment systems based on the Europay, Mastercard andVisa ("EMV") global standards andMexico regulatory demand. Our diagnostics and repair portfolio also experienced strong demand across most product categories, most notably specialty and hardline tools. Sales from existing businesses declined 4.7% during the nine months endedSeptember 25, 2020 , as compared to the comparable period of 2019. The decrease in total sales and sales from existing businesses during the nine months endedSeptember 25, 2020 was primarily due to the direct and indirect impacts of COVID-19. Changes in foreign currency exchange rates and other items negatively impacted our sales growth by 0.6% and 1.8% during the three and nine months endedSeptember 25, 2020 compared to the comparable periods in 2019. Geographically, year-over-year total sales and sales from existing businesses for the three months endedSeptember 25, 2020 increased at a rate in the high-single digits in developed markets and sequentially improved to a decline of mid-single digits in high growth markets. This was primarily attributable to growth inNorth America at a rate in the low-double digits and partially offset by sequential improvement inWestern Europe to a decline in the high-single digits, and a more than 20% decline inAsia .
Year-over-year total sales and sales from existing businesses for the nine
months ended
During the first nine months of 2020, the worldwide capital markets were volatile and overall global economic conditions deteriorated significantly as a result of COVID-19 in the beginning of the second quarter of 2020, began to improve towards the end of the second quarter and continued to improve into the third quarter. While we expect overall sales and sales from existing businesses to grow on a year-over-year basis in the fourth quarter, we are continuing to monitor the impact of COVID-19 and geopolitical uncertainties and the corresponding impact to our businesses. We will also continue to monitor the other factors identified above in "Information Relating to Forward Looking Statements." We are closely monitoring the health of our employees, and have implemented safety protocols at our facilities to ensure the health and safety of our employees. In addition, we are continuing to monitor the financial health of our suppliers and customers, and their ability to maintain production capacity and meet our operational requirements. Individuals contracting or being exposed to COVID-19, orwho are unable to report to work due to future virus control measures, may significantly 35 -------------------------------------------------------------------------------- disrupt production throughout our supply chain and negatively impact our sales channels. Further, our customers may be directly impacted by business curtailments or weak market conditions, and may not be willing or able to accept shipments of products, may cancel orders, and may not be able to pay us on a timely basis. Despite the virus control measures in place in geographies critical to our supply chain, we have successfully implemented solutions to support our operations and have not experienced significant production material shortages, supply chain constraints, or distribution limitations impacting our operations as of the date of this Report. To mitigate the impact of the economic conditions from the COVID-19 pandemic as well as any escalation of geopolitical uncertainties related to governmental policies toward international trade, monetary and fiscal policies, and relations between theU.S. andChina , we will continue applying and deploying theVontier Business System to actively manage our supply chain and drive operating efficiencies, and continue to collaborate with our customers and suppliers to minimize disruption to their businesses. Additionally, we will continue actively managing our working capital with a focus on maximizing cash flows and cost efficiency. We continue to assess market conditions and take actions as we deem necessary to appropriately position our businesses in light of the economic environment and geopolitical uncertainties. Although recent volatility in the financial markets has not had a significant impact on our financial position, liquidity, and ability to meet our debt covenants as of the filing date of this Report, we continue to monitor the financial markets and general global economic conditions. Further, we utilized certain provisions of The Coronavirus Aid, Relief, and Economic Security Act ("CARES Act") enacted by theU.S. Government to provide additional short-term liquidity, including relief from employer payroll tax remittance, and expect to continue utilizing these benefits throughout 2020. We are also evaluating other potential income tax impacts of the CARES Act. If further changes in financial markets or other areas of the economy adversely affect our access to the capital markets, we would expect to rely on a combination of available cash and existing available capacity under our credit facilities to provide short-term funding. Refer to the "Liquidity and Capital Resources" section for additional discussion. 36 --------------------------------------------------------------------------------
RESULTS OF OPERATIONS
Comparison of Results of Operations for the Three and Nine Months Ended
Three Months Ended Nine Months Ended
($ in millions) September 25, 2020 September 27, 2019 September 25, 2020 September 27, 2019
Total sales $ 746.7 $ 714.4 $ 1,889.6 $ 2,028.8
Total cost of sales (415.4) (406.4) (1,064.2) (1,163.6)
Gross profit 331.3 308.0 825.4 865.2
Operating costs:
Selling, general and administrative
expenses ("SG&A") (121.1) (118.3) (356.0) (362.9)
Research and development expenses ("R&D") (31.6) (34.8) (93.7) (102.0)
Goodwill impairment charge - - (85.3) -
Operating profit $ 178.6 $ 154.9 $ 290.4 $ 400.3
Gross profit as a % of sales 44.4 % 43.1 % 43.7 % 42.6 %
SG&A as a % of sales 16.2 % 16.6 % 18.8 % 17.9 %
R&D as a % of sales 4.2 % 4.9 % 5.0 % 5.0 %
Operating profit as a % of sales 23.9 % 21.7 % 15.4 % 19.7 %
Components of Comparative Total Sales and Sales from Existing Businesses Growth
The following table summarizes total aggregate year-over-year sales growth and
the components of the year-over-year sales growth during the three and nine
months ended September 25, 2020 as compared to the comparable periods of 2019.
