NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share amounts)
NOTE 1: BUSINESS AND ACCOUNTING POLICIES
Business
Applied Industrial Technologies, Inc. and subsidiaries (the “Company” or “Applied”) is a leading distributor of bearings, power transmission products, fluid power components, and other industrial supplies, serving Maintenance Repair & Operations (MRO) and Original Equipment Manufacturer (OEM) customers in virtually every industry. In addition, Applied provides engineering, design and systems integration for industrial and fluid power applications, as well as customized mechanical, fabricated rubber and fluid power shop services. Applied also offers storeroom services and inventory management solutions that provide added value to its customers. Although the Company does not generally manufacture the products it sells, it does assemble and repair certain products and systems.
Consolidation
The consolidated financial statements include the accounts of Applied Industrial Technologies, Inc. and its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation.
Foreign Currency
The financial statements of the Company’s Canadian, Mexican, Australian and New Zealand subsidiaries are measured using local currencies as their functional currencies. Assets and liabilities are translated into U.S. dollars at current exchange rates, while income and expenses are translated at average exchange rates. Translation gains and losses are reported in other comprehensive income (loss) in the statements of consolidated comprehensive income. Gains and losses resulting from transactions denominated in foreign currencies are included in the statements of consolidated income as a component of other (income) expense, net.
Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amount of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amount of revenues and expenses during the period. Actual results may differ from the estimates and assumptions used in preparing the consolidated financial statements.
Cash and Cash Equivalents
The Company considers all short-term, highly liquid investments with maturities of three months or less at the date of purchase to be cash equivalents. Cash and cash equivalents are carried at cost, which approximates fair value.
Marketable Securities
The primary marketable security investments of the Company include money market and mutual funds held in a rabbi trust for a non-qualified deferred compensation plan. These are included in other assets in the consolidated balance sheets, are classified as trading securities, and reported at fair value based on quoted market prices. Changes in the fair value of the investments during the period are recorded in other (income) expense, net in the statements of consolidated income.
Concentration of Credit Risk
The Company has a broad customer base representing many diverse industries across North America, Australia, New Zealand, and Singapore. As such, the Company does not believe that a significant concentration of credit risk exists in its accounts receivable. The Company’s cash and cash equivalents consist of deposits with commercial banks and regulated non-bank subsidiaries. While Applied monitors the creditworthiness of these institutions, a crisis in the financial systems could limit access to funds and/or result in the loss of principal. The terms of these deposits and investments provide that all monies are available to the Company upon demand.
Allowances for Doubtful Accounts
The Company evaluates the collectibility of trade accounts receivable based on a combination of factors. Initially, the Company estimates an allowance for doubtful accounts as a percentage of net sales based on historical bad debt experience. This initial estimate is adjusted based on recent trends of customers and industries estimated to be greater credit risks, trends within the entire customer pool, and changes in the overall aging of accounts receivable. Accounts are written off against the allowance when it becomes evident collection will not occur. While the Company has a large customer base that is geographically dispersed, a general economic downturn in any of the industry segments in which the Company operates could result in higher than expected defaults, and therefore, the need to revise estimates for bad debts.
Inventories
Inventories are valued at the average cost method, using the last-in, first-out (LIFO) method for U.S. inventories and the average cost method for foreign inventories. The Company adopted the link chain dollar value LIFO method of accounting for U.S. inventories in fiscal 1974. At
June 30, 2017
, approximately
22.5%
of the Company’s domestic inventory dollars relate to LIFO layers added in the 1970s. The Company maintains five LIFO pools based on the following product groupings: bearings, power transmission products, rubber products, fluid power products and other products. LIFO layers and/or liquidations are determined consistently year-to-year.
The Company evaluates the recoverability of its slow moving and inactive inventories at least quarterly. The Company estimates the recoverable cost of such inventory by product type while considering factors such as its age, historic and current demand trends, the physical condition of the inventory, as well as assumptions regarding future demand. The Company’s ability to recover its cost for slow moving or obsolete inventory can be affected by such factors as general market conditions, future customer demand, and relationships with suppliers. Historically, the Company’s inventories have demonstrated long shelf lives, are not highly susceptible to obsolescence, and, in certain instances, can be eligible for return under supplier return programs.
Supplier Purchasing Programs
The Company enters into agreements with certain suppliers providing inventory purchase incentives. The Company’s inventory purchase incentive arrangements are unique to each supplier and are generally annual programs ending at either the Company’s fiscal year end or the supplier’s year end; however, program length and ending dates can vary. Incentives are received in the form of cash or credits against purchases upon attainment of specified purchase volumes and are received either monthly, quarterly or annually. The incentives are generally a specified percentage of the Company’s net purchases based upon achieving specific purchasing volume levels. These percentages can increase or decrease based on changes in the volume of purchases. The Company accrues for the receipt of these inventory purchase incentives based upon cumulative purchases of inventory. The percentage level utilized is based upon the estimated total volume of purchases expected during the life of the program. Supplier programs are analyzed each quarter to determine the appropriateness of the amount of purchase incentives accrued. Upon program completion, differences between estimates and actual incentives subsequently received have not been material. Benefits under these supplier purchasing programs are recognized under the Company’s inventory accounting methods as a reduction of cost of sales when the inventories representing these purchases are recorded as cost of sales. Accrued incentives expected to be settled as a credit against future purchases are reported on the consolidated balance sheet as an offset to amounts due to the related supplier.
Property and Related Depreciation and Amortization
Property and equipment are recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets and is included in selling, distribution and administrative expenses in the accompanying statements of consolidated income. Buildings, building improvements and leasehold improvements are depreciated over ten to thirty years or the life of the lease if a shorter period, and equipment is depreciated over three to ten years. The Company capitalizes internal use software development costs in accordance with guidance on accounting for costs of computer software developed or obtained for internal use. Amortization of software begins when it is ready for its intended use, and is computed on a straight-line basis over the estimated useful life of the software, generally not to exceed twelve years. Capitalized software and hardware costs are classified as property on the consolidated balance sheets. The carrying values of property and equipment are reviewed for impairment when events or changes in circumstances indicate that the recorded value cannot be recovered from undiscounted future cash flows. Impairment losses, if any, would be measured based upon the difference between the carrying amount and the fair value of the assets.
Goodwill and Intangible Assets
Goodwill is recognized as the excess cost of an acquired entity over the net amount assigned to assets acquired and liabilities assumed. Goodwill is not amortized. Goodwill is reviewed for impairment annually as of
January 1
or whenever changes in conditions indicate an evaluation should be completed. These conditions could include a significant change in the business climate, legal factors, operating performance indicators, competition, or sale or disposition of a significant portion of a reporting unit. The Company utilizes discounted cash flow models and market multiples for comparable businesses to determine the fair value of reporting units. Evaluating impairment requires significant judgment by management, including estimated future operating results, estimated future cash flows, the long-term rate of growth of the business, and determination of an appropriate discount rate. While the Company uses available information to prepare the estimates and evaluations, actual results could differ significantly.
The Company recognizes acquired identifiable intangible assets such as customer relationships, trade names, vendor relationships, and non-competition agreements apart from goodwill. Customer relationship identifiable intangibles are amortized using the sum-of-the-years-digits method over estimated useful lives consistent with assumptions used in the determination of their value. Amortization of all other finite-lived identifiable intangible assets is computed using the straight-line method over the estimated period of benefit. Amortization of identifiable intangible assets is included in selling, distribution and administrative expenses in the accompanying statements of consolidated income. Identifiable intangible assets with finite lives are reviewed for impairment when changes in conditions indicate carrying value may not be recoverable. Identifiable intangible assets with indefinite lives are reviewed for impairment on an annual basis or whenever changes in conditions indicate an evaluation should be completed. The Company does not currently have any indefinite-lived identifiable intangible assets.
Self-Insurance Liabilities
The Company maintains business insurance programs with significant self-insured retention covering workers’ compensation, business, automobile, general product liability and other claims. The Company accrues estimated losses including those incurred but not reported using actuarial calculations, models and assumptions based on historical loss experience. The Company also maintains a self-insured health benefits plan which provides medical benefits to U.S. based employees electing coverage under the plan. The Company estimates its reserve for all unpaid medical claims, including those incurred but not reported, based on historical experience, adjusted as necessary based upon management’s reasoned judgment.
Revenue Recognition
Sales are recognized when there is evidence of an arrangement, the sales price is fixed, collectibility is reasonably assured and the product’s title and risk of loss is transferred to the customer. Typically, these conditions are met when the product is shipped to the customer. The Company charges shipping and handling fees when products are shipped or delivered to a customer, and includes such amounts in net sales. The Company reports its sales net of actual sales returns and the amount of reserves established for anticipated sales returns based on historical rates. Sales tax collected from customers is excluded from net sales in the accompanying statements of consolidated income.
Shipping and Handling Costs
The Company records freight payments to third parties in cost of sales and internal delivery costs in selling, distribution and administrative expenses in the accompanying statements of consolidated income. Internal delivery costs in selling, distribution and administrative expenses were approximately
$20,060
,
$21,480
and
$24,430
for the fiscal years ended
June 30, 2017
,
2016
and
2015
, respectively.
Income Taxes
Income taxes are determined based upon income and expenses recorded for financial reporting purposes. Deferred income taxes are recorded for estimated future tax effects of differences between the bases of assets and liabilities for financial reporting and income tax purposes, giving consideration to enacted tax laws. Uncertain tax positions meeting a more-likely-than-not recognition threshold are recognized in accordance with the Income Taxes topic of the ASC (Accounting Standards Codification). The Company recognizes accrued interest and penalties related to unrecognized income tax benefits in the provision for income taxes.
Share-Based Compensation
Share-based compensation represents the cost related to share-based awards granted to employees under the 2015 Long-Term Performance Plan, the 2011 Long-Term Performance Plan, or the 2007 Long-Term Performance Plan. The Company measures share-based compensation cost at the grant date, based on the estimated fair value of the award and recognizes the cost over the requisite service period. Non-qualified stock appreciation rights (SARs) and stock options are granted with an exercise price equal to the closing market price of the Company’s common stock at the date of grant and the fair values are determined using a Black-Scholes option pricing model, which incorporates assumptions regarding the expected volatility, the expected option life, the risk-free interest rate and the expected dividend yield. SARs and stock option awards generally vest over
four
years of continuous service and have
ten
-year contractual terms. The fair value of restricted stock awards, restricted stock units (RSUs), and performance shares are based on the closing market price of Company common stock on the grant date.
Treasury Shares
Shares of common stock repurchased by the Company are recorded at cost as treasury shares and result in a reduction of shareholders’ equity in the consolidated balance sheets. The Company uses the weighted-average cost method for determining the cost of shares reissued. The difference between the cost of the shares and the reissuance price is added to or deducted from additional paid-in capital.
Changes in Accounting Principle
Share-based Payment Awards
In March 2016, the FASB issued its final standard on simplifying the accounting for share-based payment awards. This standard, issued as ASU 2016-09, simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification on the statement of cash flows, and accounting for forfeitures. This update is effective for annual and interim financial statement periods beginning after December 15, 2016, with early adoption permitted. The Company early adopted ASU 2016-09 in the first quarter of fiscal 2017.
