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Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For The Quarterly Period Ended September 30, 2020

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Transition Period from                            to                           

Commission File Number: 1-4639

 

CTS CORPORATION

(Exact name of registrant as specified in its charter)

 

 

IN

 

35-0225010

(State or other jurisdiction of

incorporation or organization)

 

(IRS Employer

Identification Number)

 

4925 Indiana Avenue

 

 

Lisle IL

 

60532

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code: (630) 577-8800

Securities registered pursuant to Section 12(b) of the Act:

 

Title of Each Class

 

Trading Symbol(s)

 

Name of Each Exchange on Which Registered

Common stock, without par value

 

CTS

 

New 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.    Yes  ☒    No    

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes     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.

 

Large accelerated filer

 

  

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

  

Smaller reporting company

 

 

 

 

 

 

 

 

Emerging growth company

 

 

 

 

 

 

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      No  

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of October 23, 2020: 32,267,951.

 

 

 

 


Table of Contents

 

CTS CORPORATION AND SUBSIDIARIES

TABLE OF CONTENTS

 

 

 

Page

 

 

 

PART I. FINANCIAL INFORMATION

 

 

 

 

 

 

 

 

 

Item 1.

 

Financial Statements

 

3

 

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Earnings (Unaudited) For the Three and Nine Months Ended September 30, 2020 and September 30, 2019

 

3

 

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Comprehensive Earnings (Unaudited) For the Three and Nine Months Ended September 30, 2020 and September 30, 2019

 

4

 

 

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets As of September 30, 2020 (Unaudited) and December 31, 2019

 

5

 

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows (Unaudited) For the Nine Months Ended September 30, 2020 and September 30, 2019

 

6

 

 

 

 

 

 

 

 

 

Condensed Consolidated Statements of Shareholder's Equity (Unaudited) For the Three and Nine Months Ended September 30, 2020 and September 30, 2019

 

7

 

 

 

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements ‑ (Unaudited)

 

9

 

 

 

 

 

 

 

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

29

 

 

 

 

 

 

 

Item 3.

 

Quantitative and Qualitative Disclosures about Market Risk

 

38

 

 

 

 

 

 

 

Item 4.

 

Controls and Procedures

 

38

 

 

 

 

 

 

PART II. OTHER INFORMATION

 

 

 

 

 

 

 

 

 

Item 1.

 

Legal Proceedings

 

40

 

 

 

 

 

 

 

Item 1A.

 

Risk Factors

 

40

 

 

 

 

 

 

 

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

40

 

 

 

 

 

 

 

Item 6.

 

Exhibits

 

41

 

 

 

 

 

 

SIGNATURES

 

42

 

 

2

 


Table of Contents

 

PART I - FINANCIAL INFORMATION

Item 1.   Financial Statements

CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS - UNAUDITED

(In thousands, except per share amounts)

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Net sales

 

$

113,777

 

 

$

115,651

 

 

$

301,049

 

 

$

353,959

 

Cost of goods sold

 

 

76,871

 

 

 

78,594

 

 

 

204,677

 

 

 

235,084

 

Gross Margin

 

 

36,906

 

 

 

37,057

 

 

 

96,372

 

 

 

118,875

 

Selling, general and administrative expenses

 

 

16,883

 

 

 

17,774

 

 

 

48,310

 

 

 

52,371

 

Research and development expenses

 

 

5,723

 

 

 

6,806

 

 

 

18,653

 

 

 

19,854

 

Restructuring charges

 

 

1,041

 

 

 

2,342

 

 

 

1,416

 

 

 

5,337

 

Loss (gain) on sale of assets

 

 

 

 

 

11

 

 

 

 

 

 

(111

)

Operating earnings

 

 

13,259

 

 

 

10,124

 

 

 

27,993

 

 

 

41,424

 

Other (expense) income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

 

(857

)

 

 

(812

)

 

 

(2,617

)

 

 

(1,745

)

Interest income

 

 

217

 

 

 

524

 

 

 

852

 

 

 

1,396

 

Other income (expense), net

 

 

1,617

 

 

 

(2,636

)

 

 

(109

)

 

 

(3,646

)

Total other income (expense), net

 

 

977

 

 

 

(2,924

)

 

 

(1,874

)

 

 

(3,995

)

Earnings before income taxes

 

 

14,236

 

 

 

7,200

 

 

 

26,119

 

 

 

37,429

 

Income tax expense

 

 

3,163

 

 

 

4,478

 

 

 

6,381

 

 

 

11,345

 

Net earnings

 

$

11,073

 

 

$

2,722

 

 

$

19,738

 

 

$

26,084

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

0.34

 

 

$

0.08

 

 

$

0.61

 

 

$

0.80

 

Diluted

 

$

0.34

 

 

$

0.08

 

 

$

0.61

 

 

$

0.79

 

Basic weighted – average common shares outstanding:

 

 

32,268

 

 

 

32,642

 

 

 

32,331

 

 

 

32,748

 

Effect of dilutive securities

 

 

241

 

 

 

425

 

 

 

270

 

 

 

417

 

Diluted weighted – average common shares outstanding:

 

 

32,509

 

 

 

33,067

 

 

 

32,601

 

 

 

33,165

 

Cash dividends declared per share

 

$

0.04

 

 

$

0.04

 

 

$

0.12

 

 

$

0.12

 

 

See notes to unaudited condensed consolidated financial statements.

3

 


Table of Contents

 

CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE EARNINGS UNAUDITED

(In thousands of dollars)

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Net earnings

 

$

11,073

 

 

$

2,722

 

 

$

19,738

 

 

$

26,084

 

Other comprehensive earnings:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in fair market value of derivatives, net of tax

 

 

909

 

 

 

(740

)

 

 

(2,861

)

 

 

(956

)

Changes in unrealized pension cost, net of tax

 

 

1,239

 

 

 

1,017

 

 

 

3,733

 

 

 

3,065

 

Cumulative translation adjustment, net of tax

 

 

99

 

 

 

(92

)

 

 

(54

)

 

 

(88

)

Other comprehensive earnings

 

$

2,247

 

 

$

185

 

 

$

818

 

 

$

2,021

 

Comprehensive earnings

 

$

13,320

 

 

$

2,907

 

 

$

20,556

 

 

$

28,105

 

 

See notes to unaudited condensed consolidated financial statements.

4

 


Table of Contents

 

CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands of dollars)

 

 

 

(Unaudited)

 

 

 

 

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

ASSETS

 

 

 

 

 

 

 

 

Current Assets

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

131,740

 

 

$

100,241

 

Accounts receivable, net

 

 

76,431

 

 

 

78,008

 

Inventories, net

 

 

41,492

 

 

 

42,237

 

Other current assets

 

 

14,020

 

 

 

16,992

 

Total current assets

 

 

263,683

 

 

 

237,478

 

Property, plant and equipment, net

 

 

97,777

 

 

 

105,038

 

Operating lease assets, net

 

 

23,727

 

 

 

24,644

 

Other Assets

 

 

 

 

 

 

 

 

Prepaid pension asset

 

 

65,115

 

 

 

62,082

 

Goodwill

 

 

106,056

 

 

 

106,056

 

Other intangible assets, net

 

 

76,126

 

 

 

85,215

 

Deferred income taxes

 

 

20,595

 

 

 

19,795

 

Other

 

 

2,774

 

 

 

3,046

 

Total other assets

 

 

270,666

 

 

 

276,194

 

Total Assets

 

$

655,853

 

 

$

643,354

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

 

Current Liabilities

 

 

 

 

 

 

 

 

Accounts payable

 

$

46,739

 

 

$

48,219

 

Operating lease obligations

 

 

3,149

 

 

 

2,787

 

Accrued payroll and benefits

 

 

12,437

 

 

 

9,564

 

Accrued expenses and other liabilities

 

 

32,794

 

 

 

36,378

 

Total current liabilities

 

 

95,119

 

 

 

96,948

 

Long-term debt

 

 

106,300

 

 

 

99,700

 

Long-term operating lease obligations

 

 

23,747

 

 

 

24,926

 

Long-term pension obligations

 

 

6,446

 

 

 

6,632

 

Deferred income taxes

 

 

6,223

 

 

 

5,637

 

Other long-term obligations

 

 

4,052

 

 

 

4,292

 

Total Liabilities

 

 

241,887

 

 

 

238,135

 

Commitments and Contingencies (Note 10)

 

 

 

 

 

 

 

 

Shareholders’ Equity

 

 

 

 

 

 

 

 

Common stock

 

 

310,976

 

 

 

307,932

 

Additional contributed capital

 

 

40,796

 

 

 

43,689

 

Retained earnings

 

 

525,624

 

 

 

509,766

 

Accumulated other comprehensive loss

 

 

(90,908

)

 

 

(91,726

)

Total shareholders’ equity before treasury stock

 

 

786,488

 

 

 

769,661

 

Treasury stock

 

 

(372,522

)

 

 

(364,442

)

Total shareholders’ equity

 

 

413,966

 

 

 

405,219

 

Total Liabilities and Shareholders’ Equity

 

$

655,853

 

 

$

643,354

 

 

See notes to unaudited condensed consolidated financial statements.

5

 


Table of Contents

 

CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS  UNAUDITED

(In thousands of dollars)

 

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

CASH FLOWS FROM OPERATING ACTIVITIES:

 

 

 

 

 

 

 

 

Net earnings

 

$

19,738

 

 

$

26,084

 

Adjustments to reconcile net earnings to net cash provided by operating

   activities:

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

19,819

 

 

 

18,038

 

Pension and other post-retirement plan expense

 

 

2,023

 

 

 

752

 

Stock-based compensation

 

 

2,164

 

 

 

3,950

 

Asset impairment charges

 

 

1,016

 

 

 

 

Restructuring non-cash charges

 

 

300

 

 

 

1,100

 

Deferred income taxes

 

 

(627

)

 

 

466

 

Gain on sales of fixed assets

 

 

 

 

 

(111

)

(Gain) loss on foreign currency hedges, net of cash

 

 

(58

)

 

 

79

 

Changes in assets and liabilities, net of acquisition:

 

 

 

 

 

 

 

 

Accounts receivable

 

 

2,085

 

 

 

385

 

Inventories

 

 

960

 

 

 

1,925

 

Operating lease assets

 

 

917

 

 

 

(2,454

)

Other assets

 

 

2,446

 

 

 

(3,153

)

Accounts payable

 

 

1,423

 

 

 

(3,534

)

Accrued payroll and benefits

 

 

2,928

 

 

 

(3,921

)

Income taxes payable

 

 

(2,454

)

 

 

2,540

 

Operating lease liabilities

 

 

(818

)

 

 

2,764

 

Accrued expenses and other liabilities

 

 

(2,372

)

 

 

(3,962

)

Pension and other post-retirement plans

 

 

(193

)

 

 

(213

)

Net cash provided by operating activities

 

 

49,297

 

 

 

40,735

 

CASH FLOWS FROM INVESTING ACTIVITIES:

 

 

 

 

 

 

 

 

Capital expenditures

 

 

(10,441

)

 

 

(15,299

)

Proceeds from sale of assets

 

 

 

 

 

137

 

Payments for acquisitions, net of cash acquired

 

 

 

 

 

(73,588

)

Net cash used in investing activities

 

 

(10,441

)

 

 

(88,750

)

CASH FLOWS FROM FINANCING ACTIVITIES:

 

 

 

 

 

 

 

 

Payments of long-term debt

 

 

(3,322,550

)

 

 

(995,500

)

Proceeds from borrowings of long-term debt

 

 

3,329,150

 

 

 

1,058,200

 

Purchase of treasury stock

 

 

(8,080

)

 

 

(8,045

)

Dividends paid

 

 

(3,888

)

 

 

(3,934

)

Taxes paid on behalf of equity award participants

 

 

(1,911

)

 

 

(2,653

)

Net cash (used) in provided by financing activities

 

 

(7,279

)

 

 

48,068

 

Effect of exchange rate changes on cash and cash equivalents

 

 

(78

)

 

 

213

 

Net increase in cash and cash equivalents

 

 

31,499

 

 

 

266

 

Cash and cash equivalents at beginning of period

 

 

100,241

 

 

 

100,933

 

Cash and cash equivalents at end of period

 

$

131,740

 

 

$

101,199

 

Supplemental cash flow information:

 

 

 

 

 

 

 

 

Cash paid for interest

 

$

2,124

 

 

$

1,208

 

Cash paid for income taxes, net

 

$

8,295

 

 

$

7,622

 

Non-cash financing and investing activities:

 

 

 

 

 

 

 

 

Capital expenditures incurred but not paid

 

$

816

 

 

$

3,711

 

 

See notes to unaudited condensed consolidated financial statements.

