Lincoln Electric(LECO) - 2019 Q4 - Annual Report

Part I Item 1. Business Lincoln Electric is a global leader in arc welding products, automated systems, and cutting equipment, operating through three segments - The Company is a world leader in arc welding products, automated joining, assembly and cutting systems, plasma and oxy-fuel cutting equipment, and has a leading global position in brazing and soldering alloys[10] - The business is organized into three operating segments: Americas Welding (North and South America), International Welding (Europe, Africa, Asia, Australia), and The Harris Products Group (global cutting, soldering, brazing, and U.S. retail)[14] - Major end-user markets include general fabrication, energy, heavy industries, automotive/transportation, and construction/infrastructure, with no single customer accounting for more than 10% of total net sales[15] - Competition is based on brand, product quality, price, performance, warranty, delivery, and technical support, leveraging its technical sales force and R&D staff as a competitive advantage[16][17] - As of December 31, 2019, the company employed approximately 11,000 people worldwide[22] Item 1A. Risk Factors The company faces risks from economic conditions, supply chain, raw material prices, asbestos litigation, and international operations - The company's operating results are sensitive to changes in general economic conditions, interest rates, inflation, and trade barriers, which could adversely affect demand for its products[29] - The company is exposed to market risks from the availability and price fluctuations of key raw materials such as steel, brass, copper, silver, and electronic components, potentially affecting profitability if cost increases cannot be passed on to customers[32][33] - As of December 31, 2019, the company was a co-defendant in asbestos-related illness cases involving approximately 3,233 plaintiffs, presenting a risk of significant liability[34] - The business faces potential product liability risks inherent in the design and manufacture of its products, which are used in critical applications like infrastructure and transportation[38] - The arc welding and cutting industry is mature and cyclical in developed markets, with demand largely determined by capital spending in manufacturing and industrial sectors[41] - Significant international operations expose the company to risks including political and economic uncertainty, currency fluctuations, and complex foreign laws and regulations[50][51] - The company's information technology systems are subject to cyber attacks, which could lead to business interruption, financial loss, and reputational damage if a significant breach occurs[57] Item 1B. Unresolved Staff Comments The company reports that it has no unresolved staff comments from the Securities and Exchange Commission - None[63] Item 1C. Information About Our Executive Officers This section lists the company's executive officers, including their age and position, elected by the Board of Directors Key Executive Officers | Name | Age | Position | | :--- | :--- | :--- | | Christopher L. Mapes | 58 | Chairman of the Board, President and Chief Executive Officer | | Vincent K. Petrella | 59 | Executive Vice President, Chief Financial Officer and Treasurer | | Jennifer I. Ansberry | 46 | Executive Vice President, General Counsel and Secretary | | George D. Blankenship | 57 | Executive Vice President, President, Americas Welding | | Steven B. Hedlund | 53 | Executive Vice President and President, International Welding | | David J. Nangle | 63 | Executive Vice President, President, Harris Products Group | Item 2. Properties The company operates 59 manufacturing facilities globally across 18 countries, with its main U.S. facilities in Cleveland, Ohio - The company's corporate headquarters and main U.S. manufacturing facilities are in Cleveland, Ohio, with approximately 3,017,090 square feet of space[70] - Globally, the company has 59 manufacturing facilities in 18 countries, with significant locations in the U.S., Canada, Mexico, Brazil, China, Germany, Italy, and the UK[70] - Most of the company's manufacturing facilities are owned and are believed to be in good condition and suitable for business operations[70] Item 3. Legal Proceedings The company is involved in legal proceedings, primarily asbestos-related illness cases, with 3,233 plaintiffs as of December 31, 2019 - As of December 31, 2019, the Company was a co-defendant in cases alleging asbestos-induced illness involving approximately 3,233 plaintiffs, a net decrease of 50 claims from the prior report[73] - Since January 1, 1995, the company has seen 55,114 asbestos-related claims dismissed, won 23 defense verdicts, and had 7 plaintiff verdicts reversed or resolved after appeal[73] Item 4. Mine Safety Disclosures This section is not applicable to the company - Not applicable[74] Part II Item 5. Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities The company's common shares trade on NASDAQ, with significant share repurchases and a new 10 million share repurchase program authorized - The Company's common shares are traded on The NASDAQ Global Select Market under the symbol "LECO"[76] Issuer Purchases of Equity Securities (Q4 2019) | Period | Total Shares Repurchased | Average Price Paid Per Share | | :--- | :--- | :--- | | October 1-31, 2019 | 255 | $86.83 | | November 1-30, 2019 | 298,353 | $91.93 | | December 1-31, 2019 | 457,429 | $94.66 | | Total | 756,037 | $93.58 | - On April 20, 2016, the Board authorized a share repurchase program, increasing the total authorized shares to 55 million, with 52.2 million shares purchased at a cost of $2.2 billion through December 31, 2019[76] - On February 12, 2020, the Board authorized a new share repurchase program for up to an additional 10 million shares[76] Item 6. Selected Financial Data This section summarizes five-year financial data, showing stable net sales, increased net income and diluted EPS, and consistent dividend growth Five-Year Selected Financial Data (2015-2019) | Metric | 2019 | 2018 | 2017 | 2016 | 2015 | | :--- | :--- | :--- | :--- | :--- | :--- | | Net sales | $3,003,272 | $3,028,674 | $2,624,431 | $2,274,614 | $2,535,791 | | Net income | $293,109 | $287,066 | $247,503 | $198,399 | $127,478 | | Diluted EPS | $4.68 | $4.37 | $3.71 | $2.91 | $1.70 | | Cash dividends per share | $1.90 | $1.64 | $1.44 | $1.31 | $1.19 | | Total assets | $2,371,213 | $2,349,825 | $2,406,547 | $1,943,437 | $1,784,171 | | Long-term debt | $712,302 | $702,549 | $704,136 | $703,704 | $350,347 | - Results for 2019 include $15.2 million in rationalization and asset impairment charges and costs related to acquisitions, offset by gains on asset disposals and a gain on change in control related to the Askaynak acquisition[79] Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations (MD&A) MD&A discusses 2019 financial performance, including a slight sales decrease, net income growth, improved operating cash flow, and capital management activities Results of Operations Net sales decreased 0.8% to $3.00 billion in 2019 due to volume and FX, while net income increased 2.1% to $293.1 million Consolidated Results of Operations (2019 vs. 2018) | Metric | 2019 | 2018 | % Change | | :--- | :--- | :--- | :--- | | Net Sales | $3,003,272 | $3,028,674 | (0.8%) | | Gross Profit | $1,007,587 | $1,028,521 | (2.0%) | | Operating Income | $370,910 | $375,539 | (1.2%) | | Net Income | $293,109 | $287,066 | 2.1% | | Diluted EPS | $4.68 | $4.37 | 7.1% | Change in Net Sales (2019 vs. 2018) | Component | % Change | | :--- | :--- | | Volume | (4.7%) | | Acquisitions | 4.3% | | Price | 1.2% | | Foreign Exchange | (1.7%) | | Total | (0.8%) | - Gross profit as a percentage of sales decreased in 2019 compared to 2018 due to product mix, lower volumes, and acquisitions[97] - The effective tax rate decreased from 22.2% in 2018 to 20.5% in 2019, primarily due to income tax benefits from the settlement of tax items and excess tax benefits from stock-based compensation[102] Segment Results Americas Welding sales grew slightly, International Welding sales declined, and Harris Products Group sales increased, reflecting varied segment performance Net Sales % Change by Segment (2019 vs. 2018) | Segment | Volume | Acquisitions | Price | Foreign Exchange | Total | | :--- | :--- | :--- | :--- | :--- | :--- | | Americas Welding | (4.4%) | 3.9% | 1.4% | (0.5%) | 0.5% | | International Welding | (7.8%) | 4.0% | 1.0% | (4.4%) | (7.1%) | | The Harris Products Group | 3.3% | 7.0% | 0.9% | (1.0%) | 10.2% | Adjusted EBIT by Segment (2019 vs. 2018) | Segment | 2019 Adjusted EBIT | 2018 Adjusted EBIT | % Change | 2019 Margin | 2018 Margin | | :--- | :--- | :--- | :--- | :--- | :--- | | Americas Welding | $315,719 | $340,744 | (7.3%) | 16.3% | 17.7% | | International Welding | $50,281 | $54,273 | (7.4%) | 5.8% | 5.8% | | The Harris Products Group | $45,701 | $36,564 | 25.0% | 13.4% | 11.8% | Non-GAAP Financial Measures The company uses non-GAAP measures like Adjusted Operating Income and Adjusted Net Income to assess performance, showing a slight decline in 2019 Reconciliation of Net Income to Adjusted Net Income and Adjusted EBIT | Metric | 2019 | 2018 | | :--- | :--- | :--- | | Net income as reported | $293,109 | $287,066 | | Special items (pre-tax) | $1,854 | $36,469 | | Tax effect of Special items | ($7,386) | ($6,896) | | Adjusted net income | $294,568 | $316,639 | | Adjusted EBIT | $400,753 | $422,694 | Reconciliation of Diluted EPS to Adjusted Diluted EPS | Metric | 2019 | 2018 | | :--- | :--- | :--- | | Diluted EPS as reported | $4.68 | $4.37 | | Special items per share | $0.02 | $0.45 | | Adjusted diluted EPS | $4.70 | $4.82 | Liquidity and Capital Resources Operating cash flow increased to $403.2 million in 2019, supporting acquisitions, share repurchases, and dividends, with total debt at $747.3 million Key Cash Flow Measures (2019 vs. 2018) | Cash Flow Activity | 2019 | 2018 | | :--- | :--- | :--- | | Net cash provided by operating activities | $403,185 | $329,152 | | Net cash (used by) provided by investing activities | ($192,823) | $20,841 | | Net cash used by financing activities | ($371,944) | ($302,130) | | (Decrease) increase in Cash and cash equivalents | ($159,286) | $32,148 | - Cash used in financing activities increased due to higher purchases of common shares for treasury ($292.7 million in 2019 vs. $201.7 million in 2018) and a 15.5% increase in cash dividends paid[121][122] - The company has a $400 million revolving credit agreement maturing in June 2022, with $23 million outstanding as of December 31, 2019[129] Return on Invested Capital (ROIC) | Metric | 2019 | 2018 | | :--- | :--- | :--- | | Net operating profit after taxes | $312,137 | $329,819 | | Invested capital | $1,566,348 | $1,590,252 | | Return on invested capital | 19.9% | 20.7% | Contractual Obligations as of Dec 31, 2019 | Obligation | Total | 2020 | 2021-2022 | 2023-2024 | 2025 and Beyond | | :--- | :--- | :--- | :--- | :--- | :--- | | Long-term debt | $710,916 | $101 | $208 | $10,607 | $700,000 | | Interest on long-term debt | $351,432 | $23,293 | $46,580 | $46,347 | $235,212 | | Operating leases | $59,446 | $15,235 | $20,275 | $13,007 | $10,929 | | Purchase commitments | $194,553 | $191,446 | $2,996 | $111 | — | | Total | $1,336,879 | $233,099 | $73,083 | $75,104 | $955,593 | Critical Accounting Policies and Estimates Critical accounting policies involve significant judgment in areas such as legal and tax contingencies, pensions, inventories, and asset valuations - Key critical accounting policies involve significant management judgment and include: Legal and Tax Contingencies, Deferred Income Taxes, Pensions, Inventories (LIFO), Long-Lived Assets, Goodwill and Intangibles, Acquisitions, and Revenue Recognition[143][144][148] - For pensions, significant estimates include the expected return on plan assets (4.9% in 2019) and the discount rate for plan liabilities (3.0% for U.S. plans in 2019)[151][152] - A substantial portion of U.S. inventories (36% at year-end 2019) is valued on a LIFO basis, which requires estimates of year-end inventory levels and costs[155] - Goodwill and indefinite-lived intangible assets are tested for impairment annually in the fourth quarter, or more frequently if indicators of impairment exist, with fair value determined using valuation techniques that rely on estimates of future cash flows, growth rates, and discount rates[159][161] Item 7A. Quantitative and Qualitative Disclosures About Market Risk The company manages market risks from currency, commodity, and interest rate fluctuations using derivatives, with sensitivity analysis showing no material impact - Primary financial market risks include fluctuations in currency exchange rates, commodity prices, and interest rates[169] - The company uses forward foreign exchange contracts to hedge currency fluctuations, with gross notional amounts of $59,982 for hedging transactions and $363,820 for hedging balance sheet exposures at December 31, 2019[171][172][173] - Interest rate risk on long-term debt is managed with floating interest rate swaps, converting $50,000 of fixed-rate debt