NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Basis of Presentation
The accompanying unaudited, condensed consolidated financial statements have been prepared according to the rules and regulations of the United States (the "U.S.") Securities and Exchange Commission (“SEC”) and, in the opinion of management, reflect all adjustments necessary for a fair statement of the consolidated balance sheets, consolidated statements of income, consolidated statements of comprehensive income and consolidated statements of cash flows of CIRCOR International, Inc. (“CIRCOR”, the “Company”, “us”, “we” or “our”) for the periods presented. We prepare our interim financial information using the same accounting principles we use for our annual audited consolidated financial statements. Certain information and note disclosures normally included in the annual audited consolidated financial statements have been condensed or omitted in accordance with prescribed SEC rules. We believe that the disclosures made in our condensed consolidated financial statements and the accompanying notes are adequate to make the information presented not misleading.
The consolidated balance sheet at December 31, 2016 is as reported in our audited consolidated financial statements as of that date. Our accounting policies are described in the notes to our December 31, 2016 consolidated financial statements, which were included in our Annual Report filed on Form 10-K for the year ended December 31, 2016. We recommend that the financial statements included in our Quarterly Report on Form 10-Q be read in conjunction with the consolidated financial statements and notes included in our Annual Report filed on Form 10-K for the year ended December 31, 2016.
We operate and report financial information using a 52-week fiscal year ending December 31. The data periods contained within our Quarterly Reports on Form 10-Q reflect the results of operations for the 13-week, 26-week and 39-week periods which generally end on the Sunday nearest the calendar quarter-end date. Operating results for the
three
months ended
April 2, 2017
are not necessarily indicative of the results that may be expected for the year ending
December 31, 2017
.
(2) Summary of Significant Accounting Policies
The significant accounting policies used in preparation of these condensed consolidated financial statements for the
three
months ended
April 2, 2017
are consistent with those discussed in Note 2 to the consolidated financial statements in our Annual Report on Form 10-K for the year ended December 31, 2016.
New Accounting Standards - Not yet Adopted
In March 2017, the Financial Accounting Standards Board ("FASB") issued Accounting Standard Update ("ASU") 2017-07, Compensation—Retirement Benefits (Topic 715), which improves the consistency, transparency, and usefulness of the service cost and net benefit cost financial information components. The amendments in this ASU amends presentation requirements of service cost and other components of net benefit cost in the income statement. In addition, the ASU allows only the service cost component of net benefit cost to be eligible for capitalization. The amendments in this ASU are effective for public business entities for annual periods beginning after December 15, 2017, including interim periods within those annual periods. We are currently evaluating the requirements of ASU 2017-07 and have not yet determined its impact on our consolidated financial statements.
In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, which amends the presentation for statement of cash flows. The new guidance requires amounts generally included within the cash flow as restricted cash and restricted cash equivalents to be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown on the statement of cash flows. The ASU is effective for reporting periods beginning after December 15, 2017, and interim periods within those fiscal years. The adoption of the new accounting guidance is not expected to have a material impact on our consolidated financial statements.
In October 2016, the FASB issued ASU 2016-16, Income Taxes: Intra-Entity Transfers of Assets Other than Inventory, which amends the accounting for income taxes. The new guidance requires the recognition of the income tax consequences of an intra-entity asset transfer, other than transfers of inventory, when the transfer occurs. For intra-entity transfers of inventory, the income tax effects will continue to be deferred until the inventory has been sold to a third party. The ASU is effective for reporting periods beginning after December 15, 2017, with early adoption permitted. The new guidance is required to be applied on a modified retrospective basis through a cumulative-effect adjustment directly to retained earnings as of the beginning of the period of adoption. The adoption of the new accounting guidance is not expected to have a material impact on our consolidated financial statements.
In August 2016, FASB issued ASU 2016-15, Classification of Certain Cash Receipts and Cash Payments. ASU 2016-15 reduces the existing diversity in practice in how certain cash receipts and cash payments are presented and classified in the statement of cash flows under Topic 230, Statement of Cash Flows, and other Topics. This ASU addresses eight specific cash flow issues with the objective of enhancing consistency in presentation and classification. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted, including adoption in an interim period. The adoption of the new accounting guidance is not expected to have a material impact on our consolidated financial statements.
In March 2016, the FASB issued ASU 2016-02, Leases. ASU 2016-02 outlines a model for lessees by recognizing all lease-related assets and liabilities on the balance sheet. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018 and interim periods within those fiscal years. Early application is permitted for all entities. ASU 2016-02 requires a modified retrospective approach for all leases existing at, or entered into after, the date of initial application, with an option to elect to use certain transition relief. We are still evaluating the requirements of ASU 2016-02 to determine the impact it will have on our consolidated financial statements but expect the standard to have a material impact on our assets and liabilities for the addition of right-of-use assets with corresponding lease liabilities.
In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers. ASU 2014-09 provides for a single comprehensive model to use in accounting for revenue arising from contracts with customers and will replace most existing revenue recognition guidance in Generally Accepted Accounting Principles ("GAAP") when it becomes effective. ASU 2014-09 is effective for fiscal years and interim periods within those years beginning after December 15, 2017. ASU 2014-09 allows for adoption either retrospectively to each prior reporting period presented or retrospectively with the cumulative effect of initially applying the ASU recognized as an adjustment to the opening balance of retained earnings at the date of initial application. In March, April, May and December 2016, the FASB issued additional updates to the new revenue standard relating to reporting revenue on a gross versus net basis, identifying performance obligations and licensing arrangements, narrow-scope improvements and practical expedients, and technical corrections and improvements, respectively.