The new standard requires prospective recognition of excess tax benefits and deficiencies resulting from share-based compensation awards vesting and exercises be recognized in the income statement. Previously, these amounts were recognized in additional paid-in capital. Net excess tax benefits of
$2,403
for the year ended
June 30, 2017
, were recognized as a reduction of income tax expense. In addition, ASU 2016-09 requires excess tax benefits and deficiencies to be prospectively excluded from the assumed future proceeds in the calculation of diluted shares, resulting in an insignificant increase in diluted weighted average shares outstanding for year ended
June 30, 2017
, which did not have a material impact on earnings per share.
The Company has elected to continue to estimate the number of share-based awards expected to vest, as permitted by ASU 2016-09, rather than electing to account for forfeitures as they occur.
The standard requires that excess tax benefits from share-based compensation awards be reported as operating activities in the consolidated statements of cash flows. Previously, these cash flows were included in financing activities. We have elected to apply this change on a prospective basis, resulting in an increase in net cash provided by operating activities and net cash used in financing activities of
$2,403
for the year ended
June 30, 2017
.
ASU 2016-09 requires that employee taxes paid when an employer withholds shares for tax-withholding purposes be reported as financing activities in the consolidated statements of cash flows. Previously, these cash flows were included in operating activities. This change was required to be applied on a retrospective basis. As such, the consolidated statements of cash flows for the prior periods were revised. This change resulted in an increase in net cash provided by operating activities and in net cash used in financing activities of
$1,022
and
$2,469
for the years ended
June 30, 2016
and
2015
, respectively.
Debt Issue Costs
In April 2015, the FASB issued its final standard on simplifying the presentation of debt issue costs. This standard, issued as ASU 2015-03, requires that all costs incurred to issue debt be presented in the balance sheet as a direct reduction from the carrying value of the debt, rather than as an asset. This update is effective for annual financial statement periods beginning after December 15, 2015, and interim periods within those fiscal years. As required, the Company adopted ASU 2015-03 in the first quarter of fiscal 2017 and has applied the new standard retrospectively. The retrospective adoption of ASU 2015-03 resulted in the reclassification as of
June 30, 2016
of
unamortized debt issue costs of
$105
from other current assets to a reduction of current portion of long-term debt and
$399
from other assets to a reduction of long-term debt on the Company's consolidated balance sheets.
Measurement-period Adjustments for Business Combinations
In September 2015, the FASB issued its final standard on simplifying the accounting for measurement-period adjustments for business combinations. This standard, issued as ASU 2015-16, requires that an entity that is the acquirer in a business combination that identifies adjustments to provisional amounts during the measurement period to recognize those adjustments in the reporting period in which the amounts are determined. This update further requires that the acquirer record, in the same period's financial statements, the effect on earnings of changes in depreciation, amortization, or other income effects, if any, as a result of the change to the provisional amounts, calculated as if the accounting had been completed at the acquisition date. The update is effective for annual and interim financial statement periods beginning after December 15, 2015, and is applied prospectively to adjustments to provisional amounts that occur after the effective date of this update, with early adoption permitted. The Company adopted ASU 2015-16 in the first quarter of fiscal 2017. The adoption of this update did not have a material impact on the financial statements of the Company.
New Accounting Pronouncements
In May 2014, the FASB issued its final standard on the recognition of revenue from contracts with customers.
The standard, issued as ASU 2014-09, outlines a single comprehensive model for entities to use in the accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry specific guidance. The core principle of this model is that "an entity recognizes revenue to depict the transfer of promised goods or services to a customer in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods and services." In August 2015, the FASB issued ASU 2015-14 to delay the effective date of ASU 2014-09 by one year. In accordance with the delay, the update is effective for financial statement periods beginning after December 15, 2017 and may be adopted either retrospectively or on a modified retrospective basis. Early adoption is permitted, but not before financial statement periods beginning after December 15, 2016. In March 2016 the FASB issued ASU 2016-08 and ASU 2016-10, and in May 2016 the FASB issued ASU 2016-12, which clarify the guidance in ASU 2014-09 but do not change the core principle of the revenue recognition model. The Company has evaluated the provisions of the new standard and is in the process of assessing its impact on financial statements, information systems, business processes, and financial statement disclosures. We are completing an analysis of revenue streams at each of the business units and are evaluating the impact the new standard may have on revenue recognition. The Company primarily sells purchased products and recognizes revenue at point of sale or delivery and this is not expected to change under the new standard. Preliminarily, the Company plans to use the modified retrospective method of adoption, and based on initial reviews, the standard is not expected to have a material impact on the Company's consolidated financial statements. We do anticipate expanded disclosures on revenue in order to comply with the new ASU. The Company will continue to evaluate the impacts of the adoption of the standard and the preliminary assessments are subject to change.
In July 2015, the FASB issued its final standard on simplifying the measurement of inventory. This standard, issued as ASU 2015-11, specifies that an entity should measure inventory at the lower of cost and net realizable value. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. The new standard does not apply to inventory that is measured using LIFO; therefore, it is not applicable to the Company's U.S. inventory values, but does apply to the Company's foreign inventories which are valued using the average cost method. The update is effective for financial statement periods beginning after December 15, 2016, with earlier application permitted. The Company will adopt this standard when it becomes effective in the first quarter of fiscal 2018, and it is not expected to have a material impact on the Company's financial statements and related disclosures.
In February 2016, the FASB issued its final standard on accounting for leases. This standard, issued as ASU 2016-02, requires that an entity that is a lessee recognize lease assets and lease liabilities on the balance sheet for all leases and disclose key information about leasing arrangements. The core principle of this update is that a "lessee should recognize the assets and liabilities that arise from leases." This update is effective for financial statement periods beginning after December 15, 2018, with earlier application permitted. The Company has not yet determined the impact of this pronouncement on its financial statements and related disclosures.
In June 2016, the FASB issued its final standard on measurement of credit losses on financial instruments. This standard, issued as ASU 2016-13, requires that an entity measure impairment of certain financial instruments, including trade receivables, based on expected losses rather than incurred losses. This update is effective for financial statement periods beginning after December 15, 2019, with early adoption permitted for financial
statement periods beginning after December 15, 2018. The Company has not yet determined the impact of this pronouncement on its financial statements and related disclosures.
In August 2016, the FASB issued its final standard on the classification of certain cash receipts and cash payments within the statement of cash flows. This standard, issued as ASU 2016-15, makes a number of changes meant to add or clarify guidance on the classification of certain cash receipts and payments in the statement of cash flows. This update is effective for annual and interim financial statement periods beginning after December 15, 2018, with early adoption permitted. The Company has not yet determined the impact of this pronouncement on its financial statements and related disclosures.
In October 2016, the FASB issued its final standard on the income tax consequences of intra-entity transfers of assets other than inventory. This standard, issued as ASU 2016-16, requires that an entity recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs and eliminates the exception for an intra-entity transfer of an asset other than inventory. This update is effective for annual and interim financial statement periods beginning after December 15, 2017, with early adoption permitted. The Company has not yet determined the impact of this pronouncement on its financial statements and related disclosures.
In January 2017, the FASB issued its final standard on simplifying the test for goodwill impairment. This standard, issued as ASU 2017-04, eliminates step 2 from the goodwill impairment test and instead requires an entity to perform its annual or interim goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount. An impairment charge would be recognized for the amount by which the carrying amount exceeds the reporting unit's fair value, not to exceed the total amount of goodwill allocated to that reporting unit. This update is effective for annual or interim goodwill impairment tests in fiscal years beginning after December 15, 2019, with early adoption permitted. Upon adoption, the Company will apply this guidance prospectively to its annual and interim goodwill impairment tests and disclose the change in accounting principle.
In March 2017, the FASB issued its final standard on improving the presentation of net periodic pension and postretirement benefit costs. This standard, issued as ASU 2017-07, requires that an employer report the service cost component for defined benefit plans and postretirement plans in the same line item in the income statement as other compensation costs arising from services rendered by the employees during the period. The other components of net benefit cost are required to be presented in the income statement separately from the service cost component and outside a subtotal of income from operations. This update is effective for annual financial statement periods beginning after December 15, 2017, including interim periods within those annual periods. Early adoption is permitted as of the beginning of an annual period. The Company has decided to early adopt this standard as of the beginning of fiscal 2018, and will apply the guidance retrospectively to all periods presented. The impact of the adoption of this guidance will result in the reclassification of the other components of net benefit cost from selling, distribution, and administrative expense to other (income) expense, net in the statements of consolidated income, resulting in an increase to operating income. There is no impact to income before income taxes or net income, so therefore no impact to net income per share. The amounts reclassified would result in an increase in operating income of
$796
,
$981
and
$782
for the years ended
June 30, 2017
,
June 30, 2016
and
June 30, 2015
, respectively.
In May 2017, the FASB issued its final standard on scope of modification accounting. This standard, issued as 2017-09, provides guidance about which change to the terms or conditions of a share-based payment award require an entity to apply modification accounting. This update is effective for annual and interim financial statement periods beginning after December 15, 2017, with early adoption permitted. The Company has not yet determined the impact of this pronouncement on its financial statements and related disclosures.
NOTE 2: BUSINESS COMBINATIONS
The operating results of all acquired entities are included within the consolidated operating results of the Company from the date of each respective acquisition.
Fiscal 2017 Acquisition
On March 3, 2017, the Company acquired substantially all of the net assets of Sentinel Fluid Controls ("Sentinel"), a distributor of hydraulic and lubrication components, systems and solutions operating from four locations - Toledo, OH, New Berlin, WI, Valparaiso, IN, and Indianapolis, IN. Sentinel is included in the Fluid Power Businesses segment. The purchase price for the acquisition was
$3,755
, net tangible assets acquired were
$3,130
, and goodwill was
$625
based upon estimated fair values at the acquisition date. The purchase price includes
$982
of acquisition holdback payments, of which
$175
was paid during the year ended
June 30, 2017
. The remaining balance of
$807
is included in other current liabilities and other liabilities on the consolidated balance sheets, which will be paid plus interest at various times in the future. The Company funded the amount paid for the acquisition at closing using available cash. The acquisition price and the results of operations for the acquired entity are not material in relation to the Company's consolidated financial statements.
Fiscal 2016 Acquisitions
On June 14, 2016, the Company acquired
100%
of the outstanding stock of Seals Unlimited ("Seals"), a distributor of sealing, fastener, and hose products located in Burlington, Ontario. On January 4, 2016, the Company acquired substantially all of the net assets of HUB Industrial Supply ("HUB"), a distributor of consumable industrial products operating from three locations - Lake City, FL, Indianapolis, IN, and Las Vegas, NV. On August 3, 2015, the Company acquired substantially all of the net assets of Atlantic Fasteners Co., Inc. ("Atlantic Fasteners"), a distributor of C-Class consumables including industrial fasteners and related industrial supplies located in Agawam, MA. Seals, HUB, and Atlantic Fasteners are all included in the Service Center Based Distribution segment. On October 1, 2015, the Company acquired substantially all of the net assets of S.G. Morris Co. ("SGM"). SGM, headquartered in Cleveland, OH, is a distributor of hydraulic components throughout Ohio, Western Pennsylvania and West Virginia and is included in the Fluid Power Businesses segment. The total combined consideration for these acquisitions was approximately
$65,900
, net tangible assets acquired were
$22,700
, and intangibles including goodwill were
$43,200
based upon estimated fair values at the acquisition dates. The total combined consideration includes
$3,300
of acquisition holdback payments, of which
$1,250
was paid during the year ended
June 30, 2017
. The remaining balance of
$2,050
is included in other liabilities on the consolidated balance sheets, which will be paid plus interest in October 2018. The Company funded the amounts paid for the acquisitions at closing using available cash and borrowings under the revolving credit facility at variable interest rates. The acquisition prices and the results of operations for the acquired entities are not material in relation to the Company's consolidated financial statements.
