10-Q 1 aaon-20210930.htm 10-Q aaon-20210930
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C.  20549

FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2021
or
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ____________________ to ____________________
 
Commission file number:  0-18953
AAON, INC.
(Exact name of registrant as specified in its charter) 
Nevada87-0448736
(State or other jurisdiction(IRS Employer
of incorporation or organization)Identification No.)
2425 South Yukon Ave.,Tulsa,Oklahoma74107
(Address of principal executive offices) (Zip Code)
(918) 583-2266
(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes                   No 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes                   No   
                             
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See definition of "large accelerated filer", "accelerated filer", "small reporting company", and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filerSmaller reporting company
Emerging growth company

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.
                                                   
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes                       No 
Securities registered pursuant to Section 12(b) of the Act:
Title of each classTrading Symbol(s)Name of each exchange on which registered
Common StockAAONNASDAQ

As of November 1, 2021, registrant had outstanding a total of 52,428,030 shares of its $.004 par value Common Stock.



PART I – FINANCIAL INFORMATION

Item 1. Financial Statements.
AAON, Inc. and Subsidiaries
Consolidated Balance Sheets
(Unaudited)
 September 30, 2021December 31, 2020
Assets(in thousands, except share and per share data)
Current assets:  
Cash and cash equivalents$101,813 $79,025 
Restricted cash660 3,263 
Accounts receivable, net of allowance for credit losses of $477 and $506, respectively
58,756 47,387 
Income tax receivable1,999 4,587 
Note receivable32 31 
Inventories, net104,553 82,219 
Prepaid expenses and other2,802 3,739 
Total current assets270,615 220,251 
Property, plant and equipment:  
Land5,016 4,072 
Buildings131,327 122,171 
Machinery and equipment299,226 281,266 
Furniture and fixtures21,679 18,956 
Total property, plant and equipment457,248 426,465 
Less:  Accumulated depreciation216,667 203,125 
Property, plant and equipment, net240,581 223,340 
Goodwill and intangible assets, net3,229 3,267 
Right of use assets1,421 1,571 
Note receivable557 579 
Total assets$516,403 $449,008 
Liabilities and Stockholders' Equity  
Current liabilities:  
Accounts payable$25,940 $12,447 
Accrued liabilities48,266 46,586 
Total current liabilities74,206 59,033 
Deferred tax liabilities31,090 28,324 
Other long-term liabilities4,434 4,423 
New market tax credit obligation (a)6,394 6,363 
Commitments and contingencies
Stockholders' equity:  
Preferred stock, $.001 par value, 5,000,000 shares authorized, no shares issued
  
Common stock, $.004 par value, 100,000,000 shares authorized, 52,420,486 and 52,224,767 issued and outstanding at September 30, 2021 and December 31, 2020, respectively
210 209 
Additional paid-in capital11,966 5,161 
Retained earnings388,103 345,495 
Total stockholders' equity400,279 350,865 
Total liabilities and stockholders' equity$516,403 $449,008 
 (a) Held by variable interest entities (Note 14)

The accompanying notes are an integral part of these consolidated financial statements.

- 1 -


AAON, Inc. and Subsidiaries
Consolidated Statements of Income
(Unaudited)
 Three Months Ended 
 September 30,
Nine Months Ended 
 September 30,
 2021202020212020
(in thousands, except share and per share data)
Net sales$138,571 $134,772 $398,235 $397,851 
Cost of sales102,552 93,924 286,952 275,925 
Gross profit36,019 40,848 111,283 121,926 
Selling, general and administrative expenses15,897 14,716 47,488 45,869 
Gain on disposal of assets(15)1 (15)(61)
Income from operations20,137 26,131 63,810 76,118 
Interest (expense) income, net(10)10 (11)90 
Other (expense) income, net(19)15 37 20 
Income before taxes20,108 26,156 63,836 76,228 
Income tax provision4,527 5,696 11,264 16,111 
Net income$15,581 $20,460 $52,572 $60,117 
Earnings per share:  
Basic$0.30 $0.39 $1.00 $1.15 
Diluted$0.29 $0.38 $0.98 $1.14 
Cash dividends declared per common share:$ $ $0.19 $0.19 
Weighted average shares outstanding:  
Basic52,420,711 52,260,551 52,392,300 52,174,705 
Diluted53,546,513 53,151,295 53,664,997 52,955,049 
 
The accompanying notes are an integral part of these consolidated financial statements.

