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5: EX-32.2 Certification -- §906 - SOA'02 HTML 26K
26: R1 Cover HTML 77K
49: R2 Consolidated Statements of Operations HTML 101K
79: R3 Consolidated Statements of Comprehensive Income HTML 45K
(Loss)
33: R4 Consolidated Balance Sheets HTML 140K
27: R5 Consolidated Balance Sheets (Parenthetical) HTML 41K
51: R6 Consolidated Statements of Cash Flows HTML 130K
81: R7 Consolidated Statements of Stockholders' Equity HTML 118K
35: R8 Summary of Significant Accounting Policies HTML 109K
25: R9 Accounting Pronouncements HTML 45K
30: R10 Acquisitions HTML 108K
21: R11 Goodwill HTML 54K
44: R12 Inventories HTML 31K
72: R13 Intangibles HTML 65K
31: R14 Assets Held for Sale HTML 29K
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73: R17 Earnings Per Common Share HTML 63K
32: R18 Warranty HTML 44K
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60: R20 Long-Term Debt and Note Payable HTML 87K
68: R21 CD&R Investor Group HTML 31K
41: R22 Stock Repurchase Program HTML 29K
15: R23 Fair Value of Financial Instruments and Fair Value HTML 142K
Measurements
61: R24 Income Taxes HTML 35K
69: R25 Segment Information HTML 83K
42: R26 Contingencies HTML 40K
16: R27 Summary of Significant Accounting Policies HTML 59K
(Policies)
59: R28 Summary of Significant Accounting Policies HTML 103K
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76: R30 Goodwill (Tables) HTML 55K
47: R31 Inventories (Tables) HTML 33K
18: R32 Intangibles (Tables) HTML 110K
29: R33 Intangible Assets, Goodwill and Other (Tables) HTML 29K
75: R34 Leases (Tables) HTML 61K
46: R35 Earnings Per Common Share (Tables) HTML 62K
17: R36 Warranty (Tables) HTML 43K
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48: R39 Fair Value of Financial Instruments and Fair Value HTML 135K
Measurements (Tables)
64: R40 Segment Information (Tables) HTML 82K
55: R41 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - HTML 52K
Reconciliation of Cash, Cash Equivalents and
Restricted Cash (Details)
14: R42 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - HTML 57K
Disaggregation of Revenue (Details)
40: R43 Accounting Pronouncements (Details) HTML 40K
63: R44 ACQUISITIONS - Narrative (Details) HTML 145K
54: R45 ACQUISITIONS - Schedule of Assets Acquired and HTML 100K
Liabilities Assumed (Details)
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62: R48 Inventories (Details) HTML 30K
56: R49 Intangibles (Details) HTML 52K
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53: R54 Share-Based Compensation (Details) HTML 98K
78: R55 Earnings Per Common Share (Details) HTML 54K
36: R56 Warranty (Details) HTML 43K
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50: R58 DEFINED BENEFIT PLANS - Periodic Benefits Cost HTML 50K
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82: R59 LONG-TERM DEBT AND NOTE PAYABLE - Schedule of Debt HTML 62K
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37: R60 LONG-TERM DEBT AND NOTE PAYABLE - Additional HTML 211K
Information (Details)
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MEASUREMENTS - Schedule of Fair Values of
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(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. iYesý No ¨
Indicate
by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). ýiYes¨ No
Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,”“accelerated filer,”“smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
iLarge
accelerated filer
ý
Accelerated filer
☐
Non-accelerated filer
¨ (Do not check if a smaller reporting company)
Smaller reporting company
i☐
Emerging
growth company
i☐
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate
by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). i☐ Yes ý No
Securities registered pursuant to Section 12(b) of the Exchange Act:
Title
of Each Class
Trading Symbol
Name of Each Exchange on Which Registered
iCommon Stock $0.01 par value per share
iCNR
iNew
York Stock Exchange
APPLICABLE ONLY TO CORPORATE ISSUERS
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Common Stock, $0.01 par value - i125,566,409 shares as of October 31,
2019.
Accounts
receivable, less allowances of $i9,948 and $i6,249, respectively
i594,681
i233,297
Inventories,
net
i467,916
i254,531
Income
taxes receivable
i27,641
i1,012
Investments
in debt and equity securities, at market
i3,569
i5,285
Prepaid
expenses and other
i74,882
i34,821
Assets
held for sale
i5,018
i7,272
Total
current assets
i1,282,823
i590,735
Property,
plant and equipment, less accumulated depreciation of $i530,490 and $i459,931,
respectively
i643,844
i236,240
Lease
right-of-use assets
i308,256
—
Goodwill
i1,677,929
i148,291
Intangible
assets, net
i1,784,937
i127,529
Deferred
income taxes
i—
i982
Other
assets, net
i10,667
i6,598
Total
assets
$
i5,708,456
$
i1,110,375
LIABILITIES
AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current portion of long-term debt
$
i25,600
$
i4,150
Note
payable
i—
i497
Payable
pursuant to a tax receivable agreement
i24,760
i—
Accounts
payable
i235,247
i170,663
Accrued
compensation and benefits
i84,951
i65,136
Accrued
interest
i31,996
i1,684
Accrued
income taxes
i18,137
i11,685
Current
portion of lease liabilities
i68,993
—
Other accrued expenses
i254,833
i81,884
Total
current liabilities
i744,517
i335,699
Long-term
debt
i3,267,646
i403,076
Deferred
income taxes
i244,062
i2,250
Long-term
lease liabilities
i243,624
—
Other long-term liabilities
i280,722
i39,085
Total
long-term liabilities
i4,036,054
i444,411
Stockholders’
equity:
Common stock, $ii0.01/
par value; i200,000,000, i125,621,510 and i125,566,409
shares authorized, issued and outstanding at September 28, 2019, respectively; and i100,000,000, i66,264,654 and i66,203,841
shares authorized, issued and outstanding at October 28, 2018, respectively
NOTE 1 — iSUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES
Change of Name
Effective May 23, 2019, NCI Building Systems, Inc. changed its name to Cornerstone Building Brands, Inc. (together with its subsidiaries, unless otherwise indicated, the “Company,”“Cornerstone,”“NCI”, “we,”“us” or “our”). In connection with the name change, the Company changed its NYSE trading symbol from “NCS” to “CNR”.
i
Basis
of Presentation
The accompanying unaudited consolidated financial statements for Cornerstone Building Brands, Inc. have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles (“GAAP”) for complete financial statements. In the opinion of management, the unaudited consolidated financial statements included herein contain all adjustments, which consist of normal recurring adjustments, necessary to fairly present the Company’s financial position, results of operations and cash flows for the periods indicated. Operating results for the period from January
1, 2019 through September 28, 2019 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2019.
For additional information, refer to the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended October 28, 2018 filed with the Securities and Exchange Commission (the “SEC”) on December 19, 2018.
i
Reporting
Periods
On November 16, 2018, the Company’s Board of Directors approved a change to the Company’s fiscal year end from a 52/53 week year with the Company’s fiscal year end on the Sunday closest to October 31 to a calendar year of the twelve-month period from January 1 to December 31. The Company elected to change its fiscal year end in connection with the Merger (as defined below) to align the Company’s fiscal year end with Ply Gem’s (as defined below). As a
result of this change, the Company filed a Transition Report on Form 10-Q that included the financial information for the transition period from October 29, 2018 to December 31, 2018, which period is referred to herein as the “Transition Period”. The financial statements contained herein are being filed as part of a Quarterly Report on Form 10-Q for the period from June 30, 2019 through September 28, 2019. References in this Quarterly Report on Form 10-Q to “fiscal year 2018” or “fiscal 2018” refer to the period from October 30, 2017 through October 28, 2018. The results
of operations for the three and nine months ended July 29, 2018 are presented herein as the comparable period to the three and nine months ended September 28, 2019. The Company did not recast the consolidated financial statements for the period from June 30, 2018 to September 28, 2018 or January 1, 2018 to September 28, 2018 because the financial reporting processes in place at that time included certain procedures that were completed only on a quarterly basis. Consequently, to recast this period would have been impractical.
The
Company’s current fiscal quarters are based on a four-four-five week calendar with periods ending on the Saturday of the last week in the quarter except that December 31st will always be the year-end date. Therefore, the financial results of certain fiscal quarters may not be comparable to prior fiscal quarters.
Change in Operating Segments
For the Transition Period, the Company began reporting results under ithree
reportable segments: (i) Commercial; (ii) Siding; and (iii) Windows, to align with how the Company manages its business, reviews operating performance and allocates resources following the Merger. The Commercial segment will include the aggregate operating results of the Company’s legacy businesses. The Siding and Windows segments will include the operating results of the legacy Ply Gem operating segments.
Gain/Loss on Disposition of Business
During the three and nine months ended July 29, 2018, the Company recognized a $ii1.0/
million gain related to the disposal of a non-strategic product line in the Commercial segment. In the second quarter of fiscal 2018, the Company closed on the sale of CENTRIA International LLC, which owned our China manufacturing facility. The Company recognized a $i6.7 million loss on the sale, which is included in the Commercial segment financial results for the nine month
period ended July 29, 2018. The disposition did not represent a strategic shift that had a major effect on the Company’s operations or financial results.
7
Gain on Insurance Recovery
In June 2016, the Company experienced a fire at a facility in the Commercial segment. During the third quarter of fiscal 2018, the Company received final proceeds of $i4.7
million as reimbursement for new assets acquired and recognized a $i4.7 million gain on insurance recovery in the consolidated statements of operations.
Restricted Cash
ii
The
following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the consolidated balance sheets that total the amounts shown in the consolidated statements of cash flows (in thousands):
Total cash, cash equivalents and restricted cash shown in the consolidated statements of cash flows
$
i109,116
(1)Restricted
cash at September 28, 2019 primarily relates to an escrow balance held for an outstanding earnout agreement.
//
Net Sales
The Company adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers (“ASU 2014-09”), as of October
29, 2018 for the Transition Period. ASU 2014-09 provides enhancements to the quality and consistency of how revenue is reported while also improving comparability in the financial statements of companies reporting using IFRS and GAAP. The core principle of this update is that an entity 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.
We enter into contracts that pertain to products, which are accounted for as separate performance obligations and are typically one year or less in duration. We do not exercise significant judgment in determining the timing for the satisfaction of performance obligations or the transaction price. Revenue is measured as the amount of
consideration expected to be received in exchange for our products. We have elected to apply the practical expedient provided for in ASU No. 2014-09 and have not disclosed information regarding remaining performance obligations that have original expected durations of one year or less. Revenue is generally recognized when the product has shipped from our facility and control has transferred to the customer. For a portion of our business, when we process customer owned material, control is deemed to transfer to the customer as the processing is being completed.
Our revenues are adjusted for variable consideration, which includes customer volume rebates and prompt payment discounts. We measure variable consideration by estimating expected outcomes using analysis and inputs based upon anticipated performance, historical data, and current and forecasted information. Customer returns are recorded as a reduction to sales on an actual
basis throughout the year and also include an estimate at the end of each reporting period for future customer returns related to sales recorded prior to the end of the period. The Company generally estimates customer returns based upon the time lag that historically occurs between the sale date and the return date while also factoring in any new business conditions that might impact the historical analysis such as new product introduction. Measurement of variable consideration is reviewed by management periodically and revenue is adjusted accordingly. We do not have significant financing components.
Shipping and handling activities performed by us are considered activities to fulfill the sales of our products. Amounts billed for shipping and handling are included in net sales, while costs incurred for shipping and handling are included in
cost of sales.
In accordance with certain contractual arrangements, we receive payment from our customers in advance related to performance obligations that are to be satisfied in the future and recognize such payments as deferred revenue, primarily related to our weathertightness warranties (see Note 11 — Warranty).
8
iThe
following table presents disaggregated revenue disclosure details of net sales by segment (in thousands):
In February 2016, the FASB issued ASU 2016-02, Leases, to increase transparency and comparability among organizations by recognizing right-of-use assets and lease liabilities on the balance sheet and disclosing key information about leasing transactions. Effective January 1, 2019, the Company adopted the guidance initially applying the standard to leases existing at, or entered into after, the January 1, 2019 adoption date. The Company has elected only the package of three transition practical expedients available under the new standard. The short-term lease recognition exemption has been
elected for all leases that qualify as well as the practical expedient to not separate lease and non-lease components for all leases other than leases of durable tooling.
The adoption of the new standard resulted in the recognition of additional operating liabilities of $i304.1 million with corresponding right-of-use (“ROU”) assets of $i304.1
million, based on the present value of the remaining minimum rental payments. The Company recognized ino adjustment to opening balance of accumulated deficit as of January 1, 2019. The new standard also provides for practical expedients for an entity’s ongoing accounting. Additional disclosures on leases are included in Note 8 — Leases.
In
August 2018, the FASB issued ASU 2018-15, Intangibles—Goodwill and Other—Internal-Use Software—General (Subtopic 350-40): Customer’s Accounting for Implementation Costs Incurred in a Cloud Computing Arrangement that is a Service Contract, which aligns the requirements for capitalizing implementation costs incurred in a hosting arrangement that is a service contract with the requirements for capitalizing implementation costs incurred to develop or obtain internal-use software (and hosting arrangements that include an internal-use software license). The accounting for the service element of a hosting arrangement that is a service contract is not affected
by these amendments. Effective January 1, 2019, the Company early adopted this guidance on a prospective basis. The application of ASU 2018-15 did not have a material impact on our consolidated financial statements.
/
9
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606) as subsequently amended.
ASU 2014-09 supersedes the revenue recognition requirements in ASC Topic 605, Revenue Recognition, and most industry-specific guidance. The core principle of the guidance is that an entity 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. We performed an assessment of the differences between the new revenue standard and current accounting practices. As part of our implementation process, we identified significant revenue streams and evaluated a sample of contracts within each significant revenue stream in order to determine the effect of the standard on our revenue recognition practices. We completed this evaluation and have established new policies, procedures, and
internal controls in our adoption of the new revenue standard. We adopted this guidance on a modified retrospective basis, pursuant to which we recorded a $i2.6 million adjustment to increase the opening balance of accumulated deficit as of October 29, 2018 (the first day of the Transition Period) for the impact of applying the new revenue standard. The adjustment related to changes in the timing of revenue recognition for our weathertightness warranties
in our Commercial segment. Additional disaggregated revenue disclosures are included in Note 1 — Summary of Significant Accounting Policies.
In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which provides guidance on eight cash flow classification issues with the objective of reducing differences in practice. We adopted this guidance on a retrospective basis in the Transition Period. The application of ASU 2016-15 did not have a material impact on our consolidated financial statements.
In October 2016, the FASB issued ASU 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other than Inventory, which eliminates the exception that prohibits
the recognition of current and deferred income tax effects for intra-entity transfers of assets other than inventory until the asset has been sold to an outside party. We adopted this guidance on a modified retrospective basis, pursuant to which we recorded a $i0.7 million adjustment to increase the opening balance of accumulated deficit as of October 29, 2018 (the first day of the Transition Period) for the impact of applying the new standard.
In
November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash (a consensus of the FASB Emerging Issues Task Force), which clarifies how entities should present restricted cash and restricted cash equivalents in the statement of cash flows. Entities will no longer present transfers between cash and cash equivalents and restricted cash and restricted cash equivalents in the statement of cash flows. An entity with a material balance of restricted cash and restricted cash equivalents must disclose information about the nature of the restrictions. We adopted this guidance on a retrospective basis in the Transition Period. The adoption of this guidance resulted in restricted cash activity previously included in financing activities on our consolidated statement of cash flows to be included as part of the beginning and ending balances of cash and cash equivalents and restricted cash in our consolidated
statements of cash flows.
In March 2017, the FASB issued ASU 2017-07, Compensation—Retirement Benefits (Topic 715): Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost, which amends the requirements related to the income statement presentation of the components of net periodic benefit cost for employer sponsored defined benefit pension and other postretirement benefit plans. Under the new guidance, an entity must disaggregate and present the service cost component of net periodic benefit cost in the same income statement line items as other employee compensation costs arising from services rendered during the period, and only the service cost component will be eligible for capitalization. Other components of net periodic benefit cost will be presented separately from the line items that
include the service cost. We adopted this guidance in the Transition Period on a retrospective basis to adopt the requirement for separate presentation of the income statement service cost and other components, and on a prospective transition method to adopt the requirement to limit the capitalization of benefit cost to the service component. The adoption of ASU 2017-07 did not have a material impact on our consolidated financial statements.
In May 2017, the FASB issued ASU 2017-09, Compensation—Stock Compensation (Topic 718): Scope of Modification Accounting, which provides clarity on the accounting for modifications of stock-based awards. The Company adopted this guidance on a prospective basis in the Transition Period for share-based payment awards modified on or after the adoption date. The
adoption of ASU 2017-09 did not have a material impact on our consolidated financial statements.
In August 2017, the FASB issued ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities. This ASU’s objectives are to (1) improve the transparency and understandability of information conveyed to financial statement users about an entity’s risk management activities by better aligning the entity’s financial reporting for hedging relationships with those risk management activities; and (2) reduce the complexity of and simplify the application of hedge accounting by preparers. ASU No. 2017-12 is effective for interim and annual reporting periods beginning after December 15, 2018. The Company adopted this guidance on a prospective basis
for fiscal 2019. The adoption of ASU 2017-12 did not have a material impact on our consolidated financial statements.
10
Recent Accounting Pronouncements
In June 2016, the FASB issued ASU 2016-13, Financial Instruments—Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments. This ASU requires an entity to measure all expected credit losses for financial assets, including trade receivables, held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts. Entities will now incorporate forward-looking information based on expected losses to estimate credit losses. ASU 2016-13 will be effective
for our fiscal year ending December 31, 2020, including interim periods within that fiscal year. We are evaluating the impact that the adoption of this ASU will have on our consolidated financial position, result of operations and cash flows.
In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure Framework—Changes to the Disclosure Requirements for Fair Value Measurement, which modifies disclosure requirements for fair value measurements under ASC 820, Fair Value Measurement. We will be required to adopt this guidance retrospectively in the annual and interim periods for our fiscal year ending December 31, 2020, with early adoption permitted. We are evaluating the impact of adopting this guidance.
In
August 2018, the FASB issued ASU 2018-14, Compensation—Retirement Benefits—Defined Benefit Plans—General (Subtopic 715-20): Disclosure Framework—Changes to the Disclosure Requirements for Defined Benefit Plans, which removes disclosures no longer considered cost beneficial, clarifies the specific requirements of disclosures and adds disclosure requirements identified as relevant. We will be required to adopt this guidance for our fiscal year ending December 31, 2020, with early adoption permitted. Certain provisions are applied prospectively while others are applied retrospectively. We are evaluating the impact of adopting this guidance.
Additionally, there were various other accounting standards and interpretations issued that the Company has not
yet been required to adopt, none of which is expected to have a material impact on the Company’s consolidated financial statements going forward.
NOTE 3 — iACQUISITIONS
Environmental Stoneworks
On January 12, 2019, the
Company entered into a Unit Purchase Agreement (the “Purchase Agreement”) with Environmental Materials, LLC, a Delaware limited liability company (“Environmental Stoneworks” or “ESW”), the Members of Environmental Materials, LLC (the “Sellers”) and Charles P. Gallagher and Wayne C. Kocourek, solely in their capacity as the Seller Representative (as defined in the Purchase Agreement), pursuant to which, on February 20, 2019, the Company’s wholly-owned subsidiary, Ply Gem Industries, Inc., purchased from the Sellers i100%
of the outstanding limited liability company interests of Environmental Stoneworks (the “Environmental Stoneworks Acquisition”) for total consideration of $i182.6 million, subject to certain post-closing adjustments, for Environmental Stoneworks. The transaction was financed through borrowings under the Company’s asset-based revolving credit facility.
The Environmental Stoneworks Acquisition,
when combined with the Company’s existing stone businesses, positions the Company as a market leader in stone veneer. The Company accounted for the transaction as an acquisition in accordance with the provisions of Accounting Standards Codification 805, Business Combinations, which results in a new valuation for the assets and liabilities of Environmental Stoneworks based upon fair values as of the closing date.
