Zurn Elkay Water Solutions (ZWS) - 2021 Q4 - Annual Report

PART I Explanatory Note Regarding the Transition Period The company transitioned its fiscal year-end from March 31 to December 31, effective after fiscal year 2020, including financial information for the nine-month transition period and comparisons for fiscal 2021 - Fiscal year-end changed from March 31 to December 31 after fiscal year 2020[16] - Report includes financial information for the transition period from April 1, 2020, through December 31, 2020[16] - Fiscal 2021 covers January 1, 2021, to December 31, 2021, with comparisons to the unaudited twelve-month period ended December 31, 2020[16] Cautionary Notice Regarding Forward-Looking Statements This section highlights that the report contains forward-looking statements subject to various risks and uncertainties, which could cause actual results to differ materially - Forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially[18] - Key risk factors include: - Competitive environment, general economic conditions, and market factors[18] - Increases in raw material costs, including tariffs, and inability to offset with price increases[18] - Effects of the COVID-19 pandemic on business, financial condition, employees, customers, distributors, and supply chain[18] - Performance and potential failure of information and data security systems, including cyber security threats[18] - Costs and uncertainties related to strategic acquisitions or divestitures and integration of acquired businesses[19] - Loss of any significant customer and dependence on independent distributors[19] - Impact of indebtedness, changes in technology, and manufacturing techniques[19] - Impact of weather on product demand seasonality and climate change on operations[19] - Costs of environmental compliance and liabilities under environmental, health, and safety laws[19] - Changes in governmental laws and regulations, including those addressing climate change and taxes[19] - Costs associated with asbestos claims and other potential product liability[19] - Access to available and reasonable financing, reliance on intellectual property, and work stoppages by unionized employees[19] - Loss of key personnel and failure to effectively manage human capital resources[19] - Changes in pension funding requirements and potential impairment of goodwill and intangible assets[19] - Terrorism, conflicts, wars, and other events outside control, including infectious disease outbreaks[19] Item 1. Business Zurn Water Solutions Corporation completed a Reverse Morris Trust tax-free spin-off, divesting its Process & Motion Control business to become a pure-play water management company - On October 4, 2021, Zurn Water Solutions Corporation completed a Reverse Morris Trust tax-free spin-off transaction, divesting its Process & Motion Control business[20][21] - Post-spin-off, Zurn is a growth-oriented, pure-play water management business, offering a broad portfolio of specification-driven solutions for health, safety, and environmental improvement[22] - The company operates under the Zurn Business System (ZBS), an operating philosophy focused on continuous improvement, superior customer satisfaction, and world-class operating performance[22][28] Our Company Zurn Water Solutions Corporation completed a tax-free spin-off, transforming into a pure-play water management business, specializing in sustainable, specification-driven solutions for commercial and institutional buildings - Zurn Water Solutions Corporation completed a Reverse Morris Trust tax-free spin-off on October 4, 2021, divesting its Process & Motion Control business[20][21] - The company is now a pure-play water management business, designing, manufacturing, and marketing sustainable, specification-driven solutions for health, safety, and the environment[22] - Zurn's strategy focuses on end markets with sustainable growth, aiming for industry leadership, and pursuing strategic acquisitions to expand product lines and geographic presence[24] ZBS (Zurn Business System) The Zurn Business System (ZBS) is the company's operating philosophy, a scalable, process-based framework centered on continuous improvement (Kaizen), aiming to drive superior customer satisfaction and financial results - ZBS is a scalable, process-based framework focused on driving superior customer satisfaction and financial results through world-class operating performance[28] - Principles include: - Strategy deployment, measuring performance based on 'Voice of the Customer', involvement of all associates, and a culture embracing Kaizen (continuous improvement)[28] - Application of ZBS has led to improvements in growth, productivity, cost reduction, and asset efficiency[28] Our Business Zurn is a leading provider of specification-driven water management solutions, offering a broad portfolio of professional-grade products under recognized brands for institutional, commercial, waterworks, and multi-family residential construction markets - Zurn designs, manufactures, and markets a broad portfolio of specification-driven water management solutions to improve health, human safety, and the environment[29] - Products are sold under widely recognized brand names including Zurn®, Wilkins®, Green Turtle®, World Dryer®, StainlessDrains.com™, JUST®, Hadrian® and Wade®[29] - Demand is primarily driven by new commercial and institutional building construction, retrofits for energy/water efficiency, and, to a lesser extent, new waterworks and multi-family residential construction[30] Our Markets Zurn operates in fragmented, highly competitive markets, focusing on segments requiring product quality, reliability, and innovation, with significant long-term growth potential in commercial, institutional, and waterworks construction - Zurn operates in relatively fragmented and highly competitive markets, avoiding commoditized segments[34] - The company believes its served markets, including commercial, institutional, and waterworks construction, have solid long-term growth characteristics, potentially exceeding overall U.S. industrial production growth[33][35][36] - Success in these specification-driven markets relies on strong relationships with engineers, architects, contractors, and builders, and continuous product innovation[37] Our Products Zurn's products are project-critical, highly-engineered, and high value-add, typically representing a low percentage of overall project cost, meeting stringent regulatory and code requirements - Zurn's products are project-critical, highly-engineered, and high value-add, typically a low percentage of overall project cost, leading to high end-user loyalty[38] - Products must meet stringent regulatory, building, and plumbing code requirements from bodies like IAPMO, NSF, UL, FM, PDI, and AWWA[38] Water Safety