Quarterly Report — Form 10-Q Filing Table of Contents
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14: R2 Condensed Consolidated Statements of Income HTML 84K
15: R3 Condensed Consolidated Statements of Comprehensive HTML 54K
Income (Loss)
16: R4 Condensed Consolidated Statements of Comprehensive HTML 29K
Income (Loss) [Parenthetical]
17: R5 Condensed Consolidated Balance Sheets HTML 91K
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23: R11 Recently Issued Accounting Pronouncements (Text HTML 32K
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24: R12 Discontinued Operations (Notes) HTML 57K
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32: R20 Accrued Liabilities (Text Block) HTML 82K
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Statement and Balance Sheet (Details)
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(Exact name of registrant as specified in its charter)
iDelaware
i54-1887631
(State
or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification Number)
i420 National Business Parkway,
i5th
Floor
iAnnapolis Junction,
iMaryland
i20701
(Address
of principal executive offices)
(Zip Code)
i(301)
i323-9000
(Registrant’s
telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol(s)
Name of each exchange on which registered
iCommon Stock, par value $0.001
per share
iCFX
iNew York Stock Exchange
i5.75%
Tangible Equity Units
iCFXA
iNew York Stock Exchange
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. iYes☑ No ☐
Indicate by check mark whether the registrant has
submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). iYes☑ 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.
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). Yes i☐ No ☑
As
of October 2, 2020, there were i118,457,179 shares of the registrant’s common stock, par value $.001 per share, outstanding.
Trade
receivables, less allowance for credit losses of $i34,975 and $i32,634
i498,357
i561,865
Inventories,
net
i536,052
i571,558
Other
current assets
i186,680
i161,190
Total
current assets
i1,287,512
i1,404,245
Property,
plant and equipment, net
i463,775
i491,241
Goodwill
i3,245,042
i3,202,517
Intangible
assets, net
i1,635,706
i1,719,019
Lease
asset - right of use
i170,580
i173,320
Other
assets
i351,619
i396,490
Total
assets
$
i7,154,234
$
i7,386,832
LIABILITIES
AND EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt
$
i26,954
$
i27,642
Accounts
payable
i306,314
i359,782
Accrued
liabilities
i451,265
i469,890
Total
current liabilities
i784,533
i857,314
Long-term
debt, less current portion
i2,191,725
i2,284,184
Non-current
lease liability
i130,947
i136,399
Other
liabilities
i589,560
i619,307
Total
liabilities
i3,696,765
i3,897,204
Equity:
Common
stock, $ii0.001/ par value; ii400,000,000/
shares authorized; ii118,457,179/ and ii118,059,082/
issued and outstanding as of October 2, 2020 and December 31, 2019, respectively
i118
i118
Additional
paid-in capital
i3,470,169
i3,445,597
Retained
earnings
i484,155
i479,560
Accumulated
other comprehensive loss
(i541,996)
(i483,845)
Total
Colfax Corporation equity
i3,412,446
i3,441,430
Noncontrolling
interest
i45,023
i48,198
Total
equity
i3,457,469
i3,489,628
Total
liabilities and equity
$
i7,154,234
$
i7,386,832
See
Notes to Condensed Consolidated Financial Statements.
4
COLFAX CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF EQUITY
Dollars in thousands, except share amounts and as noted
Payment
for noncontrolling interest share repurchase
i—
(i93,087)
Deferred
consideration payments and other
(i12,411)
(i9,680)
Net
cash provided by (used in) financing activities
(i125,578)
i3,090,894
Effect
of foreign exchange rates on Cash and cash equivalents
(i6,633)
(i5,216)
Decrease
in Cash and cash equivalents
(i43,209)
(i78,259)
Cash
and cash equivalents, beginning of period
i109,632
i245,019
Cash
and cash equivalents, end of period
$
i66,423
$
i166,760
See
Notes to Condensed Consolidated Financial Statements.
7
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. iGeneral
Colfax Corporation (the “Company” or “Colfax”) is a leading diversified technology company that provides fabrication technology and medical device products and services to customers around the world, principally under the ESAB and DJO brands. The Company conducts its operations through two operating segments, “Fabrication Technology”, which incorporates the operations of ESAB and its related brands, and “Medical Technology”, which incorporates the operations of DJO and its related brands.
On September 30, 2019, Colfax completed the sale of its Air and Gas Handling business for an aggregate purchase price of $i1.8
billion, including $i1.67 billion of cash paid at closing, subject to certain adjustments pursuant to the purchase agreement, and the assumption of certain liabilities and minority interests. Accordingly, the accompanying Condensed Consolidated Financial Statements for all periods presented reflect the Air and Gas Handling business as discontinued operations. See Note 3, “Discontinued Operations”, for further information.
On
February 22, 2019, Colfax completed the purchase of DJO Global, Inc. (“DJO”) for $i3.15 billion. DJO is a global leader in orthopedic solutions, providing orthopedic devices, reconstructive implants, software and services spanning the full continuum of patient care, from injury prevention to rehabilitation.
iThe
Condensed Consolidated Financial Statements included in this quarterly report have been prepared by the Company in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) and accounting principles generally accepted in the United States of America (“GAAP”) for interim financial statements. The Condensed Consolidated Balance Sheet as of December 31, 2019 is derived from the Company’s audited financial statements. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been omitted in accordance with the SEC’s rules and regulations for interim financial statements. The Condensed Consolidated Financial Statements included herein
should be read in conjunction with the audited financial statements and related footnotes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2019 (the “2019 Form 10-K”), filed with the SEC on February 24, 2020.
The Condensed Consolidated Financial Statements reflect, in the opinion of management, all adjustments, which consist solely of normal recurring adjustments, necessary to present fairly the Company’s financial position and results of operations as of and for the periods indicated. Intercompany transactions and accounts are eliminated in consolidation.
iThe
Company makes certain estimates and assumptions in preparing its Condensed Consolidated Financial Statements in accordance with GAAP. These estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities as of the date of the Condensed Consolidated Financial Statements and the reported amounts of revenues and expenses for the periods presented. Actual results may differ from those estimates.
In the normal course of business, the Company incurs research and development costs related to new product development which are expensed as incurred. Research and development costs were $i16.8 million
and $i49.4 million during the three and nine months ended October 2, 2020, and $i16.3 million and $i44.8 million
during the three and nine months ended September 27, 2019, respectively, which are included in Selling, general and administrative expenses on the Company’s Condensed Consolidated Statements of Operations.
The results of operations for the three and nine months ended October 2, 2020 are not necessarily indicative of the results of operations that may be achieved for the full year. Quarterly results are affected by seasonal variations in the Company’s businesses, and European operations typically experience a slowdown during the July, August and December holiday seasons. Medical Technology sales typically peak in the
fourth quarter. General economic conditions may, however, impact future seasonal variations.
In December 2019, a novel coronavirus disease (“COVID-19”) was first reported in China. On March 11, 2020, due to worldwide spread of the virus, the World Health Organization characterized COVID-19 as a pandemic. The COVID-19 global pandemic has resulted in a widespread health crisis, and the resulting impact on governments, businesses and individuals and actions taken by them in response to the situation have resulted in widespread economic disruptions, significantly affecting broader economies, financial markets, and overall demand for the Company’s products. The COVID-19 outbreak has caused increased uncertainty in estimates and assumptions affecting
the reported amounts of assets and liabilities in the Condensed
8
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
Consolidated Financial Statements as the extent and period of recovery from the COVID-19 outbreak and related economic disruption is difficult to forecast.
The extent to which COVID-19 impacts the Company’s business and financial
results will depend on numerous evolving factors including, but not limited to, the magnitude and duration of COVID-19, the extent to which it will impact worldwide macroeconomic conditions, the speed of the anticipated recovery, and governmental and business reactions to the pandemic. The Company assessed certain accounting matters that generally require consideration of forecasted financial information in context with the information reasonably available to the Company and the unknown future impacts of COVID-19 as of October 2, 2020 and through the date of this report. The accounting matters assessed included, but were not limited to, the Company’s allowance for
credit losses, the carrying value of the goodwill, intangibles, and other long-lived assets and the realizability of deferred tax assets. While there was not an impact from these valuation items to the Company’s consolidated financial statements as of and for the three and nine months ended October 2, 2020, the Company’s future assessment of the magnitude and duration of COVID-19, as well as other factors, could result in material impacts to the Company’s consolidated financial statements in future reporting periods.
9
COLFAX
CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
2. iRecently Issued Accounting Pronouncements
ii
Accounting
Guidance Implemented in 2020
Standard
Description
Effective Date
ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments
The ASU eliminates the probable initial recognition threshold under current GAAP
and broadens the information an entity must consider when developing its expected credit loss estimates to include forward-looking information. The standard applies to most financial assets held at amortized costs, as well as certain other instruments. Under the current expected credit loss (“CECL”) model, entities must estimate losses over the entire contractual term of the asset from the date of initial recognition. In determining expected losses, consideration must be given to historical loss experience, current conditions, and reasonable and supportable forecasts incorporating forward looking information. The Company adopted Topic 326 on January 1, 2020 using a modified retrospective transition method, which requires a cumulative-effect adjustment to the opening balance sheet of retained earnings to be recognized on the date
of adoption without restating prior periods. The cumulative-effect adjustment, net of tax, on January 1, 2020 was $i4.8 million.
ASU 2018-13, Fair Value Measurement (Topic 820): Disclosure
Framework-Changes to the Disclosure Requirements for Fair Value Measurement
The ASU modifies the disclosure requirements for fair value measurements. The adoption of this standard did not result in any changes to the current disclosures, as the requirements modified by the ASU are not applicable or are immaterial for disclosure.
ASU 2018-14, Compensation - Retirement Benefits - Defined Benefit Plans - General (Topic 715-20): Disclosure Framework - Changes to the Disclosure Requirements for Defined Benefit Plans
The ASU modifies the disclosure requirements for employers that sponsor defined benefit pension or other postretirement plans.
This accounting standard update impacts disclosures only. The Company is currently evaluating the impact of this ASU on its consolidated financial statement disclosures and the timing of adoption.
ASU 2019-12, Income Taxes (Topic 740): Simplifying the Accounting for Income Taxes
The ASU eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period and the recognition of deferred tax liabilities for outside basis differences. It also clarifies and simplifies other aspects of accounting for income taxes.
The Company is currently evaluating the impact of this ASU on its consolidated financial statements and the timing of adoption.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
3.
iDiscontinued Operations
The Company has retained certain asbestos-related contingencies and insurance coverages from divested businesses for which it did not retain an interest in the ongoing operations subject to the contingencies. The Company has
classified asbestos-related selling, general and administrative activity in its Condensed Consolidated Statements of Operations as part of Loss from discontinued operations. See Note 13, “Commitments and Contingencies” for further information.
