Item 1B.
Unresolved Staff Comments
None.
Our principal executive office and headquarters is located in Buffalo, New York, in a leased facility. As of December 31, 2016, we operated 35 domestic facilities and 9 foreign facilities, of which 29 were leased and 15 were owned. We believe the facilities we operate and their equipment are effectively utilized, well maintained, in good condition, and will be able to accommodate our capacity needs to meet current levels of demand. Our North American and Asian manufacturing facilities are well maintained and our sites are located to optimize customer service, market requirements, distribution capability and freight costs. We continuously review our anticipated requirements for facilities and, on the basis of that review, may from time to time acquire additional facilities and/or dispose of existing facilities. Most recently, our operational excellence initiatives and portfolio changes have enabled us to reduce, and may further reduce in the future, the number of facilities necessary to meet our current levels of demand.
Item 3.
Item 3.
Legal Proceedings
From time to time, the Company is named a defendant in legal actions arising out of the normal course of business. The Company is not a party to any material pending legal proceedings. The Company is also not a party to any other pending legal proceedings other than ordinary, routine litigation incidental to its business. The Company maintains liability insurance against risks arising out of the normal course of business.
Item 4.
Item 4.
Mine Safety Disclosures
Not applicable.
PART II
Item 5.
Item 5.
Market for Common Equity and Related Stockholder Matters
As of December 31, 2016, there were 83 shareholders of record of the Company’s common stock. However, the Company believes that it has a significantly higher number of shareholders because of the number of shares that are held by nominees.
The Company’s common stock is traded in the over-the-counter market and quoted on the NASDAQ Global Select Market (“NASDAQ”) under the symbol “ROCK.” The following table sets forth the high and low sale prices per share for the Company’s common stock for each quarter of 2016 and 2015 as reported on the NASDAQ Stock Exchange.
The Company did not declare cash dividends during the years ended December 31, 2016 and 2015. Cash dividends are declared at the discretion of the Company’s Board of Directors. The Board of Directors determines to pay dividends based upon such factors as the Company’s cash flow, financial condition, capital requirements, debt covenant requirements, and other relevant conditions.
Equity Compensation Plan Information
The following table summarizes information as of December 31, 2016 concerning securities authorized for issuance under the Company’s stock option plans:
Consists of the Gibraltar Industries, Inc. 2016 Stock Plan for Non-Employee Directors and the 2015 Equity Incentive Plan (the Plan). Note 12 of the Company’s audited consolidated financial statements included in Item 8 of this Annual Report on Form 10-K provides additional information regarding the Plan and securities issuable upon exercise of options. All currently effective equity compensation plans have been approved by the Company’s shareholders.
Performance Graph
The performance graph shown below compares the cumulative total shareholder return on the Company’s common stock, based on the market price of the common stock, with the total return of the S&P SmallCap 600 Index and the S&P SmallCap 600 Industrials Index for the five-year period ended December 31, 2016. The comparison of total return assumes that a fixed investment of $100 was invested on December 31, 2011 in common stock and in each of the foregoing indices and further assumes the reinvestment of dividends. The stock price performance shown on the graph is not necessarily indicative of future price performance.
Item 6.
Item 6.
Selected Financial Data
The selected historical consolidated financial data for each of the following five years ended December 31 (in thousands, except per share data) are derived from the Company’s audited financial statements as reclassified for discontinued operations. The selected historical consolidated financial data should be read in conjunction with the Company’s audited consolidated financial statements and notes thereto contained in Item 8 and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” set forth in Item 7
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following Management’s Discussion and Analysis of Financial Condition and Results of Operations should be read in conjunction with the Company’s risk factors and its consolidated financial statements and notes thereto included in Item 1A and Item 8, respectively, of this Annual Report on Form 10-K. Certain information set forth herein Item 7 constitutes “forward-looking statements” as that term is used in the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based, in whole or in part, on management’s beliefs, estimates, assumptions, and currently available information. For a more detailed discussion of what constitutes a forward-looking statement and of some of the factors that could cause actual results to differ materially from such forward-looking statements, please refer to the “Safe Harbor Statement” on page 3 of this Annual Report on Form 10-K.
Company Overview
Gibraltar Industries, Inc. (the "Company") is a leading manufacturer and distributor of building products for industrial, transportation infrastructure, residential housing, renewable energy and resource conservation markets. Our business strategy focuses on significantly elevating and accelerating the growth and financial returns of the Company. We strive to deliver best-in-class, sustainable value creation for our shareholders for the long-term. This strategy is intended to drive a transformational change in the Company’s portfolio and its financial results. It has four key elements which are: operational excellence, product innovation, portfolio management, and acquisitions as a strategic accelerator.
The Company serves customers primarily throughout North America and, to a lesser extent, Asia. Our customers include major home improvement retailers, wholesalers, industrial distributors, contractors. solar developers and institutional and commercial growers of plants. As of December 31, 2016, we operated 44 facilities in 17 states, Canada, China and Japan which includes 32 manufacturing facilities and seven distribution centers, giving us a base of operations to provide customer support, delivery, service and quality to a number of regional and national customers and providing us with manufacturing and distribution efficiencies in North America, as well as a presence in Asian markets.
The Company operates and reports its results in the following three reporting segments, entitled:
•
Residential Products;
•
Industrial and Infrastructure Products; and
•
Renewable Energy and Conservation
The end markets our businesses serve include residential housing, industrial manufacturing, transportation infrastructure, and renewable energy and conservation. These end markets are subject to economic conditions that are influenced by various factors. These factors include but are not limited to changes in general economic conditions, interest rates, exchange rates, commodity costs, demand for residential construction, governmental policies and funding, tax policies and the level of non-residential construction and infrastructure projects. We believe the key elements of our strategy will allow us to respond timely to changes in these factors. We have and expect to continue to restructure our operations, including consolidation of facilities, reducing overhead costs, curtailing investments in inventory, and managing our business to generate incremental cash. Additionally, we believe our current strategy has enabled us to better react to fluctuations in commodity costs and customer demand, and has helped in improving margins. We have used the improved cash flows generated by these initiatives to maintain low levels of debt, improve our liquidity position, and invest in growth initiatives. Overall, we are striving to achieve stronger financial results, make more efficient use of capital, and deliver higher shareholder returns.
Results of Operations
Year Ended December 31, 2016 Compared to Year Ended December 31, 2015
The following table sets forth selected results of operations data (in thousands) and its percentages of net sales for the years ended December 31:
The following table sets forth the Company’s net sales by reportable segment for the years ended December 31 (in thousands):
Consolidated net sales decreased by $32.9 million, or 3.2%, to $1.01 billion for 2016 compared to $1.04 billion for 2015. The decrease was the result of a combined 13.0% decrease in volume, a 0.7% decrease in pricing to customers, and a reduction in sales of $26.3 million due to the divestiture of our European industrial manufacturing business in April 2016. These decreases were partially offset by incremental sales generated from acquisitions in our Renewable Energy and Conservation segment, which contains the results of RBI acquired in June 2015 and Nexus acquired in October 2016. Favorable currency fluctuations also contributed to the offset.
Net sales in our Residential Products segment decreased 9.4%, or $44.7 million, to $430.9 million in 2016 compared to $475.7 million in 2015. The decrease from prior year was primarily the result of a $53.2 million, or 11.2%, decline in volume for our cluster mailboxes related to the completion of a discrete two-year contract at the end of 2015. Favorable currency fluctuations of $8.1 million partially offset this decrease. A decline in volume of 0.9% for our other residential product offerings, including reduced sales to small volume customers under our 80/20 simplification initiatives, also contributed to the net decrease in revenues for the year. These decreases were slightly offset by a 1.0% increase in pricing to customers.
Net sales in our Industrial and Infrastructure Products segment decreased 21.7%, or $81.7 million, to $295.0 million in 2016 compared to $376.7 million in 2015. The decrease in net sales was the combined result of the April 2016 divestiture of our European industrial manufacturing business which previously contributed 7.0% of sales, as well as, lower shipment volume of 11.3%, and a 3.2% decrease in pricing offered to customers, as compared to the prior year. This segment was primarily impacted by a decline in demand for our industrial products generated from domestic energy-related end markets that have been depressed by reduced prices for oil and other commodities. Demand for our infrastructure products, including components for bridges and elevated highways, related to these projects was also lower as compared to the prior year. While a new infrastructure bill was passed in December 2015 authorizing U.S. federal funding for five years, the FAST Act, the matching state funding required to obtain the federal funds was not available in key states we serve. We expect that enacted changes in legislation in many of these key states will provide funds that will support projects beginning in the latter part of 2017 which should positively impact future demand for products sold by this segment.
Net sales in our Renewable Energy and Conservation segment increased 49.6%, or $93.5 million, to $282.0 million in 2016 compared to $188.5 million in 2015. The increase in 2016 was primarily due to the benefit of incremental revenues earned by RBI in the current year as compared to the prior year in which RBI was acquired in June of 2015. Sales from the acquisition of Nexus in October 2016 also contributed to the increase.
Our consolidated gross margin increased to 24.3% for 2016 compared to 18.0% for 2015. Our consolidated gross profit also increased for the comparable period.
In our Residential Products segment, both gross profit and gross margin, as a percentage of sales, increased as compared to 2015. This segment largely benefited from operational efficiencies, an improved alignment of material costs to customer selling prices and contributions from our 80/20 initiatives to simplify our business processes and product lines. Also contributing to the margin increase were favorable currency fluctuations, as compared to the same period in the prior year.
Both gross profit and gross margin, as a percentage of sales, decreased as compared to the prior year within our Industrial and Infrastructure Products segment. The profit decrease was due to a significant decrease in sales volume in industrial products, the disposition of our European industrial manufacturing business in April 2016, decrease in pricing offered to customers, along with currency fluctuations. The margin decrease was partially offset by manufacturing efficiencies, savings from our company-wide 80/20 initiatives and better alignment of material costs to customer selling prices.
Within our Renewable Energy and Conservation segment, both gross profit and gross margin, as a percentage of sales, increased as compared to the prior year. The increase in gross profit largely resulted from the benefit of incremental revenue earned in 2016 as compared to the prior year in which RBI was acquired in June 2015. The execution of operational efficiencies in the segment, including rising synergies from raw material sourcing, freight management, and strategic make-versus-buy decisions also contributed to the increase in gross margin. To a lesser extent, the acquisition of Nexus in October 2016 contributed to the increase in gross profit as well.
Selling, general, and administrative ("SG&A") expenses increased by $27.6 million, or 20.6%, to $161.6 million for 2016 from $134.0 million for 2015. The $27.6 million increase was the result of $15.8 million of incremental SG&A expense recorded year over year at RBI, acquired in June 2015, along with $1.9 million of SG&A expenses recorded at Nexus, acquired in October 2016, and $10.5 million of higher performance-based compensation costs. The net benefit of a $6.8 million gain on the sale leaseback of one of our facilities recorded during 2015 largely offset by acquisition-related costs of $6.1 million recorded during 2015, also contributed to the increase year over year. The higher performance-based compensation costs are the result of improvements in two key performance metrics. One metric is improved operating results which is measured by the Company's increased earnings per share and return on invested capital year over year. The other metric is the higher price of the Company's shares which increased 64% during 2016. SG&A expenses as a percentage of net sales increased to 16.1% for 2016 compared to 12.9% for 2015.
During 2016, we recognized intangible asset impairment charges of $10.2 million. These charges primarily resulted from the decision in the fourth quarter of 2016 to discontinue the Company's U.S. bar grating product line and its European residential solar racking business which resulted in lower cash flows and estimated fair values of certain reporting units. The largest portion of the impairment was $8.0 million related to indefinite-lived intangibles in our Industrial and Infrastructure Products segment, with the balance of the charges occurring in the Renewable Energy and Conservation segment. In 2015, we recognized intangible asset impairment charges of $4.9 million, due to a reduction in estimated fair values of indefinite-lived trademarks at certain reporting units. The largest portion of the 2015 impairment was $4.4 million related to intangibles in our Industrial and Infrastructure Products segment.
The following table sets forth the Company’s income from operations and income from operations as a percentage of net sales by reportable segment for the years ended December 31 (in thousands):
Our Residential Products segment generated an operating margin of 15.1% in 2016 compared to an operating margin of 9.8% in 2015. Apart from the impact of the gain of $6.8 million on the sale leaseback of a facility during the first quarter of 2015, the increase to its income from operations of $11.6 million was primarily due to the benefits of operational efficiencies and contributions from the 80/20 simplification initiative, along with favorable effects of currency fluctuations as compared to 2015. Partially offsetting these benefits were lower sales volumes primarily for postal products.
Our Industrial and Infrastructure Products segment operating margin decreased to 0.4% in 2016 compared to 4.1% in 2015. Excluding the impact of a net change in intangible asset impairment charges and foreign currency fluctuations, this segment's decrease in income from operations was $10.3 million. Decreased sales volume resulted in the margin decline, partially offset by an improved alignment of material costs to customer selling prices and benefits from cost reductions compared to the prior year.
The Renewable Energy and Conservation segment generated an operating margin of 15.3% in 2016 compared to 6.7% in 2015. The increase in its income from operations was aided by contribution from incremental revenue for 2016 compared to the prior year in which RBI was acquired in June of 2015, along with $5.1 million of amortization expense incurred for RBI's backlog acquired in 2015. Additionally, the execution of operational efficiencies in the segment, including rising synergies from raw material sourcing, freight management, and strategic make-versus-buy decisions also contributed to the increase in income and margin for the current year.
Unallocated corporate expenses increased $9.8 million, or 36.5%, for 2016 from $27.0 million for 2015 to $36.8 million for 2016. The increase from the prior year was primarily the result of an increase of $10.7 million in performance based compensation expense, the result of improvements in two key performance metrics. One metric is improved operating results which is measured by the Company's increased earnings per share and return on invested capital year over year. The other metric is the higher price of the Company's shares which increased 64% during 2016.
Other expense of $8.4 million in 2016 is primarily comprised of the $8.8 million pre-tax loss on the sale of our European industrial manufacturing business, slightly offset by foreign currency translation gains. Other income of $4.0 million in 2015 is primarily comprised of net gains on derivative contracts for hedges on foreign currencies and select raw materials related to a customer contract in our Residential Products segment, offset by foreign currency translation losses.
Interest expense decreased $0.4 million to $14.6 million for 2016 from $15.0 million for 2015. During 2016, no amounts were outstanding under our revolving credit facility. In 2015, we borrowed funds under our revolving credit facility to help finance the acquisition of RBI in June 2015. These borrowings were paid in full prior to the end of 2015.
