AMPCO PITTSBURGH CORP - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATION
(in thousands, except per share amounts)
EXECUTIVE OVERVIEW
Ampco-Pittsburgh Corporation and its subsidiaries (the "Corporation") manufacture and sell highly engineered, high performance specialty metal products and customized equipment utilized by industry throughout the world. We operate in two business segments - the Forged and Cast Engineered Products segment and the Air and Liquid Processing segment.
The Forged and Cast Engineered Products segment consists of Union Electric Steel
Corporation ("Union Electric Steel" or "UES") and Union Electric Steel UK
Limited ("UES-
UK
"). Union Electric Steel produces ingot and forged products that
service a wide variety of industries globally. It specializes in the production
of forged hardened steel rolls used in cold rolling by producers of steel,
aluminum and other metals throughout the world. In addition, it produces ingot
and open die forged products ("other forging products") which are used in the
gas and oil industry and the aluminum and plastic extrusion industries. UES is
headquartered in
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Carnegie, Pennsylvania
and has three manufacturing facilities in
Pennsylvania
,
one in
Indiana
and one in
Ohio
. It is one of the largest producers of forged
hardened steel rolls in the world. In addition to a few domestic competitors,
several major European, South American and Asian manufacturers also compete in
both the domestic and foreign markets. UES-
UK
produces cast rolls for hot and
cold strip mills, medium/heavy section mills and plate mills in a variety of
iron and steel qualities. Located in
Gateshead, England
, it is a major supplier
of cast rolls to the metalworking industry worldwide and primarily competes with
European, Asian and North and South American companies in both domestic and
foreign markets.
The Air and Liquid Processing segment includes Aerofin, Buffalo Air Handling and
Buffalo Pumps, all divisions of Air & Liquid Systems Corporation ("Air and
Liquid"), a wholly-owned subsidiary of the Corporation. Aerofin produces
custom-engineered finned tube heat exchange coils and related heat transfer
products for a variety of industries including OEM/Commercial, fossil fuel,
nuclear power generation and industrial process. Buffalo Air Handling produces
large custom-designed air handling systems for institutional (e.g., hospital,
university), pharmaceutical and general industrial building markets. Buffalo
Pumps manufactures centrifugal pumps for the fossil fuel power generation,
marine defense and industrial refrigeration industries. The segment has
operations in
Virginia
and
New York
with headquarters in
Carnegie, Pennsylvania
.
The segment distributes a significant portion of its products through a common
independent group of sales offices located throughout
the United States
and
Canada
.
In July 2015, a subsidiary of Union Electric Steel acquired the business and
assets of Alloys Unlimited & Processing, Inc. ("AUP"), a supplier of specialty
tool, alloy, and carbon steel round bar. The acquisition provides
diversification and growth opportunities for our Forged and Cast Engineered
Products group and increased ability to provide quick turnaround and emergency
supply to customers.
On March 3, 2016, Union Electric Steel acquired Åkers AB and certain of its
affiliated companies (excluding Åkers AB's operations in
France
and
Belgium
)
from Altor Fund II GP Limited. The business is a part of the Forged and Cast
Engineered Products segment. Åkers AB has been a leader in the production of
forged and cast rolls since 1806. The acquisition adds roll production
facilities in
Sweden
,
the United States
,
Slovenia
, and
China
; 14 sales offices;
and a service capability in
the United States
. It enables cast roll production
in
the United States
, forged roll production in
Europe
, and a low-cost product
alternative for customers. The base purchase price of $75,000 (which is subject
to certain post-closing adjustments) was payable $29,000 in cash, $26,000 in the
form of a three-year note, and $20,000 in shares of common stock of the
Corporation. Future consolidated financial statements of the Corporation will
include the results of operations of the acquired entities from the date of
acquisition.
The Forged and Cast Engineered Products segment has been operating at levels
significantly below capacity due to an overall reduction in demand for roll
product. Market conditions in
the United States
,
Europe
and other world regions
remain difficult due to weaknesses in our customer base, which is suffering from
excess steelmaking capacity and an over-supply of rolls worldwide. The
strengthening of the
U.S.
dollar and British pound against most major
currencies has further hampered opportunity. With the global steelmaking
industry operating below capacity, customer emphasis has been on roll cost
versus performance. Accordingly, pricing has suffered and profit margins have
decreased. Demand for rolls was weak and pricing pressure was fierce in 2015. We
do not anticipate improvement in the steel market in 2016 but believe a slow
turnaround should begin in 2017. While currently representing a minor portion of
the segment's business activity, ongoing efforts to diversify our customer base
have resulted in expansion of our other forging products. Although being
affected by weak demand as a result of the falloff in crude oil pricing, sales
of other forging products have offset some of the effects of constraints
currently affecting the roll market and utilizing available production capacity.