Sale of Air and Gas Handling Business
The Company sold its Air and Gas Handling business on September 30, 2019. Accordingly, the accompanying Condensed Consolidated Financial Statements for all periods presented reflect the Air and Gas Handling business as a discontinued operation. The total consideration for the sale was $i1.8
billion, including $i1.67 billion in cash paid at closing, subject to certain adjustments pursuant to the purchase agreement, and the assumption of certain liabilities and minority interests. Based on the purchase price and the carrying value of the net assets being sold, the Company recorded an impairment loss of $i481
million in the second quarter of 2019. The impairment loss included a $i449 million goodwill impairment charge and a $i32
million valuation allowance charge on assets held for sale relating to the initial estimated cost to sell the business. An accumulated other comprehensive loss of approximately $i350 million associated with the Air and Gas Handling business was included in the determination of the goodwill impairment charge, which is mostly attributable to the recognition of cumulative foreign currency translation effects from the long-term strengthening
of the U.S. Dollar.
The Company recorded a pre-tax gain on disposal of $i14.2 million in the fourth quarter of 2019. The total divestiture-related expenses incurred for the Air and Gas Handling sale were $i48.6
million in the year ended December 31, 2019.
In connection with the purchase agreement, the Company and the purchaser entered into various agreements to provide a framework for their relationship after the disposition, including a transition services agreement. The transition services under the above agreements are not material to the Company’s results of operations.
i
The
key components of Loss from discontinued operations, net of taxes related to the Air and Gas Handling business for the three and nine months ended October 2, 2020 and September 27, 2019 were as follows:
Loss
from discontinued operations before income taxes
(i846)
i20,829
(i7,419)
(i473,492)
Income
tax expense (benefit)
(i198)
i9,809
(i1,267)
i5,387
Loss
from discontinued operations, net of taxes
$
(i648)
$
i11,020
$
(i6,152)
$
(i478,879)
(1)
Primarily related to professional and consulting fees associated with the divestiture including seller due diligence and preparation of regulatory filings, as well as other disposition-related activities.
(2)The Company reclassified a portion of interest expense from its Term Loan Facilities associated with the mandatory repayment using net proceeds from the sale of the business.
/
Total income attributable to noncontrolling interest related to the Air and Gas Handling business, net of taxes was $i1.5
million and $i5.9 million for the three and nine months ended September 27, 2019, respectively.
Cash used in operating activities related to the discontinued operations of the divested Air and Gas Handling business for the nine months ended October 2, 2020 was $i7.2
million. Cash provided by operating activities related to the discontinued
11
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
operations of the divested Air and Gas Handling business for the nine months ended September 27, 2019 was $i18.0
million. Cash used in investing activities related to the discontinued operations of the divested Air and Gas Handling business for the nine months ended September 27, 2019 was $i27.5 million.
4. iAcquisition
On
February 22, 2019, Colfax completed the purchase of DJO for $i3.15 billion, subject to certain adjustments set forth in the purchase agreement.
During the three and nine months ended October 2, 2020 and September 27, 2019, the
Company incurred $i0.6 million, $i0.7 million, $i3.2
million and $i56.7 million, respectively, of advisory, legal, audit, valuation and other professional service fees in connection with the DJO acquisition. Such fees are included in Selling, general and administrative expense in the Condensed Consolidated Statement of Operations.
The DJO acquisition was accounted for using the acquisition method of accounting and accordingly, the Condensed Consolidated Financial Statements include the results of operations from the date of acquisition. The following unaudited
proforma financial information presents Colfax’s consolidated financial information assuming the acquisition had taken place on January 1, 2019. iThese amounts are presented in accordance with GAAP, consistent with the Company’s accounting policies.
Net
income from continuing operations attributable to Colfax Corporation
i17,927
i7,676
i27,575
i72,857
5.
iRevenue
i
The
Company’s Fabrication Technology segment formulates, develops, manufactures and supplies consumable products and equipment. Substantially all revenue from the Fabrication Technology business is recognized at a point in time. The Company disaggregates its Fabrication Technology revenue into the following product groups:
Contracts
with customers in the consumables product grouping generally have a shorter fulfillment period than equipment contracts.
The Company’s Medical Technology segment provides products and services spanning the full continuum of patient care, from injury prevention to rehabilitation. While the Company’s Medical Technology sales are primarily derived from ithree
sales channels including dealers and distributors, insurance, and direct to consumers and hospitals, substantially all its revenue is recognized at a point in time.
/
12
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
The
Company disaggregates its Medical Technology revenue into the following product groups:
(1)
For the nine months ended September 27, 2019, the Medical Technology segment includes results from the acquisition date of February 22, 2019.
Given the nature of the Fabrication Technology and Medical Technology businesses, the total amount of unsatisfied performance obligations with an original contract duration of greater than one year as of October 2, 2020 is immaterial.
The nature of the Company’s contracts
gives rise to certain types of variable consideration, including rebates, implicit price concessions, and other discounts. The Company includes estimated amounts of variable consideration in the transaction price to the extent that it is probable there will not be a significant reversal of revenue.
In some circumstances, customers are billed in advance of revenue recognition, resulting in contract liabilities. As of December 31, 2019 and 2018, total contract liabilities were $i14.8
million and $i13.0 million, respectively, which related to the Fabrication Technology business. During the three and nine months ended October 2, 2020, revenue recognized that was included in the contract liability balance at the beginning of the year was $i4.5
million and $i13.2 million, respectively. During the three and nine months ended September 27, 2019, revenue recognized that was included in the contract liability balance at the beginning of the year was $i4.8
million and $i13.0 million, respectively. As of October 2, 2020 and September 27, 2019, total contract liabilities were $i30.4
million and $i15.6 million, respectively, and were included in Accrued liabilities on the Company’s Condensed Consolidated Balance Sheets. The contract liabilities as of October 2, 2020 include $i11.8
million of certain one-time advance payments in the Medical Technology business.
Allowance for Credit Losses
The Company adopted ASU No. 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments as of January 1, 2020. The estimate of current expected credit losses on trade receivables considers historical credit loss information that is adjusted for current conditions and reasonable and supportable forecasts. Management elected to disaggregate trade receivables into business segments due to risk characteristics unique to each segment given the individual lines of
business and market. Pooling was further disaggregated based on either geography or product type.
The Company evaluated multiple approaches before concluding that a loss rate methodology best matched data capabilities. The Company leveraged historical write-offs over a defined lookback period in deriving a historical loss rate. The expected credit loss model further considers current conditions and reasonable and supportable forecasts using an adjustment for current and projected macroeconomic factors. Management identified appropriate macroeconomic indicators based on tangible correlation to historical losses considering the location and risks associated with the
Company.
i
A summary of the activity in the Company’s allowance for credit losses included within Trade receivables in the Condensed Consolidated Balance Sheets is as follows:
Computation of Net income (loss) per share from continuing operations - basic:
Net income (loss) from continuing operations attributable to Colfax Corporation (1)
$
i16,047
$
i2,901
$
i20,319
$
(i18,636)
Weighted-average
shares of Common stock outstanding – basic
i136,832,909
i136,121,017
i136,730,112
i135,440,566
Net
income (loss) per share from continuing operations – basic
$
i0.12
$
i0.02
$
i0.15
$
(i0.14)
Computation
of Net income (loss) per share from continuing operations - diluted:
Net income (loss) from continuing operations attributable to Colfax Corporation (1)
$
i16,047
$
i2,901
$
i20,319
$
(i18,636)
Weighted-average
shares of Common stock outstanding – basic
i136,832,909
i136,121,017
i136,730,112
i135,440,566
Net
effect of potentially dilutive securities - stock options, restricted stock units and tangible equity units
i1,257,701
i929,143
i2,339,794
i—
Weighted-average
shares of Common stock outstanding – diluted
i138,090,610
i137,050,160
i139,069,906
i135,440,566
Net
income (loss) per share from continuing operations – diluted
$
i0.12
$
i0.02
$
i0.15
$
(i0.14)
(1)
Net income (loss) from continuing operations attributable to Colfax Corporation for the respective periods is calculated using Net income (loss) from continuing operations less the continuing operations component of the income attributable to noncontrolling interest, net of taxes, of $i0.8 million and $i2.2
million for the three and nine months ended October 2, 2020, and $i0.9 million and $i3.1
million for the three and nine months ended September 27, 2019, respectively.
/
For all periods presented, the weighted-average shares of Common stock outstanding - basic includes the impact of iiii18.4///
million shares related to the issuance of Colfax’s tangible equity units. For the nine months ended October 2, 2020, the weighted-average shares of Common stock outstanding - diluted includes the impact of an additional i1.2 million potentially issuable dilutive shares related to Colfax’s tangible equity units as a result of the Company’s share
price in March 2020. See Note 8, “Equity” for details.
The weighted-average computation of the dilutive effect of potentially issuable shares of Common stock under the treasury stock method for the three and nine months ended October 2, 2020 excludes i2.8 million and i4.2
million, respectively, of outstanding stock-based compensation awards as their inclusion would be anti-dilutive.
The weighted-average computation of the dilutive effect of potentially issuable shares of Common stock under the treasury stock method for the three and nine months ended September 27, 2019 excludes i4.4 million and i4.6
million, respectively, of outstanding stock-based compensation awards as their inclusion would be anti-dilutive.
14
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
7. Income Taxes
i
During
the three and nine months ended October 2, 2020, Income from continuing operations before income taxes was $i36.4 million and $i25.2
million, respectively, while the income tax expense was $i19.5 million and $i2.6 million, respectively. The effective tax rates were i53.7%
and i10.5% for the three and nine months ended October 2, 2020, respectively. The effective tax rate for the three months ended October 2, 2020 differed from the 2020 U.S. federal statutory rate of 21% mainly due to the net impact of additional U.S. tax on international operations, withholding taxes, and certain non-deductible expenses. These unfavorable impacts were partially offset by the impact of U.S. tax credits, benefit from U.S. state tax losses, and the
realization of tax benefits associated with effective settlements on uncertain tax positions. The effective tax rate for the nine months ended October 2, 2020 differed from the 2020 U.S. federal statutory rate of 21% mainly due to the net impact of U.S. tax credits and benefit from U.S. state tax losses, a discrete tax benefit associated with the filing of timely elected changes to U.S. Federal tax returns to credit rather than to deduct foreign taxes, the impact of an enacted law change in India, and the realization of tax benefits associated with effective settlements on uncertain tax positions. These favorable impacts were partially offset by the impact of additional U.S. tax on international operations, withholding taxes, and certain non-deductible expenses. In conjunction with the filing of the timely elected changes to credit rather than to deduct foreign taxes, the
Company obtained additional foreign tax credit carryforwards. The Company evaluated all positive and negative evidence in determining the realizability of these deferred tax assets and based on such evidence, concluded a full valuation allowance was needed.