and Control Products Zurn's Water Safety and Control products, under Zurn and Wilkins brands, include highly engineered valves and water distribution controls that protect potable and emergency water supplies for various applications - Water safety and control products, under Zurn and Wilkins brands, include valves (backflow preventers, fire system valves, pressure reducing valves, thermostatic mixing valves) and water distribution control products (PEX piping, fittings, tools)[39][40] - These products are highly specified, engineered flow control devices designed to meet stringent requirements from independent test labs (IAPMO, NSF, UL, FM)[39][40] - They are sold into commercial, institutional, industrial new construction and retrofit, as well as fire protection, municipal water/wastewater, and irrigation markets[39] Flow Systems Products Flow systems products manage storm and wastewater within buildings and sites, including drains, hydrants, and pre-treatment solutions, with recent acquisitions expanding the portfolio - Flow systems products manage storm and wastewater, including point drains, hydrants, fixture carrier systems, and chemical drainage systems[41] - Wastewater pre-treatment products include oil and grease interceptors and separators, acid neutralization systems, and remote monitoring systems, marketed under Zurn® and Green Turtle® brands[41] - Acquisitions in fiscal 2020 and 2021, such as StainlessDrains.com, ATS GREASEwatch, and Wade Drains, expanded the flow systems portfolio with specialized stainless steel drains, remote tank monitoring, and additional drainage products[42][43][44] Hygienic and Environmental Products Hygienic and environmental products, installed in later construction stages, include sensor-operated flush valves, heavy-duty commercial faucets, and water-conserving fixtures, with acquisitions broadening the comprehensive offerings - Hygienic and environmental products include sensor-operated flush valves (Aquaflush®, AquaSense®, AquaVantage®) and heavy-duty commercial faucets (AquaSpec®)[45] - Innovative water-conserving fixtures (EcoVantage®, Zurn One®) provide complete, customizable plumbing systems, promoting water efficiency and cost savings[45] - Acquisitions of Just Manufacturing (stainless steel sinks) and Hadrian (restroom partitions) in fiscal 2020 expanded the hygienic and environmental product portfolio[46] Acquisitions Acquisitions are a critical part of Zurn's growth strategy, focusing on leading companies in attractive markets that can benefit from the ZBS, expanding product portfolio and market presence - Acquisitions are a critical part of Zurn's growth strategy, targeting leading companies in attractive markets that can benefit from the ZBS to increase customer satisfaction, revenue growth, and operating margins[47] Recent Acquisitions (FY2019-FY2021) | Date | Acquired Company | Product Line/Market | Cash Purchase Price (Millions) | | :--- | :--- | :--- | :--- | | Nov 17, 2021 | Wade Drains | Commercial flow systems | $13.7 | | Apr 16, 2021 | ATS GREASEwatch | Remote tank monitoring devices | $4.5 | | Dec 11, 2020 | Hadrian | Washroom partitions and lockers | $101.3 | | Jan 28, 2020 | Just Manufacturing | Stainless steel sinks and plumbing fixtures | $59.4 | | May 10, 2019 | StainlessDrains.com | Stainless steel drains, grates, accessories | $24.8 | Customers Zurn's water management products are sold for new construction, remodeling, and retrofit applications to commercial, institutional, waterworks, and multi-family residential markets through a network of independent sales representatives and distribution centers - Products are sold to commercial, institutional, waterworks, and multi-family residential end markets for new construction, remodeling, and retrofit applications[50] - Distribution network includes approximately 1,600 independent sales representatives and regional distribution centers, providing same-day service and quick response times[50] - Strong brand recognition for Zurn® and Wilkins® and a propensity for 'like-for-like' product replacement contribute to end-user loyalty[50] Product Development Zurn's product development is driven by its "Voice of the Customer" philosophy, supported by a team of approximately 90 engineers, holding numerous patents, and leveraging a digital strategy for real-time insights - New product development is primarily driven by the 'Voice of the Customer' operating philosophy, supported by a team of approximately 90 engineers[52] - Zurn holds approximately 150 U.S. patents and 70 foreign patents, with product innovation being crucial for meeting specifications and regulatory demands[53] - The digital strategy includes the plumbSMART™ platform, integrating IIoT and e-commerce for real-time insights from Zurn Connected Products, enhancing customer productivity and safety[54] Suppliers and Raw Materials Zurn's manufacturing relies on commodities and components from numerous sources, including brass, castings, copper, zinc, and engineered plastics, with a global sourcing strategy to ensure alternate supply and prevent dependence on a single supplier - Principal materials include brass, castings, copper, zinc, forgings, plate steel, high-performance engineered plastic, and resin[55] - Global sourcing strategy maintains alternate supply sources to avoid dependence on a single source for significant raw materials or components[56] - The company has not experienced significant material shortages and does not historically engage in hedging transactions for commodity supplies[56] Backlog Zurn's backlog of unshipped orders significantly increased from $36 million in 2020 to $70 million in 2021, with all of the 2021 backlog expected to ship during the year ending December 31, 2022 Backlog of Unshipped Orders | As of December 31, | Amount (Millions) | | :--- | :--- | | 2021 | $70 | | 2020 | $36 | - All backlog as of December 31, 2021, is expected to ship during the year ending December 31, 2022[57] Seasonality Demand for Zurn's products is influenced by commercial and institutional building activity, remodeling, retrofit opportunities, and new home starts, making weather a significant variable, with sales generally decreasing slightly in the third and fourth calendar quarters - Demand for products is primarily driven by commercial and institutional building activity, remodeling, retrofit, and new home starts, making weather an important variable[58] - Sales generally decrease slightly in the third and fourth calendar quarters due to the main construction season occurring in spring and summer in the U.S. and Canada[59] - Operating results are susceptible to general economic conditions and market factors, particularly in cyclical industries[60] Human Capital Management As of December 31, 2021, Zurn had approximately 1,300 employees, with 