Knox Acquisition
On July 1, 2014, the Company acquired
100%
of the outstanding stock of Knox Oil Field Supply Inc. (“Knox”), headquartered in San Angelo, Texas, for total consideration of
$132,000
, including cash paid of
$118,000
at closing. The primary reason for the acquisition of Knox was to complement and expand the Company’s capabilities to serve the upstream oil and gas industry in the United States. As a distributor of oilfield supplies and related services, this business is included in the Service Center Based Distribution Segment. The Company funded the acquisition by drawing
$120,000
from the previously uncommitted shelf facility with Prudential Investment Management at a fixed interest rate of
3.19%
with an average seven year life. The remaining
$14,000
purchase price was to be paid as acquisition holdback payments in three payments with interest at a fixed rate of
1.50%
per annum;
$7,100
was paid during fiscal 2016, and
$7,200
was paid during fiscal 2017, extinguishing the liability.
The following table summarizes the consideration transferred, assets acquired, and liabilities assumed in connection with the acquisition of Knox based on their estimated fair values at the acquisition date:
|
|
|
|
|
|
Knox Acquisition
|
|
|
2015
|
|
Accounts receivable
|
$
|
19,100
|
|
Inventories
|
18,800
|
|
Property
|
3,900
|
|
Identifiable intangible assets
|
58,500
|
|
Goodwill
|
63,200
|
|
Total assets acquired
|
163,500
|
|
Accounts payable and accrued liabilities
|
7,200
|
|
Deferred income taxes
|
24,300
|
|
Net assets acquired
|
$
|
132,000
|
|
|
|
Purchase price
|
$
|
132,800
|
|
Reconciliation of fair value transferred:
|
|
Working Capital Adjustments
|
(800
|
)
|
Total Consideration
|
$
|
132,000
|
|
None of the goodwill acquired is expected to be deductible for income tax purposes. The goodwill recognized was attributable primarily to expected synergies and other benefits that the Company believed would result from the acquisition of Knox.
Other Fiscal 2015 Acquisitions
Other acquisitions during fiscal 2015 included the acquisition of substantially all of the net assets of Rodamientos y Derivados del Norte S.A. de C.V., a Mexican distributor of bearings and power transmission products and related products, and Great Southern Bearings / Northam Bearings, a Western Australia distributor of bearings and power transmission products on July 1, 2014 as well as Ira Pump and Supply Inc., a Texas distributor of oilfield pumps and supplies on November 3, 2014. These companies are included in the Service Center Based Distribution Segment. The total combined consideration for these acquisitions was approximately
$54,900
. Net tangible assets acquired were
$21,000
and intangibles including goodwill were
$33,900
, based upon estimated fair values at the acquisition date. The Company funded these acquisitions from borrowings under our existing debt facilities. Acquisition holdback payments totaled
$6,900
for these acquisitions, of which
$340
remains to be paid in July 2017 and is included in other current liabilities on the consolidated balance sheets. The results of operations for the Mexican, Australian, and Ira Pump acquisitions are not material for any period presented.
Holdback Liabilities for Acquisitions
Acquisition holdback payments of approximately
$672
,
$2,384
,
$75
and
$75
will be made in fiscal 2018, 2019, 2020 and 2024, respectively. The related liabilities for these payments are recorded in the consolidated balance sheets in other current liabilities for the amounts due in fiscal year 2018 and other liabilities for the amounts due in fiscal years 2019 through 2024.
NOTE 3: INVENTORIES
Inventories consist of the following:
|
|
|
|
|
|
|
|
|
|
June 30,
|
|
2017
|
|
|
2016
|
|
U.S. inventories at average cost
|
|
$
|
373,984
|
|
|
$
|
380,000
|
|
Foreign inventories at average cost
|
|
108,734
|
|
|
105,465
|
|
|
|
482,718
|
|
|
485,465
|
|
Less: Excess of average cost over LIFO cost for U.S. inventories
|
|
137,573
|
|
|
147,244
|
|
Inventories on consolidated balance sheets
|
|
$
|
345,145
|
|
|
$
|
338,221
|
|
In fiscal
2017
, reductions in U.S. inventories, primarily in the bearings pool which included the scrapping of approximately
$6,000
of product, resulted in liquidation of LIFO inventory quantities carried at lower costs prevailing in prior years. The overall impact of LIFO layer liquidations increased gross profit by
$9,414
and
$2,100
in fiscal
2017
and fiscal
2016
, respectively. There were no LIFO layer liquidations in fiscal
2015
.
NOTE 4: GOODWILL AND INTANGIBLES
The changes in the carrying amount of goodwill for both the Service Center Based Distribution Segment and the Fluid Power Businesses segment for the years ended
June 30, 2017
and
2016
are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service Center Based Distribution
|
|
|
Fluid Power Businesses
|
|
|
Total
|
|
Balance at July 1, 2015
|
$
|
253,477
|
|
|
$
|
929
|
|
|
$
|
254,406
|
|
Goodwill acquired during the year
|
18,683
|
|
|
3,285
|
|
|
21,968
|
|
Impairment
|
(64,794
|
)
|
|
—
|
|
|
(64,794
|
)
|
Other, primarily currency translation
|
(8,880
|
)
|
|
—
|
|
|
(8,880
|
)
|
Balance at June 30, 2016
|
198,486
|
|
|
4,214
|
|
|
202,700
|
|
Goodwill added during the year
|
3,220
|
|
|
625
|
|
|
3,845
|
|
Other, primarily currency translation
|
34
|
|
|
(444
|
)
|
|
(410
|
)
|
Balance at June 30, 2017
|
$
|
201,740
|
|
|
$
|
4,395
|
|
|
$
|
206,135
|
|
During the first quarter of fiscal
2017
, the Company recorded an adjustment to the preliminary estimated fair value of intangible assets related to the HUB acquisition. The fair values of the customer relationships and trade names intangible assets were decreased by
$2,636
and
$584
, respectively, with a corresponding total increase to goodwill of
$3,220
. The changes to the preliminary estimated fair values resulted in a decrease to amortization expense of
$156
during fiscal
2017
, which is recorded in selling, distribution and administrative expense on the statements of consolidated income.
On July 1, 2016, the Company enacted a change in its management reporting structure which changed the composition of the Canada service center reporting unit. This triggering event required the Company to perform an interim goodwill impairment test for the Canada service center reporting unit. The Company performed step one of the goodwill impairment test for the Canada service center reporting unit as of July 1, 2016 and determined that the reporting unit had excess fair value of approximately
$8,000
or
5%
when compared to its carrying amount of approximately
$163,000
.
In conjunction with this management change,
$2,628
of goodwill was reallocated from the Canada service center reporting unit to the U.S. service center reporting unit based on the relative fair value as of July 1, 2016.
The Company has six (
6
) reporting units for which an annual goodwill impairment assessment was performed as of January 1, 2017. The Company concluded that all of the reporting units’ fair value exceeded their carrying amounts by at least
20%
as of January 1, 2017. The fair values of the reporting units in accordance with the goodwill impairment test were determined using the Income and Market approaches. The Income approach employs the discounted cash flow method reflecting projected cash flows expected to be generated by market participants and then adjusted for time value of money factors. The Market approach utilizes an analysis of comparable publicly traded companies.
The Company had seven (
7
) reporting units for which an annual goodwill impairment assessment was performed as of January 1, 2016. The Company concluded that five (
5
) of the reporting units’ fair value substantially exceeded their carrying amounts. The carrying value for two (
2
) reporting units (Canada service center and Australia/New
Zealand service center) exceeded the fair value, indicating there may be goodwill impairment. The fair values of the reporting units in accordance with step one of the goodwill impairment test were determined using the Income and Market approaches.
Step two of the goodwill impairment test compares the fair value of the reporting unit goodwill with the carrying amount of goodwill. The implied fair value of goodwill is determined in the same manner as in a business combination. The fair value of the reporting unit from step one is allocated to all of the assets and liabilities of the reporting unit, including unrecognized intangible assets, as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the purchase price paid to acquire the reporting unit.
Step two of the goodwill impairment test for the Canada service center reporting unit was completed in the third quarter of fiscal 2016. The analysis resulted in a goodwill impairment of
$56,022
for the Canada service center reporting unit. The non-cash impairment charge was the result of the overall decline in the industrial economy in Canada coupled with the substantial and sustained decline in the oil and gas sector during calendar year 2015. This led to reduced spending by customers and reduced revenue expectations. The uncertainty regarding the oil and gas industries and overall industrial economy in Canada also led the reporting unit to reduce expectations.
Step two of the goodwill impairment test for the Australia/New Zealand reporting unit was completed in the third quarter of fiscal 2016. The analysis concluded that all of the Australia/New Zealand reporting unit’s goodwill was impaired, and therefore the Company recorded a non-cash impairment expense of
$8,772
in the third quarter of fiscal 2016. The impairment charge was primarily the result of the decline in the mining and extraction industries in Australia, reduced spending by customers, and the effects of reduced revenue expectations.
The techniques used in the Company's impairment tests have incorporated a number of assumptions that the Company believes to be reasonable and to reflect known market conditions at the measurement dates. Assumptions in estimating future cash flows are subject to a degree of judgment. The Company makes all efforts to forecast future cash flows as accurately as possible with the information available at the measurement date. The Company evaluates the appropriateness of its assumptions and overall forecasts by comparing projected results of upcoming years with actual results of preceding years. Key Level 3 based assumptions relate to pricing trends, inventory costs, customer demand, and revenue growth. A number of benchmarks from independent industry and other economic publications were also used. Changes in future results, assumptions, and estimates after the measurement date may lead to an outcome where additional impairment charges would be required in future periods. Specifically, actual results may vary from the Company’s forecasts and such variations may be material and unfavorable, thereby triggering the need for future impairment tests where the conclusions may differ in reflection of prevailing market conditions. Further, continued adverse market conditions could result in the recognition of additional impairment if the Company determines that the fair values of its reporting units have fallen below their carrying values.
At
June 30, 2017
and
2016
, accumulated goodwill impairment losses subsequent to fiscal year 2002 totaled
$64,794
related to the Service Center Based Distribution segment and
$36,605
related to the Fluid Power Businesses segment.