During the three and nine months ended September 27, 2019, Income (loss) from continuing operations before income taxes was $i2.4
million and $(i8.7) million, respectively, while the income tax expense (benefit) was $(i1.4)
million and $i6.8 million, respectively. The effective tax rates were (i56.0)% and (i78.5)%
for the three and nine months ended September 27, 2019, respectively. The effective tax rate for the three months ended September 27, 2019 differed from the 2019 U.S. federal statutory rate of 21% mainly due to a discrete tax benefit associated with the enactment of tax law changes in a European jurisdiction offset in part by losses in certain jurisdictions where a tax benefit was not expected to be recognized in 2019, and non-deductible deal costs. The effective tax rate for the nine months ended September 27, 2019 differed from the 2019 U.S. federal statutory rate of 21% mainly due to losses in certain jurisdictions where a tax benefit was not expected to be recognized in 2019, $i16.7 million
of non-deductible deal costs, and an aggregate $i9.2 million unfavorable discrete U.S. income tax expense due to a change in valuation allowance and state tax expense as a result of the DJO acquisition, offset in part by a discrete tax benefit associated with the enactment of tax law changes in a European jurisdiction.
/
15
COLFAX
CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
8. iEquity
Share Repurchase Program
In
2018, the Company’s Board of Directors authorized the repurchase of shares of the Company’s Common stock from time-to-time on the open market or in privately negotiated transactions. No repurchases of the Company’s Common stock have been made under this plan since the third quarter of 2018. As of October 2, 2020, the remaining stock repurchase authorization provided by the Board of Directors was $i100
million. The timing, amount and method of shares repurchased is determined by management based on its evaluation of market conditions and other factors. There is no term associated with the remaining repurchase authorization.
Accumulated Other Comprehensive Loss
i
The following tables present the changes in the balances
of each component of Accumulated other comprehensive loss including reclassifications out of Accumulated other comprehensive loss for the nine months ended October 2, 2020 and September 27, 2019. All amounts are net of tax and noncontrolling interest, if any.
Accumulated Other Comprehensive
Loss Components
Net Unrecognized Pension and Other Post-Retirement Benefit Cost
On January 11, 2019, the Company issued $i460 million in tangible equity units. The Company offered i4
million of its i5.75% tangible equity units at the stated amount of $i100 per unit. An option to purchase up to an additional i600,000 tangible
equity units at the stated amount of $i100 per unit was exercised in full at settlement. Total cash of $i447.7 million was received upon closing.
i
The
proceeds from the issuance of the TEUs were allocated initially to equity and debt based on the relative fair value of the respective components of each TEU as follows:
The
$i377.8 million fair value of the prepaid stock purchase contracts was recorded in Additional paid-in capital in the Condensed Consolidated Balance Sheets. The fair value of the $i69.9
million of TEU amortizing notes due January 2022 has both a short-term and a long-term component. Upon the issuance of the TEUs, $i47.3 million was initially recorded in Long-term debt, less current portion, and $i22.6
million was initially recorded in Current portion of long-term debt in the Condensed Consolidated Balance Sheets. The Company deferred certain debt issuance costs associated with the debt component of the TEUs. These amounts offset the debt liability balance in the Condensed Consolidated Balance Sheets and are being amortized over its term.
17
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
Unless previously settled at the holder’s option, for each purchase contractthe Company will deliver to holders on January 15, 2022 (subject to postponement in certain limited circumstances, the “mandatory settlement date”) a number of shares of common stock. The number of shares of common stock issuable upon settlement of each purchase contract (the “settlement rate”) will be determined using the arithmetic average of the volume average weighted price for the 20 consecutive
trading days beginning on, and including, the 21st scheduled trading day immediately preceding January 15, 2022 (“the Applicable Market Value”) with reference to the following settlement rates:
•if the Applicable Market Value of the common stock is greater than the threshold appreciation price of $i25.00, the holder will receive i4.0000
shares of common stock for each purchase contract (the “minimum settlement rate”);
•if the Applicable Market Value of the common stock is greater than or equal to the reference price of $i20.81, but less than or equal to the threshold appreciation price of $i25.00,
the holder will receive a number of shares of common stock for each purchase contract having a value, based on the Applicable Market Value, equal to $i100; and
•if the Applicable Market Value of the common stock is less than the reference price of $i20.81,
the holder will receive i4.8054 shares of common stock for each purchase contract (the “maximum settlement rate”).
TEU amortizing notes
Each TEU amortizing note has an initial principal amount of $i15.6099,
bears interest at a rate of i6.50% per annum and has a final installment payment date of January 15, 2022. On each January 15, April 15, July 15 and October 15, the Company pays equal quarterly cash installments of $i1.4375
per TEU amortizing note, which will constitute a payment of interest and a partial repayment of principal, and which cash payment in the aggregate per year will be equivalent to i5.75% per year with respect to the $i100
stated amount per unit. During the three and nine months ended October 2, 2020, the Company paid $i6.6 million and $i19.8
million, respectively, representing a partial payment of principal and interest on the TEU amortizing notes. The TEU amortizing notes are the direct, unsecured and unsubordinated obligations of the Company and rank equally with all of the existing and future other unsecured and unsubordinated indebtedness of the Company.
Earnings per share
Unless the i4.6
million stock purchase contracts are redeemed by the Company or settled earlier at the unit holder’s option, they are mandatorily convertible into shares of Colfax common stock at not less than i4.0 shares per purchase contract or more than i4.8054 shares
per purchase contract on January 15, 2022. This corresponds to not less than i18.4 million shares and not more than i22.1
million shares at the maximum. The i18.4 million minimum shares are included in the calculation of weighted-average shares of Common stock outstanding - basic. The difference between the minimum and maximum shares represents potentially dilutive securities. The Company includes them in its calculation of weighted-average shares of Common stock outstanding - diluted on a pro rata basis to the extent the effect is not anti-dilutive and the average Applicable
Market Value is higher than the reference price but is less than the threshold appreciation price.
Repurchase of noncontrolling interest shares
During 2019, the Company repurchased all of the noncontrolling interest shares of its South Africa consolidated subsidiary from existing shareholders under a general offer. As a part of the Air and Gas Handling business, the subsidiary was subsequently sold on September 30, 2019, and its results of operations are included in discontinued operations for all periods presented.
The Company’s credit agreement (the “Credit Facility”) by and among the Company, as the borrower, certain U.S. subsidiaries of the Company, as guarantors, each of the lenders party thereto, JPMorgan Chase Bank, N.A., as administrative agent, Citizens Bank, N.A., as syndication agent, and the co-documentation agents named therein consists of a $i975
million revolving credit facility (the “Revolver”) and a Term A-1 loan in an aggregate principal amount of $i825 million (the “Term Loan”), each with a maturity date of December 6, 2024. The Revolver contains a $i50
million swing line loan sub-facility. Certain U.S. subsidiaries of the Company guarantee the obligations under the Credit Facility. The Credit Facility contains customary covenants limiting the ability of Colfax and its subsidiaries to, among other things, incur debt or liens, merge or consolidate with others, dispose of assets, make investments or pay dividends. In addition, the Credit Facility contains financial covenants requiring Colfax to maintain (subject to certain exceptions) (i) a maximum total leverage ratio, calculated as the ratio of Consolidated Net Debt (as defined in the Credit Facility) to EBITDA (as defined in the Credit Facility) and (ii) a minimum interest coverage. During the third
quarter of 2020, the Company made a voluntary $i40 million principal payment on the Term A-1 loan.
On May 1, 2020, the Company entered into an amendment to its Credit Facility (the “Amendment”). The Amendment, among other changes, modified the total leverage
ratio by permitting the Company to deduct (subject to certain exceptions) up to $i125 million of unrestricted cash and cash equivalents from the debt component of the ratio and by increasing the maximum total leverage ratio to i5.75:1.00
as of June 30, 2020, i6.50:1.00 as of each fiscal quarter thereafter until March 31, 2021, i5.25:1.00
for the quarter ending June 30, 2021, i4.50:1.00 for the quarter ending September 30, 2021, i4.25:1.00
for the quarters ending December 31, 2021 and March 31, 2022, i4.00:1.00 for the quarters ending June 30, 2022 and September 30, 2022, and i3.50:1.00
as of December 31, 2022 and for each fiscal quarter ending thereafter. Under the terms of the Amendment the interest coverage ratio remained at i3.00:1.00 for the quarter ending June 30, 2020, decreased to i2.75:1.00
for each of the fiscal quarters ending September 30, 2020 until June 30, 2021, and then will increase back to i3.00:1.00 for the quarters ending September 30, 2021 and thereafter. The Amendment added a “springing” collateral provision (based upon the Gross Leverage Ratio as defined in the Amendment to the Credit Facility) which requires the obligations under the Amendment to the Credit Facility to be secured
by substantially all personal property of Colfax and its U.S. subsidiaries and the equity of its first tier foreign subsidiaries, subject to customary exceptions, in the event Colfax’s gross leverage ratio under the Credit Facility is greater than i5.00:1.00 as of the last day of any fiscal quarter. Lastly, the Amendment added a fifth pricing tier in the event the total leverage ratio is greater than i4.50:1.00
(regardless of the corporate family rating), with pricing at i2.50%, in the case of the Eurocurrency margin, i1.50%, in the case of the base rate margin, and i0.50%
when undrawn. The total commitment and maturity of the Credit Facility remained unchanged. The Credit Facility contains various events of default (including failure to comply with the covenants under the Credit Facility and related agreements) and upon an event of default the lenders may, subject to various customary cure rights, require the immediate payment of all amounts outstanding under the Term Loan Facilities and the Revolver. As of October 2, 2020, the Company was in compliance with the covenants under the Credit Facility.
As of October 2, 2020, the weighted-average interest rate of borrowings under the Credit Facility was i1.91%,
excluding accretion of original issue discount and deferred financing fees, and there was$i975 million available on the Revolver.
19
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
The Company has $i11.1 million in deferred financing fees recorded in conjunction with the Credit Facility as of October 2, 2020, which is being accreted to Interest expense, net primarily using the effective interest method over the life of the facility.
Euro
Senior Notes
On April 19, 2017, the Company issued senior unsecured notes with an aggregate principal amount of €i350 million (the “Euro Notes”). The Euro Notes are due in April 2025, have an interest rate of i3.25%
and are guaranteed by certain of our domestic subsidiaries (the “Guarantees”). The proceeds from the Euro Notes offering were used to repay borrowings under our previous credit facilities totaling €i283.5 million, as well as for general corporate purposes. In conjunction with the issuance of the Euro notes, the Company recorded $i6.0
million of deferred financing fees. The Euro Notes and the Guarantees have not been, and will not be, registered under the Securities Act of 1933, as amended, or the securities laws of any other jurisdiction.
TEU Amortizing Notes
On January 11, 2019, the Company issued $i460 million
in tangible equity units. The Company offered i4 million of its i5.75% tangible equity units at the stated
amount of $i100 per unit and an option to purchase up to an additional i600,000 tangible equity units at the stated amount of $i100
per unit, which was exercised in full at settlement. Total cash of $i447.7 million was received upon closing, comprised of $i377.8
million TEU prepaid stock purchase contracts and $i69.9 million of TEU amortizing notes due January 2022. The proceeds were used to finance a portion of the purchase price for the DJO acquisition and for general corporate purposes. For more information, refer to Note 8, “Equity.”
