NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
(Dollars in millions, except per share data)
Note 1 - Basis of Presentation
The accompanying Consolidated Financial Statements (unaudited) for The Timken Company (the "Company" or "Timken") have been prepared in accordance with the instructions to Form 10-Q and do not include all of the information and notes required by the accounting principles generally accepted in the United States ("U.S. GAAP") for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) and disclosures considered necessary for a fair presentation have been included. For further information, refer to the Consolidated Financial Statements and accompanying Notes included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022.
The Company previously classified intangible asset amortization expense within cost of products sold in the Company's Consolidated Statements of Income. Intangible asset amortization expense is now classified separately. The 2022 presentation has been revised to conform to the 2023 presentation resulting in a reduction in the cost of products sold for the three months ended March 31, 2022.
Note 2 - Significant Accounting Policies
The Company's significant accounting policies are detailed in "Note 1 - Significant Accounting Policies" of the Annual Report on Form 10-K for the year ended December 31, 2022.
Recent Accounting Pronouncements:
New Accounting Guidance Adopted:
In September 2022, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") 2022-04, "Liabilities - Supplier Finance Programs (Subtopic 405-50)." ASU 2022-04 is intended to establish disclosures that enhance the transparency of a supplier finance program used by an entity in connection with the purchase of goods and services. Supplier finance programs, which also may be referred to as reverse factoring, payables finance or structured payables arrangements, allow a buyer to offer its suppliers the option for access to payment in advance of an invoice due date, which is paid by a third-party finance provider or intermediary. Under the guidance, a buyer in a supplier finance program would disclose qualitative and quantitative information about its supplier finance programs. The new guidance is effective for fiscal years beginning after December 15, 2022, including interim periods within those fiscal years, except for the amendment on rollforward information, which is effective for fiscal years beginning after December 15, 2023. Early adoption is permitted. Refer to Note 12 - Supply Chain Financing in the Notes to the Consolidated Financial Statements for additional information.
Note 3 - Acquisitions and Divestitures
Acquisitions:
On January 31, 2023, the Company acquired the assets of American Roller Bearing Company ("ARB"), a North Carolina-based manufacturer of industrial bearings. ARB, which boasts a large U.S. installed base and strong aftermarket business, operates manufacturing facilities in Hiddenite and Morganton, North Carolina. The total purchase price for this acquisition was $32.0 million, including $0.5 million of the purchase price that was held back for the post-closing settlement of working capital. ARB generated sales of approximately $35 million in 2022 and the transaction was funded with cash on hand. Results for ARB are reported in the Engineered Bearings segment.
The following table presents the purchase price allocation at fair value for the ARB acquisition as of March 31, 2023.
| | | | | | | |
| Initial Purchase Price Allocation | | |
Assets: | | | |
| | | |
Accounts receivable | $ | 4.7 | | | |
Inventories | 19.2 | | | |
Other current assets | 0.6 | | | |
Property, plant and equipment | 12.8 | | | |
| | | |
| | | |
Other intangible assets | 0.1 | | | |
| | | |
Total assets acquired | $ | 37.4 | | | |
Liabilities: | | | |
Accounts payable, trade | $ | 2.8 | | | |
Salaries, wages and benefits | 0.1 | | | |
| | | |
Other current liabilities | 3.0 | | | |
| | | |
| | | |
| | | |
| | | |
| | | |
| | | |
Total liabilities assumed | $ | 5.9 | | | |
Net assets acquired | $ | 31.5 | | | |
In determining the fair value of the amounts above, the Company utilized various forms of the income, cost and market approaches depending on the asset or liability being valued. The estimation of fair value required judgement related to future net cash flows, discount rates, competitive trends, market comparisons and other factors. Inputs were generally determined by taking into account independent appraisals and historical data, supplemented by current and anticipated market conditions.
The amounts in the table above represent the preliminary purchase price allocation for ARB. This purchase price allocation, including the residual amount allocated to goodwill or the recognition of a bargain purchase price gain, is based on preliminary information and is subject to change as additional information concerning final asset and liability valuations are obtained and management completes its reassessment of the measurement period procedures based on the results of the preliminary valuation. As of March 31, 2023, no elements of the purchase price allocation have been finalized. During the applicable measurement period, the Company will adjust assets and liabilities if new information is obtained about facts and circumstances that existed as of the acquisition date that, if known, would have resulted in revised estimated values of those assets or liabilities as of that date. The effect of measurement period adjustments to the estimated fair values will be reflected as if the adjustments has been completed on the acquisition date.
On November 4, 2022, the Company completed the acquisition of GGB Bearing Technology ("GGB"), a global technology and market leader of premium engineered metal-polymer plain bearings, for $302.5 million, net of cash acquired of $19.2 million, subject to customary post-closing adjustments. GGB's revenue was approximately $200 million for the full year 2022. GGB's products are used mainly in industrial applications, including pumps and compressors, HVAC, off-highway, energy, material handling and aerospace. With manufacturing facilities across the United States, Europe and China, GGB employs approximately 900 people and has a global engineering, distribution and sales footprint. Results for GGB are reported in the Engineered Bearings segment.
On May 31, 2022, the Company completed the acquisition of Spinea, s.r.o. ("Spinea"), a European technology leader and manufacturer of highly engineered cycloidal reduction gears and actuators, with full year 2022 sales of approximately $40 million. Spinea’s solutions primarily serve high-precision automation and robotics applications in the factory automation platform. Spinea is located in Presov, Slovakia. The purchase price for this acquisition was $151.2 million, net of cash acquired of $0.2 million, subject to customary post-closing adjustments. Results for Spinea are reported in the Industrial Motion segment.
Note 3 - Acquisitions and Divestitures (continued)
The following table presents the updated purchase price allocation at fair value, net of cash acquired, for the 2022 acquisitions, as of March 31, 2023:
| | | | | | | | | | | |
| Initial Purchase Price Allocation | Adjustments | Updated Purchase Price Allocation |
Assets: | | | |
| | | |
Accounts receivable | $ | 30.6 | | $ | — | | $ | 30.6 | |
Inventories | 52.3 | | (0.6) | | 51.7 | |
Other current assets | 7.6 | | — | | 7.6 | |
Property, plant and equipment | 153.6 | | (3.5) | | 150.1 | |
| | | |
Goodwill | 106.9 | | (2.4) | | 104.5 | |
Other intangible assets | 182.6 | | (0.8) | | 181.8 | |
Other assets | 12.1 | | 3.5 | | 15.6 | |
Total assets acquired | $ | 545.7 | | $ | (3.8) | | $ | 541.9 | |
Liabilities: | | | |
Accounts payable, trade | $ | 16.8 | | $ | (0.5) | | $ | 16.3 | |
Salaries, wages and benefits | 11.8 | | — | | 11.8 | |
Income taxes payable | 3.2 | | — | | 3.2 | |
Other current liabilities | 7.0 | | (1.0) | | 6.0 | |
| | | |
| | | |
Accrued pension benefits | 3.2 | | — | | 3.2 | |
| | | |
Deferred income taxes | 30.0 | | — | | 30.0 | |
Other non-current liabilities | 20.0 | | — | | 20.0 | |
Total liabilities assumed | $ | 92.0 | | $ | (1.5) | | $ | 90.5 | |
Net assets acquired | $ | 453.7 | | $ | (2.3) | | $ | 451.4 | |
The above purchase price allocation, including the residual amount allocated to goodwill, is based on preliminary information and is subject to change as additional information concerning final asset and liability valuations is obtained. The purchase price allocation for Spinea is preliminary pending the continued evaluation of operating leases, which is expected to be finalized during the second quarter of 2023. The purchase price allocation for GGB is preliminary pending the continued evaluation of certain working capital accounts, real estate and other intangible assets, as well the related impacts on deferred income taxes. During the measurement period, the Company will adjust assets and liabilities if new information is obtained about facts and circumstances that existed as of the acquisition date that, if known, would have resulted in revised estimated values of those assets or liabilities as of that date. The effect of measurement period adjustments to the estimated fair values will be reflected as if the adjustments had been completed on the acquisition date.
