UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31 , 2022
Commission File number 1-7283
(Exact Name of Registrant as Specified in Its Charter)
| (State of Incorporation) | (IRS Employer Identification No.) | ||||
(Address of principal executive offices)
(608 ) 364-8800
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
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| Title of Each Class | Which Registered | |||||||
| Securities registered pursuant to Section 12 (g) of the Act | None (Title of Class) | |||||||
Indicate by check mark if the registrant is well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☒ No ☐
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes ☐ No ☒
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 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 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 the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act:
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| Non-accelerated filer | ☐ | Smaller 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 has filed a report on and attestation to its management's assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report. Yes ☒ No ☐
If securities are registered pursuant to Section 12(b) of the Act, indicate by check mark whether the financial statements of the registrant included in the filing reflect the correction of an error to previously issued financial statements. ☐
Indicate by check mark whether any of those error corrections are restatements that required a recovery analysis of incentive-based compensation received by any of the registrant’s executive officers during the relevant recovery period pursuant to §240.10D-1(b). ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☒
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The aggregate market value of the voting stock held by non-affiliates of the registrant as of June 30, 2022 was approximately $7.5 billion.
On February 22, 2023, the registrant had outstanding 66,231,072 shares of common stock, $0.01 par value, which is registrant's only class of common stock.
DOCUMENTS INCORPORATED BY REFERENCE
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REGAL REXNORD CORPORATION
ANNUAL REPORT ON FORM 10-K
FOR YEAR ENDED DECEMBER 31, 2022
TABLE OF CONTENTS
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| PART I | ||||||||
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| Item 1B | ||||||||
| Item 2 | ||||||||
| Item 3 | ||||||||
| Item 4 | ||||||||
| PART II | ||||||||
| Item 5 | ||||||||
| Item 6 | ||||||||
| Item 7 | ||||||||
| Item 7A | ||||||||
| Item 8 | ||||||||
| Item 9 | ||||||||
| Item 9A | ||||||||
| Item 9B | ||||||||
| Item 9C | ||||||||
| PART III | ||||||||
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| Item 10 | ||||||||
| Item 11 | ||||||||
| Item 12 | ||||||||
| Item 13 | ||||||||
| Item 14 | ||||||||
| PART IV | ||||||||
| Item 15 | ||||||||
| Item 16 | ||||||||
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CAUTIONARY STATEMENT
This report contains forward-looking statements, within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, which reflect the Company’s current estimates, expectations and projections about the Company’s future results, performance, prospects and opportunities. Such forward-looking statements may include, among other things, statements about the proposed acquisition of Altra Industrial Motion Corp. (“Altra”), the benefits and synergies of the proposed acquisition of Altra (the “Altra Transaction”), future opportunities for the Company and the combined company, and any other statements regarding the Company’s, Altra’s and the combined company’s future operations, anticipated economic activity, business levels, credit ratings, future earnings, planned activities, anticipated growth, market opportunities, strategies, competition and other expectations and estimates for future periods. Forward-looking statements include statements that are not historical facts and can be identified by forward-looking words such as “anticipate,” “believe,” “confident,” “estimate,” “expect,” “intend,” “plan,” “may,” “will,” “would,” “project,” “forecast,” “would,” “could,” “should,” and similar expressions. These forward-looking statements are based upon information currently available to the Company and are subject to a number of risks, uncertainties, and other factors that could cause the performance, prospects, or opportunities to differ materially from those expressed in, or implied by, these forward-looking statements. Important factors that could cause actual results to differ materially from the results referred to in the forward-looking statements the Company makes in this report include:
•the possibility that the conditions to the consummation of the Altra Transaction will not be satisfied on the terms or timeline expected, or at all;
•failure to obtain, or delays in obtaining, or adverse conditions related to obtaining, regulatory approvals sought in connection with the Altra Transaction;
•the Company’s substantial indebtedness as a result of the Altra Transaction and the effects of such indebtedness on the combined company’s financial flexibility after the Altra Transaction; the Company’s ability to achieve its objectives on reducing its indebtedness on the desired timeline;
•the possibility that the pendency of the Altra Transaction could materially and adversely affect our and Altra's business, financial condition, results of operations or cash flows;
•dependence on key suppliers and the potential effects of supply disruptions;
•fluctuations in commodity prices and raw material costs;
•any unforeseen changes to or the effects on liabilities, future capital expenditures, revenue, expenses, synergies, indebtedness, financial condition, losses and future prospects;
•the possibility that the Company may be unable to achieve expected benefits, synergies and operating efficiencies in connection with the Altra Transaction and the merger with the Rexnord Process & Motion Control business (the “Rexnord PMC business”) within the expected time-frames or at all and to successfully integrate Altra and the Rexnord PMC business;
•expected or targeted future financial and operating performance and results;
•operating costs, customer loss and business disruption (including, without limitation, difficulties in maintaining relationships with employees, customers, clients or suppliers) being greater than expected following the Altra Transaction or our merger with the Rexnord PMC business;
•the Company's ability to retain key executives and employees;
•the continued financial and operational impacts of and uncertainties relating to the COVID-19 pandemic on customers and suppliers and the geographies in which they operate;
•uncertainties regarding the ability to execute restructuring plans within expected costs and timing;
•challenges to the tax treatment that was elected with respect to the merger with the Rexnord PMC business and related transactions;
•requirements to abide by potentially significant restrictions with respect to the tax treatment of the merger with the Rexnord PMC business, which could limit the Company’s ability to undertake certain corporate actions that otherwise could be advantageous;
•actions taken by competitors and their ability to effectively compete in the increasingly competitive global electric motor, drives and controls, power generation and power transmission industries;
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•the ability to develop new products based on technological innovation, such as the Internet of Things, and marketplace acceptance of new and existing products, including products related to technology not yet adopted or utilized in geographic locations in which the Company does business;
•dependence on significant customers;
•seasonal impact on sales of products into HVAC systems and other residential applications;
•risks associated with climate change and uncertainty regarding our ability to deliver on our climate commitments and/or to meet related investor, customer and other third party expectations relating to our sustainability efforts;
•risks associated with global manufacturing, including risks associated with public health crises and political, societal or economic instability, including instability caused by the conflict between Russia and Ukraine;
•issues and costs arising from the integration of acquired companies and businesses and the timing and impact of purchase accounting adjustments;
•prolonged declines in one or more markets, such as heating, ventilation, air conditioning, refrigeration, power generation, oil and gas, unit material handling, water heating and aerospace;
•economic changes in global markets, such as reduced demand for products, currency exchange rates, inflation rates, interest rates, recession, government policies, including policy changes affecting taxation, trade, tariffs, immigration, customs, border actions and the like, and other external factors that the Company cannot control;
•product liability, asbestos and other litigation, or claims by end users, government agencies or others that products or customers' applications failed to perform as anticipated, particularly in high volume applications or where such failures are alleged to be the cause of property or casualty claims;
•unanticipated liabilities of acquired businesses;
•unanticipated adverse effects or liabilities from business exits or divestitures, including in connection with our evaluation of strategic alternatives for the global motors and generators portion of our Industrial Systems operating segment;
•the Company's ability to identify and execute on future M&A opportunities, including significant M&A transactions;
•the impact of any such M&A transactions on the Company's results, operations and financial condition, including the impact from costs to execute and finance any such transactions;
•unanticipated costs or expenses that may be incurred related to product warranty issues;
•infringement of intellectual property by third parties, challenges to intellectual property and claims of infringement on third party technologies;
•effects on earnings of any significant impairment of goodwill;
•losses from failures, breaches, attacks or disclosures involving information technology infrastructure and data;
•costs and unanticipated liabilities arising from rapidly evolving data privacy laws and regulations;
•cyclical downturns affecting the global market for capital goods;
and other risks and uncertainties including, but not limited, to those described in this Annual Report on Form 10-K and from time to time in other filed reports including the Company’s Quarterly Reports on Form 10-Q. For a more detailed description of the risk factors associated with the Company, please refer to Part I - Item 1A - Risk Factors in this Annual Report on Form 10-K and subsequent SEC filings. Shareholders, potential investors, and other readers are urged to consider these factors in evaluating the forward-looking statements and are cautioned not to place undue reliance on such forward-looking statements. The forward-looking statements included in this report are made only as of the date of this report, and the Company undertakes no obligation to update any forward-looking information contained in this report to reflect subsequent events or circumstances.
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PART I
Unless the context requires otherwise, references in this Annual Report on Form 10-K to “we,” “us,” “our” or the “Company” refer collectively to Regal Rexnord Corporation and its subsidiaries.
References in an Item of this Annual Report on Form 10-K to information contained in the 2023 Proxy Statement, or to information contained in specific sections of the 2023 Proxy Statement, incorporate the information into that Item by reference.
Effective for fiscal year 2022, we approved a change in the fiscal year end from a 52/53 week fiscal year ending on the Saturday closest to December 31. We refer to the fiscal year ended December 31, 2022 as “fiscal 2022", the fiscal year ended January 1, 2022 as “fiscal 2021" and the fiscal year ended January 2, 2021 as “fiscal 2020".
ITEM 1 - BUSINESS
Our Company
Regal Rexnord Corporation (NYSE: RRX) is a global leader in the engineering and manufacturing of industrial powertrain solutions, power transmission components, electric motors and electronic controls, air moving products and specialty electrical components and systems, serving customers around the world. Through longstanding technology leadership and an intentional focus on producing more energy-efficient products and systems, we help create a better tomorrow – for our customers and for the planet. We are headquartered in Beloit, Wisconsin and have manufacturing, sales and service facilities worldwide.
We are organized in four operating segments: Commercial Systems, Industrial Systems, Climate Solutions and Motion Control Solutions.
Commercial Systems Segment
Our Commercial Systems segment designs and produces primarily:
•AC and DC motors from fractional to approximately 5 horsepower, electronic variable speed controls, fans and blowers for commercial applications. These products are sold directly to original equipment manufacturers ("OEMs") and end-user customers through our distribution network and our network of direct and independent sales representatives. Typical applications include commercial building ventilation and HVAC, fan, blower and compressor motors, fans, blowers, water pumps for pools, spas, irrigation, and dewatering, and general commercial equipment. Our customers tend to be large and small OEMs and distributors, and their desire for high-quality services and, in many cases, more efficient motor-based solutions is providing us an increasing opportunity to add more value to their applications with energy efficient motor and integrated electronic control solutions.
•Precision stator and rotor kits from 5 to 2,900 horsepower for air conditioning, heat pump and refrigeration compressor applications, which are sold directly to OEM customers.
Industrial Systems Segment
Our Industrial Systems segment designs and produces primarily:
•Integral and large AC motors from approximately 1 to 12,000 horsepower (up to 10,000 volts) for industrial applications, along with aftermarket parts and kits to support such products. These products are sold directly to OEMs and end-user customers through our distribution network and our network of direct and independent sales representatives. Our manufacturing and selling capabilities extend across the globe, serving four strategic verticals: distribution, pump and compressors, HVAC and air moving, and general industries and large motors. Within these verticals are several end-market applications, including agriculture, marine, mining, oil and gas, petrochemical, pulp and paper, and food and beverage, as well as other process applications.
•Electric alternators for prime and standby power applications from 5 kilowatts through 4 megawatts (in 50 and 60Hz) sold directly to OEMs or through our network of sales representatives. These products can be standard, custom, or engineered solutions that are used in a variety of markets, including data centers, distributed energy, microgrid, rental, marine, agriculture, healthcare, mobile, and defense.
•Low and medium voltage paralleling switchgear, switchboards and control systems for power generation systems. These products are primarily custom engineered designs developed in close collaboration with the customer to develop critical solutions for data centers, healthcare, government and waste water applications.
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•A complete lineup of transfer switches, with standard designs in stock for quick shipment and customized engineered options for specialized requirements. We offer these transfer switch power solutions for residential, commercial, industrial and critical applications from 100 amperes to 4,000 amperes. Aftermarket services are provided for preventative system maintenance and upgrades.
Climate Solutions Segment
Our Climate Solutions segment designs and produces primarily:
•Fractional horsepower motors, electronic variable speed controls and blowers used in a variety of residential and light commercial air moving applications including HVAC systems and commercial refrigeration. These motors and blowers are vital components of an HVAC system and are used to move air into and away from furnaces, heat pumps, air conditioners, ventilators, fan filter boxes and water heaters. A majority of our HVAC motors and blowers, are installed as part of a new HVAC system that replaces an existing HVAC system, or are used in an HVAC system for new home construction. The business enjoys a large installed base of equipment and long-term relationships with its major customers. We also manufacture and supply replacement motors and blowers for these systems once installed. Customers include major HVAC distributors.
•Fractional horsepower motors and blowers are also used across a wide range of other applications including white goods, water heating equipment, small pumps, compressors, and fans, and other small appliances. Demand for these products is driven primarily by consumer and light commercial market segments.
Motion Control Solutions Segment
Our Motion Control Solutions segment designs, produces and services primarily:
•Mounted and unmounted industrial bearings into diverse end markets globally. Our unmounted bearings are offered in a variety of types and styles. These include cam followers, radial bearings, and thrust bearings. Mounted bearings include industry specific designs in a variety of specialized housings that aim to meet unique customer needs. They are all available in a variety of options and sizes and include specialty bearings, mounted bearings, unmounted bearings, and corrosion resistant bearings.
•High-quality conveyor products including engineered steel chains, table top conveying chains, belts, sprockets, components, guide rails and wear strips. Conveying components can enhance system efficiency, reduce noise, support wash-down maintenance, and help lubricate conveying systems. Our products are highly engineered and can meet exact customer specifications. Our conveying equipment product group provides design, assembly, installation and after sales services. Its products included engineered elevators, conveyors and components for medium to heavy duty material handling applications.
•Conveying automation solutions, which serve a variety of material handling and palletization applications. Principal end markets included food and beverage, e-commerce, distribution and parcel. Our products include conveying solutions and components, right-angle transfer modules and customized sub-systems. Along with our product solutions offering, we provide a full suite of service and support solutions that span the equipment lifecycle.
•High-performance disc, gear, grid, elastomeric and torsionally soft couplings for applications that include turbines, pumps, compressors, generators, off-highway equipment and propulsion systems and which are used in many industries including petrochemical, refinery, power generation, marine, wind power construction, agriculture and steel. We also produce transmission elements that include torque limiters, clutches, locking devices and gear spindles.
•Mechanical power transmission drives and components including: belt drives, bushings, industrial chain and sprockets, drive tighteners and idlers, mechanical clutches, torque overload devices and engineered woven metals. Our products serve a wide range of industries and applications, including aggregates, forestry and wood products, grain and biofuels, power generation, food and beverage, consumer products, warehousing and distribution, automotive, commercial HVAC, and refrigeration.
•Gearboxes and gear motors that support motion control within complex equipment and systems that are used in a variety of applications. We provide a wide array of gear types, shaft configurations, ratios, housing materials and mounting methods for heavy, medium and light duty applications. Right angle worm gear can be specified for less than
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100 inch-lbs. of torque to over 132,000 inch-lbs. of torque. Helical and bevel gear units are offered from 100 inch-lbs. to over 7 million inch-lbs. of torque and are available in right angle, inline or parallel shaft configurations. Our products include worm gearing, helical, bevel, helical bevel, worm, hypoid and spur gearing. Our gearing products generally are used to reduce the speed and increase the torque generated by an electric motor or other prime mover in order to meet the operating requirements of a particular piece of equipment.
•Aerospace components are supplied primarily to the commercial and military aircraft end markets for use in door systems, engine accessories, engine controls, engine mounts, flight control systems, gearboxes, landing gear and rotor pitch controls. The majority of our sales are to engine and airframe OEMs that specify our aerospace bearing and mechanical seal products for their aircraft and turbine engine platforms, often based on proprietary designs, capabilities and solutions. We also supply highly specialized gears and related products through our aerospace-focused build-to-print manufacturing operations.
•Our special components products are comprised of electric motor brakes, miniature motion control components and security devices for utility companies. These products are used in a diverse range of applications including steel mills, oil field equipment, large textile machines, rubber mills and dock and pier handling equipment.
•Increasingly, our Motion Controls Solutions business is selling industrial powertrain solutions, comprised of applicable electric motors from our Commercial Systems, Industrial Systems, and Climate Solutions segments, plus the critical power transmission components that connect the motor to the powered equipment, such as a fan in an HVAC system or a conveyor belt in a warehouse. By engineering industrial powertrain components into an integrated sub-system, we can increase the energy efficiency, and enhance the performance of our customers’ products and applications, while making it easier for customers to procure from us.
Strategy
The Company seeks to create value for its key stakeholders – its customers, its shareholders and its associates – by continuing to transform our business into a faster-growing, higher margin, more cash generative and higher return operating company, including by deploying capital towards select and highly synergistic M&A activities. We expect to continue this transformation for many years to come. The primary aspects of our strategy to further our transformation include:
•Leveraging our 80/20 Initiatives to accelerate profitable growth. Our 80/20 initiatives encompass broadly-applicable, data-driven processes used to identify the select inputs that drive a majority of the related outputs, which we often apply to products or customers in order to focus our resources on the most valuable opportunities. Our 80/20 initiatives are embedded in the fabric of everything we do as a company, but particularly in aligning our product and service offerings to what our customers need and value – an alignment we measure on several metrics, but especially on our gross margins.
•Deploying the Regal Rexnord Business System (‘‘RBS’’). RBS is our framework for continuous improvement, and it includes a set of tools, regularly deployed through thousands of targeted, continuous improvement events, or Kaizens, to systematically remove waste, variation and overburden from all our processes. Our disciplined use of RBS, in combination with our 80/20 initiatives, is critical to our strategy for driving profitable growth.
•Raising our exposure to markets with secular growth tailwinds. We are focused on growing our position in prioritized secular growth markets, including some with strong regulatory tailwinds tied to rising energy efficiency requirements. These markets include the food and beverage, alternative energy, aerospace, water, warehouse/eCommerce, pharmaceutical and data center markets. We plan to direct a significant portion of our growth investments to end markets with secular growth characteristics.
•Maintaining a strong portfolio of products and long-standing brands. Many of our products are characterized by technology leadership and reflect the Company’s deep application expertise. We regularly invest in our product portfolio to ensure that we are selling products that our customers value – a strategic directive embodied in our Regal Rexnord value of driving Innovation with Purpose. To this end, we except to double our new product vitality in the medium term with the majority of new product introductions focused on serving secular growth markets, expanding our industrial powertrain offering, supporting rising demand for greater energy efficiency, and/or leveraging digital capabilities to enhance performance.