2024 Notes and 2026 Notes
On February
5, 2019, itwo tranches of senior notes with aggregate principal amounts of $i600 million (the “2024 Notes”) and $i400
million (the “2026 Notes”) were issued to finance a portion of the purchase price for the DJO acquisition. The 2024 Notes are due on February 15, 2024 and have an interest rate of i6.0%. The 2026 Notes are due on February 15, 2026 and have an interest rate of i6.375%.
Each tranche of notes is guaranteed by certain domestic subsidiaries of the Company.
Other Indebtedness
In addition to the debt agreements discussed above, the Company is party to various bilateral credit facilities with a borrowing capacity of $i189.5
million. As of October 2, 2020, there were no outstanding borrowings under these facilities.
The Company is party to letter of credit facilities with an aggregate capacity of $i390.2 million. Total letters of credit of $i84.3
million were outstanding as of October 2, 2020.
In total, the Company had deferred financing fees of $i24.1 million included in its Condensed Consolidated Balance Sheet as of October 2, 2020, which will be charged to Interest expense, net, primarily using the effective interest method, over
the life of the applicable debt agreements.
20
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
11. iAccrued
Liabilities
i
Accrued liabilities in the Condensed Consolidated Balance Sheets consisted of the following:
Changes
in estimates related to pre-existing warranties
i1,108
i1,256
Cost
of warranty service work performed
(i7,003)
(i7,783)
Acquisition-related
liability
i—
i5,356
Foreign
exchange translation effect
(i255)
(i427)
Warranty
liability, end of period
$
i14,991
$
i16,170
/
21
COLFAX
CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
Accrued Restructuring Liability
The Company’s restructuring programs include a series of actions to reduce the structural costs of the Company. iA
summary of the activity in the Company’s restructuring liability included in Accrued liabilities and Other liabilities in the Condensed Consolidated Balance Sheets is as follows:
(1) Includes
severance and other termination benefits, including outplacement services.
(2) Includes the cost of relocating associates, relocating equipment and lease termination expense in connection with the closure of facilities. Restructuring charges in the Medical Technology segment during the nine months ended October 2, 2020 include costs related to product and distribution channel transformations, facilities optimization, and integration charges. Restructuring charges in the Medical Technology segment also include $i4.9
million of expense classified as Cost of sales on the Company’s Condensed Consolidated Statements of Operations for the nine months ended October 2, 2020.
(3) As of October 2, 2020, $i2.4 million of the Company’s restructuring liability
was included in Accrued liabilities, whereas less than $i0.1 million of the Company’s restructuring liability was included in Other liabilities.
22
COLFAX
CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
12. iFinancial Instruments and Fair Value Measurements
The carrying values of financial instruments, including Trade receivables and
Accounts payable, approximate their fair values due to their short-term maturities. The $i2.2 billion and $i2.3 billion estimated fair value of the
Company’s debt as of October 2, 2020 and December 31, 2019, respectively, was based on current interest rates for similar types of borrowings and is in Level Two of the fair value hierarchy. The estimated fair values may not represent actual values of the financial instruments that could be realized as of the balance sheet date or that will be realized in the future.
i
A
summary of the Company’s assets and liabilities that are measured at fair value for each fair value hierarchy level for the periods presented is as follows:
(1) The unrealized gain on net investment hedges is attributable to the change in valuation of Euro denominated debt.
13. iCommitments and Contingencies
For further description of the
Company’s litigation and contingencies, reference is made to Note 18, “Commitments and Contingencies” in the Notes to Consolidated Financial Statements in the Company’s 2019 Form 10-K. Since the Company did not retain an interest in the ongoing operations of the divested Fluid Handling and Air and Gas businesses, the retained asbestos-related activity has been classified in its Condensed Consolidated Statements of Operations as a component of Loss from discontinued operations, net of taxes.
Asbestos Contingencies
Asbestos-related cilaims
activity since December 31 is as follows:
(1)
Claims filed include all asbestos claims for which notification has been received or a file has been opened.
(2) Claims resolved include all asbestos claims that have been settled, dismissed or that are in the process of being settled or dismissed based upon agreements or understandings in place with counsel for the claimants.
24
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
i
The
Company’s Condensed Consolidated Balance Sheets included the following amounts related to asbestos-related litigation:
(1)
Included in Other current assets in the Condensed Consolidated Balance Sheets. Over the next year, the Company expects to be reimbursed for certain asbestos-related costs that were mainly incurred prior to certain court rulings.
(2) Included in Other assets in the Condensed Consolidated Balance Sheets.
(3) Represents current accruals for probable and reasonably estimable asbestos-related liability costs that the Company believes the subsidiaries will pay, and unpaid legal costs related to defending themselves against asbestos-related liability claims
and legal action against the Company’s insurers, which is included in Accrued liabilities in the Condensed Consolidated Balance Sheets.
(4) Included in Other liabilities in the Condensed Consolidated Balance Sheets.
/
Management’s analyses are based on currently known facts and assumptions. Projecting future events, such as new claims to be filed each year, the average cost of resolving each claim, coverage issues among layers of insurers, the method in which losses will be allocated to the various insurance policies, interpretation of the effect on coverage of various policy terms
and limits and their interrelationships, the continuing solvency of various insurance companies, the amount of remaining insurance available, as well as the numerous uncertainties inherent in asbestos litigation could cause the actual liabilities and insurance recoveries to be higher or lower than those projected or recorded which could materially affect the Company’s financial condition, results of operations or cash flow.
General Litigation
The Company is involved in other pending legal proceedings arising out of the ordinary course of the Company’s
business. None of these legal proceedings are expected to have a material adverse effect on the financial condition, results of operations or cash flow of the Company. With respect to these proceedings and the litigation and claims described in the preceding paragraphs, management of the Company believes that it will either prevail, has adequate insurance coverage or has established appropriate accruals to cover potential liabilities. Any costs that management estimates may be paid related to these proceedings or claims are accrued when the liability is considered probable and the amount can be reasonably estimated. There can be no assurance, however, as to the ultimate outcome of any of these matters, and if all or substantially all of these legal proceedings were to be determined adverse to the
Company, there could be a material adverse effect on the financial condition, results of operations or cash flow of the Company.
25
COLFAX CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
(Unaudited)
14. iSegment
Information
The Company conducts its continuing operations through the Fabrication Technology and Medical Technology operating segments, which also represent the Company’s reportable segments.
▪Fabrication Technology -a global supplier of consumable products and equipment for cutting, joining, and automated welding, as well as gas control equipment, providing a wide range of products with innovative technologies to solve challenges in virtually any industry.
•Medical
Technology - a global leader in orthopedic solutions, providing orthopedic devices, reconstructive implants, software and services spanning the full continuum of patient care, from injury prevention to rehabilitation.
Certain amounts not allocated to the itwo reportable segments and intersegment eliminations are reported under the heading “Corporate and other.”The
Company’s management evaluates the operating results of each of its reportable segments based upon Net sales and segment operating income (loss), which represents Operating income (loss) before Restructuring and other related charges and European Union Medical Devices Regulation (“MDR”) and other costs.
Income (loss) from continuing operations before income taxes
$
i36,364
$
i2,417
$
i25,200
$
(i8,708)
Pension
settlement loss
i—
i33,616
i—
i33,616
Interest
expense, net
i25,567
i31,828
i78,647
i86,820
Restructuring
and other related charges(1)
i6,328
i13,309
i28,514
i50,725
MDR
and other(2)
i2,589
i—
i4,489
i—
Segment
operating income
$
i70,848
$
i81,170
$
i136,850
$
i162,453
(1)
Restructuring and other related charges includes $i2.2 million and $i4.9 million
of expense classified as Cost of sales on the Company’s Condensed Consolidated Statements of Operations for the three and nine months ended October 2, 2020, respectively, and $ii3.5/
million of expense classified as Cost of sales on the Company’s Condensed Consolidated Statements of Operations for the three and nine months ended September 27, 2019.
(2) Primarily related to costs specific to compliance with medical device reporting regulations and other requirements of the European Union Medical Device Regulation of 2017.
/
26
Item
2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion of the financial condition and results of operations of Colfax Corporation (“Colfax,”“the Company,”“we,”“our,” and “us”) should be read in conjunction with the Condensed Consolidated Financial Statements and related footnotes included in Part I. Item 1. “Financial Statements” of this Quarterly Report on Form 10-Q for the quarterly period ended October 2, 2020 (this “Form 10-Q”) and the Consolidated
Financial Statements and related footnotes included in Part II. Item 8. “Financial Statements and Supplementary Data” of our Annual Report on Form 10-K for the year ended December 31, 2019 (the “2019 Form 10-K”) filed with the Securities and Exchange Commission (the “SEC”) on February 24, 2020.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some of the statements contained in this Form 10-Q that are not historical facts are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 (the “Exchange Act”). We intend such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in
Section 21E of the Exchange Act. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date this Form 10-Q is filed with the SEC. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including statements regarding: the impact of the COVID-19 global pandemic, including the actions by governments, businesses and individuals in response to the situation, on the global and regional economies, financial markets, and overall demand for our products; projections of revenue, profit margins, expenses, tax provisions and tax rates, earnings or losses from operations, impact of foreign exchange rates, cash flows, pension and benefit obligations and funding requirements, synergies or other financial items; plans, strategies and objectives of management for future operations including statements relating to potential acquisitions, compensation plans or purchase
commitments; developments, performance or industry or market rankings relating to products or services; future economic conditions or performance; the outcome of outstanding claims or legal proceedings including asbestos-related liabilities and insurance coverage litigation; potential gains and recoveries of costs; assumptions underlying any of the foregoing; and any other statements that address activities, events or developments that we intend, expect, project, believe or anticipate will or may occur in the future. Forward-looking statements may be characterized by terminology such as “believe,”“anticipate,”“should,”“would,”“intend,”“plan,”“will,”“expect,”“estimate,”“project,”“positioned,”“strategy,”“targets,”“aims,”“seeks,”“sees,” and similar expressions. These statements are based on assumptions and assessments made by our management as of
the filing date of this Form 10-Q in light of their experience and perception of historical trends, current conditions, expected future developments and other factors we believe to be appropriate. These forward-looking statements are subject to a number of risks and uncertainties and actual results could differ materially due to numerous factors, including but not limited to the following:
•risks related to the impact of the COVID-19 global pandemic, including actions by governments, businesses and individuals in response to the situation, such as the scope and duration of the outbreak, the nature and effectiveness of government actions and restrictive measures implemented in response, delays and cancellations of medical procedures, supply chain disruptions, the impact on creditworthiness and financial viability of customers, and other impacts on the
Company’s business and ability to execute business continuity plans;
•changes in the general economy, as well as the cyclical nature of the markets we serve;
•the turmoil in the commodity markets and decline in certain commodity prices, including oil, due to economic disruptions from the COVID-19 pandemic and various geopolitical events;
•our ability to identify, finance, acquire and successfully integrate attractive acquisition targets;
•our exposure to unanticipated liabilities resulting from acquisitions;
•our
ability and the ability of our customers to access required capital at a reasonable cost;
•our ability to accurately estimate the cost of or realize savings from our restructuring programs;
27
•the amount of and our ability to estimate our asbestos-related liabilities;
•the solvency of our insurers and the likelihood of their payment for asbestos-related costs;
•material disruptions at
any of our manufacturing facilities;
•noncompliance with various laws and regulations associated with our international operations, including anti-bribery laws, export control regulations and sanctions and embargoes;
•risks associated with our international operations, including risks from trade protection measures and other changes in trade relations;
•risks associated with the representation of our employees by trade unions and work councils;
•our exposure to product liability claims;
•potential
costs and liabilities associated with environmental, health and safety laws and regulations;
•failure to maintain, protect and defend our intellectual property rights;
•the loss of key members of our leadership team;
•restrictions in our principal credit facility that may limit our flexibility in operating our business;
•impairment in the value of intangible assets;
•the funding requirements or obligations of our defined benefit pension
plans and other postretirement benefit plans;
•significant movements in foreign currency exchange rates;
•availability and cost of raw materials, parts and components used in our products;
•new regulations and customer preferences reflecting an increased focus on environmental, social and governance issues, including new regulations related to the use of conflict minerals;
•service interruptions, data corruption, cyber-based attacks or network security breaches affecting our information technology infrastructure;
•risks
arising from changes in technology;
•the competitive environment in our industries;
•changes in our tax rates, realizability of deferred tax assets, or exposure to additional income tax liabilities, including the effects of the COVID-19 global pandemic and the U.S. Tax Cuts and Jobs Act and the Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”);
•our ability to manage and grow our business and execution of our business and growth strategies;
•the level of capital investment and expenditures by our customers in our
strategic markets;
•our financial performance;
•difficulties and delays in integrating the DJO acquisition or fully realizing projected cost savings and benefits of the DJO acquisition; and
•other risks and factors, listed in Item 1A. “Risk Factors” in Part I of our 2019 Form 10-K and this Form 10-Q.