 

6

 


Table of Contents

 

CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY - UNAUDITED

(in thousands of dollars)

The following summarizes the changes in total equity for the three and nine months ended September 30, 2020:

 

 

 

Common

Stock

 

 

Additional

Contributed

Capital

 

 

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Earnings/(Loss)

 

 

Treasury

Stock

 

 

Total

 

Balances at December 31, 2019

 

$

307,932

 

 

$

43,689

 

 

$

509,766

 

 

$

(91,726

)

 

$

(364,442

)

 

$

405,219

 

Net earnings

 

 

 

 

 

 

 

 

3,808

 

 

 

 

 

 

 

 

 

3,808

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

(4,414

)

 

 

 

 

 

(4,414

)

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,285

 

 

 

 

 

 

1,285

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

(139

)

 

 

 

 

 

(139

)

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,298

)

 

 

 

 

 

 

 

 

(1,298

)

Acquired 220,731 shares of treasury stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(5,304

)

 

 

(5,304

)

Issued shares on vesting of restricted stock units

 

 

2,166

 

 

 

(4,069

)

 

 

 

 

 

 

 

 

 

 

 

(1,903

)

Stock compensation

 

 

 

 

 

212

 

 

 

 

 

 

 

 

 

 

 

 

212

 

Balances at March 31, 2020

 

$

310,098

 

 

$

39,832

 

 

$

512,276

 

 

$

(94,994

)

 

$

(369,746

)

 

$

397,466

 

Net earnings

 

 

 

 

 

 

 

 

4,857

 

 

 

 

 

 

 

 

 

4,857

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

644

 

 

 

 

 

 

644

 

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,209

 

 

 

 

 

 

1,209

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

(14

)

 

 

 

 

 

(14

)

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,292

)

 

 

 

 

 

 

 

 

(1,292

)

Acquired 122,000 shares of treasury stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(2,776

)

 

 

(2,776

)

Issued shares on vesting of restricted stock units

 

 

855

 

 

 

(855

)

 

 

 

 

 

 

 

 

 

 

 

 

Stock compensation

 

 

 

 

 

798

 

 

 

 

 

 

 

 

 

 

 

 

798

 

Balances at June 30, 2020

 

$

310,953

 

 

$

39,775

 

 

$

515,841

 

 

$

(93,155

)

 

$

(372,522

)

 

$

400,892

 

Net earnings

 

 

 

 

 

 

 

 

11,073

 

 

 

 

 

 

 

 

 

11,073

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

909

 

 

 

 

 

 

909

 

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,239

 

 

 

 

 

 

1,239

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

99

 

 

 

 

 

 

99

 

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,290

)

 

 

 

 

 

 

 

 

(1,290

)

Issued shares on vesting of restricted stock units

 

 

23

 

 

 

(31

)

 

 

 

 

 

 

 

 

 

 

 

(8

)

Stock compensation

 

 

 

 

 

1,052

 

 

 

 

 

 

 

 

 

 

 

 

1,052

 

Balances at September 30, 2020

 

$

310,976

 

 

$

40,796

 

 

$

525,624

 

 

$

(90,908

)

 

$

(372,522

)

 

$

413,966

 

 

See notes to unaudited condensed consolidated financial statements.

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CTS CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY - UNAUDITED

(in thousands of dollars)

The following summarizes the changes in total equity for the three and nine months ended September 30, 2019:

 

 

 

Common

Stock

 

 

Additional

Contributed

Capital

 

 

Retained

Earnings

 

 

Accumulated

Other

Comprehensive

Earnings/(Loss)

 

 

Treasury

Stock

 

 

Total

 

Balances at December 31, 2018

 

$

306,697

 

 

$

42,820

 

 

$

478,847

 

 

$

(97,739

)

 

$

(352,696

)

 

$

377,929

 

Net earnings

 

 

 

 

 

 

 

 

11,419

 

 

 

 

 

 

 

 

 

11,419

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

78

 

 

 

 

 

 

78

 

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,022

 

 

 

 

 

 

1,022

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

91

 

 

 

 

 

 

91

 

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,315

)

 

 

 

 

 

 

 

 

(1,315

)

Acquired 31,500 shares of treasury stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(849

)

 

 

(849

)

Issued shares on vesting of restricted stock units

 

 

967

 

 

 

(3,603

)

 

 

 

 

 

 

 

 

 

 

 

(2,636

)

Stock compensation

 

 

 

 

 

1,154

 

 

 

 

 

 

 

 

 

 

 

 

1,154

 

Balances at March 31, 2019

 

$

307,664

 

 

$

40,371

 

 

$

488,951

 

 

$

(96,548

)

 

$

(353,545

)

 

$

386,893

 

Net earnings

 

 

 

 

 

 

 

 

11,943

 

 

 

 

 

 

 

 

 

11,943

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

(294

)

 

 

 

 

 

(294

)

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,026

 

 

 

 

 

 

1,026

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

(87

)

 

 

 

 

 

(87

)

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,309

)

 

 

 

 

 

 

 

 

(1,309

)

Acquired 148,466 shares of treasury stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(4,153

)

 

 

(4,153

)

Issued shares on vesting of restricted stock units

 

 

111

 

 

 

(111

)

 

 

 

 

 

 

 

 

 

 

 

 

Stock compensation

 

 

 

 

 

1,526

 

 

 

 

 

 

 

 

 

 

 

 

1,526

 

Balances at June 30, 2019

 

$

307,775

 

 

$

41,786

 

 

$

499,585

 

 

$

(95,903

)

 

$

(357,698

)

 

$

395,545

 

Net earnings

 

 

 

 

 

 

 

 

2,722

 

 

 

 

 

 

 

 

 

2,722

 

Changes in fair market value of derivatives, net of tax

 

 

 

 

 

 

 

 

 

 

 

(740

)

 

 

 

 

 

(740

)

Changes in unrealized pension cost, net of tax

 

 

 

 

 

 

 

 

 

 

 

1,017

 

 

 

 

 

 

1,017

 

Cumulative translation adjustment, net of tax

 

 

 

 

 

 

 

 

 

 

 

(92

)

 

 

 

 

 

(92

)

Cash dividends of $0.04 per share

 

 

 

 

 

 

 

 

(1,304

)

 

 

 

 

 

 

 

 

(1,304

)

Acquired 106,760 shares of treasury stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(3,043

)

 

 

(3,043

)

Issued shares on vesting of restricted stock units

 

 

26

 

 

 

(41

)

 

 

 

 

 

 

 

 

 

 

 

(15

)

Stock compensation

 

 

 

 

 

1,104

 

 

 

 

 

 

 

 

 

 

 

 

1,104

 

Balances at September 30, 2019

 

$

307,801

 

 

$

42,849

 

 

$

501,003

 

 

$

(95,718

)

 

$

(360,741

)

 

$

395,194

 

 

See notes to unaudited condensed consolidated financial statements.

 

8

 


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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED

(in thousands except for share and per share data)

September 30, 2020

NOTE 1 — Basis of Presentation

The accompanying condensed consolidated financial statements have been prepared by CTS Corporation (“CTS” "we", "our", "us" or the "Company”), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been omitted pursuant to such rules and regulations. The unaudited condensed consolidated financial statements should be read in conjunction with the financial statements, notes thereto, and other information included in the Company’s Annual Report on Form 10‑K for the year ended December 31, 2019.

The accompanying unaudited condensed consolidated financial statements reflect, in the opinion of management, all adjustments (consisting of normal recurring items) necessary for a fair statement, in all material respects, of the financial position and results of operations for the periods presented. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ materially from those estimates. The results of operations for the interim periods are not necessarily indicative of the results for the entire year. Certain reclassifications have been made to prior year amounts to conform to the current year presentation. The reclassifications had no impact on previously reported net earnings.

NOTE 2 – Revenue Recognition

The core principle of Topic 606 is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The guidance provides a five-step process to achieve that core principle:

 

Identify the contract(s) with a customer

 

Identify the performance obligations

 

Determine the transaction price

 

Allocate the transaction price

 

Recognize revenue when the performance obligations are met

We recognize revenue when the performance obligations specified in our contracts have been satisfied, after considering the impact of variable consideration and other factors that may affect the transaction price. Our contracts normally contain a single performance obligation that is fulfilled on the date of delivery based on shipping terms stipulated in the contract. We usually expect payment within 30 to 90 days from the shipping date, depending on our terms with the customer. None of our contracts as of September 30, 2020 contained a significant financing component. Differences between the amount of revenue recognized and the amount invoiced, collected from, or paid to our customers are recognized as contract assets or liabilities. Contract assets will be reviewed for impairment when events or circumstances indicate that they may not be recoverable.

To the extent the transaction price includes variable consideration, we estimate the amount of variable consideration that should be included in the transaction price utilizing the most likely amount method based on an analysis of historical experience and current facts and circumstances, which requires significant judgment. Variable consideration is included in the transaction price if, in our judgment, it is probable that a significant future reversal of cumulative revenue under the contract will not occur.

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Disaggregated Revenue

The following table presents revenues disaggregated by the major markets we serve:

 

 

 

Three months ended

 

 

Nine months ended

 

 

 

September 30, 2020

 

 

September 30, 2019

 

 

September 30, 2020

 

 

September 30, 2019

 

Transportation

 

$

65,277

 

 

$

71,559

 

 

$

164,940

 

 

$

230,743

 

Industrial

 

 

24,204

 

 

 

19,750

 

 

 

65,260

 

 

 

57,406

 

Medical

 

 

10,201

 

 

 

10,537

 

 

 

32,609

 

 

 

29,176

 

Aerospace & Defense

 

 

11,038

 

 

 

9,025

 

 

 

29,416

 

 

 

23,536

 

Telecom & IT

 

 

3,057

 

 

 

4,780

 

 

 

8,824

 

 

 

13,098

 

Total

 

$

113,777

 

 

$

115,651

 

 

$

301,049

 

 

$

353,959

 

 

NOTE 3 – Accounts Receivable

The components of accounts receivable, net are as follows:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Accounts receivable, gross

 

$

77,250

 

 

$

78,269

 

Less: Allowance for credit losses

 

 

(819

)

 

 

(261

)

Accounts receivable, net

 

$

76,431

 

 

$

78,008

 

 

NOTE 4 – Inventories

Inventories, net consists of the following:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Finished goods

 

$

9,046

 

 

$

9,447

 

Work-in-process

 

 

15,237

 

 

 

14,954

 

Raw materials

 

 

23,607

 

 

 

23,363

 

Less: Inventory reserves

 

 

(6,398

)

 

 

(5,527

)

Inventories, net

 

$

41,492

 

 

$

42,237

 

 

NOTE 5 – Property, Plant and Equipment

Property, plant and equipment, net is comprised of the following:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Land and land improvements

 

$

1,095

 

 

$

1,095

 

Buildings and improvements

 

 

69,007

 

 

 

68,350

 

Machinery and equipment

 

 

228,584

 

 

 

224,312

 

Less: Accumulated depreciation

 

 

(200,909

)

 

 

(188,719

)

Property, plant and equipment, net

 

$

97,777

 

 

$

105,038

 

Depreciation expense for the nine months ended

   September 30, 2020

 

 

 

 

 

$

13,003

 

Depreciation expense for the nine months ended

   September 30, 2019

 

 

 

 

 

$

12,657

 

 

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NOTE 6 – Retirement Plans

Pension Plans

Net pension expense for our domestic and foreign plans included in other income (expense) in the Condensed Consolidated Statement of Earnings is as follows:

 

 

 

Three months ended

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Net pension expense

 

$

666

 

 

$

250

 

 

$

1,996

 

 

$

749

 

 

The components of net pension expense for our domestic and foreign plans include the following:

 

 

 

Domestic Pension Plans

 

 

Foreign Pension Plans

 

 

 

Three Months Ended

 

 

Three Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Service cost

 

$

 

 

$

 

 

$

8

 

 

$

9

 

Interest cost

 

 

1,443

 

 

 

1,931

 

 

 

6

 

 

 

8

 

Expected return on plan assets(1)

 

 

(2,454

)

 

 

(3,046

)

 

 

(3

)

 

 

(4

)

Amortization of loss

 

 

1,622

 

 

 

1,311

 

 

 

44

 

 

 

41

 

Total expense, net

 

$

611

 

 

$

196

 

 

$

55

 

 

$

54

 

 

(1)

Expected return on plan assets is net of expected investment expenses and certain administrative expenses.

 

 

 

Domestic Pension Plans

 

 

Foreign Pension Plans

 

 

 

Nine Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Service cost

 

$

 

 

$

 

 

$

23

 

 

$

27

 

Interest cost

 

 

4,329

 

 

 

5,793

 

 

 

19

 

 

 

23

 

Expected return on plan assets(1)

 

 

(7,362

)

 

 

(9,140

)

 

 

(10

)

 

 

(13

)

Amortization of loss

 

 

4,866

 

 

 

3,934

 

 

 

131

 

 

 

125

 

Total expense, net

 

$

1,833

 

 

$

587

 

 

$

163

 

 

$

162

 

 

(1)

Expected return on plan assets is net of expected investment expenses and certain administrative expenses.

In February 2020, the CTS Board of Directors authorized management to explore termination of our U.S. based pension plan ("Plan") at management's discretion, subject to certain conditions. On June 1, 2020, we entered the Fifth Amendment to the Plan whereby we set an effective termination date of July 31, 2020. The Plan termination process is expected to take twelve to eighteen months and requires certain approvals from both the Internal Revenue Service and Pension Benefit Guaranty Corporation. Once we receive such approvals, an insurance company will be selected to purchase annuities and fulfill the obligations of the Plan including administering payments to participants. Upon settlement of the pension liabilities, we will reclassify the related pension losses currently recorded in accumulated other comprehensive loss into earnings.  We do not expect any cash contributions from the Company to the Plan as a result of this termination because plan assets exceed estimated liabilities.

