Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
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þ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended October 1, 2016.
OR
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¨ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from [ ] to [ ]
Commission File Number 001-05224
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STANLEY BLACK & DECKER, INC. |
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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CONNECTICUT | | 06-0548860 |
(STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) | | (I.R.S. EMPLOYER IDENTIFICATION NUMBER) |
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1000 STANLEY DRIVE NEW BRITAIN, CONNECTICUT | | 06053 |
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) | | (ZIP CODE) |
(REGISTRANT’S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes þ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
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Large accelerated filer | | þ | | | Accelerated filer | | ¨ |
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Non-accelerated filer | | ¨ | (Do not check if a smaller reporting company) | | Smaller reporting company | | ¨ |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No þ
150,688,664 shares of the registrant’s common stock were outstanding as of October 21, 2016
TABLE OF CONTENTS
PART I — FINANCIAL INFORMATION
ITEM 1. CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
STANLEY BLACK & DECKER, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
THREE AND NINE MONTHS ENDED OCTOBER 1, 2016 AND OCTOBER 3, 2015
(Unaudited, Millions of Dollars, Except Per Share Amounts)
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| | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2016 | | 2015 | | 2016 | | 2015 |
Net Sales | $ | 2,882.0 |
| | $ | 2,829.5 |
| | $ | 8,486.5 |
| | $ | 8,326.4 |
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Costs and Expenses | | | | | | | |
Cost of sales | $ | 1,797.9 |
| | $ | 1,802.5 |
| | $ | 5,295.9 |
| | $ | 5,268.6 |
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Selling, general and administrative | 643.8 |
| | 598.4 |
| | 1,923.9 |
| | 1,843.6 |
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Provision for doubtful accounts | 1.6 |
| | 9.9 |
| | 16.2 |
| | 32.2 |
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Other, net | 56.8 |
| | 54.0 |
| | 150.6 |
| | 168.2 |
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Restructuring charges | 9.1 |
| | 14.0 |
| | 27.3 |
| | 43.9 |
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Interest expense | 50.2 |
| | 45.2 |
| | 145.2 |
| | 135.8 |
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Interest income | (5.1 | ) | | (3.6 | ) | | (16.4 | ) | | (10.3 | ) |
| $ | 2,554.3 |
| | $ | 2,520.4 |
| | $ | 7,542.7 |
| | $ | 7,482.0 |
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Earnings from continuing operations before income taxes | 327.7 |
| | 309.1 |
| | 943.8 |
| | 844.4 |
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Income taxes on continuing operations | 78.7 |
| | 75.7 |
| | 234.7 |
| | 209.5 |
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Earnings from continuing operations | $ | 249.0 |
| | $ | 233.4 |
| | $ | 709.1 |
| | $ | 634.9 |
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Less: Net earnings (loss) attributable to non-controlling interests | 0.1 |
| | (0.7 | ) | | (0.7 | ) | | (1.7 | ) |
Net earnings from continuing operations attributable to common shareowners | $ | 248.9 |
| | $ | 234.1 |
| | $ | 709.8 |
| | $ | 636.6 |
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Net loss from discontinued operations | — |
| | (5.4 | ) | | — |
| | (18.4 | ) |
Net Earnings Attributable to Common Shareowners | $ | 248.9 |
| | $ | 228.7 |
| | $ | 709.8 |
| | $ | 618.2 |
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Total Comprehensive Income Attributable to Common Shareowners | $ | 278.3 |
| | $ | 102.3 |
| | $ | 722.2 |
| | $ | 306.7 |
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Basic earnings (loss) per share of common stock: | | | | | | | |
Continuing operations | $ | 1.71 |
| | $ | 1.60 |
| | $ | 4.88 |
| | $ | 4.28 |
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Discontinued operations | — |
| | (0.04 | ) | | — |
| | (0.12 | ) |
Total basic earnings per share of common stock | $ | 1.71 |
| | $ | 1.57 |
| | $ | 4.88 |
| | $ | 4.15 |
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Diluted earnings (loss) per share of common stock: | | | | | | | |
Continuing operations | $ | 1.68 |
| | $ | 1.55 |
| | $ | 4.81 |
| | $ | 4.15 |
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Discontinued operations | — |
| | (0.04 | ) | | — |
| | (0.12 | ) |
Total diluted earnings per share of common stock | $ | 1.68 |
| | $ | 1.52 |
| | $ | 4.81 |
| | $ | 4.03 |
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Dividends per share of common stock | $ | 0.58 |
| | $ | 0.55 |
| | $ | 1.68 |
| | $ | 1.59 |
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Weighted Average Shares Outstanding (in thousands): | | | | | | | |
Basic | 145,410 |
| | 145,911 |
| | 145,547 |
| | 148,796 |
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Diluted | 147,975 |
| | 150,781 |
| | 147,717 |
| | 153,405 |
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See Notes to (Unaudited) Condensed Consolidated Financial Statements.
STANLEY BLACK & DECKER, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
OCTOBER 1, 2016 AND JANUARY 2, 2016
(Unaudited, Millions of Dollars, Except Per Share Amounts)
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| October 1, 2016 | | January 2, 2016 |
ASSETS | | | |
Current Assets | | | |
Cash and cash equivalents | $ | 420.8 |
| | $ | 465.4 |
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Accounts and notes receivable, net | 1,730.2 |
| | 1,331.8 |
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Inventories, net | 1,720.3 |
| | 1,526.4 |
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Other current assets | 390.8 |
| | 338.5 |
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Total Current Assets | 4,262.1 |
| | 3,662.1 |
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Property, Plant and Equipment, net | 1,480.1 |
| | 1,450.2 |
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Goodwill | 7,130.8 |
| | 7,084.3 |
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Intangibles, net | 2,458.5 |
| | 2,541.5 |
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Other Assets | 389.2 |
| | 389.7 |
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Total Assets | $ | 15,720.7 |
| | $ | 15,127.8 |
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LIABILITIES AND SHAREOWNERS' EQUITY | | | |
Current Liabilities | | | |
Short-term borrowings | $ | 95.0 |
| | $ | 2.5 |
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Current maturities of long-term debt | 7.2 |
| | 5.1 |
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Accounts payable | 1,741.2 |
| | 1,533.1 |
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Accrued expenses | 1,619.6 |
| | 1,261.9 |
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Total Current Liabilities | 3,463.0 |
| | 2,802.6 |
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Long-Term Debt | 3,815.1 |
| | 3,792.1 |
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Deferred Taxes | 757.4 |
| | 825.9 |
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Post-Retirement Benefits | 620.4 |
| | 669.4 |
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Other Liabilities | 983.6 |
| | 1,178.6 |
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Commitments and Contingencies (Note R) |
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Shareowners’ Equity | | | |
Stanley Black & Decker, Inc. Shareowners’ Equity | | | |
Preferred stock, without par value: Authorized and unissued 10,000,000 shares | — |
| | — |
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Common stock, par value $2.50 per share: Authorized 300,000,000 shares in 2016 and 2015 Issued 176,902,738 shares in 2016 and 2015 | 442.3 |
| | 442.3 |
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Retained earnings | 4,958.7 |
| | 4,491.7 |
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Additional paid in capital | 4,480.5 |
| | 4,421.7 |
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Accumulated other comprehensive loss | (1,681.8 | ) | | (1,694.2 | ) |
ESOP | (27.1 | ) | | (34.9 | ) |
| 8,172.6 |
| | 7,626.6 |
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Less: cost of common stock in treasury | (2,138.1 | ) | | (1,815.0 | ) |
Stanley Black & Decker, Inc. Shareowners’ Equity | 6,034.5 |
| | 5,811.6 |
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Non-controlling interests | 46.7 |
| | 47.6 |
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Total Shareowners’ Equity | 6,081.2 |
| | 5,859.2 |
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Total Liabilities and Shareowners’ Equity | $ | 15,720.7 |
| | $ | 15,127.8 |
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See Notes to (Unaudited) Condensed Consolidated Financial Statements.
STANLEY BLACK & DECKER, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
THREE AND NINE MONTHS ENDED OCTOBER 1, 2016 AND OCTOBER 3, 2015
(Unaudited, Millions of Dollars)
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| Third Quarter | | Year-to-Date |
| 2016 | | 2015 | | 2016 | | 2015 |
OPERATING ACTIVITIES | | | | | | | |
Net Earnings Attributable to Common Shareowners | $ | 248.9 |
| | $ | 228.7 |
| | $ | 709.8 |
| | $ | 618.2 |
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Adjustments to reconcile net earnings to cash provided by operating activities: | | | | | | | |
Depreciation and amortization of property, plant and equipment | 66.6 |
| | 64.8 |
| | 196.4 |
| | 190.2 |
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Amortization of intangibles | 36.5 |
| | 39.1 |
| | 108.8 |
| | 118.2 |
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Changes in working capital | (182.9 | ) | | (173.1 | ) | | (393.3 | ) | | (601.5 | ) |
Changes in other assets and liabilities | 77.6 |
| | 79.5 |
| | 28.3 |
| | 29.0 |
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Cash provided by operating activities | 246.7 |
| | 239.0 |
| | 650.0 |
| | 354.1 |
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INVESTING ACTIVITIES | | | | | | | |
Capital expenditures | (78.1 | ) | | (68.5 | ) | | (221.7 | ) | | (180.1 | ) |
Business acquisitions, net of cash acquired | (38.3 | ) | | (17.1 | ) | | (59.3 | ) | | (17.5 | ) |
Proceeds from sale of assets | 1.3 |
| | 3.0 |
| | 8.9 |
| | 17.2 |
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Proceeds from net investment hedge settlements | 57.8 |
| | 48.3 |
| | 63.3 |
| | 112.2 |
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Other | (4.0 | ) | | (14.4 | ) | | (16.2 | ) | | (35.0 | ) |
Cash used in investing activities | (61.3 | ) | | (48.7 | ) | | (225.0 | ) | | (103.2 | ) |
FINANCING ACTIVITIES | | | | | | | |
Payments on long-term debt | — |
| | (15.5 | ) | | — |
| | (16.1 | ) |
Stock purchase contract fees | (3.5 | ) | | (4.3 | ) | | (10.4 | ) | | (12.8 | ) |
Net short-term (repayments) borrowings | (255.9 | ) | | 32.1 |
| | 92.4 |
| | 450.8 |
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Cash dividends on common stock | (84.5 | ) | | (79.7 | ) | | (243.9 | ) | | (239.2 | ) |
Termination of interest rate swaps | — |
| | — |
| | 27.0 |
| | — |
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Proceeds from issuances of common stock | 19.1 |
| | 9.3 |
| | 51.3 |
| | 84.0 |
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Purchases of common stock for treasury | (0.6 | ) | | (192.1 | ) | | (362.7 | ) | | (640.1 | ) |
Other | — |
| | — |
| | (0.5 | ) | | — |
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Cash used in financing activities | (325.4 | ) | | (250.2 | ) | | (446.8 | ) | | (373.4 | ) |
Effect of exchange rate changes on cash and cash equivalents | (7.4 | ) | | (38.7 | ) | | (22.8 | ) | | (80.8 | ) |
Change in cash and cash equivalents | (147.4 | ) | | (98.6 | ) | | (44.6 | ) | | (203.3 | ) |
Cash and cash equivalents, beginning of period | 568.2 |
| | 391.9 |
| | 465.4 |
| | 496.6 |
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CASH AND CASH EQUIVALENTS, END OF PERIOD | $ | 420.8 |
| | $ | 293.3 |
| | $ | 420.8 |
| | $ | 293.3 |
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See Notes to (Unaudited) Condensed Consolidated Financial Statements.
STANLEY BLACK & DECKER, INC. AND SUBSIDIARIES
NOTES TO (UNAUDITED) CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
OCTOBER 1, 2016
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (hereinafter referred to as “generally accepted accounting principles”) for interim financial statements and with the instructions to Form 10-Q and Article 10 of Regulation S-X and do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments considered necessary for a fair presentation of the results of operations for the interim periods have been included and are of a normal, recurring nature. Operating results for the three and nine months ended October 1, 2016 are not necessarily indicative of the results that may be expected for a full fiscal year. For further information, refer to the consolidated financial statements and footnotes included in Stanley Black & Decker, Inc.’s (the “Company”) Form 10-K for the year ended January 2, 2016, and subsequent related filings with the Securities and Exchange Commission.
During the fourth quarter of 2014, the Company classified the Security segment’s Spain and Italy operations as held for sale based on management's intention to sell these businesses. In July 2015, the Company completed the sale of these businesses. The operating results of Security Spain and Italy have been reported as discontinued operations for the three and nine months ended October 3, 2015 through the date of sale. Net sales for discontinued operations totaled $3.9 million and $39.4 million for the three and nine months ended October 3, 2015, respectively.