The Company's identifiable intangible assets resulting from business combinations are amortized over their estimated period of benefit and consist of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2017
|
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net
Book Value
|
|
Finite-Lived Intangibles:
|
|
|
|
|
|
Customer relationships
|
$
|
235,009
|
|
|
$
|
102,414
|
|
|
$
|
132,595
|
|
Trade names
|
43,873
|
|
|
19,295
|
|
|
24,578
|
|
Vendor relationships
|
14,152
|
|
|
9,141
|
|
|
5,011
|
|
Non-competition agreements
|
3,788
|
|
|
2,410
|
|
|
1,378
|
|
Total Intangibles
|
$
|
296,822
|
|
|
$
|
133,260
|
|
|
$
|
163,562
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30, 2016
|
Amount
|
|
|
Accumulated
Amortization
|
|
|
Net
Book Value
|
|
Finite-Lived Intangibles:
|
|
|
|
|
|
Customer relationships
|
$
|
239,132
|
|
|
$
|
84,566
|
|
|
$
|
154,566
|
|
Trade names
|
44,430
|
|
|
16,099
|
|
|
28,331
|
|
Vendor relationships
|
14,042
|
|
|
8,003
|
|
|
6,039
|
|
Non-competition agreements
|
4,700
|
|
|
2,396
|
|
|
2,304
|
|
Total Intangibles
|
$
|
302,304
|
|
|
$
|
111,064
|
|
|
$
|
191,240
|
|
Amounts include the impact of foreign currency translation. Fully amortized amounts are written off.
Due to continued softness in the upstream oil and gas industry, management also assessed long-lived intangible assets related to the Reliance asset groups for impairment during the first and third quarters of fiscal 2017. For the assessment in the third quarter of fiscal 2017, the sum of the undiscounted cash flows exceeded the carrying values of the Reliance U.S. and Reliance Canada asset groups of
$15,657
and
$80,228
, respectively, by
149%
and
13%
, respectively, therefore, no impairment was recognized. Changes in future results, assumptions, and estimates after the measurement date may lead to an outcome where impairment charges would be required in future periods. Specifically, actual results may vary from the Company’s forecasts and such variations may be material and unfavorable, thereby triggering the need for future impairment tests where the conclusions may differ in reflection of prevailing market conditions. Further, continued adverse market conditions could result in the recognition of impairment if the Company determines that the fair values of its intangible assets have fallen below their carrying values.
Amortization of identifiable intangibles totaled
$24,371
,
$25,580
and $
25,797
in fiscal
2017
,
2016
and
2015
, respectively, and is included in selling, distribution and administrative expenses in the statements of consolidated income. Future amortization expense based on the Company’s identifiable intangible assets as of
June 30, 2017
is estimated to be
$22,500
for
2018
,
$20,700
for
2019
,
$18,900
for
2020
,
$17,400
for
2021
and
$15,100
for
2022
.
NOTE 5: DEBT
Revolving Credit Facility & Term Loan
In December 2015, the Company entered into a five-year credit facility with a group of banks expiring in
December 2020
. This agreement provides for a
$125,000
unsecured term loan and a
$250,000
unsecured revolving credit facility. Fees on this facility range from
0.09%
to
0.175%
per year based upon the Company's leverage ratio at each quarter end. Borrowings under this agreement carry variable interest rates tied to either LIBOR or prime at the Company’s discretion. At
June 30, 2017
and
June 30, 2016
, the Company had
$120,313
and
$123,438
, respectively, outstanding under the term loan. The Company had no outstanding balance under the revolver as of
June 30, 2017
and
$33,000
outstanding as of
June 30, 2016
. Unused lines under this facility, net of outstanding letters of credit of
$2,441
and
$2,707
to secure certain insurance obligations, totaled
$247,559
and
$214,293
at
June 30, 2017
and
June 30, 2016
, respectively, and are available to fund future acquisitions or other capital and operating requirements. The interest rate on the term loan was
2.25%
as of
June 30, 2017
and
1.5%
as of
June 30, 2016
. The weighted-average interest rate on the revolving credit facility outstanding was
1.44%
as of
June 30, 2016
.
Additionally, the Company had letters of credit outstanding with a separate bank, not associated with the revolving credit agreement, in the amount of
$2,698
as of
June 30, 2017
and
June 30, 2016
, respectively, in order to secure certain insurance obligations.
Other Long-Term Borrowings
At
June 30, 2017
and
June 30, 2016
, the Company had borrowings outstanding under its unsecured shelf facility agreement with Prudential Investment Management of
$170,000
. The "Series C" notes have a principal amount of
$120,000
and carry a fixed interest rate of
3.19%
, and are due in equal principal payments in July 2020, 2021, and 2022. The "Series D" notes have a principal amount of
$50,000
and carry a fixed interest rate of
3.21%
, and are due in equal principal payments in October 2019 and 2023. As of
June 30, 2017
,
$50,000
in additional financing was available under this facility.
In April 2014 the Company assumed
$2,359
of debt as a part of the headquarters facility acquisition. The
1.5%
fixed interest rate note is held by the State of Ohio Development Services Agency, maturing in May 2024. At
June 30, 2017
and
2016
,
$1,669
and
$1,896
was outstanding, respectively.
Unamortized debt issue costs of
$105
are included as a reduction of current portion of long-term debt on the consolidated balance sheets as of
June 30, 2017
and
June 30, 2016
. Unamortized debt issue costs of
$294
and
$399
are included as a reduction of long-term debt on the consolidated balance sheets as of
June 30, 2017
and
June 30, 2016
, respectively.
The table below summarizes the aggregate maturities of amounts outstanding under long-term borrowing arrangements for each of the next five years:
|
|
|
|
|
Fiscal Year
|
Aggregate Maturity
|
|
2018
|
$
|
4,919
|
|
2019
|
6,484
|
|
2020
|
33,051
|
|
2021
|
141,802
|
|
2022
|
40,245
|
|
Thereafter
|
65,481
|
|
Covenants
The revolving credit facility, the term loan agreement, and the unsecured shelf facility contain restrictive covenants regarding liquidity, net worth, financial ratios, and other covenants. At
June 30, 2017
, the most restrictive of these covenants required that the Company have net indebtedness less than 3.25 times consolidated income before, interest, taxes, depreciation and amortization. The Company was in compliance with all financial covenants at
June 30, 2017
.
NOTE 6: FAIR VALUE MEASUREMENTS
Marketable securities measured at fair value at
June 30, 2017
and
June 30, 2016
totaled
$10,481
and
$9,097
, respectively. The majority of these marketable securities are held in a rabbi trust for a non-qualified deferred compensation plan. The marketable securities are included in other assets on the consolidated balance sheets and their fair values were valued using quoted market prices (Level 1 in the fair value hierarchy).
As of
June 30, 2017
, the carrying value of the Company's fixed interest rate debt outstanding under its unsecured shelf facility agreement with Prudential Investment Management approximates fair value (Level 2 in the fair value hierarchy).
The revolving credit facility and the term loan contain variable interest rates and their carrying values approximate fair value (Level 2 in the fair value hierarchy).
NOTE 7: INCOME TAXES
Income Before Income Taxes
The components of income before income taxes are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
U.S.
|
$
|
154,472
|
|
|
$
|
139,960
|
|
|
$
|
152,618
|
|
Foreign
|
12,494
|
|
|
(60,982
|
)
|
|
23,253
|
|
Income before income taxes
|
$
|
166,966
|
|
|
$
|
78,978
|
|
|
$
|
175,871
|
|
Provision
The provision (benefit) for income taxes consists of:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Current:
|
|
|
|
|
|
Federal
|
$
|
26,456
|
|
|
$
|
45,226
|
|
|
$
|
52,861
|
|
State and local
|
4,692
|
|
|
6,349
|
|
|
6,884
|
|
Foreign
|
4,760
|
|
|
4,407
|
|
|
5,603
|
|
Total current
|
35,908
|
|
|
55,982
|
|
|
65,348
|
|
Deferred:
|
|
|
|
|
|
Federal
|
852
|
|
|
397
|
|
|
(3,799
|
)
|
State and local
|
535
|
|
|
(30
|
)
|
|
(153
|
)
|
Foreign
|
(4,239
|
)
|
|
(6,948
|
)
|
|
(1,009
|
)
|
Total deferred
|
(2,852
|
)
|
|
(6,581
|
)
|
|
(4,961
|
)
|
Total
|
$
|
33,056
|
|
|
$
|
49,401
|
|
|
$
|
60,387
|
|
During the fourth quarter of fiscal 2017, the Company recorded a net tax benefit of
$22,246
pertaining to a worthless stock deduction. The tax benefit of this deduction was based on the write-off of the Company's investment in one of its Canadian subsidiaries for US tax purposes reduced by
$1,019
of tax provided for a valuation allowance applicable to the related state deferred income tax asset.
The exercise of non-qualified stock appreciation rights and options during fiscal
2017
,
2016
and
2015
resulted in
$1,921
,
$212
and
$352
, respectively, of income tax benefits to the Company derived from the difference between the market and option price of the shares at the date of exercise and the fair value of the options on the grant date. Vesting of stock awards and other stock compensation in fiscal
2017
,
2016
and
2015
resulted in
$482
,
$(4)
and
$690
, respectively, of incremental income tax benefits (expense) over the amounts previously reported for financial reporting purposes. Due to the adoption of ASU 2016-09, the tax benefits for fiscal 2017 were recorded in income tax expense in the statements of consolidated income, while the fiscal 2016 and 2015 tax (expense) benefits were recorded in additional paid-in capital.
Effective Tax Rates
The following reconciles the U.S. federal statutory income tax rate to the Company’s effective income tax rate:
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Statutory income tax rate
|
35.0
|
%
|
|
35.0
|
%
|
|
35.0
|
%
|
Effects of:
|
|
|
|
|
|
State and local taxes
|
2.8
|
|
|
5.2
|
|
|
2.5
|
|
Worthless stock deduction
|
(13.9
|
)
|
|
—
|
|
|
—
|
|
Stock compensation
|
(1.4
|
)
|
|
—
|
|
|
—
|
|
Goodwill impairment
|
—
|
|
|
27.1
|
|
|
—
|
|
Foreign income taxes
|
(2.3
|
)
|
|
(3.0
|
)
|
|
(2.5
|
)
|
Deductible dividend
|
(0.4
|
)
|
|
(0.9
|
)
|
|
(0.5
|
)
|
Valuation allowance
|
0.3
|
|
|
0.5
|
|
|
0.5
|
|
Other, net
|
(0.3
|
)
|
|
(1.3
|
)
|
|
(0.7
|
)
|
Effective income tax rate
|
19.8
|
%
|
|
62.6
|
%
|
|
34.3
|
%
|
Consolidated Balance Sheets
Significant components of the Company’s deferred tax assets and liabilities are as follows:
|
|
|
|
|
|
|
|
|
June 30,
|
2017
|
|
|
2016
|
|
Deferred tax assets:
|
|
|
|
Compensation liabilities not currently deductible
|
$
|
26,873
|
|
|
$
|
25,992
|
|
Other expenses and reserves not currently deductible
|
11,601
|
|
|
11,650
|
|
Goodwill and intangibles
|
5,661
|
|
|
6,366
|
|
Foreign tax credit (expiring in years 2025-2026)
|
709
|
|
|
849
|
|
Net operating loss carryforwards (expiring in years 2018-2037)
|
5,729
|
|
|
4,960
|
|
Other
|
119
|
|
|
83
|
|
Total deferred tax assets
|
50,692
|
|
|
49,900
|
|
Less: Valuation allowance
|
(1,831
|
)
|
|
(1,347
|
)
|
Deferred tax assets, net of valuation allowance
|
48,861
|
|
|
48,553
|
|
Deferred tax liabilities:
|
|
|
|
Inventories
|
(7,447
|
)
|
|
(4,785
|
)
|
Goodwill and intangibles
|
(30,482
|
)
|
|
(33,353
|
)
|
Depreciation and differences in property bases
|
(10,122
|
)
|
|
(9,892
|
)
|
Total deferred tax liabilities
|
(48,051
|
)
|
|
(48,030
|
)
|
Net deferred tax assets
|
$
|
810
|
|
|
$
|
523
|
|
Net deferred tax assets are classified as follows:
|
|
|
|
Deferred tax assets
|
$
|
8,985
|
|
|
$
|
12,277
|
|
Other liabilities
|
(8,175
|
)
|
|
(11,754
|
)
|
Net deferred tax assets
|
$
|
810
|
|
|
$
|
523
|
|
Valuation allowances are provided against deferred tax assets where it is considered more-likely-than-not that the Company will not realize the benefit of such assets. The remaining net deferred tax asset is the amount management believes is more-likely-than-not of being realized. The realization of these deferred tax assets can be impacted by changes to tax laws, statutory rates and future income levels.