We recognized a provision for income taxes of $16.3 million, an effective tax rate of 32.5%, for 2016 compared with a provision for income taxes of $13.6 million, an effective tax rate of 36.7%, for 2015. The difference between the Company’s recorded charge for 2016 and the expense that would result from applying the U.S. statutory rate of 35% is due to deductible permanent differences and favorable discrete items partially offset by state taxes. The aforementioned favorable discrete items were primarily comprised of the $6.7 million benefit recorded by the Company related to the worthless stock deduction and the associated inter-company debt discharge resulting from the sale of its European industrial manufacturing business to a third
party. The effective tax rate for 2015 exceeded the U.S. federal statutory rate of 35% due to the tax impact of state taxes, partially offset by favorable permanent differences and favorable discrete items.
Results of Operations
Year Ended December 31, 2015 Compared to Year Ended December 31, 2014
The following table sets forth selected results of operations data (in thousands) and its percentages of net sales for the years ended December 31:
The following table sets forth the Company’s net sales by reportable segment for the years ended December 31 (in thousands):
Consolidated net sales increased by $178.8 million, or 20.7%, to $1.0 billion for 2015 compared to 2014. The increase was the net result of sales generated by RBI of $188.5 million or 21.9%, acquired in June 2015, along with a 1.2% increase in volume, partially offset by foreign currency fluctuations which totaled $20.1 million.
Net sales in our Residential Products segment increased 10.1%, or $43.7 million, to $475.7 million in 2015 compared to $431.9 million in 2014. The increase from prior year was primarily the result of an 11.0% increase in volume along with a 0.9% increase in pricing to customers, partially offset by foreign currency fluctuations which decreased net sales by $8.0 million for the year. The volume increase was largely the result of stronger demand for our postal and parcel storage products driven by postal authorities' initial efforts to convert existing door-to-door deliveries to centralized delivery. Additionally, higher sales of our roofing-related ventilation and rain dispersion products also contributed to the net sales growth in this segment as well.
Net sales in our Industrial and Infrastructure Products segment decreased 12.4%, or $53.5 million, to $376.7 million in 2015 compared to $430.2 million in 2014. Apart from the $12.0 million impact of exchange rate fluctuations, the remaining decrease in net sales of $41.5 million was due to lower volume along with a 1.0% decrease in pricing to customers. This segment was primarily impacted by a decline in volume for our industrial products generated from energy-related sectors, largely the result of lower commodity prices, along with a decline in oil and gas prices. Demand for our infrastructure products, including components for bridges and elevated highways, related to these projects remained essentially unchanged from prior year as
uncertainty in government funding for U.S. transportation projects prevailed throughout 2015. In December 2015, a new infrastructure bill was passed authorizing U.S. federal funding for five years that should positively impact future demand for products sold by this segment.
Our consolidated gross margin increased to 18.0% for 2015 compared to 16.2% for 2014.
Within our Residential Products segment, both gross profit and gross margin, as a percentage of sales, increased as compared to 2014. This segment largely benefited from volume increases along with cost reductions resulting from our company-wide initiatives to simplify our business processes and product lines. Partially offsetting these increases were currency fluctuations resulting from the strengthening U.S. dollar and restructuring charges incurred to conduct the company-wide simplification initiatives. We believe completing these initiatives will lead to further improved margins in future periods.
In our Industrial and Infrastructure Products segment, its modestly higher gross profit and gross margin, as a percentage of sales, primarily resulted from an improved alignment of material costs to customer selling prices. Lower volumes in our industrial products, currency fluctuations resulting from the strengthening U.S. dollar and restructuring charges incurred to conduct the company-wide simplification initiatives partially offset the increase to gross profit, yet had minimal impact on the segment's gross margin as compared to the prior year.
The results of the Renewable Energy and Conservation operating segment contributed to both the increase in the consolidated gross profit and gross margin for 2015 as compared to 2014 when we did not own RBI or participate in this operating segment.
Selling, general, and administrative expenses increased by $31.5 million, or 30.8%, to $134.0 million for 2015 from $102.5 million for 2014. The $31.5 million increase was primarily the net result of $24.0 million of incremental SG&A expense of RBI, plus $11.7 million of higher performance-based compensation, and a $2.9 million charge for senior leadership transition costs, partially offset by a $6.8 million gain on the sale leaseback of one of our facilities during 2015. SG&A expenses as a percentage of net sales increased to 12.9% for 2015 compared to 11.9% for 2014.
During 2015, we recognized intangible asset impairment charges of $4.9 million due to a reduction in estimated fair values of indefinite-lived trademarks at certain reporting units. The largest portion of the impairment was $4.4 million related to intangibles in our Industrial and Infrastructure Products segment. In 2014, we recognized intangible asset impairment charges of $108.0 million. The charges stemmed from lower estimated fair values of certain reporting units. The largest portion of the impairment was $92.5 million related to intangibles in our Industrial and Infrastructure Products segment.
The following table sets forth the Company’s income from operations and income from operations as a percentage of net sales by reportable segment for the years ended December 31 (in thousands):
Our Residential Products segment generated an operating margin of 9.8% in 2015 compared to an operating margin of 3.8% in 2014. Excluding the impact of prior year impairment charges and foreign currency fluctuations resulting from the strengthening U.S. dollar, this segment realized a $23.4 million increase in income from operations. This increase was the result of higher sales volumes for postal products, a more favorable alignment of material costs to customer selling prices and a gain of $6.8 million on the sale leaseback of a facility during the first quarter of 2015. Offsetting this increase were charges of $7.8 million incurred related to the Company-wide initiatives to simplify our business processes and product lines throughout the organization which commenced in the second quarter of 2015.
Our Industrial and Infrastructure Products segment generated an operating margin of 4.1% during 2015 compared to an operating margin of -17.3% during 2014. Excluding the impact of a net change in intangible asset impairment charges and foreign currency fluctuations, this segment's increase in income from operations was $5.1 million. An improved alignment of material costs to customer selling prices along with benefits from cost reductions more than offset the effects of decreased sales volume in our industrial products and additional charges of $2.2 million incurred to conduct the Company-wide simplification initiatives.
Corporate expenses increased $14.8 million, or 121.0%, for 2015 from $12.2 million for 2014 to $27.0 million for 2015. The increase from the prior year was primarily the result of an increase in performance based compensation expense of $7.5 million, $2.5 million for senior leadership transition costs, and $2.3 million of net charges for acquisition related items.
Other income of $4.0 million in 2015 increased from $0.1 million in 2014. This income is primarily comprised of net gains on derivative contracts for hedges on foreign currencies and select raw materials related to transactions in our Residential Products segment, offset by foreign currency translation losses.
Interest expense increased $0.6 million to $15.0 million for 2015 from $14.4 million for 2014. In 2015, we borrowed funds under our 2011 revolving credit facility to help finance the acquisition of RBI in June 2015, which contributed to the increase in expense as compared to the prior year. These borrowings were paid in full prior to the end of 2015. During 2014, no amounts were outstanding under our revolving credit facility.
We recognized a provision for income taxes of $13.6 million, an effective tax rate of 36.7%, for 2015 compared with a benefit from income taxes of $3.0 million, an effective tax rate of 3.5%, for 2014. The difference between the Company’s recorded charge for 2015 and the expense that would result from applying the U.S. statutory rate of 35% is primarily attributable to the tax impact of state taxes and non-deductible permanent differences recognized during the year. The effective tax rate for 2014 was primarily attributable to the tax impact of the non-deductible goodwill and intangible asset impairments recognized in 2014.
Outlook
For 2017, we expect our Residential Products segment to benefit from continuing but modest increases in demand from residential repair and remodel activities and growth in new construction. In addition, we expect increased demand for products sold by our Renewable Energy and Conservation segment. At the same time, our Industrial and Infrastructure Products segment will be challenged on the top-line and bottom-line by several factors, including a difficult comparable as a result of the exit of the U.S. bar grating product line, increased spending on innovation, and raw material price inflation.
We are poised to deliver a third consecutive year of sequential and meaningful financial improvement, in terms of absolute profit dollars, returns and cash flow. All three of our segments are working on expansion into adjacent product categories and applications with new products, and we expect such efforts to contribute incrementally to 2017 sales and beyond.
The Company is providing its guidance for revenues and earnings for the full year 2017. The Company expects 2017 total revenues to approximate $1.0 billion, equivalent to 2016, despite unfavorable comparisons including discontinued product lines. Our earnings per share under accounting principles generally accepted in the U.S. (“GAAP EPS”) for the full year of 2017 is expected to range between $1.55 and $1.65 per diluted share, compared to $1.05 for 2016.
Liquidity and Capital Resources
General
Our principal capital requirements are to fund our operations' working capital and capital improvements and to fund acquisitions. We will continue to invest in growth opportunities as appropriate while focusing on working capital efficiency and profit improvement opportunities to minimize the cash invested to operate our business. We have successfully generated positive cash flows from operating activities which have funded our capital requirements and recent acquisitions as noted below in “Cash Flows.”
On December 9, 2015, we entered into the Company's Fifth Amended and Restated Credit Agreement (the "Senior Credit Agreement") which includes a 5-year, $300 million revolving credit facility and provides the Company with access to capital and improved financial flexibility. As of December 31, 2016, our liquidity of $457.4 million consisted of $170.2 million of cash and $287.2 million of availability under our revolving credit facility as compared to liquidity of $348.4 million as of December 31, 2015. We believe this liquidity, together with the cash expected to be generated from operations, should be
sufficient to fund working capital needs and simplification initiatives that likely will need cash to fund transitions and future growth. We continue to search for strategic acquisitions and larger acquisitions may require additional borrowings and/or the issuance of our common stock.
Our Senior Credit Agreement provides the Company with liquidity and capital resources for use by our U.S. operations. Historically, our foreign operations have generated cash flow from operations sufficient to invest in working capital and fund their capital improvements. As of December 31, 2016, our foreign subsidiaries held $26.4 million of cash. We believe cash held by our foreign subsidiaries provides our foreign operations with the necessary liquidity to meet future obligations and allows the foreign business units to reinvest in their operations. These cash resources could eventually be used to grow our business internationally. Repatriation of this cash for domestic purposes could result in significant tax consequences.
Over the long-term, we expect that future obligations, including strategic business opportunities such as acquisitions, may be financed through a number of sources, including internally available cash, availability under our revolving credit facility, new debt financing, the issuance of equity securities, or any combination of the above. Any potential acquisitions are evaluated based on our acquisition strategy, which includes the enhancement of our existing products, operations, or capabilities, expanding our access to new products, markets, and customers, and the improvement of shareholder value. Our 2016 acquisition of Nexus was funded by cash on hand. In 2015, our acquisition of RBI was funded through a combination of cash on hand and borrowings under the Company's revolving credit facility. These borrowings were repaid prior to the end of 2015.
These expectations are forward-looking statements based upon currently available information and may change if conditions in the credit and equity markets deteriorate or other circumstances change. To the extent that operating cash flows are lower than current levels, or sources of financing are not available or not available at acceptable terms, our future liquidity may be adversely affected.
Cash Flows
The following table sets forth selected cash flow data for the years ended December 31 (in thousands):
During the year ended December 31, 2016, we generated net cash from operating activities totaling $122.7 million, comprised of net income from continuing operations of $33.7 million plus non-cash net charges totaling $52.7 million that included depreciation, amortization, deferred income taxes, stock compensation, non-cash exit activity costs, intangible asset impairment charges and the loss on sale of a business, along with a decrease in working capital and other net assets of $36.3 million. Net cash provided by continuing operations for 2015 was $86.7 million and was primarily driven by non-cash net charges totaling $43.5 million that included depreciation, amortization, deferred income taxes, stock compensation, non-cash exit activity costs and intangible asset impairment charges, along with income from continuing operations of $23.5 million and a decrease in working capital and other net assets of $19.7 million.
During 2016, the cash provided by working capital and other net assets of $36.3 million included $37.8 million, $11.8 million and $2.5 million decreases in accounts receivable, inventory, and, other current assets and other assets, respectively, along with a $1.3 million increase in accrued expenses and other non-current liabilities, offset by a $17.1 million decrease in accounts payable. The decrease in accounts receivable, which includes costs in excess of billings on contracts, is a direct result of the seasonality of customer contracts and related payments received that impact our business. The decrease in inventory is due to the Company's continued 80/20 simplification process efforts, which has resulted in the discontinuation of less profitable product lines and the corresponding disposal of inventory associated with those product lines. The $2.5 million decrease in other current assets and other assets is primarily due to a receivable collected pertaining to the completion of a discrete two-year contract for cluster mailboxes at the end of 2015. The increase in accrued expenses and other non-current liabilities was largely due to the increase in liabilities for equity based incentive plans resulting from stronger performance of the Company's financial results and stock price in 2016 offset by billings in excess of costs related to the timing of customer contracts. The
current year provision for income taxes, which is partially offset by net tax benefits of $6.7 million resulting from the sale of our European industrial manufacturing business, also contributed to the increase in accrued expenses and other non-current liabilities. Accounts payable decreased due to the timing of vendor payments made near year end.
Net cash used in investing activities for 2016 of $23.9 million primarily consisted of $21.1 million of net cash paid for the acquisition of Nexus, along with capital expenditures of $10.8 million and $2.3 million paid for the final RBI acquisition purchase adjustment partially offset by net proceeds of $8.3 million received from the sale of our European industrial manufacturing business. Net cash used in investing activities for 2015 of $125.3 million primarily consisted of $140.6 million of net cash paid for the acquisition of RBI and capital expenditures of $12.4 million partially offset by $26.5 million received from the sale-leaseback of a property.
Net cash provided by financing activities for 2016 of $2.6 million consisted of proceeds received from the issuance of common stock of $3.3 million and a tax benefit from equity compensation of $1.2 million offset by the purchase of treasury stock of $1.5 million and payments of long-term debt borrowings of $0.4 million. Net cash used in financing activities for 2015 of $0.2 million primarily consisted of debt issuance cost payments of $1.2 million, the purchase of treasury stock of $1.0 million, payments of long-term debt borrowings, net of proceeds, of $0.4 million, offset by the proceeds received from the issuance of common stock of $1.8 million and a tax benefit from equity compensation of $0.6 million.