•Providing a broader offering of increasingly robust sub-systems. One of our key product-related growth initiatives is selling more sub-systems, which integrate multiple products or components into a value-added solution. One of our
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principal strategic initiatives in this regard is selling industrial powertrains, which combine our electric motors with the critical power transmission components that connect the motor to whatever it is powering, sold as a bundled solution. By engineering our components into integrated sub-systems, we are able to provide our customers with greater reliability, energy efficiency and enhanced data analytics. A dedicated powertrain solutions team leverages relevant product, technology and application expertise from across our four segments to provide a single point of contact for our customers to design and procure these sub-systems.
•Utilizing our flexible global manufacturing presence. Our global manufacturing base consists of more than 100 manufacturing locations across North America, Europe, Asia Pacific and the rest of the world. Our ability to shift production between locations has helped us navigate geopolitical and supply-chain related disruptions, and provide better service levels to our customers, including better product availability and shorter lead times. We expect our flexible global manufacturing footprint will provide similar flexibility in the future.
•Continuing to generate strong profitability and free cash flows to reduce leverage. We expect to continue to maintain our long track record of strong free cash flow generation and de-leveraging post acquisitions.
•Realizing synergies from our M&A transactions. Our merger with the Rexnord PMC business and our acquisition of Arrowhead, both of which are discussed in additional detail below, are generating significant revenue and cost synergies, which we expect will accelerate our organic top line growth and benefit our adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) margins, net income, and free cash flow.
•Ongoing portfolio assessment. We review our business portfolio on an ongoing basis to ensure that it continues to align with our growth strategy. In November 2022, we announced our intention to explore strategic alternatives for the global motors and generators portion of our Industrial Systems segment, because this portion of our portfolio may no longer align with our growth strategy. As of the date of this filing, our strategic review remains underway, and may or may not result in a decision to divest this portion of our business.
Acquisitions
Altra Transaction
On October 26, 2022, we entered into an Agreement and Plan of Merger (the “Altra Merger Agreement”) by and among us, Altra Industrial Motion Corp., a Delaware corporation (“Altra”), and Aspen Sub, Inc., a Delaware corporation and a wholly owned subsidiary of us (“Merger Sub”), pursuant to which, among other things and subject to the satisfaction or waiver of specified conditions, Merger Sub will merge (the “Altra Merger”) with and into Altra, with Altra surviving the Altra Merger as our wholly owned subsidiary (the “Altra Transaction”).
Pursuant to the Altra Merger Agreement, at the effective time of the Altra Merger, each of Altra’s issued and outstanding shares of common stock (subject to certain exceptions) will be converted into the right to receive $62.00 in cash, without interest.
Consummation of the Altra Transaction is subject to customary closing conditions under the Altra Merger Agreement including, among others: the absence of any order issued by any court of competent jurisdiction or governmental entity, or any applicable law, enjoining or otherwise prohibiting consummation of the Altra Transaction; the receipt of certain specified regulatory consents, approvals and clearances under competition laws and laws governing foreign investments; accuracy of representations and warranties and compliance with covenants, subject to certain customary qualifications and exceptions; and the absence of any law or judgment resulting in the imposition of or requiring a Burdensome Condition (as defined in the Altra Merger Agreement). The Altra Transaction is expected to close in the first half of 2023 and potentially in the first quarter of 2023. See Item 7 – Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Altra Transaction.
In fiscal 2021, we completed two acquisitions in the Motion Control Solutions segment.
Rexnord Transaction
On October 4, 2021, in accordance with the terms and conditions of the Agreement and Plan of Merger, dated as of February 15, 2021 (the “Rexnord PMC Merger Agreement”), we completed our combination with the Rexnord PMC business of Zurn Water Solutions Corporation (formerly known as Rexnord Corporation) ("Zurn") in a Reverse Morris Trust transaction (the “Rexnord Transaction”). Pursuant to the Rexnord Transaction, (i) Zurn transferred to its then-subsidiary Land Newco, Inc. (“Land”) substantially all of the assets, and Land assumed substantially all of the liabilities, of the Rexnord PMC business (the
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“Reorganization”), (ii) after which all of the issued and outstanding shares of Land common stock held by a subsidiary of Zurn were distributed in a series of distributions to Zurn’s stockholders (the “Distributions”, and the final distribution of Land common stock from Zurn to Zurn’s stockholders, which was made pro rata for no consideration, the “Spin-Off”) and (iii) immediately after the Spin-Off, one of our subsidiaries merged with and into Land.
The total consideration transferred in connection with the Rexnord Transaction was approximately $4.0 billion. See Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Rexnord Transaction.
Arrowhead Transaction
On November 23, 2021, we acquired Arrowhead Systems, LLC ("Arrowhead") for $315.6 million in cash, net of $1.1 million of cash acquired (the “Arrowhead Transaction”). Arrowhead is a is a global leader in providing industrial process automation solutions, including conveyors and (de)palletizers to the food & beverage, aluminum can, and consumer staples end markets, among others. The Arrowhead business is now part of the Automation Solutions business unit of our Motion Controls Solutions segment. See Item 7 – Management’s Discussion and Analysis of Financial Condition and Results of Operations and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Arrowhead Transaction.
Sales, Marketing and Distribution
We sell our products directly to OEMs, distributors and end-users. We have multiple divisions that promote our brands across their respective sales organizations. These sales organizations consist of varying combinations of our own internal direct sales people as well as exclusive and non-exclusive manufacturers' representative organizations.
We operate large distribution facilities in Plainfield, Indiana; El Paso and McAllen, Texas; LaVergne, Tennessee; Florence, Kentucky; Milwaukee, Wisconsin; and Monterrey, Mexico which serve as hubs for our North American distribution and logistics operations. Products are shipped from these facilities to our customers utilizing common carriers. We also operate or partner with numerous warehouse and distribution facilities in our global markets to service the needs of our customers. In addition, we have select manufacturer representatives' warehouses located in specific geographic areas to serve local customers.
We derive a significant portion of revenue from our OEM customers. In our HVAC business, a large portion of our sales are to key OEM customers which makes our relationship with each of these customers important to our business. We have long standing relationships with these customers and we expect these customer relationships will continue for the foreseeable future. Despite this relative concentration, we had no customer that accounted for more than 10% of our consolidated net sales in fiscal 2022, fiscal 2021 or fiscal 2020.
Many of our motors are incorporated into residential applications that OEMs sell to end users. The number of installations of new and replacement HVAC systems, pool pumps and related components is higher during the spring and summer seasons due to the increased use of air conditioning and swimming pools during warmer months. As a result, our revenues tend to be higher in the second and third quarters.
Competition
Commercial Systems, Industrial Systems, and Climate Solutions Segments
Electric motor and electronic drive manufacturing is a highly competitive global industry in which there is emphasis on quality, reliability, and technological capabilities such as energy efficiency, delivery performance, price and service. We compete with a large number of domestic and international competitors due in part to the nature of the products we manufacture and the wide variety of applications and customers we serve. Many manufacturers of electric motors and drives operate production facilities globally, producing products for both the US domestic and export markets. Global electric motor manufacturers, particularly those located in Europe, Japan, China, India and elsewhere in Asia, compete with us as they attempt to expand their market penetration around the world, especially in North America.
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Motion Control Solutions Segment
The motion control products market is fragmented. Many competitors in the market offer limited product lines or serve specific applications, industries or geographic markets. Other larger competitors offer broader product lines that serve multiple end uses in multiple geographies. Competition in the Motion Control Solutions segment is based on several factors including quality, lead times, custom engineering capability, pricing, reliability, and customer and engineering support.
Engineering, Research and Development
We believe that innovation is critical to our future growth and success and are committed to investing in new products, technologies and processes that deliver real value to our customers. Our research and development expenses consist primarily of costs for (i) salaries and related personnel expenses; (ii) the design and development of new energy efficiency products and enhancements; (iii) quality assurance and testing; and (iv) other related overhead. Our research and development efforts tend to be targeted toward developing new products that would allow us to gain additional market share, whether in new or existing segments.
We believe the key driver of our innovation strategy is the development of products that include energy efficiency, embedded intelligence and variable speed technology solutions. With our emphasis on product development and innovation, our businesses filed 33 Non-Provisional United States ("US") patents, 6 Provisional US patents and an additional 25 Non-Provisional foreign patents in fiscal 2022.
Each of our business units has its own, as well as shared, product development and design teams that continuously work to enhance our existing products and develop new products for our growing base of customers that require custom and standard solutions. We believe we have state-of-the-art product development and testing laboratories. We believe these capabilities provide a significant competitive advantage in the development of high quality motors, electric generators, and mechanical products incorporating leading design characteristics such as low vibration, low noise, improved safety, reliability, sustainability and enhanced energy efficiency. Increasingly, our research and development and other engineering efforts have focused on smart products that communicate and allow for monitoring, diagnostics and predictive maintenance.
Manufacturing and Operations
We have developed and acquired global operations in locations such as Mexico, China, India and Europe so that we can sell our products in these markets, follow our multinational customers, take advantage of global talent and complement our flexible, rapid response operations in the U.S. and Canada. Our vertically integrated manufacturing operations, including our own aluminum die casting and steel stamping operations, are an important element of our rapid response capabilities. In addition, we have an extensive internal logistics operation and a network of distribution facilities with the capability to modify stock products to quickly meet specific customer requirements. This gives us the ability to efficiently and promptly deliver a customer's unique product to the desired location.
We manufacture a majority of the products that we sell, but also strategically source components and finished goods from an established global network of suppliers. We strategically leverage a global supply chain to reduce our overall costs and lead-time. We generally maintain a dual sourcing capability to ensure a reliable supply source for our customers, although we do depend on a limited number of single source suppliers for certain materials and components. We regularly invest in machinery and equipment to improve and maintain our facilities. Base materials for our products consist primarily of steel, copper and aluminum. Additionally, significant components of our product costs consist of bearings, electronic assemblies, permanent magnets and ferrous and non-ferrous castings.
The Regal Rexnord Business System is our enterprise-wide framework for continuous improvement. With our corporate values as its foundation, the Regal Rexnord Business System enables effective goal alignment, collaborative problem solving and sharing of best practices, tools, skills and expertise to achieve our objectives. Through relentless commitment to continuous improvement, we strive to elevate safety, quality, delivery, cost and growth performance of the business with the goal of exceeding the expectations of our customers, our associates and our shareholders.
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Facilities
We have manufacturing, sales and service facilities in the U.S., Mexico, China, Europe, India, Thailand, and Australia, as well as a number of other locations throughout the world. Our Commercial Systems segment currently includes 52 manufacturing, service, office and distribution facilities of which 16 are principal manufacturing facilities and 3 are principal warehouse facilities. The Commercial Systems segment's present operating facilities contain a total of approximately 3.3 million square feet of space, of which approximately 24% are leased. Our Industrial Systems segment currently includes 27 manufacturing, service, office and distribution facilities of which 12 are principal manufacturing facilities and 8 is a principal warehouse facility. The Industrial Systems segment's present operating facilities contain a total of approximately 3.3 million square feet of space, of which approximately 41% are leased. Our Climate Solutions segment includes 23 manufacturing, service, office and distribution facilities, of which 6 are principal manufacturing facilities and 6 are principal warehouse facilities. The Climate Solutions segment's present operating facilities contain a total of approximately 1.9 million square feet of space, of which approximately 55% are leased. Our Motion Control Solutions segment currently includes 97 manufacturing, service, office and distribution facilities of which 49 are principal manufacturing facilities and 10 are principal warehouse facilities. The Motion Control Solutions segment's present operating facilities contain a total of approximately 9.3 million square feet of space, of which approximately 29% are leased. Our corporate offices are located in Beloit, Wisconsin in an approximately 50,000 square foot owned office building, in Rosemont, Illinois in an approximately 12,100 square foot rented office building and in Milwaukee, Wisconsin in an approximately 142,000 square foot rented office building. We believe our equipment and facilities are well maintained and adequate for our present needs. However, we continuously evaluate our property portfolio, including properties that have been or will be transferred to us pursuant to acquisitions, to ensure that our facilities are being used efficiently.
Backlog
Our business units have historically shipped the majority of their products within a month from when the order was received. As of December 31, 2022, our backlog was $1,242.7 million, as compared to $1,214.5 million on January 1, 2022. We believe that virtually all of our backlog will be shipped in fiscal 2023.
Patents, Trademarks and Licenses
We own a number of US patents and foreign patents relating to our businesses. While we believe that our patents provide certain competitive advantages, we do not consider any one patent or group of patents essential to our business as a whole. We also use various registered and unregistered trademarks, and we believe these trademarks are significant in the marketing of most of our products. However, we believe the successful manufacture and sale of our products generally depends more upon our technological, manufacturing and marketing skills.
Human Capital Management
At the end of fiscal 2022, we employed approximately 26,000 full-time associates worldwide. Of those associates, approximately 10,000 were located in Mexico; approximately 6,000 in the US; approximately 3,000 in China; approximately 3,000 in India; and approximately 4,000 in the rest of the world.
We feel that our associates are our most valuable assets and consider our associate relations to be very good. Our objective is to create a high-performing organization by attracting and retaining high-quality, diverse talent and creating an environment in which all associates have the opportunity to reach their full potential.
The core goal of our performance management process is to develop and maintain a high-performing organization that is positioned to meet our business objectives. Creating a high-performing organization requires associates and managers to exhibit transparency in their day-to-day interactions, and use data to drive decision-making and accountability. Our performance management process focuses on enabling associates and managers to gain alignment through:
•a structured annual goal-setting process where managers and associates work collaboratively to develop specific, measurable, achievable, relevant and time bound (SMART) goals that align with our overarching business objectives and our company values;
•clear, organization-wide expectations that managers and associates monitor progress toward completion of their SMART goals with regular coaching sessions and periodic evaluations; and
•an annual performance assessment that provides a direct link between the associate’s pay and performance.
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In addition to our focus on performance, we also have a strong commitment to our company values of integrity, responsibility, diversity and inclusion, customer success, innovation with purpose, continuous improvement, performance, and a passion to win, all with a sense of urgency. We regularly promote these values from the top down. In addition to instilling our corporate values as a key part of associate life, we promote a commitment to ethics and compliance among our workforce through our Code of Business Conduct and Ethics (our "Code"). In 2022, 93.6% of our global workforce (including employees, temporary employees and contractors) completed training on our Code during our annual training period.
As mentioned above, diversity and inclusion are rooted in our company values. We believe that we are at our best when we bring to bear the unique perspectives, experiences, backgrounds and ideas of our associates. We seek a workforce that reflects the communities in which we operate, and strive to create diverse, equal and inclusive workplaces where all of our associates have the opportunity to achieve their full potential. In 2021, as a sign of our commitment to this goal, we joined the CEO Action for Diversity and Inclusion, which is the largest CEO-driven organization committed to diversity and inclusion in the workplace, and also signed the National Association of Manufacturers Pledge for Action to cement our commitment to advancing justice, equality and opportunity for all people of color.
We are also committed to improving the health and well-being of our associates. Our US wellness program was established in 2008 and is continuously evolving to better educate, motivate and reward our associates for maintaining and achieving healthy measures. During our wellness plan year running from October 1, 2021 through September 30, 2022, 59% of our US associates participated in on-site biometric screening that provides them with key metrics such as BMI, blood pressure, and triglyceride, cholesterol and blood glucose levels. This represents an increase of 7% compared with our prior wellness plan year.
As a company, we believe that our value of responsibility requires community engagement, and we encourage our associates to share in our commitment to the communities where we operate. We have an established charitable foundation, which is governed by an advisory board comprised of our associates. In 2022, the Company and the Company's Charitable Foundation contributed $1,261,200 to charitable organizations, up from $1,083,100 in 2021. In 2021, the Charitable Foundation realigned its giving philosophy to support charitable organizations in more of the communities where our associates live and work globally. The amount we contributed internationally in 2022 (predominately in Mexico given the high concentration of our associates there) represented approximately 33% of our overall contributions, down from approximately 40% in 2021.
Environmental Matters
We believe that positive environmental, social and governance ("ESG")-related business practices strengthen our Company, increase our connection with our stakeholders and help us better serve our customers and the communities in which we operate. In 2022, we announced our commitment to achieving carbon emission neutrality in our operations across scopes 1 and 2 by 2032, to achieving carbon emission neutrality across scopes 1, 2 and 3 by 2050, and to pursuing the latter in alignment with science based targets. We are beginning the foundational work to achieve these “net zero” goals by focusing significant time and effort on improving our environmental data reporting and accuracy, outlining a strategy to achieve our environmental impact goals, defining the relevant metrics to track our progress, and establishing a robust governance structure to help drive accountability.