11
i
The
Company determined the fair value of the tangible and intangible assets and the liabilities acquired, and recorded goodwill based on the excess of fair value of the acquisition consideration over such fair values, as follows (in thousands):
The
$i60.5 million of goodwill was allocated to the Siding segment and none of the goodwill is expected to be deductible for tax purposes. The goodwill is attributable to the workforce of the acquired business and the synergies expected to be realized.
During the nine months ended September 28, 2019, the Company incurred $i1.5
million of acquisition-related costs for Environmental Stoneworks, which are recorded in strategic development and acquisition related costs in the Company’s consolidated statements of operations. There were ino significant acquisition-related costs incurred during the three months ended September 28, 2019.
The final acquisition accounting allocation
for the Environmental Stoneworks Acquisition remains subject to further adjustments. The specific accounts subject to ongoing acquisition accounting adjustments include accounts receivable, inventories, prepaid expenses and other current assets, goodwill, intangibles, accounts payable, accrued expenses, accrued warranties and other liabilities. Therefore, the measurement period remained open as of September 28, 2019, and the preliminary acquisition accounting allocation detailed above is subject to further adjustment. The Company anticipates completing these acquisition accounting adjustments during the fourth quarter of fiscal 2019.
12
Ply
Gem Merger
On July 17, 2018, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Ply Gem Parent, LLC (“Ply Gem”), and for certain limited purposes as set forth in the Merger Agreement, Clayton, Dubilier & Rice, LLC (“CD&R”), pursuant to which, at the closing of the merger, Ply Gem would be merged with and into NCI, with NCI continuing its existence as a corporation organized under the laws of the State of Delaware (the “Merger”). On November 15, 2018, at a special meeting of NCI shareholders, NCI’s shareholders approved, among other items, the Merger Agreement and the issuance in the Merger
of i58,709,067 shares of NCI common stock, par value $i0.01
per share (“NCI Common Stock”) in the aggregate, on a pro rata basis, to the holders of all of the equity interests in Ply Gem (the “Stock Issuance”), representing approximately i47% of the total number of shares of NCI Common Stock outstanding following the consummation of the Merger on November 16, 2018 (the “Closing Date”). The total value of shares of NCI Common Stock issued pursuant to the Stock Issuance was approximately $i713.9
million based on the number of shares issued multiplied by the NCI Common Stock closing share price of $i12.16 on the Closing Date. There are approximately i57,103
shares of NCI Common Stock of the original i58,709,067 that have not yet been issued pending holder identification and have been accrued as purchase consideration within other current liabilities in the consolidated balance sheet at September 28, 2019. For accounting and legal purposes, NCI was the accounting and legal acquirer of Ply Gem as of the Closing Date and Ply Gem’s results have been included within
NCI from the Closing Date.
Ply Gem is a leading manufacturer of exterior building products in North America, operating in itwo segments: Siding and Windows. These itwo
segments produce a comprehensive product line of vinyl siding, designer accents, cellular PVC trim, vinyl fencing, vinyl railing, stone veneer, and vinyl windows and doors used in both the new construction market and the home repair and remodeling market in the United States and Canada. Vinyl building products have the leading share of sales volume in siding and windows in the United States. Ply Gem also manufactures vinyl and aluminum soffit and siding accessories, aluminum trim coil, wood windows, aluminum windows, vinyl and aluminum-clad windows and steel and fiberglass doors, enabling us to bundle complementary and color-matched products and accessories with our core products.
Ply Gem strategically fits into NCI’s existing footprint and broadens its service offering to existing and new customers within the building products industry. The Company
accounted for the Merger as an acquisition in accordance with the provisions of Accounting Standards Codification 805, Business Combinations, which results in a new valuation for the assets and liabilities of Ply Gem based upon fair values as of the Closing Date.
In connection with the Merger, on November 16, 2018, NCI assumed (i) the obligations of the company formerly known as Ply Gem Midco, Inc. (“Ply Gem Midco”), a subsidiary of Ply Gem immediately prior to the consummation of the Merger, as borrower under the Current Cash Flow Credit Agreement (as defined below), (ii) the obligations of Ply Gem Midco as parent borrower under the Current ABL Credit Agreement (as defined below) and (iii) the obligations of Ply Gem Midco as issuer under
the Current Indenture (as defined below).
On April 12, 2018, Ply Gem Midco entered into a Cash Flow Credit Agreement (the “Current Cash Flow Credit Agreement”), by and among Ply Gem Midco, JP Morgan Chase Bank, N.A., as administrative agent and collateral agent (the “Cash Flow Agent”), and the several banks and other financial institutions from time to time party thereto. As of November 16, 2018, immediately prior to consummation of the Merger, the Current Cash Flow Credit Agreement provided for (i) a term loan facility (the “Current Term Loan Facility”) in an original aggregate principal amount of $i1,755.0
million and (ii) a cash flow-based revolving credit facility (the “Current Cash Flow Revolver” and together with the Current Term Loan Facility, the “Current Cash Flow Facilities”) of up to $i115.0 million. On November 16, 2018, Ply Gem Midco entered into a Lender Joinder Agreement, by and among Ply Gem Midco, the additional commitment lender party thereto and the Cash Flow Agent, which amended the Current Cash Flow Credit Agreement in order to, among other things,
increase the aggregate principal amount of the Current Term Loan Facility by $i805.0 million (the “Incremental Term Loans”). Proceeds of the Incremental Term Loans were used to, among other things, (a) finance the Merger and to pay certain fees, premiums and expenses incurred in connection therewith, (b) repay in full amounts outstanding under the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement (each as defined below) and (c) repay $i325.0
million of borrowings outstanding under the Current ABL Facility (as defined below). On November 16, 2018, in connection with the consummation of the Merger, NCI and Ply Gem Midco entered into a joinder agreement with respect to the Current Cash Flow Facilities, and NCI became the Borrower (as defined in the Current Cash Flow Credit Agreement) under the Current Cash Flow Facilities. The Current Term Loan Facility amortizes in nominal quarterly installments equal to ione
percent of the aggregate initial principal amount thereof per annum, with the remaining balance payable upon final maturity of the Current Term Loan Facility on April 12, 2025. There are no amortization payments under the Current Cash Flow Revolver, and all borrowings under the Current Cash Flow Revolver mature on April 12, 2023. At November 16, 2018, following consummation of the Merger, there was $i2,555.6 million outstanding under the Current Term Loan
Facility and there were ino amounts drawn on the Current Cash Flow Revolver.
13
On April 12, 2018, Ply Gem Midco and certain subsidiaries of Ply Gem Midco entered
into an ABL Credit Agreement (the “Current ABL Credit Agreement”), by and among Ply Gem Midco, the subsidiary borrowers from time to time party thereto, UBS AG, Stamford Branch, as administrative agent and collateral agent (the “ABL Agent”), and the several banks and other financial institutions from time to time party thereto, which provided for an asset-based revolving credit facility (the “Current ABL Facility”) of up to $i360.0 million, consisting of (i) $i285.0
million available to U.S. borrowers (subject to U.S. borrowing base availability) (the “ABL U.S. Facility”) and (ii) $i75.0 million available to both U.S. borrowers and Canadian borrowers (subject to U.S. borrowing base and Canadian borrowing base availability) (the “ABL Canadian Facility”). On October 15, 2018, Ply Gem Midco entered into Amendment No. 2 to the Current ABL Credit Agreement, by and among Ply Gem Midco, the incremental lender party thereto and the ABL
Agent, which amended the Current ABL Credit Agreement in order to, among other things, increase the aggregate commitments under the Current ABL Facility by $i36.0 million to $i396.0
million overall, and with the (x) ABL U.S. Facility being increased from $i285.0 million to $i313.5
million and (y) the ABL Canadian Facility being increased from $i75.0 million to $i82.5
million. On November 16, 2018, Ply Gem Midco entered into Amendment No. 4 to the Current ABL Credit Agreement, by and among Ply Gem Midco, the incremental lenders party thereto and the ABL Agent, which amended the Current ABL Credit Agreement in order to, among other things, increase the aggregate commitments under the Current ABL Facility by $i215.0 million (the “Incremental ABL Commitments”) to $i611.0
million overall, and with the (x) ABL U.S. Facility being increased from $i313.5 million to approximately $i483.7
million and (y) the ABL Canadian Facility being increased from $i82.5 million to approximately $i127.3
million. On November 16, 2018, in connection with the consummation of the Merger, NCI and Ply Gem Midco entered into a joinder agreement with respect to the Current ABL Facility, and NCI became the Parent Borrower (as defined in the Current ABL Credit Agreement) under the Current ABL Facility. The Company and, at the Company’s option, certain of the Company’s subsidiaries are the borrowers under the Current ABL Facility. As of November 16, 2018, and following consummation of the Merger, (a) Ply Gem Industries, Inc., Atrium Windows
and Doors, Inc., NCI Group, Inc. and Robertson-Ceco II Corporation were U.S. subsidiary borrowers under the Current ABL Facility, and (b) Gienow Canada Inc., Mitten Inc., North Star Manufacturing (London) Ltd. and Robertson Building Systems Limited were Canadian borrowers under the Current ABL Facility. All borrowings under the Current ABL Facility mature on April 12, 2023. At November 16, 2018, following consummation of the Merger, there were ino amounts drawn
and $i24.7 million of letters of credit issued under the Current ABL Facility.
On April 12, 2018, Ply Gem Midco issued $i645.0
million aggregate principal amount of i8.00% Senior Notes due 2026 (the “i8.00% Senior Notes”). The i8.00%
Senior Notes were issued pursuant to an Indenture, dated as of April 12, 2018 (as supplemented from time to time, the “Current Indenture”), by and among Ply Gem Midco, as issuer, the subsidiary guarantors from time to time party thereto and Wilmington Trust, National Association, as trustee. On November 16, 2018, in connection with the consummation of the Merger, the Company entered into a supplemental indenture and assumed the obligations of Ply Gem Midco as issuer under the Current Indenture
and the i8.00% Senior Notes. The i8.00% Senior Notes bear interest at i8.00%
per annum and will mature on April 15, 2026. Interest is payable semi-annually in arrears on April 15 and October 15.
On November 16, 2018, in connection with the incurrence by Ply Gem Midco of the Incremental Term Loans and the obtaining by Ply Gem Midco of the Incremental ABL Commitments, following consummation of the Merger, the Company (a) terminated all outstanding commitments and repaid all outstanding amounts under the Term Loan Credit Agreement, dated as of February 8, 2018 (the “Pre-merger Term Loan Credit Agreement”), by and among the Company, as borrower, the several banks and other financial
institutions from time to time party thereto and Credit Suisse AG, Cayman Islands Branch, as administrative agent and collateral agent, and (b) terminated all outstanding commitments and repaid all outstanding amounts under the ABL Credit Agreement, dated as of February 8, 2018 (the “Pre-merger ABL Credit Agreement”), by and among NCI Group, Inc. and Robertson-Ceco II Corporation, as borrowers, the Company, as a guarantor, the other borrowers from time to time party thereto, the several banks and other financial institutions from time to time party thereto and Wells Fargo Bank, National Association, as administrative agent and collateral agent. Outstanding letters of credit under the Pre-merger ABL Credit Agreement were cash collateralized.
In connection with the termination and repayment
of the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement, the Company also terminated (i) the Term Loan Guarantee and Collateral Agreement, dated as of February 8, 2018, made by the Company and certain of its subsidiaries, in favor of Credit Suisse AG, Cayman Islands Branch, as collateral agent, (ii) the ABL Guarantee and Collateral Agreement, dated as of February 8, 2018, made by the Company and certain of its subsidiaries,
in favor of Wells Fargo Bank, National Association, as collateral agent, and (iii) the Intercreditor Agreement, dated as of February 8, 2018, between Credit Suisse AG, Cayman Islands Branch and Wells Fargo Bank, National Association, and acknowledged by the Company and certain of its subsidiaries.
14
Purchase Price Allocation
The Company’s total purchase consideration in the Merger was equal to $i728.9
million and is comprised of the Stock Issuance of $i713.9 million and a cash payment of $i15.0
million by the Company to settle certain third-party fees and expenses incurred by Ply Gem. iThe Company determined the fair values of the tangible and intangible assets acquired and the liabilities assumed in the Merger, and recorded goodwill based on the excess of fair value of the acquisition consideration
over such fair values, as follows (in thousands):
Other
accrued expenses (inclusive of $i25.3 million for current warranty liabilities)
i246,341
Debt
(inclusive of current portion)
i2,674,767
Other long-term liabilities ($i163.6
million for accrued long-term warranty)
i163,561
Deferred income taxes
i325,593
Other
long-term liabilities
i31,947
Total liabilities assumed
i3,629,519
Net
assets acquired
$
i728,945
At the acquisition date, $i840.6
million of goodwill allocated to the Siding segment and $i629.0 million allocated to the Windows segment and none of the goodwill is expected to be deductible for tax purposes. The goodwill is attributable to the workforce of the acquired business and the synergies expected to be realized.
The final acquisition accounting allocation for the Merger remains subject to further adjustments. The specific accounts subject to ongoing acquisition accounting adjustments include various income tax assets and liabilities, accounts receivable, inventories, goodwill, intangibles,
accrued expenses, accrued warranties and other liabilities. Therefore, the measurement period remained open as of September 28, 2019, and the preliminary acquisition accounting allocation detailed above is subject to further adjustment. The Company anticipates completing these acquisition accounting adjustments during the fourth quarter of fiscal 2019.
15
Unaudited Pro Forma Financial Information
During the three and nine months ended September 28, 2019, Environmental Stoneworks contributed net sales of $i45.4
million and $i108.2 million, respectively, and net income of $i2.8
million and $i5.8 million, respectively, which has been included within the Company’s consolidated statement of operations. iThe
following table provides unaudited supplemental pro forma results for Cornerstone, prepared in accordance with ASC 805, for the three and nine months ended September 28, 2019 and July 29, 2018 as if the Environmental Stoneworks and Ply Gem (disclosed below) acquisitions had occurred on October 30, 2017 (beginning of the nine months ended July 29, 2018) (in thousands except for per share data):
The
unaudited supplemental pro forma financial information was prepared based on the historical information of Cornerstone, Ply Gem and Environmental Stoneworks. Material pro forma adjustments related to the Environmental Stoneworks and Ply Gem acquisitions include approximately $i70.3 million of certain acquisition and compensation costs and $i37.9
million of non-cash charges of purchase price allocated to inventories, which were reflected in the pro forma results as if they were incurred on October 30, 2017. Other material pro forma adjustments include adjustments to depreciation and amortization expense and interest expense related to the Environmental Stoneworks and Ply Gem acquisitions.
The unaudited supplemental pro forma financial information does not give effect to the potential impact of current financial conditions, any anticipated synergies, operating efficiencies or cost savings that may result from the two acquisitions or any integration costs. Unaudited pro forma balances are not necessarily indicative of operating results had the Environmental Stoneworks and Ply Gem acquisitions occurred on October 30, 2017 or of future results.
NOTE
4 — iGOODWILL
i
The Company’s goodwill balance and changes in the carrying amount of goodwill by segment follows (in thousands):
(1)
During the nine months ended September 28, 2019, the Company began amortization of trade names previously classified as indefinite-lived over an eight-year period.
We record assets held for sale at the lower of the carrying value or fair value less costs to sell. The following criteria are used to determine if property is held for sale: (i) management has the authority and commits to a plan to sell the property; (ii) the property is available for immediate sale in its present condition; (iii) there is an active program to locate a buyer and the plan to sell the property has been initiated; (iv) the sale of the property is probable
within one year; (v) the property is being actively marketed at a reasonable sale price relative to its current fair value; and (vi) it is unlikely that the plan to sell will be withdrawn or that significant changes to the plan will be made.
In determining the fair value of the assets less cost to sell, we consider factors including current sales prices for comparable assets in the area, recent market analysis studies, appraisals and any recent legitimate offers. If the estimated fair value less cost to sell of an asset is less than its current carrying value, the asset is written down to its estimated fair value less cost to sell. The total carrying value of assets held for sale was $i5.0
million and $i7.3 million as of September 28, 2019 and October 28, 2018, respectively. All of these assets continued to be actively marketed for sale or were under contract as of September 28, 2019.
During the nine months
ended September 28, 2019the Company determined an alternative use for a facility in the Commercial segment that had previously been classified as held for sale and reclassified the net book value of $i1.7 million to property, plant and equipment and recorded an immaterial depreciation adjustment. Additionally, during the nine months ended September
28, 2019, the Company closed on the sale of an idled facility in the Commercial segment which had previously been classified as held for sale. In connection with the sale we received net proceeds of $i0.9 million and recognized a net gain of $i0.3
million, which is included in restructuring and impairment charges, net, in the consolidated statements of operations for the nine months ended September 28, 2019.
17
Due to uncertainties in the estimation process, actual results could differ from the estimates used in our historical analysis. Our assumptions about property sales prices require significant judgment because the current market is highly sensitive to changes in economic conditions. We determined the estimated fair values of assets held for sale based on current market conditions and assumptions made by management, which may differ from actual results and may result in impairments if market conditions deteriorate. Certain assets held for sale
are valued at fair value and are measured at fair value on a nonrecurring basis. Assets held for sale are reported at fair value, if, on an individual basis, the fair value of the asset is less than carrying value. The fair value of assets held for sale is estimated using Level 3 inputs, such as broker quotes for like-kind assets or other market indications of a potential selling value that approximates fair value. Assets held for sale, reported at fair value, less costs to sell, totaled $i5.0 million as of September 28,
2019.
NOTE 8 — iLEASES
i
Effective January
1, 2019, the Company adopted ASU 2016-02, Leases, applying the standard to leases existing at the effective date. For arrangements entered into following the transition date, applicability of the standard is determined at inception.
The Company leases certain manufacturing, warehouse and distribution locations, vehicles and equipment, including fleet vehicles. Many of these leases have options to terminate prior to or extend beyond the end of the term. The exercise of the majority of lease renewal options is at the Company’s sole discretion. Some lease agreements have variable payments, the majority of these are real estate
agreements in which future increases in rent are based on an index. Lease agreements do not contain any material residual value guarantees or material restrictive covenants.
Operating lease liabilities are recognized based on the present value of the future minimum lease payments over the reasonably expected holding period at commencement date. Few of the Company’s lease contracts provide a readily determinable implicit rate. For these contracts, an estimated incremental borrowing rate (“IBR”) is utilized, based on information available at the inception of the lease. The incremental borrowing rate represents an estimate of the interest rate we would
incur at lease commencement to borrow an amount equal to the lease payments on a collateralized basis over the term of the lease.
Our 2003 Long-Term Stock Incentive Plan, as amended (the “Incentive Plan”), is an equity-based compensation plan that allows us to grant a variety of types of awards, including stock options, restricted stock awards, stock appreciation rights, cash awards, phantom stock awards, restricted stock unit awards and long-term incentive awards with performance conditions (“Performance Share Awards”). Awards are generally
granted once per year, with the amounts and types of awards determined by the Compensation Committee of our Board of Directors (the “Committee”). In connection with the Merger, on November 16, 2018 awards were granted to certain senior executives and key employees (the “Founders Awards”), which included stock options, restricted stock units (“RSUs”) and performance share units (“PSUs”). A portion of the Founders Awards was not granted under the Incentive Plan but was instead granted pursuant to a separate equity-based compensation plan, the Long-Term Incentive Plan consisting of award agreements for select Founders Awards. However, these awards were subject to the same terms and provisions as awards of the same type granted under the Incentive Plan.
As of September 28, 2019, and for all periods presented,
the Founders Awards and our share-based awards under the Incentive Plan have consisted of RSUs, PSUs and stock option grants, none of which can be settled through cash payments, and Performance Share Awards, which are settled in cash. Both our stock options and restricted stock awards are subject only to vesting requirements based on continued employment at the end of a specified time period and typically vest in annual increments over three to iifive
years/ or earlier upon death, disability or a change of control. Restricted stock awards do not vest upon attainment of a specified retirement age, as provided by the agreements governing such awards. The vesting of our Performance Share Awards is described below.
As a general rule, option awards terminate on the earlier of (i) i10
years from the date of grant, (ii) i60 days after termination of employment or service for a reason other than death, disability or retirement, or (iii) i180
days after death, disability or retirement. Awards are non-transferable except by disposition on death or to certain family members, trusts and other family entities as the Committee may approve. Awards may be paid in cash, shares of our Common Stock or a combination, in lump sum or installments and currently or by deferred payment, all as determined by the Committee.