On April 4, 2023, the Company acquired Leonardo Top S.a.r.l. ("Nadella"), a leading European manufacturer of linear guides, telescopic rails, actuators and systems and other specialized industrial motion solutions, from ICG plc. Nadella operates manufacturing facilities in Europe and China and reported revenue of approximately €100 million in 2022.
Divestitures:
On February 28, 2023, the Company completed the sale of all of its membership interests in S.E. Setco Services Company, LLC ("SE Setco"), a 50% owned joint venture. The Company had accounted for SE Setco as an equity method investment prior to the sale. The Company received $5.7 million in cash proceeds for SE Setco and recognized a pretax gain of $4.8 million on the sale. The gain was reflected in other income, net in the Consolidated Statement of Income.
Note 4 - Segment Information
The primary measurement used by management to measure the financial performance of each segment is earnings before interest, taxes, depreciation and amortization ("EBITDA").
Effective January 1, 2023, the Company began operating under new reportable segments. The Company’s two reportable segments are Engineered Bearings and Industrial Motion. Segment results for 2022 have been revised to conform to the 2023 presentation of segments.
| | | | | | | | | | | | | | | |
| | | Three Months Ended March 31, |
| | | | | 2023 | | 2022 |
Net sales: | | | | | | | |
Engineered Bearings | | | | | $ | 900.7 | | | $ | 772.4 | |
Industrial Motion | | | | | 362.1 | | | 352.2 | |
Net sales | | | | | $ | 1,262.8 | | | $ | 1,124.6 | |
Segment EBITDA: | | | | | | | |
Engineered Bearings | | | | | $ | 205.0 | | | $ | 168.3 | |
Industrial Motion | | | | | 48.2 | | | 62.4 | |
Total EBITDA, for reportable segments | | | | | $ | 253.2 | | | $ | 230.7 | |
Unallocated corporate expense | | | | | (17.7) | | | (12.9) | |
Corporate pension and other postretirement benefit related income (expense) (1) | | | | | 0.9 | | | (2.6) | |
| | | | | | | |
Depreciation and amortization | | | | | (45.6) | | | (41.4) | |
Interest expense | | | | | (24.1) | | | (14.3) | |
Interest income | | | | | 1.5 | | | 0.6 | |
Income before income taxes | | | | | $ | 168.2 | | | $ | 160.1 | |
(1) Corporate pension and other postretirement benefit related expense represents actuarial (losses) and gains that resulted from the remeasurement of pension and other postretirement plan assets and obligations as a result of changes in assumptions or experience.
| | | | | | | | | | | |
| March 31, 2023 | | December 31, 2022 |
Assets by Segment: | | | |
Engineered Bearings | $ | 3,384.3 | | | $ | 3,270.3 | |
Industrial Motion | 2,044.4 | | | 2,070.1 | |
Corporate (2) | 424.3 | | | 432.0 | |
| $ | 5,853.0 | | | $ | 5,772.4 | |
(2) Corporate assets include corporate buildings and cash and cash equivalents.
Note 5 - Revenue
The following table presents details deemed most relevant to the users of the financial statements about total revenue for the three months ended March 31, 2023 and 2022:
| | | | | | | | | | | | | | | | | | | | |
| Three Months Ended | Three Months Ended |
| March 31, 2023 | March 31, 2022 |
| Engineered Bearings | Industrial Motion | Total | Engineered Bearings | Industrial Motion | Total |
United States | $ | 340.9 | | $ | 194.3 | | $ | 535.2 | | $ | 289.8 | | $ | 198.8 | | $ | 488.6 | |
Americas excluding the United States | 92.2 | | 27.9 | | 120.1 | | 92.4 | | 20.8 | | 113.2 | |
Europe / Middle East / Africa | 183.9 | | 113.8 | | 297.7 | | 162.6 | | 102.5 | | 265.1 | |
China | 158.4 | | 16.3 | | 174.7 | | 129.3 | | 22.1 | | 151.4 | |
Asia-Pacific excluding China | 125.3 | | 9.8 | | 135.1 | | 98.3 | | 8.0 | | 106.3 | |
Net sales | $ | 900.7 | | $ | 362.1 | | $ | 1,262.8 | | $ | 772.4 | | $ | 352.2 | | $ | 1,124.6 | |
When reviewing revenue by sales channel, the Company separates net sales to original equipment manufacturers ("OEMs") from sales to distributors and end users. The following table presents the approximate percent of revenue by sales channel for the three months ended March 31, 2023 and 2022:
| | | | | | | | |
| Three Months Ended | Three Months Ended |
Revenue by sales channel | March 31, 2023 | March 31, 2022 |
Original equipment manufacturers | 60% | 60% |
Distribution/end users | 40% | 40% |
In addition to disaggregating revenue by segment, geography and by sales channel as shown above, the Company believes information about the timing of transfer of goods or services, type of customer and distinguishing service revenue from product sales is also relevant. During the three months ended March 31, 2023 and March 31, 2022, approximately 8% and 9%, respectively, of total net sales were recognized on an over-time basis because of the continuous transfer of control to the customer, with the remainder recognized as of a point in time. Approximately 4% and 5% of total net sales represented service revenue during the three months ended March 31, 2023 and March 31, 2022, respectively. Finally, business with the United States ("U.S.") government or its contractors represented approximately 5% and 7% of total net sales during each of the three months ended March 31, 2023 and March 31, 2022, respectively.
Remaining Performance Obligations:
Remaining performance obligations represent the transaction price of orders meeting the definition of a contract for which work has not been performed and excludes unexercised contract options. Performance obligations having a duration of more than one year are concentrated in contracts for certain products and services provided to the U.S. government or its contractors. The aggregate amount of the transaction price allocated to remaining performance obligations for such contracts with a duration of more than one year was approximately $126.0 million at March 31, 2023.
Note 5 - Revenue (continued)
Unbilled Receivables:
The following table contains a rollforward of unbilled receivables for the three months ended March 31, 2023 and the twelve months ended December 31, 2022:
| | | | | | | | |
| March 31, 2023 | December 31, 2022 |
Beginning balance, January 1 | $ | 103.9 | | $ | 104.5 | |
Additional unbilled revenue recognized | 96.3 | | 396.2 | |
Less: amounts billed to customers | (85.1) | | (370.5) | |
Less: unbilled receivables reclassified to assets held for sale | — | | (26.3) | |
| | |
Ending balance | $ | 115.1 | | $ | 103.9 | |
There were no impairment losses recorded on unbilled receivables for the three months ended March 31, 2023 and the twelve months ended December 31, 2022.