- 2 -


AAON, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity
(Unaudited)
Nine Months Ended September 30, 2021
 Common StockPaid-inRetained 
SharesAmountCapitalEarningsTotal
 (in thousands)
Balances at December 31, 202052,225 $209 $5,161 $345,495 $350,865 
Net income— — — 52,572 52,572 
Stock options exercised and restricted438 2 14,571 — 14,573 
stock awards granted     
Share-based compensation— — 8,784 — 8,784 
Stock repurchased and retired(243)(1)(16,550) (16,551)
Dividends— — — (9,964)(9,964)
Balances at September 30, 202152,420 $210 $11,966 $388,103 $400,279 
Three Months Ended September 30, 2021
Common StockPaid-inRetained
SharesAmountCapitalEarningsTotal
(in thousands)
Balances at June 30, 202152,416 $210 $10,998 $372,518 $383,726 
Net income— — — 15,581 15,581 
Stock options exercised and restricted77  2,725 — 2,725 
stock awards granted
Share-based compensation— — 2,991 — 2,991 
Stock repurchased and retired(73) (4,748) (4,748)
Dividends— — — 4 4 
Balances at September 30, 202152,420 $210 $11,966 $388,103 $400,279 
Nine Months Ended September 30, 2020
Common StockPaid-inRetained
SharesAmountCapitalEarningsTotal
(in thousands)
Balances at December 31, 201952,079 $208 $3,631 $286,301 290,140 
Net income— — — 60,117 60,117 
Stock options exercised and restricted616 2 18,517 — 18,519 
stock awards granted
Share-based compensation— — 8,546 — 8,546 
Stock repurchased and retired(430)(1)(22,519) (22,520)
Dividends— — — (9,910)(9,910)
Balances at September 30, 202052,265 $209 $8,175 $336,508 $344,892 
Three Months Ended September 30, 2020
Common StockPaid-inRetained
SharesAmountCapitalEarningsTotal
(in thousands)
Balances at June 30, 202052,234 $209 $6,451 $316,035 $322,695 
Net income— — — 20,460 20,460 
Stock options exercised and restricted126  4,346 — 4,346 
stock awards granted
Share-based compensation— — 2,852 — 2,852 
Stock repurchased and retired(95) (5,474) (5,474)
Dividends— — — 13 13 
Balances at September 30, 202052,265 $209 $8,175 $336,508 $344,892 
The accompanying notes are an integral part of these consolidated financial statements.

- 3 -


AAON, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
(Unaudited)
 Nine Months Ended 
 September 30,
 20212020
Operating Activities(in thousands)
Net income$52,572 $60,117 
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization22,532 18,971 
Amortization of debt issuance cost31 31 
Provision for credit losses on accounts receivable, net of adjustments 193 
Provision for excess and obsolete inventories378 1,776 
Share-based compensation8,784 8,546 
(Gain) loss on disposition of assets(15)(61)
Foreign currency transaction (gain) loss(1)18 
Interest income on note receivable(19)(19)
Deferred income taxes2,766 7,676 
Changes in assets and liabilities:  
Accounts receivable(11,369)5,011 
Income taxes2,588 (3,142)
Inventories(22,712)(6,994)
Prepaid expenses and other937 (598)
Accounts payable16,390 3,654 
Deferred revenue316 1,128 
Accrued liabilities1,525 688 
Net cash provided by operating activities74,703 96,995 
Investing Activities  
Capital expenditures(42,636)(48,955)
Proceeds from sale of property, plant and equipment19 61 
Principal payments from note receivable41 38 
Net cash used in investing activities(42,576)(48,856)
Financing Activities  
Stock options exercised14,573 18,519 
Repurchase of stock(15,014)(21,390)
Employee taxes paid by withholding shares(1,537)(1,130)
Cash dividends paid to stockholders(9,964)(9,910)
Net cash used in financing activities(11,942)(13,911)
Net increase in cash, cash equivalents and restricted cash20,185 34,228 
Cash, cash equivalents and restricted cash, beginning of period82,288 44,373 
Cash, cash equivalents and restricted cash, end of period$102,473 $78,601 

The accompanying notes are an integral part of these consolidated financial statements.

- 4 -


AAON, Inc. and Subsidiaries
Notes to the Consolidated Financial Statements
(Unaudited)


1. General

Basis of Presentation
 
The accompanying unaudited consolidated financial statements of AAON, Inc., a Nevada corporation, and our operating subsidiaries, all of which are wholly-owned, (collectively, the “Company”) have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial information and with the rules and regulations of the Securities and Exchange Commission (“SEC”).

Our financial statements consolidate all of our affiliated entities in which we have a controlling financial interest. Because we hold certain rights that give us the power to direct the activities of two variable interest entities ("VIEs") (Note 14) that most significantly impact the VIEs economic performance, combined with a variable interest that gives us the right to receive potentially significant benefits or the obligation to absorb potentially significant losses, we have a controlling financial interest in those VIEs.