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Other Post-retirement Benefit Plan

Net post-retirement expense for our other post-retirement plan includes the following components:

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Service cost

 

$

1

 

 

$

 

 

$

1

 

 

$

1

 

Interest cost

 

 

30

 

 

 

42

 

 

 

90

 

 

 

127

 

Amortization of gain

 

 

(20

)

 

 

(42

)

 

 

(64

)

 

 

(125

)

Total expense, net

 

$

11

 

 

$

 

 

$

27

 

 

$

3

 

 

NOTE 7 – Other Intangible Assets

Other intangible assets, net consist of the following components:

 

 

 

As of

 

 

 

September 30, 2020

 

 

 

Gross

Carrying

Amount

 

 

Accumulated

Amortization

 

 

Net Amount

 

Customer lists/relationships

 

$

92,194

 

 

$

(42,753

)

 

$

49,441

 

Technology and other intangibles

 

 

47,925

 

 

 

(21,240

)

 

 

26,685

 

In process research and development

 

 

2,200

 

 

 

(2,200

)

 

 

 

Other intangible assets, net

 

$

142,319

 

 

$

(66,193

)

 

$

76,126

 

Amortization expense for the three months ended

   September 30, 2020

 

 

 

 

 

$

2,253

 

 

 

 

 

Amortization expense for the nine months ended

   September 30, 2020

 

 

 

 

 

$

6,816

 

 

 

 

 

 

In the third quarter of 2020, due to the restructuring actions further outlined in Note 8, we performed an interim impairment assessment. This resulted in the recognition of $2,200 of impairment charges related to in process research and development, and a revaluation of associated contingent liabilities totaling $1,900. The net impact of $300 was recorded as restructuring expense in the Condensed Consolidated Statements of Earnings.

 

 

 

As of

 

 

 

December 31, 2019

 

 

 

Gross

Carrying

Amount

 

 

Accumulated

Amortization

 

 

Net Amount

 

Customer lists/relationships

 

$

92,194

 

 

$

(38,682

)

 

$

53,512

 

Technology and other intangibles

 

 

47,925

 

 

 

(18,422

)

 

 

29,503

 

In process research and development

 

 

2,200

 

 

 

 

 

 

2,200

 

Other intangible assets, net

 

$

142,319

 

 

$

(57,104

)

 

$

85,215

 

Amortization expense for the three months ended

   September 30, 2019

 

 

 

 

 

$

1,999

 

 

 

 

 

Amortization expense for the nine months ended

   September 30, 2019

 

 

 

 

 

$

5,381

 

 

 

 

 

 

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Remaining amortization expense for other intangible assets as of September 30, 2020 is as follows:

 

 

 

Amortization

expense

 

2020

 

$

2,243

 

2021

 

 

8,893

 

2022

 

 

8,657

 

2023

 

 

6,651

 

2024

 

 

6,489

 

Thereafter

 

 

43,193

 

Total amortization expense

 

$

76,126

 

 

NOTE 8 – Costs Associated with Exit and Restructuring Activities

Restructuring charges are reported as a separate line within operating earnings in the Condensed Consolidated Statement of Earnings.

Total restructuring charges are as follows:

 

 

 

Three Months Ended

 

 

 

September 30, 2020

 

 

September 30, 2019

 

Restructuring charges

 

$

1,041

 

 

$

2,342

 

 

 

 

Nine Months Ended

 

 

 

September 30, 2020

 

 

September 30, 2019

 

Restructuring charges

 

$

1,416

 

 

$

5,337

 

 

September 2020 Plan

In September 2020, we initiated a restructuring plan focused on optimizing our manufacturing footprint and improving operational efficiency by better utilizing our systems capabilities. This plan includes transitioning certain administrative functions to a shared service center, realignment of manufacturing locations, and certain other efficiency improvement actions ("September 2020 Plan"). The restructuring cost of the plan is estimated to range between $5,000 and $6,000, including workforce reduction charges, building and equipment relocation charges, other contract and asset related costs. In addition to these charges, we expect an additional $5,000 to $6,000 of other costs to be incurred related to the initiatives that would not qualify as restructuring charges. These costs would include certain related employee resource overlap and training costs as well as additional capital expenditures. Restructuring charges under this plan were $1,008 during the three and nine months ended September 30, 2020. The total restructuring liability related to the September 2020 Plan was $583 at September 30, 2020.

June 2016 Plan

In June 2016, we announced plans to restructure operations by phasing out production at our Elkhart, IN facility and transitioning it into a research and development center supporting our global operations ("June 2016 Plan"). Additional organizational changes were also implemented in various other locations. In 2017, we revised this plan to include an additional $1,100 in planned costs related to the relocation of our corporate headquarters in Lisle, IL and our plant in Bolingbrook, IL, both of which have now been consolidated into a single facility. Restructuring charges under this plan, which is substantially complete, were $0 and $671 during the three months ended September 30, 2020 and 2019, respectively. Restructuring charges under this plan were $(32) and $3,914 during the nine months ended September 30, 2020 and 2019, respectively. The total restructuring liability related to the June 2016 Plan was $23 at September 30, 2020 and $233 at December 31, 2019. Additional costs related to production line movements, equipment charges, and other costs will be expensed as incurred.

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The following table displays the planned restructuring charges associated with the June 2016 Plan as well as a summary of the actual costs incurred through September 30, 2020:

 

 

 

 

 

 

 

Actual costs

 

 

 

Planned

 

 

incurred

through

 

June 2016 Plan

 

Costs

 

 

September 30, 2020

 

Workforce reduction

 

$

3,075

 

 

$

3,312

 

Building and equipment relocation

 

 

9,025

 

 

 

10,530

 

Other charges(1)

 

 

1,300

 

 

 

2,156

 

Total restructuring charges

 

$

13,400

 

 

$

15,998

 

 

(1)

Other charges includes the effects of currency translation, non-cash asset write-downs and other charges.

April 2014 Plan

In April 2014, we announced plans to restructure our operations and consolidate our Canadian operations into other existing facilities as part of our overall plan to simplify our business model and rationalize our global footprint (“April 2014 Plan”). These restructuring actions were completed in 2015. Restructuring charges associated with this plan were $(248) for the three and nine months ended September 30, 2019. There were no restructuring charges incurred under this plan during the three and nine months ended September 30, 2020. The total restructuring liability related to the April 2014 Plan was $874 at September 30, 2020, and $703 at December 31, 2019.

Other Restructuring Activities

From time to time we undertake other restructuring activities that are not part of a formal plan. During the three and nine months ended September 30, 2020, we incurred restructuring charges of $33 and $440, respectively, primarily relating to workforce reduction actions.   During the three and nine months ended September 30, 2019, we incurred restructuring charges of $1,671 for exit and disposal activities at three facilities, of which $800 was related to a lease termination charge resulting from our acquisition of Quality Thermistor, Inc. (see Note 19, “Business Acquisitions”) and $871 was related to workforce and building relocation costs at two foreign facilities. The total remaining restructuring liability associated with these actions was $14 at September 30, 2020 and $1,057 at December 31, 2019.

The following table displays the restructuring liability activity included in Accrued expenses and other liabilities for all plans for the nine months ended September 30, 2020:

 

Restructuring liability at January 1, 2020

 

$

1,993

 

Restructuring charges

 

 

1,416

 

Cost paid

 

 

(1,382

)

Other activity(1)

 

 

(533

)

Restructuring liability at September 30, 2020

 

$

1,494

 

 

(1)

Other activity includes the effects of currency translation, non-cash asset write-downs and other charges that do not flow through restructuring expense.

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NOTE 9 – Accrued Liabilities

The components of Accrued expenses and other liabilities are as follows:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Accrued product related costs

 

$

3,661

 

 

$

2,950

 

Accrued income taxes

 

 

5,564

 

 

 

7,903

 

Accrued property and other taxes

 

 

1,914

 

 

 

1,574

 

Accrued professional fees

 

 

1,242

 

 

 

1,599

 

Accrued customer related liabilities

 

 

4,144

 

 

 

4,391

 

Dividends payable

 

 

1,291

 

 

 

1,299

 

Remediation reserves

 

 

9,337

 

 

 

11,444

 

Derivative liabilities

 

 

1,287

 

 

 

 

Other accrued liabilities

 

 

4,354

 

 

 

5,218

 

Total accrued expenses and other liabilities

 

$

32,794

 

 

$

36,378

 

 

NOTE 10 – Commitments and Contingencies

Certain processes in the manufacture of our current and past products create by-products classified as hazardous waste. We have been notified by the U.S. Environmental Protection Agency, state environmental agencies, and in some cases, groups of potentially responsible parties, that we may be potentially liable for environmental contamination at several sites currently and formerly owned or operated by us. Two of those sites, Asheville, North Carolina and Mountain View, California, are designated National Priorities List sites under the U.S. Environmental Protection Agency’s Superfund program. We accrue a liability for probable remediation activities, claims and proceedings against us with respect to environmental matters if the amount can be reasonably estimated, and provide disclosures including the nature of a loss whenever it is probable or reasonably possible that a potentially material loss may have occurred but cannot be estimated. We record contingent loss accruals on an undiscounted basis.

A roll-forward of remediation reserves included in Accrued expenses and other liabilities on the Condensed Consolidated Balance Sheets is comprised of the following:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Balance at beginning of period

 

$

11,444

 

 

$

11,274

 

Remediation expense

 

 

1,265

 

 

 

2,602

 

Net remediation payments

 

 

(3,408

)

 

 

(2,455

)

Other activity(1)

 

 

36

 

 

 

23

 

Balance at end of the period

 

$

9,337

 

 

$

11,444

 

 

(1)

Other activity includes currency translation adjustments not recorded through remediation expense.

Unrelated to the environmental claims described above, certain other legal claims are pending against us with respect to matters arising out of the ordinary conduct of our business.

We provide product warranties when we sell our products and accrue for estimated liabilities at the time of sale. Warranty estimates are forecasts based on the best available information and historical claims experience. We accrue for specific warranty claims if we believe that the facts of a specific claim make it probable that a liability in excess of our historical experience has been incurred, and provide disclosures for specific claims whenever it is reasonably possible that a material loss may be incurred which cannot be estimated.

We cannot provide assurance that the ultimate disposition of environmental, legal, and product warranty claims will not materially exceed the amount of our accrued losses and adversely impact our consolidated financial position, results of operations, or cash flows. Our accrued liabilities and disclosures will be adjusted accordingly if additional information becomes available in the future.

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NOTE 11 - Debt

Long-term debt was comprised of the following:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Total credit facility

 

$

300,000

 

 

$

300,000

 

Balance outstanding

 

 

106,300

 

 

 

99,700

 

Standby letters of credit

 

 

1,740

 

 

 

1,800

 

Amount available, subject to covenant restrictions

 

$

191,960

 

 

$

198,500

 

Weighted-average interest rate

 

 

2.00

%

 

 

3.25

%

Commitment fee percentage per annum

 

 

0.25

%

 

 

0.23

%

 

On February 12, 2019, we entered an amended and restated five-year Credit Agreement with a group of banks (the "Credit Agreement") to extend the term of the facility. The Credit Agreement provides for a revolving credit facility of $300,000, which may be increased by $150,000 at the request of the Company, subject to the administrative agent's approval. This unsecured credit facility replaces the prior $300,000 unsecured credit facility, which would have expired August 10, 2020. Borrowings of $50,000 under the prior credit agreement were refinanced into the Credit Agreement.

The revolving credit facility includes a swing line sublimit of $15,000 and a letter of credit sublimit of $10,000. Borrowings under the revolving credit facility bear interest at the base rate defined in the Credit Agreement. We also pay a quarterly commitment fee on the unused portion of the revolving credit facility. The commitment fee ranges from 0.20% to 0.30% based on our total leverage ratio.

The Credit Agreement requires, among other things, that we comply with a maximum total leverage ratio and a minimum fixed charge coverage ratio. Failure to comply with these covenants could reduce the borrowing availability under the credit facility. We were compliant with all debt covenants at September 30, 2020. The Credit Agreement requires that we deliver quarterly financial statements, annual financial statements, auditor certifications, and compliance certificates within a specified number of days after the end of a quarter and year. Additionally, it contains restrictions limiting our ability to: dispose of assets; incur certain additional debt; repay other debt or amend subordinated debt instruments; create liens on assets; make investments, loans or advances; make acquisitions or engage in mergers or consolidations; engage in certain transactions with our subsidiaries and affiliates; and make stock repurchases and dividend payments. Interest rates on the credit facility fluctuate based upon the LIBOR and the Company’s quarterly total leverage ratio.

We have debt issuance costs related to our long-term debt that are being amortized using the straight-line method over the life of the debt. Amortization expense for three and nine months ended September 30, 2020 and 2019 was approximately $42 and $126 and $42 and $121, respectively. These costs are included in interest expense in our Condensed Consolidated Statement of Earnings.

We use interest rate swaps to convert the revolving credit facility's variable rate of interest into a fixed rate on a portion of the debt as described more fully in Note 12 "Derivative Financial Instruments". These swaps are treated as cash flow hedges and consequently, the changes in fair value were recorded in other comprehensive earnings.

Note 12 - Derivative Financial Instruments

Our earnings and cash flows are subject to fluctuations due to changes in foreign currency exchange rates and interest rates. We selectively use derivative financial instruments including foreign currency forward contracts and interest rate swaps to manage our exposure to these risks.

The use of derivative financial instruments exposes the Company to credit risk, which relates to the risk of nonperformance by a counterparty to the derivative contracts. We manage our credit risk by entering derivative contracts with only highly rated financial institutions and by using netting agreements.

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The effective portion of derivative gains and losses are recorded in accumulated other comprehensive (loss) income until the hedged transaction affects earnings upon settlement, at which time they are reclassified to cost of goods sold or net sales. If it is probable that an anticipated hedged transaction will not occur by the end of the originally specified time period, we reclassify the gains or losses related to that hedge from accumulated other comprehensive (loss) income to other income (expense).