We've established a cross-functional implementation team including representatives from general management, sales, legal, and finance. We are deploying a detailed approach to analyze the impact of the standard on our contract portfolio by comparing our current accounting policies and practices to identify potential differences that would result from applying the new standard. In addition, we will identify and implement appropriate changes to our business processes, systems and controls to support recognition and disclosure under the new standard. Based on our current evaluation, we will adopt this new standard on January 1, 2018 and are currently evaluating the adoption method. Our final adoption determination will depend on a number of factors, such as the significance of the impact of the new standard on our financial results, system readiness, and our ability to accumulate and analyze the information necessary to assess the impact on prior period financial statement.
New Accounting Standards - Adopted
In January 2017, the FASB issued ASU No. 2017-04, “Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment.” This ASU simplifies the subsequent measurement of goodwill and eliminates Step 2 from the goodwill impairment test. Per ASU No. 2017-04, the annual, or interim, goodwill impairment test is performed by comparing the fair value of a reporting unit with its carrying amount, and an impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value; however, the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. In addition, income tax effects from any tax deductible goodwill on the carrying amount of the reporting unit should be considered when measuring the goodwill impairment loss, if applicable. The amendments also eliminate the requirements for any reporting unit with a zero or negative carrying amount to perform a qualitative assessment and, if it fails that qualitative test, to perform Step 2 of the goodwill impairment test. An entity still has the option to perform the qualitative assessment for a reporting unit to determine if the quantitative impairment test is necessary. The amendments are to be applied on a prospective basis. We elected to adopt this standard during the first quarter of fiscal 2017; the adoption did not have a material effect on our condensed consolidated financial statements or related disclosures.
In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting. This update involves several aspects related to accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The amendments in this ASU are effective for the Company for all annual and interim periods beginning after December 15, 2016. The update resulted in the following changes to our financial statements:
|
|
•
|
The tax benefit or deficiency is classified and presented as a cash flow to/from operating activities. It was previously required to be presented as a cash flow to/from financing activities on the consolidated statement of cash flows. As
|
permitted in the standard, the Company has elected to adopt this reclassification on a prospective basis and therefore prior fiscal years for the consolidated statement of cash flows have not been adjusted for this provision.
|
|
•
|
In the diluted net earnings per share calculation, when applying the treasury stock method for shares that could be repurchased, the assumed proceeds no longer include the amount of any excess tax benefit. This did not have a material impact on the Company's diluted net earnings per share calculation.
|
|
|
•
|
All employee share-based payment transactions require recognition of the tax effects resulting from the settlement of stock-based awards as income tax expense or benefit in the income statement in the reporting period in which they occur. This did not have a material impact on the Company's diluted net earnings per share calculation.
|
|
|
•
|
We elected to account for forfeitures as they occur, rather than estimate expected forfeitures, which resulted in an immaterial increase in stock-based compensation for the three months ended April 2, 2017, and a cumulative-effect adjustment to retained earnings during the current period of
$0.6 million
.
|
In July 2015, the FASB issued ASU 2015-11, Inventory which more closely aligns the measurement of inventory in Generally Accepted Accounting Principles ("GAAP") with the measurement of inventory in International Financial Reporting Standards. The amendments in this update changes inventory measurement from the lower of cost or market to lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. ASU 2015-11 is effective for for the Company for all annual and interim periods beginning after December 15, 2016 and is required to be be applied prospectively for all periods presented. This update did not have a material impact on our consolidated financial statements.
(3) Inventories
Inventories consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
April 2, 2017
|
|
December 31, 2016
|
Raw materials
|
$
|
61,760
|
|
|
$
|
54,359
|
|
Work in process
|
64,283
|
|
|
68,718
|
|
Finished goods
|
21,872
|
|
|
26,507
|
|
Total inventories
|
$
|
147,915
|
|
|
$
|
149,584
|
|
(4) Business Acquisition
CFS Acquisition
On October 12, 2016, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) by and among the Company, Downstream Holding, LLC, a Delaware limited liability company which does business as Critical Flow Solutions (“Downstream” or “CFS”), Downstream Acquisition LLC, a Delaware limited liability company and subsidiary of the Company, and Sun Downstream, LP, a Delaware limited partnership, to acquire all of the outstanding units of Downstream.
The consideration payable by the Company pursuant to the terms of the Merger Agreement is
$195.0 million
, subject to (i) up to an additional
$15.0 million
payable pursuant to an earn-out relating to achievement of specified business performance targets by the acquired business in the twelve month period ended September 30, 2017, (ii) increase or decrease based on deviation, subject to certain limitations, from a working capital target, (iii) decrease for indebtedness and certain transaction expenses of CFS, (iv) increase for the amount of CFS cash as of the closing, and (v) a potential increase for certain transaction related tax benefits, net of certain adjustments, if and when realized by the Company. The total consideration paid at closing on October 13, 2016 was approximately
$198.0 million
in cash, net of cash acquired and including amounts paid at closing for estimated adjustments for CFS working capital, the repayment of CFS outstanding indebtedness and payment of certain transaction expenses. The Company funded the purchase price and payments at closing from borrowings under the Company’s existing credit agreement.