Deferred Revenue:
The following table contains a rollforward of deferred revenue for the three months ended March 31, 2023 and the twelve months ended December 31, 2022:
| | | | | | | | |
| March 31, 2023 | December 31, 2022 |
Beginning balance, January 1 | $ | 54.3 | | $ | 35.8 | |
Revenue (cash) received in advance | 7.8 | | 54.8 | |
Less: revenue recognized | (16.3) | | (36.3) | |
Ending balance | $ | 45.8 | | $ | 54.3 | |
Note 6 - Income Taxes
The Company's provision for income taxes in interim periods is computed by applying the estimated annual effective tax rates to income or loss before income taxes for the period. In addition, non-recurring or discrete items are recorded during the period(s) in which they occur.
| | | | | | | | | | | |
| Three Months Ended March 31, | | |
| 2023 | 2022 | | | |
Provision for income taxes | $ | 42.5 | | $ | 38.2 | | | | |
Effective tax rate | 25.3 | % | 23.9 | % | | | |
Income tax expense for the three months ended March 31, 2023 was calculated using forecasted multi-jurisdictional annual effective tax rates to determine a blended annual effective tax rate. The effective tax rate differs from the U.S. federal statutory rate of 21% primarily due to the projected mix of earnings in international jurisdictions with relatively higher tax rates.
The effective tax rate of 25.3% for the three months ended March 31, 2023 was higher than the effective tax rate for the three months ended March 31, 2022 primarily due to an increase in the mix of earnings in international jurisdictions with relatively higher tax rates.
Note 7 - Earnings Per Share
The following table sets forth the reconciliation of the numerator and the denominator of basic earnings per share and diluted earnings per share for the three months ended March 31, 2023 and 2022, respectively:
| | | | | | | | | | | | | | | |
| Three Months Ended March 31, | | |
| 2023 | | 2022 | | | | |
Numerator: | | | | | | | |
Net income attributable to The Timken Company | $ | 122.3 | | | $ | 118.2 | | | | | |
| | | | | | | |
| | | | | | | |
| | | | | | | |
Denominator: | | | | | | | |
Weighted average number of shares outstanding - basic | 72,499,928 | | | 74,782,153 | | | | | |
Effect of dilutive securities: | | | | | | | |
Stock options and awards - based on the treasury stock method | 860,926 | | | 763,512 | | | | | |
Weighted average number of shares outstanding assuming dilution of stock options and awards | 73,360,854 | | | 75,545,665 | | | | | |
Basic earnings per share | $ | 1.69 | | | $ | 1.58 | | | | | |
Diluted earnings per share | $ | 1.67 | | | $ | 1.56 | | | | | |
The dilutive effect of performance-based restricted stock units are included once they meet minimum performance thresholds. The dilutive effect of stock options includes all outstanding stock options except stock options that are considered antidilutive. Stock options are antidilutive when the exercise price exceeds the average market price of the Company’s common shares during the periods presented. There were no antidilutive stock options outstanding during the three months ended March 31, 2023 and 2022.
Note 8 - Inventories
The components of inventories at March 31, 2023 and December 31, 2022 were as follows:
| | | | | | | | | | | |
| March 31, 2023 | | December 31, 2022 |
Manufacturing supplies | $ | 42.5 | | | $ | 41.7 | |
Raw materials | 138.1 | | | 132.0 | |
Work in process | 498.6 | | | 491.2 | |
Finished products | 598.1 | | | 584.8 | |
Subtotal | 1,277.3 | | | 1,249.7 | |
Allowance for obsolete and surplus inventory | (67.9) | | | (58.4) | |
Total inventories, net | $ | 1,209.4 | | | $ | 1,191.3 | |
Inventories are valued at net realizable value, with approximately 60% valued on the first-in, first-out ("FIFO") method and the remaining 40% valued on the last-in, first-out ("LIFO") method. The majority of the Company's domestic inventories are valued on the LIFO method. The Company's international inventories are valued on the FIFO method.
The LIFO reserve at March 31, 2023 and December 31, 2022 was $234.2 million and $235.4 million, respectively. An actual valuation of the inventory under the LIFO method can be made only at the end of each year based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations are based on management’s estimates of expected year-end inventory levels and costs. Because these calculations are subject to many factors beyond management’s control, annual results may differ from interim results as they are subject to the final year-end LIFO inventory valuation.
Note 9 - Goodwill and Other Intangible Assets
The Company tests goodwill and indefinite-lived intangible assets for impairment at least annually, performing its annual impairment test as of October 1st. Furthermore, goodwill and indefinite-lived intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable.
In connection with the adoption of new reportable segments, goodwill was reallocated to new reporting units based on relative fair value at the reporting unit level. The Engineered Bearings segment has one reporting unit and the Industrial Motion segment has six reporting units.
The changes in the carrying amount of goodwill for the three months ended March 31, 2023 were as follows:
| | | | | | | | | | | | |
| Engineered Bearings | Industrial Motion | | Total |
Beginning balance | $ | 679.8 | | $ | 418.5 | | | $ | 1,098.3 | |
| | | | |
Impairment loss | — | | (28.3) | | | (28.3) | |
Foreign currency translation adjustments and other changes | (0.5) | | 6.3 | | | 5.8 | |
Ending balance | $ | 679.3 | | $ | 396.5 | | | $ | 1,075.8 | |
During the first quarter of 2023, the Company reviewed goodwill for impairment for its reporting units due to the change in reporting segments that went into effect January 1, 2023. The Company utilizes both an income approach and a market approach in testing goodwill for impairment. The Company utilized updated forecasts for the income approach as part of the goodwill impairment review. Based on the earnings and cash flow forecasts for the Belts & Chain reporting unit within the Industrial Motion segment, the Company determined that the reporting unit could not support the carrying value of its goodwill. As a result, the Company recorded a pretax impairment loss of $28.3 million during the first quarter of 2023, which was reported in impairment and restructuring charges on the Consolidated Statement of Income.