% Change Three Months % Change Nine Months
Ended September 25, Ended September 25,
2020 vs. Comparable 2020 vs. Comparable
2019 Period 2019 Period
Total revenue growth (GAAP) 4.5 % (6.9) %
Existing businesses (Non-GAAP) 5.6 % (4.7) %
Acquisitions and divestitures (Non-GAAP) (0.5) % (0.4) %
Currency exchange rates (Non-GAAP) - % (1.1) %
Other (Non-GAAP) (0.6) % (0.7) %
Total sales and sales from existing businesses within our mobility technologies
platform increased at a mid-single digit rate during the three months ended
September 25, 2020 and decreased at a mid-single digit rate during the nine
months ended September 25, 2020 as compared to the comparable periods of 2019.
The year-over-year results during the three months ended September 25, 2020 were
driven by strong demand for and shipments of fuel management systems in North
America related to the enhanced credit card security requirements for outdoor
payment systems based on the Europay, Mastercard and Visa global standards and
Mexico regulatory demand. The year-over-year results during the nine months
ended September 25, 2020 were driven by broad-based declines across all product
categories and significant geographies, which was driven by COVID-19 virus
control measures.
Total sales and sales from existing businesses within our diagnostics and repair
technologies platform increased at a mid-single digit rate during the three
months ended September 25, 2020 and decreased at a mid-single digit rate during
the nine months ended September 25, 2020 as compared to the comparable periods
in 2019. The results in the three months ended September 25, 2020 were driven
principally by strong demand across most product categories, most notably
specialty and hardline tools, with sequential growth in tool storage. For the
year-to-date period, the results were primarily driven by decreased demand
across most product categories and reflect sharp declines in demand due to
COVID-19 virus control measures early in the
37
--------------------------------------------------------------------------------second quarter, which were partially offset by improvements in demand as the year progressed and virus control measures began to lift in certain jurisdictions.
Year-over-year changes in price had an insignificant impact on sales growth
during three and nine months ended
Cost of Sales
The cost of sales increase of$9.0 million for the three months endedSeptember 25, 2020 , as compared to the comparable period in 2019, is due primarily to higher year-over-year sales volumes from existing businesses as well as changes in foreign currency exchange rates. The cost of sales decrease of$99.4 million for the nine months endedSeptember 25, 2020 , as compared to the comparable period in 2019, is primarily due to lower year-over-year sales volumes from existing businesses, lower year-over-year material costs and cost savings associated with restructuring and productivity improvement initiatives.
Gross Profit
The year-over-year increase in gross profit during the three months endedSeptember 25, 2020 , as compared to the comparable period in 2019, is primarily due to higher year-over-year sales volumes as well as favorable materials costs and productivity improvement initiatives and changes in foreign currency exchange rates. The year-over-year decrease in gross profit during the nine months endedSeptember 25, 2020 , as compared to the comparable period in 2019, is primarily due to lower year-over-year sales volumes and changes in foreign currency exchange rates. This was partially offset by incremental year-over-year cost savings associated with restructuring, productivity improvement initiatives, and material cost and supply chain improvement actions.
The 130 basis point increase in gross profit margin during the three months
ended
The 110 basis point increase in gross profit margin during the nine months endedSeptember 25, 2020 as compared to the comparable period in 2019 is primarily due to cost savings associated with restructuring and productivity improvement initiatives, and material cost and supply chain improvement actions, partially offset by lower year-over-year sales volumes.