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Information About Our Executive Officers
The names, ages, and positions of our executive officers as of February 24, 2023 are listed below along with their business experience during the past five years. Officers are elected annually by the Board of Directors. There are no family relationships among these officers, nor any arrangements or understanding between any officer and any other persons pursuant to which the officer was elected.
| Executive Officer | Age | Position | Business Experience and Principal Occupation | |||||||||||||||||
| Louis V. Pinkham | 51 | Chief Executive Officer | Joined the Company in April 2019, as Chief Executive Officer. Prior to joining the Company, Mr. Pinkham was Senior Vice President of Crane Co. from 2016-2019; prior thereto he served in other leadership roles at Crane Co. from 2012-2016. Prior to joining Crane Co., Mr. Pinkham was Senior Vice President at Eaton Corporation. From 2000-2012, he held successive and increasing roles of global responsibility at Eaton. Prior to joining Eaton, Mr. Pinkham held an Engineering and Quality Manager position at ITT Sherotec and a Process Design Engineer position with Molecular Biosystems, Inc. Mr. Pinkham serves as a member of the Board of Trustees for the University of Chicago Medical Center, the Museum of Science and Industry in Chicago, the Manufacturers Alliance for Productivity and Innovation (MAPI), and as a member of the Board of Governors for the National Electrical Manufactures Association. | |||||||||||||||||
| Robert J. Rehard | 54 | Vice President, Chief Financial Officer | Joined the Company in January 2015, as Vice President, Corporate Controller and Principal Accounting Officer and became Vice President, Chief Financial Officer in April 2018. Prior to joining the Company, Mr. Rehard was a Division Controller for Eaton Corporation and held several other financial leadership positions throughout his career with Baxter, Emerson, Masco and Cooper. Mr. Rehard started his career with Deloitte & Touche in Costa Mesa, California. | |||||||||||||||||
| Thomas E. Valentyn | 63 | Vice President, General Counsel and Secretary | Joined the Company in December 2013, as Associate General Counsel and became Vice President, General Counsel and Secretary in May 2016. Prior to joining the Company, Mr. Valentyn was General Counsel with Twin Disc, Inc. from 2007-2013. From 2000-2007, he served as Vice President and General Counsel with Norlight Telecommunications; prior thereto he served as in-house counsel with Johnson Controls, Inc. from 1991-2000. He began his legal career with Borgelt, Powell, Peterson and Frauen in Milwaukee, Wisconsin. | |||||||||||||||||
| John M. Avampato | 62 | Vice President, Chief Information Officer | Joined the Company in April 2006 and became Vice President, Chief Information Officer in April 2010. Prior to joining the Company, Mr. Avampato was Vice President, Chief Information Officer for Newell Rubbermaid from 1999-2006. Mr. Avampato served in several positions for Newell Rubbermaid from 1984-1999. | |||||||||||||||||
| Cheryl A. Lewis | 54 | Vice President, Chief Human Resources Officer | Joined the Company in March 2020, as Vice President, Chief Human Resources Officer. Prior to joining the Company, Ms. Lewis served as Segment Director, Human Resources for Illinois Tool Works Inc. from 2010-2020. Prior to joining Illinois Tool Works Inc., Ms. Lewis was Vice President, Human Resources with Alcan Packaging from 2008-2010. From 1991-2008 she held successive and increasing roles of responsibility, including Vice President, Human Resources at Panduit Corporation. | |||||||||||||||||
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| Scott D. Brown | 63 | President, Commercial Systems Segment | Joined the Company in August 2005 and became President, Commercial Systems Segment in June 2019. Prior to being promoted to his current position, Mr. Brown, in successive roles, served as Vice President, Business Leader of Commercial Motors, Vice President, Business Leader of Control Solutions, and Vice President, Manufacturing. Prior to joining the Company, Mr. Brown spent 17 years with General Electric in operations and various business leadership roles. | |||||||||||||||||
| Jerrald R. Morton | 61 | President, Motion Control Solutions Integration | Joined the Company in February 2015 and became President, Motion Control Solutions Integration in October 2021. Prior to his current position, Mr. Morton, in successive roles, served as President of our former Power Transmission Solutions Segment from 2019-2021, as Vice President, Business Leader of Power Transmission Solutions from 2017-2019, and led the global operations for our power transmission business from 2015-2017. Prior to joining the Company, Mr. Morton spent 28 years with Emerson in a variety of roles in Quality, Technology, and Operations and was Vice President, Global Operations of Emerson’s power transmission business at the time the Company acquired that business. | |||||||||||||||||
| Kevin J. Zaba | 55 | President, Motion Control Solutions Segment | Joined the Company in October 2021 as President, Motion Control Solutions Segment after the Company's merger with the Rexnord PMC business, where Mr. Zaba held the title of Group Executive and President from 2014-2021. Prior to this, he held a number of leadership roles with increasing responsibility during his 24 year tenure at Rockwell Automation, Inc., including Vice President of Solutions, Services & Sales and Vice President and General Manager of the Control & Visualization products business. Mr. Zaba's experience as a global business leader includes assignments across a variety of commercial, innovation and operational roles, including a multiyear assignment leading an Asia-Pacific ETO solutions business while residing in Shanghai, China. | |||||||||||||||||
Website Disclosure
Our Internet address is www.regalrexnord.com. We make available free of charge (other than an investor's own Internet access charges) through our Internet website our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K, and amendments to those reports, as soon as reasonably practicable after we electronically file such material with, or furnish such material to, the Securities and Exchange Commission. In addition, we have adopted a Code of Business Conduct and Ethics that applies to our officers, directors and associates which satisfies the requirements of the New York Stock Exchange regarding a “code of business conduct.” We have also adopted Corporate Governance Guidelines addressing the subjects required by the New York Stock Exchange. In December 2022, we produced our updated Sustainability Report. We make copies of the foregoing, as well as the charters of our Board committees, available free of charge on our website. We intend to satisfy the disclosure requirements under Item 5.05 of Form 8-K regarding amendments to, or waivers from, our Code of Business Conduct and Ethics by posting such information on our web site at the address stated above. We are not including the information contained on or available through our website as a part of, or incorporating such information by reference into, this Annual Report on Form 10-K.
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ITEM 1A - RISK FACTORS
You should carefully consider each of the risks described below, together with all of the other information contained in this Annual Report on Form 10-K, before making an investment decision with respect to our securities. The risks described below are not the only risks that could adversely affect our business; other risks currently deemed immaterial or additional risks not currently known to us could also materially and adversely affect us. If any of the following or other risks develop into actual events, our business, financial condition, results of operations, or cash flow could be materially and adversely affected and you may lose all or part of your investment. In certain instances, the exposure of our business to certain of these risks could be different or greater for the combined company after the consummation of the Altra Transaction, and the combined company may become subject to additional or different risks.
Risks Relating to Our Operations and Strategy
We depend on certain key suppliers, and any loss of those suppliers or their failure to meet commitments may adversely affect our business and results of operations.
We are dependent on a single or limited number of suppliers for some materials or components required in the manufacture of our products. If any of those suppliers fail to meet their commitments to us in terms of delivery or quality, including by suffering any disruptions at its facilities or in its supply, we may experience cost increases or supply shortages that could result in our inability to meet our customers' requirements, or could otherwise experience an interruption in our operations that could negatively impact our business and results of operations. If we encounter significant supply interruptions, our competitive position could be adversely affected, which may result in depressed sales and profitability.
The COVID-19 outbreak and associated counteracting measures implemented by governments and businesses around the world, as well as subsequent accelerated recovery in global business activity, have increased uncertainty in the global business environment and led to supply chain disruptions and shortages in global markets for commodities, logistics and labor, as well as input cost inflation. Additionally, the effects of climate change, including extreme weather events, long-term changes in temperature levels, water availability, supply costs impacted by increasing energy costs, or energy costs impacted by carbon prices or offsets may exacerbate supply chain constraints and disruption. Resulting supply chain constraints have required, and may continue to require, in certain instances, alternative delivery arrangements and increased costs and could have a material adverse effect on our business and operations.
Our dependence on, and the price of, raw materials may adversely affect our gross margins.
Many of the products we produce contain key materials such as steel, copper, aluminum and electronics. Market prices for those materials can be volatile due to changes in supply and demand, manufacturing and other costs, regulations and tariffs, economic conditions and other circumstances. We may not be able to offset any increase in commodity costs through pricing actions, productivity enhancements or other means, and increasing commodity costs may have an adverse impact on our gross margins, which could adversely affect our results of operations and financial condition. Even if we are able to successfully respond to increased commodity costs through pricing actions, our competitive position could be adversely affected, which may result in depressed sales and profitability.
The COVID-19 pandemic has adversely impacted our business and could continue to have a material adverse impact on our business, results of operation, financial condition, liquidity, customers, suppliers, and the geographies in which we operate.
The COVID-19 outbreak and associated counteracting measures implemented by governments and businesses around the world, as well as subsequent accelerated recovery in global business activity, have increased uncertainty in the global business environment and led to supply chain disruptions and shortages in global markets for commodities, logistics and labor, as well as input cost inflation. The impact of COVID-19 on the global economy and our customers, as well as recent volatility in commodity markets, has negatively impacted demand for our products and could continue to do so in the future. Its effects could also result in further disruptions to our manufacturing operations, including higher rates of employee absenteeism, and to our supply chain, which could continue to negatively impact our ability to meet customer demand. COVID-19 lockdowns in China during fiscal 2022 disrupted our Chinese manufacturing operations and negatively impacted demand for our products in the region. Significant increases in COVID-19 infections in that geographic region may continue to disrupt our Chinese manufacturing operations, impact demand for our products, and could also lead to additional supply chain disruptions and commercial challenges. The extent to which COVID-19 will continue to impact our business, results of operations, financial condition or liquidity is uncertain and will depend on future developments, including the spread, resurgence and duration of the virus, and potential further actions taken by governmental authorities.
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We may incur costs and charges as a result of restructuring activities to reduce on-going costs such as facilities and operations consolidations that may be disruptive to our business and may not result in anticipated cost savings.
We expect to review our overall manufacturing footprint, including potentially consolidating facilities and operations, in an effort to make our business more efficient. We expect to incur additional costs and restructuring charges in connection with such consolidations, divestitures, workforce reductions and other cost reduction measures that could adversely affect our future earnings and cash flows. Furthermore, such actions may be disruptive to our business. This may result in production inefficiencies, product quality issues, late product deliveries or lost orders as we begin production at consolidated facilities, which would adversely impact our sales levels, operating results and operating margins. In addition, we may not realize the cost savings that we expect to realize as a result of such actions.
These activities require substantial management time and attention and may divert management from other important work or result in a failure to meet operational targets. Divestitures may also give rise to obligations to buyers or other parties that could have a financial effect after the transaction is completed. Moreover, we could encounter changes to, or delays in executing, any restructuring or divestiture plans, any of which could cause disruption and additional unanticipated expense.
Our ability to establish, grow and maintain customer relationships depends in part on our ability to develop new products and product enhancements based on technological innovation, such as IoT, and marketplace acceptance of new and existing products, including products related to technology not yet adopted or utilized in certain geographic locations in which we do business.
The electric motor and power transmission industries in recent years have seen significant evolution and innovation, particularly with respect to increasing energy efficiency and control enhancements. Our ability to effectively compete in these industries depends in part on our ability to continue to develop new technologies and innovative products and product enhancements, including enhancements based on technological innovation such as IoT. Further, many large customers in these industries generally desire to purchase from companies that can offer a broad product range, which means we must continue to develop our expertise in order to design, manufacture and sell these products successfully. This requires that we make significant investments in engineering, manufacturing, customer service and support, research and development and intellectual property protection, and there can be no assurance that in the future we will have sufficient resources to continue to make such investments. If we are unable to meet the needs of our customers for innovative products or product variety, or if our products become technologically obsolete over time due to the development by our competitors of technological breakthroughs or otherwise, our revenues and results of operations may be adversely affected. In addition, we may incur significant costs and devote significant resources to the development of products that ultimately are not accepted in the marketplace, do not provide anticipated enhancements, or do not lead to significant revenue, which may adversely impact our results of operations.
Further, such new products and technologies may create additional exposure or risk. We cannot assure that we can adequately protect any of our own technological developments to produce a sustainable competitive advantage. Furthermore, we could be subject to business continuity risk in the event of an unexpected loss of a material facility or operation. We cannot ensure that we can adequately protect against such a loss.
In each of our Climate Solutions and Commercial Systems segments, we depend on revenues from several significant customers, and any loss, cancellation or reduction of, or delay in, purchases by these customers may have a material adverse effect on our business.
In each of our Climate Solutions and Commercial Systems segments, we depend on, and expect to continue to depend on, revenues from several significant customers, and any loss, cancellation or reduction of, or delay in, purchases by these customers may have a material adverse effect on our business.
We derive a significant portion of the revenues of our motor businesses from several key OEM customers. Our success depends on our continued ability to develop and manage relationships with these customers. We have longstanding relationships with these customers and we expect these customer relationships will continue for the foreseeable future. Our reliance on sales from customers makes our relationship with each of these customers important to our business. We cannot assure you that we will be able to retain these key customers. Some of our customers may in the future shift some or all of their purchases of products from us to our competitors or to other sources. The loss of one or more of our large customers, any reduction or delay in sales to these customers, our inability to develop relationships successfully with additional customers, or future price concessions that we may make could have a material adverse effect on our results of operations and financial condition.
Goodwill and other long-lived assets could become impaired.
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We have a material amount of goodwill and other long-lived assets, including intangible assets, property plant and equipment and operating lease assets. We assess our goodwill at least annually for impairment. Our estimates of fair value are based on assumptions about the future operating cash flows, growth rates, discount rates applied to these cash flows and current market estimates of value. We evaluate the recoverability of the carrying value of long-lived assets to be held and used whenever events or circumstances indicating a potential impairment exist, such as, but not limited to, adverse market conditions or business climate, a change in the extent or manner in which assets are being used, or a negative long-term performance outlook. An impairment would require us to reduce the carrying value of goodwill or other long-lived asset to fair value through a non-cash impairment charge in our results of operations, which could be material. See Note 5 – Goodwill and Intangible Assets of the Notes to the Consolidated Financial Statements for more information.
Portions of our total sales come directly from customers in key markets and industries. A significant or prolonged decline or disruption in one of those markets or industries could result in lower capital expenditures by such customers, which could have a material adverse effect on our results of operations and financial condition.
Portions of our total sales are dependent directly upon the level of capital expenditures by customers in key markets and industries, such as HVAC, refrigeration, power generation, oil and gas, unit material handling, water heating and aerospace. A significant or prolonged decline or disruption in one of those markets or industries may result in some of such customers delaying, canceling or modifying projects, or may result in nonpayment of amounts that are owed to us. These effects could have a material adverse effect on our results of operations and financial condition.
We sell certain products for high volume applications, and any failure of those products to perform as anticipated could result in significant liability and expenses that may adversely affect our business and results of operations.
We manufacture and sell a number of products for high volume applications, including electric motors used in pools and spas, residential and commercial heating, ventilation and air conditioning and refrigeration equipment. Any failure of those products to perform as anticipated could result in significant product liability, product recall or rework, or other costs. The costs of product recalls and reworks are not generally covered by insurance.
If we were to experience a product recall or rework in connection with products of high volume applications, our financial condition or results of operations could be materially adversely affected.
One of our subsidiaries that we acquired in 2007 is subject to numerous claims filed in various jurisdictions relating to certain sub-fractional motors that were primarily manufactured through 2004 and that were included as components of residential and commercial ventilation units manufactured and sold in high volumes by a third party. These ventilation units are subject to regulation by government agencies such as the US Consumer Product Safety Commission (“CPSC”). The claims generally allege that the ventilation units were the cause of fires. Based on the current facts, we cannot assure you that these claims, individually or in the aggregate, will not have a material adverse effect on our subsidiary's results of operations, financial condition or cash flows. We cannot reasonably predict the outcome of these claims, the nature or extent of any CPSC or other remedial actions, if any, that our subsidiary or we on their behalf may need to undertake with respect to motors that remain in the field, or the costs that may be incurred, some of which could be significant. See Note 12 – Contingencies of the Notes to the Consolidated Financial Statements for more information.
Our business may not generate cash flow from operations in an amount sufficient to enable us to service our indebtedness or to fund our other liquidity needs, we could become increasingly vulnerable to general adverse economic and industry conditions and interest rate trends, and our ability to obtain future financing may be limited.
As of December 31, 2022, we had approximately $2.0 billion in aggregate debt outstanding under our various financing arrangements, approximately $688.5 million in cash and cash equivalents and approximately $571.0 million in available borrowings under our current revolving credit facility. Since December 31, 2022, we have incurred a substantial amount of debt in connection with the Altra Transaction, which could adversely affect our business, financial condition or results of operations. We have incurred acquisition-related debt financing of approximately $4.7 billion and intend to incur $840.0 million in additional term loans under our Credit Agreement to fund the cash consideration for the Altra Transaction, refinance certain of our indebtedness and indebtedness of Altra and pay related fees and expenses. See Note 7 – Debt and Bank Credit Facilities of the Notes to the Consolidated Financial Statements for more information.
Our ability to make required payments of principal and interest on our debt levels will depend on our future performance, which, to a certain extent, is subject to general economic, financial, competitive and other factors that are beyond our control. Our substantially increased indebtedness has the effect, among other things, of reducing our flexibility to changing business and economic conditions. We cannot assure you that our business will generate cash flow from operations or that future borrowings
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will be available under our current credit facilities in an amount sufficient to enable us to service our indebtedness or to fund our other liquidity needs on a timely basis or at all. Our indebtedness may have important consequences, for example, it could:
•make it more challenging for us to obtain additional financing to fund our business strategy and acquisitions, debt service requirements, capital expenditures and working capital;
•increase our vulnerability to interest rate changes, including with respect to certain of our financing arrangements that bear interest at variable rates, and general adverse economic and industry conditions;
•require us to dedicate a substantial portion of our cash flow from operations to service our indebtedness, thereby reducing the availability of our cash flow to finance acquisitions and to fund working capital, capital expenditures, manufacturing capacity expansion, business integration, research and development efforts and other general corporate activities;
•limit our flexibility in planning for, or reacting to, changes in our business and our markets; and/or
•place us at a competitive disadvantage relative to our competitors that have less debt.
In addition, because our debt levels and debt service obligations have increased substantially in connection with the Altra Transaction, we will have less cash flow available for our business operations, product development, capital expenditures, and acquisitions, we could become increasingly vulnerable to general adverse economic and industry conditions and industry rate trends, and our ability to obtain future financing on favorable terms may be limited.
A portion of our indebtedness bears interest at variable rates that are linked to changing market interest rates. As a result, an increase in market interest rates would increase our interest expense and our debt service obligations on the variable rate indebtedness, and our net income and cash flows, including cash available for servicing our indebtedness, will correspondingly decrease. We utilize interest rate swaps that involve the exchange of floating for fixed rate interest payments to reduce interest rate volatility. However, we may not maintain interest rate swaps with respect to all of our variable rate indebtedness, and any swaps we enter into may not fully mitigate interest rate risk.
Further, the availability and terms of future financing may depend upon our ability to maintain or achieve certain credit ratings on our senior debt. The credit rating process is contingent upon our credit profile and other factors, many of which are beyond our control, including methodologies established and interpreted by third-party rating agencies. If we are unable to maintain or achieve certain credit ratings in the future, our interest expense could increase or our ability to obtain financing on favorable terms could be adversely affected.
Our credit facilities contain financial and restrictive covenants, which require us to maintain specified financial ratios and satisfy certain financial condition tests. These covenants could limit our ability to, among other things, borrow additional funds or take advantage of business opportunities, and may require that we take action to reduce our debt or to act in a manner contrary to our business strategies. An event of default under our debt agreements, if not cured or waived, could result in the acceleration of our indebtedness or otherwise have a material adverse effect on our business, financial condition, results of operations or debt service capability. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources" for more information.
Sales of products incorporated into HVAC systems and other residential applications are seasonal and affected by the weather; mild or cooler weather could have an adverse effect on our operating performance.
Many of our motors are incorporated into HVAC systems and other residential applications that OEMs sell to end users. The number of installations of new and replacement HVAC systems or components and other residential applications is higher during the spring and summer seasons due to the increased use of air conditioning during warmer months. Mild or cooler weather conditions during the spring and summer season often result in end users deferring the purchase of new or replacement HVAC systems or components. As a result, prolonged periods of mild or cooler weather conditions in the spring or summer season in broad geographical areas could have a negative impact on the demand for our HVAC motors and, therefore, could have an adverse effect on our operating performance. In addition, due to variations in weather conditions from year to year, our operating performance in any single year may not be indicative of our performance in any future year.