Senior Credit Agreement and Senior Subordinated Notes
Our Senior Credit Agreement is committed through December 9, 2020. Borrowings under the 2015 Senior Credit Agreement are secured by the trade receivables, inventory, personal property, equipment, and certain real property of the Company’s significant domestic subsidiaries. The Senior Credit Agreement provides for a revolving credit facility and letters of credit in an aggregate amount of $300 million. The Company can request additional financing from the banks to increase the revolving credit facility to $500 million or enter into a term loan of up to $200 million subject to conditions set forth in the Senior Credit Agreement. The Senior Credit Agreement contains three financial covenants. As of December 31, 2016, the Company is in compliance with all three covenants.
Interest rates on the revolving credit facility are based on the LIBOR plus an additional margin that ranges from 1.25% to 2.25% for LIBOR loans based on the Total Leverage Ratio. In addition, the revolving credit facility is subject to an undrawn commitment fee ranging between 0.20% and 0.30% based on the Total Leverage Ratio and the daily average undrawn balance.
As of December 31, 2016, we had $287.2 million of availability under the Senior Credit Agreement net of outstanding letters of credit of $12.8 million. To finance the acquisition of RBI in the second quarter of 2015, we borrowed amounts under the revolving credit facility which were repaid prior to the end of 2015. No amounts were outstanding under our revolving credit facility as of December 31, 2016, or our predecessor credit facility as of December 31, 2015.
In addition to our Senior Credit Agreement, the Company issued $210.0 million of 6.25% Notes in January 2013 which are due February 1, 2021. Provisions of the 6.25% Notes include, without limitation, restrictions on indebtedness, liens, and distributions from restricted subsidiaries, asset sales, affiliate transactions, dividends, and other restricted payments. Dividend payments are subject to annual limits and interest is paid semiannually on February 1 and August 1 of each year.
Off Balance Sheet Arrangements
The Company does not have any off balance sheet arrangements, other than operating leases, that have or are reasonably likely to have a current or future material effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures, or capital resources.
Contractual Obligations
The following table summarizes by category our Company’s expected future cash outflows associated with contractual obligations in effect at December 31, 2016 (in thousands):
(1) Includes amounts due to retired participants of the Management Stock Purchase Plan (MSPP). Excludes the future payments due to active participants of the MSPP, which represents a liability of $20.2 million as of December 31, 2016. The timing of future payments to active participants cannot be accurately estimated as we are uncertain of when active participants’ service to the Company will terminate. Active participants includes those with pending retirements. Our policy does not recognize the contractual obligation until the participant has officially retired.
(2) Calculated using the interest rate in effect of 0.77% at December 31, 2016.
Critical Accounting Policies
The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make decisions based upon estimates, assumptions, and factors it considers relevant to the circumstances. Such decisions include the selection of applicable principles and the use of judgment in their application, the results of which could differ from those anticipated.
A summary of the Company’s significant accounting policies are described in Note 1 of the Company’s consolidated financial statements included in Part II, Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.
Our most critical accounting policies include:
•
revenue recognition on contracts;
•
valuation of accounts receivable;
•
valuation of inventory;
•
the allocation of the purchase price of acquisitions to the fair value of acquired assets and liabilities;
•
the assessment of recoverability of depreciable and amortizable long-lived assets;
•
the assessment of recoverability of goodwill and other indefinite-lived intangible assets; and
•
accounting for income taxes and deferred tax assets and liabilities.
Management reviews these estimates, including the allowance for doubtful accounts and inventory reserves, on a regular basis and makes adjustments based on historical experience, current conditions, and future expectations. Management believes these estimates are reasonable, but actual results could differ from these estimates.
Revenue Recognition on Contracts
The vast majority of our sales agreements are for standard products and services, with revenue recognized on the accrual basis at the time of shipment of goods, transfer of title and customer acceptance, where required. However, revenue representing 26% and 17% of 2016 and 2015 consolidated net sales was accounted for using the percentage of completion, cost-to-cost method of accounting. This method of revenue recognition only pertains to the activities of RBI which was acquired on June 9, 2015.
Revenue on contracts using the percentage of completion method of accounting is recognized as work progresses toward completion as determined by the ratio of cumulative costs incurred to date to estimated total contract costs at completion, multiplied by the total contract revenue. Changes in estimates affecting sales, costs and profits are recognized in the period in which the change becomes known using the cumulative catch-up method of accounting, resulting in the cumulative effect of changes reflected in the period. Estimates are reviewed and updated quarterly for substantially all contracts. A significant change in an estimate on one or more contracts could have a material effect on our results of operations.
Contract costs include all direct costs related to contract performance. Selling and administrative expenses are charged to operations as incurred. Provisions for estimated losses on uncompleted contracts are made in the period in which such losses are determined. Because of inherent uncertainties in estimating costs, it is reasonably possible that changes in performance could result in revisions to cost and revenue, which are recognized in the period when the revisions are determined.
Valuation of Accounts Receivable
Our accounts receivable represent those amounts that have been billed to our customers but not yet collected, as well as, costs in excess of billings which principally represent revenues recognized on contracts that were not billable as of the balance sheet date. As of December 31, 2016 and 2015, allowances for doubtful accounts of $5.3 million and $4.9 million were recorded, or approximately 4% and 3% of gross accounts receivable for both periods, respectively. We record an allowance for doubtful accounts based on the portion of those accounts receivable that we believe are potentially uncollectible based on various factors, including experience, creditworthiness of customers, and current market and economic conditions. If the financial condition of customers were to deteriorate, resulting in impairment of their ability to make payments, additional allowances may be required. Changes in judgments on these factors could impact the timing of costs recognized.
Valuation of Inventories
We record our inventories at the lower of cost or net realizable value. We determine the cost basis of our inventory on a first-in, first-out basis using a standard cost methodology that approximates actual cost. On a regular basis, we calculate an estimated market value of our inventory, considered to be the prevailing selling price for the inventory less the cost to complete and sell the product. We compare the current carrying value of our inventory to the estimated market value to determine whether a reserve to value inventory at the lower of cost or net realizable value is necessary. We recorded insignificant charges during the three year period ended December 31, 2016 to value our inventory at the lower of cost or net realizable value.
We regularly review inventory on hand and record provisions for excess, obsolete, and slow-moving inventory based on historical and current sales trends. We recorded reserves for excess, obsolete, and slow-moving inventory of $3.8 million and $7.4 million at December 31, 2016 and 2015, respectively, or approximately 4% and 6% of gross inventories for 2016 and 2015, respectively. Changes in product demand and our customer base may affect the value of inventory on hand, which may require higher provisions for obsolete inventory.
In addition, as a result of the Company's 80/20 simplification initiative and portfolio management, we have identified low-volume, internally-produced products which have been or will be planned to be outsourced or discontinued. We have recorded charges of $3.6 million and $5.9 million during the years ended December 31, 2016 and 2015, respectively, related to the write-down of inventory associated with either discontinued product lines or the reduction of manufactured goods offered within a product line. These assets were written down to their sale or scrap value, and were subsequently sold or disposed of. Further simplification initiatives in 2017 could be identified which may result in additional write-downs of inventory.
Accounting for Acquired Assets and Liabilities
When we acquire a business, we allocate the purchase price to the assets acquired and liabilities assumed in the transaction at their respective estimated fair values. We record any premium over the fair value of net assets acquired as goodwill. Significant judgment is necessary to determine the fair value of the purchase price. The allocation of the purchase price involves judgments and estimates both in characterizing the assets and in determining their fair value. The way we characterize the assets has important implications, as long-lived assets with definitive lives, for example, are depreciated or amortized, whereas goodwill is tested annually for impairment, as explained below.
With respect to determining the fair value of the purchase price, the most subjective estimates involve valuations of contingent consideration. We engage independent third party valuation specialists to assist in the determination of the fair value of contingent consideration. Key assumptions used to value the contingent consideration include future projections and discount rates.
With respect to determining the fair value of assets, the most subjective estimates involve valuations of long-lived assets, such as property, plant, and equipment as well as identified intangible assets. We use all available information to make these fair value determinations and engage independent valuation specialists to assist in the fair value determination of the acquired long-lived assets. The fair values of long-lived assets are determined using valuation techniques that use discounted cash flow methods, independent market appraisals, and other acceptable valuation techniques.
Due to the subjectivity inherent in determining the fair value of long-lived assets and the significant number of acquisitions we have completed, we believe the allocation of purchase price to acquired assets and liabilities is a critical accounting policy.
Impairment of Depreciable and Amortizable Long-lived Assets
We test long-lived assets for impairment when events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable and exceeds their fair value, or on an annual basis at minimum. During our annual test, we perform a recoverability test by comparing the carrying amount of asset groups to future undiscounted cash flows expected to result from the use of the assets. The impairment loss would be measured as the amount by which the carrying amount of a long-lived asset exceeds its fair value as determined by discounted cash flow method, an independent market appraisal of the asset, or another acceptable valuation technique.
In 2016, after completing the recoverability test, none of the Company's reporting unit's future undiscounted cash flows were less than the carrying amount of its assets. However, as a result of the Company's 80/20 simplification initiative and portfolio management, we have identified low-volume, internally-produced products which have been or will be planned to be outsourced or discontinued. We have recorded charges of $3.9 million and $2.6 million during the years ended December 31, 2016 and 2015, respectively, related to the impairment of property, plant and equipment associated with either discontinued product lines or the reduction of manufactured goods offered within a product line. These assets were written down to their sale or scrap value, and were subsequently sold or disposed of. Further simplification initiatives in 2017 could be identified which may result in additional impairments.
Goodwill and Other Indefinite-lived Intangible Asset Impairment Testing
Testing Methodology
Our goodwill and indefinite-lived intangible asset balances of $304.0 million and $44.7 million, respectively, or 38% of total assets as of December 31, 2016, are subject to impairment testing. We test goodwill and indefinite-lived intangible assets for impairment on an annual basis as of October 31 and at interim dates when indicators of impairment are present. Indicators of impairment could include a significant long-term adverse change in business climate, poor indicators of operating performance, or a sale or disposition of a significant portion of a reporting unit.
We test goodwill for impairment at the reporting unit level. We identify our reporting units by assessing whether the components of our Company constitute businesses for which discrete financial information is available and segment manage-ment regularly reviews the operating results of those components.
When we evaluate the potential for goodwill impairment using a qualitative assessment, we consider factors including, but not limited to, macroeconomic conditions, industry conditions, the competitive environment, changes in the market for our products and services, regulatory and political developments, entity specific factors such as strategy and changes in key personnel and overall financial performance. If, after completing this assessment, it is determined that it is more likely than not that the fair value of a reporting unit is less than its carrying value, we proceed to a quantitative two-step impairment test.
Step one of the quantitative goodwill impairment test consists of comparing the fair value of a reporting unit with its carrying amount including goodwill. If the carrying amount of the reporting unit exceeds the reporting unit’s fair value, the implied fair value of goodwill is compared to the carrying amount of goodwill. An impairment loss is recognized for the amount by which the carrying amount of goodwill exceeds the implied fair value of goodwill.
The fair value of each reporting unit is determined using two valuation techniques: an income approach and a market approach. The income approach included a discounted cash flow model relying on significant assumptions consisting of revenue growth rates and profit margins based on internal forecasts, terminal value, and the weighted average cost of capital ("WACC") used to discount future cash flows. The WACC is calculated based upon the capital structure of market participants in the Company’s peer group. The market approach consisted of applying the Earnings Before Interest, Taxes, Depreciation and Amortization ("EBITDA") multiple to the forecasted EBITDA to be generated in the next two years. The market approach also relied on the same significant assumptions used in the discounted cash flow model, consisting of revenue growth rates and profit margins based on internal forecasts and the EBITDA multiple selected from an analysis of peer companies. Similar to the WACC
analysis, we assessed the risk of each reporting unit achieving its forecasts with consideration given to how each reporting unit has performed historically compared to forecasts.
Annual Impairment Testing
For the first nine months ended September 30, 2016, we concluded that no indicators of impairment existed at interim dates and did not perform any interim impairment tests related to goodwill and indefinite-lived intangible assets. The Company performed its annual impairment test as of October 31, 2016 during which we tested goodwill and other indefinite-lived intangible assets for impairment.
The 2016 annual quantitative goodwill impairment test examined nine of the ten reporting units and used the two valuation technique methodologies noted above (income and market approaches), and WACC calculation employed in prior years. The following table summarizes the WACC and EBITDA multiple ranges used during the annual goodwill impairment test performed during 2016:
*nmf - Market Multiples approach was deemed not meaningful for Solar Reporting Unit since we do not utilize peer comparisons, but rather use venture capital rates.
As a result of our quantitative testing, none of the reporting units with goodwill as of our testing date had carrying values in excess of their fair values, nor were at risk of impairment. However, subsequent to our annual impairment testing, the Company discontinued its European residential solar racking business which resulted in an impairment charge against goodwill of $0.9 million. There were no impairment charges against goodwill recorded as of December 31, 2015. The Company recorded impairment charges against goodwill of $104.6 million as of December 31, 2014.
The October 31, 2016 goodwill impairment test includes significant assumptions. We analyzed several macroeconomic indicators that impact each reporting unit to provide a reasonable estimate of revenue growth in future periods. We considered these forecasts in developing each reporting unit’s revenue growth rates over the next five years depending on the level of correlation between macroeconomic factors and net sales for each reporting unit. We concluded that this approach provided a reasonable estimate of long-term revenue growth and cash flows for each reporting unit.
Operating margins used to estimate future cash flows are based on margins generated during the past few years, adjusted for consolidation of facilities, cost reductions and restructuring activities, including our 80/20 simplification processes.
In addition to revenue growth and operating margin forecasts, the discounted cash flow model used to estimate the fair value of each reporting unit also uses assumptions for the amount of working capital needed to support each reporting unit. We forecasted stable to modest improvement in working capital management for future periods at each reporting unit based on past performance. We continue to maintain low levels of working capital management through our 80/20 simplification process, a strong focus on strategic investments of capital and by portfolio management. Our days of working capital ratio was 50 days for the year ended December 31, 2016. We believe continued improvement in our ability to manage working capital will allow us to increase the cash flow generated from each reporting unit.
The terminal value of each reporting unit was based on a projected terminal year of forecasted cash flows in our discounted cash flow model. We made an assumption that cash flows would grow 3.0% each year thereafter in the North American markets based on our approximation of gross domestic product growth. This assumption was based on a third-party forecast of future economic growth over the long-term.