These financial statements have not been audited by the Company's independent registered public accounting firm, except that the consolidated balance sheet at December 31, 2020 is derived from audited consolidated financial statements. Accordingly, they do not include all of the information and notes required by U.S. GAAP for complete financial statements. The financial statements reflect all adjustments (all of which are of a normal recurring nature) which are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented. Interim results are not necessarily indicative of the results that may be expected for a full year. Certain disclosures have been condensed in or omitted from these consolidated financial statements. The accompanying unaudited financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2020. All intercompany balances and transactions have been eliminated in consolidation.
 
We are engaged in the engineering, manufacturing, marketing, and sale of air conditioning and heating equipment consisting of standard, semi-custom and custom rooftop units, chillers, packaged outdoor mechanical rooms, air handling units, makeup air units, energy recovery units, condensing units, geothermal/water-source heat pumps, coils, and controls.
 
Use of Estimates
 
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Because these estimates and assumptions require significant judgment, actual results could differ from those estimates and could have a significant impact on our results of operations, financial position and cash flows. We reevaluate our estimates and assumptions as needed, but at a minimum on a quarterly basis. The most significant estimates include, but are not limited to, inventory reserves, warranty accrual, worker's compensation accrual, medical insurance accrual, income taxes and share-based compensation. Actual results could differ materially from those estimates.

Impact of February 2021 Weather

In February 2021, record-breaking winter storms affected Oklahoma and Texas, causing sustained below freezing temperatures, hazardous driving conditions, rolling blackouts, water main breaks, and a host of other weather related issues. In addition to significant absenteeism as a result of employees being unable to travel to and from work due to inadequate transportation and/or hazardous road conditions, the Company made the decision to shut down the Tulsa, OK and Longview, TX plants for several days. This decision was based on the expected employee absenteeism as well as the expected rolling blackouts caused by the increased demand on the electrical and natural gas power grids. Although we lost several production days in mid-February 2021, we do not believe that the impact of this weather event had a material adverse effect on the results of our operations, financial position and cash flows as of and for the year ending December 31, 2021.


- 5 -


Impact of COVID-19 Pandemic

In March 2020, the World Health Organization characterized the coronavirus ("COVID-19") a pandemic, and the President of the United States declared the COVID-19 outbreak a national emergency. The rapid spread of the pandemic and the continuously evolving responses to combat it have had an increasingly negative impact on the global economy.

Our manufacturing operations are considered a critical infrastructure industry, as defined by the U.S. Department of Homeland Security, as such, the decrees issued by national, state, and local governments in response to the COVID-19 pandemic have had minimal impact on our operations except for higher employee absenteeism, mostly in June 2020, in our manufacturing facilities. Our Longview, TX facility suffered from COVID-19 related absenteeism in the quarter ending September 30, 2021, which reduced the production of coils that were needed to complete units at our Tulsa, OK facility. We maintained continuous operations during the nine months ended September 30, 2021, except for planned maintenance in January and the weather related shutdown in February 2021. For the most part, our workers are able to socially distance themselves during the manufacturing process. Additional precautions have been taken to social distance workers that work in close environments and we have facilitated voluntary on-site COVID-19 vaccine clinics. The Company utilizes sanitation stations and performs additional cleaning and sanitation throughout the day.

We witnessed increases in some of our raw material prices, especially in copper and steel, which appear to be an impact of COVID-19, and have put in place price increases in our products and continue to make strategic purchases of materials when we see opportunities. Although, we have experienced some supply chain challenges, due to our strong vendor relationships as well as our favorable liquidity position, we have experienced minimal disruption to our supply chain due to COVID-19. We anticipate that the average cost of raw materials and certain components purchased, including the impact of rising inflation and tariffs, for the remainder of 2021 will be higher than the costs experienced during the year ended December 31, 2020.

The magnitude of the impact of COVID-19 remains unpredictable and we, therefore, continue to anticipate potential supply chain disruptions, some employee absenteeism, and additional health and safety costs related to the COVID-19 pandemic that could unfavorably impact our business. While our supply chain disruptions to date have been minimal and intermittent, they have impacted the production process which creates inefficiencies and can deteriorate our profit margins.

Additionally, we continue to experience challenges in a tight labor market, especially the hiring of both skilled and unskilled production labor. In July 2021, we increased starting wages for our production workforce by 7.0%. We also have put a cost of living increase of 3.5% in place in October for all employees below the Director level. We will continue to implement human resource initiatives to retain and attract labor to further improve productivity and production efficiencies.

Because we have managed to maintain almost continuous operations with reasonable lead times through 2020 and 2021, our order intake is strong and has increased throughout 2021 as the economy has opened back up and COVID-19 restrictions have lessened. We expect to increase our production for the remainder of 2021 and into 2022.