900 in the United States and 110 U.S. employees are unionized, prioritizing talent development, diversity, and health and safety - As of December 31, 2021, Zurn had approximately 1,300 employees, with 900 in the United States; 110 U.S. employees are unionized[61] - Committed to fostering diversity and inclusion, recognizing unique perspectives from various backgrounds[62] - Invests in training and talent development, conducting employee surveys and providing competitive compensation and benefits[63] - Prioritizes health and safety, reducing Total Recordable Incident Rate (TRIR) by over 60% from 2017 to 2021, achieving a TRIR of 0.96 per 100 full-time workers, which is better than best-in-class benchmarks[64][65] Compliance with Laws and Regulations Zurn's operations are subject to extensive environmental, health, and safety laws and regulations globally, with non-compliance potentially leading to significant fines, penalties, and liabilities for contamination - Operations are subject to extensive laws and regulations related to pollution, environmental protection, health, and safety[66] - Non-compliance could result in civil/criminal fines, penalties, enforcement actions, third-party claims, and orders to curtail operations or perform remediation[66] - The company may incur liabilities for investigating and remediating contamination as a present/former owner or a potentially responsible party (PRP), with liability potentially being joint and several[67] Additional Information Zurn's principal executive office is in Milwaukee, Wisconsin, and the company makes its SEC filings and corporate governance documents available free of charge on its website and through the SEC's website - Principal executive office: 511 West Freshwater Way, Milwaukee, Wisconsin 53204[69] - SEC filings (10-K, 10-Q, 8-K, proxy statements) are available free on the company's website (www.zurnwatersolutions.com) and the SEC's website (www.sec.gov)[69](index=69&type=chunk) - Website also includes charters for Board committees, Corporate Governance Guidelines, and the Code of Business Conduct and Ethics[69] Item 1A. Risk Factors This section outlines various risks that could materially and adversely affect Zurn's business, financial condition, or results of operations, categorized into strategic, operational, financial, legal and compliance, and those related to the Spin-Off Transaction Strategic Risks Strategic risks include the adverse effects of the COVID-19 pandemic, intense market competition, inability to manage technological changes, economic weaknesses, challenges in integrating acquisitions, and loss of significant customers or distributors - COVID-19 pandemic continues to adversely affect business, operations, suppliers, and customers, causing supply chain disruptions and potential increased compensation expenses[72] - Highly competitive markets may lead to downward pressure on product pricing and profit margins[74] - Inability to manage changing technology, product innovation, and new manufacturing techniques could result in a competitive disadvantage[76] - Economic and financial market weakness, especially in cyclical industries like construction, can reduce demand and profitability[78] - Failure to effectively integrate acquisitions could adversely affect business, financial condition, and results of operations[82] - Loss or financial instability of significant customers (top five accounted for 41% of net sales in 2021, one customer 23%) or key independent distributors (top three accounted for 35% of net sales in 2021, largest 23%) could have a material adverse effect[84][87] - Inability to adequately protect intellectual property or defend against infringement claims could harm the business[89] - Failure to realize intended benefits from Supply Chain Optimization, Footprint Repositioning, restructuring, and divestiture efforts could hurt profitability[91] - Terrorism, conflicts, wars, and weather events may disrupt operations and decrease product demand[94] Operational Risks Operational risks include increased costs or unavailability of raw materials, failures in ERP systems or data security, inability to attract and retain key personnel, and disruptions from adverse weather or long-term climate change effects - Increases in the cost or unavailability of raw materials (e.g., bar steel, brass, copper, zinc) due to tariffs, trade wars, or infectious diseases could adversely affect profitability[95] - Ongoing updates to Enterprise Resource Planning (ERP) systems, failures of data security, or cyber security breaches could cause substantial business interruptions and reputational damage[97][98] - Inability to attract and retain key personnel or effectively manage human capital resources in a highly competitive industry may adversely affect the business[101] - Increased frequency of weather events could disrupt construction activity and adversely affect product demand[102] - Long-term effects of climate change, such as changes in rainfall and water availability, could decrease demand for certain products or alter product sales mix, reducing margins[103] - Potential physical impacts of climate change (e.g., extreme weather) could disrupt infrastructure, supply chains, and business operations[104] Financial Risks Financial risks stem from Zurn's debt levels, fluctuating interest rates, restrictive covenants, potential impairment of goodwill and intangible assets, and increased cash contributions to pension plans - High debt levels could adversely affect the ability to raise additional capital, react to economic changes, make beneficial acquisitions, implement capital allocation strategy, and make debt service payments[105][107][108] - Indebtedness bears interest at variable rates (e.g., LIBOR), and the transition to alternative rates like SOFR could lead to increased interest expenses and limited access to capital[109][110] - Agreements governing financing arrangements impose operating and financial restrictions (e.g., limits on debt, dividends, acquisitions), and failure to comply could result in default[112] - Goodwill and intangible assets ($254.1 million and $179.1 million, respectively, as of December 31, 2021) are high relative to total assets and subject to impairment, which would negatively affect results of operations[114] - Required cash contributions to pension plans may increase due to factors like asset returns, market interest rates, or legislative changes, potentially reducing cash available for other obligations[116][117] Legal and Compliance Risks Legal and compliance risks include adverse effects from failing to meet regulations, evolving climate change laws, changes in tax laws, significant environmental compliance and remediation costs, and ongoing asbestos and product liability claims - Failure to comply with government