The estimated undiscounted range of outcomes for the contingent consideration will be in the range of
zero
to
$15.0 million
. If the minimum target is met,
$7.5 million
will be earned. The estimated fair value of the earn-out as of the acquisition date and as of December 31, 2016 was
$12.2 million
, based on a Monte Carlo simulation model. The Monte Carlo model calculates the probability of satisfying the target conditions stipulated in the award. Based on actual performance, the Company revised its forecasts during the three months ended April 2, 2017. Under the revised forecasts, the estimated fair value of the earn-out as of April 2, 2017 was
$9.7 million
. The change in fair value of
$2.5 million
was recorded within
special and restructuring (recoveries) charges, net as a gain during the the three months ended April 2, 2017. The Company will continue to assess the probability that the targets will be met by September 30, 2017 and at what level, and any subsequent changes in the estimated fair value of the liability will be reflected in earnings until the liability is fully settled.
During the first quarter of 2017, the Company received $
1.5
million as settlement for working capital adjustments. This reduction of purchase price was recorded as a reduction of goodwill.
The operating results of CFS have been included in our consolidated financial statements from the date of acquisition and reported within the Energy segment. The results for the quarter ended April 2, 2017 include
$22.5 million
of net revenue, and
$1.5 million
of operating income including
$1.2 million
of intangible amortization expense.
The purchase price allocation is based upon a preliminary valuation of assets and liabilities that was prepared with assistance from a third party valuation specialist. The estimates and assumptions, including for the contingent consideration, are subject to change as we obtain additional information during the measurement period (up to one year from the acquisition date). The purchase accounting is expected to be finalized in the third quarter of 2017. The assets and liabilities pending finalization include the valuation of acquired intangible assets, certain operating liabilities, and the evaluation of deferred income taxes. Differences between the preliminary and final valuation could have a material impact on our future results of operations and financial position.
The following table summarizes the preliminary fair value of the assets acquired and the liabilities assumed, at the date of acquisition:
|
|
|
|
|
(in thousands)
|
|
Cash and cash equivalents
|
$
|
6,603
|
|
Accounts receivable
|
28,128
|
|
Unbilled receivable
|
10,786
|
|
Inventory
|
18,701
|
|
Prepaid and other current assets
|
4,380
|
|
Property, plant and equipment
|
21,090
|
|
Identifiable intangible assets
|
101,600
|
|
Accounts payable
|
(11,655
|
)
|
Accrued and other expenses
|
(8,576
|
)
|
Deferred revenue
|
(3,997
|
)
|
Deferred income taxes
|
(42,660
|
)
|
Total identifiable net assets
|
$
|
124,400
|
|
Goodwill
|
91,634
|
|
Total purchase price
|
$
|
216,034
|
|
The fair value of accounts receivable acquired approximates the contractual value of
$28.1
million. The excess of purchase price paid over the fair value of CFS' net assets was recorded to goodwill, which is primarily attributable to projected future profitable growth, market penetration, as well as an expanded customer base for the Energy segment. Goodwill is not deductible for income tax purposes.
The CFS acquisition resulted in the identification of the following identifiable intangible assets:
|
|
|
|
|
|
|
|
Intangible assets acquired (in thousands)
|
|
Weighted average amortization period (in years)
|
Customer relationship
|
$
|
49,600
|
|
|
14
|
Existing technology
|
25,800
|
|
|
10
|
Trade name
|
24,100
|
|
|
Indefinite
|
Aftermarket backlog
|
2,100
|
|
|
1
|
Total intangible assets
|
$
|
101,600
|
|
|
|
The fair value of the intangible assets was based on variations of the income approach, which estimates fair value based on the present value of cash flows that the assets are expected to generate. These approaches included the relief-from-royalty method, incremental cash flow method, multi-period excess earnings method and direct cash flow method, depending on the intangible asset being valued. Customer relationships, aftermarket backlog, and existing technology are amortized on a cash flow basis which reflects the economic benefit consumed. The trade name was assigned an indefinite life based on the Company’s intention to keep the DeltaValve and TapcoEnpro names for an indefinite period of time. Refer to Note 5 for future expected amortization to be recorded.
(5) Goodwill and Intangibles, net
The following table shows goodwill by segment as of
April 2, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Consolidated
Total
|
Goodwill as of December 31, 2016
|
$
|
144,405
|
|
|
$
|
62,254
|
|
|
$
|
206,659
|
|
Business acquisition, working capital adjustments
|
(1,467
|
)
|
|
—
|
|
|
(1,467
|
)
|
Currency translation adjustments
|
499
|
|
|
1,104
|
|
|
1,603
|
|
Goodwill as of April 2, 2017
|
$
|
143,437
|
|
|
$
|
63,358
|
|
|
$
|
206,795
|
|
The table below presents gross intangible assets and the related accumulated amortization as of
April 2, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
Gross
Carrying
Amount
|
|
Accumulated
Amortization
|
Patents
|
$
|
5,399
|
|
|
$
|
(5,392
|
)
|
Non-amortized intangibles (primarily trademarks and trade names)
|
38,471
|
|
|
—
|
|
Customer relationships
|
100,488
|
|
|
(32,502