Union Electric Steel MG Roll Co., Ltd ("UES-MG"), the Chinese joint venture
company in which a subsidiary of UES holds a 49% interest, principally
manufactures and sells forged backup rolling mill rolls of a size and weight
currently not able to be produced by UES. Similar to UES, the joint venture has
been adversely impacted by the global economy, resulting in significantly
depressed pricing, reduced demand and excess roll inventories with its potential
customer base in
China
. Losses have been incurred since 2009, in which we have
recognized our share (49%) in our consolidated statements of operations, and are
expected to continue through 2016 and into 2017. Additionally, the overall
financial strength of the joint venture remains weak with a significant reliance
on the 51% partner or entities controlled by the 51% partner to provide
financing and working capital. We will continue to monitor the carrying value of
this investment ($1,757 at December 31, 2015) to determine if future charges are
necessary.
For the Air and Liquid Processing segment, business activity in the specialty
centrifugal pump industry continues to be strong while a decline in the
fossil-fueled power generation market and industrial markets is negatively
affecting our heat exchange business. The downturn in the fossil-fueled power
generation market is due to a falloff in spending for coal-fired power plants
while the industrial markets are being impacted by lower spending in the
industrial replacement market and increased competition. Demand for custom air
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handling systems has improved while competitive pricing pressures continue. The
focus for this segment is to grow revenues, increase margins, strengthen
engineering and manufacturing capabilities, and revise the sales and marketing
approach.
CONSOLIDATED RESULTS OF OPERATIONS OVERVIEW
The Corporation
2015 2014 2013
Net Sales:
Forged and Cast Engineered Products $ 152,267 64% $ 179,388 66% $ 187,286 67%
Air and Liquid Processing 86,213 36% 93,470 34% 93,764 33%
Consolidated $ 238,480 100% $ 272,858 100% $ 281,050 100%
Income (Loss) from Operations:
Forged and Cast Engineered Products $ (3,444 ) $ 4,380 $ 13,936
Air and Liquid Processing(1) 23,166 4,222 24,945
Corporate costs (14,675 ) (8,522 ) (9,914 )
Consolidated $ 5,047 $ 80 $ 28,967
Backlog:
Forged and Cast Engineered Products $ 106,582 75% $ 131,118 78% $ 159,344 81% Air and Liquid Processing
35,243 25% 36,830 22% 38,117 19%
Consolidated $ 141,825 100% $ 167,948 100% $ 197,461 100%
(1) Income (loss) from operations for the Air and Liquid Processing segment for
2015 includes pre-tax asbestos-related proceeds of $14,333 received from two
insurance carriers in rehabilitation whereas 2014 includes a pre-tax charge
of $4,487 for estimated costs of asbestos-related litigation through 2024 net
of estimated insurance recoveries and 2013 includes a pre-tax credit of
$16,340 for estimated additional insurance recoveries expected to be
available to satisfy asbestos liabilities through 2022 resulting from
settlement agreements reached with various insurance carriers (see Note 17 to
Consolidated Financial Statements).
Consolidated net sales for 2015 declined when compared to 2014 and 2013
primarily due to a lower volume of shipments and weaker pricing for our Forged
and Cast Engineered Products group. Sales for the Air and Liquid Processing
group decreased in 2015 against the two previous years principally as a result
of a lower level of shipments to the fossil-fueled utility and industrial
markets. A discussion of sales and backlog for the Corporation's two segments is
included below.
Operating income for 2015 includes asbestos-related proceeds of $14,333 received
from two insurance carriers in rehabilitation whereas 2014 includes a pre-tax
charge of $4,487 for estimated additional costs of asbestos-related litigation
through 2024 net of estimated insurance recoveries and 2013 includes a pre-tax
credit of $16,340 for estimated additional insurance recoveries expected to be
available to satisfy asbestos liabilities through 2022. Corporate expenses are
greater in the current year due to acquisition-related costs of $3,383, a
pension curtailment charge of $949 (see Note 7 to Consolidated Financial
Statements) and centralization of back office functions which transferred
approximately $1,600 of employee-related costs from the operating entities to
Corporate. The decrease in corporate expenses in 2014 from 2013 is primarily due
to lower employee-related expenses including pension and other post-retirement
benefit costs.