U.S. federal income taxes are provided on the portion of non-U.S. subsidiaries' income that is not considered to be permanently reinvested outside the U.S. and may be remitted to the U.S. At
June 30, 2017
, all undistributed earnings of non-U.S. subsidiaries are considered to be permanently reinvested and totaled approximately
$92,106
, for which no U.S. tax has been provided. Determination of the net amount of the unrecognized tax liability with respect to the distribution of these earnings is not practicable; however, foreign tax credits would be available to partially reduce U.S. income taxes in the event of a distribution.
In fiscal 2015,
$17,793
of cash was distributed by one of the Company's non-US subsidiaries as a non-taxable return of capital.
Unrecognized Income Tax Benefits
The Company and its subsidiaries file income tax returns in U.S. federal, various state, local and foreign jurisdictions. The following table sets forth the changes in the amount of unrecognized tax benefits for the years ended
June 30, 2017
,
2016
and
2015
:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Unrecognized Income Tax Benefits at beginning of the year
|
$
|
2,915
|
|
|
$
|
2,604
|
|
|
$
|
2,364
|
|
Current year tax positions
|
574
|
|
|
539
|
|
|
472
|
|
Prior year tax positions
|
259
|
|
|
—
|
|
|
—
|
|
Expirations of statutes of limitations
|
(189
|
)
|
|
(132
|
)
|
|
(160
|
)
|
Settlements
|
(26
|
)
|
|
(96
|
)
|
|
(72
|
)
|
Unrecognized Income Tax Benefits at end of year
|
$
|
3,533
|
|
|
$
|
2,915
|
|
|
$
|
2,604
|
|
Included in the balance of unrecognized income tax benefits at
June 30, 2017
,
2016
and
2015
are
$3,323
,
$2,691
and
$2,377
, respectively, of income tax benefits that, if recognized, would affect the effective income tax rate.
During
2017
,
2016
and
2015
, the Company recognized
$163
and
$127
and
$49
of expense, respectively, for interest and penalties related to unrecognized income tax benefits in its statements of consolidated income. The Company had a liability for penalties and interest of
$787
and
$625
as of
June 30, 2017
and
2016
, respectively. The Company does not anticipate a significant change to the total amount of unrecognized income tax benefits within the next twelve months.
The Company is subject to U.S. federal income tax examinations for the tax years 2014 through 2017 and to state and local income tax examinations for the tax years 2011 through 2017. In addition, the Company is subject to foreign income tax examinations for the tax years 2010 through 2017.
The Company’s unrecognized income tax benefits are included in other liabilities in the consolidated balance sheets since payment of cash is not expected within one year.
NOTE 8: SHAREHOLDERS’ EQUITY
Treasury Shares
At
June 30, 2017
,
596
shares of the Company’s common stock held as treasury shares were restricted as collateral under escrow arrangements relating to change in control and director and officer indemnification agreements.
Accumulated Other Comprehensive Income (Loss)
Changes in the accumulated other comprehensive income (loss) for the years ended June 30, 2017, 2016 and 2015, are comprised of the following amounts, shown net of taxes:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustment
|
|
|
Unrealized gain (loss) on securities available for sale
|
|
|
Postemployment benefits
|
|
|
Total accumulated other comprehensive (loss) income
|
|
Balance at July 1, 2014
|
$
|
989
|
|
|
$
|
21
|
|
|
$
|
(2,625
|
)
|
|
$
|
(1,615
|
)
|
Other comprehensive loss
|
(58,233
|
)
|
|
(25
|
)
|
|
(472
|
)
|
|
(58,730
|
)
|
Amounts reclassified from accumulated other comprehensive income (loss)
|
—
|
|
|
—
|
|
|
174
|
|
|
174
|
|
Net current-period other comprehensive loss
|
(58,233
|
)
|
|
(25
|
)
|
|
(298
|
)
|
|
(58,556
|
)
|
Balance at June 30, 2015
|
(57,244
|
)
|
|
(4
|
)
|
|
(2,923
|
)
|
|
(60,171
|
)
|
Other comprehensive loss
|
(24,441
|
)
|
|
(34
|
)
|
|
(1,215
|
)
|
|
(25,690
|
)
|
Amounts reclassified from accumulated other comprehensive income (loss)
|
—
|
|
|
—
|
|
|
315
|
|
|
315
|
|
Net current-period other comprehensive loss
|
(24,441
|
)
|
|
(34
|
)
|
|
(900
|
)
|
|
(25,375
|
)
|
Balance at June 30, 2016
|
(81,685
|
)
|
|
(38
|
)
|
|
(3,823
|
)
|
|
(85,546
|
)
|
Other comprehensive income
|
2,238
|
|
|
59
|
|
|
1,239
|
|
|
3,536
|
|
Amounts reclassified from accumulated other comprehensive income (loss)
|
—
|
|
|
—
|
|
|
308
|
|
|
308
|
|
Net current-period other comprehensive income
|
2,238
|
|
|
59
|
|
|
1,547
|
|
|
3,844
|
|
Balance at June 30, 2017
|
$
|
(79,447
|
)
|
|
$
|
21
|
|
|
$
|
(2,276
|
)
|
|
$
|
(81,702
|
)
|
Other Comprehensive Income (Loss)
Details of other comprehensive income (loss) are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
2016
|
|
2015
|
|
Pre-Tax Amount
|
|
|
Tax Expense
|
|
|
Net Amount
|
|
|
Pre-Tax Amount
|
|
|
Tax (Benefit) Expense
|
|
|
Net Amount
|
|
|
Pre-Tax Amount
|
|
|
Tax (Benefit) Expense
|
|
|
Net Amount
|
|
Foreign currency translation adjustments
|
$
|
2,238
|
|
|
$
|
—
|
|
|
$
|
2,238
|
|
|
$
|
(24,441
|
)
|
|
$
|
—
|
|
|
$
|
(24,441
|
)
|
|
$
|
(58,233
|
)
|
|
$
|
—
|
|
|
$
|
(58,233
|
)
|
Postemployment benefits:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Actuarial gain (loss) on remeasurement
|
2,038
|
|
|
799
|
|
|
1,239
|
|
|
(1,998
|
)
|
|
(783
|
)
|
|
(1,215
|
)
|
|
(776
|
)
|
|
(304
|
)
|
|
(472
|
)
|
Reclassification of actuarial losses and prior service cost into SD&A expense and included in net periodic pension costs
|
506
|
|
|
198
|
|
|
308
|
|
|
518
|
|
|
203
|
|
|
315
|
|
|
286
|
|
|
112
|
|
|
174
|
|
Unrealized gain (loss) on investment securities available for sale
|
91
|
|
|
32
|
|
|
59
|
|
|
(52
|
)
|
|
(18
|
)
|
|
(34
|
)
|
|
(38
|
)
|
|
(13
|
)
|
|
(25
|
)
|
Other comprehensive income (loss)
|
$
|
4,873
|
|
|
$
|
1,029
|
|
|
$
|
3,844
|
|
|
$
|
(25,973
|
)
|
|
$
|
(598
|
)
|
|
$
|
(25,375
|
)
|
|
$
|
(58,761
|
)
|
|
$
|
(205
|
)
|
|
$
|
(58,556
|
)
|
Net Income Per Share
Basic net income per share is based on the weighted-average number of common shares outstanding. Diluted net income per share includes the dilutive effect of potential common shares outstanding. Under the two-class method of computing net income per share, non-vested share-based payment awards that contain rights to receive non-forfeitable dividends are considered participating securities. The Company’s participating securities include RSUs and restricted stock awards. The Company calculated basic and diluted net income per share under both the treasury stock method and the two-class method. For the years presented there were no material differences in the net income per share amounts calculated using the two methods. Accordingly, the treasury stock method is disclosed below.
The following table presents amounts used in computing net income per share and the effect on the weighted-average number of shares of dilutive potential common shares:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Net Income
|
$
|
133,910
|
|
|
$
|
29,577
|
|
|
$
|
115,484
|
|
Average Shares Outstanding:
|
|
|
|
|
|
Weighted-average common shares outstanding for basic computation
|
39,013
|
|
|
39,254
|
|
|
40,892
|
|
Dilutive effect of potential common shares
|
391
|
|
|
212
|
|
|
295
|
|
Weighted-average common shares outstanding for dilutive computation
|
39,404
|
|
|
39,466
|
|
|
41,187
|
|
Net Income Per Share — Basic
|
$
|
3.43
|
|
|
$
|
0.75
|
|
|
$
|
2.82
|
|
Net Income Per Share — Diluted
|
$
|
3.40
|
|
|
$
|
0.75
|
|
|
$
|
2.80
|
|
Stock appreciation rights and options relating to
141
,
775
and
435
shares of common stock were outstanding at
June 30, 2017
,
2016
and
2015
, respectively, but were not included in the computation of diluted earnings per share for the fiscal years then ended as they were anti-dilutive.
NOTE 9: SHARE-BASED COMPENSATION
Share-Based Incentive Plans
Following approval by the Company's shareholders in October 2015, the 2015 Long-Term Performance Plan (the "2015 Plan") replaced the 2011 Long-Term Performance Plan. The 2015 Plan, which expires in 2020, provides for granting of SARs, stock options, stock awards, cash awards, and such other awards or combination thereof as the Executive Organization and Compensation Committee or, in the case of director awards, the Corporate Governance Committee of the Board of Directors (together referred to as the Committee) may determine to officers, other key employees and members of the Board of Directors. Grants are generally made at regularly scheduled committee
meetings. Compensation costs charged to expense under award programs paid (or to be paid) with shares (including SARs, stock options, performance shares, restricted stock, and RSUs) are summarized in the table below:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
SARs and options
|
$
|
1,891
|
|
|
$
|
1,543
|
|
|
$
|
1,610
|
|
Performance shares
|
1,331
|
|
|
446
|
|
|
836
|
|
Restricted stock and RSUs
|
2,298
|
|
|
2,078
|
|
|
2,015
|
|
Total compensation costs under award programs
|
$
|
5,520
|
|
|
$
|
4,067
|
|
|
$
|
4,461
|
|
Such amounts are included in selling, distribution and administrative expense in the accompanying statements of consolidated income. The total income tax benefit recognized in the statements of consolidated income for share-based compensation plans was
$4,848
,
$1,595
and
$1,749
for fiscal years
2017
,
2016
and
2015
, respectively. It has been the practice of the Company to issue shares from treasury to satisfy requirements of awards paid with shares.