regulations, third-party certification requirements, and customer-driven social responsibility standards could adversely affect reputation, business, and results of operations[118] - Regulatory and legislative developments related to climate change may impose significant costs on Zurn and its suppliers, impacting financial condition and competitiveness[120] - Changes in legislative, regulatory, and legal developments involving taxes could result in substantially higher taxes[121] - Significant costs may be incurred for environmental compliance and to address liabilities under environmental laws and regulations, including remediation of contaminated sites, with potential for joint and several liability[123][124] - Certain subsidiaries are subject to litigation, including numerous asbestos and product liability claims, which could adversely affect business, reputation, financial condition, results of operations, or cash flows. As of December 31, 2021, Zurn was a defendant in approximately 6,000 asbestos-related lawsuits[126][127] Risks Related to the Spin-Off Transaction Risks related to the Spin-Off Transaction include potential substantial additional taxes if the transaction does not qualify as tax-free, limitations on company actions to maintain tax-free status, and the possibility that intended benefits may not be achieved - If the Spin-Off Transaction does not qualify as a tax-free reorganization, Zurn may be subject to substantial additional U.S. federal and state income taxes[129] - Zurn is subject to certain limitations on company actions for two years post-spin-off, including business combinations, to preserve the tax-free status, which might prevent advantageous opportunities[130][131] - The Spin-Off Transaction may not achieve its intended benefits and could expose Zurn to potential risks and liabilities, such as post-closing adjustments and indemnities[132] Item 1B. Unresolved Staff Comments There are no unresolved staff comments to report Item 2. Properties As of December 31, 2021, Zurn operated 20 principal manufacturing and warehouse facilities, primarily in North America, which are a mix of owned and leased properties, deemed suitable and sufficient for current and future needs - As of December 31, 2021, Zurn had 20 principal manufacturing and warehouse facilities[135] Principal Manufacturing and Warehouse Facilities (as of Dec 31, 2021) | Location | Number of Facilities | Owned (Sq. Ft.) | Leased (Sq. Ft.) | | :--- | :--- | :--- | :--- | | USA | 12 | 575,000 | 820,000 | | Canada | 4 | 73,000 | 197,000 | | United Arab Emirates | 1 | — | 6,000 | | Total | 17 | 648,000 | 1,023,000 | - The company believes its facilities are suitable and provide sufficient capacity for current and future anticipated needs[135] Item 3. Legal Proceedings Information regarding Zurn's legal proceedings is detailed in Item 8, Note 18, Commitments and Contingencies - Legal proceedings information is contained in Item 8, Note 18, Commitments and Contingencies[136] Item 4. Mine Safety Disclosure This item is not applicable to Zurn Water Solutions Corporation Information about our Executive Officers This section provides a list of Zurn's executive officers as of the report date, including their age, current positions, and the year they assumed those roles, along with a brief overview of their business experience Executive Officers (as of Feb 4, 2022) | Name | Age | Position(s) | In Current Position(s) since | | :--- | :--- | :--- | :--- | | Todd A. Adams | 51 | Chair of the Board and Chief Executive Officer | 2020 | | Mark W. Peterson | 50 | Senior Vice President and Chief Financial Officer | 2011 | | Sudhanshu Chhabra | 55 | Vice President - Zurn Business Systems | 2018 | | Rodney Jackson | 52 | Senior Vice President - Business and Corporate Development | 2014 | | Jeffrey J. LaValle | 43 | Vice President, General Counsel and Secretary | 2022 | | Michael D. Troutman | 55 | Chief Information Officer | 2007 | | Craig G. Wehr | 57 | President - Zurn | 2013 | - Executive officers' business experience for at least the past five fiscal years is provided[140] PART II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Following the Spin-Off Transaction, Zurn Water Solutions Corporation's common stock trades on the NYSE under 'ZWS', with the Board declaring a quarterly cash dividend of $0.03 per share and a stock repurchase program with approximately $162.8 million of authority remaining - Zurn Water Solutions Corporation's common stock trades on the New York Stock Exchange under the ticker symbol 'ZWS' following the Spin-Off Transaction[148] - The Board of Directors declared a quarterly cash dividend of $0.03 per share on October 21, 2021, paid on December 7, 2021[149] Stock Repurchase Program Activity | Period | Repurchases (Millions) | Remaining Authority (Millions) | | :--- | :--- | :--- | | FY2021 (12 months) | $0.9 | $162.8 (as of Dec 31, 2021) | | FY2020 (3 months ended Dec 31) | $0.0 | - | Dividend Policy After the Spin-Off Transaction, Zurn's Board of Directors declared a quarterly cash dividend of $0.03 per share in October 2021, with future decisions based on financial condition, results of operations, business conditions, and contractual agreements - Following the Spin-Off Transaction, the Board of Directors declared a quarterly cash dividend of $0.03 per share on common stock, paid on December 7, 2021[149] - Future dividend payments will be determined by the Board based on existing conditions, including results of operations, financial condition, business conditions, and borrowing agreements[149] Issuer Purchases of Equity Securities Zurn has a stock repurchase program, initially approved for $200 million in fiscal 2015 and increased to $300 million in January 2020, with approximately $0.9 million repurchased in 2021 and $162.8 million of authority remaining - The Board of Directors approved a stock repurchase program in fiscal 2015, authorizing up to $200.0 million, which was increased to $300.0 million on January 27, 2020[150] Common Stock Repurchases | Period | Repurchases (Millions) | Shares Repurchased | | :--- | :--- | :--- | | 12 months ended Dec 31, 2021 | $0.9 | - | | 3 months ended Dec 31, 2021 | $0.0 | - | - Approximately $162.8 million of repurchase authority remained under the program as of December 31, 2021[150] Performance Graph The performance graph compares Zurn's common stock cumulative total shareholder return against the S&P 500 and S&P 1500 Industrials indices from March 31, 2016, to December 31, 2021, showing Zurn significantly outperformed both - The performance graph compares Zurn's common stock cumulative total shareholder return with the S&P 500 Index and the S&P 1500 Industrials Index[152] Cumulative Total Shareholder Return (Indexed to $100 at 3/31/2016) | Date | Zurn Water Solutions Corporation | S&P 500 Index | S&P 1500 Industrials Index | | :--- | :--- | :--- | :--- | | 3/31/2016 | $100.00 | $100.00 | $100.00 | | 12/31/2021 | $366.24 | $231.40 | $191.90 | - Zurn's historical prices were adjusted to reflect the impact of the Spin-Off Transaction completed on October 4, 2021[153] Item 6. [Reserved] This item is reserved and contains no information Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations This section provides a comprehensive analysis of Zurn's financial condition and results of operations, focusing on the Zurn business post-spin-off of the Process & Motion Control platform - The discussion focuses on the Zurn business, excluding the Process & Motion Control platform, which was reclassified to discontinued operations following the October 4, 2021 spin-off[157] - The report includes financial information for the transition period from April 1, 2020, to December 31, 2020, and compares fiscal 2021 (January 1, 2021, to December 31, 2021) with the twelve-month period ended December 31, 2020 (unaudited)[158][163] - Key areas covered include company overview, financial statement presentation, critical accounting estimates, recent accounting pronouncements, recent developments (COVID-19, discontinued operations, restructuring), results of operations, non-GAAP financial measures, covenant compliance, liquidity and capital resources, and contractual obligations[160][161][162][163][164][165][166] Company Overview Post-Spin-Off, Zurn Water Solutions Corporation is a pure-play water management business, specializing in sustainable, specification-driven solutions for health, safety, and the environment, operating under the Zurn Business System (ZBS) - After the Spin-Off Transaction, Zurn is a growth-oriented, pure-play water management business[167] - The company designs, procures, manufactures, and markets a broad sustainable product portfolio of specification-driven water management solutions[167] - The Zurn Business System (ZBS) is the operating philosophy, focused on continuous improvement to drive superior customer satisfaction and financial results[167] Financial Statement Presentation This section briefly describes key financial statement items and accounting policies, noting that net sales are gross sales less deductions, cost of sales includes all manufacturing costs (with materials being 34% of net sales in 2021), and SG&A covers sales, marketing, finance, and engineering - Net sales represent gross sales less deductions for returns, allowances, and incentive rebate programs[169] - Cost of sales includes direct/indirect materials, labor, benefits, supplies, utilities, depreciation, freight, and other manufacturing costs[170] - Cost of materials was approximately 34% of net sales in 2021, with a strategic sourcing program in place to reduce costs[171] - Selling, General and Administrative expenses primarily include sales, marketing, finance, administration, engineering, technical services, and warehousing costs[172] Critical Accounting Estimates Zurn's financial statements rely on critical accounting estimates requiring significant judgment, including revenue recognition, receivables, inventory valuation, purchase accounting, impairment of assets, retirement benefits, income taxes, and commitments and contingencies - Revenue recognition: Point-in-time recognition upon product shipment, with estimates for returns and rebates[176] - Receivables: Net of allowances for doubtful accounts, assessed based on creditworthiness, payment history, aging, and historical write-offs[177] - Inventory: Stated at lower of cost or market (LIFO for 84% in 2021, FIFO for remainder), with write-downs for excess or obsolete inventory[179][180] - Purchase accounting and business combinations: Assets acquired and liabilities assumed recognized at fair value, with goodwill as the excess consideration[181] - Impairment of intangible assets and tangible fixed assets: Evaluated when circumstances indicate non-recoverability, comparing projected undiscounted cash flows to carrying value[182] - Goodwill, trademarks, and certain tradenames: Tested annually for impairment using qualitative or quantitative assessments (discounted cash flow, market value approach)[183] - Retirement benefits: Significant pension and post-retirement benefit income/expense and assets/liabilities derived from actuarial valuations using key assumptions (discount rates, asset returns, mortality)[185][187] - Income taxes: Significant judgment in determining worldwide provision, deferred tax assets/liabilities, valuation allowances, and unrecognized tax benefits[189][190][191] - Commitments and Contingencies: Accruals for legal actions, product warranties, and asbestos claims based on probability and estimable costs, with insurance recovery for asbestos claims[193][194][195][196] Recent Accounting Pronouncements This section refers to Item 8, Note 2, Significant Accounting Policies for details on new or revised accounting pronouncements and standards - Refer to Item 8, Note 2, Significant Accounting Policies for discussion of new or revised accounting pronouncements and standards[162] Overview of Recent Developments Recent developments include the ongoing management of the unpredictable COVID-19 pandemic, the spin-off of the Process & Motion Control (PMC) platform with approximately $60 million in separation costs, and continued restructuring actions incurring $3.7 million in charges in 2021 - Ongoing management of the COVID-19 pandemic, which has caused global supply chain disruptions and impacted sales and operating results[198] - Completed the spin-off of the Process & Motion Control (PMC) platform during 2021, reclassifying its operating results to discontinued operations[200] - Incurred approximately $60 million in separation costs related to the PMC spin-off in 2021, primarily for professional fees[368] - Continued execution of restructuring actions to drive efficiencies and reduce operating costs, incurring $3.7 million in charges in 2021[206][374][375] COVID-19 pandemic Zurn continues to navigate the unpredictable COVID-19 pandemic, which has led to global supply chain disruptions, product shortages, and potential delays, while focusing on employee health and safety - The COVID-19 pandemic continues to impact global economic activity, causing supply chain disruptions, shortages, and potential delays in product receipt[198] - Zurn is focused on employee health and well-being, implementing measures to minimize the spread of COVID-19 in offices and manufacturing sites[198] - The duration and severity of the pandemic's impact on operations, financial condition, and cash flows remain unpredictable[199] Discontinued Operations During 2021, Zurn completed the spin-off of its Process & Motion Control (PMC) platform, reclassifying its operating results