We assess hedge effectiveness qualitatively by verifying that the critical terms of the hedging instrument and the forecasted transaction continue to match, and that there have been no adverse developments that have increased the risk that the counterparty will default.  

Foreign Currency Hedges

We use forward contracts to mitigate currency risk related to a portion of our forecasted foreign currency revenues and costs. The currency forward contracts are designed as cash flow hedges and are recorded in the Condensed Consolidated Balance Sheets at fair value.

We continue to monitor the Company’s overall currency exposure and may elect to add cash flow hedges in the future. At September 30, 2020, we had a net unrealized loss of $458 in accumulated other comprehensive (loss) income, of which $425 is expected to be reclassified to earnings within the next 12 months. At September 30, 2019 we had a net unrealized gain of $507 in accumulated other comprehensive (loss) income. The notional amount of foreign currency forward contracts outstanding was $17,015 at September 30, 2020.

Interest Rate Swaps

We use interest rate swaps to convert a portion of our revolving credit facility’s outstanding balance from a variable rate of interest to a fixed rate. As of September 30, 2020, we have agreements to fix interest rates on $50,000 of long-term debt through February 2024. The difference to be paid or received under the terms of the swap agreements will be recognized as an adjustment to interest expense when settled.

These swaps are treated as cash flow hedges and consequently, the changes in fair value are recorded in other comprehensive (loss) income. The estimated net amount of the existing losses that are reported in accumulated other comprehensive (loss) income that are expected to be reclassified into earnings within the next twelve months is approximately $517.

The location and fair values of derivative instruments designated as hedging instruments in the Condensed Consolidated Balance Sheets as of September 30, 2020, are shown in the following table:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Interest rate swaps reported in Other current assets

 

$

 

 

$

82

 

Interest rate swaps reported in Accrued liabilities

 

$

(671

)

 

$

 

Interest rate swaps reported in Other long-term obligations

 

$

(1,789

)

 

$

(78

)

Foreign currency hedges reported in Other current assets

 

$

 

 

$

580

 

Foreign currency hedges reported in Accrued liabilities

 

$

(615

)

 

$

 

 

The Company has elected to net its foreign currency derivative assets and liabilities in the balance sheet in accordance with ASC 210-20 (Balance Sheet, Offsetting). On a gross basis, there were foreign currency derivative assets of $0 and foreign currency derivative liabilities of $615 at September 30, 2020.

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The effect of derivative instruments on the Condensed Consolidated Statements of Earnings is as follows:

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Foreign Exchange Contracts:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from AOCI to earnings:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net sales

 

$

(78

)

 

$

 

 

$

(5

)

 

$

 

Cost of goods sold

 

 

(407

)

 

 

286

 

 

 

(678

)

 

 

562

 

Selling, general and administrative expense

 

 

 

 

 

23

 

 

 

(5

)

 

 

62

 

Total (loss) gain reclassified from AOCI to earnings

 

 

(485

)

 

 

309

 

 

 

(688

)

 

 

624

 

Gain recognized in other expense for hedge ineffectiveness

 

 

 

 

 

 

 

 

3

 

 

 

 

Total derivative (loss) gain on foreign exchange contracts recognized in earnings

 

$

(485

)

 

$

309

 

 

$

(685

)

 

$

624

 

Interest Rate Swaps:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(Expense) benefit recorded in Interest expense

 

$

(171

)

 

$

117

 

 

$

(242

)

 

$

430

 

Total (losses) gains on derivatives

 

$

(656

)

 

$

426

 

 

$

(927

)

 

$

1,054

 

 

NOTE 13 – Accumulated Other Comprehensive (Loss) Income

Shareholders’ equity includes certain items classified as accumulated other comprehensive (loss) income (“AOCI”) in the Condensed Consolidated Balance Sheets, including:

 

Unrealized gains (losses) on hedges relate to interest rate swaps to convert a portion of our revolving credit facility's outstanding balance from a variable rate of interest into a fixed rate and foreign currency forward contracts used to hedge our exposure to changes in exchange rates affecting certain revenues and costs denominated in foreign currencies. These hedges are designated as cash flow hedges, and we have deferred income statement recognition of gains and losses until the hedged transactions occur, at which time amounts are reclassified into earnings. Further information related to our derivative financial instruments is included in Note 12 - Derivative Financial Instruments and Note 16 – Fair Value Measurements.

 

Unrealized gains (losses) on pension obligations are deferred from income statement recognition until the gains or losses are realized. Amounts reclassified to income from AOCI are included in net periodic pension income (expense). Further information related to our pension obligations is included in Note 6 – Retirement Plans.

 

Cumulative translation adjustments relate to our non-U.S. subsidiary companies that have designated a functional currency other than the U.S. dollar. We are required to translate the subsidiary functional currency financial statements to dollars using a combination of historical, period-end, and average foreign exchange rates. This combination of rates creates the foreign currency translation adjustment component of other comprehensive income.

Changes in exchange rates between the functional currency and the currency in which a transaction is denominated are foreign exchange transaction gains or losses. Transaction gains for the three and nine months ended September 30, 2020 were $2,326 and $1,947, respectively and transaction losses for the three and nine months ended September 30, 2019 were $2,473 and $2,828, respectively, which have been included in other income (expense) in the Condensed Consolidated Statement of Earnings.

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The components of accumulated other comprehensive (loss) income for the three months ended September 30, 2020 are as follows:

 

 

 

 

 

 

 

 

 

 

 

Loss

 

 

 

 

 

 

 

As of

 

 

Gain (Loss)

 

 

Reclassified

 

 

As of

 

 

 

June 30,

 

 

Recognized

 

 

from AOCI

 

 

September 30,

 

 

 

2020

 

 

in OCI

 

 

to Earnings

 

 

2020

 

Changes in fair market value of hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

$

(4,239

)

 

$

525

 

 

$

656

 

 

$

(3,058

)

Income tax benefit (expense)

 

 

978

 

 

 

(122

)

 

 

(150

)

 

 

706

 

Net

 

 

(3,261

)

 

 

403

 

 

 

506

 

 

 

(2,352

)

Changes in unrealized pension cost:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(120,906

)

 

 

 

 

 

1,606

 

 

 

(119,300

)

Income tax benefit (expense)

 

 

33,278

 

 

 

 

 

 

(367

)

 

 

32,911

 

Net

 

 

(87,628

)

 

 

 

 

 

1,239

 

 

 

(86,389

)

Cumulative translation adjustment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(2,266

)

 

 

99

 

 

 

 

 

 

(2,167

)

Income tax benefit

 

 

 

 

 

 

 

 

 

 

 

 

Net

 

 

(2,266

)

 

 

99

 

 

 

 

 

 

(2,167

)

Total accumulated other comprehensive (loss) income

 

$

(93,155

)

 

$

502

 

 

$

1,745

 

 

$

(90,908

)

 

The components of accumulated other comprehensive (loss) income for the three months ended September 30, 2019, are as follows:

 

 

 

 

 

 

 

 

 

 

 

(Gain) Loss

 

 

 

 

 

 

 

As of

 

 

Gain (Loss)

 

 

Reclassified

 

 

As of

 

 

 

June 30,

 

 

Recognized

 

 

from AOCI

 

 

September 30,

 

 

 

2019

 

 

in OCI

 

 

to Earnings

 

 

2019

 

Changes in fair market value of hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

$

1,036

 

 

$

(529

)

 

$

(426

)

 

$

81

 

Income tax (expense) benefit

 

 

(234

)

 

 

119

 

 

 

96

 

 

 

(19

)

Net

 

 

802

 

 

 

(410

)

 

 

(330

)

 

 

62

 

Changes in unrealized pension cost:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(129,810

)

 

 

 

 

 

1,313

 

 

 

(128,497

)

Income tax benefit (expense)

 

 

35,297

 

 

 

 

 

 

(296

)

 

 

35,001

 

Net

 

 

(94,513

)

 

 

 

 

 

1,017

 

 

 

(93,496

)

Cumulative translation adjustment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(2,287

)

 

 

(89

)

 

 

 

 

 

(2,376

)

Income tax benefit (expense)

 

 

95

 

 

 

(3

)

 

 

 

 

 

92

 

Net

 

 

(2,192

)

 

 

(92

)

 

 

 

 

 

(2,284

)

Total accumulated other comprehensive (loss) income

 

$

(95,903

)

 

$

(502

)

 

$

687

 

 

$

(95,718

)

 

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The components of accumulated other comprehensive (loss) income for the nine months ended September 30, 2020, are as follows:

 

 

 

 

 

 

 

 

 

 

 

Loss

 

 

 

 

 

 

 

As of

 

 

Loss

 

 

Reclassified

 

 

As of

 

 

 

December 31,

 

 

Recognized

 

 

from AOCI

 

 

September 30,

 

 

 

2019

 

 

in OCI

 

 

to Earnings

 

 

2020

 

Changes in fair market value of hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

$

659

 

 

$

(4,647

)

 

 

930

 

 

$

(3,058

)

Income tax (expense) benefit

 

 

(150

)

 

 

1,059

 

 

 

(203

)

 

 

706

 

Net

 

 

509

 

 

 

(3,588

)

 

 

727

 

 

 

(2,352

)

Changes in unrealized pension cost:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(124,140

)

 

 

 

 

 

4,840

 

 

 

(119,300

)

Income tax benefit (expense)

 

 

34,018

 

 

 

 

 

 

(1,107

)

 

 

32,911

 

Net

 

 

(90,122

)

 

 

 

 

 

3,733

 

 

 

(86,389

)

Cumulative translation adjustment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(2,211

)

 

 

44

 

 

 

 

 

 

(2,167

)

Income tax benefit (expense)

 

 

98

 

 

 

(98

)

 

 

 

 

 

 

Net

 

 

(2,113

)

 

 

(54

)

 

 

 

 

 

(2,167

)

Total accumulated other comprehensive (loss) income

 

$

(91,726

)

 

$

(3,642

)

 

$

4,460

 

 

$

(90,908

)

 

The components of accumulated other comprehensive (loss) income for the nine months ended September 30, 2019, are as follows:

 

 

 

 

 

 

 

 

 

 

 

Loss

 

 

 

 

 

 

 

As of

 

 

Gain

 

 

Reclassified

 

 

As of

 

 

 

December 31,

 

 

Recognized

 

 

from AOCI

 

 

September 30,

 

 

 

2018

 

 

in OCI

 

 

to Earnings

 

 

2019

 

Changes in fair market value of hedges:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

$

1,316

 

 

$

(181

)

 

$

(1,054

)

 

$

81

 

Income tax (expense) benefit

 

 

(298

)

 

 

41

 

 

 

238

 

 

 

(19

)

Net

 

 

1,018

 

 

 

(140

)

 

 

(816

)

 

 

62

 

Changes in unrealized pension cost:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(132,454

)

 

 

 

 

 

3,957

 

 

 

(128,497

)

Income tax benefit (expense)

 

 

35,893

 

 

 

 

 

 

(892

)

 

 

35,001

 

Net

 

 

(96,561

)

 

 

 

 

 

3,065

 

 

 

(93,496

)

Cumulative translation adjustment:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross

 

 

(2,291

)

 

 

(85

)

 

 

 

 

 

(2,376

)

Income tax benefit

 

 

95

 

 

 

(3

)

 

 

 

 

 

92

 

Net

 

 

(2,196

)

 

 

(88

)

 

 

 

 

 

(2,284

)

Total accumulated other comprehensive (loss) income

 

$

(97,739

)

 

$

(228

)

 

$

2,249

 

 

$

(95,718

)

 

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NOTE 14 – Shareholders’ Equity

Share count and par value data related to shareholders’ equity are as follows:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Preferred Stock

 

 

 

 

 

 

 

 

Par value per share

 

No par value

 

 

No par value

 

Shares authorized

 

 

25,000,000

 

 

 

25,000,000

 

Shares outstanding

 

 

 

 

 

 

Common Stock

 

 

 

 

 

 

 

 

Par value per share

 

No par value

 

 

No par value

 

Shares authorized

 

 

75,000,000

 

 

 

75,000,000

 

Shares issued

 

 

57,067,574

 

 

 

56,929,298

 

Shares outstanding

 

 

32,267,951

 

 

 

32,472,406

 

Treasury stock

 

 

 

 

 

 

 

 

Shares held

 

 

24,799,623

 

 

 

24,456,892

 

 

On February 7, 2019, the Board of Directors authorized a new stock repurchase program with a maximum dollar limit of $25,000 in stock repurchases, which replaced the previous program. During the nine months ended September 30, 2020 and 2019, 342,731 and 286,726 shares of common stock were repurchased for $8,080 and $8,045, respectively. Approximately $5,740 is available for future purchases.

A roll-forward of common shares outstanding is as follows:

 

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Balance at the beginning of the year

 

 

32,472,406

 

 

 

32,750,727

 

Repurchases

 

 

(342,731

)

 

 

(286,726

)

Restricted share issuances

 

 

138,276

 

 

 

137,888

 

Balance at the end of the period

 

 

32,267,951

 

 

 

32,601,889

 

 

Certain potentially dilutive restricted stock units are excluded from diluted earnings per share because they are anti-dilutive. The number of outstanding awards that were anti-dilutive for the nine months ended September 30, 2020 and 2019 were 68,198 and 20,273, respectively. There were no anti-dilutive awards outstanding for the three months ended September 30, 2020 and the three months ended September 30, 2019.