The aggregate unrecognized compensation cost for share-based award programs with the potential to be paid at
June 30, 2017
are summarized in the table below:
|
|
|
|
|
|
|
June 30,
|
2017
|
|
|
Average Expected Period of Expected Recognition (Years)
|
SARs and options
|
$
|
2,893
|
|
|
2.6
|
Performance shares
|
3,910
|
|
|
1.7
|
Restricted stock and RSUs
|
2,149
|
|
|
1.9
|
Total unrecognized compensation costs under award programs
|
$
|
8,952
|
|
|
2.0
|
Cost of these programs will be recognized as expense over the weighted-average remaining vesting period of
2.0
years. The aggregate number of shares of common stock which may be awarded under the 2015 Plan is
2,500
; shares available for future grants at
June 30, 2017
were
2,021
.
Stock Appreciation Rights and Stock Options
The weighted-average assumptions used for SARs and stock option grants issued in fiscal
2017
,
2016
and
2015
are:
|
|
|
|
|
|
|
|
|
|
|
2017
|
|
|
2016
|
|
|
2015
|
|
Expected life, in years
|
4.8
|
|
|
4.4
|
|
|
4.7
|
|
Risk free interest rate
|
1.2
|
%
|
|
1.3
|
%
|
|
1.4
|
%
|
Dividend yield
|
2.5
|
%
|
|
2.5
|
%
|
|
2.5
|
%
|
Volatility
|
24.1
|
%
|
|
26.0
|
%
|
|
29.0
|
%
|
Per share fair value of SARs and stock options granted during the year
|
$7.97
|
|
$6.79
|
|
$9.53
|
The expected life is based upon historical exercise experience of the officers, other key employees and members of the Board of Directors. The risk free interest rate is based upon U.S. Treasury zero-coupon bonds with remaining terms equal to the expected life of the SARs and stock options. The assumed dividend yield has been estimated based upon the Company’s historical results and expectations for changes in dividends and stock prices. The volatility assumption is calculated based upon historical daily price observations of the Company’s common stock for a period equal to the expected life.
SARs are redeemable solely in Company common stock. The exercise price of stock option awards may be settled by the holder with cash or by tendering Company common stock.
A summary of SARs and stock options activity is presented below
:
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Weighted-Average
Exercise Price
|
|
Year Ended June 30, 2017
|
|
(Shares in thousands)
|
|
Outstanding, beginning of year
|
1,236
|
|
|
$
|
37.69
|
|
Granted
|
335
|
|
|
48.97
|
|
Exercised
|
(343
|
)
|
|
32.30
|
|
Forfeited
|
(10
|
)
|
|
42.69
|
|
Outstanding, end of year
|
1,218
|
|
|
$
|
42.26
|
|
Exercisable at end of year
|
585
|
|
|
$
|
38.44
|
|
Expected to vest at end of year
|
1,187
|
|
|
$
|
42.14
|
|
The weighted-average remaining contractual terms for SARs and stock options outstanding, exercisable, and expected to vest at
June 30, 2017
were
7.0
,
5.3
, and
6.9
years, respectively. The aggregate intrinsic values of SARs and stock options outstanding, exercisable, and expected to vest at
June 30, 2017
were
$20,456
$12,051
, and
$20,075
, respectively. The aggregate intrinsic value of the SARs and stock options exercised during fiscal
2017
,
2016
, and
2015
was
$8,396
,
$2,422
, and
$1,601
, respectively.
The total fair value of shares vested during fiscal
2017
,
2016
, and
2015
was
$1,788
,
$1,291
, and
$2,187
, respectively.
Performance Shares
Performance shares are paid in shares of Applied stock at the end of a
three
-year period provided the Company achieves goals established by the committee. The number of Applied shares payable will vary depending on the level of the goals achieved.
A summary of nonvested performance shares activity at
June 30, 2017
is presented below:
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Weighted-Average
Grant-Date
Fair Value
|
|
Year Ended June 30, 2017
|
|
(Shares in thousands)
|
|
Nonvested, beginning of year
|
37
|
|
|
$
|
46.01
|
|
Awarded
|
29
|
|
|
44.56
|
|
Vested
|
(14
|
)
|
|
50.39
|
|
Nonvested, end of year
|
52
|
|
|
$
|
43.99
|
|
The Committee set
three
one
-year goals for each of the 2017, 2016 and 2015 grants. Each fiscal year during the three-year term has its own separate goals, tied to the Company’s earnings before interest, tax, depreciation, and amortization (EBITDA) and after-tax return on assets (ROA). Achievement during any particular fiscal year is awarded and “banked” for payout at the end of the three-year term. Based upon the outstanding grants as of
June 30, 2017
, the maximum number of shares which could be earned in future periods was
91
.
Restricted Stock and Restricted Stock Units
Restricted stock award recipients are entitled to receive dividends on, and have voting rights with respect to their respective shares, but are restricted from selling or transferring the shares prior to vesting. Restricted stock awards vest over periods of
one
to
four
years. RSUs are grants valued in shares of Applied stock, but shares are not issued until the grants vest
one
to
four
years from the award date, assuming continued employment with Applied. Applied primarily pays dividend equivalents on RSUs on a current basis.
A summary of the status of the Company’s non-vested restricted stock and RSUs at
June 30, 2017
is
presented below:
|
|
|
|
|
|
|
|
|
Shares
|
|
|
Weighted-Average
Grant-Date
Fair Value
|
|
Year Ended June 30, 2017
|
|
(Share amounts in thousands)
|
|
Nonvested, beginning of year
|
118
|
|
|
$
|
43.56
|
|
Granted
|
47
|
|
|
52.91
|
|
Forfeitures
|
(4
|
)
|
|
44.27
|
|
Vested
|
(45
|
)
|
|
44.69
|
|
Nonvested, end of year
|
116
|
|
|
$
|
46.91
|
|
NOTE 10: BENEFIT PLANS
Retirement Savings Plan
Substantially all U.S. employees participate in the Applied Industrial Technologies, Inc. Retirement Savings Plan. Participants may elect 401(k) contributions of up to
50%
of their compensation, subject to Internal Revenue Code maximums. The Company partially matches 401(k) contributions by participants. The Company’s expense for matching of employees’ 401(k) contributions was
$6,677
,
$2,535
and
$3,156
during fiscal
2017
,
2016
and
2015
, respectively.
Deferred Compensation Plans
The Company has deferred compensation plans that enable certain employees of the Company to defer receipt of a portion of their compensation. Non-employee directors were able to defer receipt of director fees until January 1, 2015. The Company funded these deferred compensation liabilities by making contributions to rabbi trusts. Assets held in these rabbi trusts consist of investments in money market and mutual funds and Company common stock.
Post-employment Benefit Plans
The Company provides the following post-employment benefits which, except for the Qualified Defined Benefit Retirement Plan and Key Executive Restoration Plan, are unfunded:
Supplemental Executive Retirement Benefits Plan
The Company has a non-qualified pension plan to provide supplemental retirement benefits to certain officers. Benefits are payable and determinable at retirement based upon a percentage of the participant’s historical compensation. The Executive Organization and Compensation Committee of the Board of Directors froze participant benefits (credited service and final average earnings) and entry into the Supplemental Executive Retirement Benefits Plan (SERP) effective December 31, 2011.
Key Executive Restoration Plan
In fiscal 2012, the Company adopted the Key Executive Restoration Plan (KERP), a funded, non-qualified deferred compensation plan, to replace the SERP. The Company recorded
$289
,
$268
, and
$300
of expense associated with this plan in fiscal 2017, 2016, and 2015, respectively.
Qualified Defined Benefit Retirement Plan
The Company has a qualified defined benefit retirement plan that provides benefits to certain hourly employees at retirement. These employees do not participate in the Retirement Savings Plan. The benefits are based on length of service and date of retirement.
Salary Continuation Benefits
The Company has agreements with certain retirees of acquired companies to pay monthly retirement benefits through fiscal 2020.
Retiree Health Care Benefits
The Company provides health care benefits, through third-party policies, to eligible retired employees who pay a specified monthly premium. Premium payments are based upon current insurance rates for the type of coverage provided and are adjusted annually. Certain monthly health care premium payments are partially
subsidized by the Company. Additionally, in conjunction with a fiscal 1998 acquisition, the Company assumed the obligation for a post-retirement medical benefit plan which provides health care benefits to eligible retired employees at no cost to the individual.
The Company uses a June 30 measurement date for all plans.
The following table sets forth the changes in benefit obligations and plan assets during the year and the funded status for the post-employment plans at June 30:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension Benefits
|
|
Retiree Health Care Benefits
|
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Change in benefit obligation:
|
|
|
|
|
|
|
|
Benefit obligation at beginning of the year
|
$
|
26,605
|
|
|
$
|
29,994
|
|
|
$
|
2,235
|
|
|
$
|
2,144
|
|
Service cost
|
126
|
|
|
91
|
|
|
29
|
|
|
22
|
|
Interest cost
|
687
|
|
|
879
|
|
|
63
|
|
|
75
|
|
Plan participants’ contributions
|
—
|
|
|
—
|
|
|
69
|
|
|
60
|
|
Benefits paid
|
(1,562
|
)
|
|
(5,555
|
)
|
|
(237
|
)
|
|
(229
|
)
|
Amendments
|
—
|
|
|
—
|
|
|
(245
|
)
|
|
—
|
|
Actuarial (gain) loss during year
|
(1,445
|
)
|
|
1,196
|
|
|
(230
|
)
|
|
163
|
|
Benefit obligation at end of year
|
$
|
24,411
|
|
|
$
|
26,605
|
|
|
$
|
1,684
|
|
|
$
|
2,235
|
|
Change in plan assets:
|
|
|
|
|
|
|
|
Fair value of plan assets at beginning of year
|
$
|
6,737
|
|
|
$
|
7,185
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Actual gain (loss) on plan assets
|
578
|
|
|
(149
|
)
|
|
—
|
|
|
—
|
|
Employer contributions
|
776
|
|
|
5,256
|
|
|
168
|
|
|
169
|
|
Plan participants’ contributions
|
—
|
|
|
—
|
|
|
69
|
|
|
60
|
|
Benefits paid
|
(1,561
|
)
|
|
(5,555
|
)
|
|
(237
|
)
|
|
(229
|
)
|
Fair value of plan assets at end of year
|
$
|
6,530
|
|
|
$
|
6,737
|
|
|
$
|
—
|
|
|
$
|
—
|
|
Funded status at end of year
|
$
|
(17,881
|
)
|
|
$
|
(19,868
|
)
|
|
$
|
(1,684
|
)
|
|
$
|
(2,235
|
)
|
The amounts recognized in the consolidated balance sheets and in accumulated other comprehensive loss for the post-employment plans were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension Benefits
|
|
Retiree Health Care Benefits
|
June 30,
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Amounts recognized in the consolidated balance sheets:
|
|
|
|
|
|
|
|
Other current liabilities
|
$
|
2,814
|
|
|
$
|
741
|
|
|
$
|
220
|
|
|
$
|
220
|
|
Post-employment benefits
|
15,067
|
|
|
19,127
|
|
|
1,464
|
|
|
2,015
|
|
Net amount recognized
|
$
|
17,881
|
|
|
$
|
19,868
|
|
|
$
|
1,684
|
|
|
$
|
2,235
|
|
Amounts recognized in accumulated other comprehensive loss:
|
|
|
|
|
|
|
|
Net actuarial (loss) gain
|
$
|
(5,798
|
)
|
|
$
|
(8,234
|
)
|
|
$
|
1,167
|
|
|
$
|
1,119
|
|
Prior service cost
|
(35
|
)
|
|
(121
|
)
|
|
922
|
|
|
948
|
|
Total amounts recognized in accumulated other comprehensive loss
|
$
|
(5,833
|
)
|
|
$
|
(8,355
|
)
|
|
$
|
2,089
|
|
|
$
|
2,067
|
|
The following table provides information for pension plans with projected benefit obligations and accumulated benefit obligations in excess of plan assets:
|
|
|
|
|
|
|
|
|
|
Pension Benefits
|
June 30,
|
2017
|
|
|
2016
|
|
Projected benefit obligations
|
$
|
24,411
|
|
|
$
|
26,605
|
|
Accumulated benefit obligations
|
24,411
|
|
|
26,605
|
|
Fair value of plan assets
|
6,530
|
|
|
6,737
|
|
The net periodic costs (benefits) are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension Benefits
|
|
Retiree Health Care Benefits
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
|
2017
|
|
|
2016
|
|
|
2015
|
|
Service cost
|
$
|
126
|
|
|
$
|
91
|
|
|
$
|
97
|
|
|
$
|
29
|
|
|
$
|
22
|
|
|
$
|
53
|
|
Interest cost
|
687
|
|
|
879
|
|
|
896
|
|
|
63
|
|
|
75
|
|
|
95
|
|
Expected return on plan assets
|
(460
|
)
|
|
(491
|
)
|
|
(495
|
)
|
|
—
|
|
|
—
|
|
|
—
|
|
Recognized net actuarial loss (gain)
|
872
|
|
|
913
|
|
|
559
|
|
|
(181
|
)
|
|
(210
|
)
|
|
(87
|
)
|
Amortization of prior service cost
|
86
|
|
|
86
|
|
|
86
|
|
|
(271
|
)
|
|
(271
|
)
|
|
(272
|
)
|
Net periodic cost (benefits)
|
$
|
1,311
|
|
|
$
|
1,478
|
|
|
$
|
1,143
|
|
|
$
|
(360
|
)
|
|
$
|
(384
|
)
|
|
$
|
(211
|
)
|
The estimated net actuarial loss and prior service cost for the pension plans that will be amortized from accumulated other comprehensive income (loss) into net periodic benefit cost over the next fiscal year are
$424
and
$27
, respectively. The estimated net actuarial gain and income from prior service cost for the retiree health care benefits that will be amortized from accumulated other comprehensive income (loss) into net periodic benefit cost over the next fiscal year are
$155
and
$369
, respectively.