|
)
|
Order backlog
|
7,065
|
|
|
(6,600
|
)
|
Acquired technology
|
28,097
|
|
|
(2,335
|
)
|
Other
|
5,129
|
|
|
(4,481
|
)
|
Total
|
$
|
184,649
|
|
|
$
|
(51,310
|
)
|
Net carrying value of intangible assets
|
$
|
133,339
|
|
|
|
The table below presents estimated remaining amortization expense for intangible assets recorded as of
April 2, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Remainder of 2017
|
|
2018
|
|
2019
|
|
2020
|
|
2021
|
|
After 2021
|
Estimated amortization expense
|
$
|
9,310
|
|
|
$
|
10,837
|
|
|
$
|
10,731
|
|
|
$
|
9,401
|
|
|
$
|
7,983
|
|
|
$
|
46,606
|
|
(6) Segment Information
The following table presents certain reportable segment information (in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
April 2, 2017
|
|
April 3, 2016
|
Net revenues
|
|
|
|
Energy
|
80,135
|
|
|
83,409
|
|
Advanced Flow Solutions
|
65,073
|
|
|
67,389
|
|
Consolidated net revenues
|
$
|
145,208
|
|
|
$
|
150,798
|
|
|
|
|
|
Segment Income
|
|
|
|
Energy - Segment Operating Income
|
6,864
|
|
|
9,296
|
|
Advanced Flow Solutions - Segment Operating Income
|
7,711
|
|
|
8,452
|
|
Corporate expenses
|
(5,479
|
)
|
|
(6,488
|
)
|
Subtotal
|
9,096
|
|
|
11,260
|
|
Restructuring charges, net
|
1,458
|
|
|
1,163
|
|
Special (recoveries) charges, net
|
(2,268
|
)
|
|
776
|
|
Special and restructuring (recoveries) charges, net
|
(810
|
)
|
|
1,939
|
|
Restructuring related inventory charges
|
—
|
|
|
1,958
|
|
Acquisition amortization
|
2,552
|
|
|
1,868
|
|
Restructuring and other cost, net
|
2,552
|
|
|
3,826
|
|
Consolidated Operating Income
|
7,354
|
|
|
5,495
|
|
Interest Expense, net (a)
|
1,669
|
|
|
631
|
|
Other Expense (income), net (a)
|
225
|
|
|
(528
|
)
|
Income from continuing operations before income taxes
|
$
|
5,460
|
|
|
$
|
5,392
|
|
|
|
|
|
Capital expenditures
|
|
|
|
Energy
|
$
|
791
|
|
|
$
|
922
|
|
Advanced Flow Solutions
|
957
|
|
|
2,222
|
|
Corporate
|
484
|
|
|
106
|
|
Consolidated Capital expenditures
|
$
|
2,232
|
|
|
$
|
3,250
|
|
|
|
|
|
Depreciation and amortization
|
|
|
|
Energy
|
$
|
3,071
|
|
|
$
|
1,526
|
|
Advanced Flow Solutions
|
3,471
|
|
|
3,941
|
|
Corporate
|
348
|
|
|
325
|
|
Consolidated Depreciation and amortization
|
$
|
6,890
|
|
|
$
|
5,792
|
|
|
|
|
|
Identifiable assets
|
April 2, 2017
|
|
April 3, 2016
|
Energy
|
$
|
652,725
|
|
|
$
|
457,708
|
|
Advanced Flow Solutions
|
410,218
|
|
|
447,896
|
|
Corporate
|
(247,990
|
)
|
|
(234,507
|
)
|
Consolidated Identifiable assets
|
$
|
814,953
|
|
|
$
|
671,097
|
|
|
|
|
|
The total assets for each reportable segment have been reported as the Identifiable Assets for that segment, including inter-segment intercompany receivables, payables and investments in other CIRCOR companies. Identifiable assets reported in Corporate include both corporate assets, such as cash, deferred taxes, prepaid and other assets, fixed assets, as well as the elimination of all inter-segment intercompany assets. The elimination of intercompany assets results in negative amounts
reported in Corporate for Identifiable Assets. Corporate Identifiable Assets excluding intercompany assets were $
49.0 million
and $
44.3 million
as of
April 2, 2017
and
April 3, 2016
, respectively.
(7) Earnings Per Common Share ("EPS")
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(in thousands, except per share amounts)
|
Three Months Ended
|
|
April 2, 2017
|
|
April 3, 2016
|
|
Net
Income
|
|
Shares
|
|
Per Share
Amount
|
|
Net
Income
|
|
Shares
|
|
Per Share
Amount
|
Basic EPS
|
$
|
4,773
|
|
|
16,458
|
|
|
$
|
0.29
|
|
|
$
|
3,872
|
|
|
16,381
|
|
|
$
|
0.24
|
|
Dilutive securities, common stock options
|
—
|
|
|
233
|
|
|
—
|
|
|
—
|
|
|
100
|
|
|
(0.01
|
)
|
Diluted EPS
|
$
|
4,773
|
|
|
16,691
|
|
|
$
|
0.29
|
|
|
$
|
3,872
|
|
|
16,481
|
|
|
$
|
0.23
|
|
Stock options, Restricted Stock Unit Awards (“RSU Awards”) and Restricted Stock Unit Management Stock Plans ("RSU MSPs") covering
178,186
and
511,220
shares of common stock, for the
three
months ended
April 2, 2017
and
April 3, 2016
, respectively, were not included in the computation of diluted EPS because their effect would be anti-dilutive.
(8) Financial Instruments
Fair Value
The carrying amounts of cash and cash equivalents, trade receivables and trade payables approximate fair value because of the short maturity of these financial instruments. Cash equivalents are carried at cost which approximates fair value at the balance sheet date and are Level 1 financial instruments. As of
April 2, 2017
and December 31, 2016, the outstanding balance of the Company’s debt approximated its fair value based on current rates available to the Company for debt of the same maturity and is a Level 2 financial instrument.
Contingent consideration obligations are measured at fair value and are based on significant inputs not observable in the market, which represents a Level 3 measurement within the fair value hierarchy. The valuation of contingent consideration uses assumptions and estimates to forecast a range of outcomes and probabilities for the contingent consideration. Contingent consideration obligations are valued using a Monte Carlo simulation model. We assess these assumptions and estimates on a quarterly basis as additional data impacting the assumptions is obtained. Any changes in the fair value of contingent consideration related to updated assumptions and estimates will be recognized within the special and restructuring (recoveries) charges, net caption on our consolidated statements of income during the period in which the change occurs.