Operating Costs and Other Expenses
SG&A expenses increased during the three months endedSeptember 25, 2020 , as compared to the comparable period in 2019, primarily due to stand-up costs and costs associated with the separation. This was partially offset by savings from reductions in discretionary spending, and to a lesser extent, year-over-year cost savings associated with restructuring and productivity improvement initiatives. SG&A expenses decreased during the nine months endedSeptember 25, 2020 , as compared to the comparable period in 2019, primarily due to savings from broad cost reduction efforts that reduced labor expenses to better align with reductions in demand, primarily through the use of furloughs and reductions in salaried compensation costs, as well as other reductions in discretionary spending, and to a lesser extent, year-over-year cost savings associated with restructuring and productivity improvement initiatives. These factors were partially offset by costs associated with the separation. On a year-over-year basis, SG&A expenses as a percentage of sales decreased 40 basis points during the three months endedSeptember 25, 2020 , as compared to the comparable periods in 2019 due to the increase of sales as compared to the same period in 2019. For the nine months endedSeptember 25, 2020 , SG&A expenses as a percentage of sales increased 90 basis points due to year-over-year sales declines and costs associated with the separation which was partially offset by lower spending on sales and marketing growth initiatives. R&D expenses (consisting principally of internal and contract engineering personnel costs) decreased during the three and nine months endedSeptember 25, 2020 , as compared to the comparable periods in 2019 due to broad cost reduction efforts. On a year-over-year basis, R&D expenses as a percentage of sales decreased during the three months endedSeptember 25, 2020 due to the cost reduction measures which decreased R&D expenses while total sales increased. For the nine months endedSeptember 25, 2020 , R&D expenses as a percentage of sales remained flat as cost reduction measures in R&D expenses decreased R&D expenses while sales also decreased due to year-over-year sales volume declines. 38 -------------------------------------------------------------------------------- In connection with our updated forecast for our Telematics business that indicated a decline in sales and operating profit to levels lower than previously forecasted, due in large part to the impacts of the COVID-19 pandemic, management determined the change in forecast indicated the related carrying value of goodwill may not be recoverable and performed a quantitative impairment assessment over the Telematics reporting unit onMarch 27, 2020 . This analysis resulted in an impairment of$85.3 million .
Operating Profit
Operating profit margin increased 220 basis points during the three months ended
Year-over-year operating profit margin comparisons were favorably impacted by:
•Higher year-over-year sales volumes, operating expense savings from broad cost reduction efforts and, to a lesser extent, lower material costs and incremental year-over-year cost savings associated with restructuring and productivity improvement initiatives - favorable 300 basis points •The year-over-year effect of businesses disposed of and acquired - favorable 20 basis points Year-over-year operating profit margin comparisons were primarily impacted by the following unfavorable factors:
•Stand-up costs related to the separation - unfavorable 100 basis points
Operating profit margin decreased 430 basis points during the nine months ended
Year-over-year operating profit margin comparisons were favorably impacted by:
•Operating expense savings from broad cost reduction efforts, and to a lesser extent, lower material costs and incremental year-over-year cost savings associated with restructuring and productivity improvement initiatives which were partially offset by lower year-over-year sales volumes from existing businesses - favorable 100 basis points •The year-over-year effect of businesses disposed of and acquired - favorable 10 basis points
Year-over-year operating profit margin comparisons were unfavorably impacted by:
•Stand-up costs related to the separation - unfavorable 90 basis points •The impact of the goodwill impairment of our Telematics business - unfavorable 450 basis points
NON-GAAP FINANCIAL MEASURES
Sales from Existing Businesses
We define sales from existing businesses as total sales excluding (i) sales from acquired and divested businesses; (ii) the impact of currency translation; and (iii) certain other items. •References to sales attributable to acquisitions or acquired businesses refer to GAAP sales from acquired businesses recorded prior to the first anniversary of the acquisition less the amount of sales attributable to certain divested businesses or product lines not considered discontinued operations. •The portion of sales attributable to the impact of currency translation is calculated as the difference between (a) the period-to-period change in sales (excluding sales from acquired businesses) and (b) the period-to-period change in sales, including foreign operations, (excluding sales from acquired businesses) after applying the current period foreign exchange rates to the prior year period. •The portion of sales attributable to other items is calculated as the impact of those items which are not directly correlated to sales from existing businesses which do not have an impact on the current or comparable period.
Sales from existing businesses should be considered in addition to, and not as a replacement for or superior to, total sales, and may not be comparable to similarly titled measures reported by other companies.
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Management believes that reporting the non-GAAP financial measure of sales from
existing businesses provides useful information to investors by helping identify
underlying growth trends in our business and facilitating easier comparisons of
our sales performance with our performance in prior and future periods and to
our peers. We exclude the effect of acquisitions and divestiture-related items
because the nature, size and number of such transactions can vary dramatically
from period to period and between us and our peers. We exclude the effect of
currency translation and certain other items from sales from existing businesses
because these items are either not under management's control or relate to items
not directly correlated to sales from existing businesses. Management believes
the exclusion of these items from sales from existing businesses may facilitate
assessment of underlying business trends and may assist in comparisons of
long-term performance. References to sales volume refer to the impact of both
price and unit sales.