The following table displays intangible assets as of March 31, 2023 and December 31, 2022:
| | | | | | | | | | | | | | | | | | | | |
| Balance at March 31, 2023 | Balance at December 31, 2022 |
| Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount | Gross Carrying Amount | Accumulated Amortization | Net Carrying Amount |
Intangible assets subject to amortization: | | | | | | |
Customer relationships | $ | 567.1 | | $ | (190.6) | | $ | 376.5 | | $ | 561.5 | | $ | (183.2) | | $ | 378.3 | |
Technology and know-how | 272.0 | | (85.3) | | 186.7 | | 273.1 | | (80.4) | | 192.7 | |
Trade names | 31.8 | | (9.1) | | 22.7 | | 18.4 | | (8.7) | | 9.7 | |
Capitalized software | 290.0 | | (268.0) | | 22.0 | | 288.4 | | (266.3) | | 22.1 | |
Other | 7.7 | | (4.3) | | 3.4 | | 3.3 | | (2.3) | | 1.0 | |
| $ | 1,168.6 | | $ | (557.3) | | $ | 611.3 | | $ | 1,144.7 | | $ | (540.9) | | $ | 603.8 | |
Intangible assets not subject to amortization: | | | | | | |
Trade names | $ | 135.3 | | | $ | 135.3 | | $ | 152.8 | | | $ | 152.8 | |
FAA air agency certificates | 8.7 | | | 8.7 | | 8.7 | | | 8.7 | |
| $ | 144.0 | | | $ | 144.0 | | $ | 161.5 | | | $ | 161.5 | |
Total intangible assets | $ | 1,312.6 | | $ | (557.3) | | $ | 755.3 | | $ | 1,306.2 | | $ | (540.9) | | $ | 765.3 | |
Amortization expense for intangible assets was $15.1 million and $12.7 million for the three months ended March 31, 2023 and 2022, respectively. Amortization expense related to intangible assets acquired as part of a business combination is reported in amortization of intangible assets on the Consolidated Statement of Income, and amortization expense related to capitalized software is reported in cost of products sold or selling, general and administrative expenses on the Consolidated Statement of Income. Amortization expense for intangible assets is projected to be $56.2 million in 2023; $51.5 million in 2024; $50.6 million in 2025; $49.1 million in 2026; and $47.3 million in 2027.
Note 10 - Other Current Liabilities
The following table displays other current liabilities as of March 31, 2023 and December 31, 2022:
| | | | | | | | |
(Dollars in millions) | March 31, 2023 | December 31, 2022 |
Sales rebates | $ | 64.8 | | $ | 82.9 | |
Deferred revenue | 45.8 | | 54.3 | |
Product warranty | 25.4 | | 23.5 | |
Operating lease liabilities | 25.3 | | 24.1 | |
Current derivative liability | 23.1 | | 19.8 | |
Taxes other than income and payroll taxes | 21.0 | | 18.7 | |
Freight and duties | 17.3 | | 21.7 | |
Interest | 16.9 | | 15.0 | |
Professional fees | 16.5 | | 17.4 | |
Restructuring | 3.0 | | 3.1 | |
Other | 78.0 | | 72.4 | |
Total other current liabilities | $ | 337.1 | | $ | 352.9 | |
Note 11 - Financing Arrangements
Short-term debt at March 31, 2023 and December 31, 2022 was as follows:
| | | | | | | | |
| March 31, 2023 | December 31, 2022 |
Variable-rate Accounts Receivable Facility with an interest rate of 5.54% at March 31, 2023 | $ | 7.1 | | $ | — | |
Borrowings under lines of credit for certain of the Company’s foreign subsidiaries with various banks with interest rates ranging from 3.42% to 4.90% at March 31, 2023 and 2.38% to 5.50% at December 31, 2022 | 38.7 | | 46.3 | |
Short-term debt | $ | 45.8 | | $ | 46.3 | |
The Company has a $100 million Amended and Restated Asset Securitization Agreement (the "Accounts Receivable Facility"), which matures on November 30, 2024. Under the terms of the Accounts Receivable Facility, the Company sells, on an ongoing basis, certain domestic trade receivables to Timken Receivables Corporation, a wholly-owned consolidated subsidiary that, in turn, uses the trade receivables to secure borrowings that are funded through a vehicle that issues commercial paper in the short-term market. Borrowings under the Accounts Receivable Facility may be limited to certain borrowing base limitations; however, availability under the Accounts Receivable Facility was not reduced by any such borrowing base limitations at March 31, 2023. As of March 31, 2023, there were $100.0 million in outstanding borrowings under the Accounts Receivable Facility, which reduced the availability under this facility to zero. $7.1 million of the outstanding borrowings under the Accounts Receivable Facility was classified as short-term at March 31, 2023, which reflects the Company's expectations over the next 12 months relative to the minimum borrowing base. The cost of this facility, which is the prevailing commercial paper rate plus facility fees, is considered a financing cost and is included in interest expense in the Consolidated Statements of Income.
Lines of credit for certain of the Company's foreign subsidiaries provide for short-term borrowings up to $237.4 million in the aggregate. Most of these lines of credit are uncommitted. At March 31, 2023, the Company’s foreign subsidiaries had borrowings outstanding of $38.7 million and bank guarantees of $3.7 million, which reduced the aggregate availability under these facilities to $195.0 million.
Long-term debt at March 31, 2023 and December 31, 2022 was as follows:
| | | | | | | | |
| March 31, 2023 | December 31, 2022 |
Variable-rate Senior Credit Facility with an average interest rate on U.S. Dollar of 5.72% and Euro of 3.46% at March 31, 2023 and U.S. Dollar of 5.10% and Euro of 2.21% at December 31, 2022 | $ | 63.6 | | $ | 8.5 | |
| | |
Variable-rate Accounts Receivable Facility with an interest rate of 5.54% at March 31, 2023 and 5.01% at December 31, 2022 | 92.9 | | 85.0 | |
Variable-rate Term Loan(1), maturing on December 5, 2027, with an interest rate of 5.54% at March 31, 2023 and 5.55% at December 31, 2022 | 399.1 | | 399.1 | |
Fixed-rate Senior Unsecured Notes(1), maturing on September 1, 2024, with an interest rate of 3.875% | 349.9 | | 349.8 | |
Fixed-rate Euro Senior Unsecured Notes(1), maturing on September 7, 2027, with an interest rate of 2.02% | 162.4 | | 160.4 | |
Fixed-rate Senior Unsecured Notes(1), maturing on December 15, 2028, with an interest rate of 4.50% | 397.4 | | 397.2 | |
Fixed-rate Medium-Term Notes, Series A(1), maturing at various dates through May 2028, with interest rates ranging from 6.74% to 7.76% | 154.8 | | 154.8 | |
Fixed-rate Senior Unsecured Notes(1), maturing on April 1, 2032, with an interest rate of 4.125% | 342.5 | | 342.1 | |
Fixed-rate Euro Bank Loan, maturing on June 30, 2033, with an interest rate of 2.15% | 13.4 | | 13.6 | |
| | |
Other | 5.6 | | 6.4 | |
Total debt | $ | 1,981.6 | | $ | 1,916.9 | |
Less: current maturities | 2.8 | | 2.7 | |
Long-term debt | $ | 1,978.8 | | $ | 1,914.2 | |
(1) Net of discounts and fees
Note 11 - Financing Arrangements (continued)
On December 5, 2022, the Company entered into the Fifth Amended and Restated Credit Agreement ("Credit Agreement"), which is comprised of the $750.0 million unsecured revolving credit facility ("Senior Credit Facility") and a $400.0 million unsecured term loan facility ("2027 Term Loan") that each mature on December 5, 2027. The Credit Agreement amended and restated the Company's previous revolving credit agreement that was set to mature on June 25, 2024, and replaced the $350.0 million term loan that was set to mature on September 11, 2023 ("2023 Term Loan"). The Credit Agreement also replaced interest rates based on LIBOR with interest rates based on Secured Overnight Financing Rate ("SOFR"). At March 31, 2023, the Company had $63.6 million of outstanding borrowings under the Senior Credit Facility, which reduced the availability under this facility to $686.4 million. The Credit Agreement has two financial covenants: a consolidated leverage ratio and a consolidated interest coverage ratio.