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements. While management believes that the estimates and assumptions used in the preparation of the financial statements are appropriate, actual results could differ from these estimates. Certain amounts reported in the previous year have been reclassified to conform to the 2016 presentation.
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B. | New Accounting Standards |
In June 2016, the Financial Accounting Standards Boards ("FASB") issued Accounting Standards Update ("ASU") 2016-13, "Financial Instruments - Credit Losses (Topic 326)." The new standard amends guidance on reporting credit losses for assets held at amortized cost basis and available-for-sale debt securities. This ASU is effective for financial statements issued for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. The Company is currently evaluating this guidance to determine the impact it may have on its consolidated financial statements.
In March 2016, the FASB issued ASU 2016-09, "Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting." The objective of this update is to simplify several aspects of the accounting for employee share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. This ASU is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Early adoption is permitted. If an entity adopts the amendments in an interim period, any adjustments should be reflected as of the beginning of the fiscal year that includes that interim period. An entity that elects early adoption must adopt all of the amendments in the same period. The Company is currently evaluating the timing of adopting the new guidance as well as the impact it may have on its consolidated financial statements.
In February 2016, the FASB issued ASU 2016-02, "Leases (Topic 842)." The objective of this update is to increase transparency and comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet and disclosing key information about leasing arrangements. This ASU is effective for fiscal years beginning after December 15, 2018, including interim periods within those annual periods and is to be applied utilizing a modified retrospective approach. The Company is currently evaluating this guidance to determine the impact it may have on its consolidated financial statements.
In January 2016, the FASB issued ASU 2016-01, “Financial Instruments - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.” The main objective of this update is to enhance the reporting model for financial instruments to provide users of financial statements with more decision-useful information. The new guidance addresses certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. This ASU is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. The Company is currently evaluating this guidance to determine the impact it may have on its consolidated financial statements.
In November 2015, the FASB issued ASU 2015-17, “Income Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes.” The objective of this update is to simplify the presentation of deferred income taxes by requiring all deferred tax assets and liabilities to be classified as noncurrent in the statement of financial position. The amendments in this update do not affect the current requirement to offset deferred tax assets and liabilities for each tax-paying component within a tax jurisdiction. This ASU is effective for annual periods beginning after December 15, 2016, including interim periods within those annual periods, and can be applied either prospectively or retrospectively. Early adoption is permitted. The Company currently intends to adopt this guidance in the fourth quarter of 2016 and is evaluating the impact it will have on its consolidated financial statements.
In September 2015, the FASB issued ASU 2015-16, “Business Combinations (Topic 805): Simplifying the Accounting for Measurement-Period Adjustments.” This update requires that an acquirer recognize adjustments to provisional amounts that are identified during the measurement period in the reporting period in which the adjustment amounts are determined. The ASU requires that the acquirer record, in the financial statements of the period in which adjustments to provisional amounts are determined, the effect on earnings of changes in depreciation, amortization, or other income effects, if any, as a result of the change to the provisional amounts, calculated as if the accounting had been completed at the acquisition date. This ASU is effective prospectively for fiscal years beginning after December 15, 2015, including interim periods within those fiscal years, with early adoption permitted. The Company adopted this standard in the first quarter of 2016 and it did not have an impact on its consolidated financial statements.
In August 2015, the FASB issued ASU 2015-15, "Interest - Imputation of Interest (Subtopic 835-30): Presentation and Subsequent Measurement of Debt Issuance Costs Associated with Line of Credit Arrangements." This ASU provides additional guidance to ASU 2015-03, discussed further below, which did not address presentation or subsequent measurement of debt issuance costs related to line-of-credit arrangements. ASU 2015-15 noted that the SEC staff would not object to an entity deferring and presenting debt issuance costs as an asset and subsequently amortizing the deferred debt issuance costs ratably over the term of the line-of-credit arrangement, regardless of whether there are any outstanding borrowings on the line-of-credit arrangement. The Company adopted this standard in the first quarter of 2016.
In July 2015, the FASB issued ASU 2015-11, "Inventory (Topic 330): Simplifying the Measurement of Inventory." This ASU changes the measurement principle for certain inventory methods from the lower of cost or market to the lower of cost and net realizable value. Net realizable value is defined as the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. This ASU does not apply to inventory that is measured using Last-in First-out ("LIFO") or the retail inventory method. The provisions of ASU 2015-11 are effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. The Company does not expect this guidance to have a significant impact on its consolidated financial statements.
In April 2015, the FASB issued ASU 2015-03, "Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs." The new standard requires that all costs incurred to issue debt be presented in the balance sheet as a direct deduction from the carrying value of the associated debt liability, consistent with the presentation of a debt discount. The standard also indicates that debt issuance costs do not meet the definition of an asset because they provide no future economic benefit. This ASU is effective for financial statements issued for fiscal years beginning after December 15, 2015, and interim periods within those fiscal years. The Company adopted this standard in the first quarter of 2016 on a retrospective basis. Refer to Note H, Long-Term Debt and Financing Arrangements, for further discussion.
In February 2015, the FASB issued ASU 2015-02, "Consolidation (Topic 810): Amendments to the Consolidation Analysis." The new standard amends the consolidation guidance in ASC 810 and significantly changes the consolidation analysis required under current generally accepted accounting principles. This ASU is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. Early adoption is permitted. The Company adopted this standard in the first quarter of 2016 and it did not have an impact on its consolidated financial statements.
In May 2014, the FASB issued ASU 2014-09, "Revenue from Contracts with Customers (Topic 606)." The new revenue recognition standard outlines a comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The new model provides a five-step analysis in determining when and how revenue is recognized. The core principle of the new guidance is that a company should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. In July 2015, the FASB affirmed its proposal to defer the effective date of the standard to annual reporting periods (and interim reporting periods within those years) beginning after December 15, 2017. Entities are permitted to apply the new revenue standard early, but not before the original effective date of annual periods beginning after December 15, 2016. The standard shall be applied retrospectively to each period presented or as a cumulative-effect adjustment as of the date of adoption. In March, April and May 2016, the FASB clarified the implementation guidance on principal versus agent, identifying
performance obligations, licensing, and collectibility. The Company is currently evaluating the new guidance to determine the impact it may have on its consolidated financial statements.
The following table reconciles net earnings attributable to common shareowners and the weighted average shares outstanding used to calculate basic and diluted earnings per share for the three and nine months ended October 1, 2016 and October 3, 2015:
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| Third Quarter | | Year-to-Date |
| 2016 | | 2015 | | 2016 | | 2015 |
Numerator (in millions): | | | | | | | |
Net earnings from continuing operations attributable to common shareowners | $ | 248.9 |
| | $ | 234.1 |
| | $ | 709.8 |
| | $ | 636.6 |
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Net loss from discontinued operations | — |
| | (5.4 | ) | | — |
| | (18.4 | ) |
Net Earnings Attributable to Common Shareowners | $ | 248.9 |
| | $ | 228.7 |
| | $ | 709.8 |
| | $ | 618.2 |
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| | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2016 | | 2015 | | 2016 | | 2015 |
Denominator (in thousands): | | | | | | | |
Basic earnings per share — weighted average shares | 145,410 |
| | 145,911 |
| | 145,547 |
| | 148,796 |
|
Dilutive effect of stock options, awards and other equity arrangements | 2,565 |
| | 4,870 |
| | 2,170 |
| | 4,609 |
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Diluted earnings per share — weighted average shares | 147,975 |
| | 150,781 |
| | 147,717 |
| | 153,405 |
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Earnings (loss) per share of common stock: | | | | | | | |
Basic earnings (loss) per share of common stock: | | | | | | | |
Continuing operations | $ | 1.71 |
| | $ | 1.60 |
| | $ | 4.88 |
| | $ | 4.28 |
|
Discontinued operations | — |
| | (0.04 | ) | | — |
| | (0.12 | ) |
Total basic earnings per share of common stock | $ | 1.71 |
| | $ | 1.57 |
| | $ | 4.88 |
| | $ | 4.15 |
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Diluted earnings (loss) per share of common stock: | | | | | | | |
Continuing operations | $ | 1.68 |
| | $ | 1.55 |
| | $ | 4.81 |
| | $ | 4.15 |
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Discontinued operations | — |
| | (0.04 | ) | | — |
| | (0.12 | ) |
Total dilutive earnings per share of common stock | $ | 1.68 |
| | $ | 1.52 |
| | $ | 4.81 |
| | $ | 4.03 |
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The following weighted average stock options were not included in the computation of diluted shares outstanding because the effect would be anti-dilutive (in thousands):
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| | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
| 2016 | | 2015 | | 2016 | | 2015 |
Number of stock options | — |
| | 636 |
| | 854 |
| | 751 |
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As described in detail in Note J, Equity Arrangements, the Company issued Equity Units in December 2013 comprised of $345.0 million of Notes and Equity Purchase Contracts, which obligate the holders to purchase on November 17, 2016, for $100, between 1.0122 and 1.2399 shares of the Company’s common stock. The shares related to the Equity Purchase Contracts were anti-dilutive during January and February of 2016, and from January through April of 2015. Upon the November 17, 2016 settlement date, the Company will issue approximately 3.5 to 4.3 million shares of common stock, subject to customary anti-dilution adjustments, and expects to receive additional cash proceeds of $345.0 million.
D. Financing Receivables
Long-term trade financing receivables of $185.5 million and $182.1 million at October 1, 2016 and January 2, 2016, respectively, are reported within Other Assets in the Condensed Consolidated Balance Sheets. Financing receivables and long-term financing receivables are predominantly related to certain security equipment leases with commercial businesses. Generally, the Company retains legal title to any equipment under lease and bears the right to repossess such equipment in an event of default. All financing receivables are interest bearing and the Company has not classified any financing receivables as held-for-sale. Interest income earned from financing receivables that are not delinquent is recorded on the effective interest
method. The Company considers any financing receivable that has not been collected within 90 days of original billing date as past-due or delinquent. Additionally, the Company considers the credit quality of all past-due or delinquent financing receivables as non-performing.
The Company has an accounts receivable sale program that expires on January 5, 2018. According to the terms of that program, the Company is required to sell certain of its trade accounts receivables at fair value to a wholly-owned, consolidated, bankruptcy-remote special purpose subsidiary (“BRS”). The BRS, in turn, must sell such receivables to a third-party financial institution (“Purchaser”) for cash and a deferred purchase price receivable. The Purchaser’s maximum cash investment in the receivables at any time is $100.0 million. The purpose of the program is to provide liquidity to the Company. The Company accounts for these transfers as sales under ASC 860, "Transfers and Servicing." Receivables are derecognized from the Company’s consolidated balance sheet when the BRS sells those receivables to the Purchaser. The Company has no retained interests in the transferred receivables, other than collection and administrative responsibilities and its right to the deferred purchase price receivable. At October 1, 2016, the Company did not record a servicing asset or liability related to its retained responsibility based on its assessment of the servicing fee, market values for similar transactions and its cost of servicing the receivables sold.
At October 1, 2016 and January 2, 2016, $79.0 million and $100.4 million, respectively, of net receivables were derecognized. Gross receivables sold amounted to $433.6 million ($364.8 million, net) and $1,307.1 million ($1,111.0 million, net) for the three and nine months ended October 1, 2016, respectively. These sales resulted in a pre-tax loss of $1.1 million and $3.5 million, respectively, and included servicing fees of $0.2 million and $0.6 million, respectively, for the three and nine months ended October 1, 2016. Proceeds from transfers of receivables to the Purchaser totaled $354.0 million and $1,031.6 million for the three and nine months ended October 1, 2016, respectively. Collections of previously sold receivables, including deferred purchase price receivables, and all fees, which are settled one month in arrears, resulted in payments to the Purchaser of $375.5 million and $1,053.1 million for the three and nine months ended October 1, 2016, respectively.
Gross receivables sold amounted to $386.7 million ($334.5 million, net) and $1,118.7 million ($975.3 million, net) for the three and nine months ended October 3, 2015, respectively. These sales resulted in a pre-tax loss of $1.0 million and $2.8 million, respectively, and included servicing fees of $0.1 million and $0.4 million, respectively, for the three and nine months ended October 3, 2015. Proceeds from transfers of receivables to the Purchaser totaled $336.6 million and $929.6 million for the three and nine months ended October 3, 2015, respectively. Collections of previously sold receivables, including deferred purchase price receivables, and all fees, which are settled one month in arrears, resulted in payments to the Purchaser of $338.1 million and $931.4 million for the three and nine months ended October 3, 2015, respectively.