 

NOTE 15 - Stock-Based Compensation

At September 30, 2020, we had five active stock-based compensation plans: the Non-Employee Directors’ Stock Retirement Plan (“Directors’ Plan”), the 2004 Omnibus Long-Term Incentive Plan (“2004 Plan”), the 2009 Omnibus Equity and Performance Incentive Plan (“2009 Plan”), the 2014 Performance & Incentive Plan (“2014 Plan”), and the 2018 Equity and Incentive Compensation Plan ("2018 Plan"). Future grants can only be made under the 2018 Plan.

These plans allow for grants of stock options, stock appreciation rights, restricted stock, restricted stock units ("RSUs"), performance shares, performance units, and other stock awards subject to the terms of the specific plans under which the awards are granted.

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The following table summarizes the compensation expense included in selling, general and administrative expenses in the Condensed Consolidated Statements of Earnings related to stock-based compensation plans:

 

 

 

Three months ended

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Service-based RSUs

 

$

580

 

 

$

618

 

 

$

1,939

 

 

$

1,712

 

Performance-based RSUs

 

 

472

 

 

 

486

 

 

 

123

 

 

 

2,072

 

Cash-settled RSUs

 

 

67

 

 

 

53

 

 

 

102

 

 

 

166

 

Total

 

$

1,119

 

 

$

1,157

 

 

$

2,164

 

 

$

3,950

 

Income tax benefit

 

 

257

 

 

 

262

 

 

 

497

 

 

 

893

 

Net expense

 

$

862

 

 

$

895

 

 

$

1,667

 

 

$

3,057

 

 

The following table summarizes the unrecognized compensation expense related to non-vested RSUs by type and the weighted-average period in which the expense is to be recognized:

 

 

 

Unrecognized

 

 

 

 

 

 

 

Compensation

 

 

Weighted-

 

 

 

Expense at

 

 

Average

 

 

 

September 30, 2020

 

 

Period

 

Service-based RSUs

 

$

1,989

 

 

 

1.43

 

Performance-based RSUs

 

 

2,311

 

 

 

1.90

 

Total

 

$

4,300

 

 

 

1.68

 

 

We recognize expense on a straight-line basis over the requisite service period for each separately vesting portion of the award as if the award was, in substance, multiple awards.

The following table summarizes the status of these plans as of September 30, 2020:

 

 

2018 Plan

 

 

2014 Plan

 

 

2009 Plan

 

 

2004 Plan

 

 

Directors'

Plan

 

Awards originally available

 

 

2,500,000

 

 

 

1,500,000

 

 

 

3,400,000

 

 

 

6,500,000

 

 

N/A

 

Performance-based options outstanding

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Maximum potential RSU and cash settled

   awards outstanding

 

 

495,246

 

 

 

179,528

 

 

 

75,200

 

 

 

35,952

 

 

 

5,522

 

Maximum potential awards outstanding

 

 

495,246

 

 

 

179,528

 

 

 

75,200

 

 

 

35,952

 

 

 

5,522

 

RSUs and cash settled awards vested and released

 

 

36,471

 

 

 

 

 

 

 

 

 

 

 

 

 

Awards available for grant

 

 

1,968,283

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Service-Based Restricted Stock Units

The following table summarizes the service-based RSU activity for the nine months ended September 30, 2020:

 

 

 

Units

 

 

Weighted

Average

Grant Date

Fair Value

 

Outstanding at December 31, 2019

 

 

364,396

 

 

$

19.87

 

Granted

 

 

92,996

 

 

 

27.73

 

Vested and released

 

 

(91,762

)

 

 

22.76

 

Forfeited

 

 

(13,997

)

 

 

28.70

 

Outstanding at September 30, 2020

 

 

351,633

 

 

$

20.84

 

Releasable at September 30, 2020

 

 

185,974

 

 

$

14.63

 

 

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Performance and Market-Based Restricted Stock Units

The following table summarizes the performance and market-based RSU activity for the nine months ended September 30, 2020:

 

 

 

Units

 

 

Weighted

Average

Grant Date

Fair Value

 

Outstanding at December 31, 2019

 

 

217,229

 

 

$

27.73

 

Granted

 

 

126,521

 

 

 

28.37

 

Attained by performance

 

 

38,820

 

 

 

23.84

 

Released

 

 

(111,838

)

 

 

23.74

 

Forfeited

 

 

(40,673

)

 

 

29.34

 

Outstanding at September 30, 2020

 

 

230,059

 

 

$

28.94

 

Releasable at September 30, 2020

 

 

 

 

$

 

 

The following table summarizes each grant of performance awards outstanding at September 30, 2020.

 

Description

 

Grant Date

 

Vesting

Year

 

Vesting Dependency

 

Target Units

Outstanding

 

 

Maximum

Number

of Units

to be Granted

 

2018 - 2020 Performance RSUs

 

February 8, 2018

 

2020

 

35% RTSR, 35% sales growth,

30% operating cash flow

 

 

22,082

 

 

 

44,164

 

2018 - 2020 Performance RSUs

 

February 16, 2018

 

2020

 

35% RTSR, 35% sales growth,

30% operating cash flow

 

 

31,820

 

 

 

63,640

 

2019 - 2021 Performance RSUs

 

February 7, 2019

 

2021

 

35% RTSR, 35% sales growth,

30% operating cash flow

 

 

50,456

 

 

 

100,912

 

2019 Supplemental Performance RSUs

 

February 7, 2019

 

2021

 

Succession Planning Targets

 

 

6,945

 

 

 

13,890

 

2020 - 2022 QTI Performance RSUs

 

September 24, 2019

 

2022

 

50% EBITDA growth,

50% Sales growth

 

 

1,750

 

 

 

3,500

 

2020 - 2022 Performance RSUs

 

February 6, 2020

 

2022

 

25% RTSR, 40% sales growth,

35% operating cash flow

 

 

63,006

 

 

 

126,012

 

Focus 2025 Performance RSUs

 

April 23, 2020

 

2024

 

Cumulative revenues of $750

million over a trailing

four-quarter period

 

 

54,000

 

 

 

54,000

 

Total

 

 

 

 

 

 

 

 

230,059

 

 

 

406,118

 

 

Cash-Settled Restricted Stock Units

Cash-Settled RSUs entitle the holder to receive the cash equivalent of one share of common stock for each unit when the unit vests. These RSUs are issued to key employees residing in foreign locations as direct compensation. Generally, these RSUs vest over a three-year period. Cash-Settled RSUs are classified as liabilities and are remeasured at each reporting date until settled. At September 30, 2020 and December 31, 2019 we had 33,697 and 17,271 cash-settled RSUs outstanding, respectively. At September 30, 2020 and December 31, 2019, liabilities of $221 and $353, respectively, were included in Accrued expenses and other liabilities on our Condensed Consolidated Balance Sheets.

NOTE 16 — Fair Value Measurements

We use interest rate swaps to convert a portion of our Revolving Credit Facility’s outstanding balance from a variable rate of interest into a fixed rate and foreign currency forward contracts to hedge the effect of foreign currency changes on certain revenues and costs denominated in foreign currencies. These derivative financial instruments are measured at fair value on a recurring basis.  Due to changes in interest rates and foreign exchange rates, these fair values fluctuated significantly during the second and third quarters and may continue to fluctuate based on market conditions and other factors.

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The table below summarizes our financial liabilities that were measured at fair value on a recurring basis at September 30, 2020:

 

 

 

 

 

 

 

Quoted

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Prices

 

 

 

 

 

 

 

 

 

 

 

Liability

 

 

in Active

 

 

Significant

 

 

 

 

 

 

 

Carrying

 

 

Markets for

 

 

Other

 

 

Significant

 

 

 

Value at

 

 

Identical

 

 

Observable

 

 

Unobservable

 

 

 

September 30,

 

 

Instruments

 

 

Inputs

 

 

Inputs

 

 

 

2020

 

 

(Level 1)

 

 

(Level 2)

 

 

(Level 3)

 

Interest rate swaps

 

$

(2,460

)

 

$

 

 

$

(2,460

)

 

$

 

Foreign currency hedges

 

$

(615

)

 

$

 

 

$

(615

)

 

$

 

 

The table below summarizes the financial assets that were measured at fair value on a recurring basis as of December 31, 2019:

 

 

 

 

 

 

 

Quoted

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Prices

 

 

 

 

 

 

 

 

 

 

 

Asset

 

 

in Active

 

 

Significant

 

 

 

 

 

 

 

Carrying

 

 

Markets for

 

 

Other

 

 

Significant

 

 

 

Value at

 

 

Identical

 

 

Observable

 

 

Unobservable

 

 

 

December 31,

 

 

Instruments

 

 

Inputs

 

 

Inputs

 

 

 

2019

 

 

(Level 1)

 

 

(Level 2)

 

 

(Level 3)

 

Interest rate swaps

 

$

4

 

 

$

 

 

$

4

 

 

$

 

Foreign currency hedges

 

$

580

 

 

$

 

 

$

580

 

 

$

 

 

The fair value of our interest rate swaps and foreign currency hedges were measured using standard valuation models using market-based observable inputs over the contractual terms, including forward yield curves, among others. There is a readily determinable market for these derivative instruments, but that market is not active and therefore they are classified within Level 2 of the fair value hierarchy.

Our long-term debt consists of the Revolving Credit Facility which is recorded at its carrying value. There is a readily determinable market for our long-term debt and it is classified within Level 2 of the fair value hierarchy as the market is not deemed to be active. The fair value of long-term debt approximates carrying value and was determined by valuing a similar hypothetical coupon bond and attributing that value to our long-term debt under the revolving credit facility.

NOTE 17 — Income Taxes

The effective tax rates for the three and nine months ended September 30, 2020 and 2019 are as follows:

 

 

 

Three months ended

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Effective tax rate

 

 

22.2

%

 

 

62.2

%

 

 

24.4

%

 

 

30.3

%

 

Our effective income tax rate was 22.2% and 62.2% in the third quarters of 2020 and 2019, respectively. This decrease is primarily attributed to the change in the mix of earnings by jurisdiction and the 2019 increase to reserves for uncertain tax position associated with the company’s operations in China. The third quarter 2020 tax rate was higher than the U.S. statutory federal tax rate primarily due to foreign withholding taxes, state taxes and foreign earnings that are taxed at higher rates.

Our effective income tax rate was 24.4%% and 30.3% in the first nine months of 2020 and 2019, respectively. This decrease is primarily attributed to the change in the mix of earnings by jurisdiction, decreases in uncertain tax position offset by the establishment of valuation allowance on certain U.S. tax credits and the Company’s decision to no longer permanently reinvest the earnings of its Taiwan subsidiary. The tax rate in the first nine months of 2020 was higher than the U.S statutory federal tax rate primarily due to the establishment of valuation allowances on certain U.S. tax credits and the Company’s decision to no longer permanently reinvest the earnings of its Taiwan subsidiary. The tax rate in the first nine months of 2019 was higher than the U.S. statutory federal tax rate primarily due to an increase to reserves for uncertain tax positions associated with the Company’s operations in China and foreign earnings that are taxed at higher rates.

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NOTE 18 — Leases

We lease certain land, buildings and equipment under non-cancellable operating leases used in our operations. Operating lease assets represent our right to use an underlying asset for the lease term. Operating lease liabilities represent the present value of lease payments over the lease term, discounted using an estimate of our secured incremental borrowing rate because none of our leases contain a rate implicit in the lease arrangement.

In accordance with FASB Staff Q&A - Topic 842 and Topic 840: Accounting for Lease Concessions Related to the Effects of the COVID-19 Pandemic ("FASB Staff Q&A") issued in April 2020, we have elected to account for any lease concessions resulting directly from COVID-19 as if the enforceable rights and obligations for the concessions existed in the respective contracts at lease inception and as such we will not account for any concession as a lease modification. Guidance from the FASB Staff Q&A provided methods to account for rent deferrals which include the option to treat the lease as if no changes to the lease contract were made or to treat deferred payments as variable lease payments. The FASB Staff Q&A allows entities to select the most practical approach and does not require the same approach be applied consistently to all leases. As a result, we have accounted for lease deferrals as if no changes to the lease contract were made and will continue to recognize lease expense, on a straight-line basis, during the deferral periods. During the three and nine months ended September 30, 2020, these rent concessions related to COVID-19 were not material.

Components of lease expense for the three and nine months ended September 30, 2020 were as follows:

 

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Operating lease cost

 

$

1,189

 

 

$

1,128

 

 

$

3,578

 

 

$

3,197

 

Short-term lease cost

 

 

471

 

 

 

43

 

 

 

808

 

 

 

292

 

Total lease cost

 

$

1,660

 

 

$

1,171

 

 

$

4,386

 

 

$

3,489

 

 

Supplemental cash flow information related to leases was as follows:

 

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Cash paid for amounts included in the measurement of lease

   liabilities

 

$

3,476

 

 

$

2,887

 

Leased assets obtained in exchange for new operating lease

   liabilities

 

$

1,299

 

 

$

2,961

 

 

Supplemental balance sheet information related to leases was as follows:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Balance Sheet Classification:

 

 

 

 

 

 

 

 

Operating lease obligations

 

$

3,149

 

 

$

2,787

 

Long-term operating lease obligations

 

 

23,747

 

 

 

24,926

 

Total lease liabilities

 

$

26,896

 

 

$

27,713

 

Weighted-average remaining lease terms (years)

 

 

8.16

 

 

 

9.04

 

Weighted-average discount rate

 

 

6.45

%

 

 

6.54

%

 

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Remaining maturity of our existing lease liabilities as of September 30, 2020 is as follows:

 

 

 

Operating

Leases(1)

 

2020

 

$

1,183

 

2021

 

 

4,728

 

2022

 

 

4,589

 

2023

 

 

4,213

 

2024

 

 

4,075

 

Thereafter

 

 

16,950

 

Total

 

$

35,738

 

Less: interest

 

 

(8,842

)

Present value of lease liabilities

 

$

26,896

 

 

(1)

Operating lease payments include $3,822 of payments related to options to extend lease terms that are reasonably expected to be exercised.