Global climate change and related legal and regulatory developments could negatively affect our business.
The effects of climate change create financial risks to our business. For example, the effects of climate change could disrupt our operations by impacting the availability and the cost of materials needed for manufacturing, exacerbate existing risks to our supply chain and increase insurance and other operating costs. These factors may impact our decisions to construct new facilities or maintain existing facilities in areas most prone to physical climate risks. We could also face indirect financial risks
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passed through the supply chain and disruptions that could result in increased prices for our products and the resources needed to produce them.
Increased public awareness and concern regarding global climate change has resulted in more regulations designed to reduce greenhouse gas emissions. These regulations are inconsistent, and are rapidly emerging and evolving. If our product portfolio does not align with these regulations, we may be required to make increased research and development and other capital expenditures to improve our product portfolio in order to meet new regulations and standards. Further, our customers and the markets we serve may impose emissions or other environmental standards through regulation, market-based emissions policies or consumer preference that we may not be able to timely meet due to the level of capital investment or technological advancement. While we are committed to continuous improvements to our product portfolio to meet and exceed anticipated regulations and preferences, there can be no assurance that our commitments will be successful, that our products will be accepted by the market, that proposed regulation or deregulation will not have a negative competitive impact, or that economic returns will reflect our investments in new product development. In addition, the regulatory uncertainty and complexity driven by emerging and evolving regulations could increase our compliance costs, which may impact our results of operations.
As of the date of this filing, we have made several public commitments regarding our intended reduction of carbon emissions, including commitments to achieve Scope 1 and Scope 2 carbon emission neutrality by 2032, and Scope 3 carbon emission neutrality by 2050, and the establishment of science-based targets to reduce carbon emissions from our operations. Although we intend to meet these commitments, we may be required to expend significant resources to do so, which could increase our operational costs. If we either are unable to meet these commitments, or progress toward our commitments more slowly than expected, then we could incur adverse publicity and reaction from investors, activist groups and other stakeholders, which could adversely impact the perception of our brands and our products by current and potential customers, as well as investors, which would in turn adversely impact our results of operations.
Our success is highly dependent on qualified and sufficient staffing. Our failure to attract or retain qualified personnel, including our senior management team, could lead to a loss of revenue or profitability.
Our success depends, in part, on the efforts and abilities of our senior management team and key associates and the contributions of talented associates in various operations and functions, such as engineering, finance, sales, marketing, manufacturing, etc. The skills, experience and industry contacts of our senior management team significantly benefit our operations and administration. The failure to attract or retain members of our senior management team and key talent could have a negative effect on our operating results.
Risks Related to Mergers, Acquisitions and Divestitures
We and Altra may be unable to satisfy the conditions or obtain the approvals required to complete the Altra Transaction.
The consummation of the Altra Transaction is subject to numerous conditions, including the receipt of certain regulatory approvals, and other closing conditions. Neither Altra nor we can make any assurances that the Altra Transaction will be consummated on the terms or timeline currently contemplated, or at all. Both Altra and we have and will continue to expend time and resources and incur expenses related to the Altra Transaction.
Governmental agencies may not approve the Altra Transaction or may impose conditions to the approval of the Altra Transaction or require changes to the terms of the Altra Transaction. Any such conditions or changes could have the effect of delaying completion of the Altra Transaction, imposing costs on or limiting the revenues of the combined company following the completion of the Altra Transaction, or otherwise reducing the anticipated benefits of the Altra Transaction. Certain conditions or changes might cause Altra or us to restructure or terminate the Altra Transaction and, under certain circumstances, we may be required to pay a termination fee of $200 million pursuant to the terms of the Altra Merger Agreement.
The pendency of the Altra Transaction could materially and adversely affect our and Altra's business, financial condition, results of operations or cash flows.
In connection with the pending Altra Transaction, some of our or Altra's customers or suppliers may delay or defer decisions on continuing or expanding such business dealings, which could materially and adversely affect our revenues, earnings, cash flows and expenses, regardless of whether the Altra Transaction is consummated. Similarly, current and prospective employees of us or Altra may experience uncertainty about their future roles with our Company following the consummation of the Altra Transaction, which may materially and adversely affect each of our and Altra's ability to attract, retain and motivate key personnel during the pendency of the Altra Transaction and which may materially and adversely divert attention from the daily
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activities of our and Altra's existing employees. Any of these matters could materially and adversely affect our and Altra's business, financial condition, results of operations and cash flows.
Our failure to successfully integrate Altra following the completion of the Altra Transaction, or to integrate our past acquisitions and any future acquisitions into our business within expected timetables could adversely affect our future results and the market price of our common stock.
The success of the Altra Transaction will depend, in large part, on our ability to realize the anticipated benefits of the Altra Transaction and on our sales and profitability following the transaction. To realize these anticipated benefits, we must successfully integrate Altra into our businesses. This integration will be complex and time-consuming, and is subject to a number of uncertainties, and no assurance can be given that the anticipated benefits will be realized or, if realized, the timing of their realization. The failure to successfully integrate and manage the challenges presented by the integration process may result in our failure to achieve some or all of the anticipated benefits of the Altra Transaction.
Potential difficulties that may be encountered in the integration process include, among others:
•the failure to implement our business plan following the Altra Transaction;
•lost sales and customers as a result of our customers or Altra’s customers deciding not to do business with the combined company;
•risks associated with managing our larger and more complex combined company following the Altra Transaction;
•integrating our personnel and Altra’s personnel while maintaining focus on providing consistent, high-quality products and service to customers;
•the loss of key employees;
•unanticipated issues in integrating manufacturing, logistics, information, communications and other systems;
•unexpected liabilities of Altra;
•possible inconsistencies in standards, controls, procedures, policies and compensation structures;
•the impact on our internal controls and compliance with the regulatory requirements under the Sarbanes-Oxley Act of 2002; and
•potential unknown liabilities and unforeseen expenses, delays or regulatory conditions associated with the Altra Transaction.
If any of these events were to occur, our ability to maintain relationships with customers, suppliers and employees or our ability to achieve the anticipated benefits of the Altra Transaction could be adversely affected, or could reduce our sales or earnings or otherwise adversely affect our business and financial results after the Altra Transaction and, as a result, adversely affect the market price of our common stock.
Apart from the Altra Transaction, as part of our growth strategy, we have made acquisitions, including our merger with the Rexnord PMC business, and our acquisition of the Arrowhead business, and expect to continue to make acquisitions. Our continued growth may depend on our ability to identify and acquire companies that complement or enhance our business on acceptable terms, but we may not be able to identify or complete future acquisitions. We may not be able to integrate successfully our recent acquisitions, including Rexnord PMC and Arrowhead, or any future acquisitions, operate these acquired companies profitably, or realize the potential benefits from these acquisitions.
The Company will incur significant costs related to the Altra Transaction, and will continue to incur significant integration costs related to our merger with the Rexnord PMC business, that could have an adverse effect on our liquidity, cash flows and operating results.
The Company has incurred, and expects to continue to incur, significant one-time costs in connection with the Altra Transaction, including the cost of financing, transaction costs, integration costs, and other costs that Company management believes are necessary to realize the anticipated synergies from the Altra Transaction. Whether or not the Altra Transaction is ultimately consummated, incurring these costs may have an adverse effect on the Company’s liquidity, cash flows and operating results in the periods in which they are incurred.
In addition, the Company has incurred, and expects to continue to incur, significant one-time costs related to the integration of the Rexnord PMC business and the achievement of synergies with respect to such business. Although we believe that our projections of these costs and the costs related to the Altra Transaction are based on reasonable assumptions, if such costs are
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greater than anticipated, then they may have a material adverse effect on our liquidity, cash flows and operating results in the periods in which they are incurred.
Businesses that we have acquired or that we may acquire in the future, including Altra, the Rexnord PMC business and the Arrowhead business, may have liabilities which are not known to us.
We have assumed liabilities of acquired businesses, including the Rexnord PMC and Arrowhead businesses, and may assume liabilities of businesses that we acquire in the future, including Altra. There may be liabilities or risks that we fail, or are unable, to discover, or that we underestimate, in the course of performing our due diligence investigations of acquired businesses. Additionally, businesses that we have acquired or may acquire in the future may have made previous acquisitions, and we will be subject to certain liabilities and risks relating to these prior acquisitions as well. We cannot assure you that our rights to indemnification contained in definitive acquisition agreements that we have entered or may enter into will be sufficient in amount, scope or duration to fully offset the possible liabilities associated with the business or property acquired. Any such liabilities, individually or in the aggregate, could have a material adverse effect on our business, financial condition or results of operations. As we begin to operate acquired businesses, we may learn additional information about them that adversely affects us, such as unknown or contingent liabilities, issues relating to compliance with applicable laws or issues related to ongoing customer relationships or order demand.
The Reorganization and the Distributions could result in significant tax liability, including as a result of an error in the determination of Overlap Shareholders or subsequent acquisitions of stock of Zurn or us. Under certain circumstances, Land (our wholly owned subsidiary) may be obligated to indemnify Zurn for any such taxes imposed on Zurn.
In connection with our merger with the Rexnord PMC business, Zurn received a tax opinion from its tax counsel (the “Rexnord Tax Opinion”) that includes an opinion to the effect that the Reorganization and the Distributions, will qualify as tax-free to Zurn, Land and the Zurn stockholders, as applicable, for U.S. federal income tax purposes except, in the case of Zurn, to the extent Land’s payment to a subsidiary of Zurn under the terms of the Separation Agreement (the “Land Cash Payment”) exceeds RBS Global Inc.’s adjusted tax basis in Land common stock. The Rexnord Tax Opinion is based on, among other things, certain representations and assumptions as to factual matters and certain covenants made by us, Land and Zurn. Although we believe the representations, assumptions and covenants in the Rexnord Tax Opinion to be true, the failure of any such factual representation, assumption or covenant to be true, correct and complete in all material respects could adversely affect the validity of the opinion. The Rexnord Tax Opinion is not binding on the IRS or the courts, and it is possible that the IRS or the courts may not agree with the opinion. In addition, the Rexnord Tax Opinion is based on current law, and the conclusions in the opinion cannot be relied upon if current law changes with retroactive effect.
The Spin-Off will be taxable to Zurn pursuant to Section 355(e) of the U.S. Internal Revenue Code of 1986, as amended if there is a 50% or greater change in ownership of either Zurn or Land, directly or indirectly, as part of a plan or series of related transactions that include the Spin-Off. For this purpose, any acquisitions of Land or Zurn stock or our stock within the period beginning two years before the Spin-Off and ending two years after the Spin-Off are presumed to be a part of such plan, although we and Zurn may be able to rebut that presumption. Zurn received a private letter ruling from the U.S. Internal Revenue Service (the “IRS”) (the “IRS Ruling”) with respect to certain tax aspects of the Rexnord PMC transactions, including matters relating to the nature and extent of shareholders who may be counted for tax purposes as “Overlap Shareholders” (as such term is defined in the Rexnord PMC Merger Agreement) for purposes of determining the exchange ratio for the transaction in the Rexnord PMC Merger Agreement and the overall percentage change in the ownership of Land resulting from the merger of our subsidiary with and into Land. The continuing validity of the IRS Ruling is subject to the accuracy of factual representations and assumptions made in the ruling request. Moreover, the IRS Ruling only describes the time, manner and methodology for measuring Overlap Shareholders and may be subject to varying interpretations.
The actual determination and calculation of Overlap Shareholders was made by us, Zurn and our respective advisors based on the IRS Ruling, but no assurance can be given that the IRS will agree with these determinations or calculations. If the IRS were to determine that the merger of our subsidiary with and into Land, as a result of an error in the determination of Overlap Shareholders, or other acquisitions of Land, Zurn, or our stock, either before or after the Spin-Off, resulted in a 50% or greater change in ownership and were part of a plan or series of related transactions that included the Spin-Off, such determination could result in significant tax liability to Zurn. In certain circumstances and subject to certain limitations, under the Tax Matters Agreement, Land is required to indemnify Zurn for 100% of the taxes that result if the Distributions become taxable as a result of certain actions by us or Land and for 90% of the taxes that result as a result of a miscalculation of the Overlap Shareholders. If this occurs and Land is required to indemnify Zurn, this indemnification obligation could be substantial and could have a material adverse effect on us and Land, including with respect to our financial condition and results of operations given that we have guaranteed the indemnification obligations of Land.
Following consummation of our merger with the Rexnord PMC business, we and Land are each required to abide by potentially significant restrictions which could limit our ability to undertake certain corporate actions (such as the issuance of common stock or the undertaking of certain business combinations) that otherwise could be advantageous.
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The Tax Matters Agreement we entered into in connection with the Rexnord Transaction imposes certain restrictions on us, Land and Zurn during the two-year period following the Spin-Off, subject to certain exceptions, with respect to actions that could cause the Reorganization and the Distributions to fail to qualify for their intended tax treatment. As a result of these
restrictions, our and Land’s ability to engage in certain transactions, such as the issuance or purchase of stock or certain business combinations, may be limited.
If we, Land or Zurn take any enumerated actions or omissions, or if certain events relating to us, Land or Zurn occur that would cause the Reorganization or the Distributions to become taxable, the party whose actions or omissions (or who the event relates to) generally will be required to bear the cost of any resulting tax liability of Zurn (but not its stockholders). If the Reorganization or the Distributions became taxable, Zurn would be expected to recognize a substantial amount of gain, which would result in a material amount of taxes. Any such taxes would be expected to be material to us and could cause our business, financial condition and operating results to suffer. These restrictions may reduce our ability to engage in certain business transactions that otherwise might be advantageous, which could adversely affect our business, results of operations, or financial condition.
We face risks associated with our evaluation of strategic alternatives for the global motors and generators portion of our Industrial Systems operating segment.
As previously disclosed, we are evaluating strategic alternatives for the global motors and generators portion of our Industrial Systems operating segment. The goal of this evaluation is to identify the most value-creating opportunity for our shareholders. Potential risks include the diversion of management's attention from other business concerns, the potential loss of key employees and customers, potential impairment charges or losses if the business were to be divested at a loss, and restructuring and other disposal charges. Any or all of these risks could impact the Company's financial results.
Risks Relating to Our Global Footprint
We operate in the highly competitive global electric motors and controls, power generation and power transmission industries.
The global electric motors and controls, power generation and power transmission industries are highly competitive. We encounter a wide variety of domestic and international competitors due in part to the nature of the products we manufacture and the wide variety of applications and customers we serve. In order to compete effectively, we must retain relationships with major customers and establish relationships with new customers, including those in developing countries. Moreover, in certain applications, customers exercise significant power over business terms. It may be difficult in the short-term for us to obtain new sales to replace any decline in the sale of existing products that may be lost to competitors. Our failure to compete effectively may reduce our revenues, profitability and cash flow, and pricing pressures resulting from competition may adversely impact our profitability.
We have continued to see a trend with certain customers who are attempting to reduce the number of vendors from which they purchase product in order to reduce their costs and diversify their risk. As a result, we may lose market share to our competitors in some of the markets in which we compete.
In addition, some of our competitors are larger and have greater financial and other resources than we do. There can be no assurance that our products will be able to compete successfully with the products of these other companies.
We manufacture a significant portion of our products outside the U.S., and political, societal or economic instability or public health crises may present additional risks to our business.
As of December 31, 2022, approximately 20,000 of our approximate 26,000 total associates and 69 of our principal manufacturing and warehouse facilities were located outside the U.S. International operations generally are subject to various risks, including political, societal and economic instability, local labor market conditions, public health crises, breakdowns in trade relations, the imposition of tariffs and other trade restrictions, lack of reliable legal systems, ownership restrictions, the impact of government regulations, the effects of income and withholding taxes, governmental expropriation or nationalization, and differences in business practices. We may incur increased costs and experience delays or disruptions in product deliveries and payments in connection with international manufacturing and sales that could cause loss of revenue.
Unfavorable changes in the political, regulatory and business climates in countries where we have operations could have a material adverse effect on our financial condition, results of operations and cash flows, including, for example, the uncertainty surrounding trade relations between the U.S. and China or the ongoing impacts of China's COVID-19 containment policies.
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Moreover, the ongoing conflict between Russia and Ukraine has negatively impacted the global economy and led to various economic sanctions being imposed by the U.S., United Kingdom, European Union, and other countries against Russia. While the impacts of the conflict have not been material on our operating results to date, it is not possible to predict the broader or longer-term consequences of this conflict. Continued escalation of geopolitical tensions related to the conflict could also result in the loss of property, supply chain disruptions, significant inflationary pressure on raw material prices and cost and supply of other resources (such as energy and natural gas), fluctuations in our customers’ buying patterns, credit and capital market disruption which could impact our ability to obtain financing, increase in interest rates and adverse foreign exchange impacts. These broader consequences could have a material adverse effect on our financial condition, results of operations and cash flows.
Disruptions caused by labor disputes or organized labor activities could adversely affect our business or financial results.
We have a significant number of employees in Europe and other jurisdictions where trade union membership is common. Although we believe that our relations with our employees are strong, if our unionized workers were to engage in a strike, work stoppage or other slowdown in the future, we could experience a significant disruption of our operations, which could interfere with our ability to deliver products on a timely basis and could have other negative effects, such as decreased productivity and increased labor costs. In addition, if a greater percentage of our workforce becomes unionized as a result of legal or regulatory changes which may make union organizing easier, or otherwise, our costs could increase and our efficiency may be affected in a material adverse manner, negatively impacting our business and financial results. Further, many of our direct and indirect customers and their suppliers, and organizations responsible for shipping our products, have unionized workforces and their businesses may be impacted by strikes, work stoppages or slowdowns, any of which, in turn, could have a material adverse effect on our business, financial condition, results of operations or cash flows.
Economic and Financial Risks
Commodity, currency and interest rate hedging activities may adversely impact our financial performance as a result of changes in global commodity prices, interest rates and currency rates.
We use derivative financial instruments in order to reduce the substantial effects of currency and commodity fluctuations and interest rate exposure on our cash flow and financial condition. These instruments may include foreign currency and commodity forward contracts, currency swap agreements and currency option contracts, as well as interest rate swap agreements. We have entered into, and may continue to enter into, such hedging arrangements. By utilizing hedging instruments, we may forgo benefits that might result from fluctuations in currency exchange, commodity and interest rates. We are also exposed to the risk that counterparties to hedging contracts will default on their obligations. Any default by such counterparties might have an adverse effect on us.