28
The effects of the COVID-19 pandemic, including actions by governments, businesses and individuals in
response to it, may give rise or contribute to or amplify the risks associated with many of these factors.
Any such forward-looking statements are not guarantees of future performance and actual results, developments and business decisions may differ materially from those envisaged by such forward-looking statements. These forward-looking statements speak only as of the date this Form 10-Q is filed with the SEC. We do not assume any obligation and do not intend to update any forward-looking statement except as required by law. See Part I. Item 1A. “Risk Factors” in our 2019 Form 10-K and Part II. Item 1A. “Risk Factors” in this Form 10-Q for a further discussion regarding some of the reasons that actual results may be materially different from those that we anticipate.
Overview
In
February 2019, we completed our acquisition of DJO Global Inc. (“DJO”) for $3.15 billion in cash. The acquisition of DJO has transformed Colfax by creating a new growth platform: Medical Technology.
On September 30, 2019, we completed the sale of our Air and Gas Handling business for an aggregate purchase price of $1.8 billion, including $1.67 billion cash paid at closing, subject to certain adjustments pursuant to the purchase agreement, and the assumption of certain liabilities and minority interests. Accordingly, the results of operations for the Air and Gas Handling segment have been excluded from the discussion of our results of operations for all periods presented. Refer to Note 3, “Discontinued Operations” in the accompanying Notes to Condensed Consolidated Financial Statements for more information.
Based
on the above, we now conduct our continuing operations through two segments: Fabrication Technology and Medical Technology, which also represent our reportable segments.
•Fabrication Technology -a global supplier of consumable products and equipment for cutting, joining, and automated welding, as well as gas control equipment, providing a wide range of products with innovative technologies to solve challenges in a wide range of industries.
•Medical Technology - a leading provider of orthopedic solutions, providing orthopedic devices, software and services spanning the full continuum of patient care, from injury prevention to joint replacement to rehabilitation.
Certain
amounts not allocated to the two reportable segments and intersegment eliminations are reported under the heading “Corporate and other.”
We have sales, engineering, administrative and production facilities throughout the world. Through our reportable segments, we serve a global customer base across multiple markets through a combination of direct sales and third-party distribution channels. Our customer base is highly diversified in the medical and industrial end markets.
Integral to our operations is the Colfax Business System (CBS). CBS is our business management system, combining a comprehensive set of tools and repeatable, teachable processes that we use to create superior value for our customers, shareholders and associates. Rooted in our core values, it is our culture. We believe our management
team’s access to, and experience in, the application of CBS is one of our primary competitive strengths.
29
Results of Operations
The following discussion of Results of Operations addresses the comparison of the periods presented. Our management evaluates the operating results of each of its reportable segments based upon Net sales, Segment operating income, which represents Operating income before Restructuring and other related charges and European Union Medical Devices Regulation (“MDR”)
costs, and Adjusted EBITA as defined in the “Non-GAAP Measures” section.
Items Affecting Comparability of Reported Results
The comparability of our operating results for the three and nine months ended October 2, 2020 to the comparable 2019 periods is affected by the following additional significant items:
Recent Events
In December 2019, a novel coronavirus disease (“COVID-19”) was first reported in China. On March
11, 2020, due to worldwide spread of the virus, the World Health Organization characterized COVID-19 as a pandemic. The COVID-19 global pandemic has resulted in a widespread health crisis, and the resulting impact on governments, businesses and individuals and actions taken by them in response to the situation have resulted in widespread economic disruptions, significantly affecting broader economies, financial markets, and overall demand for our products.
In an effort to protect the health and safety of our employees, we have taken actions to adopt social distancing policies at our locations around the world, including working from home, reducing the number of people in our sites at any one time, and suspending or restricting employee travel. In an effort to contain COVID-19 or slow its spread, governments around the world have enacted measures in 2020, including
periodically closing businesses not deemed “essential,” isolating residents to their homes, limiting access to healthcare, curtailing activities including sporting events, and practicing social distancing.
We implemented a broad range of temporary actions to mitigate the effects of lower sales levels including temporarily reducing salaries, furloughing and laying-off employees, significantly curtailing discretionary expenses, re-phasing of capital expenditures, reducing supplier purchase levels and / or prices, adjusting working capital practices and other measures.
As reflected in the discussions that follow, the pandemic and actions taken in response to it have had a variety of impacts on our results of operations during 2020. The most severe financial impact occurred in the second quarter,
resulting in 31.8% lower sales than the second quarter of 2019. We began observing a recovery in the latter part of the second quarter, and it continued through the third quarter with sales improving to a 4.8% decrease from the third quarter of 2019.
We continue to monitor the rapidly evolving situation and guidance from international and domestic authorities, including national and local public health authorities, and may take additional actions based on their recommendations. In these circumstances, there may be developments outside our control that require us to further adjust our operations. As such, given the dynamic nature of this situation, we cannot reasonably estimate the full impacts of COVID-19 on our financial condition, results of operations or cash flows in the future.
Please see Part II.
Items 1A. “Risk Factors” in this Form 10-Q for further discussion of the Company’s risks relating to the COVID-19 pandemic.
Strategic Acquisitions
We complement our organic growth plans with strategic acquisitions. Acquisitions can significantly affect our reported results, and we report the change in our Net sales between periods both from existing and acquired businesses. The change in Net sales due to acquisitions for the periods presented in this filing represents the incremental sales as a result of acquisitions. On February 22, 2019, we completed the acquisition of DJO, creating a new growth platform in the higher-margin orthopedic
solutions market.
30
Foreign Currency Fluctuations
A significant portion of our Net sales, approximately 57% and 58% for the three and nine months ended October 2, 2020 respectively, were derived from operations outside the U.S., with the majority of those sales denominated in currencies other than the U.S. dollar. Because much of our manufacturing and employee costs are outside the U.S., a significant portion of our costs are also denominated
in currencies other than the U.S. dollar. Changes in foreign exchange rates can impact our results of operations and are quantified when significant. For the nine months ended October 2, 2020 compared to the nine months ended September 27, 2019, fluctuations in foreign currencies had an unfavorable impact on the change in Net sales from continuing operations of approximately 3% and affected Gross profit and Selling, general and administrative expenses by less than 2%. For the third quarter of 2020 compared to the third quarter of 2019, fluctuations in foreign currencies had an unfavorable impact on the change in Net sales of approximately 2% and affected Gross profit and Selling, general and administrative expenses by less than 1%. The changes in foreign exchange rates since December 31, 2019 also decreased net assets
by less than 1% as of October 2, 2020.
Seasonality
Our European operations typically experience a slowdown during the July, August and December vacation seasons. Sales in our Medical Technology segment typically peak in the fourth quarter. However, the business impact caused by the COVID-19 pandemic may distort the effects of historical seasonality patterns.
31
Non-GAAP Measures
Adjusted
EBITA
Adjusted EBITA, a non-GAAP performance measure, is included in this report because it is a key metric used by our management to assess our operating performance. Adjusted EBITA excludes from Net income (loss) from continuing operations the effect of restructuring and other related charges, MDR costs, acquisition-related intangible asset amortization and other non-cash charges, and strategic transaction costs, as well as income tax expense (benefit), interest expense, net and pension settlement loss. We also present Adjusted EBITA margin, which is subject to the same adjustments as Adjusted EBITA. Further, we present Adjusted EBITA (and Adjusted EBITA margin) on a segment basis, where we exclude the impact of restructuring and other related charges, MDR costs, acquisition-related intangible asset amortization and other non-cash charges, and strategic transaction costs from segment
operating income. Adjusted EBITA assists Colfax management in comparing its operating performance over time because certain items may obscure underlying business trends and make comparisons of long-term performance difficult, as they are of a nature and/or size that occur with inconsistent frequency or relate to discrete restructuring plans and other initiatives that are fundamentally different from our ongoing productivity improvements. Colfax management also believes that presenting these measures allows investors to view its performance using the same measure that we use in evaluating our financial and business performance and trends.
Non-GAAP financial measures should not be considered in isolation from, or as a substitute for, financial information calculated in accordance with GAAP. Investors are encouraged to review the reconciliation of these non-GAAP measures to their most directly
comparable GAAP financial measures. The following tables set forth a reconciliation of Net income (loss) from continuing operations, the most directly comparable GAAP financial measure, to Adjusted EBITA.
Net income (loss) from continuing operations (GAAP)
$
16.8
$
3.8
$
22.6
$
(15.5)
Income
tax expense (benefit)
19.5
(1.4)
2.6
6.8
Interest expense, net(1)
25.6
31.8
78.6
86.8
Pension
settlement loss
—
33.6
—
33.6
Restructuring and other related charges(2)
6.3
13.3
28.5
50.7
MDR
and other(3)
2.6
—
4.5
—
Strategic transaction costs(4)
0.6
0.9
3.2
56.7
Acquisition-related
amortization and other non-cash charges(5)
36.2
43.7
108.1
124.1
Adjusted EBITA (non-GAAP)
$
107.7
$
125.8
$
248.2
$
343.2
Net
income (loss) margin from continuing operations (GAAP)
2.1
%
0.4
%
1.0
%
(0.6)
%
Adjusted EBITA margin (non-GAAP)
13.4
%
14.9
%
11.1
%
14.1
%
(1)
The nine months ended September 27, 2019 includes $0.8 million of debt extinguishment charges in the first quarter of 2019.