The discounted cash flow model uses the WACC to discount cash flows in the forecasted period and to discount the terminal value to present value. To determine the WACC, we used a standard valuation method, the capital asset pricing model, based on readily available and current market data of peer companies considered market participants. Acknowledging the risk inherent in each reporting units’ ability to achieve long-term forecasted cash flows, in applying the income approach we increased the WACC of each reporting unit based upon each reporting unit’s past operating performance and their relative ability to achieve the forecasted cash flows.
As noted above, we used two commonly accepted valuation techniques to estimate a fair value for each reporting unit. The estimated fair value for each reporting unit was calculated using a weighted average between the calculated amounts determined under the income approach and the market approach. We weighted the income approach more heavily (67%) as the technique uses a long-term approach that considers the expected operating profit of each reporting unit during periods where macroeconomic indicators are nearer historical averages. We weighted the remaining (33%) using the market approach which values the reporting units using forecasted 2016 and 2017 EBITDA values based on current economic conditions and takes a more short-term approach. We believe the income approach considers the expected recovery in our end markets better than the market approach. Therefore, we concluded that the income approach more accurately estimated the fair value of the reporting units as it considers earnings potential during a longer term and does not use the short-term perspective used by the market approach. Accordingly, we concluded that the market participants who execute transactions to sell or buy a business in the current economic environment would place greater emphasis on the income approach.
Indefinite-Lived Intangibles
We test our intangible assets for impairment by comparing the fair value of the indefinite-lived intangible asset, determined using a discounted cash flow model, with its carrying amount. The assumptions used to determine the fair value of our indefinite-lived intangible assets are consistent with the assumptions employed in the determination of the fair values of our reporting units. An impairment loss would be recognized for the carrying amount in excess of its fair value. The fair values of the impaired trademarks were determined using an income approach consisting of the relief-from-royalty method. During 2016, the Company recognized indefinite-lived intangible asset impairment charges of $9,000,000, of which $7,800,000 of these impairment charges related to the Company's discontinued European residential solar racking business and U.S. bar grating product line and $1,200,000 were recognized as a result of the Company's annual impairment test. The Company recognized impairment charges related to indefinite-lived intangible assets during the annual test for 2015 and 2014 of $4,863,000 and $2,700,000, respectively.
Accounting for Income Taxes and Deferred Tax Assets and Liabilities
Significant management judgment is required in determining our provision for income taxes, deferred tax assets and liabilities, and any valuation allowances. Our effective tax rates differ from the statutory rate due to the impact of permanent differences between income or loss reported for financial statement purposes and tax purposes, provisions for uncertain tax positions, state taxes, and income generated by international operations. Our effective tax rate was 32.5% for the year ended December 31, 2016. The effective tax rates were 36.7% and 3.5% for the years ended December 2015 and 2014, respectively. Our future effective tax rates could be adversely affected by earnings being lower than anticipated in countries where we have lower statutory rates and vice versa. Changes in the valuation of our deferred tax assets or liabilities or changes in tax laws or interpretations thereof may also adversely affect our future effective tax rate. In addition, we are subject to the continuous examination of our income tax returns by the Internal Revenue Service and other tax authorities. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes.
Deferred tax assets and liabilities are determined based upon the differences between the financial statement and tax bases of assets and liabilities as measured by the enacted tax rates that will be in effect when these differences reverse. Valuation allowances are provided if, based upon the weight of available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized.
Regarding deferred income tax assets, we maintained a valuation allowance of $1.4 million and $0.8 million as of December 31, 2016 and 2015, respectively, due to uncertainties related to our ability to realize these assets, primarily consisting of state net operating losses and other deferred tax assets. The valuation allowances are based on estimates of taxable income in each of the jurisdictions in which we operate and the period over which our deferred tax assets will be recoverable. If market conditions improve and future results of operations exceed our current expectations, our existing tax valuation allowances may be adjusted. Alternatively, if market conditions deteriorate further or future operating results do not meet expectations, future assessments may result in a determination that some or all of the deferred tax assets are not realizable. As a result, we may need
to establish additional tax valuation allowances for all or a portion of the gross deferred tax assets, which may have a material adverse effect on our results of operations and financial condition.
It is our policy to classify estimated interest and penalties due to tax authorities as income tax. Insignificant amounts of interest and penalties were recognized in the provision for income taxes for the years ended December 31, 2016, 2015 and 2014. Additionally, we classify tax credits as a reduction to income tax expense.
The Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by tax authorities, based on the technical merits of each position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate resolution. As of December 31, 2016 and 2015, the liability for uncertainty in income tax positions was $3.5 million and $3.9 million, respectively. Due to the high degree of uncertainty regarding the timing of potential future cash flows associated with these liabilities, we are unable to make a reasonably reliable estimate of the amount and period in which these liabilities might be paid.
Recent Accounting Pronouncements
See Note 1 to the Company's consolidated financial statements in Part II, Item 8, Financial Statements and Supplementary Data, of this Form 10-K for further information on recent accounting pronouncements.
Item 7A.
Item 7A.
Quantitative and Qualitative Disclosures about Market Risk
In the ordinary course of business, the Company is exposed to various market risk factors, including changes in general economic conditions, competition, and raw materials pricing and availability. In addition, the Company is exposed to other financial market risks, primarily related to its long-term debt and foreign operations.
Raw Material Pricing Risk
We are subject to market risk exposure related to volatility in the price of steel, aluminum and resins. A significant amount of our cost of sales relates to material costs. Our business is heavily dependent on the price and supply of our raw materials. Our various products are fabricated from steel, primarily hot-rolled and galvanized steel coils, plate and bars, produced by steel mills. We have other lesser volume products that are fabricated from aluminum coils, extrusions, and plastic resins. The commodity market, which includes the steel, aluminum, and resin industries, is highly cyclical in nature, and commodity costs have been volatile in recent years, and may become more volatile in the future. Commodity costs are influenced by numerous factors beyond our control, including general economic conditions, the availability of raw materials, competition, labor costs, freight and transportation costs, production costs, import duties and other trade restrictions.
The Company principally manages its exposures to the market fluctuations in the steel and resins industries through management of its core business activities. Although we have the ability to purchase steel from a number of suppliers, a production cutback by one or more of our current suppliers could create challenges in meeting delivery schedules to our customers. The prices we offer to our customers are also impacted by changes in commodity costs. We manage the alignment of the cost of our raw materials and prices offered to customers and attempt to pass changes to raw material costs through to our customers. To improve our management of commodity costs, we attempt to maintain lean inventory levels. Our investment in ERP systems was made to increase our effectiveness in this process.
We have not entered into long-term contracts for the purchase of raw materials and have not maintained inventory levels in excess of our production requirements. However, from time to time, we may purchase raw materials in advance of commodity cost increases.
We rely on major suppliers for our supply of raw materials. During 2016, we purchased our raw materials from domestic and foreign suppliers in an effort to purchase the lowest cost material as possible.
We cannot accurately calculate the pre-tax impact a one percent change in the commodity costs would have on our 2016 operating results as the change in commodity costs would both impact the cost to purchase materials and the selling prices we offer our customers. The impact to our operating results would significantly depend on the competitive environment and the costs of other alternative building products, which could impact our ability to pass commodity costs to our customers.
To manage the risk associated with the fluctuations in the price of aluminum, the Company employs a combination of our normal operating activities, as discussed with regards to steel and resins above, and through the use of derivative financial
instruments pursuant to the Company’s hedging practices and policies. We intend that the financial impact of these commodity hedging instruments primarily offset the corresponding changes in the fluctuations in the cost of aluminum being hedged. The Company’s derivative financial instruments are used to manage differences in the amount, timing, and duration of the Company’s known or expected cash receipts and its known or expected cash payments principally related to the Company’s inventory and sales.
The Company entered into commodity options during 2014. The Company believes these instruments mitigate exposure in aluminum prices. Derivative accounting guidance requires that derivative instruments be recognized as either assets or liabilities at fair value. The Company does not utilize the special election provided for under the accounting guidance for these commodity options and therefore, they are recorded at fair value through earnings as their fair value changes.
Although the Company’s commodity options do not qualify or are not accounted for under hedge accounting, we do not hold or issue derivative financial instruments for trading or other speculative purposes. We monitor our derivative positions against our commercial exposure.
Interest Rate Risk
To manage interest rate risk, the Company uses both fixed and variable interest rate debt. Our fixed rate debt consists of the Company’s Senior Subordinated 6.25% Notes and was the only significant debt that remains outstanding at year end. We believe we limited our exposure to interest rate risk as a result of repaying substantially all variable rate debt and the long-term nature of our fixed rate debt. However, the Company will continue to monitor changes in its debt levels and access to capital ensuring interest rate risk is appropriately managed.
At December 31, 2016, our fixed rate debt consisted primarily of $210.0 million of our 6.25% Notes. The Company’s $210.0 million of 6.25% Notes were issued in January 2013 and are due February 1, 2021.
Our variable rate debt consists primarily of the revolving credit facility under the Senior Credit Agreement, which was amended and restated on December 9, 2015, and other debt. No amounts are outstanding on the revolving credit facility as of December 31, 2016. Borrowings under the revolving credit facility bear interest at a variable interest rate based upon the LIBOR plus an additional margin. A hypothetical 1% increase or decrease in interest rates would have changed the 2016 interest expense by less than $0.1 million.
Foreign Exchange Risk
The Company has foreign exchange risk due to our international operations, primarily in Canada and Asia and through sales and purchases from foreign customers and vendors. Changes in the values of currencies of foreign countries affect our financial position and cash flows when translated into U.S. dollars. The Company principally manages its exposures to many of these foreign exchange rate risks solely through management of its core business activities. We cannot accurately calculate the pre-tax impact that a one percent change in the exchange rates of foreign currencies would have on our 2016 operating results as the changes in exchange rates would impact the cost of materials, the U.S. dollar revenue equivalents, and potentially the prices offered to our overseas customers.
The Company also manages the risks relating to currency fluctuations through the use of derivative financial instruments pursuant to the Company’s hedging practices and policies. The Company uses foreign currency derivatives including currency forward agreements and currency options to manage its exposure to fluctuations in the exchange rates. Currency forward agreements involve fixing the exchange rates for delivery of a specified amount of foreign currency on a specified date. The currency forward agreements are typically cash settled in U.S. dollars for their fair value at or close to their settlement date. The Company also uses currency option contracts under which the Company pays a premium for the right to sell a specified amount of a foreign currency prior to the maturity date of the option.
The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges of foreign exchange risk is recorded as a component of equity and is subsequently reclassified into earnings in the period that the hedged forecasted transaction affects earnings. The ineffective portion of the change in fair value of the derivative, as well as, amounts excluded from the assessment of hedge effectiveness, is recognized directly in earnings.
Item 8.
Item 8.
Financial Statements and Supplementary Data
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of Gibraltar Industries, Inc.
We have audited the accompanying consolidated balance sheets of Gibraltar Industries, Inc. as of December 31, 2016 and 2015, and the related consolidated statements of operations, comprehensive income (loss), shareholders’ equity, and cash flows for each of the three years in the period ended December 31, 2016. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Gibraltar Industries, Inc. at December 31, 2016 and 2015 and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2016, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Gibraltar Industries, Inc.’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 21, 2017 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Buffalo, New York
February 21, 2017
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
See accompanying notes to consolidated financial statements.
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands)
See accompanying notes to consolidated financial statements.
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands)
See accompanying notes to consolidated financial statements.
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
See accompanying notes to consolidated financial statements.
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(in thousands)
See accompanying notes to consolidated financial statements.
GIBRALTAR INDUSTRIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of consolidation
The consolidated financial statements include the accounts of Gibraltar Industries, Inc. and subsidiaries (the "Company"). All significant intercompany accounts and transactions have been eliminated in consolidation.
Use of estimates
The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.
Revenue recognition
The majority of the Company's revenue is recognized when products are shipped or service is provided, the customer takes ownership and assumes the risk of loss, collection of the corresponding receivable is probable, persuasive evidence of an arrangement exists, and the sales price is fixed or determinable. Sales returns, allowances, and customer incentives, including rebates, are treated as reductions to sales and are provided for based on historical experience and current estimates.
Revenues representing 25.8% and 16.7% of sales for the years ended December 31, 2016 and 2015, respectively, was recognized under the percentage of completion accounting method as calculated by the cost-to-cost measurement method on contracts. No revenue in 2014 was recognized under the percentage of completion method. The recognition of revenue under this method is utilized by RBI Solar, Inc., Rough Brothers Manufacturing, Inc., and affiliates (collectively "RBI") which was acquired on June 9, 2015.
Revenue from contracts using the percentage of completion method of accounting is recognized as work progresses toward completion as determined by the ratio of cumulative costs incurred to date to estimated total contract costs at completion, multiplied by the total contract revenue. Changes in estimates affecting sales, costs and profits are recognized in the period in which the change becomes known using the cumulative catch-up method of accounting, resulting in the cumulative effect of changes reflected in the period. Estimates are reviewed and updated quarterly for all contracts. A significant change in an estimate on one or more contracts could have a material effect on our results of operations.
Contract costs include all direct costs related to contract performance. Selling and administrative expenses are charged to operations as incurred. Provisions for estimated losses on uncompleted contracts are recognized in the period in which such losses are determined. Because of inherent uncertainties in estimating costs, it is reasonably possible that changes in performance could result in revisions to cost and revenue, which are recognized in the period when the revisions are determined.
Cash and cash equivalents
All highly liquid investments with a maturity of three months or less are considered cash equivalents.
Accounts receivable and allowance for doubtful accounts
Accounts receivable are composed of trade and contract receivables recorded at either the invoiced amount or costs in excess of billings, are expected to be collected within one year, and do not bear interest. The allowance for doubtful accounts is the Company’s best estimate of the probable amount of uncollectible accounts in the Company’s existing accounts receivable. The Company determines the allowance based on a number of factors, including historical experience, credit worthiness of customers, and current market and economic conditions. The Company reviews the allowance for doubtful accounts on a regular basis. Account balances are charged against the allowance after all means of collection have been exhausted and the potential for recovery is considered remote. The following table summarizes activity recorded within the allowance for doubtful accounts balances for the years ended December 31 (in thousands):
Concentrations of credit risk on accounts receivable are limited to those from significant customers that are believed to be financially sound. As of December 31, 2016, the Company's most significant customer included a home improvement retailer. As of December 31, 2015, the Company's two most significant customers included a home improvement retailer and a postal authority. The home improvement retailer purchases from the Residential Products and Renewable Energy and Conservation segments. The postal authority purchased from the Residential Products segment. Accounts receivable as a percentage of consolidated accounts receivable from the home improvement retailer as of December 31, 2016 was 13.7%. Accounts receivable as a percentage of consolidated accounts receivable from the home improvement retailer and a postal authority as of December 31, 2015, were 11.8% and 5.5%, respectively.