We may suffer losses as a result of foreign currency fluctuations.
The net assets, net earnings and cash flows from our foreign subsidiaries are based on the U.S. dollar equivalent of such amounts measured in the applicable functional currency.
These foreign operations have the potential to impact our financial position due to fluctuations in the local currency arising from the process of re-measuring the local functional currency in the U.S. Dollars. Any increase in the value of the U.S. Dollar in relation to the value of the local currency, whether by means of market conditions or governmental actions such as currency devaluations, will adversely affect our revenues from our foreign operations when translated into U.S. Dollars. Similarly, any decrease in the value of the U.S. Dollar in relation to the value of the local currency will increase our operating costs in foreign operations, to the extent such costs are payable in foreign currency, when translated into U.S. Dollars.
Worldwide economic conditions may adversely affect our industry, business and results of operations.
General economic conditions and conditions in the global financial markets can affect our results of operations. Deterioration in the global economy could lead to higher unemployment, lower consumer spending and reduced investment by businesses, and could lead our customers to slow spending on our products or make it difficult for our customers, our vendors and us to accurately forecast and plan future business activities. Worsening economic conditions could also affect the financial viability of our suppliers, some of which could be considered key suppliers. If the commercial, industrial, residential HVAC, power generation and power transmission markets significantly deteriorate, our business, financial condition and results of operations will likely be materially and adversely affected. Some of the industries that we serve are highly cyclical, such as the aerospace, energy and industrial equipment industries. Additionally, our stock price could decrease if investors have concerns that our business, financial condition and results of operations will be negatively impacted by a worldwide economic downturn.
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We are subject to tax laws and regulations in many jurisdictions and the inability to successfully defend claims from taxing authorities related to our current and/or acquired businesses could adversely affect our operating results and financial position.
A significant amount of our revenue is generated from customers located outside of the U.S., and a substantial portion of our assets and associates are located outside of the U.S. which requires us to interpret the income tax laws and rulings in each of those taxing jurisdictions. Due to the subjectivity of tax laws between those jurisdictions as well as the subjectivity of factual interpretations, our estimates of income tax liabilities may differ from actual payments or assessments. Claims from taxing authorities related to these differences could have an adverse impact on our operating results and financial position.
Our required cash contributions to our pension plans may increase further and we could experience a change in the funded status of our pension plans and the amount recorded in our consolidated balance sheets related to such plans. Additionally, our pension costs could increase in future years.
The funded status of our defined benefit pension plans depends on such factors as asset returns, market interest rates, legislative changes and funding regulations. If the returns on the assets of any of our plans were to decline in future periods, if market interest rates were to decline, if the Pension Benefit Guaranty Corporation were to require additional contributions to any such plans as a result of acquisitions or if other actuarial assumptions were to be modified, our future required cash contributions and pension costs to such plans could increase. Any such increases could impact our business, financial condition, results of operations or cash flows. The need to make contributions to such plans may reduce the cash available to meet our other obligations, including our obligations under our borrowing arrangements or to meet the needs of our business.
Risks Relating to the Legal and Regulatory Environment
We are subject to changes in legislative, regulatory and legal developments involving income and other taxes.
We are subject to U.S. federal, state, and international income, payroll, property, sales and use, fuel, and other types of taxes. Changes in tax rates, enactment of new tax laws, revisions of tax regulations, and claims or litigation with taxing authorities, including claims or litigation related to our interpretation and application of tax laws and regulations, could result in substantially higher taxes, could have a negative impact on our ability to compete in the global marketplace, and could have a significant adverse effect on our results or operations, financial conditions and liquidity.
It is difficult to predict the timing and effect that future tax law changes could have on our earnings both in the U.S. and in foreign jurisdictions. Such changes could cause us to experience an effective tax rate significantly different from previous periods or our current estimates. If our effective tax rate were to increase, our financial condition and results of operations could be adversely affected.
We are subject to litigation, including product liability, asbestos and warranty claims that may adversely affect our financial condition and results of operations.
We are, from time to time, a party to litigation that arises in the normal course of our business operations, including product warranty and liability claims, contract disputes and environmental, asbestos, employment and other litigation matters. We face an inherent business risk of exposure to product liability, asbestos and warranty claims in the event that the use of our products is alleged to have resulted in injury or other damage. As described above, one of our subsidiaries that we acquired in 2007 is subject to numerous claims filed in various jurisdictions relating to certain sub-fractional motors that were primarily manufactured through 2004 and that were included as components of residential and commercial ventilation units manufactured and sold in high volumes by a third party. In addition, certain subsidiaries of ours are co-defendants in various lawsuits in a number of U.S. jurisdictions alleging personal injury as a result of exposure to asbestos that was used in certain components of legacy Rexnord PMC business products. The uncertainties of litigation and the uncertainties related to insurance and indemnification coverage make it difficult to accurately predict the ultimate financial effect of these claims. If our insurance or indemnification coverage is not adequate to cover our potential financial exposure, our insurers or indemnitors dispute their obligations to provide coverage, or the actual number or value of claims differs materially from our existing estimates, we could incur material costs that could have a material adverse effect on our business, financial condition, results of operations or cash flows.
While we maintain general liability and product liability insurance coverage in amounts that we believe are reasonable, we cannot assure you that we will be able to maintain this insurance on acceptable terms or that this insurance will provide sufficient coverage against potential liabilities that may arise. Any product liability claim may also include the imposition of punitive damages, the award of which, pursuant to certain state laws, may not be covered by insurance. Any claims brought
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against us, with or without merit, may have an adverse effect on our business and results of operations as a result of potential adverse outcomes, the expenses associated with defending such claims, the diversion of our management’s resources and time and the potential adverse effect to our business reputation. See Note 12 – Contingencies of the Notes to the Consolidated Financial Statements for more information.
Infringement of our intellectual property by third parties may harm our competitive position, and we may incur significant costs associated with the protection and preservation of our intellectual property.
We own or otherwise have rights in a number of patents and trademarks relating to the products we manufacture, which have been obtained over a period of years, and we expect to actively pursue patents in connection with new product development and to acquire additional patents and trademarks through the acquisitions of other businesses. These patents and trademarks have been of value in the growth of our business and may continue to be of value in the future. Our inability to protect this intellectual property generally, or the illegal breach of some or a large group of our intellectual property rights, would have an adverse effect on our business. In addition, there can be no assurance that our intellectual property will not be challenged, invalidated, circumvented or designed-around, particularly in countries where intellectual property rights are not highly developed or protected. We have incurred in the past, and expect to incur in the future, significant costs associated with defending challenges to our intellectual property or enforcing our intellectual property rights, which could adversely impact our cash flow and results of operations.
Third parties may claim that we are infringing their intellectual property rights and we could incur significant costs and expenses or be prevented from selling certain products.
We may be subject to claims from third parties that our products or technologies infringe on their intellectual property rights or that we have misappropriated intellectual property rights. If we are involved in a dispute or litigation relating to infringement of third party intellectual property rights, we could incur significant costs in defending against those claims. Our intellectual property portfolio may not be useful in asserting a counterclaim, or negotiating a license, in response to a claim of infringement or misappropriation. In addition, as a result of such claims of infringement or misappropriation, we could lose our rights to technology that are important to our business, or be required to pay damages or license fees with respect to the infringed rights or be required to redesign our products at substantial cost, any of which could adversely impact our cash flows and results of operations.
We may incur costs or suffer reputational damage due to improper conduct of our associates, agents or business partners.
We are subject to a variety of domestic and foreign laws, rules and regulations relating to improper payments to government officials, bribery, anti-kickback and false claims rules, competition, export and import compliance, money laundering and data privacy. If our associates, agents or business partners engage in activities in violation of these laws, rules or regulations, we may be subject to civil or criminal fines or penalties or other sanctions, may incur costs associated with government investigations, or may suffer damage to our reputation.
Our operations are highly dependent on information technology infrastructure, and failures, attacks or breaches could significantly affect our business.
We depend heavily on our information technology infrastructure in order to achieve our business objectives. If we experience a problem that impairs this infrastructure, such as a computer virus, a problem with the functioning of an important IT application, or an intentional disruption of our IT systems by a third party, the resulting disruptions could impede our ability to record or process orders, manufacture and ship in a timely manner, or otherwise carry on our business in the ordinary course. Any such events could cause us to lose customers or revenue and could require us to incur significant expense to eliminate these problems and address related security concerns, including costs relating to investigation and remediation actions.
IT security threats via computer malware and other “cyber-attacks,” which are increasing in both frequency and sophistication, could also result in unauthorized disclosures of information, such as customer data, personally identifiable information or other confidential or proprietary material, and create financial liability, subject us to legal or regulatory sanctions, or damage our reputation. Moreover, because the techniques used to gain access to or sabotage systems often are not recognized until launched against a target, we may be unable to anticipate the methods necessary to defend against these types of attacks, and we cannot predict the extent, frequency or impact these attacks may have. While we maintain robust information security mechanisms and controls, the impact of a material IT event could have a material adverse effect on our competitive position, results of operations, financial condition and cash flow.
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We have substantially completed the implementation of two Enterprise Resource Planning (“ERP”) systems that each redesigned and deployed common information systems. As part of our supply chain optimization and footprint repositioning strategies, we will continue to implement ERP systems throughout the business. The process of implementation can be costly and can divert the attention of management from the day-to-day operations of the business. As we implement the ERP systems, some elements may not perform as expected. This could have an adverse effect on our business.
Changes in data privacy laws and our ability to comply with them could have a material adverse effect on us.
We collect and store data that is sensitive to us and our employees, customers, dealers and suppliers. A variety of state, national, foreign and international laws and regulations apply to the collection, use, retention, protection, security, disclosure, transfer and other processing of personal and other data. Many foreign data privacy regulations, including the General Data Protection Regulation (the “GDPR”) in the European Union, are more stringent than federal regulations in the United States. Within the United States, many states are considering adopting, or have already adopted privacy regulations, including, for example, the California Consumer Privacy Act. The applicability of these laws to our business has increased due to our focus on expanding e-commerce offerings. These laws and regulations are rapidly evolving and changing, and could have an adverse effect on our operations. Companies’ obligations and requirements under these laws and regulations are subject to uncertainty in how they may be interpreted by courts and governmental authorities. The costs of compliance with, and the other burdens imposed by, these and other laws or regulatory actions may increase our operational costs. In the case of non-compliance with these laws, including the GDPR, regulators have the authority to levy significant fines. In addition, if there is a breach of privacy, we may face litigation or regulatory sanctions, or be required to make notifications under data privacy regulations. The occurrence of any of these events could have a material adverse effect on our reputation, business, financial condition, results of operations and cash flows.
We may be adversely affected by environmental, health and safety laws and regulations.
We are subject to various laws and regulations relating to the protection of the environment and human health and safety and expect incur capital and other expenditures to comply with these regulations. Failure to comply with any environmental regulations, including more stringent environmental laws that may be imposed in the future, could subject us to future liabilities, fines or penalties or the suspension of production. In addition, if environmental and human health and safety laws and regulations are repealed, made less burdensome or implemented at a later date, demand for our products designed to comply with such regulations may be unfavorably impacted.
General Risks
Our operations can be negatively impacted by natural disasters, terrorism, acts of war, international conflict, political and governmental actions which could harm our business.
Natural disasters, acts or threats of war or terrorism, international conflicts, and the actions taken by the U.S. and other governments in response to such events could cause damage or disrupt our business operations, our suppliers, or our customers, and could create political or economic instability, any of which could have an adverse effect on our business. Although it is not possible to predict such events or their consequences, these events could decrease demand for our products, could make it difficult or impossible for us to deliver products, or could disrupt our supply chain. We may also be negatively impacted by actions by the U.S. or foreign governments which could disrupt manufacturing and commercial operations, including policy changes affecting taxation, trade, immigration, currency devaluation, tariffs, customs, border actions and the like, including, for example, trade relations between the U.S. and China, the ongoing conflict between Russia and Ukraine, or the ongoing impacts of China's COVID-19 containment policies.
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Our stock may be subject to significant fluctuations and volatility.
The market price of shares of our common stock may be volatile. Among the factors that could affect our common stock price are those discussed above under “Risk Factors” as well as:
•domestic and international economic and political factors unrelated to our performance;
•quarterly fluctuation in our operating income and earnings per share results;
•decline in demand for our products;
•significant strategic actions by our competitors, including new product introductions or technological advances;
•fluctuations in interest rates;
•cost increases in energy, raw materials, intermediate components or materials, or labor; and
•changes in revenue or earnings estimates or publication of research reports by analysts.
In addition, stock markets may experience extreme volatility that may be unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the trading price of our common stock.
ITEM 1B - UNRESOLVED STAFF COMMENTS
None.
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ITEM 2 - PROPERTIES
Our corporate offices are located in Beloit, Wisconsin in an approximately 50,000 square foot owned office building, in Rosemont, Illinois in an approximately 12,100 square foot rented office building and in Milwaukee, Wisconsin is an approximately 142,000 square foot rented office building. We have manufacturing, sales and service facilities throughout the US and in Mexico, China, Europe and India as well as a number of other locations throughout the world.
Our Commercial Systems segment currently includes 52 facilities, of which 16 are principal manufacturing facilities and 3 are principal warehouse facilities. The Commercial Systems segment's present operating facilities contain a total of approximately 3.3 million square feet of space, of which approximately 24% are leased.
The following represents our principal manufacturing and warehouse facilities in the Commercial Systems segment (square footage in millions):
| Square Footage | ||||||||||||||||||||||||||
| Location | Facilities | Total | Owned | Leased | ||||||||||||||||||||||
| US | 3 | 0.6 | 0.6 | — | ||||||||||||||||||||||
| Mexico | 4 | 0.8 | 0.6 | 0.2 | ||||||||||||||||||||||
| China | 5 | 0.9 | 0.8 | 0.1 | ||||||||||||||||||||||
| India | 2 | 0.1 | — | 0.1 | ||||||||||||||||||||||
| Europe | 4 | 0.1 | 0.1 | — | ||||||||||||||||||||||
| Other | 1 | 0.2 | 0.2 | — | ||||||||||||||||||||||
| Total | 19 | 2.7 | 2.3 | 0.4 | ||||||||||||||||||||||
Our Industrial Systems segment currently includes 27 facilities, of which 12 are principal manufacturing facilities and 8 are principal warehouse facilities. The Industrial Systems segment's present operating facilities contain a total of approximately 3.3 million square feet of space, of which approximately 41% are leased.
The following represents our principal manufacturing and warehouse facilities in the Industrial Systems segment (square footage in millions):
| Square Footage | ||||||||||||||||||||||||||
| Location | Facilities | Total | Owned | Leased | ||||||||||||||||||||||
| US | 2 | 0.7 | 0.7 | — | ||||||||||||||||||||||
| Mexico | 3 | 0.4 | — | 0.4 | ||||||||||||||||||||||
| China | 3 | 0.7 | 0.7 | — | ||||||||||||||||||||||
| India | 2 | 0.3 | 0.2 | 0.1 | ||||||||||||||||||||||
| Europe | 2 | 0.2 | 0.2 | — | ||||||||||||||||||||||
| Other | 8 | 0.9 | 0.1 | 0.8 | ||||||||||||||||||||||
| Total | 20 | 3.2 | 1.9 | 1.3 | ||||||||||||||||||||||
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Our Climate Solutions segment currently includes 23 facilities, of which 6 are principal manufacturing facilities and 6 are principal warehouse facilities. The Climate Solutions segment's present operating facilities contain a total of approximately 1.9 million square feet of space, of which approximately 55% are leased.
The following represents our principal manufacturing and warehouse facilities in the Climate Solutions segment (square footage in millions):
| Square Footage | ||||||||||||||||||||||||||
| Location | Facilities | Total | Owned | Leased | ||||||||||||||||||||||
| US | 2 | 0.2 | 0.1 | 0.1 | ||||||||||||||||||||||
| Mexico | 3 | 0.6 | 0.3 | 0.3 | ||||||||||||||||||||||
| China | 2 | 0.2 | — | 0.2 | ||||||||||||||||||||||
| India | 3 | 0.4 | 0.4 | — | ||||||||||||||||||||||
| Europe | 1 | 0.1 | 0.1 | — | ||||||||||||||||||||||
| Other | 1 | 0.1 | — | 0.1 | ||||||||||||||||||||||
| Total | 12 | 1.6 | 0.9 | 0.7 | ||||||||||||||||||||||
Our Motion Control Solutions segment currently includes 97 facilities, of which 49 are principal manufacturing facilities and 10 are principal warehouse facilities. The Motion Control Solutions segment's present operating facilities contain a total of approximately 9.3 million square feet of space, of which approximately 29% are leased.
The following represents our principal manufacturing and warehouse facilities in the Motion Control Solutions segment (square footage in millions):
| Square Footage | ||||||||||||||||||||||||||
| Location | Facilities | Total | Owned | Leased | ||||||||||||||||||||||
| US | 34 | 5.8 | 4.6 | 1.2 | ||||||||||||||||||||||
| Mexico | 5 | 1.0 | 0.5 | 0.5 | ||||||||||||||||||||||
| China | 3 | 0.7 | 0.2 | 0.5 | ||||||||||||||||||||||
| India | 3 | 0.1 | 0.1 | — | ||||||||||||||||||||||
| Europe | 9 | 1.0 | 0.9 | 0.1 | ||||||||||||||||||||||
| Other | 5 | 0.3 | 0.2 | 0.1 | ||||||||||||||||||||||
| Total | 59 | 8.9 | 6.5 | 2.4 | ||||||||||||||||||||||
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ITEM 3 - LEGAL PROCEEDINGS
A subsidiary that we acquired in 2007 is subject to numerous claims filed in various jurisdictions relating to certain sub-fractional motors that were primarily manufactured through 2004 and that were included as components of residential and commercial ventilation units manufactured and sold in high volumes by a third party. These ventilation units are subject to product safety requirements and other potential regulation of their performance by government agencies such as the US Consumer Product Safety Commission (“CPSC”). The claims generally allege that the ventilation units were the cause of fires. We have recorded an estimated liability for incurred claims. Based on the current facts, we cannot assure that these claims, individually or in the aggregate, will not have a material adverse effect on our subsidiary's financial condition. Our subsidiary cannot reasonably predict the outcome of these claims, the nature or extent of any CPSC or other remedial actions, if any, that our subsidiary may need to undertake with respect to motors that remain in the field, or the costs that may be incurred, some of which could be significant.