(2) Restructuring and other related charges includes $2.2 million and $4.9 million of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations for the three and nine months ended October 2, 2020, respectively, and $3.5 million of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations for the three and nine months ended September 27, 2019.
(3) Primarily related to costs specific to compliance with medical device reporting regulations and other requirements of the European Union Medical Device Regulation
of 2017.
(4) Includes costs incurred for the acquisition of DJO.
(5) Includes amortization of acquired intangibles and fair value charges on acquired inventory.
32
The following tables set forth a reconciliation of
operating income (loss), the most directly comparable financial statement measure, to Adjusted EBITA by segment for the three and nine months ended October 2, 2020 and September 27, 2019.
Acquisition-related
amortization and other non-cash charges
9.1
27.1
—
36.2
26.8
81.3
—
108.1
Adjusted EBITA (non-GAAP)
$
72.2
$
50.0
$
(14.5)
$
107.7
$
202.5
$
87.2
$
(41.5)
$
248.2
Segment
operating income margin (non-GAAP)
12.8
%
7.3
%
—
%
8.8
%
12.3
%
0.7
%
—
%
6.1
%
Adjusted
EBITA margin (non-GAAP)
14.7
%
15.9
%
—
%
13.4
%
14.1
%
10.7
%
—
%
11.1
%
(1)
For the three and nine months ended October 2, 2020, Restructuring and other related charges in our Medical Technology segment includes $2.2 million and $4.9 million, respectively, of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations.
Acquisition-related
amortization and other non-cash charges
9.2
34.5
—
43.7
26.9
97.2
—
124.1
Adjusted EBITA (non-GAAP)
$
82.2
$
56.9
$
(13.4)
$
125.8
$
251.4
$
135.0
$
(43.2)
$
343.2
Segment
operating income margin (non-GAAP)
13.5
%
7.3
%
—
%
9.6
%
13.3
%
5.1
%
—
%
6.7
%
Adjusted
EBITA margin (non-GAAP)
15.2
%
18.5
%
—
%
14.9
%
14.9
%
18.1
%
—
%
14.1
%
(1)
Our Medical Technology segment includes results from the acquisition date of February 22, 2019.
(2) Restructuring and other related charges includes $3.5 million of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations for the three and nine months ended September 27, 2019.
33
Total Company
Sales
Net
sales decreased for the three and nine months ended October 2, 2020 as compared with the three and nine months ended September 27, 2019. The following table presents the components of changes in our consolidated Net sales.
(1) The nine months ended September 27, 2019 reflects 217 days of sales from our Medical Technology segment, as the DJO acquisition was completed on February 22, 2019. The increase in Net Sales for the year-to-date period through February
22, 2020 is reflected in the Acquisitions line.
(2) Excludes the impact of foreign exchange rate fluctuations and acquisitions, thus providing a measure of change due to factors such as price, product mix and volume.
(3) Represents the incremental sales as a result of our acquisitions discussed previously.
(4) Represents the difference between prior year sales valued at the actual prior year foreign exchange rates and prior year sales valued at current year foreign exchange rates.
Net sales decreased in the third quarter of 2020 compared with the prior year period, primarily due to the COVID-19 pandemic. Our Fabrication Technology segment decreased $31.6 million, slightly offset
by a $4.2 million increase in our Medical Technology segment, primarily due to the growth in our Reconstructive product group from the resumption of elective surgical procedures, as well as nonrecurring sales of personal protective equipment (“PPE”) in our Prevention and Rehabilitation product group. The strengthening of the U.S. dollar relative to other currencies caused a $13.2 million currency translation negative impact.
Net sales decreased in the nine months ended October 2, 2020 compared to the prior year period, primarily due to the COVID-19 pandemic. Our Fabrication Technology segment decreased $189.4 million and our Medical Technology segment decreased $134.5 million for existing businesses, partially offset by the $199.5 million increase from two additional months of acquisition sales in our Medical Technology segment,
which represents the incremental reported sales compared to the corresponding prior year period as a result of the acquisition of DJO being completed on February 22, 2019. The strengthening of the U.S. dollar relative to other currencies caused a $72.1 million currency translation negative impact.
34
Operating Results
The following table summarizes our results of continuing operations for the comparable periods.
Net income (loss) margin from continuing operations
2.1
%
0.4
%
1.0
%
(0.6)
%
Adjusted
EBITA (non-GAAP)
$
107.7
$
125.8
$
248.2
$
343.2
Adjusted EBITA Margin (non-GAAP)
13.4
%
14.9
%
11.1
%
14.1
%
Items
excluded from Adjusted EBITA:
Restructuring and other related charges(1)
$
6.3
$
13.3
$
28.5
$
50.7
MDR
and other
$
2.6
$
—
$
4.5
$
—
Strategic transaction costs
$
0.6
$
0.9
$
3.2
$
56.7
Acquisition-related
amortization and other non-cash charges
$
36.2
$
43.7
$
108.1
$
124.1
Pension settlement loss
$
—
$
33.6
$
—
$
33.6
Interest
expense, net
$
25.6
$
31.8
$
78.6
$
86.8
Income tax expense (benefit)
$
19.5
$
(1.4)
$
2.6
$
6.8
(1)
Restructuring and other related charges includes $2.2 million and $4.9 million of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations for the three and nine months ended October 2, 2020, respectively, and $3.5 million of expense classified as Cost of sales on our Condensed Consolidated Statements of Operations for the three and nine months ended September 27, 2019.
Third Quarter of 2020 Compared to Third Quarter of 2019
Gross profit decreased $24.0 million in the third quarter of 2020 compared with the prior year period due to a $20.1 million decrease in our Fabrication Technology segment and a $3.8 million decrease in our Medical Technology
segment. The Gross profit decrease was attributable to lower sales volume, higher freight costs, and production inefficiencies related to the COVID-19 pandemic and unfavorable foreign currency translation, partially offset by new product initiatives and temporary cost reductions. Gross profit margin declined as a result of the lower sales and COVID-19 inefficiencies.
Selling, general and administrative expense decreased $12.4 million due to a $7.5 million decrease in acquisition-related amortization and other non-cash charges due to finalization of the valuation of DJO definite-lived intangible assets in the fourth quarter of 2019, as well as temporary expense reductions. Restructuring and other related charges decreased due to completing certain Medical Technology segment restructuring programs.
Interest
expense, net decreased $6.2 million, primarily attributable to lower interest rates, as well as an overall reduction of the size of the credit facility from the December 2019 amendment.
The effective tax rate for Net income (loss) from continuing operations during the third quarter of 2020 was 53.7%, which was higher than the 2020 U.S. federal statutory tax rate of 21%, mainly due to the net impact of additional U.S. tax on international operations, withholding taxes, and certain non-deductible expenses. These unfavorable impacts were partially offset by the impact of U.S. tax credits, a benefit from U.S. state tax losses, and the realization of tax benefits associated with effective settlements on uncertain tax positions. The effective tax rate for the third quarter of 2019 was (56.0)%, which was
35
lower
than the 2019 U.S. federal statutory tax rate of 21% mainly due to a discrete tax benefit associated with the enactment of tax law changes in a European jurisdiction offset in part by losses in certain jurisdictions where a tax benefit was not expected to be recognized in 2019, and non-deductible deal costs.
Net income (loss) from continuing operations increased in the third quarter of 2020 compared with the prior year period due to the pension settlement loss incurred in the third quarter of 2019 and a reduction of interest expense, offset by the impact of the COVID-19 pandemic. Net income (loss) margin from continuing operations increased by 170 basis points due to the aforementioned factors. Adjusted EBITA and related margins decreased primarily due to the impact of the COVID-19 pandemic, partially offset by structural and temporary reductions in Selling, general and administrative
expense.
Gross profit decreased $71.8 million in the nine months ended October 2, 2020 compared to the prior year period, due to a $91.6 million decrease in our Fabrication Technology segment, partially offset by a $19.8 million increase in our Medical Technology segment. Gross profit in our Fabrication Technology segment decreased due to lower sales volume and unfavorable foreign currency translation, partially offset by new product initiatives and temporary cost reductions. Gross profit in our Medical Technology segment increased primarily due to the inclusion of two additional months
of activity, partially offset by decreased sales volume, higher freight costs, and production inefficiencies related to COVID-19. Gross profit margin improved slightly over the same period, primarily attributable to including two additional months of results of our Medical Technology segment in 2020 and temporary cost reductions, partially offset by the lower sales volume.
Selling, general and administrative expense decreased $40.3 million mainly due to a $53.4 million decrease in strategic transaction costs and temporary cost reductions that peaked in the second quarter, all partially offset by two additional months of results of our Medical Technology segment. Restructuring and other related charges decreased by $22.2 million due to completing certain Medical Technology segment restructuring programs.
Interest expense,
net decreased by $8.2 million, primarily attributable to lower interest rates and the December 2019 credit facility capacity reduction. Additionally, interest expense decreased due to a lower average debt balance in 2020, as proceeds from the sale of the Air and Gas Handling business were used to pay down debt during the fourth quarter of 2019.
The effective tax rate for Net income (loss) from continuing operations during the nine months ended October 2, 2020 was 10.5%, which was lower than the 2020 U.S. federal statutory tax rate of 21% mainly due to the net impact of U.S. tax credits, a benefit from U.S. state tax losses, a discrete tax benefit associated with the filing of timely elected changes to U.S. Federal tax returns to credit rather than to deduct foreign taxes, the impact of an enacted law change in India, and the realization of tax benefits
associated with effective settlements on uncertain tax positions. These favorable impacts were partially offset by the impact of additional U.S. tax on international operations, withholding taxes, and certain non-deductible expenses. The effective tax rate for the nine months ended September 27, 2019 was (78.5)%, which was lower than the 2019 U.S. federal statutory tax rate of 21% mainly due to losses in certain jurisdictions where a tax benefit was not expected to be recognized in 2019, $16.7 million of non-deductible deal costs, and an aggregate $9.2 million unfavorable discrete U.S. income tax expense due to a change in valuation allowance and state tax expense as a result of the DJO acquisition, offset in part by a discrete tax benefit associated with the enactment of tax law changes in a European jurisdiction.
Net income (loss) from
continuing operations increased in the nine months ended October 2, 2020 compared to the prior year period, largely due to the inclusion of two additional months of results of our Medical Technology segment in 2020, a decrease in strategic transaction costs, and the pension settlement loss incurred during the nine months ended September 27, 2019. These were offset by a decrease in Gross profit from COVID-19 impacts, mitigated by the reductions in Selling, general and administrative expense from our temporary cost reduction programs. Net income (loss) margin from continuing operations increased by 160 basis points for the same reasons that Net income from continuing operations increased.