to variable rates, and a hypothetical 100 basis point increase in rates would not materially affect the financial statements[176] Item 8. Financial Statements and Supplementary Data This item refers to the consolidated financial statements and supplementary data, which are provided in a separate section of the Annual Report on Form 10-K - The response to this item is submitted in a separate section of this Annual Report on Form 10-K following the signature page[178] Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures The company reports no changes in or disagreements with its accountants on accounting and financial disclosures - None[179] Item 9A. Controls and Procedures Management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2019, excluding recent acquisitions - The CEO and CFO concluded that the Company's disclosure controls and procedures were effective as of December 31, 2019[180] - Management concluded that the Company's internal control over financial reporting was effective as of December 31, 2019, with the assessment excluding the recently acquired Baker Industries Inc. and Askaynak[181][182] - Changes to internal controls in 2019 included the implementation of the new lease accounting standard (ASU 2016-02, Topic 842) and the ongoing integration of systems and controls for the Baker and Askaynak acquisitions[184][185] Item 9B. Other Information The company reports no other information for this item - None[187] Part III Item 10. Directors, Executive Officers and Corporate Governance Information for this item is incorporated by reference from the company's 2020 definitive proxy statement, excluding executive officer details - Information required by this item is incorporated by reference from the registrant's 2020 proxy statement[188] Item 11. Executive Compensation Information on executive compensation is incorporated by reference from the company's 2020 definitive proxy statement - Information required by this item is incorporated by reference from the 2020 proxy statement[189] Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters Information on security ownership is incorporated by reference from the company's 2020 definitive proxy statement - Information required by this item is incorporated by reference from the 2020 proxy statement[190] Item 13. Certain Relationships and Related Transactions, and Director Independence Information on related transactions and director independence is incorporated by reference from the company's 2020 definitive proxy statement - Information required by this item is incorporated by reference from the 2020 proxy statement[191] Item 14. Principal Accountant Fees and Services Information on principal accountant fees and services is incorporated by reference from the company's 2020 definitive proxy statement - Information required by this item is incorporated by reference from the 2020 proxy statement[192] Part IV Item 15. Exhibits and Financial Statement Schedules This section lists the financial statements, schedules, and exhibits filed with the Form 10-K, including corporate governance and debt agreements - This item lists the consolidated financial statements, financial statement schedules (Schedule II – Valuation and Qualifying Accounts), and all exhibits filed with the report[194][195] - Exhibits include key corporate documents, debt agreements (Credit Agreement, Note Purchase Agreements), executive compensation plans, and certifications required by the Sarbanes-Oxley Act[196][198][200] Item 16. Form 10-K Summary The company has not provided a summary for this item - None[204] Financial Statements and Notes Report of Independent Registered Public Accounting Firm Ernst & Young LLP issued unqualified opinions on financial statements and internal controls, with critical audit matters on acquired intangibles and uncertain tax positions - The independent auditor, Ernst & Young LLP, issued an unqualified opinion on the consolidated financial statements[214] - The auditor also issued an unqualified opinion on the effectiveness of the company's internal control over financial reporting as of December 31, 2019[215][230] - Critical Audit Matters highlighted by the auditor include the valuation of acquired intangible assets and the accounting for uncertain tax positions[218][219][223] Consolidated Financial Statements The consolidated financial statements show stable net sales, increased