As a result of our acquisition of the Rexnord PMC business, we are entitled to indemnification from third parties who are parties to agreements with the Rexnord PMC business against certain contingent liabilities of the Rexnord PMC business, including certain pre-closing environmental liabilities.
We believe that, pursuant to the transaction documents related to the Rexnord PMC business’ acquisition of the Stearns business from Invensys plc (“Invensys”), Invensys (now known as Schneider Electric) is obligated to defend and indemnify us with respect to the matters described below relating to the Ellsworth Industrial Park Site and to various asbestos claims. The indemnity obligations relating to the matters described below are subject, together with indemnity obligations relating to other matters, to an overall dollar cap equal to the purchase price, which is an amount in excess of $900.0 million. In the event that we are unable to recover from Invensys with respect to the matters below, we may be entitled to indemnification from Zurn, subject to certain limitations. The following paragraphs summarize the most significant actions and proceedings:
•In 2002, our subsidiary, Rexnord Industries, LLC (“Rexnord Industries”), was named as a potentially responsible party (“PRP”), together with at least ten other companies, at the Ellsworth Industrial Park Site, Downers Grove, DuPage County, Illinois (the “Site”), by the United States Environmental Protection Agency (“USEPA”), and the Illinois Environmental Protection Agency (“IEPA”). Rexnord Industries’ Downers Grove property is situated within the Ellsworth Industrial Complex. The USEPA and IEPA allege there have been one or more releases or threatened releases of chlorinated solvents and other hazardous substances, pollutants or contaminants at the Site, allegedly including but not limited to a release or threatened release on or from Rexnord Industries’ property. The relief sought by the USEPA and IEPA includes further investigation and potential remediation of the Site and reimbursement of USEPA’s past costs. In early 2020, Rexnord Industries entered into an administrative order with the USEPA to do remediation work on its Downers Grove property. Rexnord Industries’ allocated share of past and future costs related to the Site, including for investigation and/or remediation, could be significant. All previously pending property damage and personal injury lawsuits against Rexnord Industries related to the Site have been settled or dismissed. Pursuant to its indemnity obligation, Invensys continues to defend Rexnord Industries in known matters related to the Site, including the costs of the remediation work pursuant to the 2020 administrative order, and has paid 100% of the costs to date. This indemnification right would not protect Rexnord Industries against liabilities related to environmental conditions that were unknown to Invensys at the time of the acquisition of the Stearns business from Invensys.
•Multiple lawsuits (with approximately 350 claimants) are pending in state or federal court in numerous jurisdictions relating to alleged personal injuries due to the alleged presence of asbestos in certain brakes and clutches previously manufactured by the Rexnord PMC business’ Stearns brand of brakes and clutches and/or its predecessor owners. Invensys and FMC, prior owners of the Stearns business, have paid 100% of the costs to date related to the Stearns lawsuits. Similarly, the Rexnord PMC business’ Prager subsidiary is the subject of claims by multiple claimants alleging personal injuries due to the alleged presence of asbestos in a product allegedly manufactured by Prager. However, all these claims are currently on the Texas Multi-district Litigation inactive docket, and we do not believe that they will become active in the future. To date, the Rexnord PMC business’ insurance providers have paid 100% of the costs related to the Prager asbestos matters. We believe that the combination of our insurance coverage and the Invensys indemnity obligations will cover any future costs of these matters.
In connection with our acquisition of the Rexnord PMC business, transaction documents related to the Rexnord PMC business’ acquisition of The Falk Corporation from Hamilton Sundstrand Corporation were assigned to Rexnord Industries, and provide Rexnord Industries with indemnification against certain products-related asbestos exposure liabilities. We believe that, pursuant to such indemnity obligations, Hamilton Sundstrand is obligated to defend and indemnify Rexnord Industries with respect to asbestos claims that may be significant, and that, with respect to these claims, such indemnity obligations are not subject to any
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time or dollar limitations. The following paragraph summarizes the most significant actions and proceedings for which Hamilton Sundstrand has accepted responsibility:
•Rexnord Industries is a defendant in multiple lawsuits pending in state or federal court in numerous jurisdictions relating to alleged personal injuries due to the alleged presence of asbestos in certain clutches and drives previously manufactured by The Falk Corporation. The ultimate outcome of these lawsuits cannot presently be determined. Hamilton Sundstrand is defending Rexnord Industries in these lawsuits pursuant to its indemnity obligations and has paid 100% of the costs to date.
In addition to the matters described above, we are from time to time, party to litigation and other legal or regulatory proceedings that arise in the normal course of our business operations and the outcomes of which are subject to significant uncertainty, including product warranty and liability claims, contract disputes and environmental, asbestos, intellectual property, employment and other litigation matters. Our products are used in a variety of industrial, commercial and residential applications that subject us to claims that the use of our products is alleged to have resulted in injury or other damage. Many of these matters will only be resolved when one or more future events occur or fail to occur. Our management conducts regular reviews, including updates from legal counsel, to assess the need for accounting recognition or disclosure of these contingencies, and such assessment inherently involves an exercise in judgment. We accrue for exposures in amounts that we believe are adequate, and we do not believe that the outcome of any such lawsuit individually or collectively will have a material effect on our financial position, results of operations or cash flows.
See Note 12 – Contingencies of the Notes to the Consolidated Financial Statements for more information.
ITEM 4 - MINE SAFETY DISCLOSURES
Not applicable.
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PART II
ITEM 5 - MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED SHAREHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES
General
Our common stock, $0.01 par value per share, is traded on the New York Stock Exchange under the symbol “RRX.” The number of registered holders of common stock as of February 22, 2023 was 273.
There were no repurchases of our common stock during the quarter ended December 31, 2022.
Under our equity incentive plans, participants may pay the exercise price or satisfy all or a portion of the federal, state and local withholding tax obligations arising in connection with plan awards by electing to (a) have the Company withhold shares of common stock otherwise issuable under the award, (b) tender back shares received in connection with such award or (c) deliver other previously owned shares of common stock, in each case having a value equal to the exercise price or the amount to be withheld. During the quarter ended December 31, 2022, we did not acquire any shares in connection with transactions pursuant to equity incentive plans.
At a meeting of the Board of Directors on October 26, 2021, the Company's Board of Directors approved the authorization to purchase up to $500.0 million of shares under the Company's share repurchase program. The authorization has no expiration date. Management is authorized to effect purchases from time to time in the open market or through privately negotiated transactions. From time to time, we enter into a Rule 10b5-1 trading plan for the purpose of repurchasing shares. During fiscal 2022, we purchased 1,698,227 shares or $239.2 million in shares pursuant to the repurchase authorization. During fiscal 2021, we purchased 156,184 shares or $25.8 million in shares pursuant to the repurchase authorization. During fiscal 2020, we purchased 315,072 shares or $25.0 million in shares pursuant to our previous repurchase authorization program. The maximum value of shares of our common stock available to be purchased as of December 31, 2022 is $195.0 million.
Item 12 of this Annual Report on Form 10-K contains certain information relating to our equity compensation plans.
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Stock Performance
The following information in this Item 5 of this Annual Report on Form 10-K is not deemed to be “soliciting material” or to be “filed” with the SEC or subject to Regulation 14A or 14C under the Securities Exchange Act of 1934 (the “Exchange Act”) or to the liabilities of Section 18 of the Exchange Act, and will not be deemed to be incorporated by reference into any filing under the Securities Act of 1933 or the Exchange Act.
The following graph compares the hypothetical total shareholder return (including reinvestment of dividends) on an investment in (1) our common stock, (2) the Standard & Poor's Mid Cap 400 Index, (3) the Standard & Poor's 400 Electrical Components and Equipment Index, and (4) the Standard & Poor's 400 Industrials Index, for the period December 30, 2017 through December 31, 2022. In each case, the graph assumes the investment of $100.00 on December 30, 2017. We have added the Standard & Poor's 400 Industrials index to the graph and intend for this index to replace the Standard & Poor's 400 Electrical Components and Equipment Index in future years, because we believe it provides a more meaningful comparison to our total shareholder return as a result of the ongoing evolution of our business. Consistent with this rationale, we believe that the Standard & Poor's 400 Industrials Index will continue to align well with our business after the completion of the Altra Transaction.
| INDEXED RETURNS | ||||||||||||||||||||||||||||||||
| Years Ended | ||||||||||||||||||||||||||||||||
| Company / Index | 2018 | 2019 | 2020 | 2021 | 2022 | |||||||||||||||||||||||||||
| Regal Rexnord Corporation | $ | 92.78 | $ | 114.84 | $ | 167.50 | $ | 245.48 | $ | 174.91 | ||||||||||||||||||||||
| S&P MidCap 400 Index | 88.01 | 112.15 | 127.54 | 159.12 | 138.34 | |||||||||||||||||||||||||||
| S&P 400 Electrical Components & Equipment | 87.32 | 111.05 | 146.51 | 179.50 | 152.46 | |||||||||||||||||||||||||||
| S&P 400 Industrials Index | 84.09 | 113.92 | 132.41 | 170.07 | 150.52 | |||||||||||||||||||||||||||
ITEM 6 - [RESERVED]
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ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
(Dollars In Millions Except Per Share Data, Unless Otherwise Noted)
Effective for fiscal year 2022, we approved a change in the fiscal year end from a 52/53 week fiscal year ending on the Saturday closest to December 31. We refer to the fiscal year ended December 31, 2022 as “fiscal 2022", the fiscal year ended January 1, 2022 as “fiscal 2021" and the fiscal year ended January 2, 2021 as “fiscal 2021".
Overview
General
Regal Rexnord Corporation (NYSE: RRX) (“we,” “us,” “our” or the “Company”) is a global leader in the engineering and manufacturing of industrial powertrain solutions, power transmission components, electrical motors and electronic controls, air moving products and specialty electrical components and systems, serving customers around the world. Through longstanding technology leadership and an intentional focus on producing more energy-efficient products and systems, we help create a better tomorrow – for our customers and for the planet.
We are headquartered in Beloit, Wisconsin and have manufacturing, sales and service facilities worldwide. As of the end of fiscal 2022, the Company, including its subsidiaries, employed approximately 26,000 people in its global manufacturing, sales, and service facilities and corporate offices. In fiscal 2022, we reported annual net sales of $5.2 billion compared to $3.8 billion in fiscal 2021.
Our company is comprised of four operating segments: Commercial Systems, Industrial Systems, Climate Solutions and Motion Control Solutions.
A description of our four operating segments is as follows:
•Commercial Systems segment designs and produces fractional to approximately 5 horsepower AC and DC motors, electronic variable speed controls, fans, and blowers for commercial applications. These products serve markets including commercial building ventilation and HVAC, pool and spa, irrigation, dewatering, agriculture, and general commercial equipment.
•Industrial Systems segment designs and produces integral motors, automatic transfer switches, alternators and switchgear for industrial applications, along with aftermarket parts and kits to support such products. These products serve markets including agriculture, marine, mining, oil and gas, food and beverage, data centers, healthcare, prime and standby power, and general industrial equipment.
•Climate Solutions segment designs and produces small motors, electronic variable speed controls and air moving solutions serving markets including residential and light commercial HVAC, water heaters and commercial refrigeration.
•Motion Control Solutions segment designs, produces and services mounted and unmounted bearings, conveyor products, conveying automation solutions, couplings, mechanical power transmission drives and components, gearboxes and gear motors, aerospace components, special components products and industrial powertrain components and solutions serving a broad range of markets including food and beverage, bulk handling, eCommerce/warehouse distribution, energy, aerospace and general industrial.
As previously disclosed, we are considering a full range of strategic alternatives for the global motors and generators portion of our Industrial Systems operating segment, which constitutes the majority of sales in this segment. Our ongoing strategic review may or may not lead to a decision to divest this business.
Components of Profit and Loss
Net Sales. We sell our products to a variety of manufacturers, distributors and end users. Our customers consist of a large cross-section of businesses, ranging from Fortune 100 companies to small businesses. A number of our products are sold to OEMs, who incorporate our products, such as electric motors, into products they manufacture, and many of our products are built to the requirements of our customers. The majority of our sales are derived from direct sales to customers by sales personnel employed by the Company, however, a significant portion of our sales are derived from sales made by manufacturer’s
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representatives, who are paid exclusively on commission. Our product sales are made via purchase order, long-term contract, and, in some instances, one-time purchases. Many of our products have broad customer bases, with the levels of concentration of revenues varying from business unit to business unit.
Our level of net sales for any given period is dependent upon a number of factors, including (i) the demand for our products; (ii) the strength of the economy generally and the end markets in which we compete; (iii) our customers’ perceptions of our product quality at any given time; (iv) our ability to timely meet customer demands; (v) the selling price of our products; and (vi) the weather. As a result, our total revenue has tended to experience quarterly variations and our total revenue for any particular quarter may not be indicative of future results.
We use the term “organic sales" to refer to sales from existing operations excluding (i) sales from acquired businesses recorded prior to the first anniversary of the acquisition (“Acquisition Sales”), (ii) less the amount of sales attributable to any businesses divested/to be exited ("Business To Be Exited"), and (iii) the impact of foreign currency translation. The impact of foreign currency translation is determined by translating the respective period’s organic sales using the same currency exchange rates that were in effect during the prior year periods. We use the term “organic sales growth” to refer to the increase in our sales between periods that is attributable to organic sales. We use the term “acquisition growth” to refer to the increase in our sales between periods that is attributable to Acquisition Sales. Organic sales, organic sales growth and acquisition growth are non-GAAP measures. See reconciliation of these measures to GAAP net sales in Non-GAAP Measures below.
Gross Profit. Our gross profit is impacted by our levels of net sales and cost of sales. Our cost of sales consists of costs for, among other things (i) raw materials, including copper, steel and aluminum; (ii) components such as castings, bars, tools, bearings and electronics; (iii) wages and related personnel expenses for fabrication, assembly and logistics personnel; (iv) manufacturing facilities, including depreciation on our manufacturing facilities and equipment, insurance and utilities; and (v) shipping. The majority of our cost of sales consists of raw materials and components. The price we pay for commodities and components can be subject to commodity price fluctuations. We attempt to mitigate portions of the commodity price fluctuations through fixed-price agreements with suppliers and our hedging strategies. When we experience commodity price increases, we have tended to announce price increases to our customers who purchase via purchase order, with such increases generally taking effect a period of time after the public announcements. For those sales we make under long-term arrangements, we tend to include material price formulas that specify quarterly or semi-annual price adjustments based on a variety of factors, including commodity prices.
Outside of general economic cyclicality, our business units experience different levels of variation in sales from quarter to quarter based on factors specific to each business. For example, a portion of our Climate Solutions segment manufactures products that are used in air conditioning applications. As a result, our sales for that business tend to be lower in the first and fourth quarters and higher in the second and third quarters. In contrast, our Commercial Systems segment, Industrial Systems segment and Motion Control Solutions segment have a broad customer base and a variety of applications, thereby helping to mitigate large quarter-to-quarter fluctuations outside of general economic conditions.
Operating Expenses. Our operating expenses consist primarily of (i) general and administrative expenses; (ii) sales and marketing expenses; (iii) general engineering and research and development expenses; and (iv) handling costs incurred in conjunction with distribution activities. Personnel related costs are our largest operating expense.
Our general and administrative expenses consist primarily of costs for (i) salaries, benefits and other personnel expenses related to our executive, finance, human resource, information technology, legal and operations functions; (ii) occupancy expenses; (iii) technology related costs; (iv) depreciation and amortization; and (v) corporate-related travel. The majority of our general and administrative costs are for salaries and related personnel expenses. These costs can vary by business given the location of our different manufacturing operations.
Our sales and marketing expenses consist primarily of costs for (i) salaries, benefits and other personnel expenses related to our sales and marketing function; (ii) internal and external sales commissions and bonuses; (iii) travel, lodging and other out-of-pocket expenses associated with our selling efforts; and (iv) other related overhead.
Our general engineering and research and development expenses consist primarily of costs for (i) salaries, benefits and other personnel expenses; (ii) the design and development of new energy efficiency products and enhancements; (iii) quality assurance and testing; and (iv) other related overhead. Our research and development efforts tend to be targeted toward developing new products that would allow us to maintain or gain additional market share, whether in new or existing applications. In particular, a large driver of our research and development efforts is energy efficiency, which generally means using less electrical power to produce more mechanical power.
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Goodwill & Other Asset Impairments.
The following table presents impairments by segment as of December 31, 2022, January 1, 2022 and January 2, 2021:
| Commercial Systems | Industrial Systems (1) | Climate Solutions | Motion Control Solutions | Total | |||||||||||||||||||||||||
| Fiscal 2022 | |||||||||||||||||||||||||||||
| Goodwill Impairments | $ | — | $ | — | $ | — | $ | — | $ | — | |||||||||||||||||||
Impairment of Other Long-Lived Assets (2) | — | — | — | 0.9 | 0.9 | ||||||||||||||||||||||||
| Total Impairments | $ | — | $ | — | $ | — | $ | 0.9 | $ | 0.9 | |||||||||||||||||||
| Fiscal 2021 | |||||||||||||||||||||||||||||
| Goodwill Impairments | $ | — | $ | 33.0 | $ | — | $ | — | $ | 33.0 | |||||||||||||||||||
Impairment of Other Long-Lived Assets (2) | 1.8 | — | 0.5 | 3.3 | 5.6 | ||||||||||||||||||||||||
| Total Impairments | $ | 1.8 | $ | 33.0 | $ | 0.5 | $ | 3.3 | $ | 38.6 | |||||||||||||||||||
| Fiscal 2020 | |||||||||||||||||||||||||||||
| Goodwill Impairments | $ | — | $ | 10.5 | $ | — | $ | — | $ | 10.5 | |||||||||||||||||||
Impairment of Other Long-Lived Assets (2) | 2.8 | 0.2 | 1.3 | 1.0 | 5.3 | ||||||||||||||||||||||||
| Total Impairments | $ | 2.8 | $ | 10.7 | $ | 1.3 | $ | 1.0 | $ | 15.8 | |||||||||||||||||||
(1) The goodwill impairment was in our global industrial motors reporting unit.
(2) Related to assets held for sale.
See Note 5 – Goodwill and Intangible Asserts in the Notes to the Consolidated Financial Statements for additional information
Income from Operations. Our income from operations consists of the segment gross profit less the segment operating expenses. In addition, there are shared operating costs that cover corporate, engineering and IT expenses that are consistently allocated to the operating segments and are included in the segment operating expenses. Income from operations is a key metric used to measure year-over-year improvement of the segments.