Our contingent consideration liability as of December 31, 2016 is related to the acquisition of CFS on October 12, 2016 which included an estimate of the contingent payment relating to achievement of specified business performance targets by the acquired business in the twelve month period ended September 30, 2017. The estimated fair value of the contingent consideration is
$9.7 million
as of April 2, 2017. See Note 4 for additional details related to the transaction.
Foreign Currency Contracts
The Company is exposed to certain risks relating to its ongoing business operations including foreign currency exchange rate risk and interest rate risk. The Company has used derivative instruments to manage foreign currency risk on certain business transactions denominated in foreign currencies. To the extent the underlying transactions hedged are completed, these forward contracts do not subject us to significant risk from exchange rate movements because they offset gains and losses on the related foreign currency denominated transactions. These forward contracts do not qualify as hedging instruments and, therefore, do not qualify for fair value or cash flow hedge treatment. Any gains and losses on our contracts are recognized as a component of other expense in our consolidated statements of income.
As of April 2, 2017 we had
no
forward contracts. As of December 31, 2016, we had
four
forward contracts. The fair value liability of the derivative forward contracts as of December 31, 2016 was
$0.1 million
and was included in accrued expenses and other current liabilities on our consolidated balance sheet. Our foreign currency forward contracts fall within Level 2 of the fair value hierarchy, in accordance with Accounting Standards Codification ("ASC") Topic 820.
(9) Guarantees and Indemnification Obligations
As permitted under Delaware law, we have agreements whereby we indemnify certain of our officers and directors for certain events or occurrences while the officer or director is, or was, serving at our request in such capacity. The term of the indemnification period is for the officer’s or director’s lifetime. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited. However, we have directors’ and officers’ liability insurance policies that insure us with respect to certain events covered under the policies and should enable us to recover a portion of any future amounts paid under the indemnification agreements. We have
no
liabilities recorded from those agreements as of
April 2, 2017
.
We record provisions for the estimated cost of product warranties, primarily from historical information, at the time product revenue is recognized. We also record provisions with respect to any significant individual warranty issues as they arise. While we engage in extensive product quality programs and processes, our warranty obligation is affected by product failure rates, utilization levels, material usage, service delivery costs incurred in correcting a product failure, and supplier warranties on parts delivered to us. Should actual product failure rates, utilization levels, material usage, service delivery costs or supplier warranties on parts differ from our estimates, revisions to the estimated warranty liability would be required.
The following table sets forth information related to our product warranty reserves for the
three
months ended
April 2, 2017
(in thousands):
|
|
|
|
|
Balance beginning December 31, 2016
|
$
|
4,559
|
|
Provisions
|
1,898
|
|
Claims settled
|
(1,818
|
)
|
Currency translation adjustment
|
39
|
|
Balance ending April 2, 2017
|
$
|
4,678
|
|
Warranty obligations increased
$0.1 million
from
$4.6 million
as of December 31, 2016 to
$4.7 million
as of
April 2, 2017
, primarily driven by provisions recorded within our Energy segment, partially offset by claims settled.
(10) Commitments and Contingencies
Asbestos-related product liability claims continue to be filed against two of our subsidiaries: Spence Engineering Company, Inc. (“Spence”), the stock of which we acquired in 1984; and CIRCOR Instrumentation Technologies, Inc. (f/k/a Hoke, Inc.) (“Hoke”), the stock of which we acquired in 1998. Due to the nature of the products supplied by these entities, the markets they serve and our historical experience in resolving these claims, we do not believe that these asbestos-related claims will have a material adverse effect on the financial condition, results of operations or liquidity of the Company.
We are subject to various legal proceedings and claims pertaining to matters such as product liability or contract disputes, including issues that may arise under certain customer contracts with aerospace and defense customers. We are also subject to other proceedings and governmental inquiries, inspections, audits or investigations pertaining to issues such as tax matters, patents and trademarks, pricing, business practices, governmental regulations, employment and other matters. Although the results of litigation and claims cannot be predicted with certainty, we believe that the ultimate disposition of these matters, to the extent not previously provided for, will not have a material adverse effect, individually or in the aggregate, on our business, financial condition, results of operations or liquidity.
Standby Letters of Credit
We execute standby letters of credit, which include bid bonds and performance bonds, in the normal course of business to ensure our performance or payments to third parties. The aggregate notional value of these instruments was
$39.1 million
at
April 2, 2017
. We believe that the likelihood of demand for a significant payment relating to the outstanding instruments is remote. These instruments generally have expiration dates ranging from less than
1 month
to
5 years
from
April 2, 2017
.
The following table contains information related to standby letters of credit instruments outstanding as of
April 2, 2017
(in thousands):
|
|
|
|
|
Term Remaining
|
Maximum Potential
Future Payments
|
0–12 months
|
$
|
8,137
|
|
Greater than 12 months
|
30,952
|
|
Total
|
$
|
39,089
|
|
(11) Retirement Plans
We maintain two benefit pension plans, a qualified noncontributory defined benefit plan and a nonqualified, noncontributory defined benefit supplemental plan that provides benefits to certain retired highly compensated officers and employees. To date, the supplemental plan remains an unfunded plan. These plans include significant pension benefit obligations which are calculated based on actuarial valuations. Key assumptions are made in determining these obligations and related expenses, including expected rates of return on plan assets and discount rates. Benefits are based primarily on years of service and employees’ compensation.