Net sales as a percentage of consolidated net sales to the home improvement retailer were 11% , 11% and 12% for the years ended December 31, 2016, 2015 and 2014, respectively. Note 2 "Accounts Receivable" contains additional information on the Company's accounts receivable.
Inventories
Inventories are valued at the lower of cost, determined using the first-in, first-out method, or net realizable value. Shipping and handling costs are recognized as a component of cost of sales.
Property, plant, and equipment
Property, plant, and equipment are stated at cost and depreciated over their estimated useful lives using the straight-line method. Interest is capitalized in connection with construction of qualified assets. Expenditures that exceed an established dollar threshold and that extend the useful lives of assets are capitalized, while repair and maintenance costs are expensed as incurred. The estimated useful lives of land improvements, buildings, and building improvements are 15 to 40 years, while the estimated useful lives for machinery and equipment are 3 to 20 years.
The table below sets forth the amount of interest capitalized and depreciation expense recognized during the years ended December 31 (in thousands):
Acquisition related assets and liabilities
Accounting for the acquisition of a business as a purchase transaction requires an allocation of the purchase price to the assets acquired and the liabilities assumed in the transaction at their respective estimated fair values. The most complex estimations of individual fair values are those involving long-lived assets, such as property, plant, and equipment and intangible assets. The Company uses all available information to make these fair value determinations and, for major business acquisitions, engages independent valuation specialists to assist in the fair value determination of the acquired long-lived assets.
Goodwill and other intangible assets
The Company tests goodwill for impairment at the reporting unit level on an annual basis at October 31, or more frequently if an event occurs, or circumstances change, that indicate that the fair value of a reporting unit could be below its carrying value. The reporting units are at the component level, or one level below the operating segment level. Goodwill is assigned to each reporting unit as of the date the reporting unit is acquired and based upon the expected synergies of the acquisition.
The Company may elect to perform a qualitative assessment that considers economic, industry and company-specific factors for some or all of our selected reporting units. If, after completing the assessment, it is determined that it is more likely than not
that the fair value of a reporting unit is less than its carrying value, the Company proceeds to a quantitative test. The Company may also elect to perform a quantitative test instead of a qualitative test for any or all of the Company's reporting units.
The quantitative impairment test consists of comparing the fair value of a reporting unit, determined using two valuation techniques, to its carrying value. If the carrying value of the reporting unit exceeds its fair value, goodwill is considered impaired and any loss must be measured.
The Company also tests its indefinite-lived intangible assets for impairment on an annual basis as of October 31, or more frequently if an event occurs, or circumstances change, that indicate that the fair value of an indefinite-lived intangible asset could be below its carrying value. The impairment test consists of comparing the fair value of the indefinite-lived intangible asset, determined using discounted cash flows on a relief-from-royalty basis, with its carrying amount. An impairment loss would be recognized for the carrying amount in excess of its fair value. Acquired identifiable intangible assets are recorded at cost. Identifiable intangible assets with finite useful lives are amortized over their estimated useful lives.
Impairment of long-lived assets
Long-lived assets, including acquired identifiable intangible assets, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of those assets may not be recoverable. In specific situations, when the Company has selected individual assets to be sold or scrapped, the Company obtains market value data for those specific assets and measures and records the impairment loss based on such data. Otherwise, the Company uses undiscounted cash flows to determine whether impairment exists and measures any impairment loss by approximating fair value using acceptable valuation techniques, including discounted cash flow models and third-party appraisals. The Company recognized impairment charges related to intangible assets during the years ended December 31, 2016, 2015 and 2014. In addition, the Company recognized a number of impairment charges related to restructuring plans during the three year period ended December 31, 2016 as described in Note 15 of the consolidated financial statements.
Deferred charges
Deferred charges associated with initial costs incurred to enter into new debt arrangements are included as a component of long-term debt and are amortized as a part of interest expense over the terms of the associated debt agreements. Portions of these deferred financing charges were written off as a result of entering into amended and restated credit agreements and the redemption and reissuance of bonds as discussed in Note 8 of the consolidated financial statements.
Advertising
The Company expenses advertising costs as incurred. For the years ended December 31, 2016, 2015 and 2014, advertising costs were $5,100,000, $4,700,000 and $4,000,000, respectively.
Research and Development
The Company expenses research and development costs as incurred. For the years ended December 31, 2016, 2015 and 2014, research and development costs were $2,200,000, $866,000 and $60,000, respectively.
Foreign currency transactions and translation
The assets and liabilities of the Company’s foreign subsidiaries are translated into U.S. dollars at the rate of exchange in effect at the balance sheet date. Income and expense items are translated at the average exchange rates prevailing during the period.
Income taxes
The provision for income taxes is determined using the asset and liability approach. Under this approach, deferred income taxes represent the expected future tax consequences of temporary differences between the carrying amounts and tax basis of assets and liabilities. The Company records a valuation allowance to reduce deferred tax assets when uncertainty exists regarding their realization.
Equity-based compensation
The Company measures the cost of equity-based compensation based on grant date fair value and recognizes the cost over the period in which the employee is required to provide service in exchange for the award. Equity-based compensation consists of grants of stock options, deferred stock units, restricted stock, restricted stock units, and performance stock units. Equity-based compensation expense is included as a component of selling, general, and administrative expenses. The Company’s equity-based compensation plans are discussed in more detail in Note 12 of the consolidated financial statements.
Derivatives and hedging
The Company records all derivatives on the balance sheet at fair value. The accounting for changes in the fair value of derivatives depends on whether the Company has elected to designate a derivative in a hedging relationship and apply hedge accounting and whether the hedging relationship has satisfied the criteria necessary to apply hedge accounting. Derivative instruments that hedge a forecasted transaction or the variability of cash flows related to a recognized asset or liability are designated as a cash flow hedge. Hedge accounting generally provides matching the timing of gain or loss recognition on the hedging instrument with the recognition of the changes in the fair value of the hedged asset or liability that are attributable to the earnings effect of the hedged forecasted transactions in a cash flow hedge. Although certain of the Company's derivative financial instruments do not qualify or are not accounted for under hedge accounting, the Company does not hold or issue derivative financial instruments for trading or speculative purposes.
The effective portion of changes in the fair value of derivatives designated and that qualify as cash flow hedges of foreign exchange risk is recorded in other comprehensive income and is subsequently reclassified into earnings and reported in revenue in the period that the hedged forecasted transaction affects earnings. Any ineffective portion of the change in fair value of the derivative is recognized directly into earnings in other (income) expense. The Company's policy is to de-designate cash flow hedges at the time forecasted transactions are recognized as assets or liabilities on the balance sheet and report subsequent changes in fair value through the other (income) expense line on our statement of operations where the gain or loss due to movements in currency rates on the underlying asset or liability is revalued. If it becomes probable that the originally forecasted transaction will not occur, the gain or loss related to the hedge recorded within accumulated other comprehensive income is immediately recognized into net income.
Sale-Leaseback Transactions
During the first quarter of 2015, in order to capitalize on favorable real estate market conditions, the Company entered into a transaction to sell one of its real estate properties to an independent third party for $26,373,000. The Company leased back the entire property under a five year operating lease agreement. In accordance with the U.S. generally accepted accounting principles, the Company accounted for the transaction as a sale-leaseback. The net present value of the Company's future minimum lease payments of $5,765,000 were less than the gain on sale of $13,144,000. As such, the portion of the gain equal to the fair value of the future minimum lease payments was deferred and is being amortized on a straight-line basis over the five year term of the lease. The gain exceeding the fair value of the minimum lease payments amounted to $7,379,000 and was recognized during the quarter ended March 31, 2015 as a component of selling, general, and administrative expenses. The minimum lease payment for each of the five years is $1,378,000.
In June 2014, the Company determined that it no longer required full use of the available space on one of its real estate properties. The Company entered into a transaction to sell the property to an independent third party for $4,500,000, and lease back a portion of the building from the purchaser. The Company leased back approximately 50% of the building under a five year operating lease agreement. In accordance with U.S. generally accepted accounting principles, the Company accounted for the transaction as a sale-leaseback. The net present value of the Company's future minimum lease payments of $892,000 were greater than the gain on sale of $829,000. As such, the gain was deferred and is being amortized on a straight-line basis over the five year life of the lease. The minimum lease payment in the first year is $202,000 and escalates at 3% over the remaining four years.
These amounts have been included in the future minimum lease payments table in Note 18 of the consolidated financial statements.
Recent accounting pronouncements
We consider the applicability and impact of all ASUs. ASUs not listed above were assessed and determined to be either not applicable, or had or are expected to have minimal impact on our financial statements and related disclosures.
2. ACCOUNTS RECEIVABLE
Accounts receivable at December 31 consisted of the following (in thousands):
Contract receivables are primarily associated with developers, contractors and customers in connection with the Renewable Energy and Conservation segment. Costs in excess of billings principally represent revenues recognized on contracts that were not billable as of the balance sheet date. These amounts will be billed in accordance with contract terms, generally as certain milestones are reached or upon shipment. All of the costs in excess of billings are expected to be collected within one year. In situations where billings exceed revenues recognized, the excess is included in billings in excess of cost in the consolidated balance sheet.
3. INVENTORIES
Inventories at December 31 consisted of the following (in thousands):
The following table summarizes activity recorded within the reserve for excess, obsolete and slow moving inventory for the years ended December 31 (in thousands):
4. PROPERTY, PLANT, AND EQUIPMENT
Components of property, plant, and equipment at December 31 consisted of the following (in thousands):
5. ACQUISITIONS
2016 Acquisition
On October 11, 2016, the Company acquired all of the outstanding stock of Nexus Corporation ("Nexus"). Nexus is a leading provider of commercial-scale greenhouses to customers in the United States.
The acquisition of Nexus is expected to enable the Company to strengthen its position in the commercial greenhouse market in the United States. The results of Nexus have been included in the Company's consolidated financial results since the date of acquisition (within the Company's Renewable Energy and Conservation segment). The preliminary aggregate purchase consideration for the acquisition of Nexus was $24,594,000 as of December 31, 2016, which includes a working capital adjustment and certain other adjustments provided for in the stock purchase agreement. A working capital adjustment of $93,000 was received by the Company during the fourth quarter of 2016. The remaining estimated purchase adjustment of $1,000,000 will be paid during 2017 and included in investing activities in the consolidated statement of cash flows. As of December 31, 2016, it is included in the consolidated balance sheet within accrued expenses.
The preliminary purchase price for the acquisition was allocated to the assets acquired and liabilities assumed based upon their respective fair values. The excess consideration was recorded as goodwill and approximated $12,283,000, of which all is deductible for tax purposes. Goodwill represents future economic benefits arising from other assets acquired that could not be individually identified including workforce additions, growth opportunities, and increased presence in the building products markets.
The allocation of the preliminary purchase consideration to the fair value of the assets acquired and liabilities assumed is as follows as of the date of the acquisition (in thousands):
The intangible assets acquired in this acquisition consisted of the following (in thousands):
2015 Acquisition
On June 9, 2015, the Company acquired all of the outstanding stock of Rough Brothers Manufacturing, Inc., RBI Solar, Inc., and affiliates, collectively known as "RBI." RBI has established itself during the past seven years among North America’s fastest-growing providers of racking and mounting systems for solar energy installations and is among the largest commercial greenhouse manufacturers in North America.
RBI is a full service provider that engineers, manufactures and installs racking systems for solar power developers, contractors and companies. In addition, RBI designs and manufactures greenhouses for commercial, institutional and retail customers. The acquisition of RBI enables the Company to leverage its expertise in structural metals manufacturing, materials sourcing and logistics to help meet the fast-growing global demand for solar racking solutions. The results of RBI have been included in the Company’s consolidated financial results since the date of acquisition (within the Company's Renewable Energy and Conservation segment). The final aggregate purchase consideration for the acquisition of RBI was $147,585,000, which includes payments for working capital and certain other adjustments provided for in the stock purchase agreement. A working capital adjustment of $6,302,000 was paid by the Company during the third quarter of 2015. The remaining purchase adjustment of $2,314,000 was paid in the first quarter of 2016.
The purchase price for the acquisition was allocated to the assets acquired and liabilities assumed based upon their respective fair values. The excess consideration of $57,180,000, was recorded as goodwill of which $37,969,000 is deductible for tax purposes.
The allocation of the purchase consideration to the fair value of the assets acquired and liabilities assumed is as follows as of the date of the acquisition (in thousands):
The Company recorded an indemnification asset and liability of $3.0 million on the opening balance sheet related to the seller’s obligation to fully indemnify the Company for the outcome of potential contingent liabilities related to the uncertainty of
income tax positions in foreign jurisdictions. The liability and related indemnification asset may or may not be realized, and any unrealized liability is scheduled to expire in 2018.
The intangible assets acquired in this acquisition consisted of the following (in thousands):
The following unaudited pro forma financial information presents the combined results of continuing operations as if the acquisition of RBI had occurred as of January 1, 2014. The pro forma information includes certain adjustments, including depreciation and amortization expense, interest expense and certain other adjustments, together with related income tax effects. The pro forma amounts may not be indicative of the results that actually would have been achieved had the acquisitions occurred as of January 1, 2014 and are not necessarily indicative of future results of the combined companies (in thousands, except per share data):
The 2016 acquisition of Nexus was funded from available cash on hand. The 2015 acquisition of RBI was financed through a combination of cash on hand and borrowings under the Company's revolving credit facility. The Company incurred certain acquisition-related costs composed of legal and consulting fees, and these costs were recognized as a component of selling, general, and administrative expenses in the consolidated statement of operations. The Company also recognized costs related to the sale of inventory at fair value as a result of allocating the purchase price of recent acquisitions.
All acquisition related costs consisted of the following for the years ended December 31 (in thousands):
6. GOODWILL AND RELATED INTANGIBLE ASSETS
Goodwill
The changes in the carrying amount of goodwill for the years ended December 31 were as follows (in thousands):
Goodwill is recognized net of accumulated impairment losses of $235,419,000 and $255,530,000 as of December 31, 2016 and 2015, respectively.