Our time-based restricted stock awards are typically subject to graded vesting over a service period, which is three or ifive
years. Our performance-based and market-based restricted stock awards are typically subject to cliff vesting at the end of the service period, which is typically ithree years. Our share-based compensation arrangements are equity classified and we recognize compensation cost for these awards on a straight-line basis over the requisite service period for each award grant. In the case of performance-based awards, expense is recognized based upon management’s assessment of the probability that such performance
conditions will be achieved. Certain of our awards provide for accelerated vesting upon a change of control or upon termination without cause or for good reason.
19
Founders Awards granted to our senior executives and certain key employees included options, RSUs and PSUs. The options and RSUs vest subject to continued employment ii20/%
per year on the first through fifth anniversary of the award. Vesting of the PSUs is contingent upon the achievement of synergies captured from the Merger and continued employment during a three-year performance period beginning on the grant date. At the end of the performance period, the number of actual shares to be awarded varies between i0% and i200%
of target amounts. The PSUs vest pro rata if an executive’s employment terminates after i50% of the service period has passed and prior to the end of the performance period due to death, disability, or termination by the Company without cause or by the executive for good reason. If an executive’s employment terminates for any other reason prior to the end of the performance
period, all outstanding unvested PSUs, whether earned or unearned, are forfeited and cancelled. If a change in control of the Company occurs, and the plan is not accepted by the successor entity, prior to the end of the performance period, the PSU payout is calculated and paid assuming that the maximum benefit had been achieved. If the plan is accepted, awards will continue to vest as RSUs with a double trigger acceleration upon termination by the Company without cause or by the executive for good reason. If an executive’s employment terminates due to death or disability while any of the restricted stock is unvested, then all of the unvested restricted stock shall become vested. If an executive’s employment is terminated by the
Company without cause or by the executive for good reason, the unvested restricted stock is forfeited. If a change in control of the Company occurs, and the plan is not accepted by the successor entity, prior to the end of the performance period, the restricted stock fully vests. If the plan is accepted, awards will continue to vest with a double trigger acceleration upon termination by the Company without cause or by the executive for good reason. The fair value of the awards is based on the Company’s stock price as of the date of grant.
Stock option awards
During the nine months ended September 28,
2019, we granted i0.4 million stock options. The average grant date fair value of options granted during the nine months ended September 28, 2019 was $i1.97
per share. We did inot grant stock options during the nine months ended July 29, 2018. iNo
options were exercised during the nine months ended September 28, 2019. During the nine months ended July 29, 2018, i0.1 million options with an intrinsic value of $i0.8
million were exercised and cash received from options exercised was $i1.3 million.
Restricted stock units and performance share units
Annual awards to our key employees generally have a three-year performance period. The fair value of RSUs awarded is based on the Company’s stock price as of the date of grant. During the nine months ended September 28,
2019, we granted RSUs to key employees with a fair value of $i2.8 million representing approximately i0.5
million shares. During the nine months ended July 29, 2018, we granted RSUs with a fair value of $i6.8 million, representing i0.3
million shares.
During the nine months ended September 28, 2019, we granted PSUs with a total fair value of approximately $i0.4 million to key employees. During the nine months ended July 29, 2018, we granted PSUs with a total fair value
of approximately $i3.8 million and $i2.8
million, to the Company’s senior executives and key employees, respectively. On November 16, 2018, upon consummation of the Merger, certain PSUs that were issued in fiscal 2017 and fiscal 2018 converted to RSUs at i100% and continue to vest in accordance with the original schedule, as the Board of Directors approved the treatment of existing awards,
at the Merger date, as if a change in control had occurred, per the respective agreements governing each award.
Share-based compensation expense
During the three and nine months ended September 28, 2019 we recorded share-based compensation expense for all awards of $i3.1 million and $i10.6
million, respectively. During the three and nine months ended July 29, 2018, we recorded share-based compensation expense for all awards of $i1.0 million and $i8.9
million, respectively. Share-based compensation expense for the nine months ended July 29, 2018 included accelerated awards of $i3.6 million due to the retirement of the Company’s former CEO.
20
NOTE
10 — iEARNINGS PER COMMON SHARE
Basic earnings per common share is computed by dividing net income allocated to common shares by the weighted average number of common shares outstanding. Diluted earnings per common share, if applicable, considers the dilutive effect of common stock equivalents. iThe
reconciliation of the numerator and denominator used for the computation of basic and diluted earnings per common share is as follows (in thousands, except per share data):
Numerator for Basic and Diluted Earnings Per Common Share
Net income (loss) applicable to common shares
$
i24,790
$
i35,765
$
(i17,320)
$
i35,303
Denominator
for Basic and Diluted Income Per Common Share
Weighted average basic number of common shares outstanding
i125,557
i66,335
i125,526
i66,361
Common
stock equivalents:
Employee stock options
i1
i95
i—
i98
PSUs
and Performance Share Awards
i—
i8
i—
i18
Weighted
average diluted number of common shares outstanding
i125,558
i66,438
i125,526
i66,477
Basic
income (loss) per common share
$
i0.20
$
i0.54
$
(i0.14)
$
i0.53
Diluted
income (loss) per common share
$
i0.20
$
i0.54
$
(i0.14)
$
i0.53
Incentive
Plan securities excluded from dilution(1)
i5,189
i—
i4,974
i—
(1)Represents
securities not included in the computation of diluted earnings per common share because their effect would have been anti-dilutive.
We calculate earnings per share using the “two-class” method, whereby unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents are “participating securities” and, therefore, these participating securities are treated as a separate class in computing earnings per share. The calculation of earnings per share presented here excludes the income attributable to unvested restricted stock units related to our Incentive Plan from the numerator and excludes the dilutive impact of those shares from the denominator. Awards subject to the achievement of performance conditions or market conditions for which such conditions had been met at the end of any of the fiscal periods presented are included in the computation of diluted earnings per common
share if their effect was dilutive.
NOTE 11 — iWARRANTY
The Company sells a number of products and offers a number of warranties. The specific terms and conditions of these warranties vary depending on the product sold. Upon the sale of a weathertightness warranty, we record the resulting revenue as deferred revenue, which is included in other
accrued expenses and other long-term liabilities on our consolidated balance sheets depending on when the revenues are expected to be recognized. Factors that affect the Company’s warranty liabilities include the number of units sold, historical and anticipated rates of warranty claims, cost per claim and new product introduction. The Company assesses the adequacy of the recorded warranty claims and adjusts the amounts as necessary.
21
i
The
following table represents the rollforward of our accrued warranty obligation and deferred warranty revenue activity for the nine months ended September 28, 2019 and July 29, 2018 (in thousands):
The
Company records the current warranty obligation within other accrued expenses and the long-term warranty obligation within other long-term liabilities within the Company’s consolidated balance sheets at September 28, 2019 and October 28, 2018.
NOTE 12 — iDEFINED
BENEFIT PLANS
RCC Pension Plan — With the acquisition of Robertson-Ceco II Corporation (“RCC”) on April 7, 2006, we assumed a defined benefit plan (the “RCC Pension Plan”). Benefits under the RCC Pension Plan are primarily based on years of service and the employee’s compensation. The RCC Pension Plan is frozen and, therefore, employees do not accrue additional service benefits. Plan assets of the RCC Pension Plan are invested in broadly diversified portfolios of government obligations, mutual funds, stocks, bonds, fixed income securities and master limited partnerships.
CENTRIA Benefit Plans — As a result of the CENTRIA Acquisition on January 16, 2015, we assumed noncontributory defined benefit plans covering certain
hourly employees (the “CENTRIA Benefit Plans”) which are closed to new participants. Benefits under the CENTRIA Benefit Plans are calculated based on fixed amounts for each year of service rendered, although benefits accruals for one of the plans previously ceased. Plan assets of the CENTRIA Benefit Plans are invested in broadly diversified portfolios of domestic and international equity mutual funds, bonds, mortgages and other funds. CENTRIA also sponsors postretirement medical and life insurance plans that cover certain of its employees and their spouses (the “OPEB Plans”).
In addition to the CENTRIA Benefit Plans, CENTRIA contributes to a multi-employer plan, the Steelworkers Pension Trust. The minimum required annual contribution to this plan is $i0.3
million. The current contract expires on June 1, 2022. If we were to withdraw our participation from this multi-employer plan, CENTRIA may be required to pay a withdrawal liability representing an amount based on the underfunded status of the plan. The plan is not significant to the Company’s consolidated financial statements.
Ply Gem Pension Plans — As a result of the Merger on November 16, 2018, we assumed the Ply Gem Group Pension Plan (the “Ply Gem Plan”) and the MW Manufacturers, Inc Retirement Plan (the “MW Plan”). The Ply Gem Plan was frozen during 1998, and no further increases in benefits for participants may
occur as a result of increases in service years or compensation. The MW Plan was frozen for salaried participants during 2004 and non-salaried participants during 2005. No additional participants may enter the plan, but increases in benefits for participants as a result of increase in service years or compensation will occur.
We refer to the RCC Pension Plan, the CENTRIA Benefit Plans, the Ply Gem Plan and the MW Plan collectively as the “Defined Benefit Plans” in this Note.
22
i
The
following table sets forth the components of the net periodic benefit cost, before tax, and funding contributions, for the periods indicated (in thousands):
We
expect to contribute $i2.3 million to the Defined Benefit Plans in the year ending December 31, 2019. Our policy is to fund the CENTRIA Benefit Plans as required by minimum funding standards of the Internal Revenue Code. The contributions to the OPEB Plans by retirees vary from inone
to i25% of the total premiums paid.
NOTE 13 — iLONG-TERM DEBT
AND NOTE PAYABLE
i
Debt is comprised of the following (in thousands):
Asset-based revolving credit facility due April 2023
$
i170,000
$
i—
Asset-based
revolving credit facility due February 2023
i—
i—
Term
loan facility due April 2025
i2,536,397
i—
Term
loan facility due February 2025
i—
i412,925
Cash
flow revolver due April 2023
i—
i—
i8.00%
senior notes due April 2026
i645,000
i—
Less:
unamortized discounts and unamortized deferred financing costs(1)
(i58,151)
(i5,699)
Total
long-term debt, net of unamortized discounts and unamortized deferred financing costs
i3,293,246
i407,226
Less:
current portion of long-term debt
i25,600
i4,150
Total
long-term debt, less current portion
$
i3,267,646
$
i403,076
(1)Includes
the unamortized deferred financing costs associated with the term loan facilities and senior notes. The unamortized deferred financing costs associated with the asset-based revolving credit facilities of $i2.6 million and $i1.1
million as of September 28, 2019 and October 28, 2018, respectively, are classified in other assets on the consolidated balance sheets.
/
Recent Debt Transactions
In connection with the Merger, on November 16, 2018, the Company assumed (i) the obligations of Ply Gem Midco, a subsidiary of Ply Gem immediately prior to the consummation of the Merger, as borrower under the Current Cash Flow Credit Agreement, (ii) the obligations of Ply Gem Midco as parent borrower under the Current ABL Credit Agreement and (iii) the obligations
of Ply Gem Midco as issuer under the Current Indenture.
23
February 2018 Debt Redemption and Refinancing
On February 8, 2018, the Company entered into the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement, the proceeds of which, together, were used to redeem the i8.25%
senior notes due 2023 (the “i8.25% Senior Notes”) and to refinance the Company’s then-existing term loan credit facility and the Company’s then-existing asset-based revolving credit facility.
Term Loan Credit Agreement due February 2025
On February 8, 2018,
the Company entered into the Pre-merger Term Loan Credit Agreement which provided for a term loan credit facility in an original aggregate principal amount of $i415.0 million (the “Pre-merger Term Loan Credit Facility”). Proceeds from borrowings under the Pre-merger Term Loan Credit Facility were used, together with cash on hand, (i) to refinance the then existing term loan credit agreement, (ii) to redeem and repay the i8.25%
Senior Notes and (iii) to pay any fees, premiums and expenses incurred in connection with the refinancing. On November 16, 2018, the Company repaid the remaining $i412.9 million aggregate principal amount of the term loans outstanding under the Pre-merger Term Loan Credit Facility for approximately $i413.7
million, reflecting remaining principal and interest, using proceeds from the incremental term loan facility entered into in connection with the Merger.
Term Loan Facility due April 2025 and Cash Flow Revolver due April 2023
On April 12, 2018, Ply Gem Midco entered into the Current Cash Flow Credit Agreement, which provides for (i) a term loan facility (the “Current Term Loan Facility”) in an original aggregate principal amount of $i1,755.0
million, issued with a discount of i0.5%, and (ii) a cash flow-based revolving credit facility (the “Current Cash Flow Revolver” and together with the Term Loan Facility, the “Current Cash Flow Facilities”) of up to $i115.0
million. The Current Term Loan Facility amortizes in nominal quarterly installments equal to ione percent of the aggregate initial principal amount thereof per annum, with the remaining balance payable upon final maturity of the Current Term Loan Facility on April 12, 2025. There are no amortization payments under the Current Cash Flow Revolver, and all borrowings under the Current Cash Flow Revolver mature on April
12, 2023.
On November 16, 2018, the Company entered into an incremental term loan facility in connection with the Merger, which increased the aggregate principal amount of the Current Term Loan Facility by $i805.0 million. The proceeds of this incremental term loan facility were used to, among other things, (a) finance the Merger
and to pay certain fees, premiums and expenses incurred in connection therewith, (b) repay in full amounts outstanding under the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement and (c) repay $i325.0 million of borrowings outstanding under the ABL Facility. On November 16, 2018, in connection with the consummation of the Merger, NCI and Ply Gem Midco entered into a joinder agreement with respect to the Current Cash Flow Facilities, and the
Company became the Borrower (as defined in the Current Cash Flow Credit Agreement) under the Current Cash Flow Facilities.
The Current Term Loan Facility bears annual interest at a floating rate measured by reference to, at the Company’s option, either (i) an adjusted LIBOR rate (subject to a floor of i0.00%) plus an applicable margin of i3.75%
per annum or (ii) an alternate base rate plus an applicable margin of i2.75% per annum. iAt September 28, 2019,
the interest rates on the Current Term Loan Facility were as follows:
The Company entered into certain interest rate swap agreements during the nine months ended September 28, 2019 to convert a portion of its variable rate debt to fixed. See Note 16 - Fair Value of Financial Instruments and Fair Value
Measurements.
Loans outstanding under the Current Cash Flow Revolver bear annual interest at a floating rate measured by reference to, at the Company’s option, either (i) an adjusted LIBOR rate (subject to a floor of i0.00%) plus an applicable margin ranging from i2.50%
to i3.00% per annum depending on the Company’s secured leverage ratio or (ii) an alternate base rate plus an applicable margin ranging from i1.50%
to i2.00% per annum depending on the Company’s secured leverage ratio. Additionally, unused commitments under the Current Cash Flow Revolver are subject to a fee ranging from i0.25%
to i0.50% per annum depending on the Company’s secured leverage ratio.
24
The Current Term Loan Facility may be prepaid at the Company’s option
at any time, subject to minimum principal amount requirements. Prepayments of the Current Term Loan Facility in connection with a repricing transaction (as defined in the Current Cash Flow Credit Agreement) on or prior to April 12, 2019 are subject to a i1.00% prepayment premium. Prepayments may otherwise be made without premium or penalty (other than customary breakage costs). The Current Cash Flow Revolver may be prepaid at the Company’s option at any time without
premium or penalty (other than customary breakage costs), subject to minimum principal amount requirements.
Subject to certain exceptions, the Current Term Loan Facility is subject to mandatory prepayments in an amount equal to:
•the net cash proceeds of (1) certain asset sales, (2) certain debt offerings and (3) certain insurance recovery and condemnation events; and
•i50%
of annual excess cash flow (as defined in the Cash Flow Credit Agreement), subject to reduction to i25% and i0%
if specified secured leverage ratio targets are met to the extent that the amount of such excess cash flow exceeds $i10.0 million. The annual excess cash flow assessment will begin with the Company’s 2019 fiscal year, payable within five business days after the delivery of the annual financial statements.
The obligations under the Current Cash Flow Credit Agreement are guaranteed by
each direct and indirect wholly-owned U.S. restricted subsidiary of the Company, subject to certain exceptions, and are secured by:
•a perfected security interest in substantially all tangible and intangible assets of the Company and each subsidiary guarantor (other than ABL Priority Collateral (as defined below)), including the capital stock of each direct material wholly-owned U.S. restricted subsidiary owned by the Company and each subsidiary guarantor, and i65%
of the capital stock of any non-U.S. subsidiary held directly by the Company or any subsidiary guarantor, subject to certain exceptions (the “Cash Flow Priority Collateral”), which security interest will be senior to the security interest in the foregoing assets securing the Current ABL Facility; and
•a perfected security interest in the ABL Priority Collateral, which security interest will be junior to the security interest in the ABL Priority Collateral securing the Current ABL Facility.
The Current Cash Flow Revolver includes a financial covenant set at a maximum secured leverage ratio of i7.75:1.00,
which will apply if the outstanding amount of loans and drawings under letters of credit which have not then been reimbursed exceeds a specified threshold at the end of any fiscal quarter.
ABL Credit Agreement due February 2023
On February 8, 2018, the subsidiaries of the Company, NCI Group, Inc. and Robertson-Ceco II Corporation, and the Company as a guarantor, entered into the Pre-merger ABL Credit Agreement. The Pre-merger ABL Credit Agreement provided for an asset-based revolving credit facility (the “Pre-merger ABL Credit Facility”) which allowed aggregate maximum
borrowings by the ABL borrowers of up to $i150.0 million, letters of credit of up to $i30.0
million and up to $i20.0 million for swingline borrowings. Borrowing availability was determined by a monthly borrowing base collateral calculation that is based on specified percentages of the value of accounts receivable, eligible credit card receivables and eligible inventory, less certain reserves and subject to certain other adjustments. Availability was reduced by issuance of letters of credit as well as any borrowings. All borrowings under the Pre-merger ABL Credit Facility would have matured on February
8, 2023. This facility was terminated in connection with the Merger and replaced with the Current ABL Facility (defined below).
ABL Facility due April 2023
On April 12, 2018, Ply Gem Midco entered into the Current ABL Credit Agreement, which provides for an asset-based revolving credit facility (the “Current ABL Facility”) of up to $i360.0 million, consisting of (i) $i285.0
million available to U.S. borrowers (subject to U.S. borrowing base availability) (the “ABL U.S. Facility”) and (ii) $i75.0 million available to both U.S. borrowers and Canadian borrowers (subject to U.S. borrowing base and Canadian borrowing base availability) (the “ABL Canadian Facility”). The Company and, at their option, certain of their subsidiaries
are the borrowers under the Current ABL Facility. All borrowings under the Current ABL Facility mature on April 12, 2023.
On October 15, 2018, Ply Gem Midco entered into an incremental asset-based revolving credit facility of $i36.0 million, which upsized the Current ABL Facility to $i396.0
million in the aggregate, and with (x) the ABL U.S. Facility being increased from $i285.0 million to $i313.5
million and (y) the ABL Canadian Facility being increased from $i75.0 million to $i82.5
million.
On November 16, 2018, Ply Gem Midco entered into an incremental asset-based revolving credit facility of $i215.0 million in connection with the Merger, which upsized the Current ABL Facility to $i611.0
million in the aggregate, and with (x) the ABL U.S. Facility being increased from $i313.5 million to approximately $i483.7
million and (y) the ABL Canadian Facility being increased from $i82.5 million to approximately $i127.3
million. On November 16, 2018, in connection with the consummation of the Merger, the Company and Ply Gem Midco entered into a joinder agreement with respect to the Current ABL Facility, and the Company became the Parent Borrower (as defined in the ABL Credit Agreement) under the Current ABL Facility.