As of July 1, 2006, in connection with a revision to our retirement plan, we froze the pension benefits of our qualified noncontributory plan participants. Under the revised plan, such participants generally do not accrue any additional benefits under the defined benefit plan after July 1, 2006.
During the
three
months ended
April 2, 2017
, we made cash contributions of
$0.4 million
to our qualified noncontributory defined benefit pension plan. We expect to make cash contributions during the remainder of 2017 in the range of
$0.8 million
and
$1.2 million
. Additionally, substantially all of our U.S. employees are eligible to participate in a 401(k) savings plan. Under this plan, we match a specified percentage of employee contributions, and are able to make a discretionary core contribution, subject to certain limitations.
The components of net periodic cost (benefit) of defined benefit pension plans are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
April 2,
2017
|
|
April 3,
2016
|
Interest cost on benefits obligation
|
$
|
426
|
|
|
$
|
574
|
|
Estimated return on assets
|
(576
|
)
|
|
(664
|
)
|
Loss amortization
|
184
|
|
|
226
|
|
Net periodic cost of defined benefit pension plans
|
$
|
34
|
|
|
$
|
136
|
|
(12) Income Taxes
As of
April 2, 2017
and December 31, 2016, we had
$3.0 million
and
$3.0 million
of unrecognized tax benefits, respectively, of which
$2.9 million
and
$2.9 million
, respectively, would affect our effective tax rate if recognized in any future period.
The Company files income tax returns in the U.S. federal, state and local jurisdictions and in foreign jurisdictions. The Company is no longer subject to examination by the Internal Revenue Service (the "IRS") for years prior to
2013
and is no longer subject to examination by the tax authorities in foreign and state jurisdictions prior to
2006
. The Company is currently under examination for income tax filings in various foreign jurisdictions.
The Company has a net U.S. domestic deferred income tax asset and a net foreign deferred tax liability. Due to uncertainties related to our ability to utilize certain of these U.S. domestic deferred income tax assets, primarily consisting of state net operating losses and state tax credits carried forward, we maintained a total valuation allowance of
$2.9 million
at
April 2, 2017
and $
3.0 million
at December 31, 2016. The valuation allowance is based on estimates of income in each of the jurisdictions in which we operate and the period over which our deferred tax assets will be recoverable. If future results of operations exceed our current expectations, our existing tax valuation allowances may be adjusted, resulting in future tax benefits. Alternatively, if future results of operations are less than expected, future assessments may result in a determination that some or all of the deferred tax assets are not realizable. Consequently, we may need to establish additional tax valuation allowances for all or a portion of the deferred tax assets, which may have a material adverse effect on our business, results of operations and financial
condition. The Company has had a history of domestic and foreign income, is able to avail itself of federal tax carryback provisions, has future taxable temporary differences and projects future domestic and foreign income. We believe that after considering all of the available objective evidence, it is more likely than not that the results of future operations will generate sufficient income to realize the remaining net deferred income tax asset.
(13) Share-Based Compensation
As of
April 2, 2017
, there were
868,221
stock options and
231,309
RSU and RSU MSP Awards outstanding. In addition, there were
762,708
shares available for grant under the 2014 Stock Option and Incentive Plan (the "2014 Plan") as of
April 2, 2017
.
During the
three
months ended
April 2, 2017
, we granted
142,428
stock options compared with
210,633
stock options granted during the
three
months ended April 3,
2016
.
The average fair value of stock options granted during the first
three
months of
2017
and
2016
was
$19.36
and
$11.91
, respectively, and was estimated using the following weighted-average assumptions:
|
|
|
|
|
|
|
|
April 2, 2017
|
|
April 3, 2016
|
Risk-free interest rate
|
1.7
|
%
|
|
1.2
|
%
|
Expected life (years)
|
4.5
|
|
|
4.5
|
|
Expected stock volatility
|
35.1
|
%
|
|
36.2
|
%
|
Expected dividend yield
|
0.3
|
%
|
|
0.4
|
%
|
For additional information regarding the historical issuance of stock options, refer to our Form 10-K for the year ended December 31, 2016 filed with the SEC on February 21, 2017.
During the
three
months ended
April 2, 2017
and
April 3, 2016
, we granted
53,855
and
84,578
RSU Awards with approximate fair values of
$60.99
and
$38.89
per RSU Award, respectively. During the first
three
months of
2017
and
2016
, we granted performance-based RSUs as part of the overall mix of RSU Awards. These performance-based RSUs include metrics for achieving Return on Invested Capital and Adjusted Operating Margin with target payouts ranging from
0%
to
200%
. Of the
53,855
RSU Awards granted during the
three
months ended
April 2, 2017
,
31,369
are performance-based RSU Awards. This compares to
43,016
performance-based RSU Awards granted during the
three
months ended
April 3, 2016
.
RSU MSPs totaling
26,726
and
20,130
with per unit discount amounts representing fair values of
$20.13
and
$12.83
were granted during the
three
months ended
April 2, 2017
and
April 3, 2016
, respectively.
Compensation expense related to our share-based plans for the
three
months ended
April 2, 2017
and
April 3, 2016
was
$0.7 million
and
$1.5 million
, respectively. The primary reason for lower expense during
2017
relates to a change in estimate of
$0.7 million
for anticipated below-threshold achievement of performance-based RSUs granted in February 2015. Compensation expense for both periods was recorded as selling, general and administrative expenses. As of
April 2, 2017
, there was
$11.4 million
of total unrecognized compensation costs related to our outstanding share-based compensation arrangements. That cost is expected to be recognized over a weighted average period of
2.3
years.