We do not believe that the impact of the COVID-19 pandemic will have a material adverse effect on the results of our operations, financial position and cash flows as of and for the year ended December 31, 2021. However, we are continually monitoring the progression of the COVID-19 pandemic, including the recent Delta variant, and its potential effects on our financial position, results of operations, and cash flows.
 
Accounting Policies
 
A comprehensive discussion of our critical accounting policies and management estimates is included in Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2020.

Fair Value Measurements

We adopted ASU No. 2018-13, Fair Value Measurements (Topic 820), as amended, as of January 1, 2020. The ASU includes additional disclosure requirements for unrealized gains and losses for Level 3 fair value measurements and significant observable inputs used to develop Level 3 fair value measurements. There was not a material impact to financial statements upon adoption. Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. Fair value is based upon assumptions that market participants would use when pricing an asset or liability. We use the following fair value hierarchy, which prioritizes valuation technique inputs used to measure fair value into three broad levels:


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Level 1: Quoted prices in active markets for identical assets and liabilities that we have the ability to access at the measurement date.
Level 2: Inputs (other than quoted prices included within Level 1) that are either directly or indirectly observable for the asset or liability, including (i) quoted prices for similar assets or liabilities in active markets, (ii) quoted prices for identical or similar assets or liabilities in inactive markets, (iii) inputs other than quoted prices that are observable for the asset or liability, and (iv) inputs that are derived from observable market data by correlation or other means.
Level 3: Unobservable inputs for the asset or liability including situations where there is little, if any, market activity for the asset or liability. Items categorized in Level 3 include the estimated fair values of property, plant and equipment, intangible assets, and goodwill acquired in a business combination.

The fair value hierarchy gives the highest priority to quoted prices in active markets (Level 1) and the lowest priority to unobservable inputs (Level 3). In some cases, the inputs used to measure fair value might fall into different levels of the fair value hierarchy. The lowest level input that is significant to a fair value measurement determines the applicable level in the fair value hierarchy. Assessing the significance of a particular input to a fair value measurement requires judgment, considering factors specific to the asset or liability.

Intangible Assets

Our intangible assets include various trademarks, service marks and technical knowledge acquired in our February 2018 business combination. We amortize our intangible assets on a straight-line basis over the estimated useful lives of the assets. We evaluate the carrying value of our amortizable intangible assets for potential impairment when events and circumstances warrant such a review. As of March 31, 2021, our intangible assets were fully amortized. As of December 31, 2020, our intangible assets, net of amortization, were approximately $38 thousand. The amount of amortization was $58 thousand for the three months ended September 30, 2020 and $38 thousand and $175 thousand for the nine months ended September 30, 2021 and 2020, respectively.

Goodwill

Goodwill represents the excess of the consideration paid for the acquired business, in our February 2018 business combination, over the fair value of the individual assets acquired, net of liabilities assumed.  Goodwill at September 30, 2021 is deductible for income tax purposes. Goodwill is not amortized, but instead is evaluated for impairment at least annually. We perform our annual assessment of impairment during the fourth quarter of our fiscal year, and more frequently if circumstances warrant. As of September 30, 2021 and December 31, 2020, our goodwill was approximately $3.2 million.

Recent Accounting Pronouncements

Changes to U.S. GAAP are established by the Financial Accounting Standards Board ("FASB") in the form of Accounting Standards Updates ("ASUs") to the FASB's Accounting Standards Codification ("ASC"). We consider the applicability and impact of all ASUs. ASUs were assessed and determined to be either not applicable or are expected to have minimal impact on our consolidated financial statements and notes thereto.



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2.  Revenue Recognition
 
Disaggregated net sales by major source:

Three Months EndedNine Months Ended
September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
(in thousands)
Rooftop units$103,900 $102,750 $298,695 $312,725 
Condensing units6,797 6,304 20,630 15,307 
Air handlers6,279 5,805 19,958 18,068 
Outdoor mechanical rooms208 867 1,183 2,216 
Water source heat pumps5,215 6,770 16,305 14,269 
Part sales12,102 10,484 30,325 24,562 
Other4,070 1,792 11,139 10,704 
Net Sales
$138,571 $134,772 $398,235 $397,851 

Disaggregated units sold by major source:
Three Months EndedNine Months Ended
September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Rooftop units3,746 4,372 11,362 12,179 
Condensing units560 593 1,696 1,447 
Air handlers646 534 1,846 1,545 
Outdoor mechanical rooms2 6 22 22 
Water source heat pumps1,576 1,847 5,108 5,109 
Total Units
6,530 7,352 20,034 20,302 