25
Borrowing availability under the Current ABL Facility is determined by a monthly borrowing base collateral calculation that is based on specified percentages of the value of eligible inventory, eligible accounts receivable and eligible
credit card receivables, less certain reserves and subject to certain other adjustments as set forth in the Current ABL Credit Agreement. Availability is reduced by issuance of letters of credit as well as any borrowings. iAs of September 28, 2019, the Company had the following in relation to the Current ABL Facility (in thousands):
Loans outstanding under the Current ABL Facility bear interest at a floating rate measured by reference to, at the Company’s option, either (i) an adjusted LIBOR rate (subject to a LIBOR floor of i0.00%)
plus an applicable margin ranging from i1.25% to i1.75% per annum depending on the average daily excess availability under the Current ABL Facility
or (ii) an alternate base rate plus an applicable margin ranging from i0.25% to i0.75% per annum depending on the average daily excess availability
under the ABL Facility. Additionally, unused commitments under the ABL Facility are subject to a i0.25% per annum fee. At September 28, 2019, the weighted average interest rate on the Current ABL Facility was i3.66%.
The
obligations under the Current ABL Credit Agreement are guaranteed by each direct and indirect wholly-owned U.S. restricted subsidiary of the Company, subject to certain exceptions, and are secured by:
•a perfected security interest in all present and after-acquired inventory, accounts receivable, deposit accounts, securities accounts, and any cash or other assets in such accounts and other related assets owned by the Company and the U.S. subsidiary guarantors and the proceeds of any of the foregoing, except to the extent such proceeds constitute Cash Flow Priority Collateral, and subject to certain exceptions (the “ABL Priority Collateral”), which security interest is senior to the security interest in the foregoing assets securing
the Current Cash Flow Facilities; and
•a perfected security interest in the Cash Flow Priority Collateral, which security interest will be junior to the security interest in the Cash Flow Collateral securing the Current Cash Flow Facilities.
Additionally, the obligations of the Canadian borrowers under the Current ABL Credit Agreement are guaranteed by each direct and indirect wholly-owned Canadian restricted subsidiary of the Canadian borrowers, subject to certain exceptions, and are secured by substantially all assets of the Canadian borrowers and the Canadian subsidiary guarantors, subject to certain exceptions.
The Current ABL Credit Agreement includes a minimum fixed charge coverage ratio of i1.00:1.00,
which is tested only when specified availability is less than i10.0% of the lesser of (x) the then applicable borrowing base and (y) the then aggregate effective commitments under the Current ABL Facility, and continuing until such time as specified availability has been in excess of such threshold for a period of i20
consecutive calendar days.
8.00% Senior Notes due April 2026
On April 12, 2018, Ply Gem Midco issued $i645.0 million at a discount of i2.25%
in aggregate principal amount of i8.00% Senior Notes due April 2026 (the “i8.00% Senior Notes”). The i8.00%
Senior Notes bear interest at i8.00% per annum and will mature on April 15, 2026. Interest is payable semi-annually in arrears on April 15 and October 15. The effective interest rate for the i8.00%
Senior Notes was i8.64% as of September 28, 2019, after considering each of the different interest expense components of this instrument, including the coupon payment and the deferred debt issuance costs.
On November 16, 2018, in connection with the consummation of the Merger, the Company entered into a supplemental indenture
and assumed the obligations of Ply Gem Midco as issuer under the Current Indenture.
The i8.00% Senior Notes are guaranteed on a senior unsecured basis by each of the Company’s wholly-owned domestic subsidiaries that guarantee the
Company’s obligations under the Current Cash Flow Facilities or the Current ABL Facility (including by reason of being a borrower under the Current ABL Facility on a joint and several basis with the Company or a subsidiary guarantor). The i8.00% Senior Notes are unsecured senior indebtedness and rank equally in right of payment with the Current Cash Flow Facilities and Current ABL Facility. The i8.00%
Senior Notes are effectively subordinated to all of the Company’s secured debt, including the Current Cash Flow Facilities and Current ABL Facility, and are senior in right of payment to all subordinated obligations of the Company.
The Company may redeem the i8.00% Senior Notes
in whole or in part at any time as set forth below:
•prior to April 15, 2021, the Company may redeem the i8.00% Senior Notes at a price equal to i100%
of the principal amount thereof, plus accrued and unpaid interest, if any, to but not including the redemption date, plus the applicable make-whole premium;
26
•prior to April 15, 2021, the Company may redeem up to i40.0%
of the original aggregate principal amount of the i8.00% Senior Notes with proceeds of certain equity offerings, at a redemption price of i108%, plus accrued and unpaid
interest, if any, to but not including the redemption date; and
•on or after April 15, 2021, the Company may redeem the i8.00% Senior Notes at specified redemption prices starting at i104%
and declining ratably to i100.0% by April 15, 2023, plus accrued and unpaid interest, if any, to but not including the redemption date.
Redemption of 8.25% Senior Notes
On January 16, 2015, the Company issued $i250.0
million in aggregate principal amount of the i8.25% Senior Notes. On February 8, 2018, the Company redeemed the outstanding $i250.0
million aggregate principal amount of the i8.25% Senior Notes for approximately $i265.5 million using the proceeds from borrowings under the Pre-merger Term Loan Credit Facility.
During
the nine months ended July 29, 2018, the Company incurred a pretax loss, primarily on the extinguishment of the Notes, of $i21.9 million, of which approximately $i15.5
million represents the call premium paid on the redemption of the Notes.
Debt Covenants
The Company’s debt agreements contain a number of covenants that, among other things, limit or restrict the ability of the Company and its subsidiaries to incur additional indebtedness; make dividends and other restricted payments; incur additional liens; consolidate, merge, sell or otherwise dispose of all or substantially all assets; make investments; transfer or sell assets; enter into restrictive agreements; change the nature of the business; and enter into certain transactions with affiliates. As of September 28,
2019, the Company was in compliance with all covenants that were in effect on such date.
Insurance Note Payable
As of September 28, 2019, the Company had ino notes payable outstanding. As of October 28, 2018, the
Company had an outstanding note payable in the amount of $i0.5 million related to financed insurance premiums. Insurance premium financings are generally secured by the unearned premiums under such policies.
NOTE 14 — iCD&R
INVESTOR GROUP
On August 14, 2009, the Company entered into an Investment Agreement (as amended, the “Investment Agreement”), by and between the Company and Clayton, Dubilier & Rice Fund VIII, L.P., a Cayman Islands exempted limited partnership (“CD&R Fund VIII”). In connection with the Investment Agreement and the Stockholders Agreement dated October 20, 2009 (the “Old Stockholders Agreement”), CD&R Fund VIII and CD&R Friends & Family Fund VIII, L.P., a Cayman Islands exempted limited partnership (“CD&R FF Fund” and, together with CD&R Fund VIII, the “CD&R Fund VIII Investor Group”) purchased
convertible preferred stock of the Company, which was converted into shares of our common stock on May 14, 2013.
On December 11, 2017, the CD&R Fund VIII Investor Group completed a registered underwritten offering of i7,150,000 shares of the
Company’s Common Stock at a price to the public of $i19.36 per share (the “2017 Secondary Offering”). Pursuant to the underwriting agreement, at the CD&R Fund VIII Investor Group request, the Company purchased i1.15
million of the i7.15 million shares of the Company’s Common Stock from the underwriters in the 2017 Secondary Offering at a price per share equal to the price at which the underwriters purchased the shares from the CD&R Fund VIII Investor Group. The total amount the Company spent on these repurchases was $i22.3
million.
Ply Gem Holdings was acquired by CD&R Fund X and Atrium Intermediate Holdings, LLC, GGC BP Holdings, LLC and AIC Finance Partnership, L.P. (collectively, the “Golden Gate Investor Group”) and merged with Atrium on April 12, 2018 (the “Ply Gem-Atrium Merger”).
Pursuant to the terms of the Merger Agreement, on November 16, 2018, the Company entered into (i) a stockholders agreement (the “New Stockholders Agreement”) between the Company, and each of the CD&R Fund VIII Investor Group, CD&R Pisces Holdings, L.P., a Cayman Islands exempted limited partnership (“CD&R Pisces”,
and together with the CD&R Fund VIII Investor Group, the “CD&R Investor Group”) and the Golden Gate Investor Group (together with the CD&R Investor Group, the “Investors”), pursuant to which the Company granted to the Investors certain governance, preemptive and subscription rights and (ii) a registration rights agreement (the “New Registration Rights Agreement”) between the Company and each of the Investors, pursuant to which the Company granted the Investors customary demand and piggyback registration rights,
including rights to demand registrations and underwritten shelf registration statement offerings with respect to the shares of the Company’s Common Stock that are held by the Investors following the consummation of the Merger.
Pursuant to the terms of the New Stockholders Agreement, the Company and the CD&R Fund VIII Investor Group terminated the Old Stockholders Agreement. Pursuant to the terms of the New Registration Rights Agreement, the Company and the CD&R Fund VIII Investor Group terminated the Registration Rights
Agreement, dated as of October 20, 2009 (the “Old Registration Rights Agreement”), by and among the Company and the CD&R Fund VIII Investor Group.
27
As of September 28, 2019, the CD&R Investor Group owned approximately i49.3%
of the outstanding shares of the Company’s Common Stock. At October 28, 2018, the CD&R Fund VIII Investor Group owned approximately i34.4% of the outstanding shares of the Company’s Common Stock.
NOTE 15 — iSTOCK
REPURCHASE PROGRAM
On September 8, 2016, the Company announced that its Board of Directors authorized a stock repurchase program for the repurchase of up to an aggregate of $i50.0 million of the Company’s outstanding Common Stock. On October
10, 2017 and March 7, 2018, the Company announced that its Board of Directors authorized new stock repurchase programs for the repurchase of up to an aggregate of $i50.0 million and an additional $i50.0
million, respectively, of the Company’s outstanding Common Stock for a cumulative total of $i100.0 million. Under these repurchase programs, the Company is authorized to repurchase shares, if at all, at times and in amounts that it deems appropriate in accordance with all applicable securities laws and regulations. Shares repurchased pursuant to the repurchase programs are
usually retired. There is no time limit on the duration of the programs.
During the nine months ended September 28, 2019, there were ino repurchases under the stock repurchase programs. During the nine months ended July 29, 2018, the Company repurchased approximately i2.7
million shares for $i46.7 million under the stock repurchase programs, which included i1.15 million shares for $i22.3
million purchased pursuant to the CD&R Fund VIII Investor Group’s 2017 Secondary Offering (see Note 14 — CD&R Investor Group). As of September 28, 2019, approximately $i55.6 million remained available for stock repurchases under the programs. The timing and method of any repurchases, which will depend on a variety of factors, including market conditions, are subject to results of operations, financial
conditions, cash requirements and other factors, and may be suspended or discontinued at any time.
During the nine months ended September 28, 2019 and July 29, 2018, the Company withheld ithirty-five thousand and i0.3
million shares, respectively, of stock to satisfy minimum tax withholding obligations arising in connection with the vesting of stock awards, which are included in treasury stock purchases in the consolidated statements of stockholders’ equity.
During the nine months ended September 28, 2019, the Company cancelled i0.1 million shares related
to shares withheld to satisfy minimum tax withholding obligations arising in connection with the vesting of stock awards, resulting in a $ii0.7/
million decrease in both treasury stock and additional paid in capital. During the nine months ended July 29, 2018, the Company cancelled i2.9 million shares related to shares withheld to satisfy minimum tax withholding obligations arising in connection with the vesting of stock awards and shares repurchased under the stock repurchase programs, resulting in an approximate $ii51.8/
million decrease in both treasury stock and additional paid in capital.
NOTE 16 — iFAIR VALUE OF FINANCIAL INSTRUMENTS AND FAIR VALUE MEASUREMENTS
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, restricted cash, trade accounts receivable, accounts payable and notes payable approximate fair value as of September 28,
2019 and October 28, 2018, respectively, because of their relatively short maturities. The carrying amounts of the indebtedness under the Current ABL Facility and Current Cash Flow Revolver approximate fair value as the interest rates are variable and reflective of market rates. At September 28, 2019, there was $i170.0 million of borrowings outstanding under the Current ABL Facility and ino
outstanding indebtedness under the Current Cash Flow Revolver. iThe fair values of the remaining financial instruments not currently recognized at fair value on our consolidated balance sheets at the respective period ends were (in thousands):
The
fair values of the term loan facility were based on recent trading activities of comparable market instruments, which are level 2 inputs and the fair value of the i8.00% senior notes was based on quoted prices in active markets for the identical liabilities, which are level 1 inputs.
Fair Value Measurements
ASC Subtopic 820-10, Fair Value Measurements and Disclosures, requires us to use valuation techniques to measure fair value that
maximize the use of observable inputs and minimize the use of unobservable inputs. These inputs are prioritized as follows:
Level 1: Observable inputs such as quoted prices for identical assets or liabilities in active markets.
28
Level 2: Other inputs that are observable directly or indirectly, such as quoted prices for similar assets or liabilities or market-corroborated inputs.
Level 3: Unobservable inputs for which there is little or no market data and which require us to develop our own assumptions about how market participants would price the assets or liabilities.
The
following is a description of the valuation methodologies used for assets and liabilities measured at fair value. There have been no changes in the methodologies used as of September 28, 2019 and October 28, 2018.
Money market: Money market funds have original maturities of three months or less. The original cost of these assets approximates fair value due to their short-term maturity.
Mutual funds: Mutual funds are valued at the closing price reported in the active market in which the mutual fund is traded.
Assets held for sale: Assets held for sale are valued based on current market conditions, prices of similar assets in similar condition and expected proceeds from
the sale of the assets, representative of Level 3 inputs.
Deferred compensation plan liability: Deferred compensation plan liability is comprised of phantom investments in the deferred compensation plan and is valued at the closing price reported in the active markets in which the money market and mutual funds are traded.
Interest rate swap liability: Interest rate swap liabilities are based on cash flow hedge contracts that have fixed rate structures and are measured against market-based LIBOR yield curves. These interest rate swaps were classified within Level 2 of the fair value hierarchy because they were valued using alternative pricing sources or models that utilized market observable inputs, including current and forward interest rates.
Foreign
currency hedge: The fair value of the foreign currency forward contract agreement is estimated using industry standard valuation models using market-based observable inputs, including spot rates, forward points, interest rates and volatility inputs (Level 2).
i
The following tables summarize information regarding our financial
assets and liabilities that are measured at fair value on a recurring basis as of September 28, 2019 and October 28, 2018, segregated by the level of the valuation inputs within the fair value hierarchy utilized to measure fair value (in thousands):
Short-term
investments in deferred compensation plan(1):
Money market
$
i369
$
i—
$
i—
$
i369
Mutual
funds – Growth
i1,118
i—
i—
i1,118
Mutual
funds – Blend
i2,045
i—
i—
i2,045
Mutual
funds – Foreign blend
i812
i—
i—
i812
Mutual
funds – Fixed income
i—
i941
i—
i941
Total
short-term investments in deferred compensation
plan(2)
i4,344
i941
i—
i5,285
Total
assets
$
i4,344
$
i941
$
i—
$
i5,285
Liabilities:
Deferred
compensation plan liability(2)
$
i—
$
i4,639
$
i—
$
i4,639
Total
liabilities
$
i—
$
i4,639
$
i—
$
i4,639
(1)Unrealized
holding gains (losses) for the three months ended September 28, 2019 and July 29, 2018 were $(i0.1) million and $i0.2
million, respectively. Unrealized holding gains for the nine months ended September 28, 2019 and July 29, 2018 were $i0.4 million and $i0.3
million, respectively. These unrealized holding gains (losses) were substantially offset by changes in the deferred compensation plan liability.
(2)The Company records the short-term investments in deferred compensation plan within investments in debt and equity securities, at market, and the deferred compensation plan liability within accrued compensation and benefits on the consolidated balance sheets.
(3)In May 2019, the Company entered into interest rate swaps to mitigate variability in forecasted interest payments on $i1,500.0
million of the Company’s unsecured variable debt. The interest rate swaps effectively convert a portion of the floating rate interest payments into a fixed rate interest payment. There are ithree interest rate swaps that cover $iii500.0//
million of notional debt each and fix the interest rate at i5.918%, i5.906% and i5.907%,
respectively. The Company designated the interest rate swaps as qualifying hedging instruments and accounts for these derivatives as cash flow hedges. The interest rate swap liability is included within other long-term liabilities on the consolidated balance sheets.
(4)In July 2019, the Company entered into a forward contract agreement to hedge approximately $i21.9 million
of its 2019 non-functional currency inventory purchases. This forward contract was established to protect the Company from variability in cash flows attributable to changes in the U.S. dollar relative to the Canadian dollar. As a cash flow hedge, unrealized gains are recognized as assets while unrealized losses are recognized as liabilities. The forward contract is highly correlated to the changes in the U.S. dollar relative to the Canadian dollar. Unrealized gains and losses on these agreements are designated as effective or ineffective. The effective portion of such gains or losses is recorded as a component of accumulated other comprehensive income or loss, while the ineffective portion of such gains or
losses is recorded as a component of cost of goods sold. Future realized gains and losses in connection with each inventory purchase will be reclassified from accumulated other comprehensive income or loss to cost of goods sold. The gains and losses on the derivative contract that are reclassified from accumulated other comprehensive income or loss to current period earnings are included in the line item in which the hedged item is recorded in the same period the forecasted transaction affects earnings. During the three months ended September 28, 2019, the Company realized a gain of approximately $i0.1
million within cost of goods sold in the consolidated statement of operations based on these cash flow hedges. The changes in fair values of derivatives that have been designated and qualify as cash flow hedges are recorded in accumulated other comprehensive income or loss and are reclassified into cost of goods sold in the same period the hedged item affects earnings. Due to the high degree of effectiveness between the hedging instruments and the underlying exposures being hedged, fluctuations in the value of the derivative instruments are generally offset by changes in the fair value or cash flows of the underlying exposures being hedged. The changes in the fair value of derivatives that do not qualify as effective are immediately recognized in earnings.
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NOTE
17 — iINCOME TAXES
Under FASB Accounting Standards Codification 740-270, Income Taxes - Interim Reporting, each interim period is considered an integral part of the annual period and tax expense is measured using an estimated annual effective tax rate. Estimates of the annual effective tax rate at the end of interim periods are, of necessity, based on evaluation of possible future events and transactions and may be subject to subsequent refinement or revision. The
Company calculates its quarterly tax provision consistent with the guidance provided by ASC 740-270, whereby the Company forecasts its estimated annual effective tax rate then applies that rate to its year-to-date pre-tax book income (loss). In addition, the Company excludes jurisdictions with a projected loss for the year or the year-to-date loss where the Company cannot recognize a tax benefit from its estimated annual effective tax rate. The impact of such an exclusion could result in a higher or lower effective tax rate during a particular quarter, based upon the mix and timing of actual earnings versus annual projections. In addition to the tax resulting from applying the estimated annual effective tax rate
to pre-tax income (loss), the Company includes certain items treated as discrete events to arrive at an estimated effective tax rate. Future changes in the forecasted annual income (loss) projections, tax rate changes, or discrete tax items could result in significant adjustments to quarterly income tax expense in future periods in accordance with ASC 740-270.
For the nine months ended September 28, 2019, the Company's estimated annual effective income tax rate was approximately i40.9%,
which varied from the statutory rate primarily due to state income tax expense, valuation allowances, foreign income taxes, and the net impact of the Tax Cuts and Jobs Act (“U.S. Tax Reform”). U.S. Tax Reform was enacted by the United States on December 22, 2017. U.S. Tax Reform incorporates significant changes to U.S. corporate income tax laws including, among other things, a reduction in the federal statutory corporate income tax rate from 35% to 21%, an exemption for dividends received from certain foreign subsidiaries, a one-time repatriation tax on deemed repatriated earnings from foreign subsidiaries, immediate expensing of certain depreciable tangible assets, limitations on the deduction for net interest expense and certain executive
compensation and the repeal of the Domestic Production Activities Deduction. The effective tax rate including discrete items related to unrecognized tax benefits and adjustments to state income tax rates was i20.4% for the nine months ended September 28, 2019.
Valuation allowance
As of September 28,
2019, the Company remains in a valuation allowance position, in the amount of $i21.4 million, against its deferred tax assets for certain state and Canadian jurisdictions for certain entities as it is currently deemed “more likely than not” that the benefit of such net tax assets will not be utilized as the
Company continues to be in a three-year cumulative loss position for these states and Canadian jurisdictions. The Company will continue to monitor the positive and negative factors for these jurisdictions and make further changes to the valuation allowances as necessary. As a result of the Merger, net operating losses may be subject to limitation under Section 382.