COVID-19 Pandemic and Other Macroeconomic Pressures
The COVID-19 outbreak and associated counteracting measures implemented by governments and businesses around the world, as well as subsequent accelerated recovery in global business activity, have increased uncertainty in the global business environment and led to supply chain disruptions and shortages in global markets for commodities, logistics and labor, as well as input cost inflation. Currently our expectation is that the impact of cost inflation, including labor, energy, freight and logistics costs, as well as supplier component input availability will continue throughout 2023. COVID-19 lockdowns in China during fiscal 2022 disrupted our Chinese manufacturing operations and negatively impacted demand for our products in the region. Significant increases in COVID-19 infections in that geographic region may continue to disrupt our Chinese manufacturing operations, impact demand for our products, and could also lead to additional supply chain disruptions and commercial challenges.
The public health situation, continued global response measures and corresponding impacts on various markets remain fluid and uncertain and may lead to sudden changes in trajectory and outlook. The Company will continue to proactively respond to the situation and may take further actions that alter our business activity as may be required by governmental authorities, or that we determine are in the best interests of our employees and operations.
Altra, Rexnord and Arrowhead Transactions
Altra Transaction. On October 26, 2022, we entered into the Altra Merger Agreement with Altra and Merger Sub to acquire all of the issued and outstanding common stock of Altra for $62.00 per common share, or a total preliminary purchase price of $4.95 billion. Pursuant to the terms of the Altra Merger Agreement, subject to the satisfaction or waiver of specified conditions, Merger Sub will merge with and into Altra, with Altra surviving the transaction as our wholly owned subsidiary. See Item I - Business and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Altra Transaction.
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In connection with the Altra Transaction, we entered into certain financing arrangements, which are described below under “Liquidity and Capital Resources”.
Rexnord Transaction. On October 4, 2021, in accordance with the terms and conditions of the Agreement and Plan of Merger, dated February 15, 2021, we completed our combination with the Rexnord PMC business of Zurn Elkay Water Solutions Corporation (formerly known as Rexnord Corporation) in a Reverse Morris Trust transaction (the “Rexnord Transaction”). Our shareholders of record as of October 1, 2021 received a special dividend of $6.99 per share (or approximately $284.4 million in aggregate) in connection with the Rexnord Transaction. The Rexnord PMC business forms a part of our Motion Control Solutions segment, and its financials have been included in results for that segment from the date of acquisition. See Item I - Business and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Rexnord Transaction.
In connection with the Rexnord Transaction, we entered into certain financing arrangements, which are described below under “Liquidity and Capital Resources”.
Arrowhead Transaction. On November 23, 2021, we acquired Arrowhead for $315.6 million in cash, net of $1.1 million of cash acquired. Arrowhead is a global leader in providing industrial process automation solutions, including conveyors and (de)palletizers to the food & beverage, aluminum can, and consumer staples end markets, among others. Arrowhead is now a part of the Automation Solutions business unit of our Motion Control Solutions segment, and its financials have been included in results for that segment from the date of acquisition. See Item I - Business and Note 4 – Acquisitions and Divestitures of the Notes to the Consolidated Financial Statements for additional information regarding the Arrowhead Transaction.
Change in Fiscal Year End
At a meeting of the Board of Directors of Regal Rexnord Corporation on October 26, 2021, the Board approved a change in the fiscal year end from a 52-53 week year ending on the Saturday closest to December 31 to a calendar year ending on December 31, effective beginning with fiscal year 2022. We made the fiscal year change on a prospective basis and did not adjust operating results for prior periods. We believe this change will provide numerous benefits, including aligning our reporting periods to be more consistent with peer companies. While this change impacts the comparability of each of the periods presented, the impact is not material.
Change in Accounting Principle
As of January 2, 2022, we changed our methodology for valuing certain inventories to the first-in, first-out ("FIFO") cost method from the last-in, first-out ("LIFO") cost method. The effects of this change have been retrospectively applied to all periods presented. See Note 3 – Accounting Policies of the Notes to the Consolidated Financial Statements for more information.
Outlook
In fiscal 2023, we expect organic revenue to be slightly down at the mid-point of its range. In fiscal 2023, we expect diluted earnings per share to be $5.64 to $6.44. Our fiscal 2023 diluted earnings per share guidance is based on an effective tax rate of 21.5%. Our outlook for fiscal 2023 includes financing costs and net interest expense on the recently issued Senior Notes, but excludes other financial impacts from the Altra Transaction. See Note 7 – Debt and Bank Credit Facilities of the Notes to the Consolidated Financial Statements for more information on the Senior Notes.
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Results of Operations
The following table sets forth selected information for the years indicated:
| 2022 | 2021 | 2020 | |||||||||||||||
| Net Sales: | |||||||||||||||||
| Commercial Systems | $ | 1,145.4 | $ | 1,032.1 | $ | 820.2 | |||||||||||
| Industrial Systems | 616.0 | 576.3 | 528.8 | ||||||||||||||
| Climate Solutions | 1,081.8 | 1,030.6 | 846.8 | ||||||||||||||
| Motion Control Solutions | 2,374.7 | 1,171.3 | 711.2 | ||||||||||||||
| Consolidated | $ | 5,217.9 | $ | 3,810.3 | $ | 2,907.0 | |||||||||||
| Gross Profit as a Percent of Net Sales: | |||||||||||||||||
| Commercial Systems | 28.7 | % | 26.6 | % | 25.9 | % | |||||||||||
| Industrial Systems | 24.8 | % | 18.7 | % | 17.9 | % | |||||||||||
| Climate Solutions | 26.2 | % | 30.3 | % | 29.2 | % | |||||||||||
| Motion Control Solutions | 38.1 | % | 35.6 | % | 35.5 | % | |||||||||||
| Consolidated | 32.0 | % | 29.2 | % | 27.7 | % | |||||||||||
| Operating Expenses as a Percent of Net Sales: | |||||||||||||||||
| Commercial Systems | 14.2 | % | 15.6 | % | 17.7 | % | |||||||||||
| Industrial Systems | 15.9 | % | 15.3 | % | 17.3 | % | |||||||||||
| Climate Solutions | 11.2 | % | 11.2 | % | 13.6 | % | |||||||||||
| Motion Control Solutions | 25.1 | % | 29.9 | % | 22.6 | % | |||||||||||
| Consolidated | 18.8 | % | 18.8 | % | 17.6 | % | |||||||||||
| Income (Loss) from Operations as a Percent of Net Sales: | |||||||||||||||||
| Commercial Systems | 14.5 | % | 10.8 | % | 7.9 | % | |||||||||||
| Industrial Systems | 8.9 | % | (2.3) | % | (1.5) | % | |||||||||||
| Climate Solutions | 14.9 | % | 19.0 | % | 15.4 | % | |||||||||||
| Motion Control Solutions | 13.0 | % | 5.5 | % | 12.7 | % | |||||||||||
| Consolidated | 13.2 | % | 9.4 | % | 9.6 | % | |||||||||||
| Income from Operations | $ | 690.4 | $ | 358.3 | $ | 278.0 | |||||||||||
| Other Income, net | (5.4) | (5.2) | (4.4) | ||||||||||||||
| Interest Expense | 87.2 | 60.4 | 39.8 | ||||||||||||||
| Interest Income | (5.2) | (7.4) | (5.9) | ||||||||||||||
| Income before Taxes | 613.8 | 310.5 | 248.5 | ||||||||||||||
| Provision for Income Taxes | 118.9 | 74.7 | 56.3 | ||||||||||||||
| Net Income | 494.9 | 235.8 | 192.2 | ||||||||||||||
| Net Income Attributable to Noncontrolling Interests | 6.0 | 6.2 | 4.5 | ||||||||||||||
| Net Income Attributable to Regal Rexnord Corporation | $ | 488.9 | $ | 229.6 | $ | 187.7 | |||||||||||
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Fiscal Year 2022 Compared to Fiscal Year 2021
Net sales for fiscal 2022 were $5.2 billion, a 36.9% increase as compared to fiscal 2021 net sales of $3.8 billion. The increase consisted of positive organic sales of 9.3% and positive impact from acquisitions of 29.9% partially offset by negative foreign currency translation of 2.2%. The increase was primarily driven by sales increases in North American markets and the acquisitions of the Rexnord PMC and Arrowhead businesses. Gross profit increased $558.1 million or 50.2% as compared to the prior year. The increase from the prior year was driven by the acquisitions of the Rexnord PMC and Arrowhead businesses and 80/20 actions, partially offset by increased freight and material costs and restructuring costs. Operating expenses were $978.4 million which was a $263.7 million increase from fiscal 2021. The increase was primarily driven by the acquisitions of the Rexnord PMC and Arrowhead businesses, higher employee related wage and benefit costs and intangible asset amortization partially offset by lower transaction costs. The Company recognized goodwill and asset impairments of $0.9 million, a decrease of $37.7 million from the prior year.
Net sales for the Commercial Systems segment for fiscal 2022 were $1,145.4 million, a 11.0% increase compared to fiscal 2021 net sales of $1,032.1 million. The increase consisted of positive organic sales of 13.9% partially offset by negative 2.9% foreign currency translation. The increase was primarily driven by strong price realization and share gains, with particular strength in the North America general industrial and pool pump markets as well as solid gains in the commercial HVAC and air moving businesses, partially offset by headwinds in China. Gross profit increased $54.0 million or 19.7% primarily driven by price partially offset by higher material costs due to inflation. Operating expenses for fiscal 2022 increased $1.4 million as compared to fiscal 2021. The increase was primarily driven by higher employee-related wage and benefit costs.
Net sales for the Industrial Systems segment for fiscal 2022 were $616.0 million, a 6.9% increase compared to fiscal 2021 net sales of $576.3 million. The increase consisted of positive organic sales of 10.3% partially offset by negative foreign currency translation of 3.4%. Growth is driven by strength in the data center market for generators, demand for industrial motors in North America and price increases, partially offset by headwinds in China. Gross profit increased $45.1 million or 41.9% primarily driven by the increase in volume and price realization, partially offset by material inflation. Operating expenses for fiscal 2022 increased $9.7 million as compared to fiscal 2021. The increase in operating expenses was primarily driven by increased employee wages, commissions partially offset by foreign exchange gains. Industrial Systems recognized a $33.0 goodwill impairment in fiscal 2021 and no goodwill impairments in fiscal 2022.
Net sales for the Climate Solutions segment for fiscal 2022 were $1,081.8 million, a 5.0% increase compared to fiscal 2021 net sales of $1,030.6 million. The increase consisted of positive organic sales of 5.7% partially offset by negative foreign currency translation of 0.6%. The increase was primarily due to price increases and share gains partially offset by lower volumes resulting from slowing market demand. Gross profit decreased $29.4 million or 9.4% primarily driven by material and freight inflation, lower volumes, increased restructuring costs and 80/20 actions. Operating expenses for fiscal 2022 increased $6.2 million as compared to fiscal 2021. The increase in operating expenses was primarily due to higher expenses related to commissions, travel, compensation and benefits.
Net sales for the Motion Control Solutions segment for fiscal 2022 were $2,374.7 million, a 102.7% increase compared to fiscal 2021 net sales of $1,171.3 million. The increase consisted of positive impact from acquisitions of 97.3% and positive organic sales of 7.9% partially offset by negative foreign currency translation of 2.4%. The increase was primarily driven by the acquisitions of the Rexnord PMC and Arrowhead businesses in addition to the North America general industrial market, the Aerospace business and meaningful share gains tied to our industrial powertrain offering. Gross profit for fiscal 2022 increased $488.4 million or 117.0% primarily due to the acquisitions of the Rexnord PMC and Arrowhead businesses, higher sales volume and lower overhead cost driven by cost reduction initiatives partially offset by higher restructuring expense. Operating expenses for fiscal 2022 increased $246.4 million due to the acquisitions of the Rexnord PMC and Arrowhead businesses, including intangible asset amortization, partially offset by lower transaction costs. For fiscal 2022, the Motion Control Solutions segment incurred transaction costs of $14.7 million related to the Altra Transaction and $4.3 million related to the Rexnord Transaction compared to $89.1 million of transaction costs related to the Rexnord Transaction and Arrowhead Transaction in fiscal 2021.
The effective tax rate for fiscal 2022 was 19.4% compared to 24.1% for fiscal 2021. The decrease in the effective rate was primarily due to the impact of nondeductible impairment charges and nondeductible transaction costs related to the Rexnord Transaction.
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Fiscal Year 2021 Compared to Fiscal Year 2020
Net sales for fiscal 2021 were $3.8 billion, a 31.1% increase as compared to fiscal 2020 net sales of $2.9 billion. The increase consisted of positive organic sales of 17.4%, positive impact from acquisitions of 12.0% and positive foreign currency translation of 1.7%. The increase was primarily driven by sales increases in North America, China and recovering demand in EMEA and Asia Pacific and the acquisitions of the Rexnord PMC and Arrowhead businesses. Gross profit increased $305.0 million or 37.8% as compared to the prior year. The increase from the prior year was driven primarily due to increases in volume and the acquisitions of the Rexnord PMC and Arrowhead businesses, partially offset by increased freight and material costs. Operating expenses were $714.7 million which was a $201.8 million increase from fiscal 2020. The increase was primarily driven by acquisitions of the Rexnord PMC and Arrowhead businesses transaction costs, higher employee related wage and benefit costs, partially offset by foreign exchange gains. The Company recognized goodwill and other asset impairments of $38.6 million, a $22.8 million increase from the prior year.
Net sales for the Commercial Systems segment for fiscal 2021 were $1,032.1 million, a 25.8% increase compared to fiscal 2020 net sales of $820.2 million. The increase consisted of positive organic sales of 23.3% and positive 2.5% foreign currency translation. The increase was primarily driven by strong growth in the Asia Pacific market as well as the general industry and pool pump business. Gross profit increased $61.4 million or 28.9% primarily driven by the increase in volume, partially offset by increased freight and tariff costs. Operating expenses for fiscal 2021 increased $16.2 million as compared to fiscal 2020. The increase was primarily driven by higher employee-related wage and benefit costs, rising logistics costs and increased engineering expenses.
Net sales for the Industrial Systems segment for fiscal 2021 were $576.3 million, a 9.0% increase compared to fiscal 2020 net sales of $528.8 million. The increase consisted of positive organic sales of 5.4% and positive foreign currency translation of 3.6%, strength in the generator business, strong growth in China and in India markets, and improving demand in the North America industrial motors business. Gross profit increased $13.0 million or 13.7% primarily driven by strong volumes, favorable mix and positive price realization, partially offset by material inflation. Operating expenses for fiscal 2021 decreased $3.6 million as compared to fiscal 2020. The decrease was primarily due to general cost savings initiatives and foreign exchange gains partially offset by variable selling costs on higher sales volumes and increased administrative costs.
Net sales for the Climate Solutions segment for fiscal 2021 were $1,030.6 million, a 21.7% increase compared to fiscal 2020 net sales of $846.8 million. The increase consisted of positive organic sales of 21.3% and positive foreign currency translation of 0.4%. The increase was primarily due to continued strong demand in North American residential HVAC market and recovering demand in EMEA and Asia Pacific. Gross profit increased $65.4 million or 26.5% primarily driven by volume, favorable product mix and 80/20 actions, partially offset by material and freight inflation. Operating expenses for fiscal 2021 were flat as compared to the prior year primarily due to 2020 cost savings, non-recurring furloughs and operating expenses, offset by gains in foreign currency.
Net sales for the Motion Control Solutions segment for fiscal 2021 were $1,171.3 million, a 64.7% increase compared to fiscal 2020 net sales of $711.2 million. The increase consisted of positive impact from acquisitions of 49.0%, positive organic sales of 14.6% and positive foreign currency translation of 1.1%. The increase was primarily driven by strength in the North American general industrial and alternative-energy end markets, prior year project wins in the aerospace end market, strength in the conveying business and the acquisitions of the Rexnord PMC and Arrowhead businesses. Gross profit for fiscal 2021 increased $165.2 million or 65.5% primarily due to higher sales volume, favorable product mix, lower overhead cost driven by cost reduction initiatives and the acquisitions of the Rexnord PMC and Arrowhead businesses. Operating expenses for fiscal 2021 increased $189.2 million due to transaction costs related to the Rexnord Transaction, asset write-downs related to a restructuring project, and the normalizing of the business as it recovers from the pandemic.
The effective tax rate for fiscal 2021 was 24.1% compared to 22.7% for fiscal 2020. The increase in the effective rate was primarily due to the impact of nondeductible impairment charges and nondeductible transaction costs related to the Rexnord Transaction.
Non-GAAP Measures
As noted above, we disclose organic sales, organic sales growth and acquisition growth non-GAAP financial measures, and we reconcile these measures in the table below to GAAP net sales. We believe that these non-GAAP financial measures are useful measures for providing investors with additional information regarding our results of operations and for helping investors understand and compare our operating results across accounting periods and compared to our peers.
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| Commercial Systems | Industrial Systems | Climate Solutions | Motion Control Solutions | Total | ||||||||||||||||||||||||||||
| Net Sales for Fiscal 2022 | $ | 1,145.4 | $ | 616.0 | $ | 1,081.8 | $ | 2,374.7 | $ | 5,217.9 | ||||||||||||||||||||||
| Acquisition Sales | — | — | — | (1,139.6) | (1,139.6) | |||||||||||||||||||||||||||
| Impact of Foreign Currency Translation | 30.0 | 19.6 | 7.1 | 28.6 | 85.3 | |||||||||||||||||||||||||||
| Organic Sales for Fiscal 2022 | $ | 1,175.4 | $ | 635.6 | $ | 1,088.9 | $ | 1,263.7 | $ | 4,163.6 | ||||||||||||||||||||||
| Organic Sales Growth for Fiscal 2022 | 13.9 | % | 10.3 | % | 5.7 | % | 7.9 | % | 9.3 | % | ||||||||||||||||||||||
| Acquisition Growth for Fiscal 2022 | — | % | — | % | — | % | 97.3 | % | 29.9 | % | ||||||||||||||||||||||
| Net Sales for Fiscal 2021 | $ | 1,032.1 | $ | 576.3 | $ | 1,030.6 | $ | 1,171.3 | $ | 3,810.3 | ||||||||||||||||||||||
| Acquisition Sales | — | — | — | (348.5) | (348.5) | |||||||||||||||||||||||||||
| Impact of Foreign Currency Translation | (20.5) | (18.9) | (3.1) | (7.7) | (50.2) | |||||||||||||||||||||||||||
| Organic Sales for Fiscal 2021 | $ | 1,011.6 | $ | 557.4 | $ | 1,027.5 | $ | 815.1 | $ | 3,411.6 | ||||||||||||||||||||||
| Organic Sales Growth for Fiscal 2021 | 23.3 | % | 5.4 | % | 21.3 | % | 14.6 | % | 17.4 | % | ||||||||||||||||||||||
| Acquisition Growth for Fiscal 2021 | — | % | — | % | — | % | 49.0 | % | 12.0 | % | ||||||||||||||||||||||
| Net Sales for Fiscal 2020 | $ | 820.2 | $ | 528.8 | $ | 846.8 | $ | 711.2 | $ | 2,907.0 | ||||||||||||||||||||||
| Impact of Foreign Currency Translation | (0.5) | 5.7 | 5.7 | 0.4 | 11.3 | |||||||||||||||||||||||||||
| Organic Sales for Fiscal 2020 | $ | 819.7 | $ | 534.5 | $ | 852.5 | $ | 711.6 | $ | 2,918.3 | ||||||||||||||||||||||
Liquidity and Capital Resources
General
Our principal source of liquidity is cash flow provided by operating activities. In addition to operating income, other significant factors affecting our cash flows include working capital levels, capital expenditures, dividends, share repurchases, acquisitions, and divestitures, availability of debt financing, and the ability to attract long-term capital at acceptable terms.