The lower Adjusted EBITA was driven by COVID-19 impacts, partially offset by the inclusion of two additional
months of results of our Medical Technology segment in 2020 and the reductions in Selling, general and administrative expense from our temporary cost reduction programs. Adjusted EBITA margin decreased by 300 basis points due primarily to decreases in our Medical Technology segment Adjusted EBITA margin.
36
Business Segments
As discussed further above, we report results in two reportable segments: Fabrication Technology and Medical Technology.
Fabrication
Technology
We formulate, develop, manufacture and supply consumable products and equipment, including cutting, joining, and automated welding products, as well as gas control equipment. Our fabrication technology products are marketed under several brand names, most notably ESAB, providing a wide range of products with innovative technologies to solve challenges in virtually any industry. ESAB’s comprehensive range of welding consumables includes electrodes, cored and solid wires and fluxes using a wide range of specialty and other materials, and cutting consumables including electrodes, nozzles, shields and tips. ESAB’s fabrication technology equipment ranges from portable welding machines to large customized automated cutting and welding systems. Products are sold into a wide range of end markets, including infrastructure, wind power, marine, pipelines, mobile/off-highway equipment,
oil, gas, and mining.
The following table summarizes selected financial data for our Fabrication Technology segment:
Acquisition-related
amortization and other non-cash charges
$
9.1
$
9.2
$
26.8
$
26.9
Pension settlement loss
$
—
$
33.6
$
—
$
33.6
Third
Quarter of 2020 Compared to Third Quarter of 2019
Net sales in our Fabrication technology segment decreased $47.7 million in the third quarter of 2020 compared with the prior year period due to a $16.1 million unfavorable foreign currency translation impact, as well as a 5.9% decrease due to a decline in customer demand driven by COVID-19, partially offset by new product initiative sales. The COVID-19 impact was most severe early in the second quarter, and we realized an approximate 19% sequential improvement in the third quarter. Sales improved across our regions, most strongly in the developing regions. Gross profit decreased, and Gross margin decreased 60 basis points, in the third quarter of 2020 due to lower sales volume caused by COVID-19, partially offset by new product initiatives and COVID-19-related cost reduction measures. Selling, general and administrative expense decreased
due to lower discretionary spending and benefits from restructuring initiatives to reduce costs. In summary, Segment operating income, Adjusted EBITA, and related margins all declined due to lower sales levels related to COVID-19.
Net sales decreased $260.9 million in the nine months ended October 2, 2020 compared with the prior year period, due to lower sales volumes related to COVID-19 and a $71.5 million unfavorable foreign currency translation impact. Despite the $91.6 million reduction in Gross profit due to lower sales resulting from COVID-19, Gross profit margin was
maintained versus the prior year level due to temporary cost reductions and restructuring benefits. Selling, general and administrative expense
37
decreased in the period due to benefits from restructuring initiatives and temporary cost reduction programs. Lower sales levels related to COVID-19 resulted in a decline in Segment operating income, Adjusted EBITA, and related margins over the same period.
Medical Technology
We develop, manufacture and distribute high-quality medical devices and services across the continuum of patient care from injury prevention
to joint replacement to rehabilitation after surgery, injury or from degenerative disease, enabling people to regain or maintain their natural motion. Our products are used by orthopedic specialists, spine surgeons, primary care physicians, pain management specialists, physical therapists, podiatrists, chiropractors, athletic trainers and other healthcare professionals. Our products primarily include orthopedic braces, rehabilitation devices, footwear, surgical implants, and bone growth stimulators.
The following table summarizes the selected financial data for our Medical Technology segment:
Acquisition-related
amortization and other non-cash charges
$
27.1
$
34.5
$
81.3
$
97.2
(1) Restructuring and other related charges
includes $2.2 million and $4.9 million of expense classified as Cost of sales on the Company’s Condensed Consolidated Statements of Operations for the three and nine months ended October 2, 2020, and $3.5 million of expense classified as Cost of sales on the Company’s Condensed Consolidated Statements of Operations for the three and nine months ended September 27, 2019.
Third Quarter of 2020 Compared to Third Quarter of 2019
Net sales increased for our Medical Technology segment in the third quarter of 2020 compared with the prior year
period due to greater organic growth including approximately $7 million for personal protective equipment that is not expected to recur. Our Medical Technology segment experienced a severe reduction in sales in April 2020 due to a significant decline of elective surgical procedures, cancellations of organized sports, and an overall decrease in general population activity levels caused by certain government-ordered restrictions in response to COVID-19. Sales improved throughout the remainder of the second quarter and in the third quarter as elective surgical procedures resumed and the degree of sporting and general activity increased. Third quarter Reconstructive product line sales grew 9.3%, and Prevention & Rehabilitation sales declined 0.4%. Gross profit and Gross profit margin declined in the third quarter of 2020 compared to third quarter of 2019 due to freight and production inefficiencies related to COVID-19. Selling, general and administrative expense decreased
due to lower acquisition-related amortization of intangible assets. Segment operating income increased primarily due to the growth in organic sales and reduction of acquisition-related amortization of intangible assets, partially offset by freight and production inefficiencies caused
38
by COVID-19. Adjusted EBITA and related margins all declined for the reasons noted above. Restructuring and other related charges decreased by $4.9 million due to completing certain projects in earlier periods.
Net
sales increased for our Medical Technology segment in the nine months ended October 2, 2020 compared with the prior year period due to an additional two months of acquisition sales, partially offset by a decrease in sales volume related to COVID-19. Gross profit increased as a result of the aforementioned factors and a $17.0 million decrease of inventory fair value charges. Gross profit margin declined as a result of lower sales volume, higher freight, and production inefficiencies related to COVID-19. Selling, general and administrative expense also increased due to including two additional months of sales, partially offset by temporary expense reductions. Segment operating income, Adjusted EBITA, and related margins all declined as a result of the aforementioned factors. Restructuring and other related charges decreased by $20.7 million due to completing certain projects.
39
Liquidity
and Capital Resources
Overview
We finance our capital and working capital requirements through a combination of cash flows from operating activities, various borrowings and occasional issuances of equity. We expect that our primary ongoing requirements for cash will be for working capital, acquisitions, capital expenditures, restructuring programs, asbestos-related cash outflows, and debt service and required amortization of principal. We believe we could raise additional funds in the form of debt or equity if it were determined to be appropriate for strategic acquisitions or other corporate purposes. Based on our expected cash flows from operations, current cash positions, and contractually
available borrowings under our credit facility, we expect to have sufficient liquidity to fund working capital needs and future growth over the next twelve months. At quarter-end, the Company has a $66.4 million cash balance and $1.2 billion of capacity under its credit agreement and other facilities.
Term Loan and Revolving Credit Facility
Our credit agreement (the “Credit Facility”) by and among the Company, as the borrower, certain U.S. subsidiaries of the
Company, as guarantors, each of the lenders party thereto, JPMorgan Chase Bank, N.A., as administrative agent, Citizens Bank, N.A., as syndication agent, and the co-documentation agents named therein consists of a $975 million revolving credit facility (the “Revolver”) and a Term A-1 loan in an aggregate principal amount of $825 million (the “Term Loan”), each with a maturity date of December 6, 2024. The Revolver contains a $50 million swing line loan sub-facility. On May 1, 2020, the Company entered into an amendment to its Credit Facility (the “Amendment”). Refer to Note 10, “Debt” in the accompanying Notes to Condensed Consolidated Financial Statements for more information regarding the Amendment.
As
of October 2, 2020, we were in compliance with the covenants under the Credit Facility. As of October 2, 2020, the weighted-average interest rate of borrowings under the Credit Facility was 1.91%, excluding accretion of original issue discount and deferred financing fees, and there was$975 million of credit available on the Revolver. During the third quarter of 2020, the Company made a voluntary $40 million principal payment on the Term A-1 loan.
Other Indebtedness
In addition, we are party to various bilateral credit facilities with a borrowing capacity of $189.5 million.
As of October 2, 2020, there were no outstanding borrowings under these facilities.
We are also party to letter of credit facilities with an aggregate capacity of $390.2 million. Total letters of credit of $84.3 million were outstanding as of October 2, 2020.
Equity Capital
In 2018, our Board of Directors authorized the repurchase of shares of our Common stock from time-to-time on the open market or in privately negotiated transactions. No repurchases of our Common stock have been made under this plan since the third quarter of 2018. As of October 2, 2020, the remaining
stock repurchase authorization provided by our Board of Directors was $100.0 million. The timing, amount, and method of shares repurchased is determined by management based on its evaluation of market conditions and other factors. There is no term associated with the remaining repurchase authorization.
40
Cash Flows
As of October 2, 2020, we had $66.4 million of Cash and cash equivalents, a decrease of $43.2 million from $109.6 million as of December 31,
2019. The following table summarizes the change in Cash and cash equivalents during the periods indicated:
Net
cash provided by (used in) financing activities
(125.6)
3,090.9
Effect of foreign exchange rates on Cash and cash equivalents
(6.6)
(5.2)
Decrease in Cash and cash equivalents
$
(43.2)
$
(78.3)
Cash
used in operating activities related to the discontinued operations of our divested Air and Gas Handling business for the nine months ended October 2, 2020 was $7.2 million. Cash provided by operating activities related to the discontinued operations of our divested Air and Gas Handling business for the nine months ended September 27, 2019 was $18.0 million. Cash used in investing activities related to the discontinued operations of the divested Air and Gas Handling business for the nine months ended September 27, 2019 was $27.5 million.
Cash flows from operating activities increased in the nine months ended October 2, 2020 versus the comparable 2019 period due to changes in working capital,
lower restructuring outlays in 2020, and non-recurring strategic transaction costs in 2019. Cash flows from operating activities can fluctuate significantly from period-to-period due to changes in working capital and the timing of payments for items such as restructuring and asbestos-related costs. Changes in significant operating cash flow items inclusive of activities for our discontinued operations, comparing the nine months ended October 2, 2020 with the comparable prior year period, are discussed below.
•Year-to-date 2020 results include net asbestos outflows of $11.2 million versus outflows of $18.5 million in 2019, all of which related to our discontinued operations. These outflows represent disposition of claims, defense costs and legal expenses related to litigation against our insurers, net of insurance
proceeds.
•Year-to-date payments for restructuring activities reduced from $65.5 million in 2019 to $31.4 million in 2020 as certain projects were completed.
•Year-to-date 2020 results include $44.6 million of inflows from working capital due to lower sales and operational improvements. Results in the comparable prior year period included a $91.0 million outflow, due to an increase in Net Sales, an estimated $40 million one-time effort to bring DJO suppliers into payment terms consistent with our normal practices, and the elimination of a DJO accounts receivable factoring program. We define working capital as Trade receivables, net and Inventories, net, both reduced by Accounts payable and customer advances and billings in excess of costs incurred.