Unrecognized tax benefits
Despite the Company’s belief that its tax return positions are consistent with applicable tax laws, the Company believes that certain positions could be challenged by taxing authorities. The
Company’s tax reserves reflect the difference between the tax benefit claimed on tax returns and the amount recognized in the consolidated financial statements. These reserves have been established based on management’s assessment as to potential exposure attributable to permanent differences and interest and penalties applicable to both permanent and temporary differences. The tax reserves are reviewed periodically and adjusted in light of changing facts and circumstances, such as progress of tax audits, lapse of applicable statutes of limitations and changes in tax law. The Company is currently under examination by various taxing authorities. During the nine months ended September 28, 2019, the tax reserves increased by approximately $i6.9
million. The increase is primarily due to uncertain tax positions that were previously netted against deferred tax assets related to net operating losses in accordance with ASC 740 in addition to interest expense related to previously recorded unrecognized tax benefits.
The liability for unrecognized tax benefits as of September 28, 2019 was approximately $i11.9 million and is recorded in other long-term liabilities in the accompanying consolidated balance sheet.
Tax
receivable agreement (“TRA”) liability
The TRA liability generally provides for the payment by Ply Gem to a third party entity of 85% of the amount of cash savings, if any, in the U.S. federal, state and local income tax that Ply Gem actually realizes as a result of (i) net operating loss carryovers (“NOLs”) from periods ending before January 1, 2013, (ii) deductible expenses attributable to Ply Gem’s 2013 initial public offering and (iii) deductions related to imputed interest. This liability carried over to the Company in connection with the consummation of the Merger on November 16, 2018. Ply Gem’s future taxable income estimate was used to determine the cumulative NOLs that are expected to be utilized and the TRA liability was
accordingly adjusted using the 85% TRA rate as Ply Gem retains the benefit of 15% of the tax savings. As of September 28, 2019, the Company had a $i24.8 million current liability for the amount due pursuant to the Tax Receivable Agreement and expects to pay this amount by December 31, 2019.
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NOTE
18 — iSEGMENT INFORMATION
Operating segments are defined as components of an enterprise that engage in business activities for which discrete financial information is available and is evaluated on a regular basis by the chief operating decision maker to make decisions regarding the allocation of resources to the segment and assess the performance of the segment. For the transition period ended December 31, 2018, the
Company began reporting results under ithree reportable segments: Commercial, Siding and Windows. The Company’s prior reportable segments, Engineered Building Systems, Metal Components, Insulated Metal Panels, and Metal Coil Coating, are now collectively in the Commercial segment. Prior periods for all periods presented have been recast to conform to the current segment presentation. The Siding segment will include the operating results of the legacy Ply Gem
operating segment of Siding, Fencing, and Stone, and the Windows segment will include the operating results of the legacy Ply Gem operating segment of Windows and Doors.
These operating segments follow the same accounting policies used for our consolidated financial statements. We evaluate a segment’s performance based primarily upon operating income before corporate expenses.
Corporate assets consist primarily of cash, investments, prepaid expenses, current and deferred taxes and property, plant and equipment associated with our headquarters in Cary, North Carolina and office in Houston, Texas. These items (and income and expenses related to these items) are not allocated to the operating segments. During the nine months ended September 28, 2019, the
Company changed the manner in which costs were allocated to the Commercial segment for commercial cost centers that had previously been categorized as unallocated corporate costs. Corporate unallocated expenses include share-based compensation expenses, acquisition costs, and other expenses related to executive, legal, finance, tax, treasury, human resources, information technology and strategic sourcing, and corporate travel expenses. Additional unallocated amounts primarily include non-operating items such as interest income, interest expense, loss on extinguishment of debt and other income (expense).
i
The
following table represents summary financial data attributable to the segments for the periods indicated (in thousands):
As a manufacturer of products primarily for use in building construction, the Company is inherently exposed to various types of contingent claims, both asserted and unasserted, in the ordinary course of business. As a result, from time to time, the Company and/or its subsidiaries
become involved in various legal proceedings or other contingent matters arising from claims or potential claims. The Company insures against these risks to the extent deemed prudent by its management and to the extent insurance is available. Many of these insurance policies contain deductibles or self-insured retentions in amounts the Company deems prudent and for which the Company is responsible for payment. In determining the amount of self-insurance, it is the Company’s policy to self-insure those losses that are predictable, measurable and recurring in nature. The
Company regularly reviews the status of ongoing proceedings and other contingent matters along with legal counsel. Liabilities for such items are recorded when it is probable that the liability has been incurred and when the amount of the liability can be reasonably estimated. Liabilities are adjusted when additional information becomes available. Management believes that the ultimate disposition of these matters will not have a material adverse effect on the Company’s results of operations, financial position or cash flows. However, such matters are subject to many uncertainties and outcomes are not predictable with assurance.
Environmental
The Company is subject to United States and Canadian federal, state,
provincial and local laws and regulations relating to pollution and the protection of the environment, including those governing emissions to air, discharges to water, use, storage, treatment, disposal and transport of hazardous waste and other materials, investigation and remediation of contaminated sites, and protection of worker health and safety. From time to time, the Company’s facilities are subject to investigation by governmental authorities. In addition, the Company has been identified as one of many potentially responsible parties for contamination present at certain offsite locations to which it or its predecessors are alleged to have sent hazardous materials for recycling or disposal. The Company may be held
liable, or incur fines or penalties, in connection with such requirements or liabilities for, among other things, releases of hazardous substances occurring on or emanating from current or formerly owned or operated properties or any associated offsite disposal location, or for known or newly-discovered contamination at any of the Company’s properties from activities conducted by it or previous occupants. The amount of any liability, fine or penalty may be material, and certain environmental laws impose strict, and under certain circumstances joint and several, liability for the cost of addressing releases of hazardous substances upon certain classes of persons, including site owners or operators and persons that disposed or arranged for the disposal of hazardous substances at contaminated sites.
One of the
Company’s subsidiaries entered into an Administrative Order on Consent (the “Consent Order”), effective September 12, 2011, with the United States Environmental Protection Agency (“EPA”), under the Resource Conservation and Recovery Act (“RCRA”), with respect to its Rocky Mount, Virginia property. During 2011, as part of the Consent Order, the Company provided the EPA, among other things, a RCRA Facility Investigation Workplan (the “Workplan”). In 2012, the EPA approved the Workplan, which the Company is currently implementing. Current estimates of remaining costs for predicted assessment, remediation and monitoring activities as
of September 28, 2019 are $i4.5 million. The Company has recorded approximately $i0.3
million of this environmental liability within current liabilities at September 28, 2019 and approximately $i4.2 million within other long-term liabilities in the Company’s consolidated balance sheets at September 28, 2019. The Company may incur costs that exceed its recorded environmental
liability. The Company will adjust its environmental remediation liability in future periods, if necessary, as further information develops or circumstances change.
The EPA is investigating groundwater contamination at a Superfund site in York, Nebraska referred to as the “PCE/TCE Northeast Contamination Site”. A subsidiary of the Company has been named a potentially responsible party (“PRP”) with respect to the PCE/TCE Northeast Contamination Site. As a PRP, the Company could have liability for investigation and remediation costs associated with the contamination. Given the current status of this matter, the
Company has recorded a liability of $i5.0 million within other long-term liabilities in its consolidated balance sheets as of September 28, 2019.
The Company is a party to various acquisition and other agreements pursuant to which third parties agreed to indemnify the Company for certain
costs relating to environmental liabilities. For example, the Company may be able to recover some of its Rocky Mount, Virginia investigation and remediation costs from U.S. Industries, Inc. and may be able to recover a portion of costs incurred in connection with the York, Nebraska contamination matter from Novelis Corporation as successor to Alcan Aluminum Corporation, the former owner of the York, Nebraska location. The Company’s ability to seek indemnification from parties that have agreed to indemnify it may be limited. There can be no assurance that the Company would receive any funds from these parties, and any related environmental liabilities or costs could have a material adverse effect on our financial condition
and results of operations.
Based on current information, the Company is not aware of any environmental compliance obligations, claims or investigations that will have a material adverse effect on its results of operations, cash flows or financial position except as otherwise disclosed in the Company’s consolidated financial statements. However, there can be no guarantee that previously known or newly-discovered matters will not result in material costs or liabilities.
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Litigation
The
Company believes it has valid defenses to the outstanding claims discussed below and will vigorously defend all such claims; however, litigation is subject to many uncertainties and there cannot be any assurance that the Company will ultimately prevail or, in the event of an unfavorable outcome or settlement of litigation, that the ultimate liability would not be material and would not have a material adverse effect on the business, results of operations, cash flows or financial position of the Company.
In November 2018, Aurora Plastics, LLC (“Aurora”) initiated an arbitration demand against Atrium Windows and Doors, Inc., Atrium Extrusion Systems, Inc., and North Star Manufacturing (London) Ltd. (collectively, “Atrium”) pursuant to a Third
Amended and Restated Vinyl Compound and Supply Agreement dated as of December 22, 2016. Aurora alleges that Atrium’s breach of the Agreement has resulted in damages in excess of $i48.0 million. Arbitration of the matter is currently stayed but may begin in 2019.
On November 14, 2018, an individual stockholder, Gary D. Voigt, filed a putative class action complaint in the Delaware Court of Chancery against
CD&R, CD&R Fund VIII, and certain directors of the Company. Voigt purports to assert claims on behalf of himself, on behalf of a class of other similarly situated stockholders of the Company, and derivatively on behalf of the Company, the nominal defendant. An amended complaint was filed on April 11, 2019. The amended complaint asserts claims for breach of fiduciary duty and unjust enrichment against CD&R Fund VIII and CD&R, and for breach of fiduciary duty against the director defendants in connection with the Merger. Voigt seeks damages in an amount to be determined at trial. The
Company intends to vigorously defend the litigation.
Other contingencies
The Company is subject to other contingencies, including legal proceedings and claims arising out of its operations and businesses that cover a wide range of matters, including, among others, environmental, contract, employment, intellectual property, securities, personal injury, property damage, product liability, warranty, and modification, adjustment or replacement of component parts or units sold, which may include product recalls. Product liability, environmental and other legal proceedings also include matters with respect to businesses previously owned. The
Company has used various substances in products and manufacturing operations, which have been or may be deemed to be hazardous or dangerous, and the extent of its potential liability, if any, under environmental, product liability and workers’ compensation statutes, rules, regulations and case law is unclear. Further, due to the lack of adequate information and the potential impact of present regulations and any future regulations, there are certain circumstances in which no range of potential exposure may be reasonably estimated. Also, it is not possible to ascertain the ultimate legal and financial liability with respect to certain contingent liabilities, including lawsuits, and therefore no such estimate has been made as of September 28, 2019.
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CORNERSTONE
BUILDING BRANDS, INC.
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following information should be read in conjunction with the unaudited consolidated financial statements included herein under “Item 1. Unaudited Consolidated Financial Statements” and the audited consolidated financial statements and the notes thereto and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” included in our Annual Report on Form 10-K for the fiscal year ended October 28, 2018.
FORWARD LOOKING STATEMENTS
This Quarterly Report includes statements concerning
our expectations, beliefs, plans, objectives, goals, strategies, future events or performance and underlying assumptions and other statements that are not historical facts. These statements are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those expressed or implied by these statements. In some cases, our forward-looking statements can be identified by the words “anticipate,”“believe,”“continue,”“could,”“estimate,”“expect,”“forecast,”“goal,”“intend,”“may,”“objective,”“plan,”“potential,”“predict,”“projection,”“should,”“will” or other similar words. We have based our forward-looking statements on our management’s beliefs and assumptions based on information available to our management at the time the statements are made. We caution
you that assumptions, beliefs, expectations, intentions and projections about future events may and often do vary materially from actual results. Therefore, we cannot assure you that actual results will not differ materially from those expressed or implied by our forward-looking statements. Accordingly, investors are cautioned not to place undue reliance on any forward-looking information, including any earnings guidance, if applicable. Although we believe that the expectations reflected in the forward-looking statements are reasonable, these expectations and the related statements are subject to risks, uncertainties and other factors that could cause actual results to differ materially from those projected. These risks, uncertainties and other factors include, but are not limited to:
•industry cyclicality and seasonality and adverse weather conditions;
•challenging
economic conditions affecting the nonresidential construction industry;
•downturns in the residential new construction and repair and remodeling end markets, or the economy or the availability of consumer credit;
•volatility in the United States (“U.S.”) economy and abroad, generally, and in the credit markets;
•inability to successfully develop new products or improve existing products;
•the effects of manufacturing or assembly realignments;
•changes in laws or regulations;
•the effects of certain external domestic or international factors that we may not
be able to control, including war, civil conflict, terrorism, natural disasters and public health issues;
•our ability to obtain financing on acceptable terms;
•recognition of goodwill or other asset impairment charges;
•commodity price volatility and/or limited availability of raw materials, including steel, PVC resin and aluminum;
•retention and replacement of key personnel;
•increases in union organizing activity and work stoppages at our facilities or the facilities of our suppliers;
•our ability to employ, train and retain qualified personnel at a competitive cost;
•enforcement and obsolescence of our intellectual property rights;
•changes in foreign currency exchange rates;
•costs and liabilities related to compliance with environmental laws and environmental clean-ups;
•changes in building codes and standards;
•potential product liability claims, including class action claims and warranties, relating to products we manufacture;
•competitive activity and pricing pressure in our industry;
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•the
credit risk of our customers;
•the dependence on a core group of significant customers in our Windows and Siding segments;
•operational problems or disruptions at any of our facilities, including natural disasters;
•our ability to make strategic acquisitions accretive to earnings;
•our ability to carry out our restructuring plans and to fully realize the expected cost savings;
•significant changes in factors and assumptions used to measure
certain of Ply Gem’s defined benefit plan obligations and the effect of actual investment returns on pension assets;
•volatility in transportation, energy and freight prices;
•the adoption of climate change legislation;
•limitations on our net operating losses, interest deductibility, and payments under the tax receivable agreement;
•breaches of our information system security measures;
•damage to our major information management systems;
•necessary maintenance or replacements to our enterprise resource planning technologies;
•potential
personal injury, property damage or product liability claims or other types of litigation;
•compliance with certain laws related to our international business operations;
•the effect of tariffs on steel and other imports;
•the cost and difficulty associated with integrating and combining acquired businesses;
•potential write-downs or write-offs, restructuring and impairment or other charges required in connection with the Merger;
•potential claims arising from the operations of our various businesses arising from periods prior to the dates they were acquired;
•substantial
governance and other rights held by the Investors;
•the effect on our common stock price caused by transactions engaged in by the Investors, our directors or executives;
•our substantial indebtedness and our ability to incur substantially more indebtedness;
•limitations that our debt agreements place on our ability to engage in certain business and financial transactions;
•the effect of increased interest rates on our ability to service our debt;
•downgrades of our credit ratings; and
•other risks detailed under the caption “Risk Factors” in this Quarterly Report
on Form 10-Q, and in Part I, Item 1A in our Annual Report on Form 10-K for the fiscal year ended October 28, 2018 (the “2018 Form 10-K”), our Transition Report on Form 10-Q for the Transition Period and other filings we make with the SEC.
A forward-looking statement may include a statement of the assumptions or bases underlying the forward-looking statement. We believe that we have chosen these assumptions or bases in good faith and that they are reasonable. However, we caution you that assumed facts or bases almost always vary from actual results, and the differences between assumed facts or bases and actual results can be material, depending on the circumstances. When considering forward-looking statements, you should keep in mind the risk factors and other cautionary statements in this report, including those described under the caption “Risk Factors” in the
2018 Form 10-K, the Transition Report and other risks described in documents subsequently filed by the Company from time to time with the SEC. We expressly disclaim any obligations to release publicly any updates or revisions to these forward-looking statements to reflect any changes in our expectations unless the securities laws require us to do so.
OVERVIEW
Effective May 23, 2019, NCI Building Systems, Inc. changed its name to Cornerstone Building Brands, Inc. (together with its subsidiaries, unless the context requires otherwise, the “Company,”“Cornerstone,”“NCI,”“we,”“us” or “our”). In connection with the name change, the Company changed its NYSE trading symbol from “NCS” to “CNR”.
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Cornerstone Building Brands, Inc. is the largest North American integrated manufacturer and marketer of external building products for the commercial, residential, and repair & remodel construction industries. We design, engineer, manufacture and market external building products through our three operating segments, Commercial, Siding, and Windows.
In our Commercial segment, we manufacture and distribute extensive lines of metal products for the nonresidential construction
market under multiple brand names through a nationwide network of plants and distribution centers. We offer a number of advantages over traditional construction alternatives, including shorter construction time, more efficient use of materials, lower construction costs, greater ease of expansion and lower maintenance costs. Our Commercial segment also provides metal coil coating services for commercial and construction applications, servicing both internal and external customers. We sell our products for both new construction and repair and retrofit applications.
In our Siding segment, our principal products include vinyl siding and skirting, steel siding, vinyl and aluminum soffit, aluminum trim coil, aluminum gutter coil, aluminum gutters, aluminum and steel roofing accessories, cellular PVC trim and mouldings, J-channels, wide crown molding, window and door trim, F-channels, H-molds, fascia, undersill trims, outside/inside
corner posts, rain removal systems, injection molded designer accents such as shakes, shingles, scallops, shutters, vents and mounts, vinyl fence, vinyl railing, and stone veneer in the United States and Canada. The breadth of our product lines and our multiple brand and price point strategy enable us to target multiple distribution channels (wholesale and specialty distributors, retailers and manufactured housing) and end users (new construction and home repair and remodeling).
In our Windows segment, our principal products include vinyl, aluminum-clad vinyl, aluminum, wood and clad-wood windows and patio doors and steel, wood, and fiberglass entry doors that serve both the new construction and the home repair and remodeling sectors in the United States and Canada. We continue introducing new products to the portfolio which allow us to enter or further penetrate new distribution channels and customers. The breadth of our
product lines and our multiple price point strategy enable us to target multiple distribution channels (wholesale and specialty distributors, retailers and manufactured housing) and end user markets (new construction and home repair and remodeling).
We assess performance across our operating segments by analyzing and evaluating, among other indicators, gross profit and operating income, as well as whether each segment has achieved its projected sales goals. In assessing our overall financial performance, we regard growth in earnings, as the key indicator of shareholder value.
Reporting Periods
On November 16, 2018, the Company’s Board of Directors approved a change to the
Company's fiscal year end from a 52/53 week year with the Company’s fiscal year end on the Sunday closest to October 31 to a calendar year of the twelve-month period from January 1 to December 31. The Company elected to change its fiscal year end in connection with the Merger to align both Companies’ fiscal year ends. As a result of this change, the Company filed a Transition Report on Form 10-Q that included the financial information for the transition period from October 29, 2018 to December 31, 2018, which period is referred to herein as the "Transition Period". References in this Quarterly Report on Form
10-Q to “fiscal year 2018” or “fiscal 2018” refer to the period from October 30, 2017 through October 28, 2018. The results of operations for the three and nine months ended July 29, 2018 are presented herein as the comparable period to the three and nine months ended September 28, 2019. The Company did not recast the consolidated financial statements for the period from June 30, 2018 to September 28, 2018 or January 1, 2018 to September 28, 2018, because the financial reporting
processes in place at that time included certain procedures that were completed only on a quarterly basis. Consequently, to recast this period would have been impractical.
The Company’s current fiscal quarters are based on a four-four-five week calendar with periods ending on the Saturday of the last week in the quarter except for December 31st which will always be the year-end date. Therefore, the financial results of certain fiscal quarters may not be comparable to prior fiscal quarters.
Environmental Stoneworks Acquisition
On January 12, 2019, the Company entered into a Unit Purchase Agreement (the “Purchase Agreement”)
with Environmental Materials, LLC, a Delaware limited liability company (“Environmental Stoneworks” or “ESW”), the Members of Environmental Materials, LLC (the “Sellers”) and Charles P. Gallagher and Wayne C. Kocourek, solely in their capacity as the Seller Representative (as defined in the Purchase Agreement), pursuant to which, on February 20, 2019, the Company’s wholly-owned subsidiary, Ply Gem Industries, Inc., purchased from the Sellers 100% of the outstanding limited liability company interests of Environmental Stoneworks (the “Environmental Stoneworks Acquisition”) for total consideration of $i182.6
million, subject to post-closing adjustments. The transaction was financed through borrowings under the Company’s asset-based revolving credit facility.