Gross margin, excluding depreciation, as a percentage of net sales, was 17.8%,
19.9% and 22.7% for 2015, 2014 and 2013, respectively. The decrease over the
years is primarily attributable to our Forged and Cast Engineered Products
segment which has been adversely impacted by a lower volume of shipments, a
reduction in the level of production and ongoing price concessions to remain
competitive. For 2014 compared to 2013, the impact to gross margin is somewhat
offset by lower pension and other postretirement benefit costs of approximately
$3,927.
Selling and administrative expenses totaled $39,510 (16.6% of net sales),
$37,380 (13.7% of net sales) and $39,682 (14.1% of net sales) for 2015, 2014 and
2013, respectively. The increase in 2015 from 2014 is principally attributable
to acquisition-related costs of $3,383 and charges associated with the
curtailment of the
U.S.
defined benefit plan of $949 offset by collection of
accounts receivable previously written off of approximately $750 and lower
commissions of $539. The decrease in 2014 from 2013 is principally related to
lower pension and other postretirement costs of $1,216 and commissions of $878.
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The credit for asbestos litigation in 2015 represents asbestos-related proceeds
received from two insurance carriers in rehabilitation which, because of their
potential insolvency, were not included in the insurance receivable previously
recorded. The charge for asbestos litigation in 2014 represents an extension of
the estimated costs of pending and future asbestos claims, net of additional
insurance recoveries, from 2022 to the end of 2024. The credit for asbestos
litigation in 2013 represents the estimated additional insurance recoveries
expected to be available to satisfy asbestos liabilities through 2022 resulting
from settlement agreements reached with various insurance carriers in 2013. The
claims result from alleged personal injury from exposure to asbestos-containing
components historically used in some products manufactured by certain companies
which now operate as divisions of the Air and Liquid Processing segment. See
Note 17 to Consolidated Financial Statements.
Other income (expense) fluctuated primarily as a result of changes in foreign
exchange losses and charges related to operations discontinued years ago. Losses
on foreign exchange transactions approximated $(324), $(488) and $(227) for
2015, 2014 and 2013, respectively, and charges related to operations
discontinued years ago equaled $(144), $(443) and $(1,412), respectively.
Our
U.S.
federal statutory income tax rate equals 35% which compares to an
effective income tax rate of 58.3%, 85.9% and 21.4% for 2015, 2014 and 2013,
respectively. The effective income tax rate for 2015 is higher than our federal
statutory income rate due to the non-deductibility of acquisition-related costs,
state income taxes and a lower statutory income tax rate in jurisdictions where
foreign operations incurred a net loss (thereby generating less of a tax
benefit). The effective income tax rate for 2014 is greater than our federal
statutory income tax rate due to a reduction in current year earnings, which
caused permanent adjustments to have a greater impact on the overall effective
income tax rate, and the revaluation of deferred income tax assets associated
with decreases in the state income tax rates for
New York
and
Indiana
. The
effective income tax rate for 2013 was lower than our federal statutory income
tax rate due to beneficial permanent differences for our domestic operations and
tax benefit related to the impairment charge recognized on our investment in a
forged roll joint venture company.
Equity losses in the Chinese joint venture represent Union Electric Steel's share (49%) of the losses of UES-MG and, for 2013, the impairment charge we recognized on our investment in the joint venture company (see Note 2 to Consolidated Financial Statements).
As a result of the above, for 2015, we earned $1,373, or $0.13 per common share,
which includes an after-tax credit of $5,088, or $0.49 per common share, for the
net benefit of proceeds received from insurance carriers in rehabilitation
offset by acquisition-related costs and curtailment charges. For 2014, we lost
$1,187, or $0.11 per common share, which includes an after-tax charge of $2,916,
or $0.28 per common share, for estimated costs of asbestos-related litigation
through 2024 net of estimated insurance recoveries. For 2013, we earned $12,437,
or $1.20 per common share, which includes an after-tax credit of $10,621, or
$1.03 per common share, for estimated additional insurance recoveries expected
to be available to satisfy asbestos liabilities through 2022 resulting from
settlement agreements reached with various insurance carriers offset by an
after-tax charge of $4,165, or $0.40 per common share, to recognize an
other-than-temporary impairment of our investment in a forged roll joint venture
company for a net increase to net income of $6,456, or $0.63 per common share.