Assumptions
A discount rate is used to determine the present value of future payments. In general, the Company’s liability increases as the discount rate decreases and decreases as the discount rate increases. The Company computes a weighted-average discount rate taking into account anticipated plan payments and the associated interest rates from the Citigroup Pension Discount Yield Curve and the BPS&M Discount Curve. During fiscal 2015, the Society of Actuaries released a series of updated mortality tables resulting from recent studies measuring mortality rates for various groups of individuals. As of June 30, 2015, the Company adopted these mortality tables, which reflect improved trends in longevity and have the effect of increasing the estimate of benefits to be received by plan participants.
The weighted-average actuarial assumptions used to determine benefit obligations and net periodic benefit cost for the plans were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pension Benefits
|
|
Retiree Health Care Benefits
|
June 30,
|
2017
|
|
|
2016
|
|
|
2017
|
|
|
2016
|
|
Assumptions used to determine benefit obligations at year end:
|
|
|
|
|
|
|
|
Discount rate
|
2.8
|
%
|
|
2.3
|
%
|
|
3.3
|
%
|
|
3.3
|
%
|
Assumptions used to determine net periodic benefit cost:
|
|
|
|
|
|
|
|
Discount rate
|
2.3
|
%
|
|
3.0
|
%
|
|
2.9
|
%
|
|
4.0
|
%
|
Expected return on plan assets
|
7.0
|
%
|
|
7.0
|
%
|
|
N/A
|
|
|
N/A
|
|
The assumed health care cost trend rates used in measuring the accumulated benefit obligation for retiree health care benefits were
7.0%
as of
June 30, 2017
and
2016
, respectively, decreasing to
5.0%
by 2027.
A one-percentage point change in the assumed health care cost trend rates would have had the following effects as of
June 30, 2017
and for the year then ended:
|
|
|
|
|
|
|
|
|
|
One-Percentage Point
|
|
|
Increase
|
|
Decrease
|
Effect on total service and interest cost components of periodic expense
|
$
|
15
|
|
|
$
|
(12
|
)
|
Effect on post-retirement benefit obligation
|
159
|
|
|
(135
|
)
|
Plan Assets
The fair value of each major class of plan assets for the Company’s Qualified Defined Benefit Retirement Plan is valued using either quoted market prices in active markets for identical instruments; Level 1 in the fair value hierarchy, or other inputs that are observable, either directly or indirectly; Level 2 in the fair value hierarchy. Following are the fair values and target allocation as of June 30:
|
|
|
|
|
|
|
|
|
|
|
|
Target Allocation
|
|
Fair Value
|
|
|
|
2017
|
|
|
2016
|
|
Asset Class:
|
|
|
|
|
|
Equity* securities (Level 1)
|
40 – 70%
|
|
$
|
3,880
|
|
|
$
|
3,843
|
|
Debt securities (Level 2)
|
20 – 50%
|
|
2,538
|
|
|
2,759
|
|
Other (Level 1)
|
0 – 20%
|
|
112
|
|
|
135
|
|
Total
|
100%
|
|
$
|
6,530
|
|
|
$
|
6,737
|
|
*
Equity securities do not include any Company common stock.
The Company has established an investment policy and regularly monitors the performance of the assets of the trust maintained in conjunction with the Qualified Defined Benefit Retirement Plan. The strategy implemented by the trustee of the Qualified Defined Benefit Retirement Plan is to achieve long-term objectives and invest the pension assets in accordance with ERISA and fiduciary standards. The long-term primary objectives are to provide for a reasonable amount of long-term capital, without undue exposure to risk; to protect the Qualified Defined Benefit Retirement Plan assets from erosion of purchasing power; and to provide investment results that meet or exceed the actuarially assumed long-term rate of return. The expected long-term rate of return on assets assumption was developed by considering the historical returns and the future expectations for returns of each asset class as well as the target asset allocation of the pension portfolio.
Cash Flows
Employer Contributions
The Company expects to contribute
$2,820
to its pension benefit plans and
$190
to its retiree health care benefit plans in fiscal 2017. Contributions do not equal estimated future benefit payments as certain payments are made from plan assets
.
Estimated Future Benefit Payments
The following benefit payments, which reflect expected future service, as applicable, are expected to be paid in each of the next five years and in the aggregate for the subsequent five years:
|
|
|
|
|
|
|
|
|
During Fiscal Years
|
Pension Benefits
|
|
|
Retiree Health
Care Benefits
|
|
2018
|
$
|
3,200
|
|
|
$
|
190
|
|
2019
|
3,700
|
|
|
150
|
|
2020
|
3,800
|
|
|
130
|
|
2021
|
1,300
|
|
|
120
|
|
2022
|
1,300
|
|
|
110
|
|
2023 through 2027
|
4,400
|
|
|
480
|
|
NOTE 11: LEASES
The Company leases many service center and distribution center facilities, vehicles and equipment under non-cancelable lease agreements accounted for as operating leases. The minimum annual rental commitments under non-cancelable operating leases as of
June 30, 2017
are as follows:
|
|
|
|
|
During Fiscal Years
|
|
2018
|
$
|
29,000
|
|
2019
|
22,700
|
|
2020
|
15,300
|
|
2021
|
8,200
|
|
2022
|
5,300
|
|
Thereafter
|
14,600
|
|
Total minimum lease payments
|
$
|
95,100
|
|
Rental expense incurred for operating leases, principally from leases for real property, vehicles and computer equipment was
$35,900
in
2017
,
$37,300
in
2016
and
$39,300
in
2015
, and was classified within selling, distribution and administrative expenses on the statements of consolidated income.
The Company maintains lease agreements for many of the operating facilities of businesses it acquires from previous owners. In many cases, the previous owners of the business acquired become employees of Applied and occupy management positions within those businesses. The payments under lease agreements of this nature totaled
$2,400
,
$3,800
,
$3,100
and in fiscal 2017, 2016 and 2015, respectively.
NOTE 12: SEGMENT AND GEOGRAPHIC INFORMATION
The Company's reportable segments are: Service Center Based Distribution and Fluid Power Businesses. These reportable segments contain the Company's various operating segments which have been aggregated based upon similar economic and operating characteristics. The Service Center Based Distribution segment provides customers with solutions to their maintenance, repair and original equipment manufacturing needs through the distribution of industrial products including bearings, power transmission components, fluid power components and systems, industrial rubber products, linear motion products, tools, safety products, and other industrial and maintenance supplies. The Fluid Power Businesses segment distributes fluid power components and operates shops that assemble fluid power systems and components, performs equipment repair, and offers technical advice to customers.
The accounting policies of the Company’s reportable segments are generally the same as those described in note 1. Intercompany sales, primarily from the Fluid Power Businesses segment to the Service Center Based Distribution segment of
$23,704
,
$21,485
, and
$24,087
, in fiscal
2017
,
2016
, and
2015
, respectively, have been eliminated in the following table.
Segment Financial Information
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Service Center
Based Distribution
|
|
|
Fluid Power
Businesses
|
|
|
Total
|
|
Year Ended June 30, 2017
|
|
|
|
|
|
Net sales
|
$
|
2,119,904
|
|
|
$
|
473,842
|
|
|
$
|
2,593,746
|
|
Operating income for reportable segments
|
111,357
|
|
|
51,006
|
|
|
162,363
|
|
Assets used in the business
|
1,153,411
|
|
|
234,184
|
|
|
1,387,595
|
|
Depreciation and amortization of property
|
14,010
|
|
|
1,296
|
|
|
15,306
|
|
Capital expenditures
|
14,497
|
|
|
2,548
|
|
|
17,045
|
|
Year Ended June 30, 2016
|
|
|
|
|
|
Net sales
|
$
|
2,087,041
|
|
|
$
|
432,387
|
|
|
$
|
2,519,428
|
|
Operating income for reportable segments
|
109,491
|
|
|
40,794
|
|
|
150,285
|
|
Assets used in the business
|
1,123,597
|
|
|
188,428
|
|
|
1,312,025
|
|
Depreciation and amortization of property
|
14,595
|
|
|
1,371
|
|
|
15,966
|
|
Capital expenditures
|
12,227
|
|
|
903
|
|
|
13,130
|
|
Year Ended June 30, 2015
|
|
|
|
|
|
Net sales
|
$
|
2,254,768
|
|
|
$
|
496,793
|
|
|
$
|
2,751,561
|
|
Operating income for reportable segments
|
140,421
|
|
|
48,535
|
|
|
188,956
|
|
Assets used in the business
|
1,228,131
|
|
|
204,425
|
|
|
1,432,556
|
|
Depreciation and amortization of property
|
15,196
|
|
|
1,382
|
|
|
16,578
|
|
Capital expenditures
|
13,531
|
|
|
1,402
|
|
|
14,933
|
|
ERP related assets are included in assets used in the business and capital expenditures within the Service Center Based Distribution segment. Within the geographic disclosures, these assets are included in the United States. Expenses associated with the ERP are included in the Corporate and other income, net, line in the reconciliation of operating income for reportable segments to the consolidated income before income taxes table below.