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Merger with Ply Gem
At the Special Shareholder Meeting on November 15, 2018, NCI’s shareholders approved (i) the Merger Agreement and (ii) the Stock Issuance. NCI’s shareholders also approved the three additional proposals described in the Company’s proxy statement relating to the Special Shareholder
Meeting. The Merger was consummated on November 16, 2018 in accordance with the Merger Agreement.
Pursuant to the terms of the Merger Agreement, on November 16, 2018, the Company entered into (i) the New Stockholders Agreement between the Company and each of the Investors, pursuant to which the Company granted to the Investors certain governance, preemptive and subscription rights and (ii) the New Registration Rights Agreement with the Investors, pursuant to which the
Company granted the Investors customary demand and piggyback registration rights, including rights to demand registrations and underwritten shelf registration statement offerings with respect to the shares of NCI Common Stock that are held by the Investors following the consummation of the Merger. Pursuant to the terms of the New Stockholders Agreement, the Company and the CD&R Fund VIII Investor Group terminated the Old Stockholders Agreement. Pursuant to the terms of the New Registration Rights Agreement, the Company and the CD&R Fund VIII Investor Group terminated the Old Registration Rights Agreement.
In
connection with the Merger, on November 16, 2018, NCI assumed (i) the obligations of Ply Gem Midco, a subsidiary of Ply Gem immediately prior to the consummation of the Merger, as borrower under the Current Cash Flow Credit Agreement, (ii) the obligations of Ply Gem Midco as parent borrower under the Current ABL Credit Agreement and (iii) the obligations of Ply Gem Midco as issuer under the Current Indenture.
On April 12, 2018, Ply Gem Midco entered into a Cash Flow Credit Agreement (the “Current Cash Flow Credit Agreement”), by and among Ply Gem Midco, JP Morgan Chase Bank, N.A., as administrative agent and collateral agent (the “Cash Flow Agent”), and the several banks and other financial institutions from time to time party
thereto. As of November 16, 2018, immediately prior to the consummation of the Merger, the Current Cash Flow Credit Agreement provided for (i) a term loan facility (the “Current Term Loan Facility”) in an original aggregate principal amount of $1,755.0 million and (ii) a cash flow-based revolving credit facility (the “Current Cash Flow Revolver” and together with the Current Term Loan Facility, the “Current Cash Flow Facilities”) of up to $115.0 million. On November 16, 2018, Ply Gem Midco entered into a Lender Joinder Agreement, by and among Ply Gem Midco, the additional commitment lender party thereto and the Cash Flow Agent, which amended the Current Cash Flow Credit Agreement in order to, among other things, increase the aggregate principal amount of the Current Term Loan Facility by $805.0 million (the “Incremental Term Loans”). Proceeds
of the Incremental Term Loans were used to, among other things, (a) finance the Merger and to pay certain fees, premiums and expenses incurred in connection therewith, (b) repay in full amounts outstanding under the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement (each as defined below) and (c) repay $325.0 million of borrowings outstanding under the Current ABL Facility (as defined below). On November 16, 2018, in connection with the consummation of the Merger, NCI and Ply Gem Midco entered into a joinder agreement with respect to the Current Cash Flow Facilities, and NCI became the Borrower (as defined in the Current Cash Flow Credit Agreement) under the Current Cash Flow Facilities. The Current Term Loan Facility amortizes in nominal quarterly installments equal to one percent of the aggregate initial principal amount thereof per annum, with the remaining balance payable upon final maturity
of the Current Term Loan Facility on April 12, 2025. There are no amortization payments under the Current Cash Flow Revolver, and all borrowings under the Current Cash Flow Revolver mature on April 12, 2023. At November 16, 2018, following consummation of the Merger, there was $2,555.6 million outstanding under the Current Term Loan Facility and there were no amounts drawn on the Current Cash Flow Revolver.
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On April 12, 2018, Ply Gem Midco and certain subsidiaries
of Ply Gem Midco entered into an ABL Credit Agreement (the “Current ABL Credit Agreement”), by and among Ply Gem Midco, the subsidiary borrowers from time to time party thereto, UBS AG, Stamford Branch, as administrative agent and collateral agent (the “ABL Agent”), and the several banks and other financial institutions from time to time party thereto, which provided for an asset-based revolving credit facility (the “Current ABL Facility”) of up to $360.0 million, consisting of (i) $285.0 million available to U.S. borrowers (subject to U.S. borrowing base availability) (the “ABL U.S. Facility”) and (ii) $75.0 million available to both U.S. borrowers and Canadian borrowers (subject to U.S. borrowing base and Canadian borrowing base availability) (the “ABL Canadian Facility”). On October 15, 2018, Ply Gem Midco entered into Amendment No. 2 to the Current ABL Credit Agreement, by and among
Ply Gem Midco, the incremental lender party thereto and the ABL Agent, which amended the Current ABL Credit Agreement in order to, among other things, increase the aggregate commitments under the Current ABL Facility by $36.0 million to $396.0 million overall, and with the (x) ABL U.S. Facility being increased from $285.0 million to $313.5 million and (y) the ABL Canadian Facility being increased from $75.0 million to $82.5 million. On November 16, 2018, Ply Gem Midco entered into Amendment No. 4 to the Current ABL Credit Agreement, by and among Ply Gem Midco, the incremental lenders party thereto and the ABL Agent, which amended the Current ABL Credit Agreement in order to, among other things, increase the aggregate commitments under the Current ABL Facility by $215.0 million (the “Incremental ABL Commitments”) to $611.0 million overall, and with the (x) ABL U.S. Facility being increased from $313.5 million to
approximately $483.7 million and (y) the ABL Canadian Facility being increased from $82.5 million to approximately $127.3 million. On November 16, 2018, in connection with the consummation of the Merger, NCI and Ply Gem Midco entered into a joinder agreement with respect to the Current ABL Facility, and NCI became the Parent Borrower (as defined in the Current ABL Credit Agreement) under the Current ABL Facility. The Company and, at the Company’s option, certain of the Company’s subsidiaries are the borrowers under the Current ABL Facility. As of November
16, 2018, and following consummation of the Merger, (a) Ply Gem Industries, Inc., Atrium Windows and Doors, Inc., NCI Group, Inc. and Robertson-Ceco II Corporation were U.S. subsidiary borrowers under the Current ABL Facility, and (b) Gienow Canada Inc., Mitten Inc., North Star Manufacturing (London) Ltd. and Robertson Building Systems Limited were Canadian borrowers under the Current ABL Facility. All borrowings under the Current ABL Facility mature on April 12, 2023. At November 16, 2018, following consummation of the Merger, there were no amounts drawn and $24.7 million of letters of credit issued under the Current ABL Facility.
On April 12, 2018, Ply Gem Midco issued $645.0 million aggregate principal amount of 8.00% Senior Notes due 2026 (the “8.00% Senior Notes”).
The 8.00% Senior Notes were issued pursuant to an Indenture, dated as of April 12, 2018 (as supplemented from time to time, the “Current Indenture”), by and among Ply Gem Midco, as issuer, the subsidiary guarantors from time to time party thereto and Wilmington Trust, National Association, as trustee. On November 16, 2018, in connection with the consummation of the Merger, the Company entered into a supplemental indenture and assumed the obligations of Ply Gem Midco as issuer under the Current Indenture
and the 8.00% Senior Notes. The 8.00% Senior Notes bear interest at 8.00% per annum and will mature on April 15, 2026. Interest is payable semi-annually in arrears on April 15 and October 15.
On November 16, 2018, in connection with the incurrence by Ply Gem Midco of the Incremental Term Loans and the obtaining by Ply Gem Midco of the Incremental ABL Commitments, following consummation of the Merger, the Company (a) terminated all outstanding commitments and repaid all outstanding amounts under the Term Loan Credit Agreement, dated as of February 8, 2018 (the “Pre-merger Term Loan Credit Agreement”), by and among the
Company, as borrower, the several banks and other financial institutions from time to time party thereto and Credit Suisse AG, Cayman Islands Branch, as administrative agent and collateral agent, and (b) terminated all outstanding commitments and repaid all outstanding amounts under the ABL Credit Agreement, dated as of February 8, 2018 (the “Pre-merger ABL Credit Agreement”), by and among NCI Group, Inc. and Robertson-Ceco II Corporation, as borrowers, the Company, as a guarantor, the other borrowers from time to time party thereto, the several banks and other financial institutions from time to time party thereto and Wells Fargo Bank, National Association, as administrative agent and collateral agent. Outstanding letters of credit under the Pre-merger ABL Credit Agreement were cash collateralized.
In
connection with the termination and repayment of the Pre-merger Term Loan Credit Agreement and the Pre-merger ABL Credit Agreement, the Company also terminated (i) the Term Loan Guarantee and Collateral Agreement, dated as of February 8, 2018, made by the Company and certain of its subsidiaries, in favor of Credit Suisse AG, Cayman Islands Branch, as collateral agent, (ii) the ABL Guarantee and Collateral Agreement, dated as of February 8, 2018, made by the Company and certain of its subsidiaries,
in favor of Wells Fargo Bank, National Association, as collateral agent, and (iii) the Intercreditor Agreement, dated as of February 8, 2018, between Credit Suisse AG, Cayman Islands Branch and Wells Fargo Bank, National Association, and acknowledged by the Company and certain of its subsidiaries.
The Company incurred approximately $36.3 million of acquisition expenses during the nine months ended September 28, 2019 related to the Merger, primarily for integration expenses, various third-party consulting and due-diligence services, and financial advisors’ fees, which are
recorded in strategic development and acquisition related costs in the Company’s consolidated statements of operations.
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Change in Operating Segments
For the Transition Period, the Company began reporting results under ithree
reportable segments: (i) Commercial, (ii) Siding, and (iii) Windows, to align with how the Company manages its business, reviews operating performance and allocates resources following the Merger. The Commercial segment will include the aggregate operating results of the Company’s legacy businesses, and the Siding and Windows segments will include the operating results of the legacy Ply Gem operating segments. Prior periods have been recast to conform to the current segment presentation.
Consolidated sales increased by approximately 134.3% for the three months ended September 28,
2019 as compared to the three months ended July 29, 2018. The improvement was primarily driven by the $820.1 million incremental aggregate sales of Ply Gem and ESW for the three months ended September 28, 2019. The impact of the added business is partially offset by lower sales in the Commercial segment, which decreased $83.6 million.
The Company’s gross profit percentage for the three months ended September 28, 2019 was 24.1% as compared to 24.3% in the third quarter of fiscal 2018. The lower gross margin was primarily caused by the inclusion of certain Ply Gem product lines, specifically Windows, that carry a lower gross margin than certain legacy Commercial products combined with integration
synergies and cost reduction initiatives implemented in connection with the merger between Ply Gem and NCI. Since our building products are intended for exterior use, our sales and operating earnings tend to be lower during periods of inclement weather. As a result, weather conditions in the first and fourth quarters of each calendar year will result in these quarters producing significantly less sales revenue and profitability than our second and third quarters of the year.
Industry Conditions
Commercial
Our sales and earnings are subject to both seasonal and cyclical trends and are influenced by general economic conditions, interest rates, the price of steel relative to other building materials, the level of nonresidential construction activity, roof repair and retrofit demand and the availability and cost of financing for construction
projects. Our sales normally are lower in the first and fourth quarters of each fiscal year compared to the second and third quarters because of unfavorable weather conditions for construction and typical business planning cycles affecting construction.
According to Dodge Data & Analytics (“Dodge”), low-rise nonresidential construction starts, as measured in square feet and comprising buildings of up to five stories, were down approximately 6% during the first nine months of 2019 as compared to the same period in 2018. According to the Dodge fourth quarter 2019 forecast, as measured in square feet, non-residential buildings starts are expected to dip 3% in 2019 and 8% in 2020. However, Dodge typically revises initial reported figures.
The leading indicators that we follow and that typically have the most meaningful correlation to nonresidential low-rise construction starts
are the American Institute of Architects’ (“AIA”) Architecture Mixed Use Index, Dodge Residential single family starts and the Conference Board Leading Economic Index (“LEI”). Historically, there has been a very high correlation to the Dodge low-rise nonresidential starts when the three leading indicators are combined and then seasonally adjusted.
Residential (Siding and Windows)
Our residential building products are typically installed on a new construction home 90 to 120 days after the start of the home, therefore, there is a lag between the timing of the single-family housing start date and the time in which our products are installed on a home. From an industry perspective, we evaluate the new construction environment by reviewing the U.S. Census Bureau single family housing start statistics to assess the performance of the new construction market for a normal
quarterly period. For the three months ended September 28, 2019, we evaluated U.S. Census Bureau single family housing starts in the period from March 2019 to June 2019 to assess the demand impacts for our products for the three months ended September 28, 2019 noting that single family housing starts decreased 7.1% due to a general softening in overall economic conditions specifically for new construction. For new construction, we also examine where these single-family housing starts occur geographically as the Northeast, which decreased 8.1%, and Midwest, which decreased 17.5%, are significant vinyl siding concentrated areas relative to the South and the West. In addition to new construction, we also evaluate the repair and remodeling market to assess residential market conditions by evaluating the Leading Indicator of Remodeling Activity (“LIRA”). For the third
quarter of 2019, LIRA reflected that the trailing 12 months of remodeling activity decreased from 6.8% for the third quarter of 2018 to 5.9% indicating a decline in the repair and remodeling market due to recent economic conditions. Finally, we assess our performance relative to our competitors and the overall siding industry by evaluating the marketing indicators produced by the Vinyl Siding Institute ("VSI"), a third party which summarizes vinyl siding unit sales for the industry. For the three months ended September 28, 2019, the VSI reported that siding units increased 4.1% for the industry. Overall, our Siding segment, excluding stone, is heavily weighted to the repair and remodeling market with approximately 65% of our net sales being attributed to repair and remodeling with the remaining 35% attributed to the new construction market.
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For
the nine months ended September 28, 2019, we evaluated U.S. Census Bureau single family housing starts in the period from September 2018 to June 2019 to assess the demand impacts for our products for the nine months ended September 28, 2019 noting that single family housing starts decreased 5.0% during this period due to inclement wet weather that existed during late Spring and a general softening in overall economic conditions. For new construction, we also examine where these single-family housing starts occur geographically as the Northeast; which decreased 3.1%, and Midwest, which decreased 12.5%, are significant vinyl siding concentrated areas relative to the South and the West. In addition to new construction, we also evaluate the repair and remodeling market to assess residential market conditions by evaluating the LIRA. For the third quarter of 2019, LIRA reflected
that the trailing 12 months of remodeling activity decreased from 6.8% for the third quarter of 2018 to 5.9% indicating a decline in the repair and remodeling market. Finally, we assess our performance relative to our competitors and the overall siding industry by evaluating the marketing indicators produced by the VSI, a third party which summarizes vinyl siding unit sales for the industry. For the nine months ended September 28, 2019, the VSI reported that siding units increased 1.6% for the industry. As of September 28, 2019, our U.S. market position in vinyl siding was 37.1% while our share of the Canadian vinyl siding market was 33.4%.
Historically, we evaluate our net sales performance within the Windows segment by evaluating our net sales for the new construction market and the repair and remodeling market. Overall, our
Windows segment is weighted to the new construction market with approximately 50% of our net sales attributed to new construction with the remaining 50% attributed to the repair and remodeling market.
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RESULTS OF OPERATIONS
Operating segments are defined as components of an enterprise that engage in business activities for which discrete financial information is available that is evaluated on a regular basis by the chief operating decision maker to make decisions about how to allocate resources to the segment and assess the performance of the segment. We have three operating segments: (i) Commercial, (ii) Siding, and (iii) Windows. Our operating
segments operate in the commercial and residential new construction, and repair & remodel construction markets. Sales and earnings are influenced by general economic conditions, the level of residential and nonresidential construction activity, commodity costs, such as steel, aluminum, and PVC, other input costs such as labor and freight, and the availability and terms of financing available for construction. The operating segments follow the same accounting policies used for our consolidated financial statements.
Corporate assets consist primarily of cash, investments, prepaid expenses, current and deferred taxes and property, plant and equipment associated with our headquarters in Cary, North Carolina and office in Houston, Texas. These items (and income and expenses related to these items) are not allocated to the operating segments. Corporate unallocated expenses include share-based compensation expenses, acquisition
costs and other expenses related to executive, legal, finance, tax, treasury, human resources, information technology and strategic sourcing, and corporate travel expenses. Additional unallocated amounts primarily include non-operating items such as interest income, interest expense, loss on extinguishment of debt and other income (expense). See Note 18 — Segment Information in the notes to the unaudited consolidated financial statements for more information on our segments.
We have revised our segment reporting to represent how we now manage our business, recasting prior periods to conform to the current segment presentation. The following table represents sales and operating income (loss) attributable to these operating segments for the periods indicated (in thousands):
Following the Merger completed on November 16, 2018, the Company determined that it would have three reportable segments:
(i) Commercial, (ii) Siding and (iii) Windows. These reportable segments were derived out of the legacy segments of the Company and Ply Gem Holdings. The legacy segments of the Company: Engineered Building Systems, Metal Components, Insulated Metal Panels, and Metal Coil Coating, are contained within the Commercial segment under the post-Merger segment structure. The legacy segments of Ply Gem Holdings: Siding, Fencing, and Stone, are within the Siding segment under the post-Merger segment structure while Windows and Doors are within the Windows segment.
For the three and nine months ended September 28, 2019, the Commercial segment contains operating segment results for the period with a comparison to the three
and nine months ended July 29, 2018. During the three months ended June 29, 2019, the Company prospectively changed the manner in which costs were allocated to the Commercial segment for commercial cost centers that had previously been categorized as unallocated corporate costs. The Siding and Windows segments contain operating segment results for the three and nine months ended September 28, 2019 with no comparative information included as these operating segments did not exist within Cornerstone for the three and nine months ended July 29, 2018.
Net
sales decreased $83.6 million, or 15.2% for the three months ended September 28, 2019 compared to the three months ended July 29, 2018. The decrease is driven by lower tonnage volumes within all or our businesses, excluding insulated metal panels. The volume decrease is primarily attributed to an acceleration of shipments in the prior year as customers were motivated to take receipt of materials in advance of anticipated material and price increases. Further, prolonged wet weather and labor shortages have challenged the execution schedule for many of our customers, creating volume headwinds during the three months ended September 28, 2019.
Gross profit decreased $12.5 million or 9.4% for the three months ended September 28,
2019 compared to the three months ended July 29, 2018. The decrease in gross profit is attributed to lower tonnage volumes discussed above. As a percentage of net sales, gross profit increased 170 basis points due to commercial price discipline and various supply chain and procurement cost-out initiatives, partially offset by lower leverage of fixed cost structure as a result of decreasing tonnage volume.
Selling, general, and administrative expenses (“SG&A”) increased $2.0 million or 3.4% for the three months ended September 28, 2019 compared to the three months ended July 29, 2018 primarily due to general and administrative costs of $4.3 million that are allocated to the Commercial segment that were previously categorized as unallocated
corporate costs prior to the Merger. Adjusting for the incremental general and administrative costs, as a percent of net sales, SG&A increased by 130 basis points due to investments in talent and technology within our insulated metal panel and pre-engineered buildings businesses, which more than offset the impact of cost initiatives that have been implemented.
Amortization expense for the three months ended September 28, 2019 was $2.8 million or 0.6% of net sales compared to $2.4 million or 0.4% of net sales for the three months ended July 29, 2018. The amortization expense as a percentage of net sales is higher due to the amortization of trade names which were previously classified as indefinite lived.
Gain on disposition of business
for the three months ended July 29, 2018 was $1.0 million related to the disposal of a non-strategic product line. There was no corresponding gain in the three months ended September 28, 2019.
Gain on insurance recovery for the three months ended July 29, 2018 was $4.7 million related to proceeds from a final settlement with our insurers for property damage at one of our facilities. There was no corresponding gain in the three months ended September 28, 2019.