Forged and Cast Engineered Products
2015 2014 2013
Net sales $ 152,267 $ 179,388 $ 187,286
Operating (loss) income $ (3,444 ) $ 4,380 $ 13,936
Backlog $ 106,582 $ 131,118 $ 159,344
For 2015, net sales continued to decline primarily as a result of an ongoing
decrease in the volume of traditional roll shipments (approximately $56,000 over
the two year period) partially offset by an increase in shipments of other
forging products (approximately $21,000 over the two year period).
The decrease in the volume of shipments impacted operating results by $4,800 and
$3,000 for 2015 and 2014, respectively. Weaker margins and an under-recovery of
costs resulting from lower production levels further affected earnings by
approximately $7,200 and $4,500 for the same periods. Lower freight and
commission costs offset the impact by approximately $1,100 and $1,850 for 2015
and 2014, respectively. Additionally, collection of accounts receivable written
off in the previous year of approximately $750 and centralization of back office
functions, which transferred approximately $1,400 of employee-related costs from
the segment to
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Corporate, also benefited earnings in 2015 versus 2014. Operating income for
2013 includes receipt of $1,500 of insurance proceeds for lost margin on rolls
damaged in an earlier year and a reduction of warranty-related provisions as a
result of improved quality.
The weighted-average exchange rate used to translate sales of our
U.K.
operations from the British pound to the
U.S.
dollar for 2014 was higher than
the rate for 2015 and 2013. As a result, 2014 sales were more than 2015 and 2013
by approximately $4,000 and $2,900, respectively. The impact from the change in
the weighted-average exchange rates to operating income was not significant.
Backlog at the end of 2015 decreased from earlier years due to a combination of
lower demand from roll customers who continue to operate below capacity causing
shipments to outpace new orders, larger customers placing orders quarter by
quarter versus annually, and the strong
U.S.
dollar and British pound against
major international currencies, especially the euro. As of December 31, 2015,
approximately $26,346 of the backlog is expected to be released after 2016.
Air and Liquid Processing
2015 2014 2013
Net sales $ 86,213 $ 93,470 $ 93,764
Operating income $ 23,166 $ 4,222 $ 24,945
Backlog $ 35,243 $ 36,830 $ 38,117
For 2015, net sales for the segment decreased approximately 8% when compared to
2014 and 2013. The most significant impact came from the sale of heat exchange
coils which fell by approximately 23% over the two year period due to a lower
volume of shipments to the fossil-fueled utility and industrial markets which
are being impacted by reduced demand and increased competition. Net sales of air
handling units and pumps were comparable between the periods.
Operating income fluctuated between the periods primarily as a result of
asbestos-related items. For 2015, operating income includes $14,333 of proceeds
received from two insurance carriers in rehabilitation which, because of their
potential insolvency, were not included in the insurance receivable previously
recorded. By comparison, operating income for 2014 includes a pre-tax charge of
$4,487 for estimated costs of asbestos-related litigation through 2024 net of
estimated insurance recoveries and, for 2013, a pre-tax credit of $16,340 for
the estimated additional insurance recoveries expected to be available to
satisfy asbestos liabilities through 2022 resulting from settlement agreements
reached with various insurance carriers during the year. Despite lower sales for
the segment in 2015, operating income benefited from a better product mix, cost
containment and centralization of back office functions which transferred
approximately $200 of employee-related costs from the segment to Corporate.
Backlog at the end of 2015 declined from the previous two years due to a
fall-off in orders for heat exchange coils primarily for the fossil-fueled
utility and industrial markets. Although still less than two years ago, backlog
for air handling units and pumps improved during the current year helping to
offset the shortfall for coils. The majority of the year-end backlog is
scheduled to ship in 2016.