A reconciliation of operating income for reportable segments to the consolidated income before income
taxes
is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Operating income for reportable segments
|
$
|
162,363
|
|
|
$
|
150,285
|
|
|
$
|
188,956
|
|
Adjustments for:
|
|
|
|
|
|
Intangible amortization — Service Center Based Distribution
|
18,669
|
|
|
19,595
|
|
|
19,561
|
|
Intangible amortization — Fluid Power Businesses
|
5,702
|
|
|
5,985
|
|
|
6,236
|
|
Goodwill Impairment — Service Center Based Distribution
|
—
|
|
|
64,794
|
|
|
—
|
|
Corporate and other income, net
|
(36,598
|
)
|
|
(28,890
|
)
|
|
(21,460
|
)
|
Total operating income
|
174,590
|
|
|
88,801
|
|
|
184,619
|
|
Interest expense, net
|
8,541
|
|
|
8,763
|
|
|
7,869
|
|
Other (income) expense, net
|
(917
|
)
|
|
1,060
|
|
|
879
|
|
Income before income taxes
|
$
|
166,966
|
|
|
$
|
78,978
|
|
|
$
|
175,871
|
|
Fluctuations in corporate and other (income) expense, net, are due to changes in corporate expenses, as well as in the amounts and levels of certain supplier support benefits and expenses being allocated to the segments. The expenses being allocated include corporate charges for working capital, logistics support and other items.
Product Category
Net sales by product category are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Industrial
|
$
|
1,855,437
|
|
|
$
|
1,836,484
|
|
|
$
|
2,013,447
|
|
Fluid power
|
738,309
|
|
|
682,944
|
|
|
738,114
|
|
Net sales
|
$
|
2,593,746
|
|
|
$
|
2,519,428
|
|
|
$
|
2,751,561
|
|
The fluid power product category includes sales of hydraulic, pneumatic, lubrication and filtration components and systems, and repair services through the Company’s Fluid Power Businesses segment as well as the Service Center Based Distribution segment.
Geographic Information
Net sales are presented in geographic areas based on the location of the facility shipping the product. Long-lived assets are based on physical locations and are comprised of the net book value of property and intangible assets. Information by geographic area is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Net Sales:
|
|
|
|
|
|
United States
|
$
|
2,182,552
|
|
|
$
|
2,117,485
|
|
|
$
|
2,238,263
|
|
Canada
|
251,999
|
|
|
257,797
|
|
|
358,580
|
|
Other Countries
|
159,195
|
|
|
144,146
|
|
|
154,718
|
|
Total
|
$
|
2,593,746
|
|
|
$
|
2,519,428
|
|
|
$
|
2,751,561
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Long-Lived Assets:
|
|
|
|
|
|
United States
|
$
|
207,126
|
|
|
$
|
225,538
|
|
|
$
|
217,597
|
|
Canada
|
57,947
|
|
|
66,304
|
|
|
76,565
|
|
Other Countries
|
6,558
|
|
|
7,163
|
|
|
9,113
|
|
Total
|
$
|
271,631
|
|
|
$
|
299,005
|
|
|
$
|
303,275
|
|
Other countries consist of Mexico, Australia, New Zealand, and Singapore.
NOTE 13: COMMITMENTS AND CONTINGENCIES
The Company is a party to various pending judicial and administrative proceedings. Based on circumstances currently known, the Company believes the likelihood is remote that the ultimate resolution of any of these matters will have, either individually or in the aggregate, a material adverse effect on the Company’s consolidated financial position, results of operations, or cash flows.
NOTE 14: OTHER (INCOME) EXPENSE, NET
Other (income) expense, net, consists of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended June 30,
|
2017
|
|
|
2016
|
|
|
2015
|
|
Unrealized gain on assets held in rabbi trust for a non-qualified deferred compensation plan
|
$
|
(1,188
|
)
|
|
$
|
(87
|
)
|
|
$
|
(442
|
)
|
Foreign currency transaction losses
|
209
|
|
|
1,039
|
|
|
1,251
|
|
Other, net
|
62
|
|
|
108
|
|
|
70
|
|
Total other (income) expense, net
|
$
|
(917
|
)
|
|
$
|
1,060
|
|
|
$
|
879
|
|
NOTE 15: SUBSEQUENT EVENTS
We have evaluated events and transactions occurring subsequent to
June 30, 2017
through the date the financial statements were issued.
On July 3, 2017, the Company acquired
100%
of the outstanding stock of DICOFASA, located in Puebla, Mexico, for a purchase price of approximately
$5,898
. The Company funded this acquisition using available cash. As a distributor of accessories and components for hydraulic systems and lubrication, this business will be included in the Fluid Power Businesses Segment.
QUARTERLY OPERATING RESULTS
(In thousands, except per share amounts)
(UNAUDITED)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Per Common Share
|
|
Net Sales
|
|
|
Gross Profit
|
|
|
Operating Income
|
|
|
Net Income
|
|
|
Net Income
|
|
|
Cash Dividend
|
|
2017
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter
|
$
|
624,848
|
|
|
$
|
178,330
|
|
|
$
|
43,218
|
|
|
$
|
27,371
|
|
|
$
|
0.70
|
|
|
$
|
0.28
|
|
Second Quarter
|
608,123
|
|
|
172,456
|
|
|
37,656
|
|
|
24,085
|
|
|
0.61
|
|
|
0.28
|
|
Third Quarter
|
679,304
|
|
|
190,802
|
|
|
45,467
|
|
|
29,494
|
|
|
0.75
|
|
|
0.29
|
|
Fourth Quarter
|
681,471
|
|
|
196,107
|
|
|
48,249
|
|
|
52,960
|
|
|
1.34
|
|
|
0.29
|
|
|
$
|
2,593,746
|
|
|
$
|
737,695
|
|
|
$
|
174,590
|
|
|
$
|
133,910
|
|
|
$
|
3.40
|
|
|
$
|
1.14
|
|
2016
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter
|
$
|
641,904
|
|
|
$
|
181,012
|
|
|
$
|
41,026
|
|
|
$
|
24,291
|
|
|
$
|
0.61
|
|
|
$
|
0.27
|
|
Second Quarter
|
610,346
|
|
|
173,167
|
|
|
38,362
|
|
|
23,947
|
|
|
0.61
|
|
|
0.27
|
|
Third Quarter
|
633,172
|
|
|
174,793
|
|
|
(33,032
|
)
|
|
(44,728
|
)
|
|
(1.14
|
)
|
|
0.28
|
|
Fourth Quarter
|
634,006
|
|
|
178,450
|
|
|
42,445
|
|
|
26,067
|
|
|
0.66
|
|
|
0.28
|
|
|
$
|
2,519,428
|
|
|
$
|
707,422
|
|
|
$
|
88,801
|
|
|
$
|
29,577
|
|
|
$
|
0.75
|
|
|
$
|
1.10
|
|
2015
|
|
|
|
|
|
|
|
|
|
|
|
First Quarter
|
$
|
702,325
|
|
|
$
|
194,932
|
|
|
$
|
46,165
|
|
|
$
|
29,122
|
|
|
$
|
0.70
|
|
|
$
|
0.25
|
|
Second Quarter
|
691,702
|
|
|
195,713
|
|
|
46,807
|
|
|
29,707
|
|
|
0.72
|
|
|
0.25
|
|
Third Quarter
|
679,994
|
|
|
187,363
|
|
|
43,772
|
|
|
28,610
|
|
|
0.70
|
|
|
0.27
|
|
Fourth Quarter
|
677,540
|
|
|
191,806
|
|
|
47,875
|
|
|
28,045
|
|
|
0.70
|
|
|
0.27
|
|
|
$
|
2,751,561
|
|
|
$
|
769,814
|
|
|
$
|
184,619
|
|
|
$
|
115,484
|
|
|
$
|
2.80
|
|
|
$
|
1.04
|
|
On
August 11, 2017
, there were 4,617 shareholders of record including 3,173 shareholders in the Applied Industrial Technologies, Inc. Retirement Savings Plan. The Company’s common stock is listed on the New York Stock Exchange. The closing price on
August 11, 2017
was $55.45 per share.
The sum of the quarterly per share amounts may not equal per share amounts reported for year-to-date. This is due to changes in the number of weighted shares outstanding and the effects of rounding for each period.
Cost of sales for interim financial statements are computed using estimated gross profit percentages which are adjusted throughout the year based upon available information. Adjustments to actual cost are primarily made based on periodic physical inventory and the effect of year-end inventory quantities on LIFO costs.
Fiscal 2017
During the fourth quarter of fiscal 2017, the Company recorded a non-routine tax benefit pertaining to a worthless stock tax deduction of $22.2 million, or $0.56 per share. This deduction is based on the write-off of its investment in one of its Canadian subsidiaries for U.S. tax purposes.
In fiscal 2017 reductions in U.S. inventories in the bearings pool resulted in liquidation of LIFO inventory quantities carried at lower costs prevailing in prior years. A portion of these reductions resulted from the scrapping of $6.0 million of bearings inventory which resulted in a similar amount of scrap expense being recognized in the fourth quarter of fiscal 2017. The overall impact of the fiscal 2017 LIFO layer liquidations increased gross profit by $9.4 million in the fourth quarter of fiscal 2017. The net benefit of the bearings products LIFO layer liquidation benefit, less the bearing product scrap expense was $3.4 million.
Fiscal 2016
During the third quarter of fiscal 2016, the Company recorded goodwill impairment of $64.8 million related to the Canada and Australia/New Zealand service center reporting units within the Service Center Based Distribution reportable segment. After taxes, the impairment had a negative impact on earnings of $63.8 million and reduced earnings per share by $1.62 per share.
During fiscal 2016, the Company incurred certain restructuring charges. During the third quarter, a reserve of $3.6 million was recorded within cost of sales for potential non-salable, non-returnable and excess inventory due to declining demand, primarily for Canada oil and gas operations. SD&A included expenses of $5.2 million during the fiscal year related to severance and facility consolidations, primarily for oil and gas operations. Total restructuring charges reduced gross profit for the year by $3.6 million, operating income by $8.8 million, net income by $6.2 million and earnings per share by $0.16.
During the fourth quarter of fiscal 2016, the Company realized LIFO layer liquidation benefits of $2.1 million from certain inventory quantity levels decreasing.
Fiscal 2015
During the fourth quarter of fiscal 2015, the Company recorded severance of $1.8 million. Also, we sold a building recognizing a gain of $1.5 million.
During the fourth quarter of fiscal 2015, income tax expense increased due to recording a valuation allowance against certain deferred tax assets for foreign jurisdictions of $1.0 million. Also, an increase of tax rates in certain foreign jurisdictions at the end of the fiscal period increased tax expense by $1.2 million during the quarter.
No LIFO layer liquidations took place during the year ended June 30, 2015.