The Company recognizes revenue, presented net of sales tax, when it satisfies the performance obligation in its contracts. The primary performance obligation in our contract is delivery of the requested manufactured equipment. Most of the Company’s products are highly customized, cannot be resold to other customers and the cost of rework to be resold is not economical. The Company has a formal cancellation policy and generally does not accept returns on these units. As a result, many of the Company’s products do not have an alternative use and therefore, for these products we recognize revenue over the time it takes to produce the unit. For all other products that are part sales or standardized units, we satisfy the performance obligation when the control is passed to the customer, generally at time of shipment. Final sales prices are fixed based on purchase orders. Sales allowances and customer incentives are treated as reductions to sales and are provided for based on historical experiences and current estimates. Sales of our products are moderately seasonal with the peak period being May-October of each year.

We are responsible for billings and collections resulting from all sales transactions, most of which are initiated by our independent manufacturer representatives (“Representatives”). Representatives are national companies that are in the business of providing heating, ventilation, and air conditioning ("HVAC") units and other related products and services to customers. The end user customer orders a bundled group of products and services from the Representative and expects the Representative to fulfill the order. These additional products and services may include, without limitation, controls purchased from another manufacturer to operate the unit, start-up services, and curbs for supporting the unit (“Third Party Products”). All of these items are associated with the purchase of a HVAC unit but may be provided by the Representative or another third party. Only after the specifications are agreed to by the Representative and the customer, and the decision is made to use an AAON HVAC unit, will we receive notice of the order. We establish the amount we must receive for our HVAC unit (“minimum sales price”), but do not control the total order price that is negotiated by the Representative with the end user customer. The Representatives submit the total order price to us for invoicing and collection. The total order price includes our minimum sales price and an additional amount which may include both the Representatives’ fee and amounts due for additional products and services required by the customer. The Company is considered the principal for the equipment we design and manufacture and records that revenue. The Company has no control over the Third Party Products to the end customer and the Company is under no

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obligation related to the Third Party Products. Amounts related to Third Party Products are not recognized as revenue but are recorded as a liability and are included in accrued liabilities on the consolidated balance sheet.

The Representatives’ fee and Third Party Products amounts (“Due to Representatives”) are paid only after all amounts associated with the order are collected from the customer. The amount of payments to our Representatives were $9.5 million and $11.5 million for the three months ended September 30, 2021 and 2020, respectively. The amount of payments to our Representatives were $34.5 million and $39.0 million for the nine months ended September 30, 2021 and 2020, respectively.

The Company also sells extended warranties on parts for various lengths of time ranging from six months to 10 years. Revenue for these separately priced warranties is deferred and recognized on a straight-line basis over the separately priced warranty period.
 

3.  Accounts Receivable

Accounts receivable and the related allowance for credit losses are as follows:
 
 September 30,
2021
December 31, 2020
 (in thousands)
Accounts receivable$59,233 $47,893 
Less:  Allowance for credit losses(477)(506)
Total, net
$58,756 $47,387 

 
 Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Allowance for credit losses:(in thousands)
Balance, beginning of period$518 $429 $506 $353 
Provisions (recoveries) for expected credit(12)117  193 
losses, net of adjustments
Accounts receivable written off, net of recoveries
(29) (29) 
Balance, end of period$477 $546 $477 $546 
 

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4.  Inventories

Inventories are valued at the lower of cost or net realizable value. Cost is determined by the first-in, first-out (“FIFO”) method. We establish an allowance for excess and obsolete inventories based on product line changes, the feasibility of substituting parts and the need for supply and replacement parts.

The components of inventories and related changes in the allowance for excess and obsolete inventories account are as follows:

 September 30,
2021
December 31, 2020
 (in thousands)
Raw materials$97,167 $76,238 
Work in process4,749 2,088 
Finished goods4,929 7,154 
Total, gross
106,845 85,480 
Less:  Allowance for excess and obsolete inventories(2,292)(3,261)
Total, net
$104,553 $82,219 

  Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Allowance for excess and obsolete inventories:(in thousands)
Balance, beginning of period$2,726 $2,373 $3,261 $2,644 
Provisions for excess and obsolete86 1,969 378 1,776 
     inventories
Inventories written off(520)(230)(1,347)(308)
Balance, end of period$2,292 $4,112 $2,292 $4,112 


5.  Supplemental Cash Flow Information

 
 Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Supplemental disclosures:(in thousands)
Income taxes paid$3,167 $1,841 $5,909 $11,576 
Non-cash investing and financing activities:  
Non-cash capital expenditures1
$(1,052)$(4,421)$(2,897)$625 
1 Includes non-cash changes in accrued capital expenditures
 

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6.  Warranties

The Company has product warranties with various terms ranging from one year from the date of first use or 18 months for parts to 25 years for certain heat exchangers. The Company has an obligation to replace parts if conditions under the warranty are met. A provision is made for estimated warranty costs at the time the related products are sold based upon the warranty period, historical trends, new products, and any known identifiable warranty issues.  