INCOME TAXES
General
Our operating results were included in Fortive's consolidated U.S. federal and
certain consolidated state income tax returns, as well as certain consolidated
non-U.S. returns. We account for income taxes under the separate return method.
Under this approach, income tax expense and deferred tax assets and liabilities
are determined as if we were filing separate returns from Fortive. Income tax
expense and deferred tax assets and liabilities reflect management's assessment
of future taxes expected to be paid on items reflected in our financial
statements. We record the tax effect of discrete items and items that are
reported net of tax effects in the period in which they occur.
Our effective tax rate can be affected by, among other items, changes in the mix
of earnings in countries with differing statutory tax rates (including as a
result of business acquisitions and dispositions), changes in the valuation of
deferred tax assets and liabilities, the implementation of tax planning
strategies, tax rulings, court decisions, settlements with tax authorities and
changes in tax laws, including legislative policy changes that may result from
the Organization for Economic Co-operation and Development's ("OECD") initiative
on Base Erosion and Profit Shifting.
The CARES Act is an emergency economic stimulus package in response to the
COVID-19 outbreak which, among other things, contains numerous income tax
provisions. Some of these tax provisions are expected to be effective
retroactively for years ending before the date of enactment. We anticipate the
provisions of the CARES Act will impact income tax in 2020, however we have not
identified material impacts to the tax provision as of September 25, 2020 . We
will continue to evaluate the impact of the CARES Act as new clarifying guidance
is issued throughout 2020.
The amount of income taxes we pay is subject to ongoing audits by federal, state
and foreign tax authorities, which often result in proposed assessments. We
perform a comprehensive review of our global tax positions on a quarterly basis.
Based on these reviews, the results of discussions and resolutions of matters
with certain tax authorities, tax rulings and court decisions, and the
expiration of statutes of limitations, reserves for contingent tax liabilities
are accrued or adjusted as necessary.
Comparison of the Three and Nine Months Ended
Our effective tax rate for the three and nine months endedSeptember 25, 2020 was 20.9% and 29.0%, respectively, as compared to 23.2% and 23.3% for the three and nine months endedSeptember 27, 2019 , respectively. The year-over-year decrease in the effective tax rate for the three months endedSeptember 25, 2020 as compared to the comparable period in the prior year was primarily due to the favorable impact of a higher mix of income in jurisdictions with lower tax rates than theU.S. federal statutory rate of 21%. The year-over-year increase in the effective tax rate for the nine months endedSeptember 25, 2020 as compared to the comparable period in the prior year was primarily due to a non-deductible goodwill impairment recognized in Q1. This was partially offset by favorable impacts of a higher mix of income in jurisdictions with lower tax rates than theU.S. federal statutory rate of 21% and increases in favorable impacts of certain federal and international tax benefits. Our effective tax rate for both periods in 2020 and 2019 differs from theU.S. federal statutory rate of 21% due primarily to the impact of the Tax Cuts and Jobs Act ("TCJA"), certainU.S. federal permanent differences, the impact of credits and deductions provided by law, and current year earnings outsidethe United States that are indefinitely reinvested and taxed at rates lower than theU.S. federal statutory rate. Specific to the nine months endedSeptember 25, 2020 , our effective tax rate also differs from theU.S. federal statutory rate of 21% due to a non-deductible goodwill impairment in Q1. 40 -------------------------------------------------------------------------------- COMPREHENSIVE INCOME Comprehensive income increased by$50.1 million during the three months endedSeptember 25, 2020 as compared to the comparable period in 2019 due primarily to net earnings that were higher by$20.0 million and favorable changes in foreign currency translation adjustments of$30.1 million . Comprehensive income decreased by$106.7 million during the nine months endedSeptember 25, 2020 as compared to the comparable period in 2019 due primarily to net earnings that were lower by$105.1 million , and unfavorable changes in foreign currency translation adjustments of$3.2 million .