The Company’s risk of loss following the sale of the receivables is limited to the deferred purchase price receivable, which was $146.1 million at October 1, 2016 and $41.1 million at January 2, 2016. The deferred purchase price receivable will be repaid in cash as receivables are collected, generally within 30 days, and as such the carrying value of the receivable recorded approximates fair value. There were $0.1 million of delinquencies or credit losses for the three and nine months ended October 1, 2016 and October 3, 2015. Cash inflows related to the deferred purchase price receivable totaled $135.2 million and $354.7 million for the three and nine months ended October 1, 2016, respectively, and $98.2 million and $289.5 million for the three and nine months ended October 3, 2015, respectively. All cash flows under the program are reported as a component of changes in accounts receivable within operating activities in the Condensed Consolidated Statements of Cash Flows since all the cash from the Purchaser is either: 1) received upon the initial sale of the receivable or 2) from the ultimate collection of the underlying receivables and the underlying receivables are not subject to significant risks, other than credit risk, given their short-term nature.
The components of Inventories, net at October 1, 2016 and January 2, 2016 are as follows: |
| | | | | | | |
(Millions of Dollars) | October 1, 2016 | | January 2, 2016 |
Finished products | $ | 1,247.3 |
| | $ | 1,085.0 |
|
Work in process | 128.6 |
| | 136.1 |
|
Raw materials | 344.4 |
| | 305.3 |
|
Total | $ | 1,720.3 |
| | $ | 1,526.4 |
|
During the nine months ended October 1, 2016, the Company completed five small acquisitions for a total purchase price of $59.3 million, net of cash acquired, which are being integrated into the Company’s Tools & Storage and Security segments. The purchase price allocations for these acquisitions will be completed within the measurement period. The finalization of the purchase accounting assessments may result in changes in the valuation of assets acquired and liabilities assumed, which the Company does not expect to be material.
On October 12, 2016, the Company announced that it had entered into a definitive agreement to acquire the Tools business of Newell Brands ("Newell Tools"), which includes the industrial cutting, hand tool and power tool accessory brands Irwin® and Lenox®, for $1.95 billion in cash. This acquisition will enhance the Company’s position within the global tools & storage industry and broadens the Company’s product offerings and solutions to customers and end-users, particularly within power tool accessories. The transaction, which is subject to customary closing conditions, including regulatory approvals, is expected to close in the first half of 2017.
G. Goodwill
Changes in the carrying amount of goodwill by segment are as follows: |
| | | | | | | | | | | | | | | |
(Millions of Dollars) | Tools & Storage | | Security | | Industrial | | Total |
Balance January 2, 2016 | $ | 3,343.4 |
| | $ | 2,317.2 |
| | $ | 1,423.7 |
| | $ | 7,084.3 |
|
Acquisition adjustments | 4.0 |
| | 22.0 |
| | — |
| | 26.0 |
|
Foreign currency translation and other | (35.6 | ) | | 19.7 |
| | 36.4 |
| | 20.5 |
|
Balance October 1, 2016 | $ | 3,311.8 |
| | $ | 2,358.9 |
| | $ | 1,460.1 |
| | $ | 7,130.8 |
|
| |
H. | Long-Term Debt and Financing Arrangements |
Long-term debt and financing arrangements at October 1, 2016 and January 2, 2016 are as follows:
|
| | | | | | | | | | | | | | | | | | | | | | | |
| | October 1, 2016 | | January 2, 2016 |
(Millions of Dollars) | Interest Rate | Original Notional | Unamortized Discount | Unamortized Gain/(Loss) Terminated Swaps | Purchase Accounting FV Adjustment | Deferred Financing Fees | Carrying Value | | Carrying Value |
Notes payable due in 2018 | 2.45% | $ | 632.5 |
| $ | — |
| $ | — |
| $ | — |
| $ | (3.6 | ) | $ | 628.9 |
| | $ | 627.5 |
|
Notes payable due in 2018 (junior subordinated) | 2.25% | 345.0 |
| — |
| — |
| — |
| (0.9 | ) | 344.1 |
| | 343.8 |
|
Notes payable due 2021 | 3.40% | 400.0 |
| (0.2 | ) | 17.8 |
| — |
| (1.7 | ) | 415.9 |
| | 405.9 |
|
Notes payable due 2022 | 2.90% | 754.3 |
| (0.4 | ) | — |
| — |
| (3.8 | ) | 750.1 |
| | 749.6 |
|
Notes payable due 2028 | 7.05% | 150.0 |
| — |
| 12.8 |
| 12.4 |
| — |
| 175.2 |
| | 167.0 |
|
Notes payable due 2040 | 5.20% | 400.0 |
| (0.2 | ) | (35.2 | ) | — |
| (3.3 | ) | 361.3 |
| | 360.1 |
|
Notes payable due 2052 (junior subordinated) | 5.75% | 750.0 |
| — |
| — |
| — |
| (19.6 | ) | 730.4 |
| | 729.9 |
|
Notes payable due 2053 (junior subordinated) | 5.75% | 400.0 |
| — |
| 4.9 |
| — |
| (8.4 | ) | 396.5 |
| | 394.2 |
|
Other, payable in varying amounts through 2022 | 0.00% - 2.53% | 19.9 |
| — |
| — |
| — |
| — |
| 19.9 |
| | 19.2 |
|
Total long-term debt, including current maturities | | $ | 3,851.7 |
| $ | (0.8 | ) | $ | 0.3 |
| $ | 12.4 |
| $ | (41.3 | ) | $ | 3,822.3 |
| | $ | 3,797.2 |
|
Less: Current maturities of long-term debt | | | | | | | (7.2 | ) | | (5.1 | ) |
Long-term debt | | | | | | | $ | 3,815.1 |
| | $ | 3,792.1 |
|
In the first quarter of 2016, the Company adopted ASU 2015-03, "Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs." ASU 2015-03 requires debt issuance costs related to recognized debt liabilities to be presented in the balance sheet as a direct deduction from the debt liability rather than an asset. Accordingly, at October 1, 2016, approximately $41.3 million of deferred debt issuance costs were presented as a direct deduction within Long-Term Debt on the Company's Condensed Consolidated Balance Sheets. Furthermore, the Company reclassified approximately $45 million of deferred debt issuance costs from Other Assets to Long-Term Debt as of January 2, 2016.
Unamortized gains and fair value adjustments associated with interest rate swaps and the impact of terminated swaps are more fully discussed in Note I, Derivative Financial Instruments.
As of October 1, 2016, the Company had $89.3 million of borrowings outstanding against the Company’s $2.0 billion commercial paper program and at January 2, 2016, the Company had no commercial paper borrowings outstanding. As of October 1, 2016, the Company has not drawn on its $1.75 billion committed credit facility.
I. Derivative Financial Instruments
The Company is exposed to market risk from changes in foreign currency exchange rates, interest rates, stock prices and commodity prices. As part of the Company’s risk management program, a variety of financial instruments such as interest rate swaps, currency swaps, purchased currency options, foreign exchange contracts and commodity contracts may be used to mitigate interest rate exposure, foreign currency exposure and commodity price exposure.
Derivative financial instruments that meet the criteria specified in ASC 815, "Derivatives and Hedging," are designated by management as cash flow hedges, fair value hedges or net investment hedges. Generally, commodity price exposures are not hedged with derivative financial instruments and instead are actively managed through customer pricing initiatives, procurement-driven cost reduction initiatives and other productivity improvement projects. Financial instruments are not utilized for speculative purposes.
A summary of the fair value of the Company’s derivatives recorded in the Condensed Consolidated Balance Sheets at October 1, 2016 and January 2, 2016 follows:
|
| | | | | | | | | | | | | | | | | | | |
(Millions of Dollars) | Balance Sheet Classification | | October 1, 2016 | | January 2, 2016 | | Balance Sheet Classification | | October 1, 2016 | | January 2, 2016 |
Derivatives designated as hedging instruments: | | | | | | | | | | | |
Interest Rate Contracts Cash Flow | LT other assets | | $ | — |
| | $ | — |
| | LT other liabilities | | $ | 102.2 |
| | $ | 41.1 |
|
Interest Rate Contracts Fair Value | Other current assets | | — |
| | 14.9 |
| | Accrued expenses | | — |
| | 2.5 |
|
| LT other assets | | — |
| | 1.4 |
| | LT other liabilities | | — |
| | 5.2 |
|
Foreign Exchange Contracts Cash Flow | Other current assets | | 12.5 |
| | 21.9 |
| | Accrued expenses | | 2.7 |
| | 1.8 |
|
| LT other assets | | 3.3 |
| | 3.7 |
| | LT other liabilities | | 0.1 |
| | — |
|
Net Investment Hedge | Other current assets | | 49.9 |
| | 30.3 |
| | Accrued expenses | | 0.1 |
| | 4.8 |
|
| LT other assets | | — |
| | — |
| | LT other liabilities | | 26.4 |
| | — |
|
Total Designated | | | $ | 65.7 |
| | $ | 72.2 |
| | | | $ | 131.5 |
| | $ | 55.4 |
|
Derivatives not designated as hedging instruments: | | | | | | | | | | | |
Foreign Exchange Contracts | Other current assets | | $ | 30.5 |
| | $ | 7.1 |
| | Accrued expenses | | $ | 61.4 |
| | $ | 40.7 |
|
Total Undesignated | | | $ | 30.5 |
| | $ | 7.1 |
| | | | $ | 61.4 |
| | $ | 40.7 |
|
The counterparties to all of the above mentioned financial instruments are major international financial institutions. The Company is exposed to credit risk for net exchanges under these agreements, but not for the notional amounts. The credit risk is limited to the asset amounts noted above. The Company limits its exposure and concentration of risk by contracting with diverse financial institutions and does not anticipate non-performance by any of its counterparties. Further, as more fully discussed in Note M, Fair Value Measurements, the Company considers non-performance risk of its counterparties at each reporting period and adjusts the carrying value of these assets accordingly. The risk of default is considered remote.
During the nine months ended October 1, 2016 and October 3, 2015, cash flows related to derivatives, including those that are separately discussed below, resulted in net cash received of $67.9 million and $81.1 million, respectively.
CASH FLOW HEDGES
As of October 1, 2016 and January 2, 2016, there was an after-tax mark-to-market loss of $107.2 million and $52.1 million, respectively, reported for cash flow hedge effectiveness in Accumulated other comprehensive loss. An after-tax loss of $8.1 million is expected to be reclassified to earnings as the hedged transactions occur or as amounts are amortized within the next twelve months. The ultimate amount recognized will vary based on fluctuations of the hedged currencies and interest rates through the maturity dates.
The tables below detail pre-tax amounts reclassified from Accumulated other comprehensive loss into earnings for active derivative financial instruments during the periods in which the underlying hedged transactions affected earnings for the three and nine months ended October 1, 2016 and October 3, 2015 (in millions):
|
| | | | | | | | | | | | | | |
Third Quarter 2016 | | Gain (Loss) Recorded in OCI | | Classification of Gain (Loss) Reclassified from OCI to Income | | Gain (Loss) Reclassified from OCI to Income (Effective Portion) | | Gain (Loss) Recognized in Income (Ineffective Portion*) |
Interest Rate Contracts | | $ | (7.0 | ) | | Interest expense | | $ | — |
| | $ | — |
|
Foreign Exchange Contracts | | $ | (0.9 | ) | | Cost of sales | | $ | (2.3 | ) | | $ | — |
|
|
| | | | | | | | | | | | | | |
Year-to-Date 2016 | | Gain (Loss) Recorded in OCI | | Classification of Gain (Loss) Reclassified from OCI to Income | | Gain (Loss) Reclassified from OCI to Income (Effective Portion) | | Gain (Loss) Recognized in Income (Ineffective Portion*) |
Interest Rate Contracts | | $ | (61.1 | ) | | Interest expense | | $ | — |
| | $ | — |
|
Foreign Exchange Contracts | | $ | (5.3 | ) | | Cost of sales | | $ | 21.3 |
| | $ | — |
|
|
| | | | | | | | | | | | | | |
Third Quarter 2015 | | Gain (Loss) Recorded in OCI | | Classification of Gain (Loss) Reclassified from OCI to Income | | Gain (Loss) Reclassified from OCI to Income (Effective Portion) | | Gain (Loss) Recognized in Income (Ineffective Portion*) |
Interest Rate Contracts | | $ | (12.1 | ) | | Interest expense | | $ | — |
| | $ | — |
|
Foreign Exchange Contracts | | $ | (73.7 | ) | | Cost of sales | | $ | 16.9 |
| | $ | — |
|
|
| | | | | | | | | | | | | | |
Year-to-Date 2015 | | Gain (Loss) Recorded in OCI | | Classification of Gain (Loss) Reclassified from OCI to Income | | Gain (Loss) Reclassified from OCI to Income (Effective Portion) | | Gain (Loss) Recognized in Income (Ineffective Portion*) |
Interest Rate Contracts | | $ | 7.4 |
| | Interest expense | | $ | — |
| | $ | — |
|
Foreign Exchange Contracts | | $ | (39.3 | ) | | Cost of sales | | $ | 39.8 |
| | $ | — |
|
* Includes ineffective portion and amount excluded from effectiveness testing on derivatives.