NOTE 19 – Business Acquisitions

On July 31, 2019, we acquired 100% of the outstanding shares of Quality Thermistor, Inc. ("QTI") for $75 million plus a contingent earn out of up to $5 million based on sales performance objectives. The purchase price included adjustments for debt assumed and changes in working capital. QTI, doing business as QTI Sensing Solutions, is a leading designer and manufacturer of high-quality temperature sensors serving original equipment manufacturers with mission-critical applications in the industrial, aerospace, defense and medical markets. This acquisition provided us with a new core temperature sensing technology that expands our sensing product portfolio, while increasing our presence in the industrial and medical markets.

The final purchase price of $73,906 was allocated to the fair values of assets and liabilities acquired as of July 31, 2019.

The following table summarizes the consideration paid and the fair values of the assets acquired and the liabilities assumed as of the date of acquisition:

 

 

 

Consideration

Paid

 

Cash paid, net of cash acquired of $567

 

$

72,850

 

Contingent consideration

 

 

1,056

 

Purchase price

 

$

73,906

 

 

 

 

Fair Values at

July 31, 2019

 

Current assets

 

$

6,221

 

Property, plant and equipment

 

 

2,567

 

Other assets

 

 

29

 

Goodwill

 

 

34,999

 

Intangible assets

 

 

32,800

 

Fair value of assets acquired

 

 

76,616

 

Less fair value of liabilities acquired

 

 

(2,710

)

Purchase price

 

$

73,906

 

 

Goodwill represents value the Company expects to be created by combining the operations of the acquired business with the Company's operations, including the expansion of customer relationships within our existing business, access to new customers, and potential cost savings and synergies. Goodwill related to the acquisition is expected to be deductible for tax purposes.

The contingent earn out was payable in cash upon the achievement of a revenue performance target for the year ending December 31, 2019. The Company recorded contingent consideration for the earn out of $1,056 based on the achievement performance target for the full year 2019 results. This amount is reflected as an addition to the purchase price.

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The following table summarizes the carrying amounts and weighted average lives of the acquired intangible assets:

 

 

 

Carrying

Value

 

 

Weighted

Average

Amortization

Period

 

Customer lists/relationships

 

$

31,000

 

 

 

15.0

 

Technology and other intangibles

 

 

1,800

 

 

 

5.0

 

Total

 

$

32,800

 

 

 

 

 

 

NOTE 20 — Recent Accounting Pronouncements

Accounting Pronouncements Recently Adopted

ASU No. 2018-13 "Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement"

In August 2018, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update ("ASU") No. 2018-13 "Fair Value Measurement (Topic 820): Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement". This ASU modified the disclosures related to recurring and nonrecurring fair value measurements. Disclosures related to the transfer of assets between Level 1 and Level 2 hierarchies have been eliminated and various additional disclosures related to Level 3 fair value measurements have been added, modified or removed. This ASU is effective for annual periods beginning after December 15, 2019, and interim periods within those fiscal years. We adopted this ASU on January 1, 2020 and it did not have a material impact on our financial statements.

ASU No. 2016-16 "Income Taxes (Topic 740) Intra-Entity Transfers of Assets Other Than Inventory"

In October 2016, the FASB issued ASU No. 2016-16, "Intra-Entity Transfers of Assets Other Than Inventory". This ASU is meant to improve the accounting for the income tax effect of intra-entity transfers of assets other than inventory. Currently, U.S. GAAP prohibits the recognition of current and deferred income taxes for intra-entity asset transfers until the asset is sold to a third party. This ASU will now require companies to recognize the income tax effect of an intra-entity asset transfer (other than inventory) when the transaction occurs. This ASU is effective for public companies for fiscal years beginning after December 15, 2019 and interim periods within those annual reporting periods and is to be applied on a modified retrospective basis through a cumulative-effect adjustment to retained earnings as of the beginning of the period of adoption. We adopted this ASU on January 1, 2020 and it did not have a material impact on our financial statements.

ASU 2016-13 "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments"

In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, which amends the current accounting guidance and requires the measurement of all expected losses based on historical experience, current conditions and reasonable and supportable forecasts. For trade receivables, loans, and other financial instruments, we will be required to use a forward-looking expected loss model that reflects losses that are probable rather than the incurred loss model for recognizing credit losses. The standard became effective for interim and annual periods beginning after December 15, 2019. Application of the amendments is through a cumulative-effect adjustment to retained earnings as of the effective date. We adopted this ASU on January 1, 2020 and it did not have a material impact on our financial statements.

Recently Issued Accounting Pronouncements

ASU No. 2020-04 "Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting"

In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting”, which provides temporary optional guidance for a limited period of time to ease the potential burden in accounting for (or recognizing the effects of) reference rate reform on financial reporting as it relates to our LIBOR indexed instruments. ASU 2020-04 provides optional expedients and exceptions for applying U.S. GAAP to contracts, hedging relationships, and other transactions affected by reference rate reform if certain criteria are met. ASU 2020-04 is effective for all entities as of March

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Table of Contents

 

12, 2020 through December 31, 2022, and an entity may elect to apply ASU 2020-04 for contract modifications by Topic or Industry Subtopic as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020, or prospectively from a date within an interim period that includes or is subsequent to March 12, 2020, up to the date that the financial statements are available to be issued. We are currently evaluating the potential impact of adopting this guidance on our consolidated financial statements.

ASU No. 2019-12 "Simplifying the Accounting for Income Taxes"

In December 2019, the FASB issued ASU 2019-12, Simplifying the Accounting for Income Taxes, as part of its simplification initiative to reduce the cost and complexity in accounting for income taxes. ASU 2019-12 removes 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. ASU 2019-12 also amends other aspects of the guidance to help simplify and promote consistent application of GAAP. The guidance is effective for interim and annual periods beginning after December 15, 2020, with early adoption permitted. We are currently evaluating the impact of this ASU on our financial statements.

ASU No. 2018-14 "Compensation - Retirement Benefits - Defined Benefit Plans - General"

In August 2018, the FASB issued ASU No. 2018-14, "Compensation - Retirement Benefits - Defined Benefit Plans - General." This ASU modifies the disclosure requirements for defined benefit and other postretirement plans. This ASU eliminates certain disclosures associated with accumulated other comprehensive income, plan assets, related parties, and the effects of interest rate basis point changes on assumed health care costs; while other disclosures have been added to address significant gains and losses related to changes in benefit obligations. This ASU also clarifies disclosure requirements for projected benefit and accumulated benefit obligations. The amendments in this ASU are effective for fiscal years ending after December 15, 2020 and for interim periods therein with early adoption permitted. Adoption on a retrospective basis for all periods presented is required. This ASU will impact our annual financial statement disclosures but will not impact our interim financial statements and does not have an impact on our consolidated financial position, results of operations, or cash flows.

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Table of Contents

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”)

(in thousands, except percentages and per share amounts)

The following discussion should be read in conjunction with our unaudited Condensed Consolidated Financial Statements and notes included under Item 1, as well as our Consolidated Financial Statements and notes and related Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ended December 31, 2019.

Overview

CTS Corporation is a leading designer and manufacturer of products that Sense, Connect and Move. Our vision is to be a leading provider of sensing and motion devices as well as connectivity components, enabling an intelligent and seamless world. These devices are categorized by their ability to Sense, Connect or Move. Sense products provide vital inputs to electronic systems. Connect products allow systems to function in synchronization with other systems. Move products ensure required movements are effectively and accurately executed. We are committed to achieving our vision by continuing to invest in the development of products and technologies within these categories.

We manufacture sensors, actuators, and electronic components in North America, Europe, and Asia. CTS provides engineered products to OEMs and tier one suppliers in the aerospace and defense, industrial, information technology, medical, telecommunications, and transportation markets.

There is an increasing proliferation of sensing and motion applications within various markets we serve. In addition, the increasing connectivity of various devices to the internet results in greater demand for communication bandwidth and data storage, increasing the need for our connectivity products. Our success is dependent on the ability to execute our strategy to support these trends. We are subject to challenges including periodic market softness, competition from other suppliers, changes in technology, and the ability to add new customers, launch new products or penetrate new markets.

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Impact of COVID-19

The COVID-19 pandemic has resulted in a significant disruption to the global economy that has and is likely to have continued adverse impact on our business. We have experienced reductions in customer demand in several of our end markets. We expect that social distancing measures, high employee absenteeism, and reductions in production due to mandated labor capacity restrictions at some of our plants in Europe and North America, as well as the reduced operational capacity of our customers and suppliers, could impact our business in the fourth quarter and into 2021. As a result of these economic headwinds, we have implemented cost savings measures, some of which are temporary in nature. We continue to evaluate market conditions to determine the extent and duration of the temporary measures. The pandemic could lead to an extended disruption of economic activity and the impact on our consolidated results of operations, financial position and cash flows could be material. In the third quarter of 2020, we saw a significant recovery in revenue from the levels in the second quarter of 2020. However, we remain cautious about the revenue impact in the next several quarters.

Results of Operations: Third Quarter 2020 versus Third Quarter 2019

The following table highlights changes in significant components of the Unaudited Condensed Consolidated Statements of Earnings for the quarters ended September 30, 2020, and September 30, 2019:

 

 

 

Three Months Ended

 

 

 

 

 

 

Percent of

 

 

Percent of

 

 

 

September 30,

 

 

September 30,

 

 

Percent

 

 

Net Sales –

 

 

Net Sales –

 

 

 

2020

 

 

2019

 

 

Change

 

 

2020

 

 

2019

 

Net sales

 

$

113,777

 

 

$

115,651

 

 

 

(2.0

)%

 

 

100.0

%

 

 

100.0

%

Cost of goods sold

 

 

76,871

 

 

 

78,594

 

 

 

(0.0

)

 

 

67.6

 

 

 

68.0

 

Gross margin

 

 

36,906

 

 

 

37,057

 

 

 

0.0

 

 

 

32.4

 

 

 

32.0

 

Selling, general and administrative expenses

 

 

16,883

 

 

 

17,774

 

 

 

(0.1

)

 

 

14.8

 

 

 

15.4

 

Research and development expenses

 

 

5,723

 

 

 

6,806

 

 

 

(0.2

)

 

 

5.0

 

 

 

5.9

 

Restructuring charges

 

 

1,041

 

 

 

2,342

 

 

 

(0.6

)

 

 

0.9

 

 

 

2.0

 

Loss on sale of assets

 

 

 

 

 

11

 

 

 

(1.0

)

 

 

 

 

 

 

Total operating expenses

 

 

23,647

 

 

 

26,933

 

 

 

(0.1

)

 

 

20.8

 

 

 

23.3

 

Operating earnings

 

 

13,259

 

 

 

10,124

 

 

 

0.3

 

 

 

11.7

 

 

 

8.8

 

Total other income (expense), net

 

 

977

 

 

 

(2,924

)

 

 

(1.3

)

 

 

0.9

 

 

 

(2.5

)

Earnings before income taxes

 

 

14,236

 

 

 

7,200

 

 

 

1.0

 

 

 

12.5

 

 

 

6.2

 

Income tax expense

 

 

3,163

 

 

 

4,478

 

 

 

(0.3

)

 

 

2.8

 

 

 

3.9

 

Net earnings

 

$

11,073

 

 

$

2,722

 

 

 

307.0

%

 

 

9.7

%

 

 

2.4

%

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted net earnings per share

 

$

0.34

 

 

$

0.08

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales were $113,777 in the third quarter of 2020, a decrease of $1,874 or 2.0% from the third quarter of 2019. Sales were negatively impacted as a result of the COVID-19 pandemic and government activities to control its spread.  In the third quarter of 2020 we continued to see negative impacts from labor restrictions, as well as challenges from supply chain disruptions and weaker demand from certain customers, primarily in the transportation end market. These economic impacts are ongoing and continue to have an effect on our operations, which we are currently unable to quantify.

Sales to transportation markets decreased $6,282 or 8.8%. Sales to other markets increased $4,408 or 10.0%. The QTI acquisition, which was completed in July 2019, added $6,560 in sales for the quarter compared to $3,670 in the third quarter of 2019. Changes in foreign exchange rates increased sales by $718 year-over-year due to the U.S. Dollar depreciating compared to the Chinese Renminbi and Euro.

Gross margin as a percent of sales was 32.4% in the third quarter of 2020 compared to 32.0% in the third quarter of 2019. The increase in gross margin was driven primarily by various cost reduction measures.

Selling, general and administrative ("SG&A") expenses were $16,883 or 14.8% of sales in the third quarter of 2020 versus $17,774 or 15.4% of sales in the third quarter of 2019. The 2020 SG&A costs include savings from cost reduction measures we implemented during the third quarter, partially offset by amortization of intangibles and other operating costs associated with the QTI acquisition.

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Research and development expenses were $5,723 or 5.0% of sales in the third quarter of 2020 compared to $6,806 or 5.9% of sales in the comparable quarter of 2019.

Restructuring charges were $1,041 or 0.9% of sales in the third quarter of 2020 and were as a result of certain initiatives initiated in the third quarter of 2020 to better align our cost structure with lower end-market demand. The restructuring actions are focused on optimizing our manufacturing footprint and improving operational efficiency by better utilizing our systems capabilities. Restructuring charges were $2,342 or 2.0% of sales in the third quarter of 2019.