The weighted average contractual term for stock options outstanding and options exercisable as of
April 2, 2017
was
6.0
years and
5.3
years, respectively. The aggregate intrinsic value of stock options exercised during the
three
months ended
April 2, 2017
was
$0.1 million
and the aggregate intrinsic value of stock options outstanding and options exercisable as of
April 2, 2017
was
$8.6 million
and
$4.9 million
, respectively.
The aggregate intrinsic value of RSU Awards settled during the
three
months ended
April 2, 2017
was
$1.5 million
and the aggregate intrinsic value of RSU Awards outstanding and RSU Awards vested and deferred as of
April 2, 2017
was
$9.4 million
and
$0.2 million
, respectively.
The aggregate intrinsic value of RSU MSPs settled during the
three
months ended
April 2, 2017
was
$0.3 million
and the aggregate intrinsic value of RSU MSPs outstanding as of
April 2, 2017
was
$1.8 million
. There were
no
vested and deferred RSU MSPs as of
April 2, 2017
.
As of
April 2, 2017
, there were
31,072
Cash Settled Stock Unit Awards outstanding compared to
33,320
as of December 31, 2016. During the
three
months ended
April 2, 2017
, the aggregate cash used to settle Cash Settled Stock Unit Awards was
$0.3
million
. As of
April 2, 2017
, we had
$0.8 million
of accrued expenses in current liabilities associated with these Cash Settled Stock Unit Awards compared with
$1.0 million
as of December 31, 2016. Cash Settled Stock Unit Awards related compensation (recoveries) / costs for the
three
months ended
April 2, 2017
and
April 3, 2016
was less than $
(0.1) million
and
$0.2 million
, respectively, and was recorded as selling, general, and administrative expenses.
(14) Accumulated Other Comprehensive Loss
The following table summarizes the changes in accumulated other comprehensive loss, net of tax, which is reported as a component of shareholders' equity, for the
three
months ended
April 2, 2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign Currency Translation Adjustments
|
|
Pension, net
|
|
Total
|
Balance as of December 31, 2016
|
$
|
(62,703
|
)
|
|
$
|
(13,558
|
)
|
|
$
|
(76,262
|
)
|
Other comprehensive income, net of tax
|
5,396
|
|
|
—
|
|
|
5,396
|
|
Balance as of April 2, 2017
|
$
|
(57,307
|
)
|
|
$
|
(13,558
|
)
|
|
$
|
(70,865
|
)
|
(15) Special & Restructuring (Recoveries) Charges, net
Special and Restructuring (Recoveries) Charges, net
Special and restructuring charges, net consist of restructuring costs (including costs to exit a product line or program) as well as certain special charges such as significant litigation settlements and other transactions (charges or recoveries) that are described below. All items described below are recorded in Special and restructuring (recoveries) charges, net on our consolidated statements of income. Certain other special and restructuring charges such as inventory related items may be recorded in cost of revenues given the nature of the item.
The table below (in thousands) summarizes the amounts recorded within the special and restructuring (recoveries) charges, net line item on the consolidated statements of income for the periods ending April 2, 2017 and April 3, 2016:
|
|
|
|
|
|
|
|
|
|
Special & Restructuring (Recoveries) Charges, net
|
|
For the quarter ended
|
|
April 2, 2017
|
|
April 3, 2016
|
Special (recoveries) charges, net
|
$
|
(2,268
|
)
|
|
$
|
776
|
|
Restructuring charges, net
|
1,458
|
|
|
1,163
|
|
Total special and restructuring (recoveries) charges, net
|
$
|
(810
|
)
|
|
$
|
1,939
|
|
Special (Recoveries) Charges, net
The table below (in thousands) outlines the special (recoveries) charges, net recorded for the three months ending April 2, 2017:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Special (Recoveries) Charges, net
|
|
For the quarter ended April 2, 2017
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Corporate
|
|
Total
|
Brazil closure
|
$
|
232
|
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
232
|
|
Contingent consideration revaluation
|
(2,500
|
)
|
|
—
|
|
|
—
|
|
|
(2,500
|
)
|
Total special recoveries, net
|
$
|
(2,268
|
)
|
|
$
|
—
|
|
|
$
|
—
|
|
|
$
|
(2,268
|
)
|
Brazil Closure: On November 3, 2015 the Board of Directors approved the closure and exit of our Brazil manufacturing
operations due to the economic realities in Brazil and the ongoing challenges with our only significant end customer, Petrobras.
CIRCOR Brazil reported substantial operating losses every year since it was acquired in 2011 while the underlying market
conditions and outlook deteriorated. In connection with the closure, we recorded
$0.2 million
of charges within the Energy segment during the three months ended April 2, 2017, which relates to losses incurred subsequent to our Q1 2016 closure of manufacturing operations. As of April 2, 2017, our remaining Brazil assets were
$1.8 million
of which
$0.9 million
relates to
assets held for sale,
$0.7 million
relates to cash, and
$0.2 million
relates to net third party accounts receivables. The Brazil assets held for sale as of April 2, 2017 are reported within the other current assets caption on our condensed consolidated balance sheet.
Contingent Consideration Revaluation: The fair value of the CFS earn-out decreased
$2.5 million
from
$12.2 million
as of December 31, 2016 to
$9.7 million
as of April 2, 2017. The change in fair value was recorded as a special gain during the three months ended April 2, 2017.