For the three and nine months ended October 1, 2016, the hedged items' impact to the Consolidated Statements of Operations and Comprehensive Income was a gain of $2.3 million and a loss of $21.3 million, respectively, in Cost of sales, which is offsetting the amounts shown above. For the three and nine months ended October 3, 2015, the hedged items’ impact to the Consolidated Statements of Operations and Comprehensive Income was a loss of $16.9 million and $39.8 million, respectively. There was no impact related to the interest rate contracts' hedged items for all periods presented.
For the three and nine months ended October 1, 2016, an after-tax loss of $3.6 million and an after-tax gain of $6.2 million, respectively, were reclassified from Accumulated other comprehensive loss into earnings (inclusive of the gain/loss amortization on terminated derivative instruments) during the periods in which the underlying hedged transactions affected earnings. For the three and nine months ended October 3, 2015, after-tax gains of $9.0 million and $15.0 million, respectively, were reclassified from Accumulated other comprehensive loss into earnings (inclusive of the gain/loss amortization on terminated derivative instruments) during the periods in which the underlying hedged transactions affected earnings.
Interest Rate Contracts
The Company enters into interest rate swap agreements in order to obtain the lowest cost source of funds within a targeted range of variable to fixed-debt proportions. At October 1, 2016 and January 2, 2016, the Company had $400 million of forward starting swaps outstanding which were executed in 2014. The objective of the hedges is to offset the expected variability on future payments associated with the interest rate on debt instruments expected to be issued in 2018. Gains or losses on the
swaps are recorded in Accumulated other comprehensive loss and will be subsequently reclassified into earnings as the future interest expense is recognized in earnings or as ineffectiveness occurs.
Foreign Currency Contracts
Forward Contracts: Through its global businesses, the Company enters into transactions and makes investments denominated in multiple currencies that give rise to foreign currency risk. The Company and its subsidiaries regularly purchase inventory from subsidiaries with functional currencies different than their own, which creates currency-related volatility in the Company’s results of operations. The Company utilizes forward contracts to hedge these forecasted purchases and sales of inventory. Gains and losses reclassified from Accumulated other comprehensive loss for the effective portion of the hedge are recorded in Cost of sales. The ineffective portion, if any, as well as gains and losses incurred after a hedge has been de-designated are not recorded in Accumulated other comprehensive loss, but are recorded directly to the Consolidated Statements of Operations and Comprehensive Income in Other, net. At October 1, 2016, the notional value of forward currency contracts outstanding was $499.5 million, maturing on various dates through 2017. At January 2, 2016, the notional value of forward currency contracts outstanding was $439.3 million, maturing on various dates through 2017.
Purchased Option Contracts: The Company and its subsidiaries have entered into various intercompany transactions whereby the notional values are denominated in currencies other than the functional currencies of the party executing the trade. In order to better match the cash flows of its intercompany obligations with cash flows from operations, the Company enters into purchased option contracts. Gains and losses reclassified from Accumulated other comprehensive loss for the effective portions of the hedge are recorded in Cost of sales. The ineffective portion, if any, as well as gains and losses incurred after a hedge has been de-designated are not recorded in Accumulated other comprehensive loss, but are recorded directly to the Consolidated Statements of Operations and Comprehensive Income in Other, net. At October 1, 2016, the notional value of purchased option contracts was $187.8 million maturing on various dates through 2017. As of January 2, 2016, the notional value of purchased option contracts was $197.4 million, maturing on various dates through 2016.
FAIR VALUE HEDGES
Interest Rate Risk: In an effort to optimize the mix of fixed versus floating rate debt in the Company’s capital structure, the Company enters into interest rate swaps. In previous years, the Company entered into interest rate swaps on the first five years of the Company's $400 million 5.75% notes due 2053 and interest rate swaps with notional values which equaled the Company's $400 million 3.40% notes due 2021 and the Company's $150 million 7.05% notes due 2028. These interest rate swaps effectively converted the Company's fixed rate debt to floating rate debt based on LIBOR, thereby hedging the fluctuation in fair value resulting from changes in interest rates. In the second quarter of 2016, the Company terminated all of the above interest rate swaps. The terminations resulted in cash receipts of $27.0 million. This gain was deferred and will be amortized to earnings over the remaining life of the notes.
The changes in fair value of the interest rate swaps during the period were recognized in earnings as well as the offsetting changes in fair value of the underlying notes. There were no open contracts as of October 1, 2016. The notional value of open contracts was $950.0 million as of January 2, 2016. A summary of the fair value adjustments relating to these swaps is as follows (in millions):
|
| | | | | | | | | | | | | | | |
| Third Quarter 2016 | | Year-to-Date 2016 |
Income Statement Classification | Gain/(Loss) on Swaps* | | Gain /(Loss) on Borrowings | | Gain/(Loss) on Swaps* | | Gain /(Loss) on Borrowings |
Interest Expense | $ | — |
| | $ | — |
| | $ | (3.3 | ) | | $ | 3.8 |
|
|
| | | | | | | | | | | | | | | |
| Third Quarter 2015 | | Year-to-Date 2015 |
Income Statement Classification | Gain/(Loss) on Swaps* | | Gain /(Loss) on Borrowings | | Gain/(Loss) on Swaps* |
| Gain /(Loss) on Borrowings |
Interest Expense | $ | 24.3 |
| | $ | (23.9 | ) | | $ | 22.9 |
| | $ | (22.4 | ) |
*Includes ineffective portion and amount excluded from effectiveness testing.In addition to the fair value adjustments in the table above, the net swap accruals for each period and amortization of the gains on terminated swaps are also reported as a reduction of interest expense and totaled $0.8 million and $6.1 million for the three and nine months ended October 1, 2016, respectively, and $3.5 million and $10.9 million for the three and nine months ended October 3, 2015, respectively. Interest expense on the underlying debt was $19.9 million for the nine months ended October 1, 2016 and $11.7 million and $35.4 million for the three and nine months ended October 3, 2015, respectively. Due to the
termination of the Company’s interest rate swaps in the second quarter of 2016 as discussed above, there was no interest expense on the underlying debt which related to fair value hedges for the three months ended October 1, 2016.
NET INVESTMENT HEDGES
Foreign Exchange Contracts: The Company utilizes net investment hedges to offset the translation adjustment arising from re-measurement of its investment in the assets and liabilities of its foreign subsidiaries. The total after-tax amounts in Accumulated other comprehensive loss were gains of $47.0 million and $11.8 million at October 1, 2016 and January 2, 2016, respectively. As of October 1, 2016, the Company had foreign exchange forward contracts maturing on various dates through 2017 with notional values totaling $1.2 billion outstanding hedging a portion of its British pound sterling, Mexican peso, Swedish krona, Euro and Canadian dollar denominated net investments, and a cross currency swap with a notional value totaling $250.0 million maturing in 2023 hedging a portion of its Japanese yen denominated net investment. Of the $1.2 billion discussed above, $252.6 million hedging a portion of the British pound sterling net investments had been de-designated as of October 1, 2016. As of January 2, 2016, the Company had foreign exchange contracts maturing on various dates through 2016 with notional values totaling $1.9 billion outstanding hedging a portion of its British pound sterling, Mexican peso, Swedish krona, Japanese yen, Euro and Canadian dollar denominated net investments. For the nine months ended October 1, 2016 and October 3, 2015, maturing foreign exchange contracts resulted in net cash receipts of $63.3 million and $112.2 million, respectively. Gains and losses on net investment hedges remain in Accumulated other comprehensive income (loss) until disposal of the underlying assets. Gains and losses after a hedge has been de-designated are recorded directly to the Consolidated Statements of Operations and Comprehensive Income in Other, net.
The pre-tax gain or loss from fair value changes recorded in Accumulated other comprehensive loss was as follows (in millions):
|
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter 2016 | | Year-to-Date 2016 |
Income Statement Classification | Amount Recorded in OCI Gain (Loss) | | Effective Portion Recorded in Income Statement | | Ineffective Portion* Recorded in Income Statement | | Amount Recorded in OCI Gain (Loss) | | Effective Portion Recorded in Income Statement | | Ineffective Portion* Recorded in Income Statement |
Other, net | $ | 16.0 |
| | $ | — |
| | $ | — |
| | $ | 53.8 |
| | $ | — |
| | $ | — |
|
|
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter 2015 | | Year-to-Date 2015 |
Income Statement Classification | Amount Recorded in OCI Gain (Loss) | | Effective Portion Recorded in Income Statement | | Ineffective Portion* Recorded in Income Statement | | Amount Recorded in OCI Gain (Loss) | | Effective Portion Recorded in Income Statement | | Ineffective Portion* Recorded in Income Statement |
Other, net | $ | 40.8 |
| | $ | — |
| | $ | — |
| | $ | 38.3 |
| | $ | — |
| | $ | — |
|
*Includes ineffective portion and amount excluded from effectiveness testing.
UNDESIGNATED HEDGES
Foreign Exchange Contracts: Currency swaps and foreign exchange forward contracts are used to reduce risks arising from the change in fair value of certain foreign currency denominated assets and liabilities (such as affiliate loans, payables and receivables). The objective of these practices is to minimize the impact of foreign currency fluctuations on operating results. The total notional amount of the forward contracts outstanding at October 1, 2016 was $1.8 billion, maturing on various dates through 2017. In addition, $252.6 million of previously designated net investment hedges had been de-designated and were outstanding as of October 1, 2016. The total notional amount of the forward contracts outstanding at January 2, 2016 was $2.0 billion, maturing at various dates in 2016. The income statement impacts related to derivatives not designated as hedging instruments for the three and nine months ended October 1, 2016 and October 3, 2015 are as follows (in millions):
|
| | | | | | | | | |
Derivatives Not Designated as Hedging Instruments under ASC 815 | Income Statement Classification | | Third Quarter 2016 Amount of Gain (Loss) Recorded in Income on Derivative | | Year-to-Date 2016 Amount of Gain (Loss) Recorded in Income on Derivative |
Foreign Exchange Contracts | Other, net | | $ | 12.5 |
| | $ | (24.5 | ) |
|
| | | | | | | | | |
Derivatives Not Designated as Hedging Instruments under ASC 815 | Income Statement Classification | | Third Quarter 2015 Amount of Gain (Loss) Recorded in Income on Derivative | | Year-to-Date 2015 Amount of Gain (Loss) Recorded in Income on Derivative |
Foreign Exchange Contracts | Other, net | | $ | (33.4 | ) | | $ | (12.7 | ) |
J. Equity Arrangements
In February 2016, the Company repurchased 3,763,145 shares of common stock. Additionally, the Company net-share settled capped call options on its common stock and received 293,142 shares. See further discussion below.
During 2015, the Company repurchased a total of 6,623,709 shares of common stock. Additionally, the Company net-share settled capped call options on its common stock and received 2,603,855 shares during 2015.
In March 2015, the Company entered into a forward share purchase contract on its common stock. The contract obligates the Company to pay $350.0 million, plus an additional amount related to the forward component of the contract, to the financial institution counterparty not later than March 2017, or earlier at the Company’s option, for the 3,645,510 shares purchased. The reduction of common shares outstanding was recorded at the inception of the forward share purchase contract and factored into the calculation of weighted average shares outstanding at that time.
In October 2014, the Company entered into a forward share purchase contract on its common stock. The contract obligates the Company to pay $150.0 million, plus an additional amount related to the forward component of the contract, to the financial institution counterparty not later than October 2016, or earlier at the Company’s option, for the 1,603,822 shares purchased. The reduction of common shares outstanding was recorded at the inception of the forward share purchase contract and factored into the calculation of weighted average shares outstanding at that time.
In November 2013, the Company purchased from certain financial institutions “out-of-the-money” capped call options on 12.2 million shares of its common stock (subject to customary anti-dilution adjustments) for an aggregate premium of $73.5 million, or an average of $6.03 per share. The purpose of the capped call options was to hedge the risk of stock price appreciation between the lower and upper strike prices of the capped call options for a future share repurchase. In accordance with ASC 815-40, the premium paid was recorded as a reduction to equity. The contracts for the options provide that they may, at the Company’s election, subject to certain conditions, be cash settled, physically settled, modified-physically settled, or net-share settled (the default settlement method). The capped call options had various expiration dates and initially had an average lower strike price of $86.07 and an average upper strike price of $106.56, subject to customary market adjustments. In February 2015, the Company net-share settled 9.1 million of the 12.2 million capped call options on its common stock and received 911,077 shares using an average reference price of $96.46 per common share. Additionally, the Company purchased directly from the counterparties participating in the net-share settlement, 3,381,162 shares for $326.1 million, equating to an average price of $96.46 per share. In February 2016, the Company net-share settled the remaining 3.1 million capped call options on its common stock and received 293,142 shares using an average reference price of $94.34 per common share. Additionally, the Company purchased 1,316,858 shares directly from the counterparty participating in the net-share settlement for $124.2 million.