net income, improved operating cash flow, and a decrease in shareholders' equity in 2019 Consolidated Statement of Income Highlights | Metric | 2019 | 2018 | 2017 | | :--- | :--- | :--- | :--- | | Net Sales | $3,003,272 | $3,028,674 | $2,624,431 | | Gross Profit | $1,007,587 | $1,028,521 | $875,107 | | Operating Income | $370,910 | $375,539 | $376,942 | | Net Income | $293,109 | $287,066 | $247,503 | | Diluted EPS | $4.68 | $4.37 | $3.71 | Consolidated Balance Sheet Highlights | Metric | Dec 31, 2019 | Dec 31, 2018 | | :--- | :--- | :--- | | Total Current Assets | $1,075,581 | $1,237,799 | | Total Assets | $2,371,213 | $2,349,825 | | Total Current Liabilities | $563,135 | $538,182 | | Long-term debt | $712,302 | $702,549 | | Total Shareholders' Equity | $818,172 | $886,942 | Consolidated Statement of Cash Flows Highlights | Metric | 2019 | 2018 | 2017 | | :--- | :--- | :--- | :--- | | Net Cash from Operating Activities | $403,185 | $329,152 | $334,845 | | Net Cash from Investing Activities | ($192,823) | $20,841 | ($272,027) | | Net Cash from Financing Activities | ($371,944) | ($302,130) | ($135,037) | Notes to Consolidated Financial Statements The notes detail accounting policies, recent acquisitions, goodwill, debt, pensions, income taxes, and the adoption of the new lease accounting standard Note 4 – Acquisitions This note details recent acquisitions in 2019 (Askaynak, Baker) and late 2018, aimed at expanding regional growth and product portfolios - During July 2019, the Company acquired the controlling stake in Askaynak, a Turkish supplier of welding consumables and equipment[309] - During April 2019, the Company acquired Baker Industries, Inc., a provider of custom tooling, parts, and fixtures for automotive and aerospace markets[310] - The 2017 acquisition of Air Liquide Welding resulted in a bargain purchase gain of $49,650, primarily because the business was outside the seller's core focus[316] Note 9 – Debt Total debt was $747.3 million as of December 31, 2019, primarily senior unsecured notes, with a $400 million revolving credit facility Debt Composition as of Dec 31, 2019 | Debt Component | Amount | | :--- | :--- | | Senior Unsecured Notes (net) | $701,681 | | Other borrowings | $10,733 | | Total Long-term debt | $712,414 | | Amounts due banks | $34,857 | | Current portion long-term debt | $112 | | Total short-term debt | $34,969 | | Total debt | $747,271 | - The company has a $400 million revolving credit agreement maturing June 30, 2022, with $23,000 outstanding at year-end 2019[352] Note 12 – Retirement Annuity and Guaranteed Continuous Employment Plans The company maintains defined benefit and contribution plans, with U.S. pensions overfunded and non-U.S. plans underfunded in 2019 Pension Plan Funded Status (Dec 31, 2019) | Plan Type | Benefit Obligations | Fair Value of Plan Assets | Funded Status | | :--- | :--- | :--- | :--- | | U.S. pension plans | $492,511 | $589,551 | $97,040 | | Non-U.S. pension plans | $176,858 | $105,673 | ($71,185) | - The annual cost for defined contribution plans was $24,835 in 2019, compared to $26,477 in 2018[391] Note 14 – Income Taxes The effective tax rate decreased to 20.5% in 2019 due to tax benefits, with $20.6 million in unrecognized tax benefits at year-end Effective Tax Rate Reconciliation | Description | 2019 | 2018 | | :--- | :--- | :--- | | Statutory U.S. federal rate | 21.0% | 21.0% | | State and local taxes, net | 2.4% | 2.4% | | Excess tax benefits (stock comp) | (0.9%) | (0.3%) | | Resolution of uncertain tax positions | (2.6%) | (0.1%) | | Foreign rate variance & other | 0.6% | (0.8%) | | Effective tax rate | 20.5% | 22.2% | - At December 31, 2019, the company had a liability for unrecognized tax benefits of $20.6 million, a decrease from $28.8 million at the beginning of the year[408] Note 18 – Leases The company adopted Topic 842 in 2019, recognizing $51.5 million in right-of-use assets and $52.6 million in lease liabilities - The company adopted ASU 2016-02 (Topic 842) on January 1, 2019, using the modified retrospective transition option[427] Lease Balances as of Dec 31, 2019 | Balance Sheet Item | Classification | Amount | | :--- | :--- | :--- | | Right-of-use assets | Other assets | $51,533 | | Current lease liabilities | Other current liabilities | $13,572 | | Noncurrent lease liabilities | Other liabilities | $39,076 | | Total lease liabilities | | $52,648 |