LIQUIDITY AND CAPITAL RESOURCES
Net cash flows provided by operating activities for 2015 equaled $20,505
compared to $19,975 and $37,774 for 2014 and 2013, respectively. In 2015, we
received asbestos-related proceeds of $14,333 from two insurance carriers in
rehabilitation. In 2014 and 2013, we adjusted our asbestos-related liabilities
and/or receivables which resulted in an additional charge (credit) for asbestos
litigation being recognized. While the additional charge (credit) impacted
earnings, it did not affect cash flows by the same amount. Instead, the asbestos
liability, net of insurance recoveries, will be paid over a number of years and
will generate tax benefits. Net asbestos-related payments, including
reimbursement of past costs, equaled $3,971, $3,642 and $(985) in 2015, 2014 and
2013, respectively, and are expected to approximate $4,000 in 2016.
Contributions to our pension and other postretirement plans approximated $2,600
in 2015, $2,500 in 2014 and $7,400 in 2013 (of which $5,000 were voluntary
contributions). As a result of voluntary contributions and relief provided by
Moving Ahead for Progress in the 21st Century ("MAP-21") and subsequently the
Highway and Transportation Funding Act of 2014 ("HAFTA"), which reduces funding
requirements for single-employer defined benefit plans, no minimum contributions
are required for 2016. Additional voluntary contributions may be made however.
Net cash flows provided by operating activities for 2015 benefitted from a
decrease in accounts receivable attributable to lower sales in the fourth
quarter of 2015 versus the fourth quarter of 2014 offset by an increase in days
sales outstanding attributable to the mix of customers, slower payments by
customers, and longer payment terms granted to customers.
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Net cash flows used in investing activities were $14,299, $13,219 and $11,926 in
2015, 2014 and 2013, respectively, the majority of which represents capital
expenditures for our Forged and Cast Engineered Products group and purchase of
AUP for approximately $5,000. As of December 31, 2015, anticipated future
capital expenditures approximate $9,341, the majority of which will be spent in
2016.
Net cash outflows from financing activities represent primarily the payment of
dividends of $0.72 per common share. Additionally, stock options were exercised
in 2014 and 2013 resulting in proceeds from the issuance of common stock and
excess tax benefits.
The effect of exchange rate changes on cash and cash equivalents is primarily attributable to the fluctuation of the British pound against the
U.S.
dollar.
As a result of the above, cash and cash equivalents decreased by $1,976 in 2015
and ended the year at $95,122 (of which $10,785 is held by foreign operations)
in comparison to $97,098 and $97,910 at December 31, 2014 and 2013,
respectively. Repatriation of foreign funds may result in the Corporation
accruing and paying additional income tax; however, the majority of foreign
funds is currently deemed to be permanently reinvested and no additional
provision for income tax has been made. Funds on hand and funds generated from
future operations are expected to be sufficient to finance our operational and
capital expenditure requirements. We also maintain short-term lines of credit in
excess of the cash needs of our businesses which had availability at
December 31, 2015 of approximately $8,100 (including £2,500 in the
United Kingdom
and €400 in
Belgium
).
We had the following contractual obligations outstanding as of December 31,
2015:
Payments Due by Period
Total <1 year 1-3 years 3-5 years >5 years Other
Industrial Revenue Bonds(1) $ 13,311 $ 0 $ 0 $ 4,120 $ 9,191 $ 0
Operating Lease Obligations 2,623 581 760 472 810 0
Capital Expenditures 9,341 9,341 0 0 0 0
Pension and Other Postretirement
Benefit Obligations(2) 50,873 2,647 10,889 19,968 17,369 0
Purchase Obligations(3) 4,554 3,605 949 0 0 0
Unrecognized Tax Benefits(4) 315 0 0 0 0 315
Total $ 81,017 $ 16,174 $ 12,598 $ 24,560 $ 27,370 $ 315
(1) Represents principal only. Interest is not included since it is variable;
interest rates averaged less than 1% in the current year. The Industrial
Revenue Bonds begin to mature in 2020; however, if the bonds are unable to
be remarketed they will be refinanced under a separate facility. See Note 6
to Consolidated Financial Statements.
(2) Represents estimated contributions to our pension and other postretirement
plans. Actual required contributions are contingent on a number of variables
including future investment performance of the plans' assets and may differ
from these estimates. Contributions to the
U.S.
defined benefit plan are
based on the projected funded status of the plan including anticipated
normal costs, amortization of unfunded liabilities and an 8% expected return
on plan assets. A significant portion of the
U.S.
defined benefit plan was
frozen as of December 31, 2015. With respect to the
U.K.
defined benefit
plan, the Trustees and UES-
UK
have agreed to a recovery plan that estimates
the amount of employer contributions, based on
U.K.
regulations, necessary
to eliminate the funding deficit of the plan over an agreed period. See Note
7 to Consolidated Financial Statements.