Equity Units and Capped Call Transactions
In December 2013, the Company issued Equity Units comprised of $345.0 million of Notes and Equity Purchase Contracts as described more fully in Note H, Long-Term Debt and Financing Arrangements, of the Company’s Form 10-K for the year ended January 2, 2016. The Equity Purchase Contracts obligate the holders to purchase on November 17, 2016, for $100.00, between 1.0122 and 1.2399 shares of the Company’s common stock, which are equivalent to an initial settlement price of $98.80 and $80.65, respectively, per share of common stock. As of October 1, 2016, due to the customary anti-dilution provisions, the settlement rate on the Equity Units Stock was 1.0157 (equivalent to a conversion price of approximately $98.46 per common share). Upon the November 17, 2016 settlement date, the Company will issue approximately 3.5 to 4.3 million shares of common stock, subject to customary anti-dilution adjustments, and expects to receive additional cash proceeds of $345.0 million. If a fundamental change occurs, in certain circumstances, the number of shares of common stock deliverable upon settlement of the Equity Purchase Contracts will be increased by the make-whole amount, resulting in the issuance of a maximum of approximately 4.9 million shares of common stock. Holders may elect to settle their Equity Purchase Contracts early in cash prior to November 17, 2016.
Contemporaneously with the issuance of the Equity Units described above, the Company paid $9.7 million, or an average of $2.77 per option, to enter into capped call transactions on 3.5 million shares of common stock with a major financial institution. The purpose of the capped call transactions is to offset the potential economic dilution associated with the common shares issuable upon the settlement of the Equity Purchase Contracts. With respect to the impact on the Company, the capped call
transactions and the Equity Units, when taken together, result in the economic equivalent of having the conversion price on the Equity Units at $112.53, the upper strike price of the capped call as of October 1, 2016. Refer to Note H, Long-Term Debt and Financing Arrangements, of the Company’s Form 10-K for the year ended January 2, 2016. In accordance with ASC 815-40, the $9.7 million premium paid was recorded as a reduction to equity.
The capped call transactions cover, subject to customary anti-dilution adjustments, the number of shares equal to the number of shares issuable upon settlement of the Equity Purchase Contracts at the 1.0122 minimum settlement rate. The capped call transactions have a term of approximately three years and initially had a lower strike price of $98.80, which corresponds to the minimum settlement rate of the Equity Purchase Contracts, and an upper strike price of $112.91, which is approximately 40% higher than the closing price of the Company’s common stock on November 25, 2013, and are subject to customary anti-dilution adjustments. The capped call transactions may be settled by net-share settlement (the default settlement method) or, at the Company’s option and subject to certain conditions, cash settlement, physical settlement or modified physical settlement. The aggregate fair value of the options at October 1, 2016 was $48.0 million.
K. Accumulated Other Comprehensive Loss
The following tables summarize the changes in the accumulated balances for each component of accumulated other comprehensive loss: |
| | | | | | | | | | | | | | | | | | | | |
(Millions of Dollars) | | Currency translation adjustment and other | | Unrealized losses on cash flow hedges, net of tax | | Unrealized gains on net investment hedges, net of tax | | Pension (losses) gains, net of tax | | Total |
Balance - January 2, 2016 | | $ | (1,300.9 | ) | | $ | (52.1 | ) | | $ | 11.8 |
| | $ | (353.0 | ) | | $ | (1,694.2 | ) |
Other comprehensive income (loss) before reclassifications | | $ | 9.9 |
| | $ | (48.9 | ) | | $ | 35.2 |
| | $ | 13.9 |
| | $ | 10.1 |
|
Reclassification adjustments to earnings | | — |
| | (6.2 | ) | | — |
| | 8.5 |
| | 2.3 |
|
Net other comprehensive income (loss) | | $ | 9.9 |
| | $ | (55.1 | ) | | $ | 35.2 |
| | $ | 22.4 |
| | $ | 12.4 |
|
Balance - October 1, 2016 | | $ | (1,291.0 | ) | | $ | (107.2 | ) | | $ | 47.0 |
| | $ | (330.6 | ) | | $ | (1,681.8 | ) |
|
| | | | | | | | | | | | | | | | | | | | |
(Millions of Dollars) | | Currency translation adjustment and other | | Unrealized (losses) gains on cash flow hedges, net of tax | | Unrealized (losses) gains on net investment hedges, net of tax | | Pension (losses) gains, net of tax | | Total |
Balance - January 3, 2015 | | $ | (796.8 | ) | | $ | (50.9 | ) | | $ | (37.2 | ) | | $ | (385.3 | ) | | $ | (1,270.2 | ) |
Other comprehensive (loss) income before reclassifications | | $ | (358.6 | ) | | $ | 14.1 |
| | $ | 23.8 |
| | $ | 16.1 |
| | $ | (304.6 | ) |
Reclassification adjustments to earnings | | — |
| | (15.0 | ) | | — |
| | 8.1 |
| | (6.9 | ) |
Net other comprehensive (loss) income | | $ | (358.6 | ) | | $ | (0.9 | ) | | $ | 23.8 |
| | $ | 24.2 |
| | $ | (311.5 | ) |
Balance - October 3, 2015 | | $ | (1,155.4 | ) | | $ | (51.8 | ) | | $ | (13.4 | ) | | $ | (361.1 | ) | | $ | (1,581.7 | ) |
The reclassifications out of accumulated other comprehensive loss for the nine months ended October 1, 2016 and October 3, 2015 were as follows (in millions):
|
| | | | | | | | | | |
Reclassifications from Accumulated other comprehensive loss to earnings | | 2016 | | 2015 | | Affected line item in Consolidated Statements of Operations And Comprehensive Income |
Realized gains on cash flow hedges | | $ | 21.3 |
| | $ | 39.8 |
| | Cost of sales |
Realized losses on cash flow hedges | | (11.2 | ) | | (11.3 | ) | | Interest expense |
Total before taxes | | $ | 10.1 |
| | $ | 28.5 |
| | |
Tax effect | | (3.9 | ) | | (13.5 | ) | | Income taxes on continuing operations |
Realized gains on cash flow hedges, net of tax | | $ | 6.2 |
| | $ | 15.0 |
| | |
Amortization of defined benefit pension items: | | | | | | |
Actuarial losses and prior service costs / credits | | $ | (7.8 | ) | | $ | (7.1 | ) | | Cost of sales |
Actuarial losses and prior service costs / credits | | (5.2 | ) | | (4.7 | ) | | Selling, general and administrative |
Total before taxes | | $ | (13.0 | ) | | $ | (11.8 | ) | | |
Tax effect | | 4.5 |
| | 3.7 |
| | Income taxes on continuing operations |
Amortization of defined benefit pension items, net of tax | | $ | (8.5 | ) | | $ | (8.1 | ) | | |
L. Net Periodic Benefit Cost — Defined Benefit Plans
Following are the components of net periodic pension (benefit) expense for the three and nine months ended October 1, 2016 and October 3, 2015:
|
| | | | | | | | | | | | | | | | | | | | | | | |
| Third Quarter |
| Pension Benefits | | Other Benefits |
| U.S. Plans | | Non-U.S. Plans | | All Plans |
(Millions of Dollars) | 2016 | | 2015 | | 2016 | | 2015 | | 2016 | | 2015 |
Service cost | $ | 2.3 |
| | $ | 1.7 |
| | $ | 3.1 |
| | $ | 3.6 |
| | $ | 0.2 |
| | $ | 0.1 |
|
Interest cost | 11.3 |
| | 13.5 |
| | 9.0 |
| | 11.4 |
| | 0.4 |
| | 0.6 |
|
Expected return on plan assets | (17.0 | ) | | (18.7 | ) | | (10.8 | ) | | (14.3 | ) | | — |
| | — |
|
Amortization of prior service cost (credit) | 1.3 |
| | 0.3 |
| | 0.1 |
| | 0.4 |
| | (0.3 | ) | | (0.4 | ) |
Amortization of net loss | 1.8 |
| | 1.9 |
| | 1.4 |
| | 1.5 |
| | — |
| | — |
|
Settlement / curtailment loss | — |
| | — |
| | 0.3 |
| | 0.4 |
| | — |
| | — |
|
Net periodic pension (benefit) expense | $ | (0.3 | ) | | $ | (1.3 | ) | | $ | 3.1 |
| | $ | 3.0 |
| | $ | 0.3 |
| | $ | 0.3 |
|
|
| | | | | | | | | | | | | | | | | | | | | | | |
| Year-to-Date |
| Pension Benefits | | Other Benefits |
| U.S. Plans | | Non-U.S. Plans | | All Plans |
(Millions of Dollars) | 2016 | | 2015 | | 2016 | | 2015 | | 2016 | | 2015 |
Service cost | $ | 7.0 |
| | $ | 5.2 |
| | $ | 9.5 |
| | $ | 10.8 |
| | $ | 0.5 |
| | $ | 0.4 |
|
Interest cost | 34.0 |
| | 40.4 |
| | 28.4 |
| | 35.2 |
| | 1.2 |
| | 1.7 |
|
Expected return on plan assets | (50.9 | ) | | (56.1 | ) | | (34.3 | ) | | (42.5 | ) | | — |
| | — |
|
Amortization of prior service cost (credit) | 3.9 |
| | 0.7 |
| | 0.2 |
| | 0.6 |
| | (0.9 | ) | | (1.0 | ) |
Amortization of net loss | 5.3 |
| | 5.8 |
| | 4.5 |
| | 5.7 |
| | — |
| | — |
|
Settlement / curtailment loss | — |
| | — |
| | 0.4 |
| | 0.7 |
| | — |
| | — |
|
Net periodic pension (benefit) expense | $ | (0.7 | ) | | $ | (4.0 | ) | | $ | 8.7 |
| | $ | 10.5 |
| | $ | 0.8 |
| | $ | 1.1 |
|
In the first quarter of 2016, the Company changed the method used to estimate the service and interest cost components of net periodic pension (benefit) expense. The new estimation method uses a full yield curve approach by applying specific spot rates along the yield curve used in the determination of the pension benefit obligation, to their underlying projected cash flows, and provides a more precise measurement of the service and interest cost components. Previously, the Company used a single weighted average discount rate derived from the corresponding yield curve used to measure the pension benefit obligation. The
change is applied prospectively as a change in estimate that is inseparable from a change in accounting principle and reduced service and interest cost for the three and nine months ended October 1, 2016 by approximately $3.4 million and $10.5 million, respectively.
M. Fair Value Measurements
FASB ASC 820, "Fair Value Measurement," defines, establishes a consistent framework for measuring, and expands disclosure requirements about fair value. ASC 820 requires the Company to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s market assumptions. These two types of inputs create the following fair value hierarchy:
Level 1 — Quoted prices for identical instruments in active markets.
Level 2 — Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations whose inputs and significant value drivers are observable.
Level 3 — Instruments that are valued using unobservable inputs.
The Company holds various derivative financial instruments that are employed to manage risks, including foreign currency and interest rate exposures. These financial instruments are carried at fair value and are included within the scope of ASC 820. The Company determines the fair value of derivatives through the use of matrix or model pricing, which utilizes observable inputs such as market interest and currency rates. When determining the fair value of these financial instruments for which Level 1 evidence does not exist, the Company considers various factors including the following: exchange or market price quotations of similar instruments, time value and volatility factors, the Company’s own credit rating and the credit rating of the counter-party.
The following table presents the Company’s financial assets and liabilities that are measured at fair value on a recurring basis for each of the hierarchy levels:
|
| | | | | | | | | | | |
(Millions of Dollars) | Total Carrying Value | | Level 1 | | Level 2 |
October 1, 2016 | | | | | |
Money market fund | $ | 5.7 |
| | $ | 5.7 |
| | $ | — |
|
Derivative assets | $ | 96.2 |
| | $ | — |
| | $ | 96.2 |
|
Derivative liabilities | $ | 192.9 |
| | $ | — |
| | $ | 192.9 |
|
January 2, 2016 | | | | | |
Money market fund | $ | 7.0 |
| | $ | 7.0 |
| | $ | — |
|
Derivative assets | $ | 79.3 |
| | $ | — |
| | $ | 79.3 |
|
Derivative liabilities | $ | 96.1 |
| | $ | — |
| | $ | 96.1 |
|
The following table presents the carrying values and fair values of the Company's financial assets and liabilities, as well as the Company's debt, as of October 1, 2016 and January 2, 2016:
|
| | | | | | | | | | | | | | | |
| October 1, 2016 | | January 2, 2016 |
(Millions of Dollars) | Carrying Value | | Fair Value | | Carrying Value | | Fair Value |
Other investments | $ | 10.3 |
| | $ | 10.7 |
| | $ | 11.7 |
| | $ | 11.7 |
|
Derivative assets | $ | 96.2 |
| | $ | 96.2 |
| | $ | 79.3 |
| | $ | 79.3 |
|
Derivative liabilities | $ | 192.9 |
| | $ | 192.9 |
| | $ | 96.1 |
| | $ | 96.1 |
|
Long-term debt, including current portion | $ | 3,822.3 |
| | $ | 4,233.5 |
| | $ | 3,797.2 |
| | $ | 4,034.4 |
|
The Company had no significant non-recurring fair value measurements, nor any financial assets or liabilities measured using Level 3 inputs, during the first nine months of 2016 or 2015.