Annual Impairment Testing
The Company performed its annual goodwill impairment test as of October 31, 2016, 2015, and 2014. The Company did not recognize any impairment charges during 2016 or 2015 as a result of the annual goodwill impairment test. However, subsequent to the annual goodwill impairment test as of October 31, 2016, the Company discontinued its European residential solar racking business which resulted in an impairment charge against goodwill. During 2014, the Company incurred impairment charges as a result of the October 31 annual test.
During the October 31, 2016 impairment test, the Company conducted a quantitative analysis for nine of the ten reporting units identified for review. For the remaining reporting unit, Nexus, the Company conducted a qualitative test rather than a quantitative test due to the recent acquisition date of this reporting unit on October 11, 2016. As such, for purposes of the annual goodwill impairment test as of October 31, 2016, the Company concluded that the fair value was greater than the net book value of $23,300,000 million and a quantitative test was not required to be conducted.
Step one of the quantitative impairment test consists of comparing the fair value of a reporting unit with its carrying value including goodwill. The fair value of each reporting unit evaluated under the quantitative test was determined using two valuation techniques: an income approach and a market approach. Each valuation approach relies on significant assumptions including a weighted average cost of capital ("WACC"). The WACC is calculated based upon the capital structure of market participants in the Company’s peer groups. Other assumptions used to calculate fair value for each reporting unit include projected revenue growth, forecasted cash flows, and earnings multiples based on the market value of the Company and market participants within its peer groups.
The following table summarizes the WACC calculation ranges used during the annual goodwill impairment tests performed during 2016 and 2015:
*nmf - For the October 31, 2015 annual impairment test, the Company performed a qualitative test vs. a quantitative test for goodwill impairment purposes. Therefore, a WACC percentage was not calculated for these reporting units.
As a result of our annual testing for 2016 and 2015, none of the reporting units with goodwill as of our testing date had carrying values in excess of their fair values. However, subsequent to the annual goodwill impairment test as of October 31, 2016, the Company discontinued its European residential solar racking business which resulted in an impairment charge against goodwill of $929,000 which was recorded for the year ended December 31, 2016. The Company did not record any goodwill impairment charges during 2015.
During our 2014 annual goodwill impairment test, we identified reporting units with carrying values in excess of fair value. Therefore, the Company initiated step two of the goodwill impairment test which involved calculating the implied fair value of goodwill by allocating the fair value of the reporting unit to the fair value of its assets and liabilities other than goodwill, calculating an implied fair value of goodwill, and comparing the implied fair value to the carrying amount of goodwill. As a result of step two of the annual goodwill impairment test, the Company estimated that the implied fair value of goodwill for the reporting units was less than their carrying values by $104,565,000 for the year ended December 31, 2014 which has been recorded as impairment charges of which $90,330,000 was recorded in our Industrial and Infrastructure Products segment and the remaining $14,235,000 was recorded in our Residential Products segment.
Interim Impairment Testing
We test goodwill and indefinite-lived intangible assets for impairment on an annual basis as of October 31 and at interim dates when indicators of impairment are present. In 2016, 2015 and 2014, no indicators of impairment were identified as of interim dates; therefore, no interim tests were performed.
Acquired Intangible Assets
Acquired intangible assets consist of the following (in thousands):
The Company recognized impairment charges related to indefinite-lived trademark intangible assets for the years ended December 31, 2016, 2015 and 2014. The Company also recognized impairment charges related to finite-lived intangible assets for the years ended December 31, 2016 and 2014.
The Company recorded $9.0 million of impairment charges related to indefinite-lived intangibles during 2016. $7.8 million of impairment charges recorded for the year ended December 31, 2016 relate to the Company's discontinued European residential solar racking business and U.S. bar grating product line. The remaining $1.2 million were recognized as a result of the Company's annual impairment test of indefinite-lived intangibles. The impairment charges related to the indefinite-lived trademarks in 2015 and 2014 were recognized as a result of the Company’s annual impairment test of indefinite-lived intangibles. The fair values of the impaired trademarks were determined using an income approach consisting of the relief-from-royalty method.
As a result of the Company's discontinued European solar racking business, the Company also recognized $0.2 million of impairment charges related to definite-lived intangibles. The 2014 impairment charges related to the finite-lived intangibles were recognized as a result of the estimated future discounted cash flows of the asset being less than its carrying value during the Company's annual impairment test. The fair value of the impaired finite-lived intangibles was determined using an income approach consisting of either the relief-from-royalty method or the excess earnings method. In addition, the Company recognized amortization expense related to the definite-lived intangible assets.
The following table summarizes the impairment charges for the years ended December 31 (in thousands):
The following table summarizes amortization expense for the years ended December 31 (in thousands):
Amortization expense related to acquired intangible assets for the next five years ended December 31 is estimated as follows (in thousands):
7. ACCRUED EXPENSES
Accrued expenses at December 31 consist of the following (in thousands):
Accrued expenses for insurance are primarily for general liability, workers’ compensation and employee healthcare policies for which the Company is self-insured up to certain per-occurrence and aggregate limits. The amounts accrued represent the Company's best estimates of the probable amount of claims to be paid. Differences between the amounts accrued and the amount that may be reasonably possible of payment are not material.
8. DEBT
Long-term debt at December 31 consists of the following (in thousands):
The Company's Fifth Amended and Restated Credit Agreement dated December 9, 2015 (the "Senior Credit Agreement") was amended to convert our revolving credit facility into a secured cash flow revolver, and terminates on December 9, 2020.
The Senior Credit Agreement provides for a revolving credit facility and letters of credit in an aggregate amount of $300 million. The Company has the option to request additional financing from the banks to either increase the revolving credit facility to $500 million or in the form of a term loan of up to $200 million. The Senior Credit Agreement contains three financial covenants. As of December 31, 2016, the Company is in compliance with all three covenants.
Borrowings under the Senior Credit Agreement are secured by the trade receivables, inventory, personal property, equipment, and certain real property of the Company’s significant domestic subsidiaries. Interest rates on the revolving credit facility are based on the LIBOR plus an additional margin that ranges from 1.25% to 2.25% for LIBOR loans based on the Total Leverage Ratio.
In addition, the revolving credit facility is subject to an undrawn commitment fee ranging between 0.20% and 0.30% based on the Total Leverage Ratio and the daily average undrawn balance.
Standby letters of credit of $12,806,000 have been issued under the Senior Credit Agreement to third parties on behalf of the Company as of December 31, 2016. These letters of credit reduce the amount otherwise available under the revolving credit facility. As of December 31, 2016, the Company had $287,194,000 of availability under the revolving credit facility. No borrowings were outstanding under the revolving credit facility at December 31, 2016 and December 31, 2015.
On January 31, 2013, the Company issued $210 million of 6.25% Senior Subordinated Notes ("6.25% Notes") due February 1, 2021. The provisions of the 6.25% Notes include, without limitation, restrictions on indebtedness, liens, and distributions from restricted subsidiaries, asset sales, affiliate transactions, dividends, and other restricted payments. Dividend payments are subject to annual limits and interest is paid semiannually on February 1 and August 1 of each year.
The aggregate maturities of long-term debt for the next five years and thereafter are as follows (in thousands):
Total cash paid for interest in the years ended December 31 was (in thousands):
9. EMPLOYEE RETIREMENT PLANS
Pension
The Company has an unfunded supplemental pension plan which provides defined pension benefits to certain salaried employees upon retirement. Benefits under the plan are based on the salaries of individual plan participants in the year they were admitted into the plan. The plan has been frozen and no additional participants will be added to the plan in the future.The
following table presents the changes in the plan’s projected benefit obligation, fair value of plan assets, and funded status for the years ended December 31 (in thousands):
Amounts recognized in the consolidated financial statements consisted of (in thousands):
The plan’s accumulated benefit obligation equaled the projected benefit obligation as of December 31, 2016, 2015, and 2014. The measurement date used to determine pension benefit measures was December 31.
Components of net periodic pension cost for the years ended December 31 were as follows (in thousands):
Expected benefit payments from the plan for the years ended December 31 are as follows (in thousands):
Foreign Pension
The Company had another unfunded supplemental pension plan at one of our previously owned European subsidiaries which provided defined pension benefits to certain employees upon retirement. The Company sold this subsidiary on April 15, 2016. The projected benefit obligation at December 31, 2015 was $362,000. A pre-tax accumulated other comprehensive loss retirement benefit liability adjustment of $91,000 had been recognized in 2015 in the Company’s financial statements, for a net liability of $271,000 at December 31, 2015.
401(k)
Employees of all U.S. subsidiaries are eligible to participate in the Company’s 401(k) Plan.
Multiemployer Pension Plans
In addition, the Company contributes to a number of multiemployer defined benefit pension plans under the terms of collective-bargaining agreements that cover union-represented employees. The risks of participating in these multiemployer plans are different from single-employer plans in the following aspects:
a)
Assets contributed to the multiemployer plan by one employer may be used to provide benefits to employees of other participating employers.
b)
If a participating employer stops contributing to the plan, the unfunded obligations of the plan may be borne by the remaining participating employers.
c)
If the Company chooses to stop participating in some of the multiemployer plans, the Company may be required to pay those plans an amount based on the underfunded status of the plan, referred to as a withdrawal liability.
The Company’s participation in these plans for the year ended December 31, 2016 is outlined in the table below. The “EIN/ Pension Plan Number” column provides the Employee Identification Number (EIN) and three-digit plan number, if applicable. Unless otherwise noted, the most recent Pension Protection Act (PPA) zone status available in 2016 and 2015 is for the plan’s year ended December 31, 2015 and 2014, respectively. The zone status is based on information that the Company received from the plans and is certified by the plans’ actuaries. Among other factors, plans in the red zone are generally less than 65% funded, plans in the yellow zone are less than 80% funded, and plans in the green zone are at least 80% funded.
At December 31, 2016, the Company employed 2,311 people, of which approximately 11% were represented by unions through various collective bargaining agreements (CBAs). Three of the Company's six CBAs expired and were successfully renegotiated in 2016. None of our CBA's expire until April 30, 2018. All of the funds have rehabilitation plans in place. Each plan with a rehabilitation plan requires minimum contributions from the Company. Given the status of these plans, it is reasonably possible that future contributions to the plans will increase although the Company cannot reasonably estimate a possible range of increased contributions as of December 31, 2016.
The Company did not contribute more than 5% of any fund’s total contributions in any of the three years in the period ended December 31, 2016. The table below sets forth the contributions made by the Company to each multiemployer plan for the years ended December 31 (in thousands):
At the date the financial statements were issued, Forms 5500 were not available for the plan year ended December 31, 2016.
Total Retirement Plan Expense
Total expense for all retirement plans for the years ended December 31 was (in thousands):
10. OTHER POSTRETIREMENT BENEFITS
The Company has an unfunded postretirement healthcare plan which provides health insurance to certain employees and their spouses upon retirement. This plan has been frozen and no additional participants will be added to the plan in the future.
The following table presents the changes in the accumulated postretirement benefit obligation related to the Company’s unfunded postretirement healthcare benefits at December 31 (in thousands):
During 2016, the Company's actual mortality was greater than expected and the actual claim costs were less than expected. As a result, the Company recognized an actuarial gain and a decrease in our projected benefit obligation. Net periodic postretirement benefit cost charged to expense decreased in 2016 as a result of amortization of the actuarial gain.
In October 2014 the Society of Actuaries issued new mortality tables and a mortality improvement scale which were applied when measuring the postretirement benefit obligation as of December 31, 2014. Because the new tables and improvement scale reflect today’s longer life expectancies, it resulted in an actuarial loss and an increase in our projected benefit obligation during 2014. As a result, net periodic postretirement benefit cost charged to expense has increased as a result of increases in the amortization of the actuarial loss.
Amounts recognized in the consolidated financial statements consisted of (in thousands):
Components of net periodic postretirement benefit cost charged to expense for the years ended December 31 were as follows (in thousands):
(1) It was assumed that these rates would gradually decline to 4% by 2075.
(2) Actuarial (gains)/losses are amortized utilizing the corridor approach. Differences between actual experience and the actuarial assumptions are reflected in (gain)/loss. If the total net (gain) or loss exceeds 10 percent of the greater of the accumulated postretirement benefit obligation or plan asset, this excess must be amortized over the average remaining service period of the active plan participants. If most of the plan participants are inactive, the amortization period is the expected future lifetime of inactive plan participants.
A 1% change in the annual medical inflation rate issued would have the following impact on the amounts reported at December 31 as follows (in thousands):
The measurement date used to determine postretirement benefit obligation measures was December 31.
Expected benefit payments from the plan for the years ended December 31 are as follows (in thousands):
11. ACCUMULATED OTHER COMPREHENSIVE (LOSS) INCOME
The cumulative balance of each component of accumulated other comprehensive (loss) income is as follows (in thousands):
The realized losses relating to the Company’s foreign currency cash flow hedges have been reclassified from accumulated other comprehensive loss and included in net sales in the consolidated statement of operations.
The realized adjustments relating to the Company’s minimum pension liability and post retirement health care costs were reclassified from accumulated other comprehensive loss and included in selling, general and administrative expenses in the consolidated statement of operations.
The realized adjustments relating to the Company’s foreign currency translation adjustment were reclassified from accumulated other comprehensive loss and included in other expense in the consolidated statement of operations. The 2016 reclassification above includes $6.9 million of foreign currency loss on the divestiture of European industrial manufacturing business in April 2016.
12. EQUITY-BASED COMPENSATION
Equity-based payments to employees and directors, including grants of stock options, restricted stock units, performance stock units, and restricted stock, are recognized in the statements of operations based on the grant-date fair value of the award. The Company uses the straight-line method of attributing the value of stock-based compensation expense over the vesting periods. Stock compensation expense recognized during the period is based on the value of the portion of equity-based awards that is ultimately expected to vest during the period. Vesting requirements vary for directors, executives, and key employees with vesting periods ranging from one year to four years with either graded or cliff vesting.
On May 6, 2016, the shareholders of the Company authorized the Gibraltar Industries, Inc. 2016 Stock Plan for Non-Employee Directors ("Non-Employee Directors Plan"). The Non-Employee Directors Plan is a compensation plan that allows the Company to grant awards of shares of the Company's common stock to non-employee Directors of the Company. In connection with the Non-Employee Directors Plan, the Company adopted a new stock deferral plan, the Gibraltar Industries, Inc. Non Employee Director Stock Deferral Plan ("Deferral Plan"). The Deferral Plan permits non-employee Directors of the Company to defer receipt of shares of common stock which the non-employee Director is entitled to receive pursuant to the terms of the Non-Employee Directors Plan.