On March 28, 2022, the Company issued fixed-rate unsecured senior notes ("2032 Notes") in the aggregate principal amount of $350 million with an interest rate of 4.125%, maturing on April 1, 2032. Proceeds from the 2032 Notes were used for general corporate purposes, which included the repayment of borrowings under the Senior Credit Facility and the Accounts Receivable Facility outstanding at the time of issuance.
At March 31, 2023, the Company was in full compliance with all applicable covenants on its outstanding debt.
In the ordinary course of business, the Company utilizes standby letters of credit issued by financial institutions to guarantee certain obligations, most of which relate to insurance contracts. At March 31, 2023, outstanding letters of credit totaled $52.0 million, most with expiration dates within 12 months.
The maturities of long-term debt (including $3.5 million of finance leases) subsequent to March 31, 2023 are as follows:
| | | | | |
Year | |
2023 | $ | 2.5 | |
2024 | 450.2 | |
2025 | 26.9 | |
2026 | 51.6 | |
2027 | 584.6 | |
2028 | 521.3 | |
Thereafter | 355.9 | |
The table above excludes $11.4 million of unamortized premiums and fees that are netted against long-term debt at March 31, 2023.
Note 12 - Supply Chain Financing
The Company offers a supplier finance program with two different financial institutions where suppliers may receive early payment from the financial institutions on invoices issued to the Company. The Company and each financial institution entered into arrangements providing for the Company to pay the financial institution per the terms of any supplier invoice paid early under the program and to pay an annual fee for the supplier finance platform subscription and related support. The Company and the financial institutions may terminate participation in the program with 90 days’ written notice. The supplier finance programs are unsecured and are not guaranteed by the Company. The financial institutions enter into separate arrangements with suppliers directly to participate in the program. The Company does not determine the terms or conditions of such arrangements or participate in the transactions between the suppliers and the financial institutions. The supplier invoice terms under the program typically require payment in full within 90 days of the invoice date.
The following table is a rollforward of the outstanding obligations for the Company’s supplier finance program for the three months ended March 31, 2023:
| | | | | | | |
| March 31, 2023 | | |
Confirmed obligations outstanding, January 1 | $ | 14.4 | | | |
Invoices confirmed | 20.4 | | | |
Confirmed invoices paid | (19.3) | | | |
Confirmed obligations outstanding, ending balance | $ | 15.5 | | | |
The obligations outstanding at March 31, 2023 were included in accounts payable, trade on the Consolidated Balance Sheet.
Note 13 - Contingencies
The Company and certain of its subsidiaries have been identified as potentially responsible parties for investigation and remediation under the Comprehensive Environmental Response, Compensation and Liability Act, known as the Superfund, or similar state laws with respect to certain sites. Claims for investigation and remediation have been asserted against numerous other entities, which are believed to be financially solvent and are expected to fulfill their proportionate share of the obligation.
On December 28, 2004, the United States Environmental Protection Agency (“USEPA”) sent Lovejoy, LLC. ("Lovejoy") a Special Notice Letter that identified Lovejoy as a potentially responsible party, together with at least 14 other companies, at the Ellsworth Industrial Park Site, Downers Grove, DuPage County, Illinois (the “Site”). The Company acquired Lovejoy in 2016. Lovejoy’s Downers Grove property is situated within the Ellsworth Industrial Complex. The USEPA and the Illinois Environmental Protection Agency (“IEPA”) allege there have been one or more releases or threatened releases of hazardous substances, allegedly including, but not limited to, a release or threatened release on or from Lovejoy's property, at the Site. The relief sought by the USEPA and IEPA includes further investigation and potential remediation of the Site and reimbursement of response costs. Lovejoy’s allocated share of past and future costs related to the Site, including for investigation and/or remediation, could be significant. All previously pending property damage and personal injury lawsuits against Lovejoy related to the Site were settled or dismissed prior to our acquisition of Lovejoy.
The Company had total environmental accruals of $4.7 million and $4.8 million for various known environmental matters that are probable and reasonably estimable at March 31, 2023 and December 31, 2022, respectively, which includes the Lovejoy matter described above. These accruals were recorded based upon the best estimate of costs to be incurred in light of the progress made in determining the magnitude of remediation costs, the timing and extent of remedial actions required by governmental authorities and the amount of the Company’s liability in proportion to other responsible parties.
Product Warranties:
In addition to the contingencies above, the Company provides limited warranties on certain of its products. The product warranty liability included in "Other current liabilities" on the Consolidated Balance Sheets was $25.4 million and $23.5 million at March 31, 2023 and December 31, 2022, respectively. The balances at the end of each respective period represent the best estimates of costs for future claims for products that are still under warranty. The increase in the liability for the first three months of 2023 primarily relates to additional accruals for certain products sold into the automotive and renewable energy sectors. Accrual estimates are based on actual claims and expected trends that continue to mature. The Company is currently evaluating claims raised by certain customers with respect to the performance of bearings sold into the wind energy sector. Management believes that the outcome of these claims will not have a material effect on the Company's consolidated financial position; however, the effect of any such outcome may be material to the results of operations of any particular period in which costs in excess of amounts provided, if any, are recognized.