The money market fund and other investments outlined in the tables above relate to the West Coast Loading Corporation ("WCLC") trust and are considered Level 1 instruments within the fair value hierarchy. The long-term debt instruments are considered Level 2 instruments and are measured using the stated cash flows in each obligation discounted at the Company’s marginal borrowing rates. The differences between the carrying values and fair values of long-term debt are attributable to the stated interest rates differing from the Company's marginal borrowing rates. The fair values of the Company's variable rate short-term borrowings approximate their carrying values at October 1, 2016 and January 2, 2016. The fair values of foreign
currency and interest rate swap agreements, comprising the derivative assets and liabilities in the table above, are based on current settlement values.
As discussed in Note D, Financing Receivables, the Company has a deferred purchase price receivable related to sales of trade receivables. The deferred purchase price receivable will be repaid in cash as receivables are collected, generally within 30 days, and as such the carrying value of the receivable approximates fair value.
Refer to Note I, Derivative Financial Instruments, for more details regarding derivative financial instruments, Note R, Commitments and Contingencies, for more details regarding the other investments related to the WCLC trust, and Note H, Long-Term Debt and Financing Arrangements, for more information regarding the carrying values of the long-term debt.
N. Other Costs and Expenses
Other, net is primarily comprised of intangible asset amortization expense, currency related gains or losses, environmental remediation expense, and acquisition-related costs.
O. Restructuring Charges
A summary of the restructuring reserve activity from January 2, 2016 to October 1, 2016 is as follows:
|
| | | | | | | | | | | | | | | | | | | |
(Millions of Dollars) | January 2, 2016 | | Net Additions | | Usage | | Currency | | October 1, 2016 |
Severance and related costs | $ | 44.3 |
| | $ | 18.1 |
| | $ | (39.7 | ) | | $ | 0.4 |
| | $ | 23.1 |
|
Facility closures and asset impairments | 14.4 |
| | 9.2 |
| | (19.1 | ) | | — |
| | 4.5 |
|
Total | $ | 58.7 |
| | $ | 27.3 |
| | $ | (58.8 | ) | | $ | 0.4 |
| | $ | 27.6 |
|
For the nine months ended October 1, 2016, the Company recognized net restructuring charges of $27.3 million. This amount reflects $18.1 million of net severance charges associated with the reduction of approximately 872 employees. The Company also had $4.8 million of facility closure costs and $4.4 million of asset impairments.
For the three months ended October 1, 2016, the Company recognized net restructuring charges of $9.1 million. This amount reflects $8.4 million of net severance charges associated with the reduction of approximately 270 employees. The Company also had $0.6 million of facility closure costs and $0.1 million of asset impairments.
The majority of the $27.6 million of reserves remaining as of October 1, 2016 is expected to be utilized within the next 12 months.
Segments: The $27 million net restructuring charge for the nine months ended October 1, 2016 includes: $3 million of net charges pertaining to the Tools & Storage segment; $12 million of net charges pertaining to the Security segment; $6 million of net charges pertaining to the Industrial segment; and $6 million of net charges pertaining to Corporate.
The $9 million net restructuring charge for the three months ended October 1, 2016 includes: $2 million of net charges pertaining to the Tools & Storage segment; $4 million of net charges pertaining to the Security segment; $2 million of net charges pertaining to the Industrial segment; and $1 million of net charges pertaining to Corporate.
The Company recognized income tax expense of $78.7 million and $234.7 million for the three and nine months ended October 1, 2016, respectively, resulting in effective tax rates of 24.0% and 24.9%, respectively. The effective tax rates differ from the U.S. statutory tax rate during these periods primarily due to a portion of the Company’s earnings being realized in lower-taxed foreign jurisdictions, the finalization of audit settlements during the first quarter of 2016, adjustments to tax positions relating to undistributed foreign earnings during the second and third quarters of 2016, and adjustments relating to the filing of certain U.S. and foreign corporate income tax returns during the third quarter of 2016.
The Company recognized income tax expense of $75.7 million and $209.5 million for the three and nine months ended October 3, 2015, respectively, resulting in effective tax rates of 24.5% and 24.8%, respectively. The effective tax rates differed from the U.S. statutory tax rate during these periods primarily due to a portion of the Company’s earnings being realized in lower-taxed foreign jurisdictions and the reduction of certain potential foreign tax exposures, largely due to statute expirations. The income tax expense for the nine month period ended October 3, 2015 also included benefits related to the reversal of valuation allowances for certain foreign deferred tax assets which had become realizable.
The Company is subject to the examination of its income tax returns by the Internal Revenue Service and other taxing authorities both domestically and internationally. The final outcome of the future tax consequences of these examinations and legal proceedings, as well as the outcome of competent authority proceedings, changes and interpretation in regulatory tax laws, or expiration of statute of limitations could impact the Company’s financial statements. Accordingly, the Company has tax reserves recorded for which it is reasonably possible that the amount of the unrecognized tax benefit will increase or decrease which could have a material effect on the financial results for any particular fiscal quarter or year. However, based on the uncertainties associated with litigation and the status of examinations, including the protocols of finalizing audits by the relevant tax authorities which could include formal legal proceedings, it is not possible to estimate the impact of any such change.
Q. Business Segments
The Company's operations are classified into three reportable business segments, which also represent its operating segments: Tools & Storage, Security and Industrial.
The Tools & Storage segment is comprised of the Power Tools and Hand Tools & Storage businesses. The Power Tools business includes professional products, consumer products and power tool accessories. Professional products include professional grade corded and cordless electric power tools and equipment including drills, impact wrenches and drivers, grinders, saws, routers and sanders, as well as pneumatic tools and fasteners including nail guns, nails, staplers and staples, concrete and masonry anchors. Consumer products include corded and cordless electric power tools sold primarily under the BLACK+DECKER brand, lawn and garden products, including hedge trimmers, string trimmers, lawn mowers, edgers and related accessories, and home products such as hand-held vacuums, paint tools and cleaning appliances. Power tool accessories include drill bits, router bits, abrasives and saw blades.
The Hand Tools & Storage business sells measuring, leveling and layout tools, planes, hammers, demolition tools, knives, saws, chisels and industrial and automotive tools. Storage products include tool boxes, sawhorses, medical cabinets and engineered storage solution products.
The Security segment is comprised of the Convergent Security Solutions ("CSS") and Mechanical Access Solutions ("MAS") businesses. The CSS business designs, supplies and installs electronic security systems and provides electronic security services, including alarm monitoring, video surveillance, fire alarm monitoring, systems integration and system maintenance. Purchasers of these systems typically contract for ongoing security systems monitoring and maintenance at the time of initial equipment installation. The business also sells healthcare solutions, which include asset tracking solutions, infant protection, pediatric protection, patient protection, wander management, fall management, and emergency call products. The MAS business sells automatic doors, commercial hardware, locking mechanisms, electronic keyless entry systems, keying systems, tubular and mortise door locksets.
The Industrial segment is comprised of the Engineered Fastening and Infrastructure businesses. The Engineered Fastening business primarily sells engineered fastening products and systems designed for specific applications. The product lines include stud welding systems, blind rivets and tools, blind inserts and tools, drawn arc weld studs, engineered plastic and mechanical fasteners, self-piercing riveting systems, precision nut running systems, micro fasteners, and high-strength structural fasteners. The Infrastructure business consists of the Oil & Gas and Hydraulics businesses. The Oil & Gas business sells and rents custom pipe handling, joint welding and coating equipment used in the construction of large and small diameter pipelines, and provides pipeline inspection services. The Hydraulics business sells hydraulic tools and accessories.
The Company utilizes segment profit, which is defined as net sales minus cost of sales and SG&A inclusive of the provision for doubtful accounts (aside from corporate overhead expense), and segment profit as a percentage of net sales to assess the profitability of each segment. Segment profit excludes the corporate overhead expense element of SG&A, interest income, interest expense, other, net (inclusive of intangible asset amortization expense), restructuring charges, and income taxes. Refer to Note O, Restructuring Charges, for the amount of net restructuring charges by segment. Corporate overhead is comprised of world headquarters facility expense, cost for the executive management team and cost for certain centralized functions that benefit the entire Company but are not directly attributable to the businesses, such as legal and corporate finance functions. Transactions between segments are not material. Segment assets primarily include cash, accounts receivable, inventory, other current assets, property, plant and equipment, intangible assets and other miscellaneous assets.
|
| | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
(Millions of Dollars) | 2016 | | 2015 | | 2016 | | 2015 |
NET SALES | | | | | | | |
Tools & Storage | $ | 1,896.9 |
| | $ | 1,838.2 |
| | $ | 5,535.4 |
| | $ | 5,309.8 |
|
Security | 522.7 |
| | 512.0 |
| | 1,564.6 |
| | 1,554.9 |
|
Industrial | 462.4 |
| | 479.3 |
| | 1,386.5 |
| | 1,461.7 |
|
Total | $ | 2,882.0 |
| | $ | 2,829.5 |
| | $ | 8,486.5 |
| | $ | 8,326.4 |
|
SEGMENT PROFIT | | | | | | | |
Tools & Storage | $ | 330.0 |
| | $ | 307.8 |
| | $ | 954.5 |
| | $ | 866.2 |
|
Security | 71.4 |
| | 60.8 |
| | 199.3 |
| | 170.8 |
|
Industrial | 80.4 |
| | 85.4 |
| | 235.2 |
| | 254.4 |
|
Segment profit | 481.8 |
| | 454.0 |
| | 1,389.0 |
| | 1,291.4 |
|
Corporate overhead | (43.1 | ) | | (35.3 | ) | | (138.5 | ) | | (109.4 | ) |
Other, net | (56.8 | ) | | (54.0 | ) | | (150.6 | ) | | (168.2 | ) |
Restructuring charges | (9.1 | ) | | (14.0 | ) | | (27.3 | ) | | (43.9 | ) |
Interest expense | (50.2 | ) | | (45.2 | ) | | (145.2 | ) | | (135.8 | ) |
Interest income | 5.1 |
| | 3.6 |
| | 16.4 |
| | 10.3 |
|
Earnings from continuing operations before income taxes | $ | 327.7 |
| | $ | 309.1 |
| | $ | 943.8 |
| | $ | 844.4 |
|
The following table is a summary of total assets by segment as of October 1, 2016 and January 2, 2016:
|
| | | | | | | |
(Millions of Dollars) | October 1, 2016 | | January 2, 2016 |
Tools & Storage | $ | 8,922.0 |
| | $ | 8,492.9 |
|
Security | 3,802.1 |
| | 3,741.6 |
|
Industrial | 3,501.9 |
| | 3,438.7 |
|
| 16,226.0 |
| | 15,673.2 |
|
Corporate assets | (505.3 | ) | | (545.4 | ) |
Consolidated | $ | 15,720.7 |
| | $ | 15,127.8 |
|
Corporate assets primarily consist of cash, deferred taxes and property, plant and equipment. Based on the nature of the Company's cash pooling arrangements, at times corporate-related cash accounts will be in a net liability position.
| |
R. | Commitments and Contingencies |
The Company is involved in various legal proceedings relating to environmental issues, employment, product liability, workers’ compensation claims and other matters. The Company periodically reviews the status of these proceedings with both inside and outside counsel, as well as an actuary for risk insurance. Management believes that the ultimate disposition of these matters will not have a material adverse effect on operations or financial condition taken as a whole.
In connection with the 2010 merger with Black & Decker, the Company assumed certain commitments and contingent liabilities. Black & Decker is a party to litigation and administrative proceedings with respect to claims involving the discharge of hazardous substances into the environment. Some of these assert claims for damages and liability for remedial investigations and clean-up costs with respect to sites that have never been owned or operated by Black & Decker but at which Black & Decker has been identified as a potentially responsible party ("PRP"). Other matters involve current and former manufacturing facilities.