The table below (in thousands) outlines the special charges (recoveries), net recorded for the three months ending April 3, 2016:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Special Charges (Recoveries), net
|
|
For the quarter ended April 3, 2016
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Corporate
|
|
Total
|
Acquisition related recoveries
|
—
|
|
|
(113
|
)
|
|
—
|
|
|
(113
|
)
|
Brazil closure
|
887
|
|
|
—
|
|
|
2
|
|
|
889
|
|
Total special charges (recoveries), net
|
$
|
887
|
|
|
$
|
(113
|
)
|
|
$
|
2
|
|
|
$
|
776
|
|
Acquisition related charges: On April 15, 2015, we acquired Germany-based Schroedahl. In connection with our acquisition of Schroedahl, we recorded
$0.1 million
of recoveries of acquisition related professional fees during the three months ended April 3, 2016.
Brazil Closure: In connection with the closure, we recorded
$0.9 million
of charges within the Energy segment during the three months ended April 3, 2016, which primarily related to employee termination costs.
Restructuring Charges, net
The tables below (in thousands) outline the charges (or any recoveries) associated with restructuring actions recorded for the three months ending April 2, 2017 and April 3, 2016. A description of the restructuring actions is provided in the section titled "Restructuring Programs Summary" below.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restructuring Charges / (Recoveries)
|
|
As of and for the quarter ended April 2, 2017
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Corporate
|
|
Total
|
Facility related expenses
|
$
|
850
|
|
|
$
|
107
|
|
|
$
|
—
|
|
|
$
|
957
|
|
Employee related expenses
|
172
|
|
|
329
|
|
|
—
|
|
|
501
|
|
Total restructuring charges, net
|
$
|
1,022
|
|
|
$
|
436
|
|
|
$
|
—
|
|
|
$
|
1,458
|
|
|
|
|
|
|
|
|
|
Accrued restructuring charges as of December 31, 2016
|
|
|
|
|
|
|
$
|
1,618
|
|
Total year to date charges, net (shown above)
|
|
|
|
|
|
|
1,458
|
|
Charges paid / settled, net
|
|
|
|
|
|
|
(1,658
|
)
|
Accrued restructuring charges as of April 2, 2017
|
|
|
|
|
|
|
$
|
1,418
|
|
We expect to make payment or settle the majority of the restructuring charges accrued as of April 2, 2017 during the second quarter of 2017.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Restructuring Charges / (Recoveries)
|
|
As of and for the quarter ended April 3, 2016
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Corporate
|
|
Total
|
Facility related expenses (recoveries)
|
$
|
(376
|
)
|
|
$
|
1,400
|
|
|
$
|
—
|
|
|
$
|
1,024
|
|
Employee related expenses
|
98
|
|
|
41
|
|
|
—
|
|
|
139
|
|
Total restructuring charges, net
|
$
|
(278
|
)
|
|
$
|
1,441
|
|
|
$
|
—
|
|
|
$
|
1,163
|
|
|
|
|
|
|
|
|
|
Accrued restructuring charges as of December 31, 2015
|
|
|
|
|
|
|
$
|
663
|
|
Total year to date charges, net (shown above)
|
|
|
|
|
|
|
1,163
|
|
Charges paid / settled, net
|
|
|
|
|
|
|
(1,174
|
)
|
Accrued restructuring charges as of April 3, 2016
|
|
|
|
|
|
|
$
|
652
|
|
Restructuring Programs Summary
As specific restructuring programs are announced, the amounts associated with that particular action may be recorded in periods other than when announced to comply with the applicable accounting rules. For example, 2016 Action’s total cost may be recorded in 2016 and 2017. The amounts shown below reflect the total cost for that restructuring program.
During 2016, we initiated certain restructuring activities, under which we continued to simplify our business ("2016 Actions").
Under these restructurings, we reduced expenses, primarily through reductions in force and closing a number of smaller
facilities.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2016 Actions Restructuring Charges / (Recoveries), net as of April 2, 2017
|
|
Energy
|
|
Advanced Flow Solutions
|
|
Total
|
Facility related expenses - incurred to date
|
$
|
1,557
|
|
|
$
|
201
|
|
|
$
|
1,758
|
|
Employee related expenses - incurred to date
|
2,631
|
|
|
1,510
|
|
|
4,141
|
|
Total restructuring related special charges - incurred to date
|
$
|
4,188
|
|
|
$
|
1,711
|
|
|
$
|
5,899
|
|
In July 2015, we announced the closure of one of the two Corona, California manufacturing facilities ("California
Restructuring"). Under this restructuring, we are reducing certain general, manufacturing and facility related expenses. Charges with this action were finalized in the fourth quarter of 2016.
|
|
|
|
|
|
California Restructuring Charges, net as of April 2, 2017
|
|
Advanced Flow Solutions
|
Facility related expenses - incurred to date
|
$
|
3,700
|
|
Employee related expenses - incurred to date
|
800
|
|
Total restructuring related special charges - incurred to date
|
$
|
4,500
|
|
Additional Restructuring Charges
During the first quarter of 2016, we recorded restructuring related inventory charges of
$1.9 million
associated with the closure of manufacturing operations and the exit of the gate, globe and check valves product line in Brazil. As of April 2, 2017,
no
inventory amounts remain on our balance sheet for the gate, globe and check valves product line.
During the first quarter of 2016, in connection with the restructuring of certain structural landing gear product lines, we recorded inventory related charges of less than $
0.1 million
within the Advanced Flow Solutions segment. As of April 2, 2017, our remaining structural landing gear product line inventory balance is
$0.2 million
, which we believe is recoverable based upon our net realizable value analysis.