(3) Represents primarily commitments by one of our Forged and Cast Engineered
Products subsidiaries for the purchase of natural gas through 2017 covering
approximately 49% of anticipated needs. See Note 11 to Consolidated
Financial Statements.
(4) Represents uncertain tax positions. Amount included as "Other" represents
portion for which the period of cash settlement cannot be reasonably
estimated. See Note 13 to Consolidated Financial Statements.
With respect to environmental matters, we are currently performing certain
remedial actions in connection with the sale of real estate previously owned.
Environmental exposures are difficult to assess and estimate for numerous
reasons including lack of reliable data, the multiplicity of possible solutions,
the years of remedial and monitoring activity required and the identification of
new sites. However, we believe the potential liability for all environmental
proceedings of approximately $300 accrued at December 31, 2015 is considered
adequate based on information known to date (see Note 18 to Consolidated
Financial Statements).
The nature and scope of our business brings us into regular contact with a
variety of persons, businesses and government agencies in the ordinary course of
business. Consequently, we and certain of our subsidiaries from time to time are
named in various legal actions. Generally, we do not anticipate that our
financial condition or liquidity will be materially affected by the costs of
known, pending or
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threatened litigation. However, claims have been asserted, principally against
Air and Liquid, alleging personal injury from exposure to asbestos-containing
components historically used in some products and there can be no assurance that
future claims will not present significantly greater and longer lasting
financial exposure than presently contemplated (see Note 17 to Consolidated
Financial Statements).
OFF-BALANCE SHEET ARRANGEMENTS
Our off-balance sheet arrangements include operating leases, capital
expenditures and purchase obligations disclosed in the contractual obligations
table and the letters of credit unrelated to the Industrial Revenue Bonds as
discussed in Note 8 to the Consolidated Financial Statements.
EFFECTS OF INFLATION
While inflationary and market pressures on costs are likely to be experienced,
it is anticipated that ongoing improvements in manufacturing efficiencies and
cost savings efforts will mitigate the effects of inflation on 2016 operating
results. The ability to pass on increases in the price of commodities to the
customer is contingent upon current market conditions with us potentially having
to absorb some portion to all of the increase. Product pricing for the Forged
and Cast Engineered Products segment is reflective of current costs with a
majority of orders subject to a variable-index surcharge program which helps to
protect the segment and its customers against the volatility in the cost of
certain raw materials. Additionally, long-term labor agreements exist at each of
the key locations (see Note 8 to Consolidated Financial Statements). Finally,
commitments have been executed for natural gas usage and certain commodities
(copper and aluminum) to cover a portion of orders in the backlog (see Note 11
to Consolidated Financial Statements).
APPLICATION OF CRITICAL ACCOUNTING POLICIES
We have identified critical accounting policies that are important to the presentation of our financial condition, changes in financial condition and results of operations and involve the most complex or subjective assessments. Critical accounting policies relate to accounting for pension and other postretirement benefits, assessing recoverability of long-lived assets, litigation and income taxes.
Accounting for pension and other postretirement benefits involves estimating the
cost of benefits to be provided well into the future and attributing that cost
over the time period each employee works. To accomplish this, input from our
actuary is evaluated and extensive use is made of assumptions about inflation,
long-term rate of return on plan assets, longevity, rates of increases in
compensation, employee turnover and discount rates. The curtailment of the
U.S.
defined benefit plan in 2015 will help to mitigate the volatility in net
periodic pension cost resulting from changes in these assumptions to a certain
extent.
The expected long-term rate of return on plan assets is an estimate of average
rates of earnings expected to be earned on funds invested or to be invested to
provide for the benefits included in the projected benefit obligation. Since
these benefits will be paid over many years, the expected long-term rate of
return is reflective of current investment returns and investment returns over a
longer period. Also, consideration is given to target and actual asset
allocations, inflation and real risk-free return. We believe the expected
long-term rate of return of 8% for our domestic plan and 5.40% for our foreign
plan to be reasonable. Actual returns on plan assets for 2015 and 2014,
respectively, approximated (2.27)% and 6.93% for our domestic plan and 3.43% and
12.40% for our foreign plan. Because of deteriorating conditions in the
financial markets during 2015, with both the Dow and S&P 500 reporting their
worst years since the markets collapsed in 2008, we do not believe current
investment returns to be indicative of future returns.