Changes in the warranty accrual are as follows:
 Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Warranty accrual:(in thousands)
Balance, beginning of period$14,008 $13,160 $13,522 $12,652 
Payments made(1,825)(1,687)(4,834)(4,481)
Provisions1,272 2,054 4,767 5,356 
Balance, end of period$13,455 $13,527 $13,455 $13,527 
Warranty expense:$1,272 $2,054 $4,767 $5,356 
 

7.  Accrued Liabilities

Accrued liabilities were comprised of the following:
 September 30,
2021
December 31, 2020
 (in thousands)
Warranty$13,455 $13,522 
Due to representatives8,006 8,296 
Payroll8,770 8,155 
Profit sharing2,360 2,902 
Worker's compensation303 594 
Medical self-insurance1,574 1,546 
Customer prepayments5,296 5,067 
Donations370 570 
Employee vacation time3,747 3,321 
Other4,385 2,613 
Total
$48,266 $46,586 
 

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8.  Revolving Credit Facility

On July 26, 2021, the Company entered into a new revolving credit facility which provides for maximum borrowings of $30.0 million. Under the line of credit, there is one standby letter of credit totaling $1.8 million. Borrowings available under the revolving credit facility at September 30, 2021 were $28.2 million. Interest on borrowings is payable monthly at LIBOR plus 2.0%. The new revolving credit facility includes fallback language clearly defining an alternative reference rate which provides for specified replacement rates, as defined in the revolving credit facility agreement, upon a LIBOR cessation event. At the time of a LIBOR cessation event, the replacement rate self-executes without the need for negotiations or a formal amendment process. No fees are associated with the unused portion of the committed amount. The revolving credit facility expires on July 26, 2024.

We had no outstanding balance under our revolving credit facility at September 30, 2021 and December 31, 2020.

As of September 30, 2021, we were in compliance with our financial covenants related to the new revolving credit facility. These financial covenants require that we meet certain parameters related to our consolidated leverage ratio and our consolidated total liabilities to tangible net worth ratio. At September 30, 2021, our consolidated leverage ratio was 0.02 to 1 and met the requirement of being less than 2 to 1. Our consolidated total liabilities to tangible net worth ratio was 0.3 to 1, and met the requirement of being less than 2 to 1.


9.  Income Taxes

The provision (benefit) for income taxes consists of the following:

 Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
 (in thousands)
Current$4,508 $3,081 $8,498 $8,435 
Deferred19 2,615 2,766 7,676 
     Income tax provision$4,527 $5,696 $11,264 $16,111 

The provision for income taxes differs from the amount computed by applying the Federal statutory income tax rate before the provision for income taxes.

The reconciliation of the Federal statutory income tax rate to the effective income tax rate is as follows:

 Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Federal statutory rate21.0 %21.0 %21.0 %21.0 %
State income taxes, net of Federal benefit3.4 2.3 3.0 4.0 
Excess tax benefits(2.2)(2.3)(6.0)(3.3)
Return to provision adjustments0.6 0.5  0.2 
Other(0.3)0.3 (0.4)(0.8)
     Effective tax rate22.5 %21.8 %17.6 %21.1 %
On May 21, 2021, the State of Oklahoma enacted House Bill 2960, effectively reducing the corporate income tax rate in Oklahoma from 6% to 4%. As a result of these changes, the Company adjusted its state deferred tax assets and liabilities in the second quarter of 2021 using the newly enacted rate for the periods when they are expected to be realized. This resulted in a benefit of $0.8 million included in the table above under State income taxes, net of Federal benefit, for the nine months ended September 30, 2021.

During the nine months ended September 30, 2021, the Company recorded an excess tax benefit of $3.8 million as compared to $2.5 million during the same period in 2020, an increase of 54%. The increase was primarily due to timing of stock option exercises as a result of our high stock price during the three months ended March 31, 2021.

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We earn investment tax credits from the state of Oklahoma’s manufacturing property investment program. We use the flow-through method to account for investment tax credits earned on eligible tangible asset expenditures. Under this method, the investment tax credits are recognized as a reduction to our Oklahoma income tax expense in the year they are used. As of September 30, 2021, we have investment tax credit carryforwards of approximately $3.7 million. These credits have estimated expirations ranging from the year 2036 through 2040.