to discontinued operations and incurring approximately $60 million in separation costs, while also receiving a final $4.2 million contingent cash payment for the VAG business - The spin-off of the PMC platform was completed in 2021, with its operating results reported as discontinued operations for all periods presented due to a strategic shift[200] - Approximately $60 million in separation costs related to the Spin-Off Transaction were incurred and recognized within income from discontinued operations, net of tax, in 2021[368] Income from Discontinued Operations, Net of Tax (Millions) | Component | Year Ended Dec 31, 2021 (1) | Nine Month Transition Period Ended Dec 31, 2020 | Year Ended Mar 31, 2020 | | :--- | :--- | :--- | :--- | | Net sales | $973.0 | $870.4 | $1,358.2 | | Income from discontinued operations before income tax | $99.1 | $109.2 | $211.1 | | Income from discontinued operations, net of tax | $71.2 | $83.2 | $161.1 | (1) Reflects period from Jan 1, 2021 through Oct 4, 2021. - Received a $4.2 million cash payment in 2021 from the VAG business (sold in fiscal 2019) as a final contingent consideration payment[204][373] Restructuring and Other Similar Costs Zurn continued restructuring actions in 2021 to enhance efficiencies and reduce operating costs, resulting in $3.7 million in charges primarily for workforce reductions, lease terminations, and facility rationalization - Zurn continued various restructuring actions in 2021 to drive efficiencies, reduce operating costs, and modify its footprint[206][374] - These actions primarily resulted in workforce reductions, lease termination costs, and other facility rationalization costs[206][374] Restructuring and Other Similar Charges (Millions) | Category | Year Ended Dec 31, 2021 | Nine Month Transition Period Ended Dec 31, 2020 | Fiscal Year Ended Mar 31, 2020 | | :--- | :--- | :--- | :--- | | Employee termination benefits | $3.7 | $1.8 | $0.6 | | Contract termination and other associated costs | $0.0 | $(0.1) | $0.6 | | Total | $3.7 | $1.7 | $1.2 | Results of Operations Zurn's results of operations show a significant increase in net sales for the year ended December 31, 2021, driven by core growth and acquisitions, despite a slight decrease in income from operations as a percentage of net sales due to LIFO adjustments, stock-based compensation, and acquisition mix Year Ended December 31, 2021 Compared with the Year Ended December 31, 2020 For the year ended December 31, 2021, Zurn's net sales increased by 22.1% to $910.9 million, with income from operations stable at $107.0 million but its percentage of net sales decreasing to 11.7%, while net income from continuing operations increased to $49.7 million Key Financial Highlights (Year Ended December 31) | Metric | 2021 (Millions) | 2020 (Millions) | Change (Millions) | % Change | | :--- | :--- | :--- | :--- | :--- | | Net sales | $910.9 | $746.1 | $164.8 | 22.1% | | Income from operations | $107.0 | $107.7 | $(0.7) | (0.6)% | | Income from operations (% of net sales) | 11.7% | 14.4% | (2.7)% | - | | Interest expense, net | $34.7 | $45.9 | $(11.2) | (24.4)% | | Loss on extinguishment of debt | $20.4 | $0.0 | $20.4 | - | | Actuarial (gain) loss on pension | $(1.2) | $21.2 | $(22.4) | (105.7)% | | Provision for income taxes | $2.7 | $9.5 | $(6.8) | (71.6)% | | Net income from continuing operations | $49.7 | $28.6 | $21.1 | 73.8% | | Diluted EPS from continuing operations | $0.40 | $0.23 | $0.17 | 73.9% | | Net income attributable to Zurn common stockholders | $120.9 | $146.7 | $(25.8) | (17.6)% | | Diluted EPS attributable to Zurn common stockholders | $0.97 | $1.19 | $(0.22) | (18.5)% | | Income from discontinued operations, net of tax | $71.2 | $118.1 | $(46.9) | (39.7)% | - Core net sales increased 13% year-over-year, excluding 1% foreign currency translation and 8% from acquisitions (Hadrian, Wade)[208][209] - Decrease in income from operations as a percentage of net sales was due to LIFO adjustment changes, higher stock-based compensation, Hadrian acquisition mix, and prior-year temporary COVID-19 cost reductions[209] - Actuarial gain on pension obligations was primarily due to an increase in discount rates[212] - Net income attributable to Zurn common stockholders was impacted by $71.2 million from discontinued operations, which included approximately $60.0 million in Spin-Off Transaction costs[216] Nine Months Ended December 31, 2020 Compared with the Nine Months Ended December 31, 2019 For the nine months ended December 31, 2020, net sales increased by 6.8% to $562.7 million, driven by 3% core growth and 4% from acquisitions, with income from operations increasing to $81.0 million but its percentage of net sales slightly decreasing to 14.4% Key Financial Highlights (Nine Months Ended December 31) | Metric | 2020 (Millions) | 2019 (Millions) | Change (Millions) | % Change | | :--- | :--- | :--- | :--- | :--- | | Net sales | $562.7 | $526.7 | $36.0 | 6.8% | | Income from operations | $81.0 | $77.4 | $3.6 | 4.7% | | Income from operations (% of net sales) | 14.4% | 14.7% | (0.3)% | - | | Interest expense, net | $33.3 | $44.0 | $(10.7) | (24.3)% | | Loss on extinguishment of debt | $0.0 | $2.0 | $(2.0) | (100.0)% | | Actuarial loss on pension | $0.3 | $0.0 | $0.3 | - | | Provision for income taxes | $10.5 | $5.4 | $5.1 | 94.4% | | Net income from continuing operations | $35.0 | $25.4 | $9.6 | 37.8% | | Diluted EPS from continuing operations | $0.28 | $0.10 | $0.18 | 180.0% | | Net income attributable to Zurn common stockholders | $118.2 | $137.2 | $(19.0) | (13.8)% | | Diluted EPS attributable to Zurn common stockholders | $0.96 | $1.24 | $(0.28) | (22.6)% | | Income from discontinued operations, net of tax | $83.2 | $126.2 | $(43.0) | (34.1)% | - Core net sales increased 3% year-over-year, excluding 4% from acquisitions (Just Manufacturing, Hadrian), driven by demand for touchless and hygienic solutions[217][218] - Decrease in income from operations as a percentage of net sales was due to incremental restructuring costs, purchase accounting fair value adjustments, and non-cash stock option expense[218][219] - Interest expense decreased due to lower outstanding borrowings and average interest rates following a $100.0 million voluntary prepayment and refinancing in 2019[219] - Net income attributable to Zurn common stockholders was primarily impacted by lower income from discontinued operations, partially offset by reduced preferred stock dividends[226] Non-GAAP Financial Measures This section defines Zurn's non-GAAP financial measures: Core sales, EBITDA, and Adjusted EBITDA, which are used for performance evaluation, comparability, and assessing compliance with debt covenants - Core sales: Excludes the impact of acquisitions, divestitures, and foreign currency translation to facilitate meaningful comparisons