The discount rates used in determining future pension obligations and other
postretirement benefits for each of our plans are based on rates of return for
high-quality fixed-income investments currently available and expected to be
available during the period to maturity of pension and other postretirement
benefits. High-quality fixed-income investments are defined as those investments
which have received one of the two highest ratings given by a recognized rating
agency with maturities of 10+ years. We believe the assumed discount rates of
4.40% for our domestic plan, 4.20% for our other postretirement benefits plan
and 3.65% for our foreign plan as of December 31, 2015 to be reasonable.
We believe that the amounts recorded in the accompanying consolidated financial
statements related to pension and other postretirement benefits are based on
appropriate assumptions although actual outcomes could differ. A percentage
point decrease in the expected long-term rate of return would increase annual
pension expense by approximately $1,900. A 1/4 percentage point decrease in the
discount rate would increase projected and accumulated benefit obligations by
approximately $10,000. Conversely, an increase in the expected long-term rate of
return would decrease annual pension expense and an increase in the discount
rate would
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decrease projected and accumulated benefit obligations. The actual increase in
the discount rates at December 31, 2015 from December 31, 2014 (from 4.10% to
4.40% for our domestic plans, 4.00% to 4.20% for our other postretirement
benefits plan and 3.50% to 3.65% for our foreign plan) decreased projected and
accumulated benefit obligations and increased the funded status of the plans by
approximately $11,000 as of December 31, 2015. See Note 7 to Consolidated
Financial Statements.
Property, plant and equipment are reviewed for recoverability whenever events or
circumstances indicate the carrying amount of the long-lived assets may not be
recoverable. If the undiscounted cash flows generated from the use and eventual
disposition of the assets are less than their carrying value, then the asset
value may not be fully recoverable potentially resulting in a write-down of the
asset value. Estimates of future cash flows are based on expected market
conditions over the remaining useful life of the primary asset(s). Accordingly,
assumptions are made about pricing, volume and asset-resale values. Actual
results may differ from these assumptions.
We believe the amounts recorded in the accompanying consolidated financial statements for property, plant and equipment are recoverable and are not impaired as of December 31, 2015.
Litigation and loss contingency accruals are made when it is determined that it
is probable that a liability has been incurred and the amount can be reasonably
estimated. Specifically, we and certain of our subsidiaries are involved in
various claims and lawsuits incidental to their businesses. In addition, claims
have been asserted, principally against Air and Liquid, alleging personal injury
from exposure to asbestos-containing components historically used in some
products manufactured by certain companies which now operate as divisions of
Air & Liquid Systems. To assist us in determining whether an estimate could be
made of the potential liability for pending and unasserted future claims for
Asbestos Liability along with applicable insurance coverage, and the amounts of
any estimates, we hire a nationally-recognized asbestos-liability expert and
insurance consultant. Based on their analyses, reserves for probable and
reasonably estimable costs of Asbestos Liabilities including defense costs and
receivables for the insurance recoveries that are deemed probable are
established. These amounts rely on assumptions which are based on currently
known facts and strategy.
In 2014, we undertook a review of Asbestos Liability claims, defense costs and
the likelihood for insurance recoveries. Key variables in these assumptions are
summarized in Note 17 to the Consolidated Financial Statements and include the
number and type of new claims to be filed each year, the average cost of
disposing of each new claim, average annual defense costs, the resolution of
coverage issues with insurance carriers, and the solvency risk with respect to
the relevant insurance carriers. Other factors that may affect the Asbestos
Liability and our ability to recover under our insurance policies include
uncertainties surrounding the litigation process from jurisdiction to
jurisdiction and from case to case, reforms that may be made by state and
federal courts, and the passage of state or federal tort reform legislation.
Actual expenses or insurance recoveries could be significantly higher or lower
than those recorded if assumptions used in the calculations vary significantly
from actual results.