Net
sales for the three months ended September 28, 2019 were $315.8 million. Net sales for the three months ended September 28, 2019 were favorably impacted by the inclusion of $45.4 million for the Environmental Stoneworks (“ESW”) acquisition, which closed on February 20, 2019. Excluding ESW, our net sales were $270.4 million for the three months ended September 28, 2019. Our net sales for the U.S. and Canadian markets were approximately $291.9 million and $23.9 million, respectively, for the three months ended September 28, 2019. For the three months ended September 28, 2019, foreign currency negatively impacted our net sales by $0.4 million.
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Gross profit for the three months ended September 28, 2019 was $90.6 million. Gross profit for the three months ended September 28, 2019 included ESW gross profit of $11.6 million. Excluding ESW, our gross profit would have been $79.0 million for the three months ended September 28, 2019. Historically, our gross profit is impacted by raw material costs, specifically PVC resin and aluminum. We pass along increases in raw material input costs to our customers but normally there is a lag period of approximately 90-120 days between the impact of higher raw material costs and customer pricing actions. In addition to raw material costs, we closely monitor labor and freight costs. Labor costs have trended higher recently given the shortage of manufacturing labor personnel and wage
inflation pressure.
As a percentage of net sales, our gross profit percentage was 29.2% excluding ESW as our Siding net sales and profitability are normally higher during the second and third quarters due to weather seasonality which increases building activity in both the new construction and repair and remodeling markets during the late spring and summer months. Higher volumes experienced during the summer months combined with price over inflation contributed to the 29.2% gross profit percentage.
Selling, general, and administrative expenses were $28.3 million for the three months ended September 28, 2019 including $9.3 million of SG&A expenses attributed to ESW. Included within SG&A expenses are sales and marketing expenses, research and development costs,
and legal and professional fees and non-manufacturing personnel costs. As a percentage of net sales, SG&A expenses were 7.0% for the three months ended September 28, 2019 excluding ESW.
Amortization expense for the three months ended September 28, 2019 was $25.2 million or 8.0% of net sales. The amortization expense is directly attributed to the Merger and the ESW acquisition and the resulting fair values assigned to our intangible assets including trade names and customer lists which both have finite amortization periods.
Net
sales for the three months ended September 28, 2019 were $504.3 million. Net sales for the three months ended September 28, 2019 included net sales of $108.8 million for Silver Line which was acquired on October 14, 2018. Excluding Silver Line, our net sales would have been $395.6 million for the three months ended September 28, 2019. For the three months ended September 28, 2019, foreign currency negatively impacted our net sales by $0.8 million.
Gross profit for the three months ended September 28, 2019 was $98.3 million. Gross profit for the three months ended September 28,
2019 includes Silver Line gross profit of $13.4 million. Excluding the impact of the Silver Line gross profit, our gross profit would have been $84.9 million for the three months ended September 28, 2019. Historically, our gross profit is impacted by raw material costs, specifically PVC resin, aluminum, and glass. We pass along increases in raw material input costs to our customers but normally there is a lag period of approximately 90-120 days between the impact of higher raw material costs and customer pricing actions. In addition to raw material costs, we closely monitor labor and freight costs. Labor costs have trended higher recently given the shortage of manufacturing labor personnel and wage inflation pressure. Finally, we review foreign currency fluctuations specifically for the Canadian dollar that can impact gross profit. For the three months ended September 28,
2019, foreign currency negatively impacted our gross profit by $0.3 million.
As a percentage of net sales, our gross profit percentage was 21.5% excluding Silver Line gross profit. Our net sales and profitability are normally higher during the second and third quarters due to weather seasonality which increases building activity in both the new construction and repair and remodeling markets. With increased production volumes during the late spring and summer months, our gross profit trends higher during the second and third quarters. These higher volumes combined with price discipline, synergy and cost improvement initiatives contributed to the 21.5% gross profit percentage.
Selling, general, and administrative expenses were $47.2 million for the three months ended September 28, 2019. SG&A expenses for
the three months ended September 28, 2019 includes $4.4 million of Silver Line SG&A expenses. Excluding the impact of Silver Line, SG&A expenses would have been $42.8 million. Included within SG&A expenses are sales and marketing expenses, research and development costs, and legal and professional fees and non-manufacturing personnel costs. As a percentage of net sales, SG&A expenses were 10.8% for the three months ended September 28, 2019 excluding Silver Line.
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Amortization expense for the three months ended September 28, 2019 was $16.7 million or 4.2% of net sales
excluding Silver Line. The amortization expense is directly attributed to the Merger and the fair values assigned to our intangible assets including trade names and customer lists which both have finite amortization periods.
Unallocated Operating Earnings (Losses), Interest, and Provision (Benefit) for Income Taxes
Unallocated operating losses include items that are not directly attributed to or allocated to our reporting segments. Such items include legal costs, corporate payroll, and unallocated finance and accounting expenses. The unallocated operating loss for the three months ended September 28,
2019 increased by $9.8 million or 38.5% compared to the three months ended July 29, 2018 due primarily to the addition of the Ply Gem corporate cost center, increased stock-based compensation and $5.3 million of costs associated with the Merger and integration of the legacy companies.
Interest expense increased to $56.5 million for the three months ended September 28, 2019 compared to $4.6 million for the three months ended July 29, 2018. The interest expense increase is primarily due to debt obligations assumed in the Merger. Following the consummation of the Merger, our consolidated debt balance increased to $3.3 billion at September 28, 2019 as compared to $407.2 million at October 28,
2018.
Foreign exchange gain (loss) for the three months ended September 28, 2019 was a $0.6 million loss, compared to a loss of $0.3 million for the three months ended July 29, 2018, due to exchange rate fluctuations in the Canadian dollar and Mexican peso relative to the U.S. dollar.
Consolidated provision (benefit) for income taxes was an expense of $14.1 million for the three months ended September 28, 2019 compared to an expense of $14.1 million for the three months ended July 29, 2018. The effective tax rate for the three months ended September 28, 2019 was 35.9% compared to 28.1%
for the three months ended July 29, 2018. The change in the effective tax rate was primarily driven by the continuing effects associated with the enactment of the U.S. Tax Cuts and Jobs Act, limitations on the deduction for net interest expense, and the inclusion of Ply Gem operations in the current period.
Net
sales decreased $56.8 million, or 4.0% for the nine months ended September 28, 2019 compared to the nine months ended July 29, 2018. The decrease in net sales is primarily attributed to lower tonnage volumes as the prior year benefited from an acceleration of shipments as customers were motivated to take receipt of materials in advance of material and price increases. This has been partially offset by the pass through of higher material input costs in the first half of 2019. Further, prolonged wet weather and labor shortages have challenged the execution schedule for many of our customers, creating volume headwinds during the nine months ending September 28, 2019.
Gross profit increased $3.3 million or 1.0% for the nine months ended
September 28, 2019 compared to the nine months ended July 29, 2018. As a percentage of net sales, gross profit increased 120 basis points driven by commercial price discipline and cost savings from various procurement and supply chain initiatives, partially offset by lower leverage of fixed cost structure as a result of decreasing tonnage volume.
Selling, general, and administrative expenses (“SG&A”) increased $18.3 million or 11.2% for the nine months ended September 28, 2019, compared to the nine months ended July 29, 2018 primarily due to general and administrative costs of $18.0 million that are allocated to the Commercial segment that were previously categorized as unallocated corporate
costs prior to the Merger. Adjusting for these incremental general and administrative costs, as a percent of net sales, SG&A increased 50 basis points primarily due to investments in talent and technology in our insulated metal panel and pre-engineered metal buildings businesses, which offset the impact of cost initiatives that have been implemented.
Amortization expense for the nine months ended September 28, 2019 was $8.5 million or 0.6% of net sales compared to $7.2 million or 0.5% of net sales for the nine months ended July 29, 2018. The amortization expense as a percentage of net sales is higher due to the amortization of trade names which were previously classified as indefinite lived.
Loss on disposition of business for the
nine months ended July 29, 2018 was $5.7 million. During the second quarter of fiscal 2018 we recorded a loss of $6.7 million on the sale of our China manufacturing facility and during the third quarter of fiscal 2018 we recorded a $1.0 million gain related to the disposal of a non-strategic product line. There was no corresponding loss in the nine months ended September 28, 2019.
Gain on insurance recovery for the nine months ended July 29, 2018 was $4.7 million related to proceeds from a final settlement with our insurers for property damage at one of our facilities. There was no corresponding gain in the nine months ended September 28, 2019.
Net
sales for the nine months ended September 28, 2019 were $840.6 million. Net sales for the nine months ended September 28, 2019 were favorably impacted by the inclusion of $108.2 million for the ESW acquisition, which closed on February 20, 2019. Excluding ESW, our net sales were $732.4 million for the nine months ended September 28, 2019. Our net sales for the U.S. and Canadian markets were approximately $784.5 million and $56.1 million, respectively, for the nine months ended September 28, 2019. For the nine months ended September 28, 2019, foreign currency negatively impacted our net sales by $2.4 million.
Gross
profit for the nine months ended September 28, 2019 was $208.8 million. Gross profit was negatively impacted $14.4 million by the non-cash inventory fair value step-up associated with the Merger and by $1.9 million for the non-cash inventory fair value step-up associated with the ESW acquisition that closed on February 20, 2019 both of which increased costs of goods sold during the nine months ended September 28, 2019. Gross profit for the nine months ended September 28, 2019 includes ESW gross profit of $25.6 million. Excluding ESW and the impact of these inventory step-ups, our gross profit would have been $199.5 million for the nine months ended September 28, 2019. We pass along increases in raw
material input costs to our customers but normally there is a lag period of approximately 90-120 days between the impact of higher raw material costs and customer pricing actions. In addition to raw material costs, we closely monitor labor and freight costs. Labor costs have trended higher recently given the shortage of manufacturing labor personnel and wage inflation pressure. For the nine months ended September 28, 2019, foreign currency negatively impacted our gross profit by $0.7 million.
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As a percentage of net sales, our gross profit percentage was 27.2% excluding ESW and the fair value step-up. Our net sales and profitability are normally higher during the second and third quarters due to weather
seasonality which increases building activity in both the new construction and repair and remodeling markets. With increased production volumes during the late spring and summer months, our gross profit trends higher during the second and third quarters. These higher volumes combined with price discipline contributed to the 27.2% gross profit percentage.
Selling, general, and administrative expenses were $83.6 million for the nine months ended September 28, 2019 including $19.6 million of SG&A expenses attributed to ESW. Included within SG&A expenses are sales and marketing expenses, research and development costs, and legal and professional fees and non-manufacturing personnel costs. As a percentage of net sales, SG&A expenses were 8.7% for the nine months ended September 28, 2019 excluding
ESW.
Amortization expense for the nine months ended September 28, 2019 was $73.9 million or 8.8% of net sales. The amortization expense is directly attributed to the Merger and the ESW acquisition and the resulting fair values assigned to our intangible assets including trade names and customer lists which both have finite amortization periods.
Net
sales for the nine months ended September 28, 2019 were $1,434.6 million. Net sales for the nine months ended September 28, 2019 included net sales of $311.4 million and $81.9 million for Silver Line and Atrium, respectively. The Silver Line acquisition was completed on October 14, 2018 while the Atrium acquisition was completed on April 12, 2018 with both entities’ net sales included for the Company within the Windows segment for the nine months ended September 28, 2019. Excluding these 2018 acquisitions, our net sales would have been $1,041.2 million for the nine months ended September 28,
2019. For the nine months ended September 28, 2019, foreign currency negatively impacted our net sales by $4.1 million.
Gross profit for the nine months ended September 28, 2019 was $258.8 million. Gross profit for the nine months ended September 28, 2019 includes Silver Line gross profit of $32.7 million and Atrium gross profit of $18.6 million. The Silver Line acquisition was completed on October 14, 2018 while the Atrium acquisition was completed on April 12, 2018 with both entities’ gross profit included for the Company within the Windows segment for the nine months
ended September 28, 2019. Excluding the impact of the Silver Line and Atrium gross profit, our gross profit would have been $207.6 million for the nine months ended September 28, 2019. We pass along increases in raw material input costs to our customers but normally there is a lag period of approximately 90-120 days between the impact of higher raw material costs and customer pricing actions. In addition to raw material costs, we closely monitor labor and freight costs. Labor costs have trended higher recently given the shortage of manufacturing labor personnel and wage inflation pressure. For the nine months ended September 28, 2019, foreign currency negatively impacted our gross profit by $1.2 million.
As a percentage of net sales, our gross profit percentage was 19.9% excluding
Silver Line and Atrium gross profit. Our net sales and profitability are normally higher during the second and third quarters due to weather seasonality which increases building activity in both the new construction and repair and remodeling markets. With increased production volumes during the late spring and summer months, our gross profit trends higher during the second and third quarters. These higher volumes combined with price discipline contributed to the 19.9% gross profit percentage.
Selling, general, and administrative expenses were $146.5 million for the nine months ended September 28, 2019. SG&A expenses for the nine months ended September 28, 2019 includes $14.8 million and $10.3 million of Silver Line and Atrium SG&A expenses, respectively. Excluding the impact of Silver Line and
Atrium, SG&A expenses would have been $121.4 million. Included within SG&A expenses are sales and marketing expenses, research and development costs, and legal and professional fees and non-manufacturing personnel costs. As a percentage of net sales, SG&A expenses were 11.7% for the nine months ended September 28, 2019 excluding Silver Line and Atrium as we normally gain leverage on the fixed component of SG&A expenses during the second and third quarters.
Amortization expense for the nine months ended September 28, 2019 was $50.3 million of net sales. The amortization expense is directly attributed to the Merger and the fair values assigned to our intangible assets including trade names and customer lists which both have finite amortization periods.
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Unallocated
Operating Earnings (Losses), Interest, and Provision (Benefit) for Income Taxes
Unallocated operating losses include items that are not directly attributed to or allocated to our reporting segments. Such items include legal costs, corporate payroll, and unallocated finance and accounting expenses. The unallocated operating loss for the nine months ended September 28,
2019 increased by $35.3 million or 49.4% compared to the nine months ended July 29, 2018 due primarily to the addition of the Ply Gem corporate cost center, increased stock-based compensation expense and $13.3 million of costs associated with the Merger.
Interest expense increased to $173.1 million for the nine months ended September 28, 2019 compared to $16.9 million for the nine months ended July 29, 2018. The interest expense increase is primarily due to debt obligations assumed in the Merger. Following the consummation of the Merger, our consolidated debt balance increased to $3.3 billion at September 28, 2019 as compared to $407.2 million at October 28,
2018.
Foreign exchange gain (loss) for the nine months ended September 28, 2019 was a $1.1 million gain, compared to a loss of $0.1 million for the nine months ended July 29, 2018, due to exchange rate fluctuations in the Canadian dollar and Mexican peso relative to the U.S. dollar.
Loss on debt extinguishment was $0.0 million for the nine months ended September 28, 2019 compared to $21.9 million for the nine months ended July 29, 2018. During the nine months ended July 29, 2018, we recognized a pretax loss, primarily on the extinguishment of our 8.25% senior notes due 2023, of $21.9
million, of which approximately $15.5 million represented the call premium paid on the redemption of the notes.
Consolidated provision (benefit) for income taxes was a benefit of $4.4 million for the nine months ended September 28, 2019 compared to an expense of $13.1 million for the nine months ended July 29, 2018. The effective tax rate for the nine months ended September 28, 2019 was 20.4% compared to 26.9% for the nine months ended July 29, 2018. The change in the effective tax rate was primarily driven by the continuing effects associated with the enactment of the U.S. Tax Cuts and Jobs Act, limitations on the deduction for net interest expense and the inclusion of Ply Gem operations in the current
period.
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LIQUIDITY AND CAPITAL RESOURCES
General
Our cash, cash equivalents and restricted cash decreased from $147.6 million as of December 31, 2018 to $109.1 million as of September 28, 2019. The following table summarizes our consolidated cash flows for the nine months ended September 28, 2019 and July 29, 2018, respectively (in thousands):
Net
cash provided by (used in) financing activities
156,959
(53,894)
Effect of exchange rate changes on cash and cash equivalents
1,406
(92)
Net decrease in cash, cash equivalents and restricted cash
(38,491)
(22,292)
Cash,
cash equivalents and restricted cash at beginning of period
147,607
65,794
Cash, cash equivalents and restricted cash at end of period
$
109,116
$
43,502
Operating Activities
Our business is both seasonal and cyclical and cash flows from operating activities may fluctuate during the year and from year-to-year
due to economic conditions. We rely on cash and short-term borrowings, when needed, to meet cyclical and seasonal increases in working capital needs. These needs generally rise during periods of increased economic activity or due to higher levels of inventory and accounts receivable. During economic slowdowns, working capital needs generally decrease as a result of the reduction of inventories and accounts receivable. Working capital needs also fluctuate based on raw material prices.
Net cash provided by operating activities was $67.8 million during the nine months ended September 28, 2019 compared to net cash provided by operating activities of $56.9 million for the nine months ended July 29, 2018. The change in cash flow provided by operations is due to the inclusion of current period operations from Ply Gem subsequent to the
Merger on November 16, 2018 and decreasing inventory that was driven by improved purchasing and lower input costs, partially offset by certain acquisition costs related to the Merger, and normal seasonal trends with higher receivables given summer building months.
Net cash used in accounts receivable was $138.3 million for the nine months ended September 28, 2019 compared to $13.5 million used in accounts receivable for the nine months ended July 29, 2018. There was $114.2 million used in the Ply Gem business during the nine months ended September 28, 2019 which primarily drove this change period over period resulting from the seasonality of our business as we reach the peak building season in our second and third quarters. Net
sales in the final months of each respective quarter drove the receivables increase. Net sales for September 2019 were approximately $509.5 million versus approximately $433.5 million for December 2018, an increase of $76.0 million. The improvement in September's net sales reflects the Company’s normal seasonal business as the weather in September is improved compared to December, which allows for further construction activity, increasing the Company’s sales with a corresponding increase in accounts receivable. The remaining changes in accounts receivable period over period relates to seasonal trends in working capital and timing of collections given the change in fiscal year. Our days sales outstanding as of September 28, 2019 and July 29,
2018 were 41.7 days and 33.6 days, respectively with the increase attributed to Ply Gem's inclusion in the 2019 figures.
For the nine months ended September 28, 2019, the change in cash flows relating to inventory was an increase of $63.3 million compared to a decrease of $64.9 million for the nine months ended July 29, 2018. We experienced a $50.7 million decrease in inventory in the Commercial segment as a result of strategic purchasing during our seasonally slower months and decreasing material costs that was partially combined with a $12.6 million inventory decrease in the Ply Gem and ESW businesses during the nine months ended September 28, 2019. Our days inventory on-hand improved to 44.8 days as of September 28, 2019
as compared to 54.3 days as of July 29, 2018 due to strategic purchasing and lower material costs.
Net cash provided by accounts payable for the nine months ended September 28, 2019 was $8.5 million compared to net cash provided by accounts payable of $34.6 million for the nine months ended July 29, 2018. Our vendor payments can significantly fluctuate based on the timing of disbursements, inventory purchases and vendor payment terms. Additionally, there was $6.5 million provided by accounts payable for Ply Gem during the nine months ended September 28, 2019 consistent with the seasonal inventory trends. Our days payable outstanding as of September 28, 2019 decreased to 21.5 days
from 35.5 days as of July 29, 2018 from the inclusion of Ply Gem in the 2019 figures.
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Investing Activities
Net cash used in investing activities was $264.7 million during the nine months ended September 28, 2019 compared to $25.2 million used in investing activities during the nine months ended July 29, 2018. During the nine months ended September 28, 2019, we paid approximately $179.2 million, net of cash acquired, for the acquisition of Environmental Stoneworks and we used $86.4 million for capital expenditures.
In the nine months ended July 29, 2018, we used $34.9 million for capital expenditures and sold a business in China, resulting in a net use of $4.4 million of cash, and sold a business in our Commercial segment for $3.0 million. Additionally in the nine months ended July 29, 2018, we sold three manufacturing facilities in our Commercial segment for total consideration of $6.3 million and we received $4.7 million of insurance proceeds as reimbursement for new assets acquired for a facility in the Commercial segment that experienced a fire in June 2016.