The Environmental Protection Agency (“EPA”) has asserted claims in federal court in Rhode Island against certain current and former affiliates of Black & Decker related to environmental contamination found at the Centredale Manor Restoration Project Superfund ("Centredale") site, located in North Providence, Rhode Island. The EPA has discovered a variety of contaminants at the site, including but not limited to, dioxins, polychlorinated biphenyls, and pesticides. The EPA alleges that Black & Decker and certain of its current and former affiliates are liable for site clean-up costs under the Comprehensive Environmental Response, Compensation, and Liability Act ("CERCLA") as successors to the liability of Metro-Atlantic, Inc., a former operator at the site, and demanded reimbursement of the EPA’s costs related to this site. Black & Decker and certain of its current and former affiliates contest the EPA's allegation that they are responsible for the contamination, and have asserted
contribution claims, counterclaims and cross-claims against a number of other PRPs, including the federal government as well as insurance carriers. The EPA released its Record of Decision ("ROD") in September 2012, which identified and described the EPA's selected remedial alternative for the site. Black & Decker and certain of its current and former affiliates are contesting the EPA's selection of the remedial alternative set forth in the ROD, on the grounds that the EPA's actions were arbitrary and capricious and otherwise not in accordance with law, and have proposed other equally-protective, more cost-effective alternatives. On June 10, 2014, the EPA issued an Administrative Order under Sec. 106 of CERCLA, instructing Emhart Industries, Inc. and Black & Decker to perform the remediation of Centredale pursuant to the ROD. Black & Decker and Emhart Industries, Inc. dispute the factual, legal and scientific bases cited by the EPA for such an Order and have provided the EPA with numerous good-faith bases for Black & Decker’s and Emhart Industries, Inc.’s declination to comply with the Order at this time. Black & Decker and Emhart Industries, Inc. continue to vigorously litigate the issue of their liability for environmental conditions at the Centredale site, including the completion of the Phase 1 trial in late July, 2015. The Court in this initial phase of trial found that dioxin contamination at the Centredale site was not “divisible”, and that Emhart was jointly and severally liable for dioxin contamination at the Site. The next two phases of trial will address whether the EPA’s proposed remedy for the Site is “arbitrary and capricious”, and if necessary, the allocation of liability to other parties who may have contributed to contamination of the Site with dioxins, PCB’s and other contaminants of concern. The second phase of the trial addressing the remedy and certain other issues commenced on September 26, 2016. The Company's estimated remediation costs related to the Centredale site (including the EPA’s past costs as well as costs of additional investigation, remediation, and related costs such as EPA’s oversight costs, less escrowed funds contributed by primary PRPs who have reached settlement agreements with the EPA), which the Company considers to be probable and reasonably estimable, range from approximately $68.1 million to $139.7 million, with no amount within that range representing a more likely outcome until such time as the litigation is resolved through judgment or compromise. The Company’s reserve for this environmental remediation matter of $68.1 million reflects the fact that the EPA considers Metro-Atlantic, Inc. to be a primary source of contamination at the site. As the specific nature of the environmental remediation activities that may be mandated by the EPA at this site have not yet been finally determined through the on-going litigation, the ultimate remedial costs associated with the site may vary from the amount accrued by the Company at October 1, 2016.
In the normal course of business, the Company is involved in various lawsuits and claims. In addition, the Company is a party to a number of proceedings before federal and state regulatory agencies relating to environmental remediation. Also, the Company, along with many other companies, has been named as a PRP in a number of administrative proceedings for the remediation of various waste sites, including 31 active Superfund sites. Current laws potentially impose joint and several liabilities upon each PRP. In assessing its potential liability at these sites, the Company has considered the following: whether responsibility is being disputed, the terms of existing agreements, experience at similar sites, and the Company’s volumetric contribution at these sites.
The Company’s policy is to accrue environmental investigatory and remediation costs for identified sites when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. In the event that no amount in the range of probable loss is considered most likely, the minimum loss in the range is accrued. The amount of liability recorded is based on an evaluation of currently available facts with respect to each individual site and includes such factors as existing technology, presently enacted laws and regulations, and prior experience in remediation of contaminated sites. The liabilities recorded do not take into account any claims for recoveries from insurance or third parties. As assessments and remediation progress at individual sites, the amounts recorded are reviewed periodically and adjusted to reflect additional technical and legal information that becomes available. As of October 1, 2016 and January 2, 2016 the Company had reserves of $162.6 million and $170.7 million, respectively, for remediation activities associated with Company-owned properties, as well as for Superfund sites, for losses that are probable and estimable. Of the 2016 amount, $19.0 million is classified as current and $143.6 million as long-term which is expected to be paid over the estimated remediation period. As of October 1, 2016, the Company has recorded $16.0 million in other assets related to funding received by the EPA and placed in a trust in accordance with the final settlement with the EPA, embodied in a Consent Decree approved by the United States District Court for the Central District of California on July 3, 2013. Per the Consent Decree, Emhart Industries, Inc. (a dissolved, former indirectly wholly-owned subsidiary of The Black & Decker Corporation) (“Emhart”) has agreed to be responsible for an interim remedy at a site located in Rialto, California and formerly operated by West Coast Loading Corporation (“WCLC”), a defunct company for which Emhart was alleged to be liable as a successor. The remedy will be funded by (i) the amounts received from the EPA as gathered from multiple parties, and, to the extent necessary, (ii) Emhart's affiliate. The interim remedy requires the construction of a water treatment facility and the filtering of ground water at or around the site for a period of approximately 30 years or more. Accordingly, as of October 1, 2016, the Company's cash obligation associated with the aforementioned remediation activities including WCLC is $146.6 million. The range of environmental remediation costs that is reasonably possible is $123.7 million to $264.7 million which is subject to change in the near term. The Company may be liable for environmental remediation of sites it no longer owns. Liabilities have been recorded on those sites in accordance with policy.
The Company and approximately 60 other companies comprise the Lower Passaic Cooperating Parties Group (the “CPG”). The CPG members and other companies are parties to a May 2007 Administrative Settlement Agreement and Order on Consent (“AOC”) with the EPA to perform a remedial investigation/feasibility study (“RI/FS”) of the lower seventeen miles of the Lower Passaic River in New Jersey (the “River”). The Company’s potential liability stems from former operations in Newark, New Jersey. As an interim step related to the 2007 AOC, on June 18, 2012, the CPG members voluntarily entered into an AOC with the EPA for remediation actions focused solely at mile 10.9 of the River. The Company’s estimated costs related to the RI/FS and focused remediation action at mile 10.9, based on an interim allocation, are included in its environmental reserves. On April 11, 2014, the EPA issued a Focused Feasibility Study (“FFS”) and proposed plan which addressed various early action remediation alternatives for the lower 8.3 miles of the River. The EPA received public comment on the FFS and proposed plan (including comments from the CPG and other entities asserting that the FFS and proposed plan do not comply with CERCLA) which public comment period ended on August 20, 2014. The CPG submitted to the EPA a draft RI report in February 2015 and draft FS report in April 2015 for the entire lower seventeen miles of the River. On March 4, 2016, the EPA issued a Record of Decision selecting the remedy for the lower 8.3 miles of the River. The cleanup plan adopted by the EPA is now considered a final action for the lower 8.3 miles of the River and will include the removal of 3.5 million cubic yards of sediment, placement of a cap over the entire lower 8.3 miles of the River, and, according to the EPA, will cost approximately $1.4 billion and take 6 years to implement after the remedial design is completed. (The EPA estimates that the remedial design will take four years to complete.) The Company and 105 other parties received a letter dated March 31, 2016 from the EPA notifying such parties of potential liability for the costs of the cleanup of the lower 8.3 miles of the River. There has been no determination as to how the RI/FS will be modified in light of the EPA’s decision to implement a final action for the lower 8.3 miles of the River. At this time, the Company cannot reasonably estimate its liability related to the remediation efforts, excluding the RI/FS and remediation actions at mile 10.9, as the RI/FS is ongoing, the ultimate remedial approach and associated cost for the upper portion of the River has not yet been determined, and the parties that will participate in funding the remediation and their respective allocations are not yet known. On September 30, 2016, Occidental Chemical Corporation entered into an agreement with EPA to perform the remedial design for the cleanup plan for the lower 8.3 miles of the river.
The amount recorded for identified contingent liabilities is based on estimates. Amounts recorded are reviewed periodically and adjusted to reflect additional technical and legal information that becomes available. Actual costs to be incurred in future periods may vary from the estimates, given the inherent uncertainties in evaluating certain exposures. Subject to the imprecision in estimating future contingent liability costs, the Company does not expect that any sum it may have to pay in connection with these matters in excess of the amounts recorded will have a materially adverse effect on its financial position, results of operations or liquidity.
S. Guarantees
The Company’s financial guarantees at October 1, 2016 are as follows:
|
| | | | | | | | | |
(Millions of Dollars) | Term | | Maximum Potential Payment | | Carrying Amount of Liability |
Guarantees on the residual values of leased properties | One to five years | | $ | 59.4 |
| | $ | — |
|
Standby letters of credit | Up to three years | | 77.7 |
| | — |
|
Commercial customer financing arrangements | Up to six years | | 66.7 |
| | 18.1 |
|
Total | | | $ | 203.8 |
| | $ | 18.1 |
|
The Company has guaranteed a portion of the residual values of leased properties arising from its synthetic lease program. The lease guarantees are for an amount up to $59.4 million while the fair value of the underlying buildings is estimated at $67.2 million. The related assets would be available to satisfy the guarantee obligations and therefore it is unlikely the Company will incur any future loss associated with these guarantees.
The Company has issued $77.7 million in standby letters of credit that guarantee future payments which may be required under certain insurance programs.
The Company provides various limited and full recourse guarantees to financial institutions that provide financing to U.S. and Canadian Mac Tool distributors and franchisees for their initial purchase of the inventory and trucks necessary to function as a distributor and franchisee. In addition, the Company provides limited and full recourse guarantees to financial institutions that extend credit to certain end retail customers of its U.S. Mac Tool distributors and franchisees. The gross amount guaranteed in these arrangements is $66.7 million and the $18.1 million carrying value of the guarantees issued is recorded in debt and other liabilities as appropriate in the Condensed Consolidated Balance Sheets.
The Company provides product and service warranties which vary across its businesses. The types of warranties offered generally range from one year to limited lifetime, while certain products carry no warranty. Further, the Company sometimes incurs discretionary costs to service its products in connection with product performance issues. Historical warranty and service claim experience forms the basis for warranty obligations recognized. Adjustments are recorded to the warranty liability as new information becomes available.
The changes in the carrying amount of product and service warranties for the nine months ended October 1, 2016 and October 3, 2015 are as follows:
|
| | | | | | | |
(Millions of Dollars) | 2016 | | 2015 |
Balance beginning of period | $ | 105.4 |
| | $ | 109.6 |
|
Warranties and guarantees issued | 71.4 |
| | 68.9 |
|
Warranty payments and currency | (69.6 | ) | | (71.9 | ) |
Balance end of period | $ | 107.2 |
| | $ | 106.6 |
|
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion contains statements reflecting the Company's views about its future performance that constitute “forward-looking statements” under the Private Securities Litigation Act of 1995. There are a number of important factors that could cause actual results to differ materially from those indicated by such forward-looking statements. Please read the information under the caption entitled “Cautionary Statement under the Private Securities Litigation Reform Act of 1995.”
Throughout this Management's Discussion and Analysis (“MD&A”), references to Notes refer to the "Notes To (Unaudited) Condensed Consolidated Financial Statements" in Part 1, Item 1 of this Form 10-Q, unless otherwise indicated.
BUSINESS OVERVIEW
Strategy
The Company is a diversified global provider of hand tools, power tools and related accessories, mechanical access solutions (i.e. automatic doors and commercial locking systems), electronic security and monitoring systems, healthcare solutions, engineered fastening systems and products and services for various industrial applications. The Company is continuing to pursue an organic growth and acquisition strategy that involves industry, geographic and customer diversification to foster sustainable revenue, earnings and cash flow growth. The Company is focused on growing organically, including increasing its presence in emerging markets, with a goal of generating greater than 20% of annual revenues from those markets over time, and leveraging the Stanley Fulfillment System, a now expanded program ("SFS 2.0") focused on upgrading innovation and digital capabilities while maintaining commercial and supply chain excellence, and funding required investments, in part, through functional transformation. In June 2016, the Company announced the launch of its DEWALT FLEXVOLT ™ battery system representing the first major output of the SFS 2.0 Breakthrough Innovation initiative. This new battery technology changes voltages as the user changes tools, allowing for 20V - 60V - 120V (when two batteries are combined) power all within the same battery system, which is fully backward compatible with the Company's existing 20V line of cordless tools.
The Company recently announced that it has entered into a definitive agreement to acquire the Tools business of Newell Brands ("Newell Tools"), discussed further below, which is an important step in the Company's quest to strengthen its presence in the global tools industry. In addition, the Company intends to pursue targets that expand the Industrial platform in Engineered Fastening and Infrastructure. The Company also remains focused on improving the operating results of the Security business and plans to communicate its strategic fit prior to the end of 2016.