The following is a rollforward of the consolidated product warranty accrual for the three months ended March 31, 2023 and twelve months ended December 31, 2022:
| | | | | | | | | |
| March 31, 2023 | December 31, 2022 | |
Beginning balance, January 1 | $ | 23.5 | | $ | 11.7 | | |
Expense | 2.2 | | 14.7 | | |
Payments | (0.3) | | (2.9) | | |
Ending balance | $ | 25.4 | | $ | 23.5 | | |
Note 14 - Equity
The following tables present the changes in the components of equity for the three months ended March 31, 2023 and 2022, respectively:
| | | | | | | | | | | | | | | | | | | | | | | |
| | The Timken Company Shareholders | |
| Total | Stated Capital | Other Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive Loss | Treasury Stock | Non controlling Interest |
Balance at December 31, 2022 | $ | 2,352.9 | | $ | 40.7 | | $ | 829.6 | | $ | 1,932.1 | | $ | (181.9) | | $ | (352.2) | | $ | 84.6 | |
Net income | 125.7 | | | | 122.3 | | | | 3.4 | |
Foreign currency translation adjustment | 27.7 | | | | | 27.4 | | | 0.3 | |
Pension and other postretirement liability adjustments (net of income tax benefit of $0.5 million) | (1.5) | | | | | (1.5) | | | |
Change in fair value of derivative financial instruments, net of reclassifications | (0.8) | | | | | (0.8) | | | |
Dividends - $0.31 per share | (23.6) | | | | (23.6) | | | | |
| | | | | | | |
Stock-based compensation expense | 11.0 | | | 11.0 | | | | | |
Stock purchased at fair market value | (54.0) | | | | | | (54.0) | | |
Stock option exercise activity | 12.7 | | | 12.7 | | | | | |
| | | | | | | |
| | | | | | | |
Payments related to tax withholding for stock-based compensation | (13.8) | | | | | | (13.8) | | |
Balance at March 31, 2023 | $ | 2,436.3 | | $ | 40.7 | | $ | 853.3 | | $ | 2,030.8 | | $ | (156.8) | | $ | (420.0) | | $ | 88.3 | |
| | | | | | | | | | | | | | | | | | | | | | | |
| | The Timken Company Shareholders | |
| Total | Stated Capital | Other Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive Income | Treasury Stock | Non controlling Interest |
Balance at December 31, 2021 | $ | 2,377.7 | | $ | 40.7 | | $ | 786.9 | | $ | 1,616.4 | | $ | (23.0) | | $ | (126.1) | | $ | 82.8 | |
Net income | 121.9 | | | | 118.2 | | | | 3.7 | |
Foreign currency translation adjustment | (22.6) | | | | | (20.0) | | | (2.6) | |
Pension and other postretirement liability adjustments (net of income tax benefit of $0.5 million) | (1.5) | | | | | (1.5) | | | |
Change in fair value of derivative financial instruments, net of reclassifications | 2.0 | | | | | 2.0 | | | |
| | | | | | | |
Dividends - $0.30 per share | (23.5) | | | | (23.5) | | | | |
Stock-based compensation expense | 7.1 | | | 7.1 | | | | | |
Stock purchased at fair market value | (100.0) | | | | | | (100.0) | | |
Stock option exercise activity | 1.4 | | | 1.4 | | | | | |
| | | | | | | |
Payments related to tax withholding for stock-based compensation | (7.5) | | | | | | (7.5) | | |
Balance at March 31, 2022 | $ | 2,355.0 | | $ | 40.7 | | $ | 795.4 | | $ | 1,711.1 | | $ | (42.5) | | $ | (233.6) | | $ | 83.9 | |
Note 15 - Impairment and Restructuring Charges
Impairment and restructuring charges by segment are comprised of the following:
For the three months ended March 31, 2023:
| | | | | | | | | | | | |
| Engineered Bearings | Industrial Motion | | Total |
Impairment charges | $ | — | | $ | 28.3 | | | $ | 28.3 | |
Severance and related benefit costs | 0.7 | | (0.1) | | | 0.6 | |
| | | | |
Total | $ | 0.7 | | $ | 28.2 | | | $ | 28.9 | |
For the three months ended March 31, 2022: | | | | | | | | | | | | |
| Engineered Bearings | Industrial Motion | | Total |
| | | | |
Severance and related benefit costs | $ | 0.4 | | $ | (0.1) | | | $ | 0.3 | |
Exit costs | 0.7 | | — | | | 0.7 | |
Total | $ | 1.1 | | $ | (0.1) | | | $ | 1.0 | |
The following discussion explains the impairment and restructuring charges recorded for the periods presented; however, it is not intended to reflect a comprehensive discussion of all amounts in the tables above.Engineered Bearings:
On January 16, 2023, the Company announced the closure of its bearing plant in Gaffney, South Carolina. The Company expects to transfer its remaining operations to other bearing manufacturing facilities in North America. The closure of this facility is expected to occur by the end of the fourth quarter of 2023 and is expected to affect approximately 225 employees. The Company expects to incur approximately $10 million to $12 million of pretax costs in total related to this closure. During the three months ended March 31, 2023, the Company recorded severance and related benefits of $0.8 million related to this closure. The Company incurred cumulative pretax costs related to this closure of $2.0 million as of March 31, 2023, including rationalization costs recorded in cost of products sold.
On July 19, 2021, the Company announced the closure of its bearing manufacturing facility in Villa Carcina, Italy. The Company transferred the manufacturing of its single-row tapered roller bearing production to other bearing facilities in Europe, Asia and the United States. The Company completed the closure of the facility on October 31, 2022, and it affected approximately 110 employees. During the three months ended March 31, 2022, the Company recorded severance and related benefits of $0.4 million and exit costs of $0.6 million related to this closure. The Company incurred cumulative pretax costs related to this closure of $9.8 million as of March 31, 2023, including rationalization costs recorded in cost of products sold. On November 1, 2022, the Company completed the sale of this facility.
Industrial Motion:
During the third quarter of 2022, the Company announced certain organizational changes, which included the appointment of executive leaders for its Engineered Bearings and Industrial Motion product groups. After evaluating the impact from the organizational changes and revising segment results through the balance of 2022, the Company concluded that it will operate under two new reportable segments, Engineered Bearings and Industrial Motion, effective January 1, 2023. In conjunction with this change in segmented results, the Company had to reallocate goodwill to new reporting units under these two segments. In addition, the Company had to review goodwill for impairment under these new reporting units. As a result of this goodwill impairment review, the Company recognized a pretax goodwill impairment loss of $28.3 million during the three months ended March 31, 2023.
Note 15 - Impairment and Restructuring Charges (continued)
On February 4, 2020, the Company announced the closure of its chain manufacturing facility in Indianapolis, Indiana. This facility was part of the Diamond Chain Company ("Diamond Chain") acquisition completed on April 1, 2019. The Company transferred the majority of its Diamond Chain product line to its chain manufacturing facility in Fulton, Illinois. The chain plant is expected to cease operations by the end of April 2023 and is expected to affect approximately 240 employees. The Company expects to hire approximately 130 full-time positions in Fulton, Illinois and expects to incur approximately $12 million to $15 million of expenses related to this closure. The Company has incurred cumulative pretax costs related to this closure of $14.4 million as of March 31, 2023, including rationalization costs recorded in cost of products sold.
Consolidated Restructuring Accrual:
The following is a rollforward of the consolidated restructuring accrual for the three months ended March 31, 2023 and twelve months ended December 31, 2022:
| | | | | | | | | |
| March 31, 2023 | December 31, 2022 | |
Beginning balance, January 1 | $ | 3.1 | | $ | 7.0 | | |
Expense | 0.6 | | 5.8 | | |
Payments | (0.7) | | (9.7) | | |
Ending balance | $ | 3.0 | | $ | 3.1 | | |
The restructuring accrual at March 31, 2023 and December 31, 2022 was included in other current liabilities on the Consolidated Balance Sheets.