The Company's estimated annual 2021 effective tax rate, excluding discrete events, is approximately 25%. We file income tax returns in the U.S., as well as various state and foreign income tax returns jurisdictions. We are subject to U.S. income tax examinations for tax years 2017 to present, and to non-U.S. income tax examinations for the tax years 2016 to present. In addition, we are subject to state and local income tax examinations for the tax years 2016 to present. The Company continues to evaluate its need to file returns in various state jurisdictions. Any interest or penalties would be recognized as a component of income tax expense.

Coronavirus Aid, Relief, and Economic Security Act

The Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was enacted on March 27, 2020, and includes a retroactive correction to the 2017 Tax Cuts and Jobs Act that allows for much faster depreciation of qualified improvement property that is placed in service after December 31, 2017. Under current rules, the calculation of depreciation or repair deductions for prior years can be recomputed and a one-time catch-up adjustment is allowed in the current tax year for missed deductions. The adjustment is the difference between depreciation or repair deductions claimed versus depreciation or repair deductions that could have been claimed by the end of the prior tax year and does not require amending any prior year tax returns. The Company completed the prior year adjustment and the current-year catch up with the 2019 tax return as filed in the fourth quarter of 2020 resulting in a increase to our deferred tax liability of $4.7 million. For tax years 2020 and forward, the Company includes this treatment for our qualified property placed in service.

American Rescue Plan Act

On March 11, 2021, the American Rescue Plan Act (the “ARPA”) was enacted and signed into law. The ARPA is an economic stimulus package in response to the COVID-19 pandemic, which contains tax provisions that did not have a material impact to our consolidated financial statements. In accordance with accounting standards for income taxes, the impact of this new tax legislation was taken into account in the first quarter of 2021, the period in which it was enacted.


10. Share-Based Compensation

On May 22, 2007, our stockholders adopted a Long-Term Incentive Plan (“LTIP”) which provided an additional 3.3 million shares that could be granted in the form of stock options, stock appreciation rights, restricted stock awards, performance units and performance awards, in addition to the shares from the previous plan, the 1992 Plan. Under the LTIP, the exercise price of shares granted could not be less than 100% of the fair market value at the date of the grant.

On May 24, 2016, our stockholders adopted the 2016 Long-Term Incentive Plan (as amended, the "2016 Plan") which provides for approximately 8.9 million shares, comprised of 3.4 million new shares provided for under the 2016 Plan, approximately 0.4 million shares that were available for issuance under the previous LTIP that are now authorized for issuance under the 2016 Plan, approximately 2.6 million shares that were approved by the stockholders on May 15, 2018, and an additional 2.5 million shares that were approved by the stockholders on May 12, 2020. Under the 2016 Plan, shares can be granted in the form of stock options, stock appreciation rights, restricted stock awards, performance awards, dividend equivalent rights, and other awards. Under the 2016 Plan, the exercise price of shares granted may not be less than 100% of the fair market value at the date of the grant. The 2016 Plan is administered by the Compensation Committee of the Board of Directors or such other committee of the Board of Directors as is designated by the Board of Directors (the “Committee”). Membership on the Committee is limited to independent directors. The Committee determines the persons to whom awards are to be made, the type, size and terms of awards, interprets the 2016 Plan, establishes and revises rules and regulations relating to the 2016 Plan and makes any other determinations that it believes necessary for the administration of the 2016 Plan. The Committee may delegate certain duties to one or more officers of the Company as provided in the 2016 Plan.


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Options

The total pre-tax compensation cost related to unvested stock options not yet recognized as of September 30, 2021 is $19.5 million and is expected to be recognized over a weighted average period of approximately 2.5 years.

The following weighted average assumptions were used to determine the fair value of the stock options granted on the original grant date for expense recognition purposes for options granted during the nine months ended September 30, 2021 and 2020 using a Black Scholes-Merton Model:
 Nine months ended
 September 30, 2021September 30, 2020
Directors and SLT1:
  
Expected dividend rate$0.38$0.33
Expected volatility35.78%31.63%
Risk-free interest rate0.51%0.64%
Expected life (in years)4.05.0
Employees:  
Expected dividend rate$0.38$0.32
Expected volatility38.69%31.31%
Risk-free interest rate0.30%0.68%
Expected life (in years)3.05.0
1 Senior Leadership Team ("SLT") consists of officers and key members of management.
 
The expected term of the options is based on evaluations of historical and expected future employee exercise behavior. The risk-free interest rate is based on the U.S. Treasury rates at the date of grant with maturity dates approximately equal to the expected life at the grant date. Volatility is based on historical volatility of our stock over time periods equal to the expected life at grant date.
 