of net sales performance[229] - EBITDA: Represents earnings before interest, taxes, depreciation, and amortization; used as a supplemental measure of performance and to evaluate debt service obligations[230] - Adjusted EBITDA: EBITDA adjusted for specific items as defined in the credit agreement (e.g., restructuring, stock-based compensation, LIFO adjustments, acquisition-related fair value adjustments); important for assessing compliance with debt covenants and understanding unleveraged, pre-tax operating results[231][234] Covenant Compliance Zurn's credit agreement includes restrictive covenants, such as a maximum total net leverage ratio of 5.00 to 1.0, with the company in compliance at 2.3 to 1.0 as of December 31, 2021, using Adjusted EBITDA as a critical measure - The credit agreement contains restrictive covenants, including a maximum total net leverage ratio of 5.00 to 1.0, which affects Zurn's ability to incur debt, make payments/distributions, and pursue acquisitions[232] - As of December 31, 2021, Zurn's total net leverage ratio was 2.3 to 1.0, indicating compliance with covenants[232][239] - Adjusted EBITDA is a key measure for covenant compliance, showing unleveraged, pre-tax operating results by excluding non-operational, non-cash, or non-recurring losses or gains[234] Adjusted EBITDA Reconciliation (Year Ended Dec 31, 2021) | Metric | Amount (Millions) | | :--- | :--- | | Net income attributable to Zurn common stockholders | $120.9 | | Income from discontinued operations, net of tax | $(71.2) | | Provision for income taxes | $2.7 | | Actuarial gain on pension and postretirement benefit obligations | $(1.2) | | Other expense, net | $0.7 | | Loss on the extinguishment of debt | $20.4 | | Interest expense, net | $34.7 | | Depreciation and amortization | $32.7 | | EBITDA | $139.7 | | Adjustments to EBITDA: | | | Restructuring and other similar charges | $3.7 | | Stock-based compensation expense | $37.5 | | LIFO adjustments | $14.1 | | Acquisition-related fair value adjustment | $0.8 | | Subtotal of adjustments to EBITDA | $56.1 | | Adjusted EBITDA | $195.8 | | Pro forma adjustment for acquisitions | $1.0 | | Pro forma Adjusted EBITDA | $196.8 | | Consolidated indebtedness | $459.7 | | Total net leverage ratio | 2.3 | Liquidity and Capital Resources Zurn's primary liquidity sources are cash, cash equivalents, cash flow from operations, and a $200.0 million revolving credit facility, with $96.6 million in cash and $193.9 million in available borrowing capacity as of December 31, 2021 - Primary liquidity sources are available cash and cash equivalents, cash flow from operations, and a $200.0 million revolving credit facility[240] Liquidity Position (Millions) | Metric | Dec 31, 2021 | Dec 31, 2020 | | :--- | :--- | :--- | | Cash and cash equivalents | $96.6 | $255.6 | | Additional borrowing capacity (revolving credit facility) | $193.9 | $339.2 | | Available borrowings reduced by outstanding letters of credit | $6.1 | $10.5 | - The revolving credit facility is deemed adequate for expected working capital, capital expenditures, and general corporate purposes[242] Cash Flows In 2021, net cash provided by operating activities decreased to $223.6 million from $320.2 million, cash used for investing activities significantly decreased to $21.9 million from $196.6 million, and cash used for financing activities substantially increased to $356.2 million from $156.2 million, primarily due to the PMC spin-off Cash Flow Summary (Millions) | Activity | Year Ended Dec 31, 2021 | Year Ended Dec 31, 2020 | | :--- | :--- | :--- | | Net cash provided by operating activities | $223.6 | $320.2 | | Cash used for investing activities | $21.9 | $196.6 | | Cash used for financing activities | $356.2 | $156.2 | - Operating cash flow decrease in 2021 was due to lower net income from the Spin-Off Transaction and investments in working capital[244] - Investing cash flow decrease in 2021 was due to lower net cash used for acquisitions ($17.1 million in 2021 vs. $161.4 million in 2020) and capital expenditures ($23.3 million in 2021 vs. $44.2 million in 2020)[245] - Financing cash flow increase in cash used in 2021 was primarily due to $311.5 million net cash related to the PMC Spin-Off Transaction and debt repayments[246] Tabular Disclosure of Contractual Obligations As of December 31, 2021, Zurn's total contractual obligations amounted to $907.5 million, with $241.8 million due within one year, including term loans, interest on long-term debt, purchase commitments, and operating lease obligations Contractual Obligations (as of Dec 31, 2021, in Millions) | Obligation | Total | Less than 1 Year | 1-3 Years | 3-5 Years | More than 5 Years | | :--- | :--- | :--- | :--- | :--- | :--- | | Term loans | $550.0 | $5.5 | $11.0 | $11.0 | $522.5 | | Interest on long-term debt obligations | $99.0 | $15.1 | $29.7 | $29.1 | $25.1 | | Purchase commitments | $215.6 | $211.8 | $3.3 | $0.5 | $0.0 | | Operating lease obligations | $15.9 | $6.6 | $8.1 | $1.2 | $0.0 | | Pension and post-retirement plans | $27.0 | $2.8 | $11.4 | $12.8 | See note (4) | | Totals | $907.5 | $241.8 | $63.5 | $54.6 | $547.6 | - Excludes unamortized debt issuance costs of $10.8 million[250] - Interest on long-term debt obligations uses a LIBOR-based forecast[251] - Pension and post-retirement contributions and benefit payments beyond fiscal 2027 cannot be reasonably estimated[253] - Unrecognized tax benefits ($5.9 million) and deferred compensation liability ($16.3 million) are excluded due to uncertainty of timing for cash settlement[254] Indebtedness As of December 31, 2021, Zurn's total outstanding indebtedness was $539.5 million, a significant reduction from $1,118.3 million at December 31, 2020, primarily due to debt refinancing associated with the Spin-Off Transaction Long-Term Debt (Millions) | Debt Type | Dec 31, 2021 | Dec 31, 2020 | | :--- | :--- | :--- | | Term loan (1) | $539.2 | $621.5 | | 4.875% Senior Notes due 2025 (2) | $0.0 | $496.3 | | Finance leases and other subsidiary debt (3) | $0.3 | $0.5 | | Total | $539.5 | $1,118.3 | | Less current maturities | $5.6 | $0.3 | | Long-term debt | $533.9 | $1,118.0 | (1) Includes unamortized debt issuance costs of $10.8 million and $3.5 million at December 31, 2021 and December 31, 2020, respectively. (2) Includes unamortized debt issuance costs of $0.0 million and $3.7 million at December 31, 2021 and December 31, 2020, respectively. (3) Consists of finance lease obligations. - Total indebtedness decreased significantly from $1,118.3 million in 2020 to $539.5 million in 2021, primarily due to the refinancing associated with the Spin-Off Transaction[256] Off-Balance Sheet Arrangements Zurn Water Solutions Corporation does not have any off-balance sheet or non-consolidated special-purpose entities - The company does not