Cash flow provided by operating activities was $436.2 million for fiscal 2022, a $78.5 million increase from fiscal 2021. The increase was primarily the result of the Rexnord Transaction partially offset by increased working capital.
Cash flow provided by operating activities was $357.7 million for fiscal 2021, a $77.7 million decrease from fiscal 2020. The decrease was primarily the result of increased working capital.
Our working capital was $1,998.3 million and $1,713.3 million as of December 31, 2022 and January 1, 2022, respectively. As of December 31, 2022 and January 1, 2022, our current ratio (which is the ratio of our current assets to current liabilities) was 3.0:1 and 2.6:1, respectively. We intend to use operating cash flow to meet our current debt repayment obligations.
Cash flow used in investing activities was $113.3 million for fiscal 2022, compared to $175.7 million in fiscal 2021. The change was driven primarily by the acquisition of our Arrowhead business in fiscal 2021. Capital expenditures were $83.8 million in fiscal 2022, compared to $54.5 million in fiscal 2021. The increase was primarily driven by the Rexnord Transaction.
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Cash flow used in investing activities was $175.7 million for fiscal 2021, compared to $37.0 million in fiscal 2020. The change was driven primarily by the acquisition of our Arrowhead business in fiscal 2021 partially offset by lower divestiture proceeds. Capital expenditures were $54.5 million in fiscal 2021, compared to $47.5 million in fiscal 2020.
In fiscal 2023, we anticipate capital spending for property, plant and equipment to be approximately $120.0 million. We believe that our present manufacturing facilities will be sufficient to provide adequate capacity for our operations in fiscal 2023. We anticipate funding fiscal 2023 capital spending with operating cash flows. These estimates do not take into account any capital expenditures associated with Altra and its properties.
Cash flow used in financing activities was $274.2 million for fiscal 2022, compared to $117.6 million in fiscal 2021. Net debt repayments totaled $106.5 million in fiscal 2022, compared to net debt repayments of $287.1 million in fiscal 2021. We also repurchased $239.2 million of our common stock during fiscal 2022 compared to $25.8 million in fiscal 2021. We paid $90.9 million in dividends to shareholders in fiscal 2022 compared to $335.6 million in fiscal 2021. The decrease was primarily driven by the special dividend of $284.4 million that was issued to shareholders in connection with the Rexnord Transaction in fiscal 2021. In fiscal 2022, we paid distributions of $6.2 million to noncontrolling interests compared to $4.5 million in fiscal 2021. We also paid $40.6 million of deferred financing fees during fiscal 2022. See further discussion of deferred financing fees below.
Cash flow used in financing activities was $117.6 million for fiscal 2021, compared to $147.6 million for fiscal 2020. Net debt repayments totaled $287.1 million in fiscal 2021, compared to net debt repayments of $67.7 million in fiscal 2020. We also repurchased $25.8 million of our common stock during fiscal 2021 compared to $25.0 million in fiscal 2020. We paid $335.6 million in dividends to shareholders in fiscal 2021 compared to $48.7 million in fiscal 2020. The increase was driven by the special dividend that was issued to shareholders in connection with the Rexnord Transaction. In fiscal 2021, we paid distributions of $4.5 million to noncontrolling interests compared to $2.8 million in fiscal 2020. We also paid $32.5 million of early debt extinguishment payments and deferred financing fees during fiscal 2021.
The following table presents selected financial information and statistics as of December 31, 2022 and January 1, 2022:
| December 31, 2022 | January 1, 2022 | ||||||||||||||||
| Cash and Cash Equivalents | $ | 688.5 | $ | 672.8 | |||||||||||||
| Trade Receivables, Net | 797.4 | 785.8 | |||||||||||||||
| Inventories | 1,336.9 | 1,192.4 | |||||||||||||||
| Working Capital | 1,998.3 | 1,713.3 | |||||||||||||||
| Current Ratio | 3.0:1 | 2.6:1 | |||||||||||||||
As of December 31, 2022, $681.6 million of our cash was held by foreign subsidiaries and could be used in our domestic operations if necessary. We anticipate being able to support our short-term liquidity and operating needs largely through cash generated from operations. We regularly assess our cash needs and the available sources to fund these needs which includes repatriation of foreign earnings which may be subject to withholding taxes. Under current law, we do not expect restrictions or taxes on repatriation of cash held outside of the United States to have a material effect on our overall liquidity, financial condition or the results of operations for the foreseeable future. As of the date of this filing, we have repatriated approximately $310 million of foreign cash in fiscal 2023 to support the repayment of debt. We are continuing to evaluate opportunities to repatriate additional foreign cash in fiscal 2023.
We will, from time to time, maintain excess cash balances which may be used to (i) fund operations, (ii) repay outstanding debt, (iii) fund acquisitions, (iv) pay dividends, (v) make investments in new product development programs, (vi) repurchase our common stock, or (vii) fund other corporate objectives.
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Credit Agreement
On March 28, 2022, we entered into a Second Amended and Restated Credit Agreement (the “Credit Agreement”), which was subsequently amended on November 17, 2022 (the "First Amendment") and November 30, 2022 (the "Assumption Agreement"), which in combination provide for, among other things:
i.an unsecured term loan facility in the initial principal amount of up to $550.0 million, maturing on March 28, 2027 (the "Term Facility"), which will be upsized by $840.0 million upon consummation of the Altra Transaction;
ii.an unsecured term loan facility in the initial principal amount of $486.8 million, under which Land remains the sole borrower, maturing on March 28, 2027 (the "Land Term Facility"); and
iii.an unsecured revolving loan in the initial principal amount of up to $1,000.0 million, maturing on March 28, 2027 (the "Multicurrency Revolving Facility"), which will be upsized by $570.0 million upon consummation of the Altra Transaction.
Borrowings under the Credit Agreement bear interest at floating rates based upon indices determined by the currency of the borrowing (SOFR for US Dollar borrowings), plus an applicable margin. As of December 31, 2022, we had $536.3 million of borrowings under the Term Facility and $486.8 million of borrowings under the Land Term Facility. As of December 31, 2022 we had $429.0 million of borrowings under the Multicurrency Revolving Facility and $571.0 million of available borrowing capacity. In connection with the issuance of the Senior Notes (see further discussion below) in January 2023, the outstanding borrowings under the Multicurrency Revolving Facility were fully repaid.
Private Placement Notes
On April 7, 2022, we entered into a Note Purchase Agreement for the issuance and sale of $500.0 million aggregate principal amount of 3.90% notes due April 7, 2032 (the "Private Placement Notes"), which was subsequently amended on December 21, 2022 to, among other things, (i) permit the consummation of the Altra Transaction, and (ii) add a maintenance fee of 2.50% per annum on the unpaid principal amount of the Private Placement Notes upon consummation of the Altra Transaction. Following the issuance of the Senior Notes discussed below, on January 27, 2023, a portion of the proceeds from that transaction was used to repay the Private Placement Notes in full with no make-whole payments.
Bridge Facility
In connection with the Altra Transaction, on October 26, 2022, we entered into a commitment letter (the “Commitment Letter”), pursuant to which JPMorgan Chase Bank, N.A. committed to provide us approximately $5,500.0 million in aggregate principal amount of senior bridge loans under a 364-day senior unsecured bridge term loan facility (the “Bridge Facility”) to, among other things, fund the Altra Transaction. There were $4,160.0 million in Bridge Facility commitments remaining at December 31, 2022. As further discussed below, the Bridge Facility was terminated upon issuance of the Senior Notes in January 2023. We paid $27.5 million in Bridge Facility fees in fiscal 2022.
Backstop Facility
In connection with the Altra Transaction, on October 26, 2022, we entered into a backstop credit facility with JPMorgan Chase Bank, N.A. in an aggregate principal amount of up to $2,030.0 million (the “Backstop Facility”). The Backstop Facility was terminated on November 17, 2022 when we entered into the First Amendment to the Credit Agreement further discussed above. We paid $5.1 million in Backstop facility fees in fiscal 2022.
Senior Notes
On January 24, 2023, we issued $1,100.0 million aggregate principal amount of 6.05% senior notes due 2026 (the “2026 Senior Notes”), $1,250.0 million aggregate principal amount of 6.05% senior notes due 2028 (the “2028 Senior Notes”), $1,100.0 million aggregate principal amount of 6.30% senior notes due 2030 (the “2030 Senior Notes”) and $1,250.0 million aggregate principal amount of 6.40% senior notes due 2033 (the “2033 Senior Notes” and, together with the 2026 Senior Notes, 2028 Senior Notes and 2030 Senior Notes, collectively, the “Senior Notes”).
We received $4,647.0 million in net proceeds from the sale of the Senior Notes in January 2023, after deducting the initial purchasers’ discounts and estimated offering expenses. We used a portion of the net proceeds to repay our outstanding Private Placement Notes, as further discussed above, and intend to use the remaining net proceeds, together with the incremental term loan commitments under the Term Facility and cash on hand, to fund the consideration for the Altra Transaction, repay certain of Altra’s outstanding indebtedness (including the tender of the Altra Notes, as discussed below), and pay certain fees and expenses. Prior to the consummation of the Altra Transaction, we used a portion of the proceeds to repay the outstanding borrowings under the Multicurrency Revolving Facility in January 2023 and invested the remaining net proceeds of approximately $3.6 billion in interest bearing accounts.
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See Note 7 - Debt and Bank Credit Facilities for further information on the agreements above.
Tender Offer
In February 2023, we announced the commencement of a tender offer (the "Tender Offer") to purchase for cash any and all of the outstanding 6.125% senior notes due 2026 (the "Altra Notes") of Stevens Holding Company, Inc., Altra's wholly-owned subsidiary from the holders of the Altra Notes. In connection with this tender offer, we are soliciting the consents of the holders of the Altra Notes to certain amendments to the related indenture. Concurrently with, but separate from the Tender Offer and related consent solicitation, we commenced an offer to purchase for cash any and all of the Altra Notes at a purchase price equal to 101% of the aggregate principal amount of the Altra Notes repurchased, plus accrued and unpaid interest (the "CoC Tender"), pursuant to the change of control provisions of the indenture. The Tender Offer, the related consent solicitation and the CoC Tender are all conditioned on the completion of the Altra Transaction.
Compliance with Financial Covenants
The Credit Agreement requires us to meet specified financial ratios and to satisfy certain financial condition tests. We were in compliance with all financial covenants contained in the Credit Agreement as of December 31, 2022.
Other Notes Payable
As of December 31, 2022, other notes payable of $76.7 million were outstanding with a weighted average interest rate of 5.1%. As of January 1, 2022, other notes payable of $78.7 million were outstanding with a weighted average interest rate of 5.2%. These amounts consist primarily of finance leases. See Note 9 – Leases of the Notes to the Consolidated Financial Statements for more information.
Litigation
See Part 1 - Item 3 - Legal Proceedings and Note 12 – Contingencies of the Notes to the Consolidated Financial Statements for more information.
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Off-Balance Sheet Arrangements, Contractual Obligations and Commercial Commitments
The following is a summary of our contractual obligations and payments due by period as of December 31, 2022:
Payments Due by Period (1) | Debt Including Estimated Interest Payments (2) | Operating Leases | Finance Leases | Pension Obligations | Purchase and Other Obligations | Total Contractual Obligations | ||||||||||||||||||||||||||||||||
| Less than one year | $ | 131.8 | $ | 34.0 | $ | 6.9 | $ | 7.7 | $ | 1,225.1 | $ | 1,405.5 | ||||||||||||||||||||||||||
| 1 - 3 years | 252.9 | 49.2 | 14.1 | 8.2 | — | 324.4 | ||||||||||||||||||||||||||||||||
| 3 - 5 years | 1,504.7 | 32.7 | 14.1 | 7.2 | — | 1,558.7 | ||||||||||||||||||||||||||||||||
| More than 5 years | 584.5 | 26.6 | 75.8 | 14.0 | — | 700.9 | ||||||||||||||||||||||||||||||||
| Total | $ | 2,473.9 | $ | 142.5 | $ | 110.9 | $ | 37.1 | $ | 1,225.1 | $ | 3,989.5 | ||||||||||||||||||||||||||
(1) The timing and future spot prices affect the settlement values of our hedge obligations related to commodities and currency exchange rates. Accordingly, these obligations are not included above in the table of contractual obligations (See also Item 7A and Note 13 of the Notes to the Consolidated Financial Statements). The timing of settlement of our tax contingent liabilities cannot be reasonably determined and they are not included above in the table of contractual obligations. Future pension obligation payments after fiscal 2022 are subject to revaluation based on changes in the benefit population and/or changes in the value of pension assets based on market conditions that are not determinable as of December 31, 2022.
(2) Variable rate debt based on December 31, 2022 rates. See also Note 7 – Debt and Bank Credit Facilities of the Notes to the Consolidated Financial Statements.
We utilize blanket purchase orders (“Blankets”) to communicate expected annual requirements to many of our suppliers. Requirements under Blankets generally do not become “firm” until a varying number of weeks before our scheduled production. The purchase obligations shown in the above table represent the value we consider “firm.”
Critical Accounting Estimates
The preparation of our consolidated financial statements in accordance with accounting principles generally accepted in the United States ("US") requires us to make estimates and assumptions affecting the reported amounts of assets and liabilities at the date of the consolidated financial statements and revenues and expenses during the periods reported. Actual results could differ from those estimates. We believe the following critical accounting policies could have the most significant effect on our reported results.
Purchase Accounting and Business Combinations
Assets acquired and the liabilities assumed as part of a business combination are recognized separately from goodwill at their acquisition date fair values. Goodwill as of the acquisition date is measured as the excess of consideration transferred over the net of the acquisition date fair values of the assets acquired and the liabilities assumed. We, with the assistance of outside specialists as necessary, use estimates and assumptions to value assets acquired and liabilities assumed at the acquisition date as well as contingent consideration, where applicable. We may refine these estimates during the measurement period which may be up to one year from the acquisition date. As a result, during the measurement period, we record adjustments to the assets acquired and liabilities assumed with the corresponding offset to goodwill. Upon the conclusion of the measurement period or final determination of the values of assets acquired or liabilities assumed, whichever comes first, any subsequent adjustments are recorded to our Consolidated Statements of Income.
Goodwill
We test goodwill for impairment at least annually and perform our annual impairment test as of the end of the October fiscal month. Factors that could trigger an impairment assessment include significant underperformance relative to historical or forecasted operating results, a significant decrease in the market value of an asset or significant negative industry or economic trends. Reporting units with recent impairments or those with goodwill resulting from recent acquisitions generally present the highest risk of impairment.
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We determine the fair value of each reporting unit utilizing an income approach (discounted cash flow method) weighted 75% and a market approach (consisting of a comparable public company multiples methodology) weighted 25%. The assumptions that have the most significant effect on the fair value calculations are discount rates, market multiples, forecasted EBITDA and terminal growth rates. Discount rates are determined using market and industry data and reflect the risks and uncertainties inherent to each reporting unit and our internally developed forecasts.
For fiscal 2022, we performed quantitative impairment tests for all nine of our reporting units. The discount rates used in our fiscal 2022 reporting unit valuations ranged from 11.0% to 18.0%. Based on the fiscal 2022 annual goodwill test, the fair value of each of the reporting units exceeded its carrying value by more than 10%. As a result, no goodwill impairments were recorded in fiscal 2022. There is inherent uncertainty included in the assumptions used in goodwill impairment testing and a change to any of the assumptions could lead to a future impairment, which could be material. See Note 5 – Goodwill and Intangible Assets of the Notes to the Consolidated Financial Statements for more information.
Long-Lived Assets
We evaluate the recoverability of the carrying amount of long-lived assets whenever events or changes in circumstance indicate that the carrying amount of an asset may not be fully recoverable through future cash flows. When applying the accounting guidance, we use estimates to determine when an impairment is necessary. Factors that could trigger an impairment review include a significant decrease in the market value of an asset or significant negative or economic trends (see also Note 5 – Goodwill and Intangible Assets of the Notes to the Consolidated Financial Statements). For long-lived assets, the Company uses an estimate of the related undiscounted cash flows over the remaining life of the primary asset to estimate recoverability.
Defined Benefit Pension Plans
The majority of the defined benefit pension plans covering our domestic associates have been closed to new associates and frozen for existing associates; however certain employees represented by collective bargaining continue to earn benefits. Most of our foreign associates are covered by government sponsored plans in the countries in which they are employed.
The valuation of our defined benefit pension plan obligations and cost requires the use of assumptions and estimates, including discount rates, investment returns, and mortality rates. Our discount rate assumption is determined by developing a yield curve based on high quality corporate bonds with maturities matching the plans’ expected benefit payment streams. The plans’ expected cash flows are then discounted by the result year-by-year spot rates. Our expected long-term rate of return on plan assets is reviewed annually based on actual and forecasted returns, economic trends and portfolio allocation. The following tables illustrate the effects of changing certain of the actuarial assumptions discussed above, while holding all other assumptions constant:
| Actual Assumption | Change in Assumption | Impact | |||||||||
| Change in 2022 net periodic benefit cost | |||||||||||
| Discount rate | 2.7% | 0.50% increase | $1.3 million cost increase | ||||||||
| Expected long-term rate of return on plan assets | 4.6% | 0.50% decrease | $1.9 million cost increase | ||||||||
| Change in projected benefit plan obligation at December 31, 2022 | |||||||||||
| Discount rate | |||||||||||