We intend to evaluate the estimated Asbestos Liability and related insurance
receivables as well as the underlying assumptions on a regular basis to
determine whether any adjustments to the estimates are required. Due to the
uncertainties surrounding asbestos litigation and insurance, these regular
reviews may result in the incurrence of future charges; however, we are
currently unable to estimate such future charges. Adjustments, if any, to our
estimate of recorded Asbestos Liability and/or insurance receivables could be
material to our operating results for the periods in which the adjustments to
the liability or receivable are recorded, and to our liquidity and consolidated
financial position.
Accounting for income taxes includes our evaluation of the underlying accounts,
permanent and temporary differences, our tax filing positions and
interpretations of existing tax law. A valuation allowance is recorded against
deferred income tax assets to reduce them to the amount that is "more likely
than not" to be realized. In doing so, assumptions are made about the future
profitability of our operations and the nature of that profitability. Actual
results may differ from these assumptions. If we determined we would not be able
to realize all or part of the deferred income tax assets in the future, an
adjustment to the valuation allowance would be established resulting in a charge
to net income (loss). Likewise, if we determined we would be able to realize
deferred income tax assets in excess of the net amount recorded, we would
release a portion of the existing valuation allowance resulting in a credit to
net income (loss). As of December 31, 2015, we have net deferred income tax
assets approximating $20,569.
We do not recognize a tax benefit in the financial statements related to a tax
position taken or expected to be taken in a tax return unless it is "more likely
than not" that the tax authorities will sustain the tax position solely on the
basis of the position's technical merits. Consideration is given primarily to
legislation and statutes, legislative intent, regulations, rulings and case law
as well as their applicability to the facts and circumstances of the tax
position when assessing the sustainability of the tax position. In the event a
tax
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position no longer meets the "more likely than not" criteria, we would reverse
the tax benefit by recognizing a liability and recording a charge to earnings.
Conversely, if we subsequently determined that a tax position meets the "more
likely than not" criteria, we would recognize the tax benefit by reducing the
liability and recording a credit to earnings. As of December 31, 2015, based on
information known to date, we believe the amount of unrecognized tax benefits of
$315 for tax positions taken or expected to be taken in a tax return which may
be challenged by the tax authorities is adequate.
See Note 13 to the Consolidated Financial Statements.
RECENTLY IMPLEMENTED ACCOUNTING PRONOUNCEMENTS
In November 2015, the Financial Accounting Standards Board (FASB) issued ASU
2015-17, Balance Sheet Classification of Deferred Taxes, which requires deferred
income tax liabilities and assets be classified as noncurrent in the balance
sheet. The guidance becomes effective January 1, 2017; however, early adoption
is permitted. Accordingly, we adopted the provisions of ASU 2015-17 as of
December 31, 2015, which resulted in a reclassification of deferred income tax
assets of $5,477 from current to noncurrent in our December 31, 2014
consolidated balance sheet.
RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers,
which provides a common revenue standard for
U.S.
GAAP and IFRS. The guidance
establishes principles for reporting information about the nature, amount,
timing and uncertainty of revenue and cash flows arising from a company's
contracts with customers. It requires companies to apply a five-step model when
recognizing revenue relating to the transfer of goods or services to customers
in an amount that reflects the consideration that the company expects to be
entitled to receive for those goods and services. It also requires comprehensive
disclosures regarding revenue recognition. The guidance becomes effective
January 1, 2018. We are currently evaluating the impact the guidance will have
on our financial position, operating results and liquidity.
In July 2015, the FASB issued ASU 2015-11, Simplifying the Measurement of
Inventory, which revises the measurement of inventory at the lower of cost or
market. Currently, market could be replacement cost, net realizable value, or
net realizable value less an approximately normal profit margin. In accordance
with ASU 2015-11, an entity will measure inventory at the lower of cost and net
realizable value which is defined as the estimated selling price in the ordinary
course of business less reasonably predictable costs of completion, disposal and
transportation. The amendment does not apply to inventory that is measured using
last-in, first out (LIFO). The guidance becomes effective January 1, 2017 with
earlier application permitted. We do not expect the guidance will have a
significant impact on our financial position, operating results and liquidity.
In February 2016, the FASB issued ASU 2016-02, Leases, which requires lessees to
recognize assets and liabilities on the balance sheet for the rights and
obligations created by all leases with a term of more than one year. Accounting
by lessors will remain similar to existing generally accepted accounting
principles. The guidance becomes effective January 1, 2019. We are currently
evaluating the impact the guidance will have on our financial position,
operating results and liquidity.
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