have any off-balance sheet or non-consolidated special-purpose entities[259] Item 7A. Quantitative and Qualitative Disclosures About Market Risk Zurn is exposed to market risks from foreign currency exchange rates and interest rates, managed through operating activities, financing, and sometimes derivative instruments - Zurn is exposed to market risk from changes in foreign currency exchange rates and interest rates, managed through operating activities, financing, and derivative financial instruments[260] Foreign Currency Exchange Rate Risk Zurn's foreign currency exchange rate exposure primarily stems from its Canadian operations, impacting reported earnings and stockholders' equity, with approximately 13% of sales originating outside the U.S. in 2021 - Foreign currency exchange rate exposure primarily relates to Canadian operations, impacting USD value of reported earnings, investments, and intercompany transactions[261] - Approximately 13% of sales originated outside the United States in 2021[262] - A 10% strengthening of the USD as of December 31, 2021, would have decreased stockholders' equity by approximately $11.2 million[262] - As of December 31, 2021, Zurn had not entered into foreign currency forward contracts[263] Interest Rate Risk Zurn's indebtedness under its senior secured credit facilities bears interest at variable rates, primarily LIBOR (subject to a 0.5% floor), with a 100 basis point increase in LIBOR potentially increasing annual interest expense by approximately $5.5 million - Indebtedness under senior secured credit facilities bears interest at rates fluctuating with short-term prevailing interest rates, primarily LIBOR[264] - As of December 31, 2021, outstanding term loan borrowings were $539.2 million with an effective interest rate of 2.75% (LIBOR + 2.25% margin, subject to 0.5% floor)[264] - A 100 basis point increase in LIBOR above the 0.5% floor would increase annual interest expense under the term loan facility by approximately $5.5 million[265] Item 8. Financial Statements and Supplementary Data This section presents Zurn Water Solutions Corporation's consolidated financial statements, including balance sheets, statements of operations, comprehensive income, stockholders' equity, and cash flows, along with the independent auditor's report and detailed notes - Includes consolidated financial statements: Balance Sheets, Statements of Operations, Comprehensive Income, Stockholders' Equity, and Cash Flows[269][290][292][294][297][303] - Features the Report of Independent Registered Public Accounting Firm by Ernst & Young LLP, expressing an unqualified opinion on the financial statements and internal control over financial reporting[271][272][273] - Detailed notes to consolidated financial statements provide additional information on accounting policies, acquisitions, discontinued operations, debt, and other financial matters[307] Reports of Ernst & Young LLP, Independent Registered Public Accounting Firm Ernst & Young LLP provided an unqualified opinion on Zurn's consolidated financial statements and the effectiveness of its internal control over financial reporting, identifying valuation allowances for deferred tax assets as a critical audit matter - Ernst & Young LLP issued an unqualified opinion on Zurn's consolidated financial statements for the periods presented[272] - An unqualified opinion was also expressed on the effectiveness of Zurn's internal control over financial reporting as of December 31, 2021[273][283] - The critical audit matter identified was the valuation allowances for deferred tax assets, which involved significant judgments regarding anticipated future earnings and tax planning strategies[278][279] Consolidated Balance Sheets Zurn's consolidated balance sheets show total assets decreased from $3,401.1 million in 2020 to $1,077.7 million in 2021, primarily due to the spin-off of discontinued operations, with corresponding decreases in liabilities and stockholders' equity Consolidated Balance Sheet Highlights (Millions) | Metric | Dec 31, 2021 | Dec 31, 2020 | | :--- | :--- | :--- | | Total assets | $1,077.7 | $3,401.1 | | Current assets | $474.8 | $907.7 | | Property, plant and equipment, net | $64.4 | $69.6 | | Intangible assets, net | $179.1 | $200.3 | | Goodwill | $254.1 | $244.8 | | Total liabilities | $951.3 | $1,961.8 | | Current liabilities | $240.4 | $317.5 | | Long-term debt | $533.9 | $1,118.0 | | Total stockholders' equity | $126.4 | $1,439.3 | - Significant decreases in total assets, current assets, total liabilities, and total stockholders' equity from 2020 to 2021 are primarily due to the reclassification and distribution of assets and liabilities of discontinued operations (PMC spin-off)[291] Consolidated Statements of Operations For the year ended December 31, 2021, Zurn reported net sales of $910.9 million and gross profit of $373.2 million, with income from continuing operations increasing to $49.7 million, while net income attributable to common stockholders decreased to $120.9 million due to discontinued operations Consolidated Statements of Operations Highlights (Millions, except per share) | Metric | Year Ended Dec 31, 2021 | Nine Month Transition Period Ended Dec 31, 2020 | Year Ended Mar 31, 2020 | | :--- | :--- | :--- | :--- | | Net sales | $910.9 | $562.7 | $710.1 | | Gross profit | $373.2 | $253.3 | $322.6 | | Income from operations | $107.0 | $81.0 | $104.1 | | Net income from continuing operations | $49.7 | $35.0 | $19.0 | | Income from discontinued operations, net of tax | $71.2 | $83.2 | $161.1 | | Net income attributable to Zurn common stockholders | $120.9 | $118.2 | $165.7 | | Diluted net income per share (Continuing operations) | $0.40 | $0.28 | $0.04 | | Diluted net income per share (Discontinued operations) | $0.57 | $0.68 | $1.41 | | Diluted net income per share (Total) | $0.97 | $0.96 | $1.45 | - Net income from continuing operations increased significantly in 2021, while total net income attributable to common stockholders decreased due to lower income from discontinued operations, which included spin-off related costs[293] Consolidated Statements of Comprehensive Income Zurn's total comprehensive income for the year ended December 31, 2021, was $135.1 million, including net income attributable to Zurn of $120.9 million and other comprehensive income, net of tax, of $14.2 million, primarily from pension and postretirement defined benefit plans Consolidated Statements of Comprehensive Income (Millions) | Metric | Year Ended Dec 31, 2021 | Nine Month Transition Period Ended Dec 31, 2020 | Year Ended Mar 31, 2020 | | :--- | :--- | :--- | :--- | | Net income attributable to Zurn | $120.9 | $118.2 | $180.1 | | Other comprehensive income (loss), net of tax | $14.2 | $50.6 | $(27.8) | | Total comprehensive income | $135.1 | **$168.