Cash
flows used in investing activities during the nine months ended October 2, 2020 primarily consists of purchases of property, plant and equipment. During the nine months ended September 27, 2019, cash flows used in investing activities included the DJO acquisition.
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Cash flows used in financing activities for the nine months ended October 2, 2020 included a net increase in repayments on our Revolver and Term Loan. Cash flows provided by financing activities for nine months ended September 27, 2019 were impacted by proceeds from borrowings
on newly acquired debt and issuance of common stock in conjunction with the DJO acquisition, partially offset by the repurchases of a vast majority of the noncontrolling interest shares of a former Air and Gas Handling subsidiary in South Africa.
Our Cash and cash equivalents as of October 2, 2020 include $50.7 million held in jurisdictions outside the U.S. We reduced these levels by $12.1 million in the third quarter of 2020. Cash repatriation of non-U.S. cash into the U.S. may be subject to taxes, other local statutory restrictions and minority owner distributions.
Critical Accounting Policies
The
methods, estimates and judgments that we use in applying our critical accounting policies have a significant impact on our results of operations and financial position. We evaluate our estimates and judgments on an ongoing basis. Our estimates are based upon our historical experience, our evaluation of business and macroeconomic trends and information from other outside sources, as appropriate. Our experience and assumptions form the basis for our judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may vary from what our management anticipates, and different assumptions or estimates about the future could have a material impact on our results of operations and financial position.
There have been no other significant additions to the methods, estimates and judgments included in “Item 7. Management’s Discussion
and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies” in our 2019 Form 10-K.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk from changes in short-term interest rates, foreign currency exchange rates and commodity prices that could impact our results of operations and financial condition. We address our exposure to these risks through our normal operating and financing activities. We do not enter into derivative contracts for trading purposes.
Interest
Rate Risk
We are subject to exposure from changes in short-term interest rates related to interest payments on our borrowing arrangements. A significant amount of our borrowings as of October 2, 2020 are variable-rate facilities based on LIBOR or EURIBOR. In order to mitigate our interest rate risk, we may enter into interest rate swap or collar agreements. A hypothetical increase in interest rates of 1% during the three and nine months ended October 2, 2020 would have increased Interest expense for our variable-rate based debt by approximately $2.1 million and $6.9 million, respectively.
Exchange Rate Risk
We have manufacturing
sites throughout the world and sell our products globally. As a result, we are exposed to movements in the exchange rates of various currencies against the U.S. dollar and against the currencies of other countries in which we manufacture and sell products and services. During the three and nine months ended October 2, 2020, approximately 57% and 58%, respectively, of our sales were derived from operations outside the U.S. We have significant manufacturing operations in European countries that are not part of the Eurozone. Sales are more highly weighted toward the Euro and U.S. dollar. We also have significant contractual obligations in U.S. dollars that are met with cash flows in other currencies as well as U.S. dollars. To better match revenue and expense as well as cash needs from contractual liabilities, we regularly enter into currency swaps and forward contracts.
We
also face exchange rate risk from our investments in subsidiaries owned and operated in foreign countries. Euro denominated borrowings under the Euro Senior Notes provide a natural hedge to a portion of our European net asset position. The effect of a change in currency exchange rates on our net investment in international subsidiaries, net of the translation effect of our Euro denominated borrowings, is reflected in the Accumulated other comprehensive loss component of Equity. A 10% depreciation in major currencies relative to the U.S. dollar as of October 2, 2020 (net of the translation effect of our Euro denominated borrowings) would result in a reduction in Equity of approximately $159 million.
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We
also face exchange rate risk from intercompany transactions between affiliates. Although we use the U.S. dollar as our functional currency for reporting purposes, we have manufacturing sites throughout the world, and a substantial portion of our costs are incurred and sales are generated in foreign currencies. Costs incurred and sales recorded by subsidiaries operating outside of the U.S. are translated into U.S. dollars using exchange rates effective during the respective period. As a result, we are exposed to movements in the exchange rates of various currencies against the U.S. dollar. Similarly, tax costs may increase or decrease as local currencies strengthen or weaken against the U.S. dollar.
Commodity Price Risk
We
are exposed to changes in the prices of raw materials used in our production processes. In order to manage commodity price risk, we periodically enter into fixed price contracts directly with suppliers.
See Note 12, “Financial Instruments and Fair Value Measurements” in our Notes to Condensed Consolidated Financial Statements included in this Form 10-Q for additional information regarding our derivative instruments.
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Item 4. Controls and Procedures
Evaluation
of Disclosure Controls and Procedures
Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we have evaluated the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of October 2, 2020. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective in providing reasonable assurance that the information required to be disclosed in this report on Form 10-Q has been recorded, processed, summarized and reported as of the end of the period covered by this report on Form 10-Q.
Disclosure
controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
Changes in Internal Control over Financial Reporting
There have been no changes in our internal control over financial reporting (as defined in Rule 13a-15(f)) identified in connection with the evaluation required by Rule 13a-15(d) of the Exchange Act
that occurred during the period covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
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PART II - OTHER INFORMATION
Item 1. Legal Proceedings
Discussion of legal proceedings is incorporated
by reference to Note 13, “Commitments and Contingencies,” in the Notes to Condensed Consolidated Financial Statements included in Part I. Item 1. “Financial Statements” of this Form 10-Q.
Item 1A. Risk Factors
An investment in our common stock involves a high degree of risk. In addition to risk factors included in “Part I. Item 1A. Risk Factors” in our 2019 Form 10-K, we face the following risks:
The effects of the COVID-19 global pandemic have materially affected how we and our customers and suppliers operate, and the duration and extent to which this will impact our future results of operations, financial
condition, and overall financial performance remains uncertain.
In December 2019, a novel coronavirus disease (“COVID-19”) was first reported in China. On March 11, 2020, due to worldwide spread of the virus, the World Health Organization characterized COVID-19 as a pandemic. The COVID-19 global pandemic has resulted in a widespread health crisis, and the resulting impact on governments, businesses and individuals and actions taken by them in response to the situation have resulted in widespread economic disruptions, significantly affecting broader economies, financial markets, and overall demand for our products. It is uncertain when and to what extent these conditions will subside and whether and how quickly businesses will return to levels that existed before the outbreak of the pandemic. As a result
of the COVID-19 outbreak, we have experienced and expect to continue to experience disruptions that severely impact and may continue to severely impact our businesses including, but not limited to:
•material delays and cancellations of elective medical procedures; orthopedic clinics and physical therapy centers operating at reduced capacity and only serving critical patients; and cancellation of professional, college, high school and youth sports programs impacting our Medical Technology business; and
•reductions in levels of new capital investment and maintenance expenditures or a sustained industrial downturn impacting our Fabrication Technology business.
As a result of such impacts, we have experienced significant
decreases in sales at each of our Medical Technology and Fabrication Technology businesses and expect sales to be impacted through 2020 and possibly beyond as residual caution in 2021 could impact the pace of recovery. Although we have experienced increases in sales in the third quarter of 2020 as restrictions have been lifted or eased in certain jurisdictions, other jurisdictions have seen increases in new COVID-19 cases, resulting in restrictions being reinstated, or new restrictions imposed in these jurisdictions. To the extent there is a resurgence of COVID-19 or restrictions are reinstated, our businesses could be negatively impacted. Ultimately, we expect that the longer the period of economic disruption continues, the more material the adverse impact will be on our businesses, results of operations and financial condition. Moreover, a prolonged period of generating lower cash from operations could adversely affect our financial condition and the achievement of
our strategic objectives. Conditions in the financial and credit markets may also limit the availability of funding or increase the cost of funding, which could adversely affect our businesses, financial condition and results of operations.
The degree to which the COVID-19 situation impacts our businesses, results of operations and financial condition, including the duration and magnitude of such impacts, will depend on future developments, which are highly uncertain and cannot be predicted, including, but not limited to, the duration and spread of the outbreak, including any resurgences, its severity, the actions to contain the virus or treat its impact, and how quickly and to what extent normal economic and operating conditions resume. Even to the extent conditions begin to improve, the duration and sustainability of any such improvements will be uncertain and continuing adverse impacts
and/or the degree of improvement may vary dramatically by geography and line of business. Additionally, the effects of the COVID-19 pandemic, including actions by governments, businesses and individuals in response, could give rise or contribute to or amplify many of the risks discussed in our risk factors, included in Part 1, Item A of our 2019 Form 10-K, including, but not limited to risks related to our profitability, laws and regulations affecting our business, fluctuations in foreign currency markets, the availability of future borrowings, the costs of current and future borrowings, valuation of our pension assets and obligations, credit risks of our customers and counterparties, our business transformation and restructuring initiatives, and impairment of intangible assets, including goodwill.
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COLFAX
CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4.
Mine Safety Disclosures
None.
Item 5. Other Information
On October 27, 2020, the Company’s Board of Directors approved a form of change in control agreement with certain of the Company’s executive officers, including Christopher Hix, Shyam Kambeyanda, Brady Shirley and Daniel Pryor, and on October 27, 2020, the
Company and each of Mr. Hix, Mr. Kambeyanda, Mr. Shirley and Mr. Pryor entered into a change in control agreement (the “Change in Control Agreements”). The Change in Control Agreements supersede and replace any prior agreement between the Company and such executive officers with respect to a change in control (as such term is defined in the Change in Control Agreements) of the Company, except to the extent such executive officer has an offer letter or other employment agreement with the Company, in which case the agreement with terms more favorable to the executive officer will control.
Pursuant to the Change in Control
Agreements, upon a change in control of the Company, each executive officer will be entitled to an annual base salary, cash bonus opportunity and benefits package equal to or greater than the base salary, cash bonus opportunity or benefits package in effect for such executive officer immediately prior to the change in control. If an executive officer’s employment is terminated during the two year period following, or the three month period preceding, a change in control of the Company other than (a) by the Company for cause, (b) by reason of death or disability or (c) by the executive officer for good reason (as such terms are defined in the Change in Control Agreements), the
Company will pay the executive officer an amount equal to: (i) two times the annual base salary of such executive officer plus (ii) two times the target cash bonus opportunity of such executive officer. Any outstanding long-term equity incentive awards held by the executive officer will continue to be treated in accordance with the terms and conditions of the award agreements and plans pursuant to which such awards were granted.
Each Change in Control Agreement has an initial two-year term, subject to automatic extension for successive one-year periods unless either the Company or the executive officer gives notice of non-renewal to the other or the agreement is otherwise terminated pursuant to its terms.
The foregoing
description of the Change in Control Agreements is qualified by the full text of the Change in Control Agreements, the form of which is filed as an exhibit to this Quarterly Report on Form 10-Q and is incorporated herein by reference.
Certification of Chief Executive Officer pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to Rule 13a-14(a) under the Securities Exchange
Act of 1934 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
Inline 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.
Cover Page Interactive Data File - The cover page from this Quarterly Report on Form 10-Q for the quarter ended iOctober 2,
2020 is formatted in Inline XBRL (included as Exhibit 101).
Indicates management contract or compensatory plan, contract or arrangement.
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SIGNATURES
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.