On May 7, 2015, the shareholders of the Company authorized the Gibraltar Industries, Inc. 2015 Equity Incentive Plan (the "Plan") and simultaneously amended the 2005 Equity Incentive Plan (the "Prior Plan") to terminate issuance of further awards from the Prior Plan. The Plan is an incentive compensation plan that allows the Company to grant equity-based incentive compensation awards to eligible participants. Awards under the plan may be in the form of options, restricted shares, restricted units, performance shares, performance stock units, and rights.
Equity Based Awards - Settled in Stock
The following table provides the number of stock unit awards granted which will convert to shares upon vesting as well as restricted shares issued during the years ended December 31, along with the weighted-average grant-date fair value of each award:
At December 31, 2016, 550,000 shares were available for issuance under the Plan as incentive stock options or other stock awards and 85,000 shares were available for issuance under the Non-Employee Directors Plan as awards of shares of the Company's common stock.
Included in the performance stock units disclosed above are 321,714 units awarded in June 2015. The final number of performance stock units that will convert to shares will be determined based on RBI's gross profit performance relative to their targeted gross profit for 2016 and 2017. The remaining 75,000 units were awarded in December 2015. The number of shares to be issued to the recipients will be determined based upon the ranking of the Company's total shareholder return over a three (3) year performance period ended December 31, 2018 compared to the total shareholder return of companies in the S&P Small Cap Industrial Sector over such period.
The Company recognized the following compensation expense in connection with awards that vested under the Plan and the Prior Plan along with the related tax benefits recognized during the years ended December 31 (in thousands):
The fair value of the restricted shares, restricted stock units, and performance stock units issued during the three years ended December 31, 2016 was based on the grant-date fair value. The fair value of stock options granted was estimated on the date of grant using the Black-Scholes option pricing model. No options were granted in 2016 and 2014. Expected stock volatility was based on volatility of the Company’s stock price using a historical period commensurate with the expected life of the options. The following table provides the weighted average assumptions used to value stock options issued during the year ended December 31:
The following table summarizes the ranges of outstanding and exercisable options at December 31, 2016:
The following table summarizes information about stock option transactions:
The aggregate intrinsic value in the preceding table represents the total pre-tax intrinsic value, based on the $41.65 per share market price of the Company’s common stock as of December 31, 2016, which would have been received by the option holders had all option holders with an exercise price below the per share market price on December 31, 2016, exercised their options as of that date.
The following table sets forth the aggregate intrinsic value of options exercised and aggregate fair value of restricted stock units and restricted shares that vested during the years ended December 31 (in thousands):
The following table summarizes information about non-vested restricted stock units and performance stock units (that will convert to shares upon vesting) and restricted shares:
(1) Vested and issued upon retirement.
As of December 31, 2016, there was $9,957,000 of total unrecognized compensation cost related to non-vested options, restricted shares, and restricted stock units. That cost is expected to be recognized over a weighted average period of 2.2 years.
Performance Stock Units - Settled in Cash
The Company has also awarded performance stock units ("PSUs") that will convert to cash after three years based upon a one year performance period. The cost of these awards is recognized over the requisite vesting period. The PSUs earned over the performance period are determined based on the Company's actual return on invested capital ("ROIC") relative to the ROIC targeted for the performance period.
The following table provides the number of PSUs which will convert to cash for the years ending December 31:
(1) The participants earned 200% of target aggregating 256,000 PSUs earned. This award will convert to cash and be payable in January 2019.
(2) The participants earned 200% of target aggregating 438,000 PSUs earned. This award will convert to cash and be payable in January 2018.
(3) Based on the actual 2014 ROIC, no shares were earned during the performance period.
During the 2013 performance period, the participants earned an aggregate of 114,000 PSUs, representing 50% of the targeted award of 237,000 units. In January 2016, $2,723,000 was paid to the participants for the 2013 PSUs based on the trailing 90-day closing price of the Company's common stock ended December 31, 2015.
The following table summarizes the compensation expense recognized from the change in fair value and vesting of performance stock units awarded for the years ended December 31 (in thousands):
Management Stock Purchase Plan
The Management Stock Purchase Plan ("MSPP") provides participants the ability to defer a portion of their compensation or Directors’ fees, which deferral is converted to restricted stock units, and credited to an account. Under the MSPP, the Company provides a matching award in restricted stock units equal to a percentage of the employees' compensation or Directors' 2015 fee deferral amount. Beginning January 1, 2016, Directors do not receive any company-matching on deferred fees. The account represents a share-based liability converted to and settled in cash which is payable to participants upon retirement or a termination of their service to the Company.
The following table provides the number of restricted stock units credited to participant accounts, balance of vested and unvested restricted stock units within participant accounts, payments made with respect to restricted stock units issued under the MSPP, and MSPP expense during years ended December 31:
13. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The Company is exposed to certain risks arising from both its business operations and economic conditions. The primary risks that the Company manages through its derivative instruments from time to time are foreign currency exchange rate risk and commodity pricing risk. We enter into derivative financial instruments with various financial institutions to minimize counterparty credit risk. Depending on the type of transaction, we may enter into either derivatives that are designated as hedging instruments and/or derivatives that are not designated as hedging instruments.
As of December 31, 2016, we do not currently hold any derivatives classified as hedging instruments and qualifying for hedge accounting.
Derivatives not designated as hedging instruments
Commodity options and forward exchange options are recorded in the consolidated balance sheet at fair value and the resulting gains or losses are recorded to other income in the consolidated statement of operations. Resulting gains and losses are included in operating activities in the consolidated statement of cash flows. The (gains) losses recognized for the twelve months ended December 31, are as follows (in thousands):
As of December 31, 2016, the Company does not hold any derivatives not designated as hedging instruments.
Summary of Derivatives
Derivatives consist of the following (in thousands):
14. FAIR VALUE MEASUREMENTS
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Depending on the nature of the asset or liability, various techniques and assumptions can be used to estimate fair value. A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement as follows:
•
Level 1 - Quoted prices in active markets for identical assets or liabilities.
•
Level 2 - Observable inputs other than quoted prices in active markets for similar assets and liabilities.
•
Level 3 - Inputs that are unobservable inputs for the asset or liability.
The Company's derivatives are valued using various pricing models or discounted cash flow analyses that incorporate observable market data, such as interest rate yield curves, currency rates and implied volatility. In addition, the Company received fair value estimates from contract counterparties to verify the reasonableness of the Company's estimates. These derivatives are classified as Level 2 within the valuation hierarchy.
The following table presents the fair values and classification of our financial assets (liabilities) measured on a recurring basis, all of which are classified as Level 2 as of December 31, (in thousands):
At December 31, 2016 and 2015, the Company's long-term debt financial instrument had a carrying value that differed from its fair value. The fair value of outstanding debt gross of unamortized debt issuance costs was $219,898,000 and $217,925,000, respectively, compared to its carrying value of $209,637,000 and $209,282,000, respectively. The fair value of the Company's Senior Subordinated 6.25% Notes is classified as Level 2 within the fair value hierarchy and was estimated based on quoted market prices.
The Company’s other financial instruments primarily consist of cash and cash equivalents, accounts receivable, notes receivable, and accounts payable. The carrying values for our financial instruments approximate fair value. The Company did not have any other material assets or liabilities carried at fair value and measured on a recurring basis as of December 31, 2016 and 2015.
Other non-recurring fair value measurements
Long-lived assets
The Company also recognized the impairment of certain property, plant, and equipment during the years ended December 31, 2016, 2015 and 2014. The impairment charges were calculated by determining the fair value of the property, plant, and equipment using unobservable inputs which primarily include replacement cost less depreciation or market data for transactions involving similar assets. These inputs are classified as Level 3 inputs. See Note 15 of the consolidated financial statements for more disclosure regarding the impairment of certain property, plant, and equipment.
During 2016, 2015, and 2014, the Company also recognized impairments to intangible assets. The impairment charges were calculated by determining the fair value of these assets. The fair value measurements were calculated using discounted cash flow analyses which rely primarily upon unobservable inputs classified as Level 3 inputs. See Note 6 of the consolidated financial statements for more disclosure regarding the impairment of intangible assets.
The Company also applied fair value principles during the goodwill impairment tests performed during 2016, 2015, and 2014. The fair value for the Company’s reporting units cannot be determined using readily available quoted Level 1 or Level 2 inputs that are observable or available from active markets. Therefore, the Company used two valuation models to estimate the fair values of its reporting units, both of which primarily use Level 3 inputs. To estimate the fair values of reporting units, the Company uses significant estimates and judgmental factors. The key estimates and factors used in the valuation models include revenue growth rates and profit margins based on internal forecasts, terminal value, WACC, and earnings multiples. See Note 6 of the consolidated financial statements for the results of the Company’s goodwill impairment tests.
Acquisitions
As described in Note 5 of the consolidated financial statements, the Company acquired all of the outstanding stock of Nexus on October 11, 2016 and all of the outstanding stock of RBI on June 9, 2015. The estimated fair values allocated to the assets acquired and liabilities assumed relied upon fair value measurements based in part on Level 3 inputs. The valuation techniques used to assign fair values to inventory, property, plant and equipment, and intangible assets included the cost approach, market approach, relief-from-royalty approach, and other income approaches. The valuation techniques relied on a number of inputs that included the cost and condition of the property, plant and equipment, forecasted net sales and incomes, and royalty rates.
15. EXIT ACTIVITY COSTS AND ASSET IMPAIRMENTS
The Company’s business strategy has been formulated to effect a transformation of its operations and improve financial results over a five year period.
In 2015, the first year of this planned transformation, an 80/20 simplification initiative commenced across many of our business units. This on-going initiative, in part, focuses the Company’s internal resources on further increasing the value provided to our customers. A result of this initiative was the identification of low-volume, low-margin, internally-produced products which have been or will be outsourced or discontinued.
In 2016, the 80/20 simplification initiative was initiated at additional business units as well as continued at those business units which commenced activity in 2015. Correspondingly, the Company executed another key strategy in 2016 known as portfolio management. Portfolio management, a natural adjunct to this 80/20 initiative, is another initiative to drive transformational change in the Company’s financial results in which management continually evaluates all aspects of our current portfolio for future profitable growth and greater shareholder returns. As a result of this initiative, the Company executed three transactions in 2016 related to this strategy: the sale of its European industrial manufacturing business to a third party in April 2016, the exiting of its small European residential solar racking business and the exiting of its U.S. bar grating product line. Both the exit of the Company's small European residential solar racking business and the exit of the Company's U.S. bar grating product line commenced in the fourth quarter of 2016 and are expected to be completed in early 2017.
During 2016, the Company incurred asset impairments resulting from the above initiatives. Asset impairments relate to the write-down of inventory and impairment of machinery, equipment and facilities associated with either businesses sold or exited, discontinued product lines or the reduction of manufactured goods offered within a product line. These assets were written down to their sale or scrap value, and were subsequently sold or disposed of.
The Company also incurred exit activity costs in 2016 which related to contract termination costs, severance costs, and other moving and closing costs. The above initiatives led to the closing and consolidation of seven facilities in 2016, which resulted in costs for relocation of inventory and equipment at those facilities, termination of leases and the reduction of workforce associated with the discontinued products and closed facilities. In conjunction with the exiting of its small European residential solar racking business and its U.S. bar grating product line, as of December 31, 2016, the Company expects to close five more facilities in early 2017 and expect to incur additional exit activity charges related to these closures in 2017. The Company also incurred intangible asset impairment charges related to the exiting of its small European residential solar racking business and its U.S. bar grating product line which are not included in the aforementioned charges, but rather have been disclosed in Note 6.
In 2015, the Company closed and consolidated four facilities which resulted in asset impairment charges and exit activity costs. In addition, the Company sold and leased back a facility.
The following table sets forth the asset impairment charges, exit activity costs and gain on facilities sold in conjunction with these efforts, incurred by segment during the years ended December 31 related to the restructuring activities described above (in thousands):
The following table provides a summary of where the above exit activity costs and asset impairments are recorded in the consolidated statements of operations for the years ended December 31 (in thousands):
The following table reconciles the beginning and ending liability for exit activity costs relating to the Company’s facility consolidation efforts (in thousands):
As noted above, the Company sold its European industrial manufacturing business to a third party on April 15, 2016, from its Industrial and Infrastructure Products segment. The pretax loss on the disposal was $8.8 million. The sale resulted in a net loss of $2.0 million on net proceeds of $8.3 million. This divestiture did not meet the criteria to be reported as a discontinued operation as it does not represent a strategic shift that has or will have a major effect on the Company’s operations. Therefore, prior period results of continuing operations have not been restated to exclude the impact of the divested business’s financial results. The pretax loss on disposal is presented within other expense (income) in the consolidated statement of operations. Neither the exiting of the Company’s small European residential solar racking business nor its U.S. bar grating product line either currently meet, nor will meet, the criteria to be reported as a discontinued operation.
16. INCOME TAXES
The components of income (loss) before taxes from continuing operations consisted of the following for the years ended December 31 (in thousands):
The provision for (benefit of) income taxes from continuing operations for the years ended December 31 consisted of the following (in thousands):
The (benefit of) provision for income taxes from discontinued operations for the years ended December 31 consisted of the following (in thousands):
The provision for income taxes from continuing operations differs from the federal statutory rate of 35% for the years ended December 31 due to the following (in thousands):
Deferred tax liabilities (assets) at December 31 consist of the following (in thousands):
Deferred taxes include net deferred tax assets relating to certain state and foreign tax jurisdictions. A reduction of the carrying amount of deferred tax assets by a valuation allowance is required if it is more likely than not that such assets will not be realized. The following sets forth a reconciliation of the beginning and ending amount of the Company’s valuation allowance (in thousands):
The Company made net payments for income taxes for the following amounts for the years ended December 31 (in thousands):
Provision has not been made for U.S. taxes on $28,751,000 of undistributed earnings of foreign subsidiaries. Those earnings have been and will continue to be indefinitely reinvested. As of December 31, 2016, the Company’s foreign operations held $26,351,000 of cash that provides foreign operations with liquidity to reinvest in working capital and capital expenditures for their operations. Any excess earnings could be used to grow the Company’s foreign operations through launches of new capital projects or additional acquisitions. Determination of the amount of unrecognized deferred U.S. income tax liability is not practicable due to the complexities associated with its hypothetical calculation.