In terms of capital allocation, the Company remains committed, over time, to returning approximately 50% of free cash flow to shareholders through a strong and growing dividend as well as opportunistically repurchasing shares. The remaining free cash flow (approximately 50%) will be deployed towards acquisitions.
Refer to the “Strategic Objectives” section of Management's Discussion and Analysis of Financial Condition and Results of Operations in the Company's Form 10-K for the year ended January 2, 2016 for additional strategic discussions.
Segments
The Company's operations are classified into three reportable business segments, which also represent its operating segments: Tools & Storage, Security and Industrial.
The Tools & Storage segment is comprised of the Power Tools and Hand Tools & Storage businesses. Revenues in the Tools & Storage segment were $7.1 billion in 2015, representing 64% of the Company’s total revenues.
The Power Tools business includes professional products, consumer products and power tool accessories. Professional products include professional grade corded and cordless electric power tools and equipment including drills, impact wrenches and drivers, grinders, saws, routers and sanders, as well as pneumatic tools and fasteners including nail guns, nails, staplers and staples, concrete and masonry anchors. Consumer products include corded and cordless electric power tools sold primarily under the BLACK+DECKER brand, lawn and garden products, including hedge trimmers, string trimmers, lawn mowers, edgers and related accessories, and home products such as hand-held vacuums, paint tools and cleaning appliances. Power tool accessories include drill bits, router bits, abrasives and saw blades.
The Hand Tools & Storage business sells measuring, leveling and layout tools, planes, hammers, demolition tools, knives, saws, chisels and industrial and automotive tools. Storage products include tool boxes, sawhorses, medical cabinets and engineered storage solution products.
Security
The Security segment is comprised of the Convergent Security Solutions ("CSS") and Mechanical Access Solutions ("MAS") businesses. Revenues in the Security segment were $2.1 billion in 2015, representing 19% of the Company’s total revenues.
The CSS business designs, supplies and installs electronic security systems and provides electronic security services, including alarm monitoring, video surveillance, fire alarm monitoring, systems integration and system maintenance. Purchasers of these systems typically contract for ongoing security systems monitoring and maintenance at the time of initial equipment installation. The business also sells healthcare solutions, which include asset tracking solutions, infant protection, pediatric protection, patient protection, wander management, fall management, and emergency call products.
The MAS business sells automatic doors, commercial hardware, locking mechanisms, electronic keyless entry systems, keying systems, tubular and mortise door locksets.
Industrial
The Industrial segment is comprised of the Engineered Fastening and Infrastructure businesses. Industrial segment revenues totaled $1.9 billion in 2015, representing 17% of the Company’s total revenues.
The Engineered Fastening business primarily sells engineered fastening products and systems designed for specific applications. The product lines include stud welding systems, blind rivets and tools, blind inserts and tools, drawn arc weld studs, engineered plastic and mechanical fasteners, self-piercing riveting systems, precision nut running systems, micro fasteners, and high-strength structural fasteners.
The Infrastructure business consists of the Oil & Gas and Hydraulics businesses. The Oil & Gas business sells and rents custom pipe handling, joint welding and coating equipment used in the construction of large and small diameter pipelines, and provides pipeline inspection services. The Hydraulics business sells hydraulic tools and accessories.
Acquisitions
On October 12, 2016, the Company announced that it had entered into a definitive agreement to acquire the Tools business of Newell Brands, which includes the highly attractive industrial cutting, hand tool and power tool accessory brands Irwin® and Lenox®, for $1.95 billion in cash. This acquisition will enhance the Company’s position within the global tools & storage industry and broadens the Company’s product offerings and solutions to customers and end-users, particularly within power tool accessories. The acquisition of Newell Tools is expected to be approximately $0.15 accretive to the Company's diluted earnings per share in the first year after closing (increasing to approximately $0.50 accretive to diluted earnings per share by year three), excluding approximately $125 to $140 million of restructuring and other deal related costs and approximately $40 million of non-cash inventory step-up charges, which in the aggregate will largely be incurred during years one and two. The Company expects the transaction to result in annual cost synergies of approximately $80 to $90 million by year three. The transaction, which is subject to customary closing conditions, including regulatory approvals, is expected to close in the first half of 2017.
During the nine months ended October 1, 2016, the Company completed five small acquisitions for a total purchase price of $59.3 million, net of cash acquired. These acquisitions are being integrated into the Company’s Tools & Storage and Security segments.
2016 Outlook
This outlook discussion is intended to provide broad insight into the Company’s near-term earnings and cash flow generation prospects. The Company is raising the mid-point and tightening the range of its previously communicated guidance on diluted earnings per share for 2016 to $6.40 - $6.50 (up 8% - 10% versus 2015) from $6.30 - $6.50, and reiterating its free cash flow conversion estimate, defined as free cash flow divided by net income, of approximately 100%.
RESULTS OF OPERATIONS
Net Sales: Net sales were $2.882 billion in the third quarter of 2016 compared to $2.830 billion in the third quarter of 2015, representing an increase of 2%. Volume and price increased 2% and 1%, respectively, and were partially offset by a 1% decrease due to negative impacts from foreign currency. Tools & Storage net sales increased 3% compared to the third quarter of 2015 due to continued organic growth of 5%, driven primarily by strong growth in North America and Europe, partially offset by foreign currency pressure of 2%. Net sales in the Security segment increased 2% compared to the third quarter of
2015 driven by organic growth of 2%, including growth in all regions, and small bolt-on electronic acquisitions of 1%, which were partially offset by foreign currency declines of 1%. Industrial net sales decreased 4% compared to the third quarter of 2015 primarily due to volume declines in the Engineered Fastening business as a result of weaker electronics volumes attributable to a major customer as well as pressured industrial volumes, which more than offset organic growth of 5% in the Infrastructure business driven by higher Oil & Gas on-shore project activity.
Net sales were $8.487 billion in the first nine months of 2016 compared to $8.326 billion in the first nine months of 2015, representing an increase of 2%. Volume and price increased 3% and 1%, respectively, and were partially offset by a 2% decrease due to negative impacts from foreign currency. Tools & Storage net sales increased 4% compared to the first nine months of 2015 due to strong organic growth of 7%, driven by solid growth across all regions, partially offset by foreign currency pressure of 3%. Net sales in the Security segment were up 1% compared to the first nine months of 2015 as organic growth of 1% and small bolt-on electronic acquisitions of 1% were partially offset by foreign currency declines of 1%. Industrial net sales declined 5% compared to the first nine months of 2015 primarily due to a 4% decrease in volume, which was mainly driven by organic declines in Engineered Fastening as a result of lower industrial and electronics volumes, and a 1% decrease from foreign currency pressures.
Gross Profit: Gross profit was $1.084 billion, or 37.6% of net sales, in the third quarter of 2016 compared to $1.027 billion, or 36.3% of net sales, in the third quarter of 2015, as price, productivity, cost actions and commodity deflation more than offset unfavorable currency.
Gross profit was $3.191 billion, or 37.6% of net sales, in the first nine months of 2016 compared to $3.058 billion, or 36.7% of net sales, in the first nine months of 2015. The year-over-year increase in the profit rate was driven by price, productivity, cost actions and commodity deflation, which more than offset unfavorable currency.
SG&A Expenses: SG&A, inclusive of the provision for doubtful accounts, was $645.4 million, or 22.4% of net sales, in the third quarter of 2016 compared to $608.3 million, or 21.5% of net sales, in the third quarter of 2015. On a year-to-date basis, SG&A, inclusive of the provision for doubtful accounts, was $1.940 billion, or 22.9% of net sales, in 2016 compared to $1.876 billion, or 22.5% of net sales, in 2015. The higher rate in each period was driven by investments in key SFS 2.0 initiatives moderated by continued tight management of costs.
Distribution center costs (i.e. warehousing and fulfillment facility and associated labor costs) are classified within SG&A. This classification may differ from other companies who may report such expenses within cost of sales. Due to diversity in practice, to the extent the classification of these distribution costs differs from other companies, the Company’s gross margins may not be comparable.
Corporate Overhead: The corporate overhead element of SG&A, which is not allocated to the business segments, amounted to $43.1 million, or 1.5% of net sales, and $35.3 million, or 1.2% of net sales, in the third quarter of 2016 and 2015, respectively. The year-over-year change was primarily due to higher employee-related costs.
On a year-to-date basis, the corporate overhead element of SG&A amounted to $138.5 million, or 1.6% of net sales, in 2016 compared to $109.4 million, or 1.3% of net sales, in the corresponding period of 2015. The year-over-year change was primarily due to increased investments in SFS 2.0 initiatives and higher employee-related costs.
Other, net: Other, net expense amounted to $56.8 million in the third quarter of 2016 compared to $54.0 million in the third quarter of 2015. The year-over-year increase was primarily driven by acquisition-related costs, which more than offset lower amortization expense. On a year-to-date basis, Other, net expense amounted to $150.6 million in 2016 compared to $168.2 million in 2015. The year-over-year decrease was primarily driven by reduced negative impacts of foreign currency and lower amortization expense, partially offset by acquisition-related costs.
Interest, net: Net interest expense was $45.1 million in the third quarter of 2016 compared to $41.6 million in the third quarter of 2015. On a year-to-date basis, net interest expense was $128.8 million in 2016 compared to $125.5 million in 2015. The year-over-year increase in each period was primarily due to amortization of debt issuance costs, partially offset by an increase in interest income as a result of higher average cash balances in 2016.
Income Taxes: The Company recognized income tax expense of $78.7 million and $234.7 million for the three and nine months ended October 1, 2016, respectively, resulting in effective tax rates of 24.0% and 24.9%, respectively. The effective tax rates differ from the U.S. statutory tax rate during these periods primarily due to a portion of the Company’s earnings being realized in lower-taxed foreign jurisdictions, the finalization of audit settlements during the first quarter of 2016, adjustments to tax positions relating to undistributed foreign earnings during the second and third quarters of 2016, and adjustments relating to the filing of certain U.S. and foreign corporate income tax returns during the third quarter of 2016.
The Company recognized income tax expense of $75.7 million and $209.5 million for the three and nine months ended October 3, 2015, respectively, resulting in effective tax rates of 24.5% and 24.8%, respectively. The effective tax rates differed from the U.S. statutory tax rate during these periods primarily due to a portion of the Company’s earnings being realized in lower-taxed foreign jurisdictions and the reduction of certain potential foreign tax exposures, largely due to statute expirations. The income tax expense for the nine month period ended October 3, 2015 also included benefits related to the reversal of valuation allowances for certain foreign deferred tax assets which had become realizable.
Business Segment Results
The Company’s reportable segments are aggregations of businesses that have similar products, services and end markets, among other factors. The Company utilizes segment profit, which is defined as net sales minus cost of sales and SG&A inclusive of the provision for doubtful accounts (aside from corporate overhead expense), and segment profit as a percentage of net sales to assess the profitability of each segment. Segment profit excludes the corporate overhead expense element of SG&A, other, net (inclusive of intangible asset amortization expense), restructuring charges, interest income, interest expense, and income tax expense. Corporate overhead is comprised of world headquarters facility expense, cost for the executive management team and the expense pertaining to certain centralized functions that benefit the entire Company but are not directly attributable to the businesses, such as legal and corporate finance functions. Refer to Note O, Restructuring Charges, for the amount of restructuring charges attributable to each segment. The Company's operations are classified into three reportable business segments, which also represent its operating segments: Tools & Storage, Security and Industrial.
Tools & Storage: |
| | | | | | | | | | | | | | | |
| Third Quarter | | Year-to-Date |
(Millions of Dollars) | 2016 | | 2015 | | 2016 | | 2015 |
Net sales | $ | 1,896.9 |
| | $ | 1,838.2 |
| | $ | 5,535.4 |
| | $ | 5,309.8 |
|
Segment profit | $ | 330.0 |
| | $ | 307.8 |
| | $ | 954.5 |
| | $ | 866.2 |
|
% of Net sales | 17.4 | % | | 16.7 | % | | 17.2 | % | | 16.3 | % |
Tools & Storage net sales increased $58.7 million, or 3%, in the third quarter of 2016 compared to the third quarter of 2015. Volume and price increased 4% and 1%, respectively, and were partially offset by a 2% decrease due to foreign currency pressures. Organic growth was solid with North America +4% and Europe +11%, while growth within the emerging markets was modestly positive. Strong commercial execution supported by market leading product innovation, including the launch of the DEWALT FLEXVOLT ™ battery system, continued to drive share gains in North America overcoming both challenging comparables and persistent pressure within the industrial channels. Above-market organic growth in Europe continued as new products, targeted growth investments and an expanded retail footprint fueled share gains across the region. An intense focus on commercial execution targeted at mid-price-point product releases and regional pricing actions contributed to slightly positive organic growth in the emerging markets, despite a high level of volatility and economic challenges within a number of regions.
On a year-to-date basis, net sales increased