Operating earnings were $13,259 or 11.7% of sales in the third quarter of 2020 compared to operating earnings of $10,124 or 8.8% of sales in the third quarter of 2019.

Other income and expense items are summarized in the following table:

 

 

 

Three Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Interest expense

 

$

(857

)

 

$

(812

)

Interest income

 

 

217

 

 

 

524

 

Other income (expense), net

 

 

1,617

 

 

 

(2,636

)

Total income other (expense), net

 

$

977

 

 

$

(2,924

)

 

Interest income declined as a result of lower interest rates and foreign cash balances. Other income in the third quarter of 2020 was principally driven by foreign currency translation gains, mainly due to the depreciation of the U.S. Dollar compared to the Chinese Renminbi and Euro during the quarter, which were partially offset by pension expense.

 

 

 

Three months ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Effective tax rate

 

 

22.2

%

 

 

62.2

%

 

Our effective income tax rate was 22.2% and 62.2% in the third quarters of 2020 and 2019, respectively. This decrease is primarily attributed to the change in the mix of earnings by jurisdiction and the 2019 increase to reserves for uncertain tax position associated with the company’s operations in China.

Results of Operations: Nine Months ended September 30, 2020 versus Nine Months Ended September 30, 2019

The following table highlights changes in significant components of the Unaudited Condensed Consolidated Statements of Earnings for the nine months ended September 30, 2020 and 2019:

 

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Nine Months Ended

 

 

 

 

 

 

Percent of

 

 

Percent of

 

 

 

September 30,

 

 

September 30,

 

 

Percent

 

 

Net Sales –

 

 

Net Sales –

 

 

 

2020

 

 

2019

 

 

Change

 

 

2020

 

 

2019

 

Net sales

 

$

301,049

 

 

$

353,959

 

 

 

(15.0

)%

 

 

100.0

%

 

 

100.0

%

Cost of goods sold

 

 

204,677

 

 

 

235,084

 

 

 

(0.1

)

 

 

68.0

 

 

 

66.4

 

Gross margin

 

 

96,372

 

 

 

118,875

 

 

 

(0.2

)

 

 

32.0

 

 

 

33.6

 

Selling, general and administrative expenses

 

 

48,310

 

 

 

52,371

 

 

 

(0.1

)

 

 

16.0

 

 

 

14.8

 

Research and development expenses

 

 

18,653

 

 

 

19,854

 

 

 

(0.1

)

 

 

6.2

 

 

 

5.6

 

Restructuring charges

 

 

1,416

 

 

 

5,337

 

 

 

(0.7

)

 

 

0.5

 

 

 

1.5

 

Gain on sale of assets

 

 

 

 

 

(111

)

 

 

(1.0

)

 

 

 

 

 

 

Total operating expenses

 

 

68,379

 

 

 

77,451

 

 

 

(0.1

)

 

 

22.7

 

 

 

21.9

 

Operating earnings

 

 

27,993

 

 

 

41,424

 

 

 

(0.3

)

 

 

9.3

 

 

 

11.7

 

Total other (expense), net

 

 

(1,874

)

 

 

(3,995

)

 

 

(0.5

)

 

 

(0.6

)

 

 

(1.1

)

Earnings before income taxes

 

 

26,119

 

 

 

37,429

 

 

 

(0.3

)

 

 

8.7

 

 

 

10.6

 

Income tax expense

 

 

6,381

 

 

 

11,345

 

 

 

(0.4

)

 

 

2.1

 

 

 

3.2

 

Net earnings

 

$

19,738

 

 

$

26,084

 

 

 

(24.0

)%

 

 

6.6

%

 

 

7.4

%

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted net earnings per share

 

$

0.61

 

 

$

0.79

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales were $301,049 in the nine months ended September 30, 2020, a decrease of $52,910 or 15.0% from the nine months ended September 30, 2019. Sales were negatively impacted as a result of the COVID-19 pandemic and government activities to control its spread. In the first three quarters of the year, we were impacted by: (1) successively mandated closures of or labor restrictions at our plants in China, Europe and North America, (2) supply chain disruptions resulting from the closure of a number of our suppliers in China and in North America, and (3) weak demand from certain customers as a result of their mandated or elective plant closures. We remain cautious about the impact of these disruptions on our operations in the next several quarters, which we are currently unable to quantify.

Sales to transportation markets decreased $65,803 or 28.5%.  Sales to other markets increased $12,893 or 10.5%. The QTI acquisition, which was completed in July 2019, added $17,555 in sales for the nine months ended September 30, 2020 compared to $3,670 for the nine months ended September 30, 2019. Changes in foreign exchange rates decreased sales by $599 year-over-year due to the U.S. Dollar appreciating compared to the Chinese Renminbi.

Gross margin as a percent of sales was 32.0% for the nine months ended September 30, 2020 compared to 33.6% for nine months ended September 30, 2019. The decrease in gross margin was driven primarily by lower sales volumes, which was partially offset by various cost reduction measures.

Selling, general and administrative ("SG&A") expenses were $48,310 or 16.0% of sales for the nine months ended September 30, 2020 versus $52,371 or 14.8% of sales for the nine months ended September 30, 2019. The 2020 SG&A costs include savings from cost reduction measures we implemented during the second and third quarters, partially offset by amortization of intangibles and other operating costs associated with the QTI acquisition.

Research and development expenses were $18,653 or 6.2% of sales for the nine months ended September 30, 2020 compared to $19,854 or 5.6% of sales for the nine months ended September 30, 2019.

Restructuring charges were $1,416 or 0.5% of sales for the nine months ended September 30, 2020 and were primarily as a result of certain initiatives initiated in the third quarter of 2020 to better align our cost structure with lower end-market demand. The restructuring actions are focused on optimizing our manufacturing footprint and improving operational efficiency by better utilizing our systems capabilities. Restructuring charges were $5,337 or 1.5% of sales for nine months ended September 30, 2019.

Operating earnings were $27,993 or 9.3% of sales for the nine months ended September 30, 2020 compared to operating earnings of $41,424 or 11.7% of sales for the nine months ended September 30, 2019.

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Other income and expense items are summarized in the following table:

 

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Interest expense

 

$

(2,617

)

 

$

(1,745

)

Interest income

 

 

852

 

 

 

1,396

 

Other (expense), net

 

 

(109

)

 

 

(3,646

)

Total other (expense), net

 

$

(1,874

)

 

$

(3,995

)

 

Interest expense increased mainly as a result of an increase in debt related to the QTI acquisition and additional borrowings at the end of the first quarter to ensure adequate liquidity for the next several quarters. Interest income declined as a result of lower interest rates and foreign cash balances. The Other (expense) income, net for the nine months ended September 30, 2020 was principally driven by foreign currency translation gains, mainly due to the depreciation of the U.S. Dollar compared to the Chinese Renminbi and Euro, which were partially offset by pension expense.

 

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

Effective tax rate

 

 

24.4

%

 

 

30.3

%

 

Our effective income tax rate was 24.4% and 30.3% in the nine months ended September 30, 2020 and 2019, respectively. This decrease is primarily attributed to the change in the mix of earnings by jurisdiction, decreases in uncertain tax position offset by the establishment of valuation allowances on certain U.S. tax credits and the company's decision to no longer permanently reinvest the earnings of its Taiwan subsidiary.

Liquidity and Capital Resources

Cash and cash equivalents were $131,740 at September 30, 2020, and $100,241 at December 31, 2019, of which $89,621 and $98,309, respectively, were held outside the United States. The increase in cash and cash equivalents of $31,499 was primarily driven by cash generated from operating activities of $49,297 and net proceeds from an increase in borrowings of long-term debt of $6,600, which were partially offset by treasury stock purchases of $8,080, capital expenditures of $10,441, dividends paid of $3,888, and taxes paid on behalf of equity award participants of $1,911. Total long-term debt was $106,300 as of September 30, 2020 and $99,700 as of December 31, 2019. Total debt as a percentage of total capitalization, defined as long-term debt as a percentage of total debt and shareholders' equity, was 20.4% at September 30, 2020, compared to 19.7% at December 31, 2019.

We increased our cash position during the first quarter to improve liquidity given the current economic environment.  Our net debt, defined as long-term debt less cash and cash equivalents, was $(25,440) at September 30, 2020.  We currently have $191,960 available for additional borrowings under our credit facility.

Working capital increased by $28,034 during the nine months ended September 30, 2020, primarily due to the increase in cash and cash equivalents from borrowings under our credit facility.

Cash Flows from Operating Activities

Net cash provided by operating activities was $49,297 during the nine months ended September 30, 2020. Components of net cash provided by operating activities included net earnings of $19,738, depreciation and amortization expense of $19,819, other net non-cash items of $4,818, and a net cash inflow from changes in assets and liabilities of $4,922.

Cash Flows from Investing Activities

Net cash used in investing activities for the nine months ended September 30, 2020 was $10,441, driven entirely by capital expenditures.

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Cash Flows from Financing Activities

Net cash used in financing activities for the nine months ended September 30, 2020 was $7,279. The net cash outflow was the result of treasury stock purchases of $8,080, dividends paid of $3,888, and taxes paid on behalf of equity award participants in the amount of $1,911, which was partially offset by net proceeds from an increase in borrowings of long-term debt of $6,600.

Capital Resources

Long‑term debt is comprised of the following:

 

 

 

As of

 

 

 

September 30,

 

 

December 31,

 

 

 

2020

 

 

2019

 

Total credit facility

 

$

300,000

 

 

$

300,000

 

Balance outstanding

 

 

106,300

 

 

 

99,700

 

Standby letters of credit

 

 

1,740

 

 

 

1,800

 

Amount available, subject to covenant restrictions

 

$

191,960

 

 

$

198,500

 

Weighted-average interest rate

 

 

2.00

%

 

 

3.25

%

Commitment fee percentage per annum

 

 

0.25

%

 

 

0.23

%

 

Our Credit Agreement provides for a revolving credit facility of $300,000 which may be increased by $150,000 at the request of the Company, subject to the administrative agent's approval.

We have entered into interest rate swap agreements to fix interest rates on $50,000 of long-term debt through February 2024. The difference to be paid or received under the terms of the swap agreements is recognized as an adjustment to interest expense when settled.

We have historically funded our capital and operating needs primarily through cash flows from operating activities, supported by available credit under our revolving credit facility. We believe that cash flows from operating activities and available borrowings under our credit facility will be adequate to fund our working capital needs, capital expenditures, and debt service requirements for at least the next twelve months. However, we may choose to pursue additional equity and debt financing to provide additional liquidity or to fund acquisitions.

Critical Accounting Policies and Estimates

Management prepared the condensed consolidated financial statements under accounting principles generally accepted in the United States of America. These principles require the use of estimates, judgments, and assumptions. We believe that the estimates, judgments, and assumptions we used are reasonable, based upon the information available.

Our estimates and assumptions affect the reported amounts in our financial statements. The following accounting policies comprise those that we believe are the most critical in understanding and evaluating our reported financial results.

Revenue Recognition

Product revenue is recognized when the transfer of promised goods to a customer occurs in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods. We follow the five step model to determine when this transfer has occurred: 1) identify the contract(s) with the customer; 2) identify the performance obligations in the contract; 3) determine the transaction price; 4) allocate the transaction price to the performance obligations in the contract; 5) recognize revenue when (or as) the entity satisfies a performance obligation.

Product Warranties

Provisions for estimated warranty expenses primarily related to our automotive products are made at the time products are sold. These estimates are established using a quoted industry rate. We adjust our warranty reserve for any known or anticipated warranty claims as new information becomes available. We evaluate our warranty obligations at least quarterly and adjust our accruals if it is

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probable that future costs will be different than our current reserve. Over the last three years, product warranty reserves have ranged from 2.0% to 3.2% of total sales. We believe our reserve level is appropriate considering all facts and circumstances surrounding any outstanding quality claims and our historical experience selling our products to our customers.

Accounts Receivable

We have standardized credit granting and review policies and procedures for all customer accounts, including:

 

Credit reviews of all new customer accounts,

 

Ongoing credit evaluations of current customers,

 

Credit limits and payment terms based on available credit information,

 

Adjustments to credit limits based upon payment history and the customer's current credit worthiness,

 

An active collection effort by regional credit functions, reporting directly to the corporate financial officers, and;

 

Limited credit insurance on the majority of our international receivables.

We reserve for estimated credit losses based on historical experience, specific customer collection issues, current conditions and reasonable and supportable forecasts that affect the collectability of the remaining cash flows over the contractual terms of our receivables and other financial assets. Over the last three years, accounts receivable reserves have been approximately 0.1% to 1.1% of total accounts receivable. We believe our reserve level is appropriate considering the quality of the portfolio. While credit losses have historically been within expectations of the reserves established, we cannot guarantee that our credit loss experience will continue to be consistent with historical experience or our current forecasts.

Inventories

We value our inventories at the lower of the actual cost to purchase or manufacture using the first-in, first-out ("FIFO") method, or net realizable value. We review inventory quantities on hand and record a provision for excess and obsolete inventory based on forecasts of product demand and production requirements.

Over the last three years, our reserves for excess and obsolete inventories have ranged from 10.2% to 13.9% of gross inventory. We believe our reserve level is appropriate considering the quantities and quality of the inventories.