INFLATION
The effect of inflation on our sales and net earnings was not significant during
the three and nine months ended
LIQUIDITY AND CAPITAL RESOURCES When part of Fortive, we were dependent upon Fortive for all our working capital and financing requirements as Fortive uses a centralized approach to cash management and financing of our operations. Financial transactions relating to us are accounted for through our Net Parent investment account. Accordingly, none of Fortive's cash, cash equivalents or debt at the Fortive corporate level has been assigned to us in the accompanying financial statements. As a result of the Separation, the Company no longer participates in Fortive's cash management and financing operations. Management assesses our liquidity in terms of our ability to generate cash to fund our operating, investing and financing activities. We generate substantial cash from operating activities and expect that our operating cash flow and other sources of liquidity, including our Credit Facilities, will be sufficient following the distribution to allow us to manage our capital structure over the next twelve months and continue to invest in existing businesses and consummating strategic acquisitions. InSeptember 2020 , as a subsequent event, the Company completed the following financing transactions: •Entered into a credit agreement with a syndicate of banks providing for a three-year$800.0 million senior unsecured delayed draw term loan and a two-year$1.0 billion senior unsecured delayed draw term loan (together, the "Term Loans.") The Company borrowed$800.0 million and$1.0 billion of loans under the three-year term loan and two-year term loan, respectively. •Entered into a three-year$750.0 million senior unsecured revolving credit facility that expires onSeptember 28, 2023 (together with the Term Loans, the "Credit Facilities"). The Company has not borrowed any amounts under the revolving credit facility as ofOctober 30, 2020 . As of the date of separation,Vontier had approximately$287.9 million in cash. The primary source of the cash on hand as of the date of separation was due to a transfer from Fortive as part of the separation agreement. Under the terms of the separation agreement, approximately$84.1 million is repayable by us to Fortive within the 90 days of separation. Refer to "Note 13. Subsequent Events" of the Combined Condensed Financial Statements for more information related to the Credit Facilities. 41 -------------------------------------------------------------------------------- Overview of Cash Flows and Liquidity Following is an overview of our cash flows and liquidity for the nine months endedSeptember 25, 2020 : Nine Months Ended September 27, ($ in millions) September 25, 2020 2019 Net cash provided by operating activities $
480.6
Cash paid for investments $ (9.5)$ (4.1) Payments for additions to property, plant and equipment (27.3) (27.0) Proceeds from sale of property 0.5 - Net cash used in investing activities $
(36.3)
Net repayments of related-party borrowings $ (23.4)$ (0.3) Net (repayments of) proceeds from short-term borrowings (3.5) 3.6 Net transfers to Parent (419.9) (284.7) Other financing activities (0.7) (5.4) Net cash used in financing activities $ (447.5)$ (286.8) Operating Activities Cash flows from operating activities can fluctuate significantly from period-to-period as working capital needs and the timing of payments for income taxes, various employee liabilities, restructuring activities, and other items impact reported cash flows. Cash flows from operating activities were$480.6 million during the nine months endedSeptember 25, 2020 , an increase of$158.3 million , as compared to the comparable period in 2019. The year-over-year change in operating cash flows was primarily attributable to the following factors: •2020 operating cash flows were impacted by lower net earnings for the first nine months of 2020 as compared to the comparable period in 2019. Net earnings for the nine months endedSeptember 25, 2020 were impacted by a year-over-year decrease in operating profits of$109.9 million . The year-over-year decrease in operating profit was impacted by the non-cash goodwill impairment charge of$85.3 million as well as an increase in stock-based compensation expense of$5.9 million . The goodwill impairment charge and stock-based compensation expense are non-cash expenses that decrease earnings without a corresponding impact to operating cash flows. •The aggregate of accounts receivable, long-term financing receivables, inventories, and trade accounts payable provided$95.5 million of operating cash flows during the first nine months of 2020 compared to using$22.4 million in the comparable period of 2019. The amount of cash flow generated from or used by the aggregate of accounts receivable, inventories and trade accounts payable depends upon how effectively we manage the cash conversion cycle and can be significantly impacted by the timing of collections and payments in a period. Additionally, when we originate certain financing receivables, we assume the financing receivable by decreasing the franchisee's trade accounts receivable. As a result, originations of certain financing receivables are non-cash transactions. •The aggregate of prepaid expenses and other assets and accrued expenses and other liabilities provided$27.9 million of operating cash flows during the first nine months of 2020 as compared to using$36.4 million in the comparable period of 2019. This difference is due primarily to the timing of prepaid and accrued expenses and tax-related amounts deemed to be immediately settled with Parent. Investing Activities Net cash used in investing activities increased by$5.2 million during the nine months endedSeptember 25, 2020 as compared to the comparable period in 2019 due to an increase in cash paid for equity investments. 42
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Financing Activities and Indebtedness Net cash used in financing activities increased by$160.7 million during the nine months endedSeptember 25, 2020 as compared to the comparable period in 2019 primarily due to an increase in Net Transfers to Parent of$135.2 million as well as an increase of$23.1 million for repayments of related-party borrowings with Fortive. CRITICAL ACCOUNTING ESTIMATES There were no material changes to the Company's critical accounting estimates described in the Company's Information Statement furnished with the Company's Form 10-12B/A filed onSeptember 21, 2020 .
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