Note 16 - Retirement Benefit Plans
The following table sets forth the net periodic benefit cost for the Company’s defined benefit pension plans. The amounts for the three months ended March 31, 2023 are based on calculations prepared by the Company's actuaries and represent the Company’s best estimate of that period’s proportionate share of the amounts to be recorded for the year ending December 31, 2023.
| | | | | | | | | | | | | | | | | | | | |
| U.S. Plans | International Plans | Total |
| Three Months Ended March 31, | Three Months Ended March 31, | Three Months Ended March 31, |
| 2023 | 2022 | 2023 | 2022 | 2023 | 2022 |
Components of net periodic benefit cost (credit): | | | | | | |
Service cost | $ | 0.2 | | $ | 1.9 | | $ | 0.3 | | $ | 0.4 | | $ | 0.5 | | $ | 2.3 | |
Interest cost | 4.5 | | 4.1 | | 2.4 | | 1.5 | | 6.9 | | 5.6 | |
Expected return on plan assets | (2.1) | | (5.2) | | (2.5) | | (2.5) | | (4.6) | | (7.7) | |
Amortization of prior service cost | — | | 0.3 | | 0.1 | | — | | 0.1 | | 0.3 | |
Recognition of net actuarial (gains) losses | (0.9) | | 2.6 | | — | | — | | (0.9) | | 2.6 | |
| | | | | | |
Net periodic benefit cost (credit) | $ | 1.7 | | $ | 3.7 | | $ | 0.3 | | $ | (0.6) | | $ | 2.0 | | $ | 3.1 | |
For the three months ended March 31, 2023, lump sum payments related to new retirees exceeded annual interest and service costs for one of the Company's U.S. defined benefit pension plans, triggering a remeasurement of assets and obligations for this plan. As a result of this remeasurement, the Company recognized a net actuarial gain ("mark-to-market charges") of $0.9 million during the three months ended March 31, 2023.
For the three months ended March 31, 2022, the Company expected to make lump sum payments related to new retirees in excess of annual interest and service costs for one of the Company's U.S. defined benefit pension plans. This expectation triggered a remeasurement of assets and obligations for this plan. As a result of this remeasurement, the Company recognized a net actuarial loss of $2.6 million during the three months ended March 31, 2022.
Note 17 - Other Postretirement Benefit Plans
The following table sets forth the net periodic benefit cost for the Company’s other postretirement benefit plans. The amounts for the three months ended March 31, 2023 are based on calculations prepared by the Company's actuaries and represent the Company’s best estimate of that period’s proportionate share of the amounts to be recorded for the year ending December 31, 2023.
| | | | | | | | | | | | | | | |
| | | Three Months Ended March 31, |
| | | | | 2023 | | 2022 |
Net periodic benefit credit: | | | | | | | |
| | | | | | | |
Interest cost | | | | | $ | 0.5 | | | $ | 0.4 | |
| | | | | | | |
Amortization of prior service credit | | | | | (2.1) | | | (2.5) | |
| | | | | | | |
| | | | | | | |
| | | | | | | |
Net periodic benefit credit | | | | | $ | (1.6) | | | $ | (2.1) | |
Note 18 - Accumulated Other Comprehensive Income (Loss)
The following tables present details about components of accumulated other comprehensive (loss) income for the three months ended March 31, 2023 and 2022, respectively:
| | | | | | | | | | | | | | | |
| Foreign currency translation adjustments | Pension and other postretirement liability adjustments | | Change in fair value of derivative financial instruments | Total |
Balance at December 31, 2022 | $ | (235.7) | | $ | 50.8 | | | $ | 3.0 | | $ | (181.9) | |
Other comprehensive income (loss) before reclassifications and income taxes | 27.7 | | — | | | (0.8) | | 26.9 | |
Amounts reclassified from accumulated other comprehensive (loss) income before income taxes | — | | (2.0) | | | (0.3) | | (2.3) | |
Income tax benefit | — | | 0.5 | | | 0.3 | | 0.8 | |
Net current period other comprehensive income (loss), net of income taxes | 27.7 | | (1.5) | | | (0.8) | | 25.4 | |
Noncontrolling interest | (0.3) | | — | | | — | | (0.3) | |
Net current period other comprehensive income (loss), net of income taxes and noncontrolling interest | 27.4 | | (1.5) | | | (0.8) | | 25.1 | |
Balance at March 31, 2023 | $ | (208.3) | | $ | 49.3 | | | $ | 2.2 | | $ | (156.8) | |
| | | | | | | | | | | | | | | |
| Foreign currency translation adjustments | Pension and other postretirement liability adjustments | | Change in fair value of derivative financial instruments | Total |
Balance at December 31, 2021 | $ | (80.3) | | $ | 56.6 | | | $ | 0.7 | | $ | (23.0) | |
Other comprehensive (loss) income before reclassifications and income taxes | (22.6) | | 0.2 | | | 3.2 | | (19.2) | |
Amounts reclassified from accumulated other comprehensive (loss) income before income taxes | — | | (2.2) | | | (0.9) | | (3.1) | |
Income tax benefit (expense) | — | | 0.5 | | | (0.3) | | 0.2 | |
Net current period other comprehensive (loss) income, net of income taxes | (22.6) | | (1.5) | | | 2.0 | | (22.1) | |
Noncontrolling interest | 2.6 | | — | | | — | | 2.6 | |
Net current period other comprehensive (loss) income, net of income taxes and noncontrolling interest | (20.0) | | (1.5) | | | 2.0 | | (19.5) | |
Balance at March 31, 2022 | $ | (100.3) | | $ | 55.1 | | | $ | 2.7 | | $ | (42.5) | |
Other comprehensive (loss) income before reclassifications and income taxes includes the effect of foreign currency.
Note 19 - Fair Value
Fair value is defined as the price that would be expected to be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The FASB provides accounting rules that classify the inputs used to measure fair value into the following hierarchy:
Level 1 – Unadjusted quoted prices in active markets for identical assets or liabilities.
Level 2 – Unadjusted quoted prices in active markets for similar assets or liabilities, or unadjusted quoted prices for identical or similar assets or liabilities in markets that are not active, or inputs other than quoted prices that are observable for the asset or liability.
Level 3 – Unobservable inputs for the asset or liability.
The following tables present the fair value hierarchy for those financial assets and liabilities measured at fair value on a recurring basis as of March 31, 2023 and December 31, 2022:
| | | | | | | | | | | | | | |
| March 31, 2023 |
| Total | Level 1 | Level 2 | Level 3 |
Assets: | | | | |
Cash and cash equivalents | $ | 295.3 | | $ | 294.5 | | $ | 0.8 | | $ | — | |
Cash and cash equivalents measured at net asset value | 35.2 | | | | |
Restricted cash | 8.6 | | 8.6 | | — | | — | |
Short-term investments | 38.6 | | — | | 38.6 | | — | |
| | | | |
Interest rate swap contract | 2.1 | | — | | 2.1 | | — | |
Foreign currency forward contracts | 3.0 | | — | | 3.0 | | — | |
Total assets | $ | 382.8 | | $ | 303.1 | | $ | 44.5 | | $ | — | |
Liabilities: | | | | |
Foreign currency forward contracts | $ | 23.1 | | $ | — | | $ | 23.1 | | $ | — | |
| | | | |
Total liabilities | $ | 23.1 | | $ | — | | $ | 23.1 | | $ | — | |
| | | | | | | | | | | | | | |
| December 31, 2022 |
| Total | Level 1 | Level 2 | Level 3 |
Assets: | | | | |
Cash and cash equivalents | $ | 292.1 | | $ | 289.3 | | $ | 2.8 | | $ | — | |
Cash and cash equivalents measured at net asset value | 39.5 | | | | |
Restricted cash | 9.1 | | 9.1 | | — | | — | |
Short-term investments | 39.2 | | — | | 39.2 | | — | |
Interest rate swap contract | 3.1 | | — | | 3.1 | — | |
Foreign currency forward contracts | 4.5 | | — | | 4.5 | | — | |
Total assets | $ | 387.5 | | $ | 298.4 | | $ | 49.6 | | $ | — | |
Liabilities: | | | | |
Foreign currency forward contracts | $ | 19.8 | | $ | — | | $ | 19.8 | | $ | — | |
Total liabilities | $ | 19.8 | | $ | — | | $ | 19.8 | | $ | — | |
Cash and cash equivalents are highly liquid investments with maturities of three months or less when purchased and are valued at the redemption value. Short-term investments are investments with maturities between four months and one year, and generally are valued at amortized cost, which approximates fair value. A portion of the cash and cash equivalents and short-term investments are valued based on net asset value. The Company uses publicly available market interest rates to measure the fair value of its interest rate swap contracts. The Company uses publicly available foreign currency forward and spot rates to measure the fair value of its foreign currency forward contracts.