Retirement Plans

Actuarial assumptions are used in determining pension income and expense and our pension benefit obligation. We utilize actuaries from consulting companies in each applicable country to develop our discount rates that match high-quality bonds currently available and expected to be available during the period to maturity of the pension benefit in order to provide the necessary future cash flows to pay the accumulated benefits when due. After considering the recommendations of our actuaries, we have assumed a discount rate, expected rate of return on plan assets and a rate of compensation increase in determining our annual pension income and expense and the projected benefit obligation. During the fourth quarter of each year, we review our actuarial assumptions in light of current economic factors to determine if the assumptions need to be adjusted. Changes in the actuarial assumptions could have a material effect on our results of operations.

In February 2020, the CTS Board of Directors authorized management to explore termination of our U.S. based pension plan ("Plan") at management's discretion, subject to certain conditions. On June 1, 2020, we entered into the Fifth Amendment to the Plan whereby we set an effective termination date of July 31, 2020. The Plan termination process is expected to take twelve to eighteen months and requires certain approvals from both the Internal Revenue Service and Pension Benefit Guaranty Corporation. Once we receive such approvals, an insurance company will be selected to purchase annuities and fulfill the obligations of the Plan including administering payments to participants. Upon settlement of the pension liabilities, we will reclassify the related pension losses currently recorded in accumulated other comprehensive loss into earnings.  We do not expect any cash contributions from the Company to the Plan as a result of this termination because plan assets exceed estimated liabilities.

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Impairment of Goodwill

Goodwill of a reporting unit is tested for impairment annually, or more frequently if an event occurs or circumstances change that would more-likely-than-not reduce the fair value of a reporting unit below its carrying amount. Examples of such events or circumstances include, but are not limited to, the following:

 

Significant decline in market capitalization relative to net book value,

 

Significant adverse change in regulatory factors or in the business climate,

 

Unanticipated competition,

 

More-likely-than-not expectation that a reporting unit or a significant portion of a reporting unit will be sold or otherwise disposed of,

 

Testing for recoverability of a significant asset group within a reporting unit, and

 

Allocation of a portion of goodwill to a business to be disposed.

If we believe that one or more of the above indicators of impairment have occurred, we perform an impairment test. We have the option to perform a qualitative assessment (commonly referred to as "step zero" test) to determine whether further quantitative analysis for impairment of goodwill and indefinite-lived intangible assets is necessary. The qualitative assessment includes a review of macroeconomic conditions, industry and market considerations, internal cost factors, and our own overall financial and share price performance, among other factors. If, after assessing the totality of events or circumstances we determine that it is not more-likely-than-not that the fair value of a reporting unit is less than its carrying amount, we do not need to perform a quantitative analysis.

If a quantitative assessment is required, we estimate the fair value of each reporting unit using a combination of discounted cash flow analysis and market-based valuation methodologies. Determining fair value using a quantitative approach requires significant judgment, including judgments about projected revenues, operating expenses, working capital investment, capital expenditures, and cash flows over a multi-year period. The discount rate applied to our forecasts of future cash flows is based on our estimated weighted average cost of capital. In assessing the reasonableness of our determined fair values, we evaluate our results against our market capitalization. Changes in these estimates and assumptions could materially affect the determination of fair value and impact the goodwill impairment assessment.

Our latest assessment was performed using a qualitative approach as of October 1, 2019, and we determined that it was likely that the fair values of our reporting units were more than their carrying amounts, and therefore no impairment charges were recorded. We will monitor future results and will perform a test if indicators trigger an impairment review.  At this time, we have not deemed the impact that the current economic environment has or is expected to have on our business to be a triggering event for impairment purposes.

Impairment of Other Intangible and Long-Lived Assets

We evaluate the impairment of identifiable intangibles and other long-lived assets whenever events or changes in circumstances indicate that the carrying value may not be recoverable. Factors considered that may trigger an impairment review consist of, but are not limited to, the following:

 

Significant decline in market capitalization relative to net book value,

 

Significant under performance relative to expected historical or projected future operating results,

 

Significant changes in the manner of use of the acquired assets or the strategy for the overall business,

 

Significant negative industry or economic trends.

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If we believe that one or more indicators of impairment have occurred, we perform a recoverability test by comparing the carrying amount of an asset or asset group to the sum of the undiscounted cash flows expected to result from the use and the eventual disposition of the asset or asset group. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value. We recorded a charge of $2,200 during the third quarter due to the impairment of a specific asset group as a result of the restructuring actions being taken.  

Environmental and Legal Contingencies

U.S. GAAP requires a liability to be recorded for contingencies when it is probable that a liability has been incurred and the amount of the liability can be reasonably estimated. Significant judgment is required to determine the existence and amounts of our environmental, legal and other contingent liabilities. We regularly consult with attorneys and consultants to determine the relevant facts and circumstances before we record a liability. Changes in laws, regulatory orders, cost estimates, participation of other parties, timing of payments, input of attorneys and consultants, or other circumstances may have a material impact on the recorded liability.

Income Taxes

Our income tax expense, deferred tax assets and liabilities, and liabilities for unrecognized tax benefits reflect management’s best estimate of current and future taxes to be paid. We are subject to income taxes in the United States and numerous foreign jurisdictions. Significant judgments and estimates are required in the determination of consolidated income tax expense.

Deferred income taxes arise from temporary differences between the tax basis of assets and liabilities and their reported amounts in the financial statements, which will result in taxable or deductible amounts in the future. In evaluating our ability to recover our deferred tax assets in the jurisdiction from which they arise, we consider all available positive and negative evidence, including scheduled reversals of deferred tax liabilities, projected future taxable income, tax-planning strategies, and results of recent operations. The assumptions about future taxable income require the use of significant judgment and are consistent with the plans and estimates we are using to manage our underlying businesses.

The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax laws and regulations in a multitude of jurisdictions across our global operations. Accounting Standards Codification (ASC) No. 740 states that a tax benefit from an uncertain tax position may be recognized when it is more-likely-than-not that the position will be sustained upon examination, including resolution of any related appeals or litigation processes, on the basis of its technical merits. We record unrecognized tax benefits as liabilities in accordance with ASC 740 and adjust these liabilities when our judgment changes as a result of the evaluation of new information not previously available. Because of the complexity of some of these uncertainties, the ultimate resolution may result in a payment that is materially different from our current estimate of the unrecognized tax benefit liabilities. These differences will be reflected as increases or decreases to income tax expense in the period in which new information is available.

Our practice is to recognize interest and penalties related to income tax matters as part of income tax expense.

Following the enactment of the 2017 Tax Cut and Jobs Act and the associated one-time transition tax, in general, repatriation of foreign earnings to the U.S. can be completed with no incremental U.S. Tax. However, there are limited other taxes that continue to apply such as foreign withholding and certain state taxes. The company records a deferred tax liability for the estimated foreign earnings and state tax cost associated with the undistributed foreign earnings that are not permanently reinvested.

Significant Customers

Our net sales to customers representing at least 10% of total net sales is as follows:

 

 

 

Three months ended

 

 

Nine months ended

 

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

September 30,

 

 

 

2020

 

 

2019

 

 

2020

 

 

2019

 

Cummins Inc.

 

 

11.8

%

 

 

14.9

%

 

 

12.8

%

 

 

17.2

%

Toyota Motor Corporation

 

 

14.4

%

 

 

11.3

%

 

 

12.7

%

 

 

11.2

%

 

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ForwardLooking Statements

This document contains statements that are, or may be deemed to be, forward‑looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward‑looking statements include, but are not limited to, any financial or other guidance, statements that reflect our current expectations concerning future results and events, and any other statements that are not based solely on historical fact. Forward‑looking statements are based on management’s expectations, certain assumptions and currently available information. Readers are cautioned not to place undue reliance on these forward‑looking statements, which speak only as of the date hereof and are based on various assumptions as to future events, the occurrence of which necessarily are subject to uncertainties. These forward‑looking statements are made subject to certain risks, uncertainties and other factors, which could cause our actual results, performance or achievements to differ materially from those presented in the forward‑looking statements. Examples of factors that may affect future operating results and financial condition include, but are not limited to: changes in the economy generally and in respect to the business in which CTS operates; unanticipated issues in integrating acquisitions; the results of actions to reposition our business; rapid technological change; general market conditions in the automotive, communications, and computer industries, as well as conditions in the industrial, defense and aerospace, and medical markets; reliance on key customers; unanticipated natural disasters or other events; the ability to protect our intellectual property; pricing pressures and demand for our products; unanticipated developments that could occur with respect to contingencies such as litigation and environmental matters as well as any product liability claims; and risks associated with our international operations, including trade and tariff barriers, exchange rates and political and geopolitical risks. Many of these and other risks and uncertainties are discussed in further detail in Item 1A. of CTS' Annual Report on Form 10‑K for the fiscal year ended December 31, 2019. We undertake no obligation to publicly update our forward‑looking statements to reflect new information or events or circumstances that arise after the date hereof, including market or industry changes.

Item 3.   Quantitative and Qualitative Disclosures About Market Risk

For a discussion of current market conditions resulting from the COVID-19 pandemic, refer to Part I, Item 2, "Management's Discussion and Analysis of Financial Condition and Results of Operations” and to Part II, Item 1A, "Risk Factors”.

There have been no other material changes in our market risk since December 31, 2019.

Item 4.   Controls and Procedures

Evaluation of Disclosure Controls and Procedures

Our management, with the participation of our Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q were effective in providing reasonable assurance that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act of 1934, as amended, 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 disclosures.

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Our management, including our Chief Executive Officer and Chief Financial Officer, does not expect that our disclosure controls and procedures or our internal controls will prevent all error and all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints, and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within CTS Corporation have been detected.

Changes in Internal Control Over Financial Reporting

There were no changes in our internal control over financial reporting for the quarter ended September 30, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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PART II - OTHER INFORMATION

From time to time we are involved in litigation with respect to matters arising from the ordinary conduct of our business, and currently certain claims are pending against us. In the opinion of management, we believe we have established adequate accruals pursuant to U.S. generally accepted accounting principles for our expected future liability with respect to pending lawsuits, claims and proceedings, where the nature and extent of any such liability can be reasonably estimated based on presently available information. However, there can be no assurance that the final resolution of any existing or future lawsuits, claims or proceedings will not have a material adverse effect on our business, results of operations, financial condition, or cash flows.

See Note 10 "Contingencies" in the Notes to the Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q.

Item 1A.  Risk Factors

The COVID-19 pandemic is adversely affecting, and is expected to continue to adversely affect, our operations, supply chains and distribution systems, and results of operations. We have experienced disruptions in production and supply due to mandated facility closures, labor capacity restrictions, and unpredictable fluctuations in demand for our products. We remain cautious about the potential impact on our operations in the next several quarters. The pandemic could lead to a continued disruption of economic activity and the impact on our consolidated results of operations, financial position and cash flows could be material.

Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds

On February 7, 2019 the Board of Directors authorized a stock repurchase program with a maximum dollar limit of $25 million. This program authorizes us to make repurchases of our common stock from time to time on the open market, but does not obligate us to make repurchases, and it has no expiration date.

 

 

 

 

 

 

 

 

 

 

 

Total Number

 

 

Maximum Dollar

 

 

 

 

 

 

 

 

 

 

 

of Shares

 

 

Value of Shares

 

 

 

 

 

 

 

 

 

 

 

Purchased as

 

 

That May Yet By

 

 

 

Total Number

 

 

 

 

 

 

Part of Publicly

 

 

Purchased Under

 

 

 

of Shares

 

 

Average Price

 

 

Announced

 

 

Publicly Announced

 

 

 

Purchased

 

 

Paid per Share

 

 

Programs

 

 

Plans or Programs

 

July 1, 2020 through July 31, 2020

 

 

 

 

$

 

 

 

 

 

$

5,740

 

August 1, 2020 through August 31, 2020

 

 

 

 

$

 

 

 

 

 

$

5,740

 

September 1, 2020 through September 30, 2020

 

 

 

 

$

 

 

 

 

 

$

5,740

 

Total

 

 

 

 

$

 

 

 

 

 

 

 

 

 

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Item 6. Exhibits

 

 

 

(31)(a)

Certification pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002.

 

 

(31)(b)

Certification pursuant to Section 302 of the Sarbanes‑Oxley Act of 2002.

 

 

(32)(a)

Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002.

 

 

(32)(b)

Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes‑Oxley Act of 2002.

 

 

101.1

The following information from CTS Corporation’s Quarterly Report on Form 10-Q for the quarter ended September 30, 2020 formatted in Inline XBRL: (i) Condensed Consolidated Statements of Earnings for the three and nine months ended September 30, 2020 and 2019; (ii) Condensed Consolidated Statements of Comprehensive Earnings for the three and nine months ended September 30, 2020 and 2019; (iii) Condensed Consolidated Balance Sheets at September 30, 2020 and December 31, 2019; (iv) Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2020 and 2019; (v) Condensed Consolidated Statements of Shareholders’ Equity for the three and nine months ended September 30, 2020 and 2019; (vi) Notes to Condensed Consolidated Financial Statements, tagged as blocks of text and including detailed tags.

 

 

104

The cover page from this Current Report on Form 10-Q formatted as inline XBRL

 

 

 

 

 

 

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) 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.

 

CTS Corporation

 

CTS Corporation

 

 

 

/s/ William M. Cahill

 

/s/ Ashish Agrawal

William M. Cahill

 

Ashish Agrawal

Chief Accounting Officer

 

Vice President and Chief Financial Officer

(Principal Accounting Officer)

 

(Principal Financial Officer)

 

 

 

Dated: October 29, 2020

 

Dated: October 29, 2020

 

42