Financing Activities
Net cash provided by financing activities was $157.0 million in the nine months ended September 28, 2019 compared to $53.9 million used in the nine months ended July 29,
2018. During the nine months ended September 28, 2019, we borrowed $290.0 million, and repaid $120.0 million of that amount on our Current ABL Facility, to finance the Environmental Stoneworks Acquisition, paid $12.8 million on quarterly installments on our Current Term Loan and used $0.2 million for the purchases of shares related to restricted stock that were withheld to satisfy minimum tax withholding obligations arising in connection with the vesting of restricted stock awards and units. During the three months ended September 28, 2019, we made net payments of $50.0 million on the Current ABL Facility.
During the nine months ended July 29, 2018, we borrowed $85.0 million under our then-existing ABL facility and repaid $85.0 million of that amount, used $46.7 million to
repurchase shares of our outstanding common stock under programs approved by the Board of Directors in September 2016 and October 2017 and used $5.0 million for the purchases of shares related to restricted stock that were withheld to satisfy minimum tax withholding obligations arising in connection with the vesting of restricted stock awards and units. Net cash used in the redemption of then-existing Senior Notes and refinancing of long-term debt, including payments of financing costs was $2.2 million. We also received $1.3 million in cash proceeds from the exercises of stock options.
We invest our excess cash in various overnight investments which are issued or guaranteed by the U.S. federal government.
Debt
Our outstanding indebtedness will mature in 2023 (Current ABL Facility and Current Cash Flow Revolver), 2025 (Current Term Loan
Facility), and 2026 (8.00% Senior Notes). We may not be successful in refinancing, extending the maturity or otherwise amending the terms of such indebtedness because of market conditions, disruptions in the debt markets, our financial performance or other reasons. Furthermore, the terms of any refinancing, extension or amendment may not be as favorable as the current terms of our indebtedness. If we are not successful in refinancing our indebtedness or extending its maturity, we and our subsidiaries could face substantial liquidity problems and may be forced to reduce or delay capital expenditures, sell assets, seek additional capital or restructure our indebtedness. Following consummation of the Merger, the Current Term Loan Facility provided for an aggregate principal amount of $2,560.0 million. The
Company has also entered into certain interest rate swap agreements to reduce our variable interest rate risk.
The Current ABL Credit Agreement provides for an asset-based revolving credit facility which allows aggregate maximum borrowings by the ABL borrowers of up to $611.0 million. As set forth in the Current ABL Credit Agreement, extensions of credit under the Current ABL Facility are subject to a monthly borrowing base calculation that is based on specified percentages of the value of eligible inventory, eligible accounts receivable and eligible credit card receivables, less certain reserves and subject to certain other adjustments. Availability under the Current ABL Facility will be reduced by issuance of letters of credit as well as any borrowings outstanding thereunder.
As of September 28, 2019, we had an aggregate principal
amount of $3,351.4 million of outstanding indebtedness, comprising $170.0 million of borrowings under the Current ABL Facility, $2,536.4 million of borrowings under our Current Term Loan Facility and $645.0 million of 8.00% Senior Notes outstanding. We had no revolving loans outstanding under the Current Cash Flow Revolver. Our excess availability under the Current ABL Facility was $406.0 million as of September 28, 2019. In addition, standby letters of credit totaling approximately $30.3 million were outstanding but undrawn under the ABL Facility.
For additional information, see Note 13 — Long-Term Debt and Note Payable and Note 16 — Fair Value of Financial Instruments and Fair Value Measurement in the notes to the unaudited consolidated financial statements.
50
Cash
Flow
We periodically evaluate our liquidity requirements, capital needs and availability of resources in view of inventory levels, expansion plans, debt service requirements and other operating cash needs. To meet our short-term and long-term liquidity requirements, including payment of operating expenses, repayment of debt and the tax receivable liability, we rely primarily on cash from operations. Beyond cash generated from operations, $406.0 million is available with our Current ABL Facility at September 28, 2019, $115.0 million is available with our Current Cash Flow Revolver and we have an unrestricted cash balance of $105.2 million as of September 28, 2019.
We expect to contribute $2.3 million to the Defined Benefit Plans in the year ending December
31, 2019.
We expect that cash generated from operations and our availability under the ABL Credit Facility will be sufficient to provide us the ability to fund our operations and to provide the increased working capital necessary to support our strategy and fund planned capital expenditures of approximately 2.0%-2.5% of net sales for fiscal 2019 and expansion when needed.
Our corporate strategy evaluates potential acquisitions that would provide additional synergies in our Commercial, Siding and Windows segments. From time to time, we may enter into letters of intent or agreements to acquire assets or companies in these business lines. The consummation of these transactions could require substantial cash payments and/or issuance of additional debt.
From time to time, we have used available funds to repurchase shares of our common stock
under our stock repurchase programs. On October 10, 2017 and March 7, 2018, the Company announced that its Board of Directors authorized new stock repurchase programs for the repurchase of up to an aggregate of $50.0 million and an additional $50.0 million, respectively, of the Company’s outstanding Common Stock for a cumulative total of $100.0 million. Under these repurchase programs, the Company is authorized to repurchase shares, if at all, at times and in amounts that we deem appropriate in accordance with all applicable securities laws and regulations. Shares repurchased are usually retired. There is no time limit
on the duration of the programs. During the nine months ended September 28, 2019, there were no repurchases under the stock repurchase programs. As of September 28, 2019, approximately $55.6 million remained available for stock repurchases, all under the programs announced on October 10, 2017 and March 7, 2018. In addition to repurchases of shares of our common stock under our stock repurchase program, we also withhold shares of restricted stock to satisfy minimum tax withholding obligations arising in connection with the vesting of awards of restricted stock related to our 2003 Long-Term Stock Incentive Plan.
The Company may from time to time
take steps to reduce the Company’s debt or otherwise improve the Company’s financial position. These actions could include prepayments, open market debt repurchases, negotiated repurchases, other redemptions or retirements of outstanding debt, opportunistic refinancing of debt and raising additional capital. The amount of prepayments or the amount of debt that may be refinanced, repurchased or otherwise retired, if any, will depend on market conditions, trading levels of the Company’s debt, the Company’s cash position, compliance with debt covenants and other considerations. Affiliates of the
Company may also purchase the Company’s debt from time to time through open market purchases or other transactions. In such cases, the Company’s debt may not be retired, in which case the Company would continue to pay interest in accordance with the terms of the debt, and the Company would continue to reflect the debt as outstanding on its consolidated balance sheets.
OFF-BALANCE SHEET ARRANGEMENTS
As part of our ongoing business, we do not participate in transactions that generate relationships
with unconsolidated entities or financial partnerships, such as entities often referred to as structured finance or special purpose entities (“SPEs”), which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As of September 28, 2019, we were not involved in any material unconsolidated SPE transactions.
CONTRACTUAL OBLIGATIONS
In general, purchase orders issued in the normal course of business can be terminated in whole or in part for any reason without liability until the product is received.
In connection with the Merger, on November 16, 2018, NCI assumed (i) the obligations of Ply
Gem Midco, a subsidiary of Ply Gem immediately prior to the consummation of the Merger, as borrower under the Current Cash Flow Credit Agreement, (ii) the obligations of Ply Gem Midco as parent borrower under the Current ABL Credit Agreement and (iii) the obligations of Ply Gem Midco as issuer under the Current Indenture.
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The following table shows our debt contractual obligations as of September 28, 2019 (in thousands):
Payments
due by period
Contractual Obligation
Total
Less than 1 year
1 – 3 years
3 – 5 years
More than 5 years
Total debt(1)
$
3,351,397
$
25,620
$
51,240
$
221,240
$
3,053,297
Interest
payments on debt(2)
1,153,720
204,088
391,284
385,352
172,996
Operating lease liabilities(3)
402,740
86,367
146,251
70,284
99,838
Purchase
obligations(4)
64,468
64,468
—
—
—
Total
$
4,972,325
$
380,543
$
588,775
$
676,876
$
3,326,131
(1)Reflects
amounts outstanding under the Current ABL Facility, Current Term Loan Facility and the 8.00% Senior Notes and excludes any amounts potentially due under the excess cash flow provisions within the Current Term Loan Facility. Amounts currently drawn on the Current ABL Facility are reflected in the "3-5 years" column consistent with the non-current classification on the consolidated balance sheets.
(2)Interest payments were calculated based on the variable rate in effect at September 28, 2019 for the Current ABL Facility (applied to the outstanding ABL balance as of September 28, 2019) and Current Term Loan Facility, and at 8.00% on the 8.00% Senior Notes.
(3)Lease liabilities are stated at gross payment obligations under the terms
of existing lease agreements and are not reduced for the discount rate applied to the minimum lease payments that was used to calculate the minimum lease liabilities recorded under ASC 842, as represented in our consolidated balances sheets.
(4)Purchase obligations are defined as purchase agreements that are enforceable and legally binding and that specify all significant terms, including quantity, price and the approximate timing of the transaction. These obligations are related primarily to inventory purchases under three 2019 contracts that were finalized during 2018.
There have been no other material changes in our future contractual obligations since the end of fiscal 2018.
See Note 13 — Long-Term
Debt and Note Payable in the notes to the unaudited consolidated financial statements for more information on the material terms of our Current Cash Flow Facilities, 8.00% Senior Notes, and Current ABL Facility.
CRITICAL ACCOUNTING POLICIES
Critical accounting policies are those that are most important to the portrayal of our financial position and results of operations. These policies require our most subjective judgments, often employing the use of estimates about the effect of matters that are inherently uncertain. Our most critical accounting policies include those that pertain to revenue recognition, insurance accruals, share-based compensation, income taxes, accounting for acquisitions, intangible assets and goodwill, allowance for doubtful accounts, inventory valuation,
property, plant and equipment valuation and contingencies, which are described in Item 7 of our Annual Report on Form 10-K for the fiscal year ended October 28, 2018.
We adopted Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers, as of October 29, 2018 for the Transition Period. ASU 2014-09 provides enhancements to the quality and consistency of how revenue is reported. See Note 1 — Summary of Significant Accounting Policies in the notes to the unaudited consolidated financial statements for an update on the description of our revenue recognition policies as a result of the adoption of ASU 2014-09.
We
adopted ASU No. 2016-02, Leases, as of January 1, 2019 for the nine months ended September 28, 2019. ASU 2016-02 provides enhancements to increase transparency to lease obligations by recognizing right-of-use assets and lease liabilities on the balance sheet and disclosing key information about leasing transactions. See Note 1 — Summary of Significant Accounting Policies in the notes to the unaudited consolidated financial statements for an update on the description of our lease accounting policies as a result of the adoption of ASU 2016-02.
RECENT ACCOUNTING PRONOUNCEMENTS
See Note 2 — Accounting
Pronouncements in the notes to the unaudited consolidated financial statements for information on recent accounting pronouncements.
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Item 3. Quantitative and Qualitative Disclosures About Market Risk.
Commercial Business
We are subject to market risk exposure related to volatility in the price of steel. For the three months ended September 28, 2019, material costs (predominantly steel costs) constituted approximately 64% of our Commercial segment cost of sales. Our business is heavily dependent on the price and supply of steel. Our
various products are fabricated from steel produced by mills to forms including bars, plates, structural shapes, sheets, hot-rolled coils and galvanized or Galvalume® — coated coils(Galvalume® is a registered trademark of BIEC International, Inc.). The steel industry is highly cyclical in nature, and steel prices have been volatile in recent years and may remain volatile in the future. Steel prices are influenced by numerous factors beyond our control, including general economic conditions, domestically and internationally, the availability of raw materials, competition, labor costs, freight and transportation costs, production costs, import duties and other trade restrictions. Based on the cyclical nature of the steel industry, we expect steel prices will continue to be volatile.
Although
we have the ability to purchase steel from a number of suppliers, a production cutback by one or more of our current suppliers could create challenges in meeting delivery schedules to our customers. Because we have periodically adjusted our contract prices, we have generally been able to pass increases in our raw material costs through to our customers.
We normally do not maintain an inventory of steel in excess of our current production requirements. However, from time to time, we may purchase steel in advance of announced steel price increases. Therefore, our inventory may increase if demand for our products declines. We can give no assurance that steel will remain available or that prices will not continue to be volatile. While most of our sales contracts
have escalation clauses that allow us, under certain circumstances, to pass along all or a portion of increases in the price of steel after the date of the contract but prior to delivery, for competitive or other reasons we may not be able to pass such price increases along. If the available supply of steel declines, we could experience price increases that we are not able to pass on to our customers, a deterioration of service from our suppliers or interruptions or delays that may cause us not to meet delivery schedules to our customers. Any of these problems could adversely affect our results of operations and financial condition.
Siding and Windows Businesses
We are subject to market risk with respect to the pricing of our principal raw materials, which include PVC resin, aluminum and glass. If
prices of these raw materials were to increase dramatically, we may not be able to pass such increases on to our customers and, as a result, gross margins could decline significantly. We manage the exposure to commodity pricing risk by increasing our selling prices for corresponding material cost increases, continuing to diversify our product mix, strategic buying programs and vendor partnering. The average market price for PVC resin was estimated to have increased approximately 2.4% for the nine months ended September 28, 2019 compared to the nine months ended September 30, 2018.
Other Commodity Risks
In addition to market risk exposure related to the volatility in the price of steel, aluminum, PVC resin, and glass, we are subject to market risk exposure related to volatility in the
price of natural gas. As a result, we occasionally enter into both index-priced and fixed-price contracts for the purchase of natural gas. We have evaluated these contracts to determine whether the contracts are derivative instruments. Certain contracts that meet the criteria for characterization as a derivative instrument may be exempted from hedge accounting treatment as normal purchases and normal sales and, therefore, these forward contracts are not marked to market. At September 28,
2019, all of our contracts for the purchase of natural gas and aluminum met the scope exemption for normal purchases and normal sales.
Interest Rates
We are subject to market risk exposure related to changes in interest rates on our Current Cash Flow Facilities and Current ABL Facility, which provides for borrowings of up to $2,675.0 million on the Current Cash Flow Facilities and up to $611.0 million on the Current ABL Facility. These instruments bear interest at an agreed upon percentage point spread from either the prime interest rate or LIBOR. Assuming the Current Cash Flow Revolver is fully drawn, each quarter point increase or decrease in the interest rate would change our interest expense by approximately $6.7 million per year for the Current Cash Flow Facilities. Assuming the Current
ABL Facility is fully drawn, each quarter point increase or decrease in the interest rate would change our interest expense by approximately $1.5 million per year. The fair value of our term loan credit facilities at September 28, 2019 and October 28, 2018 was approximately $2,478.3 million and $412.4 million, respectively, compared to a face value of approximately $2,536.4 million and $412.9 million, respectively. During the nine months ended September 28, 2019, we entered into cash flow interest rate swap hedge contracts for $1.5 billion to mitigate the exposure risk of our floating interest rate debt. The interest rate swaps effectively convert a portion of the floating rate interest payment into a fixed rate payment. At September 28,
2019, our cash flow hedge contracts had a fair value liability of $38.9 million and is recorded as a non-current liability as of September 28, 2019 in our consolidated balance sheets.
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See Note 13 — Long-Term Debt and Note Payable in the notes to the unaudited consolidated financial statements for information on the material terms of our long-term debt.
Labor Force Risk
Our manufacturing process is highly engineered but involves manual assembly, fabrication, and manufacturing
processes. We believe that our success depends upon our ability to employ, train, and retain qualified personnel with the ability to design, utilize and enhance these processes and our products. In addition, our ability to expand our operations depends in part on our ability to minimize labor inefficiencies and increase our labor force to meet the U.S. housing market demand. A significant increase in the wages paid by competing employers could result in a reduction of our labor force, increases in the wage rates that we must pay, or both. If either of these events were to occur, our cost structure could increase, our margins could decrease and any growth potential could be impaired. Historically, the Company has believed that the lag period between breaking ground on a new housing start and the utilization of our products on the exterior of a home is between 90 to 120 days.
Foreign
Currency Exchange Rates
We are exposed to the effect of exchange rate fluctuations on the U.S. dollar value of foreign currency denominated operating revenue and expenses. The functional currency for our Mexico operations is the U.S. dollar. Adjustments resulting from the re-measurement of the local currency financial statements into the U.S. dollar functional currency, which uses a combination of current and historical exchange rates, are included in net income in the current period. Net foreign currency re-measurement loss was $0.1 million for the three months ended September 28, 2019 and insignificant for the three months ended July 29, 2018. Net foreign currency re-measurement gain was $0.4 million and $0.1 million for the nine months ended September 28, 2019 and July 29,
2018, respectively.
The functional currency for our Canada operations is the Canadian dollar. Translation adjustments resulting from translating the functional currency financial statements into U.S. dollar equivalents are reported separately in accumulated other comprehensive income (loss) in stockholders’ equity. The net foreign currency exchange loss included in net income for the three months ended September 28, 2019 and July 29, 2018 was $0.5 million and $0.3 million, respectively. The net foreign currency exchange gain (loss) included in net income (loss) for the nine months ended September 28, 2019 and July 29, 2018 was $0.8 million and $(0.2) million, respectively. Net foreign currency translation adjustment, net of
tax, and included in other comprehensive income (loss) for the three months ended September 28, 2019 and July 29, 2018 was $(1.9) million and $(0.1) million, respectively. Net foreign currency translation adjustment, net of tax, and included in other comprehensive income (loss) for the nine months ended September 28, 2019 and July 29, 2018 was $4.3 million and $(0.1) million, respectively.
In July 2019, we entered into forward contracts with a financial institution through December 31, 2019 for $21.9 million at an average Canadian dollar rate of 1.311 to hedge our future inventory purchases
in Canada. In the future, we may enter into additional foreign currency hedging contracts, to further mitigate the exposure risk of currency fluctuation against the Canadian dollar and/or the Mexican Peso.
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Item 4. Controls and Procedures.
Disclosure Controls and Procedures
Our management, with the participation of our chief executive officer and chief financial officer, evaluated the effectiveness of our disclosure controls and procedures as of September 28, 2019.
The term “disclosure controls and procedures,” as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, means controls and other procedures of a company that are designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by a company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the company’s management, including its principal executive and principal financial officers, as appropriate to allow timely decisions regarding the required disclosure. Management recognizes that any controls
and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving their objectives and management necessarily applies its judgment in evaluating the cost-benefit relationship of possible controls and procedures. Management believes that our disclosure controls and procedures are designed to provide reasonable assurance of achieving their objectives and based on the evaluation of our disclosure controls and procedures as of September 28, 2019, our chief executive officer and chief financial officer concluded that, as of such date, our disclosure controls and procedures were effective at such reasonable assurance level.
Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting (as defined in Rules 13a-15(f) and
15d-15(f) under the Exchange Act) during the quarter ended September 28, 2019 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the factors discussed under “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended October 28, 2018 and our Transition Report on Form 10-Q for the transition period from October 29, 2018 to December 31, 2018 (the “Transition Report”). The risks disclosed in our previous Annual Report on Form 10-K, our Transition Report and information provided elsewhere in this report, could materially affect our business, financial
condition or results of operations. Additional risks and uncertainties not currently known or we currently deem to be immaterial may materially adversely affect our business, financial condition or results of operations. We believe there have been no material changes in our risk factors from those disclosed in our Annual Report on Form 10-K for the fiscal year ended October 28, 2018 and our Transition Report.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
The following table shows our purchases of our Common Stock during the three months ended September 28, 2019:
Period
(a)
Total Number
of
Shares
Purchased(1)
(b) Average Price Paid per Share
(c) Total Number of Shares Purchased as Part of Publicly Announced Programs
(1)The
total number of shares purchased includes our Common Stock repurchased under the programs described below as well as shares of restricted stock that were withheld to satisfy minimum tax withholding obligations arising in connection with the vesting of awards of restricted stock. The required withholding is calculated using the closing sales price on the previous business day prior to the vesting date as reported by the NYSE.
(2)On October 10, 2017 and March 7, 2018, the Company announced that its Board of Directors authorized new stock repurchase programs for up to an aggregate of $50.0 million and an additional $50.0 million, respectively, of the
Company’s Common Stock for a cumulative total of $100.0 million. Under these repurchase programs, the Company is authorized to repurchase shares, if at all, at times and in amounts that we deem appropriate in accordance with all applicable securities laws and regulations. Shares repurchased are usually retired. There is no time limit on the duration of these programs. As of September 28, 2019, approximately $55.6 million remained available for stock repurchases under the programs announced on October 10, 2017 and March 7, 2018.
XBRL Instance Document - The Instance Document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