Note 19 - Fair Value (continued)
In addition, the Company remeasures certain assets at fair value, using Level 3 inputs, as a result of the occurrence of triggering events such as purchase accounting for acquisitions or goodwill impairment.
No other material assets were measured at fair value on a nonrecurring basis during the three months ended March 31, 2023 and 2022, respectively.
Financial Instruments:
The Company’s financial instruments consist primarily of cash and cash equivalents, short-term investments, accounts receivable, trade accounts payable, short-term borrowings and long-term debt. Due to their short-term nature, the carrying value of cash and cash equivalents, short-term investments, accounts receivable, trade accounts payable and short-term borrowings are a reasonable estimate of their fair value. Due to the nature of fair value calculations for variable-rate debt, the carrying value of the Company's long-term variable-rate debt is a reasonable estimate of its fair value. The fair value of the Company’s long-term fixed-rate debt, based on quoted market prices, was $1,381.7 million and $1,353.5 million at March 31, 2023 and December 31, 2022, respectively. The carrying value of this debt was $1,420.3 million and $1,417.9 million at March 31, 2023 and December 31, 2022, respectively. The fair value of long-term fixed-rate debt was measured using Level 2 inputs.
The Company does not believe it has significant concentrations of risk associated with the counterparties to its financial instruments.
Note 20 - Derivative Instruments and Hedging Activities
The Company is exposed to certain risks relating to its ongoing business operations. The primary risks managed by using derivative instruments are foreign currency exchange rate risk and interest rate risk. Forward contracts on various foreign currencies are entered into in order to manage the foreign currency exchange rate risk associated with certain of the Company's commitments denominated in foreign currencies. From time to time, interest rate swaps are used to manage interest rate risk associated with the Company’s fixed and floating-rate borrowings.
The Company designates certain foreign currency forward contracts as cash flow hedges of forecasted revenues and certain interest rate hedges as cash flow hedges of fixed-rate borrowings.
On September 8, 2020, the Company entered into a $100 million floating-to-fixed rate swap on the 2023 Term Loan, which hedges the change in the 1-month LIBOR rate between October 30, 2020 and September 11, 2023 to a fixed rate. The Company repaid the LIBOR based 2023 Term Loan on December 5, 2022 and replaced it with the SOFR based 2027 Term Loan. The Company amended the interest rate for the swap from LIBOR to SOFR commencing January 2023. The Company’s risk management objective is to hedge the risk of changes in the monthly interest expense attributable to changes in the benchmark interest rate.
On September 15, 2020, the Company designated €54.5 million of its €150.0 million fixed-rate senior unsecured notes, maturing on September 7, 2027 (the "2027 Notes"), as a hedge against its net investment in one of its European subsidiaries. The objective of the hedge transaction is to protect the net investment in the foreign operations against changes in the exchange rate between the U.S. dollar and the Euro. The net impact for the three months ended March 31, 2023, respectively, was a loss of $0.7 million to accumulated comprehensive (loss) income with a corresponding offset to other income (expense) which partially offsets the impact of the foreign currency adjustment on the 2027 Notes.
The Company entered into $350 million of floating-to-fixed 10-year Treasury rate locks during the first quarter of 2022, prior to issuing the 2032 Notes. This fixed the 10-year Treasury yield and settled at pricing of the 2032 Notes, resulting in $6.5 million of cash proceeds received by the Company. This amount was recorded to accumulated comprehensive income and will be amortized as a reduction in interest expense over the 10-year tenor of the 2032 Notes.
The Company does not purchase or hold any derivative financial instruments for trading purposes. As of March 31, 2023 and December 31, 2022, the Company had $674.0 million and $635.6 million, respectively, of outstanding foreign currency forward contracts at notional value. Refer to Note 19 - Fair Value for the fair value disclosure of derivative financial instruments.
Note 20 - Derivative Instruments and Hedging Activities (continued)
Cash Flow Hedging Strategy:
For certain derivative instruments that are designated and qualify as cash flow hedges (i.e., hedging the exposure to variability in expected future cash flows that is attributable to a particular risk), the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same line item associated with the forecasted transaction and in the same period or periods during which the hedged transaction affects earnings.
To protect against a reduction in the value of forecasted foreign currency cash flows resulting from export sales, the Company has instituted a foreign currency cash flow hedging program. The Company hedges portions of its forecasted cash flows denominated in foreign currencies with forward contracts. When the dollar strengthens significantly against foreign currencies, the decline in the present value of future foreign currency revenue is offset by gains in the fair value of the forward contracts designated as hedges. Conversely, when the dollar weakens, the increase in the present value of future foreign currency cash flows is offset by losses in the fair value of the forward contracts. As of March 31, 2023 and December 31, 2022, the Company had $79.7 million and $82.3 million, respectively, of outstanding foreign currency forward contracts at notional value that were classified as cash flow hedges.
The maximum length of time over which the Company hedges its exposure to the variability in future cash flows for forecast transactions is generally eighteen months or less.
Purpose for Derivative Instruments not designated as Hedging Instruments:
For derivative instruments that are not designated as hedging instruments, the instruments are typically forward contracts. In general, the practice is to reduce volatility by selectively hedging transaction exposures including intercompany loans, accounts payable and accounts receivable. Intercompany loans between entities with different functional currencies typically are hedged with a forward contract at the inception of the loan with a maturity date corresponding to the maturity of the loan. The revaluation of these contracts, as well as the revaluation of the underlying balance sheet items, is recorded directly to the income statement so the adjustment generally offsets the revaluation of the underlying balance sheet items to protect cash payments and reduce income statement volatility.
As of March 31, 2023 and December 31, 2022, the Company had $594.3 million and $553.3 million, respectively, of outstanding foreign currency forward contracts at notional value that were not designated as hedging instruments. The following table presents the impact of derivative instruments not designated as hedging instruments for the three months ended March 31, 2023 and 2022, respectively, and the related location within the Consolidated Statements of Income:
| | | | | | | | | | | | | | | | | | |
| | Amount of gain or (loss) recognized in income | | | | |
| | Three Months Ended March 31, | | |
Derivatives not designated as hedging instruments: | Location of gain or (loss) recognized in income | 2023 | | 2022 | | | | |
| | | | | | | | |
Foreign currency forward contracts | Other income, net | $ | (2.6) | | | $ | (1.0) | | | | | |
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