The following is a summary of stock options vested and exercisable as of September 30, 2021:

 
Range of
Exercise
Prices
Number
of
Shares
Weighted
Average
Remaining
Contractual Life
(in years)
Weighted
Average
Exercise
Price
Intrinsic
Value
(in thousands)
$8.17 -$40.87 593,901 4.88$30.33 $20,790 
$41.37 -$41.37 415,541 6.7241.37 9,961 
$42.42 -$73.36 139,605 8.3645.08 2,828 
Total1,149,047 5.97$36.12 $33,579 
 
The following is a summary of stock options vested and exercisable as of September 30, 2020:
Range of
Exercise
Prices
Number
of
Shares
Weighted
Average
Remaining
Contractual Life
(in years)
Weighted
Average
Exercise
Price
Intrinsic
Value
(in thousands)
$7.18 -$36.95 526,235 5.51$28.03 $16,957 
$37.00 -$40.87 1,978 7.3438.50 43 
$41.37 -$60.32 210,496 8.1941.53 3,940 
Total738,709 6.28$31.90 $20,940 

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A summary of stock option activity under the plans is as follows:

Stock OptionsSharesWeighted
Average
Exercise
Price
Outstanding at December 31, 2020
3,752,945 $39.00 
Granted
360,980 72.93 
Exercised
(412,284)35.35 
Forfeited or Expired
(140,077)48.51 
Outstanding at September 30, 2021
3,561,564 $42.49 
Exercisable at September 30, 2021
1,149,047 $36.12 
 
The total intrinsic value of options exercised during the nine months ended September 30, 2021 and 2020 was $15.1 million and $12.1 million, respectively. The cash received from options exercised during the nine months ended September 30, 2021 and 2020 was $14.6 million and $18.5 million, respectively. The impact of these cash receipts is included in financing activities in the accompanying Consolidated Statements of Cash Flows.

Performance Awards

We have awarded performance restricted stock units ("PSUs") to certain officers and key employees under our 2016 Plan. Unlike our restricted stock awards, these PSUs are not considered legally outstanding and do not accrue dividends during the vesting period. These PSUs vest based on the level of achievement with respect to the Company's three year total shareholder return ("TSR") benchmarked against similar companies included in the capital goods sector of the S&P SmallCap 600 Index. The TSR measurement period is the three years ending December 31, 2023. At the end of the measurement period, each award will be converted into common stock at 0% to 200% of the PSUs held, depending on overall TSR as compared to the S&P SmallCap 600 Index benchmark companies.

The total pre-tax compensation cost related to unvested PSUs not yet recognized as of September 30, 2021 is $1.1 million and is expected to be recognized over a weighted average period of approximately 2.2 years.

The following weighted average assumptions were used to determine the fair value of the PSUs granted on the original grant date for expense recognition purposes for PSUs granted during the nine months ended September 30, 2021 using a Monte Carlo Model:
 Nine months ended
 September 30, 2021
Expected dividend rate$0.38
Expected volatility39.10%
Risk-free interest rate0.28%
Expected life (in years)2.60
 
The expected term of the PSUs is based on the remaining performance period ending December 31, 2023. The risk-free interest rate is based on the U.S. Treasury rates at the date of grant with maturity dates approximately equal to the expected life at the grant date. Volatility is based on historical volatility of our stock over time periods equal to the expected life at grant date.


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A summary of the unvested PSUs is as follows:
SharesWeighted
Average
Grant Date
Fair Value
Unvested at December 31, 2020
 $ 
Granted
18,483 87.78 
Vested
  
Forfeited
(1,632)87.78 
Unvested at September 30, 2021
16,851 $87.78 


Restricted Stock

The fair value of restricted stock awards is based on the fair market value of AAON, Inc. common stock on the respective grant dates, reduced for the present value of dividends. At September 30, 2021, unrecognized compensation cost related to unvested restricted stock awards was approximately $4.8 million, which is expected to be recognized over a weighted average period of approximately 2.3 years.

A summary of the unvested restricted stock awards is as follows:

SharesWeighted
Average
Grant Date
Fair Value
Unvested at December 31, 2020
224,691 $38.22 
Granted
32,600 69.12 
Vested
(89,523)35.85 
Forfeited
(7,051)49.81 
Unvested at September 30, 2021
160,717 $45.29 

Share-Based Compensation

A summary of share-based compensation is as follows:

Three Months EndedNine Months Ended
 September 30,
2021
September 30,
2020
September 30,
2021
September 30,
2020
Grant date fair value of awards during the period:(in thousands)
Options$152 $258 $6,870 $12,332 
Performance awards32  1,622  
Restricted stock80  2,253 3,316 
Total$264 $258 $10,745 $15,648 
Share-based compensation expense:
Options$2,167 $2,208 $6,594 $6,136 
Performance awards166  355  
Restricted stock658 644 1,835 2,410 
Total$2,991 $