A reconciliation of the beginning and ending amount of unrecognized tax benefits is as follows (in thousands):
The Company and its U.S. subsidiaries file a U.S. federal consolidated income tax return. Foreign and U.S. state jurisdictions have statute of limitations generally ranging from four to ten years. Currently, the Company is under examination in Germany for 2009 through 2012. The Company's U.S. federal consolidated income tax return remains subject to examination for 2014, 2015 and 2016.
$636,000 and $859,000 of unrecognized tax benefits would affect the effective tax rate, if recognized as of December 31, 2016 and 2015. $2,830,000 and $3,017,000 of unrecognized tax benefits related to the acquisition of RBI on June 9, 2015, if recognized would be offset by an equal indemnification asset at December 31, 2016 and 2015. The Company classifies accrued interest and penalties related to unrecognized tax benefits in income tax expense. Interest (net of federal tax benefit) and penalties recognized during the years ended December 31 were (in thousands):
At December 31, 2016, the Company had net operating loss carry forwards for federal, state, and foreign income tax purposes totaling $23,284,000. The federal and state net operating loss carry forwards will expire between 2016 and 2036. The foreign net operating loss carry forwards have an indefinite carry forward period. The Company recognized $1,737,000 of deferred tax assets, net of the federal tax benefit, related to these net operating losses prior to any valuation allowances.
17. EARNINGS PER SHARE
Basic earnings per share is based on the weighted average number of common shares outstanding. Diluted earnings per share is based on the weighted average number of common shares outstanding, as well as dilutive common shares which, in the Company's case, include shares issuable under the equity compensation plans described in Note 12 of the consolidated financial statements. The weighted average number of diluted shares does not include potential anti-dilutive common shares aggregating 653,000, 643,000 and 503,000 at December 31, 2016, 2015 and 2014, respectively. The treasury stock method is used to calculate dilutive shares, which reduces the gross number of dilutive shares by the number of shares purchasable from the proceeds of the options assumed to be exercised and the unrecognized expense related to the restricted stock and restricted stock awards assumed to have vested.
Basic earnings and diluted weighted-average shares outstanding are as follows for the years ended December 31 (in thousands):
For the year ended December 31, 2014, all stock options, unvested restricted stock and unvested restricted stock units were anti-dilutive and, therefore, not included in the dilutive loss per share calculations. The number of weighted average stock options, unvested restricted stock, and unvested restricted stock units that were not included in the dilutive loss per share calculation because the effect would have been anti-dilutive was 211,000 for the year ended December 31, 2014.
18. COMMITMENTS AND CONTINGENCIES
The Company leases certain facilities and equipment under operating leases. As leases expire, it can be expected that, in the normal course of business, certain leases will be renewed or replaced. Certain lease agreements include escalating rent payments over the lease terms. The Company expenses rent on a straight-line basis over the lease term which commences on the date the Company has the right to control the property. Rent expense under operating leases for the years ended December 31 aggregated (in thousands):
Future minimum lease payments under these noncancelable operating leases as of December 31, 2016 are as follows (in thousands):
The Company is a party to certain claims and legal actions generally incidental to its business. Management does not believe that the outcome of these actions, which are not clearly determinable at the present time, would significantly affect the Company’s financial condition or results of operations.
Escheat Audits
The State of Delaware, Department of Finance, Division of Revenue (Unclaimed Property), has notified numerous companies, including Gibraltar Industries, Inc., that the State will examine its books and records and those of its subsidiaries and related entities to determine compliance with the Delaware Escheat Laws. The review is being conducted by a third party on behalf of the State. Sixteen other states have retained the same third party and have sent similar notifications to the Company. The scope of each state’s audit varies. The State of Delaware advises, for example, that the scope of its examination will be for the period 1981 through the present. The exposure, if any, related to the audits is not currently determinable.
19. RELATED PARTY TRANSACTIONS
An officer of one of the Company's operating segments is the owner of certain real estate properties leased for manufacturing and distribution purposes by that operating segment. The leases are in effect until June 2018 and June 2020. For the years ended December 31, 2016 and 2015, the Company incurred $1,039,000 and $523,000 of lease expense for these properties. All amounts incurred during 2016 and 2015 were expensed as a component of cost of sales.
20. SEGMENT INFORMATION
The Company is organized into three reportable segments on the basis of the production process and products and services provided by each segment, identified as follows:
(i)
Residential Products, which primarily includes roof and foundation ventilation products, mail and package storage products, rain dispersion products and roofing accessories;
(ii)
Industrial and Infrastructure Products, which primarily includes expanded and perforated metal, expansion joints and structural bearings; and
(iii)
Renewable Energy and Conservation, which primarily includes designing, engineering, manufacturing and installation of solar racking systems and greenhouse structures.
When determining the reportable segments, the Company aggregated operating segments based on their similar economic and operating characteristics.
The following table illustrates certain measurements used by management to assess the performance of the segments described above as of and for the years ended December 31 (in thousands):
Net sales by region or origin and long-lived assets by region of domicile for the years ended and as of December 31 are as follows (in thousands):
21. SUPPLEMENTAL FINANCIAL INFORMATION
The following information sets forth the consolidating summary financial statements of the issuer (Gibraltar Industries, Inc.) and guarantors, which guarantee the Senior Subordinated 6.25% Notes due February 1, 2021, and the non-guarantors. The guarantors are 100% owned subsidiaries of the issuer and the guarantees are full, unconditional, joint and several.
Investments in subsidiaries are accounted for by the parent using the equity method of accounting. The guarantor subsidiaries and non-guarantor subsidiaries are presented on a combined basis. The principal elimination entries eliminate investments in subsidiaries and intercompany balances and transactions.
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATING STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2016
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATING STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2015
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATING STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 2014
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
YEAR ENDED DECEMBER 31, 2016
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
YEAR ENDED DECEMBER 31, 2015
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
YEAR ENDED DECEMBER 31, 2014
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATING BALANCE SHEETS
DECEMBER 31, 2016
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONSOLIDATING BALANCE SHEETS
DECEMBER 31, 2015
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
DECEMBER 31, 2016
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
DECEMBER 31, 2015
(in thousands)
GIBRALTAR INDUSTRIES, INC.
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
DECEMBER 31, 2014
(in thousands)
22. QUARTERLY UNAUDITED FINANCIAL DATA
GIBRALTAR INDUSTRIES, INC.
QUARTERLY UNAUDITED FINANCIAL DATA
(in thousands, except per share data)
For the quarters ended March 31, 2016 and June 30, 2016 presented in the table above, immaterial differences were identified between amounts as presented and amounts required to be recorded in accordance with U.S. generally accepted accounting principles due to errors in the Company's accounting for estimated total contract costs at completion as it is related to revenue recognition under the percentage of completion accounting method. Refer to the Company's Quarterly Report, Form 10-Q, for the quarter ended September 30, 2016 for a complete description of these differences. These differences will be corrected in the Company's future filings. For the quarter ended December 31, 2016 presented in the table above, the net loss from continuing operations includes $4.8 million of income tax expense to correct a discrete tax benefit recorded during the three months ended June 30, 2016 resulting from the sale of its European industrial manufacturing business to a third party.
23. SUBSEQUENT EVENTS
On February 6, 2017, the Company completed the sale of substantially all of its US bar grating product line assets to a third party. The Company had previously announced, on December 2, 2016, its intentions to exit its US bar grating product line as part of its portfolio management initiative. The assets sold, a part of our Industrial and Infrastructure Products segment, were comprised of inventory and fixed assets with carrying values of $7,000,000 and $7,700,000, respectively.
Item 9.
Item 9.
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Not applicable.
Item 9A.
Item 9A.
Controls and Procedures
Evaluation of Disclosure Controls and Procedures
The Company maintains a system of disclosure controls and procedures (as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934). The Company’s Chief Executive Officer and the Chief Financial Officer evaluated the effectiveness of the Company’s disclosure controls as of the end of the period covered in this report. Based upon that evaluation and the definition of disclosure controls and procedures contained in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, the Company’s Chief Executive Officer, and Chief Financial Officer have concluded that as of the end of such period the Company’s disclosure controls and procedures were effective.
Management’s Annual Report on Internal Control Over Financial Reporting
The management of Gibraltar Industries, Inc. is responsible for establishing and maintaining adequate internal control over financial reporting for the Company, as such term is defined in Rule 13a-15(f) under the Securities Exchange Act of 1934. Under the supervision and with the participation of management, including the Company’s Chief Executive Officer and the Chief Financial Officer, the Company conducted an evaluation of the effectiveness of internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework). Based on the Company’s evaluation, management concluded that the Company’s internal control over financial reporting was effective as of December 31, 2016.
The Company completed the acquisition of Nexus in 2016, which was excluded from management's annual report on internal control over financial reporting as of December 31, 2016. The Company acquired the outstanding stock of Nexus on October 11, 2016 and its results have been included in our 2016 consolidated financial statements. Total and net assets constituted $28.9 million and $24.9 million, respectively, as of December 31, 2016 and net sales and net income constituted $8.5 million and $0.3 million, respectively, for the year then ended.
The effectiveness of the Company’s internal control over financial reporting as of December 31, 2016 has been audited by Ernst & Young LLP, an independent registered public accounting firm, as stated in their report which is included below in this Item 9A of this Annual Report on Form 10-K.
Remediation of Identified Material Weaknesses in Internal Control over Financial Reporting
We previously identified and disclosed in the Company’s Quarterly Report, Form 10-Q, for the quarter ended September 30, 2016 a material weakness related to the accounting for revenue recognition under the percentage of completion method of accounting, specifically related to business acquired in 2015. This acquired business had been previously excluded from management’s annual report on internal control over financial reporting as of December 31, 2015 as permitted under current SEC guidelines. Accordingly, during the three months ended December 31, 2016, the Company immediately performed remediation procedures to change the design of previously existing internal controls, as well as, designed and implemented new internal controls over the transactions and valuation of revenue recognized under the percentage of completion accounting method for contracts. These redesigned and new internal controls were tested during the three months ended December 31, 2016. Based on the results of this testing, management concluded the previously identified material weakness has been remediated as of December 31, 2016.
As a result of the Company’s continuing portfolio management strategy, during the three months ended December 31, 2016, management re-designed and implemented an internal control related to accounting for income taxes that requires an independent third party to review at a more detailed level of precision the appropriateness and accuracy of discrete, significant
and complex transactions in a reasonable time period after such a transaction has occurred. Accordingly, during the implementation of this control during the three months ended December 31, 2016, management discovered an immaterial error associated with accounting for incomes taxes. Specifically, in connection with the Company’s preparation and review procedures of the tax provision for the year ended December 31, 2016, an error was identified in the calculation of a permanent difference included in the Company’s tax provision and income tax expense that we determined was the result of a material weakness that existed as of June 30, 2016. The error did not have a material impact on the Company’s prior periods financial statements presented. The immaterial error was detected and corrected during the three months ended December 31, 2016. Based on the correction of the immaterial error and implementation of the aforementioned internal control, management concluded the identified material weakness has been remediated as of December 31, 2016.
Changes in Internal Control over Financial Reporting
There have been no other changes in the Company’s internal control over financial reporting (as defined by Rule 13a-15(f)) that occurred during the three months ended December 31, 2016 that have materially affected the Company’s internal control over financial reporting.
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders of Gibraltar Industries, Inc.
We have audited Gibraltar Industries, Inc.’s internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). Gibraltar Industries, Inc.’s management is responsible for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the company’s internal control over financial reporting based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to risk that controls may become inadequate because of changes in conditions or that the degree of compliance with the policies or procedures may deteriorate.
As indicated in the accompanying Management’s Annual Report on Internal Control Over Financial Reporting, management’s assessment of and conclusion on the effectiveness of internal control over financial reporting did not include the internal controls of Nexus Corporation, which is included in the 2016 consolidated financial statements of Gibraltar Industries, Inc. and constituted $28.9 million and $24.9 million of total and net assets, respectively, as of December 31, 2016 and $8.5 million and $0.3 million of net sales and net income, respectively, for the year then ended. Our audit of internal control over financial reporting of Gibraltar Industries, Inc. also did not include an evaluation of the internal control over financial reporting of Nexus Corporation.
In our opinion, Gibraltar Industries, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on the COSO criteria.
We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Gibraltar Industries, Inc. as of December 31, 2016 and 2015, and the related consolidated statement of operations, comprehensive income (loss), shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2016 of Gibraltar Industries, Inc. and our report dated February 21, 2017 expressed an unqualified opinion thereon.
/s/ Ernst & Young LLP
Buffalo, New York
February 21, 2017
PART III
Item 10.
Item 10.
Directors, Executive Officers, and Corporate Governance
Information regarding directors and executive officers of the Company, as well as the required disclosures with respect to the Company’s audit committee financial expert, is incorporated herein by reference to the information included in the Company’s 2017 Proxy Statement which will be filed with the Commission within 120 days after the end of the Company’s 2016 fiscal year.
The Company has adopted a Code of Ethics that applies to the President and Chief Executive Officer, Senior Vice President and Chief Financial Officer, and other senior financial officers and executives of the Company. The complete text of this Code of Ethics is available in the corporate governance section of our website at www.gibraltar1.com. The Company does not intend to incorporate the contents of our website into this Annual Report on Form 10-K.
Information regarding executive compensation is incorporated herein by reference to the information included in the Company’s 2017 Proxy Statement which will be filed with the Commission within 120 days after the end of the Company’s 2016 fiscal year.
Item 12.
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information regarding security ownership of certain beneficial owners and management is incorporated herein by reference to the information included in the Company’s 2017 Proxy Statement which will be filed with the Commission within 120 days after the end of the Company’s 2016 fiscal year.
Item 13.
Item 13.
Certain Relationships and Related Transactions and Director Independence
Information regarding certain relationships and related transactions is incorporated herein by reference to the information included in the Company’s 2017 Proxy Statement which will be filed with the Commission within 120 days after the end of the Company’s 2016 fiscal year.
Item 14.
Item 14.
Principal Accounting Fees and Services
Information regarding principal accounting fees and services is incorporated herein by reference to the information included in the Company’s 2017 Proxy Statement which will be filed with the Commission within 120 days after the end of the Company’s 2016 fiscal year.
PART IV
Item 15.
Item 15.
Exhibits and Financial Statement Schedules
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
In accordance with the Securities and Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Exhibit Index
*
Document is a management contract or compensatory plan or agreement.
**
Submitted electronically with this Annual Report on Form 10-K.